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Securities and Exchange Commission  Form 10-Q Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Quarterly Period Ended September 30, 2004 Commission file number 000-20699 DATATRAK International, Inc. 
  Ohio
    
    34-1685364(State or other jurisdiction of
    
    (I.R.S. Employerincorporation or organization)
    
    Identification No.)6150 Parkland BoulevardMayfield Heights, Ohio
    
    44124(Address of principal executive offices)
    
    (Zip Code)
 (440) 443-0082 
     Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past
90 days.   [X]   Yes   [   ]   No Indicate by check mark whether the registrant is an accelerated filer (as
defined in Exchange Act Rule 12b-2).   
[   ]   Yes   [X]   No Indicate the number of shares outstanding of each of the issuers classes of
common stock, as of the latest practical date. The number of Common Shares, without par value, outstanding as of October 31,
2004 was 6,101,747.




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TABLE OF CONTENTS  
 Part I Financial InformationItem 1. Financial Statements
    
    
    2Item 2. Managements Discussion and Analysis of Results of Operations and
Financial Condition
    
    
    8Item 3. Quantitative and Qualitative Disclosures About Market Risk
    
    
    13Item 4. Controls and Procedures
    
    
    13Part II Other InformationItem 1. Legal Proceedings
    
    
    14Item 2. Changes in Securities and Use of Proceeds
    
    
    14Item 3. Defaults Upon Senior Securities
    
    
    14Item 4. Submission of Matters to a Vote of Security Holders
    
    
    14Item 5. Other Information
    
    
    14Item 6. Exhibits
    
    
    14EX-31.1 CERTIFICATIONEX-31.2 CERTIFICATIONEX-32.1 CERTIFICATIONEX-32.2 CERTIFICATION
 1




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Part I. Financial Information 
 Item 1  Financial Statements DATATRAK INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS September 30,
    
    December 31,2004
    
    2003(Unaudited)
    
    (Note A)ASSETSCurrent assets:Cash and cash equivalents
    
    $
    2,236,587
    
    
    $
    1,727,335Short-term investments
    
    
    1,988,512
    
    
    
    2,533,849Restricted cash
    
    
    
    
    
    
    23,979Accounts receivable, less allowances
    
    
    1,456,562
    
    
    
    788,342Prepaid expenses and other current assets
    
    
    337,720
    
    
    
    170,552Total current assets
    
    
    6,019,381
    
    
    
    5,244,057Property and equipment, at cost,
net of accumulated depreciation and amortization
    
    
    1,121,396
    
    
    
    1,018,739Other assetsRestricted cash
    
    
    72,853
    
    
    
    74,189Deposit
    
    
    39,549
    
    
    
    39,549112,402
    
    
    
    113,738Total assets
    
    $
    7,253,179
    
    
    $
    6,376,534LIABILITIES AND SHAREHOLDERS EQUITYCurrent liabilities:Accounts payable
    
    $
    349,614
    
    
    $
    170,740Capital lease obligation
    
    
    
    
    
    
    23,979Accrued expenses
    
    
    809,607
    
    
    
    683,846Deferred revenue
    
    
    791,400
    
    
    
    897,138Total current liabilities
    
    
    1,950,621
    
    
    
    1,775,703Shareholders equity:Serial preferred shares, without par value, 1,000,000 shares
authorized, none issued
    
    
    
    
    
    
    Common share warrants
    
    
    68,049
    
    
    
    135,424Common shares, without par value, authorized 25,000,000
shares; issued 9,401,532 shares as of September 30, 2004 and
9,306,053 shares as of December 31, 2003; outstanding
6,101,532 shares as of September 30, 2004 and 6,006,053 shares
as of December 31, 2003
    
    
    56,878,445
    
    
    
    56,458,996Treasury shares, 3,300,000 shares at cost
    
    
    (20,188,308
    )
    
    
    (20,188,308
    )Accumulated deficit
    
    
    (31,388,945
    )
    
    
    (31,780,670
    )Foreign currency translation
    
    
    (66,683
    )
    
    
    (24,611
    )Total shareholders equity
    
    
    5,302,558
    
    
    
    4,600,831Total liabilities and shareholders equity
    
    $
    7,253,179
    
    
    $
    6,376,534
 Note A:
    
    The balance sheet at December 31, 2003 has been derived from the audited consolidated financial statements at that date,
but does not include all of the information and footnotes required by accounting principles generally accepted in the
United States for complete financial statements.
 See notes to condensed consolidated financial statements. 2




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DATATRAK INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited) Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Revenue
    
    $
    2,974,536
    
    
    $
    1,895,330
    
    
    $
    7,892,329
    
    
    $
    5,086,555Direct costs
    
    
    682,873
    
    
    
