UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q

(Mark One)
x Quarterly report pursuant to Section 13 or 15(d) of the Securities
         Exchange Act of 1934

                For the quarterly period ended December 31, 2009

¨ For the transition period from __________ to __________

Commission file number: 0-22773

NETSOL TECHNOLOGIES, INC.
(Exact name of small business issuer as specified in its charter)

NEVADA
 
95-4627685
(State or other Jurisdiction of
Incorporation or Organization)
 
(I.R.S. Employer NO.)

23901 Calabasas Road, Suite 2072, Calabasas, CA 91302
(Address of principal executive offices) (Zip Code)

(818) 222-9195 / (818) 222-9197
(Issuer's telephone/facsimile numbers, including area code)

Check whether the issuer: (1) 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 issuer was required to file such reports), and (2) has been subject to such filing requirements for the past 90days.
Yes    x          No ¨

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

Large Accelerated Filer  ¨
Accelerated Filer ¨
Non-Accelerated Filer  x

The issuer had 35,436,277 shares of its $.001 par value Common Stock and  NIL shares of Series A 7% Cumulative Convertible Preferred Stock issued and outstanding as of February 5, 2010.

Transitional Small Business Disclosure Format (check one)

Yes  ¨ No   x

 
 

 

NETSOL TECHNOLOGIES, INC.

INDEX

 
Page No.
   
PART I.        FINANCIAL INFORMATION
 
   
Item 1.  Financial Statements
 
   
Consolidated Unaudited Balance Sheets as of December 31, 2009 and June 30, 2009
3
   
Comparative Unaudited Consolidated Statements of Operations for the Three and Six Month Periods Ended December 31, 2009 and 2008
4
   
Comparative Unaudited Consolidated Statements of Cash Flows for the Six Month Periods Ended December 31, 2009 and 2008
5
   
Notes to the Unaudited Consolidated Financial Statements
7
   
Item 2.  Management's Discussion and Analysis or Plan of Operation
25
   
Item 3.  Quantitative and Qualitative Disclosures About Market Risks
38
   
Item 4.  Controls and Procedures
38
   
PART II.         OTHER INFORMATION
 
   
Item 1.  Legal Proceedings
39
   
Item 2.  Unregistered Sales of Equity and Use of Proceeds
39
   
Item 3.  Defaults Upon Senior Securities
39
   
Item 4.  Submission of Matters to a Vote of Security Holders
39
   
Item 5.  Other Information
39
   
Item 6.  Exhibits
39
 
 
Page 2

 

NETSOL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS- UNAUDITED
   
As of December 31,
2009
   
As of June 30,
2009
 
ASSETS
           
Current assets:
           
Cash and cash equivalents
  $ 5,211,674     $ 4,403,762  
Restricted Cash
    5,000,000       5,000,000  
Accounts receivable, net of allowance for doubtful accounts
    11,085,142       11,394,844  
Revenues in excess of billings
    7,803,936       5,686,277  
Other current assets
    1,974,048       2,307,246  
Total current assets
    31,074,801       28,792,129  
Property and equipment, net of accumulated depreciation
    9,063,503       9,186,163  
Other assets, long-term
    -       204,823  
Intangibles:
               
Product licenses, renewals, enhancements, copyrights, trademarks, and tradenames, net
    15,679,647       13,802,607  
Customer lists, net
    961,401       1,344,019  
Goodwill
    9,439,285       9,439,285  
Total intangibles
    26,080,334       24,585,911  
Total assets
  $ 66,218,638     $ 62,769,026  
                 
LIABILITIES AND STOCKHOLDERS' EQUITY
 
Current liabilities:
               
Accounts payable and accrued expenses
  $ 5,244,176     $ 5,106,266  
Current portion of loans and obligations under capitalized leases
    6,564,633       6,207,830  
Other payables - acquisitions
    103,226       103,226  
Unearned revenues
    3,153,926       3,473,228  
Dividend to preferred stockholders payable
    -       44,409  
Loans payable, bank
    2,386,549       2,458,757  
Convertible notes payable, current portion
    1,131,115       -  
Total current liabilities
    18,583,625       17,393,716  
Obligations under capitalized leases, less current maturities
    878,586       1,090,901  
Convertible notes payable, less current maturities
    4,227,517       5,809,508  
Long term loans; less current maturities
    969,536       1,113,832  
Lease abandonment liability; long term
    1,076,347       -  
Total liabilities
    25,735,611       25,407,957  
Commitments and contingencies
    -       -  
                 
Stockholders' equity:
               
Preferred stock,  5,000,000 shares authorized; Nil; 1,920 issued and outstanding
    -       1,920,000  
Common stock, $.001 par value; 95,000,000 shares authorized; 35,436,777; 30,046,987 issued and outstanding
    35,437       30,047  
Additional paid-in-capital
    84,702,035       78,198,523  
Treasury stock
    (396,008 )     (396,008 )
Accumulated deficit
    (41,940,459 )     (41,253,152 )
Stock subscription receivable
    (2,347,930 )     (842,619 )
Common stock to be issued
    88,325       220,365  
Other comprehensive loss
    (7,754,102 )     (6,899,397 )
Non-controlling interest
    8,095,729       6,383,310  
Total stockholders' equity
    40,483,027       37,361,069  
Total liabilities and stockholders' equity
  $ 66,218,638     $ 62,769,026  

See accompanying notes to these unaudited consolidated financial statements.

 
Page 3

 

 NETSOL TECHNOLOGIES, INC. AND SUBSIDIARIES
 CONSOLIDATED STATEMENTS OF OPERATIONS (UNAUDITED)
   
For the Three Months
   
For the Six Months
 
    
Ended December 31,
   
Ended December 31,
 
   
2009
   
2008
   
2009
   
2008
 
Net Revenues:
                       
License fees
  $ 3,318,936     $ 647,979     $ 5,870,529     $ 3,177,787  
Maintenance fees
    1,780,336       1,513,293       3,588,053       3,107,027  
Services
    4,420,535       3,109,737       7,683,299       8,287,162  
Total revenues
    9,519,808       5,271,009       17,141,881       14,571,976  
Cost of revenues:
                               
Salaries and consultants
    2,005,845       2,382,877       4,019,598       5,023,590  
Travel
    329,008       226,964       389,207       712,900  
Repairs and maintenance
    69,112       102,235       136,723       208,900  
Insurance
    36,030       59,073       72,709       91,912  
Depreciation and amortization
    573,267       532,429       1,071,772       1,083,754  
Other
    585,157       540,146       1,467,495       1,291,214  
Total cost of revenues
    3,598,418       3,843,724       7,157,503       8,412,270  
Gross profit
    5,921,390       1,427,285       9,984,378       6,159,706  
Operating expenses:
                               
Selling and marketing
    526,751       880,846       1,020,381       1,850,364  
Depreciation and amortization
    418,023       494,834       930,384       975,042  
Bad debt expense
    212,840       648,470       212,840       648,470  
Salaries and wages
    743,970       944,520       1,468,665       1,923,774  
Professional services, including non-cash compensation
    210,795       312,940       306,901       619,826  
Lease abandonment charges
    1,076,347       -       1,076,347       -  
General and adminstrative
    1,042,172       962,711       2,132,183       1,830,828  
Total operating expenses
    4,230,898       4,244,321       7,147,701       7,848,304  
Income (loss) from operations
    1,690,492       (2,817,036 )     2,836,677       (1,688,598 )
Other income and (expenses)
                               
Loss on sale of assets
    (89,119 )     (14,960 )     (89,101 )     (180,698 )
Interest expense
    (372,273 )     (296,578 )     (840,887 )     (500,470 )
Interest income
    33,752       40,895       151,562       68,836  
Gain (loss) on foreign currency exchange rates
    (3,247 )     (195,030 )     380,577       1,812,852  
FMV of options & warrants issued
    -       117,300       -       -  
Beneficial conversion feature
    (595,215 )     -       (893,214 )     -  
Other income (expense)
    (50,825 )     15,686       (81,975 )     32,140  
Total other income (expenses)
    (1,076,927 )     (332,687 )     (1,373,038 )     1,232,660  
Net income (loss) before non-controlling interest in subsidiary
    613,565       (3,149,723 )     1,463,639       (455,938 )
Non-controlling interest
    (1,028,917 )     (32,062 )     (2,137,892 )     (1,661,823 )
Income taxes
    (32,526 )     (50,855 )     (37,543 )     (58,037 )
Net loss
    (447,878 )     (3,232,640 )     (711,795 )     (2,175,798 )
Dividend required for preferred stockholders
    -       (33,876 )     -       (67,752 )
Net loss applicable to common shareholders
    (447,878 )     (3,266,516 )     (711,795 )     (2,243,550 )
Other comprehensive income (loss):
                               
Translation adjustment
    (538,141 )     (962,258 )     (854,705 )     (3,857,568 )
Comprehensive loss
  $ (986,019 )   $ (4,228,774 )   $ (1,566,500 )   $ (6,101,118 )
                                 
Net loss per share:
                               
Basic
  $ (0.01 )   $ (0.12 )   $ (0.02 )   $ (0.08 )
Diluted
  $ (0.01 )   $ (0.12 )   $ (0.02 )   $ (0.08 )
Weighted average number of shares outstanding
                               
Basic
    34,447,142       26,525,259       33,041,760       26,416,217  
Diluted
    34,447,142       26,525,259       33,041,760       26,416,217  

See accompanying notes to these unaudited consolidated financial statements.
 
