U.S. SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-KSB
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For the Year Ended September 30, 1996
Commission File No. 0-20922
TOTAL WORLD TELECOMMUNICATIONS, INC.
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(Name of Small Business Issuer in Its Charter)
Delaware 75-2274730
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(State or jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
3200 North Military Trail, Suite 300, Boca Raton, Florida 33431
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(Address of Principal Executive Offices) (Zip Code)
(561) 997-5880
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(Issuer's Telephone Number, Including Area Code)
Securities registered under Section 12(b) of the Exchange Act: None
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Name of Each Exchange
Title of Each Class on Which Registered
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Securities registered under Section 12(g) of the Exchange Act:
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Common Stock ($.00001 par value)
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(Title of Class)
Check whether the issuer (1) has filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for such
shorter period that the issuer was required to file such reports, and (2) has
been subject to such filing requirements for the past 90 days.
Yes X No
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Check if there is no disclosure of delinquent filers in response to Item
405 of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of issuer's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-KSB or any
amendment to this Form 10-KSB.
Yes X No
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State issuer's revenues for its most recent fiscal year: $21,584,874
State the aggregate market value of the voting stock held by
non-affiliates computed by reference to the price at which the stock was sold,
or the average bid and asked prices of such stock, as of a specified date within
the past 60 days.
Common Stock, par value $.00001 per share ("Common Stock"),
and Series M Preferred Stock and Series O Preferred Stock, par value
$.00001 per share ("Preferred Stock") were the only classes of
voting stock of the Registrant outstanding on December 31, 1996.
Based on the closing bid price of the Common Stock on the National
Association of Securities Dealers, Inc. Automated Quotation System
as reported on December 27, 1996 ($5.813), the aggregate market
value of the 3,409,305 shares of the Common Stock held by persons
other than officers, directors and persons known to the Registrant
to be the beneficial owner (as that term is defined under the rules
of the Securities and Exchange Commission) of more than five percent
of the Common Stock on that date was approximately $19,818,290. By
the foregoing statements, the Registrant does not intend to imply
that any of these officers, directors or beneficial owners are
affiliates of the Registrant or that the aggregate market value, as
computed pursuant to rules of the Securities and Exchange
Commission, is in any way indicative of the amount which could be
obtained for such shares of Common Stock.
ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS
DURING THE PAST FIVE YEARS
Check whether the issuer has filed all documents and reports required to
be filed by Section 12, 13 or 15(d) of the Exchange Act after the distribution
of securities under a plan confirmed by a court.
Yes No
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APPLICABLE ONLY TO CORPORATE REGISTRANTS
State the number of shares outstanding of each of the issuer's classes of
common equity, as of the latest practicable date.
6,231,928 shares of Common Stock, $.00001 par
value, as of December 27, 1996.
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PART I
BUSINESS
ITEM 1. DESCRIPTION OF BUSINESS
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OTHER THAN HISTORICAL AND FACTUAL STATEMENTS, THE MATTERS AND ITEMS DISCUSSED IN
THIS ANNUAL REPORT ON FORM 10-KSB ARE FORWARD-LOOKING STATEMENTS THAT INVOLVE
RISKS AND UNCERTAINTIES. ACTUAL RESULTS OF TOTAL WORLD TELECOMMUNICATIONS, INC.
AND ITS SUBSIDIARIES (COLLECTIVELY, THE "COMPANY") MAY DIFFER MATERIALLY FROM
THE RESULTS DISCUSSED IN THE FORWARD-LOOKING STATEMENTS. CERTAIN FACTORS THAT
COULD CONTRIBUTE TO SUCH DIFFERENCES ARE DISCUSSED WITH THE FORWARD-LOOKING
STATEMENTS THROUGHOUT THIS REPORT AND ARE SUMMARIZED IN THIS SECTION AND
"MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS-FORWARD- LOOKING STATEMENTS-CAUTIONARY LANGUAGE."
INTRODUCTION
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Total World Telecommunications, Inc., formerly International Standards
Group, Limited (the "Company"), through various subsidiaries, provides
telecommunications services, financial services and asset management to credit
unions, and commercial and residential real estate brokerage, mortgage
origination and title services. In June 1996, the Company sold its American
Indemnity Co. subsidiary, a fully licensed property and casualty insurer in the
British West Indies.
In June 1996, the Company acquired Houston-based Total National
Telecommunications, Inc., doing business as Total World Telecom, Inc ("TWT"), a
Tier 2 switch-based interexchange carrier that utilizes digital and fiber optic
facilities, with switches located in New York, Chicago, Los Angeles, Atlanta,
Houston, Dallas, Kansas City and Miami as of December 31, 1996, and two
additional switches in Seattle and Washington, D.C. will be operational in early
1997.
Through Financial Standards Group, Inc. ("FSGI"), the Company assists
credit unions and their supervisory committees in performing comprehensive or
internal regulatory compliance audits in satisfaction of their statutory
requirements. It also provides related internal auditing, accounting and
managerial advisory services to credit unions. FSGI has proposed to provide
internal audit, accounting and managerial advisory services to commercial banks,
savings and loan associations and other financial institutions requiring such
support services. The Company also plans to market asset management services for
credit unions through a joint arrangement with one or more nationally recognized
management firms.
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Through its Real Estate Services Network Holding Corp. ("RESN")
subsidiary, the Company provides commercial and residential real estate
brokerage, mortgage origination and title services. The Company is also
evaluating other services and products to be offered including various insurance
products and specialized services such as relocation programs and home warranty
programs.
On October 15, 1996, the Company effected a one-for-fifteen (1:15) reverse
stock split of its outstanding Common Stock. All transactions described herein,
and all references to outstanding Common Stock of the Company or rights to
acquire Common Stock give effect to such reverse stock split unless otherwise
indicated.
In view of the acquisition of TWT and the focus of the Company's
operations in the telecommunications industry, the Company plans to evaluate in
the course of the current fiscal year whether the operations of the Company's
FSGI and RESN subsidiaries are complementary. In the event management determines
that these operations are not sufficiently compatible and synergetic, the
Company will consider the sale or other disposition of these subsidiaries or
their operations.
RECENT DEVELOPMENTS
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On December 21, 1995, the Company and Global RE., LTD consummated a stock
purchase and exchange agreement, ("Agreement") subject to certain due diligence
procedures pursuant to which the Company acquired all the common stock of
American Indemnity Company Limited ("AIC") in exchange for 233,333 shares of the
Company's newly authorized Series G Voting Convertible Preferred Stock (the
"Preferred Stock") and options to purchase a total of 44,444 shares of Common
Stock of the Company. On April 6, 1996, the purchase and exchange agreement was
closed out of escrow, and 155,556 restricted shares of the Company's Common
Stock were issued in conversion of the preferred stock. Thereafter, on June 11,
1996, the Company, Global RE., Ltd., and AIC entered into an agreement pursuant
to which the Company exchanged with Global RE., Ltd. its capital stock interest
in AIC in return for the Company's securities previously received by Global RE.,
Ltd. as part of the acquisition of AIC by the Company in December 1995. This
separation was based on the determination by respective managements of the
incompatibilities of operations and limitation of the Company's management to
exercise sufficient oversight of AIC's officers. In addition, the parties agreed
to exchange reciprocal options to purchase 200,000 shares of Common Stock of the
Company and 3,000,000 shares of capital stock of AIC in addition to certain
supplemental rights. At June 30, 1996, the Company had cancelled these
previously outstanding shares.
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On June 12, 1996, the Company consummated an Agreement and Plan of
Reorganization dated May 28, 1996 for the acquisition of all of the outstanding
capital stock of Total National Telecommunications, Inc. (d/b/a Total World
Telecom). Pursuant to the terms of the stock exchange, the shareholders of TWT
received shares of newly created Series M and Series N preferred stock of the
Company which are convertible into 1,983,333 shares of Common Stock of the
Company. The Series M and Series N Preferred Stock, established pursuant to the
exchange, carry a cumulative dividend of 2.7% per month of the stated value of
the preferred stock which the Company is required to pay until such time as the
Company's Registration Statement (after which the former TWT shareholders have
agreed not to sell more than 5% of their shares per month) relating to resale of
certain of the shares of Common Stock underlying the Series of Preferred Stock
is registered under the Securities Act of 1933. At the time the Agreement and
Plan of Reorganization was consummated on June 12, 1996, the Company advanced
$5,000,000 for the working capital needs of TWT. In addition the Company issued
35,000 shares of Series O Preferred Stock for TWT employee compensation for past
service costs which are convertible into 233,333 shares of Common Stock of the
Company. The Company also issued 267,501 shares of Series P Preferred Stock
representing shares issued in connection with certain compensation arrangements
for employees of TWT. These shares are convertible into Common Stock of the
Company and have been recorded at the appraised market value of common shares.
Certain consultants received 250,000 shares of Series Q Preferred Stock which
are convertible into 1,111,109 shares of Common Stock of the Company. Such
shares have been valued at the fair market value less $2,625,000 (for the
redemption of 350,000 shares of Series M Preferred Stock) and have been charged
(except for Series O and P) to the cost of the acquisition. The Series O, Series
P and Series Q Preferred Stock have no registration rights.
On February 2, 1995, the Company was named as defendant in a lawsuit
brought in Supreme Court of the State of New York for the County of New York in
a case styled MORGAN STANLEY & CO. INCORPORATED V. INTERNATIONAL STANDARDS
GROUP, INC. (Index No. 102772/95). Morgan Stanley & Co. Incorporated ("Morgan
Stanley"), one of the largest and most preeminent investment banking and
financial services firms in the world, was seeking to recover purported damages,
or, in the alternative, was seeking rescission relative to its purchase from the
Company of certain counterfeit bonds sold to Morgan Stanley by the Company
following affirmation by Morgan Stanley that such bonds had been authenticated
by Morgan Stanley. Morgan Stanley sought judgment against the Company for an
amount in excess of $3,870,000, together with costs, predicated on counts of
breach of warranty, breach of contract, unjust enrichment and mistake of fact.
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Thereafter, the Company initiated litigation against Morgan Stanley,
Virginia de Cristoforo, Robert Isbitts, Administracion de Seguros, S.A. ("de
Seguros"), Consorcio de Seguros Polaris, S.A. and Michael E. Zapetis in the
United States District Court for the Southern District of Florida (Case No.
95-0590). The suit claimed federal and state securities law and common law
fraud, negligence and other breaches by the parties in connection with the
issuance of invalid Bearer Bank Bonds purportedly issued by the Banco Central de
Venezuela in consideration for the acquisition of a controlling interest in the
Company by de Seguros which subsequently was rescinded by the Company.
On October 29, 1996, the litigation was settled to the mutual satisfaction
of the parties. The terms of the settlement are not expected to adversely affect
the Company's operating results for any fiscal year.
On March 14, 1996, the Company's wholly-owned subsidiary RESN, entered
into an Agreement with Intervest, Inc. ("Intervest"), Sidney A. Lewis ("Lewis")
and U.S. Mortgage Network Corp. ("USM") pursuant to which the parties agreed,
INTER ALIA, to the rescission of the Stock Purchase Agreement dated November 21,
1995 pursuant to which Intervest had sold all of its stock interest in USM to
RESN. In connection with the consummation of the Agreement dated March 14, 1996,
the shares of common Stock of the Company were terminated, and USM relinquished
any interest it held in the Company's Mount Vernon distribution facility. In
addition, funds previously advanced by the Company to USM in the amount of
$300,000 are to be repaid no later than July 1, 1997 (although no longer
included as a receivable in the Company's financial statements). RESN's new
mortgage banking subsidiary, The Financial Group Incorporated, has assumed
certain liabilities associated with USM as described hereafter.
On November 6, 1996, the Company acquired 100 percent of the outstanding
stock of Southwestern Telecom, Inc. ("SOW"), San Antonio, Texas, a "casual-user"
direct-dial long distance company. The purchase price for the acquisition was
$1,023,765 in cash. Southwestern Telecom is expected to expand on a geographic
basis where TWT already has an existing network to better utilize TWT's
origination and termination facilities. Mr. David Anderson, founder of
Southwestern Telecom, will stay on as President of the new subsidiary.
Southwestern Telecom currently maintains over 50 percent of its casual users as
active accounts when measured at six-month intervals. This length of
subscribership is believed to be one of the highest in the casual-user market.
Southwestern Telecom had revenues of approximately $3.1 million for its year
ended December 31, 1995 and approximately $2.7 million for the six months ended
June 30, 1996.
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On December 16, 1996, the Company completed the acquisition of all of the
capital stock of NETTouch Communications, Inc., Dallas, Texas ("NETTouch"). In
consideration for the acquisition, the Company paid to the principal
shareholders of NETTouch $2,400,000 and issued a Common Stock Purchase Warrant
(the "Warrants") to acquire shares of Common Stock of the Company on or prior to
December 31, 2000 at an exercise price of $7.75 per share. In addition,
commencing with the month ended November 30, 1996, the Company is obligated to
make additional payments to such shareholders up to an aggregate of $4,800,000,
provided NETTouch continues to generate incremental monthly gross revenues in
excess of the highest gross revenues received in any preceding calendar month in
accordance with the formula established. The actual number of Warrants to be
received is predicated on the level of revenues periodically obtained by
NETTouch during the 1997 calendar year. The principal shareholder of NETTouch
was Telecommunications Resources, Inc. ("TRI") also from Dallas, TX. TRI is a
software developer and provider of telecommunications platforms which converge
technologies and telecommunications services, such as worldwide long-distance,
voice mail, virtual fax, travel card, wireless messaging notification, enhanced
"follow me" features, conference calling, paging, internet access,
text-to-screen e-mail, website development and hosting and more into the
convenience of single 1-800/888 numbers. These services allow the user a variety
of office services through one telephone number. NETTouch currently markets
these bundled services under the brand name "N'Touch." Under the acquisition
agreement, N'Touch as a wholly-owned subsidiary of the Company will receive
licensing rights to market TRI's future products and services to the home-based
business segment, which management believes is one of the fastest growing
segments in our society.
TOTAL WORLD TELECOM, INC.
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General
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Total World Telecom was established in Houston, Texas in 1991 as a single
switch-based long distance carrier, and has since expanded its revenue base and
geographic scope of operations to become a Tier 2 switch-based long distance
carrier with eight Stromberg-Carlson DCO Tandem switches located in Houston,
Dallas, Miami, Atlanta, New York, Chicago, Kansas City and Los Angeles. TWT's
digital fiber optic network uses leased transmission facilities and proprietary
switches to originate and terminate calls between U.S. cities together with
utilization of overflow facilities to other major carriers for all other areas.
In addition, TWT has bulk purchase agreements with major international carriers
which allows it to offer qualitative and competitively priced international
service.
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Since 1991, TWT has grown in customer base and annual revenues and has
evolved, in the estimation of management, into one of the 20 largest long
distance carriers in the United States. TWT's revenues for the 12-month period
ended September 30, 1996 were $52,035,723. At present, TWT offers as products
and dedicated long distance services 800 services, calling cards, domestic
private lines, debit cards, conference calling, advanced billing systems,
enhanced fax and data services, international calling and international
callback. Services to be added in the proximate future include internet access
and related telecommunications products and services.
On December 16, 1996, TWT acquired all of the outstanding shares of
NETTouch Communications, Inc. from Telecommunications Resources, Inc. NETTouch
markets various telecommunications platforms which are licensed by TRI which
effectively converge technologies and telecommunications services such as
worldwide long distance, voice mail, virtual fax, travel card, wireless
messaging notifications, enhanced "follow-me" features, conference calling,
paging, internet access, text-to-screen e-mail, website development and hosting
and related technology which afford users a variety of office services through
one telephone number. On November 6, 1996, TWT acquired 100% of the outstanding
shares of Southwestern Telecom, Inc., a "casual user" direct dial long distance
carrier.
TWT differentiates itself from a price-only sales approach by offering
various value-added services for its customers provided by its customized
proprietary software. The Company's software allows the bundling of multiple
products and services on a single invoice. TWT's wholesale customers are allowed
to customize which products and services will be bundled into nine single
invoices per end user. TWT's operational services and customer support
functions, including customer service, credit and collections and administrative
services, are located at the Company's offices at 1001 Fannin, Suite 300,
Houston, Texas 77002.
Industry Background
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Today's domestic long distance telecommunications industry was principally
shaped by a 1984 court decree (the "Decree") that required the divesture by AT&T
of its 22 Bell operating companies ("BOCs") and divided the country into some
200 Local Access Transport Areas or "LATAs". The local exchange carriers
("LECs"), which include the seven regional Bell operating companies ("RBOCs"-
the parent companies of the BOCs) as well as independent local exchange
carriers, were given the right to provide local telephone service, local access
service to long distance carriers and intra- LATA long distance service (service
within LATAs), but the RBOCs were prohibited from providing inter-LATA service
(service between LATAs). The right to provide inter-LATA service was given to
AT&T and the other interexchange carriers ("IXCs").
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As a result of the Decree, an inter-LATA long distance telephone call
begins with the LEC transmitting the call by means of its local network to a
point of connection with an interexchange carrier. The interexchange carrier,
through its switching and transmission network, transmits the call to the LEC
serving the area where the recipient of the call is located, and the receiving
LEC then completes the call over its local facilities. For each long distance
call, the originating LEC charges an access fee. The interexchange carrier also
charges a fee for its transmission of the call, a portion of which consists of a
terminating fee which is passed on to the LEC used to deliver the call. To
encourage the development of competition in the long distance market, the Decree
required LECs to provide all IXCs with access to local exchange services that is
"equal in type, quality and price" to that provided to AT&T. These so-called
"equal access" and related provisions were intended to prevent preferential
treatment of AT&T and to level the access charges that the LECs could charge
interexchange carriers, regardless of their volume of traffic. As a result of
the Decree, customers of all long distance companies were eventually allowed to
initiate their calls by utilizing simple "1 plus" dialing, rather than having to
dial longer access or identification numbers and codes.
Legislative, judicial and technological factors have helped to create the
foundation for smaller long distance providers to emerge as legitimate
alternatives to AT&T, MCI and Sprint for long distance telecommunication
services. The FCC has required that all IXCs allow the resale of their services,
and the Decree substantially eliminated different access arrangements as
distinguishing features among long distance carriers. In recent years, national
and regional network providers have substantially upgraded the quality and
capacity of their domestic long distance networks, resulting in significant
excess transmission capacity for voice and data communications. Due to
anticipated advances in the technology involved in digital fiber optic
transmission, excess capacity is expected to continue to be an important factor
in long distance telecommunications. As a consequence, not only have smaller
long distance service providers received legal protection to compete with the
network-based carriers, they also represent a valuable source of traffic to
carriers with excess capacity.
The large national carriers generally focus on residential and large
commercial accounts, creating opportunities for smaller long distance service
providers. TWT believes that AT&T, MCI and Sprint engage in limited direct sales
(i.e., face-to-face personal contact) to small and medium-sized commercial
users. Industry observers estimate that over 500 small firms have emerged to
compete for these customers, many of whom are quickly able to build sizable
customer bases on the strength of their selling skills. However, sustaining a
smaller firm's growth generally requires abilities to manage a growing
enterprise, as well as to attract the capital necessary to finance receivables
and develop a management and systems infrastructure.
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An integral component of long distance telecommunications transmission is
the switching equipment necessary to direct calls or data over the appropriate
transmission line. Facilities-based carriers maintain their own switches as part
of their networks. Smaller non-facilities-based providers generally contract for
the use of switches in connection with their contractual arrangements for the
use of a network. As an alternative, these providers may install their own
switches in those areas where they have sufficient volume to justify the capital
expenses and ongoing maintenance costs.
Industry Overview
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The long distance industry can be separated into four tiers based
primarily on whether a company originates, switches and/or terminates its own
calls. Tier 1 is comprised of the facilities- based carriers that own large,
nationwide fiber-optic networks, including a large number of switches. Each can
effectively terminate a call (i.e. pass to a LEC) nationwide. The Tier 1
carriers can be viewed as nationwide interexchange carriers who are able to
carry a call entirely between the originating central office and the terminating
central office for the best economics. This requires trunking or leasing of
high-capacity lines into each central office, which in turn requires significant
amounts of traffic to justify the high monthly cost.
Tier 3 and Tier 4 carriers are switchless resellers who do not own any
facilities at all and instead rely on wholesale purchasers of minutes from Tier
1 and Tier 2 carriers. Tier 3 and Tier 4 carriers ordinarily do not have high
fixed costs but generally experience a lack of customer and traffic control. The
distinction between Tier 3 and Tier 4 is based primarily on the fact that the
Tier 3 interexchange carrier generally uses its own brand name and often
undertakes a certain amount of direct sales, customer support and billing, while
the Tier 4 carrier often outsources most of these services and, therefor, is
often referred to as an aggregator since it is primarily engaged in bulk
purchasing of capacity.
Tier 2 carriers, such as TWT, own limited or no physical networks except
their proprietary switches, which are used for originating and terminating
traffic through leased facilities. TWT can originate traffic via virtually any
source and route the call to an appropriate local exchange carrier or to a Tier
1 carrier for termination. Ownership of the switches allows TWT to employ least-
cost-routing, which facilitates the entry of such variables as time of day,
geographic location, and type of call to help define the most economic route to
choose for the termination of the call. These terminating routes may include
facilities directly connected to the local exchange carriers or bulk deals with
Tier 1 carriers.
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Switch and Network Facilities
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TWT maintains a digital network in all regions of the United States. From
five Siemens-Stromberg Carlson DCO Tandem switches in place earlier in 1996, TWT
has now increased the number of active switches to eight, with two additional
switches to be activated in early 1997. TWT utilizes what is generally
recognized to be state- of-industry digital and fiber optic facilities, and has
deployed SS7 signalling throughout its network to better insure prompt, clear
connections at a competitive price. A series of inter- machine trunks connecting
each TWT switch with multiple other TWT switches has also been deployed to
ensure call protection and maximum redundancy. From the operations command
center in Houston, TWT's switch managers and technicians condition and monitor
the entire network on a 24-hour per day basis.
The maximization of TWT's gross profit generated by calls transported over
its network is dependent upon TWT's ability to utilize its network facilities
efficiently. Such facilities are comprised of both a fixed cost and variable
transport cost. Profitability is largely dependent upon TWT's ability to
maximize the efficiency of its fixed facilities cost. Approximately 80% of TWT's
total traffic is processed by TWT's switches. TWT's goal is to obtain 90%
efficiency by the end of 1997.
TWT is continually evaluating and reconfiguring its call processing
through the utilization of least-cost-routing. TWT has contracted with numerous
domestic and international transport carriers which allow for destination number
specific least-cost- routing and the maintenance of diverse routes.
Products and Services
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TWT offers a wide variety of long distance telecommunications services to
its customer base. Historically, a substantial portion of TWT's revenues have
been generated by basic "one plus" and "800" long distance service in the
residential and small business markets. TWT offers both switched and dedicated,
inbound and outbound long distance services. TWT is able to effectively provide
these services because 80% of this traffic is carried over the TWT network,
allowing for TWT to control quality, while keeping costs low. In the areas where
TWT does not maintain its own network, bulk purchase agreements have been
negotiated with national and regional interexchange carriers. Through
negotiations and reliable performance under its agreements, TWT has developed a
number of underlying carrier agreements that provide dependable quality service
at relatively low cost to TWT.
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In addition to basic telecommunications services, TWT's product line
includes value-added services that generate higher margins than basic long
distance services. At present, these value-added services include:
o DEDICATED ACCESS. For high volume businesses, TWT provides T-1
services to further reduce long distance expenses.
o ACCOUNTING CODES AND PROJECT CODES. TWT offers long distance track-
ing by department, individual or group name, two to five digits in
length, validated or invalidated.
o 800/888 CALLING. This service is provided for commercial customers
as well as large residential users.
o CALLING CARDS. TWT's services allow customers the ability to com-
plete calls away from home or office via 800/888-access calling
cards.
o PRE-PAID PHONE CARDS. TWT offers a debit card platform that
includes voice prompting, customized introductions and dollar and
minute announcements, all possible in a variety of languages.
o INTERNATIONAL CALLING. TWT provides phone service to more than 240
countries worldwide.
o INTERNATIONAL CALLBACK. TWT offers customers the capability to call
to and from over 240 countries. This allows a customer anywhere in
the world the ability to obtain a dial tone in the United States
which then allows that customer the ability to make phone calls
internationally using TWT's more favorable rates.
o CUSTOMIZED BILLING AND MANAGEMENT REPORTS. Customers can choose from
a variety of standardized customer-driven reports that offer
valuable time saving information on calls. Bills can be customized
to reflect names, departments or accounts.
Marketing and Sales
TWT seeks growth over the coming years to promote increased revenues,
profits and stockholder value. TWT will seek to attain these goals through four
revenue sectors:
o CARRIER/SWITCHLESS RESELLER SECTOR. As providers of long distance
services to end-users' retail customers, switchless resellers seek
to reduce their variable cost of access to long distance
transmission facilities and services. Historically, first-tier
interexchange carriers have provided the bulk of the transmission
facilities and services to switchless resellers. However, in recent
years such interexchange carriers have produced less favorable
pricing to switchless resellers and have not offered all of the
support services necessary, forcing the latter to look to other
providers. Although a number of companies compete in the switchless
reseller market, TWT has been able to attract resellers because of
the range of transmission, billing and other support services
provided.
