#### **UNITED STATES SECURITIES AND EXCHANGE COMMISSIONWashington, D.C. 20549**

####  

### **FORM 10-Q**

### ** **

| **ý**                                                  | **QUARTERLY REPORT PURSUANT TO SECTION 13 OR  15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**   |
|-------------------------------------------------------------|-----------------------------------------------------------------------------------------------------|
| ** **                                                  |                                                                                                |
| **For the quarterly period ended September 30,  2004** |
| ** **                                                  | ** **                                                                                          |
| **Or**                                                      | ** **                                                                                          |
|                                                        |                                                                                                |
| **o**                                                       | **TRANSITION  REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF  1934** |

 

**For thetransition period from                to                **

 

**CommissionFile Number:   000-30617**

 

**GlobalSCAPE, Inc.**(Exact name of registrant as specified in its charter)

 
| **Delaware**                                                     | ** ** | **74-2785449**                         |
|------------------------------------------------------------------|------------|----------------------------------------|
| (State or  other jurisdiction of incorporation or  organization) | ** ** | (I.R.S.  Employer Identification  No.) |
| ** **                                                       | ** ** | ** **                             |
| **6000 Northwest Parkway, Suite 100**                            | ** ** | **78249**                              |
| (Address of  principal executive offices)                        | ** ** | (Zip Code)                             |
| ** **                                                       | ** ** | ** **                             |
| **(210) 308-8267**                                               |
| (Registrant’s  telephone number, including area code)       |

 

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

 

Indicate by check mark whether the registrant is anaccelerated filer (as defined in Rule 12b-2 of the Exchange Act).  oYes   ý No

 

## **The number of shares outstanding of the registrant’s commonstock at November 12, 2004 was 13,773,219.**

 

 

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## ** **

## **GlobalSCAPE Inc.**

## ** **

## **Quarterly Report on Form 10-QFor the Quarter ended September 30, 2004**

 

## **Index**

 
| **Part I.**                   | **Financial Information**                                                                      |       |
|-------------------------------|------------------------------------------------------------------------------------------------|------------|
|                          |                                                                                           |       |
| Item 1.                       | Interim Financial Statements (Unaudited)                                                       |       |
|                          | Balance Sheets as of December 31, 2003  and September 30, 2004                       |       |
|                          | Statements of Operations for the three and  nine months ended September 30, 2003 and 2004 |       |
|                          | Statements of Cash Flows for the nine  months ended September 30, 2003 and 2004           |       |
|                          | Notes to Financial Statements                                                                  |       |
|                          |                                                                                           |       |
| Item 2.                       | Management’s Discussion and Analysis of  Financial Condition and Results of Operations    |       |
|                          |                                                                                           |       |
| Item 3.                       | Quantitative and Qualitative Disclosures  About Market Risk                                    |       |
|                          |                                                                                           |       |
| Item 4.                       | Controls and Procedures                                                                        |       |
|                          |                                                                                           |       |
| **Part II.**                  | **Other Information**                                                                          | ** ** |
| ** **                    | ** **                                                                                     | ** ** |
| Item 1.                       | Legal Proceedings                                                                              |       |
|                          |                                                                                           |       |
| Item 2.                       | Changes in Securities and Use of Proceeds                                                      |       |
|                          |                                                                                           |       |
| Item 3.                       | Defaults Upon Senior Securities                                                                |       |
|                          |                                                                                           |       |
| Item 4.                       | Submission of Matters to a Vote of Security  Holders                                           |       |
|                          |                                                                                           |       |
| Item 5.                       | Other Information                                                                              |       |
|                          |                                                                                           |       |
| Item 6.                       | Exhibits and Reports on Form 8-K                                                               |       |
|                          |                                                                                           |       |
| Signatures and Certifications |                                                                                           |

 

 

GlobalSCAPE®, CuteFTP®,CuteSITE Builder®, PureCMS®, CuteZIP®, CuteHTML® and CuteMAP® are registeredtrademarks of GlobalSCAPE Texas, LP.  GlobalSCAPE Secure FTP Server,GlobalSCAPE Transfer Engine, ContentXML and SnapEdit are trademarks ofGlobalSCAPE Texas, LP.  Other trademarks and tradenames in this quarterlyreport are the property of their respective owners.

 

ii

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** **

**GlobalSCAPE, Inc.**

** **

**Balance Sheets**

** **
| ** **                                                                                                                                                | ** ** | **December 31,  2003** | ** ** | **September 30,  2004** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|------------------------------|------------|
| ** **                                                                                                                                                | ** ** | ** **                  | ** ** | **(unaudited)**              | ** ** |
| Assets                                                                                                                                                    |       |                        |       |                         |       |
| Current  assets:                                                                                                                                          |       |                        |       |                         |       |
| Cash                                                                                                                                                      |       | $                           | 342,433    |                         | $          | 456,491 |   |
| Accounts  receivable (net of allowance for doubtful accounts of $43,581 and $15,442 at December 31,  2003 and September 30, 2004, respectively) |       | 240,615                     |       | 176,163                      |       |
| Prepaid  expenses                                                                                                                                         |       | 46,428                      |       | 91,687                       |       |
| Total  current assets                                                                                                                                     |       | 629,476                     |       | 724,341                      |       |
|                                                                                                                                                      |       |                        |       |                         |       |
| Property and  equipment:                                                                                                                                  |       |                        |       |                         |       |
| Furniture  and fixtures                                                                                                                                   |       | 332,920                     |       | 332,920                      |       |
| Software                                                                                                                                                  |       | 235,436                     |       | 240,572                      |       |
| Equipment                                                                                                                                                 |       | 590,019                     |       | 604,488                      |       |
| Leasehold  improvements                                                                                                                                   |       | 154,376                     |       | 167,762                      |       |
|                                                                                                                                                      |       | 1,312,751                   |       | 1,345,742                    |       |
| Accumulated  depreciation and amortization                                                                                                                |       | 1,035,830                   |       | 1,175,612                    |       |
| Net property  and equipment                                                                                                                               |       | 267,921                     |       | 170,130                      |       |
|                                                                                                                                                      |       |                        |       |                         |       |
| Other  assets:                                                                                                                                            |       |                        |       |                         |       |
| Other                                                                                                                                                     |       | 11,881                      |       | 11,881                       |       |
| Total other  assets                                                                                                                                       |       | 11,881                      |       | 11,881                       |       |
| Total assets                                                                                                                                              |       | $                           | 918,278    |                         | $          | 906,352 |   |

 

1

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**GlobalSCAPE, Inc.**

 

