UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC. 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................................September 30, 1999
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 0-19437
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)
2401 FOURTH AVENUE, 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
2,281,493 Common Shares were outstanding as of November 12, 1999.
Page 1
CELLULAR TECHNICAL SERVICES COMPANY, INC.
TABLE OF CONTENTS FOR FORM 10-Q
PART I. FINANCIAL INFORMATION........................................................3
ITEM 1. FINANCIAL STATEMENTS.........................................................3
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS................................................................7
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK..................15
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS...........................................................15
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K............................................15
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CELLULAR TECHNICAL SERVICES COMPANY, INC.
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
BALANCE SHEETS
(in 000's, except per share amounts)
SEPTEMBER 30, DECEMBER 31,
1999 1998
(unaudited) (audited)
------------------ ------------------
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 5,578 $ 1,567
Accounts receivable, net of allowances of $5 in 1999 and $72 in 1998 1,222 2,860
Inventories, net 670 1,014
Prepaid expenses and other current assets 183 185
------------------ ------------------
Total Current Assets 7,653 5,626
PROPERTY AND EQUIPMENT, net 1,031 1,941
SOFTWARE DEVELOPMENT COSTS, net 236 535
------------------ ------------------
TOTAL ASSETS $ 8,920 $ 8,102
================== ==================
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable and accrued liabilities $ 971 $ 1,358
Payroll related liabilities 527 470
Taxes (other than payroll) 31 128
Deferred revenue and customers' deposits 2,324 3,074
------------------ ------------------
Total Current Liabilities 3,853 5,030
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 23 23
authorized, 2,281 shares issued and outstanding at
Sept. 30, 1999 and Dec. 31, 1998
Additional paid-in capital 29,931 29,931
Accumulated Deficit (24,887) (26,882)
------------------ ------------------
Total Stockholders' Equity 5,067 3,072
------------------ ------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 8,920 $ 8,102
================== ==================
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The accompanying notes are an integral part of these financial statements.
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CELLULAR TECHNICAL SERVICES COMPANY, INC.
STATEMENTS OF OPERATIONS
(in 000's, except per share amounts)
(unaudited)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------------------- -----------------------------------
1999 1998 1999 1998
--------------- --------------- --------------- ---------------
REVENUES
Systems $ 421 $ 516 $ 1,597 $ 3,839
Services 2,155 1,900 6,534 5,423
--------------- --------------- --------------- ---------------
Total Revenues 2,576 2,416 8,131 9,262
COSTS AND EXPENSES
Cost of systems and services 886 3,373 2,999 10,515
Sales and marketing 176 124 517 762
General and administrative 544 516 1,696 1,920
Research and development 402 862 1,241 3,941
--------------- --------------- --------------- ---------------
Total Costs and Expenses 2,008 4,875 6,453 17,138
--------------- --------------- --------------- ---------------
INCOME (LOSS) FROM OPERATIONS 568 (2,459) 1,678 (7,876)
OTHER INCOME, net 112 (5) 128 (334)
INTEREST INCOME, net 116 17 214 56
--------------- --------------- --------------- ---------------
INCOME (LOSS) BEFORE INCOME TAXES 796 $ (2,447) 2,020 $ (8,154)
PROVISION FOR INCOME TAXES 12 28
--------------- --------------- --------------- ---------------
NET INCOME (LOSS) $ 784 $ (2,447) $ 1,992 $ (8,154)
=============== =============== =============== ===============
EARNINGS (LOSS) PER SHARE:
Basic $ 0.34 $ (1.07) $ 0.87 $ (3.57)
=============== =============== =============== ===============
Diluted $ 0.34 $ (1.07) $ 0.87 $ (3.57)
=============== =============== =============== ===============
WEIGTED AVERAGE SHARES OUTSTANDING:
Basic 2,281 2,281 2,281 2,281
Diluted 2,298 2,281 2,287 2,281
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The accompanying notes are an integral part of these financial statements.
