ITEM 1.
BUSINESS
Our Business, Products and Services
We are a leading online service provider of live and on-demand Internet video, corporate audio and web communications and content management applications. We had approximately 101 full time employees as of September 30, 2013, with operations organized in two main operating groups:
·
Audio and Web Conferencing Services Group
·
Digital Media Services Group
Products and services provided by each of the groups are:
Audio and Web Conferencing Services Group
Our Audio and Web Conferencing Services Group consists of our Infinite Conferencing (“Infinite”) division, our Onstream Conferencing Corporation (“OCC”) division and our EDNet division. This group represented approximately 64.9% and 57.3% of our revenues for the years ended September 30, 2013 and 2012, respectively. These revenues are comprised primarily of network access and usage fees as well as the sale and rental of communication equipment.
Our Infinite division, which operates primarily from the New York City area, and our OCC division, which operates primarily from San Diego, California, provide “reservationless” and operator-assisted audio and web conferencing services.
Our EDNet division, which operates primarily from San Francisco, California, provides connectivity within the entertainment and advertising industries through its managed network, which encompasses production and post-production companies, advertisers, producers, directors, and talent.
Digital Media Services Group
Our Digital Media Services Group consists primarily of our Webcasting division and our DMSP (“Digital Media Services Platform”) division. The DMSP division includes the related UGC (“User Generated Content”) and Smart Encoding divisions. This group represented approximately 35.1% and 42.7% of our revenues for the years ended September 30, 2013 and 2012, respectively. These revenues are comprised primarily of fees for hosting/storage, search/retrieval and distribution/streaming of digital assets as well as encoding and production fees.
Our Webcasting division, which operates primarily from Pompano Beach, Florida, provides an array of corporate-oriented, web-based media services to the corporate market including live audio and video webcasting and on-demand audio and video streaming for any business, government or educational entity. This includes online webcasting services, a cost effective means for corporations to broadcast conference calls live, making them available to the investing public, the media and to anyone worldwide with Internet access. The Webcasting division also has a sales and production support office in New York City as well as additional production and back-up webcasting facilities in our San Francisco office. We market the webcasting services through a direct sales force and through channel partners, also known as resellers. Each webcast can be heard and/or viewed live, and then archived for replay, with an option for accessing the archived material through a company's own web site. These webcasts primarily communicate corporate earnings and other financial information; product launches and other marketing information; training, emergency or other information directed to employees; and corporate or other special events. As of October 1, 2013, the Webcasting division became responsible for sales of the MarketPlace365 service, which provides its customers with a Virtual Conference Center, which is a multiple event conference solution with integrated webcasting.
Our DMSP division, which operates primarily from Colorado Springs, Colorado provides an online, subscription based service that includes access to enabling technologies and features for our clients to acquire, store, index, secure, manage, distribute and transform these digital assets into saleable commodities. In December 2004 we completed our acquisition of an entity formerly named Onstream Media Corporation that we now identify as Acquired Onstream. Acquired Onstream was a development stage company founded in 2001 with the business objective of developing a feature rich digital asset management service and offering the service on a subscription basis over the Internet. This service was the initial version of what became the DMSP, which is comprised of four separate products - encoding, storage, search/retrieval and distribution. Although a limited version of the DMSP was released in November 2005, the first complete version of the DMSP, known as “Store and Stream”, was offered for sale to the general public since October 2006. In February 2009, we launched “Streaming Publisher”, a second version of the DMSP with additional functionality. Streaming Publisher is a stand-alone product based on a different architecture than Store and Stream and is a primary building block of the MarketPlace365 platform.
Our UGC division, which also operates as Auction Video, provides a video ingestion and flash encoder that can be used by our clients on a stand-alone basis or in conjunction with the DMSP. In March 2007 we completed the acquisition of Auction Video. The primary assets acquired included the video ingestion and flash transcoder as well as related technology and patents pending.
Our Smart Encoding division, which operates primarily from San Francisco, California, provides both automated and manual encoding and editorial services for processing digital media, using a set of coordinated technologies and processes that allow the quick and efficient online search, retrieval and streaming of this media, which can include photos, videos, audio, engineering specs, architectural plans, web pages, and many other pieces of business collateral.
Sales and Marketing
We use a variety of marketing methods, including our internal sales force, independent agents and channel partners, also known as resellers or distributors, to market our products and services. One key element of our marketing strategy has been to enter into distribution agreements with recognized leaders in each of the markets for our products and services. By offering our products and services in conjunction with the distributors’ products, we believe these distribution agreements enable us to take advantage of the particular distributors' existing marketing programs, sales forces and business relationships. Contracts with these distributors generally range from one to two years and may be terminable earlier based on certain contractual provisions.
We have expanded our marketing efforts during recent years to include targeted e-mail campaigns, trade show participation, advanced search engine optimization, pay-per-click, a public relations byline program and selected trade magazine advertising. We intend to continue these actions during the coming year.
No single customer has represented more than 10% of our consolidated revenues during the years ended September 30, 2013 or 2012.
Competition
We operate in highly competitive and rapidly changing business segments. We expect our competition to intensify. We compete with:
·
other web sites, Internet portals and Internet broadcasters to acquire and provide content to attract users;
·
video and audio conferencing companies and Internet business service broadcasters;
·
online services, other web site operators and advertising networks;
·
traditional media, such as television, radio and print; and
·
end-user software products.
Our webcasting products and services fall into two competitive areas: live or archived financial and fair-disclosure related conferences, and all other live or archived webcast productions for the corporate, financial, educational and government segments. In the financial conferences area, we compete with Accordent Technologies (Polycom), BT Conferencing, Intercall, MediaPlatform, Netbriefings, ON24, Premiere Global Services (PGi), PTEK Holdings, Shareholder.com, Sonic Foundry, Talkpoint, Thomson Financial Group, ViaVid, Viewcast, Wall Street Transcripts, WILink and others that offer live webcasts of quarterly earnings conference calls. This list includes entities that are currently active resellers of our services and not in significant competition with us, but could compete with us under certain circumstances. For other webcast production, we compete with other smaller geographically local entities. Our production services, however, have been in demand by some of our competitors, and from time to time we have provided services to these companies. The nature of the streaming media sector of the Internet market is highly interdependent while being competitive.
While there is competition for the provision of digital media services by our Digital Media Services Group, this is a relatively new product and environment with few established professional services providers. We believe that our approach of partnering with complimentary technology providers such as SAIC, Autonomy/Virage Application Services, Adobe Systems and Microsoft reduces the number of full-scale competitors in our markets. We also believe that our strategic offering of integrated webcasting, multi-screen encoding, intelligent syndication with broad spectrum video indexing services, all as part of a unified and scalable digital media platform (the DMSP) provides significant differentiation from our competitors. However, companies that compete in some portion of the digital media services market targeted by us include Akamai, Ascent Media, BrightCove, Edgecast, Kit Digital, Limelight, Maven Networks (Yahoo), Neulion, PermissionTV, Sonic Foundry, Telestream, thePlatform (Comcast), Twistage and VitalStream (Internap). There are video publishing platforms that compete with our DMSP, including those offered by ExtendMedia, Move Networks, Ooyala and others.
Competition for audio and web conferencing is primarily segregated between the low-cost, low-service offerings such as FreeConference.Com and other more high-end providers such as Arkadin, BT Conferencing, GoToMeeting, Intercall Conferencing, Premiere Global Services (PGi), ReadyTalk and WebEx. Our Infinite division services a niche market for audio and web conferencing services primarily for SMB (small to medium size) companies looking for superior customer service at an affordable rate. This division's niche also includes a growing demand for lead generation “webinars” (seminars presented via the Internet), which it addresses by offering a dedicated account manager to coordinate a customized solution for each event.
Competition for the audio and video networking services provided by our EDNet division is based upon the ability to provide equipment, connectivity and technical support for disparate audio communications systems and to provide interoperable compatibility for proprietary and off-the-shelf codecs. Due to the difficulty and expense of developing and maintaining private digital networks, bridging services, engineering availability and service quality, we believe that the number of audio networking competitors is small and will remain so. This division's advantage is the provision of a total solution including system design, isochronous (a data flow type used for streaming audio and video) connection or broadband connection sourcing, and custom software connectivity applications that include a comprehensive digital path for cinema, radio and television production transport. However, companies that compete in some portion of the audio products and services market targeted by us include Broadcast Supply Worldwide, DigiFon, Out of Hear, Source Elements and Telos Systems.
Government Regulation
Although existing laws governing issues such as property ownership, export or import restrictions, content, taxation, defamation and privacy may apply to Internet based activities, the majority of such laws was adopted before the widespread use and commercialization of the Internet and, as a result, may not contemplate or address the unique issues of the Internet and related technologies. Laws and regulations directly applicable to providers of Internet and related technologies cover issues such as broadcast license fees, copyrights, privacy, pricing, sales and other taxes and characteristics and quality of Internet services, but are in many instances unclear or unsettled. Furthermore, it is likely that new laws and regulations will be adopted in the United States and elsewhere that may be applicable to us in the above areas as well as the areas of content, network security, encryption and the use of key escrow, data and privacy protection, electronic authentication or "digital" signatures, illegal and harmful content, access charges and retransmission activities. Any new legislation or regulation or increased governmental enforcement of existing regulations may limit the growth of the Internet, increase our cost of doing business or increase our legal exposure, which could have a material adverse effect on our business, financial condition and results of operations.
A number of U.S. federal laws, including those referenced below, impact our business. The Digital Millennium Copyright Act (“DMCA”) is intended, in part, to limit the liability of eligible online service providers for listing or linking to third-party websites that include materials that infringe copyrights or other rights of others. Portions of the Communications Decency Act (“CDA”) are intended to provide statutory protections to online service providers who distribute third-party content. We rely on the protections provided by both the DMCA and the CDA in conducting our business. If these laws or judicial interpretations are changed to narrow their protections, we will be subject to greater risk of liability, our costs of compliance with these regulations or to defend litigation may increase, or our ability to operate certain lines of business may be limited.
Federal, state and international laws and regulations (including “Red Flag” regulations issued by the U.S. Federal Trade Commission in 2007 to curb identity theft) govern the collection, use, retention, sharing and security of data that we receive from and about our customers (and in some cases, their customers). Any failure, or perceived failure, by us to comply with these laws and regulations could result in proceedings or actions against us by governmental entities or others, which could potentially have an adverse effect on our business. Further, failure or perceived failure by us to comply with these laws and regulations could result in a loss of customer confidence in us which could adversely affect our business. In addition, various federal, state and foreign legislative or regulatory bodies may enact new or additional laws and regulations concerning privacy, data-retention and data-protection issues which could adversely impact our business.
By distributing content over the Internet, we face potential liability for claims based on the nature and content of the materials that we distribute, including claims for defamation, negligence or copyright, patent or trademark infringement, which claims have been brought, and sometimes successfully litigated, against Internet companies.
Our audio and video networking services are conducted primarily over telephone lines, which are heavily regulated by various Federal and other agencies. Although we believe that the responsibility for compliance with those regulations primarily falls on the local and long distance telephone service providers and not us, the Federal Communications Commission (FCC) issued an order in 2008 that requires conference calling companies to remit Universal Service Fund (USF) contribution payments on customer usage associated with audio conference calls. In addition, in 2011 the FCC announced its position that the 2008 order extended to audio bridging services provided using internet protocol (IP) technology and in April 2012 announced their intention to write additional rules and/or revised existing rules that may expand the business operations that are considered subject to USF contribution payments. While we believe that we have registered our operations appropriately with the FCC, including the filing of both quarterly and annual reports regarding the revenues derived from audio conference calling, and the remittance of USF contributions thereon, it is possible that our determination of the extent to which our operations are subject to USF could be challenged. However, we do not believe that the ultimate outcome of any such challenge would have a material adverse effect on our financial position or results of operations.
To protect our company from certain claims that may relate to the above matters, we maintain general liability (including umbrella coverage), professional liability and employment practices liability insurance. These insurances may not cover all potential claims of this type or may not be adequate to indemnify us for any liability to which we may be exposed. Any liability not covered by insurance or in excess of insurance coverage could have a material adverse effect on our business, results of operations and financial condition.
Intellectual Property
Our success depends in part on our ability to protect our intellectual property. To protect our proprietary rights, we rely generally on copyright, trademark and trade secret laws, confidentiality agreements with employees and third parties, and agreements with consultants, vendors and customers, although we have not signed such agreements in every case.
As part of our March 2007 acquisition of Auction Video, a pending United States patent was assigned to us covering certain aspects of uploading live webcam images. A parallel filing was done to protect these patent rights on an international basis, via the filing of a “Patent Cooperation Treaty Request”. We are currently pursuing the final approval of this patent application and in March 2008 retained the law firm of Hunton & Williams to assist in expediting the patent approval process and to help protect rights related to proprietary Onstream technology. In April 2008, we revised the original patent application primarily for the purpose of splitting it into two separate applications, which, while related, were being evaluated separately by the U.S. Patent and Trademark Office (“USPTO”).
With respect to the claims pending in the first of the two applications, the USPTO issued non-final rejections in August 2008, February 2009 and May 2009, as well as final rejections in January 2010 and June 2010. Our responses to certain of these rejections included modifications to certain claims made in the original patent application. In response to the latest rejection we filed a Notice of Appeal with the USPTO on November 22, 2010 and we filed an appeal brief with the USPTO on February 9, 2011. The USPTO filed an Examiner's Answer to the Appeal Brief on May 10, 2011, which repeated many of the previous reasons for rejection, and we filed a response to this filing on July 8, 2011. A decision will be made as to our appeal by a three member panel based on these filings, plus oral argument at a hearing which has been requested by us but a time not yet set. The expected timing of this decision is uncertain at this time, but generally would be expected to occur during calendar 2014.
With respect to the claims pending in the second of the two applications, the USPTO issued a non-final rejection in June 2011 (which was reissued in January 2012) and a final rejection in June 2012. With respect to the June 2012 rejection, we filed a pre-appeal brief conference request on September 7, 2012 and the USPTO responded on September 27, 2012 with a decision to proceed to appeal. We filed a Request for Continuing Examination with the USPTO on April 5, 2013, which the USPTO responded to on June 12, 2013 with a non-final rejection. Our response to that non-final rejection was filed on November 12, 2013, which the USPTO responded to on January 10, 2014 with a final rejection. Our response to this final rejection is due on or before April 10, 2014, without the payment of extension fees, or on or before July 10, 2014, with the payment of extension fees.
Regardless of the ultimate outcome, our management has determined that an adverse decision with respect to these patent applications would not have a material adverse effect on our financial position or results of operations.
Certain of the former owners of Auction Video, Inc. have an interest in proceeds that we may receive under certain circumstances in connection with these patents.
Despite such protections, a third party could, without authorization, copy or otherwise obtain and use our content. We can give no assurance that our agreements with employees, consultants and others who participate in development activities will not be breached, or that we will have adequate remedies for any breach, or that our trade secrets will not otherwise become known or independently developed by competitors.
We may pursue the registration of certain of our trademarks and service marks in the United States, although we have not secured registration of all our marks. In addition, the laws of some foreign countries do not protect our proprietary rights to the same extent as do the laws of the United States, and effective copyright, trademark and trade secret protection may not be available in such jurisdictions. In general, there can be no assurance that our efforts to protect our intellectual property rights through copyright, trademark and trade secret laws will be effective to prevent misappropriation of our content. Our failure or inability to protect our proprietary rights could materially adversely affect our business, financial condition and results of operations.
Employees
As of February 7, 2014 we had approximately 88 full time employees, of whom 52 were design, production and technical personnel, 19 were sales and marketing personnel and 17 were general, administrative and executive management personnel. None of the employees are covered by a collective bargaining agreement and our management considers relations with our employees to be good.
General
We were formed under the laws of the State of Florida in May 1993. Our executive offices are located at 1291 SW 29th Avenue, Pompano Beach, Florida 33069. Our telephone number at that location is (954) 917-6655.
ITEM 2.
ITEM 2.
PROPERTIES
We lease:
·
an approximately 16,500 square foot facility at 1291 SW 29th Street in Pompano Beach, Florida, which serves as our corporate headquarters and houses the majority of our webcasting activities. Our lease, which expired on September 15, 2013, provided for two percent (2%) annual increases, as well as one two-year renewal option, with a three percent (3%) rent increase in year one. We have notified the landlord of our exercise of the renewal option, although the landlord has not yet confirmed that we have met the conditions for such renewal. The current monthly base rental is approximately $20,100 (including our share of property taxes, insurance and other operating expenses incurred under the lease but excluding operating expenses such as electricity paid by us directly).
·
an approximately 4,700 square foot facility at 901 Battery Street, Suite 200 in San Francisco, which serves as administrative headquarters for the Smart Encoding division of the Digital Media Services Group, as well as the EDNet division of the Audio and Web Conferencing Services Group, and houses the centralized network hub for electronically bridging affiliate studios. In addition, the facility operates as a backup to Florida for webcasting operations. Our lease expires on July 31, 2015 and provides for one five-year renewal option at 95% of fair market value and also provides for early cancellation at any time after August 1, 2011 at our option, with six month notice and a payment of no more than approximately $14,000. The monthly base rental is approximately $10,100 (including month-to-month parking) with annual increases up to 5.1%.
·
an approximately 10,800 square foot facility at 100 Morris Avenue in Springfield, New Jersey, which houses the Infinite Conferencing audio and web conferencing operations. Our lease expires on October 31, 2018 and provides one five-year renewal option, with a rent increase of up to 10% but not to exceed fair market value at the time of renewal. The monthly base rental is approximately $17,700.
·
business offices located at 545 Fifth Avenue, New York City, New York. These offices total approximately 1,200 square feet and serve primarily for webcasting sales activities and backup to Florida-based webcasting operations. Our lease expires January 24, 2018 and provides one two-year renewal option at the greater of the fifth year rental or fair market value. The lease also provides for early cancellation at any time after forty-two months, at our option, with notice of no more than nine months and no less than six months plus a cancellation payment of approximately $22,000. The monthly base rental is approximately $8,100 with annual increases up to 2.8%.
·
small limited purpose office space in San Diego, California and Colorado Springs, Colorado, as well as equipment space at co-location or other equipment housing facilities in South Florida; Atlanta, Georgia; Jersey City, New Jersey; San Diego, Colorado Springs, Minnesota, Iowa and Texas.
ITEM 3.
ITEM 3.
LEGAL PROCEEDINGS
On November 26, 2013, Intella2 and its owner Paul Cohen filed a civil lawsuit in Florida naming Onstream Media Corporation, Onstream Conferencing Corporation and Infinite Conferencing as defendants. The action alleges breach of contract with respect to payment of certain components of the purchase price for the Intella2 acquisition and related commissions and seeks money damages as well as declaratory relief declaring Mr. Cohen’s related non-compete agreement with us unenforceable. On December 31, 2013 we filed our response to this lawsuit, which contained various objections to the lawsuit allegations as well as a number of counterclaims. In a January 9, 2014 court filing, Intella2 and Mr. Cohen stated that approximately $400,000 is now due and owing to them, although they also state that due to alleged lack of information they are unable to completely compute total damages. In a January 10, 2014 court filing, we stated that we have suffered at least $550,000 in known damages to date as a result of the conduct of Intella2 and Mr. Cohen as alleged in the counterclaims filed by us, although such damages are ongoing and subject to change based upon discovery. The court has entered an order requiring that the parties participate in mediation, with a deadline of July 11, 2014. A date for such mediation has not yet been set. We believe that the ultimate resolution of this litigation will not have a material impact on our financial position or results of operations and that any amounts ultimately payable by us will not be materially greater than the liabilities already accrued on our September 30, 2013 balance sheet.
We are involved in litigation and regulatory investigations arising in the ordinary course of business. While the ultimate outcome of these matters is not presently determinable, it is the opinion of our management that the resolution of these outstanding claims will not have a material adverse effect on our future financial position or results of 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 listed for trading on OTC Markets' OTCQB marketplace ("OTCQB"), under the symbol "ONSM." Effective October 22, 2012, our Board of Directors voluntarily decided to move the listing of our common stock from The NASDAQ Capital Market ("NASDAQ") to OTCQB.
On October 21, 2011, we received a letter from NASDAQ advising us that for the 30 consecutive trading days preceding the date of the notice, the bid price of our common stock had closed below the $1.00 per share minimum bid price required for continued listing on The NASDAQ Capital Market, pursuant to NASDAQ Listing Rule 5550(a)(2)(a) (the “Bid Price Rule”). The letter stated that we would be provided 180 calendar days, or until April 18th, 2012, to regain compliance with the Bid Price Rule, which deadline was subsequently extended on a one-time basis to October 15, 2012. To regain compliance, the closing bid price of our common stock would need to be at least $1.00 per share for a minimum of ten consecutive business days prior to that date.
The following table sets forth the high and low closing sale prices for our common stock as reported on NASDAQ or OTCQB, as applicable, for the period from October 1, 2011 through February 7, 2014. These prices do not include retail mark-ups, markdowns or commissions, and may not necessarily represent actual transactions.
On February 7, 2014, the last reported sale price of the common stock on OTCQB was $0.19 per share. As of February 7, 2014 there were approximately 542 shareholders of record of the common stock.
Dividend Policy
We have never declared or paid any cash dividends on our common stock. We currently expect to retain future earnings, if any, to finance the growth and development of our business. As of February 7, 2014, there are no preferred shares outstanding.
Recent Sales of Unregistered Securities
During October and November 2013 we issued partially secured promissory notes to three investors (the “Working Capital Notes”), with an initial aggregate outstanding balance of $620,000 bearing interest at 15% per annum. In connection with the above financing, we issued, or committed to issue, to the holders of Working Capital Notes an aggregate of 358,334 restricted common shares (the “Working Capital Shares”), which we have agreed to buy back, to the extent permitted by law, if the fair market value of the Working Capital Shares are not equal to at least $0.30 per share on the maturity dates of the Working Capital Notes. The above only applies to the extent the Working Capital Shares are still held by the noteholder on the applicable date and the buyback obligation only applies if the noteholder gives us notice and delivers the shares within fifteen days after the applicable maturity dates. In addition, we issued 100,000 restricted common shares in connection with a finders agreement related to this financing.
During the three months ended December 31, 2013 we issued 241,502 unregistered common shares for professional IR and PR/marketing services valued at approximately $52,000, which will be recognized as professional fees expense over service periods of up to twelve months.
During January 2013 we received an aggregate of $150,000 pursuant to our issuance of two unsecured subordinated notes, bearing interest at 20% per annum. The principal plus accrued interest was payable in a single balloon payment in July 2013. In July 2013, accrued interest aggregating $15,000 was paid in cash and the maturity date of these notes was extended to January 2014. In January 2014 the maturity date of these notes was extended to October 2014 and the outstanding principal amount increased for the aggregate $15,000 of earned but unpaid interest. An aggregate of 240,000 restricted ONSM common shares with a fair market value at issuance of approximately $65,000 was issued to the lenders as an extension fee.
All of the above securities were offered and sold without such offers and sales being registered under the Securities Act of 1933, as amended (together with the rules and regulations of the Securities and Exchange Commission (the "SEC") promulgated thereunder, the "Securities Act"), in reliance on exemptions therefrom as provided by Section 4(2) of the Securities Act of 1933, for securities issued in private transactions. The recipients were accredited investors and the certificates evidencing the shares that were issued contained a legend restricting their transferability absent registration under the Securities Act of 1933 or the availability of an applicable exemption therefrom. The purchasers had access to business and financial information concerning our company. Each purchaser represented that he or she was acquiring the shares for investment purposes only, and not with a view towards distribution or resale except in compliance with applicable securities laws.
Securities Authorized for Issuance Under Equity Compensation Plans
The following table sets forth securities authorized for issuance under our 2007 Equity Incentive Plan, individual compensation arrangements and any other compensation plans as of September 30, 2013.
Plan Category
Number of securities
to be issued upon
exercise of
outstanding options,
warrants and rights
Weighted average
exercise price of
outstanding
options, warrants
and rights
Number of securities
remaining available for
future issuance under
equity compensation
plans (excluding
securities reflected in
column (a))
(a)
(b)
(c)
2007 Equity Incentive Plan (1)
538,499
$
1.85
1,008,738 (2)
Equity compensation plans approved by shareholders
None
None
None
Equity compensation plans not approved by shareholders (3)
358,333
$
2.16
None
(1)
On September 18, 2007, our Board of Directors and a majority of our shareholders adopted the 2007 Equity Incentive Plan (the “Plan”), which authorized the issuance of up to 1,000,000 shares of ONSM common stock pursuant to stock options, stock purchase rights, stock appreciation rights and/or stock awards for employees, directors and consultants. On March 25, 2010, our Board of Directors and a majority of our shareholders approved a 1,000,000 increase in the number of shares authorized for issuance under the Plan, for total authorization of 2,000,000 shares and on June 13, 2011 they authorized a further increase in authorized Plan shares by 2,500,000 to 4,500,000.
(2)
Based on the issuance of 2,877,763 common shares under the Plan (including the 2,500,000 Executive Incentive Shares issued during fiscal year 2013 as discussed in Item 11 - Executive Compensation) through September 30, 2013, 538,499 outstanding employee, consultant and director Plan Options as of September 30, 2013 and 75,000 outstanding consultant Plan Options as of September 30, 2013, there are 1,008,738 shares available for additional issuances under the Plan.
On February 20, 2013, we (as authorized by our Board of Directors) and the Executives agreed to implementation of an executive incentive compensation plan (the “Executive Incentive Plan”). Compensation under the Executive Incentive Plan would be in the form of Fully Restricted (as defined in the Executive Incentive Plan) ONSM common Plan shares (“Executive Incentive Shares”) and is based on the Company achieving certain financial objectives. Accomplishment of the objectives set out in the Executive Incentive Plan for fiscal 2014 through fiscal 2015 would result in an aggregate of 625,000 Executive Incentive Shares issued to the Executives as a group for each of those two years. A lesser amount of Executive Incentive Shares would be issuable for achievement for only one or two of the three objectives set for each year.
On January 14, 2011 our Compensation Committee awarded 983,700 four-year options under the provisions of the 2007 Plan. These options were issued to our directors, employees and consultants, vesting over two years and having an exercise price of $1.23 per share, fair market value on the date of the grant. In January 2011, our Compensation Committee approved (subject to our shareholders’ approval in the annual shareholder meeting on June 13, 2011 of sufficient additional authorized Plan shares, which approval was received) augmenting the above grant by an equal number of options issued to the same recipients, using the same strike price as the above grant, to the extent permitted by applicable law and subject to shareholder and/or any other required regulatory approvals. 145,201 of the pending option issuances relate to terminated directors, employees and consultants and in January 2013, the Compensation Committee and the Executives agreed on an Executive Incentive Plan which included provisions that were in lieu of issuing 450,000 of the pending options, as discussed in Item 11 - Executive Compensation. The Compensation Committee is in the process of finalizing the grant of the remaining 388,499 options.
(3)
During the fiscal years ended September 30, 2009 through 2011, we issued Non-Plan options to consultants in exchange for financial consulting and advisory services, 358,333 of which were still outstanding and fully vested as of September 30, 2013. These outstanding options are summarized below:
Issuance period
Number
of shares
Exercise price
per share
Expiration
Date
Year ended September 30, 2011
300,000
$1.50
March 2015
Year ended September 30, 2010
50,000
$6.00
July 2014
Year ended September 30, 2009
8,333
$3.00
Sept 2014
Total common shares underlying
Non-Plan consultant options
as of September 30, 2013
358,333
ITEM 7.
ITEM 7.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
The following discussion should be read together with the information contained in the Consolidated Financial Statements and related Notes included in the annual report.
Overview
We are a leading online service provider of live and on-demand corporate audio and web communications, virtual event technology and social media marketing, provided primarily to corporate (including large as well as small to medium sized businesses), education and government customers. We had approximately 88 full time employees as of February 7, 2014, with operations organized in two main operating groups:
·
Audio and Web Conferencing Services Group
·
Digital Media Services Group
Our Audio and Web Conferencing Services Group consists of our Infinite Conferencing (“Infinite”) division, our Onstream Conferencing Corporation (“OCC”) division and our EDNet division. Our Infinite division, which operates primarily from the New York City area, and our OCC division, which operates primarily from San Diego, California, provide “reservationless” and operator-assisted audio and web conferencing services. Our EDNet division, which operates primarily from San Francisco, California, provides connectivity (in the form of high quality audio, compressed video and multimedia data communications) within the entertainment and advertising industries through its managed network, which encompasses production and post-production companies, advertisers, producers, directors, and talent.
Our Digital Media Services Group consists primarily of our Webcasting division and our DMSP (“Digital Media Services Platform”) division. The DMSP division includes the related UGC (“User Generated Content”) and Smart Encoding divisions.
Our Webcasting division, which operates primarily from Pompano Beach, Florida and has a sales and support facility in New York City, provides an array of corporate-oriented, web-based media services to the corporate market including live audio and video webcasting and on-demand audio and video streaming for any business, government or educational entity. As of October 1, 2013, the Webcasting division became responsible for sales of the MarketPlace365 service. Our DMSP division, which operates primarily from Colorado Springs, Colorado, provides an online, subscription based service that includes access to enabling technologies and features for our clients to acquire, store, index, secure, manage, distribute and transform these digital assets into saleable commodities. Our UGC division, which also operates as Auction Video and operates primarily from Colorado Springs, Colorado, provides a video ingestion and flash encoder that can be used by our clients on a stand-alone basis or in conjunction with the DMSP. Our Smart Encoding division, which operates primarily from San Francisco, California, provides both automated and manual encoding and editorial services for processing digital media. This division also provides hosting, storage and streaming services for digital media, which are provided via the DMSP.
For segment information related to the revenue and operating income of these groups, see Note 7 to the Consolidated Financial Statements.
Recent Developments
Effective October 22, 2012, our Board of Directors voluntarily decided to move the listing of our common stock from The NASDAQ Capital Market ("NASDAQ") to OTC Markets' OTCQB marketplace ("OTCQB"). The Board of Directors’ voluntary decision to move the Company’s listing from NASDAQ to OTCQB was made following the detailed review of numerous factors including NASDAQ filing fees (versus OTCQB); the significant compliance obligations and restrictions that result from the maintenance of the NASDAQ listing, including the associated out-of-pocket costs (versus OTCQB); the effects of the Company's last reverse stock split; and the Board's determination that the Company would not be able to regain compliance with the NASDAQ minimum bid price rule before the October 15, 2012 deadline. Based on the foregoing factors, the Board of Directors did not believe there was continuing shareholder value in maintaining our listing on NASDAQ. However, the move to the OTCQB did not change our reporting obligations with the Securities and Exchange Commission under applicable federal securities laws. Accordingly, we have, and will continue to, file our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K.
On November 30, 2012 we acquired certain assets and operations of Intella2 Inc., a San Diego-based communications company (“Intella2”). The acquisition included a list of over 2,500 customers as well as software licenses, equipment and network infrastructure and a non-compete. The service capabilities acquired from Intella2 include audio conferencing, web conferencing, text messaging, and voicemail.
The total purchase price for the Intella2 assets and operations was determined to be approximately $1.4 million, of which we have paid approximately $713,000 in cash to Intella2 through September 30, 2013. The remaining portion of the purchase price, approximately $704,000, represents the present value of management’s estimate as of the date of that purchase of additional payments considered probable with respect to the remaining obligations incurred in connection with the Intella2 purchase. These payment obligations are based on eligible revenues (which exclude free conferencing business revenues and non-recurring revenues) for the twelve months ending November 30, 2013 as well as a percentage (between 50 and 70%) of the free conferencing business revenues, net of applicable expenses, from December 1, 2012 through November 30, 2017.
The acquired Intella2 operations have achieved positive operating cash flow through September 30, 2013, which we expect to continue for the foreseeable future, although we also incurred new term debt of approximately $1.3 million (net of term debt repayments and excluding advances under the Line and the USAC Note, which was a transfer from previously accrued liabilities) during the year ended September 30, 2013, of which approximately $800,000 was associated specifically or generally with this acquisition. In addition to this new financing, during the year ended September 30, 2013, we negotiated modifications of certain debts outstanding as of September 30, 2012, which resulted in balance sheet reclassifications from short-term (i.e., current) to long-term (i.e., non-current). These new financing transactions plus renegotiation of terms of already existing financing resulted in our issuance of 2,040,000 common shares for financing related fees during the year ended September 30, 2013, as well as our agreement to issue 225,000 additional common shares as an origination fee upon notice from the noteholder. In addition to cash repayments of term debts, during the year ended September 30, 2013 we also repaid $175,000 of Equipment Notes by the issuance of 583,334 common shares, also agreeing to reimburse any shortfall arising from the noteholders’ resale of those shares. We also issued an aggregate of 597,500 common shares during the year ended September 30, 2013 related to the conversion of all remaining outstanding Series A-13 and Series A-14 preferred shares.
During fiscal 2013, we issued an aggregate of 2.5 million fully restricted ONSM common shares to our five senior executives (the “Executives”) as a group, in connection with meeting certain financial objectives related to fiscal 2011 through fiscal 2013 as well as earned compensation for past service and in recognition that all options previously held by, or promised to, the Executives have been cancelled. During January 2013, we agreed to issue the Executives as a group an aggregate of 1.7 million fully vested common shares plus a cash payment of $100,000 in the connection with the satisfaction of unpaid salary due as well as other liabilities to certain of the Executives. Although the commitment to issue these shares was reflected in our fiscal 2013 financial statements, these shares have not been issued, nor the cash payment made, as of February 7, 2014.
During October and November 2013 we obtained aggregate net financing proceeds of approximately $246,000 from the issuance of partially secured promissory notes to three investors (the “Working Capital Notes”), with an initial aggregate outstanding balance of $620,000 bearing interest at 15% per annum. Working Capital Note payments are interest only during the first six months (in two quarterly payments), approximately 50% of the principal in equal monthly payments plus interest during the next eleven months and the remaining 50% of the principal balance due eighteen months after the Working Capital Note issuance date. The proceeds of the Working Capital Notes were used to repay $223,812 outstanding principal and interest due on notes previously issued by us. In addition, $125,000 in origination fees and $25,000 for a Funding Commitment Letter were deducted from the proceeds of the Working Capital Notes. In connection with the above financing, we issued, or committed to issue, to the holders of Working Capital Notes or in connection with a related finders agreement, an aggregate of 458,334 restricted common shares.
On February 6, 2014, we received a funding commitment letter (the “Funding Letter”) from J&C Resources, Inc. (“J&C”), agreeing to provide us, within twenty (20) days after our notice on or before December 31, 2014, aggregate cash funding of up to $800,000. This Funding Letter was obtained solely to demonstrate our ability to obtain short-term funds in the event other funding sources are not available, but does not represent any obligation to accept such funding on these terms and is not expected by us to be exercised. Cash provided under the Funding Letter would be in exchange for our issuance of (a) a note or notes with interest payable monthly at 15% per annum and principal payable on the earlier of a date twelve months from funding or July 1, 2015 and (b) 7.5 million unregistered common shares, which shares would be prorated in the case of partial funding. The note or notes would be unsecured and subordinated to all of our other debts, except to the extent such the terms of such debts would allow pari passu status.
On February 6, 2014, we executed a summary term sheet with Sigma Opportunity Fund II, LLC (“Sigma”), whereby Sigma agreed to provide us financing under the following terms, subject to mutually agreeable documentation and with both parties committing their best efforts to finalize the documentation and the transaction by February 28, 2014 (“Closing”):
· $500,000 (the “New Sigma Note”) would be funded to us at Closing and would be repayable by us on October 31, 2014. In addition, principal and interest payments otherwise due on the existing Sigma Note, starting with the December 31, 2013 payment and ending with the September 30, 2014 payment, would be deferred until the December 18, 2014 maturity date of the Sigma Note. Interest at 17% per annum will accrue on the new Sigma Note as well as the deferred payments under the existing Sigma Note, compounding monthly, and will be payable at the respective principal maturity dates.
· In connection with this new financing, we paid Sigma $10,000 for their legal fees at the time of signing the Sigma Term Sheet. Upon Closing, we will also owe Sigma fees of $142,857, of which $92,857 would be withheld at Closing from the gross proceeds of the New Sigma Note and the balance repaid at $10,000 per month commencing March 1, 2014. These fees will be due regardless of the early repayment of the Sigma Notes. At Closing, we will also issue Sigma 500,000 common shares. If the New Sigma Note (and all accrued interest) is not paid back by August 14, 2014, we will pay Sigma an additional $100,000 cash fee and issue 1.5 million common shares. If we sign a letter of intent for sale of any of our business units or subsidiaries and for related proceeds in excess of $2 million that Sigma approves in its sole but reasonable discretion, then the August 14, 2014 share issuance shall be 300,000 shares. If the 1.5 million shares are issued on August 14, 2014, but the New Sigma Note, the Sigma Note and any other amounts due to Sigma are paid by December 18, 2014, then Sigma shall return 1.1 million common shares.
In February 2014, Rockridge agreed, subject to the Closing of the Sigma Term Sheet, to accept a principal payment of $119,616 against the Rockridge Note (plus accrued interest), after which the outstanding principal balance would be $400,000. After that, we would pay interest at 12% per annum on a monthly basis until our repayment of the outstanding principal on October 14, 2014. We would also pay the outstanding principal upon our receipt of proceeds in excess of $5 million related to the sale of any of our business units or subsidiaries.
See Liquidity and Capital Resources for further details with respect to the financing transactions highlighted in this Recent Developments section.
Revenue Recognition
Revenues from recurring service are recognized when (i) persuasive evidence of an arrangement exists between us and the customer, (ii) the goods or service has been provided to the customer, (iii) the price to the customer is fixed or determinable and (iv) collectibility of the sales price is reasonably assured.
Our Audio and Web Conferencing Services Group recognizes revenue from audio and web conferencing as well as customer usage of digital telephone connections.
The Infinite and OCC divisions generally charge for audio conferencing and web conferencing services on a per-minute usage rate, although webconferencing services are also available for a monthly subscription fee allowing a certain level of usage. Audio conferencing and web conferencing revenue is recognized based on the timing of the customer’s use of those services. The EDNet division primarily generates revenue from customer usage of digital telephone connections controlled by them. EDNet purchases digital phone lines from telephone companies and sells access to the lines, as well as separate per-minute usage charges. Network usage and bridging revenue is recognized based on the timing of the customer’s usage of those services.
Our Digital Media Services Group recognizes revenues from the acquisition, editing, transcoding, indexing, storage and distribution of its customers’ digital media, as well as from live and on-demand internet webcasting and internet distribution of travel information.
The Webcasting division charges for live and on-demand webcasting at the time an event is accessible for streaming over the Internet. Charges to customers by the DMSP division are generally based on a monthly subscription fee, as well as charges for hosting, storage and professional services. Fees charged to customers for customized applications or set-up are recognized as revenue at the time the application or set-up is completed. Charges to customers by the Smart Encoding and UGC divisions are generally based on the activity or volumes of such media, expressed in megabytes or similar terms, and are recognized at the time the service is performed. This division also provides hosting, storage and streaming services for digital media, which are provided via the DMSP.
We include the DMSP and UGC divisions’ revenues, along with the Smart Encoding division’s revenues from hosting, storage and streaming, in the DMSP and Hosting revenue caption. We include the EDNet division’s revenues from equipment sales and rentals and the Smart Encoding division’s revenues from encoding and editorial services in the Other Revenue caption.
We add to our customer billings for certain services an amount to recover USF contributions which we have determined that we will be obligated to pay to the FCC, related to those particular services. This additional billing to our customers is not reflected as revenue by us, but rather is recorded as a liability on our books, which liability is relieved upon our remittance of USF contributions as they are billed to us by USAC, an administrative and collection agency of the FCC.
Results of Operations
Our consolidated net loss for the year ended September 30, 2013 was approximately $7.2 million ($0.39 loss per share) as compared to a net loss of approximately $2.6 million ($0.22 loss per share) for the prior fiscal year, an increase in our net loss of approximately $4.5 million (172.3%). The increased net loss was primarily due to a $1,650,000, or 300.0%, increase in impairment loss on goodwill and an approximately $1.0 million, or 173.6%, increase in compensation paid with common shares and other equity, both as compared to the prior fiscal year, and an approximately $1.0 million impairment loss on property and equipment during fiscal 2013, for which there was no corresponding expense in the prior fiscal year.
The Infinite goodwill was determined to be impaired as of September 30, 2013 and as a result, a $2.2 million adjustment was made to reduce the carrying value of that goodwill, which adjustment was reflected as an impairment loss on goodwill for the year ended September 30, 2013. This expense was $1,650,000 greater than the $550,000 impairment loss on goodwill recorded in the prior fiscal year related to the impairment of the Acquired Onstream goodwill.
During fiscal 2013 we issued the Executives as a group an aggregate of 2.5 million fully restricted ONSM common shares in connection with meeting certain financial objectives related to fiscal 2011 through fiscal 2013 as well as earned compensation for past service and in recognition that all options previously held by, or promised to, the Executives have been cancelled. The fair value of these shares, less the Black-Scholes value of the cancelled stock options as calculated immediately before their cancellation, resulted in a net amount of approximately $1.2 million that was reflected in our financial statements as non-cash compensation expense for the year ended September 30, 2013. Although we expect to continue compensating the Executives, as well as our employees, directors and consultants, with equity from time to time, we do not expect future issuances to result in this level of expense in a single year.
Based on the very limited revenues from MP365 over the past year, as well as our decisions that as of September 30, 2013 future development of MP365 would be very limited and that the MP365 division would be discontinued, with MP365 becoming a product offered by the webcasting division, we determined that it would be appropriate to evaluate the remaining carrying value of the former MP365 division’s assets, primarily the unamortized software development costs, for impairment. As a result of our analysis, we recognized a net impairment loss of $1.0 million for the year ended September 30, 2013, for which there was no corresponding expense in the prior fiscal year.
The following table shows, for the periods indicated, the percentage of revenue represented by items on our consolidated statements of operations.
The following table is presented to illustrate our discussion and analysis of our results of operations and financial condition. This table should be read in conjunction with the consolidated financial statements and the notes thereto.
Revenues and Gross Margin
Consolidated operating revenue was approximately $17.2 million for the year ended September 30, 2013, a decrease of approximately $941,000 (5.2%) from the corresponding period of prior fiscal year, due to decreased revenues of the Digital Media Services Group, partially offset by increased revenues of the Audio and Web Conferencing Services Group.
Digital Media Services Group revenues were approximately $6.0 million for the year ended September 30, 2013, a decrease of approximately $1.7 million (22.0%) from the prior fiscal year, primarily due to a decrease in webcasting division revenues as well as a decrease in DMSP and hosting division revenues.
Webcasting division revenues decreased by approximately $985,000 (16.6%) for the year ended September 30, 2013 as compared to the prior fiscal year. We produced approximately 4,800 webcasts during the year ended September 30, 2013, which was approximately 200 less than the number of webcasts produced in the prior fiscal year. Furthermore, because this was due to a decrease in the number of higher priced video events, the average revenue per webcast event of $1,070 for the year ended September 30, 2013 represented a decrease of $135, or 11.2%, from the prior fiscal year. The number of webcasts reported, as well as the resulting calculation of the average revenue per webcast event, does not include any webcast events attributed with $100 or less revenue, based on our determination that excluding such low-priced or even no-charge events increases the usefulness of this statistic. The average revenue per webcast also includes revenue billed by the webcasting division to its customers but purchased by the webcasting division from another Onstream division and thus included in that other division’s reported revenues.
We believe that our webcasting division revenues will be favorably impacted during fiscal 2014 by the comprehensive update to our webcasting platform (VW4), which we released in January 2013 and which we will be updating with a second release in June 2014. The first release of VW4 included the following new features: a “wizard” for creating new webcasting events, comprehensive social media integration, template-driven web pages and features, viewer-controlled webcast player layout, pre-created “themes” for professional-looking web pages with one click and an ad-hoc report generator for custom analytics. The second release of VW4 will include additional billing and reporting capabilities, enhanced CPE functionality, a live phone option and the ability to connect to third party encoders. We also expect to see increased webcasting sales as a result of our new Virtual Conference Center which is a multiple event conference solution with integrated webcasting.
DMSP and hosting division revenues also decreased by approximately $737,000 (43.4%) for the year ended September 30, 2013 as compared to the prior fiscal year. This decline was primarily related to the July 2012 loss of a single customer that we were providing streaming services to at very little margin, as part of a larger business relationship that is still in place. Therefore, the loss of this customer and the related revenues did not have a material impact on our net operating results.
Audio and Web Conferencing Services Group revenues were approximately $11.2 million for the year ended September 30, 2013, an increase of approximately $760,000 (7.3%) from the prior fiscal year. This increase was a result of the first ten months of revenues from the operations of our OCC division, after it acquired Intella2 Inc., a San Diego-based communications company (“Intella2”) on November 30, 2012. Our OCC division is being managed by our Infinite Conferencing division, which specializes in audio and web conferencing. The Intella2 acquisition included a list of over 2,500 customers as well as software licenses, equipment and network infrastructure and a non-compete. The service capabilities acquired from Intella2 include audio conferencing, web conferencing, text messaging, and voicemail. We recognized total revenues of approximately $1.1 million, including approximately $225,000 of free conferencing business revenues, from the first ten months of those operations included in our results for the year ended September 30, 2013.
