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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-QSB
/x/ QUARTERLY REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended September 30, 1997
/ / TRANSITION REPORT UNDER SECTION 13 OR 15(D) OF THE EXCHANGE ACT
For the transition period from ______________ to ___________, 1997
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Commission File No.: 000-22073
DAOU SYSTEMS, INC.
(Exact name of small business issuer as specified in its charter)
Delaware 330284454
(State or other jurisdiction of (IRS Employer
incorporation or organization Identification No.)
5120 Shoreham Place
San Diego, California 92122
(Address of principal executive offices)
(619) 452-2221
(Issuer's telephone number)
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Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the 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: Yes ___
The number of shares of Registrant's Common Stock outstanding as of
October 22, 1997:
11,712,288
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Transactional Small Business Disclosure Format (check one): Yes / / No /X/
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DAOU SYSTEMS, INC.
Index to Form 10-QSB
PART I. FINANCIAL INFORMATION
Item 1. Condensed Consolidated Financial Statements Page
Condensed Consolidated Balance Sheets at December 31, 1996
and September 30, 1997 (unaudited) 3
Condensed Consolidated Statements of Operations
Three Months and Nine Months Ended
September 30, 1997 and 1996 (unaudited) 4
Condensed Consolidated Statements of Cash Flows
Nine Months Ended September, 1997 and 1996 (unaudited) 5
Notes to Condensed Consolidated Financial Statements 6-7
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 7-9
PART II. OTHER INFORMATION 9-10
SIGNATURES 11
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Item 1. Condensed Consolidated Financial Statements
DAOU SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands, except for per share data)
ASSETS
September 30, December 31,
1997 1996
------------- ------------
(unaudited) (note)
Current assets:
Cash and equivalents $ 12,580 $ 2,457
Marketable Securities 7,828 -
Accounts receivable, net 6,294 6,171
Contract work in progress 10,737 3,783
Other current assets 858 784
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Total current assets 38,297 13,195
Equipment, furniture and fixtures, net 2,696 1,155
Other assets 1,641 482
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$ 42,634 $ 14,832
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LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 1,746 $ 796
Accrued liabilities 5,515 3,296
Current portion of long term debt 34 226
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Total Current Liabilities 7,295 4,318
Commitments and contingencies 38 62
Long-term debt 47 18
Redeemable preferred stock - 8,190
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Total Liabilities 7,380 12,588
Stockholders' equity:
Preferred stock, $.001 par value
Authorized shares - 5,000
Issued and outstanding - none - -
Common stock, $.001 par value
Authorized shares - 50,000
Issued and outstanding - 10,277 10 8
Additional paid-in capital 34,309 1,350
Deferred compensation (972) (1,166)
Accretion of redeemable preferred stock - (572)
Retained earnings 1,907 2,624
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Total Stockholders' Equity 35,254 2,244
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$ 42,634 $ 14,832
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See accompanying notes
Note: The balance sheet at December 31, 1996 has been derived from the
audited Financial Statements at that date but does not include all of the
information and footnotes required by generally accepted accounting
principles for complete financial statements.
