<PAGE> 1
United States
Securities and Exchange Commission
Washington, D.C. 20549
Form 8-K/A-1
Current Report
0-16715
----------------------
Commission File Number
Pursuant to Section 13 or 15(d) of
The Securities Exchange Act of 1934
January 3, 1997
---------------------------------
Date of Report
(Date of Earliest Event Reported)
PhoneTel Technologies, Inc.
----------------------------------------------------
(Exact name of registrant as specified in its charter)
Ohio 34-1462198
----------------------- -------------------------
(State of Incorporation) (I.R.S. Identification No.)
1127 Euclid Avenue
650 Statler Office Tower
Cleveland, Ohio 44115-1601
---------------------------------------------------
Address and zip code of principal executive offices
(216) 241-2555
-----------------------------
Registrant's telephone number
<PAGE> 2
Part I
ITEM 7. FINANCIAL STATEMENTS AND EXHIBITS
(a) Financial statements of businesses acquired. The following financial
statements for Cherokee Communications, Inc. as of and for the years ended
September 30, 1996 and 1995 are set forth in Exhibit 99.1 hence and incorporated
herein by reference.
1. Cherokee Communications, Inc.
Audited Financial Statements:
Independent Auditors' Report
Balance Sheets as of September 30, 1996 and 1995
Statements of Income for the years ended September 30,
1996, 1995 and 1994
Statements of Shareholders' Equity for
the years ended September 30, 1996, 1995 and 1994
Statements of Cash Flows for the years ended September 30,
1996, 1995, and 1994
Notes to Financial Statements
(c) Exhibits
Exhibit No. Document
- ----------- --------
99.1 Financial Statements of Cherokee Communications, Inc. listed in
Item 7(a)
<PAGE> 3
SIGNATURES
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.
PhoneTel Technologies, Inc.
(Registrant)
Date: January 27, 1997 By: /s/ Peter G. Graf
---------------------
Peter G. Graf
Chairman of the Board and
Chief Executive Officer
<PAGE> 4
Exhibit No. Document
- ---------- --------
99.1 Financial Statements of Cherokee Communications, Inc. as listed
in Item 7(a)
<PAGE> 1
Exhibit 99.1
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Shareholders of
Cherokee Communications, Inc.:
We have audited the accompanying balance sheets of Cherokee Communications,
Inc. (the Company) as of September 30, 1996 and 1995, and the related statements
of income, shareholders' equity and cash flows for each of the three years in
the period ended September 30, 1996. 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, such financial statements present fairly, in all material
respects, the financial position of the Company at September 30, 1996 and 1995,
and the results of its operations and its cash flows for each of the three years
in the period ended September 30, 1996, in conformity with generally accepted
accounting principles.
/s/ Deloitte & Touche LLP
Dallas, Texas
December 20, 1996
1
<PAGE> 2
CHEROKEE COMMUNICATIONS, INC.
BALANCE SHEETS
SEPTEMBER 30, 1996 AND 1995
<TABLE>
<CAPTION>
1996 1995
----------- -----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents........................................ $ 592,491 $ 668,778
Trade accounts receivable, less allowance for doubtful accounts
of $364,074 and $264,803, respectively (Notes 6 and 10)....... 3,888,621 4,453,192
Inventories (Note 6)............................................. 112,699 137,036
Prepaid expenses and other current assets........................ 262,748 303,273
Deferred income tax benefits (Note 9)............................ 144,526 108,717
------------ ------------
Total current assets..................................... 5,001,085 5,670,996
Property and equipment -- net (Notes 2, 3 and 6)................... 16,466,001 12,935,453
Site licenses -- net (Notes 1 and 2)............................... 3,771,571 1,941,467
Investment in and advances to affiliates (Note 5).................. 251,672 164,549
Other assets -- net (Note 4)....................................... 455,488 681,754
------------ ------------
TOTAL............................................... $25,945,817 $21,394,219
============ ============
LIABILITIES AND SHAREHOLDERS' EQUITY
Current liabilities:
