UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q/A
(Amendment No. 1)
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE
ACT OF 1934 For the quarterly period ended June 30, 2002
or
[ ] TRANSACTION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934 For the transition period from to
Commission File Number 000-27095
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AVERY COMMUNICATIONS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 22-2227079
(State or other jurisdiction of (IRS Employer ID No.)
incorporation or organization)
190 SOUTH LASALLE STREET, SUITE 1710 60603
CHICAGO, ILLINOIS
(Address and principal executive offices) (Zip code)
(312) 419-0077
(Registrant's telephone number, including area code)
Check whether the Issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Securities Exchange Act during the preceding 12 months (or
for such shorter period that the registrant was required to file such reports),
and (2) has been subject to such filing requirements for the past 90 days. YES X
NO .
The number of shares outstanding of each of the issuer's classes of common
equity, as of June 30, 2002:
TITLE OF CLASS NUMBER OF SHARES OUTSTANDING
Common Stock, $.01 par value 1,083,853
AVERY COMMUNICATIONS, INC. AND SUBSIDIARIES
INDEX
PART I FINANCIAL INFORMATION PAGE
Item 1. Consolidated Financial Statements
Consolidated Balance Sheets - June 30, 2002
(unaudited) and December 31, 2001 1
Consolidated Statements of Operations - For the Three
and Six Months Ended June 30, 2002 and 2001 (unaudited) 3
Consolidated Statements of Cash Flows - For the Six
Months Ended June 30, 2002 and 2001 (unaudited) 4
Notes to Consolidated Financial Statements 5
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk 17
PART II OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K 17
Signatures 18
ITEM 1. AVERY COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
ASSETS
06/30/02 12/31/01
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(Unaudited)
Current assets:
Cash and cash equivalents $ 1,227,375 $ 5,422,202
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Accounts receivable:
Trade accounts and notes receivable, net of allowance for doubtful accounts of $242,901 2,374,317 3,231,166
Advance payment receivables 2,432,013 1,794,352
LEC billing and collection fees receivable 3,908,732 4,948,502
Receivable from OAN 2,178,571 2,113,056
Other receivables 200,000 94,376
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Total accounts receivable 11,093,633 12,181,452
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Deferred tax asset 1,641,517 1,090,690
Deposits with LECs 657,031 933,618
Other current assets 366,412 53,354
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Total current assets 14,985,968 19,681,316
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Property and equipment:
Computer equipment and software 5,832,963 5,718,172
Furniture and fixtures 491,415 500,003
Accumulated depreciation and amortization (1,905,565) (1,379,877)
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Property and equipment, net 4,418,813 4,838,298
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Other assets:
Goodwill, net 5,576,050 5,577,735
Investments - 30,100
Deposits with LECs 2,236,983 2,236,983
Purchased contracts, net of accumulated amortization of $345,213 and $339,996 at
June 30, 2002 and December 31, 2001 9,050 14,267
Notes receivable due from related parties, net of allowance of $1,210,800 352,700 752,700
Capitalized financing fees 684,073 718,299
Other assets 198,685 43,036
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Total other assets 9,057,541 9,373,120
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Total assets $ 28,462,322 $ 33,892,734
============= ============
The accompanying notes are an integral part of these consolidated financial
statements.
- 1 -
ITEM 1. AVERY COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS-(Continued)
Liabilities and Stockholders' Deficit
06/30/02 12/31/01
----------- -----------
(Unaudited)
Current liabilities:
Line of credit $ 5,511,245 $ 2,607,705
Trade accounts payable 859,854 1,084,575
Payable to OAN 1,115,679 1,755,464
Accrued liabilities 1,898,754 2,425,938
Current portion of customer cure liability 317,701 317,701
Income taxes payable - 163,994
Deposits and other payables related to customers 19,963,652 24,456,346
----------- -----------
Total current liabilities 29,666,885 32,811,723
----------- -----------
Non-current liabilities:
Long-term notes payable to related parties 680,681 680,681
Customer cure liability 1,398,697 1,576,021
----------- -----------
Total non-current liabilities 2,079,378 2,256,702
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Redeemable preferred stock:
Series A; $0.01 par value, 391,667 shares authorized, issued and
outstanding (liquidation preference of $391,667) 391,667 391,667
Series B; $0.01 par value, 390,000 shares authorized, issued and
outstanding (liquidation preference of $390,000) 390,000 390,000
Series C; $0.01 par value, 40,000 shares authorized, issued and
outstanding (liquidation preference of $40,000) 40,000 40,000
Series D; $0.01 par value, 1,500,000 shares authorized, issued and
and outstanding (liquidation preference of $1,500,000) 1,500,000 1,500,000
----------- -----------
Total redeemable preferred stock 2,321,667 2,321,667
----------- -----------
Commitments and contingencies
Stockholders' deficit:
Preferred stock:
Series G; $0.01 par value, 2,150,493 shares authorized, issued and
outstanding (liquidation preference of $21,505) 21,505 21,505
Series H; $0.01 par value, 1,600,000 shares authorized, issued and
outstanding (liquidation preference of $1,600,000) 16,000 16,000
Series I; $0.01 par value, 500,000 shares authorized, issued and
outstanding (liquidation preference of $500,000) 5,000 5,000
Common stock: $0.01 par value, 20,000,000 shares authorized, 1,267,955 issued 12,680 12,680
Additional paid-in capital 6,390,841 6,639,337
Accumulated deficit (11,652,657) (9,055,012)
Treasury stock, 184,102 and 60,271 shares at June 30, 2002 and December 31, 2001,
respectively, at cost (222,986) (58,440)
Subscription notes receivable (175,991) (1,078,428)
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Total stockholders' deficit (5,605,608) (3,497,358)
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Total liabilities and stockholders' deficit $ 28,462,322 $33,892,734
=========== ===========
The accompanying notes are an integral part of these consolidated financial
statements.