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o AGENT SECTOR. Master agents sign non-exclusive contracts with TWT
to represent TWT and sell its long distance services to end users.
TWT provides turnkey comprehensive long distance service offerings
including components necessary for set up of end-user accounts,
transmission, billing, customer support, credit and collection and
all other services. This allows companies to enter the long distance
business without having to acquire the switching equipment,
originating and terminating facilities, back-up facilities,
additional equipment and personnel. Master agents then build up
their own network of agents and initiate a marketing campaign.
Although a large number of companies compete in the agent market,
this approach has proven to be beneficial, as TWT continues to find
marketing groups who wish to enter the long distance business.
o ENHANCED SERVICES SECTOR. The demand for information and telecom-
munications services has grown rapidly in recent years as society
has become increasingly mobile. Response to this demand has resulted
in a device-dependent environment with fragmented access and
delivery in which users communicate by sending and receiving
information through numerous unintegrated communications devices. In
this environment, individuals require access to multiple information
and communications services such as long distance, paging, voice
mail, e-mail and online information services.
NetTouch Corporation provides a comprehensive, integrated suite of
information and telecommunication services targeted to home-based
customers. NETTouch delivers its services through a network system
platform which provides users with a single, user-friendly point of
access to NETTouch's services. Network access is accessible from
virtually any telephone in the world and is also designed to
communicate with PC's, facsimile machines and pagers. NETTouch's
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software, together with the modular and scaleable architecture and
open systems design, enables TWT to customize its services at the
individual subscriber level. NETTouch's solution integrates
information and telecommunications services which include worldwide
long distance, voice mail, fax mail, travel services, active message
notification, financial news, headline news and conference calling.
NETTouch is developing additional services which it expects to
introduce in the first quarter of 1997, including text- to-voice
e-mail, additional travel services, enhanced "follow me" services,
electronic banking and bill payment services, "meet me" services,
Internet and paging services. NETTouch markets its services through
network marketing direct distribution channels. In co-branded
relationships, NETTouch markets its services with the co- branding
partner's name also appearing on the face of the subscriber's
communication card. NETTouch believes that its co-branded
relationships will continue to enable it to obtain subscribers more
quickly and retain them more effectively than would be possible
through direct marketing efforts alone. NETTouch bills its
subscribers by means of an Electronic Billing and Information
System, which enables NETTouch to electronically charge fees
directly to a subscriber's credit card or bank account. In addition,
it enables NETTouch to establish a usage threshold for each credit
card and electronically charge fees once the usage threshold is
reached.
o CASUAL CALLING. TWT operates and markets its casual calling through
it wholly-owned subsidiary, Southwestern Telecommunications, which
provides long distance primarily to residential users through a
service known as "Casual Calling." The end users access by dialing
10005 before placing a 1-plus call. Although Casual Calling is a
majority (roughly 95%) of SOW's traffic, it also has an additional
1-plus long distance customer base. SOW's services are basic and
rudimentary, providing only direct-dialed, station-to-station long
distance calling. By utilizing the TWT network, this product is
accessible and can be marketed throughout the continental United
States, with current focus primarily in the Southwestern Bell
region. SOW has relied on a three-pronged thrust to increase
customer awareness of its service: telemarketing, direct mail and
newspaper advertisements. Direct mail makes up a majority of its
marketing expenditures with an efficient process to mail mass
numbers of pieces per day. TWT also utilizes telemarketing,
conducted by live operators who contact customers to promote the
service and encourage continued usage, while periodically offering
promotions. Quarter-page newspaper advertisements are run at least
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twice a year within each service area to support remarketing of the
area with new service offerings and customer incentives.
Information Systems
-------------------
TWT believes that maintaining sophisticated and reliable billing and
customer service systems that integrate billing, accounts receivable and
customer support is a critical capability necessary to record and process the
expansive amounts of data that are generated by a telecommunications service
provider. TWT currently processes approximately 4.5 million call records per
month. In order to meet this demand, TWT has invested substantial resources to
develop proprietary information systems which will integrate customer services,
management information, billing and financial recording. These systems are
designed to: (i) provide sophisticated billing information tailored to the
requirements of TWT's customer base, (ii) increase the accuracy and speed of
customer billing, (iii) respond promptly to customer needs, (iv) integrate
acquired customer bases, (v) facilitate customer retention by identifying
customers which change their usage patterns, (vi) verify payables to suppliers
and (vii) support operations and collections efforts.
TWT also believes that the accuracy and speed with which data is produced
and delivered to the customer is a critical component to success in the
wholesale marketplace. To achieve these goals, TWT processes every call through
its network and through the billing platforms on a real-time basis, thereby
making each call available for billing delivery to the customer within three to
five seconds rather than the industry standard of one week.
Customer Service and Technical Support
--------------------------------------
TWT believes that effective customer service is essential to attracting
and retaining customers. TWT's customer service department is responsible for
educating and assisting customers in using TWT services, resolving billing
related issues and resolving technical problems subscribers may have in using
TWT's services. As of January 31, 1997, TWT will staff its customer service
department 24 hours per day, seven days per week and is accessible by a
toll-free call. Each member of TWT's customer service department is trained in
all aspects of customer service in order to enable them to respond to any
service related question raised by a customer.
TWT provides customer service representatives with detailed information
regarding each customer and the customer's transaction history. This information
is instantly accessible by customer service representatives from their computer
terminals. The real-time monitoring capabilities assure that subscribers'
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transaction records retrieved by customer service representatives are current,
even if a subscriber completed a transaction only moments before contacting the
customer service department. Certain customer service functions are script
driven, providing customer service representatives with a preset procedure to
follow when carrying out the requested function.
TWT employs separate personnel who are responsible for technical support
functions. These employees are responsible for consulting with TWT's strategic
partners.
Acquisitions
------------
On November 6, 1996, TWT acquired all of the outstanding shares of
Southwestern Telecom, Inc., San Antonio, Texas, a "casual-user" direct-dial long
distance company. SOW's customers access its network by dialing a unique carrier
identification code ("CIC Code") before dialing the number they are calling.
Using a CIC Code to access SOW's network is known as "casual calling" because
customers can use SOW's services at any time without changing their existing
long distance carrier. At the present time, SOW provides long distance services
in two states. TWT plans to expand SOW's marketing efforts to additional states
during 1997. Since marketing efforts began in 1994, its revenues have grown to
approximately $2.7 million for the six-month period ending June 30, 1996.
Although casual calling has been in existence since the mid- 1980's, only
recently have companies such as SOW begun to aggressively pursue this market
opportunity. SOW markets it services primarily through direct mail and outbound
telesales and marketing, and believes that this marketing strategy enables it to
attract residential customers in a cost-efficient manner. Because casual calling
customers are not required to cancel or change their pre-subscribed long
distance carrier, TWT believes that the aggressive acquisition programs
prevalent within the residential long distance market will have a limited impact
on SOW's business.
SOW bills its casual calling customers through billing and collection
agreements which enable SOW to place its charges on the monthly local phone
bills of its residential calling customers. SOW has entered into a billing and
collection agreement with Southwest Bell and will expand to other Local Exchange
Carriers (LECs). TWT believes that these billing arrangements are the most
effective mechanism for billings its residential customers because of the
convenience to its customers of receiving a single bill for both local and long
distance service and the benefits derived from the LECs' extensive collections
infrastructure.
On December 16, 1996, the Company completed the acquisition of all the
shares of NETTouch Communications, Inc., Dallas, Texas.
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NETTouch Communications, Inc., which markets under the name of N'Touch, is a
provider of telecommunications services which converge technologies and
telecommunications services, such as worldwide long-distance, voice mail,
virtual fax, travel card, wireless messaging notification, enhanced "follow-me"
features, conference calling, paging, internet access, text-to-screen e-mail,
website development and hosting and more. NETTouch allows every user a variety
of office services through the convenience of a single 800/888 number.
Government Regulation
---------------------
The terms and conditions under which TWT provides its services are subject
to regulation by the state and federal governments of the United States. Various
international authorities may also seek to regulate the services provided or to
be provided by TWT. Federal laws and FCC regulations apply to interstate
telecommunications, while state regulatory authorities have jurisdiction over
telecommunications that originate and terminate within the same state.
o FEDERAL. On February 8, 1996, President Clinton signed into law the
Telecommunications Act of 1996 which will allow local exchange
carriers, including the RBOCs, to provide inter-LATA long distance
telephone service and which also grants the FCC the authority to
deregulate other aspects of the telecommunications industry. The new
legislation may result in increased competition to the Company from
others, including the RBOCs, in the future. TWT is classified by the
FCC as a non-dominant carrier. The FCC has jurisdiction to act upon
complaints against any common carrier for failure to comply with its
statutory obligations. The FCC also has the authority to impose more
stringent regulatory requirements on TWT and change its regulatory
classification. TWT has applied for and received all necessary
authority from the FCC to provide interstate and international
telecommunications service. TWT has been granted authority by the
FCC to provide international telecommunications services through the
resale of switched services of U.S. facilities-based carriers. The
FCC reserves the right to condition, modify or revoke such
international authority for violations of the Federal Communications
Act or its rules.
Both domestic and international, non-dominant carriers must maintain
tariffs on file with the FCC. Although the tariffs of non-dominant
carriers, and the rates and charges they specify, are subject to FCC
review, they are presumed to be lawful and are seldom contested.
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Prior to a recent court decision, domestic non-dominant carriers
were permitted by the FCC to file tariffs with a "reasonable range
of rates" instead of the detailed schedules of individual charges
required of dominant carriers. In reliance on the FCC's past
practice of allowing relaxed tariff filing requirements for non-
dominant domestic carriers, TWT did not maintain detailed rate
schedules for domestic offerings in its tariffs. Until the two-year
statute of limitation expires, TWT could be held liable for damages
for its failure to do so, although it believes that such an outcome
is unlikely and would not have a material adverse effect on TWT. As
an international non-dominant carrier, TWT has always been required
to include, and has included, detailed rate schedules in its
international tariffs. Resale carriers are also subject to a variety
of miscellaneous regulations that, for instance, govern the
documentation and verifications necessary to change a consumer's
long distance carrier, limit the use of "800" numbers for pay-
per-call services, require disclosure of operator services and
restrict interlocking directors and management.
o STATE/COMMONWEALTH. The intrastate long distance telecommunications
operations of TWT are subject to various State/Commonwealth
Jurisdiction ("Jurisdiction") laws and regulations, including prior
certification, notification and registration requirements. In
certain Jurisdictions, prior regulatory approval may be required for
changes in control of telecommunications operations. TWT is
currently subject to varying levels of regulation in the
Jurisdictions where it provides approved telecommunications
services. The vast majority of Jurisdictions require TWT to apply
for certification to provide telecommunications services, or at
least to register or to be found exempt from regulation, before
commencing intrastate telecommunications service. Many Jurisdictions
also impose reporting requirements from various departments within
the Jurisdiction, i.e., Secretary of State, Department of Revenue
and the Utility Commission. The Jurisdiction may also require prior
approval for transfers of control of certified carriers, assignments
of carrier assets, including customer bases, carrier stock offerings
and incurrence by carriers of significant debt obligations.
Certificates of Authority can generally be conditioned, modified,
canceled, terminated or revoked by Jurisdiction law and/or the
rules, regulations, and policies of the Jurisdiction regulatory
authorities. Fines and other penalties, including the return of all
monies received for intrastate traffic from residents of a
Jurisdiction, may be imposed for such violations. See "Litigation."
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TWT has made the filings and taken actions to become certified and
tariffed to provide intrastate services to customers throughout the
United States, with the exception of six Jurisdictions. TWT has
received the level of authorization to provide intrastate services
from 40 Jurisdictions. With the exception of pending applications in
Arizona, Connecticut, Nevada and Oklahoma, TWT has received
authorization to provide the level of service authorized by the
recognized utility commission in each Jurisdiction where it has
applied for certification. TWT has not begun the process of
certification in Alaska, Hawaii, Mississippi, Nebraska, New Mexico
or North Dakota. There can be no assurance that TWT's provision of
services in Jurisdictions where it is not licensed or tariffed to
provide such services will not have a material adverse effect on
TWT's business, operating results and financial condition. However,
TWT will not knowingly provide service in any Jurisdiction where it
has not applied for and received the level of authority authorized
by that Jurisdiction's Utility Commission.
o MISCELLANEOUS. In conducting its business, TWT is subject to various
laws and regulations relating to commercial transactions generally,
such as the Uniform Commercial Code, and is also subject to the
electronic funds transfer rules embodied in Regulation E promulgated
by the Federal Reserve Board. Because of growth in the electronic
commerce market, it is possible that Congress or individual states
could enact laws regulating the electronic commerce market, or that
the Federal Reserve Board might revise Regulation E or adopt new
rules regarding electronic funds transfer. It is impossible to
predict what effect such new or revised laws, rules and regulations
would have on TWT's business, operating results and financial
condition. TWT's proposed international activities also will be
subject to regulations by various international authorities and the
inherent risk of unexpected changes in such regulation.
Competition
-----------
The number of telecommunications services offered by TWT on a
consolidated, one-bill basis serves to some extent, to distinguish TWT from some
of its competitors. Distinctions are made based upon the number of services
offered, the pricing plans and commitments necessary, as well as billing
information provided. TWT currently owns switch capacity, develops and
implements its own products, monitors and deploys its transmission facilities
and prepares and designs its own billing and reporting systems. TWT is able to
provide its customers with a mix of various carriers' services, both outbound,
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<PAGE>
inbound and wireless services at any customer location, and combine the
different services in one monthly bill.
In addition to direct competition from what TWT estimates are several
hundred switchless resellers, TWT competes with the sales organizations and
resellers of large telecommunications companies such as MCI and Sprint, which at
any particular time may offer more desirable services or prices than those
offered by TWT. Many of its competitors are better capitalized than TWT and thus
able to offer multi-year discount pricing and services plans that may not be
practical for TWT.
On February 8, 1996, President Clinton signed into law the
Telecommunications Act of 1996. This new law permits the Bell Operating
Companies, heretofore barred by the AT&T Consent Decree from offering long
distance services, to offer long distance services outside their operating
regions immediately. The new law also permits the BOCs, after satisfying a
number of conditions, to provide long distance service within their operating
regions as well.
On October 23, 1995, the FCC ruled that AT&T would no longer be regulated
as a dominant carrier. Because of this ruling, AT&T services are now regulated
in the same manner as those provided by non-dominant carriers including TWT.
Previously, AT&T's commercial long distance services were regulated under the
Commission's streamlined regulatory procedures. As a result of the order, AT&T
is generally free from price cap regulations, is permitted to file tariffs on
one day's notice, and is free to compete directly with TWT for low volume long
distance customers. Many service authorization requirements are reduced or
eliminated and AT&T is no longer required to submit cost support with its tariff
filings. AT&T is also released from a number of annual reporting requirements.
Proprietary Rights
------------------
TWT's ability to compete is dependent in part upon its proprietary
technology. TWT relies on confidentiality agreements with its employees and
copyright and trade secret laws to protect its technology. Despite these
actions, there can be no assurance that others will not be able to copy or
otherwise obtain and use TWT's proprietary technology without authorization, or
independently develop technologies that are similar or superior to TWT's
technology. However, TWT believes that, due to the rapid pace of technological
change in the information and telecommunications service industry, factors such
as the technological and creative skills of its personnel, new product
developments, frequent product enhancements and the timeliness and quality of
support services are more important to establishing and maintaining a
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<PAGE>
competitive advantage in the industry. TWT presently has no patents or patent
applications pending. TWT has applied for trademarks and has been granted notice
of allowance for Total World Telecom and the TWT logo.
Employees
---------
As of September 30, 1996, TWT employed 80 persons on a full time basis and
two on a part time basis. None of TWT's employees are members of a labor union
or are covered by a collective bargaining agreement.
Litigation
----------
TWT has been a party from time to time to litigation proceedings incident
to its business primarily involving complaints before certain state agencies and
the FCC regarding certain marketing and billing issues associated with the
activities of Heartline Communications, Inc. ("Heartline") and certain
independent marketing agents. The primary focus of such litigation or
proceedings involve unauthorized switching incidents which concern the switching
or so-called "slamming" of subscribers' long distance carriers as described
below. Until recently, TWT has focused on the wholesale segment of its business
and relied on independent organizations such as Heartline and independent
marketing agents for customers comprising its retail subscriber base. TWT
acquired certain assets and liabilities of Heartline in January 1995, and
assumed in part certain responsibilities relative to the conduct by independent
marketing agents of Heartline. In January 1995, TWT discontinued the direct
marketing functions of Heartline, and in July 1996, terminated all relationships
with independent sweepstakes marketing companies based on certain abuses that
came to light in the course of operations.
There is described below certain proceedings known to TWT relative to
complaints for unauthorized switching of subscribers's long distance carriers.
As indicated, TWT has disassociated itself entirely from any relationships with
independent sweepstakes marketing agents, but is required to assume
accountability for certain conduct and actions taken by such independent
sweepstakes marketing agents during the course of their relationship with
Heartline or TWT. Although such complaints could result in additional legal
actions or proceedings being initiated against TWT, TWT believes that such
matters will be satisfactorily resolved without any further material adverse
impact upon TWT's results of operations, although TWT cannot be certain of such
resolution. A final determination by one or more jurisdictions that TWT engaged
in the unauthorized switching of subscribers' long distance carriers or other
unauthorized conduct could still have a material adverse effect upon TWT's
results of operations as, among other results, TWT could be subject to financial
penalties and potential revocation of its operating authority in the particular
jurisdiction, as well as other possible restrictions.
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Heartline is a party defendant in a case initiated by the Attorney General
of the State of New York filed on July 15, 1996 in Superior Court for New York
County (PEOPLE OF THE STATE OF NEW YORK BY DENNIS C. VACCO, ATTORNEY GENERAL OF
THE STATE NEW YORK V. HEARTLINE COMMUNICATIONS, INC. AND THE NEW YORK TELEPHONE
CO. AND U.S. COMPANY BILLING, INC., Case No. 96-404365). Settlement negotiations
are proceeding to finalization, and TWT anticipates that the basis of settlement
will be a rate adjustment for certain customers and the payment of
investigational fees incurred by the State of New York which are not anticipated
to exceed $100,000 or to have a material adverse effect on TWT's results of
operations in addition to amounts presently reserved or on its operating
activities.
Heartline is also a named defendant in companion proceedings initiated on
June 7, 1996 in the Chancellery Division of Middlesex County New Jersey by the
Office of Consumer Affairs and the Attorney General of the State of New Jersey
(OFFICE OF CONSUMER AFFAIRS, ET AL V. JOSEPH R. HARROTT, BRAD DANN AND HEARTLINE
COMMUNICATIONS, INC.; CASE NO. C-187-96 AND ATTORNEY GENERAL OF THE STATE OF NEW
JERSEY, ET AL V. HEARTLINE COMMUNICATIONS, INC., BOBBY B. LEWIS, JOSEPH HARROTT
AND JOE WIGGINS, ET AL; Case No. C260-96). While the case has been set for a
consolidated trial likely to occur in the Spring of 1997, settlement discussions
are proceeding which would involve adjustment to TWT's procedures relative to
the conduct of operations and the payment of investigative costs, which are not
anticipated to exceed $80,000 and which are not expected to have a material
adverse effect on the operating activities or the results of operations of TWT
in addition to amounts heretofore reserved.
Heartline and TWT were the subject of an Order Instituting Investigation
by the California Public Utilities Commission (Proceeding No. I.96-04-024) filed
on April 10, 1996 which also related to violations of state regulation governing
the manner in which long distance customers are switched from one interexchange
carrier to another. As with the prior proceedings, this action was based on
conduct undertaken by independent marketing agents of Heartline and TWT. On
August 13, 1996, TWT and the PUC entered into a settlement agreement which was
approved by the Commission on December 9, 1996. Pursuant to the settlement
agreement, TWT was prohibited from offering retail long distance service in the
State of California for a period of 40 months, although TWT's wholesale
operations would not be affected by this operating restriction. While the impact
of such settlement has had a material adverse impact on TWT's current
operations, the continuing growth of revenues in TWT's wholesale segment as well
as its expanding revenue base in other jurisdictions in its newer retail
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<PAGE>
segments is anticipated to more than offset the loss of revenues associated with
the limitation regarding retail operations in the State of California. TWT is
also obligated under the settlement agreement to offer certain refunds to
customers which are expected to range from between $300,000 to $600,000 which
are expected to be paid during the current fiscal year and to pay $25,000 to the
Commission's general fund. As a result of the incidents which were the subject
of the California proceeding, TWT also has received Notice of Apparent Liability
for Forfeiture (Proceeding No. ENF-95- 18) filed on June 20, 1996 by the FCC
proposing to assess a forfeiture against TWT in the total amount of $200,000 for
unauthorized conversion of five long distance customer accounts which were also
the subject of the California PUC proceeding. TWT has filed a response with the
FCC on July 29, 1996 which is currently being reviewed by the SEC Staff. TWT
anticipates resolution of this inquiry during the current fiscal year with the
expectation that the resolution will be below the amount demanded by the FCC.
TWT believes it has provided sufficient reserves to cover any additional
liability resulting from these proceedings.
On August 30, 1996, TWT received an administrative subpoena from the
Orange County, California District Attorney's Office ("OCDA") requesting
information regarding the marketing of telecommunications services in California
by Heartline and TWT. TWT has responded to the subpoena. Although a formal
proceeding has not been instituted, the OCDA asserts that Heartline/TWT may have
violated Business and Professions Code sections 17200 and 17500. These code
sections provide for civil penalties for unlawful and unfair business practices
and false or misleading advertising. By letter dated December 11, 1996, the OCDA
demanded in excess of $1,000,000 in return for resolving the matter without
litigation. Counsel for the Company believes the OCDA's demand exceeds any
reasonable estimate of Heartline/TWT's liability, and has been instructed by TWT
to vigorously defend the Company against these claims while continuing to
explore a reasonable settlement. The Company has reserved $500,000 which has
been accrued at September 30, 1996.
In addition, Heartline was served with a Civil Investigative Demand by the
Office of the Attorney General of the State of Arizona on December 5, 1996. TWT
expects to complete its response in the proximate future and is not able to
anticipate any specific remedies that may be sought by the Attorney General's
Office. Heartline has also been named as a defendant in a proceeding initiated
by the Attorney General of Illinois (PEOPLE OF THE STATE OF ILLINOIS V.
HEARTLINE COMMUNICATIONS, INC., et al; Case No. 960H013750) filed in December
1996. TWT will evaluate the complaint and respond in due course. As in the
previous instances of unauthorized switching of subscribers' long distance
carriers, all of these transactions were undertaken by independent marketing
agents who are no longer associated with TWT's operations.
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A case was filed on January 11, 1996 by the Addison Terry Company, a
business brokering firm, against National Telecommunications Inc. in the 80th
Judicial District Court, Harris County, Texas (THE ADDISON TERRY COMPANY, INC.
V. TOTAL NATIONAL TELECOMMUNICATIONS, INC.; Case No. 96-01182). The plaintiff
claims in this lawsuit that it is owed a brokerage fee of $95,000 for the
services it provided in connection with possible financing for TWT. TWT signed a
commitment letter, but no final agreement was reached, and no financing was
obtained. The plaintiff claims, however, that it is entitled to its brokerage
fee due to the signing of the commitment letter. The plaintiff is seeking a
brokerage fee, attorneys' fees, pre-judgment interest, post-judgment interest
and costs of suit. TWT denies that the brokerage fee is owed and intends to
defend itself against the plaintiff's claim. Further, TWT has filed
counterclaims against the plaintiff asserting causes of action for breach of
contract, breach of fiduciary duty, negligence, negligent misrepresentation and
violation of the Texas Deceptive Trade Practices Act. TWT seeks to recover
actual damages in the total amount of $165,000, exemplary damages, pre-judgment
and post-judgment interest, attorneys' fees and costs of suit. The case is
currently in the discovery stage.
FINANCIAL STANDARDS GROUP, INC.
- -------------------------------
Introduction
------------
Financial Standards Group, Inc. ("FSGI") was organized on October 30, 1989
to assist credit unions and their supervisory committees in performing
comprehensive or internal regulatory compliance audits in satisfaction of their
statutory requirements and to provide related internal auditing, accounting and
managerial advisory services to credit unions. Credit unions are required under
the Federal Credit Union Act and various state statutes to undertake a
comprehensive internal annual audit and submit a report of that audit to its
Board of Directors and a summary of the report to its membership at the ensuing
annual meeting of the credit union membership. Currently, there is no statutory
requirement that the annual audit be a certified audit, which must be performed
by a Certified Public Accountant in accordance with generally accepted auditing
standards as published by the American Institute of Certified Public Accountants
and which results in the issuance of financial statements and the expression of
an opinion regarding such financial statements. A comprehensive annual audit,
which does not involve expression of an opinion or result in the issuance of
financial statements, need not be performed by a CPA and ordinarily can be
accomplished in significantly less time and for less cost than a certified
audit, thereby making it feasible and cost effective to the many smaller credit
unions in existence.