Page 4

 
NETSOL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
   
For the Six Months
 
    
Ended December 31,
 
   
2009
   
2008
 
Cash flows from operating activities:
           
Net income (loss)
  $ (711,795 )   $ (2,175,798 )
Adjustments to reconcile net loss to net cash provided by operating activities:
               
Depreciation and amortization
    2,002,157       2,058,796  
Loss on transaction of debt
    19,582       -  
Loss on sale of assets
    89,101       180,698  
Provision for bad debts
    212,840       648,470  
Non controlling interest in subsidiary
    2,137,892       1,661,823  
Stock issued for accrued interest on convertible notes
    27,825       -  
Stock issued for services
    300,329       159,867  
Fair market value of warrants and stock options granted
    651,018       89,700  
Beneficial conversion feature
    893,214       -  
Changes in operating assets and liabilities:
               
Increase/ decrease in accounts receivable
    237,431       (3,563,977 )
Increase/ decrease in other current assets
    (1,632,327 )     1,344,525  
Increase/ decrease in accounts payable and accrued expenses
    147,556       106,229  
Net cash provided by operating activities
    4,374,822       510,333  
Cash flows from investing activities:
               
Purchases of property and equipment
    (1,085,787 )     (1,551,217 )
Sales of property and equipment
    227,773       40,900  
Payments of acquisition payable
    -       (742,989 )
Purchase of treasury stock
    -       (360,328 )
Short-term investments held for sale
    -       (105,040 )
Increase in intangible assets
    (3,118,094 )     (3,023,777 )
Net cash used in investing activities
    (3,976,108 )     (5,742,451 )
Cash flows from financing activities:
               
Proceeds from sale of common stock
    514,539       150,000  
Proceeds from the exercise of stock options and warrants
    33,750       520,569  
Purchase of subsidary stock in Pakistan
    -       (250,000 )
Proceeds from convertible notes payable
    2,000,000       5,849,306  
Redemption of preferred stock
    (1,920,000 )     -  
Restricted cash
    -       (5,000,000 )
Dividend Paid
    (44,090 )     -  
Bank overdraft
    (221,382 )     130,436  
Proceeds from bank loans
    2,727,657       3,618,590  
Payments on bank loans
    (352,887 )     (138,975 )
Payments on capital lease obligations & loans - net
    (2,183,189 )     (259,048 )
Net cash provided by financing activities
    554,399       4,620,878  
Effect of exchange rate changes in cash
    (145,201 )     (247,696 )
Net increase (decrease) in cash and cash equivalents
    807,912       (858,936 )
Cash and cash equivalents, beginning of year
    4,403,762       6,275,238  
Cash and cash equivalents, end of year
  $ 5,211,674     $ 5,416,302  

See accompanying notes to the unaudited consolidated financial statements.
 
Page 5

 
NETSOL TECHNOLOGIES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(UNAUDITED)
   
For the Six Months
 
    
Ended December 31,
 
   
2009
   
2008
 
SUPPLEMENTAL DISCLOSURES:
           
Cash paid during the period for:
           
Interest
  $ 357,400     $ 477,738  
Taxes
  $ 95,111     $ 4,800  
                 
NON-CASH INVESTING AND FINANCING ACTIVITIES:
               
Stock issued for the payment of dividends to Preferred Shareholders
  $ -     $ 33,876  
Bonus stock dividend issued by subsidiary to minority holders
  $ -     $ 615,549  
Stock issued for the conversion of Notes Payable
  $ 1,200,000     $ -  
Purchase of property and equipment under capital lease
  $ 101,376     $ 1,260,710  
 
See accompanying notes to the unaudited consolidated financial statements.
 
Page 6

 
NETSOL TECHNOLOGIES, INC. AND SUBSIDIARIES
 
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
 
NOTE 1 - BASIS OF PRESENTATION AND PRINCIPLES OF CONSOLIDATION
 
The Company designs, develops, markets, and exports proprietary software products to customers in the automobile finance and leasing, banking, healthcare, and financial services industries worldwide.  The Company also provides system integration, consulting, IT products and services in exchange for fees from customers.
 
The consolidated condensed interim financial statements included herein have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission.  Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures are adequate to make the information presented not misleading.
 
These statements reflect all adjustments, consisting of normal recurring adjustments, which, in the opinion of management, are necessary for fair presentation of the information contained therein.  It is suggested that these consolidated condensed financial statements be read in conjunction with the financial statements and notes thereto included in the Company’s annual report on Form 10-K for the year ended June 30, 2009.  The Company follows the same accounting policies in preparation of interim reports.  Results of operations for the interim periods are not indicative of annual results.
 
The accompanying consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries, NetSol Technologies North America, Inc. (“NTNA”), NetSol Technologies Limited (“NetSol UK”), NetSol-Abraxas Australia Pty Ltd. (“Abraxas”), NetSol Technologies Europe Limited (“NTE”), and its majority-owned subsidiaries, NetSol Technologies, Ltd.(“NetSol PK”), NetSol Connect (Pvt), Ltd. (“Connect”), NetSol-Innovations (Pvt) Limited (“EI”), and NetSol Omni (Private) Limited (“Omni”).  All material inter-company accounts have been eliminated in the consolidation.
 
For comparative purposes, prior year’s consolidated financial statements have been reclassified to conform to report classifications of the current year.
 
NOTE 2 - USE OF ESTIMATES
 
The preparation of financial statements in conformity with generally accepted accounting principles in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.  Actual results could differ from those estimates.
 
NOTE 3 - NEW ACCOUNTING PRONOUNCEMENTS
 
In March 2008, the FASB issued FASB Statement No. 161 “Disclosures about Derivative Instruments and Hedging Activities” (ASC 815). The new standard is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity’s financial position, financial performance, and cash flows. It is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The new standard also improves transparency about the location and amounts of derivative instruments in an entity’s financial statements; how derivative instruments and related hedged items are accounted for under Statement 133, as amended (ASC 815); and, how derivative instruments and related hedged items affect its financial position, financial performance, and cash flows. FASB Statement No. 161(ASC 815) achieves these improvements by requiring disclosure of the fair values of derivative instruments and their gains and losses in a tabular format. It also provides more information about an entity’s liquidity by requiring disclosure of derivative features that are credit risk–related. Finally, it requires cross-referencing within footnotes to enable financial statement users to locate important information. The adoption of SFAS 161 (ASC 815) did not impact the Company’s financial statements.

In May 2008, FASB issued SFASB No.162, “The Hierarchy of Generally Accepted Accounting Principles”. The pronouncement mandates the GAAP hierarchy reside in the accounting literature as opposed to the audit literature. This has the practical impact of elevating FASB Statements of Financial Accounting Concepts in the GAAP hierarchy. This pronouncement will become effective 60 days following SEC approval. The adoption of this pronouncement did not impact the Company’s financial statements.
 
 
Page 7

 

In May 2008, FASB issued SFASB No. 163 (ASC 944) “Accounting for Financial Guarantee Insurance Contracts-an interpretation of FASB Statement No. 60”. The scope of the statement is limited to financial guarantee insurance (and reinsurance) contracts. The pronouncement is effective for fiscal years beginning after December 31, 2008. The adoption of this pronouncement did not impact the Company’s financial statements.
 
