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**UNITED STATES**

**SECURITIES AND EXCHANGECOMMISSION**

**Washington, D.C. 20549**

 

**FORM 10-Q**

 

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

 

**For the Quarterly Period ended June 30,2008**

 

**OR**

 

**o****        ****TRANSITION REPORTPURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF1934**

 

**For the transition period from              to               .**

 

**Commission File No. ****001-33601**

 

**GlobalSCAPE, Inc.**

(Exact name of registrant as specified in itscharter)

 

| **Delaware**                             | ** ** | **74-2785449**      |
|------------------------------------------|------------|---------------------|
| (State or other  jurisdiction of         |       | (I.R.S. Employer    |
| incorporation or  organization)          |       | Identification No.) |
|                                     |       |                |
| **4500  Lockhill-Selma, Suite 150** | ** ** | ** **          |
| **San  Antonio, Texas**                  | ** ** | **78249**           |
| (Address of Principal                    |       | (Zip Code)          |
| Executive Office)                        |       |                |

 

**(210)308-8267**

(Registrant’s Telephone Number, Including AreaCode)

 

Indicate by check markwhether the registrant (1) has filed all reports required to be filed by Section 13or 15(d) of the Securities Exchange Act of 1934 during the preceding 12months (or for such shorter period that the registrant was required to filesuch reports), and (2) has been subject to such filing requirements forthe past 90 days.

 

x Yes    o No

 

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

 
| Large  accelerated filer o | Accelerated  filer o | Non-accelerated  filer o                      | Smaller  reporting company x |
|----------------------------|----------------------|-----------------------------------------------|------------------------------|
|                       |                 | (Do  not mark if a smaller reporting company) |

 

Indicate by check mark if theregistrant is a shell company (as defined in Rule 12b-2 of the Act).

 

o Yes    x No

 

As of  June 30, 2008, there were 17,210,704shares of common stock outstanding.

 

 

 

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**GlobalSCAPE Inc.**

** **

**Quarterly Report on Form 10-Q**

**For the Quarter ended June 30, 2008**

** **

**Index**

** **
|              | **Page**                                                                                    |
|-------------------|---------------------------------------------------------------------------------------------|
|              |                                                                                        |
| **Part I.**       | **Financial Information**                                                                   | **1** |
|              |                                                                                        |   |
| Item 1.           | Financial Statements                                                                        | 1 |
|              | Consolidated  Balance Sheets                                                                | 1 |
|              | Consolidated  Statements of Operations                                                      | 2 |
|              | Consolidated  Statements of Cash Flows                                                      | 3 |
|              | Notes to Consolidated Financial Statements                                                  | 4 |
|              |                                                                                        |   |
| Item 2.           | Management’s  Discussion and Analysis of Financial Condition and Results of Operations | 12 |
|              |                                                                                        |   |
| Item 3.           | Quantitative  and Qualitative Disclosures About Market Risk                                 | 22 |
|              |                                                                                        |   |
| Item 4T.          | Controls and  Procedures                                                                    | 22 |
|              |                                                                                        |   |
| **Part II.** | **Other Information**                                                                       | **24** |
|              |                                                                                        |   |
| Item 1.           | Legal Proceedings                                                                           | 24 |
|              |                                                                                        |   |
| Item 1A           | Risk Factors                                                                                | 24 |
|              |                                                                                        |   |
| Item 2.           | Unregistered  Sales of Equity Securities and Use of Proceeds                                | 24 |
|              |                                                                                        |   |
| Item 4.           | Submission  of Matters to a Vote of Security Holders                                        | 24 |
|              |                                                                                        |   |
| Item 6.           | Exhibits                                                                                    | 25 |
|              |                                                                                        |   |
| Signatures        |                                                                                        | 25 |

 

GlobalSCAPE®, CuteFTPPro®, CuteZIP® and CuteMAP® are registered trademarks of GlobalSCAPE Texas,LP.  CuteFTP, CuteHTML, GlobalSCAPESecure FTP Server, GlobalSCAPE Transfer Engine, ContentXML, and Enhanced FileTransfer Server are trademarks of GlobalSCAPE Texas, LP.  Other trademarks and tradenames in thisquarterly report are the property of their respective owners.

 

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**Part I. Financial Information**

**Item1.Financial Statements**

**GlobalSCAPE, Inc.**

**Consolidated Balance Sheets**

 
| ** **                                                                                                                                                           | ** ** | **December 31,** | ** ** | **June 30,** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------|------------|-------------------|------------|
| ** **                                                                                                                                                           | ** ** | **2007**              | ** ** | **2008**          | ** ** |
| ** **                                                                                                                                                           | ** ** | **(Restated)**        | ** ** | **(Unaudited)**   | ** ** |
| **Assets**                                                                                                                                                           |       |                  |       |              |       |
| Current assets:                                                                                                                                                      |       |                  |       |              |       |
| Cash and cash  equivalents                                                                                                                                           |       | $                     | 5,214,479  |              | $          | 5,000,955 |   |
| Accounts  receivable (net of allowance for doubtful accounts of $113,201 and $174,805  on December 31, 2007 and June 30, 2008, respectively)                         |       | 2,232,927             |       | 1,958,473         |       |
| Federal income  tax receivable                                                                                                                                       |       | 940,327               |       | 914,626           |       |
| Prepaid expenses                                                                                                                                                     |       | 87,654                |       | 70,134            |       |
| Total current  assets                                                                                                                                                |       | 8,475,387             |       | 7,944,188         |       |
|                                                                                                                                                                 |       |                  |       |              |       |
| Fixed assets,  net                                                                                                                                                   |       | 262,745               |       | 1,433,520         |       |
| Intangible  assets, net                                                                                                                                              |       | 5,071,640             |       | 4,802,917         |       |
| Goodwill                                                                                                                                                             |       | 6,392,075             |       | 6,392,075         |       |
| Deferred tax  asset                                                                                                                                                  |       | 80,044                |       | 183,775           |       |
| Other assets                                                                                                                                                         |       | 79,967                |       | 52,652            |       |
|                                                                                                                                                                 |       |                  |       |              |       |
| Total assets                                                                                                                                                         |       | $                     | 20,361,858 |              | $          | 20,809,127 |   |
|                                                                                                                                                                 |       |                  |       |              |       |
| **Liabilities  and Stockholders’ Equity**                                                                                                                       |       |                  |       |              |       |
| Current  liabilities:                                                                                                                                                |       |                  |       |              |       |
| Accounts payable                                                                                                                                                     |       | $                     | 329,817    |              | $          | 555,742 |   |
| Accrued expenses                                                                                                                                                     |       | 742,946               |       | 725,424           |       |
| Deferred revenue                                                                                                                                                     |       | 2,329,117             |       | 2,574,070         |       |
| Deferred  compensation                                                                                                                                               |       | —                |       | 165,395           |       |
| Total current  liabilities                                                                                                                                           |       | 3,401,880             |       | 4,020,631         |       |
|                                                                                                                                                                 |       |                  |       |              |       |
| Long-term  liabilities, net of current portion                                                                                                                       |       | 119,711               |       | —            |       |
| Deferred Tax  Liability                                                                                                                                              |       | 1,750,637             |       | 1,645,190         |       |
|                                                                                                                                                                 |       |                  |       |              |       |
| Commitments and  contingencies                                                                                                                                       |       | —                |       | —            |       |
|                                                                                                                                                                 |       |                  |       |              |       |
| Stockholders’  equity:                                                                                                                                          |       |                  |       |              |       |
| Preferred stock,  par value $0.001 per share, 10,000,000 authorized, no shares issued or  outstanding                                                                |       | —                |       | —            |       |
| Common stock,  par value $0.001 per share, 40,000,000 authorized, 17,432,352 and 17,210,704  shares outstanding at December 31, 2007 and june 30, 2008, respectively |       | 17,432                |       | 17,210            |       |
| Treasury Stock,  159,873 and 403,581 shares at December 31, 2007 and June 30, 2008,  respectively                                                                    |       | (527,398              | )          | (1,465,337        | )          |
| Additional  paid-in capital                                                                                                                                          |       | 8,764,300             |       | 9,311,884         |       |
| Retained  earnings                                                                                                                                                   |       | 6,835,296             |       | 7,279,549         |       |
| Total  stockholders’ equity                                                                                                                                     |       | 15,089,630            |       | 15,143,306        |       |
| Total  liabilities and stockholders’ equity                                                                                                                     |       | $                     | 20,361,858 |              | $          | 20,809,127 |   |

 

Seeaccompanying notes.

 

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**GlobalSCAPE, Inc.**

**CondensedConsolidated Statement of Operations**

(Unaudited)

 
| ** **                                                              | ** ** | **Three months ended June 30,** | ** ** | **Six months ended June 30,** | ** ** |
|-------------------------------------------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                                              | ** ** | **2007**                                            | ** ** | **2008**                                          | ** ** | **2007** | ** ** | **2008** | ** ** |
|                                                                    |       |                                                |       |                                              |       |   |   |   |   |
| Operating  Revenues:                                                    |       |                                                |       |                                              |       |   |   |   |   |
| Software product  revenues                                              |       | $                                                   | 5,557,388  |                                              | $          | 3,010,929 |   | $ | 8,504,210 |   | $ | 5,899,992 |   |
| Maintenance and  support (net of deferred revenues)                     |       | 860,637                                             |       | 1,202,137                                         |       | 1,536,962 |   | 2,368,893 |   |
| Total Revenues                                                          |       | 6,418,025                                           |       | 4,213,066                                         |       | 10,041,172 |   | 8,268,885 |   |
|                                                                    |       |                                                |       |                                              |       |   |   |   |   |
| Operating  Expenses:                                                    |       |                                                |       |                                              |       |   |   |   |   |
| Cost of revenues  depreciation and amortization shown seperately below) |       | 60,230                                              |       | 45,170                                            |       | 119,170 |   | 75,176 |   |
| Selling, general  and administrative expenses                           |       | 2,587,435                                           |       | 2,032,355                                         |       | 4,921,719 |   | 5,654,564 |   |
| Research and  development expenses                                      |       | 551,211                                             |       | 1,426,318                                         |       | 988,961 |   | 1,329,207 |   |
| Depreciation and  amortization                                          |       | 34,843                                              |       | 184,626                                           |       | 66,429 |   | 358,645 |   |
| Total operating  expenses                                               |       | 3,233,719                                           |       | 3,688,469                                         |       | 6,096,279 |   | 7,417,592 |   |
| Income from  operations                                                 |       | 3,184,306                                           |       | 524,597                                           |       | 3,944,893 |   | 851,293 |   |
| Other income  (expense)                                                 |       | 9,743                                               |       | 22,726                                            |       | (16,815 | ) | 53,036 |   |
| Income before  income taxes                                             |       | 3,194,049                                           |       | 547,323                                           |       | 3,928,078 |   | 904,329 |   |
| Provision for  income taxes                                             |       | 1,079,173                                           |       | 255,004                                           |       | 1,339,986 |   | 460,076 |   |
| Net Income                                                              |       | $                                                   | 2,114,876  |                                              | $          | 292,319 |   | $ | 2,588,092 |   | $ | 444,253 |   |
|                                                                    |       |                                                |       |                                              |       |   |   |   |   |
| Net income per  common share - basic                                    |       | $                                                   | 0.12       |                                              | $          | 0.02 |   | $ | 0.15 |   | $ | 0.03 |   |
| Net income per  common share - assuming dilution                        |       | $                                                   | 0.12       |                                              | $          | 0.02 |   | $ | 0.14 |   | $ | 0.02 |   |
| Average shares  outstanding:                                            |       |                                                |       |                                              |       |   |   |   |   |
| Basic                                                                   |       | 17,226,066                                          |       | 17,195,802                                        |       | 17,204,922 |   | 17,258,901 |   |
| Diluted                                                                 |       | 18,061,782                                          |       | 17,804,464                                        |       | 18,036,354 |   | 17,901,229 |   |

 
| See accompanying  notes. |   |   |   |   |   |   |   |   |   |
|--------------------------|--------|--------|--------|--------|--------|--------|--------|--------|--------|

