<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q--QUARTERLY REPORT UNDER SECTION 13 OR (15)d
OF THE SECURITIES EXCHANGE ACT OF 1934
(Mark One)
[X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the quarterly period ended June 30, 1999
-------------
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from _____________ to _____________
Commission file number 0-19578
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INTERNET COMMUNICATIONS CORPORATION
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
Colorado 84-1095516
- ------------------------------- --------------------------
(State or other jurisdiction of (IRS Employer
incorporation or organization) identification No.)
7100 E. Belleview Avenue, Suite 201, Greenwood Village, Colorado 80111
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
(303) 770-7600)
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(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (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. [X] Yes [ ] No
At August 10, 1999, 5,617,637 shares of Common Stock, no par value, were
outstanding.
Page 1 of 17 pages.
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Internet Communications Corporation
INDEX
Page
------
Form 10-Q Cover Page 1
Index Page 2
Part I FINANCIAL INFORMATION
Item 1- Financial Statements
Condensed Consolidated Balance Sheets at 3
June 30, 1999 and December 31, 1998
Condensed Consolidated Statements of Operations for the 4
three and six months ended June 30, 1999 and 1998
Condensed Consolidated Statements of Cash Flows 5
for the six months ended June 30, 1999 and 1998
Notes to Condensed Consolidated Financial Statements 6
Item 2- Management's Discussion and Analysis of Financial 9
Condition and Results of Operations
Item 3- Quantitative and Qualitative Disclosures 14
About Market Risk
Part II OTHER INFORMATION
Item 1- Legal Proceedings 15
Item 2- Changes in Securities and use of Proceeds 15
Item 3- Defaults upon Senior Securities 15
Item 4- Submission of Matters to a Vote of 16
Security Holders
Item 5- Other Information 16
Item 6- Exhibits and Reports on Form 8-K 16
Signature Page 17
2
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INTERNET COMMUNICATIONS CORPORATION
Condensed Consolidated Balance Sheets
(in thousands, except per share amounts)
<TABLE>
<CAPTION>
- -------------------------------------------------------------------------------------------------------------------------------
June 30, December 31,
Assets 1999 1998
- ------ ----------------- -------------------------
(unaudited)
<S> <C> <C>
Current assets:
Cash $ 330 14
Restricted cash -- 650
Trade receivables, net of allowance for doubtful accounts and sales returns of
$530 at June 30, 1999 and $472 at December 31, 1998 5,438 5,637
Subscription receivable from a related party -- 2,500
Inventory 3,310 3,296
Prepaid expenses and other 342 350
Costs and estimated earnings in excess of billings 532 772
-------- -------
Total current assets 9,952 13,219
Equipment, net 1,166 1,458
Goodwill, net 802 838
Spares inventory 179 252
Net assets of discontinued operations 375 460
Other assets, net 472 540
-------- -------
Total assets $ 12,946 16,767
======== =======
Liabilities and Stockholders' Equity
- ------------------------------------
Current liabilities:
Notes payable $ 3,534 1,569
Notes payable to a related party -- 1,300
Accounts payable 3,588 2,933
Accrued expenses 879 808
Billings in excess of costs and estimated earnings 863 1,239
Unearned income and deposits 811 834
-------- -------
Total current liabilities 9,675 8,683
-------- -------
Notes payable 57 3,585
Deferred revenue 142 184
-------- -------
Total liabilities 9,874 12,452
Stockholders' equity:
Preferred stock, 100,000,000 shares authorized
Series A Convertible Preferred Stock, issued and outstanding
50,000 shares, stated value of $100.00 5,000 5,000
Common stock, no par value, 20,000,000 shares authorized, 5,617,637
shares issued and outstanding 14,915 14,826
Stockholders' notes (22) (22)
Accumulated deficit (16,821) (15,489)
-------- -------
Total stockholders' equity 3,072 4,315
Commitments and contingencies
-------- -------
Total liabilities and stockholders' equity $ 12,946 16,767
======== =======
</TABLE>
See accompanying notes to these condensed consolidated financial statements.
