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U.S. Securities and Exchange Commission
Washington, D.C. 20549
Form 10-QSB
[X] QUARTERLY REPORT PURSUANT SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 for the quarterly period ended November 30, 2000
[ ] TRANSITION REPORT PURSUANT SECTION 13 OR 15(d) OF THE EXCHANGE ACT OF 1934
for the transition period from . . . . to . . . .
Commission file number 0-26578
LMKI, INC.
----------
Exact name of small business issuer as specified in its charter)
Nevada 33-0662114
------ ----------
(State or other jurisdiction of (I.R.S. Employer
Incorporation or organization) Identification No.)
3355 Michelson Drive, Suite 300, Irvine, CA 92612
-------------------------------------------------
(Address of principal executive offices) (Zip Code)
(949) 794-3000
--------------
(Registrant's telephone number, including area code)
Check whether the issuer (1) filed all the reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past twelve 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 [ ]
As of November 30, 2000 the number of shares of common stock outstanding was
28,087,243.
Transitional Small Business Disclosure Format (check one): Yes [ ] No [X]
<PAGE>
INDEX
PART I. Financial Information
Item 1. Consolidated Financial Statements
Consolidated Balance Sheet at November 30, 2000 (unaudited) and
August 31, 2000 (audited)
Consolidated Statements of Operations (unaudited) for the three
months ended November 30, 2000 and 1999
Consolidated Statements of Cash Flows (unaudited) for the three
months ended November 30, 2000 and 1999
Notes to Consolidated Financial Statements (unaudited)
Item 2. Management's Discussions and Analysis of Financial Condition and
Results of Operations
PART II. Other Information
Item 1. Legal Proceedings
Item 2. Changes in Securities
Item 3. Defaults Upon Senior Securities
Item 4. Submission of Matters to a Vote of Security Holders
Item 5. Other Information
Item 6. Exhibits and Reports on Form 8-K
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<TABLE>
PART I - FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS
LMKI, INC.
Consolidated Balance Sheets
<CAPTION>
November 30, August 31,
2000 2000
------------ ------------
ASSETS (Unaudited)
<S> <C> <C>
Current assets:
Cash $ 2,532 $ 12,877
Accounts receivable, net of allowance for
doubtful accounts of $69,000 and $50,000 1,656,707 1,633,204
------------ ------------
Total current assets 1,659,239 1,646,081
Property and equipment, net 6,559,487 4,935,343
Deposits and other assets 327,650 352,954
------------ ------------
$ 8,546,376 $ 6,934,378
============ ============
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current liabilities:
Account payable and accrued liabilities $16,013,865 $12,477,312
Line of credit 600,000 600,000
Convertible note payable 1,000,000 1,000,000
Accrued payroll and related liabilities 949,585 557,356
Accrued dividends payable 174,075 131,155
Accrued interest payable to related parties 185,456 143,163
Current portion of capital lease obligations 82,702 82,702
------------ ------------
Total current liabilities 19,005,683 14,991,688
Obligations under capital lease, net of current portion 137,374 155,964
Related party notes payable 2,597,003 2,020,173
------------ ------------
21,740,060 17,167,825
------------ ------------
Stockholders' deficit:
Series A 6% convertible preferred stock,
$.001 par value; 5,000 authorized,
3,650 and 4,000 issued and outstanding,
respectively; liquidation preference
and accrued dividends of $3,824,075 and
$4,131,155, respectively 4 4
Common stock, $.001 par value;
50,000,000, shares outstanding,
28,087,243 and 42,288,367 shares issued
and outstanding, respectively 28,088 42,289
Additional paid-in capital 14,791,759 15,397,404
Accumulated deficit (28,013,535) (25,673,144)
------------ ------------
Total stockholders' deficit (13,193,684) (10,233,447)
------------ ------------
$ 8,546,376 $ 6,934,378
============ ============
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
3
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<TABLE>
LMKI, INC.
Consolidated Statements of Operations
(Unaudited)
<CAPTION>
Three months ended November 30,
-------------------------------
2000 1999
-------------- --------------
<S> <C> <C>
Net sales $ 3,639,195 $ 1,505,053
Cost of sales 2,942,916 709,387
-------------- --------------
Gross profit 696,279 795,666
Operating expenses:
Selling 687,994 259,897
General and administrative 2,210,197 625,225
-------------- --------------
Total operating expenses 2,898,191 885,122
-------------- --------------
Loss from operations (2,201,912) (89,456)
Interest expense, net 77,274 26,483
-------------- --------------
Net loss $ (2,279,186) $ (115,939)
============== ==============
Net loss available to common stockholders per share $ (0.06) $ (0.01)
============== ==============
Basic and diluted weighted average common shares 39,198,774 36,115,666
outstanding ============== ==============
</TABLE>
The accompanying notes are an integral part of
these consolidated financial statements.
4
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<TABLE>
LMKI, INC.
