Indicate by check mark if the registrant is a well-known seasoned
issuer, as defined in Rule 405 of the Securities Act. Yes
¨
NO
x
Indicate by check mark if the registrant is not required to file
reports pursuant to Section 13 or Section 15(d) of the Act. Yes
¨
NO
x
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or
for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements
for the past 90 days. Yes
x
NO
¨
Indicate by check mark whether the registrant has submitted electronically
and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule
405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant
was required to submit and post such files). Yes
x
NO
¨
Indicate by check mark if disclosure of delinquent filers pursuant
to Item 405 of Regulation S-K (§ 229.405 of this chapter) is not contained herein, and will not be contained, to the best
of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form
10-K or any amendment to this Form 10-K.
¨
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 definition of
“accelerated filer,” “large accelerated filer,” and “smaller reporting company,” in Rule 12b-2
of the Exchange Act.
Indicate by check mark whether the registrant is a shell company
as defined in Rule 12b-2 of the Act. Yes
¨
NO
x
As of June 30, 2016, the aggregate market value of the registrant’s
voting stock held by non-affiliates was approximately $20.6 million based on the number of shares held by non-affiliates as of
June 30, 2016, and the last reported sale price of the registrant’s common stock on June 30, 2016.
As of March 21, 2017, the latest practicable date, 15,588,984 shares
of the registrant’s common stock, $.001 par value per share, were issued and outstanding.
This report and other written or oral statements made from time
to time by us may contain “forward-looking statements” within the meaning of the Private Securities Litigation Reform
Act of 1995. You can sometimes identify forward looking-statements by our use of the words “believes,” “anticipates,”
“expects,” “intends,” “plan,” “forecast,” “guidance” and similar expressions.
Some of the statements we use in this report, and in some of the documents we incorporate by reference in this report, contain
forward-looking statements concerning our business operations, economic performance and financial condition, including in particular:
our business strategy and means to implement the strategy; measures of future results of operations, such as revenue, expenses,
operating margins, income tax rates, and earnings per share; other operating metrics such as shares outstanding and capital expenditures;
our success and timing in developing and introducing new products or services and expanding our business; and the successful integration
of acquisitions.
Although we believe that the plans and expectations reflected in,
or suggested, by our forward-looking statements are reasonable, those statements are based on a number of assumptions and estimates
that are inherently subject to significant risks and uncertainties, many of which are beyond our control, cannot be foreseen and
reflect future business decisions that are subject to change. Accordingly, we cannot guarantee you that our plans and expectations
will be achieved. Our actual revenues, revenue growth rates and margins, other results of operations and shareholder values could
differ materially from those anticipated in our forward-looking statements as a result of many known and unknown factors, many
of which are beyond our ability to predict or control. These factors include, but are not limited to, those set forth in Item 1A
- Risk Factors of this report, those set forth elsewhere in this report and those set forth in our press releases, reports and
other filings made with the Securities and Exchange Commission (“SEC”). These cautionary statements qualify all of
our forward-looking statements, and you are cautioned not to place undue reliance on these forward-looking statements.
Our forward-looking statements speak only as of the date they are
made and should not be relied upon as representing our plans and expectations as of any subsequent date. While we may elect to
update or revise forward-looking statements at some time in the future, we specifically disclaim any obligation to publicly release
the results of any revisions to our forward-looking statements.
PART I.
Item 1. Business
Introduction
We are a provider of payment services, including debit and credit
card processing, payroll and human capital management services (“HCM services”) and card services to businesses and
their employees throughout the United States. We provide these services through four wholly-owned subsidiaries: (i) JetPay Payment
Services, TX, LLC, formerly JetPay, LLC ( “JetPay Payments, TX”), a full service, front-end and back-end processor
specializing in e-Commerce, Mobile, and custom payment processing ; (ii) JetPay Payment Services, PA, LLC, formerly ACI Merchant
Systems, LLC (“JetPay Payments, PA”), an independent sales organization (“ISO”) specializing in relationships
with banks, credit unions, and other financial institutions, as well as industry association relationships, provides debit and
credit card processing and Automated Clearing House (“ACH”) payment services to small and medium-sized businesses,
as well as large entities who process internet transactions and recurring billings; (iii) JetPay Payment Services, FL, LLC, formerly
CollectorSolutions, LLC (“JetPay Payments, FL”), a payment service provider that specializes in government, utility,
and non-profit payments and provider of MAGIC®, a payments gateway that provides real-time integrated solutions to merchants
within its verticals; and (iv) JetPay HR & Payroll Services, Inc., formerly A.D. Computer Corporation (“JetPay HR &
Payroll”), which provides HCM services including, payroll, tax filing, time and attendance, HR services, services under
the Patient Protection and Affordable Care Act (the “Affordable Care Act”) and other related services to small and
medium-sized employers. Our principal executive offices are located at 3939 West Drive, Center Valley, PA 18034, and our telephone
number is (610) 797-9500. Our website is located at
www.jetpay.com
. The reference to our website is intended to be an inactive
textual reference and the contents of our website are not intended to be incorporated into this Annual Report on Form 10-K.
Prior to December 28, 2012, we were a blank check corporation organized
under the laws of Delaware on November 12, 2010 as Universal Business Payment Solutions Acquisition Corporation. Effective August
2, 2013, Universal Business Payment Solutions Acquisition Corporation changed its name to JetPay Corporation with the filing of
its Amended and Restated Certificate of Incorporation. The Company’s ticker symbol on the Nasdaq Capital Market (“NASDAQ”)
changed from “UBPS” to “JTPY” effective August 12, 2013.
Since our incorporation, we have grown our business through organic
growth and acquisitions. On December 28, 2012, we completed the acquisitions of JetPay HR & Payroll and JetPay Payments, TX.
On November 7, 2014, we completed the acquisition of JetPay Payments, PA. Most recently, on June 2, 2016, we completed the acquisition
of JetPay Payments, FL pursuant to the terms of an Agreement and Plan of Merger, dated February 22, 2016, by and among us, CSI
Acquisition Sub One, LLC, a Delaware limited liability company and wholly-owned subsidiary of JetPay (“Merger Sub One”),
CSI Acquisition Sub Two, LLC, a Delaware limited liability company and wholly-owned subsidiary of Merger Sub One, CollectorSolutions,
Inc. (“CSI”) and Gene M. Valentino, an individual, in his capacity as representative of the shareholders of CSI. We
acquired all of the outstanding equity interest of CSI from the stockholders of CSI in exchange for consideration in the form of
our common stock and the assumption of debt.
JetPay Payment Services Business
Company Background and History
JetPay Payments, TX, JetPay Payments, PA, and JetPay Payments, FL
operate within our JetPay Payment Services Segment. Our JetPay Payment Services Segment represented over $40.7 million in annual
revenues in 2016 and approximately 10,080 end-use customers. In this Annual Report on Form 10-K, we sometimes refer to JetPay Payments,
TX, JetPay Payments, PA and JetPay Payments, FL, collectively, as “JetPay Payment Services.”
JetPay Payments, TX is a full end-to-end processor with direct connections
for authorization and settlement to all major networks enabling it to provide debit and credit card “processing-only”
services directly to merchants and ISOs, full debit and credit card acceptance services to merchants and full merchant services
to independent sales agents and ISOs, Value Added Resellers (“VARs”), and Independent Software Vendors (“ISVs”),
as well as ACH services to its customers. JetPay Payments, TX is one of fewer than approximately 20 United States processors that
connects directly to the card networks (e.g., Visa, MasterCard, Discover, American Express, etc.) for both authorization as well
as clearing and settlement services providing end-to-end processing. JetPay Payments, TX provides cost-effective, customized solutions
to its customers. JetPay Payments, TX has a specific strength in Internet and Card-Not-Present transactions, the fastest-growing
segment in the industry. JetPay Payments, TX had approximately $21.1 million in revenues in 2016 and approximately 5,400 end-use
customers. JetPay Payments, TX’s principal executive offices are located at 3361 Boyington Drive, Suite 180, Carrollton,
Texas, 75006, and its telephone number is (972) 503-8900.
JetPay Payments, PA is an ISO specializing in strategic partnerships
and relationships with banks, credit unions, and other financial institutions, as well as industry association relationships. JetPay
Payments, PA had approximately $8.3 million in revenues in 2016, and approximately 4,400 end-use customers. JetPay Payments, PA’s
principal executive offices are located at 136 East Watson Avenue, Langhorne, PA, 19047, and its telephone number is (215) 741-6970.
JetPay Payments, FL specializes in providing debit and credit card
processing services to government agencies and utilities. JetPay Payments, FL delivers these high-quality products and services
through MAGIC ®, a user-friendly gateway and reporting system that enables all users to easily integrate data and real-time
reporting. JetPay Payments, FL services several hundred state and local government agencies and utilities throughout the United
States. JetPay Payments, FL had approximately $11.3 million of revenues during the seven months period owned by JetPay and $19.0
million in revenues in 2016 on a pro forma full year basis, with approximately 280 end-use customers. JetPay Payments, FL’s
principal executive offices are located at 316 S Baylen Street, Suite 5900, Pensacola, FL, 32502, and its telephone number is (850)
858-3300.
All three JetPay Payment Services Segment companies provide us with
the ability to cross-market our payroll services and our prepaid card services to our customer base.
The JetPay Payment Services Segment provides a wide array of transaction
processing services, including:
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debit and credit card processing to merchants;
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front and back-end processing;
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debit and credit card processing for banks and credit unions;
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wholesale debit and credit card processing to ISOs, VARs, and ISVs;
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specialized and secure card processing for internet transactions;
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a unique gateway, MAGIC ®, that provides full electronic bill presentment and payment for governments and utilities;
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mobile payments through our MyMobileMoney ® product;
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end-to-end encryption and tokenization;
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specialized card processing for recurring bill payments;
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high speed network and authorization;
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ACH processing to merchants;
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the ability to adapt to virtually any website or payment application.
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JetPay has more than two decades of experience in building solutions
using current and innovative technologies. It recognized the need for a payment system built on object-oriented software that can
keep pace with rapidly changing processing requirements to provide clients with a competitive marketplace advantage. JetPay, through
its Payment Services Segment, combines real-time credit card processing, online payment capabilities and merchant account services
into one solution and operates its own front-end authorizations system, back-end clearing and settlement system and merchant accounting
system.
JetPay is an expert in providing point of sale, or POS, software
applications and systems integration, data networking, communications technologies, the card networks operating regulations and
all other areas of concern that impact the nation’s bankcard merchants. It advises on and delivers the optimal payments acceptance
solution to customers in all types of industries, including but not limited to, retailers, restaurants, travel companies, lodging
providers, supermarkets, convenience stores, governments, utilities and e-commerce providers.
JetPay, through the JetPay Payment Services Segment, can interface
with its customers using virtually any device or access point in the market, including but not limited to the following:
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personal computers (“PCs”);
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electronic cash registers;
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merchant host interfaces; and
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Geographical Financial Information
JetPay Payment Services processes transactions for customers throughout
the United States and on a limited basis in Canada. We also authorize transactions for a select number of international customers.
Marketing and Sales
JetPay Payment Services has a combined marketing and sales force.
While we focus on ISV (integrated solutions), we also sell directly to merchant and processing customers, as well as indirectly
through our ISO and VAR customers. Our direct sales force focuses on select verticals where we have a significant technology advantage,
including web developers, internet retailers, recurring billers, ISVs, technology servicers, travel companies and others. JetPay
Payment Services also recruits ISOs and VARs, especially where we can provide unique product or technology solutions. We also focus
on the customers of our financial institution and association clients, which tend to be more card-present retailers, and have a
strong presence in the government and utility segments. We also receive significant referral opportunities.
JetPay’s marketing efforts involve:
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print advertising in trade and consumer publications;
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Internet advertising, including viral and social network marketing campaigns;
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select radio advertising;
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trade show and conference exhibits; and
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bulletins featuring new products and product features.
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Independent Sales Organizations
Our JetPay Payment Services Segment has approximately 140 ISOs,
VARs, ISVs, financial institutions, referral partners and agent customers who sell on its behalf to traditional retailers, specialty
retailers, internet retailers, service companies, technology companies, government organizations, and others. Through these ISOs,
VARs, ISVs, and financial institutions, there are more than 57,300 merchants on JetPay Payment Services’ payment processing
system.
Competition
Competitors of JetPay Payment Services include financial institutions,
subsidiaries of financial institutions, and well-established payment processing companies, including TSYS, Bank of America Merchant
Services, Chase Paymentech, Elavon Inc. (a subsidiary of U.S. Bancorp), First Data Corporation, Vantiv, Inc., Global Payments,
Inc. and WorldPay US, Inc. among others.
The payment processing industry provides merchants with credit,
debit, gift and loyalty card and other payment processing services, along with related information services. The industry continues
to grow as a result of wider merchant acceptance, increased consumer use of bankcards and advances in payment processing and telecommunications
technology. According to the Nilson Report, total expenditures for all general purpose card type transactions by U.S. consumers
were $5.7 trillion in 2015, and are expected to grow to $8.1 trillion by 2020, representing a compound annual growth rate of approximately
10%. The proliferation of bankcards has made the acceptance of bankcard payments a virtual necessity for many businesses, regardless
of size, in order to remain competitive. This use of bankcards, enhanced technology initiatives, efficiencies derived from economies
of scale and the availability of more sophisticated products and services to all market segments have led to a highly competitive
and specialized industry.
The payment processing industry has approximately 3,000 ISOs; however,
there are fewer than 40 companies that actually process the transactions directly to the card networks, which include generating
the authorization, clearing the transaction, and settling the funds to the merchant. Of the few transaction processors, approximately
20 companies handle both the front-end and back-end functions. Front-end processors perform the authorization in real-time and
back-end processors perform the clearing to the card issuers and settlement to merchants every day. JetPay’s processing systems
handle both front-end and back-end processing, which gives us a competitive advantage over ISOs and other parties who must purchase
these services from a company like JetPay.
The barrier to entry to produce a new payment processing system
is high. The time and investment to develop and implement a processing system are very significant and once the system is functional
it has an immediate cost that takes millions of transactions a month to break even.
Many companies in the merchant acquiring market see a large income
rise during the holiday shopping period. Due to a large amount of recurring payment and summer-seasonal merchants in our portfolio,
we do not see a large spike in income during this period. However, we do see a small income increase in February and March and
the summer months as a result of some of our travel and other seasonal resort merchants having seasonal spikes.
Intellectual Property
JetPay Payments, TX has U.S. federal registrations for the following
trademarks: JetPay, YourETicket2Ecommerce, and CRYPTO-PAN. JetPay Payments, TX has the following registered domain names: jetpaypayments.com,
jetpaypayments.net, jetpaysolutions.com, getreporting.com, jetpay.com, jetypay.com, jetpay.net, jetpay.org, jetpayms.com, jetpay.com,
jetpayiso.com, jetpayms.net, jetpayis.com, jetpayis.net, jetpayis.org, nogateway.com, nogateway.net, standardpayments.com, youboardit.com,
uboardit.com, and mymobilemoney.com.
JetPay Payments, FL has the following
registered domain names: collectorsolutions.com, collectorsolutionsdev.com, first-settlements.com, first-settlements.info,
first-settlements.net, and first-settlements.org. In addition, JetPay Payments, FL has a Notice of Allowance from the U.S.
Patent and Trademark Office (“
USPTO
”) for the service mark “MAGIC” for use in software and
services. JetPay Payments, FL has filed with the USPTO a Statement of Use for MAGIC and if accepted, JetPay Payments, FL will
be issued a U.S. federal registration for the MAGIC service mark.
In general, trademarks remain valid and enforceable as long as the
marks are used in connection with the related products and services and the required registration renewals are filed. We believe
our trademarks have value in the marketing of our products. It is our policy to protect and defend our trademark rights.
Material Customers
JetPay Payment Services’ two largest customers represented
7.8% and 6.6% individually, or 14.4% combined of JetPay’s consolidated revenues of $56.3 million for the year ended December
31, 2016. Loss of either of these customers could have a material adverse effect on the results of operations of JetPay Payment
Services and the Company.
JetPay HR & Payroll Services Business
Company Background and History
JetPay HR & Payroll Services began as a full-service payroll
processor, providing payroll accounting, paychecks, and direct deposit primarily to customers in eastern Pennsylvania (the “Lehigh
Valley”). In 1990, JetPay HR & Payroll Services added the services of collecting and filing payroll taxes with the development
of Payroll Tax Filing Services, Inc. (“PTFS”). Over the last two years, JetPay HR & Payroll Services has transitioned
into a full-service provider of HCM services, including time and attendance, HR services, and Affordable Care Act services. These
new services accounted for 8.5% of JetPay HR & Payroll Services’ revenues in 2016. JetPay HR & Payroll Services has
a scalable processing platform that can handle significant growth with modest incremental costs. It also has specific expertise
in calculating, collecting and filing local taxes. JetPay HR & Payroll Services currently has approximately 5,240 customers
and $15.6 million in revenues for the year ended December 31, 2016, as well as an average of $48.5 million in client-held funds
with respect to average monthly payroll tax filings. JetPay HR & Payroll Services’ principal executive offices are located
at 3939 West Drive, Center Valley, Pennsylvania 18034, and its telephone number is (610) 797-9500.
JetPay HR & Payroll Services provides a wide array of payroll
and human resource services, including, but not limited to:
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collecting and filing national, state, and local taxes;
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Affordable Care Act services;
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electronic Child Support and other deduction processing;
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time and labor management services;
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pay as you go workers compensation;
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electronic, phone, fax, or paper payroll input.
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JetPay HR & Payroll Services has more than 45 years of experience
in providing secure, on-time payroll processing services to its clients. We have a secure system built on highly scalable architecture
software that can interface with rapidly changing client requirements to provide competitive marketplace advantage. JetPay HR &
Payroll Services provides payroll and tax filing solutions that meet the requirements of customers who employ anywhere from one
employee to thousands of employees through a flexible, multi-input interface that can accept paper, fax, web, or direct transmission
of payroll information in a highly secure solution.
JetPay HR & Payroll Services designs, builds and maintains all
payroll software systems and tax depositing and filing software systems, without third-party involvement. JetPay HR & Payroll
Services works to integrate its offerings to customers in a seamless software as a service (“SaaS”) process. JetPay’s
in-house programming teams allow for quick responses to statutory changes, and the ability to provide customized solutions for
its clients.
Geographical Financial Information
JetPay HR & Payroll Services’ focus to date has been in
the Lehigh Valley and the Philadelphia suburbs and their surrounding areas. However, the company has expanded its sales team and
third party relationships and is increasing its marketing scope nationally. It has customers in 39 states, and processes payroll
for employees in all 50 states.
Marketing and Sales
Marketing
JetPay HR & Payroll Services
marketing efforts include:
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print advertising in trade and business publications;
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Internet advertising and select radio advertising;
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Cross-sales to customers of our payments processing merchant and financial institution customers;
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trade show and conference exhibits; and
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bulletins featuring new products and product features.
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Sales
JetPay HR & Payroll Services focuses its
marketing efforts in the Lehigh Valley and the Philadelphia suburbs and their surrounding counties and sells directly to its
customers. JetPay HR & Payroll Services has also begun to market its payroll processing service nationally and increase
its cross-selling efforts with the customers of JetPay Payment Services. A significant part of its sales success comes in
the form of its large referral network, which includes current customers, accounting firms, law firms, financial
institutions, insurance brokers, and others.
Intellectual Property
JetPay HR & Payroll Services has U.S. federal registrations
for the following service marks: 1-800-DO-MY-PAY, Your Payroll Experts, and WorkforceToday. JetPay HR & Payroll Services has
the following registered domain names:1800domypay.com, adc0mputer.com, adcomputer.com, adcomputer.biz, adcomputer.info, adcomputer.net,
adcomputer.org, adcomputer.us, adconputer.com, assurepayroll.com, domypay.com, domypay.us, yopurpayrollexperts.com, jetpaypayroll.com,
jetpaypayroll.net, jetpayroll.com, payrolltaxsvc.com, payrolltaxsvc.info, payrolltaxsvc.net, payrolltaxsvcs.com, payrolltaxsvcs.net,
workforcetoday.com, workforcetoday.biz, workforcetoday.net, workforcetoday.co, workforcetoday.info, and workforcetoday.org.
In general, service marks remain valid and enforceable as long as
the marks are used in connection with the related products and services and the required registration renewals are filed. JetPay
HR & Payroll Services believes its service marks have value in the marketing of its services. It is its policy to protect and
defend its service mark rights.
Competition
The payroll processing services industry is highly competitive,
with services provided by outsourced providers like us, but also accounting firms and self-service options. Overall the industry
operates in three sectors: (i) large national full-service payroll providers, (ii) online self-service providers, and (iii) numerous
much smaller national, regional, local and on-line providers. Large national payroll service firms such as ADP, Paychex, Paylocity,
PayCom, Ceridian, and Intuit have a combined revenue market share of approximately 50%. JetPay HR & Payroll Services competes
with all three levels of payroll processing companies.
Competition in the payroll processing industry has historically
been based on service responsiveness, accuracy, quality, reputation, range of product offering and price. The payroll industry
faces continually evolving tax, regulatory and technology environments, which for smaller competitors create increasingly complex
tax compliance, technology, service, and platform development challenges that they may lack the technical and financial resources
to overcome. More recently, the ability to provide integrated services including payroll, tax filing, HR services, time and attendance,
and Affordable Care Act reporting has become more important to large employers. JetPay HR & Payroll Services believes it is
well-positioned to gain payroll customers from those challenged providers. Additionally, it believes its competitive position is
enhanced through its ability to offer payment processing services to payroll customers through JetPay Payment Services and thus
offer an integrated services suite, which will provide its customers with efficient and convenient options.
Regulation
The United States financial services industry is subject to extensive
regulation. Many regulators, including federal and other governmental agencies and self-regulatory organizations, as well as state
and provincial securities commissions, insurance regulators and attorneys general, are empowered to conduct administrative proceedings
and investigations that can result in censure, fine, the issuance of administrative orders, such as orders denying exemptions,
cease-and-desist orders, prohibitions against engaging in some lines of business, suspension or termination of licenses or the
suspension or expulsion of a dealer, broker-dealer, investment adviser or insurance distributor. The requirements imposed by regulators
are designed to ensure the integrity of the financial markets and to protect customers, policy holders and other third parties
who deal with financial services firms and are not designed to protect our stockholders. Regulations and investigations may result
in limitations on our activities.
Payment processing companies domiciled or operating in the United
States are subject to extensive regulation and supervision by varying federal and state banking agencies. Many of these regulations
are intended to protect parties other than stockholders, such as individuals whose information is being transmitted. Accordingly,
examples of regulatory requirements to which we are subject, generally include the Dodd Frank Wall Street Reform and Consumer Protection
Act (“Dodd-Frank”), the Credit Card Accountability Responsibility and Disclosure Act of 2009, the Electronic Fund Transfer
Act, the Health Insurance Portability and Accountability Act, the USA Patriot Act of 2001, the Gramm-Leach-Bliley Act and various
federal and state consumer protection and privacy laws. In addition, changes in current laws or regulations and future laws or
regulations may substantially restrict the nature of our business. In addition, some states are interpreting their own statutes
differently than federal law, which may create additional cost burden for compliance.
Competition
Our overall business strategy is to provide payment services to
businesses and their employees, especially businesses who require internet processing or processing of recurring billings. Our
JetPay Payment Services and JetPay HR & Payroll Services operations face significant competitors as described above under the
applicable Competition headings in this Annual Report on Form 10-K.
We also intend to acquire additional organizations within these
markets, as well as companies that provide complementary or ancillary services. In identifying, evaluating and selecting these
potential target businesses, we may encounter intense competition from other entities having a business objective similar to ours.
We may be subject to competition from several entities having a business objective similar to ours, including venture capital firms,
leverage buyout firms and operating businesses looking to expand their operations through the acquisition of a target business.
Many of these entities are well-established and have extensive experience identifying and effecting business combinations directly
or through affiliates. Many of these competitors possess greater technical, human and other resources than us and our financial
resources will be relatively limited when contrasted with those of many of these competitors. This inherent competitive limitation
gives others an advantage in pursuing the acquisition of a target business. Further, the following may not be viewed favorably
by certain target businesses, including our obligation to seek stockholder approval of an acquisition under certain circumstances,
which may delay the completion of a transaction.
Any of these factors may place us at a competitive disadvantage
in successfully acquiring additional businesses. Our management believes, however, that our status as a public company and our
existing access to the United States public equity markets may give us a competitive advantage over privately-held entities having
a similar business objective as ours in acquiring a target business with significant growth potential on favorable terms.
Employees
As of March 13, 2017, we had approximately 235 employees, of which
approximately 103 were employed in our JetPay Payment Services Segment, all of which were full-time; 127 were employed in our JetPay
HR & Payroll Segment, 100 of which were full-time and 27 of which were part-time; and five were employed in our corporate accounting,
finance, marketing, and investor relations, including four in executive management. None of our employees are covered by a collective
bargaining agreement.
Available Information
We provide internet access to our Annual Reports on Form 10-K,
Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to those reports through our Investor Relations section
at
www.jetpay.com
. The SEC maintains a website (
www.sec.gov
) where these filings also are available through the
SEC’s EDGAR system. There is no charge for access to these filings through either our site or the SEC’s site, although
users should understand that there may be costs associated with electronic access, such as usage charges from Internet access
providers and telephone companies, which they may bear. The public also may read and copy materials filed by JetPay with the SEC
at the SEC’s Public Reference Room at 100 F Street, N.E., Washington, DC 20549. The public may obtain information on the
operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330.
Item 1A. Risk Factors
Risk Factors Related to Our Business and Common Stock
Risks Related to Our Business and Our Common Stock
If we are unable to finance our business, we may need to seek
capital at unfavorable terms and our stock price may decline as a result thereof.
Our capital requirements include working capital for daily operations,
including expenditures to maintain our technology platforms. In May of 2013, we entered into a contract and transitioned our processing
to a new sponsoring bank, Wells Fargo Bank. Our sponsoring bank requires a $1.9 million reserve which we satisfied with a letter
of credit at December 31, 2015. The letter of credit matured in January 2016 and was replaced with a restricted cash deposit of
$1.9 million. We are currently working with several financial institutions to secure a new $1.9 million letter of credit at which
time the restricted cash reserves would be released for operating needs. There can be no assurance that a letter of credit will
be obtained or be obtained on reasonable terms. If a letter of credit cannot be obtained, the Company may need to pursue other
debt instruments, which may be on unfavorable terms and which could have a material adverse effect on our business, operating
results and financial condition. While we were successful in selling 133,333 shares of Series A Convertible Preferred Stock, par
value $0.001 per share (“Series A Preferred”) to affiliates of Flexpoint Ford, LLC (“Flexpoint”) and Sundara
Investment Partners, LLC (“Sundara”) for an aggregate of $40.0 million, less certain expenses, and 6,165 shares of
Series A-1 Convertible Preferred Stock, par value $0.001 per share (“Series A-1 Preferred” and, together with the
Series A Preferred, the “Preferred Shares”) to affiliates of Wellington Capital Management, LLP (“Wellington”)
for an aggregate of $1.85 million, we may need to secure additional borrowings and possible equity investments to continue to
grow the company organically and through acquisitions. There can be no assurance we will be able to continue to obtain financing
at favorable terms and our stock price may decline as a result thereof. If we do not continue to secure additional capital, we
may need to curtail our future growth plans.
The holders of our shares of Series A Preferred exercise
substantial control over the Company, and have certain rights, preferences and privileges that are not held by our common stockholders.
We have issued and sold 99,666 shares of Series A Preferred
to Flexpoint and 33,667 shares of Series A Preferred to Sundara pursuant to that certain securities purchase agreement, dated August
22, 2013 (as amended and amended and restated, the “Series A Purchase Agreement”). These shares of Series A Preferred
are convertible into shares of our common stock based on the conversion price in effect on the date of conversion as provided in
the certificate of designation applicable to the Series A Preferred. If all of the outstanding shares of Series A Preferred were
converted into shares of our common stock on the date of this annual report, the resulting shares of common stock would constitute
a majority of our outstanding shares of common stock. In addition, the holders of shares of Series A Preferred are entitled to
vote with the holders of our common stock on an as-converted basis, subject to certain limitations. As a result, these stockholders,
acting individually or together, have substantial influence and control over management and matters that require approval by our
stockholders, including amendments to our certificate of incorporation and bylaws and approval of significant corporate transactions,
including mergers and sales of substantially all of our assets. This concentration of ownership may make the execution of some
transactions more difficult or impossible without the support of these stockholders. It is possible that the interests of the holders
of shares of our Series A Preferred may in some circumstances conflict with our interests or the interests of our other stockholders,
including you. Certain of our directors are also officers or control persons of Flexpoint and Sundara. Although these directors
owe a fiduciary duty to manage us in a manner beneficial to us and our stockholders, these individuals also owe fiduciary duties
to these other entities and their shareholders, members and limited partners. Because Flexpoint, Sundara and their respective affiliates
have such interests in other companies and engage in other business activities, certain of our directors may experience conflicts
of interest in allocating their time and resources among our business and these other activities.
In addition, shares of Series A Preferred have associated rights,
preferences and privileges that are not held by the holders of our common stock, including, but not limited to, the right to receive
a liquidation preference of $600 per share of Series A Preferred prior to any payments made to holders of our common stock upon
the occurrence of certain events, and that in certain instances are preferential to the rights of the holders of our common stock,
including the right to appoint designees to our board. As a result, the interests of the holders of shares of Series A Preferred
may differ from the interests of the holders of our common stock in material respects.
Our settlement of litigation with Merrick Bank Corporation
has lowered the conversion price of the Preferred Shares.
The purchase agreements relating to the sale of shares of Series
A Preferred and Series A-1 Preferred include certain indemnification provisions which provide for the reduction of the conversion
price of the Preferred Shares upon the occurrence of certain events. Flexpoint, on behalf of itself and Sundara, delivered a notice
to JetPay for an adjustment to the conversion price of the Series A Preferred based upon the settlement of litigation with Merrick
Bank Corporation (the “Direct Air Matter”) announced in July 2016. On March 23, 2017, the conversion price of Series
A Preferred was adjusted to $2.36 pursuant to the Series A Purchase Agreement and, in connection with such adjustment, the conversion
price of the Series A-1 Preferred was adjusted to $2.45 pursuant to the Series A-1 Purchase Agreement. Any additional claims for
indemnification pursuant to these purchase agreements could result in a further reduction in the conversion price of the Preferred
Shares.
Pursuant to agreements by and among the preferred shareholders,
the Series A and Series A-1 Preferred conversion price may be adjusted upward upon a successful recovery of funds in the Company’s
lawsuit against Valley National Bank, Civil Action No. 2:14-cv-7827 (D. N.J.).
We have a history of losses since inception and if we continue
to incur losses, the price of our shares can be expected to fall.
We have experienced losses from inception through December 31, 2016.
While most of these losses have been due to non-cash amortization and the charge related to the settlement of the Direct Air Matter
(see below), until the Company’s products and services generate sufficient annual revenues, the Company will be required
to use its cash and cash equivalents on hand, and may need to continue to raise capital to meet its cash flow requirements including
the issuance of common stock or debt financing at unfavorable terms. Despite positive cash flow excluding non-cash amortization
relating to intangible assets, deferred financing fees and debt discounts and conversion options, we incurred a net loss before
accretion of convertible preferred stock of $8.2 million and $1.2 million for the years ended December 31, 2016 and 2015, respectively.
If we incur losses in the future, the price of our common stock may fall. The net loss before accretion of convertible preferred
stock for the year ended December 31, 2016, included a charge related to the settlement of the Direct Air Matter in the amount
of $6.2 million.
We may require additional financing or find it necessary to
raise capital to sustain our operations and without it we may not be able to execute on our business plan
.
At December 31, 2016, we had net working capital of approximately
$5.0 million. We had net cash provided by operating activities of $1.5 million, and $3.3 million for the years ended December 31,
2016, and 2015, respectively. Although we believe that we have adequate existing resources to provide for our debt service and
other funding requirements through at least April 1, 2018, there can be no assurances that we will be able to continue to generate
sufficient funds thereafter. Unless we maintain or grow our current level of operations, we may need additional funds to continue
these operations. We also need additional capital to perform usual updates to our technology or respond to unusual or unanticipated
non-operational events. In the past, we have been successful in obtaining financing by obtaining loans and selling shares of our
equity securities, including the Series A Preferred investment by Flexpoint and Sundara and the Series A-1 Preferred investment
by Wellington. To fund and integrate future acquisitions or expand our technology platforms for new business initiatives, we may
need to raise additional capital through loans, sales of Series A-1 Preferred, or additional equity issuances. In addition, we
continue to investigate the capital markets for sources of funding, which could take the form of additional debt or equity financing.
We cannot provide any assurance that we will be successful in securing new financing or that we will secure such future financing
with commercially acceptable terms. Should the financing we require to sustain our working capital needs and investments in technology
be unavailable or prohibitively expensive when we require it, the consequences could have a material adverse effect on our business,
operating results and financial condition.
The agreements governing our debt contain various covenants
that may constrain the operation of our business, and our failure to comply with these covenants may have a material adverse effect
on our financial condition and results of operations.
Our ongoing ability to comply with the financial and other
covenants contained in the agreements governing our indebtedness, including but not limited to our financing agreements with
First National Bank of Pennsylvania, Fifth Third Bank, and LHLJ, Inc., depends largely on the achievement of adequate levels of cash flow.