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DAOU SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT FOR PER SHARE DATA)
(UNAUDITED)
Periods Ended September 30,
Three Months Nine Months
1997 1996 1997 1996
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Revenues $ 11,299 $ 7,043 $ 27,191 $ 19,330
Cost of revenues 7,765 4,957 18,866 13,752
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Gross profit 3,534 2,086 8,325 5,578
Operating expenses:
Sales and marketing 1,344 572 3,742 1,426
General and administrative 1,440 1,234 4,335 3,643
Merger related expenses 684 - 684 -
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Total operating expenses 3,468 1,806 8,761 5,069
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Income (loss) from operations 66 280 (436) 509
Interest income, net 213 45 532 161
Other income/(expense), net - - 34 -
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Income before income taxes 279 325 130 670
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Provision for income taxes 766 62 707 87
Net income (loss) $ (487) $ 263 $ (577) $ 583
Net income (loss) per share $ (.04) $ .03 $ (.05) $ .06
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----------------------------------------------
Shares used in calculation of
net income (loss) per share 11,480 9,298 11,580 9,178
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----------------------------------------------
See accompanying notes
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DAOU SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30,
1997 1996
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Operating activities:
Net income (loss) $ (577) $ 583
Adjustments to reconcile net income (loss)
to net cash used in operating activities:
Depreciation and amortization 671 129
Changes in operating assets and liabilities ( 5,277) ( 2,754)
----------- -----------
Net cash flows used in operating activities ( 5,183) ( 2,042)
Investment activities:
Additions to equipment, furniture
and fixtures ( 2,018) ( 585)
Purchase of short-term investments ( 7,828) 3,686
Changes in other assets 112 1
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Net cash flows (used in) provided by
investing activities ( 9,734) 3,102
Financing activities:
Repayment of long-term debt (163) (4)
Proceeds from issuance of common stock 25,343 223
Earnings distributed (140) (23)
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Net cash flows provided by financing activities 25,040 196
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Net increase in cash and cash equivalents 10,123 1,256
Cash and cash equivalents at
beginning of period 2,457 2,828
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Cash and cash equivalents at
end of period $ 12,580 $ 4,084
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See accompanying notes
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DAOU SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation
The condensed consolidated financial statements of DAOU Systems, Inc. (the
"Company") at September 30, 1997 and for the three-month periods ended
September 30, 1997 and 1996 are unaudited. These financial statements
reflect all adjustments, consisting of only normal recurring adjustments
which in the opinion of management, are necessary to fairly present the
financial position at September 30, 1997 and the results of operations for
the three and nine-month periods ended September 30, 1997 and 1996. The
results of operations for the three or nine months ended September 30, 1997
are not necessarily indicative of the results to be expected for the year
ending December 31, 1997. For more complete financial information, these
financial statements should be read in conjunction with the audited financial
statements for the year ended December 31, 1996 included in the Company's
Form SB-2 filed with the Securities and Exchange Commission which became
effective August 15, 1997.
2. Net Income (Loss) Per Share
For periods subsequent to the completion of the Company's initial public
offering of common stock ("IPO") in February 1997, net income (loss) per share
is computed using the weighted average number of shares of common stock and
common stock equivalents outstanding during the periods presented. Common share
equivalents result from outstanding options and warrants to purchase common
stock. For loss periods, common share equivalents were not included in
computing net loss per share since the effect would have been antidilutive. For
periods prior to the IPO, net income (loss) per share is computed pursuant to
the requirements of the Securities and Exchange Commission which require that
common stock issued during the twelve months immediately preceding the IPO, plus
the number of equivalent shares of common stock granted or issued during the
same period, be included in the calculation of shares used in computing net
income (loss) per share as if these shares were outstanding for all periods
presented (using the treasury stock method and the assumed initial public
offering price). In addition, the calculation of the shares used in computing
net income (loss) per share also gives effect to the conversion and exchange of
the shares of preferred stock upon completion of the IPO using the if-converted
method from the original date of issuance.
In February 1997, the Financial Accounting Standards Board (FASB) issued
Statement of Financial Accounting Standards No. 128, Earnings per Share, which
supersedes APB Opinion 15. Statement No. 128 replaces the presentation of
primary EPS with "Basic EPS" which includes no dilution and is based on
weighted-average common shares outstanding for the period. Companies with
complex capital structures, including DAOU Systems, Inc., will also be required
to present "Diluted EPS" that reflects the potential dilution of securities like
employee stock options. Statement No. 128 is effective for financial statements
issued for periods ending after December 15, 1997. The Company has not yet
determined what the impact of Statement
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No. 128 will be on the calculation of earnings per share.
3. Mergers and Acquisitions
As previously reported on July 9, 1997, the Company acquired by merger, in
exchange for 700,000 shares of it's common stock all of the outstanding
shares of INTEGREX Systems Corporation. The transaction has been accounted
for as a pooling of interests. Final merger costs were $524,000, which are
included in the accompanying statements of operations.
On September 25, 1997, the Company exchanged 150,000 shares of it's common
stock for all of the outstanding shares of On-Line Networking, Inc.
(On-Line). The transaction has been accounted for as a pooling of interests.
