SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------
FORM 10-Q
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[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 1998
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER 0-27580
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AVTEL COMMUNICATIONS, INC.
(EXACT NAME OF REGISTRANT SPECIFIED IN ITS CHARTER)
---------
DELAWARE 87-0378021
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
501 BATH STREET
SANTA BARBARA, CALIFORNIA 93101
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(805) 884-6300
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
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. Yes [X] No [_]
As of July 24, 1998, there were 9,657,427 shares of the Registrant's Common
Stock, par value $0.01 per share, issued and outstanding, excluding treasury
stock.
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AVTEL COMMUNICATIONS, INC.
QUARTER ENDED JUNE 30, 1998
TABLE OF CONTENTS
PAGE
----
Part I FINANCIAL INFORMATION
Item 1. Financial Statements
Consolidated Balance Sheets as of June 30,
1998 (Unaudited) and December 31, 1997 ............. 3
Consolidated Statements of Operations for the
Three Month and Six Month Periods Ended June 30,
1998 and 1997 (Unaudited) ................. 4
Consolidated Statements of Cash Flows for the
Six Month Periods Ended June 30, 1998 and 1997
(Unaudited) .................................. 5
Notes to Consolidated Financial Statements
(Unaudited) ........................................ 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations ................ 7
PART II OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders .. 14
Item 6. Exhibits and Reports on Form 8-K ..................... 14
Signature Page ....................................................... 15
2
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
June 30, December 31,
1998 1997
----------- -----------
(Unaudited)
Assets
CURRENT ASSETS
Cash and cash equivalents ....................... $ 2,461,709 4,807,441
Accounts receivable, net ........................ 6,909,636 6,961,953
Due from affiliates ............................. 1,827,560 2,127,771
Federal and state income tax receivable ......... 110,339 598,970
Other current assets ............................ 550,229 861,950
------------ -----------
Total current assets ..................... 11,859,473 15,358,085
------------ -----------
Property and equipment, net ....................... 1,650,537 1,791,682
Other assets, net ................................. 1,398,317 1,575,083
------------ -----------
Total assets ............................ $ 14,908,327 18,724,850
============ ==========
Liabilities and Stockholders' Equity
CURRENT LIABILITIES
Accounts payable and other
accrued expenses ............................. $ 1,382,996 1,546,762
Accrued network services costs .................. 3,676,171 4,319,198
Sales and excise tax payable .................... 902,857 736,012
Due to affiliates ............................... 2,683,381 2,719,417
Other current liabilities ....................... 547,612 466,039
------------ -----------
Total current liabilities ............... 9,193,017 9,787,428
------------ -----------
Deferred income taxes ............................. 498,712 498,712
Common stock subject to put option ................ 541,627 578,880
Other liabilities ................................. 18,818 50,782
------------ -----------
Total liabilities ....................... 10,252,174 10,915,802
------------ -----------
STOCKHOLDERS' EQUITY
Preferred stock, authorized 750,000 shares, $0.01
par value ..................................... -- --
Series A convertible preferred stock, authorized
250,000 shares, $0.01 par value, cumulative as
to 8% dividends, 147,700 and 207,70 shares
issued and outstanding June 30, 1998 and
December 31, 1997 respectively. (Liquidation
preference of $704,032 and $910,800 June 30,
1998 and December 31, 1997 respectively,
including dividends in arrears) ............... 1,477 2,077
Common stock, authorized 20,000,000 shares, $0.01
par value, 11,645,075 and 11,437,056 shares
issued June 30, 1998 and December 31, 1997
respectively, including 337,733 and 385,920
shares subject to put options on June 30, 1998
and December 31, 1997 respectively ............ 113,074 110,511
Additional paid in capital ...................... 17,769,318 17,138,739
Retained earnings (accumulated deficit) ......... (13,207,716) (9,422,279)
Treasury stock, 1,999,997 shares ................ (20,000) (20,000)
------------ -----------
Total stockholders' equity .............. 4,656,153 7,809,048
------------ -----------
Commitments and contingencies ..................... -- --
Total liabilities and
stockholders' equity ................... $ 14,908,327 18,724,850
============ ==========
See accompanying Notes to Consolidated Financial Statements
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<TABLE>
AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
<CAPTION>
Three Months Six Months
Ended June 30, Ended June 30,
-------------------------- ------------------------
1998 1997 1998 1997
------------ ----------- ----------- -----------
<S> <C> <C> <C> <C>
REVENUES ..................... $ 11,294,866 12,870,397 23,739,705 26,841,158
COST OF REVENUES ............. 8,356,018 8,916,062 17,644,013 18,393,253
GROSS MARGIN ................. 2,938,848 3,954,335 6,095,692 8,447,905
Operating expenses
Selling, general & admin ... 4,802,586 4,180,961 9,385,032 7,897,713
Depreciation & amortization 265,370 179,349 544,238 364,200
------------ ----------- ----------- -----------
Total operating expenses 5,067,956 4,360,310 9,929,270 8,261,913
------------ ----------- ----------- -----------
OPERATING INCOME (LOSS) ...... (2,129,108) (405,975) (3,833,578) 185,992
Interest expense ............. (17,327) (1,830) (29,302) (6,886)
Other income, net ............ 33,488 65,295 77,443 119,522
------------ ----------- ----------- -----------
Income(loss) before income tax (2,112,947) (342,510) (3,785,437) 298,628
Income tax expense (benefit) . 0 (143,853) 0 125,426
------------ ----------- ----------- -----------
NET INCOME (LOSS) ............ $ (2,112,947) (198,657) (3,785,437) 173,202
============ =========== =========== ===========
Net income (loss) per share
- basic and diluted ....... $ (0.22) (0.02)* (0.40) 0.02*
============ =========== =========== ===========
Weighted average number of
common shares ............... 9,549,958 9,366,447* 9,513,924 9,366,420*
============ =========== =========== ===========
* The 1997 amounts are presented on a pro forma basis.