Consolidated Statements of Cash Flows
(Unaudited)
<CAPTION>
Three months ended November 30,
-------------------------------
Cash flow from operating activities: 2000 1999
-------------- --------------
<S> <C> <C>
Net loss $ (2,279,186) $ (115,939)
Adjustments to reconcile net loss to net
cash provided by (used in) operating activities:
Depreciation 228,615 23,434
Amortization of goodwill - 23,353
Vesting of previously issued options and warrants 307,577 -
Stock issued in exchange for compensation 4,100 -
Changes in operating assets and liabilities
Accounts receivable, net (623,503) (109,005)
Account payable and accrued liabilities 3,536,553 387,078
Accrued payroll and related liabilities 392,229 (19,795)
Accrued interest payable to related parties 42,293 (3,112)
-------------- --------------
Net cash provided by (used in) operating activities 1,608,678 186,014
-------------- --------------
Cash flows from investing activities:
Purchases of property and equipment (1,852,759) (724,868)
Net decrease(increase) in deposits 25,304 (80,475)
-------------- --------------
Net cash used in investing activities (1,827,455) (805,343)
-------------- --------------
Cash flow from financing activities:
Repayment on capitalized lease obligations (18,590) (48,389)
Proceeds from preferred stock, net of offering costs - 2,278,100
Proceeds from short-swing profits 16,380 -
Repayments on related party notes payable (40,104) -
Proceeds from related party notes payable 250,746 317,848
-------------- --------------
Net cash provided by financing activities 208,432 2,547,559
-------------- --------------
Net (decrease)increase in cash (10,345) 1,928,230
Cash, beginning of period 12,877 125,692
-------------- --------------
Cash, end of period $ 2,532 $ 2,053,922
============== ==============
Supplemental cash flow disclosures:
Cash paid for interest $ 39,303 $ -
============== ==============
Cash paid for taxes $ - $ -
============== ==============
</TABLE>
See the accompanying notes for non-cash investing and financing activities.
The accompanying notes are an integral part of
these consolidated financial statements.
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LMKI, Inc.
Notes to Condensed Consolidated Financial Statements
For the three months ended November 30, 2000 and 1999 (Unaudited)
NOTE 1. MANAGEMENT'S REPRESENTATION:
The management of LMKI, Inc. and its subsidiaries (the "Company" or
"LMKI") without audit has prepared the consolidated financial statements
included herein. The accompanying unaudited financial statements consolidate the
accounts of the Company and its wholly owned subsidiaries and have been prepared
in accordance with accounting principles generally accepted in the United States
of America for interim financial information. Certain information and note
disclosures normally included in the consolidated financial statements prepared
in accordance with accounting principles generally accepted in the United States
of America have been omitted. In the opinion of the management of the Company,
all adjustments considered necessary for fair presentation of the consolidated
financial statements have been included and were of a normal recurring nature,
and the accompanying consolidated financial statements present fairly the
financial position as of November 30, 2000, and the results of operations and
cash flows for the three months ended November 30, 2000.
It is suggested that these financial statements be read in conjunction
with the audited consolidated financial statements and notes for the year ended
August 31, 2000, included in the Company's Form 10-KSB filed with the Securities
and Exchange Commission on January 16, 2001. The interim results are not
necessarily indicative of the results for a full year.
NOTE 2. DESCRIPTION OF BUSINESS
LMKI is a Nevada Corporation engaged in providing high-speed Internet
access, data, voice and video services to individuals and businesses.
NOTE 3. ORGANIZATION AND SUMMARY OF SIGNIFCANT ACCOUNTING POLICIES:
GOING CONCERN
The accompanying consolidated financial statements have been prepared
assuming the Company will continue as a going concern, which contemplates, among
other things, the realization of assets and satisfaction of liabilities in the
normal course of business. The Company has negative working capital of
$17,346,444, liabilities from the underpayment of payroll taxes (see Note 9),
certain notes payable in default (see Notes 4, 5, and 6), a stockholders'
deficit of $13,193,684, and losses from operations through November 30, 2000,
among other matters, that raise substantial doubt its ability to continue as a
going concern. The Company hopes to continue to increase revenues from
additional revenue sources and increase margins as a result of amending its
contracts with vendors and other cost cutting measures. In the absence of
significant revenues and profits, the Company intends to fund operations through
additional debt and equity financing arrangements which management believes may
be insufficient to fund its capital expenditures, working capital, and other
cash requirements for the fiscal year ending August 31, 2001. Therefore, the
Company may be required to seek additional funds to finance its long-term
operations. The successful outcome of future activities cannot be determined at
this time and there are no assurances that if achieved, the Company will have
sufficient funds to execute its intended business plan or generate positive
operating results.
These circumstances raise substantial doubt about the Company's ability
to continue as a going concern. The accompanying consolidated financial
statements do not include any adjustments that might result from the outcome of
this uncertainty.
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PRINCIPLES OF CONSOLIDATION
The accompanying consolidated financial statements include the accounts
of LMKI, Inc. and its wholly owned subsidiaries. All significant intercompany
balances and transactions have been eliminated.