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Supervisory Committees and Audit Requirements
---------------------------------------------
Volunteers are responsible for making many of the decisions in most credit
unions. The Federal Credit Union Act requires that the board of directors of a
credit union be elected from its membership. The supervisory committee, which is
similar to an audit committee, plays a major role in monitoring a credit union's
affairs. The supervisory committee is appointed by the Board of Directors and
consists of not less than three nor more than five members, one of whom may be a
Director other than a compensated officer of the Board. Supervisory committee
members are appointed to terms of one to three years and may not be employees of
the credit union. No special qualifications are required of supervisory
committee members other than they be members of the credit union.
The supervisory committee members determine whether to perform the audit
themselves or use outside assistance. Although the Board of Directors authorizes
the expenses of external auditors (who may be CPAs or other individuals or firms
trained in auditing and accounting matters applicable to credit unions), the
supervisory committee decides whether such assistance is necessary and, if so,
whom to employ. The decision whether to employ external auditors is based on the
complexity of the credit union's operations and the training, proficiency and
independence of the supervisory committee members.
Upon completion of an audit, a report must be prepared which details the
audit findings. At a minimum, the audit finding should include any exceptions
noted in regard to (i) preparation of the financial statements in accordance
with acceptable accounting principles for federal or state credit unions; (ii)
inconsistently applied accounting principles; (iii) required information
disclosures in the financial statements; and (iv) financial, managerial,
operational or procedural matters which might have a material impact on the
financial condition of the credit union.
In the case of a certified audit conducted by a CPA, it is incumbent that
generally accepted auditing standards as published and promulgated by the AICPA
be followed and that an opinion by the CPA be rendered regarding the financial
statements taken as a whole or, alternatively, the CPA is required to assert
that an opinion cannot be expressed together with the reasons therefor. There is
no requirement under the Federal Credit Union Act or any other statutory
provision that credit union audits be conducted by a CPA or that they be
conducted in accordance with generally accepted auditing standards of the AICPA
for the purpose of rendering an opinion on the resulting financial statements.
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<PAGE>
Operations
----------
Management believes that FSGI is able to undertake a comprehensive annual
audit more efficiently and at less cost than certified audits performed by CPA
firms due to its specialization, training, deployment of lower cost personnel
and less comprehensive auditing standards and protocol, but with a more
professional format and skill than are provided by many of the audit personnel
presently conducting comprehensive annual audits for credit unions. CPA firms
also undertake comprehensive annual audits, and they may be able to perform such
audits at similar costs and efficiencies as FSGI.
As previously described, FSGI will not provide certified audits for its
clients; however, FSGI may assist credit unions in obtaining certified opinion
audits through joint venture agreements with a licensed CPA or CPA firm. Among
the categories of services FSGI will provide to its audit clients as part of its
comprehensive annual audit services are (i) verification of the existence of
assets or liabilities at a specified date and whether transactions have been
properly recorded; (ii) completeness of transactions and accounts reflected in
the financial statements prepared by the supervisory committee; (iii) the
proprietary right of the credit union to its assets and the responsibility for
liabilities and obligations of the entity; (iv) evaluation and allocation of
assets, liabilities, revenues and expenses of the credit union; (v)
determination as to whether various assets and liabilities are properly
classified, described and disclosed; (vi) evaluation of internal accounting
controls of the cash, consigned items, loans to members, investments owned,
savings accounts and the handling of transactions related to those members,
investments owned, savings accounts and the handling of transactions related to
those items; (vii) evaluation of material weaknesses in the system of internal
accounting controls; (viii) review of the effectiveness of EDP systems; (ix)
compliance with applicable laws and regulations applicable to the credit union;
and (x) loan analysis review and evaluation for compliance with established
policies.
Operational Plan
----------------
FSGI currently has operations in Florida, Kentucky, Michigan, Hawaii,
California, Indiana, Ohio and Maryland through agreements with local credit
union leagues and the purchase of a private practice in California. The Company
plans to finance expansion through operating revenues, strategic alliances and
the private or public offering of its securities. FSGI believes that a newly
organized branch office can become profitable after approximately twelve months
of operation exclusive of corporate overhead, depending on whether FSGI assumes
an ongoing operation such as previously conducted by a credit union league or an
existing auditing practice, whether the branch office is established in an
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existing region and whether the branch office is organized as the initial
operating entity in a newly organized region.
Since trained management is essential to the potential growth of a branch
office, such an office will not be opened until appropriate management is
selected. Once this has taken place, equipment is acquired, and management
begins the process of locating audit and administrative personnel to staff the
new office. In addition to opening new offices and using FSGI trained personnel
to staff such offices, FSGI also plans to acquire other smaller comprehensive
annual audit practices and recruit other professionally trained financial
personnel to conduct its regional and branch operations. The foregoing
information represents estimates developed by management based upon operations
to date and management's prior experiences in conducting credit union audits.
There can be no assurance that such estimates will be accurate once actual
operations commence for any branch office and that variances from such estimates
may be material. Accordingly, the Company cannot accurately predict when or if a
branch office will become profitable.
FSGI has standardized each of its regional and local branch offices with
the same equipment and integrated all such offices with FSGI's corporate
headquarters. Future regional offices will be staffed by a manager possessing,
at a minimum, a degree in accounting with suitable credit union experience and
at least one administrative person. Regional management will provide
supervision, technical assistance and marketing support for the various branch
offices, which generally will be staffed with two or more audit and
administrative personnel. Professional staff is recruited through the
acquisition of accounting practices and by hiring existing credit union league
examiners, retired federal and state credit union examiners, individuals with
accounting and finance training and other degreed persons. Corporate
headquarters and regional offices provide on a continuous basis a full
complement of audit programs, work papers, forms, checklists, initial and
ongoing training and technical assistance.
Marketing
---------
FSGI's marketing program is conducted by its senior management and general
managers at each of its regional and branch offices. FSGI also promotes its
services within the credit union industry through the relationships of its
senior management and members of its Board of Directors with various federal and
state credit union organizations and by their participation in various industry
associations, conferences, seminars, chapter meetings and other programs.
Management also seeks to associate FSGI with various of the state credit union
leagues and the National Association of Credit Union Supervisory and Auditing
Committee in order to obtain exclusive agreements or referral audits from such
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leagues and Committee. FSGI has also developed various brochures, newsletters
and video cassettes outlining its proposed services to the small credit unions
in the credit union industry, which are distributed and updated at regular
intervals. These products are sent out to various supervisory committees of the
smaller credit unions. FSGI also advertises in various industry publications and
exhibits FSGI's services at major credit union conferences and credit union
league annual meetings.
Competition
-----------
Based on management's knowledge of the credit union industry,
dissemination of information in various industry publications and participation
in various industry associations and educational programs, FSGI is unaware of
any firms or companies exclusively conducting comprehensive annual audits except
on a local or geographically limited basis. At the present time, most of the
smaller credit unions which FSGI has targeted for its services are being audited
by small auditing firms, individual CPAs, retired federal or state regulatory
examiners or state credit union leagues. Depending on the success of FSGI in
respect to its intended operations, and in view of the potential ease of entry
which characterizes this segment of the market, it is possible that various
medium-sized, regional or national CPA firms may seek to establish similar
proprietary services which will be competitive to those provided by FSGI. While
FSGI believes that it will have available the services of skilled professionals
to perform the comprehensive annual audit services and will have the benefit of
being the initial organization to undertake these services, FSGI may be in
competition with well-established firms and companies, many of which may have
greater financial resources and capabilities than FSGI. There can be no
assurance that FSGI will be able to compete successfully on an ongoing basis in
this segment of the market.
MOUNT VERNON DISTRIBUTION CENTER
- --------------------------------
On January 16, 1991, the Company acquired all of the capital stock of
Mount Vernon Distribution Center, Inc. ("Mount Vernon") from the Loveridge
Family interests including C. Denning Loveridge and John Loveridge, who are
Directors of the Company in exchange for cash, Common Stock of the Company and
assumption of existing liabilities. Mount Vernon was liquidated and dissolved at
that time. The commercial warehouse facility is located in Mount Vernon, Ohio,
which is 45 miles northeast of Columbus, Ohio and consists of 660,551 square
feet of industrial manufacturing warehouse facilities on a 61-acre site. The
property is comprised of an assemblage of five buildings consisting of up to
three-story brick, concrete and metal structures as well as various smaller
detached improvements. Based in part on an appraisal completed in January 1997,
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(with primary reliance on the market value approach to valuing real property)
the Company includes the Mount Vernon Distribution Center facility and land as a
listed asset held for resale on its consolidated balance sheet at September 30,
1996 at a value of $3,479,754. At the time of acquisition, such facility and
land were recorded at net realizable value, and they continue to be carried at
net realizable value based on management's best estimate of such facility and
land as of September 30, 1996. In the event the aforementioned appraisals had
placed primary emphasis on the income approach to valuing real property, it is
possible that the valuation therefor would have been substantially less than the
market value approach with attendant impairment in the carrying value of such
facility and land.
The property is collateral for a 10-year bank installment note maturing in
December 2001. Monthly payments of $9,659 include principle and interest at 10%
per annum. At September 30, 1996, the principal balance was $477,575.
The Company continues to monitor market conditions and will adjust the
carrying value of the property as changes in market conditions occur. As of
September 30, 1996, the facility was approximately 35% leased, and includes
various major corporate tenants including Power & Control Systems and
Weyerhauser Paper. Current leases for such facility extend between January 1997
and May 2002, and current monthly rentals aggregate to approximately $26,500,
which at the present time represents a positive cash flow to the Company of
approximately $1,000 per month. While the Company believes that the market value
of the facility and land held for resale is in excess of the facility and land's
carrying value, there can be no assurances that the Company will be able to sell
such property for either its carrying value or its listing price.
REAL ESTATE SERVICES NETWORK HOLDING CORP. (formerly MEMBERSHIP REALTY HOLDING
- ------------------------------------------ --------- -------------------------
CORP.)
- ------
RESN Operations
---------------
RESN commenced operations in May 1992 as a full service real estate
brokerage firm that recruited established agents by passing through 100% in
commissions earned by its member sales agents. RESN provides its members with
various experienced and necessary administrative support personnel services,
quality facilities and various technology products with which to enhance their
productivity.
The real estate industry has been undergoing dramatic changes over the
past several months, with the advent of Hospitality Franchise Service's purchase
and consolidation of such major franchises as Coldwell Banker, Century 21 and
ERA. This trend towards large consolidated offices and evolution from the
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<PAGE>
smaller "mom and pop" type of operations has afforded RESN an opportunity to
establish itself as a significant participant in the Tri-County area of South
Florida.
In response to recent trends and to develop better controls and revenue
generating systems, RESN has changed its business philosophy away from the "100%
concept" and has begun to establish itself with its sales associates on a more
traditional commission split basis. The average split between agent and RESN has
now increased from 5% of the gross commission to RESN under the "100%" concept
to an average of 15% presently. RESN's goal is to reach an average of 25% of the
gross commission paid to RESN before year end and then increase its percentage
to the industry standard of 30% in the following fiscal year. In making these
changes in response to the marketplace, RESN still maintains the "100%" concept
as an opportunity for those agents who demonstrate the requisite resources and
attributes to undertake their business and accounts effectively and
professionally. These agents pay a base "membership fee" to RESN and a 5%
transaction fee on each sale.
RESN is also expanding its operations to provide its sales associates with
additional service programs and income opportunities through the establishment
and development of mortgage origination, title services and insurance products,
as well as other real estate related services.
RESN currently has 10 offices in operation, six in Broward County, three
in Palm Beach County and one in Dade County. With the recent establishment of
its tenth location, RESN currently has approximately 300 member agents. Average
monthly gross sales are increasing, and the net company allocation is
increasing. In response to strong growth in certain markets in the Tri-County
area and with more associates wishing to affiliate with RESN than current space
permits, RESN has identified larger, alternative offices in two locations which
will facilitate the addition of approximately 35 sales associates.
In future months, the Company expects to open additional offices and
assumes it will expand to a total of up to approximately 600 sales associates.
The targeted expansion areas remain Dade, western Broward and Palm Beach
Counties. As contemplated by RESN, each office will accommodate approximately 50
member sales associates and have in residence the necessary administrative
support persons, including management personnel, phone and communications
persons, a showing coordinator to assist in real estate showings and a market
support individual to assist with brochure development, mailings and other
public relations and marketing efforts. In addition, each office is expected to
include at least one person who will be available to originate and assist in the
processing of mortgage loan applications derived from RESN sales associates,
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independent referrals or through the sales efforts of RESN's own loan offices.
RESN believes that each office to be established will require an investment of
approximately $150,000 and $250,000.
RESN commenced operations in 1992, and by the end of 1993 it was ranked
19th in the South Florida real estate market at the end of its first year. In
1994, RESN moved up to a ranking of 17, and during 1995 rose to 10th in the real
estate market according to such polls.
The Financial Group Incorporated
--------------------------------
The Financial Group Incorporated is approved to originate and underwrite
conventional loans as well as all government-backed programs. They employ
approximately 17 persons in its Boca Raton corporate headquarters and three
other offices located in Memphis, Miami and Ft. Lauderdale. In its first full
month of operation with RESN in December 1996, The Financial Group closed
approximately 50 loans totalling approximately $5,250,000.
National Institute of Real Estate, Inc. ("NIRE")
------------------------------------------------
In an effort to increase its share of the marketplace and establish
additional revenue sources, RESN has also established NIRE as its proprietary
real estate school. Through NIRE, RESN is able to contact agents from other
companies and offer them state required continuing education courses. It is
anticipated that this will result in conversion of certain of these students to
become sales associates with RESN. In addition, NIRE will be offering the
initial licensing courses during the current fiscal year, and will offer sales
positions to what it perceives to be the more promising graduates.
Title Insurance
---------------
Through Member Title Services, Inc., a wholly-owned subsidiary of RESN,
agents licensed with RESN will have access to comprehensive title insurance
through established title insurance agencies at rates that RESN believes will be
advantageous to the home buyer. RESN's title division is becoming more active
this year and anticipates more involvement in support of RESN.
RESN has recently centralized the processing of sales transactions to
establish tighter controls and assure a higher success ratio of contract
closings. This centralization will also afford RESN a better opportunity to
select the services of its own title company, Member Title Services, Inc., to
handle the actual closings of the transactions. By so doing, RESN will also
establish an additional revenue source for its own sales activity.
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<PAGE>
In addition, it is anticipated that, during the next twelve months, Member Title
Service, Inc. will begin marketing its services to other realtors, thereby
prospectively enhancing its revenues. The expanded title function will be
housed, primarily in existing RESN facilities, but it is anticipated that
additional investment will be needed to facilitate the title operation within
the offices and to create one or two additional "outside" locations.
Competition
-----------
In the past twelve months, the South Florida marketplace has mirrored the
trend towards large national franchise consolidation of companies. For example,
two major independent real estate brokerage firms in Dade and Broward Counties,
Jeanne Baker, Inc. and Braun & May Realty, Inc., were respectively acquired by
Prudential Realty and Better Homes and Gardens. RESN will seek to take advantage
of this opportunity to advance to one of the largest independently owned real
estate firms in the South Florida area.
Competition in the real estate brokerage industry is extremely intense
with respect to prospecting for home buyers, obtaining listings from prospective
home sellers as well as the recruiting of qualified sales agents. RESN will have
to compete with large national franchises as well as small local firms with
personal followings, including organizations which have similar structures and
programs as RESN. In particular, many of the larger national franchises have
significantly greater financial resources, name recognition, marketing
capabilities and administrative services available in support of their sales
associates than is currently available from RESN. However, management believes
that, due to the circumstance that RESN is locally owned and managed, it is
attractive to sales associates who may not wish to have policies established by
large multi-state organizations, as well as to seller and buyers who prefer to
work with a company that is more responsive to the needs of the local market.
In addition, due to the circumstance that RESN, as an independent and
non-franchise company, does not charge its associates with a franchise fee,
management believes that might prove more attractive to sales associates seeking
to retain a higher percentage of their commissions. The savings of the franchise
fee for associates also affords them more funds to invest in marketing and
advertising. Similarly, RESN will also experience intense competition from
significantly larger national and local mortgage banking and brokerage firms and
title insurance companies in this phase of its operations. There can be no
assurance that RESN will be able to actively compete in any of the markets it
operates or in any of the phases of its activities as a result of its limited
financial and other resources required to successfully engage in such
operations.
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<PAGE>
Regulation
----------
The mortgage loan origination operations of The Financial Group are
subject to the rules and regulations of the Federal Housing Administration, the
Veterans Administration or state regulatory authorities with respect to
originating, processing, underwriting, selling and servicing residential
mortgage loans. In addition, there are other federal and state statutes and
regulations affecting such activities. These rules and regulations, among other
things, impose licensing obligations, establish eligibility criteria, prohibit
discrimination, provide for inspections and appraisals of properties, require
credit reports on prospective borrowers, regulate payment features and, in some
instances, fix maximum interest rates, fees and loan amounts. Failure to comply
with these requirements can lead to a loss of approved status, demands for
indemnification or loan repurchases, litigation or administrative enforcement
actions. There can be no assurance that The Financial Group's operations can
obtain full compliance with current laws, rules and regulations or any more
restrictive laws, rules and regulations which may be adopted in the future which
could make compliance more difficult, more costly or which may limit or restrict
the amount of interest and fees that may be earned or charged on mortgage loans
originated, serviced or purchased by The Financial Group.
Litigation
----------
The Company and RESN are party defendants in JALMARK REALTY, INC. AND
JALMARK EAST REALTY, INC., PLAINTIFFS, VS. INTERNATIONAL STANDARDS GROUP
LIMITED, INC., REAL ESTATE SERVICES NETWORK HOLDING CORP. F/K/A MEMBERSHIP
REALTY HOLDING CORP., AND FRANCESCO MORELLO, DEFENDANTS, Case No. 96 13602-21.
On or about October 2, 1996, Jalmark Realty, Inc., an involuntarily dissolved
Florida Corporation, and Jalmark East Realty, Inc., a Florida corporation
(collectively, the "Plaintiffs"), filed a Complaint in the Circuit Court of the
17th Judicial Circuit in and for Broward County, Florida, against the Company,
Real Estate Services Network Holding Corp., f/k/a Membership Realty Holding
Corp., and Mr. Francesco Morello, an officer of the latter, (collectively, the
"Defendants"). The suit relates to an alleged breach of a 1995 agreement
pursuant to which RESN had allegedly agreed to purchase the real estate
brokerage business of Jalmark Realty, Inc. for $250,000. In addition to the
breach of contract count, the Complaint alleges numerous other counts,
including, but not limited to, for fraudulent misrepresentations, tortious
interference with business relationship, defamation and violations of Florida
real estate laws. The Plaintiffs have alleged damages in excess of $15,000,
exclusive of interest and costs, and have reserved the right to amend the
Complaint to seek punitive damages. The Defendants have filed a motion to
dismiss the Complaint for failure to state a cause of action. In addition, the
33
<PAGE>
Company has filed a separate motion to dismiss the Complaint for failure to
state a cause of action on the basis that the Complaint fails to allege that the
Company, or its officers, directors, employees or agents, undertook any
affirmative action to cause harm to the Plaintiffs. The motions to dismiss are
set for hearing in early February 1997. At the present time, no discovery has
been conducted in this case. The Company and RESN intend to vigorously defend
against the Complaint.
On November 21, 1995, RESN entered into an agreement to purchase all of
the voting stock of U.S. Mortgage Network Corp., a Florida corporation, and upon
consummation of that agreement, USM became a wholly-owned subsidiary of RESN. At
the time of the stock purchase, USM conducted a mortgage banking business and
was involved in the origination, purchase and sale of residential mortgage
loans. On March 14, 1996, the Company and RESN entered into an agreement with
USM and its principal stockholders pursuant to which RESN rescinded the stock
purchase agreement and returned the voting stock of USM to the principals of
USM. Following the consummation of the stock purchase agreement and prior to the
consummation of the rescission agreement, upon information and belief, USM
allegedly originated and sold defective mortgage loans, violated federal laws
relating to the origination of mortgage loans, and converted third party funds
and trust funds for its benefit or the direct or indirect benefit of its
principals. From time to time, the Company and RESN have been contacted by third
parties regarding such parties' relationships with USM, and in some instances,
the Company and RESN have been threatened with litigation as a result of their
prior indirect and direct ownership of the stock of USM, including the following
matters:
FIRST STATE BANK MOULTON, TEXAS AND FIRST STATE BANK BREMOND, TEXAS
- CALVERT BRANCH. On January 15, 1996, USM entered into a Mortgage
Purchase Agreement with First State Bank Moulton, Texas ("FSB Moulton"),
and on February 22, 1996, USM entered into a Mortgage Purchase Agreement
with First State Bank Bremond, Texas - Calvert Branch ("FSB Bremond").
Pursuant to the Mortgage Purchase Agreements, USM sold mortgage loans to
FSB Moulton and FSB Bremond. Subsequent to the rescission agreement
described above, each of FSB Moulton and FSB Bremond alleged various
defaults and breaches by USM under the Mortgage Purchase Agreements and,
in connection therewith, threatened litigation against the Company and
RESN. On or about August 7, 1996, FSB Moulton and FSB Bremond entered into
Settlement Agreements with The Financial Group, Inc., a wholly-owned
subsidiary of RESN ("TFG"), to resolve all disputes between RESN and the
Company and FSB Moulton and FSB Bremond. Pursuant to the terms of the
Settlement Agreements, the Company and RESN were released from any and all
claims that each of FSB Moulton and FSB Bremond might have had against
them in connection with its relationship with USM.
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<PAGE>
In addition, as to FSB Moulton, TFG (i) paid FSB Moulton approximately
$43,500 on August 7, 1996, (ii) executed a promissory note in favor of FSB
Moulton in the amount of approximately $102,000 and (iii) agreed to
indemnify FSB Moulton against potential market shortages on the sale of
eight (8) loans. As to FSB Bremond, TFG (i) paid FSB Bremond approximately
$1,400 on August 7, 1996, (ii) executed a promissory note in favor of FSB
Bremond in the amount of approximately $10,400, and (iii) agreed to
indemnify FSB Bremond against potential market shortages on the sale of
four (4) loans. Each of the promissory notes provides for monthly payments
and is due and payable in full on August 7, 1997. The Company believes
that it has performed, and continues to perform, all obligations under the
Settlement Agreements and has been released from any liability thereunder
by FSB Moulton.
PRINCAP MORTGAGE WAREHOUSE, INC. On August 23, 1995, USM entered
into a Mortgage Warehouse and Security Agreement ("Warehouse Agreement")
with Princap Mortgage Warehouse, Inc ("Princap"). Pursuant to the
Warehouse Agreement, Princap loaned monies to USM for the origination of
residential mortgage loans. Subsequent to the rescission agreement
described above, Princap alleged various defaults and breaches by USM
under the Warehouse Agreement and, in connection therewith, threatened
litigation against the Company and RESN. On or about October 31, 1996, the
Company and RESN reached a settlement with Princap. Pursuant to the terms
of the settlement, (i) Princap extended a warehouse line of credit to TFG
in the amount of $12.0 million, (ii) TFG agreed to repurchase 78 mortgage
loans in the aggregate amount of approximately $7.0 million and resell
those loans in the market, and to execute a promissory note in favor of
Princap as to any deficiencies on the sale of those loans, (iii) TFG
executed a promissory note in favor of Princap in the amount of
approximately $148,000 for losses incurred by Princap on the sale of other
defective loans, and (iv) Princap executed a release in favor of the
Company and RESN. TFG maintains that it has not yet sold the 78 mortgage
loans described above.
HOMESIDE LENDINGS, INC. On November 15, 1995, USM and BancBoston
Mortgage Corporation, now known as HomeSide Lending, Inc. ("HomeSide"),
entered into a Correspondent Loan Purchase Agreement (the "HomeSide
Agreement"), pursuant to which HomeSide agreed to purchase qualifying
mortgage loans from USM. The Company also executed the HomeSide Agreement
and agreed to become a guarantor of the obligations of USM thereunder. In
November 1996, HomeSide notified the Company of the following alleged
defaults of USM under the Homeside Agreement: (1) the failure of USM to
35
<PAGE>
pay FHA MIP fees and VA funding fees in the total amount of approximately
$24,000, which monies were received by USM at the closing of the mortgage
loans in question; (2) the sale by USM to HomeSide of seven mortgage loans
totalling approximately $1.3 million which violated the representations
and warranties under the HomeSide Agreement; and (3) the failure of USM to
turn over repair and remodeling funds totalling approximately $59,000,
which monies were received by USM at the closing of the mortgage loans in
question. HomeSide has made written demand on the Company, in its capacity
as guarantor, to pay over the amount of approximately $1.4 million and
receive back the aforementioned mortgage loans as described above. The
Company is presently evaluating this situation and has requested further
documentation from HomeSide to verify such claims.