    411,332
    
    
    
    1,820,390
    
    
    
    1,110,557Gross profit
    
    
    2,291,663
    
    
    
    1,483,998
    
    
    
    6,071,939
    
    
    
    3,975,998Selling, general and administrative expenses
    
    
    1,764,272
    
    
    
    1,336,139
    
    
    
    5,214,310
    
    
    
    4,024,478Depreciation and amortization
    
    
    140,854
    
    
    
    220,826
    
    
    
    474,148
    
    
    
    713,922Income (loss) from operations
    
    
    386,537
    
    
    
    (72,967
    )
    
    
    383,481
    
    
    
    (762,402
    )Other income (expense):Interest income
    
    
    11,099
    
    
    
    6,121
    
    
    
    26,447
    
    
    
    16,224Interest expense
    
    
    
    
    
    
    (1,390
    )
    
    
    (203
    )
    
    
    (5,900
    )Other income, net
    
    
    
    
    
    
    231
    
    
    
    
    
    
    
    747Income (loss) before income taxes
    
    
    397,636
    
    
    
    (68,005
    )
    
    
    409,725
    
    
    
    (751,331
    )Income tax expense
    
    
    
    
    
    
    
    
    
    
    18,000
    
    
    
    Net income (loss)
    
    $
    397,636
    
    
    $
    (68,005
    )
    
    $
    391,725
    
    
    $
    (751,331
    )Net income (loss) per share:Basic:Net income (loss) per share
    
    $
    0.07
    
    
    $
    (0.01
    )
    
    $
    0.06
    
    
    $
    (0.14
    )Weighted average shares outstanding
    
    
    6,095,744
    
    
    
    5,705,929
    
    
    
    6,072,760
    
    
    
    5,424,785Diluted:Net income (loss) per share
    
    $
    0.06
    
    
    $
    (0.01
    )
    
    $
    0.06
    
    
    $
    (0.14
    )Weighted average shares outstanding
    
    
    6,815,027
    
    
    
    5,705,929
    
    
    
    6,787,286
    
    
    
    5,424,785
 See notes to condensed consolidated financial statements. 3




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DATATRAK INTERNATIONAL, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited) Nine Months Ended September 30,2004
    
    2003Operating ActivitiesNet income (loss)
    
    $
    391,725
    
    
    $
    (751,331
    )Adjustments to reconcile net income (loss) to net cash
used in operating activities:Depreciation and amortization
    
    
    474,148
    
    
    
    713,922Stock compensation
    
    
    26,056
    
    
    
    60,331Other
    
    
    21,073
    
    
    
    5,639Changes in operating assets and liabilities:Accounts receivable
    
    
    (707,820
    )
    
    
    83,030Prepaid expenses and other current assets
    
    
    (167,971
    )
    
    
    (117,853
    )Accounts payable and accrued expenses
    
    
    304,635
    
    
    
    (220,129
    )Deferred revenue
    
    
    (105,738
    )
    
    
    205,037Net cash provided by (used in) operating activities
    
    
    236,108
    
    
    
    (21,354
    )Investing activitiesDecrease in restricted cash
    
    
    23,979
    
    
    
    102,916Purchases of property and equipment
    
    
    (579,456
    )
    
    
    (44,298
    )Maturities of short-term investments
    
    
    6,786,021
    
    
    
    2,635,084Purchases of short-term investments
    
    
    (6,222,157
    )
    
    
    (4,568,657
    )Net cash provided by (used in) investing activities
    
    
    8,387
    
    
    
    (1,874,955
    )Financing activitiesProceeds from issuance of common shares and stock option exercises
    
    
    326,018
    
    
    
    2,248,151Payments under capital lease obligation
    
    
    (23,979
    )
    
    
    (102,916
    )Repayment (issuance) of notes receivable, net
    
    
    803
    
    
    
    (4,065
    )Net cash provided by financing activities
    
    
    302,842
    
    
    
    2,141,170Effect of exchange rate on cash
    
    
    (38,085
    )
    
    
    (17,131
    )Increase in cash and cash equivalents
    
    
    509,252
    
    
    
    227,730Cash and cash equivalents at beginning of period
    
    
    1,727,335
    
    
    
