- --------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
OR
( ) TRANSITION REPORT UNDER SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
Commission File No. 1-10588
INTELLICALL, INC.
(Exact name of registrant as specified in its charter)
Delaware 75-1993841
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification number)
2155 Chenault, Suite 410
Carrollton, TX 75006
(Address of Principal Executive Offices)
(972) 416-0022
(Registrant's telephone number, including area code)
Indicate by check mark whether the Registrant (1) has filed all reports to be
filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the
preceding 12 months (or for such shorter period that the registrant was required
to file such reports) and (2) has been subject to such filing requirements for
the past 90 days.
Yes X No ___
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Outstanding at
Class November 16,1998
Common Stock $.01 par value 10,007,042
- --------------------------------------------------------------------------------
<PAGE>
INDEX
INTELLICALL, INC.
Part I. Financial Information
Item 1. Financial Statements
Balance Sheets at September 30, 1998
(Unaudited) and December 31, 1997...............................1
Statements of Operations for each of the
three month periods ended September 30, 1998 and 1997
(Unaudited) ..............................................3
Statements of Operations for each of the
nine month periods ended September 30, 1998 and 1997
(Unaudited) ...............................................4
Statements of Cash Flows for each of the nine month periods
ended September 30, 1998 and 1997
(Unaudited) ..............................................5
Notes to Financial Statements...................................6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations..........................................16
Part II. Other Information
Item 6. Exhibits and Reports on Form 8-K...............................20
Signatures....................................................................21
<PAGE>
Part I. Financial Information
Item 1. Financial Statements
INTELLICALL, INC.
BALANCE SHEETS
ASSETS
(in thousands)
<TABLE>
<CAPTION>
September 30, 1998 December 31, 1997
(unaudited)
<S> <C> <C>
Current assets
Restricted cash .................................................. $ 19 $ 2,488
Cash and cash equivalents ........................................ 331 66
Receivables....................................................... 17,168 34,881
Less allowance for doubtful accounts......................... 5,524 6,211
--------- ---------
11,644 28,670
Inventories, net.................................................. 4,004 5,002
Related party, net................................................ 884 --
Other current assets.............................................. 370 1,908
--------- ---------
Total current assets......................................... 17,252 38,134
Fixed assets, net...................................................... 1,462 8,387
Capitalized software costs, net........................................ 2,370 2,968
Notes receivable, net.................................................. 1,126 1,125
Intangible assets, net................................................. 771 31,802
Investment in unconsolidated investee.................................. 1,913 --
Other assets, net...................................................... 1,321 2,373
--------- ---------
$ 26,215 $ 84,789
======== ========
</TABLE>
See notes to financial statements.
- 1 -
<PAGE>
INTELLICALL, INC.
BALANCE SHEETS (CONTINUED)
LIABILITIES AND STOCKHOLDERS' EQUITY
(in thousands, except share information)
<TABLE>
<CAPTION>
September 30,1998 December 31, 1997
(Unaudited)
<S> <C> <C>
Current liabilities
Accounts payable.......................................... $ 1,824 $11,320
Accrued transmission, customer commissions and billing
charges............................................... 1,362 12,222
Deferred revenue.......................................... 84 1,262
Accrued liabilities....................................... 1,134 4,456
Capital lease obligation, current......................... -- 157
Current portion of long-term debt ........................ 1,000 4,928
-------- ------------
Total current liabilities................................. 5,404 34,345
Long-term debt ................................................ 9,746 21,217
Deferred gain on sale to unconsolidated investee............... 968 --
Capital lease obligation ..................................... -- 843
Other liabilities.............................................. 250 948
Minority interest.............................................. -- 6,769
Commitments and contingent liabilities......................... -- --
---------- -------------
Total liabilities 16,368 64,122
Redeemable preferred stock Series B-2, $100 par value;
zero and 111,960 shares issued and outstanding,
respectively.............................................. -- 11,196
Redeemable preferred stock Series B-3, $300 par value; zero
and 6,667 shares issued and outstanding,
respectively.............................................. -- 2,000
Stockholders' equity
Preferred stock, $.01 par value; 1,000,000 shares
authorized; 2,690 and 4,000 shares issued
and outstanding, respectively......................... 1 1
Common stock, $.01 par value; 20,000,000 shares
authorized; 9,947,446 and 9,471,944 shares issued,
respectively......................................... 98 95
Additional paid-in capital................................ 57,873 57,486
Less common stock in treasury, at cost;
24,908 shares........................................ (258) (258)
Accumulated deficit....................................... (47,867) (49,853)
--------- -------
Total stockholders' equity........................... 9,847 7,471
---------- -------
$ 26,215 $ 84,789
======== ========
</TABLE>
See notes to financial statements.
- 2 -
<PAGE>
INTELLICALL, INC.
STATEMENTS OF OPERATIONS (UNAUDITED)
(in thousands, except share information)
<TABLE>
<CAPTION>
THREE MONTHS ENDED
September 30,
1998 1997
---- ----
<S> <C> <C>
Revenues and sales:
Service revenues $ 8,542 $ 24,991
Equipment sales 4,755 5,770
------- ------
13,297 30,761
-------- -----------
Cost of revenues and sales:
Service revenues 8,060 22,750
Equipment sales 3,728 10,410
-------- --------
11,788 33,160
------- --------
Gross profit:
Service revenues 482 2,241
Equipment sales 1,027 (4,640)
-------- ----------
1,509 2,399)
Selling, general and administrative expenses 2,219 3,572
Provision for doubtful accounts 93 273
Research and development expenses 286 257
------ -------
Operating loss (1,089) (6,501)
Interest income 80 216
Interest expense (376) (619)
Equity in loss of investee (88) --
Minority interest -- (83)
---------- -------
Loss before income taxes (1,473) (6,987)
Income tax expense -- (142)
---------- ----------
Net loss $ (1,473) $ (7,129)
========= ==========
Basic net loss per share $ (.15) $ (.76)
========= ==========
Weighted average number of shares outstanding 9,912 9,334
========= ==========
Fully diluted net loss per share $ (.15) $ (.76)
========= ==========
Shares used in fully diluted net loss per share calculation 9,912 9,334
=========== ==========
</TABLE>
See notes to financial statements.