REPUBLIC MORTGAGE CORPORATION/THE PRUDENTIAL HOME MORTGAGE COMPANY,
INC. In December 1995, USM sold and assigned 98 mortgage loans under the
FHA 203(K) program (the "203K Loans") to Republic Mortgage Corporation
("Republic") for approximately $6.3 million. The 203K loans were made to
Interdenominational Brotherhood, Inc and secured by real property located
In Marietta, Georgia. Upon information and belief, Republic subsequently
sold and assigned the 203K Loans to The Prudential Home Mortgage Company,
Inc. ("PHMC"). The Company is in receipt of a written demand made by
Republic against USM to repurchase the 203K Loans based on numerous
alleged defaults by USM including, but not limited to, breaches of the
representations and warranties made by USM in the sale of the 203K Loans.
The Company has also received a written demand for repurchase from PHMC.
The Company is presently evaluating this situation and intends to
vigorously defend against any claims made by Republic or PHMC in this
matter.
On July 16, 1996, RESN entered into an agreement to purchase all of the
voting stock of TFG from John Barbato and Barbara Bodner (collectively,
"Barbato"), and upon consummation of that agreement, TFG became a wholly-owned
subsidiary of RESN. At the time of purchase, TFG conducted a mortgage banking
business and was involved in the origination, purchase and sale of residential
mortgage loans. TFG presently continues to operate a mortgage banking business.
As part of the stock purchase transaction, TFG entered into an agreement with
Barbato to allow them to operate a net branch and originate residential mortgage
loans under TFG's regulatory licenses and approvals. On December 17, 1996, TFG
received a letter from counsel to Barbato which alleged numerous breaches,
defaults and misrepresentations by TFG in connection with the net branch
operation. Barbato has proposed a compromise pursuant to which (i) TFG would pay
approximately $6,400 of accounting fees and computer conversion costs allegedly
incurred by Barbato, (ii) TFG would waive prior advances to Barbato in the
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<PAGE>
amount of approximately $12,000 and (iii) the parties would execute mutual
releases of all obligations between the parties. TFG disputes those allegations
and intends to vigorously defend against these claims.
On July 1, 1995, the Company executed a Convertible Promissory Note (the
"Carlsen Note") in the original principal amount of $956,250.00 in favor of
Christian E. Carlsen, as Trustee under a Land Trust Agreement dated September
19, 1992 ("Carlsen"). The Carlsen Note matured on December 31, 1996, and remains
unpaid. On January 6, 1997, the Company received written Notice of default from
Carlsen as to the payment of principal and interest. The Company is evaluating
certain of the circumstances concerning the initial incurrence of the obligation
and expects to commence negotiations concerning the Carlsen Note with Carlsen in
the proximate future. In the absence of settlement, the Company expects Carlsen
to file suit to collect on the Carlsen Note.
EMPLOYEES
- ---------
As of September 30, 1996, the Company employed a total of 141 full time
employees including 6 executive officers and 122 administrative persons, as well
as 13 auditors located at various branch facilities of FSGI.
ITEM 2. DESCRIPTION OF PROPERTIES
-------------------------
The Company's executive offices are located at 3200 North Military Trail,
Suite 300, Boca Raton, Florida 33431. These premises consist of approximately
7,700 square feet of space. In June 1995, the Company purchased this office
condominium at a purchase price of $636,000 which included $50,000 in cash, the
issuance of 200,000 shares of the Company's Common Stock and a wrap-around
mortgage totalling $520,000. At September 30, 1996, the principal balance
remaining was $329,475. As described above, the Company owns a 660,551 square
foot commercial warehouse facility in Mount Vernon, Ohio on a 61-acre site.
The Company, through its FSGI subsidiary, also has established branch facilities
at (i) 5075 Cascade Road, Grand Rapids, Michigan 49546 consisting of 592 square
feet of space under a lease agreement for a term of 48 months concluding
December 31, 2001 at a base rental of $690.66 per month; (ii) at 1654 South
King Street, Honolulu, Hawaii 96826 consisting of approximately 150 square
feet of space for a term of 12 months concluding March 31, 1996, at a base
rental of $312.50 per month; and (iii) at 3615 Newburg Road, Louisville,
Kentucky 40218 consisting of approximately 597 square feet of space for a term
of 12 months concluding October 1997, at a base rental of $398 per month.
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RESN's corporate offices are located at 3200 North Military Trail, Third
Floor, Boca Raton, Florida 33431. RESN occupies space that is owned by the
Company at no cost to RESN. The Fort Lauderdale office, for 6,000 square feet,
has a lease term extending through June 30, 1999 at a lease payment plus taxes
of $6,815.99 plus annual adjustments and common area maintenance charges. An
option to purchase the building is also included in the Fort Lauderdale lease.
RESN's office in Hollywood has a lease term of 72 months concluding on
September 30, 2002 for 4,390 square feet at a base rent of $4,320.05. The 1,390
square foot space at Lauderdale-By- The-Sea is leased at a base rent of $1,378
with annual increases of $100 per month for a term of 36 months. This lease was
assumed under the purchase and expires in December 1997 with an additional
option for five years at $1,400 per month with annual increases not to exceed
five per cent per year. One of the offices in Pembroke Pines is an agreement for
1,320 square feet at a base rent of $1,301.63 per month until March 1997. The
other Pembroke Pines office, for approximately 1,600 square feet, has lease term
extending through February 1999 at a base rent of $2,637.61 per month. The
current lease expires in April 1997. RESN's Coral Springs office lease is for
6,140 square feet at a base rent of $6,815.94, and expires on June 30, 2001 with
an additional option for six years at a cost adjusted by a pricing index. RESN's
second office in Boca Raton is 2,950 square feet at a base rate of $3,765.45
until November 1999. The Bal Harbor office lease is for approximately 1,700
square feet at a base rent of $2,300.00 and expires on November 30, 2005. The
Hallandale office is 1,440 square feet at a base rent of $1,484.00 and expires
on October 14, 2000. The Boca Raton beach office is for approximately 2,400
square feet at a base rent of $1,200.00 and expires on September 31, 1997.
The Financial Group's corporate office is located at 3200 North Military
Trail, Suite 110, Boca Raton, Florida. The lease agreement is for 1,700 square
feet at a base rate of $1,967.67 for term ending in June 2000.
TWT's corporate offices are located at 1001 Fannin, Suite 300, Houston,
Texas 77002. The lease agreement for 27,641 square feet is for a term beginning
February 16, 1995 and concluding on March 31, 2000. The lease provides for a
base rent of $7,923.75 per month plus operating expenses estimated to be
$14,764.90 per month adjusted yearly. The lease allows for termination after the
36 months with no penalty.
TWT leases additional office space located at 16416 Northchase Drive,
Suite 290, Houston, Texas 77060. The lease agreement for 6,060 square feet is
for a term beginning February 1, 1994 and concluding on January 31, 1999 at a
base rent of $4,042.72 plus operating expenses escalation of $332.00 per month.
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TWT's Atlanta switch site is located at 3525 Piedmont Road, N.E., Suite
515, Two Piedmont Center, Atlanta, Georgia 30305. The lease agreement for 1,445
square feet is for a term beginning June 1, 1994 and concluding on May 31, 1999
at a fixed rent of $1,505.00 per month. TWT's Chicago switch site is located at
233 South Wacker Drive, Suite 2100, Chicago, Illinois 60606. The lease agreement
is for a term beginning October 15, 1994 and concluding on October 15, 1999. The
rent is based at $250 per rack, and the current monthly charge is $1,750.00.
TWT's Houston switch site is located at 500 Dallas, Houston, Texas 77002. The
lease agreement is for a term beginning June 23, 1992 and concluding on June 22,
1997. The rent is $1,500 per month. TWT's New York switch site is located at Two
World Trade Center, New York, New York. The lease agreement is for a term
beginning March 21, 1994 and concluding on March 20, 1997. The space available
is for not more than seven racks at $250.00 per rack. The current rent is
$2,000.00 per month. TWT's Los Angeles switch site is located 700 South Flower,
Los Angles, California 90017. The lease agreement is for a term beginning
November 1, 1995 and concluding October 31, 2000. The rent is $500.00 for the
first rack and $275.00 per rack for each additional rack per month. The current
rent is $2,425 per month.
ITEM 3. LEGAL PROCEEDINGS
-----------------
Other than the litigation, claims and proceedings discussed in
"Description of Business," the Company is unaware of any other matters required
to be reported under this item.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
---------------------------------------------------
Not applicable.
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PART II
ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
--------------------------------------------------------
The Company's Common Stock is traded on NASDAQ under the symbol "TWTI." On
October 15, 1996, the Company amended its Certificate of Incorporation and
undertook a one-for-fifteen (1:15) reverse split of its outstanding Common
Stock. The following table sets forth the high and low bid quotations for the
Common Stock since the commencement of trading and for the periods indicated.
These quotations reflect prices between dealers, do not include retail mark-ups,
mark-downs or commission and may not necessarily represent actual transactions.
High Low
---- ---
December 22 - December 31, 1992 $ 4.00 $1.00
January 1 - March 31, 1993 $ 4.50 $2.75
April 1 - June 30, 1993 $ 4.38 $2.38
July 1 - September 30, 1993 $ 2.50 $1.00
October 1 - December 31, 1993 $ 3.06 $1.75
January 1 - March 31, 1994 $ 4.16 $1.25
April 1 - June 30, 1994 $ 3.81 $1.75
July 1 - September 30, 1994 $ 3.56 $1.56
October 1 - December 31, 1994 $ 1.18 $0.50
January 1 - March 31, 1995 $ 1.00 $0.32
April 1 - June 30, 1995 $ 1.19 $0.38
July 1 - September 30, 1995 $ 1.29 $0.75
October 1 - December 31, 1995 $ 1.81 $0.66
January 1 - March 31, 1996 $ 1.56 $0.50
April 1 - June 30, 1996 $ 1.53 $0.56
July 1 - September 30, 1996 $ 1.16 $0.47
October 1 - October 14, 1996 $ 0.53 $0.41
October 15 - December 31, 1996 $10.05 $4.75
On January 9, 1997, the closing bid price for the Common Stock was $5.19.
As of December 31, 1996, the approximate number of holders of the
Company's Common Stock was 7,286.
The Company has never paid cash dividends on its Common Stock. The Company
presently intends to retain future earnings, if any, to finance the expansion of
its business and does not anticipate that any cash dividends will be paid in the
foreseeable future. Future dividend policy will depend on the Company's
earnings, capital requirements, expansion plans, financial condition and other
relevant factors.
The Company is obligated to pay semi-annual cumulative dividends of 8% or
$58,400 on an annual basis on the 73,000 shares of its Series A Preferred Stock
40
<PAGE>
presently outstanding. The Company is obligated to pay monthly cumulative
dividends of 2.7% or $452,000 until the underlying shares of Common Stock are
registered under the Securities Act of 1933 on the 178,500 shares of its Series
M Preferred Stock presently outstanding.
Pursuant to the Company's Convertible Note dated December 9, 1996 in favor
of GFL Advantage Fund Limited, the Company is precluded from paying dividends on
its capital stock during the term that such note remains outstanding.
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
---------------------------------------------------------
YEAR ENDED SEPTEMBER 30, 1996 COMPARED TO YEAR ENDED SEPTEMBER 30, 1995
- -----------------------------------------------------------------------
Results of Operations
---------------------
Revenue
-------
Twelve Months Ended Sept 30,
----------------------------
1996 1995
---- ----
Telecommunications(1) $15,814,779 $ -
Real Estate 4,934,927 3,236,571
Auditing Services 835,168 778,515
----------- -----------
Total Revenue $21,584,874 $ 4,015,086
=========== ===========
Gross Profit
------------
Twelve Months Ended Sept 30,
----------------------------
1996 1995
---- ----
Telecommunications(1) $ 1,628,424 $ -
Real Estate 708,837 487,474
Auditing Services 164,877 126,083
----------- -----------
Total Gross Profit $ 2,502,138 $ 613,557
=========== ===========
Selling, General and
--------------------
Administration Expenses
-----------------------
Twelve Months Ended Sept 30,
----------------------------
1996 1995
---- ----
Telecommunications(1) $ 3,222,625 $ -
Real Estate 1,920,189 1,262,028
Auditing Services 424,812 322,753
Corporate 4,635,756 1,988,474
----------- -----------
Total S, G & A Expenses $10,203,382 $ 3,573,255
=========== ===========
41
<PAGE>
Net Loss
-----------------
from Operations
---------------
Twelve Months Ended Sept 30,
----------------------------
1996 1995
---- ----
Telecommunications(1) $ (1,825,232) $ -
Real Estate (1,385,470) (858,558)
Auditing Services (259,935) (224,323)
Corporate (6,882,917) (2,929,375)
------------ ------------
Total Net Loss from Ops $(10,353,554) $(4,012,256)
============= ============
Net Loss
Twelve Months Ended Sept 30,
1996 1995
---- ----
Telecommunications(1) $(3,244,545) $ -
Real Estate (1,452,166) (1,539,429)
Auditing Services (241,655) (226,607)
Corporate (7,186,731) (2,911,538)
------------ ------------
Total Net Loss $(12,125,097) $(4,677,574)
============= ============
For the year ended September 30, 1996, the Company had total consolidated
revenue of $21,584,874 in contrast to $4,015,086 for the year ended September
30, 1995. The primary reason for the increase in revenues was due to the
acquisition of the telecommunications (TWT) division which provided an
additional $15,800,000 in revenue and the expansion and addition of new offices
of the real estate division whose revenues increased by $1,700,000. The
Company's consolidated net loss for the year ended September 30, 1996 was
$12,125,097 as compared to $4,677,574 at September 30, 1995. The fiscal 1996 net
loss includes certain expenses which are not expected to continue relating to
the telecommunications segment, including settlements with government agencies
of $930,000, additional costs incurred with the phaseout of the "box business"
of $1,300,000 in termination costs relating to marketing programs and
approximately $2,000,000 in customer allowances. The Company has also written
off an additional $700,000 of goodwill and $650,000 of costs of the aborted
mortgage company acquisition, all related to the real estate division. Other
charges included costs incurred for the first time in 1996 such as consulting
costs of $1,400,000 and amortization of goodwill relating to the TWT acquisition
of $730,000. Other charges also include $200,000 for other aborted proposed
acquisitions. The remaining increase in the loss is attributable primarily to
expanding the real estate division.
For the year ended September 30, 1996, the Company had a gross profit of
$2,502,138 compared to a gross profit of $613,557 for the year ended September
30, 1995. This increase was attributable to the aforementioned growth in
revenues due to the telecommunications acquisition and the real estate
expansion. For the year ended September 30, 1996, the Company had a loss from
operations of $10,353,554 as compared to a loss from operations for the year
ended September 30, 1996 of $4,012,256.
42
<PAGE>
Total other expenses increased to $1,771,543 from $665,318 for the year
ended September 30, 1996 as compared to the year ended September 30, 1995. This
was due primarily to the accrual of legal settlements and the interest paid to
the billing company for advances on receivables in the telecommunications
segment.
During fiscal 1997 the Company expects to achieve profitability through the
growth of its telecommunications segment and by increasing revenues and
controlling costs. The new marketing plans which have been developed and are
being implemented will target new areas of concentration and attract new
business based on the addition of switches and development of marketing programs
focused on the residential segment. Management expects to open the foreign
markets for both the long distance services and N'Touch with recent contracts
being completed in South Africa, Puerto Rico, Venezuela, the Caribbean and a
joint venture involving the European markets which are expected to contribute to
the profit margins during the current fiscal year.
In addition, the installation and operation of the new switch sites will
substantially lower the costs and increase profit margins. As mentioned above,
the Company continues to evaluate the real estate and audit operations. The real
estate division has acquired a mortgage banking company and plans to expand
those operations within the second quarter of fiscal 1997. Additionally, the
real estate branches have begun new marketing programs to attract additional
member agents. With these expansions and cost cutting measures which are also
being implemented, the real estate division should be able to significantly
curtail its losses.
Liquidity and Capital Resources
-------------------------------
At September 30, 1996, the Company had operating cash on hand of
$1,358,414 as compared to cash on hand at September 30, 1995 of $672,651. At
September 30, 1996, the Company had a negative working capital ratio of current
assets to current liabilities of approximately .76. The long-term portion of
debt at September 30, 1996 consisted of the mortgage note payable to Bank One,
Mansfield, relating to the Mount Vernon property ($406,785), a note payable on
the undeveloped Florida land ($707,450), the mortgage note payable to Boca First
National Bank secured by the corporate office condo ($322,440), and the
long-term portion of five capital leases for switches located in Los Angeles,
Atlanta, New York, Chicago and Houston.
Net cash used in operating activities was approximately $10,000,000 and
$2,400,000 for the years ended September 30, 1996 and 1995, respectively. The
cash used in operations of the company was primarily to fund the operating
losses. Such losses are described above.
Net cash used in investing activities was $824,000 and $118,000 for the
years ended September 30, 1996 and 1995, respectively. This is primarily
attributable to expenses relating to the capital expenses associated with the
real estate expansions and renovations in both 1996 and 1995.
Net cash provided by financing activities was $11,162,000 (net of payment
of debt of $3,500,000 and dividends paid $2,400,000) and $2,713,000 for the
years ended September 30, 1996 and 1995, respectively. The increase in 1996 was
primarily attributable to the issuance of the Company's Common Stock and/or
convertible Preferred Stock in private placement offerings and/or sales to
accredited offshore investors pursuant to Regulation S. In 1995, the increase
was attributable primarily to the receipt of a subscription receivable of
$1,500,000 and the sale of preferred stock for proceeds of $1,000,000.
During the fiscal year ended September 30, 1996, the Company had financed
its expansion and operations with equity funding. The Company received net
proceeds of $17,090,871 through the issuance of 385,229 shares of its Common
Stock and 1,970 900 shares of Preferred Stock pursuant to Regulation S. The
1,970,900 shares of Preferred Stock have subsequently been converted to
1,608,716 shares of Common Stock. Proceeds were used for the dividend
requirement ($2,300,000) and retirement of debt ($2,100,000 related to the
acquisition of TWT, the opening and renovation/expansion of several real estate
offices.
43
<PAGE>
As previously announced, the Company's business focus has been
transforming from credit union auditing and related services and real
estate/mortgage brokerage services to telecommunications operations. TWT has
expanded their switch sites to eight and expects to complete installation of two
additional switch sites in Seattle and Washington, DC, by the end of the second
quarter in fiscal 1997.
In November 1996, The Company acquired 100 percent of the outstanding
stock of Southwestern Telecom, Inc. for $1,023,765 in cash. The Company has
formulated a nationwide expansion program to make Southwestern Telecom a leader
in the casual-user direct-dial market by expanding on a geographic basis to
where TWT already has an existing network to better utilize TWT's origination
and termination facilities and to use the tested marketing techniques of
Southwestern Telecom. It is anticipated to take at least eighteen months to
complete the nationwide expansion program.
In December 1996, the Company acquired 100 percent of the outstanding
shares of NETTouch Communications, Inc. from Telecommunications Resources, Inc.,
("TRI"), of Dallas, Texas. The Company paid to the principal shareholders of
NETTouch $2,400,000 and issued a Common Stock Purchase Warrant to acquire shares
of the Company's Common Stock at an exercise price of $7.75 per share. In
addition, the Company is obligated to make additional payments to such
shareholders up to an aggregate of $4,800,000 based on NETTouch achieving
incremental revenues, as defined. The actual number of Warrants to be received
is predicated on the level of revenues periodically obtained by NETTouch during
the 1997 calendar year. TRI is a software developer and provider of
telecommunications platforms which converge technologies and telecommunications
services such as worldwide long distance, voice mail, virtual fax, travel card,
wireless messaging notification, enhanced "follow me" features, conference
calling, paging, internet access, text-to-screen e-mail, website development and
hosting, and the convenience of single 1-800/888 numbers.
Subsequent to year end, the Company issued 203,700 shares of its preferred
stock pursuant to Regulation D and Regulation S. A portion of the net proceeds
of $17,551,135 have been used for acquisition and expansions, expenses connected
with the addition of new switches, and the Company's option to exercise its
redemption rights on prior fundings. Additionally, through December 31, 1996,
the Company has purchased 1,531,866 shares of its common stock in a buyback
program at a total cost of $10,409,330.
The Company's plans for growth include acquisitions of other
telecommunications companies as well as the addition of new technology and
services. Several new switches are planned to facilitate the future growth and
enhance the profit margins on current business, and the Company will be expected
to pay the remaining legal settlements which have been accrued at September 30,
1996. To achieve this growth and the necessary working capital, the Company will
require additional funding. The Company has received preliminary commitments
from several institutional investors and institutions to arrange funding of an
additional $40 million to $50 million. While the Company has reason to expect
the completion of these arrangements, no assurances can be given that such funds
will be provided.
In view of the acquisition of TWT and the focus of the Company's
operations in the telecommunications industry, the Company plans to evaluate in
the course of the current fiscal year whether the operations of the Company's
FSGI and RESN subsidiaries are complementary. In the event management determines
that these operations are not sufficiently compatible and synergetic, the
Company will consider the sale or other disposition of these subsidiaries or
their operations.
ITEM 7. FINANCIAL STATEMENTS
--------------------
The financial statements and supplementary data are included under Item
13(a)(1) and (2) of this Report.
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
--------------------------------------------------------------------
FINANCIAL DISCLOSURE
--------------------
Not Applicable.
44
<PAGE>
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS;
--------------------------------------------------------------------
COMPLIANCE UNDER SECTION 16(a) OF THE EXCHANGE ACT
--------------------------------------------------
The following table sets forth the names, ages and positions with the
Company of the executive officers and directors of the Company. Directors will
be elected at the Company's annual meeting of stockholders and serve for one
year or until their successors are elected and qualify. Officers are elected by
the Board and their terms of office are, except to the extent governed by
employment contract, at the discretion of the Board.
Name Position Age
---- -------- ---
Joseph L. Lents Chairman of the Board, and 51
Chief Executive Officer
Donald W. Booth President and Director 43
Arnold Salinas Vice President/Sales and 44
Marketing of Total World
Telecom and Director
C. Denning Loveridge Senior Vice President/ 53
Property Division and
Director of the Company
John Loveridge Director 50
Loretta Murphy Vice President of Finance, 56
Chief Financial Officer
and Secretary
Ronald Berry Controller of Total World 47
Telecom and Treasurer of
the Company
JOSEPH L. LENTS has been a Director of the Company since January 15, 1991
and Chairman of the Board, President and Chief Executive Officer since March 29,
1991. Mr. Lents was the founder, Chairman of the Board, President and Chief
Executive Officer of FSGI since November 1, 1989. Mr. Lents is also co-founder
of Nearman & Lents, CPAs which was organized in May 1979. Mr. Lents retired as
an active partner of Nearman & Lents on October 17, 1989. Between July 1, 1974
and June 30, 1975, Mr. Lents worked with Deloitte Haskins & Sells, CPAs in
Miami, Florida. Prior thereto commencing in 1970, Mr. Lents was a commissioned
officer in the United States Air Force and subsequently, beginning 1973, was a
45
<PAGE>
civilian employee of the Air Force Audit Agency until his resignation in August
1979, at which time he was in charge of the audit function at Homestead Air
Force Base in Homestead, Florida. In addition, during this time between January
1970 and May 1979, Mr. Lents was a credit union volunteer providing services to
supervisory committees of three credit unions. Mr. Lents served as a member of
the Credit Unions Committee for the AICPA which serves as a link between the
AICPA in Washington, D.C. and the credit union industry. Mr. Lents also
developed the concept and co-founded the National Association of Credit Union
Supervisory and Auditing Committees ("NACUSAC") which is the only national
organization devoted entirely to supervisory committees and which includes a
membership of over 200 credit unions. Mr. Lents was formerly responsible for the
Supervisory Committee conference conducted annually by Nearman & Lents and which
is also sponsored by NACUSAC, which is generally attended by in excess of 400
supervisory committee members from throughout the United States. Mr. Lents is a
frequent contributor to various national magazines and news publications
concerning credit union auditing and Supervisory Committee duties and
responsibilities and regularly participates at credit union conferences and
meetings.
DONALD W. BOOTH has been a Director of the Company since August 2, 1996
and President of the Company since November 1, 1996. Prior thereto, Mr. Booth
founded Total World Telecom, Inc., Houston, Texas ("TWT") in 1991 and was its
president until TWT was acquired by the Company in May 1996. Between 1988 and
1991 Mr. Booth was Vice President of Sales for Cypress Telecommunications, Inc.,
Houston, Texas. From 1986 to 1988, Mr. Booth was a District Manager for
Metromedia Long Distance, Houston, Texas, and between 1981 and 1985, he was a
Sales Manager for S.B.S. Skyline, Houston, Texas, a wholly-owned subsidiary of
IBM. Mr. Booth has been in the telecommunications business for more than 15
years, is a graduate from Graceland College, received an MBA from Pepperdine
University and a J.D. degree from South Texas College of Law.
