SECURITIES AND EXCHANGE COMMISSION
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED January 31, 2010
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ______________ to ____________________
Commission file number 0-8174
5 Columbia Road
Registrants telephone number, including area code: (908) 722-8081
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer. See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer o Accelerated filer o Non-accelerated filer o Smaller reporting company x
Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Exchange Act) Yes o No x
The number of shares of common stock outstanding as of March 15, 2010 was 6,965,039.
The accompanying notes are an integral part of the condensed consolidated financial statements
The accompanying notes are an integral part of the condensed consolidated financial statements
The accompanying notes are an integral part of the condensed consolidated financial statements
Note 1 Unaudited Financial Statements
The condensed unaudited interim consolidated financial statements included herein have been prepared, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. The condensed consolidated financial statements and notes are presented as permitted on Form 10-Q and do not contain information included in the Companys annual statements and notes. Certain information and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures are adequate to make the information presented not misleading. It is suggested that these condensed consolidated financial statements be read in conjunction with the July 31, 2009 audited consolidated financial statements and the accompanying notes thereto.
These condensed unaudited consolidated financial statements reflect all adjustments, including normal recurring adjustments, which, in the opinion of management, are necessary to present fairly the operations and cash flows for the period presented. Results of operations for the six months ended January 31, 2010 should not necessarily be taken as indicative of the results of operations that may be expected for the fiscal year ending July 31, 2010.
The Company has filed an 8-K, on March 22, 2010 regarding non-reliance for the 10-Q for the period October 31, 2009. Adjustments to the October 31, 2010 10-Q relate to the accounting for derivative liability on convertible debt and warrants. All accounting adjustments for these convertible debentures and warrants have been property recorded for the six month period ended January 31, 2010. .
Note 2 Conversion of Debt
On September 8, 2008, the Company reduced the exercise price of the warrants issued in connection with the Subscription Agreement, dated March 12, 2007 (the Subscription Agreement), from $1.20 per share to $0.50 per share. As a result of the reduction of the warrant exercise price, pursuant to Section 12 (b) of the Subscription Agreement, the conversion price of the Convertible Notes issued in connection with the Subscription Agreement is now $0.50 per share. Any shares in excess of the shares that already have been registered for sale on conversion of the Notes will not be registered under the Securities Act of 1933, as amended, and, therefore, may not be offered for sale, pledged or hypothecated in the absence of an effective registration statement or an opinion of counsel reasonably satisfactory to the Company that such registration is not required.
On March 9, 2009 the Maturity Date of the Convertible debt was extended from March 11, 2009 to August 31,2009. In addition, from the date of March 9, 2009 until immediately after the Maturity Date, the holders may convert at a conversion rate of 75% of the average closing bid prices for the five trading days preceding the date of the Conversion Notice.
As a result of the above reductions in exercise and conversion prices, for the three months ended October 31, 2009 investors have converted $37,950 of debt for 46,592 common stock shares. The Company has recognized an Induced Conversion cost related to these conversions of $31,208 for the three months ended October 31, 2009.
The Company entered into a Subscription Agreement (the Subscription Agreement), dated as of August 3, 2009 (the Closing Date), with three investors, pursuant to which it sold an aggregate of One Million Dollars of its principal amount of secured promissory notes (the Notes). On the Closing Date the Company received gross proceeds of $500,000 and $500,000 (the Escrowed Funds) was placed in escrow pursuant to an Escrow Agreement between the Company, the Subscribers and the escrow agent. Pursuant to the Subscription Agreement, the Company was required to file a preliminary proxy statement with the Securities and Exchange Commission by September 2, 2009 seeking approval for the transactions contemplated by the Subscription Agreement and the Company was obtained approval of its shareholders on September 24, 2009.
The Company did receive the Escrowed Funds. Shareholder Approval was obtained and the amount of the Note was decrease to $500,000 and the Escrowed Funds were not returned to the Subscribers
The initial interest rate of the Notes is 4% per annum and upon the shareholder Approval the interest rate became 8% per annum. Interest accrues from the date of the Closing Date and is be payable quarterly, in arrears, commencing six
months after the Closing Date and on the maturity date of the Note. The Conversion Price of the Notes is $.78 (the Fixed Conversion Price) as may be adjusted (the Initial Conversion Price). Commencing six months after the Closing Date, the Conversion Price shall be the Fixed Conversion Price or 75% of the lowest three closing bid prices for the Companys common stock for the ten days prior to when the Note is converted.
