UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the quarterly period ended March 31, 2002
-----------------
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the transition period from to
---------------------- --------------------------
Commission file number: 333-37654
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9278 COMMUNICATIONS, INC.
(Exact name of registrant as specified in its charter)
Delaware 98-0207906
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1942 Williamsbridge Road, Bronx, New York 10461
-----------------------------------------------
(Address of principal executive offices)
(718) 887-9278
--------------
(Registrant's telephone number, including area code)
Not applicable
(Former name, former address and former fiscal year,
if changed since last report)
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 past 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.
Yes [X] No [ ]
APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY
PROCEEDINGS DURING THE PRECEDING FIVE YEARS:
Indicate by check mark whether the registrant filed all documents and
reports required to be filed by Section 12, 13 or 15(d) of the Securities
Exchange Act of 1934 after the distribution of securities under a plan confirmed
by a court.
Yes [ ] No [ ]
APPLICABLE ONLY TO CORPORATE ISSUERS
State the number of shares outstanding of each of the registrant's classes
of common equity, as of the latest practicable date:
Common Stock, $.001 par value -23,932,912 shares issued and outstanding as of
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July 15 , 2002
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Item 1. Financial Statements
PART I - FINANCIAL INFORMATION
9278 Communications, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
March 31, December 31,
ASSETS 2002 2001
------------- -------------
(UNAUDITED)
CURRENT ASSETS
Cash and cash equivalents $ 2,606,648 $ 4,335,936
Restricted cash 1,055,844 1,051,215
Accounts receivable, net of allowance of $760,000
at March 31, 2002 and December 31, 2001 12,021,038 13,058,773
Accounts receivable-related party 1,961,719 1,315,011
Inventories 19,208,375 12,969,347
Prepaid expenses and other current assets 367,654 149,044
------------- -------------
Total current assets 37,221,278 32,879,326
PROPERTY AND EQUIPMENT, NET 1,429,588 1,306,884
GOODWILL, NET 3,624,071 3,624,071
OTHER ASSETS 169,756 158,187
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$ 42,444,693 $ 37,968,468
============= =============
The accompanying notes are an integral part of these statements.
2
9278 Communications, Inc. and Subsidiaries
CONSOLIDATED BALANCE SHEETS
March 31, December 31,
LIABILITIES AND SHAREHOLDERS' EQUITY 2002 2001
------------- -------------
(UNAUDITED)
CURRENT LIABILITIES
Accounts payable and accrued expenses $ 39,256,951 $ 34,590,301
Accounts payable - related party 225,125 318,950
Current maturities of notes and advances payable,
Shareholder 277,275 570,100
Current maturities of capital lease obligations 46,826 45,549
Current maturities of convertible notes payable 39,146 35,824
Income taxes payable 15,000 59,250
------------- -------------
Total current liabilities 39,860,323 35,619,974
CAPITAL LEASE OBLIGATIONS, less current maturities 75,284 85,974
CONVERTIBLE NOTES PAYABLE, less current maturities 126,135 140,146
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' EQUITY
Common stock - $.001 par value; 40,000,000 shares authorized; 22,932,912
shares issued and outstanding in March 31, 2002 and December 31, 2001,
respectively 22,933 22,933
Capital in excess of par value 8,248,458 8,248,458
Accumulated deficit (5,888,440) (6,149,017)
------------- -------------
2,382,951 2,122,374
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$ 42,444,693 $ 37,968,468
============= =============
The accompanying notes are an integral part of these statements.
3
9278 Communications, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
March 31, March 31,
2002 2001
----------- -----------
Net sales $57,365,454 $37,438,730
Cost of sales 53,069,185 34,715,305
----------- -----------
Gross profit 4,296,269 2,723,425
----------- -----------
Operating expenses
Selling 1,466,587 481,482
General and administrative 2,418,929 1,044,698
Depreciation 72,606 115,002
Provision for bad debts 51,792 52,270
----------- -----------
4,009,914 1,693,452
----------- -----------
Operating profit 286,355 1,029,973
Other expense
Interest expense 10,778 42,765
----------- -----------
10,778 319,821
----------- -----------
Earnings before income taxes 275,577 987,208
Income tax provision 15,000 3,571
----------- -----------
Net income $ 260,577 $ 983,637
=========== ===========
Earnings per common share
Basic and diluted $ 0.01 $ 0.04
=========== ===========
Weighted-average shares
Basic and diluted 23,932,912 23,593,153
=========== ===========
The accompanying notes are an integral part of these statements.
