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SPRO > SEC Filings for SPRO > Form 10-Q on 7-Nov-2013All Recent SEC Filings

Show all filings for SMARTPROS LTD.

Form 10-Q for SMARTPROS LTD.


7-Nov-2013

Quarterly Report


Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion of our financial condition and results of operations should be read in conjunction with the condensed consolidated financial statements and related notes included elsewhere in this report. Some of the statements in this discussion and elsewhere in this report constitute forward-looking statements within the meaning of Section 21E of the Securities and Exchange Act of 1934. See "Forward-Looking Statements" following the Table of Contents of this report. Because this discussion involves risk and uncertainties, our actual results may differ materially from those anticipated in these forward-looking statements.
The terms "we," "our," "us," or any derivative thereof, as used in this report refer to SmartPros Ltd., a Delaware corporation, its subsidiaries and its predecessors.

Overview
We provide learning solutions for accounting/finance, legal, insurance, securities and engineering professionals - five large vertical markets with mandatory continuing education requirements - as well as for tax compliance, banking and information technology professionals. We provide corporate governance, ethics and compliance training for the general corporate market. We also have content consisting of web-based training in the human resources and health and safety areas. We offer off-the-shelf courses and custom-designed programs with delivery methods suited to the specific needs of our clients. Through Loscalzo Associates Ltd. ("Loscalzo"), one of our wholly-owned subsidiaries, and our Executive Enterprise Institute ("EEI") product line within our Accounting division, we are a leading provider of live training to accountants, tax and financial professionals. These courses are delivered through various state CPA societies, accounting firms, corporations or through seminars, Webinars and conferences that they conduct. Our customers include professional firms of all sizes, and a large number of businesses. We also offer comprehensive support services for training, ranging from course design and implementation, accreditation services to technology solutions.
We measure our operations using both financial and other metrics. The financial metrics include revenues, gross margins, operating expenses and income from continuing operations. Other key metrics include (i) revenues by sales source,
(ii) online sales, (iii) cash flows and (iv) EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization). Some of the most significant issues affecting our business are the following:


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          the increasing recognition by professionals and their employers of the
           importance of continuing professional education in order to maintain
           their licenses, remain current on new developments and best practices,
           develop and improve their skills and to generally remain competitive;


          continuing professional education requirements by governing bodies,
           including states and professional associations;


          the issuance of new laws, case law and regulations affecting the
           conduct of business and the relationship between employers and their
           employees;


          the lack of the issuance of new financial accounting standards and the
           retreat from attempting to achieve greater compatibility with
           International Financial Reporting Standards;


          the increased competition in today's economy for skilled employees and
           the recognition that effective training can be used to recruit, train
           and redeploy employees;


          the development and acceptance of the Internet as a delivery channel
           for the types of products and services we offer;



          the securities industry's growing emphasis on applying technology
           based tools to address the growing complexity of compliance
           regulations; and

the need to continuously update the content in our course catalogs.