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AVERY COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE AND SIX MONTHS ENDED JUNE 30, 2002 AND 2001
(UNAUDITED)
Three Months Ended Six Months Ended
June 30, June 30,
----------------------------- ------------------------------
2002 2001 2002 2001
------------- -------------- -------------- ---------------
Revenues $ 10,335,759 $ 8,135,849 $ 21,515,420 $ 16,600,460
Cost of revenues (7,100,289) (5,830,411) (15,128,014) (11,666,801)
------------ ------------- ------------ -------------
Gross profit 3,235,470 2,305,438 6,387,406 4,933,659
Operating expenses (4,410,581) (1,405,807) (8,235,379) (3,126,996)
------------ ------------- ------------ -------------
Operating income (loss) (1,175,111) 899,631 (1,847,973) 1,806,663
------------ ------------- ------------ -------------
Other income (expense):
Interest expense (42,882) (99,702) (82,893) (114,447)
Option buyback costs - - - (88,378)
Write-off of receivables from related parties (1,200,000) (1,200,000) -
Other, net (6,229) 76,727 (130,100) 182,472
------------ ------------- ------------ -------------
Total other income (expense), net (1,249,111) (22,975) (1,412,993) (20,353)
------------ ------------- ------------ -------------
Income (loss) from continuing operations before
provision for income taxes and discontinued operations (2,424,222) 876,656 (3,260,966) 1,786,310
Income tax benefit (expense) 378,828 (302,865) 663,321 (733,732)
------------ ------------- ------------ -------------
Income (loss) from continuing operations (2,045,394) 573,791 (2,597,645) 1,052,578
Loss from discontinued operations (less applicable income
tax benefit of $311,799 for the six months ended
June 30, 2001) - - - (605,259)
------------ ------------- ------------ -------------
Net income (loss) $ (2,045,394) $ 573,791 $ (2,597,645) $ 447,319
============ ============= ============ =============
Net income (loss) attributable to common shareholders $ (2,168,586) $ 505,763 $ (2,844,029) $ 217,545
============ ============= ============ =============
Per share data:
Basic net income (loss) per share:
Continuing operations income (loss) $ (1.87) $ 0.40 $ (2.41) $ 0.64
Discontinued operations - - - (0.47)
------------ ------------- ------------ -------------
Net income (loss) $ (1.87) $ 0.40 $ (2.41) $ 0.17
============ ============= ============ =============
Diluted net income (loss) per share:
Continuing operations income (loss) $ (1.87) $ 0.23 $ (2.41) $ 0.39
Discontinued operations - - - (0.29)
------------ ------------- ------------ -------------
Net income (loss) $ (1.87) $ 0.23 $ (2.41) $ 0.10
============ ============= ============ =============
Weighted average number of common shares outstanding:
Basic common shares 1,157,975 1,264,408 1,178,441 1,285,632
============ ============= ============ =============
Diluted common shares 1,157,975 2,154,589 1,178,441 2,123,276
============ ============= ============ =============
The accompanying notes are an integral part of these consolidated financial
statements.
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AVERY COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE SIX MONTHS ENDED JUNE 30, 2002 AND 2001
(UNAUDITED)
Six Months Ended
June 30,
---------------------------------
2002 2001
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Cash flows from operating activities:
Net income (loss) $ (2,597,645) $ 447,319
Loss from discontinued operations - 605,259
Amortization of loan discounts - 4,140
Deferred income taxes (550,827) 18,351
Depreciation and amortization 530,905 280,533
Provision for uncollectible related party notes receivable 1,200,000 -
Option buyback costs - 88,378
Investment asset surrendered in exchange for royalty obligation 30,100 -
Change in operating assets and liabilities:
Trade accounts receivable 856,849 708,839
Advance payment receivables (637,661) (442,733)
Other current assets (313,058) (306,490)
Deposits 276,587 (116,563)
Other receivables 868,631 -
Trade accounts payable and accrued liabilities (1,400,504) (1,256,772)
Income taxes payable (163,994) 269,582
Deposits and other payables related to customers (4,670,018) (2,551,769)
Other assets (119,738) (386)
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Net cash used in continuing operations (6,690,373) (2,252,312)
Net cash provided by discontinued operations - 275,271
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Net cash used in operations (6,690,373) (1,977,041)
--------------- --------------
Cash flows from investing activities:
Purchase of property and equipment (106,203) (21,134)
Payment received on notes receivable - 13,308
Amounts loaned for notes receivable - (1,262,000)
Purchase of investments - (585,485)
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Net cash used in investing activities (106,203) (1,855,311)
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Cash flows from financing activities:
Redemption of preferred shares - (350,000)
Proceeds from line of credit 2,903,540 -
Purchase of options for cash - (215,000)
Acquisition costs - (290,622)
Purchase of treasury stock (53,295) (1,207,617)
Payment of preferred stock dividends (248,496) (154,884)
Issuance of shares of common and preferred stock for cash - 2,151,307
--------------- --------------
Net cash provided by (used in) financing activities 2,601,749 (66,816)
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Increase/(decrease) in cash (4,194,827) (3,899,168)
Cash at beginning of period 5,422,202 6,719,888
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Cash at end of period $ 1,227,375 $ 2,820,720
=============== ==============
Supplemental disclosures:
Interest paid $ 163,442 $ 114,045
=============== ==============
Income taxes paid $ - $ 134,000
=============== ==============
Schedule of non-cash financing activities:
Receipt of treasury stock in exchange for notes receivable $ 102,437 $ -
=============== ==============
The accompanying notes are an integral part of these consolidated financial
statements.
- 4 -
AVERY COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
NOTE 1. BASIS OF PRESENTATION
The accompanying unaudited financial statements of Avery Communications,
Inc. ("Avery") and subsidiaries (collectively, the "Company") have been prepared
in accordance with generally accepted accounting principles for interim
financial information. Accordingly, they do not include all of the information
and footnotes required by generally accepted accounting principles for complete
financial statements.
