Manuka Inc (fka MNKA)

[midastouch017]

Form 10QSB for INKSURE TECHNOLOGIES INC.


2-Aug-2005

Quarterly Report



ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
In this section, "Management's Discussion and Analysis or Plan of Operation," references to "we," "us," "our," and "ours" refer to InkSure Technologies Inc. and its consolidated subsidiaries.

This Quarterly Report on Form 10-QSB contains statements that may constitute "forward-looking statements" within the meaning, and made pursuant to the Safe Harbor provisions, of the Private Securities Litigation Reform Act of 1995. Such statements are based on management's current expectations and are subject to a number of risks and uncertainties, including, but not limited to, the difficulty inherent in operating an early-stage company in a new and rapidly evolving market, market and economic conditions, the impact of competitive products, product demand and market acceptance risks, changes in product mix, costs and availability of raw materials, fluctuations in operating results, delays in development of highly complex products, risk of customer contract or sales order cancellations and other risks detailed from time to time in our filings with the Securities and Exchange Commission. These risks and uncertainties could cause our actual results to differ materially from those described in the forward-looking statements. Any forward-looking statement represents our expectations or forecasts only as of the date it was made and should not be relied upon as representing its expectations or forecasts as of any subsequent date. Except as required by law, we undertake no obligation to correct or update any forward-looking statement, whether as a result of new information, future events or otherwise, even if our expectations or forecasts change.

The following discussion and analysis should be read in conjunction with the financial statements, related notes and other information included in this Quarterly Report on Form 10-QSB.


OVERVIEW
We specialize in comprehensive security solutions, designed to protect branded products and documents of value from counterfeiting, fraud, and diversion. By creating "Smart Protection" systems from proprietary machine-readable authentication technologies, we help companies and organizations worldwide regain control over their most valuable assets, their products, their reputation and their revenues. We employ a team of experts in the fields of material science, electro-optics and software. We utilize cross-disciplinary technological innovations to implement customized and cost efficient security systems for data and asset integrity within the customer's existing infrastructure and environment.

Our SmartInk(TM) solutions enable authentication and tracking of documents and products by adding special chemical markers to standard inks and coatings. The combination of markers, inks and materials produce electro-optic "signatures", unique codes that are seamlessly incorporated into the printed media used by the customer. Proprietary computerized readers, available in hand-held, stationary and modular kit configurations, quickly verify these codes by manual or automatic operation. By focusing on customer driven solutions, we are able to offer added value through enhanced reader functionality, including high-speed automatic sorting, one-to-many code matching, first and second level track and trace, code activation at the point of distribution and detrimental authentication for debit applications. The inherent flexibility of our technology also enables overlaying the machine-readable codes onto holograms and other overt features, resulting in multi-layered security that is both effective and economical.


FACTORS AFFECTING FUTURE RESULTS
INDUSTRY AND ECONOMIC FACTORS: Our operations and earnings are affected by local, regional and global events or conditions that affect supply and demand for products and services. These events or conditions are generally not predictable and include, among other things, general economic growth rates and the occurrence of economic recessions; the development of new supply sources; supply disruptions; technological advances, including advances in security technology and advances in technology relating to security usage; changes in demographics, including population growth rates and consumer preferences; and the competitiveness of alternative security sources or product substitutes. Currently, the economy in general is suffering. As a result, raising capital has become extremely difficult, and there is pressure on the pricing of our products and services.

COMPETITIVE FACTORS: The brand and document protection industry is competitive. There is competition with the traditional document protection suppliers (mainly protection for bank notes) and also with other emergent "next generation" technology providers. We compete with other firms in the sale and purchase of various products and services in many national and international markets and employ all methods of competition, which are lawful and appropriate for such purposes. We believe that a key component of our competitive position is our technology.


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POLITICAL FACTORS: Our operations and earnings have been, and may in the future be, affected from time to time in varying degree by political instability and by other political developments and laws and regulations, such as forced divestiture of assets; restrictions on production; imports and exports; war or other international conflicts; civil unrest and local security concerns that threaten the safe operation of our facilities, particularly those that are located in Israel; price controls; expropriation of property; and the cancellation of contract rights. Both the likelihood of such occurrences and their overall effect upon us vary greatly from country to country and are not predictable.