- 3 -
<PAGE>
INTELLICALL, INC.
STATEMENTS OF OPERATIONS(UNAUDITED)
(in thousands, except share information)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
September 30,
1998 1997
---- ----
<S> <C> <C>
Revenues and sales:
Service revenues $ 21,689 $ 65,276
Equipment sales 12,338 13,721
-------- ----------
34,027 78,997
-------- ----------
Cost of revenues and sales:
Service revenues 20,342 59,202
Equipment sales 9,797 18,508
------- --------
30,139 77,710
-------- --------
Gross profit:
Service revenues 1,347 6,074
Equipment sales 2,541 (4,787)
-------- ---------
3,888 1,287
Selling, general and administrative expenses 6,485 8,876
Provision for doubtful accounts 237 525
Research and development expenses 843 455
------ ------
Operating loss (3,677) (8,569)
Interest income 239 445
Interest expense (1,159) (1,831)
Gain on sale of assets 6,892 --
Equity in loss of investee (418) --
Minority interest -- (129)
-------- --------
Income (loss) before income taxes 1,877 (10,084)
Income tax expense -- (142)
---------- ---------
Net income (loss) $ 1,877 $ (10,226)
========== =========
Basic net income (loss) per share $ .19 $ (1.12)
========== =========
Weighted average number of shares outstanding 9,716 9,211
========= =========
Fully diluted net income (loss) per share $ .17 $ (1.12)
========== =========
Shares used in fully diluted net income (loss) per share calculation 10,926 9,211
========== =========
</TABLE>
See notes to financial statements.
- 4 -
<PAGE>
INTELLICALL, INC.
STATEMENTS OF CASH FLOWS (UNAUDITED)
<TABLE>
<CAPTION>
(in thousands) NINE MONTHS ENDED
September 30,
1998 1997
---- ----
<S> <C> <C>
Operating Activities:
Net income (loss) $ 1,877 $ (10,226)
Adjustments to reconcile net income (loss) to
net cash provided by operating activities:
Depreciation and amortization 1,496 4,667
Provision for doubtful accounts 237 934
Provision for inventory 225 4,382
Equity in loss of investee 418 --
Minority interest in income of ILD -- 129
Changes in operating assets and liabilities (See Note 1):
Restricted cash (7) (3)
Receivables 3,055 (5,379)
Inventories 743 175
Related party (754) --
Other current assets 281 314
Notes receivable 117 8
Accounts payable (4,160) 1,633
Accrued transmissions, commissions and billing charges (1,283) 3,407
Accrued liabilities 18 1,088
Deferred revenue -- (595)
Deferred gain on sale to unconsolidated investee 968 --
Other 1,572 (2,454)
--------- ---------
Net cash provided by (used in) operating activities 4,803 (1,920)
Investing activities:
Purchase of equipment (368) (807)
Capitalized software (750) (1,162)
Acquisition of WorldCom assets -- (10,021)
--------- --------
Net cash used in investing activities (1,118) (11,990)
Financing activities:
Net (repayments on) proceeds from line of credit (3,787) 4,028
Proceeds from issuance of stock 433 7,852
---------- ---------
Net cash (used in) provided by financing activities (3,354) 11,880
Net increase (decrease) in cash and cash equivalents 331 (2,030)
Cash and cash equivalents at beginning of period -- 2,271
--------- ----------
Cash and cash equivalents at end of period $ 331 $ 241
========= =========
Supplemental cash flow information:
Interest paid $ 656 $ 1,281
========= ==========
Supplemental non cash information:
Conversion of debt to equity $ 210 $ 1,320
========= ==========
Conversion of preferred stock to common stock $ 1,310 $ --
========= ==========
Stock issued in acquisition of WorldCom assets -- $ 11,696
========= ==========
Preferred stock dividend declared -- 55
========= ==========
</TABLE>
See notes to financial statements.
- 5 -
<PAGE>
INTELLICALL, INC.
NOTES TO FINANCIAL STATEMENTS
NOTE 1 - CERTAIN ACCOUNTING POLICIES
Basis of Presentation. The accompanying financial statements of
Intellicall, Inc. (the "Company") have been prepared in accordance with the
requirements of Form 10-Q and do not include all disclosures normally required
by generally accepted accounting principles or those normally made in annual
reports on Form 10-K. The financial statements as of December 31, 1997 and
results of operations for the quarter ended September 30, 1997 include the
financial position and results of operations of the Company's majority-owned
subsidiary ILD Telecommunications, Inc. ("ILD"). In the quarter ended March 31,
1998, the Company's ownership percentage of ILD decreased from 54% at December
31, 1997 to 42% at March 31, 1998. (See Note 5 herein). Accordingly, effective
January 1, 1998, the Company accounted for its investment in ILD under the
equity method of accounting retroactively to January 1, 1998. At September 30,
1998, the Company's ownership in ILD remained at 42%. In management's opinion,
all adjustments necessary for a fair presentation of the results of operations
for the periods shown have been made and are of a normal and recurring nature.
