20160430

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C.  20549



FORM 10-Q



(Mark One)



(X)QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934



For the quarterly period ended April 30, 2016



( )TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934



For the transition period from                                      to                                          

 

Commission file number 000-19608

ARI Network Services, Inc.

(Exact name of registrant as specified in its charter)





 

 

WISCONSIN

 

39-1388360

(State or other jurisdiction of incorporation or organization)

 

(IRS Employer Identification No.)



10850 West Park Place, Suite 1200, Milwaukee, Wisconsin  53224

(Address of principal executive offices)

(414) 973-4300

(Registrant's telephone number, including area code)



Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.

YES        NO  



Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (S232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

YES        NO  



Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.  (Check one):





 

 

 

 

 

Large accelerated filer

 

Accelerated filer

 

Non-accelerated filer

 

Smaller reporting company

 

(Do not check if a smaller reporting company)

 

 

 

 

 



Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

YES        NO  



As of June  8, 2016, there were  17,265,315  shares of the registrant’s common stock outstanding.




 

 

ARI Network Services, Inc.



FORM 10-Q

FOR THE THREE AND NINE MONTHS ENDED APRIL 30, 2016

INDEX



 

 





 

Page



 

 

PART I             FINANCIAL INFORMATION

Item 1

Consolidated Financial Statements

Item 2

Management’s Discussion and Analysis of Financial Condition and Results of Operations

20 

Item 3

Quantitative and Qualitative Disclosures about Market Risk

32 

Item 4

Controls and Procedures

32 

PART II           OTHER INFORMATION

Item 1

Legal Proceedings

33 

Item 1A

Risk Factors

33 

Item 2

Unregistered Sales of Equity Securities and Use of Proceeds

33 

Item 3

Defaults upon Senior Securities

33 

Item 4

Mine Safety Disclosures

33 

Item 5

Other Information

33 

Item 6

Exhibits

33 

Signatures

 

34 



 







2


 

 

PART I.   FINANCIAL INFORMATION

Item 1.   Financial Statements





 

 

 

 

 

 



 

 

 

 

 

 

ARI Network Services, Inc.

Consolidated Balance Sheets

(Dollars in Thousands, Except per Share Data)



 

 

 

 

 

 



 

(Unaudited)

 

(Audited)



April 30

 

July 31



 

2016

 

2015

ASSETS

 

 

 

 

 

 

Cash and cash equivalents

 

$

4,440 

 

$

2,284 

Trade receivables, less allowance for doubtful accounts of $392

 

 

 

 

 

 

  and $372 at April 30, 2016 and July 31,2015, respectively

 

 

2,294 

 

 

2,046 

Work in process

 

 

185 

 

 

165 

Prepaid expenses and other

 

 

851 

 

 

820 

Deferred income taxes

 

 

3,495 

 

 

3,092 

Total current assets

 

 

11,265 

 

 

8,407 

Equipment and leasehold improvements:

 

 

 

 

 

 

Computer equipment and software for internal use

 

 

3,502 

 

 

2,800 

Leasehold improvements

 

 

629 

 

 

629 

Furniture and equipment

 

 

2,716 

 

 

2,981 

          Total equipment and leasehold improvements

 

 

6,847 

 

 

6,410 

Less accumulated depreciation and amortization

 

 

(4,637)

 

 

(3,989)

Net equipment and leasehold improvements

 

 

2,210 

 

 

2,421 

Capitalized software product costs:

 

 

 

 

 

 

Amounts capitalized for software product costs

 

 

27,006 

 

 

25,463 

Less accumulated amortization

 

 

(21,908)

 

 

(20,337)

Net capitalized software product costs

 

 

5,098 

 

 

5,126 

Deferred income taxes

 

 

1,135 

 

 

2,398 

Other intangible assets

 

 

8,275 

 

 

10,116 

Goodwill

 

 

21,639 

 

 

21,168 

Total non-current assets

 

 

38,357 

 

 

41,229 

Total assets

 

$

49,622 

 

$

49,636 





See accompanying notes



3


 

 



 

 

 

 

 

 



 

 

 

 

 

 

ARI Network Services, Inc.

Consolidated Balance Sheets

(Dollars in Thousands, Except per Share Data)



 

 

 

 

 

 



 

(Unaudited)

 

(Audited)



April 30

 

July 31



 

2016

 

2015

LIABILITIES

 

 

 

 

 

 

Current portion of long-term debt

 

$

2,172 

 

$

1,338 

Current portion of contingent liabilities

 

 

382 

 

 

754 

Accounts payable

 

 

574 

 

 

708 

Deferred revenue

 

 

7,135 

 

 

7,327 

Accrued payroll and related liabilities

 

 

1,979 

 

 

1,752 

Accrued sales, use and income taxes

 

 

182 

 

 

140 

Other accrued liabilities

 

 

736 

 

 

748 

Current portion of capital lease obligations

 

 

56 

 

 

174 

Total current liabilities

 

 

13,216 

 

 

12,941 

Long-term debt

 

 

7,281 

 

 

9,079 

Long-term portion of contingent liabilities

 

 

124 

 

 

362 

Capital lease obligations

 

 

68 

 

 

106 

Other long-term liabilities

 

 

176 

 

 

199 

Total non-current liabilities

 

 

7,649 

 

 

9,746 

Total liabilities

 

 

20,865 

 

 

22,687 



 

 

 

 

 

 

SHAREHOLDERS' EQUITY

 

 

 

 

 

 

