<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarter Ended March 31, 1998 Commission File No. 0-21579
SMARTALK TELESERVICES, INC.
--------------------------
Incorporated under the laws IRS Employer Identification
of California No. 95-4502740
5080 Tuttle Crossing Blvd.
Dublin, Ohio 43017
Telephone: 614-764-2933
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 and (2) has been subject to such filing requirements for
the past 90 days.
Yes X No
----- -----
Indicate the number of shares outstanding of each of the issuer's classes of
common stock at:
Voting, No par value: 22,600,440
As of May 13, 1998
<PAGE>
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SMARTALK TELESERVICES, INC.
BALANCE SHEETS
(UNAUDITED)
<TABLE>
<CAPTION>
March 31, December 31,
----------------- -----------------
ASSETS 1998 1997
----------------- -----------------
<S> <C> <C>
Current assets:
Cash and cash equivalents $ 48,102,465 $ 62,900,673
Trade accounts receivable (less allowance for doubtful
accounts of $593,026 and $182,206, respectively) 35,503,661 32,699,249
Receivable from American Express Company -- 2,570,000
Inventories 6,478,537 4,301,487
Prepaid expenses 1,396,650 1,377,844
Other current assets 7,922,867 7,637,849
----------------- -----------------
Total current assets 99,404,180 111,487,102
Non-current assets:
Property and equipment, net 16,637,656 13,805,984
Intangibles, net 225,677,905 222,536,934
Note receivable from ACMI L.L.C. net 2,493,104 2,234,763
Other non-current assets 20,430,858 10,438,043
----------------- -----------------
Total assets $ 364,643,703 $ 360,502,826
================= =================
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 18,504,292 $ 15,081,532
Deferred revenue 27,825,780 40,248,400
Accrued marketing costs 1,382,574 1,811,817
Accrued interest payable 557,834 2,615,480
Other accrued expenses 9,071,681 5,571,728
Excise and sales tax payable 6,001,222 5,565,072
Restructure reserve 22,729,069 23,943,070
Reserve for discontinued operations 2,700,000 --
Accrued litigation settlement -- 4,500,003
Current portion of long-term debt 7,866,497 7,285,401
----------------- -----------------
Total current liabilities 96,638,949 106,622,503
Long-term debt less current portion 150,874,753 150,874,753
----------------- -----------------
Total liabilities 247,513,702 257,497,256
Shareholders' equity:
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 22,461,749 and 21,350,852 shares, 189,331,351 171,732,584
respectively
Accumulated deficit (72,242,000) (68,870,824)
Cumulative translation adjustment 40,650 143,810
----------------- -----------------
Total shareholders' equity 117,130,001 103,005,570
----------------- -----------------
Total liabilities and shareholders' equity $ 364,643,703 $ 360,502,826
================= =================
</TABLE>
The accompanying notes are an integral part of these financial statements.
2
<PAGE>
SMARTALK TELESERVICES, INC.
STATEMENTS OF OPERATIONS (UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended March 31,
-----------------------------
1998 1997
------------- -------------
<S> <C> <C>
Revenue $ 39,612,521 $ 7,368,333
Cost of revenue 23,908,488 4,760,748
------------ ------------
Gross profit 15,704,033 2,607,585
Sales and marketing 5,450,629 2,545,414
General and administrative 9,084,480 901,231
------------ ------------
Operating income (loss) 1,168,924 (839,060)
Interest income 1,129,006 528,763
Interest expense (2,390,958) --
------------ ------------
Loss from continuing operations before income taxes (93,028) (310,297)
Provision for income taxes -- --
------------ ------------
Loss from continuing operations (93,028) (310,297)
Discontinued operations:
Loss from discontinued operations (578,148) --
Loss on disposal of discontinued operations (2,700,000) --
------------ ------------
Net loss $ (3,371,176) $ (310,297)
============ ============
Per share:
Continuing operations $ (0.00) $ (0.02)
Discontinued operations (0.15) --
------------ ------------
Total basic $ (0.15) $ (0.02)
============ ============
Weighted average number of shares 21,902,362 12,897,674
============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
3
<PAGE>
SMARTALK TELESERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
(UNAUDITED)
<TABLE>
<CAPTION>
COMMON STOCK CUMULATIVE
----------------------- STOCK ACCUMULATED TRANSLATION
SHARES AMOUNT SUBSCRIPTION DEFICIT ADJUSTMENT TOTAL
---------- ------------ ------------ ------------ ----------- ------------
<S> <C> <C> <C> <C> <C> <C>
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
Stock options exercised..... 227,398 851,485 -- -- -- 851,485
Distribution agreement...... 330,205 7,596,093 -- -- -- 7,596,093
Acquisitions:
ConQuest Telecommunications. 4,488,935 64,528,441 -- -- -- 64,528,441
GTI Telecom, Inc............ 2,580,001 34,830,000 -- -- -- 34,830,000
SmarTel Telecommunications.. 714,286 9,375,004 -- -- -- 9,375,004
Cardinal VoiceCard Ltd...... 115,000 2,170,625 -- -- -- 2,170,625
Frontier Selected Assets.... 65,568 1,594,155 -- -- -- 1,594,155
Cumulative translation
adjustment................. -- -- -- -- 143,810 143,810
Net loss.................... -- -- -- (61,899,474) -- (61,899,474)
---------- ------------ --------- ------------ -------- ------------
December 31, 1997............. 21,350,852 171,732,584 -- (68,870,824) 143,810 103,005,570
Licensing agreement......... 100,000 3,056,300 -- -- -- 3,056,300
USA Telecommunications
Services, Inc.............. 81,302 2,500,037 -- -- -- 2,500,037
Cumulative translation
adjustment................. -- -- -- -- (103,160) (103,160)
Litigation settlement....... 215,569 4,500,003 -- -- -- 4,500,003
Stock options exercised..... 714,026 7,542,427 -- -- -- 7,542,427
Net loss.................... -- -- -- (3,371,176) -- (3,371,176)
---------- ------------ --------- ------------ -------- ------------
March 31, 1998................ 22,461,749 $189,331,351 $ -- $(72,242,000) $ 40,650 $117,130,001
========== ============ ========= ============ ======== ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
4
<PAGE>
SMARTALK TELESERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
Three Months Ended March 31,
-----------------------------
1998 1997
------------- ------------
<S> <C> <C>
Cash flows from operating activities:
Net loss.................................................................................. $ (3,371,176) (310,297)
Adjustments to reconcile net loss to net cash used by operating activities:
Depreciation............................................................................. 474,473 43,355
Amortization............................................................................. 2,553,558 --
Loss from discontinued operations........................................................ 2,700,000 --
Provision for bad debt................................................................... 410,820 --
Lease termination fee.................................................................... -- (325,810)
Changes in assets and liabilities, net of effects from acquisitions, dispositions,
and foreign currency adjustments which increase (decrease) cash:
Trade accounts receivable............................................................... (3,201,804) (650,273)
Inventories............................................................................. (2,074,880) (208,217)
Prepaid expenses........................................................................ (18,804) (133,196)
Other current assets.................................................................... 733,746 (248,843)
Other non-current assets................................................................ (7,874,217) (66,947)
Accounts payable........................................................................ 3,409,555 (760,559)
Deferred revenue........................................................................ (12,422,620) (61,549)
Accrued marketing costs................................................................. (429,243) (136,931)
Accrued interest........................................................................ (2,057,646) --
Other accrued expenses.................................................................. 3,302,681 (124,257)
Restructure reserve..................................................................... (1,214,001) --
Litigation settlement in connection with ConQuest acquisition........................... (4,500,003) --
Excise and sales tax payable............................................................ 436,150 30,462
------------ ------------
Net cash used by operating activities.................................................... (23,143,411) (2,953,062)
------------ ------------
Cash flows from investing activities:
Note receivable from ACMI, L.L.C......................................................... (258,341) --
Capital expenditures..................................................................... (3,217,949) (96,423)
Litigation settlement in connection with ConQuest acquisition............................ 4,500,003 --
Acquisition costs, net of cash acquired.................................................. (90,645) --
------------ ------------
Net cash provided (used) by investing activities........................................ 933,068 (96,423)
------------ ------------
Cash flows from financing activities:
Stock options exercised.................................................................. 7,542,427 574,296
Payments on capital lease obligations.................................................... (27,132) --
------------ ------------
Net cash provided by financing activities............................................... 7,515,295 574,296
------------ ------------
Effect of currency exchange rate change.................................................. (103,160) --
------------ ------------
Decrease in cash and cash equivalents...................................................... (14,798,208) (2,475,189)
Cash and cash equivalents at beginning of period........................................... 62,900,673 44,830,487
------------ ------------
Cash and cash equivalents at end of period................................................. $ 48,102,465 $ 42,355,298
============ ============
Supplemental disclosure of cash flow information:
Cash paid for interest................................................................... $ 2,057,647 $ --
============ ============
Issuance of stock for litigation settlement.............................................. $ 4,500,003 $ --
============ ============
Issuance of stock for licensing agreement................................................ $ 3,056,300 $ --
============ ============
</TABLE>
The accompanying notes are an integral part of these consolidated financial
statements.
