<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 8-K
CURRENT REPORT
Pursuant to Section 13 or 15(d) of
The Securities Exchange Act of 1934
January 23, 1997
----------------------------
Date of Report (Date of earliest event reported)
Phoenix Network, Inc.
----------------------------
(Exact name of registrant as specified in its charter)
Delaware 0-17909 84-0881154
-------------- -------------- ---------------------
(State or other (Commission (I.R.S. Employer
jurisdiction of File Number) Identification No.)
incorporation)
1687 Cole Boulevard, Golden, Colorado 80401
------------------------------------------------
(Address of principal executive offices)
(303) 205-3500
----------------------------------------
(Registrant's telephone number, including area code)
1.
<PAGE> 2
ITEM 5. OTHER EVENTS.
As a result of the acquisition of AmeriConnect, Inc., the
Registrant has prepared the following financial statements for the periods
indicated in the Index to Financial Statements included therein.
2.
<PAGE> 3
PHOENIX NETWORK, INC.
INDEX TO FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
Page
FINANCIAL STATEMENTS OF PHOENIX NETWORK, INC.
<S> <C>
Report of Independent Certified Public Accountants F-2
Supplemental Consolidated Balance Sheets - December 31, 1994 and 1995 and
September 30, 1996 (unaudited) F-3
Supplemental Consolidated Statements of Operations - Years ended December
31, 1993, 1994, and 1995 and nine months ended September 30, 1995 and 1996
(unaudited) F-5
Supplemental Consolidated Statement of Stockholders' Equity - Years ended
December 31, 1993, 1994, and 1995 and nine months ended September 30, 1996
(unaudited) F-6
Supplemental Consolidated Statements of Cash Flows - Years ended December
31, 1993, 1994, and 1995 and nine months ended September 30, 1995 and 1996
(unaudited) F-8
Notes to Supplemental Consolidated Financial Statements F-11
Consolidated Balance Sheets - December 31, 1994 and 1995 and September 30,
1996 (unaudited) F-27
Consolidated Statements of Operations - Years ended December 31, 1993,
1994, and 1995 and nine months ended September 30, 1995 and 1996
(unaudited) F-28
Consolidated Statement of Stockholders' Equity - Years ended December 31,
1993, 1994, and 1995 and nine months ended September 30, 1996
(unaudited) F-29
Consolidated Statements of Cash Flows - Years ended December 31, 1993,
1994, and 1995 and nine months ended September 30, 1995 and 1996
(unaudited) F-31
Notes to Consolidated Financial Statements F-34
FINANCIAL STATEMENTS OF AMERICONNECT, INC.
Report of Independent Certified Public Accountants F-48
Consolidated Balance Sheets - December 31, 1994 and 1995 and September 30, 1996
(unaudited) F-49
Consolidated Statements of Operations - Years ended December 31, 1993,
1994, and 1995 and nine months ended September 30, 1995 and 1996
(unaudited) F-51
Consolidated Statement of Stockholders' Deficit - Years ended December 31, 1993,
1994, and 1995 and nine months ended September 30, 1996 (unaudited) F-52
Consolidated Statements of Cash Flows - Years ended December 31, 1993,
1994, and 1995 and nine months ended September 30, 1995 and 1996 (unaudited) F-53
Notes to Consolidated Financial Statements F-54
</TABLE>
F-1
<PAGE> 4
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
To the Stockholders and Board of Directors
Phoenix Network, Inc.
We have audited the accompanying consolidated balance sheets of Phoenix
Network, Inc. (a Delaware Corporation) and Subsidiaries as of December 31, 1994
and 1995, and the related consolidated statements of operations, stockholders'
equity, and cash flows for each of the three years in the period ended December
31, 1995. 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 in accordance with generally accepted auditing
standards. Those standards 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. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Phoenix Network, Inc. and Subsidiaries as of December 31, 1994 and 1995, and
the consolidated results of their operations and their consolidated cash flows
for each of the three years in the period ended December 31, 1995, in
conformity with generally accepted accounting principles.
As explained in note D, the Company changed its method of accounting for
deferred commissions in 1994.
We also made a similar audit of the supplemental consolidated balance
sheets of Phoenix Network, Inc. and Subsidiaries as of December 31, 1994 and
1995, and the related supplemental consolidated statements of operations,
stockholders' equity, and cash flows for each of the three years in the period
ended December 31, 1995. The supplemental statements give retroactive effect to
the merger with Americonnect, Inc. on October 8, 1996, which has been accounted
for as a pooling of interests as described in note A.
In our opinion, the supplemental financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of Phoenix Network, Inc. and Subsidiaries as of December 31,1994 and 1995, and
the consolidated results of their operations and their consolidated cash flows
for each of the three years in the period ended December 31, 1995, after giving
retroactive effect to the merger with Americonnect, Inc. as described in note
A, in conformity with generally accepted accounting principles.
As explained in note D to the supplemental consolidated financial
statements, the Company changed its method of accounting for deferred
commissions in 1994.
GRANT THORNTON LLP
San Francisco, California
March 28, 1996 (except for note A, as to which
the date is October 8, 1996)
F-2
<PAGE> 5
PHOENIX NETWORK, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED BALANCE SHEETS
ASSETS
<TABLE>
<CAPTION>
December 31,
------------------------- September 30,
1994 1995 1996
----------- ----------- -----------
(unaudited)
<S> <C> <C>
Current assets
Cash and cash equivalents (restricted -
$326,431 in 1994 and $225,356 in
1995 and 1996) $ 1,615,941 $ 8,298,003 $ 2,379,835
Accounts receivable, net of allowance
for doubtful accounts of $1,452,700 in
1994, $1,649,013 in 1995, and $2,297,328
at September 30, 1996 11,214,735 13,731,400 17,313,689
Notes and accounts receivable - agents,
including accrued interest, net of
allowance of $100,000 in 1994 253,064 1,492 1,602,848
Notes receivable - director/shareholder 11,500 14,500 --
Deferred income taxes 250,000 -- --
Deferred commissions 846,018 1,648,780 1,347,787
Other current assets 246,550 399,171 678,395
----------- ----------- -----------
Total current assets 14,437,808 24,093,346 23,322,554
Furniture, equipment and data processing
systems - at cost, less accumulated
depreciation of $922,166 in 1994, $1,350,597
in 1995, and $7,750,489 at September 30, 1996 1,555,099 886,665 4,411,699
Deferred income taxes 250,000 -- --
Deferred commissions 789,726 1,454,483 862,147
Customer acquisition costs, less accumulated
amortization of $431,525 in 1994, $1,005,262
in 1995, and $2,491,976 at September 30, 1996 203,483 2,447,619 3,288,828
Goodwill, less accumulated amortization of
$82,961 in 1995 and $991,300 at September 30,1996
-- 3,903,109 18,547,493
Other assets 332,194 243,048 850,067
----------- ----------- -----------
$17,568,310 $33,028,270 $51,282,788
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-3
<PAGE> 6
PHOENIX NETWORK, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED BALANCE SHEETS (continued)
LIABILITIES AND STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
December 31,
---------------------------- September 30,
1994 1995 1996
------------ ------------ ------------
(unaudited)
<S> <C> <C> <C>
Current liabilities
Notes payable to bank and finance company $ 2,553,103 $ 41,468 $ 1,656,060
Note payable to stockholder -- -- 131,406
Note payable to vendor -- -- 1,637,016
Accounts payable and accrued liabilities 10,503,355 13,799,153 20,005,587
------------ ------------ ------------
Total current liabilities 13,056,458 13,840,621 23,430,069
Note payable to stockholder -- -- 1,182,650
Finance company note -- -- 939,668
Stockholders' equity
Preferred stock - $.001 par value, authorized
5,000,000 shares, issued and outstanding
1,621,476 in 1994, 2,737,389 in 1995, and
2,725,014 shares at September 30, 1996,
liquidation preference aggregating $3,779,371,
$15,332,780, and $16,273,115 at December 31,
1994 and 1995 and September 30, 1996 1,622 2,737 2,725
Common stock - $.001 par value, authorized
50,000,000 shares, issued 13,826,012 in 1994,
16,952,455 in 1995, and 20,529,278 at
September 30, 1996 13,825 16,952 20,529
Additional paid-in capital 14,227,069 32,146,636 43,884,854
Accumulated deficit (9,728,142) (12,976,154) (18,175,185)
Treasury stock - 1,300 shares at cost (2,522) (2,522) (2,522)
------------ ------------ ------------
Total stockholders' equity 4,511,852 19,187,649 25,730,401
------------ ------------ ------------
$ 17,568,310 $ 33,028,270 $ 51,282,788
============ ============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
F-4
<PAGE> 7
PHOENIX NETWORK, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Nine months ended
Year ended December 31, September 30,
-------------------------------------------- ----------------------------
1993 1994 1995 1995 1996
------------ ------------ ------------ ------------ ------------
(unaudited)
<S> <C> <C> <C> <C> <C>
Revenues $ 53,905,328 $ 74,404,808 $ 75,854,969 $ 55,822,439 $ 78,234,398
Cost of revenues 39,380,656 52,649,359 53,775,779 39,396,806 56,676,168
------------ ------------ ------------ ------------ ------------
Gross profit 14,524,672 21,755,449 22,079,190 16,425,633 21,558,230
Selling, general and
administrative expenses 15,851,388 21,074,942 22,323,202 15,543,010 22,117,458
Depreciation and amortization 538,446 678,038 1,125,563 673,528 3,240,167
Relocation expenses -- -- -- -- 982,146
------------ ------------ ------------ ------------ ------------
16,389,834 21,752,980 23,448,765 16,216,538 26,339,771
------------ ------------ ------------ ------------ ------------
Operating income
(loss) (1,865,162) 2,469 (1,369,575) 209,095 (4,781,541)
Other income (expense)
Interest income 18,505 36,121 103,125 41,745 46,665
Interest expense (185,602) (425,222) (260,639) (234,627) (445,613)
Loss on abandonment of
fixed assets -- -- (1,019,648) (1,251) --
Miscellaneous income
(expense) (9,740) 42,897 (6,767) 377 13,790
------------ ------------ ------------ ------------ ------------
(176,837) (346,204) (1,183,929) (193,756) (385,158)
------------ ------------ ------------ ------------ ------------
Income (loss) before income
taxes and cumulative effect
of accounting change (2,041,999) (343,735) (2,553,504) 15,339 (5,166,699)
Income tax benefit (expense) 493,900 (16,405) (500,000) -- --
------------ ------------ ------------ ------------ ------------
Income (loss) before cumulative
effect of accounting change (1,548,099) (360,140) (3,053,504) 15,339 (5,166,699)
Cumulative effect of change
in amortization of deferred
commissions -- (123,224) -- -- --
------------ ------------ ------------ ------------ ------------
Net income (loss) $ (1,548,099) $ (483,364) $ (3,053,504) $ 15,339 $ (5,166,699)
============ ============ ============ ============ ============
Net income (loss) attributable
to common shares:
Net income (loss) $ (1,548,099) $ (483,364) $ (3,053,504) $ 15,339 $ (5,166,699)
Preferred dividends (267,419) (231,255) (594,381) (282,355) (940,775)
------------ ------------ ------------ ------------ ------------
$ (1,815,518) $ (714,619) $ (3,647,885) $ (267,016) $ (6,107,474)
============ ============ ============ ============ ============
Income (loss) per common share:
Income (loss) before
cumulative effect
of accounting change $ (0.15) $ (0.04) $ (0.24) $ 0.02 $ (0.30)
Cumulative effect of
accounting change -- (0.01) -- -- --
------------ ------------ ------------ ------------ ------------
Net income (loss)
per common share $ (0.15) $ (0.05) $ (0.24) $ 0.02 $ (0.30)
============ ============ ============ ============ ============
Weighted average common
shares 11,713,568 13,576,265 15,335,268 15,723,188 20,097,380
============ ============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
F-5
<PAGE> 8
PHOENIX NETWORK, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Three years ended December 31, 1995
and nine months ended September 30, 1996 (unaudited)
<TABLE>
<CAPTION>
Additional Accumulated
Preferred Common paid-in deficit from Treasury
Stock Stock capital May 1, 1989 Stock
------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1993 $ 1,978 $ 10,650 $ 9,297,148 $ (7,569,052) $ (2,522)
Exercise of stock options
and warrants -- 691 690,337 -- --
Conversion of preferred
stock into common stock (368) 482 13,619 (13,733) --
Issuance of common stock -- 991 2,856,485 -- --
Additions to treasury stock -- (11) (292) -- --
Preferred dividends -- -- -- (69,975) --
Net loss -- -- -- (1,548,099) --
------------ ------------ ------------ ------------ ------------
Balance at December 31, 1993 1,610 12,803 12,857,297 (9,200,859) (2,522)
Exercise of stock options -- 738 763,141 -- --
Conversion of preferred
stock into common stock (44) 277 43,686 (43,919) --
Issuance of preferred stock
upon conversion of debt 56 -- 558,874 -- --
Issuance of common stock -- 7 4,071 -- --
Net loss -- -- -- (483,364) --
------------ ------------ ------------ ------------ ------------
Balance at December 31, 1994 1,622 13,825 14,227,069 (9,728,142) (2,522)
Exercise of stock options and
warrants -- 418 525,914 -- --
Conversion of preferred
stock into common stock (4) 24 7,200 (7,220) --
Issuance of common stock, net
of expenses -- 2,685 6,314,779 -- --
Issuance of preferred stock, net
of expenses, and conversion
of Series E to Series F 1,119 -- 11,071,674 -- --
Preferred dividends -- -- -- (187,288) --
Net loss -- -- -- (3,053,504) --
------------ ------------ ------------ ------------ ------------
Balance at December 31, 1995 2,737 16,952 32,146,636 (12,976,154) (2,522)
</TABLE>
The accompanying notes are an integral part of this statement.
F-6
<PAGE> 9
PHOENIX NETWORK, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (continued)
Three years ended December 31, 1995
and nine months ended September 30, 1996 (unaudited)
<TABLE>
<CAPTION>
Additional Accumulated
Preferred Common paid-in deficit from Treasury
Stock Stock capital May 1, 1989 Stock
------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1995 $ 2,737 $ 16,952 $ 32,146,636 $(12,976,154) $ (2,522)
Exercise of stock options and
warrants (unaudited) -- 675 1,208,777 -- --
Issuance of common stock in
connection with business
combination (unaudited) -- 2,800 10,497,204 -- --
Conversion of preferred
stock into common stock
(unaudited) (12) 102 32,237 (32,327) --
Preferred dividend adjustment -- -- -- (5) --
Net loss (unaudited) -- -- -- (5,166,699) --
------------ ------------ ------------ ------------ ------------
Balance at September 30, 1996
(unaudited) $ 2,725 $ 20,529 $ 43,884,854 $(18,175,185) $ (2,522)
============ ============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of this statement.
F-7
<PAGE> 10
PHOENIX NETWORK, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Nine months ended
Year ended December 31, September 30,
-------------------------------------------- ----------------------------
1993 1994 1995 1995 1996
------------ ------------ ------------ ------------ ------------
(unaudited)
<S> <C> <C> <C> <C> <C>
Cash flows from operating activities
Cash received from customers $ 49,226,570 $ 71,432,918 $ 72,103,864 $ 51,499,662 $ 75,763,864
Interest received 9,213 8,121 83,227 24,959 39,777
Cash paid to suppliers and
employees (55,026,478) (69,551,595) (73,638,371) (52,359,691) (77,067,044)
Interest paid (162,078) (425,137) (259,919) (233,651) (394,027)
Cash paid for income taxes -- (20,105) (3,340) (3,340) (2,245)
------------ ------------ ------------ ------------ ------------
Net cash provided by (used in)
operating activities (5,952,773) 1,444,202 (1,714,539) (1,072,061) (1,659,675)
Cash flows from investing activities
Redemptions of certificates of
deposit 140,000 -- -- -- --
Purchases of furniture, equipment
and data processing systems (439,874) (990,934) (589,419) (575,927) (680,355)
Notes receivable - director/
shareholder -- (11,500) (3,000) (3,000) --
Notes receivable - employees -- -- -- -- (11,400)
Notes receivable - agents -- (206,995) (23,115) (20,000) (20,000)
Payments on director/shareholder
notes receivable 273,969 -- -- -- 14,500
Payments on agents notes receivable -- 5,838 70,900 74,864 752
Customer base acquisitions -- -- (1,553,238) (1,552,208) --
Business acquisitions, net of cash
acquired -- -- (4,692,153) (4,664,086) (4,085,093)
Acquisitions of other assets (308,990) (123,528) -- -- (372,921)
------------ ------------ ------------ ------------ ------------
Net cash used in investing
activities (334,895) (1,327,119) (6,790,025) (6,740,357) (5,154,517)
</TABLE>
The accompanying notes are an integral part of these statements.