PROJECT FACTORS: In addition to the factors cited above, the advancement, cost and results of particular projects depend on the outcome of negotiations with potential partners, governments, suppliers, customers or other third parties; changes in operating conditions or costs; and the occurrence of unforeseen technical difficulties.


REVENUES
We are currently concentrating on entering and implementing large-scale projects. These potential contracts are subject to a long sales cycle and the timetable is lengthy for entering and implementing such projects. These projects involve high volume sales through multiple-year sales contracts. We have completed several successful field trials during the last year related to these projects. Our revenues in the second quarter of 2005 consisted of revenues from
(i) our new sales agreements for brand protection with two North American customers; (ii) ink sales related to a project in Turkey; and (iii) initial sales to new North American customers. In the second quarter of 2005 approximately 87% of our revenues were earned from customers located in the United States.


COSTS AND OPERATING EXPENSES
Costs and operating expenses consist of cost of revenues, research and development expenses, selling and marketing expenses, general and administrative expense and depreciation.

Our cost of revenues consists primarily of materials including taggants and electronic and optical parts, payments to sub-contractors and compensation costs for our operations staff.

Our research and development expenses consist primarily of costs associated with development of new generic products and the development of new products related to customer projects. These expenses may fluctuate as a percentage of revenue depending on the projects undertaken during the reporting period. Since our inception, we have expensed all research and development costs in each of the periods in which they were incurred.

Our selling and marketing expenses consist primarily of costs associated with our direct sales force that have been incurred to attract potential business customers, professional advisors and commissions. We anticipate that as we add new customers we will be able to spread these costs over a larger revenue base and accordingly improve our operating margins.

Our general and administrative expenses consist primarily of costs related to compensation and employees benefits of our management (including the costs of directors' and officers' insurance), legal and accounting fees, as well as the expenses associated with being a publicly traded company.

We have not recorded any income tax benefit for net losses and credits incurred for any period from inception to June 30, 2005. The utilization of these losses and credits depends on our ability to generate taxable income in the future. Because of the uncertainty of our generating taxable income, we have recorded a full valuation allowance with respect to these deferred assets.

CRITICAL ACCOUNTING POLICIES

Our financial statements are prepared in accordance with US GAAP. The significant accounting policies followed in the preparation of the financial statements, applied on a consistent basis and which have been prepared in accordance with the historical cost convention, are set forth in Note 2 to the Consolidated Financial Statements as of December 31, 2004.


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Of these significant accounting policies, certain policies may be considered critical because they are most important to the portrayal of our financial condition and results, and they require management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. We believe the following critical accounting policies affect our more significant judgments and estimates used in the preparation of our consolidated financial statements.

REVENUE RECOGNITION. Revenues from product sales are recognized in accordance with Staff Accounting Bulletin No. 104, "Revenue Recognition in Financial Statements", or SAB No. 104, when delivery has occurred, persuasive evidence of an agreement exists, the vendor's fee is fixed or determinable, no further obligation exists and collectability is probable. Delivery is considered to have occurred upon shipment of products. When a right of return exists, we defer revenues until the right of return expires. We do not grant a right of return to our customers.

Revenues from certain arrangements may include multiple elements within a single contract. Our accounting policy complies with the provisions of Emerging Issues Task Force Issue 00-21, "Revenue Arrangements with Multiple Deliverables" ("EITF 00-21"), relating to the separation of multiple deliverables into individual accounting units with determinable fair value.

In cases where we have partial delivery at the cut off dates and no fair value exist for the undelivered elements revenues are being deferred and recognized only at the point where the entire arrangement has been delivered.

INVENTORIES. Inventories are stated at the lower of cost or net realizable value. Cost is determined by calculating raw materials, work in process and finished products using the "first in, first out" method.

OTHER ACCRUED EXPENSES. We also maintain other accrued expenses. These accruals are based on a variety of factors including past experience and various actuarial assumptions and, in many cases, require estimates of events not yet reported to us. If future experience differs from these estimates, operating results in future periods would be impacted.