 

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**GlobalSCAPE, Inc.**

**Condensed Consolidated Statements ofCash Flows**

(Unaudited)

 
| ** **                                                                         | ** ** | **For the six months ended June 30,** | ** ** |
|------------------------------------------------------------------------------------|------------|---------------------------------------------------------------------|------------|
| ** **                                                                         | ** ** | **2007**                                                            | ** ** | **2008** | ** ** |
| Operating  Activities:                                                             |       |                                                                |       |   |   |
| Net income                                                                         |       | $                                                                   | 2,588,092  |   | $ | 444,253 |   |
| Adjustments to  reconcile net income to net cash provided by operating activities: |       |                                                                |       |   |   |
| Bad debt expense                                                                   |       | (11,215                                                             | )          | 113,354 |   |
| Depreciation and  amortization                                                     |       | 66,429                                                              |       | 358,645 |   |
| Amortization of  deferred loan costs                                               |       | 36,345                                                              |       | — |   |
| (Gain) loss on  disposition of assets                                              |       | —                                                              |       | (1,676 | ) |
| Stock-based  compensation                                                          |       | 435,858                                                             |       | 538,986 |   |
| Stock issued for  goods                                                            |       | —                                                              |       | 40,200 |   |
| Deferred taxes                                                                     |       | (178,107                                                            | )          | (209,178 | ) |
| Changes in  operating assets and liabilities:                                      |       |                                                                |       |   |   |
| Accounts  receivable                                                               |       | (367,243                                                            | )          | 161,100 |   |
| Prepaid expenses                                                                   |       | 40,811                                                              |       | 43,221 |   |
| Other assets                                                                       |       | —                                                              |       | 27,315 |   |
| Accounts payable                                                                   |       | (63,521                                                             | )          | 225,925 |   |
| Accrued expenses                                                                   |       | 607,475                                                             |       | (17,522 | ) |
| Federal income  tax payable                                                        |       | 886,966                                                             |       | — |   |
| Deferred  revenues                                                                 |       | 564,595                                                             |       | 244,953 |   |
| Deferred  compensation                                                             |       | 26,437                                                              |       | 45,684 |   |
| Other long-term  liabilities                                                       |       | (5,937                                                              | )          | — |   |
| Net cash  provided by operating activities                                         |       | 4,626,985                                                           |       | 2,015,260 |   |
| Investing  Activities:                                                             |       |                                                                |       |   |   |
| Proceeds from  sale of property and equipment                                      |       | —                                                              |       | 1,676 |   |
| Purchase of  property and equipment                                                |       | (101,572                                                            | )          | (1,260,697 | ) |
| Net cash used in  investing activities                                             |       | (101,572                                                            | )          | (1,259,021 | ) |
| Financing  Activities:                                                             |       |                                                                |       |   |   |
| Loan payments                                                                      |       | (4,610,212                                                          | )          | — |   |
| Proceeds from  exercise of stock options                                           |       | 329,702                                                             |       | 8,620 |   |
| Purchase of  treasury stock                                                        |       | (379,733                                                            | )          | (978,383 | ) |
| Net cash used in  financing activities                                             |       | (4,660,243                                                          | )          | (969,763 | ) |
| Net increase  (decrease) in cash                                                   |       | $                                                                   | (134,830   | ) | $ | (213,524 | ) |
| Cash at  beginning of period                                                       |       | 4,632,666                                                           |       | 5,214,479 |   |
| Cash at end of  period                                                             |       | $                                                                   | 4,497,836  |   | $ | 5,000,955 |   |
|                                                                               |       |                                                                |       |   |   |
| Supplemental  disclosure of cash flow information:                                 |       |                                                                |       |   |   |
| Cash paid during  the year for:                                                    |       |                                                                |       |   |   |
| Interest                                                                           |       | $                                                                   | 31,151     |   | $ | 1,683 |   |
| Income taxes  paid                                                                 |       | $                                                                   | 565,000    |   | $ | 710,500 |   |
|                                                                               |       |                                                                |       |   |   |
| Noncash - Income  tax receivable due to ISO’s                                 |       | $                                                                   | —     |   | $ | 782,680 |   |

 

Seeaccompanying notes.

 

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**GlobalSCAPE, Inc.**

** **

**Notes to Consolidated Financial Statements**

** **

**1.****                                     Natureof Business**

 

GlobalSCAPE, Inc. (“GlobalSCAPE” or the “Company”),founded in April 1996, develops and distributes secure managed file transfer,or MFT, software for individuals and business users to safely send files overthe internet. We have also developed Wide-Area File System, or WAFS,collaboration and Continuous Data Protection, or CDP, software which furtherenhance the ability to share and backup files within the infrastructure of acompany’s wide and local area networks, or WAN and LAN at WAN and LANspeeds.  Our MFT products ensure theprivacy of critical information such as financial data, medical records,customer files and other similar documents. In addition, these products ensure compliance with governmentregulations relating to the protection of information while allowing users toreduce IT costs, increase efficiency, track and audit transactions and automateprocesses.  Our WAFS and CDP productsprovide data replication, acceleration of file transfer, sharing/collaborationand continuous data backup and recovery to our customers.  We believe that we are uniquely positioned toprovide secure transfer, sharing, and replication of files that need to betransmitted inside the user’s firewall to distributed offices, or outside theuser’s firewall to business and trading partners.

 

During the six months ended June 30,2008, approximately 64% of our revenues were generated from customers withinthe United States, with the remaining 36% concentrated mostly in WesternEurope, Canada and Australia. During the six months ended June 30, 2008virtually all of our revenues were derived from sales of software licenses andsupport agreements. The combined sales of CuteFTP Home and CuteFTP Proaccounted for 18% of our revenues for the first six months of 2007 and 19% ofour revenues for the same period of 2008. The combined sales of our SecureFTP Server and Enhanced File Transferproducts represented69% and 66% of our revenues for the six months ended June 30, 2007 and2008, respectively.  The combined salesof WAFS and CDP products for the six months ended June 30, 2007 and2008  represented 15% and 16% of thetotal, respectively.

 

***2.***                                      Corporate Structure

*** ***

Priorto September 22, 2006, all of the Company’s operations were conducted byGlobalSCAPE Texas, LP, a Texas limited partnership.  The partners of GlobalSCAPE Texas, LP weretwo Nevada limited liability companies, which were both wholly-ownedsubsidiaries of GlobalSCAPE, Inc., a Delaware corporation.

 

OnSeptember 22, 2006, GlobalSCAPE acquired one hundred percent (100%) of theissued and outstanding capital stock of Availl,Inc. a privately held corporationbased in Andover, Mass, pursuant to an Agreement and Plan of Merger with Availland its stockholders.  Availl operated asa wholly-owned subsidiary of GlobalSCAPE, Inc. through the end of 2007.

 

Availl, Inc.and all of the partnerships and limited liability companies mentioned abovewere either dissolved or effectively merged into GlobalSCAPE, Inc. on December 31,2007.  The stock of GlobalSCAPE, Inc.is quoted on the American Stock Exchange. References to “GlobalSCAPE” or the “Company”refer collectively to all of these entities unless otherwise indicated.

 

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# **3.**                                      Basis ofPresentation

# ** **

Theaccompanying unaudited consolidated financial statements have been prepared inaccordance with Rule 10-01 of Regulation S-X, “Interim FinancialStatements.”  Accordingly, they do notinclude all information and footnotes required under generally acceptedaccounting principles for complete consolidated financial statements.  In the opinion of management, all adjustments(consisting of normally recurring accruals) considered necessary for a fairpresentation have been made.  The resultsof operations for any interim period are not necessarily indicative of theresults to be expected for the full year.

 

The consolidated balance sheetat December 31, 2007 has been derived from the audited consolidatedfinancial statements at that date but does not include all the information andfootnotes required by generally accepted accounting principles for completeconsolidated financial statements.  Forfurther information, refer to the consolidated financial statements andfootnotes included in GlobalSCAPE’s Annual Report on Form 10-K for theyear ended December 31, 2007.

 

As discussed in Note 12 below, on August 15,2008, GlobalSCAPE and its Board of Directors, after consultation withGlobalSCAPE’s independent registered public accounting firm, concluded thatGlobalSCAPE would restate its financial statements and financial informationfor the year ended December 31, 2007 and the quarter ended March 31,2008.

 

# **4.**                                      Principles ofConsolidation

# ** **

The consolidated financialstatements include all subsidiaries.  Allinter-company transactions and balances have been eliminated.

 

**5.****                ****Adoption of New AccountingStandards**

 

In September 2006, the Financial AccountingStandards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”)No. 157, “Fair Value Measurements.”  The Statement defines fairvalue, establishes a framework for measuring fair value in generally acceptedaccounting principles and expands disclosure related to the use of fair valuemeasures in financial statements.  The provisions of SFAS No. 157were to be effective for fiscal years beginning after November 15,2007.  On February 6, 2008, the FASB agreed to defer theeffective date of SFAS No. 157 for one year for certain nonfinancialassets and nonfinancial liabilities, except those that are recognized ordisclosed at fair value in the financial statements on a recurring basis (atleast annually).  Effective January 1, 2008, the Company adoptedSFAS No. 157 except as it applies to those nonfinancial assets andnonfinancial liabilities.  The adoption of SFAS No. 157 did nothave any material impact on the Company’s results of operations or financialposition.

 

Effective January 1, 2008, the Company adoptedSFAS No. 159, “The Fair Value Option for Financial Assets and FinancialLiabilities – including an amendment of FASB Statement No. 115.”  SFASNo. 159 allows an entity the irrevocable option to elect fair value forthe initial and subsequent measurement of certain financial assets andliabilities under an instrument-by-instrument election.  Subsequentmeasurements for the financial assets and liabilities an entity elects to fairvalue will be recognized in the results of operations.  SFAS No. 159also establishes additional disclosure requirements.  The Company didnot elect the fair value option under SFAS No. 159 for any of itsfinancial assets or liabilities upon adoption.  The adoption of SFAS No. 159did not have a material impact on the Company’s results of operations orfinancial position.

 

**6.****                                      Reclassifications**

 

Certain prior period amounts have been reclassified toconform to the current period presentation. These reclassifications had noimpact on operating income as previously reported.

