UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the fiscal year ended December 31, 2005
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934.
Commission file number:
NETFABRIC HOLDINGS, INC.
Formerly Houston Operations Company
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(Name of Small Business Issuer in Its Charter)
Delaware 76-0307819
(State of Incorporation or Organization) (I.R.S. Employer Identification No.)
Three Stewart Court
Denville, NJ 07834
(Address of Principal Executive Offices)
(973) 887-2785
(Issuer's Telephone Number, Including Area Code)
Securities registered under Section 12(b) of the Exchange Act: NONE.
Securities registered under Section 12(g) of the Exchange Act: Common Stock,
$.001 par value
Check whether the issuer is not required to file reports pursuant to Section 13
or 15(d) of the Exchange Act.
|X|
Check whether the issuer: (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities Exchange Act during the past 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.
|X| Yes No |_|
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. |X|
Indicate by a check mark whether the registrant is a shell company (as defined
in Rule 12b-2 of the Exchange Act) |_| Yes No |X|
State issuer's revenues for its most recent fiscal year: $12,541,268
The aggregate market value of the voting stock held by non-affiliates per the
closing stock price of March 31, 2006 is $8,253,734.
As of April 10, 2006, 62,508,883 shares of common stock of the issuer were
outstanding.
Transition Small Business Disclosure Format (check one): |_| Yes No |X|
1
PART I
From time to time, including in this annual report on Form 10-KSB,
NetFabric Holdings, Inc. (the "Company", "NetFabric", "our" or "we") may publish
forward-looking statements relating to such matters as anticipated financial
performance, business prospects, future operations, new products, research and
development activities and similar matters. A variety of factors could cause our
actual results to differ materially from the anticipated results or other
expectations expressed in our forward-looking statements. The risks and
uncertainties that may affect the operations, performance, development and
results of our business include, without limitation, the following: general
economic and business conditions, both nationally and in our markets; our
expectations and estimates concerning future financial performance, financing
plans, acquisitions or mergers, and the impact of competition; our ability to
implement our acquisition and growth strategy; anticipated trends in our
business; advances in technologies; and, other risk factors set forth under
"Risk Factors" beginning on page 14 in this report.
ITEM 1. DESCRIPTION OF BUSINESS
We were incorporated in Delaware in August 1989 as Houston Operating
Company. On December 9, 2004 we acquired NetFabric Corporation ("NetFabric
Corp.") and on April 19, 2005 we changed our name to NetFabric Holdings, Inc. On
May 20, 2005, we acquired UCA Services, Inc ("UCA").
We are now organized into three distinct divisions. NetFabric Holdings,
Inc. is the holding company that houses the finance and administrative functions
and is responsible for financing transactions and regulatory compliance
activities. NetFabric Corp. is a provider of hardware and services to small to
mid-sized businesses ("SMBs") that utilize the Internet for telephone
communications or Voice over Internet Protocol ("VoIP"). NetFabric Corp.
develops and markets appliances or Customer Premises Equipment ("CPE") that
simplify the integration of standard telephone systems with an IP
infrastructure. UCA provides IT services and solutions to a wide range of
clients in the financial industry as well as the pharmaceutical, healthcare and
hospitality sectors.
On December 9, 2004, we entered into an acquisition agreement (the
"Acquisition Agreement") with all of the stockholders of NetFabric Corp. At the
closing, which occurred at the same time as the execution of the Acquisition
Agreement, we acquired all of the issued and outstanding capital stock of
NetFabric Corp. from the stockholders in exchange for an aggregate of 32,137,032
newly-issued shares of our common stock. The acquisition was accounted for as a
reverse merger whereby NetFabric Corp. was treated as the acquirer. NetFabric
Corp. was incorporated in the State of Delaware on December 17, 2002, as a new
corporation and not as a result of a material reclassification, merger,
consolidation, purchase or divesture.
Prior to our acquisition of NetFabric Corp., we did not have any
operations, and we were a shell company whose primary business objective was to
merge and become public. Immediately prior to the NetFabric Corp. acquisition,
our directors were Wesley F. Whiting and Redgie Green. Our officers were, Wesley
F. Whiting - President and Redgie Green - Secretary. The directors of NetFabric
Corp were Jeff Robinson (Chairman), Richard Howard and Charlotte Denenberg. The
officers of NetFabric Corp were, Jeff Robinson - Chief Executive Officer, Walter
Carozza - Chief Financial Officer, Philip Barak - Vice President of Finance,
Victoria Desidero - Vice President of Marketing.
On May 20, 2005, we entered into and closed on a share exchange
agreement, whereby we purchased all of the issued and outstanding shares of UCA
from its shareholders in exchange for the issuance of 24,096,154 shares of our
common stock.
2
On February 13, 2006, we entered into an agreement with UCA to amend
the terms of the share exchange agreement between the Company and the UCA
shareholders, dated May 20, 2005. Pursuant to the amendment, we issued an
aggregate of nine million shares of our common stock to the former shareholders
of UCA. In return, the former shareholders of UCA released the Company from the
capital raising covenant of the share exchange agreement. To facilitate the
transaction, Mr. Jeff Robinson, our Chief Executive Officer, surrendered nine
million shares of our common stock owned by him.
Voice over Internet Protocol ("VoIP") Business
Our plan is to develop and sell voice-over internet platforms and
services to SMB's that are designed to simplify the incorporation of
telephone systems into a company's infrastructure. We believe our products
deliver productivity gains to SMB's and are intended to provide cost reductions.
We developed and planned to sell a family of IP appliances that simplify the
incorporation of any telephone system into a company's IP infrastructure while
reducing the cost of telephone calls. Our products deliver productivity gains to
SMB's with cost reductions, while maintaining reliability of conventional phones
and ease of use.
Based on our sales efforts, we found that the market requires a turnkey
solution that bundles all of the necessary hardware and VoIP service into a
single product offering. To address this need, we have started a test marketing
of a VoIP service component by reselling a third party VoIP transport provider.
Our Products
We have developed two product lines: FUS1ON 4x4 and 12x8. We completed
development and certification of the FUS1ON 4x4 product line, and the product is
currently available for sale. Development on the FUS1ON 12x8 is complete;
however, we have not had the product certified by the Canadian Standard
Association (CSA) and under Underwriters Laboratories Inc. (UL) standard. Our
initial certification efforts were unsuccessful. We believe we can redesign the
product layout and resubmit for certification, a process that could take three
to four months and cost approximately $20,000. However, we are not currently
pursuing the redesign and certification effort since we are evaluating our
product strategy.
Our Fusion products attach to existing business phone systems and provide for
the upgrade of the system to use VoIP. A fusion product connects with the
customers' private telephone exchange and the Internet and based on the signals,
it directs traffic to the appropriate connection. For customers to have VoIP
connectivity, they will additionally need a gateway product that will interface
with the Internet. We do not manufacture nor plan to manufacture gateway
products. The Fusion 4x4 handles phone systems with up to 4 lines, while the
Fusion 12 x 8 handles phone systems of up to 8 lines.
We also provide VoIP transport service by reselling the services of a third
party VoIP provider, Ecuity Advanced Communications, Inc ("Ecuity"). Based on a
service agreement with us, Ecuity provides VoIP connectivity to our customers
through Ecuity's infrastructure. Ecuity charges us a whole sale price for each
of our customers they service. To date, we have a small amount of customers
using this service, and revenues generated from this effort have been minimal.
We are using this opportunity to understand the market better.
Market Size
We estimate the size of the U.S. SMB market for our products to be in excess of
$3 billion for hardware products. This is based on our internal estimate and is
not independently confirmed by external agencies.
Intellectual Property
We are not currently pursuing any patent filings for our products.
3
Sales and Distribution Strategy
Our plan is to sell our products and services indirectly to SMB's through
established channels of Value Added Resellers (VAR), system integrators and
distributors. We have had very limited success in attracting business from
established sales channels. In order to attract business from established sales
channels, we believe that we need far greater resources than what we have.
We have a written agreement with Williams Telecommunications Corp ("Williams"),
whereby Williams purchases and resells our products to end-users and VARS, and
for use in conjunction with its own customer product offerings. Under the terms
of the agreement, Williams orders products directly from us. We ship those
products as directed by Williams and invoice Williams on a net 30 day basis. To
date, our business with Williams has been for minimal amounts and we do not
anticipate doing material business with Williams in the foreseeable future.
Manufacturing and Component Supply
We used a contract manufacturer for the limited units we have assembled.
Currently, we do not anticipate assembling our products in large numbers.
Competition
We believe that our approach to SMB's is unique. However, there are several
companies that sell hardware to SMB's that use VoIP. Many of our competitors
have significantly greater financial, technical, marketing and other resources
than we do, and our share of the market compared to theirs is too small to
quantify. Some of the notable companies that specialize in providing hardware to
SMB's include Quintum Technologies, Inc., Better Online Solutions, Ltd and
Multi-Tech Systems, Inc.
Our plans
To date our revenues from VoIP operations have been minimal. We have concluded
that we cannot implement our original business plan for VoIP operations with
the resources we have or with the additional capital we can raise in the near
term. In the recent past, we have scaled back our VoIP operations, including our
product development efforts. Currently, we are evaluating the various products
and services that we can offer within the capital resources available to us in
the near term. In addition, we are exploring other strategic options for our
VoIP operations. We are also evaluating the possibility of viewing VoIP as an
important extension of our current skill sets in IT services and as a means of
having a platform in place through which we can sell new value added services.
However, we do not have any such new operations available for sale to our
customers. We anticipate making a determination about our VoIP operations in the
second quarter of 2006.
Information Technology (IT) Services
We serve the information and communications needs of a wide range of Fortune 500
and SMB clients in the financial markets industry as well as the pharmaceutical,
health care and hospitality sectors. Our broad range of services include (i)
Managed Services (ii) Professional Services (iii) IT Infrastructure &
Communications Services and Maintenance and (iv) Application Development and
Maintenance.
Managed Services
In Managed Services, a client outsources the management of some or all of their
applications so that their internal management and staff can focus on projects
that will help them in creating and fostering initiatives that will aid in
delivering a competitive advantage to their company. Our services in this area
include data center services, help desk and facilities management. We also
provide a fully managed suite for storage management, information protection
(backup and recovery) and information optimization (archival services) from the
data center to the desktop.
4
Professional Services
We provide a wide range of IT staffing services to companies in diversified
vertical markets, including financial services, telecommunications,
manufacturing, information technology, pharmaceutical, transportation and health
care to augment client resource demands. Consultative and staffing resources may
be used to undertake a role on a long-term strategic project or fill a
short-term need for a technology skill set. We deliver qualified consultants and
project managers for contract assignments and full-time employment across many
technology disciplines. Areas of expertise include project management, business
analysis, systems architecture and design, database architecture and design,
application code development, network engineering, quality assurance and
testing.
IT Infrastructure & Communications Services
We provide customers with IT infrastructure (such as personal computers,
printers, phone systems, networks, servers and switches) design, development,
deployment services from project planning and implementation to full-scale
network, server and workstation installations. We also provide an end-to-end
solution for automating the deployment/version upgrades of desktop and server
operating systems, including the associated packaging required to migrate a
client's enterprise applications to computers across an organization quickly and
reliably.
Application Development and Maintenance
We help organizations plan, develop, integrate and manage custom applications
software, packaged software and industry-specific software solutions. We offer
applications development and maintenance-support solutions for our customers,
including shared risk engagements and fully outsourced projects, managed quality
assurance and testing services, including functional testing, compatibility
tests, performance testing, regression testing and benchmarking. Benefits to
clients for these services can include reduced costs, extended value of
technology investments, information sharing and enhanced ability to adapt to
market changes.
Sales and Marketing
We sell our IT through a direct sales force located principally in the New York
area. These sales associates, also known as client executives, are supported by
sales support personnel. Currently, we have approximately 14 direct sales force
and sales support personnel for selling our IT services. In addition, we have
independent sales agents (non-employees), who sell our services on a commission
basis. Our marketing strategy is to develop long-term partnership relationships
with existing and new clients that will lead to us becoming a preferred provider
of information technology services. We seek to employ a cross-selling approach,
where appropriate, to expand the number of services utilized by a single client.
Competition
The information technology services industry is highly competitive and served by
numerous international, national, regional and local firms, all of which are our
existing or potential competitors. Our primary competitors are software
consulting and implementation firms, applications software firms, service groups
of computer equipment companies, general management consulting firms,
programming companies, offshore firms and temporary staffing firms as well as
the internal information technology staff of our clients. We believe that the
principal competitive factors in the information technology services industry
include the range of services offered, cost, technical expertise, responsiveness
to client needs, speed in delivering information technology solutions, quality
of service and perceived value. A critical component of our ability to compete
in the marketplace is our ability to attract, develop, motivate and retain
skilled professionals. We believe we can compete favorably in hiring such
personnel by offering competitive compensation packages and attractive
assignment opportunities. Many of our competitors have stronger brand
recognition and significantly greater financial, technical, marketing and other
resources than we do. Our share of the market compared to theirs is too small to
quantify.
5
Seasonality
Our business can be affected by the seasonal fluctuations in corporate IT
expenditures. Generally, expenditures are lowest during the first quarter of the
year when our clients are finalizing their IT budgets. In addition, our
quarterly results may fluctuate depending on, among other things, the number of
billing days in a quarter and the seasonality of our clients' businesses. Our
business is also affected by the timing of holidays and seasonal vacation
patterns, generally resulting in lower revenues and gross margins in the fourth
quarter of each year. In addition, we experience an increase in our cost of
sales and a corresponding decrease in gross profit and gross margin in the first
fiscal quarter of each year as a result of resetting certain state and federal
employment tax salary limitations.
Operations In India
We are in the process of setting up a subsidiary in India and commencing
operations. We anticipate accomplishing this in the second quarter of 2006.
Initially, our operations will provide business process outsourcing services
(BPO) and software development services to our existing customers as well as
internal back office support. For the last two years, these services have been
provided by third party vendors in India, and we incurred an immaterial amount
of expenses for these services in the past. We will transition these services
from third party vendors to in-house operations, and we do not anticipate
incurring a material amount of expenses for the initial set up of our
operations. Based on the initial results of our operations and our customers'
requirements for such services, we plan to scale up our operations. In addition,
we are evaluating other options to grow in the BPO and knowledge process
outsourcing (KPO) space in India.
Current global macroeconomic conditions and intense competitive pressures
have forced companies to focus on their core activities and outsource critical
but non-core activities to companies that specialize in such non-core functions.
Outsourcing enables companies to reduce their operating costs, realize benefits
of scale and flexible cost structures and achieve significant process
improvements. BPO involves routine information technology processes, including:
billing, accounting and other financial services, software research and
development and related support functions and transaction processing, including
customer service operations. KPO involves processes that demand advanced
information search, analytical, interpretation and technical skills as well as
some judgment and decision making. Examples of KPO functions are: intellectual
property or patent research; paralegal and medical transcription services and
analytical services, such as equity research, econometric modeling, competitive
intelligence, industry reports and financial modeling.
We will need significant amount of additional capital to grow in the BPO/
KPO space in India. Currently, we do not have a commitment with anyone to
provide us with such additional capital. Therefore, there can be no assurance
that we will be able to grow in the BPO/ KPO sectors in India.
Employees
On a consolidated basis, we have 118 employees including 43 employees and 75
billable consultants. We have 14 employees in sales, 18 in service/products
delivery management, 2 in VoIP operations and 9 in executive and administrative
positions. In addition to the 75 billable consultants who are employees, we use
the services of 125 billable independent contractors.
We file annual, quarterly and special reports, proxy statements and other
information with the SEC. The public may read and copy any materials that we
have filed with the SEC at the SEC's Public Reference Room at 100 F Street,
N.E., Washington, D.C. 20549. The public may obtain information on the operation
of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC also
maintains an Internet site that contains the reports, proxy and information
statements and other information regarding the Company that we have filed
electronically with the SEC. The address of the SEC's Internet site is
http://www.sec.gov.
6
ITEM 2. DESCRIPTION OF PROPERTY
Description of Property
We do not own any real property. We lease our office space through a
sub lease. The office space is located at Three Stewart Court, Denville, New
Jersey. The total office space is 13,000 square feet for a three year term
through July 2008, with an annual rent of approximately $144,000.
We also have another leased office space in St. Louis, Missouri through
June 2007, renewable annually, for three more years until 2010. This office
space is for approximately 19,000 square feet with an annual rent of
approximately $96,000 with escalation provisions for renewal. This office space
is used to house a client's configuration center.
The Company believes that the leased office spaces are adequate and in
good condition.
ITEM 3. LEGAL PROCEEDINGS
We are not a party to any pending legal proceedings other than the
ordinary course of routine litigation incidental to our business.
ITEM 4. SUBMISSION OF MATTER TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY, RELATED STOCKHOLDER MATTERS
AND SMALL BUSINESS ISSUER PURCHASES OF EQUITY SECURITIES
Our common stock is quoted on the NASD's Over-the-Counter Bulletin Board
("OTCBB") under the trading symbol "NFBH". Our common stock has been quoted on
the NASD's OTCBB since March of 2001. On April 19, 2005, our name was changed
from Houston Operating Company to NetFabric Holdings, Inc. and our stock symbol
was changed from "HOOC" to "NFBH".
The following table sets forth the high and low bid prices for our
common stock for the periods indicated as reported by the NASDAQ OTCBB. The
quotations reflect inter-dealer prices, without retail mark-up, mark-down
or commission and may not represent actual transactions.
7
High Low
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YEAR ENDING DECEMBER 31, 2005
First Quarter $3.00 $0.90
Second Quarter $1.75 $1.10
Third Quarter $1.50 $0.90
Fourth Quarter $1.15 $0.65
YEAR ENDED DECEMBER 31, 2004
First Quarter $0.20 $0.20
Second Quarter $0.20 $0.20
Third Quarter $0.20 $0.20
Fourth Quarter $3.40 $0.20
At March 31, 2006, the number of stockholders of record was
approximately 450 (excluding beneficial owners and any shares held in street
name or by nominees).
In the past three years, we have not paid any dividends upon our common
stock. The payment of common stock dividends, if any, in the future rests within
the discretion of our Board of Directors and will depend, among other things,
upon our earnings, capital requirements and financial condition, as well as
other relevant factors. In addition, our agreement with Laurus Master Fund, Ltd.
restricts our ability to pay dividends without their prior consent. In
connection with a $3 million financing completed in February of 2006 and
pursuant to a Securities Purchase Agreement, Laurus restricts our ability to pay
dividends without their prior consent. The financing with Laurus is discussed in
more detail below in the notes to our financial statements
Recent Sales of Unregistered Securities; Use of Proceeds From Registered
Securities
In October 2005, we entered into a Securities Purchase Agreement with Cornell
Capital Partners ("Cornell") whereby both parties agreed to amend and
consolidate all of the convertible debentures issued to Cornell into one new
secured convertible debenture in the principal amount of $1,658,160. The secured
convertible debenture is convertible at the holder's option at a conversion
price equal to the lesser of (i) an amount equal to $1.00 or (ii) an amount
equal to 95% of the lowest closing bid price of our common stock for the 30
trading days immediately proceeding the conversion date. In connection with the
secured convertible debenture, we issued Cornell warrants to acquire 560,000
shares of our common stock at an exercise price of $0.50 per share as additional
consideration.
In December 2005, we also issued a warrant to acquire 300,000 shares of our
common stock at $1.00 per share to Fahad Syed, an officer and director of the
Company, as additional consideration for a loan advanced by him.
The foregoing shares were issued pursuant to exemptions from
registration under Sections 3(a)(9) and 4(2) of the Securities Act of 1933.
Equity Plan Compensation Information
The following table sets forth information as of December 31, 2005
regarding compensation plans under which our equity securities are authorized
for issuance.
8
Number of Securities
Remaining Available for
Number of Securities Future Issuance Under
to be Issued Upon Weighted Average Equity Compensation
Exercise of Exercise Price of Plans (Excluding
Outstanding Options, Outstanding Options, Securities Reflected in
Warrants and Rights Warrants and Rights Column (a))
Plan Category (a) (b) (c)
Equity Compensation Plans(1) 3,869,010 $0.63 5,130,990
Equity compensation plans not approved by
equity holders(2) 5,213,637 0.78 0
-------------------- -------------------- -----------------------
Total 9,082,647 5,130,990
(1) Pursuant to our 2005 Stock Option Plan.
(2) Outstanding warrants to acquire shares of common stock. The warrants
expire at various times through 2009 and warrant holders have
anti-dilution rights.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion and analysis of our financial condition and results of
operations should be read in conjunction with the consolidated financial
statements and accompanying notes and the other financial information appearing
elsewhere in this report and reports included herein by reference. The following
discussion contains forward-looking statements that reflect our plans, estimates
and beliefs. Our actual results could differ materially from those discussed in
the forward-looking statements.
Our independent registered public accounting firm has indicated in their report
dated April 17, 2006 on our December 31, 2005 financial statements that we had
net losses from inception and have a working capital deficiency. The report
indicates that these matters raise substantial doubt about our ability to
continue as a going concern. Our plan with regard to this matter is discussed
elsewhere in this document. The consolidated financial statements do not include
any adjustments that might result from the outcome of this uncertainty.
CORPORATE HISTORY
We were formerly known as Houston Operating Company and were incorporated in
Delaware in August of 1989. On December 9, 2004, we entered into an Acquisition
Agreement with all of the stockholders of NetFabric Corp. At the closing, which
occurred at the same time as the execution of the Acquisition Agreement, we
acquired all of the issued and outstanding capital stock of NetFabric Corp. from
the stockholders in exchange for an aggregate of 32,137,032 newly-issued shares
of our common stock. The acquisition was accounted for as a reverse merger
whereby NetFabric Corp. was treated as the acquirer. NetFabric Corp. was
incorporated in the State of Delaware on December 17, 2002, as a new
corporation. On April 19, 2005, our name was changed from Houston Operating
Company to NetFabric Holdings, Inc. and our stock symbol was changed from "HOOC"
to "NFBH."
9
UCA SERVICES, INC. ACQUISITION
On May 20, 2005, we entered into and closed on a share exchange agreement,
whereby we purchased all of the issued and outstanding shares of UCA from its
shareholders in exchange for the issuance of 24,096,154 shares of our common
stock. UCA is an IT services and solutions company that serves the information
and communications needs of a wide range of Fortune 500 and SMB clients in the
financial markets industry as well as the pharmaceutical, health care and
hospitality sectors. UCA delivers a broad range of IT services in managed
services, professional services, infrastructure builds and maintenance and
application development and maintenance areas.
The acquisition was accounted using the purchase method of accounting with the
results of operations of UCA included in the consolidated financial statements
from the date of acquisition.
OVERVIEW
Prior to acquiring NetFabric Corp., we did not have any operations, and
we were a shell company whose primary business objective was to merge and become
public. NetFabric Corp., a Delaware corporation incorporated on December 17,
2002, began operations in July 2003. NetFabric Corp. is a provider of hardware
and services to SMB's that utilize the Internet for telephone communications or
VoIP. It develops and markets appliances or Customer Premises Equipment ("CPE")
that simplify the integration of standard telephone systems with an IP
infrastructure. In addition, it resells transport services of a third party VoIP
transport provider. Our operations, prior to the UCA acquisition, consisted of
developing VoIP appliances, including research and product development
activities. We also hired additional personnel for sales and marketing and
developed our sales and marketing programs. To date, the Company's VoIP
operations have generated minimal revenues. Further, there can be no assurance
that the Company will generate meaningful revenues from its VoIP operations in
the future.
UCA derives revenues primarily from managed IT services, professional
services, application development services and from business process management
services. Arrangements with customers for services are generally on a time and
material basis or fixed-price, fixed-timeframe revenue. UCA's principal
operating expenses are direct employee cost and consultant expenses and selling,
general and administrative expenses. Direct employee cost and consultant
expenses are comprised primarily of the costs of consultant labor, including
employees, subcontractors and independent contractors, and related employee
benefits. Approximately 50% of our consultants are employees and the remainder
are subcontractors and independent contractors. We compensate most of our
consultants only for the hours that we bill to our clients, which allows us to
better match our labor costs with our revenue generation. With respect to our
consultant employees, we are responsible for employment-related taxes, medical
and health care costs and workers' compensation. Labor costs are sensitive to
shifts in the supply and demand of IT professionals, as well as increases in the
costs of benefits and taxes. The principal components of selling, general and
administrative expenses are salaries of sales and support personnel, and office
rent.
As previously noted, the December 9, 2004 acquisition was accounted for
as a reverse merger whereby NetFabric Corp. was treated as the acquirer.
Accordingly, the historical financial statements of NetFabric Corp. have been
presented for all periods required. NetFabric Corp. began operations in January
2003 and was a development stage company until the UCA acquisition. The UCA
acquisition was accounted for using the purchase method of accounting with the
results of the operations included in the Company's consolidated financial
statements from the date of acquisition.
We operate in two business segments in additional to corperate
activities: VoIP and IT Services. We conduct our VoIP operations through our
NetFabric Corp. subsidiary and our IT Services operations through our UCA
subsidiary.
10
MANAGEMENT's DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS.
Comparison of Years ended December 31, 2005 and 2004:
Revenues. Revenues for the year ended December 31, 2005, increased by
$12,540,656 over the prior year, with such increase due to the UCA acquisition.