Management uses estimates and assumptions in preparing financial statements
in accordance with generally accepted accounting principles. Those estimates and
assumptions affect the reported amounts of assets and liabilities, the
disclosure of contingent assets and liabilities, and the reported amounts of
revenues and expenses. Actual results could vary from the estimates that were
used.
Certain prior period amounts have been reclassified to conform to the 2002
presentation.
In the opinion of management, all adjustments (consisting of normal
recurring adjustments) considered necessary for a fair presentation have been
included. Operating results for the three-month and six-month periods ended June
30, 2002 are not necessarily indicative of the results that may be expected for
the year ending December 31, 2002.
NOTE 2. LIQUIDITY
Avery has incurred a net loss of $2.6 million during the six months ended
June 30, 2002, which includes a $1.2 million write off of notes receivable from
related parties. The Company also used $6.7 million of cash in operating
activities over the same period. The Company anticipates that it will achieve
profitability by the fourth quarter of 2002, based upon cost reductions achieved
through consolidation of operations. The Company expects that the consolidation
of operations will be completed in the third quarter of 2002.
Additionally, Avery's working capital position at June 30, 2002 was a
negative $14.7 million, compared to a negative $13.1 million at December 31,
2001. The Company can operate with negative working capital, because a
significant portion of its current liabilities do not need to be paid in the
near future. For example, current liabilities at June 30, 2002 include
approximately $7 million of deposits from customers which are not typically
refunded in the ordinary course of business. The customer deposits would be
refundable over time only if the customer were to significantly reduce the
volume of business done with the Company or terminate its relationship. Avery
has not historically experienced any material loss of customers in its business.
- 5 -
NOTE 3. NET INCOME (LOSS) PER COMMON SHARE
Basic and diluted net income (loss) per share are computed by dividing the
net income (loss), less preferred stock dividends earned of $123,192 and $68,028
for the three month periods and $246,384 and $229,774 for the six month periods
ended June 30, 2002 and 2001, respectively, by the weighted average number of
shares of common stock outstanding during the respective periods. The effect of
the preferred stock dividend on the basic income (loss) per common share was
$0.11 and $0.05 per weighted average common share outstanding for the three
month periods and $0.22 and $0.18 for the six month periods ended June 30, 2002
and 2001, respectively.
Diluted net income per share includes the effect of all dilutive options,
warrants and instruments convertible into common stock. Diluted net loss per
share equals basic loss per share because of the anti-dilutive effect of
outstanding options, warrants and instruments convertible into common stock.
NOTE 4. DISCONTINUED OPERATIONS
On August 1, 2000, the Board of Directors of Avery approved the spin-off of
Primal Solutions, Inc. ("PSI").
On February 12, 2001, Avery distributed 100% of the outstanding capital
stock of PSI to its security holders. Accordingly, as of such date, Avery had no
further ownership interest in Primal or its subsidiary, Wireless Billing
Systems.
As part of the formal distribution, the seven PSI stockholders at the time
of the Company's acquisition of PSI redeemed 4,976,401 shares of the Company's
Series G voting preferred stock in exchange for 32% of PSI's capital stock.
Also, the exercise prices of Avery's outstanding options and the conversion
prices of Avery's convertible securities were adjusted to reflect the
distribution. After the transaction was completed, Avery's outstanding Series G
preferred stock was reduced to 2,150,493 shares.
The financial information contained in this document presents PSI as a
discontinued operation due to the spin-off. Accordingly, the amounts in the
statements of operations through the provision for income taxes exclude expenses
relating to PSI.
The operating results of PSI for the period January 1, 2001 to February 12,
2001 were as follows:
- 6 -
Period January 1,
2001 to February
12, 2001
------------------
Operating revenues $ 825,417
Cost of revenues (598,792)
------------------
Gross profit 226,625
Selling, general and administrative expenses (1,127,751)
------------------
Loss from operations (901,126)
Other Expense (15,932)
------------------
Loss before income tax benefit (917,058)
Income tax benefit 311,799
------------------
Net loss $ (605,259)
==================
NOTE 5. CERTAIN TRANSACTIONS
On March 9, 2001, HBS' largest customer, which accounted for 57% of its
call records processed in 2000 and 55% of all call records processed during
2001, filed a voluntary petition for protection under Chapter 11 of the U. S.
Bankruptcy Code in connection with the reorganization of its parent company. The
customer's volume of call records processed has declined since the bankruptcy
filing, but the decline in volume is believed to be attributable to general
industry trends. For the first six months of 2002, the customer accounted for
62% of all call records processed, compared to 65% during the same period of
2001. As of July 31, 2002, the filing has had no material adverse effect on HBS'
business relationship with this customer, and, based upon conversations between
the managements of the two companies, the Company does not presently anticipate
that the filing will materially adversely affect the relationship with this
company in the immediate future.
In connection with our purchase of assets from Qorus.com, Inc. ("Qorus") in
November 2001, the Company agreed to pay Qorus an amount equal to five percent
(5%) of the net after-tax income, if any, generated by the acquired intelligent
message communications service business for a period of five years following the
closing date. Pursuant to an agreement among the parties entered into in March
2002, Qorus agreed to eliminate this royalty obligation in exchange for the
Company's (i) cash payment in the amount of $100,000, (ii) return of all
3,010,000 common shares of Qorus held by the Company; and (iii) agreement to
cancel all unexercised options to purchase 1,066,500 common shares of Qorus at a
price of $0.01 per share. At December 31, 2001, the investment in Qorus was
recorded in the Company's financial statements at $30,100. During the first
quarter of 2002, the Company recorded an expense of $130,100 in connection with
this transaction.