 

***7.***                                      Sale / Disposal of Assets

*** ***

***The Company hadno asset disposals in the first six months ending June 30, 2007. Duringthe six months ending June 30, 2008 the Company disposed of equipment withan original***

 

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***purchase price of $102,369 and accumulated depreciation of$102,369. GlobalSCAPE recognized a gain of $1,676 related to the disposal ofthese assets.***

*** ***

**8.****                                     ****Goodwill and Intangible Assets**

 

As of June 30, 2008, GlobalSCAPE hadgoodwill in the amount of $6.4 million associated with the acquisitionof Availl.  This acquisition wasaccounted for using the purchase method of accounting. See Acquisitions notefor a descriptionof the acquisition. In accordance with SFAS No. 142 *Goodwill andOther Intangible Assets*, the Company will assess the impairment ofgoodwill annually in the fourth quarter, or more frequently if other indicatorsof potential impairment arise.

 

The Companyobtained a valuation report of it’s acquisition of Availl, which determinedthat the acquisition included purchased software a customer list and a patent,which are a identifiable intangible assets. The purchased software had a marketvalue of approximately $5,000,000, the customer list of $180,000 and the patentof $26,000 and these amounts have been allocated to their respective assetsfrom Goodwill effective October 1, 2007. The assets are being amortizedusing the straight-line method over their estimated useful lives of 10 years, 5years, and 18 years for the software, customer list and patent, respectively.In 2007 the Company amortized $134,360 for the period between October 1,2007 and December 31, 2007. For the six months ended June 30, 2008the Company amortized $268,723.

 

Intangibleassets represent amounts acquired in the acquisition of Availl, and consistedof the following as of June 30, 2008:

 
| ** **                           | ** ** | **Gross Carrying** | ** ** | **Accumulated**  | ** ** | ** **            | ** ** |
|--------------------------------------|------------|-------------------------|------------|------------------|------------|-----------------------|------------|
| ** **                           | ** ** | **Amount**              | ** ** | **Amortization** | ** ** | **Life (Years)** | ** ** |
| **Amortized  intangible assets:**    |       |                    |       |             |       |                  |       |
| Software  acquired                   |       | $                       | 5,000,000  |             | $          | 375,003               |       | 10 |   |
| Customer list  acquired              |       | 180,000                 |       | 27,000           |       | 5                     |       |
| Patent acquired                      |       | 26,000                  |       | 1,080            |       | 18                    |       |
| Total                                |       | $                       | 5,206,000  |             | $          | 403,083               |       |   |   |
|                                 |       |                    |       |             |       |                  |       |
| Estimated  Amortization Expense      |       |                    |       |             |       |                  |       |
| For the six  months ended 12/31/2008 |       |                    |       | $                | 268,721    |                  |       |   |
| For Year-ended  12/31/2009           |       |                    |       | 537,444          |       |                  |       |
| For Year-ended  12/31/2010           |       |                    |       | 537,444          |       |                  |       |
| For Year-ended  12/31/2011           |       |                    |       | 537,444          |       |                  |       |
| For Year-ended  12/31/2012           |       |                    |       | 528,444          |       |                  |       |
| Thereafter                           |       |                    |       | 2,393,420        |       |                  |       |
| Total                                |       |                    |       | $                | 4,802,917  |                  |       |   |

 

Recent AccountingPronouncements

 

In December 2007,the FASB issued SFAS No. 141 (Revised 2007), Business Combinations-Revised2007. SFAS 141R provides guidance on improving the relevance, representationalfaithfulness, and comparability of information that a reporting entity providesin its financial reports about a business combination and its effects. SFAS141R applies to business combinations where the acquisition date is on or afterthe beginning of the first annual reporting period beginning on or after December 15,2008. GlobalSCAPE is in the process of analyzing the effects SFAS 141R willhave on the Company’s financial statements.

 

In April 2008, theFASB issued FSP 142-3, *Determination of theUseful Life of Intangible Assets*, which amends the factors that mustbe considered in developing renewal or 

 

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extension assumptionsused to determine the useful life over which to amortize the cost of arecognized intangible asset under SFAS No. 142. The FSP amends paragraph11(d) of SFAS No. 142 to require an entity to consider its ownassumptions about renewal or extension of the term of the arrangement,consistent with its expected use of the asset.

 

The FSP also requires thefollowing incremental disclosures for renewable intangible assets:

 

·                  Theweighted-average period prior to the next renewal or extension (whetherexplicit and implicit) for each major intangible asset class

 

·                  The entity’saccounting policy for the treatment of costs incurred to renew or extend theterm of a recognized intangible asset

 

·                  For intangibleasset renewed or extended during the period:

 

·                  Forentities that capitalize renewal or extension costs, the costs incurred toreview or extend the asset, for each major intangible asset class

 

·                  Theweighted-average period prior to the next renewal or extension (whetherexplicit and implicit) for each major intangible asset class

 

The FSP is effective forfinancial statements for fiscal years beginning after December 15, 2008.The guidance for determining the useful life of a recognized intangible assetmust be applied prospectively to intangible assets acquired after the effectivedate. Early adoption is prohibited. Accordingly, the FSP would not serve as abasis to change the useful life of an intangible asset that was acquired priorto the effective date (January 1, 2009 for a calendar year company).However, the incremental disclosure requirements described above would apply toall intangible assets, including those recognized in periods prior to theeffective date of the FSP. The Company is currently evaluating the impact thatthe adoption of this FSP will have on its consolidated financial statements.

 

# **9.**                                      Stock-BasedCompensation

# ** **

GlobalSCAPE has stock-based compensation plansavailable to grant incentive stock options, non-qualified stock options andrestricted stock to employees and non-employee members of the Board ofDirectors.

 

Under the GlobalSCAPE, Inc. 2000 Stock OptionPlan (the “Employees Plan”), which was approved by the Board of Directors andbecame effective on May 17, 2001, a maximum of 3,660,000 shares ofGlobalSCAPE common stock may be awarded. During the six months ended June 30, 2008, 267,500stock options were granted and at June 30, 2008, a total of 1,857,134stock options were outstanding of which 925,179 were vested.  The exercise price, term and otherconditions applicable to each stock option granted under the Employees Plan aredetermined by the Board of Directors. The exercise price of stock options isset on the grant date and may not be less than the fair market value per shareof our stock on that date. The Employees Plan options generally becomeexercisable over a three-year period and expire after ten years.

 

Under the GlobalSCAPE, Inc. 2006 Non-Employee Directors Long-term EquityIncentive Plan (the “Directors Plan”), which was approved by thestockholders and became effective on June 1, 2007, a maximum of 500,000shares of GlobalSCAPE common stock may be awarded. During the six months ended June 30,2008, 80,000 stock options had been granted and at June 30, 2008, a totalof 160,000 stock options were outstanding of which 80,000 were vested.  The exercise price, term and other conditionsapplicable to each stock option granted under the Directors Plan are determinedby the Compensation Committee of the Board of Directors. The exercise price ofstock options is set on the grant date and may not be less than the fair market

 

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value per share of our stock on that date. The mostrecently awarded Directors Plan options become exercisable over a one-yearperiod and expire after ten years. The Directors Plan provides that each year,at the first regular meeting of the Board of Directors following the Company’sannual stockholders meeting, each non-employee director shall be granted awardsof 20,000 shares of common stock for participation in the Board and Committeemeetings during the prior year.  Themaximum annual award for any one person is 20,000 shares of common stock.

 

The Company accounts for stock options according toStatement of Financial Accounting Standards No. 123 (revised 2004), “Share-BasedPayment” (SFAS No. 123R) which requires that compensation cost relating toshare-based payment transactions be recognized in the financial statements. Thecost is measured at the grant date, based on the calculated fair value of theaward, and is recognized as an expense over the employee’s requisite serviceperiod (generally the vesting period of the equity award).

 

There was $435,858 and $538,986 of compensation costrelated to incentive stock options recognized in operating results in the sixmonths ended June 30, 2007 and 2008, respectively.

 

The fair value of each option award is estimated onthe date of grant using the Black-Scholes option-pricing model. Expectedvolatility is based on historical volatility of GlobalSCAPE stock. We used thesimplified method to derive an expected term. The expected term represents anestimate of the time options are expected to remain outstanding. The risk-freerate for periods within the contractual life of the option is based on the U.S.treasury yield curve in effect at the time of grant. The following table setsforth the assumptions used to determine compensation cost for our non-qualifiedstock options consistent with the requirements of SFAS No. 123R:

 
| ** **                      | ** ** | **Six-months**              | ** ** | **Three-months**            | ** ** |
|---------------------------------|------------|-----------------------------|------------|-----------------------------|------------|
| ** **                      | ** ** | **ended**                   | ** ** | **ended**                   | ** ** |
| ** **                      | ** ** | **June 30, 2008** | ** ** | **June 30, 2008** | ** ** |
|                            |       |                        |       |                        |       |
| Expected  volatility            |       | 98.13                       | %          | 96.27                       | %          |
| Expected annual  dividend yield |       | 0.00                        | %          | 0.00                        | %          |
| Risk free rate  of return       |       | 2.92                        | %          | 2.79                        | %          |
| Expected option  term (years)   |       | 5.89                        |       | 5.53                        |       |

 

The following table summarizes information about stockoption activity for the six months ended June 30, 2008:

 
| ** **                             | ** ** | ** **         | ** ** | ** **           | ** ** | **Weighted**    | ** ** | ** **               | ** ** |
|----------------------------------------|------------|--------------------|------------|----------------------|------------|-----------------|------------|--------------------------|------------|
| ** **                             | ** ** | ** **         | ** ** | **Weighted**         | ** ** | **Average**     | ** ** | **Average**              | ** ** |
| ** **                             | ** ** | **Number of** | ** ** | **Average**          | ** ** | **Remaining**   | ** ** | **Intrinsic Value** | ** ** |
| ** **                             | ** ** | **Options**        | ** ** | **Share Price** | ** ** | **Contractual** | ** ** | **($M)**                 | ** ** |
| Outstanding at  December 31, 2007 |       | 1,734,528          |       | $                    | 1.94       |            | 7.64       |                     | $          | 6.17 |   |
| Granted                                |       | 347,500            |       | 3.45                 |       |            |       |                     |       |
| Exercised                              |       | (22,060            | )          | 0.39                 |       |            |       |                     |       |
| Lapsed or  canceled                    |       | (42,834            | )          | 2.77                 |       |            |       |                     |       |
| Outstanding at  June 30, 2008     |       | 2,017,134          |       | $                    | 2.17       |            | 7.52       |                     | $          | 4.28 |   |
|                                   |       |               |       |                 |       |            |       |                     |       |
| Exercisable at  June 30, 2008     |       | 1,005,179          |       | $                    | 1.11       |            | 6.59       |                     | $          | 0.69 |   |

 

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The weighted average fair value of options grantedduring the six months ended June 30, 2008 was $3.45. The total intrinsicvalue of options (which is the amount by which the stock price exceeded theexercise price of the options on the date of exercise) exercised during the sixmonths ended June 30, 2008 was approximately $84,112.  During the six months ended June 30,2008, the amount of cash received from the exercise of stock options was $8,620with no associated tax benefit.