Note payable -- receivable financing (Note 6).................... $ -- $ 659,604
Current portion of other notes payable (Note 6).................. 3,320,197 1,491,767
Current portion of capital lease obligations (Note 7)............ 668,826 1,094,381
Accounts payable................................................. 835,384 310,358
Accrued telecommunication and other expenses..................... 3,036,633 2,971,935
Income taxes payable............................................. 475,945 256,140
------------ ------------
Total current liabilities................................ 8,336,985 6,784,185
Long-term liabilities:
Notes payable, less current portion (Note 6)..................... 10,030,963 6,605,835
Capital lease obligations, less current portion (Note 7)......... 56,219 780,593
Deferred income tax liability (Note 9)........................... 306,021 342,359
------------ ------------
Total long-term liabilities.............................. 10,393,203 7,728,787
Commitments and Contingencies (Notes 7 and 11)
Shareholders' equity (Notes 8 and 12):
Convertible redeemable preferred stock........................... 2,400,000 2,400,000
Common stock warrants, with mandatory redemption requirements.... 1,087,000 1,087,000
Common stock, no par value; 15,000,000 shares authorized,
5,320,467 shares issued and outstanding....................... 351,903 351,903
Additional paid-in capital....................................... 10,630 10,630
Retained earnings................................................ 3,366,096 3,031,714
------------ ------------
Total shareholders' equity............................... 7,215,629 6,881,247
------------ ------------
TOTAL............................................... $25,945,817 $21,394,219
============ ============
</TABLE>
See notes to financial statements.
2
<PAGE> 3
CHEROKEE COMMUNICATIONS, INC.
STATEMENTS OF INCOME
YEARS ENDED SEPTEMBER 30, 1996, 1995 AND 1994
<TABLE>
<CAPTION>
1996 1995 1994
----------- ----------- -----------
<S> <C> <C> <C>
Telecommunications revenues:
Pay phone coin calls............................... $17,615,059 $14,036,665 $10,797,869
Automated operator, routed calls................... 15,932,154 17,049,394 16,425,708
Other (Note 5)..................................... 1,363,738 505,581 641,899
----------- ----------- -----------
Total...................................... 34,910,951 31,591,640 27,865,476
Operating costs and expenses:
Telephone charges.................................. 9,078,851 7,851,842 7,257,272
Commissions........................................ 5,627,288 4,909,445 4,341,260
Telecommunication fees and validation.............. 1,519,095 1,821,930 1,834,389
Depreciation and amortization...................... 5,353,797 4,298,090 4,284,734
Field operations personnel......................... 2,988,456 2,016,935 1,610,952
Chargebacks and doubtful accounts.................. 1,111,857 1,104,896 784,636
Selling, general and administrative (Note 10)...... 6,435,919 5,520,405 4,634,890
----------- ----------- -----------
Total...................................... 32,115,263 27,523,543 24,748,133
----------- ----------- -----------
Operating income..................................... 2,795,688 4,068,097 3,117,343
Other income (expense):
Interest expense................................... (1,635,055) (1,450,249) (1,682,465)
Amortization of debt discount...................... (181,167) (181,167) (181,167)
Interest income.................................... 5,069 57,278 20,329
Equity in earnings (losses) of affiliates (Note
5).............................................. (108,556) (34,608) (226,625)
Gain on equipment sales and other (Note 3)......... 27,234 1,160,238 67,917
----------- ----------- -----------
Total...................................... (1,892,475) (448,508) (2,002,011)
----------- ----------- -----------
Income before income taxes........................... 903,213 3,619,589 1,115,332
Provision for income taxes (Note 9).................. 424,831 1,399,140 512,402
----------- ----------- -----------
Net income................................. $ 478,382 $ 2,220,449 $ 602,930
=========== =========== ===========
</TABLE>
See notes to financial statements.
3
<PAGE> 4
CHEROKEE COMMUNICATIONS, INC.