F-8
<PAGE> 11
PHOENIX NETWORK, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
<TABLE>
<CAPTION>
Nine months ended
Year ended December 31, September 30,
-------------------------------------------- ----------------------------
1993 1994 1995 1995 1996
------------ ------------ ------------ ------------ ------------
(unaudited)
<S> <C> <C> <C>
Cash flows from financing activities
Proceeds from issuance of common
stock, net of offering costs 2,806,236 -- 6,317,464 6,400,019 --
Proceeds from issuance of preferred
stock, net of offering costs -- -- 11,072,793 9,520,655 --
Proceeds from sale of stock to officer -- 297,000 -- -- --
Proceeds from distribution of stock
to director -- 4,078 -- -- --
Proceeds from note payable to
stockholder 500,000 -- -- -- --
Payment on note payable from
stockholder (300,000) -- -- -- --
Proceeds from notes payable to
bank and finance company 4,450,537 3,450,000 6,143,950 4,130,000 9,965,604
Payments on notes payable to bank
and finance company (1,029,606) (4,317,828) (8,686,625) (4,128,359) (8,785,000)
Payments on note payable to vendor -- -- -- -- (1,494,033)
Payments on capital lease obligation (28,425) (16,584) -- -- --
Preferred stock dividends (69,975) -- (187,288) -- --
Proceeds from exercise of stock
options and warrants 691,028 466,880 526,332 374,171 1,209,453
------------ ------------ ------------ ------------ ------------
Net cash provided by (used in)
financing activities 7,019,795 (116,454) 15,186,626 16,296,486 896,024
------------ ------------ ------------ ------------ ------------
NET INCREASE (DECREASE)
IN CASH 732,127 629 6,682,062 8,484,068 (5,918,168)
Cash and cash equivalents at beginning
of period 883,185 1,615,312 1,615,941 1,615,941 8,298,003
------------ ------------ ------------ ------------ ------------
Cash and cash equivalents at end
of period $ 1,615,312 $ 1,615,941 $ 8,298,003 $ 10,100,009 $ 2,379,835
============ ============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
F-9
<PAGE> 12
PHOENIX NETWORK, INC. AND SUBSIDIARIES
SUPPLEMENTAL CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
<TABLE>
<CAPTION>
Nine months ended
Year ended December 31, September 30,
-------------------------------------------- ----------------------------
1993 1994 1995 1995 1996
------------ ------------ ------------ ------------ ------------
(unaudited)
<S> <C> <C> <C> <C> <C>
Reconciliation of net income (loss) to net
cash provided by (used in) operating
activities:
Net income (loss) $ (1,548,099) $ (483,364) $ (3,053,504) $ 15,339 $ (5,166,699)
Adjustments to reconcile net income
(loss) to net cash provided by (used
in) operating activities:
Cumulative effect of change in
amortization of deferred
commissions -- 123,224 -- -- --
Provision for doubtful accounts 2,201,105 2,440,369 2,689,250 1,508,251 1,731,429
Deferred taxes (500,000) -- 500,000 -- --
Abandonment of fixed assets -- -- 1,019,648 -- --
Depreciation and amortization 538,446 678,038 1,125,563 673,528 3,240,167
Changes in assets and liabilities
Accounts receivable (4,678,758) (2,971,890) (3,751,105) (4,322,777) (4,010,313)
Deferred commissions (2,435,029) 713,839 (1,467,519) 17,755 893,320
Other current assets 882 104,449 (163,740) 35,496 7,146
Other assets (36,707) (11,494) 511 (932,369) (215,693)
Accounts payable and
accrued liabilities 505,387 851,031 1,386,357 1,932,716 1,860,968
------------ ------------ ------------ ------------ ------------
Net cash provided by (used in)
operating activities $ (5,952,773) $ 1,444,202 $ (1,714,539) $ (1,072,061) $ (1,659,675)
============ ============ ============ ============ ============
Non-cash financing and investing activities :
Conversion of preferred stock
into common stock $ 14,101 $ 43,963 $ -- $ 12,436 $ 32,330
Conversion of note payable to
stockholder, including accrued
interest, into preferred stock -- 558,930 -- -- --
Noncash components of consideration
issued in connection with business
combination:
Common stock -- -- -- -- 10,500,000
Note payable to stockholder -- -- -- -- 1,314,056
Assumption of net liabilities -- -- -- -- 1,606,976
Purchase of data processing system and
issuance of a note payable -- -- -- -- 1,403,181
</TABLE>
The accompanying notes are an integral part of these statements.
F-10
<PAGE> 13
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE A - BASIS OF PRESENTATION
The supplemental consolidated financial statements of Phoenix Network,
Inc. and subsidiaries ("Phoenix" or the "Company") have been prepared to
give retroactive effect to the merger with Americonnect, Inc. on October
8, 1996. Generally accepted accounting principles proscribe giving
effect to a consummated business combination accounted for by the
pooling of interests method in financial statements that do not include
the date of consummation. These financial statements do not extend
through the date of consummation, however, they will become the
historical consolidated financial statements of the Company after
financial statements covering the date of consummation of the business
combination are issued.
NOTE B - DESCRIPTION OF COMPANY AND SUMMARY OF ACCOUNTING POLICIES
Phoenix was a switchless reseller of long distance telecommunication
services designed primarily for small to medium sized commercial
accounts located throughout the United States. The Company also resells
services to individuals. Effective January 1, 1996, as a result of the
acquisition of Automated Communications, Inc. ("ACI"), the Company
became a facilities based reseller (see note C). The Company provides
its customers with long distance services utilizing the networks of
facilities-based carriers, such as American Telephone & Telegraph
Company, MCI Telecommunications Corporation, Sprint Communications,
L.P., ALC Communications Corporation, WorldCom, Inc. (formerly Wiltel,
Inc.) and others, who handle the actual call transmission services. The
carriers bill Phoenix at contractual rates for the combined usage of
Phoenix's customers utilizing their network. Phoenix then bills its
customers individually at rates established by Phoenix.
The following is a summary of the Company's significant accounting
policies applied in the preparation of the accompanying consolidated
financial statements.
o Principles of Consolidation
The consolidated financial statements include the accounts of the
Company and its subsidiaries. All significant intercompany
transactions are eliminated in consolidation.
o Revenue Recognition
Revenue is recognized in the month in which the Company's
customers complete the telephone call.
o Cash and Cash Equivalents
The Company considers demand deposits, certificates of deposit
and United States Treasury bills purchased with a maturity of
three months or less as cash and cash equivalents. The carrying
amount approximates fair value because of the short maturity of
these instruments.
F-11
<PAGE> 14
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE B - DESCRIPTION OF COMPANY AND SUMMARY OF ACCOUNTING POLICIES (continued)
o Deferred Commissions
Deferred commissions consist of direct commissions paid on a one
time basis to third parties upon the acquisition of new
customers. Such charges were amortized on a straight line basis
over twelve to twenty-four months, based on the future
anticipated benefit, beginning with the month following the month
the customer's service is activated. Effective January 1, 1994,
the Company changed its method for amortizing deferred
commissions to the sum of the years digits method and changed the
period benefitted to a four year period (see note D).
o Furniture, Equipment and Data Processing Systems
Depreciation of fixed assets is provided over their estimated
service lives, generally five years, utilizing the straight-line
method.
o Customer Acquisition Costs
Customer acquisition costs represent the value of an acquired
billing base of customers and are amortized using the sum of the
years digits and straight-line methods over a four year period.
o Goodwill
Goodwill represents the excess of cost over the fair value of net
assets acquired and is being amortized by the straight-line
method over 20 years.
o Use of Estimates
In preparing financial statements in conformity with generally
accepted accounting principles, management is required to make
estimates and assumptions that affect the reported amounts of
assets and liabilities and the disclosure of contingent assets
and liabilities at the date of the financial statements, as well
as revenues and expenses during the period. Significant estimates
made by management include the allowance for doubtful accounts,
estimated carrier credits, and the amortization periods related
to acquired customers and goodwill. Actual results could differ
from those estimates.
o Income Taxes
Deferred income taxes are recognized for tax consequences of
temporary differences by applying current tax rates to
differences between the financial reporting and the tax basis of
existing assets and liabilities. Deferred tax assets in 1994
arose primarily from net operating loss carryforwards.
F-12
<PAGE> 15
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE B - DESCRIPTION OF COMPANY AND SUMMARY OF ACCOUNTING POLICIES (continued)
o Interim Financial Statements
The accompanying unaudited supplemental financial statements have
been prepared in accordance with generally accepted accounting
principles for interim financial information and Article 10 of
Regulations S-X. Accordingly, they do not include all the
information and footnotes required by generally accepted
accounting principles for complete financial statements. In the
opinion of management, all adjustments (consisting of normal
recurring accruals) considered necessary for a fair presentation
have been included. Operating results for the interim periods are
not necessarily indicative of the results that may be expected
for the full year.
NOTE C - ACQUISITIONS
In August of 1995, the Company acquired in purchase transactions, the
customer bases and substantially all of the assets and liabilities of
Tele-Trend Communications, LLC ("Tele-Trend"), a Denver based switchless
reseller, and Bright Telecom L.P. ("Bright"), an international call-back
provider, for $4,369,317 and $356,388, respectively.
The operations of Tele-Trend and Bright are included from August 1,
1995.
Additionally, during 1995, the Company acquired three customer bases at
a cost of $2,078,238. At December 31, 1995, accounts payable includes
$525,000 due for the purchase of one of the customer bases. The Company
may be required to make additional payments of up to $375,000, depending
upon the future performance of one of the bases.
In January 1996, the Company acquired Automated Communications, Inc.
("ACI"), a Golden, Colorado facilities-based long distance phone service
carrier operating state-of-the-art switching centers in Colorado
Springs, Minneapolis and Phoenix. Consideration for the acquisition was
in the form of $4,086,693 in cash, 2,800,000 shares of the Company's
common stock valued at approximately $10,500,000, a long term note of
$1,314,056 bearing interest at 9%, and the assumption of net liabilities
of $1,606,976. The Company's consolidated results of operations include
ACI from January 1, 1996, the effective date of the purchase
transaction. The excess of the purchase price over the fair market value
of the assets and liabilities acquired has been allocated to customer
acquisition costs ($1,950,000) and to goodwill ($15,557,725). Customer
acquisition costs are amortized over 4 years using the
sum-of-the-years-digits method and goodwill is amortized on a straight
line basis over 20 years.
The following unaudited condensed pro forma information presents the
results of operation of the Company as if the acquisition of ACI and
Tele-Trend had occurred on January 1, 1995.
F-13
<PAGE> 16
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE C - ACQUISITIONS (continued)
<TABLE>
<CAPTION>
Year ended Nine months ended
December 31, 1995 September 30, 1995
----------------- ------------------
<S> <C> <C>
Revenue $ 104,727,000 $ 79,931,000
Net income (loss) (4,428,000) 527,000
Net income (loss) attributable
to common shares (5,603,000) (336,000)
Net income (loss) per common share $ (0.31) $ (0.02)
Weighted average number of shares
outstanding 17,905,000 18,523,000
</TABLE>
NOTE D - ACCOUNTING CHANGES AND OTHER MATTERS
Effective January 1, 1993, the Company adopted Statement of Financial
Accounting Standards (SFAS) No. 109, "Accounting for Income Taxes," which
requires an asset and liability approach to financial accounting and
reporting for income taxes. The difference between the financial statements
and tax bases of assets and liabilities is determined annually. Deferred
income tax assets and liabilities are computed for those differences that
have future tax consequences using the currently enacted tax laws and rates
that apply to the periods in which they are expected to affect taxable
income. Valuation allowances are established, if necessary, to reduce the
deferred tax asset to the amount that will more likely than not be realized.
There was no cumulative effect of adopting SFAS No. 109. For the year ended
December 31, 1993, the effect of adopting SFAS No. 109 was to reduce the net
loss and net loss attributable to common shares by $500,000 ($0.04 per common
share).
During 1993, one of the Company's service providers underbilled the Company
for usage of long distance services by approximately $330,000. The vendor
stated they would not bill the Company for this amount. Without this
underbilling the Company's 1993 net loss and net loss attributable to common
shares would have increased by $330,000 ($0.03 per common share).
Effective January 1, 1994, the Company changed its method of accounting for
deferred commissions from the straight-line basis to the sum of the years
digits method. Additionally, the Company changed their estimate of the period
benefitted from two years to four years. Management believes that these
changes more accurately match expense with the revenues generated by the
customer base. The cumulative effect of the change in accounting method was
to increase accumulated amortization at January 1, 1994 by approximately
$123,000. The pro forma effect of the change in method on periods prior to
1994 is not material. The effect of both changes was to reduce the 1994
amortization expense and loss before cumulative effect of change in
accounting by approximately $242,000 ($0.02 per common share).
F-14
<PAGE> 17
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE E - NOTES RECEIVABLE - AGENTS
The Company conducts a portion of its business through agents. Some of these
agents have borrowed from the Company in order to obtain necessary capital to
expand their operations. These borrowings are represented by short term
promissory notes. The terms of the notes permit the company to withhold the
monthly payments from commissions due the agents, if necessary. The interest
rate for all the notes is 2 1/2% over prime. At December 31, 1994, a reserve
of $100,000 was established against amounts due from a specific agent. During
1995, the Company and this agent became involved in litigation, and it was
determined that no recovery on the amounts would be made. As a result, the
remaining receivable of $398,061 due from this Agent was written off. The
company has negotiated a mutual release of all claims with this specific
agent. The Company received a credit in the amount of $300,000 in the second
quarter of 1996 as a partial recovery of the amounts previously written off.
NOTE F - FURNITURE, EQUIPMENT AND DATA PROCESSING SYSTEMS
Furniture, equipment and data processing systems consist of the following:
<TABLE>
<CAPTION>
December 31,
----------------------------
1994 1995
---------- ----------
<S> <C> <C>
Data processing systems $1,078,581 $1,404,833
Billing system software 830,507 --
Furniture and fixtures 357,838 331,094
Other equipment 280,339 501,335
---------- ----------
2,547,265 2,237,262
Less accumulated depreciation (992,166) (1,350,597)
---------- ----------
$1,555,099 $ 886,665
========== ==========
</TABLE>
The loss on abandonment of assets in 1995 primarily relates to a write-off of
software development costs. Management decided to minimize the risk of
development and to have access to a new system on a more timely basis and,
accordingly, has decided to license an existing billing system from a vendor.
The Company expects to spend up to $3,000,000 to license the system and to
acquire the necessary enhancements and hardware to operate it.
F-15
<PAGE> 18
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE G - NOTES PAYABLE TO FINANCE COMPANY AND BANK
In September 1995, the Company renewed its Loan and Security Agreement (the
"Agreement") with a finance company to make available to the Company a line
of credit of up to $10,000,000. The Company may borrow up to the lesser of
$10,000,000 or its borrowing base, which is defined as a percentage of its
eligible receivables. The term of the Agreement is three years, expiring
October 1998, with automatic renewal options. There are penalties for early
termination by the Company. Borrowings bear interest at 1.75% over the
"reference rate", as defined. In connection with the renewal, fees and
transaction costs of $80,972 were incurred, which are being amortized on a
straight-line basis over three years. The loan is collateralized by the
Company's accounts receivable, equipment, general intangibles and other
personal property assets. Among other provisions, the Company must maintain
certain minimum financial covenants, is prohibited from paying dividends
without the approval of the finance company, and is subject to limits on
capital expenditures.
At December 31, 1995, $10,428 was outstanding under the line and the interest
rate was 10.25%. The Company has a letter of credit totalling $500,000
outstanding for the benefit of a vendor to secure payments under the contract
terms. The amount of the letter of credit reduces the amount available on the
line of credit.
Average daily outstanding borrowing for the year ended December 31, 1995 on
the $10,000,000 line of credit was $1,426,014 at a weighted average interest
rate of 11.52%. The highest month-end balance outstanding for the year ended
December 31, 1995 was $3,119,733.
The Company also assumed a $100,000 line of credit with a commercial bank in
conjunction with the acquisition of Tele- Trend. The line of credit bears
interest at a rate of the bank's prime rate plus 2.5%. Outstanding borrowings
at December 31, 1995 were $31,040 and the interest rate was 11%. This line
was paid off and expired in February 1996.
On June 8, 1995, the Company's subsidiary, Americonnect, Inc., entered into a
revolving credit facility which allows for maximum borrowings by the Company
of the lesser of $1,000,000 or 50% of eligible (less than 61 days old)
receivables. Interest is payable monthly at the bank's prime rate (8.5% at
December 31, 1995) plus 1%. Under the terms of the credit facility,
Americonnect is required to meet certain financial covenants. The line is
secured by all of Americonnect's accounts receivable. During 1995,
Americonnect had used this facility for short term borrowings, but had no
outstanding borrowings at year end. This revolving credit facility was
renewed on June 1, 1996 (to expire October 1, 1996). Interest is payable
monthly at the bank's prime rate (8.25% at September 30, 1996) plus 2%.