Cumulative preferred stock, par value $.001 per share, 1,000,000 shares authorized; 0 shares issued and outstanding at April 30, 2016 and July 31, 2015, respectively

 

 

 —

 

 

 —

Junior preferred stock, par value $.001 per share, 100,000 shares authorized; 0 shares issued and outstanding at April 30, 2016 and July 31, 2015, respectively

 

 

 —

 

 

 —

Common stock, par value $.001 per share, 25,000,000 shares authorized; 17,262,940 and  17,097,426 shares issued and outstanding at April 30, 2016 and July 31, 2015, respectively

 

 

17 

 

 

17 

Additional paid-in capital

 

 

115,243 

 

 

114,700 

Accumulated deficit

 

 

(86,508)

 

 

(87,793)

Other accumulated comprehensive income

 

 

 

 

25 

Total shareholders' equity

 

 

28,757 

 

 

26,949 

Total liabilities and shareholders' equity

 

$

49,622 

 

$

49,636 





See accompanying notes





4


 

 









 

 

 

 

 

 

 

 

 

 

 

ARI Network Services, Inc.

Consolidated Statements of Operations

(Dollars in Thousands, Except per Share Data)

(Unaudited)



 

 

 

 

 

 

 



Three months ended April 30

 

Nine months ended April 30



2016

 

2015

 

2016

 

2015

Net revenue

$

11,984 

 

$

10,280 

 

$

35,473 

 

$

29,531 

Cost of revenue

 

2,334 

 

 

1,780 

 

 

6,467 

 

 

5,391 

Gross profit

 

9,650 

 

 

8,500 

 

 

29,006 

 

 

24,140 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

Sales and marketing

 

2,801 

 

 

2,718 

 

 

8,314 

 

 

7,928 

Customer operations and support

 

2,374 

 

 

1,831 

 

 

7,248 

 

 

5,392 

Software development and technical support (net of capitalized software product costs)

 

1,221 

 

 

1,102 

 

 

3,795 

 

 

3,046 

General and administrative

 

1,732 

 

 

1,709 

 

 

5,247 

 

 

4,901 

Depreciation and amortization (exclusive of amortization of software product costs included in cost of revenue)

 

601 

 

 

465 

 

 

1,800 

 

 

1,245 

Net operating expenses

 

8,729 

 

 

7,825 

 

 

26,404 

 

 

22,512 

Operating income

 

921 

 

 

675 

 

 

2,602 

 

 

1,628 

Other income (expense):

 

 

 

 

 

 

 

 

 

 

 

Interest expense

 

(118)

 

 

(123)

 

 

(350)

 

 

(352)

Other, net

 

13 

 

 

30 

 

 

 

 

33 

Total other income (expense)

 

(105)

 

 

(93)

 

 

(345)

 

 

(319)

Income before provision for income tax

 

816 

 

 

582 

 

 

2,257 

 

 

1,309 

Income tax expense

 

(368)

 

 

(243)

 

 

(972)

 

 

(606)

Net income

$

448 

 

$

339 

 

$

1,285 

 

$

703 



 

 

 

 

 

 

 

 

 

 

 

Weighted average common shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

Basic

 

17,258 

 

 

14,362 

 

 

17,199 

 

 

14,100 

Diluted

 

17,769 

 

 

14,786 

 

 

17,689 

 

 

14,536 



 

 

 

 

 

 

 

 

 

 

 

Net income per common share:

 

 

 

 

 

 

 

 

 

 

Basic

$

0.03 

 

$

0.02 

 

$

0.07 

 

$

0.05 

Diluted

$

0.03 

 

$

0.02 

 

$

0.07 

 

$

0.05 



 

 

 

 

 

 

 

 

 

 

 

See accompanying notes



 

 

 

 

 

 

 

 

 

 

 

Consolidated Statements of Comprehensive Income (Loss)

(Dollars in Thousands)

(Unaudited)



 

 

 

 

 

 

 



Three months ended April 30

 

Nine months ended April 30



2016

 

2015

 

2016

 

2015

Net income

$

448 

 

$

339 

 

$

1,285 

 

$

703 

Other comprehensive income (loss), net of tax:

 

 

 

 

 

 

 

 

 

 

 

Foreign currency translation adjustments

 

(18)

 

 

 

 

(20)

 

 

44 

Total other comprehensive income (loss)

 

(18)

 

 

 

 

(20)

 

 

44 

Comprehensive income

$

430 

 

$

345 

 

$

1,265 

 

$

747 



 

 

 

 

 

 

 

 

 

 

 



                             See accompanying notes





5


 

 

ARI Network Services, Inc.

Consolidated Statements of Cash Flows

(Dollars in Thousands)

(Unaudited)





 

 

 

 

 

 

 

 



 

 

Nine months ended April 30

 



 

 

2016

 

2015

 



Operating activities:

 

 

 

 

 

 

 



Net income

 

$

1,285 

 

$

703 

 



Adjustments to reconcile net income to net cash provided by operating activities:

 

 

 

 

 

 

 



Amortization of software products

 

 

1,571 

 

 

1,560 

 



Non-cash interest expense

 

 

34 

 

 

55 

 



Depreciation and other amortization

 

 

1,800 

 

 

1,245 

 



(Gain) loss on change in fair value of earn-out receivable and payable

 

 

(5)

 

 

(28)

 



Provision for bad debt allowance

 

 

80 

 

 

131 

 



Deferred income taxes

 

 

860 

 

 

531 

 



Stock based compensation

 

 