Over the last five years, our annual net revenues have ranged from $15.9 million to $18.3 million. We experienced an overall decline in revenues from 2009 through 2012. We attribute this decline to a number of factors, but primarily due to general economic conditions as well as the relative absence of changes in laws, regulations and accounting standards. Many companies have looked at their budgets, reduced their headcounts and considered other factors in evaluating their expenditures for continuing education for their employees. Although, we have made acquisitions of companies, assets and product lines that have enhanced our overall content and product offerings, the staggering effects of the economy and the other reasons previously cited have resulted in lowered attendance at our live seminars, pricing pressure on our subscription-based products and until recently reduced interest in custom work. We have countered these pressures by introducing new products and services, such as CPE administration, software designed for those industries having an internal branch audit function, re-mixing our product offerings and changing our selling strategies. We continue to believe that our growth will be through acquisitions, the development of new products and services and cross selling our existing libraries to the various markets we serve.
While we have seen an increase in some of our custom work, our subscription-based revenue in general has not fluctuated much from quarter to quarter or year to year. We have experienced a decline in revenue from live training programs and the sale of engineering courses which have adversely impacted our operating results. We believe that this trend is primarily due to current economic conditions, competition, consolidations in various industries and the relative absence of new accounting standards, laws and regulations. However, we believe that our subscription based products provide a cost-effective means for many companies to provide continuing education for their employees and we have seen an increase in net revenues from custom work during the current period. We are constantly seeking both new markets and new ways to market our products. As we expand our product offerings and the content of our various libraries, we are able to offer more products to the same customer through cross-selling. We also recognize that we will most likely need to invest more money in our sales infrastructure and outbound marketing budgets to drive net revenue.
Business acquisitions or strategic asset purchases are our preferred strategy to increase the breadth and depth of our current product offerings. Unless there are other compelling reasons, we will only consider acquisitions that we believe will be accretive within the first year of ownership. Ultimately, however, our goal is to maximize shareholder value rather than short-term profits. The size of the acquisitions will be determined, in part, by the amount of capital available to us and the liquidity and price of our stock. We may use debt to enhance or augment our ability to consummate larger transactions. We cannot assure that we will be able to identify appropriate acquisition opportunities or negotiate reasonable terms or that any acquired business or assets will deliver the shareholder value that we anticipated at the outset.
With the launch of our SmartPros eCampus (eCampus) Learning Management System (LMS), a robust platform and toolset for managing and deploying corporate training and accredited continuing education programs in multiple formats, we anticipate that this product will help drive opportunities with both existing and new clients. It can also be licensed as a stand-alone-offering to companies of all sizes who are looking for a cost-effective cloud based LMS. In addition, we are developing technology so that our content may be used on iPads, tablets and other similar devices.


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As we seek new business growth strategies and try to mitigate the market's perception that training is a commoditized product, we recognize that many of the clients we service also require solutions for their compliance and other needs. We are finding that our experience in critical compliance areas combined with our technological expertise and resources can combine to provide excellent solutions for clients seeking a one-stop source for their various training and compliance needs. An example of this is our Audit Management System ("AMS"), designed for companies that perform internal audits of their branch offices that we developed in conjunction with a leading securities industry broker-dealer. As we introduce other new products along with AMS, we will have a suite of products addressing financial services regulatory training, branch audit compliance and advisor's disclosure compliance, that will attract the attention of much of the securities market.
There are many risks involved with acquisitions, some of which are discussed in Item 1 of Part 1 under the caption "Certain Risk Factors That May Affect Our Growth and Profitability" of our annual report on Form 10-K for the fiscal year ended December 31, 2012. These risks include seasonality of revenues, integrating the acquired business into our existing operations and corporate structure, retaining key employees and minimizing disruptions to our existing business.
Our common stock ("Common Stock") trades on the NASDAQ Capital Market under the symbol "SPRO."

Critical Accounting Policies and Estimates The discussion and analysis of our financial condition and results of operations is based on our consolidated financial statements that have been prepared according to accounting principles generally accepted in the United States. In preparing these financial statements, we are required to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses and related disclosures of contingent assets and liabilities. We evaluate these estimates on an ongoing basis. We base these estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. Actual results may differ from these estimates under different assumptions or conditions. We consider the following accounting policies to be the most important to the portrayal of our financial condition. Revenue recognition
A large portion of our revenue is in the form of subscription fees for our monthly accounting update programs or access to our library of accounting, financial services training and legal courses. Other sources of revenue include direct sales of programs or courses on a non-subscription basis or from various forms of live training, fees for Web site design, software development, video production, course design and development and ongoing maintenance fees from our client's use of eCampus or our Smartpros' Professional Education Center ("PEC"), our proprietary learning management systems. Subscriptions are billed on an annual basis, payable in advance and deferred at the time of billing. Sales made over the Internet are by credit card only. Renewals are usually sent out 60 days before the subscription period ends. Larger transactions are usually dealt with by contract, the financial terms of which depend on the services being provided. Contracts for development and production services typically provide for a significant upfront payment and a series of payments based on deliverables specifically identified in the contract.
Revenue from subscription services are recognized as earned, deferred at the time of billing or payment and amortized into revenue on a monthly basis over the term of the subscription. Engineering products are non-subscription based and revenue is recognized upon shipment of the product or, in the case of online sales, payment. Revenue from non-subscription services provided to customers, such as Web site design, video production, consulting services and custom projects is generally recognized on a proportional performance basis where sufficient information relating to project status and other supporting documentation is available. The contracts may have different billing arrangements resulting in either unbilled or deferred revenue. We obtain either a signed agreement or purchase order from our non-subscription customers outlining the terms and conditions of the sale or service to be provided. Otherwise, these services are recognized as revenue after completion and delivery to the customer. Revenue from the sale of other products and services are generally recognized upon shipment or, if later, when our obligations are complete and realization of receivable amounts is assured.
Revenue from live training is recognized when the seminar or conference is completed. These are usually one to three day events. Impairment of long-lived assets
We review long-lived assets and certain intangible assets at least annually or when events or circumstances indicate that the carrying amounts may not be recovered. We recognize that the economy has not yet fully recovered and has impacted the operations of certain divisions of our company. Therefore, we periodically review certain intangible assets related to prior acquisitions. In 2012, we recognized an impairment to assets acquired from an acquisition and management continues to monitor the situation as it relates to our overall operations.


