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NOTE Q - COMMITMENTS AND CONTINGENCIES
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Dec. 31, 2011
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| Commitments and Contingencies Disclosure [Text Block] |
NOTE
Q – COMMITMENTS AND CONTINGENCIES
Office
Leases Obligations
The
Company presently leases approximately 14,000 square feet of
office space in Milwaukee, Wisconsin for its corporate
headquarters. The Milwaukee lease expires in March
2020.
The Company presently leases 16,000
square feet of commercial office space in Germantown,
Maryland. The lease commitments expire in December
2015. In July 2011, Telkonet executed a
sublease agreement for 11,626 square feet of the office space
in Germantown, Maryland. The sublease term will
expire in January 2013. The subtenant received a
one month rent abatement and has the option to extend the
sublease from January 2013 to December 2015.
Commitments
for minimum rentals under non cancelable leases at December
31, 2011 are as follows:
The
table above does not reflect expected rentals to be received
under the sublease agreement. Future receipts
under the sublease agreement are expected to be $126,812 and
$10,777 in 2012 and 2013, respectively.
Rental
expenses charged to operations for the years ended December
31, 2011 and 2010 are $609,265 and $502,896,
respectively.
Employment
and Consulting Agreements
The
Company has employment agreements with certain of its key
employees which include non-disclosure and confidentiality
provisions for protection of the Company’s proprietary
information.
Jason
L. Tienor, President and Chief Executive Officer, is employed
pursuant to an employment agreement with us dated April 11,
2011. Mr. Tienor’s employment agreement has
a term of one (1) year, which may be extended by mutual
agreement of the parties thereto, and provides, among other
things, for an annual base salary of $200,000 per year and
bonuses and benefits based on our internal policies and
participation in our incentive and benefit
plans. Notwithstanding his employment
agreement’s expiration, Mr. Tienor continues to be
employed and to perform services pursuant to the terms of his
employment agreement pending completion of a replacement
agreement.
Jeffrey
J. Sobieski, Chief Operating Officer, is employed pursuant to
an employment agreement with us dated April 11,
2011. Mr. Sobieski’s employment agreement
has a term of one (1) year, which may be extended by mutual
agreement of the parties thereto, and provides for a base
salary of $190,000 per year and bonuses and benefits based
upon our internal policies and participation in our incentive
and benefit plans. Notwithstanding his employment
agreement’s expiration, Mr. Sobieski continues to be
employed and to perform services pursuant to the terms of his
employment agreement pending completion of a replacement
agreement.
Richard
J. Leimbach was paid a severance benefit and a health care
reimbursement should he elect COBRA coverage pursuant to a
Transition Agreement and Release with us dated August 4, 2010
as reported in the Company’s Current Report on Form 8-K
dated August 9, 2010. Pursuant to that agreement
Mr. Leimbach also received an award of 333,333 shares of the
Company’s common stock. The foregoing
summary of Mr. Leimbach’s Transition Agreement and
Release is subject to, and qualified in its entirety by, the
Transition and Release Agreement, which is included as
Exhibit 10.5 to our Current Report on Form 8-K filed August
9, 2010.
In
addition to the foregoing, stock options are periodically
granted to employees under the Company’s Plan at the
discretion of the Compensation Committee of the Board of
Directors. Executives of the Company are eligible to receive
stock option grants, based upon individual performance and
the performance of the Company as a whole.
Litigation
The
Company is subject to legal proceedings and claims which
arise in the ordinary course of its business. Although
occasional adverse decisions or settlements may occur, the
Company believes that the final disposition of such matters
should not have a material adverse effect on its financial
position, results of operations or liquidity.
Tellabs,
Inc. v. Telkonet, Inc.
Our
landlord has filed a claim for unpaid rent in a case styled
Tellabs, Inc. v. Telkonet, Inc. in the Circuit Court for
Montgomery County, State of Maryland and was granted a
judgment in March 2010 in the amount of $64,966. Pursuant to
that judgment, we received a notice of eviction from our
landlord for the unpaid rent. We sought to extend the date
for eviction but were unable to negotiate a payment plan
acceptable to the landlord and voluntarily vacated the space
on May 3, 2010. Our landlord has filed an additional
claim for unpaid rent and other expenses alleged to be due in
a case styled Tellabs, Inc. v. Telkonet, Inc. in the Circuit
Court for Montgomery County, State of Maryland. A
settlement of $110,000 was agreed upon and the suit was
dismissed on January 28, 2011. Such amount was
accrued for as of December 31, 2010 and subsequently paid
throughout 2011.
Linksmart
Wireless Technology, LLC v. T-Mobile USA, Inc.
