INNOTRAC CORPORATION and SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2012 and 2011
(Unaudited)
1. SIGNIFICANT ACCOUNTING POLICIES
The accounting policies followed for quarterly financial reporting are the same as those disclosed in the Notes to Financial Statements included in the Company’s Annual Report on Form 10-K filed with the Securities and Exchange Commission for the year ended December 31, 2011. Certain of the Company’s more significant accounting policies are as follows:
Principles of Consolidation. The financial statements have been prepared on the accrual basis of accounting in conformity with accounting principles generally accepted in the United States of America. The consolidated financial statements include the accounts of the Company and its majority owned subsidiary. On April 11, 2011 the Company completed the formation of Innotrac Europe GmbH (“Innotrac Europe”), a joint venture between Innotrac and PVS Fulfillment-Service GmbH (“PVS”) in Neckarsulm, Germany. Innotrac has a 50.1% ownership stake in the joint venture. All significant intercompany transactions and balances have been eliminated in consolidation.
Foreign Currency Translation. The financial statements of foreign subsidiaries have been translated into U.S. Dollars in accordance with Accounting Standards Codification (“ACS”) topic No. 830-30 - Translation of Financial Statements. The financial position and results of operations of the Company’s foreign subsidiary are measured using the foreign subsidiary’s local currency as the functional currency. Revenue and expenses of the subsidiary have been translated into U.S. Dollars at the average exchange rate prevailing during the period. Assets and liabilities have been translated at the rates of exchange on the balance sheet date. Since the resulting translation gain and loss adjustments are immaterial for all periods reported in the financial statements, we have reported those foreign currency translation adjustments on the balance sheet in accumulated other comprehensive loss and in other expense on the statements of operations.
Gains and losses that result from foreign currency transactions are included in the “other expense (income)” line in the consolidated statements of operations. For the three month period ended March 31, 2012, we incurred an immaterial amount of net foreign currency transaction gains and losses.
Accounting Estimates. The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates.
Impairment of Long-Lived Assets. The Company reviews long-lived assets for impairment when events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Impairment would be measured based on a projected cash flow model. If the projected undiscounted cash flows for the asset are not in excess of the carrying value of the related asset, the impairment would be determined based upon the excess of the carrying value of the asset over the projected discounted cash flows for the asset.
Accounting for Income Taxes. Innotrac utilizes the liability method of accounting for income taxes in accordance with Accounting Standards Codification (“ASC”) topic No. 740 – Income Taxes. Under the liability method, deferred taxes are determined based on the difference between the financial and tax basis of assets and liabilities using enacted tax rates in effect in the years in which the differences are expected to reverse. A valuation allowance was recorded against the deferred tax asset as of December 31, 2011 and March 31, 2012 (see Note 4).
INNOTRAC CORPORATION and SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2012 and 2011
(Unaudited)
Revenue Recognition. Innotrac derives its revenue primarily from two sources: (1) fulfillment operations and (2) the delivery of call center services integrated with our fulfillment operations. Innotrac’s fulfillment services operations record revenue at the conclusion of the material selection, packaging and upon completion of the shipping process. The shipping process is considered complete after transfer to an independent freight carrier and receipt of a bill of lading or shipping manifest from that carrier. Innotrac’s call center service revenue is recognized according to written pricing agreements based on the number of calls, minutes or hourly rates when those calls and time rated services occur. All other revenues are recognized as services are rendered. As required by the consensus reached in ASC topic No. 605 – Revenue Recognition, 1) revenues have been recorded net of the cost of the goods for all fee-for-service clients and 2) the Company records reimbursements received from customers for out-of pocket expenses, primarily freight and postage fees, as revenue and the associated expense as cost of revenue. For two clients we purchase their product from our client’s vendor under agreements that require our clients to buy the product back from us at original cost when we ship the product to our client’s end consumer or after a period of time if the product has not been shipped from our fulfillment centers. The value of these products is repaid to us at the same amount as we paid for them and no service fees are generated on the products. We net the value of the purchase against the reimbursement from our customer with a resulting zero value in our reported revenue and costs of revenue.