4
9278 Communications, Inc. and Subsidiaries
CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY
Three months ended March 31, 2002
Convertible preferred
stock Common stock
-------------------------- -------------------------
Shares Amount Shares Amount
----------- ----------- ----------- -----------
Balance at January 1, 2001 505 $ 505,000 23,166,969 $ 23,166
Conversion of preferred stock to
common stock (505) (505,000) 776,013 777
Repurchase and retirement of
common stock (1,010,070) (1,010)
Net income
----------- ----------- ----------- -----------
Balance at December 31, 2001 -- -- 22,932,912 22,933
Net income for the three months
ended March 31, 2002 260,577 260,577
----------- ----------- ----------- -----------
Balance at March 31, 2002 -- $ -- 22,932,912 $ 22,933
=========== =========== =========== ===========
Treasury stock Additional
------------------------- paid-in Accumulated
Shares Amount capital deficit Total
----------- ----------- ----------- ----------- -----------
Balance at January 1, 2001 $ -- $ 7,743,252 $(6,804,991) $ 1,466,427
Conversion of preferred stock to
common stock 504,223 --
Repurchase and retirement of
common stock 983 (27)
Net income 655,974 655,974
----------- ----------- ----------- ----------- -----------
Balance at December 31, 2001 -- -- 8,248,458 (6,149,017) 2,122,374
Net income for the three months
ended March 31, 2002
----------- ----------- ----------- ----------- -----------
Balance at March 31, 2002 -- $ -- $ 8,248,458 $(5,888,440) $ 2,382,951
=========== =========== =========== =========== ===========
The accompanying notes are an integral part of this statement.
F-5
9278 Communications, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
March 31, March 31,
2002 2001
----------- -----------
Cash flows from operating activities
Net income (loss) $ 260,577 $ 983,637
Adjustments to reconcile net income to net cash
(used in) provided by operating activities
Depreciation and amortization 72,606 115,002
Provision for doubtful accounts 51,792 --
Unrealized loss on investments -- (2,693)
Changes in assets and liabilities , net of
assets acquired and liabilities assumed
Restricted cash (4,629) --
Accounts receivable 339,235 231,905
Inventories (6,239,028) (611,686)
Prepaid expenses and other current assets (218,610) (95,986)
Other assets (11,569) (2,627)
Accounts payable and accrued expenses 4,572,826 1,280,068
Income taxes payable (44,250) --
----------- -----------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES (1,221,050) 1,897,620
----------- -----------
Cash flows from investing activities
Acquisition of property and equipment (195,312) (233,430)
Acquisition of businesses (207,742)
----------- -----------
NET CASH USED IN INVESTING ACTIVITIES (195,312) (441,172)
----------- -----------
Cash flows from financing activities
Notes and advances payable, shareholder, net (292,825) (855,289)
Principal payments on capital lease obligations (9,412) (10,461)
Principal payments on convertible notes payable (10,689) --
----------- -----------
NET CASH USED IN FINANCING ACTIVITIES (312,926) (865,750)
----------- -----------
NET (DECREASE) INCREASE IN CASH
AND CASH EQUIVALENTS (1,729,288) 590,698
Cash and cash equivalents, beginning of year 4,335,936 4,114,651
----------- -----------
Cash and cash equivalents, end of year $ 2,606,648 $ 4,705,349
=========== ===========
F-6
9278 Communications, Inc. and Subsidiaries
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED)
(UNAUDITED)
March 31, March 31,
2002 2001
--------- ---------
Supplemental disclosures of cash flow information:
Cash paid during the period for
INTEREST $ 17,130 $ 45,458
Income taxes 67,381 26,326
Noncash investing and financing activities:
Acquisition of businesses in Connecticut
Net assets acquired $ 107,751
Customer list 100,000
---------
Cash paid $ 207,751
=========
The accompanying notes are an integral part of these statements.
F-7
9278 Communications, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - BASIS OF PRESENTATION
The accompanying consolidated unaudited financial statements of 9278
Communication Inc. and subsidiaries (collectively, the "Company") have been
prepared pursuant to the rules and regulations of the Securities and
Exchange Commission ("SEC") for quarterly reports on Form 10-Q and do not
include all of the information and footnote disclosures generally required
by accounting principles generally accepted in the United States and should
be read in conjunction with our consolidated financial statements and notes
thereto for the fiscal year ended December 31, 2001, included in the
Company's Form 10-K as filed with the SEC. The accompanying condensed
consolidated unaudited financial statements have been prepared in
accordance with accounting principles generally accepted in the United
States and reflect all adjustments (consisting of normal recurring
accruals) which are, in the opinion of the management, considered necessary
for a fair presentation of results for these interim periods. Operating
results for the three month periods ended March 31, 2002 and 2001 are not
necessarily indicative of the results that may be expected for the fiscal
year ending December 31, 2002. Certain prior period amounts have been
reclassified to conform to the current period presentation.