3
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INTERNET COMMUNICATIONS CORPORATION
Condensed Consolidated Statements of Operations
(in thousands, except per share amounts)
<TABLE>
<CAPTION>
For Three Months Ended For Six Months Ended
---------------------------------- --------------------------------------
June 30, June 30, June 30, June 30,
1999 1998 1999 1998
-------------- -------------- ---------------- -----------
(Unaudited) (Unaudited) (Unaudited) (Unaudited)
Sales:
<S> <C> <C> <C> <C>
Network Services $ 3,223 3,880 6,519 7,579
Network Integration 3,031 4,662 7,006 9,176
------------- ------------- --------- -------------
Total sales 6,254 8,542 13,525 16,755
Cost of Sales (4,543) (5,926) (9,746) (12,307)
------------- ------------- --------- -------------
Gross margin 1,711 2,616 3,779 4,448
------------- ------------- --------- -------------
Operating expenses:
Selling 795 1,189 1,623 2,899
General and administrative 1,757 1,467 3,178 3,378
Restructuring -- -- -- 1,199
Interest expense, net 113 169 221 291
------------- ------------- --------- -------------
Total expenses 2,665 2,825 5,022 7,767
------------- ------------- --------- -------------
Income (Loss) from continuing (954) (209) (1,243) (3,319)
operations
Discontinued operations --
Income (Loss) from operations -- -- -- (206)
Estimated loss on disposal -- -- -- (237)
------------- ------------- --------- -------------
Net Income (Loss) (954) (209) (1,243) (3,762)
============= ============= ========= =============
Income (Loss) per share - basic and diluted:
Weighted average common shares
outstanding 5,618 5,460 5,618 5,429
Income (Loss) from continuing
operations (0.17) (0.04) (0.22) (0.61)
Income (Loss) from discontinued
operations -- -- -- (0.08)
Net Income (Loss) (0.17) (0.04) (0.22) (0.69)
- -----------------------------------------------------
</TABLE>
See accompanying notes to these condensed consolidated financial statements
4
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INTERNET COMMUNICATIONS CORPORATION
Condensed Consolidated Statements of Cash Flows
(in thousands)
<TABLE>
<CAPTION>
For Six Months Ended
--------------------------------------------
June 30, June 30,
1999 1998
--------------------- ---------------------
(Unaudited)
<S> <C> <C>
Cash flows from operating activities:
Net loss from continuing operations $ (1,243) (3,319)
Adjustments to reconcile net loss from continued operations
Depreciation and amortization 458 697
Allowance for doubtful accounts and sale returns 480 108
Changes in operating assets and liabilities:
(Increase) decrease in:
Receivables (281) (2,439)
Inventory 30 (303)
Prepaid expenses and other (22) (192)
Costs in excess of billings and estimated earnings 240 892
Increase (decrease) in:
Accounts payable 655 1,790
Accrued expenses 72 145
Unearned income and deferred revenue (65) (6)
Billings in excess of costs and estimated earnings (376) (490)
--------------------- ---------------------
Net cash used in operating activities (52) (3,117)
Net cash provided by discontinued operations 85 1,139
Cash flows from investing activities:
Capital expenditures (9) (90)
Proceeds from sales of assets 5 34
--------------------- ---------------------
Net cash used in investing activities (4) (56)
Cash flows from financing activities:
Proceeds from debt 9,224 4,595
Repayment of debt (10,787) (2,941)
Repayment of note from a related party (1,300) --
Subscription receivable from a related party 2,500 --
Proceeds from exercise of stock options -- 793
Repayment of stockholders' note -- 9
--------------------- ---------------------
Net cash provided by (used in) financing activities (363) 2,456
--------------------- ---------------------
Increase (decrease) in cash: (334) 422
Cash, beginning of period 664 --
--------------------- ---------------------
Cash, end of period $ 330 422
===================== =====================
See accompanying notes to these condensed consolidated financial statements.
</TABLE>
5
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NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
June 30, 1999
(Unaudited)
NOTE 1 -- BASIS OF PRESENTATION
---------------------
The financial statements included herein have been prepared by Internet
Communications Corporation ("Internet" or the "Company"), without audit,
pursuant to the rules and regulations of the Securities and Exchange Commission
and include all adjustments which are, in the opinion of management, necessary
for a fair presentation. Certain information and footnote disclosures normally
included in the financial statements prepared in accordance with generally
accepted accounting principles have been condensed or omitted pursuant to such
rules and regulations. The Company believes that the disclosures are adequate
to make the information presented not misleading. However, it is suggested that
these financial statements be read in conjunction with the financial statements
and the notes thereto which are included in the Company's Annual Report on Form
10-K for the fiscal year ended December 31, 1998. The financial data for the
interim periods may not necessarily be indicative of results to be expected for
the year.
