UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 2016

 

OR

 

TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

FOR THE TRANSITION PERIOD FROM __________________ TO ______________________

 

COMMISSION FILE NUMBER: 000-32037

 

INTERCLOUD SYSTEMS, INC.
(Name of registrant as specified in its charter)

 

DELAWARE   65-0963722

(State or other jurisdiction of

incorporation or organization)

 

(I.R.S. Employer

Identification No.)

 

1030 BROAD STREET, SUITE 102,

SHREWSBURY, NJ

  07702
(Address of principal executive offices)   (Zip Code)

 

(561) 988-1988
(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒   No ☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☒   No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

 

Large accelerated filer Accelerated filer
Non-accelerated filer Smaller reporting company

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐   No ☒

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 65,991,089 shares of common stock were issued and outstanding as of November 7, 2016.

 

 

 

 

 

 

TABLE OF CONTENTS

 

    Page No.
  PART I. - FINANCIAL INFORMATION  
     
Item 1. Unaudited Condensed Consolidated Financial Statements. 1
     
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations. 45
     
Item 3. Quantitative and Qualitative Disclosures About Market Risk. 51
     
Item 4. Controls and Procedures. 51
     
  PART II. - OTHER INFORMATION  
     
Item 1. Legal Proceedings. 52
     
Item 1A. Risk Factors. 52
     
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds. 52
     
Item 3. Defaults Upon Senior Securities. 54
     
Item 4. Mine Safety Disclosures. 54
     
Item 5. Other Information. 54
     
Item 6. Exhibits. 54

 

 

 

 

FORWARD-LOOKING STATEMENTS

 

This report contains forward-looking statements. Forward-looking statements include all statements that do not directly or exclusively relate to historical facts. In some cases, you can identify forward-looking statements by terms such as “may,” “will,” “should,” “could,” “would,” “expects,” “plans,” “anticipates,” “believes,” “estimates,” “projects,” “forecasts,” “predicts,” “potential,” or the negative of those terms, and similar expressions and comparable terminology. These include, but are not limited to, statements relating to future events or our future financial and operating results, plans, objectives, expectations and intentions. Although we believe that the expectations reflected in these forward-looking statements are reasonable, these expectations may not be achieved. Forward-looking statements represent our intentions, plans, expectations, assumptions and beliefs about future events and are subject to known and unknown risks, uncertainties and other factors outside of our control that could cause our actual results, performance or achievements to differ materially from those expressed or implied by these forward-looking statements. Actual results may differ materially from those anticipated or implied in the forward-looking statements.

 

You should consider the areas of risk described in connection with any forward-looking statements that may be made herein. You should also consider carefully the statements under Item 1A. Risk Factors appearing in our Annual Report on Form 10-K for the year ended December 31, 2015, filed with the Securities and Exchange Commission on June 17, 2016, which address additional factors that could cause our actual results to differ from those set forth in the forward-looking statements. Such risks and uncertainties include:

 

  our ability to successfully execute our business strategies, including the acquisition of other businesses to grow our company and integration of recent and future acquisitions;
     
  changes in aggregate capital spending, cyclicality and other economic conditions, and domestic and international demand in the industries we serve;
     
  our ability to adopt and master new technologies and adjust certain fixed costs and expenses to adapt to our industry’s and customers’ evolving demands;
     
  our ability to obtain additional financing in sufficient amounts or on acceptable terms when required;
     
  our ability to adequately expand our sales force and attract and retain key personnel and skilled labor;
     
  shifts in geographic concentration of our customers, supplies and labor pools and seasonal fluctuations in demand for our services;
     
  our dependence on third-party subcontractors to perform some of the work on our contracts;
     
  our competitors developing the expertise, experience and resources to provide services that are equal or superior in both price and quality to our services;
     
  our material weaknesses in internal control over financial reporting and our ability to maintain effective controls over financial reporting in the future;
     
  our ability to comply with certain financial covenants of our debt obligations;
     
  the impact of new or changed laws, regulations or other industry standards that could adversely affect our ability to conduct our business;
     
  changes in general market, economic and political conditions in the United States and global economies or financial markets, including those resulting from natural or man-made disasters;
     
  we may incur goodwill and intangible asset impairment charges, which could harm our profitability; and
     
  our auditors have expressed doubt about our ability to continue as a going concern.

 

 

 

 

These forward-looking statements also should be considered in connection with any subsequent written or oral forward-looking statements that we or persons acting on our behalf may issue. All written and oral forward looking statements made in connection with this report that are attributable to our company or persons acting on our behalf are expressly qualified in their entirety by these cautionary statements. Given these uncertainties, you are cautioned not to place undue reliance on any forward-looking statements and you should carefully review this report in its entirety. These forward-looking statements speak only as of the date of this report, and you should not rely on these statements without also considering the risks and uncertainties associated with these statements and our business.

 

Except for our ongoing obligations to disclose material information under the Federal securities laws, we undertake no obligation to release publicly any revisions to any forward-looking statements, to report events or to report the occurrence of unanticipated events. We do not undertake any obligation to review or confirm analysts’ expectations or estimates or to release publicly any revisions to any forward-looking statements to reflect events or circumstances after the date of this report or to reflect the occurrence of unanticipated events, except as required by applicable law or regulation.

 

OTHER PERTINENT INFORMATION

 

Unless specifically set forth to the contrary, when used in this report the terms “we”, “our”, the “Company” and similar terms refer to InterCloud Systems, Inc., a Delaware corporation, and its consolidated subsidiaries.

 

The information that appears on our web site at www.InterCloudsys.com is not part of this report.

 

 

 

 

PART 1 - FINANCIAL INFORMATION

 

Item 1. Financial Statements.

 

INTERCLOUD SYSTEMS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)

 

   September 30,   December 31, 
  2016   2015 
    (Unaudited)   (Revised) 
ASSETS 
Current Assets:        
Cash  $2,622   $7,944 
Accounts receivable, net of allowances of $1,104 and $1,290, respectively   16,884    16,616 
Inventories, net   350    1,181 
Loans receivable   1,435    400 
Other current assets   6,368    2,321 
Current assets of discontinued operations   -    91 
Total current assets   27,659    28,553 
           
Property and equipment, net   620    659 
Goodwill   25,047    23,658 
Intangible assets, net   16,067    16,713 
Investment   777    800 
Other assets   247    96 
Non-current assets of discontinued operations   -    21,752 
Total assets  $70,417   $92,231 
LIABILITIES AND STOCKHOLDERS' DEFICIT 
Current Liabilities:          
Accounts payable  $11,897   $7,932 
Accrued expenses   12,470    10,787 
Deferred revenue   3,900    5,145 
Income taxes payable   

29

   653 
Bank debt, current portion   123    131 
Notes, related parties, current portion   10,371    11,103 
Contingent consideration   865    - 
Derivative financial instruments   1,287    408 
Term loans, current portion, net of debt discount   6,613    3,787 
Current liabilities of discontinued operations   -    5 
Total current liabilities   

47,555

    39,951 
           
Long-term Liabilities:          
Notes, related parties, net of current portion   8,820    8,183 
Deferred income taxes   

1,002

    909 
Term loans, net of current portion and debt discount   18,359    30,258 
Derivative financial instruments   3,094    17,130 
Total long-term liabilities   

31,275

    56,480 
           
Total liabilities   

78,830

    96,431 
           
Commitments and contingencies           
           
Stockholders' deficit:          
Common stock; $0.0001 par value; 500,000,000 shares authorized;  51,919,677 and 29,461,377 issued and 51,292,472 and 29,032,622 shares outstanding as of September 30, 2016 and December 31, 2015, respectively   5    3 
Common stock warrants; 190,609 warrants outstanding as of September 30, 2016 and December 31, 2015, no par   1,727    259 
Treasury stock; at cost; 627,205 and 428,755 shares as of September 30, 2016 and December 31, 2015, respectively   (1)   - 
Additional paid-in capital   

127,658

    117,706 
Accumulated deficit   

(138,156

)   (122,500)
Total InterCloud Systems, Inc. stockholders' deficit   

(8,767

)   (4,532)
Non-controlling interest   354    332 
Total stockholders' deficit   

(8,413

)   (4,200)
           
Total liabilities, non-controlling interest and stockholders’ deficit  $70,417   $92,231 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

1

 

INTERCLOUD SYSTEMS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)

(UNAUDITED)

 

   For the three months ended   For the nine months ended 
   September 30,   September 30, 
   2016   2015   2016   2015 
       (Restated)       (Restated) 
Service revenue  $17,192   $14,585   $52,663   $44,351 
Product revenue   2,361    3,034    7,113    11,065 
Total revenue   19,553    17,619    59,776    55,416 
Cost of revenue   13,940    12,755    44,530    41,089 
Gross profit   5,613    4,864    15,246    14,327 
                     
Operating expenses:                    
Depreciation and amortization   565    926    1,677    2,797 
Salaries and wages   5,088    4,017    13,399    17,378 
Selling, general and administrative   3,757    3,202    11,826    8,522 
Change in fair value of contingent consideration   -    (1,633)   -    (2,003)
Total operating expenses   9,410    6,512    26,902    26,694 
                     
Loss from operations   (3,797)   (1,648)   (11,656)   (12,367)
                     
Other income (expenses):                    
Change in fair value of derivative instruments   11,191    927    15,987    731 
Loss on settlement of contingent consideration   -    -    -    (205)
Interest expense   (2,833)   (2,054)   (10,966)   (7,009)
Gain (loss) on conversion of debt   68    (35)   416    (1,148)
(Loss) gain on extinguishment of debt   (1,630)   636    (9,442)   (2,324)
Gain (loss) on modification of debt   -    1    -    (2,991)
Loss on exchange of shares   -    -    -    (2,331)
Loss on investment in unconsolidated equity investment   (1)   -    (30)   - 
Other income (expenses), net   (927)   (2)   (244)   (73)
Total other income (expenses)   5,868    (527)   (4,279)   (15,350)
                     
Income (loss) from operations before benefit from income taxes   2,071    (2,175)   (15,935)   (27,717)
                     
Provision for (benefit from) income taxes   48    220    164    (1,004)
                     
Net income (loss) from continuing operations   2,023    (2,395)   (16,099)   (26,713)
                     
Net (loss) income on discontinued operations, net of tax   -    (496)   465    (858)
                     
Net income (loss)   2,023    (2,891)   (15,634)   (27,571)
                     
Net (income) loss attributable to non-controlling interest   44    17    (22)   (134)
                     
Net income (loss) attributable to InterCloud Systems, Inc. common stockholders  $2,067   $(2,874)  $(15,656)  $(27,705)
                     
Basic income (loss) per share attributable to InterCloud Systems, Inc. common stockholders:                    
Net income (loss) from continuing operations  $0.06   $(0.10)  $(0.49)  $(1.31)
Net income (loss) on discontinued operations, net of tax  $-   $(0.02)  $0.01   $(0.04)
Net income (loss) per share  $0.06   $(0.12)  $(0.48)  $(1.35)
                     
Diluted income (loss) per share attributable to InterCloud Systems, Inc. common stockholders:                    
Net income (loss) from continuing operations  $0.00   $(0.10)  $(0.49)  $(1.31)
Net income (loss) on discontinued operations, net of tax  $0.00   $(0.02)  $0.01   $(0.04)
Net income (loss) per share  $0.00   $(0.12)  $(0.48)  $(1.35)
                     
Basic weighted average common shares outstanding   37,012,538    23,431,871    32,778,597    20,529,686 
Diluted weighted average common shares outstanding   101,702,563    23,431,871    32,778,597    20,529,686 

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

2

 

 

INTERCLOUD SYSTEMS, INC.

CONDENSED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ DEFICIT

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)

(UNAUDITED)

 

           Common Stock           Additional       Non-     
   Common Stock   Warrants   Treasury Stock   Paid-in   Accumulated   Controlling     
   Shares   $   Shares   $   Shares   $   Capital   Deficit   Interest   Total 
                                         
Ending balance, December 31, 2015   29,032,622   $3    190,609   $259    428,755   $-   $117,706   $(122,500)  $332   $(4,200)
Issuance of shares of common stock to non-employees for services   553,903    -    -    -    -    -    189    -    -    189 
Issuance of shares pursuant to promissory notes   5,059,092    -    -    -    -    -    2,395    -    -    2,395 
Issuance of shares pursuant to Smithline convertible note   785,097    -    -    -    -    -    371    -    -    371 
Issuance of shares pursuant to Forward Investments, LLC promissory note conversions   5,684,578    1    -    -    -    -    1,482    -    -    1,483 
Issuance of common stock pursuant to payment of JGB (Cayman) Concord Ltd. Senior Secured Convertible Note   4,592,940    

1

    -    -    -    -    585    -    -    586 
Issuance of common stock upon conversion of related party debt   250,000    -    -    -    -    -    200    -    -    200 
Issuance of shares pursuant to bridge financing provision   500,000    -    -    -    -    -    320    -    -    320 
Issuance of shares pursuant to acquisition of assets of SDN Essentials, LLC   1,050,000    -    -    -    -    -    1,039    -    -    1,039 
Issuance  of shares pursuant to acquisition of 8760 Enterprises, Inc.   900,000    -    -    -    -    -    134    -    -    134 
Issuance of shares of common stock to employees for incentives earned   138,333    -    -    -    -    -    50    -    -    50 
Issuance of common stock to employees and directors for services   2,044,357    -    -    -    -    -    -    -    -    - 
Issuance of shares pursuant to loan covenants   900,000    -    -    -    -    -    828    -    -    828 
Stock compensation expense        -    -    -    -    -    2,359    -    -    2,359 
Purchase of treasury shares   (198,450)   -    -    -    198,450    (1)   -    -    -    (1)
Issuance of warrants issued upon settlement of accounts payable   -    -    -    460    -    -    -    -    -    460 
Issuance of warrants pursuant to JGB Concord and JGB Waltham amendment agreements   -    -    -    972    -    -    -    -    -    972 
Issuance of warrants pursuant to acquisition of 8760 Enterprises, Inc.   -    -    -    36    -    -    -    -    -    36 
Net income/(loss)   -    -    -    -    -    -    -    (15,656)   22    (15,634)
 Ending balance, September 30, 2016   51,292,472   $5    190,609   $1,727    627,205   $(1)  $

127,658

   $(138,156)  $354   $(8,413)

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

 

3

 

 

INTERCLOUD SYSTEMS, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(DOLLAR AMOUNTS IN THOUSANDS)

(UNAUDITED)

 

   For the nine months ended
September 30,
 
   2016   2015 
       (Restated) 
Cash flows from operating activities:        
Net loss  $(15,634)  $(27,571)
           

Adjustments to reconcile net loss to net cash used in operating activities:

          
(Income) loss from discontinued operations   (465)   858 
Depreciation and amortization   1,677    2,797 
Provision for bad debts   135    15 
Amortization of debt discount   5,340    3,950 
Loss on disposal of equipment   -    14 
Stock compensation for services   2,359    6,934 
Issuance of shares to non-employees for services   189    434 
Shares issued to third party   -    5 
Change in fair value of derivative instruments   (15,987)   (731)
Deferred income taxes   (35)   (1,131)
Loss on settlement of contingent consideration   -    205 
Change in fair value of contingent consideration   -    (2,003)
(Gain) loss on conversion of debt   (416)   1,148 
Loss on extinguishment of debt   9,442    2,324 
Loss on modification of debt   -    2,991 
Loss on exchange of shares   -    2,331 
Loss on investment in unconsolidated equity investment   23    - 
Changes in operating assets and liabilities:          
Accounts receivable   1,615    1,784 
Inventory   831    (823)
Other assets   (4,178)   586 
Accounts payable and accrued expenses   3,441    2,370 
Deferred revenue   (1,245)   (84)
Net cash used in operating activities of continuing operations   (12,908)   (3,597)
Net cash provided by operating activities of discontinued operations   413    1,591 
Net cash used in operating activities   (12,495)   (2,006)
           
Cash flows from investing activities:          
Purchases of equipment   (124)   (88)
Capitalization of software costs   -    (300)
Issuance of notes receivable   (1,035)   (703)
Cash received for acquired assets   112    - 
Net cash used in investing activities of continuing operations   (1,047)   (1,091)
Net cash provided by (used in) investing activities of discontinued operations   21,887    (611)
Net cash provided by (used in) investing activities   20,840    (1,702)
           
Cash flows from financing activities:          
Repayments of bank borrowings   (8)   (171)
Proceeds from notes and loans payable   495    5,006 
Repayments of notes and loans payable   (14,154)   (2,715)
Repayment of related party borrowings   -    (25)
Net cash (used in) provided by financing activities   (13,667)   2,095 
           
Net change in cash  $(5,322)  $(1,613)
           
Cash, beginning of period   7,944    5,470 
           
Cash, end of period  $2,622   $3,857 
           
Supplemental disclosures of cash flow information:          
Cash paid for interest  $3,011   $1,711 
Cash paid for income taxes  $125   $177 
           
Non-cash investing and financing activities:          
Issuance of shares pursuant to conversion of debt  $5,035   $5,560 
Issuance of shares pursuant to modification of debt  $-   $921 
Issuance of shares pursuant to extinguishment of debt  $-   $1,085 
Issuance of shares pursuant to restructuring of debt  $-   $292 
Issuance of shares upon conversion of related party debt  $-   $1,334 
Issuance of shares pursuant to acquisition  $1,173   $- 
Additional note payable issued as part of related party debt modification  $-   $1,728 
Addition to debt discount  $2,941   $7,020 
Conversion of accrued interest to note payable  $-   $450 
Issuance of shares for earn out provisions related to prior year acquisitions  $-   $1,457 
Issuance of shares for settlement of interest  $-   $343 
Issuance of warrants for settlement of accounts payable  $460   $674 
Issuance of warrants pursuant to bridge financing agreement  $-   $1,276 
Issuance of warrants pursuant to JGB Waltham and JGB Concord amendment  $972   $- 
Issuance of warrants pursuant to acquisition  $36    - 
Issuance of shares for payout of incentives earned  $50   $288 
Issuance of shares in lieu of cash compensation  $189   $- 
Issuance of shares pursuant to loan covenants  $828   $- 
Issuance of shares pursuant to bridge financing agreement  $320   $0 

 

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

 

4

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

 

Overview

 

InterCloud Systems, Inc. (the “Company”) was incorporated on November 22, 1999 under the laws of the State of Delaware and is a provider of cloud networking orchestration and automation for software-defined networking and network function virtualization cloud environments to the telecommunications service provider and corporate enterprise markets through cloud solutions and professional services. The Company’s cloud solutions offer enterprise and service-provider customers the opportunity to adopt an operational expense model by outsourcing cloud deployment and management rather than the capital expense model that has dominated in recent decades in IT infrastructure management. The Company’s professional services group offers a broad range of solutions to enterprise and service provider customers, including application development teams, analytics, project management, program management, unified communications, network management and field support services on a short and long-term basis. The Company’s applications and infrastructure division offers enterprise and service provider customers specialty contracting services, including engineering, design, installation and maintenance services, that support the build-out and operation of some of the most advanced small cell, Wi-Fi and distributed antenna system networks.