    1,620,707Cash and cash equivalents at end of period
    
    $
    2,236,587
    
    
    $
    1,848,437
 See notes to condensed consolidated financial statements. 4




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DATATRAK INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2004
(Unaudited) 1. Basis of Presentation The accompanying unaudited condensed consolidated financial statements of
DATATRAK International, Inc. and subsidiaries (DATATRAK or the Company)
have been prepared in accordance with accounting principles generally accepted
in the United States for interim financial information and with the
instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they
do not include all of the information and footnotes required by accounting
principles generally accepted in the United States for complete financial
statements. In the opinion of management, all adjustments (consisting of
normal recurring accruals) considered necessary for a fair presentation have
been included. Operating results for the three and nine month periods ended
September 30, 2004 are not necessarily indicative of the results that may be
expected for the year ending December 31, 2004. For further information, refer
to the consolidated financial statements and footnotes thereto included in the
Companys Form 10-K for the year ended December 31, 2003 (File No. 000-20699). The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that might affect the amounts reported in the
financial statements and accompanying notes. Actual results could differ from
those estimates. 2. Net Income (Loss) per Share The following table sets forth the computation of basic and diluted net
income (loss) per share. Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Net income (loss) used in the
calculation of basic and diluted
loss per share
    
    $
    397,636
    
    
    $
    (68,005
    )
    
    $
    391,725
    
    
    $
    (751,331
    )Denominator for basic net income
(loss) per share  weighted
average common shares outstanding
    
    
    6,095,744
    
    
    
    5,705,929
    
    
    
    6,072,760
    
    
    
    5,424,785Effect of dilutive common share
options and warrants
    
    
    719,283
    
    
    
    
    
    
    
    727,421
    
    
    
    Denominator for diluted net income
(loss) per share
    
    
    6,815,027
    
    
    
    5,705,929
    
    
    
    6,787,286
    
    
    
    5,424,785Basic net income (loss) per share
    
    $
    0.07
    
    
    $
    (0.01
    )
    
    $
    0.06
    
    
    $
    (0.14
    )Diluted net income (loss) per share
    
    $
    0.06
    
    
    $
    (0.01
    )
    
    $
    0.06
    
    
    $
    (0.14
    )Weighted average common share
options and warrants excluded from
the computation of diluted net
income (loss) per share because
they would have an antidilutive
effect on net income (loss) per
share
    
    
    46,750
    
    
    
    1,238,580
    
    
    
    39,773
    
    
    
    1,232,459
 5




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DATATRAK INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2004
(Unaudited) 3. Comprehensive Income (Loss) The following table sets forth comprehensive income (loss). Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Net income (loss)
    
    $
    397,636
    
    
    $
    (68,005
    )
    
    $
    391,725
    
    
    $
    (751,331
    )Foreign currency translation
    
    
    (240
    )
    
    
    8,589
    
    
    
    (42,072
    )
    
    
    8,110Comprehensive income (loss)
    
    $
    397,396
    
    
    $
    (59,416
    )
    
    $
    349,653
    
    
    $
    (743,221
    )
 4. Shareholders Equity During January 2004, the holders of 12,500 common share warrants, with an
exercise price of $4.80 per share, surrendered the warrants along with the
exercise price in exchange for 12,500 common shares. In addition, during the
nine months ended September 30, 2004, the holders of 82,979 common share
options, at a weighted average exercise price of $3.21 per share, exercised the
options and purchased 82,979 common shares. On June 2, 2004, the Companys shareholders voted to approve and adopt an
amendment and restatement to the Companys Amended and Restated Outside
Director Stock Option Plan (f/k/a Amended and Restated 1999 Outside Director
Stock Option Plan) (the Director Plan). As part of this amendment and
restatement, the number of shares reserved for stock option grants to outside
directors of the Company, under the Director Plan, increased from 400,000 to
550,000. 5. Income Taxes During the nine months ended September 30, 2004, the Company had U.S.
federal alternative minimum tax of $18,000 due to income earned by its U.S.
based operations. Due to its U.S. and non-U.S. tax loss carryforwards, the
Company had no other income tax expense during the nine months ended September
30, 2004. 6. Stock Based Compensation The Company has elected to follow Accounting Principles Board Opinion No.
25, Accounting for Stock Issued to Employees (APB No. 25) and related
interpretations in accounting for its employee and director stock options.
Under APB No. 25 compensation expense has been recognized for all options
granted at less than the fair market value of the common shares on the date of
grant. The alternative fair value accounting provided for under Financial
Accounting Standards Board (FASB) Statement of Financial Accounting Standards
(SFAS) No. 123, Accounting for Stock-Based Compensation requires use of
option valuation models that were not developed for use in valuing employee
stock options. SFAS No. 148, Accounting for Stock-Based Compensation 
Transition and Disclosure, requires disclosure of compensation expense under
both APB No. 25 and SFAS No. 123. SFAS No. 123 requires that stock
compensation be determined as if the Company has accounted for its stock
options granted subsequent to December 31, 1994 under the fair value method of
SFAS 123. 6




