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| IMTSE.OB > SEC Filings for IMTSE.OB > Form 10-K on 17-Jun-2008 | All Recent SEC Filings |
17-Jun-2008
Annual Report
The following discussion and analysis provides information that we believe is relevant to an assessment and understanding of the consolidated results of operations and financial condition of the Company. The terms "Company", "we", "our" or "us" are used in this discussion to refer to Interactive Motorsports and Entertainment Corp. along with Interactive Motorsports and Entertainment Corp.'s wholly owned subsidiary, Perfect Line, Inc., on a consolidated basis, except where the context clearly indicates otherwise. The discussion and information that follows concerns the Registrant as it exists today, as of this filing, including the predecessor of the Company's operations, Perfect Line, LLC.
Overview
The Company has significantly reduced its operating losses from $588,918 in 2005, to $41,909 in 2006 and $154,595 in 2007. Since inception on May 31, 2001 and through December 31, 2007, the Company has accumulated aggregate losses totaling $10,160,262, which includes the net loss of $796,960 for the twelve months ended December 31, 2007, the net loss of $598,154 for the twelve months ended December 31, 2006, and the net loss of $8,765,194 for the period from inception to December 31, 2005.
The Company has funded its retained losses through the initial investment of $650,000 in May 2001, $400,000 of capital contributed in February 2002, approximately $2.6 million received in August 2002 from the sale of Preferred Stock, $700,000 borrowed in March 2003, $604,000 in net proceeds borrowed between February 2004 and June 2004, $2.9 million borrowed in December 2004, net proceeds of $855,000 borrowed in September of 2006, net proceeds of $450,000 borrowed in September of 2007, $1.257 million received in the form of deposits for the placement of race car simulators in revenue share locations, or for the future purchase by third parties of racecar simulators and $871,649 by delaying payments to its vendors.
The Company has a history of losses, and the report of our independent accountants issued in connection with the audit of our financial statements contained a qualification raising a doubt about our ability to continue as a going concern. The Company currently is relying on prospective debt financing arrangements, and on simulator sales revenue using its existing simulator inventory to offset its operating costs and debt obligations over the next 12 months, or until enough revenue share simulators are in the market to provide sufficient to cover these costs. As such, there is risk that the financing will not be available, or available on terms acceptable to the Company, and there is risk that the timing of the simulator sales will not coincide with the need for cash to cover operating expenses and note payments. If no meaningful financing is secured by the Company in the near term, it may jeopardize the Company's ability to maintain agreements with creditors to hold off taking actions against the Company for payments due. See further discussion under "Liquidity and Capital Resources" and "Risk Factors" below.
During the twelve months ended December 31, 2007, the Company had total revenues of $4,384,880 compared to $5,351,298 for the twelve months ended December 31, 2006. The 27% decrease in revenue is due primarily to a decrease in simulator sales in 2007.
Cash: The Company had $133,731 in cash as of December 31, 2007, compared with $216,323 at December 31, 2006, a decrease of $82,592. This decrease in the company's position of cash during the year ended December 31, 2007 was due principally to payments to vendors and general operating expenses. See further discussion under the "Liquidity and Capital Resources" section below.
Trade Accounts Receivable: At the year ending December 31, 2007, the Company established a reserve of $78,776 for a portion of the debt owed the Company by Ultimate Racing Experience. The Company continues to pursue the collection of the debt owed the Company by Ultimate Racing Experience.
Inventory: At December 31, 2007, inventory increased by $64,739 from December 31, 2006 levels due primarily to the reclassification of simulator parts in non-depreciated fixed assets to simulator inventory held for sale. Simulators in inventory increased by $69,739 from December 31, 2006, levels to $310,357 at December 31, 2007. Merchandise inventory decreased by $5,000 from December 31, 2006, levels to $8,495 at December 31, 2007.
Notes Payable: On December 31, 2007, the Company had an aggregate balance of $3,689,128 for Notes Payable. The balance consisted of $50,000 in related party agreements, $600,000 on the Ropart Note Payable, $1,286,729 on the 2004 Race Car Simulator Corporation ("RCS") borrowing, $122,500 on the 2005 Agreement, $671,180 on the 2006 Agreements, $475,010 in the 2007 Agreements and $483,709 on other agreements.
