UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark one)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended: October 31, 2003
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _____________ to _____________
Commission File Number 0-2180
COVISTA COMMUNICATIONS, INC.
(Exact name of registrant as specified in its charter)
New Jersey 22-1656895
(State or other Jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
721 Broad Street, Suite 200 Chattanooga, TN 37402
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (423) 648-9700
Not Applicable
(Former address of principal executive offices)
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 such filing
requirements for the past 90 days.
Yes [X] No [_]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Class Outstanding at December 12, 2003
- ---------------------------- --------------------------------
Common Share, $.05 par value 17,806,425 shares
COVISTA COMMUNICATIONS, INC.
AND SUBSIDIARIES
SECOND QUARTER REPORT ON FORM 10-Q
INDEX
PAGE No.
--------
PART I - FINANCIAL INFORMATION
Condensed Consolidated Balance Sheets 3-4
October 31, 2003 (unaudited), and January 31, 2003
Condensed Consolidated Statements of Operations and Comprehensive Income 5
(Loss)
Nine months ended October 31, 2003 and 2002 (unaudited) and three
months ended October 31, 2003 and 2002 (unaudited)
Condensed Consolidated Statements of Cash Flows 6
Nine months ended October 31, 2003 and 2002 (unaudited)
Notes to Condensed Consolidated Financial Statements (unaudited) 7-12
Management's Discussion and Analysis of 13-16
Financial Condition and Results of Operations
Critical Accounting Policies 17-19
PART II - OTHER INFORMATION
Items 1-5 Not Applicable 20
Items 6 20
CERTIFICATIONS AND SIGNATURES 21-25
2
COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
October 31, 2003 January 31, 2003
---------------- ----------------
(Unaudited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 1,248,838 $ 3,444,307
Accounts receivable, net 11,278,341 15,716,015
Prepaid expenses and other current assets 811,946 626,574
----------- -----------
TOTAL CURRENT ASSETS 13,339,125 19,786,896
----------- -----------
PROPERTY AND EQUIPMENT, NET 12,475,012 15,150,416
----------- -----------
OTHER ASSETS:
Deferred line installation costs, net 506,858 473,688
Intangible assets, net 5,230,782 6,786,967
Goodwill 8,205,850 8,205,850
Other assets 485,276 646,581
----------- -----------
TOTAL OTHER ASSETS 14,428,766 16,113,086
----------- -----------
TOTAL ASSETS $40,242,903 $51,050,398
=========== ===========
See notes to condensed consolidated financial statements.
3
COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
October 31, 2003 January 31, 2003
---------------- ----------------
(Unaudited)
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Current portion of long-term debt $ 1,223,984 $ 2,827,999
Current portion of long term debt due to related party 1,258,327 --
Accounts payable and accrued line cost 8,070,631 15,073,691
Other current and accrued liabilities 10,469,074 11,024,151
Salaries and wages payable 200,274 397,430
------------ ------------
TOTAL CURRENT LIABILITIES 21,222,290 29,323,271
------------ ------------
OTHER LONG-TERM LIABILITIES 229,567 223,434
------------ ------------
LONG-TERM DEBT -- 1,810,759
------------ ------------
LONG-TERM DEBT DUE TO RELATED PARTY 887,606 --
------------ ------------
TOTAL LIABILITIES 22,339,463 31,357,464
------------ ------------
SHAREHOLDERS' EQUITY:
Common Stock 967,142 965,976
Additional paid-in-capital 52,880,485 52,834,984
Accumulated deficit (34,498,747) (32,662,586)
Treasury stock (1,445,440) (1,445,440)
------------ ------------
TOTAL SHAREHOLDERS' EQUITY 17,903,440 19,692,934
------------ ------------
$ 40,242,903 $ 51,050,398
============ ============
See notes to condensed consolidated financial statements.