 

Principles of Consolidation and Accounting for Investments in Affiliate Companies

 

The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles in the United States (“GAAP”). The unaudited condensed consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries, which include Tropical Communications, Inc. (“Tropical”) (since August 2011), Rives-Monteiro Leasing, LLC (“RM Leasing”) (since December 2011), ADEX Corporation, ADEX Puerto Rico, LLC and HighWire (collectively, “ADEX” or “ADEX Entities”) (since September 2012), TNS, Inc. (“TNS”) (since September 2012), AW Solutions, Inc. and AW Solutions Puerto Rico, LLC (collectively, the “AWS Entities”) (since April 2013), Integration Partners – NY Corporation (“IPC”) (since January 2014), RentVM Inc. (“RentVM”) (since February 2014), and SDN Essentials, LLC (“SDN”) (since January 2016). The results of operations of the Company’s former subsidiaries, VaultLogix, LLC (“VaultLogix”) (since October 2014) and PCS Holding LLC (“Axim”) (since December 2014), have been included as discontinued operations on the accompanying financial statements. In February 2016, the Company consummated the sale of certain assets of VaultLogix and in April 2016, the Company consummated the sale of all assets of Axim (see Note 14, Discontinued Operations). All significant intercompany accounts and transactions have been eliminated in consolidation.

 

In September 2016, the Company’s subsidiary, AW Solutions, Inc., acquired the assets of 8760 Enterprises, Inc. (“8760 Enterprises”), a comprehensive facility performance monitoring company that offers a management suite that controls building automation and energy functions though an integrated platform.

 

The Company consolidates all entities in which it has a controlling voting interest or a variable interest in a variable interest entity (“VIE”) in which the Company is deemed to be the primary beneficiary.

 

The unaudited condensed consolidated financial statements include the accounts of Rives-Montiero Engineering, LLC ("RM Engineering") (since December 2011), in which the Company owns an interest of 49%. The Company has the ability to exercise its call option to acquire the remaining 51% of RM Engineering for a nominal amount and thus makes all significant decisions related to RM Engineering even though it absorbs only 49% of the losses. Additionally, substantially all of the entity’s activities either involve or are conducted on behalf of the entity by the 51% holder of RM Engineering.

 

The unaudited condensed consolidated financial statements include the accounts of Nottingham Enterprises LLC (“Nottingham”), in which the Company owns an interest of 40%. Nottingham is a VIE because it meets the following criteria: (i) the entity has insufficient equity to finance its activities without additional subordinated financial support from other parties and the 60% owner guarantees its debt, (ii) the voting rights of some investors are not proportional to their obligations to absorb the expected losses of the legal entity, and (iii) substantially all of the legal entity’s activities either involve or are conducted on behalf of an investor that has disproportionately few voting rights. The Company has the ability to exercise its call option to acquire the remaining 60% of Nottingham for a nominal amount and thus makes all significant decisions related to Nottingham even though it absorbs only 40% of the losses. Additionally, substantially all of the entity’s activities either involve or are conducted on behalf of the entity by the 60% holder of Nottingham.

  

The unaudited condensed consolidated financial statements include the Company’s 13.7% ownership interest in NGNWare, LLC (“NGNWare”). The Company does not hold a controlling financial interest in NGNWare but has the ability to exercise significant influence over the operating and financial policies of NGNWare. As such, the Company accounts for its investment in NGNWare under the equity method of accounting.

 

The unaudited condensed consolidated financial statements reflect all adjustments, consisting of normal recurring accruals, which are, in the opinion of management, necessary for a fair presentation of such statements. These unaudited condensed consolidated financial statements have been prepared in accordance with GAAP pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Additionally, the results of operations for the three and nine months ended September 30, 2016 are not necessarily indicative of the results that may be expected for the entire year.

 

5

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

Restatement of Previously Issued Consolidated Financial Statements

 

As disclosed in the Company’s Annual Report on Form 10-K for the year ended December 31, 2015 and on the Company’s Form 10-Q/A for the quarter ended September 30, 2015, the Company has restated the unaudited consolidated financial statements as of and for three and nine month periods ended September 30, 2015 to correct misstatements primarily related to the following matters:

 

(i) The Company determined that maintenance pass-through revenue within the Company’s Integration Partners – NY Corporation subsidiary was presented on the gross amount billed to customers.  Based on the year-end 2015 audit, the revenue associated with maintenance contracts associated with these customers should have been presented on the net amount retained. An entry was recorded related to this audit finding during the third quarter of 2015.  As a result, the Company decreased service revenues by $1.4 million and the associated cost of revenue for the three and nine months ended September 30, 2015;

 

(ii) The Company identified an error related to a customer payment received in the second quarter of 2015. This amount was properly recorded as deferred revenue in the second quarter; however, the revenue and cost of revenue associated with that transaction were not properly recognized during the third quarter of 2015, which resulted in an understatement of product revenue in the amount of $0.7 million, cost of revenue in the amount of $0.2 million and gross profit in the amount of $0.5 million for the third quarter of 2015. This error also resulted in an overstatement of liabilities of $0.2 million at September 30, 2015;

 

(iii) The Company identified an error related to the cost of inventory items sold during the third quarter of 2015, which resulted in an understatement of cost of revenue by $0.9 million and an overstatement of inventory by such amount during the third quarter ended September 30, 2015; and

 

(iv) The Company determined that it did not retain adequate documentation to support the usage of the percentage of completion method of accounting for certain contracts within the AWS Entities. As such, the Company reversed revenues and related cost of sales that were recorded during the third quarter of 2015 using the percentage of completion method of accounting, which resulted in a decrease in service revenues of $0.8 million and a related decrease in accounts receivable by such amount during the quarter ended September 30, 2015.  In addition, the adjustments also reduced cost of revenue by $0.6 million during such period and caused a related increase in deferred job costs that were included in other current assets on the unaudited condensed consolidated balance sheet as of September 30, 2015.

 

These unaudited condensed consolidated financial statements include the impact of the restatement on the comparative unaudited consolidated quarterly financial information for the three and nine months ended and as of September 30, 2015. Accordingly, these unaudited condensed consolidated financial statements should be read in conjunction with the Company’s unaudited condensed consolidated financial statements for the three and nine months quarter and as of September 30, 2015, included in the Company’s amended Quarterly Report on Form 10-Q for the period ended September 30, 2015, filed with the SEC on June 17, 2016; and the Company’s audited consolidated financial statements for the year ended December 31, 2015 included in the Company’s Annual Report on Form 10-K, filed with the SEC on June 17, 2016.

 

Business Combinations

 

The Company accounts for its business combinations under the provisions of Accounting Standards Codification ("ASC") Topic 805-10, Business Combinations ("ASC 805-10"), which requires that the purchase method of accounting be used for all business combinations. Assets acquired and liabilities assumed, including non-controlling interests, are recorded at the date of acquisition at their respective fair values. ASC 805-10 also specifies criteria that intangible assets acquired in a business combination must meet to be recognized and reported apart from goodwill. Goodwill represents the excess purchase price over the fair value of the tangible net assets and intangible assets acquired in a business combination. Acquisition-related expenses are recognized separately from the business combinations and are expensed as incurred. If the business combination provides for contingent consideration, the Company records the contingent consideration at fair value at the acquisition date and any changes in fair value after the acquisition date are accounted for as measurement-period adjustments if they pertain to additional information about facts and circumstances that existed at the acquisition date and that the Company obtained during the measurement period. Changes in fair value of contingent consideration resulting from events after the acquisition date, such as earn-outs, are recognized as follows: 1) if the contingent consideration is classified as equity, the contingent consideration is not re-measured and its subsequent settlement is accounted for within equity, or 2) if the contingent consideration is classified as a liability, the changes in fair value are recognized in earnings.

 

The estimated fair value of net assets acquired, including the allocation of the fair value to identifiable assets and liabilities, was determined using Level 3 inputs in the fair value hierarchy (see Fair Value of Financial Instruments below). The estimated fair value of the net assets acquired was determined using the income approach to valuation based on the discounted cash flow method. Under this method, expected future cash flows of the business on a stand-alone basis are discounted back to a present value. The estimated fair value of identifiable intangible assets, consisting of customer relationships, the trade names and non-compete agreements acquired, also were determined using an income approach to valuation based on excess cash flow, relief of royalty and discounted cash flow methods.

 

The discounted cash flow valuation method requires the use of assumptions, the most significant of which include: future revenue growth, future earnings before interest, taxes, depreciation and amortization, estimated synergies to be achieved by a market participant because of the business combination, marginal tax rate, terminal value growth rate, weighted average cost of capital and discount rate.

 

6

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

The excess earnings method used to value customer relationships requires the use of assumptions, the most significant of which include: the remaining useful life, expected revenue, survivor curve, earnings before interest and tax margins, marginal tax rate, contributory asset charges, discount rate and tax amortization benefit.

 

The most significant assumptions under the relief of royalty method used to value trade names include: estimated remaining useful life, expected revenue, royalty rate, tax rate, discount rate and tax amortization benefit. The discounted cash flow method used to value non-compete agreements includes assumptions such as: expected revenue, term of the non-compete agreements, probability and ability to compete, operating margin, tax rate and discount rate. Management, with the assistance of a third-party valuation specialist, has developed these assumptions based on historical knowledge of the business and projected financial information of the Company. These assumptions may vary based on future events, perceptions of different market participants and other factors outside the control of management, and such variations may be significant to estimated values.

 

Segment Information

 

The Company operates in three operating segments – as an applications and infrastructure provider, as a professional services provider, and as a managed services provider. The applications and infrastructure segment provides engineering and professional consulting services and voice, data and optical solutions. The engineering, design, installation and maintenance services of the applications and infrastructure segment support the build-out and operation of enterprise, fiber optic, Ethernet and wireless networks. The professional services segment provides outsourced services to the wireless and wireline industry and information technology industry. The managed services segment provides hardware and software products to customers and provides maintenance and support for those products.

  

The Company’s reporting units have been aggregated into one of three operating segments due to their similar economic characteristics, products, or production and distribution methods. The first operating segment is applications and infrastructure, which is comprised of the components TNS, the AWS Entities, Tropical, RM Leasing, and RM Engineering. The Company’s second operating segment is professional services, which consists of the ADEX Entities and SDN. The Company’s third operating segment is managed services, which consists of the IPC, RentVM and Nottingham components. The operating segments mentioned above constitute reporting segments.

 

During 2016, the Company consummated the sale of certain assets of its former VaultLogix and Axim subsidiaries. These subsidiaries comprised the Company’s former cloud services segment. The cloud services segment provided cloud computing and storage services to customers.

 

Revenue Recognition

 

The Company’s revenues are generated from its three reportable segments: applications and infrastructure, professional services, and managed services. The Company recognizes revenue on arrangements in accordance with ASC Topic 605-10, Revenue Recognition. The Company recognizes revenue only when the price is fixed or determinable, persuasive evidence of an arrangement exists, the service is performed, and collectability of the resulting receivable is reasonably assured.

 

The applications and infrastructure segment revenues are derived from contracts to provide technical engineering services along with contracting services to commercial and governmental customers. The contracts of TNS, Tropical and RM Engineering provide that payment for the Company’s services may be based on either direct labor hours at fixed hourly rates or fixed-price contracts. The services provided under the contracts are generally provided within one month. Occasionally, the services may be provided over a period of up to six months.

  

The AWS Entities generally recognize revenue using the percentage of completion method. Revenues and fees under the contracts of these entities were recognized utilizing the units-of-delivery method, which used measures such as task completion within an overall contract. The units-of-delivery approach is an output method used in situations where it is more representative of progress on a contract than an input method, such as the efforts-expended approach. Provisions for estimated losses on uncompleted contracts, if any, are made in the period in which such losses are determined. Changes in job performance conditions and final contract settlements may result in revisions to costs and income, which are recognized in the period in which revisions are determined.

 

The AWS Entities also generate revenue from service contracts with certain customers. These contracts are accounted for under the proportional performance method. Under this method, revenue is recognized in proportion to the value provided to the customer for each project as of each reporting date.

 

The revenues of the Company’s professional services segment, which is comprised of the ADEX Entities and SDN, are derived from contracted services to provide technical engineering and management solutions to large voice and data communications providers, as specified by their clients. The contracts provide that payments made for the Company’s services may be based on either direct labor hours at fixed hourly rates or fixed-price contracts. The services provided under these contracts are generally provided within one month. Occasionally, the services may be provided over a period of up to four months. If it is anticipated that the services will span a period exceeding one month, depending on the contract terms, the Company will provide either progress billing at least once a month or upon completion of the clients’ specifications. The aggregate amount of unbilled work-in-progress recognized as revenues was insignificant at September 30, 2016 and 2015.

 

7

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

ADEX’s HighWire division generates revenue through its telecommunications engineering group, which contracts with telecommunications infrastructure manufacturers to install the manufacturer’s products for end users. The High Wire division recognizes revenue using the proportional performance method. Management judgments and estimates must be made and used in connection with revenue recognized using the proportional performance method. If management made different judgments and estimates, then the amount and timing of revenue for any period could differ materially from the reported revenue.

 

The Company’s TNS and IPC subsidiaries, as well as ADEX’s HighWire division, sometimes require customers to provide a deposit prior to beginning work on a project. When this occurs, the deposit is recorded as deferred revenue and is recognized in revenue when the work is complete.

  

The Company’s IPC subsidiary, which is included in the Company’s managed services segment, is a value-added reseller that generates revenues from the resale of voice, video and data networking hardware and software contracted services for design, implementation and maintenance services for voice, video, and data networking infrastructure. IPC’s customers are higher education organizations, governmental agencies and commercial customers. IPC also provides maintenance and support and professional services. For certain maintenance contracts, IPC assumes responsibility for fulfilling the support to customers and recognizes the associated revenue either on a ratable basis over the life of the contract or, if a customer purchases a time and materials maintenance program, as maintenance is provided to the customer.  Revenue for the sale of third-party maintenance contracts is recognized net of the related cost of revenue.  In a maintenance contract, all services are provided by the Company’s third-party providers. As a result, the Company concluded that IPC is acting as an agent and IPC recognizes revenue on a net basis at the date of sale with revenue being equal to the gross margin on the transaction.  As IPC is under no obligation to perform additional services, revenue is recognized at the time of sale rather than over the life of the maintenance agreement.

 

IPC also generates revenue through the sale of a subscription-based cloud services to its customers. Revenue related to these customers is deferred until the services are performed.

 

For multiple-element arrangements, IPC recognizes revenue in accordance with ASC Topic 605-25, Arrangements with Multiple Deliverables. The Company allocates revenue for such arrangements based on the relative selling prices of the elements applying the following hierarchy: first vendor specific objective evidence (“VSOE”), then third-party evidence (“TPE”) of selling price if VSOE is not available, and finally the Company’s estimate of the selling price if neither VSOE nor TPE is available. VSOE exists when the Company sells the deliverables separately and represents the actual price charged by the Company for each deliverable. Estimated selling price reflects the Company’s best estimate of what the selling prices of each deliverable would be if it were sold regularly on a stand-alone basis taking into consideration the cost structure of the Company’s business, technical skill required, customer location and other market conditions. Each element that has stand-alone value is accounted for as a separate unit of accounting. Revenue allocated to each unit of accounting is recognized when the service is provided or the product is delivered. 

 

The Company’s former VaultLogix subsidiary, which was included in the Company’s former cloud services segment, provided on-line data backup services to its customers. Revenue for these customers was deferred until the services were performed.

 

Inventory

 

The inventory balance at September 30, 2016 and December 31, 2015 related to the Company’s IPC subsidiary. IPC purchases inventory for resale to customers and records it at the lower of cost or market until sold. As inventory relates to specific customer orders, the Company determines the cost of the inventory using the specific identification method. Inventory consisted of networking equipment for which title had not passed to customers as of September 30, 2016 and December 31, 2015.

 

Goodwill and Indefinite Lived Intangible Assets

 

Goodwill was generated through the acquisitions made by the Company. As the total consideration paid exceeded the value of the net assets acquired, the Company recorded goodwill for each of the completed acquisitions. At the date of acquisition, the Company performed a valuation to determine the value of the intangible assets, along with the allocation of assets and liabilities acquired. The goodwill is attributable to synergies and economies of scale provided to the Company by the acquired entity.

 

The Company tests its goodwill and indefinite-lived intangible assets for impairment at least annually (as of October 1) and whenever events or circumstances change that indicate impairment may have occurred. A significant amount of judgment is involved in determining if an indicator of impairment has occurred. Such indicators may include, among others: a significant decline in the Company’s expected future cash flows; a sustained, significant decline in the Company’s stock price and market capitalization; a significant adverse change in legal factors or in the business climate of the Company’s segments; unanticipated competition; and slower growth rates. Any adverse change in these factors could have a significant impact on the recoverability of goodwill, the indefinite-lived intangible assets and the Company’s consolidated financial results.

 

8

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

During 2015, indicators of potential impairment of goodwill and indefinite-lived intangible assets were identified by management in the managed services segment. The Company's management then determined that the IPC reporting unit assets were impaired and recognized an impairment loss as of December 31, 2015 related to intangible assets as the carrying value of the IPC reporting unit was in excess of its fair value. If IPC’s projected long-term sales growth rate, profit margins or terminal rate continue to change, or the assumed weighted-average cost of capital is considerably higher, future testing may indicate additional impairment in this reporting unit and, as a result, the remaining assets may also be impaired.

 

During 2015, indicators of potential impairment of goodwill and indefinite-lived intangible assets were identified by management in the Company’s former cloud services segment. The Company's management then determined that the Axim operating segment assets were impaired and recognized an impairment loss as of December 31, 2015 related to intangible assets as the carrying value of the Axim reporting unit was in excess of its fair value. If Axim’s projected long-term sales growth rate, profit margins or terminal rate continue to change, or the assumed weighted-average cost of capital is considerably higher, future testing may indicate additional impairment in this reporting unit and, as a result, the remaining assets may also be impaired.

 

During December 2015, the Company entered into a letter of intent with a third-party to sell VaultLogix and its two subsidiaries, which were included in the Company’s former cloud services segment. The agreement was executed and the sale was consummated in February 2016. The Company’s management assessed the carrying amounts of the assets and liabilities of VaultLogix and its subsidiaries as compared to the selling price and determined that an impairment existed as of December 31, 2015. The Company recognized an impairment loss as of December 31, 2015, as the carrying value of the VaultLogix business unit was in excess of the amount for which it was sold in an arm’s-length transaction. 

 

As of September 30, 2016, the Company did not identify any indicators of impairment.

