SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-QSB
(Mark One)
/X/ QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
OR
/ / TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______ to _________
Commission File Number 000-21463
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Murdock Communications Corporation
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(Exact Name of Small Business Issuer as Specified in Its Charter)
Iowa 42-1337746
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(State or other jurisdiction of (IRS Employer Identification No.)
incorporation or organization)
1112 29th Avenue S.W., Cedar Rapids, Iowa 52404
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(Address of principal executive offices)
Registrant's telephone number, including area code: 319-362-6900
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by sections 13 or 15(d) of the Securities Exchange Act of 1934
during the preceding 12 months (or for such shorter period that the Registrant
was required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
---
On September 30, 1999, there were outstanding 10,459,750 shares of the
Registrant's no par value Common Stock.
Transitional Small Business Disclosure Format (check one):
Yes No X
-
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MURDOCK COMMUNICATIONS CORPORATION
FORM 10-QSB
September 30, 1999
INDEX
PART I - FINANCIAL INFORMATION
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Page
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Item 1. Consolidated Balance Sheets as of September 30, 1999
and December 31, 1998 3
Consolidated Statements of Operations for the Three
Months Ended September 30, 1999 and 1998 and for the
Nine Months Ended September 30, 1999 and 1998 5
Consolidated Statements of Cash Flows for the Nine
Months Ended September 30, 1999 and 1998 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 14
</TABLE>
PART II - OTHER INFORMATION
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Item 1. Legal Proceedings 22
Item 2. Changes in Securities and Use of Proceeds . 22
Item 3. Defaults Upon Senior Securities 22
Item 4. Submission of Matters to a Vote of Security Holders . 23
Item 5. Other Information 23
Item 6. Exhibits and Reports on Form 8-K 23
Signatures 24
</TABLE>
2
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PART I FINANCIAL INFORMATION
MURDOCK COMMUNICATIONS CORPORATION
CONSOLIDATED BALANCE SHEETS
September 30, 1999 and December 31, 1998
(Dollars in thousands)
<TABLE>
<CAPTION>
SEPTEMBER 30, 1999 DECEMBER 31, 1998
-------------------- -------------------
(Unaudited)
<S> <C> <C>
ASSETS
CURRENT ASSETS
Cash . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 255 $ 1,722
Accounts receivable, less allowance for doubtful accounts:
1999 - $944; 1998 - $655: . . . . . . . . . . . . . . . . . . . . . . . . 3,026 1,752
Notes receivable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 500 -
Prepaid expenses and other current assets. . . . . . . . . . . . . . . . . 536 281
-------------------- -------------------
TOTAL CURRENT ASSETS. . . . . . . . . . . . . . . . . . . . . . . . . . 4,317 3,755
PROPERTY AND EQUIPMENT
Land and building. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,467 1,172
Telecommunications equipment . . . . . . . . . . . . . . . . . . . . . . . 9,223 9,013
Furniture and equipment. . . . . . . . . . . . . . . . . . . . . . . . . . 803 748
-------------------- -------------------
11,493 10,933
Accumulated depreciation . . . . . . . . . . . . . . . . . . . . . . . . . (8,553) (8,097)
-------------------- -------------------
2,940 2,836
Telecommunications equipment under capital lease, net of accumulated
amortization : 1999 - $3,330; 1998 - $3,291 . . . . . . . . . . . . . . . 163 182
-------------------- -------------------
PROPERTY AND EQUIPMENT, NET . . . . . . . . . . . . . . . . . . . . . . 3,103 3,018
OTHER ASSETS
Goodwill - net of accumulated amortization: 1999 - $1,677; 1998 - $697. . 10,664 11,644
Cost of purchased site contracts, net of accumulated amortization: 1999 -
$767; 1998 - $670. . . . . . . . . . . . . . . . . . . . . . . . . . . . 87 174
Other intangible assets, net of accumulated amortization: 1999 - $796;
1998 - $348 . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 616 659
Investments, at cost . . . . . . . . . . . . . . . . . . . . . . . . . . . 6,938 1,500
Prepaid commissions. . . . . . . . . . . . . . . . . . . . . . . . . . . . 2,051 1,704
Other noncurrent assets. . . . . . . . . . . . . . . . . . . . . . . . . . 73 224
-------------------- -------------------
TOTAL OTHER ASSETS. . . . . . . . . . . . . . . . . . . . . . . . . . . 20,429 15,905
-------------------- -------------------
TOTAL . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 27,849 $ 22,678
==================== ===================
</TABLE>
See accompanying notes to consolidated financial statements.
3
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MURDOCK COMMUNICATIONS CORPORATION
CONSOLIDATED BALANCE SHEETS (CONTINUED)
September 30, 1999 and December 31, 1998
(Dollars in thousands)
<TABLE>
<CAPTION>
SEPTEMBER 30, 1999 DECEMBER 31, 1998
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(Unaudited)
<S> <C> <C>
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Notes payable . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 15,051 $ 7,401
Accounts payable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,744 1,205
Accrued expenses. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,987 2,059
Current portion of capital lease obligation principally with a related party. . . 1,255 869
Current portion of long-term debt with related parties. . . . . . . . . . . . . . 535 829
Current portion of long-term debt, others . . . . . . . . . . . . . . . . . . . . 94 199
-------------------- -------------------
TOTAL CURRENT LIABILITIES. . . . . . . . . . . . . . . . . . . . . . . . . . . 20,666 12,562
LONG-TERM LIABILITIES
Capital lease obligations principally with a related party, less current portion. 2,407 3,133
Long-term debt with related parties, less current portion . . . . . . . . . . . . 1,760 2,105
Long-term debt, others, less current portion. . . . . . . . . . . . . . . . . . . 1,004 725
Accumulated losses of joint venture in excess of initial investment . . . . . . . 22 61
Deferred income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10 15
-------------------- -------------------
TOTAL LIABILITIES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25,869 18,601
-------------------- -------------------
SHAREHOLDERS' EQUITY
8% Series A Convertible Preferred Stock, $100 stated value:
authorized 50,000 shares; issued and outstanding: 1999 and 1998 -
18,920 shares ($1,892 liquidation value) . . . . . . . . . . . . . . . . . . . . 1,861 1,837
Common stock, no par or stated value: authorized - 40,000,000 shares; issued
and outstanding: 1999 - 10,459,750; 1998 - 10,329,867 shares. . . . . . . . . . 20,045 19,835
Common stock warrants: Issued and outstanding: 1999 - 5,521,763; 1998 -
4,420,763. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 639 438
Additional paid-in capital. . . . . . . . . . . . . . . . . . . . . . . . . . . . 134 134
Accumulated deficit . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (20,699) (18,167)
-------------------- -------------------
TOTAL STOCKHOLDERS' EQUITY . . . . . . . . . . . . . . . . . . . . . . . . . . 1,980 4,077
-------------------- -------------------
TOTAL. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 27,849 $ 22,678
==================== ===================
</TABLE>
See accompanying notes to consolidated financial statements.
