Data Storage Corporation — Form 10-Q Summary
Business Context and Reporting Period
Data Storage Corporation provides subscription-based disaster recovery, Infrastructure as a Service, cloud, managed services, software, equipment, and VoIP solutions. The company serves healthcare, financial, distribution, manufacturing, construction, education, and government customers through facilities in several U.S. states.
This unaudited Form 10-Q covers the quarter and six months ended June 30, 2020, compared with the comparable 2019 periods. The company was classified as a smaller reporting company and had 128,539,418 common shares outstanding as of August 14, 2020.
Financial Performance and Position
| Metric | Three Months Ended June 30, 2020 | Three Months Ended June 30, 2019 | Six Months Ended June 30, 2020 | Six Months Ended June 30, 2019 |
|---|---|---|---|---|
| Revenue | $2.006 million | $2.034 million | $4.104 million | $4.035 million |
| Gross profit | $865,204 | $932,019 | $1.748 million | $1.857 million |
| Gross margin | 43.1% | 45.8% | 42.6% | 46.0% |
| Operating income (loss) | $(123,062) | $72,196 | $(117,095) | $174,066 |
| Net income | $183,259 | $37,045 | $142,786 | $89,583 |
| Net income attributable to common stockholders | $155,705 | $17,233 | $87,109 | $49,016 |
| Net cash provided by operating activities | Not separately provided | Not separately provided | $380,958 | $317,008 |
Six-month revenue increased 2% year over year, led by Infrastructure and Disaster Recovery/Cloud Services revenue of $2.777 million, up 6%, and Nexxis VoIP revenue of $307,084, up 50%. Equipment and software revenue declined 26% to $575,928.
Profitability weakened at the operating level because cost of sales increased 8% and operating expenses increased 11%, exceeding the 2% revenue growth. Reported net income benefited from a nonrecurring $350,000 gain on a contingent liability related to unused Message Logic assets. Excluding that gain, the filing does not provide a separate adjusted net income figure.
At June 30, 2020, cash and cash equivalents were $616,242, compared with $326,561 at December 31, 2019. Working capital was negative $2.391 million. Total liabilities were $5.964 million, including $2.808 million of finance lease liabilities, of which $2.486 million related to the company’s related-party lease obligations. The company also had $1.040 million of accrued preferred-stock dividends.
Cash increased by $289,681 during the first six months. Operating cash flow of $380,958 and $10,573 of net financing cash inflow exceeded $101,850 of capital expenditures. Financing inflows included $481,977 of Paycheck Protection Program borrowing, partially offset by lease and line-of-credit repayments.
Material Changes Versus the Prior Comparable Period
- Second-quarter revenue declined 1%, while first-half revenue increased 2%.
- First-half gross margin declined to 42.6% from 46.0%, reflecting higher data-center, infrastructure, disaster-recovery, and Nexxis-related costs.
- First-half operating results shifted from $174,066 of income to a $117,095 loss as operating expenses rose to $1.865 million from $1.683 million.
- First-half net income increased to $142,786 from $89,583, primarily because of the $350,000 contingent-liability gain and lower interest expense.
- Cash from operations increased to $380,958 from $317,008, and ending cash increased to $616,242 from $192,012 at June 30, 2019.
- Property and equipment increased to $2.518 million net from $2.189 million at December 31, 2019, while finance lease obligations increased substantially from the prior year-end.
- The company received $481,977 under the PPP. The loan matures April 30, 2022, bears 1% interest, and may be partially forgiven if used for qualifying expenses.
Guidance, Outlook, Risks, and Unusual Items
Management reported more than $56,000 of new monthly recurring billing from pending installations expected in the second half of 2020 and stated that eight distributors had been added since March 2020. Management also cited increased proposals for IBM Power Infrastructure as a Service and disaster-recovery offerings, while noting that COVID-19 delayed portions of certain customers’ equipment expansions.
The filing states that COVID-19 could disrupt equipment availability, employees, third-party relationships, and operations. The company qualified as an essential business and was operating with employees working remotely. The duration and ultimate financial impact of the pandemic remained uncertain.
Management’s going-concern analysis identified substantial doubt based on the company’s $2.391 million working-capital deficit and limited cash. Management concluded that improving operating cash flow, revenue trends, and the potential renegotiation of related-party debt and leases mitigated the initial conditions. The filing nevertheless indicates that the company may need to renegotiate related-party equipment leases or obtain additional financing if liquidity deteriorates.
The company disclosed that its disclosure controls and internal control over financial reporting were not effective as of June 30, 2020. Material weaknesses included insufficient internal accounting expertise and inadequate segregation of duties. Management intended to add finance and accounting personnel.
Customer concentration remains relevant: two customers represented 31% of accounts receivable at June 30, 2020, and one value-added reseller represented 14% of first-half revenue. The company also has substantial goodwill and intangible assets subject to impairment risk. No material litigation was reported.
Most Important Facts for Investors to Verify
- Whether operating cash flow and recurring subscription growth can offset negative working capital and substantial lease and debt obligations.
- The ultimate forgiveness, repayment terms, and accounting treatment of the $481,977 PPP loan.
- Whether the $350,000 contingent-liability gain is truly nonrecurring and whether any related liability or lien remains.
- The extent and terms of related-party finance leases, including obligations to an entity owned by the company’s president.
- Progress in remediating the disclosed material weaknesses in internal control and disclosure controls.
- Whether COVID-19 affects customer expansions, equipment deliveries, staffing, or data-center operations.
- Customer concentration, collectability of accounts receivable, and potential impairment of the company’s goodwill and intangible assets.
- Whether management’s projected second-half installations and new recurring revenue are completed as planned.