 

Commitments and Contingencies

 

In the normal course of business, the Company is subject to various contingencies. The Company records any contingencies in the consolidated financial statements when it is probable that a liability will be incurred and the amount of the loss is reasonably estimable, or otherwise disclosed, in accordance with ASC Topic 450, Contingencies ("ASC Topic 450"). Significant judgment is required in both the determination of probability and the determination as to whether a loss is reasonably estimable. In the event the Company determines that a loss is not probable, but is reasonably possible, and it becomes possible to develop what the Company believes to be a reasonable range of possible loss, then the Company will include disclosures related to such matter as appropriate and in compliance with ASC Topic 450. To the extent there is a reasonable possibility that the losses could exceed the amounts already accrued, the Company will, when applicable, adjust the accrual in the period in which the determination is made, disclose an estimate of the additional loss or range of loss, indicate that the estimate is immaterial with respect to its financial statements as a whole or, if the amount of such adjustment cannot be reasonably estimated, disclose that an estimate cannot be made.

 

Purported Class Action Suit

 

In March 2014, a complaint entitled In re InterCloud Systems Sec. Litigation, Case No. 3:14-cv-01982 (D.N.J.) was filed in the United States District Court for the District of New Jersey against the Company, the Company’s Chairman of the Board and Chief Executive Officer, Mark Munro, The DreamTeamGroup and MissionIR, as purported securities advertisers and investor relations firms, and John Mylant, a purported investor and investment advisor. The complaint was purportedly filed on behalf of a class of certain persons who purchased the Company’s common stock between November 5, 2013 and March 17, 2014. The complaint alleged violations by the defendants (other than Mark Munro) of Section 10(b) of the Exchange Act, and other related provisions in connection with certain alleged courses of conduct that were intended to deceive the plaintiff and the investing public and to cause the members of the purported class to purchase shares of the Company’s common stock at artificially inflated prices based on untrue statements of a material fact or omissions to state material facts necessary to make the statements not misleading. The complaint also alleged that Mr. Munro and the Company violated Section 20 of the Exchange Act as controlling persons of the other defendants. The complaint seeks unspecified damages, attorney and expert fees, and other unspecified litigation costs.

 

Derivative Actions

 

In January 2016, a derivative complaint entitled Michael E. Sloan, derivatively and on behalf of InterCloud Systems, Inc. v. Mark Munro, Mark F. Durfee, Charles K. Miller, Neal Oristano, Daniel J. Sullivan, Roger M. Ponder, Lawrence M. Sands, Frank Jadevaia, and Scott Davis, Defendants, and InterCloud Systems, Inc., Nominal Defendant, Case No. 11878 (DE Chancery) was filed in the Delaware Chancery Court. This action arises out of the same conduct at issue in the purported class action lawsuit. In the complaint, nominal plaintiff alleges that the individual defendants breached their fiduciary duty as directors and officers, abused control, grossly mismanaged, and unjustly enriched themselves by having knowingly hired a stock promotion firm that caused analyst reports to be disseminated that falsely stated they were not paid for by such stock promotion firm and the Company, and were written on behalf of the Company for the purpose of promoting the Company and driving up its stock price. Plaintiffs seek unspecified damages, amendments to the Company’s articles of incorporation and by-laws, disgorgement from the individual defendants and costs and disbursements in the action.

 

9

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

In June 2016, a derivative complaint entitled Wasseem Hamdan, derivatively and on behalf of InterCloud Systems, Inc. v. Mark Munro, Mark F. Durfee, Charles K. Miller, Neal Oristano, and Roger M. Ponder, Defendants, and InterCloud Systems, Inc., Nominal Defendant, Case No.: 3:16-cv-03706 (D.N.J.) was filed in the New Jersey Federal District Court. This action arises out of the same conduct at issue in the purported class action lawsuit. In the complaint, nominal plaintiff alleges that the individual defendants breached their fiduciary duty as directors and officers, grossly mismanaged, and unjustly enriched themselves during the relevant period (December 2013 to the present) by having knowingly hired a stock promotion firm that caused analyst reports to be disseminated that falsely stated they were not paid for by such stock promotion firm and the Company, and were written on behalf of the Company for the purpose of promoting the Company and driving up its stock price. Plaintiffs seek unspecified damages, amendments to the Company’s articles of incorporation and by-laws, disgorgement from the individual defendants and costs and disbursements in the action.

 

In July 2016, a derivative complaint entitled John Scrutchens, derivatively and on behalf of InterCloud Systems, Inc. v. Mark E. Munro, Mark F. Durfee, Charles K. Miller, Neal Oristano, and Roger Ponder, Defendants, and InterCloud Systems, Inc., Nominal Defendant, Case No.: 3:16-CV-04207-FLW-DEA (D.N.J.) was filed in the United States Federal District Court for the District of New Jersey. This action arises out of the same conduct at issue in the purported class action lawsuit filed against the Company. In the complaint, nominal plaintiff alleges that the individual defendants violated Section 14(a) of the Securities Exchange Act of 1934, as amended, and Rule 14a-9 promulgated thereunder because in exercising reasonable care as directors of the Company, the defendants knew or should have known that statements contained in the Company’s proxy statements for the Company’s annual stockholders’ meetings held in 2013 and 2014 were false and misleading in that such proxy statements (i) omitted material information regarding, among other wrongdoings, the purported wrongdoings of the defendants that generally are at issue in the purported class action lawsuit filed against the Company and the other derivative actions filed against the defendants, and (ii) included by reference materially false and misleading financial statements.  Plaintiffs seek unspecified damages, amendments to the Company’s corporate governance and internal procedures to comply with applicable laws and to protect the Company and its stockholders from a repeat of the purported wrongdoings of the defendants, punitive damages from the individual defendants, disgorgement from the individual defendants and costs and disbursements in the action.

 

Securities and Exchange Commission Subpoenas

 

On May 21, 2014, the Company received a subpoena from the SEC that stated that the staff of the SEC is conducting an investigation In the Matter of Galena Biopharma, Inc. File No. HO 12356 (now known as “In the Matter of Certain Stock Promotions”) and that the subpoena was issued to the Company as part of an investigation as to whether certain investor relations firms and their clients engaged in market manipulation. The subpoena and accompanying letter did not indicate whether the Company is, or is not, under investigation. Since May 2014, the Company provided testimony to the SEC and produced documents in response to that subpoena and several additional subpoenas received from the SEC in connection with that matter, including a subpoena issued on March 1, 2016 requesting information relating to a transaction involving the Company’s Series H preferred shares in December 2013.

 

In connection with the SEC investigation, in May 2015, the Company received information from the SEC that it is continuing an investigation of the Company and certain of its current and former officers, consultants of the Company and others, of “possible violation[s]” of Section 17(a) of the Securities Act of 1933, as amended, and Sections 9(a) and 10(b) of the Securities Exchange Act of 1934, as amended, and the rules of the SEC thereunder in the offer or sale of securities and certain other matters with respect to which the SEC claims it has information, including the possible market manipulation of the Company’s securities dating back to January 2013. Based upon the Company’s internal investigations, the Company does not believe either the Company or any of its current or former officers or directors engaged in any activities that violated applicable securities laws. The Company intends to continue to work with the staff of the SEC towards a resolution and to supplement the Company’s disclosure regarding the SEC’s investigation accordingly.

 

The Company is unaware of the scope or timing of the SEC’s investigation. As a result, the Company does not know how the SEC investigation is proceeding, when the investigation will be concluded, or what action, if any, might be taken in the future by the SEC or its staff as a result of the matters that are the subject of its investigation. The Company is seeking to cooperate with the SEC in its investigation.

 

Breach of Contract Action

 

In July 2013, a complaint was filed against the Company in the Circuit Court of the 15th Judicial Circuit in and for Palm Beach County, Florida titled The Farkas Group, Inc., The Atlas Group of Companies, LLC and Michael D. Farkas v. InterCloud Systems, Inc. (Case No. 502013CA01133XXXMB) for breach of contract and unjust enrichment.  In the complaint, the plaintiffs allege that the Company has breached contractual agreements between the Company and plaintiffs pertaining to certain indebtedness amounting to approximately $116,000 allegedly owed by the Company to the plaintiffs and the Company’s agreement to convert such indebtedness into shares of the Company’s common stock.  The Company has asserted as a defense that such indebtedness, together with any right to convert such indebtedness into shares of common stock, was cancelled pursuant to the terms of a Stock Purchase Agreement dated as of July 2, 2009 between the Company and the plaintiffs. The Farkas Group was a control person of the Company during the period that it was a public “shell” company, and facilitated the transfer of control of the Company to its former chief executive officer, Gideon Taylor. 

 

10

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

As of September 30, 2016, no accruals for loss contingencies have been recorded as the outcomes of these cases are neither probable or reasonably estimable.

 

The Company has obligations contingent on the performance of its subsidiaries. These contingent obligations, payable to the former owners of the subsidiaries, are based on metrics that contain escalation clauses. The Company believes that the amounts recorded within the liabilities section of the consolidated balance sheets are indicative of fair value and are also considered the most likely payout of these obligations. If conditions were to change, these liabilities could potentially impact the Company’s results of operations, financial condition and future cash flows.

 

Stock-Based Compensation

 

The Company accounts for stock-based compensation in accordance with ASC Topic 718, Compensation-Stock Compensation ("ASC Topic 718"). Under the fair value recognition provisions of this topic, stock-based compensation cost is measured at the grant date based on the fair value of the award and is recognized as an expense on a straight-line basis over the requisite service period, based on the terms of the awards.

 

Net Income (Loss) Per Share

 

The Company follows ASC Topic 260, Earnings Per Share, which requires presentation of basic and diluted earnings per share (“EPS”) on the face of the income statement for all entities with complex capital structures, and requires a reconciliation of the numerator and denominator of the basic EPS computation to the numerator and denominator of the diluted EPS computation.

 

In the accompanying financial statements, basic income (loss) per share is computed by dividing net income (loss) by the weighted average number of shares of common stock outstanding during the period.

 

Diluted income (loss) per share is computed in a manner similar to the basic income (loss) per share, except the weighted-average number of shares outstanding is increased to include all common shares, including those with the potential to be issued by virtue of warrants, options, convertible debt and other such convertible instruments. Diluted loss per share contemplates a complete conversion to common shares of all convertible instruments only if they are dilutive in nature with regards to earnings per share.

 

The following sets forth the computation of diluted EPS for the three months ended September 30, 2016:

 

   Three months ended September 30, 2016 
   Net income (Numerator)   Shares (Denominator)   Per Share Amount 
Basic EPS  $2,067    37,012,538   $0.06 
Change in fair value of derivative instruments   (4,700)   -    - 
Loss on conversion, modification and extinguishment of debt   1,464    -    - 
Interest expense and debt discounts related to convertible instruments   1,326    -    - 
Dilutive shares related to JGB Concord and JGB Waltham convertible notes   -    64,690,025    - 
Dilutive EPS  $157    101,702,563   $0.00 

 

Potential common shares includable in the computation of fully-diluted per share results are not presented for the nine months ended September 30, 2016 and the three or nine months ended September 30, 2015, respectively, in the unaudited condensed consolidated financial statements as their effect would be anti-dilutive.

 

The anti-dilutive shares of common stock outstanding for the three and nine months ended September 30, 2016 and 2015 were as follows:

 

   For the three months ended   For the nine months ended 
   September 30,   September 30, 
   2016   2015   2016   2015 
                 
Warrants   8,833,712    1,025,000    8,833,712    1,025,000 
Options   175,000    175,000    175,000    175,000 
Convertible notes   4,014,197    1,845,789    67,342,661    1,947,141 
Convertible debenture   12,533,818    10,153,830    12,533,818    10,153,830 
    21,542,530    13,199,619    88,885,191    13,300,971 

  

11

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

Fair Value of Financial Instruments

 

ASC Topic 820 Fair Value Measurements and Disclosures ("ASC Topic 820") provides a framework for measuring fair value in accordance with generally accepted accounting principles. 

 

ASC Topic 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. ASC Topic 820 establishes a fair value hierarchy that distinguishes between (1) market participant assumptions developed based on market data obtained from independent sources (observable inputs) and (2) an entity's own assumptions about market participant assumptions developed based on the best information available in the circumstances (unobservable inputs).

  

The fair value hierarchy consists of three broad levels, which gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable inputs (Level 3). The three levels of the fair value hierarchy under ASC Topic 820 are described as follows:

 

  Level 1 — Unadjusted quoted prices in active markets for identical assets or liabilities that are accessible at the measurement date.
       
  Level 2 — Inputs other than quoted prices included within Level 1 that are observable for the asset or liability, either directly or indirectly. Level 2 inputs include quoted prices for similar assets or liabilities in active markets; quoted prices for identical or similar assets or liabilities in markets that are not active; inputs other than quoted prices that are observable for the asset or liability; and inputs that are derived principally from or corroborated by observable market data by correlation or other means.
       
  Level 3 — Inputs that are unobservable for the asset or liability.

 

The following section describes the valuation methodologies that the Company used to measure different financial instruments at fair value.

 

Debt

 

The fair value of the Company’s debt approximates the carrying value. Factors that the Company considered when estimating the fair value of its debt included market conditions, liquidity levels in the private placement market, variability in pricing from multiple lenders and the term of the debt. The level of the debt would be considered as Level 2.

 

Contingent Consideration

 

The fair value of the Company’s contingent consideration is based on the Company’s evaluation as to the probability and amount of any earn-out that will be achieved based on expected future performance by the acquired entity. The Company utilizes a third-party valuation firm to assist in the calculation of the contingent consideration at the acquisition date. The Company evaluates the forecast of the acquired entity and the probability of earn-out provisions being achieved when it evaluates the contingent consideration at initial acquisition date and at each subsequent reporting period. The fair value of contingent consideration is measured at each reporting period and adjusted as necessary. The Company evaluates the terms in contingent consideration arrangements provided to former owners of acquired companies who become employees of the Company to determine if such amounts are part of the purchase price of the acquired entity or compensation.

 

Additional Disclosures Regarding Fair Value Measurements

 

The carrying value of cash, accounts receivable, inventory, other assets, and accounts payable and accrued expenses approximate their fair value due to the short-term maturity of those items. 

 

Fair Value of Derivatives

 

The Company has historically utilized a Black-Scholes option pricing model to determine the fair value of the derivative liability related to the warrants and the put and effective price of future equity offerings of equity-linked financial instruments. During the quarter ended September 30, 2015, the Company determined that it would utilize a binomial lattice pricing model to determine the fair value of the derivative liability related to the warrants and the put and effective price of future equity offerings of equity-linked financial instruments. The Company has evaluated its derivative instruments and determined that the value of those derivative instruments, using a binomial lattice pricing model instead of a Black-Scholes pricing model, would be immaterial on its historical unaudited condensed consolidated statements of operations for the three and nine months ended September 30, 2015. 

 

12

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

Derivative Warrant Liabilities

 

The fair value of the derivative liabilities is classified as Level 3 within the Company’s fair value hierarchy. Please refer to Note 8, Derivative Instruments, for a further discussion of the measurement of fair value of the derivatives and their underlying assumptions.

 

The fair value of the Company's financial instruments carried at fair value at September 30, 2016 and December 31, 2015 were as follows:

 

   Fair Value Measurements at Reporting Date Using 
   Quoted Prices   Significant     
   in Active   Other   Significant 
   Markets for   Observable   Unobservable 
   Identical Assets   Inputs   Inputs 
   (Level 1)   (Level 2)   (Level 3) 
   September 30, 2016 
Liabilities:            
Derivative features related to convertible debentures  $-   $-   $1,287 
Contingent consideration   -    -    865 
Long-term derivative features related to convertible debentures   -    -    3,094 
Total liabilities at fair value  $-   $-   $5,246 

 

    December 31, 2015 
Liabilities:               
Derivative features related to convertible debentures  $-   $-   $408 
Long-term warrant derivatives   -    -    22 
Long-term derivative features related to convertible debentures   -    -    17,108 
Total liabilities at fair value  $-   $-   $17,538 

 

The changes in Level 3 financial instruments measured at fair value on a recurring basis for the nine months ended September 30, 2016 were as follows:

 

   Amount 
Balance as of December 31, 2015  $17,538 
Change in fair value of derivative features related to convertible debentures   (2,903)
Change in fair value of warrant derivative   17 
Fair value of contingent consideration   515 
Addition to debt discount related to JGB (Cayman) Concord Ltd. term loan   1,350 
Balance as of March 31, 2016   16,517 
      
Change in fair value of derivative features related to convertible debentures   (6,762)
Change in fair value of warrant derivative   (27)
Adjustment of derivative liability upon extinguishment of debt   4,880 
Fair value of make-whole provision   280 
Balance as of June 30, 2016   14,888 
      
Change in fair value of derivative features related to convertible debentures   (8,286)
Change in fair value of warrant derivative   (11)
Adjustment of derivative liability upon conversion of debt   (41)
Adjustment of derivative liability upon extinguishment of debt   (102)
Adjustment of derivative liability upon modification of debt   (1,552)
Fair value of contingent consideration   350 
Balance as of September 30, 2016  $5,246 

 

Treasury Stock

 

The Company records treasury stock at the cost to acquire it and includes treasury stock as a component of stockholders’ deficit.

 

13

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

Recent Accounting Pronouncements

 

In August 2016, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2016-15, Statement of Cash Flows (Topic 230) Classification of Certain Cash Receipts and Cash Payments (“ASU 2016-15”)ASU 2016-15 eliminates the diversity in practice related to the classification of certain cash receipts and payments for debt prepayment or extinguishment costs, the maturing of a zero coupon bond, the settlement of contingent liabilities arising from a business combination, proceeds from insurance settlements, distributions from certain equity method investees and beneficial interests obtained in a financial asset securitization. ASU 2016-15 designates the appropriate cash flow classification, including requirements to allocate certain components of these cash receipts and payments among operating, investing and financing activities. The guidance is effective for the Company beginning after December 15, 2017, although early adoption is permitted. The Company is currently evaluating the effects of ASU 2016-15 on its unaudited condensed consolidated financial statements.

 

2. GOING CONCERN UNCERTAINTY, FINANCIAL CONDITION AND MANAGEMENT’S PLANS

 

The Company’s management believes that there is substantial doubt about the Company’s ability to continue as a going concern. The Company believes that its available cash balance as of the date of this filing will not be sufficient to fund its anticipated level of operations for at least the next 12 months. The Company’s management believes the Company’s ability to continue operations depends on its ability to sustain and grow revenue and results of operations as well as the Company’s ability to access capital markets when necessary to accomplish the Company’s strategic objectives. The Company’s management believes that the Company will continue to incur losses for the immediate future. For the three and nine months ended September 30, 2016, the Company generated gross profits from operations but failed to achieve positive cash flow from operations. The Company expects to finance future cash needs from the results of operations and the sale of certain operating assets or businesses. Depending on the results of operations, the Company may need additional equity or debt financing until the Company can achieve profitability and positive cash flows from operating activities, if ever.

 

During the three and nine months ended September 30, 2016 and the year ended December 31, 2015, the Company suffered recurring losses from operations. At September 30, 2016 and December 31, 2015, the Company had a total stockholders’ deficit of $8,413 and $4,200, respectively. The decrease of $8,498 in the Company’s working capital from December 31, 2015 to September 30, 2016 was primarily the result of an increase in accounts payable and accrued expenses of $5,648 (including non-cash activity) and an increase in the current portion of term loans (net of debt discounts) of $2,826. In addition, certain of the Company’s derivative instruments in the amount of $1,287 are now due to mature by September 30, 2017, whereas only $408 of these derivative instruments were current as of December 31, 2015.