ARNOLD SALINAS has been a Director of the Company since August 2, 1996 and
Executive Vice President of Sales and Marketing of Total World Telecom, Inc.,
Houston, Texas since July 1996. In 1993, Mr. Salinas co-founded and was
President of Global Communications Group, Inc., Dallas, Texas, a company that
provided telecommunications services to Eastern European countries. Global was
purchased by Sector Communications, Inc., Reston, Virginia, in 1996, and Mr.
Salinas continues to serve as member of its Board of Directors. Mr. Salinas has
more than 15 years of international and domestic telecommunications experience
with companies such as Sprint, MCI and AT&T.
46
<PAGE>
C. DENNING LOVERIDGE has been Senior Vice President-Property Division and
a Director of the Company since January 15, 1991. Prior thereto between January
1970 and the present, Mr. Loveridge has been engaged in land development
projects on behalf of his family and has managed his family's commercial real
estate investments. Mr. Loveridge is the brother of John Loveridge.
JOHN LOVERIDGE, a Director of the Company since September 1991, was
General Partner of Mount Vernon Distribution Center, Ltd., Mount Vernon, Ohio
from October 1987 through May 1991. Between 1983 and 1987, Mr. Loveridge worked
with Loveridge, Inc., a family owned business, acquiring real estate and other
investments in Melbourne, Florida. Prior to 1983, Mr. Loveridge worked with
other family members in purchasing coal, oil and gas properties in Kentucky and
Tennessee. Between 1969 and 1970, he owned and operated 40 oil and gas wells in
Oil City, Louisiana. Through much of the 1960's, Mr. Loveridge worked with other
Loveridge family members in developing 6,400 acres of farm land in Leesburg and
Belle Glade, Florida on behalf of family interests. Mr. Loveridge is the brother
of C. Denning Loveridge.
LORETTA MURPHY was elected Vice President, and Chief Financial Officer in
March 1993 and Secretary in May 1993. She has been employed by the Company since
December 1992. Ms. Murphy was employed in public practice in Rhode Island for
fifteen years working with small and medium size local Certified Public
Accounting firms. She was a member of the tax department in the Providence
office of Arthur Young before leaving Rhode Island to accept a position in Fort
Lauderdale, Florida, as controller for Crowley Financial Services, Inc., a
publicly traded company listed on NASDAQ. In 1990, she returned to public
practice as tax manager for a medium size local Certified Public Accounting firm
in Boca Raton, Florida. Ms. Murphy, who earned her degree in Accounting at
Bryant College, Smithfield, Rhode Island, is a Certified Public Accountant. She
is also a member of the American Institute of Certified Public Accountants, the
Rhode Island Society of Certified Public Accountants, and the Florida Society of
Certified Public Accountants.
RONALD BERRY has been selected as Treasurer of the Company pending
ratification of the Board of Directors and Mr. Berry has served as Controller of
Total World Telecom, Inc. since July 1, 1996. Prior to that, Mr. Berry was
self-employed with his own accounting firm for more than 10 years. Mr. Berry is
a Certified Public Accountant and has vast experience in accounting as well as
auditing in both the personal and corporate sectors.
47
<PAGE>
ITEM 10. EXECUTIVE COMPENSATION
----------------------
CASH COMPENSATION
- -----------------
Total cash compensation paid to all executive officers as a group for
services provided to the Company in all capacities during the year ended
September 30, 1996 aggregated to $381,000. Set forth below is a summary
compensation table in the tabular format specified in the applicable rules of
the Securities and Exchange Commission. As indicated, no officer of the Company
or any of its subsidiaries, except for Joseph L. Lents received total salary and
bonus which exceeded $100,000 during the periods reflected.
<TABLE>
<CAPTION>
Summary Compensation Table
--------------------------
Other All
Name and Annual Restricted Other
Principal Compen- Stock Options/ LTIP Compen-
Position Period Salary Bonus sation* Award(s) SARs(#) Payouts sation
-------- ------ ------ ----- ------- -------- ------- ------- ------
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Joseph Lents, 1996 $277,500 $ -0- $ 2,350 - 133,334 - $ -0-
Chairman 1995 250,000 5,000 2,350 - - - -0-
and CEO 1994 50,000 -0- 2,350 - 500,000 - -0-
_______________
*Personal use of Company vehicles.
</TABLE>
EMPLOYMENT AGREEMENTS
- ---------------------
On January 16, 1996, the Company entered into a five-year agreement with
Mr. Joseph L. Lents which provides a base salary of $250,000 per year and a
discretionary bonus as determined by the Company's Board of Directors. The
agreement also provides for increases in base salary based on executive salaries
in companies acquired. Mr. Lents is also entitled to receive standard health
benefits and will receive the use of a vehicle together with maintenance charges
for such vehicle during the term of his employment. Lease payments on such
vehicle currently amount to $549 per month. Mr. Lents will not receive any
retroactive compensation for the prior years in which he was not receiving his
salary.
On January 11, 1996, the Company entered into a three-year agreement with
Ms. Loretta Murphy which provides a base salary of $76,000 plus increases and
bonuses as determined by the Chief Executive Officer of the Company. Ms. Murphy
is also entitled to receive the standard benefits provided by the Company.
The Company is in the process of negotiating employment agreements with
executive management of TWT, including Messrs. Booth and Salinas.
48
<PAGE>
OPTION EXERCISES AND VALUES AT YEAR END
- ---------------------------------------
Aggregated Option/SAR Exercises in Last Fiscal Year
---------------------------------------------------
and FY-End Option/SAR Values
----------------------------
Value of
Number of Unexercised
Unexercised In-the-Money
Option/SARs Option/SARs
at FY-End (#) at FY-End
Shares
Acquired on Value Exercisable/ Exercisable/
Name Exercise (#) Realized Unexercisable Unexercisable
---- ------------ -------- ------------- -------------
Joseph L. Lents - - 300,000 -0-
The company has previously granted to members of its management and employees
options to purchase an aggregate of 1,253,495 shares of Common Stock of the
Company exercisable at prices ranging from $7.50 to $30.00.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
--------------------------------------------------------------
The following table sets forth Common Stock ownership as of December 27,
1996 with respect to (i) each person known to the Company to be the beneficial
owner of five (5%) percent or more of the Company's outstanding Common Stock,
(ii) each director of the Company and (iii) all executive officers and directors
of the Company as a group. This information as to beneficial ownership was
furnished to the Company by or on behalf of the persons named. Unless otherwise
indicated, the business address of each person listed is 3200 North Military
Trail, Suite 300, Boca Raton, Florida 33431. Information with respect to the
percent of class is based on 6,231,928 shares of the Company's Common Stock and
266,000 shares of Series M and O Voting Convertible Preferred Stock issued and
outstanding as of December 27, 1996.
Shares
Beneficially Percent
Name Owned(1) of Class
---- ------------ --------
Joseph L. Lents (2) 623,500 9.5%
C. Denning Loveridge(3) 175,633 2.7%
John Loveridge(4) 175,633 2.7%
Donald Booth(5) 777,549 12.5%
Arnold Salinas(6) 98,889 1.6%
Platina Technologies, Inc.(7) 595,556 9.5%
All executive officers and
directors as a group
(7 persons) 2,132,737 30.6%
49
<PAGE>
_________________
(1) Except as otherwise indicated in the footnotes below, each stockholder has
sole power to vote and dispose of all the shares of Common Stock listed
opposite his name.
(2) Mr. Lents is Chairman of the Board and Chief Executive Officer of the
Company. Includes 300,000 shares of Common Stock issuable upon exercise of
certain options by Mr. Lents, 4,633 shares of Common Stock acquired by a
retirement program established by Cheryl Lents, the wife of Mr. Lents, as
to which shares Mr. Lents disclaims beneficial ownership, and 21,667
shares of Common Stock acquired by Mr. Lents' children.
(3) Mr. C. Denning Loveridge is Senior Vice President and a Director of the
Company. Includes 166,667 shares of Common Stock issuable upon exercise of
certain options.
(4) Mr. John Loveridge is a Director of the Company and the brother of Mr. C.
Denning Loveridge. Includes 166,667 shares of Common Stock issuable upon
exercise of certain options.
(5) Mr. Booth is President and a Director of the Company and Chief Executive
Officer of TWT. Includes 93,337 shares placed in trust for Mr. Booth's
children.
(6) Mr. Salinas is Vice President of Marketing of TWT and a Director of the
Company.
(7) Platina Technologies, Inc. is a Delaware corporation with offices at 5630
Fairdale, Suite 4, Houston, Texas 77057.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
----------------------------------------------
TRANSACTIONS WITH MANAGEMENT AND OTHERS
- ---------------------------------------
During fiscal 1996, RESN acquired 29.63 acres of undeveloped land in
Melbourne, Florida. Currently,the property is zoned for commercial use. The
property was acquired from a stockholder who had previously purchased the
property from Mr. D.E. Loveridge, Trustee. Mr. D.E. Loveridge is the father of
Messrs. John and C. Denning Loveridge, directors of the Company. The purchase
price of $2,700,000 was paid by the issuance of 294,932 shares of the Company's
Common Stock and the assumption of a $707,450 note payable to the Florida
Conference of the Seventh Day Adventists. The note provides for payment of
interest only at 9 3/4% and matures at April 2001. Through a joint venture, RESN
plans to develop the land for commercial use and eventual sale. A current
appraisal values the land at between $2,600,000 and $3,000,000.
50
<PAGE>
On June 12, 1996, the Company consummated an Agreement and Plan of
Reorganization dated May 28, 1996 for the acquisition of all of the outstanding
capital stock of Total National Telecommunications, Inc. (d/b/a Total World
Telecom). Pursuant to the terms of the stock exchange, the shareholders of TWT
received shares of newly created Series M and Series N preferred stock of the
Company which are convertible into 1,983,333 shares of Common Stock of the
Company. The Series M and Series N Preferred Stock, established pursuant to the
exchange, carry a cumulative dividend of 2.7% per month of the stated value of
the preferred stock which the Company is required to pay until such time as the
Company's Registration Statement (after which the former TWT shareholders have
agreed not to sell more than 5% of their shares per month) relating to resale of
certain of the shares of Common Stock underlying the Series of Preferred Stock
is registered under the Securities Act of 1933. At the time the Agreement and
Plan of Reorganization was consummated on June 12, 1996, the Company advanced
$5,000,000 for the working capital needs of TWT. In addition the Company issued
35,000 shares of Series O Preferred Stock for employee compensation for past
service costs which are convertible into 233,333 shares of Common Stock of the
Company. The Company also issued 267,501 Series P Preferred Stock representing
shares issued in connection with future services. These shares are convertible
into Common Stock of the Company and have been recorded at the appraised market
value of common shares. Certain consultants received 250,000 shares of Series Q
Preferred Stock which are convertible into 1,111,109 shares of Common Stock of
the Company. Such shares have been valued at the appraised value and have been
charged to the cost of the acquisition. The Series O, Series P and Series Q
Preferred Stock have no registration rights.
In connection with the acquisition, Donald Booth and members of his family
received 55,400 shares of Series N Preferred Stock which were subsequently
converted into 443,333 shares of Common Stock. In addition, Mr. Booth received
167,499 shares of Series P Preferred Stock which were subsequently converted
into 744,444 shares of Common Stock. Mr. Arnold Salinas, a consultant of TWT at
the time of the acquisition, received 20,000 shares of Series Q Preferred Stock
which were subsequently converted into 88,889 shares of Common Stock. Mr.
Salinas subsequently was employed as an executive officer of TWT and a Director
of the Company. Mr. Ronald Berry received 3,500 shares of Series O Preferred
Stock which are convertible into 23,333 shares of Common Stock and do not carry
a dividend.
During the 12 month period ended September 30, 1996, the Company paid
commissions of $32,808 to Heartline, Inc. which is owned by Mr. Paul Booth, the
father of Mr. Donald Booth. Heartline, Inc. is the billing and collection agency
for all amounts billed through Southwestern Bell. Heartline, Inc. is not related
to Heartline Communications, Inc. from which the Company acquired certain assets
in January 1995.
51
<PAGE>
Periodically, Mr. Joseph Lents has advanced funds to the Company for
working capital and other purposes. At September 30, 1995, the Company owed to
Mr. Lents on account of such advances $467,940. During the fiscal year, Mr.
Lents made further advances of $139,798 and had accrued interest and accrued
compensation of $81,276. During the 1996 fiscal year, the Company made payments
to Mr. Lents of $669,014 with the resulting balance due to Mr. Lents at year end
September 30, 1996 of $20,000. At December 31, 1996, such balance was $14,029.
ITEM 13. EXHIBITS, LIST AND REPORTS ON FORM 8-K
--------------------------------------
(a)(1) and (2) Financial Statements and Schedules
----------------------------------
The financial statements listed on the index to financial statements
on page F-1 are filed as part of this Form 10-KSB.
(b) Reports on Form 8-K
-------------------
The Company filed Form 8-K reports dated December 21, 1995 (item 2
and item 5), February 21, 1996 (item 5), May 28, 1996 (item 5), June 11, 1996
(item 5), October 29, 1996 (item 1 and item 5) and November 8, 1996 (item 5).
(c) Exhibits
--------
Exhibit
Number Description of Document
- ------ -----------------------
3.01 Articles of Incorporation1
3.01(a) Certificate of Amendment to Certificate of Incorporation(5)
3.01(b) Certificate of Amendment to Certificate of Incorporation(7)
3.01(c) Certificate of Amendment to Certificate of Incorporation(24)
3.02 By-Laws(5)
4.01 Specimen of Common Stock certificate(1)
10.02 Warrant Agent Agreement(1)
10.03 Line of Credit Agreement(1)
10.04 Stock Purchase Agreement between Texas American Group, Inc.
and Daniel M. Boyar(2)
10.05 Stock Purchase Agreement for acquisition of Financial
Standards Group, Inc.(2)
10.06 Stock Purchase Agreements for acquisition of Mount Vernon
Distribution, Inc. and Eau Gallie Properties, Inc.(2)
10.06.1 Amendments to Stock Purchase Agreements referred to in Exhibit
10.06(7)
52
<PAGE>
10.07 Stock Purchase Agreement for acquisition of Bibbins & Rice
Electronics, Inc. and Rice Electronics,Inc.(3)
10.08 Investment Banking Consulting Agreement with H.D. Vest Invest-
ment Securities, Inc.(7)
10.09 Sales and Service Agreement with Corroon & Black Administra-
tive Services, Inc.(7)
10.10 Agreement with Arkansas Credit Union League and Service Corp-
oration(7)
10.11 Agreement with HCU Services Corporation (Hawaii)(7)
10.12 Agreement with KYCUL Services Incorporated (Kentucky)(7)
10.13 Agreement with League Services Corporation (Michigan)(7)
10.14 Selling Agent Agreement with Meridian Associates, Inc.(7)
10.15 Financial Consulting Agreement with Meridian Associates,
Inc.(7)
10.16 Lock-Up Agreement with Selling Security Holders(7)
10.17 Rescission Offer Responses(7)
10.18 Agreement with Computer Concepts Corp.(8)
10.19 Agreement with Greg Paige and Paige & Associates Corp.(9)
10.20 Agreements with Computer Concepts Corp.(13)
10.21 Agreement with Comstator, S. A.(13)
10.22 Agreement with Allan J. Ontai(10)
10.23 Letter of Agreement with Servicecorp (Indiana Credit Union
League)(13)
10.24 Agreement and Plan of Merger with Membership Realty Ltd., Inc.
and other parties described therein(10)
10.25 Agreement with Stenton Leigh Capital Corp.(10)
10.26 Agreement with Universal Solutions, Inc., Investor Resource
Services, Inc. and SMI Capital Corp.(12)
10.27 Amendment No. 1 to Agreement and Plan of Merger with Member-
ship Realty Ltd., Inc.(14)
10.28 Agreement with Computer Concepts Corp.(15)
10.29 Agreement and Plan of Merger with Elfworks, Inc.(16)
10.30 Stock Purchase Agreement and Assignments with Administracion
de Seguros, S.A.(17)
10.31 Letter of Intent to Purchase and Sell between Jalmark Realty,
Inc. and Membership Realty Holding Corp.(19)
10.32 Amendment No. 4 To Agreement and Plan of Merger with Member-
ship Realty Ltd., Inc.(20)
10.33 Agreement with JRL Acquisition, Inc.(20)
10.34 Financial Advisory and Consulting Agreement with Coleman and
Company(20)
10.35 Stock Purchase and Exchange Agreement with American Indemnity
Company Limited(21)
10.36 Stock Purchase Agreement with U.S. Mortgage Network Corp.(22)
10.37 Stock Purchase Agreement with Maraval & Associates(22)
53
<PAGE>
10.38 Stock Purchase and Exchange Agreement with American Indemnity
Company Limited and Global RE., Ltd.(23)
10.39 Agreement wit Real Estate Services Network Holding Corp., U.S.
Mortgage Network Corp.,Intervest, Inc. and Sidney A. Lewis(24)
10.40 Agreement with Total National Telecommunications, Inc.(25)
10.41 Agreement with Global RE., Ltd. and American Indemnity
Company, Ltd.(26)
10.42 Stock Purchase Agreement with Southwestern Telecom, Inc.(27)
10.43 Stock Purchase Agreement for the purchase of NETTouch
Communications, Inc. and Common Stock Purchase Warrant(28)
10.44 Note Purchase Agreement with GFL Advantage Fund Limited,
Registration Rights Agreement and Promissory Note(28)
16.01 Letter from Samson, Robbins & Associates to the Securities and
Exchange Commission(4)
16.02 Letter from Grau & Registrant to the Securities and Exchange
Commission(6)
16.03 Letter from Arthur Andersen & Co. to the Securities and
Exchange Commission(11)
16.04 Letter from Grant Thornton to the Securities and Exchange
Commission(18)
27 Financial Data Schedule (Electronic filing only)
(1)Incorporated by reference from the Registrant's Registration Statement,
as amended, on Form S-18 filed with the Securities and Exchange Commission on
January 27, 1989 and declared effective on February 28, 1989.
(2)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated January 11, 1991.
(3)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated March 4, 1991.
(4)Incorporated by reference to the Registrant's report on Form 8 filed with the
Securities and Exchange Commission dated February 27, 1991.
(5)Incorporated by reference to the Registrant's report on Form 10-K filed with
the Securities and Exchange Commission dated April 30, 1991.
(6)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated February 6, 1992.
(7)Incorporated by reference to the Registrant's Registration Statement, as
amended, on Form S-1 filed with the Securities and Exchange Commission on May
14, 1992 and declared effective on November 12, 1992.
54
<PAGE>
(8)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated January 15, 1993.
(9)Incorporated by reference to the Registrant's report on Form 10-K filed with
the Securities and Exchange Commission dated May 5, 1993.
(10)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated April 8, 1994.
(11)Incorporated by reference to the Registrant's report on Form 8-K/A filed
with the Securities and Exchange Commission dated January 17, 1994.
(12)Incorporated by reference to the Registrant's Registration Statement on Form
S-8 filed with the Securities and Exchange Commission on March 23, 1994.
(13)Incorporated by reference to the Registrant's report on Form 10- KSB
filed with the Securities and Exchange Commission dated December 31, 1993.
(14)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated April 21, 1994.
(15)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated May 31, 1994.
(16)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated July 19, 1994.
(17)Incorporated by reference to the Registrant's report on Form 10- QSB filed
with the Securities and Exchange Commission dated September 20, 1994.
(18)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated September 12, 1994.
(19)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated March 1, 1995.
(20)Incorporated by reference to the Registrant's report on Form 10- QSB filed
with the Securities and Exchange Commission dated August 17, 1995.
(21)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated December 21, 1995.
(22)Incorporated by reference to the Registrant's report on Form 10- KSB filed
with the Securities and Exchange Commission dated September 30, 1995.
(23)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated December 21, 1995.
(24)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated February 21, 1996.
55
<PAGE>
(24)Incorporated by reference to the Registrant's report on Form 10- QSB filed
with the Securities and Exchange Commission dated March 31, 1996.
(25)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated May 28, 1996.
(26)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated June 11, 1996.
(27)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated October 29, 1996.
(28)Incorporated by reference to the Registrant's report on Form 8-K filed with
the Securities and Exchange Commission dated November 8, 1996.
56
<PAGE>
SIGNATURE
---------
In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant
caused this report to be signed on its behalf by the undersigned thereunto duly
authorized on this twenty first day of January, 1997.
TOTAL WORLD TELECOMMUNICATIONS, INC.
By: /s/ Joseph L. Lents
-----------------------------------------------
Joseph L. Lents
Chairman of the Board
and Chief Executive Officer
In accordance with the Exchange, this Report has been signed below by the
following person on behalf of the Registrant, and in the capacities and on the
date indicated.
Signature
---------
Chairman of the Board,
and Chief Executive
/s/ Joseph L. Lents Officer January 21, 1997
- ------------------------
Joseph L. Lents
/s/ Donald Booth President and Director January 21, 1997
- ------------------------
Donald Booth
Vice President, Trea-
surer and Chief Finan-
cial and Accounting
/s/ Loretta A. Murphy Officer January 21, 1997
- ------------------------
Loretta A. Murphy
Senior Vice President
/s/ C. Denning Loveridge and Director January 21, 1997
- ------------------------
C. Denning Loveridge
Vice President/Market-
ing/Total World Telecom
/s/ Arnold Salinas and Director January 21, 1997
- ------------------------
Arnold Salinas
/s/ John Loveridge
- ------------------------
John Loveridge Director January 21, 1997
57
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
CONSOLIDATED FINANCIAL STATEMENTS
For the Year Ended September 30, 1996
CONTENTS
--------
Page
----
Report of Independent Certified Public Accountants..... F-2
Consolidated Financial Statements:
Consolidated Balance Sheet........................... F-3 - F-4
Consolidated Statements of Loss...................... F-5
Consolidated Statements of Stockholder's Equity...... F-6 - F-7
Consolidated Statements of Cash Flows................ F-8 - F-9
Notes to Consolidated Financial Statements............. F-10 - F-43
F-1
<PAGE>
REPORT OF INDEPENDENT AUDITORS
------------------------------
To the Stockholders and Board of Directors of
Total World Telecommunications, Inc.
We have audited the accompanying consolidated balance sheet of Total World
Telecommunications, Inc. (formerly International Standards Group, Limited) and
Subsidiaries as of September 30, 1996 and the related consolidated statements of
loss, stockholders' equity and cash flows for each of the two years in the
period ended September 30, 1996. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Total
World Telecommunications, Inc. and Subsidiaries as of September 30, 1996, and
the consolidated results of their operations and their consolidated cash flows
for each of the two years in the period ended September 30, 1996, in conformity
with generally accepted accounting principles.
The accompanying consolidated financial statements have been prepared assuming
that the Company will continue as a going concern. As discussed in Note A to the
financial statements, at September 30, 1996 the Company has incurred substantial
losses since its inception, and the accompanying consolidated balance sheet
reflects an accumulated deficit of $(30,221,374) and a working capital
deficiency of $(10,761,404). These matters raise substantial doubt about the
Company's ability to continue as a going concern. Management's plan in regard to
these matters is also described in Note A. The financial statements do not
include any adjustments that might result from the outcome of the foregoing
uncertainties.
Millward and Co., CPA's
Fort Lauderdale, Florida
December 30, 1996
F-2
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
SEPTEMBER 30, 1996
ASSETS
------
CURRENT ASSETS:
Cash and Cash Equivalents $ 1,358,414
Cash - In Trust 345,606
Accounts Receivable,
net of allowance of $143,629 8,200,085
Due from Employees and Related Parties 962,640
Mortgages Held For Resale 7,442,385
Prepaid Expenses and Other Current Assets 1,058,320
-----------
Total Current Assets 19,367,450
-----------
PROPERTY AND EQUIPMENT, at cost (Net of
Accumulated Depreciation of $2,092,897) 5,125,832
-----------
OTHER ASSETS:
Property and Plant, Held for Resale 6,179,754
Goodwill (net of Accumulated
Amortization of $763,777) 41,332,087
Other 998,921
-----------
48,510,762
-----------
Total assets $73,004,044
===========
The accompanying notes are an integral part of these
consolidated financial statements.