Stock-Based Compensation Plans. The Company records compensation expense in the financial statements based on the fair value of all share based payments to employees, including grants of employee stock options. The expense is recognized over the period during which an employee is required to provide services in exchange for the award, which is usually the vesting period. The Company recorded no expense in the three months ended March 31, 2012 due to all outstanding stock options having become fully vested in the second quarter of 2011 and $1,000 in compensation expense for the three months ended March 31, 2011. In addition, the Company has issued 835,956 restricted shares to non-employee directors and management of the Company of which 13,333 have vested to non-employee Directors and 160,319 shares have been forfeited and cancelled. With respect to restricted shares granted after June, 2011 to non-employee directors, shares vest 1/3 on issuance, 1/3 on the 1st anniversary and 1/3 on the second anniversary of the grant date unless earlier vested upon a change in control of the Company. All other restricted shares vest 25% on the 7th, 8th, 9th and 10th anniversary of the grant date unless earlier vested upon a change in control of the Company. Restricted shares are valued at the closing NASDAQ market price per share as of the grant date and expensed over the vesting term of the restricted share. As a result, the Company recorded $31,000 and ($74,000) in compensation expense (income) for restricted shares for the three months ended March 31, 2012 and 2011, respectively. Included in the ($74,000) (income) for the quarter ended March 31, 2011 was $29,000 of expense offset by ($103,000) of recaptured expense when previously issued restricted shares were forfeited upon the departure of an executive in March 2011.
Fair Value Measurements. The Company accounts for fair value in accordance with ASC topic No. 820- Fair Value Measurements and Disclosures for all financial and non-financial assets and liabilities accounted for at fair value on a recurring basis. ASC topic No. 820 defines fair value, establishes a framework for measuring fair value in accordance with accounting principles generally accepted in the United States of America, and expands disclosures about fair value measurements.
The Company determined the fair values of certain financial instruments based on the fair value hierarchy established in ASC topic No. 820. ASC topic No. 820 requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value.
INNOTRAC CORPORATION and SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2012 and 2011
(Unaudited)
Level 1: quoted price (unadjusted) in active markets for identical assets or liabilities that the Company has the ability to access at the measurement date.
Level 2: inputs other than quoted prices that are observable for the asset or liability, either directly or indirectly.
Level 3: inputs to the valuation methodology are unobservable for the asset or liability
ASC topic No. 820 defines fair value as the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date.
The carrying value of our cash, accounts receivable, accounts payable and other debt instruments approximates fair value since our debt instrument consists of a revolving credit line, which under certain conditions can mature within one year of March 31, 2012, and because of its short term nature. The interest rate is equal to the market rate for such instruments of similar duration and credit quality.
|
|
As of March 31, 2012
Fair Value Measurements Using
(in 000’s) |
|
Description
|
|
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
|
|
|
Significant
Other
Observable
Inputs (Level 2)
|
|
|
Significant
Unobservable
Inputs
(Level 3)
|
|
|
Total
|
|
Deferred Compensation plan assets held in Rabbi Trust (1)
|
|
$ |
812 |
|
|
$ |
- |
|
|
$ |
- |
|
|
$ |
812 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
$ |
812 |
|
|
$ |
- |
|
|
$ |
- |
|
|
$ |
812 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
As of December 31, 2011
|
|
|
Fair Value Measurements Using
(in 000’s)
|
|
Description
|
Quoted Prices in
Active Markets
for Identical
Assets (Level 1)
|
|
Significant
Other
Observable
Inputs (Level 2)
|
|
Significant
Unobservable
Inputs
(Level 3)
|
|
Total
|
|
Deferred Compensation plan assets held in Rabbi Trust (1)
|
|
$ |
735 |
|
|
$ |
- |
|
|
$ |
- |
|
|
$ |
735 |
|
Total
|
|
$ |
735 |
|
|
$ |
- |
|
|
$ |
- |
|
|
$ |
735 |
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
(1)
|
This is an executive deferred compensation plan for certain employees, as designated by the Company’s Board of Directors. The Company invests contributions to this plan in employee-directed marketable equity securities which are recorded in other assets on the accompanying consolidated balance sheets at quoted market prices. The contributions are fully invested in five different mutual funds having various growth, industry and geographic characteristics.