RISKS AND UNCERTAINTIES
The Company operates in a highly competitive industry that is subject
to intense competition, government regulation and rapid technological change.
The Company's operations are subject to significant risk and uncertainties,
including financial, operational, technological, regulatory and other risks
associated with an emerging business, including the potential risk of business
failure.
REVENUE RECOGNITION
Fees for high-speed Internet access, data, voice and video services are
recognized as services are provided.
Deferred Revenue
Deferred revenue represents billings in advance for fees related to
high-speed Internet access, data, voice, and video services relating to future
periods. The Company recognizes deferred revenue in the statement of operations
as the service is provided. The Company has billed but not recognized
approximately $1,694,000 of deferred revenue, as the related services have not
yet been performed as of November 30, 2000.
NET LOSS PER COMMON SHARE
The Company has adopted Statement of Accounting of Financial Accounting
Standards No. 128 ("SFAS 128") "Earnings per Share". Under SFAS 128, basic
earnings per share is computed by dividing income available to common
shareholders by the weighted-average number of common shares assumed to be
outstanding during the period of computation. Diluted earnings per share is
computed similar to basic earnings per share except that the denominator is
increased to include the number of additional common shares that would have been
outstanding if the potential shares had been issued and if the additional common
shares were dilutive. The Company net loss has been increased for the effect of
accrued dividends to preferred stockholders (see Note 12). Stock options and
warrants outstanding are not considered common stock equivalents, as the effect
on net loss per share would be anti-dilutive.
Stock-Based Compensation
The Company accounts for non-employee stock based compensation under
Statement of Financial Accounting Standards No. 123 ("SFAS 123"), SFAS 123
defines a fair value based method of accounting for stock based compensation.
However, SFAS 123 allows an entity to continue to measure compensation cost
related to stock and stock options issued to employees using the intrinsic
method of accounting prescribed by Accounting Principles Board Opinion No.
25("APB 25"), "Accounting for Stock issued to Employees." Under APB 25,
compensation cost, if any, is recognized over the respective vesting period
based on the difference, on the date of grant, between the fair value of the
Company's common stock and the grant price. Entities electing to remain with the
accounting method of APB 25 must make pro forma disclosures of net income and
earnings per share, as if the fair value method of accounting defined in SFAS
123 had been applied. The Company has elected to account for its stock based
compensation to employees under APB 25.
In March 2000, the FASB issued Interpretation No. 44 ("FIN 44"),
"Accounting for Certain Transactions Involving Stock Compensation," an
interpretation of APB 25. FIN 44 clarifies the application of APB 25 for (a) the
definition of employee for purposes of applying APB 25, (b) the criteria for
determining whether a plan qualifies as a non-compensatory plan, (c) the
accounting consequences for various modifications to the terms of a previously
fixed stock option or award, and (d) the accounting for exchange of stock
compensation awards in a business combination. FIN 44 is effective July 1, 2000,
but certain provisions cover specific events that occur after either December
15, 1998, or January 12, 2000. The adoption of FIN 44 did not have a material
effect on the financial statements.
7
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Segment Information
The Company adopted Statement of Financial Accounting Standards No. 131
("SFAS No. 131"), "Disclosures about Segments of an Enterprise and Related
Information," during fiscal 1999. SFAS 131 establishes standards for the way
that public companies report information about operating segments and related
disclosures about products and services, geographic areas and major customers in
annual consolidated financial statements. The Company views its operations and
manages its business as principally one segment.
Comprehensive Income
The Company has adopted Financial Accounting Standards No. 130 ("SFAS
130"), "Reporting Comprehensive Income." SFAS 130 establishes standards for
reporting and display of comprehensive income and its components in a full set
of general-purpose financial statements. The adoption of SFAS 130 has not
materially impacted the Company's financial position or results of operations,
as the Company has no items of comprehensive income.
WEBSITE DEVELOPMENT COSTS
In March 2000, the Emerging Issues Task Force reached a consensus on
Issue No. 00-2, "Accounting for Web Site Development Costs " ("EITF 00-2") to be
applicable to all web site development costs incurred for the quarter beginning
after June 30, 2000. The consensus state that for specific web site development
costs, the accounting for such costs should be accounted for under AICPA
Statement of Position 98-1 (SOP 98-1), "Accounting for the Costs of Computer
Software Developed or Obtained for Internal Use." The adoption of EITF 00-2 did
not have a material impacted on the Company's financial position or results of
operations.
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES
The FASB issued Statement of Financial Accounting Standards No. 133
("SFAS No. 133"), "Accounting for Derivative Instruments and Hedging
Activities," SFAS 133 establishes accounting and reporting standards for
derivative instruments, including certain derivative instruments embedded in
other contracts, and for hedging activities. It requires that an entity
recognize all derivatives as either assets or liabilities on the balance sheet
at their fair value. This statement, as amended by SFAS 137, is effective for
financial statements for all fiscal quarters of all fiscal years beginning after
June 15, 2000. The Company has not yet determined the impact, if any, the
adoption of this standard will have on its results of operations, financial
position or cash flows.