Our failure to comply with these covenants may result in the acceleration of our indebtedness and may have a material adverse
effect on our financial condition and results of operations. In addition, upon the occurrence of an Event of Noncompliance
(as defined in the Series A Purchase Agreement) under any of these financing agreements, the holders of a majority of the
Series A Preferred may demand immediate redemption of all or a portion of the shares of Series A Preferred at the
then-applicable liquidation value. Such holders may also exercise a right to have the holders of the Series A Preferred
elect a majority of the Board by increasing the size of the Board and filling such vacancies. Such right to control a
majority of the Board would exist for so long as the event of default was continuing.
We may be required to incur further debt to meet future capital
requirements of our business. Should we be required to incur additional debt, the restrictions imposed by the terms of such debt
could adversely affect our financial condition and our ability to respond to changes in our business.
If we incur additional debt, we may be subject to the following
risks:
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our vulnerability to adverse economic conditions may be heightened;
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our flexibility in planning for, or reacting to, changes in our business may be limited;
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our debt covenants may affect our flexibility in planning for, and reacting to, changes in the economy and in our industry;
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higher levels of debt may place us at a competitive disadvantage compared to our competitors or prevent us from pursuing opportunities;
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covenants contained in the agreements governing our indebtedness may limit our ability to borrow additional funds and make
certain investments;
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a significant portion of our cash flow could be used to service our indebtedness; and
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our ability to obtain additional financing in the future for working capital, capital expenditures, acquisitions or other general
corporate purposes may be impaired.
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We cannot assure you that our leverage and such restrictions will
not materially and adversely affect our ability to finance our future operations or capital needs or to engage in other business
activities. In addition, we cannot assure you that additional financing will be available when required or, if available, will
be on terms satisfactory to us.
We may need to raise additional funds
to finance our future capital needs, which may prevent us from growing our business.
We may need to raise additional funds to finance
our future capital needs, including developing new products and technologies or to fund future acquisitions or operating needs.
If we raise additional funds through the sale of equity securities, these transactions may dilute the value of our outstanding
common stock. We may also decide to issue securities, including debt securities that have rights, preferences and privileges senior
to our common stock. We may be unable to raise additional funds on terms favorable to us or at all. If financing is not available
or is not available on acceptable terms, we may be unable to fund our future needs. This may prevent us from increasing our market
share, capitalizing on new business opportunities or remaining competitive in our industry.
To the extent the contingent consideration owed to the former
owner of JetPay Payment Services, TX becomes due and payable, we may be unable to pay such amounts, which could result in dilution
to the ownership interests of our stockholders and/or a decline in our stock price.
If before December 28, 2017, the price of our common stock equals
or exceeds $9.50 per share for any 20 trading days within a 30 day trading period, we would be obligated to pay $5,000,000 in cash
to WLES, L.P. pursuant to the terms of the agreement by which we acquired JetPay Payment Services TX, LLC from its sole member,
WLES, L.P. We can give no assurances that we will be able to pay off this obligation to the extent it becomes due and payable.
In that event, we would need to obtain additional funding, which could result in significant dilution to the ownership interests
of our then existing stockholders to the extent we issue equity securities or convertible debt and could result in a decline in
the price of our common stock. We cannot assure you that we would be able to obtain such additional financing on terms acceptable
to us, if at all.
Our balance sheet includes significant amounts of goodwill
and intangible assets. The impairment of a significant portion of these assets would negatively affect our business, financial
condition, and results of operations.
As a result of our acquisitions a significant portion of our total
assets consist of intangible assets (including goodwill). Goodwill and identifiable intangible assets together accounted for approximately
40% of the total assets on our balance sheet as of December 31, 2016. We may not realize the full fair value of our intangible
assets and goodwill. We expect to engage in additional acquisitions, which may result in our recognition of additional identifiable
intangible assets and goodwill. We will evaluate on a regular basis whether all or a portion of our goodwill and identifiable intangible
assets may be impaired. Under current accounting rules, any determination that impairment has occurred would require us to write-off
the impaired portion of goodwill and such intangible assets, resulting in a charge to our earnings. An impairment of a significant
portion of goodwill or intangible assets could have a material adverse effect on our business, financial condition, and results
of operations.
We may discover or otherwise become aware of adverse information
regarding our acquired businesses, and we may be required subsequently to take write-downs or write-offs, restructuring, and impairment
or other charges that could have a significant negative effect on our financial condition, results of operations and our share
price. Any such development could cause you to lose some or all of your investment.
We conducted due diligence investigations of the businesses we acquired,
and intend to do the same with any business we consider in the future. Intensive due diligence is time consuming and expensive
due to the operations, accounting, finance and legal professionals who must be involved in the due diligence process. Even if we
conduct extensive due diligence on a target business, and despite the due diligence performed on the acquired companies, we cannot
assure you that this process has identified or will identify all material issues that may be present inside a particular target
business, or that factors outside of the target’s business and our control will not later arise. If our due diligence investigation
fails to identify material issues relating to a target business, industry or the environment in which the target business operates,
we may be forced to later write-down or write-off assets, restructure our operations, or incur impairment or other charges that
could result in our reporting losses. Even if these charges may be non-cash items and may not adversely affect our liquidity, the
fact that we report charges of this nature could contribute to negative market perceptions about us or our securities. In addition,
charges of this nature may cause us to violate net worth or other covenants to which we may be subject as a result of assuming
debt held by a target business or by virtue of our otherwise obtaining debt financing.
Any acquisitions that we make could disrupt our business
and harm our financial condition.
Acquisitions are part of our growth strategy. We evaluate, and expect
in the future to evaluate potential strategic acquisitions which provide new product and service sales channels or that enhance
our current technologies. We may not be able to successfully integrate any businesses, services or technologies that we acquire.
Additionally, the integration of any acquisition may divert management’s time and resources from our core business and disrupt
our operations. To the extent we pay the purchase price of any acquisition in cash, it would reduce our cash reserves, and to the
extent the purchase price is paid with our stock, it would be dilutive to our stockholders. To the extent we pay the purchase price
with proceeds from the incurrence of debt, it would increase our already high level of indebtedness and could negatively affect
our liquidity and restrict our operations.
We compete with many companies, some of whom are more
established and better capitalized than us.
We compete with a variety of companies, some of which operate on
an international basis. Some of these companies are larger and better capitalized than us. There are also few barriers for entry
into many of our markets and thus above average profit margins will likely attract additional competitors. Our competitors may
develop products and services that are superior to, or have greater market acceptance than, our products and services. For example,
many of our current and potential competitors have longer operating histories, significantly greater financial, technical, marketing
and other resources and larger customer bases than ours. These factors may allow our competitors to respond more quickly than we
can to new or emerging technologies and changes in customer requirements. Our competitors may engage in more extensive research
and development efforts, undertake more far-reaching marketing campaigns and adopt more aggressive pricing policies, which may
allow them to offer superior products and services.
Our stock price has been, and likely will continue to
be, volatile and an investment in our common stock may suffer a decline in value.
The market price of our common stock has in the past been, and is
likely to continue in the future to be, volatile. That volatility depends upon many factors, some of which are beyond our control,
including:
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announcements regarding the results of expansion or development efforts by us or our competitors;
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announcements regarding the acquisition of businesses or companies by us or our competitors;
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technological innovations or new products and services developed by us or our competitors;
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announcements or actual changes in banking and financial service regulations at the federal or state level;
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issuance of new or changed securities analysts’ reports and/or recommendations applicable to us or our competitors;
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relatively low percentage of our stock eligible to be traded;
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additions or departure of our key personnel;
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operating losses by us; and
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actual or anticipated fluctuations in our quarterly financial and operating results and degree of trading liquidity in our
common stock.
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One or more of these factors could cause a decline in our revenues
and income or in the price of our common stock, thereby reducing the value of an investment in our Company.
Our policy of not paying cash dividends on our common
stock could negatively affect the price of our common stock.
We have not paid in the past, and do not expect to pay in the foreseeable
future, cash dividends on our common stock. We expect to reinvest in our business any cash otherwise available for dividends. Our
decision not to pay cash dividends may negatively affect the price of our common stock.
Future issuances of shares of our common stock or sales by
certain insiders may cause our stock price to decline and impair our ability to raise additional capital.
In December 2015 and January 2016, we issued 517,037 shares of our
common stock to certain investors, including certain of our director and executive officers, under a series of private placements
of our common stock. The issuance of a significant number of additional shares of our common stock, or the perception that such
future sales could occur, particularly with respect to sales by our directors, executive officers, and other insiders or their
affiliates, could materially and adversely affect the market price of our common stock and impair our ability to raise capital
through the sale of additional equity securities at a price we deem appropriate.
If we raise additional capital in the future, your ownership
in us could be diluted.
Any issuance of additional equity we may undertake in the future
could cause the price of our common stock to decline, or require us to issue shares at a price that is lower than that paid by
holders of our common stock in the past, which would result in those shares being dilutive. If we obtain funds through a credit
facility or through the issuance of debt or preferred securities, these securities would likely have rights senior to your rights
as a common stockholder, which could impair the value of our common stock.
The reporting requirements of being a publicly-traded company
increase our overall operating costs and subject us to increased regulatory risk.
As a publicly-traded company, we are subject to the reporting requirements
of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), the Sarbanes-Oxley Act of 2002 (the “Sarbanes-Oxley
Act”) and the listing requirements of Nasdaq. Section 404 of the Sarbanes-Oxley Act requires that we maintain effective internal
control over financial reporting and disclosure controls and procedures. In particular, we must perform system and process evaluation
and testing of our internal control over financial reporting to allow management to assess the effectiveness of our internal control
over financial reporting, which is expensive and requires the attention of our limited management resources. The various financial
reporting, legal, corporate governance and other obligations associated with being a publicly-traded company require us to incur
significant expenditures and place additional demands on our management, administrative, operational, and financial resources.
If we are unable to continue to comply with these requirements in a timely and effective manner in the future, we and/or our executive
officers may be subject to sanctions by the SEC, and our ability to raise additional funds in the future may be impaired and ultimately
affects our business. We will continue to incur additional expenses as a result of being a publicly traded company.
We are dependent upon a small number of individual employees,
and their loss could adversely affect our ability to operate.
Our operations are dependent upon a relatively small group of individuals,
including Diane (Vogt) Faro, our Chief Executive Officer, Michael Collester, our Chief Operating Officer, Gregory Krzemien, our
Chief Financial Officer, Peter Davidson, our Vice Chairman and Corporate Secretary, and Michael Pires, our President of JetPay
HR & Payroll Services. We believe that our success depends on the continued service of these individuals. With the exception
of Ms. Faro and Mr. Collester, we do not have employment agreements with these individuals. The loss of any of these individuals
could have a detrimental effect on our Company.
Our risk management framework may not
be fully effective in mitigating our risk exposure against all types of risks.
Our risk management framework seeks to mitigate risk and loss to
us. We have established processes and procedures intended to identify, measure, monitor, manage and report our risks. However,
as with any risk management framework, there are inherent limitations to our risk management strategies such that there could be
risks that we cannot anticipate or identify. If our risk management framework were to become ineffective, we could experience unexpected
losses that could have a material adverse effect on our business, financial condition or results of operations.
The ability to recruit, retain and develop qualified personnel
is critical to the Company’s success and growth.
For us to successfully compete and grow, we must retain, recruit
and develop the necessary personnel who can provide the needed expertise required in our business. Additionally, we must develop
our personnel to provide succession plans capable of maintaining continuity in the midst of the unpredictability of human capital.
However, the market for qualified personnel is competitive and we may not succeed in recruiting additional personnel or may fail
to effectively replace current personnel who depart with qualified or effective successors. The Company’s effort to retain
and develop personnel may also result in significant additional expenses. The Company cannot assure you that key personnel, including
executive officers, will continue to be employed or that it will be able to attract and retain qualified personnel in the future.
Failure to retain or attract key personnel could have a material adverse effect on the Company.
Changes in laws or regulations, or failure to comply with
any laws and regulations, may adversely affect our business, investments and results of operations.
We are subject to laws and regulations enacted by national, regional
and local governments. In particular, we will be required to comply with certain SEC and other legal requirements. Compliance with,
and monitoring of, applicable laws and regulations may be difficult, time consuming and costly. Those laws and regulations and
their interpretation and application may also change from time to time and those changes could have a material adverse effect on
our business, investments and results of operations. In addition, a failure to comply with applicable laws or regulations, as interpreted
and applied, by any of the persons referred to above could have a material adverse effect on our business and results of operations.
Our business and reputation may be affected by security breaches
and other disruptions to our information technology infrastructure, which could compromise our Company and customer information.
We rely upon information technology networks and systems to process,
transmit, and store electronic information, and to support a variety of business processes. In order to provide our services, we
process and store sensitive business information and personal information about our merchants, merchants’ customers, ISOs,
vendors, partners and other parties. This information may include credit and debit card numbers, bank account numbers, social security
numbers, driver’s license numbers, names and addresses, and other types of personal information or sensitive business information.
Vulnerabilities, threats, and more sophisticated and targeted computer crime pose a risk to the security of our systems and networks,
and the confidentiality, availability, and integrity of our data. While we attempt to mitigate these risks by employing a number
of security measures and constantly updating and adapting security requirements, our networks, products, and services remain potentially
vulnerable to advanced persistent threats.
If we experience a problem with the functioning of key systems or
a security breach of our systems, the resulting disruptions could have a material adverse effect on our business. Our business
involves the use of significant amounts of private and confidential customer and client information including credit and debit
card numbers and related “magnetic stripe” information, bank account and transit routing numbers, employees’
identification numbers, bank accounts, and retirement account information. This information is critical to the accurate and timely
provision of services to clients, and certain information may be transmitted via the Internet. This information could be compromised
by a cyber-attack. There is no guarantee that our systems and processes are adequate to protect against all security breaches.
If our systems are disrupted or fail for any reason, or if our systems are infiltrated by unauthorized persons, both we and our
clients could experience data loss, financial loss, harm to reputation, or significant business interruption. We may be required
to incur significant costs to protect against damage caused by disruptions or security breaches in the future. Such events may
expose us to unexpected liability, litigation, regulation investigation and penalties, loss of clients’ business, unfavorable
impact to business reputation, and there could be a material adverse effect on our business and results of operations.
Insiders and affiliates continue to have substantial control
over us, which could delay or prevent a change in control.
As of March 21, 2017, our directors and named executive officers,
together with their affiliates, beneficially owned, in the aggregate, approximately 59.0% of the outstanding shares of our common
stock. As a result, these stockholders, acting together, may have the ability to delay or prevent a change in control that may
be favored by other stockholders and otherwise exercise significant influence over all corporate actions requiring stockholder
approval, irrespective of how our other stockholders may vote, including:
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the appointment of directors, including three directors appointed directly by holders of the Series A Preferred;
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the appointment, change or termination of management;
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any amendment of our certificate of incorporation or bylaws;
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the approval of acquisitions or mergers and other significant corporate transactions, including a sale of substantially all
of our assets; or
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the defeat of any non-negotiated takeover attempt that might otherwise benefit the public stockholders.
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Our amended and restated certificate of incorporation and
our amended and restated bylaws and Delaware law contain provisions that could discourage, delay or prevent a change in our control
or our management.
Provisions of our amended and restated certificate of incorporation,
bylaws and the laws of Delaware, the state in which we are incorporated, may discourage, delay or prevent a change in control of
us or a change in management that stockholders may consider favorable. These provisions:
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establish a classified, or staggered, Board of Directors, so that not all members of our board may be elected at one time;
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limit who may call a special meeting of stockholders;
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establish advance notice requirements for nominations for election to our Board of Directors or for proposing matters that
can be acted upon at stockholder meetings;
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prohibit stockholder action by written consent, thereby requiring all stockholder actions to be taken at a meeting of our stockholders;
and
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provide our Board of Directors with the ability to designate the terms of and issue new series of preferred stock without stockholder
approval.
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These provisions could discourage proxy contests and make it more
difficult for you and other stockholders to remove and elect directors and take other corporate actions. These provisions could
also limit the price that investors might be willing to pay in the future for shares of our common stock.
We could be delisted from the Nasdaq Capital Market if we
fail to comply in the future with Nasdaq’s continuing listing requirements.
Our common stock is listed on the Nasdaq Capital Market and is subject
to the continuing listing requirements of the Nasdaq Capital Market, including maintaining a stock closing price above $1.00 and
certain other financial measurements. If we are unable to continue to meet the continuing listing requirements, we could be delisted
from the Nasdaq Capital Market. Upon delisting from the Nasdaq Capital Market, our stock would be traded on the Over-The-Counter
Bulletin Board, more commonly known as OTCBB. Many stocks on the OTCBB trade less frequently and in smaller volumes than stocks
listed on the Nasdaq Capital Market, which could materially and may adversely affect the market price of our common stock and impair
our ability to raise capital through the sale of additional equity securities.
The costs and effects of pending and future litigation, investigations
or similar matters, or adverse facts and developments related thereto, could materially affect our business, financial position
and results of operations.
We are involved in various litigation matters and from time to time
may be involved in governmental or regulatory investigations or similar matters arising out of our current or future business.
Our insurance or indemnities may not cover all claims that may be asserted against us, and any claims asserted against us, regardless
of merit or eventual outcome, may harm our reputation. Furthermore, there is no guarantee that we will be successful in defending
ourselves in pending or future litigation or similar matters under various laws. Should the ultimate judgments or settlements in
any pending litigation or future litigation or investigation significantly exceed our insurance coverage, they could have a material
adverse effect on our business, financial condition and results of operations.
If our insurance is inadequate, we could face significant
losses.
We maintain various insurance policies for our assets and operations.
The insurance policies include, but are not limited to, property, general liability, cyber-attack, and errors and omissions coverages,
including business interruption protection for each location. We also maintain workers’ compensation policies in every state
in which we operate as well as Directors’ and Officers’ liability insurance. There can be no assurance that our insurance
will provide sufficient coverage in the event a claim is made against us, or that we will be able to maintain in place such insurance
at reasonable prices. An uninsured or under insured claim against us of sufficient magnitude could have a material adverse effect
on our business and results of operations.
The integration and conversion of our
acquired operations or other future acquisitions, if any, could result in increased operating costs if the anticipated synergies
of operating both businesses as one are not achieved, a loss of strategic opportunities if management is distracted by the integration
process, and a loss of customers if our service levels drop during or following the integration process.
The acquisition, integration, and conversion
of businesses involve a number of risks. Core risks are in the area of valuation (negotiating a fair price for the business based
on inherently limited diligence) and integration and conversion (managing the complex process of integrating the acquired company's
people, services, technology and other assets to realize the projected value of the acquired company and the synergies projected
to be realized in connection with the acquisition).
If the integration and conversion process does
not proceed smoothly, the following factors, among others, could reduce our revenues and earnings, increase our operating costs,
and result in a loss of projected synergies:
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If we are unable to successfully integrate
the benefits plans, duties and responsibilities, and other factors of interest to the management and employees of the acquired
business, we could lose employees to our competitors, which could significantly affect our ability to operate the acquired business
and complete the integration;
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If the integration process causes any
delays with the delivery of our services, or the quality of those services, we could lose customers to our competitors, which would
reduce our revenues and earnings;
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The acquisition may otherwise cause disruption
to the acquired company’s business and operations and relationships with financial institutions, customers, merchants, employees
and other partners;
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The acquisition and the related integration
could divert the attention of our management from other strategic matters including other possible acquisitions and alliances and
planning for new product development or expansion into new electronic payments markets; and
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The costs related to the integration of
the acquired company’s business and operations into ours and the financing of the transaction may be greater than anticipated.
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Risk Factors Related to JetPay Payment
Services Segment
JetPay Payment Services incurs liability when its merchants
refuse or cannot reimburse it for chargebacks resolved in favor of its customers, fees, fines or other assessments it incurs from
the payment networks. JetPay Payment Services cannot accurately anticipate these liabilities, which may adversely affect its business,
financial condition and results of operations.
In the event a dispute between a cardholder and a merchant is not
resolved in favor of the merchant, the transaction is normally charged back to the merchant and the purchase price is credited
or otherwise refunded to the cardholder. Furthermore, such disputes are more likely to arise during economic downturns. If JetPay
Payment Services is unable to collect such amounts from the merchant’s account or reserve account (if applicable), or if
the merchant refuses or is unable, due to closure, bankruptcy or other reasons, to reimburse JetPay Payment Services for a chargeback,
JetPay Payment Services may bear the loss for the amount of the refund paid to the cardholder. The risk of chargebacks is typically
greater with those merchants that promise future delivery of goods and services rather than delivering goods or rendering services
at the time of payment. Although JetPay Payment Services employs an experienced risk manager, JetPay Payment Services may experience
significant losses from chargebacks in the future. Any increase in chargebacks not paid by merchants which could have a materially
adverse effect on our business, financial condition and results of operations.
JetPay Payment Services’ systems may be subject to disruptions
that could adversely affect its business and reputation.
Many of JetPay Payment Services customers are highly dependent on
its ability to process, on a daily basis, a large number of complicated transactions. JetPay Payment Services relies heavily on
its authorization, settlement, communications, financial, accounting and other data processing systems. If any of these systems
fails to operate properly or becomes disabled even for a brief period of time, JetPay Payment Services could suffer financial loss,
a disruption of their customers, liability to clients, regulatory intervention or damage to its reputation. JetPay Payment Services
has disaster recovery plans in place to protect its business against natural disasters, security breaches, military or terrorist
actions, power or communication failures or similar events. Despite preparations, JetPay Payment Services’ disaster recovery
plans may not be successful in preventing the loss of client data, service interruptions, and disruptions to its operations, or
damage to its important facilities.
Fraud by merchants or others could have an adverse effect
on JetPay Payment Services’ operating results and financial condition.
JetPay Payment Services has potential liability for fraudulent bankcard
transactions or credits initiated by merchants or others. Examples of merchant fraud include when a merchant knowingly uses a stolen
or counterfeit bankcard or card number to record a false sales transaction, processes an invalid bankcard, or intentionally fails
to deliver the merchandise or services sold in an otherwise valid transaction. Criminals are using increasingly sophisticated methods
to engage in illegal activities such as counterfeit and fraud. While JetPay Payment Services has systems and procedures designed
to detect and reduce the impact of fraud, JetPay Payment Services cannot assure the effectiveness of these measures. It is possible
that incidents of fraud could increase in the future. Failure to effectively manage risk and prevent fraud would increase chargeback
liability or cause them to incur other liabilities. Increases in chargebacks or other liabilities could have an adverse effect
on their operating results and financial condition.
Increases in credit and debit card network fees may result
in the loss of customers or a reduction in JetPay Payment Services’ earnings.
From time to time, the card networks, including Visa and MasterCard,
increase the fees (interchange and assessment fees) that they charge processors such as JetPay Payment Services. JetPay Payment
Services may attempt to pass these increases along to its merchant customers, but this strategy might result in the loss of those
customers to their competitors who do not pass along the increases. If competitive practices prevent JetPay Payment Services’
passing along such increased fees to its merchant customers in the future, JetPay Payment Services may have to absorb all or a
portion of such increases thereby increasing its operating costs and reducing its earnings.
The loss of key ISOs, VARs, ISVs, and financial institutions
could reduce JetPay Payment Services’ revenue growth.
JetPay Payment Services’ ISO / VAR / ISV, and financial institution
sales channel, which purchases and resells its end-to-end services to its own portfolio of merchant customers, is a strong contributor
to its revenue growth. If an ISO / VAR / ISV, or financial institution switches to another transaction processor, shuts down, becomes
insolvent, or enters the processing business themselves, we may no longer receive new merchant referrals from the ISO / VAR / ISV,
or financial institution, and they risk losing existing merchants that were originally enrolled by the ISO / VAR / ISV, or financial
institution, all of which could negatively affect its revenues and earnings.
The loss of one or more of our key customers could significantly
reduce our revenues, results of operations, and net income.
We have derived, and believe we may continue
to derive, a significant portion of our revenues from certain large customers. Our customers may purchase less of our services
depending on their own technological requirements, end-user demand for our products and competitive factors from other service
providers. A major customer in one year may not purchase any of our services or a reduced amount of our services in another year,
which may negatively affect our financial performance. Additionally, if we are required to sell products to one or several large
customers at reduced prices or unfavorable terms, our results of operations and revenues could be materially adversely affected.
Further, there is no assurance that our customers will continue to utilize our transaction processing and related services as our
customer agreements are generally cancelable by the customer, with varying penalties.
If we cannot keep pace with rapid developments and change
in our industry and provide new services to our clients, the use of our service could decline, reducing our revenues.
The electronic payment market in which we compete is subject to
rapid and significant changes. This market is characterized by rapid technological change, new product and service introductions,
evolving industry standards, changing customer needs and the entrance of non-traditional competitors. In order to remain competitive,
we are continually involved in a number of projects to develop new services or compete with these new market entrants, including
ecommerce services, the development of mobile phone payment applications, prepaid card offerings, and other new offerings emerging
in the electronic payment industry. These projects carry risks, such as cost overruns, delays in delivery, performance problems
and lack of customer acceptance. In the electronic payments industry these risks are acute. Any delay in the delivery of new services
or the failure to differentiate our services or to accurately predict and address market demand could render our services less
desirable, or obsolete, to our clients. In addition, the services we deliver are designed to process very complex transactions
and provide reports and other information on those transactions, all at very high volumes and processing speeds. Any failure to
deliver an effective and secure service or any performance issue that arises with a new service could result in significant processing
or reporting errors or other losses. As a result of these factors, our development efforts could result in increased costs and/or
we could also experience a loss in business that could reduce our earnings or could cause a loss of revenue if promised new services
are not timely delivered to our clients or do not perform as anticipated. We also rely in part on third parties, including some
of our competitors and potential competitors, for the development of, and access to new technologies. Our future success will depend
in part on our ability to develop or adapt to technological changes and evolving industry standards. If we are unable to develop,
adapt to or access technological changes or evolving industry standards on a timely and cost effective basis, our business, financial
condition and results of operations would be materially adversely affected. Furthermore, our competitors may have the ability to
devote more financial and operational resources than we can to the development of new technologies and services, including ecommerce
and mobile payment processing services that provide improved operating functionality and features to their existing service offerings.
If successful, their development efforts could render our services less desirable to clients, resulting in the loss of clients
or a reduction in the fees we could generate from our offerings.
Our operating results are subject to seasonality, which could
result in fluctuations in our quarterly income.
We have experienced in the past, and expect to continue to experience,
seasonal fluctuations in our revenues as a result of consumer spending patterns. Historically our revenues within our JetPay Payment
Processing Segment have been strongest in our first and second quarters, and weakest in our fourth quarter. This is due to the
increase in the number and amount of electronic payments transactions related to seasonal travel and resort spending.
The payment processing industry is highly competitive and
we compete with certain firms that are larger and that have greater financial resources. Such competition could increase, which
would adversely influence our prices to merchants, and as a result, our operating margins.
The market for payment processing services is highly competitive.
Other providers of payment processing services have established a sizable market share in the small and mid-sized merchant processing
sector. Maintaining historic growth will depend on a combination of the continued growth in electronic payment transactions and
our ability to increase our market share. The weakness of the current economic recovery could cause future growth in electronic
payment transactions to slow compared to historical rates of growth. This competition may influence the prices we are able to charge.
If the competition causes them to reduce the prices it charges, we will have to aggressively control costs in order to maintain
acceptable profit margins. In addition, some of our competitors are financial institutions, subsidiaries of financial institutions
or well-established payment processing companies. Our competitors that are financial institutions or subsidiaries of financial
institutions do not incur the costs associated with being sponsored by a bank for registration with the card networks and can settle
transactions more quickly for their merchants than they can for other processors such as JetPay Payments, TX. These competitors
have substantially greater financial, technological, management and marketing resources than we have. This may allow our competitors
to offer more attractive fees to its current and prospective merchants, or other products or services that it does not offer. This
could result in a loss of customers, greater difficulty attracting new customers, and a reduction in the price we can charge for
our services.
In order for us to continue to grow and increase our profitability,
we must continue to expand our share of the existing electronic payments markets and also expand into new markets.
Our future growth and profitability depend
upon our continued expansion within the markets in which we currently operate, the further expansion of these markets, the emergence
of other markets for electronic transaction payment processing and our ability to penetrate these markets. As part of our strategy
to achieve this expansion, we look for acquisition opportunities, investments and alliance relationships with other businesses
that will allow us to increase our market penetration, technological capabilities, product offerings and distribution capabilities.
We may not be able to successfully identify suitable acquisition, investment and alliance candidates in the future, and if we do,
they may not provide us with the value and benefits we anticipate.
Our expansion into new markets is also dependent
upon our ability to apply our existing technology or to develop new applications to meet the particular service needs of each new
market. We may not have adequate financial or technological resources to develop effective and secure services and distribution
channels that will satisfy the demands of these new markets. If we fail to expand into new and existing electronic payments markets,
we may not be able to continue to grow our revenues and earnings.
There may be a decline in the use of credit or debit cards
as a payment mechanism for consumers or adverse developments with respect to the credit card industry in general.
If consumers do not continue to use payment cards as a payment mechanism
for their transactions or if there is a change in the mix of payments between cash, credit cards and debit cards which is adverse
to JetPay Payment Services, it could have a material adverse effect on its financial position and results of operations. JetPay
Payment Services believes future growth in the use of credit cards will be driven by the cost, ease-of-use, and quality of products
and services offered to consumers and businesses. In order to consistently increase and maintain its profitability, consumers and
businesses must continue to use credit cards. Moreover, if there is an adverse development in the credit card industry in general,
such as new legislation or regulation that makes it more difficult for their customers to do business, JetPay Payment Services’
financial position and results of operations may be adversely affected.
Continued consolidation in the banking and retail industries
could adversely affect JetPay Payment Services’ growth.
JetPay Payment Services faces the risk that its clients may merge
with entities that are not its clients, its clients may sell portfolios to entities that are not its clients and, based on current
economic conditions, its clients may be seized by banking regulators or nationalized, thereby impacting their existing agreements
and projected revenues with these clients. In addition, consolidation among financial institutions has led to an increasingly concentrated
client base which results in a changing client mix toward larger clients. Continued consolidations among financial institutions
could increase the bargaining power of their current and future clients. Larger banks and larger merchants with greater transaction
volumes may demand lower fees which could result in lower revenues and earnings for JetPay Payment Services. Consolidation among
financial institutions, the nationalization of financial institutions or the seizure by banking regulators of financial institutions
and the resulting loss of any significant client by JetPay Payment Services could have a material adverse effect on its financial
position and results of operations.
Changes in the laws, regulations, credit card association
rules or other industry standards affecting JetPay Payment Services business may impose costly compliance burdens and negatively
impact its businesses.
There may be changes in the laws, regulations, credit card association
rules or other industry standards that affect JetPay Payment Services’ operating environment in substantial and unpredictable
ways in the United States as well as internationally. Changes to statutes, regulations or industry standards, including interpretation
and implementation of statutes, regulations or standards, could increase the cost of doing business or affect the competitive balance.
Regulation and proposed regulation of the payments industry has increased significantly in recent years. Failure to comply with
laws, rules and regulations or standards to which JetPay Payment Services is subject in the United States as well as internationally,
including the card network rules and rules with respect to privacy and information security, may result in the suspension or revocation
of a license or registration, the limitation, suspension or termination of service, and the imposition of fines, sanctions or other
penalties, which could have a material adverse effect on its financial position and results of operations, as well as damage its
reputation.
JetPay Payment Services and the rest of the financial services industry
continue to experience increased legislative and regulatory scrutiny, including the enactment of additional legislative and regulatory
initiatives such as Dodd-Frank. This legislation provides for significant financial regulatory reform. Dodd-Frank, among other
things, provides for the regulation and oversight by the Federal Reserve Board of debit interchange fees that are typically paid
by acquirers and charged or received by a payment card network for the purpose of compensating an issuer for its involvement in
an electronic debit transaction. Dodd-Frank also created a new Consumer Financial Protection Bureau with responsibility for most
federal consumer protection laws in the area of financial services, including consumer credit. In addition, Dodd-Frank created
a Financial Stability Oversight Council that has the authority to determine whether nonbank financial companies should be supervised
by the Federal Reserve Board because they are systemically important to the United States financial system. Any such designation
would result in increased regulatory burdens on our business. The overall impact of Dodd-Frank on our business is difficult to
estimate. Current and future regulations as a result of Dodd-Frank may adversely affect our business or operations, directly or
indirectly (if, for example, its clients’ businesses and operations are adversely affected).
Changes to legal rules and regulations, or interpretation or enforcement
thereof, could have a negative financial effect on JetPay Payment Services’ business. In addition, even an inadvertent failure
to comply with laws and regulations, as well as rapidly evolving social expectations of corporate fairness, could damage JetPay
Payment Services’ business or its reputation.
Risks associated with reduced levels of consumer and business
spending could adversely affect JetPay Payment Services’ business, financial condition and results of operations.
The electronic payments industry depends heavily on the overall
level of consumer and business spending. Significant portions of JetPay Payment Services’ revenue and earnings are derived
from fees from processing consumer credit card and debit card transactions. JetPay Payment Services is exposed to general economic
conditions that affect consumer confidence, consumer spending, consumer discretionary income or changes in consumer purchasing
habits. A sustained deterioration in general economic condition, particularly in the United States, or increases in interest rates
may adversely affect their financial performance by reducing the number or average purchase amount of transactions made using electronic
payments. A reduction in the amount of consumer spending could result in a decrease in their revenue and profits. If cardholders
of their financial institution clients make fewer transactions with their cards, JetPay Payment Services’ merchants make
fewer sales of their products and services using electronic payments or people spend less money per transaction, JetPay Payment
Services will have fewer transactions to process at lower dollar amounts, resulting in lower revenues.