4
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MURDOCK COMMUNICATIONS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended and Nine Months Ended September 30, 1999 and 1998
(Dollars in thousands, except per share data)
(Unaudited)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPT. 30, 1999 SEPT. 30, 1998 SEPT. 30, 1999 SEPT. 30, 1998
---------------- ---------------- ---------------- ----------------
<S> <C> <C> <C> <C>
REVENUES
Call processing . . . . . . . . . . . . . . . $ 7,089 $ 9,401 $ 25,059 $ 23,812
Other revenues. . . . . . . . . . . . . . . . 636 369 2,452 1,155
---------------- ---------------- ---------------- ----------------
TOTAL REVENUES . . . . . . . . . . . . . . 7,725 9,770 27,511 24,967
COSTS OF SALES
Call processing . . . . . . . . . . . . . . . 4,999 6,716 17,365 16,157
Other cost of sales . . . . . . . . . . . . . 317 117 1,251 407
Nonstandard vendor related bad debt expense . 726 - 1,497 -
Nonstandard international bad debt expense. . - - 139 -
---------------- ---------------- ---------------- ----------------
TOTAL COST OF SALES. . . . . . . . . . . . 6,042 6,833 20,252 16,564
---------------- ---------------- ---------------- ----------------
GROSS PROFIT . . . . . . . . . . . . . . . . . . 1,683 2,937 7,259 8,403
OPERATING EXPENSES
Selling, general and administrative expenses. 1,984 1,620 5,819 4,909
Depreciation and amortization expense . . . . 572 441 1,773 1,353
---------------- ---------------- ---------------- ----------------
TOTAL OPERATING EXPENSES . . . . . . . . . 2,556 2,061 7,592 6,262
---------------- ---------------- ---------------- ----------------
INCOME (LOSS) FROM OPERATIONS. . . . . . . . . . (873) 876 (333) 2,141
NON-OPERATING INCOME (EXPENSE)
Interest expense, net . . . . . . . . . . . . (914) (652) (2,505) (1,685)
Other income (expense). . . . . . . . . . . . 221 (51) 568 (25)
---------------- ---------------- ---------------- ----------------
TOTAL NON-OPERATING INCOME (EXPENSE) . . . (693) (703) (1,937) (1,710)
---------------- ---------------- ---------------- ----------------
INCOME (LOSS) BEFORE INCOME TAX EXPENSE AND
JOINT VENTURE LOSS. . . . . . . . . . . . . . . (1,566) 173 (2,270) 431
Loss from joint venture. . . . . . . . . . - (6) - (119)
Income tax expense . . . . . . . . . . . . (38) (18) (113) (25)
---------------- ---------------- ---------------- ----------------
NET INCOME (LOSS). . . . . . . . . . . . . . . . (1,604) 149 (2,383) 287
DIVIDENDS AND ACCRETION ON 8% SERIES A
CONVERTIBLE PREFERRED STOCK . . . . . . . . . . (45) (46) (148) (129)
---------------- ---------------- ---------------- ----------------
NET INCOME (LOSS) ATTRIBUTABLE TO COMMON
SHAREHOLDERS. . . . . . . . . . . . . . . . . . $ (1,649) $ 103 $ (2,531) $ 158
================ ================ ================ ================
BASIC NET INCOME (LOSS) PER COMMON SHARE . . . . $ (0.16) $ 0.02 $ (0.24) $ 0.03
================ ================ ================ ================
BASIC WEIGHTED AVERAGE COMMON SHARES
OUTSTANDING . . . . . . . . . . . . . . . . . . 10,425,797 5,429,867 10,362,864 5,068,381
================ ================ ================ ================
DILUTED NET INCOME (LOSS) PER COMMON SHARE . . . $ (0.16) $ 0.01 $ (0.24) $ 0.03
================ ================ ================ ================
DILUTED WEIGHTED AVERAGE COMMON SHARES
OUTSTANDING . . . . . . . . . . . . . . . . . . 10,425,797 7,632,592 10,362,864 6,257,897
================ ================ ================ ================
</TABLE>
See accompanying notes to consolidated financial statements.
5
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MURDOCK COMMUNICATIONS CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine Months Ended September 30, 1999 and 1998
(Dollars in thousands)
(Unaudited)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPT. 30, 1999 SEPT. 30, 1998
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<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
NET INCOME (LOSS) . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ (2,383) $ 287
ADJUSTMENTS TO RECONCILE NET INCOME (LOSS) TO NET
CASH FLOWS FROM OPERATING ACTIVITIES:
Depreciation and amortization, including amortization of technology license. . . . . 1,773 1,315
Noncash interest expense . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 411 169
Gain on sale of equipment. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (5) -
Loss from joint venture. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . - 119
Changes in operating assets and liabilities, excluding the effects of acquisitions:
Receivables . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,274) (1,235)
Other current assets. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (256) (748)
Prepaid commissions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (347) -
Other noncurrent assets . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 151 69
Accounts payable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 539 (340)
Accrued expenses. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (25) 408
Deferred income . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (5) (97)
------------------- ----------------
NET CASH FLOWS FROM OPERATING ACTIVITIES. . . . . . . . . . . . . . . . . . . . . (1,421) (53)
CASH FLOW FROM INVESTING ACTIVITIES:
Purchases of property and equipment. . . . . . . . . . . . . . . . . . . . . . . . . (700) (1,119)
Proceeds from sale of equipment. . . . . . . . . . . . . . . . . . . . . . . . . . . 13 99
Payments for site contracts. . . . . . . . . . . . . . . . . . . . . . . . . . . . . (13) -
Cash paid for investments. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (5,438) -
Cash paid for note receivable. . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,000) -
Cash received on note receivable . . . . . . . . . . . . . . . . . . . . . . . . . . 500 -
Cash advanced to joint venture . . . . . . . . . . . . . . . . . . . . . . . . . . . (39) (78)
Cash paid for acquisitions . . . . . . . . . . . . . . . . . . . . . . . . . . . . . - (31)
Cash acquired with acquisitions . . . . . . . . . . . . . . . . . . . . . . . . . . - (2)
------------------- ----------------
NET CASH FLOWS FROM INVESTING ACTIVITIES. . . . . . . . . . . . . . . . . . . . . (6,677) (1,131)
CASH FLOW FROM FINANCING ACTIVITIES:
Payments on capital lease obligations, primarily to a related party. . . . . . . . . (340) -
Proceeds from capital lease obligations with a related party . . . . . . . . . . . . - 809
Borrowings on notes payable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8,773 3,782
Borrowings on long-term debt, others . . . . . . . . . . . . . . . . . . . . . . . . 943 -
Payments on notes payable. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,123) -
Payments on long-term debt with related parties. . . . . . . . . . . . . . . . . . . (670) (2,950)
Payments on long-term debt, others . . . . . . . . . . . . . . . . . . . . . . . . . (769) -
Proceeds from issuance of 8% Series A Convertible Preferred Stock. . . . . . . . . . - 267
Dividends on 8% Series A Convertible Preferred Stock . . . . . . . . . . . . . . . . - (54)
Proceeds from issuance of common stock . . . . . . . . . . . . . . . . . . . . . . . 35 -
Payments on offering costs and origination fees. . . . . . . . . . . . . . . . . . . (218) (114)
------------------- ----------------
NET CASH FLOW FROM FINANCING ACTIVITIES . . . . . . . . . . . . . . . . . . . . . 6,631 1,740
------------------- ----------------
NET INCREASE (DECREASE) IN CASH . . . . . . . . . . . . . . . . . . . . . . . . . . . . (1,467) 556
CASH AT BEGINNING OF PERIOD . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1,722 316
------------------- ----------------
CASH AT END OF PERIOD . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . $ 255 $ 872
=================== ================
SUPPLEMENTAL DISCLOSURES
Cash paid during the period for interest, principally to a related party . . . . . . 654 845
Cash paid during the period for income taxes . . . . . . . . . . . . . . . . . . . . 32 6
</TABLE>
See accompanying notes to consolidated financial statements.