The results of operations for the nine months ended September 30, 1998 are not
necessarily indicative of the results of operations expected for the full year
1998. The financial statements herein should be read in conjunction with the
consolidated financial statements and notes thereto included in the Company's
Annual Report on Form 10-K for the year ended December 31, 1997.
Statement Presentation. Certain prior year amounts have been
reclassified to conform to current year presentation.
Software Development Costs. The Company capitalizes costs related to
the development of certain software products. In accordance with Statement of
Financial Accounting Standards No. 86, capitalization of costs begins when
technological feasibility has been established and ends when the product is
available for general release to customers. Amortization is computed on an
individual product basis based on the products' estimated economic life using
the straight line method, not to exceed five years.
The amounts of software development costs capitalized in the third quarter of
1998 and 1997 were $250,000 and $271,000, respectively. The Company recorded
$151,000 and $397,000 of software amortization expense for the three months
ended September 30, 1998 and 1997.
For the nine months ended September 30, 1998 and 1997, the Company capitalized
$750,000 and $1,162,000, respectively, of software development costs. The
software amortization expense recorded
- 6 -
<PAGE>
INTELLICALL, INC.
NOTES TO FINANCIAL STATEMENTS
was $405,000 and $1.4 million for the nine months ended September 30, 1998 and
1997.
Cash and Cash Equivalents. For purposes of the balance sheets and
statements of cash flows, cash and cash equivalents include short-term liquid
investments purchased with remaining maturities of three months or less.
Earnings per Share: Basic net income (loss) per share has been
computed in accordance with Statement of Financial Accounting Standards No. 128,
"Earnings per Share" ("FAS 128"), using the weighted average number of common
shares outstanding. The provision and disclosure requirements for FAS 128 were
required to be adopted for interim and annual periods ending after December 15,
1997, with restatement of EPS for all prior periods.
The following table sets forth a reconciliation of the numerator and
denominator used in the basic and diluted EPS computation for the three and nine
month periods ended September 30, 1998 and 1997, respectively:
<TABLE>
<CAPTION>
Three months Three months Nine months Nine months
ended ended ended ended
September 30, September 30, September 30, September 30,
1998 1997 1998 1997
------------- ------------- ------------- -------------
<S> <C> <C> <C> <C>
Net income (loss) $ (1,473) $ (7,129) $ 1,877 $ (10,226)
Basic:
Weighted average number of shares outstanding 9,912 9,334 9,716 9,211
===== ===== ===== =====
Diluted:
Weighted average number of shares outstanding used
in the basic net income (loss) per share calculation 9,912 9,334 9,716 9,211
Weighted average shares from assumed exercise of
dilutive stock options and warrants, net of shares
assumed to be repurchased with exercise proceeds -- -- 208 --
Assumed conversion of Series A Preferred Stock
at beginning of period -- -- 1,002 --
Assumed conversion of convertible debt -- -- -- --
------- ------- ------ -------
Weighted average number of shares outstanding used
in the fully diluted net income (loss) per share
calculation 9,912 9,334 10,926 9,211
===== ===== ====== =====
</TABLE>
In accordance with FAS 128, options and warrants to purchase 2,915,705
and 2,932,740 shares respectively, of Common Stock were excluded in the diluted
EPS calculation because they were antidilutive for the three months
ended September 30, 1998 and 1997, respectively. For the nine months
ended September 30, 1998 and 1997, respectively, options and warrants to
purchase 1,883,580
- 7 -
<PAGE>
INTELLICALL, INC.
NOTES TO FINANCIAL STATEMENTS
and 2,932,740 shares respectively, of Common Stock were excluded in
the diluted EPS calculations because they were antidilutive. Conversion of
debt was antidilutive and therefore was excluded for both of the three and
nine month period calculations. Conversion of preferred stock was excluded
for 1998 and 1997, third quarter calculations as well as the nine month 1997
calculation because they were antidilutive.
Disclosures about Reporting Comprehensive Income: In June 1997,
Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive
Income" ("FAS 130"), was issued. FAS 130 establishes standards for reporting and
display of comprehensive income and its components (revenues, expenses, gains,
and losses) in a full set of general-purpose financial statements. It requires
all items that are required to be recognized under accounting standards as
components of comprehensive income be reported in a financial statement that is
displayed with the same prominence as other financial statements. FAS 130 is
effective for fiscal years beginning after December 15, 1997. The Company will
adopt this Statement in the year ending December 31, 1998. Reclassification of
financial statements for earlier periods provided for comparative purposes is
required upon adoption. The Company has no components of comprehensive income
not already included in net income.
Disclosures about Segments of an Enterprise and Related Information: In
June 1997, Statement of Financial Accounting Standards No. 131, "Disclosures
About Segments of an Enterprise and Related Information" ("FAS 131"), was
issued. FAS 131 establishes standards for the way that public business
enterprises report information about operating segments in annual financial
statements and requires that those enterprises report selected information about
operating segments in interim financial reports issued to shareholders. FAS 131
is effective for financial statements for periods beginning after December 15,
1997. The Company will adopt FAS 131 in the year ending December 31, 1998.
Disclosures about Accounting for Derivative Instruments and Hedging
Activities: In June, 1998, Statement of Financial Accounting Standards No. 133,
"Accounting for Derivative Instruments and Hedging Activities" ("FAS 133") was
issued. FAS 133 is effective for all fiscal quarters of all fiscal years
beginning after June 15, 1999 (January 1, 2000 for the Company). FAS 133
requires that all derivative instruments be recorded on the balance sheet at
their fair value. Changes in the fair value of derivatives are recorded each
period in current earnings or other comprehensive income, depending on whether a
derivative is designated as part of a hedge transaction and, if it is, the type
of hedge transaction. Management of the Company anticipates that, due to its
limited use of derivative instruments, the adoption of FAS 133 will not have a
significant effect on the Company's results of operations or its financial
position.