On January 3, 2002, the Company advanced the sum of $200,000 to Norlenton
Investments, a shareholder of the Company, in exchange for a promissory note.
The note bears interest at 6% and calls for the repayment of all principal and
interest on January 3, 2003. The advance is secured by 38,881 shares of common
stock in the Company.
In October 2000, in order to permit its employees to participate in the PSI
spin-off, the Board of Directors of the Company authorized the Company to
accelerate all its outstanding options and to loan its employees, on a secured
but non-recourse basis, the amount required to exercise such options, plus an
additional amount to offset the tax consequences of such exercises. The loans,
which were classified as stock subscriptions receivable, were secured by the
stock acquired by the employees upon exercise of their options. At December 31,
2001, the
- 7 -
aggregate of subscription notes receivable was $1,078,428. During the second
quarter of 2002, the Company established an $800,000 reserve against the
subscription notes receivable, based on the excess of the amount owed over the
fair market value of the underlying stock.
Effective March 20, 2002, pursuant to a unanimous written consent of the
Company's Directors, the Company formally acknowledged that certain promissory
notes aggregating $685,118 received from executive officers and/or directors in
October 2000, in connection with the exercise of stock options, were intended by
the Company and the various borrowers at the time of the transaction to be
non-recourse loans secured solely with the common stock issued pursuant to the
stock option exercise. The originally issued notes, however, were issued without
the intended non-recourse language. In July 2002, new notes which clarified the
notes as secured and non-recourse were exchanged for the previously issued
notes.
In connection with the spin-off of PSI, the Company advanced certain former
PSI stockholders $1,563,500 on July 31, 2000 in exchange for promissory notes.
The notes are non-recourse, bear interest at 6.6% per annum and were originally
due on July 31, 2002. Pursuant to the terms of an assignment of a portion of the
notes in January 2002, the maturity date on $963,810 of such notes was extended
to July 31, 2006. The loans are secured by the Company's 2,150,493 shares of
non-dividend bearing Series G preferred stock (which is convertible into 300,048
shares of the Company's common stock). During the third quarter of 2001, the
Company established a reserve of $810,000 against those notes receivable, due to
the excess of the amount due over the stock value. During the second quarter of
2002, the Company added $400,000 to the reserve based upon a further decline in
the stock value.
During the first six months of 2002, the Company has purchased a total of
32,000 shares of the Company's common stock in open market transactions at an
average purchase price of $1.67 per share.
NOTE 6. COMMITMENTS AND CONTINGENCIES
The Company is involved in various claims, legal actions and regulatory
proceedings arising in the ordinary course of business. The Company believes it
is unlikely that the final outcome of any of the claims or proceedings to which
the Company is a party will have a material adverse effect on the Company's
financial position or results of operations; however, due to the inherent
uncertainty of litigation, there can be no assurance that the resolution of any
particular claim or proceeding would not have a material adverse effect on the
Company's results of operations for the fiscal period in which such resolution
occurred.
NOTE 7. OAN and AELIX TRANSACTIONS
The Company, through its wholly owned subsidiary, ACI Billing Services,
Inc. ("ACI"), completed the acquisition of certain assets from OAN Service, Inc.
("OAN") in August 2001. The Company completed its acquisition of substantially
all of the assets of Aelix, Inc. ("Aelix") in November 2001. Unaudited pro forma
financial information for the six months ended June 30, 2001 as though the OAN
and Aelix acquisitions had occurred on January 1, 2001 is as follows:
- 8 -
Six months
ended
June 30, 2001
--------------
Revenue $ 32,059,904
Net loss from continuing operations (6,787,049)
Net loss from continuing operations:
Basic $ (5.28)
Diluted $ (5.28)
NOTE 8 - SEGMENT INFORMATION
The local exchange carrier billing segment represents the third party
billing clearinghouses for the telecommunications industry. These third party
clearinghouses process these telephone call records and other transactions and
submit them to local telephone companies for inclusion in their monthly bills to
end-users. The intelligent message communication services segment represents the
intelligent message communications services to enterprises, notably in the
travel, hospitality and transportation sectors.
A summary of the segments' operating income for the six-month period ended
June 30, 2002 and certain balance sheet data as of June 30, 2002 is as follows:
Local Exchange Intelligent Message Corporate
Carrier Billing Communications Administration Consolidated
Revenue $ 21,203,254 $ 312,166 $ - $ 21,515,420
Depreciation and Amortization 468,439 61,800 666 530,905
Segment profit (loss) 301,423 (686,702) (2,212,366) (2,597,645)
Segment assets 18,853,472 4,641,783 4,967,067 28,462,322
Capital expenditures by 106,203 - - 106,203
segment
The intelligent message communication service business was acquired in
November 2001. Accordingly, there was only one continuing segment during the six
months ended June 30, 2001. Approximately $1.2 million of Avery's corporate
office expenses have been allocated to the local exchange carrier billing
segment based on services provided to that segment.
NOTE 9. REVERSE STOCK SPLIT
The stockholders of the Company approved a 1-for-8 reverse split of the
Company's common stock, which was effective on December 12, 2001. Shares
outstanding and earnings per share during periods before the reverse stock split
have been restated to reflect the split.
NOTE 10. GOODWILL
Financial Accounting Standard No. 142 "Goodwill and Other Intangible
Assets" requires that goodwill recorded on acquisitions completed prior to July
1, 2001 be amortized through December 31, 2001. Effective January 1, 2002,
goodwill is no longer to be amortized in periodic equal pre-determined charges,
but will instead be tested for impairment as set forth in the statement. The
Company adopted this statement effective January 1, 2002.