The revenues of the Infinite division, which is included in the Audio and Web Conferencing Services Group, of approximately $8.0 million for the year ended September 30, 2013 represent a decrease of approximately $317,000 (3.8%) as compared to the prior fiscal year. This was due to a decrease in average revenue per minute, which was approximately 6.3 cents for the year ended September 30, 2013, as compared to approximately 7.0 cents for the prior fiscal year. This decrease in average revenue per minute was partially offset by a 7.1% increase in the number of minutes billed which was approximately 132 million for the year ended September 30, 2013, as compared to approximately 123 million minutes for the prior fiscal year. The average revenue per minute statistic includes auxiliary services and fees that are not billed to the customer on a per minute basis. The average revenue per minute also includes revenue billed by Infinite to its customers but purchased by Infinite from another Onstream division and thus included in that other division’s reported revenues. Although the decrease in average revenue per minute reflects our reactions to competitive pressures on the pricing side, we have been able to reduce our costs for the same reason.
As a result of a major storm system affecting the northeastern United States on October 29, 2012, our Infinite division’s primary operating office location in New Jersey was closed due to inaccessibility during the week ended November 2, 2012 and even after the office was re-opened, operating activities based in that office were restricted for several weeks thereafter. Although it is difficult to quantify the financial impact of this event, particularly with respect to lost revenue opportunities, we have submitted a business interruption insurance claim for approximately $100,000, although any reimbursement under that claim will be subject to final adjudication by our insurance carrier, based on the terms of our coverage, and that claim is still under review.
We believe that Infinite’s ongoing alliance with BT Conferencing to provide a jointly developed conferencing platform to Infinite’s reservationless client base, along with Infinite’s other sales initiatives, will favorably impact Infinite division revenues during fiscal 2014.
Because of our expectations with respect to our recent and anticipated introductions of several new or enhanced products, as well as our anticipated recognition of Intella2 revenues for twelve months in fiscal 2014 as compared to the ten months we recognized in fiscal 2013, we expect our consolidated fiscal 2014 revenues will exceed our consolidated fiscal 2013 revenues, although this cannot be assured.
Consolidated gross margin was approximately $12.2 million for the year ended September 30, 2013, an increase of approximately $133,000 (1.1%) from the prior fiscal year. Our consolidated gross margin percentage was 70.8% for the year ended September 30, 2013, versus 66.4% for the prior fiscal year. This was due to reductions in webcasting cost of sales (proportionally greater than the reduction in revenues) and the impact of the acquired Intella2 operations, as well as the discontinuance of a single low margin DMSP and hosting customer, all as discussed above.
During the period from June through November 2013 we renegotiated various supplier contracts representing approximately $331,000 in annualized savings, which we expect will cumulatively reduce our cost of sales and other general and administrative expenditures by approximately $242,000 for fiscal 2014 as compared to fiscal 2013.
Because of anticipated increased fiscal 2014 revenues as discussed above as well as anticipated cost savings in fiscal 2014 - those already implemented as discussed above as well as additional cost savings we believe that we could implement - we expect our consolidated fiscal 2014 gross margin will exceed our consolidated fiscal 2013 gross margin, although this cannot be assured.
Operating Expenses
Consolidated operating expenses were approximately $17.8 million for the year ended September 30, 2013, an increase of approximately $3.7 million (178.5%) from the prior fiscal year, primarily due to a $1,650,000, or 300.0%, increase in impairment loss on goodwill and an approximately $1.0 million, or 173.6%, increase in compensation paid with common shares and other equity, both as compared to the prior fiscal year, and an approximately $1.0 million impairment loss on property and equipment during fiscal 2013, for which there was no corresponding expense in the prior fiscal year.
The applicable accounting standards require that we perform periodic analysis to determine whether goodwill is potentially impaired and if so, the amount of such impairment. Our management performed such analysis, including discounted cash flow analysis, to estimate the enterprise fair value of ONSM and its reporting units. Our management determined the rates and assumptions, including the discount rates and the probability of future revenues and costs, used by it to perform these analyses, and also considered macroeconomic and other conditions. Based on such evaluation, the Infinite goodwill was determined to be impaired as of September 30, 2013 and as a result, a $2.2 million adjustment was made to reduce the carrying value of that goodwill, which adjustment was reflected as an impairment loss on goodwill for the year ended September 30, 2013. This expense was $1,650,000 greater than the $550,000 impairment loss on goodwill recorded in the prior fiscal year related to the impairment of the Acquired Onstream goodwill.
During fiscal 2013 we issued the Executives as a group an aggregate of 2.5 million fully restricted ONSM common shares in connection with meeting certain financial objectives related to fiscal 2011 through fiscal 2013 as well as earned compensation for past service and in recognition that all options previously held by, or promised to, the Executives have been cancelled. The fair value of these shares, less the Black-Scholes value of the cancelled stock options as calculated immediately before their cancellation, resulted in a net amount of approximately $1.2 million that was reflected in our financial statements as non-cash compensation expense for the year ended September 30, 2013. Although we expect to continue compensating the Executives, as well as our employees, directors and consultants, with equity from time to time, we do not expect future issuances to result in this level of expense in a single year.
In addition to the above, compensation expense (excluding equity) increased by approximately $653,000, or 9.0%, as compared to the prior fiscal year. The increased compensation expense was primarily a result of our November 30, 2012 acquisition of Intella2 and the related compensation expense of approximately $343,000 for those employees during the year ended September 30, 2013, versus no corresponding expense in the prior fiscal year. In addition, compensation expense recognized in connection with our software development group increased by approximately $150,000 for the year ended September 30, 2013, as compared to the prior fiscal year. Although there was not a material change in the total compensation for this group, there was a decrease in the percentage of their total compensation capitalized as an asset on our balance sheet, which resulted in a higher percentage being recognized as an operating expense.
Based on the very limited revenues from MP365 over the past year, as well as our decisions that as of September 30, 2013 future development of MP365 would be very limited and that the MP365 division would be discontinued, with MP365 becoming a product offered by webcasting division, we determined that it would be appropriate to evaluate the remaining carrying value of the former MP365 division’s assets, primarily the unamortized software development costs, for impairment. As a result of our analysis, we recognized a net impairment loss of $1.0 million for the year ended September 30, 2013, for which there was no corresponding expense in the prior fiscal year.
The above increases in operating expenses were partially offset by an approximately $764,000, or 39.0%, decrease in professional fee expense, which was primarily the result of (i) an approximately $317,000 savings from a consulting contract that we terminated in the second quarter of fiscal 2012 (and paid on through the end of fiscal 2012) and for which there was no corresponding contract thereafter and (ii) an approximately $225,000 decrease in the cost recognized for recurring services provided by another consultant, such decrease primarily arising from the lower market value per share for common shares issued to that consultant for services in fiscal 2013 as compared to the market value per share for common shares issued to that consultant for services in fiscal 2012.
During the period from June 2013 through January 2014 we made certain headcount reductions representing approximately $962,000 in annualized savings, which we expect will reduce our compensation and professional fee expenditures by approximately $822,000 in aggregate for fiscal 2014 as compared to 2013
Excluding the impact of non-cash compensation expense as well as the impact, if any, arising from any fiscal 2014 goodwill impairment charges, as well as increased general and administrative expenses related to the acquired Intella2 operations and any other increased revenues, we expect our consolidated operating expenses for fiscal year 2014 to be less than the corresponding fiscal 2013 amounts for the year as a whole, although this cannot be assured.
Other Expense
Other expense of approximately $1.6 million for the year ended September 30, 2013 represented an approximately $936,000 (152.1%) increase as compared to the prior fiscal year. This increase was in turn due to (i) an approximately $636,000, or 82.0%, increase in interest expense as compared to the prior fiscal year and (ii)a debt extinguishment loss of approximately $143,000, for which there was no corresponding expense during the prior fiscal year.
The approximately $636,000 increase in interest expense was primarily attributable to:
(i)
approximately $327,000 for the aggregate of cash and non-cash interest expense recognized during the year ended September 30, 2013 for the Sigma Note and other term financing we received during the period from January to June 2013, and for which there was no corresponding interest expense during the prior fiscal year,
(ii)
approximately $220,000 for the aggregate of cash and non-cash interest expense recognized during the year ended September 30, 2013 for certain financing directly or indirectly related to funding the portion of the Intella2 acquisition purchase price paid at the November 30, 2012 closing, and for which there was no corresponding interest expense during the prior fiscal year, and
(iii)
approximately $74,000 for accretion of the Intella2 purchase price, which was originally recorded at the present value of management’s estimate of total additional payments considered probable with respect to the remaining obligations incurred in connection with the Intella2 purchase. This accretion was reflected as interest expense on our statement of operations for the year ended September 30, 2013 and there was no corresponding expense during the prior fiscal year.
The above increases in interest expense were partially offset by decreases in interest arising from repayment of certain debts during fiscal 2013, including an approximately $125,000 decrease in the cash and non-cash interest expense recognized in connection with the Rockridge Note for the year ended September 30, 2013 as compared to the prior fiscal year.
The approximately $143,000 debt extinguishment loss arose from:
(i)
a December 2012 modification of the $350,000 Equipment Notes modifying the scheduled principal payment date from July 15, 2013 to payments of $100,000 on November 15, 2013, $150,000 on December 15, 2013 and $100,000 on December 31, 2013. Since we concluded that there was more than a 10% difference between the present value of the cash flows of the Equipment Notes after the December 12, 2012 modification and the present value of the cash flows under the payment terms in place one year earlier, under the provisions of ASC 470-50-40, the modified terms were considered substantially different and we were required to recognize a non-cash debt extinguishment loss in our statement of operations for the year ended September 30, 2013. A $68,600 debt extinguishment loss was calculated as the excess of the $399,000 acquisition cost of the new debt ($350,000 face value of the notes plus the $49,000 fair value of the 140,000 common shares issued in consideration of the modification) over the net carrying amount of the extinguished debt immediately before the modification, which was $330,400. The comparison of the present value of cash flows under the modified terms is normally done using the present value of cash flows under the terms existing immediately before the modification. However, under the provisions of ASC 470-50-40, if a modification was done less than a year ago that was not considered substantially different, then the comparison of current terms should be to the terms existing one year prior to the current modification,
(ii)
a March 2013 modification of a $100,000 note dated November 15, 2012, which principal balance was due on May 15, 2013, by its inclusion in the Fuse Note dated March 19, 2013. The Fuse Note is payable as follows: interest only (at 12% per annum) during the first year, approximately 30% of the principal plus interest during the second year and the remaining principal balance at the end of the second year. Since we concluded that there was more than a 10% difference between the present value of the cash flows of the November 15, 2012 note after its modification (by virtue of its inclusion in the Fuse Note dated March 19, 2013) versus the present value of the cash flows before the modification, under the provisions of ASC 470-50-40, the modified terms were considered substantially different and we were required to recognize a non-cash debt extinguishment loss in our statement of operations for the year ended September 30, 2013. A $31,170 debt extinguishment loss was calculated as the excess of the $126,000 acquisition cost of the new debt ($100,000 face value of the portion of the March 19, 2013 note replacing the November 15, 2012 note plus the $26,000 fair value of the corresponding pro-rata portion of the common shares issued in consideration of the modification) over the net carrying amount of the extinguished debt immediately before the modification, which was $94,830, and
(iii)
a March 2013 modification of one of the Intella2 Investor Notes, held by Fuse and having a $200,000 outstanding principal balance, to allow conversion of the principal balance into restricted common shares at Fuse’s option using a rate of $0.50 per share. Although there was no difference between the present value of the cash flows of the November 30, 2012 Intella2 Investor Note held by Fuse after its modification versus the present value of the cash flows before the modification, under the provisions of ASC 470-50-40, if a conversion feature added to an instrument is considered to be substantive, the modified terms are considered substantially different and extinguishment accounting is required. Since the ONSM closing price was greater than the $0.50 per share conversion price at times during the ninety days prior to granting such conversion feature (although the ONSM closing price was below $0.50 at the time the conversion feature was granted), we determined that it was at least reasonably possible that the conversion feature would be exercised and thus the conversion feature was determined to be substantive. Accordingly, we were required to recognize a $43,481 non-cash debt extinguishment loss in our statement of operations for the year ended September 30, 2013, which was calculated as the excess of the $200,000 acquisition cost of the new debt over the net carrying amount of the extinguished debt immediately before the modification, which was $156,519.
Liquidity and Capital Resources
For the year ended September 30, 2013, we had a net loss of approximately $7.2 million, although cash provided by operating activities for that period was approximately $504,000. Although we had cash of approximately $257,000 at September 30, 2013, we had a working capital deficit of approximately $4.1 million at that date.
We incurred new term debt of approximately $1.3 million (net of term debt repayments and excluding advances under the Line and the USAC Note, which was a transfer from previously accrued liabilities) during the year ended September 30, 2013, of which approximately $800,000 was associated specifically or generally with this acquisition. In addition to this new financing, during the year ended September 30, 2013, we negotiated modifications of certain debts outstanding as of September 30, 2012, which resulted in balance sheet reclassifications from short-term (i.e., current) to long-term (i.e., non-current). These new financing transactions plus renegotiation of terms of already existing financing resulted in our issuance of 2,040,000 common shares for financing related fees during the year ended September 30, 2013, as well as our agreement to issue 225,000 additional common shares as an origination fee upon notice from the noteholder. In addition to cash repayments of term debts, during the year ended September 30, 2013 we also repaid $175,000 of Equipment Notes by the issuance of 583,334 common shares, also agreeing to reimburse any shortfall arising from the noteholders’ resale of those shares. We also issued an aggregate of 597,500 common shares during the year ended September 30, 2013 related to the conversion of all remaining outstanding Series A-13 and Series A-14 preferred shares.
We are obligated under a Note (the “Rockridge Note”) issued to Rockridge Capital Holdings, LLC (“Rockridge”), an entity controlled by one of our largest shareholders, which had an outstanding principal balance of approximately $590,000 at September 30, 2013. The Rockridge Note is secured by a first priority lien on all of our assets, such lien subordinated only to the extent higher priority liens on assets, primarily accounts receivable and certain designated software and equipment, are held by certain of our other lenders. We also entered into a Security Agreement with Rockridge that contains certain covenants and other restrictions with respect to the collateral.
In accordance with an agreement reached with Rockridge in October 2013, the remaining principal balance outstanding under the Rockridge Note, as well as the related interest at 12% per annum, is payable in two (2) equal monthly installments of $21,322, commencing on October 14, 2013 plus nine (9) equal monthly installments of $45,322, commencing on December 14, 2013 plus a final payment of $188,989 due on September 14, 2014 (the “Maturity Date”). In February 2014, Rockridge agreed, subject to the Closing of the Sigma Term Sheet as discussed below, to accept a principal payment of $119,616 (plus accrued interest), after which the outstanding principal balance would be $400,000. After that, we would pay interest on a monthly basis until our repayment of the outstanding principal on October 14, 2014. We would also pay the outstanding principal upon our receipt of proceeds in excess of $5 million related to the sale of any of our business units or subsidiaries.
Upon notice from Rockridge at any time and from time to time prior to the Maturity Date, all or part of the outstanding principal amount of the Rockridge Note may be converted into a number of restricted shares of ONSM common stock. These conversions are subject to a minimum of one month between conversion notices (unless such conversion amount exceeds $25,000) and will use a conversion price of eighty percent (80%) of the fair market value of the average closing bid price for ONSM common stock for the twenty (20) days of trading on the OTCQB (or such other exchange or market on which ONSM common shares are trading) prior to such Rockridge notice, but such conversion price will not be less than $2.40 per share.
The Note and Stock Purchase Agreement with Rockridge calls for our issuance of an origination fee, upon not less than sixty-one (61) days written notice to us, of 591,667 restricted shares of our common stock (the “Shares”). The value of those Shares is subject to a limited guaranty of no more than an additional payment by us of $75,000 which will be effective in the event the Shares are sold for an average share price less than the minimum of $1.20 per share (the “Shortfall Payment”). The $61,000 present value of this obligation is recorded as a liability on our financial statements as of September 30, 2013. If the closing ONSM share price of $0.19 per share on February 7, 2014 was used as a basis of calculation, the required Shortfall Payment would be $75,000.
Including the fair market value of the Shares at the time they were recorded on our books, plus legal fees paid by us, the effective interest rate of the Rockridge Note was approximately 44.3% per annum, until a September 2009 amendment, when it was reduced to approximately 28.0% per annum, a December 2012 amendment, when it was increased to approximately 29.1% per annum, and the accrual of the Shortfall Payment, which increased it to approximately 31.1% per annum. These rates do not give effect to any difference between the sum of the value of the Shares at the time of issuance plus the Shortfall Payment, as compared to the assigned value of the Shares on our books, nor do they give effect to the discount from market prices that might be applicable if any portion of the principal is satisfied in common shares instead of cash.
In December 2007, we entered into a line of credit arrangement (the “Line”) with a financial institution (the “Lender”) under which we may presently borrow up to an aggregate of $2.0 million for working capital, collateralized by our accounts receivable and certain other related assets. Borrowings under the Line are subject to certain formulas with respect to the amount and aging of the underlying receivables. The outstanding balance (approximately $1.6 million as of September 30, 2013 and approximately $1.5 million as of February 7, 2014) bears interest at 12.0% per annum, adjustable based on changes in prime, plus a weekly monitoring fee of one twentieth of a percent (0.05%) of the borrowing limit.
Although the Line expired on December 27, 2013, we and the Lender have been actively working together to complete the documentation for the renewal of that Line and on January 13, 2014 we received a letter from the Lender confirming that they will be renewing the Line through December 31, 2015, with terms materially equivalent to the just expired Line. A commitment fee of $40,000, calculated as one percent (1%) per year of the maximum allowable borrowing amount, will be incurred for the two-year renewal of the Line, payable in two equal installments in January and December 2014.
The outstanding principal is due on demand in the event a payment default is uncured one (1) day after written notice. The outstanding principal balance due under the Line may be repaid by us at any time, and the term may be extended by us for an extra year, subject to compliance with all loan terms, including no material adverse change, as well as concurrence of the Lender.
The Line is also subject to us maintaining an adequate level of receivables, based on certain formulas, as well as our compliance with a quarterly debt service coverage covenant (the “Covenant”). The Covenant, which was applicable starting in the quarter ended March 31, 2012, requires that the sum of (i) our net income or loss, adjusted to remove all non-cash expenses as well as cash interest expense and (ii) contributions to capital (less cash distributions and/or cash dividends paid during such period) and proceeds from subordinated unsecured debt, be equal to or greater than the sum of cash payments for interest and debt principal payments. We have complied with this Covenant for all applicable quarters through September 30, 2013.
The terms of the Line require that all funds remitted by our customers in payment of receivables be deposited directly to a bank account owned by the Lender. Once those deposited funds become available, the Lender is then required to immediately remit them to our bank account, provided that we are not in default under the Line and to the extent those funds exceed any past due principal, interest or other payments due under the Line, which the Lender may offset before remitting the balance.
On March 21, 2013 (the “Sigma Closing”) we closed a transaction with Sigma Opportunity Fund II, LLC (“Sigma”), under which we would receive up to $800,000 pursuant to a senior secured note (“Sigma Note”) issued to Sigma and collateralized by all of our assets, subordinated only to security interests already held in connection with outstanding financings with Thermo Credit and Rockridge. Sigma remitted $600,000 (net of certain fees and expenses discussed below) to us at the Sigma Closing, and the funding of the remaining $200,000 (“Contingent Financing”) was subject to us meeting certain revenue and operating cash flow targets for either the three months ended June 30, 2013 or the six months ended September 30, 2013, as well as making all scheduled principal and interest payments on our indebtedness to Sigma and our other lenders.
On June 14, 2013, we amended the Sigma Note to provide that we would receive immediate additional funding of $345,000, which would be in lieu of the $200,000 Contingent Financing. Furthermore, this $345,000 would be subject to the same terms as the Contingent Financing, in that it would be repayable as a balloon payment due on December 18, 2014 and prior to repayment, along with the previous balloon payment of $50,000 for a total balloon payment of $395,000, would be convertible into restricted common shares, at Sigma’s option, using a conversion rate of $1.00 per share. After the amendment the total gross proceeds received under the Sigma Note was $945,000 and all other terms of the March 21, 2013 Sigma Note remained in effect, as set forth below. The outstanding principal balance of the Sigma Note was $902,000 as of September 30, 2013.
Interest, computed at 17% per annum on the outstanding principal balance, is payable in monthly installments, which commenced April 30, 2013. In February 2014, we executed the Sigma Term Sheet for additional financing, which if closed will include the deferral of all principal and interest repayments due under the Sigma Note starting with the December 31, 2013 payment and ending with the September 30, 2014 payment, until the December 18, 2014 maturity date, as discussed in more detail below. Subject to closing the Sigma Term Sheet financing, the principal balance remains payable as follows:
June 30, 2013
$7,000
July 31 - September 30, 2013
$12,000 per month
October 31, 2013 - March 31, 2014
$22,000 per month
April 30 - June 30, 2014
$35,000 per month
July 31 - September 30, 2014
$40,000 per month
October 31 - November 30, 2014
$50,000 per month
December 18, 2014
$50,000
December 18, 2014 - Balloon payment
$395,000
The Sigma Note may be prepaid by us at any time, provided, however, that if the Sigma Note is prepaid during the twelve months immediately following the Sigma Closing, we shall pay an additional 90 days of interest on the then outstanding principal as of such prepayment date. If following the Sigma Closing we receive proceeds from the sale of a business unit and/or in connection with the issuance of additional equity, debt or convertible debt capital in the amounts listed in the table below, calculated on an aggregate basis subsequent to the Sigma Closing (“Aggregate Capital Raise”), we are required to immediately repay to Sigma the indicated amount (“Early Repayment Amount”), applied first toward repayment of interest and then toward principal.
Aggregate Capital Raise
Early Repayment Amount
$500,000 to $1,000,000
Lesser of outstanding principal plus interest or 25% of Capital Raise
$1,000,001 to $2,000,000
Lesser of outstanding principal plus interest or 50% of Capital Raise (reduced by any amounts previously repaid as a result of a Capital Raise transaction)
$2,000,001 or Higher
All outstanding principal plus Interest must be paid
The Aggregate Capital Raise excludes (i) advances received by us against accounts receivable from Thermo Credit pursuant to the Line, or any successor agreement entered into on materially the same terms, (ii) up to $330,000 of additional subordinated financing obtained by us on materially the same as certain previously-agreed terms and (iii) the additional amounts received in June 2013 from Sigma.
In connection with the initial March 2013 financing, we issued 300,000 restricted common shares to Sigma and agreed to reimburse up to $30,000 of Sigma’s legal and other expenses related to this financing, $27,500 of which was paid by us at the Sigma Closing. We also issued 60,000 restricted common shares to Sigma Capital Advisors, LLC (“Sigma Capital”) and agreed to pay them a $75,000 advisory fee, in connection with an Advisory Services Agreement we entered into with Sigma Capital effective March 18, 2013. $55,000 of the cash fee was paid by us at the Sigma Closing and the remaining $20,000 was paid over the next four months. We also paid finders and other fees to unrelated third parties in connection with this transaction, which totaled 60,000 restricted common shares and $12,000 cash.
In connection with the June 2013 amendment, we issued 325,000 restricted common shares to Sigma and made payments aggregating $45,000 to Sigma and Sigma Capital, representing an administrative fee plus reimbursement of Sigma’s other cost and expenses related to this financing. We also issued 125,000 restricted common shares to Sigma Capital.
Including the value of the common stock issued plus the amount of cash paid for related financing fees and expenses results in an effective interest rate of approximately 56% per annum (which was 60% per annum for the period prior to the June 2013 amendment). This effective rate would increase in the event an Early Repayment Amount was required, as discussed above.
For so long as the Sigma Note is outstanding, if at any time after the Sigma Closing we issue additional shares of common stock (other than as a result of common stock equivalents already issued prior to the Issuance Date) or common stock equivalents in an amount which exceeds, in the aggregate, 25% of our fully diluted shares (as defined) as of the Sigma Closing, whether through one or multiple issuances, then provided the proceeds of such issuance are not being used to pay all outstanding amounts owed under the Sigma Note, we shall issue to Sigma and Sigma Capital, respectively, such number of shares of common stock as is necessary for Sigma and Sigma Capital to maintain the same beneficial ownership percentage of our capital stock, on a fully diluted basis, after the additional shares issuance as they had immediately before the additional shares issuance. If, at the time of any additional share issuance, Sigma has not converted all or a portion of the amount of the Sigma Note eligible for conversion to common shares, we shall reserve for future issuance to Sigma upon any subsequent conversion, and shall issue to Sigma upon any subsequent conversion, such number of shares of common stock as to which Sigma would have been entitled hereunder had Sigma converted the unconverted amount immediately prior to the additional shares issuance. Notwithstanding the above, this provision shall only apply to beneficial ownership resulting from transactions related to the Sigma Note or the Advisory Services Agreement and shall not apply to our issuance of common stock or common stock equivalents in connection with our acquisition of another entity or the material portion of the assets of another entity, which transaction results in operating cash flow in excess of any related debt service.
As of September 30, 2013, we were obligated for $200,000 under an unsecured subordinated note issued on March 19, 2013 to Fuse Capital LLC (“Fuse”) (the “Fuse Note”). The Fuse Note, which is convertible into restricted common shares at Fuse’s option using a rate of $0.50 per share, is payable as follows: interest only (at 12% per annum) during the first year, approximately 30% of the principal plus interest during the second year and the remaining principal balance at the end of the second year.
In connection with the Fuse Note, we issued Fuse 80,000 restricted common shares (the “Fuse Common Stock”), which we agreed to buy back under the following terms: If the fair market value of the Fuse Common Stock is not equal to at least $0.40 per share on the date one (1) year after issuance, we will buy back, to the extent permitted by law, up to 40,000 shares of the originally issued Fuse Common Stock from Fuse at $0.40 per share. If the fair market value of the Fuse Common Stock is not equal to at least $0.40 per share on the date two (2) years after issuance, we will buy back, to the extent permitted by law, up to 80,000 shares of the originally issued Fuse Common Stock, less the amount of any shares already bought back at the one year point, from Fuse at $0.40 per share. The above only applies to the extent the Fuse Common Stock is still held by Fuse at the applicable dates. The $22,000 present value of this obligation is recorded as a liability on our financial statements as of September 30, 2013. If the closing ONSM share price of $0.19 per share on February 7, 2014 was used as a basis of calculation, a stock repurchase payment of $32,000 would be required.
In connection with the Fuse Note, we also issued 40,000 restricted common shares to an unrelated third party for finder and other fees. Including the value of the Fuse Common Stock plus the value of the common stock issued for related financing fees (but excluding a portion of this amount written off as a debt extinguishment loss as a result of the modification, by virtue of its inclusion in the Fuse Note, of a predecessor note) results in an effective interest rate of approximately 19% per annum.
As of September 30, 2013, we were obligated for $316,667 under unsecured subordinated notes issued to various unrelated lenders from April 2012 through January 2013, which are fully subordinated to the Line and the Rockridge Note. In October 2013, $66,667 of this outstanding principal balance, as well as accrued but unpaid interest, in the aggregate amount of $71,182 was satisfied from the gross proceeds of a $170,000 note issued by us to the same lender. The remaining $250,000 principal bears cash interest at rates ranging from 12% to 20% per annum and, after allowing for modifications made in January 2014 to the terms of certain of these notes, is due in October 2014. Including the value of common shares issued to the various unrelated lenders in connection with these notes results in effective interest rates ranging from approximately 21% to 71% per annum.
As of September 30, 2013, we were obligated for $650,000 outstanding principal on unsecured subordinated notes issued in November 2012 to various unrelated lenders, which are fully subordinated to the Line and the Rockridge Note. These notes bear cash interest at 12% per annum. Note payments are interest only during the first year, approximately 30% of the principal plus interest during the second year and the remaining principal balance at the end of the second year. One of these notes, held by Fuse and having a $200,000 outstanding principal balance, is convertible into restricted common shares at Fuse’s option using a rate of $0.50 per share. Including the value of common shares issued to the various unrelated lenders in connection with these notes results in effective interest rates ranging from approximately 26% to 43% per annum, except that the effective interest rate of the note held by Fuse is 12% per annum, after the write-off of a portion of the value of these common shares as a debt extinguishment loss, arising from the March 2013 modification of the note held by Fuse to add the conversion feature.
In connection with the above financing, we issued to the holders of the certain of the above notes having an initial outstanding balance of $450,000 an aggregate of 180,000 restricted common shares, which we have agreed to buy back, under certain terms. If the fair market value of the stock is not equal to at least $0.40 per share on the final maturity date two (2) years after issuance, we will buy back, to the extent permitted by law, those shares of the originally issued common stock from the investor at $0.40 per share. This only applies to the extent the stock is still held by the investor(s) at the applicable date and only if the investor gives us notice and delivers the shares within fifteen days after the final maturity date. The $52,000 present value of this obligation is recorded as a liability on our financial statements as of September 30, 2013. If the closing ONSM share price of $0.19 per share as of February 7, 2014 was used as a basis of calculation, a stock repurchase payment of $72,000 would be required.
In connection with the above financing, we issued to the holders of certain of the above notes having an initial outstanding balance of $200,000 an aggregate of 240,000 restricted common shares, of which we have agreed to buy back up to 35,000 shares, under certain terms. If the fair market value of the stock is not equal to at least $0.80 per share on the final maturity date two (2) years after issuance, we will buy back, to the extent permitted by law, up to 35,000 shares of the originally issued stock from the investor at $0.80 per share. The above only applies to the extent the stock is still held by the investor(s) at the applicable date and only if the investor gives us notice and delivers the shares within fifteen days after the final maturity date. The $21,000 present value of this obligation is recorded as a liability on our financial statements as of September 30, 2013. If the closing ONSM share price of $0.19 per share as of February 7, 2014 was used as a basis of calculation, a stock repurchase payment of $32,000 would be required.
In addition to the above, in November 2013 we agreed with one holder of the above notes to reimburse them for the approximately $3,200 shortfall between the proceeds to them for their sale of 5,000 shares we issued them in connection with the issuance of their note and the $0.80 per share that we had previously agreed to pay for those shares, to the extent permitted by law and subject to the other restrictions noted above. We recorded no accrual for this matter on our financial statements as of September 30, 2013, based on the immateriality of an approximately $2,700 liability, if calculated based on the September 30, 2013 ONSM closing price of $0.27 per share. However, we will recognize the actual liability of approximately $3,200 as interest expense during the first quarter of fiscal 2014.
As of September 30, 2013, we were obligated for $118,157 under a subordinated note issued to CCJ dated December 31, 2012 and payable in monthly principal and interest installments of $6,862, which includes interest at 12% per annum. In November 2013, the outstanding principal balance of this note, as well as accrued but unpaid interest, in the aggregate amount of $125,000 was satisfied from the gross proceeds of a $250,000 note issued by us to the same lender.
On September 30, 2013 we were obligated for $263,398 under a letter agreement promissory note with the Universal Service Administrative Company (“USAC”), payable in monthly installments of $19,075 through December 15, 2014 (the “USAC Note”). These payments include interest at 12.75% per annum. This letter agreement promissory note is related to our liability for Universal Service Fund (USF) contribution payments previously reflected as an accrued liability on our balance sheet and therefore resulted in the reclassification of a portion of that accrued liability to notes payable. USAC is a not-for-profit corporation designated by the Federal Communications Commission (“FCC”) as the administrator of the USF program.
In December 2012, as part of a transaction under which J&C Resources issued us a Funding Letter, we agreed to reimburse CCJ in cash the shortfall, payable on December 31, 2014, as compared to minimum guaranteed net proceeds of $175,000, from their resale of 437,500 common shares CCJ received on December 31, 2012 upon their conversion of 17,500 shares of Series A-13 and after effecting our agreement as part of the same transaction to reduce the conversion rate on all Series A-13 shares from $1.72 per common share to $0.40 per common share. We recorded an estimated shortfall liability of $43,750 as a prepaid expense, which we are amortizing to interest expense as a cost of the Funding Letter over its one-year term ending December 31, 2013. Based on the closing ONSM price of $0.19 per share on February 7, 2014, the gross proceeds would be approximately $83,000 and the shortfall would be approximately $92,000.
During the year ended September 30, 2013 we repaid $175,000 of Equipment Notes by the issuance of 583,334 common shares. However, the terms of the Equipment Notes still provided that on the Maturity Dates (as established in the December 12, 2012 modification), the Recognized Value shall be calculated as the sum of the following two items - (i) the gross proceeds to the Investors from the sales of the 583,334 shares issued per the December 12, 2012 modification plus (ii) the value of those shares issued and still held by the Noteholders and not sold, using the average ONSM closing bid price per share for the ten (10) trading days prior to the Maturity Dates. If the Recognized Value exceeded the Credited Value, then we would receive 50% (fifty percent) of such excess, although the amount received by us shall not exceed $175,000. If the Credited Value exceeded the Recognized Value, then we would be obligated to pay such excess to the Noteholders. With respect to Equipment Notes held by one of the three Noteholders, the Credited Value exceeded the Recognized Value for 166,667 common shares by approximately $16,000 as of the respective November 15, 2013 Maturity Date. We recorded no accrual for this matter on our financial statements as of September 30, 2013, based on the immateriality of a $5,000 liability, if calculated based on the September 30, 2013 ONSM closing price of $0.27 per share. However, we will recognize the actual liability of approximately $16,000 as interest expense during the first quarter of fiscal 2014.
In connection with financing obtained by us in October and November 2013 from the other two Noteholders, the above terms with respect to settlement of differences between the Credited Value and the Recognized Value were replaced with our agreement to buy back, to the extent permitted by law, the 416,667 common shares issued to those Noteholders, if the fair market value of the shares are not equal to at least $0.30 per share on the maturity dates of the October and November 2013 financing, which are April 24 and May 4, 2015, respectively. The above only applies to the extent the shares are still held by the Noteholders on the applicable date and the buyback obligation only applies if the Noteholders give us notice within fifteen days after the applicable maturity dates of the October and November 2013 financing. The $80,000 present value of this obligation is recorded as a liability on our financial statements as of September 30, 2013. If the closing ONSM share price of $0.19 per share on February 7, 2014 was used as a basis of calculation, a stock repurchase payment of $125,000 would be required.
Furthermore, we have agreed that in the event we receive funds in excess of $5 million as a result of a single transaction for the sale of all or a part of our operations or assets, that those funds will be available to satisfy the above buyback obligation, such availability subject only to prior satisfaction of any claims held by Thermo Credit LLC, Rockridge Capital Holdings LLC, Sigma Opportunity Fund II, LLC, USAC, and certain capital leases (HP Financial and Tamco), or any assignees or successors thereto and pari passu with up to $775,000 of total indebtedness and related obligations raised and incurred by us during the first quarter of fiscal 2014. In addition, we agreed that to the extent the number of outstanding shares of our common stock exceeds 22 million shares, then we will issue the Noteholders additional shares of common stock equal to seventy-six hundredths percent (0.76%, or 0.0076) of the excess over 22 million, times the percentage of the original 416,667 common shares still held by the Noteholders on the six and twelve month anniversary dates of the October and November 2013 financing, as well as the eighteen month maturity date. For clarity, additional issuances based on any particular increase in the number of our outstanding shares over the stated limit will only be made once and so additional issuances on the second and third dates will be limited and related to increases since the first and second dates, respectively.
During October and November 2013 we obtained aggregate net financing proceeds of approximately $246,000 from the issuance of partially secured promissory notes to three investors (the “Working Capital Notes”), with an initial aggregate outstanding balance of $620,000 bearing interest at 15% per annum. The proceeds of the Working Capital Notes were used to repay (i) $126,000 outstanding principal and interest due on the CCJ Note issued by us on December 31, 2012, (ii) $71,812 outstanding principal and interest due on a Subordinated Note issued by us on June 1, 2012 and (iii) $26,000 outstanding principal and interest due on an Investor Note issued by us on January 2, 2013. See note 4. In addition, $125,000 in origination fees and $25,000 for a Funding Commitment Letter (discussed below) were deducted from the proceeds of the Working Capital Notes.
Working Capital Note payments are interest only during the first six months (in two quarterly payments), approximately 50% of the principal in equal monthly payments plus interest during the next eleven months and the remaining 50% of the principal balance due eighteen months after the Working Capital Note issuance date. In the event that we receive funds in excess of $5 million as a result of a single transaction for the sale of all or a part of our operations or assets, the Working Capital Notes are payable in full within ten (10) days of our receipt of such funds, along with any interest due at that time.
The Working Capital Notes are expressly subordinated to the following notes issued by us and outstanding at the time of the issuance of the Working Capital Notes: Thermo Credit LLC, Rockridge Capital Holdings LLC, Sigma Opportunity Fund II, LLC, USAC, and certain capital leases (HP Financial and Tamco), or any assignees or successors thereto, subject to a cumulative maximum outstanding balance of $3.9 million. The Working Capital Notes are secured by a limited claim to our assets, pari passu with up to $775,000 of total indebtedness and related obligations raised and incurred by us during the first quarter of fiscal 2014, subject to all prior liens of the foregoing entities and limited to the extent such a lien is allowable by the terms of the loan documents executed between us and the foregoing entities.
In connection with the above financing, we issued to the holders of Working Capital Notes an aggregate of 358,334 restricted common shares (the “Working Capital Shares”), which we have agreed to buy back, to the extent permitted by law, from the holder for $0.30 per share on the maturity dates of the Working Capital Notes, if the fair market value is less than that on that date. The above only applies to the extent the Working Capital Shares are still held by the noteholder on the applicable date and the buyback obligation only applies if the noteholder gives us notice and delivers the shares within fifteen days after the applicable maturity dates. If the closing ONSM share price of $0.19 per share on February 7, 2014 was used as a basis of calculation, a stock repurchase payment of approximately $107,500 would be required. In addition, we issued 100,000 restricted common shares in connection with a finders agreement related to this financing.
On November 30, 2012 we acquired certain assets and operations of Intella2 Inc., a San Diego-based communications company (“Intella2”). The acquisition included a list of over 2,500 customers as well as software licenses, equipment and network infrastructure and a non-compete. The service capabilities acquired from Intella2 include audio conferencing, web conferencing, text messaging, and voicemail. The Intella2 assets and operations were purchased by Onstream Conferencing Corporation, our wholly owned subsidiary, and will be managed by our Infinite Conferencing division, which specializes in audio and web conferencing. The unaudited revenues from the acquired operations for the twelve months ended August 31, 2012 were approximately $1.4 million, including free conferencing business revenues of approximately $300,000. The acquired Intella2 operations have achieved positive operating cash flow through September 30, 2013, which we expect to continue for the foreseeable future.
The total purchase price of the Intella2 assets and operations was approximately $1.4 million, of which we have paid approximately $713,000 in cash to Intella2 through September 30, 2013. The remaining portion of the purchase price, approximately $704,000, represents the present value of management’s estimate as of the date of that purchase of additional payments considered probable with respect to the following remaining obligations incurred in connection with the Intella2 purchase:
(i)
Additional payment equal to the excess of eligible revenues for the twelve months ending November 30, 2013 over $713,000, provided that such additional payment would be no less than $187,000 and no more than $384,000.
(ii)
Additional payment equal to fifty percent (50%) of the excess of eligible revenues for the twelve months ending November 30, 2013 over $1,098,000, provided that such additional payment would be no more than $300,000.
(iii)
70% of the future free conferencing business revenues, net of applicable expenses, through November 30, 2017, after which we have agreed to pay an amount equal to such payments for the last two months of that period, with no further obligation to Intella2 in that regard. The 70% will be adjusted to 50% if the free conferencing business revenues, net of applicable expenses, are less than $40,000 for two consecutive quarters, and will be adjusted back to 70% if that amount returns to more than $40,000 for two consecutive quarters.
Eligible revenues for purposes of items (i) and (ii) above exclude free conferencing business revenues and non-recurring revenues and are further defined in the Asset Purchase Agreement dated November 30, 2012. The additional purchase price payments per items (i) and (ii) above are due in quarterly installments commencing August 31, 2013 and ending May 31, 2014. The additional purchase price payments per item (iii) above are also subject to certain holdbacks and reserves and as a result payments commenced June 30, 2013 and are expected to continue on a monthly basis thereafter. The unpaid portion of the purchase price is reflected on our September 30, 2013 balance sheet as an accrued liability of $728,586, with a current portion of $537,773 and a non-current portion of $190,813. These amounts represent the remaining unpaid portion of the total preliminary purchase price as determined as of the time of the initial purchase plus accretion of approximately $74,000, which has been reflected as interest expense on our statement of operations for the year ended September 30, 2013 and less approximately $50,000 of payments made to Intella2 after closing through September 30, 2013, which were considered to be payment of the accretion (i.e., interest) instead of the purchase price (i.e., principal).
The total purchase price and the liability for the unpaid portion of that purchase price recorded by us as of September 30, 2013 depends significantly on projections and estimates. Authoritative accounting guidance allows one year from the acquisition date for us to make adjustments to these amounts, in the event that such adjustments are based on facts and circumstances that existed as of the acquisition date that, if known, would have resulted in such adjusted assets and liabilities as of that date. Regardless of this, a contingent consideration liability shall be remeasured to fair value at each reporting date until the contingency is resolved. Changes resulting from facts and circumstances arising after the acquisition date, such as meeting a revenue target, shall be recognized in our results of operations. Changes resulting from a change in the discount rates applied to estimates of future cash flows shall also be recognized in our results of operations.
In consideration of the waiver and satisfaction of any remaining unpaid salary due to the Executives through December 31, 2012 under their employment agreements, as well as the waiver and satisfaction of any remaining unpaid amounts due to certain of those Executives in connection with the acquisition of Acquired Onstream (see note 2), we (as authorized by our Board of Directors) and the Executives agreed, effective January 22, 2013, (i) to pay $100,000 ($20,000 per Executive) of the withheld compensation in cash and (ii) to issue 1,700,000 (340,000 per Executive) fully vested ONSM common shares, subject to certain trading restrictions (the “Executive Shares”).
As of February 7, 2014, the Executive Shares have not been issued, due to certain administrative and documentation requirements, nor has the $100,000 in cash been paid. However, since the Executive Shares were committed to be issued by the January 22, 2013 action of the Board, that issuance has been reflected in our financial statements as of and for the year ended September 30, 2013.
To the extent there is any shortfall from the gross proceeds upon resale by the Executives of the Executive Shares as compared to twenty-nine cents ($0.29) per share, the shortfall will be reimbursed to the Executives by us in cash, or at our option, by the issuance of additional fully vested ONSM common shares (the “Additional Executive Shares”), with the Additional Executive Shares subject to reimbursement by us to the Executives of any shortfall from the gross proceeds upon resale as compared to the fair value used to determine the number of such Additional Executive Shares. All shortfall reimbursements shall be payable by us within ten (10) business days after presentation by reasonable supporting documentation of the shortfall to us by the Executives. The $34,000 present value of this obligation is recorded as a liability on our financial statements as of September 30, 2013. If the closing ONSM share price of $0.19 per share on February 7, 2014 was used as a basis of calculation, an additional payment of $170,000, or the equivalent in additional common shares, would be required.
On February 20, 2013, we (as authorized by our Board of Directors) and the Executives agreed to certain changes in the Executives’ employment agreements, as follows: (i) cancellation of the previous compensation program allowing for cash compensation aggregating to 15% of the sales price of the Company payable to the Executives as well as other employees and certain directors, (ii) cancellation of all stock options held by the Executives, including the previous employment agreement provision that would have allowed for the conversion of those options into approximately 1.3 million paid-up common shares (plus compensation for the tax effect) under certain circumstances and (iii) implementation of an executive incentive compensation plan (the “Executive Incentive Plan”). Compensation under the Executive Incentive Plan would be in the form of Fully Restricted (as defined below) ONSM common Plan shares (“Executive Incentive Shares”) and is based on the Company achieving certain financial objectives, as follows:
·
Record revenues in each of fiscal years 2011 through 2015.
·
Positive operating cash flow (as defined in the Executive Incentive Plan) in each of fiscal years 2011 through 2015.
·
EBITDA, as adjusted, (as defined in the Executive Incentive Plan) for at least two quarters of each of fiscal years 2013 through 2015.
The objectives related to fiscal 2011 and fiscal 2012 were based on discussions between the Board and the Executives that had been going on for some time as part of the process of agreeing on the Executive Incentive Plan. In addition, as disclosed in our previous public filings, the Compensation Committee had already indicated their intent as of January 14, 2011 to issue options to purchase an aggregate of at least 450,000 underlying common shares to the Executives as a group, for which the issuance and vesting would have required no performance and which would have been convertible into paid-up shares (including tax effect) under certain circumstances. Accordingly, the Board determined that the objectives for fiscal 2011 and fiscal 2012 were a reasonable basis for the issuance of an aggregate of 950,000 Executive Incentive Shares to the Executives as a group for the accomplishment of those goals for that two-year period. In addition, we agreed to issue an aggregate of 1.3 million Executive Incentive Shares to the Executives (as a group) as earned compensation for past service and in recognition that all options previously held by, or promised to, the Executives have been cancelled.
