<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1996
Commission file number: 0-21579
SMARTALK TELESERVICES, INC.
(Exact name of registrant as specified in its charter)
California 95-4502740
(State or other jurisdiction (I.R.S. Employer
of incorporation or organization) Identification No.)
1640 South Sepulveda Boulevard, Suite 500, Los Angeles, California 90025
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (310) 444-8800
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, no par value
--------------------------
(Title of class)
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
--- ---
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
The aggregate market value of the registrant's Common Stock held by non-
affiliates of the registrant as of March 25, 1997, was $68,267,205 based on the
last sale price on the NASDAQ Stock Market ("NASDAQ") on that date.
As of March 25, 1997, 12,959,679 shares of the registrant's Common Stock
were outstanding.
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SmarTalk TeleService, Inc.
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DOCUMENTS INCORPORATED BY REFERENCE
Certain portions of SmarTalk's proxy statement for the annual meeting of
shareholders to be held on May 15, 1997, to be filed with the Securities and
Exchange Commission (the "Commission") no later than 120 days after the end of
the Company's fiscal year ended December 31, 1996, are incorporated by reference
into Part III of this Form 10-K (Items 10 through 13).
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SmarTalk TeleService, Inc.
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PART I
ITEM I. BUSINESS
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The Company
-----------
SmarTalk TeleServices, Inc. ("SmarTalk" or the "Company"), was
incorporated as a California corporation in 1994 and had limited
operations until June 1995. On October 23, 1996, the Company
completed the sale of 4,000,000 shares of the Company's common stock,
no par value (the "Common stock") stock in a public offering, which
is listed on the NASDAQ national stock market under the ticker symbol
SMTK. The Company raised proceeds of $53,940,000 after deducting the
underwriting discount. Certain shareholders of the Company, pursuant
to an agreement with the underwriters, sold an additional 200,000
shares of the Company's Common Stock.
The Company provides convenient, easy-to-use, "cost-effective"
telecommunications products and services to individuals and
businesses primarily through its SmarTalk TeleServices Card (the
"SmarTalk Card"). The SmarTalk Card provides customers with a single
point of access to prepaid telecommunications services at a fixed
rate charge per minute regardless of the time of day or, in the case
of domestic calls, the distance of the call. The Company's services
currently include domestic calling, inbound and outbound
international long distance calling, as well as enhanced features
such as sequential calling, speed dial and message delivery. The
SmarTalk Card may also be recharged on-line with a major credit card,
allowing the user to add minutes as needed. The Company also made
available conference calling and content delivery services in 1996,
which services the Company is currently beginning to market. The
Company is in the process of rolling out other enhanced services
including voice mail and fax mail.
SmarTalk's revenue originates from (i) Company and co-branded
phone card sales through retailers, (ii) recharges of existing phone
cards, (iii) cards sold for promotional marketing campaigns, (iv)
corporate sales to businesses (Corporate Advantage Program) and (v)
prepaid phone card services provided to West Interactive Corporation,
one of the Company's strategic partners.
SmarTalk's primary marketing and distribution focus is to
target individuals and small businesses through major national and
regional retailers. Currently, the SmarTalk Card is sold or has
contracted to sell at selected retail locations throughout the U.S.,
including locations operated by the following leading retailers:
American Drug (which includes Jewel/Osco Combo Stores, Osco Drug
Stores, Sav-On Drug Stores and Acme Grocery), Bergen Brunswig Drug
Company (Good Neighbor Pharmacies), Best Buy, Bradlees, Builders
Square, Dayton's, Fedco, Foley's Department Stores, The Good Guys,
Hills Department Stores, Hudson's, Marshall Field's, Office Depot,
Pamida, Penn Daniels, Robinsons-May, Service Merchandise, Staples,
Thrifty Oil, and Venture Stores. SmarTalk also markets its services
directly to customers through direct response sales which include
recharge sales and sales generated through print, direct mail and,
in the future, Internet and television advertising; and directly to
business customers.
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SmarTalk TeleService, Inc.
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In February 1997, the Company launched a new pre-subscribed
"1+" long distance service which is retailed at Office Depot and in
various stages of development with other retailers. This new product
allows the retailer to offer 1+ long distance services.
The Company primarily operates in one industry segment which is
prepaid telecommunications products and services and has no
subsidiaries. The Company's principal executive offices are located
at 1640 Sepulveda Boulevard, Suite 500, Los Angeles, California
90025, and its telephone number is (310) 444-8800.
Industry Overview
-----------------
The $67.4 billion U.S. long distance industry is dominated by
the nation's three largest long distance providers, AT&T, MCI and
Sprint, which together generated approximately 82.7% of the
aggregate revenues of all U.S. long distance interexchange carriers
in 1994. While industry revenues have grown at a compound annual rate
of 5.6% since 1984, the revenues of carriers other than AT&T, MCI and
Sprint have grown at a compound annual rate of 27.8% during the same
period. As a result, the aggregate market share of all interexchange
carriers other than AT&T, MCI and Sprint has grown from 2.6% in 1984
to 17.3% in 1994. During the same period, the market share of AT&T
declined from 90.1% to 55.2%.
The domestic prepaid phone card industry has grown
significantly in recent years. Prepaid phone card revenues in the
U.S. have grown from an estimated $20 million in 1990 to an estimated
$1 billion in 1996, making prepaid phone services one of the fastest
growing segments of the telecommunications industry. Industry sources
project the total U.S. prepaid phone card market to reach $2.5
billion in 2000.
According to industry sources, the number of companies
marketing prepaid phone cards has grown from approximately 75
companies in 1994 to over 500 companies in 1996. In addition,
companies have begun to couple long distance services with other
enhanced features. In contrast to producers of prepaid phone cards
that were established to serve the collectible or promotional market
only or that provide long distance service only, the Company markets
and distributes the SmarTalk Card and services with specific focus on
retail distribution channels.
Acquisitions/Dispositions
-------------------------
In January 1996, the Company entered into an agreement to
purchase certain of the fixed assets of Lorsch Creative Network, Inc.
("LCN") that had historical net book value of $35,972. LCN's sole
shareholder is the majority shareholder of the Company's Common
Stock. Minority shareholders of the Company consented to the
transaction. The purchase was consummated in January 1996 for
$500,000 cash plus a $2,000,000 subordinated term note which was
repaid in November 1996. Because the assets were purchased from a
related party, the assets are reflected on the Company's balance
sheet at LCN's historical depreciated cost as of the date of the
acquisition. The excess of acquisition cost over the historical cost
less depreciation of the assets acquired of approximately $2,464,028
was recorded as a charge to the Company's accumulated deficit in a
manner similar to a capital distribution.
Raw Materials
-------------
Customers' calls are carried by AT&T (accessed through West
Interactive Corporation) and MCI. The Company obtains long distance
services pursuant to supply agreements with MCI and West Interactive
Corporation. The Company uses
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various vendors to manufacture its plastic phone cards. Management
believes the supply of raw materials is adequate to meet the
Company's needs.
Patents and Trademarks
----------------------
The Company holds all patents, trademarks, and all other
similar licenses and rights to intellectual property which it believes
are material to the conduct of its business.
Seasonality
-----------
The Company experiences increased usage of its products and
services during major holidays such as Christmas and Mother's Day.
Christmas day was the Company's highest use day in 1996 and 1995.
Dependence on Major Customers
-----------------------------
Based upon the value of shipments of SmarTalk Cards to
retailers ("Retailer Shipment Value"), American Drug Stores accounted
for approximately 8% and 78%, respectively, and Office Depot
accounted for approximately 12% and 0%, respectively, of the total
retailer shipment value for the years ended December 31, 1996 and
1995. No other retailer accounted for more than 10% of retailer
shipment value in more than one quarter during either such period.
Additionally, prepaid phone card processing sales to West Interactive
Corporation, one of the Company's strategic partners, were
approximately 37% of year ended December 31, 1996 revenues. The
Company provided no services under this arrangement in 1995.
Backlog
-------
The Company has no backlog.
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SmarTalk TeleService, Inc.
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Competition
-----------
The telecommunications services industry is intensely
competitive, rapidly evolving and subject to constant technological
change. In 1994, there were approximately 75 companies marketing
prepaid calling cards. Currently there are more than 500 companies
selling prepaid calling cards, and the Company expects competition to
increase in the future. As a service provider in the long distance
telecommunications industry, the Company competes with three dominant
providers, AT&T, MCI and Sprint, all of which are substantially
larger and have: greater financial, technical, engineering, personnel
and marketing resources; longer operating histories; greater name
recognition; and larger customer bases than the Company. These
advantages afford the Company's competitors pricing flexibility.
Telecommunications services companies may compete for customers based
on price, with the dominant providers conducting extensive
advertising campaigns to capture market share. Competitors with
greater financial resources may also be able to provide more
attractive incentive packages and may be better situated to negotiate
favorable contracts with retailers. Moreover, since there are few, if
any, substantial barriers to entry, the Company expects that new
competitors are likely to enter the telecommunications market.
The ability of the Company to compete effectively in the
telecommunications services industry will depend upon the Company's
continued ability to provide high quality SmarTalk services at prices
generally competitive with, or lower than, those charged by its
competitors.
The Company attempts to differentiate itself from its
competitors by offering an integrated bundle of communications
services through advanced telecommunications hardware and proprietary
software and distributing these services primarily through retail
channels, as well as a growing number of additional distribution
channels. The Company believes that its principal competitive
advantages are its (i) well-established presence among major national
and regional retailers, (ii) advanced telecommunications
infrastructure, and (iii) management team, which has extensive
marketing and merchandising expertise. The Company believes that the
principal competitive factors affecting the market for
telecommunications services are price, quality of service,
reliability of service, degree of service integration, ease of use,
service features and name recognition. The Company believes that it
competes effectively in these areas.