The net effect of not recording any amortization of goodwill reduced the
net loss by approximately $40,000 for the three months ended June 30, 2002 and
approximately $80,000 for the six moths ended June 30, 2002 ($0.03 per share and
$0.06 per share, respectively). If the statement had been applied effective at
the beginning of the three-month period ended June 30, 2001, net income would
have increased approximately $40,000, resulting in net income of $614,167 ($0.43
per share, basic and $0.25 per share, diluted). If the statement had been
applied effective at the beginning of the six-month period ended June 30, 2001,
net income from continuing operations and net income would have increased by
approximately $80,000, which would have resulted in net income from continuing
operations of $1,133,330 ($0.70 per share, basic and $0.43 per share, diluted),
and net income of $528,071 ($0.23 per share, basic and $0.14 per share,
diluted).
The Company has two segments which correspond with its two reporting units,
the local exchange carrier billing segment and the intelligent message
communications segment. Goodwill recorded on the Company's financial statements
includes $2.5 million within the local exchange carrier billing segment and $3.1
million within the intelligent message communication segment.
The Company obtained an independent valuation of the intelligent message
communication segment during the second quarter of 2002, updating a valuation
obtained to support the Company's initial purchase price allocation. This
business valuation supports the related goodwill carried on the Company's
financial statements. On the basis of the independent valuation and the judgment
of management, the Company concluded that there is no impairment of goodwill for
this segment.
The Company intends annually, on a going forward basis, to evaluate the
goodwill of its intelligent message communications segment during the fourth
quarter of each year. Accordingly, this goodwill impairment review process will
be completed again during the fourth quarter of 2002 using an enterprise value
methodology. If the fair market value of the business is less than the carrying
value, the Company will complete the impairment test to specifically identify
the goodwill impairment amount.
In connection with its local exchange carrier billing segment, the Company
has completed its initial assessment of the business value by comparing its
estimate of fair value to the carrying amount and has concluded that the fair
value of this segment exceeds its carrying value. The Company intends annually,
on a going forward basis, to evaluate the goodwill of its local exchange carrier
billing segment during the fourth quarter of each year. Accordingly, this
goodwill impairment review process will be completed again during the fourth
quarter of 2002 using an enterprise value methodology. If the fair market value
of the business is less than the carrying value, the Company will complete the
impairment test to specifically identify the goodwill impairment amount.
- 9 -
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
ITEM 2.
General
Avery is a telecommunications service company which operates two lines of
business. Through its HBS and ACI subsidiaries, Avery provides billing and
collection services for inter-exchange carriers and long-distance resellers.
Through its Aelix subsidiary, Avery provides intelligent message communication
services to the travel, hospitality and transportation sectors.
The Company's billing and collection service operates as a clearinghouse.
Customers, principally long distance service resellers, submit their billing
records to us. We aggregate those records from all of our customers and present
them to local exchange carriers, such as regional Bell operating companies. The
local exchange carriers include the submitted charges on monthly phone bills
sent to end-users. The local exchange companies remit collected funds to us,
generally 45 to 60 days after we submit our customers' billing records to them.
We then remit such funds to our customers, after withholding our fees and other
expenses.
Our intelligent message communication service allows us to accept and
deliver messages, via voice, e-mail or fax, between our customers and any
individual or group of people (customers, suppliers, employees, etc.) on an
expedited basis. Examples of the types of services we offer are the following:
o Confirm ticket reservations
o Confirm hotel reservations
o Solicit bids for transportation services
Generally, we charge a per-message fee to our intelligent message communication
service customers.
Forward Looking Statements
This Quarterly Report on Form 10-Q contains certain "forward-looking"
statements as such term is defined in the Private Securities Litigation Reform
Act of 1995 and information relating to the Company that are based on the
beliefs of the Company's management as well as assumptions made by and
information currently available to the Company's management. When used in this
report, the words "anticipate," "believe," "estimate," "expect" and "intend" and
words or phrases of similar import, as they relate to the Company or its
subsidiaries or Company management, are intended to identify forward-looking
statements. Such statements reflect the current risks, uncertainties and
assumptions related to certain factors including, without limitation,
competitive factors, general economic conditions, customer relations,
relationships with vendors, the interest rate environment, governmental
regulation and supervision, seasonality, distribution networks, product
introductions and acceptance, technological change, changes in industry
practices, onetime events and other factors
- 10 -
described herein and in other filings made by the Company with the Securities
and Exchange Commission. Based upon changing conditions, should any one or more
of these risks or uncertainties materialize, or should any underlying
assumptions prove incorrect, actual results may vary materially from those
described herein as anticipated, believed, estimated, expected or intended. The
Company does not intend to update these forward-looking statements.
GENERAL
The following is a discussion of the consolidated financial condition and
results of operations of the Company for the three and six-month periods ended
June 30, 2002 and 2001. It should be read in conjunction with the Consolidated
Financial Statements of the Company, the notes thereto and other financial
information included elsewhere in this report, and the Company's Annual Report
on Form 10-KSB for the year ended December 31, 2001. For purposes of the
following discussion, references to year periods refer to the Company's fiscal
year ended December 31 and references to quarterly periods refer to the
Company's fiscal three month periods ended June 30, 2002 and 2001.
The results of operations in 2002 include the activities of ACI, which
purchased the assets of OAN in August 2001, and the activities of Aelix, which
was purchased in November 2001.
The results on the "Discontinued operations" lines during the first six
months of 2001 relate to PSI, a wholly owned subsidiary that was spun-off in
February 2001. All discussions relating to revenue, cost of revenues and
operating expenses pertain only to continuing operations, which consist of
Avery, HBS, ACI and Aelix.