See accompanying Notes to Consolidated Financial Statements.
</TABLE>
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AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Six Months
Ended June 30,
------------------------
1998 1997
----------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) ............................ $(3,785,437) 173,202
Adjustments to reconcile net income (loss)
to net cash provided by (used in)
operating activities:
Depreciation and amortization .......... 544,238 364,200
Amortization of advanced commissions ... 220,928 832,094
Provision for bad debts ................ 1,468,143 747,988
Stock compensation earned .............. 563,509 0
Changes in assets and liabilities:
Accounts receivable .................... (1,415,826) 1,291,072
Due from affiliates .................... (137,213) 248,114
Other current assets ................... 579,424 (176,504)
Accounts payable and accrued liabilities (561,458) (1,419,808)
Due to affiliate ....................... (36,036) (389,894)
----------- ----------
Net cash provided by (used in)
operating activities ................... (2,559,728) 1,670,464
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment ........... (226,327) (127,536)
Loans to affiliates .......................... 0 (2,000,000)
Payments on loans to affiliates .............. 437,424 75,697
Proceeds from sale of property and equipment . 0 2,748
----------- ----------
Net cash provided by (used in)
investing activities ................... 211,097 (2,049,091)
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on capital leases ......... (28,881) 0
Issuance of common stock for exercise
of options ............................... 31,780 0
----------- ----------
Net cash provided by financing activities .. 2,899 0
----------- ----------
Net increase (decrease) in cash and cash
equivalents ................................ (2,345,732) (378,627)
Cash and cash equivalents at beginning of period 4,807,441 4,622,395
----------- ----------
Cash and cash equivalents at end of period ..... $ 2,461,709 4,243,768
=========== ==========
See accompanying Notes to Consolidated Financial Statements.
5
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AVTEL COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
June 30, 1998 and 1997
(1) Basis of Presentation
---------------------
The unaudited consolidated financial statements of AvTel Communications,
Inc. and Subsidiaries (the "Company") for the three month and six month periods
ended June 30, 1998 and 1997, have been prepared in accordance with generally
accepted accounting principles for interim financial reporting. Accordingly,
they do not include all of the information and footnotes required by generally
accepted accounting principles for complete financial statements and should be
read in conjunction with the audited consolidated financial statements and notes
thereto included in the Company's Form 10-K for the year ended December 31,
1997. All significant intercompany balances and transactions have been
eliminated in consolidation. In the opinion of management, all adjustments
(consisting only of normal recurring adjustments) considered necessary for a
fair presentation of the interim financial information have been included. The
results of operations for any interim period are not necessarily indicative of
the results of operations for a full year.
(2) Earnings Per Common Share
-------------------------
The Company adopted the provisions of Statement of Financial Accounting
Standards No. 128, "Earnings per Share" ("SFAS 128"), in the fourth quarter of
1997 which required companies to present basic earnings per share and diluted
earnings per share. Basic earnings per share is computed by dividing income
available to common stockholders by the weighted average number of common shares
outstanding during the period. Diluted earnings per share reflects the potential
dilution that could occur if securities or other contracts to issue common stock
were exercised or converted into common stock. The Company has restated its June
30, 1997 earnings per share calculations to reflect the adoption of SFAS 128.
(3) Stock Compensation
------------------
On January 1, 1998 the Company granted options to purchase 75,000 of the
Company's common shares at an exercise price of $1.50 per share. On March 1,
1998 the Company granted options to purchase 100,000 of the Company's common
shares at an exercise price of $1.50 per share. These options become exercisable
based on qualified billings of long distance customers generated by the
optionees from the respective dates of grant through December 31, 2000.