A weakening in the economy could have a negative impact on JetPay
Payment Services’ clients, as well as its customers who purchase products and services using its payment processing systems,
which could, in turn, negatively impact its business, financial condition and results of operations, particularly if the recessionary
environment disproportionately affects some of the discretionary market segments that represent a larger portion of its payment
processing volume. In addition, a weakening in the economy could force retailers to close, resulting in exposure to potential credit
losses and future transaction declines. If a downturn occurs, credit card issuers may reduce credit limits, close accounts, and
become more selective with respect to whom they issue credit cards. JetPay Payment Services also has a certain amount of fixed
and semi-fixed costs, including rent, debt service, processing contractual minimums and salaries, which could limit its ability
to quickly adjust costs and respond to changes in its business and the economy. Changes in economic conditions could also adversely
impact future revenues and profits and cause a materially adverse effect on its business, financial condition and results of operations.
Governmental regulations designed to protect or limit access
to consumer information could adversely affect JetPay Payment Services’ ability to effectively provide its services to merchants.
Governmental bodies in the United States and abroad have adopted,
or are considering the adoption of, laws and regulations restricting the transfer of, and requiring safeguarding of, non-public
personal information. For example, in the United States, all financial institutions must undertake certain steps to ensure the
privacy and security of consumer financial information. While their operations are subject to certain provisions of these privacy
laws, JetPay Payment Services has limited its use of consumer information solely to providing services to other businesses and
financial institutions. In connection with providing services to its clients, JetPay Payment Services is required by regulations
and contracts with their merchants and financial institution clients to provide assurances regarding the confidentiality and security
of non-public consumer information. These contracts require periodic audits by independent companies regarding its compliance with
industry standards and also allow for similar audits regarding best practices established by regulatory guidelines. The compliance
standards relate to their infrastructure, components and operational procedures designed to safeguard the confidentiality and security
of non-public consumer personal information shared by its clients with JetPay Payment Services. Its ability to maintain compliance
with these standards and satisfy these audits will affect its ability to attract and maintain business in the future. If JetPay
Payment Services fails to comply with these regulations, it could be exposed to lawsuits for breach of contract or to governmental
proceedings. In addition, its client relationships and reputation could be harmed, and JetPay Payment Services could be inhibited
in its ability to obtain new clients. If more restrictive privacy laws or rules are adopted by authorities in the future on the
federal or state level, compliance costs may increase, opportunities for growth may be curtailed by its compliance capabilities
or reputational harm and potential liability for security breaches may increase, all of which could have a material adverse effect
on its business, financial condition and results of operations.
If we cannot pass increases from payment networks including
interchange, assessment, transaction and other fees along to our merchants, our operating margins will be reduced.
We pay interchange and other fees set by the payment networks to
the card issuing financial institution and the payment networks for each transaction we process. From time to time, the payment
networks increase the interchange fees and other fees that they charge payment processors and the financial institution sponsors.
At their sole discretion, our financial institution sponsors have the right to pass any increases in interchange and other fees
on to us. We are generally permitted under the contracts into which we enter, and in the past we have been able to, pass these
fee increases along to our merchants through corresponding increases in our processing fees. However, if we are unable to pass
through these and other fees in the future, it could have a material adverse effect on business, financial condition and results
of operations.
If we fail to comply with the applicable requirements of the
Visa, MasterCard or other payment networks, those payment networks could seek to fine us, suspend us or terminate our registrations
through our financial institution sponsors. Fines could have a material adverse effect on our business, financial condition or
results of operations, and if these registrations are terminated, we may not be able to conduct our business.
A significant source of our revenues comes from processing transactions
through the Visa, MasterCard and other payment networks. The payment networks routinely update and modify their requirements. Changes
in the requirements may impact our ongoing cost of doing business and we may not, in every circumstance, be able to pass through
such costs to our clients or associated participants. Furthermore, if we do not comply with the payment network requirement, the
payment networks could seek to fine us, suspend us or terminate our registrations which allow us to process transactions on their
networks. If we are unable to recover fines from or pass through costs to our merchants or other associated participants, we would
experience a financial loss. The termination of our registration, or any changes in the payment network rules that would impair
our registration, could require us to stop providing payment network services to Visa, MasterCard, or other payment networks, which
would have a material adverse effect on our business, financial condition and result of operation.
The Visa and MasterCard settlement may result in a decline
in the use of credit cards as a payment mechanism.
In July 2012, Visa and MasterCard agreed to settle litigation in
a class action suit by almost seven million merchants. The settlement was originally approved by the court but is currently subject
to review as several large merchants have filed objections. Among other things, the settlement would have allowed merchants to
pass on the cost of using credit cards to consumers, something that merchants were not previously permitted to do. The result will
be that consumers using credit cards in approximately 39 states that do not prohibit credit card surcharges may pay a higher price
for goods and services than consumers using other payment mechanisms. As a result, consumers will have an incentive to use cash
or other payment mechanisms instead of credit cards. If consumers do not continue to use payment cards as a payment mechanism for
their transactions or if there is a change in the mix of payments between cash, credit cards and debit cards which is adverse to
JetPay Payment Services, it could have a material adverse effect on its financial position and results of operations. JetPay has
developed a product to take advantage of the ability for merchants to pass along their card processing costs to cardholders. If
the terms of the initial settlement were reversed, the change could have a negative impact on JetPay Payment Services’ new
product and its resulting revenues.
JetPay Payment Services may be adversely impacted by any failure
of third-party service providers to perform their functions.
As part of providing services to clients, JetPay Payment Services
relies on a number of third-party service providers. These service providers include, but are not limited to, communications providers,
electric utilities, payment networks like Visa, MasterCard, American Express, and Discover, banks used to electronically transfer
funds to merchants, and various telecommunications providers. Failure by these service providers, for any reason, to deliver their
services in a timely manner could result in material interruptions to its operations, impact client relations, and result in significant
penalties or liabilities to JetPay Payment Services.
If our agreements with financial institution sponsors and
clearing service providers to process electronic payment transactions are terminated or otherwise expire and we are unable to renew
existing or secure new sponsors or clearing service providers, we will not be able to conduct our business.
The Visa, MasterCard and other payment network rules require us
to be sponsored by a member bank in order to process electronic payment transactions. Because we are not a bank, we are unable
to directly access these payment networks. We are currently registered with the Visa, MasterCard and other payment networks through
Wells Fargo Bank and other sponsor banks. Our current agreement with Wells Fargo Bank expires in April 2018. These agreements with
Wells Fargo Bank and other sponsors give them substantial discretion in approving certain aspects of our business practices, including
our solicitation, application and qualification procedures for merchants and the terms of our agreements with merchants. Our financial
institution sponsors’ discretionary actions under these agreements could have a material adverse effect on our business,
financial condition and results of operations. We also rely on Wells Fargo Bank and various other financial institutions to provide
clearing services in connection with our settlement activities. Without these sponsorships or clearing services agreements, we
would not be able to process Visa, MasterCard and other payment network transactions or settle transactions which would have a
material adverse effect on our business, financial condition and results of operations. Furthermore, our financial results could
be adversely affected if our costs associated with such sponsorships or clearing services agreements increase.
JetPay Payment Services may become the target for criminal
activity designed to obtain cardholder information.
JetPay Payment Services is required to retain cardholder information
for facilitating transactions or performing servicing for consumers. While JetPay Payment Services has been certified as compliant
with all Payment Card Industry security requirements and have advanced systems for protecting such data including encryption and
tokenization, there is no guarantee that these systems will be effective in the future. A breach of these systems could lead to
significant liability, fines, and additional costs to JetPay Payment Services.
The requirements for EMV (Europay, MasterCard, and Visa) and
P to PE (“Point to Point Encryption”) technology could provide risks to JetPay Payment Services.
The card networks have developed rules to increase the adoption
of EMV, a chip-based system to better manage potential credit card fraud, and are considering the adoption of P to PE, which encrypts
card data within the device used to read the card number (either a magnetic stripe or chip reader). As part of these new rules,
the risk of several types of fraud, which currently resides with the card issuer, is being changed to become the responsibility
of merchants who have not implemented EMV technology whenever an EMV capable card is used at that merchant. EMV requirements create
two potential risks; first, the implementation of EMV is a complicated process, and JetPay Payment Services may not be able to
implement it on a timely basis, resulting in lost business; and second, EMV is primarily valuable in reducing fraud at the point
of sale, where cards are physically utilized. While it is currently not clear what rules the networks may enact regarding P to
PE, they are likely to similarly change the current risk parameters. As EMV (and potentially P to PE) becomes more prevalent in
the market, fraud perpetrators have shown in other countries where EMV implementation has preceded the United States, that they
will attempt more card-not-present fraud. As JetPay Payment Services has a sizeable presence in the card-not-present market, this
could lead to the potential for higher fraud losses.
Risk Factors Related to JetPay HR & Payroll Services
JetPay HR & Payroll Services’ systems may be subject
to disruptions that could adversely affect its business and reputation.
Many of JetPay HR & Payroll Services’ customers are highly
dependent on its ability to process, on a daily basis, a large number of complicated transactions. JetPay HR & Payroll Services
relies heavily on its payroll, financial, accounting and other data processing systems. If any of these systems fails to operate
properly or becomes disabled even for a brief period of time, JetPay HR & Payroll Services could suffer financial loss, a disruption
of their customers, liability to clients, regulatory intervention or damage to its reputation. JetPay HR & Payroll Services
has disaster recovery plans in place to protect its business against natural disasters, security breaches, military or terrorist
actions, power or communication failures or similar events. Despite preparations, JetPay HR & Payroll Services’ disaster
recovery plans may not be successful in preventing the loss of client data, disruptions to its operations or damage to its important
facilities.
Political and economic factors may adversely affect JetPay
HR & Payroll Services’ business and financial results.
Trade, monetary and fiscal policies, and political and economic
conditions may substantially change, and credit markets may experience periods of constriction and volatility. When there is a
slowdown in the economy, employment levels and interest rates may decrease with a corresponding impact on JetPay HR & Payroll
Services’ businesses. Clients may react to worsening conditions by reducing their spending on payroll and other outsourcing
services or renegotiating their contracts with JetPay HR & Payroll Services.
JetPay HR & Payroll Services invests client funds in liquid,
government-backed securities. Nevertheless, its client fund assets are subject to general market, interest rate, credit, and liquidity
risks. These risks may be exacerbated, individually or in unison, during periods of unusual financial market volatility.
JetPay HR & Payroll Services is dependent upon various large
banks to execute ACH and wire transfers as part of its client payroll and tax services. While JetPay HR & Payroll Services
has contingency plans in place for bank failures, a systemic shutdown of the banking industry would impede its ability to process
funds on behalf of its payroll and tax services clients and could have an adverse impact on its financial results and liquidity.
Our operating results are subject to seasonality, which could
result in fluctuations in our quarterly net income.
We have experienced in the past, and expect to continue to experience,
seasonal fluctuations in our revenues as a result of consumer spending patterns. Historically our revenues have been stronger in
our first and fourth quarters, and weaker in our second and third quarters. This is due to the nature and timing of year-end Form
W-2 processing.
JetPay HR & Payroll Services’ services may be adversely
impacted by changes in government regulations and policies.
Many of JetPay HR & Payroll Services’ services, particularly
payroll tax administration services, are designed according to government regulations that continually change. Changes in regulations
could affect the extent and type of benefits employers are required, or may choose, to provide employees or the amount and type
of taxes employers and employees are required to pay. Such changes could reduce or eliminate the need for some of JetPay HR &
Payroll Services’ services and substantially decrease its revenue. Added requirements could also increase JetPay HR &
Payroll Services’ cost of doing business. Failure to educate and assist JetPay HR & Payroll Services’ clients regarding
new or revised legislation that impacts them could have an adverse impact on its reputation. Failure by JetPay HR & Payroll
Services to modify its services in a timely fashion in response to regulatory changes could have a material adverse effect on its
business and results of operations.
Our clients and our business could be adversely impacted by
health care reform.
The Affordable Care Act was enacted in March 2010 and entails sweeping
health care reforms with staggered effective dates from 2010 through 2018. Many provisions of the Affordable Care Act require the
issuance of additional guidance from the U.S. Departments of Labor and Health & Human Services, the Internal Revenue Service
(the “IRS”), and the States. As a service provider, we may be requested by our clients to help them understand their
increased obligations under the federal and state regulations facing employers under the Affordable Care Act. Failure to provide
clients with appropriate information or solutions to effectively manage their health care benefits and related costs could have
an adverse impact on our reputation and a negative impact on our client base. There is no guarantee that solutions we have developed
to help clients navigate health care legislation will continue to be readily accepted by clients, which could have a material adverse
impact on our HR and Affordable Care Act services.
Interest earned on funds held for clients may be impacted
by changes in government regulations mandating the amount of tax withheld or timing of remittance.
JetPay HR & Payroll Services receives interest income from investing
client funds collected but not yet remitted to applicable tax or regulatory agencies or to client employees. A change in regulations
either decreasing the amount of taxes to be withheld or allowing less time to remit taxes to applicable tax or regulatory agencies
would adversely impact this interest income.
We may not be able to keep pace with changes in technology
or provide timely enhancements to our products and services.
To maintain our growth strategy, we must adapt and respond to technological
advances and technological requirements of our clients. Our future success will depend on our ability to enhance capabilities and
increase the performance of our internal use systems, particularly our systems that meet our clients’ requirements. We continue
to make significant investments related to the development of new technology and partnerships with other third party service providers.
If our systems become outdated, we may be at a disadvantage when competing in our industry. There can be no assurance that our
efforts to update and integrate systems will be successful. If we do not integrate and update our systems in a timely manner, or
if our investments in technology fail to provide the expected results, there could be a material adverse effect to our business
and results of operations.
JetPay HR & Payroll Services may be adversely impacted
by any failure of third-party service providers to perform their functions.
As part of providing services to clients, JetPay HR & Payroll
Services relies on a number of third-party service providers. These service providers include, but are not limited to, couriers
used to deliver client payroll checks, banks used to electronically transfer funds from clients to their employees, and other third
party providers for certain HCM services such as Affordable Care Act services. Failure by these service providers, for any reason,
to deliver their services in a timely manner could result in material interruptions to JetPay HR & Payroll Services’
operations, impact client relations, and result in significant penalties or liabilities to JetPay HR & Payroll Services.
Item 1B. Unresolved Staff Comments.
N/A.
Item 2. Properties.
We currently maintain our principal executive offices at 3939 West
Drive, Center Valley, Pennsylvania, 18034. This leased space consists of approximately 22,500 square feet.
JetPay Payments, TX leases property located in Carrollton, Texas
which consists of approximately 20,800 square feet leased on one floor of a multi-tenant building. The lease for our Carrollton,
Texas facility expires on December 31, 2018. In addition, JetPay Payments, TX retains a backup center in Sunnyvale, Texas of 1,600
square feet subject to a month to month lease. We are currently evaluating our future space needs and reviewing several alternatives.
JetPay Payments, PA leases space located in Langhorne, Pennsylvania
which consists of approximately 3,300 square feet on one floor of a multi-tenant building subject to a month-to-month lease.
JetPay Payments, FL leases space in Pensacola, Florida which consists
of approximately 5,500 square feet on one floor of a multi-tenant building subject to a one year lease.
JetPay HR & Payroll Services leases space located in Center
Valley, Pennsylvania which consists of approximately 22,500 square feet leased from C. Nicholas Antich and Carol A. Antich. Mr.
Antich, was the President of JetPay HR & Payroll Services until December 31, 2015, and remains a significant shareholder. JetPay
HR & Payroll Services also shares office space and related facilities with Serfass & Cremia, LLC, the accounting firm of
which Joel E. Serfass, a previous shareholder of an entity acquired by JetPay HR & Payroll Services, is a member. Such office
space consists of 4,300 square feet, located on one floor of a multi-tenant building in Bethlehem, Pennsylvania.
We believe that our current offices are adequate to meet our needs
and that of our subsidiaries, and that additional facilities will be available for lease, if necessary, to meet their future needs.
Item 3. Legal Proceedings.
On or about March 13, 2012, a merchant of JetPay, LLC, Direct Air,
a charter travel company, abruptly ceased operations and filed for bankruptcy. Under United States Department of Transportation
requirements, all charter travel company customer charges for travel are to be deposited into an escrow account in a bank under
a United States Department of Transportation escrow program, and not released to the charter travel company until the travel has
been completed. In the case of Direct Air, such funds had historically been deposited into such United States Department of Transportation
escrow account at Valley National Bank in New Jersey, and continued to be deposited through the date Direct Air ceased operations.
At the time Direct Air ceased operations, according to Direct Air’s bankruptcy trustee, there should have been in excess
of $31.0 million in the escrow account. Instead there was approximately $1.0 million. As a result, Merrick Bank Corporation (“Merrick”),
JetPay, LLC’s sponsor bank with respect to this particular merchant, incurred chargebacks in excess of $25.0 million. Merrick
maintains insurance through a Chartis Insurance Policy for chargeback losses that names Merrick as the primary insured. The policy
has a limit of $25.0 million and a deductible of $250,000. Merrick has sued Chartis Insurance (“Chartis”) for payment
under the claim. Under an agreement between Merrick and JetPay, LLC, JetPay, LLC had certain obligations to indemnify Merrick for
losses realized from such chargebacks that Merrick was unable to recover from other parties. JetPay, LLC recorded a loss for all
chargebacks in excess of $25.0 million, the $250,000 deductible on the Chartis insurance policy and $487,000 of legal fees charged
against JetPay, LLC’s cash reserve account by Merrick, totaling $1.9 million in 2012, as well as an additional $597,000 in
legal fees charged against JetPay, LLC’s cash reserve account by Merrick through September 30, 2013. In December 2013, Merrick,
in addition to its suit against Chartis, also filed suit against Valley National Bank as escrow agent. In February 2015, JetPay
joined that suit, along with American Express. During 2012 and 2013, Merrick required JetPay, LLC to maintain increased cash reserves
in order to provide additional security for any obligations arising from the Direct Air situation. As of June 30, 2016, Merrick
held approximately $4.4 million of total reserves related to the Direct Air matter, which amount was released in full to Merrick
under the Merrick Settlement Agreement in July 2016, as more fully described below.
On August 7, 2013, JetPay Merchant Services, LLC (“JPMS”),
then a wholly owned subsidiary of JetPay, LLC and indirect wholly-owned subsidiary of the Company, together with WLES (collectively,
the “Plaintiffs”), filed suit in the United States District Court for the Northern District of Texas, Dallas Division,
against Merrick, Royal Group Services, LTD, LLC and Gregory Richmond (collectively, the “Defendants”). The suit alleges
that Merrick and Gregory Richmond (an agent of Royal Group Services) represented to JPMS that insurance coverage was arranged through
Chartis Specialty Insurance Company to provide coverage for JPMS against potential chargeback losses related to certain of JPMS’s
merchant customers, including Southern Sky Air Tours, d/b/a Direct Air. The complaint alleges several other causes of action against
the Defendants, including violation of state insurance codes, negligence, fraud, breach of duty and breach of contract. Also, in
August 2013, JPMS, JetPay, LLC, and JetPay ISO Services, LLC (“JetPay ISO”) filed the second amendment to a previously
filed complaint against Merrick in the United States District Court for the District of Utah, adding to its initial complaint several
causes of action related to actions Merrick allegedly took during JetPay, LLC’s transition to a new sponsoring bank in June
2013. Additionally, subsequent to this transition, Merrick invoiced us for legal fees incurred by Merrick totaling approximately
$4.7 million. We did not believe we had a responsibility to reimburse Merrick for these legal fees and disputed these charges.
Accordingly, we had not recorded an accrual for these legal fees as of June 30, 2016. These legal fees were eliminated as part
of the Merrick Settlement Agreement, as described below.
As partial protection against any potential losses related to Direct
Air, the Company required that, upon closing of the acquisition of JetPay, LLC, 3,333,333 shares of common stock that was to be
paid to WLES as part of the JetPay, LLC acquisition be placed into an escrow account with Chase as the trustee. The Escrow Agreement
for the account names Merrick, the Company, and WLES as parties. If JetPay, LLC suffered any liability as a result of the Direct
Air matter, these shares would be used in partial payment for any such liability, with any remaining shares delivered to WLES.
On July 26, 2016, we entered into two related settlement agreements:
(i) a Settlement Agreement and Release by and among Merrick, the Company, certain subsidiaries of the Company and WLES (the “Merrick
Settlement Agreement”) and (ii) a Settlement Agreement and Release by and among Trent Voigt, WLES and the Company (the “WLES
Settlement Agreement”). In connection with the parties’ entry into the Merrick Settlement Agreement, the District Court
for the District of Utah dismissed the Direct Air matter with prejudice on July 27, 2016.
As part of the Merrick Settlement Agreement, we agreed to release
all claims to the $4.4 million held in reserve at Merrick. In addition, pursuant to the Merrick Settlement Agreement, we issued
to Merrick the $3,850,000 note, bearing interest at a rate of 8% per annum, due December 28, 2017, (the “$3.85MM Note”)
and a $5,000,000 note, bearing interest at a rate of 12% per annum, due January 11, 2017 (the “$5MM Note” and, together
with the $3.85MM Note, the “Notes”) to Merrick. The Notes were secured by the 3,333,333 shares of JetPay’s common
stock issued in the name of WLES and held in escrow.
In connection with its entry into the Merrick Settlement Agreement,
we executed three Stipulated and Confessed Judgments in favor of Merrick in the amounts of $32,500,000 (the “First Judgment”),
$28,650,000 (the “Second Judgment”) and $27,500,000 (the “Third Judgment” and, together with the First
Judgment and the Second Judgment, the “Judgments”), none of which shall be of any effect unless and until JetPay failed
to make any payment when due under the Notes. If we failed to make payment when due under the Notes, Merrick, after a five (5)
day cure period, would have been able to seek to obtain and/or enforce the applicable Judgments in the Federal District Court for
Utah or in any court of competent jurisdiction. On October 21, 2016, we paid in full the $3.85MM Note and on January 11, 2017,
we paid in full the $5.0MM Note. As a result, no Judgments are available for Merrick’s relief. See
Note 17. Subsequent
Events
in the accompanying consolidated financial statements.
Under the terms of the WLES Settlement Agreement, WLES agreed to
transfer the indebtedness represented by that certain promissory note, dated December 28, 2012 (the “WLES Note”), in
the original principal amount of $2,331,369 issued by JetPay in favor of WLES to Merrick. In addition, WLES agreed to amend that
certain promissory note, dated June 7, 2013, as amended, in the original principal amount of $491,693 issued by JetPay, LLC in
favor of Trent Voigt in order to (a) extend its maturity date from September 30, 2016 to September 30, 2017 and (b) waive all interest
payments for the period from September 30, 2016 to September 30, 2017. This note in favor of Mr. Voigt shall become due and payable
immediately should Mr. Voigt’s employment with JetPay be terminated other than for cause. In addition, pursuant to the WLES
Settlement Agreement, WLES authorized JetPay to arrange a private sale of that number of escrowed shares to the extent necessary
to satisfy JetPay’s obligations to Merrick under the $5.00MM Note (up to a total of 2,200,000 escrowed shares). Upon consummation
of the sale of more than 1,666,667 of the escrowed shares, JetPay agreed to issue to WLES fully vested and immediately exercisable
warrants with an expiration date of five (5) years from the date of the WLES Settlement Agreement to purchase that number of shares
of JetPay common stock equal to 50% of the difference between (a) the number of escrowed shares actually sold by WLES and (b) 1,666,666
shares of JetPay common stock, at an exercise price per share equal to the amount per share paid for the sold escrowed shares.
The WLES Settlement Agreement also provides for the allocation of any recoveries by JPMS in connection with the claims brought
by JMPS in
American Express Travel Related Services and JetPay Merchant Services, LLC v. Valley National Bank
, Civil
Action No. 2:14-cv-7827 (D. N.J.) between the Company and WLES. On February 15, 2017, 2,200,000 of the WLES escrowed shares we
transferred to JetPay and placed them into Treasury to satisfy WLES’ indemnification obligations under the Merrick and WLES
Settlement Agreements. See
Note 17. Subsequent Events
in the accompanying consolidated financial statements.
We recorded a Settlement of Legal Matter charge of $6.19 million
for the year ended December 31, 2016 based on the terms of the Merrick Settlement Agreement and the WLES Settlement Agreement.
The loss includes: (i) a charge of $4.4 million related to the Company’s release of all claims to the $4.4 million held in
reserve at Merrick; (ii) a charge of $1.4 million related to the Company’s issuance of the $3.85MM Note, less WLES’s
agreement to transfer the WLES Note (recorded at $2,036,511, net of an unamortized discount of $294,858) and accrued interest on
the WLES Note of $414,466; (iii) a charge of $50,000 representing the Company’s issuance of the $5.0MM Note less the estimated
value as of July 26, 2016 of the escrowed shares; and (iv) a charge for $373,334 representing the fair value of the issuance of
warrants to WLES as described in the WLES Settlement Agreement.
At the time of the acquisition of JetPay,
LLC, the Company entered into an Amendment, Guarantee, and Waiver Agreement (the “Agreement”) dated December 28, 2012
between us, Ten Lords and Interactive Capital and JetPay Payments, TX. Under the Agreement, Ten Lords and Interactive Capital agreed
to extend payment of a $6.0 million note remaining outstanding at the date of acquisition for up to twelve months. The note was
paid in full in October 2013 using the proceeds from the initial purchase of Series A Preferred by Flexpoint. See
Note
11. Redeemable Convertible Preferred Stock
in the accompanying consolidated financial statements. The terms of the Agreement
required that the Company provide Ten Lords with a “true up” payment, which was meant to put the holders of the note
(Ten Lords and Interactive Capital) in the same after-tax economic position as they would have been had the note been paid in full
on December 28, 2012. JetPay calculated this true-up payment to Ten Lords at $222,310 and paid such amount to Ten Lords in August
2015. Subsequent to our payment, we received a notice on October 5, 2015 that Ten Lords had filed a lawsuit against JetPay, LLC
disputing the amount determined and paid by us. We believe that the allegations in the suit regarding JetPay, LLC are groundless
and intend to defend it.
In December 2012, BCC Merchant Solutions, a former customer of JetPay,
LLC filed a suit against JetPay, LLC, Merrick, and Trent Voigt in the Northern District of Texas, Dallas Division, for $1.9 million,
alleging that the parties by their actions, had cost BCC significant expense and lost customer revenue. We maintained an accrual
of $200,000 for any potential loss settlement related to this matter as of March 31, 2016. On May 16, 2016, we settled the lawsuit
with BCC and paid $200,000 on June 15, 2016.
In December 2015, Harmony Press Inc. (“Harmony”),
a customer of ADC and PTFS, filed a suit against an employee of Harmony for theft by that employee of over $628,000. JetPay,
ADC, and PTFS as well as several financial institution service providers to Harmony were also named in that suit for alleged
negligence. We believe that the allegations in the suit regarding JetPay, ADC, and PTFS are groundless and has turned the
matter over to the Company’s insurance carrier who is defending the suit. We are subject to a $50,000 deductible under
our insurance policy. We have not recorded an accrual for any potential loss related to this matter as of December 31,
2016.
The Company is a party to various other legal proceedings related
to its ordinary business activities. In the opinion of the Company’s management, none of these proceedings are material in
relation to our results of operations, liquidity, cash flows, or financial condition.
Item 4. Mine Safety Disclosures.
None.
Part III
Item 10. Directors, Executive Officers and Corporate Governance.
The name and age of our directors and executive officers as
of March 21, 2017 are as follows:
Name
|
|
Age
|
|
Position
|
Bipin C. Shah
|
|
78
|
|
Chairman of the Board of Directors
|
Diane (Vogt) Faro
|
|
65
|
|
Chief Executive Officer and Director
|
Donald J. Edwards
|
|
51
|
|
Director
|
Jonathan M. Lubert
|
|
37
|
|
Director
|
Steven M. Michienzi
|
|
33
|
|
Director
|
Robert B. Palmer
|
|
77
|
|
Director
|
Laurence L. Stone
|
|
51
|
|
Director
|
Peter B. Davidson
|
|
63
|
|
Vice-Chairman and Corporate Secretary
|
Gregory M. Krzemien
|
|
57
|
|
Chief Financial Officer
|
Michael Collester
|
|
52
|
|
Chief Operating Officer
|
Below is a summary of the business experience of each of our
executive officers and directors.
Directors
Bipin C. Shah
has been the Chairman of the
Board since inception and Chief Executive Officer of the Company from inception until May 5, 2016. Since the sale of Genpass,
Inc. to U.S. Bancorp in 2005, Mr. Shah has been a private investor, focusing on opportunities in the payments business. From
2000 to 2005, Mr. Shah was the Chief Executive Officer of Genpass, Inc. where he led the development of the MoneyPass, a
surcharge-free ATM network, as well as a payroll debit card used by several large payroll companies. From 1992 until its sale
to Paymentech in 1996, he was the Chief Executive Officer of Gensar, Inc., a company that specialized in the processing of
restaurant debit and credit card transactions. During his tenure at Gensar, Inc., he led development of the “Tip
Management System” along with other technology enhancements. From 1980 to 1991, Mr. Shah was employed by CoreStates
Financial Corp and its predecessor, Philadelphia National Bank, ultimately serving as Vice Chairman and Chief Operating
Officer. While at CoreStates, Mr. Shah oversaw the acquisitions of seven ATM and point of sale businesses and was active in
the development of several products for the financial services industry’s payments infrastructure, including the Money
Access Center network, the introduction of debit to the point-of-sale, cash-back, and pay-at-the-pump. From 1985 to 1992, Mr.
Shah served as a director of VISA USA and VISA INTERNATIONAL and currently serves on an advisory board of FinPay, L.L.C. He
has served on the Board of Trustees for Baldwin-Wallace College and the Franklin Institute. Earlier in his career, he was a
Senior Vice President at the Federal Reserve Bank of Philadelphia and a Senior Vice President at American Express, as well as
the President of Vertex Division of MAI. Mr. Shah holds a Bachelor of Arts in Philosophy from Baldwin-Wallace College and a
Masters in Philosophy from the University of Pennsylvania. We believe that Mr. Shah’s career as an executive in the
payment processing industry and as an investor generally provides him with the necessary skills to chair the Board and
provide advice to our management team with respect to operational, strategic and management issues as well as general
industry trends.
Diane (Vogt) Faro
has been on the Board since
April 1, 2014 and has been the Chief Executive Officer since May 5, 2016. Since December 2011 until May 5, 2016, Ms. Faro was
President of National Benefit Programs, LLC, a provider of brand loyalty and discount programs to small to mid-size businesses.
Prior to joining National Benefit Programs, from 2009 to December 2011, Ms. Faro was a consultant for the electronic payments
industry focused on assisting companies in growing revenues. From 2005 to 2009, Ms. Faro was President of Global Merchant Services
at First Data Corporation, a payment processing company where she was responsible for over $1 billion in annualized revenues.
Ms. Faro also served as President of First Data’s Alliance Group. Prior to these roles at First Data, Ms. Faro was Chief
Executive Officer of Chase Merchant Services LLC, which processed over $170 billion in payment volume annually during her tenure.
Ms. Faro has served on the Board of Directors of the Electronic Transactions Association, Merchant Link and Front Stream Payments,
all of which are private companies in the payment processing industry. Ms. Faro is one of the founding members of the Women’s
Networking in Electronic Transactions (W.net), which offers women in the payments industry a place to network and find mentors.
Ms. Faro’s extensive experience in the payments industry provides her with the necessary skills to provide the Board and
management with valuable insight into marketing and operational issues and lead our management team with respect to operational, strategic and management issues.
Donald J. Edwards
has been on the Board since
October 11, 2013, when he was appointed by the holders of our Series A Preferred pursuant to the Series A Purchase Agreement.
Mr. Edwards is the Managing Principal of Flexpoint Ford, LLC, a private equity investment firm focused on healthcare and financial
services, which currently has $2.2 billion under management. Mr. Edwards has been with Flexpoint Ford, LLC since 2004. Previously,
from 2002 to 2004, Mr. Edwards was President and CEO of Liberte Investors (now First Acceptance Corporation), which he guided
through the acquisition of a leading provider of non-standard consumer automobile insurance. Mr. Edwards was a Principal of GTCR,
a private equity firm with more than $6 billion under management, from 1994 to 2002, where he was the head of the firm’s
healthcare investment effort. From 1988 to 1992, Mr. Edwards was an associate at Lazard Freres and Co., specializing in mergers
and acquisitions. Mr. Edwards holds a B.S. degree in finance with highest honors from the University of Illinois and an M.B.A.
from Harvard Business School where he was a Baker Scholar. We believe that Mr. Edwards’ experience as an executive in a
private equity firm focused on the financial services industry and his knowledge of the capital markets generally provide him
with the necessary skills to serve as a member of the Board and enable him to provide valuable insight to the Board regarding
strategic issues, general investor trends, as well as capital raising matters.
Jonathan M.