 

The following table summarizes information aboutnon-vested stock option awards for the six month period ended June 30,2008:

 
| ** **                            | ** ** | ** **         | ** ** | **Weighted**                  | ** ** |
|---------------------------------------|------------|--------------------|------------|-------------------------------|------------|
| ** **                            | ** ** | **Number of** | ** ** | **Average Grant**        | ** ** |
| ** **                            | ** ** | **Options**        | ** ** | **Date Fair Value** | ** ** |
| Non-vested at  December 31, 2007 |       | 1,011,543          |       | $                             | 2.22       |   |
| Granted                               |       | 347,500            |       | $                             | 2.43       |   |
| Vested                                |       | (307,734           | )          | $                             | 1.31       |   |
| Forfeited                             |       | (39,354            | )          | $                             | 2.40       |   |
| Non-vested at  June 30, 2008     |       | 1,011,955          |       | $                             | 2.56       |   |

 

At June 30, 2008, there was $1.8 million of totalunrecognized compensation cost related to non-vested stock option awards whichis expected to be recognized over a weighted-average period of 2.8 years. Therewere 307,734 options that became vested during the six months ended June 30,2008.

 

**10.****                              ****Common Stock and Warrants**

 

On November 13, 2006, GlobalSCAPE entered into asecurities purchase agreement with accredited investors, who paid it anaggregate of $3.4 million in gross proceeds in consideration for 1,352,000shares of GlobalSCAPE common stock at a price of $2.50 per share.  The Company also granted warrants to purchase1,352,000 shares of its common stock to the investors with an exercise price of$3.15 per share, subject to certain adjustments. The exercise price will not,in any event, be adjusted to a price of less than $2.81 per share except in theevent of stock dividends, stock splits or similar events.  The warrants have a 5-year term and arecurrently exercisable.  As part of thistransaction, GlobalSCAPE filed a registration statement to register the resaleof these shares by the investors.  Theregistration statement was declared effective by the SEC on April 16, 2007and a post-effective amendment to the registration statement was declaredeffective on April 20, 2008.

 

**11.****                              ****Earningsper Common Share**

 

Basic anddiluted net income per common share is presented in conformity with Statementof Financial Accounting Standards No. 128, “Earnings Per Share” (SFAS 128)for all periods presented. Basic earnings per share is based on the weightedeffect of all common shares issued and outstanding, and is calculated bydividing net income (loss) available to common stockholders by the weightedaverage shares outstanding during the period. Diluted earnings per share iscalculated by dividing net income (loss) available to common stockholders bythe weighted average number of common shares used in the basic earnings pershare calculation plus the number of common shares that would be issuedassuming conversion of all potentially dilutive common shares outstanding.  Below is a reconciliation of the numeratorsand denominators of basic and diluted earnings per share for each of theperiods presented:

 

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| ** **                                              | ** ** | **Three months ended June 30,** | ** ** | **Six months ended June 30,** | ** ** |
|---------------------------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------------------------|------------|
| ** **                                              | ** ** | **2007**                                            | ** ** | **2008**                                          | ** ** | **2007** | ** ** | **2008** | ** ** |
| **Numerators**                                          |       |                                                |       |                                              |       |   |   |   |   |
| Numerators for  basic and diluted earnings per share:   |       |                                                |       |                                              |       |   |   |   |   |
| Net income                                              |       | $                                                   | 2,114,876  |                                              | $          | 292,319 |   | $ | 2,588,092 |   | $ | 444,253 |   |
|                                                    |       |                                                |       |                                              |       |   |   |   |   |
| **Denominators**                                        |       |                                                |       |                                              |       |   |   |   |   |
| Denominators for  basic and diluted earnings per share: |       |                                                |       |                                              |       |   |   |   |   |
| Weighted average  shares outstanding basic              |       | 17,226,066                                          |       | 17,195,802                                        |       | 17,204,922 |   | 17,258,901 |   |
|                                                    |       |                                                |       |                                              |       |   |   |   |   |
| **Dilutive  potential common shares**                   |       |                                                |       |                                              |       |   |   |   |   |
| Stock options  (1)                                      |       | 835,176                                             |       | 608,662                                           |       | 831,432 |   | 642,328 |   |
|                                                    |       |                                                |       |                                              |       |   |   |   |   |
| Common stock  warrants (2)                              |       | —                                              |       | —                                            |       | — |   | — |   |
|                                                    |       |                                                |       |                                              |       |   |   |   |   |
| Denominator for  dilutive earnings per share            |       | 18,061,782                                          |       | 17,804,464                                        |       | 18,036,354 |   | 17,901,229 |   |
| Net income per  common share                            |       | $                                                   | 0.12       |                                              | $          | 0.02 |   | $ | 0.15 |   | $ | 0.03 |   |
|                                                    |       |                                                |       |                                              |       |   |   |   |   |   |   |   |   |
| Net income per  common share – assuming dilution   |       | $                                                   | 0.12       |                                              | $          | 0.02 |   | $ | 0.14 |   | $ | 0.02 |   |

 

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(1)        Forthe three and six months ended June 30, 2007 445,000 options were notincluded as dilutive shares, as the effect would be anti-dilutive.  For the three months ended June 30, 20081,166,567 options were not included as dilutive shares, as the effect would beanti-dilutive.  For the six months ended June 30,2008, there were 1,041,567 options not included as dilutive shares, as theeffect would be anti-dilutive.

(2)        Forthe three and six months ended June 30, 2007 and June 30, 2008, nowarrants have been included in dilutive shares, as the effect would beanti-dilutive.

 

**Fair Value Measurements**

 

As described in “Adoptionof New Accounting Standards,” the Company adopted SFAS No. 157 effective January 1,2008.  SFAS 157 established a framework for measuring fair value inGAAP and clarified the definition of fair value within that framework. SFAS 157does not require assets and liabilities that were previously recorded at costto be recorded at fair value or for assets and liabilities that are alreadyrequired to be disclosed at fair value, SFAS 157 introduced, or reiterated, anumber of key concepts which form the foundation of the fair value measurementapproach to be used for financial reporting purposes. The fair value of theCompany’s financial instruments reflects the amounts that the Company estimatesto receive in connection with the sale of an asset or paid in connection withthe transfer of a liability in an orderly transaction between marketparticipants at the measurement date (exit price). SFAS 157 also established afair value hierarchy that prioritizes the use of inputs used in valuationtechniques into the following three levels:

 

Level 1—quotedprices in active markets for identical assets and liabilities.

 

Level 2—observableinputs other than quoted prices in active markets for identical assets andliabilities.

 

Level3—unobservable inputs.

 

The adoption ofFAS 157 did not have an effect on the Company’s financial condition or resultsof operations, but SFAS 157 introduced new disclosures about how we valuecertain assets and liabilities. Much of the disclosure is focused on the inputsused to measure fair value, particularly 

 

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in instances wherethe measurement uses significant unobservable (Level 3) inputs. As of June 30,2008, the Company did not have financial assets or liabilities that wouldrequire measurement on a recurring basis based on the guidance in SFAS 157. At June 30,2008 all financial assets consisted of cash and cash equivalents at financialinstitutions in the United States.

 

**12.****                               Restatement of Financial Statements**

 

The Company intends torestate its 2007 financial statements from the amounts previously reported bythe filing of an amended Annual Report on Form 10-K. The restatementsinclude adjustments (a) to record a deferred tax liability, (b) todecrease previously recorded deferred tax assets (c) adjust income taxesand (d) adjust additional paid in capital. Following is a summary of therestatement adjustments:

 
| ** **                                       | ** ** | **As**       | ** ** | ** **      | ** ** | **As**       | ** ** |
|--------------------------------------------------|------------|--------------|------------|-----------------|------------|--------------|------------|
| ** **                                       | ** ** | **Reported** | ** ** | **Adjustments** | ** ** | **Restated** | ** ** |
| 2007 Summary  Balance Sheet                      |       |         |       |            |       |         |       |
| Current Assets                                   |       | $            | 7,658,044  |            | 817,343    |         | $          | 8,475,387 |   |
| Property and  equipment (net)                    |       | 262,745      |       | —          |       | 262,745      |       |
| Intangible  assets, net                          |       | 5,071,640    |       | —          |       | 5,071,640    |       |
| Goodwill                                         |       | 4,595,755    |       | 1,796,320       |       | 6,392,075    |       |
| Deferred tax  asset                              |       | 440,632      |       | (360,588        | )          | 80,044       |       |
| Other assets                                     |       | 79,967       |       | —          |       | 79,967       |       |
| Total Assets                                     |       | $            | 18,108,783 |            | $          | 2,253,075    |       | $ | 20,361,858 |   |
|                                             |       |         |       |            |       |         |       |
| Current  Liabilities                             |       |         |       |            |       |         |       |
| Accounts payable                                 |       | $            | 329,817    |            | —     |         | $          | 329,817 |   |
| Accrued expenses                                 |       | 742,946      |       | —          |       | 742,946      |       |
| Deferred revenue                                 |       | 2,329,117    |       | —          |       | 2,329,117    |       |
| Total current  liabilities                       |       | 3,401,880    |       | —          |       | 3,401,880    |       |
| Long-term  liabilities                           |       | 119,711      |       | —          |       | 119,711      |       |
|                                             |       |         |       |            |       |         |       |
| Deferred tax  liability                          |       | —       |       | 1,750,637       |       | 1,750,637    |       |
| Stockholders’  equity                       |       |         |       |            |       |         |       |
| Preferred stock                                  |       | —       |       | —          |       | —       |       |
| Common stock                                     |       | 17,432       |       | —          |       | 17,432       |       |
| Treasury stock                                   |       | (527,398     | )          | —          |       | (527,398     | )          |
| Additional paid  in capital                      |       | 7,981,620    |       | 782,680         |       | 8,764,300    |       |
| Retained  earnings                               |       | 7,115,538    |       | (280,242        | )          | 6,835,296    |       |
| Total  liabilities and stockholders’ equity |       | $            | 18,108,783 |            | $          | 1,435,733    |       | $ | 20,361,858 |   |

 
| ** **                                                                            | ** ** | **As**       | ** ** | ** **      | ** ** | **As**       | ** ** |
|---------------------------------------------------------------------------------------|------------|--------------|------------|-----------------|------------|--------------|------------|
| ** **                                                                            | ** ** | **Reported** | ** ** | **Adjustments** | ** ** | **Restated** | ** ** |
| 2007 Summary  Consolidated Statement of Operations                                    |       |         |       |            |       |         |       |
| Software Product  Revenues                                                            |       | $            | 14,826,197 |            | $          | —       |       | $ | 14,826,197 |   |
| Maintenance and  support (net of deferred revenues)                                   |       | 3,534,144    |       | —          |       | 3,534,144    |       |
| Total Revenues                                                                        |       | 18,360,341   |       |            |       | 18,360,341   |       |
| Operating  expenses                                                                   |       |         |       |            |       |         |       |
| Cost of revenues  (exclusive of depreciation and amortization shown seperately below) |       | 250,439      |       | —          |       | 250,439      |       |
| Selling, general  and administrative expenses                                         |       | 10,049,430   |       | —          |       | 10,049,430   |       |
| Research and  development expenses                                                    |       | 1,919,253    |       | —          |       | 1,919,253    |       |
| Depreciation and  amortization                                                        |       | 279,573      |       | —          |       | 279,573      |       |
| Total operating  expenses                                                             |       | 12,498,695   |       |            |       | 12,498,695   |       |
| Income from  operations                                                               |       | 5,861,646    |       |            |       | 5,861,646    |       |
| Other income  (expense)                                                               |       | 63,549       |       | —          |       | 63,549       |       |
| Income before  income taxes                                                           |       | 5,925,195    |       |            |       | 5,925,195    |       |
| Income tax  provision                                                                 |       | 2,002,686    |       | 280,242         |       | 2,282,928    |       |
| Net Income                                                                            |       | $            | 3,922,509  |            | $          | (280,242     | )          | $ | 3,642,267 |   |
|                                                                                  |       |         |       |            |       |         |       |
| Basic per common  share                                                               |       | $            | 0.23       |            |       |         | $          | 0.21 |   |
| Diluted per  common share                                                             |       | $            | 0.21       |            |       |         | $          | 0.20 |   |

 

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# **Item 2.  Management’s Discussion and Analysis ofFinancial Condition and Results of Operations**

# ** **

This Quarterly Report on Form 10-Qcontains “forward-looking statements” within the meaning of Section 27A ofthe Securities Act of 1933, as amended, and Section 21E of the Securitiesand Exchange Act of 1934, as amended.  “Forwardlooking statements” are those statements that describe management’s beliefs andexpectations about the future.  We haveidentified forward-looking statements by using words such as “anticipate,” “believe,”“could,” “estimate,” “may,” “expect,” and “intend.”  Although we believe these expectations arereasonable, our operations involve a number of risks and uncertainties,including those described in the “Risk Factors” section of our Annual Report onForm 10-K as amended and other documents filed with the Securities andExchange Commission.  GlobalSCAPE’sactual results could differ materially from those discussed in anyforward-looking statements included in this Quarterly Report.

