SECURITIES AND EXCHANGE COMMISSION
Washington, DC. 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15 (d)
of the Securities Exchange Act of 1934
For the quarterly period ended Commission File Number 0-19437
June 30, 2001
CELLULAR TECHNICAL SERVICES COMPANY, INC.
-----------------------------------------
(Exact Name of Registrant as Specified in Its Charter)
Delaware 11-2962080
- -------------------------------------- ------------------------------------
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
2815 Second Avenue, Suite 100, Seattle, Washington 98121:
---------------------------------------------------------
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (206) 443-6400
Not Applicable
(Former name, former address and former fiscal year,
if changed since last report.)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to the
filing requirements for the past 90 days. Yes X No
--- ---
2,291,789 Common Shares were outstanding as of August 3, 2001.
CELLULAR TECHNICAL SERVICES COMPANY, INC.
TABLE OF CONTENTS FOR FORM 10-Q
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS........................................................................3
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.......8
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.................................15
PART II. OTHER INFORMATION..........................................................................16
ITEM 1. LEGAL PROCEEDINGS..........................................................................16
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS........................................16
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K...........................................................16
Page 2
CELLULAR TECHNICAL SERVICES COMPANY, INC.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
CONDENSED CONSOLIDATED BALANCE SHEETS
(in 000's, except share and per share amounts)
June 30, December 31,
2001 2000
-------- ------------
ASSETS (unaudited) (NOTE A)
CURRENT ASSETS
Cash and cash equivalents $ 7,822 $ 4,529
Accounts receivable, net of reserves of $275 in 2001 and $418 in 2000 796 793
Employee receivable 42 60
Inventories, net 761 1,096
Prepaid expenses and deposits 303 471
--------- --------
Total Current Assets 9,724 6,949
PROPERTY AND EQUIPMENT, net 730 963
GOODWILL 91 104
LONG-TERM INVESTMENT 1,754 1,758
-------- --------
TOTAL ASSETS $ 12,299 $ 9,774
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable and accrued liabilities $ 829 $ 545
Payroll related liabilities 214 561
Taxes (other than payroll and income) 8 5
Customers' deposits and deferred revenue 2,526 395
-------- --------
Total Current Liabilities 3,577 1,506
MINORITY INTEREST -- --
STOCKHOLDERS' EQUITY
Preferred Stock, $0.01 par value per share, 5,000 shares
authorized, none issued and outstanding -- --
Common Stock, $0.001 par value per share, 30,000 shares
authorized, 2,292 shares issued and outstanding at
June 30, 2001 and December 31, 2000 23 23
Additional paid-in capital 29,976 29,976
Accumulated Deficit (21,277) (21,731)
-------- --------
Total Stockholders' Equity 8,722 8,268
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 12,299 $ 9,774
======== =========
The accompanying notes are an integral part of these financial statements.
Page 3
CELLULAR TECHNICAL SERVICES COMPANY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in 000's, except per share amounts)
(unaudited)
Three Months Ended Six Months Ended
June 30, June 30,
-------------------- ----------------
2001 2000 2001 2000
---- ---- ---- ----
REVENUES
Phonecards $ 4,187 $ 4,172 $ 8,343 $ 6,919
Services and Systems 1,381 2,226 2,786 4,396
-------- -------- -------- --------
Total Revenues 5,568 6,398 11,129 11,315
COSTS AND EXPENSES
Cost of phonecards, services and systems 4,740 4,616 9,094 7,772
Sales and marketing 365 367 771 635
General and administrative 515 603 957 1,197
Research and development 486 294 977 649
-------- -------- -------- --------
Total Costs and Expenses 6,106 5,880 11,799 10,253
-------- -------- -------- --------
INCOME (LOSS) FROM OPERATIONS (538) 518 (670) 1,062
OTHER INCOME, net 921 1,534 945 1,549
INTEREST INCOME, net 121 94 181 227
-------- -------- -------- --------
INCOME BEFORE INCOME TAXES AND
MINORITY INTEREST 504 2,146 456 2,838
PROVISION FOR INCOME TAXES -- (42) (2) (57)
-------- -------- -------- --------
NET INCOME BEFORE MINORITY INTEREST 504 2,104 454 2,781
MINORITY INTEREST -- (259) -- (270)
-------- -------- -------- --------
NET INCOME $ 504 $ 1,845 $ 454 $ 2,511
======== ======== ======== ========
EARNINGS PER SHARE:
Basic $ 0.22 $ 0.81 $ 0.20 $ 1.10
======== ======== ======== ========
Diluted $ 0.22 $ 0.79 $ 0.20 $ 1.07
======== ======== ======== ========
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic 2,292 2,287 2,292 2,284
Diluted 2,297 2,335 2,302 2,345
The accompanying notes are an integral part of these financial statements
Page 4
CELLULAR TECHNICAL SERVICES COMPANY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in 000's)
(unaudited)
Six Months Ended
June 30,
-------------------
2001 2000
---- -----
OPERATING ACTIVITIES
Net income $ 454 $ 2,511