Prior to the UCA acquisition, the Company had minimal revenues during the
periods reported. We anticipate that our revenues will increase for fiscal year
2006 due to the full year impact of the UCA acquisition. On a pro forma basis,
UCA had revenues of $19,422,336 for the year ended December 31, 2005 compared to
$14,007,729 in 2004. The increase was due to increased activity levels in 2005
resulting from new customers added in 2005 and additional projects undertaken in
2005 for the existing customers.
Direct employee compensation and consultant expenses. For the year ended
December 31, 2005, our direct employee compensation and consultant expenses
increased by $9,257,027 to $9,260,153. The increase was due to increased
revenues resulting from the UCA acquisition. The Company anticipates direct
employee compensation and consultant expenses to increase for fiscal year 2006
in line with the anticipated increase in its revenues.
Selling, general and administrative expenses. Our selling, general and
administrative expenses increased for the year ended December 31, 2005 by
$5,104,540 or 554.4% to $6,025,258. The increase was, in part, due to the UCA
acquisition and, in part, due to an increased level of marketing activities in
2005 in our VoIP operations. During 2005, we added additional personnel in our
VoIP operations for sales and marketing and incurred additional expenses for
development of our sales and marketing program. In addition, we incurred
additional expenses for professional fees and others costs due to being a public
company.
Research and development. Research and development expenses for the year ended
December 31, 2005 increased by $61,933 of 15.7% to $457,385. These expenses were
incurred for our VoIP operations and represented the product development costs
for our VoIP products, including associated engineering wages. The increase in
2005 was due to additional personnel costs incurred for product development. In
the recent past, we have scaled back our development activities, and we
anticipate a significant reduction in our development expenses in fiscal year
2006.
Amortization of debt discount. Amortization of debt discount for the year
ended December 31, 2005 increased by $1,036,215 or 643.4% to $1,197,277.
The increase was due to the amortization of debt discount resulting from the
allocation of value to certain equity instruments issued in connection with debt
issued in 2004 and 2005. At December 31, 2005 the aggregate unamortized debt
discount was $1,437,369, which will be amortized and charged to
operations over the term of the respective debt.
Depreciation and amortization. For the year ended December 31, 2005 depreciation
and amortization increased by $240,730 or 2,931.8% to $248,941, due to
additional assets arising from the UCA acquisition and due to depreciation on
equipment and purchased software acquired for our VoIP operations in late 2004
and 2005. Amortization related to intangible assets acquired in the UCA
acquisition was $137,040.
Interest expense. For the year ended December 31, 2005 interest expense
increased by $89,585 or 626.3% to $103,888 due to increased borrowing levels in
2005.
Derivative Financial Instrument. As a result of the change in the conversion
terms of the October Convertible Debentures ("October Cornell Debenture") on
October 27, 2005, we determined that the embedded conversion feature of the
October Cornell Debenture became subject to the provisions of SFAS No. 133 and
therefore we accounted for the embedded conversion feature as a liability in
accordance with the guidance of EITF 00-19, "Accounting for Derivative Financial
Instruments Indexed to, and Potentially Settled in, a Company's Own Stock"("EITF
00-19"). Accordingly, we recorded the fair value of the embedded conversion
feature of $784,784 as a non-current liability as of October 27, 2005 and a
portion of the amounts previously recorded to additional paid-in capital as part
of the Original Cornell Debentures were reclassified from equity to liabilities.
Through December 31, 2005 we recorded a charge for derivative financial
instruments of $221,277 related to the change in fair value of the embedded
conversion feature which is recorded in the accompanying consolidated statement
of operations. The fair value of the embedded conversion feature liability was
$1,006,061 as of December 31, 2005.
Since the conversion of the October Cornell Debenture could result in a
conversion into an indeterminable number of common shares, we determined that
under the guidance EITF 00-19, the Company could not conclude that it had
sufficient authorized and unissued shares to net-share settle any warrants or
options issued to non-employees. Therefore, we have reclassified the fair value
of all warrants and options issued to non-employees that were outstanding as of
October 27, 2005 from equity to liabilities. The fair value of our warrants and
options issued to non-employees were estimated at approximately $3,065,000 on
October 27, 2005 using a Black-Scholes option pricing model for each of the
individual securities. As a result we incurred a charge of approximately
$2,035,000 on October 27, 2005, which was computed based on the difference
between the fair value of the securities as of October 27, 2005 and the value of
the securities which had previously been recorded to additional paid-in capital.
On December 31, 2005, the fair value of the warrants and options issued to
non-employees were re-measured and estimated at $2,982,000 using a Black-Scholes
option pricing model for each of the individual securities. The decrease of
approximately $125,000 was reflected as a gain for change in derivative
financial instruments in the accompanying statement of operations for the year
ended December 31, 2005.
The liability for warrants and options issued to non-employees will be
reclassified to equity upon the repayment of the October Cornell Debenture in
February 2006, which terminated Cornell's conversion rights.
Net loss. As a result of the foregoing, for the year ended December 31, 2005,
net loss increased by $5,279,275 or 351.5% to a loss of $6,781,985, compared to
a net loss of $1,502,260 in the year ended December 31, 2004. Our IT services
segment was profitable in 2005. However, this was offset by losses in VoIP
operations and corporate costs. Our losses in VoIP operations increased due to
additional development, sales and marketing costs incurred in 2005. In 2005, our
corporate expenses increased due to being a public company.
11
LIQUIDITY AND CAPITAL RESOURCES
At December 31, 2005, our working capital deficiency was $2,176,606, compared to
a working capital deficiency of $853,317 at December 31, 2004. The increase in
the working capital deficiency was due to a working capital deficiency we
assumed in the UCA acquisition and due to operating losses. During the year
ended December 31, 2005, we utilized cash from our operating activities of
approximately $3,000,000, compared to approximately $1,000,000 utilized during
the year ended December 31, 2004.
During the year ended December 31, 2005, our operating losses, after adjusting
non cash items utilized, were approximately $2,400,000 of cash, and working
capital items utilized were approximately $600,000 of cash. The principal
component of working capital was utilization of deferred revenue or customer
advance, offset by increase in our accounts payable and accrued expenses. During
the year ended December 31, 2004, our operating losses after adjusting for non
cash items utilized, was approximately $1,200,000 and working capital items were
approximately $200,000 of cash. The principal component of working capital was
an increase in our accounts payable and accrued expenses, offset by inventory
purchases.
On July 22, 2004, we entered into a financing agreement which was amended on
December 2, 2004 (the "Financing Agreement") with Macrocom Investors, LLC
("Macrocom"), whereby Macrocom provided us a loan of $500,000 ("Loan I") for a
period of 180 days from the original date of the financing agreement ("Due
Date") at an annual simple interest rate of 5%. In January 2005, in accordance
with the terms of the Financing Agreement, we elected to repay the entire
principal of Loan I in kind by issuing 1,000,000 shares of our common stock at
the agreed price per share of $0.50, and we do not owe any amounts to Macrocom
for Loan I. We also issued 250,000 shares to Macrocom as additional
consideration for Loan I. Neither Macrocom nor Michael Millon, manager of
Macrocom, is affiliated with us or any of our officers or directors.
On October 14, 2004, we entered into a loan agreement with Macrocom, whereby
Macrocom agreed to loan us an additional $500,000 ("Loan II") at an annual
simple interest rate of 5%. This loan agreement was amended on December 2, 2004,
May 24, 2005 and October 26, 2005. Pursuant to the amendments, Loan II is due on
October 10, 2006. At the option of Macrocom, Macrocom can convert the principal
of Loan II into 1,000,000 shares of our common stock or demand repayment of the
principal in cash. In addition, we issued 250,000 shares of our common stock to
Macrocom as additional consideration to Macrocom for Loan II.
On November 30, 2004, Littlehampton Investments, LLC purchased 7,030,000 of our
shares from one of our shareholders for $375,000. As part of the Acquisition
Agreement with NetFabric Corp., Littlehampton Investments, LLC cancelled
6,030,000 shares of common stock and was granted registration rights on
1,000,000 shares of common stock it still held.
Pursuant to a financing commitment, in two separate closings in January and
March 2005, the Company sold 1,000,000 shares of common stock to Macrocom and
1,000,000 shares of common stock to Michael Millon, resulting in aggregate
proceeds of $1,000,000 for $0.50 per share. Additionally, under this
arrangement, Macrocom received warrants to purchase 2,000,000 shares of common
stock at a purchase price of $1,500,000. The warrants expire in December 2006.
We also issued 250,000 shares to Michael Millon as consideration for arranging
the Macrocom financing.
In June 2005, Fred Nazem, a stockholder, advanced $70,000 to the Company for our
working capital. The loan was interest free and not subject to any written
agreement and did not have any formal due date. The Company repaid this amount
in February 2006.
In June 2005, Fahad Syed, an officer and director of the Company, advanced us
$200,000 for our working capital. Initially, the loan was interest free and not
subject to any written agreement. In December 2005, we issued a promissory note
to formalize our borrowing. The interest on the loan was for 5% and it was due
in January 2006. In December 2005, we also issued a warrant to acquire 300,000
shares of our common stock at $1.00 per share to Fahad Syed as additional
consideration. The warrant expires in January 2009. We repaid this amount in
February 2006.
12
In July 2005, we sold a Convertible Debenture (the "Macrocom Debenture") for a
face amount of $500,000 to Macrocom. The Macrocom Debenture bears interest at 5%
and is due on April 15, 2006. At the option of Macrocom, the Macrocom Debenture
can be converted into shares of our common stock at a conversion price of $.50
per share. In connection with the sale, we issued Macrocom warrants to acquire
1,000,000 shares of our common stock at an exercise price of $1.50 per share.
The warrants expire in three years from the date of issuance. We also issued to
Macrocom 375,000 shares of our common stock as additional consideration. As
collateral for the Macrocom Debenture, we placed 5,000,000 shares of our common
stock with an escrow agent. In July 2005, we sold convertible debentures to CCS
Group, LLC., an entity affiliated with Walter Carozza, our former officer, and
to Fred Nazem, a stockholder of the Company, in the face amount of $50,000 each.
These debentures were sold on substantially similar terms as the Macrocom
Debenture. However, we did not provide any collateral to the debenture holders.
In July 2005, the Company entered into a Standby Equity Distribution Agreement
(the "SEDA") with Cornell Capital Partners ("Cornell"). Pursuant to the SEDA, we
may, at our discretion, periodically sell to Cornell shares of our common stock,
for a total purchase price of up to Ten Million Dollars ($10,000,000). In
October 2005, Cornell and the Company agreed that it was in the best interest of
both parties to terminate the SEDA, and we entered into a Termination Agreement
on October 27, 2005, which terminated all of the rights and obligations of both
Cornell and the Company under the SEDA. Pursuant to the Termination Agreement,
we allowed Cornell to retain 242,857 shares of our common stock that was
previously issued to Cornell as part of the commitment fee under the SEDA.
Cornell agreed to return the balance of the commitment fee to us which was equal
to 437,143 shares of our common stock. The fair value of the 242,857 shares of
common stock issued to Cornell approximated $340,000 and this amount was charged
to our operations during 2005.
In July 2005, we entered into an agreement (the "Securities Purchase Agreement")
pursuant to which we agreed to sell to Cornell, and Cornell agreed to purchase
from us, secured convertible debentures (the "Cornell Debentures") in the
aggregate principal amount of One Million Dollars ($1,000,000), which were
convertible, at Cornell's discretion, into common stock of the Company. In
October 2005, we entered into a securities purchase agreement with Cornell
whereby both parties agreed to amend and consolidate all of the convertible
debentures issued to Cornell into one new secured convertible debenture in the
principal amount of $1,658,160. Prior to entering into the securities purchase
agreement, the Company issued secured convertible debentures to Cornell in a
principal aggregate amount equal to $1,000,000. Of those secured convertible
debentures previously issued to Cornell, $400,000 was funded on July 5, 2005,
$50,000 was funded on September 1, 2005, $150,000 was funded on October 6, 2005
and $400,000 was funded on October 13, 2005. Pursuant to the Securities Purchase
Agreement, Cornell funded an additional $650,000 on October 27, 2005. The
$1,000,000 in secured convertible debentures and the additional $650,000 in
secured convertible debentures were consolidated into one new secured
convertible debenture along with the accrued and unpaid interest on those
debentures. The secured convertible debenture has a 36-month term and accrues
annual interest of 5%. The secured convertible debenture may be redeemed by us
at any time, in whole or in part, by paying a redemption premium of 15% of the
amount redeemed in addition to such redemption. The secured convertible
debenture is convertible at the holder's option at a conversion price equal to
the lesser of (i) an amount equal to $1.00 or (ii) an amount equal to 95% of the
lowest closing bid price of our common stock for the 30 trading days immediately
proceeding the conversion date. In connection with the secured convertible
debenture, we issued Cornell warrants to acquire 560,000 shares of our common
stock at an exercise price $0.50 per share, as additional consideration. The
secured convertible debenture is secured by substantially all of our assets. In
February 2006, we redeemed the secured convertible debenture and repaid all
amounts due to Cornell, including the applicable redemption premium.
In February 2006, we repaid amounts owed to Fred Nazem and Fahad Syed. In
addition, we repaid $100,000 due to Faisal Syed, a stockholder of the Company.
Prior to our acquisition of UCA, UCA issued a promissory note to Faisal Syed for
$100,000. The note bore interest at the rate of 6%. The promissory note together
with accrued but unpaid interest, was due in June 2005.
13
In February 2006, we along with our subsidiaries, entered into a Security
Agreement, dated February 10, 2006 with Laurus Master Fund, Ltd., a Cayman
Islands company ("Laurus"). Under the Security Agreement, Laurus purchased us a
Secured Convertible Note, with a maturity date of February 10, 2009, in the
aggregate principal amount of $1,500,000 and a Secured Non-Convertible Revolving
Note ("Revolver') in the aggregate principal amount of $1,500,000. Availability
under the notes is based on an advance rate equal to 90% of eligible accounts
receivable, and Laurus has agreed to provide us an over advance for a specified
period. The Secured Convertible Note has a three-year term, and bears interest
at 1% above the prime rate, with a minimum interest rate of 8%. Laurus shall
have the option, but not the obligation, at any time until the maturity date, to
convert all or any portion of the Secured Convertible Note and accrued interest
into shares of our common stock at an exercise price of $0.91 per share. If
converted in full we would be obligated to issue an aggregate of 1,648,352
shares of our common stock. We have the option, but not the obligation, to
prepay the Secured Convertible Note by paying Laurus the applicable redemption
premium. The Revolver has a three-year term, and bears interest at 1% above the
prime rate, with a minimum interest rate of 8%.
In connection with the borrowing, we issued to Laurus a common stock purchase
option ("Option") to purchase up to 4,256,550 shares of our common stock for a
nominal consideration. Additionally, we entered into a registration rights
agreement ("Registration Rights Agreement"), covering the registration of common
stock underlying the Secured Convertible Note and the Option. Our obligations
under the Secured Convertible Note and the Revolver are secured by first liens
on all of our assets, and Laurus may accelerate all obligations under the notes
upon an event of default.
Our initial borrowing was approximately $2.3 million and utilized approximately
$1.9 million of the initial borrowing to repay all amounts owed to Cornell
pursuant to a Secured Convertible Debenture, including applicable redemption
premium.
Currently, our revenues from VoIP operations have been minimal. We have
concluded that we cannot implement our original business for VoIP operations
within resources we have or with the additional capital we can raise in the near
term. In the recent past, we have scaled back our VoIP operations, including our
product development efforts. Currently, we are evaluating the various products
and services that we can offer within the capital resources available to us in
the near term. In addition, we are exploring other strategic options for our
VoIP operations. We are also evaluating the possibility of viewing VoIP as an
important extension of our current skill sets in IT services and as a means of
having a platform in place through which we can sell new value added services.
We anticipate making a determination about our VoIP operations in the second
quarter of 2006.
For the past two years, on a pro forma basis, our IT services revenues have
grown. For continued growth, we need capital for both technology investments and
working capital. Technology investments will improve our consultants with new
skills thereby enabling us to obtain additional projects from our existing
customers and from new customers. We can accomplish this either through
investment and strategic partnership with new software companies or through
hiring consultants with new skill and paying for their bench time until we
obtain projects where they can be placed on a billable basis. We are in
discussion with new software companies and anticipate such an investment to
amount to approximately $500,000 in 2006. However, we have not concluded any
agreement and there is no assurance that we that we will conclude any agreement
and invest additional amounts. Working capital requirements are principally for
additional receivables that need to be supported by an increased revenue base
resulting from anticipated growth. We believe that the Revolver with Laurus will
provide us the necessary working capital required for the accounts receivable
growth.
We anticipate our recurring capital expenses for 2006 to range between $50,000
and $100,000. We are also evaluating the need for additional software
applications to support our back office functions. However, we have not
completed our evaluation and do not have any commitment on this account.
In order to execute our business plan and achieve our objectives for the near
future, management believes it will require approximately $2,500,000 over the
next 12 months for working capital. A significant component of this is for
satisfying our obligations as they become due, both borrowing and vendor
payables.
14
Our ability to continue as a going concern and future success are dependent upon
our ability to raise capital in the near term to satisfy our current
obligations.
Management's plans in this regard include, but are not limited to current
discussions and negotiations with a number of additional financing alternatives,
one or more of which it believes will be able to successfully close to provide
necessary working capital. We have received a letter of interest from a third
party to provide us $2.5 million in subordinated debt financing. The financing
is subject to a number of significant conditions including negotiation of a
definitive agreement, necessary approvals and due diligence. There is no
assurance that the Company will be successful in completing the financing. The
accompanying consolidated financial statements do not include any adjustments
that might result from the outcome of this uncertainty.
To fund our operations for the remainder of fiscal year 2006, we need to raise
additional financing and generate cash flows from our operations. Should
additional cash flows not be available, we believe that we would have the
ability to restructure our operations, and if necessary, initiate significant
reductions in expenses. In addition, we will have to negotiate with our lenders
to extend the repayment dates of our indebtedness. There can be no assurance,
however, that we will be able to successfully restructure our operations or debt
obligations in the event we fail to obtain additional financing.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The discussion and analysis of our financial conditions and results of
operations is based upon our financial statements, which have been prepared in
accordance with accounting principles generally accepted in the United States of
America ("GAAP"). The preparation of these financial statements requires us to
make estimates and judgments that affect the reported amounts of assets,
liabilities, revenues and expenses, related disclosure of contingent assets and
liabilities. On an ongoing basis, we evaluate our estimates, including those
related to revenue recognition, accounts receivable and long-lived assets. We
base our estimates on historical experience and on various other assumptions
that we believe to be reasonable under the current circumstances, the results of
which form the basis for making judgments about the carrying values of assets
and liabilities that are not readily apparent from other sources. Actual results
may differ from these estimates under different assumptions or conditions.
We believe the following critical accounting policies affect the judgment and
estimates used in preparation of our consolidated financial statements.
Revenue Recognition
We derive revenue as a provider of IT services.
In accordance with Securities and Exchange Commission ("SEC") Staff Accounting
Bulletin No. 104, "Revenue Recognition," revenue is recognized when persuasive
evidence of an arrangement exists, delivery of the product or services has
occurred, the fee is fixed and determinable, collectibility is reasonably
assured, contractual obligations have been satisfied, and title and risk of loss
have been transferred to the customer.
Arrangements with customers for services are generally on a time and material
basis or fixed-price, fixed-timeframe. Revenue on time-and-material contracts is
recognized as the related services are performed. Revenue for fixed-price,
fixed-timeframe services is recognized as the service is performed. Revenue from
fixed-price, fixed-timeframe service contracts is recognized ratably over the
term of the contract, as per the proportional performance method. When we
receive cash advances from customers in advance of the service period, amounts
are reported as advances from customers until the commencement of the service
period. Billings and collections in excess of revenue recognized are classified
as deferred revenue.
15
To date we have had minimal revenues from sale of communication equipment
products that have been marketed only through a network of distributors and
VARs. In the VAR channel, we recognize revenue at the time of shipment if all
other contractual obligations to the VAR have been satisfied.
In the distributor channel, we recognize revenue when the distributor sells and
ships our products to its own VARs, resellers or end-user customers, provided we
have satisfied all other terms and conditions with the distributor. Accordingly,
we receive distribution sales and inventory information regarding our products
from our distributors for the purpose of determining the appropriate timing of
revenue recognition.
Both VARs and distributors have limited rights to return products to us but must
obtain prior approval from us before returning products, consistent with common
industry practice. We have no obligation to accept the return of any unsold
products. If required, we accrue a provision for estimated sales returns and
other allowances and deferrals as a reduction of revenue at the time of revenue
recognition. To date no sales have been made and, as such, no provisions for
estimated sales returns and other allowances have been recognized. We have no
obligation to provide service, repair, counseling or other assistance to any
customers of the VARs or distributors unless we have a specific agreement
directly with such customer.
Allowance for Doubtful Accounts
We maintain allowances for doubtful accounts for estimated losses resulting from
the inability of our customers to make required payments. These estimated losses
are based upon historical bad debts, specific customer creditworthiness and
current economic trends. If the financial condition of a customer deteriorates,
resulting in the customer's inability to make payments within approved credit
terms, additional allowances may be required. We perform credit evaluations of
our customers' financial condition on a regular basis.
Inventory
Inventory consists primarily of finished goods and purchased electronic
components, and are stated at the lower of cost or market. Cost is determined by
using the first-in, first-out method.
Fair Value of Financial Instruments
The fair value of the Company's assets and liabilities that qualify as financial
instruments under Statement of Financial Accounting Standards ("SFAS") No. 107
"Disclosure about Fair Value of Financial Instruments", presented in the
consolidated balance sheets as of December 31, 2005 and 2004 approximate their
carrying amounts.
Goodwill and Other Intangibles
Goodwill and other intangibles represent the allocation, pursuant to an
independent appraisal of the cost to acquire UCA Services, in excess of the fair
value of assets acquired. Under SFAS No. 142, "Goodwill and Other Intangible
Assets", goodwill is not amortized but is reviewed for impairment annually, as
well as when a triggering event indicates impairment may have occurred. The
goodwill test for impairment consists of a two-step process that begins with an
estimation of the fair value of the reporting unit. The first step of the
process is a screen for potential impairment and the second step measures the
amount of impairment, if any. We will perform a goodwill impairment test
annually, as well as when a triggering event indicates impairment may have
occurred. Application of the goodwill impairment test requires significant
judgments including estimation of future cash flows, which is dependent on
internal forecasts, estimation of the long-term rate of growth, the useful life
over which cash flows will occur, and determination of cost of capital. Changes
in these estimates and assumptions could materially affect the determination of
fair value and/or conclusions on goodwill impairment.
16
Intangible assets are accounted for under the provisions of SFAS No.
142. Intangible assets arise from business combinations and consist of customer
relationships and restricted covenants related to employment agreements that are
amortized, on a straight-line basis, over periods of up to six years. The
Company follows the impairment provisions and disclosure requirements of SFAS
No. 142. Accordingly intangible assets are reviewed for impairment whenever
events or changes in circumstances indicate that the carrying amount may not be
recoverable.
Stock-Based Compensation
We account for stock options granted to employees using the intrinsic value
method in accordance with the provisions of Accounting Principles Board ("APB")
Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB Opinion No.
25"), and related interpretations.
As such, compensation expense to be recognized over the related vesting period
is generally determined on the date of grant only if the current market price of
the underlying stock exceeds the exercise price. SFAS No. 123, "Accounting for
Stock-Based Compensation" ("SFAS No. 123"), permits entities to recognize the
fair value of all stock-based awards on the date of grant as an expense over the
vesting period. Alternatively, SFAS No. 123 allows entities to continue to apply
the provisions of APB Opinion No. 25 and provide pro forma net income (loss)
disclosures for employee stock option grants as if the fair value-based method
defined in SFAS No. 123 had been applied. We have elected to continue to apply
the provisions of APB Opinion No. 25 and provide the pro forma disclosures
required by SFAS No. 123.
RISK FACTORS
We Are Subject To Various Risks That May Materially Harm Our Business, Financial
Condition And Results Of Operations
You should carefully consider the risks and uncertainties described
below and the other information in this filing before deciding to purchase our
common stock. If any of these risks or uncertainties actually occurs, our
business, financial condition or operating results could be materially harmed.
In that case, the trading price of our common stock could decline and you could
lose all or part of your entire investment.
Risks Related To Our Business
We Have Historically Lost Money And Losses May Continue In The Future, Which May
Cause Us To Curtail Our Operations
Since our inception we have not been profitable and have lost money.
For the year ended December 31, 2005, we incurred a net loss of $6,781,985.
Future losses are likely to occur as we are dependent on spending money to pay
for our operations. No assurances can be given that we will be successful in
reaching or maintaining profitable operations. Accordingly, we may experience
liquidity and cash flow problems. If our losses continue, our ability to operate
may be severely impacted.
Our Operating Results May Fluctuate
Our operating results may fluctuate as a result of a number of factors,
many of which are outside of our control. The following factors may affect our
operating results:
o Our ability to compete effectively.
o The amount and timing of operating costs and capital expenditures
related to the maintenance and expansion of our businesses, operations
and infrastructure.
o Our focus on long term goals over short-term results.