Lubert
has been on the Board since February 2, 2011. Mr. Lubert is the Founder and Chairman of JL Squared Group, a Registered Investment
Advisor focused on alternative investments, founded in 2003, which currently has $335 million under management. Mr. Lubert also
founded Next Generation Lending, a small real estate investment and lending company, JML Ventures LP and IL Hedge Investments
LLC. Mr. Lubert’s previous experience includes a leveraged finance investment banking analyst position at Bear Stearns and
a minority ownership in Spencer Capital Management, a value based, event driven fund that focused on long term risk adjusted returns.
In addition, Mr. Lubert was a director of Global Affiliates, Inc. from 2004 until 2010. Mr. Lubert is currently a Managing Director
of Valley Forge Casino and an advisory board member of the American Infrastructure MLP Fund. Additionally, Mr. Lubert is currently
involved with the Young Friends of Children’s Hospital, the Make-A-Wish Foundation, YPO Philadelphia, and The Lubert Family
Foundation. Mr. Lubert’s educational background includes a B.S. in Business Administration, which was earned with highest
distinction from the University of North Carolina at Chapel Hill. We believe that Mr. Lubert’s experience as the Founder
and Chairman of JL Squared Group provides him with the necessary skills to serve as a member of the Board and enable him to provide
valuable insight to the Board regarding general investor trends.
Steven M. Michienzi
has been on the Board since
October 11, 2013, when he was appointed by the holders of our Series A Preferred pursuant to the Series A Securities Purchase
Agreement. Mr. Michienzi is a Principal of Flexpoint Ford, LLC, where his primary responsibilities include the evaluation and
management of investments across the financial services industry. Mr. Michienzi has been with Flexpoint Ford, LLC since 2009.
From June 2006 to June 2009, Mr. Michienzi worked in the investment banking division of Wachovia Securities specializing in mergers
and acquisitions and capital raising advisory assignments. Mr. Michienzi serves as a director of GeoVera Investment Group, Ltd.,
a homeowners’ insurance company, and Corporate Finance Group, Inc., a provider of finance and accounting advisory services.
He previously served as a director of Financial Pacific Holdings, LLC, an equipment leasing company. Mr. Michienzi graduated magna
cum laude with a B.S. in economics from Duke University where he was elected into Phi Beta Kappa honor society. We believe that
Mr. Michienzi’s experience as an investment professional at a private equity firm focused on the financial services industry
and his knowledge of evaluating and managing investments generally provide him with the necessary skills to serve as a member
of the Board and enable him to provide valuable insight to the Board regarding strategic issues, general investor trends, and
future acquisition investments.
Robert B. Palmer
has been on the Board since
February 2, 2011. Mr. Palmer worked for CoreStates Financial Corp for 32 years, with titles including Executive Vice President
for Retail Banking, Operations and Data Processing, and President and Chief Executive Officer of the Philadelphia National Bank.
He also served as Vice Chairman of CoreStates and Chairman of its First Pennsylvania Bank. He retired from CoreStates in 1996
and later served as Vice Chairman of the newly-formed Asian Bank in Philadelphia. Mr. Palmer has been a board member of VISA,
USA and Schramm, Inc., a manufacturer based in West Chester, Pennsylvania. He has been Chairman of The World Affairs Council and
International Visitors Council and Vice Chair of the Police Athletic League, all of Philadelphia, and has served on numerous civic
boards. Mr. Palmer holds a B.A. degree from Yale University. We believe that Mr. Palmer’s experience as an executive in
the financial services industry provides him with the necessary skills to serve as a member of the Board and will enable him to
provide valuable insight to the Board regarding operational and management issues.
Laurence L. Stone
has been on the Board since
October 18, 2016, when he was appointed by the holders of our Series A Preferred pursuant to the amended and restated Series A
Purchase Agreement. Mr. Stone is the managing member of Sundara Investment Partners, LLC; the sole shareholder of LHLJ, Inc.;
and the managing member of Main Line Trading Partners, LLC. Mr. Stone worked for Mercury Payment Systems from June 2006 until
its sale to Vantiv, Inc. in 2014, including his roles as a Principal and a Director. Prior to Mercury Payment Systems, Mr. Stone
founded and served as an officer of Card Payment Services and Card Payment Systems, Independent Sales Organization merchant processing
companies. Mr. Stone served as Chief Executive Officer of Card Payment Systems from 1997 until Concord EFS’s acquisition
of Card Payment Systems in 2000. Mr. Stone started his payment processing career at CitiCorp Card Acceptance Services in 1988.
Mr. Stone serves on the boards of directors of Olivam Partners, LP and Clutch Holdings, Inc. Mr. Stone holds a B.S. degree in
Economics from the Wharton School of the University of Pennsylvania in Finance. We believe that Mr. Stone’s experience as
an executive in the payment processing industry provides him with the necessary skills to serve as a member of the Board and will
enable him to provide valuable insight to the Board regarding operational, sales and management issues.
Executive Officers
Peter B. Davidson
has served as the Company’s
Chief Administrative Officer and Corporate Secretary since inception and as the Company’s Vice-Chairman since January 2013,
while still retaining his duties as Corporate Secretary. Mr. Davidson was formerly Chief Executive Officer of Brooks FI Solutions,
LLC, an entity that provides retail banking and payment solutions that he founded in 2006. Immediately prior to founding Brooks
FI Solutions, Mr. Davidson was Executive Vice President of Genpass, Inc. where, from 2002 until its acquisition and subsequent
integration by U.S. Bancorp in 2005, he led its efforts to bring stored value products to market. While at Genpass, Inc., he was
also involved in the development and implementation of MoneyPass, a surcharge-free ATM network. Earlier in his career, Mr. Davidson
served as President of Speer & Associates, leading domestic and international consulting engagements in the retail banking
and electronic funds transfer industry; Executive Vice President at HSBC USA and President of HSBC Mortgage, where he was responsible
for managing its consumer businesses; and Senior Vice President at CoreStates Financial, where he managed the credit card and
consumer lending businesses and developed remote banking strategies. Mr. Davidson holds a B.S. in Economics from the Wharton School
of the University of Pennsylvania in Finance and Accounting, and an MBA from Widener University in Finance.
Gregory M. Krzemien
has served as the Company’s
Chief Financial Officer since February 7, 2013. From 1999 to October, 2012, Mr. Krzemien served as Chief Financial Officer, Treasurer
and Corporate Secretary of Mace Security International, Inc., a publicly traded company that is a manufacturer of personal defense
sprays, personal protection products and electronic surveillance equipment, and the operator of a UL rated wholesale security
monitoring station. From 1992 to 1999, Mr. Krzemien served as Chief Financial Officer and Treasurer of Eastern Environmental Services,
Inc., a publicly traded solid waste company. From 1981 to 1992, Mr. Krzemien held various positions at Ernst & Young LLP,
including Senior Audit Manager from October 1988 to August 1992. Mr. Krzemien has significant experience in the areas of mergers
and acquisitions, Securities and Exchange Commission reporting, strategic planning and analysis, financings, corporate governance,
risk management and investor relations. Mr. Krzemien holds a B.S. Honors Degree in Accounting from the Pennsylvania State University.
Michael Collester
has served
as the Company’s Chief Operating Officer since August 23, 2016. In April 2004, Mr. Collester formed ACI Merchant Systems,
LLC, which was acquired by JetPay in November 2014. From 2004 to present, Mr. Collester has served in executive roles at ACI,
including Chief Executive Officers and President. From 1989 to 2000, Mr. Collester served as CEO/President of ACI Merchant Services,
Inc., a merchant services provider dedicated exclusively to serving financial institutions which he founded which became recognized
as the premier Agent/Referral Bank processing company in the United States and, in 2000, merged with Fifth Third Bank. Mr. Collester
served as Senior Vice President at Fifth Third Bank from 2000 through 2003. Mr. Collester holds a B.S. degree in Quantitative
Business Analysis from the Pennsylvania State University.
Section 16(a) Beneficial Ownership Reporting Compliance
Section 16(a) of the Exchange Act requires our officers, directors
and persons who beneficially own more than ten percent of our common stock to file reports of ownership and changes in ownership
with the SEC. These reporting persons are also required to furnish us with copies of all Section 16(a) forms they file. Based
solely on our review of such forms furnished to us and written representations from certain reporting persons, there were four
late Form 4 filings in fiscal year 2016, two of which related to our directors or officers (two for Diane (Vogt) Faro), one for
Gene Valentino, and one of which related to one of our beneficial owners (Flexpoint Fund II, L.P.).
Code of Ethics
We have adopted a code of conduct and ethics applicable to
our directors, officers and employees in accordance with applicable federal securities laws. Our code of conduct and ethics has
been posted on our website and can be found at
www.jetpay.com
. Our code of conduct and ethics may also be obtained by contacting
investor relations at the Company’s Corporate Offices at 3939 West Drive, Center Valley, Pennsylvania, 18034. Any amendments
to our code of conduct and ethics or waivers from the provisions of the code for our chief executive officer, our chief financial
officer and accounting officer and all persons providing similar functions will be disclosed on our website promptly following
the date of such amendment or waiver and we will disclose the nature of the amendment or waiver, its effective date and to whom
it applies in a Current Report on Form 8-K filed with the SEC.
CORPORATE GOVERNANCE
Board Leadership Structure
Mr. Shah served as our chairman of our Board and served as
Chief Executive Officer until May 5, 2016. After May 5, 2016, Mr. Shah served as non-executive Chairman and Ms. Faro served as
Chief Executive Officer. We do not currently have a lead independent director. Our Board of Directors has determined that this
leadership structure is appropriate as the Board believes that its other structural features, including five independent, non-employee
directors on a board consisting of seven directors and key committees consisting wholly of independent directors, provide for
substantial independent oversight of the Company’s management. However, the Board of Directors recognizes that depending
on future circumstances, other leadership models may become more appropriate. Accordingly, the Board of Directors will continue
to periodically review its leadership structure.
Risk Oversight
Management is responsible for the day-to-day management of
risks faced by our company, while the Board of Directors currently has responsibility for the oversight of risk management. In
its risk oversight role, the Board of Directors seeks to ensure that the risk management processes designed and implemented by
management are adequate. The Board of Directors also reviews with management our strategic objectives, which may be affected by
identified risks, our plans for monitoring and controlling risk, the effectiveness of such plans, appropriate risk tolerance and
our disclosure of risk. Our Audit Committee is responsible for periodically reviewing with management and our independent auditors
the adequacy and effectiveness of our policies for assessing and managing risk. The other committees of the Board of Directors
also monitor certain risks related to their respective committee responsibilities. All committees report to the full Board of
Directors as appropriate, including when a matter rises to the level of a material or enterprise level risk.
Board Committees
Our Board of Directors has established various committees to
assist it with its responsibilities. Those committees are described below.
Nominating Committee
We have established a Nominating Committee
of the Board of Directors, which consists of Messrs. Edwards (Chair), Lubert, and Palmer, each of whom is an independent director
under the rules and regulations of The NASDAQ Stock Market. The Nominating Committee operates pursuant to a charter that complies
with current federal and NASDAQ Stock Market rules relating to corporate governance matters. Our Nominating Committee charter
has been posted on our website and can be found at
www.jetpay.com.
The Nominating Committee is responsible
for overseeing the selection of persons to be nominated to serve on our Board. The Nominating Committee considers persons identified
by its members, management, shareholders, investment bankers and others.
Guidelines for Selecting Director Nominees
The Nominating Committee’s guidelines for selecting nominees
generally provide that persons to be nominated:
|
·
|
should
have demonstrated notable or significant achievements in business, education or public
service;
|
|
·
|
should
possess the requisite intelligence, education and experience to make a significant contribution
to the Board and bring a range of skills, diverse perspectives and backgrounds to its
deliberations; and
|
|
·
|
should
have the highest ethical standards, a strong sense of professionalism and intense dedication
to serving the interests of the stockholders.
|
The Nominating Committee will consider
a number of qualifications and factors relating to management and leadership experience, background and integrity and professionalism
in evaluating a person’s candidacy for membership on the Board. The Nominating Committee may require certain skills or attributes,
such as financial or accounting experience, to meet specific board needs that arise from time to time. The Nominating Committee
does not have a policy with regard to consideration of candidates for election to the Board recommended by stockholders and does
not distinguish among nominees recommended by stockholders and other persons. Stockholders wishing to recommend a nominee for
director are to submit such nomination in writing, along with any other supporting materials the stockholder deems appropriate,
to the Secretary of the Company, Peter B. Davidson, at the Company’s corporate offices at 3939 West Drive, Center Valley,
Pennsylvania 18034.
Audit Committee
We have established an Audit Committee
of the Board. As required by the rules of The NASDAQ Stock Market, each of the members of our Audit Committee is able to read
and understand fundamental financial statements. In addition, we consider Mr. Palmer to qualify as an “audit committee financial
expert” and as “financially sophisticated,” as defined under the rules of the SEC and The NASDAQ Stock Market,
respectively. Our Audit Committee operates pursuant to a charter which complies with current federal and NASDAQ Stock Market rules
relating to corporate governance matters (the “Audit Committee Charter”). The Audit Committee Charter has been posted
on our website and can be found at
www.jetpay.com.
The Audit Committee’s duties, which are specified in the Audit
Committee Charter, include:
|
·
|
reviewing
and discussing with management and the independent auditor the annual audited financial
statements, and recommending to the full Board whether the audited financial statements
should be included in our Form 10-K;
|
|
·
|
discussing
with management and the independent auditor significant financial reporting issues and
judgments made in connection with the preparation of our financial statements;
|
|
·
|
discussing
with management major risk assessment and risk management policies;
|
|
·
|
monitoring
the independence of the independent auditor;
|
|
·
|
verifying
the rotation of the lead (or coordinating) audit partner having primary responsibility
for the audit and the audit partner responsible for reviewing the audit as required by
law;
|
|
·
|
reviewing
and approving all related-party transactions;
|
|
·
|
inquiring
and discussing with management our compliance with applicable laws and regulations;
|
|
·
|
pre-approving
all audit services and permitted non-audit services to be performed by our independent
auditor, including the fees and terms of the services to be performed;
|
|
·
|
appointing
or replacing the independent auditor;
|
|
·
|
determining
the compensation and oversight of the work of the independent auditor (including resolution
of disagreements between management and the independent auditor regarding financial reporting)
for the purpose of preparing or issuing an audit report or related work; and
|
|
·
|
establishing
procedures for the receipt, retention and treatment of complaints received by us regarding
accounting, internal accounting controls or reports which raise material issues regarding
our financial statements or accounting policies.
|
The Audit Committee consists of Messrs.
Palmer (Chair), Lubert and Michienzi, each of whom is an independent director under the rules and regulations of The NASDAQ Stock
Market.
Compensation Committee
Our Compensation Committee is composed
of three members of our Board of Directors and is currently comprised of Messrs. Edwards (Chair), Palmer, and Michienzi. All of
the members of our Compensation Committee are independent under the rules of The NASDAQ Stock Market, are “non-employee
directors” within the meaning of Rule 16b-3(b)(3) of the Exchange Act and are “outside directors” for purposes
of Section 162(m) of the Internal Revenue Code of 1986, as amended (the “Code”). Pursuant to its charter (which is
available at
www.jetpay.com
), the Compensation Committee is charged with performing an annual review of our executive
officers’ salary, incentive opportunities and equity holdings to determine whether they provide adequate incentives and
motivation to the executive officers and whether they adequately compensate the executive officers relative to officers in other
comparable companies. As set forth in the Compensation Committee Charter, the Compensation Committee’s duties include the
following.
|
·
|
Our
Compensation Committee annually reviews and approves corporate goals and objectives relevant
to CEO compensation, evaluates the CEO’s performance in light of those goals and
objectives, and determines the CEO’s compensation levels based on this evaluation;
|
|
·
|
Our
Compensation Committee annually makes recommendations to our Board of Directors with
respect to the compensation of the Corporation’s Chief Financial Officer and Vice-Chairman.
In addition, our Compensation Committee has the authority to review the compensation
of all of our executive officers. The CEO advises our Compensation Committee on the annual
performance and appropriate levels of compensation of our executive officers (other than
the CEO);
|
|
·
|
Our
Compensation Committee has the authority to retain and terminate any compensation consultant
to assist in the evaluation of director, CEO and other executive officer compensation.
No compensation study was commissioned for 2016 or 2015; and
|
|
·
|
Our
Compensation Committee has the authority to form and delegate authority to subcommittees.
|
Shareholder Communications
Stockholders may communicate appropriately with any and all
of our directors by sending written correspondence addressed as follows:
JetPay Corporation
Attention: Board of Directors
c/o Peter B. Davidson, Secretary
3939 West Drive
Center Valley, Pennsylvania 18034
Our Secretary will forward such communication to the appropriate
members of the Board of Directors.
Meeting Attendance
Our Board of Directors held eleven meetings in the past fiscal
year. Meetings include both in-person and telephonic meetings. For information regarding committee composition, please see the
section above entitled “Board Committees.” The Company does not have a policy with respect to attendance of members
of the Board of Directors at annual meetings. The Company held its annual meeting on August 2, 2016 and six directors were in
attendance.
Item 11. Executive Compensation
This discussion provides an overview of the compensation paid
to our Chief Executive Officer, Vice-Chairman and Chief Financial Officer (our “Named Executive Officers”) for 2016
and 2015. The names and titles of the Company’s 2016 Named Executive Officers are:
|
·
|
Bipin C. Shah –
Chairman of the Board and Chief Executive Officer until May 5, 2016
|
|
·
|
Diane (Vogt) Faro
– Chief Executive Officer since May 5, 2016
|
|
·
|
Peter B. Davidson
– Vice-Chairman and Corporate Secretary
|
|
·
|
Gregory M. Krzemien
– Chief Financial Officer
|
|
·
|
Michael Collester
– Chief Operating Officer since August 23, 2016
|
Overview; Risk Management
Our Compensation Committee used a comprehensive executive compensation
program and philosophy during 2016.
We seek to provide total compensation packages that are competitive,
tailored to the needs of the Company, and that reward our executives for their roles in creating value for our stockholders. Our
goal is to be competitive in our executive compensation with other similarly situated companies in our industry. The compensation
decisions regarding our executives are based on our need to attract individuals with the skills necessary to achieve our business
plan, to reward our executives fairly over time, to motivate our executives to create value for our stockholders and to retain
our executives who continue to perform in accordance with our expectations.
Our executive compensation consists of three primary components:
salary, incentive bonus and stock-based awards issued under an incentive plan. We determine the appropriate level for each compensation
component based in part, but not exclusively, on market competitiveness, our view of internal equity, individual performance,
the Company’s performance and other information deemed relevant and timely.
We have a “clawback” policy under which the Company
can cancel and recoup from any employee in the organization any incentive compensation or equity awards that were based on incorrect
information, whether the error in the information occurred as a result of oversight, negligence or intentional misconduct (including
fraud). Our Compensation Committee has discretion to treat employees who received an award based on incorrect information differently
depending on an employee’s degree of involvement in causing the error, an employee’s assistance in discovering and/or
correcting the error, and any other facts that the Compensation Committee determines to be relevant.
Our Compensation Committee periodically evaluates the philosophy
and standards on which our compensation plans are based. It is our belief that our compensation programs do not, and in the future
will not, encourage inappropriate actions or risk taking by our executive officers. We do not believe that any risks arising from
our employee compensation policies and practices are reasonably likely to have a material adverse effect on us. In addition, we
do not believe that the mix and design of the components of our executive compensation program will encourage management to assume
excessive risks. We believe that our current business process and planning cycle fosters the behaviors and controls that would
mitigate the potential for adverse risk caused by the action of our executives.
Summary Compensation Table
The following table sets forth the compensation
earned by our Named Executive Officers for the fiscal year ended December 31, 2016 and for the preceding fiscal year.
SUMMARY COMPENSATION TABLE
Name and Principal
Position
|
|
Year
|
|
Salary
($)
|
|
|
Option
Awards
($)(4)
|
|
|
All Other
Compensation
($)(5)
|
|
|
Total
($)
|
|
Bipin C. Shah,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Chairman of the Board and
|
|
2016
|
|
|
300,000
|
|
|
|
-
|
|
|
|
4,846
|
|
|
|
304,846
|
|
Chief Executive Officer (1)
|
|
2015
|
|
|
300,000
|
|
|
|
-
|
|
|
|
5,250
|
|
|
|
305,250
|
|
Diane (Vogt) Faro,
|
|
2016
|
|
|
262,136
|
|
|
|
839,672
|
|
|
|
2,770
|
|
|
|
1,104,578
|
|
Chief Executive Officer (2)
|
|
2015
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
Peter B. Davidson,
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Vice-Chairman and
|
|
2016
|
|
|
275,000
|
|
|
|
-
|
|
|
|
-
|
|
|
|
275,000
|
|
Corporate Secretary
|
|
2015
|
|
|
258,333
|
|
|
|
-
|
|
|
|
6,375
|
|
|
|
264,708
|
|
Gregory M. Krzemien,
|
|
2016
|
|
|
270,000
|
|
|
|
-
|
|
|
|
7,950
|
|
|
|
277,950
|
|
Chief Financial Officer
|
|
2015
|
|
|
253,333
|
|
|
|
-
|
|
|
|
7,600
|
|
|
|
260,933
|
|
Michael Collester
|
|
2016
|
|
|
195,233
|
|
|
|
-
|
|
|
|
5,857
|
|
|
|
201,090
|
|
Chief Operating Officer (3)
|
|
2015
|
|
|
145,609
|
|
|
|
-
|
|
|
|
4,329
|
|
|
|
149,938
|
|
|
(1)
|
Bipin C. Shah resigned as Chief
Executive Officer on May 5, 2016.
|
|
(2)
|
Diane (Vogt) Faro was appointed
as Chief Executive Officer on May 5, 2016.
|
|
(3)
|
Michael Collester was appointed
as Chief Operating Officer on August 23, 2016.
|
|
(4)
|
Represents
the aggregate grant date fair value of stock options granted during the year indicated.
The grant date fair value of stock option awards was determined using the Black-Scholes
option pricing model in accordance with FASB ASC Topic 718 utilizing the assumptions
discussed in
Note 12. Stockholders’ Equity
in the accompanying consolidated
financial statements.
|
|
(5)
|
The amounts in this column represent
matching contributions received by the Named Executive Officer from participation in
the Company’s defined contribution pension plan.
|
At the 2013 annual meeting, our stockholders
elected to conduct non-binding advisory votes on the compensation of the Named Executive Officers every three years. The first
non-binding advisory vote on executive compensation took place at the 2016 annual stockholders’ meeting, where our stockholders
approved the compensation of our named Executive Officers. The next non-binding advisory vote on executive compensation will take
place at the 2019 annual stockholders’ meeting.
Outstanding Equity Awards at Fiscal Year End
The following table sets forth the outstanding equity awards
held by our Named Executive Officers as of December 31, 2016.
OUTSTANDING
EQUITY AWARDS AT FISCAL YEAR-END
Option Awards
Name
|
|
Number of Securities
Underlying
Unexercised
Options
(#)
Exercisable
|
|
|
Number of
Securities
Underlying
Unexercised
Options
(#)
Unexercisable
|
|
|
Option
Exercise
Price
|
|
|
Option
Expiration
Date
|
|
Bipin C. Shah
|
|
|
187,500
|
(1)
|
|
|
62,500
|
|
|
$
|
3.00
|
|
|
|
12/12/23
|
|
Diane (Vogt) Faro
|
|
|
111,439
|
(2)
|
|
|
488,561
|
|
|
$
|
2.48 to $2.60
|
|
|
|
5/6/26 to 11/1/26
|
|
Peter B. Davidson
|
|
|
93,750
|
(1)
|
|
|
31,250
|
|
|
$
|
3.00
|
|
|
|
12/12/23
|
|
Gregory M. Krzemien
|
|
|
200,000
|
(3)
|
|
|
-
|
|
|
$
|
3.10
|
|
|
|
8/30/23
|
|
Michael Collester
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
|
-
|
|
|
(1)
|
Options granted on December 12, 2013
to Mr. Shah and Mr. Davidson vest equally over four years on the annual anniversary date
of the grant.
|
|
(2)
|
Options in the amount of 250,000 granted on May 5, 2016 and
350,000 on
October 31, 2016 to Ms. Faro vest daily over two years from the
dates of the grants.
|
|
(3)
|
Options granted on August 30, 2013
to M. Krzemien vested with respect to 50,000 shares immediately on the date of grant
with the remainder vesting in 18 equal monthly installments.
|
Potential Payments upon Termination or Change-in-Control
Except for the employment agreements with Ms. Faro and Mr.
Collester, the terms of which are summarized below, we do not have employment agreements with any of our Named Executive Officers
or any other contract, agreement, plan or arrangement that provides for payments to any Named Executive Officer in connection
with any termination of employment, a change in control of the Company or a change in the Named Executive Officer’s responsibilities.
Diane (Vogt) Faro Employment Agreement
On May 5, 2016, the Company and Ms. Faro entered into an executive
employment agreement, which commenced on May 5, 2016 (the “Commencement Date”). Pursuant to the Agreement, Ms. Faro
shall serve as Chief Executive Officer for an initial term of two years (the “Term”). Ms. Faro receives a base salary
of $400,000 beginning on the Commencement Date and ending on the first anniversary thereof, and thereafter a base salary of $450,000
through the end of the Term. In addition to her base salary, Ms. Faro is eligible to receive an annual cash bonus of up to 50%
of her base salary as of the end of the calendar year to which such bonus relates, as determined in the sole discretion of the
Board. For calendar year 2016, any annual bonus payable to Ms. Faro shall be pro-rated based on the Commencement Date. In connection
with Ms. Faro’s entry into her employment agreement, she was granted 250,000 options to purchase shares of the Company’s
common stock, which options have an exercise price of $2.48 and vest ratably on a daily basis over the Term, pursuant to the Company’s
2013 Stock Incentive Plan.
In the event that Ms. Faro is terminated by the Company other
than for Cause (as defined in her employment agreement), disability or death or Ms. Faro terminates her employment for Good Reason
(as defined in the employment agreement), then, in addition to the payment to Ms. Faro of any base salary earned but unpaid through
the date of termination and any accrued but unused vacation time as of the date of termination (“Accrued Obligations”),
the Company shall continue to pay to Ms. Faro her base salary during the Continuation Period (as defined in the employment agreement)
and accelerate the vesting of those options granted to Ms. Faro in connection with the Agreement that would have vested during
the Continuation Period in the event that Ms. Faro’s employment had not been terminated, such that those options shall be
fully vested as of the date of Ms. Faro’s termination. “Continuation Period” is defined in the Agreement to
mean a period of twelve months following the date of the termination of Ms. Faro’s employment. The Company’s obligations
to make payments to Ms. Faro during the Continuation Period (other than with respect to the Accrued Obligations) shall be conditioned
upon Ms. Faro’s compliance with certain covenants set forth in the Agreement, including but not limited to the execution,
delivery and non-revocation of a valid and enforceable general release of claims.
Following the termination of her employment, Ms. Faro shall
have certain continuing obligations under the Agreement, including but not limited to those relating to the non-disclosure of
confidential information, non-competition, non-solicitation and proprietary rights.
Michael Collester Employment Agreement
On August 23, 2016, the Company and Mr. Collester entered into
an amended and restated employment agreement, which commenced on August 23, 2016 (the “Commencement Date”). The Agreement
amended and restated the employment agreement, dated as of November 7, 2014, by and between JetPay Payments, PA and Mr. Collester.
Pursuant to the Agreement, Mr. Collester serves as Chief Operating Officer of the Company for an initial term ending December
31, 2017 (the “Employment Period”).
Mr. Collester receives a base salary of $300,000
beginning on the Commencement Date and ending on December 31, 2016, and thereafter a base salary of $325,000 through the end of
the Employment Period. In addition to his base salary, Mr. Collester is eligible to receive an annual bonus as determined by the
Board of Directors in its sole discretion.
If Mr. Collester is terminated by the Company
without Cause (as defined in the employment agreement) or Mr. Collester terminates his employment for Good Reason (as defined
in the employment agreement), then, contingent upon the effectiveness of a general release of claims, in addition to the payment
of any base salary earned but unpaid through the date of termination, the Company shall continue to pay to Mr. Collester his base
salary during the Severance Period. “Severance Period” is defined in the Agreement to mean the period commencing on
the 60
th
date following such separation and ending 60 days following the last day of the then-current Employment
Period.
If Mr. Collester’s employment is terminated
during the Employment Period due to Mr. Collester’s death or disability, the Company shall also pay to Mr. Collester (or
his estate or beneficiaries, as the case may be) unreimbursed expenses; any earned but unpaid annual bonus with respect to the
year prior to the year of termination; and a pro rata bonus with respect to the year of separation equal to a fraction where the
numerator is the number of completed calendar months of employment in such year and the denominator is 12, payable when such bonuses
are paid to other employees of the Company or its affiliates.
Following the termination of his employment, Mr. Collester
shall have certain continuing obligations under the Agreement, including but not limited to those relating to the non-disclosure
of confidential information, non-competition, non-solicitation and proprietary rights.
Director Compensation
The following table provides summary information concerning
cash and certain other compensation paid or accrued by JetPay to or on behalf of JetPay’s Board for the year ended December
31, 2016.
DIRECTOR
COMPENSATION
|
|
Fees
Earned ($)
|
|
|
Option
Awards ($)(1)
|
|
|
Total ($)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Donald J. Edwards
|
|
|
21,667
|
|
|
|
-
|
|
|
|
21,667
|
|
Diane (Vogt) Faro (1)
|
|
|
7,441
|
|
|
|
-
|
|
|
|
7,441
|
|
Frederick S. Hammer (2)
|
|
|
18,000
|
|
|
|
-
|
|
|
|
18,000
|
|
Jonathan M. Lubert
|
|
|
22,500
|
|
|
|
-
|
|
|
|
22,500
|
|
Steven M. Michienzi
|
|
|
22,000
|
|
|
|
-
|
|
|
|
22,000
|
|
Robert B. Palmer
|
|
|
32,500
|
|
|
|
-
|
|
|
|
32,500
|
|
Laurence L. Stone
|
|
|
3,043
|
|
|
|
|
|
|
|
3,043
|
|
|
(1)
|
Diane (Vogt) Faro was an independent director until May 5,
2016, when she was appointed Chief Executive Officer.
|
|
(2)
|
Frederick S. Hammer, a director since 2011, resigned from
the Board of Directors effective August 31, 2016 for personal reasons.
|
Effective April 1, 2014, the Compensation
Committee approved a plan which the Board ratified to provide cash compensation to the non-employee directors of the Company for
their service. The plan includes: a $10,000 annual retainer to be paid in quarterly installments in arrears; a $1,000 fee to each
non-employee director for each board meeting attended in person or by teleconference; and a $500 fee to each non-employee director
for each board committee meeting attended in person or by teleconference. Additionally, an annual retainer fee of $5,000 will
be paid to the Chairman of the Compensation Committee and a $10,000 annual retainer fee will be paid to the Chairman of the Audit
Committee. The fees for Messrs. Edwards and Michienzi are payable to their employer, Flexpoint Ford, LLC.
Tax and Accounting Implications
Section 162(m) of the Internal Revenue Code of 1986, as
amended (the “Code”) limits the deductibility by publicly held corporations of certain compensation in excess of $1,000,000
paid in a taxable year to our Chief Executive Officer and the three highest paid executive officers (excluding the Chief Financial
Officer). We consider the impact of this deductibility limit on the compensation that we intend to award, and attempt to structure
compensation such that it is deductible when appropriate. However, we may exercise discretion to award compensation that is not
fully deductible under Code Section 162(m) when it is in the best interests of the Company or is otherwise appropriate, such
as in order to recruit and retain key executives. For 2016 and 2015, the Company was entitled to a deduction for all compensation
paid to our Named Executive Officers.
When establishing executive compensation, we consider the effect
of various forms of compensation on the Company’s financial reports. In particular, we will consider the potential impact
on current and future financial reports of all equity compensation that we may grant in the future.
Compensation Committee Interlocks and Insider Participation
Our Compensation Committee is comprised entirely of the three
independent directors listed above. During 2016, no member of the Compensation Committee had a relationship that must be described
under the SEC rules relating to disclosure of related party transactions. In 2016, none of our executive officers served on the
Board or compensation committee of any entity that has one or more of its executive officers serving on our Board or Compensation
Committee.
Item 12. Security Ownership of Certain Beneficial Owners
and Management and Related Stockholder Matters.
Securities Authorized for Issuance
under Equity Compensation Plans
The Company’s 2013 Stock Incentive Plan has been approved
by the stockholders as restated and amended in 2016. Stock options are issued under the Amended and Restated 2013 Stock Incentive
Plan at the discretion of the Compensation Committee to employees at an exercise price of no less than the then current market
price of the common stock and generally expire ten years from the date of grant. Allocation of available options and vesting schedules
are at the discretion of the Compensation Committee and are determined by potential contribution to, or impact upon, the overall
performance of the Company by the executives and employees. Stock options are also issued to members of the Board of Directors
at the discretion of the Compensation Committee. These options may have similar terms as those issued to officers or may vest
immediately. The purpose of the Amended and Restated 2013 Stock Incentive Plan is to provide a means of performance-based compensation
in order to provide incentive for the Company’s employees.