Discontinued Operations
In March 1998, the Company's Board of Directors adopted a formal plan to sell
its non-core business segments ("Segments"), Omega and ICNS. On April 30, 1998,
the Company executed two separate divestiture agreements for the Segments. The
Segments have been accounted for as discontinued operations in accordance with
APB 30. As of the issuance date of the Company's Annual Report on Form 10-KSB
for the year ended December 31, 1997, management was not anticipating net losses
on the disposal of the Segments or the related interim period results of
operations. Based, in part, on the definitive agreements entered into on April
30, 1998, and an agreement entered into by the Company to terminate the last
major contract to be completed under the Company's plan to divest of ICNS,
management determined that a net loss on disposal would be incurred as well as
operating losses. Management revised these estimates in the financial statements
for the year ended December 31, 1998.
NOTE 2 - NOTES PAYABLE
-------------
On December 30, 1998, the Company entered into an agreement with the bank to
amend its credit facility. On February 1, 1999, the Fourth Amendment to Credit
Agreement and Note Modification Agreement was executed. The new facility
consists of a line-of-credit for $4,350,000 through March 31, 1999 and
$4,000,000 thereafter with interest at prime plus 1% (8.75% at June 30, 1999).
As of June 30, 1999, there was $3,477,000 outstanding under the line of credit.
As of December 31, 1998, there was $5,000,000 outstanding under the line-of-
credit. In accordance with the agreement with the bank, the Company paid down
the amount outstanding by $650,000 on January 4, 1999 and by $850,000 on
February 24, 1999. The cash used to make the $650,000 payment was reflected as
restricted cash at December 31, 1998. The line-of-credit is subject to a
borrowing base calculation and collateralized by accounts receivable and
inventory. The line matures on March 1, 2000. The credit agreement requires
that the Company remain in compliance with certain affirmative and negative
covenants. The financial covenants include specific requirements for EBITDA,
accounts receivable and accounts payable. In addition, the Company has monthly
and quarterly reporting requirements. As of June 30, 1999, the Company was not
in compliance with the EBITDA covenant. On August 10, 1999, the Fifth Amendment
to Credit Agreement and Note Modification Agreement was executed. The fifth
amendment waived the June 30, 1999 EBITDA covenant violation, reduced the line-
of-credit to $3,500,000 and adjusted the covenants dealing with EBITDA, accounts
receivable and accounts payable.
6
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In March 1998, the Company received $1.6 million from a related party, in
exchange for a convertible promissory note, due March 1999. The note bears
interest at 10% and interest payments are due quarterly. If the Company
defaults on the promissory note, the remaining principal outstanding may be
converted into common stock of the Company at $4.25 per share. As of December
31, 1998, the balance on the note was $1,300,000. This amount was paid off on
February 24, 1999.
NOTE 3 - STOCKHOLDERS' EQUITY
--------------------
The Company has authorized 100,000,000 shares of preferred stock, which may be
issued in series and with such preferences as determined by the Company's Board
of Directors. On December 30, 1998, the Company executed a stock purchase
agreement with Interwest Group, Inc., a related party. Under the terms of the
agreement, the Company issued 50,000 shares of Series A, 7 1/8% convertible
preferred stock, convertible at $2.25 per share, in exchange for $5.0 million.
Of the proceeds, $2.5 million was placed in escrow subject to shareholder
approval as required by NASDAQ corporate governance rules. On February 23,
1999, the Company received shareholder approval and the escrow was released.
After the purchase, Interwest Group owns 50% of the outstanding common stock of
the Company and 64% on an if converted basis.
NOTE 4 - INCOME (LOSS) PER SHARE
-----------------------
Basic income (loss) per share is computed on the basis of weighted-average
common shares outstanding. Diluted loss per share considers potential common
stock in the calculation, and is the same as basic loss per share for the three
and six months ended June 30, 1999 and 1998 as all of the Company's potentially
dilutive securities were anti-dilutive during these periods.
NOTE 5 - IMPACT OF RECENTLY ISSUED ACCOUNTING PROUNOUNCEMENTS
----------------------------------------------------
The Financial Accounting Standards Board recently issued Statement of Financial
Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities," ("SFAS 133"), which is effective for all fiscal years beginning
after June 15, 1999. SFAS 133 establishes accounting and reporting standards
for derivative instruments and hedging activities by requiring that all
derivative instruments be reported as assets or liabilities and measured at
their fair values. Although management of the Company has not completed its
assessment of the impact of SFAS 133 on its consolidated results of operations
and financial position, management estimates that the impact of SFAS 133 will
not be material.
NOTE 6 - YEAR 2000 RISKS
---------------
Currently, many computer systems, hardware and software products are coded to
accept only two digit entries in the date code field and, consequently, cannot
distinguish 21st century dates from 20th century dates. As a result, many
companies' software and computer systems may need to be upgraded or replaced in
order to comply with such "Year 2000" requirements. The Company and third
parties with which the Company does business rely on numerous computer programs
in their day to day operations.
