SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED MAY 31, 1998
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number: 0-24426
C-PHONE CORPORATION
(Exact name of small business issuer as specified in its charter)
NEW YORK 06-1170506
-------- ----------
(State or other jurisdiction of IRS Employer
incorporation or organization) Identification
No.)
6714 NETHERLANDS DRIVE
WILMINGTON, NORTH CAROLINA 28405
(Address of principal executive offices)
(910) 395-6100
(Issuer's telephone number, including area code)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act 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 [
].
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date.
7,058,200 shares of common stock as of JULY 14, 1998.
Transitional Small Business Disclosure Form Yes [ ] No [X]
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C-PHONE CORPORATION
FORM 10-QSB
INDEX
PAGE NUMBER
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Balance Sheets as of February 28, 1998
and May 31, 1998 (unaudited) ................................ 3
Statements of Operations for the three
months ended May 31, 1997 and 1998 (unaudited) .............. 4
Statements of Cash Flows for the three months ended
May 31, 1997 and 1998 (unaudited) ........................... 5
Notes to Unaudited Financial Statements ..................... 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION ... 9
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K ............................ 15
SIGNATURES ........................................................... 16
2
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
C-PHONE CORPORATION
BALANCE SHEETS
<TABLE>
<CAPTION>
February 28, 1998 May 31, 1998
----------------- ------------
<S> <C> <C>
ASSETS (unaudited)
Current assets:
Cash and cash equivalents $ 4,200,231 $ 7,366,971
Accounts receivable, net of allowance for doubtful 346,684 270,614
accounts of $173,227 at February 28, 1998 and
$149,858 at May 31, 1998 (unaudited)
Inventories 1,641,528 1,924,838
Prepaid expenses and other current assets 73,728 80,567
------------ ------------
Total current assets 6,262,171 9,642,990
Property and equipment, net 164,174 137,839
Other assets 42,686 31,474
------------ ------------
Total assets $ 6,469,031 $ 9,812,303
============ ============
LIABILITIES, PREFERRED STOCK AND
SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable, trade $ 796,019 $ 561,779
Accrued expenses 295,647 250,322
------------ ------------
Total current liabilities 1,091,666 812,101
Series A Convertible Preferred Stock, $1,000 stated amount; 4,543,767 1,966,960
5,000 shares designated; 4,500 and 1,924 shares issued and
outstanding at February 28, 1998 and May 31, 1998 (unaudited),
respectively (Note 3(b))
Shareholders' equity:
Common stock, $.01 par value; 20,000,000 shares authorized 53,482 70,582
at February 28, 1998 and May 31, 1998 (unaudited);
5,348,234 and 7,058,200 shares issued and outstanding at
February 28, 1998 and May 31, 1998 (unaudited), respectively
Paid-in capital - common stock 18,038,006 26,063,755
Paid-in capital - preferred stock 1,318,350 563,668
Accumulated deficit (18,576,240) (19,664,763)
------------ ------------
Total shareholders' equity 833,598 7,033,242
------------ ------------
Total liabilities, preferred stock and shareholders' equity $ 6,469,031 $ 9,812,303
============ ============
The accompanying notes are an integral part of the financial statements.
</TABLE>
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C-PHONE CORPORATION
STATEMENTS OF OPERATIONS
(unaudited)
Three Months Ended May 31,
--------------------------
1997 1998
---- ----
Net sales $ 433,121 $ 339,150
Other revenue 3,679 16,388
----------- -----------
Total revenue 436,800 355,538
----------- -----------
Cost of goods sold 901,016 508,073
Cost of other revenue -- 8,202
----------- -----------
Total cost of revenue 901,016 516,275
----------- -----------
Gross profit (loss) (464,216) (160,737)
----------- -----------
Operating expenses:
Selling, general and administrative 1,162,212 725,584
Research, development and engineering 280,739 209,067
----------- -----------
Total operating expenses 1,442,951 934,651
----------- -----------
Operating loss (1,907,167) (1,095,388)
Interest expense (312) --
Interest income 42,411 52,743
----------- -----------
Net loss $(1,865,068) $(1,042,645)
=========== ===========
Per-share data:
Basic and diluted net loss per common share $ (0.38) $ (0.19)
=========== ===========
Shares used in computing net loss per common share 4,918,908 5,807,623
=========== ===========
The accompanying notes are an integral part of the financial statements.