Recent changes in the regulation of the telecommunications
industry may impact the Company's competitive position. The
Telecommunications Act of 1996 (the "Telecommunications Act") has
effectively opened the long distance market to competition from the
Regional Bell Operating Companies ("RBOCs"). The entry of these well-
capitalized and well-known entities into the long distance market
will likely increase competition for long distance customers. The
Telecommunications Act of 1996 also grants the FCC the authority to
deregulate other aspects of the telecommunications industry, which in
the future may, if authorized by the FCC, facilitate the offering of
telecommunications services by regulated entities, including the
RBOCs, in competition with the Company.
Research and Development
------------------------
No material expenditures were required for research and
development for the years ended December 31, 1996 and 1995, or the
period ended December 31, 1994.
Government Regulation
---------------------
The terms and conditions under which the Company provides its
services are subject to regulation by the state and federal
governments of the U.S. Various international authorities may also
seek to regulate the services provided or to be provided by the
Company. Federal laws and FCC regulations apply to interstate
telecommunications, while state regulatory authorities have
jurisdiction over telecommunications that originate and terminate
within the same state.
The Telecommunications Act will allow local exchange carriers,
including the RBOCs, to provide inter-LATA long distance telephone
service and grants the FCC the authority to deregulate other aspects
of the telecommunications industry. The Company is classified by the
FCC as a non-dominant carrier. The FCC has jurisdiction to act upon
complaints against any common carrier for failure to comply with its
statutory obligations. The FCC also has the authority to impose more
stringent regulatory requirements on the Company and to change its
regulatory classification. The Company has applied for and received
all necessary authority from the FCC to provide domestic interstate
and international telecommunications service. The Company has been
granted authority by the FCC to provide international
telecommunications services through the resale of switched services
of U.S. facilities-based carriers. The FCC reserves the right to
condition, modify or revoke such international authority for
violations of the Federal Communications Act or its rules.
Both domestic and international non-dominant carriers currently
must maintain tariffs on file with the FCC. Although the tariffs of
non-dominant carriers, and the rates and charges they specify, are
subject to FCC review, they are presumed to be lawful and are seldom
contested. Prior to a recent court decision, domestic non-dominant
carriers were permitted by the FCC to file tariffs with a "reasonable
range of rates" instead of the detailed schedules of individual
charges required of dominant carriers. In reliance on the FCC's past
practice of allowing relaxed tariff filing requirements for non-
dominant domestic carriers, the Company filed reasonable range of
rates schedules in its FCC tariff. As an international non-dominant
carrier, the Company will be required to include detailed rate
schedules in its international tariffs. Resale carriers are also
subject to a variety of miscellaneous regulations that, for instance,
govern the documentation and verifications necessary to change a
consumer's long distance carriers, limit the use of "800" numbers for
pay-per-call services, require disclosure of operator services and
restrict interlocking directors and management.
The intrastate long distance telecommunications operations of
SmarTalk are subject to various state laws and regulations, including
prior certification, notification and/or registration requirements.
In certain states, prior regulatory approval may be required for
changes in control of telecommunications operations. The Company is
currently subject to varying levels of regulation in the states in
which it provides card services (which are generally considered "1+"
services by the states). The vast majority of states require SmarTalk
to apply for certification to provide telecommunications services, or
at least to register or to be found exempt from regulation, before
commencing intrastate service. The vast majority of the states
require SmarTalk to file and maintain detailed tariffs listing rates
for intrastate service. Many states also impose various reporting
requirements and/or require prior approval for transfers of control
of certified carriers and assignments of carrier assets, including
customer bases, carrier stock offerings and incurrence by carriers of
significant debt obligations. Certificates of authority can generally
be conditioned, modified, canceled, terminated or revoked by state
regulatory authorities for failure to comply with state law and/or
the rules, regulations and policies of the state regulatory
authorities. Fines and other penalties, including, for example, the
return of all monies received for intrastate traffic from residents
of a state, may be imposed for such violations. SmarTalk has made all
material filings and taken all material actions it believes are
necessary to become certified or tariffed to provide intrastate card
services to customers throughout the U.S.
Employees
---------
As of March 25, 1997, the Company employed 51 persons on a
full-time basis. None of the Company's employees are members of a
labor union or are covered by a collective bargaining agreement. The
Company believes that its future success will depend on its ability
to attract and retain highly skilled and qualified employees to meet
management and other requirements from time to time.
Plan of Operation
-----------------
SmarTalk intends to devote the majority of its efforts toward
expanding its retail distribution channel by expanding the retail
customer base and by adding additional points of sale within each
store where the SmarTalk Card is sold. In the next 12 months, the
Company expects to increase its staff by adding employees to help
manage the planned growth of the Company. SmarTalk intends to develop
an Internet home page and produce television advertising in an effort
to pursue additional direct response opportunities. The Company plans
to expand its sales force to include representatives to focus on
specialized retailers and corporate clients. As part of its efforts
to attract businesses, SmarTalk is currently rolling out voice mail,
fax mail and conference calling. The Company anticipates that
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SmarTalk TeleService, Inc.
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it will spend approximately $2 to $5 million to increase capacity of
the SmarTalk platforms as required to handle anticipated usage volume
and to provide enhanced features.
Environmental Protection
------------------------
The nature of the Company's operations do not present any
significant risks to the environment, therefore, no material capital
expenditures were or are expected to be required for environmental
protection.
ITEM 2. PROPERTIES
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SmarTalk's principal executive offices are located in
approximately 8,500 square feet of office space in Los Angeles,
California under a lease expiring March 31, 2002. Subsequent to the
reporting period, the Company entered into a lease to expand the
principal executive office space by an additional space of
approximately 4,900 square feet. SmarTalk also leases space to house
the VoiceChoice Platform located in San Francisco, California. This
lease expires on January 31, 1999. The Company believes its
facilities are suitable for their uses and are, in general, adequate
for the Company's current needs. The Company believes that lease
extensions or replacement space may be obtained for all of its leased
facilities upon the expiration of the current lease terms, in most
cases, at rates which are not materially higher than those currently
in effect.
In June 1996, the Company acquired an interactive voice
response platform facility known as the VoiceChoice Platform from
Pacific Bell Information Services for total consideration of
$325,000, plus other consideration including the release of certain
contractual obligations of Pacific Bell Information Services to the
Company. The purchase price was recorded at $325,000, comprised of
$200,000 in cash and a $125,000 note which was repaid in November
1996. The Company was informed by Pacific Bell Information Services
that the platform facility was constructed in 1994 at an original
cost of approximately $1,648,000. The assets acquired include
multiple switches, inbound and outbound access ports for prepaid and
corporate calling services, as well as other voice response
applications, high-speed database servers, voice recording hardware
and credit card verification software.
ITEM 3. LEGAL PROCEEDINGS
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There are no material legal proceedings pending involving the
Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
- ------- ---------------------------------------------------
Not applicable.
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SmarTalk TeleService, Inc.
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PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
- ------- -----------------------------------------------------------------
MATTERS
-------
Market and Market Prices of Common Stock
----------------------------------------
SmarTalk's common stock is traded on the national market system
of NASDAQ under the ticker symbol SMTK. Trading in the Company's
stock began on October 23, 1996 through an initial public offering.
The high and low sales prices of the SmarTalk Common Stock between
October 23, 1996 and December 31, 1996 were $18.00 and $11.25,
respectively.
The closing price on March 25, 1997 was $13.50 per share of
Common Stock.
Approximate Number of Security Holders
--------------------------------------
There were approximately 32 shareholders of record as of
March 25, 1997.
Dividend Policy
---------------
There were no dividends declared or paid for the years ended
December 31, 1996 and 1995. The Company has never declared or paid
cash dividends on its Common Stock. The Company intends to retain
earnings for working capital to support growth and for general
corporate purposes. The Company does not expect to pay any dividends
on its Common Stock in the foreseeable future.
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SmarTalk TeleService, Inc.
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ITEM 6. SELECTED FINANCIAL DATA
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<TABLE>
<CAPTION>
From Inception
For the Year Ended (Oct. 28, 1994)
December 31, Through
------------------------------------------- December 31,
1996 1995 1994
------------------- ------------------- -------------------
<S> <C> <C> <C>
Revenue $15,021,060 $ 453,916 $ 444
Loss from operations $(3,304,272) $ (1,331,314) $ (65,472)
Loss from operations per common share ($.33) ($0.14) ($0.01)
Total assets $50,531,420 $ 3,841,752 $ 4,023
Debt -- -- --
</TABLE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
- ------- ---------------------------------------------------------------
RESULTS OF OPERATIONS
---------------------
GENERAL
SmarTalk provides convenient, easy-to-use, "cost-effective"
telecommunications products and services to individuals and businesses primarily
through the SmarTalk Card. The SmarTalk Card provides customers with a single
point of access to prepaid telecommunications services at a fixed rate charge
per minute regardless of the time of day or, in the case of domestic calls, the
distance of the call. The Company's services currently include domestic calling,
inbound and outbound international long distance calling, as well as enhanced
features such as sequential calling, speed dial and message delivery. The
SmarTalk Card may also be recharged on-line with a major credit card, allowing
the user to add minutes as needed.