STATEMENTS OF SHAREHOLDERS' EQUITY
YEARS ENDED SEPTEMBER 30, 1996, 1995 AND 1994
<TABLE>
<CAPTION>
PREFERRED STOCK COMMON COMMON STOCK ADDITIONAL
-------------------- STOCK -------------------- PAID-IN RETAINED
SHARES AMOUNT WARRANTS SHARES AMOUNT CAPITAL EARNINGS
------- ---------- ---------- --------- -------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Balance, October 1, 1993...... 240,000 $2,400,000 $1,087,000 5,312,467 $343,183 $ 10,630 $ 496,335
Cash dividends on preferred
stock..................... (144,000)
Net income.................. 602,930
------- ---------- ---------- --------- -------- ------- ----------
Balance, September 30, 1994... 240,000 2,400,000 1,087,000 5,312,467 343,183 10,630 955,265
Cash dividends on preferred
stock..................... (144,000)
Proceeds from exercise of
common stock options...... 8,000 8,720
Net income.................. 2,220,449
------- ---------- ---------- --------- -------- ------- ----------
Balance, September 30, 1995... 240,000 2,400,000 1,087,000 5,320,467 351,903 10,630 3,031,714
Cash dividends on preferred
stock..................... (144,000)
Net income.................. 478,382
------- ---------- ---------- --------- -------- ------- ----------
Balance, September 30, 1996... 240,000 $2,400,000 $1,087,000 5,320,467 $351,903 $ 10,630 $3,366,096
======= ========== ========== ========= ======== ======= ==========
</TABLE>
See notes to financial statements.
4
<PAGE> 5
CHEROKEE COMMUNICATIONS, INC.
STATEMENTS OF CASH FLOWS
YEARS ENDED SEPTEMBER 30, 1996, 1995 AND 1994
<TABLE>
<CAPTION>
1996 1995 1994
------------ ----------- -----------
<S> <C> <C> <C>
Operating Activities:
Net income.................................................. $ 478,382 $ 2,220,449 $ 602,930
Noncash items in net income:
Depreciation and amortization............................. 5,353,797 4,298,090 4,284,734
Amortization of debt discount............................. 181,167 181,167 181,167
Equity in losses of affiliates............................ 108,556 34,608 226,625
Deferred income taxes..................................... (72,147) 440,064 88,456
Gain on sale of property and equipment.................... (188) (1,136,894) (51,854)
Cash from (used for) changes in operating working capital:
Trade accounts receivable................................. 564,571 (201,298) (946,867)
Inventories............................................... 24,337 (58,244) 58,875
Prepaid expenses and other current assets................. 40,525 (89,410) (56,234)
Accounts payable and accrued liabilities.................. 589,724 438,730 619,244
Income taxes payable...................................... 219,805 (112,003) 335,672
------------ ----------- -----------
Net cash from operating activities................... 7,488,529 6,015,259 5,342,748
------------ ----------- -----------
Investing Activities:
Additions to property and equipment......................... (6,691,601) (5,794,108) (4,059,111)
Increase in site licenses (Note 2).......................... (3,854,153) (440,220) (433,746)
Increase in other assets.................................... (79,353)
Proceeds from sale of property and equipment................ 57,759 2,041,310 96,905
Investments in and advances to affiliates................... (206,252) (218,767) (40,591)
Distributions from affiliates............................... 10,573 49,798 60,427
Sale (purchase) of short-term cash investments.............. 150,000 (150,000)
------------ ----------- -----------
Net cash used for investing activities............... (10,683,674) (4,291,340) (4,526,116)
------------ ----------- -----------
Financing Activities:
Issuance of (payments on) note payable -- receivable
financing................................................. (659,604) (1,045,570) 161,812
Issuance of other notes payable............................. 8,035,810 4,048,753 2,122,523
Payments on notes payable and capital lease obligations..... (4,113,348) (4,704,006) (2,948,227)
Issuance of common stock.................................... -- 8,720 --
Cash dividends on preferred stock........................... (144,000) (144,000) (144,000)
------------ ----------- -----------
Net cash from (used for) financing activities........ 3,118,858 (1,836,103) (807,892)
------------ ----------- -----------
Increase (decrease) in cash and cash equivalents.............. (76,287) (112,184) 8,740
Cash and cash equivalents:
Beginning of year........................................... 668,778 780,962 772,222
------------ ----------- -----------
End of year................................................. $ 592,491 $ 668,778 $ 780,962
============ =========== ===========
Supplemental information:
Interest paid............................................... $ 1,606,376 $ 1,462,519 $ 1,635,052
============ =========== ===========
Income taxes paid........................................... $ 277,173 $ 1,091,368 $ 23,000
============ =========== ===========
Noncash investing and financing activities:
Equipment and other assets acquired under capital lease
obligations and debt.................................... $ -- $ -- $ 367,500
============ =========== ===========
</TABLE>
See notes to financial statements.