316 

 

 

305 

 



Net change in assets and liabilities:

 

 

 

 

 

 

 



Trade receivables

 

 

(308)

 

 

(594)

 



Work in process, prepaid expenses and other

 

 

(51)

 

 

(16)

 



Other long-term assets

 

 

 -

 

 

(139)

 



Accounts payable

 

 

(145)

 

 

69 

 



Deferred revenue

 

 

(252)

 

 

142 

 



Accrued payroll and related liabilities

 

 

342 

 

 

349 

 



Accrued taxes and other accrued liabilities

 

 

16 

 

 

282 

 



Net cash provided by operating activities

 

$

5,543 

 

$

4,595 

 



Investing activities:

 

 

 

 

 

 

 



Purchase of equipment, software and leasehold improvements

 

 

(557)

 

 

(469)

 



Cash received on earn-out from disposition of a component of the business

 

 

 -

 

 

111 

 



Cash paid for contingent liabilities related to acquisitions

 

 

(505)

 

 

(250)

 



Cash paid for net assets related to acquisitions

 

 

 -

 

 

(5,950)

 



Software development costs capitalized

 

 

(1,310)

 

 

(1,000)

 



Net cash used in investing activities

 

$

(2,372)

 

$

(7,558)

 



Financing activities:

 

 

 

 

 

 

 



Borrowings under line of credit, net

 

$

 -

 

$

1,750 

 



Payments on long-term debt

 

 

(912)

 

 

(470)

 



Borrowings under long-term debt

 

 

 -

 

 

2,168 

 



Payments of capital lease obligations

 

 

(165)

 

 

(184)

 



Proceeds from exercise of common stock options

 

 

66 

 

 

75 

 



Net cash provided by (used in) financing activities

 

$

(1,011)

 

$

3,339 

 



Effect of foreign currency exchange rate changes on cash

 

 

(4)

 

 

(23)

 



Net change in cash and cash equivalents

 

 

2,156 

 

 

353 

 



Cash and cash equivalents at beginning of period

 

 

2,284 

 

 

1,808 

 



Cash and cash equivalents at end of period

 

$

4,440 

 

$

2,161 

 



Cash paid for interest

 

$

338 

 

$

256 

 



Cash paid for income taxes

 

$

45 

 

$

25 

 



 

 

 

 

 

 

 

 



Non-cash investing and financing activities

 

 

 

 

 

 

 



Issuance of common stock in connection with acquisitions

 

$

 -

 

$

2,780 

 



Debt issued in connection with acquisition

 

 

 -

 

 

2,933 

 



Capital leases acquired in connection with acquisitions

 

 

 -

 

 

105 

 



Current assets acquired in connection with acquisitions

 

 

36 

 

 

639 

 



Accrued liabilities assumed in connection with acquisitions

 

 

58 

 

 

623 

 



Issuance of common stock related to payment of contingent liabilities

 

 

60 

 

 

42 

 



Tax benefit of stock options exercised

 

 

 -

 

 

55 

 



Cashless exercise of common stock warrants

 

 

46 

 

 

 -

 



Contingent liabilities incurred in connection with acquisition

 

 

62 

 

 

911 

 



See accompanying notes







6


 

 

ARI Network Services, Inc. 

Notes to Consolidated Financial Statements



1. Description of the Business and Significant Accounting Policies

Description of the Business 

ARI Network Services, Inc. (“ARI” or “the Company”) creates software-as-a-service (“SaaS”), data-as-a-service (“DaaS”) and other solutions that help equipment manufacturers, distributors and dealers in selected vertical markets to Sell More Stuff!™ – online and in-store. We remove the complexity of selling and servicing new and used whole goods inventory and PG&A for customers in the automotive tire and wheel aftermarket (“ATW”), automotive aftermarket parts and service (“AAPS”), powersports, outdoor power equipment (“OPE”), marine, home medical equipment (“HME”), recreational vehicles (“RV”) and appliance industries. Our innovative products are powered by a proprietary library of enriched original equipment and aftermarket content from over 1,800 manufacturers. More than 23,500 equipment dealers, distributors and manufacturers worldwide leverage our web and eCatalog platforms to Sell More Stuff!

We were incorporated in Wisconsin in 1981. Our principal executive office and headquarters is located in Milwaukee, Wisconsin. The office address is 10850 West Park Place, Suite 1200, Milwaukee, WI 53224, and our telephone number at that location is (414) 973-4300. Our principal website address is www.arinet.com. ARI also maintains operations in Cypress, California; Floyds Knobs, Indiana; Des Moines, Iowa; Duluth, Minnesota; Wexford, Pennsylvania; Cookeville, Tennessee; Salt Lake City, Utah; Leiden, The Netherlands; and New Delhi, India. 

Basis of Presentation

These consolidated financial statements include the consolidated financial statements of ARI and its wholly-owned subsidiaries, ARI Europe B.V. and ARI Network Services Pvt. Ltd. and have been prepared in accordance with accounting principles generally accepted in the United States (“GAAP”). We eliminated all significant intercompany balances and transactions in consolidation. All adjustments that, in the opinion of management, are necessary for a fair presentation of the periods presented have been reflected as required by Regulation S-X, Rule 10-01.

Fiscal Year

Our fiscal year ends on July 31. References to fiscal 2016, for example, refer to the fiscal year ending July 31, 2016, and references to fiscal 2015 refer to the fiscal year ended July 31, 2015.  

