<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------
FORM 10-Q
---------
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2000
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
---------
NETLOJIX 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 August 4, 2000, there were 13,558,704 shares of the Registrant's Common
Stock, par value $0.01 per share, issued and outstanding, excluding treasury
stock.
<PAGE>
NETLOJIX COMMUNICATIONS, INC.
QUARTER ENDED JUNE 30, 2000
TABLE OF CONTENTS
<TABLE>
PAGE
----
<S> <C>
Part I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets as of June 30,
2000 (Unaudited) and December 31, 1999 3
Condensed Consolidated Statements of Operations for
the Three and Six Month Periods Ended June 30, 2000 and
1999 (Unaudited) 4
Condensed Consolidated Statements of Cash Flows for
Six Month Periods Ended June 30, 2000 and 1999
(Unaudited) 5
Notes to Condensed Consolidated Financial Statements
(Unaudited) 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 15
Item 3. Quantitative and Qualitative Disclosures About
Market Risk 23
PART II OTHER INFORMATION
Item 1. Legal Proceedings 23
Item 4. Submission of Matters to a Vote of Security Holders 24
Item 6. Exhibits and Reports on Form 8-K 25
Signature Page 26
</TABLE>
2
<PAGE>
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
NETLOJIX COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
June 30, December 31,
2000 1999
-------------- ----------
(Unaudited)
<S> <C> <C>
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 1,275,448 1,134,625
Accounts receivable, net 3,708,062 2,471,941
Due from affiliates 405,099 715,457
Other current assets 1,555,351 982,387
-------------- -----------
Total current assets 6,943,960 5,304,410
Property and equipment, net 964,189 917,571
Goodwill, net 3,754,371 3,802,307
Other assets, net 877,455 932,133
-------------- -----------
Total assets $ 12,539,975 10,956,421
============== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable and other accrued expenses $ 3,377,668 2,317,587
Accrued network services costs 993,067 874,830
Line of Credit - -
Sales and excise tax payable 250,153 118,503
Unearned revenue 931,946 990,699
Other current liabilities 344,648 355,609
-------------- -----------
Total current liabilities 5,897,482 4,657,228
Long term debt 719,113 -
-------------- -----------
Total liabilities 6,616,595 4,657,228
-------------- -----------
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 shares
issued and outstanding. (Liquidation preference of $704,032
including dividends in arrears.) 1,477 1,477
Common stock, authorized 40,000,000 shares, $0.01 par value,
issued 13,721,514 and 12,562,741 shares at June 30, 2000 and
December 31, 1999 respectively. 137,202 125,627
Additional paid in capital 26,778,992 23,650,546
Accumulated deficit (20,992,662) (17,476,946)
Treasury stock, $0.01 par value, 162,905 at June 30, 2000 and 151,075
at December 31, 1999. (1,629) (1,511)
-------------- -----------
Total stockholders' equity 5,923,380 6,299,193
Commitments and contingencies - -
-------------- -----------
Total liabilities and stockholders' equity $ 12,539,975 10,956,421
============== ==========
</TABLE>
See accompanying Notes to Condensed Consolidated Financial Statements.
3
<PAGE>
NETLOJIX COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
<TABLE>
<CAPTION>
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
----------------------------------- ------------------------------
2000 1999 2000 1999
-------------- ---------- ---------- ---------
<S> <C> <C> <C> <C>
REVENUES $ 5,295,158 4,167,989 10,599,034 7,869,409
COST OF REVENUES 3,121,675 2,214,527 6,253,310 4,460,095
-------------- ----------- ----------- -----------
GROSS MARGIN 2,173,483 1,953,462 4,345,724 3,409,314
Operating expenses
Selling, general and administrative 2,867,772 2,752,146 6,295,717 5,456,722
Litigation settlement costs - - 998,121 -
Depreciation and amortization 274,738 244,849 527,697 517,173
-------------- ----------- ----------- -----------
Total operating expenses 3,142,510 2,996,995 7,821,535 5,973,895
-------------- ----------- ----------- -----------
OPERATING LOSS (969,027) (1,043,533) (3,475,811) (2,564,581)
Interest (expense) (11,781) (35,769) (13,364) (86,282)
Other income (expense), net (10) 1,260 (2,909) 8,304
-------------- ----------- ----------- -----------
Loss from continuing operations
before income taxes (980,818) (1,078,042) (3,492,084) (2,642,559)
Income tax benefit - - - -
-------------- ----------- ----------- -----------
Loss from continuing operations (980,818) (1,078,042) (3,492,084) (2,642,559)
Loss from operations of
discontinued residential
long-distance business - (1,042,558) - (2,544,172)
-------------- ----------- ----------- -----------
Loss from discontinued
operations - (1,042,558) - (2,544,172)
-------------- ----------- ----------- -----------
NET LOSS $ (980,818) (2,120,600) (3,492,084) (5,186,731)
============= ========== ========== ==========
Loss from continuing operations
per common share - basic and diluted $ (0.07) (0.12) (0.27) (0.28)
Loss from discontinued operations
per common share - basic and diluted - (0.10) - (0.24)
-------------- ----------- ----------- -----------
Net loss per common share - basic and diluted $ (0.07) (0.22) (0.27) (0.52)
============= ========== ========== ==========
Weighted average number of
common shares - basic and diluted 13,616,925 10,549,170 13,229,868 10,512,523
============= ========== ========== ==========
</TABLE>
See accompanying Notes to Condensed Consolidated Financial Statements.
4
<PAGE>
NETLOJIX COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
PERIODS ENDED JUNE 30,
(unadudited)
<TABLE>
<CAPTION>
2000 1999
------------- -------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss from continuing operations $ (3,492,084) (2,642,599)
Adjustments to reconcile net loss from continuing operations
to cash used by continuing operating activities:
Depreciation and amortization 527,697 517,173
Issuance of warrants for professional services 215,712 -
Provision for bad debts 200,106 250,152
Stock compensation earned 57,297 157,324
Changes in certain operating assets and liabilities:
Accounts receivable (1,436,227) (215,605)
Due from affiliates 310,358 299,209
Other current assets (563,380) (2,427)
Accounts payable and accrued liabilities 1,285,655 (581,940)
Due to affiliate - -
------------- ------------
Cash used by continuing operating activities (2,894,866) (2,218,713)
Cash provided (used) by discontinued operating activities - (221,946)
------------- ------------
Cash provided (used) by operating activities (2,894,866) (2,440,659)
CASH FLOWS FROM INVESTING ACTIVITIES:
Additions to property and equipment (261,287) (100,182)
Additions to property and equipment - discontinued operations - (379,213)
Payments received on loans to officers 30,015 -
Cash received (paid) in acquisitions (25,000) -
Proceeds from sale of property and equipment - discontinued operations - 7,650
------------- ------------
Cash provided (used) by investing activities (256,272) (471,745)
CASH FLOWS FROM FINANCING ACTIVITIES:
Principal payments on capital leases (45,401) (27,846)
Cash proceeds from exercise of options 1,230,445 294,038
Issuance of Series B preferred stock - 1,407,325
Sale of common stock 1,471,549 -
Preferred stock dividend payments (23,632) (23,632)
Costs associated with issuance of common stock (22,566) -
Borrowings on line of credit - countinuing operations 719,113
Borrowings on line of credit - discountinued operations - 17,525,162
Amounts paid on line of credit - discontinued operations - (16,411,433)
Purchase of common stock for treasury (37,547) (77,400)
------------- ------------
Cash provided by financing activities 3,291,961 2,686,214
------------- ------------
Net increase (decrease) in cash and cash equivalents 140,823 (226,190)
Cash and cash equivalents at beginning of period for continuing
and discontinued operations 1,134,625 911,179
------------- ------------
Cash and cash equivalents at end of period for continuing and
discontinued operations (see Note 3) $ 1,275,448 684,989
============= ============
Cash paid (received) during the period:
Interest - continuing operations $ 1,583 $ 152,885
============= ============
Non cash investing and financing activities:
Common stock issued for acquistion $ 195,000 $ -
============= ============
</TABLE>
See accompanying Notes to Condensed Consolidated Financial Statements.