4
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C-PHONE CORPORATION
STATEMENTS OF CASH FLOWS
(unaudited)
Three Months Ended May 31,
--------------------------
1997 1998
----------- -----------
Cash flows from operating activities:
Net loss $(1,865,068) $(1,042,645)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation and amortization 26,597 32,926
Bad debt expense 19,300 79,681
Compensation expense of stock options 9,600 9,600
Compensation expense of stock issued 14,220 --
Changes in operating assets and liabilities:
Accounts receivable (63,453) (3,611)
Inventories 204,347 (283,310)
Prepaid expenses and other current assets (33,397) (6,839)
Other assets 88,675 11,212
Accounts payable 104,842 (234,240)
Accrued expenses (83,421) (45,325)
----------- -----------
Net cash used in operating activities (1,577,758) (1,482,551)
----------- -----------
Cash flows from investing activities:
Equipment purchases (32,454) (6,591)
----------- -----------
Net cash used in investing activities (32,454) (6,591)
----------- -----------
Cash flows from financing activities:
Proceeds from exercise of stock options 34,750 304,937
Proceeds from private placement of common stock 4,369,518 --
Proceeds from exercise of warrants -- 4,350,945
Payment of capital lease obligations (4,205) --
----------- -----------
Net cash provided by financing activities 4,400,063 4,655,882
----------- -----------
Net increase in cash and cash equivalents 2,789,851 3,166,740
----------- -----------
Cash and cash equivalents, beginning of period 1,398,049 4,200,231
----------- -----------
Cash and cash equivalents, end of period $ 4,187,900 $ 7,366,971
=========== ===========
Supplemental disclosure of cash flow information:
Interest paid $ 312 $ --
=========== ===========
The accompanying notes are an integral part of the financial statements.
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C-PHONE CORPORATION
NOTES TO UNAUDITED FINANCIAL STATEMENTS
MAY 31, 1998
1. BASIS OF PRESENTATION
The accompanying unaudited financial statements of C-Phone Corporation
(the "Company") have been prepared in accordance with generally
accepted accounting principles for interim financial information and
with the instructions to Form 10-QSB and Item 310(b) of Regulation SB.
Accordingly, they do not include all of the information and footnotes
required by generally accepted accounting principles for complete
financial statements. In the opinion of management, such financial
statements include all adjustments necessary to present fairly, in all
material respects, the information set forth therein. Operating results
for the three-month period ended May 31, 1998 are not necessarily
indicative of the results that may be expected for the fiscal year
ending February 28, 1999. The unaudited financial statements should be
read in conjunction with the audited financial statements and footnotes
thereto included in the Company's Annual Report on Form 10-KSB for the
fiscal year ended February 28, 1998.
2. STOCK OPTIONS
As of May 31, 1998, options for 254,727 shares of the Company's common
stock, par value $.01 per share (the "Common Stock") were outstanding
under the Company's 1994 Stock Option Plan (the "Plan") (44,417 of
which are non-qualified options exercisable at prices ranging from
$3.00 to $7.00 per share, depending upon the date of grant, and 210,310
of which are incentive stock options exercisable at prices ranging from
$3.125 to $10.375 per share, depending upon the date of the grant), and
options for 161,853 shares of Common Stock were available for future
grants. Due to vesting provisions included in the options, only options
representing 151,316 shares of Common Stock were exercisable as of May
31, 1998. The following table summarizes certain information with
respect to exercisable options:
Number of
Range of Options
Exercise Price Exercisable
------------------------------ -------------------
$3.00 - $3.38 43,593
$5.95 - $6.75 14,001
$7.00 - $7.50 91,390
$10.375 2,332
3. PREFERRED STOCK, WARRANTS AND CONTINGENT VALUE RIGHTS
(a) During the week of March 31, 1997, the Company completed a private
placement (the "March Placement"), through a placement agent,
pursuant to which the Company issued an aggregate of 833,667
shares (the "Original Shares") of Common Stock to the participants
(the "Investors") in the March Placement and received net proceeds
of approximately $4,370,000 (after payment, or accrual, of fees
and expenses of approximately $632,000). Accompanying each of the
Original Shares was the right, under certain circumstances, to
receive additional shares of Common Stock in accordance with the
terms of a "contingent value right" (the "Rights"). The Rights,
which expired June 25, 1998, were automatically exercised at the
time, and from time to time, as the Original Shares were first
publicly sold through a broker-dealer. The terms of the Rights
provided that, upon the first such sale of any Original Shares at
a price of less than $8.00 per share, the seller of the Original
Shares would automatically receive, for each such Original Share
sold, and without the payment of any additional consideration,
such additional number of shares of Common Stock as equaled (i)
$8.00 divided by the Adjusted Price, minus (ii) one; where the
Adjusted Price equals the greater of (x) the average closing bid
price per share of Common Stock on The Nasdaq National Market for
the ten trading days immediately preceding the date of sale of the
Original Shares, and (y) $2.00. All the Original Shares have been
publicly resold and, pursuant to the terms of the Rights, 136,863
additional shares were issued as a result thereof.
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C-PHONE CORPORATION
NOTES TO UNAUDITED FINANCIAL STATEMENTS
MAY 31, 1998
In connection with the March Placement, the Company issued to an
affiliate of the placement agent warrants to acquire an aggregate
of 150,000 shares of Common Stock at an exercise price of $9.60
per share, which warrants expired without being exercised.