- 8 -
<PAGE>
INTELLICALL, INC.
NOTES TO FINANCIAL STATEMENTS
Year 2000 Discussion.
Background and Objectives The Company has undertaken a program (the
"Y2K Program") to ensure that its operations, computer systems and certain
products are not functionally impaired as a result of a failure to properly
record in any electronic medium the correct time and date on and after January
1, 2000. The Y2K Program is a multi-year program which commenced in 1997. Its
objectives are as follows:
(A) to determine and assess the operations of the Company and its
customers which are at risk of experiencing a Y2K disruption;
(B) to develop test plans which simulate processing activities of
Company-manufactured equipment in a post-1999 environment;
(C) to prioritize and schedule remedial activities, estimate
correlative costs and assign the necessary manpower;
(D) to review and inventory all electronic hardware, software, systems
and networks used by the Company in its operations;
(E) to obtain assurance from key vendors that their products and
services used by the Company are Y2K compliant, or that suitable Y2K upgrades
will be made available to the Company;
(F) to determine whether non-compliant components of the Company's
systems or networks should be upgraded or replaced;
(G) to empower and assign responsibilities for achieving Y2K compliance
to appropriate personnel within the Company; and
(H) to monitor and control progress, costs and final testing to ensure
timely Y2K compliance.
The Company has assigned responsibilities for Y2K compliance to two
groups of employees as follows:
(A) Engineering--responsible for devising test plans, conducting tests,
and developing suitable Y2K upgrades of certain equipment manufactured and sold
by the Company prior to the year 2000; and
(B) Information Systems--responsible for assessing and suitably
modifying or replacing components of systems and networks used in the Company's
operations, including those used to process customer call records.
Current Y2K Program Status. The Engineering Group is currently
devising test plans and scripts for payphones currently supported by the
Company. Although limited testing has occurred, it appears that modifications
of the Company's currently supported payphones and of INET, the system
controller of such payphones, are expected to be completed and tested by
mid-1999. Test plans and scripts for the N-Genius product line are currently
incomplete, and no testing has occurred. The
- 9 -
<PAGE>
INTELLICALL, INC.
NOTES TO FINANCIAL STATEMENTS
design and development of Astratel 2 and N-Genius product lines occurred with
Y2K requirements in mind, for which reason, extensive modifications of these
products to achieve Y2K compliance is not expected to be required.
Pending the completion of testing, neither the scope nor cost of
upgrading software used in the Company's manufactured products can be estimated
with precision. However, knowledgeable engineers estimate that labor costs for
necessary modifications should not exceed $150,000, and such modifications,
including testing of modified products, are projected to be complete early in
the third quarter of 1999.
The Company does not plan to test or modify products which it no longer
supports. Additionally, Y2K modifications may be incorporated in software
releases containing other upgrades in product capability. Y2K product
modifications are expected to be completed principally by Company personnel.
There can be no assurances that tests and scripts devised by the
Company will detect all instances of Y2K non-compliance, or that the scope and
cost of work shown to be required upon completion of testing will be consistent
with the Company's current expectations, or that appropriate personnel will be
available when required to make and test the modifications, or that upgraded
software will be installed in customer equipment on a timely basis.
The Information Systems Group ("ISG") has largely completed the process
of evaluating electronic equipment and systems principally used by the Company
in its manufacturing, accounting, administration and human resources
departments. Additionally the ISG has evaluated the Y2K compliance of the system
used to process customer-submitted call traffic data (hereinafter called the
"CTD System"). Based upon work which has been completed, the ISG has concluded
that the CTD System will be made Y2K compliant as part of a broader effort to
upgrade it. The CTD System upgrade is expected to be undertaken by existing
Intellicall personnel and completed by the third quarter of 1999. The projected
labor cost of the total system upgrade is approximately $100,000, of which the
portion applicable to Y2K compliance is minor. There can be no assurance that
the CTD System upgrade will be completed on time or within budget, or that it
will be sufficiently Y2K compliant to permit processing of customer call traffic
without material disruption or cost.
The ISG has obtained written assurance from third-party vendors that
the Company's accounting, MRP and payroll systems will be Y2K compliant in
1998. Letters of assurance have been requested from other key third-party
vendors concerning other equipment and systems utilized by the Company. There
can be no assurance that the Company will receive responses from all of its
vendors in a timely manner, or that such responses will be accurate or
complete. Moreover, the Company has
- 10 -
<PAGE>
INTELLICALL, INC.
NOTES TO FINANCIAL STATEMENTS
not conducted, and will be unable to conduct, an in-depth evaluation
of its third-party providers in relation to their ability to adequately address
Y2K issues.
The ISG has inventoried all personal computers, and related servers and
software used by the Company. The inventory is largely complete, on the basis of
which, the Company has tentatively adopted a plan to spend approximately
$125,000 for replacements and upgrades of the inventoried equipment and software
to achieve Y2K compliance and otherwise improved performance. Management
believes that the necessary replacements and upgrades can be obtained from
third-parties on a timely basis.
The success of Intellicall's business is dependent on, and is
interconnected with, numerous third-party suppliers. The depth and complexity of
interconnectivity raises the probability that an unforeseen Y2K problem may
arise, notwithstanding the best efforts of the Company and its suppliers to
avoid one. Consequently, there can be no assurance that the Company's
operations, financial condition or prospects will not be materially impaired by
an unanticipated non-compliant Y2K event.