RESULTS OF OPERATIONS
The following table presents certain items in the Company's Consolidated
Statements of Operations for the three and six months ended June 30, 2002 and
2001:
------------------------------ ------------------------------
Three Months Ended Six Months Ended
June 30, June 30,
------------------------------ ------------------------------
2002 2001 2002 2001
------------- --------------- ------------- ---------------
(In Thousands) (In Thousands)
(Unaudited) (Unaudited)
Revenues $ 10,335 $ 8,136 $ 21,515 $ 16,600
Cost of revenues (7,100) (5,830) (15,128) (11,667)
------------ ------------- ------------ -------------
Gross profit 3,235 2,306 6,387 4,933
Operating expenses (4,108) (1,265) (7,709) (2,846)
Depreciation and amortization 302 141 526 281
------------ ------------- ------------ -------------
Operating income (loss) (1,175) 900 (1,848) 1,806
Other income (expense), net (1,249) (23) (1,413) (20)
Income tax benefit (expense) 379 (303) 663 (734)
Discontinued operations loss - - - (605)
------------ ------------- ------------ -------------
Net income (loss) $ (2,045) $ 574 $ (2,598) $ 447
============ ============= ============ =============
THREE MONTHS ENDED JUNE 30, 2002 COMPARED TO THREE MONTHS ENDED JUNE 30,
2001
Operating Revenues
The Company's revenues are derived primarily from the provision of billing
clearinghouse and information management services to direct dial long distance
carriers and operator services providers ("Local Exchange Carrier billing" or
"LEC billing"). To a lesser extent, revenues are also derived from enhanced
billing services provided to companies that
- 11 -
offer voice mail, paging and Internet services or other non-regulated
telecommunications equipment and services, and from electronic messaging
services provided by Aelix. LEC billing fees charged by the Company include
processing and customer service inquiry fees. Processing fees are assessed to
customers either as a fee charged for each telephone call record or other
transaction processed or as a percentage of the customer's revenue that is
submitted by the Company to local telephone companies for billing and
collection. Processing fees also include any charges assessed to the Company by
local telephone companies for billing and collection services that are passed
through to the customer. Customer service inquiry fees are assessed as a fee
charged for each billing inquiry made by end users.
Total revenue for the three months ended June 30, 2002 was $10.3 million,
up $2.2 million or 27.0% from the comparable quarter in 2001. Revenue included
in this period for the acquired ACI and Aelix business units were $4.5 million
and $0.2 million, respectively. Excluding revenue generated by ACI and Aelix,
the Company's revenue would have declined by 30.6%, reflecting a 26.4% decrease
in records processed and competitive pricing. The decline in call records
processed reflects increased consumer usage of cell phones and prepaid phone
cards to make long distance calls. Call records for neither cell phones nor
prepaid phone cards are typically processed through a billing clearinghouse.
Additionally, some of the local exchange companies have begun to offer long
distance service, which reduces the market share of the network resellers who
typically use clearinghouse services.
The Company is pursuing additional sources of revenue to supplement its LEC
billing business. The additional sources of revenue can arise from acquisitions
or internal growth. In general, the Company intends to make acquisitions or
expand into markets which will leverage the Company's existing infrastructure.
Cost of Revenues
Cost of revenues includes billing and collection fees charged to the
Company by local telephone companies and related transmission costs, as well as
all costs associated with the customer service organization, including staffing
expenses and costs associated with telecommunications services. Billing and
collection fees charged by the local telephone companies include fees that are
assessed for each record submitted and for each bill rendered to its end-user
customers. The Company achieves discounted billing costs due to its aggregated
volumes and can pass these discounts on to its customers. Cost of revenues also
includes $0.1 million of costs relating to the Aelix business unit.
The Company's gross profit margin in the second quarter of 2002 was 31.3%,
compared to 28.3% in the second quarter of 2001. The increase in gross margin
principally reflects the inclusion of ACI in the 2002 financial results and
reduction in costs attributable to a consolidation of operations into a single
location during the second quarter of 2002. ACI has historically achieved a
higher gross margin level than HBS.
- 12 -
Operating Expenses
Operating expenses are comprised of all selling, marketing and
administrative costs incurred in direct support of the business operations of
the Company. Operating expenses for the second quarter of 2002 were $4.4
million, compared to $1.4 million in the second quarter of 2001. The increase in
operating expenses was attributable to the inclusion, in the second quarter of
2002, of operating expenses of ACI totaling $2.1 million and Aelix totaling $0.6
million. Excluding the effect of the acquired businesses, operating expenses in
2002 would have been $1.7 million, reflecting one-time termination and
redundancy costs associated with the consolidation of our two LEC billing
business units.
Depreciation and Amortization
Depreciation and amortization expense for the three months ended June 30,
2002 and 2001 was $307,236 and $140,717 respectively. The increase was due to
depreciation and amortization expenses associated with fixed assets of ACI and
Aelix, offset by the absence of amortization expense for goodwill during the
second quarter of 2002, pursuant to the provisions of Statement of Financial
Accounting Standards No. 142, "Goodwill and Other Intangible Assets" (see Note
10 to Consolidated Financial Statements).
Other Income (Expense), Net
Other income (expense), net, in the second quarter of 2002 was an expense
of $1.2 million compared to an expense of $22,975 during the second quarter of
2001. Other expense in the second quarter of 2002 principally consisted of $1.2
million of charges relating to increases in reserves for non-recourse notes
receivable and stock subscription notes receivable. The increase in the reserve
was deemed appropriate in light of a decline in the value of the underlying
stock for the non-recourse notes (see Note 5 to Consolidated Financial
Statements).
Income Taxes
An income tax benefit of $378,828 was recorded for the second quarter of
2002 compared to an expense of $302,865 in the second quarter of 2001. The
income tax benefit in the second quarter of 2002 differs materially from the
expected income benefit primarily because of items permanently not deductible
for income tax reporting purposes.
SIX MONTHS ENDED JUNE 30, 2002 COMPARED TO SIX MONTHS ENDED JUNE 30, 2001
Total revenue for the six months ended June 30, 2002 was $21.5 million, up
$4.9 million or 29.6% from the comparable period in 2001. Revenues included in
the first six months of 2002 for the acquired ACI and Aelix business units were
$9.6 million. Excluding revenue generated by ACI and Aelix, the Company's
revenue would have declined by 28.0%, reflecting a 23.7% decrease in records
processed and competitive pricing. The decline in call records processed
reflects increased consumer usage of cell phones and prepaid phone cards to make
long distance calls. Call records for neither cell phones nor prepaid phone
cards are typically
- 13 -
processed through a billing clearinghouse. Additionally, some of the local
exchange companies have begun to offer long distance service, which reduces the
market share of the network resellers who typically use clearinghouse services.