Revenue Recognition

Revenues from subscription fees for use of our software, access to our catalog content, and software maintenance and support fees are all recognized ratably over the contractual term of the arrangement. The Company has customer contracts with multiple services or elements, which may be delivered at different times. The Company accounts for delivered elements in accordance with the selling price when arrangements include multiple product components or other elements and vendor-specific objective evidence exists for the value of all undelivered elements. Revenue on undelivered elements is recognized when the elements are delivered. ARI considers all arrangements with payment terms extending beyond 12 months not to be fixed or determinable and evaluates other arrangements with payment terms longer than normal to determine whether the arrangement is fixed or determinable. If the fee is not fixed or determinable, revenue is recognized as payments become due from the customer. Arrangements that include acceptance terms beyond the standard terms are not recognized until acceptance has occurred. If collectability is not considered probable, revenue is recognized when the fee is collected. 

For software license arrangements that do not require significant modification or customization of the underlying software, the Company recognizes revenue when persuasive evidence of an arrangement exists, delivery has occurred, the fee is fixed or determinable and collectability is probable.

7


 

 

Revenues for professional services to customize complex features and functionality in a product’s base software code or develop complex interfaces within a customer’s environment are recognized as the services are performed if they are determined to have standalone value to the customer or if all of the following conditions are met i) the customer has a contractual right to take possession of the software; ii) the customer will not incur significant penalty if it exercises this right; and iii) it is feasible for the customer to either run the software on its own hardware or contract with another unrelated party to host the software. When the current estimates of total contract revenue for professional services and the total related costs indicate a loss, a provision for the entire loss on the contract is made in the period the amount is determined. Professional service revenues for set-up and integration of hosted websites, or other services considered essential to the functionality of other elements of the arrangement, are amortized over the term of the contract.

Revenue for variable transaction fees, primarily for use of the shopping cart feature of our websites, is recognized as it is earned.

Amounts received for shipping and handling fees are reflected in revenue. Costs incurred for shipping and handling are reported in cost of revenue.

Amounts invoiced to customers prior to recognition as revenue, as discussed above, are reflected in the accompanying balance sheets as deferred revenue.

No single customer accounted for 10% or more of ARI’s revenue during the nine months ended April 30, 2016 or 2015.  

Trade Receivables, Credit Policy and Allowance for Doubtful Accounts

Trade receivables are uncollateralized customer obligations due on normal trade terms, most of which require payment within thirty (30) days from the invoice date. Payments of trade receivables are allocated to the specific invoices identified on the customer’s remittance advice or, if unspecified, are applied to the earliest unpaid invoices.

The carrying amount of trade receivables is reduced by an allowance that reflects management’s best estimate of the amounts that will not be collected. Management individually reviews receivable balances that exceed ninety (90) days from the invoice date and, based on an assessment of current creditworthiness, estimates the portion of the balance that will not be collected. The allowance for potential doubtful accounts is reflected as an offset to trade receivables in the accompanying consolidated balance sheets.

Capitalized and Purchased Software Product Costs

Certain software development and acquisition costs are capitalized when incurred. Capitalization of these costs begins upon the establishment of technological feasibility. The establishment of technological feasibility and the on-going assessment of recoverability of software costs require considerable judgment by management with respect to certain external factors, including, but not limited to, the determination of technological feasibility, anticipated future gross revenue, estimated economic life and changes in software and hardware technologies. The Company capitalizes software enhancements on an on-going basis and all other software development and support expenditures are charged to expense in the period incurred.

The annual amortization of software products is computed using the straight-line method over the estimated economic life of the product, which currently ranges from 2 to 14 years. Amortization starts when the product is available for general release to customers. 

Deferred Loan Fees and Debt Discounts

Fees associated with securing debt are capitalized and shown as contra-debt, reducing the carrying amount of long-term debt on the consolidated balance sheet. Deferred loan fees and debt discounts are amortized to interest expense over the life of the debt using the effective interest method.

8


 

 

Deferred Income Taxes

The tax effect of the temporary differences between the book and tax bases of assets and liabilities and the estimated tax benefit from tax net operating losses is reported as deferred tax assets and liabilities in the consolidated balance sheets. An assessment of the likelihood that net deferred tax assets will be realized from future taxable income is performed at each reporting date or when events or changes in circumstances indicate that there may be a change in the valuation allowance. Because the ultimate realizability of deferred tax assets is highly subject to the outcome of future events, the amount established as a valuation allowance is considered to be a significant estimate that is subject to change in the near term. To the extent a valuation allowance is established or there is a change in the allowance during a period, the change is reflected with a corresponding increase or decrease in income tax expense in the consolidated statements of operations

Legal Provisions

ARI is periodically involved in legal proceedings arising from contracts, patents or other matters in the normal course of business. We reserve for any material estimated losses if the outcome is probable and reasonably estimable. We had no provisions for legal proceedings during the nine months ended April 30, 2016 or 2015. 

Recently Adopted Accounting Standards

On August 1, 2015, the Company retrospectively adopted Accounting Standards Update (“ASU”) 2015-03 related to the presentation of debt issuance costs. Debt issuance costs of $29,000, previously recorded to prepaid expenses and other, and $84,000, previously recorded to other long-term assets as of July 31, 2015, are now presented as a direct deduction from the carrying amount of long-term debt on the balance sheet.

2. Basic and Diluted Net Income per Common Share 

 

Basic net income per common share is computed by dividing net income by the basic weighted average number of common shares outstanding during the period. Diluted net income per common share is computed by dividing net income by the weighted average number of common shares outstanding during the period and reflects the potential dilution that could occur if all of ARI’s outstanding stock options and warrants that are in the money were exercised (calculated using the treasury stock method).