4
COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS AND
COMPREHENSIVE INCOME (LOSS)
(Unaudited)
Nine Months Ended Three Months Ended
October 31, October 31,
------------------------- -------------------------
2003 2002 2003 2002
----------- ----------- ----------- -----------
NET REVENUE $65,063,621 $77,002,274 $20,336,665 $26,773,184
----------- ----------- ----------- -----------
Costs and Expenses
Cost of revenue 35,995,036 48,692,697 10,611,692 15,416,302
Selling, general and administrative 26,185,252 30,717,399 8,376,781 9,846,672
Depreciation and amortization 4,534,607 4,298,244 1,453,855 1,808,225
----------- ----------- ----------- -----------
Total costs and expenses 66,664,895 83,708,340 20,442,328 27,071,199
----------- ----------- ----------- -----------
OPERATING (LOSS) (1,601,274) (6,706,066) (105,663) (298,015)
----------- ----------- ----------- -----------
Other Income (Expense)
Interest income 14,280 44,576 3,868 247
Other 0 26,472 0 --
Interest (expense) (249,167) (388,457) (71,638) (133,144)
----------- ----------- ----------- -----------
Total other (234,887) (317,409) (67,770) (132,897)
NET INCOME (LOSS) BEFORE TAXES (1,836,161) (7,023,475) (173,433) (430,912)
Income tax benefit -- 511,220 -- --
NET INCOME (LOSS) $(1,836,161) $(6,512,255) $ (173,433) $ (430,912)
=========== =========== =========== ===========
BASIC EARNINGS (LOSS) PER COMMON SHARE $ (.10) $ (0.52) $ (.01) $ (0.03)
----------- ----------- ----------- -----------
DILUTED EARNINGS (LOSS) PER COMMON SHARE $ (.10) $ (0.52) $ (.01) $ (0.03)
----------- ----------- ----------- -----------
See notes to condensed consolidated financial statements.
5
COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
Nine Months Ended October 31,
-----------------------------
2003 2002
------------ ------------
OPERATING ACTIVITIES:
Net loss $(1,836,161) $ (6,512,255)
Adjustment for non-cash charges 5,975,989 6,918,842
Changes in assets and liabilities, net of effect of acquisition of business (4,782,943) (1,792,463)
------------ ------------
Net cash provided by (used in) by operating activities (643,115) (1,385,876)
------------ ------------
INVESTING ACTIVITIES:
Cash acquired in purchase of business -- 1,179,165
Proceeds on sale of marketable securities -- 439,773
Purchase of property and equipment (183,655) (3,028,664)
Additions to deferred line installation costs (146,531) (404,734)
------------ ------------
Net cash provided by (used in) investing activities (330,186) (1,814,460)
------------ ------------
FINANCING ACTIVITIES:
Sale of Common Stock 46,667 315,963
Proceeds of loan from shareholder -- 2,600,000
Proceeds (payments) on bank borrowing (1,268,837) 2,286,704
------------ ------------
Net cash provided by (used in) financing activities (1,222,170) 5,202,667
------------ ------------
NET CHANGE IN CASH AND CASH EQUIVALENTS (2,195,471) 2,002,331
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 3,444,307 1,379,038
------------ ------------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 1,248,836 $ 3,381,369
============ ============
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid (received) during the period for:
Interest $46,138 $346,679
Tax refund -- (511,220)
Business Acquired
Fair Value of Assets -- $ 21,849,458
Less Liability Assumed -- (10,056,503)
Less: Stock Consideration for business acquired -- (12,972,127)
Cash acquired from business acquired -- 1,179,172
See notes to condensed consolidated financial statements
6
COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE A - BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated 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. They do not include all information and notes required
by generally accepted accounting principles for complete financial statements.
However, except as disclosed herein, there has been no material change in the
information disclosed in the notes to the consolidated financial statements
included in the Annual Report on Form 10-K of Covista Communications, Inc. and
Subsidiaries for the fiscal year ended January 31, 2003. In the opinion of
management, all adjustments (consisting of normal recurring accruals only)
considered necessary for a fair presentation have been included. Operating
results for the nine-month period ended October 31, 2003 are not necessarily
indicative of the results that may be expected for the year ending January 31,
2004. Certain reclassifications have been made to conform prior years' balances
to the current year presentation.
Subsequent to the issuance of the Company's unaudited interim financial
statements for the period ended October 31, 2002, the Company determined that
certain vendor credits related to disputed amounts for telecommunications costs
had been received, but not recorded as a reduction of cost of revenues in the
period such vendor credits were received. As a result, the Company restated its
unaudited results of operations from amounts previously reported in the
Company's Form 10-Q for the quarter ended October 31, 2002. A summary of the
effects of the restatement is as follows (amounts in thousands, except per share
data):
For the quarter ended October 31, 2002 For the nine months ended October 31, 2002
-------------------------------------- ------------------------------------------
As previously reported As restated As previously reported As restated
---------------------- ----------- ---------------------- -----------
Operating Loss $(1,259) $ (298) $(8,057) $(6,706)
Net Loss $(1,392) $ (431) $(7,863) $(6,512)
Loss per share - basic and diluted $ (0.11) $(0.03) $ (0.62) $ (0.52)
Revenue Recognition
The Company's revenues, net of sales discounts, are recognized in the
period in which the service is provided, based on the number of minutes of
telecommunications traffic carried, and a rate per minute. Access and other
service fees charged to customers, typically monthly, are recognized in the
period in which service is provided.