THREE MONTHS ENDED JUNE 30, 2005 COMPARED WITH THREE MONTHS ENDED JUNE 30, 2004

REVENUES. Revenues consist of gross sales of products less discounts. We are currently concentrating on entering and implementing large-scale projects. In the three months ended June 30, 2005, we had revenue of $287,000, compared to $382,000 in the three months ended June 30, 2004. Revenues decreased by $95,000, or 24.9%, in the three months ended June 30, 2005 compared to the three months ended June 30, 2004. The decrease is mainly related to lower sales to our project in Turkey during the second quarter of 2005.

COST OF REVENUE. Our cost of revenue consists of materials, sub-contractors and compensation costs. Cost of revenues increased by $8,000, or 4%, to $187,000 in the three months ended June 30, 2005 from $179,000 in the three months ended June 30, 2004. Cost of revenues as a percentage of sales was 65.1% in the three months ended June 30, 2005, compared with 46.8% in the three months ended June 30, 2004.

RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses consist primarily of compensation costs attributable to employees engaged in ongoing research and development activities, development-related raw materials and sub-contractors, and other related costs. Research and development expenses decreased by $8,000, or 4%, to $188,000 in the three months ended June 30, 2005 from $196,000 in the three months ended June 30, 2004. This decrease in research and development expenses is primarily related to the decrease in amortization expenses.

SELLING AND MARKETING EXPENSES. Selling and marketing expenses consist primarily of costs relating to compensation attributable to employees engaged in sales and marketing activities, promotion, advertising, trade shows and exhibitions, sales support, travel, commissions and related expenses. Selling and marketing expenses increased by $91,000, or 35.1%, to $350,000 in the three months ended June 30, 2005 from $259,000 in the three months ended June 30, 2004. This increase in selling and marketing expenses was primarily due to higher marketing expenses related to the new sales agreements we have entered into. We believe that the significant investment in pre-sales and marketing activities will contribute to our short-term and long-term sales levels.


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GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses consist primarily of compensation costs for administration, finance and general management personnel, insurance, legal, accounting and administrative costs. General and administrative expenses increased by $38,000, or 31.4%, to $159,000 in the three months ended June 30, 2005 from $121,000 in the three months ended June 30, 2004. The increase was primarily related to higher investor relation expenses.

FINANCIAL INCOME, NET. Financial income, net increased by $2,000, or 50% to $6,000 in the three months ended June 30, 2005 from $4,000 in the three months ended June 30, 2004. This increase is due to changes in the exchange rate between the United States Dollar and the Israeli New Shekel.

NET LOSS. We had a net loss of $591,000 in the three months ended June 30, 2005, compared with a net loss of $369,000 in the three months ended June 30, 2004. The 60.4% increase in net loss in the three months ended June 30, 2005 in comparison with the three months ended June 30, 2004 is attributable mainly to the decrease in revenue and to the increase in cost of revenue described above.

SIX MONTHS ENDED JUNE 30, 2005 COMPARED WITH SIX MONTHS ENDED JUNE 30, 2004

REVENUE. Revenue consists of gross sales of products less discounts. We are currently concentrating on entering and implementing large-scale projects. These potential contracts are subject to a long sales cycle and fluctuated timetable for entering and implementing such projects. Revenues increased by $242,000, or 44.9%, in the six months ended June 30, 2005 compared to the six months ended June 30, 2004. In the six months ended June 30, 2005, we had revenue of $781,000, compared to $539,000 in the six months ended June 30, 2004, primarily due to our new customers located in the United States.

COST OF REVENUE. Our cost of revenue consists of materials, sub-contractors and compensation costs. Cost of revenue in the six months ended June 30, 2005 was $489,000, compared to $224,000 in the six months ended June 30, 2004. Cost of revenues as a percentage of sales was 62.6% in the six months ended June 30, 2005, compared with 41.6% in the six months ended June 30, 2004. The increase in cost of revenues is the result of our strategic decision to reduce the price paid by the customer in one of new major contracts.

RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses consist primarily of compensation costs attributable to employees engaged in ongoing research and development activities, development-related raw materials and sub-contractors, and other related costs. Research and development expenses decreased by $24,000, or 6.1%, to $370,000 in the six months ended June 30, 2005 from $394,000 in the six months ended June 30, 2004. This decrease in research and development expenses is primarily related to the decrease in amortization expenses.