5
<PAGE>
SMARTALK TELESERVICES, INC.
NOTES TO FINANCIAL STATEMENTS (UNAUDITED)
1. BASIS OF INTERIM PRESENTATION
The accompanying interim period consolidated financial statements are unaudited,
pursuant to certain rules and regulations of the Securities and Exchange
Commission, and include, in the opinion of management, all adjustments
(consisting of only normal recurring adjustments) necessary for a fair
presentation of the results for the periods indicated; which, however, are not
necessarily indicative of results which may be expected for the full year.
Certain information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting principles
have been condensed or omitted pursuant to such rules and regulations. The
financial statements should be read in conjunction with the financial statements
and the notes thereto for the year ended December 31, 1997 and other information
included in SmarTalk TeleServices, Inc.'s (the "Company") Form 10-K and Forms
8-K, as filed with the Securities and Exchange Commission.
2. RESTRUCTURING
The company recorded a $25,000,000 restructuring charge at December 31, 1997.
Utilization against this reserve is as follows:
<TABLE>
<CAPTION>
Three Months Ended
-------------------------
December 31, March 31, Total
1997 1998 Charges
------------ --------- ---------
<S> <C> <C> <C>
Personnel reductions $ 250,672 $ 494,079 $ 744,751
Facilities and equipment realignments 703,040 324,269 1,027,309
Product conformity and sole branding 103,218 395,653 498,871
---------- ---------- ----------
Total $1,056,930 $1,214,001 $2,270,931
========== ========== ==========
</TABLE>
3. DISCONTINUED OPERATIONS
On February 28, 1998 (the "Measurement Date") the Company's board of directors
adopted a plan to sell the Company's call center business located in Butler,
Pennsylvania. The call center operations up to the Measurement Date have been
classified as a loss from discontinued operations. The estimated loss from
operations after the measurement date until the anticipated date of sale have
been recorded as a loss on disposal of discontinued operations.
Summarized financial information for the discontinued operations is as follows:
<TABLE>
<CAPTION>
Two Months One Month Three Months
Ended Ended Ended
February 28, 1998 March 31, 1998 March 31, 1998
----------------- -------------- --------------
<S> <C> <C> <C>
Revenues $3,705,218 $1,852,609 $5,557,827
Loss before income taxes (578,148) (363,943) (942,091)
Net loss (578,148) (363,943) (942,091)
<CAPTION>
As of
March 31,
1998
---------
<S> <C>
Current assets 4,085,208
Total assets 9,557,884
Current liabilities 1,428,909
Total liabilities 9,557,884
----------
Net assets of discontinued operations $ -
==========
</TABLE>
SmarTalk did not own the call center business at March 31, 1997.
4. LICENSING AGREEMENT
On March 30, 1998, the Company entered into a new licensing agreement with
AudioFax IP LLC to license certain voice-fax mailbox technology. The Company
paid a one-time fee to license the technology until the patents expire in 2008.
Prior to this agreement, the Company licensed this technology by paying a per
card fee for cards containing voice-fax mailbox services.
5. ACQUISITION
On March 23, 1998, the Company acquired USA Telecommunication Services, Inc., a
North Carolina based prepaid cellular card company, for 81,302 shares of common
stock and $1,500,000 in cash. This acquisition has been accounted for using the
purchase method of accounting. Accordingly, the operating results of the
acquired business are included in the Company's consolidated results since the
date of acquisition.
6. DIVIDENDS
There were no dividends declared or paid for the three months ended March 31,
1998 or 1997.
SMARTALK TELESERVICES, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
GENERAL
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.
SmarTalk provides convenient, easy-to-use, "cost-effective" telecommunications
products and services to individuals and businesses primarily through the
SmarTalk prepaid phone 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, content delivery, speed dial and message
delivery and on selected cards, voice and fax mail services. 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 interactive call processing platforms. 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.
SmarTalk's revenue originates from (i) SmarTalk branded, co-branded, and private
label prepaid calling card sales through retailers; (ii) sales of cards through
alternate distribution channels; (iii) recharges of existing prepaid calling
cards; (iv) prepaid calling services provided to one of the Company's strategic
partners, West Interactive Corporation and (v) call processing services. The
Company operates in a highly competitive market. Future revenues and earnings
may be impacted by, among other factors, the Company's ability to address
competition, its ability to sign new accounts, its ability to introduce new
products such as its prepaid cellular product offering, and its ability to
integrate its operations successfully.
Under sales agreements with the majority of its retailers, the Company sells
cards to the retailer at a set price. The Company generally invoices the
retailer upon shipment of the cards. The Company also offers pay-on-sale and
pay-on-activation programs to certain retailers whereby the retailers are
invoiced upon sale to or activation by a retailer's customer, respectively. The
Company anticipates that its pay-on-sale and pay-on-activation programs will be
increasingly utilized by its retail customers. Deferred revenue is recognized
when the retailer is invoiced. The Company recognizes revenue and reduces
deferred revenue as the customer utilizes calling time or upon expiration of
cards containing unused calling time ("breakage"). The Company also records
deferred revenue upon recharge of existing prepaid calling cards and recognizes
the revenue upon the usage or expiration of the recharge minutes. Call
processing revenues are recognized as these services are rendered.
SmarTalk's cost of revenue consists primarily of the cost of providing long
distance services and related enhanced services, as well as the cost of
manufacturing and delivering the cards, excise taxes and Universal Service Fund
fees. The cost of providing long distance services represents obligations to
carriers that provide minutes of long distance over their networks in order to
facilitate use of SmarTalk's product.
SmarTalk seeks to leverage its competitive advantages in implementing the key
elements of its growth strategy, including: (i) increasing penetration of
retailers; (ii) developing new products and services; and (iii) continuing to
pursue selected acquisitions.
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 based on customer
usage. Advertising consists primarily of trade, consumer and cooperative
advertising ("co-op"), and Manufacturer's 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 materials
and services.
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 including depreciation and amortization. Sales and use
taxes for the SmarTalk platforms are incurred based on customer usage of long
distance minutes which are processed through the Company's platforms.
The Company completed the following acquisitions from January 1, 1997 to March
31, 1998:
American Express Telecom, Inc. ("Amex Telecom"). On December 31, 1997, SmarTalk
acquired Amex Telecom, a provider of prepaid calling products, including the
FirstClass Phonecard(TM) sold through the U.S. Postal Service and the
PhoneFunds(TM) card sold through the National Park Foundation, American Express
Travel Service Offices ("AmEx TSO's"), and certain Foreign Exchange offices. In
consideration for the outstanding shares of Amex Telecom, SmarTalk paid $44
million in cash, which was provided from SmarTalk's working capital with a
portion thereof held in escrow pending regulatory approval to Amex Telecom's
sole stockholder, American Express Travel Related Services, Inc. Additionally,
SmarTalk purchased the profit and cost sharing agreement between Amex Telecom
and the U.S. Postal Service. The Amex Telecom acquisition secured for SmarTalk
distribution rights to certain AmEx TSO's, distribution through the U.S. Postal
Service and the National Park Foundation and an agreement with American Express
to be the exclusive provider of a co-branded prepaid calling card for American
Express. In addition, SmarTalk was granted exclusive access to the American
Express point-of-sale system for activation and recharge of prepaid phone cards.
Under the purchase agreement American Express Company agreed to reimburse
SmarTalk for the estimated unused minutes as of December 31, 1997. The Company
has recorded this amount as a reduction to the purchase price and a receivable
of $2,570,000 at December 31, 1997.
ConQuest Telecommunication Service Corp. ("ConQuest"). On December 3, 1997,
SmarTalk entered into an interim operating agreement which transferred all risks
and rewards from ConQuest to SmarTalk. SmarTalk assumed responsibility for
operating the ConQuest business and the employees of ConQuest became employees
of SmarTalk on this date. On December 31, 1997, SmarTalk acquired 100% of
ConQuest's outstanding common stock. In consideration for each outstanding share
of ConQuest common stock, ConQuest stockholders received 7.63 shares of SmarTalk
Common Stock (approximately 4.5 million shares of Common Stock in total).
SmarTalk also assumed $6,139,679 of ConQuest's debt. Additionally, in connection
with this acquisition SmarTalk paid $350,000 in cash in 1997 and issued 215,569
shares of Common Stock in January 1998 to obtain an agreement and mutual release
from a group of individuals that had brought a lawsuit against ConQuest prior to
the acquisition. ConQuest was a developer and marketer of prepaid calling cards
and other enhanced telecommunication services and technology, including domestic
and international calling services for the tour and travel industry. The
acquisition of ConQuest added significantly to SmarTalk's technological
infrastructure, customer base, platform operations and management
infrastructure.