Deferred Line Installation Costs
The Company defers charges from other common carriers related to the cost
of installing telephone transmission facilities (lines). Amortization of these
costs is provided using the straight-line method over the related contract life
of the lines ranging from three to five years.
7
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities, the disclosure of contingent assets and liabilities at
the date of the consolidated financial statements and the reported amounts of
revenues and expenses during the reported period. Actual results could differ
from those estimates.
Concentrations of Credit Risk
The Company sells its telecommunications services and products primarily to
residential, small to medium size businesses, and wholesale customers. The
Company performs ongoing credit evaluations of both its retail and wholesale
customers. The Company generally does not require collateral; however, when
circumstances warrant, deposits are required. Allowances are maintained for such
potential credit losses. The Company generally has entered into offset
arrangements with certain of its customers, who are also vendors, allowing for
the ability to offset receivables against the Company's payable balance.
NOTE B - NEW ACCOUNTING PRONOUNCEMENTS
In November 2002, the FASB issued FASB Interpretation No. 45 ("FIN 45"),
"Guarantees," an interpretation of FASB Statement No. 5, "Accounting for
Contingencies." This interpretation elaborates on the disclosures to be made by
a guarantor in its interim and annual financial statements about its obligations
under certain guarantees that it has issued. Covista has adopted FIN 45 and
there has not been a material impact on its financial position or results of
operations.
In January 2003, FASB issued FASB Interpretation No. 46, Consolidation of
Variable Interest Entities ("FIN 46"). FIN 46 requires a variable interest
entity to be consolidated by a company if that company is subject to a majority
of the risk of loss from the variable interest entity's activities or entitled
to receive a majority of the entity's residual returns or both. FIN 46 also
requires disclosures about variable interest entities that a company is not
required to consolidate, but in which it has a significant variable interest.
Covista has adopted FIN 46 and there has not been a material impact on its
financial position or results of operations.
In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial
Instruments with Characteristics of Both Liabilities and Equity. SFAS No. 150
established standards for how an issuer classifies and measures certain
financial instruments with characteristics of both liabilities and equity, and
imposes certain additional disclosure requirements. The provisions of SFAS No.
150 are generally effective for all financial instruments entered into or
modified after May 31, 2003, and otherwise if effective at the beginning of the
first interim period beginning after June 15, 2003. The Company has adopted
SFAS No. 150 and there has not been a material effect on its consolidated
financial statements.
8
NOTE C - STOCK BASED COMPENSATION
The following disclosure complies with the adoption of SFAS No. 123,
amended by SFAS No. 148, "Accounting for Stock-Based Compensation - Transition
and Disclosure - an amendment of FASB Statement No. 123", and includes pro forma
net loss as if the fair value based method of accounting had been applied:
Nine Months Ended October 31,
-----------------------------
2003 2002
------ -------
Net Loss as reported (000's) $(1,836) $(6,512)
Stock-based compensation expense included in reported net loss -- --
Total stock-based compensation expense determined under fair
value based method for all options (000's) $ (215) $ (260)
------- -------
Pro forma net loss (000's) $(2,051) $(6,772)
======= =======
Basic Earnings Per Share:
As reported $ (.10) $ (0.52)
Pro forma $ (.12) $ (0.54)
Diluted Earnings Per Share:
As reported $ (.10) $ (0.52)
Pro forma $ (.12) $ (0.54)
For purposes of pro forma disclosures under SFAS 123, the estimated fair
value of the options is assumed to be amortized to expense over the options'
vesting periods. The fair value of the options granted has been estimated at the
various dates of the grants using the Black-Scholes option-pricing model with
the following assumptions:
o Fair market value based on the Company's closing Common Stock price on
the date the option is granted;
o Risk-free interest rate based on the weighted averaged U.S. treasury
note rates;
o Volatility based on the historical stock price over the expected term;
o No expected dividend yield based on future dividend payment plans.