On February 24, 1998 the Company's Board of Directors approved the grant of
a total of 120,000 shares of restricted common stock to two board members
pursuant to the Company's 1997 Stock Incentive Plan. The restricted stock
provisions will lapse over four years or fully lapse in the event of death or
permanent disability of the grantee.
On February 26, 1998 the Company granted incentive stock options to
purchase 11,250 of the Company's common shares at an exercise price of $6.00 per
share. The options were granted pursuant to the Company's 1997 Stock Incentive
Plan and vest at the rate of 50% per year over two years.
On May 22, 1998 the Company registered 1,292,000 shares of its common stock
with the Security and Exchange Commission with the respect to stock options
under The New BestConnections, Inc. Amended and Restated 1997 Stock Option Plan.
On May 28, 1998 the Company adopted the 1998 Stock Incentive Plan which
provides for the issuance of up to 1,500,000 shares of AvTel common stock
pursuant to stock options and issuances of restricted stock, as well as for the
grant of stock appreciation rights.
(4) Comprehensive Income (Loss)
---------------------------
In June 1997, Statement of Financial Accounting Standards No. 130,
"Reporting Comprehensive Income," ("SFAS No. 130") was issued. SFAS No. 130
establishes standards for reporting and displaying comprehensive income and its
components in an annual financial statement that is displayed with the same
prominence as other annual financial statements. Reclassification of financial
statements for earlier periods, provided for comparative purposes, is required.
The statement also requires the accumulated balance of other comprehensive
income to be
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displayed separately from retained earnings and additional paid-in capital in
the equity section of the statement of financial position. SFAS No. 130 is
effective for fiscal years beginning after December 15, 1997. Comprehensive
income (loss) for the three month and six month periods ended June 30, 1998 and
1997 is equal to net income (loss) reported for such periods.
(5) Conversion of Preferred Stock
-----------------------------
On January 22, 1998, and February 26, 1998, a total of 60,000 shares of
preferred stock was converted to 60,000 shares of common stock.
(6) Pro Forma Results of Operations
-------------------------------
Pro forma results of operations of the Company as if the reverse acquisition
of AvTel by Matrix had occurred as of January 1, 1997, are as follows:
Three Months Six Months
Ended June 30, 1997 Ended June 30, 1997
Revenue $ 13,612,914 28,311,725
Net loss (391,599) (9,346,138)
Pro forma net loss
per share - basic and diluted (0.05) (1.11)
(7) Contingencies
-------------
The Company is a party to legal proceedings incidental to its business
which, in the opinion of management, are not expected to have a material adverse
effect on the Company's consolidated financial position or operating results.
(8) Subsequent Events
-----------------
On June 29, 1998, the Company executed a Letter of Intent to acquire Digital
Media, Inc.("DMI"). The acquisition will be a stock exchange accounted for under
the purchase method. Approximately 25,000 shares of AvTel common stock will be
issued for all the then outstanding stock of DMI. The parties are currently
negotiating the definitive acquisition agreement. The Company expects the
transaction will be completed in the third quarter.
In August 1998, the Company entered into an amended stock purchase agreement
with the shareholders of Remote Lojix/PCSI, Inc. ("RLI") to acquire 100% of
RLI's stock. The transaction will be accounted for under the purchase method of
accounting. AvTel common stock will be issued for all the then outstanding
shares of RLI, and certain earnout shares will be issued contingent upon future
earnings of RLI. The parties are currently negotiating the definitive
acquisition agreement. The Company expects the transaction will be completed in
the third quarter.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
THIS QUARTERLY REPORT ON FORM 10-Q CONTAINS FORWARD-LOOKING STATEMENTS THAT
INVOLVE RISKS AND UNCERTAINTIES. THE STATEMENTS CONTAINED IN THIS DOCUMENT THAT
ARE NOT PURELY HISTORICAL ARE FORWARD-LOOKING STATEMENTS WITHIN THE MEANING OF
SECTION 27A OF THE SECURITIES ACT OF 1933 AND SECTION 21E OF THE SECURITIES
EXCHANGE ACT OF 1934, INCLUDING WITHOUT LIMITATION STATEMENTS REGARDING THE
COMPANY'S EXPECTATIONS, BELIEFS, INTENTIONS OR STRATEGIES REGARDING THE FUTURE.