EITF Issue No. 07-5(ASC 815) “Determining Whether an Instrument (or embedded Feature) is Indexed to an Entity’s Own Stock” (EITF 07-5) was issued in June 2008 to clarify how to determine whether certain instruments or features were indexed to an entity’s own stock under EITF Issue No. 01-6(ASC 815), “The Meaning of “Indexed to a Company’s Own Stock” (EITF 01-6) (ASC 815). EITF 07-5(ASC 815) applies to any freestanding financial instrument (or embedded feature) that has all of the characteristics of a derivative as defined in FAS 133, for purposes of determining whether that instrument (or embedded feature) qualifies for the first part of the paragraph 11(a) scope exception. It is also applicable to any freestanding financial instrument (e.g., gross physically settled warrants) that is potentially settled in an entity's own stock, regardless of whether it has all of the characteristics of a derivative as defined in FAS 133, for purposes of determining whether to apply EITF 00-19(ASC 815). EITF 07-5(ASC 815) does not apply to share-based payment awards within the scope of FAS 123(R), Share-Based Payment (FAS 123(R) (ASC 718)). However, an equity-linked financial instrument issued to investors to establish a market-based measure of the fair value of employee stock options is not within the scope of FAS 123(R) and therefore is subject to EITF 07-5(ASC 815). The guidance is applicable to existing instruments and is effective for financial statements issued for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. The adoption of this pronouncement did not impact the company’s financial statements.

On January 12, 2009, FASB issued FSP EITF 99-20-01 (ASC 325), “Amendment to the Impairment Guidance of EITF Issue No. 99-20”. This FSP amends the impairment guidance in EITF Issue No. 99-20 (ASC 325), “Recognition of Interest Income and Impairment on Purchased Beneficial Interests and Beneficial Interests That Continue to be Held by a Transferor in Securitized Financial Assets,” to achieve more consistent determination of whether an other-than-temporary impairment has occurred. The FSP also retains and emphasizes the objective of an other-than-temporary impairment assessment and the related disclosure requirements in FASB Statement No. 115 (ASC 320), “Accounting for Certain Investments in Debt and Equity Securities”, and other related guidance. The FSP is shall be effective for interim and annual reporting periods ending after December 15, 2008, and shall be applied prospectively.  Retrospective application to a prior interim or annual reporting period is not permitted. The adoption of this pronouncement did not impact the Company’s financial statements.

In October 2009, the FASB issued guidance on revenue recognition that will become effective for the Company beginning July 1, 2010, with earlier adoption permitted. Under the new guidance on arrangements that include software elements, tangible products that have software components that are essential to the functionality of the tangible product will no longer be within the scope of the software revenue recognition guidance, and software-enabled products will now be subject to other relevant revenue recognition guidance. Additionally, the FASB issued guidance on revenue arrangements with multiple deliverables that are outside the scope of the software revenue recognition guidance. Under the new guidance, when vendor specific objective evidence or third party evidence for deliverables in an arrangement cannot be determined, a best estimate of the selling price is required to separate deliverables and allocate arrangement consideration using the relative selling price method. The new guidance includes new disclosure requirements on how the application of the relative selling price method affects the timing and amount of revenue recognition. We believe adoption of this new guidance will not have a material impact on our financial statements.
 
NOTE 4 – EARNINGS/(LOSS) PER SHARE
 
“Earnings per share” is calculated in accordance with the Statement of Financial Accounting Standards No. 128 (SFAS No. 128)(ASC 260), “Earnings per share”.  Basic net income per share is based upon the weighted average number of common shares outstanding. Diluted net income per share is based on the assumption that all dilutive convertible shares and stock options were converted or exercised.  Dilution is computed by applying the treasury stock method.  Under this method, options and warrants are assumed to be exercised at the beginning of the period (or at the time of issuance, if later), and as if funds obtained thereby were used to purchase common stock at the average market price during the period.
 
 
Page 8

 

The following is a reconciliation of the numerators and denominators of the basic and diluted loss per share computations:

For the six months ended December 31, 2009
 
Net Loss
   
Shares
   
Per Share
 
Basic (loss) per share:
  $ (711,795 )     33,041,760     $ (0.02 )
Dividend to preferred shareholders
    -                  
Net income available to common shareholders
                       
Effect of dilutive securities*
                       
Stock options
            -          
Warrants
            -          
Diluted (loss) per share
  $ (711,795 )     33,041,760     $ (0.02 )

For the six months ended December 31, 2008
 
Net Loss
   
Shares
   
Per Share
 
Basic (loss) per share:
  $ (2,243,550 )     26,416,217     $ (0.08 )
Dividend to preferred shareholders
    67,752                  
Net income available to common shareholders
                       
Effect of dilutive securities*
                       
Stock options
            -          
Warrants
            -          
Convertible Preferred Shares
            -          
Diluted (loss) per share
  $ (2,175,798 )     26,416,217     $ (0.08 )

* As there is a loss, these securities are anti-dilutive.  The basic and diluted earnings per share is the same for the six months ended December 31, 2009 and 2008

NOTE 5 – OTHER COMPREHENSIVE INCOME & FOREIGN CURRENCY
 
SFAS 130 (ASC 220) requires unrealized gains and losses on the Company’s available for sale securities, currency translation adjustments, and minimum pension liability, which prior to adoption were reported separately in stockholders’ equity, to be included in other comprehensive income.  The accounts of NetSol UK and NTE use the British Pound; NetSol PK, Connect, Omni, and EI use Pakistan Rupees; and Abraxas uses the Australian Dollar as the functional currencies.  NetSol Technologies, Inc., and subsidiary, NTNA, use the U.S. Dollar as the functional currency.  Assets and liabilities are translated at the exchange rate on the balance sheet date, and operating results are translated at the average exchange rate throughout the period.   Accumulated translation losses are classified as an item of accumulated other comprehensive loss in the stockholders’ equity section of the consolidated balance sheet were $7,754,102 and $6,899,397 as of December 31, 2009, and June 30, 2009, respectively. During the six months ended December 31, 2009 and 2008, comprehensive loss in the consolidated statements of operations included translation loss of $854,705 and 3,857,568, respectively.
 
NOTE 6 - OTHER CURRENT ASSETS
 
Other current assets consist of the following:
 
   
As of December 31
   
As of June 30
 
    
2009
   
2009
 
   
(Unaudited)
   
 
 
             
Prepaid Expenses
  $ 392,787     $ 316,437  
Advance Income Tax
    363,348       262,703  
Employee Advances
    62,181       18,698  
Security Deposits
    121,118       173,095  
Advance Rent
    -       261,993  
Tender Money Receivable
    96,531       294,211  
Other Receivables
    625,676       527,959  
Other Assets
    312,408       452,150  
Total
  $ 1,974,048     $ 2,307,246  

 
Page 9

 

NOTE 7 - PROPERTY AND EQUIPMENT

Property and equipment, net, consist of the following:
   
As of December 31
   
As of June 30
 
    
2009
   
2009
 
    
(Unaudited)
   
 
 
             
Office furniture and equipment
  $ 1,013,699     $ 1,069,156  
Computer equipment
    6,899,810       6,975,575  
Assets under capital leases
    2,136,326       2,058,075  
Building
    2,374,714       2,446,564  
Land
    1,107,312       1,466,601  
Capital work in progress
    1,737,578       756,945  
Autos
    301,407       308,925  
Improvements
    166,788       170,973  
Subtotal
    15,737,636       15,252,814  
Accumulated depreciation
    (6,674,133 )     (6,066,651 )
    $ 9,063,503     $ 9,186,163  

For the six months ended December 31, 2009 and 2008, fixed asset depreciation expense totaled $742,864 and $818,449, respectively.  Of these amounts, $520,981 and $554,223, respectively, are reflected as part of cost of goods sold.

NetSol PK has been enhancing its facilities and infrastructure as necessary to meet the Company’s expected long-term growth needs.  The balance in capital work-in-progress for December 31, 2009 and June 30, 2009, was $1,737,578 and $756,945, respectively. During the half year ended December 31, 2009, the Company has capitalized $62,909 in capital work in progress being the borrowing cost incurred on the project. The capital work in progress of  $1,737,578 consists of $807,876 against an advance for acquisition of land in NetSol PK.