The Company has identified computer systems that could be affected by the Year
2000 issue as it relates to the Company's internal hardware and software, as
well as third parties which provide the Company goods or services. As of the
second quarter of 1999, testing has been substantially completed and remediation
and replacement has commenced. By the end of the third quarter, the Company
intends to have developed a contingency plan that would be utilized if current
efforts by the Company and its vendors are unsuccessful.
There can be no assurance that the Year 2000 issues will be resolved in 1999.
The Company has an estimate of approximately $50,000 for the costs required for
this effort, but may incur additional costs in resolving its Year 2000 issues.
If not resolved, this issue could have a material adverse impact on the
Company's business, operating results, financial condition and cash flow.
7
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NOTE 7 - COMMITMENTS AND CONTINGENCIES
-----------------------------
On October 14, 1998, the Company filed a complaint against Rocky Mountain
Internet, Inc. ("RMI") in the District Court, City and County of Denver, State
of Colorado. The complaint relates to RMI's failure to close the merger between
the Company and RMI, based on a merger agreement entered into on June 5, 1998.
The complaint alleges that RMI breached the merger agreement and made certain
misrepresentations to the Company with respect to the merger transaction. The
Company has claimed damages of at least $30 million. RMI has counterclaimed
that the Company breached the merger agreement by failing to file the merger
proxy in a timely manner, misrepresenting the Company's compatibility with RMI
and failing to maintain satisfactory business operations. The counterclaim
seeks substantial damages based on RMI's inability to complete a $175 million
high yield debt offering as a result of the Company's breach of contract. The
Company believes RMI's counterclaims are frivolous and without merit. Upon
cross-motions for summary judgement the Court, on May 28, 1999, entered an
Order, which limits damages upon termination to $1,050,000 for the non-breaching
party. On August 6, 1999, the Company and RMI reached an agreement to settle
the lawsuit. Under the agreement, both parties agreed to drop their respective
claims.
NOTE 8 - SUBSEQUENT EVENT
----------------
On August 11, 1999, the Company executed a stock purchase agreement with
Interwest Group, Inc., a related party. Under the terms of the agreement the
Company issued 19,000 shares of Series B 7-3/8% convertible preferred stock,
convertible at $2.9063 per share, and 100,000 warrants to purchase common stock
(exercisable for four years at $2.9063) in exchange for $1.9 million. In
addition, the agreement provides a one year commitment for an additional sale of
5,000 shares of Series B 7-3/8% convertible preferred stock ($500,000) subject
to the Company meeting certain requirements.
8
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
---------------------------------------------------------------
RESULTS OF OPERATIONS
- ---------------------
CAUTIONARY STATEMENT PURSUANT TO SAFE HARBOR PROVISIONS OF THE PRIVATE
- ----------------------------------------------------------------------
SECURITIES LITIGATION REFORM ACT OF 1995
- ----------------------------------------
This 10-Q contains "forward-looking statements" within the meaning of the
federal securities laws. These forward-looking statements include statements of
expectations, beliefs, future plans and strategies, anticipated events or trends
and similar expressions concerning matters that are not historical facts. The
forward-looking statements in this 10-Q are subject to risks and uncertainties
that could cause actual results to differ materially from those expressed in or
implied by the statements.
With regard to the Company, the most important factors include, but are not
limited to, the following:
- Changing technology.
- Competition.
- Possible future government regulation.
- Competition for talented employees.
- Company's ability to fund future operations.
- Becoming Y2K compliant.
The following is management's discussion and analysis of certain significant
factors which have affected the Company's financial condition and results of
operations during the periods included in the accompanying condensed financial
statements.
LIQUIDITY AND CAPITAL RESOURCES
- -------------------------------
Capital Resources
On December 30, 1998, the Company executed a stock purchase agreement with
Interwest Group, Inc., a related party. Under the terms of the agreement, the
Company issued Series A 7-1/8% convertible preferred stock, convertible at $2.25
per share, in exchange for $5.0 million. On December 30, 1998, $2.5 million was
funded to the Company, of which $650,000 was restricted for payment on the
Company's credit facility. Of the balance of the proceeds, $300,000 was used to
pay down the note from the related party, and $1,550,000 was used for working
capital. The remaining $2.5 million was funded to escrow subject to shareholder
approval as required by NASDAQ corporate governance rules. On February 23,
1999, the Company received shareholder approval and the escrow was released.