5
<PAGE>
NETLOJIX COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
June 30, 2000 and 1999
(1) BASIS OF PRESENTATION
The unaudited condensed consolidated financial statements of
NetLojix Communications, Inc. and Subsidiaries (the "Company" or "NetLojix")
as of June 30, 2000 and 1999 and for the three and six month periods then
ended have been prepared in accordance with generally accepted accounting
principles for interim financial reporting. Accordingly, they do not include
all of the disclosures 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, 1999. 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 the entire year.
On November 30, 1999 the Company sold its wholly-owned subsidiary,
Matrix Telecom, Inc. Matrix Telecom represented all of the Company's
residential long distance business. As a result of the Company's decision to
exit the residential long distance business, the Company's June 30, 1999
condensed consolidated financial statements for the three and six month
periods then ended have been restated to reflect the Company's residential
long distance business as a discontinued operation.
On September 15, 1999, the Company changed its name to NetLojix
Communications, Inc. from AvTel Communications, Inc. This name change was
effected by the short-form merger of a wholly-owned subsidiary with and into
the Company.
6
<PAGE>
(2) EARNINGS PER COMMON SHARE
Earnings per common share for the three-month and six-month periods
ended June 30, 2000 and 1999 are as follows:
<TABLE>
<CAPTION>
THREE MONTHS SIX MONTHS
ENDED JUNE 30, ENDED JUNE 30,
---------------------------- --------------------------
2000 1999 2000 1999
------------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
LOSS ON CONTINUING
OPERATIONS PER SHARE -
Numerator:
Net loss $ (980,818) (1,078,042) (3,492,084) (2,642,559)
Preferred dividends -- 234,197 23,632 246,013
------------- ----------- ----------- -----------
Loss applicable to common
stockholders $ (980,818) (1,312,239) (3,515,716) (2,888,572)
============= =========== =========== ===========
Denominator:
Weighted average number of common
shares used in basic and diluted
loss per common share 13,616,925 10,549,170 13,229,868 10,512,523
============= =========== =========== ===========
Basic and diluted loss per common share $ (0.07) (0.12) (0.27) (0.28)
============= =========== =========== ===========
LOSS FROM DISCONTINUED
OPERATIONS PER SHARE -
Numerator:
Net loss -- (1,042,558) -- (2,544,172)
============= =========== =========== ===========
Denominator:
Weighted average number of common
shares used in basic and diluted
loss per common share -- 10,549,170 -- 10,512,523
============= =========== =========== ===========
Basic and diluted loss per common share $ -- (0.10) -- (0.24)
============= =========== =========== ===========
NET LOSS PER SHARE -
Numerator:
Net loss $ (980,818) (2,120,600) (3,492,084) (5,186,731)
Preferred dividends -- 234,197 23,632 246,013
------------- ----------- ----------- -----------
Loss applicable to common
stockholders $ (980,818) (2,354,797) (3,515,716) (5,432,744)
============= =========== =========== ===========
Denominator:
Weighted average number of common
shares used in basic and diluted
loss per common share 13,616,925 10,549,170 13,229,868 10,512,523
============= =========== =========== ===========
Basic and diluted loss per common
share $ (0.07) (0.22) (0.27) (0.52)
============= =========== =========== ===========
</TABLE>
As of June 30, 2000, there are 302,706 potential common shares excluded
from the diluted per common share calculation because the effect is determined
to be antidilutive.
(3) LITIGATION SETTLEMENT
7
<PAGE>
On April 19, 2000, the Company reached an agreement in principle to
settle all outstanding claims under the class action lawsuit pending against
NetLojix and certain of its officers. The agreement is subject to
finalization and execution of a definitive settlement agreement, passage of a
class member notification period and final approval by the court. Under the
terms of the settlement, the Company will issue 232,000 shares of common
stock and warrants to purchase 200,000 shares of the Company's common stock
at an exercise price of $8.00 per share with a term of 2 years. In addition,
the Company will be required to pay $150,000 in administrative costs and
other expenses. While the Company continues to believe it has strong defenses
against the lawsuit, considering the ongoing costs of defending the lawsuit
in terms of management time and legal fees as well as the uncertainty
associated with a jury trial, the Company believes the settlement is fair and
equitable. During the three month period ended March 31, 2000, the Company
recorded a charge against earnings of $998,000 and a liability relating to
the expected settlement. As of August 10, 2000, a definitive settlement
agreement has not been finalized or executed.
(4) STOCKHOLDERS' EQUITY
COMMON STOCK TRANSACTIONS
On March 3, 2000 the Company raised net proceeds of $1,471,549
through a private placement of 375,000 shares of common stock at $4.00 per
share. The purchaser was AMRO International, S.A., an entity organized under
the laws of Panama. In connection with the placement, the Company also
granted AMRO warrants to purchase up to 75,000 shares of common stock at a
price of $5.25 per share. The Company filed a registration statement to
register the public resale of these shares by AMRO on May 25, 2000 as
required by the placement agreement. This registration statement was declared
effective by the Securities and Exchange Commission on June 7, 2000.
During January 2000, the Company purchased 11,830 shares of its
common stock for $37,547 in the open market pursuant to the Company's 2000 GO
Plan. The 2000 GO Plan was established to provide the Company's employees
with cash bonuses for up to four years to promote longevity of employment.
For four consecutive years starting in February 2001, the Company will sell
25% of the shares held under the 2000 GO Plan and distribute the proceeds as
cash bonuses to the employees who were employed at both the date of the
establishment of the 2000 GO Plan and at the date of distribution.
Under the New Best Connections, Inc. Amended and Restated 1997
Option Plan, in 1997 the Company issued stock options to purchase 1,292,000
shares of common stock at $1.50 per share to certain distributors and agents
of Matrix Telecom, Inc. The options were originally granted to facilitate the
marketing of residential long distance services. Pursuant to the terms of the
option grant, the options became fully vested upon the sale of Matrix
Telecom, Inc. in November 1999 and expired on May 22, 2000. The Company
recorded commission expense over the vesting period of the option grant
totaling $762,000 prior to December 31, 1999. As a consequence of the May 22,
2000 expiration date, 740,253 options were exercised during the six month
period ended June 30, 2000. The Company realized proceeds from the option
exercises of $1.1 million. As of June 30, 2000 all vested options have been
exercised or cancelled.
8
<PAGE>
On March 24, 2000, the Company acquired substantially all the assets
of a privately-held Santa Barbara web and internet development and consulting
company. NetLojix issued 30,000 shares of common stock and paid $25,000 for
the assets, including accounts receivable, work-in-process and customer lists.
On May 25, 2000, the Company held its annual meeting of
stockholders. At that meeting the stockholders approved an amendment to the
certificate of incorporation increasing the number of authorized shares of
common stock from 20,000,000 shares to 40,000,000 shares.