9
NOTE D - EARNINGS PER SHARE
The following table sets forth the computation of basic and diluted loss
earnings per Common Share:
Nine Months Ended October 31, Three Months Ended October 31,
----------------------------- ------------------------------
2003 2002 2003 2002
----------- ----------- ----------- -----------
Numerator:
Income (loss) available to Common Shareholders $(1,836,161) $(6,512,255) $ (173,433) $ (430,912)
Denominator:
Weighted-average number of Common Shares 17,790,870 12,612,053 17,806,425 12,697,673
Effect of diluted securities:
Common share options (1) -- -- -- --
----------- ----------- ----------- -----------
Weighted-average number of Common Shares and diluted
potential Common Shares used in diluted loss per Common Share 17,790,870 12,612,053 17,806,425 12,697,673
----------- ----------- ----------- -----------
Basic Earnings (loss) Per Common Share $ (.10) $ (0.52) $ (.01) $ (0.03)
----------- ----------- ----------- -----------
Diluted Earnings (loss) per Common Share $ (.10) $ (0.52) $ (.01) $ (0.03)
----------- ----------- ----------- -----------
Common Shares subject to options are not included in the calculation of diluted
loss per Common Share as doing so would be antidilutive due to the net loss per
Common Share.
NOTE E - SEGMENT REPORTING
The Company sells telecommunication services to three distinct segments:
KISSLD which targets residential users; a retail segment, consisting primarily
of small to medium size businesses; and a wholesale segment, with sales to other
telecommunications carriers.
In addition to direct costs, each segment is allocated a proportion of the
Company's operating expenses, including utilization of its switching equipment
and facilities. The allocation of expenses is based upon the minutes of use
flowing through the Company's switching network. There are no intersegment
sales. When specifically identified, assets are allocated to each segment. All
intangible assets and goodwill have been allocated to the retail segment.
Capital expenditures and other assets are allocated based on total revenue.
Management evaluates performance on operating results of the three business
segments.
10
Summarized financial information (000's) concerning Covista's reportable
segments is shown in the following table:
KISSLD Retail Wholesale Total
------- ------- --------- -------
Nine Months Ended October 31, 2003
Net Sales $12,839 $48,682 $ 3,543 $65,064
Operating profit (loss) (480) (282) (839) (1,601)
Assets 5,585 32,609 2,049 40,243
Capital expenditures 35 138 11 184
Nine Months Ended October 31, 2002
Net Sales $ 5,286 $60,327 $11,389 $77,002
Operating profit (loss) (469) (5,298) (939) (6,706)
Assets 3,549 39,040 8,113 50,702
Capital expenditures 212 2,332 485 3,029
NOTE F - INCOME TAXES
For the fiscal year ended January 31, 2003, Covista established a valuation
allowance against its net deferred tax asset due to the uncertainty of realizing
certain tax credits and loss carryforwards. In the quarter ended October 31,
2003, Covista continued this accounting treatment and recorded a full valuation
allowance against the net tax benefit arising from the quarter's net operating
loss. The result is that the net deferred tax asset of approximately $3,579,000
is fully offset by the valuation allowance and as such, does not appear as an
asset on the balance sheet. It will be reflected in the Company's balance sheet
when the net deferred tax asset can be utilized in future periods or when
management's assessment is substantially changed.
NOTE G - ACQUISITION OF CAPSULE COMMUNICATIONS
On February 8, 2002, Covista completed the acquisition of Capsule
Communications, Inc., through the issuance of 1,742,320 shares of Common Stock
and the assumption of certain liabilities and stock options. As a result,
Capsule became a wholly owned subsidiary of Covista. The Company has accounted
for the combination with Capsule as a purchase business combination under SFAS
141("Business Combination").
The results of Capsule's operations have been included in the Company's
Consolidated Statement of Loss and Comprehensive Loss since the date of merger.
The total purchase price, including certain direct costs, was approximately
$12,972,000 plus assumed liabilities of approximately $10,057,000. Included in
the purchase, the Company assumed options from Capsule for the purchase of
286,975 shares of Common Stock valued at approximately $1.1 million using the
Black-Scholes Valuation Model, using an exercise price of $3.49 to $20.10,
expected lives of 0.5 to 2 years, 156% volatility, 2.69% discount rate, and a
Company stock price of $6.71. In addition, the Company incurred approximately
$0.3 million in acquisition expenses.
11
The identifiable intangible assets acquired from Capsule were classified as
its business customer relationships valued at $1,288,000, its residential
customer relationships valued at $376,000, and its agent relationships valued at
$2,526,000. These intangibles are being amortized using the straight-line method
over a weighted average period of 40 months. Goodwill and intangible assets
acquired are not deductible for tax purposes.
NOTE H - LONG TERM DEBT
The Company had a revolving $2,000,000 credit facility with Wells Fargo
Business Credit Corporation. Interest on the revolving credit facility was
calculated at the prime lending rate plus 2 3/4%, on a minimum loan balance of
$750,000. The loan was collateralized by accounts receivable and fixed and
intangible assets of the Company. This facility was terminated and paid in full
with proceeds from a new credit facility, effective April 16, 2003.