Risk Assessment and Contingency Plans. The Company carries business
interruption insurance, but its policy does not cover, and it is unable to
purchase a policy that covers, business interruption losses arising from Y2K
non-compliance. Although the risks of Y2K losses exist, management of the
Company believes, based on its current assessment of the cost and work scope
required to achieve Y2K compliance, that there is a small but not insignificant
risk of a material loss resulting from the occurrence of a non-compliant event
for the following reasons.
(A) Most of the Company's software used in its accounting, human
resources, payroll and production functions is purchased software from a
reliable third-party vendors, each of which is expected to make necessary Y2K
modifications of the software available to the Company on a timely basis.
(B) Y2K modifications likely to be required of proprietary software
used in the Company's manufactured equipment and to process call traffic are
believed to be less challenging to make than other modifications routinely made
by the Company to its proprietary software.
(C) The Company makes extensive use of off-the-shelf software in its
personal computers.
(D) The distributed, non-interactive nature of much of the software
used by the Company and its suppliers reduces the possibility of a broad-based,
system-wide Y2K loss.
Notwithstanding management's belief that a material Y2K loss is
improbable, there can be no assurance that such a loss will not occur in spite
of the best efforts of the Company and its suppliers to timely achieve Y2K
compliance.
- 11 -
<PAGE>
INTELLICALL, INC.
NOTES TO FINANCIAL STATEMENTS
NOTE 2 - LONG-TERM DEBT AND LINE OF CREDIT
The Company's debt consisted of the following (in thousands):
<TABLE>
<CAPTION>
September 30, 1998 December 31, 1997
<S> <C> <C>
Intellicall, Inc.
8% Convertible subordinated notes, due 2000 $ 2,630 $ 2,840
8% Convertible subordinated notes, due 2001 5,000 5,000
Convertible subordinated note, due 1999 1,000 1,000
Asset-based note collateralized by certain assets, due 1999 2,464 4,114
Installment note, due 1998 -- 28
----------- ---------
11,094 12,982
Less unamortized debt discount (348) (450)
---------- ---------
10,746 12,532
--------- ---------
ILD Telecommunications, Inc. related debt -- 13,613
---------- ---------
Total debt 10,746 26,145
Less: Current portion of long-term debt (1,000) (4,928)
----------- ----------
Total long-term debt $ 9,746 $ 21,217
=========== ===========
</TABLE>
On February 15, 1994, the Company issued a $1.0 million, 10.0%,
convertible, subordinated note to T.J. Berthel Investments, L.P., whose
ownership also controls 7.2% of the Company's outstanding common stock. Interest
is payable quarterly and commenced March 31, 1994. The entire principal amount
matures on March 31, 1999. The note may be converted by the holder into 160,000
shares of the Company's Common Stock at any time.
On December 29, 1995, the Company completed the sale of $7.5 million of
8.0% convertible subordinated notes, due December 31, 2000, to Banca Del
Gottardo in Lugano, Switzerland. The notes were issued with warrants to purchase
300,000 shares of the Company's Common Stock at $4.20 per share. The notes are
convertible into 1,785,714 shares of the Company's Common Stock at a price of
$4.20 per share. As of September 30, 1998, $4.87 million of the Banca Del
Gottardo Notes were converted to 1,159,517 shares of the Company's Common Stock.
Interest is payable semi-annually and commenced June 30, 1996.
- 12 -
<PAGE>
INTELLICALL, INC.
NOTES TO FINANCIAL STATEMENTS
On November 22, 1996, the Company completed the sale of $5.0 million of
8.0% convertible subordinated notes, due November 22, 2001, to Banca Del
Gottardo in Lugano, Switzerland. The notes were issued with warrants to purchase
200,000 shares of the Company's Common Stock at $5.00 per share. The notes are
convertible into one million shares of the Company's Common Stock at a price of
$5.00 per share. Interest is payable semi-annually and commenced May 1997.
On November 22, 1996, the Company entered into a Loan and Security
Agreement (the "Loan Agreement") with Finova Capital Corporation ("Finova")
pursuant to which Finova agreed to loan the Company up to $12,000,000 (the
"Loan") based on an available borrowing base. The borrowing base consists
primarily of call traffic and trade equipment receivables and inventory, subject
to eligibility requirements determined by Finova. Amounts loaned subject to the
borrowing base are determined by percentages established in the Loan Agreement,
but are within the discretion of Finova. Such percentages are subject to change
based on experience and Finova's expectations regarding future collectibility of
receivables and usage of inventory.
The Loan is evidenced by a Secured Revolving Credit Note (the "Note")
payable to the order of Finova. Borrowings under the Loan bear interest at the
rate of prime plus 1.75%. The interest rate may be decreased prospectively by up
to 0.5% based on future profitability of the Company. Also the Loan has an
unused line fee equal to one quarter of one percent (0.25%) per annum of the
unused portion of the total facility and a facility fee equal to one-half of one
percent (0.50%) per annum of the amount of the total facility payable on the
first anniversary of the Loan Agreement and one each subsequent anniversary
thereof. Interest is paid monthly.
The initial term of the Loan Agreement is three years at which time,
unless extended, all amounts then outstanding must be repaid. The Loan Agreement
contains prepayment penalties in the event it is terminated prior to expiration
of its initial term. The Loan is secured by first and prior liens and security
interests encumbering substantially all of the assets of the Company, including
inventory, equipment, accounts receivable, general intangibles, trademarks and
tradenames. The Loan Agreement contains various restrictions (including a
prohibition against the payment of dividends, limitations on capital
expenditures, and restrictions on investments) and financial ratio maintenance
requirements (including minimum working capital and net worth requirements). As
of September 30, 1998 the Company was in compliance with all covenants.