17
o The results of our investments in risky projects.
o Our ability to attract, motivate and retain top-quality employees.
o Our ability to upgrade and develop our systems, infrastructure and
products.
o Our ability to successfully integrate and manage our acquisitions.
o Geopolitical events such as war, threat of war or terrorist actions.
We Have Been The Subject Of A Going Concern Opinion By Our Independent
Registered Public Accountants Which Has Raised Substantial Doubt As To Our
Ability To Continue As a Going Concern
Our Independent Registered Public Accountanting Firm added an
explanatory paragraph to their audit opinion issued in connection with our
consolidated financial statements which states that our financial statements
raise substantial doubt as to our ability to continue as a going concern. We
have experienced net losses from operations of $6,781,985 for the year ended
December 31, 2005. In addition, we had a working capital deficit of $2,176,606
as of December 31, 2005. These factors, among others, raise substantial doubt
about our ability to continue as a going concern. Our consolidated financial
statements do not include any adjustment that might result from the outcome of
this uncertainty. Assurances cannot be given that adequate financing can be
obtained to meet our capital needs. If we are unable to generate profits and
unable to continue to obtain financing to meet our working capital requirements,
we may have to curtail our business sharply or cease operations altogether. Our
continuation as a going concern is dependent upon our ability to generate
sufficient cash flow to meet our obligations on a timely basis to retain our
current financing, to obtain additional financing and, ultimately, to attain
profitability. Should any of these events not occur, we will be adversely
effected and we may have to cease operations.
We Had A Working Capital Deficit, Which Means That Our Current Assets On
December 31, 2005 were Not Sufficient To Satisfy Our Current Liabilities And,
Therefore, Our Ability To Continue Operations Is At Risk
We had a working capital deficit of $2,176,606 as of December 31, 2005,
which means that our current liabilities exceeded our current assets on December
31, 2005 by $2,176,606. Current assets are assets that are expected to be
converted to cash within one year and, therefore, may be used to pay current
liabilities as they become due. Our working capital deficit means that our
current assets on December 31, 2004 were not sufficient to satisfy all of our
current liabilities on those dates. If our ongoing operations do not begin to
provide sufficient profitability to offset the working capital deficit, we may
have to raise additional capital or debt to fund the deficit or curtail future
operations.
Our Principal Stockholders Can Control Our Board Of Directors Which Means That
Such Stockholders Could Exercise Certain Control Over The Decisions Made By The
Board
Five of our principal stockholders, including directors and officers,
own approximately 84.5% of our outstanding common stock. They can effectively
elect a majority of our directors and thereby control our management.
We May Incur Significant Operating Losses In The Future Which Could Adversely
Affect Our Business And Cause Us To Cease Operations
Our business does not have an established record of profitability and
we may not be profitable in the future. If our revenue does not grow to offset
our operating losses, we will not be profitable. You should not consider past
revenue and earnings as indicative of our future performance. In future
quarters, our revenue or earnings could decline or fail to grow. Furthermore, if
our operating expenses exceed our expectations, our financial performance will
be adversely affected.
18
If We Are Unable To Retain Or Motivate Key Personnel Or Hire Qualified
Personnel, We May Not Be Able To Grow Effectively.
Our performance is largely dependent on the talents and efforts of
highly-skilled individuals. Our future success depends on our continuing ability
to identify, hire, develop, motivate and retain highly-skilled personnel for all
areas of our organization, as well as to identify, contract with, motivate and
retain contract personnel, on an outsourced basis, for special projects.
Competition in our industry for qualified employees is intense. Our continued
ability to compete effectively depends on our ability to attract new employees
and to retain and motivate our existing employees and to retain contract
personnel.
As we become a more mature company, we may find our recruiting efforts
more challenging. If we do not succeed in attracting excellent personnel or
retaining or motivating existing personnel, we may be unable to grow
effectively.
We May Not Be Able To Increase Revenues Or Otherwise Successfully Operate Our
Business, Which Could Have A Significant Negative Impact On Our Financial
Condition
We believe that the key to our success is to increase revenues and our
services offerings thereby increasing our available cash. Our success in this
regard will depend in large part on widespread market acceptance of our services
offerings and our efforts to educate potential customers and sell our services.
There can be no assurance that we will be able to increase our revenues or
effectively operate our business. To the extent we are unable to achieve growth
in revenues, we may continue to incur losses. We cannot assure you that we will
be successful or make progress in the growth and operation of our business. Our
current and future expense levels are based on our operating plans and estimates
of future revenues and are subject to increase as we implement our strategy.
Even if our revenues grow, we may be unable to adjust spending in a timely
manner to compensate for any unexpected revenue shortfall. Accordingly, any
significant shortfall in revenues would likely have an immediate material
adverse effect on our business, operating results and financial condition.
Further, if we should substantially increase our operating expenses to increase
sales and marketing, and such expenses are not subsequently followed by
increased revenues, our operating performance and results would be adversely
effected and, if sustained, could have a material adverse effect on our
business. To the extent we implement cost reduction efforts to align our costs
with revenue, our revenue could be adversely affected.
Our Information Systems Are Critical To Our Business And A Failure Of Those
Systems Could Materially Harm Us
We depend on our ability to store, retrieve, process and manage a
significant amount of information. If our information systems fail to perform as
expected, or if we suffer an interruption, malfunction or loss of information
processing capabilities, it could have a material adverse effect on our
business.
Our Service Revenue Depends To A Large Extent On A Small Number Of Clients, And
Our Revenue Could Decline If We Lose A Major Client, Which Could Cause Us To
Curtail Our Operations Due To A Lack of Revenue
We currently derive, and believe we will continue to derive, a
significant portion of our service revenue from a limited number of corporate
clients. The loss of a major client or a significant reduction in the service
performed for a major client could result in a reduction of our revenue.
Our two largest clients for the year ended December 31, 2005 accounted for 30%
and 10%, respectively, of our revenues. Our major customers in 2005, were BNP
Paribas, Cendent Corporation, Dresdner Bank, Instinet and Reuters. The volume of
work we perform for specific clients may vary from year to year, particularly
since we typically are not the only outside service provider for our clients.
Thus, a major client in one year may not provide the same level of revenue in a
subsequent year.
19
There are a number of factors, other than our performance, that could cause the
loss of a client and that may not be predictable. In certain cases, clients have
reduced their spending on IT services due to economic conditions and
consequently have reduced the volume of business from us. If we were to lose one
of our major clients or incur a significantly lower volume of business with
them, our revenue and profitability could be reduced.
Our Failure To Complete Fixed-price, Fixed-timeframe Contracts On Budget And On
Time May Negatively Affect Our Profitability, Which Could Decrease The Value Of
Our Shareholders' Investment
We offer a portion of our services on a fixed-price, fixed-timeframe basis.
Although we use specified software engineering processes and our past project
experience to reduce the risks associated with estimating, planning and
performing fixed-price, fixed-timeframe projects, we bear the risk of cost
overruns, completion delays and wage inflation in connection with these
projects. If we fail to accurately estimate the resources and time required for
a project, future rates of wage inflation and currency exchange rates, or if we
fail to complete our contractual obligations within the contracted timeframe,
our profitability may suffer.
We May Be Unable To Manage Growth, Which May Impact Our Potential Profitability
Successful implementation of our business strategy requires us to
manage our growth. Growth could place an increasing strain on our management and
financial resources. To manage growth effectively, we will need to:
o Establish definitive business strategies, goals and objectives; and
o Maintain a system of management controls.
Risks Related to Our Stock Being Publicly Traded
Our stock price may be volatile.
Our common stock has been trading in the public market since March,
2001. We cannot predict the extent to which a trading market will develop for
our common stock or how liquid that market might become. The trading price of
our common stock has been and is expected to continue to be highly volatile as
well as subject to wide fluctuations in price in response to various factors,
some of which are beyond our control. These factors include:
o Quarterly variations in our results of operations or those of our
competitors.
o Announcements by us or our competitors of acquisitions, new products,
significant contracts, commercial relationships or capital
commitments.
o Disruption to our operations.
o The emergence of new sales channels in which we are unable to compete
effectively.
o Our ability to develop and market new and enhanced products on a
timely basis.
20
o Commencement of, or our involvement in, litigation.
o Any major change in our board or management.
o Changes in governmental regulations or in the status of our regulatory
approvals.
o Changes in earnings estimates or recommendations by securities
analysts.
o General economic conditions and slow or negative growth of related
markets.
In addition, the stock market in general has experienced extreme price
and volume fluctuations that have often been unrelated or disproportionate to
the operating performance of companies. These broad market and industry factors
may seriously harm the market price of our common stock, regardless of our
actual operating performance. In addition, in the past, following periods of
volatility in the overall market and the market price of a company's securities,
securities class action litigation has often been instituted against companies.
Such litigation, if instituted against us, could result in substantial costs and
a diversion of our management's attention and resources.
We do not intend to pay dividends on our common stock.
We have never declared or paid any cash dividend on our capital stock.
We currently intend to retain any future earnings and do not expect to pay any
dividends in the foreseeable future.
We have and will continue to incur increased costs as a result of being a public
company.
As a public company, we have and will continue to incur significant
legal, accounting and other expenses that we did not incur as a private company.
We will incur costs associated with our public company reporting requirements.
We also anticipate that we will incur costs associated with recently adopted
corporate governance requirements, including requirements under the
Sarbanes-Oxley Act of 2002, as well as new rules implemented by the Securities
and Exchange Commission and the NYSE and NASDAQ. We expect these rules and
regulations to increase our legal and financial compliance costs and to make
some activities more time-consuming and costly. We also expect that these new
rules and regulations may make it more difficult and more expensive for us to
obtain director and officer liability insurance and we may be required to accept
reduced policy limits and coverage or incur substantially higher costs to obtain
the same or similar coverage. As a result, it may be more difficult for us to
attract and retain qualified individuals to serve on our Board of Directors or
as executive officers. We are currently evaluating and monitoring developments
with respect to these new rules, and we cannot predict or estimate the amount of
additional costs we may incur or the timing of such costs.
You may experience dilution if we raise funds through the issuance of additional
equity and/or convertible securities.
If we raise additional funds through the issuance of equity securities
or convertible securities, you may experience dilution of your percentage
ownership. This dilution may be substantial. In addition, these securities may
have powers, preferences and rights that are senior to the holders of our common
stock and may further limit our ability to pay dividends on our common stock.
21
Because the market for and liquidity of our shares is volatile and limited, and
because we are subject to the "Penny Stock" rules, the level of trading activity
in our common stock may be reduced.
Our common stock is quoted on the OTCBB. The OTCBB is generally
considered to be a less efficient market than the established exchanges or the
NASDAQ markets. While we anticipate seeking to be listed on the NASDAQ Small-Cap
Market at some time in the future, it is impossible at this time to predict
when, if ever, such application will be made or whether such application will be
successful. While our common stock continues to be quoted on the OTCBB, an
investor may find it more difficult to dispose of, or to obtain accurate
quotations as to the price of our common stock, compared to if our securities
were traded on NASDAQ or a national exchange. In addition, our common stock is
subject to certain rules and regulations relating to "penny stocks" (generally
defined as any equity security that is not quoted on the NASDAQ Stock Market and
that has a price less than $5.00 per share, subject to certain exemptions).
Broker-dealers who sell penny stocks are subject to certain "sales practice
requirements" for sales in certain nonexempt transactions (i.e., sales to
persons other than established customers and institutional "accredited
investors"), including requiring delivery of a risk disclosure document relating
to the penny stock market and monthly statements disclosing recent bid and offer
quotations for the penny stock held in the account, and certain other
restrictions. If the broker-dealer is the sole market maker, the broker-dealer
must disclose this, as well as the broker-dealer's presumed control over the
market. For as long as our securities are subject to the rules on penny stocks,
the liquidity of our common stock could be significantly limited. This lack of
liquidity may also make it more difficult for us to raise capital in the future.
22
ITEM 7. FINANCIAL STATEMENTS
Reference is made to page F-1 herein for the Index to the Financial
Statements.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
As previously reported in the Company's Form 8-K on March 31, 2005,
as a consequence of the change in management of the Company, resulting from the
acquisition of NetFabric Corp., on March 28, 2005, Michael Johnson & Co. LLC
("MJC") was dismissed as the independent registered public accounting firm for
Houston Operating Company (the "Company") by the Audit Committee of its Board of
Directors.
MJC's reports on the Company's financial statements for the past two
fiscal years did not contain an adverse opinion, disclaimer of opinion, nor were
they qualified or modified as to audit scope or accounting principles. The
report was qualified as to uncertainty about the Company's ability to continue
as a going concern unless it was able to generate sufficient cash flow to meet
its obligations and sustain its operations.
During the Company's two most recent fiscal years and through March
28, 2005, there were no disagreements with MJC on any matter of accounting
principles or practices, financial statement disclosure, or auditing scope or
procedure, which disagreements, if not resolved to the satisfaction of MJC,
would have caused it to make reference to the subject matter of the
disagreements in connection with this report. No reportable events of the type
described in Item 304(a)(1)(iv)(B) of Regulation S-B occurred during the two
most recent fiscal years.
Also effective March 28, 2005, J.H. Cohn LLP ("JHC") was appointed
as the new independent registered public accounting firm for the Company.
The audit report of JHC on the financial statements of the Company as
of and for the two fiscal years ended December 31, 2005 and 2004 did not contain
any adverse opinion or disclaimer of opinion, nor was it qualified or modified
as to audit scope or accounting principles. The report contains an explanatory
paragraph about the Company's ability to continue as a going concern.
ITEM 8A. CONTROLS AND PROCEDURES
Our disclosure controls and procedures are designed to ensure that
material information relating to the Company are made known by others within the
Company to our Chief Executive Officer ("CEO"), Chief Financial Officer ("CFO")
and others in the Company involved in the preparation of our annual report and
our quarterly reports. The Company has evaluated, with the participation of the
Company's CEO and CFO, the effectiveness of the design and operation of the
Company's disclosure controls and procedures as of December 31, 2005, pursuant
to Exchange Act Rule 15d-15. Based upon that evaluation, the CEO and CFO
concluded that the Company's disclosure controls and procedures are effective in
timely alerting them to material information relating to the Company required to
be included in the Company's periodic filings with the Commission.
23
ITEM 8B. OTHER INFORMATION
None.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS
The following table sets forth the names and positions of our executive
officers and directors. Our directors are elected at our annual meeting of
stockholders and serve for one year or until successors are elected and qualify.
Our Board of Directors elect our officers, and their terms of office are at the
discretion of the Board, except to the extent governed by an employment
contract.
As of April 7, 2006, our directors and executive officers, their age,
positions, the dates of their initial election or appointment as directors or
executive officers, and the expiration of their terms are as follows:
With
Company
Name Age Position Since
---- --- -------- ------
Jeffrey Robinson 53 Chairman and Chief Executive Officer November 2004
Fahad Syed 38 Director, Chief Executive Officer of UCA Services, May 2005
Inc.
Vasan Thatham 48 Chief Financial Officer June 2005
Charlotte G. Denenberg 58 Director November 2004
Joseph Perno 63 Director April 2006
Below are the biographies of each of our officers and directors as of April 7,
2006.
JEFF ROBINSON. Mr. Robinson has been the Chairman and Chief Executive Officer of
the Company since November 2004. Mr. Robinson is a co-founder of NetFabric Corp
and has been its Director and President since December 2002. He has served on
the Board of Directors of NetFabric Corp since 2002. Mr. Robinson is an
experienced entrepreneur and technologist. He was the CEO of IQ NetSolutions
from June 1994 to July 2002, a company that created one of the first
voice-over-packet systems with an emphasis on ease of installation. During the
period from October 1987 to July 1994, he was the Chairman and Chief Technology
Officer of Star Semiconductor, the company that created the world's first
commercially available multi-processor Digital Signal Processor (DSP) chip. From
December 1982 to September 1987, Mr. Robinson was the Director of a division at
General DataComm, and an IC Design Manager at Texas Instruments. Mr. Robinson is
the owner or co-owner of over 30 patents.
FAHAD SYED. Mr. Syed has been a Director of the Company since May of 2005. Mr.
Syed is an entrepreneur and co-founder of UCA Services, Inc. and has more than
14 years of experience in Global Services. . Mr. Syed was the Managing Director
of UCA Services, Inc, from June 2003 to May 2005. and he is currently the Chief
Executive Officer of UCA Services, Inc. Mr. Syed is an expert in the development
of best practices in IT, channel and direct sales strategies and effective
service delivery models. Prior to that, Mr. Syed was Vice President of IT
services with UCA Computer Systems, Inc., a system integrator, from December
1998 to May 2003. Previously, Mr. Syed held prominent positions in development
and management of Financial Products at the Housing Development Finance
Corporation (HDFC), a pioneer Housing Finance Institution in the private sector
in India. Mr. Syed holds a Masters Degree in Development Sciences from Tata
Institute of Social Sciences, Mumbai, India; a Bachelors degree in Sociology
from Aligarh University, India and a Diploma in Systems from National Institute
of Information Technology, Mumbai, India.
24
VASAN THATHAM. Vasan Thatham has been Vice President and Chief Financial Officer
of NetFabric since June 2005. Prior to joining the Company, from February 1999
through June 2005, Mr. Thatham was Vice President and Chief Financial Officer of
Provo International, Inc., a company engaged in providing Internet and
telecommunications services. Prior to that, Mr. Thatham held various positions
with Esquire Communications, Ltd, Strings Ltd., Ernst & Young in Kuwait and KMPG
Peat Marwick in India. Mr. Thatham is a chartered accountant under the laws of
India.
CHARLOTTE G. DENENBERG. Ms. Denenberg has been a Director of the Company since
November 2004. She received a BA in Psychology and Mathematics with Highest
Distinction, Phi Beta Kappa, from Northwestern University, and an MS and a PhD
in Mathematics from the Illinois Institute of Technology. For the past two years
she has consulted a variety of companies in the telecommunications industry.
From 1998 to 2002, she worked for Metromedia Fiber Network Services, Inc. (MFN)
as Vice President, Optical Infrastructure ( December 1998 to June 2000) and as
Vice President and Chief Technology Officer ( July 2000 to June 2002). MFN was
engaged in design, installation and maintenance of inter-city and intra-city
optical fiber networks.
JOSEPH PERNO. Mr. Perno has been a Director of the Company since April of 2006.
Since his retirement in March 2003, he has been a consultant to emerging
technology companies. From March 1994 to March 2003, he was Senior Vice
President of Technology at Chubb Corporation, a provider of property and
casualty insurance to businesses and individuals worldwide. Prior to that, he
was associated for 18 years with Chubb Corporation and Crum and Foster Insurance
Organizations in various capacities. Mr. Perno has been a member of the LOMA
Property and Casualty Systems Committee for twenty three years, serving as
Chairman of that organization from 1991 to 1992. He also served on the Boards of
Directors of ACORD, IVANS, the North River Insurance Company, US Fire Insurance
Company, The Westchester Insurance Company and the agency systems vendor,
Redshaw, Inc.
Family Relationships
There are no family relationships among the directors or executive officers of
the Company.
Involvement In Certain Legal Proceedings
None of our officers, directors, promoters or control persons have been involved
in the past five years in any of the following:
(1) any bankruptcy petition filed by or against any business of which such
person was a general partner or executive officer either at the time of the
bankruptcy or within two years prior to that time;
(2) any conviction in a criminal proceeding or being subject to a pending
criminal proceeding (excluding traffic violations and other minor offenses);
(3) Being subject to any order, judgment or decree, not subsequently reversed,
suspended or vacated, or any court of competent jurisdiction, permanently or
temporarily enjoining, barring, suspending or otherwise limiting his involvement
in any type of business, securities or banking activities; or
(4) Being found by a court of competent jurisdiction (in a civil action), the
Commission or the Commodity Futures Trading Commission to have violated a
federal or state securities or commodities law, and the judgment has not been
reversed, suspended, or vacated.
25
Our board of directors has created a Compensation Committee and an
Audit Committee.
Audit Committee
The Audit Committee is responsible for making recommendations to the
Board of Directors as to the selection and independence of our independent
registered public accounting firm, maintaining communication between the Board
of Directors and the independent auditor, reviewing the annual audit report
submitted by the independent auditor and determining the nature and extent of
problems, if any, presented by such audit warranting consideration by our board
of directors. Currently we do not have any members on our Audit Committee.
Membership on the Audit Committee is intended to be restricted to directors who
are deemed independent and free from any relationship that, in the opinion of
the Board of Directors, could interfere with the exercise of independent
judgment as a committee member.
Compensation Committee
The Compensation Committee is authorized to review and make
recommendations to the Board of Directors on all matters regarding the
remuneration of our executive officers, including the administration of our
compensation plans. The Compensation Committee is intended to be comprised of at
least three members. Currently, the Compensation Committee is comprised of only
Ms. Charlotte G. Denenberg.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Exchange Act requires a company's directors, officers and
stockholders who beneficially own more than 10% of any class of equity
securities of the Company registered pursuant to Section 12 of the Exchange Act,
collectively referred to herein as the Reporting Persons, to file initial
statements of beneficial ownership of securities and statements of changes in
beneficial ownership of securities with respect to the company's equity
securities with the SEC. All Reporting Persons are required by SEC regulation to
furnish us with copies of all reports that such Reporting Persons file with the
SEC pursuant to Section 16(a). Based solely on our review of the copies of such
reports and upon written representations of the Reporting Persons received by
us, we believe that all Section 16(a) filing requirements applicable to such
Reporting Persons have been met for 2005.
Code of Ethics
On March 3, 2005, we adopted a Code of Ethics that applies to us our principal
executive officer, principal financial officer, principal accounting officer or
controller, or persons performing similar functions.
ITEM 10. Executive Compensation
The following table sets forth, for the fiscal year ended December 31,
2005, information regarding the compensation earned by our Chief Executive
Officer and each of our most highly compensated executive officers whose
aggregate annual salary and bonus exceeded $100,000 for each year indicated,
with respect to services rendered by such persons to us and our subsidiaries
NetFabric Corporation and UCA Services, Inc.
26
Summary Compensation Table
Annual
Compensation Long-Term Compensation
---------------- ------------------------------------------------------------------
Restricted Securities
Other Annual Stock Underlying LTIP All Other
Name and Year Salary Bonus Compensation Awards Options/SARs Payouts Compensation
Principal Position (1) ($) ($) ($) ($) (#) ($) ($)
- ------------------------- ------ -------- ------- ------------ ------ ------------ ------- ------------
Jeff Robinson 2005 176,042 0 $24,000 0 0 0 0
Chief Executive Officer
(2) 2004 175,000 0 0 0 0 0 0
2003 0 0 0 0 0 0 0
Eric Strauss 2005 144,308 0 0 0 0 0 0
CEO of NetFabric Corporation 2004 0 0 0 0 0 0 0
2003 0 0 0 0 0 0 0
Fahad Syed (3) 2005 123,080 0 0 0 0 0 0
CEO of UCA Services, Inc. 2004 0 0 0 0 0 0 0
2003 0 0 0 0 0 0 0
Fred Nazem 2005 0 0 0 0 0 0 0
Chief Executive
Officer (4) 2004 175,000 0 0 0 0 0 0
2003 0 0 0 0 0 0 0
(1) No compensation was paid in 2003.
(2) Effective November 30, 2004, Jeff Robinson was appointed CEO and elected
Chairman. In 2005, we reimbursed six months of Jeff Robinson's rent
expense ($24,000) incurred by him.
3) For the period from May 20, 2005.
(4) Effective November 30, 2004, Fred Nazem resigned as Chairman and CEO of
the Company.
The following table sets forth information concerning individual grants
of stock options in 2004 to the Named Executive Officers:
OPTION/SAR GRANTS IN THE YEAR ENDED DECEMBER 31, 2005
NUMBER OF % TOTAL
SECURITIES OPTIONS/SARS
UNDERLYING GRANTED TO EXERCISE OR
OPTIONS/SARS EMPLOYEES IN BASE PRICE EXPIRATION
NAME GRANTED (#) FISCAL YEAR ($/SH) DATE
- --------------- -------------- --------------- ------------- -------------
February
Eric Strauss 450,000 40% $2.10 14, 2015
The following table sets forth information concerning the number of
options owned by our Named Executives, the value of any in-the-money unexercised
options as of December 31, 2005 and information concerning options exercised by
our Named Executives during the year ended December 31, 2005:
Aggregated Option Exercises and Year-End Option/SAR
Number of Securities Value of Unexercised
Shares Underlying Unexercised In-The Money
Acquired
on Value Options/ SAR at 12/31/2005 Options/ SARs at 12/31/2005
Realized
Exercise ($) Exercisable Unexercisable Exercisable Unexercisable
---------- ----------- ----------------- ---------------- ------------- ----------------
Eric Strauss 112,500 337,500
27
The year-end values for unexercised in-the-money options represent
the positive difference between the exercise price of the options and the
year-end market value of our common stock. An option is "in-the-money" if the
year-end fair market value of our common stock exceeds the option exercise
price. The closing sale price of our common stock on December 31, 2005 was $.95.
Employment Agreements
UCA entered into an employment agreement with Fahad Syed in June of 2003 which
will expire in May 2008, subject to automatic successive one year renewals
unless either we or the employee gives notice of intention not to renew the
agreement. The agreement provides for an annual base salary of $150,000, with
specified annual increases to the base salary. Pursuant to the employment
agreement, if we terminate Fahad Syed's employment without cause or good reason,
as defined in the employment agreement, we are obligated to pay a termination
benefit equal to the remaining annual base salary during the initial term of the
employment agreement.