The Company also issued the Subscribers Class A Warrants to purchase 1,282,051 shares of the Companys Common Stock at $1.12 per share. The Class A warrants are exercisable for a period beginning on August 3, 2009 and terminate on August 3, 2014. Pursuant to the Subscription Agreement, the Company also issued the Subscribers a total of 40,000 class B Warrants.
The Class B Warrants entitle the Subscribers after September 24, 2009 until July 3, 2012, to purchase up to $4,000,000 of principal amount of the Companys 8% notes on the same terms as the original Notes and 40,000 warrants (exercisable in 1,000 blocks) to purchase 128,205 shares of the Companys Common Stock, per 1,000 Warrants, at a per share purchase price equal to 105 % of the closing bid price of the Companys common stock or the exercise price of the Class A Warrants. For each $100,000 of principal of notes purchased pursuant to the Class B Warrants,the Subscribers will surrender 1,000 Class B Warrants.
The Notes cannot be converted to the extent such conversion would cause the Subscriber, together with such holders affiliates, to beneficially own in excess of 4.99% of the of the Companys outstanding common stock immediately following such conversion.
The Company paid the selling agent for this transaction, a cash fee of $100,000 (10% of the aggregate gross proceeds received by the Company) and issued warrants to purchase 256,410 shares of the Companys common stock ( 20% of the shares issuable to the subscribers upon conversion of the Notes). Fees paid to the selling agent will be amortized over the term of the subscription agreement.
At a Special Meeting of Shareholders held on September 24, 2009, the Shareholder Approval was obtained. As a result, the Escrowed Funds were released and after the payment of fees in the amount of $50,000 to the placement agent for the transaction. The Company received net proceeds of $450,000 (prior to the deduction of other fees and expenses related to the Offering).
At the Special Meeting of Shareholders held on September 24, 2009, Shareholder approval was obtained for the Companys 2009 Restrictive Stock Incentive Plan.
On September 28, 2009, the Company entered into an Advisory Service Agreement with Garden State Securities Inc. (GSS) to perform certain Advisory and Business services. The Board of Directors has approved the Company to issue 200,000 restricted common shares to GSS.
On October 21, 2009, two holders of the Companys outstanding Convertible Notes dated August 3, 2009 converted principal amounts of $221,256 and interest amounts of $3,855 and were issued a total of 288,605restricted common shares. On January 29, 2010, two holders of the Companys Convertible Notes dated August 3, 2009 converted additional principal amounts of $489,344 and interest amounts of $19,895.25 and were issued a total of 652,872 restricted common shares. At January 31, 2010 the remaining balance on these debentures amounted to $ 289,400, net of discount of $ 313,199.
On November 30, 2009, the Company filed a Preliminary Prospectus, Form S-1, subject to completion. This prospectus relates to the public offering of up to 635,070 shares of common stock, par value $0.01 per share, of Conolog Corporation, by the selling stockholder, which is issuable upon exercise of class A warrants with an exercise price of $1.12. The number of shares being registered is 33% of the shares held by non-affiliates of the company. The Form S-1 went effective as of December 11, 2009.
On December 29, 2009 the Company reduced the class A warrant exercise price for the 635,070 warrants registered on Form S-1 to $1.00 per Class A Warrant. The balance of the Class A Warrants was reduced to an exercise price of $0.01 per warrant.
During January 2010, the 635,070 class A warrants which were registered and reduced to a $1.00 exercise price were exercised for 635,070 shares of common stock.
Note 3 Major Customers
The Companys revenues from four customers accounted for $418,860 or 73% of total revenues in the six months ended January 31, 2010. Each of these four customers accounted for 10% or more of total revenues, which is the definition of a major customer. Accounts receivable from these same four customers at January 31, 2010 amounted to $49,793 of 77.5% of total accounts receivable.
Note 4 2009 Stock Incentive Plan
In accordance with the Companys 2009 Stock Incentive Plan, 735,000 shares of common stock were issued to officers, employees and directors of the Company at an aggregate market value of $1,381,800. Stock compensation expense for the six months ended January 31, 2010 and 2009 were $2,054,443 and $42,510 respectively. This non-cash expense was recorded in General and Administrative costs on the Condensed Consolidated Statements of Operations.
Note 5 Warrant and Conversion liabilities
Secured promissory notes in the amount of $1,000,000 were issued on August 3, 2009 and the 2,564,102 Class A common stock purchase warrant issued with these notes contain a provisions where the conversion and exercise price may reset. This provision creates a derivative and is separately accounted for as a liability at fair value. At March 6, 2010, all outstanding notes and warrants have been converted.