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DATATRAK INTERNATIONAL, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
September 30, 2004
(Unaudited) For purposes of pro forma disclosures, the estimated value of the options
is amortized to expense over the options vesting period. The pro forma
results are not necessarily indicative of what would have occurred had the
Company adopted SFAS No. 123. The following table sets forth stock based compensation and pro forma
information for each period presented. Three Months Ended
    
    Nine Months EndedSeptember 30,
    
    September 30,2004
    
    2003
    
    2004
    
    2003Net income (loss) recorded
    
    $
    397,636
    
    
    $
    (68,005
    )
    
    $
    391,725
    
    
    $
    (751,331
    )Plus: stock compensation expense
recognized
    
    
    14,142
    
    
    
    9,132
    
    
    
    26,056
    
    
    
    60,331Less: stock compensation expense that
would have been recognized under SFAS
No. 123
    
    
    213,113
    
    
    
    365,481
    
    
    
    524,307
    
    
    
    532,872Pro forma net income (loss)
    
    $
    198,665
    
    
    $
    (424,354
    )
    
    $
    (106,526
    )
    
    $
    (1,223,872
    )Pro forma basic income (loss) per share
    
    $
    0.03
    
    
    $
    (0.08
    )
    
    $
    (0.02
    )
    
    $
    (0.23
    )Pro forma diluted income (loss) per share
    
    $
    0.03
    
    
    $
    (0.08
    )
    
    $
    (0.02
    )
    
    $
    (0.23
    )
 7. Reclassification Certain prior year amounts have been reclassified to conform to the
current year presentation. 7




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Item 2. Managements Discussion and Analysis of Results of Operations and
Financial Condition The information set forth and discussed below for the three and nine month
periods ended September 30, 2004 is derived from, and should be read in
conjunction with, the condensed consolidated financial statements included
elsewhere herein. The financial information set forth and discussed below is
unaudited, but in the opinion of management, reflects all adjustments
(consisting of normal recurring accruals) necessary for a fair presentation of
such information. The Companys results of operations for a particular quarter
may not be indicative of results expected during the other quarters or for the
entire year. General DATATRAK is a provider of software and other related services, commonly
referred to as an application service provider, or ASP. DATATRAKs customers
use the software known as DATATRAK EDC® to collect and transmit clinical trial
data, commonly referred to as electronic data capture, or EDC. The Companys
services assist companies in the clinical pharmaceutical, biotechnology,
contract research organization and medical device research industries, in
accelerating the completion of clinical trials. Approximately 59% of the
Companys assets, or approximately $4,225,000, is held in cash, cash
equivalents and short-term investments. During 2004, and for the first time
since commencing EDC operations in 1997, the Company has recorded net income
from operations. The Company is continuing to enhance and commercialize its
business and the DATATRAK EDC® software, and anticipates that its operating
results may fluctuate significantly from period to period. There can be no
assurance of the Companys long-term future prospects. The Companys standard contracts provide a fixed unit price for each
component or service to be delivered, and revenue is recognized as these
components or services are delivered. Services provided by DATATRAK that are
in addition to those provided for in its contracts are billed on a fee for
service basis as services are completed. Generally, these contracts range in
duration from one to three years. The ultimate contract value is dependent
upon the length of the customers use of DATATRAK EDC® and the services
DATATRAK provides. As services are performed over the life of the contract,
revenue is recognized per the specific terms of each contract. Costs
associated with contract revenue are recognized as incurred. Pass-through
costs that are paid directly by DATATRAKs customers, and for which the Company
does not bear the risk of economic loss, are excluded from revenue. The
termination of a standard contract will not result in a material adjustment to
the revenue or costs previously recognized. In some instances, DATATRAK offers volume discounts to customers over
multiple contracts. DATATRAK estimates the volume discounts to be earned over
the life of the contracts to which the discount applies. As contracts
progress, revenue is recorded using rates that reflect the anticipated volume
discount to be achieved by the customer. The termination of a contract subject
to a volume discount could result in a material adjustment to revenue
previously recognized, in order to reflect the true economic value of the
contract at the time of cancellation. For the nine months ended September 30,
2004, DATATRAK has deferred $49,000 of revenue as a result of its contracts
subject to volume discounts. Since its purchase of the DATATRAK EDC® software in January 1998, DATATRAK
has recorded revenue related to approximately one hundred contracts. Backlog
consists of anticipated revenue from authorization letters to commence services
and signed contracts yet to be completed. Potential contracts or authorization
letters that have passed the verbal stage, but have not yet been signed, are
excluded from backlog. At September 30, 2004, DATATRAKs backlog was
$14,298,000. DATATRAKs contracts can be cancelled or delayed at anytime and,
therefore, the Companys backlog, at any point in time, is not an accurate
predictor of future levels of revenue. Critical Accounting Policies In response to the SECs Release No. 33-8040, Cautionary Advice Regarding
Disclosure About Critical Accounting Policies, the Company has identified the
most critical accounting principles upon 8