 

On or prior to September 30, 2017, the Company has obligations relating to the payment of indebtedness as follows:

 

  $5,403 relating to promissory notes held by related parties that mature on July 1, 2017;
     
  $5,755 relating to a promissory note held by a related party that matured on May 30, 2016 and is due on demand;
     
  $2,020 relating to term loans – senior convertible notes with current portions payable through January 2017;
     
  $306 relating to current maturities of a convertible note that matures in November 2016;
     
  $363 relating to current maturities of a convertible note that matures in January 2017;
     
  $225 relating to a promissory note held by a related party that matured on May 30, 2016 and is due on demand;
     
  $106 relating to a promissory note held by a former owner of Tropical that matures in November 2016;
     
 

$75 relating to a promissory note held by a related party that is due on demand; and

     
  $349 relating to the settlement of IPC-Related Litigation discussed in Part II, Item 1, Legal Proceedings

 

The Company anticipates meeting its cash obligations on indebtedness that is payable on or prior to September 30, 2017 from earnings from operations, the sale of certain operating assets or businesses and possibly from the proceeds of additional indebtedness or equity raises. If the Company is not successful in obtaining additional financing when required, the Company expects that it will be able to renegotiate and extend certain of its notes payable as required to enable it to meet its remaining debt obligations as they become due, although there can be no assurance that the Company will be able to do so.

 

14

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

The Company’s future capital requirements for its operations will depend on many factors, including the profitability of its businesses, the number and cash requirements of other acquisition candidates that the Company pursues, and the costs of operations. The Company has been investing in sales personnel in anticipation of increasing revenue opportunities in managed services segments of its business, which contributed to the losses from operations. The Company’s management has taken several actions to ensure that it will have sufficient liquidity to meet its obligations, including the reduction of certain general and administrative expenses, consulting expenses and other professional services fees. Additionally, if the Company’s actual revenues are less than forecasted, the Company anticipates implementing headcount reductions to a level that more appropriately matches then-current revenue and expense levels. The Company is evaluating other measures to further improve its liquidity, including the sale of certain operating assets or businesses, the sale of equity or debt securities and entering into joint ventures with third parties. Lastly, the Company may elect to reduce certain related-party and third-party debt by converting such debt into common shares. The Company’s management believes that these actions will enable the Company to meet its liquidity requirements through September 30, 2017. There is no assurance that the Company will be successful in any capital-raising efforts that it may undertake to fund operations over the next 12 months.

 

The Company plans to generate positive cash flow from its operating subsidiaries. However, to execute the Company’s business plan, service existing indebtedness and implement its business strategy, the Company anticipates that it will need to obtain additional financing from time to time and may choose to raise additional funds through public or private equity or debt financings, a bank line of credit, borrowings from affiliates or other arrangements. The Company cannot be sure that any additional funding, if needed, will be available on terms favorable to the Company or at all. Furthermore, any additional capital raised through the sale of equity or equity-linked securities may dilute the Company’s current stockholders’ ownership and could also result in a decrease in the market price of the Company’s common stock. The terms of any securities issued by the Company in future capital transactions may be more favorable to new investors and may include the issuance of warrants or other derivative securities, which may have a further dilutive effect. The Company also may be required to recognize non-cash expenses in connection with certain securities it issues, such as convertible notes and warrants, which may adversely impact the Company’s financial condition. Furthermore, any debt financing, if available, may subject the Company to restrictive covenants and significant interest costs. There can be no assurance that the Company will be able to raise additional capital, when needed, to continue operations in their current form.

 

3. LOANS RECEIVABLE

 

Loans receivable as of September 30, 2016 and December 31, 2015 consisted of the following:

 

   September 30,   December 31, 
   2016   2015 
Loans to NGNWare  $507   $100 

Loans to employees, due between December 2016 and December 2017

   928    300 
Loans receivable  $1,435   $400 

 

4. PROPERTY AND EQUIPMENT, NET

 

Property and equipment as of September 30, 2016 and December 31, 2015 consisted of the following:

 

   September 30,   December 31, 
   2016   2015 
Vehicles  $785   $777 
Computers and office equipment   955    905 
Equipment   764    605 
Software   176    171 
Total   2,680    2,458 
Less accumulated depreciation   (2,060)   (1,799)
           
Property and equipment, net  $620   $659 

 

Depreciation expense for the three months ended September 30, 2016 and 2015 was $89 and $87, respectively. Depreciation expense for the nine months ended September 30, 2016 and 2015 was $261 and $275, respectively.

 

15

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

5. GOODWILL AND INTANGIBLE ASSETS

 

Goodwill

 

The following table summarizes the Company’s goodwill as of September 30, 2016 and December 31, 2015

 

    Applications and Infrastructure   Professional Services   Managed Services   Total 
Balance at December 31, 2015   $6,906   $9,257   $7,495   $23,658 
                      
Acquisition     566    823    -    1,389 
                      
Balance at September 30, 2016   $7,472   $10,080   $7,495   $25,047 

 

Intangible Assets

 

The following table summarizes the Company’s intangible assets as of September 30, 2016 and December 31, 2015:

 

       September 30, 2016   December 31, 2015 
   Estimated   Gross               Gross                 
   Useful   Carrying       Accumulated   Net Book   Carrying   Accumulated       Impairment   Net Book 
   Life   Amount   Additions   Amortization   Value   Amount   Amortization   Reclassification   Charge   Value 
Customer relationship and lists   7-10 yrs.   $14,451   $220   $(5,681)  $8,990   $14,451   $(4,707)  $-   $-   $9,744 
Non-compete agreements   2-3 yrs.    1,756    498    (1,871)   383    2,455    (1,602)   -    (699)   154 
Purchased software   16 years    4,000    -    (541)   3,459    -    (371)   4,000    -    3,629 
In-process research and development        -    -    -    -    4,000    -    (4,000)   -    - 
URL's   Indefinite    8    -    -    8    8    -    -    -    8 
Tradenames   1 year    -    -    -    -    59    (49)   -    (10)   - 
Tradenames   Indefinite    3,178    49    -    3,227    3,178    -    -    -    3,178 
Total intangible assets       $23,393   $767   $(8,093)  $16,067   $24,151   $(6,729)  $-   $(709)  $16,713 

 

Amortization expense related to the identifiable intangible assets was $476 and $838 for the three months ended September 30, 2016 and 2015, respectively. Amortization expense related to the identifiable intangible assets was $1,416 and $2,522 for the nine months ended September 30, 2016 and 2015, respectively. 

 

6. BANK DEBT

 

Bank debt as of September 30, 2016 and December 31, 2015 consisted of the following:

 

   September 30,   December 31, 
   2016   2015 
Installment note, monthly principal and interest of $1, interest 9.05%, secured by vehicle, maturing July 2016  $-   $3 
           
Four lines of credit, monthly principal and interest, ranging from $0 to $1, interest ranging from 5.5% to 9.75%, guaranteed personally by principal shareholders of acquired companies, maturing July 2016   123    128 
           
Current portion of bank debt  $123   $131 

 

The interest expense associated with the bank debt during the three months ended September 30, 2016 and 2015 amounted to $3 and $2, respectively. The interest expense associated with the bank debt during the nine months ended September 30, 2016 and 2015 amounted to $8 and $9, respectively. There are no financial covenants associated with the bank debt.  

 

16

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

7. TERM LOANS

 

Term loans as of September 30, 2016 and December 31, 2015 consisted of the following:

 

   September 30,   December 31, 
   2016   2015 
Former owners of RM Leasing, unsecured, non-interest bearing, due on demand  $3   $3 
           
Promissory note with company under common ownership by former owner of Tropical, 9.75% interest, monthly payments of interest of $1, unsecured and personally guaranteed by officer, due November 2016   106    106 
           
Term loan, White Oak Global Advisors, LLC, originally maturing in February 2019 and paid during February 2016, interest of 12% with 2% paid-in-kind interest, net of debt discount $366   -    10,938 
           
8% convertible promissory note, London Bay - VL Holding Company, LLC, unsecured, maturing October 2017   7,408    7,408 
           
8% convertible promissory note, WV VL Holding Corp., unsecured, maturing October 2017   7,003    7,003 
           
8% convertible promissory note, Tim Hannibal, unsecured, maturing October 2017   1,215    1,215 
           

Promissory note, 12% interest, unsecured, matured in May 2016, net of debt discount of $9

   -    748 
           
12% senior convertible note, unsecured, maturing in January 2017, net of debt discount of $89 and $507, respectively   1,432    1,599 
           
12% senior convertible note, unsecured, maturing in November 2016, net of debt discount of $5 and $173, respectively   301    352 
           
12% senior convertible note tranche 1, unsecured, matured in January 2016, net of debt discount of $15   -    235 
           
12% senior convertible note tranche 2, unsecured, matured in February 2016, net of debt discount of $80   -    253 
           
12% senior convertible note tranche 3, unsecured, matured in March 2016, net of debt discount of $55   -    445 
           
12% convertible note, Smithline, unsecured, maturing in January 2017, net of debt discount of $10 and $107, respectively   353    419 
           
Senior secured convertible debenture, JGB (Cayman) Waltham Ltd., bearing interest of 4.67%, maturing in May 2019, net of debt discount of $3,247 and $4,179, respectively   2,383    3,321 
           
Senior secured convertible note, JGB (Cayman) Concord Ltd., bearing interest at 4.67%, maturing in May 2019, net of debt discount of $1,653   3,063    - 
           
Senior secured note, JGB (Cayman) Waltham Ltd., bearing interest at 4.67%, maturing in May 2019, net of debt discount of $1,382   1,210    - 
           
12% convertible term promissory note, unsecured, payable on demand, net of debt discount of $5   495    - 
           
    24,972    34,045 
Less: Current portion of term loans   (6,613)   (3,787)
           
Long-term portion term loans, net of debt discount  $18,359   $30,258 

 

The interest expense, including amortization of debt discounts, associated with the term loans outstanding during the three months ended September 30, 2016 and 2015 amounted to $1,890 and $974, respectively. The interest expense, including amortization of debt discounts, associated with the term loans outstanding during the nine months ended September 30, 2016 and 2015 amounted to $8,133 and 3,395, respectively.

 

17

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

Term Loan - White Oak Global Advisors, LLC

 

On October 9, 2014, the Company’s former wholly-owned subsidiary, VaultLogix, entered into a loan and security agreement with the lenders party thereto, White Oak Global Advisors, LLC, as Administrative Agent, Data Protection Services, LLC (“DPS”), U.S. Data Security Acquisition, LLC (“USDSA”) and U.S. Data Security Corporation (“USDSC”) as guarantors, pursuant to which, VaultLogix received a term loan in an aggregate principal amount of $13,261. Interest on the term loan accrued at a rate per annum equal to the sum of (a) the greater of (i) the LIBOR Index Rate (as defined), as adjusted as of each Libor Index Adjustment Date (as defined) and (ii) 1.00% per annum; plus (b) 1100 basis points per annum. The LIBOR Index Rate was 1.0896 as of December 31, 2015; however, this did not exceed the 12% stated rate as defined in item (ii) above. 

 

The proceeds of the term loan were used to finance the Company’s acquisition of VaultLogix, DPS and USDSA, to repay certain outstanding indebtedness (including all indebtedness owed by VaultLogix to Hercules Technology II, L.P.) and to pay fees, costs and expenses.

  

In connection with the term loan, the Company entered into (i) a continuing guaranty in favor of the administrative agent, (ii) a pledge agreement, and (iii) a security agreement, pursuant to which the obligations of the Company in respect of the term loan were secured by a security interest in substantially all of the assets of VaultLogix, subject to certain customary exceptions.

 

The term loan was subject to certain affirmative and negative covenants that were tested at the end of each fiscal quarter. The Company was in compliance with all covenants as of December 31, 2015.

 

Principal of $11,304 remained outstanding as of December 31, 2015.

 

On February 17, 2016, the Company entered into a securities exchange agreement whereby the Company and VaultLogix exchanged the White Oak Global Advisors term loan and assigned the term loan to JGB (Cayman) Concord Ltd. Refer to the JGB (Cayman) Concord Ltd. Senior Secured Convertible Note section of this note for further explanation. As a result of this assignment, the Company and VaultLogix’s obligations to White Oak Global Advisors, LLC was satisfied as of March 31, 2016. The Company recorded a $843 loss on extinguishment of debt in the unaudited condensed consolidated statement of operations for the three months ended March 31, 2016.

 

Term Loan – 8% Convertible Promissory Notes

 

Effective as of October 9, 2014, the Company consummated the acquisition of all of the outstanding membership interests of VaultLogix and its affiliated entities for an aggregate purchase price of $36,796. The purchase price for the acquisition was payable to the sellers as follows: (i) $16,385 in cash, (ii) 1,008,690 shares of the Company’s common stock and (iii) $15,627 in unsecured convertible promissory notes, as further described below. The closing payments were subject to customary working capital adjustments.

  

The promissory notes accrue interest at a rate of 8% per annum, and all principal and interest accrued under the promissory notes is payable on October 9, 2017. The promissory notes are convertible into shares of the Company’s common stock at a conversion price equal to $6.37 per share. A portion of the principal amount of the promissory notes equal to 20% of the principal amount on the closing date were not convertible until January 9, 2016.

 

On a date when (i) the shares issuable upon conversion of the promissory note are freely tradeable without restriction or volume limitations under Rule 144, and (ii) the average closing price of the Company’s common stock is 105% or higher of the conversion price on the three (3) trading days immediately prior to such date, the Company may deliver notice to the holders of the promissory notes electing to convert some or all of the outstanding amounts owed under the promissory notes into common stock at the applicable conversion price. Additionally, if on or after the maturity date, (i) the Company is restricted or otherwise unable to pay in cash all outstanding amounts under the promissory notes, (ii) the promissory notes have not otherwise been paid in full within ten business days following the maturity date, or (iii) the Company is not at such time entitled to effect a forced conversion, then, in the event that both (i) and (iii) above apply, the Company, and in the event that both (ii) and (iii) above apply, the holders of the promissory notes, shall have the right to convert all outstanding amounts owing under the promissory notes into shares of the Company’s common stock at a conversion price equal to the average closing price of the Company’s common stock on the three trading days immediately preceding the date of such conversion.

 

As of September 30, 2016, the Company had not forced any conversions.

 

18

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

  

Term Loan – 12% Promissory Note

 

The Company entered into a securities purchase agreement with an investor whereby the Company issued to the investor a demand promissory note, dated November 17, 2014, in the original principal amount of $1,000, with interest accruing at the rate of 12% per annum. The note matured on the earlier of: (x) November 10, 2015 or (y) upon demand by the investor, which such demand could be made any time after 150 days following the issuance of the note upon 30 days’ written notice to the Company; provided, that $60 of interest was guaranteed by the Company regardless of when the note was repaid. The Company could have redeemed the note at any time prior to the maturity date for an amount equal to (i) 100% of the outstanding principal amount, plus (ii) a redemption premium equal to an additional 10% of the outstanding principal amount, plus (iii) any accrued and unpaid interest on the note. The redemption premium could be paid in cash or common stock at the option of the Company. The holder demanded repayment of the demand promissory note by May 16, 2015 and such note was converted on May 14, 2015 into 348,164 shares of the Company’s common stock.

 

On May 14, 2015, the Company entered into a securities purchase agreement with the investor whereby the Company issued a term promissory note in the original principal amount of $1,000, with interest accruing at the rate of 12% per annum. The note matures at the earlier of: (x) May 14, 2016 or (y) upon demand by the investor, which such demand may be made any time after 170 days following the issuance of the note upon 10 days’ written notice to the Company; provided, that $60 of interest is guaranteed by the Company regardless of when the note is repaid. The Company may redeem the note at any time prior to the maturity date for an amount equal to (i) 100% of the outstanding principal amount, plus (ii) an additional 10% of the outstanding principal amount (the “Redemption Premium”), plus (iii) any accrued and unpaid interest on the note. The Redemption Premium can be paid in cash or common stock at the option of the Company. If common stock of the Company is used to pay the Redemption Premium, then such shares shall be delivered by the third business day following the maturity date, or date of demand, as applicable, at a mutually agreed upon conversion price by both parties.

 

On August 6, 2015, the Company amended the May 14, 2015 term promissory note to increase the principal amount of the note to $1,060 and modify the terms of the promissory note to allow for the investor to convert the note into shares of the Company’s common stock. The term promissory note is convertible into shares of the Company’s common stock at the election of the investor at a conversion price equal to $2.00 per share, subject to certain adjustments.

 

During March 2016, the Company paid $151 in cash related to the principal amount of note outstanding related to the 12% promissory note.

 

During the nine months ended September 30, 2016, the investor who holds the 12% promissory note converted $606 of principal and accrued interest into shares of the Company’s common stock. Refer to Note 10, Stockholders’ Deficit, for further information.

 

Term Loan – 12% Senior Convertible Notes

 

On August 6, 2015, the Company entered a senior convertible note agreement with the investor whereby the Company issued a promissory note in the original principal amount of $2,105, with interest accruing at the rate of 12% per annum, which matures on January 6, 2017. At the election of the investor, the note is convertible into shares of the Company’s common stock at a conversion price equal to $2.00 per share, subject to adjustment as set forth in the agreement. The investor may elect to have the Company redeem the senior convertible note upon the occurrence of certain events, including the Company’s completion of a $10,000 underwritten offering of the Company’s common stock. Refer to Note 8, Derivative Instruments, for further detail on the derivative features associated with the August 6, 2015 senior convertible note.

 

During April 2016, the Company paid $117 in cash related to the principal amount of the outstanding note related to the August 6, 2015 senior convertible note.

 

During the nine months ended September 30, 2016, the investor who holds the August 6, 2015 senior convertible note converted $468 of principal and accrued interest into shares of the Company’s common stock. Refer to Note 10, Stockholders’ Deficit, for further information.

 

On November 12, 2015, the Company entered into a securities purchase agreement with an investor whereby the Company issued a senior convertible note, for cash proceeds of $500, in the original principal amount of $525. The note has a term of one year, bears interest at the rate of 12% per annum and, at the election of the investor, the note is convertible into shares of the Company’s common stock at a conversion price equal to $1.75 per share, subject to adjustment as set forth in the note. The note began amortizing in twelve bi-weekly installments beginning on May 12, 2016. Amortization payments may be made, at the Company’s option, either in (i) cash, in which case the Company would also have to issue to the investor a number of shares of the Company’s common stock equal to 5% of such amortization payment or (ii) subject to the Company satisfying certain equity conditions, shares of the Company’s common stock, pursuant to the amortization conversion rate, which is equal to the lower of (x) $1.75 and (y) a 25% discount to lowest volume weighted average price of the Company’s common stock in the prior three trading days.

 

19

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

During the three months ended September 30, 2016, the investor who holds the November 12, 2015 senior convertible note converted $219 of principal and accrued interest into shares of the Company’s common stock. Refer to Note 10, Stockholders’ Deficit, for further information.