**Balance Sheets**

 
| ** **                                                                                                                                                                                             | ** ** | **December 31,  2003** | ** ** | **September 30,  2004** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-----------------------------|------------|------------------------------|------------|
| ** **                                                                                                                                                                                             | ** ** | ** **                  | ** ** | **(unaudited)**              | ** ** |
| Liabilities  and Stockholders’ Equity                                                                                                                                                             |       |                        |       |                         |       |
| Current  liabilities:                                                                                                                                                                                  |       |                        |       |                         |       |
| Accounts  payable                                                                                                                                                                                      |       | $                           | 180,555    |                         | $          | 98,660 |   |
| Accrued  expenses                                                                                                                                                                                      |       | 173,935                     |       | 201,332                      |       |
| Notes  payable                                                                                                                                                                                         |       | 100,000                     |       | —                       |       |
| Deferred  revenue                                                                                                                                                                                      |       | 140,489                     |       | 169,438                      |       |
| Current  portion of capital lease obligation                                                                                                                                                           |       | 15,294                      |       | —                       |       |
| Total  current liabilities                                                                                                                                                                             |       | 610,273                     |       | 469,430                      |       |
|                                                                                                                                                                                                   |       |                        |       |                         |       |
| Long-term  liabilities:                                                                                                                                                                                |       |                        |       |                         |       |
| Other  long-term liabilities                                                                                                                                                                           |       | 39,253                      |       | 30,842                       |       |
| Total  long-term liabilities                                                                                                                                                                           |       | 39,253                      |       | 30,842                       |       |
|                                                                                                                                                                                                   |       |                        |       |                         |       |
| 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 shares authorized, 13,488,619  and 13,773,219 shares issued and outstanding at December 31, 2003 and September 30,  2004, respectively |       | 13,489                      |       | 13,773                       |       |
| Additional  paid-in capital                                                                                                                                                                            |       | 671,893                     |       | 675,365                      |       |
| Retained  earnings (deficit)                                                                                                                                                                           |       | (416,630                    | )          | (283,058                     | )          |
| Total  stockholders’ equity                                                                                                                                                                       |       | 268,752                     |       | 406,080                      |       |
| Total  liabilities and stockholders’ equity                                                                                                                                                       |       | $                           | 918,278    |                         | $          | 906,352 |   |

 

See accompanying notes.

 

2

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**GlobalSCAPE, Inc.**

** **

**Statements of Operations**

** **

**(Unaudited)**

** **
| ** **                                                                            | ** ** | **Three months ended September 30,** | ** ** | **Nine months ended September 30,** | ** ** |
|---------------------------------------------------------------------------------------|------------|-------------------------------------------|------------|------------------------------------------|------------|
| ** **                                                                            | ** ** | **2003**                                  | ** ** | **2004**                                 | ** ** | **2003** | ** ** | **2004** | ** ** |
| Operating  revenues:                                                                  |       |                                      |       |                                     |       |   |   |   |   |
| Software  product revenues                                                            |       | $                                         | 1,336,682  |                                     | $          | 1,270,223 |   | $ | 3,766,576 |   | $ | 3,730,158 |   |
|                                                                                  |       |                                      |       |                                     |       |   |   |   |   |
| Operating  expenses:                                                                  |       |                                      |       |                                     |       |   |   |   |   |
| Cost of  revenues (exclusive of depreciation and amortization shown separately below) |       | 128,404                                   |       | 111,556                                  |       | 401,745 |   | 304,071 |   |
| Selling,  general and administrative expenses                                         |       | 790,200                                   |       | 823,813                                  |       | 2,804,617 |   | 2,599,165 |   |
| Research and  development expenses                                                    |       | 226,567                                   |       | 165,743                                  |       | 647,659 |   | 552,477 |   |
| Depreciation  and amortization                                                        |       | 106,511                                   |       | 33,769                                   |       | 332,848 |   | 139,782 |   |
| Total  operating expense                                                              |       | 1,251,682                                 |       | 1,134,881                                |       | 4,186,869 |   | 3,595,495 |   |
| Income  (loss) from operations                                                        |       | 85,000                                    |       | 135,342                                  |       | (420,293 | ) | 134,663 |   |
|                                                                                  |       |                                      |       |                                     |       |   |   |   |   |
| Other income  (expense):                                                              |       |                                      |       |                                     |       |   |   |   |   |
| Interest  expense                                                                     |       | (1,016                                    | )          | (371                                     | )          | (3,071 | ) | (1,091 | ) |
| Loss on  disposal of assets                                                           |       | —                                    |       | —                                   |       | (1,486 | ) | — |   |
| Total other  income (expense)                                                         |       | (1,016                                    | )          | (371                                     | )          | (4,557 | ) | (1,091 | ) |
| Income  (loss) before income taxes                                                    |       | 83,984                                    |       | 134,971                                  |       | (424,850 | ) | 133,572 |   |
|                                                                                  |       |                                      |       |                                     |       |   |   |   |   |
| Income tax  expense (benefit):                                                        |       |                                      |       |                                     |       |   |   |   |   |
| Current:                                                                              |       |                                      |       |                                     |       |   |   |   |   |
| Federal                                                                               |       | —                                    |       | —                                   |       | — |   | — |   |
| State                                                                                 |       | 1,400                                     |       | —                                   |       | 1,400 |   | — |   |
| Deferred:                                                                             |       |                                      |       |                                     |       |   |   |   |   |
| Federal                                                                               |       | —                                    |       | —                                   |       | — |   | — |   |
| State                                                                                 |       | —                                    |       | —                                   |       | — |   | — |   |
| Total income  tax provision (benefit)                                                 |       | 1,400                                     |       | —                                   |       | 1,400 |   | — |   |
|                                                                                  |       |                                      |       |                                     |       |   |   |   |   |
| Net income  (loss)                                                                    |       | $                                         | 82,584     |                                     | $          | 134,971 |   | $ | (426,250 | ) | $ | 133,572 |   |
|                                                                                  |       |                                      |       |                                     |       |   |   |   |   |
| Net income  (loss) per common share- basic                                            |       | $                                         | 0.01       |                                     | $          | 0.01 |   | $ | (0.03 | ) | $ | 0.01 |   |
| Net income  (loss) per common share- assuming dilution                                |       | $                                         | 0.01       |                                     | $          | 0.01 |   | $ | (0.03 | ) | $ | 0.01 |   |
| Average  shares outstanding:                                                          |       |                                      |       |                                     |       |   |   |   |   |
| Basic                                                                                 |       | 13,358,619                                |       | 13,773,219                               |       | 13,358,619 |   | 13,633,611 |   |
| Diluted                                                                               |       | 14,275,592                                |       | 14,303,786                               |       | 13,358,619 |   | 14,164,178 |   |

 

See accompanying notes.