Assets acquired under capital leases were $2,136,326 and $2,058,075 as of December 31, 2009 and June 30, 2009, respectively.  Accumulated amortization related to those leases was $622,603 and $443,992 for the six month periods ended December 31, 2009 and June 30, 2009, respectively.
 
NOTE 8 - INTANGIBLE ASSETS
 
Intangible assets consist of product licenses, renewals, enhancements, copyrights, trademarks, trade names, customer lists and goodwill.  The Company evaluates intangible assets, goodwill and other long-lived assets for impairment, at least on an annual basis and whenever events or changes in circumstances indicate that the carrying value may not be recoverable from its estimated future cash flows.  Recoverability of intangible assets, other long-lived assets and, goodwill is measured by comparing their net book value to the related projected undiscounted cash flows from these assets, considering a number of factors including past operating results, budgets, economic projections, market trends and product development cycles. If the net book value of the asset exceeds the related undiscounted cash flows, the asset is considered impaired, and a second test is performed to measure the amount of impairment loss.  Potential impairment of goodwill has been evaluated in accordance with SFAS No. 142 (ASC 350).
 
As part of intangible assets, the Company capitalizes certain computer software development costs in accordance with SFAS No. 86 (ASC 985), “Accounting for the Costs of Computer Software to be Sold, Leased, or Otherwise Marketed.”  Costs incurred internally to create a computer software product or to develop an enhancement to an existing product are charged to expense when incurred as research and development expense until technological feasibility for the respective product is established.  Thereafter, all software development costs are capitalized and reported at the lower of unamortized cost or net realizable value.  Capitalization ceases when the product or enhancement is available for general release to customers.
 
The Company makes on-going evaluations of the recoverability of its capitalized software projects by comparing the amount capitalized for each product to the estimated net realizable value of the product.  If such evaluations indicate that the unamortized software development costs exceed the net realizable value, the Company writes off the amount by which the unamortized software development costs exceed net realizable value.  Capitalized and purchased computer software development costs are being amortized ratably based on the projected revenue associated with the related software or on a straight-line basis over three years, whichever method results in a higher level of amortization.
 
 
Page 10

 
 
Product licenses and customer lists were comprised of the following:
 
   
Product Licenses
   
Customer Lists
   
Total
 
Intangible assets - June 30, 2008 - cost
  $ 18,992,284     $ 5,451,094     $ 24,443,378  
Additions
    6,050,047       352,963       6,403,010  
Effect of translation adjustment
    (1,880,317 )     -       (1,880,317 )
Accumulated amortization
    (9,359,407 )     (4,460,038 )     (13,819,445 )
Net balance - June 30, 2009 (Audited)
  $ 13,802,607     $ 1,344,019     $ 15,146,626  
                         
Intangible assets - June 30, 2009 - cost
  $ 25,042,331     $ 5,804,057     $ 30,846,388  
Additions
    3,141,924       -       3,141,924  
Effect of translation adjustment
    (2,313,200 )     -       (2,313,200 )
Accumulated amortization
    (10,191,408 )     (4,842,656 )     (15,034,064 )
Net balance - December 31, 2009 (Un-audited)
  $ 15,679,647     $ 961,401     $ 16,641,048  
                         
Amortization expense for:
                       
Half year ended December 31, 2009
  $ 876,674     $ 382,618     $ 1,259,292  
Half year ended December 31, 2008
  $ 881,260     $ 359,087     $ 1,240,347  
 
The above amortization expense includes amounts in “Costs of Goods Sold” for capitalized software development costs of $550,796 and $529,531 for the half years ended December 31, 2009 and 2008, respectively.

At December 31, 2009 and 2008, product licenses, renewals, enhancements, copyrights, trademarks, and trade names, included unamortized software development and enhancement costs of $11,609,401 and $9,953,579, respectively, as the development and enhancement is yet to be completed.
 
Amortization expense of intangible assets over the next five years for those which are fully developed and are being amortized is as follows:
 
   
FOR THE PERIOD ENDING
       
Asset
 
12/31/10
   
12/31/11
   
12/31/12
   
12/31/13
   
12/31/14
   
TOTAL
 
Product Licences
  $ 1,357,597     $ 880,265     $ 844,172     $ 758,787     $ 331,774     $ 4,172,594  
Customer Lists
    765,236       196,165       -       -       -       961,401  
                                                 
    $ 2,122,833     $ 1,076,430     $ 844,172     $ 758,787     $ 331,774     $ 5,133,995  

NOTE 9 – OTHER ASSETS – LONG TERM

During the fiscal year ended June 30, 2009, our North American operations moved its location from Burlingame to Emeryville. As part of the lease agreement, the Company was required to pay two months of rental payments as a security deposit valued at $155,880. The security deposit was utilized by the landlord against non-payment of rent by the Company. The deposit was not replenished and accordingly, there was no security deposit balance as on December 31, 2009.
 
 
Page 11

 

NOTE 10 - ACCOUNTS PAYABLE AND ACCRUED EXPENSES

Accounts payable and accrued expenses consist of the following:

   
As of December 31
   
As of June 30
 
   
2009
   
2009
 
   
(Unaudited)
   
 
 
             
Accounts Payable
  $ 1,428,561     $ 1,654,974  
Accrued Liabilities
    2,602,364       1,757,282  
Accrued Payroll
    1,678       8,152  
Accrued Payroll Taxes
    414,089       487,180  
Interest Payable
    642,690       985,911  
Deferred Revenues
    10,895       16,388  
Taxes Payable
    143,897       196,379  
Total
  $ 5,244,176     $ 5,106,266  
 
NOTE 11 - DEBTS
 
A)  LOANS AND LEASES PAYABLE
 
Notes payable consist of the following:
 
   
As of December 31
   
Current
   
Long-Term
 
Name
 
2009
   
Maturities
   
Maturities
 
   
(Unaudited)
             
Habib Bank Line of Credit
  $ 5,508,188     $ 5,508,188     $ -  
Bank Overdraft Facility
    263       263       -  
HSBC Loan
    189,670       189,670       -  
Term Finance Facility
    1,193,275       223,739       969,536  
Subsidiary Capital Leases
    1,521,359       642,773       878,586  
Lease Abandonment Liability
    1,076,347       -       1,076,347  
    $ 9,489,102     $ 6,564,633     $ 2,924,469  

   
As of June 30
   
Current
   
Long-Term
 
Name
 
2009
   
Maturities
   
Maturities
 
   
 
             
D&O Insurance
  $ 31,288     $ 31,288     $ -  
E&O Insurance
    22,656       22,656       -  
Habib Bank Line of Credit
    4,966,597       4,966,597       -  
Bank Overdraft Facility
    229,883       229,883       -  
HSBC Loan
    330,667       292,542       38,125  
Term Finance Facility
    1,229,379       153,672       1,075,707  
Subsidiary Capital Leases
    1,602,093       511,192       1,090,901  
    $ 8,412,563     $ 6,207,830     $ 2,204,733  
 
In August 2007, the Company’s subsidiary, NetSol UK, entered into an agreement with HSBC Bank whereby the line of credit outstanding of £500,000 or approximately $796,100 was converted into a loan payable with a maturity of three years.  The interest rate is 7.5% with monthly payments of £15,558 or approximately $24,781. The Company has guaranteed payment of the loan in the event the subsidiary should default on it. During the year ended June 30, 2009, £155,585 or approximately $307,384 was paid on the principal of this note and £27,784 or approximately $52,310 was paid in interest.  The loan outstanding, as of June 30, 2009, was £200,162 or $330,667; of this amount, $292,542 was classified as current maturities, and $38,125 as long-term debt. During the six month period ended December 31, 2009, £81,082, or approximately $129,147, was paid on the principal of this note and £6,469 or approximately $10,592 was paid in interest. The loan outstanding, as of December 31, 2009, was £119,080, or $189,670, which is classified as current maturities.
 
 
Page 12

 

In January 2009, the Company renewed its directors’ and officers’ (“D&O”) liability insurance for which the annual premium is $122,654.  The Company arranged financing with AIICO Inc. with a down payment of $30,828 with the balance to be paid in nine monthly installments of $10,475 each.  The balance owing as of June 30, 2009 and December 31, 2009 was $31,288 and $NIL.
 