ISSUANCE OF COMMON STOCK WARRANTS
In January, 2000, the Company retained Kaufman Bros., L.P. to act as
the Company's financial advisor and investment banker. As compensation for
investment banking services provided the Company paid $25,000 plus 100,000
warrants to purchase common stock of the Company at an exercise price of
$3.28 with a term of five years. Using the Black-Scholes pricing model, the
fair value of the warrants was estimated to be $215,712 which was recorded as
an expense during the six month period ended June 30,, 2000.
PREFERRED STOCK DIVIDENDS
On January 31, 2000 the Company declared and paid in cash
semi-annual dividends of $23,632 to the holders of the Company's Series A
convertible preferred stock.
On July 31, 2000 the Company declared and paid in cash semi-annual
dividends of $23,632 to the holders of the Company's Series A convertible
preferred stock.
STOCK OPTION GRANTS
In January 2000, the Company granted an additional 840,500 options
at an exercise price of $3.28 pursuant to the NetLojix 1998 Stock Incentive
Plan. At the annual meeting on May 25, 2000, the stockholders approved an
amendment to the 1998 Stock Incentive Plan increasing the number of shares
authorized for issuance under the plan by 1,500,000 shares.
(5) AMENDMENT TO SECURED CREDIT FACILITY
In May 2000, the Company signed an amendment to its secured credit
facility with Coast Business Credit. Under the amended line of credit, the
Company may borrow up to 75% of eligible receivables (as defined) up to a
total amount of $3,000,000. The percentage may be increased to 80% of
eligible receivables if the Company reaches certain operational targets. In
addition, the line of credit may be used to provide a facility for issuing
letters of credit. Borrowings under the line of credit bear interest, payable
monthly, based upon the prime rate of Bank of America NT & SA plus 2% (11.5%
at June 30, 2000). Borrowings under the credit facility are secured by
substantially all of the Company's assets. As of June 30, 2000 $719,000 is
outstanding under the credit facility.
(6) DISCONTINUED OPERATIONS
On November 30, 1999 the Company sold its wholly-owned subsidiary,
9
<PAGE>
Matrix Telecom, Inc. Matrix Telecom represented all of the Company's
residential long distance business. As a result of the Company's decision to
exit the residential long distance business, the Company's June 30, 1999
condensed consolidated financial statements for the three-month and six-month
periods then ended have been restated to reflect the Company's residential
long distance business as a discontinued operation.
Selected financial information for the residential long distance
business discontinued operations are as follows:
<TABLE>
<CAPTION>
Three months ended Six months ended
June 30, 1999 June 30, 1999
------------------ ----------------
<S> <C> <C>
Sales $ 5,160,372 10,781,366
Expenses (6,202,930) (13,325,538)
------------- ------------
Loss before income tax benefit (1,042,558) (2,544,172)
Tax benefit
Loss from discontinued operations $ (1,042,558) (2,544,172)
============= ===========
</TABLE>
(7) SEGMENT REPORTING
The Company's primary business segments are network connectivity,
technical support services and application development and hosting. The
segmentation is based on the types of services provided. All of the Company's
services are targeted toward mid-sized businesses.
The network connectivity segment includes services that are wide
area network connections for internet, data or voice traffic. The Company
provides traditional long distance services, calling card, dedicated voice
and data access and numerous Internet service options. Telecommunications
product offerings include dedicated or leased lines, switched and dedicated
long distance, frame relay, ATM, calling cards, and "1-800" services.
Internet product offerings within the network connectivity segment include
dial-up access, DSL, dedicated access and cable access. This segment includes
the Internet connectivity portion of the Company's Southern California based
ISP.
Technical support services encompasses a broad array of technical
support services and solutions including system integration, desktop and
network support, asset management and help desk solutions. Services provided
include flat-fee maintenance contracts, prepaid time block retainers, help
desk management contracts, LAN installations, time and materials, warranty
repairs and a small amount of hardware sales.
The applications development and web hosting services segment
includes, designing, developing, managing and hosting applications. The
Company's primary focus is on web-centric applications, however, the Company
also develops stand alone applications from time to time.
The Company measures its performance based on revenues, gross
margin, net income or loss and earnings before interest, taxes, depreciation
and amortization ("EBITDA"). EBITDA is not a measure of financial performance
under generally accepted accounting principles and should not be considered
as
10
<PAGE>
an alternative to net income or cash flows from operations, as a measure of
performance.
The results for the three months and six months ended June 30, 2000
and 1999 are as follows:
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30, 2000
--------------------------------------------------------------------
APPLICATIONS
NETWORK TECHNICAL DEVELOPMENT
CONNECTIVITY SUPPORT AND WEB
SERVICES SERVICE HOSTING TOTAL
------------- ---------- ------------ ----------
<S> <C> <C> <C> <C>
Revenues $3,101,973 1,521,039 672,146 5,295,158
Gross margin 1,160,336 550,300 462,847 2,173,483
Selling, general & administration 1,697,152 924,314 246,306 2,867,772
Depreciation & amortization 103,763 139,937 31,038 274,738
Interest expense 6,496 3,742 1,543 11,781
Other (income) expense 894 (477) (407) 10
Loss from continuing operations
before corporate litigation settlement $ (647,969) (517,216) 184,367 (980,818)
========== ========== ========= =========
Discontinued operations --
Corporate litigation settlement --
Net loss $ (980,818)
=========
EBITDA $ (537,710) (373,537) 216,948 (694,299)
========= ========= ========= =========
Total assets $6,285,818 5,515,159 738,998 12,539,975
========== ========= ========= ==========
</TABLE>
<TABLE>
<CAPTION>
THREE MONTHS ENDED JUNE 30, 1999
--------------------------------------------------------------------
APPLICATIONS
NETWORK TECHNICAL DEVELOPMENT
CONNECTIVITY SUPPORT AND WEB
SERVICES SERVICE HOSTING TOTAL
------------- ---------- ------------ ----------
<S> <C> <C> <C> <C>
Revenues $2,336,303 1,386,255 445,431 4,167,989
Gross margin 1,122,314 545,254 285,894 1,953,462
Selling, general & administration 1,430,953 1,010,854 310,339 2,752,146
Depreciation & amortization 136,623 92,804 15,422 244,849
Interest expense 12,729 20,545 2,495 35,769
Other (income) expense (1,230) - (30) (1,260)
Loss from continuing operations $ (456,761) (578,949) (42,332) (1,078,042)
========== ========== ======== ===========
Discontinued operations $ (1,042,558)
-----------
Net loss (2,120,600)
===========
EBITDA (307,409) (465,600) (24,415) (797,424)
========= ========== ======== ==========
</TABLE>
11
<PAGE>
<TABLE>
<S> <C> <C> <C> <C>
Total assets of continuing operations $6,381,891 3,274,734 363,859 10,020,484
========= ========= ======= ==========
Total assets of discontinued operations $ 4,410,264
=========
Total assets $ 14,430,748
==========
</TABLE>
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30, 2000
--------------------------------------------------------------------
APPLICATIONS
NETWORK TECHNICAL DEVELOPMENT
CONNECTIVITY SUPPORT AND WEB
SERVICES SERVICE HOSTING TOTAL
------------- ---------- ------------ ----------
<S> <C> <C> <C> <C>
Revenues 6,224,691 2,939,730 1,434,613 10,599,034
Gross margin 2,232,022 1,132,050 981,652 4,345,724
Selling, general & administration 3,735,499 1,890,015 670,203 6,295,717
Depreciation & amortization 259,627 228,711 39,359 527,697
Interest expense 7,884 3,742 1,738 13,364
Other (income) expense 2,414 495 - 2,909
Loss from continuing operations $(1,773,402) (990,913) 270,352 (2,493,963)
=========== ========== ======= ===========
Discontinued operations $ -
-
Corporate litigation settlement (998,121)
Net loss (3,492,084)
===========
EBITDA (1,505,891) (758,460) 311,449 (1,952,902)
=========== ========== ========= ============
</TABLE>
<TABLE>
<CAPTION>
SIX MONTHS ENDED JUNE 30, 1999
--------------------------------------------------------------------
APPLICATIONS
NETWORK TECHNICAL DEVELOPMENT
CONNECTIVITY SUPPORT AND WEB
SERVICES SERVICE HOSTING TOTAL
------------- ---------- ------------ ----------
<S> <C> <C> <C> <C>
Revenues $ 4,538,553 2,594,533 736,323 7,869,409
Gross margin 2,051,763 918,666 438,885 3,409,314
Selling, general & administration 2,903,248 2,010,894 542,580 5,456,722
Depreciation & amortization 273,619 215,404 28,150 517,173
Interest expense 21,152 61,357 3,773 86,282
Other (income) expense 5,076 (10,000) (3,380) (8,304)
Loss from continuing operations $ (1,151,332) (1,358,989) (132,238) (2,642,559)
============= ============ ========= ===========
Discontinued operations $ (2,544,172)
-----------
</TABLE>
12
<PAGE>
<TABLE>
<S> <C> <C> <C> <C>
Net loss (5,186,731)
============
EBITDA $(856,561) (1,082,228) (100,315) (2,039,104)
========= ============ ========= ============
</TABLE>
(8) Commitments and Contingencies
On March 15, 2000 the Company entered into an agreement for
switching and transmission facilities. Under the terms of the agreement, the
Company is committed to monthly minimum usage of $250,000 per month
commencing July, 2000 through March, 2002 or an aggregate minimum usage of
$5,250,000 for the life of the contract.