In September 2013, the Executives as a group were issued an aggregate of 250,000 Executive Incentive Shares for meeting one of the fiscal 2013 objectives - achieving positive EBITDA, as adjusted, for at least two quarters of fiscal 2013. Accordingly, those shares have been recorded on our financial statements and reflected as non-cash compensation expense of $77,500 for the year ended September 30, 2013, based on their fair value of $0.31 per share as of August 9, 2013, the date it was conclusively determined that the objective had been met and the shares had been earned. Accomplishment of the other objectives for fiscal 2013 would have resulted in an aggregate of 375,000 Executive Incentive Shares issued to the Executives as a group. However, as of September 30, 2013 the issuance of these shares related to the other 2013 objectives has not been reflected on our financial statements, since based on the fiscal year 2013 financial results the issuance of these shares is not considered probable.
Accomplishment of the objectives for fiscal 2014 through fiscal 2015 would result in an aggregate of 625,000 Executive Incentive Shares issued to the Executives as a group for each of those two years. A lesser amount of Executive Incentive Shares would be issuable for achievement for only one or two of the three objectives set for each year.
The Executive Incentive Shares are subject to a complete restriction on the Executive’s ability to access or transact in any way such shares until the restriction is lifted. Upon a change of control, termination of the Executive’s employment or the imminently proposed and/or anticipated sale of the Company at a price of $1.00 per common share or more, all restrictions on the Executive Incentive Shares and any other common shares held by the Executives will be lifted. In the case of a sale, all restrictions will be lifted in time for those previously restricted shares to participate in all voting with respect to the proposed sale and will be eligible, at the Executive’s option, for inclusion as part of the shares sold in that transaction. Due to the restrictions on the Executive Incentive Shares, we have determined that the issuance thereof will not result in taxable compensation income to the Executives (or tax deductible compensation expense to the Company) until such restrictions have been lifted.
Upon a change of control, termination of the Executive’s employment or the imminently proposed and/or anticipated sale of the Company at a price of $1.00 per common share or more before September 30, 2015, the Executive Incentive Shares still potentially issuable for future fiscal years will be considered earned and will be issued to the Executives on an unrestricted basis. In the case of a sale, all such accelerated shares shall be issued in time for those previously unissued shares to participate in all voting with respect to the proposed sale and will be eligible, at the Executive’s option, for inclusion as part of the shares sold in that transaction. Notwithstanding the above, in the event that the termination of the Executive’s employment is the result of the Executive’s voluntary resignation, and such voluntary resignation is not due to the Company’s breach of the Executive’s employment agreement or is not due to constructive termination as outlined in the Executive’s employment agreement, such restrictions will be promptly lifted, provided that no bona-fide and legally defensible objection to such issuance has been raised by written notice provided by a majority of the other four Executives to the terminating Executive, within ninety (90) days after such termination date.
As of September 30, 2013, we were obligated under operating leases for five office locations (one each in Pompano Beach, Florida, San Francisco, California and Colorado Springs, Colorado and two in the New York City area), which call for monthly payments totaling approximately $56,000. The leases have expiration dates ranging from 2014 to 2018 (after considering our rights of termination) and in most cases provide for renewal options. The future minimum lease payments required under the non-cancelable operating leases total approximately $2.1 million through fiscal 2019, of which approximately $683,000 relates to the year ending September 30, 2014.
Projected capital expenditures for the year ending September 30, 2014 total approximately $800,000, which includes software and hardware upgrades to the DMSP, the webcasting platform (including iEncode) and the audio and web conferencing infrastructure, as well as costs of software development and hardware costs in connection with the MarketPlace365 platform. Some of these projected capital expenditures may be financed, deferred past the twelve month period or cancelled entirely, depending on our other cash flow considerations.
During the period from June 2013 through January 2014 (i) we made certain headcount reductions representing approximately $962,000 in annualized savings, which we expect will reduce our compensation and professional fee expenditures by approximately $822,000 in aggregate for fiscal 2014 as compared to 2013 and (ii) we also renegotiated various supplier contracts representing approximately $331,000 in annualized savings, which we expect will cumulatively reduce our cost of sales and other general and administrative expenditures by approximately $242,000 for fiscal 2014 as compared to fiscal 2013.
On February 6, 2014, we received a funding commitment letter (the “Funding Letter”) from J&C Resources, Inc. (“J&C”), agreeing to provide us, within twenty (20) days after our notice on or before December 31, 2014, aggregate cash funding of up to $800,000. Mr. Charles Johnston, a former ONSM director, is the president of J&C. This Funding Letter was obtained solely to demonstrate our ability to obtain short-term funds in the event other funding sources are not available. Cash provided under the Funding Letter would be in exchange for our issuance of (a) a note or notes with interest payable monthly at 15% per annum and principal payable on the earlier of a date twelve months from funding or July 1, 2015 and (b) 7.5 million unregistered common shares, which shares would be prorated in the case of partial funding. The note or notes would be unsecured and subordinated to all of our other debts, except to the extent such the terms of such debts would allow pari passu status. Furthermore, the note or notes would not be subject to any provisions, other than with respect to priority of payments or collateral, of our other debts. Upon receipt by us of funds in excess of $5.0 million as a result of a single transaction for the sale of all or a part of its operations or assets, this Funding Letter will be terminated.
On February 6, 2014, we executed a summary term sheet (the “Sigma Term Sheet”) with Sigma Opportunity Fund II, LLC (“Sigma”), whereby Sigma agreed to provide us financing under the following terms, subject to mutually agreeable documentation (including customary representations, warranties, default provisions, indemnities, covenants, seniority and security equivalent to those in the existing Sigma Note - see note 4) and with both parties committing their best efforts to finalize the documentation and the transaction by February 28, 2014 (“Closing”):
· $500,000 (the “New Sigma Note”) would be funded to us at Closing and would be repayable by us on October 31, 2014. In addition, principal and interest payments otherwise due on the existing Sigma Note, starting with the December 31, 2013 payment and ending with the September 30, 2014 payment, would be deferred until the December 18, 2014 maturity date of the Sigma Note. Interest at 17% per annum will accrue on the new Sigma Note as well as the deferred payments under the existing Sigma Note, compounding monthly, and will be payable at the respective principal maturity dates. Upon receipt by us of funds in excess of $2.0 million as a result of (i) the sale of all or a part of our operations or assets or (ii) fees or commissions related to any mergers/acquisition related activities, all outstanding principal and interest due with respect to the New Sigma Note and the existing Sigma Note would be due.
· We will be required to use at least $107,000 of the New Sigma Note proceeds to pay principal on the Rockridge Note and we have agreed with Rockridge to make related modifications in the Rockridge Note as discussed above. The New Sigma Note will require modification of the existing subordination agreements with Thermo and Rockridge, and Sigma will require that Rockridge agree that Sigma has the right, but not the obligation, to repay the Rockridge Note at face value at any point after August 14, 2014, and always in case of a default on the Sigma or Rockridge Notes. Such repayment amount would be added to the principal of the existing Sigma Note and be due December 18, 2014, and Sigma would receive fees calculated on a pro-rata basis comparable to the terms of the New Sigma Note, based on the amount repaid and the amount of time the repaid debt would be unpaid by us after such repayment.
· In connection with this new financing, we paid Sigma $10,000 for their legal fees at the time of signing the Sigma Term Sheet. Upon Closing we will pay Sigma fees of $142,857, of which $92,857 would be withheld at Closing from the gross proceeds of the New Sigma Note and the balance repaid at $10,000 per month commencing March 1, 2014. These fees will be due regardless of the early repayment of the Sigma Notes. At Closing, we will also issue Sigma 500,000 common shares. If the New Sigma Note (and all accrued interest) is not paid back by August 14, 2014, we will pay Sigma an additional $100,000 cash fee and issue 1.5 million common shares. If we sign a letter of intent for sale of any of our business units or subsidiaries and for related proceeds in excess of $2 million that Sigma approves in its sole but reasonable discretion, then the August 14, 2014 share issuance shall be 300,000 shares. If the 1.5 million shares are issued on August 14, 2014, but the New Sigma Note, the Sigma Note and any other amounts due to Sigma are paid by December 18, 2014, then Sigma shall return 1.1 million common shares. In the event that we elect not to proceed with this financing, we shall pay Sigma a break-up fee comprised of $20,000 plus reimbursement of their incurred expenses related to this new financing (after a credit for the initial $10,000 paid by us).
· Sigma shall have the right to convert the New Sigma Note, in its entirety or partially, and at its option, into our common shares at a price of $1.00 per share. Commencing on December 18, 2014, and extending for a period of one year thereafter, Sigma will have the right to require us to purchase up to 1 million of their outstanding, non-sold, ONSM common shares, at $0.25 per share. In addition, if the Sigma Note and all other amounts due to Sigma are not paid by December 18, 2014, on December 19, 2015 we will be obligated to make up $0.05 per share for every share (up to another 1 million shares) that Sigma sold on the market in 2015 for an average price of less than $0.25 per share.
· At any time prior to December 18, 2014, and extending for a period of one year thereafter, we shall have the right to purchase any and all outstanding, non-sold, common ONSM shares we have issued to Sigma at the higher of: 1) a 20% discount to the 15 trading day volume-weighted average share price (“VWAP”) or 2) $0.25 per share.
We have incurred losses since our inception, and have an accumulated deficit of approximately $138.8 million as of September 30, 2013. Our operations have been financed primarily through the issuance of equity and debt, including convertible debt and debt combined with the issuance of equity. During the year ended September 30, 2013, our revenues were not sufficient to fund our total cash expenditures (operating, capital and debt service) for that period. Because of our expectations with respect to our recent and anticipated introductions of several new or enhanced products and our recent increases in sales and marketing expenditures, as well as our anticipated recognition of Intella2 revenues for twelve months in fiscal 2014 as compared to the ten months we recognized in fiscal 2013, we expect our consolidated fiscal 2014 revenues to exceed our consolidated fiscal 2013 revenues. However, in the event we are unable to achieve the necessary revenue increases to fund our total cash expenditures, we believe that identified decreases in our current level of expenditures that we have already planned to implement or could implement (in addition to the already implemented cost savings discussed above and including a significant reduction in our software development costs and capital equipment purchases) and the raising of additional capital in the form of debt and/or equity and/or the sales of assets or operations would be sufficient to fund our operations through September 30, 2014. We will closely monitor our revenue and other business activity to determine if and when further cost reductions, the raising of additional capital or other activity is considered necessary. The Executives have agreed to defer a portion of their compensation in the past, to the extent we needed that cash to meet other operating expenses and, in the event of extremely critical or urgent requirements in the future, are expected to continue to do so.
Our continued existence is dependent upon our ability to raise capital and to market and sell our services successfully. However, there are no assurances whatsoever that we will be able to sell additional common shares or other forms of equity and/or that we will be able to borrow further funds other than under the Line, the Funding Letter or the Sigma Term Sheet and/or that we will be able to sell assets or operations and/or that we will increase our revenues and/or control our expenses to a level sufficient to provide positive cash flow.
Cash required to fund our continued operations will be affected by numerous known and unknown risks and uncertainties including, but not limited to, our ability to successfully market and sell our products and services, the degree to which competitive products and services are introduced to the market, our ability to control and/or reduce expenses, our need to invest in new equipment and/or technology, and our ability to service and/or refinance our existing debt and accounts payable. We cannot assure that our revenues will continue at their present levels, nor can we assure that they will not decrease.
To the extent our cash flow from sales is insufficient to completely fund operating expenses, financing costs (including principal repayments) and capital expenditures, as well as any acceleration of our repayments of accounts payable and/or accrued liabilities, we will continue depleting our cash and other financial resources. Other than working capital which may become available to us from further borrowing or sales of equity or assets or operations (including but not limited to proceeds from the Line, Funding Letter or Sigma Term Sheet, as discussed above), we do not presently have any additional sources of working capital other than cash on hand and cash, if any, generated from operations. As a result of the uncertainty as to our available working capital over the upcoming months, we may be required to delay or cancel certain of the projected capital expenditures, some of the planned marketing expenditures, or other planned expenses. In addition, it is possible that we will need to seek additional capital through equity and/or debt financing or through other activities. If we raise additional capital through the issuance of debt, this will result in increased interest expense. If we raise additional funds through the issuance of equity or convertible debt securities, the percentage ownership of our company held by existing shareholders will be reduced and those shareholders may experience significant dilution.
The resolution of debt and other obligations becoming due within a short time after September 30, 2014 (the end of the one year time frame on which our liquidity analysis and conclusions above were based) represents a future unknown contingency.
Our cash balance decreased by approximately $103,000 during the year ended September 30, 2013. This was the result of approximately $1.5 million used in investing activities, partially offset by approximately $504,000 provided by operating activities and approximately $929,000 provided by financing activities.
Cash provided by operating activities of approximately $504,000 for the year ended September 30, 2013, represents an approximately $592,000 decrease as compared to approximately $1.1 million provided by operations for the prior fiscal year. The approximately $504,000 provided by operating activities in fiscal 2013 reflects our net loss of approximately $7.2 million, reduced by approximately $7.2 million of non-cash expenses included in that loss and by approximately $550,000 arising from a net decrease in non-cash working capital items during the period and increased by approximately $27,000 of non-cash income included in that loss. The $550,000 net decrease in non-cash working capital items for the year ended September 30, 2013 is primarily due to an approximately $403,000 increase in accounts payable, accrued liabilities and amounts due to directors and officers and an approximately $124,000 decrease in accounts receivables. The $550,000 net decrease in non-cash working capital items was approximately $163,000 greater than the net decrease in non-cash working capital items of approximately $387,000 for the prior fiscal year. The primary non-cash expenses included in our loss for the year ended September 30, 2013 were a $2.2 million impairment loss on goodwill, approximately $1.6 million of employee compensation expenses paid with common shares and other equity, approximately $1.3 million of depreciation and amortization and a $1.0 million impairment loss on property and equipment. The primary sources of cash inflows from operations are from receivables collected from sales to customers.
Cash used in investing activities was approximately $1.5 million for the year ended September 30, 2013 as compared to approximately $948,000 for the prior fiscal year. Current period investing activities related primarily to the Intella2 acquisition as well as the acquisition of property and equipment, including capitalized software development costs. Prior period investing activities related to the acquisition of property and equipment, including capitalized software development costs.
Cash provided by financing activities was approximately $929,000 for the year ended September 30, 2013 as compared to approximately $48,000 used in the prior fiscal year. Current year period financing activities, as well as those in the comparable prior year period, primarily related to proceeds from notes payable, partially offset by repayments of notes and leases payable. Most of the cash provided by financing activities for the year ended September 30, 2013, excluding accounts receivable based borrowing and repayment activity under the Line, was associated specifically or generally with the Intella2 acquisition.
Critical Accounting Policies and Estimates
Our consolidated financial statements have been prepared in accordance with United States generally accepted accounting principles (“GAAP”) and our significant accounting policies are described in Note 1 to those statements. The preparation of financial statements in accordance with GAAP requires that we make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying footnotes. Our assumptions are based on historical experiences and changes in the business environment. However, actual results may differ from estimates under different conditions, sometimes materially. Critical accounting policies and estimates are defined as those that are most important to the management’s most subjective judgments. Our most critical accounting policies and estimates are described below.
Goodwill and Other Intangible Assets:
Our prior acquisitions of several businesses, including Infinite Conferencing, Intella2, EDNet and Acquired Onstream, have resulted in significant increases in goodwill and other intangible assets. Goodwill and other unamortized intangible assets, which include acquired customer lists, were approximately $9.0 million at September 30, 2013, representing approximately 65% of our total assets and approximately 165% of the book value of shareholder equity. In addition, property and equipment as of September 30, 2013 includes approximately $1.4 million (net of depreciation) related to the capitalized development costs of the DMSP, MP365 and Webcasting/iEncode platforms, representing approximately 10% of our total assets and approximately 25% of the book value of shareholder equity.
In accordance with GAAP, we periodically test these assets for potential impairment. As part of our testing, we rely on both historical operating performance as well as anticipated future operating performance of the entities that have generated these intangibles. Factors that could indicate potential impairment include a significant change in projected operating results and cash flow, a new technology developed and other external market factors that may affect our customer base. We will continue to monitor our intangible assets and our overall business environment. If there is a material adverse and ongoing change in our business operations (or if an adverse change initially considered temporary is determined to be ongoing), the value of our intangible assets, including those of our Infinite, EDNet, OCC, Acquired Onstream/DMSP or webcasting divisions, could decrease significantly. In the event that it is determined that we will be unable to successfully market or sell our audio and web conferencing, EDNet, DMSP or webcasting services, an impairment charge to our statement of operations could result. Any future determination requiring the write-off of a significant portion of unamortized intangible assets, although not requiring any additional cash outlay, could have a material adverse effect on our financial condition and results of operations.
In accordance with the Intangibles - Goodwill and Other topic of the ASC, goodwill is reviewed annually (or more frequently if impairment indicators arise) for impairment and is tested using a two-step process. With respect to our annual impairment reviews of our goodwill and other acquisition-related intangible assets conducted as of September 30, 2011 and as of September 30, 2012, we applied the provisions of ASC 350-20-35, which in certain cases allowed us to forego the two-step impairment testing process based on certain qualitative evaluation. However, based on our assessment of relevant events and circumstances as listed in ASC 350-20-35-3C, we determined that we were not eligible to employ qualitative evaluation to forego the two-step impairment testing process with respect to our reporting units as of September 30, 2013, as it was not more likely than not that impairment loss had not occurred. These relevant events and circumstances included certain macroeconomic conditions, including access to capital and the ongoing decrease in the ONSM share price.
In the event that after qualitative evaluation the two step process is still required, the first step compares the fair value of a reporting unit with its carrying amount, including goodwill. The second step, if necessary, measures the amount of the impairment, including a comparison and reconciliation of the carrying value of all of our reporting units to our market capitalization, after appropriate adjustments for control premium and other considerations. If our market capitalization, after appropriate adjustments for control premium and other considerations, is determined to be less than our net book value (i.e., stockholders’ equity as reflected in our financial statements), that condition might indicate an impairment requiring the write-off of a significant portion of unamortized intangible assets, although not requiring any additional cash outlay, could have a material adverse effect on our financial condition and results of operations.
Based on these evaluations, with respect to the EDNet and Acquired Onstream/DMSP reporting units, we determined that it was more likely than not that the fair values of those reporting units were more than their respective carrying amounts as of September 30, 2013. However, we were unable to arrive at the same conclusion as a result of our evaluation of the audio and web conferencing reporting unit, consisting of Infinite and OCC (Intella2). Accordingly, we performed further calculations and determined that Infinite’s goodwill was impaired as of September 30, 2013 and a $2.2 million adjustment was made to reduce the carrying value of Infinite’s goodwill as of that date. No adjustment was considered necessary to the goodwill or intangible assets of OCC (Intella2) as of September 30, 2013, as the carrying amounts were based on an independent third-party valuation performed as of the November 30, 2012 acquisition date and those carrying amounts were supported by discounted cash flow analyses performed by our management as of September 30, 2013.
We analyzed our corporate payroll and other costs to determine their relevance to the reporting units, and to the extent relevant, we allocated such costs when preparing the projections used by us in the above valuations. We determined that approximately 72% of our corporate costs (excluding non-cash expenses) were allocable to our reporting units, including those without goodwill or other intangible assets. The non-allocable corporate costs related to various public company related requirements and expenses as well as the costs of evaluating new business opportunities and products outside the existing divisions.
EDNet’s operations are heavily dependent on the use of ISDN phone lines (“ISDN”), which are only available from a limited number of suppliers. The two telecommunication companies which are the primary suppliers of ISDN to EDNet have made recent public indications of intentions to restrict, or even eventually eliminate, their provision of ISDN. Such actions could have a significant adverse impact on our future evaluations of the carrying value of EDNet goodwill, especially if alternative ISDN suppliers cannot be identified or if an alternative such as Internet based technology is not available or economically feasible as a basis to continue the EDNet operations. However, these two companies have not announced definitive timetables for taking any extensive actions with regard to restricting ISDN and therefore we have not assumed any such actions would take place within the timeframe of our discounted cash flow analyses used by us for these evaluations to date.
Contingent Purchase Price:
On November 30, 2012 we acquired certain assets and operations of Intella2 Inc., a San Diego-based communications company (“Intella2”). The total purchase price of the Intella2 assets and operations was approximately $1.4 million, of which we have paid approximately $713,000 in cash to Intella2 through September 30, 2013. The remaining portion of the purchase price, approximately $704,000, plus approximately $74,000 accretion less approximately $50,000 of additional payments made to intella2 after closing and considered to be payment of the accretion, for a total liability of approximately $728,000, is the present value of management’s estimate of total additional payments considered probable with respect to the remaining obligations incurred in connection with the Intella2 purchase. These payment obligations are based on eligible revenues (which exclude free conferencing business revenues and non-recurring revenues) for the twelve months ending November 30, 2013 as well as a percentage (between 50 and 70%) of the free conferencing business revenues, net of applicable expenses, from December 1, 2012 through November 30, 2017. The total purchase price and the liability for the unpaid portion of that purchase price recorded by us as of September 30, 2013 depends significantly on projections and estimates. Authoritative accounting guidance allows one year from the acquisition date for us to make adjustments to these amounts, in the event that such adjustments are based on facts and circumstances that existed as of the acquisition date that, if known, would have resulted in such adjusted assets and liabilities as of that date. Regardless of this, a contingent consideration liability shall be remeasured to fair value at each reporting date until the contingency is resolved. Changes resulting from facts and circumstances arising after the acquisition date, such as meeting a revenue target, shall be recognized in our results of operations. Changes resulting from a change in the discount rates applied to estimates of future cash flows shall also be recognized in our results of operations.
ITEM 8.
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Our financial statements are contained in pages through, which appear at the end of this annual report.
ITEM 9.
ITEM 9.
CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
None.
ITEM 9A
ITEM 9A (T).
CONTROLS AND PROCEDURES
Management’s report on disclosure controls and procedures:
Our management, with the participation of our Chief Executive Officer and our Chief Financial Officer, evaluated the effectiveness of our disclosure controls and procedures as of September 30, 2013. The term “disclosure controls and procedures,” as defined in Rules 13a - 15(e) and 15d - 15(e) under the Securities Exchange Act of 1934, as amended (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 Chief Executive Officer and Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure. Based on the evaluation of our disclosure controls and procedures, our Chief Executive Officer and Chief Financial Officer concluded that, as of September 30, 2013, our disclosure controls and procedures were not effective at the reasonable assurance level. As a result of having to perform additional analyses with respect to goodwill impairment, we did not timely file this Annual Report on Form 10-K.
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 Rules 13a-15 promulgated under the 1934 Exchange Act. Under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, we conducted an evaluation of the effectiveness of our internal control over financial reporting based on the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission in Internal Control - Integrated Framework (“COSO”). Based on our evaluation under the COSO framework, management has concluded that, as of September 30, 2013, our internal control over financial reporting was not effective at the reasonable assurance level.
Our independent registered public accounting firm identified a material weakness in our internal control over financial reporting surrounding the performance of our analysis to support and review goodwill impairment within a timely manner. Specifically, deficiencies were identified in our control environment which could have led to the improper valuation of certain intangible assets. As a result of having to perform additional analyses with respect to goodwill impairment, we did not timely file this Annual Report on Form 10-K.
Our internal control system is designated to provide reasonable assurance to our management and Board of Directors regarding the preparation and fair presentation of published 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.
Our management has worked, and continues to work, to strengthen our internal control over financial reporting. We are committed to ensuring that such controls are operating effectively. Since identifying the material weakness in our internal control over financial reporting, we are working to enhance the design and operation of our controls related to goodwill impairment testing by improving our controls and documentation related to our accounting policies and practices to identify, document and periodically assess whether all key judgments, conventions and estimates used in computing the goodwill impairment analyses conform to U.S. GAAP.
Changes in Internal Control over Financial Reporting:
Except as noted above, there were no changes in our internal control over financial reporting during the most recent fiscal year ended September 30, 2013 that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.
ITEM 9B.
ITEM 9B.
OTHER INFORMATION
None.
PART III
ITEM 10.
ITEM 10.
DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE
Executive Officers and Directors
Our executive officers and directors, and their ages are as follows:
Name
Age
Position
Randy S. Selman
Chairman of the Board, President and Chief Executive Officer
Alan M. Saperstein
Director and Chief Operating Officer
Robert E. Tomlinson
Senior Vice President and Chief Financial Officer
Clifford Friedland
Director and Senior Vice President Business Development
David Glassman
Senior Vice President and Chief Marketing Officer
Carl L. Silva (1) (2) (3) (4)
Director
Leon Nowalsky (2) (3)
Director
Robert D. (“RD”) Whitney (1)
Director
(1)
Member of the Audit Committee.
(2)
Member of the Compensation Committee.
(3)
Member of the Governance and Nominating Committee.
(4)
Member of the Finance Committee.
Randy S. Selman. Mr. Selman has served as our Chairman of the Board, President and Chief Executive Officer since our inception in May 1993 and, from September 1996 through June 1999 and from August 1, 2004 through December 15, 2004, has also been our Chief Financial Officer. From March 1985 through May 1993, Mr. Selman was Chairman of the Board, President and Chief Executive Officer of SK Technologies Corporation (NASDAQ:SKTC), a software development company. SKTC developed and marketed software for point-of-sale with complete back office functions such as inventory, sales analysis and communications. Mr. Selman founded SKTC in 1985 and was involved in their initial public offering in 1989. Mr. Selman's responsibilities included management of SKTC, public and investor relations, finance, high level sales and general overall administration.
The primary experience, qualifications, attributes and skills that led us to conclude that Mr. Selman should currently serve as a director, in light of our business and structure, are as follows: executive management, sales and software development industry experience with SKTC and executive management and public and investor relations experience with Onstream.
Alan M. Saperstein. Mr. Saperstein has served as our Executive Vice President and a director since our inception in May 1993, and has also been our Chief Operating Officer since December 2004. From March 1989 until May 1993, Mr. Saperstein was a free-lance producer of video film projects. Mr. Saperstein has provided consulting services for corporations that have set up their own sales and training video departments. From 1983 through 1989, Mr. Saperstein was the Executive Director/Entertainment Division of NFL Films where he was responsible for supervision of all projects, budgets, screenings and staffing.
The primary experience, qualifications, attributes and skills that led us to conclude that Mr. Saperstein should currently serve as a director, in light of our business and structure, are as follows: video and film industry experience with NFL Films and executive management and webcasting and digital media operations experience with Onstream.
Robert E. Tomlinson. On December 15, 2004 Mr. Tomlinson was appointed as our Chief Financial Officer. Mr. Tomlinson joined us as Vice President-Finance in September 2004. Mr. Tomlinson started his financial and accounting career in 1977 with the international accounting firm of Price Waterhouse. In 1982 he left that firm to join Embraer, an international aircraft manufacturing and support firm, at their U.S. subsidiary in Fort Lauderdale, Florida, where he managed all financial functions and eventually was named Senior Vice President-Finance and a member of the U.S. firm’s Board of Directors. Mr. Tomlinson left Embraer in 1994 and joined staffing and human resource firm OutSource International, serving as its Chief Financial Officer and helping to take the company public in 1997. Mr. Tomlinson's areas of responsibility at OutSource International included corporate accounting, treasury and risk management. From when he left OutSource International in February 2000 until 2002 he worked as an independent certified public accountant, focusing on accounting and tax services to corporations. From 2002 until joining us, Mr. Tomlinson served as CFO for Total Travel and Tickets, a Fort Lauderdale based ticket broker. Mr. Tomlinson has held an active Certified Public Accountant license since 1978.
Clifford Friedland. Mr. Friedland was re-appointed as a member of our Board of Directors in April 2011. His initial appointment was in December 2004 and he continued as a board member until his resignation from the board in June 2010, although he continued as Senior Vice President, Business Development. Mr. Friedland’s voluntary resignation was to restore our board to the required majority of independent members, following the death of another board member. He served as Chairman, CEO and co-founder of Acquired Onstream from June 2001 until joining our company. Mr. Friedland was Vice President of Business Development and co-founder of TelePlace, Inc., a developer and owner of Internet data centers and central offices from December 1999 to May 2001. Mr. Friedland was co-founder, Chairman and co-CEO of Long Distance International, Inc., one of the first competitive European telephone operators from May 1993 to December 1999. Mr. Friedland was President of Clifford Friedland Inc., a technology consulting firm, from January 1991 to April 1993. Mr. Friedland was a Director and co-founder of Action Pay-Per-View, a pay per view cable channel from January 1988 to December 1990. Mr. Friedland was President and co-founder of Long Distance America, one of the first competitive long distance operators after the breakup of AT&T from June 1984 to December 1987. Mr. Friedland was Vice President and co-founder of United States Satellite Systems, Inc., an FCC licensed builder and operator of geosynchronous communications satellites from April 1981 until December 1983. Mr. Friedland was Director and co-founder of United Satellite Communications, Inc., the world’s first direct-to-home satellite network from April 1981 until May 1984.
The primary experience, qualifications, attributes and skills that led us to conclude that Mr. Friedland should currently serve as a director, in light of our business and structure, are as follows: Internet and digital media industry experience (Acquired Onstream, TelePlace, Inc., and Action Pay-Per-View), telecommunications industry experience (Long Distance International, Inc., Long Distance America, United States Satellite Systems, Inc. and United Satellite Communications, Inc.) and executive management experience with Onstream.
David Glassman. Mr. Glassman has served as our Chief Marketing Officer since December 2004. He served as Vice Chairman, President and co-founder of Acquired Onstream from June 2001 until joining our company. Mr. Glassman was Vice President of Marketing and co-founder of TelePlace, Inc., a developer and owner of internet data centers and central offices from December 1999 to May 2001. Mr. Glassman was co-founder, Vice Chairman and Co-CEO of Long Distance International, Inc., one of the first competitive European telephone operators from May 1993 to December 1999. Mr. Glassman was an independent technology consultant from January 1988 to April 1993, with a client list that included Action Pay Per View. Mr. Glassman was President and co-founder of Long Distance America, one of the first competitive long distance operators after the breakup of AT&T from January 1984 to December 1987. Mr. Glassman was a communications consultant from January 1981 to January 1984 providing services to United States Satellite Systems Inc. and United Satellite Communications Inc. Mr. Glassman was co-founder and director of All American Hero, Inc., a fast food franchisor, from January 1981 until December 1986.
Carl Silva. Mr. Silva, who has been a member of our Board of Directors since July 2006, serves on our Audit (as Chairman), Compensation (as Chairman), Governance and Nominating and Finance Committees. Mr. Silva has over 25 years of experience in the telecommunications and high tech industry, and he has held a variety of positions in business development, sales, marketing, software engineering, and systems engineering during this time. During 2013, Mr. Silva cofounded Sphinx Medical Technologies, a managed service provider for healthcare mobile applications, as their Chief Scientist. Prior to that, Mr. Silva was with ANXeBusiness Corp. as their Chief Scientist, responsible for developing a new nationwide credit card protection system. Mr. Silva cofounded Smalltell, which focuses on social commerce solutions, such as mobile payment technologies, user-generated content, wireless broadband devices, and nationwide data plans. Also, Mr. Silva was Chief Scientist and VP of Technology for Nexaira Wireless, Inc. (NXWI.OB), a 3G/4G Router company. Prior to this Mr. Silva was CEO of Cognigen Business Systems, Inc. (NASDAQ: CNGW), a managed service provider for small to mid-size businesses for VoIP and high speed Internet. Mr. Silva started Anza Borrego Partners as a management consulting firm designed to support entrepreneurs in the growth of their businesses. Mr. Silva was Senior Vice-President for SAIC’s Converged Network Professional services organization from July 1998 to May 2003. From September 1994 to June 1998, he was with Telcordia Technologies (formerly Bell Communications Research, or Bellcore), where he implemented the first VoIP softswitch in the cable industry.
The primary experience, qualifications, attributes and skills that led us to conclude that Mr. Silva should currently serve as a director, in light of our business and structure, are as follows: over 25 years of experience in the telecommunications and high tech industry, most notably at ANX, Nexaira, Cognigen, SAIC and Telcordia.
Leon Nowalsky. Mr. Nowalsky was appointed a member of our Board of Directors in December 2007 and serves on our Compensation and Governance and Nominating (as Chairman) Committees. Mr. Nowalsky, a partner in the New Orleans-based law firm of Nowalsky & Gothard APLLC (formerly Nowalsky, Bronston & Gothard APLLC), possesses over twenty years of experience in the field of telecommunications law and regulation. Mr. Nowalsky presently is a founder and board member of Thermo Credit, LLC, a specialty finance company for the telecommunications industry and J.C. Dupont, Inc., a Louisiana based oil and gas concern. Mr. Nowalsky has been general counsel for Telemarketing Communications of America, Inc., (“TMC”), as well as lead counsel in TMC’s mergers and acquisitions program, and following TMC’s acquisition by a wholly owned subsidiary of Advanced Telecommunications Corporation, Mr. Nowalsky served as ATC’s chief regulatory counsel as well as interim general counsel. In 1990, Mr. Nowalsky left ATC to set up a private law practice specializing in telecommunications regulatory matters, mergers and acquisitions and corporate law, which later expanded to become Nowalsky, Bronston & Gothard APLLC. Mr. Nowalsky has previously served as a director of the following companies: Network Long Distance, Inc., a long distance company which was acquired by IXC Communications; RFC Capital Corp., a specialty finance company dedicated exclusively to the telecommunications industry which was purchased in 1999 by TFC Financial Corp., a division of Textron (NYSE:TXT); and New South Communications, a facilities-based competitive local exchange carrier which merged to form NUVOX, which was subsequently acquired by Windstream; W2Com, LLC, a video conferencing and distance learning provider which was acquired by Arel Communications & Software, Ltd. (NASDAQ: ARLC).
The primary experience, qualifications, attributes and skills that led us to conclude that Mr. Nowalsky should currently serve as a director, in light of our business and structure, are as follows: over twenty years of experience in the field of telecommunications law and regulation, most notably at TMC and ATC, as well his currently active private law practice specializing in telecommunications regulatory matters, mergers and acquisitions and corporate law.
Robert D. (“RD”) Whitney. Mr. Whitney was appointed a member of our Board of Directors in April 2011 and serves on our Audit Committee. Mr. Whitney has been the Executive Director of the Institute of Finance and Management (“IOFM”) since it was acquired in April 2013 by Diversified Business Communications (“DBC”). From January 2011 through April 2013, Mr. Whitney was a partner with Greenhaven Partners (“Greenhaven”), a private-equity firm focusing on investments in specialty information and digital media oriented businesses, and in connection with that role was Chief Executive Officer of two Greenhaven owned entities - Management Networks, LLC (which included IOFM and was sold to DBC as discussed above) and Exchange Networks, LLC (a MarketPlace365 promoter) and Chief Operating Officer of a third - Chief Executive Group, LLC. From 2008 through 2010, Mr. Whitney was CEO of the online media division of the Tarsus Group, PLC, a London-based B2B conference and event producer (TRS.L) and in this position he was also associated with Onstream in various roles during the development and commercial introduction phases of MarketPlace365. From 1997 through 2005, and again in 2006 through 2008, he served in various roles (including Vice President of Operations and General Manager) with Kennedy Information, a firm specializing in delivering market intelligence through multiple media. During this time, Mr. Whitney was instrumental in the sale of Kennedy Information to its current parent company, BNA, which was the largest independent publisher of information and analysis products for professionals in business and government. He also has held positions at Kluwer Law International (a division of Wolters Kluwer), the Thompson Publishing Group, Yankee Publishing, Vicon Publishing and Connell Communications (a division of IDG). Mr. Whitney holds an MBA from Fitchburg State College and a BS from Bentley University.
The primary experience, qualifications, attributes and skills that led us to conclude that Mr. Whitney should currently serve as a director, in light of our business and structure, are as follows: over 20 years management-level experience in marketing and publishing (including Tarsus Group and Kennedy Information) as well as extensive experience in creating strategy for both B2B and B2C marketplaces and in management of major conferences, executive forums, and events (Tarsus Group), all of which we believe will provide valuable insight with respect to the proper focus of our development and sales efforts with respect to MarketPlace365 and our other products.
There is no family relationship between any of the executive officers and directors. Each director is elected at our annual meeting of shareholders and holds office until the next annual meeting of shareholders, or until his successor is elected and qualified. The bylaws permit the board of directors to fill any vacancy and such director may serve until the next annual meeting of shareholders or until his successor is elected and qualified. The board of directors elects officers annually and their terms of office are at the discretion of the Board. Our officers devote full time to our business.
Expansion of our Board of Directors
Our bylaws provide that the number of directors shall be no less than two and no more than nine. Our Board of Directors currently consists of six directors.
Director Compensation Table
The following table presents director compensation (excluding directors who are Named Executive Officers) for the year ended September 30, 2013:
1)
Directors who are not our employees received $3,750 per quarter ($15,000 per year) as compensation for serving on the Board of Directors during fiscal 2013, as well as reimbursement of reasonable out-of-pocket expenses incurred in connection with their attendance at Board of Directors meetings. Mr. Johnston resigned from our Board of Directors, effective January 18, 2013, and so was only compensated for a portion of the fiscal year.
2)
No shares or options were issued to the directors who were not also Named Executive Officers during the year ended September 30, 2013. Options granted in previous years were still held as of September 30, 2013 by members of our Board of Directors (excluding those who are Named Executive Officers), as follows:
Messrs. Silva and Nowalsky each hold four-year Plan options to purchase 25,000 shares of our common stock with an exercise price of $1.23 per share ( fair market value on the date of issuance), issued to them on January 14, 2011 as part of a company-wide grant. These fully vested options are exercisable at $1.23 per share, fair market value on the date of the grant. Options to purchase another 25,000 common shares were approved for issuance to each of these individuals by the Compensation Committee in January 2011 pending a sufficient increase in the Plan shares, for which shareholder approval was requested and received in June 2011 but the options have not yet been formally granted or issued.
Mr. Whitney holds immediately exercisable four-year Plan options to purchase 25,000 shares of our common stock with an exercise price of $1.00 per share (above fair market value on the date of issuance), issued to him on June 13, 2011 upon his initial appointment to our Board of Directors.
3)
On August 11, 2009 our Compensation Committee determined that in the event we were sold for a company sale price (as defined) that represented at least $6.00 per share (adjusted for recapitalization including but not limited to splits and reverse splits), cash compensation of two and one-half percent (2.5%) of the company sale price would be allocated equally between the then four outside Directors, as a supplement to provide appropriate compensation for ongoing services as a Director and as a termination fee, as well as one additional executive-level employee other than the Executives. In June 2010, one of the four outside Directors passed away (and was replaced in April 2011) and in January 2013 another one of the four outside Directors resigned (who is not expected to be replaced). In January 2013 the Board voted to terminate this compensation program, in conjunction with the termination of a similar compensation program for the Executives. Although the termination of the program for the Executives was in consideration of a new Executive Incentive Plan agreed on between the Company and the Executives, it has not yet been determined what the replacement compensation program will be, if any, for the outside Directors and the other executive-level employee in lieu of the terminated program.
Board of Directors Meetings and Committees
The Board of Directors meets regularly (in-person and/or by telephone conference) during the year to review matters affecting us and to act on matters requiring Board approval and it also holds special meetings whenever circumstances require. In addition, it may act by written consent. During the fiscal year ended September 30, 2013, there were seven meetings of the Board, and the Board took action thirteen times by written consent. The Board of Directors has four standing committees as discussed below and may, from time to time, establish additional committees.
Board leadership structure and role in risk oversight
The Board’s leadership structure combines the positions of chairman and CEO, which we have determined to be appropriate, given our specific characteristics and circumstances. In particular, our chairman and CEO is able to utilize the in-depth focus and perspective as a company co-founder and his practical experience gained during several years of running the company since its founding to effectively and efficiently guide the Board. The Board has not designated a lead independent director, since it has determined that our chairman closely interacts with the other members of the Board, particularly the independent directors, in fulfilling his responsibilities as chairman and CEO. Although it is management’s responsibility to assess and manage the various risks we face, it is the Board’s responsibility to oversee management in this effort. The Board administers its risk oversight function by appropriate discussions with the CEO, CFO and other members of management during meetings of the Board and at other times.
Audit Committee
The Audit Committee of the Board of Directors is responsible for the engagement of our independent public accountants, approves services rendered by our accountants, reviews the activities and recommendations of our internal audit department, and reviews and evaluates our accounting systems, financial controls and financial personnel. The Board has previously adopted a charter for the Audit Committee. Pursuant to the requirements of the Securities and Exchange Commission which requires that we provide our shareholders with a copy of the Audit Committee Charter at least once every three years, we have included a copy of the Audit Committee Charter as Exhibit 14.3 to this Form 10-K.
The Audit Committee is presently composed of Messrs. Silva (chairman) and Whitney. The Audit Committee met (in-person and/or by telephone conference) four times in fiscal 2013.
Compensation Committee
The Compensation Committee establishes and administers our executive and director compensation practices and policies, including the review of the individual elements of total compensation for executive officers and directors and recommendation of adjustments to the Board of Directors. In addition, the Compensation Committee administers our 1996 Stock Option Plan and our 2007 Equity Incentive Plan and determines the number of performance shares and other equity incentives awarded to executives and directors (as well as all other employees) and the terms and conditions of which they are granted and recommends plans and plan amendments to the Board. The Compensation Committee is presently composed of Messrs. Silva (chairman) and Nowalsky. The Compensation Committee met (in-person and/or by telephone conference) three times in fiscal 2013 in joint sessions held with the full Board of Directors to consider certain executive compensation matters.
The Compensation Committee has the responsibility to review, recommend, and approve all executive officer compensation arrangements. The Compensation Committee has the specific responsibility and authority to (i) review and approve corporate goals and objectives relevant to the compensation of our Chief Executive Officer (“CEO”), (ii) evaluate the performance of our CEO in light of those goals and objectives, and (iii) determine and approve the compensation level of our CEO based upon that evaluation. The Compensation Committee also has the responsibility to annually review the compensation of our other executive officers and to determine whether such compensation is reasonable under existing facts and circumstances. In making such determinations, the Compensation Committee seeks to ensure that the compensation of our executive officers aligns the executives’ interests with the interests of our shareholders. The Compensation Committee must also review and approve all forms of incentive compensation, including stock option grants, stock grants, and other forms of incentive compensation granted to our executive officers. The Compensation Committee takes into account the recommendations of our CEO in reviewing and approving the overall compensation of the other executive officers.
We believe that the quality, skills, and dedication of our executive officers are critical factors affecting our long-term value and success. Thus, one of our primary executive compensation goals is to attract, motivate, and retain qualified executive officers. We seek to accomplish this goal by rewarding past performance, providing an incentive for future performance, and aligning our executive officers’ long-term interests with those of our shareholders. Our compensation program is specifically designed to reward our executive officers for individual performance, years of experience, contributions to our financial success, and creation of shareholder value. Our compensation philosophy is to provide overall compensation levels that (i) attract and retain talented executives and motivate those executives to achieve superior results, (ii) align executives’ interests with our corporate strategies, our business objectives, and the long-term interests of our shareholders, and (iii) enhance executives’ incentives to increase our stock price and maximize shareholder value. In addition, we strive to ensure that our compensation, particularly salary compensation, is consistent with our constant focus on controlling costs. Our primary strategy for building senior management depth is to develop personnel from within our company to ensure that our executive team as a whole remains dedicated to our customs, practices, and culture, recognizing, however, that we may gain talent and new perspectives from external sources.
Our compensation program for executive officers generally consists of the following five elements: (i) base salary, (ii) performance-based annual bonus (currently equity based) determined primarily by reference to objective financial and operating criteria, (iii) long-term equity incentives in the form of stock options and other stock-based awards or grants, (iv) specified perquisites and (v) benefits that are generally available to all of our employees.
The Compensation Committee has the responsibility to make and approve changes in the total compensation of our executive officers, including the mix of compensation elements. In making decisions regarding an executive’s total compensation, the Compensation Committee considers whether the total compensation is (i) fair and reasonable, (ii) internally appropriate based upon our culture and the compensation of our other employees, and (iii) within a reasonable range of the compensation afforded by other opportunities. The Compensation Committee also bases its decisions regarding compensation upon its assessment of the executive’s leadership, individual performance, years of experience, skill set, level of commitment and responsibility required in the position, contributions to our financial success, the creation of shareholder value, and current and past compensation. In determining the mix of compensation elements, the Compensation Committee considers the effect of each element in relation to total compensation. Consistent with our desired culture of industry leading performance and cost control, the Compensation Committee has attempted to keep base salaries at moderate levels for companies within our market and total capitalization and weight overall compensation toward incentive cash and equity-based compensation. The Compensation Committee specifically considers whether each particular element provides an appropriate incentive and reward for performance that sustains and enhances long-term shareholder value. In determining whether to increase or decrease an element of compensation, we rely upon the Compensation Committee’s judgment concerning the contributions of each executive and, with respect to executives other than the CEO, we consider the recommendations of the CEO. We generally do not rely on rigid formulas (other than performance measures under our annual cash bonus program) or short-term changes in business performance when setting compensation.
