WASHINGTON, D.C. 20549
NTS, INC.
5307 W. Loop 289
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
The accompanying notes are an integral part of these condensed consolidated financial statements.
The accompanying notes are an integral part of these condensed consolidated financial statements.
* represents amount less than $0.01.
The accompanying notes are an integral part of these condensed consolidated financial statements.
The accompanying notes are an integral part of these condensed consolidated financial statements.
The accompanying notes are an integral part of these condensed consolidated financial statements
NTS, Inc. and Subsidiaries
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 1 - Organization and Nature of Business
| | A. | NTS, Inc. (“NTSI” or “the Company”) was incorporated in the State of Nevada, U.S.A. in September 2000 under the name Xfone, Inc. The Company is a holding and managing company providing, through its subsidiaries, integrated communications services which include voice, video and data over its Fiber-To-The-Premise (“FTTP”) and other networks. The Company currently has operations in Texas, Mississippi and Louisiana. Effective as of February 1, 2012, the Company changed its name to “NTS, Inc.” and as of February 2, 2012 the Company's common shares began trading on the NYSE MKT (f/k/a NYSE Amex) and the Tel Aviv Stock Exchange ("TASE") under a new ticker symbol “NTS”. The name change is a reflection of the Company's refined and enhanced business strategy which began with its acquisition of NTS Communications, Inc. (“NTSC”) in 2008 and its focus on the build out of its high-speed FTTP network. |
NTSI’s wholly owned subsidiaries as of June 30, 2012 were as follows:
| | ● | NTSC and its seven wholly owned subsidiaries, NTS Construction Company, Garey M. Wallace Company, Inc., Midcom of Arizona, Inc., Communications Brokers Inc., NTS Telephone Company, LLC, NTS Management Company, LLC and PRIDE Network, Inc. |
| | ● | Xfone USA, Inc. and its two wholly owned subsidiaries, eXpeTel Communications, Inc. and Gulf Coast Utilities, Inc. (collectively, “Xfone USA”). |
| | B. | Purchase assets and liabilities of CoBridge Telecom, LLC. |
On April 25, 2011, NTSC entered into an Asset Purchase Agreement (the “Agreement”) with CoBridge Telecom, LLC, (“CoBridge”), pursuant to which CoBridge agreed to sell NTSC all of CoBridge’s assets in and around the communities of Colorado City, Levelland, Littlefield, Morton, and Slaton Texas pursuant to the terms of the Agreement. CoBridge provided cable television service in those communities via coaxial cable facilities and the transaction will allow the Company to quickly expand in those markets while reducing sales and marketing costs to obtain new customers. As part of the transaction, NTSC also agreed to assume certain contracts of CoBridge which are necessary to continue operation of the assets that were acquired. The sale and purchase closed on July 1, 2011, but the purchase price was adjusted during November 2011 based on the number of CoBridge’s customers who failed to pay their accounts or canceled service (offset by customers who converted to NTSC’s service in relevant markets). On July 24, 2012, NTSC and CoBridge agreed on the final purchase price of $962,970 and cost of $39,187 in connection with the provision of transition services to NTSC.
The Company acquired these assets to accelerate its penetration in these markets. The remaining required disclosures are considered immaterial.
The following table summarizes the fair values of the assets acquired:
NTS, Inc. and SubsidiariesNOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 1 - Organization and Nature of Business (cont.)
| | C. | Purchase assets and liabilities of Reach Broadband |
On September 16, 2011, NTSC entered into an Asset Purchase Agreement (the “Agreement”) with RB3, LLC, and Arklaoktex, LLC, each doing business as Reach Broadband (“Reach”), pursuant to which Reach agreed to sell NTSC all of Reach’s assets in and around the communities of Abernathy, Anton, Brownfield, Hale Center, Idalou, Levelland, Littlefield, Meadow, New Deal, O’Donnell, Olton, Reese, Ropesville, Shallowater, Smyer, Tahoka, and Wolfforth Texas pursuant to the terms of the Agreement. Reach provided those communities with cable television service via coaxial cable facilities and Internet service via a wireless network. The sale and purchase closed on December 1, 2011, but is subject to a purchase price adjustment based on the number of Reach’s customers who failed to pay their accounts or canceled service (offset by customers who converted to NTSC’s service in relevant markets). The Company has not yet agreed on the final purchase price with Reach.
The Company acquired these assets to accelerate its penetration in these markets. The remaining required disclosures are considered immaterial.
The following table summarizes the fair values of the assets acquired:
As of June 30, 2012, the Company reported a working capital deficit of $4,018,193 compared to a working capital deficit of $3,596,693 on December 31, 2011. On June 22, 2012 the Company entered into Amendment No. 1 to the Original ICON Agreement providing for an additional loan in the amount of $3,500,000 (“Term Loan”) and a second loan in the amount of $3,100,000 (“Delayed Draw Term Loan”). The Company used the proceeds of the Term Loan solely for the payment and satisfaction in full of all liabilities owed to Burlingame Equity Investors LP, including but not limited to the Burlingame Note. The Company will use the proceeds of the Delayed Draw Term Loan solely for the purchase of equipment in connection with the Company's project to construct a fiber network in Wichita Falls, upon the request made by the Company prior to September 25, 2012. The Company believes that increased revenues from the higher margin Fiber-To-The-Premise network will result in increased profitability and cash flows, which will lead to improvement in the working capital deficit to meet its anticipated cash requirements for at least the next 12 months. If, however, the Company does not generate sufficient cash from operations, or if the Company incurs additional unanticipated liabilities or the Company is unable to renew and/or extend a portion of its short-term liabilities, the Company may be required to seek additional financing or sell equity or debt on terms which may not be as favorable as it could have otherwise obtained. No assurance can be given that any refinancing, additional borrowing or sale of equity or debt will be possible when needed or that the Company will be able to negotiate acceptable terms. In addition, the Company’s access to capital is affected by prevailing conditions in the financial and equity capital markets, as well as the Company’s own financial condition. While management believes that the Company will be able to meet its liquidity needs for at least the next 12 months, no assurance can be given that the Company will be able to do so.
NTS, Inc. and Subsidiaries
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 2 - Significant Accounting Policies
The condensed consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States. The significant accounting policies followed in the preparation of the financial statements, applied on a consistent basis, are as follows:
| | A. | Principles of Consolidation and Basis of Financial Statement Presentation |
The condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America ("US GAAP") and include the accounts of the Company and its subsidiaries. All significant inter-company balances and transactions have been eliminated in consolidation. Minority interest in the loss of a subsidiary will be recorded according to the respective equity interest of the minority and up to its exposure and/or legal obligation to cover the subsidiary losses in the event that equity is reduced to zero or below.
The condensed consolidated financial statements included herein have been prepared by the Company, without audit, pursuant to the rules and regulations of the US Securities and Exchange Commission. Certain information, including note disclosures, normally included in financial statements which are prepared in accordance with US GAAP has been condensed or omitted pursuant to such rules and regulations, although the Company believes that the disclosures included are adequate to make the information presented not misleading.
In management’s opinion, the condensed consolidated balance sheet as of June 30, 2012 (unaudited) and December 31, 2011 (audited), the unaudited condensed consolidated statements of operations for the six months ended June 30, 2012 and 2011, and the unaudited condensed consolidated statements of cash flows for the six months ended June 30, 2012 and 2011, contained herein, reflect all adjustments, consisting solely of normal recurring items, which are necessary for the fair presentation of the Company's financial position, results of operations and cash flows on a basis consistent with that of the Company's prior audited consolidated financial statements. However, the results of operations for the interim periods may not be indicative of results to be expected for the full fiscal year. Therefore these financial statements should be read in conjunction with the audited financial statements and notes thereto and summary of significant accounting policies included in the Company’s Form 10-K for the year ended December 31, 2011.
The Company has evaluated subsequent events occurring through the date on which this Quarterly Report on Form 10-Q was filed.
| | B. | Foreign Currency Translation |
Foreign currency transactions gains and losses are included in the results of operations.
| | C. | Cash and Cash Equivalents |
Cash and cash equivalents consist of cash and temporary investments with maturities of three months or less when purchased.
NTS, Inc. and Subsidiaries
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 2 - Significant Accounting Policies (cont.)
Restricted cash includes proceeds held by PRIDE Network, Inc. that were received from the United States Department of Agriculture to develop its FTTP infrastructure in northwestern Texas and southern Louisiana.