On-Line is a provider of communication infrastructure services and like DAOU
Systems, Inc., is focused within the healthcare information technology
market. Merger costs are expected to approximate $160,000 and the Company
has charged such costs to the results of operations. The current period
income tax provision includes an adjustment of $426,000 due to conversion of
On-Line from the cash to the accrual basis of accounting following the merger.
Total revenues and net income (loss) of the Company, INTEGREX and On-Line for
the periods preceeding the merger were:
DAOU INTEGREX ON-LINE COMBINED
-------- -------- ------- --------
Nine Months ended September 30, 1996 (unaudited)
Total revenues $ 12,357 $ 3,439 $ 3,534 $ 19,330
Net income (loss) 17 374 192 583
Three months ended September 30, 1996 (unaudited)
Total revenues 4,827 1,329 887 7,043
Net income (loss) 72 217 (26) 263
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Results of Operations
The Company's revenues were $11.3 million and $7.0 million for the quarters
ended September 30, 1997 and 1996, respectively, representing an increase of
61%. This increase was due primarily to the increased number of
implementation contracts. Services to five customers accounted for $11.6
million for the nine months ended; representing 43% of total revenues of
which sales to Candler represented 12%. For the nine months ended September
30, 1997 and 1996, respectively, sales were $27.2 million and $19.3 million,
which represents an increase of 41%. This increase was primarily the result
of revenues from outsourcing and network management services.
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Cost of revenues was $7.8 million and $5.0 million for the quarters ended
September 30, 1997 and 1996, respectively, representing an increase of 56%.
Gross margin was 31% and 30% for the quarters ended September 30, 1997 and
1996, respectively. This increase in gross margin was primarily due to an
increase in the professional services portion of the Company's deliveries
during the quarter. Cost of revenues for the nine-month period ended
September 30, 1997 and 1996 were $18.9 and $13.8 million, respectively, which
is an increase of 37%. Gross margin for the nine months ended September 30,
1997 and 1996, was 31% and 29%, respectively. The increase in gross margin
for the nine-month period is primarily attributable to an increase in the
professional services portion of the Company's deliveries.
Sales and marketing expenses were $1.3 million and $572,000 for the quarters
ended September 30, 1997 and 1996, respectively, representing an increase of
135%. This increase was primarily due to the further implementation of a
regional sales structure, an increase in sales personnel and the expansion of
the Company's marketing programs. Sales and marketing expenses were 12% and
8% of revenues for the quarters ended September 30, 1997 and 1996,
respectively. For the nine-month periods ended September 30, 1997 and 1996,
sales and marketing expenses were $3.7 million and $1.4 million respectively,
representing 14% and 7% of revenues in those periods. The Company intends to
continue investing in its sales infrastructure and expects that sales and
marketing expenses will continue to increase in dollar terms to support the
anticipated growth in the Company's business.
General and administrative expenses were $1.4 million and $1.2 million for
the quarters ended September 30, 1997 and 1996, respectively, representing an
increase of 17%. The primary factors contributing to this increase were
costs associated with the integration of Integrex Systems Corporation and
other infrastructure requirements. General and administrative expenses were
13% and 18% of revenues for the quarters ended September 30, 1997 and 1996,
respectively. General and administrative expenses for the nine-month periods
ended September 30, 1997 and 1996 were $4.3 million and $3.6 million or 16%
and 19% of revenues, respectively. The Company expects some increase in
general and administrative expenses in dollar terms to support the
anticipated growth in the Company's business. As a percentage of revenues,
these expenses should decrease with the increase in revenue.
Net interest was $213,000 and $45,000 for the quarters ended September 30,
1997 and 1996, respectively. For the nine months ended September 1997 and
1996, respectively, net interest was $532,000 and $161,000. Interest income
consists of interest on cash and cash equivalents and short-term investments.
Interest expense in 1996 consisted of interest associated with the Company's
business line of credit and term financing of insurance premiums, but was not
significant during either period.
The current period income tax provision includes a deferred tax adjustment of
$426,000 resulting from the conversion of On-Line from the cash to the
accrual basis accounting following the merger.