Note 6 - Loss Per Share of Common Stock
Loss per share of common stock is computed by dividing net loss (after dividends on preferred shares) by the weighted average number of shares of Common Stock outstanding during the year. The preferred dividends are not reflected in arriving at the net loss as they are not material and would have no effect on earnings per share available to common shareholders. The number of weighted average shares used in the computations includes 1,929,032 common stock purchase warrants recorded at a $0.01 value. The effect of assuming the exchange of Series A Preferred Stock and Series B Preferred Stock in 2009 and 2008 would be anti-dilutive.
Note 6 Subsequent Events
On February 14, 2010, one investor converted an additional principal amount of $100,000 and interest amounting to $4,208 for 133,601 common shares. After this transaction the remaining balance on these debentures amounted to $189,400. On March 8, 2010, one investor converted the remaining principal balance of $189,400 and interest amounting to $6,792 for 251,528 common shares.
During February 2010, 1,926,265 Class A Warrants ($0.01) were exercised on a Cashless basis for 1,926,265 shares of common stock. After these transactions, the remaining Class A Warrants amounted to 2,767.
On February 25, 2010, three investors converted 10,000 Class B Warrants for $1,000,000. Under the terms of the Class B warrants, The Company issued new interest bearing convertible debentures totaling $1,000,000 with interest at 8%. These new debentures can be converted into restricted common shares equal to $1.00 per share.
On February 26, 2010, the Company received a comment letter from the Securities and Exchange Commission. The Company is addressing any comments it believes are inapplicable.
FOR THE THREE AND SIX MONTHS ENDED January 31, 2010.
Product revenues for the three and six months ended January 31, 2010 decreased by $377,039 and $365,624 over the same three and six month periods the prior year. The entire decrease occurred during the three month period ended January 31, 2010. The Company attributes this decrease to the delay in receiving customer orders until late in the quarter.
Product cost (Materials and Labor) increased during the six month period ended January 31, 2010 by $59,627, offset by a decrease during the three month period ended January 31, 2010 of $33,324. Management attributes this six month increase to an increase in fixed labor cost off-set by a sales shift to newer, upgraded systems which bear a higher cost.
Gross Profit for the six months ended January 31, 2010 and 2009 amounted to $286,026 and $711,277 respectively. This decrease of $425,251 was directly related to the delay in receiving and shipping customer orders which primarily occurred during the three months ended January 31, 2010 when the Gross Profit decreased by $343,815.
Total Selling, general and administrative expenses for the six months ended January 31, 2010 and 2009 amounted to $3,257,251 and $1,133,547 respectively. This increase of $2,123,884 included the amortization of a non-cash expense of $2,054,443for the 2009 annual stock incentive grant to employees, officers and directors.
Other non-cash non-operating expenses for the current six month period totaled $5,455,306 and consisted primarily of expenses related to recording of equity derivatives on debt amounting to $5,306,521; and induced conversion cost of $150,201. Non-cash non-operating expenses recorded for the three month period ended January 31, 2010 amounted to $1,456,397.
As a result of the foregoing, the Company reported a net loss from operations of ($8,426,531) or ($2.93) per share compared to a loss of ($665,744) or ($ .99) per share for the six months ended January 31, 2010 and 2009, respectively. Loss per share of common stock included the weighted average of 1,929,032 common stock purchase warrants for the six months ended January 31, 2010.
LIQUIDITY AND FINANCIAL CONDITION
Inventories from the Companys product segment increased from $1,395,452 at July 31, 2009 to $1,484,351 for the six months ended January 31, 2010, an increase of $88,899.
Accounts Receivable-trade decreased to $63,260 for the six months ended January 31, 2010 from $245,980 as of July 31, 2009.
The Company expects to meet its cash requirements for the next twelve months through existing cash balances and cash generated from operations. At January 31, 2010 new non-cancelable orders for over $822,000 had been received for delivery during the year. On February 8, 2010 Conolog received $323,526 from sale of New Jersey State NOLs. In addition, on February 26th and March 3rd a total of $1,000,000 was received from existing investors. The Company also anticipates additional financing during the next 9 months of up to $3,000,000 from current investors.