Deposits on Simulator Sales: During the year ending December 31, 2007, the Company recorded all or a portion of five simulator sales transactions. This activity resulted in the decrease of deposits on simulator sales of $7,935 to $1,011,158 as compared to the balance at December 31, 2006.
Other Liabilities: Accounts payable, accrued payroll and payroll taxes, sales taxes payable, unearned revenue, and other accrued expenses fluctuate with the volume of business, timing of payments, and the day of the week on which the period ends.
Review of Consolidated Results of Operations
Revenues: Revenues are comprised primarily of Company store sales, revenue share sales, and simulator leases and sales.
Revenues for the year ended December 31, 2007, decreased $966,417 or 18% to $4,385 million as compared with $5.351 million for the comparable period in 2006. This was the result of a combination of a strong simulator sales in the twelve month period ending December 31, 2006, and soft sales in the twelve month period ending December 31, 2007. Management believes that the timing of the sales transactions will balance out over the course of the next six months, but there can be no assurances.
Cost of Sales: Cost of sales as a percentage of total revenues was 19% and 24% for the year ended December 31, 2007 and 2006, respectively. Cost of sales for the year ended December 31, 2007, decreased by $425,300 or 34% to $835,904 compared with $1.261 million for the comparable period in 2006. The primary reason for the decrease in cost of sales is the soft sale of simulators in 2007.
Gross Profit: Gross profit as a percentage of total revenues was 81% and 76% for the year ended December 31, 2007 and 2006, respectively. Gross profit was $3.549 million for the year ended December 31, 2007, as compared to $4.090 million for the year ended December 31, 2006, a decrease of $541,173 or 13%. The decrease was primarily the result of lower simulator sales in 2007. Management believes that the timing of the sales transactions will balance out over the course of the next six months, but there can be no assurances.
Operating Profit: The Company had a $154,595 loss from operations during the year ended December 31, 2007 compared to a $41,609 loss for the same period in 2006.
Interest Expense: Interest expense was $626,692 and $556,245 for the year ended December 31, 2007 and 2006, respectively.
Income Taxes: For the year ended December 31, 2007, the Company's income tax expense was minimal because of the Company's net operating loss carryforwards. For the year ended December 31, 2007, the Company did not record a provision for income taxes. No income tax is due for this period because the Company has net operating loss carryforwards from prior periods that fully offset the tax provision.
Net Loss: The Company's posted a net loss of $796,960 and $598,154 for the year ended December 31, 2007 and 2006, respectively.
Liquidity and Capital Resources
The primary source of funds available to the Company are receipts from customers for simulator and merchandise sales in its flagship owned and operated racing center, percentage of gross revenues from simulator races and minimum guarantees from revenue share and lease sites, the sale of simulators, proceeds from equity offerings including the $2,610 million received in August 2002, proceeds from debt offerings including the $700,000 in Secured Bridge Notes and warrants issued in March 2003, the $604,000 in net proceeds from Notes and options issued between February and June, 2004, the additional loan of a net $100,000 from one of the existing Bridge Loan note holders, $2.9 million borrowed in December 2004, $122,000 from the 2005 Note, net proceeds of $855,000 borrowed in September of 2006, net proceeds of $427,500 borrowed in September of 2007, loans from shareholders, credit extended by vendors, and possible future financings.
The Company believes that it has generated a significant interest in its simulators, and that some combination of revenue share agreements, lease agreements and simulator sales agreements with both the original SMS simulator and the new Reactor simulator will be sufficient to fund the daily operations of the business until a larger scale, multi-site virtual league format can be established, although there can be no assurances. Current prospects include family entertainment centers, bowling alleys, cruise ships, sports bars and large retailers.
The Company been pursuing for some time a form of debt or equity financing sufficient to eliminate cash flow concerns while the SMS simulator inventory is placed into the market and to complete its development of the multi-site league play, although there is no assurance that such funding will be available, or available on terms acceptable to the Company.