5
<PAGE> 6
CHEROKEE COMMUNICATIONS, INC.
NOTES TO FINANCIAL STATEMENTS
YEARS ENDED SEPTEMBER 30, 1996, 1995 AND 1994
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS -- Cherokee Communications, Inc. (the Company) owns, operates and
maintains pay telephone systems connected to the network of regulated telephone
companies throughout the United States at various third-party property owner
locations. In connection with the telephone systems, the Company also derives
revenue from routing calls to operator service companies and through its own
automated operator system (AOS) installed in its telephones. A summary of owned
and managed phones at September 30 is as follows:
<TABLE>
<CAPTION>
1996 1995 1994
------- ------- -------
<S> <C> <C> <C>
Owned............................................ 12,344 9,333 8,182
Managed.......................................... 168 276 233
------ ------ ------
Total.................................. 12,512 9,609 8,415
====== ====== ======
</TABLE>
FINANCIAL STATEMENT PREPARATION requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingencies at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting period.
Differences from those estimates are recorded in the period they become known.
REVENUES from coin and noncoin calls are recognized at the time the calls
are made and are dependent on service provided by the long-distance carriers.
Accounts receivable primarily includes revenues generated from calls completed
through the Company's AOS and from commissions to be received from operator
service companies. An allowance for doubtful accounts is provided at the time of
revenue recognition for the estimated settlement ("true-up") for actual
chargebacks made by the telephone companies, based on historical experience. The
"true-up" for actual chargebacks is typically made within six months. Also, the
related telecommunication expenses are accrued for the costs for validating,
transmitting, and billing and collecting calls completed through the AOS, as
well as for commissions to be paid to third-party property owners.
CASH EQUIVALENTS represent highly liquid investments with initial or
remaining maturities at the date of purchase of three months or less.
INVENTORIES, which primarily consist of telephone booth enclosures and
related parts, are stated at the lower of cost (first-in, first-out method) or
market.
PROPERTY AND EQUIPMENT are stated at cost less accumulated depreciation and
amortization. Cost of telecommunications equipment includes the initial line
hook-up charges, sales commissions, labor and other charges incurred for
installing pay phones. Depreciation and amortization are provided primarily
using the double declining balance method, later switching to the straight-line
method over the following estimated useful lives of the related assets:
buildings, 20 years; leasehold improvement, 25 years or the life of the lease,
whichever is shorter; telecommunications equipment, seven years and ten years;
telecommunications software licenses, four to five years; vehicles, computer
equipment and software, five years; and furniture and office equipment, five to
seven years. Refurbishment, repairs and maintenance costs are expensed as
incurred.
SITE LICENSES are stated at the cost of site licenses acquired in asset
acquisitions, less accumulated amortization of $4,131,855 and $2,690,403 at
September 30, 1996 and 1995, respectively. Amortization is provided using the
straight-line method over the terms of the related site license agreements,
generally two to seven years.
FINANCIAL INSTRUMENTS consist of cash, short-term investments, receivables,
payables and debt, the carrying value or disclosed value of which is a
reasonable estimate of their fair values due to their maturities or variable
interest rates.
6
<PAGE> 7
CHEROKEE COMMUNICATIONS, INC.
NOTES TO FINANCIAL STATEMENTS -- CONTINUED
OTHER ASSETS are amortized using the straight-line method over the
following periods: deferred financing costs over the life of the respective
financing agreement; and noncompete agreements and patents, five years.
DEFERRED FEDERAL INCOME TAXES are provided under the asset and liability
method for temporary differences in the recognition of income and expense for
tax and financial reporting purposes and for the expected benefit of tax credit
carryforwards.
STOCK-BASED COMPENSATION arising from stock option grants is accounted for
by the intrinsic value method under APB Opinion No. 25. Statement of Financial
Accounting Standards No. 123, "Accounting for Stock-Based Compensation," will be
effective for the Company beginning October 1, 1996. This statement requires
expanded disclosures of stock-based compensation arrangements with employees and
encourages (but does not require) compensation cost to be measured based on the
fair value of the equity instrument awarded. As permitted by SFAS No. 123, the
Company will continue to apply APB Opinion No. 25 to its stock-based
compensation awards to employees and will disclose the required pro forma effect
on net income and earnings per share.