Accounts receivable are recorded at net realizable value consisting of the carrying amount less the allowance for uncollectible accounts.
The Company uses the allowance method to account for uncollectible accounts receivable balances. Under the allowance method, estimate of uncollectible customer balances is made using factors such as the credit quality of the customer and the economic conditions in the market. An allowance for doubtful accounts is determined with respect to those amounts that the Company has determined to be doubtful of collection. When an account balance is past due and attempts have been made to collect the receivable through legal or other means the amount is considered uncollectible and is written off against the allowance balance.
Accounts receivable are presented net of an allowance for doubtful accounts of $1,034,057 and $805,873 at June 30, 2012 and December 31, 2011, respectively.
| | F. | Other Intangible Assets |
Other intangible assets consist of a license to provide communication services in the US.
Customer relations related to mergers and acquisitions are amortized over a period between 2-13 years from the date of the purchase.
Basic earning per share (EPS) is computed by dividing income available to common shareholders by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the entity. Warrants and options were excluded from the calculation of diluted loss per share since they would have an anti-dilutive effect due to the Company's loss from continued operations and net loss to shareholders which were reported for the six months ended June 30, 2012 and 2011.
| | H. | Stock-Based Compensation |
The Company accounts for stock-based compensation in accordance with FASB ASC No. 718-10, "Compensation - Stock Compensation". Stock-based compensation expense recognized during the period is based on the value of the portion of share-based awards that are ultimately expected to vest during the period. The fair value of each stock option grant is estimated on the date of grant using the Black-Scholes option pricing model. The fair value of restricted stock is determined based on the number of shares granted and the closing price of the Company’s common stock on the date of grant. Compensation expense for all share-based payment awards is recognized using the straight-line amortization method over the vesting period.
NTS, Inc. and Subsidiaries
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 2 - Significant Accounting Policies (cont.)
Certain prior period balances in the statement of cash flows have been reclassified to conform to the current year presentation. Such reclassifications did not impact the Company's net income or stockholders' equity.
The Company and its subsidiaries account for income taxes in accordance with FASB ASC No. 740, “Income Taxes.” This topic prescribes the use of the liability method, whereby deferred tax asset and liability account balances are determined based on differences between financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates that will be in effect when the differences are expected to reverse. The Company and its subsidiaries provide a valuation allowance, if necessary, to reduce deferred tax assets to their estimated realizable value.
Deferred tax liabilities and assets are classified as current or non-current based on the classification of the related asset or liability for financial reporting, or according to the expected reversal dates of the specific temporary differences if not related to an asset or liability for financial reporting.
The Company uses a two-step approach for recognizing and measuring tax benefits taken or expected to be taken in a tax return. The first step is recognition: the Company determines whether it is more likely than not that a tax position will be sustained upon examination, including resolution of any related appeals or litigation processes, based on the technical merits of the position. In evaluating whether a tax position has met the more-likely-than-not recognition threshold, the Company presumes that the position will be examined by the appropriate taxing authority that has full knowledge of all relevant information. The second step is measurement: a tax position that meets the more-likely-than-not recognition threshold is measured to determine the amount of benefit to recognize in the financial statements. The tax position is measured at the largest amount of benefit that is greater than 50 percent likely of being realized upon ultimate settlement. Differences between tax positions taken in a tax return and amounts recognized in the financial statements will generally result in one or more of the following: an increase in a liability for income taxes payable, a reduction of an income tax refund receivable, a reduction in a deferred tax asset, or an increase in a deferred tax liability.
NTS, Inc. and Subsidiaries
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 2 - Significant Accounting Policies (cont.)
The Company and its subsidiaries account for derivative instruments and hedging activities in accordance with FASB ASC No. 815, "Derivatives and Hedging". ASC 815 requires entities to provide qualitative disclosures about the objectives and strategies for using derivatives, quantitative data about the fair value of any gains and losses on derivative contracts, and details of credit risk related contingent features in their hedged positions. ASC 815 also requires entities to disclose more information about the location and amounts of derivative instruments in financial statements; how derivatives and related hedges are accounted for; and how the hedges affect the entity's financial position, financial performance, and cash flows.
The Company recognizes all of its derivative instruments as either assets or liabilities on the balance sheet at fair value. For derivative instruments that are designated and qualify as a cash flows hedge (i.e., hedging the exposure to variability in expected future cash flows that is attributable to a particular risk), the effective portion of the gain or loss on the derivative instrument is reported as a component of other comprehensive income and reclassified into earnings in the same period or periods during which the hedged transaction affects earnings. Any gain or loss on a derivative instrument in excess of the cumulative change in the present value of future cash flows of the hedged item is recognized in current earnings during the period of change. For the period ended June 30, 2012, our forward contracts did not qualify for hedge accounting and as such, changes in the fair value of the derivative instrument were reported in current period earnings. During January 2012, the Company entered into two foreign currency hedging transactions of $596,842 maturing on May 29, 2012 to buy NIS 2,303,809 and $4,306,570 maturing on November 28, 2012 to buy NIS 16,640,591 in order to hedge against the risk of principal and interest payments of its bonds during 2012. The Company hedged its forecasted principal and interest payments denominated in NIS with currency forwards contracts. As of June 30, 2012, the Company recognized an unearned loss of $97,109 in financing expenses in the Condensed Consolidated Statements of Operations against a reduction in its Current maturities of Bonds in the Condensed Consolidated Balance Sheet.
| | L. | Recent Accounting Pronouncements |
| 1. | Comprehensive Income (Topic 220). In June 2011, the Financial Accounting Standards Board (FASB) issued “Comprehensive Income (Topic 220) - Presentation of Comprehensive Income (Accounting Standards Update (ASU) 2011-05) which eliminates the presentation of the components of Other Comprehensive Income as part of the statement of changes in stockholders’ equity. The new standard requires an entity to report comprehensive income either in a single continuous financial statement or in two separate but consecutive financial statements. In both choices, an entity is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income, and a total amount for comprehensive income. The amendments in this ASU 2011-05 are applied retrospectively. For public entities, the amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. In December 2011, FASB issued ASU 2011-12, “Comprehensive Income (Topic 220) – Deferral of the effective date for amendments to the presentation of reclassification of items out of Accumulated Other Comprehensive Income in ASU No 2011-05” to delay the proposed identification of reclassification adjustments in the consolidated statements of income. The Company does not anticipate adoption will have a material impact on the financial statements. |
| | |
| 2. | Balance Sheet (Topic 210). In December 2011, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2011-11 “Balance Sheet (Topic 210) – Disclosures about Offsetting Assets and Liabilities which require an entity to disclose information about offsetting and related arrangements to enable users of its financial statements to understand the effect of those arrangements on its financial position. The ASU is effective for annual reporting periods beginning on or after January 1, 2013, with interim periods therein, and is to be implemented retrospectively. |
NTS, Inc. and Subsidiaries
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 3 – Notes payable
| 1. | On October 6, 2011, the Company entered into a term loan, guarantee and security agreement (the “Original ICON Agreement”) between the following: (1) ICON Agent, LLC, acting as agent for the Lenders signatory thereto; (2) the Company, as Guarantor; (3) Xfone USA, Inc., NTS Communications, Inc., Gulf Coast Utilities, Inc., eXpeTel Communications, Inc., NTS Construction Company, Garey M. Wallace Company, Inc., Midcom of Arizona, Inc., Communications Brokers, Inc., and NTS Management Company, LLC, acting as Borrowers and Guarantors; and (4) PRIDE Network, Inc., and NTS Telephone Company, LLC (together with the Borrowers and Guarantors acting as Credit Parties). On June 22, 2012 the Company entered into Amendment No. 1 to the Original ICON Agreement providing for: |
| (i) | An additional Term Loan in the amount of $3,500,000, for the payment of all liabilities owed to Burlingame, |
| (ii) | A Delayed Draw Term Loan in the amount of $3,100,000, for the purchase of equipment in connection with the Company's project to construct a fiber network in Wichita Falls, upon the request made by the Company prior to September 25, 2012 and |
| (iii) | Certain other amendments to the Original ICON Loan as described in Amendment No. 1. |
As per the Amendment No. 1, the principal amount of the term loan (a “Closing Date Term Loan”) of $7,500,000 bearing interest of 12.75% per annum is payable in 68 consecutive monthly installments with the first 20 monthly payments being payments of accrued interest only. The principal amount of the term loan (an “Amendment Date Term Loan”) of $3,500,000 bearing interest of 12.75% per annum is payable in 60 consecutive monthly installments with the first 12 monthly payments being payments of accrued interest only. The loans are secured by a lien against all of each Borrower's and Guarantor's property and assets, whether real or personal, tangible or intangible, and whether now owned or hereafter acquired, or in which it now has or at any time in the future may acquire any right, title, or interest; such as all accounts, all deposit accounts, all other bank accounts and all funds on deposit therein; all money, cash and cash equivalents, all investment property, all stock (other than the publicly traded shares of Stock issued by NTSI), all goods (including inventory, equipment and fixtures), all chattel paper, documents and instruments, all Books and Records, all general intangibles (including all Intellectual Property, contract rights, choses in action, payment intangibles and software), all letter-of-credit rights, all commercial tort claims, all FCC Licenses, all supporting obligations provided, however, that none of the assets of PRIDE Network, Inc. and NTS Telephone Company, LLC are being used as collateral for the Loan and are specifically excluded. The fundings of the Closing Date Term Loan and Amendment Date Term Loan were made on October 27, 2011 and June 22, 2012 respectively.