 

3

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**GlobalSCAPE,Inc.**

**Statements of Cash Flows**

** **

**(Unaudited)**

 
| ** **                                                                       | ** ** | **Nine months ended September 30,** | ** ** |
|----------------------------------------------------------------------------------|------------|------------------------------------------|------------|
| ** **                                                                       | ** ** | **2003**                                 | ** ** | **2004** | ** ** |
| Operating  Activities:                                                           |       |                                     |       |   |   |
| Net income  (loss)                                                               |       | $                                        | (426,250   | ) | $ | 133,572 |   |
| Adjustments  to reconcile net loss to net cash provided by operating activities: |       |                                     |       |   |   |
| Bad debt  expense                                                                |       | 9,277                                    |       | (11,504 | ) |
| Depreciation  and amortization                                                   |       | 332,848                                  |       | 139,782 |   |
| Loss on  disposal of assets                                                      |       | 1,486                                    |       | — |   |
| Changes in  operating assets and liabilities:                                    |       |                                     |       |   |   |
| Accounts  receivable                                                             |       | (38,628                                  | )          | 75,956 |   |
| Prepaid  expenses                                                                |       | 1,710                                    |       | (45,259 | ) |
| Accounts  payable                                                                |       | (40,786                                  | )          | (81,895 | ) |
| Accrued  expenses                                                                |       | 125,931                                  |       | 27,397 |   |
| Deferred  revenues                                                               |       | 29,439                                   |       | 28,949 |   |
| Other  long-term liabilities                                                     |       | (8,411                                   | )          | (8,411 | ) |
| Net cash  provided (used) by operating activities                                |       | (13,384                                  | )          | 258,587 |   |
| Investing  Activities:                                                           |       |                                     |       |   |   |
| Purchase of  property and equipment                                              |       | (47,543                                  | )          | (32,991 | ) |
| Net cash  used in investing activities                                           |       | (47,543                                  | )          | (32,991 | ) |
| Financing  Activities:                                                           |       |                                     |       |   |   |
| Issuance of  common stock                                                        |       | —                                   |       | 3,756 |   |
| Bank  borrowing (repayment)                                                      |       | 100,000                                  |       | (100,000 | ) |
| Principal payments  on capital lease obligations                                 |       | (45,617                                  | )          | (15,294 | ) |
| Net cash  provided (used in) financing activities                                |       | 54,383                                   |       | (111,538 | ) |
| Net increase  (decrease) in cash                                                 |       | (6,544                                   | )          | 114,058 |   |
| Cash at  beginning of period                                                     |       | 480,609                                  |       | 342,433 |   |
| Cash at end  of period                                                           |       | $                                        | 474,065    |   | $ | 456,491 |   |

 

See accompanying notes.

 

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** **

**GlobalSCAPE, Inc.**

** **

**Notes to Financial Statements**

** **

# **Nature of Business**

# ** **

GlobalSCAPE,Inc. (collectively referred to as “GlobalSCAPE” or “the Company”), founded in April 1996,develops and distributes Internet related software. The Company is best knownfor its popular file transfer program, CuteFTP. The Company derives its revenues primarily from sales of licenses to useits software products.  Sales of CuteFTPand CuteFTP Pro accounted for approximately 75% and 70% of total revenues in2003 and the first nine months of 2004 respectively.  The Company is organized and operates as onesegment and markets its products primarily through the Internet, additionallywith an internal sales force and through resellers.

 

***CorporateStructure***

*** ***

All of theCompany’s operations are conducted by GlobalSCAPE Texas, LP, a Texas limitedpartnership.  The partners of GlobalSCAPETexas, LP are two Nevada limited liability companies, which are bothwholly-owned subsidiaries of GlobalSCAPE, Inc., a Delaware corporation.  GlobalSCAPE, Inc. is approximately 71% ownedby the Brown and Mann-GlobalSCAPE Joint Venture, with the remainder held publicly.  GlobalSCAPE, Inc. is a holding company andconducts no operations, however, the stock ofGlobalSCAPE, Inc. is quoted on the OTC Bulletin Board.  References to “GlobalSCAPE” or the “Company”refer collectively to all of these entities unless otherwise indicated.

 

# **Basis of Presentation**

# ** **

The accompanyingunaudited financial statements have been prepared in accordance with Rule 10-01of Regulation S-X, “Interim Financial Statements.”  Accordingly, they do not include allinformation and footnotes required under generally accepted accounting principlesfor complete financial statements.  Inthe opinion of management, all adjustments (consisting of normally recurringaccruals) considered necessary for a fair presentation have been made.  The results of operations for any interimperiod are not necessarily indicative of the results to be expected for thefull year.

 

The BalanceSheet at December 31, 2003 has been derived from the audited financialstatements at that date but does not include all the information and footnotesrequired by generally accepted accounting principles for complete financialstatements.  For further information,refer to the financial statements and footnotes included in GlobalSCAPE’sAnnual Report on Form 10-K for the year ended December 31, 2003.

 

# **Principles of Consolidation**

# ** **

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

*** ***

***Liquidity***

*** ***

The Companymaintained its positive working capital position through the third quarter of2004 through a combination of revenue growth and continued expensecontrol.  The Company incurredsignificant operating losses during the year ended December 31, 2003 andthe quarter ended March 31, 2004 but returned to profitability for boththe second and third quarters of 2004. In February 2004 GlobalSCAPEreduced its workforce by 20%, laying off 9 of the 45 people then employed bythe Company.  This workforce reductionwas a necessary step in improving the overall financial health of the Company.GlobalSCAPE reduced total operating expenses by approximately $591,375 for thenine months ended September 30, 2004 over the same period in 2003, whilesales declined $36,418 over the same periods.

 

The Company ishighly dependent on the sale of two software products, CuteFTP and CuteFTP Pro,which may be subject to technological and competitive obsolescence.  Revenues from these two products declinedapproximately 9% when comparing the first nine months of 2003 to the sameperiod in

 

5

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2004.  However, the decline inrevenues from the sale of these two products was offset by sales of newerproducts such as Secure FTP Server, FTP for Mac and Publish XML.  Total revenues declined only 1% whencomparing the first nine months of 2003 to 2004.

 

On March 30,2004, the Company obtained a $200,000 line of credit with the Brown andMann-GlobalSCAPE Joint Venture.  The lineof credit is available after June 21, 2004 if the Company fails to extenda line of credit with a bank and matures on December 31, 2004. Theinterest rate is subject to change and is indexed to the prime rate publishedin the Wall Street Journal.  Inconnection with the line of credit, GlobalSCAPE entered into a CommercialSecurity Agreement with the Brown and Mann-GlobalSCAPE Joint Venture wherebyGlobalSCAPE granted a security interest in all its accounts and equipment. TheCompany does not expect to extend this line of credit upon maturity.

 

The Companyrenewed a $250,000 revolving line of credit agreement with a commercial bank onAugust 12, 2004 which is due on demand, but if no demand is made, then on December 21,2004.  The interest rate is subject tochange and is indexed to the Wall Street Journal prime rate.  The initial rate is 6.00%.  In connection with the line of credit,GlobalSCAPE entered into a Commercial Security Agreement with the bank wherebyGlobalSCAPE granted a security interest in all its accounts receivable andequipment.  The Company has not borrowedagainst the line of credit since the renewal. GlobalSCAPE expects to extend theline of credit with the bank when it matures in December 2004.