 

**Overview**

 

We develop and distributesecure managed file transfer, or MFT, software for individuals and businessusers to safely send files over the internet. We have also developed Wide-AreaFile System, or WAFS, collaboration and Continuous Data Protection or CDP,software which further enhance the ability to share and backup files within theinfrastructure of a company’s wide and local area networks, or WAN and LAN atWAN and LAN speeds.  Our MFT productsensure the privacy of critical information such as financial data, medicalrecords, customer files and other similar documents.  In addition, these products ensure compliancewith government regulations relating to the protection of information whileallowing users to reduce IT costs, increase efficiency, track and audittransactions and automate processes.  OurWAFS and CDP products provide data replication, acceleration of file transfer,sharing/collaboration and continuous data backup and recovery to ourcustomers.  We believe that we areuniquely positioned to provide secure transfer, sharing, and replication offiles that need to be transmitted inside the user’s firewall to distributedoffices, or outside the user’s firewall to business and trading partners.

 

The following is a briefdescription of our products:

 

·                  FileManagement Products – Our File Management products are best known for the “CuteFTP”product line. They primarily consist of products that help users securely moveand copy files on the internet. A substantial portion of our revenues arederived from licensing our File Management products. Some of our productsencrypt the transfers for security using technology similar to a Web browser.The products consist of three product categories: client, server andcompression transfer. Our File 

 

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Managementproduct line includes CuteFTP Home, Cute FTP Professional, SecureFTP Server,and Enhanced File Transfer.

 

·                  Wide-AreaFile System (WAFS) Products – Our WAFS products provide a file sharing andcollaboration solution over multiple sites. By keeping all data updated on each location’s file server, each sitehas instant access to the very latest version. Our WAFS products help ensure that no one can ever open an old fileversion without user conflicts. Changes made to data on any server are mirroredon all other servers.

 

·                  ContinuousData Protection (CDP) Products – Our CDP products consolidate remote backup forfile servers.  As files change, theservers backup in real time to the customer’s backup site which can be at thesame or a remote location.   The backupserver can keep any number of past versions of each file (and deleted files)which gives the customer immediate restore, as well as the ability to performpoint-in-time snapshots.

 

Webelieve that the future success of our business will be dependent upon ourability to improve our current products and to introduce new products, throughresearch and development, innovations by our employees, strategic partnerships,and acquisitions. We intend to continue enhancing our file transfer products tomeet the demands of both individual and enterprise users, while improving thesecurity features of our current product line, and to expand into growingmarkets through the acquisition of compatible companies and products andthrough strategic partnerships. For example, in 2007, we introduced upgrades toEFT 5.0,  CuteFTP 8.0, the Secure Ad HocTransfer module, and the HS-PCI module ensuring compliance with DSS In 2006, weacquired Availl, a leading provider of Wide-Area File System (WAFS)collaboration and continuous data protection (CDP) products as part of thisstrategy.  This acquisition expanded ourtechnology base into data replication, acceleration of file transfer,sharing/collaboration and continuous data backup and recovery.  We believe that these products have give usentry into two large and rapidly growing markets. Based upon estimates byGartner, Inc., and other consulting groups in our markets, we believe thatthe WAN optimization/WAFS market is currently $300 million annually and growingat 20% - 30% per year, and the CDP market is of similar size but in the earlystages of adoption and growing rapidly. In addition, we believe that the WAFS and CDP products are highlycomplementary to our traditional Secure File Transfer products facilitatingcross sales and new customer penetration. As described below, our WAFS/CDPrevenues have not increased as much as originally anticipated due to management’sdecision to delay the aggressive marketing of those products to our existingcustomer base and to the market in general as we had initially planned.  The amount of time required to makeimprovements to our WAFS and CDP products that we believe are necessary hasbeen greater than we had expected.

 

##### **Liquidityand Capital Resources**

##### ** **

The Companycontinues to enjoy a strong working capital position resulting from net profitsfrom operations over the last seventeen consecutive quarters, including thequarter ended June 30, 2008. ** **At June 30, 2008, currentassets of $7.9 less current liabilities of $4 yielded a net working capitalposition of $3.9 million. The primary component of current liabilities at June 30,2008 was $2.6 million of deferred revenues which will be recognized over theremaining term (generally one to twelve months) of the maintenance and supportcontracts.  At June 30, 2008, ourprincipal commitments consisted of obligations outstanding under operating leasesas well as royalty agreements with third parties, federal income tax and tradeaccounts payable.   The commitmentsrelated to royalty agreements are contingent on sales volumes.  We plan to continue to expend significantresources on product development in future periods and may also use our cash toacquire or license technology, products or businesses related to our currentbusiness.  We had cash available of $5.0million and we continue to generate cash in excess of our operational

 

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needs.  In addition, the Company has a $750,000 lineof credit with Silicon Valley Bank which is unused at this time. We relyheavily on cash flows from operations to fund our business.

 

Net cash usedin investing activities for the six months ended June 30, 2007 and 2008was $101,572 and $1,259,000, respectively. Cash used in investing activity for 2008 was primarily for the purchaseof computer equipment and software. Our capital requirements principally relateto our need to enhance our existing products and to develop new products, whichprimarily consist of research and development expenses and expenses for peopleand the elements that support their work. As had been expected, capitalexpenditures have been higher in the first six months of 2008 as a result ofthe company’s move to new office space. Primary components included $499,000 inlease hold Improvements, $255,000 in furniture & fixtures, and $12,000in equipment. In addition to the usual computer equipment and software of$116,000, expenditures of $151,000 and $125,000 were also made toward anInternal ERP System and new product development.

 

Our totalrevenues decreased by 18% in the six months ending June 30, 2008 whencompared to the same period in 2007. The principal drivers of our sales are theenterprise level server products for MFT, which are EFT Server and SecureFTPServer. These products accounted for 66% of our sales in the six months ending June 30,2008 . Prior to 2006, we were largely dependent upon sales of CuteFTP Home andCuteFTP Professional, which accounted for 51%****ofour revenue in the year ended December 31, 2005, and represented largerpercentages of sales in earlier years. The actual sales of these products haveremained relatively flat over the three years ended December 31, 2007while becoming an increasingly smaller portion of our total revenue. In thefirst six months of 2007 and 2008, sales of these products represented approximately18% and 19 % of our total revenues, respectively

 

 Since our principal sources of capital arecash on hand and cash flow from operations, to the extent that sales decline,our cash flow from operations will also decline.  If sales decline or if our liquidity isotherwise under duress, management may substantially reduce personnel andpersonnel-related costs, reduce or substantially eliminate capital expendituresand/or reduce or substantially eliminate research and development expenditures.We also have $750,000 of availability under our revolving line of credit and,if necessary, we may also sell equity securities or enter into other creditarrangements in order to finance future acquisitions or licensing activities.

 

Net cashprovided by operating activities for the six months ended June 30 2007 and2008 was $4,626,986 and $2,015,260, respectively.  Were it not for nonrecurrent revenues from asale to the U. S. Army of $2.8 million in 2007, 2008 cash provided by operatingactivites would have been slightly higher than that of 2007. Some of the majornon-cash items that were charged against net income over this period aredepreciation and amortization, stock-based compensation and deferred revenues.While these items are expensed according to Generally Accepted AccountingPrinciples, the cash impact from these charges has occurred or will occur inother accounting periods and the difference reflects a positive impact on cashin the Consolidated Statements of Cash Flows. The decrease in Accounts Receivablesduring this period and the Deferred Revenues during this period served topositively impact the cash from operations in those statements.

 

Our financing activities in theprior two years have primarily related to funding the acquisition of Availl. In2006, we used $7.6 million in cash to acquire Availl. The cash used to makethis acquisition came from a $5 million term loan from Silicon Valley Bank. Thecombination of cash generated from our operations and the stock offeringcompleted in November 2006 allowed repayment of $400,000 of the loan in2006 and $4.6 million in the six months ended June 30, 2007. We have alsosold stock through the exercise of employee stock options. We received cashfrom stock option exercises of $329,702 and $8,620 for the periods ended June 30,2007 and 2008, respectively. In the six month period ended June 30, 2008Treasury stock in the amount of $40,200, complemented with $25,000 of cash wasused in the purchase of new product code.

 

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Net cashprovided in financing activities during the six months ended June 30, 2007and 2008 were $4,660,243 and $969,763******respectively.In 2007, the decrease in cash from financing activities was primarily theresult of the payoff of the term loan with Silicon Valley Bank. In 2008, thedecrease resulted through the use of cash in the purchase of shares of ourcommon stock under our share purchase program.

 

In order tofinance the cash portion of the purchase price in the merger with Availl,GlobalSCAPE entered into a Loan and Security Agreement dated September 22,2006 with Silicon Valley Bank.  The LoanAgreement with Silicon Valley Bank provides for a $5.0 million term loan and a$750,000 revolving credit facility. We repaid the balance of the term loan on March 1,2007.  The entire amount of the revolvingcredit facility remains available. The borrowings under the revolving creditfacility bear interest at 1.00% above the Bank’s prime rate and matures on September 22,2008.  Interest payments are due on thefirst day of each calendar month. There have been no borrowings under therevolving credit facility.