On
July 1, 2008, Linksmart Wireless Technology, LLC, or
Linksmart, filed a civil lawsuit in the Eastern District of
Texas against EthoStream, LLC, our wholly-owned subsidiary
and 22 other defendants (Linksmart
Wireless Technology, LLC v. T-Mobile USA, Inc., et al,
U.S. District Court, for the Eastern District of Texas,
Marshall Division, No.2:08-cv-00264-TJW-CE). This
lawsuit alleges that the defendants’ services infringe
a wireless network security patent held by Linksmart.
Linksmart seeks a permanent injunction enjoining the
defendants from infringing, inducing the infringement of, or
contributing to the infringement of its patent, an award of
damages and attorney’s fees.
On
August 1, 2008, we timely filed an answer to the complaint
denying the allegations. On February 27, 2009, the USPTO
granted a reexamination request with respect to the patent in
issue in this lawsuit. Based upon four highly
relevant and material prior art references that had not been
considered by the USPTO in its initial examination, it found
a “substantial new question of patentability”
affecting all claims of the patent in suit. On
August 2, 2010, the USPTO issued a Final Office Action
rejecting every claim of the patent in suit. If
this action is upheld on appeal it will result in the
elimination of all of the issues in the pending litigation.
There is a possibility that the claims of the patent will be
reinstated on appeal either in their original form or as
amended.
Defendant
Ramada Worldwide, Inc. provided us with notice of the suit
and demanded that we defend and indemnify it pursuant to a
vendor direct supplier agreement between EthoStream and WWC
Supplier Services, Inc., a Ramada affiliate (wherein we
agreed to indemnify, defend and hold Ramada harmless from and
against claims of infringement). After a review of
that agreement, it was determined that EthoStream owes the
duty to defend and indemnify with respect to services
provided by Telkonet to Ramada and it has assumed
Ramada’s defense. An answer on
Ramada’s behalf was filed in U.S. District Court, for
the Eastern District of Texas, Marshall Division on September
19, 2008.
The
parties agreed to and the Court ordered a stay of the
litigation pending the conclusion of the reexamination
proceeding. The case was reopened in early 2012
based on the expectation that the USPTO will issue a
reexamination certificate and as of March 16, 2012, a new
judge was assigned to the case in view of the impending
retirement of the originally assigned judge. A new
schedule for the case is expected to be determined by the new
judge.
Robert
P. Crabb v Telkonet Inc.
On
November 9, 2010, a former executive, Robert P. Crabb, served
Telkonet, Inc. and Telkonet Communications, Inc. ("Telkonet")
with a Complaint in the Circuit Court for Montgomery County,
MD alleging (1) violation of Maryland’s Wage Payment
and Collection Act (2) Breach of Contract and (3) Promissory
Estoppel/Detrimental Reliance. The claims in his Complaint
arose out of his retirement in September 2007. In terms of
relief, Mr. Crabb sought "severance
compensation" in the amount of $156,000, treble damages,
interest, and attorneys’ fees. This lawsuit was
resolved as part of a voluntary settlement prior to the
scheduled four day jury trial beginning on December 12, 2011.
On January 25, 2012, the Court entered the parties’
joint Stipulation of Dismissal.
In
the case of Robert P. Crabb v
Telkonet, Inc., the parties executed a settlement
agreement and general release on January 20, 2012 for
$127,000. Terms of the agreement called for
Telkonet to make an initial payment of $27,000 on January 27,
2012. The remaining balance is to be paid in three
equal installments on March 1, June 1 and September 1,
2012. If Telkonet fails to make any of the
above-specified payments within ten (10) days of the
specified date, Telkonet shall be deemed in
default. Mr. Crabb may, at his option, demand the
entire balance due (and unpaid) and shall be entitled to 6%
interest on $155,000 from May 1, 2008.
Stephen
L. Sadle v. Telkonet, Inc
On
April 15, 2011, a former executive, Stephen L. Sadle, served
Telkonet, Inc. and Telkonet Communications, Inc. ("Telkonet")
with a Complaint in the Circuit Court for Montgomery County,
MD alleging (1) Breach of Contract, (2) Promissory
Estoppel/Detrimental Reliance and (3) violation of Maryland's
Wage Payment and Collection Act. The three claims in his
Complaint each arise out of his retirement in 2007. On May
27, 2011, the defendants filed a motion to dismiss Mr.
Sadle's claims. On August 10, 2011, the court granted in full
the Defendants' motion to dismiss.