In connection with the sale of Matrix Telecom, the amount of the
purchase price received by the Company is subject to reduction based upon a
comparison of Matrix Telecom's adjusted stockholders' equity on August 31,
1999, to an amount set forth in the sale agreement. The purchaser has
indicated that it materially disagrees with NetLojix's calculation of the
reduction. If the parties are unable to resolve the matter, the sale
agreement provides that the calculation will be submitted to an independent
firm of accountants, to be chosen by the parties, for final resolution. To
date, the purchaser has been unwilling to submit the matter to an independent
firm of accountants. If the dispute is ultimately determined in the
purchaser's favor the amount of the long distance credits received by the
Company in connection with the transaction would be reduced below the amount
calculated by the Company. If the amount exceeds the total of the unused
amount of long distance credit, then the Company could be required to pay the
purchaser such excess in cash.
In January 2000, the Company retained Kaufman Bros., L.P. to act as
the Company's financial advisor and investment banker. The Company has agreed
to compensate the investment banking firm for any financing transactions
facilitated by them in the form of a placement fee which will be equal to 5%
of the gross proceeds raised from the sale of equity securities plus warrants
equal to 3.5% of the shares sold in the transaction at an exercise price of
120% of the price per share of the common stock purchased. A merger fee equal
to 3% of the aggregate consideration of the completed transaction will apply
if the Company enters into an acquisition transaction involving the ownership
of the Company whereby the Company's existing stockholders own less than 50%
of the equity of the surviving entity. This relationship is effective until
August 31, 2000, automatically renewing for successive months until
terminated in writing by either the Company or Kaufman Bros., L.P. Either the
Company or the investment banking firm can terminate this relationship on 90
days written notice.
As previously reported, NetLojix is a defendant in a class action
under the federal securities laws (IN RE AVTEL SECURITIES LITIGATION, Case
No. 98-9236) currently pending in the United States District Court for the
Central District of California. On April 19, 2000, NetLojix reached an
agreement in principle to settle all outstanding claims under the class
action lawsuit with counsel for the plaintiff class. This agreement is
subject to finalization and execution of a definitive settlement agreement,
passage of a class member notification period and final approval by the
court. NetLojix recorded a charge against earnings in the first quarter of
2000 of $998,000 relating to the expected settlement.
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As of August 10, 2000, a definitive settlement agreement has not
been finalized or executed.
The Company filed suit on April 5, 2000 in the Santa Barbara County
Superior Court against Netlogic, Inc., a Delaware corporation having a
principal place of business in New York. The action has been removed to the
United States District Court for the Central District of California. The
Company filed this action after its receipt of a cease and desist letter from
Netlogic demanding that the Company cease all usage of the trademark
NETLOJIX. The district court action seeks a declaration of non-infringement
and cancellation of the trademark registration for NETLOGIC, which the
defendant allegedly obtained from the U.S. Patent and Trademark Office. The
defendant has filed a motion to dismiss on the grounds of an alleged lack of
personal jurisdiction in the State of California. That motion is set for
hearing on September 11, 2000.
Subsequently, Netlogic filed suit against the Company and certain of
its subsidiaries in the United States District Court for the Southern
District of New York alleging trademark infringement. The complaint seeks an
injunction against the use of the trademark NETLOJIX, and various unspecified
damages relating to the use of that trademark. This action has been
temporarily stayed pending a decision by the district court in California of
the motion to dismiss the Company's complaint filed in that court. The
Company believes the claims lack merit.
The Company intends to aggressively pursue its claims in the actions
with Netlogic; however, it is not possible to predict with any certainty the
outcome of the litigation.
On July 25, 2000, DNS Communications, Inc. was served with a
Complaint filed in the state court for Harris County, Texas, entitled,
Transnational Telesis, Inc. v. DNS Communications, Inc f/k/a Direct Network
Services, Inc., Matrix Telecom, Inc. and Group Long Distance, Inc., Case No.
2000 29488. DNS was formerly a subsidiary of Matrix Telecom and is currently
a subsidiary of the Company. Matrix Telecom was formerly a subsidiary of the
Company.
The complaint alleges that DNS entered into a marketing agreement
with Transnational Telesis pursuant to which DNS was to pay certain
commissions to Transnational based on the telephone usage of customers
obtained for DNS by Transnational. The complaint further alleges that DNS
failed to make commission payments that were due. The complaint alleges
causes of action for breach of contract, unjust enrichment, punitive damages
and attorneys fees, based on the alleged failure to pay commissions, and
seeks unspecified damages in excess of $10,000. The Company intends to
vigorously defend against the action.
(9) SUBSEQUENT EVENTS
On July 28, 2000, the Company announced that it had entered into a
letter of intent to acquire Smith Technology Solutions, Inc. (STS), a
privately-held systems integration and technical support company that
provides local and wide area network design, integration and support.
Unaudited revenues for STS for the year ended June 30, 2000, were
approximately $1 million. The letter of intent contemplates that NetLojix
would acquire all of the outstanding common stock of STS for 250,000 shares
of NetLojix common stock and $150,000 in cash. The closing of the transaction
is subject to the execution of a definitive agreement between the parties,
approval by the Board of Directors and by the board of STS, the satisfactory
completion of due diligence, and other conditions. The transaction is
expected to close in the
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third quarter of 2000.