In accordance with the terms of the credit facility, the Company purchased a
term life insurance policy on the subsidiary's President with a face amount
of $1,750,000 during the year ended December 31, 1994.
F-16
<PAGE> 19
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE H - LEASES
The Company has operating leases for office space and equipment which expire
on various dates through 2000, and which require that the Company pay certain
maintenance, insurance and other operating expenses. Rent expense for the
years ended December 31, 1993, 1994 and 1995, was $543,745, $856,797 and
$1,028,462, respectively.
Future minimum lease payments for years ending December 31, are as follows:
<TABLE>
<S> <C> <C>
1996 $1,217,787
1997 1,011,370
1998 669,557
1999 594,942
2000 190,735
----------
Total $3,684,391
==========
</TABLE>
NOTE I - COMMITMENTS AND CONTINGENCIES
The Company has contracts with its major vendors to provide
telecommunications services to its customers. The agreements cover the
pricing of the services and are for periods of two to four years. Among other
provisions, the agreements contain minimum usage requirements which must be
met to receive the contractual price and to avoid shortfall penalties. At
December 31, 1995, a shortfall of approximately $719,545 was accumulated
under a contract with Sprint. At December 31, 1995 the Company was in
compliance with all other contractual requirements. Total future minimum
usage commitments at December 31, 1995 are as follows:
<TABLE>
<CAPTION>
Year ending
December 31, Commitment
------------ ----------
<S> <C> <C>
1996 $57,500,000
1997 36,300,000
1998 950,000
Total $94,750,000
</TABLE>
F-17
<PAGE> 20
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE J - CAPITAL STOCK
Preferred Stock
The Company's certificate of incorporation authorizes the issuance of up to
5,000,000 shares of $.001 par value preferred stock. At December 31, 1995,
the Company's authorized preferred stock is allocated as follows:
<TABLE>
<CAPTION>
Authorized Issued and
Shares Outstanding
--------- ---------
<S> <C> <C>
Reserved shares:
Series A 300,000 101,750
Series B 200,000 126,250
Series C 1,000,000 1,000,000
Series D 666,666 333,333
Series F 1,200,000 1,176,056
Undesignated shares 1,633,334 --
--------- ---------
Total 5,000,000 2,737,389
========= =========
</TABLE>
In September 1990, the Company issued 155,500 shares of its Series A
Preferred Stock ("Series A") at $10 per share. The shares are entitled to 9%
cumulative dividends, voting rights and are convertible into common stock
subject to certain anti-dilution provisions. In connection with the offering
the Company also issued a warrant for 62,200 shares of common stock with an
exercise price of $2.50 per share to an investment banking firm, controlled
by an individual, who was subsequently elected to the Company's Board of
Directors. The warrant expires in February 1997. Net proceeds to the Company,
after offering costs of $116,054, were $1,438,987. During 1994, 16,000 shares
of Series A were converted into 70,996 shares of common stock. During 1995,
3,000 shares of Series A were converted into 14,449 shares of common stock.
At December 31, 1995, the outstanding Series A shares were convertible into
420,431 shares of common stock.
In December 1991, the Company issued 95,000 shares of its Series B Preferred
Stock ("Series B") at $10 per share. The shares are entitled to 9% cumulative
dividends, voting rights and are convertible into shares of common stock
subject to certain anti-dilution provisions. Net proceeds to the Company
after offering costs of $46,209, were $903,790. In 1992 the Company completed
the sale of an additional 60,500 shares of the Series B shares at $10 per
share on the same terms. Net proceeds to the Company from the sales in
January and February 1992 were $588,075, after offering costs of $16,925. In
connection with the offering, the Company issued a warrant to an investment
banking firm, controlled by one of the Company's directors, for 69,750 shares
of common stock with an exercise price of $2.00 per share. The warrant
expires in February 1997. Of the total offering costs, the investment banking
firm, controlled by one of the Company's directors, received approximately
$56,000. During 1995, 1,250 shares of Series B were converted into 9,749
shares of common stock. At December 31, 1995, the outstanding Series B shares
are convertible into 841,709 shares of common stock.
F-18
<PAGE> 21
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE J - CAPITAL STOCK (continued)
In November 1992, the Company issued 1,000,000 shares of its Series C
Preferred Stock ("Series C") to one of its major vendors as collateral for
amounts due the vendor for services provided. If the Company defaults on
amounts owed the vendor, the vendor would have the right to convert its
preferred shares into the number of common shares, on a two for one basis,
that would have a market value equal to three times the vendor's most recent
invoice to the Company less $1,500,000. The Series C has a 4% non-cumulative
dividend preference over common stock; however, such dividends shall only be
paid following payment of dividends on other previously issued series of
preferred stock, and then only at the discretion of the Company's board of
directors. The preferred has no voting rights.
In December 1992, the Company issued 666,666 shares of its Series D Preferred
Stock at $1.50 per share. The shares are entitled to 6% non-cumulative
dividends, when and if declared by the Board of Directors and only after
payment of dividends on previously issued series of preferred stock. These
shares are non-voting and are convertible into common stock subject to
certain anti-dilution provisions. In connection with the offering, the
Company issued a warrant to an investment banking firm, controlled by one of
the Company's directors, for 22,000 shares of common stock with an exercise
price of $1.50 per share. The warrant expires in December 1997. Net proceeds
to the Company, after offering costs of $48,717 were $951,283. Approximately
$45,000 of the offering costs were paid to an investment banking firm
controlled by one of the Company's directors. In 1993, 333,333 Series D
Preferred shares were converted into common shares on a one for one basis. At
December 31, 1995, the outstanding Series D Preferred shares are convertible
into 333,333 shares of common stock.
In September 1994, the Company issued 55,893 shares of Series E Preferred
Stock at $10 per share under an agreement to convert the note payable to
stockholder, with a principle balance of $500,000 and accrued interest of
$58,930. In connection with the issuance of the stock, the Company issued the
stockholder a five year warrant for 100,000 shares of the Company's common
stock which was canceled when the Series E shares were converted to Series F
Preferred Stock (see below).
During the period July 1995 through October 1995, the Company raised
approximately $11,024,207, net of offering costs of $129,963, through a
private placement of 1,115,417 shares of its Series F Preferred Stock at $10
per share. Additionally, the holder of the Company's Series E Preferred Stock
exchanged their Series E shares, plus accumulated and unpaid dividends of
$47,467, for 60,639 shares of Series F Preferred Stock. The Series F shares
are entitled to 9% cumulative dividends, voting rights, demand registration
rights for the underlying common shares after six months and are convertible
initially into 4,704,224 shares of common stock, subject to anti-dilution
provisions. The holders of the Series F also received warrants for the
purchase of 470,422 shares of common stock with an exercise price of $3.00
per share which expire in October 2000. The Series F shareholders have the
right to place two directors on the Company's board (the "Series F
Directors") and the Company is subject to certain covenants requiring it to
obtain the consent of the Series F Directors for certain transactions
including mergers, acquisitions and incurring additional indebtedness in
excess of $20,000,000. At December 31, 1995, the outstanding Series F
Preferred shares are convertible into 4,704,224 shares of common stock.
F-19
<PAGE> 22
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE J - CAPITAL STOCK (continued)
The common shares reserved for issuance upon the conversion of Series A, B, C
and D Preferred Stock have been registered for resale with the Securities and
Exchange Commission.
At December 31, 1995, the Company had cumulative, unpaid dividends on Series
A, B and F Preferred Stock of $259,922 ($2.55 per share), $322,508 ($2.55 per
share) and $208,790 ($.18 per share), respectively.
Common Stock
In July 1993, the Company completed a private placement of 793,331 shares of
its common stock for cash at $3.75 per share. Net proceeds to the Company
after offering costs of $168,755 were $2,806,236. A five-year warrant to
purchase 53,333 shares of the Company's common stock at $3.75 per share was
issued to a third party in connection with the placement.
In 1993, the Company's subsidiary, Americonnect, issued 198,220 shares of
common stock to Directors with respect to service on its Board of Directors.
In 1994, the President of the Company's subsidiary, Americonnect, exercised
an option to purchase 324,360 shares of common stock at $0.92 per share. The
option had been granted in 1993 in connection with the subsidiary's revolving
credit agreement.
In May 1995, the Company closed a private placement of its common stock which
raised $727,519, net of offering costs of $119,481. The Company sold 385,000
units, at $2.20 per unit, in an off-shore financing pursuant to Regulation S
under the Securities Act of 1933. A unit consists of one share of common
stock and a five year warrant for one-half share of common stock. Two
warrants can be exercised to purchase one share of common stock at $2.20 per
share. In connection with the transaction, the placement agent was issued a
five year warrant to purchase 38,500 units at $2.42 per unit. The Company
closed another private placement of its common stock under Regulation S in
September 1995. In this transaction, the Company sold 2,300,000 shares of
common stock for $2.75 per share. Proceeds to the Company, net of offering
costs of $735,055 were $5,589,945.
Stock Options and Warrants
In 1987, the Company granted certain directors stock options to purchase up
to 900,000 shares of common stock at a price of $0.10 per share, expiring no
earlier than ten (10) years from the grant date. At December 31, 1995,
options for 500,000 shares remain outstanding.
F-20
<PAGE> 23
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE J - CAPITAL STOCK (continued)
The Company's 1989 Stock Option Plan authorizes the grant of incentive stock
options or supplemental stock options for up to 5,000,000 shares of common
stock. The exercise price of each incentive stock option shall be not less
than 100% of the fair market value of the stock on the date the option is
granted. The exercise price of each supplemental stock option shall be not
less than eighty-five percent (85%) of the fair market value of the stock on
the date the option is granted.
In November 1992, the Board of Directors approved the 1992 Non-Employee
Directors' Stock Option Plan. Under the plan, 480,000 shares of common stock
have been reserved for issuance to non-employee directors of the Company.
Options are granted annually based upon length of service at fair market
value at date of grant.
The Company's subsidiary, Americonnect, had two stock option plans. All
options have been converted into options for Company common stock and are
included in the following summary. The options were granted at prices from
$0.08 to $2.06 per share of Company common stock.
Common shares under the Company's option plans are summarized below:
<TABLE>
<CAPTION>
Number Price
of shares per share
--------- --------------
<S> <C> <C> <C>
Outstanding at January 1, 1993 2,024,799 $0.10 to $3.12
Exercised (390,562) $1.00 to $5.94
Granted 2,252,684 $0.08 to $5.94
Canceled (1,433,429) $1.00 to $5.94
----------
Outstanding at December 31, 1993 2,453,492 $0.08 to $5.94
Exercised (412,876) $0.08 to $5.63
Granted 1,125,433 $2.06 to $6.38
Canceled (505,984) $0.08 to $6.88
----------
Outstanding at December 31, 1994 2,660,065 $0.08 to $6.88
Exercised (382,851) $0.08 to $3.94
Granted 898,414 $0.71 to $6.38
Canceled (156,458) $0.08 to $6.88
----------
Outstanding at December 31, 1995 3,019,170 $0.08 to $6.38
==========
Exercisable at December 31, 1994 1,244,797 $0.08 to $6.88
==========
Exercisable at December 31, 1995 1,797,977 $0.08 to $6.38
==========
</TABLE>
F-21
<PAGE> 24
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE J - CAPITAL STOCK (continued)
Common shares subject to warrants are summarized below:
<TABLE>
<CAPTION>
Number Price
of shares per share
--------- ---------
<S> <C> <C> <C>
Outstanding at January 1, 1993 453,950 $0.75 to $2.50
Exercised (300,000) $ 0.75
Granted 232,583 $3.25 to $7.00
---------
Outstanding at December 31, 1993 386,533 $1.50 to $7.00
Granted 125,000 $ 3.25
---------
Outstanding at December 31, 1994 511,533 $1.50 to $7.00
Exercised (34,675) $ 2.42
Granted 720,672 $2.42 to $3.00
Canceled (100,000) $ 3.25
---------
Outstanding at December 31, 1995 1,097,530 $1.50 to $7.00
=========
All warrants are exercisable at grant.
</TABLE>
NOTE K - INCOME (LOSS) PER COMMON SHARE
Income (loss) per common share is based upon the weighted average number of
common and dilutive common equivalent shares outstanding. The preferred
dividend requirements on preferred stock are deducted in computing income
(loss) per common share.
NOTE L - INCOME TAXES
As of December 31, 1995, the Company has available to offset future Federal
taxable income, net operating loss carryforwards (NOL) of approximately
$12,700,000 which expire in varying amounts from 2002 through 2010.
Approximately $3,700,000 of the NOL's may be subject to limitations as a
result of provisions of the Internal Revenue Code related to changes in
ownership and utilization of losses by successor entities.
The Company's effective income tax rate is different from the Federal
statutory income tax rate because of the following factors:
F-22
<PAGE> 25
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE L - INCOME TAXES (continued)
<TABLE>
<CAPTION>
Year ended December 31,
-------------------------------
1993 1994 1995
----- --- ----
<S> <C> <C> <C>
Federal tax rate applied to
loss before taxes (34.0)% (34.0)% (34.0)%
State income tax effect (2.7) (5.7) (5.9)
Valuation allowance on
deferred taxes 12.5 44.4 59.5
----- --- ----
Effective tax rate (24.2)% 4.7% 19.6%
===== === ====
</TABLE>
Deferred income tax assets and valuation allowance are as follows:
<TABLE>
<CAPTION>
December 31,
--------------------------
1994 1995
----------- -----------
<S> <C> <C>
Current
Allowance for bad debts $ 661,000 $ 704,000
Noncurrent
Non-current assets 237,000 291,000
Net operating loss carryforward 3,614,000 4,934,000
----------- -----------
3,851,000 5,225,000
----------- -----------
4,512,000 5,929,000
Valuation allowance (4,012,000) (5,929,000)
----------- -----------
$ 500,000 $ --
=========== ===========
</TABLE>
In 1993, the Company's subsidiary, Americonnect, Inc., reduced its valuation
allowance by $500,000 due to changes in circumstances subsequent to adoption
of SFAS No. 109 (see note D). The changes in circumstances related to
increased cash flows, increased profitability and anticipated continued
increases. Due to operating losses in 1995, Americonnect is no longer able to
determine it would more likely than not realize the deferred asset. As a
result of this change in estimate, the valuation allowance was increased by
$500,000.
F-23
<PAGE> 26
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE L - INCOME TAXES (continued)
The components of income tax benefit (expense) related to loss before
cumulative effect of accounting change are as follows:
<TABLE>
<CAPTION>
Year ended December 31,
-----------------------------------
1993 1994 1995
--------- --------- ---------
<S> <C> <C> <C>
Current $ (6,100) $ (16,405) $-
Deferred 500,000 -- (500,000)
--------- --------- ---------
$ 493,900 $ (16,405) $(500,000)
========= ========= =========
</TABLE>
The increase in the valuation allowance was approximately $1,990,000,
$548,000 and $1,917,000 for the years ended December 31, 1993, 1994 and 1995,
respectively.
NOTE M - TRANSACTION WITH BSN TELECOM COMPANY
On September 29, 1992, the Company and BSN Telecom Company ("BSN") entered
into an agreement (the "Agreement"), effective as of September 1, 1992,
whereby BSN agreed to transfer its rights to its long distance
telecommunications rebilling account base to the Company in exchange for
1,133,333 shares of the Company's common stock. Under the Agreement, BSN
received certain demand registration rights with respect to the shares which
were exercised in 1993 and gave the Board of Directors of Phoenix an
irrevocable proxy to vote all of the shares at all meetings of Phoenix's
stockholders. The proxy expired on November 30, 1993.
In connection with the transaction with BSN, CONCORD Services, Inc.
("Concord"), an affiliate of BSN, and Proactive Partners, L.P., an affiliate
of Phoenix, each purchased $500,000 of Series D Preferred Stock (see note J).
Additionally, Concord agreed to provide services to Phoenix in negotiating
future acquisitions and purchases of both switched and switchless long
distance companies under an exclusive agency agreement which expired on
December 31, 1993.
The Company has recorded the issuance of the 1,133,333 shares in exchange for
a customer base valued at $578,333 and other assets of $45,000.
F-24
<PAGE> 27
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE N - EMPLOYEE BENEFIT PLANS
On June 1, 1993, the Company established a 401(k) tax savings plan for all
employees. Employer and participant contributions to the plan become fully
vested and nonforfeitable. The plan is a defined contribution plan covering
all of its employees. Under this plan, employees with a minimum of one year
of qualified service can elect to participate by contributing a minimum of 1
percent of their gross earnings up to a maximum of 20 percent.