Effective April 16, 2003, Covista executed a revolving credit and security
agreement with Capital Source Finance, LLC. This credit facility provides the
Company with an $8 million line of credit of which approximately $2,100,000 was
available at October 31, 2003, based on eligible accounts receivable. An
additional $1 million becomes available upon Covista maintaining twelve
consecutive months of positive cash flow as defined in the agreement. This
thirty-six month facility allows the Company to borrow funds based on a portion
of eligible customer accounts receivable and bears interest at the Prime Rate
plus 2.00% with a floor of 6.25%. Interest, unused line and collateral
management fees are payable monthly in arrears. Covista is required to maintain
certain covenants, which include cash velocity, and fixed charge coverage ratios
as defined in the agreement. The loan is secured by all of the Company's assets.
The loan balance at October 31, 2003 was $1,427,178 and is included in current
portion of long-term debt.
On June 17, 2002, Covista entered into a term loan agreement with a major
bank. The initial principal amount of this note was $3,775,000, payable in 36
monthly installments at a fixed interest rate of 4.495% for the first year and
converting to 2% over LIBOR on June 17, 2003 and thereafter or 3.1%. Effective
June 17, 2003, Covista's Chairman of the Board paid the bank in full and assumed
the remaining balance of this loan under the identical terms and conditions.
This note is secured by certain of the Company's switching equipment. The
balance on this facility was $2,145,933 at October 31, 2003 of which $1,258,327
is classified as current.
NOTE I - COMMITMENTS AND CONTINGENCIES
The Company is involved in various legal and administrative actions arising
in the normal course of business. While the resolution of any such actions may
have an impact on the financial results for the period in which it is resolved,
management believes that the ultimate disposition of these matters will not have
a material adverse effect upon its consolidated results of operations, cash
flows or financial position.
12
ITEM 2
COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULT OF OPERATIONS
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS:
Certain matters discussed in this Quarterly Report on Form 10-Q are
"forward-looking statements" intended to qualify for the safe harbor from
liability provided by the Private Securities Litigation Reform Act of 1995.
These forward-looking statements generally can be identified as such because the
context of the statement will include words such as Covista "believes",
"anticipates", "expects", or words of similar import. Similarly, statements,
which describe Covista's future plans, objectives or goals, are also
forward-looking statements. Such forward-looking statements are subject to
certain risks and uncertainties, which are described in, close proximity to such
statements and which could cause actual results to differ materially from those
anticipated as of the date of this Report. Shareholders, potential investors and
other readers are urged to consider these factors in evaluating the
forward-looking statements and are cautioned not to place undue reliance upon
such forward-looking statements. The forward-looking statements included herein
are made only as of the date of this Report and Covista undertakes no obligation
to publicly update such forward-looking statements to reflect subsequent events
or circumstances, except as required under applicable laws.
Results of Operations
Net revenue was approximately $65,064,000 for the first nine months of the
current fiscal year, a decrease of approximately $12,939,000 or 17% as compared
to the approximately $77,002,000 recorded in the first nine months of the prior
fiscal year. Net sales for the third quarter of the current fiscal year were
approximately $20,337,000, a decrease of approximately $6,437,000 or 24% as
compared to the approximately $26,773,000 recorded in the third quarter of the
prior fiscal year.
KISSLD, a segment that was launched in January 2002, had revenue for the
nine-month period of approximately $12,838,000, an increase of approximately
$7,552,000 or 143% over the same period from the prior year. For the three-month
period ended October 31, 2003, KISSLD revenue was approximately $4,250,000, an
increase of approximately $1,364,000 or 47% versus the comparative quarter in
the last fiscal year. The total minutes sold for KISSLD for the nine-month
period ended October 31, 2003 were approximately 222,599,000, an increase of
approximately 119,127,000 or 115%, versus the comparative period in the last
fiscal year. KISSLD minutes sold for the three-month period ended October 31,
2003, were approximately 72,676,000, an increase of approximately 15,165,000
or 26% versus the comparative quarter in the last fiscal year.
KISSLD launched local telephone service in August 2003. Local service
revenue of approximately $109,000 is included in revenue for the period ended
October 31, 2003.