 

***Reclassifications***

*** ***

Certain priorperiod amounts have been reclassified to conform to the current yearpresentation. These reclassifications had no impact on operating income aspreviously reported.

 

# **Sale / Disposal of Assets**

# ** **

During thefirst three quarters of 2004, the Company did not sell or dispose of any fixedassets.

 

# **Stock-Based Compensation**

# ** **

Statement ofFinancial Accounting Standards 123, *Accountingfor Stock-Based Compensation  (*SFAS 123),encourages, but does not require, companies to record compensation cost forstock-based employee compensation plans based on the fair market value ofoptions granted. The Company chose to account for stock based compensation usingthe intrinsic value method prescribed in APB Opinion No. 25, *Accounting for Stock Issued to Employees*,and related interpretations. Accordingly, compensation expense is recorded tothe extent that the current market price of the underlying stock exceeds theexercise price.  In December 2002,the Financial Accounting Standards Board (“FASB”) issued Statement of FinancialAccounting Standard 148, *Accounting forStock Based Compensation - Transition and Disclosure* (SFAS 148),which amends SFAS 123.  SFAS 148 requiresmore prominent and frequent disclosures about the effects of stock-basedcompensation. The Company will continue to account for its stock-basedcompensation according to the provisions of APB Opinion No. 25.

 

Pro formainformation regarding net income and earnings per share is required byStatement 148, which also requires that the information be determined as if theCompany had accounted for its stock options granted subsequent to December 31,1994 under the fair value method of that Statement.  The fair value of these options was estimatedat the date of grant using a Black-Scholes option-pricing model.

 

For purposesof pro forma disclosures, the estimated fair value of the options is amortizedto expense over the options’ vesting period. The Company’s pro forma information for the three and nine months ended September 30,2003 and 2004 follows:

 

6

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| ** **                                                                                                                                                                                         | ** ** | **Three months ended  September 30,** | ** ** | **Nine months ended  September 30,** | ** ** |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                                                                                                                                                         | ** ** | **2003**                                   | ** ** | **2004**                                  | ** ** | **2003** | ** ** | **2004** | ** ** |
| Net Income,  as reported                                                                                                                                                                           |       | $                                          | 82,584     |                                      | $          | 134,971 |   | $ | (426,250 | ) | $ | 133,572 |   |
| Stock-based  compensation expense that would have been included in the determination of  net income (loss) had the fair value based method been applied to all awards,  net of related tax effects |       | (8,634                                     | )          | (3,554                                    | )          | (39,114 | ) | (15,729 | ) |
| Pro forma  net income (loss)                                                                                                                                                                       |       | $                                          | 73,950     |                                      | $          | 131,417 |   | $ | (465,364 | ) | $ | 117,843 |   |
|                                                                                                                                                                                               |       |                                       |       |                                      |       |   |   |   |   |
| Income  (Loss) per share:                                                                                                                                                                          |       |                                       |       |                                      |       |   |   |   |   |
| Basic- as  reported                                                                                                                                                                                |       | $                                          | 0.01       |                                      | $          | 0.01 |   | $ | (0.03 | ) | $ | 0.01 |   |
| Basic- pro  forma                                                                                                                                                                                  |       | $                                          | 0.01       |                                      | $          | 0.01 |   | $ | (0.03 | ) | $ | 0.01 |   |
|                                                                                                                                                                                               |       |                                       |       |                                      |       |   |   |   |   |
| Diluted- as  reported                                                                                                                                                                              |       | $                                          | 0.01       |                                      | $          | 0.01 |   | $ | (0.03 | ) | $ | 0.01 |   |
| Diluted- pro  forma                                                                                                                                                                                |       | $                                          | 0.01       |                                      | $          | 0.01 |   | $ | (0.03 | ) | $ | 0.01 |   |

 

During thethird quarter ended September 30, 2004, 105,000 options were granted to variousemployees at an average exercise price of $0.1225 per share. There were nooptions exercised by employees during the third quarter of 2004. Additionally,45,000 stock options were forfeited in the third quarter 2004.

 

# **Earnings per Common Share**

 

Basic anddiluted net income per common share is presented in conformity with Statementof Financial Accounting Standards No. 128, “Earnings PerShare” (SFAS 128) for all periods presented. Basic earnings per share is basedon the weighted effect of all common shares issued and outstanding, and iscalculated by dividing net income (loss) available to common stockholders bythe weighted average shares outstanding during the period. Diluted earnings pershare is calculated by dividing net income (loss) available to commonstockholders by the weighted average number of common shares used in the basicearnings per share calculation plus the number of common shares that would beissued assuming conversion of all potentially dilutive common sharesoutstanding.  Below is a reconciliationof the numerators and denominators of basic and diluted earnings per share foreach of the periods presented:

 
| ** **                                                   | ** ** | **Three months ended September 30,** | ** ** | **Nine months ended September 30,** | ** ** |
|--------------------------------------------------------------|------------|-------------------------------------------|------------|------------------------------------------|------------|
| ** **                                                   | ** ** | **2003**                                  | ** ** | **2004**                                 | ** ** | **2003** | ** ** | **2004** | ** ** |
| **Numerators**                                               |       |                                      |       |                                     |       |   |   |   |   |
|                                                         |       |                                      |       |                                     |       |   |   |   |   |
| Numerators  for basic and diluted earnings per share:        |       |                                      |       |                                     |       |   |   |   |   |
| Net income  (loss)                                           |       | $                                         | 82,584     |                                     | $          | 134,971 |   | $ | (426,250 | ) | $ | 133,572 |   |
|                                                         |       |                                      |       |                                     |       |   |   |   |   |
| **Denominators**                                             |       |                                      |       |                                     |       |   |   |   |   |
|                                                         |       |                                      |       |                                     |       |   |   |   |   |
| Denominators  for basic and diluted earnings per share:      |       |                                      |       |                                     |       |   |   |   |   |
| Weighted  average shares outstanding – basic            |       | 13,358,619                                |       | 13,773,219                               |       | 13,358,619 |   | 13,633,611 |   |
|                                                         |       |                                      |       |                                     |       |   |   |   |   |
| **Dilutive  potential common shares**                        |       |                                      |       |                                     |       |   |   |   |   |
|                                                         |       |                                      |       |                                     |       |   |   |   |   |
| Stock  options (1)                                           |       | 916,673                                   |       | 530,567                                  |       | — |   | 530,567 |   |
| Denominator  for dilutive earnings per share                 |       | 14,275,292                                |       | 14,303,786                               |       | 13,358,619 |   | 14,164,178 |   |
| Net income  (loss) per common share                          |       | $                                         | 0.01       |                                     | $          | 0.01 |   | $ | (0.03 | ) | $ | 0.01 |   |
| Net income  (loss) per common share – assuming dilution |       | $                                         | 0.01       |                                     | $          | 0.01 |   | $ | (0.03 | ) | $ | 0.01 |   |

 

7

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(1)          For the three and ninemonths ended September 30, 2004, 1,288,004 options have not been includedin dilutive shares, as the effect would be anti-dilutive.  For the three and nine months ended September 30,2003, 1,074,998 and 1,991,671 options have not been included in dilutive sharesrespectively, as the effect would be anti-dilutive.