|
INNOTRAC CORPORATION and SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2012 and 2011
(Unaudited)
There were no significant transfers into and out of each level of the fair value hierarchy for assets measured at fair value for the three months ended March 31, 2012 or the year ended December 31, 2011.
All transfers, if any, are recognized by the Company at the end of each reporting period.
Transfers between Levels 1 and 2 generally relate to whether a market becomes active or inactive. Transfers between Levels 2 and 3 generally relate to whether significant relevant observable inputs are available for the fair value measurement in their entirety.
Recent Accounting Pronouncements
In May 2011, the FASB issued ASU 2011-04 to Topic 820 - Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements which provides guidance for required disclosure on fair value measurements, including a consistent meaning of the term “fair value”, thereby facilitating greater comparability of fair value measurements presented and disclosed in financial statements prepared in accordance with U.S. GAAP and International Financial Reporting Standards. The amendment was adopted prospectively in the quarter ended March 31, 2012 and did not have any on the Company’s consolidated financial statements.
In June 2011, the FASB issued ASU 2011-05, (Topic 220) - Comprehensive Income: Presentation of Comprehensive Income. The amendments to the Codification in this ASU allow an entity the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In both choices, an entity is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income, and a total amount for comprehensive income. This ASU eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders’ equity. The amendments to the Codification in the ASU do not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income. The amendments are to be applied retrospectively and are effective for fiscal years beginning after December 15, 2011. The Company has adopted these provisions in the first quarter of 2012 but has not presented a separate statement of comprehensive income since the Company has only immaterial other comprehensive income amounts. Adoption of these provisions did not have a material impact on the Company’s consolidated financial statements.
In December 2011, the FASB issued ASU 2011-12 to Topic 220 - Presentation of Comprehensive Income: Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05. The amendments to the Codification in this ASU defer the presentation of reclassification adjustments out of accumulated other comprehensive income on the components of net income and other comprehensive income for all periods presented. This ASU supersedes certain presentation requirements in ASU No. 2011-05, Comprehensive Income, discussed below, so that entities will not be required to comply with the presentation requirements in ASU No. 2011-05 that ASU No. 2011-12 is deferring. While the presentation requirements are being re-deliberated, entities are required to continue to report reclassifications out of accumulated other comprehensive income consistent with the presentation requirements in effect before ASU No. 2011-05. The amendments to this ASU are effective at the same time as the amendments in ASU No. 2011-05. The Company adopted these provisions in the first quarter of 2012. Adoption of these provisions did not have a material impact on the Company’s consolidated financial statements since the Company has only immaterial other comprehensive income amounts.
INNOTRAC CORPORATION and SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2012 and 2011
(Unaudited)
2. FINANCING OBLIGATIONS
The Company has a revolving credit facility (the “Credit Facility”) with Wells Fargo, N.A. (the “Bank”) which has a maximum borrowing limit of $15.0 million. The Credit Facility is used to fund the Company’s capital expenditures, operational working capital and seasonal working capital needs. The Credit Facility was renewed on March 27, 2009 when the Company entered into a Fourth Amended and Restated Loan and Security Agreement with the Bank, setting forth the new terms of the Credit Facility. The Credit Agreement has been further amended by the First, Second and Third Amendments on May 14, 2010, March 30, 2011 and March 29, 2012, respectively. The Third Amendment provided for a $1.8 million equipment 5 year term loan (the 2012 Equipment Loan) as part of the $15.0 million borrowing limit. The amended Credit Agreement includes a maturity date of June 30, 2013 and continues the Bank’s security interest in all of the Company’s assets. There was no outstanding balance as of March 31, 2012 under the Credit Facility.