Selected Assets of Frontier Corporation. On December 9, 1997, SmarTalk acquired
selected assets ("Frontier Selected Assets") of the retail prepaid phone card
business of Frontier Corporation, a New York corporation ("Frontier"). In
consideration for the Frontier Selected Assets, SmarTalk paid $35 million in
cash and 65,568 shares of common stock. The acquisition of the Frontier Selected
Assets added to SmarTalk's size, scale and scope, and helped establish
SmarTalk's presence on the East Coast.
Cardinal VoiceCard, Ltd. On August 13, 1997, SmarTalk issued 115,000 shares of
Common Stock to purchase this Toronto, Ontario based company. This acquisition
provided the Company with access to the Canadian marketplace and added to the
Company's customer base.
GTI Telecom, Inc. ("GTI") On May 31, 1997, SmarTalk issued 2,580,001 shares of
Common Stock and $26,500,000 in subordinated 10% per annum term notes which
mature June 1, 2001 (the "GTI Notes") to purchase this Florida based company.
$25,970,000 of the GTI Notes were repaid in September 1997 at $20,614,686. The
difference of $5,355,314 was recorded as a reduction to goodwill. This
acquisition expanded the Company's customer base and added human resource,
technical and manufacturing infrastructure.
SmarTel Communications, Inc. On May 28, 1997, the Company acquired SmarTel
Communications, Inc., a Delaware corporation ("SmarTel") operating as a Boston
based prepaid promotions phone card company, for 714,286 shares of common stock.
On March 23, 1998, the Company acquired USA Telecommunication Services, Inc.
(dba Debit Cellular Network), a North Carolina based prepaid cellular card
company, for 81,302 shares of common stock and $1,500,000 in cash.
Collectively these purchases are the "Acquisitions". The Acquisitions have been
accounted for using the purchase method of accounting. Accordingly, the
operating results of the Acquistions have been included in the Company's
consolidated results since the date of acquisition.
6
<PAGE>
RESULTS OF OPERATIONS
QUARTER ENDED MARCH 31, 1998 COMPARED WITH THE QUARTER ENDED MARCH 31, 1997
Revenue. Revenue increased to $39,612,521 for the quarter ended March 31,
1998 compared to $7,368,333 for the quarter ended March 31, 1997. 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, the Acquisitions, and revenue attributable to
a distribution and processing agreement entered into on June 1, 1996 with West
Interactive Corporation. Revenue attributable to the distribution and processing
agreement was $4,509,588 in the first quarter of 1998 and $3,850,049 for the
same period last year. In addition, 15.1% of total revenue for the quarter ended
March 31, 1998 consisted of revenue recognized on the unused portion of expired
cards (breakage revenue) as compared to 11.0% for the quarter ended March 31,
1997. Recharge revenues for the quarters ended March 31, 1998 and 1997 was
$1,101,499 and $437,055, respectively.
Cost of Revenue. Cost of revenue increased to $23,908,488 for the quarter
ended March 31, 1998 from $4,760,748 for the quarter ended March 31, 1997. The
increase was primarily attributable to greater use of the Company's services,
the Acquisitions and an increase in taxes and fees. The gross profit percentage
for the quarter ended March 31, 1998 was 39.6% as compared to 35.4% for the
quarter ended March 31, 1997. The gross margin percentage increased primarily
due to lower transport and card costs and the increase in breakage revenue which
has minimal cost of revenues associated with it.
Sales and Marketing Expenses. Sales and marketing expenses increased to
$5,450,629 (or 13.8% of revenue) for the quarter ended March 31, 1998 from
$2,545,414 (or 34.5% of revenue) for the quarter ended March 31, 1997. The
decrease as a percentage of revenue was due to revenue growth in 1998. The
increased dollar amount was primarily due to the Acquisitions and the continued
expansion of the Company's marketing activities, which include co-op
advertising, manufacturers development funds and promotional goods.
General and Administrative Expenses. General and administrative expenses
increased to $9,084,480 (or 22.9% of revenue) for the quarter ended March 31,
1998 from $901,231 (or 12.2% of revenue) for the quarter ended March 31, 1997.
The increase in dollar amount was primarily due to the Acquisitions, which
includes intangible assets amortization, depreciation expense, and the addition
of personnel and costs associated with the growth in the Company's business.
Additionally, expense was reduced in the first quarter of 1997 as the Company
received enhanced feature equipment with a net fair value of $325,810 in
exchange for early termination of a facility sublease with a strategic partner.
Interest Income (Expense). Interest expense, net of interest income for
the quarter ended March 31, 1998, was $(1,261,952) as compared to $528,763 for
the quarter ended March 31, 1997. This decrease was primarily due to interest
expense on the Company's subordinated debt that was issued September 17, 1997.
Interest expense for the three months ended March 31, 1998 and 1997 included
$228,651 and $0 of debt issue costs amortization, respectively.
Income Tax. The Company had losses for the quarters ended March 31, 1998
and 1997. Accordingly, there was no provision for income taxes.
Decremented Minutes and PIN Activations. Decremented minutes,
which represent actual call traffic over the SmarTalk platforms, were
160,854,041 for the three months ended March 31, 1998 as compared with
35,221,086 for the three months ended March 31, 1997. PIN activations were
3,483,123 and 437,055 for the three months ended March 31, 1998 and 1997,
respectively. These increases are due to increased usage of the Company's
services and the Acquisitions.
7
<PAGE>
Discontinued Operations. On February 28, 1998 (the "Measurement Date") the
Company's board of directors adopted a plan to sell the Company's call center
business located in Butler, Pennsylvania. The call center operations up to the
Measurement Date have been classified as a loss from discontinued operations.
The estimated loss from operations after the measurement date until the
anticipated date of sale have been recorded as a loss on disposal of
discontinued operations.
Net Loss. As a result of the above items, net loss increased to
$3,371,176 for the quarter ended March 31, 1998 from $310,297 for the quarter
ended March 31, 1997.
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
On September 17, 1997, SmarTalk issued 5 3/4% per annum convertible
subordinated notes due September, 2004 with a principal amount of
$150,000,000. The net proceeds to SmarTalk from the convertible subordinated
notes offering (after deducting the underwriting discounts and other expenses)
was $144,946,319. Interest on the Notes is payable semi-annually on March 15
and September 15 of each year commencing March 15, 1998.
On August 6, 1997, ConQuest entered into a revolving credit facility with
Star Bank, N.A. ("Star Line of Credit"). Pursuant to the terms of the Star
Line of Credit, ConQuest could borrow up to $9,500,000 as secured by various
accounts receivable. Interest is based on the ninety-day LIBOR plus one
percent. This credit facility was assumed by SmarTalk upon the acquisition of
ConQuest and had an outstanding balance of $7,291,575 at March 31, 1998. There
are no additional borrowings available under this facility.
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 Southern California Bank. 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%. The credit facility was
undrawn at March 31, 1998.
Throughout 1997 to March 31, 1998, the Company has paid approximately
$90,000,000 in cash, paid $21,144,686 for acquisition indebtedness,
and has issued approximately 8,700,000 shares of Common Stock for the
Acquisitions, distribution and licensing agreements.
From inception through March 31, 1998, the Company has funded operations
primarily from borrowings under its debt agreements and the sale of its stock.
The Company's operating activities used net cash of $23,143,411 for the three
months ended March 31, 1998. The cash used by operating activities is primarily
attributable to the Company's continued efforts to increase its penetration of
the retail and alternate distribution channels.
Additionally, the Company believes that the net proceeds from the Notes
offering, together with existing sources of liquidity, will be sufficient to
fund its capital expenditures, working capital, selected acquisitions, and
other cash requirements through the next twelve months.
Part II. Other Information
Item 1. Legal Proceedings
On April 20, 1998, Intrine Communications ("Intrine"), filed a complaint
against the Company and USA Telecommunications Services, Inc. (dba Debit
Cellular Network), a wholly-owned subsidiary of the Company ("DCN"), in the
Superior Court of California in Los Angeles County. In the complaint, Intrine
alleges that, by virtue of the Company's acquisition of DCN, the Company and DCN
breached written and oral agreements not to circumvent and appropriate for
themselves the benefits of a purported deal by Intrine to acquire DCN. The
lawsuit seeks damages and injunctive relief. Management of the Company believes
that the claims against the Company and DCN are without merit and does not at
present expect this lawsuit to have a material adverse effect on the Company's
financial position, liquidity, cash flow or results of operations.
Item 2. Changes in Securities and Use of Proceeds
In March 1998, the Company issued 81,302 shares of its common stock in
connection with an acquisition. The shares were issued in reliance upon the
exemption from registration provided for under Section 4(2) of the Securities
Act of 1933, as amended (the "Act").