ALL FORWARD-LOOKING STATEMENTS INCLUDED IN THIS QUARTERLY REPORT ARE BASED ON
INFORMATION AVAILABLE TO THE COMPANY ON THE DATE HEREOF, AND THE COMPANY ASSUMES
NO OBLIGATION TO UPDATE ANY SUCH FORWARD-LOOKING STATEMENTS. ACTUAL EVENTS AND
OUTCOMES COULD DIFFER MATERIALLY FROM THOSE ANTICIPATED IN THESE FORWARD-LOOKING
STATEMENTS AS A RESULT OF MANY FACTORS, INCLUDING THOSE DESCRIBED HEREIN AND
THOSE SET FORTH IN THE RISK FACTORS DESCRIBED IN ITEM 1 OF THE COMPANY'S ANNUAL
REPORT ON FORM 10-K FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON APRIL
14, 1998.
The following discussion and analysis should be read in connection with the
unaudited consolidated financial statements for the three month and six month
periods ended June 30, 1998 and 1997 of the Registrant and related notes
inclu1ded elsewhere in this report and the consolidated financial statements and
related management discussion and analysis included in the Registrant's Annual
Report on Form 10-K for the year ended December 31, 1997.
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Overview
AvTel Communications, Inc. (the "Company," the "Registrant" or "AvTel") was
formerly a Utah corporation. On December 1, 1997, the Company merged with and
into its wholly-owned Delaware subsidiary, thus effecting the Company's
reincorporation in Delaware (the "Reincorporation Merger"). The conversion of
the Company's stock in the Reincorporation Merger resulted in an effective
one-for-four reverse stock split, which was effective on December 1, 1997 (the
"Reverse Stock Split"). All share and option numbers and prices set forth herein
have been adjusted to reflect the Reverse Stock Split.
On December 1, 1997, the Company acquired Matrix Telecom, Inc., a
privately-held Texas corporation ("Matrix Telecom") by means of a share for
share exchange (the "Share Exchange"). Matrix Telecom is a provider of long
distance telephone services. The Reincorporation Merger and the Reverse Stock
Split were conditions to the closing of the Share Exchange.
The Share Exchange was effected pursuant to a Stock Exchange Agreement
dated April 29, 1997, and subsequently amended, pursuant to which the persons
and entities who owned the issued and outstanding common stock of Matrix Telecom
("Matrix Telecom Stockholders") transferred to AvTel all of their Matrix Telecom
stock and, in exchange, AvTel issued to the Matrix Telecom Stockholders shares
of AvTel's Common Stock. Following the Share Exchange, the former Matrix Telecom
Stockholders owned approximately 81% of the issued and outstanding Common Stock
of the Company.
For accounting purposes, the Share Exchange was treated as a reverse
acquisition of AvTel by Matrix Telecom. AvTel was the legal acquirer and
accordingly, the Share Exchange was effected by the issuance of AvTel Common
Stock in exchange for all of the common stock then outstanding of Matrix
Telecom. In addition, holders of Matrix Telecom outstanding stock options
received non-qualified stock options of AvTel. The following discussion of
results of operations reflects the operations of Matrix Telecom prior to
December 1, 1997 and reflects the combined operations of AvTel and Matrix
Telecom subsequent to December 1, 1997. Accordingly, references to the Company
refer to operations of Matrix Telecom prior to the Share Exchange and the
combined operations of AvTel and Matrix Telecom subsequent to the Share
Exchange. The reverse acquisition of AvTel by Matrix Telecom was accounted for
using the purchase method of accounting.
Results of Operations
Consolidated Statement of Operations as a Percent of Revenue
(Unaudited)
Three Months Six Months
Ended June 30, Ended June 30,
------------------- -------------------
1998 1997 1998 1997
-------- -------- -------- --------
REVENUES 100.00% 100.00% 100.00% 100.00%
COST OF REVENUES 73.98% 69.28% 74.32% 68.53%
GROSS MARGIN 26.02% 30.72% 25.68% 31.47%
Operating expenses
Selling, general and administrative 42.52% 32.49% 39.53% 29.42%
Depreciation and amortization 2.35% 1.39% 2.29% 1.36%
-------- -------- -------- --------
Total operating expenses 44.87% 33.88% 41.83% 30.78%
-------- -------- -------- --------
OPERATING INCOME (LOSS) (18.85%) (3.15%) (16.15%) 0.69%
Interest expense (0.15%) (0.01%) (0.12%) (0.03%)
Other income, net 0.30% 0.51% 0.33% 0.45%
-------- -------- -------- --------
Income (loss) before income taxes (18.71%) (2.66%) (15.95%) 1.11%
Income tax expense (benefit) 0.00% (1.12%) 0.00% 0.47%
-------- -------- -------- --------
NET INCOME (LOSS) (18.71%) (1.54%) (15.95%) 0.65%
======== ======== ======== ========
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Three Months Ended June 30,1998 compared with Three Months Ended June 30, 1997
Revenues
Revenues for the three months ended June 30, 1998 were $11.3 million, a
decline of 12.2% or $1.6 million from $12.9 million for the three months ended
June 30, 1997.