Compensation Of Directors
Our non executive directors will receive an initial grant of stock options to
purchase 125,000 shares of common stock with an exercise price equal to the fair
market value. The options shall vest into 15,625 shares of common stock on the
date of grant and thereafter into 15,625 shares every three months for as long
as the board member is a member of our Board of Directors as of such date. The
option shall have a term of ten years from the date of grant. Every member of
the Board of Directors who is not an employee shall be entitled to a bi-annual
grant of Stock Options to purchase 125,000 shares of common stock on the two
year anniversary of the initial grant date and for every two year anniversary of
such date thereafter for as long as the member is a member of the Board of
Directors. The options shall vest into 15,625 shares of common stock on the date
of grant and into 15,625 shares of common stock every three months thereafter.
The options shall have a term of ten years. The exercise price shall be the fair
market value on the date of grant. Independent directors are also reimbursed for
out-of-pocket expenses in connection with attendance at board meetings and
committee meetings. In March 2005, we granted each of our then three non
executive directors, Charlotte G. Denenberg, Richard R. Howard and Madelyn M.
DeMatteo, stock options to purchase 125,000 shares of common stock. Each of our
non-employee directors are entitled to receive $12,000 in 2006 for attending
board Meetings
2005 Stock Option Plan
In March 2005, our Board of Directors and stockholders adopted our 2005 Stock
Option Plan, pursuant to which 9,000,000 shares of common stock were reserved
for issuance upon exercise of options. Our stock option plan is designed to
serve as an incentive for retaining qualified and competent employees, directors
and consultants.
28
Our Board of Directors or a committee of our Board of Directors administers our
stock option plan and is authorized, in its discretion, to grant options under
our stock option plan to all eligible employees, including our officers,
directors (whether or not employees) and consultants. Our stock option plan
provides for the granting of both "incentive stock options" (as defined in
Section 422 of the Internal Revenue Code of 1986, as amended) and non-qualified
stock options. Options can be granted under our stock option plan on such terms
and at such prices as determined by the Board of Directors or its committee,
except that the per share exercise price of options will not be less than the
fair market value of the common stock on the date of grant. In the case of an
incentive stock option granted to a stockholder who owns stock possessing more
than 10% of the total combined voting power of all of our classes of stock, the
per share exercise price will not be less than 110% of the fair market value on
the date of grant. The aggregate fair market value (determined on the date of
grant) of the shares covered by incentive stock options granted under our stock
option plan that become exercisable by a grantee for the first time in any
calendar year is subject to a $100,000 limit. Options granted under our stock
option plan will be exercisable during the period or periods specified in each
option agreement. Options granted under our stock option plan are not
exercisable after the expiration of 10 years from the date of grant (five years
in the case of incentive stock options granted to a stockholder owning stock
possessing more than 10% of the total combined voting power of all of our
classes of stock) and are not transferable other than by will or by the laws of
descent and distribution.
ITEM 11. Security Ownership Of Certain Beneficial Owners And Management
PRINCIPAL STOCKHOLDERS
The table below sets forth information with respect to the beneficial ownership
of our common stock as of March 31, 2006 for (i) persons who own more than 5% of
our outstanding common stock; (ii) each of our directors or those nominated to
be directors, and executive officers; and (iii) all of our directors and
executive officers as a group.
29
- --------------------------------------------------------------------------------
Name and Address Amount and Nature Percentage of Class(1)
of Beneficial Owner of Beneficial
Ownership
- --------------------------------------------------------------------------------
Fred Nazem 15,069,977(3) 23.9%
44 East 73rd Street
New York, NY 10021
- --------------------------------------------------------------------------------
Faisal Syed 13,238,462 21.2%
12 Kings Brook Court
Mendham, NJ 07945
- --------------------------------------------------------------------------------
Mohamed Asif 13,238,462 21.2%
53 Burnet Hill Road
Livingston, NJ 07039
- --------------------------------------------------------------------------------
Fahad Syed c/o 6,919,231(5) 11.0%
NetFabric Holdings,
Inc
3 Stewart Court
Denville, NJ 07834
- --------------------------------------------------------------------------------
Macrocom Investors, LLC 5,750,000(2) 8.5%
1365 York Avenue, 28B
New York, NY 10021
- --------------------------------------------------------------------------------
Jeff Robinson 4,832,476 7.7%
c/o NetFabric Holdings, Inc.
3 Stewart Court
Denville, NJ 07834
- --------------------------------------------------------------------------------
Vasan Thatham 75,000(6) *
c/o NetFabric Holdings, Inc.
3 Stewart Court
Denville, NJ 07834
- --------------------------------------------------------------------------------
Charlotte G. Denenberg 62,500(4) *
c/o NetFabric Holdings, Inc.
3 Stewart Court
Denville, NJ 07834
- --------------------------------------------------------------------------------
All Directors and Executive
Officers as a Group (4 persons) 11,889,207(7) 18.9%
- --------------------------------------------------------------------------------
* Less than 1%.
(1) Applicable percentage of ownership is based on 62,508,883 shares of common
stock outstanding as of March 31, 2006 for each stockholder. Beneficial
ownership is determined in accordance with the rules of the SEC and generally
includes voting of investment power with respect to securities. Shares of common
stock subject to securities exercisable or convertible into shares of common
stock that are currently exercisable or exercisable within 60 days of March 31,
2006 are deemed to be beneficially owned by the person holding such options for
the purpose of computing the percentage of ownership of such persons, but are
not treated as outstanding for the purpose of computing the percentage ownership
of any other person.
30
(2) Includes 3,000,000 shares issuable upon exercise of warrants and 2,000,000
shares issuable upon conversion of convertible debentures. Michael Million makes
the investment decisions on behalf of and controls Macrocom Investors , LLC.
Excludes 340,000 shares held by Michael Million.
(3) Includes 100,000 shares issuable upon exercise of warrants, 100,000 shares
issuable upon the conversion convertible debentures, and 6,592,212 shares held
by the Fred F. Nazem Children's Trust, whose trustees are Alexander Nazem,
Farhad Nazem and Sohelya Gharib. Fred Nazem disclaims beneficial ownership of
these securities.
(4) Includes 62,500 shares issuable upon exercise of options.
(5) Includes 300,000 shares issuable upon exercise of warrants.
(6) Includes 75,000 shares issuable upon exercise of options.
(7) Includes 137,500 shares issuable upon exercise of options, 300,000 shares
issuable upon exercise of warrants.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
We have a sublease with UCA Global, Inc., an entity affiliated with
Faisal Syed, a stockholder . The lease is for an office of 13,000 square feet
for a three year term through July 2008 with an annual rent of $144,000. The
sublease rent was determined by the landlord based on the area of usage and our
subsidiary pays its share of rent directly to the landlord.
Prior to our acquisition of UCA, UCA issued a promissory note to Faisal
Syed, a stockholder for $100,000. The note bears interest at the rate of 6%. The
promissory note together with accrued but unpaid interest was due on June 16,
2005. We repaid the promissory note in February 2006.
In June of 2005, Fred Nazem, a stockholder, advanced us $70,000 for our
working capital. The loan was interest free and not subject to any written
agreement and did not have any formal due date. We repaid this amount in
February of 2006.
In June 2005, Fahad Syed, an officer and director, advanced us $200,000
for our working capital. Initially, the loan was interest free and not subject
to any written agreement. In December 2005, we issued a promissory note to
formalize our borrowing. The interest on the loan was for 5% and it was due in
January of 2006. In December 2005, we also issued a warrant to acquire 300,000
shares of our common stock at $1.00 per share to Fahad Syed as additional
consideration. The warrant expires in January of 2009. We repaid this amount in
February of 2006.
In July 2005, we sold convertible debentures to a stockholder, Fred
Nazem, and to CCS Group, LLC. an entity affiliated with Walter Carozza, our
former officer, for the face amount of $50,000 each, repayable in April 2006.
The convertible debenture can be converted into shares of our common stock at a
conversion price of $.50 per share. In connection with the sale, we issued each
of them warrants to acquire 100,000 shares of our common stock at an exercise
price of $1.50 per share. The warrants expire in three years from the date of
issuance. We also issued each of them 37,500 shares of our common stock as
additional consideration.
In the normal course of business, we performed services and billed
Clear to Close, Inc, an entity affiliated with our stockholders, in the amount
of $141,000. As of December 31, 2005 Clear to Close owed us approximately
$164,000, including amounts owed to UCA prior to our acquisition.
ITEM 13. EXHIBITS AND REPORTS
A. Exhibits
- ----------------- ----------------------------------------------------------
Exhibit 2.1 Share Exchange Agreement between the Company, NetFabric,
NetFabric's shareholders and Littlehampton LLC, dated December
9, 2004. (1)
31
Exhibit 2.2 Share Exchange Agreement between the Company, UCA Services,
Inc. and all of the Shareholders of UCA Services, Inc. dated
May 20, 2005. (4)
Exhibit 3.1 Articles of Incorporation *
Exhibit 3.2 By-Laws. *
Exhibit 10.1 Letter Agreement between Houston Operating Company and
NetFabric Corporation and Macrocom Investors, LLC and
Littlehampton Investments, LLC, dated March 25, 2005. (3)
Exhibit 10.2 Financing Agreement between NetFabric and Macrocom, dated July
22, 2004. (1)
Exhibit 10.3 Loan Agreement between NetFabric and Macrocom, dated October
14, 2004. (1)
Exhibit 10.4 Amendment to Financing and Loan Agreement between NetFabric
and Macrocom, dated December 2, 2004. (1)
Exhibit 10.5 Distribution Agreement between NetFabric and Williams, dated
November 29, 2004. (1)
Exhibit 10.6 Lease Agreement between NetFabric and Silvermine, dated
January 1, 2004. (1)
Exhibit 10.7 2005 Stock Option Plan. (2)
Exhibit 10.8 Agreement with Macrocom Investors, LLC for Convertible
Debentures dated July 19, 2005. (5)
Exhibit 10.9 Warrant, dated as October 27, 2005, issued by the Company to
Cornell Capital Partners, LP. (6)
Exhibit 10.10 Securities Purchase Agreement, dated as of October 27, 2005,
by and between the Company and Cornell Capital Partners, LP.
(6)
Exhibit 10.11 Investor Registration Rights Agreement, dated as of October
27, 2005, by and between the Company and Cornell Capital
Partners, LP. (6)
Exhibit 10.12 Escrow Agreement, dated as of October 27, 2005, by and among
the Company, Cornell Capital Partners,LP and David Gonzalez,
Esq., as escrow agent pursuant to the Securities Purchase
Agreement. (6)
Exhibit 10.13 Amended and Restated Security Agreement, dated as of October
27, 2005, by and between the Company and Cornell Capital
Partners, LP. (6)
Exhibit 10.14 Amended and Restated Security Agreement, dated as of October
27, 2005, by and between NetFabric Corporation and Cornell
Capital Partners, LP. (6)
Exhibit 10.15 Amended and Restated Security Agreement, dated as of October
27, 2005, by and between UCA Services, Inc. and Cornell
Capital Partners, LP. (6)
Exhibit 10.16 Officer Pledge and Escrow Agreement, dated as of October 27,
2005, by and among the Company, Cornell Capital Partners, LP
and David Gonzalez, Esq., as escrow agent. (6)
Exhibit 10.17 Form of Secured Convertible Debenture issued to Cornell
Capital Partners, LP dated October 27, 2005. (6)
Exhibit 10.18 Employment Agreement with Fahad Syed.*
Exhibit 14.1 Code of Business Conduct and Ethics. (3)
Exhibit 21.1 Subsidiaries of the Registrant*
Exhibit 31.1 Rule 13a-14(a)/15d-14(a) Certification (CEO)*
Exhibit 31.2 Rule 13a-14(a)/15d-14(a) Certification (CFO)*
Exhibit 32.1 Section 1350 Certification (CEO)*
Exhibit 32.2 Section 1350 Certification (CFO)*
* Filed herewith.
(1) Filed as an Exhibit to the Company's 8-K filed on December 15, 2004.
(2) Filed with Schedule 14C Information on March 21, 2005.
(3) Filed as an Exhibit to the Company's 10K/A filed on December 19, 2005.
(4) Filed as an Exhibit to the Company's Form 8-K on May 26, 2005
(5) Filed as an exhibit on the Company's 8-K filed on July 25, 2006.
32
(6) Filed as an Exhibit on the Company's SB-2 on November 2, 2005
B. Reports:
Form 8K was filed by the Company with the SEC on November 2, 2005 to
report under Item 1.02 the termination of an agreement with Cornell Capital
Partners.
Form 8K was filed by the Company with the SEC on November 14, 2005 to
report under Item 2.02 results of operations for the three months ended
September 30, 2005 and to report under Item 5.02 the resignation of a Director.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
Audit Fees
The aggregate fees billed or to be billed for professional services
rendered by our independent registered public accounting firm for the audit of
our annual financial statements, review of financial statements included in our
quarterly reports and other fees that are normally provided by the accounting
firm in connection with statutory and regulatory filings or engagements for the
fiscal years ended December 31, 2005 and 2004 were $181,000 and 61,000,
respectively.
Audit Related Fees
The aggregate fees billed or to be billed for audit related services
by our independent registered public accounting firm that are reasonably related
to the performance of the audit or review of our financial statements, other
than those previously reported in this Item 14, for the fiscal years ended
December 31, 2005 and 2004 were $53,000 and $0, respectively.
Tax Fees
The aggregate fees billed for professional services rendered by our
independent registered public accounting firm for tax compliance, tax advice and
tax planning for the fiscal years ended December 31, 2005 and 2004 were $8,000
and $0, respectively.
All Other Fees
There were no other fees billed for services by our independent
registered public accounting firm for either audit related or non audit services
for the fiscal years ended December 31, 2005 and 2004.
The Audit Committee considered and determined that the services
performed are compatible with maintaining the independence of the independent
registered public accounting firm.
Policy on Audit Committee Pre-Approval of Audit and Permissible Non-Audit
Services of Independent Auditor
33
The Audit Committee is responsible for pre-approving all audit and
permitted non-audit services to be performed for us by our Independent
Registered Public Accounting Firm as outlined in its Audit Committee charter.
Prior to engagement of the Independent Registered Public Accounting Firm for
each year's audit, management or the Independent Registered Public Accounting
Firm submits to the Audit Committee for approval an aggregate request of
services expected to be rendered during the year, which the Audit Committee
pre-approves. During the year, circumstances may arise when it may become
necessary to engage the Independent Registered Public Accounting Firm for
additional services not contemplated in the original pre-approval. In those
circumstances, the Audit Committee requires specific pre-approval before
engaging the Independent Registered Public Accounting Firm. The Audit Committee
does not delegate to management its responsibility to pre-approve services
performed by the Independent Registered Public Accounting Firm.
34
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the
registrant has caused this report to be signed on its behalf by the undersigned,
thereunto duly authorized.
Date: April 17, 2006 /s/ JEFF ROBINSON
-----------------
Jeff Robinson Chairman, President and
Chief Executive Officer
(principal executive officer)
In accordance with the Exchange Act, this report has been signed below
by the following persons on behalf of the registrant and in the capacities and
on the dates indicated.
Date: April 17, 2006 /s/ JEFF ROBINSON
-----------------
Jeff Robinson Chairman, President
and Chief Executive Officer
(principal executive officer)
Date: April 17, 2006 /s/ VASAN THATHAM
-----------------
Vasan Thatham, Chief Financial
Officer (principal accounting officer)
Date: April 17, 2006 /s/ JOSEPH PERNO
----------------
Joseph Perno, Director
Date: April 17, 2006 /s/ CHARLOTTE G. DENENBERG
--------------------------
Charlotte G. Denenberg, Director
Date: April 17, 2006 /s/ FAHAD SYED
--------------
Fahad Syed, Director
35
NETFABRIC HOLDINGS INC AND SUBSIDIARIES
INDEX TO FINANCIAL STATEMENTS
Report of Independent Registered Public Accounting Firm......................F-2
Consolidated financial statements:
Consolidated Balance Sheets, December 31, 2005 and 2004...................F-3
Consolidated Statements of Operations, for the years
ended December 31, 2005 and 2004..........................................F-4
Consolidated Statements of Stockholders' Equity
(Deficit), for the years ended December 31, 2005 and 2004.................F-5
Consolidated Statements of Cash Flows, for the years
ended December 31, 2005 and 2004..........................................F-6
Notes to Consolidated financial statements.........................F-7 - F-25
F-1
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
Board of Directors and Stockholders
NetFabric Holdings Inc. and Subsidiaries
We have audited the accompanying consolidated balance sheets of NetFabric
Holdings Inc. and Subsidiaries, formerly known as Houston Operating Company, as
of December 31, 2005 and 2004, and the related consolidated statements of
operations, stockholders' equity (deficit) and cash flows for the years then
ended. These consolidated financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the
consolidated financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the consolidated financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall consolidated financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
NetFabric Holdings Inc. and Subsidiaries as of December 31, 2005 and 2004, and
their consolidated results of operations and cash flows for the years then
ended, in conformity with accounting principles generally accepted in the United
States of America.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note 1 to the
consolidated financial statements, the Company has had net losses from inception
and has a working capital deficiency. These matters raise substantial doubt
about its ability to continue as a going concern. Management's plans in regard
to these matters are also described in Note 1. The consolidated financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
/s/ J.H. Cohn LLP
Jericho, New York
April 17, 2006
F-2
NetFabric Holdings, Inc. and Subsidiaries
Consolidated Balance Sheets
December 31, 2005 December 31, 2004
----------------- -----------------
ASSETS
Current Assets:
Cash and cash equivalents $ 9,540 $ 67,719
Trade accounts receivable, net 2,090,201 18,284
Inventory -- 72,025
Due from related party 192,056 --
Prepaid expenses and other current assets 78,119 70,626
------------ ------------
Total current assets 2,369,916 228,654
Property and equipment, net 164,984 171,931
Deferred offering costs -- 368,683
Goodwill 13,982,451 --
Other intangibles, net 1,099,717 --
Other assets 9,994 43,053
------------ ------------
Total $ 17,627,062 $ 812,321
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current Liabilities:
Bridge loans, net of unamortized discount $ 441,125 $ 749,659
Convertible debentures payable to stockholders and
director, net of unamortized discounts 366,666 --
Note payable to officer, net of unamortized discount 100,941 --
Loans and advances from officer and stockholders 202,639 32,639
Accounts payable and accrued liabilities 2,988,410 273,707
Accrued compensation 380,722 --
Deferred revenues and customer advances 66,019 25,966
------------ ------------
Total current liabilities 4,546,522 1,081,971
Derivative financial instruments 4,087,517 --
Convertible debentures, net of unamortized discount 612,059 --
------------ ------------
Total liabilities 9,246,098 1,081,971
------------ ------------
Commitments and contingencies
Stockholders' Equity (Deficit):
Common Stock, $.001 par value, 100,000,000 shares
authorized, 62,448,347 and 34,652,204 shares issued
and outstanding, respectively 62,448 34,652
Additional paid-in capital 16,657,804 1,216,523
Deferred employee compensation (36,478) --
Accumulated deficit (8,302,810) (1,520,825)
------------ ------------
Total stockholders' equity (deficit) 8,380,964 (269,650)
------------ ------------
Total $ 17,627,062 $ 812,321
============ ============
See Notes to Consolidated Financial Statements
F-3
NetFabric Holdings, Inc. and Subsidiaries
Consolidated Statements of Operations
2005 2004
------------ ------------
Revenues $ 12,541,268 $ 612
------------ ------------
Expenses:
Direct employee compensation and
consultant expenses 9,260,153 3,126
Selling, general and administrative expenses 6,025,258 920,718
Research and development 457,385 395,452
Depreciation and amortization 248,941 8,211
------------ ------------
Total expenses 15,991,737 1,327,507
------------ ------------
Loss from operations (3,450,469) (1,326,895)
------------ ------------
Other income / (expense):
Amortization of debt discount and debt
issuance costs (1,197,277) (161,062)
Interest expenses (103,888) (14,303)
Charge for change in derivative
financial instruments (2,131,109) --
Gain on modification of debt 100,758 --
------------ ------------
Total other expenses (3,331,516) (175,365)
------------ ------------
Loss before provision for income taxes (6,781,985) (1,502,260)
Provision for income taxes -- --
------------ ------------
Net Loss $ (6,781,985) $ (1,502,260)
============ ============
Net loss per common share, basic and diluted $ (0.13) $ (0.05)
============ ============
Weighted average number of shares
outstanding, basic and diluted 52,735,122 31,362,838
============ ============
See Notes to Consolidated Financial Statements
F-4
NetFabric Holdings, Inc. and Subsidiaries
Consolidated Statements of Stockholders' Equity (Deficit)
Common Stock
---------------------- Additional Deferred
Shares Par Value Paid-in Capital Compensation
---------- --------- --------------- ------------
Balances at December 31, 2003 29,829,758 $ 29,830 $ 4,649 $ --
Sale of common stock to investors 1,648,053 1,648 248,352
Issuance of common stock to landlord in
lieu of rent 659,221 659 99,341
Common stock issued in connection with
share exchange 1,765,172 1,765 (30,874)
Allocation of proceeds from bridge loans
to common stock 500,000 500 410,903
Value of shares and warrants issued in
connection with financing commitment 250,000 250 368,433
Issuance of options to purchase common
stock to non-employees for services -- -- 115,719
Net loss -- -- --
---------- --------- ------------ ---------
Balances at December 31, 2004 34,652,204 34,652 1,216,523 --
Sale of common stock to investors, net
of offering costs of $368,683 2,000,000 2,000 629,317 --
Settlement of bridge loan with common
stock 1,000,000 1,000 499,000 --
Issuance of shares in connection with
acquisition 24,096,154 24,096 13,798,904 --
Allocation of value to warrants in
connection with bridge loan -- -- 392,196 --
Deferred employee stock option
compensation -- -- 67,500 (67,500)
Amortization of deferred employee stock
option compensation -- -- -- 31,022
Issuance of shares in connecion with
SEDA, net 249,999 250 349,313 --
Issuance of shares in connection with
convertible debentures 450,000 450 155,608 --
Issuance of warrants in connection with
convertible debentures -- -- 395,333 --
Allocation of value to beneficial
conversion feature in connection with
convertible debentures -- -- 416,509 --
Reclassification of financial instrument -- -- (1,262,399) --
Net loss -- -- -- --
---------- --------- ------------ ---------
Balances at December 31, 2005 62,448,357 $ 62,448 $ 16,657,804 $ (36,478)
========== ========= ============ =========
Total
Accumulated Stockholders' Equity
Deficit (Deficit)
------------ --------------------
Balances at December 31, 2003 $ (18,565) $ 15,914
Sale of common stock to investors -- 250,000
Issuance of common stock to landlord in
lieu of rent -- 100,000
Common stock issued in connection with
share exchange -- (29,109)
Allocation of proceeds from bridge loans
to common stock -- 411,403
Value of shares and warrants issued in
connection with financing commitment -- 368,683
Issuance of options to purchase common
stock to non-employees for services -- 115,719
Net loss (1,502,260) (1,502,260)
------------ -------------
Balances at December 31, 2004 (1,520,825) (269,650)
Sale of common stock to investors, net
of offering costs of $368,683 -- 631,317
Settlement of bridge loan with common
stock -- 500,000
Issuance of shares in connection with
acquisition -- 13,823,000
Allocation of value to warrants in
connection with bridge loan -- 392,196
Deferred employee stock option
compensation -- --
Amortization of deferred employee stock
option compensation -- 31,022
Issuance of shares in connecion with
SEDA, net -- 349,563
Issuance of shares in connection with
convertible debentures -- 156,058
Issuance of warrants in connection with
convertible debentures -- 395,333
Allocation of value to beneficial
conversion feature in connection with
convertible debentures -- 416,509
Reclassification of financial instrument -- (1,262,399)
Net loss (6,781,985) (6,781,985)
------------ -------------
Balances at December 31, 2005 $ (8,302,810) $ 8,380,964
============ =============
See Notes to Consolidated Financial Statements
F-5
NetFabric Holdings, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
2005 2004
----------- -----------
OPERATING ACTIVITIES
Net loss $(6,781,985) $(1,502,260)
Adjustments to reconcile net loss to net cash used in operating activities:
Non-cash charge for common stock issued for rent 50,000 50,000
Non-cash charge for options issued to non-employees 20,626 60,059
Non-cash charge for shares issued in connection with the SEDA 349,563 --
Non-cash charge for amortization
of employee deferred compensation 31,022 --
Non-cash gain on extinguishment of debt (100,758) --
Non-cash charge for change in derivative financial instrument 2,131,109
Impairment of fixed assets 111,536 --
Allowance for bad debts 206,694 --
Allowance for inventory obsolescence 248,742 --
Amortization of debt discount 1,174,404 161,062
Amortization of debt issuance costs 22,873 --
Depreciation and amortization 248,941 8,211
Changes in operating assets and liabilities:
Inventory (176,717) (72,025)
Trade accounts receivable (124,643) (18,284)
Due from related party (192,056) --
Prepaid expenses and other current assets 30,139 --
Other assets 22,864 --
Accounts payable and accrued liabilities 553,988 273,460
Accrued compensation 160,357 --
Deferred revenues and advances (1,032,648) 25,965
----------- ----------
Net cash used in operating activities (3,045,949) (1,013,812)
----------- ----------
INVESTING ACTIVITIES
Direct acquisition costs of UCA Services, Inc. (187,000) --
Purchases of property and equipment (120,845) (180,142)
Decrease in due from stockholder -- 90
----------- ----------
Net cash used in investing activities (307,845) (180,052)
----------- ----------
FINANCING ACTIVITIES
Proceeds from issuance of common stock 1,000,000 250,000
Proceeds from the issuance of note to officer 200,000 --
Convertible debentures issued to stockholder and officer 100,000 --
Loans from officer and director 120,000 --
Repayment of loans from officer and director (50,000) (6,470)
Proceeds from bridge loans -- 1,000,000
Proceeds from convertible debentures, net 1,951,160 --
Debt issuance costs (25,545) --
----------- ----------
Net cash provided by financing activities 3,295,615 1,243,530
----------- ----------
Net (decrease) increase in cash and cash equivalents (58,179) 49,666
Cash and cash equivalents at beginning of year 67,719 18,053
----------- ----------
Cash and cash equivalents at end of year $ 9,540 $ 67,719
=========== ==========
Supplemental cash flow information:
Cash paid for interest expense $ 40,991 $ --
=========== ==========
Cash paid for income taxes $ -- $ --
=========== ==========
See Notes to Consolidated Financial Statements
F-6
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
NOTE 1. NATURE OF BUSINESS AND MANAGEMENT'S PLANS
NetFabric Holdings, Inc. ("Holdings" or the "Company") (formerly known as
Houston Operating Company) was incorporated under the laws of the State of
Delaware on August 31, 1989. On December 9, 2004, Holdings entered into an
Exchange Agreement (the "Acquisition Agreement" or "Share Exchange") with all of
the stockholders of NetFabric Corporation ("NetFabric") whereby Holdings
acquired all of the issued and outstanding capital stock of NetFabric and
NetFabric became a wholly-owned subsidiary of Holdings. Upon completion of the
merger, the NetFabric stockholders controlled approximately 95% of the then
issued and outstanding stock. NetFabric's business activities were the
activities of the merged company and Holdings was a shell corporation without
any operations. As a result of these factors, this transaction was treated as a
reverse merger, and a capital transaction, equivalent to the issuance of stock
by NetFabric for Holdings' net assets and, accordingly, the historical financial
statements prior to December 9, 2004 are those of NetFabric (Holdings and its
subsidiaries are collectively referred to as "Holdings").