NOTE 2 - NATURE OF BUSINESS
The Company distributes prepaid telephone calling cards to distributors
and retail establishments through its various sales locations throughout
the United States.
NOTE 3 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
A summary of the significant accounting policies consistently applied
in the preparation of the accompanying consolidated financial statements
follows:
PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the accounts
of 9278 Communications, Inc. and its wholly owned subsidiaries, 9278
Distributors, Inc., 9278 Dot Com., Inc., E-Store Solution, Inc. and
Reliable Acquisition Corp. (hereinafter, the "Company"). All significant
intercompany transactions and balances have been eliminated in
consolidation.
CASH AND CASH EQUIVALENTS
Cash and cash equivalents include all cash and highly liquid
investments with an original maturity of three months or less.
8
9278 Communications, Inc. and Subsidiaries
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
INVENTORIES
Inventories, which consist of prepaid telephone cards, are stated at
the lower of cost (first-in, first-out) or market.
PROPERTY AND EQUIPMENT
Property and equipment are stated at cost. Depreciation and
amortization are provided for, using straight-line and accelerated methods,
in amounts sufficient to relate the cost of depreciable assets to
operations over their estimated service lives. Leased property under
capital leases is amortized over the shorter of the service lives of the
assets or the term of the lease. Repairs and maintenance are charged to
operations as incurred.
INCOME TAXES
Income taxes are accounted for under the Financial Accounting Standards
Board Statement of Financial Accounting Standards No. 109 ("SFAS No. 109"),
"Accounting of Income Taxes." Under SFAS No. 109, deferred tax assets and
liabilities are recognized for the future tax consequences attributable to
differences between the financial statement carrying amounts of existing
assets and liabilities and their respective tax basis. Deferred tax assets
and liabilities are measured using enacted tax rates expected to apply to
taxable income in the years in which those temporary differences are
expected to be recovered or settled. Under SFAS No. 109, the effect on
deferred tax assets and liabilities of a change in tax rates is recognized
in income in the period that includes the enactment date. The company has
made provision for various minimum state and local taxes. The provision for
federal taxes has been offset against the company's net operating losses
carried forward from prior years.
EARNINGS PER SHARE
Basic earnings per share are determined by dividing the Company's net
earnings by the weighted-average shares outstanding. Diluted earnings per
share include the dilutive effects of outstanding stock option and
warrants. Excluded from the calculation of diluted earnings per share are
210,000 warrants issued in March 2001 to purchase the Company's common
stock, as their inclusion would have been antidilutive.
GOODWILL
In June 2001, the Financial Accounting Standards Board issued
Statements of Financial Accounting Standards No. 141 ("SFAS No. 141"),
"Business Combinations," and SFAS No. 142, "Goodwill and Other Intangible
Assets" ("SFAS No. 142"). For all business combinations initiated after
June 30, 2001, SFAS No. 141 eliminates the pooling-of-interests method of
accounting and requires the purchase method of accounting, including
revised recognition criteria for intangible assets other than goodwill.
Under SFAS No. 142, which is effective for years beginning after December
15, 2001, goodwill and indefinite-lived intangible assets are no longer
amortized but are reviewed annually, or more frequently if impairment
indicators arise, for impairment. Intangible assets that have finite lives
will continue to be amortized over their useful
9
lives and reviewed for impairment in accordance with Statement of Financial
Accounting Standards No. 121 ("SFAS No. 121"), "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
of."
The Company has adopted SFAS No. 142 for the year beginning January 1,
2002. Therefore, annual and quarterly amortization of goodwill of $260,000
and $65,000 are no longer recognized. The Company has performed a
transitional fair value based impairment test and has determined that no
impairment of goodwill exist as of January 1, 2002.
The following table presents a reconciliation of net income and
earnings-per-share amounts, as reported in the financial statements, to
those amounts adjusted for goodwill and intangible asset amortization
determined in accordance with the provisions of SFAS No. 142.
