Intellinetics, Inc. — Q3 2018 Form 10-Q
Reporting period: Three and nine months ended September 30, 2018; comparative periods are 2017. The unaudited consolidated statements cover the company and its operating subsidiary. Intellinetics sells document-management software, subscriptions, maintenance and related services to public- and private-sector customers.
Key financial results
| Metric | Q3 2018 | Q3 2017 | Nine months 2018 | Nine months 2017 |
|---|---|---|---|---|
| Revenue | $673,111 | $671,453 | $1,748,161 | $2,116,338 |
| Gross profit / margin | $411,353 / 61% | $487,494 / 73% | $1,179,241 / 67% | $1,512,366 / 71% |
| Operating loss | $(273,274) | $(153,637) | $(1,152,899) | $(636,072) |
| Interest expense, net | $(206,642) | $(141,483) | $(634,978) | $(411,761) |
| Net loss | $(479,916) | $(295,120) | $(1,787,877) | $(1,047,833) |
| Loss per share, basic and diluted | $(0.03) | $(0.02) | $(0.10) | $(0.06) |
- For the nine-month period, software-license revenue fell 63% to $140,138 and professional-services revenue fell 61% to $168,849. SaaS revenue rose 16% to $527,697; maintenance revenue rose 1% to $740,527. Management attributed the declines mainly to fewer large on-premise installations and timing of consulting work; SaaS growth reflected new customers.
- Q3 revenue was essentially unchanged year over year, but gross margin fell to 61%, principally because of a higher proportion of lower-margin third-party services. Sales and marketing expense rose 61% in Q3 and 31% year to date; management cited staffing, branding and marketing investment.
- Cash was $1,333,278 at September 30, 2018, versus $1,125,921 at December 31, 2017. Working capital was $159,850. Total assets were $1,747,643, total liabilities $5,870,560, and stockholders’ deficit $4,122,917.
- Cash used in operating activities was $923,737 for the nine months, compared with $805,404 in 2017. Investing activities used $3,410; financing activities provided $1,134,504, including $1.3 million in new borrowings, partly offset by financing costs and related-party debt repayments. Cash increased by $207,357 over the period.
- Notes payable had approximately $4.68 million of stated principal at September 30, excluding accrued interest and before unamortized financing discounts. The balance sheet reports $4.27 million of notes payable after discounts. Most convertible notes were amended to mature December 31, 2020; the related-party Shealy note has scheduled payments and a January 2020 maturity.
Liquidity, outlook and principal risks
Management reported an approximate $80,000 monthly cash shortfall and stated that operating gross profit may not cover expected expenses, growth investment and debt service over the next 12 months. It expects these requirements to consume substantially all anticipated operating cash flows and says additional capital is important. There were no committed arrangements for new financing, and the filing warns that financing may not be available on acceptable terms. The filing identifies these conditions as raising substantial doubt about the company’s ability to continue as a going concern; continued operations depend on revenue growth and managing cash needs. The financial statements contain no adjustments for a potential failure to continue as a going concern.
- The company’s strategy emphasizes cloud delivery, reseller/channel partners and direct sales. Cloud-based revenue, including hosting, represented 30% of nine-month revenue, compared with 22% in 2017. The filing provides no formal revenue or earnings guidance.
- The September 2018 convertible-note offering had $1.3 million aggregate principal; the company reported net proceeds of approximately $1.169 million from convertible-note issuances during the nine months. New notes carry 8% interest and include conversion rights. The company also reported 25.1 million shares reserved for conversion of convertible debt, in addition to shares reserved for warrants and its equity plan, creating substantial potential dilution.
- Revenue and receivables are concentrated among a limited number of customers; two customers contributed 35% of Q3 revenue. Government contracts represented 24% of Q3 revenue and 26% for the nine months, down from 42% in each 2017 comparison.
- Other risks discussed include sales-cycle and project timing, reseller performance, customer renewals and collections, competition, capital availability, data security and privacy, and dependence on successful product and marketing efforts.
- ASC 606 was adopted on January 1, 2018 using the full retrospective method. The disclosed adjustments to 2017 results were modest. Management said disclosure controls were effective at quarter-end after remediation of a previously identified material weakness involving financial reporting controls and segregation of duties.
Important facts for investors to verify
- Whether the company can close its stated monthly cash gap through higher operating cash flow or additional financing, and the terms and availability of any financing.
- Cash burn, debt-service obligations, accrued interest and the company’s ability to meet maturities, including the terms and conversion provisions of its notes.
- Whether SaaS growth and channel expansion can offset declining software-license and professional-services revenue while preserving gross margins.
- The potential dilution implied by convertible debt, warrants, options and other reserved shares, and the effect of future conversions or equity financing.
- Customer concentration, government-contract exposure and collection of outstanding receivables.
- Whether the remediated financial-reporting controls continue to operate effectively, given the company’s disclosed prior material weakness.