UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC. 20549
FORM 10-KSB
(Mark One)
[ X ] ANNUAL REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED OCTOBER 31, 2005
[ ] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ______________ TO ______________.
COMMISSION FILE NUMBER 0-22636
RAPID LINK, INCORPORATED
(Name of small business issuer in its charter)
DELAWARE 75-2461665
------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
17383 SUNSET BOULEVARD, SUITE 350 LOS ANGELES, CA 90272
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(Address of principal executive offices) (Zip Code)
Issuer's telephone number (310) 566-1700
SECURITIES REGISTERED UNDER SECTION 12(b) OF THE EXCHANGE ACT:
NONE
SECURITIES REGISTERED UNDER SECTION 12(g) OF THE EXCHANGE ACT:
COMMON STOCK, $0.001 PAR VALUE
------------------------------
(title of class)
Check whether the issuer is not required to file reports pursuant to Section
13 or 15(d) of the Exchange Act. [ ]
Check whether the issuer (1) filed all reports required to be filed by
Section 13 or 15(d) of the Exchange Act during the past 12 months (or for
such shorter period that the registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past 90 days.
Yes [X] No [ ]
Check if there is no disclosure of delinquent filers in response to Item 405
of Regulation S-B contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form
10-KSB or any amendment to this Form 10-KSB. [X]
Indicate by check mark whether the registrant is a shell company (as defined
in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]
State issuer's revenues for its most recent fiscal year. $9,827,049.
The aggregate market value of the voting and non-voting common stock held by
non-affiliates of the registrant as of January 16, 2006 was approximately
$3,515,662, based on the average bid and ask price of a share of common
stock as quoted on the OTC Bulletin Board of $0.12.
As of January 24, 2006, 29,297,183 shares of common stock of the issuer were
outstanding.
DOCUMENTS INCORPORATED BY REFERENCE.
None.
Transitional Small Business Disclosure Format (Check One): Yes [ ] No [X]
FORWARD-LOOKING STATEMENTS
This Annual Report on Form 10-KSB (this "Report") includes "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933,
as amended (the "Securities Act"), and Section 21E of the Securities
Exchange Act of 1934, as amended (the "Exchange Act"). Forward-looking
statements are statements other than historical information or statements of
current condition. Some forward-looking statements may be identified by the
use of such terms as "expects", "will", "anticipates", "estimates",
"believes", "plans" and words of similar meaning. These forward-looking
statements relate to business plans, programs, trends, results of future
operations, satisfaction of future cash requirements, funding of future
growth, acquisition plans and other matters. In light of the risks and
uncertainties inherent in all such projected matters, the inclusion of
forward-looking statements in this Form 10-KSB should not be regarded as a
representation by us or any other person that our objectives or plans will
be achieved or that our operating expectations will be realized. Revenues
and results of operations are difficult to forecast and could differ
materially from those projected in forward-looking statements contained
herein, including without limitation statements regarding our belief of the
sufficiency of capital resources and our ability to compete in the
telecommunications industry. Actual results could differ from those
projected in any forward-looking statements for, among others, the following
reasons: (a) increased competition from existing and new competitors using
voice over Internet protocol ("VoIP") to provide telecommunications services
over the Internet, (b) the relatively low barriers to entry for start-up
companies using VoIP to provide telecommunications services over the
Internet, (c) the price-sensitive nature of consumer demand, (d) the
relative lack of customer loyalty to any particular provider of services
over the Internet, (e) our dependence upon favorable pricing from our
suppliers to compete in the telecommunications industry, (f) increased
consolidation in the telecommunications industry, which may result in larger
competitors being able to compete more effectively, (g) failure to attract
or retain key employees, (h) continuing changes in governmental regulations
affecting the telecommunications industry and the Internet and (i) changing
consumer demand, technological developments and industry standards that
characterize the industry. We do not undertake to update any forward-
looking statements contained herein. For a discussion of these factors and
others, please see "Risk Factors" in Item 1 of this Report. Readers are
cautioned not to place undue reliance on the forward-looking statements made
in this Report or in any document or statement referring to this Report.
PART I
Item 1. Description of Business.
Our Company
Throughout this Annual Report, the term "we", "Rapid Link", "Dial Thru" and
the "Company" refer to Rapid Link, Incorporated, a Delaware corporation
(formerly known as Dial Thru International Corporation) and ARDIS Telecom
& Technologies, Inc., successor by merger to Canmax Inc., and its
subsidiaries. The Company was incorporated on July 10, 1986 under the
Company Act of the Province of British Columbia, Canada. On August 7, 1992,
we renounced our original province of incorporation and elected to continue
our domicile under the laws of the State of Wyoming, and on November 30,
1994 our name was changed to "Canmax Inc." On February 1, 1999,
we reincorporated under the laws of the State of Delaware under the name
"ARDIS Telecom & Technologies, Inc." On November 2, 1999, we acquired
substantially all of the business and assets of Dial Thru International
Corporation, a California corporation (the "DTI Acquisition"), and, on
January 19, 2000, we changed our name from ARDIS Telecom & Technologies,
Inc. to Dial Thru International Corporation. On November 1, 2005, we
changed our name to "Rapid Link, Incorporated." Our common stock currently
trades on the OTC Bulletin Board under the symbol "RPID".
From our inception until 1998 we provided retail automation software and
related services to the retail petroleum and convenience store industries.
In 1998 we decided that the rapidly expanding telecommunications market
presented an opportunity to utilize some of the technology and support
capabilities that we had developed, and we entered into the
telecommunications industry via the pre-paid long distance market. In
December 1998, we sold our retail automation software business and now
operate only in the telecommunications marketplace.
Our principal executive offices are located at 17383 Sunset Boulevard, Suite
350, Los Angeles, California 90272, our telephone number is (310) 566-1700
and our website address is www.rapidlink.com.
Recent Developments
On June 1, 2005, our Company and GCA Strategic Investment Fund ("GCA")
agreed to extend the maturity dates of the Company's two 6% convertible
debentures, each convertible debenture providing financing of $550,000 in
January 2002 (GCA-Debenture) and July 2003 (GCA-Note), respectively. The
maturity date for the GCA-Debenture was extended to November 26, 2005, and
the maturity date for the GCA-Note was extended to November 26, 2006. The
remaining balance of the GCA-Debenture and GCA-Note were $455,000 and
$552,457, respectively, at October 31, 2005. Both debentures originally
matured in November 2004. We are in negotiations to extend the maturity
date of the GCA Debenture that was due on November 26, 2005. In addition,
we are currently seeking a debt facility or equity financing that will allow
us to either convert our outstanding debt obligations with GCA and Global
into the new financing, and/or pay down a portion or all of the amounts now
due. There can be no assurance that sufficient debt or equity financing
will be available or available on terms acceptable to us. The debenture
continues to accrue interest at the stated rate. Furthermore, the debenture
includes certain default provisions that can be enforced by GCA as a result
of nonpayment. The debenture is classified as a current liability on our
balance sheet as of October 31, 2005.
On June 1, 2005, our Company and Global Capital Funding Group, LP ("Global")
agreed to extend the maturity date of the Company's 12% note payable (the
"GC-Note"), which provided financing of $1,250,000 in November 2002. The
maturity date was extended to February 29, 2008. In connection with the
extension, the GC-Note was converted to a 10.08% Convertible Note ("GC-
Conote"). In connection with the extension of the maturity date of the GC-
Note, the interest due on the GC-Note of approximately $350,000 as of May
31, 2005 was converted to a $400,000 non-interest bearing convertible Note
Payable (the "GC-Conote2") to Global. The GC-Conote2 requires quarterly
payments of $50,000 on the last day of March, June, September and December
of each year until the March 31, 2007 maturity date, commencing on June 30,
2005. We did not make the payment due on September 30, 2005. The GC-Note
includes certain default provisions that can be enforced by Global as a
result of nonpayment. We are in negotiations with Global to allow us to
extend the due date of this payment. This amount is included as a current
liability on our balance sheet as of October 31, 2005. The remaining
balance of the GC-Note and the GC-Conote was $1,250,000 and $275,000,
respectively, at October 31, 2005. The GC-Note originally matured in
November 2004.
On July 21, 2005, our Company and the holders of our related party 10%
convertible debentures (the "Notes") with an outstanding balance of
$1,003,390 at October 31, 2005, agreed to extend the maturity date of the
Notes to February 29, 2008. The original maturity date was October 24,
2003.
On October 25, 2005, at our annual shareholders meeting, our shareholders
approved a change in the Company's name to Rapid Link, Incorporated. The
name change became effective on November 1, 2005.
Acquisition
On October 25, 2005, Dial Thru entered into an Asset Purchase Agreement to
acquire certain assets, including but not limited to the customer base and
certain specified contracts and items of equipment (collectively, the
"Assets"), of Integrated Telecommunications, Inc., a New York corporation
that is an international long distance carrier providing VoIP services to
retail customers in the United States, and wholesale services to customers
worldwide. The closing date for the acquisition was October 31, 2005.
Development of Our Telecommunications Business
In November 1999, we completed the DTI Acquisition and continued operations
of its facilities-based telecommunications carrier business through its
subsidiary, Dial Thru.com. In the third quarter of fiscal 2000, we
relocated our Texas operations, including our switching facilities, to a
location in downtown Los Angeles, California. During the fourth quarter of
fiscal 2001, we announced the creation of our "Bookend Strategy" and the
roll out of our facilities-based Internet Protocol network, whereby we sell
VoIP to allow us to compete in the international telecommunications market.
During the fourth quarter of fiscal 2001, we acquired the assets and certain
of the liabilities of Rapid Link, Incorporated ("RLI"), a provider of
integrated data and voice communications services to both wholesale and
retail customers around the world. RLI's global VoIP network reaches
thousands of retail customers, primarily in Europe and Asia. This
acquisition has significantly enhanced our product lines, particularly our
Dial Thru and Re-origination services, Global Roaming products, and
wholesale termination. Furthermore, the acquisition has allowed us to roll
out services to additional international markets and more rapidly expand our
VoIP wholesale strategy due to the engineering and operational expertise
acquired in the transaction.
During the latter part of fiscal 2004, we began offering VoIP products and
services to our existing retail customers, and shifted our sales and
marketing focus for new customers to these VoIP offerings.
Our Business Strategy
Bookend Strategy
Historically, the focus of our business was the development implementation
of our "Bookend Strategy", which is to provide telecommunication services
originating in foreign countries and in the corresponding ethnic segment
domestically in the United States via the Internet to transport various
forms of communications. These services are provided primarily via the
public Internet, utilizing VoIP and other digitized voice technologies.
VoIP is voice communication that has been converted into digital packets and
is then addressed, prioritized, and transmitted over any form of broadband
network utilizing the technology that makes the Internet possible. These
technologies allow us to transmit voice communications with the same high-
density compression as networks initially designed for data transmission,
and at the same time utilize a common network for providing customers with
data and other Web-based services.
By utilizing VoIP over the public Internet, we avoid the high network cost
associated with private line connections to each international destination,
which would require us to lease a dedicated line for a set period of time at
a set rental rate and to "fill" idle network capacity with traffic in order
to offset the high fixed costs of such a private line. The primary focus of
our business has been the sale of a bundled solution of communication
services, such as international dial thru, re-origination and fax over the
Internet to small and medium enterprises ("SMEs") worldwide. We also sell
telecommunications services for foreign termination of international long
distance traffic into the wholesale market. Our primary objective in
selling into the wholesale market is to take advantage of below market
international rates that arise from time to time while we are developing
revenue from our retail marketing operations. We expanded the offering of
our wholesale services beginning in the 2002 fiscal year, and we continue to
seek new market opportunities for select wholesale routes that we can make
available to our customer. In some markets, where the price advantages and
capacity limitations do not provide for significant retail opportunities, we
sell only wholesale terminations.
A key part of the Bookend Strategy is the establishment of direct routes for
telecommunications traffic to and from a target country. Once we have
determined that a particular country meets our requirements for availability
of retail revenue opportunities, we then must determine the best manner
to establish dedicated connectivity. This is usually accomplished by
establishing a licensing agreement within the country, whereby we are
licensed to sell these communication products. We then make these products
available to SMEs in the target country through public Internet connections
and apply the appropriate technology to provide for the compression of the
telecommunications traffic over these routing options. The emerging
technology that is best suited for the majority of these installations is
VoIP.
We have primarily focused on markets where competition is not keen. These
markets include regions where the deregulation of telecommunications
services has not been completed and smaller markets that have not attracted
large multi-national providers. South Africa, Asia, and parts of South
America offer the greatest abundance of these target markets.
We currently operate our domestic telecommunications switching facilities in
Los Angeles, California and New York, New York, providing for long distance
services worldwide. Development of the private Internet Protocol ("IP")
network and the use of VoIP technology have improved both the cost and
quality of telecommunications services, as well as facilitating our
expansion into other Internet related opportunities.
Development of our VoIP Strategy
The growth of the Internet has accelerated the rapid merger of the worlds of
voice-based and data-based communications. By first digitizing voice
signals, then utilizing the same packetizing technology that makes the
Internet possible, VoIP provides for a cost effective manner in which to
perform the signal compression needed to maximize the return from the use of
the public Internet. In this way, not only has efficiency of the dedicated
circuits been improved, but use of the public Internet provides a much more
cost effective means of transmission and rapid deployment compared to
traditional private leased lines and circuits.
During the latter part of fiscal 2004 we began offering value-added VoIP
communications services to customers, both domestically and internationally.
To date, we have not derived significant new revenues from these services.
We strive to provide our customers with a reliable, scalable and affordable
worldwide IP communication service with a quality focus. We focus our
efforts on providing first class customer service, and hire employees with
experience in developing and building technologically advanced IP enabled
platforms and services. Our intention is to provide our customers with the
best possible voice communication services, to both residential and business
users, at affordable prices that allow them to communicate seamlessly and
effortlessly to anywhere and from anywhere in the world.
Niche focus
As a result of the RLI acquisition, we have an established brand name within
the US military market, offering affordable international calling to members
of the US military since the acquisition of RLI in 2001. RLI was serving
this niche market for several years prior to our acquisition. Our recent
name change to Rapid Link, Incorporated was motivated in part to more
closely identify our Company with the products and services our customers
have become familiar with over the years. Historically, we focused on the
soldier located in foreign markets. However, with our new, more cost
effective VoIP service offerings, we are able to market to soldiers
both domestically and internationally. In addition, we are focusing our
marketing efforts to college students and business travelers, with an
appealing, cost-effective method for these customers to keep in touch with
family and friends while traveling or serving away from home.
As an added benefit, we offer our customers real-time billing to keep them
informed of charges they have accrued on their account, and incentives for
them to add friends and family to our services.
Our Rapid Link Solution
Rapid Link is an Internet-based communication service that works over
virtually any high-speed Internet connection in the world. Our service
allows our customers to call to and/or from any phone in the world. We
utilize an Internet Access Device ("IAD") (i.e. a desktop adapter or soft
phone headset), to connect customers to our Rapid Link network software,
which enables VoIP communications. Our desktop adapter allows for the
connection of a standard telephone to the adapter, providing for familiar
dialtone interface, while the soft phone headset plugs directly into the
customer's computer. Our VoIP products use Session Initiation Protocol, or
SIP, signaling, which empowers edge devices, such as multimedia terminal
adapters, to establish and manage voice calls on all types of Internet
systems. Our systems provide an end user with a local phone number for
inbound calling and comes with a full set of features and functionality,
including call waiting, caller ID, three-way conference calling, and "follow
me" features. Additional features include web-based tools allowing
subscribers to manage their telephony features online, manage their
accounts, and check their voice mail. This allows the operator to provision
accounts, provide customer support, and create a unified bill for high-speed
data, telecommunications and other services or organize their bill in any
format to accommodate cost controls for their business accounting. We have
designed our systems to enable the termination of our customers' calls to
the Public Switched Telephone Network ("PSTN"), a service we purchase from
third party carriers, and to allow for direct connection directly over the
Internet to other Rapid Link customers anywhere in the world. As part of
the Rapid Link service, we currently resell IADs that we purchase from third
parties. These IADs are configured prior to shipping to work with our VoIP
software.
We continue to seek opportunities to grow our business through strategic
acquisitions that will complement our retail strategy as well as adding key
personnel that have demonstrated a proven track record in sales, marketing
and operations of retail telecommunications organizations, especially in the
area of retail VoIP.
Our Products and Services
Rapid Link VoIP Services
We offer several VoIP programs to the business office, the business
professional that may have a home office, the US military and the
residential consumer. The residential plans offer customers a cheaper
alternative to traditional local service, long distance and international
calling. Our flat rate service plans enable the customers to speak
unlimited to their party without hidden charges. Customers are charged at a
per-minute rate for international calls to non-Rapid Link customers, and
depending on the level of plan selected, may be charged for calls to the
PSTN if usage exceeds the minutes under their chosen plan. We offer three
service plans to members of the US military. Two of the plans include
unlimited calling to the US and Canada, while a third plan provides for a
low per minute charge for calls to the US and Canada. Similarly, we offer
two residential plans, one providing for unlimited calls to the US and
Canada, while the other includes the aforementioned per minute charge. For
business users, we offer two slightly higher priced plans, each providing
for unlimited calls to the US and Canada, with the higher priced plan
providing the customer with two phone lines. All of our Rapid Link customers
receive access to a variety of services, including voice mail, caller ID,
call waiting, 3-way calling, area code selection, and online account
management and billing. We currently offer enhanced 911 ("E911") service
for our VoIP customers. The E911 service provides near real-time address
verification for both static users (those who place calls from one location)
and nomadic users (those who move from location to location) and routes
calls to the Public Safety Access Point in the customer's local area. The
call is routed on the highest quality route to ensure call quality for
emergency communications.
For our military customers, we have a product called Mail Call, which is a
free voice mail service that delivers a wave file onto the customer's e-mail
account, making it easy to receive messages. Once a member of the military
or their family becomes a Rapid Link customer, we offer the customer a toll
free access number and security code. When the customer dials the supplied
number and enters the security code, the subscriber can leave a message.
Shortly thereafter, an e-mail will be sent to the service member recipient
with a voice message attached to the e-mail.
While we are optimistic that our VoIP-based retail products will provide us
with meaningful growth opportunities in our current fiscal year, we have yet
to derive material revenues from any of these products. The continuing
viability of our business and operations is dependant on our ability to
exploit this retail opportunity and we can give no assurances that we will
be successful.
Dial Thru and Re-origination Services
We provide a variety of international Dial Thru and Re-origination services.
These services, while still contributing a significant portion of our
revenues, will continue to decrease as a percentage of our total revenues as
we continue to develop and market new services. Generally, the Dial Thru
and Re-origination services are provided to customers that establish
deposits or prepayments with us to be used for long-distance calling. The
Dial Thru service allows customers the convenience of making local and/or
international calls in the same manner as traditional long distance dialing.
In those markets in which we cannot currently provide Dial Thru service, we
offer our Re-origination service, which allows a caller outside of the
United States to place a long distance telephone call that appears to have
originated from our switch in Los Angeles to the customer's location, and
then connects the call through our network to anywhere in the world. By
completing the calls in this manner, we are able to provide very competitive
rates to the customer. Wherever possible, we route calls over our private
network. By using VoIP to compress voice and data transmissions across the
public Internet, we are able to offer these services at costs that are
substantially less than traditional communications services.
International Wholesale Termination
Primarily as a result of our acquisition of RLI, we began offering
international call completion on a wholesale basis to international
telecommunications companies. Our service enables our customers to offer
their own customers phone-to-phone global voice and fax services. This
service provides our customers with high quality and low cost long distance
without our customers having to deploy their own VoIP infrastructure. We
can also provide additional termination opportunities to customers that have
developed their own VoIP networks with nearly instant access to our
termination points by connecting to these customers via the Internet.
Therefore, we have the capability to offer our services to carriers
connecting to our network through traditional dedicated switch to switch
connections, and through the public Internet whereby our customers connect
to our network using their own VoIP equipment.
Global Roaming
Our Global Roaming service provides customers a single account number to use
to initiate phone-to-phone calls from locations throughout the world using
specific toll-free access numbers. This service enables customers to
receive the cost benefits associated with our telecommunications network
throughout the world.
FaxThru
We offer FaxThru and "store and forward" fax services, which allow a
customer to send a fax to another party utilizing the Internet without
incurring long distance or similar charges. From the customer's perspective,
these products function exactly like traditional fax services, but with
significant savings in long distance charges.
Suppliers
Our principal suppliers consist of domestic and international
telecommunications carriers, and Internet Service Providers. Relationships
currently exist with a number of reliable carriers. During the fiscal year
ended October 31, 2005, one of our suppliers accounted for approximately 20%
of our total costs of revenues and another supplier accounted for 11% of
our total costs of revenues. Due to the highly competitive nature of the
telecommunications business, we believe that the loss of any carrier would
not have a long-term material impact on our business.
Customers
We focus our current retail sales and marketing efforts on our VoIP products
and services, targeting SMEs, members of the US military, particularly those
located in foreign markets where telecommunications deregulation has not
taken place or is currently underway, residential customers in those same
markets and to a lesser extent the United States, and VoIP wholesale
customers located both domestically and internationally. We rely heavily on
the use of commissioned agents to generate retail sales in foreign markets,
as well as web portals, magazines and local military base events, and third
party resellers. By doing so, we believe that we establish a wide base of
customers with little vulnerability based on lack of customer loyalty. Our
wholesale customers are primarily large public telecommunications customers
in the United States, and medium to large foreign Postal, Telephone and
Telegraph companies, which are those entities responsible for providing
telecommunications services in foreign markets and are usually government
owned or controlled.
During the fiscal year ended October 31, 2005 we provided wholesale services
to a customer who accounted for 11% of our revenues and to another customer
who accounted for 13% of our revenues. During the fiscal year ended October
31, 2004, we provided wholesale services to a customer who accounted for 17%
of our revenues, and to another customer who accounted for 13% of revenues.
We believe the loss of any individual customer would not materially impact
our business. We generally do business with approximately 20 wholesale
customers, any of which either collectively, or in most cases individually,
could compensate for the loss of a major customer. Typically, we have
limited capacity, imposed by our suppliers, in which to transmit our
telecommunications traffic. We frequently offer this capacity to our larger
customers, however it is possible to offer these opportunities to all or a
few of our wholesale customers at any time, thus reducing our reliance on
any one customer and providing a relatively quick transition between
customers if we should lose a customer.
Competition
The telecommunications services industry is highly competitive, rapidly
evolving and subject to constant technological change. Other providers
currently offer one or more of each of the services offered by us.
Telecommunications service companies compete for consumers based on price
and quality, with the dominant providers conducting extensive advertising
campaigns to capture market share. As a service provider in the long
distance telecommunications industry, we compete with such dominant
providers as AT&T Corp., MCI, Sprint Corporation and Qwest Communications
International, all of which are substantially larger than us and have the
resources, history and customer bases to dominate virtually every segment of
the telecommunications market.
A substantial majority of the telecommunications traffic around the world is
carried by dominant carriers in each market. These carriers, such as
British Telecom and Deutsche Telekom, have started to deploy packet-switch
networks for voice and fax traffic. In addition, other industry leaders,
such as AT&T, MCI, Sprint and Qwest Communications International, as well as
large cable companies, have begun to offer Internet telephony services both
in the United States and internationally. These and other competitors will
be able to bundle services and products that are not offered by us, together
with Internet telephony services, to gain a competitive advantage over us in
the marketing and distribution of products and services
We also compete with other smaller carriers including IDT Corp.,
deltathree.com, Primus Telecommunications Group, Inc., Net2Phone Inc., 8x8
Inc., and private companies such as Vonage. Additionally, a number of non-
traditional competitors have been attracted to the market, including
internet-based service providers. We also believe that existing competitors
are likely to continue to expand their service offerings to appeal to
retailers and consumers especially in the area of VoIP.
The market for international voice and fax call completion services is also
highly competitive. We compete both in the market for enhanced Internet
communications services and the market for carrier transmission services.
We believe that the primary competitive factors in the Internet and VoIP
communications business are quality of service, price, convenience and
bandwidth. We believe that the ability to offer enhanced service
capabilities, including new services, will become an increasingly important
competitive factor in the near future.
Future competition could come from a variety of companies both in the
Internet and telecommunications industries. In addition, some Internet
service providers have begun enhancing their real-time interactive
communications and, although these companies have initially focused on
instant messaging, we expect them to provide PC-to-phone services in the
future.