The focus of the Company is to be a fully integrated provider of
information technologies. The merger of AvTel Communications and Matrix Telecom,
effective December 1, 1997, provided the Company with substantial growth
opportunities. By acquiring Matrix, the Company integrated a large voice
customer base supported by a sophisticated back office and information
technology group into AvTel's highly skilled services group which provided
broadband network services of voice, data and video to the mid-size corporate
customers.
The primary source of revenues of the Company during the period continued
to be voice distribution channels of the Company's wholly owned subsidiary,
Matrix Telecom. Factors similar in nature to those affecting all resellers of
long distance, have continued to effect a decline in revenues for the three
months ended June 30, 1998 compared to the three months ended June 30, 1997. Due
to pricing pressures within the industry and the competitive reductions by the
first tier carriers, the Company similarly continued to reduce retail pricing of
long distance products to meet consumer expectations.
Decreases in revenues were additionally affected by a continued attrition
of a maturing customer base. The Company purchases excess network capacity from
national underlying carriers. Even though the Company's volume discounts are
passed through to the long distance end user, higher customer attrition rates
have continued. As a reseller, the Company has been unable to effectively reduce
its retail pricing to meet the current pricing levels of the major carriers
having their own network facilities. Lower rates have been negotiated with the
Company's vendors; however, the effects of those reductions have been minimal
with the continued decline of retail prices within the industry. The effects of
lower pricing as well as the decline of the customer base will lessen
dramatically as pricing within the industry slows and reaches its floor, and
either the Company negotiates lower costs or implements its own network
facility. Management additionally anticipates that the revenue decrease will
stabilize as the continued integration of and revenue from the corporate data
services of the Company continues to expand and grow beyond the long distance
portion.
Decreases in revenues were anticipated in the first quarter of 1998. The
new management team chose to discontinue and reduce certain unprofitable
distribution channels of its subsidiary. Management's focus continued in second
quarter of 1998 to reduce its dependence on low margin, high churn segments and
to increase its resources in the business markets with higher average billing
and retention rates, niche ethnic consumer markets, and small office-home office
("SOHO") distributors and agents. With emphasis on maintaining and increasing
certain segments, revenues in these areas have increased 55% in 1998 compared to
1997.
Data needs of the corporate customer have continued to drive and change the
telecom industry. The future focus of the Company continued to move toward
incorporating voice and data networking solutions into the construction of
corporate Intranets and Wide Area Networks which will decrease its dependence on
traditional long distance services of the residential consumer. The primary
focus of the Company has been to move quickly and efficiently towards becoming a
viable resource to the corporate world having few options in this new wave of
technology. Excluding consumer voice traffic, the Company's revenues generated
by the data needs of its customers as a percentage of total revenues increased
5% for the second quarter of 1998 compared to the first quarter of 1998. This
percentage is expected to increase significantly as the Company completes its
continued integration of its corporate broadband network and its growth counters
the decline of the long distance business.
Gross Margin
Gross margin decreased $1.1 million to $2.9 million for the three months
ended June 30, 1998 from $4.0 million for the three months ended June 30, 1997.
As a percentage of revenues, gross margin decreased 4.7% to 26.02% for the three
months ended June 30, 1998 from 30.72% for the three months ended June 30, 1997.
The decrease in gross margin as a percentage of revenues primarily resulted from
increases in the cost of network and the bad debt expense, both of which are
9
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included in cost of sales.
Network cost as a percentage of revenues increased 1.5% to 67.3% for the
three months ended June 30, 1998 from 65.8% for three months ended June 30,
1997. Two primary factors effected this increase as a percentage. As described
more fully above in the Revenue section, retail pricing was lowered in response
to competitive industry forces. Even though the Company's lower rate elements
were negotiated with its vendors, cost did not decrease by a greater percentage
than the reductions in the retail pricing. Therefore, as retail prices
decreased, cost as a percentage of revenue continued to increase. Similarly, the
continued attrition of a maturing customer base subscribing to higher margin
products along with the addition of new customers at lower, more competitive
products, impacted gross margins as network cost as a percentage of revenue
continued to rise. This trend will tend to stabilize and reverse to the extent
that the Company's other business lines of data and voice products with higher
margins continue to increase as a percentage of overall revenue channels.
Additionally, significantly lower rates, which will go into effect July of 1998,
were negotiated with the Company's major underlying carrier. Network cost has
been estimated to decrease approximately 4% as a percentage of revenues based on
current traffic mix.