NetFabric, a Delaware corporation incorporated on December 17, 2002, began
operations in July 2003. NetFabric develops and markets Voice Over Internet
Protocol ("VoIP") appliances that simplify the integration of standard telephone
systems with an IP infrastructure. During 2005, NetFabric scaled back its VoIP
operations including product development efforts and is continuing to explore
strategic opportunities for VoIP operations.
On May 20, 2005, Holdings entered into and closed on a share exchange agreement
("Exchange Agreement"), whereby Holdings acquired all of the issued and
outstanding shares of UCA Services, Inc. ("UCA Services"), a New Jersey company,
from its shareholders in exchange for the issuance of 24,096,154 shares of
common stock of Holdings (see Note 6). Holdings emerged from the development
stage upon the acquisition of UCA Services.
UCA Services, a New Jersey company, is an information technology ("IT") services
company that serves the information and communications needs of a wide range of
Fortune 500 and small to mid-size business clients in the financial markets
industry as well as the pharmaceutical, health care and hospitality sectors. UCA
Services delivers a broad range of IT services in the practice areas of
infrastructure builds and maintenance, application development and maintenance,
managed services and professional services.
Management's plans
The accompanying consolidated financial statements have been prepared on a going
concern basis. As shown in the accompanying consolidated financial statements,
the Company has incurred accumulated losses totaling $8,302,810 and a working
capital deficit of $2,176,606 at December 31, 2005. These factors, among others,
indicate that the Company may be unable to continue as a going concern. The
consolidated financial statements do not include any adjustments that might
result from the outcome of this uncertainty.
Management recognizes that the Company's continuation as a going concern is
dependent upon its ability to generate sufficient cash flow to allow the Company
to continue the development of its business plans and satisfy its current and
long-term obligations on a timely basis. The Company believes that it will be
able to complete the necessary steps in order to meet its cash requirements
throughout fiscal 2006 and continue its business development efforts.
Management's plans in this regard include, but are not limited to, the
following:
o Subsequent to December 31, 2005, the Company has issued Convertible
Debentures (see Note 7) in the aggregate principal amount of $3
million through March 31, 2006.
o In order to execute its business plan and achieve its objectives for
the near future, management believes it will require approximately
$2,500,000 over the next 12 months for working capital. A significant
component of this is for satisfying our obligations as they become
due, both borrowing and vendor payables.
o Current discussions and negotiations with a number of additional
financing alternatives, one or more of which management believes will
be able to successfully close to provide necessary working capital.
The Company has received a letter of interest from a third party to
provide the Company $2.5 million in subordinated debt financing. The
financing is subject to a number of significant conditions including
negotiation of a definitive agreement, necessary approvals and due
diligence. There is no assurance that the Company will be successful
in completing this financing.
F-7
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
To fund its operations for the remainder of 2006, the Company needs to raise
additional financing and generate cash flows from its operations. Should
additional cash flows not be available, management believes that the Company
would have the ability to restructure its operations and if necessary initiate
significant reductions in expenses. In addition, the Company will have to
negotiate with its lenders to extend the repayment dates of its indebtedness.
There can be no assurance, however, that the Company will be able to
successfully restructure its operations or debt obligations in the event it
fails to obtain additional financing.
NOTE 2. BASIS OF PRESENTATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES AND
PRACTICES
Basis of Presentation of Consolidated Financial Statements and Estimates
The consolidated financial statements include the accounts of Holdings and its
wholly-owned subsidiaries. All significant intercompany transactions and
balances have been eliminated. The preparation of the consolidated financial
statements in conformity with generally accepted accounting principles in the
United States of America requires management to make estimates and assumptions
that affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the consolidated financial
statements and the reported amounts of revenues and expenses during the
reporting period. The accounting estimates that require management's most
difficult and subjective judgments include the value and allocation of purchase
price in business combinations, provisions for bad debts,
depreciable/amortizable lives, impairment of long-lived assets, the fair value
of common stock and options issued for services as well as the allocation of
proceeds from the bridge loan to and financial instruments and other reserves.
Because of the uncertainty inherent in such estimates, actual results may differ
from these estimates.
Reclassifications
Certain reclassifications have been made in the 2004 consolidated financial
statements to conform to the current presentation.
Revenue Recognition
The Company derives revenue from the sale of its communication equipment
products. In accordance with SEC Staff Accounting Bulletin No. 104, "Revenue
Recognition," revenue is recognized when persuasive evidence of an arrangement
exists, delivery has occurred, the fee is fixed and determinable, collectibility
is reasonably assured, contractual obligations have been satisfied, and title
and risk of loss have been transferred to the customer.
UCA Services derives revenue primarily from professional services, managed IT
services, application development services and from business process management
services. Arrangements with customers for services are generally on a time and
material basis or fixed-price, fixed-timeframe. Revenue on time-and-material
contracts is recognized as the related services are performed. Revenue from
fixed-price, fixed-timeframe service contracts is recognized ratably over the
term of the contract. When the Company receives cash advances from customers in
advance of the service period, amounts are reported as advances from customers
until the commencement of the service period. Billings and collections in excess
of revenue recognized are classified as deferred revenue.
To date NetFabric has had only nominal revenues and its communication equipment
products have been marketed only through a limited network of distributors and
value-added resellers ("VAR"). In the VAR channel, NetFabric recognizes revenue
at the time of shipment if all other contractual obligations to the VAR have
been satisfied. In the distributor channel, NetFabric recognizes revenue when
the distributor sells and ships NetFabric products to its own VARs, resellers or
end-user customers, provided the Company has satisfied all other terms and
conditions with the distributor. Accordingly, NetFabric receives distribution
sales and inventory information regarding its products from its distributors for
the purpose of determining the appropriate timing of revenue recognition.
Both VARs and distributors have limited right to return products to the Company
but must obtain prior approval from NetFabric before returning products. This
policy is a common practice within the industry. NetFabric has no obligation to
accept the return of any unsold products. If required, the Company accrues a
provision for estimated sales returns and other allowances and deferrals as a
reduction of revenue at the time of revenue recognition. To date no provisions
for estimated sales returns and other allowances have been recognized. The
Company has no obligation to provide service, repair, counseling or other
assistance to any customers of the VARs or distributors unless NetFabric has a
specific agreement directly with such customer.
F-8
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Allowance for Doubtful Accounts
The Company maintains allowances for doubtful accounts for estimated losses
resulting from the inability of its customers to make required payments. These
estimated losses are based upon historical bad debts, specific customer
creditworthiness and current economic trends. If the financial condition of a
customer deteriorates, resulting in the customer's inability to make payments
within approved credit terms, additional allowances may be required. The Company
performs credit evaluations of its customers' financial condition on a regular
basis, and has not experienced any material bad debt losses to date. The Company
recorded allowances for bad debts of $206,694 and $0 during years ended December
31, 2005 and 2004, respectively.
Inventory
Inventory consists primarily of finished goods and purchased electronic
components, and is stated at the lower of cost or market. Cost is determined by
using the first-in, first-out method. At December 31, 2005, NetFabric recorded a
full valuation allowance against its inventory due to its inability to acquire
certification of its products.
Cash and Cash Equivalents
The Company considers all investments with an original maturity of three months
or less when purchased to be cash equivalents.
Property and Equipment
Property and equipment, consisting principally of computer equipment and
furniture and fixtures, are recorded at cost. Depreciation and amortization are
provided for on a straight line basis over the following useful lives:
Equipment 3 years
Purchased software 3 years
Furniture and fixtures 7 years
Leasehold improvements Lesser of life of lease or useful life
Repairs and maintenance are charged to operations as incurred.
Long-Lived Assets
Long-lived assets, including property and equipment and intangible assets with
finite lives, are monitored and reviewed for impairment in value whenever events
or changes in circumstances indicate that the carrying amount of any such asset
may not be recoverable. The determination of recoverability is based on an
estimate of undiscounted cash flows expected to result from the use of an asset
and its eventual disposition. The estimated cash flows are based upon, among
other things, certain assumptions about expected future operating performance,
growth rates and other factors. Estimates of undiscounted cash flows may differ
from actual cash flows due to factors such as technological changes, economic
conditions, and changes in the Company's business model or operating
performance. If the sum of the undiscounted cash flows (excluding interest) is
below the carrying value, an impairment loss is recognized, measured as the
amount by which the carrying value exceeds the fair value of the asset. During
2005, the Company recognized approximately $112,000 of impairments of fixed
assets in selling, general and administrative expenses for the year ended
December 31, 2005.
Concentrations of Credit Risk
Financial instruments that potentially subject the Company to concentrations of
credit risk consist primarily of cash and cash equivlents and accounts
receivable. The Company reduces credit risk by placing its cash and cash
equivalents with major financial institutions with high credit ratings. At
times, such amounts may exceed Federally insured limits. The Company reduces
credit risk related to accounts receivable by routinely assessing the financial
strength of its customers and maintaining an appropriate allowance for doubtful
accounts.
The Company's services have been provided primarily to a limited number of
clients located worldwide in a variety of industries. The Company had revenues
from 2 clients representing 40% (30% and 10%, respectively) of revenues during
the year ended December 31, 2005.
The Company generally does not require its clients to provide collateral.
Additionally, the Company is subject to a concentration of credit risk with
respect to its accounts receivable. The Company had 3 clients accounting for 45%
(25%, 10% and 10%, respectively) of total gross accounts receivable as of
December 31, 2005.
F-9
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Goodwill
Goodwill represents the Company's allocation of the cost to acquire UCA Services
in excess of the fair value of net assets acquired. The purchase price and its
allocation, to reflect the fair values of assets acquired and liabilities
assumed, have been based upon management's evaluation, including independent
valuation.
Under SFAS No. 142 "Goodwill and Other Intangible Assets" ("SFAS No. 142"),
goodwill is not amortized but is reviewed for impairment annually. The Company
performs its annual goodwill impairment testing, by reportable segment, in the
second quarter of each year, or more frequently if events or changes in
circumstances indicate that goodwill may be impaired. Application of the
goodwill impairment test requires significant judgments including estimation of
future cash flows, which is dependent on internal forecasts, estimation of the
long-term rate of growth for UCA Services, the useful life over which cash flows
will occur, and determination of UCA Services cost of capital. Changes in these
estimates and assumptions could materially affect the determination of fair
value and/or conclusions on goodwill impairment for UCA Services. Goodwill at
December 31, 2005 and 2004 was $13,982,451 and $0, respectively.
Intangibles
Intangible assets are accounted for under the provisions of SFAS No. 142.
Intangible assets arise from business combinations and consist of customer
relationships and restricted covenants related to employment agreements that are
amortized, on a straight-line basis, over periods of up to six years. The
Company follows the impairment provisions and disclosure requirements of SFAS
No. 142. Accordingly intangible assets are reviewed for impairment whenever
events or changes in circumstances indicate that the carrying amount may not be
recoverable. Intangible assets at December 31, 2005 and 2004 were $1,099,717 and
$0, respectively.
Fair Value of Financial Instruments
The fair values of the Company's assets and liabilities that qualify as
financial instruments under statement of financial accounting standards ("SFAS")
No. 107 approximate their carrying amounts presented in the balance sheets at
December 31, 2005 and 2004.
The Company accounts for derivative instruments in accordance with SFAS No. 133
"Accounting for Derivative Instruments and Hedging Activities," as amended,
("SFAS No. 133") which establishes accounting and reporting standards for
derivative instruments and hedging activities, including certain derivative
instruments imbedded in other financial instruments or contracts and requires
recognition of all derivatives on the balance sheet at fair value. Accounting
for the changes in the fair value of the derivative instruments depends on
whether the derivatives qualify as hedge relationships and the types of the
relationships designated are based on the exposures hedged. Changes in the fair
value of derivative instruments which are not designated as hedges are
recognized in earnings as other income (loss).
The Company has issued financial instruments which have required a determination
of the fair value of certain related derivatives, where quoted market prices
were not published or readily available at the date of issuance. The Company
bases its fair value determinations on an evaluation of the facts and
circumstances and valuation techniques that require judgments and estimates.
Warranties
NetFabric provides a basic limited warranty for its products for one year.
NetFabric will estimate the costs that may be incurred under its basic limited
warranty and record a liability in the amount of such costs at the time product
revenue is recognized. Factors that affect the Company's warranty liability
include the number of installed units, historical and anticipated rates of
warranty claims and cost per claim. The Company will periodically assess the
adequacy of its recorded warranty liabilities and adjust the amounts as
necessary. The Company did not have any warranty liability at December 31, 2005
due to minimal product sales.
F-10
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Stock-Based Compensation
The Company accounts for stock options granted to employees using the intrinsic
value method in accordance with the provisions of Accounting Principles Board
("APB") Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB Opinion
No. 25"), and related interpretations. As such, compensation expense to be
recognized over the related vesting period is generally determined on the date
of grant only if the current market price of the underlying stock exceeds the
exercise price. SFAS No. 123, "Accounting for Stock-Based Compensation" ("SFAS
No. 123"), permits entities to recognize as expense over the vesting period the
fair value of all stock-based awards on the date of grant. Alternatively, SFAS
No. 123 allows entities to continue to apply the provisions of APB Opinion No.
25 and provide pro forma net income (loss) disclosures for employee stock option
grants as if the fair value-based method defined in SFAS No. 123 had been
applied.
The Company has elected to continue to apply the provisions of APB Opinion No.25
and provide the pro forma disclosures required by SFAS No. 123. If compensation
expense for stock options awarded to employees had been determined in accordance
with SFAS No. 123, the Company's pro forma net loss would have been as follows:
Year ended December 31,
--------------------------
2005 2004
----------- -----------
Net loss, as reported $(6,781,985) $(1,502,260)
Stock-based employee compensation recorded 31,022 --
----------- -----------
Sub-total (6,750,963) (1,502,260)
Stock-based employee compensation expense
determined under fair value method 648,890 128,486
----------- -----------
Pro forma net loss, as adjusted $(7,399,853) $(1,630,746)
=========== ===========
Loss per share:
Basic and diluted-as reported $ (0.13) $ (0.05)
Basic and diluted-pro forma (0.14) (0.05)
In accordance with SFAS No. 123, the Company will also recognize the cost of
shares, options, warrants and other equity instruments issued to non-employees
as consideration for services as expense over the periods in which the related
services are rendered by a charge to compensation cost and a corresponding
credit to additional paid-in capital. Issuances of common stock, stock options
or other equity instruments to non employees as the consideration for goods or
services received by the Company are accounted for based on the fair value of
the equity instruments issued (unless the fair value of the consideration
received can be more reliably measured). Generally, the fair value of any
options, warrants or similar equity instruments issued will be estimated based
on the Black-Scholes option-pricing model. Such fair value is measured as of an
appropriate date pursuant to the guidance in the Emerging Issue Task Force
Issue No. 96-18 (generally, the earlier of the date the other party becomes
committed to provide goods or services or the date performances by the other
party is complete) and capitalized or expensed as if the Company had paid cash
for the goods or services.
As required, the Company will adopt SFAS No. 123(R) (revised 2004), "Share-Based
Payment" ("SFAS No. 123(R)"), on January 1, 2006. SFAS No. 123R requires the
recognition of compensation expense for employee stock options and other
share-based payments as an expense on a company's statement of operations. Under
this method, expense related to employee stock options and other share-based
payments will be recognized by the Company over the relevant service period
based on the fair value of each stock option grant.
Income Taxes
Deferred income tax assets and liabilities are recognized for the future tax
consequences attributable to temporary differences between the financial
statement carrying amounts of existing assets and liabilities and their
respective tax bases and operating loss and tax credit carryforwards. Deferred
tax assets and liabilities are measured using enacted tax rates expected to
apply to taxable income in the years in which those temporary differences are
expected to be recovered or settled. Deferred tax assets are reduced by a
valuation allowance if it is more likely than not that the tax benefits will not
be realized. The ultimate realization of deferred tax assets depends upon the
generation of future taxable income during the periods in which those temporary
differences become deductible.
F-11
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Earnings (Loss) Per Share
The Company calculates earnings (loss) per share in accordance with SFAS No.
128, "Earnings per Share." SFAS No. 128 computes basic earnings (loss) per share
by dividing the net income (loss) by the weighted average number of shares of
common stock outstanding during the period. Diluted earnings (loss) per share is
computed by dividing the net income (loss) by the weighted average number of
shares of common stock outstanding during the period plus the effects of any
dilutive securities. Diluted earnings (loss) per share considers the impact of
potentially dilutive securities except in periods in which there is a loss
because the inclusion of the potential common shares would have an anti-dilutive
effect. The Company's potentially dilutive securities include common shares
which may be issued upon exercise of its stock options, exercise of warrants or
conversion of convertible debt.
Diluted earnings (loss) per share for the years ended December 31, 2005 and 2004
exclude potentially issuable common shares of approximately 12,940,807 and
6,162,526, respectively, primarily related to the Company's outstanding stock
options, warrants and convertible debt, because the assumed issuance of such
potential common shares is antidilutive.
Comprehensive Income (Loss)
SFAS No. 130, "Reporting Comprehensive Income," establishes standards for
reporting and presentation of comprehensive income (loss) and its components in
a full set of financial statements. The statement requires additional
disclosures in the consolidated financial statements for certain items; it does
not affect the Company's financial position or results of operations. The
Company had no items for Comprehensive Income during 2005 and 2004.
Segment Reporting
The Company determines and discloses its segments in accordance with SFAS No.
131, "Disclosures About Segments of an Enterprise and Related Information"
("SFAS No. 131"), which uses a "management" approach for determining segments.
The management approach designates the internal organization that is used by
management for making operating decisions and assessing performance as the
source of a company's reportable segments. SFAS No. 131 also requires
disclosures about products or services, geographic areas and major customers.
The Company operates in two business segments in addition to corporate
activities: Voiceover Internet Protocol and Information Technology Services.
Recent Accounting Pronouncements
During December 2004, the FASB issued SFAS No. 123R, requiring all share-based
payments to employees, including grants of employee stock options, to be
recognized as compensation expense in the consolidated financial statements
based on their fair values. As amended by the SEC on April 14, 2005, SFAS No.
123R is effective for annual periods beginning after December 15, 2005, and
includes two transition methods. Upon adoption, the Company will be required to
use either the modified prospective or the modified retrospective transition
method. Under the modified retrospective approach, the previously reported
amounts are restated for all periods presented to reflect the SFAS No. 123
amounts in the income statement. Under the modified prospective method, awards
that are granted, modified, or settled after the date of adoption should be
measured and accounted for in accordance with SFAS No. 123R. Unvested
equity-classified awards that were granted prior to the effective date should
continue to be accounted for in accordance with SFAS No. 123 except that amounts
must be recognized in the income statement. The Company adopted SFAS No. 123R on
January 1, 2006 and will utilize the modified prospective application transition
alternative.
In December 2004, the FASB issued SFAS No. 153, "Exchanges of Nonmonetary
Assets, an amendment of APB Opinion No. 29" ("SFAS No. 153"). The guidance in
APB Opinion No. 29, Accounting for Nonmonetary Transactions, is based on the
principle that exchanges of nonmonetary assets should be measured based on the
fair value of assets exchanged. The guidance in that Opinion, however, included
certain exceptions to that principle. SFAS No. 153 amends Opinion 29 to
eliminate the exception for nonmonetary exchanges of similar productive assets
that do not have commercial substance. A nonmonetary exchange has commercial
substance if the future cash flows of the entity are expected to change
significantly as a result of the exchange. SFAS No. 153 is effective for
nonmonetary exchanges occurring in fiscal periods beginning after June 15, 2005.
The adoption of SFAS No. 153 is not expected to have a material impact on the
Company's consolidated financial position and results of operations.
F-12
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
In May 2005, the FASB issued SFAS No. 154, "Accounting Changes and Error
Corrections--a replacement of APB Opinion No. 20 and FASB Statement No. 3"
("SFAS No. 154"). SFAS No. 154 changes the requirements for the accounting for,
and reporting of, a change in accounting principle. SFAS No. 154 requires that a
voluntary change in accounting principle be applied retrospectively with all
prior period financial statements presented using the new accounting principle.
SFAS No. 154 is effective for accounting changes and corrections of errors in
fiscal years beginning after December 15, 2005. The implementation of SFAS No.
154 is not expected to have a material impact on the Company's consolidated
financial statements.
In June 2005, the FASB's Emerging Issues Task Force reached a consensus on Issue
No. 05-6, "Determining the Amortization Period for Leasehold Improvements"
("EITF 05-6"). The guidance requires that leasehold improvements acquired in a
business combination or purchased subsequent to the inception of a lease be
amortized over the lesser of the useful life of the assets or a term that
includes renewals that are reasonably assured at the date of the business
combination or purchase. The guidance is effective for fiscal periods beginning
after June 29, 2005. The Company does not expect the adoption of EITF 05-6 to
have a material impact on the Company's consolidated financial position, results
of operations, or cash flows.
NOTE 3. PROPERTY AND EQUIPMENT, NET
Property and equipment, net, consists of the following at December 31, 2005 and
2004:
2005 2004
--------- ---------
Equipment $ 395,664 $ 14,452
Leasehold improvements 54,631 --
Furniture and fixtures 59,498 --
Purchased software -- 75,440
Internal use software -- 90,250
--------- ---------
509,793 180,142
Less: Accumulated depreciation and amortization (344,809) (8,211)
--------- ---------
$ 164,984 $ 171,931
========= =========
Depreciation and amortization expenses was $111,901 and $8,211 for the years
ended December 31, 2005 and 2004, respectively.
NOTE 4. INTANGIBLE ASSETS
The Company's intangible assets consisting of customer contacts and restricted
covenants related to employment agreements were acquired and accounted for using
the purchase method of accounting. The following table summarizes the net asset
value for each intangible asset category as of December 31, 2005:
Amortization Gross Asset Accumulated Net Asset
Period Value Amortization Value
------------ ----------- ----------- -----------
Customer relationships 6 years $ 1,153,424 $ (120,148) $ 1,033,276
Covenants not to compete 3 years 83,333 (16,892) 66,441
----------- ----------- -----------
$ 1,236,757 $ (137,040) $ 1,099,717
=========== =========== ===========
Amortization expense was $ 137,040 and $0 for the years ended December 31, 2005
and 2004, respectively.
The Company did not have any intangibles prior to the acquisition of UCA
Services in May 2005.