Wholesale Internet Telephone Service Providers
During the past several years, a number of companies have introduced
services that make Internet telephony or voice services over the Internet
available to businesses and consumers. iBasis, Teleglobe International
Holdings and the wholesale divisions of Net2Phone and deltathree.com route
traffic to destinations worldwide and compete directly with us. Other
Internet telephony service providers focus on a retail customer base and may
in the future compete with us. These companies offer the kinds of voice
services we are currently offering. In addition, companies currently in
related markets are providing VoIP services or adapt their products to
enable voice over the Internet services. Many of these companies have
migrated into the Internet telephony market as direct competitors.
Regulation of Internet Telephony and the Internet
Telecommunications services are subject to extensive government regulation
at both the federal and state levels in the United States. Any
violations of the regulations may subject us to enforcement penalties.
The Federal Communications Commission ("FCC") has jurisdiction over all
telecommunications common carriers to the extent they provide interstate or
international communications services, including the use of local networks
to originate or terminate such services. Each state regulatory commission
has jurisdiction over the same carriers with respect to their provision of
local and intrastate long distance communications services. Significant
changes to the applicable laws or regulations imposed by any of these
regulators could have a material adverse effect on our business, operating
results and financial condition.
The following summary of regulatory developments and legislation is intended
to describe what we believe to be the most important, currently effective
and proposed international, federal, state and local regulations and
legislation that are likely to materially affect us. Some of these and other
existing federal and state regulations are the subject of judicial
proceedings and legislative and administrative proposals that could change,
in varying degrees, the manner in which this industry operates. We cannot
predict the outcome of any of these proceedings or their impact on us or the
telecommunications industry at this time. Some of these future legislative,
regulatory or judicial changes may have a material adverse impact on our
business.
Regulation by the Federal Communications Commission
Universal Service. In 1997, the FCC issued an order, referred to as
the Universal Service Order, to implement the provisions of the
Telecommunications Act of 1996 relating to the preservation and advancement
of universal telephone service. The Universal Service Order requires all
telecommunications carriers providing interstate telecommunications services
to periodically contribute to universal service support programs
administered by the FCC (the "Universal Service Funds"). The periodic
contribution requirements to the Universal Service Funds under the Universal
Service Order are currently assessed based on a percentage of each
contributor's interstate and international end user telecommunications
revenues reported to the FCC, which we measure and report in accordance with
the legislative rules adopted by the FCC. The contribution rate factors are
determined quarterly and carriers, including us, are billed for their
contribution requirements each month based on projected interstate and
international end-user telecommunications revenues, subject to periodic true
up. We, and most of our competitors, pass through these Universal Service
Fund contributions in the price of our services, either as a separate
surcharge or as part of the base rate. In addition to the FCC universal
service support mechanisms, state regulatory agencies also operate parallel
universal service support systems. As a result, we are subject to state, as
well as federal, universal service support contribution requirements, which
vary from state to state. As with any regulatory obligation, if a federal or
state regulatory body determines that we have incorrectly calculated and/or
remitted any universal service fund contribution, we could be subject to the
assessment and collection of past due remittances as well as interest and
penalties thereon. Furthermore, if the FCC determines that we have
incorrectly calculated and overstated a separately invoiced line item
identified as a recovery of contributions to the Universal Service Funds we
could be required to repay any such over-collection and be subject to
penalty.
The FCC is currently considering several proposals that would fundamentally
alter the basis upon which our Universal Service Fund contributions are
determined and the means by which such contributions may be recovered from
our customers, changing from a revenue percentage measurement to a
connection (capacity) or telephone number (access) measurement. Because we
pass through these contributions to consumers, a change in the contribution
methodology would not directly affect our net revenues; however, a change in
how contributions are assessed might affect our customers differently than
the customers of competing services, and therefore could either increase or
decrease the attractiveness of our services. The timing and effect of any
FCC action on this proposal is not yet known.
Access Charges. As a long distance provider, we remit access fees directly
to local exchange carriers or indirectly to our underlying long distance
carriers for the origination and termination of our long distance
telecommunications traffic. Generally, intrastate access charges are higher
than interstate access charges. Therefore, to the degree access charges
increase or a greater percentage of our long distance traffic is intrastate,
our costs of providing long distance services will increase.
In April 2001, the FCC released a Notice of Proposed Rulemaking in which it
proposed a "fundamental re-examination of all currently regulated forms
of intercarrier compensation." Several different industry groups have
submitted access charge reform proposals to the FCC. The FCC has not yet
acted on these proposals and it is not yet known when it will act.
Therefore, at this time we cannot predict the effect that the FCC's ultimate
determinations regarding access charge reform may have upon our business.
Taxes and Regulatory Fees. We are subject to numerous local, state and
federal taxes and regulatory fees, including, but not limited to, the
Federal excise tax, FCC universal service fund contributions and regulatory
fees, and numerous public utility commission regulatory fees. We have
procedures in place to ensure that we properly collect taxes and fees from
our customers and remit such taxes and fees to the appropriate entity
pursuant to applicable law and/or regulation. If our collection procedures
prove to be insufficient or if a taxing or regulatory authority determines
that our remittances were inadequate, we could be required to make
additional payments, which could have a material adverse effect on our
business.
International Telecommunications Services-Section 214. In the United
States, to the extent that we offer services as a carrier, we are required
to obtain authority under Section 214 of the Communications Act of 1934 to
provide telecommunications service that originates within the United States
and terminates outside the United States. We have obtained the required
Section 214 authorization from the FCC to provide U.S. international
service. As a condition to our Section 214 authorization, we are subject to
various reporting and filing requirements. Failure to comply with the FCC's
rules could result in fines, penalties, forfeitures or revocation of our FCC
authorization, each of which could have a material adverse effect on our
business, financial condition, and results of operation.
International Telecommunications Services - International Settlements. The
FCC's International Settlements Policy ("Policy") restricts the terms on
which U.S.-based carriers and certain of their foreign correspondents settle
the cost of terminating each other's traffic over their respective networks.
Under the International Settlements Policy, absent approval from the FCC,
international telecommunications service agreements with dominant foreign
carriers must be non-discriminatory, provide for settlement rates usually
equal to one-half of the accounting rate, and require proportionate share of
return traffic. This Policy, however, does not apply to arrangements with
any non-dominant foreign carrier or, since March 30, 2005, with any dominant
foreign carrier on routes where a demonstration has been made that at least
one U.S. carrier has a settlement arrangement with the dominant foreign
carrier that is compliant with the FCC's applicable benchmark settlement
rates. This action has greatly lessened the number of instances in which the
Policy applies, effectively granting U.S. and foreign carriers greater
freedom to set rates and terms in their agreements. As a result, 164
countries currently are exempt from the International Settlements Policy,
representing over 90% of all U.S.-originated international traffic.
Notwithstanding the foregoing, the FCC could find that we do not meet
certain International Settlements Policy requirements with respect to
certain of our foreign carrier agreements. Although the FCC generally has
not issued penalties in this area, it has issued a Notice of Apparent
Liability to a U.S. company for violations of the International Settlements
Policy and it could, among other things, issue a cease and desist order,
impose fines or allow the collection of damages if it finds that we are not
in compliance with the International Settlements Policy. Any of these events
could have a material adverse effect on our business, financial condition,
or results of operation.
State Regulations. Our intrastate long distance operations are subject to
various state laws and regulations, including, in most jurisdictions,
certification and tariff filing requirements. As a certificated carrier,
consumers may file complaints against us at the public service commissions.
Certificates of authority can generally be conditioned, modified, canceled,
terminated, or revoked by state regulatory authorities for failure to comply
with state law and/or the rules, regulations and policies of the state
regulatory authorities. Fines and other penalties also may be imposed for
such violations. Public service commissions also regulate access charges and
other pricing for telecommunications services within each state. The
Regional Bell Operating Companies and other local exchange carriers have
been seeking reduction of state regulatory requirements, including greater
pricing flexibility, which, if granted, could subject us to increased price
competition.
Regulation of Internet Telephony and other IP-Enabled Services
The use of the Internet to provide telephone service is a fairly recent
market development. At present, we are not aware of any domestic, and are
aware of only a few foreign, laws or regulations that prohibit voice
communications over the Internet.
United States. We believe that, under U.S. law, the Internet-related
services that we provide constitute information services as opposed to
regulated telecommunications services and, as such, are not currently
actively regulated by the FCC or any state agencies charged with regulating
telecommunications carriers. We cannot provide assurances that our Internet-
related services will not be actively regulated in the future. Several
efforts have been made in the U.S. to enact federal legislation that would
either regulate or exempt from regulation services provided over the
Internet. Increased regulation of the Internet may slow its growth,
particularly if other countries also impose regulations. Such regulation may
negatively impact the cost of doing business over the Internet and
materially adversely affect our business, operating results, financial
condition and future prospects.
The advent of VoIP services being provided by pure play VoIP providers, such
as Vonage, cable television and other companies, and the increased number of
traditional telephone companies entering the retail VoIP space has
heightened the need for U.S. regulators to determine whether VoIP is subject
to the same regulatory and financial constraints as wire line telephone
service. On November 9, 2004, the FCC issued an order in response to a
petition from Vonage declaring that Vonage-style VoIP services were exempt
from state telecommunications regulations. The FCC order applies to all VoIP
offerings provided over broadband services. However, this order did not
clarify whether, or under what terms, VoIP traffic may be subject to
intercarrier compensation requirements; whether VoIP was subject to state
tax or commercial business regulations; or whether VoIP providers had to
comply with obligations related to 911 emergency calls, and the Universal
Service Fund ("USF") of the Communications Assistance for Law Enforcement
Act ("CALEA"). The FCC is addressing many of these issues through its "IP-
Enabled Services Proceeding", which opened in February 2004.
Due to perceived urgency, however, the FCC did take some specific actions
outside of the broad IP-Enabled Services Proceeding to address emergency
services and law enforcement issues. On June 3, 2005, the FCC issued an
order establishing rules requiring interconnected VoIP service providers to
incorporate 911 emergency call capabilities for their customers as a
standard feature of their services, rather than an optional enhancement.
And, on August 5, 2005, the FCC announced the extension of CALEA to certain
types of VoIP providers. Any additional regulation of IP-based services
concerns us and we must therefore remain diligent with respect to evaluating
the impact of FCC proposals and decisions. However, based on the nature of
the IP-enabled services we currently provide, we do not believe either FCC
decision will materially adversely affect our business, operating results,
financial condition or future prospects.
The FCC has also considered whether to impose surcharges or other common
carrier regulations upon certain providers of VoIP or Internet telephony.
While the FCC has presently refrained from such regulation, the regulatory
classification of Internet telephony remains unresolved. If the FCC were to
determine that certain Internet-related services including Internet
telephony services are subject to FCC regulations as telecommunications
services, the FCC could subject providers of such services to traditional
common carrier regulation, including requirements to make universal service
contributions, and pay access charges to local telephone companies. A
decision to impose such charges could also have a retroactive effect, which
could materially adversely affect us. It is also possible that the FCC may
adopt a regulatory framework other than traditional common carrier
regulation that would apply to Internet telephony providers. Any such
determinations could materially adversely affect our business, financial
condition, operating results and future prospects to the extent that any
such determinations negatively affect the cost of doing business over the
Internet or otherwise slow the growth of the Internet. Congressional
dissatisfaction with FCC conclusions could result in requirements that the
FCC impose greater or lesser regulation, which in turn could materially
adversely affect our business, financial condition, operating results and
future prospects.
States. State regulatory authorities may also retain jurisdiction to
regulate certain aspects of the provision of intrastate Internet telephony
services. Several state regulatory authorities have initiated proceedings to
examine the regulation of such services. Others could initiate proceedings
to do so.
International. The regulatory treatment of Internet telephony outside of
the U.S. varies widely from country to country. A number of countries that
currently prohibit competition in the provision of voice telephony also
prohibit Internet telephony. Other countries permit but regulate Internet
telephony. Some countries will evaluate proposed Internet telephony service
on a case-by-case basis and determine whether it should be regulated as a
voice service or as another telecommunications service. Finally, in many
countries, Internet telephony has not yet been addressed by legislation or
regulation. Increased regulation of the Internet and/or Internet telephony
providers or the prohibition of Internet telephony in one or more countries
could materially adversely affect our business, financial condition,
operating results and future prospects.
Other General Regulations
Although we do not know of any other specific new or proposed regulations
that will affect our business directly, the regulatory scheme for
competitive telecommunications market is still evolving and there could be
unanticipated changes in the competitive environment for communications in
general. For example, the FCC is currently considering rules that govern how
Internet providers share telephone lines with local telephone companies and
compensate local telephone companies. These rules could affect the role that
the Internet ultimately plays in the telecommunications market.
Sales and Marketing
We sell and market our services through vertical web portals, magazines,
local military base events, and third party resellers. Our Company also
receives a good deal of referrals from existing customers. Our revenues are
primarily derived from direct sales to business and residential accounts,
sales through commissioned agents and wholesale sales to other
telecommunications providers. We plan to expand our sales effort to both
domestic and international business accounts, as well as add products and
services targeted toward residential customers in both markets.
We offer individuals and businesses the opportunity to become resellers of
our services through our affiliate and reseller programs. Resellers are able
to purchase bulk accounts and hardware at reseller specific pricing and they
are then able to resell these accounts to private individuals under the
Rapid Link brand.
We have substantial revenues in foreign markets. For the fiscal years ended
October 31, 2005 and 2004, $3.4 million or 35% and $2.9 million or 22% of
our total revenue from continuing operations for each year, respectively,
originated from foreign markets.
Intellectual Property
We do not hold any patents or trademarks. Our products and services are
available to other telecommunications companies.
Employees
As of January 15, 2006, we have 31 full-time employees, seven of which
perform administrative and financial functions, 12 of which perform customer
support duties and 12 of which have experience in telecommunications
operations and/or sales. Ten employees are located in Los Angeles,
California and 22 employees operate in other offices worldwide. No
employees are represented by a labor union, and we consider our employee
relations to be good.
Risk Factors
Our cash flow may not be sufficient to satisfy our cost of operations
For the fiscal years ended October 31, 2005 and 2004, we recorded net losses
from continuing operations of approximately $2.6 million and $800,000,
respectively, on revenues from continuing operations of approximately $9.8
million and $13.4 million, respectively. As a result of these losses and
historical losses, we currently have a substantial working capital deficit.
In addition, approximately 71% of our trade accounts payable and accrued
liabilities are past due. To be able to service our debt obligations over
the course of the 2006 fiscal year we must generate significant cash flow
and obtain additional financing. If we are unable to do so or are otherwise
unable to obtain funds necessary to make required payments on our trade debt
and other indebtedness, it is likely that we will not be able to continue
our operations.
Our operating history makes it difficult to accurately assess our general
prospects in the VoIP portion of the telecommunications industry and the
effectiveness of our business strategy. In addition, we have limited
meaningful historical financial data upon which to forecast our future sales
and operating expenses. Our future performance will also be subject to
prevailing economic conditions and to financial, business and other factors.
Accordingly, we cannot assure you that we will successfully implement our
business strategy or that our actual future cash flows from operations will
be sufficient to satisfy our debt obligations and working capital needs.
To implement our business strategy, we will also need to seek additional
financing. There is no assurance that adequate levels of additional
financing will be available at all or on acceptable terms. Also, any
additional financing will likely result in significant dilution to our
existing stockholders. If we are unable to obtain additional financing on
terms that are acceptable to us, we could be forced to dispose of assets to
make up for any shortfall in the payments due on our debt under
circumstances that might not be favorable to realizing the highest price for
those assets. A portion of our assets consists of intangible assets, the
value of which will depend upon a variety of factors, including the success
of our business. As a result, if we do need to sell any of our assets, we
cannot assure you that our assets could be sold quickly enough, or for
amounts sufficient, to meet our obligations.
We face competition from numerous, mostly well-capitalized sources
The market for our products and services is highly competitive. We face
competition from multiple sources, virtually all of which have greater
financial resources and a substantial presence in our markets and offer
products or services similar to our services. Therefore, we may not be able
to successfully compete in our markets, which could result in a failure to
implement our business strategy, adversely affecting our ability to attract
and retain new customers. In addition, competition within the industries in
which we operate is characterized by, among other factors, price and the
ability to offer enhanced services. Significant price competition would
reduce the margins realized by us in our telecommunications operations.
Many of our competitors have greater financial resources to devote to
research, development and marketing, and may be able to respond more quickly
to new or emerging technologies and changes in customer requirements. If we
are unable to provide value-added Internet products and services then we
will be unable to compete in certain segments of the market, which could
have an adverse impact on our business.
The regulatory environment in our industry is very uncertain
The legal and regulatory environment pertaining to the Internet is uncertain
and changing rapidly as the use of the Internet increases. For example, in
the United States, the FCC is considering whether to impose surcharges or
additional regulations upon certain providers of Internet telephony.
In addition, the regulatory treatment of Internet telephony outside of the
United States varies from country to country. There can be no assurance
that there will not be legally imposed interruptions in Internet telephony
in these and other foreign countries. Interruptions or restrictions on the
provision of Internet telephony in foreign countries may adversely affect
our ability to continue to offer services in those countries, resulting in a
loss of customers and revenues.
New regulations could increase the cost of doing business over the Internet
or restrict or prohibit the delivery of our products or services using the
Internet. In addition to new regulations being adopted, existing laws may be
applied to the Internet. Newly existing laws may cover issues that include
sales and other taxes, access charges, user privacy, pricing controls,
characteristics and quality of products and services, consumer protection,
contributions to the USF, cross-border commerce, copyright, trademark and
patent infringement, and other claims based on the nature and content of
Internet materials.
Changes in the technology relating to Internet telephony could threaten our
operations
The industries in which we compete are characterized, in part, by rapid
growth, evolving industry standards, significant technological changes and
frequent product enhancements. These characteristics could render existing
systems and strategies obsolete and require us to continue to develop and
implement new products and services, anticipate changing consumer demands
and respond to emerging industry standards and technological changes. No
assurance can be given that we will be able to keep pace with the rapidly
changing consumer demands, technological trends and evolving industry
standards.
We need to develop and maintain strategic relationships around the world to
be successful
Our international business, in part, is dependent upon relationships with
distributors, governments or providers of telecommunications services in
foreign markets. The failure to develop or maintain these relationships
could have an adverse impact on our business.
We rely on three key senior executives
Our success is dependent on our senior management team of John Jenkins,
David Hess and Allen Sciarillo and our future success will depend, in large
part, upon our ability to retain these three individuals.
The expansion of our VoIP product offerings is essential to our survival
We intend to expand our VoIP network and the range of enhanced
telecommunications services that we provide. Our expansion prospects must be
considered in light of the risks, expenses and difficulties frequently
encountered by companies in new and rapidly evolving markets.
Our OTC Bulletin Board listing negatively affects the liquidity of our
common stock
Our common stock currently trades on the OTC Bulletin Board. Therefore, no
assurances can be given that a liquid trading market will exist at the time
any investor desires to dispose of any shares of our common stock. In
addition, our common stock is subject to the so-called "penny stock" rules
that impose additional sales practice requirements on broker-dealers who
sell such securities to persons other than established customers and
accredited investors (generally defined as an investor with a net worth in
excess of $1 million or annual income exceeding $200,000, or $300,000
together with a spouse). For transactions covered by the penny stock rules,
a broker-dealer must make a suitability determination for the purchaser and
must have received the purchaser's written consent to the transaction prior
to sale. Consequently, both the ability of a broker-dealer to sell
our common stock and the ability of holders of our common stock to sell
their securities in the secondary market may be adversely affected. The
Securities and Exchange Commission has adopted regulations that define a
"penny stock" to be an equity security that has a market price of less than
$5.00 per share, subject to certain exceptions. For any transaction
involving a penny stock, unless exempt, the rules require the delivery,
prior to the transaction, of a disclosure schedule relating to the penny
stock market. The broker-dealer must disclose the commissions payable to
both the broker-dealer and the registered representative, current quotations
for the securities and, if the broker-dealer is to sell the securities as a
market maker, the broker-dealer must disclose this fact and the broker-
dealer's presumed control over the market. Finally, monthly statements must
be sent disclosing recent price information for the penny stock held in the
account and information on the limited market in penny stocks.
Item 2. Description of Property.
We lease approximately 6,800 square feet in two locations in Los Angeles,
California. Our principal executive office is located at 17383 Sunset
Boulevard, Suite 350, in Los Angeles, California. Our operations and
information systems are located in Los Angeles and New York, New York, where
we lease 104 square feet under a month-to-month co-location agreement. We
also have a sales and administrative office in Johannesburg, South Africa.
We believe that our facilities are sufficient for the operation of our
business for the foreseeable future. The expiration dates of the above-
mentioned lease agreements are as follows:
February 28, 2006 South Africa office
July 12, 2006 Los Angeles - operations and information systems office
April 30, 2007 Los Angeles - executive office
We lease office space for certain sales staff and our President in
Englewood, New Jersey on a month-to-month basis.
Item 3. Legal Proceedings.
On June 12, 2001, Cygnus Telecommunications Technology, LLC ("Cygnus"),
filed a patent infringement suit (case no. 01-6052) in the United States
District Court, Central District of California, with respect to our
"international reorigination" technology. The injunctive relief that Cygnus
sought in this suit has been denied, but Cygnus continues to seek a license
fee for the use of the technology.
In August 2002, Cygnus filed a motion for a preliminary injunction to
prevent us from providing "re-origination" services. We filed a cross
motion for summary judgment of non-infringement. Both motions were denied.
On August 22, 2003, we re-filed the motion for summary judgment for non-
infringement. In response to this filing, in August 2004, the court
narrowly defined the issue to relate to a certain re-origination technology,
which we believe we do not now use, nor have we ever utilized to provide any
of our telecommunications services. On August 17, 2005, the United States
District Court for the Northern District of California issued a stay in the
lawsuit for the purpose of reexamining the Cygnus patent. This stay is the
result of a reexamination request received by the United States Patent and
Trademark Office ("USPTO"), whereby the USPTO has issued a decision that the
patents are invalid. Consequently, further proceedings are expected. We
intend to continue defending this case vigorously, and though our ultimate
legal and financial liability with respect to such legal proceeding is
expected to be minimal, it cannot be estimated with any certainty at this
time.
The State of Texas ("Texas") performed a sales tax audit of Canmax Retail
Systems , a current subsidiary of ours, and former operating subsidiary
providing retail automation software and related services to the retail
petroleum and convenience store industries, for the years 1995 to 1999.
Texas determined that Canmax Retail Systems did not properly remit sales tax
on certain transactions, including asset purchases and software development
projects that Canmax Retail Systems performed for specific customers. Our
current and former management filed exceptions, through our outside sales
tax consultant, to Texas' audit findings, including the non-taxable nature
of certain transactions and the failure of Texas to credit our account for
sales tax remittances. In correspondence from Texas in June 2003, Texas
agreed to consider offsetting remittances received by Canmax Retail Systems
during the audit period. Texas has refused to consider other potential
offsets. Based on this correspondence with Texas, our estimate of the
potential liability was originally recorded at $350,000 during fiscal year
2003. Based on further correspondence with Texas, this estimated liability
was increased to $1.1 million during the first quarter of fiscal year 2004.
Since this sales tax liability represents an adjustment to amounts
previously reported in discontinued operations, it was classified separately
during the first quarter of fiscal year 2004 in discontinued operations, and
is included in the October 31, 2004 consolidated balance sheet in "Net
current liabilities from discontinued operations".
On August 5, 2005, the Texas filed a lawsuit in the 53rd Judicial District
Court of Travis County, Austin, Texas against our Company. The lawsuit
requests payment of approximately $1,162,000 including penalties and
interest for state and local sales tax. During the third quarter of fiscal
year 2005, we accrued an additional $62,000, increasing the estimated
liability to $1.162 million. This amount is included in the October 31, 2005
consolidated balance sheet in "Net current liabilities from discontinued
operations". We believe that we will be able to negotiate a reduced
settlement amount with the state, although there can be no assurance that
we will be successful with respect to such negotiations. We will continue
to aggressively pursue the collection of unpaid sales taxes from former
customers of Canmax Retail Systems, primarily Southland Corporation, now
7-Eleven Corporation ("7-Eleven"), as a majority of the amount owed to
the Texas is the result of uncollected taxes from the sale of software to
7-Eleven during the period under audit. However, there can be no assurance
that we will be successful with respect to such collections.