On August 9, 2012, the Company entered into Amendment No. 2 to the Original ICON Agreement providing for revised amortization schedules of the Closing Date Term Loan and the Amendment Date Term Loan.
The Company has to maintain a Fixed Charge Coverage Ratio of not less than 1.15 to 1.00 for the trailing four fiscal quarter period most recently ended if at any time cash is less than $3,000,000 as of the last day of any fiscal quarter. Pursuant to Amendment No. 1, Senior Leverage Ratio should not exceed 2.00 to 1.00 from June 30, 2012 through March 31, 2013, 1.75 to 1.00 from June 30, 2013 through December 31, 2013 and 1.50 to 1.00 from March 31, 2014 and thereafter.
The total outstanding amount of the loans as of June 30, 2012 is $11,000,000. As of June 30, 2012, there was no outstanding amount on the Delayed Draw Term Loan.
NTS, Inc. and Subsidiaries
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 3 - Notes payable (Cont.)
| 2. | NTS Telephone Company, LLC, a wholly owned subsidiary of NTSC, received approval from the Rural Utilities Service (“RUS”), a division of the United States Department of Agriculture, for an $11.8 million debt facility to complete a telecommunications overbuild project in Levelland, Texas. The principal of the RUS loan is repaid monthly starting one year from the advance date until full repayment after 17 years from each advance date. The loan bears interest at the average yield on outstanding marketable obligations of the United States having the final maturity comparable to the final maturity of the advance. Advances are provided as the construction progresses, and the interest rate is set based upon the prevailing rate at the time of each individual advance. The loan is non-recourse to NTSC and all other NTSC subsidiaries and is secured by NTS Telephone's assets which were $13.7 million at June 30, 2012. As of June 30, 2012, the current average weighted interest rate on the outstanding advances was 3.54%. The total outstanding amount of these loans as of June 30, 2012 and December 31, 2011 are $9,953,550 and $10,312,900, respectively. The loans are to be repaid in monthly installments until 2024. |
| 3. | PRIDE Network, Inc., a wholly owned subsidiary of NTSC, received approval from the Broadband Initiative Program of the American Recovery and Reinvestment Act, for a total $99.9 million funding in the form of $45.9 million in grants and $54 million in 19 to 20 year loans. The loans bear interest at the US Treasury rate for comparable loans with comparable maturities. The funding will allow the Company to develop its FTTP infrastructure, known as the PRIDE Network in northwestern Texas and further expand it to communities in southern Louisiana. Construction work of PRIDE Network's FTTP infrastructure started in October 2010. The total aggregate amount of these loans and grants as of June 30, 2012 is $21,049,460 and $17,107,108, respectively. The loans are non-recourse to NTSC and all other NTSC subsidiaries and are secured by PRIDE Network's assets which were $25.7 million at June 30, 2012. As of June 30, 2012, the current average weighted interest rate on the outstanding advances was 3.24%. As of June 30, 2012, the total amount of loan and grant available in the future is $32,525,916 and $28,769,813, respectively. |
| | |
| 4. | On March 23, 2010, the Company entered into a Securities Purchase Agreement (the “Purchase Agreement”) with an existing shareholder, Burlingame. As part of the Purchase Agreement, the Company issued a senior promissory note in the aggregate principal amount of $3,500,000, with a maturity date of March 22, 2012. Interest accrued at an annual rate of 10% and was payable quarterly. The note was not secured and had equal liquidation rights with the Company's Series A Bonds issued in Israel on December 13, 2007. The Company evaluated the fair value of each of the three securities that were issued under the Purchase Agreement (i.e., the promissory note, 2,173,913 shares of the Company’s common stock, and a warrant to purchase 950,000 shares of the Company’s common stock) and recorded the promissory note at its fair value of $2,556,240. The difference between the fair value and the principal amount was expensed ratably over the life of the promissory note. On May 2, 2011, the Company entered into a First Amendment to the Promissory Note, pursuant to which the Company and Burlingame agreed to extend the maturity date of the Promissory Note from March 22, 2012 to March 22, 2013. The effective interest rate of the Promissory Note was calculated at 22.1%. The total amount of discount recognized for the six months period ended June 30, 2012 was $252,796. The outstanding principal amount of the Promissory Note of $3,500,000 (plus accrued interest) was paid off on June 22, 2012. |
| | |
| 5. | On April 25, 2011, NTSC entered into an Asset Purchase Agreement (the “Agreement”) with CoBridge Telecom, LLC, (“CoBridge”), pursuant to which CoBridge agreed to sell NTSC all of CoBridge’s assets in and around the communities of Colorado City, Levelland, Littlefield, Morton, and Slaton Texas pursuant to the terms of the Agreement. The note was issued on July 1, 2011 and is payable in 36 equal monthly installments. The total outstanding amount of the note as of June 30, 2012 is $403,229. |
NTS, Inc. and SubsidiariesNOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 3 - Notes payable (Cont.)
| 6. | On September 16, 2011, NTSC entered into an Asset Purchase Agreement (the “Agreement”) with RB3, LLC, and Arklaoktex, LLC, each doing business as Reach Broadband (“Reach”), pursuant to which Reach agreed to sell NTSC all of Reach’s assets in and around the communities of Abernathy, Anton, Brownfield, Hale Center, Idalou, Levelland, Littlefield, Meadow, New Deal, O’Donnell, Olton, Reese, Ropesville, Shallowater, Smyer, Tahoka, and Wolfforth Texas pursuant to the terms of the Agreement. The note was issued on December 1, 2011 and is payable in 36 equal monthly installments. The total outstanding amount of the note as of June 30, 2012 is $402,514. |
Note 4- Bonds payable
On December 13, 2007, the Company issued a total of NIS 100,382,100 (approximately $25,562,032, based on the exchange rate as of December 13, 2007) unsecured Series A Bonds (the “Bonds”) to Israeli institutional investors. The principal of the Bonds is repaid in 8 equal annual payments on the 1st of December of every year from 2008 until 2015 (inclusive). On November 11, 2008 (the “Date of Listing”), the Bonds commenced trading on the TASE. From the date of issuance until the Date of Listing, the Bonds accrued annual interest at a rate of 9%. As of the Date of Listing, the interest rate for the unpaid balance of the Bonds was reduced by 1% to an annual interest rate of 8%. The interest on the Bonds is paid semi-annually on the 1st of June and on the 1st of December of every year from 2008 until 2015 (inclusive). The principal and interest of the Bonds are linked to the Israeli Consumer Price Index ("CPI"). The known CPI at June 30, 2012 was 117.4.
The components of the bonds payable are as follows:
| | | June 30, 2012 | |
| Outstanding balance (in NIS) | | | 50,191,050 | |
| Accrued Interest (in NIS) | | | 319,023 | |
| Increase in debt due to CPI adjustments (in NIS) | | | 7,922,959 | |
| Unearned loss due to hedging (in NIS) | | | 380,959 | |
| Total outstanding debt (in NIS) | | | 58,813,991 | |
| | | | | |
| Exchange rate | | | 3.923 | |
| | | | | |
| Total outstanding debt (USD) | | $ | 14,992,096 | |
| Debt discount related to warrants | | | (420,142 | ) |
| | | | | |
| Total outstanding debt | | | 14,571,954 | |
| | | | | |
| Less current portion | | | 3,760,858 | |
| | | | | |
| Long-term portion | | $ | 10,811,096 | |
NTS, Inc. and Subsidiaries
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 4- Bonds payable (Cont.)