In March 1998, the Company issued 100,000 shares of its common stock in
connection with an amendment to a license agreement. The shares were
issued in reliance upon the exemption from registration provided for under
Section 4(2) of the Act.
In January, February and March of 1998, the Company granted 176,300 options to
purchase its common stock to certain directors, officers and employees of the
Company and certain other persons in consideration for their services. All of
the sales by the Company of these unregistered securities were made by the
Company in reliance upon Section 4(2) of the Act.
On October 23, 1996, the Company's initial public offering of its common stock
was declared effective by the Securities and Exchange Commission (the "SEC").
The SEC registration number assigned to the registration statement was
333-10391. The use of these proceeds did not materially change from the use of
proceeds description in the Prospectus. Additionally, as of March 31, 1998,
these proceeds had been used in their entirety for the acquisition of other
businesses, purchase of machinery and equipment, and general working capital
obligations.
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits required by Item 601 of Regulation S-K.
10.1 Employment Agreement dated, January 2, 1998 between SmarTalk
TeleServices, Inc. and Jack Feingold.
10.2 Employment Agreement dated March 5, 1998 between SmarTalk
TeleServices, Inc. and Joseph Borocz.
27.1 Financial Data Schedule
(b) Reports on Form 8-K
SmarTalk filed a Form 8-K on January 15, 1998 pertaining to the
consummation of the acquisition of ConQuest Telecommunications Services Corp.
containing item number 2 and item 7(c) exhibits 2.1, 99.1 and 99.2.
SmarTalk filed a Form 8-K on January 6, 1998 pertaining to the
consummation of the acquisition of American Express Telecom, Inc. containing
item number 2 and item 7(c) exhibit 2.1.
8
<PAGE>
SIGNATURE
---------
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SmarTalk TeleServices, Inc.
---------------------------
(Registrant)
Date: May 15, 1998 By: /s/ Glen Andrew Folck
---------------------
Glen Andrew Folck
Vice President of Finance, Chief
Financial Officer and Assistant
Secretary
9
<PAGE>
EXHIBIT 10.1
EMPLOYMENT AGREEMENT
THIS EMPLOYMENT AGREEMENT (the "Agreement") is made as of January 2, 1998
between SMARTALK TELESERVICES, INC., a California corporation (the "Company")
and JACK FEINGOLD (the "Executive"); and
WHEREAS, the parties hereto wish to enter into an employment agreement to
employ the Executive as the Senior Vice President--Sales of the Company and to
set forth certain additional agreements between the Executive and the Company.
NOW, THEREFORE, in consideration of the mutual covenants and
representations contained herein, the parties hereto agree as follows:
1. Term.
----
The Company will employ the Executive, and the Executive will serve the
Company, under the terms of this Agreement for an initial term of three years
(the "Initial Term"), commencing on the date hereof (the "Effective Date").
Effective as of the expiration of the Initial Term and as of each anniversary
date thereof, the term of this Agreement shall be extended for an additional
one-year period unless, not later than three months prior to each such
respective date, either party hereto shall have given notice to the other that
the term shall not be so extended. Notwithstanding the foregoing, the
Executive's employment hereunder may be earlier terminated, as provided in
Section 4 hereof. The term of this Agreement, as in effect from time to time in
accordance with the foregoing, shall be referred to herein as the "Term". The
period of time between the Effective Date and the termination of the Executive's
employment hereunder shall be referred to herein as the "Employment Period."
2. Employment.
----------
(a) Positions and Reporting. The Company hereby employs the Executive for
-----------------------
the Employment Period as its Senior Vice President--Sales on the terms and
conditions set forth in this Agreement.
(b) Authority and Duties. The Executive shall exercise such authority,
--------------------
perform such executive duties and functions and discharge such
responsibilities as are reasonably associated with the Executive's positions,
commensurate with the authority vested in the Executive pursuant to this
Agreement and consistent with the bylaws of the Company. During the Employment
Period, the Executive shall devote full business time, skill and efforts to the
business of the Company. Notwithstanding the foregoing, the Executive may (i)
make and manage personal business investments of his choice and serve in any
capacity with any civic, educational or charitable organization, or any trade
association, without seeking or obtaining
<PAGE>
approval by the Board of Directors of the Company (the "Board"), provided such
activities and service do not materially interfere or conflict with the
performance of his duties hereunder and (ii) with the approval of the Board,
serve on the boards of directors of other corporations.
3. Compensation and Benefits.
-------------------------
(a) Salary. During the Employment Period, the Company shall pay to the
Executive, as compensation for the performance of his duties and obligations
under this Agreement, a base salary at the rate $175,000 per annum, payable in
arrears not less frequently than monthly in accordance with the normal payroll
practices of the Company (the "Base Salary"). Such Base Salary shall be subject
to review each year for possible increase by the Board in its sole discretion,
but shall in no event be decreased from the levels set forth above during the
Initial Term, or from its then-existing level during the Employment Period.
(b) Annual Bonus. The Executive shall earn bonus amounts in the form of
------------
cash and stock awards based upon the satisfaction of performance criteria that
will be established by a committee of the Board (the "Compensation Committee")
in its discretion and upon consultation with the Executive at the beginning of
each year, subject to the approval of the Board. Such criteria for the first
year is set forth on Schedule A hereto. Performance criteria will include
corporate performance goals consistent with the Company's business plan for the
year, as well as individual objectives for the Employee's performance that are
separate from, but are consistent with, the Company's business plan. The final
determinations as to the actual corporate and individual performance against the
pre-established goals and objectives, and the amounts of any additional bonus
payout in relationship to such performance, shall be made by the Compensation
Committee in its sole discretion. Executive's bonus shall be paid to Executive
at such time as other executive bonuses are paid.
(c) Other Benefits. During the Employment Period, the Executive shall
--------------
receive such other life insurance, pension, disability insurance, health
insurance, holiday, vacation and sick pay benefits and other benefits which the
Company extends, as a matter of policy, to its executive employees and, except
as otherwise provided herein, shall be entitled to participate in all deferred
compensation and other incentive plans of the Company on the same basis as other
like employees of the Company. Without limiting the generality of the foregoing,
the Executive shall be entitled to three (3) weeks vacation during each year of
the Employment Period, which shall be scheduled in the Executive's discretion,
subject to and taking into account the business exigencies of the Company.
Unused vacation may be accrued up to a maximum of four (4) weeks of unused
vacation, and thereafter the Executive shall cease to accrue vacation thereafter
until used.
(d) Business Expenses. During the Employment Period, the Company shall
-----------------
promptly reimburse the Executive for all documented reasonable business expenses
incurred by the Executive in the performance of his duties under this Agreement,
in accordance with the Company's policies and standards of similar or comparable
companies.
(e) Stock Options. Concurrently with the execution of this Agreement,
the Company and Executive will enter into a Stock Option Agreement, attached
hereto as Exhibit
<PAGE>
A, pursuant to which the Company shall grant to the Executive an option to
purchase up to one hundred thousand (100,000) shares of common stock of the
Company on the terms and conditions set forth therein.
(f) Moving Bonus. The Company shall pay to the Executive one hundred
------------
thousand dollars ($100,000) as a moving bonus as follows: fifty thousand dollars
($50,000) upon Executive's commencement of his duties at the Company and fifty
thousand dollars ($50,000) at such time as Executive shall sign a contract to
purchase a house in or about Columbus, Ohio. Such amounts shall be earned by
Executive pro rata over the first year of the Employment Period. Should
Executive cease to be employed during the first year of the Employment Period
(other than a termination for good reason or without cause, as such terms are
defined below), Executive shall promptly remit any unearned portion of this
moving bonus.
(g) Car Allowance. The Company shall pay to Executive as an automobile
-------------
allowance the sum of $600 per month during the Employment Period in lieu of any
other provision for an automobile, insurance, maintenance, gasoline and
expenses.
4. Termination of Employment.
-------------------------
(a) Termination for Cause. The Company may terminate the Executive's
---------------------
employment hereunder for cause. For purposes of this Agreement and subject to
the Executive's opportunity to cure as provided in Section 4(c) hereof, the
Company shall have "cause" to terminate the Executive's employment hereunder if
Executive shall commit any of the following:
(i) any act or omission which shall represent a material breach in
any material respect of any of the terms of this Agreement;
(ii) gross misconduct that, in the reasonable good faith opinion of
the Company that is or is likely to be significantly injurious to the Company;
(iii) gross negligence or wanton and reckless acts or omissions in the
performance of Executive's duties, in any such case which are to the material
detriment of the Company;
(iv) bad faith in the performance of Executive's duties, consisting of
willful acts or omissions, to the material detriment of the Company;
(v) addiction to illegal drugs or chronic alcoholism; or
(vi) any conviction or pleading of guilty to a crime that constitutes
a felony under the laws of the United States or any political subdivision
thereof.