Pursuant to the requirements of the Securities and Exchange Commission which requires that we provide our shareholders with a copy of the Compensation Committee Charter at least once every three years, we have included a copy of the Committee Charter as Exhibit 14.4 to this Form 10-K.
Finance Committee
The Finance Committee reviews and makes recommendations concerning:
·
proposed dividend actions, stock splits and repurchases,
·
current and projected capital requirements,
·
issuance of debt or equity securities,
·
strategic plans and transactions, including mergers, acquisitions, divestitures, joint ventures and other equity investments,
·
customer financing activities, business and related customer finance business and funding plans of Onstream and its subsidiaries,
·
overall company risk management program and major insurance programs, and
·
investment policies, administration and performance of the trust investments of our employee benefit plans.
Mr. Silva is currently the sole member of the Finance Committee. The Finance Committee met in fiscal 2013 in conjunction with meetings of the full Board of Directors.
Governance and Nominating Committee
While we have not adopted a formal charter for the Governance and Nominating Committee, in June 2003 our Board of Directors adopted Corporate Governance and Nominating Committee Principles. An updated copy of our Corporate Governance and Nominating Committee Principles was included as Appendix A to the proxy statement for our 2008 and 2009 Annual Meeting of Stockholders filed with the SEC on January 28, 2009.
The Governance and Nominating Committee reviews and makes recommendations to the Board of Directors with respect to:
·
the responsibilities and functions of the Board and Board committees and with respect to Board compensation,
·
the composition and governance of the Board, including recommending candidates to fill vacancies on, or to be elected or re-elected to, the Board,
·
candidates for election as Chief Executive Officer and other corporate officers, and
·
monitoring the performance of the Chief Executive Officer and our plans for senior management succession.
The Governance and Nominating Committee has not yet had the occasion to, but will, consider properly submitted proposed nominations by stockholders who are not one of our directors, officers, or employees. These nominations will be evaluated on the same basis as candidates proposed by any other person. A stockholder may nominate a person for election as a director at an annual meeting of the stockholders only if such stockholder gives written notice to our Corporate Secretary as described in the applicable proxy statement for the previous year’s annual meeting of stockholders. Each written notice must set forth, as to each person whom the stockholder proposes to nominate for election as a director, (i) all information relating to such person that is required to be disclosed in solicitations of proxies for election of directors in an election contest, or that is otherwise required, in each case pursuant to and in accordance with Regulation 14A under the Securities Exchange Act of 1934, as amended, and (ii) such person’s written consent to being named in the proxy statement as a nominee and to serve as a director if elected. Each written notice must also set forth, as to the stockholder making such nomination, (i) the name and address of such stockholder, as they appear on our books, (ii) the class and number of shares of our stock which are owned by such stockholder, (iii) a representation that the stockholder is a holder of record of our stock entitled to vote at such meeting and intends to appear in person or by proxy at the meeting to propose such nomination, and (iv) a representation whether the stockholder intends or is a part of a group which intends (y) to deliver a proxy statement and/or form of proxy to holders of at least the percentage of our outstanding capital stock required to elect the nominee and/or (z) otherwise to solicit proxies from stockholders in support of such nomination. We will evaluate the suitability of potential candidates nominated by stockholders in the same manner as other candidates identified to the Governance and Nominating Committee, including the specific minimum qualifications described below.
The procedures for identifying candidates include a review of Onstream's current directors, soliciting input from existing directors and executive officers, and a review of submissions from stockholders, if any. Onstream’s management believes that the Board should be composed of:
·
directors chosen with a view to bringing to the Board a variety of experiences and backgrounds,
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directors who have high level managerial experience or are accustomed to dealing with complex problems, and
·
directors who will represent the balanced, best interests of the stockholders as a whole rather than special interest groups or constituencies, while also taking into consideration the overall composition and needs of the Board.
In considering possible candidates for election as an outside director, the Governance and Nominating Committee and other directors should be guided by the foregoing general guidelines and by the following criteria:
·
Each director should be an individual of the highest character and integrity, have experience at (or demonstrated understanding of) strategy/policy-setting and a reputation for working constructively with others.
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Each director should have sufficient time available to devote to our affairs in order to carry out the responsibilities of a director.
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Each director should be free of any conflict of interest, which would interfere with the proper performance of the responsibilities of a director.
·
The Chief Executive Officer is expected to be a director. Other members of senior management may be considered, but Board membership is not necessary or a prerequisite to a higher management position.
The Governance and Nominating Committee is presently composed of Messrs. Nowalsky (chairman) and Silva. The Governance and Nominating Committee met in fiscal 2013 in conjunction with meetings of the full Board of Directors.
Code of Business Conduct and Ethics
Effective December 18, 2003, our Board of Directors adopted a Code of Business Conduct and Ethics that applies to, among other persons, our President (being our principal executive officer) and our Chief Financial Officer (being our principal financial and accounting officer), as well as persons performing similar functions. As adopted, our Code of Business Conduct and Ethics sets forth written standards that are designed to deter wrongdoing and to promote:
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honest and ethical conduct, including the ethical handling of actual or apparent conflicts of interest between personal and professional relationships,
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full, fair, accurate, timely, and understandable disclosure in reports and documents that we file with, or submit to, the Securities and Exchange Commission and in other public communications made by us,
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compliance with applicable governmental laws, rules and regulations,
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the prompt internal reporting of violations of the Code of Business Conduct and Ethics to an appropriate person or persons identified in the Code of Business Conduct and Ethics, and
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accountability for adherence to the Code of Business Conduct and Ethics.
Our Code of Business Conduct and Ethics requires, among other things, that all of our personnel shall be accorded full access to our President and to our Chief Financial Officer, with respect to any matter that may arise relating to the Code of Business Conduct and Ethics. Further, all of our personnel are to be accorded full access to our Board of Directors if any such matter involves an alleged breach of the Code of Business Conduct and Ethics by our President or by our Chief Financial Officer.
In addition, our Code of Business Conduct and Ethics emphasizes that all employees, and particularly managers and/or supervisors, have a responsibility for maintaining financial integrity within our company, consistent with generally accepted accounting principles, and federal, provincial and state securities laws. Any employee who becomes aware of any incidents involving financial or accounting manipulation or other irregularities, whether by witnessing the incident or being told of it, must report it to his or her immediate supervisor or to our President or our Chief Financial Officer. If the incident involves an alleged breach of the Code of Business Conduct and Ethics by our President or by our Chief Financial Officer, the incident must be reported to any member of our Board of Directors. Any failure to report such inappropriate or irregular conduct of others is to be treated as a severe disciplinary matter. It is against our policy to retaliate against any individual who reports in good faith the violation or potential violation of our Code of Business Conduct and Ethics by another.
Our Code of Business Conduct and Ethics was included as an exhibit to our fiscal 2003 annual report filed on Form 10-K. We will provide a copy of our Code of Business Conduct and Ethics to any person without charge, upon request. Requests can be sent to: Onstream Media Corporation, 1291 SW 29 Avenue, Pompano Beach, Florida 33069.
COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT
Based solely upon a review of Forms 3 and 4 and amendments thereto furnished to us under Rule 16a-3(d) of the Securities Exchange Act of 1934, as amended, during the fiscal year ended September 30, 2013 and Forms 5 and amendments thereto furnished to us with respect to the fiscal year ended September 30, 2013, as well as any written representation from a reporting person that no Form 5 is required, we are not aware of any person that failed to file on a timely basis, as disclosed in the aforementioned Forms, reports required by Section 16(a) of the Securities Exchange Act of 1934 during the fiscal year ended September 30, 2013. , except to the extent the following represents non-compliance:
On January 22, 2013, in consideration of the waiver and satisfaction of any remaining unpaid salary due to the Executives through December 31, 2012 under their employment agreements, as well as the waiver and satisfaction of any remaining unpaid amounts due to certain of those Executives, we and the Executives agreed, among other things, that the Executives would be issued an aggregate of 1,700,000 fully vested ONSM common shares. As of February 7, 2014, these shares have not been issued, due to certain administrative and documentation requirements. On May 29, 2013, Robert Tomlinson, our Chief Financial Officer, filed a Form 4 reporting the January 22, 2013 grant of the right to receive 340,000 of these shares. The other four Executives have not yet filed a Form 4 to report the grant of the right for each of them to also receive 340,000 of these shares.
On February 20, 2013, we and the Executives agreed to certain changes in the Executives’ employment agreements, which resulted in among other things an agreement to issue the Executives an aggregate of 2,250,000 ONSM common shares. We did not issue those shares to the Executives until May 28, 2013. Although the Executives did not file a Form 4 to report the February 20, 2013 grant of a right to receive such shares, the Executives each timely filed a Form 4 on May 29, 2013 reporting the issuance of their respective portion of those shares.
On August 9, 2013, we determined that the Executives were entitled to an aggregate of 250,000 ONSM common shares for meeting certain financial goals. We did not issue those shares to the Executives until September 6, 2013. Although the Executives did not file a Form 4 to report the August 9, 2013 grant of a right to receive such shares, the Executives each timely filed a Form 4 on September 9, 2013 or September 10, 2013 reporting the issuance of their respective portion of those shares.
ITEM 11.
ITEM 11.
EXECUTIVE COMPENSATION
Summary Compensation Table
The following table sets forth certain information relating to the compensation of (i) our Chief Executive Officer; and (ii) each of our executive officers who earned more than $100,000 in total compensation during the most recent fiscal year (collectively, the “Named Executive Officers”):
Total compensation as presented in the following table includes cash and non-cash elements. However, the value of stock awards during fiscal 2013, based on our closing share price on February 7, 2014, is only 39.1% of the amount shown as compensation in this table and discussed in footnote 13 below, and furthermore these shares are prohibited to be traded until all restrictions are removed by the Board. See footnote 1 below for a table that presents the cash and non-cash elements of compensation for the years ended September 30, 2013 and 2012:
SUMMARY COMPENSATION TABLE
NAME AND
PRINCIPAL POSITION
FISCAL
YEAR SALARY ($) BONUS
($) STOCK
AWARDS
($) OPTION
AWARDS
($) ALL OTHER
COMPENSATION
($) (14) TOTAL
COMPENSATION
($)(1)
Randy S. Selman
2013 $298,926 (12) -0- $295,086 (13) -0- $52,220 (2) $646,332
President, Chief Executive Officer
2012 $272,883 (12) -0- -0- -0- $50,968 (3) $323,851
and Director
Alan Saperstein
2013 $271,751 (12) -0- $291,547 (13) -0- $54,859(4) $618,157
Chief Operating Officer and Director
2012 $248,076 (12) -0- -0- -0- $53,293(5) $301,369
Robert Tomlinson
2013 $256,271 (12) -0- $197,003 (13) -0- $51,767 (6) $505,041
Chief Financial Officer
2012 $234,165 (12) -0- -0- -0- $52,194 (7) $286,359
Clifford Friedland
2013 $241,487 (12) -0- $215,710 (13) -0- $58,242 (8) $515,439
Senior VP - Business Development
2012 $220,449 (12) -0- -0- -0- $55,046 (9) $275,495
and Director
David Glassman
2013 $241,487 (12) -0- $215,710 (13) -0- $52,821(10) $510,018
Senior VP - Marketing
2012 $220,449 (12) -0- -0- -0- $51,033(11) $271,482
(1)
Below is a table that presents the cash and non-cash elements of compensation for the years ended September 30, 2013 and 2012 - the value of stock awards comprising non-cash compensation during fiscal 2013, based on our closing share price on February 7, 2014, is only 39.1% of the amount shown as compensation in this table, and furthermore these shares are prohibited to be traded until all restrictions are removed by the Board:
For the year ended September 30, 2013:
Cash Compensation
Non-Cash Compensation
Randy S. Selman $351,146
$295,086
Alan Saperstein $326,610
$291,547
Robert Tomlinson $308,038
$197,003
Clifford Friedland $299,729
$215,710
David Glassman $294,308
$215,710
For the year ended September 30, 2012:
Cash Compensation Non-Cash Compensation
Randy S. Selman $323,851
$ -
Alan Saperstein $301,369
$ -
Robert Tomlinson $286,359
$ -
Clifford Friedland $275,495
$ -
David Glassman $271,482
$ -
(2)
Includes $13,595 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $21,625 for retirement savings and 401(k) match.
(3)
Includes $12,557 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $21,411 for retirement savings and 401(k) match.
(4)
Includes $19,859 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $18,000 for retirement savings.
(5)
Includes $18,293 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $18,000 for retirement savings.
(6)
Includes $13,595 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $21,172 for retirement savings and 401(k) match.
(7)
Includes $14,299 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $20,895 for retirement savings and 401(k) match.
(8)
Includes $19,620 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $21,622 for retirement savings and 401(k) match.
(9)
Includes $16,572 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $21,694 for retirement savings and 401(k) match.
(10)
Includes $13,595 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $22,226 for retirement savings and 401(k) match.
(11)
Includes $12,557 for medical and other insurance; $12,000 for automobile allowance; $5,000 for dues allowance and $21,476 for retirement savings and 401(k) match.
(12)
Effective October 1, 2009, in response to our operating cash requirements, the base salary amounts being paid to the Executives were adjusted to be 10% less than the contractual amounts. In addition, until certain recent actions as discussed below, the amounts representing the subsequent contractual annual increases to those base salary amounts were not paid. No related modifications of the compensation as called for under their related employment agreements was made, as it was expected that this compensation withheld from the Executives would eventually be paid, although the Executives did agree that they would accept payment in equity of such shortfalls to a certain extent and under certain terms. Accordingly, we accrued these unpaid amounts as non-cash compensation expense, with the unpaid portion reflected as an accrued liability under the balance sheet caption “Amounts due to executives and officers”. However, these accrued amounts will not be reflected as compensation in the above table until and unless additional payments are made to the Named Executive Officers in settlement of those amounts.
Effective September 16, 2012, the base salary amounts being paid to the Executives were reinstated by an amount representing approximately 7.8% of the contractual base salary at that time. As of February 7, 2014, the base salary payments to the Executives are 18.6% less than the contractual base salaries, compared to the 10% reduction instituted in October 2009 and which reduction was initially company-wide but no longer affects a majority of our other employees. A second reinstatement to the Executives, representing approximately 4.5% of the contractual base salary at that time, was approved since January 1, 2013, although as of February 7, 2014, and in recognition of our cash requirements, the second reinstatement has not been implemented.
In consideration of the waiver and satisfaction of any remaining unpaid salary due to the Executives through December 31, 2012 under their employment agreements, as well as the waiver and satisfaction of any remaining unpaid amounts due to certain of those Executives, we (as authorized by our Board of Directors) and the Executives agreed, effective January 22, 2013, (i) to pay $100,000 ($20,000 per Executive) of the withheld compensation in cash and (ii) to issue 1,700,000 (340,000 per Executive) fully vested ONSM common shares, subject to certain trading restrictions (the “Executive Shares”). As of February 7, 2014, the Executive Shares have not been issued, due to certain administrative and documentation requirements, nor has the $100,000 in cash been paid. However, since the Executive Shares were committed to be issued by the January 22, 2013 action of the Board, that issuance has been reflected in our financial statements as of and for the year ended September 30, 2013. However, these amounts will not be reflected as compensation in the above table until and unless the shares are issued and/or the cash payments are made to the Named Executive Officers.
(13)
On February 20, 2013, we (as authorized by our Board of Directors) and the Executives agreed to certain changes in the Executives’ employment agreements, as follows: (i) cancellation of the previous compensation program allowing for cash compensation aggregating to 15% of the sales price of the Company payable to the Executives as well as other employees and certain directors, (ii) cancellation of all stock options held by the Executives, including the previous employment agreement provision that would have allowed for the conversion of those options into approximately 1.3 million paid-up common shares (plus compensation for the tax effect) under certain circumstances and (iii) implementation of an executive incentive compensation plan (the “Executive Incentive Plan”).
Compensation under the Executive Incentive Plan would be in the form of Fully Restricted (as defined below) ONSM common Plan shares (“Executive Incentive Shares”) and is based on the Company achieving certain financial objectives, as follows:
·
Record revenues in each of fiscal years 2011 through 2015.
·
Positive operating cash flow (as defined in the Executive Incentive Plan) in each of fiscal years 2011 through 2015.
·
EBITDA, as adjusted, (as defined in the Executive Incentive Plan) for at least two quarters of each of fiscal years 2013 through 2015.
The objectives related to fiscal 2011 and fiscal 2012 were based on discussions between the Board and the Executives that had been going on for some time as part of the process of agreeing on the Executive Incentive Plan. In addition, as disclosed in our previous public filings, the Compensation Committee had already indicated their intent as of January 14, 2011 to issue options to purchase an aggregate of at least 450,000 underlying common shares to the Executives as a group, for which the issuance and vesting would have required no performance and which would have been convertible into paid-up shares (including tax effect) under certain circumstances. Accordingly, the Board determined that the objectives for fiscal 2011 and fiscal 2012 were a reasonable basis for the issuance of an aggregate of 950,000 Executive Incentive Shares to the Executives as a group for the accomplishment of those goals for that two-year period. In addition, we agreed to issue an aggregate of 1.3 million Executive Incentive Shares to the Executives (as a group) as earned compensation for past service and in recognition that all options previously held by, or promised to, the Executives have been cancelled.
The 2,250,000 Executive Incentive Shares that were earned as of the date the Executive Incentive Plan was established were issued in May 2013 and recorded on our financial statements based on their fair value at the time of the February 20, 2013 agreement, which was $1,237,500 ($0.55 per share), less the approximately $100,000 Black-Scholes value of the cancelled stock options as calculated immediately before their cancellation. The net amount of approximately $1,137,500 is included in the amounts reflected as non-cash compensation expense for the year ended September 30, 2013 in the above table.
In September 2013, the Executives as a group were issued an aggregate of 250,000 Executive Incentive Shares for meeting one of the fiscal 2013 objectives - achieving positive EBITDA, as adjusted, for at least two quarters of fiscal 2013. Accordingly, those shares have been recorded on our financial statements and reflected in the amounts in the above table as non-cash compensation expense of $77,500 for the year ended September 30, 2013, based on their fair value of $0.31 per share as of August 9, 2013, the date it was conclusively determined that the objective had been met and the shares had been earned. Accomplishment of the other objectives for fiscal 2013 would have resulted in an aggregate of 375,000 Executive Incentive Shares issued to the Executives as a group. However, as of September 30, 2013 the issuance of these shares related to the other 2013 objectives has not been reflected on our financial statements, since based on the fiscal year 2013 financial results the issuance of these shares is not considered probable.
Accomplishment of the objectives for fiscal 2014 through fiscal 2015 would result in an aggregate of 625,000 Executive Incentive Shares issued to the Executives as a group for each of those two years. A lesser amount of Executive Incentive Shares would be issuable for achievement for only one or two of the three objectives set for each year.
The Executive Incentive Shares are being issued in accordance with the terms of the 2007 Equity Incentive Plan (the “Plan”) which our Board of Directors and a majority of our shareholders adopted on September 18, 2007 and they amended on March 25, 2010 and on June 13, 2011, and to the extent these and other issuances under the Plan do not exceed the number of authorized Plan shares - see “2007 Equity Incentive Plan” below. The Executive Incentive Shares are subject to a complete restriction on the Executive’s ability to access or transact in any way such shares until the restriction is lifted. Upon a change of control, termination of the Executive’s employment or the imminently proposed and/or anticipated sale of the Company at a price of $1.00 per common share or more, all restrictions on the Executive Incentive Shares and any other common shares held by the Executives will be lifted. In the case of a sale, all restrictions will be lifted in time for those previously restricted shares to participate in all voting with respect to the proposed sale and will be eligible, at the Executive’s option, for inclusion as part of the shares sold in that transaction. Due to the restrictions on the Executive Incentive Shares, we have determined that the issuance thereof will not result in taxable compensation income to the Executives (or tax deductible compensation expense to the Company) until such restrictions have been lifted.
Upon a change of control, termination of the Executive’s employment or the imminently proposed and/or anticipated sale of the Company at a price of $1.00 per common share or more before September 30, 2015, the Executive Incentive Shares still potentially issuable for future fiscal years will be considered earned and will be issued to the Executives on an unrestricted basis. In the case of a sale, all such accelerated shares shall be issued in time for those previously unissued shares to participate in all voting with respect to the proposed sale and will be eligible, at the Executive’s option, for inclusion as part of the shares sold in that transaction. Notwithstanding the above, in the event that the termination of the Executive’s employment is the result of the Executive’s voluntary resignation, and such voluntary resignation is not due to the Company’s breach of the Executive’s employment agreement or is not due to constructive termination as outlined in the Executive’s employment agreement, such restrictions will be promptly lifted, provided that no bona-fide and legally defensible objection to such issuance has been raised by written notice provided by a majority of the other four Executives to the terminating Executive, within ninety (90) days after such termination date.
(14)
The Named Executive Officers did not receive non-equity incentive plan compensation or compensation from changes in pension value and nonqualified deferred compensation earnings during the periods covered by the above table.
Employment Agreements
On September 27, 2007, our Compensation Committee and Board of Directors approved three-year employment agreements with Messrs. Randy Selman (President and CEO), Alan Saperstein (COO and Treasurer), Robert Tomlinson (Chief Financial Officer), Clifford Friedland (Senior Vice President Business Development) and David Glassman (Senior Vice President Marketing), collectively referred to as “the Executives”. In addition, our Compensation Committee and Board have approved certain corrections and modifications to those agreements from time to time, which are reflected in the discussion below. The employment agreements provide that the initial term shall automatically be extended for successive one (1) year terms thereafter unless (a) the parties mutually agree in writing to alter the terms of the agreement; or (b) one or both of the parties exercises their right, pursuant to various provisions of the agreement, to terminate the employment relationship.
The employment agreements provide initial annual base salaries of $253,000 for Mr. Selman, $230,000 for Mr. Saperstein, $207,230 for Mr. Tomlinson and $197,230 for Messrs. Friedland and Glassman, plus ten percent (10%) annual increases through December 27, 2008 and five percent (5%) per year thereafter. In addition, each of the Executives receives an auto allowance payment of $1,000 per month, a “retirement savings” payment of $1,500 per month and an annual reimbursement of dues or charitable donations up to $5,000. We also pay insurance premiums for the Executives, including medical, life and disability coverage. These agreements contain certain non-disclosure and non-competition provisions and we have agreed to indemnify the Executives in certain circumstances.
Under the terms of the employment agreements, upon a termination subsequent to a change of control, termination without cause or constructive termination, each as defined in the agreements, we would be obligated to pay each of the Executives an amount equal to three (3) times the Executive’s base salary plus full benefits for a period of the lesser of (i) three (3) years from the date of termination or (ii) the date of termination until a date one (1) year after the end of the initial employment contract term. We may defer the payment of all or part of this obligation for up to six (6) months, to the extent required by Internal Revenue Code Section 409A.
Under the terms of the employment agreements, we may terminate an Executive’s employment upon his death or disability or with or without cause. If an Executive is terminated for cause, no severance benefits are due him. If an employment agreement is terminated as a result of the Executive’s death, his estate will receive one year base salary plus any bonus or other compensation amount or benefit then payable or that would have been otherwise considered vested or earned under the agreement during the one-year period subsequent to the time of his death. If an employment agreement is terminated as a result of the Executive’s disability, as defined in the agreement, he is entitled to compensation in accordance with our disability compensation for senior executives to include compensation for at least 180 days, plus any bonus or other compensation amount or benefit then payable or that would have been otherwise considered vested or earned under the agreement during the one-year period subsequent to the time of his disability.
The above description is qualified in its entirety by the terms and conditions of the employment agreements.
Outstanding Equity Awards at Fiscal Year-End Table
There were no outstanding stock options or stock awards held by the Named Executive Officers as of September 30, 2013.
2007 Equity Incentive Plan
On September 18, 2007, our Board of Directors and a majority of our shareholders adopted the 2007 Equity Incentive Plan (the “Plan”), which authorized the issuance of up to 1,000,000 shares of ONSM common stock pursuant to stock options, stock purchase rights, stock appreciation rights and/or stock awards for employees, directors and consultants. The options and stock grants authorized for issuance under the Plan were in addition to those already issued under the 1996 Plan, although as discussed above we may no longer issue additional options or stock grants under the 1996 Plan. On March 25, 2010, our Board of Directors and a majority of our shareholders approved a 1,000,000 increase in the number of shares authorized for issuance under the Plan, for total authorization of 2,000,000 shares and on June 13, 2011 they authorized a further increase in authorized Plan shares by 2,500,000 to 4,500,000. Based on the issuance of 2,877,763 common shares under the Plan (including the 2,500,000 Executive Incentive Shares issued as discussed above) through September 30, 2013, 538,499 outstanding employee, consultant and director Plan Options as of September 30, 2013 and 75,000 outstanding consultant Plan Options as of September 30, 2013, there are 1,008,738 shares available for additional issuances under the Plan. The outstanding Plan Options have exercise prices ranging from $0.65 to $9.42 per share.
The stated purpose of the Plan is to increase our employees', advisors', consultants' and non-employee directors' proprietary interest in our company, and to align more closely their interests with the interests of our shareholders, as well as to enable us to attract and retain the services of experienced and highly qualified employees and non-employee directors. The Plan is administered by the Compensation Committee of our Board of Directors (“the Committee"). The Committee determines, from time to time, those of our officers, directors, employees and consultants to whom Stock Grants and Plan Options will be granted, the terms and provisions of the respective Grants and Plan Options, the dates such Plan Options will become exercisable, the number of shares subject to each Plan Option, the purchase price of such shares and the form of payment of such purchase price. Stock Grants may be issued by the Committee at up to a 10% discount to market at the time of grant. All other questions relating to the administration of the Plan, and the interpretation of the provisions thereof, are to be resolved at the sole discretion of our Board of Directors or the Committee.
Plan Options granted under the Plan may either be options qualifying as incentive stock options ("Incentive Options") under Section 422 of the Internal Revenue Code of 1986, as amended (the "Code"), or options that do not so qualify ("Non-Qualified Options"). The exercise price of any Incentive Option granted to an eligible employee owning more than 10% of our common stock must be at least 110% of such fair market value as determined on the date of the grant.
The term of each Plan Option and the manner in which it may be exercised is determined by our Board of Directors or the Committee, provided that no Plan Option may be exercisable more than 10 years after the date of its grant and, in the case of an Incentive Option granted to an eligible employee owning more than 10% of our common stock, no more than five years after the date of the grant. In any case, the exercise price of any stock option granted under the Plan will not be less than 85% of the fair market value of the common stock on the date of grant. The exercise price of Non-Qualified Options is determined by the Committee.
The per share purchase price of shares subject to Plan Options granted under the Plan may be adjusted in the event of certain changes in our capitalization, but any such adjustment shall not change the total purchase price payable upon the exercise in full of Plan Options granted under the Plan. Officers, directors and employees of and consultants to us and our subsidiaries are eligible to receive Non-Qualified Options under the Plan. Only such individuals who are employed by us or by any of our subsidiaries thereof are eligible to receive Incentive Options.
All Plan Options are nonassignable and nontransferable, except by will or by the laws of descent and distribution and, during the lifetime of the optionee, may be exercised only by such optionee. If an optionee's employment is terminated for any reason, other than his death or disability or termination for cause, or if an optionee is not our employee but is a member of our Board of Directors and his service as a Director is terminated for any reason, other than death or disability, the Plan Option granted may be exercised on the earlier of the expiration date or 90 days following the date of termination. If the optionee dies during the term of his employment, the Plan Option granted to him shall lapse to the extent unexercised on the earlier of the expiration date of the Plan Option or the date one year following the date of the optionee's death. If the optionee is permanently and totally disabled within the meaning of Section 22(c)(3) of the Code, the Plan Option granted to him lapses to the extent unexercised on the earlier of the expiration date of the option or one year following the date of such disability.
The Board of Directors may amend, suspend or terminate the Plan at any time, except that no amendment shall be made which (i) increases the total number of shares subject to the Plan or changes the minimum purchase price therefore (except in either case in the event of adjustments due to changes in our capitalization) without the consent of our shareholders, (ii) affects outstanding Plan Options or any exercise right thereunder, (iii) extends the term of any Plan Option beyond ten years, or (iv) extends the termination dates of the Plan.
Unless the Plan has been earlier suspended or terminated by the Board of Directors, the Plan shall terminate 10 years from the date of the Plan’s adoption. Any such termination of the Plan shall not affect the validity of any Plan Options previously granted thereunder.
The potential benefit to be received from a Plan Option is dependent on increases in the market price of the common stock. The ultimate dollar value of the Plan Options that have been or may be granted under the Plan are therefore not ascertainable. On February 7, 2014, the closing price of our common stock as reported on OTCQB was $0.19 per share.
ITEM 12.
ITEM 12.
SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS
The following table contains information regarding beneficial ownership of our common stock as of February 7, 2014 held by:
·
persons who own beneficially more than 5% of our outstanding common stock,
·
our directors,
·
named executive officers, and
·
all of our directors and officers as a group.
Unless otherwise indicated, the address of each of the listed beneficial owners identified is c/o Onstream Media Corporation, 1291 SW 29th Avenue, Pompano Beach, Florida 33069. Unless otherwise noted, we believe that all persons named in the table have sole voting and investment power with respect to all shares of our common stock beneficially owned by them. A person is deemed to be the beneficial owner of securities that can be acquired by such a person within 60 days from February 7, 2014 upon exercise of options, warrants, convertible securities or other rights to receive our common shares. Each beneficial owner's percentage of ownership is determined by assuming that options, warrants, convertible securities or other rights to receive our common shares that are held by such a person (but not those held by any other person) and are exercisable within 60 days from the date hereof (unless otherwise indicated below) have been exercised. All information is based upon a record list of stockholders received from our transfer agent as of February 7, 2014. At that date, approximately 67% of our outstanding shares were held by CEDE & Co., which is accounted for as a single shareholder of record for multiple beneficial owners. CEDE & Co. is a nominee of the Depository Trust Company (DTC), with respect to securities deposited by participants with DTC, e.g., mutual funds, brokerage firms, banks, and other financial organizations. Shares held by CEDE & Co. are not reflected in the following table. For purposes of calculating beneficial ownership percentages in the following table, the number of total outstanding shares used as the denominator includes an aggregate of 2.5 million fully restricted common shares issued to the named executive officers, but because of the nature of the restrictions those 2.5 million shares are not considered beneficially owned by those executives for purposes of the table.
(1)
Includes 1,660 shares of our common stock presently outstanding. Excludes 603,000 common shares issued and outstanding but subject to restriction on the ability of Mr. Selman to access or transact in any way until such restrictions are lifted. See footnote 13 to the table in Item 11 Executive Compensation for a full description of these restrictions and the conditions under which the restrictions could be lifted. Also excludes 340,000 common shares authorized for issuance by the Board effective January 22, 2013 in consideration of unpaid salary and other unpaid amounts, but not yet issued due to certain administrative and documentation requirements. See footnote 12 to the table in Item 11 Executive Compensation for additional details.
(2)
Includes 1,973 shares of our common stock presently outstanding. Excludes 596,000 common shares issued and outstanding but subject to restriction on the ability of Mr. Saperstein to access or transact in any way until such restrictions are lifted. See footnote 13 to the table in Item 11 Executive Compensation for a full description of these restrictions and the conditions under which the restrictions could be lifted. Also excludes 340,000 common shares authorized for issuance by the Board effective January 22, 2013 in consideration of unpaid salary and other unpaid amounts, but not yet issued due to certain administrative and documentation requirements. See footnote 12 to the table in Item 11 Executive Compensation for additional details.
(3)
Includes 74,538 shares of our common stock presently outstanding, 24,684 shares of our common stock held by Titan Trust and 24,684 shares of our common stock held by Dorado Trust. Excludes 446,000 common shares issued and outstanding but subject to restriction on the ability of Mr. Friedland to access or transact in any way until such restrictions are lifted. See footnote 13 to the table in Item 11 Executive Compensation for a full description of these restrictions and the conditions under which the restrictions could be lifted. Also excludes 340,000 common shares authorized for issuance by the Board effective January 22, 2013 in consideration of unpaid salary and other unpaid amounts, but not yet issued due to certain administrative and documentation requirements. See footnote 12 to the table in Item 11 Executive Compensation for additional details. Mr. Friedland is the control person and beneficial owner of both Titan Trust and Dorado Trust and exercises sole voting and dispositive powers over these shares.
(4)
Includes 74,510 shares of our common stock presently outstanding, 24,684 shares of our common stock held by JMI Trust and 24,684 shares of our common stock held by Europa Trust. Excludes 446,000 common shares issued and outstanding but subject to restriction on the ability of Mr. Glassman to access or transact in any way until such restrictions are lifted. See footnote 13 to the table in Item 11 Executive Compensation for a full description of these restrictions and the conditions under which the restrictions could be lifted. Also excludes 340,000 common shares authorized for issuance by the Board effective January 22, 2013 in consideration of unpaid salary and other unpaid amounts, but not yet issued due to certain administrative and documentation requirements. See footnote 12 to the table in Item 11 Executive Compensation for additional details. Mr. Glassman is the control person and beneficial owner of both JMI Trust and Europa Trust and exercises sole voting and dispositive powers over these shares.
(5)
Excludes 409,000 common shares issued and outstanding but subject to restriction on the ability of Mr. Tomlinson to access or transact in any way until such restrictions are lifted. See footnote 13 to the table in Item 11 Executive Compensation for a full description of these restrictions and the conditions under which the restrictions could be lifted. Also excludes 340,000 common shares authorized for issuance by the Board effective January 22, 2013 in consideration of unpaid salary and other unpaid amounts, but not yet issued due to certain administrative and documentation requirements. See footnote 12 to the table in Item 11 Executive Compensation for additional details. Also excludes 41,073 restricted common shares that may not be transacted by Mr. Tomlinson for any reason whatsoever prior to Board approval, which has not been granted.
(6)
Includes vested options to acquire 25,000 common shares at $1.23 per share. Excludes options to purchase 25,000 common shares approved for issuance by the Compensation Committee in January 2011 pending a sufficient increase in the Plan shares, for which shareholder approval was requested and received in June 2011 but the options have not yet been formally granted or issued.
(7)
Includes vested options to acquire 25,000 common shares at $1.23 per share. Excludes options to purchase 25,000 common shares approved for issuance by the Compensation Committee in January 2011 pending a sufficient increase in the Plan shares, for which shareholder approval was requested and received in June 2011 but the options have not yet been formally granted or issued.
(8)
Includes vested options to acquire 25,000 common shares at $1.00 per share.
(9)
See footnotes (1) through (8) above.
Securities Authorized for Issuance Under Equity Compensation Plans - See Item 5 - Market For Registrant’s Common Equity, Related Stockholder Matters And Issuer Purchases Of Equity Securities.
ITEM 13.
ITEM 13.
CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE
Certain relationships and related transactions
In December 2007, we entered into a line of credit arrangement (the “Line”) with a financial institution (the “Lender”) under which we could borrow up to an aggregate of $1.0 million for working capital, collateralized by our accounts receivable and certain other related assets. In August 2008 the maximum allowable borrowing amount under the Line was increased to $1.6 million and in December 2009 this amount was again increased to $2.0 million. The outstanding balance bears interest at 12.0% per annum, adjustable based on changes in prime after December 27, 2011 (was prime plus 8% per annum through December 2, 2008, prime plus 11% per annum from that date through December 28, 2009 and 13.5% per annum from that date to December 27, 2011), payable monthly in arrears. Effective December 28, 2009, we also incur a weekly monitoring fee of one twentieth of a percent (0.05%) of the borrowing limit, payable monthly in arrears. We paid the Lender initial origination and commitment fees in December 2007 aggregating $20,015, an additional commitment fee in August 2008 of $6,000 related to the increase in the lending limit for the remainder of the year, a commitment fee of $16,000 in December 2008 related to the continuation of the increased Line for an additional year, a commitment fee of $20,000 in December 2009 related to the continuation of the Line for an additional year as well as an increase in the lending limit, and commitment fees aggregating $60,000 related to the continuation of the Line for three additional years through December 2013. We also pay the Lender fees and expenses totaling approximately two to three thousand dollars per quarter related to their reviews of our receivable and other records related to the loan. Although the Line expired on December 27, 2013, we and the Lender have been actively working together to complete the documentation for the renewal of that Line and on January 13, 2014 we received a letter from the Lender confirming that they will be renewing the Line through December 31, 2015, with terms materially equivalent to the just expired Line. A commitment fee of $40,000, calculated as one percent (1%) per year of the maximum allowable borrowing amount, will be incurred for the two-year renewal of the Line, payable in two equal installments when the Line is formally renewed and December 2014. The outstanding balance due under the Line was approximately $1.5 million as of February 7, 2014. Mr. Leon Nowalsky, a member of our Board of Directors, is also a founder and board member of the Lender.
In April 2009 we borrowed $750,000 from Rockridge Capital Holdings, LLC (“Rockridge”), an entity controlled by Mr. Fred Deluca, one of our largest shareholders, in accordance with the terms of a Note and Stock Purchase Agreement (the “Rockridge Agreement”) between Rockridge and us. In June 2009, we borrowed an additional $250,000 from Rockridge in accordance with the Rockridge Agreement. On September 14, 2009, we entered into Amendment Number 1 to the Agreement (the “Amendment”), as well as an Allonge to the Note (the “Allonge”), which allowed us to borrow up to an additional $1.0 million from Rockridge. We borrowed $500,000 on September 18, 2009 and the remaining $500,000 on October 20, 2009, resulting in cumulative borrowings under the Rockridge Agreement, as amended, of $2.0 million. This transaction is secured by a first priority lien on all of our assets, such lien subordinated only to the extent higher priority liens on assets, primarily accounts receivable and certain designated software and equipment, are held by certain of our other lenders and is repayable in equal monthly installments through September 14, 2014. The outstanding balance due under the Rockridge Note was approximately $520,000 as of February 7, 2014 and is convertible into our common stock using a minimum conversion price of $2.40 per share. The Note and Stock Purchase Agreement also provides that Rockridge may receive an origination fee of 591,667 restricted Onstream common shares (the “Shares”) upon not less than sixty-one (61) days written notice to us, which notice has not yet been given. The Rockridge Agreement, as amended, provides that on September 14, 2014 (the “Maturity Date”) we shall pay Rockridge up to a maximum of $75,000, based on the sum of (i) the cash difference between the per share value of $1.20 (the “Minimum Per Share Value”) and the average sale price for all previously sold Shares (whether such number is positive or negative) multiplied by the number of sold Shares and (ii) for the Shares which were not previously sold by Rockridge, the cash difference between the Minimum Per Share Value and the market value of the Shares at the Maturity Date (whether such number is positive or negative) multiplied by the number of unsold Shares, up to a maximum shortfall amount of $75,000 in the aggregate for items (i) and (ii).
On December 29, 2009, we entered into an agreement with CCJ Trust (“CCJ”) whereby accrued interest on a previous $200,000 cash advance through that date of $5,808 was paid by us in cash and the $200,000 advance was converted to an unsecured subordinated note payable (the “CCJ Note”) at a rate of 8% interest per annum in equal monthly installments of principal and interest for 48 months plus a $100,000 principal balloon at maturity, although none of those payments were subsequently made by us. CCJ is a trust for the adult children of Mr. Charles Johnston, one of our directors at that time, and he disclaims any beneficial ownership interest in CCJ. To resolve the payment default, the CCJ Note was amended in January 2011 to prospectively increase the interest rate to 10% per annum, payable quarterly, and to require two principal payments of $100,000 each on December 31, 2011 and December 31, 2012, respectively. This amendment also called for our cash payment of the previously accrued interest in the amount of $16,263 on or before January 31, 2011. On July 22, 2011, in order to reduce our near-term cash requirements, we agreed to convert $90,000 of the $100,000 December 31, 2011 principal payment to 100,000 common shares, leaving a remaining balance outstanding under the CCJ Note of $110,000, of which $10,000 was paid in January 2012. Three quarterly interest payments on the remaining outstanding $100,000 balance were subsequently made in cash and as of December 31, 2012 we would have owed the $100,000 principal plus the final quarterly interest payment of $2,500. However, we agreed with CCJ to combine that $102,500 obligation with another unpaid obligation of $43,279. The combined obligation of $145,779 was the principal amount of a replacement subordinated note issued to CCJ dated December 31, 2011 and payable in 24 monthly principal and interest installments of $6,862.32 starting January 31, 2013 and which payment amount included interest at 12% per annum. Prior to the issuance of the December 31, 2012 replacement note, the CCJ Note was convertible by CCJ into our common shares at the greater of (i) the previous 30 day market value or (ii) $2.00 per share (which was $3.00 per share prior to the January 2011 renegotiation). The December 31, 2012 replacement note had no conversion rights. On November 4, 2013, the outstanding principal balance of the CCJ Note, as well as accrued but unpaid interest, in the aggregate amount of $125,000 was satisfied from the gross proceeds of a $250,000 note issued by us to the same lender. However, Mr. Johnston was no longer an ONSM director at the time the $250,000 note was negotiated.
In conjunction with and in consideration of the December 2009 note transaction, the 35,000 shares of Series A-12 (with a stated value of $10.00 per share and convertible into common at $6.00 per share) held by CCJ at that date were exchanged for 35,000 shares of Series A-13 (with a stated value of $10.00 per share and convertible into common at $3.00 per share) plus four-year warrants for the purchase of 29,167 Onstream common shares at $3.00 per share. In conjunction with and in consideration of January 2011 note transaction entered into by us with CCJ, it was agreed that certain terms of the 35,000 shares of Series A-13 held by CCJ at that date would be modified as follows - the conversion rate to common shares, as well as the minimum conversion rate for payment of dividends in common shares, will be $2.00 per share, the maturity date will be December 31, 2012 and dividends will be paid quarterly, in cash or, at our option, in unregistered shares. In addition it was agreed that $28,000 in A-13 dividends for calendar 2010 would be immediately paid by issuance of 14,000 unregistered common shares, using the minimum conversion rate of $2.00 per share.
On January 4, 2011, we received a funding commitment letter (the “2011 Funding Letter”) from J&C Resources, Inc. (“J&C”), agreeing to provide us, within twenty (20) days after our notice given on or before December 31, 2011, aggregate cash funding of up to $500,000, which could be requested in multiple tranches. Mr. Charles Johnston, one of our directors at that time, is the president of J&C. The 2011 Funding Letter was obtained by us solely to demonstrate our ability to obtain short-term funds in the event other funding sources were not available, but did not represent any obligation on our part to accept such funding on those terms, was not expected by us to be exercised and was not exercised. The cash provided under the 2011 Funding Letter would be in exchange for our issuance of (a) a note or notes with interest payable monthly at 15% per annum and principal payable on the earlier of a date twelve months from funding or July 1, 2012 and (b) our issuance of 1 million unregistered common shares, which shares would be prorated in the case of partial funding. The note or notes would be unsecured and subordinated to all of our other debts, except to the extent such the terms of such debts would allow pari passu status. Furthermore, the note or notes would not be subject to any provisions, other than with respect to priority of payments or collateral, of our other debts. Upon receipt by us of an equivalent amount in dollars of investment from any other source after the date of the 2011 Funding Letter, other than funding received in connection with the LPC Facility, this Funding Letter would be terminated.
On January 10, 2012, we received a funding commitment letter (the “January 2012 Funding Letter”) from J&C, agreeing to provide us, within twenty (20) days after our notice given on or before December 31, 2012, aggregate cash funding of up to $550,000, which may be requested in multiple tranches. This January 2012 Funding Letter was obtained by us solely to demonstrate our ability to obtain short-term funds in the event other funding sources are not available, but did not represent any obligation on our part to accept such funding on these terms, was not expected by us to be exercised and was not exercised. The cash provided under the January 2012 Funding Letter would be in exchange for our issuance of (a) a note or notes with interest payable monthly at 15% per annum and principal payable on the earlier of a date twelve months from funding or July 1, 2013 and (b) our issuance of 2.3 million unregistered common shares, which shares would be prorated in the case of partial funding. The note or notes would be unsecured and subordinated to all of our other debts, except to the extent such the terms of such debts would allow pari passu status. Furthermore, the note or notes would not be subject to any provisions, other than with respect to priority of payments or collateral, of our other debts. Upon receipt by us of an equivalent amount in dollars of investment from any other source after the date of the January 2012 Funding Letter, other than funding received in connection with the LPC Facility, the January 2012 Funding Letter would be terminated. As part of the transaction under which J&C issued the January 2012 Funding Letter, we agreed to reimburse CCJ in cash the shortfall, as compared to minimum guaranteed net proceeds of $139,000, from their resale of 101,744 shares CCJ received upon their conversion of 17,500 shares of Series A-13 and after effecting our agreement as part of the same transaction to reduce the conversion rate on all Series A-13 shares from $2.00 per common share to $1.72 per common share. Based on the shortfall plus (i) the increased value of the underlying common stock related to this tranche as well as the second tranche of 17,500 shares of Series A-13 owned by CCJ and (ii) the Black-Scholes value of adjustments to warrants held by Lincoln Park Capital arising from certain anti-dilution provisions, the total economic cost of the January 2012 Funding Letter was approximately $130,000.