(10) EFFECTS OF NEW ACCOUNTING PRONOUNCEMENTS
In December 1999, the Securities and Exchange Commission issued
Staff Accounting Bulletin No. 101 ("SAB 101"), "Revenue Recognition in
Financial Statements." SAB 101 provides guidance for revenue recognition
under various circumstances. The accounting and disclosures prescribed by SAB
101 will be effective for the fourth quarter of the Company's fiscal year
ending December 31, 2000. The effect of adopting SAB 101 is currently being
evaluated, however, the Company does not believe the effects of adoption will
be material to its financial position or results of operations.
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 FOR THE YEAR ENDED DECEMBER 31, 1999.
The following discussion and analysis should be read in connection
with the unaudited condensed consolidated financial statements for the three
month and six month periods ended June 30, 2000 and 1999 of the Company and
related notes included elsewhere in this report and the consolidated
financial statements and related management discussion and analysis included
in the Company's Annual Report on Form 10-K, for the year ended December 31,
1999.
On September 15, 1999, the Company changed its name to NetLojix
Communications, Inc. from AvTel Communications, Inc. This name change was
effected by the short-form merger of a wholly-owned subsidiary with and into
the Company.
OVERVIEW
We are a provider of network infrastructure, hosting, web
application development and technical support to the mid-size business
market. We are a single-source provider of enterprise-wide solutions
integrating our complete portfolio of broadband connectivity, hosting,
co-location, web application development, system integration, maintenance and
voice connectivity. Our network infrastructure and Internet hosting platform
employ proprietary as well as existing technologies that enable our customers
to outsource their eBusiness initiatives including hosting, co-location,
transaction management, bandwidth, data storage, and security.
Our offices and support teams provide design, implementation and
management of wide area networks (WANs), local area networks (LANs) and
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electronic commerce or "eBusiness" solutions, including frame relay, digital
subscriber line (DSL), Internet-based virtual private networks (iVPN), voice
products transported via the Internet Protocol (VOIP) as well as traditional
voice products and Internet access. We offer these services on a stand-alone
basis or bundled as part of a total, enterprise-wide solution. We believe
that businesses will continue to outsource more of their network
infrastructure, systems, server management and system support to companies
like NetLojix. Our strategy is to establish NetLojix as an industry leader of
hosting and total network management for the mid-size business market by
providing a complete, enterprise-wide solution and positioning the Company as
our customers' "Technology Partner". We believe that our strategy will
facilitate the migration of our customer's servers and eBusiness applications
off-site and into the NetLojix network.
HOSTING AND MANAGEMENT
We maintain a platform of proprietary management tools integrated
with industry leading applications that allow us to offer our customers the
most advanced 24 x 7 environment for their eBusiness initiatives. Recently we
formed a Research and Development team dedicated to producing advanced
software technologies that will further enhance our hosting platform. We
believe that our developments will dramatically improve our customer's
eBusiness presence, and continue to increase server management and hosting
reliability.
NETWORK INFRASTRUCTURE
We own and operate a network of multi-protocol, points-of-presence
(mPOP), which enables high-speed Internet services, data center operation and
network interfaces with multiple broadband carriers. The company's mPOPs
include multi-service routing technology based on Cisco's new 7206 VXR/300
platform. We are employing a "Smart Build" network strategy utilizing
national transport providers for IP-based ATM backbone services and
co-location facilities. By combining our network core facilities in
combination with those of our transport partners, we believe that we offer
our customers greater network reliability, increased efficiencies and a
higher level of customer care. We maintain mPOPs in New York City, San
Francisco, Santa Barbara and Los Angeles. We will continue to expand our
network by opening new mPOPs in Chicago, Dallas and other markets as we open
new sales and service offices in the future.
DESCRIPTION OF REVENUE SEGMENTS
The Company's operations are divided into three segments: network
connectivity, technical support and application development and hosting. The
segmentation of the Company is how we manage the day-to-day operations of our
business and is based on the types of services we provide. All of our
services are targeted toward small to mid-sized businesses.
FINANCIAL INFORMATION PRESENTATION
On December 1, 1997, we acquired Matrix Telecom through a share for
share exchange of common stock. (the "Share Exchange"). For accounting
purposes, the Share Exchange was treated as a reverse acquisition of NetLojix
by Matrix Telecom. Even though we were the legal acquirer, the historical
financial statements are required to be prepared as if Matrix Telecom
acquired NetLojix. Consequently, the following discussion of results of
operations reflects the operations of Matrix Telecom prior to December 1,
1997 and
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reflects the combined operations of NetLojix and Matrix Telecom subsequent to
December 1, 1997. References to "the Company" or "our" financial statements
and financial information refer to operations of Matrix Telecom prior to the
Share Exchange and the combined operations of Matrix Telecom and NetLojix
subsequent to the Share Exchange.
In August, 1999 we decided to exit the residential long distance
business and focus exclusively on business customers. As of August 1999,
Matrix Telecom was engaged in the residential long distance telephone
business and represented all of the Company's business in this segment.
Consequently, effective with the execution of a definitive agreement (the
measurement date), the residential long distance operations of Matrix Telecom
have been reflected as a discontinued operation in the consolidated financial
statements. All prior year financial information has been restated to conform
to the discontinued operations presentation.
RESULTS OF OPERATIONS
THREE MONTHS ENDED JUNE 30, 2000 COMPARED WITH THREE MONTHS ENDED JUNE 30,
1999.
Revenues
Revenues from continuing operations for the three months ended June
30, 2000 were $5.3 million, an increase of 27.0% or $1.1 million from $4.2
million for the three months ended June 30, 1999.
Network connectivity services revenues, increased $0.8 million to
$3.1 million for the three months ended June 30, 2000 from $2.3 million for
the three months ended June 30, 1999. Within the network connectivity
services segment, data and voice services accounted for $0.5 million of the
increase with the balance of the increase attributable to internet services.
Data and voice services revenues increased 34.5% from the comparable quarter
in 1999 as the Company significantly expanded its sales of dedicated
connectivity services during 2000. Billable revenue minutes for switched
traffic increased to 22.8 million from 17.8 million, an increase of 28.1%.
Also within the network connectivity segment, Internet connectivity
services revenues increased 40.3% to $1.1 million. Demand for Internet
connectivity in the central California area continues to be strong with
customer attrition rates running below industry averages at about 1.5% per
month. The increase in revenues is attributable to dedicated Internet access
products which include frame relay, cable, ISDN and DSL. We believe that
demand for broadband Internet access products will continue to be strong. We
have upgraded our product offerings through partnerships and alliances with
major vendors so that we can continue to increase our focus on broadband
products.
Technical support services revenues were $1.5 million for the three
months ended June 30, 2000, an increase of 9.7% over the comparable quarter
in 1999. During the current quarter, the company realized increased revenues
from its help desk solution offerings and the cross marketing of technical
support services to network connectivity customers. IT support services
include systems integration, service contract, retainer contracts and help
desk outsourcing. The Company has recently integrated the technical support
service offerings into total enterprise wide solution in each of its
operating
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regions nationally.
Application development and hosting services revenues increased to
$0.7 million for the three months ended June 30, 2000 from $0.4 million for
the comparable quarter in 1999, a 50.9% increase. The increase is primarily
attributable to the application development group. During the current
quarter, the Company realized several revenue recognition milestones on two
large application development projects.