6
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MURDOCK COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
THREE MONTHS ENDED AND NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
1. SIGNIFICANT ACCOUNTING POLICIES
---------------------------------
BASIS OF PRESENTATION
The accompanying unaudited interim consolidated financial statements have been
prepared by Murdock Communications Corporation (the "Company") in accordance
with generally accepted accounting principles for interim financial reporting
and the regulations of the Securities and Exchange Commission for quarterly
reporting. Accordingly, they do not include all information and footnotes
required by generally accepted accounting principles for complete financial
information. The foregoing unaudited interim consolidated financial statements
reflect all adjustments which, in the opinion of management, are necessary to
reflect a fair presentation of the financial position, the results of the
operations and cash flows of the Company and its subsidiaries for the interim
periods presented. All adjustments, in the opinion of management, are of a
normal and recurring nature. Operating results for the three months ended and
nine months ended September 30, 1999 are not necessarily indicative of the
results that may be expected for the full year ended December 31, 1999. For
further information, refer to the financial statements and footnotes thereto for
the year ended December 31, 1998, included in the Company's Annual Report on
Form 10-KSB (Commission File # 000-21463) as filed with the Securities and
Exchange Commission on March 31, 1999.
The accompanying consolidated financial statements have been prepared on a going
concern basis, which contemplates the realization of assets and the satisfaction
of liabilities in the normal course of business. The Company has an accumulated
deficit of $20.7 million, and current liabilities exceed current assets by $16.3
million at September 30, 1999. These factors, among others, indicate that the
Company may be unable to continue as a going concern for a reasonable period of
time. Management's plans to sustain operations include raising debt or equity
financings, extending or converting existing debt, receiving value from its
current investments and the other matters discussed under "Forward-Looking
Statements" in this report. On November 15, 1999, the Company announced it had
entered into an advisory agreement with Ladenburg Thalmann & Company and Berthel
Fisher & Company (see Note 7, "Subsequent Events," regarding the new advisory
agreement).
RECLASSIFICATIONS
Certain amounts in the 1998 unaudited interim consolidated financial statements
and certain amounts in the 1998 audited consolidated financial statements have
been reclassified to conform to the current year's presentation.
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company, the
accounts of Priority International Communications, Inc. and ATN Communications,
Incorporated ("PIC/ATN") and effective February, 1998, the accounts of Incomex,
Inc. ("Incomex"), its wholly owned subsidiaries. Significant intercompany
accounts and transactions have been eliminated in consolidation.
7
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USE OF ESTIMATES
During the quarter ended June 30, 1999, the PIC/ATN segment recorded a $771,000
nonstandard vendor related bad debt charge relating to billing and collection
issues for one type of call processing service provided by PIC/ATN to its
largest customer. PIC/ATN uses an independent billing and collection firm,
which advances funds to PIC/ATN before collecting from the end-user by billing
through a Bell Operating Company or other local telephone company. This billing
and collection firm reconciles amounts not ultimately collected from the
end-user through subsequent reductions of its payments to PIC/ATN in future
periods. During the second quarter of 1999, PIC/ATN experienced an amount of
reductions in these payments significantly in excess of PIC/ATN's and industry
historical experience. This nonstandard vendor related bad debt charge was
associated with billing and collection through one Bell Operating Company
related to billing and collection for PIC/ATN's largest customer. This
collection issue continued during the quarter ended September 30, 1999 and the
Company recorded an additional nonstandard vendor related bad debt charge in
the amount of $726,000 related to service provided by PIC/ATN to its largest
customer.
Based on a review of the current facts and circumstances, management believes
the amount of future charges, if any, could vary substantially and this matter
could have a material adverse effect on its consolidated financial position,
operating results and cash flows. Management has used its best efforts to
estimate a provision for bad debts at September 30, 1999, which is primarily
based on PIC/ATN's historical experience of the last six-month's charges and
historical experience of the industry for collections from the ultimate
end-user. The Company is in the process of taking actions to mitigate the
effect of this billing and collection issue in future periods.
2. NOTES PAYABLE AND LONG-TERM DEBT
------------------------------------
In July 1999, the Company received proceeds of $800,000 from the issuance of a
promissory note with a financial institution to refinance the existing note on
PIC/ATN's building and to upgrade the building for purposes of leasing a portion
to ACTEL. The note bears interest at 8.4% and principal and interest are due in
monthly installments of $7,834. The note is due October 5, 2004.
In August 1999, the Company received proceeds of $2.0 million from the issuance
of a promissory note to a related party. The note bears interest at 12% and
principal and interest are due February 9, 2000. Warrants to purchase 400,000
shares of the Company's common stock were issued in relation to the promissory
note at an exercise price of $3.31 per share. The Company assigned a fair value
of $64,000 to be written off over the term of the promissory note. In July
1999, the Company received proceeds of $250,000 from the issuance of a
promissory note to this same related party. This note was due and paid on the
receipt of the proceeds from the above $2.0 million note.
In June 1999, the Company completed a bridge financing in the amount of
$2,000,000. Pursuant to the bridge financing, the Company issued a note in the
principal amount of $2,000,000. This principal and all unpaid accrued interest
at 12% per annum were due July 21, 1999. The Company was past due on this note
effective July 21, 1999, and subsequently in August 1999, the Company was in
violation of a covenant limiting the incurrence of other indebtedness.
Effective July 22, 1999, as provided for in the terms of the note, interest
accrued on the unpaid balance at 14% per annum from July 22, 1999 until August
20, 1999, at 16% per annum from August 21, 1999 until September 21, 1999 and at
8
<PAGE>
18% per annum from September 22, 1999 until such principal is paid in full.
Warrants to purchase 250,000 shares of the Company's common stock were issued in
relation to the promissory note at an exercise price of $3.50 per share and may
be exercised at anytime through June 21, 2009. Because the Company did not
repay the note on or prior to September 21, 1999, the warrants may be exercised
to purchase a total of 500,000 shares of the Company's common stock. The
Company has assigned a fair value of $80,000 to the warrants, that has been
capitalized as deferred loan costs and are being written off over the life of
the note. The exercise price and the number of shares of common stock
purchasable upon the exercise of the warrants are subject to adjustment upon the
occurrence of certain events, including stock dividends, stock splits and the
issuance by the Company of shares of common stock or other securities
convertible into or exercisable to purchase shares of common stock at a price
below the then fair market value of the Company's common stock. The Company
registered the warrants and the shares of common stock underlying the warrants
in September 1999. The note is secured by a collateral pledge in the stock of
the Company's subsidiaries and a security interest in all of the unencumbered
assets of the Company and its subsidiaries.
As of September 30, 1999 the Company was past due on $2.0 million of notes
payable to individuals. Of the $2.0 million of past due notes payable to
individuals, $300,000 has been extended to March 2000. Effective April 1, 1999,
as provided for in the terms of the note, interest on the remaining $1.7 million
of past due notes increased from 14% to 18% per annum.
As of September 30, 1999 the Company had an unpaid balance past due to an
affiliate of Berthel Fisher & Company (collectively with its subsidiaries and
their affiliated leasing partnerships, "Berthel") of approximately $556,000.
The unpaid balance is in violation of certain of the covenants in the Berthel
leasing agreements. Berthel has the right to demand that the Company cure this
violation, but has not made such a demand as of the date of this report.
In April 1999, the Company entered into a loan commitment letter with a major
lending institution for a senior secured credit facility of up to $25 million.