The Company issued the holders of the Bonds, for no additional consideration, 956,020 (non-tradable) Warrants, each exercisable at an exercise price of $3.50 with a term of 4 years, beginning on September 2, 2008. In November 2011, following the completion of a rights offering, the exercise price of these warrants was adjusted to $2.04 per share.
The Company attributed the composition of the proceeds from the Bonds offering as follows:
| Bonds Series A | | $ | 24,588,726 | |
| Stock Purchase Warrants (1) | | | | |
| Total | | | | |
| (1) | Presented as part of Additional Paid-in Capital. |
The resulting debt discount and bonds issuance costs are being amortized into interest expense over the life of the Bonds.
Note 5 – Capital Structure
On June 13, 2012, the Company granted, under and subject to the Company's 2007 Stock Incentive Plan, to one of NTSC's senior employees options to purchase 791,212 shares of common stock (the "Options"). The Options are exercisable at $1.10 per share and expire seven years from the date of grant. On the date of grant, 197,803 of the Options were fully vested and the remaining 593,409 of the Options shall vest in equal installments over a period of ten quarters with the first quarterly installment vesting on June 30, 2013. The Options are also subject to certain provisions which shall apply in the event of termination of employment. In the event of a change of control of the Company or the sale of most of its assets, any unvested and outstanding portion of the Options shall immediately and fully vest.
Note 6 – Amendments to Articles of Incorporation
On December 29, 2011, the Company’s shareholders approved an amendment (the “Amendment”) to the Company’s Articles of Incorporation (the “Articles”) to change the name of the Company to “NTS, Inc.” and to increase the Company's authorized capital to 150,000,000 shares of common stock $0.001 par value per share. The Amendment became effective on February 1, 2012. The Company filed a Certificate of Amendment to the Articles with the Nevada Secretary of State on January 25, 2012.
NTS, Inc. and SubsidiariesNOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 7 – Subsequent events
Buy-back plan
The Board of Directors of the Company adopted a buy-back plan (the “Plan”), effective as of February 13, 2012, according to which the Company may, from time to time, repurchase its Bonds which are traded on the TASE.
Under the Plan the Company is authorized to repurchase Bonds for up to a total amount of NIS 5 million (approximately USD 1.35 million) in transactions on the TASE or outside the TASE, until December 31, 2012. Any repurchases of the Bonds will be financed from the Company’s internal sources, as available from time to time. The Board of Directors has authorized the Company’s management (“Management”) to manage the performance of repurchases according to the Plan, including the conduct of negotiations, at such times, scopes, prices and other terms as Management deems fit. The timing, amounts and terms of any Bonds repurchased by the Company will be determined, at the discretion of Management, based on market conditions and opportunities, economic advisability and other customary criteria and factors.
Repurchases of the Bonds may be carried out by the Company and/or its subsidiaries, either directly and/or through a third party. Bonds repurchased by the Company itself will be canceled and removed from trading on the TASE and will not be permitted to be reissued. The Board of Directors' resolution is not a commitment to repurchase any Bonds under the Plan. The Plan may be suspended or discontinued by the Company at any time.
On July 4, 2012, NTSC, our wholly-owned subsidiary, purchased pursuant to the Plan, in a single transaction outside the TASE, NIS 1,339,310 in par value of Bonds at an aggregate purchase price of NIS 1,091,538 (approximately $278,596). Pursuant to the indenture governing the Bonds, any Bonds purchased by a subsidiary of the Company (as opposed to Bonds repurchased by the Company itself) are not canceled or removed from trading on the TASE.
Series A Bonds Rating
As of August 6, 2012, the Bonds are rated Ba1 with a stable outlook by Midroog Limited, an Israeli rating company which is a subsidiary of Moody’s Investor Services.
NTS, Inc. and Subsidiaries
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 8 – Legal proceedings
1. Eliezer Tzur et al. vs. 012 Telecom Ltd. et al.
On January 19, 2010, Eliezer Tzur et al. (the “Petitioners”) filed a request to approve a claim as a class action (the “Class Action Request”) against Xfone 018 Ltd. (“Xfone 018”), our former 69% Israel-based subsidiary, and four other Israeli telecom companies, all of which are entities unrelated to us (collectively with Xfone 018, the “Defendants”), in the District Court in Petach Tikva, Israel (the “Israeli Court”). The Petitioners’ claim alleges that the Defendants have not fully fulfilled their alleged legal requirement to bear the cost of telephone calls by customers to the Defendants’ respective technical support centers. One of the Petitioners, Mr. Eli Sharvit (“Mr. Sharvit”), seeks damages from Xfone 018 for the cost such telephone calls allegedly made by him during the 5.5-year period preceding the filing of the Class Action Request, which he assessed at NIS 54.45 (approximately $14). The Class Action Request, to the extent it pertains to Xfone 018, states total damages of NIS 7,500,000 (approximately $1,911,802) which reflects the Petitioners’ estimation of damages caused to all customers that (pursuant to the Class Action Request) allegedly called Xfone 018’s technical support number during a certain period defined in the Class Action Request.
On February 22, 2011, Xfone 018 and Mr. Sharvit entered into a settlement agreement, which following the instructions of the Israeli Court was supplemented on May 3, 2011 and amended on July 18, 2011 and on March 21, 2012 (the “Settlement Agreement”). Pursuant to the Settlement Agreement, Xfone 018 agreed to compensate its current and past registered customers of international calling services (the “Services”) who called its telephone service center from July 4, 2004 until February 21, 2010, due to a problem in the Services, and were charged for such calls (the “Compensation”). The Compensation includes a right for a single, up to ten minutes, free of charge, international call to one landline destination around the world, and shall be valid for a period of six months. In addition, Xfone 018 agreed to pay Mr. Sharvit a one-time special reward in the amount of NIS 10,000 (approximately $2,549) (the “Reward”). Xfone 018 further agreed to pay Mr. Sharvit attorneys' fee for professional services in the amount of NIS 40,000 (approximately $10,196) plus VAT (the “Attorneys Fee”). In return, Mr. Sharvit and the members of the Represented Group (as defined in the Settlement Agreement) agreed to waive any and all claims in connection with the Class Action Request. As required by Israeli law in such cases, the Settlement Agreement is subject to the approval of the Israeli Court. On April 30, 2012, the Israeli Court appointed a CPA as an examiner to review and assess the Settlement Agreement (the “Examiner”). The Examiner was instructed to advise the Israeli Court whether in his opinion the Settlement Agreement is reasonable. The Examiner has not yet finalized his review and assessment.
On May 14, 2010, the Company entered into an agreement (including any amendment and supplement thereto, the “Agreement”) with Marathon Telecom Ltd. for the sale of our majority (69%) holdings in Xfone 018. Pursuant to Section 10 of the Agreement, we are fully and exclusively liable for any and all amounts, payments or expenses incurred by Xfone 018 as a result of the Class Action Request. Section 10 of the Agreement provides that we shall bear any and all expenses or financial costs which are entailed by conducting the defense on behalf of Xfone 018 and/or the financial results thereof, including pursuant to a judgment or settlement (it was agreed that in the event that Xfone 018 will be obligated to provide services at a reduced price, we shall bear only the cost of such services). Section 10 of the Agreement further provides that the defense by Xfone 018 shall be performed in full cooperation with us and with mutual assistance. It is agreed between us and Xfone 018 that subject to and upon the approval of the Settlement Agreement by the Israeli Court, we shall bear and/or pay: (i) the costs of the Compensation; (ii) the Reward; (iii) the Attorneys Fee; and (iv) Xfone 018 attorneys' fees for professional services in connection with the Class Action Request, estimated at approximately NIS 75,000 (approximately $19,118).
In the event the Settlement Agreement is not approved by the Israeli Court, Xfone 018 intends to vigorously defend the Class Action Request.
NTS, Inc. and Subsidiaries
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 2012
(Unaudited)
Note 8 – Legal proceedings (Cont.)