Estimated amortization expense related to intangible assets subject to
amortization at December 31, 2005 for each of the years in the five-year period
ending December 31, 2010 and thereafter:
2006 $ 220,015
2007 220,015
2008 203,123
2009 192,237
2010 192,237
Thereafter 72,090
----------
Total $1,099,717
==========
F-13
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
NOTE 5. ACCOUNTS PAYABLE AND ACCRUED LIABILITIES
Accounts payable and accrued liabilities consist of the following at December
31, 2005 and 2004:
2005 2004
------------ ------------
Trade accounts payable $ 2,693,113 $ 185,638
Accrued professional fees 168,741 74,273
Accrued interest payable 126,556 13,796
------------ ------------
$ 2,988,410 $ 273,707
============ ============
NOTE 6. ACQUISITION
The Company acquired UCA Services on May 20, 2005. Pursuant to the terms of the
Exchange Agreement, Holdings acquired all of the issued and outstanding shares
of UCA Services from the UCA Services' shareholders in exchange for the issuance
of 24,096,154 shares of common stock of Holdings. The acquisition of UCA
Services allowed the Company to enter the IT services industry and is strategic
to the NetFabric IP equipment development.
The acquisition was accounted for as a business combination with Holdings as the
acquirer. Under the purchase method of accounting, the assets and liabilities of
UCA Services acquired by Holdings are recorded as of the acquisition date at
their respective fair values, and added to those of Holdings, and the results of
UCA Services have been included with those of the Company since the date of
acquisition.
The purchase price of $14,010,000 consists of $13,823,000 of common stock,
$187,000 of acquisition costs, the assumption of $1,209,208 of net liabilities
and the recognition of $1,236,757 of intangibles assets associated with customer
relationships and non-compete covenants of employment agreements. The fair value
of Holdings' common stock issued in exchange for the shares of UCA Services was
based an independent appraisal of assets acquired and liabilities assumed.
The determination of the purchase price and its allocation to the fair values of
the assets acquired and liabilities assumed as reflected in the consolidated
financial statements have been based on the Company's valuation, including the
use of an independent appraisal. The fair value of the assets acquired and
liabilities assumed in the acquisition of UCA Services are as follows:
Accounts receivable $ 2,153,968
Other assets and equipment 190,602
Customer relationship intangible 1,153,424
Non-compete intangible 83,333
Accounts payable and accrued expenses (2,481,077)
Deferred revenue and advances (1,072,701)
-----------
Net assets acquired $ 27,549
===========
The Company recognized goodwill of $13,982,451 as a result of the excess of cost
in excess of the net assets acquired of UCA Services. Such goodwill is assigned
to the Company's IT services segment. Any amortization of such goodwill will not
be deductible for tax purposes.
F-14
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Summarized below are the pro forma unaudited results of operations for the years
ended December 31, 2005 and 2004 as if the results of UCA Services were included
for the entire periods presented. The pro forma results may not be indicative of
the results that would have occurred if the acquisition had been completed at
the beginning of the period presented or which may be obtained in the future:
For the years ended
-------------------------------------
December 31, 2005 December 31, 2004
----------------- -----------------
Revenues $ 19,422,620 $ 14,008,341
Net loss (7,666,058) (2,036,591)
Basic and diluted loss per share $ (0.12) $ (0.04)
Weighted average common shares outstanding 61,911,465 55,458,992
NOTE 7. DEBT FINANCINGS
Debt financings consist of the following as of December 31, 2005 and 2004:
2005
-----------------------------------------------
Unamortized Debt
Principal Discount Net
------------- ---------------- ------------
Macrocom Bridge Loan II, due October 10, 2006 $ 500,000 $ (58,875) $ 441,125
Macrocom Convertible Debenture 500,000 (194,444) 305,556
Convertible debentures payable to stockholder and director 100,000 (38,890) 61,110
Cornell convertible debenture 1,658,160 (1,046,101) 612,059
Note payable issued to officer 200,000 (99,059) 100,941
Loans and advances from officer and directors
(see Note 12) 202,639 -- 202,639
------------- --------------- ------------
$ 3,160,799 $ (1,437,369) $ 1,723,430
============= =============== ============
2004
-----------------------------------------------
Unamortized Debt
Principal Discount Net
------------- ---------------- ------------
Macrocom Bridge Loan I, due January 18, 2005 $ 500,000 $ (17,253) $ 482,747
Macrocom Bridge Loan II, due October 10, 2006 500,000 (233,088) 266,912
------------- --------------- ------------
$ 1,000,000 $ (250,341) $ 749,659
============= =============== ============
Macrocom Bridge Loans
On July 22, 2004, NetFabric entered into a financing agreement which was amended
on December 2, 2004 (the "Financing Agreement") with Macrocom Investors, LLC
("Macrocom"), whereby Macrocom provided a loan to NetFabric in the amount of
$500,000 ("Loan I") for a period of 180 days from the original date of the
Financing Agreement ("Due Date") at an annual simple interest rate of 5%. On the
Due Date, the Company had the option to repay the principal in cash or in kind
by issuing 1,000,000 common shares. In either event, the interest on Loan I was
payable in cash on the Due Date. Additionally, in connection with the Financing
Agreement, the Company issued to Macrocom 250,000 shares of common stock at a
fair value of $144,000 as additional consideration for Loan I in December 2004.
In January 2005, in accordance with the terms of the Financing Agreement, the
Company elected to repay the principal of Loan I in kind by issuing 1,000,000
shares of common stock.
F-15
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
On October 14, 2004, NetFabric and Macrocom entered into a loan agreement which
was amended on December 2, 2004 (the "Loan Agreement"), whereby Macrocom agreed
to loan an additional $500,000 to NetFabric ("Loan II" or the "Second Loan"),
due 180 days from the original date of the Loan Agreement ("Second Due Date") at
an annual simple interest rate of 5%. On the Second Due Date, at the option of
Macrocom, Macrocom could convert the principal of the Second Loan into 1,000,000
shares of common stock or demand repayment of the principal in cash. In either
event, the interest on the Second Loan was payable in cash on the Second Due
Date. In addition, in December 2004, the Company issued to Macrocom 250,000
shares of common stock with a fair value of $144,000 as additional consideration
for the Second Loan. As noted below, on the Second Due Date in April 2005
Macrocom did not request repayment or conversion to common stock of Loan II.
As a result of the Loan I and Loan II financing transactions, total debt
discounts of $411,403 were recorded on Loan I and Loan II (the "Bridge Loans")
during 2004, including the value of the beneficial conversion feature of
$187,801 on Loan II. During the years ended December 31, 2005 and 2004, $250,341
and $161,062, respectively of the discounts were amortized on the accompanying
consolidated statements of operations.
On May 24, 2005, NetFabric and Macrocom entered into an agreement to amend the
Loan Agreement between the parties. Under the terms of the amendment, the due
date for Loan II was extended from April 10, 2005 until October 10, 2005. At the
same time and in connection with the extension of the due date for Loan II,
Macrocom and Holdings also amended the terms of the Financing Agreement with
respect to a warrant Macrocom originally received on December 9, 2004 (Note 9).
The warrant was set to expire on June 7, 2005; however, the parties agreed to
extend the term of the warrant until December 9, 2006. As a result of these
changes in terms, a debt discount of $392,196 was recorded on April 11, 2005 on
Loan II. During the year ended December 31, 2005, $392,196 of the discount was
amortized on the accompanying consolidated statements of operations.
On October 26, 2005 Macrocom did not require repayment or conversion of Loan II
to common stock. The Company and Macrocom agreed to extend the due date for Loan
II until October 10, 2006. As a result of the modification of the term, a debt
discount of $100,758 was recorded on October 10, 2005 on Loan II which will be
amortized from October 11, 2005 through October 10, 2006. During the year ended
December 31, 2005, $41,883 of the discount was amortized in the accompanying
consolidated statements of operations.
Employee Note
An officer of the Company and an employee of UCA Services advanced $200,000 to
the Company during 2005. In December 2005 the Company and the employee entered
into a Promissory Note (the "Employee Note") related to the advance. The
Employee Note bears interest at 5% per annum and a fee of $10,000 is due to the
employee at maturity. The principal balance of the Employee Note together with
accrued and unpaid interest and the fee are due and payable in one installment
on January 31, 2006. The Company repaid the balance owed in February 2006. In
connection with the Employee Note, on December 8, 2005 the Company's board of
directors authorized for issuance warrants to the employee to acquire 300,000
shares of our common stock at an exercise price of $1.00 per share. The warrants
were issued on January 24, 2006 and expire on January 24, 2009.
The Company determined that the warrants were derivative pursuant to SFAS No.
133, and accordingly recorded the value of the warrants as a liability on
December 8, 2005. The warrants were valued using the Black-Scholes
option-pricing model with the following assumptions: (1) common stock fair value
of $0.95 per share (2) expected volatility of 73.86%, (3) risk-free interest
rate of 4.33%, (4) life of 3 years and (5) no dividend, resulting in a fair
value of $141,855 for the warrants, which were recorded as a debt discount on
December 8, 2005 and are being amortized to interest expense over the stated
term of the Employee Note. The carrying value of the Employee Note was $58,145
after the debt discounts. During the year ended December 31, 2005, $42,796 of
the discount was amortized on the accompanying consolidated statements of
operations.
Refer to discussion regarding the accounting for derivatives later in this note.
F-16
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Macrocom Convertible Debentures
On July 19, 2005, the Company issued a convertible debenture in the amount of
$500,000 to Macrocom (the "Macrocom Debenture"). The Macrocom Debenture bears
interest at 5% per annum and is due on April 15, 2006. At the option of
Macrocom, the Macrocom Debenture may be converted into shares of the Company's
common stock at a conversion price of $.50 per share. The Company also issued
Macrocom warrants to acquire 1,000,000 shares of the Company's common stock at
an exercise price of $1.50 per share. The warrants expire in three years from
the date of issuance. Additionally, the Company issued 375,000 shares of the
Company's common stock to Macrocom as additional consideration. As collateral
for the Macrocom Debenture, the Company has placed with an escrow agent
5,000,000 shares of its common stock.
The Company allocated the $500,000 of proceeds received from the Macrocom
Debenture based on the computed relative fair values of the debt, warrants and
stock instruments issued. The common stock issued was valued based on the quoted
market price which resulted in a fair value of $506,250 for the common stock.
The warrants were valued using the Black-Scholes option-pricing model with the
following assumptions: (1) common stock fair value of $1.35 per share (2)
expected volatility of 100%, (3) risk-free interest rate of 3.93%, (4) life of 3
years and (5) no dividend, which resulted in a fair value of $831,227 for the
warrants. The resulting relative fair value of the warrants was $210,998.
Accordingly, the resulting relative fair value allocated to the debt component
of $115,497 was used to measure the intrinsic value of the embedded conversion
option of the Macrocom Debenture which resulted in a beneficial conversion
feature of $115,497 recorded to additional paid-in capital. The value of the
beneficial conversion feature was limited to the amount of the proceeds
allocated to the debt component of the Macrocom Debenture. The aggregate amounts
allocated to the warrants, stock instruments and beneficial conversion feature
of $500,000 were recorded as a debt discount at the date of issuance of the
Macrocom Debenture and are being amortized to interest expense using the
interest method over the stated term of the Macrocom Debenture. The carrying
value of the Macrocom Debenture was $0 after the debt discounts. During year
ended December 31, 2005, $305,556 of discount was accreted and recorded as
interest expense resulting in a carrying value of $305,556 on the Macrocom
Debenture at December 31, 2005.
Refer to discussion regarding the accounting for derivatives later in this note.
Structuring fees of $45,000 paid to Macrocom in connection with the Macrocom
Debenture have been netted against the proceeds and considered in the
calculation of the beneficial conversion feature. Financing costs of $3,000 paid
to third parties associated with the Macrocom Debenture are included in other
assets and amortized over the term.
Director and Officer Convertible Debentures
On July 19, 2005, the Company agreed with a director and an entity affiliated
with an officer of the Company, that aggregate advances of $100,000 made in June
2005 from the director and entity affiliated with the officer to the Company be
structured as convertible debentures in the face amount of $50,000 each
("Related Party Convertible Debenture"). The Related Party Convertible
Debentures were sold on substantially similar terms as the Macrocom Debenture
and, accordingly, bear interest at 5% per annum, are due on April 15, 2006 and
at the option of the holder may be converted into shares of the Company's common
stock at a conversion price of $.50 per share. Additionally, in connection with
the sale of the Related Party Convertible Debentures, the Company issued
warrants to each to acquire 200,000 shares (or 100,000 each debenture) of the
Company's common stock at an exercise price of $1.50 per share which expire in
three years from the date of issuance. The Company also issued 75,000 shares (or
37,500 each debenture) of the Company's common stock to the stockholder and the
entity affiliated with an officer as additional consideration. The Company did
not provide any collateral.
The Company allocated the $100,000 of proceeds received from the Related Party
Convertible Debentures based on the computed relative fair values of the debt,
warrant and stock instruments issued. The common stock issued was valued based
on the quoted market price which resulted in a fair value of $101,250 for the
common stock. The warrants were valued using the Black-Scholes option-pricing
model with the following assumptions: (1) common stock fair value of $1.35 per
share (2) expected volatility of 100%, (3) risk-free interest rate of 3.93%, (4)
life of 3 years and (5) no dividend, which resulted in a fair value of $166,246
for the warrants. The resulting relative fair value of the warrants was $45,238.
Accordingly, the resulting relative fair value allocated to the debt component
of $27,212 was used to measure the intrinsic value of the embedded conversion
option of the Related Party Convertible Debentures which resulted in a
beneficial conversion feature of $27,212 recorded to additional paid-in capital.
The value of the beneficial conversion feature was limited to the amount of the
proceeds allocated to the debt component of the Related Party Convertible
Debentures. The aggregate amounts allocated to the warrants, stock instruments
and beneficial conversion feature of $100,000 were recorded as a debt discount
at the date of issuance of the Related Party Convertible Debentures and are
being amortized to interest expense using the interest method over the stated
term of the Related Party Convertible Debentures. The carrying value of the
Related Party Convertible Debentures was $0 after the debt discounts. During
year ended December 31, 2005, $61,112 of discount has been accreted and recorded
as interest expense resulting in a carrying value of $61,112 on the Related
Party Convertible Debentures at December 31, 2005.
Refer to discussion regarding the accounting for derivatives later in this note.
F-17
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Cornell Convertible Debentures
On July 5, 2005, the Company entered into an agreement pursuant to which the
Company was to sell Cornell Capital Partners, LP ("Cornell") secured convertible
debentures in the aggregate principal amount of $1,000,000, which are
convertible, at Cornell's discretion, into common stock. A $400,000 debenture
was funded in July 2005, and a $50,000 debenture was funded in September 2005
(collectively the "Original Cornell Debentures").
The Original Cornell Debentures have a 36-month term from the date of issuance
and accrue interest at 5% per annum. The Original Cornell Debentures may be
redeemed at the Company's option at any time, in whole or in part, prior to
maturity at a redemption premium of 15% of the principal amount redeemed in
addition to principal and accrued interest. The Original Cornell Debentures were
convertible at Cornell's option at a conversion price equal to $0.50 per share.
As collateral for the Original Cornell Debentures, both the Company and certain
officers and shareholders have pledged certain assets and 1,428,572 common
shares of the Company to secure the Company's obligations under the Securities
Purchase Agreement.
In connection with the Original Cornell Debentures, the Company issued Cornell
warrants to acquire 560,000 shares of its common stock at an exercise price
$0.50 per share as additional consideration.
Through October 27, 2005, the Company allocated the $450,000 of proceeds
received of the Original Cornell Debentures based on the computed relative fair
values of the debt and warrants issued. The 560,000 warrants issued in
connection with the Original Cornell Debentures were allocated to each draw down
of the Original Cornell Debenture based on the relative percentage of the draw
down to the total $1,000,000 of the Original Cornell Debentures. The warrants
were valued using the Black-Scholes option-pricing model with the following
assumptions: (1) common stock fair value of $1.40 per share (2) expected
volatility of 100%, (3) risk-free interest rate of 3.77%, (4) life of 3 years
and (5) no dividend, which resulted in a fair value of $629,484 for the
warrants. The resulting relative fair value of the warrants was $119,568.
Accordingly, the resulting relative fair value allocated to the debt component
of $274,432 was used to measure the intrinsic value of the embedded conversion
option of the $450,000 of the Original Cornell Debentures which resulted in a
beneficial conversion feature of $273,800 recorded to additional paid-in
capital. The aggregate amounts allocated to the warrants and beneficial
conversion feature, of $449,000 were recorded as a debt discount at the date of
issuance of the Original Cornell Debentures and were being amortized to interest
expense using the interest method over the stated term of the Original Cornell
Debentures.
Structuring fees of $56,000 paid to Cornell or its affiliates in connection with
the Original Cornell Debentures were netted against the proceeds and considered
in the calculation of the beneficial conversion feature. Financing costs of
$22,545 paid to third parties associated with the Original Cornell Debentures
are included in other assets and amortized over the term of the debt.
On October 27, 2005, at the same time as the Termination Agreement for the SEDA
(Note 9), the Company entered into a Securities Purchase Agreement (the
"Securities Purchase Agreement") with Cornell whereby the Company and Cornell
agreed to amend and consolidate all of the Original Convertible Debentures, and
related accrued interest of $8,160, issued to Cornell through October 26, 2005
into one new secured convertible debenture in the principal amount of $1,658,160
(the "October Cornell Debenture"). The October Cornell Debentures have the same
terms and provisions of the Original Cornell Debentures except that the October
Cornell Debentures no longer have a fixed conversion by the holder but are
convertible at the option of the holder at the lesser of (i) $1.00 or (ii) an
amount equal to 95% of the lowest closing bid price of the Company's common
stock for the 30 trading days immediately proceeding the conversion date.
Pursuant to the Securities Purchase Agreement, Cornell funded the remaining
$1,200,000 balance of October Cornell Debenture on October 27, 2005.
As a result of the change in the conversion terms of the October Convertible
Debentures ("October Cornell Derenture") on October 27, 2005, the Company
determined that the embedded conversion feature of the October Cornell Debenture
became subject to the provisions of SFAS No. 133 and therefore the Company
accounted for the embedded conversion feature as a liability in accordance with
the guidance of EITF 00-19, "Accounting for Derivative Financial Instruments
Indexed to, and Potentially Settled in, a Company's Own Stock"("EITF 00-19").
Accordingly, the Company recorded the fair value of the embedded conversion
feature of $784,784 as a non-current liability as of October 27, 2005 and a
portion of the amounts previously recorded to additional paid-in capital as part
of the Original Cornell Debentures were reclassified from equity to liabilities.
Through December 31, 2005 the Company recorded a charge for derivative financial
instruments of $221,277 related to the change in fair value of the embedded
conversion feature which is recorded in the accompanying consolidated statement
of operations. The fair value of the embedded conversion feature liability was
$1,006,061 as of December 31, 2005.
F-18
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
After the allocation of value to the embedded conversion feature of the October
Cornell Debenture the Company allocated the remaining $873,376 principal amount
of the total $1,658,160 October Cornell Debenture based on the computed relative
fair values of the debt and warrant components, which resulted in additional
debt discounts of $210,665. The warrants were valued using the Black-Scholes
option-pricing model with the following assumptions: (1) common stock fair value
of $0.95 per share (2) expected volatility of 73.86%, (3) risk-free interest
rate of 4.39%, (4) life of 3 years and (5) no dividend, which resulted in a fair
value of $355,770 for the warrants. The resulting relative fair value of the
warrants was $136,661. Through December 31, 2005 $37,344 of amortization expense
related to discount on the October Cornell Debentures was recorded in the
accompanying consolidated statement of operations. The October Cornell Debenture
was repaid in full in February 2006 (see Note 15).
The Company and Cornell entered into a Registration Rights Agreement (the
"Cornell Registration Rights") related to the October Cornell Debenture.
Pursuant to the Cornell Registation Rights, the Company was obligated to submit
a registration statement to register shares of the Company's common stock
issuable upon conversion of the Cornell Convertible Debentures by November 27,
2005 and to use it best efforts to have such registration statement declared
effective by February 28, 2006. In the event the Company did not file or achieve
effectiveness of the registration statement within the specified time periods,
the Company was subject to liquidated damages equal to 2% of the value of the
Cornell Convertible Debentures. The Company filed a registration statement on
November 2, 2005. In February 2006 the Company repaid the balance of the Cornell
Convertible Debentures and as a result the Company's obligations under the
Cornell Registration Rights were terminated.
NOTE 8. INCOME TAXES
A reconciliation of the statutory U.S. federal income tax rate to the Company's
effective tax was as follows:
2005 2004
---------- ----------
Statutory U.S. rate 34.0% 34.0%
State income taxes, net of federal benefit 4.0% 4.0%
Effect of valuation allowance (38.0%) (38.0%)
---------- ----------
Total income tax expense (benefit) 0.0% 0.0%
========== ==========
Significant components of the Company's future tax assets at December 31, 2005
and 2004 are as follows:
2005 2004
----------- -----------
Tax effect of operating loss carryforwards $ 2,560,000 $ 672,000
Reserves and allowances 43,706 --
Effect of valuation allowance (2,603,706) (672,000)
----------- -----------
Net deferred tax assets $ -- $ --
=========== ===========
At December 31, 2005, the Company had net operating loss ("NOL") carryforwards
of approximately $2.6 million which expire through 2025, subject to certain
limitations. A full valuation allowance has been established because of the
uncertainty regarding the Company's ability to generate income sufficient to
utilize the tax losses during the carryforward period.
F-19
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
NOTE 9. STOCKHOLDERS' EQUITY
Macrocom Financings
In addition to the Bridge Loan transactions (see Note 7), during 2004 Macrocom
entered into a commitment with NetFabric to purchase common stock of Holdings
subsequent to the Closing Date, under certain terms. Pursuant to this financing
commitment, in two separate closings in January and March 2005 the Company sold
an aggregate of 1,000,000 shares of common stock to Macrocom and 1,000,000
shares to Michael Millon, an individual associated with Macrocom, resulting in
aggregate proceeds of $1,000,000 or $0.50 per share. The Company issued Michael
Millon 250,000 shares of common stock and Macrocom a six-month warrant to
purchase 2,000,000 shares of common stock at a purchase price of $1,500,000 (the
"Macrocom Warrant"), provided that the closing price of the Company's common
stock on the day immediately preceding the exercise of the warrant is less than
$2.00 per share. The value of this additional consideration paid to Macrocom as
part of this financing commitment, totaling $368,683, was recorded as offering
costs and offset against the proceeds of the additional purchases of common
stock in 2005. The term of the Macrocom Warrant was extended in April 2005 (see
Note 7).
Cornell SEDA
On July 5, 2005, the Company entered into a Standby Equity Distribution
Agreement (the "SEDA") with Cornell. Pursuant to the SEDA, the Company was, at
its discretion, to periodically sell to Cornell shares of common stock, for a
total purchase price of up to $10,000,000). On July 5, 2005, in connection with
the SEDA, Cornell received a commitment fee of 680,000 shares of common stock
from the Company. In addition, the Company issued to Newbridge Securities
Corporation ("Newbridge") 7,142 shares of common stock under a placement agent
agreement in connection with the SEDA. In October 2005, the Company and Cornell
agreed to terminate the SEDA and for Cornell to provide only financing to the
Company through the issuance of the October Cornell Debentures (see Note 7). The
Company and Cornell entered into a Termination Agreement on October 27, 2005
(the "Termination Agreement") which terminated all of the rights and obligations
of both the Company and Cornell under the SEDA. Pursuant to the Termination
Agreement, the Company agreed to allow Cornell to retain 242,857 shares of the
Company's common stock that was previously issued to Cornell as part of the
commitment fee under the SEDA and Cornell agreed to return the balance of the
commitment fee consisting of certificates representing 437,143 shares of the
common stock of the Company within ten (10) business days of the Termination
Agreement.
The $340,000 fair value of the 242,857 commitment shares issued and retained by
Cornell was accounted for as a terminated offering expense and charged to
selling, general and administrative expense for the year ended December 31,
2005. Similarly the $10,000 fair value of the common stock issued to Newbridge
was charged to operations during the year ended December 31, 2005.
Common Stock
The Company sold 1,648,053 shares of common stock at various dates through April
20, 2004. In connection with the sale of certain of these shares to other
investors the Company issued 988,832 warrants. In 2004, the Company also issued
659,221 shares of common stock (valued at $100,000) as payment for certain
expenses.
Share Exchange
On December 9, 2004 (the "Closing Date"), Holdings completed the Share Exchange
with all of the stockholders (the "Stockholders") of NetFabric. At the closing,
which occurred at the same time as the execution of the Acquisition Agreement,
Holdings acquired all of the issued and outstanding common stock of NetFabric
from the Stockholders in exchange for an aggregate of 32,137,032 newly-issued
shares of Holdings' common stock. Since the Stockholders of NetFabric received
approximately 95% of the shares in the Company and Holdings had no significant
assets and liabilities or operations prior to the merger and the NetFabric
management team continued in their existing roles at HOC ("Houston Operating
Company"), for accounting purposes the acquisition has been treated as a
recapitalization of NetFabric with NetFabric as the acquirer, a reverse
acquisition. Since HOC prior to the merger was a public shell corporation with
no significant operations, pro-forma information giving effect to the merger is
not presented.