On January 12, 2004, we filed a suit against 7-Eleven in the 162nd District
Court in Dallas, Texas. Our suit claims a breach of agreement on the part
of 7-Eleven in failing to reimburse us for taxes paid to Texas as well as
related taxes for which we are currently being held responsible by Texas.
Our suit seeks reimbursement for the taxes paid and a determination by the
court that 7-Eleven is responsible for paying the remaining tax liability to
Texas.
On July 20, 2004, we filed a suit against Q Comm International, Inc. ("Q
Comm") in Federal Court in the Central District of Utah. Our suit claims
damages of $4 million plus attorneys' fees and costs resulting from the
breach of a purchase agreement by Q Comm relating to the sale of our
internally constructed equipment for the prepaid telecommunications
industry. Pursuant to the terms of the purchase agreement, we would deliver
the source code of certain proprietary software in consideration for an
aggregate purchase price of $4 million, of which $1 million was due at
closing and the remainder was due over three years. Following execution of
the agreement, we tendered the software source code to Q Comm. However, Q
Comm failed to pay us the initial amount due under the agreement and made
copies of the source code without our permission.
During the fourth quarter of fiscal 2005, we entered into a Settlement and
Release Agreement with Q Comm. The Agreement releases Q Comm from any and
all claims in connection with our lawsuit against Q Comm for breach of a
purchase agreement. In connection with the release, we agreed to a cash
settlement of $225,000, which was received on August 10, 2005. This amount
was recorded as "Gain on settlement of liabilities/legal settlement" during
the fiscal year ended October 31, 2005.
Item 4. Submission of Matters to a Vote of Security Holders.
Our annual stockholders meeting was held on October 25, 2005. The following
proposals were approved at the meeting:
* Proposal 1 - For the election of John Jenkins, David Hess, Allen
Sciarillo, Lawrence Vierra and Robert M. Fidler to serve as our
directors until the 2006 Annual Meeting of Stockholders;
* Proposal 2 - For amending our certificate of incorporation to increase
the amount of authorized common stock from 84,169,100 shares to
175,000,000 shares;
* Proposal 3 - For amending our certificate of incorporation to change
our company name to Rapid Link, Incorporated;
* Proposal 4 - For the approval to amend our 2002 Equity Incentive Plan
to increase the number of shares of common stock authorized for
issuance from 2,000,000 to 4,000,000;
* Proposal 5 - For the ratification of the appointment of KBA Group LLP
to serve as independent auditors for the 2005 fiscal year.
The following table sets forth the voting results for each proposal,
including the votes cast for each director:
For Against Abstain
---------- ------- -------
Proposal 1
----------
John Jenkins 26,635,411 78,160 23,220
David Hess 26,635,411 78,160 23,220
Allen Sciarillo 26,635,371 78,200 23,220
Lawrence Vierra 26,712,171 1,400 23,220
Robert M. Fidler 26,713,431 140 23,220
Proposal 2 15,714,389 173,353 21,066
Proposal 3 15,883,995 32,433 1,380
Proposal 4 14,225,747 184,072 341,302
Proposal 5 26,713,445 10,286 13,060
PART II
Item 5. Market for Common Equity and Related Stockholder Matters.
Market For Our Common Stock
Our common stock, $0.001 par value, is quoted on the OTC Bulletin Board
under the trading symbol "RPID". Each share ranks equally as to dividends,
voting rights, participation in assets on winding-up and in all other
respects. No shares have been or will be issued subject to call or
assessment. There are no preemptive rights, provisions for redemption or
for either cancellation or surrender or provisions for sinking or purchase
funds.
The following table sets forth, for the fiscal periods indicated, the high
and low closing sales price per share of our common stock as reported on the
OTC Bulletin Board. The market quotations presented reflect inter-dealer
prices, without retail mark-up, mark-down or commissions and may not
necessarily reflect actual transactions.
COMMON STOCK
CLOSING PRICES
--------------------
HIGH LOW
------ ------
FISCAL 2004
First Quarter . . . . . . . . . . . $ 0.25 $ 0.17
Second Quarter . . . . . . . . . . $ 0.23 $ 0.10
Third Quarter . . . . . . . . . . . $ 0.18 $ 0.12
Fourth Quarter . . . . . . . . . . $ 0.16 $ 0.10
FISCAL 2005
First Quarter . . . . . . . . . . . $ 0.68 $ 0.10
Second Quarter . . . . . . . . . . $ 0.40 $ 0.18
Third Quarter . . . . . . . . . . . $ 0.51 $ 0.14
Fourth Quarter . . . . . . . . . . $ 0.20 $ 0.11
The closing price for our common stock on January 16, 2006 as reported on
the OTC Bulletin Board was $0.12.
Dividends
We have never declared or paid any cash dividends on our common stock and do
not presently intend to pay cash dividends on our common stock in the
foreseeable future. We intend to retain future earnings for reinvestment in
our business.
Holders of Record
There were 2,469 stockholders of record as of January 15, 2006.
Recent Sales of Unregistered Securities
None.
Item 6. Management's Discussion and Analysis or Plan of Operation.
This Annual Report on Form 10-KSB contains "forward-looking statements"
within the meaning of Section 27A of the Securities Act of 1933 and Section
21E of the Securities Exchange Act of 1934. These statements relate to
expectations concerning matters that are not historical facts. Words such
as "projects", "believe", "anticipates", "estimate", "plans", "expect",
"intends", and similar words and expressions are intended to identify
forward-looking statements. Although we believe that such forward-looking
statements are reasonable, we cannot assure you that such expectations will
prove to be correct. Factors that could cause actual results to differ
materially from such expectations are disclosed herein including, without
limitation, in the "Risk Factors" located in PART I, Item 1. All forward-
looking statements attributable to our Company are expressly qualified in
their entirety by such language and we do not undertake any obligation to
update any forward-looking statements. You are also urged to carefully
review and consider the various disclosures we have made which describe
certain factors, which affect our business throughout this Report. The
following discussion and analysis of financial condition and results of
operations covers the years ended October 31, 2005 and 2004 and should be
read in conjunction with our Financial Statements and the Notes thereto
commencing at page F-1 hereof.
General
On November 2, 1999, we consummated the DTI Acquisition and, in the second
quarter of fiscal 2000, we shifted focus toward our global VoIP strategy.
This change in focus has led to a significant shift from our prepaid long
distance operations toward higher margin international wholesale and retail
telecommunications opportunities. This strategy allows us to form local
partnerships with foreign PTTs and to provide IP enabled services based on
the in-country regulatory environment affecting telecommunications and data
providers. In the third quarter of fiscal 2000, we further concentrated our
efforts toward our global VoIP telecommunications strategy by moving our
operations to Los Angeles, California. This consolidation and reduction in
staff has allowed us to significantly reduce our overhead, and although our
operations have not yet produced positive cash flow, we believe that
continued cost reductions and moderate revenue growth would allow us to
achieve positive results in the near future.
On October 12, 2001, we completed the acquisition from RLI of certain assets
and executory contracts of Rapid Link, USA, Inc. and 100% of the common
stock of Rapid Link Telecommunications, GmbH, a German company. RLI
provides integrated data and voice communications services to both wholesale
and retail customers around the world. RLI built a large residential retail
customer base in Europe and Asia, using RLI's network to make international
calls anywhere in the world. Furthermore, RLI developed a VoIP network
using Clarent and Cisco technology, which we have used to take advantage of
wholesale opportunities where rapid deployment and time to market are
critical.
On November 19, 2002 we entered into an agreement with Global Capital
Funding Group, L.P. that provided us with a two-year loan of $1.25 million,
with a maturity date of November 8, 2004. $443,000 of the proceeds from
this financing were used to pay off the remaining balance of Dial Thru's
April 2001 convertible debenture with Global Capital while the remaining
$807,000 has been used for our Company's ongoing working capital needs. On
June 1, 2005, the maturity date was extended to February 29, 2008.
On July 24, 2003 we entered into an agreement with GCA Strategic Investment
Fund Limited that provided us with a 152-day loan of $550,000. On January
2, 2004, per the terms of this loan agreement, this loan became a
convertible debenture with a maturity date of November 8, 2004. The loan
proceeds have been used for our Company's ongoing working capital needs. On
June 1, 2005, the maturity date was extended to November 20, 2006.
On August 1, 2003, our German subsidiary, Rapid Link Telecommunications GmbH
received approval for its insolvency filing and was turned over to a trustee
who is responsible for liquidating the operation. We have determined that
we no longer control the operations of this subsidiary and that our parent
entity has no legal obligation to pay the liabilities of Rapid Link
Telecommunications, GmbH.
The telecommunications industry continues to evolve towards an increased
emphasis on IP related products and services. We have focused our business
towards these types of products and services for the last couple of years.
Furthermore, we believe the use of the Internet to provide IP related
telephony services to the end user customer, either as a stand alone
solution or bundled with other IP products, will continue to impact the
industry as large companies like Time Warner and AT&T look to capitalize on
their existing cable infrastructures, and smaller companies look to provide
innovative solutions to attract commercial and residential users to their
product offerings.
We are focused on the growth of our VoIP business by adding new products and
services that we can offer to end user customers. We are attempting to
transition our current customers, and attract new customers through the sale
of specialized VoIP Internet Access Devices, or IAD's, that allow customers
to connect their phones to their existing high-speed Internet connections.
These IADs allow the user to originate phone calls over the Internet,
thereby bypassing the normal costs associated with originating phone calls
over existing land lines. By avoiding these costs, we are able to offer
lower priced services to these customers, which we believe will allow us to
attract additional users. We also believe there will be considerable demand
for this type of product in certain foreign markets where end users pay a
significant premium to their local phone companies to make long distance
phone calls. We are targeting business and residential customers, as well
as members of the US military. While we expect the growth in our customers
and suppliers and the introduction of innovative product offerings to retail
users, specifically IADs, to have a positive impact on our revenues and
earnings, we cannot predict our ability to significantly grow this line of
business. To date, we have not attracted a significant number of new
customers. The revenue and costs associated with the IAD product offerings
will depend on the number of customers and contracts we obtain. In many
ways, our ability to maintain operations in the foreseeable future will be
dictated by our ability to quickly deploy VoIP products into selected
markets and to realize high quality revenues from these products and related
telecommunications sources. Any delay in our expansion of VoIP products and
services will adversely affect our financial condition and cash flow and
could ultimately cause us to greatly reduce or even cease operations.
We continue to seek opportunities to grow our business through strategic
acquisitions that will complement our retail strategy as well as adding key
personnel that have demonstrated a proven track record in sales, marketing
and operations of retail telecommunications organizations, especially in the
area of retail VoIP.
See "Risk Factors" above for discussion of the impact of market risks,
financial risks and other uncertainties. Please also see "Forward-Looking
Statements" above relating to statements other than historical information
or statements of current condition.
Critical Accounting Policies
The consolidated financial statements include accounts of our Company and
all of our majority-owned subsidiaries. The preparation of financial
statements in conformity with accounting principles generally accepted in
the United States requires us to make estimates and assumptions in certain
circumstances that affect amounts reported in the accompanying consolidated
financial statements and related footnotes. In preparing these financial
statements, we have made our best estimates and judgments of certain amounts
included in the financial statements, giving due consideration to
materiality. We do not believe there is a great likelihood that materially
different amounts would be reported related to the accounting policies
described below. However, application of these accounting policies involves
the exercise of judgment and use of assumptions as to future uncertainties
and, as a result, actual results could differ from these estimates.
Revenue Recognition
For a majority of our products, our revenues are generated at the time a
customer uses our network to make a phone call. We sell our services to
SMEs and end-users who utilize our network for international re-origination
and dial thru services, and to other providers of long distance usage who
utilize our network to deliver domestic and international termination of
minutes to their own customers. At times we receive payment from our
customers in advance of their usage, which we record as deferred revenue,
recognizing revenue as calls are made.
For our newer VoIP product offerings, specifically our Rapid Link service,
we are required to recognize revenue in accordance with Emerging Issues Task
Force ("EITF") consensus No. 00-21, "Accounting for Revenue Arrangements
with Multiple Deliverables" which requires that revenue arrangements with
multiple deliverables be divided into separate units of accounting if the
deliverables in the arrangement meet specific criteria. In addition,
arrangement consideration must be allocated among the separate units of
accounting based on their relative fair values, with certain limitations.
The provisioning of the Rapid Link service with the accompanying desktop
terminal adapter or other customer premise equipment constitutes a revenue
arrangement with multiple deliverables. In accordance with the guidance of
EITF No. 00-21, we allocate Rapid Link revenues, including activation fees,
among the customer premise equipment and subscriber services. Revenues
allocated to the customer premise equipment are recognized as product
revenues at the end of 30 days after order placement, provided the customer
does not cancel their Rapid Link service. All other revenues are recognized
as license and service revenues when the related services are provided. We
defer the cost of goods sold of products sold for which the end customer or
distributor has a right of return. The cost of the products sold is
recognized, contemporaneously with the recognition of revenue, when the
subscriber has accepted the service. To date, our new VoIP product
offerings have generated insignificant revenues.
The Securities and Exchange Commission's Staff Accounting Bulletin No. 104,
"Revenue Recognition", provides guidance on the application of generally
accepted accounting principles to selected revenue recognition issues. We
have concluded that our revenue recognition policy is appropriate and in
accordance with generally accepted accounting principles and Staff
Accounting Bulletin No. 104.
Allowance for Uncollectible Accounts Receivable
Accounts receivable are reduced by an allowance for amounts that may become
uncollectible in the future. All of our receivables are due from commercial
enterprises and residential users in both domestic and international
markets. The estimated allowance for uncollectible amounts is based
primarily on our evaluation of the financial condition of the customer, and
our estimation of the customer's willingness to pay amounts due. We review
our credit policies on a regular basis and analyze the risk of each
prospective customer individually in order to minimize our risk.
Goodwill
Effective November 1, 2001, we adopted SFAS No, 141, "Business Combinations"
("SFAS 141") and SFAS No. 142, "Goodwill and Other Intangible Assets" ("SFAS
142"). SFAS 141 requires that the purchase method of accounting be used for
all business combinations initiated after June 30, 2001, and also specifies
the criteria for the recognition of intangible assets separately from
goodwill. Under SFAS 142, goodwill is no longer amortized but is subject to
an impairment test at least annually or more frequently if impairment
indicators arise. In accordance with SFAS 142, an annual impairment test of
goodwill was performed by an independent valuation firm in each of the
fourth quarters of fiscal year 2005 and 2004. The valuation process
appraised our assets and liabilities using a combination of present
value and multiple of earnings valuation techniques. The results of both
impairment tests indicated goodwill was not impaired.
We record goodwill when the consideration paid for an acquisition exceeds
the fair value of net tangible and identifiable intangible assets acquired.
We measure and test goodwill for impairment on an annual basis or more
frequently if we believe indicators of impairment exists. Performance of the
impairment test involves a two-step process. The first step compares the
fair value of our single reporting unit to its carrying amount. The fair
value of the reporting unit is determined by calculating the market
capitalization of the reporting unit as derived from quoted market prices,
and further substantiated through the use of other generally accepted
valuation methods. A potential impairment exists if the fair value of the
reporting unit is lower than its carrying amount. Historically, the
impairment test has shown that the carrying value is less than fair value.
The second step of the process is only performed if a potential impairment
exists, as indicated by step one, and involves determining the difference
between the fair values of the reporting unit's net assets, other than
goodwill, as compared to the fair value of the reporting unit. If the
difference is less than the net book value of goodwill, impairment exists
and is recorded. We determine our reporting units, for purposes of testing
for impairment, by determining (i) how we manage our operations, (ii) if a
component of an operating unit constitutes a business for which discrete
financial information is available and our management regularly review such
financial information, and (iii) how the acquired entity is integrated with
our operations. Based on these criteria, we determined that we have a single
reporting unit.
In order to determine the fair value of our reporting unit under SFAS
142, we consider the following two approaches:
* Market Approach - Under the market approach, recent sales of
comparable companies or securities are analyzed to determine
the value for a particular asset under study. Adjustments are
made to the sales data to account for differences between the
subject asset and the comparables. The market approach is most
applicable to assets that are homogenous in nature and are
actively traded. Relative to other approaches to value, the
key strength of the market approach is that it provides
objective indications of value while requiring relatively few
assumptions be made.
* Income Approach - This approach measures the present worth of
anticipated future net cash flows generated by the business.
Net cash flows are forecast for an appropriate period and then
discounted to present value using an appropriate discount rate.
Net cash flow forecasts require analysis of the significant
variables influencing revenues, expenses, working capital,
and capital investment. An income approach methodology is
generally useful because it accounts for the specific
contribution of fundamental factors impacting those variables
that affect the value of the business.
According to SFAS 142, quoted market prices in active markets are the best
evidence of fair value and shall be used as the basis for the measurement of
fair value, if available. As of October 31, 2005, our market capitalization
was $3,222,690, determined by taking the shares outstanding as of that date
multiplied by our stock price of $0.11. We added interest bearing debt and
operating liabilities (excluding net current liabilities of discontinued
operations), adjusted downward to a fair value estimate of 25%, resulting in
a fair value of assets of approximately $5.3 million. This amount exceeds
the carrying value of our assets (the value of our assets as reported in our
financial statements), including goodwill, of $3,218,596. While our market
capitalization renders a minority interest valuation, because shares of our
Company represent minority interests, the fair value of assets exceeds its
carrying value even without the application of a control premium as
recommended by SFAS 142. However, we believe that the application of the
market approach necessitates additional analysis for three reasons (i) we
have generated no analyst coverage to provide information about our stock to
the public, suggesting that the market price may not reflect available
information, (ii) our stock price demonstrated volatility as of the
valuation date, and (iii) our stock is thinly traded with no organization
making an active market in the stock. These factors suggest that our stock
price, when taken in isolation, may not be sufficient evidence of fair
value. In estimating the fair value of a reporting unit, a valuation
technique based on multiples of earnings or revenues or a similar
performance measure may be used if that technique is consistent with the
objective of measuring fair value. As further support for our market
approach, we calculated the Business Enterprise Value ("BEV") for five other
telecommunications companies, which provide services similar to those that
we provide. The BEV is determined by taking the market capitalization of a
public enterprise, adding their debt and subtracting any cash equivalents.
The resulting value is divided by annual revenue in order to determine a
reasonable multiple that can be applied to us. We averaged the multiple of
these five companies, trading on average at 2.6 times their annual revenue
obtained from their most recent published financials, and applied the result
to our 2005 fiscal year revenues. The resulting BEV for our Company was
well in excess of the fair value of our assets calculated above. As a
result, we determined that the fair value of our Company exceeds its
carrying amount, and therefore that goodwill is not impaired.
Financing, Warrants and Amortization of Warrants and Fair Value Determination
We have traditionally financed our operations through the issuance of debt
instruments that are convertible into our common stock, at conversion rates
at or below the fair market value of our common stock at the time of
conversion, and typically include the issuance of warrants. We have
recorded debt discounts in connection with these financing transactions in
accordance with Emerging Issues Task Force Nos. 98-5 and 00-27.
Accordingly, we recognize the beneficial conversion feature imbedded in the
financings and the fair value of the related warrants on the balance sheet
as debt discount. The debt discount is amortized over the life of the
respective debt instrument.
Carrier Disputes
We review our vendor bills on a monthly basis and periodically dispute
amounts invoiced by our carriers. We review our outstanding disputes on a
quarterly basis as part of the overall review of our accrued carrier costs,
and adjust our liability based on management's estimate of amounts owed.
Results of Operations
Our operating results for the last two fiscal years are as follows:
% Change
2004 to
% of 2005 % of
Year Ended Revenue Increase Year Ended Revenue
Oct 31 2005 2005 (Decr) Oct 31 2004 2004
----------- ---- ------ ----------- ----
REVENUES $ 9,826,049 100% (27%) $ 13,380,510 100%
COSTS AND EXPENSES
Costs of revenues 7,713,349 78% (23%) 10,045,063 75%
Sales and marketing 205,973 2% (49%) 400,559 3%
General and administrative 3,227,609 33% 8% 2,990,630 22%
Depreciation and amortization 557,131 6% (10%) 615,883 5%
Gain on disposal of equipment (8,800) - 100% - -
Gain on settlement of
liabilities/legal settlement (225,000) (2%) (52%) (466,000) (3%)
----------- ---- ------ ----------- ----
Total costs and expenses 11,470,262 117% (16%) 13,586,135 102%
----------- ---- ------ ----------- ----
Operating loss (1,643,213) (17%) 723% (205,625) (2%)
OTHER INCOME (EXPENSE)
Interest expense and
financing costs (870,615) (9%) 42% (613,511) (5%)
Foreign currency
exchange gains 10,486 - (60%) 24,919 -
----------- ---- ------ ----------- ----
Total other expense, net (860,129) (9%) 46% (588,592) (4%)
----------- ---- ------ ----------- ----
LOSS FROM CONTINUING OPERATIONS (2,506,342) (25%) 222% (794,217) (6%)
INCOME (LOSS) FROM
DISCONTINUED OPERATIONS (62,000) (1%) (104%) 1,501,147 11%
----------- ---- ------ ----------- ----
NET INCOME (LOSS) $ (2,565,342) (26%) (470)% $ 706,930 (5%)
=========== ==== ====== =========== ====
INCOME (LOSS) PER SHARE:
Basic and diluted income
(loss) per share
Continuing operations $(0.11) $(0.05)
Discontinued operations - 0.09
----------- -----------
$(0.11) $ 0.04
=========== ===========
Results of Operations - 2005 Versus 2004
Operating Revenues
Our revenues decreased from $13.4 million for the fiscal year ended October
31, 2004 to $9.8 million for the fiscal year ended October 31, 2005, a
27% decline. Wholesale and retail revenues decreased by 27% and 26%,
respectively, period to period.
The decrease in wholesale revenues for the fiscal year ended October 31,
2005 compared to fiscal year 2004 is attributable to a decrease in
the number of termination opportunities available to us to offer to
our customers. Due to the competitive nature of the wholesale
telecommunications business, our customers frequently request a reduction in
the per minute termination rates that we offer them. At times, our
suppliers are not able to offer us lower rates in order to maintain the
minutes we are terminating to them. As a result, our wholesale revenues
fluctuate depending on the number of termination opportunities available to
us at any one time. We are working with new providers in an effort to
recapture our lost revenue, although the ultimate results of these
discussions cannot be predicted with any certainty. If we are unable to
attract and retain new wholesale customers, our wholesale revenues will
continue to erode.
The decrease in retail revenues for the fiscal year ended October 31, 2005
compared to fiscal year 2004 is primarily attributable to increased
competition in our largest foreign markets, including competition from the
incumbent phone company in each market. Furthermore, a significant portion
of our retail business comes from members of the United States military
stationed in foreign markets. The March 2003 redeployment of troops into
Iraq, where we have not historically provided long distance service,
resulted in a decline in our retail sales to these military customers who
were previously stationed in foreign markets that we serviced. During the
first five months of the current fiscal year, we offered services to U.S.
troops in Iraq on a limited basis. We are no longer providing services out
of Iraq. We are exploring opportunities to grow our retail business through
the introduction of new products and services, utilizing our in-house sales
group and our outside agents, as well as marketing through web portals and
magazines, focusing our efforts principally on the sale of our new Rapid
Link VoIP products, which allow users to connect specialized Internet Access
Devices to their existing high speed Internet connections. If we are unable
to stabilize our retail revenues, primarily from the U.S. military, and grow
our retail revenues from VoIP-based products, this category of revenue will
also continue to decline.
Costs of Revenues
Our costs of revenues as a percentage of revenues have increased from 75%
for the fiscal year ended October 31, 2004 to 78% for the fiscal year ended
October 31, 2005. Included within our costs of revenues for fiscal year 2005
is a reduction of costs in the amount of $283,138 relating to the favorable
resolution of a dispute with one of our vendors. These costs were
originally recorded to costs of revenues in prior periods. Had this dispute
resolution not occurred during fiscal year 2005, our costs of revenues as a
percentage of revenues would have been 81% for the year. This increase was
primarily due to a lower average margin per minute relating to our wholesale
business. As a majority of our costs of revenues are variable, based on per
minute transportation costs, costs of revenues as a percentage of revenues
will fluctuate, from year to year, depending on the traffic mix between our
wholesale and retail products and total revenue for each year.
Sales and Marketing Expenses
A significant component of our revenue is generated by outside agents, a
small in-house sales force, and marketing through web portals and magazine
advertising, which is managed by a small in-house sales and marketing
organization.