(b) On December 19, 1997, the Company completed a private placement
(the "December Placement") pursuant to which the Company issued to
the several participants an aggregate of (i) 4,500 shares (the
"Preferred Shares") of the Company's Series A Convertible
Preferred Stock (the "Preferred Stock"), par value $0.1 per share,
with an initial stated value of $1,000 per share (which increases
at the rate of 5% per annum) (such amount, as increased from time
to time, the "Stated Value"), (ii) warrants (the "One-Year
Warrants") to acquire up to 315,000 shares of Common Stock, and
(iii) warrants (the "Three-Year Warrants") to acquire up to
135,000 shares of Common Stock. The Company received net proceeds
of approximately $4,110,000 (after payment, or accrual, of fees
(including finders fees) and related expenses of approximately
$390,000). Each Preferred Share is convertible, from time to time,
at the option of the holder, into such number of shares of Common
Stock as is determined by dividing the Stated Value by the lesser
of (x) $7.3575, and (y) 85% of the average of the closing bid
price during such three consecutive trading day period as may be
selected by the holder during the 25-day trading period preceding
the date of conversion. Any outstanding Preferred Shares on
December 19, 1999 automatically will be converted into Common
Stock at the conversion price then in effect. The Preferred Shares
are subject to redemption at the option of the holder if, among
other things, (i) the Company fails to maintain an effective
registration statement with respect to the shares of Common Stock
issuable upon exercise of the Preferred Shares for more than 30
consecutive days or more than 60 days in any 12-month period, (ii)
the Company fails to maintain the listing of the Common Stock on
the Nasdaq National Market or another principal securities
exchange or automated quotation system, or (iii) the aggregate
number of shares of Common Stock then issued upon conversion of
the Preferred Shares would equal 1,068,513 shares of Common Stock,
unless the Company, prior thereto or within 75 days after notice
from holders of two-thirds of the Preferred Shares (which notice
had not yet been received as of July 10, 1998), has obtained
approval for the issuance of any necessary additional shares of
Common Stock upon conversion of the then outstanding Preferred
Shares. If the Company does not receive approval to issue the
additional shares of Common Stock and the holders of the Preferred
Shares elect to exercise their redemption rights, the Company will
be required to redeem the remaining outstanding Preferred Shares
at an amount equal to the greater of (x) 118% of the Stated Value
of the Preferred Shares and (y) the market value of the Common
Stock into which the Preferred Shares would have been converted on
the date of redemption. The One-Year Warrants expire on December
19, 1998, have an exercise price of $8.05 per share and are
redeemable at the option of the Company at a price of $.01 per
warrant if the closing price of the Common Stock is greater than
130% of the exercise price of the One-Year Warrants for 10
consecutive trading days. The Three-Year Warrants expire on
December 19, 2000, have an exercise price of $9.10 per share and
are not redeemable. In connection with the December Placement, the
Company paid a finders fee of $295,000 and issued to an affiliate
of the finder warrants (upon the same terms as the One-Year
Warrants) to acquire an aggregate of 185,000 shares of Common
Stock.
Regulations promulgated by the Securities and Exchange Commission
require that all issues of mandatorily redeemable stock be
excluded from the shareholders' equity section of the balance
sheet and be presented separately. One of the characteristics of a
mandatorily redeemable stock is that it contains conditions for
redemption, even if remote, which are not solely within the
control of the issuer. As set forth above, the Preferred Shares
are subject to redemption at the option of the holder under
certain circumstances. Since there is the possibility that the
occurrence of an event outside the control of the Company could
cause redemption, the Preferred Stock has been classified
separately from shareholders' equity on the balance sheet.
7
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C-PHONE CORPORATION
NOTES TO UNAUDITED FINANCIAL STATEMENTS
MAY 31, 1998
(c) On May 13, 1998, the Company reduced the exercise price of the
warrants to purchase 200,000 shares of Common Stock issued in its
1994 initial public offering (the "1994 Warrants") from $8.40 to
$6.00 per share in consideration for (i) requiring payment of the
exercise price for the 1994 Warrants to be made in cash (rather
than upon surrender of 1994 Warrants) and (ii) changing the
expiration date thereof from August 18, 1999 to May 21, 1998. On
May 13, 1998, the closing sales price of the Common Stock was
$9.75. The holders of the 1994 Warrants exercised all of the 1994
Warrants by May 15, 1998. In addition, as of May 31, 1998,
One-Year Warrants (including the warrants issued to the finder) to
purchase 325,000 shares of Common Stock at $8.05 per share and
Three-Year Warrants to purchase 60,000 shares of Common Stock at
$9.10 per share also had been exercised. As a result of such
warrant exercises, during the three months, ended May 31, 1998,
the Company received net proceeds of $4,350,945. As of May 31,
1998, 2,576 Preferred Shares had been converted into an aggregate
of 1,067,217 shares of Common Stock.
4. NET LOSS PER SHARE
In February 1997, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards No. 128 ("SFAS No. 128"),
"Earnings Per Share," which established new standards for computation
of earnings per share. SFAS No. 128 requires the presentation on the
face of the income statement of "basic" earnings per share and
"diluted" earnings per share. Basic earnings per share is computed by
dividing the net income (loss) available to common shareholders by the
weighted average number of outstanding common shares. The calculation
of diluted earnings per share is similar to the calculation of basic
earnings per share, except that the denominator includes dilutive
common stock equivalents such as stock options and warrants. Common
stock options and warrants are not included for the three months ended
May 31, 1997 or 1998 as they would be anti-dilutive. The accretion of
the 5% annual increase in stated value of the Preferred Stock in the
amount of $45,878 for the three months ended May 31, 1998 increased the
net loss attributable to common shareholders to $1,088,523 for the
purposes of the calculation of net loss per share for the three months
ended May 31, 1998.
