Business Context and Reporting Period
Duos Technologies Group, Inc. filed this unaudited Form 10-Q for the quarter and six months ended June 30, 2015. The company develops artificial-intelligence-driven security and intelligent technology systems, including the praesidium and centraco platforms, and provides project, maintenance and technical-support services. Its customers include railroad operators, petrochemical facilities, utilities and hospitals.
On April 1, 2015, the company completed a reverse triangular merger with Information Systems Associates, Inc. Duos Technologies became the operating business and ISA became the public parent. The filing states that Duos shareholders held approximately 98% of voting control after the transaction.
Financial Highlights
| Metric | Three Months Ended June 30 | Six Months Ended June 30 |
|---|---|---|
| Revenue | $1.609 million, versus $1.149 million | $2.711 million, versus $2.210 million |
| Gross profit | $856 thousand, versus $582 thousand | $1.409 million, versus $1.048 million |
| Gross margin | 53.2%, versus 50.6% | 52.0%, versus 47.4% |
| Operating loss | $(1.877) million, versus $(108) thousand | $(2.242) million, versus $(462) thousand |
| Net loss applicable to common stock | $(2.052) million, versus $(275) thousand | $(2.805) million, versus $(790) thousand |
| Loss per common share | $(0.03), versus $(0.01) | $(0.05), versus $(0.01) |
Six-month project revenue increased to $1.523 million from $1.055 million, while maintenance and technical-support revenue increased to $1.188 million from $1.155 million. The company attributed the revenue growth primarily to increased project activity.
The second-quarter operating loss included a $1.579 million impairment charge for goodwill and intangible assets acquired in the merger. Six-month interest expense was $566 thousand, compared with $59 thousand in the prior-year period, primarily because of non-cash debt discounts, premiums and other financing costs.
Liquidity, Cash Flow and Capital Structure
- Cash was $6 thousand at June 30, 2015, compared with $85 thousand at December 31, 2014. Management reported approximately $163 thousand of cash as of August 19, 2015.
- Six-month cash used in operating activities was $535 thousand, compared with $407 thousand in 2014. Investing cash usage was $20 thousand, and financing activities provided $476 thousand.
- Current assets were $1.163 million and current liabilities were $6.711 million, resulting in a working-capital deficit of approximately $5.547 million. Stockholders’ deficit was $5.451 million.
- Material current obligations included $812 thousand of related-party notes, $562 thousand of convertible notes, $70 thousand of other notes payable, a $40 thousand line of credit, $1.412 million accrued for the CW Electric lawsuit, $303 thousand of delinquent payroll taxes, and $1.237 million of accounts payable.
- The company reported approximately $1.3 million of convertible and other notes due within the following 12 months, including $165 thousand past due, $310 thousand due in October 2015 and $100 thousand due in December 2015.
- Shares outstanding were 61,548,712 at June 30, 2015, compared with 57,738,209 at December 31, 2014. Debt conversions and other equity issuances increased dilution risk.
Material Changes Versus the Prior Comparable Period
- Six-month revenue increased 23%, and gross profit increased 34%; management stated that gross margin improved by approximately 10 percentage points.
- Operating expenses increased to $3.651 million from $1.510 million, driven by the $1.579 million impairment, merger-related costs, public-company expenses, higher salaries and contract labor, professional fees and a $150 thousand UDC extension fee.
- Six-month net loss applicable to common stock increased by approximately $2.015 million. The deterioration reflected the impairment charge, higher operating expenses and substantially higher interest expense.
- The company issued 60 million shares to Duos shareholders in connection with the reverse merger and converted $1.416 million of convertible debt and accrued interest into 2.212 million common shares.
- The proposed acquisition of Uni-Data and Communications was terminated on June 26, 2015 after the company failed to raise the required funding.
Guidance, Outlook, Risks and Unusual Items
The filing provides no formal earnings guidance. Management stated that the company had an order backlog of approximately $7 million, with 50% expected to be realized during 2015. Management believed available resources, financing capacity and anticipated revenue could fund operations through December 31, 2015, conditional on generating approximately $1 million of revenue through September 30, 2015 and deferring certain outstanding loans.
The financial statements disclose substantial doubt about the company’s ability to continue as a going concern. Continued operations depend on raising capital, generating sufficient revenue, deferring or refinancing obligations and achieving profitable operations. Management warned that failure to obtain financing or generate revenue could require layoffs or suspension or deferral of activities. Any equity financing would likely dilute existing shareholders.
- The company had a material weakness in disclosure controls and procedures due to insufficient segregation of duties and limited technical expertise in public-company financial reporting.
- Customer concentration was significant: three customers accounted for 42%, 20% and 19% of six-month 2015 revenue, respectively.
- The company accrued $1.412 million for litigation involving CW Electric, although management disputed the plaintiff’s computation and stated that it had meritorious defenses.
- Delinquent payroll taxes totaled approximately $303 thousand at June 30, 2015, with monthly IRS payments of $25 thousand and an installment plan requested.
- On July 14, 2015, the company did not pay a shareholder note totaling approximately $165 thousand, and negotiations regarding conversion or other resolution were ongoing.
- A FacilityTeam contract dispute was settled on August 10, 2015 for $2,500 per month over 24 months, with an anticipated charge of at least approximately $60 thousand in the third quarter.
- The company entered into a convertible-note financing facility with a maximum capacity of $2 million and raised $115 thousand under the facility in June 2015.
Important Facts for Investors to Verify
- Whether the company can raise sufficient capital and meet near-term debt, payroll-tax and operating obligations.
- Whether the reported backlog converts into revenue and cash on the stated schedule, particularly the condition requiring approximately $1 million of revenue through September 30, 2015.
- The status, maturity, conversion terms and potential dilution from convertible notes, warrants and related-party debt.
- The outcome and potential cash impact of the CW Electric litigation and the FacilityTeam settlement.
- Whether management remediates the reported material weakness in internal controls.
- Whether customer concentration, project-completion estimates and percentage-of-completion accounting create collection or revenue-recognition risk.
- Whether the merger-related impairment indicates further risk to the carrying value of acquired technology, customer relationships or goodwill.