Interest on borrowings pursuant to the Credit Facility is payable monthly at specified rates of either, at the Company’s option, the Base Rate (as defined in the Credit Facility) plus between 2.00% and 2.50%, or the LIBOR Rate (as defined in the Credit Facility) plus between 3.00% and 3.50%, in each case with the applicable margin depending on the Company’s Average Excess Availability (as defined in the Credit Facility). Interest on amounts advanced to the Company on the 2012 Equipment Loan is payable monthly at specified rates of either, at the Company’s option, the Base Rate (as defined in the Credit Facility) plus 3.00%, or the LIBOR Rate (as defined in the Credit Facility)plus 4.00%. The Company pays a specified fee on undrawn amounts under the Credit Facility which fee was one-half of one percent, or 0.5% on and before March 30, 2011, the date of Second Amendment to the Credit Agreement, and is three quarters of one percent, or 0.75% thereafter. After an event of default, all loans will bear interest at the otherwise applicable rate plus 2.00% per annum.
The Credit Facility contains financial, affirmative and negative covenants by the Company as are usual and customary for financings of this kind which can result in the acceleration of the maturity of amounts borrowed under the Credit Facility, including, without limitation, a restriction on cash dividends, a change in ownership control covenant, a subjective material adverse change covenant and financial covenants. The financial covenants include an annual capital expenditure limit, a minimum excess availability limit, a fixed charge ratio covenant and until February 2012 monthly and cumulative loss limits. The provisions of the Credit Facility require that the Company maintain a lockbox arrangement with the Bank, and allows the Bank to declare any outstanding borrowings to be immediately due and payable as a result of noncompliance with any of the covenants. Accordingly, in the event of noncompliance, the Company’s payment obligations with respect to such borrowings could be accelerated. Therefore, when the Company has a balance on its line of credit, it is classified as a current liability. As of March 31, 2012, the Company was in compliance with all terms of the Credit Facility.
The Third Amendment was entered into on March 29, 2012 to i) increase the annual capital expenditure limit for 2012 to $6.0 million as required by the Company to invest in equipment for an eighth fulfillment facility, in Groveport, Ohio, required to support new business, ii) include up to $1.8 million of equipment purchased for the Groveport facility as collateral and create the 2012 Equipment Loan under the Credit Facility, and; iii) reset requirements of the excess availability block (the “Availability Block”), representing the amount of collateral held by the Company before any advances can be made on the Credit Facility, to depend upon the Company obtaining specific fixed charge ratio (as defined in the Credit Facility) values. As a result of the Third amendment and as of March 29, 2012, the Availability Block is set at $4.0 million until which time i) the Company reports a twelve month trailing fixed charge ratio of at least 1.1 resulting in the Availability Block being reduced to $3.0 million or ii) the Company reports a trailing twelve month fixed charge ratio for three consecutive months of at least 1.2 and simultaneously projects exceeding a fixed charge ratio of at least 1.2 for the immediately upcoming three consecutive months resulting in the Availability Block to be reduced to $2.5 million.
INNOTRAC CORPORATION and SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2012 and 2011
(Unaudited)
Although the maximum borrowing limit was $15.0 million at March 31, 2012, the Credit Facility limits borrowings to the value of total collateral under the Credit Facility calculated as the sum of i) a specified percentage of eligible accounts receivable and inventory, which totaled $12.1 million at March 31, 2012 and ii) the value of equipment purchased with the proceeds of the 2012 Equipment Loan, which was $0.0 since the equipment was not projected to be purchased until the latter half of the second quarter of 2012. Additionally, the terms of the Credit Facility provide that the amount borrowed and outstanding at any time combined with certain reserves for rental payments, letters of credit outstanding and Availability Block be subtracted from the Credit Facility limit or the value of the total collateral to arrive at an amount of unused availability to borrow. Also, from time to time, as determined as necessary by the Bank, the value of the equipment included as collateral can be adjusted as an independent appraisal of that equipment may require. The total collateral under the Credit Facility at March 31, 2012 amounted to $12.1 million. There were no amounts borrowed under the Credit Facility at March 31, 2012 however the value of reserves, letters of credit and Availability Block at that date totaled $5.2 million. As a result, the Company had $6.9 million of borrowing availability under the Credit Facility at March 31, 2012.