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which its financial status depends. Critical principles were determined
by considering accounting policies that involve the most complex or subjective
decisions or assessments. The most critical accounting policies were
identified to be those related to revenue recognition, software development
costs and stock based compensation. A summary of these critical accounting policies can be found in the
Companys Annual Report on Form 10-K, filed on March 19, 2004, under the
heading Critical Accounting Policies in Managements Discussion and Analysis
of Financial Condition and Results of Operations. Results of Operations Three months ended September 30, 2004 compared with three months ended
September 30, 2003 Revenue for the three months ended September 30, 2004 increased 56.9% to
$2,975,000, as compared to $1,895,000 for the three months ended September 30,
2003. During the third quarter of 2004, DATATRAK recorded revenue related to
59 contracts compared to 42 contracts during 2003. Additionally, for the three
months ended September 30, 2004, $2,315,000 of revenue was the result of
contracts that were in backlog at December 31, 2003 and $660,000 was the result
of new business. For the third quarter of 2003, $1,133,000 of revenue was
generated from contracts that were in backlog at December 31, 2002 and $762,000
of revenue was the result of new business. Direct costs of revenue, mainly personnel costs, were $683,000 and
$411,000 during the three months ended September 30, 2004 and 2003,
respectively. Additional staff and other payroll cost increases accounted for
$221,000 of the $272,000 increase. Other direct costs, which include
third-party software license fees, travel and other costs billed directly to
DATATRAKs customers, increased by $51,000 during the three months ended
September 30, 2004. The increase in staff was necessitated by the growth in
revenue and the increase in the number of contracts DATATRAK has been managing
over the past year. DATATRAKs gross margin decreased to 77.0% for the three
months ended September 30, 2004 compared to 78.3% for the three months ended
September 30, 2003. Selling, general and administrative (SG&A) expenses include all
administrative personnel costs, business and software development costs, and
all other expenses not directly chargeable to a specific contract. SG&A
expenses increased by 32.0 % to $1,764,000 from $1,336,000 for the three months
ended September 30, 2004 and 2003, respectively. Additional staff, other
payroll cost increases and the Companys new sales incentive plan accounted for
$183,000 of the $428,000 increase. Expenses related to equipment maintenance
and software licensing increased $68,000 compared to the prior year. These
expenses are necessary to ensure that DATATRAKs information technology
environment is properly maintained. Cost increases in other areas, primarily
due to the increased marketing of DATATRAK EDC® and development of the
Companys corporate infrastructure, resulted in additional expenses of $177,000
during the three months ended September 30, 2004. Depreciation and amortization expense decreased to $141,000 during the
three months ended September 30, 2004 from $221,000 during the three months
ended September 30, 2003. The decrease was the result of aging assets not
being replaced as indicated by the low level of capital expenditures ($184,000)
during 2003. During the first nine months of 2004, DATATRAK spent $579,000 for
new equipment. The Company expects increased capital expenditure activity
throughout the remainder of 2004. Nine months ended September 30, 2004 compared with nine months ended
September 30, 2003 Revenue for the nine months ended September 30, 2004 increased 55.1% to
$7,892,000, as compared to $5,087,000 for the nine months ended September 30,
2003. Included in revenue for the nine months ended September 30, 2003, was a
one-time consulting fee of $150,000 that was outside of a traditional EDC
contract. During the nine months ended September 30, 2004, DATATRAK recorded
revenue related to 65 contracts compared to 51 contracts during 2003. For the
nine months ended September 30, 2004, $6,797,000 of revenue was the result of
contracts that were in backlog at December 9