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CELLULAR TECHNICAL SERVICES COMPANY, INC.
STATEMENTS OF CASH FLOWS
(in 000's)
(unaudited)
NINE MONTHS ENDED
SEPTEMBER 30,
--------------------------------------
1999 1998
---------------- -----------------
OPERATING ACTIVITIES
Net income (loss) $ 1,992 $ (8,154)
Adjustments to reconcile net income (loss) to net cash provided by (used in)
operating activities:
Depreciation and amortization of property and equipment 672 1,120
Amortization and write off of software development costs 298 2,540
Loss on disposal of assets 232 334
Provision for accounts receivable reserves 0 (58)
Provision for inventory reserves 165 2,685
Other non cash charges (7) 42
Changes in operating assets and liabilities:
Decrease in accounts receivable 1,639 1,639
Decrease in inventories 180 868
Decrease in prepaid expenses and other current assets 2 21
(Decrease) in accounts payable and accrued liabilities (387) (1,342)
Increase (Decrease) in payroll related liabilities 59 (439)
(Decrease) in taxes (other than payroll and income) (97) (485)
(Decrease) increase in deferred revenue and customers' deposits (750) 330
---------------- ----------------
NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES 3,998 (899)
INVESTING ACTIVITIES
Purchase of property and equipment (4) (159)
Proceeds from sale of assets 17 156
Capitalization of software development costs 0 (570)
---------------- ----------------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 13 (573)
FINANCING ACTIVITIES 0 0
---------------- ----------------
NET CASH PROVIDED BY FINANCING ACTIVITIES 0 0
---------------- ----------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 4,011 (1,472)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 1,567 3,448
---------------- ----------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 5,578 $ 1,976
================ ================
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The accompanying notes are an integral part of these financial statements.
Page 5
CELLULAR TECHNICAL SERVICES COMPANY, INC.
NOTES TO FINANCIAL STATEMENTS
NOTE A - BASIS OF PRESENTATION:
The accompanying unaudited financial statements of Cellular Technical Services
Company, Inc. (the "Company"), including the December 31, 1998 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 generally accepted accounting principles 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 and nine month periods ended
September 30, 1999 are not necessarily indicative of the results that may be
expected for the fiscal year ending December 31, 1999. The Company does not
separately disclose comprehensive income because it does not have any components
of comprehensive income other than net income. 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, 1998.
NOTE B - INVENTORIES:
Inventory consists of the following (in 000's):
SEPTEMBER 30, DECEMBER 31,
1999 1998
----------------- ----------------
Inventory, primarily service parts $ 3,700 $ 3,815
Less inventory reserves (3,030) (2,801)
----------------- ------------------
$ 670 $ 1,014
================= ==================
NOTE C - CONTINGENCIES:
The following legal matters are outstanding as of September 30, 1999:
In January 1998, Communications Information Services, Inc. filed an action
against the Company and AirTouch Communications, Inc. for alleged infringement
of United States Patent No. 5,329,591 ("the '591 patent") in the United States
District Court for the Northern District of Georgia at Atlanta. In January 1999,
the Court granted the Company's motion to transfer this lawsuit to the United
States District Court for the Western District of Washington. The complaint
asserts that the plaintiff is the exclusive licensee of all rights under the
'591 patent, alleges that the Company's cellular telephone fraud prevention
technology infringes the '591 patent, and seeks damages in unspecified amounts.
The Company believes this lawsuit is without merit and is vigorously defending
against it. Although no estimate of any outcome of this action can currently be
made, an unfavorable resolution of this lawsuit could have a material adverse
effect on the Company's liquidity, financial condition and results of
operations.
From time to time, the Company is also a party to other legal proceedings in the
ordinary course of business and/or which management believes will be resolved
without a material adverse effect on the Company's liquidity, financial
condition or results of operations.
NOTE D - REVERSE STOCK SPLIT:
On January 5, 1999, the Company implemented a one-for-ten stock combination
(reverse stock split) pursuant to the stockholders' approval at the Company's
annual meeting of stockholders on December 14, 1998. All outstanding common
shares and per share amounts in the accompanying financial statements have been
retroactively adjusted to give effect to the one-for-ten stock combination.