On December 21, 2012, we received a funding commitment letter (the “December 2012 Funding Letter”) from J&C, agreeing to provide us, within twenty (20) days after our notice given on or before December 31, 2013, aggregate cash funding of up to $550,000, which may be requested in multiple tranches. The December 2012 Funding Letter was obtained solely to demonstrate our ability to obtain short-term funds in the event other funding sources are not available, but did not represent any obligation to accept such funding on these terms, was not expected by us to be exercised and was not exercised. Cash provided under the Funding Letter would be in exchange for our issuance of (a) a note or notes with interest payable monthly at 15% per annum and principal payable on the earlier of a date twelve months from funding or July 1, 2013 and (b) our issuance of 2.3 million unregistered common shares, which shares would be prorated in the case of partial funding. The note or notes would be unsecured and subordinated to all of our other debts, except to the extent such the terms of such debts would allow pari passu status. Furthermore, the note or notes would not be subject to any provisions, other than with respect to priority of payments or collateral, of our other debts. Upon receipt by us of an equivalent amount in dollars of investment from any other source after the date of the December 2012 Funding Letter, other than funding received in connection with the LPC Purchase Agreement, to refinance existing debt and up to $500,000 funding for general working capital or other business uses, the December 2012 Funding Letter would be terminated. As provided in the A-13 Designation, any shares of Series A-13 still outstanding as of December 31, 2012 would automatically convert into our common shares. In December 2012, as part of a transaction under which J&C Resources issued us the December 2012 Funding Letter, we agreed to reimburse CCJ in cash the shortfall, payable on December 31, 2014, as compared to minimum guaranteed net proceeds of $175,000, from their resale of 437,500 common shares CCJ received on December 31, 2012 upon their conversion of 17,500 shares of Series A-13 and after effecting our agreement as part of the same transaction to reduce the conversion rate on all Series A-13 shares from $1.72 per common share to $0.40 per common share. Based on the estimated shortfall calculated based on the closing ONSM share price on the date of the agreement with J&C Resources, plus the increased value of the underlying common stock related to this tranche of Series A-13 shares owned by CCJ, the total economic cost of the December 2012 Funding Letter was approximately $151,000.
During 2008 we received an aggregate of $1.0 million from seven accredited individuals and other entities (the “Investors”), under a software and equipment financing arrangement. This included $50,000 received on July 8, 2008 from CCJ Trust (“CCJ”). We issued notes to those Investors (the “Equipment Notes”), which had an original maturity date of June 3, 2011 and were collateralized by specifically designated software and equipment owned by us with a cost basis of approximately $1.5 million, as well as a subordinated lien on certain other of our assets to the extent that the designated software and equipment, or other software and equipment added to the collateral at a later date, is not considered sufficient security for the loan. The Equipment Notes were originally convertible to restricted ONSM common shares at any time prior to their maturity date, at the Investors’ option, based on a conversion price equal to seventy-five percent (75%) of the average ONSM closing price for the thirty (30) trading days prior to the date of conversion, but in no event may the conversion price be less than $4.80 per share. On April 4, 2011 we offered to amend the Equipment Notes, which offer was accepted by certain of those Investors including CCJ, to allow the conversion of 25% of the outstanding principal using a conversion price of $1.20 per share. On April 28, 2011 we offered to amend the Equipment Notes, which offer was accepted by certain of those Investors including CCJ, to allow the conversion of 25% of the outstanding principal using a conversion price of $1.00 per share. Effective October 1, 2011 certain of these Equipment Notes, including $25,000 due to CCJ, were further amended to provide for an October 15, 2012 maturity date and a $0.70 per common share conversion rate (at the Investors’ option). In addition, the payment terms were amended so that 50% of the principal would be paid in eleven equal monthly installments commencing November 15, 2011 and 50% of the principal would be payable on the Maturity Date. In October 2011, CCJ’s note was assigned to a third party unrelated to CCJ, Mr. Johnston or Onstream Media Corporation.
On January 2, 2013 we received $25,000 pursuant to an unsecured promissory note issued to CCJ (the “New CCJ Note”), bearing interest at 12% per annum and subordinated to our secured debts to Thermo Credit and Rockridge Capital. New CCJ Note payments are interest only during the first year, approximately 30% of the principal plus interest during the second year and the remaining principal balance at the end of the twenty-fifth month. In connection with this financing, we issued 30,000 restricted common shares (the “CCJ Common Stock”) to CCJ, of which we have agreed to buy back up to 5,000 shares, under certain terms. The buy-back terms are as follows: If the fair market value of the CCJ Common Stock is not equal to at least $0.80 per share on the date one (1) year after issuance, we will buy back, to the extent permitted by law, up to 2,500 shares of the originally issued CCJ Common Stock from CCJ at $0.80 per share. If the fair market value of the CCJ Common Stock is not equal to at least $0.80 per share on the date two (2) years after issuance, we will buy back, to the extent permitted by law, up to 5,000 shares of the originally issued CCJ Common Stock, less the amount of any shares already bought back at the one year point, from CCJ at $0.80 per share. The above only applies to the extent the CCJ Common Stock is still held by CCJ at the applicable dates. On November 4, 2013, the outstanding principal balance of the $25,000 note issued to CCJ, as well as accrued but unpaid interest, in the aggregate amount of $26,000 was satisfied from the gross proceeds of a $250,000 note issued by us to the same lender. However, Mr. Johnston was no longer an ONSM director at the time the $250,000 note was negotiated.
Review, approval or ratification of transactions with related persons
Prior to us entering into any related person transaction, our Board of Directors reviews the terms of the proposed transaction to ensure that they are fair and reasonable, on market terms and on an arms-length basis. Legal or other counsel is consulted as appropriate.
If a related party transaction involves compensation or is otherwise related to an employment relationship with us, the related party transaction will be reviewed by the Compensation Committee. Related party transactions are reported to the Audit Committee for their review and approval of the related disclosure.
With respect to transactions in which a director or executive officer or immediate family member may have a direct or indirect material interest, only disinterested members of the Board of Directors, the Compensation Committee and/or the Audit Committee may vote on whether to approve the transaction.
Director independence
Our independent directors are Messrs. Silva, Nowalsky and Whitney.
ITEM 14.
ITEM 14.
PRINCIPAL ACCOUNTING FEES AND SERVICES
Audit Fees
The audit fees billed to us by Mayer Hoffman McCann P.C. (“MHM”) for professional services rendered during the fiscal year ended September 30, 2013 were $229,100 for the audit of our annual financial statements included in our Annual Report on Form 10-K for the fiscal year ended September 30, 2012 as well as the review of our quarterly financial statements included in our quarterly reports on Form 10-Q for the quarters ended December 31, 2012, and March 31 and June 30, 2013.
The audit fees billed to us by MHM for professional services rendered during the fiscal year ended September 30, 2012 were $220,000 for the audit of our annual financial statements included in our Annual Report on Form 10-K for the fiscal year ended September 30, 2011 as well as the review of our quarterly financial statements included in our quarterly reports on Form 10-Q for the quarters ended December 31, 2011, and March 31 and June 30, 2012.
Audit Related Fees
The aggregate fees billed to us by MHM for assurance and related services relating to the performance of the audit of our financial statements which are not reported under the caption "Audit Fees" above were $8,509 and none for the fiscal years ended September 30, 2013 and 2012, respectively.
Tax Fees
The aggregate fees billed to us by MHM for tax related services were $750 and none for the fiscal years ended September 30, 2013 and 2012, respectively.
All Other Fees
Other than fees relating to the services described above under “Audit Fees,” “Audit-Related Fees” and “Tax Fees,” there were no additional fees billed to us by MHM for services rendered for the fiscal years ended September 30, 2013 or 2012.
Audit Committee Policies
Effective May 6, 2003, the Securities and Exchange Commission adopted rules that require that before our independent auditor is engaged by us to render any auditing or permitted non-audit related service, the engagement be:
·
approved by our audit committee; or
·
entered into pursuant to pre-approval policies and procedures established by the audit committee, provided the policies and procedures are detailed as to the particular service, the audit committee is informed of each service, and such policies and procedures do not include delegation of the audit committee's responsibilities to management.
The audit committee pre-approves all services provided by our independent auditors, including those set forth above. The audit committee has considered the nature and amount of fees billed by Goldstein Lewin and MHM and believes that the provision of services for activities unrelated to the audit is compatible with maintaining Goldstein Lewin’s and MHM’s independence.
MHM leases substantially all its personnel, who work under the control of MHM shareholders, from wholly-owned subsidiaries of CBIZ, Inc., in an alternative practice structure.
PART IV
ITEM 15.
ITEM 15.
EXHIBITS, FINANCIAL STATEMENT SCHEDULES
The following documents are filed as a part of this report or are incorporated by reference to previous filings, if so indicated:
Number
Description
2.1
Agreement and Plan of Merger dated as of October 22, 2003 by and between Visual Data Corporation, OSM, Inc., a subsidiary of Visual Data Corporation, and Onstream Media Corporation (11)
2.2
Amendment #1 to Agreement and Plan of Merger dated as of October 15, 2004 by and between Visual Data Corporation, OSM, Inc., a subsidiary of Visual Data Corporation, and Onstream Media Corporation (13)
2.3
Agreement and Plan of Merger dated June 4, 2001 among Entertainment Digital Network, Inc., Visual Data Corporation and Visual Data San Francisco, Inc. (6)
2.4
Agreement and Plan of Reorganization between Visual Data Corporation, Media on Demand, Inc. and Charles Saracino (6)
2.5
Infinite Conferencing Merger Agreement dated March 26, 2007 (17)
3.1.1
Articles of Incorporation (1)
3.1.2
Articles of Amendment dated July 26, 1993 (1)
3.1.3
Articles of Amendment dated January 17, 1994 (1)
3.1.4
Articles of Amendment dated October 11, 1994 (1)
3.1.5
Articles of Amendment dated March 25, 1995 (1)
3.1.6
Articles of Amendment dated October 31, 1995 (1)
3.1.7
Articles of Amendment dated May 23, 1996 (1)
3.1.8
Articles of Amendment dated May 5, 1998 (2)
3.1.9
Articles of Amendment dated August 7, 1998 (3)
3.1.10
Articles of Amendment dated May 22, 2000 (4)
3.1.11
Articles of Amendment dated April 11, 2002 (7)
3.1.12
Articles of Amendment dated June 24, 2003, with regard to Series A-9 Convertible Preferred Stock (8)
3.1.13
Articles of Amendment dated June 20, 2003, with regard to reverse stock split (9)
3.1.14
Articles of Amendment dated December 23, 2004, with regard to the designations for Series A-10 Convertible Preferred Stock (14)
3.1.15
Articles of Amendment dated December 30, 2004, with regard to corporate name change (13)
3.1.16
Articles of Amendment dated February 7, 2005 with regard to the designations for Series A-10 Convertible Preferred Stock (15)
3.1.17
Articles of Amendment dated January 7, 2009 with regard to the designations for Series A-12 Redeemable Convertible Preferred Stock (18)
3.1.18
Articles of Amendment dated December 23, 2009 with regard to the designations for Series A-13 Convertible Preferred Stock (19)
3.1.19
Articles of Amendment dated April 5, 2010 with regard to reverse stock split (23)
3.1.20
Articles of Amendment dated June 17, 2010 with regard to the number of authorized shares (24)
3.1.21
Articles of Amendment dated September 22, 2010 with regard to the designations for Series A-14 Convertible Preferred Stock (25)
3.1.22
Articles of Amendment dated March 2, 2011 with regard to the designations for Series A-13 Convertible Preferred Stock (20)
3.1.23
Articles of Amendment dated January 20, 2012 with regard to the designations for Series A-13 Convertible Preferred Stock (26)
3.1.24
Articles of Amendment dated December 21, 2012 with regard to the designations for Series A-13 Convertible Preferred Stock (27)
3.2
By-laws (1)
4.1
Specimen Common Stock Certificate (1)
4.2
12% Convertible Secured Note - Rockridge (16)
4.3
Allonge to 12% Convertible Secured Note - Rockridge (22)
4.4
Allonge #2 to 12% Convertible Secured Note - Rockridge
4.5
Amended and Restated Promissory Note dated December 27, 2011 - Thermo Credit (28)
4.6
Senior Secured Note issued to Sigma Opportunity Fund II, LLC by Onstream Media and its Subsidiaries, dated March 18, 2013 (30)
4.7
First Amendment and Allonge to Secured Promissory Note issued to Sigma Opportunity Fund II, LLC by Onstream Media and its Subsidiaries, dated June 14, 2013
10.1
Form of 2007 Equity Incentive Plan (29)
10.2
Employment Agreement (Amended) dated August 11, 2009 between Onstream Media Corporation and Randy S. Selman (19)
10.3
Employment Agreement (Amended) dated August 11, 2009 between Onstream Media Corporation and Alan Saperstein (19)
10.4
Employment Agreement (Amended) dated August 11, 2009 between Onstream Media Corporation and Clifford Friedland (19)
10.5
Employment Agreement (Amended) dated August 11, 2009 between Onstream Media Corporation and David Glassman (19)
10.6
Employment Agreement (Amended) dated August 11, 2009 between Onstream Media Corporation and Robert Tomlinson (19)
10.7
Note and Stock Purchase Agreement for 12% Convertible Secured Note - Rockridge (16)
10.8
Security Agreement for 12% Convertible Secured Note - Rockridge (16)
10.9
First Amendment to Note and Stock Purchase Agreement for 12% Convertible Secured Note - Rockridge (22)
10.10
Amended and Restated Loan Agreement dated December 27, 2011 - Thermo Credit (28)
10.11
Amended and Restated Security Agreement dated December 27, 2011 - Thermo Credit (28)
10.12
Note Purchase Agreement between Sigma Opportunity Fund II, LLC and Onstream Media and its Subsidiaries, dated March 18, 2013 (30)
10.13
Agreement between Sigma Opportunity Fund II, LLC and Onstream Media and its Subsidiaries, dated June 14, 2013 with respect to March 18, 2013 Note Purchase Agreement
10.14
Security Agreement between Sigma Opportunity Fund II, LLC and Onstream Media and its Subsidiaries, dated March 18, 2013 (30)
10.15
Advisory Services Agreement between Sigma Capital Advisors, LLC and Onstream Media, dated March 18, 2013 (30)
10.16
Office Lease with 100 Morris Avenue Partners dated August 6, 2012
10.17
Addendum dated July 8, 2013 to Office Lease with 100 Morris Avenue Partners
14.1
Code of Business Conduct and Ethics (11)
14.2
Corporate Governance and Nominating Committee Principles (23)
14.3
Audit Committee Charter
14.4
Compensation Committee Charter
21.1
Subsidiaries of the Registrant
23.1
Consent of Independent Registered Public Accounting Firm
31.1
Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer
31.2
Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer
32.1
Section 906 Certification of Chief Executive Officer
31.2
Section 906 Certification of Chief Financial Officer
Interactive data files pursuant to Rule 405 of Regulation S-T, as follows:
101.INS - XBRL Instance Document
101.SCH - XBRL Taxonomy Extension Schema Document
101.CAL - XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF - XBRL Taxonomy Extension Definition Linkbase Document
101.LAB - XBRL Taxonomy Extension Label Linkbase Document
101.PRE - XBRL Taxonomy Extension Presentation Linkbase Document
(1)
Incorporated by reference to the exhibit of the same number filed with the registrant's registration statement on Form SB-2, registration number 333-18819, as amended and declared effective by the SEC on July 30, 1997.
(2)
Incorporated by reference to the registrant's current report on Form 8-K dated May 19, 1998.
(3)
Incorporated by reference to the registrant's current report on Form 8-K dated August 21, 1998.
(4)
Incorporated by reference to the registrant's Quarterly Report on Form 10-QSB for the period ended June 30, 2000.
(5)
Incorporated by reference to the registrant’s current report on Form 8-K filed on June 12, 2001.
(6)
Incorporated by reference to the registrant’s current report on Form 8-K filed on February 5, 2002.
(7)
Incorporated by reference to the registrant's registration statement on Form S-3, file number 333-89042, filed on May 24, 2002.
(8)
Incorporated by reference to the registrant's current report on Form 8-K filed July 2, 2003.
(9)
Incorporated by reference to the registrant's Quarterly Report on Form 10-QSB for the period ended June 30, 2003 and filed on August 13, 2003.
(10)
Incorporated by reference to the registrant's current report on Form 8-K filed October 28, 2003.
(11)
Incorporated by reference to the registrant’s Annual Report on Form 10-KSB for the year ended September 30, 2003 and filed on December 22, 2003.
(12)
Incorporated by reference to the registrant’s Annual Report on Form 10-KSB for the year ended September 30, 2004 and filed on January 13, 2005.
(13)
Incorporated by reference to the registrant’s current report on Form 8-K filed on January 4, 2005.
(14)
Incorporated by reference to the registrant’s current report on Form 8-K/A filed on January 4, 2005.
(15)
Incorporated by reference to the registrant's current report on Form 8-K filed February 11, 2005.
(16)
Incorporated by reference to the registrant's current report on Form 8-K filed April 20, 2009.
(17)
Incorporated by reference to the registrant's current report on Form 8-K filed March 28, 2007.
(18)
Incorporated by reference to the registrant's current report on Form 8-K filed January 7, 2009.
(19)
Incorporated by reference to the registrant's Annual Report on Form 10-K for the period ended September 30, 2009 filed on December 29, 2009.
(20)
Incorporated by reference to the registrant's current report on Form 8-K filed March 4, 2011.
(21)
Incorporated by reference to the registrant's Proxy Statement for the 2008 and 2009 Annual Shareholders Meeting filed on January 28, 2009.
(22)
Incorporated by reference to the registrant's current report on Form 8-K filed September 18, 2009.
(23)
Incorporated by reference to the registrant's current report on Form 8-K filed April 6, 2010.
(24)
Incorporated by reference to the registrant's current report on Form 8-K filed June 18, 2010. (25)
Incorporated by reference to the registrant's current report on Form 8-K filed September 23, 2010.
(26)
Incorporated by reference to the registrant's current report on Form 8-K filed January 24, 2012.
(27)
Incorporated by reference to the registrant's current report on Form 8-K filed December 26, 2012.
(28)
Incorporated by reference to the registrant's Quarterly Report on Form 10-Q for the period ended December 31, 2011 and filed on February 21, 2012.
(29)
Incorporated by reference to the registrant's Annual Report on Form 10-K for the period ended September 30, 2011 and filed on January 13, 2012.
(30)
Incorporated by reference to the registrant's current report on Form 8-K filed March 22, 2013.
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.
Onstream Media Corporation (Registrant)
By: /s/ Randy S. Selman
Randy S. Selman
President, Chief Executive Officer
Date: February 19, 2014
By: /s/ Robert E. Tomlinson
Robert E. Tomlinson
Chief Financial Officer and
Principal Accounting Officer
Date: February 19, 2014
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.
Signature
Title
Date
By: /s/ Randy S. Selman Director, President, February 19, 2014
Randy S. Selman Chief Executive Officer
By: /s/ Robert E. Tomlinson Chief Financial Officer and February 19, 2014
Robert E. Tomlinson Principal Accounting Officer
By: /s/ Alan Saperstein Director and Chief February 19, 2014
Alan Saperstein Operating Officer
By: /s/ Clifford Friedland Director and Senior Vice February 19, 2014
Clifford Friedland President Business Development
By: /s/ Carl Silva Director February 19, 2014
Carl Silva
By: /s/ Leon Nowalsky Director February 19, 2014
Leon Nowalsky
By: /s/ Robert D. (“RD”) Whitney Director February 19, 2014
Robert D. (“RD”) Whitney
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
To the Board of Directors
Onstream Media Corporation
Pompano Beach, Florida
We have audited the accompanying consolidated balance sheets of Onstream Media Corporation and subsidiaries as of September 30, 2013 and 2012 and the related consolidated statements of operations, stockholders' equity and cash flows for each of the years in the two-year period ended September 30, 2013. Onstream Media Corporation and subsidiaries’ management is responsible for these financial statements. Our responsibility is to express an opinion on these 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 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 financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Onstream Media Corporation and subsidiaries as of September 30, 2013 and 2012, and the results of their operations and their cash flows for each of the years in the two-year period ended September 30, 2013, in conformity with accounting principles generally accepted in the United States of America.
/s/ Mayer Hoffman McCann P.C.
MAYER HOFFMAN MCCANN P.C.
Certified Public Accountants
Boca Raton, Florida
February 19, 2014
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
The accompanying notes are an integral part of these consolidated financial statements.
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF OPERATIONS
The accompanying notes are an integral part of these consolidated financial statements.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
YEARS ENDED SEPTEMBER 30, 2012 AND 2013
(Continued)
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY
YEARS ENDED SEPTEMBER 30, 2012 AND 2013
(Continued)
The accompanying notes are an integral part of these consolidated financial statements.
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS
(Continued)
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Continued)
The accompanying notes are an integral part of these consolidated financial statements.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES
Nature of Business
Onstream Media Corporation (“we” or "Onstream" or "ONSM"), organized in 1993, is a leading online service provider of live and on-demand corporate audio and web communications, virtual event technology and social media marketing, provided primarily to corporate (including large as well as small to medium sized businesses), education and government customers.
The Audio and Web Conferencing Services Group consists of our Infinite Conferencing (“Infinite”) division, our Onstream Conferencing Corporation (“OCC”) division and our EDNet division. Our Infinite division, which operates primarily from the New York City area, and our OCC division, which operates primarily from San Diego, California, generate revenues from usage charges and fees for other services provided in connection with “reservationless” and operator-assisted audio and web conferencing services - see note 2.
The EDNet division, which operates primarily from San Francisco, California, provides connectivity (in the form of high quality audio, compressed video and multimedia data communications) within the entertainment and advertising industries through its managed network, which encompasses production and post-production companies, advertisers, producers, directors, and talent. EDNet generates revenues primarily from network access and usage fees as well as sale, rental and installation of equipment.
The Digital Media Services Group consists primarily of our Webcasting division and our DMSP (“Digital Media Services Platform”) division. The DMSP division includes the related UGC (“User Generated Content”) and Smart Encoding divisions.
The Webcasting division, which operates primarily from Pompano Beach, Florida and has a sales and support facility in New York City, provides an array of corporate-oriented, web-based media services to the corporate market including live audio and video webcasting and on-demand audio and video streaming for any business, government or educational entity. As of October 1, 2013, the Webcasting division became responsible for sales of the MarketPlace365 service. The Webcasting division generates revenue primarily through production and distribution fees.
The DMSP division, which operates primarily from Colorado Springs, Colorado, provides an online, subscription based service that includes access to enabling technologies and features for our clients to acquire, store, index, secure, manage, distribute and transform these digital assets into saleable commodities. The DMSP division generates revenues primarily from monthly subscription fees, plus charges for hosting, storage and professional services. Our UGC division, which also operates as Auction Video (see note 2) and operates primarily from Colorado Springs, Colorado, provides a video ingestion and flash encoder that can be used by our clients on a stand-alone basis or in conjunction with the DMSP. The Smart Encoding division, which operates primarily from San Francisco, California, provides both automated and manual encoding and editorial services for processing digital media. This division also provides hosting, storage and streaming services for digital media, which are provided via the DMSP.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Liquidity
Our consolidated financial statements have been presented on the basis that we are an ongoing concern, which contemplates the realization of assets and the satisfaction of liabilities in the normal course of business. We have incurred losses since our inception, and have an accumulated deficit of approximately $138.8 million as of September 30, 2013. Our operations have been financed primarily through the issuance of equity and debt, including convertible debt and debt combined with the issuance of equity.
Effective October 22, 2012, we moved the listing of our common stock from The NASDAQ Capital Market ("NASDAQ") to OTC Markets' OTCQB marketplace ("OTCQB"), maintaining our ticker symbol "ONSM". On October 21, 2011, we received a letter from NASDAQ advising us that for the 30 consecutive trading days preceding the date of the notice, the bid price of our common stock had closed below the $1.00 per share minimum bid price required for continued listing on The NASDAQ Capital Market, pursuant to NASDAQ Listing Rule 5550(a)(2)(a) (the “Bid Price Rule”). The letter stated that we would be provided 180 calendar days, or until April 18th, 2012, to regain compliance with the Bid Price Rule, which deadline was subsequently extended on a one-time basis to October 15, 2012. To regain compliance, the closing bid price of our common stock would have needed to be at least $1.00 per share for a minimum of ten consecutive business days prior to that date. We carefully evaluated our options to maintain our listing on NASDAQ, including whether or not to implement a reverse split to satisfy the $1.00 per share minimum bid price requirement, and concluded that it was not in the best interest of our shareholders.
For the year ended September 30, 2013, we had a net loss of approximately $7.2 million, although cash provided by operating activities for that period was approximately $504,000. Although we had cash of approximately $257,000 at September 30, 2013, we had a working capital deficit of approximately $4.1 million at that date.
During the period from June 2013 through January 2014 (i) we made certain headcount reductions representing approximately $962,000 in annualized savings, which we expect will reduce our compensation and professional fee expenditures by approximately $822,000 in aggregate for fiscal 2014 as compared to 2013 and (ii) we also renegotiated various supplier contracts representing approximately $331,000 in annualized savings, which we expect will cumulatively reduce our cost of sales and other general and administrative expenditures by approximately $242,000 for fiscal 2014 as compared to fiscal 2013.
On November 30, 2012 we acquired certain assets and operations of Intella2 Inc., a San Diego-based communications company (“Intella2”) - see note 2. The acquired Intella2 operations have achieved positive operating cash flow through September 30, 2013, although we also incurred debt and other liabilities during the year ended September 30, 2013 that was associated specifically or generally with this acquisition - see notes 2 and 4.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Liquidity (continued)
On February 6, 2014, we received a funding commitment letter (the “Funding Letter”) from J&C Resources, Inc. (“J&C”), agreeing to provide us, within twenty (20) days after our notice on or before December 31, 2014, aggregate cash funding of up to $800,000. Mr. Charles Johnston, a former ONSM director, is the president of J&C. This Funding Letter was obtained solely to demonstrate our ability to obtain short-term funds in the event other funding sources are not available. Cash provided under the Funding Letter would be in exchange for our issuance of (a) a note or notes with interest payable monthly at 15% per annum and principal payable on the earlier of a date twelve months from funding or July 1, 2015 and (b) 7.5 million unregistered common shares, which shares would be prorated in the case of partial funding. The note or notes would be unsecured and subordinated to all of our other debts, except to the extent such the terms of such debts would allow pari passu status. Furthermore, the note or notes would not be subject to any provisions, other than with respect to priority of payments or collateral, of our other debts. Upon receipt by us of funds in excess of $5.0 million as a result of a single transaction for the sale of all or a part of its operations or assets, this Funding Letter will be terminated. $25,000 paid by us as consideration for the Funding Letter was deducted from the proceeds of the Working Capital Notes - see note 9.
On February 6, 2014, we executed a summary term sheet (the “Sigma Term Sheet”) with Sigma Opportunity Fund II, LLC (“Sigma”), whereby Sigma agreed to provide us financing under the following terms, subject to mutually agreeable documentation (including customary representations, warranties, default provisions, indemnities, covenants, seniority and security equivalent to those in the existing Sigma Note - see note 4) and with both parties committing their best efforts to finalize the documentation and the transaction by February 28, 2014 (“Closing”):
· $500,000 (the “New Sigma Note”) would be funded to us at Closing and would be repayable by us on October 31, 2014. In addition, principal and interest payments otherwise due on the existing Sigma Note, starting with the December 31, 2013 payment and ending with the September 30, 2014 payment, would be deferred until the December 18, 2014 maturity date of the Sigma Note. Interest at 17% per annum will accrue on the new Sigma Note as well as the deferred payments under the existing Sigma Note, compounding monthly, and will be payable at the respective principal maturity dates. Upon receipt by us of funds in excess of $2.0 million as a result of (i) the sale of all or a part of our operations or assets or (ii) fees or commissions related to any mergers/acquisition related activities, all outstanding principal and interest due with respect to the New Sigma Note and the existing Sigma Note would be due.
· We will be required to use at least $107,000 of the New Sigma Note proceeds to pay principal on the Rockridge Note and we have agreed with Rockridge to make related modifications in the Rockridge Note - see note 4. The New Sigma Note will require modification of the existing subordination agreements with Thermo and Rockridge, and Sigma will require that Rockridge agree that Sigma has the right, but not the obligation, to repay the Rockridge Note at face value at any point after August 14, 2014, and always in case of a default on the Sigma or Rockridge Notes. Such repayment amount would be added to the principal of the existing Sigma Note and be due December 18, 2014, and Sigma would receive fees calculated on a pro-rata basis comparable to the terms of the New Sigma Note, based on the amount repaid and the amount of time the repaid debt would be unpaid by us after such repayment.
· In connection with this new financing, we paid Sigma $10,000 for their legal fees at the time of signing the Sigma Term Sheet. Upon Closing we will pay Sigma fees of $142,857, of which $92,857 would be withheld at Closing from the gross proceeds of the New Sigma Note and the balance repaid at $10,000 per month commencing March 1, 2014. These fees will be due regardless of the early repayment of the Sigma Notes. At Closing, we will also issue Sigma 500,000 common shares. If the New Sigma Note (and all accrued interest) is not paid back by August 14, 2014, we will pay Sigma an additional $100,000 cash fee and issue 1.5 million common shares. If we sign a letter of intent for sale of any of our business units or subsidiaries and for related proceeds in excess of $2 million that Sigma approves in its sole but reasonable discretion, then the August 14, 2014 share issuance shall be 300,000 shares. If the 1.5 million shares are issued on August 14, 2014, but the New Sigma Note, the Sigma Note and any other amounts due to Sigma are paid by December 18, 2014, then Sigma shall return 1.1 million common shares. In the event that we elect not to proceed with this financing, we shall pay Sigma a break-up fee comprised of $20,000 plus reimbursement of their incurred expenses related to this new financing (after a credit for the initial $10,000 paid by us).
· Sigma shall have the right to convert the New Sigma Note, in its entirety or partially, and at its option, into our common shares at a price of $1.00 per share. Commencing on December 18, 2014, and extending for a period of one year thereafter, Sigma will have the right to require us to purchase up to 1 million of their outstanding, non-sold, ONSM common shares, at $0.25 per share. In addition, if the Sigma Note and all other amounts due to Sigma are not paid by December 18, 2014, on December 19, 2015 we will be obligated to make up $0.05 per share for every share (up to another 1 million shares) that Sigma sold on the market in 2015 for an average price of less than $0.25 per share.
· At any time prior to December 18, 2014, and extending for a period of one year thereafter, we shall have the right to purchase any and all outstanding, non-sold, common ONSM shares we have issued to Sigma at the higher of: 1) a 20% discount to the 15 trading day volume-weighted average share price (“VWAP”) or 2) $0.25 per share.
During the year ended September 30, 2013, our revenues were not sufficient to fund our total cash expenditures (operating, capital and debt service) for that period. Because of our expectations with respect to our recent and anticipated introductions of several new or enhanced products and our recent increases in sales and marketing expenditures, as well as our anticipated recognition of Intella2 revenues for twelve months in fiscal 2014 as compared to the ten months we recognized in fiscal 2013 (see note 2), we expect our consolidated fiscal 2014 revenues to exceed our consolidated fiscal 2013 revenues. However, in the event we are unable to achieve the necessary revenue increases to fund our total cash expenditures, we believe that identified decreases in our current level of expenditures that we have already planned to implement or could implement (in addition to the already implemented cost savings discussed above and including a significant reduction in our software development costs and capital equipment purchases) and the raising of additional capital in the form of debt and/or equity and/or the sales of assets or operations would be sufficient to fund our operations through September 30, 2014. We will closely monitor our revenue and other business activity to determine if and when further cost reductions, the raising of additional capital or other activity is considered necessary. The Executives have agreed to defer a portion of their compensation in the past, to the extent we needed that cash to meet other operating expenses - see note 5 for details - and, in the event of extremely critical or urgent requirements in the future, are expected to continue to do so.
Our continued existence is dependent upon our ability to raise capital and to market and sell our services successfully. However, there are no assurances whatsoever that we will be able to sell additional common shares or other forms of equity and/or that we will be able to borrow further funds other than under the Line, the Funding Letter or the Sigma Term Sheet and/or that we will be able to sell assets or operations and/or that we will increase our revenues and/or control our expenses to a level sufficient to provide positive cash flow. The financial statements do not include any adjustments to reflect future effects on the recoverability and classification of assets or amounts and classification of liabilities that may result if we are unsuccessful.
The resolution of debt and other obligations becoming due within a short time after September 30, 2014 (the end of the one year time frame on which our liquidity analysis and conclusions above were based) represents a future unknown contingency.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Basis of Consolidation
The accompanying consolidated financial statements include the accounts of Onstream Media Corporation and its subsidiaries - Infinite Conferencing, Inc., Entertainment Digital Network, Inc., OSM Acquisition, Inc., Onstream Conferencing Corporation, AV Acquisition, Inc., Auction Video Japan, Inc., HotelView Corporation and Media On Demand, Inc. All significant intra-entity accounts and transactions have been eliminated in consolidation.
Cash and cash equivalents
Cash and cash equivalents consists of all highly liquid investments with original maturities of three months or less.
Concentration of Credit Risk
We at times have cash in banks in excess of FDIC insurance limits and place our temporary cash investments with high credit quality financial institutions. We perform ongoing credit evaluations of our customers' financial condition and do not require collateral from them. Reserves for credit losses are maintained at levels considered adequate by our management.
Bad Debt Reserves
Where we are aware of circumstances that may impair a specific customer's ability to meet its financial obligations, we record a specific allowance against amounts due from it, and thereby reduce the receivable to an amount we reasonably believe will be collected. For all other customers, we recognize allowances for doubtful accounts based on the length of time the receivables are past due, the current business environment and historical experience.
Inventories
Inventories are stated at the lower of cost (first-in, first-out method) or market by analyzing market conditions, current sales prices, inventory costs, and inventory balances. We evaluate inventory balances for excess quantities and obsolescence on a regular basis by analyzing backlog, estimated demand, inventory on hand, sales levels and other information. Based on that analysis, our management estimates the amount of provisions made for obsolete or slow moving inventory.
Fair Value Measurements
In accordance with the Financial Instruments topic of the ASC, we may elect to report most financial instruments and certain other items at fair value on an instrument-by-instrument basis with changes in fair value reported in earnings. After the initial adoption, the election is made at the acquisition of an eligible financial asset, financial liability, or firm commitment or when certain specified reconsideration events occur. The fair value election may not be revoked once an election is made. We have elected not to measure eligible financial assets and liabilities at fair value.
We have determined that the carrying amounts of cash and cash equivalents, accounts receivable, accounts payable, accrued liabilities, amounts due to directors and officers and deferred revenue approximate fair value due to the short maturity of the instruments. We have also determined that the carrying amounts of certain notes and other debt approximate fair value due to the short maturity of the instruments, as well as the market value interest rates they carry - these include the Line and Equipment Notes and Leases. The accrued liability for the contingent portion of the Intella2 purchase price, a portion of which is classified as non-current as of September 30, 2013, was determined based on its fair value as of the November 30, 2012 Intella2 acquisition - see note 2 - and the fair value of that liability will be re-evaluated at the end of each subsequent accounting period and adjusted accordingly.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Fair Value Measurements (continued)
We have determined that the Rockridge Note, the CCJ Note, the Equipment Notes, the Subordinated Notes, the Intella2 Investor Notes, the Investor Notes, the Fuse Note, the Sigma Note and the USAC Note (the “Instruments”), discussed in note 4, meet the definition of a financial instrument as contained in the Financial Instruments topic of the Accounting Standards Codification (“ASC”), as this definition includes a contract that imposes a contractual obligation on us to deliver cash to the other party to the contract and/or exchange other financial instruments with the other party to the contract on potentially unfavorable terms. Accordingly, these items are (or were) financial liabilities subject to the accounting and disclosure requirements of the Fair Values Measurements and Disclosures topic of the ASC, whereby such liabilities are presented at fair value, which is defined as the exchange price that would be received for 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. Valuation techniques used to measure fair value should maximize the use of observable inputs and minimize the use of unobservable inputs.
The accounting standards describe a fair value hierarchy based on three levels of inputs, of which the first two are considered observable and the last unobservable, that may be used to measure fair value:
Level 1 - Quoted prices in active markets for identical assets or liabilities.
Level 2 - Inputs other than Level 1 that are observable, either directly or indirectly, 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.
We have determined that there are no Level 1 inputs for determining the fair value of the Instruments. However, we have determined that the fair value of the Instruments may be determined using Level 2 inputs, as follows: the fair market value interest rate paid by us under the Line, as discussed in note 4. We have also determined that the fair value of the Instruments may be determined using Level 3 inputs, as follows: third party studies arriving at recommended discount factors for valuing payments made in unregistered restricted stock instead of cash, interest rates and other related expenses such as finders and origination fees observed in our ongoing and active negotiations with various financing sources, including the terms of transactions engaged in by us that are not eligible to be Level 2 inputs because of the non-comparable duration of the transaction as compared to the transaction being valued. Level 3 inputs currently used by us in our fair value calculations with respect to the Instruments include finders and origination fees ranging between 10% and 14% per annum and periodic interest rate premiums arising from less favorable collateral and/or payment priority, as compared to the Line, ranging between 6% and 11% per annum.
Using the inputs described above, we have determined that there was no material difference between the carrying value and the fair value of the Instruments as of September 30, 2013, September 30, 2012, or September 30, 2011 and therefore no adjustment with respect to fair value was made to our consolidated financial statements as of those dates or for the years ended September 30, 2013 and 2012.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Goodwill and other intangible assets
In accordance with the Intangibles - Goodwill and Other topic of the ASC, goodwill is reviewed annually (or more frequently if impairment indicators arise) for impairment. We follow a two-step process for impairment testing of goodwill. The first step of this test, used to identify potential impairment and described above, compares the fair value of a reporting unit with its carrying amount, including goodwill. The second step, if necessary, measures the amount of the impairment, including a comparison and reconciliation of the carrying value of all of our reporting units to our market capitalization, after appropriate adjustments for control premium and other considerations.
During our fourth fiscal quarter ended September 30, 2011, we elected early adoption of the provisions of an ASC update to the above accounting standards that allow us to forego the two step impairment process based on certain qualitative evaluation - see discussion in Effects of Recent Accounting Pronouncements below. Also see note 2 - Goodwill and other Acquisition-Related Intangible Assets.
Other intangible assets, such as customer lists, are amortized to expense over their estimated useful lives, although they are still subject to review and adjustment for impairment.
We review our long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. We assess the recoverability of such assets by comparing the estimated undiscounted cash flows associated with the related asset or group of assets against their respective carrying amounts. The impairment amount, if any, is calculated based on the excess of the carrying amount over the fair value of those assets.
Property and Equipment
Property and equipment are recorded at cost, less accumulated depreciation. Property and equipment under capital leases are stated at the lower of the present value of the minimum lease payments at the beginning of the lease term or the fair value at the inception of the lease. Depreciation is computed using the straight-line method over the estimated useful lives of the related assets. Amortization expense on assets acquired under capital leases is included in depreciation expense. The costs of leasehold improvements are amortized over the lesser of the lease term or the life of the improvement.
Software
Software developed for internal use, including the Digital Media Services Platform (“DMSP”), iEncode and other webcasting software and MarketPlace365 (“MP365”) platform, is included in property and equipment - see notes 2 and 3. Such amounts are accounted for in accordance with the Intangibles - Goodwill and Other topic of the ASC and amortized on a straight-line basis over three to five years, commencing when the related asset (or major upgrade release thereof) has been substantially placed in service.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Revenue Recognition
Revenues from sales of goods and services are recognized when (i) persuasive evidence of an arrangement between us and the customer exists, (ii) the goods or service has been provided to the customer, (iii) the price to the customer is fixed or determinable and (iv) collectibility of the sales price is reasonably assured.
The Infinite and OCC divisions of the Audio and Web Conferencing Services Group generate revenues from audio conferencing and web conferencing services, plus recording and other ancillary services. Infinite and OCC own telephone switches used for audio conference calls by its customers, which are generally charged for those calls based on a per-minute usage rate. Infinite provides online webconferencing services to its customers, charging either a per-minute rate or a monthly subscription fee allowing a certain level of usage. Audio conferencing and web conferencing revenue is recognized based on the timing of the customer’s use of those services.
The EDNet division of the Audio and Web Conferencing Services Group generates revenues from customer usage of digital telephone connections controlled by EDNet, as well as bridging services and the sale and rental of equipment. EDNet purchases digital phone lines from telephone companies (and resellers) and sells access to the lines, as well as separate per-minute usage charges. Network usage and bridging revenue is recognized based on the timing of the customer’s use of those services.
EDNet sells various audio codecs and video transport systems, equipment which enables its customers to collaborate with other companies or with other locations. As such, revenue is recognized for the sale of equipment when the equipment is installed or upon signing of a contract after the equipment is installed and successfully operating. All sales are final and there are no refund rights or rights of return. EDNet leases some equipment to customers under terms that are accounted for as operating leases. Rental revenue from leases is recognized ratably over the life of the lease and the related equipment is depreciated over its estimated useful life. All leases of the related equipment contain fixed terms.
The Webcasting division of the Digital Media Services Group recognizes revenue from live and on-demand webcasts at the time an event is accessible for streaming over the Internet. Webcasting services are provided to customers using our proprietary streaming media software, tools and processes. Customer billings are typically based on (i) the volume of data streamed at rates agreed upon in the customer contract or (ii) a set monthly fee. Since the primary deliverable for the webcasting group is a webcast, returns are inapplicable. If we have difficulty in producing the webcast, we may reduce the fee charged to the customer. Historically these reductions have been immaterial, and are recorded in the month the event occurs.
Services for live webcast events are usually sold for a single price that includes on-demand webcasting services in which we host an archive of the webcast event for future access on an on-demand basis for periods ranging from one month to one year. However, on-demand webcasting services are sometimes sold separately without the live event component and we have referred to these separately billed transactions as verifiable and objective evidence of the amount of our revenues related to on-demand services. In addition, we have determined that the material portion of all views of archived webcasts take place within the first ten days after the live webcast.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Revenue Recognition (continued)
Based on our review of the above data, we have determined that the material portion of our revenues for on-demand webcasting services are recognized during the period in which those services are provided, which complies with the provisions of the Revenue Recognition topic of the ASC. Furthermore, we have determined that the maximum potentially deferrable revenue from on-demand webcasting services charged for but not provided as of September 30, 2013 and September 30, 2012 was immaterial in relation to our recorded liabilities at those dates.
We include the DMSP and UGC divisions’ revenues, along with the Smart Encoding division’s revenues from hosting, storage and streaming, in the DMSP and hosting revenue caption. We include the EDNet division’s revenues from equipment sales and rentals and the Smart Encoding division’s revenues from encoding and editorial services in the Other Revenue caption.
The DMSP, UGC and Smart Encoding divisions of the Digital Media Services Group recognize revenues from the acquisition, editing, transcoding, indexing, storage and distribution of their customers’ digital media. Charges to customers by these divisions generally include a monthly subscription or hosting fee. Additional charges based on the activity or volumes of media processed, streamed or stored by us, expressed in megabytes or similar terms, are recognized at the time the service is performed. Fees charged for customized applications or set-up are recognized as revenue at the time the application or set-up is completed.
Deferred revenue represents amounts billed to customers for webcasting, EDNet, smart encoding or DMSP services to be provided in future accounting periods. As projects or events are completed and/or the services provided, the revenue is recognized.
We add to our customer billings for certain services an amount to recover Universal Service Fund (“USF”) contributions which we have determined that we will be obligated to pay to the Federal Communications Commission (“FCC”), related to those particular services. This additional billing to our customers is not reflected as revenue by us, but rather is recorded as a liability on our books at the time of such billing, which liability is relieved upon our remittance of USF contributions as they are billed to us by USAC, an administrative and collection agency of the FCC - see notes 4 and 5.
Income Taxes
As part of the process of preparing our consolidated financial statements, we are required to estimate our income taxes in each of the jurisdictions in which we operate. This process involves estimating current tax exposure together with assessing temporary differences resulting from differing treatment of items for tax and accounting purposes. These differences result in deferred tax assets and liabilities, which are included within our consolidated balance sheet. We then assess the likelihood that the deferred tax assets will be recovered from future taxable income and to the extent we believe that recovery is not likely, we establish a valuation allowance. To the extent we establish a valuation allowance or change this allowance in a period, we include an expense or a benefit within the tax provision in our statement of operations.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Income Taxes (continued)
We have approximately $85.5 million in Federal net operating loss carryforwards as of September 30, 2013, which expire in fiscal years 2018 through 2033. Our utilization of approximately $20 million of the net operating loss carryforwards, acquired from the 2001 acquisition of EDNet and the 2002 acquisition of MOD and included in this $85.5 million total, against future taxable income may be limited as a result of ownership changes and other limitations.