This commitment letter has expired.
3. CONTINGENCIES AND LEGAL PROCEEDINGS
--------------------------------------
Incomex commenced an arbitration proceeding against EILCO Leasing Services, Inc.
("Eilco"), a creditor of Incomex, to resolve a dispute regarding a loan
agreement between Incomex and Eilco. Eilco claimed that Incomex was in
violation of certain covenants of the loan agreement, including provisions
relating to certain obligations of Incomex to make payments to Eilco based on
Incomex's income from telecommunications services provided to a group of hotels
in Mexico. Incomex disputed these claims and initiated the arbitration to
resolve the dispute. An arbitration hearing with respect to this matter
commenced in April 1999. In June 1999, the arbitrator ruled that, after a
credit for the remaining principal balance of $341,444, Eilco owes Incomex
damages in the sum of $231,162, plus $3,161 for arbitration fees and expenses.
Subsequent to June 30, 1999, Incomex filed a petition against Eilco for payment
of the settlement and Eilco filed a petition that the judge acted without
merit in his judgment. On September 24, 1999 Incomex received a judgment
confirming the arbitration award. As of September 30, 1999, pending resolution,
the full amount of the arbitration award has been recorded as other income, in
addition
9
<PAGE>
to accrued interest at 10% from May 31, 1999, subject to the creation of a
reserve for the entire amount due to the uncertainty of collection.
4. INCOME TAX EXPENSE
--------------------
The provision for income taxes consisted of the following for the nine month
periods ended September 30, 1999 and 1998 (amounts expressed in thousands):
<TABLE>
<CAPTION>
1999 1998
----- -----
<S> <C> <C>
Current:
Federal $ - $ -
State . 113 25
</TABLE>
At September 30, 1999, the Company has net operating loss carryforwards for
federal income tax purposes of approximately $13 million to use to offset future
taxable income. These net operating losses will expire, if unused, from
December 31, 2002 through 2012.
5. INVESTMENTS
-----------
During 1998, the Company reached an agreement to invest in ACTEL Integrated
Communications, Inc. ("ACTEL") of Mobile, Alabama. As of June 30, 1999, the
Company had invested $3,000,000 plus related expenses of $26,000 plus dividends
accrued of $168,000 as explained below. Effective June 21, 1999, the Company
and ACTEL entered into an agreement to amend the terms of the original
Investment Agreement with respect to the Company's investment in ACTEL. This
agreement amended certain provisions of the Investment Agreement including
limiting the Company's investment in ACTEL to $3,000,000. During the third
quarter, the $3,000,000 investment was converted into 3,000,000 shares of
ACTEL's Series A Convertible Preferred Stock as allowed by the Investment
Agreement. Each share of Series A Convertible Preferred Stock accrues a 10%
dividend per annum and may be converted to 1.46 shares of ACTEL's common stock
at any time on or before March 10, 2002 at the option of the Company. In
addition, the Company loaned $1,000,000 to ACTEL under the terms of a promissory
note dated June 23, 1999. As of September 23, 1999, $500,000 had been
received by the Company in partial payment of the promissory note. According to
the terms of the note, the balance remaining will continue as a loan due on
demand sixty days thereafter with an interest rate of 18% per annum for the
unpaid balance for that sixty days or part thereof.
During 1998, the Company reached an initial lending/investment agreement with
AcNet S.A. de C.V. ("AcNet Mexico"). In June, 1999 the Company entered into two
agreements providing the Company with separate options to acquire (i)
Intercarrier Transport Corporation ("ITC"), the holder of approximately 99% of
the outstanding shares of AcNet Mexico, and (ii) AcNet USA, Inc. ("AcNet USA"),
an affiliate of AcNet Mexico, for an aggregate of 2,325,000 shares of the
Company's common stock, $200,000 in closing costs and an additional $558,000 to
pay off certain debt and accounts payable. The option with ITC expires August
31, 2001 and the option with AcNet USA expires December 31, 1999. Because there
are significant conditions remaining to be satisfied with respect to these
proposed acquisitions, including the negotiation of definitive acquisitions
agreements, due diligence investigations and the decision to exercise the
options to complete the proposed acquisitions, the Company cannot make
assurances that the proposed acquisitions will be completed
10
<PAGE>
or, if completed, that the terms of the proposed acquisitions will be as
presently contemplated. As of September 30, 1999, the Company had invested
$2,770,000 in AcNet Mexico and from October 1, 1999 through November 12, 1999
had invested an additional $120,000. As of September 30, 1999, the Company had
invested $956,000 in AcNet USA and from October 1, 1999 through November 12,
1999 had invested an additional $40,000.
6. BUSINESS SEGMENT INFORMATION
------------------------------
In June 1997, Statement of Financial Accounting Standards No. 131, "Disclosures
About Segments of an Enterprise and Related Information", was issued effective
for fiscal years ending after December 15, 1998. The Company's reportable
segments are structured into a decentralized organizational structure resulting
in three stand-alone business units. While all three business units are engaged
in the business of providing telecommunications services to hospitality and
payphone businesses, they are managed separately largely due to a series of
acquisitions the Company completed in 1997 and 1998.
The Company's three reportable segments are PIC/ATN, Incomex and Murdock
Technology Services ("MTS"). The Company provides long-distance
telecommunications services to hotels and payphone owners in the United States
through the PIC/ATN business unit. The services include, but are not limited
to, live operator services, credit card billing services, automated collection
and messaging delivery services, voice mail services, telecommunications
consulting services and carrier assisted call processing with PIC/ATN operators
on location. The Incomex business unit provides international operator services
to hotels and payphone owners in Mexico on international calls from Mexico to
the United States. The MTS business unit was created in 1998 to meet the needs
of the hospitality telecommunications management market by providing database
profit management services and other value added services. The MTS business
unit was formerly the operating unit of the Company responsible for marketing of
AT&T operator services until the contract was terminated during the fourth
quarter of 1998.
The accounting policies of the reportable segments are the same as those
described above. The Company evaluates the performance of its operating units
based on income (loss) from operations. Summarized financial information
concerning the Company's reportable segments, net of intercompany eliminations,
is shown in the following table as of and for the three months ended September
30, 1999 and 1998 (amounts expressed in thousands). The "Other" column includes
corporate related items.
<TABLE>
<CAPTION>
PIC/ATN INCOMEX MTS OTHER TOTAL
<S> <C> <C> <C> <C> <C>
1999
Revenues. . . . . . . . . . . $ 5,443 $ 1,393 $ 889 $ - $ 7,725
Income (loss) from operations 213 (284) (302) (500) (873)
Total assets. . . . . . . . . 4,183 2,880 2,014 18,772 27,849
Depreciation and amortization
expense . . . . . . . . . . 126 5 115 326 572
Interest expense. . . . . . . 217 2 155 540 914
Capital expenditures. . . . . 389 4 8 - 401
11
<PAGE>
1998
Revenues. . . . . . . . . . . 6,696 1,741 1,333 - 9,770
Income (loss) from operations 980 528 (289) (343) 876
Total assets. . . . . . . . . 3,986 1,599 2,307 6,217 14,109
Depreciation and amortization
expense . . . . . . . . . . 115 2 166 158 441
Interest expense. . . . . . . 170 90 163 229 652
Capital expenditures. . . . . 743 7 52 - 802
</TABLE>
Financial information relating to the Company's operations by geographic area as
of and for the three months ended September 30, 1999 and 1998 was as follows
(amounts expressed in thousands):
<TABLE>
<CAPTION>
1999 1998
<S> <C> <C>
Revenues:
United States . . . . . . . . . . . . . $ 6,309 $ 8,029
Mexico. . . . . . . . . . . . . . . . . 1,393 1,741
Canada. . . . . . . . . . . . . . . . . 23 -
------- -------
Total. . . . . . . . . . . . . . . . $ 7,725 $ 9,770
======= =======
Long-lived assets (excluding investments):
United States . . . . . . . . . . . . . $14,543 $ 9,681
Mexico. . . . . . . . . . . . . . . . . 2,051 924
------- -------
Total. . . . . . . . . . . . . . . . $16,594 $10,605
======= =======
</TABLE>
Summarized financial information concerning the Company's reportable segments,
net of intercompany eliminations, is shown in the following table as of and for
the nine months ended September 30, 1999 and 1998 (amounts expressed in
thousands). The "Other" column includes corporate related items.