The Company is pursuing additional sources of revenue to supplement its LEC
billing business. The additional sources of revenue can arise from acquisitions
or internal growth. In general, the Company intends to make acquisitions or
expand into markets which will leverage the Company's existing infrastructure.
Cost of Revenues
Cost of revenues includes billing and collection fees charged to the
Company by local telephone companies and related transmission costs, as well as
all costs associated with the customer service organization, including staffing
expenses and costs associated with telecommunications services. Billing and
collection fees charged by the local telephone companies include fees that are
assessed for each record submitted and for each bill rendered to its end-user
customers. The Company achieves discounted billing costs due to its aggregated
volumes and can pass these discounts to its customers. Cost of revenues also
includes $0.2 million of costs relating to the Aelix business unit.
The Company's gross profit margin in the first six months of 2002 was
29.7%, which was equal to the gross margin earned during the same period in
2001. The stable gross profit margin reflects the inclusion of ACI in the 2002
financial results, offset by a competitive pricing environment in 2002. ACI has
historically achieved a higher gross margin level than HBS.
Operating Expenses
Operating expenses are comprised of all selling, marketing and
administrative costs incurred in direct support of the business operations of
the Company. Operating expenses for the first six months of 2002 were $8.2
million, compared to $3.1 million in the first quarter of 2001. The $5.1million
increase in operating expenses is attributable to the inclusion, in the first
six months of 2002, of operating expenses for ACI and Aelix totaling $4.9
million. Excluding the effect of the acquired businesses, operating expenses in
2002 would have been $3.3 million, which would have been $0.2 million higher
than operating expenses in the first six months of 2002. Operating expenses in
2002 were adversely affected by staffing redundancies, travel, severance and
other costs associated with the consolidation of operations into a single
facility.
Depreciation and Amortization
Depreciation and amortization expense for the six months ended June 30,
2002 and 2001 was $530,905 and $280,533, respectively. The increase was due to
depreciation and amortization expenses associated with fixed assets of ACI and
Aelix, offset by the absence of amortization expense for goodwill during the
first six months of 2002, pursuant to the provisions of Statement of Financial
Accounting Standards No. 142, "Goodwill and Other Intangible Assets" (see Note
10 to Consolidated Financial Statements).
- 14 -
Other Income (Expense), Net
Other income (expense), net, in the first six months of 2002 was an expense
of $1.4 million, compared to an expense of $20,353 during the first six months
of 2001. The increase in expense during 2002 is largely attributable to $1.2
million of charges relating to increases in reserves for non-recourse notes
receivable and stock subscription notes receivable. The increase in the reserve
was deemed appropriate in light of a decline in the value of the stock which
serves as collateral for the non-recourse notes (see Note 5 to Consolidated
Financial Statements). Additionally, the Company recorded $130,100 of expense
during the first six months of 2002 in connection with the Company's agreement
with Qorus to relieve the Company of any future royalty obligation to Qorus in
exchange for the Company's cash payment of $100,000, the Company's surrender of
3,010,000 common shares of Qorus and the Company's waiver of its right to
purchase up to 1,066,500 shares of Qorus common stock for $0.01 per share.
Income Taxes
An income tax benefit of $663,321 was recorded for the first six months of
2002 compared to an expense of $733,732 (from continuing operations) in the
first six months of 2001. The income tax benefit in 2002 differs materially from
the expected income benefit primarily because of items permanently not
deductible for income tax reporting purposes.
Loss from Discontinued Operations
The Company's loss from discontinued operations, net of tax benefits, was
$605,259 for the six months ended June 30, 2001. The loss relates to PSI, which
was spun-off on February 12, 2001 (see Note 4 to Consolidated Financial
Statements).
LIQUIDITY AND CAPITAL RESOURCES
Avery's cash balance at June 30, 2002 was $1.2 million, compared to $5.4
million at December 31, 2001. Fluctuations in daily cash balances are normal due
to the large amount of customer receivables that we collect and process on
behalf of our customers. We receive money daily from local exchange carriers,
but we ordinarily disburse such collected funds to our customers once each week
on Fridays. Accordingly, our cash balance is generally at its highest level on
Thursdays and its lowest level on Fridays. The cash balance at June 30, 2002
reflected the Company's cash position at the close of business on Friday, June
28, 2002.
Avery has incurred a net loss of $2.6 million during the six months ended
June 30, 2002, which includes a $1.2 million write off of notes receivable from
related parties. The Company also used $6.7 million of cash in operating
activities over the same period. The Company anticipates that it will achieve
profitability by the fourth quarter of 2002, based upon cost reductions achieved
through consolidation of operations. The Company expects that the consolidation
of operations will be completed in the third quarter of 2002.
- 15 -
Additionally, Avery's working capital position at June 30, 2002 was a
negative $14.7 million, compared to a negative $13.1 million at December 31,
2001. The Company can operate with negative working capital, because a
significant portion of its current liabilities do not need to be paid in the
near future. For example, current liabilities at June 30, 2002 include
approximately $7 million of deposits from customers which are not typically
refunded in the ordinary course of business. The customer deposits would be
refundable over time only if the customer were to significantly reduce the
volume of business done with the Company or terminate its relationship. Avery
has not historically experienced any material loss of customers in its business.
The Company also maintains a $6 million working capital line of credit to meet
peak cash demands. At June 30, 2002, the Company had $0.5 million available
under this credit line.