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31, 2003 and $1,096,000 was the result of new business. For the nine
months ended September 30, 2003, $3,626,000 of revenue was generated from
contracts that were in backlog at December 31, 2002 and $1,460,000 of revenue
was the result of new business. Direct costs of revenue, mainly personnel costs, were $1,820,000 and
$1,111,000 during the nine months ended September 30, 2004 and 2003,
respectively. Additional staff and other payroll cost increases accounted for
$573,000 of the $709,000 increase in 2004. Other direct costs, which include
third-party software license fees, travel and other costs billed directly to
DATATRAKs customers, increased by $136,000 during the nine months ended
September 30, 2004. The increase in staff was necessitated by the growth in
revenue and the increase in the number of contracts DATATRAK has been managing
over the past year. DATATRAKs gross margin decreased to 76.9% for the nine
months ended September 30, 2004 compared to 78.2% for the nine months ended
September 30, 2003. The $150,000 one-time revenue item caused a 0.7% increase
in gross margin during the first nine months of 2003. SG&A expenses increased by 29.6% to $5,214,000 from $4,024,000 for the
nine months ended September 30, 2004 and 2003, respectively. Additional staff,
other payroll cost increases and the Companys new sales incentive plan
accounted for $470,000 of the $1,190,000 increase. Expenses related to
equipment maintenance and software licensing increased $133,000 compared to the
prior year. The increase in these expenses is related to the growth of
DATATRAKs information technology infrastructure, and are necessary to ensure
that this environment is properly maintained. Cost increases in other areas,
primarily due to the increased marketing of DATATRAK EDC®, non-capitalized
software development costs and development of the Companys corporate
infrastructure, resulted in additional expenses of $587,000 during the nine
months ended September 30, 2004. Depreciation and amortization expense decreased to $474,000 during the
nine months ended September 30, 2004 from $714,000 during the nine months ended
September 30, 2003. The decrease was the result of aging assets not being
replaced as indicated by the low level of capital expenditures during 2003. Other income increased to $26,000 during the nine months ended September
30, 2004 from $11,000 during the nine months ended September 30, 2003. Other
income includes interest income which increased $10,000 for the nine months
ended September 30, 2004 compared to September 30, 2003, as a result of the
Companys increase in cash and cash equivalents due to its August 2003 private
placement of common shares. Interest expense decreased by $6,000 due to the
payment in full of the Companys capital lease obligation during 2004. During the nine months ended September 30, 2004, the Company had U.S.
federal alternative minimum tax of $18,000 due to income earned by its U.S.
based operations. Due to its U.S. and non-U.S. tax loss carryforwards, the
Company had no other income tax expense during the nine months ended September
30, 2004. Outlook Primarily due to its growth in revenue, DATATRAK reported net income for
the three and nine months ended September 30, 2004. Backlog at September 30,
2004 of $14,298,000 remained comparable to backlog reported at December 31,
2003 of $14,600,000 because new contract signings and modifications to existing
contracts have kept pace with revenue recognized on contracts in backlog. At
September 30, 2004 the Company had 56 contracts in backlog, compared to 45
contracts in backlog at December 31, 2003. Assuming that there are no contract delays or cancellations to current
projects, the Companys management believes that it will achieve the lower end
of its earlier reported guidance of $11,000,000 to $13,000,000 of revenue for
the year ended December 31, 2004. The Company expects to convert approximately
$2,800,000 of its September 30, 2004 backlog into revenue during the final
three months of 2004. Based on its anticipated levels of revenue and expenses,
DATATRAKs management does not believe that it will achieve its earlier
reported guidance of fully diluted earnings per share of $0.13, for the 10




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year ended December 31, 2004. Shareholders should anticipate fully
diluted earnings per share of approximately $0.08 for the year ended December
31, 2004, based on current shares outstanding. Liquidity and Capital Resources Since its inception, the Companys principal sources of cash have been
cash flow from operations and proceeds from the sale of equity securities. The
Companys investing activities primarily reflect capital expenditures and sales
and purchases of short-term investments. In August 2003, the Company raised
approximately $2,239,000 in cash with the completion of a private placement of
its common shares. The Companys contracts usually require a portion of the contract amount
to be paid at the time the contract is initiated. Additional payments are
generally received monthly as work on the contract progresses. All amounts
received are recorded as a liability (deferred revenue) until work has been
completed and revenue is recognized. Cash receipts do not necessarily
correspond to costs incurred or revenue recognized. The Company typically
receives a low volume of large-dollar receipts. DATATRAKs accounts receivable
fluctuates due to the timing and size of cash receipts. Contracting and
collection practices are designed to maintain an average collection period for
accounts receivable of one to three months. Any increase in the Companys
normal collection period for accounts receivable could negatively impact its
cash flow from operations and working capital. At September 30, 2004, the
average collection period for accounts receivable was 42 days compared to 43
days at December 31, 2003. Accounts receivable (net of allowance for doubtful
accounts) was $1,457,000 at September 30, 2004 and $788,000 at December 31,
2003. DATATRAKs increased revenue has caused the accounts receivable balance
to increase during 2004, however the accounts receivable collection period has
remained consistent with prior periods. Deferred revenue was $791,000 at
September 30, 2004 compared to $897,000 at December 31, 2003. Cash and cash equivalents increased $528,000 during the three months ended
September 30, 2004. This was the result of $862,000 provided by operating
activities, $380,000 used in investing activities and $50,000 provided by
investing activities. Foreign currency fluctuations caused a $4,000 decrease
in cash and cash equivalents. Cash provided by operating activities was the
result of the Companys net income of $398,000, plus non cash operating items
of $160,000. Changes in current assets and liabilities caused cash from
operating activities to increase by $304,000. Investing activities included
$397,000 used to purchase property and equipment, offset by net maturities of
investments totaling $17,000. Financing activities included proceeds from the
issuance of common shares totaling $50,000 as the result of exercises of common
share options. Cash and cash equivalents increased $509,000 during the nine months ended
September 30, 2004. This was the result of $236,000 provided by operating
activities and $311,000 provided by investing and financing activities.
Foreign currency fluctuations caused a $38,000 decrease in cash and cash
equivalents. Cash provided by operating activities was the result of the
Companys net income of $392,000, plus non cash operating items of $521,000.
This $913,000 increase was offset by the $708,000 increase in accounts
receivable caused by the Companys growth in revenue during 2004. Changes in
other current assets and liabilities caused cash from operating activities to
increase by $31,000. Investing activities included $579,000 used to purchase
property and equipment, offset by net maturities of investments and a decrease
in restricted cash totaling $588,000. Financing activities included proceeds
from the issuance of common shares totaling $326,000 as the result of exercises
of common share options and warrants, which was partially offset by capital
lease payments totaling $24,000. At September 30, 2004, the Company had working capital of $4,069,000 and
its cash, cash equivalents and short-term investments totaled $4,225,000. The
Companys working capital increased by $600,000 since December 31, 2003. The
increase was primarily the result of a $774,000 increase in net accounts
receivable (accounts receivable less deferred revenue). Cash, cash equivalents
and short-term investments decreased by $36,000 during the nine months ended
September 30, 2004. Changes in other current assets and liabilities caused
working capital to decrease by $138,000. 11