8
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
THIS QUARTERLY REPORT ON FORM 10-QSB CONTAINS, IN ADDITION TO
HISTORICAL INFORMATION, CERTAIN FORWARD-LOOKING STATEMENTS THAT INVOLVE
SIGNIFICANT RISKS AND UNCERTAINTIES. SUCH FORWARD-LOOKING STATEMENTS
ARE BASED ON MANAGEMENT'S BELIEF AS WELL AS ASSUMPTIONS MADE BY, AND
INFORMATION CURRENTLY AVAILABLE TO, MANAGEMENT PURSUANT TO THE "SAFE
HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF
1995. FORWARD-LOOKING STATEMENTS CAN GENERALLY BE IDENTIFIED AS SUCH
BECAUSE THE CONTEXT OF THE STATEMENT USUALLY WILL INCLUDE WORDS SUCH AS
THE COMPANY "BELIEVES" OR "EXPECTS" OR WORDS OF SIMILAR IMPORT.
SIMILARLY, STATEMENTS THAT DESCRIBE THE COMPANY'S FUTURE PLANS,
OBJECTIVES, ESTIMATES OR GOALS ARE ALSO FORWARD-LOOKING STATEMENTS.
SUCH STATEMENTS ADDRESS FUTURE EVENTS AND CONDITIONS CONCERNING CAPITAL
EXPENDITURES, EARNINGS, SALES, LIQUIDITY AND CAPITAL RESOURCES, AND
ACCOUNTING MATTERS. THE COMPANY'S ACTUAL RESULTS COULD DIFFER
MATERIALLY FROM THOSE EXPRESSED IN, OR IMPLIED BY, THE FORWARD-LOOKING
STATEMENTS CONTAINED HEREIN. FACTORS THAT COULD CAUSE OR CONTRIBUTE TO
SUCH DIFFERENCES INCLUDE, BUT ARE NOT LIMITED TO, THOSE DISCUSSED BELOW
AND IN ITEM 1 - "DESCRIPTION OF BUSINESS" AND ELSEWHERE IN THE
COMPANY'S ANNUAL REPORT ON FORM 10-KSB FOR THE YEAR ENDED FEBRUARY 28,
1998, AS WELL AS FACTORS SUCH AS FUTURE ECONOMIC CONDITIONS, ACCEPTANCE
BY CUSTOMERS OF THE COMPANY'S PRODUCTS, CHANGES IN CUSTOMER DEMAND,
LEGISLATIVE, REGULATORY AND COMPETITIVE DEVELOPMENTS IN MARKETS IN
WHICH THE COMPANY OPERATES AND OTHER CIRCUMSTANCES AFFECTING
ANTICIPATED REVENUES AND COSTS. THE COMPANY UNDERTAKES NO OBLIGATION TO
RELEASE PUBLICLY THE RESULT OF ANY REVISIONS TO THESE FORWARD LOOKING
STATEMENTS THAT MAY BE MADE TO REFLECT EVENTS OR CIRCUMSTANCES AFTER
THE DATE OF THIS QUARTERLY REPORT ON FORM 10-QSB OR TO REFLECT THE
OCCURRENCE OF OTHER UNANTICIPATED EVENTS.
OVERVIEW
The Company has been, and is, primarily engaged in the
engineering, manufacturing and marketing of a line of TV-based and PC-based
video conferencing systems. The Company's stand alone TV-based video
conferencing system or "video phone," which operates over regular analog
telephone lines using a standard television set, is marketed under the name
C-Phone Home. In addition, in March 1998, the Company began limited shipments of
its DS 324 TV-based video phone, which operates over both analog and ISDN
digital telephone lines. In May 1998, the Company introduced C-Phone ITV, a
TV-based set top device that provides Internet access using a standard
television set and an analog telephone line. The Company's PC-based video
conferencing systems, which operate over digital networks, are marketed under
the name C-Phone(R). From time to time, the Company also has engaged in
contractual software development related to its products.
The Company commenced operations in 1986 as a manufacturer of
promotional radios and, in 1990, developed data/fax modems under the name
"TWINCOM." In early 1993, the Company shifted its primary focus from modems to
the development of C-Phone and, during 1994, the Company phased out its modem
product line as it was no longer profitable. Since 1993, the Company has
invested significant resources in product development, engineering and marketing
activities for its video conferencing products, and expects that such
investments will continue in the foreseeable future.
The Company's products are marketed through a variety of
channels depending upon the product. The Company's TV-based video phone is
marketed to end users, distributors, and resellers and to original equipment
manufacturers ("OEMs") which integrate the product with other equipment for
resale to specific industries such as health care and security services. During
the year ended February 28, 1998 ("Fiscal 1998"), many retail distributors
offered the end user the option to purchase the Company's TV-based video phone
on a stand-alone basis or, similar to the method by which most cellular
telephones are sold, at
9
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a lower price when purchased with telecommunications services offered by the
Company. The proceeds to the Company from units sold under the latter option
were less than the Company's cost of the product and, as 36% of C-Phone Home
sales were made under such purchase option in Fiscal 1998, such sales and the
required mark-down of related inventory to reflect such sale price contributed
significantly to the gross loss for that period. However, the percentage of
sales under this option has decreased to the point that the Company is
phasing-out the telecommunications option. The Company is currently exploring
the market opportunities for C-Phone ITV and is developing a marketing strategy
for this product. The Company believes that its TV-based products currently have
greater market potential than its PC-based products and, in light of the lack of
significant industry acceptance for PC-based desktop video conferencing products
operating over a LAN, and the Company's limited financial and other resources,
the Company has decided to shift its resources to its TV-based products,
although the Company will continue to support and provide equipment to its
existing customer base for its PC-based products and to new customers in
connection with specialized applications, if any, relating to its PC-based
products that may be presented to the Company.