Our sales and marketing costs have decreased from 3% to 2% of revenues,
respectively, for the fiscal year ended October 31, 2005 compared to the
prior fiscal year. The reduction in our sales and marketing costs is
primarily due to a reduction in our sales personnel. During fiscal year
2005, we have focused our attention on increasing revenues through the
efforts of our agents, and the marketing initiatives previously noted. We
will continue to focus our sales and marketing efforts on web portal
and magazine advertising, the establishment of distribution networks to
facilitate the introduction and growth of new products and services, and
agent related expenses to generate additional revenues.
General and Administrative Expenses
Our general and administrative expenses have increased to 33% of revenues
for the fiscal year ended October 31, 2005 from 22% for the prior year
period. For the fiscal year ended October 31, 2005, our bad debt expense
was $365,289. This includes approximately $291,000 from our prepaid calling
card distributor in Iraq. As a result of nonpayment, we are no longer
providing services out of Iraq and we are pursuing legal action to collect
this receivable. During fiscal year 2005, we issued, to a provider of legal
and investment-consulting services, warrants to acquire 1,000,000 shares of
common stock. In connection with this issuance of warrants, we recorded
$159,695, the fair value of the warrants, to general and administrative
expense. Although general and administrative expenses as a percentage of
revenues has increased for fiscal year 2005 compared to the prior fiscal
year, in absolute dollars, general and administrative expenses, adjusted
for the bad debt expense and warrant expenses, have decreased by 5% for
fiscal year 2005 compared to fiscal year 2004. This reduction has been
accomplished primarily through the elimination of personnel and personnel
related costs. However, due to the overall decline in revenue and the
primarily fixed nature of our general and administrative expenses, as a
percentage of revenue, these expenses have increased for fiscal year 2005
compared to the prior fiscal year. We review our general and administrative
expenses regularly and continue to manage the costs accordingly to support
our current and anticipated future business, however it will be difficult to
achieve significant reductions in future periods due to the fixed nature of
our general and administrative expenses.
Gain on Settlement of Liabilities/Legal Settlement
During the second quarter of fiscal year 2003, we vacated our office space
in Atlanta, Georgia. At that time, we began negotiations with the landlord
to terminate our lease agreement. In October 2004, we reached an agreement
with the landlord to pay $100,000 in settlement of all outstanding rents,
payable in monthly installments of $5,000 through May 2006. As a result, we
recorded $241,000 as "Gain on settlement of liabilities/legal settlement"
during the fourth quarter of fiscal year 2004, representing the difference
between our accrued rent and the settlement amount.
In connection with the acquisition of the assets and certain of the
liabilities of Rapid Link, Incorporated ("RLI") during the fiscal year ended
October 31, 2001, we recorded certain liabilities of $255,000, and continued
to hold those liabilities pending a final settlement with the RLI trustee.
During the fiscal year ended October 31, 2004, we agreed to pay $30,000 to
the trustee, and recorded the remaining $225,000 to "Gain on settlement of
liabilities/legal settlement."
On July 20, 2004, we filed a suit against Q Comm International, Inc. ("Q
Comm") in Federal Court in the Central District of Utah. Our suit claimed
damages of $4 million plus attorney's fees and costs resulting from the
breach of a purchase agreement on the part of Q Comm relating to the sale of
our internally developed equipment for the prepaid telecommunications
industry. During the fourth quarter of fiscal year 2005, we entered into a
Settlement and Release Agreement with Q Comm. The Agreement releases Q Comm
from any and all claims in connection with our lawsuit against Q Comm for
breach of a purchase agreement. In connection with the release, we agreed
to a cash settlement of $225,000, which was received on August 10, 2005.
This amount was recorded as "Gain on settlement of liabilities/legal
settlement" during the fiscal year ended October 31, 2005.
Depreciation and Amortization
Depreciation and amortization has decreased as a larger portion of our
assets still in use have become fully depreciated, including a majority
of the assets acquired from RLI. A majority of our depreciation and
amortization expense relates to the equipment utilized in our VoIP network.
Interest Expense and Financing Costs
Interest expense and financing costs for the fiscal years ended October 31,
2005 and 2004 included interest expense of approximately $344,000 and
$432,000, respectively, on our convertible debentures and notes payable to
related parties. In addition, for fiscal year 2005, interest expense
includes approximately $523,000 of amortization of deferred financing fees
and debt discount on our debts to GCA, Global and related parties, compared
to $177,000 for the prior year period. The increase in interest expense and
financing costs for fiscal year 2005 as compared to the prior fiscal year
primarily relates to the extension of the maturity dates of our convertible
debt instruments with both our third party and related party lenders. A
further explanation of these changes can be found in the Liquidity and
Capital Resources section.
Income (loss) from discontinued operations
Income (loss) from discontinued operations for fiscal year ended October 31,
2004 relates to an increase in our estimated sales tax liability to the
State of Texas of $750,000, offset by the write-off of the remaining net
liability of our German subsidiary, Rapid Link Telecommunications GMBH,
totaling $2,251,000.
In the fourth quarter of fiscal year 2003, Rapid Link Telecommunications
GMBH filed for insolvency. The net liability associated with the disposal
of the assets and liabilities of Rapid Link Telecommunications GMBH of
approximately $2.3 million was included in the balance sheet at October 31,
2003 and classified as discontinued operations. During the fiscal year
2004, we determined that we no longer controlled the operations of this
subsidiary and that the parent entity had no legal obligation to pay the
liabilities of Rapid Link Telecommunications GMBH. Accordingly, we wrote
off the remaining net liability of $2,251,000 and included the gain in
discontinued operations during the fiscal year ended October 31, 2004.
During the first quarter of fiscal year 2004, we determined based on final
written communications with the State of Texas that the liability for sales
taxes (including penalties and interest) totaled $1.1 million. We had
previously accrued an estimated settlement amount of $350,000. Accordingly,
we accrued an additional $750,000. On August 5, 2005, the State of Texas
filed a lawsuit in the 53rd Judicial District Court of Travis County,
Austin, Texas against the Company. The lawsuit requests payment of
approximately $1,162,000 including penalties and interest for state and
local sales taxes. During the 2005 fiscal year, we have accrued the
additional $62,000. The sales tax amount due is attributable to audit
findings of Canmax Retail Systems, a current subsidiary of ours, and former
operating subsidiary providing retail automation software and related
services to the retail petroleum and convenience store industries, from the
State of Texas for the years 1995 to 1999. These operations were previously
classified as discontinued after we sold our retail automation software
business and changed our business model to the sale of prepaid calling
cards. The State of Texas determined that we did not properly remit sales
tax on certain transactions. Management believes that the amount due has
been improperly assessed and will continue to pursue a lesser settlement
amount, though we cannot assure you that this matter will be resolved in our
favor.
Liquidity and Sources of Capital
To date we have been generally unable to achieve positive cash flow on a
quarterly basis primarily due to the fact that our present lines of business
do not generate a volume of business sufficient to cover our overhead costs.
Our audit report includes an explanatory paragraph indicating substantial
doubt about our ability to continue as a going concern.
We frequently are not able to make timely payment to our trade creditors.
As of our fiscal year ended October 31, 2005, approximately $3.1 million,
representing approximately 71% of our trade accounts payable and accrued
liabilities, were past due. A majority of the amounts past due are to
foreign vendors that have supplied us with low margin wholesale
opportunities and we are no longer sending significant, or any,
telecommunications traffic to them. We will continue to work with them to
arrange for a reduction in the amount owed to them through either formal or
informal payment plans. We continue to seek sources of working capital
sufficient to fund delinquent balances and meet ongoing obligations, though
our success on that front has been limited.
Our future operating success is dependent on our ability to quickly generate
positive cash flow from our VoIP lines of products and services. Our major
growth areas are anticipated to include the establishment of additional
wholesale points of termination to offer our existing wholesale and retail
customers, and the introduction of new retail VoIP products, primarily
our new Rapid Link products both domestically and internationally. We
anticipate a cash shortfall from operations of approximately $500,000 during
the next twelve months. We do not have any capital equipment commitments
during the next twelve months. We anticipate funding this shortfall through
available cash on hand, further reduction of our overhead expenses,
including personnel, and consolidation of operations as necessary. In
addition, we are actively pursuing debt or equity financing opportunities to
continue our business. Any failure of our business plan, including the risk
and timing involved in rolling out retail products to end users, to generate
positive cash flow could result in a significant cash flow crisis and could
force us to seek alternative sources of financing as discussed, or to
greatly reduce or discontinue operations. Although various possibilities for
obtaining financing or effecting a business combination have been discussed
from time to time, there are no agreements with any party to raise money or
for us to combine with another entity and we cannot assure you that we will
be successful in our search for investors or lenders. Any additional
financing we may obtain will involve material and substantial dilution to
existing stockholders. In such event, the percentage ownership of our
current stockholders will be materially reduced, and any new equity
securities sold by us may have rights, preferences or privileges senior to
our current common stockholders. If we are unable to obtain additional
financing, our operations in the short term will be materially affected and
we may not be able to remain in business. These circumstances raise
substantial doubt as to the ability of our Company to continue as a going
concern.
At October 31, 2005, we had cash and cash equivalents of $172,000, a
decrease of $409,000 from the balance at October 31, 2004. We had
significant working capital deficits at both October 31, 2005 and 2004 of
$49,200,000 and $46,600,000, respectively
Net cash used in operating activities of continuing operations was $305,000
for the fiscal year ended October 31, 2005, compared to net cash provided by
operating activities of continuing operations of $260,000 for the fiscal
year ended October 31, 2004. The net cash used in operating activities of
continuing operations for the fiscal year ended October 31, 2005 was
primarily due to a net loss from continuing operations of $2,503,000
adjusted for: non-cash interest expense of $526,000; depreciation and
amortization of $557,000; common stock and warrants issued for services of
$206,000; bad debt expense of $365,000; changes in operating assets and
liabilities of $548,000; offset by gain on sale of fixed assets of $9,000.
For the fiscal year ended October 31, 2004, the net cash provided by
operating activities of continuing operations of $261,000 was primarily due
to a net loss from continuing operations of $794,000; non-cash interest
expense of $182,000; depreciation and amortization of $616,000; net changes
in operating assets and liabilities of $693,000 and bad debt expense of
$30,000; offset by gain on settlement of liabilities of $466,000.
Net cash used in investing activities of continuing operations for the
fiscal year ended October 31, 2005 was $32,000, consisting of property and
equipment purchases of $27,000; $15,000 cash paid for the Integrated
acquisition; offset by $10,000 proceeds from the sale of fixed assets. Net
cash used in investing activities of continuing operations for the fiscal
year ended October 31, 2004 was $145,000 of property and equipment
purchases.
Net cash used in financing activities of continuing operations for the
fiscal year ended October 31, 2005, totaled $72,000, compared to net cash
used in financing activities of continuing operations of $34,000 for the
fiscal year ended October 31, 2004. For the fiscal year ended October 31,
2005, net cash used in financing activities of continuing operations was due
to repayments on our convertible debt. For the fiscal year ended October
31, 2004, net cash used in financing activities of continuing operations was
due to payments on capital leases.
We have an accumulated deficit of approximately $49 million as of October
31, 2005 as well as a significant working capital deficit. Funding of our
working capital deficit, current and future operating losses, and expansion
will require continuing capital investment which may not be available to us.
Since the beginning of April 2001, we have raised in excess of $5.76 million
in debt financing.
Although to date we have been able to arrange the debt facilities and equity
financing described below, there can be no assurance that sufficient debt or
equity financing will continue to be available in the future or that it will
be available on terms acceptable to us. As of October 31, 2005, we have
approximately $500,000 of convertible debentures which will mature within
the next year as well as a significant amount of trade payables and accrued
liabilities, which are past due. We will continue to explore external
financing opportunities and renegotiation of our short-term debt with our
current financing partners in order to extend the terms or retire these
obligations. Our management is committed to the success of our Company as
is evidenced by the level of financing it has made available to our Company.
Failure to obtain sufficient capital will materially affect our Company's
operations and financial condition. As a result of the aforementioned
factors and related uncertainties, there is significant doubt about our
Company's ability to continue as a going concern.
Our current capital expenditure requirements are not significant, primarily
due to the equipment acquired from RLI. Our capital expenditures for the
fiscal year ended October 31, 2005 were $27,000 and we do not anticipate
significant spending for fiscal year 2006.
In October 2001, we executed 10% convertible notes (the "Notes") with two of
our executives and one director (the "Related Parties"), which provided
financing of $1,945,958. With an original maturity date of October 24,
2003, these Notes were amended subsequent to fiscal year 2002 to mature on
February 24, 2004. These Notes are secured by selected Company assets and
are convertible into our common stock at the option of the holder at any
time. The conversion price is equal to the closing bid price of our common
stock on the last trading day immediately preceding the conversion. We also
issued to the holders of the Notes warrants to acquire an aggregate of
1,945,958 shares of common stock at an exercise price of $0.78 per share,
which expire on October 24, 2006. For the year ended October 31, 2002, an
additional $402,433 was added to the Notes and an additional 402,433
warrants to acquire our common stock were issued in connection with the
financing. During fiscal year 2005 and 2004, the holders of the Notes
elected to convert $467,500 and $877,500, respectively, of the Notes into
3,740,000 and 6,750,000, respectively, of our common stock. On July 21,
2005, our Company and the Related Parties agreed to extend the maturity date
of the Notes to February 29, 2008. In connection with the extension, we
issued to the Related Parties warrants to acquire 640,000 shares of common
stock at an exercise price of $0.16. The warrants expire in July 2010. The
outstanding balance of these Notes at October 31, 2005 was $1,003,390.
In January 2002, we executed a 6% convertible debenture ("GCA-Debenture")
with GCA Strategic Investment Fund Limited ("GCA"), which provided financing
of $550,000 and had an original maturity date of January 28, 2003. We also
issued to GCA warrants to acquire an aggregate of 50,000 shares of common
stock at an exercise price of $0.41 per share, which expire on January 28,
2007. The GCA-Debenture was amended in January 2003 to mature on November
8, 2004. In connection with this January 2003 amendment of the GCA-
Debenture, we adjusted the exercise price of the previously issued warrants
to $0.21 per share and also issued to the holder of the Debenture warrants
to acquire an aggregate of 100,000 shares of common stock at an exercise
price of $0.21 per share, which expire on February 8, 2008. The GCA-
Debenture was amended again in June 2005 to extend the maturity date to
November 26, 2005. In connection with this June 2005 amendment of the GCA-
Debenture, we also issued to GCA 100,000 shares of our common stock,
warrants to purchase 150,000 shares of our common stock at an exercise price
of $0.38 per share and warrants to purchase 110,000 shares of our common
stock at an exercise price of $0.11 per share, all of which warrants expire
on June 1, 2010. The conversion price of the GCA-Debenture is equal to the
lesser of (i) 100% of the volume weighted average of sales price as reported
by the Bloomberg L.P. of the common stock on the last trading day
immediately preceding the Closing Date, June 1, 2005 ("Fixed Conversion
Price") and (ii) 85% of the average of the three lowest volume weighted
average sales prices as reported by Bloomberg L.P. during the 20 trading
days immediately preceding but not including the date of the related notice
of conversion (the "Formula Conversion Price"). In an event of default the
amount declared due and payable on the GCA-Debenture shall be automatically
converted into shares of our common stock at the Formula Conversion Price.
During fiscal year 2004, GCA converted $10,000 of the GCA-Debenture and $730
of accrued interest into approximately 82,000 shares of common stock.
During fiscal year 2005, GCA converted $35,000 of the GCA-Debenture and
$7,657 of accrued interest into approximately 352,000 shares of our common
stock. The outstanding balance on the GCA-Debenture is $455,000 at October
31, 2005. We are in negotiations to extend the maturity date of the GCA-
Debenture. In addition, we are currently seeking a debt facility or equity
financing that will allow us to either convert our outstanding debt
obligations with GCA and Global into the new financing, and/or pay down a
portion or all of the amounts now due. There can be no assurance that
sufficient debt or equity financing will be available or available on terms
acceptable to us. The debenture continues to accrue interest at the stated
rate. Furthermore, the debenture includes certain default provisions that
can be enforced by GCA as a result of nonpayment. The debenture is
classified as a current liability on our balance sheet as of October 31,
2005.
In November 2002, we executed a 12% note payable (the "GC-Note") with Global
Capital Funding Group, L.P., ("Global") which provided financing of
$1,250,000. The GC-Note matured on November 8, 2004. We also issued to
Global warrants to acquire an aggregate of 500,000 shares of common stock at
an exercise price of $0.14 per share, which expire on November 8, 2007. In
June 2005, the GC-Note was replaced by a convertible note ("GC-Conote").
The GC-Conote matures on February 29, 2008, and the annual interest rate due
on this convertible note is 10.08%. The conversion price is equal to 80% of
the average of the three lowest volume weighted average sales prices as
reported by Bloomberg L.P. during the 20 trading days immediately preceding
the date of the related notice of conversion. In addition, we issued to
Global 100,000 shares of our common stock, warrants to purchase 500,000
shares of our common stock at an exercise price of $0.38 per share and
warrants to purchase 125,000 shares of our common stock at an exercise price
of $0.11 per share, all of which warrants expire on June 1, 2010. In
addition, interest of approximately $350,000 due on the GC-Note at the time
of replacement by the GC-Conote was converted into a $400,000 non-interest
bearing note payable ("GC-Note2"), which matures on March 30, 2007. The
approximate $50,000 difference between the accrued interest at the time of
replacement and the value of this new note was recorded as deferred
financing fees, and is being amortized over the life of the GC-Conote2.
During the year ended October 31, 2005, Global converted $75,000 of the GC-
Conote2 into approximately 656,000 shares of our common stock. We did not
make the payment due on the GC-Conote2 on September 30, 2005. The GC-Note
includes certain default provisions that can be enforced by Global as a
result of nonpayment. We are in negotiations with Global to allow us to
extend the due date of this payment. This amount is included as a current
liability on our balance sheet as of October 31, 2005.
In July 2003, we executed a 10% note payable ("GCA-Note") with GCA Strategic
Investment Fund Limited ("GCA"), which provided financing of $550,000. The
GCA-Note's maturity date was December 23, 2003. We also issued to GCA
warrants to acquire an aggregate of 100,000 shares of common stock at an
exercise price of $0.14 per share, which expire on July 24, 2008. Per the
terms of the GCA-Note agreement, in the event the GCA-Note is not repaid in
full within ten days of the maturity date, the terms of the GCA-Note shall
become the same as those of the GCA-Debenture. Effective January 2, 2004,
the GCA-Note was replaced by a convertible debenture with the same terms as
those of the GCA-Debenture, which had a maturity date of November 8, 2004.
The principal balance of the GCA-Note was $574,597, which included $24,597
of interest due on the GCA-Note at the time it was replaced by a convertible
debenture. The GCA-Note was amended in June 2005 to extend the maturity
date to November 26, 2006. In connection with this amendment, we also
issued to GCA 40,000 shares of our common stock, and warrants to purchase
150,000 shares of our common stock at an exercise price of $0.38 per share,
which warrants expire on June 1, 2010. The outstanding balance on the GCA-
Note is $552,457 at October 31, 2005.
Payments Due By Period
Less than More than
1 year 1-3 years 3-5 years 5 years Total
--------- ---------- --------- ------- ----------
Contractual Obligations:
Long-term debt $ 705,000 $2,831,000 $ - $ - $3,536,000
Capital leases 126,000 - - - 126,000
Operating leases 169,000 55,000 - - 224,000
--------- --------- ----- ----- ---------
Total $1,000,000 $2,886,000 $ - $ - $3,886,000
========= ========= ===== ===== =========
Item 7. Financial Statements.
The information required by Item 7 of this Report is presented in Item 13.
Item 8. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
None.
Item 8A. Controls and Procedures.
As of the fiscal year ended October 31, 2005, we carried out an evaluation,
under the supervision and with the participation of our Chief Executive
Officer and our Chief Financial Officer, of the effectiveness of the design
and operation of our disclosure controls and procedures, as such term is
defined under Rule 13a-15(e) promulgated under the Securities Exchange Act
of 1934, as amended, as of the end of the period covered by this report.
Based on this evaluation, our Chief Executive Officer and our Chief
Financial Officer concluded that our disclosure controls and procedures are
effective to ensure that information we are required to disclose in reports
that we file or submit under the Exchange Act is recorded, processed,
summarized, and reported within the time periods specified in SEC rules and
forms.
There have been no changes, significant or otherwise, in our internal
controls over financial reporting, that occurred during the fiscal year
ended October 31, 2005 that has materially affected, or is reasonably likely
to materially affect, our internal control over financial reporting.
Item 8B. Other Information.
None.
PART III
Item 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance With Section 16(a) of the Exchange Act.
The following table sets forth certain information regarding our
executive officers and directors.
Name Age Position with the Company
---- --- -------------------------
John Jenkins 44 Chairman, Chief Executive Officer, and Director
David Hess 44 President and Director
Allen Sciarillo 41 Executive Vice President, Chief Financial Officer,
Secretary and Director
Lawrence Vierra 60 Director
Robert M. Fidler 67 Director
JOHN JENKINS has served as our Chairman of the Board and Chief Executive
Officer since October 2001, served as our President from December 1999 until
July 2005, and has served as a director since December 1999. Mr. Jenkins
has also served as the President of DTI Com, Inc., one of our subsidiaries,
since November 1999. In May 1997, Mr. Jenkins founded Dial Thru
International Corporation (subsequently dissolved in November 2000), and
served as its President and Chief Executive Officer until joining us in
November 1999. Prior to 1997, Mr. Jenkins served as the President and Chief
Financial Officer for Golden Line Technology, a French telecommunications
company. Prior to entering the telecommunications industry, Mr. Jenkins
owned and operated several software, technology and real estate companies.
Mr. Jenkins holds degrees in physics and business/economics.
DAVID HESS was elected to our Board of Directors in May 2002 and has served
as our President since July 2005. Prior to joining us, Mr. Hess was the
Managing Partner of RKP Steering Group, a company he co-founded in August
2003. From November 2001 until December 2002, Mr. Hess served as the Chief
Executive Officer and President, North America of Telia International
Carrier, Inc. Prior to joining Telia, Mr. Hess was part of a turnaround
team hired by the board of directors of Rapid Link, Incorporated. He served
as the Chief Executive Officer and as a director of Rapid Link, Incorporated
from August 2000 until September 2001. On March 13, 2001, Rapid Link,
Incorporated filed for Chapter 11 bankruptcy protection. Before joining
Rapid Link, Mr. Hess served as Chief Executive Officer of Long Distance
International from January 1999 until its acquisition by World Access in
February 2000. Mr. Hess also served as President and Chief Operating
Officer of TotalTel USA from May 1995 until January 1999. Mr. Hess received
a BA in Communications with a Minor in Marketing from Bowling Green State
University.
ALLEN SCIARILLO has been our Chief Financial Officer, Executive Vice
President and Secretary since July 2001 and was elected as a director in May
2002. From January to March 2001, Mr. Sciarillo was the Chief Financial
Officer of Star Telecommunications, Inc., a global facilities-based
telecommunications carrier. Prior to that time, Mr. Sciarillo served as
Chief Financial Officer of InterPacket Networks, a provider of Internet
connectivity to Internet service providers worldwide, from July 1999 until
its acquisition by American Tower Corporation in December 2000. From
October 1997 to June 1999, he served as Chief Financial Officer of
RSL Com USA, a division of RSL Com Ltd., a global facilities-based
telecommunications carrier. Prior to joining RSL, Mr. Sciarillo was Vice
President and Controller of Hospitality Worldwide Services, Inc. from July
1996 to October 1997. Mr. Sciarillo began his career at Deloitte & Touche
and is a Certified Public Accountant. Mr. Sciarillo received a B.S. in
Accounting from California State University, Northridge.
LAWRENCE VIERRA has served as one of our directors since January 2000, and
from that time through October 2004, served as our Executive Vice President.
Currently, Mr. Vierra is a professor at the University of Las Vegas. From
1995 through 1999, Mr. Vierra served as the Executive Vice President of RSL
Com USA, Inc., an international telecommunications company, where he was
primarily responsible for international sales. Mr. Vierra has also served
on the board of directors and executive committees of various
telecommunications companies and he has extensive knowledge and experience
in the international sales and marketing of telecommunications products and
services. Mr. Vierra holds degrees in marketing and business administration.
ROBERT M. FIDLER has served as one of our directors since November 1994.