 

The revolvingcredit facility is secured by substantially all of the assets ofGlobalSCAPE.  The Loan Agreement containscustomary covenants including covenants relating to maintaining legal existenceand good standing, complying with applicable laws, delivery of financialstatements, maintenance of inventory, payment of taxes, maintaining insurance,and protection of intellectual property rights. GlobalSCAPE is also prohibited from selling any of its assets other thanin the ordinary course of business, acquiring any other entities, changing thetypes of business they are engaged in, incurring indebtedness other than thatpermitted by the Loan Agreement, incurring any liens on their assets other thanthose permitted by the Loan Agreement, making certain investments or paying anydividends on, or acquiring, any shares of its capital stock.  The Loan Agreement contains two financialcovenants.  GlobalSCAPE and itssubsidiaries must maintain:

 

·                  a ratio of (A) EBITDA less thesum of (i) cash taxes paid and (ii) non-financed capital expenditures(excluding non-cash stock options and taxes already accrued), to (B) thesum of (i) principal plus (ii) interest paid to Bank, of at least 1.5to 1.00; and

 

·                  a ratio of total funded debt toEBITDA of not more than 2.00 to 1.00.

 

The loanagreement also contains customary events of default including the failure tomake payments of principal and interests, the breach of principal andinterests, the breach of any covenants, the occurrence of a material adversechange, certain bankruptcy and insolvency events, the breach of otheragreements creating indebtedness of $50,000 or more and the entry of a judgmentof $50,000 or more against GlobalSCAPE or any of its subsidiaries.  At June 30, 2008, we were in compliancewith these covenants.

 

**ContractualObligations**

 

The followingtable sets forth the future minimum payments required under contractualcommitments at June 30, 2008:

 

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| ** **                       | ** ** | **Payments Due by Fiscal Year** | ** ** |
|----------------------------------|------------|-----------------------------------------------------|------------|
| **Contractual Obligations** | ** ** | **2008 (1)**                                   | ** ** | **2009** | ** ** | **2010** | ** ** | **Thereafter** | ** ** | **Total** | ** ** |
| Operating Lease                  |       | $                                                   | 306,438    |   | $ | 606,465 |   | $ | 537,692 |   | $ | 4,968,160 |   | $ | 6,418,755 |   |
| Equipment Leases                 |       | $                                                   | 3,696      |   | $ | 7,392 |   | $ | 7,392 |   | $ | 9,056 |   | $ | 27,536 |   |
| Deferred  Compensation           |       | $                                                   | 165,395    |   | $ | — |   | $ | — |   | $ | — |   | $ | 165,395 |   |
| Total Cash  Obligations          |       | $                                                   | 475,529    |   | $ | 613,857 |   | $ | 545,084 |   | $ | 4,977,216 |   | $ | 6,611,686 |   |

 

----

  (1)   Amounts for 2008reflect the future minimum payments for the remaining six months of the fiscal year.

##### ** **

##### **Critical Accounting Policies**

##### ** **

Except as set forth below,there were no other changes in our critical accounting policies from those setforth in our Annual Report on Form 10-K for the year ended December 31,2007 during the six months ended June 30, 2008.

 

# **UncertainTax Positions**

# ** **

Effective at thebeginning of the first quarter of 2007, the Company adopted the provision ofFIN 48, “Accounting for Uncertainty in Income Taxes - an interpretation of FASBStatement No. 109.”  FIN 48 containsa two-step approach to recognizing and measuring uncertain tax positionsaccounted for in accordance with SFAS No. 109, “Accounting for IncomeTaxes.”  The first step is to evaluatethe tax position for recognition by determining if the weight of availableevidence indicates that it is more likely than not that the position will besustained on audit, including resolution of related appeals or litigationprocesses, if any.  The second step is tomeasure the tax benefit as the largest amount that is more than 50% likely ofbeing realized upon ultimate settlement.

 

As a result of theimplementation of FIN 48, the Company has not changed any of its tax accrualestimates.  The Company files U.S.federal and U.S. state tax returns.

 

**Comparison of the Three Months ended June 30, 2007 and2008**

 
| ** **                                    | ** ** | **2007**  | ** ** | **2008**  | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
|-----------------------------------------------|------------|-----------|------------|-----------|------------|-------------------|------------|-------------------|------------|
|                                          |       |      |       |      |       |              |       |              |       |
| Software product  revenues                    |       | $         | 6,418,025  |      | $          | 4,213,066         |       | (2,204,959        | )          | (34.36 | )% |
| Cost of revenues                              |       | 60,230    |       | 45,170    |       | (15,060           | )          | (25.00            | )%         |
| Selling, general  and administrative expenses |       | 2,587,435 |       | 2,672,735 |       | 85,300            |       | 3.30              | %          |
| Research and  development expenses            |       | 551,211   |       | 785,938   |       | 234,727           |       | 42.58             | %          |
| Depreciation and  amortization                |       | 34,843    |       | 184,626   |       | 149,783           |       | 429.88            | %          |
| Total operating  expense                      |       | 3,233,719 |       | 3,688,469 |       | 454,750           |       | 14.06             | %          |
|                                          |       |      |       |      |       |              |       |              |       |
| Income (loss)  from operations                |       | 3,184,306 |       | 524,597   |       | (2,659,709        | )          | (83.53            | )%         |
|                                          |       |      |       |      |       |              |       |              |       |
| Other Income  (expense)                       |       | 9,743     |       | 22,726    |       | 12,983            |       | 133.25            | %          |
| Income tax  expense                           |       | 1,079,173 |       | 255,004   |       | (864,774          | )          | (80.13            | )%         |
| Net income  (loss)                            |       | $         | 2,114,876  |      | $          | 292,319           |       | (1,781,952        | )          | (84.26 | )% |
|                                          |       |      |       |      |       |              |       |              |       |
| Cost of Sales %  of Sales                     |       | 0.9       | %          | 1.1       | %          |              |       |              |       |

# ** **

***Revenue.*** Wederive revenues primarily from software sales. Revenues are comprised of the gross selling price of software, includingshipping charges and the earned portion of support and maintenance agreements.For the three months ended June 30, 2008, total revenues decreased by$2,204,959 or approximately 34.4% from the same quarter in 2007. Were it notfor a sale in May of 2007 to the U. S. Army for $2.8 million, revenueswould have been up by $595,000 or 

 

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approximately 9%primarily as a result of an increase in sales of our Enhanced File Transferproduct.

 

The followingtable reflects revenue by product including the related maintenance and supportfor each product:

 
| ** **                                          | ** ** | **Revenue for the Three Months ended June 30,** | ** ** |
|-----------------------------------------------------|------------|------------------------------------------------------------------------------------|------------|
| **Product**                                         | ** ** | **2007**                                                                           | ** ** | **2008** | ** ** |
| ** **                                          | ** ** | ** **                                                                         | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** | ** ** |
| Enhanced File  Transfer                             |       | $                                                                                  | 1,501,613  |   | 23.4 | % | $ | 2,030,984 |   | 48.2 | % |
| SecureFTP Server                                    |       | 3,467,655                                                                          |       | 54.0 | % | 846,845 |   | 20.1 | % |
| CuteFTP  Professional                               |       | 666,591                                                                            |       | 10.4 | % | 537,567 |   | 12.8 | % |
| CuteFTP Home                                        |       | 282,508                                                                            |       | 4.4 | % | 234,934 |   | 5.6 | % |
| WAFS                                                |       | 702,693                                                                            |       | 10.9 | % | 689,808 |   | 16.4 | % |
| CDP                                                 |       | 33,893                                                                             |       | 0.5 | % | 19,733 |   | 0.5 | % |
| All Others                                          |       | 162,477                                                                            |       | 2.5 | % | 49,672 |   | 1.2 | % |
| Deferred Revenue  adjustment                        |       | (399,405                                                                           | )          | (6.2 | )% | (196,477 | ) | (4.7 | )% |
| Total Operating  Revenues                           |       | $                                                                                  | 6,418,025  |   | 100.0 | % | $ | 4,213,066 |   | 100.0 | % |
|                                                |       |                                                                               |       |   |   |   |   |   |   |
| Maintenance and  support (net of deferred revenues) |       | $                                                                                  | 860,637    |   | 19.6 | %  | $ | 1,202,137 |   | 28.5 | %  |

 

Sales of our WAFS and CDPSystems were $737,000 and $710,000 for the three months ended June 30,2007 and 2008, respectively, a decrease of $27,000 or 3.7% for the quarter. Thedecrease is largely due to the overall slowdown of the economy and the ITbudgets of our customers being reduced as a result, which limits theirpurchases.  These products accounted forapproximately 11.5% of total revenue for the second quarter of 2007 compared to16.8% for the same period in 2008.

 

Sales of our SecureFTP Serverand Enhanced File Transfer products were $4,969,000 and $2,878,000 for thethree months ended June 30, 2007 and 2008 respectively a decrease of$2,091,000 or 42.1% for the quarter. These products represented approximately68% of our total revenues in the three months ending June 30, 2008 ascompared to 77% in the same period in 2007. This decrease is largely due to the U.S. Army sale that occurred duringthe second quarter of 2007 and did not recur in 2008.  Revenues from CuteFTP Home and CuteFTPProfessional decreased by 19% as compared to the quarter ended June 30,2007 and accounted for approximately 15% and 18% of total revenues for thethree months ended June 30, 2007 and 2008, respectively.

 

Our reliance on the CuteFTPproducts will continue to decline as we emphasize sales of our more complexenterprise products.  In addition,because of the more complex nature of SecureFTP Server, Enhanced File Transfer,WAFS and CDP, purchasers require increased maintenance and support.  Our maintenance and support revenuesdecreased by 28% from the second quarter of 2007 compared to the same period in2008. Maintenance and support revenues were $860,000 and $1,202,000, net ofdeferred revenue, for the three months ended June 30, 2007 and 2008,respectively.  The increase inmaintenance and support revenues is due to our focused efforts to expand salesof this product.  Maintenance and supportpricing is reflective of the license cost of the products and the additionalsupport it takes to maintain and support the products and customers. Withhigher maintenance and support revenues, we will currently recognize additionaldeferred revenue and earn the revenue over the life of the maintenance andsupport agreement.

 

We have previously announcedthrough press releases and investor conference calls that we believe ourrevenues will remain in a range of $4.0 million to $4.5 million for the nextquarter. Beginning in the fourth quarter of 2008, we anticipate generating revenuesfrom new products that 

 

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we may buildourselves and/or resell from other software companies, and that our revenueswill increase from prior periods due to these new products

 

***Cost of Revenues.***  Cost of revenues consists primarily ofroyalties, a portion of our bandwidth costs as well as production, packagingand shipping costs for boxed copies of software products.  Cost of revenues decreased by approximately$15,000 or 25% between periods from $60,000 for the three months ended June 30,2007 to $46,000 for the three months ended June 30, 2008.  This change was due to a decrease in bothroyalties and production, packaging and shipping costs.  Royalties that we pay on software productslicensed from third parties, which we resell, are expensed as a cost of salewhen the software product is sold or earlier if the recoverability of anyprepaid royalties is in doubt.  Cost ofrevenues as a percent of total revenues was 0.9% for the three months ended June 30,2007 as compared to 1.1% for the same period in 2008.

 

***Selling, General and Administrative.*** Selling, general and administrative expenses consist primarily of personnel andrelated expenses, marketing, customer support, rents, bad debt and professionalfees.  For the three months ended June 30, 2007 and 2008, selling,general and administrative expenses were $2.6 million and $2.7 million,respectively, an increase of approximately $85,000.  This net increase wasdue to additional recruiting costs, advertising, and bad debt write offs.  The increased recruiting costs are due to theongoing search for a CEO and also the new search for a CFO.  These increases were offset by decreases inmiscellaneous professional fees, business meals and entertainment, and thereallocation of certain expenses related to an internal software project.