Gross Margin
Gross margin on continuing operations as a percentage of revenues
decreased to 41.1% for the three months ended June 30, 2000 from 46.9% for
the three months ended June 30, 1999. Gross margin from continuing operations
increased $0.2 million to $2.2 million for the three months ended June 30,
2000 from $2.0 million for the three months ended June 30, 1999.
Network connectivity services gross margin as a percent of revenue
decreased to 37.4% for the three months ended June 30, 2000 from 48.0% for
the three months ended June 30, 1999. Within the network connectivity
services segment, data and voice gross margins averaged 17.2% vs. 29.1% in
the comparable quarter in 1999. The decline in gross margins was primarily
due to the renegotiation of certain large customer contracts reducing their
long distance rates in response to competitive pressures.
Gross margins for Internet services continues to be strong averaging
78.5% during the three months ended June 30, 2000 vs. 85.9% for the
comparable 1999 quarter. The decrease from 1999 is primarily attributable to
increased network costs relating to high-speed connectivity. We have
increased capacity for these services and are currently able to increase
customers with minimal additional network costs.
Technical support services gross margins averaged 36.2% during the
quarter ended June 30, 2000 compared to 39.3% for the comparable quarter in
1999. Gross margins in the technical service segment declined due to an
increase in sales of lower margin retainer contracts and a large national
installation project. In addition, salary expense for high demand technicians
continues to increase and put downward pressure on margins. While we may be
able to increase retail pricing to offset salary increases, competitive
pressures may require us to absorb some of the additional costs in the future.
Application development and web hosting gross margins were 68.9%
during 2000 compared to 64.2% for the comparable quarter in 1999. The
increase in gross margin is due primarily to several high margin contracts
reaching revenue milestones in the quarter. Gross margins for applications
development projects are negotiated on a project-by-project basis and tend to
fluctuate for each project depending on the total dollar amount, deadline
commitments and specialized expertise that may be required for a particular
project.
Selling, General, and Administrative Costs
Selling, general, and administrative costs from continuing
operations increased only $0.1 million to $2.9 million for the three months
ended June 30, 2000 from $2.8 million for the three months ended June 30,
1999. As a percentage of revenues, selling, general and administrative costs
decreased to 54.2% for the three months ended June 30, 2000 from 66.0% for
the three months ended June 30, 1999.
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Approximately $0.2 million of the increase is due to increased
professional service fees, primarily due to legal fees associated with
various legal matters and regulatory registration. This increase was
partially offset by a reduction in salary and wage expenses due to the
relocation of the accounting and finance function to Santa Barbara and the
subsequent downsizing of the staff.
SIX MONTHS ENDED JUNE 30, 2000 COMPARED WITH SIX MONTHS ENDED JUNE 30, 1999.
Revenues
Revenues from continuing operations for the six months ended June
30, 2000 were $10.6 million, an increase of 34.7% or $2.7 million from $7.9
million for the six months ended June 30, 1999.
Network connectivity services revenues, increased $1.7 million to
$6.2 million for the six months ended June 30, 2000 from $4.5 million for the
six months ended June 30, 1999. Within the network connectivity services
segment, data and voice services accounted for $1.2 million of the increase
with the balance of the increase attributable to internet services. Data and
voice services revenues increased 40.2% from the comparable period in 1999 as
the Company significantly expanded its sales of dedicated connectivity
services during 2000. Billable revenue minutes for switched traffic increased
to 41.9 million from 33.1 million, an increase of 26.6%.
Internet connectivity services revenues increased 31.3% to $2.0
million. Demand for Internet connectivity in the central California area
continues to be strong with customer attrition rates running below industry
averages at about 1.5% per month. The increase in revenues is attributable to
dedicated Internet access products which include frame relay, cable, ISDN and
DSL.
Technical support services revenues were $2.9 million for the six
months ended June 30, 2000, an increase of 13.3% over the comparable quarter
in 1999. During the current period, the company realized increased revenues
from its help desk solution offerings and the cross marketing of technical
support services to network connectivity customers.
Application development and hosting services revenues increased to
$1.4 million for the six months ended June 30, 2000 from $0.7 million for the
comparable period in 1999, a 94.83% increase. The increase is primarily
attributable to the application development group. During the current period,
the Company realized several revenue recognition milestones on two large
application development projects.
Gross Margin
Gross margin on continuing operations as a percentage of revenues
decreased to 41.0% for the six months ended June 30, 2000 from 43.3% for the
six months ended June 30, 1999. Gross margin from continuing operations
increased $0.9 million to $4.3 million for the six months ended June 30, 2000
from $3.4 million for the six months ended June 30, 1999.
Network connectivity services gross margin as a percent of revenue
decreased to 35.9% for the six months ended June 30, 2000 from 44.8% for the
six months ended June 30, 1999. Within the network connectivity services
segment, data and voice gross margins averaged 16.4% vs. 25.4% in the
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comparable period in 1999. The decline in gross margins was primarily due to
the renegotiation of certain large customer contracts reducing their long
distance rates in response to competitive pressures.
Gross margins for Internet services continues to be strong averaging
76.0% during the six months ended June 30, 2000 vs. 83.5% for the comparable
1999 period. The decrease from 1999 is primarily attributable to increased
network costs relating to high-speed connectivity. We have increased capacity
for these services and are currently able to increase customers with minimal
additional network costs.
Technical support services gross margins averaged 38.5% during the
six months ended June 30, 2000 compared to 35.4% for the comparable period in
1999. Gross margins in the technical service segment were improved as our
management of technical resource allocation and productivity increased. We
were also able to raise certain retail pricing as demand for IT professional
services increased. However, salary expense for high demand technicians will
likely continue to increase and put downward pressure on margins. While we
may be able to increase retail pricing to offset salary increases,
competitive pressures may require us to absorb some of the additional costs.
Application development and web hosting gross margins were 68.4%
during 2000 compared to 59.6% for the comparable quarter in 1999. The
increase in gross margin is due primarily to several high margin contracts
reaching revenue milestones in the quarter.
Selling, General, and Administrative Costs
Selling, general, and administrative costs from continuing
operations increased $0.8 million to $6.3 million for the six months ended
June 30, 2000 from $5.5 million for the six months ended June 30, 1999. As a
percentage of revenues, selling, general and administrative costs decreased
to 59.4% for the six months ended June 30, 2000 from 69.3% for the six months
ended June 30, 1999.
Of the increase in selling, general and administrative expenses,
$0.2 million is attributable to the non-cash expense associated with warrants
issued the Company's investment banker for advisory services. Approximately
$0.1 million of the increase is attributable to severance costs. In January
2000, the Company relocated its finance and accounting function to Santa
Barbara and paid severance to employees that declined to relocate.
Approximately $0.2 million of the increase is due to increased professional
service fees, primarily due to legal fees associated with the class action
lawsuit and regulatory registration. The remaining increase in cost was
associated with expanded sales force and related expenses including general
office expense, rent, utilities and travel expenditures.
Settlement Costs
On April 19, 2000, the Company reached an agreement in principle to
settle all outstanding claims under the class action lawsuit pending against
NetLojix and certain of its officers. The agreement is subject to
finalization and execution of a definitive settlement agreement, passage of a
class member notification period and final approval by the court. Under the
terms of the settlement, the Company will issue 232,000 shares of common
stock and warrants to purchase 200,000 shares of the Company's common stock
at an exercise price of $8.00 per share with a term of 2 years. In addition,
the Company would be
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required to pay $150,000 in administrative costs and other expenses. While
the Company continues to believe it has strong defenses against the lawsuit,
considering the ongoing costs of defending the lawsuit in terms of management
time and legal fees as well as the uncertainty associated with a jury trial,
the Company believes the settlement is fair and equitable. During the three
month period ended March 31, 2000, the Company recorded a charge against
earnings of $998,000 and a liability relating to the expected settlement.
