10-Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

[X]QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2016

[  ]TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF

THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from _______ to _______

Commission file number 000-27507

AUXILIO, INC.

(Exact name of registrant as specified in its charter)

Nevada	88-0350448
(State or other jurisdiction of incorporation or organization)	(I.R.S. Employer Identification No.)

27271 Las Ramblas, Suite 200

Mission Viejo, California  92691

(Address of principal executive offices, zip code)

(949) 614-0700

(Issuer's telephone number)

N/A (Former name, former address and former fiscal year, if changed since last report)

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 ☐

Indicated by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Date File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (Sec. 232.405 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.

Large accelerated filer ☐	Accelerated filer ☐
Non-accelerated filer ☐	Smaller reporting company ☑

Indicate by check mark whether the registrant is a shell company (as defined by Section 12b-2 of the Exchange Act).  Yes ☐ No ☑.

The number of shares of the issuer's common stock, $0.001 par value, outstanding as of November 7, 2016 was 24,557,224.

AUXILIO, INC. AND SUBSIDIARIES

FORM 10-Q

TABLE OF CONTENTS

	Page
PART I – FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of September 30, 2016 (unaudited) and December 31, 2015	3
Condensed Consolidated Statements of Operations for the Three and Nine Months Ended September 30, 2016 and 2015 (unaudited)	4
Condensed Consolidated Statement of Stockholders' Equity for the Nine Months Ended September 30, 2016 (unaudited)	5
Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2016 and 2015 (unaudited)	6
Notes to Unaudited Condensed Consolidated Financial Statements	8
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations	15
Item 3. Quantitative and Qualitative Disclosures about Market Risk	22
Item 4. Controls and Procedures	22
PART –II - OTHER INFORMATION	22
Item 1a. Risk Factors	22
Item 5.  Other Information	22
Item 6.   Exhibits	23
Signatures	24

2

PART I – FINANCIAL INFORMATION

ITEM 1.FINANCIAL STATEMENTS.

AUXILIO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

	SEPTEMBER 30, 2016			DECEMBER 31, 2015
	(unaudited)
ASSETS
Current assets:
Cash and cash equivalents	$	5,390,883		$	6,436,732
Accounts receivable, net		7,286,119			7,397,957
Supplies		1,115,038			1,458,609
Prepaid and other current assets		284,119			625,806
Total current assets		14,076,159			15,919,104
Property and equipment, net		758,647			495,324
Deposits		41,522			58,118
Intangible assets, net		2,325,000			2,731,250
Goodwill		3,665,656			3,665,656
Total assets	$	20,866,984		$	22,869,452
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued expenses	$	6,045,537		$	8,306,860
Accrued compensation and benefits		2,560,889			2,856,165
Deferred revenue		494,686			913,677
Current portion of long-term liabilities		613,724			598,750
Total current liabilities		9,714,836			12,675,452
Long-term liabilities:
Term loan, less current portion		875,000			1,250,000
Capital lease obligations less current portion		79,248			125,496
Total long-term liabilities		954,248			1,375,496
Commitments and contingencies
Stockholders' equity:
Common stock, par value at $0.001, 33,333,333 shares authorized, 24,557,224 and 24,452,085 shares issued and outstanding at September 30, 2016 and December 31, 2015, respectively		24,559			24,453
Additional paid-in capital		27,892,549			27,682,061
Accumulated deficit		(17,719,208	)		(18,888,010	)
Total stockholders' equity		10,197,900			8,818,504
Total liabilities and stockholders' equity	$	20,866,984		$	22,869,452

The accompanying notes are an integral part of these condensed consolidated financial statements.

3

AUXILIO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(UNAUDITED)

	Three Months						Nine Months
	Ended September 30,						Ended September 30,
	2016			2015			2016			2015
Revenues	$	14,326,382		$	15,725,616		$	44,004,091		$	45,190,062
Cost of revenues		11,082,739			12,853,601			35,359,229			38,069,271
Gross profit		3,243,643			2,872,015			8,644,862			7,120,791
Operating expenses:
Sales and marketing		676,871			712,522			2,078,366			2,263,410
General and administrative expenses		1,786,585			1,597,793			5,198,613			4,907,162
Total operating expenses		2,463,456			2,310,315			7,276,979			7,170,572
Income (loss) from operations		780,187			561,700			1,367,883			(49,781	)
Other income (expense):
Interest expense		(21,714	)		(31,886	)		(70,968	)		(100,284	)
Total other income (expense)		(21,714	)		(31,886	)		(70,968	)		(100,284	)
Income (loss) before provision forincome taxes		758,473			529,814			1,296,915			(150,065	)
Income tax expense		(84,113	)		-			(128,113	)		(2,400	)
Net income (loss)	$	674,360		$	529,814		$	1,168,802		$	(152,465	)
Net income (loss) per share:
Basic	$	.03		$	.02		$	.05		$	(.01	)
Diluted	$	.03		$	.02		$	.05		$	(.01	)
Number of weighted average shares:
Basic		24,557,224			24,274,815			24,506,934			24,050,960
Diluted		24,816,608			24,983,982			24,862,991			24,050,960

The accompanying notes are an integral part of these condensed consolidated financial statements.

4

AUXILIO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY

NINE MONTHS ENDED SEPTEMBER 30, 2016

(UNAUDITED)

					Additional					Total
	Common Stock				Paid-in		Accumulated			Stockholders'
	Shares		Amount		Capital		Deficit			Equity
Balance at December 31, 2015		24,452,085	$	24,453	$	27,682,061	$	(18,888,010	)	$	8,818,504
Stock compensation expense for options and warrants granted to employees and directors		-		-		150,443		-			150,443
Stock options and warrants exercised		105,139		106		60,045		-			60,151
Net income		-		-		-		1,168,802			1,168,802
Balance at September 30, 2016		24,557,224	$	24,559	$	27,892,549	$	(17,719,208	)	$	10,197,900

The accompanying notes are an integral part of these condensed consolidated financial statements.

5

AUXILIO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

	Nine Months Ended September 30,
	2016			2015
Cash flows from operating activities:
Net income (loss)	$	1,168,802		$	(152,465	)
Adjustments to reconcile net income (loss) to net cash (used for) provided by operating activities:
Depreciation		169,514			110,963
Amortization of intangible assets		406,250			340,000
Stock compensation expense for warrants and options issuedto employees and directors		150,443			232,403
Stock compensation expense for contingent earn-out stock tobe issued to employees		-			62,000
Stock compensation expense for restricted stock issued tokey employee		-			101,881
Interest expense related to accretion of debt discount costs		-			30,189
Changes in operating assets and liabilities:
Accounts receivable, net		111,838			3,201
Supplies		343,571			(377,628	)
Prepaid and other current assets		341,687			(578,630	)
Deposits		16,596			(71,420	)
Accounts payable and accrued expenses		(2,261,323	)		455,133
Accrued compensation and benefits		(295,276	)		771,490
Deferred revenue		(418,991	)		(51,745	)
Net cash (used for) provided by operating activities		(266,889	)		875,372
Cash flows from investing activities:
Purchases of property and equipment		(379,873	)		(12,010	)
Payment for purchase of Redspin		-			(1,876,966	)
Net cash used for investing activities		(379,873	)		(1,888,976	)
Cash flows from financing activities:
Net repayments on line of credit agreement		-			(200,000	)
Proceeds from term loan		-			2,000,000
Payments on term loan		(375,000	)		(125,000	)
Proceeds from issuance of common stock throughwarrants		60,151			-
Payments on notes payable to related party		-			(105,888	)
Payments on capital leases		(84,238	)		(77,984	)
Net cash (used for) provided by financing activities		(399,087	)		1,491,128
Net (decrease) increase in cash and cash equivalents		(1,045,849	)		477,524
Cash and cash equivalents, beginning of period		6,436,732			4,743,395
Cash and cash equivalents, end of period	$	5,390,883		$	5,220,919

The accompanying notes are an integral part of these condensed consolidated financial statements.

6

AUXILIO, INC. AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)

(UNAUDITED)

	Nine Months Ended September 30,
	2016		2015
Supplemental disclosure of cash flow information:
Interest paid	$	70,968	$	70,095
Income taxes paid	$	96,740	$	141,850
Non-cash investing and financing activities:
Property and equipment acquired through capital leases	$	52,964	$	223,795
Conversion of note payable to related party	$	-	$	257,835
Common stock issued in connection with the acquisition of Redspin	$	-	$	469,000

The accompanying notes are an integral part of these condensed consolidated financial statements.

7

AUXILIO, INC. AND SUBSIDIARIES

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

NINE MONTHS ENDED SEPTEMBER 30, 2016 AND 2015

(UNAUDITED)

1.BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements of Auxilio, Inc. and its subsidiaries (the "Company", "we", "us" or "Auxilio") have been prepared in accordance with generally accepted accounting principles of the United States of America ("GAAP") for interim financial statements pursuant to the rules and regulations of the Securities and Exchange Commission.  Accordingly, these financial statements do not include all of the information and notes required by GAAP for complete financial statements.  These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2015, as filed with the Securities and Exchange Commission ("SEC") on March 30, 2016.

The unaudited condensed consolidated financial statements included herein reflect all adjustments (which include only normal, recurring adjustments) that are, in the opinion of management, necessary to state fairly our financial position and results of operations as of and for the periods presented.  The results for such periods are not necessarily indicative of the results to be expected for the full year.

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  As a result, actual results could differ from those estimates.

The accompanying financial statements include the accounts of Auxilio and its wholly-owned subsidiaries.  All intercompany balances and transactions have been eliminated.

We have performed an evaluation of subsequent events through the date of filing of our Form 10-Q with the SEC.

2.RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In May 2014, the FASB issued guidance which provides a single, comprehensive accounting model for revenue arising from contracts with customers. This guidance supersedes most of the existing revenue recognition guidance, including industry-specific guidance. Under this model, revenue is recognized at an amount that a company expects to be entitled to upon transferring control of goods or services to a customer, as opposed to when risks and rewards transfer to a customer. The new guidance also requires additional disclosures about the nature, timing and uncertainty of revenue and cash flow arising from customer contracts, including significant judgments and changes in judgments. Considering the one-year delay in the required adoption date for the guidance as issued in July 2015, the new guidance is effective for us beginning in 2018 and may be applied retrospectively to all prior periods presented or through a cumulative adjustment to the opening retained earnings balance in the year of adoption. We are currently evaluating our existing revenue recognition policies to determine the types of contracts that are within the scope of this guidance and the impact the adoption of this standard may have on our consolidated financial statements. We have not yet determined if we will apply the full retrospective or the modified retrospective method.

In April 2015 and August 2015, the FASB issued guidance which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability consistent with the presentation of debt discounts, however debt issuance costs related to revolving credit agreements may be presented in the balance sheet as an asset. This guidance was effective for us in the first quarter of 2016.

In November 2015, the FASB issued guidance related to the presentation of deferred income taxes. The guidance requires that deferred tax assets and liabilities be classified as non-current in a consolidated balance sheet. This guidance is effective for us in the first quarter of 2017 and is not expected to materially impact our financial position or net earnings.

8

In February 2016, the FASB issued a new accounting standard on leasing. The new standard will require companies to record most leased assets and liabilities on the balance sheet, and also utilizes a dual model for recognizing expense. This guidance will be effective in the first quarter of 2019 with early adoption permitted. We are evaluating the impact that adopting this guidance will have on our consolidated financial statements.

In March 2016, the FASB issued ASU No. 2016-09, "Improvements to Employee Share-Based Payment Accounting." This ASU simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, forfeitures, classification of awards as either equity or liabilities, and classification on the statement of cash flows. The guidance is effective for annual reporting periods beginning after December 15, 2016, including interim periods. Early adoption is permitted. An entity that elects early adoption of the amendment under this ASU must adopt all aspects of the amendment in the same period. We are currently evaluating the impact this guidance will have on our consolidated financial statements.

3.OPTIONS AND WARRANTS

Below is a summary of stock option and warrant activity during the nine-month period ended September 30, 2016:

Options	Shares			Weighted Average Exercise Price		Weighted Average Remaining Term in Years		Aggregate Intrinsic Value
Outstanding at December 31, 2015		4,563,555		$	1.00
Granted		647,500			0.96
Exercised		-			-
Cancelled		(794,118	)		1.17
Outstanding at September 30, 2016		4,416,937		$	0.96		4.60	$	274,890
Exercisable at September 30, 2016		3,587,683		$	0.95		4.60	$	270,940

During the nine months ended September 30, 2016, we granted a total of 647,500 options to our employees and directors to purchase shares of our common stock at an exercise price range of $0.80 to $1.02 per share. The exercise price equals the fair value of our stock on the grant date.  The options have graded vesting annually over three years.  The fair value of the options was determined using the Black-Scholes option-pricing model.  The assumptions used to calculate the fair market value are as follows: (i) risk-free interest rate range of 0.08% to 0.40%; (ii) estimated volatility range of 45.95% to 46.29%; (iii) dividend yield of 0.0%; and (iv) expected life of the options of three years.