FORWARD LOOKING STATEMENTS
This quarterly report contains certain forward-looking statements within the meaning of Section 27A of The Securities Act of 1933, as amended and section 21E of The Securities Act of 1934, as amended. Such Statements are subject to certain risks and uncertainties, including, among other things, significant variations in recognizing revenue due to customer-caused delays, and intense competition from more well known companies, that could cause actual results to differ materially from historical earnings and those presently anticipated or projected. The Company wishes to caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made. The Company wishes to advise readers that the factors listed above, among other factors, could affect the Companys financial performance and could cause the Companys actual results for future periods to differ materially from any opinions or statements expressed with respect to future periods in any current statements. The Company does not undertake, and specifically declines any obligations, to publicly release the results of any revisions, which may be made to any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of unanticipated events.
Evaluation of Disclosure Controls and Procedures
It is managements responsibility to establish and maintain adequate internal control over all financial reporting pursuant to Rule 13a-15 under the Securities Exchange Act of 1934 (the Exchange Act). Our management, including our principal executive officer and our principal financial officer, have reviewed and evaluated the effectiveness of our disclosure controls and procedures as of the filing date of Form 10-K Annual Report. Based upon their evaluation as of January 31, 2010, the end of the period covered by this 10Q report, the Companys chief executive officer and chief financial officer concluded that, the Companys disclosure controls and procedures are not effective to ensure that information required to be included in the Companys periodic SEC filings is recorded, processed, summarized, and reported within the time periods specified in the SEC rules and forms.
The Companys board of directors was advised by Management, that during their review of audit procedures for fiscal 2009 Management identified a material weakness in the Companys internal control over financial reporting.
The deficiency consisted primarily of inadequate staffing and supervision that could lead to the untimely identification and resolution of accounting and disclosure matters and failure to perform timely and effective reviews. However, the size of the Company prevents us from being able to employ sufficient resources to enable us to have adequate segregation of duties within our internal control system. Management is required to apply its judgment in evaluating the cost-benefit relationship of possible controls and procedures.
Changes in Internal Control over Financial Reporting
There were no changes in our internal control over financial reporting that occurred during the period covered by this Quarterly Report on Form 10Q that have materially affected, or are reasonably likely to materially affect our internal control over financial reporting.
Managements Report on Internal Control over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial reporting and for the assessment of the effectiveness of internal control over financial reporting. Our internal control system was designed to provide reasonable assurance to our management and Board of Directors regarding the preparation and fair presentation of published financial statements. Our management assessed the effectiveness of our internal control over financial reporting as of July 31,2009. In making this assessment, it used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control Integrated Framework. Based on our assessment our management has concluded that our control and procedures were not effective as of the end of the period covered by this Report due to the existence of the significant internal control deficiencies described below.
The deficiency consisted primarily of inadequate staffing and supervision that could lead to the untimely identification and resolution of accounting and disclosure matters and failure to perform timely effective reviews. This annual report does not include an attestation report of the Companys registered accounting firm regarding internal control over financial reporting. Managements report was not subject to attestation by the Companys registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission.
Item 1. Legal Proceedings A Promissory Note dated October 22, 2002 from Natony Corp. and Independent Computer Maintenance, LLC to Conolog Corporation came into default during November 2009. The Company is currently filing for a judgment seeking full payment and penalty against the makers.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds: During the quarter ended January 31, 2010, two Note Holders exercised conversion rights to convert $489,344 principal and $19,895.25 of interest to 538,442 unregistered shares of common stock. In connection with the foregoing, the Company relied upon the exemption from securities registration afforded by Rule 506 of Regulation D as promulgated by the SEC under the Securities Act of 1933, as amended (the Securities Act) an/or Section 4(2) of the Securities Act. No advertising or general solicitation was employed in offering the securities. The offerings and sales were made to a limited number of persons, all of whom were accredited investors, and transfer was restricted by the Company in accordance with the requirements of the Securities Act of 1933.
At a Special Meeting of Shareholders held on September 24, 2009, the Shareholder Approval was obtained. As a result, the Escrowed Funds related to the August 3rd Subscription Agreement were released and after the payment of fees in the amount of $50,000 to Garden State Securities, Inc., the placement agent for the transaction, the Company received net proceeds of $450,000 (prior to the deduction of other fees and expenses related to the Offering).
At the Special Meeting of Shareholders held on September 24, 2009, Shareholder approval was obtained for the Companys 2010 Restrictive Stock Incentive Plan.
In accordance with the requirements of the Exchange Act, the Registrants caused this report to be signed on its behalf by the undersigned, thereunto and duly authorized