13
Retail revenue for the nine-month period was approximately $48,682,000, a
decrease of approximately $11,645,000 or 19%. Management believes this decline
is the result of more competitors winning accounts from the Company with
competitive bundled product offerings. For the quarter ended October 31, 2003,
retail revenue was approximately $15,051,000, a decrease of $5,737,000 or
28% versus the comparative quarter in the last fiscal year. Retail minutes sold
in the nine-month period ended October 31, 2003 were approximately 719,042,000
minutes, a decrease of approximately 105,237,000 minutes or 13%, versus the
comparative period in the last fiscal year. Retail minutes sold in the quarter
ended October 31, 2003 were approximately 222,602,000, a decrease of
approximately 53,983,000 or 20% versus the prior fiscal year.
In connection with its planned reduction, wholesale revenue for the
nine-month period was approximately $3,543,000, a decrease of approximately
$7,846,000 or 69%. For the quarter ended October 31, 2003, wholesale revenue was
approximately $1,037,000, a decrease of approximately $2,062,000 or 67% versus
the comparative quarter in the last fiscal year. Wholesale minutes sold in the
nine-month period ended October 31, 2003 were approximately 43,759,000 minutes,
a decrease of approximately 104,858,000 minutes or 71%. Wholesale minutes sold
in the quarter ended October 31, 2003 were approximately 15,529,000 minutes, a
decrease of approximately 17,049,000 minutes or 52%.
Cost of revenue for the current nine-month period ended October 31, 2003,
was approximately $35,945,000, a decrease of approximately $12,748,000 or 25%.
These changes were favorable in relation to the 17% decrease in net revenues for
the nine-month period. The decrease in cost of revenue was primarily due to a
decrease in lower margin wholesale volume of approximately $7,061,000 and net
adjustments to the reserve for disputed billings and general rate reductions of
approximately $5,687,000.
Cost of revenue for the three-month period ended October 31, 2003, was
approximately $18,612,000, a decrease of approximately $4,805,000 or 31%. These
changes were favorable in relation to the 24% decrease in revenues in the third
quarter. The decrease in cost of revenue was primarily due to a decrease in
lower margin wholesale volume of approximately $1,856,000 and net adjustments to
the reserve for disputed billings and general rate reductions of approximately
$2,949,000.
Selling, general and administrative expenses for the nine-month period were
approximately $26,185,000, a decrease of approximately $4,532,000 or 15%. The
change for the nine-month period was primarily due to payroll related cost
reductions of approximately $1,438,000, advertising expense reductions of
approximately $2,240,000, reduction in building rent of approximately $503,000
in addition to net decreases in other components of approximately $351,000. For
the quarter ended October 31, 2003, selling, general and administrative expense
was approximately $8,377,000, an approximate $1,470,000, or 15% decrease over
the comparative quarter in the last fiscal year. For the three month period
ended October 31, 2003, the change was comprised primarily of commission
reductions of approximately $479,000, advertising expense reductions of
approximately $362,000, reduced office expense of approximately $244,000,
reduced postage and billing expense of approximately $70,000 in addition to net
decreases in other categories of approximately $315,000.
14
For the reasons described above, the operating loss for the nine-month
period ended October 31, 2003 was approximately $1,601,000, a favorable decrease
of approximately $5,105,000 from the nine-month period ended October 31, 2002.
The operating loss for the three-month period ended October 31, 2003 was
approximately $106,000, a decrease of approximately $192,000 over the prior
year's three-month period ended October 31, 2002.
During the quarter ended July 31, 2002, Covista received a tax refund of
$511,220; which reflected a change in IRS regulations regarding net operating
loss carrybacks.
Basic and diluted loss per Common Share was $(.10) per share for the
current nine-month period ended October 31, 2003 as compared to $(.52) loss per
share for the nine-months ended October 31, 2002. Basic and diluted loss per
Common Share was $(.01) per share for the current three-month period ended
October 31, 2003, as compared to a loss of $(0.03) per Common Share for the
three-months ended October 31, 2002.
Liquidity and Capital Resources
At October 31, 2003, Covista had a working capital deficit of approximately
$7,894,000, a favorable decrease of approximately $1,642,000 as compared to
January 31, 2003. The ratio of current assets to current liabilities at October
31, 2003 was 60:1, as compared to the ratio of .62:1 at January 31, 2003.
In the opinion of management, cash flow from operations as well as cash
available under the revolving credit security agreement will be sufficient to
meet the operating and capital needs of the Company for at least the next twelve
months.
The decrease in cash of approximately $2,195,000 was the result of net cash
used in operating activity of approximately $643,000, net cash used in investing
activity of approximately $330,000 and net cash used in financing activities of
approximately $1,222,000.
Capital Expenditures
Capital expenditures for the nine-month period ended October 31, 2003 were
approximately $184,000. Capital expenditures for the remainder of Fiscal 2004
are estimated not to exceed approximately $250,000 and are expected to be funded
from operations.