For those eligible plan participants, the Company will contribute an amount
equal to 100 percent of each participant's personal contribution up to an
annual maximum of $1,000. The Company's contributions to the 401(k) plan for
the year ending December 31, 1993, 1994 and 1995 were approximately $14,000,
$23,000 and $59,000 respectively.
NOTE O - NEW PRONOUNCEMENTS
o Stock-Based Compensation
The Company has not elected early adoption of Financial Accounting
Standard No. 123 ("FAS 123"), Accounting for Stock-Based Compensation. FAS
123 becomes effective beginning with the Company's first quarter of 1996.
Upon adoption of FAS 123, the Company will continue to measure
compensation expense for its stock-based employee compensation plans using
the intrinsic value method prescribed by APB Opinion No. 25, Accounting
for Stock Issued to Employees, and will provide pro forma disclosures of
net income and earnings per share as if the fair value method prescribed
by FAS 123 had been applied in measuring compensation expense. For options
granted to non-employees after December 15, 1995, the Company will be
required to apply the fair value method prescribed by FAS 123. The Company
has not determined the effect of adopting FAS 123 on the consolidated
financial position or operating results.
o Other Recent Pronouncements
In 1995, Financial Accounting Standards No. 121 ("FAS 121"), Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be
Disposed Of, was issued and is effective for fiscal years commencing after
December 15, 1995. FAS 121 is not expected to have a material effect on
the Company's consolidated financial position or operating results.
F-25
<PAGE> 28
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO SUPPLEMENTAL CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE P - FOURTH QUARTER ADJUSTMENTS
During the fourth quarter of 1995, the Company recorded adjustments of
approximately $940,000 relating primarily to receivables and the deferred tax
asset.
F-26
<PAGE> 29
PHOENIX NETWORK, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
ASSETS
December 31, September 30,
1994 1995 1996
------------ ------------ ------------
(unaudited)
<S> <C> <C> <C>
Current assets
Cash and cash equivalents (restricted - $326,431 in 1994
and $225,356 in 1995 and 1996) $ 1,209,999 $ 8,004,511 $ 2,092,423
Accounts receivable, net of allowance for doubtful accounts of
$1,164,000 in 1994, $1,288,000 in 1995, and $1,917,000 in 1996 8,825,944 11,763,520 16,732,195
Deferred commissions 808,740 1,522,738 1,293,220
Other current assets 209,340 304,920 591,290
------------ ------------ ------------
Total current assets 11,054,023 21,595,689 20,709,128
Furniture, equipment and data processing systems - at cost,
less accumulated depreciation of $837,990 in 1994,
$1,119,729 in 1995 and $7,457,608 in 1996 1,430,467 743,463 4,311,465
Deferred commissions 789,726 1,454,483 862,147
Customer acquisition costs, less accumulated amortization of
$431,525 in 1994, $1,005,262 in 1995, and $2,491,976 in 1996 203,483 2,447,619 3,288,828
Goodwill, less accumulated amortization of $82,961 in 1995 and
$882,040 in 1996 -- 3,903,109 18,547,493
Other assets 312,155 223,520 832,040
------------ ------------ ------------
$ 13,789,854 $ 30,367,883 $ 48,551,101
============ ============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities
Notes payable to finance companies and bank $ 2,553,103 $ 41,468 $ 1,222,071
Note payable to stockholder -- -- 131,406
Note payable to vendor -- -- 2,071,005
Accounts payable and accrued liabilities 8,204,118 10,901,725 16,866,078
------------ ------------ ------------
Total current liabilities 10,757,221 10,943,193 20,290,560
Note payable -- stockholder and other -- -- 2,122,318
Stockholders' equity
Preferred stock - $.001 par value, authorized 5,000,000 shares,
issued and outstanding 1,621,476 in 1994, 2,737,389 in 1995,
and 2,725,014 in 1996, liquidation preference aggregating
$3,779,371 and $15,332,780 at December 31, 1994 and 1995, and
$16,273,115 at September 30, 1996 1,622 2,737 2,725
Common stock - $.001 par value, authorized 50,000,000 shares, issued
11,360,245 in 1994, 14,459,658 in 1995, and 18,030,123 in 1996 11,360 14,460 18,030
Additional paid-in capital 10,525,800 28,443,144 40,176,750
Accumulated deficit from May 1, 1989 (7,503,627) (9,033,129)
(14,056,760)
Treasury stock - 1,300 shares at cost (2,522) (2,522)
------------ ------------ ------------
(2,522)
3,032,633 19,424,690 26,138,223
------------ ------------ ------------
$ 13,789,854 $ 30,367,883 $ 48,551,101
============ ============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
F-27
<PAGE> 30
PHOENIX NETWORK, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
Nine months ended
Year ended December 31, September 30,
-------------------------------------------- ----------------------------
1993 1994 1995 1995 1996
------------ ------------ ------------ ------------ ------------
(unaudited)
<S> <C> <C> <C> <C> <C>
Revenues $ 40,349,599 $ 57,420,484 $ 58,755,334 $ 42,691,679 $ 65,430,586
Cost of revenues 29,260,515 40,007,052 40,376,589 29,103,710 47,066,673
------------ ------------ ------------ ------------ ------------
Gross profit 11,089,084 17,413,432 18,378,745 13,587,969 18,363,913
Selling, general and
administrative expenses 13,254,772 17,161,963 17,475,954 12,245,250 18,812,869
Depreciation and amortization 482,165 634,245 1,048,870 620,142 3,178,155
Relocation expenses -- -- -- -- 982,146
13,736,937 17,796,208 18,524,824 12,865,392 22,973,170
Operating income (loss) (2,647,853) (382,776) (146,079) 722,577 (4,609,257)
Other income (expense)
Interest income -- -- -- 24,959 39,777
Interest expense (net) (147,853) (398,944) (169,267) (228,281) (421,819)
Loss on abandonment of fixed
assets -- -- (1,019,648) -- --
------------ ------------ ------------ ------------ ------------
(147,853) (398,944) (1,188,915) (203,322) (382,042)
------------ ------------ ------------ ------------ ------------
Income (loss) before cumulative
effect of accounting change (2,795,706) (781,720) (1,334,994) 519,255 (4,991,299)
Cumulative effect of change in
amortization of deferred
commissions -- (123,224) -- -- --
------------ ------------ ------------ ------------ ------------
Net income (loss) $ (2,795,706) $ (904,944) $ (1,334,994) $ 519,255 $ (4,991,299)
============ ============ ============ ============ ============
Net income (loss) attributable
to common shares:
Net income (loss) $ (2,795,706) $ (904,944) $ (1,334,994) $ 519,255 $ (4,991,299)
Preferred dividends (267,419) (231,255) (594,381) (282,355) (940,775)
------------ ------------ ------------ ------------ ------------
$ (3,063,125) $ (1,136,199) $ (1,929,375) $ 236,900 $ (5,932,074)
============ ============ ============ ============ ============
Income (loss) per common share:
Income (loss) before cumulative
effect of accounting change $ (0.33) $ (0.09) $ (0.15) $ 0.02 $ (0.34)
Cumulative effect of
accounting change -- (0.01) -- -- --
------------ ------------ ------------ ------------ ------------
Net income (loss) per
common share $ (0.33) $ (0.10) $ (0.15) $ 0.02 $ (0.34)
============ ============ ============ ============ ============
Weighted average common
shares 9,423,072 11,100,958 12,613,992 13,257,512 17,602,993
============ ============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
F-28
<PAGE> 31
PHOENIX NETWORK, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
Three years ended December 31, 1995
and
Nine months ended September 30, 1996 (unaudited)
<TABLE>
<CAPTION>
Additional Accumulated
Preferred Common paid-in deficit from Treasury
Stock Stock capital May 1, 1989 Stock
----------- ----------- ----------- ----------- -----------
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1993 $ 1,978 $ 8,715 $ 5,948,824 $(3,675,350) $ (2,522)
Exercise of stock options
and warrants -- 691 690,337 -- --
Conversion of preferred
stock into common stock (368) 482 13,619 (13,733) --
Issuance of common stock -- 793 2,805,443 -- --
Preferred dividends -- -- -- (69,975) --
Net loss -- -- -- (2,795,706) --
----------- ----------- ----------- ----------- -----------
Balance at December 31, 1993 1,610 10,681 9,458,223 (6,554,764) (2,522)
Exercise of stock options -- 401 465,018 -- --
Conversion of preferred
stock into common stock (44) 278 43,685 (43,919) --
Issuance of preferred stock
upon conversion of debt 56 -- 558,874 -- --
Net loss -- -- -- (904,944) --
----------- ----------- ----------- ----------- -----------
Balance at December 31, 1994 1,622 11,360 10,525,800 (7,503,627) (2,522)
Exercise of stock options and
warrants -- 391 523,691 -- --
Conversion of preferred
stock into common stock (4) 24 7,200 (7,220) --
Issuance of common stock, net
of expenses -- 2,685 6,314,779 -- --
Issuance of preferred stock, net
of expenses, and conversion
of Series E to Series F 1,119 -- 11,071,674 -- --
Preferred dividends -- -- -- (187,288) --
Net loss -- -- -- (1,334,994) --
----------- ----------- ----------- ----------- -----------
Balance at December 31, 1995 2,737 14,460 28,443,144 (9,033,129) (2,522)
</TABLE>
The accompanying notes are an integral part of this statement.
F-29
<PAGE> 32
PHOENIX NETWORK, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY (continued)
Three years ended December 31, 1995
and
Nine months ended September 30, 1996 (unaudited)
<TABLE>
<CAPTION>
Additional Accumulated
Preferred Common paid-in deficit from Treasury
Stock Stock capital May 1, 1989 Stock
------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Balance at December 31, 1995 $ 2,737 $ 14,460 $ 28,443,144 $ (9,033,129) $ (2,522)
Exercise of stock options
and warrants -- 668 1,204,166 -- --
Conversion of preferred
stock into common stock (12) 102 32,237 (32,327) --
Issuance of common stock in
connection with business
combination, net of expenses -- 2,800 10,497,203 -- --
Preferred dividend adjustment -- -- -- (5) --
Net loss -- -- -- (4,991,299) --
------------ ------------ ------------ ------------ ------------
Balance at September 30, 1996
(unaudited) $ 2,725 $ 18,030 $ 40,176,750 $(14,056,760) $ (2,522)
============ ============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of this statement.
F-30
<PAGE> 33
PHOENIX NETWORK, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
Nine months ended
Year ended December 31, September 30,
-------------------------------------------- ----------------------------
1993 1994 1995 1995 1996
------------ ------------ ------------ ------------ ------------
(unaudited)
<S> <C> <C> <C> <C> <C>
Cash flows from operating
activities
Cash received from
customers $ 36,585,065 $ 54,971,948 $ 55,118,906 $ 38,528,141 $ 63,336,024
Interest received 9,213 8,121 83,227 24,959 39,777
Cash paid to suppliers
and employees (42,827,891) (53,430,265) (56,770,205) (39,250,557) (64,638,150)
Interest paid (131,792) (407,065) (252,065) (228,281) (421,819)
------------ ------------ ------------ ------------ ------------
Net cash provided by
(used in) operating
activities (6,365,405) 1,142,739 (1,820,137) (925,738) (1,684,168)
Cash flows from investing
activities
Redemptions of certificates
of deposit 140,000 -- -- -- --
Purchases of furniture,
equipment and data
processing systems (394,373) (882,933) (380,725) (493,334) (661,311)
Payments on notes receivable -
stockholder 273,969 -- -- -- --
Customer base acquisitions -- -- (1,553,238) -- --
Business acquisitions, net
of cash acquired -- -- (4,635,764) -- (4,085,093)
Acquisitions of other assets (308,990) (123,528) -- (6,216,294) (372,921)
------------ ------------ ------------ ------------ ------------
Net cash used in investing
activities (289,394) (1,006,461) (6,569,727) (6,709,628) (5,119,325)
</TABLE>
The accompanying notes are an integral part of these statements.
F-31
<PAGE> 34
PHOENIX NETWORK, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
<TABLE>
<CAPTION>
Nine months ended
Year ended December 31, September 30,
-------------------------------------------- ----------------------------
1993 1994 1995 1995 1996
------------ ------------ ------------ ------------ ------------
(unaudited)
<S> <C> <C> <C> <C> <C>
Cash flows from financing
activities
Proceeds from issuance of
common stock, net of
offering costs $ 2,806,236 $ -- $ 6,317,464 $ 6,400,019 $ --
Proceeds from issuance
of preferred stock,
net of offering costs -- -- 11,072,793 9,520,655 --
Proceeds from note payable
to stockholder 500,000 -- -- -- --
Proceeds (payments) on note
payable to finance company 3,420,931 (867,828) (2,542,675) (341,676) 1,180,604
Payment on note payable to
vendor -- -- -- -- (1,494,033)
Payments on capital lease
obligation (28,425) (16,584) -- -- --
Preferred stock dividends (69,975) -- (187,288) -- --
Proceeds from exercise of
stock options and warrants 691,028 465,420 524,082 371,921 1,204,834
------------ ------------ ------------ ------------ ------------
Net cash provided by
(used in) financing
activities 7,319,795 (418,992) 15,184,376 15,950,919 891,405
------------ ------------ ------------ ------------ ------------
NET INCREASE (DECREASE)
IN CASH 664,996 (282,714) 6,794,512 8,315,553 (5,912,088)
Cash and cash equivalents at
beginning of period 827,717 1,492,713 1,209,999 1,209,999 8,004,511
------------ ------------ ------------ ------------ ------------
Cash and cash equivalents at
end of period $ 1,492,713 $ 1,209,999 $ 8,004,511 $ 9,525,552 $ 2,092,423
============ ============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
F-32
<PAGE> 35
PHOENIX NETWORK, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS (continued)
<TABLE>
<CAPTION>
Nine months ended
Year ended December 31, September 30,
----------------------------------------- --------------------------
1993 1994 1995 1995 1996
----------- ----------- ----------- ----------- -----------
(unaudited)
<S> <C> <C> <C> <C> <C>
Reconciliation of net income
(loss) to net cash provided by
(used in) operating
activities:
Net income (loss) $(2,795,706) $ (904,944) $(1,334,994) $ 519,255 $(4,991,299)
Adjustments to reconcile
net income (loss) to net
cash provided by (used in)
operating activities:
Cumulative effect of
change in amortization
of deferred commissions -- 123,224 -- -- --
Provision for doubtful
accounts 1,860,300 1,902,729 1,949,876 1,131,696 1,539,779
Abandonment of fixed
assets -- -- 1,019,648 -- --
Depreciation and
amortization 482,165 634,245 1,048,870 620,142 3,178,155
Changes in assets and
liabilities
Accounts receivable (3,764,534) (2,448,536) (3,636,428) (4,163,538) (3,634,341)
Deferred commissions (2,435,029) 713,839 (1,378,755) 17,755 821,845
Other current assets 33,798 133,377 (106,699) -- --
Other assets (37,125) -- -- (928,686) (217,194)
Accounts payable and
accrued liabilities 290,726 988,805 618,345 1,877,638 1,618,887
----------- ----------- ----------- ----------- -----------
Net cash provided by
(used in) operating
activities $(6,365,405) $ 1,142,739 $(1,820,137) $ (925,738) $(1,684,168)
=========== =========== =========== =========== ===========
</TABLE>
Non-cash financing and investing activities:
See statement of stockholders' equity and notes B and H.
The accompanying notes are an integral part of these statements.
F-33
<PAGE> 36
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE A - MERGER WITH AMERICONNECT, INC.
On October 8, 1996, Phoenix Network, Inc. merged with Americonnect, Inc. The
merger will be accounted for as a "pooling of interests." In connection with
the merger, Phoenix Network, Inc. exchanged 0.3604 shares of its common stock
for each share of Americonnect common stock outstanding. Phoenix issued
approximately 2,663,800 shares in the exchange. The supplemental consolidated
financial statements of Phoenix Network, Inc. and subsidiaries ("Phoenix" or
the "Company"), which accompany these historical financial statements, have
been prepared to give retroactive effect to the merger with Americonnect,
Inc. Generally accepted accounting principles proscribe giving effect to a
consummated business combination accounted for by the pooling of interests
method in financial statements that do not include the date of consummation.
These supplemental financial statements do not extend through the date of
consummation, however, they will become the historical consolidated financial
statements of the Company after financial statements covering the date of
consummation of the business combination are issued.
NOTE B - DESCRIPTION OF COMPANY AND SUMMARY OF ACCOUNTING POLICIES
Phoenix Network, Inc. ("Phoenix" or the "Company") was a switchless reseller
of long distance telecommunication services designed primarily for small to
medium sized commercial accounts located throughout the United States.