SmarTalk services are delivered through proprietary switching, application
and database access software which run on two interactive call processing
platforms (the "SmarTalk Platforms"), one of which, the VoiceChoice Platform, is
owned by the Company. The SmarTalk Platforms and the Company's proprietary
software allow users in the system to access SmarTalk services, and provide the
Company with the flexibility to customize and add features to SmarTalk services
on a platform-wide basis.
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SmarTalk TeleService, Inc.
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The Company was formed in October 1994 and had limited operations until
June 1995. On October 23, 1996, the Company completed the sale of 4,000,000
shares of its stock in a public offering on the NASDAQ national stock market.
The Company raised proceeds of $53,940,000 after deducting the underwriting
discount. In addition, certain shareholders of the Company, pursuant to an
agreement with the underwriters, sold an additional 200,000 shares of the
Company's Common Stock in the public offering.
SmarTalk's revenue originates from (i) Company and co-branded phone card
sales through retailers, (ii) recharges of existing phone cards, (iii) cards
sold for promotional marketing campaigns, (iv) corporate sales to businesses,
and (v) prepaid phone card services provided to one of the Company's strategic
partners, West Interactive Corporation.
Under sales agreements with the majority of retailers, the Company sells
cards to the retailer at a set price with normal credit terms. The Company
generally invoices the retailer upon shipment of the cards. The Company also
offers Pay-on-Sale and Pay-on-Activation programs to retailers whereby the
retailers are invoiced upon sale to or activation by retailer's customer,
respectively. Deferred revenue is recognized when the retailer is invoiced. The
Company recognizes revenue and reduces the deferred revenue account as the
customer utilizes calling time or upon expiration of cards containing unused
calling time. The Company also recognizes deferred revenue upon recharge of
existing phone cards and recognizes the revenue upon the usage or expiration of
the recharge minutes.
SmarTalk's cost of revenue consists primarily of the cost of providing the
long distance service and related enhanced services as well as the cost of
manufacturing and delivering the cards. The cost of providing long distance
service represents obligations to carriers that provide minutes of long distance
over their networks for use on the Company's product.
Sales and marketing expenses consist primarily of commissions and
advertising costs. The Company pays commissions to its sales representatives
based on sales to retailers. The Company also pays commissions to its sales
representatives and retailers based on the number of minutes recharged on the
SmarTalk Cards sold by each retailer. These commissions are capitalized and
amortized into expense based on the minutes used by the customers. Advertising
consists primarily of trade, consumer and co-op advertising, and Manufacturers
Development Funds ("MDF"). Under the typical co-op advertising program, the
Company provides advertising funds to retailers to promote sales of SmarTalk
products and services. The amount of funds the Company provides in co-op
advertising is based on a percentage of sales of SmarTalk products to retailers.
MDF consists of promotional and marketing funds to access shelf space. Corporate
advertising expense includes trade and consumer advertising, trade show
expenses, promotional goods and the costs of providing to retailers the
Company's turnkey merchandising supplies.
General and administrative expenses consist primarily of salaries and
related benefits, sales and use taxes, rent, insurance, bank card processing
fees, and other general expenses. Sales
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and use taxes for the SmarTalk Platforms are incurred based on customer usage of
long distance minutes which are processed through each of the individual
platforms.
YEAR ENDED DECEMBER 31, 1996 COMPARED WITH YEAR ENDED DECEMBER 31, 1995
Revenue. Revenue increased to $15,021,060 for the year ended December 31,
1996 from $453,916 for the year ended December 31, 1995. The substantial
increase in revenue reflects an increase in usage of SmarTalk services by users
of the SmarTalk Card, an increase in the number of retail storefronts in which
the Company's product is distributed, greater brand awareness and consumer
acceptance, and revenue attributable to a distribution and processing agreement
entered into on June 1, 1996 with West Interactive Corp. In addition, 11.8% of
total revenue at December 31, 1996 consisted of revenue recognized on the unused
portion of expired cards (breakage revenue) as compared to 7.9% for the year
ended December 31, 1995. Excluding the revenue from the distribution and
processing agreement and from breakage, the recharge percentage is 15.4% and
6.5% for the years ended December 31, 1996 and 1995, respectively. Revenue
generated from recharges comprised approximately 7.9% of total revenue for the
year ended December 31, 1996 compared to 6.5% for the year ended December 31,
1995. This increase in recharge revenue is due to a greater number of SmarTalk
Cards eligible for recharge in the marketplace.
Cost of Revenue. Cost of revenue increased to $10,198,971 for the year
ended December 31, 1996 from $318,686 for the year ended December 31, 1995. The
increase was primarily attributable to the increased use of the Company's
products and services. The gross profit percentage for the year ended December
31, 1996 was 32.1% as compared to 29.8% for the year ended December 31, 1995.
The gross margin percentage increased primarily due to lower transport costs due
to the acquisition of the VoiceChoice platform on June 15, 1996 and the
Company's ability to recognize breakage revenue.
Sales and Marketing Expenses. Sales and marketing expenses increased to
$4,511,291 (or 30.0% of revenue) for the year ended December 31, 1996 from
$842,306 (or 185.6% of revenue) for the year ended December 31, 1995. The
decrease as a percentage of revenue was due to increased revenue growth in 1996.
The increase in dollar amount was primarily due to the continued expansion of
the Company's marketing activities, which include co-op advertising,
manufacturers development funds and promotional goods. Additionally, commission
expense was higher in 1996 than in 1995 due to increased sales activity.
General and Administrative Expenses. General and administrative expenses
increased to $3,615,070 (or 24.1% of revenue) for the year ended December 31,
1996 from $624,238 (or 137.5% of revenue) for the year ended December 31, 1995.
The increase in dollar amount was primarily due to the addition of personnel,
the costs associated with the growth in the Company's business, and the
operating costs associated with the VoiceChoice Platform which was purchased
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June 15, 1996. The decrease as a percentage of revenue was due to increased
revenue growth in 1996. Other general and administrative costs for the year
ended December 31, 1996 included rent associated with the Company's move into a
new office on March 1, 1996, credit card processing fees associated with the
Company's on-line recharge feature, as well as increased general operating
expenses. General and administrative costs for the year ended December 31, 1995
primarily included expenses related to establishing regulatory compliance in all
50 states, the cost of developing the Company's product and packaging concept,
and costs to file documentation related to the procurement of corporate
servicemarks and patents.
Interest Income. Interest income, net of interest expense for year ended
December 31, 1996 was $191,724 as compared to $2,012 for year ended December 31,
1995. This increase was primarily due to the investment of the proceeds from the
initial public offering and the subsequent repayment of all of the Company's
debt in November 1996.
Income Taxes. The Company had losses for the years ended December 31, 1996
and 1995. Accordingly, there was no provision for income taxes.
Net Loss. As a result of the above items, net loss increased to $3,112,548
for the year ended December 31, 1996 from $1,329,302 for the year ended December
31, 1995.
YEAR ENDED DECEMBER 31, 1995 COMPARED WITH THE PERIOD ENDED DECEMBER 31, 1994
Revenue. Revenue increased to $453,916 for the year ended December 31, 1995
from $444 for the period ended December 31, 1994. The substantial increase in
revenue reflects an increase in usage of SmarTalk services by users of the
SmarTalk Card, an increase in the number of retail storefronts in which the
Company's product is distributed and greater brand awareness and consumer
acceptance. During the period ended December 31, 1994, the Company was primarily
engaged in establishing its corporate identity and regulatory compliance in all
50 states and had limited sales of its products. Revenue generated from
recharges comprised approximately 6.5% of total revenue for the year ended
December 31, 1995 compared to 0% for the period ended December 31, 1994. The
recharge feature was not available in 1994.
Cost of Revenue. Cost of revenue increased to $318,686 for the year ended
December 31, 1995 from $716 for the period ended December 31, 1994. The increase
was primarily attributable to the increased use of the Company's products and
services. The gross profit percentage for the year ended December 31, 1995 was
29.8%. The gross profit percentage and the amount for the period ended December
31, 1994 were not meaningful as the Company had insignificant revenue during
this period.
Sales and Marketing Expenses. Sales and marketing expenses increased to
$842,306 for the year ended December 31, 1995 from $1,980 for the period ended
December 31, 1994, reflecting increased promotional activity and marketing
support to retailers. The increase also
<PAGE>
SmarTalk TeleService, Inc.
- --------------------------------------------------------------------------------
reflects an increase in creative and consulting expenses as the Company
developed its product advertising as well as its packaging concept. There were
no significant promotional expenses or creative and consulting expenses during
the period ended December 31, 1994. The limited revenue during the period ended
December 31, 1994 makes comparisons to the comparable period in 1995 not
meaningful.
General and Administrative Expenses. General and administrative expenses
increased to $624,238 for the year ended December 31, 1995 from $63,220 for the
period ended December 31, 1994. The increase was primarily due to the addition
of administrative personnel, the associated costs required to manage the growth
in the Company's business and nonrecurring startup costs. There were no payroll
expenses in the period ended December 31, 1994. Certain of these general and
administrative expenses were incurred by LCN during the year ended December 31,
1995 and period ended December 31, 1994 and the Company was billed by LCN. The
limited revenue during the period ended December 31, 1994 makes comparisons to
the comparable period in 1995 not meaningful.
Interest Income. Interest income, net of interest expense for the year
ended December 31, 1995 was $2,012. Interest income for the year ended December
31, 1995 was derived from returns on short-term cash investments. Interest
expense for the year ended December 31, 1995 consisted of interest on
intraperiod debt which the Company utilized during 1995. There was no interest
expense or income for the period ended December 31, 1994.