Bad debt expense as a percentage of revenues increased 3.2% to 6.7% for the
three months ended June 30, 1998 compared to 3.5% for the three months ended
June 30, 1997. The increased bad debt expense primarily resulted from decreased
collection percentages from the Local Exchange Carriers ("LECs") in certain
geographical regions. The majority of the Company's revenues are billed by the
LECs and the Company's bad debt expense was effected by the lower collection
percentages of the LECs. Collection policies and aggressiveness in collection
procedures among the LECs vary. A significant amount of new sales growth was
experienced in a particular geographical location in which the LECs collection
percentages were considerably lower, and the Company's bad debt expense as a
percentage of revenues increased. The majority of new products being sold by the
Company have been designed as direct billed products, and the collection
percentages experienced by the Company's internal collection staff are
significantly higher than those of the LECs. Therefore, as the number of
customers being billed by the LEC decreases, and the Company implements its
policy of moving away from the LEC billing services, bad debt expense as a
percentage of revenue is anticipated to decrease.
Selling, General, and Administrative Costs
Selling, general, and administrative costs increased $621,625 to $4.8
million for the three months ended June 30, 1998 from $4.2 million for the three
months ended June 30, 1997. As a percentage of revenues, selling, general, and
administrative costs increased 10.03% to 42.52% for the three months ended June
30, 1998 from 32.49% for the three months ended June 30, 1997. Decreased
revenues contributed to the majority of the increase as a percentage of
revenues. However, it is noted that $329,411 was expensed for stock compensation
expense for the three months ended June 30, 1998 compared to $0 for the three
months ended June 30, 1997. Certain non-employees of the Company were granted
options for participation in the generation of new business for the Company.
Accordingly, stock compensation was expensed under the requirements of SFAS No.
123. The remaining increase in cost was attributable to selling, general, and
administrative costs associated with the merger of AvTel and Matrix, effective
December 1, 1997. The Company has two locations and remote employees in several
states.
Depreciation and Amortization
Depreciation and amortization increased $86,021 to $265,370 for three
months ended June 30, 1998 from $179,349 for the three months June 30, 1997. The
increase primarily resulted from amortization of intangibles associated with the
merger of AvTel and Matrix. Similarly, the acquisition and consolidation of
assets related to the merger resulted in some increases in depreciation expense.
Interest Expense and Other Income, Net
Interest expense and other income net of other expenses changed by
immaterial amounts for the three months ended June 30, 1998 compared to the
three months ended June 30, 1997. Interest expense continued to be insignificant
in amount since the Company has had sufficient cash to meet operations and
capital expenditures. Interest income was slightly higher in the first quarter
of 1997 compared to the first quarter of 1998 primarily from a decrease in cash
reserves.
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Income Taxes
Income tax expense has not been recorded for the three months ended June
30, 1998 compared to the three months ended June 30, 1997 since there has been a
loss from operations for the three months ended June 30, 1998.
Six Months Ended June 30, 1998 compared with Six Months Ended June 30, 1997
Revenues
Revenues for the six months ended June 30, 1998 were $23.7 million, a
decline of 11.6% or $3.1 million from $26.8 million for the six months ended
June 30, 1997.
See Results of Operations for the three months ended June 30, 1998 compared
with the three months ended June 30, 1997. The decline in revenues is fully
described above in the section, Revenues. All of the reasons discussed above are
applicable for the six months ended June 30, 1998 compared to the six months
ended June 30, 1997.
Gross Margin
Gross margin decreased $2.3 million to $6.1 million for the six months
ended June 30, 1998 from $8.4 million for the six months ended June 30. 1997. As
a percentage of revenues, gross margin decreased 5.79% to 25.68% for the six
months ended June 30, 1998 from 31.47% for the six months ended June 30, 1997.
The decrease in gross margin as a percentage of revenues primarily resulted from
increases in the cost of network and the bad debt expense, both of which are
included in cost of sales.
Network cost as a percentage of revenues increased 2.4% to 67.8% for the
six months ended June 30, 1998 from 65.4% for the six months ended June 30,
1997. Reasons for the increase in network cost as a percentage of revenue are
comparable and fully explained above in the Gross Margin section. See Results of
Operations for the three months ended June 30, 1998 compared to the three months
ended June 30 1997. Continued pricing declines at a faster rate than vendor cost
reductions and increased attrition of customers from industry competition
further eroded gross margins for the six months ended June 30, 1998 compared to
the six months ended June 30, 1997. As explained above, this trend will tend to
stabilize and reverse to the extent that the Company's other business lines of
data and voice products with higher margins continue to increase as a percentage
of overall revenue channels. Additionally, significantly lower rates, which will
go into effect July of 1998, were negotiated with the Company's major underlying
carrier. Network cost has been estimated to decrease approximately 4% as a
percentage of revenues based on current traffic mix.