Page 6
NOTE E - EARNINGS (LOSS) PER SHARE:
The calculation of basic and diluted earnings per share is as follows (in 000's,
except per share amounts):
THREE MONTHS ENDED SEPT. 30, NINE MONTHS ENDED SEPT. 30,
------------------------------------- ---------------------------------------
1999 1998 1999 1998
---------------- ---------------- ---------------- ------------------
Net income (loss) $ 784 $ (2,447) $ 1,992 $ (8,154)
================ ================ ================ ==================
Weighted average number of shares:
for basic earnings per share 2,281 2,281 2,281 2,281
Effect of dilutive securities:
Employee stock options
17 - 6 -
---------------- ---------------- ---------------- ------------------
Weighted average number of shares:
for diluted earnings per share 2,298 2,281 2,287 2,281
================ ================ ================ ==================
Net income (loss) per share - Basic $ 0.34 $ (1.07) $ 0.87 $ (3.57)
================ ================ ================ ==================
Net income (loss) per share - Diluted $ 0.34 $ (1.07) $ 0.87 $ (3.57)
================ ================ ================ ==================
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.
SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS
This Quarterly Report on Form 10-Q for Cellular Technical Services Company, Inc.
(the "Company") 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 uncertainties described in
the Company's Annual Report on Form 10-K for the year ended December 31, 1998
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's goal is to be a premier provider of real-time information
processing and information management solutions for the wireless communications
industry. Over the past 11 years, the Company has used its extensive experience
with real-time wireless call processing to create technologically advanced
solutions for this industry.
Today, the Company develops, markets and supports both software and hardware as
part of its integrated solution for wireless communications fraud management.
The Company's radio frequency ("RF") based suite of 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 ("Blackbird Platform Products"). The Blackbird Platform Products
are currently used to address the wireless communications industry's need to
more effectively combat "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
Page 7
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 Blackbird Platform is also designed to support a broad range of
products and services for the wireless communications industry, including both
fraud and non-fraud products and services. The Company believes that the open,
scalable architecture of the Blackbird Platform allows it and others to develop
applications that run on or exchange information with the Blackbird Platform to
meet the needs of this industry.
Over the past three years, the Company has entered into agreements with AirTouch
Cellular and certain affiliates, Bell Atlantic Mobile and certain affiliates,
GTE Mobilnet of California Limited Partnership, GTE Wireless Service Corp.,
Ameritech Mobile Communications, Inc. and SNET Mobility to deploy and support
Blackbird Platform Products. In 1998, revenue from Blackbird Platform Products
represented substantially all of the Company's total revenue, and the Company
anticipates that revenue from Blackbird Platform Products will continue to
represent substantially all of the Company's total revenue in 1999. Until the
Company's launch of the Blackbird Platform Products in 1996, the Company's
revenue had been derived primarily from the Company's Hotwatch'r' Platform and
related application products and services ("Hotwatch Platform Products"), which
provide credit management and prepaid billing applications and services to the
wireless communications industry.
As previously reported, the Company implemented an aggressive restructuring plan
during 1998 after incurring significant operating losses during 1996 and 1997.
The restructuring plan had three specific objectives: reduce expenses, achieve
positive cash flow by the end of 1998 and return the Company to sustainable
profitability in 1999. The plan called for a significant reduction in workforce
and related expenses, a consolidation of facilities and equipment, the sale of
underutilized assets, and management changes. These restructuring initiatives
began to yield positive results in the third and fourth quarters of 1998. As
reflected in this report, the Company's financial position continued to improve
during the first three quarters of 1999, achieving both profitability and
positive cash flow during the periods.
REVENUE GENERATION
The Company currently generates revenue through two sources: systems revenue and
service revenue.