2. ACQUISITIONS
On November 1, 1995, the Company acquired the assets of Teltrust, Inc. (a
Utah corporation), primarily 1,488 installed pay phones and 81 jail phones, for
a purchase price of $3,538,247 in cash. The acquisition was recorded as a
purchase, and the difference between the fair value of the tangible assets
acquired and the total purchase price was recorded as site licenses of
$2,503,972 and is being amortized over the estimated average life of the
acquired location contracts of 60 months.
3. PROPERTY AND EQUIPMENT
Property and equipment at September 30 consist of the following:
<TABLE>
<CAPTION>
1996 1995
----------- -----------
<S> <C> <C>
Telecommunications equipment:
Owned................................................... $21,224,578 $12,577,986
Under capital leases.................................... 2,856,787 5,725,587
Telecommunications software licenses...................... 2,578,425 2,214,455
Vehicles.................................................. 2,813,392 2,184,227
Furniture and office equipment............................ 858,430 686,820
Machinery................................................. 30,005 30,005
Land and buildings........................................ 77,640 75,747
----------- -----------
Total..................................................... 30,439,257 23,494,827
Less accumulated depreciation and amortization............ 13,973,256 10,559,374
----------- -----------
Property and equipment -- net............................. $16,466,001 $12,935,453
=========== ===========
</TABLE>
In October 1994, the Company sold approximately 760 telephones, certain
other assets and related site agreements for approximately $1.7 million, which
resulted in a gain on the sale of assets of approximately $1 million.
7
<PAGE> 8
CHEROKEE COMMUNICATIONS, INC.
NOTES TO FINANCIAL STATEMENTS -- CONTINUED
4. OTHER ASSETS -- Other assets at September 30 consist of the following:
<TABLE>
<CAPTION>
1996 1995
---------- ----------
<S> <C> <C>
Deferred financing costs.................................... $1,113,451 $1,113,451
Patents..................................................... 46,009 46,009
Noncompete agreements....................................... 252,500 252,500
---------- ----------
Total....................................................... 1,411,960 1,411,960
Less accumulated amortization............................... 956,472 730,206
---------- ----------
Other assets -- net......................................... $ 455,488 $ 681,754
========== ==========
</TABLE>
5. INVESTMENT IN AND ADVANCES TO AFFILIATES
The Company has a 50% investment in a corporate joint venture in Mexico,
Corporaciones Interamericana De Desarrollo Comunicaciones, S.A. de C.V. (CID),
which owns and operates pay phones primarily in Monterrey, Mexico. The Company
invested an additional $25,000 in 1995 and made additional cash advances of
$206,252 and $193,767 to CID during 1996 and 1995, respectively, which are
included in the investment.
The Company had a 50% investment in a partnership, Cherokee Public Phones
(CPP), which owned pay phones. The Company provided certain management and
recordkeeping services to CPP. During 1996, this partnership was dissolved.
The following balances with these affiliates at September 30 are as
follows:
<TABLE>
<CAPTION>
1996 1995
-------- --------
<S> <C> <C>
CID -- Investment and advances, at equity...................... $251,672 $179,020
CPP -- Equity interest in (net advances from) the
partnership.................................................. -- (14,471)
-------- --------
Total........................................................ $251,672 $164,549
======== ========
</TABLE>
Equity in earnings (losses) of affiliates consist of the following:
<TABLE>
<CAPTION>
1996 1995 1994
--------- -------- ---------
<S> <C> <C> <C>
CID.............................................. $(133,600) $(84,406) $(287,052)
CPP.............................................. 25,044 49,798 60,427
--------- -------- ---------
Total.......................................... $(108,556) $(34,608) $(226,625)
========= ======== =========
</TABLE>
Transactions in the Company's financial statements arising from the above
arrangement with CPP are as follows:
<TABLE>
<CAPTION>
1996 1995 1994
------- ------- -------
<S> <C> <C> <C>
Other revenue -- management fees........................ $ 5,057 $47,637 $50,525
Distributions from affiliates........................... 10,573 49,798 60,427
</TABLE>
8
<PAGE> 9
CHEROKEE COMMUNICATIONS, INC.