Mr. Fidler joined Atlantic Richfield Company (ARCO) in 1960, was a member of
ARCO's executive management team from 1976 to 1994 and was ARCO's manager of
New Marketing Programs from 1985 until his retirement in 1994.
Meetings of the Board of Directors
Our Board of Directors held five meetings during the fiscal year ended
October 31, 2005. The Board of Directors has two standing committees: an
Audit Committee and a Compensation Committee. There is no standing
nominating committee. Each of the directors attended the meeting of the
Board of Directors and all meetings of any committee on which such director
served.
Audit Committee Financial Expert
We currently do not have an audit committee financial expert as defined by
Item 401(e) of Regulation S-B of the Exchange Act. Our previous audit
committee financial expert resigned from our board of directors in September
2004. As our current board of directors does not have anyone eligible to
become our audit committee financial expert and be independent within the
meaning of Item 7(d)(3)(iv) of Schedule 14A of the above-mentioned act, our
board of directors is currently conducting a search for a new audit
committee financial expert.
Audit Committee
The Audit Committee is comprised of two non-employee directors, Robert M.
Fidler and Lawrence Vierra. The Audit Committee makes recommendations to
our Board of Directors or management concerning the engagement of our
independent public accountants and matters relating to our financial
statements, our accounting principles and our system of internal accounting
controls. The Audit Committee also reports its recommendations to the Board
of Directors as to approval of financial statements. The Audit Committee
held 4 meetings during the fiscal year ended October 31, 2005.
Compliance with Section 16(a) of the Securities Exchange Act of 1934
Section 16(a) of the Exchange Act requires our directors, executive officers
and persons who own more than 10% of our common stock to file with the SEC
initial reports of ownership and reports of changes in ownership of our
common stock and other equity securities of our Company. Officers,
directors and greater than 10% stockholders are required by regulations
promulgated by the SEC to furnish us with copies of all Section 16(a)
reports they file. Based solely on the review of such reports furnished to
us and written representations that no other reports were required, we
believe that during the fiscal year ended October 31, 2005, our executive
officers, directors and all persons who own more than 10% of our common
stock complied with all Section 16(a) requirements.
Code of Business Conduct and Ethics
We have adopted a code of business conduct and ethics for employees,
executive officers and directors that is designed to ensure that all of our
directors, executive officers and employees meet the highest standards of
ethical conduct. The code requires that our directors, executive officers
and employees avoid conflicts of interest, comply with all laws and other
legal requirements, and conduct business in an honest and ethical manner and
otherwise act with integrity and in our best interest. Under the terms of
the code, directors, executive officers and employees are required to report
any conduct that they believe in good faith to be an actual or apparent
violation of the code.
As a mechanism to encourage compliance with the code, we have established
procedures to receive, retain and treat complaints received regarding
accounting, internal accounting controls or auditing matters. These
procedures ensure that individuals may submit concerns regarding
questionable accounting or auditing matters in a confidential and anonymous
manner. The code also prohibits us from retaliating against any director,
executive officer or employee who reports actual or apparent violations of
the code.
Item 10. Executive Compensation.
The following table summarizes the compensation we paid, for services
rendered to our Company during the fiscal years ended October 31, 2005, 2004
and 2003 to our chief executive officer and all other executive officers
whose total annual salary and bonus exceeded $100,000 during fiscal 2005
(the "Names Executive Officers").
Long Term Compensation
Name and principal Awards Securities
position Year Salary Bonus Underlying Options/SARs
------------------- ---- ------- ----- -----------------------
($) ($) (#)
John Jenkins 2005 150,000 -0- -0-
Chairman and Chief 2004 150,000 -0- 100,000
Executive Officer 2003 150,000 -0- -0-
Allen Sciarillo 2005 135,000 -0- -0-
Executive Vice President 2004 130,000 1,106 100,000-
and Chief Financial 2003 125,000 -0- -0-
Officer
Aggregated Option Exercises in Last Fiscal Year and Fiscal Year End Option
Values
The following table sets forth information with respect to the number of
options held at fiscal year end and the aggregate value of in-the-money
options held at fiscal year end by each of the Named Executive Officers.
Shares Number of securities Value of unexercised in-
acquired on Value underlying unexercised options the-money options at fiscal
exercise realized at fiscal year end (#) year end ($) (2)
Name (#) ($)(1) Exercisable Unexercisable Exercisable Unexercisable
-------------- ----------- -------- ----------- ------------- ----------- -------------
John Jenkins -0- -0- 750,000 50,000 -0- -0-
Allen Sciarillo -0- -0- 550,000 50,000 -0- -0-
(1) The value realized upon the exercise of stock options represents the
difference between the exercise price of the stock option and the fair
market value of the shares, multiplied by the number of options exercised on
the date of exercise.
(2) The value of "in-the-money" options represents the positive spread
between the exercise price of the option and the fair market value of the
underlying shares based on the closing stock price of our common stock on
October 31, 2005, which was $0.11 per share. "In-the-money" options include
only those options where the fair market value of the stock is higher than
the exercise price of the option on the date specified. The actual value,
if any, an executive realizes on the exercise of options will depend on the
fair market value of our common stock at the time of exercise.
Compensation of Directors
Directors are not compensated for attending Board and committee meetings,
though our directors participate in our Equity Incentive Plan and are
annually awarded non-qualified stock options for an aggregate of 5,000
shares of our common stock for services rendered to our Company as a
director.
Compensation Committee Interlocks and Insider Participation
None of our executive officers or directors serves as members of the board
of directors or compensation committee of any other entity, which has one or
more executive officers serving as a member of our board of directors. The
Compensation Committee is comprised of two non-employee directors, Robert M.
Fidler and Lawrence Vierra.
Item 11. Security Ownership of Certain Beneficial Owners and Management and
Related Stockholder Matters.
The following table sets forth certain information as of January 16, 2006,
concerning those persons known to us, based on information obtained from
such persons, our records and schedules required to be filed with the SEC
and delivered to us, with respect to the beneficial ownership of our common
stock by (i) each stockholder known by us to own beneficially five percent
or more of such outstanding common stock, (ii) each of our current
directors, (iii) each Named Executive Officer and (iv) all of our executive
officers and directors as a group. Except as otherwise indicated below,
each of the entities or persons named in the table has sole voting and
investment power with respect to all shares of our common stock beneficially
owned. Effect has been given to shares reserved for issuance under
outstanding stock options and warrants where indicated.
Number of Percent of
Name and address of Beneficial Owner Shares (1) Class (2)
------------------------------------ ---------- ---------
John Jenkins 18,566,118 (3) 61.77%
17383 Sunset Boulevard, Suite 350
Los Angeles, CA 90272
Lawrence Vierra 431,580 (4) 4.13%
8760 Castle Hill Avenue
Las Vegas, NV 89129
Robert M. Fidler
987 Laguna Road 24,000 (5) *
Pasadena, CA 91105
David Hess 10,000 (7) *
545 Alder Avenue
Westfield, NJ 07090
Allen Sciarillo 1,344,363 (6) 5.86%
17383 Sunset Boulevard, Suite 350
Los Angeles, CA 90272
All Executive Officers and Directors as a 32,621,061 65.68%
group (5 persons)
* Reflects less than one percent.
(1) Beneficial ownership is determined in accordance with the
rules of the SEC. In computing the number of shares
beneficially owned by a person and the percentage ownership of
that person, shares of our common stock subject to options or
warrants held by that person that are exercisable within 60
days of January 16, 2006 are deemed outstanding. Such shares,
however, are not deemed outstanding for purposes of computing
the ownership of any other person.
(2) Based upon 29,297,183 shares of common stock outstanding as of
January 16, 2006.
(3) Includes (i) 750,000 shares of common stock which may be
acquired through the exercise of options, (ii) 2,728,391
shares of common stock which may be acquired through the
exercise of warrants, and (iii) 15,087,727 shares of common
stock which may be acquired through the conversion of a
convertible note (shares from conversion calculated using the
closing bid share price at January 16, 2006 of $0.12); all of
which are exercisable or convertible within 60 days of January
16, 2006.
(4) Includes (i) 130,000 shares of common stock which may be
acquired through the exercise of warrants and (ii) 299,080
shares of common stock which may be acquired through the
conversion of a convertible note (shares from conversion
calculated using the closing bid share price at January 16,
2006 of $0.12); all of which are exercisable or convertible
within 60 days of January 16, 2006.
(5) Includes 20,000 shares of common stock, which may be acquired
through the exercise of options which are exercisable within
60 days of January 16, 2006.
(6) Includes (i) 550,000 shares of common stock which may be
acquired through the exercise of options, (ii) 130,000 shares
of common stock which may be acquired through the exercise of
warrants, and (iii) 664,363 shares of common stock which may
be acquired through the conversion of a convertible note
(shares from conversion calculated using the closing bid share
price at January 16, 2006 of $0.12); all of which are
exercisable or convertible within 60 days of January 16, 2006.
(7) Includes 10,000 shares of common stock, which may be acquired
through the exercise of options which are exercisable within
60 days of January 16, 2006.
Equity Compensation Plan Information
The following table provides information about shares of our common stock
that may be issued under our equity compensation plans, as of October 31,
2005:
Number of
Number of Weighted-average securities
securities to be exercise price remaining
issued upon of outstanding available for
exercise of options, future issuance
outstanding warrants under equity
options, warrants and compensation
Plan Category and rights rights plans (excluding
(column (a)) securities reflected
in column (a))
----------------------------------------------------------------------------
Equity 1,573,000 (1) $0.36 3,655,000
compensation
plans approved by
security holders
----------------------------------------------------------------------------
Equity -0- n/a -0-
compensation
plans not
approved by
security holders
----------------------------------------------------------------------------
Total 1,573,000 $0.36 3,655,000
----------------------------------------------------------------------------
(1) Amount includes outstanding options granted pursuant to the 2002 Dial
Thru International Corporation Equity Incentive Plan and the Amended
and Restated 1990 Dial Thru International Corporation Stock Option
Plan.
We adopted the 2002 Equity Incentive Plan ("Incentive Plan"), at our annual
shareholder meeting in May 2002 and subsequently amended at our October 2005
annual stockholder meeting. The Incentive Plan authorizes our Board of
Directors to grant up to 4,000,000 options to purchase our common shares.
The maximum number of shares of common stock which may be issuable under the
Incentive Plan to any individual plan participant is 500,000 shares. All
options granted under the Incentive Plan have vesting periods up to a
maximum of five years. The exercise price of an option granted under the
Incentive Plan shall not be less than 85% of the fair value of the common
stock on the date such option is granted.
The 1990 Stock Option Plan ("1990 Stock Option Plan"), as amended,
authorizes our Board of Directors to grant up to 2,300,000 options to
purchase common shares of the Company. No options will be granted to any
individual director or employee, which will, when exercised, exceed 5% of
the issued and outstanding shares of the Company. The term of any option
granted under the 1990 Stock Option Plan is fixed by the Board of Directors
at the time the options are granted, provided that the exercise period may
not be longer than 10 years from the date of grant. All options granted
under the 1990 Stock Option Plan have up to 10 year terms and have vesting
periods that range from 0 to three years from the grant date. The exercise
price of any options granted under the 1990 Stock Option Plan is the fair
market value at the date of grant. Subsequent to the adoption of the
Incentive Plan, no further options will be granted under the 1990 Stock
Option Plan.
Item 12. Certain Relationships and Related Transactions.
In October 2001, we issued 10% convertible notes (the "Notes") to two of our
executive officers and one director (the "Related Parties"), each of whom
was also a director, who provided financing to our Company in the aggregate
principal amount of $1,945,958. The Notes were issued as follows: (i) a
note in the principal amount of $1,745,958 to John Jenkins, our Chief
Executive Officer; (ii) a note in the principal amount of $100,000 to Allen
Sciarillo, our Executive Vice President and Chief Financial Officer; and
(iii) a note in the principal amount of $100,000 to Larry Vierra, a
director. With an original maturity date of October 24, 2003, these Notes
were amended to mature on February 24, 2004. Each Note was originally
convertible at six-month intervals only, but was subsequently amended in
November 2002 to provide for conversion into shares of our common stock at
the option of the holder at any time. The conversion price is equal to the
closing bid price of our common stock on the last trading day immediately
preceding the conversion. We also issued to the holders of the Notes
warrants to acquire an aggregate of 1,945,958 shares of common stock at an
exercise price of $0.75 per share, which warrants expire on October 24,
2006. On July 21, 2005, our Company and the Related Parties agreed to extend
the maturity date of the Notes to February 29, 2008. In connection with the
extension, we issued to the Related Parties warrants to acquire 640,000
shares of common stock at an exercise price of $0.16. The warrants expire
in July 2010. The outstanding balance of these Notes at October 31, 2005 was
$1,003,390.
In January and July 2002, the Notes issued to Mr. Jenkins were amended to
include additional advances in the aggregate principal amount of $402,443.
We also issued to Mr. Jenkins two warrants to acquire an additional 102,443
and 300,000 shares of common stock, respectively, at an exercise price of
$0.75, which warrants expire on January 28, 2007 and July 8, 2007,
respectively.
In September 2005 and 2004, respectively, the holders of the Notes converted
a total aggregate of $467,500 and $877,500, respectively, of the outstanding
principal into an aggregate of 3,740,000 and 6,750,000, respectively, of
shares of common stock.
Item 13. Exhibits.
(1) and (2) list of financial statements
The response to this item is submitted as a separate section of this Report.
See the index on Page F-1.
(3) exhibits
The following is a list of all exhibits filed with this Report, including
those incorporated by reference.
2.1 Agreement and Plan of Merger dated as of January 30, 1998, among
Canmax Inc., CNMX MergerSub, Inc. and US Communications Services, Inc.
(filed as Exhibit 2.1 to Form 8-K dated January 30, 1998 (the "USC 8-K"),
and incorporated herein by reference)
2.2 Rescission Agreement dated June 15, 1998 among Canmax Inc., USC and
former principals of USC (filed as Exhibit 10.1 to Form 8-K dated January
15, 1998 (the "USC Rescission 8-K"), and incorporated herein by
reference)
2.3 Asset Purchase Agreement by and among Affiliated Computed Services,
Inc., Canmax and Canmax Retail Systems, Inc. dated September 3, 1998
(filed as Exhibit 10.1 to the Company's Form 8-K dated December 7, 1998
and incorporated herein by reference)
2.4 Asset Purchase Agreement dated November 2, 1999 among ARDIS Telecom
& Technologies, Inc., Dial Thru International Corporation, a Delaware
corporation, Dial Thru International Corporation, a California
corporation, and John Jenkins (filed as Exhibit 2.1 to the Company's
Current Report on Form 8-K dated November 2, 1999 and incorporated herein
by reference)
2.5 Stock and Asset Purchase Agreement, dated as of September 18,
2001, by and among Rapid Link USA, Inc., Rapid Link Inc., and Dial Thru
International Corporation. (filed as Exhibit 2.1 to the Company's Form
8-K dated October 29, 2001 and incorporated herein by reference)
2.6 First Amendment to Stock and Asset Purchase Agreement, dated as of
September 21, 2001, by and among Rapid Link USA, Inc., Rapid Link Inc.,
and Dial Thru International Corporation. (filed as Exhibit 2.2 to the
Company's Form 8-K dated October 29, 2001 and incorporated herein by
reference)
2.7 Second Amendment to Stock and Asset Purchase Agreement, dated as of
October 12, 2001, by and among Rapid Link USA, Inc., Rapid Link Inc.,
and Dial Thru International Corporation. (filed as Exhibit 2.3 to the
Company's Form 8-K dated October 29, 2001 and incorporated herein by
reference)
2.8 Third Amendment to Stock and Asset Purchase Agreement, dated as of
October 30, 2001, by and among Rapid Link USA, Inc., Rapid Link Inc.,
and Dial Thru International Corporation. (filed as Exhibit 2.4 to the
Company's Form 8-K dated December 28, 2001 and incorporated herein by
reference)
2.9 Fourth Amendment to Stock and Asset Purchase Agreement, dated as of
November 30, 2001, by and among Rapid Link USA, Inc., Rapid Link Inc.,
and Dial Thru International Corporation. (filed as Exhibit 2.5 to the
Company's Form 8-K dated December 28, 2001 and incorporated herein by
reference)
2.10 Asset Purchase Agreement, dated as of October 25, 2005, by and between
Integrated Communications, Inc. and Dial Thru International Corporation
(filed as Exhibit 2.5 to the Company's Form 8-K dated October 31, 2005
and incorporated herein by reference)
3.1 Certificate of Incorporation, as amended (filed as Exhibit 3.1 to the
Company's Annual Report on Form 10-K for the fiscal year ended October
31, 1999 (the "1999 Form 10-K") and incorporated herein by reference)
3.2 Amended and Restated Bylaws of Dial Thru International Corporation
(filed as Exhibit 3.2 to the 1999 Form 10-K and incorporated herein by
reference)
3.3 Amendment to Certificate of Incorporation dated January 11, 2005 and
filed with the State of Delaware on January 13, 2005 (filed as Exhibit
3.3 to the 2004 Form 10-K and incorporated herein by reference)
3.4* Amendment to Certificate of Incorporation dated October 28, 2005 and
filed with the State of Delaware on November 1, 2005
4.1.1 Securities Purchase Agreement issued January 28, 2002 between Dial
Thru International Corporation and GCA Strategic Investment Fund Limited
(filed as Exhibit 4.1 to the Company's Form S-3, File 333-82622, filed on
February 12, 2002 and incorporated herein by reference)
4.2 Registration Rights Agreement dated January 28, 2002 between Dial
Thru International Corporation and GCA Strategic Investment Fund Limited
(filed as Exhibit 4.2 to the Company's Form S-3, File 333-82622, filed on
February 12, 2002 and incorporated herein by reference)
4.3 6% Convertible Debenture of Dial Thru International Corporation
and GCA Strategic Investment Fund Limited (filed as Exhibit 4.3 to the
Company's Form S-3, File 333-82622, filed on February 12, 2002 and
incorporated herein by reference)
4.4 Common Stock Purchase Warrant dated January 28, 2002 between GCA
Strategic Investment Fund Limited and Dial Thru International Corporation
(filed as Exhibit 4.4 to the Company's Form S-3, File 333-82622, filed on
February 12, 2002 and incorporated herein by reference)
4.5 Securities Purchase Agreement issued November 8, 2002 between Dial
Thru International Corporation and Global Capital Funding Group, L.P.
(filed as Exhibit 4.1 to the Company's Form 8-K filed on September 23,
2003, and incorporated herein by reference)
4.6 Secured Promissory Note issued November 8, 2002 between Dial Thru
International Corporation and Global Capital Funding Group, L.P. (filed
as Exhibit 4.2 to the Company's Form 8-K filed on September 23, 2003, and
incorporated herein by reference)
4.7 Common Stock Purchase Warrant issued November 8, 2002 between Dial
Thru International Corporation and Global Capital Funding Group, L.P.
(filed as Exhibit 4.3 to the Company's Form 8-K filed on September 23,
2003, and incorporated herein by reference)
4.8 Registration Rights Agreement issued November 8, 2002 between Dial
Thru International Corporation and Global Capital Funding Group, L.P.
(filed as Exhibit 4.4 to the Company's Form 8-K filed on September 23,
2003, and incorporated herein by reference)
4.9 Securities Purchase Agreement issued July 24, 2003 between Dial
Thru International Corporation and GCA Strategic Investment Fund Limited
(filed as Exhibit 4.5 to the Company's Form 8-K filed on September 23,
2003, and incorporated herein by reference)
4.10 Promissory Note issued July 24, 2003 between Dial Thru International
Corporation and GCA Strategic Investment Fund Limited (filed as Exhibit
4.6 to the Company's Form 8-K filed on September 23, 2003, and
incorporated herein by reference)
4.11 Common Stock Purchase Warrant issued July 24, 2003 between Dial
Thru International Corporation and GCA Strategic Investment Fund Limited
(filed as Exhibit 4.6 to the Company's Form 8-K filed on September 23,
2003, and incorporated herein by reference)
4.12 Secured Promissory Note dated June 1, 2005 between Global Capital
Funding Group, L.P. and Dial Thru International Corporation (filed as
Exhibit 4.1 to the Company's Form 8-K filed on June 7, 2005, and
incorporated herein by reference)
4.13 Common Stock Purchase Warrant dated June 1, 2005 between Global
Capital Funding Group, L.P. and Dial Thru International Corporation
(filed as Exhibit 4.2 to the Company's Form 8-K filed on June 7, 2005,
and incorporated herein by reference)
4.14 Common Stock Purchase Warrant dated June 1, 2005 between Global
Capital Funding Group, L.P. and Dial Thru International Corporation
(filed as Exhibit 4.3 to the Company's Form 8-K filed on June 7, 2005,
and incorporated herein by reference)
4.15 Common Stock Purchase Warrant dated June 1, 2005 between GCA Strategic
Investment Fund Limited and Dial Thru International Corporation (filed as
Exhibit 4.5 to the Company's Form 8-K filed on June 7, 2005, and
incorporated herein by reference
4.16 Common Stock Purchase Warrant dated June 1, 2005 between GCA Strategic
Investment Fund Limited and Dial Thru International Corporation (filed as
Exhibit 4.6 to the Company's Form 8-K filed on June 7, 2005, and
incorporated herein by reference
4.17 Common Stock Purchase Warrant dated June 1, 2005 between GCA Strategic
Investment Fund Limited and Dial Thru International Corporation (filed as
Exhibit 4.7 to the Company's Form 8-K filed on June 7, 2005, and
incorporated herein by reference
10.1 Employment Agreement, dated June 30, 1997 between Canmax Retail
Systems, Inc. and Roger Bryant (filed as Exhibit 10.3 to the Company's
Registration Statement on Form S-3, File No. 333-33523 (the "Form S-3"),
and incorporated herein by reference)
10.2 Commercial Lease Agreement between Jackson--Shaw/Jetstar Drive Tri-star
Limited Partnership and the Company (filed as Exhibit 10.20 to the
Company's Annual Report on Form 10-K dated October 31, 1998, and
incorporated herein by reference)
10.3 Employment Agreement, dated November 2, 1999 between ARDIS Telecom
& Technologies, Inc. and John Jenkins (filed as Exhibit 4.3 to the 2000
Form 10-K and incorporated herein by reference)
10.4 Amendment Number 1 to Securities Purchase Agreement dated June 1, 2005
between Global Capital Funding Group, L.P. and Dial Thru International
Corporation (filed as Exhibit 10.1 to the Company's Form 8-K filed on
June 7, 2005, and incorporated herein by reference)
10.5 Amendment Number 1 to Securities Purchase Agreement dated June 1, 2005
between GCA Strategic Investment Fund Limited and Dial Thru International
Corporation (filed as Exhibit 10.2 to the Company's Form 8-K filed on
June 7, 2005, and incorporated herein by reference)
10.6 Amendment Number 1 to Securities Purchase Agreement dated June 1, 2005
between GCA Strategic Investment Fund Limited and Dial Thru International
Corporation (filed as Exhibit 10.3 to the Company's Form 8-K filed on
June 7, 2005, and incorporated herein by reference)
14.1 Code of Business Conduct and Ethics for Employees, Executive Officers
and Directors (filed as Exhibit 14.1 to the 2003 Form 10-K and incorporated
herein by reference)
21.1* Subsidiaries of the Registrant
23.1* Consent of Independent Registered Public Accounting Firm
31.1* Certificate of Chief Executive Officer pursuant to Rule 13a-14(a) and
Rule 15d-14(a) of the Securities Exchange Act of 1934
31.2* Certificate of Chief Financial Officer pursuant to Rule 13a-14(a) and
Rule 15d-14(a) of the Securities Exchange Act of 1934
32.1* Certificate of Chief Executive Officer pursuant to 18 U.S.C. Section
1350
32.2* Certificate of Chief Financial Officer pursuant to 18 U.S.C. Section
1350
* Filed herewith.
Item 14. Principal Accounting Fees and Services.
Audit Fees
The aggregate fees billed by KBA Group LLP for professional services
rendered for the audit of the Company's annual financial statements and
review of the interim financial statements included in the Company's Forms
10-Qs and 10-QSBs, including services related thereto, were $97,597 and
$90,470 for the fiscal years ended October 31, 2005 and 2004, respectively.
Audit-Related Fees
There were no audit-related fees billed by KBA Group LLP during the fiscal
years ended October 31, 2005 and 2004.