Recent Accounting Pronouncements
In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin 101 ("SAB 101"), "Revenue Recognition," which outlines the
basic criteria that must be met to recognize revenue and provides guidance for
presentation of revenue and for disclosure related to revenue recognition
policies in financial statements filed with the Securities and Exchange
Commission. The effective date of this pronouncement is the fourth quarter of
the fiscal year beginning after December 15, 1999. The Company believes that
adopting SAB 101 will not have a material impact on its financial position and
results of operations.
Reclassifications
Certain reclassifications were made to prior period amounts, enabling
them to conform to current period presentation.
NOTE 4. RELATED PARTY NOTES PAYABLE
Stockholders
------------
From time to time, the Company borrows funds from several of its
stockholders for working capital purposes. During the three months ended
November 30, 2000, the Company had principal borrowings of approximately
$251,000 from various stockholders and made principal repayments of
approximately $40,000. Certain notes require monthly payments ranging from
$5,000 to $40,000 with all principal and interest due on maturity dates through
February 2001. The remaining notes require principal and interest on demand. The
notes accrue interest ranging from 8% to 21%. The outstanding balance on these
notes totaled $872,052 plus accrued interest of $33,617, which is included in
accrued interest payable at November 30, 2000. Interest expense incurred for the
quarters ended November 30, 2000 and 1999 was $17,293 and $7,483, respectively.
As of the date of the report, certain notes were in default.
8
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During the quarter ended November 30,2000, a note holder converted
$33,812 of related party notes payable into 90,166 shares of the Company's
common stock (see Note 10).
Former Employee
---------------
From time to time, the Company borrowed funds from its former Chairman
and CEO, who resigned August 8, 2000, for working capital purposes. During the
quarter ended November 30, 2000, the Company had no principal borrowing nor made
any principal payment related to these borrowings. In connection with a
severance agreement entered into by the Company (see Note 8), the outstanding
balance on this note totaled $1,724,951, plus accrued interest of $151,839 that
is included in accrued interest payable at November 30, 2000. The note, as
amended, requires monthly payments ranging from $125,000 to $252,000 with all
principal and interest due by September 15, 2001 and accrues interest at 8%. The
note is subordinated to the line of credit (see Note 5). Interest expense
incurred for the quarters ended November 30, 2000 and 1999 was $25,000 and
$19,000, respectively.
NOTE 5. LINE OF CREDIT
The Company has a revolving line of credit agreement (the "Line") with
a financial institution. The Line bears interest at the prime rate (8.75% at
November 30, 2000) plus 2% per annum. The Line is secured by substantially all
of the Company's assets. The terms of the agreement provide for borrowings of
up to the lesser of $600,000 or the aggregate of 80% of eligible accounts
receivable, as defined. At November 30, 2000, the Company's outstanding
borrowings totaled $600,000. The Line requires the Company to maintain certain
net worth and solvency ratio covenants, which the Company was not in compliance
with as of November 30, 2000. The Line matures on February 15, 2001. The Company
is in the process of renegotiating this Line with the financial institution.
Interest expense incurred on the Line totaled $16,000 for the period ended
November 30, 2000.
NOTE 6. Convertible Note Payable
The Company entered into a convertible note agreement (the "Note") with
a financial institution for $1,000,000. The Note, bearing interest at the prime
rate (8.75% at November 30, 2000) plus 2%, was due August 3, 2000 and is
convertible to common stock if not paid by August 31, 2000, at a share price
equal to the lessor of the share price on the date of the agreement or at a 30%
discount of the share price on the date of conversion. As of November 30, 2000,
the outstanding balance on the Note was $1,000,000. The Note requires the
Company to maintain certain net worth and solvency ratio covenants, which the
Company was not in compliance with as of November 30, 2000. Interest expense
incurred on the Note totaled $27,000 for the period ended November 2000.
NOTE 7. CONTINGENCY FINANCING
During September 2000, the Company received a written commitment for a
line of credit of up to $5,000,000 from a financial institution for working
capital purposes. The line requires a security interest of 12,000,000 shares of
common stock. In addition, interest on the line is at prime plus 3% (12% as of
the report date) with a maturity date of September 20, 2003 and no prepayments
of the line prior to December 15, 2001. As of the report date, the security
interest provided has been withdrawn, and the Company has decided to postpone
pursuing funds at this time through this commitment.