 

On November 12, 2015, the Company entered into an exchange agreement with the investor whereby the Company exchanged a portion of the senior secured note originally issued by the Company to GPB Life Science Holdings, LLC on December 3, 2014 and subsequently assigned to the investor, for new senior convertible notes, in three tranches of $500 for a total principal amount of $1,500. The notes bore interest at the rate of 12% per annum, were convertible into shares of the Company’s common stock at a conversion price equal to $1.25 per share, subject to adjustment as set forth in the notes, and were redeemable on a bi-weekly basis in an amount equal to one-sixth of the face amount of the senior convertible notes and guaranteed interest. The redemptions were made, at the Company’s option, either in (i) cash, in which case the Company would also have to issue to the investor a number of shares of the Company’s common stock equal to 5% of such redemption payment or (ii) subject to the Company satisfying certain equity conditions, shares of the Company’s common stock, pursuant to the redemption conversion rate, which was equal to the lower of (x) $1.25 and (y) a 25% discount to lowest volume weighted average price of the Company’s common stock in the prior three trading days.

 

The Company issued the three tranches of new senior convertible notes on the following dates:

 

  $500 issued on November 13, 2015 which matured on January 28, 2016 (“Tranche 1”),
     
  $500 issued on November 27, 2015 which matured on February 19, 2016 (“Tranche 2”) and
     
  $500 issued on December 11, 2015 which matured on March 4, 2016 (“Tranche 3”).

 

The investor who held the promissory note tranches issued on November 13, 2015, November 27, 2015, and December 11, 2015 converted the debt into shares of the Company’s common stock. Below is a summary of the transactions:

 

Tranche 1:

 

  During November 2015, the investor converted $83 principal amount of debt into 66,667 shares of the Company’s common stock.

 

  During December 2015, the investor converted $167 principal amount of debt into 133,334 shares of the Company’s common stock.
     
  During January 2016, the investor converted $167 principal amount of debt into 133,334 shares of the Company’s common stock.
     
  On February 3, 2016, the investor converted the remaining $83 principal amount of debt into 66,667 shares of the Company’s common stock. Tranche 1 of the promissory note debt was fully amortized as of this date.

 

Tranche 2:

 

  During December 2015, the investor converted $166 principal amount of debt into 133,334 shares of the Company’s common stock.
     
  During January 2016, the investor converted $167 principal amount of debt into 133,334 shares of the Company’s common stock.
     
  During February 2016, the investor converted $167 principal amount of debt into 133,334 shares of the Company’s common stock. Tranche 2 of the promissory note debt was fully amortized as of February 22, 2016.

  

Tranche 3:

 

  During January 2016, the investor converted $250 principal amount of debt into 200,001 shares of the Company’s common stock.
     
  During February 2016, the investor converted $167 principal amount of debt into 133,334 shares of the Company’s common stock.

 

  On March 2, 2016, the investor converted the remaining $83 principal amount into 66,667 shares of the Company’s common stock.

 

On September 15, 2016, the Company received cash proceeds of $500, from the sale of a term promissory note. The term promissory note has a maturity date of October 14, 2016 and can be paid in either cash or common stock at the option of the lender. If common stock of the Company is used to make such payment, then the shares shall be delivered by the third business day following the maturity date and shall equal the total amount including principal and interest, at a conversion price mutually agreed to by both parties at conversion. Interest at a rate of 12% per annum, is to be accrued until the maturity day. The Company will pay a minimum of guaranteed interest of $30 and lender legal fees of $5 out of proceeds of the note. The note may be redeemed at any time prior to Maturity at an amount equal to 110% of the outstanding principal amount plus any accrued and unpaid interest on the note. The Redemption Premium (10%) can be paid in cash or common stock at the option of the Company. If common stock of the Borrower is used to make such payment, then such shares shall be delivered by the third business day following the Maturity Date, or date of Demand, as applicable, at a mutually agreed upon conversion price by both parties.

 

Principal of $2,327 and $4,471 on the notes remained outstanding as of September 30, 2016 and December 31, 2015, respectively. 

 

20

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

Bridge Financing - GPB Life Science Holdings, LLC

 

The Company entered into a bridge financing agreement, effective as of December 3, 2014, with GPB Life Science Holdings, LLC, whereby the Company issued to the investor for gross proceeds of $2,375 (i) a senior secured note, dated December 3, 2014, in the principal amount of $2,500 with interest accruing at the rate of 12% per annum and (ii) a four-year warrant, dated December 3, 2014, exercisable for up to 250,000 shares of the Company’s common stock at an exercise price of $5.00 per share, subject to adjustment as set forth therein. The note matured upon the earlier of: June 1, 2015 or (y) the date of a Major Transaction (as defined in the purchase agreement). In addition, upon maturity of the note, the Company was required to pay the investor additional interest in cash, which interest was to accrue over the term of the note at the rate of 4% per annum. The note was secured by (i) a first priority security interest in and to all Accounts Receivable (as defined in the purchase agreement) of the Company and its subsidiaries, except those of VaultLogix, and (ii) a first priority security interest and lien on all Collateral (as defined in the purchase agreement) of the Company and its subsidiaries, which lien and security interest was to go into effect at such time as White Oak Global Advisors, LLC (“White Oak”) released (or was deemed to have released pursuant to the applicable documents between it and the Company), its liens and security interest on any collateral of the Company and the Company’s obligation to grant, pledge or otherwise assign a lien in favor of White Oak was terminated (pursuant to the applicable documents between White Oak and the Company). Refer to Note 8, Derivative Instruments, for further detail on the warrant to purchase 250,000 shares of common stock.

 

On December 31, 2014, pursuant to the bridge financing agreement, the Company issued to the investor an additional note in the principal amount of $1,500 for a purchase price of $1,425 with interest accruing at the rate of 12% per annum. The Company used the proceeds of this additional financing to repay the convertible note payable to 31 Group, LLC. Pursuant to the second agreement, the Company issued a warrant entitling the lender to purchase 150,000 shares of common stock. The warrant was exercisable at a fixed price of $5.00 and expired 180 days from the original issue date. Refer to Note 8, Derivative Instruments, for further detail on the warrant to purchase 150,000 shares of common stock.

 

On May 15, 2015, the Company and GPB Life Science Holdings, LLC entered into a securities purchase agreement and Amendment No. 1 to the bridge financing agreement whereby the Company (i) issued and sold to the investor a senior secured convertible note in the principal amount of $2,000, having substantially the same terms and conditions as the outstanding notes, (ii) issued to the investor a four-year warrant, exercisable for up to 200,000 shares of the Company’s common stock, with an exercise price of $3.75, subject to adjustment as set forth therein, (iii) issued to the investor a four-year warrant, exercisable for up to 50,000 shares of the common stock, with an exercise price of $3.93, subject to adjustment as set forth therein, (iv) amended the exercise price of the outstanding warrants held by the investor to $3.75, subject to adjustment as set forth in such warrants, (v) extended the maturity date of the outstanding notes held by such investor, such that the maturity date of all three notes, subject to certain exceptions as provided in the Agreement, was May 15, 2016, (vi) amended the outstanding notes held by such investor to make them convertible into shares of the Company’s common stock at an exercise price of $3.75 per share, and (vii) added the same amortization provision to the outstanding notes held by such investor as is in the new note requiring the Company to make three amortization payments to the investor of $1,125 each on each of September 1, 2015, December 1, 2015 and March 1, 2016, so that each of the three notes received its pro-rata portion of each $1,250 amortization payment. In addition, the Company and the investor agreed that all or any portion of the $6,000 aggregate principal amount of the Notes may, by mutual agreement of the Company and the investor, be paid by the Company at any time and from time to time by the issuance to the investor of no more than 1,600,000 shares of the Company’s common stock.

 

In conjunction with Amendment No. 1 to the bridge financing agreement, the Company incurred legal and placement fees of $209 and recorded this amount as a debt discount that will be amortized to interest expense on the unaudited condensed consolidated statement of operations.

 

The Company accounted for Amendment No. 1 to the bridge financing agreement in accordance with ASC 470-50, Debt – Modifications and Extinguishments (“ASC Topic 470-50”). In accordance with ASC Topic 470-50, the Company extinguished the December 3, 2014 and December 31, 2014 bridge financing senior secured convertible notes in the amounts of $2,500 and $1,500, respectively, and recorded a new bridge financing senior secured convertible note in the amount of $6,020 on the balance sheet as of May 15, 2015. The fair value of the Amendment No. 1 senior secured convertible note was $6,020, which was an amount in excess of the face value of the $6,000 senior secured convertible note and as such, the Company recorded the fair value of the lender’s conversion feature of the note of $827 to additional paid-in capital on the balance sheet and a related loss on debt extinguishment of $847 on the consolidated statement of operations. In addition, the Company used a Monte-Carlo simulation to fair-value the lender’s default premium option and recorded a derivative liability of $22 to debt discount on the consolidated balance sheet as of May 15, 2015.

 

On August 12, 2015, the Company and GPB Life Science Holdings, LLC entered into Amendment No. 2 to the original bridge financing agreement, dated December 3, 2014, whereby the Company and GPB Life Science Holdings, LLC agreed to (i) reduce the conversion price of the notes from $3.75 to $2.00 per common share, (ii) amend and restate the prior warrants and additional warrants to reduce the exercise price from $3.75 to $2.00 per warrant share, (iii) increase the number of amortization payment dates and reduce the amortization payments to $563, and (iv) permit the Company to make the amortization payments in shares of the Company common stock converted from any of the prior notes or the new notes. The conversion price for the shares of the Company’s common stock used to make an amortization payment shall be the lesser of (i) $2.00 and (ii) 75% of the average of the volume weighted average price for the five consecutive trading days ending on, and including, the trading day immediately preceding the date of the amortization payment. Refer to Note 8, Derivative Instruments, for further detail on the reduction of the conversion price and the amendment and restatement of the warrants.

 

21

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

The Company accounted for Amendment No. 2 in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company modified the May 15, 2015 Amendment No. 1 bridge financing senior secured convertible note in the amount $6,020. In conjunction with this transaction, the Company modified the terms of the equity warrants to reduce the exercise price from $3.75 to $2.00 per share of the Company’s common stock. Refer to Note 8, Derivative Instruments, for further detail on the reduction of the conversion price of the warrants.

 

On November 12, 2015, the Company entered into an exchange agreement with the investor (as noted above in the Promissory Notes section of this footnote) whereby the Company exchanged a portion of the senior secured note originally issued by the Company to GPB Life Science Holdings, LLC on December 3, 2014 and subsequently assigned to the investor, for new senior convertible notes, in three tranches of $500 for a total principal amount of $1,500.

 

GPB Life Science Holdings, LLC exchanged the following senior secured notes to the investor in the following three tranches:

 

  $500 exchanged on November 13, 2015 which matured on January 28, 2016 (Tranche 1),
     
  $500 exchanged on November 27, 2015 which matured on February 19, 2016 (Tranche 2), and
     
  $500 exchanged on December 11, 2015 which matured on March 4, 2016 (Tranche 3).

 

The Company accounted for the exchange in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company extinguished each tranche exchanged and recorded a new note to the investor. For Tranche 1, the Company fair valued the investors’ conversion features and removed the existing debt discount on Tranche 1 and recorded a loss on extinguishment of $8 on the consolidated statement of operations as of November 13, 2015. For Tranche 2, the Company fair valued the investors’ conversion features and removed the existing debt discount on Tranche 2 and recorded a loss on debt extinguishment of $92 on the consolidated statement of operations as of November 27, 2015. For Tranche 3, the Company fair valued the investors’ conversion features and removed the existing debt discount on Tranche 3.

 

On December 29, 2015, the Company entered into a conversion agreement with GPB Life Science Holdings, LLC pursuant to which, among other things, (i) the Company used $2,300 of the proceeds of the JGB (Cayman) Waltham Ltd. senior secured convertible debentures (as described later within this footnote) to reduce the total amount owed by the Company to GPB Life Science Holdings, LLC to $1,500, (ii) the Company agreed that, if the closing price per share of the Company’s common stock 90 days after December 29, 2015 was less than the remaining balance conversion price, as adjusted, then the Company would issue to GPB Life Science Holdings, LLC additional unregistered shares of the Company’s common stock in an aggregate amount equal to the amount set forth in the conversion agreement, (iii) GPB Life Science Holdings, LLC and the Company agreed to convert the remaining balance of $1,500 into shares of the Company’s common stock at a conversion price per share equal to 75% of the lower of (x) the average volume weighted average price per share of the Company’s common stock for the five prior trading days and (y) the one day volume weighted price for a share of the Company’s common stock on December 29, 2015, (iv) GPB Life Science Holdings, LLC agreed to reduce the exercise price of those certain outstanding warrants originally issued by the Company on May 14, 2015 to $1.75, and (v) GPB Life Science Holdings, LLC released all of its remaining security interest in the assets of the Company. On January 22, 2016, the Company issued 500,000 shares of common stock in full settlement of this provision and GPB Life Science Holdings, LLC released its remaining security interest in the assets of the Company (refer to Note 10, Stockholders’ Deficit, for additional detail).

 

The Company accounted for the payment of $2,300 principal amount outstanding (as noted in item (i) above) to GPB Life Science Holdings, LLC in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company extinguished $2,300 of the note payable to GPB Life Science Holdings, LLC, removed the existing derivative liability related to the maturity date feature of $31, reduced the beneficial conversion feature of $139, which was recorded in additional paid in capital, reduced accrued interest on the notes of $199, paid $25 in legal fees, and paid interest of $419. In addition, the Company amended the warrants attached to the GPB Life Science Holdings, LLC convertible debentures (refer to Note 8, Derivative Instruments, for additional detail).

 

On December 29, 2015, GPB Life Science Holdings, LLC converted $1,500 of principal amount outstanding into 1,918,649 shares of the Company’s common stock.

 

Smithline Senior Convertible Note

 

On August 6, 2015, the Company issued to Smithline a senior convertible note in the principal amount of $526, with interest accruing at the rate of 12% per annum, which matures on January 11, 2017. The note is convertible into shares of the Company’s common stock at a conversion price equal to $2.00 per share, subject to adjustment as set forth in the agreement. Refer to Note 8, Derivative Instruments, for further detail on the derivative features associated with the Smithline Senior Convertible Note.

 

Pursuant to the Smithline senior convertible note, the Company was required to meet current public information requirements under Rule 144 of the Securities Act of 1933, which it had failed to do prior to June 30, 2016. Thus, on July 20, 2016, the Company agreed to add $55 to the principal amount of the Smithline senior convertible note as of July 1, 2016 and the investor waived its right to call an event of default under the note with respect to the Company’s failure to meet the public information requirement for the period ending June 30, 2016. On September 1, 2016, the Company agreed to add $97 to the principal amount of the Smithline senior convertible note as of the date of its last monthly amortization to compensate the investor for certain damages relating to noncompliance with certain provisions of the senior convertible note. In accordance with ASC Topic 470-50, the Company recorded a loss on extinguishment of debt of $167 during the three months ended September 30, 2016.

 

22

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

During the nine months ended September 30, 2016, the investor who holds the Smithline senior convertible note converted $372 of principal and accrued interest into shares of the Company’s common stock. Refer to Note 10, Stockholders’ Deficit, for further information.

  

Principal of $363 and $526 remained outstanding as of September 30, 2016 and December 31, 2015, respectively.

 

JGB (Cayman) Waltham Ltd. Senior Secured Convertible Debenture

 

On December 29, 2015, the Company entered into a securities purchase agreement with JGB (Cayman) Waltham Ltd. (“JGB Waltham”) whereby the Company issued to JGB Waltham, for gross proceeds of $7,500, a $500 original issue discount senior secured convertible debenture in the principal amount of $7,500. The debenture had a maturity date of June 30, 2017, bore interest at 10% per annum, and was convertible into shares of the Company’s common stock at a conversion price equal to $1.33 per share, subject to adjustment as set forth in the debenture. The Company was to pay interest to JGB Waltham on the aggregate unconverted and then outstanding principal amount of the debenture in arrears each calendar month and on the maturity date in cash, or, at the Company’s option and subject to the Company satisfying certain equity conditions, in shares of the Company’s common stock. In addition, December 29, 2016 was an interest payment date on which the Company was to pay to JGB Waltham a fixed amount, as additional interest under the debenture an amount equal to $350 in cash, shares of the Company’s common stock or a combination thereof. Commencing on February 29, 2016, JGB Waltham had the right, at its option, to require the Company to redeem up to $350 of the outstanding principal amount of the debenture per calendar month, which redemption could have been made in cash or, at the Company’s option and subject to satisfying certain equity conditions, in shares of the Company’s common stock. The debenture was guaranteed by the Company and certain of its subsidiaries and was secured by all assets of the Company. The total cash received by the Company as a result of this agreement was $3,730.

  

The Company used a portion of the proceeds from the debenture to pay $2,300 remaining under the senior secured notes the Company originally issued to GPB Life Science Holdings, LLC. Refer to the Bridge Financing – GPB Life Science Holdings, LLC section of this note for further detail.

 

On May 17, 2016, the Company entered into a Forbearance and Amendment Agreement (the “Debenture Forbearance Agreement”) with JGB Waltham pursuant to which JGB Waltham agreed to forbear action with respect to certain existing defaults in accordance with the terms of the Debenture Forbearance Agreement. The defaults, which were not monetary in nature, related to the Company’s inability to timely file its Annual Report on Form 10-K for the fiscal year ended December 31, 2015.

 

In connection with the execution of the Debenture Forbearance Agreement, the Company issued to JGB Waltham an amended and restated senior secured convertible debenture (the “Amended and Restated Debenture”), which amended the original 10% senior secured convertible debenture issued to JGB Waltham on December 29, 2015 by: (i) reducing the conversion price at which the original debenture converts into shares of the Company’s common stock; and (ii) eliminating the provisions that provided for (A) the issuance of common stock at a discount to the market price of the common stock and (B) certain anti-dilution protections.

 

The Amended and Restated Debenture was issued in the principal amount of $7,500, has a maturity date of May 31, 2019, bears interest at 0.67% per annum, and is convertible into shares of the Company’s common stock at a fixed conversion price equal to $0.80 per share, subject to equitable adjustments as set forth in the Amended and Restated Debenture. The Company shall pay interest to JGB Waltham on the aggregate unconverted and then outstanding principal amount of the Amended and Restated Debenture, payable monthly in arrears as of the last trading day of each calendar month and on May 31, 2019, in cash. In addition, the Company shall pay JGB Waltham an additional amount equal to 7.5% of the outstanding principal amount on the Amended and Restated Debenture on each of May 31, 2017, May 31, 2018 and May 31, 2019, subject to certain exceptions set forth in the Amended and Restated Debenture. JGB Waltham has the right, at its option, to require the Company to redeem up to $169 of the outstanding principal amount of the Amended and Restated Debenture plus the then-accrued and unpaid interest thereon each calendar month, in cash. The Amended and Restated Debenture contains standard events of default.

 

In connection with the execution of the Debenture Forbearance Agreement, the Company issued to JGB Waltham a senior secured note (the “2.7 Note”), dated May 17, 2016, in the principal amount of $2,745 that matures on May 31, 2019, bears interest at 0.67% per annum and contains standard events of default.