NOTES TO FINANCIAL STATEMENTS -- CONTINUED
6. NOTES PAYABLE
Long-term notes payable at September 30 consist of the following:
<TABLE>
<CAPTION>
1996 1995
----------- -----------
<S> <C> <C>
Equipment notes:
Notes payable, Comerica Bank:
Revolving capital expenditure facility.................. $ 3,086,019 $ 906,200
Revolving acquisition facility.......................... 4,118,359 1,636,582
Other notes payable....................................... 209,469 131,327
----------- -----------
Total equipment notes..................................... 7,413,847 2,674,109
Vehicle notes:
Notes payable, FMCC -- due in monthly installments,
including interest ranging from 2.9% to 16.75%, maturing
through September 1999, collateralized by automobiles... 1,140,470 902,726
Other notes payable....................................... 75,787 22,630
----------- -----------
Total vehicle notes....................................... 1,216,257 925,356
Subordinated and other notes:
Subordinated note payable, Banc One Capital Partners
Corporation -- bearing interest at 12% payable
quarterly, with principal due at maturity in May 1999,
net of $468,014 and $649,181, respectively, of
unamortized debt discount assigned to common stock
warrant (see Note 8). Borrowings under this $5 million
financing commitment are unsecured and subject to
certain financial covenants and ratios.................. 4,531,986 4,350,819
Notes payable insurance companies -- due in monthly
installments through June 1996, including interest,
unsecured............................................... 189,070 147,318
----------- -----------
Total subordinated and other notes payable................ 4,721,056 4,498,137
----------- -----------
Total................................................ 13,351,160 8,097,602
Less current portion...................................... 3,320,197 1,491,767
----------- -----------
Long-term notes payable, less current portion............. $10,030,963 $ 6,605,835
=========== ===========
</TABLE>
Notes payable to Comerica Bank consist of revolving credit loans under
which the Company may borrow up to $5 million under a capital expenditure
facility and $10 million under an acquisition facility, or the collateral base
amount, which is equal to $1,200 per telephone. The notes are collateralized by
substantially all assets, subject to the preferences of other notes payable, and
the personal guaranty of the Company's majority shareholder for $1 million.
Borrowings under the facilities are payable in 48 equal monthly payments
beginning the month after advances are made. Interest is payable monthly at the
prime rate plus 1% to 3%. The interest rate margin is adjustable monthly based
on a certain financial ratio under the terms of the agreement. Interest rates on
these notes were 10.25% at September 30, 1996. Borrowings under the acquisition
facility may occur through January 24, 1997.
9
<PAGE> 10
CHEROKEE COMMUNICATIONS, INC.
NOTES TO FINANCIAL STATEMENTS -- CONTINUED
Maturities of long-term notes payable at September 30, 1996 (before
reduction for the $468,014 unamortized debt discount), are as follows:
<TABLE>
<S> <C>
1997............................................................ $ 3,320,197
1998............................................................ 2,763,475
1999............................................................ 7,058,681
2000............................................................ 646,406
2001............................................................ 30,415
----------
Total......................................................... $13,819,174
==========
</TABLE>
Notes payable to Zero Plus Dialing Inc. (ZPDI) of $659,604 at September 30,
1995, were due on demand at prime plus 3% (11.75% at September 30, 1995). These
notes represent advances on trade accounts receivable being collected by ZPDI on
behalf of the Company, under an agreement which expired July 1, 1996, and were
collateralized by accounts receivable of $3,651,571 at September 30, 1995. Trade
accounts receivable totaling $3,059,149 are being collected by and are due from
ZPDI at September 30, 1996.