Income Taxes. The Company had losses for the years ended December 31, 1995
and the period ended December 31, 1994. Accordingly, there was no provision for
income taxes in these periods.
Net Loss. As a result of the above items, net loss increased to $1,329,302
for the year ended December 31, 1995 from $65,472 for the period ended
December 31, 1994.
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
On October 23, 1996, the Company completed the sale of 4,000,000 shares of
its stock in a public offering (the "Offering"), pursuant to which the Common
Stock is now listed on the NASDAQ national stock market. The Company raised net
proceeds of $53,940,000 after deducting the underwriting discount. A portion of
the proceeds were used to repay all of the Company's outstanding loans.
From inception through December 31, 1996, the Company has funded operations
primarily from cash generated by operations, borrowings under its debt
agreements and the sale of its stock. The Company's operating activities used
net cash of $4,762,535 for the year ended December 31, 1996. The cash used by
operating activities is primarily attributable to the Company's continued
efforts to increase its penetration of the retail distribution channel.
<PAGE>
SmarTalk TeleService, Inc.
- --------------------------------------------------------------------------------
In December 1996, the Company entered into a revolving credit facility with
Southern California Bank ("SCB Line of Credit"). Pursuant to the terms of the
SCB Line of Credit, the Company can borrow up to $1,000,000 secured by an
assignment of a deposit account with SCB. Interest on the outstanding principal
balance, calculated from the date of each advance to the repayment of each
advance, is at a fixed rate of 7.12%. This credit facility was undrawn at
December 31, 1996.
The Company believes that the proceeds from the Offering, together with the
funds anticipated to be generated from operations, will be sufficient to finance
the Company's operations for the next 12 months.
<PAGE>
SmarTalk TeleService, Inc.
- --------------------------------------------------------------------------------
SMARTALK TELESERVICES, INC.
PART II. OTHER INFORMATION
ITEM 8. FINANCIAL STATEMENTS
- ------- --------------------
Report of Independent Accountants
- ---------------------------------
To the Board of Directors and Shareholders
of SmarTalk TeleServices, Inc.
In our opinion, the accompanying balance sheets and the related statements of
operations, of shareholders' equity (deficit) and of cash flows present fairly,
in all material respects, the financial position of SmarTalk TeleServices, Inc.
at December 31, 1996 and 1995, and the results of its operations and its cash
flows for the years then ended and for the period from October 28, 1994
(inception) to December 31, 1994 in conformity with generally accepted
accounting principles. These financial statements are the responsibility of the
Company's management; our responsibility is to express an opinion on these
financial statements based on our audits. We conducted our audits of these
statements in accordance with generally accepted auditing standards which
require that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. An audit
includes examining, on a test basis, evidence supporting the amounts and
disclosures in the financial statements, assessing the accounting principles
used and significant estimates made by management, and evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for the opinion expressed above.
/s/ Price Waterhouse LLP
Price Waterhouse LLP
February 23, 1997
Century City, California
<PAGE>
SmarTalk TeleService, Inc.
BALANCE SHEET
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
December 31,
--------------------------------------------
1996 1995
----------------- -----------------
ASSETS
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 44,830,487 $ 2,115,351
Trade accounts receivable (less allowances for
doubtful accounts of $89,724 and $11,460, respectively) 2,254,192 224,974
Inventories 601,020 718,045
Prepaid expenses 327,696 3,078
Other current assets 1,682,768 759,718
----------------- -----------------
Total current assets 49,696,163 3,821,166
Non-current assets:
Property and equipment, net 744,748 4,486
Other non-current assets 90,509 16,100
----------------- -----------------
Total assets $ 50,531,420 $ 3,841,752
================= =================
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable $ 3,527,192 $ 923,900
Deferred revenue 2,699,640 3,696,515
Accrued marketing costs 136,931 381,429
Other accrued expenses 352,226 219,682
----------------- -----------------
Total current liabilities 6,715,989 5,221,526
----------------- -----------------
Commitments (See Note 7)
Shareholders' equity (deficit):
Preferred stock, no par value; authorized
10,000,000 shares; no shares issued and outstanding -- --
Common stock, no par value; authorized
100,000,000 shares issued and outstanding
12,829,459 and 8,824,834 shares, respectively 50,786,781 315,000
Common stock subscribed -- (300,000)
Accumulated deficit (6,971,350) (1,394,774)
----------------- -----------------
Total shareholders' equity (deficit) 43,815,431 (1,379,774)
----------------- -----------------
Total liabilities and shareholders' equity (deficit) $ 50,531,420 $ 3,841,752
================= =================
</TABLE>
The accompanying notes are an integral part of these financial statements.
<PAGE>
SmarTalk TeleService, Inc.
STATEMENTS OF OPERATIONS
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
From Inception
(Oct. 28,1994)
Year Ended December 31, Through
------------------------------------------- December 31,
1996 1995 1994
------------------- ------------------ ------------------
<S> <C> <C> <C>
Revenue $ 15,021,060 $ 453,916 $ 444
Cost of revenue 10,198,971 318,686 716
------------------- ------------------ ------------------
Gross profit (loss) 4,822,089 135,230 (272)
Sales and marketing 4,511,291 842,306 1,980
General and administrative 3,615,070 624,238 63,220
------------------- ------------------ ------------------
Operating loss (3,304,272) (1,331,314) (65,472)
Interest income 443,352 5,290 --
Interest expense 251,628 3,278 --
------------------- ------------------ ------------------
Loss before income taxes (3,112,548) (1,329,302) (65,472)
Provision for income taxes -- -- --
------------------- ------------------ ------------------
Net loss $ (3,112,548) $ (1,329,302) $ (65,472)
=================== ================== ==================
Net loss per share $ (.31) $ (.14) $ (.01)
=================== ================== ==================
Weighted average number of shares 10,100,375 9,335,348 9,335,348
=================== ================== ==================
</TABLE>
The accompanying notes are an integral part of these financial statements.
<PAGE>
SmarTalk TeleService, Inc.
STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
Common Stock
---------------------------- Stock Accumulated
Shares Amount Subscription Deficit Total
------------- ------------ -------------- -------------- ---------------
<S> <C> <C> <C> <C> <C>
Inception (October 28, 1994)
Shares issued 4,941,904 $ 5,000 $ -- -- $ 5,000
Net loss -- -- -- (65,472) (65,472)
------------- ------------ -------------- -------------- ---------------
December 31, 1994 4,941,904 5,000 -- (65,472) (60,472)
Shares issued 1,235,481 310,000 -- -- 310,000
Shares subscribed 2,647,449 -- (300,000) -- (300,000)
Net loss -- -- -- (1,329,302) (1,329,302)
------------- ------------ -------------- -------------- ---------------
December 31, 1995 8,824,834 315,000 (300,000) (1,394,774) (1,379,774)
Issuance of subscribed
shares -- -- 300,000 -- 300,000
Purchase of assets of related
entity -- -- -- (2,464,028) (2,464,028)
Compensation under stock
options issued -- 24,000 -- -- 24,000
Proceeds from sale of
stock, net of costs 4,000,000 50,439,595 -- -- 50,439,595
Stock options exercised 4,625 8,186 -- -- 8,186
Net loss -- -- -- (3,112,548) (3,112,548)
------------- ------------ -------------- -------------- ---------------
December 31, 1996 12,829,459 $ 50,786,781 $ -- (6,971,350) $ 43,815,431
============= ============ ============== ============== ===============
</TABLE>
The accompanying notes are an integral part of these financial statements.
<PAGE>
SmarTalk TeleService, Inc.
STATEMENTS OF CASH FLOWS
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
From Inception
For The Year Ended December 31, (Oct. 28, 1994)
-------------------------------------- Through December 31,
1996 1995 1994
--------------- --------------- -------------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss $ (3,112,548) $ (1,329,302) $ (65,472)
Adjustments to reconcile net loss to net cash
(used) provided by operating activities:
Depreciation 89,820 -- --
Provision for bad debt 78,264 11,425 35
Changes in assets and liabilities
which increase (decrease) cash:
Trade accounts receivable (2,107,482) (236,167) (267)
Inventories 117,025 (718,045) --
Receivable from related party -- 3,400 (3,400)
Prepaid expenses (324,618) (3,078) --
Other current assets (923,050) (759,718) --
Other non-current assets (74,409) (16,100) --
Accounts payable 2,603,292 896,898 27,002
Deferred revenue (996,875) 3,696,084 431
Accrued marketing costs (244,498) 344,367 37,062
Other accrued expenses 132,544 219,682 --
--------------- --------------- -------------------
Net cash (used) provided
by operating activities (4,762,535) 2,109,446 (4,609)
--------------- --------------- -------------------
Cash flows from investing activities:
Purchase of LCN, net of equipment acquired (464,027) -- --
Capital expenditures (705,083) (4,486) --
--------------- --------------- -------------------
Net cash used by investing activities (1,169,110) (4,486) --
--------------- --------------- -------------------
Cash flows from financing activities:
Common stock proceeds, net 50,771,781 10,000 5,000
Note payable to related party 1,200,000 -- --
Revolving line of credit with related party 500,000 -- --
Term loan with related party 250,000 -- --
Repayment of note payable to related party (1,200,000) -- --
Repayment of line of credit with related party (500,000) -- --
Repayment of term loan with related party (250,000) -- --
Repayment of subordinated term loan to LCN (2,000,000) -- --
Repayment of term loan with Pacific Bell
Systems (125,000) -- --
--------------- --------------- -------------------
Net cash from financing activities 48,646,781 10,000 5,000
--------------- --------------- -------------------
Increase in cash and cash equivalents 42,715,136 2,114,960 391
Cash and cash equivalents at beginning of period 2,115,351 391 --
--------------- --------------- -------------------
Cash and cash equivalents at end of period $ 44,830,487 $ 2,115,351 $ 391
=============== =============== ===================
Supplemental disclosure of cash flow information:
Cash paid for interest $ 251,628 $ 3,278 $ --
=============== =============== ===================
</TABLE>
The accompanying notes are an interal part of these financial statements.