The Company used $850,000 to pay down the Company's credit facility, $1,300,000
to pay the balance of the note from the related party, and $350,000 for working
capital purposes. As a result of this equity investment, the Company reduced
its debt by $3.1 million.
On August 11, 1999, the Company executed a stock purchase agreement with
Interwest Group, Inc., a related party. Under the terms of the agreement the
Company issued 19,000 shares of Series B 7-3/8% convertible preferred stock,
convertible at $2.9063 per share, and 100,000 warrants to purchase common stock
(exercisable for four years at $2.9063) in exchange for $1.9 million. In
addition, the agreement provides a one year commitment for an additional sale of
5,000 shares of Series B 7-3/8% convertible preferred stock ($500,000) subject
to the Company meeting certain requirements.
On December 30, 1998, the Company entered into an agreement with the bank to
amend its credit facility. On February 1, 1999, the Fourth Amendment to Credit
Agreement and Note Modification Agreement was
9
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executed. The new facility consists of a line-of-credit of $4,350,000 through
March 31, 1999 and $4,000,000 thereafter with interest at prime plus 1% (8.75%
at June 30, 1999). As of June 30, 1999, there was $3,477,000 outstanding under
the line-of-credit. The line-of-credit is subject to a borrowing base
calculation and is collateralized by accounts receivable and inventory. The line
matures on March 1, 2000. As of June 30, 1999, the Company was not in compliance
with the EBITDA covenant. On August 10, 1999, the Fifth Amendment to Credit
Agreement and Note Modification Agreement was executed. The fifth amendment
waived the June 30, 1999 EBITDA covenant violation, reduced the line-of-credit
to $3,500,000 and adjusted the covenants dealing with EBITDA, accounts
receivable and accounts payable.
In March 1998, the Company received $1.6 million from a related party in
exchange for a convertible promissory note ("Note"), due March 1999. The Note
bears interest at 10% and interest payments are due quarterly. The Note
includes a conversion clause which allows conversion if the Note is not paid
when due and carries a conversion price of $4.25 per common share. At December
31, 1998, $1,300,000 was outstanding on this note. This note was paid in full
upon release of the escrowed funds as mentioned above.
Liquidity
During the six months ended June 30, 1999, the Company's cash position decreased
by $334,000. Of this decrease, $650,000 of cash classified as restricted on
December 31, 1998, was used to pay down the Company's credit facility on January
4, 1999. The Company's current ratio declined to 1.03 at June 30, 1999, from
1.52 at December 31, 1998. The decline in the current ratio is due primarily to
the reclassification of the Company's credit facility to short-term at March 31,
1999 from long-term at December 31, 1998.
The Company's accounts receivable, net of allowance for doubtful accounts and
sales returns, was $5,438,000 at June 30, 1999, as compared to $5,637,000 at
December 31, 1998. During 1999, the Company has aggressively addressed
collection of outstanding aged accounts receivable, while closely monitoring the
current year receivables. A credit manager was hired during the second quarter,
and additional resources were committed to collection efforts. Based upon
accounts receivable collection efforts made by the Company thus far, $422,000
has been written off during the six months ended June 30, 1999. These write-offs
were primarily due to customer billing problems when the Company implemented new
software in the first quarter of 1998, and data base and process problems on
changes in recurring service contract terms. Both problems have been addressed
in 1999. In addition, the company has provided for increases in the allowance
for doubtful accounts of $480,000 in 1999.
Accounts payable and accrued expenses at June 30, 1999 were $4,467,000, as
compared to $3,741,000 at December 31, 1998.
The Company made no significant investment in property, plant, or equipment
during the quarter ended June 30, 1999. There are no material commitments for
capital expenditures and the Company is maintaining tight controls over its
capital purchases.
RESULTS OF OPERATIONS:
- ----------------------
The Company recorded a loss from continuing operations of $954,000 and
$1,243,000 for the three and six months ended June 30, 1999, as compared to
$209,000 and $3,319,000 for the three and six months ended June 30, 1998.
Included in the loss for the quarter ended March 31, 1998, were restructuring
costs of $1,199,000, and product line reduction costs associated with the
restructuring of $409,000. In March of 1998, the Company adopted a plan to
divest itself of its non-strategic subsidiaries, Omega and ICNS. These segments
were accounted for as discontinued operations in accordance with APB 30, and for
the three months ended March 31, 1998, the Company recorded a loss from
discontinued operations of $206,000, and an additional estimated loss on
disposal of discontinued operations of $237,000.