As a result of the foregoing and the low volume of sales, the
Company has incurred significant losses during the three fiscal years ended
February 28, 1998 and the three months ended May 31, 1998. The Company expects
to continue to incur significant losses in the foreseeable future due to its
expenditures for product development and the commercialization of its TV-based
products.
RECENT EQUITY OFFERINGS
MARCH 1997 PRIVATE PLACEMENT. During the week of March 31,
1997, the Company completed a private placement (the "March Placement") pursuant
to which the Company issued an aggregate of 833,667 shares of the Company's
common stock, par value $.01 per share (the "Common Stock"), to the participants
in the March Placement and received net proceeds of approximately $4,370,000
(after payment of fees and expenses of approximately $632,000). Accompanying
each of such shares was the right, under certain circumstances, to receive
additional shares of Common Stock in accordance with the terms of a "contingent
value right." Pursuant to the terms of such rights, 136,863 additional shares of
Common Stock subsequently were issued. In connection with the March Placement,
the Company issued to an affiliate of the placement agent warrants to acquire an
aggregate of 150,000 shares of Common Stock at an exercise price of $9.60 per
share, which warrants expired without being exercised.
DECEMBER 1997 PRIVATE PLACEMENT. In December 1997, the Company
completed a private placement (the "December Placement") pursuant to which the
Company issued an aggregate of (i) 4,500 shares (the "Preferred Shares") of the
Company's Series A Convertible Preferred Stock, par value $.01 per share (the
"Preferred Stock") with an initial stated value of $1,000 per share (which
increases at the rate of 5% per annum) (such amount, as increased from time to
time, the "Stated Value"), (ii) warrants (the "One-Year Warrants") to acquire up
to 315,000 shares of Common Stock, and (iii) warrants (the "Three-Year Warrants"
and with the One-Year Warrants, collectively, the "1997 Warrants") to acquire up
to 135,000 shares of Common Stock, to the participants in the December Placement
and received aggregate proceeds of approximately $4,110,000 (after payment of
fees and expenses of approximately $390,000). In connection with the December
Placement, the Company paid a finders fee of $295,000 and issued to an affiliate
of the finder warrants (upon the same terms as the One-Year Warrants) to acquire
an aggregate of 185,000 shares of Common Stock, which warrants have been
exercised.
Each Preferred Share is convertible, from time to time, at the
option of the holder, into such number of shares of Common Stock as is
determined by dividing the Stated Value by the lesser of (i) $7.3575, and (ii)
85% of the average of the closing bid price during such three consecutive
trading day period as may be selected by the holder during the 25 trading day
period preceding the date of conversion. The Preferred Shares cease to be
convertible (the "19.99% Limitation") if, at any time, the aggregate number of
shares of Common Stock then issued upon conversion of the Preferred Shares would
equal 1,068,513 shares of Common Stock (the remaining shares of Common Stock
then issuable upon conversion of the Preferred Shares being the "Excess
Shares"), unless, in accordance with the rules of The Nasdaq Stock Market, Inc.
("Nasdaq") (on which the Common Stock is traded), the Company has obtained
approval for the issuance of
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the Excess Shares by a majority of the total votes cast on such proposal by the
holders of the then outstanding Common Stock (not including any shares of Common
Stock held by present or former holders of the Preferred Shares that were issued
upon conversion of the Preferred Shares), or it has otherwise obtained
permission from Nasdaq to allow such issuances. Any outstanding Preferred Shares
on December 19, 1999 automatically will be converted into Common Stock at the
conversion price then in effect. As of July 10, 1998, 2,576 of the Preferred
Shares had been converted into 1,067,217 shares of Common Stock. As a result of
the 19.99% Limitation, the remaining Preferred Shares are not presently
convertible.
The One-Year Warrants expire on December 19, 1998 and have an
exercise price of $8.05 per share (115% of the closing price of the Common Stock
on the NNM on the trading day immediately preceding the closing date of the
December Placement), subject to adjustment under certain circumstances,
including upon the issuance of shares of Common Stock (or securities convertible
or exchangeable into shares of Common Stock) at less than 80% of the then market
price on the NNM for the Common Stock. The One-Year Warrants are redeemable at
the option of the Company at a price of $.01 per warrant if the closing price of
the Common Stock on the NNM is greater than 130% of the exercise price of the
One-Year Warrants then in effect for 10 consecutive trading days. The Three-Year
Warrants expire on December 19, 2000 and have an exercise price of $9.10 per
share (130% of the closing price of the Common Stock on the NNM on the trading
day immediately preceding the closing date of the December Placement), subject
to adjustment under certain circumstances, including upon the issuance of shares
of Common Stock (or securities convertible or exchangeable into shares of Common
Stock) at less than 80% of the then market price on the NNM for the Common
Stock. The Three-Year Warrants are not redeemable. As of May 31, 1998, 325,000
shares of Common Stock had been issued upon exercise of One-Year Warrants at
$8.05 per share (including the warrants issued to the finder in the December
Placement), 60,000 shares had been issued upon exercise of Three-Year Warrants
at $9.10 per share and the Company received aggregate proceeds of $3,162,250
from the exercise thereof.