In January 2009, the Company purchased an Errors and Omissions (“E&O”) liability insurance for an annual premium of $90,372.  The Company arranged financing with AFCO Credit Corporation with a down payment of $22,323 with the balance to be paid in nine monthly installments of $7,728 each.  The balance owing as of June 30, 2009 and December 31, 2009 was $22,656 and $NIL.
 
In April 2008, the Company entered into an agreement with Habib American Bank to secure a line of credit to be collateralized by Certificates of Deposit held at the bank.  Fiscal year end June 30, 2008 balance was $1,501,998.  During the year ended June 30, 2009, $3,683,769 was drawn down on this line of credit and $414,167 was repaid.  The interest rate on this account is variable and was 4.571% at June 30, 2009.  Interest paid during the year ended June 30, 2009 was $194,988 and the balance was $4,966,597. During the six months ended December 31, 2009, the Company increased the line of credit and an additional $2,727,657 was drawn down and $2,186,066 was repaid and $92,733 of interest was paid.  The interest rate, as of December 31, 2009, was 3.23% and the balance was $5,508,188.
 
During the year ended June 30, 2008, the Company’s subsidiary, NTE, entered into an overdraft facility with HSBC Bank plc whereby the bank would cover any overdrafts up to £200,000.  The interest rate is 3.25% per year over the Bank’s sterling Base Rate, which is 5%, for an effective rate of 8.25%. As of June 30, 2009, the subsidiary had used £139,154 or approximately $229,883.  During the six months ended December 31, 2009, the subsidiary’s balance was £165 or approximately $263.
 
The Company’s Pakistan based subsidiary, NetSol PK, availed itself of a term finance facility from Askari Bank to finance the construction of a new building. The total amount of the facility is Rs. 200,000,000 or approximately $2,398,369 (secured by the first of Rs. 580 million over the land, building and equipment of the company).  The interest rate is 3% above the six months Karachi Inter Bank Offering Rate.  As on June 30, 2009, the subsidiary has used Rs. 100,000,000 or approximately $1,229,379 of which $1,075,707 was shown as long term liabilities and the remainder of $153,672 as current maturity.  As of the six months ended December 31, 2009, the Company has used Rs. 100,000,000 or approximately $1,193,275 of which $969,536 is shown as long term liabilities and the remainder of $223,739 as current maturity.
 
In 2008, the Company’s North American subsidiary, NTNA, had acquired an office space in Emeryville on a long term lease. However, due to the unprecedented recession in the year 2009, the company decided to cut it costs and vacated the Emeryville office in October 2009 by terminating the lease. According to the requirements of SFAS 146 (ASC 420), the company accounted for lease abandonment charge of $1,076,347 in the quarter ended December 31, 2009.
 
Fair Value Measurements

ASC Topic 820, “Fair Value Measurements and Disclosures,” requires disclosure of the fair value of certain instruments held by the Company. ASC Topic 820 et. seq., defines fair value, and establishes a three-level valuation hierarchy for disclosures of fair value measurement that enhances disclosure requirements for fair value measures.  The three levels of valuation hierarchy are defined as follows:

· 
 Level 1 inputs to the valuation methodology are quoted prices for identical assets or liabilities in active markets.

· 
 Level 2 inputs to the valuation methodology include quoted prices for similar assets and liabilities in active markets, and inputs that are observable for the asset or liability, either directly or indirectly, for substantially the full term of the financial instrument.

· 
 Level 3 inputs to the valuation methodology are unobservable and significant to the fair value measurement.

The Company’s Lease Abandonment Liability is carried at fair value totaling $1,076,347 and zero as of December 31, 2009 and June 30, 2009, respectively.  The Company used Level 2 inputs for its valuation methodology for this liability, as their fair values were determined based on various assumptions.
 
    
Fair Value as of
December 31, 2009
  
Fair Value Measurements at December 31, 2009 Using Fair
Value Hierarchy
Liabilities
      
Level 1
 
Level 2
 
Level 3
                 
Lease Abandonment Liability
 
$
1,076,347
     
$
1,076,347
   
 
 
Page 13

 

CAPITAL LEASE OBLIGATIONS

The Company leases various fixed assets under capital lease arrangements expiring in various years through 2014.  The assets and liabilities under capital leases are recorded at the lower of the present value of the minimum lease payments or the fair value of the asset. The assets are depreciated over the lesser of their related lease terms or their estimated useful lives and are secured by the assets themselves. Depreciation of assets under capital leases is included in depreciation expense for the six months ended December 31, 2009 and 2008.

Following is the aggregate minimum future lease payments under capital leases as of December 31, 2009:

   
As of 
December 31, 
2009
   
As of 
June 30, 
2009
 
Minimum Lease Payments
           
            -  
Due FYE 12/31/10
  $ 703,130     $ 545,992  
Due FYE 12/31/11
    468,288       505,004  
Due FYE 12/31/12
    371,689       432,545  
Due FYE 12/31/13
    166,197       201,490  
Due FYE 12/31/14
    42,774       176,512  
Total Minimum Lease Payments
    1,752,078       1,861,543  
Interest Expense relating to future periods
    (230,718 )     (259,450 )
Present Value of minimum lease payments
    1,521,359       1,602,093  
Less:  Current portion
    (642,773 )     (511,192 )
Non-Current portion
  $ 878,586     $ 1,090,901  

Following is a summary of fixed assets held under capital leases:

   
As of December 31
   
As of June 30
 
    
2009
   
2009
 
    
(Unaudited)
   
 
 
             
Computer Equipment and Software
  $ 597,500     $ 607,394  
Furniture and Fixtures
    834,318       733,277  
Vehicles
    402,292       310,021  
Building Equipment
    302,216       407,383  
Total
    2,136,326       2,058,075  
Less:  Accumulated Depreciation
    (622,603 )     (443,992 )
Net
  $ 1,513,723     $ 1,614,083  
 
 
Page 14

 
 
B)  LOANS PAYABLE- BANK
 
The Company’s Pakistan subsidiary, NetSol PK, has a loan with a bank, secured by the first, amounting to Rs. 285.71 million, on the company’s current assets including stocks, receivables and book debts.  The note consists of the following:
 
For the six months ended December 31, 2009:
TYPE OF
 
MATURITY
 
INTEREST
   
BALANCE
 
LOAN
 
DATE
 
RATE
   
USD
 
                 
Export Refinance
 
Every 6 months
    7.50 %   $ 2,386,549  
                     
Total
                $ 2,386,549  
 
For the year ended June 30, 2009:
TYPE OF
 
MATURITY
 
INTEREST
   
BALANCE
 
LOAN
 
DATE
 
RATE
   
USD
 
                 
Export Refinance
 
Every 6 months
    7.50 %   $ 2,458,757  
                     
Total
              $ 2,458,757  

C)  OTHER PAYABLE – ACQUISITION

McCue Systems – (now NetSol Technologies North America Inc.)

As of December 31, 2009, Other Payable – Acquisition consists of total payments of $103,226 due to the shareholders of McCue Systems.
 
On June 30, 2006, the acquisition with McCue Systems, Inc. (“McCue”) closed.  As a result, the first installment consisting of $2,117,864 cash and 958,213 shares of the Company’s restricted common stock was recorded.  During the fiscal year ended June 30, 2007, $2,059,413 of the cash portion of was paid to the McCue shareholders and in July 2006 the stock was issued.  In June 2007, the second installment on the acquisition consisting of $903,955 in cash and 408,988 shares of the Company’s restricted common stock became due and was recorded.  In July and August 2007, $879,007 of the cash was paid.  In June 2008, the third and final installment became due, consisting of $762,816 in cash and 345,131 shares of the Company’s restricted common stock.  The cash portion is shown as “Other Payable – Acquisition” and the stock portion is shown in “Shares to be issued” on these consolidated financial statements. The balance at June 30, 2008 was $846,215.  Of this amount, $104,452 represents the few remaining McCue shareholders who had not been located as of the date of this report.  In July 2008, 335,604 of the shares were issued and $741,763 in cash was paid in July and August 2008.  In addition, during the quarter 554 shares and $1,225 was paid to a former McCue shareholder who was not previously located.
 