The following table is a reconciliation of basic and diluted net income per common share (in thousands, except per share data): 





 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 



 

 

Three months ended April 30

 

Nine months ended 

April 30

 



 

 

2016

 

2015

 

2016

 

2015

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 



Net income

 

$

448 

 

$

339 

 

$

1,285 

 

$

703 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 



Weighted-average common shares outstanding

 

 

17,258 

 

 

14,362 

 

 

17,199 

 

 

14,100 

 



Effect of dilutive stock options and warrants

 

 

511 

 

 

424 

 

 

490 

 

 

436 

 



Diluted weighted-average common shares outstanding

 

 

17,769 

 

 

14,786 

 

 

17,689 

 

 

14,536 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 



Net income per share

 

 

 

 

 

 

 

 

 

 

 

 

 



Basic

 

$

0.03 

 

$

0.02 

 

$

0.07 

 

$

0.05 

 



Diluted

 

$

0.03 

 

$

0.02 

 

$

0.07 

 

$

0.05 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 



Options and warrants that could potentially dilute net income per share in the future that are not included in the computation of diluted net income per share, as their impact is anti-dilutive

 

 

 -

 

 

10 

 

 

 -

 

 

10 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



9


 

 

3. Debt 



Silicon Valley Bank

On April 26, 2013, the Company entered into a Loan and Security Agreement (the “Agreement”) with Silicon Valley Bank (“SVB”), pursuant to which SVB extended to the Company credit facilities consisting of a $3,000,000 revolving credit facility with a maturity date of April 26, 2015 and a $4,500,000 term loan with a maturity date of April 26, 2018

On September 30, 2014, in connection with the Company’s acquisition of Tire Company Solutions, LLC (“TCS”), the Company entered into the First Loan Modification Agreement (the “Modification Agreement”) with SVB, which contained substantial amendments to the terms of the Agreement.

The Modification Agreement includes credit facilities consisting of a $3,000,000 revolving credit facility with a maturity date of September 30, 2016 and a $6,050,000 term loan with a maturity date of September 30, 2019. This term loan is an amendment to the existing $4,500,000 term loan with an original maturity date of April 26, 2018.



The term loan and any loans made under the SVB revolving credit facility accrue interest at a per annum rate equal to the Prime Rate plus the Applicable Margin for Prime Rate Loans set forth in the chart below based on the Total Leverage Ratio, as defined in the Modification Agreement. The Company had $0 outstanding on the revolving credit facility and the effective interest rate was 4.00% at April 30, 2016, based upon a prime rate of 3.50%.





 

 



Applicable Margin

Total Leverage Ratio

for Prime Rate Loans



 

 

>= 2.50 to 1.0:

1.50 

%

>  1.75 to 1.00 but <2.50 to 1.00:

1.00 

%

<= 1.75 to 1.00:

0.50 

%



Principal in respect of any loans made under the revolving facility is required to be paid in its entirety on or before September 30, 2016. Principal in respect of the term loan is required to be paid in quarterly installments on the first day of each fiscal quarter of the Company as follows: $151,250 commenced on November 1, 2014 through August 1, 2016; $226,875 commencing on November 1, 2016 through August 1, 2017; and $302,500 commencing on November 1, 2017 through August 1, 2019. All remaining principal in respect of the term loan is due and payable on September 30, 2019. The Company is permitted to prepay all of, but not less than all of, the outstanding principal amount of the term loan upon notice to SVB and, in certain circumstances, the payment of a prepayment penalty of up to $61,000.  Following July 31, 2015, the Modification Agreement requires the Company to make additional payments in the amount of 25% of excess cash flow, as defined in the agreement, until the Company’s Total Leverage Ratio is less than 2.00 to 1.00.

The Modification Agreement contains covenants that restrict, among other things and subject to certain conditions, the ability of the Company to permit a change of control, incur debt, create liens on its assets, make certain investments, enter into merger or acquisition transactions and make distributions to its shareholders. Financial covenants include the maintenance of a minimum Total Leverage Ratio equal to or less than 3.00 to 1.00 and the maintenance of a Fixed Charge Coverage Ratio (as defined in the Modification Agreement) equal to or greater than 1.25 to 1.00. The Total Leverage Ratio was 1.18 and the Fixed Charge Ratio was 2.71 for the twelve months ended April 30, 2016.  The Modification Agreement also contains customary events of default that, if triggered, could result in an acceleration of the Company’s obligations under the Modification Agreement. The loans are secured by a first priority security interest in substantially all assets of the Company.

TCS Promissory Notes

In connection with the acquisition of TCS, on September 30, 2014, the Company issued two promissory notes (the “TCS Notes”) in the aggregate principal amount of $3,000,000 to the former owners of TCS. In February 2015, the principal amount of the TCS Notes was reduced by approximately $67,000 as a result of post-closing adjustments to the valuation of the net assets acquired, pursuant to the terms of the asset purchase agreement. The TCS Notes initially accrue interest on the outstanding unpaid principal balance at a rate per annum equal to 5.0%; however, if any amount payable under a TCS Note is not paid when due, such overdue amount will bear interest at the default rate of 7.5% from the date of such non-payment until such amount is paid in full. Accrued interest on the TCS Notes is due and payable quarterly commencing on December 29, 2014 and continuing on each 90th calendar day thereafter, until September 30, 2018, at which time all accrued interest and outstanding principal balance will be due and payable in full. The first four payments due and payable under the TCS Notes were interest-only payments, and payments of principal and interest commenced on December 29, 2015. The payments are subject to acceleration upon certain Events of Default, as defined in the TCS Notes. 