Interest Expense
The Company currently has $0.7 million outstanding under its secured
line of credit. During the six month period ended June 30, 1999 the Company
averaged approximately $0.2 million in outstanding borrowings.
LIQUIDITY AND CAPITAL RESOURCES
As of June 30, 2000, the company had cash and cash equivalents of
$1.3 million. The Company has an outstanding indebtedness on its line of
credit of $719,000 as of June 30, 2000. For the six months ended June 30,
2000, the Company reported a net loss from continuing operations of $3.5
million and net cash used in operations of $2.9 million.
In November 1999 we completed the sale of Matrix Telecom. The
purchase price for the Matrix Telecom stock was valued at $6,052,529 which is
subject to adjustment based on finalization of a balance sheet for Matrix
Telecom, Inc. as of August 31, 1999 and agreement by both parties. We
completed the balance sheet, and we have been notified by the purchaser that
it materially disagrees with the balance sheet that we prepared. The stock
purchase agreement provides that, if the parties are unable to resolve the
matter, the calculation of the adjustment amount will be submitted to an
independent firm of accountants, to be chosen by the parties, for final
resolution. To date, the purchaser has been unwilling to submit the matter to
an independent firm of accountants. If the dispute is ultimately determined
in the purchaser's favor the amount of the long distance credits received by
the Company in connection with the transaction would be reduced below the
amount calculated by the Company. If the amount exceeds the total of the
unused amount of long distance credit, then the Company could be required to
pay the purchaser such excess in cash. Any material adjustments to the
balance sheet we prepared, whether determined by the independent accountants
or a court, will effect the purchase price and the recorded gain. At this
time, we believe that the ultimate resolution of the items in dispute will
not materially affect the recorded gain.
Through June 30, 2000 we used $425,000 of the long distance credit
received in the sale of Matrix Telecom, Inc. In accordance with the sale
agreement, the amount of the long distance credit used may not exceed
$100,000 per month. In March, 2000 we discontinued utilizing the long
distance credits pending resolution of our outstanding differences. Effective
May 11, 2000 we completed the process of moving our communications traffic
from Matrix Telecom to an alternative carrier.
During 1999 and into the first quarter of 2000, a subsidiary of the
Company commenced the process of registering with state telecommunications
regulatory agencies to become licensed as a telecommunications provider
separate and apart from Matrix Telecom. As of June 30, 2000, this
registration
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process was essentially complete. The Company has accrued for certain
regulatory taxes and assessments approximating $0.3 million to be paid upon
completion of all appropriate tax filings. All filings should be completed by
the end of the third quarter of this year.
In May 2000, we amended our secured credit facility with Coast
Business Credit. Under the amended line of credit, we may borrow up to 75% of
eligible receivables (as defined) up to a total amount of $3.0 million. The
percentage may be increased to 80% of eligible receivables if we reach
certain operational targets. In addition, the line of credit may be used to
provide a facility for issuing letters of credit. Borrowings under the line
of credit bear interest, payable monthly, based upon the prime rate of Bank
of America NT & SA plus 2% (11.5% at August 10, 2000). Borrowings under the
credit facility are secured by substantially all of our assets. As of August
4, 2000, $760,000] is outstanding under the credit facility, and $758,000 is
available to be borrowed under the formula described above.
On April 23, 1999, we entered into an equity line agreement with
Cambois Finance, Inc. Under the terms of the equity line agreement, we may
sell or put our common stock to Cambois Finance, at our option at any time,
subject to the satisfaction of several conditions. The equity line agreement
provides for Cambois Finance to purchase up to $13,500,000 of our common
stock, subject to our filing and maintaining an effective registration
statement, trading price and volume minimums, and limits on the amount and
frequency on sales of common stock under the line. Our stock must have a
minimum bid price of $2.26 per share in order for us to require Cambois
Finance to purchase stock, unless Cambois Finance otherwise agrees. To date,
we have sold a total of 1,066,725 shares of common stock to Cambois Finance
for total proceeds of $2,000,000.
On March 3, 2000 we raised $1.5 million through a private placement
of 375,000 shares of common stock at $4.00 per share. We also issued the
private investor warrants to purchase up to 75,000 shares of common stock at
a price of $5.25 per share. The warrants are exercisable beginning September
1, 2000 and ending March 1, 2003.
During the six month period ended June 30, 2000, the Company
received proceeds of $1.2 million relating to stock option exercises. The
option exercises were primarily attributable to stock options granted by the
Company in 1997 under the New Best Connections, Inc. Amended and Restated
1997 Option Plan. Under the plan, the Company issued stock options to
purchase 1,292,000 shares of common stock at $1.50 per share to certain
distributors and agents of Matrix Telecom, Inc. The options were originally
granted to facilitate the marketing of residential long distance services.
Pursuant to the terms of the option grant, the options became fully vested
upon the sale of Matrix Telecom, Inc. and expired on May 22, 2000. The
Company recorded commission expense over the vesting period of the option
grant totaling $762,000. As a consequence of the May 22, 2000 expiration
date, 703,860 options were exercised during the six month period ended June
30, 2000.
Historically, our cash flow from operations, our secured borrowings,
our private placements of both common and preferred stock and our equity line
agreement with Cambois Finance, Inc. have been sufficient to meet working
capital and capital expenditure requirements. We believe that our cash flow
from operations, our equity line agreement and our secured line of credit
with Coast Business Credit are sufficient to meet our working capital
requirements from our current operations into the foreseeable future.
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However, our ability to raise capital by putting common stock to
Cambois Finance under the equity line agreement is subject to the
satisfaction of several conditions, as discussed above. Additionally, an
important component of our past growth has been to develop our business
through acquisitions. We intend to continue this strategy. In appropriate
circumstances, we may use our capital stock for acquisitions in addition to
debt and equity financing.
On April 4, 2000, the Company announced that it had entered into a
letter of intent to acquire Twisted Pair/BT Services, Inc., a privately-held
telecommunications interconnect company that provides computer and integrated
PBX network design, integration and service for mid-size businesses in
Northern California (principally in the San Francisco Bay area). The letter
of intent has expired without a definitive agreement having been signed by
the parties. However, the Company intends to continue discussions with
Twisted Pair in the near term.
On July 28, 2000, the Company announced that it had entered into a
letter of intent to acquire Smith Technology Solutions, Inc. (STS), a
privately-held systems integration and technical support company that
provides local and wide area network design, integration and support and Web
site design and management. Unaudited revenues for STS for the year ended
June 30, 2000, were approximately $1 million. The letter of intent
contemplates that NetLojix would acquire all of the outstanding common stock
of STS for 250,000 shares of NetLojix common stock and $150,000 in cash. The
closing of the transaction is subject to the execution of a definitive
agreement between the parties, approval by the Board of Directors and by the
board of STS, the satisfactory completion of due diligence, and other
conditions. The transaction is expected to close in the third quarter of 2000.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is not exposed to material future earnings or cash flow
fluctuations, from changes in interest rates on its long-term debt at June
30, 2000. A hypothetical increase of 115 basis points in interest rate (ten
percent of the Company's overall borrowing rate) would not result in a
material fluctuation in future earnings or cash flow. The Company had not
entered into any derivative financial instruments to manage interest rate
risk or for speculative purposes and is currently not evaluating the future
use of such financial instruments.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
As previously reported, NetLojix is a defendant in a class action
under the federal securities laws (IN RE AVTEL SECURITIES LITIGATION, Case
No. 98-9236) currently pending in the United States District Court for the
Central District of California.