<TABLE>
<CAPTION>
PIC/ATN INCOMEX MTS OTHER TOTAL
<S> <C> <C> <C> <C> <C>
1999
Revenues. . . . . . . . . . . $ 16,763 $ 7,333 $3,415 $ - $27,511
Income (loss) from operations 1,220 1,349 (714) (2,188) (333)
Total assets. . . . . . . . . 4,183 2,880 2,014 18,772 27,849
Depreciation and amortization
expense . . . . . . . . . . 359 14 420 980 1,773
Interest expense. . . . . . . 489 170 418 1,428 2,505
Capital expenditures. . . . . 550 6 144 - 700
12
<PAGE>
1998
Revenues. . . . . . . . . . . 14,032 6,465 4,470 - 24,967
Income (loss) from operations 2,270 1,974 (780) (1,323) 2,141
Total assets. . . . . . . . . 3,986 1,599 2,307 6,217 14,109
Depreciation and amortization
expense . . . . . . . . . . 312 7 616 418 1,353
Interest expense. . . . . . . 360 278 440 607 1,685
Capital expenditures. . . . . 818 15 286 - 1,119
</TABLE>
Financial information relating to the Company's operations by geographic area as
of and for the nine months ended September 30, 1999 and 1998 was as follows
(amounts expressed in thousands):
<TABLE>
<CAPTION>
1999 1998
<S> <C> <C>
Revenues:
United States $20,107 $18,502
Mexico. . . . 7,333 6,465
Canada. . . . 71 -
------- -------
Total. . . $27,511 $24,967
======= =======
</TABLE>
7. SUBSEQUENT EVENTS
------------------
Subsequent to the end of the third quarter, the Company announced on November
15, 1999 that it entered into an advisory agreement with Ladenburg Thalmann &
Company and Berthel Fisher & Company to leverage the Company's investments to
expand operations and reduce debt. The anticipated financing would also provide
funds for the Company's planned merger with AcNet USA and AcNet Mexico.
Ladenburg Thalmann and Berthel Fisher have been engaged to explore opportunities
to raise cash for the Company including realizing value from its investments in
Actel and PIC/ATN.
Subsequent to quarter end, the Company amended the terms of its outstanding
publicly-traded Common Stock Purchase Warrants to extend the expiration date of
the Warrants from October 21, 1999 to April 21, 2000. During the extension
period following October 21, 1999 the Company will not be obligated to make any
further adjustments to the exercise price of the Warrants or the number of
shares for which the Warrants may be exercised under the anti-dilution terms of
the Warrant agreement.
As of October 31, 1999, the Company was past due on a $400,000 note payable to a
financial institution. As of the date of this report the financial institution
has not demanded repayment of the note.
13
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following is a discussion of the Company's financial condition, results of
operations and capital resources. The discussion and analysis should be read in
conjunction with the Company's unaudited consolidated financial statements and
notes thereto included elsewhere within this report.
RESULTS OF OPERATIONS
- -----------------------
COMPARISON OF THREE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
- ---------------------------------------------------------------------
REVENUES - Consolidated revenues decreased $2.1 million, or (21.4)%, to $7.7
million for the three months ended September 30, 1999 from $9.8 million for the
three months ended September 30, 1998. Revenues from PIC/ATN decreased $1.3
million to $5.4 million for the three months ended September 30, 1999 from $6.7
million for the three months ended September 30, 1998, primarily due to the
discontinuation of the international call traffic with a principal customer.
During 1998, PIC/ATN billed the traffic for this customer, and revenues from
this customer totaled $1.4 million, with a gross profit margin of approximately
$61,000, for the three months ended September 30, 1998 and $4.2 million, or
12.0% of the total revenues of the Company, for the year ended December 31,
1998. The relationship with this customer was restructured in February 1999,
and, from February 1999 to June 1999, PIC/ATN provided outsourced billing and
collection services to this customer on a fee basis only in lieu of billing the
traffic. As a result, revenues from this customer declined, but the gross
profit margin on this customer was not materially affected. Effective June
1999, this customer terminated its relationship with PIC/ATN. Accordingly, this
relationship is not expected to produce further revenues and margins for the
Company. The Company's gross profit related to this Customer was none, $159,000
and $159,000 for the three month period ended September 30, 1999, the nine month
period ended September 30, 1999 and the year ended December 31, 1998,
respectively.
Revenues from Incomex decreased $351,000 to $1.4 million for the three months
ended September 30, 1999 from $1.7 million for the three months ended September
30, 1998. The decrease was primarily due to the short-term disruption of calls
processed during the change to a different billing and collections company and
due to a cash shortage, which limits the ability of Incomex to attract new
customers and maintain existing customers.
Revenues from MTS declined $444,000 to $890,000 for the three months ended
September 30, 1999 from $1.3 million for the three months ended September 30,
1998 due to the termination of the Lodging Partnership Program with AT&T in
October, 1998. Call processing revenues generated by MTS through its Lodging
Partnership Program decreased from $539,000 for the three months ended September
30, 1998 to none for the three months ended September 30, 1999. MTS's revenues
for the three months ended September 30, 1999 consisted of revenues from its
TeleManager services and equipment sales.
COST OF SALES - Consolidated cost of sales decreased $791,000, or (11.6)%, to
$6.0 million for the three months ended September 30, 1999 from $6.8 million for
the three months ended September 30, 1998. Consolidated cost of sales, as a
percentage of revenues, was 78.2 % for the three months ended September 30, 1999
compared to 69.9% for the three months ended September 30, 1998. The increase
was primarily attributable to the PIC/ATN segment, which experienced higher cost
of sales as a percentage of revenues due to a $726,000 non-standard vendor
related bad debt charge as discussed below. During the quarter ended June 30,
1999, the Company recorded a $771,000 nonstandard vendor related bad debt charge
relating to billing and collection
14
<PAGE>
issues for one type of call processing service provided by PIC/ATN to its
largest customer. PIC/ATN uses an independent billing and collection firm which
advances funds to PIC/ATN before collecting from the end-user by billing through
a Bell Operating Company or other local telephone company. This billing and
collection firm reconciles amounts not ultimately collected from the end-user
through subsequent reductions of its payments to PIC/ATN in future periods.
During the second quarter of 1999, PIC/ATN experienced an amount of reductions
in these payments significantly in excess of PIC/ATN's historical experience.
This nonstandard vendor related bad debt was associated with billing and
collection through one Bell Operating Company related to billing and collection
for PIC/ATN's largest customer. This collection issue continued during the
quarter ended September 30, 1999 and the Company recorded an additional
nonstandard vendor related bad debt expense in the amount of $726,000.