(b) Termination for Good Reason. The Executive shall have the right at any
---------------------------
time to terminate his employment with the Company for any reason. For purposes
of this Agreement and subject to the Company's opportunity to cure as provided
in Section 4(c)
<PAGE>
hereof, the Executive shall have "good reason" to terminate his employment
hereunder if such termination shall be the result of:
(i) a diminution during the Employment Period in the
Executive's title, duties, reporting relationship or responsibilities as
set forth in Section 2 hereof;
(ii) a breach by the Company of the compensation and benefits
provisions set forth in Section 3 hereof;
(iii) a material breach by the Company of any material terms of
this Agreement.
(c) Notice and Opportunity to Cure. Notwithstanding the foregoing, it
------------------------------
shall be a condition precedent to the Company's right to terminate the
Executive's employment for "cause" and the Executive's right to terminate his
employment for "good reason" that (1) the party seeking the termination shall
first have given the other party written notice stating with specificity the
reason for the termination ("breach") and (2) if such breach is susceptible of
cure or remedy, a period of 30 days from and after the giving of such notice
shall have elapsed without the breaching party having effectively cured or
remedied such breach during such 30-day period, unless such breach cannot be
cured or remedied within 30 days, in which case the period for remedy or cure
shall be extended for a reasonable time (not to exceed 30 days) provided the
breaching party has made and continues to make a diligent effort to effect such
remedy or cure.
(d) Termination Upon Death or Permanent and Total Disability. The
--------------------------------------------------------
Employment Period shall be terminated by the death of the Executive. The
Employment Period may be terminated by the Company if the Executive shall be
rendered incapable of performing his duties to the Company by reason of any
medically determined physical or mental impairment that reasonably can be
expected to cause the Executive's continued incapacity to perform his duties for
a period of six or more consecutive months from the first date of the disability
("Disability"). In the event of a dispute as to whether the Executive is
impaired within the meaning of this Section 4(d), or as to the likely duration
of any incapacity of the Executive either party may request a medical
examination of the Executive by a doctor appointed by the Chief of Staff of a
hospital selected by mutual agreement of the parties, or as the parties may
otherwise agree, and the written medical opinion of such doctor shall be
conclusive and binding upon the parties. The cost of such examination shall be
borne by the Company. If the Employment Period is terminated by reason of
Disability of the Executive, the Company shall give 30-days' advance written
notice to that effect to the Executive.
5. Consequences of Termination.
---------------------------
(a) Termination Without Cause or for Good Reason. In the event of
--------------------------------------------
termination of the Executive's employment hereunder by the Company without
"cause" (other than upon death or Disability) or by the Executive for "good
reason" (each as defined in Section 4 hereof), the Executive shall be entitled
to the following severance pay and benefits:
(i) Severance Pay - a lump sum amount equal to the Executive's
-------------
<PAGE>
annual Base Salary;
(ii) Benefits Continuation - continuation for six (6) months (the
---------------------
"Severance Period") of coverage under the group medical care, disability
and life insurance benefit plans or arrangements in which the Executive is
participating at the time of termination with the Company continuing to pay
its share of premiums and associated costs as if Executive continued in the
employ of the Company; provided, however, that the Company's obligation to
provide such coverages shall be terminated if the Executive obtains
comparable substitute coverage from another employer at any time during the
Severance Period. The Executive shall be entitled, at the expiration of the
Severance Period, to elect continued medical coverage in accordance with
Section 4980B of the Internal Revenue Code of 1986, as amended (or any
successor provision thereto); and
(iii) Pro Rata Bonus Amounts - a lump sum amount equal to the pro
----------------------
rata portion of any guaranteed bonus amounts.
(b) Termination Upon Disability. In the event of termination of the
---------------------------
Executive's employment hereunder by the Company on account of Disability, the
Executive shall be entitled to the following severance pay and benefits:
(i) Severance Pay - severance payments in the form of continuation
of the Executive's Base Salary as in effect immediately prior to such
termination for a period of six (6) months following the first date of
Disability:
(ii) Benefits Continuation - the same benefits as provided in Section
---------------------
5(a)(ii) above, to be provided during the Employment Period while the
Executive is suffering from Disability and for a period of six (6) months
following the effective date of termination of employment by reason of
Disability.
In addition to the foregoing, the Company shall remit to the Executive
any benefits received by the Company, as beneficiary, pursuant to any additional
disability insurance policy which was maintained by the Executive prior to his
employment with the Company.
(c) Termination Upon Death. In the event of termination of the
----------------------
Executive's employment hereunder on account of the Executive's death, the
Executive's heirs, estate or personal representatives under law, as applicable,
shall be entitled to the payment of the Executive's Base Salary as i effect
immediately prior to death for a period of not less than two calendar months and
not more than the earlier of six calendar months or the payment of benefits
pursuant to the Executive's life insurance policy, as provided for in Section
3(c) above. The Executive's beneficiary or estate shall not be required to remit
to the Company any payments received pursuant to any life insurance policy
purchased pursuant to Section 3(c) above.
(d) Other Termination. In the event of termination of the Executive's
-----------------
employment hereunder for any reason other than those specified in subsection (a)
through (c)
<PAGE>
of this Section 5, the Executive shall not be entitled to any severance pay or
benefits continuation contemplated by the foregoing, except as may otherwise be
provided under the applicable benefit plans or award agreements relating to the
Executive.
(e) Accrued Rights. Notwithstanding the foregoing provisions of this
--------------
Section 5, in the event of termination of the Executive's employment hereunder
for any reason, the Executive shall be entitled to payment of any unpaid portion
of his Base Salary through the effective date of termination, and payment of any
accrued but unpaid rights solely in accordance with the terms of any incentive
bonus or employee benefit plan or program of the Company.
(f) Conditions to Severance Benefits. (i) The Company shall have the
--------------------------------
right to seek repayment of the severance payments and benefits provided by this
Section 5 in the event that the Executive fails to honor in accordance with
their terms the provisions of Sections 6, 7 and 8 hereof.
(ii) For purposes only of this Section, Employee shall be treated as
having failed to honor the provisions of Sections 6, 7 and 8 hereof only upon
the vote of two-thirds of the Board following notice of the alleged failure by
the Company to the Executive, an opportunity for the Executive to cure the
alleged failure for a period of 30 days from the date of such notice and the
Executive's opportunity to be heard on the issue by the Board.
6. Confidentiality. The Executive agrees that he will not at any
---------------
time during the Employment Period or at any time thereafter for any reason, in
any fashion, form or manner, either directly or indirectly, divulge, disclose or
communicate to any person, firm, corporation or other business entity, in any
manner whatsoever, any confidential information or trade secrets concerning the
business of the Company, including, without limiting the generality of the
foregoing, the techniques, methods or systems of its operation or management,
any information regarding its financial matters, or any other material
information concerning the business of the Company (including customer lists),
its manner of operation, its plans or other material data (the "Business"). The
provisions of this Section 6 shall not apply to (i) information disclosed in the
performance of the Executive's duties to the Company based on his good belief
that such a disclosure is in the best interests of Company; (ii) information
that is, at the time of the disclosure, public knowledge; (iii) information
disseminated by the Company to third parties in the ordinary course of business;
(iv) information lawfully received by the Executive from a third party who,
based upon inquiry by the Executive, is not bound by a confidential relationship
to the Company; or (v) information disclosed under a requirement of law or as
directed by applicable legal authority having jurisdiction over the Executive.
7. Inventions. The Executive is hereby retained in a capacity such
----------
that the Executive's responsibilities may include the making of technical and
managerial contributions of value to Company. The Executive hereby assigns to
Company all rights, title and interest in such contributions and inventions made
or conceived by the Executive alone or jointly with others during the Employment
Period which relate to the Business. This assignment shall
<PAGE>
include (a) the right to file and prosecute patent applications on such
inventions in any and all countries, (b) the patent applications filed and
patents issuing thereon, and (c) the right to obtain copyright, trademark or
trade name protection for any such work product. The Executive shall promptly
and fully disclose all such contributions and inventions to Company and assist
Company in obtaining and protecting the rights therein (including patents
thereon), in any and all countries; provided, however, that said contributions
-------- -------
and inventions will be the property of Company, whether or not patented or
registered for copyright, trademark or trade name protection, as the case may
be. Inventions conceived by the Executive which are not related to the Business,
will remain the property of the Executive.