On April 19, 2000, NetLojix reached an agreement in principle to
settle all outstanding claims under the class action lawsuit with counsel for
the plaintiff class. This agreement is subject to finalization and execution
of a definitive settlement agreement, passage of a class member notification
period and final approval by the court. NetLojix recorded a charge against
earnings
23
<PAGE>
in the first quarter of 2000 of $998,000 relating to the expected settlement.
As of August 10, 2000, a definitive settlement agreement has not been
finalized or executed.
The Company filed suit on April 5, 2000 in the Santa Barbara County
Superior Court against Netlogic, Inc., a Delaware corporation having a
principal place of business in New York. The action has been removed to the
United States District Court for the Central District of California. The
Company filed this action after its receipt of a cease and desist letter from
Netlogic demanding that the Company cease all usage of the trademark
NETLOJIX. The district court action seeks a declaration of non-infringement
and cancellation of the trademark registration for NETLOGIC, which the
defendant allegedly obtained from the U.S. Patent and Trademark Office. The
defendant has filed a motion to dismiss on the grounds of an alleged lack of
personal jurisdiction in the State of California. That motion is set for
hearing on September 11, 2000.
Subsequently, Netlogic filed suit against the Company and certain of
its subsidiaries in the United States District Court for the Southern
District of New York alleging trademark infringement. The complaint seeks an
injunction against the use of the trademark NETLOJIX, and various unspecified
damages relating to the use of that trademark. This action has been
temporarily stayed pending a decision by the district court in California of
the motion to dismiss the Company's complaint filed in that court. The
Company believes the claims lack merit.
The Company intends to aggressively pursue its claims in the actions
with Netlogic; however, it is not possible to predict with any certainty the
outcome of the litigation.
On July 25, 2000, DNS Communications, Inc. was served with a
Complaint filed in the state court for Harris County, Texas, entitled,
Transnational Telesis, Inc. v. DNS Communications, Inc f/k/a Direct Network
Services, Inc., Matrix Telecom, Inc. and Group Long Distance, Inc., Case No.
2000 29488. DNS was formerly a subsidiary of Matrix Telecom and is currently
a subsidiary of the Company. Matrix Telecom was formerly a subsidiary of the
Company.
The complaint alleges that DNS entered into a marketing agreement
with Transnational Telesis pursuant to which DNS was to pay certain
commissions to Transnational based on the telephone usage of customers
obtained for DNS by Transnational. The complaint further alleges that DNS
failed to make commission payments that were due. The complaint alleges
causes of action for breach of contract, unjust enrichment, punitive damages
and attorneys fees, based on the alleged failure to pay commissions, and
seeks unspecified damages in excess of $10,000. The Company intends to
vigorously defend against the action.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
(a) Netlojix held its annual meeting of stockholders on May 25,
2000
(b) The following individuals were elected as all of the
directors of Netlojix: Anthony E. Papa, James P. Pisani,
John E. Allen, Jeffrey J. Jensen and Anthony D. Martin
(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
24
<PAGE>
<TABLE>
<CAPTION>
DIRECTORS FOR AGAINST ABSTAIN TOTAL
--------- --------- ------- ------- ---------
<S> <C> <C> <C> <C>
Anthony E. Papa 9,458,917 19,044 0 9,477,961
James P. Pisani 9,455,217 22,744 0 9,477,961
John E. Allen 9,460,597 17,364 0 9,477,961
Jeffrey J. Jensen 9,459,274 18,687 0 9,477,961
Anthony D. Martin 9,460,697 17,264 0 9,477,961
</TABLE>
There were no broker non-votes.
2. Approval of Amendment to Certificate of Incorporation.
The stockholders approved an amendment to Netlojix's
Certificate of Incorporation increasing the number of
authorized shares of Common Stock from 20,000,000 shares to
40,000,000 shares.
The voting for the amendment was as follows:
<TABLE>
<CAPTION>
FOR AGAINST ABSTAIN TOTAL
--- ------- ------- ---------
<S> <C> <C> <C>
9,384,160 61,970 31,831 9,477,961
</TABLE>
There were no broker non-votes.
3. Approval of Amendment to 1998 Stock Incentive Plan.
The stockholders approved an amendment to the Netlojix
1998 Stock Incentive Plan increasing the number of shares
of Common Stock reserved for issuances thereunder by
1,500,000 shares. The voting for the amendment was as
follows:
<TABLE>
<CAPTION>
FOR AGAINST ABSTAIN BROKER NON-VOTES TOTAL
--------- ------- ------- ---------------- ---------
<S> <C> <C> <C> <C>
5,910,947 92,137 13,493 3,461,384 9,477,961
</TABLE>
4. Ratification of Auditors.
The stockholders ratified the appointment of KPMG, LLP as the
Company's independent auditors for 2000. The voting was as
follows:
<TABLE>
<CAPTION>
FOR AGAINST ABSTAIN TOTAL
--------- ------- ------- ---------
<S> <C> <C> <C>
9,455,144 10,143 12,674 9,477,961
</TABLE>
There were no broker non-votes.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
3.1 Certificate of Incorporation of NetLojix
Communications, Inc., as amended.
10.1 Amended Loan and Security Agreement dated as of
May 30, 2000, among NetLojix Communications, Inc,
Remote Lojix/PCSI, Inc., NetLojix Telecom, Inc. and
Coast Business Credit.
27.1 Financial Data Schedule - Six Months Ended June 30,
2000
27.2 Restated Financial Data Schedule - Six Months Ended
June 30, 1999
(b) Reports on Form 8-K
The Registrant filed a Current Report on Form 8-K on June 23,
2000 with respect to the dismissal of KPMG, LLP, and the
engagement of Ernst & Young LLP, as its independent auditor for
2000. The Registrant also announced that it had terminated
discussions to acquire privately-held onShore, Inc. Netlojix
previously announced that it had entered into a non-binding
letter of intent with
25
<PAGE>
onShore in April 2000.
The Registrant filed no other reports on Form 8-K during the
quarter ended June 30, 2000.
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.
NETLOJIX COMMUNICATIONS, INC.,
a Delaware corporation
By: /s/ MICHAEL J. USSERY
------------------------------------
Michael J. Ussery
CHIEF FINANCIAL OFFICER
(Duly Authorized Officer and Principal
Financial Officer)
August 11, 2000
26
<PAGE>
Exhibit Index
<TABLE>
<CAPTION>
Exhibit
Number Exhibit Description
------- -------------------
<S> <C>
3.1 Certificate of Incorporation of NetLojix Communications, Inc., as amended.
10.1 Amended Loan and Security Agreement dated as of May 30, 2000, among
NetLojix Communications, Inc, Remote Lojix/PCSI, Inc., NetLojix Telecom,
Inc. and Coast Business Credit.
27.1 Financial Data Schedule -Six Months Ended June 30, 2000
27.2 Restated Financial Data Schedule - Six Months Ended June 30, 1999
</TABLE>
27