The Preferred Shares are subject to redemption at the option
of a holder if, among other things, (i) the effectiveness of a Registration
Statement for the shares of Common Stock issuable upon conversion of the
Preferred Shares lapses for more than 30 consecutive days or more than 60 days
in any 12-month period, (ii) the Company fails to maintain the listing of the
Common Stock on the NNM or another principal securities exchange or automated
quotation system and such failure continues for more than 30 days, or (iii) the
Preferred Shares cease to be convertible as a result of the 19.99% Limitation
and the Company has not, prior thereto, or within 75 days after notice from
holders of two-thirds of the Preferred Shares (which notice has not been
received as of July 10, 1998), obtained approval to issue additional shares of
Common Stock. The Company intends to seek approval to issue the additional
shares of Common Stock at its 1998 Annual Meeting of Shareholders scheduled to
be held on July 31, 1998. If the Company does not receive approval to issue the
additional shares of Common Stock and the holders of the Preferred Shares elect
to exercise their redemption rights, the Company will be required to redeem the
remaining outstanding Preferred Shares at an amount equal to the greater of (a)
118% of the Stated Value of the Preferred Shares on the date of redemption and
(b) the market value of the Common Stock into which the Preferred Shares would
have been converted on the date of redemption. If the redemption had occurred as
of July 10, 1998, the Company would have been required to pay approximately
$2,414,682 to redeem the remaining outstanding Preferred Shares. However, as the
actual redemption amount will be based on the Stated Value or the price of the
Common Stock in effect at the time of redemption, the actual redemption amount
could be higher or lower. There can be no assurance that the Company will have
the financial ability to redeem the Preferred Shares, if required (although the
Company currently has such financial ability), and, even if the Company has such
ability, such payment may materially adversely affect the Company's financial
condition and deplete its cash resources.
1994 WARRANT EXERCISES. In connection with the Company's 1994
initial public offering, the Company had issued to the representative of the
underwriters, warrants expiring August 19, 1999 to purchase 200,000 shares of
Common Stock at an exercise price of $8.40 per share. On May 13, 1998, the
Company reduced the exercise price of such warrants to $6.00 per share, in
consideration for (i) requiring payment of the exercise price for such warrants
to be made in cash (rather than upon surrender of warrants) and (ii) changing
the expiration
11
<PAGE>
date thereof to May 21, 1998. On May 13, 1998, the closing sales price of the
Common Stock was $9.75. All of such warrants were exercised by May 13, 1998 and
the Company received aggregate proceeds of $1,200,000.
Further information with respect to the March Placement and
the December Placement is set forth in Item 6 - "Management's Discussion and
Analysis or Plan of Operation - Recent Equity Offerings" of the Company's Annual
report on Form 10-KSB for the fiscal year ended February 28, 1998.
RESULTS OF OPERATIONS
THREE MONTHS ENDED MAY 31, 1998 ("1ST QUARTER 99") AS COMPARED TO THREE MONTHS
ENDED MAY 31, 1997 ("1ST QUARTER 98")
REVENUES. Net sales decreased 22% to $339,150 in 1st Quarter
99 from $433,121 in 1st Quarter 98, reflecting the Company's change of focus to
its TV-based products from its PC-based products as a result of an industry-wide
slowdown in the continued acceptance of PC-based desktop video conferencing.
Sales of PC-based products represented 17% of sales for 1st Quarter 99 as
compared to 75% of sales for 1st Quarter 98. The decrease in PC-based product
sales was partially offset by an increase in TV-based product sales. During 1st
Quarter 99, the Company had other revenue of $16,388 compared to $3,679 during
1st Quarter 98. As a result, revenues decreased 19% to $355,538 in 1st Quarter
99 from $436,800 in 1st Quarter 98.
COST OF REVENUE. Cost of revenue consists of cost of goods
sold and cost of other revenue. Cost of goods sold includes labor, materials and
other manufacturing costs (such as salaries, supplies, leasing costs,
depreciation related to production operations and the write-down of inventory to
net realizable value). Cost of other revenue consists primarily of the
allocation of salaries and benefits of personnel and the cost of outside
services directly related to such revenue. Cost of goods sold decreased 44% to
$508,073 (150% of net sales) in 1st Quarter 99 from $901,016 (208% of net sales)
in 1st Quarter 98. The decrease in cost of goods sold and the decrease in the
percentage of cost of goods sold to net sales was the result of the decrease in
sales and the decrease in the number of units of C-Phone Home sold at less than
cost with a telecommunications agreement. The high cost of goods sold to net
sales percentage reflects the high cost of manufacture of the Company's TV-based
products in its initial production stage and the inability to cover fixed
manufacturing costs at low production volumes. The cost of other revenues
($8,202) in 1st Quarter 99 was 50% of related revenue. The Company had no
similar costs in 1st Quarter 98.