Tax Fees
The aggregate fees billed by KBA Group LLP for professional services
rendered for tax compliance, tax advice and tax planning were $17,290 and $0
for the fiscal years ended October 31, 2005 and 2004, respectively. The
services comprising the fees reported as "Tax Fees" included tax return
preparation and consultation regarding various tax issues.
All Other Fees
There were no other fees billed by KBA Group LLP during the fiscal years
ended October 31, 2005 and 2004.
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 30, 2006
/s/ JOHN JENKINS
John Jenkins, Chairman of the Board
and Chief Executive Officer
RAPID LINK, INCORPORATED (FORMERLY DIAL THRU INTERNATIONAL CORPORATION)
Date: January 30, 2006
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.
NAME TITLE DATE
---- ----- ----
/s/ JOHN JENKINS Chairman, Chief Executive January 30, 2006
John Jenkins Officer and President and
Director
/s/ ALLEN SCIARILLO Chief Financial Officer January 30, 2006
Allen Sciarillo and secretary (principal
financial and principal
accounting officer)
/s/ LAWRENCE VIERRA Director January 30, 2006
Lawrence Vierra
/s/ ROBERT M. FIDLER Director January 30, 2006
Robert M. Fidler
/s/ DAVID HESS Director January 30, 2006
David Hess
RAPID LINK, INCORPORATED AND SUBSIDIARIES
(FORMERLY DIAL THRU INTERNATIONAL COPORATION)
INDEX TO FINANCIAL STATEMENTS
Consolidated Financial Statements
Report of Independent Registered Public Accounting Firm F-2
Consolidated Balance Sheets at October 31, 2005 and 2004 F-3
Consolidated Statements of Operations for the fiscal years
ended October 31, 2005 and 2004 F-4
Consolidated Statement of Shareholders' Deficit for
the fiscal years ended October 31, 2005 and 2004 F-5
Consolidated Statements of Cash Flows for the fiscal years
ended October 31, 2005 and 2004 F-6
Notes to Consolidated Financial Statements F-7
REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
-------------------------------------------------------
To the Board of Directors and Shareholders of
Rapid Link, Incorporated
We have audited the accompanying consolidated balance sheets of Rapid
Link, Incorporated (formerly Dial Thru International Corporation), and
subsidiaries as of October 31, 2005 and 2004, and the related consolidated
statements of operations, shareholders' deficit and cash flows for the years
then ended. These consolidated financial statements are the responsibility
of the Company's management. Our responsibility is to express an opinion
on these consolidated financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public
Company Accounting Oversight Board (United States). Those standards require
that we plan and perform the audit to obtain reasonable assurance about
whether the financial statements are free of material misstatement. The
Company is not required to have, nor were we engaged to perform, an audit
of its internal control over financial reporting. Our audits included
consideration of internal control over financial reporting as a basis for
designing audit procedures that are appropriate in the circumstances, but
not for the purpose of expressing an opinion on the effectiveness of the
Company's internal control over financial reporting. Accordingly, we
express no such opinion. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Rapid
Link, Incorporated and subsidiaries as of October 31, 2005 and 2004, and the
results of their operations and their cash flows for the years then ended,
in conformity with accounting principles generally accepted in the United
States of America.
The accompanying consolidated financial statements have been prepared
assuming that the Company will continue as a going concern. As discussed
in Note 1 to the consolidated financial statements, the Company has suffered
recurring losses from continuing operations during each of the last two
fiscal years. Additionally, at October 31, 2005, the Company's current
liabilities (which includes significant amounts of past due payables)
exceeded its current assets by $7.1 million and the Company has a
shareholders' deficit totaling $6.3 million. These conditions raise
substantial doubt about the Company's ability to continue as a going
concern. Management's plans as they relate to these issues are also
explained in Note 1. The consolidated financial statements do not include
any adjustments that might result from the outcome of this uncertainty.
/s/ KBA GROUP LLP
Dallas, Texas
December 15, 2005
(except Note 16 for which the date
is January 30, 2006)
RAPID LINK, INCORPORATED AND SUBSIDIARIES
(FORMERLY DIAL THRU INTERNATIONAL CORPORATION)
CONSOLIDATED BALANCE SHEETS
ASSETS
------ October 31, October 31,
2005 2004
---------- ----------
CURRENT ASSETS
Cash and cash equivalents $ 172,164 $ 586,389
Trade accounts receivable, net of allowance
for doubtful accounts of $427,099 at October
31, 2005 and $122,291 at October 31, 2004 564,039 841,127
Prepaid expenses and other current assets 164,978 197,968
---------- ----------
Total current assets 901,181 1,625,484
---------- ----------
PROPERTY AND EQUIPMENT, net 353,726 869,957
GOODWILL, net 1,796,917 1,796,917
OTHER ASSETS 219,043 69,050
---------- ----------
TOTAL ASSETS $ 3,270,867 $ 4,361,408
========== ==========
LIABILITIES AND SHAREHOLDERS' DEFICIT
-------------------------------------
CURRENT LIABILITIES
Capital lease obligation $ 126,196 $ 126,196
Trade accounts payable 3,451,801 2,791,545
Accrued liabilities 887,975 1,142,829
Accrued interest (including $901,849 to related
parties at October 31, 2005 and $759,692 at
October 31, 2004) 1,007,322 1,154,284
Deferred revenue 401,640 380,444
Deposits and other payables 418,109 428,109
Note payable - 1,250,000
Convertible debentures, current portion, net of
debt discount of $223,167 at October 31, 2005
and $0 at October 31, 2004 481,833 1,040,000
Convertible notes payable to related parties - 1,470,890
Net current liabilities from discontinued operations 1,162,000 1,100,000
---------- ----------
Total current liabilities 7,936,876 10,884,297
---------- ----------
CONVERTIBLE DEBENTURES, less current portion, net
of debt discount of $1,140,824 at October 31, 2005 686,633 -
CONVERTIBLE NOTES PAYABLE TO RELATED PARTIES, net
of debt discount of $77,208 at October 31, 2005 926,182 -
COMMITMENTS AND CONTINGENCIES
SHAREHOLDERS' DEFICIT
Preferred stock, $.001 par value; 10,000,000
shares authorized; none issued and outstanding - -
Common stock, $.001 par value; 175,000,000 shares
authorized; 29,297,183 shares issued at October
31, 2005 and 23,034,151 at October 31, 2004 29,298 23,034
Additional paid-in capital 42,858,862 40,055,719
Accumulated deficit (49,112,114) (46,546,772)
Treasury stock, 12,022 common shares at cost (54,870) (54,870)
---------- ----------
Total shareholders' deficit (6,278,824) (6,522,889)
---------- ----------
TOTAL LIABILITIES AND SHAREHOLDERS' DEFICIT $ 3,270,867 $ 4,361,408
========== ==========
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
RAPID LINK, INCORPORATED AND SUBSIDIARIES
(FORMERLY DIAL THRU INTERNATIONAL CORPORATION)
CONSOLIDATED STATEMENTS OF OPERATIONS
Year Ended
October 31,
----------------------------
2005 2004
------------ ------------
REVENUES $ 9,774,777 $ 13,380,510
COSTS AND EXPENSES
Costs of revenues 7,713,349 10,045,063
Sales and marketing 205,973 400,559
General and administrative 3,227,609 2,990,630
Depreciation and amortization 557,131 615,883
Gain on sale of equipment (8,800) -
Gain on settlement of liabilities/legal
settlement (225,000) (466,000)
------------ ------------
Total costs and expenses 11,470,262 13,586,135
------------ ------------
Operating loss (1,695,485) (205,625)
OTHER INCOME (EXPENSE)
Interest expense and financing costs (651,253) (396,899)
Related party interest expense and
financing costs (219,362) (216,612)
Foreign currency exchange gains 10,486 24,919
------------ ------------
Total other income (expense), net (860,129) (588,592)
------------ ------------
LOSS FROM CONTINUING OPERATIONS (2,555,614) (794,217)
INCOME (LOSS) FROM DISCONTINUED OPERATIONS,
net of income taxes of $0 for all periods (62,000) 1,501,147
------------ ------------
NET INCOME (LOSS) $ (2,617,614) $ 706,930
============ ============
NET INCOME (LOSS) PER SHARE:
Basic and diluted net income (loss) per share
Continuing operations $ (0.11) $ (0.05)
Discontinued operations (0.00) 0.09
------------ ------------
$ (0.11) $ 0.04
============ ============
WEIGHTED AVERAGE SHARES USED IN THE CALCULATION
OF PER SHARE AMOUNTS:
Basic and diluted 23,790,407 16,998,795
============ ============
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
RAPID LINK, INCORPORATED AND SUBSIDIARIES (FORMERLY DIAL THRU INTERNATIONAL CORPORATION)
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' DEFICIT
Common Common Stock Treasury Additional Accumulated
Shares Amount Stock Paid-in Capital Deficit Total
---------- -------- ------- --------------- ------------ ----------
Balance at October 31, 2003 16,201,803 $ 16,202 $(54,870) $39,070,235 $(47,253,702) $(8,222,135)
------------------------------------------------------------------------------------------------------------------------
Issuance of common stock for
convertible notes including interest 82,348 82 - 10,648 - 10,730
Issuance of common stock for
convertible notes - related party 6,750,000 6,750 - 870,750 - 877,500
Beneficial conversion feature related
to issuance of convertible debt - - - 104,086 - 104,086
Net income - - - - 706,930 706,930
-------------------------------------------------------------------------------
Balance at October 31, 2004 23,034,151 23,034 (54,870) 40,055,719 (46,546,772) (6,522,889)
------------------------------------------------------------------------------------------------------------------------
Issuance of common stock for
convertible notes including interest 1,008,032 1,009 - 116,698 - 117,707
Issuance of common stock for
convertible notes - related party 3,740,000 3,740 - 463,760 - 467,500
Beneficial conversion feature related
to issuance of convertible debt - - - 1,362,649 - 1,362,649
Issuance of warrants in connection
with amendments to convertible
debentures - - - 363,648 - 363,648
Issuance of warrants in connection with
amendments to convertible notes -
related party - - - 88,239 - 88,239
Issuance of common stock in connection
with amendments to notes payable 240,000 240 - 99,229 - 99,469
Issuance of common stock for services 325,000 325 - 45,675 - 46,000
Issuance of common stock for
acquisition of customer base 950,000 950 - 103,550 - 104,500
Issuance of warrants for services - - - 159,695 - 159,695
Net loss - - - - (2,617,614) (2,617,614)
-------------------------------------------------------------------------------
Balance at October 31, 2005 29,297,183 $ 29,298 $(54,870) $42,858,862 $(49,164,386) $(6,331,096)
========================================================================================================================
The accompanying notes are an integral part of this consolidated financial statement.
F-5
RAPID LINK, INCORPORATED AND SUBSIDIARIES
(FORMERLY DIAL THRU INTERNATIONAL CORPORATION)
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year Ended
October 31,
----------------------------
2005 2004
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES
OF CONTINUING OPERATIONS
Net loss from continuing operations $ (2,555,614) $ (794,217)
Adjustments to reconcile net loss from
continuing operations to net cash (used in)
provided by operating activities:
Gain from sale of fixed assets (8,800) -
Common stock and warrants issued
for services 205,695 -
Bad debt expense 365,289 30,000
Non-cash interest expense 526,158 181,525
Gain on settlement of liabilities - (466,000)
Depreciation and amortization 557,131 615,883
(Increase) decrease in:
Trade accounts receivable (88,201) 1,483
Prepaid expenses and other current assets 32,990 33,029
Other assets (8,678) (18,614)
Increase (decrease) in:
Trade accounts payable 660,256 (8,473)
Accrued liabilities (59,895) 664,892
Deferred revenue 21,196 23,445
Deposits and other payables (10,000) (2,569)
------------ ------------
Net cash (used in) provided by operating
activities of continuing operations (362,473) 260,384
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES
OF CONTINUING OPERATIONS
Purchase of property and equipment (26,884) (144,854)
Acquisition costs (15,000) -
Proceeds from sale of fixed assets 10,000 -
------------ ------------
Net cash used in investing activities
of continuing operations (31,884) (144,854)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES
OF CONTINUING OPERATIONS
Payment on convertible debenture (72,140) -
Payments on capital leases - (34,397)
------------ ------------
Net cash used in financing activities
of continuing operations (72,140) (34,397)
------------ ------------
NET DECREASE (INCREASE) IN CASH AND
CASH EQUIVALENTS (466,497) 81,133
Cash and cash equivalents at beginning of year 586,389 505,256
------------ ------------
Cash and cash equivalents at end of year $ 119,892 $ 586,389
============ ============
SUPPLEMENTAL DISCLOSURE
OF CASH FLOW INFORMATION
Cash paid for interest $ 79,803 $ -
SUPPLEMENTAL DISCLOSURE OF NON CASH INVESTING
AND FINANCING ACTIVITIES
Issuance of common stock for convertible
notes including interest $ 117,707 $ 10,730
Issuance of common stock for convertible
notes payabe - related party $ 467,500 $ 877,500
Issuance of common stock for acquisition
of customer base $ 104,500 $ -
Beneficial conversion feature of convertible
debentures recorded as debt discount $ 1,362,649 $ 104,086
Note payable exchanged for convertible
debenture $ 1,250,000 $ 550,000
Convertible debenture issued for accrued
interest $ 349,617 $ -
Fair value of common stock issued
in connection with amendments
to note agreements $ 99,469 $ -
Fair value of warrants issued in
connection with amendments to
debt agreements $ 451,887 $ -
Convertible debenture issued
for financing fees $ 50,383 $ -
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
RAPID LINK, INCORPORATED AND SUBSIDIARIES
(FORMERLY DIAL THRU INTERNATIONAL CORPORATION)
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - ORGANIZATION AND NATURE OF BUSINESS
Organization
------------
Rapid Link Incorporated ("Rapid Link" or the "Company"), was incorporated on
July 10, 1986 under the Company Act of the Province of British Columbia,
Canada. On August 7, 1992, the Company renounced its original province of
incorporation and elected to continue its domicile under the laws of the
State of Wyoming, and on November 30, 1994, its name was changed to Canmax
Inc. On February 1, 1999, this predecessor company reincorporated under the
laws of the State of Delaware and changed its name to ARDIS Telecom &
Technologies, Inc.
On November 2, 1999, the Company acquired substantially all of the business
and assets of Dial Thru International Corporation, a California corporation,
along with the rights to the name "Dial Thru International Corporation." On
January 19, 2000, the Company changed its name from ARDIS Telecom &
Technologies, Inc. to Dial Thru International Corporation. On November 1,
2005, the Company changed its name to "Rapid Link Incorporated".
Historically, Rapid Link has served as a facilities-based, global Internet
Protocol ("IP") communications company providing connectivity to
international markets experiencing significant demand for IP enabled
services. Rapid Link provides a variety of international telecommunications
services targeted to small and medium sized enterprises ("SME's") that
include the transmission of voice and data traffic and the provision of
Web-based and other communications services. The Company also sells
telecommunications services for both the foreign and domestic termination of
international long distance traffic into the wholesale market. Rapid Link
utilizes Voice over Internet Protocol ("VoIP") packetized voice technology
(and other compression techniques) to improve both cost and efficiencies of
telecommunication transmissions. Rapid Link utilizes international
satellites and the Internet to transport the Company's communications.
Beginning in the fourth quarter of fiscal 2004, the Company shifted its
retail product focus to value-added VoIP communication services to
customers, both domestically and internationally, although to date the
Company has not derived significant revenues from this new offering. Rapid
Link has focused on the US military and other key niche markets. The
Company offers PC - to - PC, PC - to - phone, and phone-to-phone calling on
their unique set of Internet Access Device's ("IAD's") that provide a new
low cost phone service that is delivered through a broadband connection.
Rapid Link offers VoIP service plans to residential and business customers
in addition to serving the military. The Company's flat rate service plans
enable the users to speak an unlimited time to their party. These plans
include free features such as voice mail, call forwarding, three way calling
and many more as a part of the service. Rapid Link's VoIP IAD's for
consumers and businesses consists of single and two-line routers, which
enables customers to convert their traditional phone into a VoIP phone, or a
headset that plugs directly into the customers computer. All the services
connect through the Internet. The customer can then make and receive calls
through their customized phone number using VoIP.
Financial Condition
-------------------
The Company is subject to various risks in connection with the operation of
its business including, among other things, (i) changes in external
competitive market factors, (ii) inability to satisfy anticipated working
capital or other cash requirements, (iii) changes in the availability of
transmission facilities, (iv) changes in the Company's business strategy or
an inability to execute is strategy due to unanticipated changes in the
market, (v) various competitive factors that may prevent the Company from
competing successfully in the marketplace, and (vi) the Company's lack of
liquidity and its ability to raise additional capital. The Company has an
accumulated deficit of approximately $49 million as of October 31, 2005, as
well as a working capital deficit of approximately $7 million. In addition,
approximately 71% of the Company's trade accounts payable and accrued
liabilities are past due. Furthermore, the Company is in default on its
convertible debenture due November 26, 2005 with GCA Stragategic Investment
Fund, and is in arrears on its quarterly principal payment on one of its
convertible debentures with Global Capital Funding Group, LP. Funding of
the Company's working capital deficit, its current and future anticipated
operating losses, and expansion of the Company will require continuing
capital investment. Historically, some of the funding of the Company has
been provided by a major shareholder. The Company's strategy is to fund
these cash requirements through debt facilities and additional equity
financing.
Although the Company has been able to arrange debt facilities and equity
financing to date, there can be no assurance that sufficient debt or equity
financing will continue to be available in the future or that it will be
available on terms acceptable to the Company. Failure to obtain sufficient
capital would materially affect the Company's operations in the short term
and expansion strategies. The Company will continue to explore external
financing opportunities and renegotiation of its short-term debt with its
current financing partners in order to extend the terms or retire these
obligations. Currently, the Company is in negotiations with two parties to
obtain additional financing, although the Company has not received a
commitment from either party. At October 31, 2005, approximately 28% of the
debt is due to the senior management and a Director of the Company.
Management is committed to the growth and success of the Company as is
evidenced by the level of financing they have made available to the Company.
As a result of the aforementioned factors and related uncertainties, there
is substantial doubt about the Company's ability to continue as a going
concern. The consolidated financial statements do not include any
adjustments to reflect the possible effects of recoverability and
classification of assets or classification of liabilities, which may result
from the inability of the Company to continue as a going concern.
NOTE 2 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
---------------------------
The accompanying consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiaries, Dial Thru, Inc., a Texas
corporation, DTI Com, Inc., a Delaware corporation, Rapid Link,
Incorporated, South Africa, Canmax Retail Systems, and Rapid Link GmbH, a
Germany company, which was liquidated in 2004. All significant intercompany
accounts and transactions have been eliminated.
Revenue Recognition
-------------------
Long distance revenue
Revenues generated by international re-origination, dial thru services and
international wholesale termination are based on minutes of customer usage.
The Company records payments received in advance as deferred revenue until
such services are provided. This policy applies to all international re-
origination and dial thru services revenues, and is currently the primary
source of the Company's revenue.
VoIP service revenue
The Company defers revenue recognition of new subscriber revenue from its
service offerings until the acceptance period has expired. New customers may
terminate their service within thirty days of order placement and receive a
full refund of fees previously paid. The Company has been providing its new
VoIP services for a limited period of time, has an insignificant amount of
revenue to date, and therefore, has not developed sufficient history to
apply a return rate and reserve against new order revenue. Accordingly, the
Company defers new subscriber revenue for thirty days to ensure that the
thirty day trial period has expired.
Emerging Issues Task Force consensus No. 00-21 ("EITF No. 00-21"),
"Accounting for Revenue Arrangements with Multiple Deliverables" requires
that revenue arrangements with multiple deliverables be divided into
separate units of accounting if the deliverables in the arrangement meet
specific criteria. In addition, arrangement consideration must be allocated
among the separate units of accounting based on their relative fair values,
with certain limitations. The VoIP service with the accompanying hardware
that customers use to access the Internet constitutes a revenue arrangement
with multiple deliverables. In accordance with the guidance of EITF No. 00-
21, the Company allocates VoIP revenues, including activation fees, among
the hardware and subscriber services. Revenues allocated to the hardware are
recognized as product revenues at the end of thirty days after order
placement, provided the customer does not cancel their service. All other
revenues are recognized as service revenues when the related services are
provided.
Cash and Cash Equivalents
-------------------------
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents. Cash and
cash equivalent are at risk to the extent that they exceed Federal Deposit
Insurance Corporation insured amounts. To minimize this risk, the Company
places its cash and cash equivalents with high credit quality financial
institutions.
Accounts Receivable
-------------------
Trade accounts receivable are stated at the amount the Company expects to
collect. The Company maintains allowances for doubtful accounts for
estimated losses resulting from the inability of its customers to make
required payments. Management considers the following factors when
determining the collectibility of specific customer accounts: customer
credit-worthiness, past transaction history with the customer, current
economic industry trends, and changes in customer payment terms. If the
financial condition of the Company's customers were to deteriorate,
adversely affecting their ability to make payments, additional allowances
would be required. Based on management's assessment, the Company provides
for estimated uncollectible amounts through a charge to earnings and a
credit to a valuation allowance. Interest is typically not charged on
overdue accounts receivable. Balances that remain outstanding after the
Company has used reasonable collection efforts are written off through a
charge to the valuation allowance and a credit to accounts receivable. The
Company does not charge interest on overdue accounts receivable.
Property and Equipment
----------------------
Property and equipment are stated at cost. Depreciation of property and
equipment is calculated using the straight-line method over the estimated
useful lives of the assets ranging from three to seven years. Equipment
held under capital leases and leasehold improvements are amortized on a
straight-line basis over the shorter of the remaining lease term or the
estimated useful life of the related asset ranging from three to five years.
Expenditures for repairs and maintenance are charged to expense as incurred.
Major renewals and betterments are capitalized.
Goodwill
--------
Goodwill is reviewed for impairment annually. Impairment indicators include
(i) a significant decrease in the market value of an asset, (ii) a
significant change in the extent or manner in which an asset is used or a
significant physical change in an asset, (iii) a significant adverse change
in legal factors or in the business climate that could affect the value of
an asset or an adverse action by a regulator, and (iv) a current period
operating or cash flow loss combined with a history of operating or cash
flow losses or a projection or forecast that demonstrates continuing losses
associated with an asset used for the purpose of producing revenue. The
Company adopted SFAS No. 141, "Business Combinations" ("SFAS 141") and SFAS
No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"). SFAS 141
requires that the purchase method of accounting be used for all business
combinations initiated after June 30, 2001, and also specifies the criteria
for the recognition of intangible assets separately from goodwill. Under
SFAS 142, goodwill is no longer amortized but is subject to an impairment
test at least annually or more frequently if impairment indicators arise.
The Company has one operating and reporting segment and one reporting unit.
For the purpose of identifying the reporting units, the Company followed the
guidance in paragraph 30 of SFAS 142, (i) an operating segment is a
reporting unit if discrete financial information is available (ii)
management regularly reviews individual operating results, and (iii) similar
economic characteristics of components within an operating segment result in
a single reporting unit. The Company's management regularly reviews one set
of financial information, and all of the Company's products share similar
economic characteristics. Therefore, the Company has determined that it has
one single reporting unit.
In accordance with SFAS 142, an annual impairment test of goodwill was
performed by an independent valuation firm in the fourth quarters of fiscal
years 2005 and 2004. The valuation process appraised the Company's
enterprise value using a combination of market capitalization and multiples
of earnings valuation techniques. The valuation process indicated that the
enterprise fair value exceeds the carrying value of the Company's net assets
and liabilities. Accordingly, the Company concluded that no impairment of
goodwill existed.
Long-Lived Assets
-----------------
Long-lived assets are reviewed for impairment whenever events or changes in
circumstances indicate that the carrying amount of the assets might not be
recoverable. The Company does not perform a periodic assessment of assets
for impairment in the absence of such information or indicators. Conditions
that would necessitate an impairment include a significant decline in the
observable market value of an asset, a significant change in the extent or
manner in which an asset is used, or a significant adverse change that would
indicate that the carrying amount of an asset or group of assets is not
recoverable. For long-lived assets to be held and used, the Company
recognizes an impairment loss only if an impairment is indicated by its
carrying value not being recoverable through undiscounted cash flows. The
impairment loss is the difference between the carrying amount and the fair
value of the asset estimated using discounted cash flows. Long-lived assets
held for sale are reported at the lower of cost or fair value less costs to
sell.