The Company’s 2015 Employee Stock Purchase Plan (the
“ESPP”) has been approved by the stockholders. The ESPP allows certain defined employees to contribute a percentage
of their cash earnings, subject to certain maximum amounts, to be used to purchase shares of the Company’s common stock
on each of two semi-annual purchase dates. The purchase price is equal to 90% of the fair value of the Company’s common
stock on the commencement date or the purchase date of each offering period, whichever is lower. As of December 31, 2016, an aggregate
of 277,124 shares of the Company’s common stock remain reserved for issuance under the Company’s ESPP. The Company’s
initial purchase period under the ESPP began on January 1, 2016 with 22,876 shares issued on July 1, 2016 and 51,480 shares issued
on January 5, 2017. The Company uses the Black-Scholes option-pricing model to determine the fair value of the ESPP stock rights.
The following table sets forth certain information regarding
the Company’s Amended and Restated 2013 Stock Incentive Plan and the 2015 Employee Stock Purchase Plan as of December 31,
2016.
Plan Category
|
|
Number of securities to
be issued upon exercise
of outstanding options,
warrants and rights
|
|
|
Weighted average
exercise price of
outstanding options,
warrants and rights
|
|
|
Number of securities remaining
available for future issuance under
equity compensation plans (excluding
securities reflected in the first column)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
2013 Stock Incentive Plan
|
|
|
2,246,248
|
|
|
$
|
2.89
|
|
|
|
753,752
|
|
2015 Employee Stock Purchase Plan
|
|
|
22,876
|
|
|
$
|
-
|
|
|
|
277,124
|
|
Total
|
|
|
2,269,124
|
|
|
$
|
2.89
|
|
|
|
1,030,876
|
|
Beneficial Ownership
The following beneficial ownership table
sets forth information as of February 28, 2017 regarding ownership of shares of JetPay common stock by the following persons:
|
·
|
each person who is known to JetPay to own beneficially
more than 5% of the outstanding shares of JetPay common stock;
|
|
·
|
each director of JetPay;
|
|
·
|
each Named Executive Officer; and
|
|
·
|
all directors and executive officers of JetPay, as a group.
|
Unless otherwise indicated, to JetPay’s
knowledge, all persons listed on the beneficial ownership table below have sole voting and investment power with respect to their
shares of JetPay common stock. Unless otherwise indicated, the address of the holder is c/o the Company, 3939 West Drive, Center
Valley, Pennsylvania 18034.
Name and Address of Beneficial Owner
|
|
Number of Shares
of Common Stock
Beneficially Owned
|
|
|
Approximate Percentage of
Outstanding Common Stock
Beneficially Owned (14)
|
|
5% or Greater Stockholders:
|
|
|
|
|
|
|
|
|
Flexpoint Fund II, L.P. (1)
|
|
|
10,310,276
|
|
|
|
39.8
|
%
|
Sundara Investment Partners, LLC (2)
|
|
|
3,482,793
|
|
|
|
18.3
|
%
|
Gene M. Valentino (3)
|
|
|
2,628,149
|
|
|
|
16.9
|
%
|
WLES, L.P. (4)
|
|
|
1,733,334
|
|
|
|
10.9
|
%
|
Michael Collester (5)
|
|
|
1,640,000
|
|
|
|
10.5
|
%
|
Wellington Management Company, LLP (6)
|
|
|
1,537,239
|
|
|
|
9.9
|
%
|
C. Nicholas Antich (7)
|
|
|
972,173
|
|
|
|
6.2
|
%
|
Carol A. Antich (7)
|
|
|
972,173
|
|
|
|
6.2
|
%
|
Bipin C. Shah Trust U/A dated July 31, 2001 (8)
|
|
|
733,136
|
|
|
|
4.7
|
%
|
|
|
|
|
|
|
|
|
|
Directors and Named Executive Officers:
|
|
|
|
|
|
|
|
|
Donald J. Edwards (1)
|
|
|
10,310,276
|
|
|
|
39.8
|
%
|
Laurence L. Stone (2)
|
|
|
4,349,416
|
|
|
|
22.8
|
%
|
Michael Collester (5)
|
|
|
1,640,000
|
|
|
|
10.5
|
%
|
Bipin C. Shah (9)
|
|
|
574,761
|
|
|
|
3.6
|
%
|
Peter B. Davidson (10)
|
|
|
261,245
|
|
|
|
1.7
|
%
|
Diane (Vogt) Faro (11)
|
|
|
209,747
|
|
|
|
1.3
|
%
|
Gregory M. Krzemien (12)
|
|
|
200,000
|
|
|
|
1.3
|
%
|
Jonathan M. Lubert (13)
|
|
|
156,865
|
|
|
|
*
|
|
Robert B. Palmer (13)
|
|
|
63,180
|
|
|
|
*
|
|
Steven M. Michienzi
|
|
|
-
|
|
|
|
*
|
|
All current directors and executive officers as a group (10 persons)
|
|
|
17,765,490
|
|
|
|
59.0
|
%
|
|
*
|
Represents less than 1%.
|
|
(1)
|
The business address of Flexpoint is 676 N. Michigan Avenue,
Suite 3300, Chicago, IL 60611. The general partner of Flexpoint Fund II, L.P. is Flexpoint
Management II, L.P., of which the general partner is Flexpoint Ultimate Management II,
LLC. The sole managing member of Flexpoint Ultimate Management II, LLC is Donald J. Edwards.
Represents 10,310,276 shares subject to conversion of Series A Preferred Convertible
Stock at the holder’s option.
|
|
(2)
|
Based
solely on the information contained in a Schedule 13D filed by Laurence L. Stone on October
28, 2016. The business address of Mr. Stone and Sundara Investment Partners,
LLC (“Sundara”) is 725 Eagle Farm Road, Villanova, PA 19085. Mr. Stone
is the managing member of Sundara. Mr. Stone reported beneficial ownership over 4,349,416
shares, including (i) 3,482,793 shares of Common Stock issuable upon conversion of the
Series A Preferred Convertible Stock owned by Sundara; (ii) 13,300 shares of common stock
held by Mr. Stone directly; (iii) 125,000 shares of common stock owned by LHLJ, Inc.;
(iv) 388,573 shares of common stock owned by Main Line Trading Partners, LLC; and (v)
339,750 shares of common stock owned by The Stone Family Trust.
|
|
(3)
|
The business address of Mr. Valentino is 316 South Baylen,
Suite 590, Pensacola, FL 32502.
|
|
(4)
|
The business address of WLES, L.P. is 3361 Boyington Drive,
Carrollton, TX 75006. The general partner of WLES, L.P. is Transaction Guy
& The Triumphant Ones, LLC, a Texas limited liability company. The controlling members
of the general partnership are Trent R. Voigt and Sue Lynn Voigt, husband and wife and
individual residents of the State of Texas. Includes 266,667 shares of common stock subject
to outstanding warrants that are exercisable within 60 days of February 28, 2017.
|
|
(5)
|
The business address of Mr. Collester is 136 East Watson Avenue,
Langhorne, PA 19047.
|
|
(6)
|
Based solely on the information contained in a Schedule 13G
filed by Wellington Management Company, LLP on January 10, 2013 and Schedule 13D filed
on January 17, 2017. The business address of the entity is 80 Congress Street, Boston,
Massachusetts 02210. Includes the purchase of 386,811 shares of common stock that
were issuable upon exercise of options held by certain investment advisory clients and
excludes 616,500 shares subject to conversion of Series A-1 Preferred Convertible Stock
at the holder’s option because each of the options provides that the holder thereof
does not have the right to exercise the option to the extent (but only to the extent)
that such exercise would result in it or any of its affiliates beneficially owning more
than 9.9% of the common stock.
|
|
(7)
|
The business address of Mr. C. Nicholas Antich and Carol A.
Antich is 3939 West Drive, Center Valley PA 18034. Includes 204,420 shares
owned by Mr. C. Nicholas Antich, 204,420 shares owned by Mrs. Carol A. Antich, the wife
of Mr. C. Nicholas Antich, 537,813 shares owned by Mr. C. Nicholas Antich and Carol A.
Antich, as Tenants by the Entireties, and 25,520 shares owned by Brittany N. McCausland
Trust u/a 2/17/99, of which Mr. and Mrs. Antich are the trustees and on whose behalf
Mr. and Mrs. Antich have the right to act.
|
|
(8)
|
The business address of the trustee is 159 West Lancaster Avenue,
Paoli, PA 19301.
|
|
(9)
|
Includes 187,500 shares of common stock subject to outstanding
options that are exercisable within 60 days of February 28, 2017.
|
|
(10)
|
Includes 93,750 shares of common stock subject to outstanding
options that are exercisable within 60 days of February 28, 2017.
|
|
(11)
|
Includes 209,247 shares of common stock subject to outstanding
options that are exercisable within 60 days of February 28, 2017.
|
|
(12)
|
Includes 200,000 shares of common stock subject to outstanding
options that are exercisable within 60 days of February 28, 2017.
|
|
(13)
|
Includes 10,000 shares of common stock subject to outstanding
options that are exercisable within 60 days of February 28, 2017.
|
|
(14)
|
Percentage calculations based on 15,588,984 shares outstanding
on February 28, 2017.
|
Item 13. Certain Relationships and Related Transactions,
and Director Independence.
JetPay Payroll Services’ headquarters are located in
Center Valley, Pennsylvania and consist of approximately 22,500 square feet leased from C. Nicholas Antich and Carol A. Antich.
Mr. Antich is the former President of JetPay HR & Payroll Services. The rent is currently $45,163 per month. The office lease
had an initial 10-year term which expired on May 31, 2016 and was extended for one year on June 1, 2016. Rent expense under this
lease was $531,500 and $516,500 for the years ended December 31, 2016 and 2015, respectively. The Company is currently evaluating
its future space needs and reviewing several alternatives, including a possible extension or amendment to the current lease.
JetPay Payment Services retains a backup center in Sunnyvale,
Texas consisting of 1,600 square feet, rented from JT Holdings, an entity controlled by Trent Voigt, the previous Chief Executive
Officer of JetPay Payments, TX. The terms of the lease which expired on January 31, 2016 were commercial. Occupancy continues
on a month-to-month basis. Rent expense was $47,000 and $36,000 for the years ended December 31, 2016 and 2015, respectively.
In connection with the closing of the Company’s acquisition
of JetPay Payments, TX, the Company entered into a Note and Indemnity Side Agreement with JP Merger Sub, LLC, WLES and Trent Voigt
(the “Note and Indemnity Side Agreement”) dated as of December 28, 2012. Pursuant to the Note and Indemnity Side Agreement,
the Company issued a promissory note in the amount of $2,331,369 in favor of WLES. Interest accrued on amounts due under the note
at a rate of 5% per annum, and is payable quarterly. Interest expense was $67,000 and $118,000 for the years ended December 31,
2016 and 2015, respectively. Under the terms of the WLES Settlement Agreement, WLES transferred the WLES Note to Merrick. See
Note
14. Commitments and Contingencies
in the accompanying consolidated financial statements.
On August 22, 2013, JetPay Payments, TX entered into a Master
Service Agreement with JetPay Solutions, LTD, a United Kingdom based entity 75% owned by WLES, an entity owned by Trent Voigt.
The Company initiated transaction business under this agreement beginning in April 2014 with revenue earned from JetPay Solutions,
LTD of $36,000 and $238,000 for the years ended December 31, 2016 and 2015, respectively.
On June 7, 2013, the Company issued an unsecured promissory
note to Trent Voigt, the then Chief Executive Officer of JetPay Payments, TX, in the amount of $491,693. The note matures on September
30, 2017, as extended by the WLES Settlement Agreement dated July 26, 2016, see
Note 14. Commitment and Contingencies
in the accompanying consolidated financial statements, and bears interest at an annual rate of 4% with interest expense of
$11,000 and $20,000 recorded for the years ended December 31, 2016 and 2015, respectively. The transaction was approved upon resolution
and review by the Company’s Audit Committee of the terms of the note to ensure that such terms were no less favorable to
the Company than those that would be available with respect to such transactions from unaffiliated third parties. See
Note
10. Long-Term Debt, Notes Payable and Capital Lease Obligations
in the accompanying consolidated financial statements.
On October 31, 2014, following the
unanimous consent of the Company’s Audit Committee, the Company entered into a letter agreement with WLES, an entity owned
by Trent Voigt, that governs the distribution of any proceeds received in connection with the Direct Air matter. The Letter Agreement
provides that subject to certain exceptions, after each of the Company and WLES receive out-of-pocket expenses and chargeback
losses incurred subsequent to the consummation of our acquisitions of JetPay HR & Payroll Services and prior to the consummation
of such acquisitions, respectively, each of the parties will share in any proceeds received pro rata. This agreement was superseded
by the WLES Settlement Agreement. See
Note 14. Commitment and Contingencies
in the accompanying consolidated financial
statements.
On May 6, 2015, the Company issued an unsecured promissory
note to C. Nicholas Antich, the then President of JetPay HR & Payroll, and Carol A. Antich in the amount of $350,000 to satisfy
the remaining balance of the $2.0 million deferred consideration. The promissory note bore interest at an annual rate of 4% and
matures on May 6, 2017, payable in two equal installments of $175,000, with the first paid on May 6, 2016 and the second due on
May 6, 2017. The promissory note was paid in full on December 31, 2016. Interest expense related to this promissory note was $9,800
and $9,500 for the years ended December 31, 2016 and 2015, respectively. The promissory note was approved upon resolution and
review by the Company’s Audit Committee of the terms of the promissory note to ensure that such terms were no less favorable
to the Company than those that would be available with respect to such transactions from unaffiliated third parties. See
Note
10. Long-Term Debt, Notes Payable and Capital Lease Obligations
in the accompanying consolidated financial statements.
On December 22, 2015, the Company
entered into securities purchase agreements (the “Insider Common Stock SPAs”) with each of certain investors, including
Bipin C. Shah, its Chairman and then Chief Executive Officer, Robert B. Palmer, Director and Chair of the Audit Committee, and
Jonathan M. Lubert, Director. Pursuant to the Insider Common Stock SPAs, Messrs. Shah, Palmer and Lubert each agreed to purchase
20,000 shares, or an aggregate of 60,000 shares, of the Company’s common stock at a purchase price of $2.70 per share (a
price greater than the closing bid price of the common stock on December 21, 2015, which was the last closing bid price preceding
the Company’s execution of each of the Insider Common Stock SPAs), for aggregate consideration of $162,000, prior to issuance
costs. See
Note 12. Stockholders’ Equity
in the accompanying consolidated financial statements.
On January 15, 2016, the Company
issued the Promissory Notes in favor of each of Bipin C. Shah, Jonathan Lubert and Flexpoint. Amounts outstanding under the Promissory
Notes accrued interest at a rate of 12% per annum and carried a default interest rate upon the occurrence of certain events of
default, including failure to make payment under the applicable Promissory Note or a sale of the Company. Interest expense related
to the Promissory Notes was $177,000 for the year ended December 31, 2016. The maturity date of the Promissory Notes was extended
to July 31, 2016 through an extension executed on April 11, 2016. On July 26, 2016, Jonathan Lubert and Flexpoint agreed to further
extend their Promissory Notes to September 30, 2016 or the occurrence of an event of a default that is not properly cured or waived.
Additionally, Flexpoint increased the principal amount of its expiring Promissory Note from $1,000,000 to $1,400,000, the proceeds
of which increase were used to pay off the outstanding balance of the promissory note issued to Bipin C. Shah due on July 31,
2016. Finally, on September 30, 2016, Jonathan Lubert and Flexpoint agreed to further extend their Promissory Notes to October
31, 2016. The promissory notes in favor of Mr. Lubert and Flexpoint were paid in full on October 21, 2016
.
Finally, as described elsewhere in this Annual Report on Form
10-K, on October 18, 2016, the Company entered into an amended and restated Series A Purchase Agreement with Flexpoint, the holder
of the majority of the Company’s Series A Preferred Common Stock, and Sundara, a Delaware limited liability company wholly-owned
by Laurence Stone. Pursuant to the amended and restated Series A Purchase Agreement, Sundara acquired 33,667 shares of Series
A Preferred for $10.1 million. In connection with the Company’s entry into the amended and restated Series A Purchase Agreement,
Mr. Stone was appointed as a director of the Company. In addition, as elsewhere described in this Annual Report on Form 10-K,
on October 18, 2016, the Company entered into a loan and security agreement with JetPay HR & Payroll Services and PTFS, as
borrowers, the Company and JetPay Payments, FL, as guarantors, and LHLJ, Inc., an entity wholly-owned by Laurence Stone, as lender.
Pursuant to the loan and security agreement, LHLJ, Inc. provided JetPay HR & Payroll Services and PTFS a term loan of $9.5
million. The loan carries an interest rate of 8% and matures on October 18, 2021. In connection with the parties’ entry
into the loan and security agreement, the borrowers paid LHLJ, Inc. a non-refundable closing fee of $190,000.
Conflicts of Interest
In the course of their other business activities, our officers
and directors may become aware of investment and business opportunities which may be appropriate for our company as well as other
entities with which they are affiliated. Our management may have conflicts of interest in determining to which entity a particular
business opportunity should be presented.
Related Party Policy
Related-party transactions are defined as transactions in which
(1) the aggregate amount involved will or may be expected to exceed $120,000 in any calendar year, (2) we or any of our subsidiaries
is a participant, and (3) any (a) executive officer, director or nominee for election as a director, (b) greater than 5% beneficial
owner of our shares of common stock, or (c) immediate family member, of the persons referred to in clauses (a) and (b), has or
will have a direct or indirect material interest (other than solely as a result of being a director or a less than 10% beneficial
owner of another entity). A conflict of interest situation can arise when a person takes actions or has interests that may make
it difficult to perform his or her work objectively and effectively. Conflicts of interest may also arise if a person, or a member
of his or her family, receives improper personal benefits as a result of his or her position.
Our Audit Committee is responsible for reviewing and approving
related-party transactions to the extent we enter into such transactions. The audit committee considers all relevant factors when
determining whether to approve a related party transaction, including whether the related party transaction is on terms no less
favorable than terms generally available to an unaffiliated third-party under the same or similar circumstances and the extent
of the related party’s interest in the transaction. No director may participate in the approval of any transaction in which
he is a related party, but that director is required to provide the audit committee with all material information concerning the
transaction. Additionally, we require each of our directors and executive officers to complete a directors’ and officers’
questionnaire that elicits information about related party transactions.
These procedures are intended to determine whether any such
related party transaction impairs the independence of a director or presents a conflict of interest on the part of a director,
employee or officer.
Director Independence
The rules of The NASDAQ Stock Market require that a majority
of our board be composed of “independent directors,” which is defined generally as a person other than an officer
or employee of the company or its subsidiaries or any other individual having a relationship, which, in the opinion of the company’s
Board of Directors would interfere with the director’s exercise of independent judgment in carrying out the responsibilities
of a director.
Our Board of Directors has undertaken a review of the independence
of our directors and considered whether any director has a material relationship with us that could compromise his ability to
exercise independent judgment in carrying out his responsibilities. Our Board of Directors has determined that each of Messrs.
Lubert, Palmer, Stone, Edwards, and Michienzi qualifies as an independent director as defined under the rules and regulations
of The NASDAQ Stock Market. Our independent directors regularly meet in executive committee sessions during scheduled Board of
Directors Meetings where only independent directors are present.
Item 14. Principal Accounting Fees and Services.
The firm Marcum LLP (“Marcum”) is our independent
registered public accounting firm. The following is a summary of fees paid to Marcum for services rendered:
Audit Fees
The Company was billed $294,000 by Marcum for the audit of
JetPay’s annual financial statements for the year ended December 31, 2016 and for the review of the financial statements
included in JetPay’s Quarterly Reports on Form 10-Q filed for each of the first three calendar quarters of 2016.
The Company was billed $244,000 by Marcum for the audit of
JetPay’s annual financial statements for the year ended December 31, 2015 and for the review of the financial statements
included in JetPay’s Quarterly Reports on Form 10-Q filed for each of the first three calendar quarters of 2015.
Audit-Related Fees
During the years ended December 31, 2016
and 2015, we did not incur any audit-related fees.
Tax Fees
During the years ended December 31, 2016
and 2015, there were no fees billed for income tax preparation services by our independent registered public accounting firm.
All Other Fees
During the years ended December 31, 2016
and 2015, there were no fees billed for other matters by our independent registered public accounting firm.
Pre-Approval Policy
The Audit Committee’s policy is to pre-approve all audit
and permissible non-audit services provided by the Company’s independent registered public accounting firm. These services
may include audit services, audit-related services, tax services and other services. Pre-approval is generally provided for up
to one year and any pre-approval is detailed as to the particular service or category of services. The independent registered
public accounting firm and management are required to periodically report to the audit committee regarding the extent of services
provided by the independent registered public accounting firm in accordance with such pre-approval. The Audit Committee approved
all of the Company’s Audit Related Fees, Tax Fees and All Other Fees incurred by the Company in 2016 and 2015.
Notes To Consolidated Financial Statements
Note 1. Organization and Business Operations
The Company was incorporated in Delaware on November 12, 2010
as a blank check company whose objective was to acquire, through a merger, share exchange, asset acquisition, stock purchase,
plan of arrangement, recapitalization, reorganization or other similar business combination, one or more operating businesses.
Until December 28, 2012, the Company’s efforts were limited to organizational activities, its initial public offering (the
“Offering”) and the search for suitable business acquisition transactions.
Effective August 2, 2013, Universal Business Payment Solutions
Acquisition Corporation changed its name to JetPay Corporation (“JetPay” or the “Company”) with the filing
of its Amended and Restated Certificate of Incorporation. The Company’s ticker symbol on the Nasdaq Capital Market (“NASDAQ”)
changed from “UBPS” to “JTPY” effective August 12, 2013.
The Company currently operates in two business segments: the
JetPay Payment Processing Segment, which is an end-to-end processor of credit and debit card and ACH payment transactions, with
a focus on those processing internet transactions and recurring billings as well as for traditional retailers and service providers,
and the JetPay HR & Payroll Segment, which provides human capital management (“HCM”) services, including full-service
payroll and related payroll tax payment processing, time and attendance, Human Capital Management (“HCM”) services,
low-cost money management and payment services to unbanked and underbanked employees through prepaid debit cards, and services
under the Patient Protection and Affordable Care Act (the “Affordable Care Act”). The Company entered the payment
processing and the payroll processing businesses upon consummation of the acquisitions of JetPay Payment Services, TX, LLC (f/k/a
JetPay, LLC) (“JetPay Payments, TX”), and JetPay HR & Payroll Services, Inc. (f/k/a A. D. Computer Corporation)
(“JetPay HR & Payroll Services”) on December 28, 2012 (the “Initial Acquisitions”). Additionally,
on November 7, 2014, the Company acquired JetPay Payment Services, PA, LLC (f/k/a ACI Merchant Systems, LLC) (“JetPay Payments,
PA”), an independent sales organization specializing in relationships with banks, credit unions and other financial institutions.
Most
recently, on June 2, 2016, the Company acquired JetPay Payment Services, FL, LLC (f/k/a CollectorSolutions, Inc.) (“JetPay
Payments, FL”), a payment processor specializing in the processing of payments in the government and utilities channels.
The Company believes that the investments made in its technology,
infrastructure, and sales staff will help generate cash flows in the future sufficient to cover its working capital needs. The
Company may, from time to time, determine that additional investments are prudent to maintain and increase stockholder value.
In addition to funding ongoing working capital needs, the Company’s cash requirements for the next fifteen months ending
March 31, 2018 include, but are not limited to: principal and interest payments on long-term debt and capital lease obligations
of approximately $5.2 million, after giving effect to the payoff of a $5.0 million promissory note payable to Merrick Bank Corporation
on January 11, 2017, See
Note 17. Subsequent Events
; estimated capital expenditures of $3.9 million; and $314,000
of deferred consideration paid to the former unitholders of JetPay Payments, PA on January 17, 2017.
The Company expects to fund its cash needs for the next fifteen
months, including debt service requirements, capital expenditures and possible future acquisitions, with cash flow from its operating
activities, sales of equity securities, including the recent sale of preferred stock and borrowings (see below) and through new
borrowings. As disclosed in
Note 11. Redeemable Convertible Preferred Stock
, from October 11, 2013 to October 18,
2016, the Company sold 99,666 shares of Series A Convertible Preferred Stock, par value $0.001 per share (“Series A Preferred”),
to Flexpoint for an aggregate of $29.9 million, less certain costs. Additionally, on October 18, 2016, the Company sold 33,667
shares of Series A Preferred to Sundara Investment Partners, LLC (“Sundara”) for $10.1 million, less certain costs.
In connection with the sale of shares of Series A Preferred to Sundara, the Company also entered into a Loan and Security Agreement
with an affiliate of Sundara, LHLJ, Inc., for a term loan in the principal amount of $9.5 million, with $5.175 million of the
proceeds used to simultaneously satisfy the remaining balances of a term loan and a revolving credit note payable to First National
Bank of Pennsylvania (“FNB”) (the “Prior HR & Payroll Services Credit Facility”). See
Note
10. Long-Term debt, Note Payable and Capital Lease Obligations
. Both Sundara and LHLJ are owned and controlled by Laurence
L. Stone, who was appointed as a director of the Company pursuant to the terms of the amended and restated Series A Purchase Agreement.
These transactions provided approximately $14.0 million of net working capital which the Company used and expects to use for general
working capital needs, the payment of other debt instruments, and for future capital needs, including a portion of the cost of
potential future acquisitions. Finally, from May 5, 2014 to December 31, 2014, the Company sold 6,165 shares of Series A-1 Convertible
Preferred Stock, par value $0.001 per share (“Series A-1 Preferred”), to affiliates of Wellington Capital Management,
LLP (“Wellington”) for an aggregate of $1.85 million, and has an agreement to potentially sell an additional $850,500
of shares of Series A-1 Preferred to Wellington. Additionally, as disclosed in
Note 12. Stockholders’ Equity,
from
December 22, 2015 to January 22, 2016, the Company sold to certain accredited investors, including Bipin C. Shah, Robert B. Palmer,
and Jonathan M. Lubert, an aggregate of 517,037 shares of the Company’s common stock at a purchase price of $2.70 per share
for aggregate consideration of $1,396,000, prior to issuance costs.
In the past, the Company has been successful in obtaining loans
and selling its equity securities. To fund the Company’s current debt service needs, expand its technology platforms for
new business initiatives, and pursue possible future acquisitions, the Company may need to raise additional capital through loans
or additional sales of equity securities. The Company continues to investigate the capital markets for sources of funding, which
could take the form of additional debt, the restructuring of our current debt, or additional equity financing. The Company cannot
provide any assurance that it will be successful in securing new financing or restructuring its current debt, or that it will
secure such future financing with commercially acceptable terms. If the Company is unable to raise additional capital, it may
need to delay certain technology capital improvements, limit its planned level of capital expenditures and future growth plans
or dispose of operating assets to generate cash to sustain operations and fund ongoing capital investments.
Note 2. Business Acquisition
On June 2, 2016, JetPay completed its acquisition of
CollectorSolutions, Inc. pursuant to the terms of the Agreement and Plan of Merger, dated February 22, 2016 (the
“Merger Agreement”), by and among JetPay, CSI Acquisition Sub One, LLC, a Delaware limited liability company and
wholly-owned subsidiary of JetPay (“Merger Sub One”), CSI Acquisition Sub Two, LLC, a Delaware limited liability
company and wholly-owned subsidiary of Merger Sub One (“Merger Sub Two”), CollectorSolutions, Inc. and Gene M.
Valentino, an individual, in his capacity as representative of the shareholders of CSI. Pursuant to the terms of the Merger
Agreement, CollectorSolutions, Inc. first merged with and into Merger Sub Two, with CollectorSolutions, Inc. surviving the
merger as the indirect, wholly-owned subsidiary of JetPay. CollectorSolutions, Inc. then merged with and into Merger Sub One,
with Merger Sub One surviving the merger as CollectorSolutions, LLC. On October 21, 2016, CollectorSolutions, LLC changed its
name to JetPay Payments, FL, LLC. The acquisition of JetPay Payments, FL provided the Company with additional expertise in
selling debit and credit card processing services in the government and utilities channels through JetPay Payments, FL highly
configurable payment gateway, secured debit, credit, and e-check processing volumes, as well as provided a base operation to
sell the Company’s payroll, HCM, processing and prepaid card services to JetPay Payments, FL’s customer base. The
consolidated financial statements include the accounts of JetPay Payments, FL since the acquisition date, June 2, 2016.
As consideration for the acquisition, the Company initially
issued 3.25 million shares of its common stock to the stockholders of JetPay Payments, FL and assumed approximately $1.0 million
of JetPay Payments, FL’s indebtedness. The 3.25 million shares of common stock, valued at $8.3 million at the date of acquisition,
included: (i) 587,500 shares placed in escrow at closing as partial security for the indemnification obligations of the stockholders
of JetPay Payments, FL and (ii) 500,000 shares placed in escrow at closing which will be released or cancelled contingent upon
JetPay Payments, FL achieving certain gross profit performance targets in 2016 and 2017. In addition to the shares of its common
stock issued at the date of acquisition, the Company issued an additional 54,601 shares on December 30, 2016 to the JetPay Payments,
FL’s former stockholders in connection with a post-closing purchase price adjustment for working capital and debt levels
as of the acquisition date as per the Merger Agreement. JetPay Payments, FL’s former stockholders will also be entitled
to receive warrants to purchase up to 500,000 shares of the Company’s common stock, each with a strike price of $4.00 per
share and a 10-year term from its date of issuance, contingent upon JetPay Payments, FL achieving certain gross profit performance
targets in 2018 and 2019. This contingent stock and warrant consideration, recorded as a liability, was valued at $1,975,000 at
the date of acquisition utilizing a Monte Carlo simulation model. The fair value of the contingent consideration was $1,770,000
at December 31, 2016 ($563,000 recorded within other current liabilities and $1.2 million recorded within non-current other liabilities).
See
Note 3
.
Summary of Critical Accounting Policies
. Based upon the level of gross profit performance
in 2016, the Company anticipates issuing 250,000 shares of its common stock related to the 2016 earn-out provisions as per the
Merger Agreement. Additionally, in connection with the acquisition, certain executives of JetPay Payments, FL were provided the
right to purchase through a private placement, within twelve months after closing, up to 300,000 shares of common stock in the
aggregate at a price equal to the higher of $3.00 per share and the volume-weighted average closing price of the stock of the
Company for the twenty consecutive trading days ending three trading days prior to closing. This stock purchase right was valued
at $152,000 utilizing a Black-Sholes option pricing model and is recorded as Additional Paid-In Capital at the date of acquisition.
In addition, the Company granted to each former stockholder
of JetPay Payments, FL a right to require the Company to repurchase up to 50% of the shares of common stock issued in connection
with the acquisition and continuously held by such stockholder if Flexpoint exercises in full its right to have the Company redeem
its entire investment in shares of Series A Preferred. In a buyback of up to 50% of the shares issued to JetPay Payments, FL’s
former shareholders, the Company would purchase each share of common stock issued for $4.00 per share. The Company accounts for
its common stock subject to possible redemption in accordance with the guidance in ASC 480
“Distinguishing Liabilities
from Equity”.
Conditionally redeemable common stock (including common stock that features redemption rights that
are either within the control of the holder or subject to redemption upon the occurrence of uncertain events not solely within
the Company’s control) is classified as temporary equity. At all other times, common stock is classified as stockholders’
equity. The common stock issued to JetPay Payments, FL’s previous shareholders features certain redemption rights that are
considered to be outside of the Company’s control and subject to the occurrence of uncertain future events. Accordingly,
at December 31, 2016, 50% of the estimated fair value of the common stock issued in connection with the acquisition, or $3.52
million, is presented as temporary equity, outside of the stockholders’ equity section of the Consolidated Balance Sheet.
The fair value of the identifiable assets acquired and liabilities
assumed in the JetPay Payments, FL acquisition as of the acquisition date includes: (i) $520,000 of cash, (ii) $537,000 for accounts
receivable; (iii) $113,000 for prepaid expenses and other assets; (iv) $10.6 million for settlement processing assets; (v) $93,000
for fixed assets; (vi) the assumption of $14.7 million of liabilities, including $9.95 million of settlement processing obligations
and approximately $1.0 million of long term debt; and (vii) approximately $12.1 million allocated to goodwill and other identifiable
intangible assets. Within the $12.1 million of acquired intangible assets, $7.2 million was assigned to goodwill, which is not
subject to amortization under U.S. GAAP. The Company does not expect to deduct for tax purposes the goodwill related to the JetPay
Payments, FL acquisition. The amount assigned to goodwill was deemed appropriate based on several factors, including: (i) the
multiple paid by market participants for businesses in the merchant card processing business; (ii) levels of JetPay Payments,
FL’s current and future projected cash flows; and (iii) the Company’s strategic business plan, which includes cross-marketing
the Company’s payroll, HCM, processing and prepaid card services to JetPay Payments, FL’s customer base as well as
offering merchant credit card processing services to the Company’s payroll and HCM customer base. The remaining intangible
assets were assigned to customer relationships for $4.1 million, software costs of $710,000, and tradename for $70,000. The Company
determined that the fair value of non-compete agreements with certain employees of JetPay Payments, FL was immaterial. Customer
relationships, software costs, and trade name were assigned a life of 12 years, 19 months, and 7 months, respectively.
Assets acquired and liabilities assumed in the JetPay Payments,
FL acquisition were recorded on the Company’s Consolidated Balance Sheets as of the acquisition date based upon their estimated
fair values at such date. The results of operations of the business acquired by the Company have been included in the Statements
of Operations since the date of acquisition. The excess of the purchase price over the estimated fair values of the underlying
identifiable assets acquired and liabilities assumed were allocated to goodwill.