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization of property and equipment 264 274
Amortization of software development costs -- 178
Amortization of goodwill 13 --
(Gain) loss on disposal of assets (25) 1
Minority interest -- 270
Changes in operating assets and liabilities:
(Increase) decrease in accounts receivable, net (3) 864
Decrease in employee receivable 18 --
Decrease (increase) in inventories, net 335 (399)
Decrease (increase) in prepaid expenses and deposits 168 (230)
(Increase) in interest receivable -- (56)
Increase in accounts payable and accrued liabilities 284 --
(Decrease) in payroll related liabilities (347) (51)
Increase (decrease) in taxes (other than payroll and income) 3 (10)
Increase (decrease) in deferred revenue and customers' deposits 2,131 (196)
------ ------
NET CASH PROVIDED BY OPERATING ACTIVITIES 3,295 3,156
INVESTING ACTIVITIES
Purchase of property and equipment (45) (185)
Proceeds from sale of assets 39 1
Long term investment 4 --
------ ------
NET CASH USED IN INVESTING ACTIVITIES (2) (184)
NET CASH PROVIDED BY FINANCING ACTIVITIES (Stock option exercises) -- 27
------ ------
NET INCREASE IN CASH AND CASH EQUIVALENTS 3,293 2,999
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 4,529 4,787
------ ------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 7,822 $ 7,786
======= =======
The accompanying notes are an integral part of these financial statements
Page 5
CELLULAR TECHNICAL SERVICES COMPANY, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - BASIS OF PRESENTATION:
The accompanying unaudited financial statements of Cellular Technical Services
Company, Inc. ("CTS"), including the December 31, 2000 balance sheet which has
been derived from audited financial statements, have been prepared in accordance
with generally accepted accounting principles for interim financial information
and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by accounting principles generally accepted in the United States for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. The operating results for the three-month and six-month periods
ended June 30, 2001 are not necessarily indicative of the results that may be
expected for the fiscal year ending December 31, 2001. For further information,
refer to the financial statements and footnotes thereto included in the
Company's Annual Report on Form 10-K for the year ended December 31, 2000 and in
the Company's other filings with the Securities and Exchange Commission. Unless
the context otherwise requires, all references to the "Company" herein include
Cellular Technical Services Company, Inc. and any entity over which it has or
shares operational control.
New Accounting Pronouncements: In July 2001, the FASB issued Statements of
Financial Accounting Standards No. 141, Business Combinations "Statement 141",
and No. 142, Goodwill and Other Intangible Assets "Statement 142." Statement 141
eliminates the pooling-of-interests method of accounting for business
combinations except for qualifying business combinations that were initiated
prior to July 1, 2001. Statement 141 further clarifies the criteria to recognize
intangible assets separately from goodwill. The requirements of Statement 141
are effective for any business combination accounted for by the purchase method
that is completed after June 30, 2001 (i.e., the acquisition date is July 1,
2001 or after).
Under Statement 142, goodwill and indefinite lived intangible assets are no
longer amortized but are reviewed annually (or more frequently if impairment
indicators arise) for impairment. Separable intangible assets that are not
deemed to have an indefinite life will continue to be amortized over their
useful lives. The amortization provisions of Statement 142 apply to goodwill and
intangible assets acquired after June 30, 2001. With respect to goodwill and
intangible assets acquired prior to July 1, 2001, we are required to adopt
Statement 142 on January 1, 2002. Because of the different transition dates for
goodwill and intangible assets acquired on or before June 30, 2001 and those
acquired after that date, pre-existing goodwill and intangibles will be
amortized during this transition period until adoption whereas new goodwill and
indefinite lived intangible assets acquired after June 30, 2001 will not. The
Company is currently analyzing the impact of these standards.
NOTE B - INVENTORIES:
Inventory reflects phonecards sold through the Company's phonecard business, and
includes $72,000 and $87,000 related to sales that have been accounted for on a
consignment basis at June 30, 2001 and December 31, 2000, respectively, and
$188,000 and $259,000 related to sales returns reserves at June 30, 2001 and
December 31, 2000, respectively. Inventory consists of the following (in 000's):
June 30, December 31,
2001 2000
-------- -----------
Inventory, primarily phone cards $1,151 $1,123
Less reserves (390) (27)
------ ------
$ 761 $1,096
====== ======
Page 6
NOTE C - CONTINGENCIES:
From time to time, the Company is a party to legal proceedings in the ordinary
course of business which management believes will be resolved without a material
adverse effect on the Company's business, financial condition or results of
operations.