Significant judgment is required in determining our provision for income taxes, our deferred tax assets and liabilities and any valuation allowance recorded against those deferred tax assets. We had a deferred tax asset of approximately $32.2 million and $31.6 million as of September 30, 2013 and 2012, respectively, primarily resulting from net operating loss carryforwards. A full valuation allowance has been recorded related to the deferred tax asset due to the uncertainty of realizing the benefits of certain net operating loss carryforwards before they expire. Our management will continue to assess the likelihood that the deferred tax asset will be realizable and the valuation allowance will be adjusted accordingly.
Accordingly, no income tax benefit was recorded in our consolidated statement of operations as a result of the net tax losses for the years ended September 30, 2013 and 2012. The primary differences between the net loss for book and the net loss for tax purposes are the following items expensed for book purposes but not deductible for tax purposes - amortization of certain loan discounts, amortization and/or impairment adjustments of certain acquired intangible assets, expenses for stock options issued in payment for consultant and employee services but not exercised by the recipients and expenses related to shares issued or committed to be issued in payment for consultant and employee services, until such shares are issued and eligible for resale by the recipient.
The Income Taxes topic of the ASC prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. However, as of September 30, 2013 and September 30, 2012 we have not taken, nor recognized the financial statement impact of, any material tax positions, as defined above. Our policy is to recognize, as non-operating expense, interest or penalties related to income tax matters at the time such payments become probable, although we had not recognized any such material items in our statement of operations for the years ended September 30, 2013 and 2012. The tax years ending September 30, 2009 and thereafter remain subject to examination by Federal and various state tax jurisdictions.
Valuation of Derivatives
In accordance with ASC Topic 815, Derivatives and Hedging, we follow a two-step approach to evaluate an instrument’s contingent exercise provisions, if any, and to evaluate the instrument’s settlement provisions when determining whether an equity-linked financial instrument (or embedded feature) is indexed to our own stock, which would in turn determine whether the instrument was treated as a liability to be recorded on our balance sheet at fair value. We have determined that this treatment was applicable to a warrant issued by us in September 2010 - see note 8.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Net Loss per Share
For the years ended September 30, 2013 and 2012, net loss per share is based on the net loss divided by the weighted average number of shares of common stock outstanding, including the impact of 2,291,667 shares of common stock committed to be issued for compensation to certain Executives and for a loan origination fee, but not yet issued, as of September 30, 2013 (366,667 shares as of September 30, 2012) - see notes 4 and 5. Since the effect of common stock equivalents was anti-dilutive, all such equivalents were excluded from the calculation of weighted average shares outstanding. The total outstanding options and warrants, which have been excluded from the calculation of weighted average shares outstanding, were 1,300,999 and 3,181,748 at September 30, 2013 and 2012, respectively.
In addition, the potential dilutive effects of the following convertible securities outstanding at September 30, 2013 have been excluded from the calculation of weighted average shares outstanding: (i) the $590,381 outstanding balance of the Rockridge Note, which could have potentially converted into up to 245,992 shares of our common stock, (ii) the $200,000 outstanding balance of the Fuse Note, which could potentially convert into up to 400,000 shares of our common stock, (iii) the $200,000 portion of the outstanding balance of the Intella2 Investor Notes issued to Fuse Capital LLC which could potentially convert into up to 400,000 shares of our common stock and (iv) the $395,000 portion of the outstanding balance of the Sigma Note which could potentially convert into up to 395,000 shares of our common stock.
In addition, the potential dilutive effects of the following convertible securities outstanding at September 30, 2012 have been excluded from the calculation of weighted average shares outstanding: (i) 17,500 shares of Series A-13 Convertible Preferred Stock (“Series A-13”) which could have potentially converted into 101,744 shares of ONSM common stock (and which were converted into 437,500 shares based on a reduction in the conversion price agreed to by us in December 2012 - see note 6), (ii) 160,000 shares of Series A-14 Convertible Preferred Stock (“Series A-14”) which were converted into 160,000 shares of ONSM common stock during the three months ended December 31, 2012, (iii) the $878,115 outstanding balance of the Rockridge Note, which could have potentially converted into up to 365,882 shares of our common stock, (iv) $350,000 of convertible notes which in aggregate could have potentially converted into up to 583,333 shares of our common stock, excluding interest (of which $175,000 was repaid by the issuance of a cumulative 583,334 shares in January and March 2013 and the balance was repaid in cash - see note 4) and (v) the $100,000 CCJ Note, which could have potentially converted into up to 50,000 shares of our common stock (and which note was renegotiated in December 2012 under terms that did not contain conversion rights - see note 4).
Compensation and related expenses
Compensation costs for employees considered to be direct labor are included as part of webcasting and smart encoding costs of revenue. Certain compensation costs for employees involved in development of software for internal use, as discussed under Software above, are capitalized. Accrued liabilities and amounts due to directors and officers includes, in aggregate, approximately $789,000 and $966,000 as of September 30, 2013 and 2012, respectively, related to salaries, commissions, taxes, vacation and other benefits earned but not paid as of those dates.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Equity Compensation to Employees and Consultants
We have a stock based compensation plan (the “Plan”) for our employees, directors and consultants. In accordance with the Compensation - Stock Compensation topic of the ASC, we measure compensation cost for all share-based payments, including employee stock options, at fair value, using the modified-prospective-transition method. Under this method, compensation cost recognized for the years ended September 30, 2013 and 2012 includes compensation cost for all share-based payments granted subsequent to September 30, 2006, calculated using the Black-Scholes model, based on the estimated grant-date fair value and allocated over the applicable vesting and/or service period. There were no Plan options granted during the year ended September 30, 2013. For Plan options that were granted and thus valued under the Black-Scholes model during the year ended September 30, 2012, the expected volatility rates were approximately 97%, the risk-free interest rates were approximately 0.4% to 1.1% and the expected terms were 3 to 5 years.
We have granted Non-Plan Options to consultants and other third parties. These options have been accounted for under the Equity topic (Equity-Based Payments to Non-Employees subtopic) of the ASC, under which the fair value of the options at the time of their issuance, calculated using the Black-Scholes model, is reflected as a prepaid expense in our consolidated balance sheet at that time and expensed as professional fees during the time the services contemplated by the options are provided to us. There were no Non-Plan options granted during the years ended September 30, 2013 or 2012.
In all valuations above, expected dividends were $0 and the expected term was the full term of the related options (or in the case of extended options, the incremental increase in the option term as compared to the remaining term at the time of the extension). See Note 8 for additional information related to all stock option issuances.
Advertising and marketing
Advertising and marketing costs, which are charged to operations as incurred and classified in our financial statements under Professional Fees or under Other General and Administrative Operating Expenses, were approximately $724,000 and $710,000 for the years ended September 30, 2013 and 2012, respectively. These amounts include third party marketing consultant fees and third party sales commissions, but do not include commissions or other compensation to our employee sales staff.
Comprehensive Income or Loss
We have recognized no transactions generating comprehensive income or loss that are not included in our net loss, and accordingly, net loss equals comprehensive loss for all periods presented.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Accounting Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires our management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Estimates are used when accounting for allowances for doubtful accounts, inventory reserves, depreciation and amortization lives and methods, goodwill and other impairment allowances, income taxes and related reserves and contingent liabilities, including contingent purchase prices for acquisitions, contingent compensation arrangements and USF contributions. Such estimates are reviewed on an on-going basis and actual results could be materially affected by those estimates.
Reclassifications
Certain prior year amounts have been reclassified to conform to the current year presentation, including segregation of the cash and non-cash components of compensation expense on the statement of operations.
Effects of Recent Accounting Pronouncements
In May 2011, the Financial Accounting Standards Board (“FASB”) issued updated accounting guidance related to fair value measurements and disclosures, which includes amendments that clarify the intent about the application of existing fair value measurements and disclosures, while other amendments change a principle or requirement for fair value measurements or disclosures. This guidance, which we first adopted on a prospective basis during our fiscal year ending September 30, 2013, had no material impact on our consolidated financial statements.
In June 2011, the FASB issued ASC Update (“ASU”) 2011-05 (Comprehensive Income (Topic 220): Presentation of Comprehensive Income), which requires that all non-owner changes in stockholders’ equity be presented in a single continuous statement of comprehensive income or in two separate but consecutive statements. The guidance does not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income. In December 2011, the FASB issued guidance that indefinitely deferred one of the new provisions in the June 2011 guidance, which was a requirement for entities to present reclassification adjustments out of accumulated other comprehensive income by component in both the statement in which net income is presented and the statement in which other comprehensive income is presented (for both interim and annual financial statements). The remainder of the June 2011 guidance was effective for our fiscal year ending September 30, 2013, applied retrospectively, and its adoption had no material impact on our consolidated financial statements.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 1: NATURE OF BUSINESS AND SIGNIFICANT ACCOUNTING POLICIES (Continued)
Effects of Recent Accounting Pronouncements (continued)
In September 2011, the FASB issued ASU 2011-08 (Intangibles - Goodwill and Other (Topic 350): Testing Goodwill for Impairment) (“Update 2011-08”), which provides guidance setting forth the circumstances under which an entity may assess qualitative factors to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount and to use such qualitative assessment as a basis of determining whether it would be necessary to perform the two-step goodwill impairment test described in Topic 350. Although the terms of Update 2011-08 did not require implementation before our fiscal year ending September 30, 2012, early adoption was permitted, which we elected in order to first apply this guidance to our fiscal year ended September 30, 2011 and the related annual impairment tests - see note 2. The adoption of this guidance had no material impact on our consolidated financial statements.
In July 2012, the FASB issued ASU 2012-02 (Intangibles - Goodwill and Other (Topic 350): Testing Indefinite-Lived Intangible Assets for Impairment), which is intended to reduce the complexity and cost of performing a quantitative test for impairment of indefinite-lived intangible assets by permitting an entity the option to perform a qualitative evaluation about the likelihood that an indefinite-lived intangible asset is impaired in order to determine whether it should calculate the fair value of the asset. The update also improves previous guidance by expanding upon the examples of events and circumstances that an entity should consider between annual impairment tests in determining whether it is more likely than not that the fair value of an indefinite-lived intangible asset is less than its carrying amount. We adopted this guidance for our fiscal year ended September 30, 2012, which had no material impact on our consolidated financial statements.
In July 2013, the FASB issued ASU 2013-11 (Income Taxes (Topic 740): Presentation of an Unrecognized Tax Benefit When a Net Operating Loss Carryforward, a Similar Tax Loss, or a Tax Credit Carryforward Exists), which provides that an unrecognized tax benefit, or a portion of an unrecognized tax benefit, should be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward, except to the extent a net operating loss carryforward, a similar tax loss, or a tax credit carryforward is not available, in which case the unrecognized tax benefit should be presented in the financial statements as a liability This update is effective for fiscal years, and interim periods within those years, beginning after December 15, 2013, with early adoption permitted. We believe that our implementation of this guidance will have no material impact on our consolidated financial statements.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS
Information regarding the Company’s goodwill and other acquisition-related intangible assets is as follows:
Intella2 - November 30, 2012
On November 30, 2012 we acquired certain assets and operations of Intella2 Inc., a San Diego-based communications company (“Intella2”). The acquisition included a list of over 2,500 customers as well as software licenses, equipment and network infrastructure and a non-compete. The service capabilities acquired from Intella2 include audio conferencing, web conferencing, text messaging, and voicemail. The Intella2 assets and operations were purchased by Onstream Conferencing Corporation, our wholly owned subsidiary, and are being managed by our Infinite Conferencing division, which specializes in audio and web conferencing. The unaudited revenues from the acquired operations for the twelve months ended August 31, 2012 were approximately $1.4 million, including free conferencing business revenues of approximately $300,000.
We have determined that the above transaction does not meet the requirements established by the Securities and Exchange Commission for a “significant acquisition”, and therefore no pro-forma or other financial information related to the periods prior to the acquisition is being presented.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)
Intella2 - November 30, 2012 (continued)
The total purchase price of the Intella2 assets and operations was approximately $1.4 million, of which we have paid approximately $713,000 in cash to Intella2 through September 30, 2013. The remaining portion of the purchase price, approximately $704,000, represents the present value of management’s estimate as of the date of that purchase of additional payments considered probable with respect to the following remaining obligations incurred in connection with the Intella2 purchase:
(i) Additional payment equal to the excess of eligible revenues for the twelve months ending November 30, 2013 over $713,000, provided that such additional payment would be no less than $187,000 and no more than $384,000.
(ii) Additional payment equal to fifty percent (50%) of the excess of eligible revenues for the twelve months ending November 30, 2013 over $1,098,000, provided that such additional payment would be no more than $300,000.
(iii) 70% of the future free conferencing business revenues, net of applicable expenses, through November 30, 2017, after which we have agreed to pay an amount equal to such payments for the last two months of that period, with no further obligation to Intella2 in that regard. The 70% will be adjusted to 50% if the free conferencing business revenues, net of applicable expenses, are less than $40,000 for two consecutive quarters, and will be adjusted back to 70% if that amount returns to more than $40,000 for two consecutive quarters.
Eligible revenues for purposes of items (i) and (ii) above exclude free conferencing business revenues and non-recurring revenues and are further defined in the Asset Purchase Agreement dated November 30, 2012. The additional purchase price payments per items (i) and (ii) above are due in quarterly installments commencing August 31, 2013 and ending May 31, 2014. The additional purchase price payments per item (iii) above are also subject to certain holdbacks and reserves and as a result payments commenced June 30, 2013 and are expected to continue on a monthly basis thereafter. The unpaid portion of the purchase price is reflected on our September 30, 2013 balance sheet as an accrued liability of $728,586 with a current portion of $537,773 and a non-current portion of $190,813. These amounts represent the remaining unpaid portion of the purchase price as determined as of the time of the initial purchase plus accretion of approximately $74,000, which has been reflected as interest expense on our statement of operations for the year ended September 30, 2013 and less approximately $50,000 of payments made to Intella2 after closing through September 30, 2013, which were considered to be payment of the accretion (i.e., interest) instead of the purchase price (i.e., principal).
The total purchase price and the liability for the unpaid portion of that purchase price recorded by us as of September 30, 2013 depends significantly on projections and estimates. Authoritative accounting guidance allows one year from the acquisition date for us to make adjustments to these amounts, in the event that such adjustments are based on facts and circumstances that existed as of the acquisition date that, if known, would have resulted in such adjusted assets and liabilities as of that date. Regardless of this, a contingent consideration liability shall be remeasured to fair value at each reporting date until the contingency is resolved. Changes resulting from facts and circumstances arising after the acquisition date, such as meeting a revenue target, shall be recognized in our results of operations. Changes resulting from a change in the discount rates applied to estimates of future cash flows shall also be recognized in our results of operations.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)
Intella2 - November 30, 2012 (continued)
Based on our continuing evaluation, we made adjustments to the following items as of March 31, 2013, as compared to the amounts recorded by us as of December 31, 2012: purchase price increase of approximately $58,000, customer list increase of approximately $123,000, goodwill decrease of approximately $52,000 and other intangible assets decrease of approximately $13,000. Since these changes were based on facts that existed as of the acquisition date, they were recorded with no impact to our results of operations. We have determined that no further adjustments to these amounts are necessary resulting from facts and circumstances arising after the acquisition date.
The fair value of certain intangible assets (customer lists, tradenames, URLs (internet domain names) and employment and non-compete agreements) acquired as part of the Intella2 acquisition was determined by our management to be approximately $760,000 at the time of the acquisition. This fair value was primarily based on the discounted projected cash flows related to these assets for the three to seven years immediately following the acquisition on a stand-alone basis without regard to the Intella2 acquisition, as projected by our management and Intella2’s former management. The discount rate utilized considered equity risk factors (including small stock risk) as well as risks associated with profitability and working capital, competition, and intellectual property. The projections were adjusted for charges related to fixed assets, working capital and workforce retraining. The fair value of certain tangible assets (primarily equipment) acquired as part of the Intella2 acquisition was determined by our management to be approximately $246,000 at the time of the acquisition. This fair value was primarily based on management’s inspection of and evaluation of the condition and utility of the equipment, as well as comparable market values of similar used equipment when available. We are depreciating and amortizing these tangible and intangible assets over useful lives ranging from three to seven years. The approximately $1.4 million purchase price exceeded the fair values we assigned to Intella2’s tangible and intangible assets (net of liabilities at fair value) by approximately $412,000, which we recorded as goodwill.
Since November 2013, we have been involved in litigation with Intella2 and its owner, in connection with the Intella2 acquisition. We believe that the ultimate resolution of this litigation will not have a material impact on our financial position or results of operations and that any amounts ultimately payable by us will not be materially greater than the liabilities already accrued on our September 30, 2013 balance sheet. See note 5.
Infinite Conferencing - April 27, 2007
On April 27, 2007 we completed the acquisition of Infinite Conferencing LLC (“Infinite”), a Georgia limited liability company. The transaction, by which we acquired 100% of the membership interests of Infinite, was structured as a merger by and between Infinite and our wholly-owned subsidiary, Infinite Conferencing, Inc. (the “Infinite Merger”). The primary assets acquired, in addition to Infinite’s ongoing audio and web conferencing operations, were accounts receivable, equipment, internally developed software, customer lists, trademarks, URLs (internet domain names), favorable supplier terms and employment and non-compete agreements. The consideration for the Infinite Merger was a combination of $14 million in cash and restricted shares of our common stock valued at approximately $4.0 million, for an aggregate purchase price of approximately $18.2 million, including transaction costs.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)
Infinite Conferencing - April 27, 2007 (continued)
The fair value of certain intangible assets (internally developed software, customer lists, trademarks, URLs (internet domain names), favorable contractual terms and employment and non-compete agreements) acquired as part of the Infinite Merger was determined by our management at the time of the merger. This fair value was primarily based on the discounted projected cash flows related to these assets for the three to six years immediately following the merger on a stand-alone basis without regard to the Infinite Merger, as projected by our management and Infinite’s management. The discount rate utilized considered equity risk factors (including small stock risk) as well as risks associated with profitability and working capital, competition, and intellectual property. The projections were adjusted for charges related to fixed assets, working capital and workforce retraining. We have amortized these assets over useful lives ranging from 3 to 6 years - as of September 30, 2013 all of these assets had been fully amortized and removed from our balance sheet, although they are presented in the above table for comparison purposes to September 30, 2012, when all of these assets had not yet been fully amortized.
The approximately $18.2 million purchase price exceeded the fair values we assigned to Infinite’s tangible and intangible assets (net of liabilities at fair value) by approximately $12.0 million, which we recorded as goodwill as of the purchase date. As of December 31, 2008, this initially recorded goodwill was determined to be impaired and a $900,000 adjustment was made to reduce its carrying value to approximately $11.1 million. A similar adjustment of $200,000 was made as of that date to reduce the carrying value of certain intangible assets acquired as part of the Infinite Merger. As of December 31, 2009, the Infinite goodwill was determined to be further impaired and a $2.5 million adjustment was made to reduce the carrying value of that goodwill to approximately $8.6 million. A similar adjustment of $600,000 was made as of that date to reduce the carrying value of certain intangible assets acquired as part of the Infinite Merger. Furthermore, as discussed in “Testing for Impairment” below, the Infinite goodwill was determined to be further impaired as of September 30, 2013 and a $2.2 million adjustment was made to reduce the carrying value of that goodwill to approximately $6.4 million as of that date. This adjustment was reflected in our results of operations for the year ended September 30, 2013 as a charge for impairment of goodwill.
Auction Video - March 27, 2007
On March 27, 2007 we completed the acquisition of the assets, technology and patents pending of privately owned Auction Video, Inc., a Utah corporation, and Auction Video Japan, Inc., a Tokyo-Japan corporation (collectively, “Auction Video”). The acquisitions were made with a combination of restricted shares of our common stock valued at approximately $1.5 million issued to the stockholders of Auction Video Japan, Inc. and $500,000 cash paid to certain stockholders and creditors of Auction Video, Inc., for an aggregate purchase price of approximately $2.0 million, including transaction costs. On December 5, 2008 we entered into an agreement whereby one of the former owners of Auction Video Japan, Inc. agreed to shut down the Japan office of Auction Video as well as assume all of our outstanding assets and liabilities connected with that operation, in exchange for non-exclusive rights to sell our products in Japan and be compensated on a commission-only basis. It is the opinion of our management that any further developments with respect to this shut down or the above agreement will not have a material adverse effect on our financial position or results of operations.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)
Auction Video - March 27, 2007 (continued)
We allocated the Auction Video purchase price to the identifiable tangible and intangible assets acquired, based on a determination of their reasonable fair value as of the date of the acquisition. The technology and patent pending related to the video ingestion and flash transcoder, the Auction Video customer lists, future cost savings for Auction Video services and the consulting and non-compete agreements entered into with the former executives and owners of Auction Video were valued in aggregate at $1.4 million and were amortized over various lives between two to five years commencing April 2007 - as of September 30, 2013 all of these assets had been fully amortized and removed from our balance sheet, although they are presented in the above table for comparison purposes to September 30, 2012, when all of these assets had not yet been fully amortized. $600,000 was assigned as the value of the video ingestion and flash transcoder and added to the DMSP’s carrying cost for financial statement purposes - see note 3.
Subsequent to this acquisition, we began pursuing the final approval of the patent pending application and in March 2008 retained the law firm of Hunton & Williams to assist in expediting the patent approval process and to help protect rights related to proprietary Onstream technology. In April 2008, we revised the original patent application primarily for the purpose of splitting it into two separate applications, which, while related, were being evaluated separately by the U.S. Patent and Trademark Office (“USPTO”).
With respect to the claims pending in the first of the two applications, the USPTO issued non-final rejections in August 2008, February 2009 and May 2009, as well as final rejections in January 2010 and June 2010. Our responses to certain of these rejections included modifications to certain claims made in the original patent application. In response to the latest rejection we filed a Notice of Appeal with the USPTO on November 22, 2010 and we filed an appeal brief with the USPTO on February 9, 2011. The USPTO filed an Examiner's Answer to the Appeal Brief on May 10, 2011, which repeated many of the previous reasons for rejection, and we filed a response to this filing on July 8, 2011. A decision will be made as to our appeal by a three member panel based on these filings, plus oral argument at a hearing which has been requested by us but a time not yet set. The expected timing of this decision is uncertain at this time, but generally would be expected to occur during calendar 2014.
With respect to the claims pending in the second of the two applications, the USPTO issued a non-final rejection in June 2011 (which was reissued in January 2012) and a final rejection in June 2012. With respect to the June 2012 rejection, we filed a pre-appeal brief conference request on September 7, 2012 and the USPTO responded on September 27, 2012 with a decision to proceed to appeal. We filed a Request for Continuing Examination with the USPTO on April 5, 2013, which the USPTO responded to on June 12, 2013 with a non-final rejection. Our response to that non-final rejection was filed on November 12, 2013, which the USPTO responded to on January 10, 2014 with a final rejection. Our response to this final rejection is due on or before April 10, 2014, without the payment of extension fees, or on or before July 10, 2014, with the payment of extension fees.
Regardless of the ultimate outcome, our management has determined that an adverse decision with respect to these patent applications would not have a material adverse effect on our financial position or results of operations, since all of the previous costs incurred by us in connection with the patents have been amortized to expense as of September 30, 2013. Certain of the former owners of Auction Video, Inc. have an interest in proceeds that we may receive under certain circumstances in connection with these patents.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)
Acquired Onstream - December 23, 2004
On December 23, 2004, privately held Onstream Media Corporation (“Acquired Onstream”) was merged with and into our wholly owned subsidiary OSM Acquisition, Inc. (the “Onstream Merger”). At that time, all outstanding shares of Acquired Onstream capital stock and options not already owned by us (representing 74% ownership interest) were converted into restricted shares of our common stock plus options and warrants to purchase our common stock. We also issued common stock options to directors and management as additional compensation at the time of and for the Onstream Merger, accounted for at the time in accordance with Accounting Principles Board Opinion 25 (which accounting pronouncement has since been superseded by the ASC).
Acquired Onstream was a development stage company founded in 2001 that began working on a feature rich digital asset management service offered on an application service provider (“ASP”) basis, to allow corporations to better manage their digital rich media without the major capital expense for the hardware, software and additional staff necessary to build their own digital asset management solution. This service was intended to be offered via the Digital Media Services Platform (“DMSP”), which was initially designed and managed by Science Applications International Corporation (“SAIC”), one of the country's foremost IT security firms, providing services to all branches of the federal government as well as leading corporations.
The primary asset acquired in the Onstream Merger was the partially completed DMSP, recorded at fair value as of the December 23, 2004 closing, in accordance with the Business Combinations topic of the ASC. The fair value was primarily based on the discounted projected cash flows related to this asset for the five years immediately following the acquisition on a stand-alone basis without regard to the Onstream Merger, as projected at the time of the acquisition by our management and Acquired Onstream’s management. The discount rate utilized considered equity risk factors (including small stock risk and bridge/IPO stage risk) plus risks associated with profitability/working capital, competition, and intellectual property. The projections were adjusted for charges related to fixed assets, working capital and workforce retraining. See note 3.
The approximately $10.0 million purchase price we paid for 100% of Acquired Onstream exceeded the fair values we assigned to Acquired Onstream’s tangible and intangible assets (net of liabilities at fair value) by approximately $8.4 million, which we recorded as goodwill as of the purchase date. As of December 31, 2008, this initially recorded goodwill was determined to be impaired and a $4.3 million adjustment was made to reduce the carrying value of that goodwill to approximately $4.1 million. As of September 30, 2010, the Acquired Onstream goodwill was determined to be further impaired and a $1.6 million adjustment was made to reduce the carrying value of that goodwill to approximately $2.5 million. As of September 30, 2011, the Acquired Onstream goodwill was determined to be further impaired and a $1.7 million adjustment was made to reduce the carrying value of that goodwill to approximately $821,000. As of September 30, 2012, the Acquired Onstream goodwill was determined to be further impaired and a $550,000 adjustment was made to reduce the carrying value of that goodwill to approximately $271,000.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)
EDNet - July 25, 2001
Prior to 2001, we recorded goodwill of approximately $750,000 resulting from the acquisition of 51% of EDNet, which we were initially amortizing on a straight-line basis over 15 years. As of July 1, 2001, we adopted SFAS 142, Goodwill and Other Intangible Assets, which addressed the financial accounting and reporting standards for goodwill and other intangible assets subsequent to their acquisition. This standard required that goodwill no longer be amortized, and instead be tested for impairment on a periodic basis. When we acquired the remaining 49% of EDNet on July 25, 2001 the transaction generated $2,293,000 in goodwill which when combined with the unamortized portion of the initial goodwill resulted in total EDNet goodwill of $2,799,000. Based on our goodwill impairment tests as of September 30, 2002 we determined that the EDNet goodwill was impaired by approximately $728,000 and therefore the goodwill was written down to approximately $2,071,000. Based on our goodwill impairment tests as of September 30, 2004 we determined that the EDNet goodwill was impaired by approximately $470,000 and therefore the goodwill was written down to approximately $1,601,000. Based on our goodwill impairment tests as of September 30, 2005 we determined that the EDNet goodwill was impaired by approximately $330,000 and therefore the goodwill was written down to approximately $1,271,000. We have continued to evaluate the carrying value of the EDNet goodwill on an annual basis, with no further writedowns required to date.
EDNet’s operations are heavily dependent on the use of ISDN phone lines (“ISDN”), which are only available from a limited number of suppliers. The two telecommunication companies which are the primary suppliers of ISDN to EDNet have made recent public indications of intentions to restrict, or even eventually eliminate, their provision of ISDN. Such actions could have a significant adverse impact on our future evaluations of the carrying value of EDNet goodwill, especially if alternative ISDN suppliers cannot be identified or if an alternative such as Internet based technology is not available or economically feasible as a basis to continue the EDNet operations. However, these two companies have not announced definitive timetables for taking any extensive actions with regard to restricting ISDN and therefore we have not assumed any such actions would take place within the timeframe of our discounted cash flow analyses used by us for these evaluations to date.
Testing for Impairment
In accordance with ASC Topic 350, Intangibles - Goodwill and Other, which addresses the financial accounting and reporting standards for goodwill and other intangible assets subsequent to their acquisition, goodwill must be tested for impairment on a periodic basis, at a level of reporting referred to as a reporting unit. Although other intangible assets are being amortized to expense over their estimated useful lives, the unamortized balances are still subject to review and adjustment for impairment. There is a two-step process for impairment testing of goodwill and other intangible assets. The first step of this test, used to identify potential impairment, compares the fair value of a reporting unit with its carrying amount, including goodwill. The second step, if necessary, measures the amount of the impairment. With respect to our annual impairment reviews of our goodwill and other acquisition-related intangible assets conducted as of September 30, 2011 and as of September 30, 2012, we applied the provisions of ASC 350-20-35, which in certain cases allowed us to forego the two-step impairment testing process based on certain qualitative evaluation (see note 1 - Effects of Recent Accounting Pronouncements).
F- 27
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)
Testing for Impairment (continued)
However, based on our assessment as of September 30, 2013 of relevant events and circumstances as listed in ASC 350-20-35-3C, we determined that we were not eligible to employ qualitative evaluation to forego the two-step impairment testing process with respect to our reporting units as of September 30, 2013, as it was not more likely than not that impairment loss had not occurred. These relevant events and circumstances included certain macroeconomic conditions, including access to capital and the ongoing decrease in the ONSM share price.
The material portion of our goodwill and other intangible assets are contained in the EDNet reporting unit, the Acquired Onstream/DMSP reporting unit and the audio and web conferencing reporting unit, which includes the Infinite Conferencing and the OCC/Intella2 divisions. Our reporting units were identified based on the requirements of ASC 350-20-35-33 through 350-20-35-46. According to ASC 350-20-35-34, a component of an operating segment is a reporting unit if that component represents a business for which discrete financial information is available and segment management regularly reviews the operating results of that component. This is the case for the EDNet division, the Acquired Onstream/DMSP division, the Infinite Conferencing division and the OCC/Intella2 division. However, ASC 350-20-35-35 provides that two or more components of an operating segment shall be aggregated and deemed a single reporting unit if the components have similar economic characteristics. This is the case for the Infinite Conferencing division and the OCC/Intella2 division, since they are both in the business of audio and web conferencing sold primarily to business customers. Although EDNet is in the same operating segment as the Infinite Conferencing division and the OCC/Intella2 division, it is not considered to be part of the audio and web conferencing reporting unit since EDNet offers a specialized telephone service to the entertainment industry (movies, television, advertising) that also uses a specific type of phone line (ISDN) that is different from the standard telephone lines used by the Infinite Conferencing division and the OCC/Intella2 division.
As part of the two-step process discussed above, our management performed discounted cash flow analyses to determine whether the goodwill of our reporting units was potentially impaired and the amount of such impairment. Our management determined the rates and assumptions, including the discount rates and the probability of future revenues and costs, used by it to perform these analyses and also considered macroeconomic and other conditions such as:
· Onstream’s credit rating, stock price and access to capital
· A decline in market-dependent multiples in absolute terms
· Telecommunications industry growth projections
· Internet industry growth projections
· Entertainment industry growth projections (re EDNet customer base)
· Onstream’s current sales compared to last year
· Onstream’s technological accomplishments compared to its peer group
F- 28
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 2: GOODWILL AND OTHER ACQUISITION-RELATED INTANGIBLE ASSETS (Continued)
Testing for Impairment (continued)
We analyzed our corporate payroll and other costs to determine their relevance to the reporting units, and to the extent relevant, we allocated such costs when preparing the projections used by us in the above analyses. We determined that approximately 72% of our corporate costs (excluding non-cash expenses) were allocable to our reporting units, including those without goodwill or other intangible assets. The non-allocable corporate costs related to various public company related requirements and expenses as well as the costs of evaluating new business opportunities and products outside the existing divisions.
Based on these evaluations, we determined that it was more likely than not that the fair values of the EDNet and Acquired Onstream reporting units were more than their respective carrying amounts as of September 30, 2013. However, we were unable to arrive at the same conclusion as a result of our evaluation of the audio and web conferencing reporting unit. Accordingly, we performed further calculations and determined that the carrying value of the audio and web conferencing reporting unit exceeded the results of the discounted cash flow analysis for that reporting unit by approximately $2.2 million. Since our book value after a write-down of $2.2 million would approximate fair value (as discussed below) and since there were no other unrecorded intangible assets to be recorded, this difference between the discounted cash flow and the carrying value of the audio and web conferencing reporting unit would be the amount by which the audio and web conferencing reporting unit's goodwill was impaired as of September 30, 2013 and a $2.2 million adjustment was made to reduce the carrying value of the audio and web conferencing reporting unit's goodwill as of that date.
In order to address whether any further consideration of ONSM’s share price was needed with respect to impairment testing, we performed an analysis to compare our book value (after the impairment adjustment for the audio and web conferencing reporting unit discussed above) to our market capitalization as of September 30, 2013, including adjustments for (i) paid-for but not issued common shares, such as the Executive Shares (see note 5) and the Rockridge Shares (see note 4) and (ii) an appropriate control premium. Based on this analysis, we concluded that there were no conditions with respect to our market capitalization as of September 30, 2013 which would require further evaluation with respect to the carrying values of our reporting units.
F- 29
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 3: PROPERTY AND EQUIPMENT
Property and equipment, including equipment acquired under capital leases, consists of:
Depreciation and amortization expense for property and equipment was approximately $902,000 and $881,000 for the years ended September 30, 2013 and 2012, respectively.
As part of the Onstream Merger (see note 2), we became obligated under a contract with SAIC, under which SAIC would build a platform that eventually, albeit after further extensive design and re-engineering by us, led to the DMSP. A partially completed version of this platform was the primary asset included in our purchase of Acquired Onstream, and was recorded at an initial amount of approximately $2.7 million. Subsequent to the Onstream Merger, we continued to develop the DMSP, making payments under the SAIC contract and to other vendors, as well as to our own development staff as discussed below, which were recorded as an increase in the DMSP’s carrying cost.
A limited version of the DMSP was first placed in service in November 2005. “Store and Stream” was the first version of the DMSP sold to the general public, starting in October 2006. The SAIC contract terminated by mutual agreement of the parties on June 30, 2008. Although cancellation of the contract released SAIC to offer what was identified as the “Onstream Media Solution” directly or indirectly to third parties, we do not expect this right to result in a material adverse impact on future DMSP sales.
F- 30
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 3: PROPERTY AND EQUIPMENT (Continued)
As of September 30, 2013 we have capitalized as part of the DMSP approximately $1.2 million of employee compensation, payments to contract programmers and related costs development of “Streaming Publisher”, a second version of the DMSP with additional functionality. As of September 30, 2013, approximately $935,000 of these costs had been placed in service, including approximately $410,000 for the initial release in September/October 2009 and approximately $231,000 for a subsequent release in May 2010. The remainder of the costs not in service relate primarily to a new release of the DMSP under development. Streaming Publisher is a stand-alone product based on a different architecture than Store and Stream and is a primary building block of the MP365 platform, discussed below.
As of September 30, 2013 we had capitalized as part of other internal use software approximately $1.5 million of employee compensation and payments to contract programmers for development of the MP365 platform, which was meant to enable the creation of on-line virtual marketplaces and trade shows utilizing many of our other technologies such as DMSP, webcasting, UGC and conferencing. As of September 30, 2013, approximately $972,000 of these costs had been placed in service, including approximately $297,000 for phase one of MP365 placed in service on August 1, 2010 and approximately $675,000 for phase two of MP365 placed in service on July 1, 2011. The remaining costs, not placed in service as of September 30, 2013, related primarily to the next phases of MP365 under development. MP365 development costs exclude costs for development of Streaming Publisher, discussed separately above. Based on the very limited revenues from MP365 over the past year, as well as our decisions that as of September 30, 2013 future development of MP365 would be very limited and that the MP365 division would be discontinued, with MP365 becoming a product offered by the webcasting division, we determined that it would be appropriate to evaluate the remaining carrying value of the former MP365 division’s assets, primarily the unamortized software development costs, for impairment. We performed such an analysis by comparing the carrying value of those assets to the projected undiscounted future cash flows from the MP365 product, as prescribed by applicable accounting literature for evaluating impairment of a depreciable asset with a fixed life. As a result of our analysis, we recognized a net impairment loss of $1.0 million for the year ended September 30, 2013. After the impairment loss, the carrying cost of the MP365 capitalized internal software was reduced to approximately $13,000, which will be depreciated over the twelve months ending September 30, 2014. We will continue to evaluate any MP365 development costs capitalized by us after September 30, 2013 for impairment on the same basis.
As of September 30, 2013 we have capitalized as part of other internal use software approximately $1.4 million of employee compensation and other costs for the development of webcasting applications. As of September 30, 2013, approximately $1,244,000 of these costs have been placed in service, including approximately $444,000 placed in service in December 2009 for the initial release of iEncode software, which runs on a self-administered, webcasting appliance used to produce a live video webcast, and approximately $352,000 placed in service in January 2013 for a new release of our basic webcasting platform. The remaining costs, not placed in service, relate primarily to new features of the webcasting platform under development.
The capitalized software development costs discussed above are summarized as follows:
Period
DMSP
MP365
Webcasting
Totals
Year ended September 30, 2013
$
151,000
$
144,000
$
274,000
$
569,000
Year ended September 30, 2012
131,000
289,000
306,000
726,000
Year ended September 30, 2011
99,000
489,000
150,000
738,000
Year ended September 30, 2010
314,000
435,000
180,000
929,000
Year ended September 30, 2009
274,000
148,000
288,000
710,000
Year ended September 30, 2008
186,000
-
213,000
399,000
Totals through September 30, 2013
$
1,155,000
$
1,505,000
$
1,411,000
$
4,071,000
All capitalized development costs placed in service are being depreciated over five years.
F- 31
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT
Debt includes convertible debentures and notes payable (including capitalized lease obligations).
Convertible Debentures
Convertible debentures consist of the following:
Rockridge Note
In April and June 2009 we borrowed $1.0 million from Rockridge Capital Holdings, LLC (“Rockridge”), an entity controlled by one of our largest shareholders, in accordance with the terms of a Note and Stock Purchase Agreement (the “Rockridge Agreement”) between Rockridge and us. On September 14, 2009, we entered into Amendment Number 1 to the Agreement and an Allonge to the Note, under which we borrowed an additional $1.0 million, resulting in cumulative borrowings by us under the Rockridge Agreement, as amended, of $2.0 million. In connection with this transaction, we issued a note (the “Rockridge Note”), collateralized by a first priority lien on all of our assets, such lien subordinated only to the extent higher priority liens on assets, primarily accounts receivable and certain designated software and equipment, are held by certain of our other lenders. We also entered into a Security Agreement with Rockridge that contains certain covenants and other restrictions with respect to the collateral.
The Rockridge Note bears interest at 12% per annum. In accordance with an agreement reached with Rockridge in October 2013, the remaining principal balance outstanding under the Rockridge Note, as well as the related interest at 12% per annum, is payable in two (2) equal monthly installments of $21,322, commencing on October 14, 2013 plus nine (9) equal monthly installments of $45,322, commencing on December 14, 2013 plus a final payment of $188,989 due on September 14, 2014 (the “Maturity Date”). In February 2014, Rockridge agreed, subject to the Closing of the Sigma Term Sheet (see note 1), to accept a principal payment of $119,616 (plus accrued interest), after which the outstanding principal balance would be $400,000. After that, we would pay interest on a monthly basis until our repayment of the outstanding principal on October 14, 2014. We would also pay the outstanding principal upon our receipt of proceeds in excess of $5 million related to the sale of any of our business units or subsidiaries.
F- 32
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Convertible Debentures (continued)
Rockridge Note (continued)
Prior to this October 2013 agreement, in accordance with a second Allonge to the Note dated December 12, 2012, the remaining principal balance outstanding under the Rockridge Note, as well as the related interest at 12% per annum, was payable in twenty-two (22) equal monthly installments of $41,322, commencing on December 14, 2012 and ending on September 14, 2014. Prior to the second Allonge to the Note, the remaining balance was payable in monthly principal and interest installments of $41,409 through August 14, 2013 plus a balloon payment of $505,648 on September 14, 2013. As consideration for the second Allonge to the Note, the loan origination fee was increased as discussed in more detail below. The balance due under the Rockridge Note is classified between current and non-current on our September 30, 2012 balance sheet based on the payment terms as modified by the December 12, 2012 Allonge.
Since we concluded that there was less than a 10% difference between the present value of the cash flows of the Rockridge Note after the December 12, 2012 modification versus the present value of the cash flows before the modification, under the provisions of ASC 470-50-40 ("Derecognition"), the modified terms were not considered substantially different and therefore accounting for that modification as an extinguishment of debt was not required.
Upon notice from Rockridge at any time and from time to time prior to the Maturity Date the outstanding principal balance may be converted into a number of restricted shares of our common stock. These conversions are subject to a minimum of one month between conversion notices (unless such conversion amount exceeds $25,000) and will use a conversion price of eighty percent (80%) of the fair market value of the average closing bid price for our common stock for the twenty (20) days of trading on The NASDAQ Capital Market (or such other exchange or market on which our common shares are trading) prior to such Rockridge notice, but such conversion price will not be less than $2.40 per share. We will not effect any conversion of the Rockridge Note, to the extent Rockridge and Frederick Deluca, after giving effect to such conversion, would beneficially own in excess of 9.9% of our outstanding common stock (the “Beneficial Ownership Limitation”). The Beneficial Ownership Limitation may be waived by Rockridge upon not less than sixty-one (61) days prior written notice to us unless such waiver would result in a violation of the NASDAQ shareholder approval rules.
Furthermore, in the event of any conversions of principal to ONSM shares by Rockridge (i) they will first be applied to reduce monthly payments starting with the latest and (ii) the interest portion of the monthly payments under the Rockridge Note for the remaining months after any such conversion will be adjusted to reflect the outstanding principal being immediately reduced for amount of the conversion. We may prepay the Rockridge Note at any time. The outstanding principal is due on demand in the event a payment default is uncured ten (10) business days after Rockridge’s written notice to us.
F- 33
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Convertible Debentures (continued)
Rockridge Note (continued)
The Rockridge Agreement, as amended, provided that Rockridge may receive an origination fee upon not less than sixty-one (61) days written notice to us, payable by our issuance of 591,667 restricted shares of our common stock (the “Shares”). This origination fee was 366,667 shares prior to the second Allonge to the Note discussed above. The Rockridge Agreement, as amended, provides that on the Maturity Date we shall pay Rockridge up to a maximum of $75,000 (the “Shortfall Payment”), based on the sum of (i) the cash difference between the per share value of $1.20 (the “Minimum Per Share Value”) and the average sale price for all previously sold Shares (whether such number is positive or negative) multiplied by the number of sold Shares and (ii) for the Shares which were not previously sold by Rockridge, the cash difference between the Minimum Per Share Value and the market value of the Shares at the Maturity Date (whether such number is positive or negative) multiplied by the number of unsold Shares, up to a maximum shortfall amount of $75,000 in the aggregate for items (i) and (ii). Through September 30, 2012, we recorded no accrual for this matter on our financial statements, since we believed that the variables affecting any eventual liability, including whether it was probable that our share price would remain below $1.20 (or the $1.07 per share that would result in payment of the full $75,000) until the Maturity Date, could not be reasonably estimated. However, during fiscal 2013 we determined that our share price had remained below $1.20 (and $1.07) per share for a sufficient period that accrual of a liability for the Shortfall Payment was appropriate. Therefore, we recorded the $32,000 present value of this obligation as a liability as of October 1, 2012, which increased to $61,000 as of September 30, 2013, as a result of the accretion of $29,000 as interest expense for the year then ended. If the closing ONSM share price of $0.19 per share on February 7, 2014 was used as a basis of calculation, the required Shortfall Payment would be $75,000.
The fair market value of the first 366,667 Shares, determined to be approximately $626,000 at the date of the Rockridge Agreement or Amendment Number 1, as applicable, plus legal fees of $55,337 we paid in connection with the Rockridge Agreement, were reflected as the initial $681,337 discount against the Rockridge Note and amortized as interest expense over the term of the Rockridge Note through the date of the December 2012 Allonge. The fair market value of the additional 225,000 origination fee Shares arising from the December 2012 Allonge was recorded as additional discount of approximately $79,000 and, along with the unamortized portion of the initial discount, is being amortized as interest expense over the remaining term of the Rockridge Note, commencing in January 2013. The $32,000 present value of the anticipated Shortfall Payment was recorded as additional discount and, along with the other components of discount discussed above, is being amortized as interest expense over the remaining term of the Rockridge Note, commencing in October 2012. The unamortized portion of the discount was $77,538 and $78,771 as of September 30, 2013 and 2012, respectively. Corresponding increases in common stock committed for issue (at par value) and additional paid-in capital were also recorded for the value of the Shares.
The effective interest rate of the Rockridge Note was approximately 44.3% per annum, until the September 2009 amendment, when reduced it to approximately 28.0% per annum, the December 2012 amendment, which increased it to approximately 29.1% per annum, and the accrual of the Shortfall Payment, which increased it to approximately 31.1% per annum. These rates do not give effect to any difference between the sum of the value of the Shares at the time of issuance plus the Shortfall Payment, as compared to the assigned value of the Shares on our books, nor do they give effect to the discount from market prices that might be applicable if any portion of the principal is satisfied in common shares instead of cash.