10
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Continuing Operations
Revenue
Revenue for the three months ended June 30, 1999 decreased by $2,288,000, or
26.8% as compared to the three months ended June 30, 1998, and by $3,230,000, or
19.3% as compared to the six months ended June 30, 1998. The Company experienced
significant turnover and attrition in its sales force during and as a result of
the failed merger with Rocky Mountain Internet in the third and fourth quarter
of 1998. Management had to restaff the sales department in the first half of
1999. The lower revenue in the second quarter is reflective of an understaffed
and new sales force. In addition to restaffing, the Company has added a base
sales manager to enhance existing customer relations, added a telemarketing
group led by an experienced manager to increase leads and has initiated a
professional marketing communications program. Additionally, $500,000 of
project installations were delayed due to construction at customer sites.
During the second quarter of 1999, 51% of revenue was from Network Services,
with 49% of revenue from Network Integration. This compares to 45% of revenue
from Network Services and 55% of revenue from Network Integration for the
quarter ended June 30, 1998. The Company continues to focus sales efforts on
"total network solutions" which include recurring services sales, rather than on
equipment and installation projects that do not include any of the recurring
services.
Gross Margin
The gross margin percentage for the three and six months ended June 30, 1999 was
27.4% and 27.9% of revenue versus 30.6% and 26.6% of revenue for the comparable
periods in 1998. The decline in the margin for the three months ended June 30,
1999 is due to reduced labor utilization resulting from delays in projects.
During the quarter ended March 31, 1998, the Company recorded a charge of
$409,000 for product line reduction as part of the restructuring.
Selling
Selling expenses for the three and six months ended June 30, 1999 decreased by
$394,000 and $1,276,000 as compared to the three and six months ended June 30,
1998. Selling expenses as a percentage of revenue were 12.7% and 12.0% for the
three and six months ended June 30, 1999, as compared to 13.9% and 17.3% of
revenue for the comparable periods in 1998. This decrease in selling expenses is
primarily attributable to a decrease of $373,000 and $1,078,000 in personnel
related expenditures for the quarter and year to date. The remaining decrease in
selling expenses is due to decreased expenditures for recruiting and travel.
General and Administrative
General and administrative expenses increased by $290,000 for the three months,
and decreased by $200,000 for the six months ended June 30, 1999, as compared to
similar periods in 1998. The increase in general and administrative expenses of
$290,000 for the three months ended June 30,1999 is due, in part, to an increase
in the allowance for doubtful accounts of $384,000, partially offset by reduced
personnel expenses of $145,000. During the six months ended June 30, 1999, cost
reductions of $496,000 in personnel expenses and $188,000 in depreciation and
amortization were offset by increases of $374,000 in bad debt expense.
11
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Restructuring
In March 1998, the Company announced a restructuring plan aimed at tightening
the strategic focus on the data communications network service market.
Management determined the Company had over-extended resources in the Rocky
Mountain region and had evolved into an overly complex organization.
Accordingly, the number of departments was reduced, employees were separated
from the Company, the number of manufacturers' product lines were reduced and
the wholesale engineering services business, launched during the fourth quarter
of the fiscal year ended December 31, 1997, was closed.
The restructuring resulted in the Company recognizing expenses totaling
$1,345,000 for the year ended December 31, 1998. The restructuring charge, as
initially recorded in the three month period ended March 31, 1998, was based on
management's best estimates at the time. As a result of the actual costs of the
restructuring, the Company revised its estimates during the fourth quarter of
1998.
A description of the major components of the restructuring expense and the
product line reduction are as follows:
Employee Severance of $664,000: The Company severed 50 positions, closed the
wholesale engineering business and accepted the resignations of the Company's
former president, CEO and a director, the Company's former secretary, vice
president-administration and a director. The severed employees each signed a
Severance Agreement and Legal Release, which provided them 30 days severance pay
and continued health insurance coverage for the month of April 1998. As
disclosed in the Company's Definitive Proxy Statement filed April 30, 1999, the
former president entered into a Severance Agreement and Mutual Legal Release
whereby the Company agreed to pay a total of two years severance at a rate of
$160,000 per year. As described in the Definitive Proxy Statement filed April
23, 1998, the former secretary and vice president entered into a Severance
Agreement and Mutual Legal Release whereby the Company agreed to pay a total of
twelve months severance pay at a rate of $100,000 per year.
Facilities Consolidation of $229,000: The facilities consolidation expense
includes the cost of leased space which would no longer be required by the
Company, for the period from the date of the restructuring to the estimated date
of securing a sublease and the related real estate brokers commissions for
subletting the space. In addition, the expense includes the net furniture costs
in excess of expected trade in or sales value.