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. Revenue is recognized when all of the following conditions are met:
(i) persuasive evidence of an arrangement exists;
(ii) delivery has occurred and all contractual obligations and other
elements that are essential to the functionality of the delivered
products have been satisfied;
(iii) the amount is fixed and determinable; and
(iv) collectability is probable.
Revenue is deferred for non-essential undelivered elements, based on vendor
specific objective evidence ("VSOE") of the fair value for all elements of the
arrangement. VSOE is typically 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.
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. Hardware and software maintenance
generally begins after system acceptance. Prepaid or allocated maintenance and
services are recorded as deferred revenue.
Page 8
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
elements 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. The significant factors used in
determining revenue recognition generally include physical hardware and software
delivery, definitions of system delivery and customer acceptance. For those
agreements which provide for payment based upon meeting actual performance
criteria, the Company may record a portion of the systems revenue and the
majority of the systems costs at shipment or during the early stages of a system
deployment. In certain cases no systems revenue may be recorded at time of
shipment, while certain operating costs may be recorded during the deployment
process. Accordingly, revenue and direct margin recorded by the Company can be
expected to be lower in earlier periods of deployment and inconsistent from
quarter to quarter, especially during the initial market deployments under new
agreements. The resulting deferral of revenue is recognized in subsequent
periods upon meeting the performance criteria specified in the applicable
agreement. The Company does not operate with a significant revenue backlog.
COSTS AND EXPENSES
Costs of systems and services are primarily comprised of the costs of: (i)
equipment, which includes both proprietary and third-party hardware and, to a
lesser extent, manufacturing overhead and related expenses; (ii) amortization of
capitalized software development costs; (iii) system integration and
installation; (iv) royalty fees related to the licensing of intellectual
property rights from others; (v) customer support; and (vi) 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 product lines.
The Company expects that its costs and expenses in these and other areas will be
lower in 1999 than in 1998, but will continue to be incurred in the future, due
to the ongoing need to: (i) make investments in research and development; (ii)
enhance its sales and marketing activities; (iii) enhance hardware maintenance
processes; (iv) enhance its customer support capabilities; and (v) enhance its
general and administrative activities.
THREE MONTHS ENDED SEPTEMBER 30, 1999 COMPARED TO THREE MONTHS ENDED SEPTEMBER
30, 1998
Overview
Total revenue increased 7% to $2,576,000 in 1999 from $2,416,000 in 1998. Net
income was $784,000, or $0.34 per share, in 1999 compared to a loss of
$2,447,000, or $1.07 per share, in 1998. The Company recognized an alternative
minimum tax expense of $12,000 during the 1999 period.
The Company attributes the increase in revenue to: (i) completion of the major
portion of a Blackbird system upgrade for a key customer during the third
quarter of 1999; and (ii) increased service and monitoring revenue from the
Company's Blackbird Platform Products. The improved operating results are
attributable to: (a) cost reductions resulting from the Company's 1998
restructuring plan that included, among other initiatives, streamlining the
Company's operations, reducing its workforce and consolidating its facilities;
(b) increased service revenue originating from a larger installed base of
systems; and (c) revenue from additional recurring services provided by the
Company.
Revenue
Systems revenue decreased 18% to $421,000 in 1999 from $516,000 in 1998 due to
(i) a reduction in domestic market opportunities for the Company's cloning fraud
prevention technology due to the deployment of authentication-based products to
combat cloning fraud; (ii) lower market penetration than originally planned of
Blackbird Platform Products; and (iii) the lack of additional new sales of the
Company's cloning fraud prevention technology in 1999. All of such revenue was
from customers of the Company's Blackbird Platform Products.
Page 9
Service revenue increased 13% to $2,155,000 in 1999 from $1,900,000 in 1998.
Approximately 96% and 93%, respectively, of the 1999 and 1998 total service
revenue was derived from the Blackbird Platform Products. This increase is
attributable to growing service revenue originating from a larger installed base
of Blackbird Platform Products in the current period as compared to 1998 and to
a reduction in revenue from the Hotwatch Products.