NOTE D- EARNINGS PER SHARE:
The calculation of basic and diluted earnings per share is as follows (in 000's,
except per share amounts):
Three Months Ended Six Months Ended
June 30, June 30,
------------------ ----------------
2001 2000 2001 2000
---- ---- ---- ----
Net income (A) $ 504 $1,845 $ 454 $2,511
====== ====== ====== ======
Weighted average number of shares outstanding (B): 2,292 2,287 2,292 2,284
Stock options 5 48 10 61
------ ------ ------ ------
Weighted average number of shares and common share 2,297 2,335 2,302 2,345
Earnings per share:
Basic (A)/(B) $ 0.22 $ 0.81 $ 0.20 $ 1.10
====== ====== ====== ======
Diluted (A)/(C) $ 0.22 $ 0.79 $ 0.20 $ 1.07
====== ====== ====== ======
NOTE E- OTHER INCOME:
The Company recorded other income of $921,0000 for the three months ended June
30, 2001 and $945,000 for the six months ended June 30, 2001. The amounts
primarily resulted from the settlement of an arbitration action the Company had
taken against a former customer. The Company recorded other income of $1,534,000
for the three months ended June 30, 2000 and $1,549,000 for the six months ended
June 30, 2000. The amounts primarily resulted from a settlement of a legal
action the Company had taken against a former vendor.
NOTE F- SEGMENT INFORMATION:
The Company had two reportable business segments for the three-month and
six-month periods ended June 30, 2001 and 2000 which offer distinctive products
and services marketed through different channels: (i) the Company's Blackbird'r'
Platform product line, which includes the Blackbird'r' Platform, PreTect'TM'
cloning-fraud prevention application, No Clone Zone'sm' roaming-fraud prevention
service, and related application products and services; and (ii) the Company's
prepaid long-distance phone card business, which is conducted through its
majority-owned subsidiary, Isis Tele-Communications, Inc. Management evaluates
segment performance based upon segment profit or loss before income taxes. The
difference in the pretax segment profit of $2,146,000 and consolidated net
income of $1,845,000 for the three months ended June 30, 2000 includes income
tax expense of $42,000 and minority interest of $259,000. The difference in the
pretax segment income of $456,000 and consolidated net income of $454,000 for
the six months ended June 30, 2001 is attributable to income tax expense of
$2,000. The difference in the pretax segment profit of $2,838,000 and
consolidated net income of $2,511,000 for the six months ended June 30, 2000
includes income tax expense of $57,000 and minority interest of $270,000.
There were no inter-company sales of products between the segments.
Page 7
Three months ended June 30, 2001
--------------------------------
(in 000's) Segments
-------------------------------- Consolidated
Blackbird Platform Phonecards Totals
------------------ ---------- ------
Revenue from external customers $1,381 $4,187 $5,568
Pretax segment profit (loss) 1,141 (637) 504
Expenditures for segment assets 14 -- 14
Three months ended June 30, 2000
---------------------------------
(in 000's) Segments
-------------------------------- Consolidated
Blackbird Platform Phonecards Totals
------------------ ---------- ------
Revenue from external customers $2,226 $4,172 $6,398
Pretax segment profit (loss) 828 1,318 2,146
Expenditures for segment assets 15 31 46
Six months ended June 30, 2001
------------------------------
(in 000's) Segments
-------------------------------- Consolidated
Blackbird Platform Phonecards Totals
------------------ ---------- ------
Revenue from external customers $2,786 $8,343 $11,129
Pretax segment profit (loss) 1,395 (939) 456
Expenditures for segment assets 33 12 45
Segment assets at June 30, 2001 10,513 1,786 12,299
Six months ended June 30, 2000
------------------------------
(in 000's) Segments
-------------------------------- Consolidated
Blackbird Platform Phonecards Totals
------------------ ---------- ------
Revenue from external customers $4,396 $6,919 $11,315
Pretax segment profit 1,466 1,372 2,838
Expenditures for segment assets 39 55 94
Segment assets at June 30, 2000 10,971 1,782 12,753
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion and analysis provides information which management
believes is relevant to an assessment and understanding of the Company's results
of operations and financial condition. The discussion should be read in
conjunction with the financial statements and notes thereto. Unless the context
otherwise requires, all references to the "Company" herein include Cellular
Technical Services Company, Inc. and any entity over which it has or shares
operational control.
Special Note Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q contains certain forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995 that
reflect the Company's views with respect to future events and financial
performance. The Company uses words and phrases such as "anticipate," "expect,"
"intend," "the Company believes," "future," and similar words and phrases to
identify forward-looking statements. Reliance should not be placed on these
forward-looking statements. These forward-looking statements are based on
current expectations and are subject to risks, uncertainties and assumptions
that could cause, or contribute to causing, actual results to differ materially
from those expressed or implied in the applicable statements. Readers should pay
particular attention to the descriptions of risks and
Page 8
uncertainties described in the Company's Annual Report on Form 10-K for the year
ended December 31, 2000 and in the Company's other filings with the Securities
and Exchange Commission. All forward-looking statements included in this report
are based on information available to the Company on the date of this report.