Three Months Ended
March 31,
2002 2001
------------- -------------
Reported net income $260,577 $983,637
Add back: goodwill amortization 0 66,227
INCOME TAX EFFECT 0 0
------------- -------------
Adjusted net income $260,577 $1,049,864
============= =============
BASIC EARNINGS PER SHARE:
Reported net income $0.01 $0.04
Goodwill amortization 0 0
Income tax effect 0 0
------------- -------------
Adjusted net income $0.01 $0.04
============= =============
DILUTED EARNINGS PER SHARE:
Reported net income $0.01 $0.04
Goodwill amortization 0 0
Income tax effect 0 0
------------- -------------
Adjusted net income $0.01 $0.04
============= =============
LONG-LIVED ASSETS
Long-lived assets are reviewed for impairment whenever events or
changes in circumstances indicate that the carrying amount of an asset or
group of assets may not be fully recoverable. If an impairment indicator is
present, we evaluate recoverability by a comparison of the carrying amount
of the assets to future undiscounted net cash flows that we expect to
generate from these assets. If the assets are impaired, we recognize an
impairment charge equal to the amount by which the carrying amount exceeds
the fair value of the assets. Assets to be disposed of are reported at the
lower of carrying values or fair values, less estimated costs of disposal.
In June 2001, the Financial Accounting Standards Board issued
Statements of Financial Accounting Standards No. 143 ("SFAS No. 143"),
"Accounting for Asset Retirement Obligations," which is effective for years
beginning after June 15, 2002. SFAS No. 143 addresses legal obligations
associated with the retirement of tangible long-lived assets that result
from the
10
acquisition, construction, development or normal operation of a long-lived
asset. The standard requires that the fair value of a liability for an
asset retirement obligation be recognized in the period in which it is
incurred if a reasonable estimate of fair value can be made. Any associated
asset retirement costs are to be capitalized as part of the carrying amount
of the long-lived asset and expensed over the life of the asset. The
Company will adopt SFAS No. 143 for the year beginning January 1, 2003. The
impact of adopting SFAS No. 143 will have no impact to the consolidated
financial statements.
In August 2001, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 144 ("SFAS No. 144"),
"Accounting for the Impairment or Disposal of Long-Lived Assets," which is
effective for fiscal years beginning after December 15, 2001. SFAS No. 144
clarifies accounting and reporting for assets held for sale, scheduled for
abandonment or other disposal, and recognition of impairment loss related
to the carrying value of long-lived assets. The Company has elected to
adopt SFAS No. 144 for the year beginning January 1, 2002. There has been
no impact of adopting SFAS No. 144 to the consolidated financial
statements.
REVENUE RECOGNITION
Revenue is recognized from sales when a product is shipped and title
passes to the customer.
ADVERTISING
Advertising costs are expensed as incurred and totaled $776,317 and
$94,998 for the three months ended March 31, 2002 and 2001, respectively.
SHIPPING AND HANDLING FEES AND COSTS
The Company includes fees billed to a customer relating to shipping and
handling costs in net sales. All shipping and handling expenses incurred by
the Company are included in cost of sales.
USES OF ESTIMATES AND FAIR VALUE OF FINANCIAL INSTRUMENTS
In preparing financial statements in conformity with accounting
principles generally accepted in the United States of America, management
is required to make estimates and assumptions that affect the reported
amounts of assets and liabilities and the disclosure of contingent assets
and liabilities at the date of the financial statements and revenues and
expenses during the reporting period. Actual results could differ from
those estimates.
Management of the Company believes that the fair value of financial
instruments, consisting of cash, accounts receivable and debt, approximates
carrying value due to the immediate or short-term maturity associated with
its cash and accounts receivable and the interest rates associated with its
debt.
RECLASSIFICATIONS
Certain reclassifications have been made to the prior year financial
statements to conform to the current year presentation.
11
NOTE 4 - RESTRICTED CASH
Restricted cash consists of the following at March 31, 2002:
Amounts invested in certificate of deposit, which is
pledged as collateral for a letter of credit issued by
the bank $1,004,629
Amounts invested in certificate of deposit, held by
bank as collateral for deposited funds returned for
insufficient funds by customers' bank 51,215
NOTE 5 - PROPERTY AND EQUIPMENT
Property and equipment consist of the following:
Estimated
useful life March 31, December 31,
(years) 2002 2001
------- ---- ----
Furniture and equipment 5 - 7 $ 553,403 $ 483,164
Automobiles 5 - 7 224,566 224,566
Computer equipment 5 851,255 731,685
Leasehold improvements 3 - 8 251,229 245,729
---------- -----------
1,880,453 l,685,144
Less accumulated
depreciation and amortization 450,865 378,260
---------- -----------
$1,429,588 $ 1,306,884
---------- -----------
Depreciation and amortization expense for property and equipment for the
three months ended March 31, 2002 and 2001 was approximately $72,606 and
$48,775, respectively.