GROSS PROFIT (LOSS). The gross loss was $160,737 in 1st
Quarter 99 (45% of revenues), as compared to a gross loss of $464,216 (106% of
revenues) in 1st Quarter 98. The gross loss in 1st Quarter 99 was primarily the
result of the low sales volume and the related high cost of goods sold discussed
above.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and
administrative expenses decreased 38% to $725,584 (204% of revenues) in 1st
Quarter 99 from $1,162,212 (266% of revenues) in 1st Quarter 98. The primary
reason for the decrease was a 70% decrease in selling and marketing expenses to
approximately $217,000 in 1st Quarter 99 from approximately $719,000 in 1st
Quarter 98, substantially all of which decrease was directly related to the
marketing launch of C-Phone Home in 1st Quarter 98. The decrease in selling and
marketing expenses was partially offset by an increased reserve for bad debt
expenses based upon the Company's historical experience with the retail
industry, increased legal and accounting expenses, primarily as a result of the
complexities related to the addition of the TV-based product line, the
reallocation of duties of certain personnel from research, development and
engineering, and increased investor relations and other shareholder expenses
resulting from a significant increase in the number of holders of the Common
Stock. The Company expects that it will continue to incur substantial selling,
general and administrative expenses during Fiscal 1999 as a result of the
continued commercialization of the Company's TV-based products.
RESEARCH, DEVELOPMENT AND ENGINEERING. Research, development
and engineering expenses decreased 26% to $209,067 (59% of revenues) in 1st
12
<PAGE>
Quarter 99 from $280,739 (64% of revenues) in 1st Quarter 98. The decrease was
primarily the result of the change in focus to the Company's TV-based products
from its PC-based products and a decrease in personnel costs resulting from a
partial change in duties of certain personnel to selling, general and
administrative. All of these costs were charged to operations as incurred and
were funded by the Company's cash reserves. The Company expects to continue to
invest significant resources during the foreseeable future in new product
development and engineering.
OPERATING LOSS. As a result of the factors discussed above,
the Company's operating loss decreased 43% to $1,095,388 in 1st Quarter 99 from
$1,907,167 in 1st Quarter 98.
INTEREST. Interest income increased 24% to $52,743 in 1st
Quarter 99 from $42,411 in 1st Quarter 98 as a result of interest earned on the
higher average cash and cash equivalents due to the receipt of proceeds from the
December Placement and from the exercise of previously issued warrants and
options in May 1998, partially offset by the continued use of the Company's cash
and cash equivalents to fund operations.
INCOME TAXES. The Company's losses for 1st Quarter 99 and 1st
Quarter 98 may be utilized as an offset against future earnings, although there
is no assurance that future operations will produce taxable earnings.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its recent operations primarily from
the proceeds of the March Placement, which raised net proceeds of approximately
$4,370,000, and the December Placement, which raised net proceeds of
approximately $4,110,000. In addition, during May 1998, the Company received
approximately $4,650,000 from the exercise of previously issued warrants and
options. See "Recent Equity Offerings."
At May 31, 1998, the Company had working capital of
$8,8830,889 (an increase of $3,660,384 from $5,170,505 at February 28, 1998) and
cash and cash equivalents of $7,366,971 (as compared to $4,200,231 at February
28, 1998). The Company's invested funds consisted primarily of overnight
repurchase agreements for discount notes issued by the United States Treasury or
United States government agencies. During 1st Quarter 99, operating activities
used $1,482,551 of net cash, primarily to fund operating activities, investing
activities used $6,591 of net cash for equipment purchases, and financing
activities provided $4,655,882 of net cash from the exercise of previously
issued warrants and options. Due to the technical nature of the Company's
business and the anticipated expansion of its video conferencing technology into
new applications, management expects to continue to expend significant resources
for continued development and engineering as well as selling and marketing
expenses.
The Company believes that its current working capital, which
includes the net proceeds from the March Placement, the December Placement and
the exercise, in May 1998, of previously issued warrants and options, together
with anticipated funds from operations, will be sufficient to meet the Company's
projected operating needs and capital expenditures, including the continued
development and commercialization of its TV-based products, at least through the
end of fiscal year 1999. However, if any of the Company's TV-based products gain
significant market acceptance, of which there can be no assurance, the very
substantial investment which would then be required by the Company for
manufacturing, inventory and marketing expenditures and carrying of accounts
receivable related to the commercialization of such products, would require the
Company to obtain even more working capital. The Company anticipates that such
additional funds should be available through one or more possible sources,
including through (i) a private placement of (a) its debt securities, including
debt securities convertible into Common Stock, and/or (b) its Common Stock or
preferred stock, (ii) the exercise of the Company's remaining outstanding 1997
Warrants, if the market price of the Common Stock were to exceed the exercise
price of such warrants, of which there can be no assurance, and/or (iii) a
public offering of Common Stock. Unless adequate income relating to sales of
TV-based products is attained, the timing or receipt of which cannot be
predicted, the Company may require additional cash resources for the development
of alternative products. There can be no assurance
13
<PAGE>
that additional funds needed by the Company will be available when needed or, if
available, that the terms of such fundings will be favorable or acceptable to
the Company.