F-20
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Warrants
Outstanding warrant securities consist of the following at December 31, 2005 and
2004:
2005
----------------------------------------------------------
Warrants Exercise Prices Expiration
------------- ------------------- ----------------------
Macrocom warrants 2,000,000 $0.75 12/9/2006
Macrocom warrants 1,000,000 $1.50 7/19/2008
Cornell warrants 560,000 $0.50 10/27/2008
Officer and director warrants, including
former officers and directors 664,805 $0.50 to $1.50 12/3/2008 to 12/8/2008
Other 988,832 $0.50 1/1/2009 to 1/29/2009
------------
5,213,637
============
2004
----------------------------------------------------------
Warrants Exercise Prices Expiration
------------- ------------------- ----------------------
Officer and director warrants,
including former officers and
directors 164,805 $0.50 12/3/2008
Other 988,832 $0.50 1/1/2009 to 1/29/2009
------------
1,153,637
============
Since the conversion of the October Cornell Debenture (see Note 7) could result
in a conversion into an indeterminable number of common shares, the Company has
determined that under the guidance EITF 00-19, the Company could not conclude
that it had sufficient authorized and unissued shares to net-share settle any
warrants or options issued to non-employees. Therefore, the Company has
reclassified the fair value of all warrants and options issued to non-employees
that were outstanding as of October 27, 2005 from equity to liabilities. The
fair value of the Company's warrants and options issued to non-employees were
estimated at approximately $3,065,000 on October 27, 2005 using a Black-Scholes
option pricing model for each of the individual securities. As a result the
Company incurred a charge of approximately $2,035,000 on October 27, 2005, which
was computed based on the difference between the fair value of the securities
and the value of the securities as of October 27, 2005 which had previously been
recorded to additional paid-in capital. On December 31, 2005, the fair value of
the warrants and options issued to non-employees were re-measured and estimated
at $2,940,000 using a Black-Scholes option pricing model for each of the
individual securities. The decrease of approximately $125,000 was reflected as a
gain for derivative financial instruments in the accompanying statement of
operations during the year ended December 31, 2005.
The liability for warrants and options issued to non-employees will be
reclassified to equity upon the repayment of the October Cornell Debenture in
February 2006, which terminated Cornell's conversion rights.
NOTE 10. STOCK-BASED COMPENSATION
As a result of the Share Exchange, on March 3, 2005, the Board of Directors
adopted the 2005 Stock Option and Grant Plan (the "Plan"). The purpose of the
Plan is to encourage and enable the employees, directors and consultants of the
Company upon whose judgment, initiative and efforts the Company largely depends
for the successful conduct of its business to acquire a proprietary interest in
the Company. The Plan became effective on April 19, 2005.
From time to time, the Company issues stock-based compensation to its officers,
directors, employees and consultants. The maximum term of options granted is
generally 10 years and generally options vest over a period of one to four
years. However, the Board of Directors of the Company may approve other vesting
schedules. The Company has issued options to employees and non-employees under
stock option agreements. Options may be exercised in whole or in part.
The exercise price of stock options granted is generally the fair market value
of the Company's common stock as determined by the Board of Directors on the
date of grant, considering factors such as the sale of stock, results of
operations, and consideration of the fair value of comparable private companies
in the industry. Accordingly, no charges were recognized.
F-21
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
The following is a summary of the Company's stock option activity for the years
ended December 31, 2005 and 2004:
Weighted Average Weighted Average
Options Exercise Price Fair Value
------------ ---------------- ----------------
Options outstanding January 1, 2004 82,403 $ 0.15 $ 0.12
Options granted 3,926,486 0.15 0.12
Options exercised -- -- --
Options cancelled -- -- --
------------
Outstanding, December 31, 2004 4,008,889 0.15 0.12
Options granted 1,125,000 1.81 1.38
Options exercised -- -- --
Options cancelled (1,264,879) 0.15 0.12
------------
Outstanding, December 31, 2005 3,869,010 0.63 0.48
============ ============= ===========
Exercisable, December 31, 2005 1,868,741 $ 0.43 $ 0.33
============ ============= ===========
Exercisable on December 31, 2004 1,320,502 $ 0.15 $ 0.12
============ ============= ===========
The following table summarizes information about stock options outstanding and
exercisable at December 31, 2005
Outstanding Exercisable
------------------------------- --------------------------------
Weighted Weighted
Range of Number of Average exercise remaining Number of Average exercise remaining
Exercise price options price contractual life options price contractual life
------------------------------------------------------------------ ------------------------------------------------
$0.15 to $0.99 2,744,010 $0.15 8.1 years 1,568,741 $0.15 8.0 years
$1.00 to $1.99 675,000 1.62 9.3 187,500 1.80 9.1
$2.00 and above 450,000 2.10 9.1 112,500 2.10 9.1
------------------------------------------------ -----------------------------------------------
Totals 3,869,010 $0.63 8.4 years 1,868,741 $0.43 8.2 years
================================================ ===============================================
NOTE 11. COMMITMENTS AND CONTINGENCIES
Leases
Commencing in March 2004, the Company leases two office spaces under operating
leases. The future minimum cash commitments as of December 31, 2005 under such
operating leases are as follows:
2006 $ 237,122
2007 191,250
2008 84,000
-----------
$ 512,372
===========
As discussed in Note 12, the Company subleases certain office space under an
agreement with UCA Global, Inc. ("Global"), whereby the Company pays rent based
on the proportion of square footage occupied by the Company in the Global office
facility. The agreement provides that the sublease term of three years begins on
August 2, 2005. Rent expense incurred with Global during the years ended
December 31, 2005 and 2004 was $79,123 and $40,535, respectively, and is
included in selling, general and administrative expense on the accompanying
statements of operations. Rent expense inclusive of rent paid to Global was
$212,080 and $50,000 for the years ended December 31, 2005 and 2004,
respectively.
NOTE 12. RELATED PARTY TRANSACTIONS
Loans and advances payable to stockholders and directors on the accompanying
consolidated balance sheet at December 31, 2005 represent amounts owed to
stockholders and directors of the Company for advances of cash provided to the
Company. Convertible debentures payable to stockholders and directors represent
amounts received by the Company pursuant to a financing arrangement (see Note
7).
After the acquisition of UCA Services in May 2005, certain shareholders of the
Company are also the owners of UCA Computer Systems, Inc. ("Systems"), a
computer hardware company with which UCA Services has historically had
transactions with.
F-22
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
The Company subleases certain office space and incurs occupancy related costs
under an agreement with UCA Global, Inc. ("Global"), an entity affiliated with a
shareholder of the Company, whereby the Company pays rent and other occupancy
costs based on the proportion of square footage occupied by the Company in the
Global's office facility. Rent and occupancy expenses incurred by the Company
under this agreement, which commenced on May 20, 2005, was $74,176 and is
included in selling, general and administrative expenses for the year ended
December 31, 2005.
In connection with delivering hardware and software to certain of its customers,
Systems has engaged the Company to assist with certain elements of its customer
contracts, including, but not limited to, hardware and software configuration
and implementation. Such services are provided to Systems pursuant to an
arrangement between the companies. From May 20, 2005, the date of acquisition of
UCA Services, through December 31, 2005 the Company has not provided any
services to Systems.
From time to time, prior to the acquisition of UCA Services by the Company, UCA
Services provided short-term borrowings to Systems and received short-term
borrowings from Systems to meet working capital needs. At the date of
acquisition of UCA Services, the net amount due from Systems of $779,870,
consisting of $255,746 in trade accounts receivable related to services provided
by UCA Services and $524,124 of amounts due to Systems for advances of cash and
accounts payable. On May 17, 2005 UCA Services and Systems entered into an
unsecured Non-Negotiable Promissory Note (the "Systems Note") whereby the net
amount due to UCA Services from Systems of $779,870 was aggregated into the
Systems Note. The Systems Note provides for interest at a rate equal to the
minimum applicable federal rate of interest per annum and for equal monthly
payments from Systems to UCA Services over a period of thirty-nine months
commencing on June 1, 2005. Due to uncertainties related to the realizability of
the amounts due from Systems, the entire balance due from affiliate, which was
acquired by Holdings as part of the acquisition of UCA Services, had been fully
reserved for by UCA Services prior to the acquisition by the Company.
In the normal course of business, the Company performed services and an entity
affiliated with our stockholders, in the amount of $141,000. As of December 31,
2005 approximately $164,000 was owed to the Company, including amounts owed to
UCA Services prior to the acquisition.
NOTE 13. SEGMENTS
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information" established standards for reporting information about operating
segments in financial statements. Operating segments are defined as components
of an enterprise engaging in business activities about which separate financial
information is available that is evaluated by the chief operating decision maker
or group in deciding how to allocate resources and in assessing performance. The
Company operates in two business segments: Voice over Internet Protocol and
Information Technology Services. These reportable segments are strategic
business units that are in different phases of development that the Company
manages and finances separately based on the fundamental differences in their
operations. The Company defines segment earnings as earnings before interest,
taxes, depreciation and amortization and other charges determined to be
non-recurring in nature, such as restructuring and impairment charges.
F-23
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
Information about the Company operating segments, the presentation of which
reflects changes in information that is now being made available to the
Company's chief operating decision maker, is as follows
IT Services VoIP Corporate Total
----------------------------------------------------------
For the year ended December 31, 2005
Revenues $ 12,540,984 $ 284 $ -- $ 12,541,268
Earnings before interest, taxes,
depreciation and amortization and 237,327 (2,455,046) (983,809) (3,201,528)
debt discount
Net income (loss) 191,208 (3,220,310) (3,752,883) (6,781,985)
Total assets 13,594,187 891,845 3,141,030 17,627,062
Prior to the acquisition of UCA Services on May 20, 2005, the Company did not
have operating segments.
NOTE 14. SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES
For the Years ended December 31,
--------------------------------
2005 2004
---- ----
Settlement of bridge loan with common stock $ 500,000 $ --
Non-cash offering costs, netted against proceeds from
sales of common stock $ 368,683 $ --
Common stock issued in the acquisition of UCA Services $ 13,823,000 $ --
Discount on bridge loans relating to warrants and
beneficial conversion feature $ 392,196 $ 411,403
Issuance of common stock to landlord in lieu of rent $ -- $ 100,000
Deferred employee stock option compensation $ 67,500 $ --
Discount on convertible debentures relating to warrants $ 392,897 $ --
Discount on convertible debentures relating to shares $ 156,058 $ --
Discount on convertible debentures relating to beneficial
conversion feature $ 142,709 $ --
Fair value of options issued to non-employees for services
initially $ -- $ 115,719
Net liabilities of Houston Operating Company assumed in
share exchange $ -- $ (29,109)
Value of shares and warrants issued in connection with
financing commitment $ -- $ 368,683
Discount on note payable issued to officer $ 141,855 $ --
Gain on modification of debt $ 100,758 $ --
NOTE 15. SUBSEQUENT EVENTS
Debt Financing
On February 14, 2006, the Company entered into a Security Agreement, dated
February 10, 2006 with Laurus Master Fund, Ltd. ("Laurus"). Under the Security
Agreement, Laurus purchased from the Company a Secured Convertible Note (the
"Laurus Convertible Note"), with a maturity date of February 10, 2009, in the
aggregate principal amount of $1,500,000 and a Secured Non-Convertible Revolving
Note (the "Laurus Revolving Note"), in the aggregate principal amount of
$1,500,000. The Laurus Convertible Note and the Laurus Note are collectively the
"Laurus Notes". The Company's ability to receive financing under the Laurus
Notes is based on an advance rate equal to 90% of eligible accounts receivable,
as defined. However, Laurus has agreed to provide the Company an over advance
until July 30, 2007.
F-24
NetFabric Holdings Inc. and Subsidiaries
Notes to Consolidated Financial Statements
The Laurus Convertible Note has a three-year term, and bears interest at 1%
above the prime rate, with a minimum interest rate of 8%. Laurus has the option,
but not the obligation, at any time until February 9, 2009 to convert all or any
portion of the Laurus Convertible Note and accrued interest into shares of the
Company's common stock at a conversion price of $0.91 per share. The Company has
the option, but not the obligation, to repay the Laurus Convertible Note by
paying Laurus the principal amount, accrued interest and a certain redemption
premium, as defined.
The Laurus Revolving Note has a three-year term and bears interest at 1% above
the prime rate, with a minimum interest rate of 8%.
In connection with the Laurus Notes, the Company issued to Laurus an option (the
"Laurus Option") to purchase up to 4,256,550 shares of the Company's common
stock at an exercise price of $0.01 per share. Additionally, the Company and
Laurus entered into a registration rights agreement (the " Laurus Registration
Rights Agreement") covering the registration of common stock underlying the
Laurus Convertible Note and the Laurus Option.
The Company's obligations under the Laurus Notes are secured by first liens on
all assets of the Company, and Laurus may accelerate all obligations under the
Laurus Notes upon an event of default.
The Company utilized approximately $1.9 million of the initial borrowing from
Laurus to repay all amounts owed to October Cornell Debenture (see Note 7).
The Company will allocate the proceeds from the Laurus Notes to the Laurus
Notes, Laurus Option and beneficial conversion feature based on the relative
fair value of each component. Discounts from the Laurus Notes will be accreted
and recorded to interest expense over the stated maturity of the Laurus Notes.
Contract Termination
In January 2006, the Company and a consultant to the Company terminated a
services arrangement whereby the consultant was to provide services to the
Company over a certain future period. In connection with the termination of this
arrangement, an officer, director and stockholder of the Company transferred one
million shares (fair value of $950,000) of the Company's common stock owned by
the officer, director and stockholder to the consultant in full settlement of
the Company's obligation under the consulting arrangement. As a result, the
consultant released the Company from all liabilities. The Company has accounted
for the settlement an expense in the Company's financial statements, based on
the value of the shares of common stock, with a corresponding credit to
contributed (paid-in) capital from the officer, director and stockholder during
the three months ended March 31, 2006.
Share Exchange Amendment
During January and February 2006, the former shareholders of UCA Services with
whom the Company had entered into the Exchange Agreement in May 2005 related to
the purchase of UCA Services and the Company entered into negotiations related
to a dispute over compliance with the provision of the Exchange Agreement.
In connection with the discussions, the Company and the former UCA shareholders
entered into an Amendment to the Exchange Agreement ("Exchange Amendment") which
was executed in February 2006. The Exchange Amendment provides that an officer,
director and stockholder transfer nine million shares (fair value of $8.5
million) of the Company's common stock owned by such officer, director and
stockholder to the former shareholders of UCA. This arrangement was structured
whereby the officer, director and stockholder surrendered his shares to the
Company, and the Company reissued such shares to former UCA shareholders.
Since the settlement was not a contingency associated with the acquisition of
UCA Services, the Company will account for the shares transferred by officer,
director and stockholder as an expense, based on the value of the shares, in the
Company's consolidated financial statements with a corresponding credit to
contributed (paid-in) capital by the officer, director and stockholder during
the three months ended March 31, 2006.
F-25
v040414_ex3-1 -- Converted by SECPublisher 2.1.1.8, created by BCL Technologies Inc., for SEC Filing
AMENDED AND RESTATED
BY-LAWS
OF
NETFABRIC HOLDINGS, INC.
ARTICLE ONE
CAPITAL STOCK
-------------
Section 1.1 Classes of Stock. The capital stock of the corporation shall
consist of shares of such kinds and classes, with such designations and such
relative rights, preferences, qualifications, limitations and restrictions,
including voting rights, and for such consideration as shall be stated in or
determined in accordance with the Amended and Restated Certificate of
Incorporation and any amendment or amendments thereof, or the Delaware General
Corporation Law (the "DGCL"). Consistent with the DGCL, capital stock of the
corporation owned by the corporation may be referred to and accounted for as
treasury stock.
Section 1.2 Certificates for Shares. All share certificates shall be
consecutively numbered as issued and shall be signed by the president or a vice
president and the corporate secretary or any assistant secretary of the
corporation.
Section 1.3 Transfer of Shares. The shares of the capital stock of the
corporation shall be transferred only on the books of the corporation by the
holder thereof, or by his attorney-in-fact, upon the surrender and cancellation
of the stock certificate, whereupon a new certificate shall be issued to the
transferee. The transfer and assignment of such shares of stock shall be subject
to the laws of the State of Delaware. The Board of Directors shall have the
right to appoint and employ one or more stock registrars and/or transfer agents
in the State of Delaware or in any other state.
ARTICLE II.
STOCKHOLDERS
Section 2.1 Annual Meetings. The regular annual meeting of the
stockholders of the corporation shall be held on such date within a reasonable
interval afier the close of the corporation's last fiscal year as may be
designated from time to time by the Board of Directors, for the election of the
directors of the corporation, and for the transaction of such other business as
is authorized or required to be transacted by the stockholders.
Section 2.2 Special Meetings. Special meetings of the stockholders may be
called by the Board of Directors or upon the request to the president of the
Corporation by holders of not less than 25% of all of the outstanding shares of
the corporation entitled to vote at a stockholders meeting.
Section 2.3 Time and Place of Meetings. All meetings of the stockholders
shall be held at the principal office of the corporation or at such other place
within or without the State of Delaware and at such time as may be designated
from time to time by the Board of Directors.
Section 2.4 Notice of Stockholders. Notice of Stockholders shall be mailed
or delivered to stockholders not less than ten (10) nor more than sixty (60)
days before the date of the meeting. No business may be transacted at an Annual
Meeting of Stockholders, other than business that is either (a) specified in the
notice of meeting (or any supplement thereto) given by or at the direction of
the Board of Directors (or any duly authorized committee thereof), (b) otherwise
properly brought before the Annual Meeting by or at the direction of the Board
of Directors (or any duly authorized committee thereof) or (c) otherwise
properly brought before the Annual Meeting by any stockholder of the corporation
(i) who is a stockholder of record on the date of the giving of the notice
provided for in this Section 2.4 of this Article Two and on the record date for
the determination of stockholders entitled to vote at such Annual Meeting, and
(ii) who complied with the notice procedures set forth in this Section 2.4 of
this Article Two.
In addition to any other applicable requirements, for business to be
properly brought before an Annual Meeting by a stockholder, such stockholder
must have given timely notice thereof in proper written form to the secretary of
the corporation. To be timely, a stockholder's notice to the secretary must be
delivered to or mailed and received at the principal executive offices of the
corporation not less than ninety (90) days nor more than one hundred and twenty
(120) days prior to the anniversary date of the immediately preceding the Annual
Meeting of stockholders; provided, however, that in the event that the Annual
Meeting is called for a date that is not within thirty (30) days before or after
such anniversary date, notice by the stockholder in order to be timely must be
so received not later than the close of business on the tenth (10th) day
following the day on which such notice of the date of the Annual Meeting was
mailed; and (b) in the case of a Special Meeting of Stockholders called for the
purpose of electing directors, not later than the close of business on the tenth
(10th) day following the day on which notice of the date of the Special Meeting
was mailed. In no event shall the public announcement of an adjournment of an
Annual Meeting or Special Meeting for the purpose of electing directors commence
a new time period for the giving of a stockholder's notice as described above.
To be in proper written form, a stockholder's notice to the secretary must
set forth as to each matter such stockholder proposes to bring before the Annual
Meeting (i) a brief description of the business desired to be brought before the
Annual Meeting and the reasons for conducting such business at the Annual
Meeting, (ii) the name and record address of such stockholder, (iii) the class
or series and number of shares of capital stock of the corporation which are
owned beneficially or of record by such stockholders, (iv) a description of all
arrangements or understandings between such stockholder and any other person or
persons (including their names) in connection with the proposal, and (v) a
representation that such stockholder intends to appear in person or by proxy at
the Annual Meeting to bring such business before the meeting.
If the chairman of an Annual Meeting determines that business was not
properly brought before the Annual Meeting in accordance with the foregoing
procedures, the chairman shall declare to the meeting that the business was not
properly brought before the meeting and such business shall not be transacted.
2
Section 2.5 Quorum Requirements for Stockholder Meetings. A majority of
the shares entitled to vote present, in person or represented by proxy, shall
constitute a quorum for the transactions of business. A meeting may be adjourned
despite the absence of a quorum, and notice of an adjourned meeting need not be
given if the time and place to which the meeting is adjourned are announced at
the meeting at which the adjournment is taken. When a quorum is present at any
meeting, a majority in interest of the stock there represented shall decide any
question brought before such meeting, unless the question is one upon which, by
express provision of this corporation's certificate of incorporation or Bylaws,
or by the laws of Delaware, a larger or different vote is required, in which
case such express provision shall govern the decision or such question.
Section 2.6 Voting and Proxies. Every stockholder entitled to vote at a
meeting may do so either in person or by proxy appointment made by an instrument
in writing subscribed by such stockholder which proxy shall be filed with the
secretary of the meeting before being voted. Such proxy shall entitle the
holders thereof to vote at any adjournment of such meeting, but shall not be
valid after the final adjournment thereof. No proxy shall be valid after the
expiration of three (3) years from the date of its execution, unless the said
instrument expressly provides for a longer period.
Section 2.7 Written Consent of Stockholders. Any action required or
permitted to be taken by the holders of the issued and outstanding stock of the
Corporation at an annual or special meeting of stockholders duly called and held
in accordance with law, the Certificate of Incorporation of the corporation and
these By-Laws, may in lieu of such meeting, be taken by the consent in writing
executed by stockholders holding the number of shares necessary to approve such
action.
ARTICLE 111.
DIRECTORS
Section 3.1 Number and Terms of Office. The business of the corporation
shall be controlled and managed in accordance with the DGCL by a Board of up to
five directors. The number of directors to be fixed from time to time by
resolution adopted by a majority of the Board of Directors then in office.
Directors need not be stockholders or residents of this State, but must be of
legal age. They shall be elected by a plurality of the votes cast at the annual
meetings of the stockholders or at a special meeting of the stockholders called
for that purpose. Each director shall hold office until the expiration of the
term for which he is elected, and thereafter until his successor has been
elected and qualified.
Section 3.2 Nomination of Directors. Only persons who are nominated in
accordance with the following procedures shall be eligible for election as
directors of the corporation, except as may be otherwise provided in the
Certificate of Incorporation, including the right of holders of preferred stock
of the corporation to nominate and elect a specified number of directors in
certain circumstances. Nominations of persons for election to the Board of
Directors may be made at any Annual Meeting of Stockholders, or at any Special
Meeting of Stockholders called for the purpose of electing directors, (a) by or
at the direction of the Board of Directors (or any duly authorized committee
thereof), or (b) by any stockholder of the corporation (i) who is a stockholder
of record on the date of the giving of the notice provided for in this Section
3.2 of this Article Three and on the record date for the determination of
stockholders entitled to vote at such meeting and (ii) who complies with the
notice procedures set forth in this Section 3.2 of this Article Three.
3
In addition to any other applicable requirements, for a nomination to be
made by a stockholder, such stockholder must have given timely notice thereof in
proper written form to the secretary of the corporation. To be timely, a
stockholder's notice to the secretary must be delivered to or mailed and
received at the principal executive offices of the corporation (a) in the case
of an Annual Meeting, not less than ninety (90) days nor more than one hundred
and twenty (120) days prior to the anniversary date of the immediately preceding
Annual Meeting of Stockholders; provided, however, that in the event that the
Annual Meeting is called for a date that is not within thirty (30) days before
or after such anniversary date, notice by the stockholder in order to be timely
must be so received not later than the close of business on the tenth (10th) day
following the day on which such notice of the date of the Annual Meeting was
mailed; and (b) in the case of a Special Meeting of Stockholders called for the
purpose of electing directors, not later than the close of business on the tenth
(10th) day following the day on which notice of the date of the Special Meeting
was mailed. In no event shall the public announcement of an adjournment of an
Annual Meeting or Special Meeting commence a new time period for the giving of a
stockholder's notice as described above.
To be in proper written form, a stockholder's notice to the secretary must
set forth (a) as to each person whom the stockholder proposes to nominate for
election as a director (i) the name, age, business address and residence address
of the person, (ii) the principal occupation or employment of the person, (iii)
the class or series and number of shares of capital stock of the corporation
which are owned beneficially or of record by the person and (iv) any other
information relating to the person that would be required to be disclosed in a
proxy statement or other filings required to be made in connection with
solicitations of proxies for election of directors pursuant to Section 14 of the
Securities Exchange Act of 1934, as amended (the "Exchange Act"), and the rules
and regulations promulgated thereunder; and (b) as to the stockholder giving the
notice (i) the name and record address of such stockholder, (ii) the class or
series and number of shares of capital stock of the corporation which are owned
beneficially or of record by such stockholder, (iii) a description of all
arrangements or understandings between such stockholder and each proposed
nominee and any other person or persons (including their names) pursuant to
which the nomination(s) are to be made by such stockholder, (iv) a
representation that such stockholder intends to appear in person or by proxy at
the meeting to nominate the persons named in its notice and (v) any other
information relating to such stockholder that would be required to be disclosed
in a proxy statement or other filings required to be made in connection with
solicitations of proxies for election of directors pursuant to Section 14 of the
Exchange Act and the rules and regulations promulgated thereunder. Such notice
must be accompanied by a written consent of each proposed nominee to being named
as a nominee and to serve as a director if elected.
No person shall be eligible for election as a director of the Corporation
unless nominated in accordance with the procedures set forth in this Section 3.2
of this Article Three, except as may be otherwise provided in the Certificate of
Incorporation of the Corporation. If the chairman of the meeting determines that
a nomination was not made in accordance with the foregoing procedures, the
chairman shall declare to the meeting that the nomination was defective and such
defective nomination shall be disregarded.