The Company anticipates that these charges will continue and management has used
its best efforts to estimate a provision for bad debts at September 30, 1999.
The Company is in the process of taking actions to mitigate the effect of this
billing and collection issue in future periods. However, no assurance can be
given that PIC/ATN will not continue to experience similar billing and
collection issues in excess of this nonstandard bad debt charge which would have
a material adverse effect on the Company's results of operations and cash flows
in future periods.
Excluding the impact of the $726,000 non-standard charge, consolidated cost of
sales, as a percentage of revenues, was 68.8% for the three months ended
September 30, 1999 compared to 69.9% for the three months ended September 30,
1998.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSE -Consolidated selling, general and
administrative expense increased $365,000, or 22.5%, to $2.0 million for the
three months ended September 30, 1999 from $1.6 million for the three months
ended September 30, 1998. Selling, general and administrative expense, as a
percentage of revenues, was 25.6% for the three months ended September 30, 1999
compared to 16.5% for the three months ended September 30, 1998. The dollar
increase was primarily due to higher compensation expenses including increased
costs of additional personnel to devote time to the pending acquisitions of
AcNet USA and AcNet Mexico and higher legal and professional fees.
DEPRECIATION AND AMORTIZATION - Consolidated depreciation and amortization
increased $131,000, or 29.7%, to $572,000 for the three months ended September
30, 1999 from $441,000 for the three months ended September 30, 1998. The
increase is primarily the result of additional goodwill of $4.4 million recorded
in the fourth quarter of 1998 for the settlements of the earn-outs in connection
with the Company's acquisition of PIC and Incomex, which is being amortized over
the remaining life of the original goodwill. This will continue to result in
higher amortization expenses in future periods.
INTEREST EXPENSE - Consolidated interest expense, including amortization of debt
discount, increased $262,000, or 40.1%, to $914,000 for the three months ended
September 30, 1999 from $652,000 for the three months ended September 30, 1998.
The increase was primarily due to additional debt incurred related to the
investments in ACTEL, AcNet Mexico and AcNet USA, the costs associated with the
acquisition of PIC/ATN and Incomex, an increase in the interest rate on the past
due debt and general working capital purposes. As a result, higher interest
expense will continue in future periods.
OTHER INCOME (EXPENSE) - Consolidated other income (expense) increased $272,000
to $221,000 for the three months ended September 30, 1999 from ($51,000) for the
nine months ended September 30, 1998. During
15
<PAGE>
September 1999, the Company converted its investment in ACTEL to Series A
Preferred Stock. As of September 30, 1999, in accordance with the terms of the
ACTEL Series A Preferred Stock, the Company recorded $168,000 of accrued
dividends as other income based on the date of the original investment made by
the Company in ACTEL.
COMPARISON OF NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
- --------------------------------------------------------------------
The information for the nine months ended September 30, 1998 in the following
analysis includes the statement of operations data of Incomex after the
consummation of the Incomex acquisition effective February 1998.
REVENUES - Consolidated revenues increased $2.5 million, or 10.0%, to $27.5
million for the nine months ended September 30, 1999 from $25.0 for the nine
months ended September 30, 1998. Revenues from PIC/ATN increased $2.7 million
to $16.8 million for the nine months ended September 30, 1999 from $14.1 million
for the nine months ended September 30, 1998 due to increases in the number of
consumer alternative dialing accounts and better call completion ratios,
partially offset by a decline in revenues from a principal customer as discussed
below.
During 1998, PIC/ATN's operator services business unit began providing services
to a principal customer for long distance services originating from Mexico.
During 1998, the Company provided full service in connection with the customer's
calls including billing and collections and accordingly recognized as revenues
the value of such billed services. The results were that 1998 revenues from
this customer totaled $4.2 million or 12.0% of the total revenues of the
Company. The results were that revenues from this customer for the nine months
ended September 30, 1998 totaled $1.5 million, or 6.0% of total revenues of the
Company. In the first quarter of 1999, the Company modified its relationship
with the customer whereby calls were processed and billing records were
delivered to the customer for submission to the customer's billing service. The
Company received fees for its services that were recognized as revenues rather
than the billed value of the calls. Accordingly, the revenues associated with
this customer included in the results for the nine months ended September 30,
1999 represents a blending of full service revenues, representing the period
from January 1 through February 4, 1999, and fee revenues from February 5
through June 30, 1999. Total revenues relative to the customer for the nine
months ended September 30, 1999 were $3.6 million or 13.1% of the total revenues
of the Company for the period. Effective June 1999, this customer terminated
its relationship with PIC/ATN. Accordingly, this relationship is not expected
to produce further revenues and margins for the Company.
Revenues from Incomex increased $865,000 to $7.3 million for the nine months
ended September 30, 1999 from $6.5 million for the nine months ended September
30, 1998. The increase was primarily due to an increase in the number of rooms
under contract with Mexican resort hotels and a shift toward Mexican resort
hotels with greater call traffic to the United States.
Revenues from MTS declined $1.1 million to $3.4 million for the nine months
ended September 30, 1999 from $4.5 million for the nine months ended September
30, 1998 due to the termination of the Lodging Partnership Program with AT&T in
October, 1998. Call processing revenues generated by MTS through its Lodging
Partnership Program decreased from $2.0 million for the nine months ended
September 30, 1998 to none for the nine months ended September 30, 1999. MTS's
revenue for the nine months ended September 30, 1999 consisted of revenues from
its TeleManager services and equipment sales.
16
<PAGE>
COST OF SALES - Consolidated cost of sales increased $3.6 million, or 21.8%, to
$20.2 million for the nine months ended September 30, 1999 from $ 16.6 million
for the nine months ended September 30, 1998. Consolidated cost of sales, as a
percentage of revenues, was 73.3% for the nine months ended September 30, 1999
compared to 66.3% for the nine months ended September 30, 1998. The increase in
cost of sales is primarily attributable to the associated increase in revenues
for the nine months ended September 30, 1999 and to the PIC/ATN segment which
experienced higher cost of sales as a percentage of revenues due to a $1.4
million nonstandard vendor bad debt charge as discussed above in cost of sales
for the three months ended September 30, 1999.
The Company also recorded a nonstandard charge of $139,000 for the nine months
ended September 30, 1999 associated with a dispute in collection procedures and
policies with an international billing and collection processor of Incomex that
originated in the fourth quarter of 1998. Incomex changed vendors in April 1999
and does not expect a recurrence of this issue.
Excluding the impact of the $1.4 million and the $139,000 non-standard charges,
consolidated cost of sales, as a percentage of revenues, was 67.6% for the nine
months ended September 30, 1999 compared to 66.3% for the nine months ended
September 30, 1998. The increase in consolidated cost of sales as a percentage
of revenue is primarily attributable to higher costs at Incomex for commissions
and bad debt over the prior year.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSE -Consolidated selling, general and
administrative expense increased $911,000, or 18.5%, to $5.8 million for the
nine months ended September 30, 1999 from $4.9 million for the nine months ended
September 30, 1998. Selling, general and administrative expense, as a
percentage of revenues, was 21.1% for the nine months ended September 30, 1999
compared to 19.6% for the nine months ended September 30, 1998. The dollar
increase was primarily due to the increased expenses associated with the lawsuit
settlements as discussed in prior quarters, increases in other legal and
professional fees and higher compensation expenses including increased costs of
additional personnel to devote time to the acquisitions of AcNet USA and AcNet
Mexico.