NOTE 6 - NOTES PAYABLE - SHAREHOLDER
On December 10, 1999, the Company declared $3,000,000 in dividends, of
which $1,000,000 was paid. On December 13, 1999, the Company executed a
promissory note for $2,000,000 for the declared but unpaid dividends,
payable to the Company's chief executive officer, who is also a
shareholder. A principal payment of $1,000,000 was originally due on June
13, 2000, and the second payment originally payable on December 13, 2001.
On March 22, 2001, the Company amended the terms of these promissory notes
to defer both payments to March 31, 2002 and December 31, 2002,
respectively. The final payment is accelerated if the Company's gross
revenue exceeds $10 million in each of any six consecutive calendar months
or exceeds $60 million in any six-month period. During the three months
ended March 31, 2002, the Company made principal payments aggregating
$291,600. Interest is payable at a rate of 8%. For the three months ended
March 31, 2002, interest expense on this note was $8,400 and was paid in
full as of that date.
12
NOTE 7 - RELATED PARTY TRANSACTIONS
Sales of inventory to a customer who is related to an officer of the
Company were approximately $6,171,000 and $4,288,000 for the three months
ended March 31, 2002 and 2001, respectively. The Company also purchased
inventory from this customer in the amount of $2,763,000 and $1,200,000
during the three months ended March 31, 2002 and 2001, respectively.
NOTE 8 - CONTINGENCIES
The Company from time to time is subject to other certain legal
proceedings and claims which have arisen in the ordinary course of its
business. These aforementioned actions when ultimately concluded will not,
in the opinion of management, have a material adverse effect upon the
financial position, results of operations or liquidity of the Company.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION.
The following discussion should be read in conjunction with the consolidated
financial statements and notes thereto set forth in Item 1 of this Quarterly
Report. In addition to historical information, this discussion and analysis
contains forward-looking statements that involve risks, uncertainties and
assumptions, which could cause actual results to differ materially from
Management's expectations. Factors that could cause differences include, but are
not limited to, expected market demand for the Company's products, fluctuations
in pricing for products distributed by the Company and products offered by
competitors, as well as general conditions of the telecommunications
marketplace.
OVERVIEW
To date, our principal source of revenue has been the marketing and
distribution of prepaid phone cards. We market and distribute branded prepaid
phone cards, which are produced by a variety of telecommunications long distance
carriers and resellers, as well as private label proprietary prepaid phone cards
produced exclusively for us by various long distance carriers and/or resellers.
Prepaid phone cards are distributed through a vast network of retail
outlets, including convenience stores, newsstands, grocery stores and discount
stores. The retail outlets are serviced by independent distributors, which often
distribute newspapers or other items to the retail outlets. We purchase large
volumes of branded prepaid phone cards from the long distance carrier or
reseller and sell the cards in smaller quantities, together with cards from
other carriers and/or private label cards we distribute, to the independent
distributor, for ultimate distribution to retailer outlet.
We purchase branded cards at a discount from the face value of the card,
and resell them to the distributor at a slightly lower discount. The difference
between the two discount rates, typically from 1% to 8%, represents the gross
margin we retain. We purchase branded cards on varying terms, from C.O.D. to an
as used basis. Sales of our products are generally made on a net 21 basis.
Private label cards are generally designed and produced by us, utilizing
card numbers and PINs provided by the telecommunications carrier or reseller
providing the long distance service for the card. We incur the upfront expense
of printing the phone cards. However, we do not pay the long distance
13
carrier until it activates the cards, which occurs upon our sale to the
distributor. Accordingly, through the use of private label cards, our cost of
inventory is significantly reduced, as purchases are effectively made on an
as-needed basis. In addition, private label cards generally provide us with the
ability to achieve a greater gross margin percentage, typically ranging from 5%
to 8%. During the past two years, we have continued to increase our sales of
private label cards, both on an absolute dollar volume and as a percentage of
our sales. During the year ended December 31, 2001, we sold over 120 varieties
of private label cards, which accounted for in excess of 70% of our total
revenues. During 2001, over 60% of our PIN purchases were made from a single
telecommunications carrier. We believe that, should such carrier experience any
operating difficulties or interruption of service, we will be able to purchase
PINS from other carriers at competitive rates.
We continue to seek to expand our geographic reach and to increase our
sales. In recent years, we have established distribution centers in California,
Maryland, Connecticut, Illinois, Upstate New York, as well as additional
distribution centers in the New York metropolitan area, and we have established
strategic relationships with distributors in Canada and United Kingdom. In
addition, in 2001, we commenced pre-paid phone card sales through our Internet
Website 9278.com(TM). Through our website, consumers worldwide can purchase 9278
phone cards over the Internet from a selection of over 40 cards, searchable by
various criteria, e.g., rates, brand name, country, etc., and receive immediate
delivery of the card's access number and PIN codes via e-mail.