 

# **Item2.**  Management’s Discussion and Analysis ofFinancial Condition and Results of Operations

# ** **

This QuarterlyReport on Form 10-Q contains “forward-looking statements” within the meaning ofSection 27A of the Securities Act of 1933, as amended, and Section 21Eof the Securities and Exchange Act of 1934, as amended.  “Forward looking statements” are thosestatements that describe management’s beliefs and expectations about thefuture.  We have identifiedforward-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 AnnualReport on Form 10-K and other documents filed with the Securities and ExchangeCommission.  GlobalSCAPE’s actual resultscould differ materially from those discussed in any forward-looking statementsincluded in this Quarterly Report.

 

**Overview**

 

GlobalSCAPEdevelops and distributes Internet related software including File Management,Content Management and Web Development Tools. We distribute our software primarily via download from our Internetwebsite.  During 2003 and the thirdquarter of 2004, approximately 66% of our revenues were generated fromcustomers within the United States, with the remaining 34% concentrated mostlyin Western Europe, Canada and Australia.

 

•                  **Content Management Products**–****Our Content Management Products helpnon-technical business users update and manage Web Site content withoutexcessive training. The product line includes PublishXML, PureCMS and SnapEdit.

 

•                  **File Management Products** – Our FileManagement products are best known for the “CuteFTP” product line. Theyprimarily consist of products that help users move and copy files on theInternet. A substantial portion of our revenues are derived from licensing ourFile Management products. Some of our products encrypt the transfers forsecurity using technology similar to a Web browser. Our File Management productline includes CuteFTP Home, Cute FTP Professional, SecureFTP Server andCuteZIP.

 

•                  **Web Development Products** – Our WebDevelopment Products help Web developers create Web sites. They provide a widerange of capabilities such as creating Web sites from a template, directediting of Web based computer code and creating Web surveys. Our Web Developmentproduct line includes CuteSITE Builder, CuteHTML, CuteMAP and Web Survey.

 

CuteFTP Homeand CuteFTP Professional accounted for approximately 76% and 70% of totalrevenues in the quarters ended September 30, 2003 and 2004,respectively.  Sales of these productsdeclined approximately 9% when comparing the third quarter of 2003 to the thirdquarter of 2004.  This decline incombined sales was due to a 34% decline in sales of CuteFTP Home. However,sales of CuteFTP Professional increased approximately 32% over the sameperiods.  Total revenues decreasedapproximately 1% from the third quarter of 2003 to the third quarter of 2004, Secure Server sales increased approximately 118% overthe same period and accounted for 13.6% of sales in the quarter ended September 30,2004.

 

Substantiallyall software products ultimately reach a point in their lifecycle in whichsales can be expected to plateau or decline. While it cannot be determined with certainty, CuteFTP Home and CuteFTPProfessional may have reached such a point in their lifecycles.  Management believes that the market forstand-alone FTP clients for home consumers may be declining.  However, we have not seen the same decline inthe market for secure FTP clients and servers such as CuteFTP Professional andSecure Server which we believe better target the needs of businesses.

 

8

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Our success in2004 is, to a great extent, dependent on our ability to market and sell ourcontent management products effectively as well as our ability to maintain therevenues generated by CuteFTP products. We also believe that we have an opportunity to increase sales of CuteFTPProfessional and Secure Server.  Ingeneral, our success depends on our ability to introduce new products and themarket’s acceptance of these products. We released new versions of CuteFTP Home, CuteFTP Professional andSecure Server early in 2004 and we believe we can slow the decline in sales ofCuteFTP Home and improve sales of CuteFTP Professional and Secure Server.  In the third quarter, GlobalSCAPE releasednew products CuteFTP Server and SnapEDIT, along with a new version of PureCMS.

 

##### **Liquidity and CapitalResources**

##### ** **

The Companymaintained a positive working capital position as of September 30, 2004through a combination of revenue growth and expense reductions.  The Company incurred significant operatinglosses during the last three years and in the first quarter of 2004.  In February 2004 GlobalSCAPE reduced itsworkforce by 20%, laying off 9 of the 45 people then employed by theCompany.  This workforce reduction was anecessary step in improving the overall financial health of the organization.

 

We relyheavily on cash flows from operations and these cash flows are directly linkedto CuteFTP Home and CuteFTP Professional, which accounted for 76% and 70% ofour revenues in the nine months ended September 30, 2003 and 2004respectively.  Much of the decline inrevenues from the sale of these two products was offset by sales of newerproducts in the third quarter of 2004, namely, Secure Server, CuteHTML PRO, FTPfor MAC, FTP for MAC PRO and PublishXML. Total revenues decreased 1% when comparing the third quarter of 2004 tothe same period in 2003.

 

The Company’sliquidity could be reduced in 2004 if sales of CuteFTP Home continue to declineand the Company is unable to successfully introduce new products or increasesales of existing products.

 

If salescontinue to decline or the Company’s liquidity position otherwise requires,management has the intent and ability to substantially reduce personnel andpersonnel-related costs, reduce or substantially eliminate capital expendituresand/or reduce or substantially eliminate research and development expenditures.

 

On March 30,2004, the Company obtained a $200,000 line of credit with the Brown andMann-GlobalSCAPE Joint Venture.  The lineof credit is available after June 21, 2004 if the Company fails to extenda line of credit with a bank and matures on December 31, 2004.  The interest rate is subject to change and isindexed to the prime rate published in the Wall Street Journal.  In connection with the line of credit,GlobalSCAPE entered into a Commercial Security Agreement with the Brown andMann-GlobalSCAPE Joint Venture whereby GlobalSCAPE granted a security interestin all its accounts and equipment.  Thecompany has renewed their line of credit with a bank in the amount of $250,000and it matures on December 21, 2004, no borrowings have been made on theseinstruments in the third quarter of 2004. The company expects to renew only theline of credit with the bank upon maturity in December 2004.

 

Net cashprovided by operating activities was $258,587 for the nine months ended September 30,2004 as compared to $13,384 used in the nine months ended September 30,2003.  Cash provided in operations forthe nine months ended September 30, 2004, was primarily the result of netincome and depreciation and amortization, and to a lesser extent decreases inaccounts receivable, accrued expenses, and deferred revenue offset by adecrease in accounts payable.

 

Net cash usedin investing activities for the nine months ended September 30, 2003 and2004 was $47,543 and $32,991, respectively. The net cash used in both periods was mainly for the purchase ofcomputer hardware and software.