Costs of Systems and Services
Costs of systems and services, the majority of which relate to the Company's
Blackbird Platform Products, decreased 74% to $886,000 in 1999 from $3,373,000
in 1998. Costs of systems and services, as a percent of total revenue, were 34%
and 140% for the 1999 and 1998 periods, respectively. The decrease in the
amounts and/or percentages of costs for 1999 relative to 1998 reflects:
(i) cost reductions implemented in 1998 in connection with the Company's
1998 restructuring plan;
(ii) reduced inventory reserve additions and capitalized software
amortization;
(iii) increased service revenue in 1999, resulting from an increased
leveraging of its fixed customer support operating expenses; and
(iv) lower costs associated with the decrease in systems revenue in 1999 as
discussed above.
Operating Expenses
Sales and marketing expenses increased 42% to $176,000 in 1999 from $124,000 in
1998 The increase in sales and marketing expenses is primarily attributable to
rebuilding the sales and marketing organizations in the 1999 period.
General and administrative expenses increased 5% to $544,000 in 1999 from
$516,000 in 1998 primarily due to increased legal expenses and accruals with
respect to the Company's 1999 profit sharing plan.
Research and development costs decreased 53% to $402,000 in 1999 from $862,000
in 1998. The decrease in expenditures in 1999 was primarily attributable to
reduced staffing levels in connection with the Company's 1998 restructuring plan
and was partially offset by spending on product enhancements and new product
research.
Other Income, net
Other income was $112,000 in 1999 compared to a loss of $5,000 in 1998. A net
state sales tax refund of $357,000 was received in the 1999 period. Net losses
on dispositions of fixed assets were $245,000 in 1999 and $5,000 in 1998.
Interest Income, net
Interest income increased 582% to $116,000 in 1999 from $17,000 in 1998, and
resulted from higher average cash balances, interest income earned on customer
account balances and interest earned on a state sales tax refund received in the
1999 period.
NINE MONTHS ENDED SEPTEMBER 30, 1999 COMPARED TO NINE MONTHS ENDED SEPTEMBER 30,
1998
Overview
Total revenue decreased 12% to $8,131,000 in 1999 from $9,262,000 in 1998. Net
income was $1,992,000, or $0.87 per share, in 1999 compared to a loss of
$8,154,000, or $3.57 per share, in 1998. The Company recognized an alternative
minimum tax expense of $28,000 during the 1999 period.
Page 10
While the Company enjoyed increased service revenue as described below, the
Company attributes the total lower revenue to: (i) a reduction in domestic
market opportunities for the Company's cloning fraud prevention technology due
to the deployment of authentication-based products to combat cloning fraud; (ii)
lower market penetration than originally planned of Blackbird Platform Products;
and (iii) the lack of additional new sales of the Company's cloning fraud
prevention technology in 1999.
The improved operating results are attributable to: (i) cost reductions
attributable to the benefits of the Company's 1998 restructuring plan, that
included, among other initiatives, streamlining the Company's operations,
reducing its workforce and consolidating its facilities; (ii) increased service
revenue originating from an increased installed base of systems; and (iii)
additional recurring services provided by the Company.
Revenue
Systems revenue decreased 58% to $1,597,000 in 1999 from $3,839,000 in 1998 due
to the factors discussed above, and represents revenue from customers of the
Company's Blackbird Platform Products.
Service revenue increased 20% to $6,534,000 in 1999 from $5,423,000 in 1998.
Approximately 96% and 93%, respectively, of the 1999 and 1998 total service
revenue was derived from the Blackbird Platform Products. This increase is
attributable to increased service revenue originating from a larger installed
base of Blackbird Platform Products in the current period as compared to 1998
and additional recurring services performed in the current period as compared to
1998, offset by a reduction in revenue from the Hotwatch Products.
Costs of Systems and Services
Costs of systems and services, which primarily relate to the Company's Blackbird
Platform Products, decreased 71% to $2,999,000 in 1999 from $10,515,000 in 1998.