The Company has experienced periods of tight cash flow due to the unpredictability of the timing of SMS simulator sales. While management's preference has been to install its SMS simulator inventory into revenue share sites in order to establish long term ongoing revenue streams, the Company's cash needs have required that the Company enter into purchase agreements from time to time, and may need to continue to do so in the future.
During the year ending December 31, 2007, the Company used $121,143 of net cash in investing activities compared with $84,956 of net cash used in investing activities during the comparable period in 2006. The decrease in cash from investing activities is primarily related to the placement of simulators in revenue sharing sites.
During the year ending December 31, 2007, the Company generated $348,811 of cash from financing activities compared with $684,084 of cash generated during the comparable period in 2006. The decrease from financing activities is primarily related to the payments on notes.
Cash flow from all sources (operations, investing activities and financing activities) was insufficient to fund the company during the year ending December 31, 2007, and resulted in an $82,592 reduction in the Company's cash position. This compares with $136,857 in cash reduction for all sources for the period ending December 31, 2006.
The Company has funded its retained losses through the initial investment of $650,000 in May 2001, $400,000 of capital contributed in February 2002, approximately $2.610 million received in August 2002, loans from related parties including net proceeds of $687,500 received in March, 2003, and net proceeds received between February 2004 and June 2004 totaling $604,000, $122,500 in loan proceeds from the sale of the 2005 Notes between October and November, net proceeds of $845,000 in loan proceeds from the sale of the 2006 Notes in July, net proceeds of $855,000 borrowed in September of 2006, net proceeds of $450,000 borrowed in September and October of 2007, $1.011 million received in the form of deposits for the placement of race car simulators in revenue share locations, or for the future purchase by third parties of race car simulators, and credit extended by vendors.
As of December 31, 2007, the Company had cash totaling $133,751 compared to $216,323 at December 31, 2006. Current assets totaled $672,202 at December 31, 2007 compared to $726,018 on December 31, 2006. Current liabilities totaled $4,528,626 on December 31, 2007 compared with $3,843,284 on December 31, 2006. As such, these amounts represent an overall decrease in working capital of $739,158 for the year ending December 31, 2007.
Inflation
We do not expect the impact of inflation on our operations to be significant.
Risk Factors
The Company is subject to certain risk factors due to the organization and structure of the business, the industry in which we compete and the nature of our operations. These risk factors include the following:
Perfect Line, LLC was formed in June 2001 for the purpose of acquiring certain of the assets of SEI, a bankrupt corporation, and modifying and improving the mall-based business model under which SEI operated, as more fully described under Overview above. While the concept was a modification and improvement upon the prior model, the modified mall-based business model was only in place for less than two full years, but also proved to be unprofitable. It is for that reason, among others, that the Company designed and implemented a revised business model focusing on revenue share and lease agreements with operators, and the sales of the race car simulators. Perfect Line is subject to numerous risks, expenses, problems, and difficulties typically encountered in establishing any business. For the 5 months ended December 31, 2001, Perfect Line had sales of $3,533,402, and a loss of $719,854. For the year ended December 31, 2002, Perfect Line generated net sales of $9,636,278, resulting in a net loss of $2,189,220. For the year ended December 31, 2003, Perfect Line had net sales of $7,557,978 generating a net loss of $3,525,581. For the year ended December 31, 2004, Perfect Line had net sales of $5,769,104 generating a loss of $1,235,419. For the year ended December 31, 2005, the Company had net sales of $4,838,988 generating a loss of $1,095,074. For the year ended December 31, 2006, the Company had net sales of $5,351,298 generating a loss of $598,154. For the year ended December 31, 2007, the Company had net sales of $4,384,880 generating a loss of $783,367. This overall financial performance resulted in an accumulated deficit of $10,146,669 as of December 31, 2007 for the Company. Management believes the revenue from its owned and operated flagship site, upcoming sales revenues from the new Reactor simulators, upcoming new sales and installations in revenue share and lease sites and revenue from potential new revenue streams (multi-site leagues and full size vehicle simulation experiences), will return the Company to profitability in the near future, although there can be no assurance. Absent some form of financing, the servicing of debt will likely continue to hamper the Company's ability to achieve a net profit even though operating costs may be covered.