Other of $43,000: Other represents legal fees related to the severance plan and
agreements and disposition of vehicles related to the restructuring.
Product Line Reduction of $409,000: The Company's restructuring plan included a
clearly defined approach to hardware and material offerings. The Company
undertook a review of the then offered products which included the product and
technical support requirements and the manufacturer's warranty, quality
standards and support standards. As a result of this review, the Company
reduced the number of approved vendors from 51 to 22. This reduction in product
offerings allows the Company to reduce future training costs and allow its
technicians to be more proficient on the products offered. The product line
reduction expense represents inventory that would no longer be offered as part
of the Company's standard product offerings and has been included in cost of
sales.
The balance of these restructuring expenses remaining to be funded as of June
30, 1999 was approximately $81,000.
12
<PAGE>
Discontinued Operations
Pursuant to a plan adopted in March 1998, the Company executed two separate
divestiture agreements on April 30, 1998 for its non-strategic subsidiaries,
Omega and ICNS. The subsidiaries have been accounted for as discontinued
operations in accordance with APB 30. The remaining assets and liabilities of
the subsidiaries at June 30, 1999 primarily consisted of accounts receivable and
accounts payable.
The Company executed a Stock Purchase Agreement on April 30, 1998 for the sale
of its 80% ownership of the common stock of Omega to Omega's vice president and
sole minority shareholder. The consideration for the sale of Company's common
stock ownership of Omega was $209,000.
The Company executed an Agreement on April 30, 1998 for the transition of the
business activities of its wholly owned subsidiary, ICNS, to a newly formed
corporation ("MetroWest") owned and operated by the principal managers of ICNS.
The Agreement specifies that MetroWest shall satisfactorily complete the ICNS
contracts existing at April 30, 1998. ICNS shall pay MetroWest incentive
compensation for the completion and final customer acceptance of ICNS contracts.
As of December 31, 1998, all of the contracts were completed.
As of the issuance date of the Company's Annual Report on Form 10-KSB for the
year ended December 31, 1997, management was not anticipating net losses on the
disposal of the Subsidiaries or the related interim period results of
operations. Based, in part, on the definitive agreements entered into on April
30, 1998, and an agreement entered into by the Company to terminate the last
major contract to be completed under the Company's plan to divest of ICNS,
management determined that a net loss on disposal would be incurred as well as
operating losses. Management has revised its estimates in the financial
statements for the year ended December 31, 1998. The Company recognized a loss
of $1,173,000 from discontinued operations for fiscal 1998.
Year 2000 Risks
Currently, many computer systems, hardware and software products are coded to
accept only two digit entries in the date code field and, consequently, cannot
distinguish 21st century dates from 20th century dates. As a result, many
companies' software and computer systems may need to be upgraded or replaced in
order to comply with such "Year 2000" requirements. The Company and third
parties with which the Company does business rely on numerous computer programs
in their day to day operations.
The Company has identified computer systems that could be affected by the Year
2000 issue as it relates to the Company's internal hardware and software, as
well as third parties which provide the Company goods or services. The Company
groups its analysis of these software, hardware and systems into the following
four categories:
(a) Customer Network Installations, where the Company has installed
third party vendor equipment and software, and the software is
covered by certain maintenance programs provided by the Company.
(b) Network Control Center, where the Company monitors and manages the
integrity and quality of customer networks.
(c) Third party vendors and providers (other than the equipment vendors
referred to above), including those which provide the Company with
services such as its data transmission capacity.
(d) Corporate Administrative Functions, including financial systems and
other corporate functions.
13
<PAGE>
For all categories, the Company has completed its inventory and assessment of
the software and devices involved. During this inventory phase, the project
team worked with third party equipment and software vendors to assess whether
these devices and software programs are date dependent and whether it is
anticipated that they will be Year 2000 compliant.
As of the second quarter of 1999, testing has been substantially completed and
remediation and replacement has commenced for all categories. By the end of the
third quarter, the Company intends to have developed a contingency plan that
would be utilized if current efforts by the Company and its vendors are
unsuccessful.
In the event that the Company acquires other assets or businesses, the software
and hardware acquired by the Company in connection with those business
combinations may also be Year 2000 non-compliant.
There can be no assurance that the Year 2000 issues will be resolved in 1999.
The Company has an estimate of approximately $50,000 for the costs required for
this effort, but may incur additional costs in resolving its Year 2000 issues.