The Company has entered into various capital leases mainly for the purchase of fork lift trucks, computer technology equipment and computer software. These capital leases have a term of 3 years. The amortization of these assets is included in depreciation expense. The total amount of remaining lease payments to be paid on capital leases, including interest and taxes, was $893,000 and $606,000 at March 31, 2012 and December 31, 2011 respectively. For the three months ended March 31, 2012, the Company repaid $114,000 of principal outstanding and $10,000 of interest expense related to capital leases. For the three months ended March 31, 2011, the Company repaid $65,000 of principal outstanding and $5,000 of interest expense related to capital leases.
For the three months ended March 31, 2012, we recorded interest expense of $3,000 on the Credit Facility at a weighted average interest rate of 3.35%. The rate of interest being charged on the Credit Facility at March 31, 2012 was 3.24%. For the three months ended March 31, 2011, we recorded interest expense of $6,000 on the Credit Facility at a weighted average interest rate of 3.15%. The Company also incurred unused Credit Facility fees of approximately $26,000 and $16,000 for the three months ended March 31, 2012 and 2011 respectively, which unused Credit Facility fees are included in the total interest expense of $53,000 and $46,000 for the three months ended March 31, 2012 and 2011 respectively.
The following table shows the shares (in thousands) used in computing diluted earnings per share (“EPS”) in accordance with ASC topic No. 260 – Earnings per Share:
|
|
Three Months
Ended March 31,
|
|
|
|
2012
|
|
|
2011
|
|
Diluted earnings per share:
|
|
|
|
|
|
|
Weighted average shares outstanding
|
|
|
13,029 |
|
|
|
12,861 |
|
Employee and director stock options
|
|
|
- |
|
|
|
- |
|
Weighted average shares assuming dilution
|
|
|
13,029 |
|
|
|
12,861 |
|
INNOTRAC CORPORATION and SUBSIDIARY
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
March 31, 2012 and 2011
(Unaudited)
Options outstanding to purchase 351,000 shares of the Company’s common stock for the three months ended March 31, 2012 and 412,000 shares for the three months ended March 31, 2011 were not included in the computation of diluted EPS because their effect was anti-dilutive. On January 1, 2009 the Company adopted an update to ASC topic No. 260, which requires the inclusion of all unvested stock awards which contain non-forfeitable rights to dividends or dividend equivalents, whether paid or unpaid, in the number of shares outstanding in our basic and diluted EPS calculations. As a result, we have included 675,637 of restricted shares in our calculation of basic and diluted EPS for the three months ended March 31, 2012 and 412,304 for the three months ended March 31, 2011. These restricted shares include 265,956 restricted shares issued on April 16, 2007 under the Innotrac Corporation 2000 Stock Option and Incentive Award Plan and 570,000 restricted shares issued under the Innotrac Corporation 2010 Stock Award Plan which amounts were subsequently reduced by 160,319 shares when a grantee’s employment or service as director terminated at which time such grantee’s unvested restricted shares were forfeited and cancelled. Both plans provide for immediate voting rights but vesting varies according to two vesting schedules. With respect to shares issued to non-employee directors after June, 2011, shares vest 1/3 on issuance, 1/3 on the 1st anniversary and 1/3 on the second anniversary of the grant date unless earlier vested upon a change in control of the Company. All other restricted shares vest 25% on the 7th, 8th, 9th and 10th anniversary of the grant date unless earlier vested upon a change in control of the Company. Restricted shares are valued at the closing NASDAQ market price per share as of the grant date and expensed over the vesting term of the restricted share.