The allocation of the JetPay Payments, FL purchase price and
the estimated fair market values of the JetPay Payments, FL assets acquired and liabilities assumed are shown below (in thousands):
Cash
|
|
$
|
520
|
|
Accounts receivable
|
|
|
537
|
|
Settlement processing assets
|
|
|
10,587
|
|
Prepaid expenses and other assets
|
|
|
113
|
|
Property and equipment, net
|
|
|
93
|
|
Goodwill
|
|
|
7,218
|
|
Identifiable intangible assets
|
|
|
4,881
|
|
Total assets acquired
|
|
|
23,949
|
|
|
|
|
|
|
Accounts payable and accrued expenses
|
|
|
1,794
|
|
Settlement processing obligations
|
|
|
9,951
|
|
Long term debt
|
|
|
1,049
|
|
Long term deferred tax liability
|
|
|
1,864
|
|
Total liabilities assumed
|
|
|
14,658
|
|
Net assets acquired
|
|
$
|
9,291
|
|
Unaudited pro forma results of operations for the years ended
December 31, 2016 and 2015, as if the Company and JetPay Payments, FL had been combined on January 1, 2015, follow. The pro forma
results include estimates and assumptions which management believes are reasonable. The pro forma results do not include any anticipated
cost savings or other effects of the planned integration of these entities, and are not necessarily indicative of the results
that would have occurred if the business combination had been in effect on the date indicated, or which may result in the future.
|
|
Unaudited Pro Forma Results of Operations
|
|
|
|
(In thousands, except per share information)
|
|
|
|
For the Years Ended December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Revenues
|
|
$
|
63,378
|
|
|
$
|
58,646
|
|
Operating (loss) income
|
|
|
(7,916
|
)
|
|
|
1,068
|
|
Net loss
|
|
|
(7,992
|
)
|
|
|
(323
|
)
|
Net loss applicable to common stockholders
|
|
|
(14,370
|
)
|
|
|
(5,481
|
)
|
Net loss per share applicable to common stockholders
|
|
$
|
(0.81
|
)
|
|
$
|
(0.32
|
)
|
Note 3. Summary of Significant Accounting
Policies
Significant accounting policies are defined as those that are
reflective of significant judgments and uncertainties, and potentially result in materially different results under different
assumptions and conditions. The Company’s significant accounting policies are described below.
Use of Estimates, Presentation and Consolidation
The accompanying consolidated financial
statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S.
GAAP”) and pursuant to the accounting and disclosure rules and regulations of the Securities and Exchange Commission (“SEC”).
The preparation of these financial statements requires the Company to make estimates and judgments that affect the reported amounts
of assets and liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities at the date of
the Company’s financial statements. Such estimates include, but are not limited to, the value of purchase consideration
of acquisitions; valuation of accounts receivable, reserves for chargebacks, goodwill, intangible assets, and other long-lived
assets; legal contingencies; and assumptions used in the calculation of stock-based compensation and in the calculation of income
taxes. Actual results may differ from these estimates under different assumptions or conditions. These consolidated financial
statements include our accounts and those of our wholly-owned subsidiaries and all intercompany balances and transactions have
been eliminated in consolidation.
Revenue Recognition and Deferred Revenue
The Company recognizes revenue in general when the following
criteria have been met: persuasive evidence of an arrangement exists, a customer contract or purchase order exists and the fees
are fixed and determinable, no significant obligations remain and collection of the related receivable is reasonably assured.
Allowances for chargebacks, discounts and other allowances are estimated and recorded concurrent with the recognition of revenue
and are primarily based on historic rates.
Revenues from the Company’s credit and debit card processing
operations are recognized in the period services are rendered as the Company processes credit and debit card transactions for
its merchant customers or for merchant customers of its third party clients. Third party clients include Independent Sales Organizations
(“ISOs”), Value Added Resellers (“VARs”), Independent Software Vendors (“ISVs”), and financial
institutions. The majority of the Company’s revenue within its credit and debit card processing business is comprised of
transaction-based fees, which typically constitute a percentage of dollar volume processed, or a fee per transaction processed.
In the case where the Company is only the processor of transactions, it charges transaction fees only and records these fees as
revenues. In the case of contracts pursuant to which the Company processes credit and debit card transactions for the third parties’
merchant customers, revenues are primarily comprised of fees charged to the merchant, as well as a percentage of the processed
sale transaction. The Company’s contracts in most instances involve three parties: the Company, the merchant, and the sponsoring
bank. Under certain of these sales arrangements, the Company’s sponsoring bank collects the gross revenue from the merchants,
pays the interchange fees and assessments to the credit card associations, collects their fees and pays to the Company a net residual
payment representing the Company’s fee for the services provided. Accordingly, under these arrangements, the Company records
the revenue net of interchange, credit card association assessments and fees and the sponsoring bank’s fees. Under the majority
of the Company’s sales arrangements, the Company is billed directly for certain fees by the credit card associations and
the processing bank. In this instance, revenues and cost of revenues include the credit card association fees and assessments
and the sponsoring bank’s fees which are billed to the Company and for which it assumes credit risk. In all of the above
instances, the Company recognizes processing revenues net of interchange fees, which are assessed to its merchant and third party
merchant customers on all processed transactions. Interchange rates and fees are not controlled by the Company. The Company effectively
functions as a clearing house collecting and remitting interchange fee settlement on behalf of issuing banks, debit networks,
credit card associations and their processing customers.
JetPay Payments, FL functions as the merchant of record and
has the primary responsibility for providing end-to-end payment processing services for its clients. JetPay Payments, FL’s
clients contract with JetPay Payments, FL for all credit card processing services including transaction authorization, settlement,
dispute resolution, security and risk management solutions, reporting and other value-added services. As such, JetPay Payments,
FL is the primary obligor in these transactions and is solely responsible for all processing costs, including interchange fees.
Further, JetPay Payments, FL sets prices as it deems reasonable for each merchant. The gross fees JetPay Payments, FL collects
are intended to cover the interchange, assessments, and other processing fees and include JetPay Payments, FL’s margin on
the transactions processed. For these reasons, JetPay Payments, FL is the principal obligor in the contractual relationship with
its customers and therefore JetPay Payments, FL records its revenues, including interchange and assessments, on a gross basis.
Revenues reported by JetPay Payments, FL include interchange fees of $5.3 million for the year ended December 31, 2016. Other
fees assessed by JetPay Payments, FL to certain customers and remitted to partner entities for web and IVR supporting services
provided by JetPay Payments, FL’s partner entities are presented on a net basis. The Company follows the guidance provided
in ASC Topic 605-45, Revenue Recognition - Principal Agent Considerations. ASC 605-45 states that whether a company should recognize
revenue based on the gross amount billed to a customer or the net amount retained is a matter of judgment that depends on the
facts and circumstances of the arrangement and that certain factors are considered in the evaluation.
Additionally, the Company’s direct merchant customers
have the liability for any charges properly reversed by the cardholder. In the event, however, that the Company is not able to
collect such amount from the merchants due to merchant fraud, insolvency, bankruptcy or any other reason, it may be liable for
any such reversed charges. The Company requires cash deposits, guarantees, letters of credit and other types of collateral from
certain merchants to minimize any such contingent liability, and it also utilizes a number of systems and procedures to manage
merchant risk.
Revenues from the Company’s JetPay HR & Payroll Services
operations are recognized in the period services are rendered and earned under service arrangements with clients where service
fees are fixed or determinable and collectability is reasonably assured. Certain processing services are provided under annual
service arrangements with revenue recognized over the service period based on when the efforts and costs are expended. The Company’s
service revenues are largely attributable to payroll-related processing services where the fees are based on a fixed amount per
processing period or a fixed amount per processing period plus a fee per employee or transaction processed. The revenues earned
from delivery service for the distribution of certain client payroll checks and reports is included in processing revenues, and
the costs for delivery are included in selling, general, and administrative expenses on the Consolidated Statements of Operations.
Interest on funds held for clients is earned primarily on funds
that are collected from clients before due dates for payroll tax administration services and for employee payment services, and
invested until remittance to the applicable tax or regulatory agencies or client employee. These collections from clients are
typically remitted between one (1) and thirty (30) days after receipt, with some items extending to ninety (90) days. The interest
earned on these funds is included in total revenues on the Consolidated Statements of Operations because the collecting, holding,
and remitting of these funds are critical components of providing these services.
Reserve for Chargeback Losses
Disputes between a cardholder and a merchant periodically arise
as a result of, among other things, cardholder dissatisfaction with merchandise quality or merchant services. Such disputes may
not be resolved in the merchant’s favor. In these cases, the transaction is “charged back” to the merchant,
which means the purchase price is refunded to the customer through the merchant’s bank and charged to the merchant. If the
merchant has inadequate funds, the Company must bear the credit risk for the full amount of the transaction. The Company evaluates
the risk for such transactions and estimates the potential loss for chargebacks based primarily on historical experience and records
a loss reserve accordingly. The Company believes its reserve for chargeback losses is adequate to cover both the known probable
losses and the incurred but not yet reported losses at the balance sheet dates. Chargeback reserves totaling $436,000 and $306,000
were recorded as of December 31, 2016 and 2015, respectively.
Fair Value of Financial Instruments
The carrying amounts of financial instruments, including cash
and cash equivalents, restricted cash, settlement processing assets and liabilities, accounts receivable, prepaid expenses and
other current assets, funds held for clients, other assets, accounts payable and accrued expenses, deferred revenue, other current
liabilities and client fund obligations, approximated fair value as of the balance sheet dates presented, because of the relatively
short maturity dates on these instruments. The carrying amounts of the financing arrangements approximate fair value as of the
balance sheet dates presented, because interest rates on these instruments approximate market interest rates after consideration
of stated interest rates, anti-dilution protection and associated warrants.
Concentration of Credit Risk
Financial instruments that potentially expose the Company to
concentration of credit risk consist primarily of cash and cash equivalents, accounts receivable, settlement processing assets
and funds held for clients. The Company’s cash and cash equivalents are deposited with major financial institutions. At
times, such deposits may be in excess of the Federal Deposit Insurance Corporation insurable amount.
Accounts Receivable
The Company’s accounts receivable are due from its merchant
credit card and its payroll customers. Credit is extended based on the evaluation of customers’ financial condition and,
generally, collateral is not required. Payment terms vary but are typically collected via Automated Clearing House (“ACH”)
payments originated by us two (2) to three (3) days following month end. Amounts due from customers are stated in the financial
statements net of an allowance for doubtful accounts. Accounts which are outstanding longer than the payment terms are considered
past due. The Company determines its allowance by considering a number of factors, including the length of time trade accounts
receivable are past due, the Company’s previous loss history, the customer’s current ability to pay its obligation
to the Company, and the condition of the general economy and the industry as a whole. The Company writes off accounts receivables
when they are deemed uncollectible.
Settlement Processing Assets and Obligations
Funds settlement refers to the process of transferring funds
for sales and credits between card issuers and merchants. Depending on the type of transaction, either the credit card interchange
system or the debit network is used to transfer the information and funds between the sponsoring bank and card issuing bank to
complete the link between merchants and card issuers. In certain of our processing arrangements, merchant funding primarily occurs
after the sponsoring bank receives the funds from the card issuer through the card networks, creating a net settlement obligation
on the Company’s Consolidated Balance Sheet. In a limited number of other arrangements, the sponsoring bank funds the merchants
before it receives the net settlement funds from the card networks, creating a net settlement asset on the Company’s Consolidated
Balance Sheet. Additionally, certain of the Company’s sponsoring banks collect the gross revenue from the merchants, pay
the interchange fees and assessments to the credit card associations, collect their fees for processing and pay the Company a
net residual payment representing the Company’s fees for the services. In these instances, the Company does not reflect
the related settlement processing assets and obligations in its Consolidated Balance Sheet.
Timing differences in processing credit and debit card and
ACH transactions, as described above, interchange expense collection, merchant reserves, sponsoring bank reserves, and exception
items result in settlement processing assets and obligations. Settlement processing assets consist primarily of our portion of
settlement assets due from customers and receivable from merchants for the portion of the discount fee related to reimbursement
of the interchange expense, our receivable from the processing bank for transactions we have funded merchants in advance of receipt
of card association funding, merchant reserves held, sponsoring bank reserves and exception items, such as customer chargeback
amounts receivable from merchants. Settlement processing obligations consist primarily of merchant reserves, our liability to
the processing bank for transactions for which we have received funding from the members but have not funded merchants and exception
items.
Settlement assets and obligations resulting from JetPay Payments,
FL’s processing services and associated settlement activities include settlement receivables due from credit card associations
and debit networks and certain cash accounts to which JetPay Payments, FL does not have legal ownership but has the right to use
the accounts to satisfy the related settlement obligations. JetPay Payments, FL’s corresponding settlement obligations are
for amounts payable to customers, net of processing fees earned by JetPay Payments, FL. Settlement receivables and payables for
credit and debit card transactions are recorded at the gross transaction amounts. The gross amounts are then processed through
JetPay Payments, FL’s settlement accounts, and JetPay Payments, FL retains its fees for the transactions upon settlement.
Settlement receivables for e-check transactions consist of only JetPay Payments, FL’s fees for the transactions. Settlement
receivables are generally collected within four (4) business days. Settlement obligations are generally paid within three (3) business
days, regardless of when the related settlement receivables are collected.
Property and Equipment
Property and equipment acquired in the Company’s business
acquisitions have been recorded at estimated fair value. The Company records all other property and equipment acquired in the normal
course of business at cost. Depreciation is recorded using the straight-line method over the estimated useful lives of the assets,
which are generally as follows: leasehold improvements – shorter of economic life or initial term of the related lease; machinery
and equipment – five (5) to fifteen (15) years; and furniture and fixtures – five (5) to ten (10) years. Significant
additions or improvements extending assets’ useful lives are capitalized; normal maintenance and repair costs are expensed
as incurred.
Goodwill
Goodwill represents the premium paid over the fair value of the
net tangible and identifiable intangible assets acquired in the Company’s business combinations. The Company performs a goodwill
impairment test on at least an annual basis. Application of the goodwill impairment test requires significant judgments, including
estimation of future cash flows, which are dependent on internal forecasts, estimation of the long-term rate of growth for the
businesses, the useful life over which cash flows will occur and determination of the Company’s weighted average cost of
capital. Changes in these estimates and assumptions could materially affect the determination of fair value and/or conclusions
on goodwill impairment for each reporting unit. The Company conducts its annual goodwill impairment test as of December 31 of each
year or more frequently if indicators of impairment exist. The Company periodically analyzes whether any such indicators of impairment
exist. A significant amount of judgment is involved in determining if an indicator of impairment has occurred. Such indicators
may include a sustained significant decline in our stock price and market capitalization, a significant adverse change in legal
factors or in the business climate, unanticipated competition and/or slower expected growth rates, adverse actions or assessments
by a regulator, among others. The Company compares the fair value of its reporting unit to its respective carrying value, including
related goodwill. Future changes in the industry could impact the results of future annual impairment tests. The Company’s
annual goodwill impairment testing indicated there was no impairment as of December 31, 2016 and 2015. There can be no assurance
that future tests of goodwill impairment will not result in impairment charges.
Identifiable Intangible Assets
Identifiable intangible assets consist primarily of customer
relationships, software costs, and tradenames. Certain tradenames are considered to have indefinite lives, and as such, are
not subject to amortization. These assets are tested for impairment using undiscounted cash flow methodology annually and
whenever there is an impairment indicator. Estimating future cash flows requires significant judgment and projections may
vary from cash flows eventually realized. Several impairment indicators are beyond the Company’s control, and
determining whether or not they will occur cannot be predicted with any certainty. Identifiable intangible assets are
amortized on a straight-line basis over their respective assigned estimated lives; customer relationships use eight (8) to
fifteen (15) years; tradenames use one (1) to three (3) years; and software costs use one (1) to eight (8) years.
Impairment of Long–Lived Assets
The Company periodically reviews the carrying value of its long-lived
assets held and used at least annually or when events and circumstances warrant such a review. If significant events or changes
in circumstances indicate that the carrying value of an asset or asset group may not be recoverable, the Company performs a test
of recoverability by comparing the carrying value of the asset or asset group to its undiscounted expected future cash flows. Cash
flow projections are sometimes based on a group of assets, rather than a single asset. If cash flows cannot be separately and independently
identified for a single asset, the Company determines whether impairment has occurred for the group of assets for which it can
identify the projected cash flows. If the carrying values are in excess of undiscounted expected future cash flows, it measures
any impairment by comparing the fair value of the asset group to its carrying value. If the fair value of an asset or asset group
is determined to be less than the carrying amount of the asset or asset group, impairment in the amount of the difference is recorded.
The Company’s annual testing indicated there was no impairment as of December 31, 2016 and 2015.
Convertible Preferred Stock
The Company accounts for the redemption premium, beneficial conversion
feature and issuance costs on or of its convertible preferred stock using the effective interest method, accreting such amounts
to its convertible preferred stock from the date of issuance to the earliest date of redemption.
Share-Based Compensation
The Company expenses employee share-based payments under ASC Topic
718,
Compensation-Stock Compensation
, which requires compensation cost for the grant-date fair value of share-based
payments to be recognized over the requisite service period. The Company estimates the grant date fair value of the share-based
awards issued in the form of options using the Black-Scholes option pricing model.
Loss Per Share
Basic loss per share is computed by dividing net loss by the weighted-average
number of shares of common stock outstanding during the period. The dilutive effect of the conversion option in the shares of Series
A Preferred and shares of Series A-1 Preferred of 13,793,069 and 616,500 shares of common stock, respectively, at December 31,
2016, and the effect of 1,153,936 exercisable stock options granted under the Company’s 2013 Stock Incentive Plan (as amended
and restated, the “2013 Stock Incentive Plan”) at December 31, 2016 have been excluded from the loss per share calculation
for the year ended December 31, 2016 in that the assumed conversion of these options would be anti-dilutive. For the year ended
December 31, 2015, the dilutive effect of the conversion option in the shares of Series A Preferred and Series A-1 Preferred of
9,448,241 and 616,500 shares of common stock, respectively, and the effect of 755,410 exercisable stock options granted under the
Company’s 2013 Stock Incentive Plan at December 31, 2015 have been excluded from the loss per share calculation in that the
assumed conversion of these options would be anti-dilutive.
Derivative Financial Instruments
The Company does not use derivative instruments to hedge exposures
to cash flow, market or foreign currency risks. The Company does review the terms of debt instruments it enters into to determine
whether there are embedded derivative instruments, including embedded conversion options, which are required to be bifurcated and
accounted for separately as derivative financial instruments. In circumstances where the host instrument contains more than one
embedded derivative instrument, including the conversion option, that is required to be bifurcated, the bifurcated derivative instruments
are accounted for as a single compound derivative instrument.
Bifurcated embedded derivatives are initially recorded at fair value
and are then revalued at each reporting date with changes in the fair value reported as non-operating income or expense. When the
equity or convertible debt instruments contain embedded derivative instruments that are to be bifurcated and accounted for as liabilities,
the total proceeds received are first allocated to the fair value of all the bifurcated derivative instruments. The remaining proceeds,
if any, are then allocated to the host instruments themselves, usually resulting in those instruments being recorded at a discount
from their face value. The discount from the face value of the convertible debt, together with the stated interest on the instrument,
is amortized over the life of the instrument through periodic charges recorded within other expenses (income), using the effective
interest method.
Fair Value Measurements
The Company accounts for fair value measurements in accordance with
ASC Topic No. 820,
Fair Value Measurements and Disclosures
(“ASC Topic 820”), which defines fair value,
establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair
value measurements.
ASC Topic 820 establishes a fair value hierarchy that prioritizes
the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices
in active markets for identical assets or liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level
3 measurements). The three levels of the fair value hierarchy under ASC Topic 820 are described below:
|
Level 1
|
Unadjusted quoted prices in active markets that are
accessible at the measurement date for identical, unrestricted assets or liabilities.
|
|
Level 2
|
Applies to assets or liabilities for which there are
inputs other than quoted prices included within Level 1 that are observable for the asset or liability such as quoted prices for
similar assets or liabilities in active markets; quoted prices for identical assets or liabilities in markets with insufficient
volume or infrequent transactions (less active markets); or model-derived valuations in which significant inputs are observable
or can be derived principally from, or corroborated by, observable market data.
|
|
Level 3
|
Prices or valuation techniques that require inputs
that are both significant to the fair value measurement and unobservable (supported by little or no market activity).
|
The following table sets forth the Company’s financial assets
and liabilities measured at fair value by level within the fair value hierarchy. As required by ASC Topic 820, assets and liabilities
are classified in their entirety based on the level of input that is significant to the fair value measurement.
|
|
Fair Value at December 31, 2016
|
|
|
|
Total
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contingent consideration
|
|
$
|
2,982
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
2,982
|
|
|
|
Fair Value at December 31, 2015
|
|
|
|
Total
|
|
|
Level 1
|
|
|
Level 2
|
|
|
Level 3
|
|
|
|
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Contingent consideration
|
|
$
|
1,296
|
|
|
$
|
-
|
|
|
$
|
-
|
|
|
$
|
1,296
|
|
The following table sets forth a summary of the change in fair
value of the Company’s Level 3 financial liabilities that are measured at fair value on a recurring basis (in thousands):
|
|
Years Ended
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
Beginning balance
|
|
$
|
1,296
|
|
|
$
|
1,240
|
|
Contingent consideration for acquisition of JetPay Payments, FL
|
|
|
1,975
|
|
|
|
-
|
|
Change in fair value of contingent cash consideration
|
|
|
(103
|
)
|
|
|
56
|
|
Payment of JetPay Payments, PA contingent cash consideration
|
|
|
(186
|
)
|
|
|
-
|
|
Totals
|
|
$
|
2,982
|
|
|
$
|
1,296
|
|
Level 3 liabilities are valued using unobservable inputs to the
valuation methodology that are significant to the measurement of the fair value of the financial instrument. For fair value measurements
categorized within Level 3 of the fair value hierarchy, the Company’s accounting and finance department, which reports to
the Chief Financial Officer, determines its valuation policies and procedures. The development and determination of the unobservable
inputs for Level 3 fair value measurements and fair value calculations are the responsibility of the Company’s accounting
and finance department with support from the Company’s outside consultants which are approved by the Chief Financial Officer.
Level 3 financial liabilities for the relevant periods consist of contingent consideration related to the JetPay Payments, TX,
JetPay Payments, PA and JetPay Payments, FL acquisitions for which there are no current markets such that the determination of
fair value requires significant judgment or estimation. Changes in fair value measurements categorized within Level 3 of the fair
value hierarchy will be analyzed each period based on changes in estimates or assumptions and recorded as appropriate.
In addition to the consideration paid upon closing of the
JetPay Payments, TX acquisition, WLES, L.P. (“WLES”), through December 28, 2017, is entitled to receive 833,333
shares of common stock if the trading price of the common stock is at least $8.00 per share for any 20 trading days out of a
30 trading day period and $5.0 million in cash if the trading price of the common stock is at least $9.50 per share for any
20 trading days out of a 30 trading day period. This contingent consideration was valued at $1.54 million at the date of
acquisition based on utilization of option pricing models and was recorded as a non-current other liability for $700,000 and
as additional paid-in capital for $840,000 at December 31, 2012. The stock-based component value of $840,000 recorded at
December 28, 2012 (the JetPay Payments, TX acquisition date), remains unchanged at December 31, 2016 as a result of this
component being recorded as equity. The fair value at December 31, 2016 of the cash-based contingent consideration, valued at
$58,000, recorded within non-current other liabilities, was determined using a binomial option pricing model. The following
assumptions were utilized in the December 31, 2016 calculations: risk free interest rate: 0.85%; dividend yield: 0%; term of
contingency of 0.99 years; and volatility: 75.5%.
The fair value of the common stock was derived from the per share
price of the common stock at the valuation date. Management determined that the results of its valuation were reasonable. The expected
life represents the remaining contractual term of the derivative. The volatility rate was developed based on analysis of the historical
volatility rates of similarly situated companies (using a number of observations that was at least equal to or exceeded the number
of observations in the life of the derivative financial instrument at issue). The risk free interest rates were obtained from publicly
available U.S. Treasury yield curve rates. The dividend yield is zero because the Company has not paid dividends and does not expect
to pay dividends in the foreseeable future.
In addition to the consideration paid upon closing of the JetPay
Payments, PA acquisition, the previous unitholders were entitled to receive up to an additional $500,000 if certain net revenue
goals were achieved through October 31, 2016. This contingent consideration was valued at $400,000 at the date of acquisition,
$456,000 at December 31, 2015, and $314,000 at December 31, 2016, recorded within other current liabilities, and net of $186,000
earned and paid to the previous unitholders of JetPay Payments, PA in February 2016. The remaining $314,000 was paid on January
17, 2017.
In addition to the consideration paid upon closing of the JetPay
Payments, FL acquisition, the previous shareholders are entitled to receive up to an additional 500,000 shares of common stock
upon JetPay Payments, FL achieving certain gross profit performance targets in 2016 and 2017 and up to 500,000 warrants to purchase
shares of common stock, each with a strike price of $4.00 per share and a 10-year term from its date of issuance, upon JetPay Payments,
FL achieving certain gross profit performance targets in 2018 and 2019. This contingent consideration was valued at $1,975,000
at the date of acquisition and $1,770,000 at December 31, 2016, ($563,000 recorded within other current liabilities and $1.2 million
recorded within non-current other liabilities), based on utilization of a Monte Carlo simulation to estimate the variance and relative
risk of achieving future gross profit performance targets. The key assumptions in applying the Monte Carlo simulation included
expected gross profit growth rates, the expected standard deviation and serial correlation of expected net revenue growth rates
as well as a normal distribution assumption.
The Company uses either a binomial option pricing model with a Monte
Carlo simulation or the Black-Scholes option valuation model to value Level 3 financial liabilities at inception and on subsequent
valuation dates. These models incorporate transaction details such as the Company’s stock price, contractual terms, maturity,
risk free rates, as well as volatility. A significant decrease in the volatility or a significant decrease in the Company’s
stock price, in isolation, would result in a significantly lower fair value measurement.
As of December 31, 2016, there were no transfers in or out of Level
3 from other levels in the fair value hierarchy.
In accordance with the provisions of ASC Topic 815,
Derivatives
and Hedging Activities
, the Company presented its derivative liability at fair value on its Consolidated Balance Sheets, with
the corresponding change in fair value recorded in the Company’s Consolidated Statement of Operations for the applicable
reporting periods.
Income Taxes
The Company accounts for income taxes under ASC Topic 740,
Income
Taxes
(“ASC Topic 740”). ASC Topic 740 requires the recognition of deferred tax assets and liabilities for
both the expected impact of differences between the financial statements and tax basis of assets and liabilities and for the expected
future tax benefit to be derived from tax loss and tax credit carryovers. Deferred income tax expense (benefit) represents the
change during the period in the deferred income tax assets and deferred income tax liabilities. In establishing the provision for
income taxes and determining deferred income tax assets and liabilities, the Company makes judgments and interpretations based
on enacted laws, published tax guidance and estimates of future earnings. ASC Topic 740 additionally requires a valuation allowance
to be established when, based on available evidence, it is more likely than not that some portion or the entire deferred income
tax asset will not be realized.
ASC Topic 740 also clarifies the accounting for uncertainty in income
taxes recognized in an enterprise’s financial statements and prescribes a recognition threshold and measurement process for
financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return. For those benefits
to be recognized, a tax position must be more-likely-than-not to be sustained upon examination by taxing authorities. ASC Topic
740 also provides guidance on de-recognition, classification, interest and penalties, accounting in interim periods, disclosure
and transition. The Company is required to file income tax returns in the United States (federal) and in various state and local
jurisdictions. Based on the Company’s evaluation, it has been concluded that there are no significant uncertain tax positions
requiring recognition in the Company’s financial statements. The Company believes that its income tax positions and deductions
would be sustained upon examination and does not anticipate any adjustments that would result in material changes to its financial
position.
The Company’s policy for recording interest and penalties
associated with unrecognized tax benefits is to record such interest and penalties as interest expense and as a component of selling,
general and administrative expense, respectively. There were no amounts accrued for penalties or interest as of or during the years
ended December 31, 2016 and 2015. Management does not expect any significant changes in its unrecognized tax benefits in the next
year.
Subsequent Events
Management evaluates events that have occurred after the balance
sheet date but before the financial statements are issued. Based upon the review, management did not identify any recognized or
non-recognized subsequent events which would have required an adjustment or disclosure in the financial statements, except as described
in
Note 17. Subsequent Events
.
Recently Adopted Accounting Pronouncements
In August 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update ("ASU")
No. 2014-15,
Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern
that requires
management to evaluate whether there are conditions and events that raise substantial doubt about the Company’s ability to
continue as a going concern within one year after the financial statements are issued on both an interim and annual basis. Management
is required to provide certain footnote disclosures if it concludes that substantial doubt exists or when its plans alleviate substantial
doubt about the Company’s ability to continue as a going concern. ASU 2014-15 becomes effective for annual periods ending
after December 15, 2016 and for interim reporting periods thereafter. The Company adopted this ASU and it did not have a material
impact on the Company’s disclosures in the footnotes to its financial statements.
In April 2015, the FASB issued ASU No. 2015-03 (ASU 2015-03),
Interest
– Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs
. This standard amends
the existing guidance to require that debt issuance costs be presented in the balance sheet as a deduction from the carrying amount
of the related debt liability instead of as a deferred charge. ASU 2015-03 is effective on a retrospective basis for annual and
interim reporting periods beginning after December 15, 2015. The Company adopted this standard in 2016 and, as a result, the debt
issuance costs are included as a reduction of the Company's long-term debt balance on the consolidated balance sheet as of December
31, 2016. The adoption of this standard required the Company to reclassify debt issuance costs from current assets to long-term
liabilities on the Company's consolidated balance sheet as of December 31, 2015. The balance reclassified was immaterial
and had no material effect on the Company’s consolidated financial position.
Recent Accounting Pronouncements
In November 2015, the FASB issued ASU No. 2015-17,
Income
Taxes (Topic 740): Balance Sheet Classification of Deferred Taxes
. The ASU simplifies the presentation of deferred income taxes
under U.S. GAAP by requiring that all deferred tax assets and liabilities be classified as non-current. The guidance in ASU No.
2015-17 is effective for fiscal years beginning after December 15, 2016, including interim periods within those fiscal years. Earlier
application is permitted for financial statements that have not been issued. This new guidance is not expected to have a material
impact on the Company’s consolidated financial statements.
In February 2016, the Financial Accounting Standards Board (“FASB”)
issued Accounting Standards Update (“ASU”) 2016-02,
Leases (Topic 842)
. The ASU requires that a lessee recognize
the assets and liabilities that arise from operating leases. A lessee should recognize in the statement of financial position a
liability to make lease payments (the lease liability) and a right-of-use asset representing its right to use the underlying asset
for the lease term. For leases with a term of 12 months or less, a lessee is permitted to make an accounting policy election by
class of underlying asset not to recognize lease assets and lease liabilities. In transition, lessees and lessors are required
to recognize and measure leases at the beginning of the earliest period presented using a modified retrospective approach. JetPay
has not yet determined the effect of the adoption of this standard on JetPay’s consolidated financial position and results
of operations.
In March 2016, the FASB issued ASU No. 2016-08,
Revenue
from Contracts with Customers (Topic 606): Principal versus Agent Considerations (Reporting Revenue Gross versus Net)
. This
ASU amends the principal versus agent guidance in ASU No. 2014-09,
Revenue from Contracts with Customers (Topic 606)
,
which was issued in May 2014 (“ASU 2014-09”). Further, in April 2016, the FASB issued ASU No. 2016-10,
Revenue
from Contracts with Customers (Topic 606): Identifying Performance Obligations and Licensing
. This ASU also amends ASU 2014-09
and is related to the identification of performance obligations and accounting for licenses. Most recently, in December 2016, the
FASB issued ASU No. 2016-20,
Technical Corrections and Improvements to Topic 606, Revenue from Contracts with Customers
.
This amendment affects narrow aspects of the guidance issued in ASU 2014-09. The effective date and transition requirements for
all of these amendments to ASU 2014-09 are the same as those of ASU 2014-09, which was deferred for one year by ASU No. 2015-14,
Revenue
from Contracts with Customers (Topic 606): Deferral of the Effective Date
. That is, the guidance under these standards is to
be applied using a full retrospective method or a modified retrospective method, as outlined in the guidance, and is effective
for annual periods, and interim periods within those annual periods, beginning after December 15, 2017. Early adoption is permitted
only for annual periods, and interim periods within those annual periods, beginning after December 15, 2016. The Company is currently
evaluating the provisions of each of these standards and assessing their impact on the Company’s financial statements and
disclosures.
In March 2016, the FASB issued ASU No. 2016-09,
Compensation-Stock
Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting
. This ASU makes targeted amendments to the
accounting for employee share-based payments. This guidance is to be applied using various transition methods such as full retrospective,
modified retrospective, and prospective based on the criteria for the specific amendments as outlined in the guidance. The guidance
is effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2016. Early adoption
is permitted, as long as all of the amendments are adopted in the same period. The Company is currently evaluating the provisions
of this guidance and assessing its impact on the Company’s financial statements and disclosures.