Warrants	Shares			Weighted Average Exercise Price		Weighted Average Remaining Term in Years		Aggregate Intrinsic Value
Outstanding at December 31, 2015		1,975,231		$	1.21
Granted		-			-
Exercised		(105,139	)		0.60
Cancelled		(891,328	)		1.27
Outstanding at September 30, 2016		978,764		$	1.05		5.78	$	-
Exercisable at September 30, 2016		745,432		$	1.06		5.61	$	-

For the three and nine months ended September 30, 2016 and 2015, stock-based compensation expense recognized in the consolidated statements of operations as follows:

9

	Three Months Ended September 30,				Nine months Ended September 30,
	2016		2015		2016		2015
Cost of revenues	$	9,620	$	70,396	$	33,535	$	127,953
Sales and marketing		6,927		8,319		23,529		25,885
General and administrative expense		31,704		30,955		93,379		180,446
Total stock based compensation expense	$	48,251	$	109,670	$	150,443	$	334,284

In 2015, we also recognized stock-based compensation of $62,000 in connection with the acquisition of Redspin (Note 11)

4.NET INCOME (LOSS) PER SHARE

Basic net income (loss) per share is calculated using the weighted average number of shares of our common stock issued and outstanding during a certain period, and is calculated by dividing net income (loss) by the weighted average number of shares of our common stock issued and outstanding during such period. Diluted net income (loss) per share is calculated using the weighted average number of common and potentially dilutive common shares outstanding during the period, using the as-if converted method for secured convertible notes, and the treasury stock method for options and warrants. Diluted net income (loss) per share does not include potentially dilutive securities because such inclusion in the computation would be anti-dilutive.

For the three months ended September 30, 2016, potentially dilutive securities consisted of options and warrants to purchase 5,395,701 shares of common stock at prices ranging from $0.30 to $2.15 per share. Of these potentially dilutive securities, only 259,384 of the shares to purchase common stock from the options and warrants are included in the computation of diluted earnings per share as their effect would be anti-dilutive.

For the nine months ended September 30, 2016, potentially dilutive securities consisted of options and warrants to purchase 5,395,701 shares of common stock at prices ranging from $0.30 to $2.15 per share. Of these potentially dilutive securities, only 356,057 of the shares to purchase common stock from the options and warrants are included in the computation of diluted earnings per share as their effect would be anti-dilutive.

For the three months ended September 30, 2015, potentially dilutive securities consisted of options and warrants to purchase 6,529,786 shares of common stock at prices ranging from $0.30 to $2.15 per share. Of these potentially dilutive securities, only 709,167 of the shares to purchase common stock from the options and warrants are included in the computation of diluted earnings per share as their effect would be anti-dilutive.

For the nine months ended September 30, 2015, potentially dilutive securities consisted of options and warrants to purchase 6,529,786 shares of common stock at prices ranging from $0.30 to $2.15 per share. For the nine months ended September 30, 2015, of these potentially dilutive securities, none of the shares to purchase common stock from the options and warrants are included from the computation of diluted earnings per share as their effect would be anti-dilutive.

10

	Three Months Ended September 30,				Nine Months Ended September 30,
	2016		2015		2016		2015
Numerator:
Net income (loss)	$	674,360	$	529,814	$	1,168,802	$	(152,465	)
Denominator:
Denominator for basic calculation weighted average shares		24,557,224		24,274,815		24,506,934		24,050,960
Dilutive common stock equivalents:
Options and warrants		259,384		709,167		356,057		-
Denominator for diluted calculation weighted average shares		24,816,608		24,983,982		24,862,991		24,050,960
Net loss per share:
Basic net income (loss) per share	$	.03	$	.02	$	.05	$	(.01	)
Diluted net income (loss) per share	$	.03	$	.02	$	.05	$	(.01	)

5.ACCOUNTS RECEIVABLE

A summary of accounts receivable is as follows:

	September 30, 2016		December 31, 2015
Trade receivables	$	6,293,565	$	7,458,022
Unapplied advances and unbilled revenue, net		992,554		(60,065	)
Allowance for doubtful accounts		-		-
Total accounts receivable	$	7,286,119	$	7,397,957

6.INTANGIBLE ASSETS

Intangible assets are amortized over expected useful lives ranging from 1.5 to 10 years and consist of the following:

	September 30, 2016					December 31, 2015
	Gross Carrying Amount		Accumulated Amortization			Gross Carrying Amount		Accumulated Amortization
Delphiis, Inc.
Acquired technology	$	900,000	$	(202,500	)	$	900,000	$	(135,000	)
Customer relationships		400,000		(180,000	)		400,000		(120,000	)
Trademarks		50,000		(50,000	)		50,000		(50,000	)
Non-compete agreements		20,000		(15,000	)		20,000		(10,000	)
Total intangible assets, Delphiis, Inc.	$	1,370,000	$	(447,500	)	$	1,370,000	$	(315,000	)
Redspin
Acquired technology	$	1,050,000	$	(157,500	)	$	1,050,000	$	(78,750	)
Customer relationships		600,000		(300,000	)		600,000		(150,000	)
Trademarks		200,000		(60,000	)		200,000		(30,000	)
Non-compete agreements		100,000		(30,000	)		100,000		(15,000	)
Total intangible assets, Redspin	$	1,950,000	$	(547,500	)	$	1,950,000	$	(273,750	)
Total intangible assets	$	3,320,000	$	(995,000	)	$	3,320,000	$	(588,750	)

We assess goodwill for impairment on an annual basis and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount (ASC 350-35-30).  In addition, we assess amortizing intangible assets for recoverability whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable (ASC 360-10-35-21).  During the quarter ended September 30, 2016, management assessed the goodwill and intangible assets of Delphiis and Redspin for impairment and concluded that no impairment charge was required.

11

7.LINE OF CREDIT AND TERM LOAN

On May 4, 2012, we entered into a Loan and Security Agreement (the "Loan and Security Agreement") with Avidbank Corporate Finance, a Division of Avidbank ("Avidbank").  On April 26, 2013, we amended the Loan and Security Agreement with Avidbank. On April 25, 2014, we again amended the Loan and Security Agreement with Avidbank (the "Second Avidbank Amendment"). Under the Second Avidbank Amendment, the term of the revolving line-of-credit of up to $2.0 million was extended through April 25, 2015, at an interest rate of prime plus 1.0% per annum. This line of credit was further extended through June 25, 2015 under the third amendment to the Loan and Security Agreement. On June 19, 2015, we again amended the Loan and Security Agreement with Avidbank (the "Fourth Avidbank Amendment"). Under the Fourth Avidbank Amendment, the term of the revolving line-of-credit of up to $2.0 million was extended through June 19, 2017, at an interest rate of prime plus 0.75% per annum.  As of September 30, 2016, the interest rate was 4.25%.  There will be no minimum interest payable with respect to any calendar quarter. The amount available to us at any given time is the lesser of (a) $2.0 million, or (b) the amount available under our borrowing base (80% of our eligible accounts, minus (1) accrued client lease payables, and minus (2) accrued equipment pool liability). As of September 30, 2016 and December 31, 2015, no amounts were outstanding under the line of credit.

The Fourth Avidbank Amendment also provided for a term loan facility which allowed for advances up to $4,000,000 through June 19, 2016. We made only one draw of $2,000,000 in June 2015. Term loan repayments shall be in 48 equal installments of principal, plus accrued interest at an interest rate of prime plus 1.25% per annum. As of September 30, 2016, outstanding borrowings under the term loan are $1,500,000, of which $500,000 is due within one year. The interest rate is 4.75% as of September 30, 2016.

While there are outstanding credit extensions, we are to maintain a liquidity ratio of cash plus accounts receivable divided by all obligations owing to the bank of at least 1.75 to 1.00, measured monthly, and a debt coverage ratio, whereby adjusted EBITDA for the most recent twelve months shall be no less than 1.50 to 1.00 of the sum of the annual principal payments to come due in respect of the term loan advances plus the annualized interest expense of the quarter ending on the measurement date. We were in compliance with all of the Avidbank agreement covenants as of September 30, 2016 and December 31, 2015.

The foregoing description is qualified in its entirety by reference to the Fourth Amendment to the Loan and Security Agreement between Avidbank Corporate Finance and Auxilio, Inc., which is found as Exhibit 10.1 of our form 10-Q filed on August 14, 2015.

In connection with our entry into the Loan and Security Agreement, we granted Avidbank (a) a general, first-priority security interest in all of our assets, equipment and inventory, and (b) a security interest in all of our intellectual property under an Intellectual Property Security Agreement.  As additional consideration for the Loan and Security Agreement, we issued Avidbank a 5-year warrant to purchase up to 72,098 shares of our common stock at an exercise price of $1.39 per share.  The foregoing descriptions are qualified in their entirety by reference to the respective agreements.  These agreements are found in our Form 8-K filed on May 9, 2012 as Exhibits 10.1, 10.2, 10.3 and 10.4.

Interest charges associated with the Avidbank line of credit, including loan origination costs, totaled $0 and $16,347 respectively, for the nine months ended September 30, 2016 and 2015, respectively. Interest charges associated with the Avidbank term loan, including loan origination costs, totaled $57,224 and $38,120 for the nine months ended September 30, 2016 and 2015, respectively.

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8.EMPLOYMENT AGREEMENTS

Effective January 1, 2014, we entered into an employment agreement with Joseph J. Flynn, our President and Chief Executive Officer ("CEO") since 2009 (the "Flynn Agreement"). The Flynn Agreement provided that Mr. Flynn would continue his employment as our President and CEO. The Flynn Agreement had a term of two years and provided for an annual base salary of $275,000.  Mr. Flynn was also entitled to receive a bonus of up to $150,000 per year, the achievement of which was based on Company performance metrics. Further, the Flynn Agreement revised the vesting schedule of warrants granted to Mr. Flynn in January 2013. The revision spreads the vesting date of the remaining 300,000 unvested shares from 150,000 on January 1, 2015 and 150,000 on January 1, 2016 to 100,000 on January 1, 2015, 100,000 on January 1, 2016 and 100,000 on January 1, 2017. The warrants will vest contingent with the achievement of certain financial performance metrics of the Company for calendar years 2015 and 2016. The calendar year 2014 performance metrics were not met and as such, they did not vest. The calendar year 2015 performance metrics were met.  The foregoing summary of the Flynn Agreement is qualified in its entirety by reference to the full context of the employment agreement which is found as Exhibit 10.2 to our 10-Q filing on May 14, 2014.

Effective January 1, 2016, we entered into a new employment agreement with Mr. Flynn (the "2016 Flynn Agreement") whereupon the Flynn Agreement terminated. The 2016 Flynn Agreement provides that Mr. Flynn will continue his employment as our President and CEO. The 2016 Flynn Agreement has a term of two years, provides for an annual base salary of $300,000, and will automatically renew for subsequent twelve (12) month terms unless either party provides advance written notice to the other that such party does not wish to renew the agreement for a subsequent twelve (12) months.  Mr. Flynn also receives the customary employee benefits available to our employees. Mr. Flynn is also entitled to receive a bonus of up to $180,000 per year, the achievement of which is based on Company performance metrics.  We may terminate Mr. Flynn's employment under the Flynn Agreement without cause at any time on thirty (30) days advance written notice, at which time Mr. Flynn would receive severance pay for twelve months and be fully vested in all options and warrants granted to date.  The foregoing summary of the 2016 Flynn Agreement is qualified in its entirety by reference to the full context of the employment agreement, which is found as Exhibit 10.31 to our Form 10-K filed on March 30, 2016.

Effective January 1, 2014, we entered into an employment agreement with Paul T. Anthony, our Chief Financial Officer ("CFO") since 2004 (the "Anthony Agreement"). The Anthony Agreement provided that Mr. Anthony would continue to serve as our EVP and CFO. The Anthony Agreement had a term of two years and provided for an annual base salary of $225,000. Mr. Anthony was also entitled to receive a bonus of up to $108,000 per year, the achievement of which is based on Company performance metrics.  Further, the Anthony Agreement revised the vesting schedule of warrants granted to Mr. Anthony in January 2013. The revision spreads the vesting date of the remaining 200,000 unvested shares from 100,000 on January 1, 2015 and 100,000 on January 1, 2016 to 66,667 on January 1, 2015, 66,667 on January 1, 2016 and 66,666 on January 1, 2017. The warrants will vest contingent with the achievement of certain financial performance metrics of the Company for calendar years 2015 and 2016. The calendar year 2014 performance metrics were not met and as such, they did not vest. The calendar year 2015 performance metrics were met.  The foregoing summary of the Anthony Agreement is qualified in its entirety by reference to the full context of the employment agreement which is found as Exhibit 10.3 to our 10-Q filing on May 14, 2014.

Effective January 1, 2016, we entered into a new employment agreement with Mr. Anthony (the "2016 Anthony Agreement") whereupon the Anthony Agreement terminated. The 2016 Anthony Agreement provides that Mr. Anthony will continue to serve as our Executive Vice President ("EVP") and CFO. The 2016 Anthony Agreement has a term of two years, and provides for an annual base salary of $245,000. The 2016 Anthony Agreement will automatically renew for subsequent twelve (12) month terms unless either party provides advance written notice to the other that such party does not wish to renew the agreement for a subsequent twelve (12) months.  Mr. Anthony also receives the customary employee benefits available to our employees. Mr. Anthony is also entitled to receive a bonus of up to $132,000 per year, the achievement of which is based on Company performance metrics.  We may terminate Mr. Anthony's employment under the 2016 Anthony Agreement without cause at any time on thirty (30) days advance written notice, at which time Mr. Anthony would receive severance pay for twelve months and be fully vested in all options and warrants granted to date.  The foregoing summary of the 2016 Anthony Agreement is qualified in its entirety by reference to the full context of the employment agreement, which is found as Exhibit 10.32 to our Form 10-K filed on March 30, 2016.

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9.CONCENTRATIONS

Cash Concentrations

At times, cash balances held in financial institutions are in excess of federally insured limits.  Management performs periodic evaluations of the relative credit standing of financial institutions and limits the amount of risk by selecting financial institutions with a strong credit standing.

Major Customers

Our two largest customers accounted for approximately 50% of our revenues for the nine months ended September 30, 2016 and our two largest customers accounted for approximately 35% of our revenues for the nine months ended September 30, 2015. Our largest customers had net accounts receivable totaling approximately $4,000,000 and $2,600,000 as of September 30, 2016 and December 31, 2015 respectively.