 

Net cashprovided by (used in) financing activities for the nine months ended September 30,2003 and 2004 was $54,383 and $(111,538), respectively. Net cash provided byfinancing activities for the period ended September 30, 2003 consisted of$45,617 in principal payments on capital lease obligations, and $100,000borrowing on a bank line of credit. The financing activity in the nine monthsended September 30, 2004 was related to $15,294 in principal payments oncapital lease obligations, a $100,000 repayment of a bank loan and $3,756 inreceipts related to the exercise of stock options.

 

9

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As of September 30,2004 we had $456,491 in cash, total current assets of $724,341 and current liabilitiesof $469,430, resulting in working capital of $254,911, a $235,698 improvementover the working capital of $19,203 at June 30, 2004.  Our principal commitments consisted ofobligations outstanding under operating leases as well as royalty agreements with third partiesand trade accounts payable.  We plan tocontinue to expend significant resources on product development in futureperiods and may also use our cash to acquire or license technology, products orbusinesses related to our current business. We expect that operating expenses will continue to be a material use ofour cash resources as well.  The facilitythat we currently occupy is expected to be sufficient for our growth for thenext twelve months.  Consequently, we donot anticipate significant expenditures for leasehold improvements or furniturefor 2004.

 

The following table sets forth the future minimum payments requiredunder contractual commitments at September 30, 2004:

 
| ** **               | ** ** | **Payments Due by Fiscal Year** | ** ** |
|--------------------------|------------|---------------------------------|------------|
| ** **               | ** ** | **2004 (1)**                    | ** ** | **2005** | ** ** | **2006** | ** ** | **2007** | ** ** | **2008** | ** ** | **Thereafter** | ** ** | **Total** | ** ** |
| Contractual  Obligations |       |                            |       |   |   |   |   |   |   |   |   |   |   |   |   |
| Operating  Lease         |       | $                               | 47,665     |   | $ | 190,659 |   | $ | 190,659 |   | $ | 190,659 |   | $ | 95,330 |   | — |   | $ | 714,972 |   |
| Equipment  Leases        |       | 1,564                           |       | 6,257 |   | 6,257 |   | 3,105 |   | — |   | — |   | 17,183 |   |
| Total Cash  Obligations  |       | $                               | 49,229     |   | $ | 196,916 |   | $ | 196,916 |   | $ | 193,764 |   | $ | 95,330 |   | — |   | $ | 732,155 |   |

 

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(1)          Amounts for 2004 reflect the future minimum payments for the remaining three months of the fiscal year.

 

##### **Critical AccountingPolicies**

##### ** **

# ***Useof Estimates***

# ** **

Management’sDiscussion and Analysis of Financial Condition and Results of Operations arebased upon the Company’s financial statements, which have been prepared inaccordance with accounting principles generally accepted in the UnitesStates.  The preparation of these financialstatements requires management to make estimates and assumptions that affectthe reported amount of assets and liabilities. On an ongoing basis, management evaluates its estimates and judgments,including those related to revenue recognition, allowance for doubtful accountsreceivable, long-lived and intangible assets, income taxes, contingencies andlitigation.  Management bases itsestimates on historical experience, observable trends, and various otherassumptions that are believed to be reasonable under the circumstances.  Management uses this information to makejudgments about the carrying values of assets and liabilities that are notreadily apparent form other sources. Actual results may differ from the estimates under different assumptionsor conditions.

 

Managementbelieves the following critical accounting policies affect its more significantjudgments and estimates used in the preparation of its financial statements.

 

***RevenueRecognition***

* *

Our revenue is generatedprimarily by licensing our software products and providing support for thoseproducts.  Revenues are comprisedof the gross selling price of the software, including shipping charges and theearned portion of support and maintenance agreements.  The Company recognizes revenue in accordancewith the American Institute of Certified Public Accountants Statement ofPosition (“SOP”) 97-2, *Software RevenueRecognition*, as modified by SOP 98-9, *Modification of SOP 97-2, Software Revenue Recognition, With Respect toCertain Transactions*.

 

Revenues fromthe sale of software products are recognized and completely earned uponshipment or electronic delivery of the product provided that persuasiveevidence of an arrangement exists, collection is probable, payment terms arefixed and determinable and no significant obligations remain.

 

We also selltechnical support and maintenance agreements (post contract customer support “PCS”),which are sometimes bundled with the software. When vendor specific objective evidence (“VSOE”) of fair valueexists for all elements in a multiple element arrangement, revenue is allocatedto each element based on the relative fair value of each of the elements. VSOEof fair value is established by the price charged when the same element is soldseparately.  In a multiple elementarrangement whereby

 

10

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VSOE of fair value of all undelivered elements exists but VSOE of fairvalue does not exist for one or more delivered elements, revenue is recognizedusing the residual method. Under the residual method, the fair value of theundelivered elements is deferred and the remaining portion of the arrangementfee is recognized as revenue, assuming collection is probable.  Revenue allocated to PCS is recognizedratably over the contractual term, typically one year.

 

The Companybegan selling technical support and maintenance services for some of itssoftware products in 2001 and had deferred recognition of approximately $11,000in revenue at the end of that year. Deferred revenue grew to a balance of approximately $140,000 at December 31,2003 and $171,000 at September 30, 2003 and $169,000 at September 30,2004.  The rate of growth in deferredrevenue was due primarily to the rapid growth in the sale of technical supportand maintenance agreements in the fourth quarter of 2002 and the first quarterof 2003.  However, sales of maintenanceand support contracts declined in second and third quarters of 2003 whencompared to the first quarter even as total sales increased.  If the level of sales of technical supportand maintenance agreements remains the same or declines, the balance ofdeferred revenues will stabilize or decline. However, if sales grow, this balance will increase, resulting in the deferredrecognition of a significant amount of revenue in future periods.

 

***Allowance for Doubtful Accounts***

*** ***

We providecredit, in the normal course of business, to a number of companies and performongoing evaluations of our credit risk. We require no collateral from our customers and we estimate theallowance for uncollectible accounts based on our historical experience andcurrent credit evaluations.  No singlecustomer accounted for more than 2% of revenues in 2003 or the first ninemonths of 2004.

 

***Valuationof Long-Lived and Intangible Assets***

* *

The Companyassesses the impairment of long-lived and intangible assets whenever events orchanges in circumstances indicate that the carrying value may not berecoverable.  Factors consideredimportant which could trigger an impairment review included the following:  significant underperformance relative tohistorical or projected future cash flows; significant changes in the manner ofuse of the assets or the strategy for the overall business; and significant negativeindustry trends.  When management determinesthat the carrying value of long-lived and intangible assets may not berecoverable, impairment is measured based on the excess of the assets’ carryingvalue over the estimated fair value.  Noimpairment was recognized in 2003 or the first nine months of 2004.