The Company assumes no obligation or duty to update any such forward-looking
statements.
Overview
The Company develops, markets, distributes and supports products and services
for the telecommunications industry. Over the past 12 years, the Company has
developed expertise in real-time wireless call processing and has created
technologically advanced solutions for this industry, focusing primarily in the
area of wireless communications fraud management. During 1999 and 2000, the
Company implemented a short and long-range strategic plan to diversify its
product mix, both within and outside of the telecommunications industry. This
diversification strategy is at the foundation of the Company's growth plan for
the future.
Products
The Blackbird Platform Products
- -------------------------------
The Company's Blackbird'r' Platform product line includes a suite of radio
frequency ("RF") based platform solutions focusing on wireless fraud prevention.
Presently, it involves various forms of "pre-call" verification to ensure that
the use of an analog wireless telephone is legitimate before the device is
allowed to connect to a carrier's analog wireless communications network. In
this area, the Company is a leading provider of RF-based solutions for the
prevention of "cloning fraud." This term is used to describe the illegal
activity of using a scanning device to steal the electronic serial number and
mobile identification number of a legitimate wireless telephone while in use,
then reprogramming the stolen numbers into other phones. These reprogrammed
phones, or "clone phones," are then used to make illegal calls on a wireless
communications network, without payment for the wireless services rendered. The
Company's suite of RF-based platform solutions include the Blackbird'r'
Platform, PreTect'TM' cloning-fraud prevention application, No Clone Zone'sm'
roaming-fraud prevention service, and related application products and services
(collectively, the "Blackbird Platform Products"). The Company's Blackbird
Platform Products are currently deployed in approximately 1,500 cell sites in
many major metropolitan areas throughout the United States. The Company's
customers have reported up to a 98% reduction in cloning fraud activity in areas
served by the Blackbird Platform Products since its initial installation, and
continue to rely on its cloning prevention capabilities for their existing
analog wireless communications networks.
Prepaid Long-Distance Phone Products
- ------------------------------------
To stimulate revenue growth for the Company, and in alignment with its product
diversification strategy, the Company expanded into the prepaid long-distance
service arena in the fourth quarter of 1999. Through its majority-owned
subsidiary, Isis Tele-Communications, Inc., the Company markets and distributes
branded prepaid long-distance phone cards in denominations generally ranging
from $5 to $20 per card. Isis also resells prepaid cellular hardware and
airtime. Isis specializes in targeted marketing programs and features local and
toll-free access numbers and aggressive domestic and international long-distance
rates. Isis distributes products through regional and national multi-level
distribution channels, using direct sales, third-party distributors and
telemarketing. The Company anticipates that its ability to provide aggressive
per-minute rates, broad multi-level distribution coverage, and quality customer
service will provide the key ingredients for revenue growth and future product
expansion of this product line for the Company. Isis has offices in Los Angeles,
Boston and Chicago.
Future Opportunities For Growth In Emerging Technologies
- --------------------------------------------------------
The Federal Communications Commission ("FCC") has required all wireless carriers
to deploy wireless geo-location technology ("E-911") by October 2001 to provide
comparable 911 services to wireless telecommunications subscribers. Wireless
geo-location technology provides and identifies the specific geographic location
(in latitude and longitude measurements) of a wireless telephone, and can
eventually be applied to other wireless communications devices. Industry
analysts have estimated the market for commercial geo-location applications to
be well over $8.0 billion. During the fourth
Page 9
quarter of 1999, and as part of the Company's long-term diversification
strategy, the Company made a strategic investment in KSI Inc. ("KSI"), a
provider of development-stage wireless geo-location technology. In August 2000,
TruePosition, Inc., a subsidiary of Liberty Media Corporation, acquired KSI in a
stock-for-stock transaction. The cost of the Company's investment in
TruePosition, Inc. common stock at June 30, 2001 was $1,754,000.
In late 1999 the Company began development of a location-based wireless software
product platform and mobile commerce applications. The Company expects to
leverage its entrance into the geo-location marketplace by developing,
marketing, distributing, and supporting a suite of commercial geo-location
applications as the technology evolves and is deployed by all wireless carriers
to comply with the FCC's requirements. In January 2001 the Company formed a
division called Neumobility'TM' for this product line. The Neumobility family of
products includes a scalable platform and an application suite providing
location-based information utilizing both network and satellite positioning
technologies. The platform is called NeuTrac'TM', and is a system utilizing
positioning data to create, maintain and deliver relevant content and services
in a location-based format. The NeuTrac platform is configurable and creates a
combination of subscription-based, pay-per-use and free value-added services.