Dependence on Discretionary Consumer Spending and Competition
Much of the revenue anticipated by the Company will ultimately be the result of discretionary spending by consumers and from experiential marketing budgets from major sponsors within NASCAR. If the current trepidation in the economy continues for an extended time or worsens, either overall or in the locations in which Company racing centers and revenue share sites are located, the amount of discretionary spending may be reduced which would have a negative effect on the Company results from operations and its financial position. In addition, if the popularity of NASCAR diminishes, or if experiential marketing budgets are reduced, it is likely that the Company will experience a similar reduction in simulator usage, merchandise sales and mobile Reactor purchases and leases that will have a negative impact on the Company and its future.
There is considerable competition for consumer entertainment dollars. The Company feels its patented technology, high-traffic, premium locations, licenses with popular NASCAR teams and tracks, and the ability to take its driving experience to the public through the activation of mobile Reactor experiences, create significant points of difference between the Company and its competitors. However, there can be no assurance that these factors will be sufficient to assure successful product development into the marketplace.
The Company has been and continues to build back monthly revenue share and lease payments that were given up as a result of the asset sale of 44 simulators to Race Car Simulation Corporation in three asset purchases totaling $2,856,600 in December, 2004 and March and April of 2005. The Company is also recovering from the loss of approximately $1.1 million in claimed damages as filed in its complaint against CFL and Mike Schuelke. The Company is currently using its inventory of used SMS simulators and building new Reactor simulators to install within revenue share, lease or purchased racing center sites to meet the installation demand. At December 31, 2007, the Company had built, or partially built, 192 SMS simulators, of which 77 had been sold or were in the process of being sold, 24 were at Company owned and operated sites, 63 were in revenue generating sites or in inventory ready to be installed in revenue generating sites, including 2 at the Company's engineering office, and 28 were in the process of being repossessed by the Company from the CFL bankruptcy. In addition, the Company had built 44 Reactor simulators with 38 installed in mobile experiences, 5 in fixed sites or trade show application and 1 used by Company for trades shows and rentals. Reactors are typically purchased with advance payments that cover manufacturing costs so that no financing is required by the Company.
Going forward, simulator sales (both SMS and Reactor) require an advance that will cover the manufacturing costs, so no financing is required for these installations. Financing will be required to manufacture the revenue share simulators that will be owed by the Company and installed into a revenue share partner's site. The Company continues to seek financially viable revenue share and lease partners for financing these installations, secured by simulators as collateral and minimum guarantee contracts.
Management has been and plans to continue to sell SMS simulators from its inventory base if necessary to cover cash flow needs until cash is built back up from any combination of revenue share, lease or new Reactors, although there can be no assurance that the demand will continue, or that the orders will come in a timely manner to meet the Company's cash needs. The Company sold 8 SMS simulators and 14 Reactor simulators in 2007.
The Company has a history of losses, and the report of our independent accountants issued in connection with the audit of our financial statements contained a qualification raising a doubt about our ability to continue as a going concern. The Company currently is relying on prospective debt financing arrangements, and on simulator sales revenue using its existing simulator inventory to offset its operating costs and debt obligations over the next 12 months, or until enough revenue share simulators are in the market to provide sufficient to cover these costs. As such, there is risk that the financing will not be available, or available on terms acceptable to the Company, and there is risk that the timing of the simulator sales will not coincide with the need for cash to cover operating expenses and note payments. If no meaningful financing is secured by the Company in the near term, it may jeopardize the Company's ability to maintain agreements with creditors to hold off taking actions against the Company for payments due
Dependence on Revenue Share Operators For Timely Payments
The Company relies on the timely payments from its revenue share operators in order to meet operational cash flow needs. The Company has also made certain performance guarantees and "most favored nations" obligations (installation priority) to Race Car Simulation Corporation (see Part 1, Item 3 Legal Proceedings). The Company continues to incur damages from the default on payments from CFL related to their assigned mall leases and revenue share agreements from around the country (see Part 1, Item 3 Legal Proceedings)
The Company will likely have a need to routinely update and upgrade its simulation technology. If the Company is not able to retain appropriate personnel with the skills and ability to maintain its simulators, it will likely have a material adverse effect on the Company. The Company will also need to routinely upgrade the appearance of the simulators to closely approximate that of the then current NASCAR sponsors. This updating may involve significant time and expense and, in certain instances, require additional license agreements from new teams and/or sponsors. The Company will also need to renew existing licensing agreements with NASCAR teams and tracks. The Company currently has executed either contracts or term sheets with many of the prominent NASCAR Sprint Cup teams and race tracks. The Company has incorporated to date six NASCAR tracks and over 30 NASCAR Sprint Cup car images into its proprietary software. The Company has the rights to many more prominent NASCAR tracks, and plans to add tracks to its software once funded.