We are seeking to develop and acquire rights to additional prepaid
telecommunications services and other prepaid products or services to diversify
our product offerings and increase our overall gross margin. In the short-term,
additional costs related to the development or acquisition of such products may
have an impact on our net profits.
RESULTS OF OPERATIONS
The following table sets forth certain financial data as a percentage of net
revenues for the periods indicated:
For the three months
Ended March 31,
2002 2001
------ ------
Net revenues 100.00% 100.00%
Cost of services 92.51 92.87
------ ------
Gross margin 7.49 7.13
Selling expenses 2.56 1.29
General and administrative expenses 4.22 2.79
Depreciation and amortization 0.13 0.31
Provision for bad debts 0.09 0.14
Income from operations 0.49 2.60
Interest expense (0.02) (0.11)
------ ------
Net Income before income taxes 0.47% 2.64%
------ ------
14
THREE MONTHS ENDED MARCH 31, 2002 COMPARED TO THREE MONTHS ENDED MARCH 31, 2001
NET REVENUES. Net revenues for the three months ended March 31, 2002 increased
$19.9 million, or 53.2%, to $57.4 million from $37.4 million for the same period
in 2001. The overall increase in revenues was primarily due to our acquisitions
and geographic expansion since the third quarter of calendar year 2000 and
continuing during the year 2001. In May 2001, we opened a new office in Los
Angeles, California, which accounted for 41.2% of increase in sales for the
three months ended March 31, 2002. In August 2001, we opened two new locations,
one in Brooklyn, New York, which accounted for 9.5% of increase in sales, and
the second in Chicago, Illinois, which accounted for 15.0 % of increase in sales
for the three months ended March 31, 2002. Starting July 2001, we began actively
selling phone cards over the Internet. Internet sales accounted for 23.0% of
increase in sales for the three months ended March 31, 2002. In November 2001,
we opened a new office in Poughkeepsie, New York, which accounted for 3.5% of
increase in sales for the three months ended March 31, 2002. For the three
months ended March 31, 2002, same location sales for our Bronx office accounted
for 11.2% of the increase in sales, Yonkers office accounted for 6.5% of
increase in sales, Maryland office accounted for 7.0% of increase in sales,
Connecticut office accounted for 3.1% of increase in sales, whereas the Queens
office recorded a 20.0% decrease in sales for the three months ended March 31,
2002 over the same period in 2001. Same store revenues increased primarily as a
result of extensive marketing efforts implemented by the company and continued
expansion of our market share for our private label cards. Our Queens office
experienced a decrease in sales due to intense competition by other distributors
in that market.
GROSS MARGIN. Gross margin increased $1.63 million, or 61.04%, to $4.30 million,
or 7.49% of net revenues, for the three months ended March 31, 2002, from $2.67
million, or 7.13% of net revenues, for the same period in 2001. This increase in
gross profit was attributable to increased sales of higher margin private label
cards during the three months ended March 31, 2002. The Company's gross margin
varies from period to period depending upon the relative percentage of sales of
lower margin branded cards and other factors such as discounts and promotions
employed from time to time to stimulate sales.
SELLING EXPENSES. Selling expenses for the three months ended March 31, 2002
increased $985,000, or 205% to $1,467,000 from $481,000 for the three months
ended March 31, 2002. Of this, $681,000 was an increase in advertising costs
incurred to promote its new private label cards and its sales over the Internet.
The commission expense increased by $184,000 as the company has hired
commissioned salesperson starting 2001 to promote its sales. Trade show expenses
increased by $128,000, as the company participates in more trade shows.
Selling expenses as a percentage of net revenues increased to 2.56% for the
three months ended March 31, 2002, from 1.29% for the same period in 2001.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses for the
three months ended March 31, 2002, increased $1,374,000, or 131% to $2,419,000
from $1,045,000 for the same period in 2001. This increase was primarily due to
the increase in salaries by $700,000 to $1,089,000 in 2002 as compared to
$389,000 in 2001. Included in the general and administrative expenses is the
cost of processing credit card sales over the Internet in the amount of $239,000
for the three months ended March 31, 2002. Rent expense increased by $93,000 to
$138,000 in 2002 as compared to $45,000 in 2001 and telephone expense increased
by $76,000 to $102,000 in 2002 as compared to $26,000 in 2001 as the company
continued to add new locations and expand its existing facilities. Other general
and administrative expenses increased due to the company opening additional
locations and expenses related to increase in sales volume.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization for the three
months ended March 31, 2002 totaled $73,000; a decrease of $42,000 as compared
to the same period in 2001. The decrease is the
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result of the is the fact that the company no longer amortizes goodwill as a
result of the adoption, as of January 1, 2002, of SFAS No. 142 of the Financial
Accounting Standards Board. This decrease in $66,000 was offset by an increase
in depreciation expense of $24,000 due to acquisition of fixed assets on opening
new locations.