 

The Company accounted for the Debenture Forbearance Agreement in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company extinguished the December 29, 2015 senior secured convertible debenture in the then-current principal amount of $6,100 and recorded a new senior secured convertible debenture at its new fair value of $3,529 on the balance sheet as of May 17, 2016. As a result of the extinguishment, the Company recorded a loss on extinguishment of debt of $1,457 on the consolidated statement of operations as of May 17, 2016. In addition, the Company re-valued the derivative features associated with the December 29, 2015 senior secured convertible debenture. Refer to Note 8, Derivative Instruments, for additional information on this transaction.

 

23

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

On May 23, 2016, the Company entered into an amended agreement with JGB Concord, JGB Waltham, White Oak Global Advisors, LLC, VaultLogix, and the Guarantors thereto (the “Amended Agreement”) pursuant to which (i) JGB Concord permitted the Company to withdraw $172 from the Blocked Account (as defined in the original debenture), and (ii) JGB Concord permitted the Company to withdraw $328 from the Deposit Account (as defined in the original note) and, in exchange for the foregoing, (i) VaultLogix guaranteed the obligations of, and provide security for, the Amended and Restated Debenture and the 2.7 Note, (ii) the Company’s subsidiaries guaranteed all indebtedness due to JGB Concord under the Amended and Restated Note and 5.2 Note, and (iii) the Company and its subsidiaries pledged their assets as security for all obligations owed to JGB Concord under the Amended and Restated Note and the 5.2 Note in accordance with the terms of an Additional Debtor Joinder, dated May 23, 2016, pursuant to which the Company and each additional party thereto agreed to be bound by the terms of that certain Security Agreement, dated as of February 18, 2016, made by VaultLogix in favor of the secured party thereto (the “February Security Agreement”). In addition, the interest rates on the Amended and Restated Note and the 5.2 Note were amended from 0.67% per annum to 1.67% per annum.

 

The Company accounted for this Amended Agreement in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company accounted for the Amended Agreement as a debt modification and adjusted the fair value of the associated derivative liabilities to its fair value as of May 23, 2016. Refer to Note 8, Derivative Instruments, for additional information on this transaction.

 

On June 23, 2016, the Company entered into an amendment agreement with JGB Concord and JGB Waltham pursuant to which, (i) JGB Waltham and JGB Concord released to the Company an aggregate of $1,500 from the Deposit Account (as defined in the original note). Upon the release of the funds (i) the JGB Waltham senior secured convertible debenture (the “December Debenture”) was amended to increase the Applicable Interest Rate (as defined in the original note) by 3.0% to take effect on July 1, 2016; (ii) the December Debenture was amended to increase the annual rate of interest by 3.0% to take effect on July 1, 2016; (iii) the JGB Concord senior secured convertible note (the “February Convertible Note”) was amended to increase the Applicable Interest Rate (as defined in the original February Convertible Note) by 3.0%, to take effect on July 1, 2016; and (iv) the February Note was amended to increase the annual rate of interest by 3.0%, to take effect on July 1, 2016. After giving effect to the foregoing annual rate of interest on each December Debenture and February Convertible Note as of July 1, 2016, was 4.67%. As additional consideration for the release of the funds, the Company issued 900,000 shares of the Company’s common stock on June 23, 2016 to JGB Concord.

 

The Company accounted for the June 23, 2016 amendment agreement in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company extinguished the May 17, 2016 Debenture Forbearance Agreement in the principal amount of $6,100 and recorded on the balance sheet as of June 23, 2016 a new senior secured convertible debenture at its new fair value of $4,094. As a result of the extinguishment, the Company recorded a loss on extinguishment of debt of $483 on the consolidated statement of operations as of June 23, 2016. In addition, the Company re-valued the derivative features associated with the May 17, 2016 Debenture Forbearance Agreement. Refer to Note 8, Derivative Instruments, for additional information on this transaction.

 

On September 1, 2016, the Company entered into an Amendment Agreement with JGB Concord and JGB Waltham pursuant to which, JGB Waltham and JGB Concord (i) waived certain covenant violations and defaults, (ii) agreed to a specified application of the Cash Collateral (as defined in the Amendment Agreement) in partial satisfaction of the obligations owed under the December Debenture, the 2.7 Note, and the February Convertible Note, and in full satisfaction of the 5.2 Note, and (iii) certain provisions of the December Debenture, the 2.7 Note, and the February Convertible Note be amended.

 

The Company also (i) issued warrants, with an expiration date of December 31, 2017, to purchase 1,000,000 shares of the Company’s common stock at an exercise price of $0.01 per share, (ii) issued warrants, with an expiration date of December 31, 2017, to purchase 3,500,000 shares of common stock at an exercise price of $0.10 per share ((i) and (ii), the “JGB Warrants”). The Company determined that the fair value of the warrants was $972, which is included in common stock warrants within the stockholders’ deficit section on the condensed consolidated balance sheet as of September 30, 2016.

 

In connection with the execution of the September 1, 2016 Amendment Agreement, the Company issued to JGB Waltham the Third Amended and Restated Senior Secured Convertible Debenture (the “Amended and Restated Debenture”), in order to, among other things, amend the December Debenture to (i) provide that the Company may prepay such debenture upon prior notice at a 10% premium, (ii) modify the conversion price at which such debenture converts into common stock from a fixed price of $0.80 to the lowest of (a) $0.2043 per share, (b) 80% of the average VWAPs (as defined in the Amended and Restated Debenture) for each of the five consecutive trading days immediately prior to the applicable conversion, and (c) 85% of the VWAP (as defined in the Amended and Restated Debenture) for the trading day immediately preceding the applicable conversion (the “Conversion Price”), and (iii) eliminate three additional 7.5% payments due to JGB Waltham in 2017, 2018 and 2019, as per such debenture. Further, in connection with the execution of the Amendment Agreement, the Company executed the Amended and Restated Senior Secured Note (the “Amended and Restated 2.7 Note”), in order to, among other things, amend the 2.7 Note to provide that JGB Waltham may convert such note into shares of common stock at the applicable Conversion Price at any time and from time to time. Refer to Note 8, Derivative Instruments, for further detail on the Company’s accounting for the Amended and Restated 2.7 Note.

 

The Company accounted for the September 1, 2016 amendment agreement in accordance with ASC Topic 470-50. Because of the extinguishment, the Company recorded a loss on extinguishment of debt of $274 on the consolidated statement of operations as of September 1, 2016. In addition, the Company re-valued the derivative features. Refer to Note 8, Derivative Instruments, for additional information on this transaction.

 

During the three months ended September 30, 2016, JGB Waltham converted $301 of principal into shares of the Company’s common stock. Refer to Note 10, Stockholders’ Deficit, for further information.

 

24

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

Principal of $5,630 and $7,500 related to the December Debenture remained outstanding as of September 30, 2016 and December 31, 2015, respectively. Principal of $2,593 related to the 2.7 Note remained outstanding as of September 30, 2016.

 

JGB (Cayman) Concord Ltd. Senior Secured Convertible Note

 

On February 17, 2016, the Company entered into a securities exchange agreement with VaultLogix and JGB (Cayman) Concord Ltd. (“JGB Concord”), whereby the Company exchanged the White Oak Global Advisors, LLC promissory note and subsequently assigned to JGB Concord a new 8.25% senior secured convertible note dated February 18, 2016 in the principal amount of $11,601. As a result of the assignment, the obligations of the Company and VaultLogix to White Oak Global Advisors, LLC were satisfied.

 

The note issued to JGB Concord had a maturity date of February 18, 2019, bore interest at 8.25% per annum, and was convertible into shares of the Company’s common stock at a conversion price equal to the lowest of: (a) $2.00 per share, (b) 80% of the average of the volume weighted average prices for each of the five consecutive trading days immediately prior to the applicable conversion date, and (c) 85% of the volume weighted average price for the trading day immediately preceding the applicable conversion date, subject to adjustment as set forth in the note. Interest on the senior secured convertible note was due in arrears each calendar month in cash, or, at the Company’s option and subject to stockholder approval, in shares of the Company’s common stock. Commencing on the stockholder approval date, JGB Concord had the right, at its option, to convert the senior secured convertible note, in whole or in part, into shares of the Company’s common stock, subject to certain beneficial ownership limitations. The senior secured convertible note was secured by all assets of VaultLogix as well as a cash collateral blocked deposit account.

 

On May 17, 2016, the Company entered into a forbearance and amendment agreement (the “Note Forbearance Agreement”) with VaultLogix and JGB Concord, pursuant to which JGB Concord agreed to forbear action with respect to certain existing defaults in accordance with the terms of the Note Forbearance Agreement. The defaults, which were not monetary in nature, related to the Company’s inability to timely file its Annual Report on Form 10-K for the fiscal year ended December 31, 2015.

 

In connection with the execution of the Note Forbearance Agreement, the Company issued to JGB Concord an amended and restated senior secured convertible note (the “Amended and Restated Note”) in order to amend the original note to JGB Concord by: (i) reducing the conversion price at which the note converts into shares of the Company’s common; and (ii) eliminating provisions that provided for (A) the issuance of common stock at a discount to the market price of the common stock and (B) certain anti-dilution protections.

 

The Amended and Restated Note was issued in the aggregate principal amount of $11,601, has a maturity date of May 31, 2019, bears interest at 0.67% per annum, and is convertible into shares of the Company’s common stock at a fixed conversion price of $0.80 per share, subject to equitable adjustments as set forth in the Amended and Restated Note. The Company and VaultLogix shall pay interest to JGB Concord on the aggregate unconverted and then outstanding principal amount of the Amended and Restated Note, payable monthly in arrears as of the last trading day of each calendar month and on May 31, 2019, in cash. In addition, the Company shall pay to JGB Concord an additional amount equal to 7.5% of the outstanding principal amount on the Amended and Restated Note on each of May 31, 2017, May 31, 2018, and May 31, 2019, subject to certain exceptions set forth in the Amended and Restated Note. JGB Concord has the right, at its option, to require the Company to redeem up to $322 of the outstanding principal amount of the Amended and Restated Note plus the then accrued and unpaid interest thereon each calendar month in cash. The Amended and Restated Note contains standard events of default.

 

The Company accounted for the Note Forbearance Agreement in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company extinguished the February 17, 2016 senior secured convertible note in the principal amount of $11,601 and recorded a new senior secured convertible debenture at its new fair value of $6,711 on the balance sheet as of May 17, 2016. As a result of the extinguishment, the Company recorded a loss on extinguishment of debt of $2,772 on the consolidated statement of operations as of May 17, 2016. In addition, the Company re-valued the derivative features associated with the February 17, 2016 senior secured convertible note. Refer to Note 8, Derivative Instruments, for additional information on this transaction.

 

In connection with the execution of the Note Forbearance Agreement, the Company issued to JGB Concord a senior secured note (the “5.2 Note”), dated May 17, 2016, in the principal amount of $5,220 that matures on May 31, 2019, bears interest at 0.67% per annum, and contains standard events of default.

 

On May 23, 2016, the Company entered into an amended agreement with JGB Concord, JGB Waltham, White Oak Global Advisors, LLC, VaultLogix, and the Guarantors thereto (the “Amended Agreement”) pursuant to which (i) JGB Concord permitted the Company to withdraw $172 from the Blocked Account (as defined in the original debenture), and (ii) JGB Concord permitted the Company to withdraw $328 from the Deposit Account (as defined in the original note) and, in exchange for the foregoing, (i) VaultLogix guaranteed the obligations of, and provide security for, the Amended and Restated Debenture and the 2.7 Note, (ii) the Company’s subsidiaries guaranteed all indebtedness due to JGB Concord under the Amended and Restated Note and 5.2 Note, and (iii) the Company and its subsidiaries pledged their assets as security for all obligations owed to JGB Concord under the Amended and Restated Note and the 5.2 Note in accordance with the terms of an Additional Debtor Joinder, dated May 23, 2016, pursuant to which the Company and each additional party thereto agreed to be bound by the terms of that certain Security Agreement, dated as of February 18, 2016, made by VaultLogix in favor of the secured party thereto (the “February Security Agreement”). In addition, the interest rates on the Amended and Restated Note and the 5.2 Note were amended from 0.67% to 1.67%.

 

25

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

  

The Company accounted for this Amended Agreement in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company accounted for the Amended Agreement as a debt modification and adjusted the fair value of the associated derivative liabilities to its fair value as of May 23, 2016. Refer to Note 8, Derivative Instruments, for additional information on this transaction.

 

On June 23, 2016, the Company entered into an amendment agreement with JGB Concord and JGB Waltham pursuant to which, (i) JGB Waltham and JGB Concord released to the Company an aggregate of $1,500 from the Deposit Account (as defined in the original note). Upon the release of the funds (i) the JGB Waltham senior secured convertible debenture (the “December Debenture”) was amended to increase the Applicable Interest Rate (as defined in the original note) by 3.0% to take effect on July 1, 2016; (ii) the December Debenture was amended to increase the annual rate of interest by 3.0% to take effect on July 1, 2016; (iii) the JGB Concord senior secured convertible note (the “February Convertible Note”) was amended to increase the Applicable Interest Rate (as defined in the original February Convertible Note) by 3.0%, to take effect on July 1, 2016; and (iv) the February Note was amended to increase the annual rate of interest by 3.0%, to take effect on July 1, 2016. After giving effect to the foregoing annual rate of interest on each December Debenture and February Convertible Note as of July 1, 2016, was 4.67%. As additional consideration for the release of the funds, the Company issued 900,000 shares of the Company’s common stock on June 23, 2016 to JGB Concord, and agreed to a make-whole provision whereby the Company will pay JGB Concord in cash the difference between $0.94 per share of the Company’s common stock and the average volume weighted average price of the Company’s common stock sixty days after the shares of the Company’s common stock are freely tradable. Refer to Note 8, Derivative Instruments, for further detail on the Company’s accounting for the JGB Concord make-whole provision.

 

The Company accounted for the June 23, 2016 amendment agreement in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company extinguished the May 17, 2016 Debenture Forbearance Note in the principal amount of $11,601 and recorded a new senior secured convertible note at its new fair value of $7,786 on the balance sheet as of June 23, 2016. As a result of the extinguishment, the Company recorded a loss on extinguishment of debt of $1,150 on the consolidated statement of operations as of June 23, 2016. In addition, the Company re-valued the derivative features associated with the May 17, 2016 Debenture Forbearance Note. Refer to Note 8, Derivative Instruments, for additional information on this transaction.

 

In connection with the execution of the September 1, 2016 Amendment Agreement, the Company executed the Second Amended and Restated Senior Secured Convertible Note (the “Amended and Restated Convertible Note”), in order to, among other things, amend the Convertible Note to (i) increase the interest rate payable thereon from 0.67% to 4.67%, (ii) provide that the Company may prepay the Amended and Restated Convertible Note upon prior notice at a 10% premium, (iii) provide that the Holder Affiliate may convert its interest in the Amended and Restated Convertible Note into shares of Common Stock at the applicable Conversion Price, and (iv) eliminate three additional 7.5% payments due to the Holder Affiliate in 2017, 2018, and 2019, as per the Convertible Note.

 

The Company accounted for the September 1, 2016 amendment agreement in accordance with ASC Topic 470-50. Because of the extinguishment, the Company recorded a loss on extinguishment of debt of $1,187 on the consolidated statement of operations as of September 1, 2016. In addition, the Company re-valued the derivative features. Refer to Note 8, Derivative Instruments, for additional information on this transaction.

 

During the three months ended September 30, 2016, JGB Concord converted $285 of principal into shares of the Company’s common stock. Refer to Note 10, Stockholders’ Deficit, for further information.

 

Principal of $4,716 related to the September 1, 2016 Second Amended and Restated Senior Secured Convertible Note remained outstanding as of September 30, 2016. Principal of $0 related to the 5.2 Note remained outstanding as of September 30, 2016.

 

8. DERIVATIVE INSTRUMENTS

 

The Company evaluates and accounts for conversion options embedded in its convertible debt and freestanding instruments in accordance with ASC 815, Accounting for Derivative Instruments and Hedging Activities (“ASC Topic 815”).

 

MidMarket Warrants

 

The Company issued warrants to lenders in 2012. These warrants were outstanding as of September 30, 2016 and December 31, 2015.

 

The terms of the warrants issued in September 2012 originally provided, among other things, that the number of shares of common stock issuable upon exercise of such warrants amounted to 11.5% of the Company’s fully-diluted outstanding common stock and common stock equivalents, whether the common stock equivalents were fully vested and exercisable or not, and that the initial exercise price of such warrants was $5.00 per share of common stock, subject to adjustment. Pursuant to an amendment to the loan agreement, on March 22, 2013, the number of shares for which the warrants are exercisable was fixed at 234,233 shares. On September 17, 2012, when the warrants were issued, the Company recorded a derivative liability in the amount of $194. The amount was recorded as a debt discount and is being amortized over the original life of the related loans. The amount of the derivative liability was computed by using the Black-Scholes pricing model, which is not materially different from a binomial lattice valuation methodology, to determine the value of the warrants issued.

 

26

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

On September 17, 2016, the fourth anniversary date of the warrants, the Company failed to meet the minimum adjusted earnings before interest, taxes, depreciation and amortization provisions set forth within the original warrant agreement. As such, the expiration date of the warrants was extended to September 17, 2018.

 

On September 30, 2016 and December 31, 2015, the Company used a binomial lattice pricing model to determine the fair value of the derivative liability of the warrants on that date and determined the fair value was $0 and $21, respectively. The Company recorded the change in the fair value of the derivative liability for the three months ended September 30, 2016 and 2015 as a gain of $11 and $41, respectively, and a gain of $21 and $117 for the nine months ended September 30, 2016 and 2015, respectively.

 

The fair value of the warrant derivative liability as of September 30, 2016 and December 31, 2015 was calculated using a binomial lattice pricing model with the following factors, assumptions and methodologies:

 

   September 30,   December 31, 
   2016   2015 
         
Fair value of Company’s common stock  $0.12   $1.00 
Volatility (for September 30, 2016, based on the Company's historical volatility; for December 31, 2015, based on the closing prices of 3-4 comparable public companies)   105%   80%
Exercise price  $4.00 - $5.00   $4.00 - $5.00 
Estimated life   2.0 years    1.7 years 
Risk free interest rate (based on 1-year treasury rate)   0.68%   0.86%

 

Forward Investments, LLC Convertible Feature

 

On February 4, 2014 and March 28, 2014, Forward Investments, LLC made convertible loans to the Company for working capital purposes in the amounts of $1,800 and $1,200, respectively. Such loans are evidenced by convertible promissory notes that bear interest at the rate of 2% and 10% per annum, were to mature on June 30, 2015 and originally were convertible into shares of the Company’s common stock at an initial conversion price of $6.36 per share.

 

The fair value of the embedded conversion feature at the date of issuance was $8,860. The Company recorded a debt discount of $6,475 and a loss on debt discount of $2,385. The debt discount is being amortized over the life of the loans. The Company used a Monte Carlo simulation on the date of issuance to determine the fair value of the embedded conversion feature.