8. Non-Competition. (i) The Executive agrees that he shall not during
---------------
the Employment Period and for a period of one (1) year thereafter, without the
approval of the Board, directly or indirectly, alone or as partner, joint
venturer, officer, director, employee, consultant, agent, independent contractor
or stockholder (other than as provided below) of any company or business, engage
in any "Competitive Business" within the United States. For purposes of the
foregoing, the term "Competitive Business" shall mean any business directly
involved in prepaid telecommunications services industry. Notwithstanding the
foregoing, the Executive shall not be prohibited during the noncompetition
period applicable above from acting as a passive investor where he owns not more
than five percent (5%) of the issued and outstanding capital stock of any
publicly-held company. During the period that the above noncompetition
restriction applies, the Executive shall not, without the written consent of the
Company, solicit any employee who is under contract with the Company or any
current or future subsidiary or affiliate thereof to terminate his or her
employment; nor shall the Executive solicit employees for any enterprise that
competes with Company; but shall have the right to solicit employees not under
contract with the Company for an enterprise that does not compete with the
Company.
9. Breach of Restrictive Covenants. The parties agree that a breach
-------------------------------
or violation of Sections 6, 7 or 8 hereof will result in immediate and
irreparable injury and harm to the innocent party, and that such innocent party
shall have, in addition to any and all remedies of law and other consequences
under this Agreement, the right to seek an injunction, specific performance or
other equitable relief to prevent the violation of the obligations hereunder.
10. Notice. For the purposes of this Agreement, notices, demands and
------
all other communications provided for in this Agreement shall be in writing and
shall be deemed to have been duly given when delivered or (unless otherwise
specified) mailed by United States certified or registered mail, return receipt
requested, postage prepaid, addressed as follows:
(a) If to the Company, to:
Attn: David Hamburger
General Counsel
SmarTalk TeleServices, Inc.
<PAGE>
1640 South Sepulveda Blvd., Suite 500
Los Angeles, CA 90025
(b) If to the Executive, to:
Jack Feingold
or to such other respective addresses as the parties hereto shall designate to
the other by like notice, provided that notice of a change of address shall be
effective only upon receipt thereof.
11. Arbitration; Legal Fees. Except as provided in Section 9 hereof, any
-----------------------
dispute or controversy arising under or in connection with this Agreement shall
be settled exclusively by arbitration in Columbus, Ohio in accordance with the
rules of the American Arbitration Association then in effect. Judgement may be
entered on the arbitrator's award in any court having jurisdiction.
12. Waiver of Breach. Any waiver of any breach of this Agreement shall not
----------------
be construed to be a continuing waiver or consent to any subsequent breach on
the part either of the Executive or of the Company.
13. Non-Assignment; Successors. Neither party hereto may assign his or its
--------------------------
rights or delegate his or its duties under this Agreement without the prior
written consent of the other party; provided, however, that: (i) this Agreement
-------- -------
shall inure to the benefit of and be binding upon the successors and assigns of
the Company upon any sale of all or substantially all of the Company's assets,
or upon any merger, consolidation or reorganization of the Company with or into
any other corporation, all as though such successors and assigns of the Company
and their respective successors and assigns were the Company; and (ii) this
Agreement shall inure to the benefit of and be binding upon the heirs, assigns
or designees of the Executive to the extent of any payments due to them
hereunder. As used in this Agreement, the term "Company" shall be deemed to
refer to any such successor or assign of the Company referred to in the
preceding sentence.
14. Withholding of Taxes. All payments required to be made by the Company
--------------------
to the Executive under this Agreement shall be subject to the withholding of
such amounts, if any, relating to tax, and other payroll deductions as the
Company may reasonably determine it should withhold pursuant to any applicable
law or regulation.
15. Severability. To the extent any provision of this Agreement or portion
------------
thereof shall be invalid or unenforceable, it shall be considered deleted
therefrom and the remainder of such provision and of this Agreement shall be
unaffected and shall continue in
<PAGE>
full force and effect.
16. Payment. All amounts payable by the Company to the Executive under
-------
this Agreement shall be paid promptly on the dates required for such payment in
this Agreement without notice or demand. Any salary, benefits or other amounts
paid or to be paid to Executive or provided to or in respect of the Executive
pursuant to this Agreement shall not be reduced by amounts owing from Executive
to the Company.
17. Authority. Each of the parties hereto hereby represents that each has
---------
taken all actions necessary in order to execute and deliver this Agreement and
the Stock Option Agreement attached hereto as Exhibit A.
18. Counterparts. This Agreement may be executed in one or more
------------
counterparts, each of which shall be deemed to be an original but all of which
together will constitute one and the same instrument.
19. Governing Law. This Agreement shall be construed, interpreted and
-------------
enforced in accordance with the laws of the State of Ohio, without giving
effect to the choice of law principles thereof.
20. Entire Agreement. This Agreement constitutes the entire agreement by
----------------
the Company and the Executive with respect to the subject matter hereof and
supersedes any and all prior agreements or understandings between the Executive
and the Company with respect to the subject matter hereof, whether written or
oral. This Agreement may be amended or modified only by a written instrument
executed by the Executive and the Company.
<PAGE>
IN WITNESS WHEREOF, the parties have executed this Agreement as of
______, 1998.
SMARTALK TELESERVICES, INC.
----------------------------
By: Erich L. Spangenberg
Its: Chief Executive Officer
----------------------------
Jack Feingold
<PAGE>
EXHIBIT 10.2
EMPLOYMENT AGREEMENT
THIS EMPLOYMENT AGREEMENT (the "Agreement") is made this 5th day of March,
1998 between SMARTALK TELESERVICES, INC., a California corporation (the
"Company") and JOSEPH BOROCZ (the "Executive"); and
WHEREAS, the parties hereto wish to enter into an employment agreement to
employ the Executive as the Senior Vice President - Marketing of the Company and
to set forth certain additional agreements between the Executive and the
Company.
NOW, THEREFORE, in consideration of the mutual covenants and
representations contained herein, the parties hereto agree as follows:
1. Term.
----
The Company will employ the Executive, and the Executive will serve the
Company, under the terms of this Agreement for an initial term of three years
(the "Initial Term"), commencing on the date hereof (the "Effective Date").
Effective as of the expiration of the Initial Term and as of each anniversary
date thereof, the term of this Agreement shall be extended for an additional
one-year period unless, not later than three months prior to each such
respective date, either party hereto shall have given notice to the other that
the term shall not be so extended. Notwithstanding the foregoing, the
Executive's employment hereunder may be earlier terminated, as provided in
Section 4 hereof. The term of this Agreement, as in effect from time to time in
accordance with the foregoing, shall be referred to herein as the "Term". The
period of time between the Effective Date and the termination of the Executive's
employment hereunder shall be referred to herein as the "Employment Period."
2. Employment.
----------
(a) Positions and Reporting. The Company hereby employs the Executive for
-----------------------
the Employment Period as its Senior Vice President - Marketing on the terms and
conditions set forth in this Agreement. During the Employment Period, the
Executive shall report directly to the President of the Company.
(b) Authority and Duties. The Executive shall exercise such authority,
--------------------
perform such executive duties and functions and discharge such responsibilities
as are reasonably associated with the Executive's positions, commensurate with
the authority vested in the Executive pursuant to this Agreement and consistent
with the bylaws of the Company. During the Employment Period, the Executive
shall devote full business time, skill and efforts to the business of the
Company. Notwithstanding the foregoing, the Executive may (i) make and manage
personal business investments of his choice and serve in any capacity with any
civic,
<PAGE>
educational or charitable organization, or any trade association, without
seeking or obtaining approval by the Board of Directors of the Company (the
"Board"), provided such activities and service do not materially interfere or
conflict with the performance of his duties hereunder and (ii) with the approval
of the Board, serve on the boards of directors of other companies.
3. Compensation and Benefits.
-------------------------
(a) Salary. During the Employment Period, the Company shall pay to the
------
Executive, as compensation for the performance of his duties and obligations
under this Agreement, a base salary at the rate of $150,000 per annum, payable
in arrears not less frequently than monthly in accordance with the normal
payroll practices of the Company (the "Base Salary"). Such Base Salary shall be
subject to review each year for possible increase by the Board in its sole
discretion, but shall in no event be decreased from the levels set forth above
during the Initial Term, or from its then-existing level during the Employment
Period.
(b) Annual Bonus. The Executive shall earn bonus amounts in the form of
------------
cash and stock awards based upon the satisfaction of performance criteria that
will be established by a committee of the Board (the "Compensation Committee")
in its discretion and upon consultation with the Executive at the beginning of
each year, subject to the approval of the Board. Such performance criteria will
include corporate performance goals consistent with the Company's business plan
for the year, as well as individual objectives for the Executive's performance
that are separate from, but are consistent with, the Company's business plan.
The final determinations as to the actual corporate and individual performance
against the pre-established goals and objectives, and the amounts of any
additional bonus payout in relationship to such performance, shall be made by
the Compensation Committee in its sole discretion.