The application suite will include: NeuCommerce'TM', which allows for
personalized, permission-based one-to-one marketing with location-based coupons;
NeuMerchant'TM', which provides an interactive location-based presence for
merchants; NeuMap'TM', which provides mapping, navigation, search engine
functions and service provisioning; NeuList'TM', which provides personalized
"buddy lists" and" buddy finders;" and NeuJournal'TM', a private, collaborative
and public location-based message board. The Company has completed design of the
platform and initial product suite and is currently in the final testing phases.
The Company currently anticipates wireless carriers will implement E-911
technology beginning in late 2001, but that full implementation will take a
number of years to complete.
Revenue and Expense
Revenue
- -------
During the first six months of 2001, the Company generated revenue from two
sources: Isis pre-paid phone card product sales and Blackbird service revenue.
Prepaid phone card revenue is comprised of wholesale and retail sales of prepaid
local, long-distance and wireless products. The revenue is recognized at
shipment of product, net of reserves for estimated returns. The Company
maintains an allowance for sales returns for prepaid phone cards based on
estimated returns in accordance with Statement of Financial Accounting Standard
("SFAS") 48. Estimated returns, along with their costs, have been reflected as a
reduction in sales and cost of goods sold, respectively, and reflected as a
reduction in accounts receivable and an increase in inventory, respectively.
Service revenue is derived primarily from hardware and software maintenance
programs, No Clone Zone roaming fraud prevention service, Blackbird Platform
Monitoring service and related professional services provided in support of the
Company's currently deployed product base. Service revenue is recognized ratably
over the period that the service is provided.
Systems revenue is generated from licensing and sales of the Company's
proprietary software and hardware products, the sale of third-party products
sold in connection with the Company's proprietary products and, to a lesser
extent, fees earned in connection with the installation and deployment of these
products. The Company did not record any systems revenue in the first six months
of 2001. Revenue would be recognized when all of the following conditions have
been met: persuasive evidence of an arrangement exists; delivery has occurred,
including satisfaction of all contractual obligations, and other elements that
are essential to the functionality of the delivered products have been
satisfied; the amount is fixed or determinable; and collectability is probable.
Revenue is deferred if the above conditions are not met, based on vendor
specific objective evidence ("VSOE") of the fair value for all elements of the
arrangement. VSOE is based on the price charged when an element is sold
separately, or, in the case of an element not yet sold separately, the price
established by authorized management, if it is probable that the price, once
established, will not change before market introduction. Elements included in
multiple element arrangements could consist of software products, upgrades,
enhancements, customer support services, or consulting services.
Page 10
Revenue recognition for the Company's systems varies by customer and by product.
Every element of a contract must be identified and valued based upon VSOE,
regardless of any stated price in the contract. Revenue from any undelivered
element of a contract is deferred. However, any undelivered element essential to
the functionality of the delivered product will cause a 100% deferral of the
sale. Amounts billed and received on sales contracts before products are
delivered or before revenue is recognized or recognizable are recorded as
customer deposits or deferred revenue.
Costs and Expenses
- ------------------
Cost of phone cards, services and systems is primarily comprised of the costs
of: (i) prepaid phone card activation; (ii) equipment, including both
proprietary and third-party hardware and, to a lesser extent, manufacturing
overhead and related expenses; (iii) systems integration and installation; (iv)
customer support; and (v) activities associated with the evaluation, repair and
testing of parts returned from the field in connection with the Company's
ongoing hardware maintenance service activities.
Research and development expenditures include the costs for research, design,
development, testing, preparation of training and user documentation and fixing
and refining features for the software and hardware components included in the
Company's current and future products and services.
The Company expects that its costs and expenses in these and other areas will
continue to be incurred in the future, due to the ongoing need to: (i) make
investments in research and development to enhance existing products and
services and to develop new products and services to address emerging market
opportunities, such as those in the geo-location and prepaid phone card markets;
(ii) enhance its sales and marketing activities; (iii) enhance its customer
support capabilities; and (iv) enhance its general and administrative
activities.
Three months ended June 30, 2001 compared to three months ended June 30, 2000
Overview
- --------
Total revenue decreased 13% to $5,568,000 in 2001 from $6,398,000 in 2000. Net
income was $504,000, or $0.22 per diluted share, in 2001 compared to net income
of $1,845,000, or $0.79 per diluted share, in 2000. The consolidated revenue
decrease was a result of decreased systems and service revenue from the
Company's Blackbird Platform products due to: (i) a reduction in domestic market
opportunities for the Company's cloning fraud prevention technology, (ii) the
effectiveness of this and other authentication-based products in combating
cloning fraud, (iii) lower penetration than originally planned of Blackbird
Platform Products into existing customers' markets and new and/or additional
markets, (iv) the lack of additional new domestic and international customers,
and (v) the lack of any systems upgrades in the current period compared to the
prior year period. The Company's prepaid phone card business, which commenced
operations in December 1999, provided $4.2 million in revenue in the second
quarters of both 2001 and 2000.