10.SEGMENT REPORTING

We operate in one business segment based on our integration and management strategies.

11.ASSET PURCHASE AGREEMENT - REDSPIN

On March 31, 2015, Auxilio entered into an Asset Purchase Agreement (the "Purchase Agreement") with Redspin, Inc., a California corporation ("Redspin"), to acquire substantially all of the assets and certain liabilities of Redspin (the "Acquired Assets").  A copy of the Purchase Agreement was filed as an exhibit to the Current Report on Form 8-K filed with the SEC on April 6, 2015.   On April 7, 2015, the Company completed its acquisition of the Acquired Assets in an asset purchase transaction (the "Transaction") pursuant to the terms and conditions of the Purchase Agreement.

As a result of the consummation of the Purchase Agreement, on April 7, 2015, in consideration for the Acquired Assets, the Company paid Redspin $2,076,966 in cash, less a holdback of $200,000 to cover any indemnification claims made pursuant to the Transaction, and issued 452,284 shares of the Company's restricted common stock, par value $0.001, which was the number of shares having an aggregate value of $500,000, with the price per share equal to the average of the closing price of Auxilio common stock on the OTC Markets for the 20 most recent trading days prior to the date of the Purchase Agreement, rounded up to the nearest whole number of shares. The Company also agreed to pay a cash Earn-out Payment, as defined in the Purchase Agreement, upon the achievement of certain earnings targets in the first year following the date of the Purchase Agreement. Management assigned the fair value of the contingent consideration to be $0 because the earnings targets were not met. No indemnification claims were made prior to June 30, 2016. As such, in July 2016 the Company released the holdback funds to Redspin. The Company reduced the holdback amount paid by $67,811 which represented unrecorded liabilities of Redspin as of the acquisition date.

The Purchase Agreement also provides for the Company to pay employee bonus shares of common stock upon the achievement of the same certain earnings targets and provided they remain with the Company for one year subsequent to the acquisition date. Management previously had considered the $124,000 of fair value of these employee bonus shares to be a component of the acquisition cost.  After completing the analysis of the earn-out provisions, Management has determined that the employee bonus shares would be post-combination compensation. The minimum earnings targets were not achieved. Accordingly, no related stock compensation expense has been recorded for the year ended December 31, 2015 or the nine months ended September 30, 2016.

The allocation of the purchase price of the assets acquired and liabilities assumed based on their fair values was as follows: 

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Acquired technology	$	1,050,000
Customer relationships		600,000
Trademarks		200,000
Non-compete agreements		100,000
Goodwill		1,192,000
Accounts receivable		180,409
Other assets received		19,009
Accounts payable and accrued expenses		(23,196	)
Accrued compensation		(118,009	)
Deferred revenue		(31,247	)
Total	$	3,168,966

Purchased identifiable intangible assets are amortized on a straight-line basis over the respective useful lives. Estimated useful lives of the identifiable intangible assets acquired ranges from three to ten years. We also recognized goodwill of $1,192,000. Goodwill is recognized as we expect to be able to realize synergies between the two companies, primarily our ability to provide market and reach for the Redspin products and services to Auxilio's customers.

The Company incurred approximately $70,000 in legal, accounting and other professional fees related to this acquisition, all of which were expensed during the year ended December 31, 2015.

Employment and Independent Contractor Agreements

In connection with the Purchase Agreement, Auxilio and Daniel Berger ("Berger"), CEO of Redspin, entered into an employment agreement (the "Berger Employment Agreement"), pursuant to which Berger was employed to serve as Executive Vice President of Auxilio.  The initial term of the Berger Employment Agreement is for two years (unless sooner terminated), and automatically renews for subsequent twelve-month periods unless either party determines to not renew.  Berger's base annual salary is $250,000, and Berger is eligible to receive incentive compensation, consistent with that generally offered to executives of the Company.  In addition, Auxilio and John Abraham ("Abraham"), Founder of Redspin, entered into an independent contractor agreement (the "Abraham Agreement"), pursuant to which Abraham was retained to perform the work assigned by the Company.  The term of the Abraham Agreement is for two years (unless sooner terminated).  In consideration for such services, the Company agreed to pay Abraham $11,000 per month.

Pro Forma Information

The following supplemental unaudited pro forma information presents the combined operating results of the Company and the acquired business during the nine months ended September 30, 2016 and 2015, as if the acquisition had occurred at the beginning of each of the periods presented. The pro forma information is based on the historical financial statements of the Company and that of the acquired business. Amounts are not necessarily indicative of the results that may have been attained had the combinations been in effect at the beginning of the periods presented or that may be achieved in the future.

	Nine MonthsEnded September 30,
	2016		2015
Pro forma revenue	$	44,004,091	$	45,888,738
Pro forma net income (loss)	$	1,168,802	$	(353,344	)
Pro forma basic net income (loss) per share	$	0.05	$	(0.01	)
Pro forma diluted net loss per share	$	0.05	$	(0.01	)

ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

The following discussion of the financial condition and results of operations of the Company should be read in conjunction with the condensed consolidated financial statements and the related notes thereto included elsewhere in this Quarterly Report on Form 10-Q.  This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 21E of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), and Section 27A of the Securities Act, and is subject to the safe harbors created by those sections.  Words such as "anticipates," "expects," "intends," "plans," "believes," "seeks," "estimates," "may," "will" and variations of these words or similar expressions are intended to identify forward-looking statements.  In addition, any statements that refer to expectations, projections or other characterizations of future events or circumstances, including any underlying assumptions, are forward-looking statements.  These statements are not guarantees of future performance and are subject to risks, uncertainties and assumptions that are difficult to predict.  Therefore, our actual results could differ materially and adversely from those expressed in any forward-looking statements as a result of various factors.  We undertake no obligation to revise or publicly release the results of any revisions to these forward-looking statements.

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Due to possible uncertainties and risks, readers are cautioned not to place undue reliance on the forward-looking statements contained in this Quarterly Report, which speak only as of the date of this Quarterly Report, or to make predictions about future performance based solely on historical financial performance.  We disclaim any obligation to update forward-looking statements contained in this Quarterly Report.

Readers should carefully review the risk factors described below under the heading "Risk Factors" and in other documents we file from time to time with the SEC, including our Form 10-K for the fiscal year ended December 31, 2015.  Our filings with the SEC, including our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those filings, pursuant to Sections 13(a) and 15(d) of the Exchange Act, are available free of charge at www.auxilioinc.com, when such reports are available via the EDGAR system maintained by the SEC at www.sec.gov.

OVERVIEW

We provide total outsourced document and image management services and related financial and business processes for major healthcare facilities. Our proprietary technologies and unique processes assist hospitals, health plans and health systems with strategic direction and services that reduce document image expenses, increase operational efficiencies and improve the productivity of their staff. Our analysts, consultants and resident hospital teams work with senior hospital financial management and department heads to determine the best possible long term strategy for managing the millions of document images produced by their facilities on an annual basis. Our document image management programs help our clients achieve measurable savings and a fully outsourced document image management process.

Through our acquisitions of Delphiis, Inc. and Redspin, we provide IT Advisory and Managed Services, in addition to IT Risk Management SaaS technology solutions. These services help to ensure enterprise-wide IT security.

Our primary target market includes medium to large hospitals, health plans and healthcare systems.

Our common stock currently trades on the OTCQB under the stock symbol "AUXO".

Where appropriate, references to "Auxilio," the "Company," "we," "us" or "our" include Auxilio, Inc. and its wholly-owned subsidiaries, Auxilio Solutions, Inc., a California corporation, and Delphiis, Inc., also a California corporation.

APPLICATION OF CRITICAL ACCOUNTING POLICIES

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with GAAP.  The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and the related disclosure of contingent assets and liabilities.  We evaluate these estimates on an on-going basis, including those estimates related to customer programs and incentives, bad debts, intangible assets, income taxes, stock-based compensation, contingencies and litigation.  We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances.  The results of these estimates form the basis for our judgments about the carrying values of assets and liabilities which are not readily apparent from other sources.  As a result, actual results may differ from these estimates under different assumptions or conditions.

We consider the following accounting policies to be most important to the portrayal of our financial condition and those that require the most subjective judgment:

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·Revenue recognition and deferred revenue

The Company, operating under a consolidated strategy and management structure, derives its revenue from four sources: (1) managed print services revenue; (2) equipment revenue; (3) software subscriptions and managed services revenue, which is comprised of subscription fees from customers accessing the Company's enterprise cloud computing services and customers purchasing additional ongoing managed services beyond the standard support that is included in the basic software subscription fees; and (4) cyber security professional services revenue such as penetration testing, cyber security risk assessments and security program strategy development.

The Company commences revenue recognition when all of the following conditions are satisfied:

•there is persuasive evidence of an arrangement;

•the service has been or is being provided to the customer;

•the collection of the fees is reasonably assured; and

•the amount of fees to be paid by the customer is fixed or determinable.

Managed Print Services and Equipment Revenue

Revenue is recognized pursuant to ASC Topic 605, "Revenue Recognition" (ASC 605).  Monthly service and supply revenue is earned monthly during the term of the contract, as services and supplies are provided. Revenues from equipment sales transactions are earned when there is persuasive evidence of an arrangement, delivery has occurred, the sales price has been determined and collectability has been reasonably assured. For equipment that is to be placed at a customer's location at a future date, revenue is deferred until the placement of such equipment.

We enter into arrangements that include multiple deliverables, which typically consist of the sale of Multi-Function Device ("MFD") equipment and a support services contract.  We account for each element within an arrangement with multiple deliverables as separate units of accounting.  Revenue is allocated to each unit of accounting under the guidance of ASC Topic 605-25, Multiple-Deliverable Revenue Arrangements, which provides criteria for separating consideration in multiple-deliverable arrangements by establishing a selling price hierarchy for determining the selling price of a deliverable.  The selling price used for each deliverable is based on vendor-specific objective evidence ("VSOE") if available, third-party evidence if VSOE is not available, or estimated selling price if neither VSOE nor third-party evidence is available.  We are required to determine the best estimate of selling price in a manner that is consistent with that used to determine the price to sell the deliverable on a standalone basis.  We generally do not separately sell MFD equipment or service on a standalone basis.  Therefore, we do not have VSOE for the selling price of these units. As we purchase the equipment, we have third-party evidence of the cost of this element.  We estimate the proceeds from the arrangement to allocate to the service unit based on historical cost experiences.  Based on the relative costs of each unit to the overall cost of the arrangement, we utilize the same relative percentage to allocate the total arrangement proceeds.

The Company's contracts with customers may include provisions that relate to guaranteed savings amounts and shared savings. Such provisions are considered by management during the Company's initial proprietary client assessment and are charged and accrued when deemed by management to be probable. The Company's historical settlement of such amounts has been within management's estimates.

Software Subscriptions and Managed Services Revenue

Software subscriptions and managed services revenue are recognized ratably over the contract terms beginning on the commencement date of each contract, which is the date the Company's service is made available to customers.

Amounts that have been invoiced are recorded in accounts receivable and in deferred revenue or revenue, depending on whether the revenue recognition criteria have been met.

The Company's software subscription service arrangements are non-cancelable and do not contain refund-type provisions.

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Cyber Security Professional Service Revenue

The majority of the Company's cyber security services contracts are on a time and material basis. When these services are not combined with subscription revenues as a single unit of accounting, these revenues are recognized as the services are rendered for time and material contracts, and when the milestones are achieved and accepted by the customer for fixed price contracts.

·Accounts receivable valuation and related reserves

We estimate the losses that may result from that portion of our accounts receivable that may not be collectible as a result of the inability of our customers to make required payments. Management specifically analyzes customer concentration, customer credit-worthiness, current economic trends and changes in customer payment terms when evaluating the adequacy of the allowance for doubtful accounts. We review past due accounts on a monthly basis and record an allowance for doubtful accounts where we deem appropriate.

·New customer implementation costs

We ordinarily incur additional costs to implement our services for new customers.  These costs are comprised primarily of additional labor and support.  These costs are expensed as incurred, and have a negative impact on our statements of operations and cash flows during the implementation phase.

·Impairment of goodwill and intangible assets

We assess goodwill for impairment on an annual basis and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount (ASC 350-35-30).  In addition, we assess amortizing intangible assets for recoverability whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable (ASC 360-10-35-21).  During the quarter ended September 30, 2016, management assessed the goodwill and intangible assets of Delphiis and Redspin for impairment and concluded that no impairment charge was required.

·Stock-based compensation

Under the fair value recognition provisions of the authoritative guidance, stock-based compensation cost granted to employees is measured at the grant date based on the fair value of the award and is recognized as expense over the requisite service or performance period, which is the vesting period.  Stock options and warrants issued to consultants and other non-employees as compensation for services to be provided to us are accounted for based upon the fair value of the services provided or the estimated fair value of the option or warrant, whichever can be more clearly determined. We currently use the Black-Scholes option pricing model to determine the fair value of stock options.  The determination of the fair value of stock-based payment awards on the date of grant using an option-pricing model is affected by our stock price as well as assumptions regarding a number of complex and subjective variables.  These variables include our expected stock price volatility over the term of the awards, the expected term of the award, the risk-free interest rate and any expected dividends. Compensation cost associated with grants of restricted stock units are also measured at fair value. We evaluate the assumptions used to value restricted stock units on a quarterly basis. When factors change, including the market price of the stock, share-based compensation expense may differ significantly from what has been recorded in the past. If there are any modifications or cancellations of the underlying unvested securities, we may be required to accelerate, increase or cancel any remaining unearned share-based compensation expense.