2. Danny Jay & Stephanie Tollison vs. NTS Communications, Inc.
On December 20, 2010, our wholly-owned subsidiary, NTS Communications, Inc. ("NTSC"), received a demand letter from Danny J. and Stephanie Tollison (the “Petitioners”) claiming $3 million in damages stemming from the search of Mr. Tollison’s home and his wife’s business by the FBI. The Petitioners alleged that the search was effected because of incorrect information provided by NTSC to the FBI pursuant to a subpoena. The investigation was dropped when the FBI was unable to find what they were looking for and identified another suspect.
On July 19, 2011, the Petitioners filed suit in 350th District Court of Taylor County, Texas seeking $5 million in economic and non-economic damages and asserting breach of contract, negligence, gross negligence, defamation, libel, invasion of privacy, and intentional infliction of emotional distress claims. NTSC has responded by filing a denial of all claims and a request to remove the case to the United States District Court for the Northern District of Texas on the basis that it involves a question of federal law. The request was denied and jury trial before the state court was scheduled for April 2013. NTSC’s insurance carrier has agreed to defend the suit and has referred the matter to counsel. NTSC anticipates that its insurance carrier will cover all costs and damages without any liability to NTSC.
FORWARD-LOOKING STATEMENTS
The information set forth in this Management's Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) contains certain “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, Section 21E of the Securities Exchange Act of 1934, as amended, and the Private Securities Litigation Reform Act of 1995, including, among others (i) expected changes in NTS, Inc.'s (referred to herein as the "Company", or "NTSI", "we", "our", "ours" and "us") revenues and profitability, (ii) prospective business opportunities and (iii) our strategy for financing our business. Forward-looking statements are statements other than historical information or statements of current condition. Some forward-looking statements may be identified by use of terms such as “believes”, “anticipates”, “intends” or “expects”. These forward-looking statements relate to our plans, objectives and expectations for future operations. Although we believe that our expectations with respect to the forward-looking statements are based upon reasonable assumptions within the bounds of our knowledge of our business and operations, in light of the risks and uncertainties inherent in all future projections, the inclusion of forward-looking statements in this Quarterly Report should not be regarded as a representation by us or any other person that our objectives or plans will be achieved.
You should read the following discussion and analysis in conjunction with the Condensed Consolidated Financial Statements and Notes attached hereto, and the other financial data appearing elsewhere in this Quarterly Report.
Our revenues and results of operations could differ materially from those projected in the forward-looking statements as a result of numerous factors, including, but not limited to, the following: the risk of significant natural disaster, the inability of the Company to insure against certain risks, inflationary and deflationary conditions and cycles, currency exchange rates, and changing government regulations domestically and internationally affecting our businesses.
US Dollars are denoted herein by “USD”, New Israeli Shekels are denoted herein by “NIS”, and the UK Pound Sterling is denoted herein by “GBP”.
OVERVIEW
NTS, Inc. (“NTSI”) was incorporated in the State of Nevada, U.S.A. in September 2000 under the name Xfone, Inc. We are a holding and managing company providing, through our subsidiaries, integrated communications services which include voice, video and data over our Fiber-To-The-Premise (“FTTP”) and other networks. We currently have operations in Texas, Mississippi and Louisiana. Effective as of February 1, 2012, the Company changed its name to “NTS, Inc.” and as of February 2, 2012 the Company's shares of Common Stock are traded on the NYSE MKT (f/k/a NYSE Amex) and the TASE under the new ticker symbol “NTS”. The name change is a reflection of our refined and enhanced business strategy which began with our acquisition of NTS Communications, Inc. (“NTSC”) in 2008 and its focus on the build out of our high-speed FTTP network.
Our principal executive offices are located in Lubbock, Texas.
Purchase of assets and liabilities of CoBridge Telecom, LLC
On April 25, 2011, NTSC entered into an Asset Purchase Agreement (the “Agreement”) with CoBridge Telecom, LLC, (“CoBridge”), pursuant to which CoBridge agreed to sell NTSC all of CoBridge’s assets in and around the communities of Colorado City, Levelland, Littlefield, Morton, and Slaton Texas pursuant to the terms of the Agreement. CoBridge provided cable television service in those communities via coaxial cable facilities and the Company acquired these assets to accelerate its penetration in these markets. As part of the transaction, NTSC also agreed to assume certain contracts of CoBridge which are necessary to continue operation of the assets that were acquired. The sale and purchase closed on July 1, 2011, but the purchase price was adjusted during November 2011 based on the number of CoBridge’s customers who failed to pay their accounts or cancelled service (offset by customers who converted to NTSC’s service in relevant markets). On July 24, 2012, NTSC and CoBridge agreed on the final purchase price of $962,970 and cost of $39,187 in connection with the provision of transition services to NTSC.
Purchase of assets and liabilities of Reach Broadband
On September 16, 2011, NTSC entered into an Asset Purchase Agreement (the “Agreement”) with RB3, LLC, and Arklaoktex, LLC, each doing business as Reach Broadband (“Reach”), pursuant to which Reach agreed to sell NTSC all of Reach’s assets in and around the communities of Abernathy, Anton, Brownfield, Hale Center, Idalou, Levelland, Littlefield, Meadow, New Deal, O’Donnell, Olton, Reese, Ropesville, Shallowater, Smyer, Tahoka, and Wolfforth Texas pursuant to the terms of the Agreement. Reach provided those communities with cable television service via coaxial cable facilities and Internet service via a wireless network and the Company acquired these assets to accelerate its penetration in these markets. The sale and purchase closed on December 1, 2011, but is subject to a purchase price adjustment based on the number of Reach’s customers who failed to pay their accounts or cancelled service (offset by customers who converted to NTSC’s service in relevant markets). The Company has not yet agreed on the final purchase price with Reach.
RESULTS OF OPERATIONS
Financial Information – Percentage of Revenues:
| | | Three months ended June 30, | | | Six months ended June 30, | |
| | | 2012 | | | 2011 | | | 2012 | | | 2011 | |
| Revenues: | | | | | | | | | | | | | | | | |
| Services on Fiber-To-The-Premise network | | | 29.9 | % | | | 21.6 | % | | | 28.6 | % | | | 21.1 | % |
| Leased local loop services and other | | | 70.1 | % | | | 78.4 | % | | | 71.4 | % | | | 78.9 | % |
| Total Revenues | | | 100 | % | | | 100 | % | | | 100 | % | | | 100 | % |
| | | | | | | | | | | | | | | | | |
| Expenses: | | | | | | | | | | | | | | | | |
| Cost of services (excluding depreciation and amortization) | | | 45.2 | % | | | 48.6 | % | | | 46.5 | % | | | 48.9 | % |
| Selling, general and administrative | | | 36.0 | % | | | 37.0 | % | | | 35.2 | % | | | 37.1 | % |
| Depreciation and amortization | | | 9.6 | % | | | 8.7 | % | | | 10.0 | % | | | 8.5 | % |
| Financing expenses, net | | | 7.4 | % | | | 12.2 | % | | | 8.5 | % | | | 11.5 | % |
| Other expenses | | | 1.3 | % | | | 1.0 | % | | | 1.2 | % | | | 1.0 | % |
| Total expenses | | | 99.5 | % | | | 107.5 | % | | | 101.4 | % | | | 107.0 | % |
| | | | | | | | | | | | | | | | | |
| Income (loss) before taxes | | | 0.5 | % | | | (7.5) | % | | | (1.4) | % | | | (7.0) | % |
| | | | | | | | | | | | | | | | | |
| Net Income (loss) | | | 0.5 | % | | | (5.8) | % | | | (0.9) | % | | | (5.1) | % |
COMPARISON OF THE SIX MONTH PERIODS ENDED JUNE 30, 2012 AND JUNE 30, 2011
Revenues. Revenues for the six month period ended June 30, 2012 increased by 5.8% to $30,008,388 from $28,356,374 for the same period in 2011. Revenues from our Fiber-To-The-Premise ("FTTP") network in the six months ended June 30, 2012 increased 43.4% to $8,585,772 from $5,986,561 in the same period in 2011. As a percentage of total sales, FTTP revenues in the six months period ended June 30, 2012 increased to 28.6% from 21.1% for the same period in 2011. The growth of FTTP revenues is expected to continue due to the progress in the build out of our FTTP network in the communities which are located in the areas of the PRIDE Network projects, a subsidiary of NTSC.