10


 

 

DCi Promissory Note

In connection with the acquisition of Direct Communications Inc. (“DCi”), on July 13, 2015, the Company issued a promissory note (the “DCi Note”) in the aggregate principal amount of $2,000,000 to the former owners of DCi. The principal amount of the DCi Note was reduced by approximately $64,000 as a result of post-closing adjustments to the estimated valuation of the net assets acquired, pursuant to the terms of the asset purchase agreement. The DCi Note initially accrues interest on the outstanding unpaid principal balance at a rate per annum equal to 4.0%. Accrued interest on the DCi Note is due and payable quarterly commencing on October 13, 2015 and continuing on each 90th calendar day thereafter, until July 13, 2019, at which time all accrued interest and outstanding principal balance will be due and payable in full. The first four payments due and payable under the DCi Note are interest only payments, and payments of principal and interest shall not commence until the payment due on October 13, 2016. The payments are subject to acceleration upon certain Events of Default, as defined in the DCi Note. 

The following table sets forth certain information related to the Company’s long-term debt as of April 30, 2016 and July 31, 2015 (in thousands): 

 



 

 

 

 

 

 



April 30

 

July 31

 



2016

 

2015

 

Notes payable principal

$

9,553 

 

$

10,529 

 

Less debt issuance costs

 

(100)

 

 

(112)

 

Less current maturities

 

(2,172)

 

 

(1,338)

 

Notes payable - non-current

$

7,281 

 

$

9,079 

 



 

 

 

 

 

 



Minimum principal payments due on the SVB Term Note, the TCS Notes and the DCi Note are as follows for the fiscal years ending (in thousands):  



 

 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

 



SVB Term Note

 

TCS Notes

 

 

DCi Notes

 

 

Total Notes Payable

 

 

2016 remaining

$

151 

 

$

234 

 

$

 —

 

$

385 

 

 

2017

 

832 

 

 

965 

 

 

620 

 

 

2,417 

 

 

2018

 

1,134 

 

 

1,014 

 

 

645 

 

 

2,793 

 

 

2019

 

1,211 

 

 

261 

 

 

671 

 

 

2,143 

 

 

2020

 

1,815 

 

 

 —

 

 

 —

 

 

1,815 

 

 



$

5,143 

 

$

2,474 

 

$

1,936 

 

$

9,553 

 

 



 

 

 

 

 

 

 

 

 

 

 

 

 

 

 



4. Business Combinations

DCi Acquisition



On July 13, 2015, the Company acquired substantially all of the assets of DCi, a leading provider of differentiated product content and electronic catalog software serving manufacturers, distributors, jobbers and independent retailers in the AAPS. Consideration for the acquisition included: (1) a cash payment equal to $3,750,000; (2) 159,795 shares of the Company’s common stock; and (3) the issuance of a promissory note in principal amount of $2,000,000 to DCi.  The principal amount of the DCi Note was reduced by approximately $64,000 as a result of post-closing adjustments to the estimated valuation of the net assets acquired, pursuant to the terms of the asset purchase agreement.    



The Company expects the DCi acquisition to accelerate its growth in the AAPS and provide a platform to further expand the reach of ARI’s data-driven eCommerce websites and automotive point-of-sale software. The combined customer benefits and operational efficiencies are expected to result in a stronger organization that can create more value for our customers, shareholders and employees.



11


 

 

The DCi acquisition was funded from cash on hand, seller financing and the Company’s common stock. The following tables show the preliminary allocation of the preliminary DCi purchase price (in thousands):





 

 

 

 

 



 

 

Preliminary

 



 

 

Purchase

 



 

 

Price

 



Cash

 

$

3,750 

 



Financed by note payable

 

 

1,936 

 



Issuance of common stock

 

 

500 

 



Purchase price

 

$

6,186 

 



 

 

 

 

 



 

 

Preliminary

 



 

 

Purchase

 



 

 

Allocation

 



Trade receivables

 

$

422 

 



Prepaid expense and other

 

 

38 

 



Assumed liabilities

 

 

(260)

 



Furniture and equipment

 

 

387 

 



Software product costs

 

 

698 

 



Intangible assets

 

 

1,830 

 



Goodwill

 

 

3,071 

 



Purchase price allocation

 

$

6,186 

 



 

 

 

 

 



Intangible assets include the fair value of tradenames, customer relationships, and non-competition agreements. Estimated goodwill represents the additional benefits provided to the Company by the acquisition of DCi operational synergies. The Company acquired approximately $3,300,000 of tax deductible goodwill related to the DCi acquisition. The final purchase price, as well as the purchase price allocation, is subject to the completion of the final valuation of the acquired net assets. The final valuation is expected to be completed as soon as is practicable but no later than July 13, 2016 and could have a material impact on the preliminary purchase price allocation disclosed above.