 
Page 15

 
 
NOTE 12 – DIVIDEND PAYABLE
 
PREFERRED SHAREHOLDERS
 
The Company had issued Series A 7% Cumulative Convertible Preferred Stock under which dividends were payable (see Note 14).  The dividend is to be paid quarterly, either in cash or stock at the Company’s election.  On August 18, 2009, the Company redeemed all outstanding shares of Preferred Stock (1,920 shares).

NOTE 13 – CONVERTIBLE NOTE PAYABLE

On July 23, 2008, the Company entered into a Convertible Note with three investors with a total value of $6,000,000. The note matures in 3 years and has an interest rate of 7% per annum that is payable semi-annually. The note can be converted into common shares at a conversion rate of $3.00 per share. The fair market value of the shares at the date of signing was $2.90; therefore, no beneficial conversion feature expense was recorded on the transaction. No warrants were issued in connection with this note. The Convertible Note contains full-ratchet anti-dilution protection.  However, despite this protection, at no time shall the Company issue shares as part of a conversion or other event contained in the Convertible Note where the resulting issuance would require issuance in violation of Nasdaq rules.

In January 2009, the Company entered into a waiver agreement (the “Waiver”) with holders of the Convertible Notes (the “Holders”) to modify the terms and conditions of the original note.  Under the Waiver, Holders waived their right to full-ratchet, anti-dilution protection as to strategic investors only for a period of 18 months from the date of the Waiver and permanently waived participation in future financings in consideration of a new conversion rate of $0.78 per common share and four equal quarterly cash installment payments from the Company of $250,000 each, beginning on January 2009.  Since this was an extinguishment of the existing contract, the Company accounted for beneficial conversion feature of $230,769 which is being amortized over the remaining life of the contract. The Company accrued $1,000,000 under the Waiver as loss on extinguishment of debt in the fiscal year ended June 30, 2009.

The Convertible Notes entered into by and between the Company and the Holders includes certain conditions.  Specifically, the Convertible Notes do not permit interest to be paid in shares of common stock if, at the time the interest is due the Equity Conditions, as defined therein, are not met, or there has been an Event of Default.  In such instances, the Company must make cash interest payments.  So long as the principal is due, the Company may not, without prior approval of 75% of the Holders, incur indebtedness senior to the Holders.  A failure to follow this covenant would result in an Event of Default.  If an Event of Default occurs and is continuing with respect to any of the Notes, the Holder may declare all of the then outstanding Principal amount of this note and all other notes held by the Holder, including any interest due thereon, to be due and payable immediately.  In the event of such acceleration, the Notes held by the Holder (plus all accrued and unpaid interest, if any) and (2) the product of (A) the highest closing price for the five (5) trading days immediately preceding the Holder’s acceleration and (B) the Conversion Ratio.  In either case, the Company shall pay interest on such amount in cash at the Default Rate to the Holder if such amount is not paid within 7 days of the Holder’s request.  The remedies under this Note shall be cumulative.  Failure to comply with the terms of the Note, the Purchase Agreement and the Investor Rights Agreement may result in an Event of Default hereunder.  These notes carry anti-dilution clauses and, due to issuance of $2,000,000 notes at a conversion price of $0.63 in August 2009, the conversion price of these notes was also adjusted downwards to $0.63 resulting in the additional beneficial conversion feature of $715,518. As of December 31, 2009, the total amount amortized for these notes was $235,137.

On August 14, 2009, one of the Holders of the Convertible Notes elected, pursuant to the terms therein to convert $200,000 worth of principal value of the notes into 317,460 shares of common stock.  This conversion reduced the total principal of the Convertible Notes to $5,800,000.  On October 12, 2009, three of the Holders of the Convertible Notes elected, pursuant to the terms therein to convert principal and interest due thereon into a total of 809,393 shares of common stock.  On December 21, 2009, one of the Holders of the Convertible Notes elected, pursuant to the terms therein, to convert principal and interest due thereon into a total of 822,077 shares of common stock.  This conversion reduced the total principal of the Convertible Notes to $4,800,000.

On August 11, 2009, the Company entered into Convertible Notes with a principal value of $2,000,000, bearing interest at 9% per annum and convertible in one year at an initial conversion price of $0.63 per share (the “2009 Convertible Notes”).  The Convertible Notes are with the same two accredited investors who were the remaining Series A 7% Cumulative Convertible Preferred Stockholders.  The proceeds of the 2009 Convertible Notes were used exclusively for the redemption of the Series A 7% Cumulative Convertible Preferred Stockholders. The Company accounted for a beneficial conversion feature of $1,428,571 which will be amortized over the life of the contract. As on December 31, 2009, the total amount amortized for these notes was $559,687. Both of these convertible notes are recorded as net of unamortized beneficial conversion feature of $1,441,368 at December 31, 2009. During the six month period ended December 31, 2009, interest was accrued in the amount of $418,975 on these Convertible Notes.
 
 
Page 16

 

NOTE 14 - STOCKHOLDERS’ EQUITY
 
EQUITY TRANSACTIONS
 
PREFERRED STOCK
 
On October 30, 2006, the convertible notes payable (see note 12) were converted into 5,500 shares of Series A 7% Cumulative Convertible Preferred Stock.  The preferred shares are valued at $1,000 per share or $5,500,000.  The preferred shares were convertible into common stock at a rate of $1.65 per common share.  The total shares of common stock that were issuable under these Series A Preferred Stock was 3,333,333.  On January 19, 2007, the Form S-3 statement to register the underlying common stock and related dividends became effective.  As of June 30, 2008 a total of 3,580 of the preferred shares had been converted into 2,169,694 shares of the Company’s common stock.  On August 18, 2009, the Company redeemed all outstanding shares of Preferred Stock (1,920 shares) of the Series A 7% Cumulative Convertible Preferred Stock. As of December 31, 2009, there were no shares of preferred stock outstanding.

PRIVATE PLACEMENTS

From April to July 11, 2009, the Company sold a total of 5,309,929 shares to unrelated employees under the Employee Stock Purchase Agreement approved by the Board on April 9, 2009. Pursuant to the terms of the Stock Purchase Agreement, only unregistered shares of stock were sold at a discount from the market price as of the board approval date of $0.20 per share.  The agreements were subsequently amended to adjust the issue price at the closing bid price on the date before the agreement is fully executed with each employee. To accomplish this, the employees who had already purchased the shares were given the option to either adjust the consideration by decreasing the number of shares purchased to match the adjusted issue price, or by paying more money.  As a result of the adjustment a total of $1,866,100 would be due based on the shareholders elected adjustment.

BUSINESS COMBINATIONS

On October 31, 2008, the Company entered into an agreement to purchase 100% of the member shares of Ciena Solutions, LLC, a California limited liability corporation.  Under the terms of the agreement, the Company paid a deposit of $350,000 to the two members for the purchase with the full purchase price to be determined based on the performance of the business unit over the next four years.  No assets or liabilities were acquired by the Company at the acquisition, excluding the rights to the existing contracts.  As the effects of this transaction are insignificant to the consolidated financial statements, no pro forma information has been provided. Ciena Solutions, LLC has been merged into NTNA.

The total purchase price is comprised of the Initial Consideration and the Deferred Consideration.  The Initial Consideration was Three Hundred Fifty Thousand Dollars ($350,000).  The Deferred Consideration is to be paid in four (4) annual installments, to be calculated based upon future earnings and certain other factors, however, that under no circumstances may the total number of  NetSol Shares issued to Sellers (including those shares issued as part of the Initial Consideration and those shares issued which would be considered aggregated with those issued pursuant to the purchase agreement according to NASDAQ rules) exceed 19% of the issued and outstanding shares of common stock of NetSol, less treasury shares, on the date of the Closing.  In the event NetSol is not permitted to issue as part of the Deferred Consideration, shares of common stock equal in value to 50% of the Deferred Consideration, NetSol may issue such amount as is permitted and the remainder in cash.  Each Fiscal Year shall be measured from July 1 to June 30 with Fiscal Year 1 being the period from July 1, 2008 to June 30, 2009.