In June 2016, the FASB issued ASU 2016-13,
Financial Instruments-Credit
Losses (Topic 36): Measurement of Credit Losses on Financial Instruments
, which provides guidance that will change the accounting
for credit impairment. Under the new guidance, companies are required to measure all expected credit losses for financial instruments
held at the reporting date based on historic experience, current conditions and reasonable supportable forecasts. This replaces
the existing incurred loss model and is applicable to the measurement of credit losses on financial assets measured at amortized
cost and applies to some off-balance sheet credit exposure. This new guidance will be effective for annual reporting periods beginning
after December 15, 2019, including interim periods within those annual reporting periods, and early adoption is permitted. The
Company is currently evaluating the provisions of this guidance and assessing its impact on the Company’s financial statements
and disclosures.
In August 2016, the FASB issued ASU 2016-15,
Statement of
Cash Flows: Clarification of Certain Cash Receipts and Cash Payments
(“ASU 2016-15”), which eliminates the
diversity in practice related to classification of certain cash receipts and payments in the statement of cash flows, by adding
or clarifying guidance on eight specific cash flow issues. This new guidance will be effective for annual reporting periods beginning
after December 15, 2017, and interim periods within those fiscal years and early adoption is permitted, including adoption in an
interim period. The Company is currently evaluating the provisions of this guidance and assessing its impact on the Company’s
financial statements and disclosures.
In November 2016, the FASB issued ASU 2016-18,
Statement of Cash
Flows (Topic 230): Restricted Cash
(“ASU 2016-18), which provides guidance that will require that a statement of cash
flows explain the change during the period in the total of cash, cash equivalents, and amounts generally described as restricted
cash or restricted cash equivalents. As a result, amounts generally described as restricted cash and restricted cash equivalents
should be included with cash and cash equivalents when reconciling the beginning-of-period and end-of-period total amounts shown
on the statement of cash flows. This new guidance will be effective for annual reporting periods beginning after December 15, 2017,
and interim periods within those fiscal years and early adoption is permitted, including adoption in an interim period. The Company
is currently evaluating the provisions of this guidance and assessing its impact on the Company’s financial statements and
disclosures.
In January 2017, the FASB issued ASU 2017-01,
Business Combinations
(Topic 805)
:
Clarifying the Definition of a Business
. This ASU clarifies the definition of a business when evaluating
whether transactions should be accounted for as acquisitions (or disposals) of assets or businesses. This new guidance will
be effective for annual reporting periods beginning after December 15, 2017, including interim periods within those periods. The
Company is currently evaluating the provisions of this guidance and assessing its impact on the Company’s financial statements
and disclosures.
In January 2017, the FASB issued ASU 2017-04,
Intangibles—Goodwill
and Other (Topic 350)
. This ASU simplifies the subsequent measurement of goodwill by eliminating the second step of the goodwill
impairment test, which required computing the implied fair value of goodwill. Under the amendments in this update, an entity should
perform its annual, or interim, goodwill impairment test by comparing the fair value of a reporting unit with its carrying amount.
An impairment charge should be recognized for the amount by which the carrying amount exceeds the reporting unit’s fair value;
however the loss recognized should not exceed the total amount of goodwill allocated to that reporting unit. This new guidance
will be effective January 1, 2020. The Company is currently evaluating the provisions of this guidance and assessing its impact
on the Company’s consolidated financial statements and disclosures.
Note 4. Allowance for Doubtful Accounts
The changes in the allowance for doubtful accounts are summarized
as follows:
|
|
For the Years Ended
December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Balance at beginning of period
|
|
$
|
10
|
|
|
$
|
10
|
|
Additions (charged to expense)
|
|
|
-
|
|
|
|
-
|
|
Deductions
|
|
|
-
|
|
|
|
-
|
|
Balance at end of period
|
|
$
|
10
|
|
|
$
|
10
|
|
Note 5. Property and Equipment, net of Accumulated
Depreciation
|
|
As of December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
|
|
|
|
|
|
|
Leasehold improvements
|
|
$
|
417
|
|
|
$
|
410
|
|
Equipment
|
|
|
1,710
|
|
|
|
1,194
|
|
Furniture and fixtures
|
|
|
330
|
|
|
|
280
|
|
Computer software
|
|
|
1,230
|
|
|
|
601
|
|
Vehicles
|
|
|
245
|
|
|
|
245
|
|
Assets in progress
|
|
|
83
|
|
|
|
422
|
|
Total property and equipment
|
|
|
4,015
|
|
|
|
3,152
|
|
Less: Accumulated depreciation
|
|
|
(1,890
|
)
|
|
|
(1,173
|
)
|
Property and equipment, net
|
|
$
|
2,125
|
|
|
$
|
1,979
|
|
Property and equipment included $422,167 and $520,851 of computer
equipment as of December 31, 2016 and 2015, respectively, net of accumulated depreciation of $272,729 and $70,726 as of December
31, 2016 and 2015, respectively, that is subject to capital lease obligations.
Assets in progress consist primarily of computer software for internal
use that will be placed into service upon completion.
Depreciation expense was $721,000 and $499,000 for the years ended
December 31, 2016 and 2015, respectively.
Note 6. Goodwill
The changes in the carrying amount of goodwill for the years ended
December 31, 2015 and 2016, is as follows (in thousands):
Balance at January 1, 2015
|
|
$
|
41,760
|
|
Balance at December 31, 2015
|
|
|
41,760
|
|
Acquisition of JetPay Payments, FL
|
|
|
7,218
|
|
Balance at December 31, 2016
|
|
$
|
48,978
|
|
Note 7. Identifiable Intangible Assets
|
|
As of December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Amortized intangible assets:
|
|
|
|
|
|
|
|
|
Software
|
|
$
|
6,083
|
|
|
$
|
4,750
|
|
Customer relationships
|
|
|
29,013
|
|
|
|
24,912
|
|
Tradename
|
|
|
380
|
|
|
|
310
|
|
Total amortized intangible assets
|
|
|
35,476
|
|
|
|
29,972
|
|
Less: Accumulated amortization
|
|
|
(10,926
|
)
|
|
|
(7,682
|
)
|
Total amortized intangibles, net
|
|
|
24,550
|
|
|
|
22,290
|
|
Non-Amortized intangible assets:
|
|
|
|
|
|
|
|
|
Tradenames
|
|
|
1,540
|
|
|
|
1,540
|
|
Total identifiable intangible assets
|
|
$
|
26,090
|
|
|
$
|
23,830
|
|
Amortization expense was $3.24 million and $3.06 million for the
years ended December 31, 2016 and 2015, respectively. The following sets forth the estimated amortization expense related to amortizing
intangible assets for the years ended December 31 (in thousands):
2017
|
|
$
|
3,492
|
|
2018
|
|
$
|
3,393
|
|
2019
|
|
$
|
3,393
|
|
2020
|
|
$
|
3,022
|
|
2021
|
|
$
|
2,765
|
|
Thereafter
|
|
$
|
8,485
|
|
The weighted average useful life of amortizing intangible assets
was 10.8 years at December 31, 2016.
Note 8. Deferred Financing Costs
In connection with the $9 million and the $7.5 million term loans
payable and the $1.0 million revolving note payable to First National Bank of Pennsylvania (“FNB”) (f/k/a Metro Bank),
the Company incurred and recorded $23,000, $76,000 and $44,000 of deferred financing costs, respectively. Additionally, in connection
with the $9.5 million term loan payable to LHLJ, Inc. on October 18, 2016 and certain promissory notes dated January 15, 2016
(See
Note 15. Related Party Transactions
), the Company incurred and recorded deferred financing fees of $310,000 and
$95,000, respectively. Non-cash interest costs were $170,000 and $45,000 for the years ended December 31, 2016
and 2015, respectively, and were recorded using the effective interest method. Unamortized deferred financing costs, recorded
as a reduction of long-term debt, were $339,000 and $88,000 at December 31, 2016 and 2015, respectively.
Note 9. Accounts Payable and Accrued Expenses
Accounts payable and accrued expenses consist of the following:
|
|
As of December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Trade accounts payable
|
|
$
|
3,438
|
|
|
$
|
1,801
|
|
ACH clearing liability
|
|
|
1,160
|
|
|
|
1,735
|
|
Accrued compensation
|
|
|
1,234
|
|
|
|
980
|
|
Accrued agent commissions
|
|
|
1,023
|
|
|
|
861
|
|
Related party payables
|
|
|
424
|
|
|
|
82
|
|
Other
|
|
|
3,542
|
|
|
|
3,202
|
|
Total
|
|
$
|
10,821
|
|
|
$
|
8,661
|
|
Note 10. Long-Term Debt, Notes Payable and Capital
Lease Obligations
Long-term debt, notes payable and capital lease obligations consist
of the following:
|
|
December 31,
2016
|
|
|
December 31,
2015
|
|
|
|
(in thousands)
|
|
Term loan payable to FNB, interest rate of 4.0% payable in monthly principal payments of $107,143 plus interest, maturing December 28, 2019, collateralized by the assets and equity interests of JetPay HR & Payroll Services, Payroll Tax Filing Services, Inc. (“PTFS”) and JetPay Payments, PA. Paid in fill on October 18, 2016.
|
|
$
|
-
|
|
|
$
|
5,140
|
|
|
|
|
|
|
|
|
|
|
Term loan payable to LHLJ, Inc., interest rate of 8% payable in monthly payments of $128,677, including principal and interest, beginning on October 18, 2016, maturing on October 31, 2021, collateralized by the assets and equity interests of JetPay HR & Payroll Services and JetPay Payments, PA. See
Note 15. Related Party Transactions.
|
|
|
9,371
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
Term loan payable to FNB, interest rate of 5.25% payable in monthly principal payments of $104,167 plus interest beginning on November 30, 2015, maturing November 6, 2021, collateralized by the assets and equity interests of JetPay Payments, PA.
|
|
|
6,042
|
|
|
|
7,292
|
|
|
|
|
|
|
|
|
|
|
Revolving note payable to FNB, interest rate of Wall Street Journal Prime rate plus 1.00% (4.00% as of September 30, 2016), interest payable monthly, collateralized by the assets and equity interests of JetPay HR & Payroll Services, PTFS, and JetPay Payments, PA, as well as a $1.0 million negative pledge on the equity of JetPay Payments, TX, maturing on May 6, 2017. Paid in full on October 18, 2016.
|
|
|
-
|
|
|
|
1,000
|
|
|
|
|
|
|
|
|
|
|
Term note payable to Fifth Third Bank, interest rate of 4% payable in monthly payments of $27,317, including principal and interest, beginning on July 1, 2016, maturing November 30, 2019, collateralized by the assets and equity interests of JetPay Payments, FL.
|
|
|
925
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
Revolving promissory note payable to Fifth Third Bank, interest rate of LIBOR plus 2.00% (4.0% at December 31, 2016), maturing on June 2, 2017.
|
|
|
20
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
Promissory note payable to Merrick, interest rate of 12% beginning October 14, 2016 payable on the promissory note maturity date of January 11, 2017, collateralized by the 3,333,333 shares of JetPay common stock issued to WLES and held in escrow. Paid in full on January 15, 2017. See
Note 17. Subsequent Events.
|
|
|
5,000
|
|
|
|
-
|
|
|
|
|
|
|
|
|
|
|
Unsecured promissory note payable to WLES, interest rate of 5.0% payable quarterly, note principal due on December 31, 2017. Note amount excludes unamortized fair value discount of $0 and $384,611 at December 31, 2016 and 2015, respectively. See
Note 15. Related Party Transactions.
|
|
|
-
|
|
|
|
1,947
|
|
Unsecured promissory note payable to stockholder, interest rate of 4% payable at maturity, note principal due September 30, 2017, as extended. See
Note 15. Related Party Transactions.
|
|
|
492
|
|
|
|
492
|
|
|
|
|
|
|
|
|
|
|
Unsecured promissory
note payable to stockholder, interest rate of 4% payable quarterly, note principal due in two installments of $175,000, the
first paid on May 6, 2016, and the second due on May 6, 2017, paid in full on December 31, 2016. See
Note
15. Related Party Transactions.
|
|
|
-
|
|
|
|
350
|
|
|
|
|
|
|
|
|
|
|
Capital lease obligations related to computer equipment and software at JetPay Payments, TX, interest rates of 5.55% to 8.55%, due in monthly lease payments of $28,844 in the aggregate maturing from May 2017 through December 2018, collateralized by equipment.
|
|
|
357
|
|
|
|
474
|
|
|
|
|
|
|
|
|
|
|
Various other debt instruments related to vehicles at JetPay HR & Payroll Services.
|
|
|
-
|
|
|
|
2
|
|
|
|
|
22,207
|
|
|
|
16,697
|
|
Less current portion
|
|
|
(8,074
|
)
|
|
|
(3,411
|
)
|
Less unamortized deferred financing costs
|
|
|
(339
|
)
|
|
|
(88
|
)
|
|
|
$
|
13,794
|
|
|
$
|
13,198
|
|
The FNB term loan agreements require the Company to provide FNB
with annual financial statements within 120 days of the Company’s year-end and quarterly financial statements within 60 days
after the end of each quarter. The FNB agreements also contain certain annual financial covenants with which the Company was in
compliance as of December 31, 2016.
On June 2, 2016, in connection with the closing of the Company’s
acquisition of JetPay Payments, FL, JetPay Payments, FL entered into a Credit Agreement with Fifth Third Bank to obtain a $1,068,960
term loan and a revolving line of credit facility of $500,000, in each case secured by all of JetPay Payments, FL’s assets.
The term note issued to Fifth Third Bank matures on November 30, 2019 and bears interest at 4.00%. The revolving note issued to
Fifth Third Bank matures on June 2, 2017 and bears interest at a rate of 2.00% plus the LIBOR Rate for the applicable interest
period. The term note and the revolving note are guaranteed by the Company. The underlying credit agreement with Fifth Third Bank
contains certain customary covenants, including a financial covenant related to JetPay Payments, FL’s fixed charge coverage
ratio, with which the Company was in compliance as of December 31, 2016.
On July 26, 2016, as part of its settlement of litigation with Merrick,
the Company agreed to issue two promissory notes in favor of Merrick in the amounts of $3,850,000 (the “$3.85MM Note”)
and $5,000,000 (the “$5MM Note” and, together with the $3.85MM Note, the “Notes”). The Notes were secured
by the 3,333,333 shares of JetPay’s common stock issued in the name of WLES and held in escrow pursuant to that certain Escrow
Agreement, dated December 28, 2012, by and among JetPay, WLES, Trent Voigt, Merrick and JPMorgan Chase (“Chase”). The
$3.85MM Note was paid in full on October 21, 2016 and the $5.00MM Note was paid in full on January 11, 2016. See
Note 17.
Subsequent Events
.
On October 18, 2016, in connection with the sale of shares of Series
A Preferred to Sundara, JetPay HR & Payroll Services and PTFS entered into an agreement to obtain a term loan in the principal
amount of $9.5 million (the “LHLJ Debt Investment”) from LHLJ, Inc. The term loan, which bears interest at 8%, matures
on October 31, 2021 and is payable in equal monthly installments of principal and interest of $128,677 with a final payment of
$4,750,000 at maturity. The obligations of the JetPay HR & Payroll Services and PTFS under the Loan Agreement are guaranteed
by the Company and JetPay Payment Services, FL, LLC. The Loan Agreement contains certain customary affirmative and negative covenants,
including financial covenants relating to the borrowers’ debt coverage ratio, total leverage ratio, and a minimum liquidity
level during the term of the loan. A portion of the proceeds of the LHLJ Debt Investment was used to satisfy our obligations under
the Prior JetPay HR & Payroll Services’ Credit Facility.
Maturities of long-term debt and capital lease obligations, excluding
fair value and conversion option debt discounts, are as follows for the years ending December 31: 2017 – $8.1 million; 2018
– $2.6 million; 2019 – $2.5 million; 2020 – $2.3 million; 2021 – $6.7 million; and $0 thereafter.
Note 11. Redeemable Convertible Preferred Stock
Under a Securities Purchase Agreement entered into on August 22,
2013 (as amended, the “Series A Purchase Agreement”), the Company agreed to sell to Flexpoint, and Flexpoint agreed
to purchase, upon satisfaction of certain conditions, up to 133,333 shares of Series A Preferred for an aggregate purchase price
of up to $40.0 million in three tranches. The shares of Series A Preferred had a purchase price of $300 per share.
On October 11, 2013, the Company issued 33,333 shares of Series
A Preferred to Flexpoint for an aggregate of $10.0 million less certain agreed-upon reimbursable expenses of Flexpoint (the “Initial
Closing”) pursuant to the Series A Purchase Agreement. Additionally, the Company issued 4,667 shares of Series A Preferred
to Flexpoint on April 14, 2014 for an aggregate of $1.4 million; 20,000 shares on November 7, 2014 for $6.0 million; 33,333 shares
on December 28, 2014 for $10.0 million; and 8,333 shares on August 9, 2016 for $2.5 million. The proceeds of the initial $10.0
million investment were used to retire the note payable to Ten Lords, Ltd. of $5.9 million maturing in December 2013 with the remainder
used for general corporate purposes. The proceeds of the April 14, 2014 $1.4 million investment were used to satisfy a portion
of the Company’s liability to EarlyBirdCapital, Inc. arising from a March 3, 2014 arbitration decision (the “EBC Award”).
The proceeds of the November 7, 2014 $6.0 million were used as partial consideration for the acquisition of JetPay Payments, PA.
The proceeds of the December 28, 2014 $10.0 million investment were used to redeem certain secured convertible preferred notes
that matured on December 31, 2014. The proceeds of the August 9, 2016 $2.5 million investment were used for the payment of certain
acquisition expenses related to the JetPay Payments, FL acquisition and for general corporate purposes.
The Series A Preferred is convertible into shares of common
stock. Any holder of Series A Preferred may at any time convert such holder’s shares of Series A Preferred into
that number of shares of common stock equal to the number of shares of Series A Preferred being converted multiplied by $300
and divided by the then-applicable conversion price, which was initially $3.00. Under the Series A Purchase Agreement,
Flexpoint and Sundara Investment Partners, LLC are provided with certain indemnification rights in the event of the
incurrence of certain losses and expenses by the Company. In April 2015, Flexpoint tendered to the Company a claim letter
regarding an indemnification claim with respect to the EarlyBirdCapital matter.
On August 6, 2015, in resolution
of this claim, Flexpoint and the Company entered into a Letter Agreement, whereby the conversion price of any of the Series A
Preferred held by Flexpoint was reduced from $3.00 per share to $2.90 per share. As a result of the settlement of the Direct
Air Matter, see
Note 14. Commitments and Contingencies
, on March 23, 2017, the conversion price of Series A Preferred was
adjusted to $2.36 pursuant to the Series A Securities Purchase Agreement. Pursuant to an agreement by and among Flexpoint and Sundara, the
Series A Preferred conversion price may be adjusted upward upon a successful recovery of funds in the Company’s lawsuit
against Valley National Bank. The conversion price of the Series A Preferred continues to be subject to downward adjustment
upon the occurrence of certain events.
On October 18, 2016, the Company amended and restated the Series
A Purchase Agreement in part to facilitate the Company’s issuance and sale to Sundara of the 33,667 shares of Series A Preferred
that had not yet been purchased by Flexpoint (the “Remaining Shares”). Flexpoint’s right to acquire the Remaining
Shares was set to expire on October 11, 2016, but was extended until October 25, 2016 by an amendment to the Series A Purchase
Agreement, dated October 10, 2016, by and between the Company and Flexpoint. Pursuant to the A&R Purchase Agreement, the Company
and Flexpoint provided to Sundara the sole right to purchase the remaining 33,667 shares of Series A Preferred in a single transaction
consummated at the signing of the amended and restated Series A Purchase Agreement, for a purchase price of $10,100,100. This issuance
was completed on October 18, 2016.
The Series A Preferred has an initial liquidation preference of
$600 per share (subject to adjustment for any stock split, stock dividend or other similar proportionate reduction or increase
of the authorized number of shares of common stock) and will rank senior to the common stock with respect to distributions of assets
upon the Company’s liquidation, dissolution or winding up. Holders of Series A Preferred have the right to request redemption
of any shares of Series A Preferred issued at least five (5) years prior to the date of such request by delivering written notice
to the Company at the then applicable liquidation value per share, unless holders of a majority of the outstanding Series A Preferred
elect to waive such redemption request on behalf of all holders of Series A Preferred, subject to certain exceptions.
In addition to the foregoing, on May 5, 2014, the Company
issued 2,565 shares of Series A-1 Preferred to Wellington for an aggregate of $769,500, less certain agreed-upon reimbursable
expenses of Wellington, pursuant to a Securities Purchase Agreement (the “Series A-1 Purchase Agreement”) dated
May 1, 2014. Additionally, the Company issued to Wellington 1,350 shares of Series A-1 Preferred on November 20, 2014 for
$405,000 and 2,250 shares of Series A-1 Preferred on December 31, 2014 for $675,000. Under the Series A-1 Purchase
Agreement, the Company agreed to sell to Wellington, upon the satisfaction of certain conditions, up to 9,000 shares of
Series A-1 Preferred at a purchase price of $300 per share for an aggregate purchase price of up to $2.7 million. The
proceeds of the total investment to date of $1.85 million by Wellington have been used for general corporate purposes. Shares
of Series A-1 Preferred are convertible into shares of the Company’s common stock or, in certain circumstances, Series
A-2 Convertible Preferred Stock, par value $0.001 per share.
Shares of Series A-1 Preferred can be converted
into that number of shares of common stock equal to the number of shares of Series A-1 Preferred being converted multiplied
by $300 and divided by the then-applicable conversion price, which initially was $3.00. As a result of the settlement of the
Direct Air Matter, on March 23, 2017, the conversion price of Series A-1 Preferred was adjusted to $2.45 pursuant to the
Series A-1 Securities Purchase Agreement. Pursuant to an agreement by and among Wellington, the Series A-1 Preferred
conversion price may be adjusted upward upon a successful recovery of funds in the Company’s lawsuit against Valley
National Bank. The conversion price of the Series A-1 Preferred is subject to further downward adjustment upon the occurrence
of certain events as defined in the Series A-1 Purchase Agreement. Additionally, Wellington has the option, but not the
obligation, to purchase up to the number of shares of Series A-1 Preferred equal to 6.75% of the cumulative number of shares
of Series A Preferred purchased by Flexpoint and Sundara.
The Series A-1 Preferred has an initial liquidation preference of
$600 per share and ranks senior to the Company’s common stock and
pari passu
with the Series A Preferred
with respect to distributions of assets upon the Company’s liquidation, dissolution or winding up. Notwithstanding the above,
no holder of the Series A-1 Preferred can convert if, as a result of such conversion, such holder would beneficially own 9.9% or
more of the Company’s common stock. If at any time, no shares of Series A Preferred remain outstanding and shares of Series
A-1 Preferred remain outstanding because of the limitation in the preceding sentence, all shares of Series A-1 Preferred shall
automatically convert into shares of Series A-2 Preferred at a 1:1 ratio. Upon the occurrence of an Event of Noncompliance, as
defined in the Series A-1 Purchase Agreement, the holders of a majority of the Series A-1 Preferred may demand immediate redemption
of all or a portion of the Series A-1 Preferred at the then-applicable liquidation value.
The Company considered the guidance of ASC Topic 480,
Distinguishing
Liabilities from Equity
, and ASC Topic 815,
Derivatives
, in determining the accounting treatment for its convertible
preferred stock instruments. The Company considered the economic characteristics and the risks of the host contract based on the
stated and implied substantive terms and features of the instruments; including, but not limited to, its redemption features, voting
rights, and conversions rights; and determined that the terms of the preferred stock were more akin to an equity instrument than
a debt instrument. Subject to certain exceptions applicable to Sundara, the shares of Series A Preferred and Series A-1 Preferred
are subject to redemption, at the option of the holder, on or after the fifth anniversary of their original purchase. Accordingly,
the convertible preferred stock has been classified as temporary equity in the Company’s Consolidated Balance Sheets.
Upon issuance of the 33,333 shares of the Series A Preferred, the
Company recorded as a reduction to the Series A Preferred and as Additional Paid-In Capital a beneficial conversion feature of
$1.5 million. The beneficial conversion feature represents the difference between the effective conversion price and the fair value
of the Series A Preferred as of the commitment date. An additional beneficial conversion feature of $396,600 was recorded in August
2015 as a result of the change in conversion price per share from $3.00 to $2.90. There was no beneficial conversion feature upon
the 2014, 2015 or 2016 issuances of Series A Preferred to Flexpoint and Sundara, as applicable, and Series A-1 Preferred to Wellington
as a result of the price of the Company’s common stock at the dates of the closings being below the effective conversion
price of the preferred stock. The Company accounts for the beneficial conversion feature, the liquidation preference, and the issuance
costs related to the Series A Preferred and Series A-1 Preferred using the effective interest method by accreting such amounts
to its Series A Preferred and Series A-1 Preferred from the date of issuance to the earliest date of redemption as a reduction
to its total permanent equity within the Company’s Consolidated Statement of Changes in Stockholders’ Equity as a charge
to Additional Paid-In Capital. Any accretion recorded during the periods presented are also shown as a reduction to the income
available to common stockholders in the Company’s Consolidated Statements of Operations when presenting basic and dilutive
per share information. Accretion was $6.4 million and $5.2 million for the years ended December 31, 2016 and 2015, respectively.
Upon the occurrence of an Event of Noncompliance, the holders of
a majority of the Series A Preferred may demand immediate redemption of all or a portion of the shares of Series A Preferred at
the then-applicable liquidation value. Such holders may also exercise a right to have the holders of the Series A Preferred
elect a majority of the Board by increasing the size of the Board and filling such vacancies. Such right to control a minimum
majority of the Board would exist for so long as the Event of Noncompliance was continuing. An “Event of Noncompliance”
shall have occurred if: (i) the Company fails to make any required redemption payment with respect to the Series A Preferred; (ii)
the Company breaches the Series A Purchase Agreement after the Initial Closing, and such breach has not been cured within thirty
days after receipt of notice thereof; (iii) the Company or any subsidiary makes an assignment for the benefit of creditors, admits
its insolvency or is the subject of an order, judgment or decree adjudicating such entity as insolvent, among other similar actions;
(iv) a final judgment in excess of $5.0 million is rendered against the Company or any subsidiary that is not discharged within
60 days thereafter; or (v) an event of default has occurred under the Prior HR & Payroll Services Credit Facility , and such
event of default has not been cured within thirty days after receipt of notice thereof.
Note 12. Stockholders’ Equity
Common Stock
On June 18, 2015, the Company issued 29,167 shares of the Company’s
common stock with a fair market value of approximately $79,000, as compensation to an employee for services rendered.
On December 22, 2015, the Company entered into a Securities Purchase
Agreement (the “Insider Common Stock SPA”) with each of certain investors, including Bipin C. Shah, its Chairman and
then Chief Executive Officer, Robert B. Palmer, Director and Chair of the Audit Committee, and Jonathan M. Lubert, Director. Pursuant
to the Insider Common Stock SPAs, Messrs. Shah, Palmer and Lubert each agreed to purchase 20,000 shares, or an aggregate of 60,000
shares, of the Company’s common stock, at a purchase price of $2.70 per share (a price greater than the closing bid price
of the common stock on December 21, 2015, which was the last closing bid price preceding the Company’s execution of each
of the Insider Common Stock SPAs), for aggregate consideration of $162,000, prior to issuance costs. In addition to the three directors,
certain other investors purchased an additional 320,000 shares of common stock at a purchase price of $2.70 per share for aggregate
consideration of $864,000, prior to issuance costs. Additionally, on December 23, 2015, the Company sold 100,000 shares of common
stock to an additional investor, an entity affiliated with Laurence L. Stone at a purchase price of $2.70 per share for aggregate
consideration of $270,000. Issuance costs related to the December 2015 common stock sales were approximately $27,000. Finally,
on January 22, 2016, the Company sold 37,037 shares of common stock to an additional investor at a purchase price of $2.70 per
share for consideration of $100,000 prior to issuance costs of approximately $36,000.
On June 29, 2016, the Board of Directors approved an amendment and
restatement of the JetPay Corporation 2013 Stock Incentive Plan, which was subsequently approved by the Company’s stockholders
at the Company’s 2016 Annual Meeting of Stockholders held on August 2, 2016. As amended and restated, the 2013 Stock Incentive
Plan authorizes the availability of an additional 1,000,000 shares of common stock available for the grant of awards under the
2013 Stock Incentive Plan.
Preferred Stock
The Company is authorized to issue 1,000,000 shares of preferred
stock with a par value of $0.001 per share with such designations, rights and preferences as may be determined from time to time
by the Company’s Board of Directors.
As of December 31, 2016 and 2015, there were no shares of preferred
stock issued or outstanding other than the Series A Preferred issued to Flexpoint and Sundara and the Series A-1 Preferred issued
to Wellington described above.
Stock-Based Compensation
ASC Topic 718,
Compensation-Stock Compensation
, requires
compensation expense for the grant-date fair value of share-based payments to be recognized over the requisite service period.
At a meeting of the Company’s stockholders held on July 31,
2013,
the Company’s stockholders approved the adoption of the Company’s 2013 Stock Incentive Plan.
The Company was initially authorized to issue up to 2,000,000 shares of its common stock as awards under the 2013 Stock Incentive
Plan. On June 29, 2016, the Board of Directors approved an amendment and restatement of the JetPay Corporation 2013 Stock Incentive
Plan, as amended (the “Amended and Restated 2013 Plan”), which was subsequently approved by the Company’s stockholders
at the Company’s 2016 Annual Meeting of Stockholders held on August 2, 2016, to issue up to an additional 1,000,000 shares
of its common stock as awards. The Amended and Restated 2013 Plan has available 753,752 shares of common stock for the grant of
awards as of December 31, 2016.
The Company granted options to purchase 905,000 and 530,000 shares
of common stock under the Amended and Restated 2013 Stock Incentive Plan during the years ended December 31, 2016 and 2015, respectively,
all at an exercise price of $3.00 per share, except for 250,000 options granted at $2.48 per share in May 2016 and 350,000 options
granted at 2.60 per share in October 2016, the closing price of the Company’s common stock on the date of grant. The grant
date fair value of the options granted during the years ended December 31, 2016 and 2015 were determined to be approximately $1.14
million and $555,000, respectively, using the Black-Scholes option pricing model. Aggregated stock-based compensation expense for
the years ended December 31, 2016 and 2015 was $399,000 and $278,000, respectively. Unrecognized compensation expense as of December
31, 2016 relating to non-vested common stock options was approximately $1.28 million and is expected to be recognized through 2020.
During the year ended December 31, 2016, no options were exercised and 375,834 options were forfeited.
The fair values of the Company’s options were estimated at
the dates of grant using a Black-Scholes option pricing model with the following weighted average assumptions:
|
|
For the Years Ended December 31,
|
|
|
2016
|
|
2015
|
Expected term (years)
|
|
5.75 to 6.25
|
|
6.25
|
Risk-free interest rate
|
|
1.27% to 1.97%
|
|
1.56% to 1.79%
|
Volatility
|
|
58.1% to 62.3%
|
|
33.65% to 44.80%
|
Dividend yield
|
|
0%
|
|
0%
|
Expected term: The Company’s expected term is based on the
period the options are expected to remain outstanding. The Company estimated this amount utilizing the “Simplified Method”
in that the Company does not have sufficient historical experience to provide a reasonable basis to estimate an expected term.
Risk-free interest rate: The Company uses the risk-free interest
rate of a U.S. Treasury Note with a similar term on the date of the grant.
Volatility: The Company calculates the volatility of the stock price
based on historical value and corresponding volatility using a weighted average of both the Company’s stock price and the
Company’s peer group stock price for a period consistent with the stock option expected term.
Dividend yield: The Company uses a 0% expected dividend yield as
the Company has not paid dividends to date and does not anticipate declaring dividends in the near future.
A summary of stock option activity for the years ended December
31, 2016 and 2015 are presented below:
|
|
Number of Options
|
|
|
Weighted
Average Exercise
Price
|
|
Outstanding at December 31, 2014
|
|
|
1,401,250
|
|
|
$
|
3.02
|
|
Granted
|
|
|
530,000
|
|
|
$
|
3.00
|
|
Forfeited
|
|
|
(214,168
|
)
|
|
$
|
3.00
|
|
Exercised
|
|
|
-
|
|
|
$
|
-
|
|
Outstanding at December 31, 2015
|
|
|
1,717,082
|
|
|
$
|
3.02
|
|
Granted
|
|
|
905,000
|
|
|
$
|
2.70
|
|
Forfeited
|
|
|
(375,834
|
)
|
|
$
|
3.00
|
|
Exercised
|
|
|
-
|
|
|
$
|
-
|
|
Outstanding at December 31, 2016
|
|
|
2,246,248
|
|
|
$
|
2.89
|
|
Exercisable at December 31, 2016
|
|
|
1,153,936
|
|
|
$
|
2.98
|
|
The weighted average remaining life of options outstanding at December
31, 2016 was 8.27 years. The aggregate intrinsic value of the exercisable options at December 31, 2016 was $0.
Stock options outstanding
at December 31, 2016 are summarized as follows:
|
|
|
Options Outstanding
|
|
|
Options Exercisable
|
|
Range of
Exercise Prices
|
|
|
Number
Outstanding
|
|
|
Weighted Avg.
Remaining
Contractual Life
|
|
|
Weighted
Avg. Exercise
Price
|
|
|
Number
Exercisable
|
|
|
Weighted Avg.