·Income taxes

Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial reporting requirements and those imposed under federal and state tax laws.  Deferred taxes are provided for timing differences in the recognition of revenue and expenses for income tax and financial reporting purposes and are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.  The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.  Deferred income tax expense represents the change during the period in the deferred tax assets and liabilities.  The components of the deferred tax assets and liabilities are individually classified as current and non-current based on their characteristics.  Realization of the deferred tax asset is dependent on generating sufficient taxable income in future years.  Deferred tax assets are reduced by a valuation allowance when, in the opinion of management, it is more likely than not that some portion or all of the deferred tax assets will not be realized.

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Reference is made to our Annual Report on Form 10-K for the fiscal year ended December 31, 2015 filed on March 30, 2016 for additional discussion of our critical accounting policies.

RESULTS OF OPERATIONS

For the Three Months Ended September 30, 2016 Compared to the Three Months Ended September 30, 2015

Revenue

Revenue decreased by approximately $1,400,000 to $14,326,382 for the three months ended September 30, 2016, as compared to the same period in 2015.  We added revenue of approximately $1,500,000 from new recurring service revenue contracts. This is offset by reductions of approximately $1,500,000 due to volume reductions at clients and terminated services. Equipment sales for 2016 were approximately $200,000 as compared to approximately $1,600,000 in 2015. Equipment revenues were lower in 2016 due to some delays in copier fleet refresh activities at our customers.

Cost of Revenue

Cost of revenue consists of document imaging equipment, parts, supplies and salaries and expenses of direct labor and indirect support staff.  Cost of revenue decreased by approximately $1,800,000 to $11,082,739 for the three months ended September 30, 2016, as compared to the same period in 2015. We incurred approximately $600,000 less in staffing costs, including contract labor in 2016, while incurring approximately $100,000 more in service, supply and other operational costs. Our equipment costs decreased by approximately $1,200,000 in 2016, as a result of the decrease in equipment revenues from the copier fleet refresh activities.

Gross margin increased to 23% of revenue for the three months ended September 30, 2016 as compared to 18% for the same period in 2015. As our implementations at new customers have slowed and these accounts start to mature, and we are able to effect change in these environments, we experience improvement in margins. Conversely, we expect higher cost of revenues at the start of our engagement with new customers as was the case in 2015. In addition to the costs associated with implementing our services, we absorb our new customers' legacy contracts with third-party vendors. As we implement our programs, we strive to improve upon these legacy contracts and thus reduce costs over the term of the contract. Given the varying expiration dates of these vendor contracts and the amount of savings being specific to each arrangement, we cannot predict our anticipated profit margins as these legacy contracts approach renewal.

Sales and Marketing

Sales and marketing expenses include salaries, commissions and expenses for sales and marketing personnel, travel and entertainment, and other selling and marketing costs. Sales and marketing expenses were $676,871 for the three months ended September 30, 2016, as compared to $712,522 for the same period in 2015. The decrease is primarily attributable to approximately $60,000 less in sales commissions paid in 2016.

General and Administrative

General and administrative expenses include personnel costs for finance, administration, information systems, and general management, as well as facilities expenses, professional fees, legal expenses and other administrative costs. General and administrative expenses increased by approximately $200,000 to $1,786,585 for the three months ended September 30, 2016, as compared to the same period in 2015. The increase in general and administrative expenses is primarily attributed to approximately $50,000 more in rent paid as a result of our move to a larger office in 2016 and approximately $150,000 paid in consulting fees for strategic initiatives.

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Other Income (Expense)

Interest expense for the three months ended September 30, 2016 was $21,714, compared to $31,886 for the same period in 2015. Most of the interest is for a term loan which has a lower remaining balance in 2016.

For the Nine Months Ended September 30, 2016 Compared to the Nine Months Ended September 30, 2015

Revenue

Revenue decreased by approximately $1,200,000 to $44,004,091 for the nine months ended September 30, 2016, as compared to the same period in 2015.  We added revenue of approximately $7,400,000 from new recurring service revenue contracts. This is offset by reductions of approximately $4,000,000 due to volume reductions at clients and terminated services. Equipment sales for 2016 were approximately $1,600,000 as compared to approximately $6,200,000 in 2015. Equipment revenues were lower in 2016 due to some delays in copier fleet refresh activities at customers.

Cost of Revenue

Cost of revenue consists of document imaging equipment, parts, supplies and salaries and expenses of direct labor and indirect support staff.  Cost of revenue decreased by approximately $2,700,000 to $35,359,229 for the nine months ended September 30, 2016, as compared to the same period in 2015. We incurred approximately $500,000 more in additional staffing costs, including contract labor in 2016, and approximately $900,000 in additional service, supply and other operational costs, primarily as a result of our new customer implementation efforts. Our equipment costs decreased by approximately $4,100,000 in 2016, as a result of the decrease in equipment revenues from the copier fleet refresh activities.

Gross margin increased to 20% of revenue for the nine months ended September 30, 2016 as compared to 16% for the same period in 2015. As our implementations at new customers have slowed and these accounts start to mature, and we are able to effect change in these environments, we experience improvement in margins. Conversely, we expect higher cost of revenues at the start of our engagement with new customers as was the case in 2015. In addition to the costs associated with implementing our services, we absorb our new customers' legacy contracts with third-party vendors. As we implement our programs, we strive to improve upon these legacy contracts and thus reduce costs over the term of the contract. Given the varying expiration dates of these vendor contracts and the amount of savings being specific to each arrangement, we cannot predict our anticipated profit margins as these legacy contracts approach renewal.

Sales and Marketing

Sales and marketing expenses include salaries, commissions and expenses for sales and marketing personnel, travel and entertainment, and other selling and marketing costs. Sales and marketing expenses were $2,078,366 for the nine months ended September 30, 2016, as compared to $2,263,410 for the same period in 2015. The decrease is primarily attributable to approximately $150,000 less in sales commissions paid in 2016 along with a reduced marketing spend in 2016.

General and Administrative

General and administrative expenses include personnel costs for finance, administration, information systems, and general management, as well as facilities expenses, professional fees, legal expenses and other administrative costs. General and administrative expenses increased by approximately $300,000 to $5,198,163 for the nine months ended September 30, 2016, as compared to the same period in 2015. The increase in general and administrative expenses is primarily attributed to approximately $150,000 more in rent paid as a result of our move to a larger office in 2016 and approximately $150,000 paid in consulting fees for strategic initiatives.

Other Income (Expense)

Interest expense for the nine months ended September 30, 2016 was $70,968 compared to $100,284 for the same period in 2015.  The decrease is a result of lower outstanding borrowings in 2016.

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Income Tax Expense

Income tax expense for the nine months ended September 30, 2016 was $128,113 compared to $2,400 for the same period in 2015. The increase is due to taxes on a profitable period in 2016, whereas the 2015 amount represents the minimum tax liability due for required state income taxes.

LIQUIDITY AND CAPITAL RESOURCES

At September 30, 2016, our cash and cash equivalents were $5,390,883 and our working capital was $4,361,323.  Our principal cash requirements are for operating expenses, including equipment, supplies, employee costs, and capital expenditures and funding of the operations. Our primary sources of cash are service and equipment sale revenues, our bank line of credit and term loan, the exercise of options and warrants and the sale of common stock.

During the nine months ended September 30, 2016, our cash used for operating activities amounted to $266,889, as compared to $875,372 provided by operating activities for the same period in 2015.  The decrease in cash from operating activities in 2016 is primarily due to a decrease in accounts payable as we have reduced the number of days to validate expense related to vendors of recently implemented clients.

We expect to continue to establish recurring revenue contracts to new customers throughout 2016 and 2017 which we expect to have higher cost of revenues at the start of the engagements with new customers. In addition, we plan to continue our recent strategy to diversify our business into the data security industry. As a result of these two factors, we may seek additional financing, which may include debt and/or equity financing or funding through third party agreements.

In May 2012, we entered into an asset-based line of credit agreement with a financial institution. This facility provides for borrowings up to $2,000,000 not to exceed 80% of eligible receivables. As of September 30, 2016, we have the full availability of this line of credit.  In June 2015, we borrowed $2,000,000 under a four-year term loan agreement. We may seek additional financing; however there can be no assurance that additional financing will be available on acceptable terms, if at all.  Any equity financing may result in dilution to existing stockholders and any debt financing may include restrictive covenants.  Management believes that cash generated from debt and/or equity financing arrangements along with funds from operations will be sufficient to sustain our business operations over the next twelve months. Management believes that cash flows from operations together with cash reserves and our bank line of credit and term loan availability will allow us to complete these transactions without disrupting operations.

OFF-BALANCE SHEET ARRANGEMENTS

Our off-balance sheet arrangements consist primarily of conventional operating leases arising in the normal course of business, as further discussed below under "Contractual Obligations and Contingent Liabilities and Commitments." As of September 30, 2016, we did not have any other relationships with unconsolidated entities or financial partners, such as entities often referred to as structured finance or special purpose entities, which would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.

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CONTRACTUAL OBLIGATIONS AND CONTINGENT LIABILITIES AND COMMITMENTS

As of September 30, 2016, expected future cash payments related to contractual obligations and commercial commitments were as follows:

	Payments Due by Period
	Total		Less than 1 year		1-3 years		3-5 years		More than 5 years
Term loan	$	1,534,844	$	577,813	$	957,031	$	-	$	-
Capital leases		211,527		125,596		80,089		5,842		-
Operating leases		1,908,433		371,774		848,576		688,083		-
Total	$	3,654,804	$	1,075,183	$	1,885,696	$	693,925	$	-

ITEM 3.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

As a "smaller reporting company" as defined by Rule 229.10(f)(1), we are not required to provide the information required by this Item 3.

ITEM 4.CONTROLS AND PROCEDURES.

We maintain disclosure controls and procedures (as defined in Rules 13a-15(c) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the "Exchange Act")) that are designed to ensure that information required to be disclosed in our reports under the Exchange Act, is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.

We carried out an evaluation, under the supervision and with the participation of our management, including our Chief Executive Officer and Chief Financial Officer, of the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act), as of the end of the period covered by this Quarterly Report.  Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this Quarterly Report to ensure that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC's rules and forms, and that such information is accumulated and communicated to our management, including each of such officers as appropriate to allow timely decisions regarding required disclosure.

No change in our internal control over financial reporting that occurred during our last fiscal quarter that has materially affected or is reasonably likely to materially affect our internal control over financial reporting.

PART –II - OTHER INFORMATION

ITEM 1A.RISK FACTORS.

As of the date of this filing, there have been no material changes to the Risk Factors included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2015, filed with the SEC on March 30, 2016. (the "2015 Form 10-K").  The Risk Factors set forth in the 2015 Form 10-K should be read carefully in connection with evaluating our business and in connection with the forward-looking statements contained in this Quarterly Report on Form 10-Q.  Any of the risks described in the 2015 Form 10-K could materially adversely affect our business, financial condition or future results and the actual outcome of matters as to which forward-looking statements are made.  These are not the only risks we face.  Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition and/or operating results.

ITEM 5.OTHER INFORMATION

None

22

ITEM 6.EXHIBITS.

No.	Item
31.1	Certification of the Chief Executive Officer pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended. †
31.2	Certification  of the Chief Financial Officer  pursuant to Rule 13a-14(a) and Rule 15d-14(a) of the Securities Exchange Act of 1934, as amended. †
32.1	Certification of the CEO and CFO pursuant to Rule 13a-14(b) and Rule 15d-14(b) of the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350. +
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*

†Filed herewith.

+Furnished herewith.  In accordance with Item 601(b)(32)(ii) of Regulation S-K, this exhibit shall not be deemed "filed" for the purposes of Section 18 of the Securities and Exchange Act of 1934 or otherwise subject to the liability of that section, nor shall it be deemed incorporated by reference in any filing under the Securities Act of 1933 or the Securities Exchange Act of 1934

* Pursuant to Rule 406T of Regulation S-T, this XBRL information will not be deemed "filed" for the purpose of Section 18 of the Securities Exchange Act of 1934 or otherwise subject to the liability of that section, nor will it be deemed filed or made a part of a registration statement or prospectus for purposes of Sections 11 and 12 of the Securities Act of 1933, or otherwise subject to liability under those sections.

23

SIGNATURES

In accordance with the requirements of the Securities Exchange Act of 1934, the registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

	AUXILIO, INC.
Date:  November 10, 2016	By:  /s/ Joseph J. Flynn
	Joseph J. FlynnChief Executive Officer (Principal Executive Officer)
Date:  November 10, 2016	By: /s/ Paul T. Anthony
	Paul T. AnthonyChief Financial Officer (Principal Accounting Officer)

24

EX-31.1

EXHIBIT 31.1

CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER PURSUANT TO RULE 13A-14(A) AND RULE 15D-14(A) OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED

I, Joseph J. Flynn, certify that:

1.I have reviewed this Quarterly Report on Form 10-Q of Auxilio, Inc. (the "Registrant");

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

(a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

(c)Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d)Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and

5.The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions):

(a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and

(b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.

Dated:  November 10, 2016

/s/ Joseph J. Flynn

Joseph J. Flynn ,

President and Chief Executive Officer

(Principal Executive Officer)

EX-31.2

EXHIBIT 31.2

CERTIFICATION OF THE CHIEF FINANCIAL OFFICER PURSUANT TO RULE 13A-14(A) AND RULE 15D-14(A) OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED

I, Paul T. Anthony, certify that:

1.I have reviewed this Quarterly Report on Form 10-Q of Auxilio, Inc. (the "Registrant");

2.Based on my knowledge, this report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this report;

3.Based on my knowledge, the financial statements, and other financial information included in this report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this report;

4.The registrant's other certifying officer(s) and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the registrant and have:

(a)Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this report is being prepared;

(b)Designed such internal control over financial reporting, or caused such internal control over financial reporting to be designed under our supervision, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles;

(c)Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and

(d)Disclosed in this report any change in the registrant's internal control over financial reporting that occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in the case of an annual report) that has materially affected, or is reasonably likely to materially affect, the registrant's internal control over financial reporting; and

5.The registrant's other certifying officer(s) and I have disclosed, based on our most recent evaluation of internal control over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions):

(a)All significant deficiencies and material weaknesses in the design or operation of internal control over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and

(b)Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal control over financial reporting.