The $1.3 million decrease in net income from Q2 2000 to Q2 2001 is due to
several factors:
Gross margin decreased $1.0 million from Q2 2000 to Q2 2001. Blackbird
gross margins decreased $0.4 million as revenue decreased by $0.8
million ISIS gross margins decreased $0.6 million on flat revenue due
to reduced product margins and $0.4 million of inventory reserve
accruals.
Operating expenses increased $0.1 million due to increased R&D
spending, partially offset by G&A reductions.
Other income decreased $0.6 million as the Company recognized a
one-time net arbitration settlement (excluding interest) of
approximately $0.9 million during the 2001 period related to the
Blackbird segment, and a one-time net litigation settlement of
approximately $1.5 million during the 2000 period related to the ISIS
segment.
The 2000 period also included a $0.3 million reduction in net income
due to the inclusion of a minority interest accrual.
Reduced income taxes and increased interest income combined to add
$0.1 million in income to the 2001 period compared to the 2000 period.
Page 11
Revenue
- -------
Prepaid phone card revenue was $4,187,000 in 2001, comparable to $4,172,000 in
2000.
Service and systems revenue decreased 38% to $1,381,000 in 2001 from $2,226,000
in 2000. All of the 2001 and 2000 service revenue was derived from the Blackbird
Platform Products. The decrease is due to the factors discussed above. The
Company anticipates that service revenue will continue to decrease in future
periods due to the anticipated reduction in the installed base of Blackbird
Platform Products by wireless carriers as the product line rapidly approaches
the later stages of its service life. There was no systems revenue in 2001,
which was a decrease from $334,000 in 2000 due to the factors discussed above.
The Company does not currently anticipate any material future Blackbird systems
revenue.
Costs and Expenses
- ------------------
Cost of phone cards, services and systems increased by $124,000 to $4,740,000 in
three months ended June 30, 2001, from $4,616,000 in the same period during
2000. As a percent of total revenue, the costs were 85% and 72% for the 2001 and
2000 periods, respectively. The increase in the amounts and percentages of costs
for 2001 relative to 2000 is primarily due to the prepaid phone card business
being a larger percentage of the Company's overall business with lower gross
margins compared to the Company's Blackbird service product offerings.
Additionally, $0.4 million in reserves was accrued in the 2001 period for
slow-moving phone card inventories.
Sales and marketing expenses decreased $2,000 to $365,000 in 2001 from $367,000
in 2000. As a percent of total revenue, the costs were 7% and 6% for the 2001
and 2000 periods, respectively. Although the total spending is comparable on a
year-to-year basis, a shift occurred as more spending related to selling and
marketing prepaid phone cards and for the introduction of the Company's
Neumobility product line, offset by a decrease in sales and marketing expenses
for the Blackbird Platform products during the first quarter of 2001.
General and administrative expenses decreased 15% to $515,000 in 2001 from
$603,000 in 2000, primarily due to headcount reductions in comparison to the
prior year period.
Research and development costs increased 65% to $486,000 in 2001 from $294,000
in 2000. The increase in expenditures in 2001 was attributable to increased
spending on new product development in the geo-location application technology
area.
Other Income, net
- -----------------
Net other income decreased to $921,000 in the three months ended June 30, 2001
from $1,534,000 in the comparable 2000 period. The 2001 period included a net
arbitration settlement (excluding interest) of approximately $900,000 related to
the Blackbird business segment. The 2000 period included a net litigation
settlement of approximately $1,500,000 related to the Isis phonecard business
segment. Other income also includes gains or losses from sales of equipment and
other miscellaneous income items.
Interest Income and Expense
- ---------------------------
Net interest income increased to $121,000 in 2001 from $94,000 in 2000. This
increase is attributable to pre-award interest received on an arbitration
settlement in the 2001 period, offset by lower average cash balances on hand
during the 2001 period and lower interest rates earned on invested cash balances
in the current period compared to the prior year period.
Six months ended June 30, 2001 compared to six months ended June 30, 2000
Overview
- --------
Total revenue decreased 2% to $11,129,000 in 2001 from $11,315,000 in 2000. Net
income was $454,000, or $0.20 per diluted share, in 2001 compared to net income
of $2,511,000, or $1.07 per diluted share, in 2000. The Company recorded
alternative minimum tax expense of $2,000 and $57,000 during the 2001 and 2000
periods, respectively.
Page 12
The consolidated revenue decrease was a result of decreased systems and service
revenue from the Company's Blackbird Platform products due to: (i) a reduction
in domestic market opportunities for the Company's cloning fraud prevention
technology, (ii) the effectiveness of this and other authentication-based
products in combating cloning fraud, (iii) lower penetration than originally
planned of Blackbird Platform Products into existing customers' markets and new
and/or additional markets, (iv) the lack of additional new domestic and
international customers, and (v) the lack of any systems upgrades in the current
period compared to the prior year period. The Company's prepaid phone card
business, which commenced operations in December 1999, provided $8.3 million in
revenue in the first six months of 2001, compared to $6.9 million in revenue in
the comparable 2000 period.