F- 34
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Convertible Debentures (continued)
Fuse Note
On November 15, 2012 we issued an unsecured subordinated note to Fuse Capital LLC (“Fuse”) in consideration of cash proceeds of $100,000. Total interest of $20,000 was payable in applicable monthly installments starting December 15, 2012, and the principal balance was due on May 15, 2013. An origination fee was paid to Fuse by the issuance of 35,000 restricted ONSM common shares, which had a fair market value at issuance of approximately $14,000. This amount was reflected as a discount and was being amortized as interest expense over the six month term. Effective March 19, 2013 we issued an unsecured subordinated note to Fuse in the amount of $200,000 (the “Fuse Note”) in consideration of $100,000 of additional cash proceeds to us plus the cancellation of the November 15, 2012 note with a still outstanding balance of $100,000. The Fuse Note, which is convertible into restricted common shares at Fuse’s option using a rate of $0.50 per share, is payable as follows: interest only (at 12% per annum) during the first year, approximately 30% of the principal plus interest during the second year and the remaining principal balance at the end of the second year.
Since we concluded that there was more than a 10% difference between the present value of the cash flows of the November 15, 2012 note after its modification (by virtue of its inclusion in the Fuse Note dated March 19, 2013) versus the present value of the cash flows before the modification, under the provisions of ASC 470-50-40 ("Derecognition"), the modified terms were considered substantially different and we were required to recognize a non-cash debt extinguishment loss in our statement of operations for the year ended September 30, 2013. This $31,170 debt extinguishment loss was calculated as the excess of the $126,000 acquisition cost of the new debt ($100,000 face value of the portion of the March 19, 2013 note replacing the November 15, 2012 note plus the $26,000 fair value of the corresponding pro-rata portion of the common shares issued in consideration of the modification) over the net carrying amount of the extinguished debt immediately before the modification, which was $94,830.
In connection with the Fuse Note, we issued Fuse 80,000 restricted common shares (the “Fuse Common Stock”), which we agreed to buy back under the following terms: If the fair market value of the Fuse Common Stock is not equal to at least $0.40 per share on the date one (1) year after issuance, we will buy back, to the extent permitted by law, up to 40,000 shares of the originally issued Fuse Common Stock from Fuse at $0.40 per share. If the fair market value of the Fuse Common Stock is not equal to at least $0.40 per share on the date two (2) years after issuance, we will buy back, to the extent permitted by law, up to 80,000 shares of the originally issued Fuse Common Stock, less the amount of any shares already bought back at the one year point, from Fuse at $0.40 per share. The above only applies to the extent the Fuse Common Stock is still held by Fuse at the applicable dates. As of June 30, 2013 we determined that our share price had remained below $0.40 per share for a sufficient period that it was appropriate to record a liability for this repurchase commitment. Therefore, we recorded the $20,000 present value of this obligation as a liability on our financial statements as of June 30, 2013 which increased to $22,000 as of September 30, 2013, as a result of the accretion of $2,000 as interest expense for the year then ended. If the closing ONSM share price of $0.19 per share on February 7, 2014 was used as a basis of calculation, a stock repurchase payment of $32,000 would be required.
F- 35
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Convertible Debentures (continued)
Fuse Note (continued)
In connection with the Fuse Note, we also issued 40,000 restricted common shares to an unrelated third party for finder and other fees. The value of the Fuse Common Stock plus the value of the common stock issued for related financing fees was approximately $52,000, which was reflected as an increase in additional paid-in capital, with one half included in the debt extinguishment loss recognized for the year ended September 30, 2013, as discussed above, and the other half recorded as a discount against the Fuse Note. The discount portion of approximately $26,000 is being amortized as interest expense over the term of the note, resulting in an effective interest rate of approximately 19% per annum. The aggregate unamortized portion of the debt discount recorded against the Fuse Note was $19,094 as of September 30, 2013.
In connection with the issuance of the Fuse Note, we modified the terms on another $200,000 note issued to Fuse on November 30, 2012, to allow conversion of the principal balance into restricted common shares at Fuse’s option using a rate of $0.50 per share. This other $200,000 note is discussed in more detail under “Intella2 Investor Notes” below.
Intella2 Investor Notes
The Intella2 Investor Notes, of which $200,000 was convertible into common stock as of September 30, 2013, are discussed under “Notes and Leases Payable” below.
Sigma Note
The Sigma Note, of which $395,000 was convertible into common stock as of September 30, 2013, is discussed under “Notes and Leases Payable” below.
Equipment Notes
In June and July 2008 we received an aggregate of $1.0 million from seven accredited individuals and other entities (the “Investors”), under a software and equipment financing arrangement. We issued notes to those Investors (the “Equipment Notes”) with an original maturity date of June 3, 2011. The Equipment Notes were collateralized by specifically designated software and equipment owned by us with a cost basis of approximately $1.2 million, plus a subordinated lien on certain other of our assets to the extent that the designated software and equipment, or other software and equipment added to the collateral at a later date, was not considered sufficient security for the loan.
F- 36
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Convertible Debentures (continued)
Equipment Notes (continued)
After various modifications, as well as principal repayments via cash and conversions to common shares, the principal balance outstanding under the Equipment Notes was reduced to $350,000 and in July 2011, these remaining Equipment Notes were amended to provide for a September 3, 2011 maturity date and a $0.90 per common share conversion rate (at the Investors’ option). Effective October 1, 2011 these Equipment Notes were further amended to provide for an October 15, 2012 maturity date and a $0.70 per common share conversion rate (at the Investors’ option). In addition, the amendments provided that 50% of the principal would be paid in eleven equal monthly installments commencing November 15, 2011 and 50% of the principal would be payable on the maturity date. These Equipment Notes were assigned by the applicable Investors to three accredited entities (the “Noteholders”) in October 2011 and that time it was agreed that the first six monthly payments would be deferred and added to the final balloon payment.
Effective May 14, 2012 the Equipment Notes were modified, primarily to extend the principal repayment terms to a single balloon payment on July 15, 2013. In consideration of this modification, we agreed (i) to modify the conversion rate to $0.60 per share and (ii) to issue an aggregate of 70,000 unregistered ONSM common shares to the Noteholders. Although the present value of the cash flows of the Equipment Notes after this modification was not substantially different from the present value of the cash flows before the modification, under the provisions of ASC 470-50-40 if the conversion rate modification changes the fair value of the conversion option by 10% or more of the carrying value of the Equipment Notes immediately before the change, it would be considered substantially different terms and therefore an extinguishment of debt, in which case a new debt instrument would be recorded at fair value and that amount used to determine a non-cash debt extinguishment gain or loss recognized in our statement of operations. We determined that the fair value of the conversion option of the Equipment Notes as modified to $0.60 per share was zero, which represents no change in the value of the conversion option before such modification, and as a result this transaction was not treated as a debt extinguishment.
Although the closing market price on the effective date of the modification was $0.66 per share, since it is our policy that Board approval is required before stock may be issued, and consistent with that policy we did not issue the 70,000 common shares to the Noteholders that were part of this modification transaction until such approval was obtained, the June 12, 2012 Board approval date, when the closing market price was $0.56, should be used for purposes of valuing the modified conversion option. Accordingly, we assigned the modified conversion option a valuation of zero.
On December 31, 2012 we issued an aggregate of 140,000 restricted common shares to the Noteholders in consideration of a December 12, 2012 modification of the scheduled principal payment date from July 15, 2013 to payments of $100,000 on November 15, 2013, $150,000 on December 15, 2013 and $100,000 on December 31, 2013 (collectively, the “Maturity Dates”). The balance due under the Equipment Notes was classified as non-current on our September 30, 2012 balance sheet based on those modified payment terms. As part of this modification, we also agreed to issue the Noteholders an aggregate of 583,334 restricted common shares (split into two tranches in January and June 2013), to be credited upon issuance as a reduction of the outstanding Equipment Notes balance, using a price of $0.30 per share and (after both tranches are issued) which would have resulted in a Credited Value of $175,000 and a remaining outstanding Equipment Notes balance of $175,000.
F- 37
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Convertible Debentures (continued)
Equipment Notes (continued)
In accordance with the December 12, 2012 modification, 291,668 shares were issued to the Noteholders on January 18, 2013. However, the terms of the Sigma Note, which closed on March 21, 2013, required us to immediately repay from those proceeds the remaining balance due on the Equipment Notes. Such repayment was made by us with $175,000 cash and issuance of the remaining 291,666 shares to the Noteholders. As provided for in the December 12, 2012 modification, once the 583,334 shares were issued, the Equipment Notes were no longer convertible into any additional common shares. Furthermore, in connection with our early repayment in March 2013, the Noteholders relinquished all claims to the collateral previously associated with this obligation.
However, the terms of the Equipment Notes still provided that on the Maturity Dates (as established in the December 12, 2012 modification), the Recognized Value shall be calculated as the sum of the following two items - (i) the gross proceeds to the Investors from the sales of the 583,334 shares issued per the December 12, 2012 modification plus (ii) the value of those shares issued and still held by the Noteholders and not sold, using the average ONSM closing bid price per share for the ten (10) trading days prior to the Maturity Dates. If the Recognized Value exceeded the Credited Value, then we would receive 50% (fifty percent) of such excess, although the amount received by us shall not exceed $175,000. If the Credited Value exceeded the Recognized Value, then we would be obligated to pay such excess to the Noteholders. With respect to Equipment Notes held by one of the three Noteholders, the Credited Value exceeded the Recognized Value for 166,667 common shares by approximately $16,000 as of the respective November 15, 2013 Maturity Date. We recorded no accrual for this matter on our financial statements as of September 30, 2013, based on the immateriality of a $5,000 liability, if calculated based on the September 30, 2013 ONSM closing price of $0.27 per share. However, we will recognize the actual liability of approximately $16,000 as interest expense during the first quarter of fiscal 2014.
In connection with financing obtained by us in October and November 2013 from the other two Noteholders (see note 9), the above terms with respect to settlement of differences between the Credited Value and the Recognized Value were replaced with our agreement to buy back, to the extent permitted by law, the 416,667 common shares issued to those Noteholders, if the fair market value of the shares are not equal to at least $0.30 per share on the maturity dates of the October and November 2013 financing, which are April 24 and May 4, 2015, respectively. The above only applies to the extent the shares are still held by the Noteholders on the applicable date and the buyback obligation only applies if the Noteholders give us notice within fifteen days after the applicable maturity dates of the October and November 2013 financing. As of September 30, 2013, we determined that our share price had remained below $0.30 per share for a sufficient period that it was appropriate to record a liability for this repurchase commitment. Therefore, we recorded the $80,000 present value of this obligation as a liability on our financial statements as of that date. If the closing ONSM share price of $0.19 per share on February 7, 2014 was used as a basis of calculation, a stock repurchase payment of $125,000 would be required.
F- 38
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Convertible Debentures (continued)
Equipment Notes (continued)
Furthermore, we have agreed that in the event we receive funds in excess of $5 million as a result of a single transaction for the sale of all or a part of our operations or assets, that those funds will be available to satisfy the above buyback obligation, such availability subject only to prior satisfaction of any claims held by Thermo Credit LLC, Rockridge Capital Holdings LLC, Sigma Opportunity Fund II, LLC, USAC, and certain capital leases (HP Financial and Tamco), or any assignees or successors thereto and pari passu with up to $775,000 of total indebtedness and related obligations raised and incurred by us during the first quarter of fiscal 2014. In addition, we agreed that to the extent the number of outstanding shares of our common stock exceeds 22 million shares, then we will issue the Noteholders additional shares of common stock equal to seventy-six hundredths percent (0.76%, or 0.0076) of the excess over 22 million, times the percentage of the original 416,667 common shares still held by the Noteholders on the six and twelve month anniversary dates of the October and November 2013 financing, as well as the eighteen month maturity date. For clarity, additional issuances based on any particular increase in the number of our outstanding shares over the stated limit will only be made once and so additional issuances on the second and third dates will be limited and related to increases since the first and second dates, respectively.
Since we concluded that there was more than a 10% difference between the present value of the cash flows of the Equipment Notes after the December 12, 2012 modification and the present value of the cash flows under the payment terms in place one year earlier, under the provisions of ASC 470-50-40, the modified terms were considered substantially different and we were required to recognize a non-cash debt extinguishment loss in our statement of operations for the year ended September 30, 2013. This $68,600 debt extinguishment loss was calculated as the excess of the $399,000 acquisition cost of the new debt ($350,000 face value of the notes plus the $49,000 fair value of the 140,000 common shares issued in consideration of the modification) over the net carrying amount of the extinguished debt immediately before the modification, which was $330,400. The comparison of the present value of cash flows under the modified terms is normally done using the present value of cash flows under the terms existing immediately before the modification. However, under the provisions of ASC 470-50-40, if a modification was done less than a year ago that was not considered substantially different, then the comparison of current terms should be to the terms existing one year prior to the current modification.
In lieu of cash payment of $80,148 for interest due on these Equipment Notes for the period from November 1, 2010 through September 30, 2011, we elected to issue 85,574 unregistered common shares to the Investors, which were recorded based on the $91,853 fair value of those shares on the issuance dates. Interest at 12% per annum was paid in cash on April 15, 2012 and October 15, 2012, plus a final interest payment in March 2013.
F- 39
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Convertible Debentures (continued)
Equipment Notes (continued)
From October 1, 2011 to May 12, 2012, the effective interest rate of the Equipment Notes was 12% per annum, excluding the impact of our payment of certain interest amounts in discounted common shares instead of cash. The $49,000 fair value of the 70,000 shares issued as part of the May 2012 modification was recorded as a discount (as well as a corresponding increase in additional paid-in capital) and was partially amortized as interest expense over the remaining term of the Equipment Notes through December 31, 2012, resulting in an effective interest rate of approximately 26% per annum through that date. The unamortized portion of this discount was $30,625 as of September 30, 2012 and was $19,600 as of December 31, 2012, prior to its write-off as part of the debt extinguishment loss recognized for the year ended September 30, 2013, as discussed above. The $49,000 fair value of the 140,000 shares issued as part of the December 2012 modification was also included in the debt extinguishment loss (and reflected as an increase in additional paid-in capital). As a result, the effective interest rate of the Equipment Notes after December 31, 2012 was 12% per annum.
Notes and Leases Payable
Notes and leases payable consist of the following:
F- 40
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Notes and Leases Payable (continued)
Line of Credit Arrangement
In December 2007, we entered into a line of credit arrangement (the “Line”) with a financial institution (the “Lender” or “Thermo Credit”), which arrangement has been renewed and modified from time to time, and under which we may presently borrow up to an aggregate of $2.0 million for working capital, collateralized by our accounts receivable and certain other related assets. The outstanding balance bears interest at 12.0% per annum, adjustable based on changes in prime after December 28, 2009, payable monthly. We also incur monitoring fee of one twentieth of a percent (0.05%) of the borrowing limit per week, payable monthly. Mr. Leon Nowalsky, a member of our Board, is also a founder and board member of the Lender.
Although the Line expired on December 27, 2013, we and the Lender have been actively working together to complete the documentation for the renewal of that Line and on January 13, 2014 we received a letter from the Lender confirming that they will be renewing the Line through December 31, 2015, with terms materially equivalent to the just expired Line. A commitment fee of $40,000, calculated as one percent (1%) per year of the maximum allowable borrowing amount, will be incurred for the two-year renewal of the Line, payable in two equal installments when the Line is formally renewed and December 2014.
The outstanding principal is due on demand in the event a payment default is uncured one (1) day after written notice. The outstanding principal balance due under the Line may be repaid by us at any time, and the term may be extended by us for an extra year, subject to compliance with all loan terms, including no material adverse change, as well as concurrence of the Lender.
The Line is also subject to us maintaining an adequate level of receivables, based on certain formulas, as well as our compliance with a quarterly debt service coverage covenant (the “Covenant”). The Covenant, which was applicable starting in the quarter ended March 31, 2012, requires that the sum of (i) our net income or loss, adjusted to remove all non-cash expenses as well as cash interest expense and (ii) contributions to capital (less cash distributions and/or cash dividends paid during such period) and proceeds from subordinated unsecured debt, be equal to or greater than the sum of cash payments for interest and debt principal payments. We have complied with this Covenant for all applicable quarters through September 30, 2013.
The terms of the Line require that all funds remitted by our customers in payment of receivables be deposited directly to a bank account owned by the Lender. Once those deposited funds become available, the Lender is then required to immediately remit them to our bank account, provided that we are not in default under the Line and to the extent those funds exceed any past due principal, interest or other payments due under the Line, which the Lender may offset before remitting the balance.
Commitment fees and other fees and expenses paid to the Lender are recorded by us as debt discount and amortized as interest expense over the remaining term of the Line. The unamortized portion of the debt discount was $11,568 and $23,446 as of September 30, 2013 and 2012, respectively. A commitment fee of $40,000, calculated as one percent (1%) per year of the maximum allowable borrowing amount, was incurred for the two-year renewal of the Line effective December 28, 2011, and was paid in two equal installments in February and December 2012.
F- 41
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Notes and Leases Payable (continued)
Line of Credit Arrangement (continued)
The Lender must approve any additional debt incurred by us, other than debt subordinated to the Line and debt incurred in the ordinary course of business (which includes equipment financing). The Lender approved the Equipment Notes, the Rockridge Note, the USAC Note and the Sigma Note. All other debt entered into by us subsequent to the December 2007 inception of the Line has been appropriately approved by the Lender and/or was allowable under one of the exceptions noted above.
Sigma Note
On March 21, 2013 (the “Sigma Closing”) we closed a transaction with Sigma Opportunity Fund II, LLC (“Sigma”), under which we would receive up to $800,000 pursuant to a senior secured note (“Sigma Note”) issued to Sigma and collateralized by all of our assets, subordinated only to security interests already held in connection with outstanding financings with Thermo Credit and Rockridge. Sigma remitted $600,000 (net of fees and expenses discussed below) to us at the Sigma Closing, and the funding of the remaining $200,000 (“Contingent Financing”) was subject to us meeting certain revenue and operating cash flow targets for either the three months ended June 30, 2013 or the six months ended September 30, 2013, as well as making all scheduled principal and interest payments on our indebtedness to Sigma and our other lenders.
On June 14, 2013, we amended the Sigma Note to provide that we would receive immediate additional funding of $345,000, which would be in lieu of the $200,000 Contingent Financing. Furthermore, this $345,000 would be subject to the same terms as the Contingent Financing, in that it would be repayable as a balloon payment due on December 18, 2014 and prior to repayment, along with the previous balloon payment of $50,000 for a total balloon payment of $395,000, would be convertible into restricted common shares, at Sigma’s option, using a conversion rate of $1.00 per share. After the amendment the total gross proceeds received under the Sigma Note was $945,000 and all other terms of the March 21, 2013 Sigma Note remained in effect, as set forth below.
Interest, computed at 17% per annum on the outstanding principal balance, is payable in monthly installments, which commenced April 30, 2013. In February 2014, we executed the Sigma Term Sheet for additional financing, which if closed will include the deferral of all principal and interest repayments due under the Sigma Note, starting with the December 31, 2013 payment and ending with the September 30, 2014 payment, until the December 18, 2014 maturity date - see note 1. Subject to closing the Sigma Term Sheet financing, the principal balance remains payable as follows:
June 30, 2013
$7,000
July 31 - September 30, 2013
$12,000 per month
October 31, 2013 - March 31, 2014
$22,000 per month
April 30 - June 30, 2014
$35,000 per month
July 31 - September 30, 2014
$40,000 per month
October 31 - November 30, 2014
$50,000 per month
December 18, 2014
$50,000
December 18, 2014 - Balloon payment
$395,000
F- 42
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Notes and Leases Payable (continued)
Sigma Note (continued)
The Sigma Note may be prepaid by us at any time, provided, however, that if the Sigma Note is prepaid during the twelve months immediately following the Sigma Closing, we shall pay an additional 90 days of interest on the then outstanding principal as of such prepayment date. If following the Sigma Closing we receive proceeds from the sale of a business unit and/or in connection with the issuance of additional equity, debt or convertible debt capital in the amounts listed in the table below, calculated on an aggregate basis subsequent to the Sigma Closing (“Aggregate Capital Raise”), we are required to immediately repay to Sigma the indicated amount (“Early Repayment Amount”), applied first toward repayment of interest and then toward principal.
Aggregate Capital Raise
Early Repayment Amount
$500,000 to $1,000,000
Lesser of outstanding principal plus interest or 25% of Capital Raise
$1,000,001 to $2,000,000
Lesser of outstanding principal plus interest or 50% of Capital Raise (reduced by any amounts previously repaid as a result of a Capital Raise transaction)
$2,000,001 or Higher
All outstanding principal plus Interest must be paid
The Aggregate Capital Raise excludes (i) advances received by us against accounts receivable from Thermo Credit pursuant to the Line, or any successor agreement entered into on materially the same terms, (ii) up to $330,000 of additional subordinated financing obtained by us on materially the same as certain previously-agreed terms and (iii) the additional amounts received in June 2013 from Sigma.
In connection with the initial March 2013 financing, we issued 300,000 restricted common shares to Sigma and agreed to reimburse up to $30,000 of Sigma’s legal and other expenses related to this financing, $27,500 of which was paid by us at the Sigma Closing. We also issued 60,000 restricted common shares to Sigma Capital Advisors, LLC (“Sigma Capital”) and agreed to pay them a $75,000 advisory fee, in connection with an Advisory Services Agreement we entered into with Sigma Capital effective March 18, 2013. $55,000 of the cash fee was paid by us at the Sigma Closing and the remaining $20,000 was paid over the next four months. We also paid finders and other fees to unrelated third parties in connection with this transaction, which totaled 60,000 restricted common shares and $12,000 cash.
In connection with the June 2013 amendment, we issued 325,000 restricted common shares to Sigma and made payments aggregating $45,000 to Sigma and Sigma Capital, representing an administrative fee plus reimbursement of Sigma’s other cost and expenses related to this financing. We also issued 125,000 restricted common shares to Sigma Capital.
F- 43
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Notes and Leases Payable (continued)
Sigma Note (continued)
The value of the common stock issued plus the amount of cash paid for related financing fees and expenses, was reflected as a $511,188 discount against the Sigma Note (as well as a corresponding increase in additional paid-in capital for the shares) and that amount is being amortized as interest expense over the term of the note, resulting in an effective interest rate of approximately 56% per annum (which was 60% per annum for the period prior to the June 2013 amendment). This effective rate would increase in the event an Early Repayment Amount was required, as discussed above. The aggregate unamortized portion of the debt discount recorded against the Sigma Note was $348,823 (including $152,755 related to the portion of this debt classified as a convertible debenture) as of September 30, 2013.
Although we concluded that there was less than a 10% difference between the present value of the cash flows of the Sigma Note after its modification (including the Black-Scholes value of the additional conversion rights granted) versus the present value of the cash flows before the modification, which 10% is the threshold over which extinguishment accounting is required under the provisions of ASC 470-50-40, ASC 470-50-40 also provides that if a substantive conversion feature is added to an instrument, the modified terms are considered substantially different and extinguishment accounting is required. However, since the ONSM closing price of $0.30 per share at the time the additional conversion rights were granted under the modification was significantly less than the $1.00 per share conversion price, and the Black-Scholes value of such conversion right was determined by us to be approximately $6,700, which we concluded was immaterial, we determined that it was not reasonably possible that the conversion feature would be exercised and thus determined the conversion feature to not be substantive. Accordingly, accounting for this modification as an extinguishment of debt was not required.
For so long as the Sigma Note is outstanding, if at any time after the Sigma Closing we issue additional shares of common stock (other than as a result of common stock equivalents already issued prior to the Issuance Date) or common stock equivalents in an amount which exceeds, in the aggregate, 25% of our fully diluted shares (as defined) as of the Sigma Closing, whether through one or multiple issuances, then provided the proceeds of such issuance are not being used to pay all outstanding amounts owed under the Sigma Note, we shall issue to Sigma and Sigma Capital, respectively, such number of shares of common stock as is necessary for Sigma and Sigma Capital to maintain the same beneficial ownership percentage of our capital stock, on a fully diluted basis, after the additional shares issuance as they had immediately before the additional shares issuance. If, at the time of any additional share issuance, Sigma has not converted all or a portion of the amount of the Sigma Note eligible for conversion to common shares, we shall reserve for future issuance to Sigma upon any subsequent conversion, and shall issue to Sigma upon any subsequent conversion, such number of shares of common stock as to which Sigma would have been entitled hereunder had Sigma converted the unconverted amount immediately prior to the additional shares issuance. Notwithstanding the above, this provision shall only apply to beneficial ownership resulting from transactions related to the Sigma Note or the Advisory Services Agreement and shall not apply to our issuance of common stock or common stock equivalents in connection with our acquisition of another entity or the material portion of the assets of another entity, which transaction results in operating cash flow in excess of any related debt service.
F- 44
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Notes and Leases Payable (continued)
Subordinated Notes
Since March 9, 2012, we have received funding from various unrelated lenders, of which $316,667 and $300,000 was outstanding as of September 30, 2013 and 2012, respectively, in exchange for our issuance of unsecured subordinated promissory notes (“Subordinated Notes”), fully subordinated to the Line and the Rockridge Note or assignees or successors thereto. Details of the notes making up these totals are as follows:
On March 9, 2012 we received $100,000 for an unsecured subordinated note bearing interest at 15% per annum. Finders and origination fees were paid by the issuance of an aggregate of 20,000 restricted ONSM common shares, which had a fair market value at issuance of approximately $12,800. This amount was reflected as a discount and was amortized as interest expense over the one year term through November 30, 2012, at which time the unamortized balance was written off as additional interest expense. Including this discount, the effective interest rate of this note was approximately 30% per annum. Interest payments were made on this note through November 30, 2012, at which time we satisfied the outstanding $100,000 balance by using it as partial funding for a $200,000 Intella2 Investor Note issued on that date and which is discussed in more detail below. The balance due under this March 9, 2012 note is classified as non-current on our September 30, 2012 balance sheet based on the terms of payment of that Intella2 Investor Note.
Since we concluded that there was less than a 10% difference between the present value of the cash flows of this note after its modification (by virtue of its inclusion in the Intella2 Investor Note dated November 30, 2012) versus the present value of the cash flows before the modification, under the provisions of ASC 470-50-40, the modified terms were not considered substantially different and therefore accounting for this modification as an extinguishment of debt was not required.
On April 30, 2012 we received $100,000 for an unsecured subordinated note bearing interest at 15% per annum. Finders and origination fees were paid by the issuance of an aggregate of 20,000 restricted ONSM common shares, which had a fair market value at issuance of approximately $11,800. This amount was reflected as a discount and was amortized as interest expense over the one year term through November 1, 2012. Including this discount, the effective interest rate of this note was approximately 29% per annum. On December 31, 2012 we issued an additional 35,000 common shares to the holder of this note in exchange for a reduction of the interest rate from 15% to 12% per annum, effective November 1, 2012, and a modification of the principal payment schedule to a single payment of $100,000 due on October 31, 2014. Prior to this modification, the principal was payable in equal monthly installments of $8,333 starting November 30, 2012, with the balance of $58,333 payable on April 30, 2013, although none of these payments were made. The balance due under this note is classified as non-current on our September 30, 2012 balance sheet based on the December 2012 modification of the payment terms. Interest for the first six months was paid on October 31, 2012, with subsequent interest payments due every three months thereafter through October 31, 2014. The $12,600 value of the additional shares issued in December 2012 were reflected as a discount against this note (as well as a corresponding increase in additional paid-in capital for the value of the shares on the date of issuance) and that amount, as well as the unamortized portion of the previously recorded discount, are being amortized as interest expense over the remaining term of the note, as modified, resulting in an effective interest rate of approximately 21% per annum.
F- 45
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Notes and Leases Payable (continued)
Subordinated Notes (continued)
Since we concluded that there was less than a 10% difference between the present value of the cash flows of this note after the November 1, 2012 modification versus the present value of the cash flows before the modification, under the provisions of ASC 470-50-40, the modified terms were not considered substantially different and therefore accounting for this modification as an extinguishment of debt was not required.
On June 1, 2012 we received $100,000 for an unsecured subordinated note bearing interest at 12% per annum. The principal was payable in equal monthly installments of $8,333 starting January 1, 2013 plus a final payment of $58,333 on June 1, 2013. Interest for the first six months was paid on December 1, 2012 and was payable thereafter on a monthly basis. The outstanding balance of this note was $66,667 and $100,000 as of September 30, 2013 and 2012, respectively. Finders and origination fees were paid with 40,000 restricted ONSM common shares and the fair market value at issuance of approximately $23,600 was reflected as a discount and amortized as interest expense over the one year term. Including this discount, the effective interest rate of this note, based on its originally contemplated term, was approximately 39% per annum. On October 24, 2013, the outstanding principal balance of this note, as well as accrued but unpaid interest, in the aggregate amount of $71,182 was satisfied from the gross proceeds of a $170,000 note issued by us to the same lender - see note 9. $28,031 of the balance due under this note is classified as non-current on our September 30, 2013 balance sheet based on the payment terms of the October 2013 financing.
On October 12, 2012 we received $50,000 for an unsecured subordinated note. The principal was fully repaid in six monthly installments of $8,333, plus an allocation of the total interest of $5,000, starting November 12, 2012. An origination fee was paid to the lender by the issuance of 15,000 restricted ONSM common shares, which had a fair market value at issuance of approximately $5,700. This amount was reflected as a discount and was amortized as interest expense over the six month term.
During January 2013 we received an aggregate of $150,000 pursuant to our issuance of two unsecured subordinated notes, bearing interest at 20% per annum. The principal plus accrued interest was payable in a single balloon payment in July 2013. An aggregate of 120,000 restricted ONSM common shares with a fair market value at issuance of approximately $38,000 was issued to the lenders as an origination fee. This amount was reflected as a discount and amortized as interest expense over the six month term. In July 2013, accrued interest aggregating $15,000 was paid in cash and the maturity date of these notes was extended to January 2014. An aggregate of 120,000 restricted ONSM common shares with a fair market value at issuance of approximately $35,000 was issued to the lenders as an extension fee. This amount was reflected as a discount and is being amortized as interest expense over the second six month term. Including the discount, the effective interest rate of these notes was approximately 71% per annum for the first six months and approximately 67% per annum for the second six months. In January 2014 the maturity date of these notes was extended to October 2014 and the outstanding principal amount increased for the aggregate $15,000 of earned but unpaid interest. An aggregate of 240,000 restricted ONSM common shares with a fair market value at issuance of approximately $65,000 was issued to the lenders as an extension fee. This amount will be reflected as a discount and amortized as interest expense over the third term of approximately nine and one half months. The balance due under these notes, net of unamortized discount, is classified as non-current on our September 30, 2013 balance sheet based on the payment terms as modified in January 2014.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Notes and Leases Payable (continued)
Subordinated Notes (continued)
The aggregate unamortized portion of the debt discount recorded against the Subordinated Notes was $27,148 and $27,950 as of September 30, 2013 and 2012, respectively.
USAC Note
On February 15, 2013 we executed a letter agreement promissory note with the Universal Service Administrative Company (“USAC”) for $372,453, payable in monthly installments of $19,075 over twenty-two months starting March 15, 2013 through December 15, 2014 (the “USAC Note”). These payments include interest at 12.75% per annum. This letter agreement promissory note is related to our liability for Universal Service Fund (USF) contribution payments previously reflected as an accrued liability on our balance sheet and therefore resulted in the reclassification of a portion of that accrued liability to notes payable. USAC is a not-for-profit corporation designated by the Federal Communications Commission (“FCC”) as the administrator of the USF program. See notes 1 and 5.
Intella2 Investor Notes
On November 30, 2012 we issued unsecured promissory notes to five investors (the “Intella2 Investor Notes”), with an initial aggregate outstanding balance of $450,000 bearing interest at 12% per annum and which are fully subordinated to the Line and the Rockridge Note or any assignees or successors thereto. These notes were issued in exchange for $350,000 cash proceeds plus the satisfaction of the $100,000 outstanding principal balance due on a Subordinated Note issued by us on March 9, 2012 (discussed in more detail above). Note payments are interest only during the first year, approximately 30% of the principal plus interest during the second year and the remaining principal balance at the end of the second year. Furthermore, in connection with the issuance of the Fuse Note on March 19, 2013 (discussed in more detail above), we modified the terms on one of the Intella2 Investor Notes, held by Fuse and having a $200,000 outstanding principal balance, to allow conversion of the principal balance into restricted common shares at Fuse’s option using a rate of $0.50 per share.
Although there was no difference between the present value of the cash flows of the November 30, 2012 Intella2 Investor Note held by Fuse after its modification versus the present value of the cash flows before the modification, under the provisions of ASC 470-50-40 ("Derecognition"), if a substantive conversion feature is added to an instrument, the modified terms are considered substantially different and extinguishment accounting is required. Since the ONSM closing price was greater than the $0.50 per share conversion price at times during the ninety days prior to granting such conversion feature (although the ONSM closing price was below $0.50 at the time the conversion feature was granted), we determined that it was at least reasonably possible that the conversion feature would be exercised and thus determined the conversion feature to be substantive. Accordingly, we recognized a non-cash debt extinguishment loss in our statement of operations for the year ended September 30, 2013. This $43,481 debt extinguishment loss was calculated as the excess of the $200,000 acquisition cost of the new debt over the net carrying amount of the extinguished debt immediately before the modification, which was $156,519.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Notes and Leases Payable (continued)
Intella2 Investor Notes (continued)
In connection with the above financing, we issued to the holders of the Intella2 Investor Notes an aggregate of 180,000 restricted common shares (the “Intella2 Common Stock”), which we have agreed to buy back, under certain terms. If the fair market value of the Intella2 Common Stock is not equal to at least $0.40 per share on the final maturity date two (2) years after issuance, we will buy back, to the extent permitted by law, those shares of the originally issued Intella2 Common Stock from the investor at $0.40 per share. This only applies to the extent the Intella2 Common Stock is still held by the investor(s) at the applicable date and only if the investor gives us notice and delivers the shares within fifteen days after the final maturity date. As of June 30, 2013 we determined that our share price had remained below $0.40 per share for a sufficient period that it was appropriate to record a liability for this repurchase commitment. Therefore, we recorded the $48,000 present value of this obligation as a liability on our financial statements as of June 30, 2013 which increased to $52,000 as of September 30, 2013, as a result of the accretion of $4,000 as interest expense for the year then ended. If the closing ONSM share price of $0.19 per share as of February 7, 2014 was used as a basis of calculation, a stock repurchase payment of $72,000 would be required.
We paid (i) financing fees in cash of $16,000 to a third-party agent, related to $200,000 of this financing, and (ii) a commission of 100,000 unrestricted common shares to another third-party agent, which is related to the entire $350,000 cash portion of the financing as well as to potential additional financing which may be raised under these terms. The value of the Intella2 Common Stock, plus the value of common stock issued and cash paid for related financing fees and commissions, was reflected as a $117,400 discount against the Intella2 Investor Notes (as well as a corresponding increase in additional paid-in capital for the shares) and that amount was partially amortized as interest expense over the term of the notes through March 31, 2013, resulting in an effective interest rate of approximately 26% per annum.
The unamortized portion of this discount related to the Intella2 Investor Note held by Fuse was $43,481 as of March 31, 2013, prior to its write-off as the debt extinguishment loss recognized for the year ended September 30, 2013, as discussed above. As a result, the effective interest rate of the Intella2 Investor Note held by Fuse after March 31, 2013 is 12% per annum, with the effective interest rate for the other Intella2 Investor Notes remaining at approximately 26% per annum. After the write-off of a portion of the discount as debt extinguishment loss, the aggregate unamortized portion of the debt discount recorded against the Intella2 Investor Notes was $38,046 (none of which related to the portion of this debt classified as a convertible debenture) as of September 30, 2013.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Notes and Leases Payable (continued)
Investor Notes
On or about November 30, 2012 we received $175,000 pursuant to unsecured promissory notes issued to four investors and on January 2, 2013 we received $25,000 pursuant to an unsecured promissory note issued to CCJ (in aggregate, the “Investor Notes”), bearing interest at 12% per annum and which are fully subordinated to the Line and the Rockridge Note or any assignees or successors thereto. Note payments are interest only during the first year, approximately 30% of the principal plus interest during the second year and the remaining principal balance at the end of the twenty-fifth month. On November 4, 2013, the outstanding principal balance of the $25,000 note issued to CCJ, as well as accrued but unpaid interest, in the aggregate amount of $26,000 was satisfied from the gross proceeds of a $250,000 note issued by us to the same lender - see note 9.
In connection with the above financing, we issued to the holders of the Investor Notes an aggregate of 240,000 restricted common shares (the “Investor Common Stock”), of which we have agreed to buy back up to 35,000 shares, under certain terms. If the fair market value of the Investor Common Stock is not equal to at least $0.80 per share on the final maturity date two (2) years after issuance, we will buy back, to the extent permitted by law, up to 35,000 shares of the originally issued Investor Common Stock from the investor at $0.80 per share. The above only applies to the extent the Investor Common Stock is still held by the investor(s) at the applicable date and only if the investor gives us notice and delivers the shares within fifteen days after the final maturity date. As of November 30, 2012 we determined that our share price had remained below $0.80 per share for a sufficient period that it was appropriate to record a liability for this repurchase commitment. Therefore, we recorded the $16,000 present value of this obligation as a liability on our financial statements as of November 30, 2012 which increased to $21,000 as of September 30, 2013, as a result of the accretion of $5,000 as interest expense for the year then ended. If the closing ONSM share price on February 7, 2014 of $0.19 per share was used as a basis of calculation, a stock repurchase payment of $28,000 would be required.
In addition to the above, in November 2013 we agreed with one holder of Investor Notes to reimburse them for the approximately $3,200 shortfall between the proceeds to them for their sale of 5,000 shares we issued them in connection with the issuance of the Investor Notes and the $0.80 per share that we had previously agreed to pay for those shares, to the extent permitted by law and subject to the other restrictions noted above. We recorded no accrual for this matter on our financial statements as of September 30, 2013, based on the immateriality of an approximately $2,700 liability, if calculated based on the September 30, 2013 ONSM closing price of $0.27 per share. However, we will recognize the actual liability of approximately $3,200 as interest expense during the first quarter of fiscal 2014.
We paid a third-party agent financing fees of $14,000 plus 35,000 unrestricted common shares related to this financing. The value of the Investor Common Stock, plus the value of common stock issued and cash paid for related financing fees, was reflected as a $113,700 discount against the Investor Notes (as well as a corresponding increase in additional paid-in capital for the shares) and that amount is being amortized as interest expense over the term of the notes, resulting in an effective interest rate of approximately 43% per annum. The aggregate unamortized portion of the debt discount recorded against the Investor Notes was $68,604 as of September 30, 2013.
F- 49
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Notes and Leases Payable (continued)
CCJ Note
As of September 30, 2012 we owed $100,000 under the CCJ Note and as of December 31, 2012 we would have owed $100,000 principal plus the final quarterly interest payment of $2,500. However, we agreed with CCJ to combine that $102,500 obligation with another unpaid obligation of $43,279 related to reimbursement of the shortfall upon the resale of common shares issued upon conversion of Series A-13 - see note 6. The combined obligation of $145,779 was the principal amount of a replacement subordinated note issued to CCJ dated December 31, 2012 and payable in 24 monthly principal and interest installments of $6,862 starting January 31, 2013 and which payment amount included interest at 12% per annum. The balance due under the CCJ Note was classified between current and non-current on our September 30, 2012 balance sheet based on these modified terms of payment. Prior to the issuance of the December 31, 2012 replacement note, the CCJ Note was convertible by CCJ into our common shares at the greater of (i) the previous 30 day market value or (ii) $2.00 per share. The December 31, 2012 replacement note had no conversion rights. On November 4, 2013, the outstanding principal balance of the CCJ Note, as well as accrued but unpaid interest, in the aggregate amount of $125,000 was satisfied from the gross proceeds of a $250,000 note issued by us to the same lender - see note 9. $72,702 of the balance due under this note is classified as non-current on our September 30, 2013 balance sheet based on the payment terms of the November 2013 financing.
In consideration of a December 2009 predecessor transaction to the CCJ Note, CCJ exchanged 35,000 shares of Series A-12 held at that date for 35,000 shares of Series A-13 plus four-year warrants for purchase of 29,167 ONSM common shares at $3.00 per share - see notes 6 and 8. As a result, the effective interest rate of the CCJ Note was approximately 47.4% per annum, including the Black-Scholes value of the warrants of $32,518 plus the $108,500 value of the increased number of common shares underlying the Series A-13 shares versus the Series A-12 shares, which total of $141,018 we recorded as a debt discount. The effective rate of 47.4% per annum also included 11.2% per annum related to dividends that would have accrued to CCJ as a result of the later mandatory conversion date of the Series A-13 shares versus the mandatory conversion date of the Series A-12 shares. In conjunction with and in consideration of a January 2011 predecessor transaction to the CCJ Note, certain terms of the 35,000 shares of Series A-13 held by CCJ at that date were modified - see note 6. As a result, the effective interest rate of the CCJ Note increased to approximately 78.5% per annum, reflecting the $46,084 value of the increased number of common shares underlying the Series A-13 shares as a result of the modified terms, which we recorded as a debt discount, the increase in the periodic cash interest rate from 8% to 10% per annum and 9.3% per annum related to dividends that could accrue to CCJ as a result of the later mandatory conversion date of the Series A-13 shares as a result of the modified terms. As of January 1, 2013, the effective interest rate of the CCJ Note was 12% per annum. The unamortized portion of the debt discount was zero and $9,491 as of September 30, 2013 and 2012, respectively.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 4: DEBT (Continued)
Notes and Leases Payable (continued)
The minimum cash payments required for the convertible debentures, notes payable and capitalized lease obligations listed above are as follows:
The amounts shown above are before deducting unamortized discount and do not include interest. The Line is included above as a $1,605,672 payment during the year ending September 30, 2014, based on its balance sheet classification as a current liability, although we have renewed the Line on a regular basis since its 2009 inception and expect to renew it through December 2015.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 5: COMMITMENTS AND CONTINGENCIES
Employment contracts and severance
On September 27, 2007, our Compensation Committee and Board of Directors approved three-year employment agreements with Messrs. Randy Selman (President and CEO), Alan Saperstein (COO and Treasurer), Robert Tomlinson (Chief Financial Officer), Clifford Friedland (Senior Vice President Business Development) and David Glassman (Senior Vice President Marketing), collectively referred to as “the Executives”. In addition, our Compensation Committee and Board have approved certain corrections and modifications to those agreements from time to time, which are reflected in the discussion below. The employment agreements provide that the initial term shall automatically be extended for successive one (1) year terms thereafter unless (a) the parties mutually agree in writing to alter the terms of the agreement; or (b) one or both of the parties exercises their right, pursuant to various provisions of the agreement, to terminate the employment relationship.
The employment agreements provide initial annual base salaries of $253,000 for Mr. Selman, $230,000 for Mr. Saperstein, $207,230 for Mr. Tomlinson and $197,230 for Messrs. Friedland and Glassman, plus ten percent (10%) annual increases through December 27, 2008 and five percent (5%) per year thereafter. In addition, each of the Executives receives an auto allowance payment of $1,000 per month, a “retirement savings” payment of $1,500 per month and an annual reimbursement of dues or charitable donations up to $5,000. We also pay insurance premiums for the Executives, including medical, life and disability coverage. These agreements contain certain non-disclosure and non-competition provisions and we have agreed to indemnify the Executives in certain circumstances.
Under the terms of the employment agreements, upon a termination subsequent to a change of control, termination without cause or constructive termination, each as defined in the agreements, we would be obligated to pay each of the Executives an amount equal to three (3) times the Executive’s base salary plus full benefits for a period of the lesser of (i) three (3) years from the date of termination or (ii) the date of termination until a date one (1) year after the end of the initial employment contract term. We may defer the payment of all or part of this obligation for up to six (6) months, to the extent required by Internal Revenue Code Section 409A.
Under the terms of the employment agreements, we may terminate an Executive’s employment upon his death or disability or with or without cause. If an Executive is terminated for cause, no severance benefits are due him. If an employment agreement is terminated as a result of the Executive’s death, his estate will receive one year base salary plus any bonus or other compensation amount or benefit then payable or that would have been otherwise considered vested or earned under the agreement during the one-year period subsequent to the time of his death. If an employment agreement is terminated as a result of the Executive’s disability, as defined in the agreement, he is entitled to compensation in accordance with our disability compensation for senior executives to include compensation for at least 180 days, plus any bonus or other compensation amount or benefit then payable or that would have been otherwise considered vested or earned under the agreement during the one-year period subsequent to the time of his disability.