(c) Other Benefits. During the Employment Period, the Executive shall
--------------
receive such other life insurance, pension, disability insurance, health
insurance, holiday, vacation and sick pay benefits and other benefits which the
Company extends, as a matter of policy, to its executive employees and, except
as otherwise provided herein, shall be entitled to participate in all deferred
compensation and other incentive plans of the Company on the same basis as other
like employees of the Company. Without limiting the generality of the foregoing,
the Executive shall be entitled to four (4) weeks paid vacation during each year
of the Employment Period, which shall be scheduled in the Executive's
discretion, subject to and taking into account the business exigencies of the
Company. Unused vacation may be accrued up to a maximum of six (6) weeks of
unused vacation, and thereafter the Executive shall cease to accrue vacation
thereafter until used.
(d) Business Expenses. During the Employment Period, the Company shall
-----------------
promptly reimburse the Executive for all documented reasonable business expenses
incurred by the Executive in the performance of his duties under this Agreement,
in accordance with the Company's policies and standards of similar or comparable
companies.
(e) Stock Options. Concurrently with the execution of this Agreement, the
-------------
Company and Executive will enter into a Stock Option Agreement, attached hereto
as Exhibit
2
<PAGE>
A, pursuant to which the Company shall grant to the Executive an option to
purchase up to fifty thousand (50,000) shares of common stock of the Company on
the terms and conditions set forth therein.
(f) Moving Bonus. The Company shall pay to the Executive upon the
------------
commencement of work for the Company fifty thousand dollars ($50,000) as a
moving bonus which amount shall be earned by Executive pro rata over the first
three years of the Employment Period. Should Executive cease to be employed
during the Employment Period, Executive shall promptly remit any unearned
portion of this moving bonus.
(g) Car Allowance. The Company shall pay to Executive as an automobile
-------------
allowance the sum of $500 per month during the Employment Period in lieu of any
other provision for an automobile, insurance, maintenance, gasoline and
expenses.
4. Termination of Employment.
-------------------------
(a) Termination for Cause. The Company may terminate the Executive's
---------------------
employment hereunder for cause. For purposes of this Agreement and subject to
the Executive's opportunity to cure as provided in Section 4(c) hereof, the
Company shall have "cause" to terminate the Executive's employment hereunder if
Executive shall commit any of the following:
(i) any act or omission which shall represent a breach in any
material respect of any of the terms of this Agreement;
(ii) gross misconduct that, in the reasonable good faith opinion of
the Company could be significantly injurious to the Company;
(iii) gross negligence or wanton and reckless acts or omissions in
the performance of Executive's duties, in any such case which are to the
material detriment of the Company;
(iv) bad faith in the performance of Executive's duties, consisting
of willful acts or omissions, to the material detriment of the Company;
(v) addiction to illegal drugs or chronic alcoholism; or
(vi) any conviction or pleading of guilty to a crime that
constitutes a felony under the laws of the United States or any political
subdivision thereof.
(b) Termination for Good Reason. The Executive shall have the right at any
---------------------------
time to terminate his employment with the Company for any reason. For purposes
of this Agreement and subject to the Company's opportunity to cure as provided
in Section 4(c) hereof, the Executive shall have "good reason" to terminate his
employment hereunder if such termination shall be the result of:
3
<PAGE>
(i) a diminution during the Employment Period in the
Executive's title, duties, reporting relationship or responsibilities as
set forth in Section 2 hereof;
(ii) a breach by the Company of the compensation and benefits
provisions set forth in Section 3 hereof;
(iii) a material breach by the Company of any material terms of
this Agreement.
(c) Notice and Opportunity to Cure. Notwithstanding the foregoing,
------------------------------
it shall be a condition precedent to the Company's right to terminate the
Executive's employment for "cause" and the Executive's right to terminate his
employment for "good reason" that (1) the party seeking the termination shall
first have given the other party written notice stating with specificity the
reason for the termination ("breach") and (2) if such breach is susceptible of
cure or remedy, a period of 30 days from and after the giving of such notice
shall have elapsed without the breaching party having effectively cured or
remedied such breach during such 30-day period, unless such breach cannot be
cured or remedied within 30 days, in which case the period for remedy or cure
shall be extended for a reasonable time (not to exceed 30 days) provided the
breaching party has made and continues to make a diligent effort to effect such
remedy or cure.
(d) Termination Upon Death or Permanent and Total Disability. The
--------------------------------------------------------
Employment Period shall be terminated by the death of the Executive. The
Employment Period may be terminated by the Company if the Executive shall be
rendered incapable of performing his duties to the Company by reason of any
medically determined physical or mental impairment that can be expected to
result in death or that can be expected to last for a period of six or more
consecutive months from the first date of the disability ("Disability"). If the
Employment Period is terminated by reason of Disability of the Executive, the
Company shall give 30-days' advance written notice to that effect to the
Executive.
5. Consequences of Termination.
---------------------------
(a) Termination Without Cause or for Good Reason. In the event of
--------------------------------------------
termination of the Executive's employment hereunder by the Company without
"cause" (other than upon death or Disability) or by the Executive for "good
reason" (each as defined in Section 4 hereof), the Executive shall be entitled
to the following severance pay and benefits:
(i) Severance Pay - a lump sum amount equal to the Executive's
-------------
annual Base Salary; and
(ii) Benefits Continuation - continuation for twelve (12) months
---------------------
(the "Severance Period") of coverage under the group medical care,
disability and life insurance benefit plans or arrangements in which the
Executive is participating at the time of termination; provided, however,
-------- -------
that the Company's obligation to provide such coverages shall be terminated
if the Executive obtains comparable substitute coverage from another
employer at any time during the Severance Period. The Executive shall be
entitled, at the expiration of the Severance Period, to elect continued
medical
4
<PAGE>
coverage in accordance with Section 4980B of the Internal Revenue Code of
1986, as amended (or any successor provision thereto).
(b) Termination Upon Disability. In the event of termination of the
---------------------------
Executive's employment hereunder by the Company on account of Disability, the
Executive shall be entitled to the following severance pay and benefits:
(i) Severance Pay - severance payments in the form of
-------------
continuation of the Executive's Base Salary as in effect immediately prior
to such termination for a period of six (6) months following the first date
of Disability;
(ii) Benefits Continuation - the same benefits as provided in
---------------------
Section 5(a)(ii) above, to be provided during the Employment Period while
the Executive is suffering from Disability and for a period of twelve (12)
months following the effective date of termination of employment by reason
of Disability.
In addition to the foregoing, the Company shall remit to the Executive
any benefits received by the Company, as beneficiary, pursuant to any additional
disability insurance policy which was maintained by the Executive prior to his
employment with the Company.
(c) Termination Upon Death. In the event of termination of the
----------------------
Executive's employment hereunder on account of the Executive's death, the
Executive's heirs, estate or personal representatives under law, as applicable,
shall be entitled to the payment of the Executive's Base Salary as in effect
immediately prior to death for a period of not less than two calendar months and
not more than the earlier of six calendar months or the payment of benefits
pursuant to the Executive's life insurance policy, as provided for in Section
3(c) above. The Executive's beneficiary or estate shall not be required to remit
to the Company any payments received pursuant to any life insurance policy
purchased pursuant to Section 3(c) above.
(d) Other Terminations. In the event of termination of the
------------------
Executive's employment hereunder for any reason other than those specified in
subsection (a) through (c) of this Section 5, the Executive shall not be
entitled to any severance pay or benefits continuation contemplated by the
foregoing, except as may otherwise be provided under the applicable benefit
plans or award agreements relating to the Executive.
(e) Accrued Rights. Notwithstanding the foregoing provisions of this
--------------
Section 5, in the event of termination of the Executive's employment hereunder
for any reason, the Executive shall be entitled to payment of any unpaid portion
of his Base Salary through the effective date of termination, and payment of any
accrued but unpaid rights solely in accordance with the terms of any incentive
bonus or employee benefit plan or program of the Company.
(f) Conditions to Severance Benefits. (i) The Company shall have the
--------------------------------
right to seek repayment of the severance payments and benefits provided by this
Section 5 in the event that the Executive fails to honor in accordance with
their terms the provisions of Sections
5
<PAGE>
6, 7 and 8 hereof.
(ii) For purposes only of this Section, Employee shall be treated as
having failed to honor the provisions of Sections 6, 7 or 8 hereof only upon the
vote of two-thirds of the Board following notice of the alleged failure by the
Company to the Executive, an opportunity for the Executive to cure the alleged
failure for a period of 30 days from the date of such notice and the Executive's
opportunity to be heard on the issue by the Board.