The $2.0 million decrease in net income from Q2 2000 to Q2 2001 is due to
several factors:
Gross margin decreased $1.5 million from Q2 2000 to Q2 2001. Blackbird
gross margins decreased $0.8 million as revenue decreased by $1.6
million Although ISIS revenue increased by $1.4 million, ISIS gross
margins decreased by $0.7 million due to reduced product margins and
$0.4 million of inventory reserve accruals.
Operating expenses increased $0.2 million, due to $0.3 of increased
R&D spending and $0.1million of increased sales and marketing
spending, partially offset by $0.2 million of reduced G&A spending.
Other income decreased $0.6 million as the Company recognized a
one-time net arbitration settlement (excluding interest) of
approximately $0.9 million during the 2001 period related to the
Blackbird segment, and a one-time net litigation settlement of
approximately $1.5 million during the 2000 period related to the ISIS
segment.
The 2000 period also included a $0.3 million reduction in net income
due to the inclusion of a minority interest accrual.
Revenue
- -------
Prepaid phone card revenue was $8,343,000 for the first six months of 2001,
compared to $6,919,000 in the 2000 period. The increase is due to higher Q1
sales in 2001 compared to 2000 as ISIS was still starting up its operations in
Q1 2000.
Service and systems revenue decreased 37% to $2,786,000 in 2001 from $4,396,000
in 2000. All of the 2001 and 2000 service revenue was derived from the Blackbird
Platform Products. The decrease is due to the factors discussed above. The
Company anticipates that service revenue will continue to decrease in future
periods due to the anticipated reduction in the installed base of Blackbird
Platform Products by wireless carriers as the product line rapidly approaches
the later stages of its service life. There was no systems revenue in 2001,
which was a decrease from $609,000 in 2000 due to the factors discussed above.
The Company does not currently anticipate any material future Blackbird systems
revenue.
Costs and Expenses
- ------------------
Cost of phone cards, services and systems increased by $1,322,000 to $9,094,000
in six months ended June 30, 2001, from $7,772,000 in the same period during
2000. As a percent of total revenue, the costs were 82% and 69% for the 2001 and
2000 periods, respectively. The increase in the amounts and percentages of costs
for 2001 relative to 2000 is primarily due to the prepaid phone card business
being a larger percentage of the Company's overall business with lower gross
margins compared to the Company's Blackbird service product offerings.
Additionally, the Company accrued reserves for slow-moving inventories of $0.4
million during the first six months of 2001.
Sales and marketing expenses increased 21% to $771,000 in 2001 from $635,000 in
2000. As a percent of total revenue, the costs were 7% and 6% for the 2001 and
2000 periods, respectively. The increase in sales and marketing expenses is
attributable to costs in selling and marketing prepaid phone cards and
additional spending during the first six months of 2001 for the introduction of
the Company's Neumobility product line, offset by a decrease in sales and
marketing expenses for the Blackbird Platform products.
General and administrative expenses decreased 20% to $957,000 in 2001 from
$1,197,000 in 2000, primarily due to headcount reductions in comparison to the
prior year period.
Page 13
Research and development costs increased 51% to $977,000 in 2001 from $649,000
in 2000. The increase in expenditures in 2001 was attributable to increased
spending on new product development in the geo-location application technology
area.
Other Income, net
- -----------------
Net other income decreased to $945,000 in the six months ended June 30, 2001
from $1,549,000 in the comparable 2000 period. The 2001 period included a net
arbitration settlement (excluding interest) of approximately $900,000 related to
the Blackbird business segment. The 2000 period included a net litigation
settlement of approximately $1,500,000 related to the Isis phonecard business
segment. Other income also includes gains or losses from sales of equipment and
other miscellaneous income items.
Interest Income and Expense
- ---------------------------
Net interest income decreased to $181,000 in 2001 from $227,000 in 2000. This
decrease is attributable to lower average cash balances on hand during the 2001
period and lower interest rates earned on invested cash balances in the current
period compared to the prior year period, offset by pre-award interest received
on an arbitration settlement in the 2001 period.
Liquidity and Capital Resources
The Company's capital requirements have consisted primarily of funding software
and hardware research and development, property and equipment requirements,
working capital and the Company's operating expenses. The Company historically
has funded these requirements through the sale of common stock (including
proceeds from the exercise of warrants and options) and from operating profits
in certain periods. On June 30, 2001, the Company's cash balance was $7.8
million as compared to $4.5 million on December 31, 2000. The Company's working
capital increased to $6.1 million at June 30, 2001 from $5.4 million at December
31, 2000.
Net cash provided by operating activities amounted to $3.3 million in the first
six months of 2001, compared to $3.2 million in the comparable 2000 period.