Deferred Consideration is to be calculated as follows:

1)  
after the conclusion of fiscal year 1, the consideration will be comprised of 25% of the lesser of Ciena’s Earnings Before Interest, Tax, Depreciation and Amortization (“EBIDTA”) for Year 1 multiplied by 4.5 or the Gross Revenue of Ciena for Year 1 multiplied by .75 less those capitalized costs incurred by NetSol and/or its subsidiaries for the benefit of Ciena.  All numbers shall be based on audited Fiscal Year 1 financial statements.    Payments are to be made; a) 50% in restricted common stock of NetSol at the 30 day volume weighted average price (“VWAP”) in the 30 days preceding the end of Fiscal Year 1; and b) 50% in U.S. Dollars.
2)  
Consideration after the conclusion of the second full year of operations, July 1, 2009 to June 30, 2010 (“Fiscal Year 2”) will be comprised of 25% of the lesser of:  Ciena’s EBIDTA Year 2 multiplied by 4.5 or the Gross Revenue of Ciena for Fiscal Year 2 multiplied by .75 less those capitalized costs incurred by NetSol and/or its subsidiaries for the benefit of Ciena and less three hundred fifty thousand dollars ($350,000).  If the consideration is a negative number, that negative number shall carry-over to the pay-out for Fiscal Year 3.  All numbers shall be based on the audited Fiscal Year 2financial statements.  Payment  are to  be made; a) 50% shall be payable in restricted common stock of NetSol at the 30 day VWAP as of June 30, 2010, in accordance with the VWAP Calculation, and; b) 50% in U.S. Dollars.

 
Page 17

 

3)  
Consideration after the conclusion of the third full year of operations from July 1, 2010 to June 30, 2011 (“Fiscal Year 3”) will be comprised of 25% of the lesser of:  Ciena’s EBIDTA for Fiscal Year 3 multiplied by 4.5 or the Gross Revenue of Ciena for Year 3 multiplied by .75 less those capitalized costs incurred by NetSol and/or its subsidiaries for the benefit of Ciena and less any carry-over from Fiscal Year 2.  All numbers shall be based on the audited Fiscal Year 3 financial statements.  Payment will be made;  a)  50% shall be payable in restricted common stock of NetSol at the 30 day VWAP as of June 30, 2011 calculated in accordance with the VWAP Calculation, and; b) 50% in U.S. Dollars.
4)  
Consideration after the conclusion of the fourth full year of operations from July 1, 2011 to June 30, 2012 (“Fiscal Year 4”) will be comprised of 25% of the lesser of:  Ciena’s EBIDTA for Fiscal Year 4 multiplied by 4.5 or the Gross Revenue of Ciena for Year 4 multiplied by .75 less those capitalized costs incurred by NetSol and/or its subsidiaries for the benefit of Ciena and less any carry-over from Fiscal Years 2 and 3.  All numbers shall be based on the audited Fiscal Year 4 financial statements.  Payment will be made; a)  50% shall be payable in restricted common stock of NetSol at the 30 day VWAP as of June 30, 2011 calculated in accordance with the VWAP Calculation, and; b) 50% in U.S. Dollars.

SERVICES, ACCRUED EXPENSES, AND PAYABLES

In July 2009, a total of 20,000 shares of restricted common stock were issued for services rendered to the independent members of the Board of Directors as part of their board compensation.  The issuances were approved by both the compensation committee and the board of directors.  These shares were issued in reliance on exemptions from registration available under Regulation S and D of the Securities Act of 1933, as amended.

In August 2009, one of the holders of our $6 million convertible note converted $200,000 worth of principal from the note into 317,460 shares of common stock all according to the terms of the original note.

In August 2009, a total of 361,931 shares of restricted common stock were issued to 3 consultants in exchange for services to the Company. These shares were valued at the fair market value of $162,419, pursuant to ASC 505-50."

In August 2009, two employees were issued 12,500 shares each as required according to the terms of their employment agreements.  An additional 25,000 shares of restricted common stock was issued to another employee as part of his employment agreement with the Company.  Each employee is an accredited investor.    These shares were issued in reliance on an exemption from registration under Regulation D of the Securities Act of 1933, as amended.

In October, 2009, holders of a convertible note with the Company converted principal and interest of the note into 809,211 shares of common stock of the Company, consistent with the terms of the convertible note.

In October 2009, an employee of the Company received 25,000 shares of common stock as required according to the terms of his employment agreement.  This employee is an accredited investor.

 In November 2009, two employees were issued 12,500 shares each as required according to the terms of their employment agreements.  Each of these employees is an accredited investor.   An additional 14,000 shares of restricted common stock was issued to employees as a year-end bonus for services performed in 2009. Subsequent to the close of the quarter ended December 31, 2009, 500 shares of these bonus shares were canceled, resulting in a total issuance of 13,500 shares.  The shares were issued from the Company’s equity incentive plans.

In December 2009, 30,000 shares were issued to an accredited consultant in exchange for services rendered.

In December 2009, a holder of a convertible note with the Company converted principal and interest of the note into 822,077 shares of common stock of the Company, consistent with the terms of the convertible note.

STOCK SUBSCRIPTION RECEIVABLE

Stock subscription receivable represents stock options exercised and issued that the Company has not yet received the payment from the purchaser as they were in processing when the quarter ended.

The balance at June 30, 2009 was $842,619. During the six months ended December 31, 2009, $514,539 was collected and $2,019,850 of new receivables were issued. The balance at December 31, 2009 was $2,347,930.
 
Page 18


TREASURY STOCK

On March 24, 2008, the Company announced that it had authorized a stock repurchase program permitting the Company to repurchase up to 1,000,000 of its shares of common stock over the next 6 months. The shares are to be repurchased from time to time in open market transactions or privately negotiated transactions in the Company's discretion.  During the year ended June 30, 2008, the Company had repurchased a total of 13,600 shares on the open market valued at $25,486.  The balance as of June 30, 2008 was $35,681.  In September 2008, the stock repurchase plan was extended an additional 6 months.  During the year ended June 30, 2009, the Company purchased an additional 208,900 shares on the open market valued at $360,328.  The balance as of June 30, 2009 and December 31, 2009 was $396,008.  The stock repurchase plan expired on March 24, 2009.

COMMON STOCK PURCHASE WARRANTS AND OPTIONS

From time to time, the Company issues options and warrants as incentives to employees, officers and directors, as well as to non-employees. During the half year ended December 31, 2009, Company’s Pakistan based subsidiary, NetSol PK, also issued certain options to its employees.

Common stock purchase options and warrants consisted of the following:

OPTIONS:
       
Exercise
   
Aggregated
 
Issued by the Company
 
# shares
   
Price
   
Intrinsic Value
 
                   
Outstanding and exercisable, June 30, 2008
    6,072,425     $ 0.75 to $5.00     $ 1,717,608  
Granted
    2,351,500     $ 0.30 to $1.65          
Exercised
    (717,008 )   $ 0.30 to $2.50          
Expired
    -                  
Outstanding and exercisable, June 30, 2009
    7,706,917     $ 0.30 to $5.00     $ -  
Granted
    250,000     $ 0.75          
Exercised
    (250,000 )   $ 0.75          
Expired
    -                  
Outstanding and exercisable, December 31, 2009
    7,706,917     $ 0.30 to $5.00     $ 758,900  
                         
Issued by NetSol PK
                       
                         
Outstanding and exercisable, June 30, 2009
    -                  
Granted
    4,350,000     $ 0.20          
Exercised
    -                  
Expired
    -                  
Outstanding , December 31, 2009
    4,350,000     $ 0.20     $ 628,599  
                         
                         
WARRANTS:
                       
Outstanding and exercisable, June 30, 2008
    1,992,314     $ 1.65 to $3.70     $ 1,206,095  
Granted
    -                  
Exercised
    (51,515 )   $ 1.93          
Expired
    (163,182 )   $ 2.20 to $3.30          
Outstanding and exercisable, June 30, 2009
    1,777,617     $ 1.65 to $3.70     $ -  
Granted
    1,226,552     $ 0.63          
Exercised
    -                  
Expired
    (288,980 )   $ 3.30          
Outstanding and exercisable, December 31, 2009
    2,715,189     $ 0.63 to $3.70     $ 873,016  

 
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The following is a summary of the status of options and warrants outstanding at December 31, 2009:
 
Exercise Price
 
Number
Outstanding
and
Exercisable
   
Weighted
Average
Remaining
Contractual
Life
   
Weighted
Ave
Exericse
Price
 
OPTIONS:
                 
Issued by the Company
                 
$0.01 - $0.99
    1,806,000       8.97       0.65  
$1.00 - $1.99
    2,045,917       5.57       1.88  
$2.00 - $2.99
    3,055,000       5.28       2.69  
$3.00 - $5.00
    800,000       4.30       4.24  
                         
Totals
    7,706,917       6.12       2.16  
                         
Issued by NetSol PK
                     
 
$0.20
    4,350,000       9.45       0.20  
                         
WARRANTS:
                       
$1.00 - $1.99
    2,702,689       2.31       0.94  
$3.00 - $5.00
    12,500       1.75       3.70  
                         
Totals
    2,715,189       2.31       0.96  
 
OPTIONS
 
During the six months ended December 31, 2009, the Company granted 250,000 options to two employees with an exercise price of $0.75 per share and an expiration date of 1 year, vesting immediately. Using the Black Scholes method to value the options, the Company recorded $71,238 in compensation expense for these options in the accompanying consolidated financial statements.