DEPRECIATION AND AMORTIZATION - Consolidated depreciation and amortization
increased $420,000, or 31.0%, to $1.8 million for the nine months ended
September 30, 1999 from $1.4 million for the nine months ended September 30,
1998. The increase is primarily the result of additional goodwill of $4.4
million recorded in the fourth quarter of 1998 for the settlements of the
earn-outs in connection with the Company's acquisition of PIC and Incomex, which
is being amortized over the remaining life of the original goodwill. This will
continue to result in higher amortization expenses in future periods.
INTEREST EXPENSE - Consolidated interest expense, including amortization of debt
discount, increased $820,000, or 48.6%, to $2.5 million for the nine months
ended September 30, 1999 from $1.7 million for the nine months ended September
30, 1998. The increase was primarily due to additional debt incurred related to
the investments in ACTEL and AcNet, the costs associated with the acquisition of
PIC/ATN and Incomex, an increase in the interest rate on the past due debt and
general working capital purposes. As a result, higher interest expense will
continue in future periods.
OTHER INCOME (EXPENSE) - Consolidated other income (expense) increased $593,000
to $568,000 for the nine months ended September 30, 1999 from ($25,000) for the
nine months ended September 30, 1998. The increase was primarily due to Incomex
recording $341,444 as other income during the quarter ended June 30, 1999, as
part of a settlement award based on an arbitrator's ruling on the proceedings
Incomex had commenced against Eilco. During the quarter ended September 30,
1999 the Company recorded $168,000 as other income
17
<PAGE>
for dividends accrued on their investment in ACTEL, as discussed under
"Investments" in the notes to the unaudited financial statements.
LIQUIDITY AND CAPITAL RESOURCES
- ----------------------------------
At September 30, 1999, the Company's current liabilities of $20.7 million
exceeded current assets of $4.3 million resulting in a working capital deficit
of $16.4 million. During the nine months ended September 30, 1999, the Company
used $1.4 million in cash for operating activities, and used $6.7 million in
investing activities. The Company received proceeds from new debt financing of
$9.7 million and made payments on debt of $3.1 million, for net cash flows from
financing activites of $6.6 million. These activities resulted in a decrease in
available cash of $1.5 million for the nine months ended September 30, 1999.
The Company's debt and capital lease obligations as of September 30, 1999,
including the current portion thereof, totaled $22.1 million compared to $15.3
million at December 31, 1998. The Company's current debt and lease obligations
as of September 30, 1999 totaled $16.9 million compared to $9.3 million at
December 31, 1998.
The billing and collection issue with PIC/ATN's largest customer (See "Results
of Operations" above) decreased the Company's cash flow by $372,000 for the
three months ended September 30, 1999. Although the Company expects to take
actions to mitigate the effect of this billing and collection issue in future
periods, no assurance can be given that PIC/ATN will not continue to experience
similar billing and collection issues in future periods. Any continuation of
this issue could have a material adverse effect on the Company's cash flows and
financial condition.
The Company's principal sources of capital to date have been public and private
offerings of debt and equity securities and lease and debt financing
arrangements with Berthel to purchase telecommunications equipment. The Company
currently makes monthly lease and debt payments, including operating lease
payments of approximately $163,000 in the aggregate, pursuant to these financing
arrangements. As of September 30, 1999, the Company has not made the majority
of June through September 1999 payments. Berthel has the right to demand that
the Company cure this violation, but has not made such a demand as of the date
of this report.
As of September 30, 1999, the Company was past due in the payment of
approximately $4.6 million of indebtedness, including $556,000 in lease and debt
financing from Berthel, a $2.0 million bridge loan and $2.0 million of notes
payable to individuals. The past due bridge loan and notes payable currently
accrue interest at a rate of 18% per annum. An additional $8.9 million of the
Company's debt will be due in the fourth quarter of 1999. The bridge loan is
secured by a collateral pledge in the stock of the Company's subsidiaries and a
security interest in all of the unencumbered assets of the Company and its
subsidiaries.
The Company's existing capital and anticipated funds from operations will not be
sufficient to meet its anticipated cash needs for working capital, capital
expenditures, debt obligations and investments in acquisitions for the remainder
of 1999 and 2000. The Company currently estimates that it will need at least
$23.0 million before the end of 1999 to fund its cash requirements, including
additional investments in, and anticipated closing costs to acquire, AcNet USA
and AcNet Mexico. In addition to cash flows from operations, if any, the Company
believes that the possible sources to fund its cash requirements include raising
debt or equity financings, extending or converting existing debt and realizing
value from its current investments. The Company has engaged in discussions with
potential investors regarding proposed debt or equity financings. On November
15, the Company announced it had entered into an advisory agreement with
Ladenburg Thalmann & Company (see the discussion in Note 7, "Subsequent Events,"
regarding the new advisory agreement). However, no assurance can be given that
the Company will be able to raise adequate funds through such financings or
18
<PAGE>
generate sufficient cash flows to meet the Company's cash needs. Insufficient
funds may require the Company to delay, scale back or eliminate some or all of
its market development plans or otherwise may have a material adverse effect on
the Company and on its ability to continue as a going concern. See
"Forward-Looking Statements" below.
YEAR 2000 PREPARATIONS
The Year 2000 issue relates to computer hardware and software and other systems
designed to use two digits rather than four digits to define the applicable
year. As a result, the Year 2000 would be translated as two zeroes. Because
the Year 1900 could also be translated as two zeroes, systems which use two
digits could read the date incorrectly for a number of date-sensitive
applications, resulting in potential calculation errors or the shutdown of major
systems. The Company has undertaken various initiatives intended to ensure that
its computer hardware and software and other systems will function properly with
respect to dates in the Year 2000 and thereafter. The systems subject to
potential Year 2000 issues include not only information technology ("IT")
systems, such as accounting and data processing, communications systems and the
Company's telecommunications switches, but also non-IT systems, such as alarm
systems, fax machines or other miscellaneous systems.
THE COMPANY'S STATE OF READINESS
The Company's main internal systems, including IT systems such as financial
systems, the Telemanager and the Company's telecommunications switches, and
non-IT systems have been tested and are currently believed to be Year 2000
compliant or are expected to be Year 2000 compliant by the end of 1999.
The Company has circulated surveys to its key third party vendors and customers.
None of the surveys which have been returned indicate significant Year 2000
compliance issues. The Company expects to continue to analyze Year 2000 risks
relating to its key vendors and customers based on the completed surveys,
follow-up surveys and other communications.
COSTS TO ADDRESS THE COMPANY'S YEAR 2000 COMPLIANCE
The majority of the Company's internal Year 2000 issues have been or will be
corrected through systems upgrades, including an upgrade of the Company's
telecommunication switches, some of which are being made for other business
purposes. The Company has estimated that the costs of all such upgrades will
not exceed $225,000, of which approximately $190,000 had been incurred through
September 30, 1999.
RISKS TO THE COMPANY RELATING TO THE YEAR 2000 ISSUE
The Company believes that its reasonably likely worse case scenario would
involve malfunctions of the Company's telecommunications switches or the
internal systems of the Company's customers and key vendors. Any such
malfunctions could result in serious disruption of the Company's ability to
process calls and could have a material adverse effect on the Company's results
of operations and financial condition. The Company plans to monitor the Year
2000 compliance of its significant customers and vendors. However, a number of
risks relating to the Year 2000 issue may be out the Company's control,
including the compliance status of the Company's customers and vendors and the
Company's reliance on outside links for essential services such as electrical
systems. There can be no assurance that a failure of systems of third parties
on which the Company's systems and operations will rely on to be Year 2000
compliant will not have a material adverse effect on the Company's business,
financial condition or operating results.