The development and recent introduction of TV-based products
have placed a significant strain on the Company's limited personnel, management
and other resources. The Company's ability to manage any future growth
effectively will require it to continue to attract, train, motivate and manage
its employees successfully and to continue to improve its operational, financial
and management systems. The Company's failure to effectively manage its growth
could have a material adverse effect on the Company's business and operating
results.
The Company leases its facility and owns its manufacturing
equipment free from encumbrances. As of May 31, 1998, the Company had no
material commitments for capital expenditures.
At February 28, 1998, the Company estimates that it had
available net operating loss carryforwards of approximately $15,125,000 for
Federal purposes and net economic loss carryforwards of approximately
$15,337,000 for state purposes, which may be used to reduce future taxable
income, if any. The Federal carryforwards will expire starting in 2009 and the
state carryforwards will expire starting in 1999.
The Company believes that, during the past three years,
inflation has not had a significant impact on the Company's sales or operating
results. Certain of the Company's products, and components and subassemblies
used by the Company in its products, are manufactured outside of the United
States and represent a material portion of the unit cost of the Company's basic
products. Although the Company has not experienced any significant price
increases to date as a result of changes in foreign currency rates, there can be
no assurance that, in the future, changes in foreign currency rates will not
affect the cost of its foreign purchased components and subassemblies. The
Company's foreign sales are denominated in U.S. dollars and the Company does not
incur any foreign currency risks; however, fluctuations in currency exchange
rates could cause the Company's products to become relatively more expensive to
foreign customers, which would result in a reduction in foreign sales or the
profitability of any of such sales.
IMPACT OF YEAR 2000 ISSUE
Computer systems may experience problems handling dates beyond
the year 1999 because many computer programs use only two digits to identify a
year in a date field. As the Company's products do not include date/time
mechanisms in their operating software, the Company's products are Year 2000
complaint.
During Fiscal 1998, for operational purposes, the Company made
the decision to upgrade its internal financial software system, which is Year
2000 compliant. The Company has substantially completed the identification of
other internal computer-based systems it uses which may require upgrading to
insure operational continuity beyond December 31, 1999, and anticipates that the
cost of bringing these internal minor systems into compliance will not be
material. The Company is assessing the possible effects on the Company's
operations of Year 2000 compliance related to key suppliers, subcontractors and
customers. The Company's reliance on suppliers and subcontractors means that the
failure to address Year 2000 compliance issues by these parties could have an
impact on the Company's business, although the Company believes that such
impact, if any, would not be material.
14
<PAGE>
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
27. Financial Data Schedule
(b) REPORTS ON FORM 8-K
A Current Report on Form 8-K (responding to Item 5 - "Other
Events") was filed by the Company on May 14, 1998.
15
<PAGE>
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
C-PHONE CORPORATION
Date: July 14, 1998 By: /s/ Daniel P. Flohr
-------------------------------------------------
Daniel P. Flohr
President and Chief Executive Officer
(Principal Executive Officer)
Date: July 14, 1998 By: /s/ Paul H. Albritton
-------------------------------------------------
Paul H. Albritton
Vice President and Chief Financial Officer
(Principal Accounting and Financial Officer)
16
WARNING: THE EDGAR SYSTEM ENCOUNTERED ERROR(S) WHILE PROCESSING THIS SCHEDULE.
<TABLE> <S> <C>
EXHIBIT 27
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
REGISTRANT'S UNAUDITED BALANCE SHEET AS OF MAY 31, 1998 AND THE UNAUDITED
STATEMENTS OF OPERATIONS AND STATEMENTS OF CASH FLOWS FOR THE THREE MONTHS THEN
ENDED AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
</LEGEND>
<CIK> 0000835585
<NAME> C-Phone Corporation
<MULTIPLIER> 1
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> FEB-28-1999
<PERIOD-START> MAR-01-1998
<PERIOD-END> MAY-31-1998
<CASH> 7,366,971
<SECURITIES> 0
<RECEIVABLES> 420,472
<ALLOWANCES> (149,858)
<INVENTORY> 1,924,838
<CURRENT-ASSETS> 9,642,990
<PP&E> 1,136,773
<DEPRECIATION> (998,934)
<TOTAL-ASSETS> 9,812,303
<CURRENT-LIABILITIES> 812,101
<BONDS> 0
1,966,960
0
<COMMON> 70,582
<OTHER-SE> 6,962,660
<TOTAL-LIABILITY-AND-EQUITY> 9,812,303
<SALES> 339,150
<TOTAL-REVENUES> 355,538
<CGS> 508,073
<TOTAL-COSTS> 516,275
<OTHER-EXPENSES> 0
<LOSS-PROVISION> (79,681)
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> (1,042,645)
<INCOME-TAX> 0
<INCOME-CONTINUING> (1,042,645)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (1,042,645)
<EPS-PRIMARY> (0.19)
<EPS-DILUTED> (0.19)
</TABLE>