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
FOR DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
1. THE COMPANY
SmarTalk TeleServices, Inc. (the "Company") was incorporated on
October 28, 1994. The Company provides prepaid telecommunication services
to customers through its proprietary switching platforms. The Company's
revenues originate from customer usage of the Company's services.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Accounting Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets, and liabilities
and disclosures of contingent assets and liabilities at the date of the
financial statements, and reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates.
Cash and Cash Equivalents
Cash and cash equivalents are composed of highly liquid investments
with an original maturity of three months or less, with interest rates
varying from 2.31% to 7.64%. In accordance with Statement of Financial
Accounting Standards No. 115, "Accounting for Certain Investments in Debt
and Equity Securities," the investments are stated at the lower of cost or
market value, as the Company intends to hold the investments to maturity.
Restricted cash was $121,086 at December 31, 1996.
Other Assets
Other assets consist primarily of the cost of cards and commissions
related to deferred revenue, and various prepaid license fees. Generally,
the Company transfers the cost of cards from inventory to deferred card
costs upon shipment to the retailer. Additionally, the Company records
commissions as a percentage of the value of goods shipped as deferred
commissions. The deferred card costs and commissions are expensed as
services are utilized by the customer and, accordingly, are matched with
the revenues recognized under the Company's revenue recognition policy.
License fees relate to prepaid software, hardware and technology licensing
agreements. The license fees are to be expensed within one year.
Property and Equipment
Property and equipment is stated at cost. Depreciation is computed
using principally the straight-line method over the estimated useful lives
of the related assets, ranging from three to ten years.
Accrued Marketing Costs
Accrued marketing costs include trade and consumer advertising. These
costs are expensed as incurred.
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
FOR DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
Other Accrued Expenses
Other accrued expenses include the cost of sales commissions, and
sales and use taxes.
Revenue Recognition and Deferred Revenue
The Company's revenue originates from customer usage of (i) Company
and co-branded phone cards sold through retailers, (ii) recharges of
existing phone cards, (iii) cards sold for promotional marketing
campaigns, (iv) corporate sales to businesses, and (v) prepaid phone card
services provided to one of the Company's strategic partners, West
Interactive Corporation. Sales to this strategic partner were
approximately 37% of revenues for the year ended December 31, 1996. The
Company provided no services under this arrangement in either 1995 or
1994.
Under the majority of agreements with retailers, the Company sells
cards to the retailer at a fixed price with normal credit terms. When the
retailer is invoiced, deferred revenue is recognized. The Company
recognizes revenue and reduces the deferred revenue account as the end
user utilizes calling time and upon expiration of cards containing unused
calling time. The Company also recognizes deferred revenue upon recharge
of existing phone cards and recognizes revenue upon usage or expiration of
the recharge minutes.
All prepaid phone cards sold by the Company have expiration dates and
expire as of that date if never activated or six months after the initial
activation unless recharged. Revenue recognized from cards expiring was
$1,774,972 and less than $36,000 for the years ended December 31, 1996 and
1995, respectively, and zero for the period ended December 31, 1994.
Stock Split
On February 15, 1996, the Board of Directors declared a 3,500 for 1
stock split distributable on February 13, 1996 to shareholders of record
on February 13, 1996. Further, on May 23, 1996, the Board of Directors
declared a 2.51 to 1 stock split distributable on May 23, 1996 to
shareholders of record on that date. Further, on August 15, 1996, the
Company effected a 0.5625 reverse stock split distributable on August 15,
1996 to shareholders of record on that date. In this report, all per share
amounts and numbers of shares have been restated to reflect the stock
splits.
Net Loss per Share
Net loss per share is based on the weighted average number of common
shares and common stock equivalents outstanding during each period after
retroactive adjustment for the stock split (see above). Common stock
equivalents include dilutive stock options, if any, using the treasury
stock method based on the estimated initial public offering price prior to
the initial public offering, and based on market price subsequent to the
initial public offering. Stock options issued in 1996 have been shown as
outstanding for all periods presented.
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
FOR DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
Fair Value of Financial Instruments
Statement of Financial Accounting Standards No. 107, "Disclosures
About Fair Value of Financial Instruments" requires the determination of
fair value for certain of the Company's assets and liabilities. The
Company estimates that the carrying value of its financial instruments
approximates fair value at December 31, 1996 and 1995.
Long-Lived Assets
In 1995, the Company adopted SFAS No. 121, "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed
of." SFAS No. 121 establishes accounting standards for the impairment of
long-lived assets, certain identifiable intangibles, and goodwill related
to those assets to be held and used for long-lived assets and certain
identifiable intangibles to be disposed of. The effect of adopting SFAS
No. 121 was not material.
The Company periodically reviews the values assigned to long-lived
assets, such as property and equipment and software costs, to determine
whether any impairments are other than temporary. Management believes that
the long-lived assets in the accompanying balance sheets are appropriately
valued.
Regulation
The Company is subject to regulation by the Federal Communications
Commission and by various state public service and public utility
commissions. The Company's management and regulatory legal counsel believe
the Company is in compliance with these regulations.
Reclassifications
Certain reclassifications have been made to the amounts presented for
1995 and 1994 to conform to the presentation for 1996.
3. COMPOSITION OF CERTAIN BALANCE SHEET ACCOUNTS
Composition of certain balance sheet accounts are as follows:
Inventories:
Inventories are stated at the lower of cost (using the first-in,
first-out (FIFO) method) or market.
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
FOR DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
December 31,
-----------------------------------------
1996 1995
---------------- -----------------
<S> <C> <C>
Phone cards $ 499,636 $ 582,110
Displays 101,384 135,935
================ =================
$ 601,020 $ 718,045
================ =================
Other current assets:
<CAPTION>
December 31,
-----------------------------------------
1996 1995
---------------- -----------------
<S> <C> <C>
Prepaid sales commissions $ 146,066 $ 285,391
Licensing agreements 373,710 --
Deferred card costs 440,911 243,557
Other 722,081 230,770
---------------- -----------------
$ 1,682,768 $ 759,718
================ =================
</TABLE>
Included in other current assets for 1996 is a $666,048 deposit made to
the United States District Court in relation to a dispute with a supplier.
The dispute was settled subsequent to December 31, 1996 for an amount less
than the deposit.
Property and equipment:
<TABLE>
<CAPTION>
December 31,
----------------------------------------
1996 1995
-------------- ----------------
<S> <C> <C>
Computer equipment and software $ 187,242 $ 3,661
Telephone switching equipment 349,847 --
Office equipment and furniture 292,349 825
Leasehold improvements 5,130 --
-------------- ----------------
834,568 4,486
Less: accumulated depreciation 89,820 --
-------------- ----------------
$ 744,748 $ 4,486
============== ================
</TABLE>
Depreciation expense was $89,820 for the year ended December 31, 1996
and zero for the year and period ended December 31, 1995 and 1994,
respectively.
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
FOR DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
4. INCOME TAXES
The difference between the statutory federal income tax rate and the
Company's effective income tax rate applied to loss before income taxes
was as follows for the years ended December 31, 1996 and 1995 and the
period ended December 31, 1994:
<TABLE>
<CAPTION>
December 31,
---------------------------------------
1996 1995 1994
-------- -------- -------
<S> <C> <C> <C>
Statutory federal tax rate on loss (34)% (34)% (34)%
State tax provision, net of federal benefit (for 1996) (6)% (6)% (6)%
Operating losses with no current tax benefit 40 % 40 % 40 %
-------- -------- -------
Income taxes at the Company's effective rate 0 % 0 % 0 %
======== ======== =======
</TABLE>
The major components of deferred tax assets arising from temporary
differences at December 31, 1996 and 1995 are as follows:
<TABLE>
<CAPTION>
December 31,
-----------------------------------------------
1996 1995
------------------- -------------------
<S> <C> <C>
Deferred revenue $ 507,000 $ 417,000
Net operating loss carry forwards 1,240,000 68,000
Other 74,000 115,000
------------------- -------------------
Subtotal 1,821,000 600,000
Valuation allowance (1,821,000) (600,000)
------------------- -------------------
Total deferred taxes $ 0 $ 0
=================== ===================
</TABLE>
The Company had net operating loss carryforwards of approximately
$3,101,000, and $1,396,786 for federal and state purposes for the years ended
December 31, 1996 and 1995, respectively, and $65,472 for the period ended
December 31, 1994. To the extent not used, net operating loss carryforwards
expire in varying amounts beginning in the year 2010 for federal tax purposes
and 2002 for state purposes. If substantial changes in the Company's ownership
should occur, there may be an annual limitation on the amount of the
carryforwards which can be utilized.
Under SFAS No. 109, the Company has recorded valuation allowances against
the realization of deferred tax assets. The valuation allowances are based on
management's
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
FOR DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
estimates and analysis, which include the impact of tax laws which may
limit the Company's ability to utilize such deferred tax assets.