Bad debt expense as a percentage of revenues increased 3.4% to 6.5% for the
six months ended June 30, 1998 from 3.1% for the six months ended June 30, 1997.
Reasons for the increase in bad debt expense as a percentage of revenue are
comparable and fully explained above in the Gross Margin section. See Results of
Operations for the three months ended June 30, 1998 compared to the three months
ended June 30, 1997.
Selling, General, and Administrative Costs
Selling, general, and administrative costs increased approximately $1.5
million for the six months ended June 30, 1998 compared to the six months ended
June 30, 1997. As a percentage of revenues, selling, general, and administrative
costs increased 10.11% to 39.53% for the six months ended June 30, 1998 from
29.42% for the six months ended June 30, 1997. Decreased revenues contributed to
the majority of the increase as a percentage of revenues. However, it is noted
that $563,509 was expensed for stock compensation expense for the six months
ended June 30, 1998 compared to $0 for the six months ended June 30, 1997.
Certain non-employees of the Company were granted options for participation in
the generation of new business for the Company. Accordingly, stock compensation
was expensed under the requirements of SFAS No. 123. $503,504 was incurred for
solicitation of new marketing and sales channels for the six months ended June
30, 1998 compared to $30,715 for the six months ended June 30, 1997. The
remaining increase in cost was attributable to selling, general, and
administrative costs associated with the merger of AvTel and Matrix, effective
December 1, 1997. The Company has two locations and remote employees in several
states.
11
<PAGE>
Depreciation and Amortization
Depreciation and amortization increased $180,038 to $544,238 for the six
months ended June 30, 1998 from $364,200 for the six months ended June 30, 1997.
$176,766 of the increase was due to amortization of intangibles associated with
the merger of AvTel and Matrix.
Interest Expense and Other Income, Net
Interest expense and other income net of other expenses changed by
immaterial amounts for the six months ended June 30, 1998 compared to the six
months ended June 30, 1997. Interest expense continued to be insignificant in
amount since the Company has had sufficient cash to meet it operational needs
and capital expenditures. Interest income was slightly lower in 1998 compared to
1997 primarily from a decrease in cash reserves.
Income Taxes
Income tax expense has not been recorded for the six months ended June 30,
1998 compared to the six months ended June 30, 1997 since there has been a loss
from operations for the six months ended June 30, 1998.
Liquidity and Capital Resources
The primary sources of operating cash flow for the Company are revenues
derived from the resale of domestic and international long distance
telecommunications services. A growing source of revenues has been the design
and installation of data networking solutions for the construction of corporate
Intranets and Wide Area Networks. Minor sources of revenues are received for the
provision of back office support and earnings from investment income.
The primary uses of cash are payments to underlying network vendors for
provisioning long distance facilities, commission payments to sales
distributors, and payments to the major LECs for billing and collecting services
directly from end user.
Net cash used in operating activities is $2.6 million for the six months
ended June 30, 1998, compared to a net cash provided by operating activities of
$1.7 million for the six months ended June 30, 1997. Primarily, the change
resulted from the Company's net loss of $3.8 million reported for the six months
ended June 30, 1998 compared to net income of $173,202 reported for the six
months ended June 30, 1997.
For reasons more fully described above under the heading Results of
Operations, the Company's net loss resulted from declining revenues of the
Company's wholly-owned subsidiary, Matrix Telecom, decreasing gross margins and
increased expenditures in sales and marketing. Declining revenues have been
caused in part by industry competition, changes in certain marketing channels
and management's decision to discontinue relationships with certain unprofitable
sales distributors, which have in the past contributed a significant share of
revenues. Similarly, the continuing market decreases in retail pricing and
attrition of a maturing customer base without a corresponding decrease in the
underlying cost structure sufficient to counter the negative effects on revenues
caused decreasing margins.
Working capital at June 30, 1998 is $2.7 million compared to $5.6 million
at December 31, 1997, a decrease of $2.9 million. Cash balances at June 30, 1998
are $2.5 million compared to $4.8 million at December 31, 1997, a decrease of
approximately $2.3 million. Even though the Company has experienced an operating
loss for this period, it has had sufficient cash reserves to meet all
obligations on a current basis.
Net cash provided by investing activities for the six months ended June 30,
1998 was $211,097 compared to net cash used in investing activities of
approximately $2.0 million for the six months ended June 30, 1997. The Company
loaned $2.0 million to an affiliated company, Core Marketing, LLC ("Core")
during the six months ended June 30, 1997. $437,424 was paid by Core on its loan
during the six months ended June 30, 1998. Subsequent to June 30, 1998 the
Company received $1,276,411 from Core, leaving a balance of $85,054.