4
Section 3.3 Employee Directors. An employee director, other than the chief
executive officer, shall immediately resign from the Board of Directors at the
time of any reduction in responsibility or upon termination of employment for
whatever reason, unless the Board of Directors determines otherwise. A director
who was chief executive officer of the corporation and whose employment was
terminated for whatever reason, other than retirement, shall resign immediately
from the Board of Directors upon such termination, unless the Board of Directors
determines otherwise.
Section 3.4 Meetings. The annual meeting of the Board of Directors shall
be held immediately after the adjournment of the annual meeting of the
stockholders, at which time the: (i) officers of the corporation shall be
elected, (ii) the membership of committees of the Board of Directors shall be
elected and (iii) the election of the Chairman of the Board of Directors and any
other Board positions. The Board may also designate more frequent intervals for
regular meetings. Special meetings may be called at any time by the chairman of
the Board, chief executive officer, president, or any director. Members of the
Board of Directors may participate in a meeting of the Board of Directors by
means of conference telephone or similar communications equipment by means of
which all persons participating in the meeting can hear each other, and
participation in a meeting in such manner shall constitute presence in person at
such a meeting.
Section 3.5 Notice of Directors' Meetings. The annual and all regular
Board meetings may be held without specific prior notice of the date, time,
place or purpose of the meeting, as long as such dates have been previously
established. Special meetings shall be held upon notice sent by any usual means
of communication not less than twenty-four (24) hours before the meeting noting
the date, time and place of the meeting. The notice need not describe the
purposes of the special meeting. Attendance by a director at a meeting or
subsequent execution or approval by a director of the minutes of a meeting shall
constitute a waiver of any defects in notice of such meeting.
Section 3.6 Quorum and Vote. The presence of a majority of the directors
shall constitute a quorum for the transaction of business. A meeting may be
adjourned despite the absence of a quorum, and notice of an adjourned meeting
need not be given if the time and place to which the meeting is adjourned are
fixed at the meeting at which the adjournment is taken, and if the period of
adjournment does not exceed thirty (30) days in any one adjournment. The vote of
a majority of the directors present at a meeting at which a quorum is present
shall be the act of the Board, unless the vote of a greater number is required
by the Certificate of Incorporation, these Bylaws, or by the laws of Delaware.
Section 3.7 Committees of the Board of Directors . The Board of Directors,
by a resolution adopted by a majority if its members, may designate an executive
committee, an audit committee, and other committees, and may delegate to such
committee or committees any and all such authority as it deems desirable.
5
Section 3.8 Removal of Directors. Any or all of the directors may be
removed at any time for "cause" by the affirmative vote of the holders of
66-2/3% or more of the outstanding shares of capital stock of the Corporation
entitled to vote generally in the election of directors (considered for this
purpose as one class). Cause for purposes of these Bylaws shall be: (i) any
fraudulent or dishonest act or activity by the director; or (ii) behavior
materially detrimental to the business of the Corporation.
Section 3.9 Chairman of the Board. The chairman of the Board shall be
chosen from among the directors and shall preside at all meetings of the Board
of Directors and stockholders. He shall confer from time to time with members of
the Board and the officers of the corporation and shall perform such other
duties as may be assigned to him by the Board. Except where by law the signature
of the president is required, the chairman of the Board shall possess the same
power as the president to sign all certificates, contracts, and other
instruments of the corporation which may be authorized by the Board of
Directors.
Section 3.10 Time and Place of Meetings. All meetings of the Board of
Directors shall be held at the principal office of the corporation, or at such
other place within or without the State of Delaware and at such time as may be
designated from time to time by the Board of Directors.
Section 3.11 Vacancies. Except as otherwise provided in the Certificate of
Incorporation or in the following paragraph, vacancies occurring in the
membership of the Board of Directors, from whatever cause arising may be filled
by vote of a majority of the remaining directors, although less than a quorum is
present, or such vacancies may be filled by the shareholders.
Section 3.12 Action by Written Consent of Directors. Any action required
or permitted to be taken by the Board of Directors or any committee thereof may
be taken without a meeting if all members of the Board or of the committee
consent in writing to the adoption of resolution authorizing the action. The
resolution and the written consents thereto by the members of the Board or of
the committee shall be filed with the minutes of the proceedings of the Board or
committee, and such action shall be as valid and effective as any action taken
at a regular or special meeting of the directors.
Section 3.13 Dividends. The Board of Directors may declare dividends from
time to time upon the capital stock of the Corporation in accordance with the
DGCL.
Section 3.14 Fiscal Year. The fiscal year of the Corporation shall be
fixed by resolution of the Board of Directors.
ARTICLE IV.
OFFICERS
Section 4.1 Election and Term of Office. The officers of the corporation
shall be elected by the Board of Directors at the regular annual meeting of the
Board, unless the Board shall otherwise determine, and may consist of a chief
executive officer, chief operating officer, president, one or more vice
presidents (any one or more of whom may be designated "corporate," "executive,"
"senior," "group" or other functionally described vice president), a corporate
secretary, a chief financial officer, a treasurer and one or more assistant
secretaries and assistant treasurers. Each officer shall continue in office
until his successor shall have been duly elected and qualified or until removed
in the manner hereinafter provided. Vacancies occasioned by any cause in any one
or more of such offices may be filled for the unexpired portion of the term by
the Board of Directors at any regular or special meeting of the Board.
6
Section 4.2 Chief Executive Officer. The Board may designate a chief
executive officer, who shall be the most senior officer of the Company, and
report directly to the Board of Directors. The chief executive officer shall
have the full authority to operate the Company on a day-to-day basis subject to
the supervision of the Board of Directors. All officers of the Company shall be
subject to the authority of the chief executive officer.
Section 4.3 The President. The president and his duties shall be subject
to the control of the Board of Directors, except, if someone has been designated
chief executive officer, in such event, the president shall be subject to the
control of the chief executive officer. The president shall have the power to
sign and execute all deeds, mortgages, bonds, contracts and other instruments of
the corporation as authorized by the Board of Directors, except in cases where
the signing and execution thereof shall be expressly designated by the Board of
Directors or by these bylaws to some other officer, official or agent of the
corporation. The president shall perform all duties incident to the office of
president and such other duties as are properly required of him by the bylaws.
Section 4.4 The Vice Presidents. The vice presidents shall possess the
same power as the president to sign all certificates, contracts and other
instruments of the corporation which may be authorized by the Board of
Directors, except where by law the signature of the president is required. All
vice presidents shall perform such duties as may from time to time be assigned
to them by the Board of Directors, the chairman of the board, the chief
executive officer or the president, as applicable.
Section 4.5 The Corporate Secretary. The corporate secretary of the
corporation shall:
(a) Keep the minutes of the meetings of the stockholders and the
Board of Directors in books provided for that purpose.
(b) See that all notices are duly given in accordance with the
provisions of these bylaws and as required by law.
(c) Be custodian of the records and of the seal of the corporation
and see that the seal is affixed to all documents, the execution of which on
behalf of the corporation under its seal is duly authorized in accordance with
the provisions of these bylaws.
(d) Keep a register of the post office address of each stockholder,
which shall be furnished to the corporate secretary at his request by such
stockholder, and make all proper changes in such register, retaining and filing
his authority for all such entries.
(e) See that the books, reports, statements, certificates and all
other documents and records required by law are properly kept, filed and
authenticated.
7
(f) In general, perform all duties incident to the office of
corporate secretary and such other duties as may from time to time be assigned
to him by the Board of Directors.
(g) In case of absence or disability of the corporate secretary, the
assistant secretaries, in the order designated by the chief executive officer,
shall perform the duties of corporate secretary.
Section 4.6 The Treasurer. The treasurer of the corporation shall:
(a) Give bond for the faithful discharge of his duties if required
by the Board of Directors.
(b) Have the charge and custody of, and be responsible for, all
funds and securities of the corporation, and deposit all such funds in the name
of the corporation in such banks, trust companies or other depositories as shall
be selected in accordance with the provisions of these bylaws.
(c) At all reasonable times, exhibit his books of account and
records, and cause to be exhibited the books of account and records of any
corporation a majority of whose stock is owned by the corporation, to any of the
directors of the corporation upon application during business hours at the
office of this corporation or such other corporation where such books and
records are kept.
(d) Render a statement of the conditions of the finances of the
corporation at all regular meetings of the Board of Directors, and a full
financial report at the annual meeting of the stockholders, if called upon so to
do.
(e) Receive and give receipts for monies due and payable to the
corporation from any source whatsoever.
(f) In general, perform all of the duties incident to the office of
treasurer and such other duties as may from time to time be assigned to him by
the Board of Directors.
(g) In case of absence or disability of the treasurer, the assistant
treasurers, in the order designated by the chief executive officer, shall
perform the duties of treasurer.
Section 4.7 Chief Operating Officer. The Board of Directors shall
designate the authority and duties of the chief operating officer at the time of
appointment and such authority and duties may change or limit the authority and
duties of all other officers, except for the chief executive officer.
Section 4.8 Chief Financial Officer. The Board of Directors shall
designate the authority and duties of the chief financial officer at the time of
appointment and such authority and duties may change or limit the authority and
duties of all other officers, except for the chief executive officer.
8
ARTICLE V.
CORPORATE SEAL
The corporate seal of the corporation shall be a round, metal disc with
the words "Netfabric Corporation." around the outer margin thereof, and the
words "Incorporated, 200", in the center thereof, so mounted that it may be used
to impress words in raised letters upon paper.
ARTICLE VI.
INDEMNIFICATION
Section 6.1 Indemnification. The corporation shall, to the fullest extent
permitted by the provisions of Section 145 of the DGCL, indemnify each person
who is or was a director, officer, manager or employee of the corporation, or of
any other corporation, partnership, joint venture, limited liability company,
trust or other enterprise which he is serving or served in any capacity at the
request of the corporation, from and against any and all, liability and
reasonable expense, as and when incurred, that may be incurred by him in
connection with or resulting from any claim, actions, suit or proceeding
(whether actual or threatened, brought by or in the right of the corporation or
such other corporation, partnership, joint venture, limited liability company,
trust or other enterprise, or otherwise, civil, criminal, administrative,
investigative, or in connection with an appeal relating thereto), in which he
may become involved, as a party or otherwise, by reason of his being or having
been a director, officer, manager or employee of the corporation or of such
other corporation, partnership, joint venture, limited liability company, trust
or other enterprise or by reason of any past or future action taken or not taken
in his capacity as such director, officer, manager or employee, whether or not
he continues to be such at the time such liability or expense is incurred, to
the fullest extent permitted by the DGCL as the same now exists or may hereafter
be amended (but in the case of any such amendment only to the extent that such
amendment permits the corporation to provide broader indemnification rights than
the DGCL permitted the corporation to provide prior to such amendment).
Any indemnification pursuant to this Article Six shall be (unless ordered
by a court) paid by the corporation within sixty (60) days of such request,
unless the corporation shall have determined by (a) the Board of Directors,
acting by a quorum consisting of directors who are not parties to or who have
been wholly successful with respect to such claim, action, suit or proceeding,
(b) outside legal counsel engaged by the corporation (who may be regular counsel
of the corporation) and who delivers to the corporation its written opinion, or
(c) a court of competent jurisdiction, that indemnification is not proper under
the circumstances because such person has not met the necessary standard of
conduct in accordance with DGCL; provided, however, that following a Change in
Control of the Corporation, with respect to all matters thereafter arising out
of acts, omissions or events prior to the Change in Control of the Corporation
concerning the rights of any person seeking indemnification hereunder, such
determination shall be made by special independent counsel selected by such
person and approved by the corporation (which approval shall not be unreasonably
withheld), which counsel has not otherwise performed services (other than in
connection with similar matters) within the five years preceding its engagement
to render such opinion for such person or for the corporation or any affiliates
(as such term is defined in Rule 405 under the Securities Act of 1933, as
amended) of the corporation (whether or not they were affiliates when services
were so performed) ("Independent Counsel"). Unless such person has theretofore
selected Independent Counsel pursuant to this Article Six, Section 6.1 and such
Independent Counsel has been approved by the corporation, legal counsel approved
by a resolution or resolutions of the Board of Directors prior to a Change in
Control of the Corporation shall be deemed to have been approved by the
Corporation as required. Such Independent Counsel shall determine as promptly as
practicable whether and to what extent such person would be permitted to be
indemnified under applicable law and shall render its written opinion to the
Corporation and such person to such effect; provided that such independent
counsel shall find that the standard for indemnification has been met by such
person unless indemnification is clearly precluded under these Bylaws or the
DGCL. The corporation agrees to pay the reasonable fees of the Independent
Counsel referred to above and to fully indemnify such Independent Counsel
against any and all expenses, claims, liabilities and damages arising out of or
relating to this Article Seven or its engagement pursuant hereto.
9
For purposes of this Article Six, a "Change in Control of the Corporation"
shall be deemed to have occurred upon the first to occur of the following
events:
(i) any "person," as such term is used in Sections 13 (d) and 14(d)
of the Securities Exchange Act of 1934, as amended (the "Exchange Act") (other
than the corporation, any trustee or other fiduciary holding securities under an
employee benefit plan of the corporation or any subsidiary of the corporation,
or any corporation owned, directly or indirectly, by the stockholders of the
corporation in substantially the same proportions as their ownership of stock of
the corporation), is or becomes the "beneficial owner" (as defined in Rule 13d-3
under the Exchange Act), directly or indirectly, of securities of the
corporation representing 30 percent or more of the combined voting power of the
corporation's then outstanding securities;
(ii) at any time during any period of two consecutive years,
individuals, who at the beginning of such period constitute the Board of
Directors, and any new director (other than a director designated by a person
who has entered into an agreement with the corporation to effect a transaction
described in subsection (i), (iii) or (iv) of this Section 6.1) whose election
by the Board of Directors or nomination for election by the corporation's
stockholders was approved by a vote of at least two-thirds (2/3) of the
directors at the beginning of the period or whose election or nomination for
election was previously so approved cease for any reason to constitute at least
a majority thereof;
(iii) the stockholders of the corporation approve a merger or
consolidation of the corporation with any other corporation, other than (1) a
merger or consolidation which would result in the voting securities of the
corporation outstanding immediately prior thereto continuing to represent
(either by remaining outstanding or by being converted into voting securities of
the surviving entity) more than 50 percent of the combined voting power of the
voting securities of the corporation or such surviving entity outstanding
immediately after such merger or consolidation or (2) a merger or consolidation
effected to implement a recapitalization of the corporation (or similar
transaction) in which no person acquires 50 percent or more of the combined
voting power of the corporation's then outstanding securities: or
10
(iv) the stockholders of the corporation approve a plan of
complete liquidation of the corporation or an agreement for the sale or
disposition by the corporation of all or substantially all of the corporation's
assets.
Section 6.2 Expenses. Expenses, including reasonable attorneys' fees,
incurred by a person referred to in Section 6.1 of this Article Six in
defending, investigating or otherwise being involved in a proceeding shall be
paid by the corporation in advance of the final disposition of such proceeding,
including any appeal therefrom, upon receipt of an undertaking (the
"Undertaking") by or on behalf of such person to repay such amount if it shall
ultimately be determined that he or she is not entitled to be indemnified by the
corporation.
Section 6.3 Right of Claimant to Bring Suit. If a claim for
indemnification is not paid in full by the corporation within sixty (60) days
after a written claim has been received by the corporation or if expenses
pursuant to Section 6.2 hereof have not been advanced within ten (10) days after
a written request for such advancement accompanied by the Undertaking has been
received by the corporation, the claimant may at any time thereafter bring suit
against the corporation to recover the unpaid amount of the claim or the
advancement of expenses. (If the claimant is successful, in whole or in part, in
such suit or any other suit to enforce a right for expenses or indemnification
against the corporation or any other party under any other agreement, such
claimant shall also be entitled to be paid the reasonable expense of prosecuting
such claim.) It shall be a defense to any such action (other than an action
brought to enforce a claim for expenses incurred in defending any proceeding in
advance of its final disposition where the required Undertaking has been
tendered to the corporation) that the claimant has not met the standards of
conduct which make it permissible under the DGCL for the corporation to
indemnify the claimant for the amount claimed. After a Change in Control, the
burden of proving such defense shall be on the corporation, and any
determination by the corporation (including its Board of Directors, independent
legal counsel or its stockholders) that the claimant had not met the applicable
standard of conduct required under the DGCL shall not be a defense to the action
nor create a presumption that claimant had not met such applicable standard of
conduct.
Section 6.4 Non-Exclusivitv of Rights. The rights conferred on any person
by this article shall not be exclusive of any other right which such person may
have or hereafter acquire under any statute, provision of the Certificate of
Incorporation, Bylaws, agreement vote of stockholders or disinterested directors
or otherwise. The Board of Directors shall have the authority, by resolution, to
provide for such other indemnification of directors, officers, employees or
agents as it shall deem appropriate.
Section 6.5 Insurance. The corporation may purchase and maintain insurance
to protect itself and any director, officer, employee or agent of the
corporation or another corporation, partnership, joint venture, limited
liability company, trust or other enterprise against any expenses, liabilities
or losses, whether or not the corporation would have the power to indemnify such
person against such expenses, liabilities or losses under the DGCL.
11
Section 6.6 Enforceability. The provisions of this Article Six shall be
applicable to all proceedings commenced after its adoption, whether such arise
out of events, acts, omissions or circumstances which occurred or existed prior
or subsequent to such adoption, and shall continue as to a person who has ceased
to be a director or officer and shall inure to the benefit of the heirs,
executors and administrators of such person. This Article Six shall be deemed to
grant each person who, at any time that this Article Six is in effect, serves or
agrees to serve in any capacity which entitles him to indemnification hereunder
rights against the corporation to enforce the provisions of this Article Six,
and any repeal or other modification of this Article or any repeal or
modification of the DGCL or any other applicable law shall not limit any rights
of indemnification then existing or arising out of events, acts, omissions,
circumstances occurring or existing prior to such repeal or modification,
including, without limitation, the right to indemnification for proceedings
commenced after such repeal or modification to enforce this article with regard
to acts, omissions, events or circumstances occurring or existing prior to such
repeal or modification.
Section 6.7 Severabilitv. If this Article Six or any portion hereof shall
invalidated on any ground by any court of competent jurisdiction, then the
corporation shall nevertheless indemnify each director and officer of the
corporation as to costs, charges and expenses (including attorneys' fees),
judgments, fines and amounts paid in settlement with respect to any proceeding,
whether civil, criminal, administrative or investigative, including an action by
or in the right of the corporation, to the full extent permitted by any
applicable portion of this Article Six that shall not have been invalidated and
to the full extent permitted by applicable law.
ARTICLE VII.
AMENDMENTS
Section 7.1 By Shareholders. These by-laws may be amended at any meeting
of shareholders by vote of the shareholders holding a majority of the
outstanding stock entitled to vote, present either in person or by proxy,
provided notice of the amendment is included in the notice or waiver of notice
of such meeting.
Section 7.2 By Directors. The Board of Directors may from time to time by
the vote of a majority of the directors then in office make, adopt, amend,
supplement or repeal by-laws (including by-laws adopted by the shareholders of
the Corporation), but the shareholders of the Corporation may from time to time
specify provisions of the by-laws that may not be amended or repealed by the
Board of Directors.
12
CERTIFICATION
I hereby certify that these Bylaws were adopted by the Board of Directors
on January 19, 2005.
-------------------------------------
Name: Phil Barak
Title: Corporate Secretary
13
EXHIBIT 21.1
Subsidiaries of NetFabric Holdings, Inc.
- --------------------------------------------------------------------------------
Name Jurisdiction of Incorporation
- --------------------------------------------------------------------------------
NetFabric Corporation Delaware
- --------------------------------------------------------------------------------
UCA Services, Inc. New Jersey
- --------------------------------------------------------------------------------
EXHIBIT 31.1
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO
SECTION 302 OF THE SARBANES OXLEY ACT OF 2002
I, Jeff Robinson, Chairman and Chief Executive Officer, certify that:
1. I have reviewed this annual report on Form 10-KSB of NetFabric Holdings, Inc.
(the" Company").
2. Based on my knowledge, this report does not contain any untrue statement of a
material fact or omit to state a material fact necessary to make the statements
made, in light of the circumstances under which such statements were made, not
misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the Company as of,
and for, the periods presented in this report;
4. The Company's other certifying officer and I are responsible for establishing
and maintaining disclosure controls and procedures (as defined in Exchange Act
Rules 13a-15(e) and 15d 15(e)) and internal control over financial reporting (as
defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the Company and have:
a) Designed such disclosure controls and procedures, or caused such disclosure
controls and procedures to be designed under our supervision, to ensure that
material information relating to the Company, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this report is being prepared;
b) Designed such internal control over financial reporting, or caused such
internal control over financial reporting to be designed under our supervision,
to provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles;
c) Evaluated the effectiveness of the Company's disclosure controls and
procedures and presented in this report our conclusions about the effectiveness
of the disclosure controls and procedures, as of the end of the period covered
by this report based on such evaluation; and
d) Disclosed in this report any change in the Company's internal control over
financial reporting that occurred during the Company's most recent fiscal
quarter ( the Company's fourth fiscal quarter in the case of an annual report)
that has materially affected, or is reasonably likely to materially affect, the
Company's internal control over financial reporting; and
5. The Company's other certifying officer and I have disclosed, based on our
most recent evaluation of internal control over financial reporting, to the
Company's auditors and the audit committee of the Company's board of directors
(or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are reasonably
likely to adversely affect the Company's ability to record, process, summarize
and report financial information; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the Company's internal control over
financial reporting.
April 17, 2006
/s/ Jeff Robinson
- -------------------------------------------
Name: Jeff Robinson
Title: Chairman and Chief Executive Officer
EXHIBIT 31.2
CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO
SECTION 302 OF THE SARBANES OXLEY ACT OF 2002
I, Vasan Thatham, Chief Financial Officer, certify that:
1. I have reviewed this annual report on Form 10-KSB of NetFabric Holdings, Inc.
(the" Company").
2. Based on my knowledge, this report does not contain any untrue statement of a
material fact or omit to state a material fact necessary to make the statements
made, in light of the circumstances under which such statements were made, not
misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material respects the
financial condition, results of operations and cash flows of the Company as of,
and for, the periods presented in this report;
4. The Company's other certifying officer and I are responsible for establishing
and maintaining disclosure controls and procedures (as defined in Exchange Act
Rules 13a-15(e) and 15d 15(e)) and internal control over financial reporting (as
defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for the Company and have:
a) Designed such disclosure controls and procedures, or caused such disclosure
controls and procedures to be designed under our supervision, to ensure that
material information relating to the Company, including its consolidated
subsidiaries, is made known to us by others within those entities, particularly
during the period in which this report is being prepared;
b) Designed such internal control over financial reporting, or caused such
internal control over financial reporting to be designed under our supervision,
to provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles;
c) Evaluated the effectiveness of the Company's disclosure controls and
procedures and presented in this report our conclusions about the effectiveness
of the disclosure controls and procedures, as of the end of the period covered
by this report based on such evaluation; and
d) Disclosed in this report any change in the Company's internal control over
financial reporting that occurred during the Company's most recent fiscal
quarter (the Company's fourth fiscal quarter in the case of an annual report)
that has materially affected, or is reasonably likely to materially affect, the
Company's internal control over financial reporting; and
5. The Company's other certifying officer and I have disclosed, based on our
most recent evaluation of internal control over financial reporting, to the
Company's auditors and the audit committee of the Company's board of directors
(or persons performing the equivalent functions):
a) All significant deficiencies and material weaknesses in the design or
operation of internal control over financial reporting which are reasonably
likely to adversely affect the Company's ability to record, process, summarize
and report financial information; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the Company's internal control over
financial reporting.
April 17, 2006
/s/ Vasan Thatham
- -------------------------------
Name: Vasan Thatham
Title: Chief Financial Officer
EXHIBIT 32.1
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Annual Report of NetFabric Holdings, Inc. (the "Company")
on Form 10-KSB for the year ended December 31, 2005 as filed with the Securities
and Exchange Commission on the date hereof (the "Report"), I, Jeff Robinson,
Chairman Chief Executive Officer, certify, pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002, that:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of
the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material
respects, the financial condition and result of operations of the Company.
April 17, 2006
/s/ Jeff Robinson
- --------------------------
Name: Jeff Robinson
Title: Chairman and Chief Executive Officer
A signed original of this written statement required by Section 906 has been
provided to NetFabric Holdings, Inc. and will be retained by NetFabric Holdings,
Inc. and furnished to the Securities and Exchange Commission or its staff upon
request.
EXHIBIT 32.2
CERTIFICATION PURSUANT TO
18 U.S.C. SECTION 1350,
AS ADOPTED PURSUANT TO
SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002
In connection with the Annual Report of NetFabric Holdings, Inc. (the "Company")
on Form 10-KSB for the year ended December 31, 2005 as filed with the Securities
and Exchange Commission on the date hereof (the "Report"), I, Vasan Thatham,
Chief Financial Officer, certify, pursuant to 18 U.S.C. Section 1350, as adopted
pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of
the Securities Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material
respects, the financial condition and result of operations of the Company.
April 17, 2006
/s/ Vasan Thatham
- ---------------------------------
Name: Vasan Thatham
Title: Chief Financial Officer
A signed original of this written statement required by Section 906 has been
provided to NetFabric Holdings, Inc. and will be retained by NetFabric Holdings,
Inc. and furnished to the Securities and Exchange Commission or its staff upon
request.