 

The Company has recentlyrelocated its offices into a larger, more expensive space. This additionaloccupancy expense will be reflected in SG&A in the future.

 

***Research and Development.*** Research and development expenses increased by $235,000 or 43% between periods,from $551,000 to $786,000.  The increase was due to additional personnel neededto support our products. We anticipate that this expense will be higher in thefuture due to a more aggressive schedule of introducing new products for salein 2008. We have hired several additional programmers to accomplish this work.

 

***Depreciation and Amortization.*** Depreciation and amortization expense consists of depreciation expense relatedto our fixed assets and amortization of capitalized development costs.Depreciation and amortization expense increased from $35,000 to $185,000, anincrease of approximately 430%.  This increase resulted from thecapitalization of $255,000 of furniture & fixtures, approximately$19,000 of equipment, and $499,000 of lease hold improvements associated withthe relocation to new office space. The impact of these items on the threemonths was minimal due to the timing in the period.

 

***Other Income, Expense.*** We earned $10,965 and $22,581 in interest income during the second quarter of2007 and 2008, respectively, from investing our excess cash.  For thethree months ended June 30, 2007 and 2008, interest expense increased from$1,222 to $1,311, respectively. The interest expense incurred during the secondquarter of 2008 was accrued on deferred income per an employment agreementbetween GlobalSCAPE and one of its key executives.

 

***Income Taxes.*** Decreased revenue of $2,205,000, increased operating expense of $455,000, andincreased other income of $13,000 yielded approximately $2,647,000 less taxableincome. The provision for federal income taxes for the quarter ended June 30,2007 and 2008 was $1,037,000 and $235,000, respectively, a decrease of $802,000.

 

Beginning January 1, 2007,the state of Texas imposed a new margin tax equal to 1% of the Company’srevenue less compensation expense (based on Texas source income).  In thethree months ended June 30, 2007 and 2008 the combined Margin Tax andMassachusetts State Income Tax was $41,000 and $20,000, respectively.

 

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***Net Income.*** GlobalSCAPE recorded net income of $2.1 million and $292,000 for the threemonths ended June 30, 2007 and 2008, respectively.  The $1.8 milliondecrease in net income was the result of the major difference in revenues. Thesecond quarter of 2007 benefited by the non-recurrent sale to the Army of $2.8million while 2008 did not.

 

**Comparison of the Six Months ended June 30, 2007 and2008**

 
| ** **                                    | ** ** | **2007**  | ** ** | **2008**  | ** ** | **$ Change** | ** ** | **% Change** | ** ** |
|-----------------------------------------------|------------|-----------|------------|-----------|------------|-------------------|------------|-------------------|------------|
|                                          |       |      |       |      |       |              |       |              |       |
| Software product  revenues                    |       | $         | 10,041,172 |      | $          | 8,268,885         |       | (1,772,287        | )          | (17.65 | )% |
| Cost of revenues                              |       | 119,170   |       | 75,176    |       | (43,994           | )          | (36.92            | )%         |
| Selling, general  and administrative expenses |       | 4,921,719 |       | 5,654,564 |       | 732,845           |       | 14.89             | %          |
| Research and  development expenses            |       | 988,961   |       | 1,329,207 |       | 340,246           |       | 34.40             | %          |
| Depreciation and  amortization                |       | 66,429    |       | 358,645   |       | 292,216           |       | 439.89            | %          |
| Total operating  expense                      |       | 6,096,279 |       | 7,417,592 |       | 1,321,313         |       | 21.67             | %          |
|                                          |       |      |       |      |       |              |       |              |       |
| Income (loss)  from operations                |       | 3,944,893 |       | 851,293   |       | (3,093,600        | )          | (78.42            | )%         |
|                                          |       |      |       |      |       |              |       |              |       |
| Other Income  (expense)                       |       | (16,815   | )          | 53,036    |       | 69,851            |       | (415.41           | )%         |
| Income tax  expense                           |       | 1,339,986 |       | 460,076   |       | (943,991          | )          | (70.45            | )%         |
| Net income  (loss)                            |       | $         | 2,588,092  |      | $          | 444,253           |       | (2,079,758        | )          | (80.36 | )% |
|                                          |       |      |       |      |       |              |       |              |       |
| Cost of Sales %  of Sales                     |       | 1.2       | %          | 0.9       | %          |              |       |              |       |

# ** **

***Revenue.*** Wederive revenues primarily from software sales. Revenues are comprised of the gross selling price of software, includingshipping charges and the earned portion of support and maintenance agreements.For the six months ended June 30, 2008, total revenues decreased by$1,772,000 or approximately 17.7% from the same quarter in 2007. Were it notfor a sale in May 2007 to the U. S. Army for $2.8, revenues would be up by$1,027,000 or approximately 10.2% primarily as a result of an increase in salesof our Enhanced File Transfer product.

 

The followingtable reflects revenue by product including the related maintenance and supportfor each product:

 
|                                                |   | **Revenue for the Six Months ended June 30,** |       |
|-----------------------------------------------------|--------|----------------------------------------------------------------------------------|------------|
| **Product**                                         |   | **2007**                                                                         |       | **2008** |   |
|                                                |   |                                                                             |       |   |   |   |   |   |   |
| Enhanced File  Transfer                             |   | $                                                                                | 2,745,726  |   | 27.3 | % | $ | 3,767,007 |   | 45.6 | % |
| SecureFTP Server                                    |   | 4,209,544                                                                        |       | 41.9 | % | 1,709,035 |   | 20.7 | % |
| CuteFTP  Professional                               |   | 1,229,468                                                                        |       | 12.2 | % | 1,083,598 |   | 13.1 | % |
| CuteFTP Home                                        |   | 597,881                                                                          |       | 6.0 | % | 484,038 |   | 5.9 | % |
| WAFS                                                |   | 1,473,617                                                                        |       | 14.7 | % | 1,301,241 |   | 15.7 | % |
| CDP                                                 |   | 59,342                                                                           |       | 0.6 | % | 33,799 |   | 0.4 | % |
| All Others                                          |   | 290,189                                                                          |       | 2.9 | % | 135,120 |   | 1.6 | % |
| Deferred Revenue  adjustment                        |   | (564,595                                                                         | )          | (5.6 | )% | (244,953 | ) | (3.0 | )% |
| Total Operating  Revenues                           |   | $                                                                                | 10,041,172 |   | 100.0 | % | $ | 8,268,885 |   | 100.0 | % |
|                                                |   |                                                                             |       |   |   |   |   |   |   |
| Maintenance and  support (net of deferred revenues) |   | $                                                                                | 1,536,692  |   | 20.9 | %  | $ | 2,368,895 |   | 28.6 | %  |

 

Sales of our WAFS and CDPSystems were $1,533,000 and $1,335,000 for the six months ended June 30,2007 and 2008 respectively, a decrease of $198,000 or 13%. The decrease islargely due to the overall slowdown of the economy and the IT budgets of ourcustomers being reduced as a result, which limits their purchases.  These products accounted for approximately16.1% of total revenue for the first six months of 2008 compared to 15.3% forthe same period in 2007.

 

Sales of our SecureFTP Serverand Enhanced File Transfer products were $6,955,000 and $5,476,000 for the sixmonths ended June 30, 2007 and 2008, respectively, a decrease of$1,479,000 or 21.3%. The decrease is largely due to the U.S. Army sale thatoccurred during the 

 

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second quarterof 2007 and did not recur in 2008.  Theseproducts represented approximately 66% of our total revenues in the six monthsending June 30, 2008 as compared to 69% in the same period in 2007.  Revenues from CuteFTP Home and CuteFTPProfessional decreased by 13% as compared to the six months ended June 30,2007 and accounted for approximately 15% and 16% of total revenues for the sixmonths ended June 30, 2007 and 2008, respectively.

 

Our reliance on the CuteFTPproducts will continue to decline as we emphasize sales of our more complexenterprise products.  In addition,because of the more complex nature of SecureFTP Server, Enhanced File Transfer,WAFS and CDP, purchasers require increased maintenance and support.  As a result, our maintenance and supportrevenues increased by 13% from the first half of 2007 compared to the sameperiod in 2008. Maintenance and support revenues were $1,536,000 and$2,369,000, net of deferred revenue, for the six months ended June 30,2007 and 2008, respectively.  Maintenanceand support pricing is reflective of the license cost of the products and theadditional support it takes to maintain and support the products and customers.With higher maintenance and support revenues, we will recognize additionaldeferred revenue as we earn the revenue over the life of the maintenance andsupport agreement.

 

We have previously announcedthrough press releases and investor conference calls that we believe ourrevenues will remain in a range of $4.0 million to $4.5 million for the nextquarter. Beginning in the fourth quarter of 2008, we anticipate generatingrevenues from new products that we may build ourselves and/or resell from othersoftware companies, and that our revenues will increase from prior periods dueto these new products

 

***Cost of Revenues.***  Cost of revenues consists primarily ofroyalties, a portion of our bandwidth costs as well as production, packagingand shipping costs for boxed copies of software products.  Cost of revenues decreased by approximately$44,000 or 37% between periods from $119,000 for the first six months ended June 30,2007 to $75,000 for the six months ended June 30, 2008.  This change was largely caused by a decreasein royalty payments.  Royalties that wepay on software products licensed from third parties, which we resell, areexpensed as a cost of sale when the software product is sold or earlier if therecoverability of any prepaid royalties is in doubt.  Cost of revenues as a percent of totalrevenues was 1.2% for the six months ended June 30, 2007 as compared to0.9% for the same period in 2008.

 

***Selling, General and Administrative.*** Selling, general and administrative expenses consist primarily of personnel andrelated expenses, marketing, customer support, rents, bad debt and professionalfees.  For the six months ended June 30, 2007 and 2008, selling,general and administrative expenses were $4.9 million and $5.7 million,respectively, an increase of approximately $733,000.  Of this increase,42%, or $311,000, was attributable to expenses incurred in connection withincreased salaries, payroll taxes, and other associated benefits, 19%, or$137,000, was incurred in recruiting expense and another 17%, or $125,000, inadvertising.  Coverage for healthinsurance, for example, increased by 8% in 2008 over the same period in 2007.We have hired new employees in order to support current and projectedgrowth. Payment of commissions on current month sales rather than oncollected sales caused $144,000 of the increase. In the six months ended June 30,2007 and 2008, we expensed $435,858 and $538,986 respectively, for stock basedcompensation related to the granting of stock options to employees anddirectors as required by FAS123R. The expense for the Allowance for DoubtfulAccounts increased from ($11,215) to $113,354 for the period ended June 30,2007 and 2008, respectively.

 

The Company has recentlyrelocated its offices into a larger, more expensive space. This additionaloccupancy expense will be reflected in SG&A in the future.

 

***Research and Development.*** Research and development expenses increased by $340,000 or 34% between periods,from $988,961 to $1,329,207.  The increase was due to additional personnelneeded to support our products. We anticipate that this expense will be higherin the future due to a more aggressive schedule of introducing new products forsale in 2008. We have hired several additional programmers to accomplish thiswork.