Innotrac utilizes the liability method of accounting for income taxes in accordance with ASC topic No. 740 – Income Taxes. Under the liability method, deferred taxes are determined based on the difference between the financial and tax basis of assets and liabilities using enacted tax rates in effect in the years in which the differences are expected to reverse. A valuation allowance is recorded against deferred tax assets if the Company considers it is more likely than not that deferred tax assets will not be realized. Innotrac’s gross deferred tax asset as of March 31, 2012 and December 31, 2011 was approximately $22.8 million and $23.0 million, respectively. This deferred tax asset was generated primarily by net operating loss carryforwards created by net losses in prior years and the goodwill impairment charge of $25.2 million recorded in 2009. Innotrac has Federal net operating loss carryforwards of $51.8 million at December 31, 2011 that expire between 2020 and 2031.
Innotrac’s ability to generate taxable income from future operations is dependent upon general economic conditions, collection of existing outstanding accounts receivable, competitive pressures on sales and margins and other factors beyond management’s control. These factors, combined with losses in recent years, create uncertainty about the ultimate realization of the gross deferred tax asset in future years. Therefore, a valuation allowance of approximately $21.7 million and $21.8 million has been recorded as of March 31, 2012 and December 31, 2011, respectively. Income taxes associated with future earnings may be offset by a reduction in the valuation allowance. For the three months ended March 31, 2012, the deferred income tax expense of $176,000 was offset by a corresponding decrease in the deferred tax asset valuation allowance. When and if the Company can return to consistent profitability and management determines that it is more likely than not that the Company will be able to utilize the deferred tax assets prior to their expiration, the valuation allowance may be reduced or eliminated.
ASC topic No. 740 requires that the Company determine whether it is more likely than not that a tax position will be sustained upon audit, based on the technical merits of the position. A tax position that meets the more likely than not recognition threshold is measured to determine the amount of benefit to recognize in the financial statements. The tax position is measured at the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement. The Company had a gross deferred tax asset of approximately $23.0 million at December 31, 2011, which did not change significantly during the three months ended March 31, 2012. As discussed in Note 7 to the financial statements in the 2011 Form 10-K, the Company has a valuation allowance against the full amount of its deferred tax asset. The Company has recognized tax benefits from all tax positions we have taken, and there has been no adjustment to any net operating loss carryforwards as a result of ASC topic No. 740 and there are no unrecognized tax benefits and no related ASC topic No. 740 tax liabilities at March 31, 2012.
The Company generally recognizes interest and/or penalties related to income tax matters in general and administrative expenses. As of March 31, 2012, we have no accrued interest or penalties related to uncertain tax positions.
5. COMMITMENTS AND CONTINGENCIES
Legal Proceedings. The Company is subject to various legal proceedings and claims that arise in the ordinary course of business. There are no material pending legal proceedings to which the Company is a party.
6. RELATED PARTY TRANSACTIONS
In early 2004, the Company learned that certain trading activity of the IPOF Fund L.P., an owner of more than 5% of the outstanding Common Stock, may have violated the short-swing profit rules under Section 16(b) of the Securities Exchange Act of 1934. The Company promptly conducted an investigation of the matter. IPOF Fund L.P. and its affiliates entered into a settlement agreement with the Company on March 3, 2004 regarding the potential Section 16(b) liability issues that provided for the Company’s recovery of $301,957 no later than March 3, 2006. In December 2005, the United States District Court in Cleveland, Ohio appointed a receiver to identify and administer the assets of the IPOF Fund, L.P. and its general partner, David Dadante. The Company informed the IPOF receiver of such agreement, but the likelihood of recovering such amount from the receiver is doubtful. The Company has not recorded any estimated receivable from this settlement. Additionally, the Federal Court has indefinitely restricted the financial institutions holding Company stock owned by the IPOF Fund L.P. and Mr. Dadante in margin accounts from selling any of these shares. The court has permitted open market sales by the receiver as he may in his sole discretion determine to be consistent with his duty to maximize the value of the assets of IPOF Fund, L.P. and as warranted by market conditions. The receiver has indicated to the Company that he does not intend to direct any open market sales during this period except in circumstances in which he believes that there would be no material adverse impact on the market price for the Company’s shares.