At December 31, 1997 ILD Telecommunications, Inc. (ILD) had $13.6
million of long term debt due from 1998 through 2001 at interest rates ranging
from 9% to 13.5%.
- 13 -
<PAGE>
INTELLICALL, INC.
NOTES TO FINANCIAL STATEMENTS
NOTE 3 - INVENTORY
As of September 30, 1998 and December 31, 1997, the Company's net
inventories consisted of the following (in thousands):
September 30, December 31,
1998 1997
------------- -----------
Raw materials $ 2,848 $ 2,491
Work-in-process 360 378
Finished goods 796 2,133
---------- --------
Total inventories, net 4,004 $ 5,002
$========= ==========
NOTE 4 - EQUITY FINANCING
On July 21, 1997 (the "Closing Date") the Company entered into a
Securities Purchase Agreement (the "Purchase Agreement") with four institutional
investors (the "Investors") pursuant to which the Investors purchased $4,000,000
of the Company's Series A Convertible preferred stock (the "preferred stock").
As of September 30, 1998, $1,310,000 of the Company's preferred stock had been
converted into 358,377 shares of the Company's Common Stock. During November
1998, 1,000 shares of the Company's preferred stock were converted to 84,504
shares of the Company's Common Stock.
The preferred stock, plus all accrued stock dividend premiums at 7%
annually, is convertible into Common Stock of the Company at the option of each
Investor at a conversion price equal to the lower of $5.05 per share (the "Fixed
Conversion Price") or eighty percent (80%) of the volume weighted average
fifteen day trading price preceding the date of conversion (the "Variable
Conversion Price").
Any shares of preferred stock outstanding two years after the Closing
Date will automatically convert into Common Stock.
The Investors may require the Company to redeem certain shares of
preferred stock (i) in the event the number of shares of common stock issuable
upon conversion (based on the conversion price in existence from time to time)
multiplied by 1.25 would exceed the maximum number of shares of common stock
which the Company can issue without shareholder approval pursuant to applicable
New
- 14 -
<PAGE>
York Stock Exchange Guidelines, unless shareholder approval is so obtained
within 120 days of such occurrence, (ii) in the event the Company fails to
reserve an adequate number of shares of common stock as contemplated by the
designation of preferred stock creating the preferred stock (the "Designation"),
unless such failure is cured by board of directors and/or shareholder approvals
as required, (iii) in the event the Company fails to honor a conversion notice
and (iv) in other events as more fully set forth in the Designation. Any
redemptions, however, are limited to the Company's borrowing availability under
its Loan Agreement with Finova.
The Designation grants to the Company the option, under certain
circumstances, to redeem for cash any shares of preferred stock submitted for
conversion if the Variable Conversion Price is less than $4.00 per share and
funds are available under the Company's Loan Agreement with Finova.
The Company filed a registration statement on the common stock
underlying the conversion of the preferred stock on September 5, 1997.
In conjunction with the issuance of the preferred stock, the Company
entered into a Second Amendment to the Loan and Security Agreement with Finova
(the "Second Amendment"). The Second Amendment modified one financial covenant
and allowed the Company to redeem the preferred stock as contemplated in the
Designation if (i) following and giving effect to such redemption the Company
shall have excess borrowing availability under its borrowing base of not less
than $500,000, and shall have paid in full or made provision for payment in full
of all of the Company's accounts payable in excess of $500,000 which are
outstanding beyond their due date and are not contested in good faith by the
Company and all bank overdrafts and (ii) at the time of such redemption no event
of Monetary Default, as defined in the loan agreement with Finova, and no event
which, with notice or passage of time or both, would constitute an event of
Monetary Default under the loan agreement with Finova has occurred and is
continuing, or would result from such redemption.
NOTE 5 - SALE OF STOCK OF ILD TELECOMMUNICATIONS, INC.
On March 30, 1998, the Company sold to SMCO, LLP 18,348.62 shares of
ILD Telecommunications, Inc. common stock. SMCO is an unrelated third party, the
negotiations for the sale transactions were at arm's length, and there were no
additional obligations or elements of financial consideration relating to the
sale transaction. The Company sold the shares for $325.00 per share and recorded
a gain on the sale in the amount of $5.6 million. The transaction was
consummated on March 30, 1998.
On April 3, 1998 the Company sold 1,539 shares of its Series A
preferred stock in ILD Telecommunications, Inc. to SMCO Investments, LLC. The
shares were sold for $325.00 per share, or $500,175, resulting in a gain on sale
of assets of $493,000, net of legal fees.
- 15 -
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Forward-Looking Statements - Cautionary Statements
This Form 10-Q contains certain "forward-looking statements" within the
meaning of Section 27A of the Securities Act of 1933, as amended (the
"Securities Act"), and Section 21E of the Securities Exchange Act of 1934, as
amended (the "Exchange Act"). Specifically, all statements other than statements
of historical facts included in this report regarding the Company's financial
position, business strategy and plans and objectives of management of the
Company for future operations are forward-looking statements. These
forward-looking statements are based on the beliefs of the Company's management,
as well as assumptions made by and information currently available to the
Company's management. When used in this report, the words "anticipate,"
"believe," "estimate," "expect," and "intend" and words or phrases of similar
import, as they relate to the Company or Company management, are intended to
identify forward-looking statements. Such statements (the "cautionary
statements") reflect the current view of the Company with respect to future
events and are subject to risks, uncertainties and assumptions related to
various factors including, without limitation, competitive factors, general
economic conditions, customer relations, relationships with vendors, the
interest rate environment, governmental regulation and supervision, seasonality,
product introductions and acceptance, technological change, changes in industry
practices and one-time events. Although the Company believes that expectations
are reasonable, it can give no assurance that such expectations will prove to be
correct. Based upon changing conditions, should any one or more of these risks
or uncertainties materialize, or should any underlying assumptions prove
incorrect, actual results may vary materially from those described herein as
anticipated, believed, estimated, expected or intended. All subsequent written
and oral forward-looking statements attributable to the Company or persons
acting on its behalf are expressly qualified in their entirety by the applicable
cautionary statements.