Operating cash flow for the first six months of 2001was positively impacted by
the receipt of most 2001 Blackbird customer payments during the first half of
2001. Additionally, the Company's $0.5 million net income, non-cash expenses and
reductions in levels of inventories and prepaid assets provided positive
operating cash flow, offset by a net reduction in liabilities. Operating cash
flow for the comparable 2000 period was primarily impacted by the Company's $2.5
million in net income, non-cash expenses and balance sheet changes.
Net cash used in investing activities totaled $2,000 in 2001, compared to cash
used in investing activities of $184,000 in 2000. At June 30, 2001, the Company
had no significant commitments for capital expenditures.
Operating Trends
- ----------------
The Company had net income of $454,000 in the first six months of 2001, compared
to earnings of $2.6 million for each of the full years ended December 31, 2000
and 1999. As of June 30, 2001, the Company had an accumulated deficit of $21.3
million, which primarily accumulated during the three years ended December 31,
1998. During 1996 and 1997, the Company deployed its initial cloning fraud
prevention Blackbird Platform Products and incurred substantial operating
expenses during such deployment. In 1998, in response to unfavorable operating
results, the Company implemented a restructuring plan that included, among other
initiatives, streamlining the Company's operations to better balance expenses
and revenues, and directing additional development efforts and resources towards
new products to generate new sources of revenue.
In the first six months of 2001, revenue from prepaid phone cards represented
75% of total revenue, and revenue from Blackbird Platform Products represented
25% of the Company's total revenue. As the industry moves from analog to digital
wireless equipment, the need for the Company's Blackbird Platform Products has
decreased and will continue to decrease. While the Company anticipates continued
profitability from Blackbird Platform Products in 2001, its revenue will
continue to decline and the Company currently forecasts that its revenue will
not continue into 2002.
Page 14
Despite the Company's profitability, positive cash flow, and product
diversification in 1999, 2000 and the first six months of 2001, there can be no
assurance that the Company's operations will be profitable on a quarterly or
annual basis in the future or that existing revenue levels can be enhanced or
sustained. Past and existing revenue levels should not be considered indicative
of future operating results. Results in 2000 and for the first two quarters of
2001 have been favorable impacted by non-recurring other income items. The
Company does not anticipate any such items will occur in future periods. While
the Company believes that its current cash reserves and projected cash flow from
operations will provide sufficient cash to fund its operations for at least the
next twelve to eighteen months, unanticipated changes in customer needs and/or
other external factors may require additional financing and/or further expense
reductions.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
We are exposed to market risk related to changes in interest rates that could
adversely affect the value of our investments. We do not use derivative
financial instruments for speculative or trading purposes. We maintain a
short-term investment portfolio consisting of interest bearing securities with
maturities of less than ninety days. These securities are classified as cash.
These securities are interest bearing and thus subject to interest rate risk and
will fall in value if market interest rates increase. Because we have the
ability to hold our fixed income investments until maturity, we do not expect
our operating results or cash flows to be affected to any significant degree by
a sudden change in market interest rates on our securities portfolio. We have
operated primarily in the United States and all revenues to date have been in
U.S. dollars. Accordingly, we do not have material exposure to foreign currency
rate fluctuations. We have not entered into any foreign exchange contracts to
hedge any exposure to foreign currency rate fluctuations because such exposure
is immaterial.
Page 15
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
On June 26, 2001, the Company announced the settlement of an arbitration action
the Company had taken against a former customer. The Company received $1,153,670
on June 29, 2001, composed of damages of $939,356, pre-award interest of $75,324
and reimbursed expenses of $138,990.
Item 4. Submission of Matters to a Vote of Security Holders
The annual meeting of stockholders of the Company was held on June 6, 2001.
Election of Two Class I Directors
Henry Ellis and Joshua Angel were elected as Class I directors of the Company's
Board of Directors to hold office until the Company's third annual meeting of
the stockholders following the election or until his successor is duly elected
and qualified. In connection with the election of the Class I directors, the
voting of stockholders was as follows:
Nominee For Withheld
- ------- --- --------
Henry Ellis 1,605,009 47,278
Joshua Angel 1,605,009 47,278
The other directors, whose terms of office continue after the meeting, are
Lawrence Schoenberg and Stephen Katz.
Item 6. Exhibits and Reports on Form 8-K
a) Exhibits
None.
b) Reports on Form 8-K
The Company filed a Current Report on Form 8-K, dated June 29, 2001,
under Item 5 of such Report, relating to the Company's legal
proceedings. No financial statements were included in such Report.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CELLULAR TECHNICAL SERVICES COMPANY, INC.
By: /s/Bruce R. York
----------------
Bruce R. York
Vice President and Chief Financial Officer
August 3, 2001
Page 16
STATEMENT OF DIFFERENCES
The trademark symbol shall be expressed as............................... 'TM'
The registered trademark symbol shall be expressed as.................... 'r'
The service mark symbol shall be expressed as............................ 'sm'