TASCO Acquisition

On April 27, 2015, the Company acquired substantially all of the assets of TASCO Corporation and its affiliated company Signal Extraprise Corporation (collectively “TASCO”), a leading provider of business management software designed exclusively for the automotive tire and wheel aftermarket industry. Consideration for the acquisition included: (1) a cash payment at the closing of the transaction equal to $1,750,000, which was funded through a borrowing on the Company’s revolving credit facility; (2) 242,424 shares of the Company’s common stock; and (3) a $200,000 holdback payable on April 27, 2016. In October 2015, the holdback amount was reduced by approximately $62,000 as a result of post-closing adjustments to the valuation of the net assets acquired, pursuant to the terms of the asset purchase agreement. The Company acquired approximately $1,500,000 of tax deductible goodwill related to the TASCO acquisition. The Company determined that the TASCO assets acquired did not constitute a business that is “significant” as defined in the applicable SEC regulations.

The following tables show the allocation of the purchase price (in thousands):



 

 

 

 

 



 

 

 

 

 



 

 

 

 



 

 

Purchase

 



 

 

Price

 



Cash

 

$

1,750 

 



Issuance of common stock

 

 

800 

 



Contingent holdback

 

 

138 

 



Purchase price

 

$

2,688 

 



 

 

 

 

 



 

 

 

 



 

 

Purchase

 



 

 

Allocation

 



Trade receivables

 

$

120 

 



Assumed liabilities

 

 

(227)

 



Software product costs

 

 

434 

 



Intangible assets

 

 

1,000 

 



Goodwill

 

 

1,361 

 



Purchase price allocation

 

$

2,688 

 



 

 

 

 

 



12


 

 

TCS Acquisition

On September 30, 2014, the Company acquired substantially all of the assets of TCS, a leading provider of software, websites and digital marketing solutions designed exclusively for dealers, wholesalers, retreaders and manufacturers within the automotive tire and wheel industries. Consideration for the acquisition included (1) a cash payment equal to $4,200,000; (2) 618,744 shares of the Company's common stock; (3) the issuance of two promissory notes in aggregate principal amount of $2,933,000 (as adjusted) to the former owners of TCS; and (4) a contingent earn-out purchase price contingent upon the attainment of specific revenue goals over the first three years following the acquisition. The earn-out, with an original fair value of $711,000, was amended in March 2016 to four quarterly payments of $120,905, which commenced in December 2016, followed by four quarterly payments of $70,000.

The TCS acquisition increased the Company’s portfolio of ATW dealer websites by more than 30%.  The acquisition is expected to accelerate ARI’s opportunity to drive organic growth through the cross‐selling of new products. It also provides solutions for the entire ATW supply chain, including wholesalers, retreaders and manufacturers. The TCS business offers a business management solution for ATW dealers as well as for auto repair shops. The combined customer benefits and operational efficiencies are expected to result in a stronger organization that can create more value for our customers, shareholders and employees. 

The acquisition was funded from cash on hand, an increase in our SVB Term Loan, funds available on our revolving credit facility seller financing and the Company’s common stock. The following tables show the allocation of the purchase price (in thousands):





 

 

 

 

 



 

 

 

 



 

 

Purchase

 



 

 

Price

 



Cash

 

$

4,200 

 



Financed by note payable

 

 

2,933 

 



Issuance of common stock

 

 

1,980 

 



Contingent earn-out

 

 

711 

 



Purchase price

 

$

9,824 

 



 

 

 

 

 



 

 

 

 



 

 

Purchase

 



 

 

Allocation

 



Trade receivables

 

$

606 

 



Prepaid expense and other

 

 

33 

 



Assumed liabilities

 

 

(668)

 



Furniture and equipment

 

 

117 

 



Software product costs

 

 

820 

 



Intangible assets

 

 

4,080 

 



Goodwill

 

 

           4,836

 



Purchase price allocation

 

$

9,824 

 



 

 

 

 

 



Intangible assets include the fair value of tradenames, customer relationships and non-competition agreements. Goodwill represents the additional benefits provided to the Company by the acquisition of TCS operational synergies. The Company acquired approximately $5,200,000 of tax deductible goodwill related to the TCS acquisition. 

Pro Forma Information

The following unaudited pro forma combined financial information presents the Company's results as if the Company had acquired TCS and DCi on August 1, 2014. The unaudited pro forma information has been prepared with the following considerations:

i.

The unaudited pro forma condensed consolidated financial information has been prepared using the acquisition method of accounting under existing GAAP. The Company is the acquirer for accounting purposes.

ii.

The pro forma combined financial information does not reflect any operating cost synergy savings that the combined company may achieve as a result of the acquisition, the costs necessary to achieve these operating synergy savings or additional charges necessary as a result of the acquisition.



13


 

 

The unaudited pro forma financial information presented is for informational purposes only and does not purport to represent what the Company's, TCS’s or DCi’s financial position or results of operations would have been had the acquisition in fact occurred on such date or at the beginning of the period indicated, nor does it project the financial position or results of operation for any future date or period of the Company, TCS or DCi.  