Dated:  November 10, 2016

/s/ Paul T. Anthony

Paul Anthony ,

Chief Financial Officer

(Principal Financial Officer)

EX-32.1

EXHIBIT 32.1

CERTIFICATION OF THE CHIEF EXECUTIVE OFFICER AND CHIEF FINANCIAL OFFICER PURSUANT TO RULE 13A-14(B) AND RULE 15D-14(B) OF THE SECURITIES EXCHANGE ACT OF 1934 AND 18 U.S.C. SECTION 1350

In connection with the Quarterly Report of Auxilio, Inc. (the "Company") on Form 10-Q for the quarter ended September 30, 2016 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), we, Joseph J. Flynn, Chief Executive Officer and Paul T. Anthony, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that to the best of our knowledge:

(1)The Report fully complies with the requirements of section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended; and

(2)The information contained in the Report fairly presents, in all material respects, the financial condition of the Company as of the dates presented and the results of operations of the Company for the periods presented.

Date:  November 10, 2016

By:	/s/ Joseph J. Flynn
	Joseph Flynn,President and Chief Executive Officer
By:	/s/ Paul T. Anthony
	Paul Anthony,Chief Financial Officer

A signed original of this written statement required by section 906 has been provided to the Company and will be retained by the Company and furnished to the Securities and Exchange Commission or its staff upon request.

This certification accompanies the Quarterly Report pursuant to Rule 13a-14(b) or Rule 15d-14(b) under the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350 and shall not be deemed filed by the Company for purposes of Section 18 of the Securities Exchange Act of 1934.

XML

Document and Entity Information - shares	9 Months Ended
	Sep. 30, 2016	Nov. 07, 2016
Document and Entity Information
Entity Registrant Name	AUXILIO INC
Document Type	10-Q
Document Period End Date	Sep. 30, 2016
Amendment Flag	false
Entity Central Index Key	0001011432
Current Fiscal Year End Date	--12-31
Entity Common Stock, Shares Outstanding		24,557,224
Entity Filer Category	Smaller Reporting Company
Entity Current Reporting Status	Yes
Entity Voluntary Filers	No
Entity Well-known Seasoned Issuer	No
Document Fiscal Year Focus	2016
Document Fiscal Period Focus	Q3
Trading Symbol	auxo

XML

CONDENSED CONSOLIDATED BALANCE SHEETS - USD ($)	Sep. 30, 2016	Dec. 31, 2015
Current assets:
Cash and cash equivalents	$ 5,390,883	$ 6,436,732
Accounts receivable, net	7,286,119	7,397,957
Supplies	1,115,038	1,458,609
Prepaid and other current assets	284,119	625,806
Total current assets	14,076,159	15,919,104
Property and equipment, net	758,647	495,324
Deposits	41,522	58,118
Intangible assets, net	2,325,000	2,731,250
Goodwill	3,665,656	3,665,656
Total assets	20,866,984	22,869,452
Current liabilities:
Accounts payable and accrued expenses	6,045,537	8,306,860
Accrued compensation and benefits	2,560,889	2,856,165
Deferred revenue	494,686	913,677
Current portion of long-term liabilities	613,724	598,750
Total current liabilities	9,714,836	12,675,452
Long-term liabilities:
Term loan, less current portion	875,000	1,250,000
Capital lease obligations less current portion	79,248	125,496
Total long-term liabilities	954,248	1,375,496
Commitments and contingencies
Stockholders' equity:
Common stock, par value at $0.001, 33,333,333 shares authorized, 24,557,224 and 24,452,085 shares issued and outstanding at September 30, 2016 and December 31, 2015, respectively	24,559	24,453
Additional paid-in capital	27,892,549	27,682,061
Accumulated deficit	(17,719,208)	(18,888,010)
Total stockholders' equity	10,197,900	8,818,504
Total liabilities and stockholders' equity	$ 20,866,984	$ 22,869,452

XML

CONDENSED CONSOLIDATED BALANCE SHEETS (Parenthetical) - $ / shares	Sep. 30, 2016	Dec. 31, 2015
Statement of Financial Position
Common Stock, par or stated value	$ 0.001	$ 0.001
Common Stock, shares authorized	33,333,333	33,333,333
Common Stock, shares issued	24,557,224	24,452,085
Common Stock, shares outstanding	24,557,224	24,452,085

XML

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS - USD ($)	3 Months Ended		9 Months Ended
	Sep. 30, 2016	Sep. 30, 2015	Sep. 30, 2016	Sep. 30, 2015
Income Statement
Revenues	$ 14,326,382	$ 15,725,616	$ 44,004,091	$ 45,190,062
Cost of revenues	11,082,739	12,853,601	35,359,229	38,069,271
Gross profit	3,243,643	2,872,015	8,644,862	7,120,791
Operating expenses:
Sales and marketing	676,871	712,522	2,078,366	2,263,410
General and administrative expenses	1,786,585	1,597,793	5,198,613	4,907,162
Total operating expenses	2,463,456	2,310,315	7,276,979	7,170,572
Income (loss) from operations	780,187	561,700	1,367,883	(49,781)
Other income (expense):
Interest expense	(21,714)	(31,886)	(70,968)	(100,284)
Total other income (expense)	(21,714)	(31,886)	(70,968)	(100,284)
Income (loss) before provision for income taxes	758,473	529,814	1,296,915	(150,065)
Income tax expense	(84,113)		(128,113)	(2,400)
Net income (loss)	$ 674,360	$ 529,814	$ 1,168,802	$ (152,465)
Net income (loss) per share:
Basic	$ 0.03	$ 0.02	$ 0.05	$ (0.01)
Diluted	$ 0.03	$ 0.02	$ 0.05	$ (0.01)
Number of weighted average shares:
Basic	24,557,224	24,274,815	24,506,934	24,050,960
Diluted	24,816,608	24,983,982	24,862,991	24,050,960

XML

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY - 9 months ended Sep. 30, 2016 - USD ($)	Common Stock	Additional Paid-in Capital	Accumulated Deficit	Total
Equity Balance, beginning of period, Value at Dec. 31, 2015	$ 24,453	$ 27,682,061	$ (18,888,010)	$ 8,818,504
Equity Balance, beginning of period, Shares at Dec. 31, 2015	24,452,085
Stock compensation expense for options and warrants granted to employees and directors		150,443		150,443
Stock options and warrants exercised, Value	$ 106	60,045		$ 60,151
Stock options and warrants exercised, Shares	105,139			0
Net income			1,168,802	$ 1,168,802
Equity Balance, end of period, Value at Sep. 30, 2016	$ 24,559	$ 27,892,549	$ (17,719,208)	$ 10,197,900
Equity Balance, end of period, Shares at Sep. 30, 2016	24,557,224

XML

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS - USD ($)	9 Months Ended
	Sep. 30, 2016	Sep. 30, 2015
Cash flows from operating activities:
Net income (loss)	$ 1,168,802	$ (152,465)
Adjustments to reconcile net income (loss) to net cash (used for) provided by operating activities:
Depreciation	169,514	110,963
Amortization of intangible assets	406,250	340,000
Stock compensation expense for warrants and options issued to employees and directors	150,443	232,403
Stock compensation expense for contingent earn-out stock to be issued to employees		62,000
Stock compensation expense for restricted stock issued to key employee		101,881
Interest expense related to accretion of debt discount costs		30,189
Changes in operating assets and liabilities:
Accounts receivable, net	111,838	3,201
Supplies	343,571	(377,628)
Prepaid and other current assets	341,687	(578,630)
Deposits	16,596	(71,420)
Accounts payable and accrued expenses	(2,261,323)	455,133
Accrued compensation and benefits	(295,276)	771,490
Deferred revenue	(418,991)	(51,745)
Net cash (used for) provided by operating activities	(266,889)	875,372
Cash flows from investing activities:
Purchases of property and equipment	(379,873)	(12,010)
Payment for purchase of Redspin		(1,876,966)
Net cash used for investing activities	(379,873)	(1,888,976)
Cash flows from financing activities:
Net repayments on line of credit agreement		(200,000)
Proceeds from term loan		2,000,000
Payments on term loan	(375,000)	(125,000)
Proceeds from issuance of common stock through warrants	60,151
Payments on notes payable to related party		(105,888)
Payments on capital leases	(84,238)	(77,984)
Net cash (used for) provided by financing activities	(399,087)	1,491,128
Net (decrease) increase in cash and cash equivalents	(1,045,849)	477,524
Cash and cash equivalents, beginning of period	6,436,732	4,743,395
Cash and cash equivalents, end of period	5,390,883	5,220,919
Supplemental disclosure of cash flow information:
Interest paid	70,968	70,095
Income taxes paid	96,740	141,850
Non-cash investing and financing activities:
Property and equipment acquired through capital leases	$ 52,964	223,795
Conversion of note payable to related party		257,835
Common stock issued in connection with the acquisition of Redspin		$ 469,000

XML

1. Basis of Presentation

9 Months Ended

Sep. 30, 2016

Notes

1. Basis of Presentation

1. BASIS OF PRESENTATION

The accompanying unaudited condensed consolidated financial statements of Auxilio, Inc. and its subsidiaries (the "Company", "we", "us" or "Auxilio") have been prepared in accordance with generally accepted accounting principles of the United States of America ("GAAP") for interim financial statements pursuant to the rules and regulations of the Securities and Exchange Commission.  Accordingly, these financial statements do not include all of the information and notes required by GAAP for complete financial statements.  These condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2015, as filed with the Securities and Exchange Commission ("SEC") on March 30, 2016.

The unaudited condensed consolidated financial statements included herein reflect all adjustments (which include only normal, recurring adjustments) that are, in the opinion of management, necessary to state fairly our financial position and results of operations as of and for the periods presented.  The results for such periods are not necessarily indicative of the results to be expected for the full year.

The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  As a result, actual results could differ from those estimates.

The accompanying financial statements include the accounts of Auxilio and its wholly-owned subsidiaries.  All intercompany balances and transactions have been eliminated.

We have performed an evaluation of subsequent events through the date of filing of our Form 10-Q with the SEC.

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2. Recently Issued Accounting Pronouncements

9 Months Ended

Sep. 30, 2016

Notes

2. Recently Issued Accounting Pronouncements

2. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS

In May 2014, the FASB issued guidance which provides a single, comprehensive accounting model for revenue arising from contracts with customers. This guidance supersedes most of the existing revenue recognition guidance, including industry-specific guidance. Under this model, revenue is recognized at an amount that a company expects to be entitled to upon transferring control of goods or services to a customer, as opposed to when risks and rewards transfer to a customer. The new guidance also requires additional disclosures about the nature, timing and uncertainty of revenue and cash flow arising from customer contracts, including significant judgments and changes in judgments. Considering the one-year delay in the required adoption date for the guidance as issued in July 2015, the new guidance is effective for us beginning in 2018 and may be applied retrospectively to all prior periods presented or through a cumulative adjustment to the opening retained earnings balance in the year of adoption. We are currently evaluating our existing revenue recognition policies to determine the types of contracts that are within the scope of this guidance and the impact the adoption of this standard may have on our consolidated financial statements. We have not yet determined if we will apply the full retrospective or the modified retrospective method.

In April 2015 and August 2015, the FASB issued guidance which requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of that debt liability consistent with the presentation of debt discounts, however debt issuance costs related to revolving credit agreements may be presented in the balance sheet as an asset. This guidance was effective for us in the first quarter of 2016.

In November 2015, the FASB issued guidance related to the presentation of deferred income taxes. The guidance requires that deferred tax assets and liabilities be classified as non-current in a consolidated balance sheet. This guidance is effective for us in the first quarter of 2017 and is not expected to materially impact our financial position or net earnings.

In February 2016, the FASB issued a new accounting standard on leasing. The new standard will require companies to record most leased assets and liabilities on the balance sheet, and also utilizes a dual model for recognizing expense. This guidance will be effective in the first quarter of 2019 with early adoption permitted. We are evaluating the impact that adopting this guidance will have on our consolidated financial statements.

In March 2016, the FASB issued ASU No. 2016-09, "Improvements to Employee Share-Based Payment Accounting." This ASU simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, forfeitures, classification of awards as either equity or liabilities, and classification on the statement of cash flows. The guidance is effective for annual reporting periods beginning after December 15, 2016, including interim periods. Early adoption is permitted. An entity that elects early adoption of the amendment under this ASU must adopt all aspects of the amendment in the same period. We are currently evaluating the impact this guidance will have on our consolidated financial statements.

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3. Options and Warrants

9 Months Ended

Sep. 30, 2016

Notes

3. Options and Warrants

3. OPTIONS AND WARRANTS

Below is a summary of stock option and warrant activity during the nine-month period ended September 30, 2016:

Options	Shares	Weighted Average Exercise Price	Weighted Average Remaining Term in Years	Aggregate Intrinsic Value
Outstanding at December 31, 2015	4,563,555	$1.00
Granted	647,500	0.96
Exercised	-	-
Cancelled	(794,118)	1.17
Outstanding at September 30, 2016	4,416,937	$0.96	4.60	$274,890
Exercisable at September 30, 2016	3,587,683	$0.95	4.60	$270,940

During the nine months ended September 30, 2016, we granted a total of 647,500 options to our employees and directors to purchase shares of our common stock at an exercise price range of $0.80 to $1.02 per share. The exercise price equals the fair value of our stock on the grant date.  The options have graded vesting annually over three years.  The fair value of the options was determined using the Black-Scholes option-pricing model.  The assumptions used to calculate the fair market value are as follows: (i) risk-free interest rate range of 0.08% to 0.40%; (ii) estimated volatility range of 45.95% to 46.29%; (iii) dividend yield of 0.0%; and (iv) expected life of the options of three years.