Net Loss Per Share
------------------
Basic net loss per share is computed using the weighted average number of
shares of common stock outstanding during the year. Diluted net loss per
share is computed using the weighted average number of shares of common
stock outstanding during the year and common equivalent shares consisting of
stock options, warrants, and convertible debentures (using the treasury
stock method) to the extent they are dilutive.
The shares issuable upon the exercise of stock options, warrants and
convertible debentures are excluded from the calculation of net loss per
share for the years ended October 31, 2005 and 2004 as their effect would
be antidilutive. At October 31, 2005 and 2004 , there were 54,388,861 and
41,235,234 shares, respectively, potentially issuable from outstanding stock
options, warrants and convertible debentures.
Income Taxes
------------
The Company utilizes the asset and liability approach to financial
accounting and reporting for income taxes. Deferred income taxes and
liabilities are computed for differences between the financial statement
carrying amounts and tax basis of assets and liabilities that will result in
taxable or deductible amounts in the future based on enacted tax laws and
rates applicable to the periods in which the differences are expected to
affect taxable income. Valuation allowances are recorded when necessary to
reduce deferred tax assets to the amount expected to be realized. Income
tax expense or benefit is the tax payable or refundable for the period plus
or minus the change during the period in deferred tax assets and
liabilities.
Estimates and Assumptions
-------------------------
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to
make estimates and assumptions that effect the amounts reported in the
financial statements and accompanying notes. Actual results could differ
from those estimates. The most significant estimates include the Company's
assessment of goodwill impairment, the Company's estimate of the fair value
of equity instruments and allowance for doubtful accounts.
Fair Market Value of Financial Instruments
------------------------------------------
The carrying amount for current assets and liabilities, and long-term debt
is not materially different than fair market value because of the short
maturity of the instruments and/or their respective interest rate amounts.
Stock-Based Compensation
------------------------
The Company accounts for stock-based employee compensation arrangements in
accordance with provisions of Accounting Principles Board ("APB") Opinion
No. 25, "Accounting for Stock Issued to Employees," and complies with the
disclosure provisions of SFAS No. 123, "Accounting for Stock-Based
Compensation," as amended by SFAS No. 148 "Accounting for Stock-Based
Compensation - Transition and Disclosure". Under APB Opinion No. 25,
compensation expense for employees is based on the excess, if any, on the
date of grant, of fair value of the Company's stock over the exercise price.
Accordingly, no compensation cost has been recognized for its employee stock
options in the financial statements during the years ended October 31, 2005
and 2004 as the fair market value on the grant date approximates the
exercise price. Had the Company determined compensation cost based on the
fair value at the grant date for its stock options under SFAS No.123, as
amended by SFAS No. 148, the Company's pro forma net loss from continuing
operations for the years ended October 31, 2005 and 2004 would have been as
follows:
2005 2004
----------- ----------
Net loss from continuing operations, as $ (2,503,342) $ (794,217)
reported
Add: Stock-based employee compensation
expense included in reported net loss
from continuing operations - -
Deduct: Stock-based employee compensation
expense determined under the fair value
based method (13,293) (142,922)
----------- ----------
Pro forma net loss from continuing operations $ (2,516,635) $ (937,139)
=========== ==========
Net loss per share from continuing
operations - basic and dilutive, as reported $ (0.11) $ (0.05)
=========== ==========
Net loss per share from continuing
operations - basic and dilutive, pro forma $ (0.11) $ (0.06)
=========== ==========
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting periods. Because
options vest over a period of several years and additional awards are
generally made each year, the pro forma information presented above is not
necessarily indicative of the effects on reported or pro forma net earnings
or losses for future years.
The fair value of all options and warrants for shares of the Company's
common stock issued to employees has been determined using the Black-Scholes
option pricing model with the following assumptions:
2004
-------------------------------------------
Risk-free interest rate 3%
Expected dividend yield 0%
Expected lives 2 years
Expected volatility 100%
There were no options issued to employees during the year ended October 31,
2005.
The Company accounts for equity instruments issued to non-employees in
accordance with the provisions of SFAS No. 123 as amended by SFAS No. 148
and Emerging Issues Task Force ("EITF") Issue No. 96-18, "Accounting for
Equity Instruments That Are Issued to Other Than Employees for Acquiring, or
in Conjunction with Selling, Goods or Services." All transactions in which
goods or services are the consideration received for the issuance of equity
instruments are accounted for based on the fair value of the consideration
received or the fair value of the equity instrument issued, whichever
is more reliably measurable. The measurement date of the fair value of
the equity instrument issued is the earlier of the date on which the
counterparty's performance is complete or the date on which it is probable
that performance will occur.
Foreign Currency Translation and Foreign Currency Transactions
--------------------------------------------------------------
The Company's functional currency is the U.S. dollar.
The Company's foreign operations are subject to exchange rate fluctuations
and foreign currency transaction costs. Monetary assets and liabilities of
subsidiaries domiciled outside the United States are translated at rates of
exchange existing at the balance sheet date and non-monetary assets,
liabilities and equity are translated at historical rates. Revenues and
expenses are translated at average rates of exchange prevailing during
the year. The resulting translation adjustments are recorded within the
statement of operations Foreign currency transactions resulting in gains
and losses are recorded in the Statement of Operations.
Advertising
-----------
Advertising costs are expensed as incurred and totaled $37,317 and, $7,209,
for the years ended October 31, 2005 and 2004, respectively.
Recent Accounting Pronouncements
--------------------------------
In December 2004, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 123 (revised 2004) ("Statement
123(R)"), "Share-Based Payment", which revised SFAS No. 123 and supercedes
APB Opinion No. 25. The revised statement addresses the accounting for
share-based payment transactions with employees and other third parties,
eliminates the ability to account for share-based compensation transactions
with employees using APB Opinion No. 25 and requires that the fair value of
such share based payments be recognized in the consolidated statement of
operations. The revised statement is effective as of the first interim or
annual financial reporting period beginning after December 15, 2005. The
Company will adopt the statement on November 1, 2006 as required. The
impact of adoption of Statement 123(R) cannot be predicted at this time
because it will depend on levels of share-based payments granted in the
future. However, had the Company adopted Statement 123(R) in prior periods,
the impact of that standard would have approximated the impact of SFAS No.
123 as described in the disclosure of pro forma net loss and net loss per
share in the stock-based compensation policy note discussed previously.
NOTE 3 - ASSET ACQUISITION
On October 25, 2005, the Company entered into an Asset Purchase Agreement
to acquire certain assets, including but not limited to the customer
base and an item of equipment (collectively, the "Assets"), of Integrated
Telecommunications, Inc. ("Integrated"), an international long distance
carrier providing VoIP services to retail customers in the United States,
and wholesale services to customers worldwide. The Company intends
to utilize Integrated's wholesale sales and support staff to manage
its existing wholesale operations, as well as leverage the marketing
relationships developed by Integrated to sell the Company's new VoIP
products and services. The results of the business acquired from Integrated
have been included in operations of the Company in the consolidated
financial statements from the closing date of the acquisition ("Closing
Date"), October 31, 2005. The aggregate purchase price was $159,500,
including 950,000 of common stock, valued at $104,500, and an additional
$55,000 in acquisition-related costs. The value of the common stock
was determined based on the closing market price of the Company's
common shares on October 31, 2005. The Company has agreed to issue to the
shareholders of Integrated the following contingent shares provided certain
performance criteria are met:
(a) 950,000 shares of common stock (the "Earn-Out Shares") immediately
following the 12-month anniversary of the Closing Date if the
aggregate gross profit for the 12-month period following the
Closing Date from the Company's Integrated division (the
"Division") is in excess of $480,000 (the "Earn-Out Threshold");
provided, however, that if the gross profit targets are not
achieved by the Division, the Company shall instead issue to
Integrated that number of Earn-Out Shares determined by reducing
the total number thereof by the same percentage reduction in gross
profit as compared to the Earn-Out Threshold. The percentage
shortfall will be based on the entire 1,900,000 shares (the
initial consideration of 950,000 shares of common stock, plus the
contingent 950,000 shares ); and
(b) Warrants to purchase up to 600,000 shares of the Company's common
stock as follows: 300,000 warrants to be issued on each of the six
and 12-month anniversary of the Closing Date, the exercise price
to be determined on the grant date, provided that gross profit of
the Division increases by a minimum of 50% for each six month
period, beginning on the Closing Date and ending on October 31,
2006. The gross profit increase for the initial six month period
will be measured against a gross profit amount of $40,000, with
the second six month period measured against the preceding six
month period, provided, however, that if the gross profit targets
are not achieved by the Division, the Company shall instead issue
that number of warrants determined by reducing the total number
thereof by the same percentage shortfall in gross profit as
compared to the required 50% increase. In each of the six-month
periods, if the growth in gross profit is less than 50% of the
targeted growth, then no warrants will be earned.
In accordance with Statement of Financial Accounting Standards No. 141
Business Combinations ("SFAS 141"), the contingent consideration will be
recorded when the contingency is resolved and consideration is issued or
becomes issuable. Furthermore, as the contingent consideration is based on
earnings, any additional consideration will change the recorded cost of the
customer base. In accordance with SFAS 141, the Company has allocated the
purchase price to the assets acquired based on their estimated fair values
at the date of acquisition. The following table summarizes the estimated
fair value of the assets acquired at the acquisition.
The fair value of assets acquired consisted of:
Fixed assets $ 15,215
Customer base 144,285
---------
$ 159,500
=========
The customer base will be amortized over its estimated useful life of two
years.
NOTE 4 - DISCONTINUED OPERATIONS
Rapid Link Telecommunications GMBH
----------------------------------
In the fourth quarter of fiscal year 2003, the Company's German Subsidiary,
Rapid Link Telecommunications GMBH ("Rapid Link Germany"), filed for
insolvency. The net liability of approximately $2.3 million was included
in the balance sheet and classified as Discontinued Operations at October
31, 2003. During the first quarter of fiscal year 2004, the Company
determined that it no longer controlled the operations of this subsidiary
and that the parent entity had no legal obligation to pay the liabilities
of Rapid Link Germany. Accordingly, the Company wrote off the remaining
net liability of $2,251,000 and included the gain in Discontinued
Operations during the first quarter of fiscal year 2004.
Canmax Retail Systems
---------------------
During the first quarter of fiscal year 2004, the Company determined based
on final written communications with the State of Texas that the Company had
a liability for sales taxes (including penalties and interest) totaling $1.1
million. The Company had previously accrued an estimated settlement amount
of $350,000 during fiscal year 2003. During the first quarter of fiscal
year 2004, the Company accrued an additional $750,000. On August 5, 2005,
the State of Texas filed a lawsuit in the 53rd Judicial District Court of
Travis County, Austin, Texas against the Company. The lawsuit requests
payment of approximately $1.162 million including penalties and for state
and local sales tax. During the fiscal year 2005, the Company accrued an
additional $62,000 in amounts due. The sales tax amount due is attributable
to audit findings of the State of Texas for the years 1995 to 1999
associated with Canmax Retail Systems, a current subsidiary of ours, and
former operating subsidiary providing retail automation software and related
services to the retail petroleum and convenience store industries. The State
of Texas determined that Canmax Retail Systems did not properly remit sales
tax on certain transactions. Management believes that it will be able to
negotiate a reduced settlement amount with the state, although there can be
no assurance that the Company will be successful with respect to such
negotiations. These operations were previously classified as discontinued
after the Company sold its retail automation software business in December
1998 and changed its business model to international wholesale and
retail business, operating as a facilities-based global Internet protocol
communications company providing connectivity to international markets.
Since this sales tax liability represents an adjustment to amounts
previously reported in discontinued operations, the amount was classified
as Discontinued Operations. The amount that the State of Texas assessed
of $1.162 million has been accrued as a liability and is included in the
October 31, 2005 Balance Sheet as discontinued operations. (See Note 12).
NOTE 5 - CONVERTIBLE DEBENTURES AND NOTES PAYABLE
In January 2002, the Company executed a 6% convertible debenture (the "GCA-
Debenture") with GCA Strategic Investment Fund Limited ("GCA"), which
provided financing of $550,000. The GCA-Debenture's original maturity date
was January 28, 2003. The GCA-Debenture is secured by certain property and
equipment previously classified as "held for sale". The conversion price is
equal to the lesser of (i) 100% of the volume weighted average of sales
price as reported by the Bloomberg L.P. of the common stock on the last
trading day immediately preceding the Closing Date and (ii) 85% of the
average of the three lowest volume weighted average sales prices as reported
by Bloomberg L.P. during the twenty Trading Days immediately preceding but
not including the date of the related Notice of Conversion (the "Formula
Conversion Price"). In an event of default the amount declared due and
payable on the GCA-Debenture shall be at the Formula Conversion Price. In
connection with the GCA-Debenture, the Company paid $92,625 in financing
fees, which were capitalized and amortized over the original life of
the GCA-Debenture. At October 31, 2003, the deferred financing fees were
fully amortized. The Company calculated the beneficial conversion feature
embedded in the GCA-Debenture in accordance with EITF 98-5 "Accounting for
Convertible Securities with Beneficial Conversion Features or Contingently
Adjustable Conversion Ratios" ("EITF-98-5") and EITF 00-27 "Application of
Issue No. 98-5 to Certain Convertible Instruments" ("EITF 00-27") and
recorded approximately $114,000 as debt discount. This debt discount was
amortized over the original life of the GCA-Debenture and was fully
amortized at October 31, 2003. The Company also issued to the holder of the
GCA-Debenture warrants to acquire an aggregate of 50,000 shares of common
stock at an exercise price of $0.41 per share, which expire on January 28,
2007. The Company recorded debt discount of approximately $17,000 related
to the issuance of the warrants. The Company determined the debt discount
by allocating the relative fair value to the GCA-Debenture and the warrants,
and the Company amortized the debt discount over the original life of the
GCA-Debenture. The debt discount was fully amortized at October 31, 2003.
In January 2003, the Company and GCA agreed to extend the maturity date of
the GCA-Debenture to November 8, 2004. In consideration for this extension,
in February 2003, the Company adjusted the exercise price of the previously
issued warrants to $0.21 per share. The Company also issued to GCA warrants
to purchase an additional 100,000 shares of common stock also at an exercise
price of $0.21 per share, which expire on February 8, 2008. The Company
recorded additional debt discount of approximately $17,000 related to the
warrant exercise price adjustment and the issuance of the new warrants. The
Company is amortizing the additional debt discount over the GCA-Debenture's
extension period. For the fiscal year ended 2004, the Company recorded
approximately $11,000 as interest expense relating to the amortization of
the debt discount. The debt discount was fully amortized at October 31,
2004.
On June 1, 2005, GCA agreed to extend the maturity date of the GCA-
Debenture. The maturity date was extended to November 26, 2005. In
connection with the extension, the Company issued GCA warrants to acquire
110,000 shares of common stock at an exercise price of $0.11 and 150,000
warrants to acquire the Company's common stock at an exercise price of
$0.38. Both warrants expire in June 2010. The Company recorded $104,693 as
debt discount, representing the fair value of the warrants on June 1, 2005.
This amount was calculated using the Black-Scholes pricing model with the
following assumptions: applicable risk-free interest rate based on the
current treasury-bill interest rate at the grant date of 4%; dividend yields
of 0%; volatility factors of the expected market price of the Company's
common stock of 1.64; and an expected life of the warrants of three
years. The debt discount is being amortized over the extension period of
the convertible debenture. In addition, the Company issued to GCA 100,000
shares of common stock valued at $0.45 per share, the Company's closing
stock price on June 1, 2005, the date of issuance. In connection with the
stock issuance, the Company has recorded $45,000 as debt discount, and is
amortizing the debt discount over the extension period of the convertible
debenture. For the year ended October 31, 2005, approximately $127,000 of
deferred financing fees and debt discount amortization has been recorded as
interest expense. The GCA-Debenture matured in November 2005 and is
currently due on demand. Although no event of default has been declared by
GCA, the Company is technically in default under this agreement and is
currently negotiating with GCA to extend the maturity date.
During the years ended October 31, 2005 and 2004, GCA elected to convert
$35,000 and $10,000, respectively, of the GCA-Debenture into approximately
352,000 and 82,000 shares of common stock, respectively. The gross
outstanding balance of the GCA-Debenture was $455,000 and $490,000 at
October 31, 2005 and 2004, respectively.
In July 2003, the Company executed a 10% note payable (the "GCA-Note") with
GCA, which provided financing of $550,000. The GCA-Note provided for a
maturity date of December 23, 2003 and is unsecured. In the event the GCA-
Note was not repaid in full within 10 days of the maturity date, the GCA-
Note shall be replaced by a 6% convertible debenture. This convertible
debenture would have a maturity date of November 8, 2004 and be secured by
certain property and equipment held for resale. The conversion price would
be equal to the lesser of (i) 100% of the volume weighted average of sales
price as reported by the Bloomberg L.P. of the common stock on the last
trading day immediately preceding the Closing Date, which was $0.20, and
(ii) 85% of the average of the three lowest volume weighted average sales
prices as reported by Bloomberg L.P. during the twenty Trading Days
immediately preceding but not including the date of the related Notice of
Conversion (the "Formula Conversion Price"). In an event of default, the
amount declared due and payable on the convertible debenture would be at the
Formula Conversion Price. In the event the GCA-Note was replaced by a
convertible debenture, the GCA-Note would have a beneficial conversion
feature. In accordance with EITF 98-5 and EITF 00-27, the intrinsic value
of the beneficial conversion feature was calculated as approximately
$104,000 at the commitment date using the stock price as of that date, and
would be recorded if the note were not repaid as noted above.
The GCA-Note matured during December 2003 and, accordingly, since the GCA-
Note remained unpaid as of January 2004, the Company exchanged the note for
a convertible debenture. Upon the replacement of the GCA-Note with a
convertible debenture, the Company recorded debt discount of $104,000 as
interest expense during the year ended October 31, 2004. For the year ended
October 31, 2004, the Company recorded approximately $13,000 as interest
expense relating to the amortization of these deferred financing fees. The
deferred financing fees were fully amortized at October 31, 2004. The
Company also issued to the holder of the GCA-Note warrants to acquire an
aggregate of 100,000 shares of common stock at an exercise price of $0.14
per share, which expire on July 24, 2008. The relative fair value of the
warrants of $7,000 was recorded as a debt discount, which was amortized to
interest expense over the original term of the GCA-Note. For the year ended
October 31, 2004, the Company recorded approximately $3,000 as interest
expense relating to the amortization of the debt discount. The debt
discount was fully amortized at October 31, 2004.
On June 1, 2005, the Company and GCA agreed to extend the maturity date of
the GCA-Note to November 26, 2006. In connection with the extension, the
Company issued GCA warrants to acquire 150,000 shares of common stock at an
exercise price of $0.38, which expire in June 2010. The Company recorded
$58,458 as debt discount, representing the fair value of the warrants on
June 1, 2005. This amount was calculated using the Black-Scholes pricing
model with the following assumptions: applicable risk-free interest rate
based on the current treasury-bill interest rate at the grant date of 4%;
dividend yields of 0%; volatility factors of the expected market price of
the Company's common stock of 1.64; and an expected life of the warrants
of three years. The debt discount is being amortized over the extension
period of the convertible debenture. In addition, the Company issued to GCA
40,000 shares of common stock valued at $0.45 per share, the Company's
closing stock price on June 1, 2005, the date of issuance. In connection
with the stock issuance, the Company has recorded $18,000 as debt discount
and is amortizing the debt discount over the extension period of the
convertible debenture. For the year ended October 31, 2005, approximately
$21,000 of deferred financing fees and debt discount amortization has been
recorded as interest expense. The gross outstanding balance of the GCA-Note
was $552,000 at October 31, 2005 and 2004, respectively.
In November 2002, the Company executed a 12% note payable (the "GC-Note")
with Global Capital Funding Group, L.P., ("Global") which provided financing
of $1,250,000. The GC-Note's maturity date was November 8, 2004. The GC-
Note is secured by certain property and equipment with an original cost of
$1,518,267. In connection with the GC-Note, the Company paid $47,441 as
financing fees, which were capitalized and amortized over the life of the
GC-Note. For the year ended October 31, 2004 the Company recorded
approximately $23,000 as interest expense relating to the amortization of
these deferred financing fees. The deferred financing fees were fully
amortized at October 31, 2004. The Company also issued to the holder of the
GC-Note warrants to acquire an aggregate of 500,000 shares of common stock
at an exercise price of $0.14 per share, which expire on November 8, 2007.
The Company recorded debt discount of approximately $46,000, the relative
fair value of the warrants, which were amortized over the two-year life of
the GC-Note. For the year ended October 31, 2004, the Company recorded
approximately $23,000 as interest expense relating to the amortization of
the debt discount. The debt discount was fully amortized at October 31,
2004.
On June 1, 2005, the Company and Global agreed to extend the maturity date
of the GC-Note to February 29, 2008. In connection with the extension, the
GC-Note was converted to a 10.08% Convertible Note ("GC-Conote"). The
conversion price is equal to 80% of the average of the three lowest volume
weighted average sales prices as reported by Bloomberg L.P. during the
twenty Trading Days immediately preceding the related Notice of Conversion
(the "Formula Conversion Price"). The Company calculated the beneficial
conversion feature embedded in the GC-Conote in accordance with EITF 98-5
and EITF 00-27 and recorded $1,013,032 as debt discount. This debt discount
is being amortized over the life of the GC-Conote. The Company also issued
to the holder of the GC-Conote warrants to acquire an aggregate of 500,000
shares of common stock at an exercise price of $0.38, and 125,000 warrants
to purchase common stock at $0.11 per share, both warrants expiring in June
2010. The Company recorded $200,498 as debt discount, the relative fair
value of the warrants on June 1, 2005. This amount was calculated using the
Black-Scholes pricing model with the following assumptions: applicable risk-
free interest rate based on the current treasury-bill interest rate at the
grant date of 4%; dividend yields of 0%; volatility factors of the expected
market price of the Company's common stock of 1.64; and an expected life of
the warrants of three years. The debt discount is being amortized over the
life of the GC-Conote. In addition, the Company issued to Global 100,000
shares of common stock valued at $0.45 per share, the Company's closing
stock price on June 1, 2005, the date of issuance. The Company has recorded
$36,469 as debt discount, the relative fair value of the stock issued, and
is amortizing the debt discount over the life of the GC-Conote. For the
year ended October 31, 2005, approximately $189,000 of debt discount
amortization has been recorded as interest expense. The gross outstanding
balance of the GC-Conote was $1,250,000 at October 31, 2005.
In connection with the extension of the maturity date of the GC-Note, the
interest due on the GC-Note of approximately $350,000 as of May 31, 2005,
was converted to a $400,000 non-interest bearing convertible note payable
(the "GC-Conote2) to Global. The GC-Conote2 requires quarterly payments of
$50,000 on the last day of March, June, September and December of each year
until the March 31, 2007 maturity Date, commencing on June 30, 2005. In
addition, the GC-Conote2 provides for conversion based on a conversion price
equal to 80% of the average of the three lowest volume weighted average
sales prices as reported by Bloomberg L.P. during the twenty trading days
immediately preceding the related Notice of Conversion (the "Formula
Conversion Price"). The Company calculated the beneficial conversion feature
embedded in the GC-Conote2 in accordance with EITF 98-5 and EITF 00-27 and
recorded approximately $350,000 as debt discount. This debt discount is
being amortized over the life of the GC-Conote2. The approximate $50,000
difference between the accrued interest at May 31, 2005 and the value of the
GC-Conote2 represents a financing fee and was recorded as debt discount and
is being amortized over the life of the GC-Conote2. For the year ended
October 31, 2005, approximately $175,000 of debt discount amortization has
been recorded as interest expense. The Company did not make the payment due
on the GC-Conote2 on September 30, 2005. The GC-Note includes certain
default provisions that can be enforced by Global as a result of nonpayment.
The Company is in negotiations with Global to allow it to extend the due
date of this payment. This past due amount is included as a current
liability on our balance sheet as of October 31, 2005.
During the year ended October 31, 2005, GCA elected to convert $75,000 of
the GC-Conote into approximately 657,000 shares of common stock. The gross
outstanding balance of the GC-Conote was $275,000 at October 31, 2005.