Cash flow from operating activities. Net cash used in operating activities
was $6.7 million during the first half of 2002, compared to $2.3 million used
during the first half of 2001 (excluding discontinued operations). The $6.7
million of cash used in operating activities during 2002 was principally
attributable to a $4.7 million reduction in deposits and other payables related
to customers, a $2.6 million net loss, a $1.4 million reduction in trade
accounts payable and accrued liabilities, and a $0.6 million increase in advance
funding receivables, offset by a $1.7 million decrease in trade and other
accounts receivable and a non-cash provision for $1.2 million for uncollectible
related party receivables. During the first half of 2001, the Company's net use
of $2.3 million cash from continuing operations principally reflected a $2.6
million reduction in customer deposits and payables and a $1.3 million reduction
in trade payables and accruals, offset by a $0.7 million reduction in trade
accounts receivable, $0.4 million of net income and $0.3 million of non-cash
depreciation and amortization expense.
Cash flow from investing activities. Cash used in investing activities was
$0.1 million during the first six months of 2002 compared to $1.9 million in the
comparable period of 2001. During the first half of 2002 the Company purchased
property and equipment costing $0.1 million. In the same period in 2001, the
Company used cash through its extension of $1.3 million of loans to other
entities and the purchase of $0.6 million in investments in affiliates.
Cash flow from financing activities. Cash provided by financing activities
was $2.6 million during the first six months of 2002 compared to a net use of
$0.1 million during the first six months of 2001. During the first half of 2002,
the Company borrowed $2.9 million under its line of credit, and used cash to pay
$0.2 million of dividends to preferred stock holders and purchase $0.1 million
of treasury stock. In the corresponding period in 2001, the Company raised $2.2
million from the issuance of common and preferred stock, and used cash to (i)
redeem $0.4 million of preferred stock, (ii) purchase $0.2 million of
outstanding stock options, (iii) purchase common stock for $1.2 million, (iv)
pay $0.3 million in costs associated with potential acquisitions, and (v) pay
$0.2 million for preferred stock dividends.
Avery's operating cash requirements consist principally of working capital
requirements, scheduled debt service obligations, and payments of preferred
dividends and capital expenditures. The Company believes cash flows generated
from operations, together with borrowings and/or proceeds from the sale of
equity securities will be sufficient to fund working capital needs, debt and
dividend payment obligations and capital expenditure requirements for the next
twelve months.
- 16 -
Item 3 Quantitative and Qualitative Disclosures About Market Risk
Avery is exposed to market risk from changes in marketable securities
(which consist of certificates of deposit). At June 30, 2002, our marketable
securities were recorded at a fair value of approximately $202,000, with an
overall weighted average return of approximately 2% and an overall weighted
average life of less than one year. The marketable securities held by the
Company have exposure to price risk, which is estimated as the potential loss in
fair value due to a hypothetical change of 20 basis points (10% of our overall
average rate of return) in quoted market prices. This hypothetical change would
have an immaterial effect on the recorded value of the marketable securities.
Avery is not exposed to material future earnings or cash flow fluctuations
from changes in interest rates on long-term debt since 100% of our long-term
debt is at a fixed rate as of June 30, 2002. The fair value of our long-term
debt at June 30, 2002 is estimated to be $0.7 million based on the 8% rate of
the long-term debt and its maturity of 4.5 years, which is consistent with rates
currently available for loans of comparable terms in long-term financing
markets.
To date, Avery has not entered into any derivative financial instruments to
manage interest rate risk and currently are not evaluating the future use of any
such financial instruments.
Avery does not have any exposure to foreign currency transaction gains or
losses. All other of the Company's business transactions are in U.S. Dollars.
PART II OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
10.49 Form of Non-Recourse Promissory Note, dated as of March 20,
2002, payable to Avery Communications, Inc. which is a
restatement and replacement of a promissory note dated
October 19, 2000 in an equivalent amount
21.1 Subsidiaries of Registrant
99.1 Certificate of the Chief Executive Officer dated as of
August 14, 2002 pursuant to the Sarbanes-Oxley Act of 2002
99.2 Certificate of the Chief Financial Officer dated as of
August 14, 2002 pursuant to the Sarbanes-Oxley Act of 2002
99.3 Certificate of the Chief Executive Officer dated as of
September 3, 2002 pursuant to the Sarbanes-Oxley Act of 2002
(filed herewith)
99.4 Certificate of the Chief Financial Officer dated as of
September 3, 2002 pursuant to the Sarbanes-Oxley Act of 2002
(filed herewith)
(b) Reports on Form 8-K
None
- 17 -
SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant
caused this report to be signed on its behalf, thereunto duly authorized.
Avery Communications, Inc.
(Registrant)
------------------------------------------
Date September 3, 2002 /s/ Patrick J. Haynes III
---------------------------- ------------------------------------------
Patrick J. Haynes III
Chairman of the Board
Date September 3, 2002 /s/ Thomas C. Ratchford
----------------------------- ------------------------------------------
Thomas C. Ratchford
Chief Financial Officer
- 18 -
CERTIFICATION BY CHIEF EXECUTIVE OFFICER
----------------------------------------
I, Patrick J. Haynes, III, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Avery
Communications, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report; and
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report.
[Items 4, 5 and 6 omitted pursuant to the transition provisions of Release
No. 34-46427.]
Date: September 3, 2002
/s/ Patrick J. Haynes, III
-----------------------------------------
Patrick J. Haynes, III,
Chief Executive Officer
CERTIFICATION BY CHIEF FINANCIAL OFFICER
----------------------------------------
I, Thomas C. Ratchford, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Avery
Communications, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report; and
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report.
[Items 4, 5 and 6 omitted pursuant to the transition provisions of Release
No. 34-46427.]
Date: September 3, 2002
/s/ Thomas C. Ratchford
-----------------------------------------
Thomas C. Ratchford,
Chief Financial Officer