NOTE 8. SEVERANCE AGREEMENTS
The Company entered into a severance agreement effective August 8, 2000
and restated and amended November 15, 2000, with our former Chairman and CEO, as
follows:
o the Company agreed to pay the former Chairman and CEO a
severance amount of $120,000 payable in twelve equal monthly
installments beginning August 10, 2000. Through November 30,
2000, the Company has made payments in the amount of $120,000,
of which $110,000 was paid during the quarter ended November
30, 2000, in connection with the severance liability;
o the Company and the former Chairman and CEO agreed to offset a
note payable to the former Chairman and CEO with certain
accounts receivable in the amount of $600,000 from SpeeDSL, a
related party (see Notes 4 and 11);
o the former Chairman and CEO agreed to return 15,000,000 shares
of common stock and the Company would increase his note
payable balance by $1,000,000(see Notes 4 and 10);
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o the Company agreed to secure the note payable to the former
Chairman and CEO with 5,000,000 shares of common stock from
the current CEO; and
o the former Chairman and CEO agreed to cancel 2,000,000 options
that were outstanding at August 31, 2000.
Effective August 8, 2000 the Company entered into a severance agreement
with its former Chief Operating Officer ("COO"). The agreement requires the
Company to pay the former COO a severance amount of $120,000 payable in twelve
equal monthly installments beginning August 10, 2000. Through November 30, 2000,
the Company has made payments in the amount of $60,000, of which $50,000 was
paid during the quarter ended November 30, 2000 in connection with the
severance liability. At November 30, 2000, the Company has accrued the remaining
undiscounted amount of $60,000 in accrued liabilities in the accompanying
Balance Sheet.
NOTE 9. ACCRUED PAYROLL TAXES
The Company has recorded an accrual for past due payroll taxes as of
November 30, 2000 due to the under-payment of the Company's payroll tax
liability. As a result, the Company has accrued approximately $949,000 related
to payroll taxes under accrued payroll and related liabilities in the
accompanying balance sheet at November 30, 2000. The Company anticipates having
this matter settled by August 31, 2001.
NOTE 10. STOCKHOLDERS' EQUITY
Preferred Stock
During the quarter ended November 30, 2000, the Company has accrued
$61,205 of dividends in connection with the outstanding Preferred A shares, of
which $18,285 were converted into common stock in connection with the conversion
of 350 shares of Preferred A (see below). At November 30, 2000, accrued
dividends payable totaled $174,075.
Short-Swing Profits
During November 2000, it was discovered that the former CFO and
beneficial owner (as defined by the Securities Exchange Act of 1934), had
profited from purchases and subsequent sales of the Company's common stock held
for less than six (6) months (a "short-swing" profit). Pursuant to Section 16(b)
of the Securities Exchange Act of 1934, the Company acted to recover these
profits from the former CFO. As a result, the Company received $16,380, which
has been credited to additional paid-in capital as a contribution to
shareholders' deficit.
Stock Options and Warrants
During the quarter ended November 30, 2000, the Board of Directors
granted to various employees, pursuant to the 2000 stock option plan, an
aggregate of 1,933,000 options at exercise prices ranging from $0.14 to $0.562
(based on the closing bid price of the Company's common stock on the date of
each grant). The options vest through May 2003 and are exercisable through
December 2010. During the period ended November 30, 2000, the Company recognized
$307,577 of compensation and consulting expense in the statement of operations
due to the vesting of previously issued options and warrants.
Common Stock
During the quarter ended November 30, 2000, the Company issued 698,710
shares of common stock in connection with the conversion of 350 shares of
Preferred A, plus accrued dividends in the amount of $18,285, at conversion
prices ranging from $0.25 to $0.917 per share, in accordance with the conversion
terms of the Preferred A shares.
During the quarter ended November 30, 2000, the Company issued 90,166
shares of common stock in connection with the conversion of certain related
party notes payable of $33,812 (see Note 4) at $0.375 per share (based on the
closing bid price of the Company's common stock on the date of conversion).
During November 2000, the Board of Directors authorized the issuance of
10,000 shares of common stock valued at $4,100 (based on the closing bid price
of the Company's common stock on the date of grant) to an employee for wages.
10
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NOTE 11. RELATED PARTY TRANSACTIONS
During fiscal 2000, the former Chairman and CEO of the Company entered
into a verbal contract with SpeedDSL, which is owned and operated by the son of
the former Chairman and CEO, to be a reseller of access services. During the
quarter ended November 30, 2000, the company invoiced SpeedDSL approximately
$190,000 for access fess. The Company has approximately $78,000 of receivables
from SpeedDSL included in accounts receivable in the accompanying balance sheet
at November 30, 2000, after offsetting approximately $600,000 of receivable from
SpeedDSL with the note payable to the former Chairman and CEO (see Note 8)
NOTE 12. EARNINGS PER SHARE
Basic and diluted loss per common share as of November 30, 2000 and
1999 is computed as follows:
<TABLE>
<CAPTION>
Numerator for basic and diluted loss per common share: 2000 1999
------------- -------------
<S> <C> <C>
Net loss $ (2,279,186) $ (115,939)
Preferred dividends (61,205) -
------------- -------------
Net loss available to common stockholders $ (2,340,391) $ (115,939)
============= =============
Denominator for basic and diluted loss per common share:
Weighted average common shares outstanding 39,198,774 36,115,666
============= =============
Net loss per common share available to common
stockholders $ (0.06) $ (0.01)
============= =============
</TABLE>
NOTE 13. SUBSEQUENT EVENTS
In December 2000, the Company borrowed approximately $75,000 for
working capital purposes from a related party. The borrowing bears interest at
11% per annum and is due on demand.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
CAUTIONARY STATEMENT FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE
SECURITIES LITIGATION REFORM ACT:
This quarterly report on Form 10-QSB may contain statements that could
be deemed forward-looking statements within the meaning of Section 21E of the
Securities Exchange Act of 1934 and the Private Securities Litigation Reform
Act, which statements are inherently subject to risks and uncertainties.