NOTE 6 - NOTES PAYABLE - RELATED PARTY
In October 2001, the Company executed 10% convertible notes (the "Notes")
with three executives (the "Executives") of the Company, which provided
financing in the aggregate principal amount of $1,945,958. One of the
Executives subsequently resigned from the Company but remains on the
Company's Board of Directors. The original maturity date of each note was
October 24, 2003. In January 2003, the Executives extended the maturity
date of each note to February 24, 2004. The Notes are secured by certain
Company assets. Each Note is convertible into the Company's common stock at
the option of the holder at any time. The conversion price is equal to the
closing bid price of the Company's common stock on the last trading day
immediately preceding the conversion. The Company has calculated the
beneficial conversion feature embedded in the Notes in accordance with EITF
98-5 and EITF 00-27 and recorded debt discount of approximately $171,000
which was amortized over two years, the original term of the Notes. The
Company also issued to the holders of the Notes warrants to acquire an
aggregate of 1,945,958 shares of common stock at an exercise price of $0.78
per share, which expire on October 24, 2006. Additional debt discount of
approximately $657,000 was recorded during the fourth quarter of fiscal 2001
relating to these warrants. The Company determined the additional debt
discount by allocating the relative fair value to the Notes and the
warrants. The Company amortized the additional debt discount over the life
of the Notes. The debt discount was fully amortized at October 31, 2003.
In January 2002, an additional $102,432 was added to the Notes in exchange
for an existing note payable. The Company also issued to the holder of the
Notes warrants to acquire an additional 102,432 shares of common stock at an
exercise price of $0.75, which expire on January 28, 2007. Additional debt
discount, related to these warrants, of approximately $24,000 was recorded
during the first quarter of fiscal 2002. The Company determined the
additional debt discount by allocating the relative fair value to the Notes
and the warrants. The Company amortized the additional debt discount over
the remaining life of the Notes. In July 2002, an additional $300,000 was
added to the Notes, in exchange for an existing note payable. The Company
also issued to the holder of the Notes warrants to acquire an additional
300,000 shares of common stock at an exercise price of $0.75, which expire
on July 8, 2007. Additional debt discount of approximately $22,000 was
recorded as interest expense during the third quarter of fiscal 2002
relating to these warrants. The gross outstanding balance of the Notes at
October 31, 2005 and 2004 was $1,003,390 and $1,470,890, respectively.
On July 21, 2005, the Company and the Executives agreed to extend the
maturity date of the Notes to February 29, 2008. In connection with the
extension, the Company issued to the three executives warrants to acquire
640,000 shares of common stock at an exercise price of $0.16. The warrants
expire in July 2010. The Company recorded $88,238 as debt discount, the fair
value of the warrants on July 21, 2005. This amount was calculated using the
Black-Scholes pricing model with the following assumptions: applicable risk-
free interest rate based on the current treasury-bill interest rate at the
grant date of 4%; dividend yields of 0%; volatility factors of the expected
market price of the Company's common stock of 1.65; and an expected life of
the warrants of three years. The debt discount is being amortized over
the extension period of the Notes. For the year ended October 31, 2005,
approximately $11,000 of debt discount amortization has been recorded as
interest expense. (See Note 16 - Subsequent Events)
During the years ended October 31, 2005 and 2004, the holder of the Notes
elected to convert $467,500 and $877,500, respectively, of the Notes into
3,740,000 and 6,750,000 shares of common stock, respectively.
NOTE 7 - PROPERTY AND EQUIPMENT
Property and equipment consists of the following at October 31, 2005 and
2004:
2005 2004
---------- ----------
Telephone switch equipment $ 3,762,473 $ 3,759,818
Leasehold improvements 58,379 58,379
Furniture and fixtures 232,917 232,917
Computer equipment 859,296 852,011
Computer software 1,096,879 1,079,159
---------- ----------
6,009,944 5,982,283
Less: accumulated depreciation
and amortization (5,656,218) (5,112,326)
---------- ----------
$ 353,726 $ 869,957
========== ==========
At October 31, 2005 and 2004, the gross amount of telephone switch equipment
under capital lease totaling $455,728 was fully amortized.
Amortization of assets held under capital leases is included with
depreciation expense. Depreciation and amortization expense totaled $557,131
and $615,883 in fiscal 2005 and 2004, respectively.
NOTE 8 - GAIN ON SETTLEMENT OF LIABILITIES/LEGAL SETTLEMENT
During the second quarter of fiscal year 2003, the Company vacated its
office space in Atlanta, Georgia. At that time, the Company began
negotiations with the landlord to terminate its lease agreement. In October
2004, the Company reached an agreement with the landlord to pay $100,000 in
settlement of all outstanding rents, payable in monthly installments of
$5,000 through May 2006. As a result, the Company recorded $241,000 as
"Gain on settlement of liabilities/legal settlement" during the fourth
quarter of fiscal year 2004, representing the difference between the
Company's accrued rent and the settlement amount.
In connection with the acquisition of the assets and certain of the
liabilities of Rapid Link, Incorporated ("RLI") during the fourth quarter of
the fiscal year ended October 31, 2001, the Company recorded certain
liabilities of $255,000, and continued to hold those liabilities pending a
final settlement with the RLI trustee. During the second quarter of fiscal
year 2004, the Company agreed to pay $30,000 in full and final settlement to
the trustee and has recorded the remaining $225,000 as "Gain on settlement
of liabilities/legal settlement" during the fiscal year ended October 31,
2004.
On July 20, 2004, the Company filed a suit against Q Comm International,
Inc. ("Q Comm") in Federal Court in the Central District of Utah. The
Company's suit claimed damages of $4 million plus attorney's fees and costs
resulting from the breach of a purchase agreement on the part of Q Comm
relating to the sale of the Company's internally developed equipment for the
prepaid telecommunications industry. Pursuant to the terms of the purchase
agreement, the Company would deliver the source code of certain proprietary
software in consideration for an aggregate purchase price of $4 million, of
which $1 million was due at closing and the remainder was due over three
years. Following execution of the agreement, the Company tendered the
software source code to Q Comm. However, Q Comm failed to pay the Company
the initial amount due under the agreement and made copies of the source
code without the Company's permission.
During the fourth quarter of fiscal 2005, the Company entered into a
Settlement and Release Agreement with Q Comm. The Agreement releases Q Comm
from any and all claims in connection with the Company's lawsuit against Q
Comm for breach of a purchase agreement. In connection with the release,
the Company agreed to a cash settlement of $225,000, which was received on
August 10, 2005. This amount was recorded as "Gain on settlement of
liabilities/legal settlement" during the fiscal year ended October 31, 2005.
NOTE 9 - RESOLUTION OF VENDOR DISPUTE
During the first quarter of the fiscal 2005, the Company recorded a
reduction of $283,138 to Costs of Revenues in its Consolidated Statement of
Operations. This amount represents the favorable resolution of a dispute
with one of the Company's on-going vendors. This amount had been recorded
to Costs of Revenues in prior periods.
NOTE 10 - STOCK OPTIONS AND WARRANTS
Warrant Issuances to Employees for Financing Transactions
---------------------------------------------------------
Employee warrant activity for the two years ended October 31, 2005 was as
follows:
Weighted
Number Warrant Average
of Price Exercise
Shares Per Share Price
--------- ----------- --------
Warrants outstanding at
October 31, 2003 2,648,391 $0.75 - 1.44 $ 0.83
Warrants granted - - -
Warrants exercised - - -
Warrants canceled - - -
--------- ----------- --------
Warrants outstanding at
October 31, 2004 2,648,391 0.75 - 1.44 0.83
Warrants granted 640,000 0.16 0.16
Warrants exercised - - -
Warrants canceled (300,000) 1.44 1.44
--------- ----------- --------
Warrants outstanding at
October 31, 2005 2,988,391 $0.16 - 1.44 $ 0.62
========= =========== ========
The warrants issued to employees that were exercisable at October 31, 2005
and 2004 were approximately 2,988,000 and 2,648,000, respectively.
Warrant Issuances to Non-Employees
Non-Employee warrant activity for the two years ended October 31, 2005 was
as follows:
Weighted
Number Warrant Average
of Price Exercise
Shares Per Share Price
--------- ----------- --------
Warrants outstanding at
October 31, 2003 1,587,500 $0.01 - 3.50 $ 1.16
Warrants granted - - -
Warrants exercised - - -
Warrants canceled (150,000) 3.00 3.00
--------- ----------- --------
Warrants outstanding at
October 31, 2004 1,437,500 0.01 - 3.50 0.97
Warrants granted 2,035,000 0.11 - 0.78 0.55
Warrants exercised - - -
Warrants canceled (212,500) 0.01 0.01
--------- ----------- --------
Warrants outstanding at
October 31, 2005 3,260,000 $0.11 - 3.50 $ 0.77
========= =========== ========
The majority of the warrants issued to non-employees during fiscal years
2005 and 2004 were issued in connection with debt financing. In addition,
the Company issued 1,000,000 warrants to a provider of legal and consulting
services during the fiscal year ended October 31, 2005. The warrants issued
to non-employees that were exercisable at October 31, 2005 and 2004 totaled
3,260,000 and 1,437,500, respectively.
Stock Options
2002 Equity Incentive Plan
The Company adopted the 2002 Equity Incentive Plan ("Incentive Plan") at the
Company's annual shareholder meeting in May 2002. The Incentive Plan
authorized the Board of Directors to grant up to 2,000,000 options to
purchase common shares of the Company. The number of options available for
grant was increased to 4,000,000 at the Company's annual shareholder meeting
in October 2005. The maximum number of shares of common stock, which may be
issuable under the Incentive Plan to any individual plan participant, is
500,000 shares. All options granted under the Incentive Plan have vesting
periods up to a maximum of five years. The exercise price of an option
granted under the Incentive Plan shall not be less than 85% of the fair
value of the common stock on the date such option is granted.
Amended and restated 1990 Stock Option Plan
The 1990 Stock Option Plan ("1990 Stock Option Plan"), as amended,
authorizes the Board of Directors to grant up to 2,300,000 options to
purchase common shares of the Company. No options will be granted to any
individual director or employee, which will, when exercised, exceed 5% of
the issued and outstanding shares of the Company. The term of any option
granted under the 1990 Stock Option Plan is fixed by the Board of Directors
at the time the options are granted, provided that the exercise period may
not be longer than 10 years from the date of grant. All options granted
under the 1990 Stock Option Plan have up to 10-year terms and have vesting
periods that range from 0 to 3 years from the grant date. The exercise price
of any options granted under the 1990 Stock Option Plan is the fair market
value at the date of grant. The Company no longer issues options under this
plan.
The Company's stock option activity for the two years ended October 31, 2005
was as follows:
Weighted
Number Option Average
of Price Exercise
Shares Per Share Price
--------- ----------- --------
Options outstanding at
October 31, 2003 1,444,000 $0.09 - 1.50 $ 0.41
Options granted 410,000 0.11 - 0.14 0.12
Options exercised - - -
Options canceled (180,000) 0.09 - 0.78 0.32
--------- ----------- --------
Options outstanding at
October 31, 2004 1,674,000 0.11 - 1.50 0.35
Options granted - - -
Options exercised - - -
Options canceled (101,000) 0.12 - 0.70 0.22
--------- ----------- --------
Options outstanding at
October 31, 2005 1,573,000 $0.11 - 1.50 $ 0.36
========= =========== ========
The following table summarizes information about employee compensatory stock
options outstanding at October 31, 2005:
Weighted
Weighted Average
Range of Options/ Average Exercise Price Prices of
Exercise Warrants Remaining of Options Options Options
Prices Outstanding Life Outstanding Exercisable Exercisable
------------ --------- ---- ---- --------- ----
$0.11 - $0.26 345,000 8.44 $0.13 184,167 $0.13
$0.42 - $1.50 1,228,000 0.80 0.42 1,228,000 0.42
--------- ---- ---- --------- ----
1,573,000 2.48 $0.36 1,412,167 $0.39
========= ==== ==== ========= ====
There were no options issued to employees during the fiscal year ended
October 31, 2005.
NOTE 11 - INCOME TAXES
Deferred income taxes reflect the net tax effects of temporary differences
between the carrying amounts of assets and liabilities for financial
reporting purposes and the amounts reported for income tax purposes.
Significant components of the Company's deferred tax assets and liabilities
at October 31, 2005 and 2004 are as follows:
2005 2004
---------- ----------
Deferred tax assets
Net operating loss carryovers $15,769,757 $15,205,732
Accounts receivable 145,214 41,579
Advertising credits 977,185 977,185
Property and equipment 227,065 184,176
Warrants 54,296 -
Accrued liabilities 27,525 34,694
---------- ----------
Total gross deferred tax assets 17,201,042 16,443,366
Deferred tax liabilities
Goodwill (164,753) (117,773)
---------- ----------
Total gross deferred tax liabilities (164,753) (117,773)
Net deferred tax liabilities (164,753) (117,773)
Valuation allowance (17,036,289) (16,325,593)
---------- ----------
Net deferred assets $ - $ -
========== ==========
2005 2004
---------- ----------
Income tax benefit at statutory rate $ (872,216) $ (578,676)
Permanent differences 180,396 62,483
Change in valuation allowance 710,696 505,079
Other (18,876) 11,114
---------- ----------
$ - $ -
========== ==========
The increase in the valuation allowance for the years ended October 31, 2005
and 2004 of $711,000 and $505,000, respectively, was related primarily to a
change in U.S. operating loss carryforwards.
At October 31, 2005, the Company has U.S. net operating loss carryforwards
for federal income tax purposes of approximately $46 million, which expire
in 2006 through 2025. Utilization of U.S. net operating losses is subject to
annual limitations provided for by the Internal Revenue Code. The annual
limitation may also result in the expiration of net operating losses before
utilization.
Realization of tax benefits depends on having sufficient taxable income
within the carryback and carryforward periods. The Company continually
reviews the adequacy of the valuation allowance and recognizes these
benefits as reassessment indicates that it is more likely than not that the
benefits will be realized. Based on pretax losses incurred in prior years,
management has established a valuation allowance against the entire net
deferred asset balance.
NOTE 12 - COMMITMENTS AND CONTINGENCIES
The Company has one capital lease as of October 31, 2005. The Company
leases its branch office facilities and its corporate office under various
noncancelable operating leases with terms expiring at various dates through
2007. Rental expense from continuing operations for operating leases was
$248,874 and $502,940 for the fiscal years ended October 31, 2005 and 2004,
respectively.
Future minimum lease payments under noncancelable operating leases and its
capital lease as of October 31, 2005 are as follows:
Capital Operating
Leases Leases
---------- ----------
Year ending October 31,
2006 $ 126,196 $ 168,854
2007 - 54,595
---------- ----------
Total minimum lease pmts $ 126,196 $ 223,449
========== ==========
Legal Proceedings
-----------------
The Company, from time to time, may be subject to legal proceedings and
claims in the ordinary course of business, including claims of alleged
infringement of trademarks and other intellectual property of third parties
by the Company. Such claims, even if not meritorious, could result in the
expenditure of significant financial and managerial resources.
On June 12, 2001, Cygnus Telecommunications Technology, LLC ("Cygnus"),
filed a patent infringement suit (case no. 01-6052) in the United States
District court, Central District of California, with respect to the
Company's "international reorigination" technology. The injunctive relief
that Cygnus sought in this suit has been denied, but Cygnus continues to
seek a license fee for the use of the technology. The Company believes that
no license fee is required as the technology described in the patent is
different from the technology used by the Company.
In August 2002, Cygnus filed a motion for a preliminary injunction to
prevent the Company from providing "reorigination" services. The Company
filed a cross motion for summary judgment of non-infringement. Both motions
were denied. On August 22, 2003, the Company re-filed the motion for
summary judgment for non-infringement. In response to this filing, during
August 2004, the court narrowly defined the issue to relate to a certain
reorigination technology, which the Company believes it does not now, nor
has it ever utilized to provide any of its telecommunications services. On
August 17, 2005, the United States District Court for the Northern District
of California issued a stay in the lawsuit for the purpose of reexamining
the Cygnus patent. This stay is the result of a reexamination request
received by the United States Patent and Trademark Office ("USPTO"), whereby
the USPTO has issued a decision that the patents are invalid. That decision,
however, is not final so that further proceedings are expected to continue.
The Company intends to continue defending this case vigorously, and though
its ultimate legal and financial liability with respect to such legal
proceeding is therefore expected to be minimal, the potential loss or range
of loss cannot be estimated with any certainty at this time.
The State of Texas ("State") performed a sales tax audit Canmax Retail
Systems a current subsidiary of the Company, and former operating
subsidiary providing retail automation software and related services to the
retail petroleum and convenience store industries, for the years 1995 to
1999. The State determined that Canmax Retail Systems did not properly
remit sales tax on certain transactions, including asset purchases and
software development projects that Canmax Retail Systems performed for
specific customers. The Company's current and former management filed
exceptions, through its outside sales tax consultant, to the State's audit
findings, including the non-taxable nature of certain transactions. In
correspondence from the State in June 2003, the State agreed to consider
certain offsetting remittances received by Canmax Retail Systems during the
audit period. The State has refused to consider other potential offsets.
Based on this correspondence with the State, management's estimate of the
potential liability was originally recorded at $350,000 during the fiscal
year ended October 31, 2003. Based on further correspondence with the
State, this estimated liability was increased to $1.1 million during the
first quarter of fiscal year 2004. Since this sales tax liability
represents an adjustment to amounts previously reported in discontinued
operations, it was classified separately during the first quarter of fiscal
year 2004 in discontinued operations, and was included in the October 31,
2004 consolidated balance sheet in "Net current liabilities from
discontinued operations".
On August 5, 2005, the State of Texas filed a lawsuit in the 53rd Judicial
District Court of Travis County, Austin, Texas against the Company. The
lawsuit requests payment of approximately $1.162 million including penalties
and interest for state and local sales. During the third quarter of fiscal
year 2005, the Company accrued an additional $62,000 related to the state
tax amounts due, increasing the liability to $1.162 million. This is
included in the October 31, 2005 consolidated balance sheet in "Net current
liabilities from discontinued operations". Management believes that it will
be able to negotiate a reduced settlement amount with the state, although
there can be no assurance that the Company will be successful with respect
to such negotiations. The Company will continue to aggressively pursue the
collection of unpaid sales taxes from former customers of Canmax Retail
Systems, primarily Southland Corporation, now 7-Eleven Corporation ("7-
Eleven"), as a majority of the amount owed to the State of Texas is the
result of uncollected taxes from the sale of software to 7-Eleven during the
period under audit (see below). However, there can be no assurance that the
Company will be successful with respect to such collections.
On January 12, 2004, the Company filed a suit against 7-Eleven in the 162nd
District Court in Dallas, Texas. The Company's suit claims a breach of
contract on the part of 7-Eleven in failing to reimburse it for taxes paid
to the State as well as related taxes for which the Company is currently
being held responsible by the State. The Company's suit seeks reimbursement
for the taxes paid and a determination by the court that 7-Eleven is
responsible for paying the remaining tax liability to the State.
NOTE 13 - BENEFIT PLAN
Effective January 1, 1994, the Company implemented a 401(k) Profit Sharing
Plan for all employees of the Company. The Plan provides for voluntary
contributions by employees into the Plan subject to the limitations imposed
by the Internal Revenue Code Section 401(k). The Company may match employee
contributions to a discretionary percentage of the employee's contribution.
The Company's matching funds are determined at the discretion of the Board
of Directors and are subject to a six-year vesting schedule from the date of
original employment. The Company matched $11,245 during the fiscal year
ended October 31, 2005. The Company made no matching contributions during
the fiscal year ended October 31, 2004.
NOTE 14 - BUSINESS AND CREDIT CONCENTRATIONS
In the normal course of business, the Company extends unsecured credit to
virtually all of its customers. Management has provided an allowance for
doubtful accounts, which reflects its estimate of amounts, which may become
uncollectible. In the event of complete non-performance by the Company's
customers, the maximum exposure to the Company is the outstanding accounts
receivable balance at the date of non-performance.
During the year ended October 31, 2005, the Company provided wholesale
services to a customer who accounted for 11% of revenues and another
customer who accounted for 13% of revenues. During the same period, one of
the Company's suppliers accounted for approximately 20% of the Company's
total costs of revenues and another supplier accounted for 11% of total
costs of revenues. At October 31, 2005, one customer accounted for 35% of
the Company's trade accounts receivable. During the year ended October 31,
2004, the Company provided wholesale services to a customer who accounted
for 17% of revenues and another customer who accounted for 13% of revenues.
During the same period, one of the Company's suppliers accounted for
approximately 20% of the Company's total costs of revenues. At October 31,
2004, one customer accounted for 16% of the Company's trade accounts
receivable. Due to the highly competitive nature of the telecommunications
business, the Company believes that the loss of any carrier would not have a
long-term material impact on its business.
Information regarding the Company's domestic and foreign revenues is as
follows:
All other
foreign
Africa revenues Domestic Total
---------- ---------- ---------- ----------
Fiscal 2004 $ 1,617,433 $ 1,284,641 $10,478,436 $13,380,510
Fiscal 2005 $ 2,201,290 $ 1,215,614 $ 6,410,145 $ 9,827,049
No individual foreign country represented more than 10 percent of revenue
for the fiscal year ended October 31, 2004 or more than 10 percent of long-
lived assets for the fiscal years ended October 31, 2005 and 2004. During
the fiscal year ended October 31, 2005, 20% of the Company's revenue was
generated from customers in South Africa.
NOTE 15 - CAPITAL STOCK
During the year ended October 31, 2005, in connection with the extension of
the maturity date of the GCA-Debenture, the Company issued GCA 100,000
shares of common stock.
During the year ended October 31, 2005, in connection with the extension of
the maturity date of the GCA-Note, the Company issued GCA 40,000 shares of
common stock.
During the year ended October 31, 2005, in connection with the extension of
the maturity date of the GC-Note, the Company issued Global 100,000 shares
of common stock.
During the years ended October 31, 2005 and 2004, the three holders of the
Company's Related Party Notes converted $467,500 and $877,500, respectively,
of debt into 3,740,000 and 6,750,000 shares, respectively, of the Company's
common stock.
During the year ended October 31, 2005 and 2004, the holder of the GCA-
Debenture converted approximately $43,000 and $10,000, respectively, of debt
and accrued interest into approximately 352,000 and 82,000 shares,
respectively, of the Company's common stock.
During the year ended October 31, 2005, the holder of the GC-Conote
converted $75,000 of debt into approximately 656,000 shares of the Company's
common stock.
During the year ended October 31, 2005, the Company issued 200,000 shares of
common stock for investor relations' services and were recorded at the
stock's fair market value at the date of issuance.
During the year ended October 31, 2005, the Company issued 125,000 shares of
common stock for legal services and were recorded at the stock's fair market
value at the date of issuance.
In October 2005, the Company issued 950,000 shares in connection with the
Company's purchase of certain assets, including but not limited to the
customer base, and certain specified contracts and an item of equipment of
Integrated Communications, Inc., Inc, valued at $104,500 at the date of
issuance (see Note 3).
The following table describes stock reserved for future issuances at October
31, 2005:
# Shares
----------
Options 5,228,000
Warrants 6,248,391
Convertible debt (1) 46,567,470
----------
58,043,861
==========
(1) Assumes conversion on October 31, 2005 under the terms of the related
agreements
NOTE 16 - SUBSEQUENT EVENTS
The Company has filed an action in the Los Angeles Superior Court against
Yahoo for claims related to a stock sale agreement that exchanged common
stock in the Company for media credits in various publications. Some of the
media credits were provided in accordance with the contract terms, but a
majority of the media credits have not been provided.
Since October 31, 2005, our chief executive officer has advanced funds to
our Company in the aggregate amount of $500,000. We have not yet formalized
the terms of these advances, but we expect to enter into an agreement with
Mr. Jenkins on substantially the same terms and conditions as our next round
of debt financing. If we do not obtain debt financing by February 28, 2006,
we will negotiate the terms of these advances with Mr. Jenkins at arms'
length.
EXHIBIT INDEX
NO. DESCRIPTION OF EXHIBIT
3.4 Amendment to Certificate of Incorporation
21.1 Subsidiaries of the Registrant
23.1 Consent of Independent Registered Public Accounting Firm
31.1 Certificate of Chief Executive Officer pursuant to Rule 13a-14(a)
and Rule 15d-14(a) of the Securities Exchange Act of 1934
31.2 Certificate of Chief Financial Officer pursuant to Rule 13a-14(a)
and Rule 15d-14(a) of the Securities Exchange Act of 1934
32.1 Certificate of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350
32.2 Certificate of Chief Financial Officer pursuant to 18 U.S.C.
Section 1350