Warrants	Shares	Weighted Average Exercise Price	Weighted Average Remaining Term in Years	Aggregate Intrinsic Value
Outstanding at December 31, 2015	1,975,231	$1.21
Granted	-	-
Exercised	(105,139)	0.60
Cancelled	(891,328)	1.27
Outstanding at September 30, 2016	978,764	$1.05	5.78	$-
Exercisable at September 30, 2016	745,432	$1.06	5.61	$-

For the three and nine months ended September 30, 2016 and 2015, stock-based compensation expense recognized in the consolidated statements of operations as follows:

	Three Months Ended September 30,		Nine months Ended September 30,
	2016	2015	2016	2015
Cost of revenues	$9,620	$70,396	$33,535	$127,953
Sales and marketing	6,927	8,319	23,529	25,885
General and administrative expense	31,704	30,955	93,379	180,446
Total stock based compensation expense	$48,251	$109,670	$150,443	$334,284

In 2015, we also recognized stock-based compensation of $62,000 in connection with the acquisition of Redspin (Note 11)

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4. Net Income (loss) Per Share

9 Months Ended

Sep. 30, 2016

Notes

4. Net Income (loss) Per Share

4. NET INCOME (LOSS) PER SHARE

Basic net income (loss) per share is calculated using the weighted average number of shares of our common stock issued and outstanding during a certain period, and is calculated by dividing net income (loss) by the weighted average number of shares of our common stock issued and outstanding during such period. Diluted net income (loss) per share is calculated using the weighted average number of common and potentially dilutive common shares outstanding during the period, using the as-if converted method for secured convertible notes, and the treasury stock method for options and warrants. Diluted net income (loss) per share does not include potentially dilutive securities because such inclusion in the computation would be anti-dilutive.

For the three months ended September 30, 2016, potentially dilutive securities consisted of options and warrants to purchase 5,395,701 shares of common stock at prices ranging from $0.30 to $2.15 per share. Of these potentially dilutive securities, only 259,384 of the shares to purchase common stock from the options and warrants are included in the computation of diluted earnings per share as their effect would be anti-dilutive.

For the nine months ended September 30, 2016, potentially dilutive securities consisted of options and warrants to purchase 5,395,701 shares of common stock at prices ranging from $0.30 to $2.15 per share. Of these potentially dilutive securities, only 356,057 of the shares to purchase common stock from the options and warrants are included in the computation of diluted earnings per share as their effect would be anti-dilutive.

For the three months ended September 30, 2015, potentially dilutive securities consisted of options and warrants to purchase 6,529,786 shares of common stock at prices ranging from $0.30 to $2.15 per share. Of these potentially dilutive securities, only 709,167 of the shares to purchase common stock from the options and warrants are included in the computation of diluted earnings per share as their effect would be anti-dilutive.

For the nine months ended September 30, 2015, potentially dilutive securities consisted of options and warrants to purchase 6,529,786 shares of common stock at prices ranging from $0.30 to $2.15 per share. For the nine months ended September 30, 2015, of these potentially dilutive securities, none of the shares to purchase common stock from the options and warrants are included from the computation of diluted earnings per share as their effect would be anti-dilutive.

	Three Months Ended September 30,		Nine Months Ended September 30,
	2016	2015	2016	2015
Numerator:
Net income (loss)	$674,360	$529,814	$1,168,802	$(152,465)
Denominator:
Denominator for basic calculation weighted average shares	24,557,224	24,274,815	24,506,934	24,050,960
Dilutive common stock equivalents:
Options and warrants	259,384	709,167	356,057	-
Denominator for diluted calculation weighted average shares	24,816,608	24,983,982	24,862,991	24,050,960
Net loss per share:
Basic net income (loss) per share	$.03	$.02	$.05	$(.01)
Diluted net income (loss) per share	$.03	$.02	$.05	$(.01)

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5. Accounts Receivable

9 Months Ended

Sep. 30, 2016

Notes

5. Accounts Receivable

5. ACCOUNTS RECEIVABLE

A summary of accounts receivable is as follows:

	September 30, 2016	December 31, 2015
Trade receivables	$6,293,565	$7,458,022
Unapplied advances and unbilled revenue, net	992,554	(60,065)
Allowance for doubtful accounts	-	-
Total accounts receivable	$7,286,119	$7,397,957

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6. Intangible Assets

9 Months Ended

Sep. 30, 2016

Notes

6. Intangible Assets

6. INTANGIBLE ASSETS

Intangible assets are amortized over expected useful lives ranging from 1.5 to 10 years and consist of the following:

	September 30, 2016		December 31, 2015
	Gross Carrying Amount	Accumulated Amortization	Gross Carrying Amount	Accumulated Amortization
Delphiis, Inc.
Acquired technology	$900,000	$(202,500)	$900,000	$(135,000)
Customer relationships	400,000	(180,000)	400,000	(120,000)
Trademarks	50,000	(50,000)	50,000	(50,000)
Non-compete agreements	20,000	(15,000)	20,000	(10,000)
Total intangible assets, Delphiis, Inc.	$1,370,000	$(447,500)	$1,370,000	$(315,000)
Redspin
Acquired technology	$1,050,000	$(157,500)	$1,050,000	$(78,750)
Customer relationships	600,000	(300,000)	600,000	(150,000)
Trademarks	200,000	(60,000)	200,000	(30,000)
Non-compete agreements	100,000	(30,000)	100,000	(15,000)
Total intangible assets, Redspin	$1,950,000	$(547,500)	$1,950,000	$(273,750)
Total intangible assets	$3,320,000	$(995,000)	$3,320,000	$(588,750)

We assess goodwill for impairment on an annual basis and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount (ASC 350-35-30).  In addition, we assess amortizing intangible assets for recoverability whenever events or changes in circumstances indicate that their carrying amounts may not be recoverable (ASC 360-10-35-21).  During the quarter ended September 30, 2016, management assessed the goodwill and intangible assets of Delphiis and Redspin for impairment and concluded that no impairment charge was required.

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7. Line of Credit and Term Loan

9 Months Ended

Sep. 30, 2016

Notes

7. Line of Credit and Term Loan

7. LINE OF CREDIT AND TERM LOAN

On May 4, 2012, we entered into a Loan and Security Agreement (the "Loan and Security Agreement") with Avidbank Corporate Finance, a Division of Avidbank ("Avidbank").  On April 26, 2013, we amended the Loan and Security Agreement with Avidbank. On April 25, 2014, we again amended the Loan and Security Agreement with Avidbank (the "Second Avidbank Amendment"). Under the Second Avidbank Amendment, the term of the revolving line-of-credit of up to $2.0 million was extended through April 25, 2015, at an interest rate of prime plus 1.0% per annum. This line of credit was further extended through June 25, 2015 under the third amendment to the Loan and Security Agreement. On June 19, 2015, we again amended the Loan and Security Agreement with Avidbank (the "Fourth Avidbank Amendment"). Under the Fourth Avidbank Amendment, the term of the revolving line-of-credit of up to $2.0 million was extended through June 19, 2017, at an interest rate of prime plus 0.75% per annum.  As of September 30, 2016, the interest rate was 4.25%.  There will be no minimum interest payable with respect to any calendar quarter. The amount available to us at any given time is the lesser of (a) $2.0 million, or (b) the amount available under our borrowing base (80% of our eligible accounts, minus (1) accrued client lease payables, and minus (2) accrued equipment pool liability). As of September 30, 2016 and December 31, 2015, no amounts were outstanding under the line of credit.

The Fourth Avidbank Amendment also provided for a term loan facility which allowed for advances up to $4,000,000 through June 19, 2016. We made only one draw of $2,000,000 in June 2015. Term loan repayments shall be in 48 equal installments of principal, plus accrued interest at an interest rate of prime plus 1.25% per annum. As of September 30, 2016, outstanding borrowings under the term loan are $1,500,000, of which $500,000 is due within one year. The interest rate is 4.75% as of September 30, 2016.

While there are outstanding credit extensions, we are to maintain a liquidity ratio of cash plus accounts receivable divided by all obligations owing to the bank of at least 1.75 to 1.00, measured monthly, and a debt coverage ratio, whereby adjusted EBITDA for the most recent twelve months shall be no less than 1.50 to 1.00 of the sum of the annual principal payments to come due in respect of the term loan advances plus the annualized interest expense of the quarter ending on the measurement date. We were in compliance with all of the Avidbank agreement covenants as of September 30, 2016 and December 31, 2015.

The foregoing description is qualified in its entirety by reference to the Fourth Amendment to the Loan and Security Agreement between Avidbank Corporate Finance and Auxilio, Inc., which is found as Exhibit 10.1 of our form 10-Q filed on August 14, 2015.

In connection with our entry into the Loan and Security Agreement, we granted Avidbank (a) a general, first-priority security interest in all of our assets, equipment and inventory, and (b) a security interest in all of our intellectual property under an Intellectual Property Security Agreement.  As additional consideration for the Loan and Security Agreement, we issued Avidbank a 5-year warrant to purchase up to 72,098 shares of our common stock at an exercise price of $1.39 per share.  The foregoing descriptions are qualified in their entirety by reference to the respective agreements.  These agreements are found in our Form 8-K filed on May 9, 2012 as Exhibits 10.1, 10.2, 10.3 and 10.4.

Interest charges associated with the Avidbank line of credit, including loan origination costs, totaled $0 and $16,347 respectively, for the nine months ended September 30, 2016 and 2015, respectively. Interest charges associated with the Avidbank term loan, including loan origination costs, totaled $57,224 and $38,120 for the nine months ended September 30, 2016 and 2015, respectively.

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8. Employment Agreements

9 Months Ended

Sep. 30, 2016

Notes

8. Employment Agreements

8. EMPLOYMENT AGREEMENTS

Effective January 1, 2014, we entered into an employment agreement with Joseph J. Flynn, our President and Chief Executive Officer ("CEO") since 2009 (the "Flynn Agreement"). The Flynn Agreement provided that Mr. Flynn would continue his employment as our President and CEO. The Flynn Agreement had a term of two years and provided for an annual base salary of $275,000.  Mr. Flynn was also entitled to receive a bonus of up to $150,000 per year, the achievement of which was based on Company performance metrics. Further, the Flynn Agreement revised the vesting schedule of warrants granted to Mr. Flynn in January 2013. The revision spreads the vesting date of the remaining 300,000 unvested shares from 150,000 on January 1, 2015 and 150,000 on January 1, 2016 to 100,000 on January 1, 2015, 100,000 on January 1, 2016 and 100,000 on January 1, 2017. The warrants will vest contingent with the achievement of certain financial performance metrics of the Company for calendar years 2015 and 2016. The calendar year 2014 performance metrics were not met and as such, they did not vest. The calendar year 2015 performance metrics were met.  The foregoing summary of the Flynn Agreement is qualified in its entirety by reference to the full context of the employment agreement which is found as Exhibit 10.2 to our 10-Q filing on May 14, 2014.

Effective January 1, 2016, we entered into a new employment agreement with Mr. Flynn (the "2016 Flynn Agreement") whereupon the Flynn Agreement terminated. The 2016 Flynn Agreement provides that Mr. Flynn will continue his employment as our President and CEO. The 2016 Flynn Agreement has a term of two years, provides for an annual base salary of $300,000, and will automatically renew for subsequent twelve (12) month terms unless either party provides advance written notice to the other that such party does not wish to renew the agreement for a subsequent twelve (12) months.  Mr. Flynn also receives the customary employee benefits available to our employees. Mr. Flynn is also entitled to receive a bonus of up to $180,000 per year, the achievement of which is based on Company performance metrics.  We may terminate Mr. Flynn's employment under the Flynn Agreement without cause at any time on thirty (30) days advance written notice, at which time Mr. Flynn would receive severance pay for twelve months and be fully vested in all options and warrants granted to date.  The foregoing summary of the 2016 Flynn Agreement is qualified in its entirety by reference to the full context of the employment agreement, which is found as Exhibit 10.31 to our Form 10-K filed on March 30, 2016.

Effective January 1, 2014, we entered into an employment agreement with Paul T. Anthony, our Chief Financial Officer ("CFO") since 2004 (the "Anthony Agreement"). The Anthony Agreement provided that Mr. Anthony would continue to serve as our EVP and CFO. The Anthony Agreement had a term of two years and provided for an annual base salary of $225,000. Mr. Anthony was also entitled to receive a bonus of up to $108,000 per year, the achievement of which is based on Company performance metrics.  Further, the Anthony Agreement revised the vesting schedule of warrants granted to Mr. Anthony in January 2013. The revision spreads the vesting date of the remaining 200,000 unvested shares from 100,000 on January 1, 2015 and 100,000 on January 1, 2016 to 66,667 on January 1, 2015, 66,667 on January 1, 2016 and 66,666 on January 1, 2017. The warrants will vest contingent with the achievement of certain financial performance metrics of the Company for calendar years 2015 and 2016. The calendar year 2014 performance metrics were not met and as such, they did not vest. The calendar year 2015 performance metrics were met.  The foregoing summary of the Anthony Agreement is qualified in its entirety by reference to the full context of the employment agreement which is found as Exhibit 10.3 to our 10-Q filing on May 14, 2014.