Prepaid Network Capacity
In July 2001, Covista purchased 2.8 billion DS-0 channel miles of
telecommunications network capacity from an unaffiliated party. The unaffiliated
party has recently emerged from Chapter 11 reorganization, and has continued
to perform under the agreement and therefore, management does not believe that
this asset is impaired.
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As of the date hereof, Covista has used approximately 248 million DS-0
channel miles of telecommunications network capacity against the 2.8 billion
DS-0 total prepaid network capacity, of which $400,000 has been classified as a
current asset, based on anticipated usage in the next 12 months and the
remainder of the prepaid capacity amount of approximately $2,667,000 is included
in intangible assets.
Accounts Receivable and Credit Risk
Accounts receivable subjects Covista to the potential for credit risk with
customers in the retail and wholesale segments. To reduce credit risk, Covista
performs ongoing evaluations of its customers' financial condition and, except
in situations where the risk warrants it, Covista does not require a deposit or
other collateral. Accounts receivable of approximately $13,170,000, net of the
reserve for uncollectible accounts totaling approximately $1,891,000, represents
approximately 28% of the total assets of Covista.
No one customer accounts for greater than 2% of the total revenues.
In the wholesale segment, which contains Covista's largest customers,
Covista has been able to reduce credit risk by using reciprocal arrangements
with certain customers, which are also Covista's suppliers, to offset
outstanding receivables. Covista has historically maintained a better than three
percent ratio of bad debts to revenues. For the nine-month period ended October
31, 2003, this ratio was approximately 2%. Covista also measures accounts
receivable turnover (as measured in days sales outstanding). For the periods
ended October 31, 2003 and 2002, days sales outstanding were 50 days and 57
days, respectively.
Related Party Transactions
Jay J. Miller, a Director of Covista, has provided various legal services
for Covista in Fiscal 2004. In the third quarter, Covista accrued approximately
$8,000 to Mr. Miller for services rendered. As of October 31, 2003, Covista owed
Mr. Miller $58,000.
Leon Genet, a Director of Covista, has provided agent services for Covista
through his wholly owned firm, LPJ, Inc. During the third quarter, Fiscal 2004,
LPJ, Inc. was paid commissions of approximately $13,000. The commissions paid to
LPJ, Inc. were computed on the same basis as other independent agents retained
by Covista.
Jeff Alward, a relative of Kevin Alward, Chief Operating Officer of
Covista, has provided agent services for Covista through his wholly owned firm,
KTI, Inc. During the third quarter, Fiscal 2004, KTI, Inc. was paid commissions
of approximately $25,000. The commissions paid to KTI, Inc. were computed on
the same basis as other independent agents retained by Covista.
On June 17, 2002, Covista entered into a term loan agreement with a major
bank. The initial principal amount of this note was $3,775,000, payable in 36
monthly installments at a fixed interest rate of 4.495% for the first year and
converting to 2% over LIBOR on June 17, 2003 and thereafter or 3.1%. Effective
June 17, 2003, Covista's Chairman of the Board paid the bank in full and assumed
the remaining balance of this loan under the identical terms and conditions.
This note is secured by certain of the Company's switching equipment. The
balance on this facility was $2,145,933 at October 31, 2003 of which $1,268,327
is classified as current.
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CRITICAL ACCOUNTING POLICIES
Nature of Operations
Covista Communications, Inc. ("Covista"), and its wholly-owned subsidiaries
(collectively, "Covista" or the "Company") operates as a switch based resale
common carrier providing domestic and international long distance
telecommunications service to customers throughout the United States. Prior to
the Capsule acquisition, the Company's principal customers were primarily
businesses and other common carriers. On September 15, 2000, the Company changed
its name from Total-Tel USA Communications, Inc. to Covista Communications, Inc.
On February 8, 2002, Covista completed the acquisition of Capsule
Communications, Inc. As a result, Capsule became a wholly owned subsidiary of
Covista. Capsule is a switch-based interexchange carrier providing long distance
telephone communications services primarily to small and medium-size business
customers as well as residential accounts. The results of Capsule's operations
have been included in the Company's consolidated statements of operations and
comprehensive loss since the acquisition date.
Revenue Recognition
Covista's revenues, net of sales discounts, are recognized in the period in
which the service is provided, based on the number of minutes of
telecommunications traffic carried, and a rate per minute. Access and other
service fees charged to customers, typically monthly, are recognized in the
period in which service is provided.