Effective January 1, 1996, as a result of the acquisition of Automated
Communications, Inc. ("ACI"), the Company became a facilities based reseller
(see note C). The Company provides its customers with long distance services
utilizing the networks of facilities-based carriers, such as American
Telephone & Telegraph Company, MCI Telecommunications Corporation, Sprint
Communications, L.P., ALC Communications Corporation, WorldCom, Inc.
(formerly Wiltel, Inc.) and others, who handle the actual call transmission
services. The carriers bill Phoenix at contractual rates for the combined
usage of Phoenix's customers utilizing their network. Phoenix then bills its
customers individually at rates established by Phoenix.
The following is a summary of the Company's significant accounting policies
applied in the preparation of the accompanying consolidated financial
statements.
o Principles of Consolidation
The consolidated financial statements include the accounts of the Company
and its subsidiaries. All significant intercompany transactions are
eliminated in consolidation.
o Revenue Recognition
Revenue is recognized in the month in which the Company's customers
complete the telephone call.
F-34
<PAGE> 37
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE B - DESCRIPTION OF COMPANY AND SUMMARY OF ACCOUNTING POLICIES (continued)
o Cash and Cash Equivalents
The Company considers demand deposits, certificates of deposit and United
States Treasury bills purchased with a maturity of three months or less
as cash and cash equivalents. The carrying amount approximates fair value
because of the short maturity of these instruments.
o Deferred Commissions
Deferred commissions consist of direct commissions paid on a one time
basis to third parties upon the acquisition of new customers. Such
charges were amortized on a straight line basis over twelve to
twenty-four months, based on the future anticipated benefit, beginning
with the month following the month the customer's service is activated.
Effective January 1, 1994, the Company changed its method for amortizing
deferred commissions to the sum of the years digits method and changed
the period benefitted to a four year period (see note D).
o Furniture, Equipment and Data Processing Systems
Depreciation of fixed assets is provided over their estimated service
lives, generally five years, utilizing the straight-line method.
o Customer Acquisition Costs
Customer acquisition costs represent the value of an acquired billing
base of customers and are amortized using the sum of the years digits and
straight-line methods over a four year period.
o Goodwill
Goodwill represents the excess of cost over the fair value of the net
assets acquired and is being amortized by the straight-line method over
20 years.
o Use of Estimates
In preparing financial statements in conformity with generally accepted
accounting principles, management is required to make estimates and
assumptions that affect the reported amounts of assets and liabilities
and the disclosure of contingent assets and liabilities at the date of
the financial statements, as well as revenues and expenses during
theperiod. Significant estimates made by management include the allowance
for doubtful accounts, estimated carrier credits, and the amortization
periods related to acquired customers and goodwill. Actual results could
differ from those estimates.
F-35
<PAGE> 38
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE B - DESCRIPTION OF COMPANY AND SUMMARY OF ACCOUNTING POLICIES (continued)
o Income Taxes
Deferred income taxes are recognized for tax consequences of temporary
differences by applying current tax rates to differences between the
financial reporting and the tax basis of existing assets and liabilities.
o Reclassification
Prior year's financial statements have been reclassified to conform to
current year presentation.
o Interim Financial Statements
The accompanying unaudited financial statements have been prepared in
accordance with generally accepted accounting principles for interim
financial information and Article 10 of Regulations S-X. Accordingly,
they do not include all the information and footnotes required by
generally accepted accounting principles for complete financial
statements. In the opinion of management, all adjustments (consisting of
normal recurring accruals) considered necessary for a fair presentation
have been included. Operating results for the interim periods are not
necessarily indicative of the results that may be expected for the full
year.
F-36
<PAGE> 39
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE C - ACQUISITIONS
In August of 1995, the Company acquired in purchase transactions, the
customer bases and substantially all of the assets and liabilities of
Tele-Trend Communications, LLC ("Tele-Trend"), a Denver based switchless
reseller, and Bright Telecom L.P. ("Bright"), an international call-back
provider, for $4,369,317 and $356,388, respectively. The operations of
Tele-Trend and Bright are included from August 1, 1995.
Additionally, during 1995, the Company acquired three customer bases at a
cost of $2,078,238. At December 31, 1995, accounts payable includes $525,000
due for the purchase of one of the customer bases. The Company may be
required to make additional payments of up to $375,000, depending upon the
future performance of one of the bases.
In January 1996, the Company acquired Automated Communications, Inc. ("ACI"),
a Golden, Colorado facilities-based long distance phone service carrier
operating state-of-the-art switching centers in Colorado Springs, Minneapolis
and Phoenix. Consideration for the acquisition was in the form of $4,086,693
in cash, 2,800,000 shares of the Company's common stock valued at
$10,500,000, a long term note of $1,314,056 bearing interest at 9%, and the
assumption of net liabilities of $1,606,976. The Company's consolidated
results of operations for the first quarter include those of ACI from January
1, 1996, the effective date of the purchase transaction. The excess of the
purchase price over the fair market value of the assets and liabilities
acquired has been allocated to customer acquisition costs ($1,950,000) and to
goodwill ($15,557,725). Customer acquisition costs are amortized over 4 years
using the sum-of-the-years- digits method and goodwill is amortized on a
straight line basis over 20 years.
The following unaudited condensed pro forma information presents the results
of operation of the Company as if the acquisition of ACI and Tele-Trend had
occurred on January 1, 1995.
<TABLE>
<CAPTION>
Year ended Nine months ended
December 31, 1995 September 30, 1995
----------------- ------------------
<S> <C> <C>
Revenue $ 87,629,000 $ 66,868,000
Net income (loss) (2,709,000) 1,136,000
Net income (loss) attributable to
common shares (3,885,000) 273,000
Net income (loss) per common share $ (0.25) $ 0.02
Weighted average number of shares
outstanding 15,414,000 16,058,000
</TABLE>
F-37
<PAGE> 40
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE D - ACCOUNTING CHANGES
Effective January 1, 1994, the Company changed its method of accounting for
deferred commissions from the straight-line basis to the sum of the years
digits method. Additionally, the Company changed their estimate of the period
benefitted from two years to four years. Management believes that these
changes more accurately match expense with the revenues generated by the
customer base. The cumulative effect of the change in accounting method was
to increase accumulated amortization at January 1, 1994 by approximately
$123,000. The pro forma effect of the change in method on periods prior to
1994 is not material. The effect of both changes was to reduce the 1994
amortization expense and loss before cumulative effect of change in
accounting by approximately $242,000 ($0.02 per common share).
NOTE E - FURNITURE, EQUIPMENT AND DATA PROCESSING SYSTEMS
Furniture, equipment and data processing systems consist of the following:
<TABLE>
<CAPTION>
December 31,
--------------------------
1994 1995
----------- -----------
<S> <C> <C>
Data processing systems $ 862,674 $ 1,130,744
Billing system software 830,507 --
Furniture and fixtures 294,937 231,113
Other equipment 280,339 501,335
----------- -----------
2,268,457 1,863,192
Less accumulated depreciation (837,990) (1,119,729)
----------- -----------
$ 1,430,467 $ 743,463
=========== ===========
</TABLE>
The loss on abandonment of assets in 1995 primarily relates to a write-off of
software development costs. Management decided to minimize the risk of
development and to have access to a new system on a more timely basis and,
accordingly, has decided to license an existing billing system from a vendor.
The Company expects to spend up to $3,000,000 to license the system and to
acquire the necessary enhancements and hardware to operate it.
F-38
<PAGE> 41
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE F - NOTES PAYABLE TO FINANCE COMPANIES AND BANK
In September 1995, the Company renewed its Loan and Security Agreement (the
"Agreement") with a finance company to make available to the Company a line
of credit of up to $10,000,000. The Company may borrow up to the lesser of
$10,000,000 or its borrowing base, which is defined as a percentage of its
eligible receivables. The term of the Agreement is three years, expiring
October 1998, with automatic renewal options. There are penalties for early
termination by the Company. Borrowings bear interest at 1.75% over the
"reference rate", as defined. In connection with the renewal, fees and
transaction costs of $80,972 were incurred, which are being amortized on a
straight-line basis over three years. The loan is collateralized by the
Company's accounts receivable, equipment, general intangibles and other
personal property assets. Among other provisions, the Company must maintain
certain minimum financial covenants, is prohibited from paying dividends
without the approval of the finance company, and is subject to limits on
capital expenditures.
At December 31, 1995, $10,428 was outstanding under the line and the interest
rate was 10.25%. The Company has a letter of credit totalling $500,000
outstanding for the benefit of a vendor to secure payments under the contract
terms. The amount of the letter of credit reduces the amount available on the
line of credit.
Average daily outstanding borrowing for the year ended December 31, 1995 was
$1,426,014 at a weighted average interest rate of 11.52%. The highest
month-end balance outstanding for the year ended December 31, 1995 was
$3,119,733.
The Company also assumed a $100,000 line of credit with a commercial bank in
conjunction with the acquisition of Tele- Trend. The line of credit bears
interest at a rate of the bank's prime rate plus 2.5%. Outstanding borrowings
at December 31, 1995 were $31,040 and the interest rate was 11%. This line
was paid off and expired in February 1996.
F-39
<PAGE> 42
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE G - LEASES
The Company has operating leases for office space and equipment which expire
on various dates through 2000, and which require that the Company pay certain
maintenance, insurance and other operating expenses. Rent expense for the
years ended December 31, 1993, 1994 and 1995, was $500,431, $750,308 and
$872,096, respectively.
Future minimum lease payments for years ending December 31, are as follows:
<TABLE>
<S> <C> <C>
1996 $1,074,185
1997 907,425
1998 602,040
1999 566,592
2000 190,735
----------
Total $3,340,977
==========
</TABLE>
NOTE H - COMMITMENTS AND CONTINGENCIES
The Company has contracts with its major vendors to provide
telecommunications services to its customers. The agreements cover the
pricing of the services and are for periods of three to four years. Among
other provisions, the agreements contain minimum usage requirements which
must be met to receive the contractual price and to avoid shortfall
penalties. The Company is currently in compliance with the contractual
requirements. Total future minimum usage commitments at December 31, 1995 are
as follows:
<TABLE>
<CAPTION>
Year ending
December 31, Commitment
------------ ----------
<S> <C> <C>
1996 $44,100,000
1997 26,100,000
1998 900,000
-----------
Total $71,100,000
===========
</TABLE>
F-40
<PAGE> 43
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE I - CAPITAL STOCK
Preferred Stock
The Company's certificate of incorporation authorizes the issuance of up to
5,000,000 shares of $.001 par value preferred stock. At December 31, 1995,
the Company's authorized preferred stock is allocated as follows:
<TABLE>
<CAPTION>
Authorized Issued and
Shares Outstanding
------ -----------
<S> <C> <C>
Reserved shares:
Series A 300,000 101,750
Series B 200,000 126,250
Series C 1,000,000 1,000,000
Series D 666,666 333,333
Series F 1,200,000 1,176,056
Undesignated shares 1,633,334 --
--------- ---------
Total 5,000,000 2,737,389
========= =========
</TABLE>
In September 1990, the Company issued 155,500 shares of its Series A
Preferred Stock ("Series A") at $10 per share. The shares are entitled to 9%
cumulative dividends, voting rights and are convertible into common stock
subject to certain anti-dilution provisions. In connection with the offering
the Company also issued a warrant for 62,200 shares of common stock with an
exercise price of $2.50 per share to an investment banking firm, controlled
by an individual, who was subsequently elected to the Company's Board of
Directors. The warrant expires in February 1997. Net proceeds to the Company,
after offering costs of $116,054, were $1,438,987. During 1994, 16,000 shares
of Series A were converted into 70,996 shares of common stock. During 1995,
3,000 shares of Series A were converted into 14,449 shares of common stock.
At December 31, 1995, the outstanding Series A shares were convertible into
420,431 shares of common stock.
In December 1991, the Company issued 95,000 shares of its Series B Preferred
Stock ("Series B") at $10 per share. The shares are entitled to 9% cumulative
dividends, voting rights and are convertible into shares of common stock
subject to certain anti-dilution provisions. Net proceeds to the Company
after offering costs of $46,209, were $903,790. In 1992 the Company completed
the sale of an additional 60,500 shares of the Series B shares at $10 per
share on the same terms. Net proceeds to the Company from the sales in
January and February 1992 were $588,075, after offering costs of $16,925. In
connection with the offering, the Company issued a warrant to an investment
banking firm, controlled by one of the Company's directors, for 69,750 shares
of common stock with an exercise price of $2.00 per share. The warrant
expires in February 1997. Of the total offering costs, the investment banking
firm, controlled by one of the Company's directors, received approximately
$56,000. During 1995, 1,250 shares of Series B were converted into 9,749
shares of common stock. At December 31, 1995, the outstanding Series B shares
are convertible into 841,709 shares of common stock.
F-41
<PAGE> 44
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE I - CAPITAL STOCK (continued)
In November 1992, the Company issued 1,000,000 shares of its Series C
Preferred Stock ("Series C") to one of its major vendors as collateral for
amounts due the vendor for services provided. If the Company defaults on
amounts owed the vendor, the vendor would have the right to convert its
preferred shares into the number of common shares, on a two for one basis,
that would have a market value equal to three times the vendor's most recent
invoice to the Company less $1,500,000. The Series C has a 4% non-cumulative
dividend preference over common stock; however, such dividends shall only be
paid following payment of dividends on other previously issued series of
preferred stock, and then only at the discretion of the Company's board of
directors. The preferred has no voting rights. The Series C shares have been
recorded at their par value of $1,000.
In December 1992, the Company issued 666,666 shares of its Series D Preferred
Stock at $1.50 per share. The shares are entitled to 6% non-cumulative
dividends, when and if declared by the Board of Directors and only after
payment of dividends on previously issued series of preferred stock. These
shares are non-voting and are convertible into common stock subject to
certain anti-dilution provisions. In connection with the offering, the
Company issued a warrant to an investment banking firm, controlled by one of
the Company's directors, for 22,000 shares of common stock with an exercise
price of $1.50 per share. The warrant expires in December 1997. Net proceeds
to the Company, after offering costs of $48,717 were $951,283. Approximately
$45,000 of the offering costs were paid to an investment banking firm
controlled by one of the Company's directors. In 1993, 333,333 Series D
Preferred shares were converted into common shares on a one for one basis. At
December 31, 1995, the outstanding Series D Preferred shares are convertible
into 333,333 shares of common stock.
In September 1994, the Company issued 55,893 shares of Series E Preferred
Stock at $10 per share under an agreement to convert the note payable to
stockholder, with a principle balance of $500,000 and accrued interest of
$58,930. In connection with the issuance of the stock, the Company issued the
stockholder a five year warrant for 100,000 shares of the Company's common
stock which was canceled when the Series E shares were converted to Series F
Preferred Stock (see below).
During the period July 1995 through October 1995, the Company raised
approximately $11,024,207, net of offering costs of $129,963, through a
private placement of 1,115,417 shares of its Series F Preferred Stock at $10
per share. Additionally, the holder of the Company's Series E Preferred Stock
exchanged their Series E shares, plus accumulated and unpaid dividends of
$47,467, for 60,639 shares of Series F Preferred Stock. The Series F shares
are entitled to 9% cumulative dividends, voting rights, demand registration
rights for the underlying common shares after six months and are convertible
initially into 4,704,224 shares of common stock, subject to anti-dilution
provisions. The holders of the Series F also received warrants for the
purchase of 470,422 shares of common stock with an exercise price of $3.00
per share which expire in October 2000. The Series F shareholders have the
right to place two directors on the Company's board (the "Series F
Directors") and the Company is subject to certain covenants requiring it to
obtain the consent of the Series F Directors for certain transactions
including mergers, acquisitions and incurring additional indebtedness in
excess of $20,000,000. At December 31, 1995, the outstanding Series F
Preferred shares are convertible into 4,704,224 shares of common stock.
F-42
<PAGE> 45
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE I - CAPITAL STOCK (continued)
The common shares reserved for issuance upon the conversion of Series A, B, C
and D Preferred Stock have been registered for resale with the Securities and
Exchange Commission.
At December 31, 1995, the Company had cumulative, unpaid dividends on Series
A, B and F Preferred Stock of $259,922 ($2.55 per share), $322,508 ($2.55 per
share) and $208,790 ($.18 per share), respectively.
Common Stock
In July 1993, the Company completed a private placement of 793,331 shares of
its common stock for cash at $3.75 per share. Net proceeds to the Company
after offering costs of $168,755 were $2,806,236. A five-year warrant to
purchase 53,333 shares of the Company's common stock at $3.75 per share was
issued to a third party in connection with the placement.