 

 

 

 

 

 

 

 

 

 

 

 

 



 

Three months ended April 30

 

Nine months ended April 30

 



 

2016

 

2015

 

2016

 

2015

 



Revenue

$

11,984 

 

$

11,223 

 

$

35,473 

 

$

33,354 

 



Net income

$

448 

 

$

355 

 

$

1,285 

 

$

818 

 



 

 

 

 

 

 

 

 

 

 

 

 

 



Net income per common share:

 

 

 

 

 

 

 

 

 

 

 



Basic

$

0.03 

 

$

0.02 

 

$

0.07 

 

$

0.05 

 



Diluted

$

0.03 

 

$

0.02 

 

$

0.07 

 

$

0.05 

 





Pro forma adjustments to net income include amortization costs related to the acquired intangible assets, acquisition-related professional fees, interest expense on the debt incurred to acquire the assets of TCS and DCi, the tax effect of the historical TCS and DCi results of operations and the pro forma adjustments at an estimated tax rate of 40% as follows:







 

 

 

 

 

 

 

 

 

 

 

 

 



 

Three months ended April 30

 

Nine months ended April 30

 



 

2016

 

2015

 

2016

 

2015

 



 

 

 

 

 

 

 

 

 

 

 

 

 



Amortization of intangible assets

 

 -

 

 

72 

 

 

 -

 

 

271 

 



Acquisition-related professional fees

 

 -

 

 

(38)

 

 

 -

 

 

(256)

 



Interest expense

 

 -

 

 

20 

 

 

 -

 

 

105 

 



Income tax benefit (expense)

 

 -

 

 

10 

 

 

 -

 

 

77 

 



  Total adjustments

 

 -

 

 

64 

 

 

 -

 

 

197 

 



 

 

 

 

 

 

 

 

 

 

 

 

 



The Company increased goodwill by approximately $471,000 during the nine months ended April 30, 2016, as a result of adjustments to the preliminary purchase price allocation of the TCS, TASCO and DCi acquisitions. The Company cannot determine revenue and expenses specifically related to its acquisitions since the date of acquisition, as we begin integrating these operations into our business upon closing of the acquisitions.













5. Contingent Liabilities 



Consideration for the April 2015 TASCO acquisition included a $138,000 (as adjusted) holdback payable, which has been paid in full as of April 30, 2016.     

Consideration for the September 2014 TCS acquisition includes a contingent earn-out purchase price, originally payable in three potential payments and contingent upon the attainment of specific revenue goals. The fair value of the earn-out was originally estimated at $711,000. On March 7, 2016 the TCS Asset Purchase Agreement was amended in relation to the contingent earnout, whereas four quarterly payments of $120,905 commenced on December 31, 2015, followed by four quarterly payments of $70,000, commencing December 31, 2016.  The Company recorded a gain of $13,000 as a result of the Amendment during the nine months ended April 30, 2016.

Consideration for the 2012 Ready2Ride acquisition included a contingent hold-back purchase price of up to $250,000 and contingent earn-out payments as follows: (i) the first earn-out payment, composed of $125,000 was paid in October 2013 and 10,000 shares of common stock issued in November 2013; (ii) the second earn-out payment, composed of $125,000 and 15,000 shares of common stock, was paid in September 2014; and (iii) the third earn-out payment, composed of $125,000 and 15,000 shares of common stock, was paid in August 2015. The Company recorded a loss of $8,000 as a result of a change in estimate related to an increase in the market price of the Company’s common stock during the nine months ended April 30, 2016.

14


 

 

The following table shows changes in the holdback and earn-out payable related to the TCS and TASCO acquisition (in thousands):



 

 

 

 

 



Nine months ended April 30



2016

 

2015

Beginning balance

$

1,116 

 

$

448 

Additions

 

 -

 

 

911 

Adjustments

 

(62)

 

 

 -

Payments

 

(565)

 

 

(292)

Imputed interest recognized

 

22 

 

 

37 

Gain on change in fair value of earn-out

 

(5)

 

 

 -

Ending balance

$

506 

 

$

1,104 

    Less current portion

$

(382)

 

$

(627)

Ending balance, long-term

$

124 

 

$

477 



 

 

 

 

 



The following table shows the remaining estimated payments of contingent liabilities related to the TCS acquisition at April 30, 2016, (in thousands):







 

 

 

 

 

 



2016

$

121 

 

 

 



2017

 

331 

 

 

 



2018

 

70 

 

 

 



Total estimated payments

 

522 

 

 

 



Less imputed interest

 

(16)

 

 

 



Present value of contingent liabilities

$

506 

 

 

 



 

 

 

 

 

 



















15


 

 

6. Other Intangible Assets



Amortizable intangible assets include customer relationships and other intangibles including trade names and non-compete agreements. Amortizable intangible assets are composed of the following at April 30, 2016 and 2015 (in thousands): 







 

 

 

 

 

 

 

 

 

 

 

 



 

 

Nine months ended April 30, 2015

Wtd. avg.

 



 

 

Cost

 

Accumulated

 

Net

remaining

 



Customer relationships

 

Basis

 

Amortization

 

Value

life

 



Beginning balance

 

$

7,174 

 

$

(3,584)

 

$

3,590 

 

 



Activity

 

 

3,838 

 

 

(598)

 

 

3,240 

 

 



Ending balance

 

$

11,012 

 

$

(4,182)

 

$

6,830 

11.46

 



 

 

 

 

 

 

 

 

 

 

 

 



Other intangibles

 

 

 

 

 

 

 

 

 

 

 



Beginning balance

 

$

383 

 

$

(361)

 

$

22 

 

 



Activity

 

 

1,399 

 

 

(159)

 

 

1,240 

 

 



Ending balance

 

$

1,782 

 

$

(520)

 

$

1,262 

1.66

 



 

 

 

 

 

 

 

 

 

 

 

 



 

 

 

 

 

 

 

 

 

 

 

 



Total intangibles

 

 

 

 

 

 

 

 

 

 

 



Beginning balance

 

$

7,557 

 

$

(3,945)

 

$

3,612 

 

 



Activity

 

 

5,237 

 

 

(757)

 

 

4,480 

 

 



Ending balance

 

$

12,794 

 

$

(4,702)

 

$

8,092 

11.07