 

On October 22, 2014, the two convertible promissory notes were modified to reduce the initial conversion price of $6.36 to $3.93. As a result, the Company used a Monte Carlo simulation to determine the fair value on the date of modification. The Company recorded the change in the fair value of the derivative liability as a loss on fair value of derivative instruments of $310.

 

On March 4, 2015, the Company and Forward Investments, LLC restructured the two promissory notes in order to extend the maturity dates thereof, reduce the seniority and reduce the interest rate accruing thereon (refer to Note 12, Related Parties, for further detail). The Company accounted for this restructuring of the promissory notes as a debt modification under ASC Topic 470-50. As part of the modification, the Company analyzed the embedded conversion feature and recorded a loss on fair value of derivative instruments of $2,600 on the unaudited condensed consolidated statement of operations.

 

In conjunction with the issuance of the 6.5% and 3% convertible notes issued to Forward Investments, LLC on March 4, 2015, the Company recorded an additional derivative liability as a debt discount in the amount of $260 and $1,970, respectively, on the date of the issuance of the notes.

 

The debt discounts are being amortized over the life of the loans. The Company used a Monte Carlo simulation on the date of issuance to determine the fair value of the embedded conversion features.

 

On August 3, 2015, the Company and Forward Investments, LLC agreed to reset the conversion price of the convertible notes to $1.58 per share of the Company’s common stock. As a result, the Company used a Monte Carlo simulation to determine the fair value of the conversion features on the date of the agreement. On the date of the transaction, the fair value of the Forward Investments convertible notes conversion feature did not change and as such, no change in fair value of derivative instruments was recorded on the unaudited condensed consolidated statement of operations.

  

On October 26, 2015, the ratchet-down feature within the original agreement was triggered and the conversion price of the convertible notes was reset to $1.25 per share of the Company’s common stock. Prior to the triggering of the ratchet-down feature, the Company revalued the derivative and recorded a gain on fair value of derivative liabilities of $120 on the consolidated statement of operations. The Company then reduced the existing derivative liability related to the reset provision and recorded the change of $2,310 in the derivative liability value as a loss on change in fair value of derivative instruments on the consolidated statement of operations.

 

27

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

On December 29, 2015, the ratchet-down feature within the original agreement was triggered and the conversion price of the convertible notes was reset to $0.78 per share of the Company’s common stock. Prior to the triggering of the ratchet-down feature, the Company revalued the derivative and recorded a gain on fair value of derivative liabilities of $3,380 on the consolidated statement of operations. The Company then reduced the existing derivative liability related to the reset provision and recorded the change of $4,140 in the derivative liability value as a loss on change in fair value of derivative instruments on the consolidated statement of operations.

 

On September 30, 2016 and December 31, 2015, the fair value of the conversion feature of the Forward Investments, LLC convertible notes was $477 and $13,534, respectively, which is included in derivative financial instruments on the unaudited condensed consolidated balance sheets. The Company recorded the change in the fair value of the derivative liability for the three months ended September 30, 2016 and 2015 as a gain of $6,909 and a loss of $1,050, respectively, and a gain of $13,057 and $290 for the nine months ended September 30, 2016 and 2015, respectively.

 

The fair value of the Forward Investments, LLC convertible notes derivative at the measurement date was calculated using the Monte Carlo simulation with the following factors, assumptions and methodologies:

 

   September 30, 
   2016 
                 
Principal amount  $3,650   $390   $1,363   $4,373 
Conversion trigger price per share  $0.78   $0.78   $0.78   $0.78 
Risk free rate   1.18%   1.18%   0.29%   0.64%
Life of conversion feature (in years)   5.3    5.3    0.3    1.3 
Volatility   100%   100%   125%   100%

 

   December 31, 
   2015 
                 
Principal amount  $3,650   $390   $2,825   $4,373 
Conversion trigger price per share  $0.78   $0.78   $0.78   $0.78 
Risk free rate   1.93%   1.93%   0.49%   1.06%
Life of conversion feature (in years)   6.0    6.0    0.5    2.0 
Volatility   105%   105%   105%   105%

 

August 6, 2015 Demand Promissory Note – Senior Convertible Note Embedded Features

 

On August 6, 2015, the Company entered into a senior convertible note agreement with the investor whereby the Company issued a promissory note in the original principal amount of $2,105, with interest accruing at the rate of 12% per annum, which matures on January 6, 2017. The Company evaluated the senior convertible note’s settlement provisions and determined that the voluntary conversion feature and fundamental transaction clauses met the criteria to be classified as embedded derivatives as set forth in ASC 815, Derivatives and Hedging and ASC 480, Distinguishing Liabilities from Equity. On August 6, 2015, the Company used a Monte Carlo simulation to value the settlement features and ascribed a value of $524 related to the voluntary conversion feature and fundamental transaction clauses and recorded these items on the unaudited condensed consolidated balance sheets as a debt discount and related derivative liability. The debt discounts are being amortized over the life of the loan.

  

On September 30, 2016 and December 31, 2015, the Company used a Monte Carlo simulation to value the settlement features of the senior convertible note and determined the fair value to be $89 and $339, respectively. The Company recorded the change in the fair value of the derivative liability for the three months ended September 30, 2016 and 2015 as a loss of $89 and gain of $118, respectively, and a gain of $250 and $118 for the nine months ended September 30, 2016 and 2015, respectively.

 

The fair value of the demand promissory note derivative at the measurement date was calculated using the Monte Carlo simulation with the following factors, assumptions and methodologies:

 

   September 30,   December 31, 
   2016   2015 
         
Principal amount  $1,520   $2,105 
Conversion price per share  $1.25   $1.25 
Conversion trigger price per share   None    None 
Risk free rate   0.39%   0.69%
Life of conversion feature (in years)   0.35    1.10 
Volatility   125%   105%

 

28

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

November 12, 2015 Demand Promissory Note – Senior Convertible Note Embedded Features

 

On November 12, 2015, the Company entered into a securities purchase agreement with an investor whereby the Company issued a senior convertible note, for cash proceeds of $500, in the original principal amount of $525. The Company evaluated the senior convertible note’s settlement provisions and determined that the voluntary conversion feature and fundamental transaction clauses met the criteria to be classified as embedded derivatives as set forth in ASC 815, Derivatives and Hedging and ASC 480, Distinguishing Liabilities from Equity. On November 12, 2015, the Company used a Monte Carlo simulation to value the settlement features and ascribed a value of $149 related to the voluntary conversion feature and fundamental transaction clauses and recorded these items on the unaudited condensed consolidated balance sheets as a debt discount and related derivative liability. The debt discounts are being amortized over the life of the loan.

 

On September 30, 2016 and December 31, 2015, the Company used a Monte Carlo simulation to value the settlement features of the senior convertible note and determined the fair value to be $15 and $155, respectively, and recorded a gain on fair value of derivative instruments of $28 and $140 on the unaudited condensed consolidated statement of operations for the three and nine months ended September 30, 2016, respectively.

 

The fair value of the demand promissory note derivative at the measurement date was calculated using the Monte Carlo simulation with the following factors, assumptions and methodologies:

 

   September 30,   December 31, 
   2016   2015 
         
Principal amount  $306   $525 
Conversion price per share  $1.75   $1.75 
Conversion trigger price per share    None      None  
Risk free rate   0.20%   0.61%
Life of conversion feature (in years)   0.12    0.87 
Volatility   125%   105%

 

31 Group, LLC April 2015 Warrants

 

In April 2015, the Company exchanged two warrants previously issued to 31 Group, LLC on April 15, 2014 and July 1, 2014 for two new warrants, each of which is identical to the previous warrants issued, except that the exercise price of such new warrants is $5.00 per share, subject to adjustments noted within the 31 Exchange Agreement. Pursuant to the 31 Exchange Agreement, on July 1, 2015, the Company was obligated to pay 31 Group, LLC a cash make-whole amount equal to the greater of (a) zero (0) and (b) the difference of (i) $5,175 less (ii) the product of (x) the Exchange Share Amount (as defined in the 31 Exchange Agreement) and (y) the quotient of (A) the sum of each of the 30 lowest daily volume weighted average prices of the Company’s common stock during the period commencing on, and including, April 8, 2015 and ending on, and including, June 30, 2015, divided by (B) 30. As part of the 31 Exchange Agreement, the registration rights agreement previously entered into between the Company and 31 Group, LLC in October 2014 was terminated.

 

On the date of issuance, the Company used the Black-Scholes pricing method, which is not materially different from a binomial lattice valuation methodology, to determine the fair value of the derivative liability of the warrants on those dates, and determined the fair value was $15 and $11, respectively.

 

On May 14, 2015, the Company and 31 Group, LLC entered into an amended agreement whereby the Company issued 100,000 shares of unregistered common stock of the Company to 31 Group, LLC in exchange for the termination of any obligation of the Company to pay the make-whole payment, as described in the 31 Exchange Agreement.

 

On September 30, 2016 and December 31, 2015, the Company used a binomial lattice pricing model to determine the fair value of the warrants and derived an implied fair value of $0 and $2, respectively, which is included in derivative financial instruments at estimated fair value on the unaudited condensed consolidated balance sheets. The Company recorded the change in the fair value of the derivative liability for the three months ended September 30, 2016 and 2015 as a gain in the unaudited condensed consolidated statements of operations of $1 and $10, respectively, and a gain of $2 and $29 for the nine months ended September 30, 2016 and 2015, respectively.

 

29

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

The fair value of the 31 Group, LLC April 2015 exchange agreement warrants derivative as of September 30, 2016 and December 31, 2015 was calculated using a binomial lattice pricing model with the following factors, assumptions and methodologies:

 

   September 30,   December 31, 
   2016   2015 
   July 1,   April 15,   July 1, 
   2014   2014   2014 
   Warrant   Warrant   Warrant 
Fair value of Company's common stock  $0.12   $1.00   $1.00 
Volatility (for September 30, 2016, based on the Company's historical volatility; for December 31, 2015, based on the closing prices of 3-4 comparable public companies)   105%   80%   80%
Exercise price per share  $5.00   $5.00   $5.00 
Estimated life   0.75 years     3.5 months    1.5 years 
Risk free interest rate (based on 1-year treasury rate)   0.52%   0.33%   0.86%

 

Bridge Financing Agreement Warrants

 

On December 29, 2015, the Company entered into an agreement with the JGB Waltham whereby the Company issued to JGB Waltham a senior secured convertible debenture (as noted in Note 7, Term Loans) and, among other things, a portion of the JGB (Cayman) Waltham Ltd. proceeds were used to repay the GPB Life Science Holdings, LLC bridge notes. On this date, the Company evaluated the payoff of the GPB Life Science Holdings, LLC bridge notes and determined that the repayment of the bridge notes qualified for debt extinguishment accounting under ASC-470-50, Debt – Modifications and Extinguishments (“ASC-470-50”). In accordance with ASC-470-50, the Company evaluated the tranche warrants and revalued the warrants at the $1.75 conversion price and determined that the fair value of the warrants was $258, which is included in common stock warrants within the stockholders’ deficit section on the condensed consolidated balance sheet as of December 31, 2015.

 

Bridge Financing Amendment No. 2 Feature

 

On December 29, 2015, the Company entered into an agreement with JGB Waltham whereby the Company issued to JGB Waltham a senior secured convertible debenture (as noted in Note 7, Term Loans) and, among other things, a portion of the JGB Waltham proceeds were used to repay the GPB Life Science Holdings, LLC bridge notes. On this date, the Company evaluated the payoff of the GPB Life Science Holdings, LLC bridge notes and determined that the repayment of the bridge notes qualified for debt extinguishment accounting under ASC-470-50, Debt – Modifications and Extinguishments (“ASC-470-50”). In accordance with ASC-470-50, the Company evaluated the maturity date feature prior to the payoff transaction and determined that the feature had a fair value of $31 as of December 31, 2015. In conjunction with the payoff, the Company re-evaluated the maturity date feature and determined that the derivative was extinguished along with the related bridge financing debt.

 

Smithline Senior Convertible Note Embedded Features

 

On August 6, 2015, the Company issued to Smithline a senior convertible note in the principal amount of $526, with interest accruing at the rate of 12% per annum, which matures on January 11, 2017. The Company evaluated the senior convertible note’s settlement provisions and determined that the voluntary conversion feature and fundamental transaction clauses met the criteria to be classified as embedded derivatives as set forth in ASC 815, Derivatives and Hedging and ASC 480, Distinguishing Liabilities from Equity. On August 6, 2015, the Company used a Monte Carlo simulation to value the settlement features and ascribed a value of $131 related to the voluntary conversion feature and fundamental transaction clauses and recorded these items on the unaudited condensed consolidated balance sheets as a debt discount and related derivative liability. The debt discounts are being amortized over the life of the loan.

 

On September 30, 2016 and December 31, 2015, the Company used a Monte Carlo simulation to value the settlement features of the senior convertible note and determined the fair value to be $0 and $85, respectively. The Company recorded the change in the fair value of the derivative liability for the three months ended September 30, 2016 and 2015 as a gain in the unaudited condensed consolidated statements of operations of $0 and $30, respectively, and a gain of $85 and $30 for the nine months ended September 30, 2016 and 2015, respectively.

  

The fair value of the Smithline convertible note derivative at the measurement date was calculated using the Monte Carlo simulation with the following factors, assumptions and methodologies:

 

   September 30,   December 31, 
   2016   2015 
         
Principal amount  $363   $526 
Conversion price per share  $1.25   $1.25 
Conversion trigger price per share    None      None  
Risk free rate   0.31%   0.69%
Life of conversion feature (in years)   0.28    1.10 
Volatility   125%   105%

 

30

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

JGB (Cayman) Waltham Ltd. Senior Secured Convertible Debenture Features

 

On December 29, 2015, the Company entered into a securities purchase agreement with JGB Waltham whereby the Company issued to JGB Waltham, for gross proceeds of $7,500, a 10% original issue discount senior secured convertible debenture in the aggregate principal amount of $7,500. The Company evaluated the senior convertible note’s settlement provisions and determined that the voluntary conversion feature and fundamental transaction clauses met the criteria to be classified as embedded derivatives as set forth in ASC 815, Derivatives and Hedging and ASC 480, Distinguishing Liabilities from Equity. On December 29, 2015, the Company used a Monte Carlo simulation to value the settlement features and ascribed a value of $1,479 related to the voluntary conversion feature and fundamental transaction clauses and recorded these items on the unaudited condensed consolidated balance sheets as a debt discount and related derivative liability. The debt discounts are being amortized over the life of the loan.

 

On May 17, 2016, the Company entered into the Debenture Forbearance Agreement with JGB Waltham pursuant to which JGB Waltham agreed to forbear action with respect to certain existing defaults in accordance with the terms of the Debenture Forbearance Agreement (Refer to Note 7, Term Loans, for further details). The Company evaluated the Debenture Forbearance Agreement and accounted for the transaction as a debt extinguishment in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company used a Monte Carlo simulation to revalue the settlement features associated with the Debenture Forbearance Agreement. The Company recorded the change in the settlement features as a loss to change in fair value of derivative instruments of $1,154 to its consolidated statement of operations on May 17, 2016.

 

On May 23, 2016, the Company entered into the Amended Agreement with JGB Concord, JGB Waltham, White Oak Global Advisors, LLC, VaultLogix, and the Guarantors. The Company accounted for this Amended Agreement in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company accounted for the Amended Agreement as a debt modification and utilized a Monte Carlo simulation to determine the fair value of the settlement features. The Company recorded a loss on the fair value of the settlement features to change in fair value of derivative instruments of $41 on the consolidated statement of operations as of May 23, 2016.

 

On June 23, 2016, the Company entered into an amended agreement with JGB Concord and JGB Waltham (refer to Note 7, Term Loans, for further detail). The Company accounted for the amended agreement as a debt extinguishment in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company used a Monte Carlo simulation to revalue the settlement features associated with the Amended Agreement. The Company recorded the change in the settlement features as a loss to change in fair value of derivative instruments of $486 to its consolidated statement of operations on June 23, 2016.

 

On September 1, 2016, the Company entered into an amended agreement with JGB Concord and JGB Waltham (refer to Note7, Term Loans, for further detail). The Company accounted for the amended agreement in regards December Debenture as a debt modification in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company used a Monte Carlo simulation to revalue the settlement features associated with the Amended Agreement. The Company recorded the change in the settlement features as a gain to change in fair value of derivative instruments of $1,552 to its consolidated statement of operations on September 1, 2016.

 

On September 30, 2016 and December 31, 2015, the Company used a Monte Carlo simulation to value the settlement features of the senior convertible notes issued to JGB Waltham and JGB Concord and determined the fair value to be $1,278 and $3,150, respectively. The Company recorded the change in the fair value of the derivative liability for the three and nine months ended September 30, 2016 as a gain of $2,281 and $2,428, respectively, which includes all extinguishment and conversion accounting for the periods in accordance with ASC Topic 470-50. These changes were recorded in the unaudited condensed consolidated statements of operations.

 

On September 1, 2016, the Company entered into an amended agreement with JGB Concord and JGB Waltham (refer to Note 7, Term Loans, for further detail). The Company accounted for the amended agreement in regards to the 2.7 Note as a debt extinguishment in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company used a Monte Carlo simulation to revalue the settlement features associated with the Amended Agreement and determined that the fair value of the features was $1,200 as of September 1, 2016.

 

On September 30, 2016, the Company used a Monte Carlo simulation to value the settlement feature of the 2.7 Note and determined the fair value to be $700 and recorded a gain on fair value of derivative instruments of $500 for the three and nine months ended September 30, 2016 on the unaudited condensed consolidated statement of operations.

 

The fair value of the JGB Waltham derivative at the measurement date was calculated using the Monte Carlo simulation with the following factors, assumptions and methodologies:

 

   September 30,   December 31, 
   2016   2015 
         
Principal amount  $5,630   $7,500 
Conversion price per share  $0.20   $1.33 
Conversion trigger price per share  $2.00   $4.00 
Risk free rate   0.84%   0.86%
Life of conversion feature (in years)   2.67    1.50 
Volatility   100%   105%

 

31

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

JGB (Cayman) Concord Ltd. Senior Secured Convertible Note

 

On February 17, 2016, the Company entered into a securities exchange agreement by and among the Company, VaultLogix, and JGB Concord, whereby the Company exchanged the White Oak Global Advisors, LLC promissory note and subsequently assigned to the lender party a new 8.25% senior secured convertible note dated February 18, 2016 in the aggregate principal amount of $11,601 (refer to Note 7, Term Loans, for further details).

 

The Company evaluated the senior secured convertible note’s settlement provisions and determined that the conversion feature and fundamental transaction clauses met the criteria to be classified as embedded derivatives as set forth in ASC 815, Derivatives and Hedging and ASC 480, Distinguishing Liabilities from Equity. On February 18, 2016, the Company used a Monte Carlo simulation to value the settlement features and ascribed a value of $1,350 related to the conversion feature and fundamental transaction clauses and recorded these items on the unaudited condensed consolidated balance sheets as a derivative liability. The debt discounts are being amortized over the life of the loan.