5. RELATED PARTIES
Purchase of Assets of Related Entity
In January 1996, the Company purchased certain of the assets of Lorsch
Creative Network, Inc. ("LCN") that had historical net book value of
$35,972. LCN's sole shareholder is the majority shareholder of the
Company's common stock. Minority shareholders of the Company consented to
the transaction. The purchase was consummated in January 1996 for $500,000
cash plus a $2,000,000 subordinated term note which was repaid in November
1996. Because the assets were purchased from a related party, the assets
are reflected on the Company's balance sheet at LCN's historical
depreciated cost as of the date of the acquisition. The excess of
acquisition cost over the historical cost less depreciation of the assets
acquired of approximately $2,464,028 was recorded as a charge to the
Company's accumulated deficit in 1996 in a manner similar to a capital
distribution. In addition, prior to the purchase, LCN provided consulting
and other services to the Company for which it billed approximately
$415,000 and $25,000 for the year ended December 31, 1995 and for the
period ended December 31, 1994, respectively. Amounts were billed on an
hourly basis for consulting and other services performed by LCN employees
on behalf of SmarTalk.
Amounts billed and services rendered by LCN are as follows:
<TABLE>
<CAPTION>
1995 1994
--------------- ---------------
<S> <C> <C>
Marketing and product development $ 85,000 $ 25,000
Software development 70,000 --
Management consulting 200,000 --
Other 60,000 --
--------------- ---------------
Total $ 415,000 $ 25,000
=============== ===============
</TABLE>
On December 28, 1995, the Company entered into an agreement with
SmarTalk Partners, LLC ("SP") under which SP agreed to loan the Company
$1,200,000, provide the Company with a $500,000 line of credit, and to
purchase 2,647,449 shares of the Company's common stock for $300,000. On
August 9, 1996, the Company obtained an additional loan from SP for
$250,000. All loans have been repaid and the Company has no outstanding
debt as of December 31, 1996.
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
FOR DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
6. STOCK PLANS
The Company applies APB 25 and related interpretations in accounting
for its plans. Accordingly, no compensation expense has been recognized
for its stock option plans (except as noted below). Had compensation cost
been determined in accordance with the methodology prescribed by FAS 123,
the Company's net loss and net loss per share would have been increased by
approximately $157,000 ($.02 per share) in 1996 and $0 in 1995. The
weighted average fair value of the options granted in 1996 and 1995 is
estimated at $3.43 and $0, respectively on the date of grant calculated
under the minimum value method using the following assumptions:
<TABLE>
<CAPTION>
1996 1995
---- ----
<S> <C> <C>
. Risk Free Interest Rate 6.1% --
. Expected Life (In Years) 2 --
. Expected Dividend Yield -- --
</TABLE>
Information concerning options outstanding under the Plans for the
year ended December 31, 1996 is as follows:
<TABLE>
<CAPTION>
Option Price Number of
per Share Shares
---------------------- ----------------------
<S> <C> <C>
Balance at December 31, 1995 -- --
Options granted $1.77 - $4.44 510,514
Options exercised $1.77 (4,625)
Options canceled or expired -- --
----------------------
Balance at December 31, 1996 $1.77 - $4.44 505,889
======================
</TABLE>
Options outstanding at December 31, 1996 had a weighted-average
exercise price of $3.72 and a weighted average-remaining contractual life
of 2.1 years.
At December 31, 1996 an option to purchase 2000 shares of Common
Stock was currently exercisable at a price of $2.50.
The Company has the following stock based plans at December 31, 1996.
The programs are described as follows:
1996 Nonqualified Stock Option Plan
In March 1996, the Board of Directors adopted the Company's 1996
Non-Qualified Stock Option Plan (the "Non-Qualified Plan"), whereby
incentive stock options and non-qualifying stock options may be granted to
employees, officers, directors, consultants, advisors, or agents of the
Company. Options to purchase the Company's common stock are exercisable at
a price not less than the fair market value of the stock at the date of
grant and for a term not to exceed 10 years. Further, the options vest
over a period ranging from 61 days to 3 years from the anniversary of the
grant. Pursuant to the Non-Qualified Plan, the lesser of (i) 7,087,991
shares of common stock or (ii) the number of shares of common stock equal
to 9% of the total issued and outstanding shares of Common Stock minus
the number of shares of common stock issued or issuable pursuant to
options exercised or outstanding under any other stock option plan of the
Company.
The Company vested 2,000 shares of an employee's options at an option
price of $2.50 per share in September of 1996 resulting in compensation
expense of $24,000.
At December 31, 1996, 644,137 shares remain reserved for issuance
under the plan. However, the Company anticipates that it will not issue
any additional options under the Non-Qualified Plan.
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
FOR DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
1996 Stock Incentive Plan
In August, 1996, the board of directors adopted and the shareholders
of the Company approved the 1996 Stock Incentive Plan, whereby the
Compensation Committee may make awards to directors, employees, advisors
and consultants of the Company and its subsidiaries. Pursuant to the Stock
Incentive Plan, the Company has authorized and reserved a number of shares
of common stock for issuance equal to the lessor of (i) 7,087,991 shares
of common stock or (ii) a number of shares of common stock equal to 9% of
the total issued and outstanding shares of common stock minus the number
of shares of common stock issued or issuable pursuant to options exercised
or outstanding under the 1996 Nonqualified Plan.
Non qualified stock options may be granted to employees, consultants,
and advisors of the Company and its subsidiaries and incentive stock
options may be only granted to employees of the Company and its
subsidiaries. The exercise price of an incentive stock option may not be
less than the fair market value of the common stock on the date of the
grant. The value of common stock (determined at the time of grant) that
may be subject to incentive stock options that become exercisable by any
one employee in any one year is limited by the Internal Revenue Code to
$100,000. The maximum term of stock options granted under the 1996 Plan is
10 years from the date of grant. At December 31, 1996, 644,137 shares
remain reserved for issuance under the Plan.
Stock Appreciation Rights
A stock appreciation right may be granted in connection with an
option, either at the time of grant or at any time thereafter during the
term of the option. A stock appreciation right granted in connection with
an option entitles the holder, upon exercise, to surrender the related
option and receive a payment based on the difference between the exercise
price of the related option and the fair market value of the Company's
common stock on the date of exercise. A stock appreciation right granted
in connection with an option is exercisable only at such time or times as
the related option is exercisable and expires no later than when the
related option expires. A stock appreciation right also may be granted
without relationship to an option and will be exercisable as determined by
the Committee but, in no event, after ten years from the date of grant. A
stock appreciation right granted without relationship to an option
entitles the holder, upon exercise, to a payment based on the difference
between the base price assigned to the stock appreciation right by the
Committee on the date of grant and the fair market value of the Company's
common stock on the date of exercise. Payment to the holder in connection
with the exercise of a stock appreciation right may be in cash or shares
of common stock or in a combination of cash and shares. At December 31,
1996, no stock appreciation rights had been granted.
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
FOR DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
Restricted Stock Awards
The Compensation Committee may award shares of common stock to
participants under the 1996 Plan, subject to such restrictions on transfer
and conditions of forfeitures as it deems appropriate. Such conditions may
include requirements as to the continued service of the participant with
the Company, the attainment of specified performance goals or any other
conditions determined by the Committee. Subject to the transfer
restrictions and forfeiture restrictions relating to the restricted stock
award, the participant will otherwise have the rights of a stockholder of
the Company, including all voting and dividend rights, during the period
of restriction. At December 31, 1996, no restricted stock awards had been
granted.
Performance Awards
The Compensation Committee may grant performance awards denominated in
specified units ("Performance Units") or in shares of common stock
("Performance Shares"). Performance awards are payable upon the
achievement of performance goals established by the Committee at the
beginning of the performance period, which may not exceed ten years from
the date of grant. At the time of grant, the Committee establishes the
number of units or shares, the duration of the performance period, the
applicable performance goals and, in the case of performance units, the
potential payment or range of payments for the performance awards. At the
end of the performance period, the Committee determines the payment to be
made based on the extent to which the performance goals have been
achieved. The Committee may consider significant unforeseen events during
the performance period when making the final award. Payments may be made
in cash or shares of common stock or in a combination of cash and shares.
At December 31, 1996, no performance shares had been granted.
Phantom Stock
An award of phantom stock gives the participant the right to receive
cash at the end of a fixed vesting period based on the value of a share of
common stock at that time. Phantom stock units are subject to such
restrictions and conditions to payment as the Committee determines are
appropriate. At the time of grant, the Committee determines, at its sole
discretion, the number of units and the vesting period of the units, and
it may also set a maximum value of a unit. If the participants remain
employed by the Company throughout the applicable vesting period, they are
entitled to receive payment of a cash amount for each phantom stock unit
equal in value to the fair market value of one share of common stock on
the last day of the vesting period, subject to any maximum value
limitation. At December 31, 1996, no phantom stock had been granted.
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
FOR DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
7. COMMITMENTS
Telecommunication Service Agreements
The Company has a minute volume commitment with one of its service
providers which, if not met, could require the Company to make payments to
such provider. If the Company fails to meet this commitment, operating
results could be adversely impacted. Based on current run rates, the
Company anticipates that it will fulfill this commitment.
License Agreements
On November 1, 1996, the Company entered into an agreement with
AudioFax IP LLC to license certain fax technology patents. Under this
agreement, the Company paid a one-time license origination fee and is
required to pay a per transaction fee as fax services are provided. The
license expires contemporaneously with the patents.
Employment Agreements
The Company has entered into employment agreements with certain
executive personnel. The arrangements provide for the continuation of
compensation (as defined) for up to three years from the date of
termination.