The Company leases a single engine aircraft from a company wholly-owned by the Chairman and Chief Executive Officer, pursuant to an agreement that provides for the Company to pay for approximately 86% of all expenses associated with this aircraft. This allocation is determined annually based on actual business usage and applied throughout the following year. The Company paid approximately $48,000 and $53,000 for use of the airplane for the three months ended March 31, 2012 and 2011 respectively.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Item 2 – Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion may contain certain forward-looking statements that are subject to conditions that are beyond the control of the Company. Actual results may differ materially from those expressed or implied by such forward-looking statements. Factors that could cause actual results to differ include, but are not limited to, the Company’s reliance on a small number of major clients; risks associated with the terms and pricing of our contracts; reliance on the telecommunications and direct marketing industries and the effect on the Company of the downturns, consolidation and changes in those industries in recent years; risks associated with the fluctuations in volumes from our clients; risks associated with upgrading, customizing, migrating or supporting existing technology; risks associated with competition; and other factors discussed in more detail in “Item 1A – Risk Factors” in our Annual Report on Form 10-K. We undertake no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise.
Overview
Innotrac Corporation (“Innotrac” or the “Company”), founded in 1984 and headquartered in Atlanta, Georgia, provides order processing, fulfillment and customer support “contact” center services to large corporations that outsource these functions. In order to perform contact center and fulfillment functions in-house, a company may be required to develop expensive, labor-intensive infrastructures, which may divert its resources and management’s focus from its principal or core business. By assuming responsibility for these tasks, Innotrac strives to improve the quality of the non-core operations of our clients and to reduce their overall operating costs.
We provide our services in the United States through an integrated network of eight fulfillment centers having a total footprint of 2.8 million square feet and one contact center which is expandable to over 400 workstations. Through Innotrac Europe, a joint venture created in 2011 and headquartered in Germany, we provide end to end fulfillment services in Europe through a network of operations with over 20 years of experience.
We receive most of our clients’ orders either through inbound contact center services, electronic data interchange (“EDI”) or the internet. On a same day basis, depending on product availability, the Company picks, packs, verifies and ships the item, tracks inventory levels through an automated, integrated perpetual inventory system, warehouses data and handles customer support inquiries. Our fulfillment and customer support services interrelate and are sold as a package, however they are individually priced. Our clients may utilize our fulfillment services, our customer support services, or both, depending on their individual needs.
Our core competencies include:
Fulfillment Services:
● sophisticated warehouse management technology
● automated shipping solutions
● real-time inventory tracking and order status
● purchasing and inventory management
● channel development
● zone skipping and freight optimization modeling for shipment cost reduction
● product sourcing and procurement
● packaging solutions
● back-order management
● returns management
● eCommerce consulting and integration
MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Contact Center Services:
● inbound customer support services
● technical support and order status
● returns and refunds processing
● call center integrated into fulfillment platform
● cross-sell/up-sell services
● collaborative chat
● intuitive e-mail response
Business Mix – Revenues
|
|
Three Months Ended March 31,
|
|
Business Line/Vertical
|
|
|
2012
|
|
|
2011
|
|
eCommerce/Direct-to-Consumer
|
|
|
69.6 |
% |
|
|
58.2 |
% |
Direct Marketing
|
|
|
19.0 |
|
|
|
25.6 |
|
Modems & Telecommunications products
|
|
|
9.1 |
|
|
|
13.9 |
|
Business-to-Business (“B2B”)
|
|
|
2.3 |
|
|
|
2.3 |
|
|
|
|
100.0 |
% |
|
|
100.0 |
% |
|
Note: The above table is compiled by presenting the total of any individual client in a single Business Line/Vertical consistently in the years 2012 and 2011 based on the predominant category of the client’s revenues for the year ended 2011.