Specifically,
the Court dismissed, with prejudice, Plaintiff's claim under
the Maryland Wage Payment and Collection Act. However, as
part of its Order, the Court permitted Plaintiff to amend his
Complaint as to his Breach of Contract (Count II) and
Promissory Estoppel/Detrimental Reliance (Count III) claims
only within 30 days. On September 14, 2011, Mr. Sadle filed
his First Amended Complaint. On September 30, 2011, Telkonet
filed its Answer and Counterclaims for Negligence (based on a
fiduciary duty) and Recoupment. Mr. Sadle has not yet filed
an Answer to Telkonet’s counterclaims. The parties have
exchanged written discovery and scheduled preliminary
depositions. A hearing on the pending cross-motions for
summary judgment was held on March 21, 2012.
In
terms of relief, Mr. Sadle is seeking "severance
compensation" in the amount of $195,000, treble damages,
interest, and attorneys’ fees. Treble damages and
attorneys’ fees are only available under the Maryland
Wage Payment and Collection Act, however, and therefore
should no longer be available to Mr. Sadle in light of the
dismissal of that particular claim. Mr. Sadle's Complaint
provides no specific accounting for the relief sought. The
trial in this case is set for May 14, 2012.
Indemnification
Agreements
On
March 31, 2010, the Company entered into Indemnification
Agreements with directors Anthony J. Paoni, and William H.
Davis, and executives Jason L. Tienor, President and Chief
Executive Officer and Jeffrey J. Sobieski, Chief Operating
Officer. On November 3, 2010, the Company entered into an
Indemnification Agreement with Acting Chief Financial Officer
Richard E. Mushrush.
The
Indemnification Agreements provide that the Company will
indemnify the Company's officers and directors, to the
fullest extent permitted by law, relating to, resulting from
or arising out of any threatened, pending or completed
action, suit or proceeding, or any inquiry or investigation
by reason of the fact that such officer or director (i) is or
was a director, officer, employee or agent of the Company or
(ii) is or was serving at the request of the Company as a
director, officer, employee or agent of another corporation,
partnership, joint venture, trust or other enterprise if he
acted in good faith and in a manner he reasonably believed to
be in or not opposed to the best interests of the Company,
and, with respect to any criminal action or proceeding, had
no reasonable cause to believe his or her conduct was
unlawful. In addition, the Indemnification Agreements provide
that the Company will make an advance payment of expenses to
any officer or director who has entered into an
Indemnification Agreement, in order to cover a claim relating
to any fact or occurrence arising from or relating to events
or occurrences specified in this paragraph, subject to
receipt of an undertaking by or on behalf of such officer or
director to repay such amount if it shall ultimately be
determined that he is not entitled to be indemnified by the
Company as authorized under this Agreement.
Irrevocable
Letter of Credit
In
connection with certain work contracted to us, in April 2010
we entered into a letter agreement with an unrelated third
party pursuant to which, in consideration of our agreement to
pay such party the sum of $15,000, such party agreed to
furnish to us an irrevocable letter of credit in an amount
equal to $150,000, showing the contracting party as the
beneficiary thereof.
In
addition, we entered into a separate Subcontractor Agreement
pursuant to which we subcontracted the installation portion
of same work to an unrelated third party. In
consideration of our agreement, our subcontractor agreed to
furnish to us an irrevocable letter of credit in an amount
equal to $150,000, showing the contracting party as the
beneficiary thereof.
During
the third quarter of 2011, the Company was awarded a contract
that contained a bonding requirement. The Company
satisfied this requirement with cash collateral supported by
an irrevocable standby letter of credit in the amount of
$91,000 which expires September 30, 2012. The
amount is presented as restricted cash on the condensed
consolidated balance sheets.
Sales
Taxes – As Restated
The
Company engaged a sales tax consultant to assist in
determining the extent of its potential sales tax
exposure. Based upon this analysis, management
determined the Company had probable exposure for certain
unpaid obligations, including interest and penalty, of
approximately $1,100,000 including and prior to the year
ended December 31, 2011. The Company has approximately
$1,100,000 accrued at the year ended December 31,
2011. The Company intends to manage the liability
by (1) confirming if customer’s self-assessed and
remitted tax to the applicable state(s) absent from our
transactions (2) confirming if customers were subjected to a
state audit and if so did it result in the customer paying
tax absent from our transaction (3) invoicing customers for
the back taxes and (4) establishing voluntary disclosure
agreements with the applicable states, which establishes a
maximum look-back period and payment
arrangements. However, if the aforementioned
methods prove unsuccessful and the Company is examined or
challenged by taxing authorities, there exists possible
exposure of an additional $620,000, not including any
applicable interest and penalties.
The
following table sets forth the change in the sales tax
accrual as of December 31:
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