Revenues from our leased local loop include revenues from wholesale, other carriers and other non-FTTP customers. Revenues from leased local loop in the six month period ended June 30, 2012 decreased 4.2% to $21,422,616 from $22,369,813 for the same period in 2011. As a percentage of total sales, leased local loop revenues in the six month period ended June 30, 2012 decreased to 71.4% from 78.9% for the same period in 2011. The decrease in revenues was caused by the aggressive promotional packages and incentives launched by competitors and were partially offset with revenues from assets that were purchased from CoBridge and Reach. The transactions with CoBridge and Reach were closed on July 1, 2011 and December 1, 2011, respectively, and revenues from these assets were recorded from the closing date as non-FTTP revenues. We generated cable television services revenues of $1,166,638 from the acquisition of Cobridge and Reach’s assets in the West Texas area. We expect that the decline in revenues from non-FTTP residential customer will continue in the second half of 2012, but will be offset by the increase in revenues in FTTP from business and residential customers.
Cost of services (excluding depreciation and amortization). Cost of services consists primarily of facilities and traffic time purchased from other telephone companies and content for our video services. Cost of services for the six month period ended June 30, 2012 increased 0.6% to $13,942,930 from $13,861,304 for the same period in 2011. Cost of services, as a percentage of revenues in the six month period ended June 30, 2012, decreased to 46.5% from 48.9% in the same period in 2011. We expect that the cost of services, as a percentage of revenues, will decline as we increase the portion of revenues generated from our high-margin FTTP services. FTTP services are provided over our fully owned fiber network and therefore we do not incur third party costs for leased network lines. As the revenue mix changes towards higher percentage of the high-margin FTTP revenues and lesser percentage of the low-margin revenues from non-FTTP residential customers and wholesale, the cost of services, as a percentage of revenues, decline.
Selling, General and Administrative Expenses. Selling expenses consist primarily of compensation costs for our sales, administrative and management employees. Selling, general and administrative expenses for the six month period ended June 30, 2012 increased 0.4% to $10,573,283 from $10,527,967 for the same period in 2011. The increase in the expenses resulted mainly from an increase in compensation costs and sales commissions on new sales. We have redirected resources to support our growth in the FTTP markets and we have moved most of the construction and installation work to subcontractors. We expect that these changes will allow us to be more efficient on the construction work and reduce the payroll and payroll-related expenses in the second half of 2012.
Depreciation and amortization. Depreciation and amortization expenses for the six month period ended June 30, 2012, increased 24.6% to $2,986,441 from $2,396,463 for the same period in 2011. The increase was due to the large investments in the development of the FTTP networks.
Financing Expenses. Financing expenses, net, for the six month period ended June 30, 2012, decreased 21.3% to $2,560,936 from $3,252,694 for the same period in 2011. Financing expenses consist of interest payable on our financial obligations, and the measurement of the Bonds, which are stated in NIS and linked to the Israeli Consumer Price Index (the “CPI”). The decrease in financing expenses is a result of the appreciation of 2.7% in the USD against the NIS and adjustment to the inflation of 1.3% during the six month period ended June 30, 2012 versus a devaluation of 3.8% in the USD against the NIS and adjustment to the inflation of 2.2% in the same period in 2011. Financing expenses also include expenses related to warrants that were issued to Burlingame Equity Investors, LP ("Burlingame") during March 2010, and the difference between the allocated relative fair value and the principal amount of the March 2010 loan from Burlingame.
Other Expenses. Other expenses for the six month period ended June 30, 2012, increased 30.4% to $377,876 from $289,846 for the same period in 2011. Other expenses consist of real estate taxes. The increase in other expenses is due to the increase in property tax for PRIDE Network, Inc.
Income taxes. We conduct our business in several states in the US. Therefore, our operating income is subject to varying rates of state tax in the US. Consequently, our effective tax rate is dependent upon the geographic distribution of our earnings or losses. However, we expect that our income taxes will not materially vary in relation to the geographic distribution of our profits inside the US. Due to non-deductible compensation related to stock options and non-deductible amortization of intangible assets, our effective tax rate was 38.5% and 26.4% for the six month periods ended June 30, 2012 and 2011, respectively.
COMPARISON OF THE THREE MONTH PERIODS ENDED JUNE 30, 2012 AND JUNE 30, 2011
Revenues. Revenues for the quarter ended June 30, 2012, increased 6.9% to $15,084,559 from $14,099,156 for the same period in 2011. Revenues from our Fiber-To-The-Premise ("FTTP") network for the quarter ended June 30, 2012, increased 48.4% to $4,513,105 from $3,041,161 in the same period in 2011. As percentage of total sales, FTTP revenues in the quarter ended June 30, 2012 increased to 29.9% from 21.6% for the same period in 2011. The growth of FTTP revenues is expected to continue due to the progress in the build out of our FTTP network in the communities which are located in the areas of the PRIDE Network projects, a subsidiary of NTSC.
Revenues from our leased local loop include revenues from wholesale, other carriers and other non-FTTP customers. Revenues from leased local loop for the quarter ended June 30, 2012, decreased 4.4% to $10,571,454 from $11,057,995 for the same period in 2011. As percentage of total sales, leased local loop revenues in the quarter ended June 30, 2012 decreased to 70.1% from 78.4% for the same period in 2011. The decrease in revenues was caused by the aggressive promotional packages and incentives launched by the competitors and were partially offset with revenues from assets that were purchased from CoBridge and Reach. The transactions with CoBridge and Reach were closed on July 1, 2011 and December 1, 2011, respectively, and revenues from these assets were recorded from the closing date as non-FTTP revenues. We generated cable television services revenues of $567,128 from the acquisition of Cobridge and Reach’s assets in the West Texas area. We expect that the decline in revenues from non-FTTP residential customer will continue in the second half of 2012, but will be offset by the increase in revenues in FTTP from business and residential customers.
Cost of services (excluding depreciation and amortization). Cost of services consists primarily of facilities and traffic time purchased from other telephone companies and content for our video services. Cost of services for the quarter ended June 30, 2012, decreased 0.4% to $6,820,276 from $6,849,829 for the same period in 2011. Cost of services, as a percentage of revenues for the quarter ended June 30, 2012, decreased to 45.2% from 48.6% in the same period in 2011. We expect that the cost of services, as percentage of revenues, will decline as we increase the portion of revenues generated from our high-margin FTTP services. FTTP services are provided over our fully owned fiber network and therefore we do not incur third party costs for leased network lines. As the revenue mix changes towards higher percentage of the high-margin FTTP revenues and lesser percentage of the low-margin revenues from non-FTTP residential customers and wholesale, the cost of services, as a percentage of revenues, decline.
Selling, General and Administrative Expenses. Selling expenses consist primarily of compensation costs for our sales, administrative and management employees. Selling, general and administrative expenses for the quarter ended June 30, 2012, increased 4.3% to $5,436,522 from $5,210,519 for the same period in 2011. The increase in the expenses resulted mainly from an increase in compensation costs and sales commissions on new sales.
Depreciation and amortization. Depreciation and amortization expenses for the quarter ended June 30, 2012, increased 18.4% to $1,452,468 from $1,227,181 for the same period in 2011. The increase was due to the large investments in the development of the FTTP networks.
Financing Expenses. Financing expenses, net, for the quarter ended June 30, 2012, decreased 35.2% to $1,119,237 from $1,728,264 for the same period in 2011. Financing expenses consist of interest payable on our financial obligations, and the measurement of the Bonds, which are stated in NIS and linked to the Israeli CPI. The decrease in financing expenses is a result of the appreciation of 5.6% in the USD against the NIS and adjustment to the inflation of 1.3% during the quarter ended June 30, 2012 versus a devaluation of 1.9% in the USD against the NIS and adjustment to the inflation of 1.3% in the same period in 2011. Financing expenses also includes expenses related to warrants that were issued to Burlingame on March 2010, and the difference between the allocated relative fair value and the principal amount of the March 2010 loan from Burlingame.
Other Expenses. Other expenses for the quarter ended June 30, 2012, increased 25.2% to $179,207 from $143,114 for the same period in 2011. Other expenses consist of real estate taxes. The increase in other expenses is due to the increase in property tax for PRIDE Network, Inc.
Income taxes. We conduct our business in several states in the US. Therefore, our operating income is subject to varying rates of state tax in the US. Consequently, our effective tax rate is dependent upon the geographic distribution of our earnings or losses. However, we expect that our income taxes will not materially vary in relation to the geographic distribution of our profits inside the US. Due to non-deductible compensation related to stock options and non-deductible amortization of intangible assets, our effective tax rate was 5.4% and 22.8% for the quarters ended June 30, 2012 and 2011, respectively.