If not resolved, this issue could have a material adverse impact on the
Company's business, operating results, financial condition and cash flow.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
---------------------------------------------------------
The Company's exposure to interest rate changes is primarily related to its
variable rate debt which may be outstanding from time to time under the
Company's credit facility. The Company's credit facility is a line of credit
with an interest rate based on the prime rate plus 1%. The credit facility
matures on March 1, 2000. Because the interest rate on the credit facility is
variable, the Company's cash flow may be affected by increases in the prime
rate. Management does not, however, believe that any risk inherent in the
variable-rate nature of the loan is likely to have a material effect on the
Company. As of June 30, 1999, the Company's outstanding balance on the credit
facility was $3,477,000.
Sensitivity Analysis. To assess exposure to interest rate changes, the Company
has performed a sensitivity analysis assuming the Company has a $4 million
balance outstanding under the line of credit (the limit on the line of credit at
June 30,1999). The monthly interest payment, if the rate stayed constant, would
be approximately $30,000. If the prime rate rose 100 basis points, the monthly
interest payment would be approximately $33,300. The Company does not believe
the risk resulting from such fluctuations is material nor that the payment
required would have material effect on cash flow.
14
<PAGE>
Part II OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
-----------------
On October 14, 1998, the Company filed a complaint against Rocky Mountain
Internet, Inc. ("RMI") in the District Court, City and County of Denver, State
of Colorado. The complaint relates to RMI's failure to close the merger between
the Company and RMI, based on a merger agreement entered into on June 5, 1998.
The complaint alleges that RMI breached the merger agreement and made certain
misrepresentations to the Company with respect to the merger transaction. The
Company has claimed damages of at least $30 million. RMI has counterclaimed
that the Company breached the merger agreement by failing to file the merger
proxy in a timely manner, misrepresenting the Company's compatibility with RMI
and failing to maintain satisfactory business operations. The counterclaim
seeks substantial damages based on RMI's inability to complete a $175 million
high yield debt offering as a result of the Company's breach of contract. The
Company believes RMI's counterclaims are frivolous and without merit. Upon
cross-motions for summary judgement the Court, on May 28, 1999, entered an
Order, which limits damages upon termination to $1,050,000 for the non-breaching
party. On August 6, 1999, the Company and RMI reached an agreement to settle
the lawsuit. Under the agreement, both parties agreed to drop their respective
claims.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
-----------------------------------------
On December 30, 1998, the Company executed a stock purchase agreement with
Interwest Group, Inc., a related party. Under the terms of the agreement, the
Company issued 50,000 shares of Series A 7-1/8% convertible preferred stock,
convertible at $2.25 per share, in exchange for $5.0 million. On December 30,
1998, $2.5 million was funded to the Company, of which $650,000 was restricted
for payment on the Company's credit facility. Of the balance of the proceeds,
$300,000 was used to pay down the note from the related party, and $1,550,000
was used for working capital. The remaining $2.5 million was funded to escrow
subject to shareholder approval as required by NASDAQ corporate governance
rules. On February 23, 1999, the Company received shareholder approval and the
escrow was released. The Company used $850,000 to pay down the Company's credit
facility, $1,300,000 to pay the balance of the note from the related party, and
$350,000 for working capital purposes. As a result of this equity investment,
the Company reduced its debt by $3.1 million.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
-------------------------------
NONE
15
<PAGE>
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
---------------------------------------------------
On May 27, 1999, the annual meeting of the Company's shareholders was held to
vote on proposals contained in the proxy statement mailed to shareholders on May
7, 1999. The Company's shareholders elected John M. Couzens, Thomas C. Galley,
and Richard T. Liebhaber to the Board of Directors, each to serve a three-year
term. The Company's shareholders also approved the 1999 Employee Stock Purchase
Plan. The number of shares voted and withheld with respect to each director and
the 1999 Employee Stock Purchase Plan were as follows:
Election of Directors For Withheld
--------- --------
John M. Couzens 7,270,094 32,340
Thomas C. Galley 7,269,494 32,940
Richard Liebhaber 7,283,434 19,000
For Withheld Abstain
--------- -------- -------
1999 Employee Stock Purchase Plan 7,243,379 58,965 1,090
ITEM 5. OTHER INFORMATION
-----------------
NONE
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
--------------------------------
NONE
16
<PAGE>
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 thereunto duly authorized.
INTERNET COMMUNICATIONS CORPORATION
-----------------------------------
(Registrant)
Date: August 16, 1999 By: /s/ John M. Couzens
----------------------------------
John M. Couzens, President
Date: August 16, 1999 By: /s/ T. Timothy Kershisnik
----------------------------------
T. Timothy Kershisnik, Chief
Financial Officer
17
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<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> JUN-30-1999
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