F-3
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET (Continued)
SEPTEMBER 30, 1996
LIABILITIES AND STOCKHOLDERS' EQUITY
------------------------------------
CURRENT LIABILITIES:
Notes Payable and Current
Portion of Long-Term Debt $ 6,594,453
Warehouse Lines of Credit 7,864,992
Accounts Payable 9,133,554
Accrued Expenses and Other Liabilities 3,868,434
Due for Redemption of Stock 2,625,000
Due to Stockholders 42,421
-----------
Total Current Liabilities 30,128,854
-----------
LONG-TERM DEBT 2,567,066
-----------
CREDIT ARISING FROM DISPUTED TRANSACTION 1,500,000
-----------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred Stock, $.00001 Par Value,
10,000,000 Shares Authorized,
1,216,300 Shares Issued and Outstanding 12
Common Stock, $.00001 Par Value, 100,000,000
Shares Authorized, 6,635,525 Shares Issued
and Outstanding 66
Additional Paid-In Capital 74,973,115
Unearned Compensation (5,203,695)
Accumulated Deficit (30,221,374)
Treasury Stock at Cost, 55,933 Shares (740,000)
------------
38,808,124
-----------
Total Liabilities and
Stockholders' Equity $73,004,044
===========
The accompanying notes are an integral part of
these consolidated financial statements
F-4
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF LOSS
For the Year Ended
September 30,
1996 1995
------------- ---------
REVENUES:
Telecommunications $15,814,779 $ -
Real Estate Fees 4,934,927 3,236,571
Audit Fees 835,168 778,515
------------- -----------
21,584,874 4,015,086
------------- -----------
COST OF SALES:
Telecommunications 14,186,355 -
Real Estate 4,226,090 2,749,097
Direct Audit Expenses 670,291 652,432
------------- -----------
19,082,736 3,401,529
------------- -----------
GROSS PROFIT 2,502,138 613,557
------------- -----------
OPERATING EXPENSES:
Selling, General and
Administrative 10,203,382 3,573,255
Depreciation and Amortization 1,949,136 552,558
Write off of Goodwill 703,174 500,000
------------- -----------
12,855,692 4,625,813
------------- -----------
Loss from operations (10,353,554) (4,012,256)
------------- ------------
OTHER INCOME (EXPENSE):
Rental Income 292,858 237,128
Rental Expenses, Including
Depreciation of $125,358 for
1996 and $125,021 in 1995 (333,582) (381,379)
Interest Expense (835,167) (398,313)
Interest Income 39,488 -
Legal Settlement - (73,000)
Settlement with Regulatory
Agencies (930,000) -
Other Expenses (5,140) (49,754)
------------- ------------
Total Other Expense (1,771,543) (665,318)
------------- ------------
NET LOSS $(12,125,097) $(4,677,574)
============= ============
NET LOSS PER COMMON SHARE $ (6.31) $ (4.38)
============= ============
NUMBER OF SHARES USED
IN COMPUTATION 2,371,586 1,080,573
============= ===========
Theaccompanying notes are an integral part of these
consolidated financial statements.
F-5
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
PREFERRED STOCK COMMON STOCK
------------------ ----------------- PAID-IN
SHARES AMOUNT SHARES AMOUNT CAPITAL
------ ------ ------ ------ -------
<S> <C> <C> <C> <C> <C>
Balance, September 30, 1994 73,000 $ 1 1,060,900 $ 10 $17,937,704
Issuance of Common Stock for Private Placement - - 4,500 - 67,500
Issuance of Common Stock Per Reg S, Net of
Commissions of $47,500 - - 43,333 - 277,500
Issuance of Common Stock for Payment of Interest - - 28,133 - 163,480
Issuance of Common Stock to Consultants - - 66,667 1 449,999
Amortization of Unearned Compensation - - - - -
Issuance of Common Stock for Legal Fees - - 897 - 6,725
Liquidating Dividends Paid In Cash - - - - (58,400)
Issuance of Common Stock for Purchase
of Office Condominium - - 13,333 1 66,009
Proceeds from Issuance of Series F
Convertible Preferred Stock 1,050 - - - 1,050,000
Net Adjustment for Shares Issued
for Previous Private Placements - - 2,112 - -
Common Stock Repurchased and Cancelled - - (1,667) - (25,000)
Net Loss - - - - -
--------- ----------- ---------- ------ -----------
Balance, September 30, 1995 74,050 1 1,218,208 12 19,935,517
Issuance of Common Stock Per Reg S,
Net of Commissions of $31,381 - - 385,229 4 1,851,362
Issuance of Common Stock for
Payment of Employee Compensation - - 1,667 - 14,500
Issuance of Common Stock to Consultants - - 162,367 2 1,475,508
Amortization of Unearned Compensation - - - - -
Dividends Paid In Cash - - - - (3,117,400)
Issuance of Common Stock for Purchase of Land - - 294,932 3 1,995,165
Net Proceeds from Issuance of Preferred Shares
Pursuant to Regulation S
Series H Convertible Preferred Stock 170,900 2 - - 763,816
Series I Convertible Preferred Stock 200,000 2 - - 1,643,483
Series J Convertible Preferred Stock 300,000 3 - - 2,468,497
Series K Convertible Preferred Stock 1,300,000 13 - - 10,363,327
Issuance of 137,185 shares of Common Stock
for Conversion of Series H Preferred Stock (170,900) (2) 137,185 1 1
Issuance of 293,841 shares of Common Stock
for Conversion of Series I Preferred Stock (200,000) (2) 293,841 3 (1)
Issuance of 463,063 shares of Common Stock
for Conversion of Series J Preferred Stock (300,000) (3) 463,063 5 (2)
Shares Issued for Acquisition of Total
World Telecom
Series M Preferred Stock 231,000 2 - - 20,296,498
Series N Preferred Stock 66,500 - - - 6,583,500
Series O Preferred Stock 35,000 - - - 3,465,000
Series P Preferred Stock 267,501 3 - - 5,526,048
Series Q Preferred Stock 250,000 3 - - 4,333,322
Commissions Pertaining to Conversion of
Series Q Preferred Stock - - - - -
Issuance of 714,627 shares of Common Stock
for Conversion of Series K Preferred Stock (422,700) (4) 714,627 7 (3)
Issuance of 443,333 shares of Common Stock
for Conversion of Series N Preferred Stock (66,500) - 443,333 4 (4)
Issuance of 1,188,889 shares of Common Stock
for Conversion of Series P Preferred Stock (267,501) (3) 1,188,889 12 (9)
Issuance of 1,111,109 shares of Common Stock
for Conversion of Series Q Preferred Stock (250,000) (3) 1,111,109 11 (8)
Issuance of 190,000 shares of Common Stock
for Conversion of Series F Preferred Stock (1,050) - 190,000 2 (2)
Net Adjustment for Shares Issued for
Previous Private Placements - - 35,945 - -
Issuance of Series G Preferred Stock for
Acquisition of American Indemnity and
Conversion into Common Stock and Rescission 233,333 2 2,333,333 23 -
of AIC acquisition (233,333) (2) (2,333,333) (23) -
Adjustment for Redemption of
Series M Preferred Stock - - - (2,625,000)
Common Stock Repurchased and Cancelled - - (4,870) - -
Net Loss
--------- ----------- ---------- ------- -----------
Balance, September 30, 1996 1,216,300 $ 12 6,635,525 66 $74,973,115
========= =========== ========== ======= ===========
The accompanying notes are an integral part of these
consolidated financial statements.
</TABLE>
F-6
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (Continued)
<TABLE>
<CAPTION>
TREASURY STOCK
UNEARNED ------------------ ACCUMULATED
COMPENSATION SHARES AMOUNT DEFICIT TOTAL
------------ ------ ------ ------- -----
<S> <C> <C> <C> <C> <C>
Balance, September 30, 1994 $ - (55,933) $(740,000) $ (13,418,703) $ 3,779,012
Issuance of Common Stock for Private Placement - - - - 67,500
Issuance of Common Stock Per Reg S, Net of
Commissions of $47,500 - - - - 277,500
Issuance of Common Stock for Payment of Interest - - - - 163,480
Issuance of Common Stock to Consultants - - - - 450,000
Amortization of Unearned Compensation (18,750) - - - (18,750)
Issuance of Common Stock for Legal Fees - - - - 6,725
Liquidating Dividends Paid In Cash - - - - (58,400)
Issuance of Common Stock for Purchase
of Office Condominium - - - - 66,010
Proceeds from Issuance of Series F
Convertible Preferred Stock - - - - 1,050,000
Net Adjustment for Shares Issued
for Previous Private Placements - - - - -
Common Stock Repurchased and Cancelled - - - - (25,000)
Net Loss - - - (4,677,574) (4,677,574)
--------- ---------- ---------- -------------- ------------
Balance, September 30, 1995 (18,750) (55,933) (740,000) (18,096,277) 1,080,503
Issuance of Common Stock Per Reg S,
Net of Commissions of $24,781 - - - - 1,851,366
Issuance of Common Stock for
Payment of Employee Compensation - - - - 14,500
Issuance of Common Stock to Consultants - - - - 1,475,510
Amortization of Unearned Compensation 18,750 - - - 18,750
Dividends Paid In Cash - - - - (3,117,400)
Issuance of Common Stock for Land - - - - 1,995,168
Net Proceeds from Issuance of Preferred Shares
Pursuant to Regulation S
Series H Convertible Preferred Stock - - - - 763,818
Series I Convertible Preferred Stock - - - - 1,643,485
Series J Convertible Preferred Stock - - - - 2,468,500
Series K Convertible Preferred Stock - - - - 10,363,340
Issuance of 137,185 shares of Common Stock
for Conversion of Series H Preferred Stock - - - - -
Issuance of 293,841 shares of Common Stock
for Conversion of Series I Preferred Stock - - - - -
Issuance of 463,063 shares of Common Stock
for Conversion of Series J Preferred Stock - - - - -
Shares Issued for Acquisition of Total
World Telecom
Series M Preferred Stock - - - - 20,296,500
Series N Preferred Stock - - - - 6,583,500
Series O Preferred Stock - - - - 3,465,000
Series P Preferred Stock (5,203,695) - - - 322,356
Series Q Preferred Stock - - - - 4,333,325
Commissions Pertaining to Conversion of
Series Q Preferred Stock - - - - -
Issuance of 714,627 shares of Common Stock
for Conversion of Series K Preferred Stock - - - - -
Issuance of 443,333 shares of Common Stock
for Conversion of Series N Preferred Stock - - - - -
Issuance of 1,188,889 shares of Common Stock
for Conversion of Series P Preferred Stock - - - - -
Issuance of 1,111,109 shares of Common Stock
for Conversion of Series Q Preferred Stock - - - - -
Issuance of 190,000 shares of Common Stock
for Conversion of Series F Preferred Stock - - - - -
Net Adjustment for Shares Issued for
Previous Private Placements - - - - -
Issuance of Series G Preferred Stock for
Acquisition of American Indemnity and - - - - -
Conversion into Common Stock for Rescission
of AIC Acquisition - - - - -
Return of 2,333,333 shares of Common Stock
for Rescission of AIC Acquisition - - - - -
Adjustment for Redemption of
Series M Preferred Stock - - - - (2,625,000)
Common Stock Repurchased and Cancelled - - - - -
Net Loss (12,125,097) (12,125,097)
------------ ---------- ---------- ------------- -------------
Balance, September 30, 1996 $(5,203,695) (55,933) $(740,000) $(30,221,374) $ 38,808,124
============ ========== ========== ============= ============
The accompanying notes are an integral part of these
consolidated financial statements.
</TABLE>
F-7
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
For the Years Ended
September 30,
1996 1995
------------ --------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(12,125,097) $(4,677,574)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation 500,408 256,394
Amortization of intangible assets 1,574,086 421,184
Write off of goodwill 703,174 500,000
Issuance of common stock for payment of interest - 163,480
Issuance of common stock for employee compensation 14,500 -
Issuance of common stock to consultants 1,475,510 431,250
Issuance of common stock for legal fees - 6,725
Issuance of debt for payment of interest - 56,250
(Increase) decrease in accounts receivable (1,722,329) (90,933)
(Increase) decrease in advances to employees
and stockholders (773,946) 79,906
(Increase) decrease in prepaid expenses and
other current assets (606,576) 56,944
(Increase) decrease in other assets (976,302) (25,470)
(Decrease) increase in accounts payable and
accrued expenses 2,049,864 422,774
------------ -----------
Net cash used in operating activities (9,886,708) (2,399,070)
------------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (824,052) (118,183)
------------- ------------
Net proceeds used in investing activities (824,052) (118,183)
------------- ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from notes payable and long-term debt - 740,000
Payments of amounts due to officers (669,012) (202,647)
Payments of notes payable and
long-term debt (2,891,937) (635,912)
Net proceeds from issuance of stock per Reg S 17,090,511 277,500
Net proceeds from Issuance of Common Stock - 42,500
Net proceeds from Issuance of Series F
Convertible Preferred Stock - 1,050,000
Preferred stock dividends paid (2,367,200) (58,400)
Proceeds from stock subscriptions receivable - 1,500,000
------------ -----------
Net cash provided by financing activities 11,162,362 2,713,041
------------ -----------
INCREASE IN CASH AND CASH EQUIVALENTS 451,602 195,788
CASH RECEIVED IN ACQUISITION OF TWT 121,575 -
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 1,130,843 935,055
------------ -----------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 1,704,020 $ 1,130,843
============ ===========
</TABLE>
The accompanying notes are an integral part of these
consolidated financial statements.
F-8
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
For the Years Ended
September 30,
1996 1995
------------ -----------
<S> <C> <C>
NON-CASH FINANCING ACTIVITIES:
Issuance of preferred stock for purchase
of Total World Telecom $ 34,678,325 $ -
============ ===========
Issuance of preferred stock as deferred compensation
relative to purchase of Total World Telecom $ 5,526,051 $ -
============ ===========
Issuance of common stock for legal fees $ - $ 6,725
============ ===========
Issuance of common stock for payment of interest $ - $ 163,480
============ ===========
Increase in debt in lieu of payment
of interest expense $ - $ 56,250
============ ===========
Issuance of common stock for consulting fees $ 1,475,510 $ 450,000
============ ===========
Dividends accrued on Series M & N Preferred Stock $ 750,200 $
============ ===========
Issuance of Common Stock for payment of
employee compensation $ 14,500 $
============ ===========
Certain of the Company's convertible Preferred
Stock has been converted to shares of Common
Stock (see Consolidated Statement of Changes
in Stockholders' equity) during the year ended
September 30, 1996
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Interest paid $ 691,587 $ 164,954
============ ===========
NON CASH INVESTING ACTIVITIES:
Debt incurred and stock issued in connection
with the purchase of office condominium $ $ 586,010
============ ===========
Debt incurred and stock issued in connection
with the purchase of land $ 2,702,586 $ -
============ ===========
</TABLE>
The accompanying notes are an integral part of these
consolidated financial statements.
F-9
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
------------------------------------------
Basis of Presentation
- ---------------------
Total World Telecommunications, Inc. and subsidiaries (the "Company"), formerly
International Standards Group, Limited, was incorporated under the laws of the
State of Delaware on October 12, 1988.
The accompanying consolidated financial statements include the accounts of the
Company and its wholly-owned subsidiaries, Financial Standards Group, Inc., Real
Estate Services Network Holding Corporation, and its subsidiaries, and Total
National Telecommunications, Inc. from the date of its acquisition, June 12,
1996. Intercompany accounts and transactions have been eliminated in
consolidation.
The initial objective of the Company was the establishment of accounting
services to assist credit unions and their supervisory committees in performing
comprehensive internal or regulatory compliance audits in satisfaction of their
statutory requirements. The Company also offers various other auditing,
accounting and managerial advisory services to the credit union industry but
does not perform audits of financial statements.
On April 21, 1994, the Company acquired all of the outstanding stock of
Membership Realty Limited, Inc. and subsequently formed Real Estate Services
Network Holding Corp. (RESN). RESN is primarily engaged as a full service
commercial and residential real estate brokerage firm which also provides
mortgage origination and title services. In connection with the acquisition, the
Company assumed a $900,000 note to a then related party (See Notes G and I)
which was modified by providing for the conversion of the note into 24,320
shares of the Company's common stock. The excess was amortized on the
straight-line method over 60 months. The total cost of the acquisition was
$1,285,200, and the transaction is accounted for as a purchase. The cost
exceeded the fair value of the net assets of RESN by $1,987,245 (goodwill). At
September 30, 1995, the Company reassessed the goodwill and charged operations
for an additional $500,000, and at September 30, 1996, because of continued loss
and an evaluation of future cash flow, the remaining goodwill in the amount of
$703,174 was written off. (See Intangible Assets).
-----------------
F-10
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
------------------------------------------------------
Basis of Presentation (Continued)
- ---------------------------------
In June 1996, the Company acquired Houston based Total National
Telecommunications, Inc. (renamed Total World Telecom, Inc.) a Tier 2
switch-based interexchange carrier that utilized digital and fiber optic
facilities, with switches located in five major United States cities. TWT
through long term contracts provides origination and termination long distance
services to Tier 3 and Tier 4 switchless resellers. The Company also provides
local communications services including local exchange services, accesses by
telephone customers and other carriers to local exchange facilities and long
distance services within specific geographical areas. These services are subject
to different levels of state and federal regulations. (See Note B -
Acquisitions).
On October 11, 1995, the Company's Board of Directors approved an amendment to
the certificate of incorporation of the Company to permit the Company to issue
up to 100,000,000 shares of common stock, $.00001 par value, and 10,000,000
shares of preferred stock, $.00001 par value, of the Company in order to permit
holders of various series of preferred stock and warrants and options to convert
their preferred stock or exercise their warrants and options for shares of
common stock of the Company.
On October 15, 1996, the Company effected a one-for-fifteen reverse stock split
of its outstanding Common Stock. All transactions described herein, and all
references to outstanding Common Stock of the Company or rights to acquire
Common Stock give effect to such reverse stock split unless otherwise indicated.
Accounting Estimates
- --------------------
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses during
the reporting period. Actual results could differ from those estimates.
F-11
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
------------------------------------------------------
Intangible Assets
- -----------------
Intangible assets include goodwill from the acquisition of RESN and a credit
union audit practice in California ("the practice"), which represents the excess
of the cost of RESN and the practice over the fair value of their net assets at
the date of acquisition and is being amortized on the straight-line method over
60 months. At September 30, 1995 and 1996, the goodwill from the acquisition of
RESN was reviewed by the Company and based upon the outcome of such review, the
Company has recorded a reduction in the carrying value in the amount of $500,000
in 1995. The Company continues to expand the operation of RESN and increased the
number of real estate personnel; however, consideration was given to the change
in management of this operation since the acquisition. Accordingly, that portion
of the goodwill the Company estimated related to former management has been
charged to operations and is included in depreciation and amortization expense
in the consolidated statements of loss at September 30, 1995.
In 1996, the Company after implementing its expansion plans incurred continuing
losses. Accordingly, the Company determined that the goodwill related to this
acquisition was impaired, and in the fourth quarter of the year ended September
30, 1996, the Company recorded an adjustment of $703,174 which, based upon
managements' review, was required to adjust the carrying value of the goodwill
from the acquisition of RESN.
The result was to increase the net loss during the year-ended September 30, 1996
and 1995 by $.30 and $.46 per share, respectively.
In addition, as a result of the acquisition of Total National Telecom, Inc., the
Company has recorded goodwill in the amount of $41,935,955 which is being
amortized over a fifteen-year period.
In addition, at September 30, 1996 goodwill includes $95,402 relating to The
Financial Group (Note B) and $64,457 to a prior acquisition.
Amortization expense, including amortization of deferred charges and
organization expense charged to operations for the years ended September 30,
1996 and 1995 amounted to $1,574,086 and $421,184, respectively.
F-12
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
------------------------------------------------------
Cash and Cash Equivalents
- -------------------------
The Company considers all highly liquid debt instruments purchased with an
original maturity of three months or less to be cash equivalents.
Cash in-trust represents deposits held in escrow for customers. The related
escrow liability is included as part of accrued expenses and other liabilities
on the consolidated balance sheets.
Property and Equipment
- ----------------------
Property, machinery, and equipment under capital leases are stated at cost, and
property and plant held for resale are stated at the lower of cost or estimated
net realizable value and are depreciated over their estimated useful lives on a
straight-line basis as follows:
Useful Life
-----------
Building and improvements 30 years
Furniture and fixtures (including software) 3-5 years
Machinery and equipment 5 years
While the property is held for resale, the property is being leased, and during
the lease periods, depreciation will continue.
Lower of Cost or Market Basis
- -----------------------------
Residential mortgage loans and mortgage backed securities held for sale are
reported at the lower of cost or market value for the aggregate of all loans
within that category.
Revenue Recognition
- -------------------
The Company recognizes fee revenue earned relating to the operations of one of
its credit union service subsidiaries as the services are provided. Fees
received in advance, if any, are deferred until the services are provided. At
September 30, 1996 and 1995, no revenues were required to be deferred.
Revenue and the related costs relating to the Company's long- distance telephone
services are recognized on the accrual basis in the period the customer utilizes
F-13
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
------------------------------------------------------
Revenue Recognition (Continued)
- -------------------------------
the Company's service. The
Company bills customers based on information received from its switching network
and usage tapes received from long distance carriers. The Company utilizes many
of the state certifications of a related party as discussed in Note F.
Marketing Costs
- ---------------
The Company has entered into various marketing and commission agreements. The
costs are expensed as incurred. In addition, the Company has entered into
various termination settlement agreements providing for cash payments by the
Company to commission agents whereby the Company was relieved of future
commissions on certain accounts for mutual releases.
Income Taxes
- ------------
The Financial Accounting Standards Board ("FASB") issued Statement of Financial
Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes", which
requires companies to use the asset and liability method of accounting for
income taxes. Under the asset and liability method, deferred income taxes are
recognized for the tax consequences of temporary differences by applying enacted
statutory tax rates applicable to future years to differences between the
financial statement carrying amounts and the tax bases of existing assets and
liabilities. Pursuant to SFAS No. 109, the effect on deferred taxes of a change
in tax rates is recognized in income in the period that includes the enactment
date. Under the deferred method, deferred taxes were recognized using the tax
rate applicable to the year of the calculation and were not adjusted for
subsequent changes in tax rates. The Company adopted SFAS No. 109 in 1993.
Financial Instruments and Concentration of Credit Risk
- ------------------------------------------------------
Financial instruments which potentially subject the Company to concentrations of
credit risk are primarily cash and accounts receivable. The Company extends
credit based on an evaluation of the customer's financial condition, generally
(except for mortgages receivable) without requiring collateral.
Exposure to losses on receivables is principally dependent on each customer's
financial condition. The Company monitors its exposure for credit losses and
maintains allowances for anticipated losses.
F-14
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
------------------------------------------------------
Financial Instruments and Concentration of Credit Risk (Continued)
- ------------------------------------------------------------------
In addition, at September 30, 1996 the Company had $422,000, $215,000, and
$376,000 including certificates of deposit in three separate financial
institutions, of which the excess over $100,000 in each institution is not
covered by FDIC insurance and which, therefore, did not limit the Company's
amount of credit exposure. The Company believes it is not exposed to any
significant credit risk on cash and cash equivalents.
Recent Pronouncements
- ---------------------
In March 1995, the FASB issued Statement No. 121, "Accounting for the Impairment
of Long-Lived Assets and For Long-Lived Assets to be Disposed of." SFAS 121
becomes effective for fiscal years beginning after December 15, 1995 and
addresses the accounting for the impairment of long-lived assets, certain
identifiable intangibles, and goodwill related to those assets to be held and
used and for long-lived assets and certain identifiable intangibles to be
disposed of. The Company believes this pronouncement will not have a significant
impact on the Company's consolidated financial statements.
In May 1995, the FASB issued Statement No. 122, "Accounting for Mortgage
Servicing Rights." SFAS 122 becomes effective for fiscal years beginning after
December 15, 1995 and addresses the accounting for transactions in which a
mortgage banking enterprise sells or securitizes mortgage loans with servicing
rights retained and to impairment evaluations of all amounts capitalized as
mortgage servicing rights, including those purchased before adoption of this
statement. During the quarter ended December 31, 1995, the Company acquired an
entity which provided mortgage services, (prior to this acquisition, the Company
was not in the mortgage servicing business), accordingly, the Company expected
to implement FAS 122 commencing October 1, 1995; however, the Company terminated
this relationship.
In October 1995, the FASB issued Statement No. 123, "Accounting for Stock-Based
Compensation." The accounting requirements of SFAS 123 are effective for
transactions entered into in fiscal years that begin after December 15, 1995.
The disclosure requirements of SFAS 123 are effective for financial statements
for fiscal years beginning after December 15, 1995, or for an earlier fiscal
year for which this statement is initially adopted for recognizing compensation
cost. The Company believes this pronouncement will not have a significant impact
on the Company's consolidated financial statements.
F-15
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
Recent Pronouncements (Continued)
- ---------------------------------
In June 1996, the FASB issued Statement of Financial Accounting Standards No.
125 ("SFAS 125"), "Accounting for Transfers of Servicing of Financial Assets and
Extinguishment of Liabilities. FAS 125 provides accounting and reporting
standards for transfers and servicing of financial assets and extinguishments of
liabilities based on a financial-components approach that focuses on control.
SFAS 125 is effective for transfers and servicing of financial assets and
extinguishments of liabilities occurring after December 31, 1996 and is to be
prospectively applied. The Company believes that the adoption of SFAS 125 will
have no impact on its financial statements.