LIQUIDITY AND CAPITAL RESOURCES
Cash and cash equivalents as of June 30, 2012 amounted to $7,662,701, compared to $6,563,514 as of December 31, 2011, an increase of $1,099,187. Net cash provided by operating activities in the quarter ended June 30, 2012, was $1,300,318, a decrease of $560,901 compared to $1,861,219 which was provided by operating activities for the quarter ended June 30, 2011. The decrease in cash flow from operating activities is mostly related to the following changes in working capital: (1) an increase in accounts receivable of $693,773 for the quarter ended June 30, 2012 compared to an increase of $1,859,615 for the same period of 2011; (2) an increase in prepaid expenses and other receivables of $182,200 for the quarter ended June 30, 2012 compared to a decrease of $586,775 for the same period of 2011; (3) an increase in the provision for bad debt of $228,184 for the quarter ended June 30, 2012 compared to an increase of $245,798 for the same period of 2011; (4) a decrease in other liabilities and accrued expenses of $385,474 for the quarter ended June 30, 2012 compared to a decrease of $951,474 for the same period of 2011 and (5) a decrease in trade payables of $459,354 for the quarter ended June 30, 2012 compared to an increase of $1,695,438 for the same period of 2011. Cash used for investing activities for the quarter ended June 30, 2012, was $7,670,105 compared to $4,187,995 for the same period of 2011. Of that amount, $6,491,382 is attributable to the build out of our FTTP projects in Levelland, TX and the PRIDE Network projects and $1,178,723 to the purchase of other equipment compared to $2,825,992 and $1,367,003 for the same period of 2011. Net cash provided by financing activities for the quarter ended June 30, 2012, was $7,468,974 and is primarily attributable to proceeds from long-term loans from the United States Department of Agriculture which are offset by repayment of the long-term loans from the United States Department of Agriculture, capital lease obligations and short term loans from banks and others.
Capital lease obligations. We are the lessee of switching and other telecom equipment under capital leases expiring on various dates through 2016.
As of June 30, 2012, we reported a working capital deficit of $4,018,193 compared to a working capital deficit of $3,596,693 on December 31, 2011. On June 22, 2012 we entered into Amendment No. 1 to the Original ICON Agreement providing for an additional loan in the amount of $3,500,000 (“Term Loan”) and a second loan in the amount of $3,100,000 (“Delayed Draw Term Loan”). We used the proceeds of the Term Loan solely for the payment and satisfaction in full of all liabilities owed to Burlingame, including but not limited to the Burlingame Note. We will use the proceeds of the Delayed Draw Term Loan solely for the purchase of equipment in connection with our project to construct a fiber network in Wichita Falls, upon the request made by us prior to September 25, 2012. We believe that increased revenues from our higher margin Fiber-To-The-Premise network will result in increased profitability and cash flows, which will lead to improvement in the working capital deficit to meet our anticipated cash requirements for at least the next 12 months. If, however, we do not generate sufficient cash from operations, or if we incur additional unanticipated liabilities or we are unable to renew and/or extend a portion of our short-term liabilities, we may be required to seek additional financing or sell equity or debt on terms which may not be as favorable as we could have otherwise obtained. No assurance can be given that any refinancing, additional borrowing or sale of equity or debt will be possible when needed or that we will be able to negotiate acceptable terms. In addition, our access to capital is affected by prevailing conditions in the financial and equity capital markets, as well as our own financial condition. While management believes that we will be able to meet our liquidity needs for at least the next 12 months, no assurance can be given that we will be able to do so.
The following table represents our contractual obligations and commercial commitments, excluding interest expense, as of June 30, 2012:
| | | Payments Due by Period | |
| Contractual Obligations | | Total | | | Less than 1 Year | | | 1-3 Years | | | 4-5 Years | | | More than 5 Years | |
| | | | | | | | | | | | | | | | |
| Domestic Note Payable | | $ | 11,805,744 | | | $ | 996,516 | | | $ | 3,721,728 | | | $ | 7,087,500 | | | $ | - | |
| Notes Payable from the United States Department of Agriculture | | | 31,003,010 | | | | 1,432,136 | | | | 2,864,271 | | | | 2,864,271 | | | | 23,842,332 | |
| Bonds | | | 14,571,954 | | | | 3,760,858 | | | | 7,207,397 | | | | 3,603,699 | | | | - | |
| Capital leases | | | 820,717 | | | | 469,599 | | | | 339,009 | | | | 12,109 | | | | - | |
| Operating leases | | | 2,061,515 | | | | 1,294,854 | | | | 657,282 | | | | 109,379 | | | | - | |
| | | | | | | | | | | | | | | | | | | | | |
| Total contractual cash obligations | | $ | 60,262,940 | | | $ | 7,953,963 | | | $ | 14,789,687 | | | $ | 13,676,958 | | | $ | 23,842,332 | |
NTS, Inc.
The Series A Bonds
On December 13, 2007 (the “Date of Issuance”), we issued non-convertible bonds to Israeli institutional investors, for total gross proceeds of NIS 100,382,100 (approximately $25,562,032, based on the exchange rate as of December 13, 2007) (the “Series A Bonds”). The Series A Bonds were issued for an amount equal to their par value.
The Series A Bonds accrue annual interest that is paid semi-annually on the 1st of June and on the 1st of December of every year from 2008 until 2015 (inclusive). The principal of the Series A Bonds is repaid in eight equal annual payments on the 1st of December of every year from 2008 until 2015 (inclusive). The principal and interest of the Series A Bonds are linked to the Israeli CPI.
On November 4, 2008, we filed a public prospectus (the “Prospectus”) with the Israel Securities Authority and the TASE for listing of the Series A Bonds for trading on the TASE. On November 11, 2008 (the “Date of Listing”), the Series A Bonds commenced trading on the TASE. From the Date of Issuance until the Date of Listing, the Series A Bonds accrued annual interest at a rate of 9%. As of the Date of Listing, the interest rate for the unpaid balance of the Series A Bonds was reduced by 1% to an annual interest rate of 8%.
The Series A Bonds may only be traded in Israel. The Series A Bonds are currently rated Ba1 with a stable outlook by Midroog Limited, an Israeli rating company which is a subsidiary of Moody’s Investor Services ("Midroog").
On March 25, 2008, we issued the holders of the Series A Bonds, for no additional consideration, 956,020 (non-tradable) warrants, each exercisable at an exercise price of $2.04 (as adjusted in November 2011) with a term of 4 years, commencing on September 2, 2008.
Loan agreement with ICON Agent, LLC
On October 6, 2011, we entered into a term loan, guarantee and security agreement (the “ Original ICON Agreement”) between the following: (1) ICON Agent, LLC, acting as agent for the Lenders signatory thereto; (2) we, as Guarantor; (3) Xfone USA, Inc., NTS Communications, Inc., Gulf Coast Utilities, Inc., eXpeTel Communications, Inc., NTS Construction Company, Garey M. Wallace Company, Inc., Midcom of Arizona, Inc., Communications Brokers, Inc., and NTS Management Company, LLC, acting as Borrowers and Guarantors; and (4) PRIDE Network, Inc., and NTS Telephone Company, LLC (together with the Borrowers and Guarantors acting as Credit Parties).
On June 22, 2012 we entered into Amendment No. 1 to the Original ICON Agreement providing for:
| (i) | An additional Term Loan in the amount of $3,500,000, for the payment of all liabilities owed to Burlingame, |
| (ii) | A Delayed Draw Term Loan in the amount of $3,100,000, for the purchase of equipment in connection with the Company's project to construct a fiber network in Wichita Falls, upon the request made by the Company prior to September 25, 2012 and |
| (iii) | Certain other amendments to the Original ICON Loan as described in Amendment No. 1. |
As per the Amendment No. 1, the principal amount of the term loan (a “Closing Date Term Loan”) of $7,500,000 bearing interest of 12.75% per annum is payable in 68 consecutive monthly installments with the first 20 monthly payments being payments of accrued interest only. The principal amount of the term loan (an “Amendment Date Term Loan”) of $3,500,000 bearing interest of 12.75% per annum is payable in 60 consecutive monthly installments with the first 12 monthly payments being payments of accrued interest only. The loans are secured by a lien against all of each Borrower's and Guarantor's property and assets, whether real or personal, tangible or intangible, and whether now owned or hereafter acquired, or in which it now has or at any time in the future may acquire any right, title, or interest; such as all accounts, all deposit accounts, all other bank accounts and all funds on deposit therein; all money, cash and cash equivalents, all investment property, all stock (other than the publicly traded shares of Stock issued by NTSI), all goods (including inventory, equipment and fixtures), all chattel paper, documents and instruments, all Books and Records, all general intangibles (including all Intellectual Property, contract rights, choses in action, payment intangibles and software), all letter-of-credit rights, all commercial tort claims, all FCC Licenses, all supporting obligations provided, however, that none of the assets of PRIDE Network, Inc. and NTS Telephone Company, LLC are being used as collateral for the Loan and are specifically excluded. The fundings of the Closing Date Term Loan and Amendment Date Term Loan were made on October 27, 2011 and June 22, 2012 respetively.