Effective January 1, 2016, we entered into a new employment agreement with Mr. Anthony (the "2016 Anthony Agreement") whereupon the Anthony Agreement terminated. The 2016 Anthony Agreement provides that Mr. Anthony will continue to serve as our Executive Vice President ("EVP") and CFO. The 2016 Anthony Agreement has a term of two years, and provides for an annual base salary of $245,000. The 2016 Anthony Agreement will automatically renew for subsequent twelve (12) month terms unless either party provides advance written notice to the other that such party does not wish to renew the agreement for a subsequent twelve (12) months.  Mr. Anthony also receives the customary employee benefits available to our employees. Mr. Anthony is also entitled to receive a bonus of up to $132,000 per year, the achievement of which is based on Company performance metrics.  We may terminate Mr. Anthony's employment under the 2016 Anthony Agreement without cause at any time on thirty (30) days advance written notice, at which time Mr. Anthony would receive severance pay for twelve months and be fully vested in all options and warrants granted to date.  The foregoing summary of the 2016 Anthony Agreement is qualified in its entirety by reference to the full context of the employment agreement, which is found as Exhibit 10.32 to our Form 10-K filed on March 30, 2016.

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9. Concentrations

9 Months Ended

Sep. 30, 2016

Notes

9. Concentrations

9. CONCENTRATIONS

Cash Concentrations

At times, cash balances held in financial institutions are in excess of federally insured limits.  Management performs periodic evaluations of the relative credit standing of financial institutions and limits the amount of risk by selecting financial institutions with a strong credit standing.

Major Customers

Our two largest customers accounted for approximately 50% of our revenues for the nine months ended September 30, 2016 and our two largest customers accounted for approximately 35% of our revenues for the nine months ended September 30, 2015. Our largest customers had net accounts receivable totaling approximately $4,000,000 and $2,600,000 as of September 30, 2016 and December 31, 2015 respectively.

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10. Segment Reporting

9 Months Ended

Sep. 30, 2016

Notes

10. Segment Reporting

10. SEGMENT REPORTING

We operate in one business segment based on our integration and management strategies.

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11. Asset Purchase Agreement - Redspin

9 Months Ended

Sep. 30, 2016

Notes

11. Asset Purchase Agreement - Redspin

11. ASSET PURCHASE AGREEMENT - REDSPIN

On March 31, 2015, Auxilio entered into an Asset Purchase Agreement (the "Purchase Agreement") with Redspin, Inc., a California corporation ("Redspin"), to acquire substantially all of the assets and certain liabilities of Redspin (the "Acquired Assets").  A copy of the Purchase Agreement was filed as an exhibit to the Current Report on Form 8-K filed with the SEC on April 6, 2015.   On April 7, 2015, the Company completed its acquisition of the Acquired Assets in an asset purchase transaction (the "Transaction") pursuant to the terms and conditions of the Purchase Agreement.

As a result of the consummation of the Purchase Agreement, on April 7, 2015, in consideration for the Acquired Assets, the Company paid Redspin $2,076,966 in cash, less a holdback of $200,000 to cover any indemnification claims made pursuant to the Transaction, and issued 452,284 shares of the Company's restricted common stock, par value $0.001, which was the number of shares having an aggregate value of $500,000, with the price per share equal to the average of the closing price of Auxilio common stock on the OTC Markets for the 20 most recent trading days prior to the date of the Purchase Agreement, rounded up to the nearest whole number of shares. The Company also agreed to pay a cash Earn-out Payment, as defined in the Purchase Agreement, upon the achievement of certain earnings targets in the first year following the date of the Purchase Agreement. Management assigned the fair value of the contingent consideration to be $0 because the earnings targets were not met. No indemnification claims were made prior to June 30, 2016. As such, in July 2016 the Company released the holdback funds to Redspin. The Company reduced the holdback amount paid by $67,811 which represented unrecorded liabilities of Redspin as of the acquisition date.

The Purchase Agreement also provides for the Company to pay employee bonus shares of common stock upon the achievement of the same certain earnings targets and provided they remain with the Company for one year subsequent to the acquisition date. Management previously had considered the $124,000 of fair value of these employee bonus shares to be a component of the acquisition cost.  After completing the analysis of the earn-out provisions, Management has determined that the employee bonus shares would be post-combination compensation. The minimum earnings targets were not achieved. Accordingly, no related stock compensation expense has been recorded for the year ended December 31, 2015 or the nine months ended September 30, 2016.

The allocation of the purchase price of the assets acquired and liabilities assumed based on their fair values was as follows: 

Acquired technology	$1,050,000
Customer relationships	600,000
Trademarks	200,000
Non-compete agreements	100,000
Goodwill	1,192,000
Accounts receivable	180,409
Other assets received	19,009
Accounts payable and accrued expenses	(23,196)
Accrued compensation	(118,009)
Deferred revenue	(31,247)
Total	$3,168,966

Purchased identifiable intangible assets are amortized on a straight-line basis over the respective useful lives. Estimated useful lives of the identifiable intangible assets acquired ranges from three to ten years. We also recognized goodwill of $1,192,000. Goodwill is recognized as we expect to be able to realize synergies between the two companies, primarily our ability to provide market and reach for the Redspin products and services to Auxilio's customers.

The Company incurred approximately $70,000 in legal, accounting and other professional fees related to this acquisition, all of which were expensed during the year ended December 31, 2015.

Employment and Independent Contractor Agreements

In connection with the Purchase Agreement, Auxilio and Daniel Berger ("Berger"), CEO of Redspin, entered into an employment agreement (the "Berger Employment Agreement"), pursuant to which Berger was employed to serve as Executive Vice President of Auxilio.  The initial term of the Berger Employment Agreement is for two years (unless sooner terminated), and automatically renews for subsequent twelve-month periods unless either party determines to not renew.  Berger's base annual salary is $250,000, and Berger is eligible to receive incentive compensation, consistent with that generally offered to executives of the Company.  In addition, Auxilio and John Abraham ("Abraham"), Founder of Redspin, entered into an independent contractor agreement (the "Abraham Agreement"), pursuant to which Abraham was retained to perform the work assigned by the Company.  The term of the Abraham Agreement is for two years (unless sooner terminated).  In consideration for such services, the Company agreed to pay Abraham $11,000 per month.

Pro Forma Information

The following supplemental unaudited pro forma information presents the combined operating results of the Company and the acquired business during the nine months ended September 30, 2016 and 2015, as if the acquisition had occurred at the beginning of each of the periods presented. The pro forma information is based on the historical financial statements of the Company and that of the acquired business. Amounts are not necessarily indicative of the results that may have been attained had the combinations been in effect at the beginning of the periods presented or that may be achieved in the future.

	Nine Months Ended September 30,
	2016	2015
Pro forma revenue	$44,004,091	$45,888,738
Pro forma net income (loss)	$1,168,802	$(353,344)
Pro forma basic net income (loss) per share	$0.05	$(0.01)
Pro forma diluted net loss per share	$0.05	$(0.01)

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3. Options and Warrants: Schedule of Stock Options, Activity (Tables)

9 Months Ended

Sep. 30, 2016

Tables/Schedules

Schedule of Stock Options, Activity

Below is a summary of stock option and warrant activity during the nine-month period ended September 30, 2016:

Options	Shares	Weighted Average Exercise Price	Weighted Average Remaining Term in Years	Aggregate Intrinsic Value
Outstanding at December 31, 2015	4,563,555	$1.00
Granted	647,500	0.96
Exercised	-	-
Cancelled	(794,118)	1.17
Outstanding at September 30, 2016	4,416,937	$0.96	4.60	$274,890
Exercisable at September 30, 2016	3,587,683	$0.95	4.60	$270,940

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3. Options and Warrants: Schedule of Warrants, Activity (Tables)

9 Months Ended

Sep. 30, 2016

Tables/Schedules

Schedule of Warrants, Activity

Warrants	Shares	Weighted Average Exercise Price	Weighted Average Remaining Term in Years	Aggregate Intrinsic Value
Outstanding at December 31, 2015	1,975,231	$1.21
Granted	-	-
Exercised	(105,139)	0.60
Cancelled	(891,328)	1.27
Outstanding at September 30, 2016	978,764	$1.05	5.78	$-
Exercisable at September 30, 2016	745,432	$1.06	5.61	$-

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3. Options and Warrants: Schedule of Stock-Based Compensation Exprense Allocation (Tables)

9 Months Ended

Sep. 30, 2016

Tables/Schedules

Schedule of Stock-Based Compensation Exprense Allocation

For the three and nine months ended September 30, 2016 and 2015, stock-based compensation expense recognized in the consolidated statements of operations as follows:

	Three Months Ended September 30,		Nine months Ended September 30,
	2016	2015	2016	2015
Cost of revenues	$9,620	$70,396	$33,535	$127,953
Sales and marketing	6,927	8,319	23,529	25,885
General and administrative expense	31,704	30,955	93,379	180,446
Total stock based compensation expense	$48,251	$109,670	$150,443	$334,284

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4. Net Income (loss) Per Share: Schedule of Computation of Earnings Per Share, Basic and Diluted (Tables)

9 Months Ended

Sep. 30, 2016

Tables/Schedules

Schedule of Computation of Earnings Per Share, Basic and Diluted

	Three Months Ended September 30,		Nine Months Ended September 30,
	2016	2015	2016	2015
Numerator:
Net income (loss)	$674,360	$529,814	$1,168,802	$(152,465)
Denominator:
Denominator for basic calculation weighted average shares	24,557,224	24,274,815	24,506,934	24,050,960
Dilutive common stock equivalents:
Options and warrants	259,384	709,167	356,057	-
Denominator for diluted calculation weighted average shares	24,816,608	24,983,982	24,862,991	24,050,960
Net loss per share:
Basic net income (loss) per share	$.03	$.02	$.05	$(.01)
Diluted net income (loss) per share	$.03	$.02	$.05	$(.01)

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5. Accounts Receivable: Schedule of Accounts Receivable (Tables)

9 Months Ended

Sep. 30, 2016

Tables/Schedules

Schedule of Accounts Receivable

A summary of accounts receivable is as follows:

	September 30, 2016	December 31, 2015
Trade receivables	$6,293,565	$7,458,022
Unapplied advances and unbilled revenue, net	992,554	(60,065)
Allowance for doubtful accounts	-	-
Total accounts receivable	$7,286,119	$7,397,957

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6. Intangible Assets: Schedule of Intangible Assets (Tables)

9 Months Ended

Sep. 30, 2016

Tables/Schedules

Schedule of Intangible Assets

Intangible assets are amortized over expected useful lives ranging from 1.5 to 10 years and consist of the following:

	September 30, 2016		December 31, 2015
	Gross Carrying Amount	Accumulated Amortization	Gross Carrying Amount	Accumulated Amortization
Delphiis, Inc.
Acquired technology	$900,000	$(202,500)	$900,000	$(135,000)
Customer relationships	400,000	(180,000)	400,000	(120,000)
Trademarks	50,000	(50,000)	50,000	(50,000)
Non-compete agreements	20,000	(15,000)	20,000	(10,000)
Total intangible assets, Delphiis, Inc.	$1,370,000	$(447,500)	$1,370,000	$(315,000)
Redspin
Acquired technology	$1,050,000	$(157,500)	$1,050,000	$(78,750)
Customer relationships	600,000	(300,000)	600,000	(150,000)
Trademarks	200,000	(60,000)	200,000	(30,000)
Non-compete agreements	100,000	(30,000)	100,000	(15,000)
Total intangible assets, Redspin	$1,950,000	$(547,500)	$1,950,000	$(273,750)
Total intangible assets	$3,320,000	$(995,000)	$3,320,000	$(588,750)

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11. Asset Purchase Agreement - Redspin: Schedule of Allocation of the Purchase Price of the Assets Acquired and Liabilities Assumed (Tables)

9 Months Ended

Sep. 30, 2016

Redspin, Inc.

Schedule of Allocation of the Purchase Price of the Assets Acquired and Liabilities Assumed

The allocation of the purchase price of the assets acquired and liabilities assumed based on their fair values was as follows: 

Acquired technology	$1,050,000
Customer relationships	600,000
Trademarks	200,000
Non-compete agreements	100,000
Goodwill	1,192,000
Accounts receivable	180,409
Other assets received	19,009
Accounts payable and accrued expenses	(23,196)
Accrued compensation	(118,009)
Deferred revenue	(31,247)
Total	$3,168,966

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11. Asset Purchase Agreement - Redspin: Business Acquisition, Pro Forma Information (Tables)

9 Months Ended

Sep. 30, 2016

Redspin, Inc.