Net Loss Per Common Share
- -------------------------
Net loss per common share is calculated by dividing the net loss by the weighted
average number of common shares outstanding. Preferred stock dividends, of
$3,117,400 in 1996 and $58,400 in 1995, have been included in the net loss
attributable to common shareholders. The effect of the warrants, options and
convertible preferred stock for the year ended September 30, 1996 and the year
ended September 30, 1995 have not been included in the computation of net loss
per common share, as the effect of their inclusion would be anti-dilutive.
Going Concern Consideration
- ---------------------------
Since inception, the Company has incurred substantial losses and, as of
September 30, 1996, has an accumulated deficit of $30,221,374 and a working
capital deficiency of $10,761,404. The Company commenced revenue producing
operations in October 1991. A significant amount of the Company's officers' and
directors' time has been spent in various financing activities including, but
not limited to, raising private placement funds and seeking new acquisitions.
Subsequent to year end, the Company began negotiations for the receipt of
additional private placement funds and has raised $17,551,000 through the sale
of its preferred stock, a portion of which, $10,409,000, was used to acquire
treasury shares. The Company also exercised its option to redeem certain
preferred shares, and certain shares issued in connection with the acquisition
(see Note L - Subsequent Events). The Company continues to be responsible for
dividend payments of approximately $600,000 per month pursuant to an acquisition
agreement described in Note B.
F-16
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE A - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
------------------------------------------------------
Going Concern Consideration (Continued)
- ---------------------------------------
The Company plans to achieve profitable operations through its newly acquired
long-distance telephone service provider (See Note B). In addition, the Company
has made two acquisitions since September 30, 1996 which the Company anticipates
will increase profitability. (See Note B.) Management believes that the
acquisitions and other activities, coupled with the cost cutting and revenue
raising program instituted by its real estate subsidiary, should result in
significant improvements in the future.
There can be no assurance that funding will be completed, if the newly acquired
entities will be profitable, the cost cutting and revenue raising programs will
be effective, or if the Company will not receive further claims similar to those
referred to in Note C, items 5) through 10), all of which are necessary to meet
the Company's obligations over the next year.
NOTE B - ACQUISITIONS
- ---------------------
On November 21, 1995, RESN entered into an agreement to purchase all of the
voting stock of U.S. Mortgage Network Corp., a Florida corporation ("USM"), and
upon consummation of that agreement, USM became a wholly-owned subsidiary of
RESN. At the time of the stock purchase, USM conducted a mortgage banking
business and was involved in the origination, purchase and sale of residential
mortgage loans. On March 14, 1996, the Company and RESN entered into an
agreement with USM and its principal stockholders pursuant to which RESN
rescinded the stock purchase agreement and returned the voting stock of USM to
the principals of USM. Following the consummation of the stock purchase
agreement and prior to the consummation of the rescission agreement, upon
information and belief, USM allegedly originated and sold defective mortgage
loans, violated federal laws relating to the origination of mortgage loans, and
converted third party funds and trust funds for its benefit or the direct or
indirect benefit of its principals. From time to time, the Company and RESN have
been contacted by third parties regarding such parties' relationships with USM,
and in some instances, the Company and RESN have been threatened with litigation
as a result of their prior indirect and direct ownership of the stock of USM.
Accordingly, the Company has made certain settlements and issued notes to three
F-17
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE B - ACQUISITIONS (Continued)
------------------------
financial institutions for possible losses in the amount of $191,141, and other
incurred losses of approximately $448,000, which includes $300,000 of working
capital advances to USM. (See Note G - Debt)
In July 1996, the company acquired all of the shares of The Financial Group,
Inc., a recently formed entity in the business of originating and selling
residential mortgage loans. The purchase price of approximately $100,000 was
charged to goodwill.
On December 21, 1995, the Company and Global RE., LTD consummated a stock
purchase and exchange agreement, ("Agreement") subject to certain due diligence
procedures pursuant to which the Company acquired all the common stock of
American Indemnity Company Limited ("AIC") in exchange for 233,333 shares of the
Company's newly authorized Series G Voting Convertible Preferred Stock (the
"Preferred Stock") and options to purchase a total of 44,444 shares of Common
Stock of the Company. On April 6, 1996, the purchase and exchange agreement was
closed out of escrow, and 155,556 restricted shares of the Company's Common
Stock were issued in conversion of the preferred stock. Thereafter, on June 11,
1996, the company, Global RE., Ltd. and AIC entered into an agreement pursuant
to which the Company exchanged with Global RE., Ltd. its capital stock interest
in AIC in return for the Company's securities previously received by Global RE.,
Ltd. as part of the acquisition of AIC by the Company in December 1995. This
separation was based on the determination by respective managements of the
incompatibilities of operations and limitation of the Company's management to
exercise sufficient oversight of AIC's officers. In addition, the parties agreed
to exchange reciprocal options to purchase 200,000 shares of Common Stock of the
Company and 3,000,000 shares of capital stock of AIC in addition to certain
supplemental rights. At June 30, 1996, the Company had cancelled these
previously outstanding shares. The Company has incurred losses based on advances
relating to this aborted acquisition in the amount of $110,793.
On June 12, 1996, the Company consummated an Agreement and Plan of
Reorganization dated May 28, 1996 for the acquisition of all of the outstanding
capital stock of Total National Telecommunications, Inc. (d/b/a Total World
Telecom). Pursuant to the terms of the stock exchange, the shareholders of TWT
received shares of newly created Series M and Series N preferred stock of the
Company which are convertible into 1,983,333 shares of Common Stock of the
Company. The Series M and Series N Preferred Stock, established pursuant to the
exchange, carry a cumulative dividend of 2.7% per month of the stated value of
the preferred stock which the Company is required to pay until such time as the
F-18
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE B - ACQUISITIONS (Continued)
------------------------
Company's Registration Statement (after which the former TWT shareholders have
agreed not to sell more than 5% of their shares per month) relating to resale of
certain of the shares of Common Stock underlying the Series of Preferred Stock
is registered under the Securities Act of 1933. At the time the Agreement and
Plan of Reorganization was consummated on June 12, 1996, the Company also issued
35,000 shares of Series O Preferred Stock for employee compensation for past
service costs which are convertible into 233,333 shares of Common Stock of the
Company. The Company also issued 267,501 shares of Series P Preferred Stock
convertible into 1,188,889 shares of Common Stock representing shares issued in
connection with future services. Certain consultants received 250,000 shares of
Series Q Preferred Stock which are convertible into 1,111,109 shares of Common
Stock of the Company. Such shares have been valued at the fair market value less
$2,625,000 (redemption referred to in Note K) which has been accrued and is
included in current liabilities, and have been charged (except for Series O and
P), to the cost of the acquisition. The Series O, Series P and Series Q
Preferred Stock have no registration rights. During the year ended September 30,
1996, the Company paid $3,059,000 in cash dividends pursuant to the agreement.
The Company has continued to pay dividends subsequent to September 30, 1996.
The acquisition costs consisted of the following:
Series M Preferred Stock (231,000 shares)(a) $20,296,500
Series N Preferred Stock (66,500 shares)(a) 6,583,500
Series O Preferred Stock (35,000 shares)(a) 3,465,000
Series Q Preferred Stock (250,000 shares)(b) 4,333,325
-----------
Purchase Price $34,678,325
Liabilities in excess of net assets acquired 7,257,630
-----------
Excess purchase price over
net liabilities (goodwill) $41,935,955
===========
(a) Based on the guaranteed registration rights including the 2.7% monthly
dividend to the M and N shareholders, the shares have been valued assuming
conversion at the quoted market price.
(b) Represents the fair value of preferred stock issued to consultants,
including 20,000 shares to the TWT President, in connection with the
acquisition assuming conversion into restricted common shares. Such shares
were originally convertible into common shares based on performance
criteria. The performance criteria was waived in September 1996 and the
preferred shares were converted to common. The valuation at the fair value
was based on the date the performance criteria was waived.
F-19
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE B - ACQUISITIONS (Continued)
------------------------
In connection with this transaction, the Company issued 267,501 shares of Series
P Preferred Stock for future services of which 100,000 have not been allocated
and are held in trust by TWT's president. Such shares were allocated in December
1996, and there will be a charge to operations during the quarter ended December
31, 1996, based on the then quoted market price of converted common shares in
accordance with FASB 123. The remaining 167,501 preferred shares issued to TWT's
president have been valued assuming conversion at the fair market value
($5,526,048), and the deferred compensation has been treated as a reduction of
stockholders' equity and is being amortized over a five-year period.
Amortization charged to operations in 1996 aggregated $322,356.
The acquisition has been accounted for using the purchase method of accounting,
and accordingly, the purchase price has been allocated to the assets purchased
and the liabilities assumed based upon the fair values at the date of
acquisition which approximated the historical cost. The excess of the purchase
price over the fair values of the net assets acquired was $41,935,955 and has
been recorded as goodwill, which is being amortized on a straight line basis
over 15 years. The amount of goodwill amortization related to this transaction
for the year ended September 30, 1996 was $731,163.
The following are the net liabilities acquired:
Notes payable $(9,132,605)
Accounts payable and
other liabilities (8,635,694)
Current Assets
primarily receivables 6,951,579
Fixed Assets 3,559,090
------------
$(7,257,630)
============
The following unaudited pro forma information for the years ended September 30,
1996 and September 30, 1995 have been prepared to reflect the acquisition of TWT
as if it had occurred on October 1, 1994. The pro forma financial information
set forth below is unaudited and not necessarily indicative of the results that
would actually have occurred if the transactions had been consummated as of that
date or the results which may be obtained in the future.
F-20
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE B - ACQUISITIONS (Continued)
------------------------
Year Ended September 30,
---------------------------
1996 1995
---- ----
Net revenues $ 59,672,873 $31,328,628
Net loss $(18,185,457) $(7,748,490)
Net loss per common share $ (7.67) $ (8.55)
(a) The net loss gives effect to the amortization of goodwill and a charge to
operations in connection with Series P Preferred Stock for past services.
The net loss per common share gives effect to the preferred stock
dividends for the Series M and Series N in each of the periods. The
calculation of net loss per common share does not give effect for the
conversion of preferred shares to common as such conversion would be anti-
dilutive.
NOTE C - INVESTMENT IN MORTGAGES HELD FOR RESALE
---------------------------------------
In connection with the aborted acquisition of U.S. Mortgage (see Note
B-Acquisitions), the Company acquired single family mortgage loans receivable
collateralized by the underlying property as a result of assuming a liability
for mortgage warehousing notes payable with a bank. The Company recorded losses
of $148,000 based on the difference between the receivable and payable. Balances
at September 30, 1996 of these receivables and the warehouse line were
$7,442,485 and $7,423,381, respectively, and includes accounts from and due an
employee in the approximate amount of $450,000. The Company has a warehouse line
commitment of $12,000,000.
The Company is also the guarantor of debt aggregating approximately $1,300,000
which is collateralized by mortgages receivable. The Company is responsible if
there is a default in the payment, and it is determined that the loan
origination applications and documents were fraudulent. The Company is
negotiating for additional mortgages which may have to be assumed; however, the
Company believes it can prepare these mortgages for resale at which time the
Company expects to be relieved of its guarantee.
F-21
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE D - PROPERTY, PLANT AND EQUIPMENT
-----------------------------
The following is a summary of plant and equipment, at cost, less accumulated
depreciation and amortization at September 30, 1996:
Building and fixtures $1,057,556
Furniture and fixtures 500,492
Equipment 5,126,010
Leasehold improvements 332,428
----------
7,016,486
Less: accumulated depreciation 2,092,897
----------
Total $4,923,589
==========
The following is a summary of property and plant, held for resale, less
accumulated depreciation at September 30, 1996:
Land - Eau Gallie (b) $2,702,586
Land - Mount Vernon (a) 453,121
Building - Mount Vernon (a) 3,750,671
----------
6,906,378
Less: accumulated depreciation (a) 726,624
----------
Total $6,179,754
==========
(a) While the Company negotiates with potential buyers of the property, the
Mount Vernon commercial building is being leased. Leases are generally on
a month-to-month basis. Rental income of $292,858 was recognized for the
year ended September 30, 1996, and $237,138 was recognized for the year
ended September 30, 1995 in the accompanying consolidated statements of
loss. Future minimum rental income on noncancellable operating leases that
are not on a month-to- month basis is as follows:
Year Amount
---- ------
1997 $132,400
1998 65,400
1999 65,400
2000 65,400
2001 65,400
--------
$394,000
========
F-22
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE D - PROPERTY, PLANT AND EQUIPMENT (Continued)
-----------------------------------------
Depreciation expense for the years ended September 30, 1996 and September
30, 1995 amounted to $500,409 and $256,394, respectively.
(b) During fiscal 1996, RESN acquired 29.63 acres of undeveloped land in
Melbourne, Florida. Currently,the property is zoned for commercial use.
The property was acquired from a stockholder who had previously purchased
the property from Mr. D.E. Loveridge, Trustee. Mr. D.E. Loveridge is the
father of Messrs. John and C. Denning Loveridge, directors of the Company.
The purchase price of $2,702,586 was paid by the issuance of 294,932
shares of the Company's Common Stock and the assumption of a $707,450 note
payable to the Florida Conference of the Seventh Day Adventists. The note
provides for payment of interest only at 9 1/2% and matures at May 2001.
Through a joint venture, RESN plans to develop the land for commercial use
and eventual sale.
NOTE E - INCOME TAXES
------------
To date, the Company has incurred tax operating losses and, therefore, has
generated no income tax liabilities. As of September 30, 1996, the Company has
generated net operating loss carryforwards totalling approximately $27,144,000
which are available to offset future taxable income, if any, through 2011. As
the utilization of such an operating loss for tax purposes is not assured, the
deferred tax asset has been fully reserved through the recording of a 100%
valuation allowance.
These operating losses may be limited to the extent an "ownership change"
occurs. (See Note K.)
Included in the $27,144,000 net operating loss carryforwards indicated above are
approximately $700,000 of carryforwards of the acquired subsidiary, RESN (see
Note A), and $3,500,000 of the acquired subsidiary TWT, which are subject to
annual limitations of approximately $120,000 for RESN and $2,400,000 for TWT,
respectively due to changes in ownership. This portion of the carryforward
losses may only be utilized towards taxable income of the acquired entities. To
the extent the Company realizes income tax benefits of pre-acquisition operating
loss carryforwards, a prior period adjustment to goodwill and related
amortization will be reported.
F-23
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE E - INCOME TAXES (Continued)
------------------------
The net operating loss carryforwards are scheduled to expire as follows:
Expiration Date
---------------
2005 $ 587,000
2006 1,500,000
2007 1,800,000
2008 3,200,000
2009 6,000,000
2010 4,677,000
2011 9,380,000
-----------
$27,144,000
===========
The components of the net deferred assets as of September 30, 1996 are as
follows:
Deferred Tax Asset
Depreciation and Amortization $ 50,270
Provisions for obligations and
contingencies to be settled
in future periods 530,000
Other 54,000
Net operating loss carryforward 9,500,400
-----------
$10,134,670
Valuation allowance (10,134,670)
-----------
Net deferred tax $ -
===========
1996 1995
---- ----
U.S. Federal statutory rate
of tax 34% 34%
State Income Taxes - -
Operating losses with no
current tax benefit (34) (34)
----- -----
Effective Tax Rate 0% 0%
===== ====
F-24
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE F - RELATED PARTY TRANSACTIONS
--------------------------
(a) Due from Employees and Related Parties include the following representing
advances made by the Company:
Advances to employees (net of
allowance of $6,000) $ 162,126
Due from N'Touch (See Note L) 80,000
Due from TRI (See Note L) 25,000
Due from Director (d) 127,645
----------
394,771
Due from Heartline, Inc. 567,869
----------
$ 962,640
==========
Heartline, Inc. is a billing and collection agency for all amounts billed
through Southwestern Bell. Heartline, Inc. is solely owned by the father
of the President of the Company. As of September 30, 1996, a balance of
$567,869 was due from Heartline, Inc. representing billing services. Total
billing revenue totalled $1,254,838. During the period, the related party
earned commissions of $21,257. Advances do not incur any interest or
finance charges.
(b) "Due to Stockholders" includes the following at September 30, 1996:
Advances to fund operations from the
the Company's chairman/stockholder,
due on demand, bearing interest
at 10.75% $ 20,000
Due to other related parties 22,421
-----------
$ 42,421
===========
(c) Included in Accrued Expenses and Other Liabilities is $168,000 represent-
ing preferred dividends payable to the Company President's Related Family
Trusts.
(d) See Note D relating to land purchase from a Director.
(e) See Note C for mortgages held for resale.
(f) Included in other non-current assets is a $450,000 advance to a
shareholder relating to future equity funding.
F-25
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE F - RELATED PARTY TRANSACTIONS (Continued)
--------------------------------------
The following is a detail schedule of transactions with respect to advances to
fund operations from the Company's chairman/stockholder for the year ended
September 30, 1996 and 1995:
1996 1995
---- ----
Beginning balance $ 467,940 $ 525,541
Accrued interest 33,360 45,052
Advances to Company 139,798 140,000
Accrued salary and bonus 47,916 72,520
Reimbursement by Company of
stockholder costs (261,514) (86,040)
Payments to stockholder (407,500) (229,133)
---------- ----------
Ending balance,
September 30, 1996 $ 20,000 $ 467,940
========== ==========
In 1992, the Company entered into an agreement with a professional corporation
and its principals, who are also stockholders of the Company, providing for
payment to the Company in exchange for the referral of services outside the
Company's scope of practice. This agreement was cancelled, and a portion
($17,000) of a $150,000 advance was repaid, which the stockholder assumed in
1993, leaving a balance of $133,000 at September 30, 1995. Interest expense
incurred with the above-related parties was $33,360 and $45,053 for the years
ended September 30, 1996 and 1995, respectively.
NOTE G - DEBT
----
Debt consists of the following at September 30, 1996:
Advanced payment liability (a) $ 4,301,269
Note payable to a trust due June 30,
1996, bearing interest at 10% with
a further option to extend the
maturity to December 31, 1996,
bearing interest at 15% and is
convertible into 25,500 shares of
the Company's common stock (a) 956,250
Mortgage payable at 11% due in
installments of principal and
interest of $3,573.04 through
March 18, 1999, collateralized
by first mortgage on condominium
building (b) 329,475
F-26
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE G - DEBT (Continued)
----------------
Note payable to third party at 9 3/4%
due in installments of interest only
of $5,748.04 through April 1, 2001
on which date the entire principal
balance shall be due 707,450
Bank installment note at 10% due in
installments of principal and
interest of $9,659 through December
11, 2001, collateralized by
land and building held for sale 477,755
Note payable to three banks in
connection with the U.S. Mortgage
acquisition. See Notes B and C. 191,141
-----------
6,963,340
Less: current portion (5,526,664)
-----------
$ 1,436,676
===========
At September 30, 1996, principal payments required during the next five years
and thereafter are as follows:
For the Year Ended
September 30, Amount
1997 $ 5,574,895
1998 123,876
1999 322,688
2000 91,000
2001 729,950
Thereafter 120,931
-----------
$ 6,963,340
===========
(a) Advanced Payment Liability
--------------------------
The Company has entered into a billing and management services agreement
that provides for the Company processing services for the billing and
collection of the Company's qualified telecommunications services. The
provider has also entered into an advanced payment agreement whereby the
F-27
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE G - DEBT (Continued)
----------------
Company amount they processed net of services charged and fees will be
assigned and sold to them with recourse. Advances to the Company are 70%
of eligible receivables, as defined. At September 30, 1996, $4,301,269 was
outstanding pursuant to the credit line. The service charge (interest) for
this credit line is 4% of the prime rate as defined.
During 1995, the Company negotiated an agreement with the two former
owners of RESN (see Note A) for the termination of their employment
contracts. Such agreement provided for the renegotiation of a note payable
in the amount of $956,250, the purchase of an office condominium situated
in Boca Raton, Florida occupied by a wholly-owned subsidiary of the
Company in exchange for the issuance of 200,000 of the Company's shares
valued at $66,010, mortgages aggregating $520,000, $50,000 cash and the
payment of $20,000 to each.
(b) Capital Leases
--------------
The Company leases its computer, telephone and switching equipment under
various capital leases expiring on various dates through 2001. At
September 30, 1996, the gross amount of computer, telephone and switching
equipment and related accumulated amortization recorded under capital
leases were as follows:
Switching equipment $ 3,153,023
Computer 392,192
Telephone 113,857
Less: accumulated amortization (1,252,697)
------------
$ 2,406,375
===========
Amortization of assets held under capital leases is included with
depreciation expense. At September 30, 1996, minimum future lease payments
under capital leases and noncancelable operating leases were as follows:
For the Year Ended
September 30,
------------------
1997 1,226,692
1998 732,291
1999 437,805
2000 53,880
2001 -
-----------
Total minimum future lease payments $ 2,450,668
F-28
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE G - DEBT (Continued)
Less amount representing interest (at
rates ranging from 9.0% to 14.5%) 252,488
-----------
Present value of net minimum capital
lease payments 2,198,180
Less current installments of
obligations under capital leases (1,067,789)
-----------
Obligation under capital leases,
excluding current installments $ 1,130,391
===========
The carrying value of capital leases approximates fair market value.
The following is a summary of the aforementioned:
Total Current Long-Term
----- ------- ---------
Debt $6,963,340 $5,526,664 $1,436,676
Capitalized
Leases 2,198,179 1,067,789 1,130,390
---------- ---------- ----------
Total $9,161,519 $6,594,453 $2,567,066
========== ========== ==========
NOTE H - ACCRUED EXPENSES AND OTHER LIABILITIES
--------------------------------------
Liability for settlements with
government agencies (See Note I) $ 1,515,000
Preferred stock dividends payable
(Note B) 750,200
Marketing settlements payable (Note A) 732,000
Taxes, other than income 409,403
Escrowed liabilities 345,606
Other liabilities 116,225
-----------
$ 3,868,434
===========
F-29
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE I - CONTINGENCIES
-------------
(1) On February 2, 1995, the Company was named as defendant in a lawsuit
brought in Supreme Court of the State of New York for the County of New
York in a case styled MORGAN STANLEY & CO. INCORPORATED V. INTERNATIONAL
STANDARDS GROUP, INC. Morgan Stanley & Co. Incorporated ("Morgan Stanley")
was seeking to recover purported damages, or, in the alternative, was
seeking rescission relative to its purchase from the Company of certain
counterfeit bonds sold to Morgan Stanley by the Company following
affirmation by Morgan Stanley that such bonds had been authenticated by
Morgan Stanley. Morgan Stanley sought judgment against the Company for an
amount in excess of $3,870,000, together with costs, predicated on counts
of breach of warranty, breach of contract, unjust enrichment and mistake
of fact.
Thereafter, the Company initiated litigation against Morgan Stanley,
Virginia de Cristoforo, Robert Isbitts, Administracion de Seguros, S.A.
("de Seguros"), Consorcio de Seguros Polaris, S.A. and Michael E. Zapetis
in the United States District Court for the Southern District of Florida.
The suit claimed federal and state securities law and common law fraud,
negligence and other breaches by the parties in connection with the
issuance of invalid Bearer Bank Bonds purportedly issued by the Banco
Central de Venezuela in consideration for the acquisition of a controlling
interest in the Company by de Seguros which subsequently was rescinded by
the Company.
On October 29, 1996, the litigation was settled to the mutual satisfaction
of the parties. The terms of the settlement are not expected to adversely
affect the Company's operating results for any fiscal year. Pursuant to
the agreement among the parties, the terms of the settlement are deemed to
be confidential. Included in the settlement, however, is a reduction of
$1,500,000 in 1997 of the Credit Arising from Disputed Transactions.
(2) On July 16, 1996, the Company's subsidiary entered into an agreement to
purchase all of the voting stock of The Financial Group ("TFG") from its
shareholders ("Shareholders"), and upon consummation of that agreement,
TFG became a wholly-owned subsidiary of the Company. At the time of
purchase, TFG conducted a mortgage banking business and was involved in
F-30
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE I - CONTINGENCIES (Continued)
-------------------------
the origination, purchase and sale of residential mortgage loans. TFG
presently continues to operate a mortgage banking business. As part of the
stock purchase transaction, TFG entered into an agreement with the
Shareholders to allow them to operate a net branch and originate
residential mortgage loans under TFG's regulatory licenses and approvals.
On December 17, 1996, TFG received a letter from counsel to the
Shareholders which alleged numerous breaches, defaults and
misrepresentations by the Company in connection with the net branch
operation. The Shareholders have proposed a compromise pursuant to which
the Company would pay approximately $6,400 of accounting fees and computer
conversion costs allegedly incurred by the Shareholders, waive prior
advances to the Shareholders in the amount of approximately $12,000, and
the parties would execute mutual releases of all obligations between the
parties. The Company disputes those allegations and intends to vigorously
defend against these claims.