7. LEASE COMMITMENTS
The Company is leasing telecommunications equipment under capital leases,
and all of its operating facilities through operating leases. The Company leases
its primary office facility under an operating lease with a related party, as
discussed in Note 10. Rental expense for all operating leases was $210,162,
$174,808 and $116,009 for 1996, 1995 and 1994, respectively. Future minimum
rental payments required under these noncancelable leases at September 30, 1996,
are as follows:
Year ending September 30:
<TABLE>
<CAPTION>
CAPITAL OPERATING
-------- --------
<S> <C> <C>
1997........................................................... $737,844 $153,556
1998........................................................... 57,026 117,409
1999........................................................... 38,468
-------- --------
794,870 $309,433
========
Amount representing interest................................... 69,825
--------
Present value of minimum lease payments........................ 725,045
Less current portion........................................... 668,826
--------
Capital lease obligations, less current portion................ $ 56,219
========
</TABLE>
8. CAPITAL STOCK
DIVIDEND RESTRICTIONS -- Certain note payable agreements and preferred
stock instruments restrict the Company's ability to pay cash dividends on its
common stock.
CONVERTIBLE REDEEMABLE PREFERRED STOCK -- The Company has authorized and
issued 240,000 shares of nonvoting, cumulative convertible redeemable preferred
stock ($1.00 par value) for $2,400,000. Each share of preferred stock is
convertible into approximately 9.24 shares of common stock, subject to
adjustments in certain events, prior to December 31, 2000. The preferred stock
will be automatically converted in the event of an initial public offering.
10
<PAGE> 11
CHEROKEE COMMUNICATIONS, INC.
NOTES TO FINANCIAL STATEMENTS -- CONTINUED
Holders of the preferred stock are entitled to receive cumulative cash
dividends payable quarterly, at an annual rate of $.60 per share through January
1, 2003, and at an annual rate of $1.10 per share commencing April 1, 2003. In
liquidation, the preferred stock is entitled to $10 per share.
Beginning on December 30, 2000, or at any time thereafter, the Company may,
at its option, redeem any number of outstanding shares of preferred stock at $10
per share, plus all accrued and unpaid dividends. At any time after December 31,
2002, and prior to December 31, 2010, holders of the preferred stock have the
option to sell, and the Company has the obligation to purchase, any number of
outstanding shares at the then-determined fair market value.
COMMON STOCK WARRANTS -- In connection with the subordinated debt financing
in May 1993, the Company issued warrants exercisable for 1,562,338 shares of
common stock at $1.08206 per share through May 1999. Upon certain occurrences or
after May 1998, the warrant holder may require the Company to redeem the
warrants at a specified price, which generally is a multiple of defined cash
flow. A fair value of $1,087,000 was assigned to the warrants when issued and is
accounted for as debt issue discount (see Note 6).
STOCK OPTIONS -- The stock option plan provides for granting incentive
stock options to key employees. Incentive stock options must have an exercise
price of at least the fair market value on the date of grant. Options may be
exercised in whole or in installments over ten years after the grant. All
options would become exercisable upon a public offering. The total aggregate
number of the Company's common stock that may be granted under this plan cannot
exceed 12.7% of the common stock, determined on a fully diluted basis, not to
exceed 1,322,779 shares. The Company has granted the following options which
vest over three years:
<TABLE>
<CAPTION>
OPTIONS EXERCISE PRICE
OUTSTANDING PER SHARE
----------- --------------
<S> <C> <C>
Granted:
December 1992.................................. 376,344 $ 1.09
March 1994..................................... 108,333 $ 1.09
December 1995.................................. 400,000 $ 2.15
Forfeited:
February 1994.................................. (26,882) $ 1.09
Exercised:
December 1994.................................. (8,000) $ 1.09
-------
Total options outstanding at September 30,
1996........................................... 849,795
=======
Options exercisable at September 30, 1996........ 413,683 $ 1.09
=======
</TABLE>
A summary of the Company's common shares reserved for future conversions or
issuances is as follows:
<TABLE>
<S> <C>
Convertible preferred stock..................... 2,218,000
Common stock warrants........................... 1,562,338
Common stock options granted.................... 849,795
---------
Total shares contingently issuable.............. 4,630,133
Common stock options available for future
grants........................................ 464,984
---------
Total common shares reserved.................... 5,095,117
=========
</TABLE>
11
<PAGE> 12
CHEROKEE COMMUNICATIONS, INC.