The Black-Scholes option pricing model used the following assumptions:

Risk-free interest rate
 
1.56%
Expected life
 
1 year
Expected volatility
 
56%

During the six months ended December 31, 2009, NetSol PK granted 4,350,000 options to its core employees with an exercise price of $ 0.20 (PKR 16.42) per share and an expiration date of 10 years, out of which only 40% will be vested after the completion of the first year. Using the Black Scholes method to value the options, the Company recorded $12,780 in compensation expense for the half year for these options in the accompanying consolidated financial statements.

The Black-Scholes option pricing model used the following assumptions:

Risk-free interest rate
 
4.35%
Expected life
 
10 years
Expected volatility
 
64.82%

During the six months ended December 31, 2008, the Company granted 100,000 options to an employee with an exercise price of $1.65 per share and an expiration date of 3 months, vesting immediately. Using the Black-Scholes method to value the options, the Company recorded $89,700 in compensation expense for these options in the accompanying consolidated financial statements.

The Black-Scholes option pricing model used the following assumptions:

Risk-free interest rate
 
7.0%
Expected life
 
.25 years
Expected volatility
 
106%
 
 
Page 20

 

WARRANTS

Due to the full ratchet anti-dilution protection clauses of the warrant agreements, the Company is required to reduce the warrant exercise price of two warrant holders resulting in a corresponding increase in the number of shares of common stock underlying the warrants by 1,226,552 during the half year ended December 31, 2009.

NOTE 15 - SEGMENT AND GEOGRAPHIC AREAS

The Company has identified three global regions or segments for its products and services; North America, Europe, and Asia-Pacific.  Our reportable segments are business units located in different global regions.  Each business unit provides similar products and services; license fees for leasing and asset-based software, related maintenance fees, and implementation and IT consulting services.  Separate management of each segment is required because each business unit is subject to different operational issues and strategies due to their particular regional location.  We account for intercompany sales and expenses as if the sales or expenses were to third parties and eliminate them in the consolidation.  The following table presents a summary of operating information and certain balance sheet information for the six months ended December 31, 2009:

 
Page 21

 

   
2009
   
2008
 
Revenues from unaffiliated customers:
           
North America
  $ 3,192,642     $ 2,610,275  
Europe
    3,371,716       2,564,118  
Asia - Pacific
    10,577,523       9,397,583  
Consolidated
  $ 17,141,881     $ 14,571,976  
                 
Operating income (loss):
               
Corporate headquarters
  $ (2,395,926 )   $ (2,121,298 )
North America
    (538,810 )     (1,009,669 )
Europe
    1,047,738       (838,103 )
Asia - Pacific
    4,723,675       2,280,472  
Consolidated
  $ 2,836,677     $ (1,688,598 )
                 
Net income (loss) after taxes and before minority interest:
               
Corporate headquarters
  $ (3,816,443 )     (1,994,429 )
North America
    (584,832 )     (1,044,677 )
Europe
    1,001,041       (867,381 )
Asia - Pacific
    4,826,330       3,392,512  
Consolidated
  $ 1,426,096     $ (513,975 )
                 
Identifiable assets:
               
Corporate headquarters
  $ 17,135,602     $ 19,972,905  
North America
    2,887,026       3,276,457  
Europe
    4,194,899       5,121,325  
Asia - Pacific
    42,001,111       37,481,605  
Consolidated
  $ 66,218,638     $ 65,852,292  
                 
Depreciation and amortization:
               
Corporate headquarters
  $ 709,833     $ 713,019  
North America
    270,742       231,539  
Europe
    301,025       339,127  
Asia - Pacific
    720,556       775,111  
Consolidated
  $ 2,002,156     $ 2,058,796  
                 
Capital expenditures:
               
Corporate headquarters
  $ -     $ 1,019  
North America
    10,712       337,731  
Europe
    16,892       49,587  
Asia - Pacific
    1,058,183       1,162,880  
Consolidated
  $ 1,085,787     $ 1,551,217  

Net revenues by our various products and services provided are as follows:

   
For the Six Months
 
   
Ended December 31,
 
   
2009
   
2008
 
             
Licensing Fees
  $ 5,870,529     $ 3,177,787  
Maintenance Fees
    3,588,053       3,107,027  
Services
    7,683,299       8,287,162  
Total
  $ 17,141,881     $ 14,571,976  

 
Page 22

 
 
NOTE 16 – NON-CONTROLLING INTEREST
 
The Company had non-controlling interests in several of its subsidiaries.  The balances of the non-controlling interests are as follows:

SUBSIDIARY
 
Non-Controlling
Interest balance as at
December 31, 2009
   
Non-Controlling
Interest balance as at
June 30, 2009
 
             
NetSol PK
  $ 6,755,417     $ 5,128,185  
EI
    1,330,940       1,235,805  
Connect
    9,372       19,320  
                 
Total
  $ 8,095,729     $ 6,383,310  

NetSol PK

In August 2005, the Company’s then wholly-owned subsidiary, NetSol PK became listed on the Karachi Stock Exchange in Pakistan.  The Initial Public Offering (“IPO”) sold 9,982,000 shares of the subsidiary to the public thus reducing the Company’s ownership by 28.13%.  During the quarter ended September 30, 2007, the Company was notified by an affiliate party that they had sold their shares; therefore, the adjusted minority ownership was increased to 37.21%.  Net proceeds of the IPO were $4,890,224.  As a result of the IPO, the Company is required to show the non-controlling interest of the subsidiary on the accompanying consolidated financial statements.

For the six months ended December 31, 2009 and 2008, the subsidiary had net income of $4,734,953 and 3,500,223, of which $1,990,574 and $1,446,292 respectively, was recorded against the non-controlling interest.  The balance of the non-controlling interest at December 31, 2009 was $6,755,417.

On May 18 2007, the subsidiary’s board of directors authorized a 15% stock bonus dividend to all its stockholders as of that date.  The net value of shares issued to minority holders was $345,415. On October 19, 2007, the subsidiary’s board of directors authorized a 22% stock bonus dividend to all its stockholders as of that date.  The net value of shares issued to minority holders was $545,359. On April 11, 2008, the subsidiary’s board of directors authorized a 20% stock bonus dividend to all its stockholders as of that date.  The net value of shares issued to minority holders was $615,335.

In February 2008, the Company sold 948,100 shares of its ownership in NetSol PK on the open market with a value of $1,765,615.   A net gain of $1,240,808 was recorded as “Other Income” on these consolidated financial statements.  As a result of the sale, the Company’s ownership in the subsidiary decreased from 62.79% to 58.68% and the non-controlling interest percentage increased to 41.32%.

In April, 2009, NetSol PK issued 6,223,209 ordinary shares to the Company against settlement of loan amounting to $1,879,672 provided by the Company.

In May/June 2009, the Company sold 3,132,255 shares of its ownership in NetSol PK in the open market with a value of $558,536. A net gain of $351,522 was recorded as “Other Income” on these consolidated financial statements.  As a result of the sale, the Company’s ownership in the subsidiary decreased from 58.68% to 57.96% and the non-controlling interest percentage increased to 42.04%.

 
Page 23

 

EI (formerly known as NetSol-TiG):