Approximately $226,327 was paid to purchase property and equipment during the
six months ended June 30, 1998. The majority of equipment purchases were for
computer and computer related assets.
12
<PAGE>
The Company in the past has been able to finance its operations from net
cash provided by operating activities without the need to borrow on a long-term
basis. Since December 31, 1997, the Company has continued to be able to finance
its operations and capital expenditures, which have consisted primarily of
property and equipment, from cash and cash equivalents at the beginning of the
year. The Company anticipates that future operations and growth strategies
(including possible acquisitions) of the Company will require funding from other
sources. The Company continues to evaluate its financing alternatives. In
addition to debt financing, the Company may utilize its capital stock as a
source of financing.
13
<PAGE>
PART II. OTHER INFORMATION
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) The Registrant held its annual meeting of stockholders on May 28,
1998.
(b) The following individuals were elected as all of the directors of the
Registrant: Anthony E. Papa, James P. Pisani, John E. Allen, Jeffrey
J. Jensen and Gregory T. Mutz.
(c) The following matters were presented to the stockholders for approval:
1. Election of directors.
The voting for the election of directors was as follows:
Director For Against Abstain Total
----------------- --------- --------- --------- ---------
Anthony E. Papa 6,267,545 0 1,478,348 7,745,893
James P. Pisani 6,267,545 0 1,478,348 7,745,893
John E. Allen 7,119,283 0 626,610 7,745,893
Jeffery J. Jensen 7,119,283 0 626,610 7,745,893
Gregory T. Mutz 7,119,283 0 626,610 7,745,893
There were no broker non-votes.
2. Ratification of Auditors.
The stockholders of Registrant ratified the appointment of KPMG Peat
Marwick LLP as the company's independent auditors for 1998. The voting
was as follows:
For Against Abstain Total
---------- --------- --------- ---------
7,743,815 1,150 928 7,745,893
There were no broker non-votes.
3. Adoption of 1998 Stock Incentive Plan.
The stockholders of Registrant approved the adoption of the 1998 Stock
Incentive Plan which provides for the issuance of up to 1,500,000
shares of the Registrant's common stock pursuant to stock options and
issuances of restricted stock, as well as for the grant of stock
appreciation rights. The voting was as follows:
Broker
For Against Abstain Non-Votes Total
--------- --------- --------- --------- ---------
7,213,828 187,993 6,664 337,408 7,745,893
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
11 Statement re Computation of Per Share Earnings
27.1 Financial Data Schedule - Six Months Ended June 30, 1998
27.2 Restated Financial Data Schedule - Six Months Ended June 30, 1997
(b) Reports on Form 8-K
The registrant filed no reports on Form 8-K during the quarter ended
June 30, 1998.
14
<PAGE>
SIGNATURE
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.
AVTEL COMMUNICATIONS, INC.,
a Delaware corporation
By: /s/ JAMES P. PISANI
------------------------------------
JAMES P. PISANI
PRESIDENT, CHIEF OPERATING OFFICER,
CHIEF FINANCIAL OFFICER AND
SECRETARY (Duly Authorized Officer and
Principal Financial Officer)
August 11, 1998
15
<PAGE>
Exhibit Index
Exhibit
Number Exhibit Description
- ------- -------------------
11 Statement re Computation of Per Share Earnings
27.1 Financial Data Schedule - Six Months Ended June 30, 1998
27.2 Restated Financial Data Schedule - Six Months Ended June 30, 1997
Exhibit 11
AvTel Communications, Inc. and Subsidiaries
Computation of Per Share Earnings
(Unaudited)
Three Months Six Months
Ended June 30, Ended June 30,
---------------------- ----------------------
1998 1997 1998 1997
---------- ---------- ---------- ----------
Net Income (Loss) (2,112,947) (198,657) (3,785,437) 173,202
Less preferred dividends 11,816 20,000 23,632 40,000
---------- ---------- ---------- ----------
Income (Loss) applicable
to common shareholders (2,124,763) (218,657) (3,809,069) 133,202
========== ========== ========== ==========
Weighted average number of
common shares 9,549,958 9,366,447* 9,513,924 9,366,420*
========== ========== ========== ==========
Net income (loss) per common
share - basic and diluted (0.22) (0.02)* (0.40) 0.02*
========== ========== ========== ==========
* The 1997 amounts are presented on a pro forma basis.
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THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE BALANCE
OF AVTEL COMMUNICATIONS, INC. AS OF JUNE 30, 1998 AND THE RELATED STATEMENTS OF
OPERATIONS AND CASH FLOWS FOR THE SIX MONTHS THEN ENDED AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
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<RECEIVABLES> 6910
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THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE BALANCE
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