Remaining
Contractual Life
|
|
|
Weighted
Avg. Exercise
Price
|
|
$
|
3.00
|
|
|
|
1,339,998
|
|
|
|
7.61
|
|
|
$
|
3.00
|
|
|
|
736,247
|
|
|
|
7.34
|
|
|
$
|
3.00
|
|
$
|
3.10
|
|
|
|
306,250
|
|
|
|
6.67
|
|
|
$
|
3.10
|
|
|
|
306,250
|
|
|
|
6.67
|
|
|
$
|
3.10
|
|
$
|
2.60
|
|
|
|
350,000
|
|
|
|
9.84
|
|
|
$
|
2.60
|
|
|
|
29,247
|
|
|
|
9.84
|
|
|
$
|
2.60
|
|
$
|
2.48
|
|
|
|
250,000
|
|
|
|
9.35
|
|
|
$
|
2.48
|
|
|
|
82,192
|
|
|
|
9.35
|
|
|
$
|
2.48
|
|
On June 29, 2015, the Board of Directors adopted the JetPay Corporation
Employee Stock Purchase Plan (the "Purchase Plan"), which was subsequently approved by the Company’s stockholders
at the Company’s 2015 Annual Meeting of Stockholders. The Purchase Plan allows employees to contribute a percentage of their
cash earnings, subject to certain maximum amounts, to be used to purchase shares of the Company’s common stock on each of
two (2) semi-annual purchase dates. The purchase price is equal to 90% of the market value per share on either: (a) the date of
grant of a purchase right under the Purchase Plan; or (b) the date on which such purchase right is deemed exercised, whichever
is lower.
As of December 31, 2016, an aggregate of 277,124 shares of common
stock remained reserved for issuance under the Purchase Plan, with 22,876 shares of common stock issued on July 1, 2016 and 51,480
shares of common stock issued on January 5, 2017.
Note 13. Income Taxes
The components of income tax expense consist of the following:
|
|
For the Years Ended December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Current:
|
|
|
|
|
|
|
|
|
Federal
|
|
$
|
-
|
|
|
$
|
-
|
|
State
|
|
|
165
|
|
|
|
231
|
|
|
|
|
|
|
|
|
|
|
Deferred:
|
|
|
|
|
|
|
|
|
Federal
|
|
|
(3,122
|
)
|
|
|
(318
|
)
|
State
|
|
|
(122
|
)
|
|
|
645
|
|
Change in valuation allowance
|
|
|
1,650
|
|
|
|
(361
|
)
|
Total income tax (benefit) expense
|
|
$
|
(1,429
|
)
|
|
$
|
197
|
|
JetPay Payments, TX is subject to and pays the Texas Margin Tax
which is considered to be an income tax in accordance with the provisions of the Income Taxes Topic in FASB, ASC and the associated
interpretations.
A reconciliation of income tax expense computed at the U.S. federal
statutory tax rate to the Company’s effective tax rate is summarized as follows:
|
|
For the Years Ended December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Tax at U.S. Federal statutory rate
|
|
$
|
(3,279
|
)
|
|
$
|
(272
|
)
|
State taxes, net of federal benefit
|
|
|
(7
|
)
|
|
|
801
|
|
Nondeductible
costs and other acquisition accounting adjustments
|
|
|
207
|
|
|
|
29
|
|
Valuation allowance for deferred tax assets
|
|
|
1,650
|
|
|
|
(361
|
)
|
Total income tax (benefit) expense
|
|
$
|
(1,429
|
)
|
|
$
|
197
|
|
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes.
Significant components of the Company’s deferred tax assets and liabilities are as follows:
|
|
As of December 31,
|
|
|
|
2016
|
|
|
2015
|
|
|
|
(in thousands)
|
|
Deferred tax assets:
|
|
|
|
|
|
|
|
|
Accounts receivable
|
|
$
|
152
|
|
|
$
|
116
|
|
Accrued expenses
|
|
|
265
|
|
|
|
371
|
|
Intangible assets
|
|
|
336
|
|
|
|
1,835
|
|
Stock options
|
|
|
1,167
|
|
|
|
1,018
|
|
Debt
|
|
|
1,717
|
|
|
|
1,650
|
|
Net operating loss carryforwards
|
|
|
9,327
|
|
|
|
5,505
|
|
Transaction costs and other
|
|
|
174
|
|
|
|
107
|
|
Total deferred tax assets
|
|
|
13,138
|
|
|
|
10,602
|
|
Valuation allowance for deferred tax assets
|
|
|
(8,869
|
)
|
|
|
(7,219
|
)
|
Deferred tax assets after valuation allowance
|
|
|
4,269
|
|
|
|
3,383
|
|
Deferred tax liabilities:
|
|
|
|
|
|
|
|
|
Prepaid expenses
|
|
|
(224
|
)
|
|
|
(157
|
)
|
Property and equipment
|
|
|
41
|
|
|
|
(36
|
)
|
Intangible assets
|
|
|
(4,250
|
)
|
|
|
(3,190
|
)
|
Contingent consideration
|
|
|
(356
|
)
|
|
|
(250
|
)
|
Total deferred tax liabilities
|
|
|
(4,789
|
)
|
|
|
(3,633
|
)
|
Net deferred tax liabilities
|
|
$
|
(520
|
)
|
|
$
|
(250
|
)
|
As of December 31, 2016, the Company had U.S. federal net operating
loss carryovers (“NOLs”) of approximately $25.9 million available to offset future taxable income, respectively. These
NOLs, if not utilized, expire at various times through 2036. In accordance with Section 382 of the Internal Revenue Code, deductibility
of the Company’s NOLs may be subject to an annual limitation in the event of a change in control.
In assessing the realization of deferred tax assets, management
considers whether it is more likely than not that some portion or all of the deferred tax assets will be realized. The ultimate
realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those
temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future
taxable income and tax planning strategies in making this assessment. After consideration of all of the information available,
management believes that significant uncertainty exists with respect to future realization of the deferred tax assets, and has,
therefore, adjusted its valuation allowance against deferred tax assets by $1.65 million in the year ended December 31, 2016, with
a total valuation allowance of $8.9 million at December 31, 2016, representing the amount of its deferred income tax assets in
excess of the Company’s deferred income tax liabilities. The deferred tax liability related to goodwill that is amortizable
for tax purpose (“Intangibles”) will not reverse until such time, if any, that the goodwill, which is considered to
be an asset with an indefinite life for financial reporting purposes, becomes impaired or sold. Due to the uncertain timing of
this reversal, the temporary difference cannot be considered as future taxable income for purposes of determining a valuation allowance.
Therefore, the deferred tax liability related to tax deductible goodwill Intangibles cannot be considered when determining the
ultimate realization of deferred tax assets.
The Company files income tax returns in the U.S. federal jurisdiction
and various state and local jurisdictions and is subject to examination by the various taxing authorities. The Company considers
Pennsylvania and Texas to be significant state tax jurisdictions. The Company’s federal, state and local income taxes for
the years beginning in 2012 remain subject to examination.
Note 14. Commitments and Contingencies
On or about March 13, 2012, a merchant of JetPay, LLC, Direct Air,
a charter travel company, abruptly ceased operations and filed for bankruptcy. Under United States Department of Transportation
requirements, all charter travel company customer charges for travel are to be deposited into an escrow account in a bank under
a United States Department of Transportation escrow program, and not released to the charter travel company until the travel has
been completed. In the case of Direct Air, such funds had historically been deposited into such United States Department of Transportation
escrow account at Valley National Bank in New Jersey, and continued to be deposited through the date Direct Air ceased operations.
At the time Direct Air ceased operations, according to Direct Air’s bankruptcy trustee, there should have been in excess
of $31.0 million in the escrow account. Instead there was approximately $1.0 million. As a result, Merrick Bank Corporation (“Merrick”),
JetPay, LLC’s sponsor bank with respect to this particular merchant, incurred chargebacks in excess of $25.0 million. Merrick
maintains insurance through a Chartis Insurance Policy for chargeback losses that names Merrick as the primary insured. The policy
has a limit of $25.0 million and a deductible of $250,000. Merrick has sued Chartis Insurance (“Chartis”) for payment
under the claim. Under an agreement between Merrick and JetPay, LLC, JetPay, LLC had certain obligations to indemnify Merrick for
losses realized from such chargebacks that Merrick was unable to recover from other parties. JetPay, LLC recorded a loss for all
chargebacks in excess of $25.0 million, the $250,000 deductible on the Chartis insurance policy and $487,000 of legal fees charged
against JetPay, LLC’s cash reserve account by Merrick, totaling $1.9 million in 2012, as well as an additional $597,000 in
legal fees charged against JetPay, LLC’s cash reserve account by Merrick through September 30, 2013. In December 2013, Merrick,
in addition to its suit against Chartis, also filed suit against Valley National Bank as escrow agent. In February 2015, JetPay
joined that suit, along with American Express. During 2012 and 2013, Merrick required JetPay, LLC to maintain increased cash reserves
in order to provide additional security for any obligations arising from the Direct Air situation. As of June 30, 2016, Merrick
held approximately $4.4 million of total reserves related to the Direct Air matter, which amount was released in full to Merrick
under the Merrick Settlement Agreement in July 2016, as more fully described below.
On August 7, 2013, JetPay Merchant Services, LLC (“JPMS”),
then a wholly owned subsidiary of JetPay, LLC and indirect wholly-owned subsidiary of the Company, together with WLES (collectively,
the “Plaintiffs”), filed suit in the United States District Court for the Northern District of Texas, Dallas Division,
against Merrick, Royal Group Services, LTD, LLC and Gregory Richmond (collectively, the “Defendants”). The suit alleges
that Merrick and Gregory Richmond (an agent of Royal Group Services) represented to JPMS that insurance coverage was arranged through
Chartis Specialty Insurance Company to provide coverage for JPMS against potential chargeback losses related to certain of JPMS’s
merchant customers, including Southern Sky Air Tours, d/b/a Direct Air. The complaint alleges several other causes of action against
the Defendants, including violation of state insurance codes, negligence, fraud, breach of duty and breach of contract. Also, in
August 2013, JPMS, JetPay, LLC, and JetPay ISO Services, LLC (“JetPay ISO”) filed the second amendment to a previously
filed complaint against Merrick in the United States District Court for the District of Utah, adding to its initial complaint several
causes of action related to actions Merrick allegedly took during JetPay, LLC’s transition to a new sponsoring bank in June
2013. Additionally, subsequent to this transition, Merrick invoiced the Company for legal fees incurred by Merrick totaling approximately
$4.7 million. The Company did not believe it had a responsibility to reimburse Merrick for these legal fees and disputed these
charges. Accordingly, the Company had not recorded an accrual for these legal fees as of June 30, 2016. These legal fees were eliminated
as part of the Merrick Settlement Agreement, as described below.
As partial protection against any potential losses related to Direct
Air, the Company required that, upon closing of the acquisition of JetPay, LLC, 3,333,333 shares of common stock that was to be
paid to WLES as part of the JetPay, LLC acquisition be placed into an escrow account with Chase as the trustee. The Escrow Agreement
for the account names Merrick, the Company, and WLES as parties. If JetPay, LLC suffered any liability as a result of the Direct
Air matter, these shares would be used in partial payment for any such liability, with any remaining shares delivered to WLES.
On July 26, 2016, we entered into two related settlement agreements:
(i) a Settlement Agreement and Release by and among Merrick, the Company, certain subsidiaries of the Company and WLES (the “Merrick
Settlement Agreement”) and (ii) a Settlement Agreement and Release by and among Trent Voigt, WLES and the Company (the “WLES
Settlement Agreement”). In connection with the parties’ entry into the Merrick Settlement Agreement, the District Court
for the District of Utah dismissed the Direct Air matter with prejudice on July 27, 2016.
As part of the Merrick Settlement Agreement, we agreed to release
all claims to the $4.4 million held in reserve at Merrick. In addition, pursuant to the Merrick Settlement Agreement, we issued
to Merrick the $3,850,000 note, bearing interest at a rate of 8% per annum, due December 28, 2017, (the “$3.85MM Note”)
and a $5,000,000 note, bearing interest at a rate of 12% per annum, due January 11, 2017 (the “$5MM Note” and, together
with the $3.85MM Note, the “Notes”) to Merrick. The Notes were secured by the 3,333,333 shares of JetPay’s common
stock issued in the name of WLES and held in escrow.
In connection with its entry into the Merrick Settlement Agreement,
JetPay executed three Stipulated and Confessed Judgments in favor of Merrick in the amounts of $32,500,000 (the “First Judgment”),
$28,650,000 (the “Second Judgment”) and $27,500,000 (the “Third Judgment” and, together with the First
Judgment and the Second Judgment, the “Judgments”), none of which shall be of any effect unless and until JetPay failed
to make any payment when due under the Notes. If JetPay failed to make payment when due under the Notes, Merrick, after a five
(5) day cure period, would have been able to seek to obtain and/or enforce the applicable Judgments in the Federal District Court
for Utah or in any court of competent jurisdiction. On October 21, 2016, the Company paid in full the $3.85MM Note and on January
11, 2017, the Company paid in full the $5.0MM Note. As a result, no Judgments are available for Merrick’s relief. See
Note
17. Subsequent Events
.
Under the terms of the WLES Settlement
Agreement, WLES agreed to transfer the indebtedness represented by that certain promissory note, dated December 28, 2012 (the “WLES
Note”), in the original principal amount of $2,331,369 issued by JetPay in favor of WLES to Merrick. In addition, WLES agreed
to amend that certain promissory note, dated June 7, 2013, as amended, in the original principal amount of $491,693 issued by JetPay,
LLC in favor of Trent Voigt in order to (a) extend its maturity date from September 30, 2016 to September 30, 2017 and (b) waive
all interest payments for the period from September 30, 2016 to September 30, 2017. This note in favor of Mr. Voigt shall become
due and payable immediately should Mr. Voigt’s employment with JetPay be terminated other than for cause. In addition, pursuant
to the WLES Settlement Agreement, WLES authorized JetPay to arrange a private sale of that number of escrowed shares to the extent
necessary to satisfy JetPay’s obligations to Merrick under the $5.00MM Note (up to a total of 2,200,000 escrowed shares).
Upon consummation of the sale of more than 1,666,667 of the escrowed shares, JetPay agreed to issue to WLES fully vested and immediately
exercisable warrants with an expiration date of five (5) years from the date of the WLES Settlement Agreement to purchase that
number of shares of JetPay common stock equal to 50% of the difference between (a) the number of escrowed shares actually sold
by WLES and (b) 1,666,666 shares of JetPay common stock, at an exercise price per share equal to the amount per share paid for
the sold escrowed shares. The WLES Settlement Agreement also provides for the allocation of any recoveries by JPMS in connection
with the claims brought by JMPS in
American Express Travel Related Services and JetPay
Merchant Services, LLC v. Valley National Bank, Civil Action No. 2:14-cv-7827 (D. N.J.) between the Company and WLES. On February
15, 2017, 2,200,000 of the WLES escrowed shares were transferred to JetPay and placed into Treasury to satisfy WLES’ indemnification
under the Merrick and WLES Settlement Agreements. See
Note 17. Subsequent Events
.
The Company has recorded a Settlement of Legal Matter charge of
$6.19 million for the year ended December 31, 2016 based on the terms of the Merrick Settlement Agreement and the WLES Settlement
Agreement. The loss includes: (i) a charge of $4.4 million related to the Company’s release of all claims to the $4.4 million
held in reserve at Merrick; (ii) a charge of $1.4 million related to the Company’s issuance of the $3.85MM Note, less WLES’s
agreement to transfer the WLES Note (recorded at $2,036,511, net of an unamortized discount of $294,858) and accrued interest on
the WLES Note of $414,466; (iii) a charge of $50,000 representing the Company’s issuance of the $5.0MM Note less the estimated
value as of July 26, 2016 of the escrowed shares; and (iv) a charge for $373,334 representing the fair value of the issuance of
warrants to WLES as described in the WLES Settlement Agreement.
At the time of the acquisition of JetPay, LLC, the Company entered
into an Amendment, Guarantee, and Waiver Agreement (the “Agreement”) dated December 28, 2012 between the Company, Ten
Lords and Interactive Capital and JetPay Payments, TX. Under the Agreement, Ten Lords and Interactive Capital agreed to extend
payment of a $6.0 million note remaining outstanding at the date of acquisition for up to twelve months. The note was paid in full
in October 2013 using the proceeds from the initial purchase of Series A Preferred by Flexpoint. See
Note 11. Redeemable
Convertible Preferred Stock
. The terms of the Agreement required that the Company provide Ten Lords with a “true up”
payment, which was meant to put the holders of the note (Ten Lords and Interactive Capital) in the same after-tax economic position
as they would have been had the note been paid in full on December 28, 2012. JetPay calculated this true-up payment to Ten Lords
at $222,310 and paid such amount to Ten Lords in August 2015. Subsequent to the Company’s payment, the Company received notice
on October 5, 2015 that Ten Lords had filed a lawsuit against JetPay, LLC disputing the amount determined and paid by the Company.
The Company believes that the allegations in the suit regarding JetPay, LLC are groundless and intend to defend it.
In December 2012, BCC Merchant Solutions (“BCC”), a
former customer of JetPay, LLC filed a suit against JetPay, LLC, Merrick, and Trent Voigt in the Northern District of Texas, Dallas
Division, for $1.9 million, alleging that the parties by their actions, had cost BCC significant expense and lost customer revenue.
The Company maintained an accrual of $200,000 for any potential loss settlement related to this matter as of March 31, 2016. On
May 16, 2016, the Company settled the lawsuit with BCC and paid $200,000 on June 15, 2016.
In December 2015, Harmony Press Inc. (“Harmony”),
a customer of ADC and PTFS, filed a suit against an employee of Harmony for theft by that employee of over $628,000. JetPay,
ADC, and PTFS as well as several financial institution service providers to Harmony were also named in that suit for alleged
negligence. The Company believes that the allegations in the suit regarding JetPay, ADC, and PTFS are groundless and has
turned the matter over to the Company’s insurance carrier who is defending the suit. The Company is subject to a
$50,000 deductible under its insurance policy. The Company has not recorded an accrual for any potential loss related to this
matter as of December 31, 2016.
The Company is a party to various other legal proceedings related
to its ordinary business activities. In the opinion of the Company’s management, none of these proceedings are material
in relation to our results of operations, liquidity, cash flows, or financial condition.
At December 31, 2016, a letter of credit was outstanding for $100,000
as collateral with respect to a front-end processing relationship with a credit card company.
Leases
The Company is obligated under various operating leases, primarily
for office space and certain equipment related to its operations. Certain of these leases contain purchase options, renewal provisions,
and contingent rentals for its proportionate share of taxes, utilities, insurance, and annual cost of living increases.
Future minimum lease payments under non-cancelable operating leases
as of December 31, 2016 are as follows (in thousands):
2017
|
|
$
|
471
|
|
2018
|
|
$
|
149
|
|
2019
|
|
$
|
1
|
|
Rent expense under these operating leases was $973,000 and $823,000
for the years ended December 31, 2016 and 2015, respectively. The future minimum lease payments above include a related party
lease with respect to the JetPay HR & Payroll Services operations with the previous shareholders of JetPay HR & Payroll
Services. This lease provides for current monthly lease payments of $45,163.
Note 15. Related Party Transactions
JetPay Payroll Services’ headquarters are located in Center
Valley, Pennsylvania and consist of approximately 22,500 square feet leased from C. Nicholas Antich and Carol A. Antich. Mr. Antich
is the former President of JetPay HR & Payroll Services. The rent is currently $45,163 per month. The office lease had an initial
10-year term which expired on May 31, 2016 and was extended for one year on June 1, 2016. Rent expense under this lease was $531,500
and $516,500 for the years ended December 31, 2016 and 2015. The Company is currently evaluating its future space needs and reviewing
several alternatives, including a possible extension or amendment to the current lease.
JetPay Payments, TX retains a backup center in Sunnyvale, Texas
consisting of 1,600 square feet, rented from JT Holdings, an entity controlled by Trent Voigt, the previous Chief Executive Officer
of JetPay Payments, TX. The terms of the lease which expired on January 31, 2016 were commercial. Occupancy continues on a month-to-month
basis. Rent expense was $47,000 and $36,000 for the years ended December 31, 2016 and 2015, respectively.
In connection with the closing of the Company’s acquisition
of JetPay Payments, TX, the Company entered into a Note and Indemnity Side Agreement with JP Merger Sub, LLC, WLES and Trent Voigt
(the “Note and Indemnity Side Agreement”) dated as of December 28, 2012. Pursuant to the Note and Indemnity Side Agreement,
the Company issued a promissory note in the amount of $2,331,369 in favor of WLES. Interest accrued on amounts due under the note
at a rate of 5% per annum, and is payable quarterly. Interest expense was $67,000 and $118,000 for the years ended December 31,
2016 and 2015, respectively. Under the terms of the WLES Settlement Agreement, WLES transferred the WLES Note and related accrued
interest to Merrick. See
Note 14. Commitments and Contingencies
.
On August 22, 2013, JetPay Payments, TX entered into a Master Service
Agreement with JetPay Solutions, LTD, a United Kingdom based entity 75% owned by WLES, an entity owned by Trent Voigt. The Company
initiated transaction business under this agreement beginning in April 2014 with revenue earned from JetPay Solutions, LTD of $36,000
and $238,000 for the years ended December 31, 2016 and 2015, respectively.
On June 7, 2013, the Company issued an unsecured promissory note
to Trent Voigt, the then Chief Executive Officer of JetPay Payments, TX, in the amount of $491,693. The note matures on September
30, 2017, as extended by the WLES Settlement Agreement dated July 26, 2016, see
Note 14. Commitment and Contingencies
,
and bears interest at an annual rate of 4% with interest expense of $11,000 and $20,000 recorded for the years ended December 31,
2016 and 2015. The transaction was approved upon resolution and review by the Company’s Audit Committee of the terms of the
note to ensure that such terms were no less favorable to the Company than those that would be available with respect to such transactions
from unaffiliated third parties. See
Note 10. Long-Term Debt, Notes Payable and Capital Lease Obligations.
On October 31, 2014, following the unanimous consent of the Company’s
Audit Committee, the Company entered into a letter agreement with WLES, an entity owned by Trent Voigt, that governs the distribution
of any proceeds received in connection with the Direct Air matter. The Letter Agreement provides that subject to certain exceptions,
after each of the Company and WLES receive out-of-pocket expenses and chargeback losses incurred subsequent to the consummation
of the JetPay, LLC and prior to the consummation of such acquisition, respectively, each of the parties will share in any proceeds
received pro rata. This agreement was superseded by the WLES Settlement Agreement. See
Note 14. Commitment and Contingencies.
On May 6, 2015, the Company issued an unsecured promissory note
to C. Nicholas Antich, the then President of JetPay HR & Payroll Services, and Carol A. Antich in the amount of $350,000 to
satisfy the remaining balance of the $2.0 million deferred consideration. The promissory note bore interest at an annual rate of
4% and was scheduled to mature on May 6, 2017, payable in two equal installments of $175,000, with the first paid on May 6, 2016
and the second due on May 6, 2017. The promissory note was paid in full on December 31, 2016. Interest expense related to this
promissory note was $9,800 and $9,500 for the years ended December 31, 2016 and 2015, respectively. The promissory note was approved
upon resolution and review by the Company’s Audit Committee of the terms of the promissory note to ensure that such terms
were no less favorable to the Company than those that would be available with respect to such transactions from unaffiliated third
parties. See
Note 10. Long-Term Debt, Notes Payable and Capital Lease Obligations.
On December 22, 2015, the Company entered into securities purchase
agreements (the “Insider Common Stock SPAs”) with each of certain investors, including Bipin C. Shah, its Chairman
and then Chief Executive Officer, Robert B. Palmer, Director and Chair of the Audit Committee, and Jonathan M. Lubert, Director.
Pursuant to the Insider Common Stock SPAs, Messrs. Shah, Palmer and Lubert each agreed to purchase 20,000 shares, or an aggregate
of 60,000 shares, of the Company’s common stock at a purchase price of $2.70 per share (a price greater than the closing
bid price of the common stock on December 21, 2015, which was the last closing bid price preceding the Company’s execution
of each of the Insider Common Stock SPAs), for aggregate consideration of $162,000, prior to issuance costs. See
Note 12.
Stockholders’ Equity.
On January 15, 2016, the Company issued the Promissory Notes in
favor of each of Bipin C. Shah, Jonathan Lubert and Flexpoint. Amounts outstanding under the Promissory Notes accrued interest
at a rate of 12% per annum and carried a default interest rate upon the occurrence of certain events of default, including failure
to make payment under the applicable Promissory Note or a sale of the Company. Interest expense related to the Promissory Notes
was $177,000 for the year ended December 31, 2016. The maturity date of the Promissory Notes was extended to July 31, 2016 through
an extension executed on April 11, 2016. On July 26, 2016, Jonathan Lubert and Flexpoint agreed to further extend their Promissory
Notes to September 30, 2016 or the occurrence of an event of a default that is not properly cured or waived. Additionally, Flexpoint
increased the principal amount of its expiring Promissory Note from $1,000,000 to $1,400,000, the proceeds of which increase were
used to pay off the outstanding balance of the promissory note issued to Bipin C. Shah due on July 31, 2016. Finally, on September
30, 2016, Jonathan Lubert and Flexpoint agreed to further extend their Promissory Notes to October 31, 2016. The promissory notes
in favor of Mr. Lubert and Flexpoint were paid in full on October 21, 2016
.
Finally,
on October 18, 2016, the Company entered into an amended and restated Series A Purchase Agreement with Flexpoint, the holder of
the majority of the Company’s Series A Preferred Common Stock, and Sundara, a Delaware limited liability company wholly-owned
by Laurence Stone. Pursuant to the amended and restated Series A Purchase Agreement, Sundara acquired 33,667 shares of Series A
Preferred for $10.1 million. In connection with the Company’s entry into the amended and restated Series A Purchase Agreement,
Mr. Stone was appointed as a director of the Company. In addition, on
October 18, 2016, the Company entered into a loan and security agreement with JetPay HR & Payroll Services and PTFS, as borrowers,
the Company and JetPay Payments, FL, as guarantors, and LHLJ, Inc., an entity wholly-owned by Laurence Stone, as lender. Pursuant
to the loan and security agreement, LHLJ, Inc., LHLJ, Inc. provided JetPay HR & Payroll Services and PTFS a term loan of $9.5
million. The loan carries an interest rate of 8% and matures on October 18, 2021. In connection with the parties’ entry into
the loan and security agreement, the borrowers paid LHLJ, Inc. a non-refundable closing fee of $190,000.
Note 16. Segments
The Company currently operates in two business segments, the JetPay
Payment Processing Segment, which is an end-to-end processor of credit and debit card and ACH payment transactions to businesses
with a focus on those processing internet transactions and recurring billings, and the JetPay HR & Payroll Segment, which is
a full-service payroll and related payroll tax payment processor.
Segment operating results are presented below (in thousands). The
results reflect revenues and expenses directly related to each segment. The activity within JetPay Card Services was not material
through December 31, 2016 and 2015, and accordingly was included in Corporate in the tables below. The Company does not evaluate
performance or allocate resources based on segment asset data, and therefore, such information is not presented.
|
|
For the Year Ended December 31, 2016
|
|
|
|
JetPay
Payment
Services
|
|
|
JetPay HR &
Payroll
Services
|
|
|
General/
Corporate
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Processing revenues
|
|
$
|
40,682
|
|
|
$
|
15,582
|
|
|
$
|
66
|
|
|
$
|
56,330
|
|
Cost of processing revenues
|
|
|
29,496
|
|
|
|
7,852
|
|
|
|
105
|
|
|
|
37,453
|
|
Selling, general and administrative expenses
|
|
|
9,255
|
|
|
|
5,384
|
|
|
|
2,272
|
|
|
|
16,911
|
|
Settlement of legal matter
|
|
|
6,192
|
|
|
|
-
|
|
|
|
-
|
|
|
|
6,192
|
|
Change in fair value of contingent consideration liability
|
|
|
-
|
|
|
|
-
|
|
|
|
(103
|
)
|
|
|
(103
|
)
|
Amortization of intangibles and depreciation
|
|
|
2,646
|
|
|
|
1,314
|
|
|
|
5
|
|
|
|
3,965
|
|
Other expenses
|
|
|
584
|
|
|
|
396
|
|
|
|
576
|
|
|
|
1,556
|
|
(Loss) income before income taxes
|
|
$
|
(7,491
|
)
|
|
$
|
636
|
|
|
$
|
(2,789
|
)
|
|
$
|
(9,644
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total property and equipment, net
|
|
$
|
1,559
|
|
|
$
|
537
|
|
|
$
|
29
|
|
|
$
|
2,125
|
|
Property and equipment additions
|
|
$
|
457
|
|
|
$
|
259
|
|
|
$
|
-
|
|
|
$
|
716
|
|
Intangible assets and goodwill
|
|
$
|
58,373
|
|
|
$
|
16,695
|
|
|
$
|
-
|
|
|
$
|
75,068
|
|
Total segment assets
|
|
$
|
100,118
|
|
|
$
|
86,196
|
|
|
$
|
896
|
|
|
$
|
187,210
|
|
|
|
For the Year Ended December 31, 2015
|
|
|
|
JetPay
Payment
Services
|
|
|
JetPay HR &
Payroll
Services
|
|
|
General/
Corporate
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Processing revenues
|
|
$
|
28,569
|
|
|
$
|
14,705
|
|
|
$
|
48
|
|
|
$
|
43,322
|
|
Cost of processing revenues
|
|
|
18,780
|
|
|
|
7,327
|
|
|
|
122
|
|
|
|
26,229
|
|
Selling, general and administrative expenses
|
|
|
6,861
|
|
|
|
4,776
|
|
|
|
1,654
|
|
|
|
13,291
|
|
Change in fair value of contingent consideration liability
|
|
|
-
|
|
|
|
-
|
|
|
|
56
|
|
|
|
56
|
|
Amortization of intangibles and depreciation
|
|
|
2,160
|
|
|
|
1,396
|
|
|
|
5
|
|
|
|
3,561
|
|
Other expenses
|
|
|
401
|
|
|
|
297
|
|
|
|
488
|
|
|
|
1,186
|
|
Income (loss) before income taxes
|
|
$
|
367
|
|
|
$
|
909
|
|
|
$
|
(2,277
|
)
|
|
$
|
(1,001
|
)
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total property and equipment, net
|
|
$
|
1,375
|
|
|
$
|
570
|
|
|
$
|
34
|
|
|
$
|
1,979
|
|
Property and equipment additions
|
|
$
|
987
|
|
|
$
|
274
|
|
|
$
|
2
|
|
|
$
|
1,263
|
|
Intangible assets and goodwill
|
|
$
|
47,857
|
|
|
$
|
17,733
|
|
|
$
|
-
|
|
|
$
|
65,590
|
|
Total segment assets
|
|
$
|
77,341
|
|
|
$
|
70,269
|
|
|
$
|
1,091
|
|
|
$
|
148,701
|
|
Note 17. Subsequent Events
On January 5, 2017, 51,480 shares of common stock were issued
under the Company’s Employee Stock Purchase Plan.
On January 11, 2017, the Company repaid the $5.0 million promissory
note (the “5.0 million Note”) held by Merrick Bank Corporation as part of the Merrick Settlement and Release Agreement.
The timely pay off of the Note satisfied the Company’s obligations to Merrick Bank Corporation under the Merrick Settlement
and Release Agreement regarding certain civil actions involving the Company in the Federal District Court for the District of Utah.
As a result, each of the Stipulated and Confessed Judgments executed by the Company in connection with the Settlement and Release
Agreement and described in the Company’s Form 8-K dated July 29, 2016 are void, unenforceable and of no effect.
On February 15, 2017, the Company bought back 2.2 million shares
of its common stock owned by WLES, which WLES had agreed to sell in connection with the Direct Air matter as part of the WLES Settlement
Agreement dated July 26, 2016. JetPay had previously paid off a $5.0 million Note due to Merrick Bank in January 2017, which WLES
had agreed to indemnify as part of the WLES Settlement Agreement by agreeing to sell the 2.2 million shares to satisfy JetPay’s
obligations in relation to the $5.0 million Note. As a result, no additional consideration was due to WLES in connection with the
stock buyback. Effective February 15, 2017 the 2.2 million shares of JetPay common stock were placed in treasury and are available
for issuance. Additionally, in conjunction with this transaction, in accordance with the WLES Settlement Agreement, the Company
issued a warrant to WLES to purchase up to 266,667 shares of the Company’s common stock at $2.27 per share, the deemed price
paid per share by the Company to purchase the 2.2 million shares.
On March 23, 2017, as a result of the settlement of the Direct
Air Matter, see
Note 14. Commitments and Contingencies
, the Company entered into a Letter Agreement with Flexpoint and
Sundara to adjust the conversion price of the Series A Preferred from $2.90 to $2.36 pursuant to the indemnification terms in
the Series A Purchase Agreement. Additionally, the Company also entered into a Letter Agreement with Wellington on March 23, 2017
to adjust the conversion price of the Series A-1 Preferred from $3.00 to $2.45 pursuant to the indemnification terms in the Series
A-1 Purchase Agreement. Further, the letter agreements with Flexpoint and Sundara, and with Wellington, provide that the Series
A and A-1 Preferred conversion prices may be adjusted upward upon a successful recovery of funds in the Company’s lawsuit
against Valley National Bank. There can be no assurance that the Company will achieve a successful recovery of funds in the lawsuit.