On August 9, 2012, we entered into Amendment No. 2 to the Original ICON Agreement ("Amendment No. 2") providing for revised amortization schedules of the Closing Date Term Loan and the Amendment Date Term Loan. Please see the full text of Amendment No. 2, attached hereto as Exhibit 10.150.
We have to maintain a Fixed Charge Coverage Ratio of not less than 1.15 to 1.00 for the trailing four fiscal quarter period most recently ended if at any time cash is less than $3,000,000 as of the last day of any fiscal quarter. Pursuant to Amendment No. 1, Senior Leverage Ratio should not exceed 2.00 to 1.00 from June 30, 2012 through March 31, 2013, 1.75 to 1.00 from June 30, 2013 through December 31, 2013 and 1.50 to 1.00 from March 31, 2014 and thereafter.
The total outstanding amount of the loans as of June 30, 2012 is $11,000,000. As of June 30, 2012, there was no outstanding amount on the Delayed Draw Term Loan.
Securities Purchase Agreement
On March 23, 2010, we entered into a Securities Purchase Agreement (the “Purchase Agreement”) with an existing shareholder, Burlingame. As part of the Purchase Agreement, we issued a senior promissory note in the aggregate principal amount of $3,500,000, with a maturity date of March 22, 2012. Interest accrued at an annual rate of 10% and was payable quarterly. The note was not secured and had equal liquidation rights with our Series A Bonds issued in Israel on December 13, 2007. We evaluated the fair value of each of the three securities that were issued under the Purchase Agreement (i.e., the promissory note, 2,173,913 shares of our common stock, and a warrant to purchase 950,000 shares of our common stock) and recorded the promissory note at its fair value of $2,556,240. The difference between the fair value and the principal amount was expensed ratably over the life of the promissory note.
On May 2, 2011, we entered into a First Amendment to the Promissory Note, pursuant to which we and Burlingame agreed to extend the maturity date of the Promissory Note from March 22, 2012 to March 22, 2013.
The effective interest rate of the Promissory Note was calculated at 22.1%. The total amount of discount recognized for the six month period ended June 30, 2012 was $252,796. The outstanding principal amount of the Promissory Note of $3,500,000 (plus accrued interest) was paid off on June 22, 2012.
Subsequent events
Buy-back plan
Our Board adopted a buy-back plan (the “Plan”), effective as of February 13, 2012, according to which we may, from time to time, repurchase our Bonds which are traded on the TASE.
Under the Plan we are authorized to repurchase Series A Bonds for up to a total amount of NIS 5 million (approximately USD 1.35 million) in transactions on the TASE or outside the TASE, until December 31, 2012. Any repurchases of the Series A Bonds will be financed from our internal sources, as available from time to time. The Board has authorized our management (“Management”) to manage the performance of repurchases according to the Plan, including the conduct of negotiations, at such times, scopes, prices and other terms as Management deems fit. The timing, amounts and terms of any Series A Bonds repurchased by us will be determined, at the discretion of Management, based on market conditions and opportunities, economic advisability and other customary criteria and factors.
Repurchases of the Bonds may be carried out by us and/or our subsidiaries, either directly and/or through a third party. Bonds repurchased by us will be canceled and removed from trading on the TASE and will not be permitted to be reissued. The Board of Director's resolution is not a commitment to repurchase any Bonds under the Plan. The Plan may be suspended or discontinued by us at any time.
On July 4, 2012, NTSC, our wholly-owned subsidiary, purchased pursuant to the Plan, in a single transaction outside the TASE, NIS 1,339,310 in par value of Bonds at an aggregate purchase price of NIS 1,091,538 (approximately $278,596). Pursuant to the indenture governing the Bonds, any Bonds purchased by our subsidiary (as opposed to Bonds repurchased by us ourselves) are not canceled or removed from trading on the TASE.
Series A Bonds Rating
As of August 6, 2012, the Bonds are rated Ba1 with a stable outlook by Midroog.
US subsidiaries
NTS Telephone Company, LLC, a wholly owned subsidiary of NTSC has received approval from the Rural Utilities Service (“RUS”), a division of the United States Department of Agriculture, for an $11.8 million debt facility to complete a telecommunications overbuild project in Levelland, Texas. The principal of the RUS loan is repaid monthly starting one year from the initial advance date until full repayment after 17 years. The loan bears interest at the average yield on outstanding marketable obligations of the United States having the final maturity comparable to the final maturity of the advance. Advances are provided as the construction progresses, and the interest rate is set based upon the prevailing rate at the time of each individual advance. The note is non-recourse to NTSC and all other NTSC subsidiaries and is secured by NTS Telephone’s assets which were $13.7 million at June 30, 2012. As of June 30, 2012, the annual average weighted interest rate on the outstanding advances was 3.54%. The total aggregate amount of these loans as of June 30, 2012 is $9,953,550. The loans are to be repaid in monthly installments until 2024.
PRIDE Network, Inc., a wholly owned subsidiary of NTSC, received approval from the Broadband Initiative Program of the American Recovery and Reinvestment Act, for a total $99.9 million funding in form of $45.9 million in grants and $54 million in 19 to 20-year loans. The loans bear interest at the U.S. Treasury rate for comparable loans with comparable maturities. The funding will allow us to develop our FTTP infrastructure, known as the PRIDE Network projects, in northwestern Texas and further expand it to communities in southern Louisiana. Construction work of PRIDE Network's FTTP infrastructure started in October 2010. The total aggregate amount of these loans and grants as of June 30, 2012 is $21,049,460 and $17,107,108, respectively. The loans are non-recourse to NTSC and all other NTSC subsidiaries and are secured by PRIDE Network's assets which were $25.7 million at June 30, 2012. As of June 30, 2012, the annual average weighted interest rate on the outstanding advances was 3.24%. As of June 30, 2012, the total amount of loan and grant available in the future is $32,525,916 and $28,769,813, respectively.
On April 25, 2011, NTSC, our wholly-owned subsidiary, entered into an Asset Purchase Agreement (the “Agreement”) with CoBridge Telecom, LLC, (“CoBridge”), pursuant to which CoBridge agreed to sell NTSC all of CoBridge’s assets in and around the communities of Colorado City, Levelland, Littlefield, Morton, and Slaton Texas pursuant to the terms of the Agreement. The note was issued on July 1, 2011 and is payable in 36 equal monthly installments. The total outstanding amount of the note as of June 30, 2012 is $403,229.
On September 16, 2011, NTSC, our wholly-owned subsidiary, entered into an Asset Purchase Agreement (the “Agreement”) with RB3, LLC, and Arklaoktex, LLC, each doing business as Reach Broadband (“Reach”), pursuant to which Reach agreed to sell NTSC all of Reach’s assets in and around the communities of Abernathy, Anton, Brownfield, Hale Center, Idalou, Levelland, Littlefield, Meadow, New Deal, O’Donnell, Olton, Reese, Ropesville, Shallowater, Smyer, Tahoka, and Wolfforth Texas pursuant to the terms of the Agreement. The note was issued on December 1, 2011 and is payable in 36 equal monthly installments. The total outstanding amount of the note as of June 30, 2012 is $402,514.
IMPACT OF INFLATION AND CURRENCY FLUCTUATIONS
Following the divestiture of our UK and Israeli operations in summer 2010, all of our assets, liabilities (except the Series A Bonds), revenues and expenditures are in USD.
Notwithstanding having our Series A Bonds stated in NIS and linked to the Israeli CPI, during the six months ended June 30, 2012, our outstanding liability was decreased by approximately $212,108 as a result of the devaluation of the NIS in relation with the USD.