Recent Developments
Effective January 1, 1998, the Company changed its method of accounting
for its investment in ILD Telecommunications, Inc. ("ILD") from full
consolidation to the equity method, since its percentage ownership in ILD
declined from 54% at December 31, 1997 to 42% in March 1998. Under the equity
method, an investment in common stock is generally shown in the balance sheet of
an investor as a single amount. Likewise, an investor's share of net earnings or
losses from its investment is ordinarily shown in its income statement as a
single amount.
Prior-year comparative financial information has not been restated to the equity
method and is presented as previously reported, as is required under SEC rules.
In reviewing the financial statements and discussion contained in this Form
10-Q, the reader must be aware that much of the information is not directly
comparable as the operating results and balance sheet of ILD were consolidated
with those of the Company in 1997.
- 16 -
<PAGE>
Financial Condition
Liquidity and Capital Resources
During the nine months ended September 30, 1998 the Company
generated $4,803,000 of cash from operating activities and from sales of (a) the
Company's prepaid calling card business and (b) a portion of its investment in
the common stock of ILD. Additionally, $433,000 of cash was obtained from
issuance of the Company's common stock.
Cash was used principally to reduce by $3,787,000 the outstanding
balance under the Company's revolving line of credit and to fund the Company's
operating loss. In addition, $750,000 of cash was invested in software and
product development, and $368,000 of cash was used to purchase capital
equipment. The net result of the foregoing changes was an increase in cash and
cash equivalents of $331,000.
In recent years, the Company has financed its net losses, capital
expenditures and research and development costs through asset sales, reductions
in working capital and external financing. In the fourth quarter of 1998 and
beyond, management of the Company believes that funds required for capital
spending, new product development, debt service and fixed expenses will be
generated from operations and from funds available to the Company under its
revolving line of credit. Funds available from operations will be positive if
equipment sales exhibit sufficiently rapid growth and the mix of equipment sales
shifts in favor of higher-margin equipment. As of September 30, 1998 the
Company's available borrowings under its revolving line of credit amounted to
$2.8 million.
If insufficient funds are generated from future operations, and if
funds were unavailable or insufficiently available to the Company under its
revolving line of credit, the Company may be required to sell assets or seek
further external funding. If such a situation were to develop, management
believes that Intellicall has adequate opportunities to obtain, in a timely
manner, the funds required for its operations.
Results of Operations
Service Revenues. Total service revenues declined in the third quarter
and nine months ended September 30, 1998 when compared to the prior years due
primarily to adoption of the equity method of accounting for the operating
results of ILD, effective January 1, 1998. In the third quarter and nine months
ended September 30, 1997, ILD's service revenues, including prepaid calling card
revenues, were $16.3 million and $34.9 million, respectively. If third-quarter
and nine-month service revenues are adjusted so as to exclude ILD's revenues
from the comparison, third-quarter services revenues declined by $0.2 million
and nine-month service revenues declined by $8.7 million. Of the $8.7 million
decline, $7.2 million resulted from discontinuation in June 1997 of Jail*Star,
the Company's marginally profitable inmate services program. The remaining $1.5
million portion of the decline (and the $0.2 million third-quarter decline)
results from a continuing decline in the volume of per-phone call traffic due to
"dial-around" partially offset by an increase in the number of phones utilizing
Intelli*Star technology. Dial-around is an increasingly prevalent practice by
payphone users of accessing operator service systems and long distance carriers
other than those used by payphone
- 17 -
<PAGE>
owners.
In June 1998, and continuing into the third quarter, call traffic
revenues enjoyed a burst of growth, which was marginally profitable and
generated by the payphones of one customer. In August 1998, the customer
initiated the discontinuance of submissions to the Company of its call traffic,
which amounted to $3.1 million in the third quarter of 1998 and $5.8 million for
the nine-month 1998 period.
Gross profit from services revenues decreased $1.8 million and $4.7
million for the three and nine months ended September 30, 1998, compared to the
corresponding periods in 1997. Of these declines, $1.6 million and $3.6 million,
respectively, relate to 1997 ILD operations, while $0.2 million and $1.1 million
relate to the Company's continuing operations.
These declines in gross profit from continuing operations, as a
percentage of declines in related service revenues, result from changes in the
mix of service revenues from 1997 to 1998 periods. In the 1997 periods,
profitable unbundled service revenues and validation service revenues accounted
for larger portions of overall service revenues than in 1998 periods, when the
contributions of such revenue were negligible.
Equipment Sales. Equipment sales were $4.8 million and $5.8 million for
the quarters ended September 30, 1998 and 1997, respectively, and $12.3 million
and $13.7 million for the corresponding nine-month periods.
Demand for the Company's payphones and related equipment from
independent payphone providers ("IPP's") continues to be markedly weaker than in
the 1997 third quarter and nine-month periods. IPP sales declined by
approximately $2.4 million from the third quarter of 1997 to the comparable
quarter of 1998. Comparing the nine-month periods, the IPP sales decline
amounted to $4.2 million.