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The Company is responsible for funding the future enhancement and testing
of the DATATRAK EDC® software. The Company will continue to invest in the
development of the DATATRAK® process. The Companys operations and the EDC
market are still in a developmental stage. DATATRAK has experienced revenue
growth, and anticipates recording net income and positive cash flow from
operations for the year ended December 31, 2004, as it continues to build its
customer base, increase its backlog and convert existing backlog into revenue.
During the nine months ended September 30, 2004, the Company expended $579,000
for capital expenditures, and had expenditures totaling $386,000 for equipment
maintenance and related items. The Company anticipates additional capital and
related expenditures of approximately $584,000 through the end of 2004 for
continued commercialization, product development and maintenance of DATATRAK
EDC® and the anticipated growth of DATATRAKs business and information
technology infrastructure. DATATRAK expects to fund these working capital
requirements, from existing cash and cash equivalents, cash flow from
operations and maturities of short-term investments. The Company believes that
its cash and cash equivalents, maturities of short-term investments and
anticipated cash flow from operations will be sufficient to meet its working
capital and capital expenditure requirements for the foreseeable future.
However, DATATRAK may need to raise additional funds to support expansion,
respond to competitive pressures, acquire complementary businesses or
technology or take advantage of unanticipated opportunities. Additional funds
may be raised by selling debt or equity securities, by entering into strategic
relationships or through other arrangements. Additional capital may not be
available on acceptable terms, if at all. To the extent that additional equity
capital is raised, it could have a dilutive effect on existing shareholders. Inflation To date, the Company believes the effects of inflation have not had a
material adverse effect on its results of operations or financial condition. Information About Forward-Looking Statements Certain statements made in this Form 10-Q, other SEC filings or written
materials or orally by the Company or its representatives may constitute
forward-looking statements that are based on managements current beliefs,
estimates and assumptions concerning the operations, future results and
prospects of the Company and the clinical pharmaceutical research industry in
general. All statements that address operating performance, events or
developments that management anticipates will occur in the future, including
statements related to future revenue, profits, expenses, income and earnings
per share or statements expressing general optimism about future results, are
forward-looking statements within the meaning of Section 21E of the Securities
Exchange Act of 1934, as amended (Exchange Act). In addition, words such as
expects, anticipates, intends, plans, believes, estimates,
variations of such words, and similar expressions are intended to identify
forward-looking statements. Forward-looking statements are subject to the safe
harbors created in the Exchange Act. Factors that may cause actual results to
differ materially from those in the forward-looking statements include the
ability of the Company to absorb corporate overhead and other fixed costs in
order to successfully market the DATATRAK EDC software; the development of and
fluctuations in the market for electronic data capture technology; the degree
of the Companys success in obtaining new contracts; the timing of payments
from customers and the timing of clinical trial sponsor decisions to conduct
new clinical trials or cancel or delay ongoing trials; governmental regulation;
the early stage of the Companys ASP operations; and general economic
conditions such as the rate of employment, inflation, interest rates and the
condition of capital markets. This list of factors is not all inclusive. In
addition, the Companys success depends on the outcome of various strategic
initiatives it has undertaken, all of which are based on assumptions made by
the Company concerning trends in the clinical research market and the health
care industry. Any forward-looking statement speaks only as of the date on
which such statement is made and the Company does not undertake any obligation
to update any statements whether as a result of new information, future events
or otherwise. 12