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Stock-based compensation
Compensation costs are recognized in the financial statements for stock options or grants awarded to employees and directors. Options and warrants granted to non-employees recorded as an expense at the date of grant based on the then estimated fair value of the stock-based instrument granted. Options and grants awarded to employees or directors are expensed over their respective vesting periods.
Segment accounting
All of our operations constitute a single segment, that of educational services. Revenues from non-educational services, such as video production are not a material part of our operating income.
Income taxes
We account for deferred tax assets available principally from the temporary differences related to our fixed and intangible assets and our net operating loss carryforwards in accordance with the Accounting Standards Codification. We make significant estimates and assumptions in calculating our current period income tax liability and deferred tax assets. The most significant of these are estimates regarding future period earnings. Our net deferred tax asset is estimated by management using a three-year taxable income projection. In the event that our projections change due to economic uncertainties, we may adjust the realizable amount of our deferred tax asset. Management continues to monitor these projections and assumptions on an ongoing basis.

Results of Operations
Our operating results for the nine and three month periods ended September 30, 2013 are affected by a number of factors including the seasonality of some of our products, primarily live training, offset by increases in net revenues from custom work thus resulting in fluctuations in our operating and our net income/loss. The first nine months of 2013 as compared to the first nine months of 2012, reflected a 6% increase in net revenues with an accompanying increase in cost of revenues. This resulted in a higher gross profit and reduced our operating loss to $471,000 in 2013, from $1.1 million in 2012. Our net loss for the nine month period ended September 30, 2013, as compared to the 2012 period reflected a decrease of approximately $582,000 or 68%. For the current year's quarter we had an operating income of $404 as compared to an operating loss of $309,000 in the same 2012 period. Our net revenues for the nine and three month periods increased by approximately $677,000 and $178,000, respectively, from the comparable 2012 periods. Our core businesses have remained fairly stable and we have seen an increase in some of our custom work. We continue to seek to acquire either content in new or complimentary markets; make our sales force more effective and reduce expenses where appropriate. As previously mentioned, in 2012, we acquired content in the human resources and health and safety areas, markets that we previously did not serve. We are also continuously looking for ways to upgrade our product offerings with either new content or upgrading our existing offerings with current technology.
Comparison of the results of operations for the three months ended September 30, 2013 and 2012
We recorded a $178,000, or 5% increase in net revenues for the three months ended September 30, 2013, compared to the same 2012 period. Our gross profit margin increased to 55.7% in the 2013 period as compared to 54.9% in the 2012 period, as a result of previous cuts in certain direct expenses and increased revenues from custom work in the current year's period. A substantial portion of the increase in net revenues came from our Skye Multimedia Ltd. ("Skye") subsidiary and our Financial Services division. Operating results for the 2013 period were impacted by overall increases in net revenues from some of our divisions, as we continue to seek ways to work in a still sluggish economy. General and administrative expenses were approximately $177,000 lower in the 2013 period as compared to the 2012 period, and depreciation and amortization expense increased approximately $33,000, as we started to amortize our internally developed software. Although we experienced an increase in net revenues from custom work in this quarter, we cannot be certain that it is indicative of future results. We do see growth potential in our content-based businesses in the various verticals that we service and in technology that we have designed for the financial services industry. Custom work is non-repetitive and subject to market conditions and can vary from quarter to quarter. Our live training divisions had relative flat revenues despite reduced attendance at various seminars and the lack of new accounting pronouncements, as they add new services and clients. The live training business primarily recognizes its revenues in the second through fourth quarters of the year.
Online revenues, which previously were primarily derived from the sales of accounting/finance products, continue to be an important factor to our net revenues. Many of our other products, including our Cognistar Legal library, our Financial Campus courses, our engineering courses, our technology training products and our human resources and health and safety coirses, are also delivered online and are also significant generators of net revenues. Approximately 46% of our current period net revenues were derived from online products.