6. Confidentiality. The Executive agrees that he will not at any time
---------------
during the Employment Period or at any time thereafter for any reason, in any
fashion, form or manner, either directly or indirectly, divulge, disclose or
communicate to any person, firm, corporation or other business entity, in any
manner whatsoever, any confidential information or trade secrets concerning the
business of the Company, including, without limiting the generality of the
foregoing, the techniques, methods or systems of its operation or management,
any information regarding its financial matters, or any other material
information concerning the business of the Company (including customer lists),
its manner of operation, its plans or other material data (the "Business"). The
provisions of this Section 6 shall not apply to (i) information disclosed in the
performance of the Executive's duties to the Company based on his good faith
belief that such a disclosure is in the best interests of Company; (ii)
information that is, at the time of the disclosure, public knowledge; (iii)
information disseminated by the Company to third parties in the ordinary course
of business; (iv) information lawfully received by the Executive from a third
party who, based upon inquiry by the Executive, is not bound by a confidential
relationship to the Company; or (v) information disclosed under a requirement of
law or as directed by applicable legal authority having jurisdiction over the
Executive.
7. Inventions. The Executive is hereby retained in a capacity such
----------
that the Executive's responsibilities may include the making of technical and
managerial contributions of value to Company. The Executive hereby assigns to
Company all rights, title and interest in such contributions and inventions made
or conceived by the Executive alone or jointly with others during the Employment
Period which relate to the Business. This assignment shall include (a) the right
to file and prosecute patent applications on such inventions in any and all
countries, (b) the patent applications filed and patents issuing thereon, and
(c) the right to obtain copyright, trademark or trade name protection for any
such work product. The Executive shall promptly and fully disclose all such
contributions and inventions to Company and assist Company in obtaining and
protecting the rights therein (including patents thereon), in any and all
countries; provided, however, that said contributions and inventions will be the
-------- -------
property of Company, whether or not patented or registered for copyright,
trademark or trade name protection, as the case may be. Inventions conceived by
the Executive which are not related to the Business, will remain the property of
the Executive.
8. Non-Competition. (i) The Executive agrees that he shall not during
---------------
the Employment Period and for a period of one (1) year thereafter, without the
approval of the Board, directly or indirectly, alone or as partner, joint
venturer, officer, director, employee,
6
<PAGE>
consultant, agent, independent contractor or stockholder (other than as provided
below) of any company or business, engage in any "Competitive Business" within
the United States. For purposes of the foregoing, the term "Competitive
Business" shall mean any business directly involved in prepaid
telecommunications services industry. Notwithstanding the foregoing, the
Executive shall not be prohibited during the noncompetition period applicable
above from acting as a passive investor where he owns not more than five percent
(5%) of the issued and outstanding capital stock of any publicly-held company.
During the period that the above noncompetition restriction applies, the
Executive shall not, without the written consent of the Company, solicit any
employee who is under contract with the Company or any current or future
subsidiary or affiliate thereof to terminate his or her employment; nor shall
the Executive solicit employees for any enterprise that competes with Company;
but shall have the right to solicit employees not under contract with the
Company for an enterprise that does not compete with the Company.
9. Breach of Restrictive Covenants. The parties agree that a breach
-------------------------------
or violation of Sections 6, 7 or 8 hereof will result in immediate and
irreparable injury and harm to the innocent party, and that such innocent party
shall have, in addition to any and all remedies of law and other consequences
under this Agreement, the right to seek an injunction, specific performance or
other equitable relief to prevent the violation of the obligations hereunder.
10. Notice. For the purposes of this Agreement, notices, demands and
------
all other communications provided for in this Agreement shall be in writing and
shall be deemed to have been duly given when delivered or (unless otherwise
specified) mailed by United States certified or registered mail, return receipt
requested, postage prepaid, addressed as follows:
(a) If to the Company, to:
Attn: David Hamburger
General Counsel
SmarTalk TeleServices, Inc.
1640 South Sepulveda Blvd., Suite 500
Los Angeles, CA 90025
(b) If to the Executive, to:
Joseph Borocz
3127 Denton Blvd.
Roswell, GA 30075
or to such other respective addresses as the parties hereto shall designate to
the other by like notice, provided that notice of a change of address shall be
effective only upon receipt thereof.
7
<PAGE>
11. Arbitration; Legal Fees. Except as provided in Section 9 hereof,
-----------------------
any dispute or controversy arising under or in connection with this Agreement
shall be settled exclusively by arbitration in Columbus, Ohio in accordance with
the rules of the American Arbitration Association then in effect. Judgment may
be entered on the arbitrator's award in any court having jurisdiction.
12. Waiver of Breach. Any waiver of any breach of this Agreement
----------------
shall not be construed to be a continuing waiver or consent to any subsequent
breach on the part either of the Executive or of the Company.
13. Non-Assignment; Successors. Neither party hereto may assign his
--------------------------
or its rights or delegate his or its duties under this Agreement without the
prior written consent of the other party; provided, however, that: (i) this
-------- -------
Agreement shall inure to the benefit of and be binding upon the successors and
assigns of the Company upon any sale of all or substantially all of the
Company's assets, or upon any merger, consolidation or reorganization of the
Company with or into any other corporation, all as though such successors and
assigns of the Company and their respective successors and assigns were the
Company; and (ii) this Agreement shall inure to the benefit of and be binding
upon the heirs, assigns or designees of the Executive to the extent of any
payments due to them hereunder. As used in this Agreement, the term "Company"
shall be deemed to refer to any such successor or assign of the Company
referred to in the preceding sentence.
14. Withholding of Taxes. All payments required to be made by the
--------------------
Company to the Executive under this Agreement shall be subject to the
withholding of such amounts, if any, relating to tax, and other payroll
deductions as the Company may reasonably determine it should withhold pursuant
to any applicable law or regulation.
15. Severability. To the extent any provision of this Agreement or
------------
portion thereof shall be invalid or unenforceable, it shall be considered
deleted therefrom and the remainder of such provision and of this Agreement
shall be unaffected and shall continue in full force and effect.
16. Payment. All amounts payable by the Company to the Executive
-------
under this Agreement shall be paid promptly on the dates required for such
payment in this Agreement without notice or demand. Any salary, benefits or
other amounts paid or to be paid to Executive or provided to or in respect of
the Executive pursuant to this Agreement shall not be reduced by amounts owing
from Executive to the Company.
17. Authority. Each of the parties hereto hereby represents that
---------
each has taken all actions necessary in order to execute and deliver this
Agreement and the Stock Option Agreement attached hereto as Exhibit A.
8
<PAGE>
18. Counterparts. This Agreement may be executed in one or more
------------
counterparts, each of which shall be deemed to be an original but all of which
together will constitute one and the same instrument.
19. Governing Law. This Agreement shall be construed, interpreted
-------------
and enforced in accordance with the laws of the State of Ohio, without giving
effect to the choice of law principles thereof.
20. Entire Agreement. This Agreement constitutes the entire
----------------
agreement by the Company and the Executive with respect to the subject matter
hereof and supersedes any and all prior agreements or understandings between the
Executive and the Company with respect to the subject matter hereof, whether
written or oral. This Agreement may be amended or modified only by a written
instrument executed by the Executive and the Company.
* * *
IN WITNESS WHEREOF, the parties have executed this Agreement as of
March __, 1998.
SMARTALK TELESERVICES, INC.
------------------------------------------
By: Jeff Lindauer
Its: President and Chief Operating Officer
------------------------------------------
Joseph Borocz
9
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<PAGE>
<ARTICLE> 5
<S> <C> <C>
<PERIOD-TYPE> 3-MOS YEAR
<FISCAL-YEAR-END> DEC-31-1997 DEC-31-1997
<PERIOD-START> JAN-01-1998 JAN-01-1997
<PERIOD-END> MAR-31-1998 DEC-31-1997
<CASH> 48,102,465 62,900,673
<SECURITIES> 0 0
<RECEIVABLES> 36,096,687 32,717,455
<ALLOWANCES> 593,026 182,206
<INVENTORY> 6,478,537 4,301,487
<CURRENT-ASSETS> 99,404,180 111,487,102
<PP&E> 18,006,889 14,700,744
<DEPRECIATION> 1,369,233 894,760
<TOTAL-ASSETS> 364,643,703 360,502,826
<CURRENT-LIABILITIES> 96,638,949 106,622,503
<BONDS> 0 0
0 0
0 0
<COMMON> 189,331,351 171,732,584
<OTHER-SE> 40,650 143,810
<TOTAL-LIABILITY-AND-EQUITY> 364,643,703 360,502,826
<SALES> 39,612,521 71,862,445
<TOTAL-REVENUES> 39,612,521 71,862,445
<CGS> 23,908,488 40,431,418
<TOTAL-COSTS> 23,908,488 40,431,418
<OTHER-EXPENSES> 14,535,109 92,950,042
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 2,390,958 3,590,187
<INCOME-PRETAX> (93,028) (61,899,474)
<INCOME-TAX> 0 0
<INCOME-CONTINUING> (93,028) (61,899,474)
<DISCONTINUED> (3,278,148) 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> (3,371,176) (61,899,474)
<EPS-PRIMARY> (0.15) (4.14)
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