Operating Leases
The Company entered into a lease agreement on January 10, 1996 to
lease office space in Los Angeles, California. Lease payments commenced on
March 1, 1996 and end March 31, 2002. Additionally, the Company entered
into a lease agreement on November 20, 1996 to lease space in San
Francisco, California to house its switch platform. Lease payments under
this lease commenced December 1, 1996 and end January 31, 1999.
The future minimum annual rentals under these leases at December 31,
1996 are as follows: 1997 - $235,438, 1998 - $271,032, 1999 - $200,731,
2000 - $194,340, 2001 and thereafter - $226,730.
Revolving Credit Facility
The Company has an undrawn $1,000,000 revolving credit facility with a
bank. The Company has no outstanding debt at December 31, 1996.
8. PURCHASE OF VOICECHOICE PLATFORM
In June 1996, the Company acquired an interactive voice response
platform facility known as the VoiceChoice Platform from Pacific Bell
Information Services for total
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS
FOR DECEMBER 31, 1996 AND 1995
- --------------------------------------------------------------------------------
consideration of $325,000, plus other consideration including the release
of certain contractual obligations of Pacific Bell Information Services to
the Company. The purchase price was recorded at $325,000, comprised of
$200,000 in cash and a $125,000 note which was subsequently paid in full
prior to maturity. The Company was informed by Pacific Bell Information
Services that the platform facility was constructed in 1994 at an original
cost of approximately $1,648,000. The assets acquired include multiple
switches, inbound and outbound access ports for prepaid and corporate
calling services, voice response applications, high-speed database
servers, voice recording capability and credit card verification software.
The Company acquired the VoiceChoice Platform to enable it to provide
additional services, such as stand-alone interactive voice services, and
to reduce call handling costs.
9. INITIAL PUBLIC OFFERING
On October 23, 1996, the Company completed the sale of 4,000,000
shares of its stock in a public offering. The Company raised net proceeds
of $50,471,781 after deducting the underwriting discount and other related
costs. A portion of the proceeds was used to repay all of the Company's
outstanding loans.
10. SUBSEQUENT EVENTS
On January 1, 1997, the Company entered into an agreement with Ronald
A. Katz Technology Licensing, L.P. to license certain automated
transaction processing utilizing telecommunication facilities patents.
Under this agreement, the Company paid a one-time license origination fee
and is required to pay a per transaction fee as services are used. The
license expires contemporaneously with the patents.
<PAGE>
SmarTalk Teleservices, Inc.
- --------------------------------------------------------------------------------
11. SUPPLEMENTARY DATA (UNAUDITED)
<TABLE>
<CAPTION>
For the Year Ended December 31, 1996
---------------------------------------------------------------------------------------
First Second Third Fourth
Quarter Quarter Quarter Quarter Total
---------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATING DATA:
Revenue $ 1,139,366 $ 2,538,655 $ 4,588,843 $ 6,754,196 $ 15,021,060
Gross profit $ 326,488 $ 609,417 $ 1,129,404 $ 2,756,780 $ 4,822,089
Operating expenses $ 1,358,347 $ 1,744,372 $ 2,209,324 $ 2,814,318 $ 8,126,361
Loss from operations $ (1,031,859) $ (1,134,955) $ (1,079,920) $ (57,538) $ (3,304,272)
Net (loss) income $ (1,076,672) $ (1,194,514) $ (1,162,184) $ 320,822 $ (3,112,548)
Net (loss) income per share $ (0.12) $ (0.13) $ (0.12) $ 0.03 $ (0.31)
Weighted average number of
common shares 9,335,348 9,335,348 9,335,348 12,378,826 10,100,375
</TABLE>
<TABLE>
<CAPTION>
For the Year Ended December 31, 1995
---------------------------------------------------------------------------------------
First Second Third Fourth
Quarter Quarter Quarter Quarter Total
---------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATING DATA(1):
Revenue $ 2,564 $ 39,174 $ 185,900 $ 226,278 $ 453,916
Gross profit $ 771 $ 11,056 $ 56,042 $ 67,361 $ 135,230
Operating expenses $ 113,309 $ 183,954 $ 240,920 $ 928,360 $ 1,466,544
Loss from operations $ (112,538) $ (172,899) $ (184,878) $ (861,999) $ (1,331,314)
Net loss $ (112,538) $ (172,899) $ (186,409) $ (857,456) $ (1,329,302)
Net loss per share $ (0.01) $ (0.02) $ (0.02) $ (0.09) $ (0.14)
Weighted average number of
common shares 9,335,348 9,335,348 9,335,348 9,335,348 9,335,348
</TABLE>
<PAGE>
SmarTalk TeleServices, Inc.
- --------------------------------------------------------------------------------
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS OF ACCOUNTING AND
- ------- ---------------------------------------------------------------
FINANCIAL DISCLOSURE.
---------------------
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required by this item regarding directors and executive
officers of the Company is set forth in the Company's definitive Proxy Statement
(the "1997 Proxy Statement") to be filed with the Commission relating to its
Annual Meeting of Stockholders to be held on May 15, 1997, under the headings
"Nominees for Election as Directors," "Other Executive Officers of the Company"
and "Compliance with Section 16(a) of the Exchange Act," and is incorporated
herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item regarding compensation of the
Company's directors and executive officers set forth in the 1997 Proxy
Statement under the heading, "Executive Compensation," is incorporated herein by
reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS
AND MANAGEMENT
The information required by this item regarding beneficial ownership of the
common stock by certain beneficial owners and by management of the Company set
forth in the 1997 Proxy Statement under the heading, "Security Ownership of
Certain Beneficial Owners and Management" is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item regarding certain relationships and
related transactions with management of the Company set forth in the 1997 Proxy
Statement under the heading, "Compensation Committee Interlocks and Insider
Participation," is incorporated herein by reference.
<PAGE>
SmarTalk TeleServices, Inc.
- --------------------------------------------------------------------------------
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
Documents filed with this report Page #
- -------------------------------- ------
(a)(1) Financial Statements
Independent Auditors Report
Balance Sheets as of December 31, 1996 and 1995.
Statements of Operations for the years ended December 31, 1996 and 1995
and the period October 28, 1994 (inception) through December 31, 1994
Statements of Shareholders' Equity (Deficit) for the years ended
December 31, 1996 and 1995, and the period October 28, 1994
(inception) through December 31, 1994
Statements of Cash Flows for the year ended December 31, 1996 and 1995
and the period October 28, 1994 (inception) through December 31, 1994.
Notes to Financial Statements
(a)(2) Financial Statement Schedules
All Schedules are omitted since the required information is not
present in amounts sufficient to require submission of the Schedule, or because
the information required is included in the Financial Statements and notes
thereto.
(b) Reports on Form 8-K
No reports on Form 8-K were filed during 1996.
(c) Exhibits:
The Exhibits listed on the accompanying Index to Exhibits are
filed as part of this Form 10-K. Management contracts or compensatory plans or
arrangements required to be filed as exhibits to this report pursuant to Item
14(c) of Form 10-K are identified on the Index to Exhibits by a double asterisk
(**).
<PAGE>
SmarTalk TeleServices, Inc.
- --------------------------------------------------------------------------------
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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, in the City of Garden
Grove, State of California, on March 26, 1996.
SMARTALK TELESERVICES, INC.
By /s/ Glen Andrew Folck
----------------------------------------------
Glen Andrew Folck
Vice President of Finance, Chief Financial
Officer and Asst. Secretary
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
<TABLE>
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
/s/ Robert H. Lorsch Chairman of the Board, President, March 26, 1997
- -------------------- Chief Executive Officer (Principal
Robert H. Lorsch Executive Officer)
/s/ Glen Andrew Folck Vice President of Finance, Chief March 26, 1997
- --------------------- Financial Officer and Asst.
Glen Andrew Folck Secretary (Principal Financial
Officer)
/s/ Ahmed O. Alfi Director March 26, 1997
- -----------------
Ahmed O. Alfi.
/s/ Fred F. Fielding Director March 26, 1997
- ---------------------
Fred F. Fielding
/s/ Jeffrey I. Scheinrock Director March 26, 1997
- -------------------------
Jeffrey I. Scheinrock
/s/ Lloyd S. Zeiderman Director March 26, 1997
- ----------------------
Lloyd S. Zeiderman
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
SmarTalk TeleServices, Inc.