NOTES TO FINANCIAL STATEMENTS -- CONTINUED
9. INCOME TAXES
The tax effects of significant items comprising the Company's net deferred
tax benefits (liability) as of September 30, 1996 and 1995, are as follows:
<TABLE>
<CAPTION>
1996 1995
--------- ---------
<S> <C> <C>
Allowance for doubtful accounts, not currently deductible............ $ 123,785 $ 90,033
Accrued expenses, not currently deductible........................... 20,741 18,684
--------- ---------
Total current asset.................................................. 144,526 108,717
Accelerated depreciation and amortization for tax purposes........... (390,720) (348,391)
Alternative minimum tax (AMT) credit carryforwards................... 84,699 6,032
--------- ---------
Total noncurrent asset (liability)................................... (306,021) (342,359)
--------- ---------
Net deferred tax asset (liability)................................... $(161,495) $(233,642)
========= =========
</TABLE>
Components of the provision for income taxes are as follows:
<TABLE>
<CAPTION>
1996 1995 1994
-------- ---------- --------
<S> <C> <C> <C>
Current.............. $496,978 $ 959,076 $423,946
Deferred............. (72,147) 440,064 88,456
-------- ---------- --------
$424,831 $1,399,140 $512,402
======== ========== ========
</TABLE>
A reconciliation between income taxes computed at the federal statutory
rate and income tax expense is shown below:
<TABLE>
<CAPTION>
1996 1995 1994
-------- ---------- --------
<S> <C> <C> <C>
Income taxes computed at federal statutory rate............. $307,092 $1,230,661 $379,213
State income taxes, net of federal tax benefit.............. 49,290 103,210 34,000
Expenses not deductible for tax purposes.................... 16,245 13,585 5,578
Nondeductible loss of foreign affiliate..................... 44,404 28,590 67,642
Other....................................................... 7,800 23,094 25,969
-------- ---------- --------
Total.................................................. $424,831 $1,399,140 $512,402
======== ========== ========
</TABLE>
10. RELATED PARTY TRANSACTIONS
The Company leases its primary office facilities from a shareholder on a
monthly basis. The Company also conducts certain other transactions with this
shareholder and affiliated corporations which are 100% owned by the shareholder.
Transactions and balances in the Company's financial statements arising from the
above arrangements are as follows:
<TABLE>
<CAPTION>
1996 1995 1994
------- ------- -------
<S> <C> <C> <C>
During the period:
Rent expense............................... $52,893 $49,200 $43,200
Airplane charter expense................... 80,930 96,470
Other operating expenses................... 35,135 32,483 37,717
Accounts receivable from employees........... 18,930 12,428 18,039
</TABLE>
Trade accounts receivable include $390,799 and $385,146 at September 30,
1996 and 1995, respectively, due from an operator service company, which is a
co-owner in the Mexican joint venture (Note 5) and is a significant lender to
the Company's majority shareholder, who has pledged approximately 20% of his
common stock as collateral on the related debt.
12
<PAGE> 13
CHEROKEE COMMUNICATIONS, INC.
NOTES TO FINANCIAL STATEMENTS -- CONTINUED
11. CONTINGENCIES -- LAWSUITS
In October 1996, AT&T Communications, Inc. filed a lawsuit against the
Company asserting claims in the amount of $3 million for an alleged breach of
contract related to the routing of certain long-distance calls originating at
the Company's pay phones during fiscal 1996 and prior periods. Discovery has not
commenced and in view of the early stage of the litigation, no accrual is made
for this loss contingency at September 30, 1996. An ultimate adverse resolution
of this matter could result in a material loss in the Company's future financial
statements. Management believes that the maximum potential damages that could be
alleged, assuming its breach, is less than $500,000. However, management denies
any failure in contract performance, plans a vigorous defense as well as a
potential cross-action suit against AT&T for disclosure of confidential phone
data and for breach of contract, and believes that a loss, if any, from this
matter will not have a material adverse effect on the Company's financial
statements.
The Company is a defendant in various other legal proceedings arising in
the ordinary course of business. Although the results of these matters cannot be
predicted with certainty, management believes the outcome will not have a
material adverse effect on the Company's financial statements.
12. SUBSEQUENT SALE OF COMPANY
The Company and its shareholders have entered into an agreement and plan of
merger dated November 21, 1996, with PhoneTel Technologies, Inc. This sale of
the Company is expected to close in January 1997.
13