Forward-looking statements are statements that include projections, predictions,
expectations and beliefs about future events or results or otherwise are not
statements of historical fact. Such statements are often characterized by the
use of qualifying works (and their derivatives) such as "expect," "believe,"
"estimate," "plan," "project," "anticipate," or other statements concerning
opinions or judgment of the Company and its management about future events.
Factors that could influence the accuracy of such forward-looking statements
include, but are not limited to, the financial success or changing strategies of
the Company's customers, actions of government regulators, the level of market
interest rate and general economic conditions. All forward-looking statements
included herein are based on information available to the Company on the date
hereof, and the Company assumes no obligation to update any such forward-looking
statements. It is important to note that the Company's actual results could
differ materially from those in such forward-looking statements due to the
factors cited above. As a result of these factors, there can be no assurance the
Company will not experience material fluctuations in future operating results on
a quarterly or annual basis, which would materially and adversely affect the
Company's business, financial condition and results of operations.
11
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GENERAL OVERVIEW
The Company's operating results have fluctuated in the past and may in
the future fluctuate significantly, depending upon a variety of factors,
including the timely deployment and expansion of new network architectures, the
incurrence of related capital costs, variability and length of the sales cycle
associated with the Company's product and service offerings, the receipt of new
value-added network services and consumer services subscriptions and the
introduction of new services by the Company and its competitors. Additional
factors that may contribute to variability of operating results include: the
pricing and mix of services offered by the Company; customer retention rate;
market acceptance of new and enhanced versions of the Company's services;
changes in pricing policies by the Company's competitors; the Company's ability
to obtain sufficient supplies of sole or limited-source components; user demand
for network and Internet access services; balancing of network usage over a
24-hour period; the ability to manage potential growth and expansion; the
ability to identify, acquire and integrate successfully suitable acquisition
candidates; and charges related to acquisitions. In response to competitive
pressures, the Company may take certain pricing or marketing actions that could
have a material adverse affect on the Company's business. As a result,
variations in the timing and amounts of revenue could have a material adverse
affect on the Company's quarterly operating results. Due to the foregoing
factors, the Company believes the period-to-period comparisons of its operating
results are not necessarily meaningful and that such comparisons cannot be
relied upon as indicators of future performance. In the event that the Company's
operating results in any future period fall below the expectations of securities
analysts and investors, the trading price of the Company's common stock would
likely decline.
RESULTS OF OPERATIONS - THREE MONTHS ENDED NOVEMBER 30, 2000 COMPARED TO THREE
------------------------------------------------------------------------------
MONTHS ENDED NOVEMBER 30, 1999
------------------------------
REVENUE
Revenue totaled approximately $3,639,195 for the three-month period
ended November 30, 2000, a $2,134,142 increase over revenue of $1,505,053 for
the three-month period ended November 30, 1999. These increases reflect the
growth in revenue from Real Private Network(TM) (RPN(TM)), Broadband Internet
Access, Internet and Intranet based Web Hosting, Hosted Application Services,
Intelligent Routing and Content Delivery Services, Network and Systems
Management, Professional Services, from marketing arrangements with new
strategic partners, and sale of equipment to support these product offerings.
COST OF SALES
Cost of sales for the three-month period ended November 30, 2000 was
$2,942,916, an increase of 2,233,529 from $709,387 for the three-month period
ended November 30, 1999. Cost of sales consists primarily of access charges from
local exchange carriers, backbone and Internet access costs, and the cost of
customer equipment to support network systems. Gross profits decreased 34% from
53% in 1999 to 19% in 2000. The Company expects its gross profits to increase.
In an effort to reduce the monthly minimum usage fees of Internet service
provider access, the Company is continuously negotiating new contracts with
various providers to obtain more competitive pricing.
SELLING EXPENSE
Selling expense consists primarily of personnel expenses, including
salary and commissions, and costs for customer support functions. Marketing and
sales expense was $687,994 for the three-month period ended November 30, 2000
and $259,897 for the three-month period ended November 30, 1999, which
represents a $428,097 increase. The increase reflects an expansion of the direct
customer service and technicians necessary to support the Company's new
direction of higher margin Managed Services. The current executive management of
the Company laid off all retail Internet sales personnel in August 2000. This
layoff has contributed significantly to the reduction of selling expense as the
sales focus changes from reselling retail based business class DSL connectivity
to higher margin Managed Services, including Real Private Network(TM) (RPN(TM))
technology, Internet and Intranet based Web Hosting, Hosted Application
Services, Intelligent Routing and Content Delivery Services, Network and Systems
Management, and Professional Services.