 

***Stock-BasedCompensation***

* *

The Companyhas adopted Statement of Financial Accounting Standards No. 123, *Accounting for Stock Based Compensation*,and elected to use the intrinsic value method in accounting for its stockoption plan in accordance with Accounting Principles Board opinion No. 25, *Accounting for Stock Issued to Employees*andrelated interpretations under which compensation expense is recorded to theextent that the current market price of the underlying stock exceeds theexercise price.

 

During thethird quarter of 2004, 105,000 options were granted to various employees at anaverage exercise price of $0.125 per share. During the nine months ended September 30, 2004, 284,600 optionswere exercised at an average price of $0.0132 per share, by employees.  Additionally, 119,000 shares were foreitedand grants of  366,000options were issued.

 

***Research and Development***

*** ***

Research anddevelopment expenses include all direct costs, primarily salaries for personneland expenditures with external development sources, related to the developmentof new products and significant enhancements to existing products and areexpensed as incurred until such time as technological feasibility is achieved.For the nine months ended September 30, 2003 and 2004, we spentapproximately $648,000 and $552,000, respectively, on research anddevelopment.  No research and developmentexpenses were capitalized in either of these periods and all previouslycapitalized research and development expenses were fully amortized at December 31,2002.

 

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***Income Taxes***

*** ***

GlobalSCAPEaccounts for income taxes using the liability method in accordance withStatement of Financial Accounting Standards No. 109, *Accounting for Income Taxes*. The liability method providesthat the deferred tax assets and liabilities are recorded based on thedifference between the book and tax basis of assets and liabilities and theircarrying amount for financial reporting purposes, as measured by the enactedtax rates and laws that will be in effect when the differences are expected toreverse.  Deferred tax assets are carriedon the balance sheet with the presumption that they will be realizable infuture periods when pre-taxable income is generated.

 

Statement ofFinancial Accounting Standards (SFAS) No. 109 requires a valuation allowance toreduce the deferred tax assets reported if, based on the weight of theevidence, it is more likely than not that some portion or all of the deferredtax assets will not be realized.  Based on these criteria, management hasconcluded that no income tax benefits are to be recorded related to the netincome for the nine months ended September 30, 2004, because we cannot becertain of the future period recoverability of tax assets generated from anyavailable net operating losses.

 

# **Comparison of the Three Months ended September 30,2003 and 2004**

# ** **

***Revenue.***  For the three months ended September 30,2003 and 2004, total revenues decreased $66,459 or 5% from $1,336,682 to $1,270,223largely due to the $74,681 decrease in the sales of Cute FTP and CuteFTP Profrom $942,658 to $867,977 between the respective periods.  Reveues from Cute FTP declined approximately39% and CuteFTP Pro increased approximately 34%. Combined revenues from CuteFTPand CuteFTP Pro declined approximately 8% over the comparable periods andaccounted for approximately 68% of total revenues for the three months ended September 30,2004.

 

***Cost of Revenues.***  Cost of revenues consists primarily ofproduction, packaging and shipping costs for boxed copies of software productsas well as a portion of our bandwidth costs, certain licensing expenses androyalties.  Cost of revenues decreased$16,847 or 13% between periods from $128,404 for the three months ended September 30,2003 to $111,556 for the three months ended September 30, 2004 due todecreased royalty expenses and an increase in outside professionalservices.  Royalties that the Companypays on software products licensed from third parties, which it resells, areexpensed as a cost of sale when the software product is sold or earlier if therecoverability of any prepaid royalties is in doubt.  The Company has distribution agreements withHannon Hill Corp., Trellix Corp., Perseus Development Corp., Beehive Software,Inc., Visicom Media, Inc., and Xnet Communications GmbH.  The GlobalSCAPE software products associatedwith each of the companies are PureCMS / Publish XML, CuteSITE Builder, WebSurvey, Mac FTP, CuteHTML Pro, and Mac FTP Pro, respectively.  GlobalSCAPE’s agreement with Hannon HillCorp. required a minimum royalty of $16,667 per month, as prepayment ofroyalties, for 12 months beginning in December 2002.  These payments were expensed as paid becausethe lower than expected sales of PureCMS raised doubt as to the realization ofbenefit from these prepayments.  Thetotal amount expensed in 2003 relating to these prepayments was $183,337.  As a result, we expect the cost of revenuesto decline both as a percentage of sales and in gross terms in 2004 whencompared to 2003 as we recover benefit from these minimum royalties.

 

***Selling, General andAdministrative.***  Selling, general and administrative expensesconsist primarily of personnel and related expenses, marketing, customersupport, rents, bad debt and professional fees. For the three months ended September 30, 2003 and 2004, selling,general and administrative expenses were $790,200 and $823,813, respectively,an increase of $33,613 or 4%.

 

***Research andDevelopment.***  Research and development expenses decreased$60,824 or 27% between periods, from $226,567 to $165,743.  The increase was due to decreasedexpenditures for external development resources as well as lower personnelcosts for internal staff.

 

***Depreciation andAmortization.***  Depreciation and amortization expenseconsists of depreciation expense related to our fixed assets, amortization ofthe trademark associated with our purchase of CuteFTP and in prior periods,amortization of capitalized development costs. Depreciation and amortization expense decreased from $106,511 to$33,769, a decrease of 68%.  Thisdecrease was due to a reduction in depreciation expense as fixed assets come tothe end of their depreciable lives as well as a slowdown in additions to fixedassets in current periods relative to prior periods.

 

12

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***Other Income,Expense.*** For the three months ended September 30, 2003 and 2004, interestexpense decreased from $1,016 to $371, respectively.  The majority of interest expense incurredduring these periods was related to capital leases.

 

***Income Taxes.***  Although we recorded net income for the threemonths ended September 30, 2003 and 2004, we did not recognize a taxliability related to this net income. The amount of current tax expensegenerated from quarterly taxable income was offset by a reduction in thevaluation allowance posted in prior periods against deferred tax assets.   Asdiscussed in our Annual Report on Form 10K, we cannot be certain of thefuture period recoverability of tax assets generated from available netoperating losses.

 

 ***Net Income (Loss).***  GlobalSCAPE recorded net income of $82,584and $134,971 for the three months ended September 30, 2003 and 2004,respectively. The positive results in the third quarter 2004 were largely theresult of reductions to operating costs discussed above.

 

# **Comparison of the Nine Months ended September 30,2003 and 2004**

# ** **

***Revenue.***  For the nine months ended September 30,2003 and 2004, total revenues decreased $36,418 or 1% from $3,766,576 to$3,730,158. Revenues from CuteFTP Home and CuteFTP Professional  declined 9% between periods.  Total revenues were helped somewhat byincreased sales of some of our newer products such as CuteSITE Builder, SecureServer, PureCMS, FTP for MAC, FTP for MAC PRO,CuteHTML PRO, Web Survey and PublishXML.