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The following table compares our statement of operations data for the three months ended September 30, 2013 and 2012. The trends suggested by this table may not be indicative of future operating results, which will depend on various factors including the relative mix of products sold (accounting/finance, law, engineering, financial services, sales training - product, technology or compliance and ethics) and the method of sale (video or online) as well as the timing of custom project work, which can vary from quarter to quarter. In addition, our operating results in future periods may also be affected by acquisitions.

                                                Three months ended September 30,
                                        2013                          2012
                                Amount       Percentage       Amount       Percentage      Change
Net revenues                 $ 3,756,349         100.0 %   $ 3,578,399        100.0  %        5.0  %
Cost of revenues               1,608,687          42.8 %     1,595,813         44.6  %        0.8  %
Gross profit                   2,147,662          57.2 %     1,982,586         55.4  %        8.3  %
Selling, general and
administrative                 1,836,413          48.9 %     2,013,599         56.3  %       (8.8 )%
Depreciation and
amortization                     310,845           8.3 %       277,498          7.8  %       12.0  %
Total operating expenses       2,147,258          57.2 %     2,291,097         56.4  %       (6.3 )%
Operating income (loss)              404             - %      (308,511 )       (8.6 )%     (100.1 )%
Other income, net                  7,633             - %         6,375            -  %       19.7  %
Net income (loss) before
income tax                         8,037           0.2 %      (302,136 )       (8.4 )%     (102.7 )%
Benefit (provision) for
income taxes                       1,035             - %       (59,592 )       (1.7 )%     (101.7 )%
Net income (loss)            $     9,072           0.2 %   $  (361,728 )      (10.1 )%     (102.5 )%