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GENERAL AND ADMINISTRATIVE EXPENSE
General and administrative expense consists primarily of personnel
expense, rent and professional fees. General and administrative expense was
$2,210,197 for the three-month period ended November 30, 2000 and $625,225 for
the three-month period ended November 30, 1999, which represents a $1,584,972
increase. These expenses have increased due to the requirements to
support our client base and the normal operations of the Company. As of
November 30, 2000, general and administrative expense primarily consisted
of $806,816 in administrative wages, technical support engineers and
related taxes and benefits; $228,615 in depreciation expense; $22,321 in
operating equipment leases; $223,095 in systems implementation and costs;
$258,422 for professional fees; $151,973 in rent expense; $41,200 in telephone
expenses; $307,577 of non-cash charged for the vesting of previously issued
options for services rendered and for compensation, and $170,178 in other
operating expenses. Currently, the Company is taking aggressive steps to
decrease future general and administrative expenses, reflecting increased
operational efficiencies.
INTEREST EXPENSE
Interest expense was $77,274 for the three-months ended November 30,
2000 and $26,483 for the three-months ended November 30, 1999. The increase in
interest expense is substantially related to the company acquiring working
capital through a line of credit, convertible note payable and related party
notes payable. The increase is related to interest on new capital leases of
$7,000, interest on the Company's line of credit of $16,000, interest on
notes payable from related parties of $42,293, and interest on convertible
note payable of $27,000, net of interest income of approximately $15,000.
NET LOSS
The Company incurred a net loss for the three-month period ended
November 30, 2000 of $2,279,186 compared to $115,939 for the three-month period
ended November 30, 1999. The Company's near term focus is to become profitable
by negotiating provider costs and reducing all expenses to minimum levels.
However, we believe that we will incur losses in the near term and we cannot
assure that the Company will be profitable in the future.
STOCKHOLDERS' (DEFICIT) EQUITY
Stockholders' deficit increased by $2,960,237 from $(10,233,447) as of
August 31, 2000 to ($13,193,684) as of November 30, 2000. The increase is
attributable to the current quarter net loss of $2,279,186, dividends accrued on
preferred stock of $61,205, the retirement of the former CEO's 15,000,000 shares
of common stock for $1,000,000, the issuance of common stock in connection with
the conversion of related party debt of $33,812, issuance of common stock for
the conversion of preferred stock and accrued dividends of $18,285, cash
received of $16,380 for short-swing profits, issuance of stock of $4,100 for
compensation and vesting of previously issued options and warrants of $307,577.
ASSETS AND LIABILITIES
Assets increased by $1,611,998 from $6,934,378 as of August 31, 2000 to
$8,546,376 as of November 30, 2000. The increase was due primarily to increases
in accounts receivable of $23,503, net property and equipment of $1,624,144 and
decrease in cash of $10,345 and other assets of $25,304. Liabilities increased
by $4,572,235 from $17,167,825 as of August 31, 2000 to $21,740,060 as of
November 30, 2000. The increase was primarily to increases in accounts payable
and accrued expenses of $3,536,553, payroll and payroll related liabilities of
$392,229, notes payable-related parties of $576,830, and other liabilities of
$85,213; offset by a decrease in capital leases of $18,590. The increase in
accounts payable and accrued expenses are associated with the increase in
Internet service provider fees and third party costs associated with the
implementation of software systems and systems costs.
LIQUIDIDTY AND CAPITAL RESOURCES
--------------------------------
GENERAL
Overall, the Company had negative cash flows of $10,345 in the
three-month period ended November 30, 2000 resulting from $1,608,678 cash
provided by operating activities and $208,432 of cash provided by the Company's
financing activities, offset by $1,827,455 of cash used in investing activities.
13
<PAGE>
CASH FLOWS FROM OPERATIONS
Net cash provided in operating activities of $1,608,678 in the
three-month period ended November 30, 2000 was primarily due to the net loss of
$2,279,186 and an increase in accounts receivable of $623,503; offset partially
by the increase of operating liabilities, principally accounts payable and
accrued expenses of $3,536,553, payroll and related taxes of $392,229; accrued
interest to related parties of $42,293; the fair market value of stock issued
for salary of $4,100; vesting of previously issued options and warrants of
$307,577; net of depreciation expense of $228,615.
CASH FLOWS FROM INVESTING
Net cash used in investing activities of $1,827,455 in the three-month
period ended November 30, 2000 funded purchases of property and equipment of
$1,852,759, net of a decrease in deposits of $25,304.
CASH FLOWS FROM FINANCING
Net cash provided by financing activities of $208,432 in the
three-month period ended November 30, 2000 was primarily due to the proceeds
from related party notes payable of $250,746 and the short-swing profits of
$16,380; offset primarily by repayments on notes payable and capitalized leases
obligations of $58,694.