Dependence on Small Number of Key Management Personnel
We do not have employment agreements with any of our employees. Our future success depends, in part, on the continued service of our key executive, management, and technical personnel. If key officers or employees are unable or unwilling to continue in their present positions, our business and our ability to raise capital could be harmed.
Our business is especially dependent upon the continued services of our Chairman and Chief Executive Officer, William R. Donaldson. Should we lose the services of Mr. Donaldson, our operations will be negatively impacted. The loss of the services of Mr. Donaldson would have a material adverse effect upon our business.
Officers and Directors Have Limited Liability and Indemnification Rights
Our officers and directors are required to exercise good faith and high integrity in the management of our affairs. Our articles of incorporation and bylaws, however, provide, that the officers and directors shall have no liability to the stockholders for losses sustained or liabilities incurred which arise from any transaction in their respective managerial capacities unless they did not act in good faith, engaged in intentional misconduct or knowingly violated the law, approved an improper dividend or stock repurchase, or derived an improper benefit from the transaction. Our articles of incorporation and bylaws also provide for us to indemnify our officers and directors against any losses or liabilities they may incur as a result of the manner in which they operate our business or conduct our internal affairs, provided that the officers and directors reasonably believe such actions to be in, or not opposed to, our best interests, and their conduct does not constitute gross negligence, misconduct or breach of fiduciary obligations.
Market and Capital Risks
Future issuance of Common Stock of the Company, including the exercise of currently outstanding Warrants and the issuance of shares to Ropart Asset Management as part of their compensation for the 2003 Bridge Note, may lead to dilution in the value of our common stock, a reduction in shareholder voting power, and allow a change in control.
Stock issuances may result in reduction of market price of our outstanding shares of common stock. If we issue any additional shares of common or preferred stock, proportionate ownership of our common stock and voting power will be reduced. Further, any new issuance of common or preferred shares may prevent a change in our control or management.
High-Risk Investment and Restrictions on Marketability
Our common stock has traded on the Over-the Counter Bulletin Board since August 2002. The bid price of our common stock has been less than $5.00 during this period. As such, our stock is subject to the penny stock rules adopted by the Securities and Exchange Commission that require brokers to provide extensive disclosure to its customers prior to executing trades in penny stocks. These disclosure requirements may cause a reduction in the trading activity of our common stock.
Broker-dealer practices in connection with transactions in penny stocks are regulated by certain penny stock rules adopted by the Securities and Exchange Commission. Penny stocks generally are equity securities with a price of less than $5.00. Penny stock rules require a broker dealer prior to a transaction in a penny stock not otherwise exempt from the rules, to deliver a standardized risk disclosure document that provides information about penny stocks and the risks in the penny stock market. The broker-dealer also must provide the customer with current bid and offer quotations for the penny stock, the compensation of the broker-dealer and its salesperson in the transaction, and monthly account statements showing the market value of each penny stock held in the customer's account. In addition, the penny stock rules generally require that prior to a transaction in a penny stock, the broker-dealer makes a special written determination that the penny stock is a suitable investment for the purchaser and receives the purchaser's written agreement to the transaction.
Because we are subject to the penny stock rules our shareholders may find it difficult to sell their shares.
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