INCOME FROM OPERATIONS. The Company had a net profit of $276,000 for the three
months ended March 31, 2002 as compared to $987,000 for the three months ended
March 31, 2001. The decrease in net income was due to the increase in operating
expenses offset by slight increase in gross profit margins. For purposes of
earnings per share, net income reflects net income of $276,000 the three months
ended March 31, 2002 as compared to a net income of $987,000 for the three
months ended March 31, 2001.
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 2002, the Company had total current assets of approximately
$37,221,000. This included $2,607,000 in cash, $1,056,000 in restricted cash,
$19,208,000 in inventories and $13,983,000 in accounts receivable. The Company's
cash balances vary significantly from day-to-day due the large volume of
purchases and sales made by the Company from the various prepaid phone cards
companies and the numerous distributors to whom the Company sells cards.
The Company used $1,221,000 in cash from operating activities during the
three months ended March 31, 2002 as compared to generating $1,898,000 during
the same period in 2001. Decreases in cash flows during the three months ended
March 31, 2002 are related to lower net income, increase in inventories, offset
by decrease in accounts receivable and increase in accounts payable.
Investing activities used $195,000 during the three months ended March 31,
2002 to acquire additional fixed assets. Financing activities used $313,000
during the three months ended March 31, 2001 to pay down notes payable and
principle on debt obligations.
The Company believes that existing cash and cash equivalents, cash flow
from operations and available vendor credit will be sufficient to meet its
planned working capital and capital expenditure budget through the remainder of
2002. However, there are no assurances that The Company will not be required to
seek other financing. If The Company is required to seek other financing, there
can be no assurance that the Company will be able to obtain such financing on
commercially reasonable terms, or otherwise, or that it will be able to
otherwise satisfy it short-term cash flow needs from other sources in the
future.
CRITICAL ACCOUNTING POLICIES
Financial Reporting Release No. 60, which was recently published by the
SEC, recommends that all companies include a discussion of critical accounting
policies used in the preparation of their financial statements. The Company's
significant accounting policies are summarized in Note 3 of its financial
statements. While all these significant accounting policies impact its financial
condition and results of operations, the Company views certain of these policies
as critical. Policies determined to be critical are those policies that have the
most significant impact on the Company's financial statements and require
management to use a greater degree of judgment and/or estimates. Actual results
may differ from those estimates.
The Company believes that given current facts and circumstances, it is
unlikely that applying any other reasonable judgments or estimate methodologies
would cause a material effect on the Company's consolidated results of
operations, financial position or liquidity for the periods presented in this
report.
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The accounting policies identified as critical are as follows:
REVENUE RECOGNITION. The Company recognizes revenues in accordance with
generally accepted accounting principles as outlined in SAB No. 101 which
requires that four basic criteria be met before revenue can be recognized: (1)
persuasive evidence of an arrangement exists, (2) product delivery, including
customer acceptance, has occurred or services have been rendered, (3) the price
is fixed or determinable and (4) collectibility is reasonably assured. The
Company believes that its revenue recognition policy is critical because revenue
is a very significant component of its results of operations. Decisions relative
to criteria (4) regarding collectibility are based upon management judgments and
should conditions change in the future and cause management to determine these
criteria are not met, the Company's recognized results may be affected.
INCOME TAXES. In preparing the Company's consolidated financial statements,
income tax expense is calculated for each of the jurisdictions in which the
Company operates. This process involves estimating actual current taxes due plus
assessing temporary differences arising from differing treatment for tax and
accounting purposes which are recorded as deferred tax assets and liabilities.
Deferred tax assets are periodically evaluated to determine their
recoverability, and where their recovery is not likely, a valuation allowance is
established and a corresponding additional tax expense is recorded in the
Company's statement of operations. In the event that actual results differ from
the Company's estimates given changes in assumptions, the provision for income
taxes could be materially impacted. As of March 31, 2002, the company had a
deferred tax asset of approximately $750,000 and a full valuation allowance due
to uncertainty surrounding the company's ability to realize its deferred tax
asset.