SELLING AND MARKETING EXPENSES. Selling and marketing expenses consist primarily of costs relating to compensation attributable to employees engaged in sales and marketing activities, promotion, advertising, trade shows and exhibitions, sales support, travel, commissions and related expenses. Selling and marketing expenses increased by $145,000, or 26.1%, to $700,000 in the six months ended June 30, 2005 from $555,000 in the six months ended June 30, 2004. This increase in selling and marketing expenses was primarily due to higher marketing expenses related to the new sales agreements we have entered into. We believe that the significant investment in pre-sales and marketing activities will contribute to our short-term and long-term sales levels.

GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses consist primarily of compensation costs for administration, finance and general management personnel, insurance, legal, accounting and administrative costs. General and administrative expenses decreased by $25,000, or 8.1 %, to $284,000 in the six months ended June 30, 2005 from $309,000 in the six months ended June 30, 2004. This decrease was primarily related to lower legal expenses.

FINANCIAL INCOME, NET. Financial income, net increased by $7,000, to $17,000 in the six months ended June 30, 2005 from $10,000 in the six months ended June 30, 2004. This increase is due to changes in the exchange rate between the United States Dollar and the Israeli New Shekel.

NET LOSS. We had a net loss of $1,045,000 in the six months ended June 30, 2005, compared with a net loss of $933,000 in the six months ended June 30, 2004. The 12.0% increase in net loss in the six months ended June 30, 2005 in comparison with the six months ended June 30, 2004 is attributable to the various influences described above.


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B. LIQUIDITY AND CAPITAL RESOURCES

We have incurred substantial losses since our inception in May 2000. We had an accumulated deficit of approximately $10,819,000 at June 30, 2005, and had a working capital (current assets less current liabilities) of approximately $1,013,000 at June 30, 2005.

Capital expenditures were approximately $7,000 in the three months ended June 30, 2005 and $28,000 in the three months ended June 30, 2004. Capital expenditures were approximately $11,000 in the six months ended June 30, 2005 and $54,000 in the six months ended June 30, 2004. We do not have any material commitments for capital expenditures for the year ending December 31, 2005.

At June 30, 2005, we had cash, cash equivalents and short-term deposits of approximately $876,000, compared to $1,682,000 at June 30, 2004. The differences from June 30, 2005 to June 30, 2004 are due to the negative cash flow from operating activities during the last fiscal year.

We generated negative cash flow from operating activities of approximately $458,000 in the three months ended June 30, 2005 compared to $323,000 in the three months ended June 30, 2004. We generated negative cash flow from operating activities of approximately $761,000 in the six months ended June 30, 2005 compared to $984,000 in the six months ended June 30, 2004.

We believe that cash generated from operations will provide sufficient cash resources to finance our operations and the projected expansion of our marketing and research and development activities for the next twelve months. However, if our operations do not generate cash to the extent currently anticipated, or we grow more rapidly than currently anticipated, it is possible that we would require more funds than presently anticipated.

C. RESEARCH AND DEVELOPMENT, PATENTS AND LICENSES

We believe that our future success will depend upon our ability to enhance our existing products and systems and introduce new commercially viable products and systems addressing the demands of the evolving markets for brand and document protection. As part of the product development process, we work closely with current and potential customers, distribution channels and leaders in certain industry segments to identify market needs and define appropriate product specifications. Our employees also participate in industry forums in order to stay informed about the latest industry developments.

Our research and development expenses were approximately $188,000 in the three months ended June 30, 2005, compared to $196,000 in the three months ended June 30, 2004. Our research and development expenses were approximately $370,000 in the six months ended June 30, 2005, compared to $394,000 in the six months ended June 30, 2004. To date, all research and development expenses have been charged to operating expense as incurred.

We currently hold five pending patents on our technologies and we have been issued two patents related to our RF technology in the United States. In addition a patent application for such technology has been approved in the European Union. Currently we are seeking additional protection for such technology in certain European countries.

D. CONTRACTUAL OBLIGATIONS AND COMMITMENTS

Our contractual obligations and commitments at June 30, 2005 principally include obligations associated with operating lease obligations and the lease of several automobiles. Our total future obligation is approximately $181,000 until 2007. We expect to finance these contractual commitments from cash on hand and cash generated from operations.

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