- -----------------------------------------------------------------------------------------------------------------------------------
EXHIBIT INDEX
EXHIBIT
NUMBER DESCRIPTION
- ------ -----------
<C> <S>
2.1 Agreement between SmarTalk TeleServices, Inc. and Lorsch Creative Network, Inc. dated December 28, 1995.(1)
3.1 Amended and Restated Articles of Incorporation.(1)
3.2 Amended and Restated Bylaws.(1)
4.1 Registration Rights Agreement.(1)
4.2 Specimen Stock Certificate.(1)
10.1 Loan and Investment Agreement dated December 28, 1995 among SmarTalk TeleServices, Inc., SmarTalk Partners, LLC and
Robert H. Lorsch.(1)
10.2 Promissory Note in the amount of $1,200,000 dated December 28, 1995 made by SmarTalk TeleServices, Inc. in favor of
SmarTalk Partners, LLC.(1)
10.3 Security Agreement dated December 28, 1995 between SmarTalk TeleServices, Inc. and SmarTalk Partners, LLC.(1)
10.4 Revolving Line of Credit Note in the amount of $500,000 dated December 28, 1995 made by SmarTalk TeleServices, Inc. in
favor of SmarTalk Partners, LLC.(1)
10.5 Subordinated Promissory Note in the amount of $2,000,000 dated January 1, 1996 by SmarTalk TeleServices, Inc. in
favor of Lorsch Creative Network, Inc.(1)
10.6 Subordination Agreement dated January 1, 1996 between SmarTalk TeleServices, Inc. and Lorsch Creative Network, Inc.(1)
10.7 Security Agreement dated August 9, 1996 between SmarTalk TeleServices, Inc. and Lorsch Creative Network, Inc.(1)
10.8 Employment Agreement between SmarTalk TeleServices, Inc. and Robert H. Lorsch.(1) **
10.9 Employment Agreement between SmarTalk TeleServices, Inc. and Richard M. Teich.(1) **
10.10 Form of Indemnification Agreement dated October 28, 1994 between SmarTalk TeleServices, Inc. and certain management
personnel.(1) **
10.11 1996 Nonqualified Stock Option Plan.(1) **
10.12 1996 Stock Incentive Plan.(1) **
10.13 Standard Office Lease by and between LAOP IV, LLC and SmarTalk TeleServices, Inc., dated January 10, 1996,
as amended on January 16, 1996, February 7, 1996 and April 19, 1996.(1)
10.14 Carrier Agreement dated November 9, 1995 between the Registrant and MCI Telecommunications Corporation.(1)*
10.15 First Amendment to Carrier Agreement dated March 2, 1996 between SmarTalk TeleServices, Inc. and
MCI Telecommunications Corporation.(1)*
10.16 Second Amendment to Carrier Agreement dated September 9, 1996 between SmarTalk TeleServices, Inc. and MCI
Telecommunications Corporation.(1)*
10.17 Agreement dated October 4, 1995 between SmarTalk TeleServices, Inc. and West Interactive Corporation.(1)*
10.18 Security Agreement dated August 9, 1996 between SmarTalk TeleServices, Inc. and SmarTalk Partners, LLC.(1)
10.19 Subordination Agreement dated August 9, 1996 among Lorsch Creative Network, Inc., SmarTalk TeleServices, Inc. and
SmarTalk Partners, LLC.(1)
10.20 Promissory Note in the amount of $250,000 dated August 9, 1996 between SmarTalk TeleServices, Inc. and
SmarTalk Partners, LLC.(1)
10.21 Prepaid Carrier Referral Program Agreement between MCI Telecommunications Corporation and
SmarTalk TeleServices, Inc., dated June 21, 1996.(1)*
10.22 Wholesale Distribution Agreement between West Interactive Corporation and SmarTalk TeleServices, Inc. dated
June 1, 1996.(1)*
10.23 Loan Agreement dated September 18, 1996 between Southern California Bank and SmarTalk TeleServices, Inc.(1)
10.24 Promissory Note in the amount of $1,000,000 dated September 18, 1996 between Southern California Bank and
SmarTalk TeleServices, Inc.(1)
10.25 Commercial Security Agreement in the amount of $1,000,000 dated September 18, 1996 between Southern California Bank
and SmarTalk TeleServices, Inc.(1)
10.26 Assignment of Lease by and between Pacific Bell Information Services and SmarTalk TeleServices, Inc. dated as of
December 1, 1996.
27.1 Financial Data Schedule.
</TABLE>
- ---------
* Confidential treatment has been granted. The copy filed as an
exhibit omits information subject to the confidentiality request.
** Management contracts or compensatory plans or arrangements
required to be filed as exhibits to this report pursuant to Item
14(c) of Form 10-K.
(1) Incorporated by reference to SmarTalk's Registration Statement on
Form S-1, registration number 333-10391, filed with the Securities
and Exchange Commission on August 19, 1996 and the amendments
thereto.
<PAGE>
EXHIBIT 10.26
ASSIGNMENT OF LEASE
This Assignment of Lease ("Assignment"), effective December 1, 1996, by and
between Pacific Bell Information Services, a California corporation,
("Assignor") and SmarTalk Teleservices, Inc., a California corporation
("Assignee").
Recitals
WHEREAS, WTR Properties, as Lessor, and Pacific Bell Information Services
as Lessee, entered a lease on January 21, 1994, (the "Lease"); and
WHEREAS, the leased premises are located at 124 Beale Street, 5th Floor,
Suite 500, San Francisco; and
WHEREAS, the term of the lease, is for a period of 5 years and 7 days,
commencing on January 24, 1994 and ending on January 31, 1999 subject to earlier
termination as provided in the lease; and
WHEREAS, Assignor desires to assign the Lease to Assignee, and Assignee
desires to accept the assignment of lease; and
NOW THEREFORE, Assignor and Assignee agree as follows.
Assignment
For value received, Assignor assigns and transfers to Assignee all of
Assignor's right, title, and interest in and to the Lease attached hereto and
incorporated by reference herein as Exhibit A. Assignee agrees to and does
accept the assignment. Assignee expressly assumes and agrees to keep, perform,
and fulfill all the terms, covenants, conditions, and obligations, required to
be kept, performed, and fulfilled by Assignor as Lessee under the lease,
including the making of all payments due to or payable on behalf of Lessor under
the Lease when due and payable.
As further consideration for this Assignment, Assignee agrees to pay to
Lessor, as a security deposit, five (5) months base rent in the amount of
$29,216.00 ("Security Deposit"). The parties agree that the Security Deposit
shall be applied to four (4) consecutive months of base rental payments
commencing on December 1, 1996. The balance of the Security Deposit shall be
returned to Assignee at the end of term of the Lease, provided that such amount
has not been previously applied by Lessor to offset any amounts owed
by Assignee under the Lease, or Assignee has not otherwise defaulted under the
Lease. A copy of Lessor's standard provision on Security Deposit is attached
hereto and made a part hereof (Exhibit B). Assignee shall pay such consideration
to Lessor upon execution of this Assignment.
1
<PAGE>
(SIGNATURE PAGE FOLLOWS)
IN WITNESS WHEREOF, the parties have executed this Assignment of Lease on
the respective dates indicated below.
ASSIGNOR: ASSIGNEE:
PACIFIC BELL SMARTALK
INFORMATION SERVICES TELESERVICES, INC.
/s/ Richard Collins /s/ Robert H. Lorsch
- -------------------- --------------------
Richard Collins Robert H. Lorsch
- -------------------- --------------------
type or print name type or print name
Title: Title: President and CEO
-------------- -----------------
Date: Date:
--------------- -------------------
2
<PAGE>
124 BEALE STREET
SAN FRANCISCO, CALIFORNIA
OFFICE LEASE
BASIC LEASE INFORMATION
DATE: January 21, 1994
LESSOR: WTR Properties, Inc.
LESSOR'S ADDRESS: USL Property Management, Inc.
500 Sutter Street, Suite 418
San Francisco, California 94102
LESSEE: Pacific Bell Information Services
LESSEE'S ADDRESS: 3401 Crow Canyon Road, Room 2010E
San Ramon, CA 94583
LESSEE'S CONTACT: Telephone:
PREMISES: Floor: 5th Suite 500
TOTAL RENTABLE SQUARE FOOTAGE: Approximately 5,478 rentable sq. ft.
LESSEE'S PROPORTIONATE SHARE: 19.94%
BASE YEAR: 1994
COMMENCEMENT DATE: January 24, 1994
EXPIRATION DATE: January 31, 1999
BASE RENTAL: 1st lease year: $10/sq.ft./annum;
2nd lease year: $11/sq.ft./annum;
3rd lease year: $12/sq.ft./annum;
4th lease year: $13/sq.ft./annum;
5th lease year: $14/sq.ft./annum
SECURITY DEPOSIT: None
The Basic Lease Information shall be read as one document with the Office Lease
and in the event of any conflict between the Basic Lease Information and the
Office Lease, the later shall control.
Lessor Lessee
WTR PROPERTIES, INC. PACIFIC BELL INFORMATION SERVICES
By: /s/ William W. F. Sin By: /s/ J. J. Appel
----------------------------- -------------------------
William W. F. Sin J. J. Appel
Authorized Representative Authorized Representative
Date: January 26, 1994
----------------
<PAGE>
CONSENT OF LESSOR
The undersigned is the Lessor in the Lease described in the above
Assignment and consents to the assignment of Lease to SmarTalk Teleservices,
Inc. Lessor expressly releases Pacific Bell Information Services from all future
obligations imposed on Lessee under the terms of the Lease.
LESSOR
WTR PROPERTIES, INC.
/s/ William W. F. Siu
- ---------------------
William W. F. Siu
President and Chief Executive Officer
Date: November 20, 1996
-----------------
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<CASH> 44,830,487
<SECURITIES> 0
<RECEIVABLES> 2,343,916
<ALLOWANCES> 89,724
<INVENTORY> 601,020
<CURRENT-ASSETS> 49,696,163
<PP&E> 834,568
<DEPRECIATION> 89,820
<TOTAL-ASSETS> 50,531,420
<CURRENT-LIABILITIES> 6,715,989
<BONDS> 0
0
0
<COMMON> 50,786,781
<OTHER-SE> 0
<TOTAL-LIABILITY-AND-EQUITY> 50,531,420
<SALES> 15,021,060
<TOTAL-REVENUES> 15,021,060
<CGS> 10,198,971
<TOTAL-COSTS> 10,198,971
<OTHER-EXPENSES> 8,126,361
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 191,724
<INCOME-PRETAX> (3,112,548)
<INCOME-TAX> 0
<INCOME-CONTINUING> (3,304,272)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (3,112,548)
<EPS-PRIMARY> (.31)
<EPS-DILUTED> (.31)
</TABLE>