To date, the Company has satisfied our cash requirements primarily
through debt and equity financings and capitalized lease financings. The
Company's principal uses of cash are to fund working capital requirements and to
service our capital lease and debt financing obligations. The company believes
that it will generate positive cash flow from operations within the next twelve
months. There can be no assurances that the Company will be successful in
securing additional financing, and if secured, it will be sufficient to satisfy
working capital needs.
LONG-TERM FINANCING
The Company believes that its anticipated funds from operations will
not be sufficient to fund its working capital and other requirements through
August 31, 2001. Therefore, the Company will be required to seek additional
funds either through debt or equity financing to finance its long-term
operations ("Additional Funds"). Should the Company fail to raise the Additional
Funds, the Company will have insufficient funds for the Company's intended
operations for the next twelve months which may have a material adverse effect
on the Company's long-term results of operations.
CONTINGENT LIABILITIES
As of August 31, 2000, the Company had been billed approximately
$2,744,000 from a third party for consultation services in connection with the
implementation of certain software programs. The Company has retained the
services of an outside consultant to examine the appropriateness of such
services and related charges. As of November 30, 2000, the Company has not made
any payments related to this charge and has accrued approximately $2,744,000 in
accounts payable in the accompanying balance sheet.
As of August 31, 2000, the Company entered into an agreement with a
third party for software licenses and promotional support for approximately
$1,261,000, with the intent to resell the related licenses to customers. As of
November 30, 2000, the Company has not made any payments pursuant to this
agreement and has accrued approximately $1,261,000 in accounts payable in the
accompanying balance sheet. The Company is currently in the process of trying to
renegotiate the amount due with the third party.
The Company has recorded an accrual for past due payroll taxes as of
November 30, 2000 due to the under-payment of the Company's payroll tax
liability. As a result, the Company has accrued approximately $949,000 related
to payroll taxes under accrued payroll and related liabilities in the
accompanying balance sheet at November 30, 2000. The Company anticipates having
this matter settled by August 31, 2001.
14
<PAGE>
CAPITAL EXPENDITURES
The Company has no future capital expenditures of significance planned
during fiscal year 2001.
GOING CONCERN
The Company's independent certified public accountants have stated in
their report included in the Form 10-KSB as of August 31, 2000, that the Company
has incurred operating losses in the last two years, has a working capital
deficit and a significant stockholders deficit. These conditions raise
substantial doubt about the Company's ability to continue as a going concern.
INFLATION
Management believes that inflation has not had a material effect on the
Company's results of operations.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
The Company may from time to time be involved in various claims,
lawsuits, disputes with third parties, actions involving allegations of
discrimination, or breach of contract actions incidental to the
operation of its business. The Company is not currently involved in any
such litigation, which it believes could have a materially adverse
effect on its financial condition or results of operations.
Item 2. Changes in Securities and Use of Proceeds
During the quarter ended November 30, 2000, the Company issued
698,710 shares of common stock in connection with the conversion of
350 shares of Preferred A, plus accrued dividends in the amount of
$18,285, at conversion prices ranging from $0.25 to $0.917 per share,
in accordance with the conversion terms of the Preferred A shares.
This issuance was conducted under an exemption under Section 4(2)
of the Securities Act of 1933.
During the quarter ended November 30, 2000, the Company issued
90,166 shares of common stock in connection with the conversion of
certain related party notes payable of $33,812 at $0.375 per share
based on the closing bid price of the Company's common stock on the
date of conversion). This issuance was conducted under an exemption
under Section 4(2) of the Securities Act of 1933.
During November 2000, the Board of Directors authorized the
issuance of 10,000 shares of common stock valued at $4,100 (based
on the closing bid price of the Company's common stock on the date
of grant) to an employee for wages. This issuance was conducted
under an exemption under Section 4(2) of the Securities Act of 1933.
During November 2000, the Company agreed with the former
Chairman and CEO to cancel 15,000,000 shares of common stock and
increase his note payable by $1,000,000.
Item 3. Defaults Upon Senior Securities
None
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to the security holders for a vote during
the three-month period ended November 30, 2000.
Item 5. Other Information
None
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibit Table:
EX-27 Financial Data Schedule
(b) Form 8-K:
1. Resignation of registrant's director, dated
November 3, 2000.
2. Amendment to severance agreement of the former CEO,
dated November 28, 2000.
3. Changes in registrant's certifying accountant,
The above reports on Form 8-K have been filed during the
three-months ended November 30, 2000.
15
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[SIGNATURES]
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.
Date: January 16, 2000
In accordance with the Exchange Act, this report has been signed below by the
following persons on behalf of the registrant and in the capacities and on the
dates indicated.
LMKI, INC. (Registrant)
Signature Title Date
--------- ----- ----
/S/ Bryan L. Turbow Director and January 16, 2001
-------------------------------- Chief Executive Officer
Bryan L. Turbow
/S/ Teresa M. Throenle Director January 16, 2001
--------------------------------
Teresa M. Throenle
16