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 5: COMMITMENTS AND CONTINGENCIES (Continued)
Employment contracts and severance (continued)
Effective October 1, 2009, in response to our operating cash requirements, the base salary amounts being paid to the Executives were adjusted to be 10% less than the contractual amounts. In addition, until certain recent actions as discussed below, the amounts representing the subsequent contractual annual increases to those base salary amounts were not paid. No related modifications of the compensation as called for under their related employment agreements was made, as it was expected that this compensation withheld from the Executives would eventually be paid, although the Executives did agree that they would accept payment in equity of such shortfalls to a certain extent and under certain terms. Accordingly, we accrued these unpaid amounts as non-cash compensation expense, with the unpaid portion reflected as an accrued liability under the balance sheet caption “Amounts due to executives and officers”. This accrued liability has been reduced for the following recent actions:
1. Based on approval by our Compensation Committee effective September 29, 2011, 41,073 restricted common Plan shares and four-year Plan options to purchase 266,074 common shares for $0.97 per share (greater than fair market value on the date of issuance) were issued to the Executives as partial consideration for this unpaid compensation. The common shares are restricted from trading unless Board approval is given. The options were never vested and they were subsequently replaced with Executive Incentive Shares as discussed below.
2. Effective September 16, 2012, the base salary amounts being paid to the Executives were reinstated by an amount representing approximately 7.8% of the contractual base salary at that time. As of February 7, 2014, the base salary payments to the Executives are 18.6% less than the contractual base salaries, compared to the 10% reduction instituted in October 2009 and which reduction was initially company-wide but no longer affects a majority of our other employees. A second reinstatement to the Executives, representing approximately 4.5% of the contractual base salary at that time, was approved since January 1, 2013, although as of February 7, 2014, and in recognition of our cash requirements, the second reinstatement has not been implemented.
3. In consideration of the waiver and satisfaction of any remaining unpaid salary due to the Executives through December 31, 2012 under their employment agreements, as well as the waiver and satisfaction of any remaining unpaid amounts due to certain of those Executives in connection with the acquisition of Acquired Onstream (see note 2), we (as authorized by our Board of Directors) and the Executives agreed, effective January 22, 2013, (i) to pay $100,000 ($20,000 per Executive) of the withheld compensation in cash and (ii) to issue 1,700,000 (340,000 per Executive) fully vested ONSM common shares, subject to certain trading restrictions (the “Executive Shares”).
F- 53
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 5: COMMITMENTS AND CONTINGENCIES (Continued)
Employment contracts and severance (continued)
As of February 7, 2014, the Executive Shares have not been issued, due to certain administrative and documentation requirements, nor has the $100,000 in cash been paid. However, since the Executive Shares were committed to be issued by the January 22, 2013 action of the Board, that issuance has been reflected in our financial statements as of and for the year ended September 30, 2013. The number of Executive Shares was based on the average of the closing bid prices for the three trading days prior to the approval by our Board of Directors in their January 22, 2013 meeting, which was approximately $0.29 per share. However, the Executive Shares have been recorded on our financial statements as common stock committed for issue (at par value) and additional paid-in capital, based on their fair value at the time of the January 22, 2013 agreement, which was $578,000 ($0.34 per share), with the approximately $86,000 excess of that fair value over the amount of the previously recorded liability being satisfied by such issuance reflected as non-cash compensation expense.
The Federal income tax withholding for the taxable value of the Executive Shares, as well as any employee Social Security or Medicare taxes, will be funded by the Executives at the time such shares are issued, from the $100,000 portion of pre December 31, 2012 compensation payable in cash as discussed above, or from remaining unpaid salary due to the Executives for periods after December 31, 2012. Our payment of that compensation and remittance of all or a part to the government in settlement of taxes will be recorded as a reduction of the accrued compensation liability at the time of such payment. Although we will incur a related expense for the matching employer portion of the Social Security and Medicare taxes, we have determined that such amount is immaterial for accrual and it will be expensed when paid.
To the extent there is any shortfall from the gross proceeds upon resale by the Executives of the Executive Shares versus twenty-nine cents ($0.29) per share, the shortfall will be reimbursed to the Executives by us in cash, or at our option, by the issuance of additional fully vested ONSM common shares (the “Additional Executive Shares”), with the Additional Executive Shares subject to reimbursement by us to the Executives of any shortfall from the gross proceeds upon resale as compared to the fair value used to determine the number of such Additional Executive Shares. All shortfall reimbursements shall be payable by us within ten (10) business days after presentation by reasonable supporting documentation of the shortfall to us by the Executives. As of September 30, 2013, we determined that our share price had remained below $0.29 per share for a sufficient period that it was appropriate to record a liability for this repurchase commitment. Therefore, we recorded the $34,000 present value of this obligation as a liability on our financial statements as of that date, which was reflected as non-cash compensation expense for the year then ended. If the closing ONSM share price of $0.19 per share on February 7, 2014 was used as a basis of calculation, an additional payment of $170,000, or the equivalent in common shares, would be required.
On February 20, 2013, we (as authorized by our Board of Directors) and the Executives agreed to certain changes in the Executives’ employment agreements, as follows: (i) cancellation of the previous compensation program allowing for cash compensation aggregating to 15% of the sales price of the Company payable to the Executives as well as other employees and certain directors, (ii) cancellation of all stock options held by the Executives, including the previous employment agreement provision that would have allowed for the conversion of those options into approximately 1.3 million paid-up common shares (plus compensation for the tax effect) under certain circumstances and (iii) implementation of an executive incentive compensation plan (the “Executive Incentive Plan”).
F- 54
ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 5: COMMITMENTS AND CONTINGENCIES (Continued)
Employment contracts and severance (continued)
Compensation under the Executive Incentive Plan would be in the form of Fully Restricted (as defined below) ONSM common Plan shares (“Executive Incentive Shares”) and is based on the Company achieving certain financial objectives, as follows:
· Record revenues in each of fiscal years 2011 through 2015.
· Positive operating cash flow (as defined in the Executive Incentive Plan) in each of fiscal years 2011 through 2015.
· EBITDA, as adjusted, (as defined in the Executive Incentive Plan) for at least two quarters of each of fiscal years 2013 through 2015.
The objectives related to fiscal 2011 and fiscal 2012 were based on discussions between the Board and the Executives that had been going on for some time as part of the process of agreeing on the Executive Incentive Plan. In addition, as disclosed in our previous public filings, the Compensation Committee had already indicated their intent as of January 14, 2011 to issue options to purchase an aggregate of at least 450,000 underlying common shares to the Executives as a group, for which the issuance and vesting would have required no performance and which would have been convertible into paid-up shares (including tax effect) under certain circumstances. Accordingly, the Board determined that the objectives for fiscal 2011 and fiscal 2012 were a reasonable basis for the issuance of an aggregate of 950,000 Executive Incentive Shares to the Executives as a group for the accomplishment of those goals for that two-year period. In addition, we agreed to issue an aggregate of 1.3 million Executive Incentive Shares to the Executives (as a group) as earned compensation for past service and in recognition that all options previously held by, or promised to, the Executives have been cancelled.
The 2,250,000 Executive Incentive Shares that were earned as of the date the Executive Incentive Plan was established were issued in May 2013 and have been recorded on our financial statements based on their fair value at the time of the February 20, 2013 agreement, which was $1,237,500 ($0.55 per share), less the approximately $100,000 Black-Scholes value of the cancelled stock options as calculated immediately before their cancellation. The net amount of approximately $1,137,000 was reflected as non-cash compensation expense for the year ended September 30, 2013.
In September 2013, the Executives as a group were issued an aggregate of 250,000 Executive Incentive Shares for meeting one of the fiscal 2013 objectives - achieving positive EBITDA, as adjusted, for at least two quarters of fiscal 2013. Accordingly, those shares have been recorded on our financial statements and reflected as non-cash compensation expense of $77,500 for the year ended September 30, 2013, based on their fair value of $0.31 per share as of August 9, 2013, the date it was conclusively determined that the objective had been met and the shares had been earned. Accomplishment of the other objectives for fiscal 2013 would have resulted in an aggregate of 375,000 Executive Incentive Shares issued to the Executives as a group. However, as of September 30, 2013 the issuance of these shares related to the other 2013 objectives has not been reflected on our financial statements, since based on the fiscal year 2013 financial results the issuance of these shares is not considered probable.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 5: COMMITMENTS AND CONTINGENCIES (Continued)
Employment contracts and severance (continued)
Accomplishment of the objectives for fiscal 2014 through fiscal 2015 would result in an aggregate of 625,000 Executive Incentive Shares issued to the Executives as a group for each of those two years. A lesser amount of Executive Incentive Shares would be issuable for achievement for only one or two of the three objectives set for each year.
The Executive Incentive Shares are being issued in accordance with the terms of the 2007 Equity Incentive Plan (the “Plan”) which our Board of Directors and a majority of our shareholders adopted on September 18, 2007 and they amended on March 25, 2010 and on June 13, 2011, and to the extent these and other issuances under the Plan do not exceed the number of authorized Plan shares - see note 8. The Executive Incentive Shares are subject to a complete restriction on the Executive’s ability to access or transact in any way such shares until the restriction is lifted. Upon a change of control, termination of the Executive’s employment or the imminently proposed and/or anticipated sale of the Company at a price of $1.00 per common share or more, all restrictions on the Executive Incentive Shares and any other common shares held by the Executives will be lifted. In the case of a sale, all restrictions will be lifted in time for those previously restricted shares to participate in all voting with respect to the proposed sale and will be eligible, at the Executive’s option, for inclusion as part of the shares sold in that transaction. Due to the restrictions on the Executive Incentive Shares, we have determined that the issuance thereof will not result in taxable compensation income to the Executives (or tax deductible compensation expense to the Company) until such restrictions have been lifted.
Upon a change of control, termination of the Executive’s employment or the imminently proposed and/or anticipated sale of the Company at a price of $1.00 per common share or more before September 30, 2015, the Executive Incentive Shares still potentially issuable for future fiscal years will be considered earned and will be issued to the Executives on an unrestricted basis. In the case of a sale, all such accelerated shares shall be issued in time for those previously unissued shares to participate in all voting with respect to the proposed sale and will be eligible, at the Executive’s option, for inclusion as part of the shares sold in that transaction. Notwithstanding the above, in the event that the termination of the Executive’s employment is the result of the Executive’s voluntary resignation, and such voluntary resignation is not due to the Company’s breach of the Executive’s employment agreement or is not due to constructive termination as outlined in the Executive’s employment agreement, such restrictions will be promptly lifted, provided that no bona-fide and legally defensible objection to such issuance has been raised by written notice provided by a majority of the other four Executives to the terminating Executive, within ninety (90) days after such termination date.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 5: COMMITMENTS AND CONTINGENCIES (Continued)
Other compensation
On August 11, 2009 our Compensation Committee determined that in the event we were sold for a company sale price (as defined) that represented at least $6.00 per share (adjusted for recapitalization including but not limited to splits and reverse splits), cash compensation of two and one-half percent (2.5%) of the company sale price would be allocated equally between the then four outside Directors, as a supplement to provide appropriate compensation for ongoing services as a Director and as a termination fee, as well as one additional executive-level employee other than the Executives. In June 2010, one of the four outside Directors passed away (and was replaced in April 2011) and in January 2013 another one of the four outside Directors resigned (who is not expected to be replaced). In January 2013 the Board voted to terminate this compensation program, in conjunction with the termination of a similar compensation program for the Executives. Although the termination of the program for the Executives was in consideration of a new Executive Incentive Plan agreed on between the Company and the Executives, it has not yet been determined what the replacement compensation program will be, if any, for the outside Directors and the other executive-level employee in lieu of the terminated program.
Lease commitments
As of September 30, 2013, we were obligated under operating leases for five office locations (one each in Pompano Beach, Florida, San Francisco, California and Colorado Springs, Colorado and two in the New York City area), which call for monthly payments totaling approximately $56,000. The leases have expiration dates ranging from 2014 to 2018 (after considering our rights of termination) and in most cases provide for renewal options. We are obligated on a short-term lease for a San Diego, California office facility in connection with the November 2012 Intella2 acquisition discussed in note 2 - this lease is considered immaterial for further disclosures.
The three-year operating lease for our principal executive offices in Pompano Beach, Florida expired September 15, 2013. The monthly base rental is currently approximately $20,100 (including our share of property taxes, insurance and other operating expenses incurred under the lease but excluding operating expenses such as electricity paid by us directly). The lease provided for two percent (2%) annual increases, as well as one two-year renewal option, with a three percent (3%) rent increase in year one. We have notified the landlord of our exercise of the renewal option. Although the landlord has not yet confirmed that we have met the conditions for such renewal, we have included the lease payments for such renewal period in the table of future minimum lease payments as presented below.
The five-year operating lease for our office space in San Francisco expires July 31, 2015. The monthly base rental (including month-to-month parking) is approximately $10,100 with annual increases up to 5.1%. The lease provides one five-year renewal option at 95% of fair market value and also provides for early cancellation at any time after August 1, 2011, at our option, with six month notice and a cancellation payment of no more than approximately $14,000.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 5: COMMITMENTS AND CONTINGENCIES (Continued)
Lease commitments (continued)
The five-year operating lease for our Infinite Conferencing location in New Jersey expires October 31, 2018. The monthly base rental is approximately $17,700. The lease provides for one five-year renewal option, with a rent increase of up to 10% but not to exceed fair market value at the time of renewal. The lease is also cancellable by us in the event of the sale of Infinite Conferencing or Onstream Media Corporation any time after November 1, 2016, and six months after cancellation notice is given by us to landlord after such sale.
The five-year operating lease for our office space in New York City expires January 24, 2018. The monthly base rental is approximately $8,100 with annual increases up to 2.8%. The lease provides one two-year renewal option at the greater of the fifth year rental or fair market value and also provides for early cancellation at any time after forty-two months, at our option, with notice of no more than nine months and no less than six months plus a cancellation payment of approximately $22,000.
The future minimum lease payments required under the non-cancelable operating leases are as follows:
The capital leases included in Notes Payable (see note 4) were determined to be immaterial for inclusion in the above table.
In addition to the commitments listed above, we have commitments not included in the above table for leasing equipment space at co-location or other equipment housing facilities in South Florida; Atlanta, Georgia; New Jersey, Colorado, Texas, Iowa, Minnesota and California. An aggregate approximately $6,000 per month related to these facilities is classified by us as rental expense with an approximately $20,000 per month remaining balance of our payments to these facilities classified as cost of revenues - see discussion of bandwidth and co-location facilities purchase commitment discussion below. Total rental expense (including executory costs) for all operating leases was approximately $866,000 and $802,000 for the years ended September 30, 2013 and 2012, respectively.
Purchase commitments
We have entered into various agreements for our purchase of Internet, long distance and other connectivity as well as use of the co-location facilities discussed above, for an aggregate remaining minimum purchase commitment of approximately $1.3 million, such agreements expiring at various times through August 2017.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 5: COMMITMENTS AND CONTINGENCIES (Continued)
Legal and regulatory proceedings
On November 26, 2013, Intella2 and its owner Paul Cohen filed a civil lawsuit in Florida naming Onstream Media Corporation, Onstream Conferencing Corporation and Infinite Conferencing as defendants. The action alleges breach of contract with respect to payment of certain components of the purchase price for the Intella2 acquisition and related commissions (see note 2) and seeks money damages as well as declaratory relief declaring Mr. Cohen’s related non-compete agreement with us unenforceable. On December 31, 2013 we filed our response to this lawsuit, which contained various objections to the lawsuit allegations as well as a number of counterclaims. In a January 9, 2014 court filing, Intella2 and Mr. Cohen stated that approximately $400,000 is now due and owing to them, although they also state that due to alleged lack of information they are unable to completely compute total damages. In a January 10, 2014 court filing, we stated that we have suffered at least $550,000 in known damages to date as a result of the conduct of Intella2 and Mr. Cohen as alleged in the counterclaims filed by us, although such damages are ongoing and subject to change based upon discovery. The court has entered an order requiring that the parties participate in mediation, with a deadline of July 11, 2014. A date for such mediation has not yet been set. We believe that the ultimate resolution of this litigation will not have a material impact on our financial position or results of operations and that any amounts ultimately payable by us will not be materially greater than the liabilities already accrued on our September 30, 2013 balance sheet.
Our audio and video networking services are conducted primarily over telephone lines, which are heavily regulated by various Federal and other agencies. Although we believe that the responsibility for compliance with those regulations primarily falls on the local and long distance telephone service providers and not us, the Federal Communications Commission (FCC) issued an order in 2008 that requires conference calling companies to remit Universal Service Fund (USF) contribution payments on customer usage associated with audio conference calls. In addition, in 2011 the FCC announced its position that the 2008 order extended to audio bridging services provided using internet protocol (IP) technology and in April 2012 announced their intention to write additional rules and/or revised existing rules that may expand the business operations that are considered subject to USF contribution payments. While we believe that we have registered our operations appropriately with the FCC, including the filing of both quarterly and annual reports regarding the revenues derived from audio conference calling, and the remittance of USF contributions thereon, it is possible that our determination of the extent to which our operations are subject to USF could be challenged. However, we do not believe that the ultimate outcome of any such challenge would have a material adverse effect on our financial position or results of operations. See notes 1 and 4.
We are involved in litigation and regulatory investigations arising in the ordinary course of business. While the ultimate outcome of these matters is not presently determinable, it is the opinion of our management that the resolution of these outstanding claims will not have a material adverse effect on our financial position or results of operations.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 6: CAPITAL STOCK
Common Stock
During the year ended September 30, 2012 we issued 352,421 common shares for financial consulting and advisory services, comprised of (i) 30,000 unregistered common shares valued at approximately $29,000 (ii) 255,113 unregistered common Plan shares valued at approximately $152,000 and (iii) 67,308 unregistered common Plan shares valued at approximately $44,000. The first two tranches are being recognized as professional fees expense and as other general and administrative expense over various service periods of up to twelve months. The third tranche was issued in satisfaction of a previously accrued liability for consulting services performed over the thirty month period ended March 31, 2012. None of these shares were issued to our directors or officers.
During the year ended September 30, 2012, we issued 201,531 common shares for interest and fees, comprised of (i) 51,531 unregistered common shares valued at approximately $39,000 for interest on the Equipment Notes, (ii) 80,000 unregistered common shares valued at approximately $48,000 for origination and finders fees for the Subordinated Notes and (iii) 70,000 unregistered common shares valued at approximately $49,000 for the renegotiation and extension of the Equipment Notes. See note 4.
During the year ended September 30, 2012 we issued 7,000 unregistered common shares for Series A-13 dividends for the third and fourth calendar quarters of 2011, as discussed in more detail below. During March 2012 we issued 101,744 common shares as a result of the conversion of Series A-13, as discussed in more detail below. During September 2012 we issued 260,000 common shares as a result of the conversion of Series A-14, as discussed in more detail below.
On February 15, 2012, in exchange for $140,000 cash proceeds, we issued 200,000 unregistered common shares and a five-year warrant to purchase 100,000 unregistered common shares at an exercise price of $1.00 per share. See note 8.
During the year ended September 30, 2013 we issued 713,943 unregistered common shares for financial consulting and advisory services valued at approximately $230,000, which are being recognized as professional fees expense over various service periods of up to twelve months. None of these shares were issued to our directors or officers, except for 82,000 of these shares, valued at approximately $27,000 and issued to J&C Resources, Inc. (“J&C”). Mr. Charles Johnston, who was one of our directors at the time of the transaction, is the president of J&C.
Professional fee expenses arising from these and prior issuances of shares and options for financial consulting and advisory services were approximately $241,000 and $607,000 for the years ended September 30, 2013 and 2012, respectively. As a result of previously issued shares and options for financial consulting and advisory services, we have recorded approximately $59,000 in deferred equity compensation expense at September 30, 2013, to be amortized over the remaining periods of service of up to nine months. The deferred equity compensation expense is included in the balance sheet caption prepaid expenses.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 6: CAPITAL STOCK (Continued)
Common Stock (continued)
During the year ended September 30, 2013, we issued 2,040,000 common shares for interest and financing fees, which were valued at approximately $763,000 and are being recognized as interest expense over various financing periods of up to twenty-four months. See summary below and note 4 for details.
During the year ended September 30, 2013 we issued 583,334 common shares valued at $175,000 as partial payment of the Equipment Notes - see note 4.
During the year ended September 30, 2013 we issued 8,750 unregistered common shares for Series A-13 dividends for calendar 2012, as discussed in more detail below. During December 2012 we issued 437,500 common shares as a result of the conversion of Series A-13, as discussed in more detail below. During November and December 2012 we issued an aggregate of 160,000 common shares as a result of the conversion of Series A-14, as discussed in more detail below.
During the year ended September 30, 2013 we issued the Executives an aggregate of 2,500,000 fully restricted ONSM common shares (“Executive Incentive Shares”), as follows: (i) 2,250,000 shares in connection with meeting certain financial objectives related to fiscal 2011 and fiscal 2012 as well as earned compensation for past service and in recognition that all options previously held by, or promised to, the Executives have been cancelled and (ii) 250,000 shares related to achievement of one of the financial objectives related to fiscal 2013. See note 5.
On January 22, 2013 our Board agreed to issue the Executives an aggregate of 1,700,000 fully vested ONSM common shares (the “Executive Shares”), as satisfaction of unpaid salary due them under their employment agreements as well as other liabilities to certain of the Executives. As of February 7, 2014, the Executive Shares have not been issued, due to certain administrative and documentation requirements. Since the issuance of these shares was committed to by the Board, it was reflected in our financial statements during the year ended September 30, 2013. See note 5. In accordance with a second Allonge to the Rockridge Note dated December 12, 2012, we agreed to increase the loan origination fee by 225,000 common shares. Since these shares were committed to be issued by us as of December 12, 2012 and Rockridge may require us to issue them solely by providing us with written notice of not less than sixty-one (61) days, the issuance was reflected in our financial statements during the year ended September 30, 2013. See note 4.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 6: CAPITAL STOCK (Continued)
Preferred Stock
The following issuances were outstanding on September 30, 2012 but not on September 30, 2013.
Series A-13 Convertible Preferred Stock
Effective December 17, 2009, our Board of Directors authorized the sale and issuance of up to 170,000 shares of Series A-13 Convertible Preferred Stock (“Series A-13”). On December 23, 2009, we filed a Certificate of Designation, Preferences and Rights for the Series A-13 (the “A-13 Designation”) with the Florida Secretary of State, with a coupon of 8% per annum, an assigned value of $10.00 per preferred share and a conversion rate of $3.00 per common share (based on the assigned value). After a March 2, 2011 modification, the conversion rate was reduced to $2.00. After a January 20, 2012 modification, the conversion rate was reduced to $1.72. After a December 21, 2012 modification, the conversion rate was reduced to $0.40.
As of September 30, 2011, the only holder of Series A-13 was CCJ, which owned 35,000 shares it obtained in December 2009 for a stated value of $350,000. In January 2012, as part of a transaction under which J&C Resources issued us a funding commitment letter, we agreed to reimburse CCJ in cash the shortfall, as compared to minimum guaranteed net proceeds of $139,000, from their resale of 101,744 common shares CCJ was to receive upon their conversion of 17,500 shares of Series A-13 and after effecting our agreement as part of the same transaction to reduce the conversion rate on the remaining 17,500 Series A-13 shares owned by CCJ from $2.00 per common share to $1.72 per common share. During March 2012, CCJ effected such conversion and we recorded the shortfall liability of $85,279 as a prepaid expense, which we amortized to interest expense as a cost of the funding commitment letter over its one-year term ended December 31, 2012. We paid $42,000 against the shortfall liability and the remaining balance of $43,279 was included in the CCJ Note dated December 31, 2012 - see note 4. Based on the shortfall plus (i) the increased value of the underlying common stock related to this tranche as well as the second tranche of 17,500 shares of Series A-13 owned by CCJ and (ii) the Black-Scholes value of adjustments to warrants held by LPC arising from anti-dilution provisions, the total economic cost of this funding commitment letter was approximately $130,000.
As provided in the A-13 Designation, any shares of Series A-13 still outstanding as of December 31, 2012 would automatically convert into our common shares. In December 2012, as part of a transaction under which J&C Resources issued us a funding commitment letter, we agreed to reimburse CCJ in cash the shortfall, payable on December 31, 2014, as compared to minimum guaranteed net proceeds of $175,000, from their resale of 437,500 common shares CCJ received on December 31, 2012 upon their conversion of 17,500 shares of Series A-13 and after effecting our agreement as part of the same transaction to reduce the conversion rate on all Series A-13 shares from $1.72 per common share to $0.40 per common share. We recorded an estimated shortfall liability of $43,750 as a prepaid expense, which we are amortizing to interest expense as a cost of the funding commitment letter over its one-year term ending December 31, 2013. Based on the closing ONSM price of $0.19 per share on February 7, 2014, the gross proceeds would be approximately $83,000 and the shortfall would be approximately $92,000. Based on the estimated shortfall calculated based on the closing ONSM share price on the date of the agreement with J&C Resources, plus the increased value of the underlying common stock related to this tranche of Series A-13 shares owned by CCJ, the total economic cost of this funding commitment letter was approximately $151,000.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 6: CAPITAL STOCK (Continued)
Preferred Stock (continued)
Series A-13 Convertible Preferred Stock (continued)
In lieu of cash payments for Series A-13 dividends, we elected to issue the following unregistered common shares to the holder, using the minimum conversion rate of $2.00 per share, which shares were recorded based on the fair value of those shares on the issuance date.
Number of unregistered
common shares
Dividends if
paid in cash
Fair value of shares
at issuance
Share issuance date
Dividend period
March 3, 2011
14,000
Jan - December 2010
$28,000
$15,820
May 24, 2011
3,500
Jan 2011 - March 2011
$7,000
$4,129
August 24, 2011
3,500
April 2011 - June 2011
$7,000
$2,868
November 21, 2011
3,500
July 2011 - Sept 2011
$7,000
$1,644
February 13, 2012
3,500
Oct 2011-December 2011
$7,000
$2,381
December 31, 2012
8,750
Jan - December 2012
$17,500
$2,712
Series A-14 Convertible Preferred Stock
Effective September 17, 2010, our Board of Directors authorized the sale and issuance of up to 420,000 shares of Series A-14 Preferred Stock (“Series A-14”). On September 22, 2010, we filed a Certificate of Designation, Preferences and Rights for the Series A-14 (the “Series A-14 Designation”) with the Florida Secretary of State and we issued 420,000 shares of Series A-14 to LPC on September 24, 2010. Series A-14 had a onetime 5% dividend payable in cash, which was satisfied by our $26,250 cash payment on September 20, 2011. See note 8.
Series A-14 had a stated value of $1.25 per preferred share and a fixed conversion rate of $1.25 per common share. Although per the Series A-14 Designation any Series A-14 shares still outstanding on September 24, 2012 would automatically convert to common shares, the Series A-14 Designation also provided that the number of shares of ONSM common stock that could be issued upon the conversion of Series A-14 was limited to the extent necessary to ensure that following the conversion the total number of shares of ONSM common stock beneficially owned by the holder would not exceed 4.999% of our issued and outstanding common stock. Due to this restriction, LPC was only able to convert 260,000 shares of Series A-14 to 260,000 common shares as of September 30, 2012. LPC converted the remaining 160,000 shares of Series A-14 to 160,000 common shares during the year ended September 30, 2013 (November and December 2012).
The fair value of the warrant issued in connection with the Purchase Agreement (“LPC Warrant 1”) was calculated to be approximately $386,000 using the Black-Scholes model (with the assumptions including expected volatility of 105% and a risk free interest rate of 1.08%). The common shares issued as a one-time commitment fee in connection with the Purchase Agreement were valued at approximately $55,000, based on the quoted market value on the date of issuance. The aggregate of these two items, plus the cash out-of-pocket costs incurred by us in connection with the Purchase Agreement, was allocated on a pro-rata basis between the number of common shares sold and the common shares underlying the Series A-14. The amount allocated to the Series A-14, $298,639, was recorded on our balance sheet as a discount and was amortized as a dividend over the term of the Series A-14. The unamortized portion of the discount was zero at September 30, 2013 and 2012, respectively.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 7: SEGMENT INFORMATION
Our operations are comprised within two groups, Audio and Web Conferencing Services and Digital Media Services, determined in accordance with ASC 280-10-50-1. The Audio and Web Conferencing Services Group is primarily comprised of our business activities selling telephone related services to business customers, such as conference calling, voicemail, text messaging and collaboration and consists of our Infinite, OCC and EDNet divisions. The Digital Media Services Group is primarily comprised of our business activities in selling Internet related services to business customers, such as webcasting, date storage and data streaming and consists primarily of our Webcasting and DMSP divisions. The primary operating activities of the Infinite division are in the New York City area and the primary operating activities of the OCC division are in San Diego, California. The primary operating activities of the EDNet division are in San Francisco, California. The primary operating activities of the Webcasting division, as well as our corporate headquarters, are in Pompano Beach, Florida. The Webcasting division has a sales and support facility in New York City. The primary operating activities of the DMSP division are in Colorado Springs, Colorado. All material sales, as well as property and equipment, are within the United States. Detailed below are the results of operations by segment for the years ended September 30, 2013 and 2012 and total assets by segment as of September 30, 2013 and 2012.
Depreciation and amortization, as well as corporate and unallocated shared expenses, impairment losses on goodwill and property and equipment and other expense, net, are not utilized by our primary decision makers for making decisions with regard to resource allocation or performance evaluation of the segments.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 8: STOCK OPTIONS AND WARRANTS
As of September 30, 2013, we had issued options and warrants still outstanding to purchase up to 1,300,999 ONSM common shares, including 538,499 shares under Plan Options to employees, consultants and directors; 433,333 shares under Plan and Non-Plan Options to financial and other consultants; and 329,167 shares under warrants issued in connection with various financings and other transactions.
On September 18, 2007, our Board of Directors and a majority of our shareholders adopted the 2007 Equity Incentive Plan (the “Plan”), which authorized the issuance of up to 1,000,000 shares of ONSM common stock pursuant to stock options, stock purchase rights, stock appreciation rights and/or stock awards for employees, directors and consultants. On March 25, 2010, our Board of Directors and a majority of our shareholders approved a 1,000,000 increase in the number of shares authorized for issuance under the Plan, for total authorization of 2,000,000 shares and on June 13, 2011 they authorized a further increase in authorized Plan shares by 2,500,000 to 4,500,000. Based on the issuance of 2,877,763 common shares under the Plan (including the 2,500,000 Executive Incentive Shares issued as discussed in note 5) through September 30, 2013, 538,499 outstanding employee, consultant and director Plan Options as of September 30, 2013 and 75,000 outstanding consultant Plan Options as of September 30, 2013, there are 1,008,738 shares available for additional issuances under the Plan.
Detail of employee, consultant, and director Plan Option activity under the Plan for the year ended September 30, 2013 is as follows:
Number of
Shares
Weighted
Average
Exercise Price
Balance, beginning of period
1,887,332
$4.41
Granted during the period
-
$ -
Expired or forfeited during the period
(1,348,833)
$5.44
Balance, end of the period
538,499
$1.85
Exercisable at end of the period
521,832
$1.87
Non-cash compensation expense was approximately $1,640,000 and $587,000 for the years ended September 30, 2013 and 2012, respectively. These amounts included approximately $84,000 and $325,000, respectively, related to Plan Options granted to employees and vesting during those periods. The balance of non-cash compensation expense is related to our issuance of common shares or other equity.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 8: STOCK OPTIONS AND WARRANTS (Continued)
The outstanding Plan Options for the purchase of 538,499 common shares all have exercise prices equal to or greater than the fair market value at the date of grant, the exercisable portion has a weighted-average remaining life of approximately 1.3 years and are further described below.
Total number of
underlying common
shares
Vested portion of
underlying
common shares
Exercise
price
per share
Expiration
date
Grant date
Description
May 2008
Consultant
16,667
16,667
$6.00
Jan 2015
May 2009
Consultant
33,333
33,333
$3.00
Jan 2015
Aug 2009
Employee (non-Executive)
10,014
10,014
$9.42
Aug 2014
Dec 2009
Employee (non-Executive)
14,986
14,986
$9.42
Dec 2014
Jan 2011
Directors
50,000
50,000
$1.23
Jan 2015
Jan 2011
Employees (non-Executive)
338,499
338,499
$1.23
Jan 2015
Jan 2011
Consultant
25,000
25,000
$1.23
Jan 2015
Jun 2011
Director
25,000
25,000
$1.00
Jun 2015
July 2012
Employee (non-Executive)
25,000
8,333
$1.00
July 2016
Total common shares
underlying Plan Options
as of September 30, 2013
538,499
521,832
On January 14, 2011 our Compensation Committee awarded 983,700 four-year options under the provisions of the 2007 Plan. These options were issued to our directors, employees and consultants, vesting over two years and having an exercise price of $1.23 per share, fair market value on the date of the grant. In January 2011, our Compensation Committee approved (subject to our shareholders’ approval in the annual shareholder meeting on June 13, 2011 of sufficient additional authorized Plan shares, which approval was received) augmenting the above grant by an equal number of options issued to the same recipients, using the same strike price as the above grant, to the extent permitted by applicable law and subject to shareholder and/or any other required regulatory approvals. 145,201 of the pending option issuances relate to terminated directors, employees and consultants and in January 2013, the Compensation Committee and the Executives agreed on an Executive Incentive Plan which included provisions that were in lieu of issuing 450,000 of the pending options - see note 5. The Compensation Committee is in the process of finalizing the grant of the remaining 388,499 options.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 8: STOCK OPTIONS AND WARRANTS (Continued)
As of September 30, 2013, there were outstanding and fully vested Plan and Non-Plan Options issued to financial and other consultants for the purchase of 433,333 common shares, as follows:
Number of
common
shares
Exercise price
per share
Expiration
Date
Issuance period
Type
November 2011
30,000
$0.92
Plan
Nov 2016
March 2012
25,000
$0.65
Plan
March 2015
July 2012
20,000
$6.00
Plan
July 2016
Year ended September 30, 2012
75,000
March 2011
300,000
$1.50
Non-Plan
March 2015
Year ended September 30, 2011
300,000
July 2010
50,000
$6.00
Non-Plan
July 2014
Year ended September 30, 2010
50,000
September 2009
8,333
$3.00
Non-Plan
Sept 2014
Year ended September 30, 2009
8,333
Total common shares underlying
consultant options as of September 30, 2013
433,333
As of September 30, 2013, there were outstanding vested warrants, issued in connection with various financings, to purchase an aggregate of 329,167 shares of common stock, as follows:
Number of
common
shares
Exercise price per
share
Expiration
Date
Description of transaction
LPC stock purchase - February 2012 (“New LPC Warrant 2”)
50,000
$0.38
February 2017
LPC Purchase Agreement - September 2010 - see note 6 (“New LPC Warrant 1”)
250,000
$0.38
March 2016
CCJ Note - December 2009 - see note 4
29,167
$3.00
December 2013
Total common shares underlying warrants as of September 30, 2013
329,167
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 8: STOCK OPTIONS AND WARRANTS (Continued)
On September 17, 2010, we entered into a purchase agreement (the “LPC Purchase Agreement”) with Lincoln Park Capital Fund, LLC (“LPC”), whereby LPC agreed to purchase, and did purchase (i) up to a certain number of shares of our common stock during the term of the LPC Purchase Agreement, subject to certain terms and conditions, and (ii) 420,000 shares of our Series A-14 Preferred Stock (“Series A-14”). In connection with the LPC Purchase Agreement, we also issued LPC a warrant (“LPC Warrant 1”). The LPC Purchase Agreement expired on September 17, 2013.
With respect to the September 2010 warrant issued in connection with the LPC Purchase Agreement (“LPC Warrant 1”), both the exercise price and the number of underlying shares were subject to adjustment in accordance with certain anti-dilution provisions. As a result of the effective conversion price of our common shares issued to retire certain debt through December 31, 2011, including a portion of the Equipment Notes (see note 4), the exercise price of LPC Warrant 1 was adjusted from the original exercise price of $2.00 to approximately $1.91, and the number of underlying shares was increased from the original of 540,000 shares to approximately 565,090 shares. In January 2012, we modified the rate for converting Series A-13 Preferred shares to common shares from $2.00 to $1.72 per share and as a result of the March 2012 conversion of 17,500 Series A-13 shares to common using this modified conversion price, the exercise price of LPC Warrant 1 was again adjusted from approximately $1.91 to $1.72 per share and the number of underlying shares was increased from approximately 565,090 to 627,907. Although the anti-dilution provisions of LPC Warrant 1 provided that the exercise price could not be adjusted below $1.72 per share, those provisions did allow that in the event of an equity issuance by us below $1.72 per share, the number of shares underlying LPC Warrant 1 would be increased by 12,000 shares for every $0.01 below $1.72, such additional shares not to exceed 564,000.
Due to the price-based anti-dilution protection provisions of LPC Warrant 1 (also known as “down round” provisions) and in accordance with ASC Topic 815, “Contracts in Entity’s Own Equity”, we have been required to recognize LPC Warrant 1 as a liability at its fair value on each previous reporting date. LPC Warrant 1 was reflected as a non-current liability of $81,374 and $188,211 on our consolidated balance sheets as of September 30, 2012 and 2011, respectively. The $106,837 decrease in the fair value of this liability from September 30, 2011 to September 30, 2012 was reflected as other income in our consolidated statement of operations for the year ended September 30, 2012.
Effective October 25, 2012, LPC Warrant 1 was cancelled and replaced with New LPC Warrant 1, which was issued with 250,000 underlying common shares exercisable at $0.38 per share, with such amounts only adjustable in accordance with standard anti-dilution provisions - the price-based anti-dilution provisions discussed above are not contained within New LPC Warrant 1. Accordingly, we performed a valuation of LPC Warrant 1 as of October 25, 2012 in order to make the appropriate adjustment reflected in our statement of operations. Based on this valuation of $53,894, as compared to the $81,374 carrying value of LPC Warrant 1 on our consolidated balance sheet as of September 30, 2012, the $27,480 decrease in the fair value of this liability from September 30, 2012 to October 25, 2012 was reflected as other income in our consolidated statement of operations for the year ended September 30, 2013. Since accounting for LPC Warrant 1 or New LPC Warrant 1 under ASC Topic 815 is no longer applicable, we reclassified the remaining $53,894 from non-current liability to additional paid-in capital as of October 25, 2012.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 8: STOCK OPTIONS AND WARRANTS (Continued)
Since LPC Warrant 1 was issued in connection with issuance of common stock plus preferred stock in September 2011, we concluded that the accounting for New LPC Warrant 1 should follow that accounting. Since no entry was made to reflect the issuance of LPC Warrant 1 for the portion related to common stock (42%), no entry was made to reflect 42% of the value of New LPC Warrant 1. The remaining 58% of the $53,894 valuation of New LPC Warrant 1 at the time of its October 25, 2012 issuance was $31,259, which was accounted for as a Series A-14 preferred dividend. However since 62% of the Series A-14 had been converted to common prior to October 25, 2012 and the remainder was converted to common by December 31, 2012, we concluded that $31,258 was immaterial for any further entry.
The initial expiration date of New LPC Warrant 1 was the same September 24, 2015 expiration date as LPC Warrant 1, which was extended to March 24, 2016 effective April 22, 2013, since the applicable registration statement had not been effective for a six month period as of that date and the terms of LPC Warrant 1 called for such extension.
On February 15, 2012, in exchange for $140,000 cash proceeds, we issued LPC 200,000 unregistered common shares and a five-year warrant to purchase 100,000 unregistered common shares at an exercise price of $1.00 per share (“LPC Warrant 2”). This transaction was unrelated to the LPC Purchase Agreement. Effective October 25, 2012, LPC Warrant 2 was cancelled and replaced with New LPC Warrant 2, which was issued with 50,000 underlying common shares exercisable at $0.38 per share, with such amounts only adjustable in accordance with standard anti-dilution provisions. The expiration date of New LPC Warrant 2 is the same February 15, 2017 expiration date as LPC Warrant 2. Since LPC Warrant 2 was issued in connection with an issuance of common stock in February 2012, we concluded that the accounting for New LPC Warrant 2 should follow that accounting. Since no entry was made to reflect the issuance of LPC Warrant 2, no entry was made to reflect the issuance of New LPC Warrant 2.
The exercise prices of New LPC Warrant 1 and New LPC Warrant 2 were considered to be at market value, based on the closing market price of our common stock of $0.38 per share on October 24, 2012. New LPC Warrant 1 and New LPC Warrant 2 contain certain cashless exercise rights, as did the predecessor warrants. The number of shares of ONSM common stock that can be issued upon the exercise of New LPC Warrant 1 or New LPC Warrant 2 is limited to the extent necessary to ensure that following the exercise the total number of shares of ONSM common stock beneficially owned by the holder does not exceed 4.99% of our issued and outstanding common stock, although this percentage may be changed at the holder’s option upon not less than 61 days advance notice to us and provided the changed limitation does not exceed 9.99%.
The exercise prices of all of the above warrants are subject to adjustment for various factors, including in the event of stock splits, stock dividends, pro rata distributions of equity securities, evidences of indebtedness, rights or warrants to purchase common stock or cash or any other asset or mergers or consolidations. Such adjustment of the exercise price would in most cases result in a corresponding adjustment in the number of shares underlying the warrant.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 9: SUBSEQUENT EVENTS
Notes 1 (impact of certain cost reductions for periods after September 30, 2013; funding commitment letter received in February 2014; funding term sheet received in February 2014 and related anticipated modifications to repayment terms of Rockridge Note and Sigma Note), 2 (November 2013 Intella2 litigation; patent application activity after September 30, 2013), 4 (funding term sheet received in February 2014 and related anticipated modifications to repayment terms of Rockridge Note and Sigma Note; January 2014 extension of certain Subordinated Notes and the related issuance of common shares; use of October and November 2013 financing proceeds to repay existing loans; status of negotiations for renewal of the Line and January 13, 2014 letter of intent from Thermo to renew; impact of change in ONSM common share price through February 7, 2014), 5 (status of issuance of Executive Shares and related payment of cash compensation through February 7, 2014; status of lease renewal negotiations in Florida after September 30, 2013; November 2013 Intella2 litigation; impact of change in ONSM common share price through February 7, 2014) and 6 (status of issuance of Executive Shares and related cash compensation through February 7, 2014; impact of change in ONSM common share price through February 7, 2014) contain disclosure with respect to transactions occurring after September 30, 2013.
During the three months ended December 31, 2013 we issued 241,502 unregistered common shares for professional IR and PR/marketing services valued at approximately $52,000, which will be recognized as professional fees expense over service periods of up to twelve months.
During October and November 2013 we obtained aggregate net financing proceeds of approximately $246,000 from the issuance of partially secured promissory notes to three investors (the “Working Capital Notes”), with an initial aggregate outstanding balance of $620,000 bearing interest at 15% per annum. The proceeds of the Working Capital Notes were used to repay (i) $126,000 outstanding principal and interest due on the CCJ Note issued by us on December 31, 2012, (ii) $71,812 outstanding principal and interest due on a Subordinated Note issued by us on June 1, 2012 and (iii) $26,000 outstanding principal and interest due on an Investor Note issued by us on January 2, 2013. See note 4. In addition, $125,000 in origination fees and $25,000 for a Funding Commitment Letter (see note 1) were deducted from the proceeds of the Working Capital Notes.
Working Capital Note payments are interest only during the first six months (in two quarterly payments), approximately 50% of the principal in equal monthly payments plus interest during the next eleven months and the remaining 50% of the principal balance due eighteen months after the Working Capital Note issuance date. In the event that we receive funds in excess of $5 million as a result of a single transaction for the sale of all or a part of our operations or assets, the Working Capital Notes are payable in full within ten (10) days of our receipt of such funds, along with any interest due at that time.
The Working Capital Notes are expressly subordinated to the following notes issued by us and outstanding at the time of the issuance of the Working Capital Notes: Thermo Credit LLC, Rockridge Capital Holdings LLC, Sigma Opportunity Fund II, LLC, USAC, and certain capital leases (HP Financial and Tamco), or any assignees or successors thereto, subject to a cumulative maximum outstanding balance of $3.9 million. The Working Capital Notes are secured by a limited claim to our assets, pari passu with up to $775,000 of total indebtedness and related obligations raised and incurred by us during the first quarter of fiscal 2014, subject to all prior liens of the foregoing entities and limited to the extent such a lien is allowable by the terms of the loan documents executed between us and the foregoing entities.
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ONSTREAM MEDIA CORPORATION AND SUBSIDIARIES
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
SEPTEMBER 30, 2013
NOTE 9: SUBSEQUENT EVENTS (Continued)
In connection with the above financing, we issued, or committed to issue, to the holders of Working Capital Notes an aggregate of 358,334 restricted common shares (the “Working Capital Shares”), which we have agreed to buy back, to the extent permitted by law, from the holder at $0.30 per share on the maturity dates of the Working Capital Notes, if the fair market value is less than that on that date. The above only applies to the extent the Working Capital Shares are still held by the noteholder on the applicable date and the buyback obligation only applies if the noteholder gives us notice and delivers the shares within fifteen days after the applicable maturity dates. If the closing ONSM share price of $0.19 per share on February 7, 2014 was used as a basis of calculation, a stock repurchase payment of approximately $107,500 would be required. In addition, we issued 100,000 restricted common shares in connection with a finders agreement related to this financing.
The value of the Working Capital Shares and the finders agreement shares, plus the cash deducted from the proceeds for related origination fees, will be reflected as a discount against the Working Capital Notes (as well as a corresponding increase in additional paid-in capital for the shares) and that amount will be amortized as interest expense over the term of the notes.
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