 

On May 17, 2016, the Company entered into the Note Forbearance Agreement with JGB Concord pursuant to which JGB Concord agreed to forbear action with respect to certain existing defaults in accordance with the terms of the Note Forbearance Agreement (Refer to Note 7, Term Loans, for further details). The Company evaluated the Note Forbearance Agreement and accounted for the transaction as a debt extinguishment in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company used a Monte Carlo simulation to revalue the settlement features associated with the Note Forbearance Agreement. The Company recorded the change in the settlement features as a loss to change in fair value of derivative instruments of $2,196 to its consolidated statement of operations on May 17, 2016.

 

On May 23, 2016, the Company entered into the Amended Agreement with JGB Concord, JGB Waltham, White Oak Global Advisors, LLC, VaultLogix, and the Guarantors. The Company accounted for this Amended Agreement in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company accounted for the Amended Agreement as a debt modification and utilized a Monte Carlo simulation to determine the fair value of the settlement features. The Company recorded a loss on the fair value of the settlement features to change in fair value of derivative instruments of $79 on the consolidated statement of operations as of May 23, 2016.

 

On June 23, 2016, the Company entered into an amended agreement with JGB Concord and JGB Waltham (refer to Note 7, Term Loans, for further detail). The Company accounted for the amended agreement as a debt extinguishment in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company used a Monte Carlo simulation to revalue the settlement features associated with the Amended Agreement to determine the fair value. The Company recorded the change in the settlement features as a loss to change in fair value of derivative instruments of $924 to its consolidated statement of operations on June 23, 2016.

 

As part of the June 23, 2016 amended agreement with JGB Concord, the Company issued 900,000 shares of the Company’s common stock on June 23, 2016 to JGB Concord (Refer to Note 10, Stockholders’ Deficit, for further detail), which includes a make-whole provision whereby the Company will pay JGB Concord in cash the difference between $0.94 per share of the Company’s common stock and the average volume weighted average price per share of the Company’s common stock sixty days after shares of the Company’s common stock are freely tradable. The Company accounted for the make-whole provision within the June 23, 2016 amendment agreement as a derivative liability and utilized a binomial lattice model to ascribe a value of $280, which was recorded as a derivative liability on the Company’s consolidated balance sheet and as a loss on extinguishment of debt on the Company’s consolidated statement of operations on June 23, 2016.

 

On September 1, 2016, the Company entered into an amended agreement with JGB Concord and JGB Waltham (refer to Note 7, Term Loans, for further detail). The Company accounted for the amended agreement as a debt extinguishment in accordance with ASC Topic 470-50. In accordance with ASC Topic 470-50, the Company used a Monte Carlo simulation to revalue the settlement features associated with the Amended Agreement. The Company recorded the change in the settlement features as a gain to change in fair value of derivative instruments of $1,308 to its consolidated statement of operations on September 1, 2016.

 

On September 30, 2016, the Company used a Monte Carlo simulation to value the settlement features of the senior secured convertible notes and determined the fair value to be $1,082 and recorded the change in fair value of derivative instruments for the three and nine months ended September 30, 2016 as a gain of $1,919 and a loss of $288, respectively, which includes all extinguishment and conversion accounting for the periods in accordance with ASC Topic 470-50. These changes were recorded in the unaudited condensed consolidated statement of operations.

 

32

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

The fair value of the JGB Concord derivative at the measurement date was calculated using the Monte Carlo simulation with the following factors, assumptions and methodologies:

 

   September 30, 
   2016 
     
Principal amount  $4,715 
Conversion price per share  $0.20 
Conversion trigger price per share  $2.00 
Risk free rate   0.84%
Life of conversion feature (in years)   2.67 
Volatility   100%

 

On September 30, 2016, the Company used a binomial lattice model to value the make-whole provision and determined the fair value to be $739 and recorded a loss on fair value of derivative instruments of $367 and $739 for the three and nine months ended September 30, 2016, respectively, on the unaudited condensed consolidated statement of operations. 

 

The fair value of the JGB Concord make-whole provision at the measurement date was calculated using a binomial lattice model with the following factors, assumptions and methodologies:

 

   September 30, 
   2016 
     
Fair value of Company’s common stock  $0.12 
Volatility   105%
Exercise price  $0.94 
Estimated life   0.4 Years 
Risk free interest rate (based on 1-year treasury rate)   0.37%

  

Net Settlement of Accounts Payable

 

On March 25, 2015, the Company issued 300,000 shares of common stock and a warrant to purchase 80,000 shares of common stock to a third-party vendor to settle various accounts payable. The shares of common stock were issued with a six-month restrictive legend and as such, the fair value of the accounts payable to be paid with the common stock had not been determined. The Company recorded the common stock at a fair value of $648 and the warrant with a fair value of $106, which reduced the accounts payable to the third party in the amount of $1,475. The Company recorded a derivative liability of $721 at the time the shares were issued. The Company used a Black-Scholes pricing model to determine the fair value of the warrant on the date it was issued.

 

On April 1, 2015, the Company cancelled the warrants to purchase 80,000 shares of common stock issued to the third party and the third party returned the 300,000 shares of common stock previously issued on March 25, 2015 to treasury stock. The Company then issued a new one-year warrant for 425,000 shares of common stock with an exercise price of $0.55 per share. The Company recorded the warrant with a fair value of $674, which reduced the accounts payable to the third party in the amount of $1,417. The Company recorded a derivative liability of $743 at the time the warrants were issued. The derivative liability relates to the difference between the accounts payable due to the third party and the fair value of the warrants on April 1, 2015. The Company used a Black-Scholes pricing model, which is not materially different from a binomial lattice valuation methodology, to determine the fair value of the warrant on the date it was issued.

 

During the quarter ended September 30, 2015, the Company revalued the accounts payable derivative and recorded a gain on fair value of derivative instruments of $379 and $179 for the three and nine months ended September 30, 2015, respectively, on the unaudited condensed consolidated statement of operations.

 

Beginning on October 9, 2015 and continuing through November 12, 2015, the third-party began exercising the warrants to purchase shares of the Company’s common stock. During this time, the third-party exercised all of the 425,000 warrants issued on April 1, 2015 to purchase 287,001 shares of the Company’s common stock. The third-party applied the proceeds from the warrant exercise to reduce outstanding accounts payable of $452. The Company recorded a reduction in accounts payable of $452, a reduction in the derivative balance of $743, and recorded a loss on fair value of derivative of $30. As of November 12, 2015, there are no remaining warrants issued for settlement of accounts payable or any related derivative liabilities.

 

On September 8, 2016, the Company issued a warrant to purchase up to a total of 2,500,000 shares of common stock at any time on or prior to April 1, 2017. The exercise price of the warrant is $0.001. The warrant was issued in consideration for the outstanding accounts payable to the holder of the warrant. Based on the agreement, the proceeds from the eventual sale of the common stock based on the exercise of all or a portion of the warrant will be applied towards unpaid invoices for services previously rendered to the Company. The Company determined that the fair value of the warrants was $460, which is included in common stock warrants within the stockholders’ deficit section on the condensed consolidated balance sheet as of September 30, 2016.

 

33

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

9. INCOME TAXES

 

As of September 30, 2016, and December 31, 2015, the Company had federal net operating loss carry forwards (“NOL’s”) of approximately $105,964 and $64,489, respectively, state NOL’s of approximately $106,576, and $60,617, respectively, and foreign NOL’s of approximately $490 and $490, respectively, that will be available to reduce future taxable income, if any. These NOL’s begin to expire in 2025. In addition, as of September 30, 2016 and December 31, 2015, the Company had federal tax credit carry forwards of $690 and 690, respectively, available to reduce future taxes. These credits begin to expire in 2022.

 

Sections 382 and 383 of the Internal Revenue Code of 1986, as amended, provide for annual limitations on the utilization of net operating loss and credit carryforwards if the Company were to undergo an ownership change, as defined in Section 382 of the Code. In general, an ownership change occurs whenever the percentage of the shares of a corporation owned, directly or indirectly, by 5-percent shareholders, as defined in Section 382 of the Code, increases by more than 50 percent over the lowest percentage of the shares of such corporation owned, directly or indirectly, by such 5-percent shareholders at any time over the preceding three years. In the event such ownership change occurs, the annual limitation may result in the expiration of the net operating losses prior to full utilization. The Company has completed a study to assess whether an ownership change has occurred or whether there have been multiple ownership changes since the Company became a “loss corporation” under the Code. As disclosed, the Company has taken these limitations into account in determining its available NOL’s.

 

During 2012, the Company acquired ownership of three entities that had historically used the cash method of accounting for tax purposes. Section 446 of the Internal Revenue Code of 1986, as amended, requires that the Company prepare its tax returns using the accrual method of accounting. As a result of this change from cash to accrual accounting for income tax purposes, the Company recognized $1,193 of income during 2015. 

  

During 2012 and 2013, the Company acquired 100% of a Puerto Rican limited liability company, thereby subjecting the Company to Puerto Rico income taxes on any Puerto Rico-sourced taxable income. Such taxes paid are considered foreign taxes that may be credited against federal income taxes payable in future years.

 

The Company’s 2013 U.S. corporation income tax return is currently under examination. During the third quarter of 2016, the Internal Revenue Service disallowed a deduction for 2013 for stock-based compensation of $1,573, related to shares of common stock issued but not vested during 2013. In addition, the Internal Revenue Service has questioned the Company’s classification of certain individuals as independent contractors rather than employees. The Company estimates its potential liability to be less than $100, but the liability, if any, upon final disposition of these matters is uncertain.

 

10. STOCKHOLDERS’ DEFICIT

 

Common Stock:

 

Issuance of shares of common stock to non-employees for services

 

During February 2016, the Company issued 180,852 shares of its common stock to consultants in exchange for consulting services relating to corporate matters. The shares were valued at fair value at $0.52 per share and were immediately vested. The Company recorded $9 to salaries and wages expense as $85 was accrued as of December 31, 2015.

 

During March 2016, the Company issued 90,909 shares of its common stock to consultants in exchange for consulting services relating to corporate matters. The shares were valued at fair value at $0.68 per share and were immediately vested. The Company recorded $62 to salaries and wages expense.

 

During July 2016, the Company issued 282,142 shares of common stock to consultants in exchange for consulting services relating to corporate matters. Of the shares issued, 57,142 were immediately vested and valued at fair value of $0.58. The Company recorded $33 to salaries and wages expense. The remaining shares, 225,000, vest on varying schedules through December 31, 2017.

 

Issuance of shares pursuant to promissory notes

 

In January 2016, the Company issued an aggregate of 466,669 shares of common stock to a third-party lender in satisfaction of notes payable aggregating $583. The shares were issued at $1.25, per the terms of the notes payable.

 

In February 2016, the Company issued an aggregate of 649,098 shares of common stock to a third-party lender in satisfaction of notes payable and accrued interest aggregating $590. The shares were issued at $1.25, per the terms of the notes payable.

 

In March 2016, the Company issued an aggregate of 402,520 shares of common stock to a third-party lender in satisfaction of notes payable aggregating $289. The shares were issued at $1.25, per the terms of the notes payable.

 

34

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

In June 2016, the Company issued an aggregate of 284,406 shares of common stock to a third-party lender in satisfaction of notes payable and accrued interest aggregating $156. The shares were issued at $0.55, per the terms of the notes payable.

 

In July 2016, the Company issued an aggregate of 588,611 shares of common stock to a third-party lender in satisfaction of notes payable and accrued interest aggregating $283. The shares were issued at average fair value of $0.46, per the terms of the agreements.

 

In August 2016, the Company issued an aggregate of 603,340 shares of common stock to a third-party lender in satisfaction of notes payable and accrued interest aggregating $207. The shares were issued at average fair value of $0.35, per the terms of the agreements.

 

In September 2016, the Company issued an aggregate of 2,064,448 shares of common stock to a third-party lender in satisfaction of notes payable and accrued interest aggregating $287. The shares were issued at average fair value of $0.15, per the terms of the agreements.

  

Issuance of shares pursuant to Smithline Senior Convertible Note

 

In February 2016, the Company issued an aggregate of 199,573 shares of common stock to a third-party lender in satisfaction of notes payable and accrued interest aggregating $75. The shares were issued at $0.38, per the terms of the note payable.

 

In March 2016, the Company issued an aggregate of 105,835 shares of common stock to a third-party lender in satisfaction of notes payable aggregating $49. The shares were issued at $0.46, per the terms of the note payable.

 

In April 2016, the Company issued an aggregate of 73,996 shares of common stock to a third-party lender in satisfaction of notes payable and accrued interest aggregating $48. The shares were issued at $0.65, per the terms of the note payable.

 

In May 2016, the Company issued an aggregate of 88,532 shares of common stock to a third-party lender in satisfaction of notes payable and accrued interest aggregating $48. The shares were issued at $0.54, per the terms of the note payable.

 

In June 2016, the Company issued an aggregate of 68,254 shares of common stock to a third-party lender in satisfaction of notes payable and accrued interest aggregating $47. The shares were issued at $0.69, per the terms of the note payable.

 

In July 2016, the Company issued an aggregate of 98,386 shares of common stock to a third-party lender in satisfaction of notes payable and accrued interest aggregating $47. The shares were issued at $0.48, per the terms of the note payable.

 

In August 2016, the Company issued an aggregate of 150,521 shares of common stock to a third-party lender in satisfaction of notes payable and accrued interest aggregating $57. The shares were issued at $0.38, per the terms of the note payable.

 

Issuance of shares pursuant to Bridge Financing Provision

 

In January 2016, the Company issued an aggregate of 500,000 shares of common stock to a third-party lender in satisfaction of notes payable aggregating $320. The shares were valued at fair value at $0.64 per share.

 

Issuance of shares pursuant to acquisition of assets of SDN Essentials, LLC

 

In January 2016, the Company issued 1,000,000 shares of common stock valued at $1.00 per share in connection with the acquisition of assets of SDN. In addition to the shares, the Company paid $50 in cash and an earn out provision of $515, subject to SDN meeting certain revenue targets.

 

During July 2016, the Company issued a pool of 50,000 shares of the Company’s common stock, which was allocated among employees of SDN.

 

35

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED)

 

Issuance of shares pursuant to acquisition of assets of 8760 Enterprises, Inc.

 

In September 2016, the Company issued 900,000 shares of common stock valued at $0.15 per share in connection with the acquisition of assets of 8760 Enterprises. In addition to the shares, the Company issued a warrant to purchase 750,000 shares of common stock, at an exercise price of $2.00 per share, with a term of four years. The Company determined that the fair value of the warrants was $36, which is included in common stock warrants within the stockholders’ deficit section on the condensed consolidated balance sheet as of September 30, 2016. In addition to the shares, the Company recorded contingent common stock of $16 along with contingent consideration of $334, subject to 8760 Enterprises meeting certain targets.

 

Issuance of shares to JGB Concord and JGB Waltham

 

In June 2016, the Company issued 900,000 shares of common stock valued at $0.92 per share as a concession for restructuring certain debt agreements.

 

In September 2016, the Company issued an aggregate of 4,592,940 shares of common stock to JGB Concord and JGB Waltham in satisfaction of notes payable and accrued interest aggregating $586. The shares were issued at average fair value of $0.13, per the terms of the agreements.

 

Issuance of shares to Forward Investments, LLC

 

In July 2016, the Company issued an aggregate of 793,519 shares of common stock to a related-party lender in satisfaction of notes payable aggregating $446. The shares were issued at average fair value of $0.55, per the terms of the agreements.

 

In August 2016, the Company issued an aggregate of 926,998 shares of common stock to a related-party lender in satisfaction of notes payable aggregating $396. The shares were issued at average fair value of $0.44, per the terms of the agreements.

 

In September 2016, the Company issued an aggregate of 3,964,061 shares of common stock to a related-party lender in satisfaction of notes payable aggregating $620. The shares were issued at average fair value of $0.15, per the terms of the agreements.

 

Issuance of shares to related parties

 

During July 2016, the Company issued an aggregate of 250,000 shares of common stock to related party lenders in satisfaction of notes payables aggregating to $200. The shares were valued at fair value at $0.80 per share, per the terms of the notes payables.

 

Purchase of Treasury Shares

 

During March 2016, the Company repurchased 1,961 shares from the Ian Gist Cancer Research Fund. The shares were valued at fair value at $0.54 per share.

 

During March 2016, the Company repurchased 141,322 shares at par value of $0.0001 per share from twenty employees who terminated employment.

 

During June 2016, the Company repurchased 55,167 shares at par value of $0.0001 per share from twelve employees who terminated employment.

 

36

 

 

INTERCLOUD SYSTEMS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

(DOLLAR AMOUNTS IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)

(UNAUDITED) 

11. STOCK-BASED COMPENSATION 

Restricted Stock 

The following table summarizes the Company’s restricted stock activity during the nine months ended September 30, 2016: 

   Number of Shares   Weighted Average Grant Date Fair Value 
Outstanding at January 1, 2016   2,023,116   $3.50 
Vested   (44,666)  $2.68 
Forfeited/Cancelled   (141,322)  $2.93 
Outstanding at March 31, 2016   1,837,128   $3.57 
           
Vested   (271,490)  $2.33 
Forfeited/Cancelled   (55,167)  $2.78 
Outstanding at June 30, 2016   1,510,471   $3.82 
           
Granted   2,334,171   $0.59 
Vested   (354,589)  $5.75 
Outstanding at September 30, 2016   3,490,053   $1.46 

For the three months ended September 30, 2016 and 2015, the Company incurred $0 and $885, respectively, in stock compensation expense from the issuance of common stock to employees and consultants. For the nine months ended September 30, 2016 and 2015, the Company incurred $71 and $7,368, respectively, in stock compensation expense from the issuance of common stock to employees and consultants.  

The Company recorded $1,051 in stock compensation expense on shares subject to vesting terms in previous periods during the three months ended September 30, 2016. The Company recorded $2,359 in stock compensation expense on shares subject to vesting terms in previous periods during the nine months ended September 30, 2016 and 2015, respectively. 

Issuance of shares of common stock to employees and officers 

During July 2016, the Company issued an aggregate of 2,044,357 shares of its common stock to various employees and officers for services rendered. The shares were valued between $0.58 and $0.68 per share. 

Issuance of shares of common stock to employees for incentive earned 

During March 2016, the Company issued an aggregate of 73,519 shares to an employee in settlement of incentives earned. The shares were valued at fair value at $0.68 per share. The Company had accrued for $50 of the expense in 2015. 

During July 2016, the Company issued an aggregate of 64,814 shares to two employees in settlement of incentives earned subject to a six-month vesting schedule. 

Options

 There were no options granted during the nine months ended September 30, 2016 or 2015. 

The following table summarizes the Company’s stock option activity and related information for the nine months ended September 30, 2016: 

       Weighted Average     
           Remaining   Aggregate 
   Shares Underlying   Exercise   Contractual   Intrinsic Value 
   Options   Price   Term (in years)   (in thousands) 
Outstanding at January 1, 2016   175,000   $3.72    6.29   $476 
Granted   -    -    -