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|
eCommerce/Direct-to-Consumer and Direct Marketing. The Company is a major provider of fulfillment and customer support services to eCommerce/Direct to Consumer and Direct Marketing clients which include such companies as Target.com, a division of Target Corporation, Ann Taylor Retail, Inc., The North Face, Microsoft, Inc., Beachbody, LLC and Thane International. Our revenues are a result of the number of orders and customer service calls received. Our client contracts generally do not guarantee volumes. We anticipate that the percentage of our revenues attributable to our eCommerce and direct-to-consumer clients will increase during 2012 as we expect the growth in business from this group of clients to be higher than our other client categories.
Telecommunications and Modems. The Company has historically been a major provider of fulfillment and customer support services to the telecommunications industry. The consolidation in that industry over the last several years has resulted in a heavy concentration of volume in a few companies, and accordingly, concentration of the service providers to the telecommunication industry. We continue to provide fulfillment and technology services for several telecommunication companies however we project that the consolidation of service providers in this vertical will result in its percentage of our total revenue to continue to decline as the eCommerce/Direct-to-consumer vertical grows more quickly as a percentage of our total revenue.
Business-to-Business. The Company also provides fulfillment and customer support services for business-to-business (“B2B”) clients, including NAPA and The Walt Disney Company. Although we continue to provide services to business in this vertical, we expect future revenues in this category to remain a smaller portion of our total business mix.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Results of Operations
The following table sets forth unaudited summary operating data, expressed as a percentage of revenues, for the three months ended March 31, 2012 and 2011. The data has been prepared on the same basis as the annual financial statements. In the opinion of management, it reflects normal and recurring adjustments necessary for a fair presentation of the information for the periods presented. Operating results for any period are not necessarily indicative of results for any future period.
The financial information provided below has been rounded in order to simplify its presentation. However, the percentages below are calculated using the detailed information contained in the condensed consolidated financial statements.
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Three Months Ended March 31,
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2012
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2011
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Service revenues
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88.2 |
% |
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82.4 |
% |
Freight revenues
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11.8 |
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17.6 |
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Total Revenues
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100.0 |
% |
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100.0 |
% |
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Cost of service revenues
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42.8 |
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37.0 |
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Freight expense
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11.5 |
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17.3 |
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Selling, general and administrative expenses
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40.3 |
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43.9 |
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Depreciation and amortization
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3.4 |
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4.1 |
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Operating income (loss)
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2.0 |
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(2.3 |
) |
Other expense, net
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0.2 |
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0.2 |
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Income (loss) before income taxes
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1.8 |
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(2.5 |
) |
Income tax (provision) benefit
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- |
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- |
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Net income (loss) attributable to noncontrolling interest
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- |
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- |
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Net income (loss)
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1.8 |
% |
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(2.5 |
)% |
Three Months Ended March 31, 2012 Compared to Three Months Ended March 31, 2011
Service Revenues. Net service revenues increased 23.3% to $21.3 million for the three months ended March 31, 2012 from $17.3 million for the three months ended March 31, 2011. This increase was attributable to i) a $4.3 million increase in revenue from our eCommerce clients due to the addition of several new clients and increases in volumes from existing clients; ii) a $357,000 increase in revenue from our direct marketing clients resulting from increased volume from existing clients and the addition of several new clients, offset by a $739,000 decrease in revenue from our modems and telecommunications clients due to a decrease in volume.
Freight Revenues. The Company’s freight revenues decreased 22.6% to $2.9 million for the three months ended March 31, 2012 from $3.7 million for the three months ended March 31, 2011. The $832,000 decrease in freight revenues is primarily attributable to one of our direct marketing clients transitioning the majority of their freight usage from Company owned freight accounts to their own freight accounts, offset by increased volumes from both existing and new direct marketing and eCommerce clients. Changes between reporting periods in freight revenue have no material impact on our operating profitability due to pricing practices for direct freight costs.