On July 1, 1995, the Company executed a Convertible Promissory Note in the
original principal amount of $956,250 (which included as a liability the
Company's balance sheet) in favor of Christian E. Carlsen, as Trustee
under a Land Trust Agreement dated September 19, 1992 ("Carlsen"). The
Carlsen Note matured on December 31, 1996, and remains unpaid. On January
6, 1997, the Company received written Notice of default from Carlsen as to
the payment of principal and interest. The Company is evaluating certain
of the circumstances concerning the initial incurrence of the obligation
in connection with the Company's 1994 acquisition of Membership Realty
Limited, Inc. and expects to commence negotiations concerning the Carlsen
Note with Carlsen in the proximate future. (See Note A.) In the absence of
settlement, the Company expects Carlsen to file suit to collect on the
Carlsen Note.
(3) On or about October 2, 1996, Jalmark Realty, Inc., an involuntarily
dissolved Florida Corporation, and Jalmark East Realty, Inc., a Florida
corporation, filed a Complaint against the Company, Real Estate Services
Network Holding Corp., its subsidiary and Mr. Francesco Morello, an
officer of the latter. The suit relates to an alleged breach of a 1995
agreement pursuant to which RESN had allegedly agreed to purchase the real
estate
F-31
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE I - CONTINGENCIES (Continued)
-------------------------
brokerage business of Jalmark Realty, Inc. for $250,000. In addition to
the breach of contract count, the Complaint alleges numerous other counts,
including, but not limited to, for fraudulent misrepresentations, tortious
interference with business relationship, defamation and violations of
Florida real estate laws. The Plaintiffs have alleged damages in excess of
$15,000, exclusive of interest and costs, and have reserved the right to
amend the Complaint to seek punitive damages. The Defendants have filed a
motion to dismiss the Complaint for failure to state a cause of action.
The motions to dismiss are set for hearing in early February 1997. At the
present time, no discovery has been conducted in this case.
(4) A case was filed on January 11, 1996 by the Addison Terry Company, a
business brokering firm, against Total National Telecommunications Inc.
(TNT). The plaintiff claims in this lawsuit that it is owed a brokerage
fee of $95,000 for the services it provided in connection with possible
financing for TNT. TNT signed a commitment letter, but no final agreement
was reached, and no financing was obtained. The plaintiff claims, however,
that it is entitled to its brokerage fee due to the signing of the
commitment letter. The plaintiff sues for the brokerage fee, attorneys'
fees, pre-judgment interest, post-judgment interest and costs of suit. TNT
denies that the brokerage fee is owed and intends to defend itself against
the plaintiff's claim. Further TNT has filed counterclaims against the
plaintiff asserting causes of action for breach of contract, breach of
fiduciary duty, negligence, negligent misrepresentation and violation of
the Texas Deceptive Trade Practices Act. TNT seeks to recover actual
damages in the total amount of $165,000, exemplary damages, pre-judgment
and post-judgment interest, attorneys' fees and costs of suit. The case is
currently in the discovery stage, and the parties have jointly moved for a
continuance of the January 6, 1997 trial date.
The following matters (items 5, 6, 7 and 8) aggregating $880,000 have been
charged to operations during the year ended September 30, 1996 and are included
in accrued expenses and other liabilities.
(5) On June 20, 1996, the Federal Communications Commission ("FCC") issued a
Notice of Apparent Liability proposing to assess a forfeiture against the
Company in the amount of $200,000 for unauthorized conversion of five long
distance customer accounts.
F-32
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE I - CONTINGENCIES (Continued)
-------------------------
The Company filed a Response with the FCC on July 29, 1996 arguing that
the proposed forfeiture amount be reduced. While the FCC is presently in
the process of reviewing the Company's Response, the Company is exploring
the possibility of a settlement with the FCC regarding this matter. At
September 30, 1996, the Company has accrued $200,000 relating to this
matter.
(6) In July 1996, a civil action was filed against Heartline Communications,
Inc. by the Attorney General in the State of New York. Negotiations have
proceeded, and it is estimated the monetary exposure in this matter to be
approximately $100,000, which the Company has accrued at September 30,
1996.
(7) In June 1996, a civil action was filed by the Middlesex County Office of
Consumer Affairs in New Jersey. This has not been consolidated with an
action by the Office of the Attorney General of New Jersey. Negotiations
are ongoing in this, and it is anticipated that the monetary settlement
range here will be near $80,000, which has been accrued.
(8) On August 30, 1996, an administrative subpoena was issued by the Orange
County District Attorney's ("OCDA") office requesting information
regarding the marketing of telecommunication services in California by
Heartline and TWT. Although a formal proceeding has not been instituted,
the OCDA asserts that Heartline/TWT may have violated Business and
Professions Code sections 17200 and 17500. These code sections provide for
civil penalties for unlawful and unfair business practices and false or
misleading advertising. By letter dated December 11, 1996, the OCDA
demanded in excess of $1,000,000 in return for resolving the matter
without litigation. Counsel believes the OCDA's demand exceeds any
reasonable estimate of Heartline/TWT's liability, and has been instructed
by TWT to vigorously defend the Company against these claims while
continuing to explore a reasonable settlement. The Company has charged
operations for $500,000 which has been accrued at September 30, 1996.
(9) On April 10, 1996, the California Public Utilities Commission
("Commission") issued an Order Instituting Investigation into the
operations of Heartline, Total National Telecommunications, Inc. ("TNT")
d/b/a Total World Telecom ("TWT") and their affiliates alleging that
Heartline/TWT had violated regulations governing how long distance
telephone customers are switched from one interexchange carrier to
another.
F-33
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE I - CONTINGENCIES (Continued)
-------------------------
On August 13, Heartline/TWT and Commission staff entered into a settlement
agreement to resolve the disputes among them and to settle and forever
dispose of all issues raised. The settlement agreement was approved by the
Commission on December 9, 1996. Pursuant to the settlement agreement, TWT
is prohibited from offering retail long distance service in California for
a period of forty months. In addition, TWT is required to pay $35,000 to
the Commission's general fund and refund $20.00 to all customers whose
long distance telephone service was allegedly switched to TWT/Heartline
without proper authorization. These customers may also seek additional
restitution through arbitration. While the exact amount of TWT's exposure
as a result of the settlement agreement is unknown at this time, the
Company has accrued $635,000 for this matter which adjusted the amounts of
liabilities assumed during the TNT acquisition.
(10) In June of 1996, a Class Action Complaint was filed in Cook County,
Illinois against Heartline Communications, Inc. and several other
defendants. This action was dismissed by the judge on November 26, 1996.
The plaintiffs had until December 24, 1996 to refile their petition;
however, as of this date, Heartline has not been notified of any refiling.
The Company is subject to various regulations of local, state and federal
governments and cannot determine if further claims similar to those described in
items (5) through (10) will be made. If other charges are made, the Company
cannot presently determine the results of such charges which may include fines
and restrictions on its business.
See also Notes B and C for information relating to mortgages.
NOTE J - COMMITMENTS
-----------
Lease Commitments
- -----------------
The Company leases offices, office equipment and autos under operating leases.
The following schedule summarizes future minimum lease payments required under
noncancelable operating leases entered into as of September 30, 1996.
F-34
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE J - COMMITMENTS (Continued)
-----------------------
Year Amount
---- ------
1997 $ 814,000
1998 658,000
1999 413,000
2000 222,000
2001 154,000
Thereafter -
-----------
$ 2,261,000
===========
Lease expense amounted to approximately $218,000 for the year ended September
30, 1996 and $256,000 for the year ended September 30, 1995.
Most of the Company's leases contain renewal options, and some contain
escalation clauses which require payments of additional rent to the extent of
increases in related operating costs. One of the Company's leases includes
certain rent concessions and scheduled base rent increases over the term of the
lease. The total amount of the base rent payments before concessions is being
charged to expense on the straight-line method over the term of the lease. The
Company has recorded a deferred liability to reflect the excess of rental
expenses in excess of rental payments since the inception of the lease.
NOTE K - STOCKHOLDERS' EQUITY
--------------------
Private Placements - Common Shares
- ----------------------------------
During 1995, the Company sold 4,500 shares of its common stock for net proceeds
totalling $67,500.
During 1996 and 1995, the Company issued 385,229 and 43,333 restricted shares,
respectively, of its common stock pursuant to Regulation S as exempt from the
registration provisions under the 1933 Securities Act and received net proceeds
of $1,851,368 and $277,500, respectively, as a result.
F-35
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE K - STOCKHOLDERS' EQUITY (Continued)
--------------------------------
Private Placements - Preferred Shares
- -------------------------------------
As of September 30, 1995, the Company received proceeds of $1,050,000 for
payment on a promissory note and recorded the issuance of 1,050 shares of the
Company's Series F Convertible Preferred Stock. The Company recorded the
issuance of the stock at its par value. On December 2, 1995, the Company
converted the preferred stock and issued 190,000 shares of the Company's common
stock. No additional Series F Preferred Shares were issued.
During the year ended September 30, 1996, the Company sold 170,900, 200,000 and
300,000 shares of Series H, I and J convertible preferred stock, respectively,
at $10.00 per share for aggregate net proceeds after commissions of $4,875,803.
All of these preferred shares were converted into 894,089 shares of common
stock.
In 1996, the Company sold 1,300,000 shares of Series K convertible preferred
shares at $10.00 per share and received $10,363,340 net of commissions and
expenses of $2,636,660. During the year ended September 30, 1996, 422,700 shares
of the Series K shares were converted into 714,627 common shares. Subsequent to
September 30, 1996, an additional 852,300 Series K preferred shares were
converted into 1,757,876 common shares. At December 31, 1996, 25,000 Series K
preferred shares were outstanding and are convertible into 54,668 common shares.
These preferred shares were sold pursuant to Regulation S as exempt from the
registration provisions under the Securities Act of 1933.
See Note B for information related to the issuances of Series M, N, O, P and Q
shares of preferred stock in connection with the acquisition of Total National
Telecommunications. Series N, P and Q were converted into 2,743,331 common
shares.
F-36
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE K - STOCKHOLDERS' EQUITY (Continued)
--------------------------------
The following summarizes the various series of preferred shares outstanding at
September 30, 1996:
Number of
Common Shares
Number of Into Which
Preferred Shares Convertible
---------------- --------------
Series A 73,000 730,000
Series K 877,300 1,812,544
Series M 231,000 1,539,999
Series O 35,000 443,333
--------- ---------
1,216,300 4,525,876
========= =========
See Subsequent Events Note L for additional preferred stock offerings.
Other Stock Issuances
- ---------------------
In August and June 1995, the Company entered into two consulting agreements
issuing as compensation an aggregate of 66,667 shares of its restricted common
stock. The Company calculated the compensation expense of $450,000 by taking the
fair value of the restricted shares issued on the dates of the Board of
Directors approved such agreements and recorded $18,750 as deferred
compensation. In determining such value, the Company took into consideration the
trading restrictions and the financial condition of the Company at the time.
In April and June 1995, the Company entered into two 90-day promissory notes,
each in the amount of $345,000 and each requiring issuance of 13,333 shares of
the Company's common stock. During the year ended September 30, 1995, the
Company recorded $163,480 of interest expense relating to the promissory notes,
calculated by valuing the 26,666 shares at the time the promissory notes were
entered into and an additional 1,467 shares when the note became delinquent, at
their fair value. In determining such value, the Company took into consideration
the trading restrictions and the financial condition of the Company at the time.
(See Note E.)
F-37
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE K - STOCKHOLDERS' EQUITY (Continued)
--------------------------------
In June 1995, the Company purchased an office condominium from the former owner
of MRL. (See Note E for further disclosure.) As part of the consideration for
such purchase, the Company issued 13,333 shares of the Company's restricted
common stock. The $66,010 value of the shares issued was calculated by valuing
such shares based on the fair value at the date of purchase.
During 1996, the Company issued 162,367 common shares for various financial
consulting services. Consulting costs of $1,475,510 were charged based on the
fair market value of the shares, of which $483,513 is included in prepaid
expenses after amortization of $71,702 and the remaining amount is included in
operations during the year ended September 30, 1996. 1,667 shares were issued to
an officer for compensation, and $14,500 was charged to operations based on the
quoted market value at the date of issuance.
As described in Note D, the Company acquired land in exchange for cash and
294,932 common shares. The shares have been valued at an estimated fair market
value of approximately $1,995,165.
Stock Options and Warrants
- --------------------------
Stock Options
- -------------
The Company periodically grants stock options to directors, employees and
consultants. The terms of the options granted are established by the Board of
Directors. Options granted pursuant to this program are as follows:
Option Price
Number of Shares Per Share
---------------- ---------
Outstanding-October 1, 1994 498,829 (a) $ 7.50 - 38.40
Granted - 1995 233,333 (b) $22.50 - 37.50
-------
Outstanding-September 30, 1995 732,162
Granted - Employees and
Directors 521,333 (b) $ 9.38 - 30.00
-------
Outstanding-September 30, 1996 1,253,495
=========
The option price exceeded the market price at September 30, 1996. All options
were granted at not less than the fair market value at date of grant. No options
have been exercised during the two years ended September 30, 1996.
F-38
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
_______________________
(a) All grants outstanding October 1, 1994 expire June 30, 1998
(b) All other options are usually exercisable over a five year period from the
date of grant unless employment is terminated.
Warrants
- --------
All warrants previously granted have expired without exercise.
NOTE L - SUBSEQUENT EVENTS
-----------------
Acquisitions
- ------------
On November 5, 1996, the Company acquired 100 percent of the outstanding stock
of Southwestern Telecom, Inc. ("SOW"), San Antonio, Texas, a "casual-user"
direct-dial long distance company. The purchase price for the acquisition was
$1,023,765 in cash. Southwestern Telecom is expected to expand on a geographic
basis where TWT already has an existing network to better utilize TWT's
origination and termination facilities.
On December 16, 1996, the Company completed the acquisition of all of the
capital stock of NETTouch Communications, Inc., Dallas, Texas ("NETTouch"). In
consideration for the acquisition, the Company paid to the principal
shareholders of NETTouch, $2,400,000 and issued a Common Stock Purchase Warrant
(the "Warrants") to acquire shares of Common Stock of the Company on or prior to
December 31, 2000 at an exercise price of $7.75 per share. In addition,
commencing with the month ended November 30, 1996, the Company is obligated to
make additional payments to such shareholders up to an aggregate of $4,800,000
based on NETTouch achieving incremental revenues, as defined. The actual number
of Warrants to be received is predicated on the level of revenues periodically
obtained by NETTouch during the 1997 calendar year. The principal shareholder of
NETTouch was Telecommunications Resources, Inc. ("TRI") also from Dallas, TX.
TRI is a software developer and provider of telecommunications platforms which
converge technologies and telecommunications services, such as worldwide
long-distance, voice mail, virtual fax, travel card, wireless messaging
notification, enhanced "follow me" features, conference calling, paging,
internet access, text-to-screen e-mail, website development and hosting, and the
convenience of single 1- 800/888 numbers. NETTouch currently markets these
bundled services under the brand name "N'Touch." Pursuant to the acquisition
agreement, N'Touch as a wholly-owned subsidiary of the Company will receive
licensing rights to market TRI's future products and services to the home-based
business segment.
F-39
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE L - SUBSEQUENT EVENTS (Continued)
-----------------------------
Other Events
- ------------
On December 9, 1996, the Company entered into a Note Purchase Agreement and
Registration Rights Agreement pursuant to which it issued its Promissory Note
(the "Note") in the amount of $8,000,000 to GFL Advantage Fund Limited, Curacao,
Netherlands Antilles ("GFL"), and received gross proceeds of $8,000,000. The
Note matures on December 9, 1998 and bears interest at the rate of 7 percent per
annum payable quarterly commencing February 1, 1997. The Note may be prepaid
prior to maturity without penalty or premium. Payment of principal and interest
may be paid in Common Stock of the Company under certain conditions.
GFL has the right at any time commencing on the earlier of March 7, 1997 or the
effective date of the Company's registration statement to be filed under the
Securities Act of 1933 to convert the principal amount and interest into Common
Stock of the Company into increments of $50,000 or more, by the lower of (i) 75%
of the applicable closing price of the Company's Common Stock prior to
conversion or (ii) $8.10. Such percentage is subject to reduction in the event
the Company is unable to comply with specified requirements regarding the
registration of the underlying Common Stock under the Securities Act of 1933
within the specified time period. The Company paid a finder's fee of $560,000 to
Wharton Capital Partners, Ltd. in connection with this transaction. The proceeds
of this financing were utilized in substantial part to complete the acquisition
of NETTouch Communications, Inc., which was consummated on December 16, 1996.
Sales of Equity Securities Pursuant to Regulation S Under the Securities and
- --------------------------------------------------------------------------------
Exchange Act
- ------------
The following represents sales of various series of $.00001 par value preferred
stock, which are redeemable at the Company's option, at $10 per share subsequent
to September 30, 1996 and through December 16, 1996, however, it is the
Company's intention to redeem such shares before conversion to common shares.
Such redemptions are usually at a negotiated premium of 20-25% and are dependent
on future financings.
F-40
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE L - SUBSEQUENT EVENTS (Continued)
-----------------------------
Sales of Equity Securities Pursuant to Regulation S Under the Securities and
- --------------------------------------------------------------------------------
Exchange Act (Continued)
- ------------------------
(1) On November 8, 1996, the Company issued 65,000 shares of its Series T
Convertible Preferred Stock for $10.00 per share to four non-U.S. resident
purchasers, and received net proceeds of $5,703,500 after payment of the
related finder's fee and expenses. One-half of the shares are convertible
into Common Stock of the Company at 75% of the closing bid price of such
Common Stock following 45 days after issuance, and the remaining 50
percent are convertible at 75% of the closing bid price 60 days after
completion of the offering.
(2) On November 18, 1996, the Company issued 56,200 shares of its Series U
Convertible Preferred Stock to ten non-U.S. resident purchasers, and
received net proceeds of $4,889,400 after payment of the related finder's
fee and expenses. Fifty percent of the shares are convertible into Common
Stock of the Company 45 days after the completion of the offering at 75%
of the closing bid price of the Common Stock, and the remaining 50 percent
is convertible 60 days after completion of the offering also at 75% of the
closing bid price prior to the date of conversion.
(3) On November 19, 1996, the Company issued 46,250 shares of its Series W
Convertible Preferred Stock to ten non-U.S. resident purchasers and
received net proceeds of $4,007,250 after payment of the related finder's
fee and expenses. Of this amount, 15,416 shares are convertible into
Common Stock of the Company 45 days after the completion of the offering
at 75% of the closing bid price of the Common Stock, and the remaining
shares are convertible 60 days after completion of the offering also at
75% of the closing bid price prior to the date of conversion. The
conversion price, however, may not exceed $12.00 for those holders
converting on or after 45 days, and no more than $6.00 for those holders
converting on or after 60 days following the completion of the offering.
(4) On November 26, 1996, the Company issued 11,250 shares of its Series X
Convertible Preferred Stock to 15 non-U.S. resident purchasers, and
received net proceeds of $1,057,485 after payment of related finder's fees
and expenses. Fifty percent of the shares are convertible into Common
Stock of the Company 60 days after the completion of the offering at 80%
F-41
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE L - SUBSEQUENT EVENTS (Continued)
-----------------------------
Sales of Equity Securities Pursuant to Regulation S Under the Securities and
- --------------------------------------------------------------------------------
Exchange Act (Continued)
- ------------------------
of the closing bid price of the Common Stock prior to conversion, and the
remaining 50 percent is convertible 90 days after completion of the
offering also at 80% of the closing bid price prior to the date of
conversion. The conversion price, however, may not exceed $12.00.
(5) On December 18, 1996, the Company issued 25,000 shares of its Series Y
Convertible Preferred Stock to a non-U.S. resident purchaser and received
net proceeds of $1,893,500 after payment of related finder's fees and
expenses. Fifty percent of the shares are convertible into Common Stock of
the Company 60 days after the completion of the offering at 75% of the
closing bid price of the Common Stock prior to conversion, and the
remaining 50 percent is convertible 90 days after completion of the
offering, also at 75% of the closing bid price prior to the date of
conversion.
The net proceeds of these transactions aggregated approximately
$17,551,000. All of the Series T, Series U, Series W, Series X and Series
Y Preferred Stock are subject to redemption by the Company prior to or at
the time of conversion. Based on negotiations with various holders of the
aforementioned Preferred Stock Series, the Company anticipates that
various of such holders will retain such Preferred Stock or roll-over or
exchange such Preferred Stock for alternative Preferred Stock Series
providing similar or revised terms. The Company may in some circumstances,
as determined by management, redeem various Preferred Stock Series in
accordance with the terms of such series. All of the purchasers will be
required to submit a separate opinion of counsel prior to removal of
restrictive legends on their stock certificates.
F-42
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE L - SUBSEQUENT EVENTS (Continued)
-----------------------------
Stock Repurchase
- ----------------
From October 1, 1996 through December 31, 1996, the Company instituted a program
to repurchase the Company's common stock. Repurchases of 1,531,866 shares of
common stock were completed under this program at a total cost of approximately
$10,409,330.
On November 5, 1996, the Company redeemed 52,500 Series M preferred shares
valued at $5,197,500 issued for the TNT acquisition (see Note B). The redemption
price was $2,625,000, and accordingly, the acquisition cost was reduced by the
difference between the original value and the redemption value of $2,572,500.
NOTE M - INDUSTRY SEGMENTS
-----------------
In 1996 and 1995, the Company operated in three business and two business
segments, respectively: (1) auditing services to assist credit unions and their
supervisory committees in performing comprehensive internal and regulatory
compliance audits; (2) real estate brokerage services which also provide
mortgage organization and title services; and (3) telecommunications industry,
providing origination and termination long distance services to Tier III and
Tier IV switchless resellers through long-term contracts.
Income (loss) from operations is total revenue less operating expenses. On
determining operating profit for industry segments, the following items have not
been considered: general corporate expenses and interest expense. Identifiable
assets by segment are those assets that are used in the Company's operations
within that industry. General corporate assets consist principally of land and
building and intangible assets.
INDUSTRY SEGMENTS
Year Ended Sept. 30,
--------------------
1996 1995
---- ----
Sales:
Telecommunications $ 15,814,779 $ -
Audit Fees 835,168 778,515
Real Estate Fees 4,934,927 3,236,571
------------ -----------
$ 21,584,874 4,015,086
============ ===========
F-43
<PAGE>
TOTAL WORLD TELECOMMUNICATIONS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
September 30, 1996
NOTE M - INDUSTRY SEGMENTS (Continued)
-----------------------------
Year Ended Sept. 30,
--------------------
1996 1995
---- ----
Income (Loss) from Operations:
Telecommunications $ (1,825,232) $ -
Audit Fees (259,935) (124,152)
Real Estate Fees (1,385,470) (429,090)
Corporate (6,882,917) (4,272,560)
------------- ------------
(10,353,554) (4,825,802)
Other income 332,346 261 005
Other expenses (2,103,889) (112,777)
------------- ------------
Loss before income taxes
as reported on the accom-
panying income statement $(12,125,097) $(4,677,574)
------------- ------------
Identifiable Assets:
Corporate $ 46,946,891 $ 5,959,366
Telecommunications 13,430,620 -
Audit services 250,042 132,761
Real estate brokerage 12,376,491 1,028,555
---------- -----------
General corporate assets 73,004,044 7,120,682
------------- ------------
Total assets as reported
in the accompanying
balance sheet $ 73,004,044 $ 7,120,682
============ ===========
Capital Expenditures:
Telecommunications $ 114,046 $ -
Audit Services 19,432 6,901
Real Estate Brokerage 519,884 33,493
General Corporate Assets - 10,047
------------ -----------
Total Capital Expenditures $ 653,362 $ 50,441
============= ===========
Depreciation:
Telecommunications $ 195,238 $ -
Audit Services 666 27,653
Real Estate Brokerage 138,381 84,004
General Corporate Assets 166,123 144,737
------------- ----------
Total Depreciation $ 500,408 $ 256,394
============= ===========
F-44
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS OF TOTAL WORLD TELECOMMUNICATIONS, INC. FOR THE FISCAL YEAR
ENDED ENDED SEPTEMBER 30, 1996, AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO
SUCH FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1
<S> <C>
<PERIOD-TYPE> 12-MOS
<FISCAL-YEAR-END> SEP-30-1996
<PERIOD-START> OCT-01-1995
<PERIOD-END> SEP-30-1996
<CASH> 1,704,020
<SECURITIES> 0
<RECEIVABLES> 8,343,714
<ALLOWANCES> 143,629
<INVENTORY> 0
<CURRENT-ASSETS> 19,367,450
<PP&E> 7,218,729
<DEPRECIATION> 2,092,897
<TOTAL-ASSETS> 73,004,044
<CURRENT-LIABILITIES> 30,128,854
<BONDS> 0
0
12
<COMMON> 66
<OTHER-SE> 38,808,046
<TOTAL-LIABILITY-AND-EQUITY> 73,004,044
<SALES> 0
<TOTAL-REVENUES> 21,584,874
<CGS> 19,082,736
<TOTAL-COSTS> 12,855,692
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 835,167
<INCOME-PRETAX> (12,125,097)
<INCOME-TAX> 0
<INCOME-CONTINUING> (12,125,097)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (12,125,097)
<EPS-PRIMARY> (6.31)
<EPS-DILUTED> (6.31)
</TABLE>