In May 1995, the Company closed a private placement of its common stock which
raised $727,519, net of offering costs of $119,481. The Company sold 385,000
units, at $2.20 per unit, in an off-shore financing pursuant to Regulation S
under the Securities Act of 1933. A unit consists of one share of common
stock and a five year warrant for one-half share of common stock. Two
warrants can be exercised to purchase one share of common stock at $2.20 per
share. In connection with the transaction, the placement agent was issued a
five year warrant to purchase 38,500 units at $2.42 per unit. The Company
closed another private placement of its common stock under Regulation S in
September 1995. In this transaction, the Company sold 2,300,000 shares of
common stock for $2.75 per share. Proceeds to the Company, net of offering
costs of $735,055 were $5,589,945.
Stock Options and Warrants
In 1987, the Company granted certain directors stock options to purchase up
to 900,000 shares of common stock at a price of $0.10 per share, expiring no
earlier than ten (10) years from the grant date. At December 31, 1995,
options for 500,000 shares remain outstanding.
The Company's 1989 Stock Option Plan authorizes the grant of incentive stock
options or supplemental stock options for up to 5,000,000 shares of common
stock. The exercise price of each incentive stock option shall be not less
than 100% of the fair market value of the stock on the date the option is
granted. The exercise price of each supplemental stock option shall be not
less than eighty-five percent (85%) of the fair market value of the stock on
the date the option is granted.
In November 1992, the Board of Directors approved the 1992 Non-Employee
Directors' Stock Option Plan. Under the plan, 480,000 shares of common stock
have been reserved for issuance to non-employee directors of the Company.
Options are granted annually based upon length of service at fair market
value at date of grant.
F-43
<PAGE> 46
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE I - CAPITAL STOCK (continued)
Common shares under option are summarized below:
<TABLE>
<CAPTION>
Number Price
of shares per share
--------- ---------
<S> <C> <C> <C>
Outstanding at January 1, 1993 2,024,799 $0.10 to $3.12
Exercised (390,562) $1.00 to $5.94
Granted 2,144,564 $1.00 to $5.94
Canceled (1,433,429) $1.00 to $5.94
---------
Outstanding at December 31, 1993 2,345,372 $0.10 to $5.94
Exercised (400,983) $1.00 to $5.63
Granted 1,032,990 $2.50 to $6.38
Canceled (500,218) $1.00 to $6.88
---------
Outstanding at December 31, 1994 2,477,161 $0.10 to $6.88
Exercised (355,821) $1.00 to $3.94
Granted 813,900 $2.38 to $6.38
Canceled (101,317) $1.00 to $6.88
---------
Outstanding at December 31, 1995 2,833,923 $0.10 to $6.38
=========
Exercisable at December 31, 1994 1,151,093 $0.10 to $6.88
=========
Exercisable at December 31, 1995 1,737,069 $0.10 to $6.38
=========
Common shares subject to warrants are summarized below:
<CAPTION>
Number Price
of shares per share
--------- ---------
<S> <C> <C> <C>
Outstanding at January 1, 1993 453,950 $0.75 to $2.50
Exercised (300,000) $0.75
Granted 232,583 $3.25 to $7.00
---------
Outstanding at December 31, 1993 386,533 $1.50 to $7.00
Granted 125,000 $3.25
---------
Outstanding at December 31, 1994 511,533 $1.50 to $7.00
Exercised (34,675) $2.42
Granted 720,672 $2.42 to $3.00
Canceled (100,000) $3.25
---------
Outstanding at December 31, 1995 1,097,530 $1.50 to $7.00
=========
All warrants are exercisable at grant.
</TABLE>
F-44
<PAGE> 47
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE J - INCOME (LOSS) PER COMMON SHARE
Income (loss) per common share is based upon the weighted average number of
common and dilutive common equivalent shares outstanding. The preferred
dividend requirements on the preferred stock are deducted in computing income
(loss) per common share.
NOTE K - INCOME TAXES
Effective January 1, 1993, the Company adopted Financial Accounting Standard
No. 109 ("FAS 109"), Accounting for Income Taxes, which requires the use of
the liability method in accounting for income taxes. Under this method,
deferred tax assets and liabilities are determined based on differences
between financial reporting and tax bases of assets and liabilities and are
measured using the current tax rates. Prior to the adoption of FAS 109,
income tax expense was determined using the deferred method. Deferred tax
expense was based on items of income and expense that were reported in
different years in the financial statements and tax returns and were measured
at the tax rate in effect in the year the difference originated. The effect
of this new standard did not have a significant impact on the financial
position or results of operations of the Company.
As of December 31, 1995, the Company has available to offset future Federal
taxable income, net operating loss carryforwards (NOL) of approximately
$9,000,000 which expire in varying amounts from 2002 through 2009.
The Company's effective income tax rate is different from the Federal
statutory income tax rate because of the following factors:
<TABLE>
<CAPTION>
Year ended December 31,
------------------------------
1993 1994 1995
---- ---- ----
<S> <C> <C> <C>
Federal tax rate applied to
loss before taxes (34.0)% (34.0)% (34.0)%
State tax rate applied to
allowable carryforward losses (3.6) (5.9) (5.9)
Valuation allowance of
deferred taxes 37.6 39.9 39.9
---- ---- ----
Effective tax rate -- % -- % --%
==== ==== ====
</TABLE>
F-45
<PAGE> 48
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE K - INCOME TAXES (continued)
Deferred income tax assets and valuation allowance are as follows:
<TABLE>
<CAPTION>
December 31,
-------------------------
1994 1995
---------- ----------
<S> <C> <C>
Current
Allowance for bad debts $ 506,000 $ 560,000
Noncurrent
Non-current assets 115,000 257,000
Net operating loss carryforward 2,800,000 3,445,000
----------- -----------
2,915,000 3,702,000
----------- -----------
3,421,000 4,262,000
Valuation allowance (3,421,000) (4,262,000)
----------- -----------
$ $
=========== ===========
</TABLE>
The increase in the valuation allowance was approximately $2,776,000,
$645,000 and $841,000 for the years ended December 31, 1993, 1994 and 1995,
respectively.
NOTE L - TRANSACTION WITH BSN TELECOM COMPANY
On September 29, 1992, the Company and BSN Telecom Company ("BSN") entered
into an agreement (the "Agreement"), effective as of September 1, 1992,
whereby BSN agreed to transfer its rights to its long distance
telecommunications rebilling account base to the Company in exchange for
1,133,333 shares of the Company's common stock. Under the Agreement, BSN
received certain demand registration rights with respect to the shares which
were exercised in 1993 and gave the Board of Directors of Phoenix an
irrevocable proxy to vote all of the shares at all meetings of Phoenix's
stockholders. The proxy expired on November 30, 1993.
In connection with the transaction with BSN, CONCORD Services, Inc.
("Concord"), an affiliate of BSN, and Proactive Partners, L.P., an affiliate
of Phoenix, each purchased $500,000 of Series D Preferred Stock (see note I).
Additionally, Concord agreed to provide services to Phoenix in negotiating
future acquisitions and purchases of both switched and switchless long
distance companies under an exclusive agency agreement which expired on
December 31, 1993.
The Company has recorded the issuance of the 1,133,333 shares in exchange for
a customer base valued at $578,333 and other assets of $45,000.
F-46
<PAGE> 49
PHOENIX NETWORK, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Years ended December 31, 1993, 1994 and 1995
and
Nine months ended September 30, 1995 and 1996 (unaudited)
NOTE M - EMPLOYEE BENEFIT PLANS
On June 1, 1993, the Company established a 401(k) tax savings plan for all
employees. Employer and participant contributions to the plan become fully
vested and nonforfeitable. The plan is a defined contribution plan covering
all of its employees. Under this plan, employees with a minimum of one year
of qualified service can elect to participate by contributing a minimum of 1
percent of their gross earnings up to a maximum of 20 percent.
For those eligible plan participants, the Company will contribute an amount
equal to 100 percent of each participant's personal contribution up to an
annual maximum of $1,000. The Company's contributions to the 401(k) plan for
the year ending December 31, 1993, 1994 and 1995 were approximately $14,000,
$23,000 and $59,000 respectively.
NOTE N - NEW PRONOUNCEMENTS
o Stock-Based Compensation
The Company has not elected early adoption of Financial Accounting
Standard No. 123 ("FAS 123"), Accounting for Stock-Based Compensation. FAS
123 becomes effective beginning with the Company's first quarter of 1996.
Upon adoption of FAS 123, the Company will continue to measure
compensation expense for its stock-based employee compensation plans using
the intrinsic value method prescribed by APB Opinion No. 25, Accounting
for Stock Issued to Employees, and will provide pro forma disclosures of
net income and earnings per share as if the fair value method prescribed
by FAS 123 had been applied in measuring compensation expense. For options
granted to non-employees after December 15, 1995, the Company will be
required to apply the fair value method prescribed by FAS 123. The Company
has not determined the effect of adopting FAS 123 on the consolidated
financial position or operating results.
o Other Recent Pronouncements
In 1995, Financial Accounting Standards No. 121 ("FAS 121"), Accounting
for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be
Disposed Of, was issued and is effective for fiscal years commencing after
December 15, 1995. FAS 121 is not expected to have a material effect on
the Company's consolidated financial position or operating results.
F-47
<PAGE> 50
REPORT OF INDEPENDENT
CERTIFIED PUBLIC ACCOUNTANTS
Board of Directors and Stockholders
AmeriConnect, Inc.
We have audited the accompanying consolidated balance sheets of AmeriConnect,
Inc. (a Delaware corporation) and subsidiary as of December 31, 1994 and 1995,
and the related consolidated statements of operations, stockholders' deficit,
and cash flows for each of the three years in the period ended December 31,
1995. 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 in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audits 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. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe our audits provide a reasonable basis for
our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of AmeriConnect,
Inc. and subsidiary as of December 31, 1994 and 1995, and the consolidated
results of their operations and their consolidated cash flows for each of the
three years in the period ended December 31, 1995, in conformity with generally
accepted accounting principles.
GRANT THORNTON LLP
Kansas City, Missouri
February 16, 1996
F-48
<PAGE> 51
===============================================================================
AMERICONNECT, INC.
CONSOLIDATED BALANCE SHEET
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
ASSETS DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1994 1995 1996
---------- ---------- ----------
(UNAUDITED)
<S> <C> <C> <C>
CURRENT ASSETS
Cash $ 405,942 $ 293,492 $ 287,412
Accounts receivable, net of allowance of
$288,614 in 1994, $361,260 in 1995 and $380,000 in 1996
(Notes 1, 2 and 6) 2,378,922 1,961,815 2,144,140
Accounts receivable-trade, with affiliates (Note 3) 9,869 6,065 8,062
Accounts receivable-agents, including accrued interest net of
allowance 253,064 1,492 32,140
of $100,000 in 1994 (Note 11)
Notes receivable-director/shareholder (Note 3) 11,500 14,500 --
Deferred income taxes (Notes 1 and 7) 250,000 -- --
Prepaid commissions 37,278 126,042 54,567
Other current assets 37,210 94,251 87,105
---------- ---------- ----------
Total current assets 3,383,785 2,497,657 2,613,426
NON-CURRENT ASSETS
Equipment and software, net of accumulated depreciation and
amortization of $154,176 in 1994, $230,868 in 1995 and $292,881 in
1996 (Note 1) 124,632 143,202 100,234
Deferred income taxes (Notes 1 and 7) 250,000 -- --
Deposits 20,039 19,528 18,027
---------- ---------- ----------
TOTAL ASSETS $3,778,456 $2,660,387 $2,731,687
========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these statements.
===============================================================================
F-49
<PAGE> 52
================================================================================
AMERICONNECT, INC.
CONSOLIDATED BALANCE SHEET
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31, SEPTEMBER 30,
1994 1995 1996
----------- ----------- -----------
(UNAUDITED)
LIABILITIES AND STOCKHOLDERS' DEFICIT
<S> <C> <C> <C>
CURRENT LIABILITIES
Accounts payable (Notes 1, 2 and 6) $ 2,090,678 $ 2,782,432 $ 3,034,462
Sales taxes payable 131,653 97,460 101,534
Accrued office closing costs (Note 9) 18,692 8,539 --
Other accrued liabilities 30,565 733 513
----------- ----------- -----------
Total current liabilities 2,271,588 2,889,164 3,136,509
NON-CURRENT LIABILITIES
Customer deposits 14,265 8,264 3,000
Deferred income 13,384 -- --
----------- ----------- -----------
Total liabilities 2,299,237 2,897,428 3,139,509
COMMITMENTS AND CONTINGENCIES (NOTES 5, 6, 8 AND 10) -- -- --
STOCKHOLDERS' DEFICIT (NOTE 8)
Class A common stock, par value $.00001 per share; 10,000,000 shares
authorized; issued 6,675,433 shares in 1994,
6,562,033 shares in 1995 and 1996 67 66 66
Common stock, par value $.01 per share; 20,000,000 shares authorized;
issued 6,316,567 shares in 1994, 6,504,967 shares
in 1995 and 6,522,611 shares in 1996 63,166 65,050 65,226
Additional paid-in capital 3,642,364 3,642,731 3,647,174
Accumulated deficit (2,224,515) (3,943,025) (4,118,425)
Treasury stock - class A common, at cost; 5,970,000 shares (60) (60) (60)
Treasury stock - common, at cost; 180,250 shares (1,803) (1,803) (1,803)
----------- ----------- -----------
Total stockholders' equity (deficit) 1,479,219 (237,041) (407,822)
----------- ----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' DEFICIT $ 3,778,456 $ 2,660,387 $ 2,731,687
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
================================================================================
F-50
<PAGE> 53
===============================================================================
AMERICONNECT, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
- -------------------------------------------------------------------------------
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED NINE MONTHS NINE MONTHS
DECEMBER 31, DECEMBER 31, DECEMBER 31, ENDED ENDED
1993 1994 1995 SEPTEMBER 30, SEPTEMBER 30,
1995 1996
(UNAUDITED) (UNAUDITED)
------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
REVENUES (NOTES 1, 2, 3 AND 6)
SALES $ 13,512,589 $ 16,923,025 $ 17,022,095 $ 13,067,791 $ 12,740,335
Sales to affiliates 43,140 61,299 77,540 62,969 63,477
------------ ------------ ------------ ------------ ------------
Total revenues 13,555,729 16,984,324 17,099,635 13,130,760 12,803,812
COSTS AND EXPENSES
Direct operating costs 10,120,141 12,642,307 13,399,190 10,293,096 9,609,495
Selling, administrative and general 2,596,616 3,912,979 4,847,248 3,297,760 3,304,589
expenses
Depreciation and amortization (Note 1) 56,281 43,793 76,693 53,386 62,012
------------ ------------ ------------ ------------ ------------
Total costs and expenses 12,773,038 16,599,079 18,323,131 13,644,242 12,976,096
------------ ------------ ------------ ------------ ------------
Operating income (loss) 782,691 385,245 (1,223,496) (513,482) (172,284)
OTHER INCOME (EXPENSE)
Interest income 9,292 28,000 19,898 16,786 6,888
Interest expense (2,988) (18,157) (6,558) (6,346) (23,794)
Interest expense to director/shareholder
(Note 3) (25,548) -- (1,587) -- --
Loan fees (5,000) (3,332) (1,250) (1,251) --
Miscellaneous (4,740) 46,229 (5,517) 377 13,790
------------ ------------ ------------ ------------ ------------
Total other income (28,984) 52,740 4,986 9,566 (3,116)
------------ ------------ ------------ ------------ ------------
INCOME (LOSS) BEFORE INCOME TAX 753,707 437,985 (1,218,510) (503,916) (175,400)
INCOME TAX EXPENSE (BENEFIT)
(NOTES 1 AND 8)
Currently payable 6,100 16,405 -- -- --
Deferred (500,000) -- 500,000 -- --
------------ ------------ ------------ ------------ ------------
Total income tax expense (benefit) (493,900) 16,405 500,000 -- --
------------ ------------ ------------ ------------ ------------
NET INCOME (LOSS) $ 1,247,607 $ 421,580 ($ 1,718,510) ($ 503,916) ($ 175,400)
============ ============ ============ ============ ============
Net income (loss) per common and common
equivalent share (Note 1) $ 0.20 $ 0.06 ($ 0.25) ($ .068) ($ .025)
============ ============ ============ ============ ============
Weighted average common and common
equivalent shares outstanding (Note 1) 6,355,427 6,868,221 6,912,805 7,366,999 6,921,189
============ ============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these statements
===============================================================================
F-51
<PAGE> 54
AMERICONNECT, INC.