INVENTORIES. The Company values its inventory at the lower of the actual cost to
purchase or the current estimated market value of the inventory. On a quarterly
basis, inventory quantities on hand are reviewed and an analysis of the
provision for excess and obsolete inventory is performed based primarily on the
Company's estimated forecast of product demand and production requirements for
the next twenty-four months. A significant increase in the demand for the
Company's products could result in a short-term increase in the cost of
inventory purchases while a significant decrease in demand could result in an
increase in the amount of excess inventory quantities on hand. Additionally, the
Company's estimates of future product demand may prove to be inaccurate in which
case the Company may have understated or overstated the provision required for
excess and obsolete inventory. In the future, if the Company's inventory is
determined to be overvalued as a result of understating its provision for excess
and obsolete inventory, such costs would be required to be recorded in its cost
of goods sold at the time of such determination. Likewise, if its inventory is
determined to be undervalued, as a result of overstating its provision for
excess and obsolete inventory, the Company may have over- reported its costs of
goods sold in previous periods and would be required to recognize such
additional operating income at the time of sale. Therefore, although every
effort is made to ensure the accuracy of the Company's forecasts of future
product demand, any significant unanticipated changes in demand could have a
significant impact on the value of the Company's inventory and reported
operating results.
GOODWILL AND OTHER INTANGIBLES. Purchase accounting requires extensive use of
accounting estimates and judgments to allocate the purchase price to the fair
market value of the assets and liabilities purchased, with the excess value, if
any, being classified as goodwill. In addition, as described in Notes 3 of the
Company's financial statements, as a result of the Company's acquisitions,
values were assigned to intangible assets for customer lists and related
relationships. Finite useful lives were assigned to these intangibles and they
will be amortized over their remaining life. As with any intangible asset,
future write-downs may be required if the value of these assets become impaired.
PROPERTY AND EQUIPMENT. Property and equipment are depreciated over their useful
lives. Useful lives are based on management's estimates of the period that the
assets will generate revenue. Any change in
17
conditions that would cause management to change its estimate as to the useful
lives of a group or class of assets may significantly impact the Company's
depreciation expense on a prospective basis.
ALLOWANCE FOR DOUBTFUL ACCOUNTS. The Company performs ongoing credit evaluations
of its customers and adjusts credit limits based upon payment history and the
customer's current credit worthiness, as determined by a review of their current
credit information. The Company continuously monitors collections and payments
from customers and a provision for estimated credit losses is maintained based
upon its historical experience and any specific customer collection issues that
have been identified. While such credit losses have historically been within the
Company's expectations and the provisions established, the Company cannot
guarantee that the same credit loss rates will be experienced in the future.
Concentration risk exists relative to the Company's accounts receivable, as
14.0% of the Company's total accounts receivable balance at March 31, 2002 is
concentrated in one affiliated customer. While the accounts receivable related
to this customer may be significant, the Company does not believe the credit
loss risk to be significant given the consistent payment history by this
customer.
RECENT ACCOUNTING PRONOUNCEMENTS.
In July 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 143, (SFAS No. 143), "Accounting for Asset
Retirement Obligations". This standard addresses the financial accounting and
reporting for obligations associated with the retirement of tangible long-lived
assets and the associated asset retirement costs. The standard is effective for
fiscal years beginning after June 15, 2002. We will adopt this standard
effective January 1, 2003. We do not expect the adoption of SFAS No. 143 to have
a material impact on the company's financial results.
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PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
We are subject to certain legal proceedings and claims which have arisen in
the ordinary course of our business. These actions when ultimately concluded
will not, in the opinion of management, have a material adverse effect on our
financial position, results of operations or liquidity. We are also subject to
other legal proceedings which we have previously disclosed.
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 AND REPORTS ON FORM 8-K.
(a) Exhibits.
EXHIBIT
NUMBER DESCRIPTION OF EXHIBIT
------ ----------------------
3.1 Certificate of Incorporation of the Company(1)
3.2 Bylaws of the Company(1)
4.1 2001 Stock Option Plan of the Company(2)
--------------------
(1) Incorporated by reference from the Company's report on Form 10-QSB for the
three-month period ended March 31, 2000
(2) Incorporated by reference from the Company's report on Form 10-KSB for the
year ended December 31, 2000
(b) Reports on Form 8-K.
None.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the registrant caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
9278 COMMUNICATIONS, INC.
Date: July 15, 2002 By /s/ Sajid kapadia
-----------------
Sajid Kapadia
Chief Executive Officer
(Principal Financial and
Accounting Officer)
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