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Item 3. Quantitative and Qualitative Disclosures About Market Risk The Company is exposed to market risk from changes in interest rates and
foreign currency exchange rates since it funds its operations through
short-term investments and has business transactions in Euros. A summary of
the Companys market risk exposures is presented below. Interest Rate Risk DATATRAK has fixed income investments consisting of cash equivalents and
short-term investments, which may be affected by changes in market interest
rates. The Company does not use derivative financial instruments in its
investment portfolio. The Company places its cash equivalents and short-term
investments with high-quality financial institutions, limits the amount of
credit exposure to any one institution and has established investment
guidelines relative to diversification and maturities designed to maintain
safety and liquidity. Investments are reported at amortized cost, which
approximates fair value. A 1.0% change in interest rates during the nine
months ended September 30, 2004, would have resulted in a $32,000 change in
DATATRAKs interest income during the period. Foreign Currency Risk DATATRAKs foreign results of operations are subject to the impact of
foreign currency fluctuations through both foreign currency transaction and
foreign currency translation adjustments. The Company manages its risk to
foreign currency transaction adjustments by maintaining foreign currency bank
accounts in currencies in which we regularly transact business. DATATRAK does
not currently hedge against the risk of exchange rate fluctuations. DATATRAKs financial position and results of operations are impacted by
translation adjustments caused by the conversion of foreign currency accounts
and operating results into U.S. dollars for financial reporting purposes. A
1.0% fluctuation in the exchange rate between the U.S. dollar and the Euro at
September 30, 2004, would have resulted in a $27,000 change in the foreign
currency translation amount recorded on the Companys balance sheet, due to
foreign currency translations. A 1.0% fluctuation in the average exchange rate
between the U.S. dollar and the Euro for the nine months ended September 30,
2004 would have resulted in a $26,000 change in the Companys net income for
the nine months ended September 30, 2004 due to foreign currency translations.
During the nine months ended September 30, 2004, the average exchange rate
between the Euro and the U.S. dollar increased by approximately 10% compared to
the nine months ended September 30, 2003. The conversion of the Companys
foreign operations into U.S. dollars upon consolidation resulted in net income
that was approximately $240,000 lower than would have been recorded had the
exchange rate between the Euro and the U.S. dollar remained consistent with
2003 rates. 
 Item 4. Controls and Procedures Evaluation of Disclosure Controls and Procedures The Company carried out an evaluation, under the supervision and with the
participation of the Companys management, including the chief executive
officer and chief financial officer, of the design and operation of the
Companys disclosure controls and procedures (as defined in Exchange Act Rules
13a-15(e) and 15d-14(e)) as of the end of the period covered by this report.
Based upon that evaluation the Companys management, including the chief
executive officer and chief financial officer, have concluded that, as of
September 30, 2004, the Companys disclosure controls and procedures were
effective to ensure that material information relating to the Company and its
consolidated subsidiaries would be made known to them by others within those
entities, so that information required to be disclosed by the Company in the
reports it files and submits under the Exchange Act is recorded, processed,
summarized and reported within the time periods specified in the SECs rules
and forms. 13




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Changes in Internal Controls There were no changes in the Companys internal controls over financial
reporting that occurred during the fiscal quarter covered by this report that
have materially affected, or are reasonably likely to materially affect, the
Companys internal controls over financial reporting. 
 Part II. Other Information 
 Item 1. Legal Proceedings None. 
 Item 2. Changes in Securities and Use of Proceeds None. 
 Item 3. Defaults Upon Senior Securities None. 
 Item 4. Submission of Matters to a Vote of Security Holders None. 
 Item 5. Other Information None. 
 Item 6. Exhibits  31.1
    
    Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer31.2
    
    Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer32.1
    
    Section 1350 Certification of Chief Executive Officer32.2
    
    Section 1350 Certification of Chief Financial Officer 14




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SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized. DATATRAK International, Inc.RegistrantDate: 11/12/04
    
    /s/ Jeffrey A. GreenJeffrey A. Green,President and Chief Executive Officer and a Director(Principal Executive Officer)Date: 11/12/04
    
    /s/ Terry C. BlackTerry C. Black,Vice President of Finance, Chief Financial Officer,Treasurer and Assistant Secretary(Principal Financial and Accounting Officer)
 15