CONSOLIDATED
STATEMENTS OF STOCKHOLDERS' DEFICIT
FOR THE YEARS ENDED DECEMBER 31, 1993, 1994 AND 1995 AND THE NINE MONTH
PERIOD ENDED SEPTEMBER 30, 1996
<TABLE>
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------------------------
CLASS A
COMMON STOCK COMMON STOCK
---------------------------------------------------- ADDITIONAL
DESCRIPTION PAID-IN ACCUMULATED
SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C> <C>
Balance, January 1, 1993 7,000,000 $ 70 4,490,000 $ 44,900 $ 3,306,849 ($3,893,702)
--------- ----------- --------- ----------- ----------- -----------
Conversion of Class A to Common (211,167) (2) 211,167 2,112
========= =========== ========= =========== =========== ===========
Issuance of Common to directors 550,000 5,500 43,630
Reversion of surrendered stock to the
treasury
Net income for the year 1,247,607
--------- ----------- --------- ----------- ----------- -----------
Balance, December 31, 1993 6,788,833 $ 68 5,251,167 $ 52,512 $ 3,350,479 ($2,646,095)
========= =========== ========= =========== =========== ===========
Conversion of Class A to Common (113,400) (1) 113,400 1,134 (1,133)
Issuance of Common to directors 19,000 190 3,888
Net income for the year 421,580
Stock options exercised 933,000 9,330 289,130 298,460
--------- ----------- --------- ----------- ----------- -----------
Balance, December 31, 1994 6,675,433 $ 67 6,316,567 $ 63,166 $ 3,642,364 ($2,224,515)
========= =========== ========= =========== =========== ===========
Net loss for the year (1,718,510)
Stock options exercised 75,000 750 1,500 2,250
Conversion of Class A to Common (113,400) (1) 113,400 1,134 (1,133)
--------- ----------- --------- ----------- ----------- -----------
Balance, December 31, 1995 6,562,033 $ 66 6,504,967 $ 65,050 $ 3,642,731 ($3,943,025)
========= =========== ========= =========== =========== ===========
Net loss for the nine month period (175,400)
Stock options exercised 17,644 176 4,443
--------- ----------- --------- ----------- ----------- -----------
Balance, September 30, 1996 6,562,033 $ 66 6,522,611 $ 65,226 $ 3,647,174 ($4,118,425)
========= =========== ========= =========== =========== ===========
<CAPTION>
- ------------------------------------------------------------------------------------------------------------------------------------
TREASURY STOCK TREASURY
CLASS A COMMON STOCK COMMON STOCK
----------------------------------------------------
DESCRIPTION SHARES AMOUNT SHARES AMOUNT TOTAL
- ------------------------------------------------------------------------------------------------------------------------------------
<S> <C> <C> <C> <C> <C>
Balance, January 1, 1993 (5,970,000) ($ 60) (150,000) ($ 1,500) ($ 543,443)
---------- ----------- -------- ----------- -----------
Conversion of Class A to Common
Issuance of Common to directors
Reversion of surrendered stock to the treasury (30,250) (303) (303)
Net income for the year 1,247,607
---------- ----------- -------- ----------- -----------
Balance, December 31, 1993 (5,970,000) ($ 60) (180,250) ($ 1,803) $ 755,101
========== =========== ======== =========== ===========
Conversion of Class A to Common
Issuance of Common to directors 4,078
Net income for the year 421,580
Stock options exercised 298,460
---------- ----------- -------- ----------- -----------
Balance, December 31, 1994 (5,970,000) ($ 60) (180,250) ($ 1,803) $ 1,479,219
========== =========== ======== =========== ===========
Net loss for the year (1,718,510)
Stock options exercised 2,250
Conversion of Class A to Common
---------- ----------- -------- ----------- -----------
Balance, December 31, 1995 (5,970,000) ($ 60) (180,250) ($ 1,803) ($ 237,041)
========== =========== ======== =========== ===========
Net loss for the nine month period (175,400)
Stock options exercised 4,619
---------- ----------- -------- ----------- -----------
Balance, September 30, 1996 (5,970,000) ($ 60) (180,250) ($ 1,803) ($ 407,822)
========== =========== ======== =========== ===========
====================================================================================================================================
</TABLE>
The accompanying notes are an integral part of these statements
F-52
<PAGE> 55
================================================================================
AMERICONNECT, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
- --------------------------------------------------------------------------------
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED NINE MONTHS NINE MONTHS
DECEMBER 31, DECEMBER 31, DECEMBER 31, ENDED ENDED
1993 1994 1995 SEPTEMBER 30, SEPTEMBER 30,
1995 1996
(UNAUDITED) (UNAUDITED)
------------ ------------ ------------ ------------ ------------
<S> <C> <C> <C> <C> <C>
Cash flows from operating activities:
Cash received from customers $ 13,276,332 $ 16,209,896 $ 17,856,853 $ 13,604,597 $ 13,518,060
Interest received 11,049 27,276 15,588 11,711 5,706
Cash paid to suppliers and employees (12,840,296) (15,915,073) (17,928,209) (13,756,808) (13,475,640)
Interest paid (34,453) (20,636) (8,454) (5,823) (23,723)
------------ ------------ ------------ ------------ ------------
Net cash provided by (used in) operating activities 412,632 301,463 (64,222) (146,323) 24,493
Cash flows from investing activities:
Purchase of equipment and software (45,501) (108,001) (95,263) (82,593) (19,044)
Note receivable-director/shareholder -- (11,500) (3,000) (3,000) --
Payments on note receivable - director/shareholder -- -- -- -- 14,500
Notes receivable - employees -- -- -- -- (11,400)
Notes receivable-agents -- (206,995) (23,115) (20,000) (20,000)
Payments on agents notes receivable -- 5,838 70,900 74,864 752
------------ ------------ ------------ ------------ ------------
Net cash used in investing activities (45,501) (320,658) (50,478) (30,729) (35,192)
Cash flows from financing activities:
Proceeds from bank loan 1,029,606 3,450,000 6,143,950 4,130,000 8,785,000
Payments on bank loan (1,029,606) (3,450,000) (6,143,950) (3,786,683) (8,785,000)
Payment on shareholder note (300,000) -- -- -- --
Sale of stock to officer -- 297,000 -- -- --
Distribution of stock to director -- 4,078 -- -- --
Sale of stock to employees -- 1,460 2,250 2,250 4,619
------------ ------------ ------------ ------------ ------------
Net cash provided by (used in) financing
activities (300,000) 302,538 2,250 345,567 4,619
------------ ------------ ------------ ------------ ------------
Net increase (decrease) in cash 67,131 283,343 (112,450) 168,515 (6,080)
Cash at beginning of period 55,468 122,599 405,942 405,942 293,492
------------ ------------ ------------ ------------ ------------
Cash at end of period $ 122,599 $ 405,942 $ 293,492 $ 574,457 $ 287,412
============ ============ ============ ============ ============
Reconciliation of net income to net cash provided
by (used in) operating activities:
Net income (loss) $ 1,247,607 $ 421,580 ($ 1,718,510) ($ 503,916) ($ 175,400)
Adjustment
Depreciation and amortization 56,281 43,793 76,693 53,356 62,012
Provision for doubtful accounts 340,805 537,640 739,374 376,555 191,650
Deferred income taxes (500,000) -- 500,000 -- --
Accounts receivable (911,572) (517,299) (118,481) (156,457) (373,975)
Accounts receivable-trade from affiliates (2,652) (6,055) 3,804 (2,782) (1,997)
Prepaid commissions -- -- (88,764) -- 71,475
Other current assets (32,916) (28,928) (57,041) 35,496 7,146
Deposits 418 (11,494) 511 (3,683) 1,501
Accounts payable 64,288 (97,881) 691,755 102,265 252,030
Accrued office closing costs (10,385) (54,521) (10,153) (13,349) (8,539)
Sales taxes payable -- 50,187 (34,193) 10,528 4,074
Other accrued liabilities 164,758 (43,059) (29,832) (23,482) (220)
Deferred income -- -- (13,384) (13,384) (5,264)
Customer deposits (4,000) 7,500 (6,001) (7,500) --
------------ ------------ ------------ ------------ ------------
Net cash provided by (used in) operating
activities $ 412,632 $ 301,463 ($ 64,222) ($ 146,323) $ 24,493
============ ============ ============ ============ ============
Schedule of noncash activity:
None
</TABLE>
================================================================================
F-53
<PAGE> 56
AMERICONNECT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
THE COMPANY: AmeriConnect, Inc. and its wholly owned subsidiary,
AmeriConnect, Inc. of New Hampshire (collectively, the "Company") resell long
distance telecommunications services primarily to individuals and small to
medium-sized businesses. AmeriConnect, Inc. of New Hampshire was formed June
28, 1993, in order to do business in the state of New Hampshire.
PRINCIPLES OF CONSOLIDATION: The consolidated financial statements
include the accounts of AmeriConnect, Inc. and its wholly-owned subsidiary,
AmeriConnect, Inc. of New Hampshire. All material intercompany accounts and
transactions have been eliminated.
RECOGNITION OF REVENUE: The Company purchases network services
primarily at bulk rates and resells the services to its customers at marginally
higher rates. Revenue and its associated costs are recognized on an accrual
basis in the period during which the usage occurs.
EQUIPMENT AND SOFTWARE: Equipment and purchased software are
recorded at cost. Depreciation and amortization are provided for in amounts
sufficient to relate the cost of depreciable assets to operations over their
estimated service lives. The straight-line method of depreciation is used for
all assets for financial reporting purposes, but accelerated methods are used
for tax purposes.
NET INCOME (LOSS) PER COMMON AND COMMON EQUIVALENT SHARE: Net
income (loss) per share is based upon the weighted average of common and common
equivalent shares outstanding during the period.
COMMON STOCK EQUIVALENTS: For the years ended December 31, 1993
and 1994, common stock equivalents considered in the calculation of income per
common and common equivalent share include options outstanding under the
Company's 1988 and 1994 stock option plans. For the year ended December 31,
1995, and the nine month period ended September 30, 1996, common stock
equivalents considered in the calculation of net loss per common and common
equivalent share did not include options outstanding under the Company's 1988
and 1994 stock options plans as their effect would be anti-dilutive.
INCOME TAXES: Deferred income taxes result from timing differences
between pretax accounting income and taxable income.
USE OF ESTIMATES: In preparing financial statements in conformity
with generally accepted accounting principles, management is required to make
estimates and assumptions that affect the reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities at the date
of the financial statements and revenues and expenses during the reporting
period. Actual results could differ from those estimates.
CASH: Cash includes cash on hand and cash in checking accounts.
The Company maintains its cash balances in one financial institution, which at
times, may exceed federally insured limits. The Company has not experienced any
losses in such account and believes it is not exposed to any significant risk
on cash.
NOTE 2 - ECONOMIC DEPENDENCY AND CONCENTRATION OF CREDIT RISK
ECONOMIC DEPENDENCY: The Company operates as a
non-facilities-based reseller of long distance telecommunications services to
individuals and small to medium-sized businesses. The Company acquires its
network services by contracting with two underlying interexchange carriers
(Sprint Communications, L.P. ("Sprint") and WilTel, Inc. ("WilTel")). As of
December 31, 1994, 1995 and September 30, 1996, the Company was indebted to
Sprint for normal monthly services in the amount of $1,682,855, $2,266,170 and
$3,029,674, respectively, and WilTel in the amount of $58,195, $296,661 and
$368,023, respectively, which are included in accounts payable on the
accompanying consolidated balance sheet.
CONCENTRATION OF CREDIT RISK: The Company grants credit to its
customers, who include individuals and small to medium-sized businesses.
F-54
<PAGE> 57
AMERICONNECT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 3 - TRANSACTIONS WITH RELATED PARTIES
SALES TO RELATED ENTITIES: Sales of long distance service to
entities related to shareholders aggregated $43,140, $61,299 and $77,540 for
the years ended December 31, 1993, 1994 and 1995, respectively. Such sales were
consummated on terms similar to those prevailing with unrelated customers.
NOTE RECEIVABLE - DIRECTOR/SHAREHOLDER: During 1994 and early
1995, the Company made loans totaling $14,500 to a director/shareholder. They
were secured by 19,000 shares of the Company's common stock and bore interest
at 2 1/2% over the published prime rate found in The Wall Street Journal. The
loans were paid in full on January 24, 1996.
NOTE 4 - SIGNIFICANT SALES TO MAJOR CUSTOMERS
During 1993, 1994 and 1995, no customer accounted for 2% or more
of the Company's gross revenue.
NOTE 5 - OPERATING LEASES
The Company leases office space at 6750 W. 93rd St., Suite 110,
Overland Park, Kansas, under a lease calling for payments of $2,653 per month
through August 31, 1998. An amendment to that lease, executed on February 1,
1994, for additional office space calls for payments of $2,243 per month from
February 1, 1994 through August 31, 1998. A second amendment to the lease for
additional office space calls for payments of $2,362 per month from January 1,
1995 through December 31, 1999. Rental expense for the years ended December 31,
1993, 1994 and 1995, was $31,412, $56,358 and $87,967, respectively.
The Company also leases office equipment and furniture under
various operating leases. As of December 31, 1995, remaining minimum annual
rental commitments under noncancelable operating leases for office space,
office equipment and furniture are as follows:
<TABLE>
<CAPTION>
Total Rent
Fiscal Years Commitments
------------ -----------
<S> <C> <C>
1996 $143,602
1997 103,945
1998 67,517
1999 28,350
--------
$343,414
========
</TABLE>
Total expenses recognized for all operating leases including
leases for office space for the years ended December 31, 1993, 1994 and 1995
were $43,314, $106,489 and $156,366, respectively.
NOTE 6 - COMMITMENTS AND CONTINGENCIES
The Company has a contract with a firm to provide subscriber
statement processing and billing services. The contract is for a period of
three (3) years and expires in September 1996. Terms of the contract provide
for a monthly base charge with additional per unit processing charges.
Termination of this contract for cause requires a 90- day period during which
any breach of the contract can be cured, plus a requirement for a subsequent
written 30-day notice. Termination for cause requires the payment of all
amounts owed. Termination of the contract for the convenience of the Company
requires a written 180-day notice and a termination fee equal to one year's
charges. The Company is required to make minimum payments of $5,000 per month.
The Company has a contract with Sprint to provide
telecommunications services for the Company's customers. The agreement covers
the pricing of the services for a term of two years beginning September 1995.
The Company has an annual minimum usage commitment of $12,000,000 through
August 1996 and $14,400,000 from September 1996 to August 1997. In the event
the Company's customers use less than the minimum commitment, the difference is
due and payable by the Company to Sprint. Assuming a monthly average
requirement of $1,000,000
F-55
<PAGE> 58
AMERICONNECT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
under the Sprint contract, for the period from September, 1995 through December
1995 the Company accumulated a shortfall of $719,545. The Company anticipates
additional shortfall amounts to accumulate during 1996. In the event the
proposed merger with Phoenix Network, Inc. occurs, the Company currently
anticipates that all accumulated shortfall amounts will be addressed in a new
contract between Sprint and the surviving corporation. In the event the
proposed merger does not occur, the Company has begun negotiations with Sprint
to address the accumulated shortfall. While the Company believes the
accumulated shortfall at December 31, 1995, and any additional shortfall
amounts, will be resolved in a manner which will not have a material adverse
effect on the business or financial condition of the Company in the event the
proposed merger does not occur, there can be no assurance of such a result. If
the Company were required to pay the full amount of accumulated shortfalls,
this would have a material adverse effect on the Company's financial condition.
The Company has a contract with WilTel to provide
telecommunications services at discounted rates which will vary based upon the
amount of usage by the Company. The term of this usage commitment is
thirty-nine (39) months. The Company's agreement with WilTel calls for a
minimum monthly usage commitment of $50,000 through January 1998. In the event
the Company's customers use less than the minimum commitment in any month, the
difference is due and payable by the Company to WilTel in the following month.
The Company was in compliance with the contractual requirements of the
agreement throughout the year ended December 31, 1995.
On June 8, 1995, the Company entered into a revolving credit
facility which allows for maximum borrowings by the Company of the lesser of
$1,000,000 or 50% of eligible (less than 61 days old) receivables. Interest is
payable monthly at the bank's prime rate (8.5% at December 31, 1995) plus 1%.
Under the terms of the credit facility, the Company is required to meet certain
financial covenants. The line is secured by all of the Company's accounts
receivable. During 1995 and 1996, the Company had used this facility for short
terms borrowings, but had no outstanding borrowings at year end. At September
30, 1996, the Company was in default of certain of these financial covenants,
which defaults are continuing. While the Company currently does not expect
these defaults to impair its ability to utilize this facility during the
remainder of the existing term, it may negatively impact the Company's ability
to renew the credit facility. In the event the credit facility cannot be
renewed or the Company is unable to utilize the existing facility, the Company
would attempt to obtain a comparable credit facility from an alternative
financing source. While the Company has been able to obtain such facilities in
the past, there can be no assurance that the Company will be able to obtain a
credit facility with comparable terms or at all. The inability to obtain a
credit facility would have a material adverse effect on the Company's financial
condition and business.