Net revenues
The increase in net revenues reflected above was due to: (i) a $243,000 increase in net revenues from our Skye subsidiary; (ii) a $117,000 increase in net revenues from our Financial Services division; and (iii) a $4,000 increase in net revenues from our Accounting/Finance division. These increases were offset by (i) a $62,000 decrease in revenues from our Engineering division; (ii) a $104,000 decrease in net revenues from from our SLE subsidiary and (iii) a $20,000 decrease in net revenues from our other divisions. Under our long-standing policy, revenue is credited to the originating department regardless of the type of service that is performed. For example, our Skye subsidiary may provide a custom e-learning solution for a client of our SLE subsidiary. However, SLE is credited with the entire amount of the sale. In both of the third quarters of 2013 and 2012, net revenues from the Accounting/Finance division were approximately $2.7 million, or 72% and 75% of net revenues, respectively. Net revenues from subscription-based products and direct sales of course material on a non-subscription basis were $1.9 million in both the 2013 and 2012 periods. Net revenues from other products in our Accounting/Finance division that are not subscription based and live-training decreased by approximately $15,000 in 2013 from the 2012 period, primarily from decreased attendance at live training events. Non-subscription-based revenues fluctuate from period to period and are not indicative of any trends. In the 2013 period, net revenues from online sales of accounting products increased by approximately $85,000 as compared to the 2012 period, primarily as a result of increased usage. Net revenues from our Loscalzo live training subsidiary decreased by $54,000 in the 2013 period compared to the 2012 period. Our EEI live training division's revenues were $18,000 in the 2013 period as compared to $63,000 in 2012 period. The decrease in net revenues is from decreased attendance at live training events offset by increased revenues from CPE administration.
For the three-months ended September 30, 2013, Skye generated net revenues of $372,000 compared to $129,000 in the third quarter of 2012. Skye's income is derived primarily from designing custom training projects and, as such, varies from quarter to quarter. In addition, Skye performs services for other divisions of our company, for which it does not receive any revenue recognition. Although we see an increase in request for proposals from clients, no assurance can be given that these requests will result in signed contracts or future revenues. Skye continues to see competitive pressure from both domestic and foreign sources, especially in pricing, Businesses are continuously evaluating these types of services and products and their cost effectiveness. Often contracts are signed but the work does not begin for a period of time thereafter. Skye continues to market its iReflect product developed in a joint venture. Our Financial Services division generated $503,000 of net revenues in the quarter ended September 30, 2013. For the quarter ended September 30, 2012, this division generated $386,000 of net revenues. The increase is primarily due to the recognition of income from new technology based products and increased services to clients. We recently released our AMS system which we believe will have a positive effect on this division's future revenues.


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For the quarter ended September 30, 2013, SLE had net revenues of $94,000 compared to net revenues of $198,000 for the comparable 2012 quarter. For the 2013 period, $33,000 of SLE's net revenues was generated by our Working Values Ethics and Compliance division, and $61,000 was generated by our Cognistar Legal division, as compared to $39,000 and $159,000, respectively, in the 2012 period. Net revenues generated by the Working Values Ethics and Compliance division are derived primarily from custom consulting work and can fluctuate from period to period based on a number of factors. The Cognistar Legal division derives its revenue primarily from the sales of its courses and the creation of courses for its clients.
Our Engineering division generated $76,000 of net revenues in the third quarter of 2013 compared to $138,000 in the third quarter of 2012. The decrease is primarily from lower sales to professional organizations. We are currently developing new review courses for those candidates seeking engineering licenses as the testing requirements have changed. Sales of our engineering products are not subscription based. We now include our information technology product, Watch-IT's revenues in the Engineering division.
Net revenues generated by our other divisions, which consist of video production and duplication and consulting in the third quarter of 2013 were $19,000. In comparison, these divisions recorded $39,000 of net revenue for the third quarter of 2012.
Cost of revenues
Cost of revenues includes: (i) production costs - i.e., the salaries, benefits and other costs related to personnel, whether our employees or independent contractors, who are used directly in production, including producing our educational programs and/or upgrading our technology; (ii) royalties paid to third parties; (iii) the cost of materials, such as DVD's and packaging supplies; (iv) costs related to live training; and (v) shipping and other costs. There are many different types of expenses that are characterized as production costs and many of them vary from period to period depending on many factors. Generally, subscription based products have higher profit margins than non-subscription based products and online sales have higher profit margins than sales involving physical delivery of material.
Our gross profit margins for the three months ended September 30, 2013 increased slightly from 55.4% in the comparable 2012 period to 57.2% in the 2013 period, primarily due to the increase in revenues and reduced costs. Although, we have made meaningful reductions in technology personnel offset by increases in outsourced labor, our expenses remained relatively constant at approximately $1.60 million in both the 2013 and 2012 periods. In addition, we have added personnel for the development of new courses in our accounting/finance library and as instructors for our live training divisions. The costs of updating either our course content or existing software are charged to expense as they are incurred.
Cost of revenues increased by approximately $13,000 in the 2013 period as compared to the 2012 period.
Outside labor and direct production costs. Outside labor includes the cost of hiring actors and production personnel such as directors, producers and cameramen and the outsourcing of non-video technology. The cost of such outside labor, which is primarily technology personnel, increased $70,000. . . .

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