Property and Equipment
Property and equipment are stated at cost. Depreciation and amortization is
being provided by use of the straight-line method over the estimated useful
lives of the related assets. Leasehold improvements are amortized over the
shorter of the term of the lease or the useful lives of the asset.
The estimated useful lives of the principal classes of assets are as follows:
Classification Years
- -------------- -----
Machinery and equipment 5-10
Office furniture, fixtures and equipment 5-10
Vehicles 3-5
Leasehold improvements 2-10
Computer equipment and software 5-7
Deferred Line Installation Costs
Deferred line installation costs are costs incurred by Covista for new
facilities and costs incurred for connections from within the Covista's network
to the network of other telecommunication suppliers. Amortization of such line
installation costs is provided using the straight-line method over the contract
life of the lines ranging from three to five years.
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Intangible Assets
Intangible assets consist of prepaid network capacity and purchased
customer and agent relationships being amortized over a straight-line basis over
periods varying between 10 and 120 months.
Goodwill
Goodwill consists of the excess purchase price over the fair value of
identifiable net assets of acquired businesses. Goodwill added subsequent to
January 1, 2002 is not being amortized in accordance to SFAS 142. The carrying
value of goodwill is evaluated for impairment on an annual basis. Management
also reviews goodwill for impairment whenever events or changes in circumstances
indicate that the carrying amount of goodwill may be impaired.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect the reported amounts of
assets and liabilities, the disclosure of contingent assets and liabilities at
the date of the consolidated financial statements and the reported amounts of
revenues and expenses during the reported period. Actual results could differ
from those estimates.
Vendor Disputes
The Company records disputed line cost expenses in accordance with FASB
Statement No. 5, "Accounting for Contingencies". Billings from line cost vendors
are compared to the Company's engineering and operations data, with differences
filed with the vendors as a disputed billing. Disputed line cost billings are
recorded by the Company at the estimated liability due based upon the Company's
historical experience in settling similar disputes. Actual settlement of
disputes may differ from original estimates. Management adjusts the dispute
reserve each month. The net reserve for dispute losses at October 31, 2003 is
approximately $2.2 million.
Concentrations of Credit Risk
The Company sells its telecommunications services and products primarily to
small to medium size businesses, residential and wholesale customers. The
Company performs ongoing credit evaluations of both its retail and wholesale
customers. The Company generally does not require collateral; however, when
circumstances warrant, deposits are required. Recent conditions in the
telecommunications industry have given rise to an increase in potential doubtful
accounts. Allowances are maintained for such potential credit losses. The
Company has entered into offset arrangements with certain of its customers, who
are also vendors, allowing for the ability to offset receivables against the
Company's payables balance.
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Market Risk
Market risk represents the risk of changes in value of a financial
instrument, derivative or non-derivative, caused by fluctuations in interest
rates, foreign exchange rates and equity prices. As Covista holds no marketable
securities at October 31, 2003, the exposure to interest rate risk relating to
marketable securities no longer exists. Covista does not hold any derivatives
related to its interest rate exposure. Covista also maintains long-term debt at
fixed rates. Due to the nature and amounts of Covista's note payable, an
immediate 10% change in interest rates would not have a material effect in
Covista's results of operations over the next fiscal year. Covista's exposure to
adverse changes in foreign exchange rates is also immaterial to the consolidated
statements as a whole.
Cash and Cash Equivalents
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents. Cash and cash
equivalents consist of cash on hand, demand deposits and money market accounts.
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COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES
PART II - OTHER INFORMATION
ITEMS 1 - 5 Not applicable
ITEM 6 Exhibits and Reports on Form 8K
31.1 Certification of A. John Leach, Jr., Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (filed herewith)
31.2 Certification of Frank J. Pazera, Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002 (filed herewith)
32.1 Certification of A. John Leach, Jr., Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 (furnished to the Commission
herewith)
32.2 Certification of Frank J. Pazera, Pursuant to 18 U.S.C.
Section 1350, as Adopted Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002 (furnished to the Commission
herewith)
Reports on Form 8-K
The following Current Reports on Form 8-K were filed by us during the three
months ended October 31, 2003:
1. Current Report on Form 8-K dated September 12, 2003, furnishing our
earnings press release for the quarter ended July 31, 2003.
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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.
COVISTA COMMUNICATIONS, INC.
(Registrant)
Date: December 12, 2003 By: /s/ A. John Leach, Jr.
-----------------------------------------
A. John Leach, Jr.
President and Chief Executive Officer
Date: December 12, 2003 By: /s/ Frank J. Pazera
-----------------------------------------
Executive Vice President, Chief Financial
Officer and Principal Accounting Officer
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