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Liquidity and Capital Resources
At September 30, 1997, the Company had working capital of $31.7 million which
is up from the $8.9 million on December 31, 1996. The primary reason for the
increase was the successful completion of the Company's initial and secondary
offering of its common stock which raised $24.8 million, net of issuance
costs. The Company has an additional $1.5 million available under a revolving
line of credit. Advances under the revolving line of credit bear interest at
the bank's reference rate (currently 8.5%) plus 0.5% per annum. Through
September 30, 1997, there have been no borrowings under the revolving line of
credit, which expired October 1, 1997. This line of credit is secured by
substantially all of the assets of the Company and contains customary
covenants and restrictions. As of September 30, 1997, the Company was in
compliance with all such covenants and restrictions. For the nine months
ended September 30, 1997, cash used in operating activities was $5.2 million
which resulted primarily from an increase in the Company's investment in work
in process.
The Company believes that its present sources of liquidity will be sufficient
to finance operations for the foreseeable future and such sources of
liquidity may be used to fund additional acquisitions of complimentary
businesses, although the Company does not have any specific proposals,
arrangements or understandings with respect to any future acquisitions. The
Company may sell additional equity or debt securities or obtain additional
credit facilities. The sale of additional equity securities or issuance of
same in future acquisitions could result in additional dilution to the
Company's stockholders and the incurrence of debt could result in additional
interest expense.
Business Risks
In addition to the factors addressed in the preceding sections, certain dynamics
of the Company's markets and operations create fluctuations in the Company's
quarterly results. Uncertainty and cost containment in healthcare and
competitive conditions present certain other risks to operating results which
are more fully described in the Company's SB-2 filed with the Securities and
Exchange Commission (SEC) and other SEC filings. Except for the historical
information presented herein, the matters discussed in this document are
forward-looking statements that involve numerous risks and uncertainties. The
Company's actual results could differ materially from those projected in such
forward-looking statements and will depend upon a number of factors, including
those discussed in this document and in prior SEC filings, press releases and
other public filings of the Company.
PART II OTHER INFORMATION
1. Legal Proceedings
On February 25, 1997, Gary Colvin, an ex-employee of the Company filed a lawsuit
against the Company and certain of its officers and directors in the U.S.
District Court of the Southern District of California (Gary L. Colvin v. DAOU
Systems, et al.). In the complaint, the ex-
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employee alleges various claims related to his former employment with the
Company, including, among other claims, wrongful termination, breach of
contract, certain civil rights violations and claims of unpaid minimum wages
and unpaid overtime, and seeks damages in the aggregate amount of
approximately $30 million. The Company believes that the lawsuit is without
merit and intends to defend the lawsuit vigorously. There has been no change
in the status as of October 22, 1997.
6. Exhibits and Reports on Form 8-K
(a) Exhibits
EXHIBIT NO. DESCRIPTION
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27 Financial Data Schedule
(b) On July 9, 1997, a Form 8-K was filed to report that the Company
entered into an Agreement and Plan of Merger to exchange 700,000 shares of
the Company's common stock for all of the outstanding shares of INTEGREX
Systems Corporation. The merger was effective on July 9, 1997 and was
accounted for as a pooling of interests.
(c) On July 18, 1997, a Form 8-K reported the filing of the Merger
Agreement between the Company and INTEGREX Systems Corporation.
(d) On August 11, 1997, a Form 8-K was filed to report 30-days combined
results of Operations of the Company and INTEGREX Systems Corporation.
(e) On August 13, 1997, a Form 8-K/A was filed to present the audited
financial statements of INTEGREX Systems Corporation.
(f) On September 29, 1997, a Form 8-K was filed to report that the Company
entered into an Agreement and Plan of Merger to exchange 150,000 shares of
the Company's common stock for all the outstanding shares of On-Line
Networking, Inc. The merger was accounted for as a pooling of interests.
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SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
DAOU SYSTEMS, INC.
Date: October 22, 1997 By: /s/ DANIEL J. DAOU
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Daniel J. Daou
President
Date: October 22, 1997 By: /s/ FRED C. MCGEE
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Fred C. McGee
Chief Financial Officer
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<TABLE> <S> <C>
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<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
REGISTRANT'S FINANCIAL STATEMENTS AS OF AND FOR THE QUARTER ENDED SEPT. 30,
1997, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
</LEGEND>
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<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-START> JAN-01-1997
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<CASH> 12,580
<SECURITIES> 7,828
<RECEIVABLES> 6,463
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