 

 ***Cost of Revenues.***  Cost of revenues consists primarily ofproduction, packaging and shipping costs for boxed copies of software productsas well as a portion of our bandwidth costs, certain licensing expenses androyalties.  Cost of revenues decreased$97,674 or 24% between periods from $401,475 to $304,071 for the nine monthsending September  30, 2003 and 2004,respectively, due to decreased royalty expenses related to our technologylicensing agreement for the PureCMS product.

 

***Selling, General andAdministrative.***  Selling, general and administrative expensesconsist primarily of personnel and related expenses, marketing, customersupport, rents, credit card transaction fees, bad debt and professional fees.  For the nine months ended September 30,2003 and 2004, selling, general and administrative expenses decreased $205,453or 7%.  The decrease is largely due tothe decrease in expenditures for the PureCMS product launch in 2003 and offsetby increases in sales commissions, health insurance costs, software maintenanceand professional fees in 2004.

 

***Research andDevelopment.***  Research and development expenses decreased$95,182 or 15% between periods, from $647,659 to $552,477.  The decrease was due to slightly lowerpersonnel costs for internal staff and the reduction of outside developmentresources.

 

***Depreciation andAmortization.***  Depreciation and amortization expenseconsists of depreciation expense related to our fixed assets, amortization ofthe trademark associated with our purchase of CuteFTP and in prior periods,amortization of capitalized development costs. Depreciation and amortization expense decreased from $332,848 to$139,782, a decrease of 58%.  Thisdecrease was mainly due to the purchase of CuteFTP being fully amortized as of September 30,2003 and due to a reduction in depreciation expense as fixed assets come to theend of their depreciable lives.

 

***Other Income,Expense.*** For the nine months ended September 30, 2003 and 2004, interest expensedecreased from $3,071 to $1,091, respectively. The majority of interest expense incurred during these periods wasrelated to capital leases.  During thenine months ended September 30, 2003, we recognized a loss on the disposalof fixed assets in the amount of $1,486.

 

***Income Taxes.***  We recognized no benefit related to the netincome in the first nine months of 2003 because we cannot be certain of thefuture period recoverability of tax assets generated from available netoperating losses. The provision for state income taxes in 2003 was $1,400 andno provision for federal income taxes in 2003.

 

Although werecorded net income for the nine months ended September 30, 2004, we didnot recognize a tax liability related to this net income. The amount of currenttax expense generated for the nine

 

13

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months ending September 30,2004 was offset by a reduction in the valuation allowance posted in priorperiods against deferred tax assets.   As discussed in our Annual Report onForm 10K, we cannot be certain of the future period recoverability oftax assets generated from available net operating losses.

 

***Net Income (Loss).***  GlobalSCAPE incurred a net loss of $426,250 and  net income of$133,573 for the nine months ended September 30, 2003 and 2004,respectively.  The net loss in the ninemonths ended September 30, 2003 was due to the approximately $460,000 inproduct launch expenses in the first quarter of 2003. The net income in thenine months ended September 30, 2004 was largely due to the layoff of 9people in February  2004, lower depreciation andamortization expense and the result of expense cuts in the first quarter of2004 and realized in the second and third quarters of 2004. The net income forthe nine months ended September 30, 2004 is an improvement ofapproximately $558,423 over the same period in 2003.

 

##### **Inflation**

##### ** **

Increases ininflation generally result in higher interest rates and operating costs.  Our greatest exposure is to the cost ofsalaries and general and administrative expenses. To date we believe thatinflation has not had a significant impact on our operations.

 

##### **Seasonality**

##### ** **

We believe oursales are subject to seasonal variations. We experience significantly less sales volume during national holidaysand weekends when compared to normal business days. We expect that in futureperiods we will see weakness in the fourth quarter when compared to the thirdquarter due to the holiday season.

 

**Item 3.****  Quantitativeand Qualitative Disclosures About Market Risk**

 

To date, wehave not utilized derivative financial instruments or derivative commodityinstruments.  We do not expect to employthese or other strategies 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 ninemonths ended September 30, 2004, approximately 34% of our revenues camefrom customers outside the United States.** **All revenues are received in U.S.dollars so we have no exchange rate risk with regard to the sale.  However, as of July 1, 2003, theEuropean Union (EU) enacted Value Added Taxes (VAT) on electronicpurchases.  These taxes are charged toour non-business customers in the EU and, in our case, are remitted quarterlyin pound sterling.   We expect that theimpact of this currency translation will not be material to our business.

 

# **Item4.**  Controls and Procedures

# ** **

a)            Evaluation ofdisclosure controls and procedures. Within the 90 days prior to the filing date of this report, ourPresident and Chief Financial Officer carried out an evaluation of GlobalSCAPE’sdisclosure controls and procedures (as defined SEC Rules 13a-14 and 15d-14under the Securities Exchange Act of 1934, as amended, (the “Exchange Act”))and concluded that the controls and procedures are effective in recording,processing, summarizing and reporting the information required to be disclosedby GlobalSCAPE in the reports it files with the SEC under the Exchange Actwithin the time periods specified in the SEC’s rules and forms.

 

b)           Changes in internalcontrols.  There wereno material changes in GlobalSCAPE’s internal controls subsequent to theevaluation described above.

 

## **Part II. **Other Information.

## ** **

# **Item1.**         Legal Proceedings

# ** **

We are notcurrently involved in any material legal proceedings.

 

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# **Item 2.**         Changes in Securities and Use of Proceeds

# ** **

Nonein the third quarter of 2004.

 

# **Item 3.**         Defaults Upon SeniorSecurities

# ** **

Not applicable.

 

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

# ** **

None in the third quarter of 2004.

 

# **Item5.**         Other Information

# ** **

Stefan Lagmarkwas named Vice President of Sales and Marketing effective August 16, 2004replacing Jeffrey Gehring who served as Vice President of Sales until July 30,2004.

 

# **Item 6.**         Exhibits and Reports on Form 8-K

# ** **

**(a)**                                Exhibits

 

31.1Certificate pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

31.2Certificate pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

 

32.1Certificate pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

 

**(b)**                                Reportson Form 8-K

 

A Form 8-K wasfiled on September 21, 2004, under Item 4.01, relating to a Change inAccountants on September 16, 2004.

 

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**Signatures**

** **

Pursuant to the requirements of the SecuritiesExchange Act of 1934, the registrant has duly caused this report to be signedon its behalf by the undersigned thereunto duly authorized.

 
|                   |   |   | GLOBALSCAPE,  INC.                     |   |
|------------------------|--------|--------|----------------------------------------|--------|
|                   |   |   |                                   |
|                   |   |   |                                   |
| November 12, 2004 |   | By:    | /s/  Charles R. Poole                  |   |
| Date                   |   |   | Charles  R. Poole                      |
|                   |   |   | President  and Chief Operating Officer |
|                   |   |   |                                   |
| November 12, 2004 |   | By:    | /s/ Thomas F. Farar                    |   |
| Date                   |   |   | Thomas F. Farar                        |
|                   |   |   | Chief Financial Officer                |
|                        |        |        |                                        |        |  |

 

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