19
<PAGE>
THE COMPANY'S YEAR 2000 CONTINGENCY PLANS
Over the January 1, 2000 weekend, the Company expects to make personnel
available to handle issues that may arise. To the extent that unanticipated
compliance issues arise with respect to the Company's internal systems, the
Company believes that it will be able to implement alternative IT systems or
manual systems. The Company's ability to respond to non-compliance by its
customers and vendors will be limited, and therefore could have a material
adverse effect on the Company's business, financial or operating results.
FORWARD-LOOKING STATEMENTS
This report contains statements, including statements of management's
belief or expectation, which may be forward-looking within the meaning of
applicable securities laws. Such statements are subject to known and unknown
risks and uncertainties that could cause actual future results and developments
to differ materially from those currently projected. Such risks and
uncertainties include, among others, the following:
- the Company's access to adequate debt or equity capital to meet the
Company's operating and financial needs;
- the Company's ability to realize potential value from its investments
in Actel and PIC/ATN;
- the amount of the Company's estimate of its nonstandard vendor
related bad debt charge during the third quarter of 1999 and the
effects of the PIC/ATN billing and collection issue on the Company's
results of operations and financial condition in future periods;
- the Company's ability to complete acquisitions of AcNet Mexico or
AcNet USA or the terms of such acquisitions if completed;
- the Company's ability to respond to competition in its markets;
- the Company's ability to expand into new markets and to effectively
manage its growth;
- the Company's ability to develop new technology and to adapt to
technological change in the telecommunications industry;
- the risk that the Company's assessment of the Year 2000 issue,
including its identification, assessment, remediation and testing
efforts, the dates on which the Company believes it will complete
such efforts and the costs associated with such efforts, may be
incorrect because it is based upon management's estimates, which
were derived from numerous assumptions regarding future events,
available resources, third-party remediation plans, the accuracy of
testing of the affected systems and other factors;
- changes in, or failure to comply with, governmental regulation,
including telecommunications regulations;
- the Company's reliance on its key personnel and the availability of
qualified personnel;
- general economic conditions in the Company's markets;
20
<PAGE>
- the risk that the Company's analyses of these risks could be
incorrect and/or the strategies developed to address them could be
unsuccessful; and
- various other factors discussed in this report and in the Company's
annual report on Form 10-K for the year ended December 31, 1998.
The Company will not update the forward-looking information to reflect
actual results or changes in the factors affecting the forward-looking
information. The forward-looking information referred to above includes any
matters preceded by the words "anticipates," "believes," "intends," "plans,"
"expects" and similar expressions as they relate to the Company and include, but
are not limited to:
- expectations regarding the Company's financial condition and
liquidity and the proposed credit facility, as well as future
cash flows;
- expectations regarding sales growth, sales mix, gross margins and
related matters with respect to operating results;
- expectations regarding the expansion of the Company's business;
- the estimated costs to bring the Company's IT and non-IT systems into
compliance with respect to the Year 2000 issue and the
consequences to the Company of noncompliance by the Company or third
parties; and
- expectations regarding capital expenditures and investments in new
acquisition opportunities.
21
<PAGE>
PART II - OTHER INFORMATION
Item 1. Legal Proceedings.
Incomex commenced an arbitration proceeding against EILCO Leasing Services, Inc.
("Eilco"), a creditor of Incomex, to resolve a dispute regarding a loan
agreement between Incomex and Eilco. Eilco claimed that Incomex was in
violation of certain covenants of the loan agreement, including provisions
relating to certain obligations of Incomex to make payments to Eilco based on
Incomex's income from telecommunications services provided to a group of hotels
in Mexico. Incomex disputed these claims and initiated the arbitration to
resolve the dispute. An arbitration hearing with respect to this matter
commenced in April 1999. In June 1999, the arbitrator ruled that, after a
credit for the remaining principal balance of $341,444, Eilco owes Incomex
damages in the sum of $231,162, plus $3,161 for arbitration fees and expenses.
Subsequent to June 30, 1999, Incomex filed a petition against Eilco for payment
of the settlement and Eilco filed a petition that the judge acted without merit
in his judgment. On September 24, 1999 Incomex received a judgment confirming
the arbitration award. As of September 30, 1999, pending resolution, the full
amount of the arbitration award has been recorded as other income, in addition
to accrued interest at 10% from May 31, 1999, subject to the creation of a
reserve for the entire amount due to the uncertainty of collection.
The Company does not believe it is currently involved in any claim or
action the ultimate disposition of which would have a material adverse effect on
the Company.
Item 2. Changes in Securities and Use of Proceeds.
(c) In August 1999, the Company received proceeds of $2.0 million from
the issuance of a promissory note to a related party. The note bears interest
at 12% and principal and interest are due February 9, 2000. Warrants to
purchase 400,000 shares of the Company's common stock were issued in relation to
the promissory note at an exercise price of $3.31 per share. In July 1999, the
Company received proceeds of $250,000 from the issuance of a promissory note to
this same related party. The note was due on the receipt of the proceeds from
the above $2.0 million note. The note and warrants were issued in a private
placement exempt from the registration requirements of the Securities Act of
1933, as amended (the "Act"), pursuant to Section 4(2) of the Act.
Item 3. Defaults Upon Senior Securities.
(a) As of September 30, 1999, the Company was past due in the payment
of approximately $4.6 million of indebtedness, including $556,000 in lease and
debt financing to Berthel, a $2 million bridge loan and $2.0 million of notes
payable to individuals. The past due bridge loan and notes payable currently
accrue interest at a rate of 18% per annum. An additional $8.2 million of the
Company's debt will be due in the fourth quarter of 1999. The bridge loan is
secured by a collateral pledge in the stock of the Company's subsidiaries and a
security interest in all of the unencumbered assets of the Company and its
subsidiaries.
22
<PAGE>
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted to a vote of security holders of the Company during
the third quarter of 1999.
Item 5. Other Information
Larry A. Erickson resigned as a member of the Company's Board of Directors
effective October 25, 1999.
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits:
3.1 Restated Articles of Incorporation of the Company (1)
3.2 First Amendment to Restated Articles of Incorporation of the
Company (2)
3.3 Second Amendment to Restated Articles of Incorporation of the
Company (2)
3.4 Amended and Restated By-Laws of the Company (3)
27 Financial Data Schedule
_________________
(1) Filed as an exhibit to the Company's Registration Statement on
Form SB-2 (File No. 333-05422C) and incorporated herein by
reference.
(2) Filed as an exhibit to the Company's report on Form 10-QSB for
the quarter ended September 30, 1997 (File No. 000-21463) and
incorporated herein by reference.
(3) Filed as an exhibit to the Company's report on Form 10-QSB for
the quarter ended March 31, 1997 (File No. 000-21463) and
incorporated herein by reference.
(b) Reports on Form 8-K: none were filed for quarter ended September 30,
1999
23
<PAGE>
SIGNATURES
In accordance with the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned thereunto duly authorized.
MURDOCK COMMUNICATIONS CORPORATION
Date: November 15, 1999 By /s/ Thomas E. Chaplin
------------------------------------
Thomas E. Chaplin
Chief Executive Officer
Date: November 15, 1999 By /s/ Paul C.Tunink
------------------------------------
Paul C. Tunink
Vice President and Chief Financial
Officer
24
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