 

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***Depreciation and Amortization.*** Depreciation and amortization expense consists of depreciation expense relatedto our fixed assets and amortization of capitalized development costs.Depreciation and amortization expense increased from $66,000 to $359,000, anincrease of approximately 440%.  In addition to the amortization of theintangible assets associated with the acquisition of Availl the increaseresulted from the capitalization of $255,000 of furniture & fixtures,approximately $19,000 of equipment, and $499,000 of lease hold improvementsassociated with the relocation to new office space. The impact of these itemson the six month period was minimal due to the timing in the period.

 

***Other Income, Expense.*** We earned $13,000 and $54,000 in interest income during the first half of 2007and 2008 respectively from investing our excess cash.  For the six monthsended June 30, 2007 and 2008, interest expense decreased from $31,000 to$3,000, respectively, as a result of the payment during the first quarter of2007 of the balance outstanding under our term loan with Silicon ValleyBank.  The interest expense incurred during the first half of 2008 waspaid on deferred income per an employment agreement between GlobalSCAPE and oneof its key executives.

 

***Income Taxes.*** Decreased revenue of $1,772,000, increased operating expense of $1,321,000, andincreased other income of $70,000 yielded approximately $3,024,000 less taxableincome. The provision for federal income taxes for the six month period ended June 30,2007 and 2008 was $1,274,000 and $415,000, respectively, a decrease of $859,000.

 

Beginning January 1, 2007,the state of Texas imposed a new margin tax equal to 1% of the Company’srevenue less compensation expense (based on Texas source income).  In thesix months ended June 30, 2007 and 2008 the combined Margin Tax andMassachusetts State Income Tax was $66,128 and $45,047, respectively.

 

***Net Income.*** GlobalSCAPE recorded net income of $2,588,000 and $444,000 for the six monthsended June 30, 2007 and 2008, respectively.  The $2,140,000 decreasein net income was the result of increased expenses associated with building theinfra-structure required to sustain future growth and the impact of anon-recurrent sale of $2.8 million to the U. S. Army in 2007.

 

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# **Item3.  Quantitative and QualitativeDisclosures About Market Risk**

# ** **

To date, we have not utilizedderivative financial instruments or derivative commodity instruments.  We do not expect to employ these or otherstrategies to hedge market risk in the foreseeable future.  We may invest our cash in money market funds,which are subject to minimal credit and market risk.  We believe that the interest rate risk andother relevant market risks associated with these financial instruments areimmaterial.

 

In the first six months ended June 30,2008, approximately 36% of our revenues came from customers outside the UnitedStates.  All revenues are received inU.S. dollars so we have no exchange rate risk with regard to the sale.  However, in July 2003, the EuropeanUnion (EU) enacted Value Added Taxes (VAT) on electronic purchases.  These taxes are charged to our non-businesscustomers in the EU and, in our case, are remitted quarterly in pound sterling. We expect that the impact of thiscurrency translation will not be material to our business.

 

# **Item4T.  Controls and Procedures**

# ** **

In connection with theCompany’s quarter-end accounting procedures, after consultation with theCompany’s independent registered public accounting firm, management and theCompany’s Board of Directors determined that there were errors in thecalculation of deferred taxes for the year ended December 31, 2007 and forthe quarter ended March 31, 2008. Based upon these discoveries, we evaluated the design and operation ofour disclosure controls and procedures as of December 31, 2007 and March 31,2008 to determine whether they were effective in ensuring that we disclose therequired information in a timely manner and in accordance with the SecuritiesExchange Act of 1934, as amended, or the Exchange Act, and the rules andforms of the Securities and Exchange Commission. Management, including ourprincipal executive officer and principal financial officer, supervised andparticipated in the evaluation. Our principal executive officer and principalfinancial officer concluded, based on their review, that:

 

·  All stock options previously granted had beenaccounted for as if they were incentive stock options and the $100,000limitation had not been considered when booking the quarterly compensationexpense.

 

·  For employees that exercised their stockoptions and then subsequently sold the stock within a year, the information wasnot captured which was needed to calculate the appropriate tax deductions.

 

·  Deferred taxes were not calculated on theidentified intangible assets acquired as part of the Availl, Inc. purchase.

 

Our evaluation wasconcluded in August 2008, after the filing of our 10-K for the 2007 fiscalyear and after the filing of our 10-Q for the quarter ended March 31, 2008but before the filing of our 10-Q for the quarter ended June 30, 2008. Asa result of our evaluation, we concluded that our year end financial statementsfor 2007 and our first quarter financial statements for 2008 would requireadjustments. The corrections were made before closing the second quarter booksand prior to any public reporting of our financial results for that period.  The restatement will occur by the filing of aForm 10-K/A for our 2007 fiscal year, and a Form 10-Q/A for the threemonths ended March 31, 2008.  Thecorrection to our controls and procedures was accomplished by the hiring of anew Certified Public Accountant to assist in the preparation of our quarterlyand annual tax accrual calculation as well as the preparation of our corporatetax returns.

 

Based upon the correctiveaction taken, our restatement of our 2007 financial results through the filingof a report on Form 10-K/A, and our restatement of our financial resultsfor the three months ending March 31, 2008 through the filing of a report ofForm 10-Q/A and the fact that corrections were made to subsequent financialresults prior to their public disclosure, our principal executive officer andprincipal financial officer were able to conclude that our financial statementsfor our 2007 fiscal year, as included in our report on Form 10-K, asamended, and the subsequent fiscal periods covered by our quarterly 

 

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reports on Form 10-Qfairly present in all material respects the financial condition, results ofoperations and cash flows of GlobalSCAPE.

 

As of the end of theperiod covered by this report, our principal executive officer and principalfinancial officer carried out an evaluation of the effectiveness of GlobalSCAPE’s“disclosure controls and procedures” (as defined in the Securities Exchange Actof 1934 Rules 13a-15(e)and 15d-15(e)) and concluded that the disclosurecontrols and procedures, as corrected in connection with the investigationdiscussed above, were effective and designed to ensure that material informationrelating to GlobalSCAPE and our consolidated subsidiaries which is required tobe included in our periodic Securities and Exchange Commission filings would bemade known to them by others within those entities. There were no changes inour internal controls over financial reporting during the period covered bythis report that could materially affect, or are reasonably likely tomaterially affect, our financial reporting.

 

There were no changes inour internal control over financial reporting during the last fiscal yearand/or up to and including the date of this filing that we believe materiallyaffected, or are reasonably likely to materially affect, our internal controlover financial reporting, except for improvements in the internal controls tostrengthen the process of calculating and reporting of stock based compensationexpense, and calculating and reporting deferred taxes all of which have beenmade as of the date of this report.

 

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## **Table of Contents**

 

## **Part II.  Other Information**

## ** **

# **Item1.  Legal Proceedings**

# ** **

We are not currently involvedin any material legal proceedings.

 

**Item 1A.  Risk Factors.**

** **

      In addition to the other information setforth in this report, you should carefully consider the factors discussed in Part I,“Item 1A. Risk Factors” in our Annual Report on Form 10-K for the yearended December 31, 2007, which could materially affect our business,financial condition or future results. The risks described in our Annual Report on Form 10-K are not theonly risks facing GlobalSCAPE. Additional risks and uncertainties not currently known to us or that wecurrently deem to be immaterial also may materially adversely affect ourbusiness, financial condition and/or operating results.

 

**Item 2.  UnregisteredSales of Equity Securities and Use of Proceeds.**

 
| ** **     | ** ** | ** **            | ** ** | ** **             | ** ** | **Total Nmber of**    | ** ** | **Maximum**                   | ** ** |
|----------------|------------|-----------------------|------------|------------------------|------------|---------------------------------|------------|-------------------------------|------------|
| ** **     | ** ** | ** **            | ** ** | ** **             | ** ** | **Shares Purchased**       | ** ** | **Number of**            | ** ** |
| ** **     | ** ** | ** **            | ** ** | ** **             | ** ** | **as Part of a** | ** ** | **Shares that may** | ** ** |
| ** **     | ** ** | **Total Number** | ** ** | **Average Price** | ** ** | **Publicly**                    | ** ** | **yet be**               | ** ** |
| ** **     | ** ** | **of Shares**    | ** ** | **Paid Per**      | ** ** | **Announced Plan**         | ** ** | **Purchased**                 | ** ** |
| **Period**     | ** ** | **Purchased**         | ** ** | **Share**              | ** ** | **(1)**                         | ** ** | **Under the Plan**  | ** ** |
|           |       |                  |       |                   |       |                            |       |                          |       |
| February, 2008 |       | 254,096               |       | $                      | 3.6830     |                            | 254,096    |                          | 437,914    | (2) |
| March, 2008    |       | 9,612                 |       | $                      | 3.5998     |                            | 9,612      |                          | 684,934    | (3) |
|           |       |                  |       |                   |       |                            |       |                          |       |
| Total          |       |                  |       |                   |       |                            |       |                          |       |

 

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| (1) | On May 21, 2007, we  announced a plan to purchase up to $3.0 million of our common stock. This  plan terminated on May 20, 2008. |
|-----|--------------------------------------------------------------------------------------------------------------------------------------------|
| (2) | At February 29, 2008,  there were 437,914 shares yet to be purchased based on the price of $3.52 per  share on that date.             |
| (3) | At March 31, 2008,  there were 684,934 shares yet to be purchased based on the price of $2.20 per  share on that date.                |

#### ** **

#### **Item 4.  Submission of Matters to a Vote of SecurityHolders**

#### ** **

The Annual Meeting of Stockholdersof the Company was held in San Antonio, Texas on June 5, 2008 for thepurpose of (1) electing one director for a three-year term and (2) ratifyingthe appointment of independent registered public accountants for 2008. Proxies for the meeting were solicited pursuant to the Securities Exchange Actof 1934 and there was no solicitation in opposition to management’ssolicitation.  Results of the stockholder voting were as follows:

 
| ** **                                                                                          | ** ** | **Number of Shares** | ** ** |
|-----------------------------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                                          | ** ** | **For**                        | ** ** | **Against** | ** ** | **Abstaining/  Withheld** | ** ** | **Broker  Non-  Votes** | ** ** |
| (1)    Election of Directors  David L. Mann                                          |       | 13,346,036                     |       | 1,559,531 |   | — |   | 2,305,137 |   |
| (2)    Ratify the appointment  of independent registered public accountants for 2008 |       | 14,531,544                     |       | 81,639 |   | 292,383 |   | 2,305,138 |   |

 

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# **Table of Contents**

 
| **Item  6.** | **Exhibits**                                                                      |
|--------------|-----------------------------------------------------------------------------------|
| ** **   | ** **                                                                        |
| **(a)**      | Exhibits                                                                          |
|         |                                                                              |
|         | 31.1  Certificate pursuant to Section 302 of the Sarbanes-Oxley Act of 2002. |
|         |                                                                              |
|         | 32.1  Certificate pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. |

 

**Signatures**

** **

Pursuant to therequirements of the Securities Exchange Act of 1934, the registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 

 
|                 |   |          | GLOBALSCAPE, INC.                   |
|----------------------|--------|---------------|-------------------------------------|
|                 |   |          |                                |
|                 |   |          |                                |
| August 19, 2008 |   | By:      |    /s/ David L. Mann |
| Date                 |   | David L. Mann |
| President            |

 

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