Delayed, sporadic and negligible payments to IPP's related to
dial-around compensation appear to have diminished the incentives to expand
their routes. In lieu of route expansion, many IPP's have chosen to rotate
phones within their routes from one location (where increased numbers of
undercompensated dial-around calls have rendered a location insufficiently
profitable) to another (where a higher rate of coin and lower rate of
dial-around calls increase profitability). Until the amount and timing of
dial-around compensation payments become adequate and reliable, management of
the Company believes that sales to IPP's will continue to be impaired. As of
November 13, 1998, management is unable to forecast either the form or timing of
the final resolution of the dial-around compensation issue.
Partially offsetting weakness in the IPP market segment has been
increased demand for the N-Genius product line from international customers and,
commencing in the 1998 third quarter, demand from a regulated telephone company
for Astratel 2 kits. Although international sales have been hampered by the
currency weakness of Pacific Rim and certain Latin American countries, the
Company's export sales have continued to expand in 1998. The Company's equipment
sales to the international and regulated telephone company segments increased by
$1.4 million in the third quarter and $2.8 million for the nine months ended
September 30, 1998 when compared with corresponding periods in 1997.
- 18 -
<PAGE>
The Company's gross profit on equipment sales for the quarter ended
September 30, 1998 was $1,027,000, or 21.6% of related sales, compared to a
$4,640,000 loss in the corresponding 1997 quarter. In the 1997 third quarter,
the Company provided approximately $6,000,000 for inventory losses and
impairment of certain capitalized software costs, without which gross profit in
the period would have been $1,306,000, or 22.6% of sales. The decline in gross
margin from 22.6% of sales in the 1997 third quarter to 21.6% in the 1998
quarter resulted principally from the aforementioned $1.0 million decline in
equipment sales volume.
Gross profit from equipment sales, after excluding the effect of the
$6,000,000 million charge in 1997 from the comparison, increased from
$1,213,000, or 8.8% of related sales, in the nine months ended September 1997 to
$2,541,000, or 20.6% of related sales in the 1998 nine-month period. Although
gross profit for the nine month period was adversely affected by the year-to-
year decline in nine month sales, the Company benefited from receipt in 1998
of a $518,000 order cancellation fee, from a $993,000 reduction in amortized
software development costs, from reduced product material costs, and from
reduced overhead costs and labor efficiency.
Selling, General and Administrative Expenses. For the quarter and nine
months ended September 30, 1997, ILD's selling, general and administrative
("SG&A") expenses were $1,576,000 and $3,095,000, respectively. Excluding ILD's
SG&A expenses from comparisons, the Company's SG&A expenses increased by
$223,000, or 11%, and $704,000, or 12%, from the 1997 third quarter and
nine-month period, respectively to the corresponding 1998 periods. Such
increased expense results from higher sales and marketing costs, higher public
and investor relation's costs and, for the nine-month comparison only, the cost
of certain litigation in June 1998 of $112,500.
Provision for Doubtful Accounts. Reflecting the improved credit quality
and lower level of the Company's sales, the provision for doubtful accounts
declined from $273,000 in the third quarter of 1997 to $93,000 in the third
quarter of 1998. Similarly, the provision for doubtful accounts fell from
$525,000 in the 1997 nine-month period to $237,000 in the corresponding 1998
period.
Research and Development Expenses. Research and development expenses
increased $29,000 for the quarter ended September 30, 1998 compared to the
quarter ended September 30, 1997. For the nine-month period, such expenses
increased $388,000 from 1997 to 1998 due principally to a $412,000 reduction of
capitalized software development costs in the 1998 period.
Gain on Sale of Assets. During the nine months ended September 30,
1998 the Company reported a $493,000 gain from the sale of a portion of the
Company's ownership interest in ILD to an unrelated third party. (See Note 5.)
Also, during the nine months ended September 30, 1998 the Company
reported gains on sales of assets totaling $6.4 million resulting from the sale
of the Company's prepaid services operation to ILD in January 1998 and from a
sale in March 1998 of a portion of the Company's ownership interest in the
common stock of ILD to an unrelated third party.
- 19 -
<PAGE>
Part II. Other Information
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits: None
(b) Reports on Form 8-K: None.
- 20 -
<PAGE>
Signatures
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, the Registrant has duly caused this report to be signed on its behalf
by the undersigned thereunto duly authorized.
INTELLICALL, INC.
/s/ John J. McDonald, Jr.
----------------------------------------
John J. McDonald, Jr.
President and
Chief Executive Officer
/s/ R. Phillip Boyd
----------------------------------------
R. Phillip Boyd
Vice President Finance
and Chief Financial Officer
Date: November 16, 1998
- 21 -
<TABLE> <S> <C>
<ARTICLE> 5
<CIK> 0000818674
<NAME> Intellicall, Inc.
<MULTIPLIER> 1,000
<CURRENCY> U.S. Dollars
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JUL-01-1998
<PERIOD-END> SEP-30-1998
<EXCHANGE-RATE> 1
<CASH> 350
<SECURITIES> 0
<RECEIVABLES> 17,168
<ALLOWANCES> (5,524)
<INVENTORY> 4,004
<CURRENT-ASSETS> 1,254
<PP&E> 8,250
<DEPRECIATION> (6,788)
<TOTAL-ASSETS> 26,215
<CURRENT-LIABILITIES> 5,404
<BONDS> 0
0
1
<COMMON> 98
<OTHER-SE> 9,748
<TOTAL-LIABILITY-AND-EQUITY> 26,215
<SALES> 4,755
<TOTAL-REVENUES> 13,297
<CGS> 3,728
<TOTAL-COSTS> 11,788
<OTHER-EXPENSES> 2,598
<LOSS-PROVISION> (1,089)
<INTEREST-EXPENSE> (376)
<INCOME-PRETAX> (1,473)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,473)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,473)
<EPS-PRIMARY> (.15)
<EPS-DILUTED> (.15)
</TABLE>