In accordance with the terms of the credit facility, the Company
purchased a term life insurance policy on this key employee with a face amount
of $1,750,000 during the year ended December 31, 1994. Annual premiums are
approximately $3,500.
NOTE 7 - INCOME TAXES
The valuation of the deferred tax asset includes the following
amounts:
<TABLE>
<CAPTION>
1993 1994 1995 1996
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Deferred tax asset $ 1,188,200 $ 1,091,512 $ 1,667,882 $ 1,715,301
Valuation allowance (688,200) (591,512) (1,667,882) (1,715,301)
----------- ----------- ----------- -----------
Deferred tax asset $ 500,000 $ 500,000 $-0- $-0-
=========== =========== =========== ===========
</TABLE>
The approximate tax effect caused by the net operating loss
carryforward, and the difference in treatment for book and tax for allowance
for doubtful accounts and prepaid commissions gives rise to the deferred tax
asset at December 31, 1993, 1994, 1995 and September 30, 1996 of $1,188,200,
$1,091,512, $1,667,882 and $1,715,301, respectively. In 1993 and 1994, the
valuation allowance was established to reduce the deferred tax asset to the
amount that will more likely than not be realized. In 1995, the Company
increased the valuation on its deferred tax asset by $1,076,370, reducing the
deferred asset to zero. Because of the operating loss in 1995, the Company is
no longer able to determine that it would more likely than not realize the
deferred tax asset. As a result of this change in estimate, the valuation
allowance was increased by $500,000, which related to the deferred tax asset as
of December 31, 1994, and an additional valuation allowance of $576,370 was
recorded to offset the additional deferred tax asset created by the net
operating loss in 1995.
F-56
<PAGE> 59
AMERICONNECT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
In 1993 and 1994, management believed that it would realize the
deferred tax asset of $500,000. The deferred tax asset was classified in the
accompanying consolidated balance sheet as a $250,000 current and a $250,000
long-term asset.
The valuation allowance was adjusted for the years ended December
31, as follows:
<TABLE>
<CAPTION>
1993 1994 1995 1996
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Valuation allowance, beginning
of year $ 1,473,890 $ 688,200 $ 591,512 $ 1,667,882
Valuation adjustment (285,690) (96,688) 576,370 47,419
Adjustment in allowance due to
change in estimate (500,000) -- 500,000 --
----------- ----------- ----------- -----------
Valuation allowance, end
of year $ 688,200 $ 591,512 $ 1,667,882 $ 1,715,301
=========== =========== =========== ===========
</TABLE>
The income tax expense (benefit) reflected in the consolidated
statements of operations differs from the amount computed at federal statutory
income tax rates. The principal differences are as follows:
<TABLE>
<CAPTION>
1993 1994 1995
--------- --------- ---------
<S> <C> <C> <C>
Federal income tax expense computed
at statutory rate $ 240,925 $ 139,980 $(389,436)
State income tax effect 44,765 26,280 (73,111)
Net operating loss carryforward (285,690) (158,564) 462,547
Alternative minimum tax effect 6,100 8,709 --
Valuation adjustment due to change
in estimate (500,000) -- 500,000
--------- --------- ---------
Income tax expense $(493,900) $ 16,405 $ 500,000
========= ========= =========
</TABLE>
The components of income tax expense (benefit) related to continuing
operations are as follows:
<TABLE>
<CAPTION>
1993 1994 1995
--------- --------- ---------
<S> <C> <C> <C>
Current $ 6,100 $ 16,405 $ --
Deferred (500,000) -- 500,000
--------- --------- ---------
$(493,900) $ 16,405 $ 500,000
========= ========= =========
</TABLE>
The Company has available for income tax purposes the following
net operating loss carryforwards at December 31, 1995:
<TABLE>
<CAPTION>
Year of Expiration Amount
------------------ ------
<S> <C> <C>
2005 $ 363,712
2006 1,671,205
2007 185
2008 185
2010 1,687,506
$ 3,722,793
</TABLE>
F-57
<PAGE> 60
AMERICONNECT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 8 - COMMON STOCK, WARRANTS AND OPTIONS
PUBLIC OFFERING: In its initial public offering in 1989, the
Company issued 828,000 units each of which consisted of five shares of
previously unissued common stock, par value $.01 per share, and five redeemable
Class A Warrants at a price per unit of $5.00. Each of the Class A Warrants,
which was transferable separately immediately upon issuance, entitled the
holder to purchase for $1.00 one share of common stock and one redeemable Class
B common stock purchase warrant ("Class B Warrant"). The Class A Warrants
expired on May 29, 1994. Each Class B Warrant entitled the holder to purchase
one share of common stock at $1.50 until May 29, 1994. The warrants are not
common stock equivalents for the purposes of the earnings per share
computations. (See Note 1.) In addition, the Company granted the underwriter
and finder options to purchase 57,600 and 14,400 units, respectively, at $6.00
per unit exercisable over a period of four years commencing one year from the
date of the prospectus.
MISSING STOCK CERTIFICATES: Prior to the Company's initial public
offering, the stockholders of record as of March 29, 1989, executed escrow
agreements which required the placement in escrow of 150,000 shares of
outstanding common stock and 5,970,000 shares of outstanding Class A common
stock pending the achievement of certain earnings objectives. These earnings
objectives were not met and, consequently, all of the shares subject to the
escrow agreement were retired and have been accounted for as treasury stock
since December 31, 1992. In addition, in connection with the execution of a
voting trust agreement in 1989, certificates representing 3,014,751 shares of
Class A common stock were issued in the name of a voting trust in substitution
for the certificates held by some of the stockholder-parties to the voting
trust agreement. This voting trust expired in June of 1992. During the first
quarter of 1992, however, the Company learned that the escrow agent associated
with the escrow agreements asserts that it has never received the stock
certificates representing the shares subject to the escrow agreements. During
the same period, the Company discovered that the certificates representing
2,975,751 of the shares transferred to the voting trust were never delivered to
the Company for cancellation. The Company has been unable to locate neither the
original share certificates nor the certificates issued to the voting trust. As
a result, if a stockholder attempted to transfer any of the shares subject to
the escrow agreements or the voting trust agreement in violation of such
agreements, there can be no assurance that an innocent transferee could not
successfully claim the right to the shares purportedly transferred to him or
her. The Company believes, however, that the legends affixed to each of the
missing certificates, which state that the shares are subject to the
restrictions of the voting trust agreement and the escrow agreements,
respectively, are sufficient to prevent a transferee from acquiring a valid
claim with respect to the shares represented by the missing certificates. In
addition, the Company has obtained affidavits from each holder of the missing
certificates that no such purported transfers have been made.
STOCK RIGHTS: The rights and preferences of common stock and Class
A common stock are substantially identical except that each share of common
stock entitles the holder to one vote whereas, each share of Class A common
stock entitles the holder to five votes. Class A common stock automatically
converts into common stock on a one-for-one basis upon sale or transfer to an
entity or individual who was not a holder of Class A common stock before such
sale or transfer, or at any time at the option of the holder. During 1993, 1994
and 1995, 211,167, 113,400 and 113,400 shares, respectively, of Class A stock
were converted to common stock through private transactions.
STOCK OPTION PLANS: On July 29, 1988, the Company adopted a stock
option plan allowing 300,000 shares of unissued but authorized common stock for
issuance of incentive and/or non-qualified stock options. At December 31, 1995,
all options had been granted under the plan, and 23,000 options had been
returned to the Company by employees who resigned prior to vesting. Such
returned options are again available for use under the plan.
On May 27, 1994, the Company adopted a second stock option
plan allowing for 500,000 shares of unissued but authorized common stock for
issuance of incentive and/or non-qualified stock options. As of December 31,
1995, 487,000 options under this plan had been granted and 142,000 options had
been returned to the Company by employees who resigned prior to vesting. Such
returned options are again available for use under the plan.
Stock option plan transactions for the years ended December 31, 1993, 1994,
1995 and September 30, 1996, are summarized below:
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AMERICONNECT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
<TABLE>
<CAPTION>
1988 Plan 1994 Plan Total
----------- ----------- -----------
<S> <C> <C> <C>
Outstanding at January 1, 1993 -- -- --
Granted 300,000 -- 300,000
Exercised -- -- --
Cancelled (2,000) -- (2,000)
----------- ----------- -----------
Outstanding at December 31, 1993 298,000 -- 298,000
Granted 6,000 252,500 258,500
Exercised (33,000) -- (33,000)
Cancelled (11,000) (5,000) (16,000)
----------- ----------- -----------
Outstanding, at December 31, 1994 260,000 247,500 507,500
Granted -- 234,500 234,500
Exercised (75,000) -- (75,000)
Cancelled (16,000) (137,000) (153,000)
----------- ----------- -----------
Outstanding at December 31, 1995 169,000 345,000 514,000
Granted -- -- --
Exercised (1,000) -- (1,000)
Cancelled -- (8,500) (8,500)
----------- ----------- -----------
Outstanding at September 30, 1996 162,000 293,500 455,500
Exercisable at December 31, 1994 260,000 -- 260,000
Exercisable at December 31, 1995 169,000 47,500 216,500
Exercisable at September 30, 1996 162,000 47,500 209,500
Option price per share exercised $0.03-$0.50 -- $0.03-$0.50
Price for outstanding options $0.03-$0.50 $0.26-$0.75 $0.03-$0.75
=========== =========== ===========
</TABLE>
The expiration dates for the options issued under the 1988 Plan
range from May 1998 to December 2003. At September 30, 1996, 23,000 shares were
available for future grants under the 1988 Plan.
The expiration dates for the options issued under the 1994 Plan
range from August 2004 to December 2005. At September 30, 1996, 195,856 shares
were available for future grants under the 1994 Plan.
STOCK ISSUED WITH RESPECT TO SERVICE ON BOARD OF DIRECTORS: In
October 1992, the Board approved the issuance of stock as compensation to
directors not receiving any other form of compensation from the Company. Each
qualifying director received 5,000 shares of common stock for each quarter of
service. During 1993 and 1994, 19,000 shares of common stock were issued
pursuant to the Board action, no shares were issued pursuant thereto in 1995.
STOCK ISSUABLE WITH RESPECT TO REVOLVING CREDIT FACILITY: In
connection with a revolving credit agreement with Robert R. Kaemmer, President
of the Company, Mr. Kaemmer had the option to purchase up to 900,000 shares of
common stock at $0.33 per share. Mr. Kaemmer exercised this option by
purchasing 900,000 shares of common stock on April 27, 1994.
F-59
<PAGE> 62
AMERICONNECT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
NOTE 9 - OFFICE CLOSING COSTS
After reviewing the costs of maintaining its Washington, D.C.
sales office, the projected sales from that location, and the general financial
condition of the Company, the Board decided to close the office effective
December 31, 1991. All estimated costs and expenses directly associated with
the closing of the office were accrued as of December 31, 1991, and recognized
in the financial statements. Subsequent payments of the accrued costs were
charged to the liability account, accrued office closing costs.
NOTE 10 - KEY EMPLOYEE INCENTIVE COMPENSATION PLAN
The Company has an incentive compensation plan which provides for
incentive payments to a key employee based on 5% of net earnings before
depreciation and amortization and income taxes. Expenses under the plan amount
to $65,845, $27,726, and $0 for the years ended 1993, 1994, 1995 and the nine
month period ended September 30, 1996, respectively.
In addition, during the year ended December 31, 1994, the board of
directors authorized a one-time performance bonus of $45,000 to this key
employee. The payment was made during the second quarter of 1994.
NOTE 11 - NOTES RECEIVABLE
The Company conducts a portion of its business through agents.
Some of these agents have borrowed from the Company in order to obtain
necessary capital to expand their operations. These borrowings are represented
by short term promissory notes. The terms of the notes permit the Company to
withhold the monthly payments from commissions due the agents, if necessary.
The interest rate for all the notes is 2 1/2% over the prime rate published by
The Wall Street Journal. At December 31, 1994, a reserve of $100,000 was
established against amounts due from a specific agent whose receivable,
including unpaid charges, aggregated $498,061. During 1995, the Company and
this agent became involved in litigation, and it has been determined that no
recovery on the amounts will be made. As a result, the remaining receivable of
$398,061 was written off. The Company is currently negotiating a mutual release
of all claims with this agent and does not expect to incur any additional
liability as a result of the litigation.
NOTE 12 - ONGOING OPERATIONS
The accompanying financial statements have been prepared in
accordance with generally accepted accounting principles. The Company reported
a net loss of $1,718,510 in 1995. As a result, liabilities exceeded assets by
$237,041. Non-cash items such as depreciation and amortization, provision for
doubtful accounts and deferred income taxes collectively contributed $1,316,067
of the loss. The remaining $402,443, along with a $118,481 increase in accounts
receivable and a $691,755 increase in accounts payable, contributed to cash
used in operations of $64,222. In light of the foregoing, in order to become
profitable, the Company must achieve sufficient volume levels to obtain
additional discounts under its existing carrier contracts or negotiate new
contracts with its carriers to obtain favorable pricing at existing volume
levels and reduce other costs. In addition, the Company may explore financing
and other strategic transactions, such as the proposed merger (discussed in
Note 13 below).
The proposed merger would reduce the Company's direct operating
costs through volume discounts on long-distance pricing from its carriers and
would provide certain economics of scale which management believes would allow
its operations to become profitable and allow it to compete for new and
existing customers. If, for any reason, the proposed merger is not consummated,
the Company plans to increase sales and reduce its costs and will continue to
explore other strategic alternatives (which may include financings, mergers,
acquisitions, joint ventures or other strategic transactions).
NOTE 13 - SUBSEQUENT EVENT
On January 15, 1996, the Company and Phoenix Network, Inc.
("Phoenix"), a San Francisco, California-based long distance reseller and
provider of value-added telecommunications services, signed a letter of intent
to merge the two companies in a stock-for-stock transaction. The parties
currently are negotiating a definitive merger
F-60
<PAGE> 63
AMERICONNECT, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
agreement. In connection with the proposed merger, Phoenix expects to issue
approximately 4 million new shares of common stock in exchange for all of the
outstanding shares of the Company. It is currently anticipated that the closing
will take place on or about August 15, 1996, pending the obtaining of all
necessary regulatory approvals and approval of the shareholders of both
companies. There can be no assurance that the ongoing negotiations between the
Company and Phoenix will in fact result in the execution of a definitive merger
agreement or that the terms of any such agreement would be as described above.
NOTE 14 - FOURTH QUARTER ADJUSTMENTS
During the fourth quarter 1995, the Company recorded adjustments
of approximately $940,000 relating primarily to receivables and the deferred
tax asset.
NOTE 15 - PROFIT SHARING PLAN
The Company adopted a 401(k) savings plan effective January 1,
1994, covering nearly all eligible employees with at least six months of
service. Under the terms of the plan, employees may contribute up to 15% of
their gross wages. The Company matches 100% of the first 3% contributed by each
employee. The Company's contribution to the plan for the year ending December
31, 1994, 1995 and the nine month period ended September 30, 1996 were
approximately $ -0-, $ 15,664 and $14,907, respectively.
NOTE 16 - NEW PRONOUNCEMENTS
Stock-Based Compensation
The Company has not elected early adoption of Financial Accounting
Standard No. 123 ("SFAS 123") Accounting for Stock-Based Compensation. SFAS 123
becomes effective beginning with the Company's first quarter of 1996. Upon
adoption of SFAS 123, the Company will continue to reassure compensation
expense for its stock-based employee compensation plans using the intrinsic
value method prescribed by APB Option No. 25, Accounting for Stock Issued to
Employees, and will provide pro forma disclosures of net income and earnings
per share as if the par value method prescribed by SFAS 123 had been applied in
measuring compensation expense. For options granted to non-employees after
December 15, 1995, the Company will be required to apply the fair value method
prescribed by SFAS 123. The Company has not determined the future effect of
adopting SFAS 123 on the consolidated financial position or operating results.
Other Recent Pronouncements
In 1995, Financial Account Standards No. 121 ("SFAS 121"),
Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
be disposed of, was issued and is effective for fiscal years commencing after
December 15, 1995. The future adoption of SFAS 121 is not expected to leave a
material effect on the Company's consolidated financial position or operating
results.
F-61
<PAGE> 64
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 hereunto duly authorized.
Date: January 24, 1997 Phoenix Network, Inc.
By: /s/ Jeffrey L. Bailey
---------------------------
Jeffrey L. Bailey
Senior Vice President and
Chief Financial Officer
3.