Business Acquisition, Pro Forma Information

	Nine Months Ended September 30,
	2016	2015
Pro forma revenue	$44,004,091	$45,888,738
Pro forma net income (loss)	$1,168,802	$(353,344)
Pro forma basic net income (loss) per share	$0.05	$(0.01)
Pro forma diluted net loss per share	$0.05	$(0.01)

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3. Options and Warrants: Schedule of Stock Options, Activity (Details)	9 Months Ended
	Sep. 30, 2016 USD ($) $ / shares shares
Details
Outstanding, Beginning Balance | shares	4,563,555
Outstanding, Weighted Average Exercise Price, Beginning Balance | $ / shares	$ 1.00
Granted | shares	647,500
Granted, Weighted Average Exercise Price | $ / shares	$ 0.96
Exercised | shares	0
Exercised, Weighted Average Exercise Price | $ / shares	$ 0
Cancelled | shares	(794,118)
Cancelled, Weighted Average Exercise Price | $ / shares	$ 1.17
Outstanding, Ending Balance | shares	4,416,937
Outstanding, Weighted Average Exercise Price, Ending Balance | $ / shares	$ 0.96
Outstanding, Weighted Average Remaining Term in Years	4 years 7 months 6 days
Outstanding, Aggregate Intrinsic Value | $	$ 274,890
Exercisable | shares	3,587,683
Exercisable, Weighted Average Exercise Price | $ / shares	$ 0.95
Exercisable, Weighted Average Remaining Term in Years	4 years 7 months 6 days
Exercisable, Aggregate Intrinsic Value | $	$ 270,940

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3. Options and Warrants (Details) - USD ($)	3 Months Ended		9 Months Ended
	Sep. 30, 2016	Sep. 30, 2015	Sep. 30, 2016	Sep. 30, 2015
Granted, Weighted Average Exercise Price			$ 0.96
Fair Value Assumptions, Method Used			Black-Scholes option-pricing model
Dividend yield			0.00%
Expected life of options			3 years
Stock-based compensation expense	$ 48,251	$ 109,670	$ 150,443	$ 334,284
Redspin, Inc.
Stock-based compensation expense			$ 62,000
Minimum
Granted, Weighted Average Exercise Price			$ 0.80
Risk-free interest rate			0.08%
Estimated volatility			45.95%
Maximum
Granted, Weighted Average Exercise Price			$ 1.02
Risk-free interest rate			0.40%
Estimated volatility			46.29%

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3. Options and Warrants: Schedule of Warrants, Activity (Details)	9 Months Ended
	Sep. 30, 2016 USD ($) $ / shares shares
Details
Outstanding, Beginning Balance | shares	1,975,231
Outstanding, Weighted Average Exercise Price, Beginning Balance	$ 1.21
Granted | shares	0
Granted, Weighted Average Exercise Price	$ 0
Exercised | shares	(105,139)
Exercised, Weighted Average Exercise Price	$ 0.60
Cancelled | shares	(891,328)
Cancelled, Weighted Average Exercise Price	$ 1.27
Outstanding, Ending Balance | shares	978,764
Outstanding, Weighted Average Exercise Price, Ending Balance	$ 1.05
Outstanding, Weighted Average Remaining Contractual Life	5 years 9 months 11 days
Outstanding, Intrinsic Value | $	$ 0
Exercisable	745,432
Exercisable, Weighted Average Exercise Price	$ 1.06
Exercisable, Weighted Average Remaining Contractual Life	5 years 7 months 10 days
Exercisable, Intrinsic Value | $	$ 0

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3. Options and Warrants: Schedule of Stock-Based Compensation Exprense Allocation (Details) - USD ($)	3 Months Ended		9 Months Ended
	Sep. 30, 2016	Sep. 30, 2015	Sep. 30, 2016	Sep. 30, 2015
Stock-based compensation expense	$ 48,251	$ 109,670	$ 150,443	$ 334,284
Cost of revenues
Stock-based compensation expense	9,620	70,396	33,535	127,953
Sales and marketing
Stock-based compensation expense	6,927	8,319	23,529	25,885
General and administrative expense
Stock-based compensation expense	$ 31,704	$ 30,955	$ 93,379	$ 180,446

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4. Net Income (loss) Per Share (Details) - $ / shares	3 Months Ended		9 Months Ended
	Sep. 30, 2016	Sep. 30, 2015	Sep. 30, 2016	Sep. 30, 2015
Dilutive securities included in the computation of earnings per share	259,384	709,167	356,057	0
Options And Warrants
Potentially Dilutive Securities	5,395,701	6,529,786	5,395,701	6,529,786
Dilutive securities included in the computation of earnings per share	259,384		356,057
Options And Warrants | Minimum
Potentially dilutive securities, exercise price	$ 0.30	$ 0.30	$ 0.30	$ 0.30
Options And Warrants | Maximum
Potentially dilutive securities, exercise price	$ 2.15	$ 2.15	$ 2.15	$ 2.15

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4. Net Income (loss) Per Share: Schedule of Computation of Earnings Per Share, Basic and Diluted (Details) - USD ($)	3 Months Ended		9 Months Ended
	Sep. 30, 2016	Sep. 30, 2015	Sep. 30, 2016	Sep. 30, 2015
Numerator:
Net income (loss)	$ 674,360	$ 529,814	$ 1,168,802	$ (152,465)
Denominator:
Denominator for basic calculation weighted average shares	24,557,224	24,274,815	24,506,934	24,050,960
Dilutive Common Stock equivalents:
Options and warrants	259,384	709,167	356,057	0
Denominator for diluted calculation weighted average	24,816,608	24,983,982	24,862,991	24,050,960
Net loss per share:
Basic net income (loss) per share	$ 0.03	$ 0.02	$ 0.05	$ (0.01)
Diluted net loss per share	$ 0.03	$ 0.02	$ 0.05	$ (0.01)

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5. Accounts Receivable: Schedule of Accounts Receivable (Details) - USD ($)	Sep. 30, 2016	Dec. 31, 2015
Details
Trade receivables	$ 6,293,565	$ 7,458,022
Unapplied advances and unbilled revenue, net	992,554	(60,065)
Allowance for doubtful accounts	0	0
Total accounts receivable	$ 7,286,119	$ 7,397,957

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6. Intangible Assets: Schedule of Intangible Assets (Details) - USD ($)	9 Months Ended
	Sep. 30, 2016	Dec. 31, 2015
Gross Carrying Amount	$ 3,320,000	$ 3,320,000
Accumulated Amortization	(995,000)	(588,750)
Delphiis, Inc.
Gross Carrying Amount	1,370,000	1,370,000
Accumulated Amortization	(447,500)	(315,000)
Delphiis, Inc. | Acquired Technology
Gross Carrying Amount	900,000	900,000
Accumulated Amortization	(202,500)	(135,000)
Delphiis, Inc. | Customer Relationships
Gross Carrying Amount	400,000	400,000
Accumulated Amortization	(180,000)	(120,000)
Delphiis, Inc. | Trademarks
Gross Carrying Amount	50,000	50,000
Accumulated Amortization	(50,000)	(50,000)
Delphiis, Inc. | Noncompete Agreements
Gross Carrying Amount	20,000	20,000
Accumulated Amortization	(15,000)	(10,000)
Redspin, Inc.
Gross Carrying Amount	1,950,000	1,950,000
Accumulated Amortization	(547,500)	(273,750)
Redspin, Inc. | Acquired Technology
Gross Carrying Amount	1,050,000	1,050,000
Accumulated Amortization	(157,500)	(78,750)
Redspin, Inc. | Customer Relationships
Gross Carrying Amount	600,000	600,000
Accumulated Amortization	(300,000)	(150,000)
Redspin, Inc. | Trademarks
Gross Carrying Amount	200,000	200,000
Accumulated Amortization	(60,000)	(30,000)
Redspin, Inc. | Noncompete Agreements
Gross Carrying Amount	100,000	100,000
Accumulated Amortization	$ (30,000)	$ (15,000)
Minimum
Intangible Asset, Useful Life	1 year 6 months
Maximum
Intangible Asset, Useful Life	10 years

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7. Line of Credit and Term Loan (Details) - USD ($)	9 Months Ended		12 Months Ended
	Sep. 30, 2016	Sep. 30, 2015	Dec. 31, 2012	Jun. 19, 2016	Jun. 19, 2015	May 09, 2012	May 04, 2012
Line of Credit Facility, Initiation Date	May 04, 2012
Avidbank | Line of Credit
Interest Charges	$ 0	$ 16,347
Avidbank | Term Loan
Line of Credit Facility, Maximum Borrowing Capacity				$ 4,000,000
Long-term Line of Credit	$ 1,500,000				$ 2,000,000
Debt Instrument, Interest Rate Terms	prime plus 1.25% per annum
Line of Credit, Current	$ 500,000
Debt Instrument, Interest Rate, Stated Percentage	4.75%
Warrants, Outstanding						72,098
Exercise Price of Warrants						$ 1.39
Interest Charges	$ 57,224	$ 38,120
Loan And Security Agreement | Avidbank
Line of Credit Facility, Maximum Borrowing Capacity							$ 2,000,000
Line of Credit Facility, Borrowing Capacity, Description	The amount available to us at any given time is the lesser of (a) $2.0 million, or (b) the amount available under our borrowing base (80% of our eligible accounts, minus (1) accrued client lease payables, and minus (2) accrued equipment pool liability). As of September 30, 2016 and December 31, 2015, no amounts were outstanding under the line of credit.
Loan And Security Agreement | Avidbank | Line of Credit
Debt Instrument, Description of Variable Rate Basis			prime plus 1.0% per annum
Debt Instrument, Interest Rate, Effective Percentage	4.25%
Loan And Security Agreement | Avidbank | Term Loan
Debt Instrument, Description of Variable Rate Basis	prime plus 0.75% per annum
Debt Instrument, Maturity Date	Jun. 19, 2017
Line of Credit Facility, Covenant Terms	While there are outstanding credit extensions, we are to maintain a liquidity ratio of cash plus accounts receivable divided by all obligations owing to the bank of at least 1.75 to 1.00, measured monthly, and a debt coverage ratio, whereby adjusted EBITDA for the most recent twelve months shall be no less than 1.50 to 1.00 of the sum of the annual principal payments to come due in respect of the term loan advances plus the annualized interest expense of the quarter ending on the measurement date. We were in compliance with all of the Avidbank agreement covenants as of September 30, 2016 and December 31, 2015.

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8. Employment Agreements (Details) - USD ($)	9 Months Ended	12 Months Ended
	Sep. 30, 2016	Dec. 31, 2014
Chief Executive Officer
Base Salary, Annual Amount	$ 300,000	$ 275,000
Salary Bonus, Annual Amount	180,000	$ 150,000
Employment Agreement, Revised Warrant Vesting Schedule Description		The revision spreads the vesting date of the remaining 300,000 unvested shares from 150,000 on January 1, 2015 and 150,000 on January 1, 2016 to 100,000 on January 1, 2015, 100,000 on January 1, 2016 and 100,000 on January 1, 2017
Chief Financial Officer
Base Salary, Annual Amount	245,000	$ 225,000
Salary Bonus, Annual Amount	$ 132,000	$ 108,000
Employment Agreement, Revised Warrant Vesting Schedule Description		The revision spreads the vesting date of the remaining 200,000 unvested shares from 100,000 on January 1, 2015 and 100,000 on January 1, 2016 to 66,667 on January 1, 2015, 66,667 on January 1, 2016 and 66,666 on January 1, 2017.

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9. Concentrations (Details) - USD ($)	9 Months Ended
	Sep. 30, 2016	Sep. 30, 2015	Dec. 31, 2015
Accounts receivable, net	$ 7,286,119		$ 7,397,957
Customer Concentration Risk
Accounts receivable, net	$ 4,000,000		$ 2,600,000
Sales | Customer Concentration Risk
Concentration Risk, Percentage	50.00%	35.00%

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11. Asset Purchase Agreement - Redspin (Details) - USD ($)	9 Months Ended
	Sep. 30, 2016	Sep. 30, 2015	Dec. 31, 2015
Payment for purchase of Redspin		$ 1,876,966
Daniel Berger
Base Salary, Annual Amount	$ 250,000
John Abraham
Base Salary, Monthly Amount	11,000
Redspin, Inc.
Payment for purchase of Redspin	2,076,966
Allocated Holdback	200,000
Holdback amount	$ 67,811
Business Combination, Contingent Consideration Arrangements, Basis for Amount	The Purchase Agreement also provides for the Company to pay employee bonus shares of common stock upon the achievement of the same certain earnings targets and provided they remain with the Company for one year subsequent to the acquisition date. Management previously had considered the $124,000 of fair value of these employee bonus shares to be a component of the acquisition cost. After completing the analysis of the earn-out provisions, Management has determined that the employee bonus shares would be post-combination compensation. The minimum earnings targets were not achieved. Accordingly, no related stock compensation expense has been recorded for the year ended December 31, 2015 or the nine months ended September 30, 2016.
Legal, accounting and other professional fees related to acquisition			$ 70,000
Redspin, Inc. | Minimum
Estimated useful life of the identifiable intangible assets acquired	3 years
Redspin, Inc. | Maximum
Estimated useful life of the identifiable intangible assets acquired	10 years
Redspin, Inc. | Common Stock
Stock Issued During Period, Shares, Acquisitions	452,284
Stock Issued During Period, Value, Acquisitions	$ 500,000

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11. Asset Purchase Agreement - Redspin: Schedule of Allocation of the Purchase Price of the Assets Acquired and Liabilities Assumed (Details) - Redspin, Inc.	9 Months Ended
	Sep. 30, 2016 USD ($)
Goodwill	$ 1,192,000
Accounts Receivable	180,409
Other assets received	19,009
Accounts payable and accrued expenses	(23,196)
Accrued compensation	(118,009)
Deferred revenue	(31,247)
Total	3,168,966
Acquired Technology
Finite-lived Intangible Assets Acquired	1,050,000
Customer Relationships
Finite-lived Intangible Assets Acquired	600,000
Trademarks
Finite-lived Intangible Assets Acquired	200,000
Noncompete Agreements
Finite-lived Intangible Assets Acquired	$ 100,000

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11. Asset Purchase Agreement - Redspin: Business Acquisition, Pro Forma Information (Details) - Redspin, Inc. - USD ($)	9 Months Ended
	Sep. 30, 2016	Sep. 30, 2015
Pro forma revenue	$ 44,004,091	$ 45,888,738
Pro forma net income (loss)	$ 1,168,802	$ (353,344)
Pro forma basic net income (loss) per share	$ 0.05	$ (0.01)
Pro forma diluted net loss per share	$ 0.05	$ (0.01)