Costs of systems and services, as a percent of total revenue, were 37% and 114%
for the 1999 and 1998 periods, respectively. The decrease in the amounts and/or
percentages of costs for 1999 relative to 1998 reflects:
(i) cost reductions implemented in 1998 in connection with the Company's
1998 restructuring plan;
(ii) reduced inventory reserve additions and capitalized software
amortization;
(iii) increased service revenue in 1999, resulting from an increased
leveraging of its fixed customer support operating expenses; and
(iv) lower costs associated with the decrease in systems revenue in 1999 as
discussed above.
Operating Expenses
Sales and marketing expenses decreased 32% to $517,000 in 1999 from $762,000 in
1998. Sales and marketing expenses, as a percent of total revenue, decreased to
6% in 1999 from 8% in 1998. Both the dollar and percentage decreases in sales
and marketing expenses are attributable primarily to reductions in average
staffing levels and related expenses in connection with the Company's 1998
restructuring plan.
General and administrative expenses decreased 12% to $1,696,000 in 1999 from
$1,920,000 in 1998 and primarily reflect a reduction in staffing levels and
related expenses in connection with the Company's 1998 restructuring plan.
Research and development costs decreased 69% to $1,241,000 in 1999 from
$3,941,000 in 1998. The decrease in expenditures in 1999 was primarily
attributable to reduced staffing levels in connection with the Company's 1998
restructuring plan and was partially offset by spending on product enhancements
and new product research.
Page 11
Other Income, net
Other income was $128,000 in 1999 compared to a loss of $334,000 in 1998. A net
state sales tax refund of $357,000 was received in the 1999 period. Net losses
on dispositions of fixed assets were $232,000 in 1999 and $334,000 in 1998.
Interest Income, net
Interest income increased 282% to $214,000 in 1999 from $56,000 in 1998, and
resulted from higher average cash balances, interest income earned on customer
accounts and interest earned on a state sales tax refund received in the 1999
period.
LIQUIDITY AND CAPITAL RESOURCES
Overview
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 issuance of common stock (including
proceeds from the exercise of warrants and options) and from operating profits
in certain periods. On September 30, 1999, the Company's cash balance was
$5,578,000 as compared to $1,567,000 on December 31, 1998. The Company's working
capital increased to $3,800,000 at September 30, 1999 from $596,000 at December
31, 1998.
Cash Provided by Operating Activities
Cash provided by operating activities amounted to $3,998,000 in 1999, as
compared to cash used in operating activities of $899,000 in 1998. The major
factor contributing to the Company's increased cash flow from operating
activities in the 1999 period was the $1,992,000 net income recorded in 1999 as
compared to a $8,154,000 net loss in 1998. Additionally, non-cash charges
including depreciation, amortization and changes in balance sheet accounts
contributed to the 1999 increase in operating cash flow when compared to the
prior year period.
Cash Provided by Investing Activities
Cash provided by investing activities totaled $13,000 in 1999, compared to cash
used in investing activities of $573,000 in 1998. The amounts in the 1998 period
were primarily for capitalization of software development of the Blackbird
Platform Products, which ceased during the second quarter of 1998. At September
30, 1999, the Company had no significant commitments for capital expenditures.
Operating Trends
The Company earned $1,992,000 in the first three quarters of 1999, compared to
operating losses of $10,860,000 and $5,046,000 for the years ended December 31,
1998 and 1997, respectively. Net non-cash charges included in the operating
losses were $1.4 million in the first three quarters of 1999, $9.9 million for
the twelve months ended December 31, 1998 and $5.5 million for the twelve months
ended December 31, 1997. As of September 30, 1999, the Company had an
accumulated deficit of $24,887,000, which primarily accumulated during the three
years ended December 31, 1998. During 1998, in response to such unfavorable
operating results, the Company implemented its 1998 restructuring plan, which is
described elsewhere in this report. Through the end of the first three quarters
of 1999, the results of the Company's 1998 plan showed significant improvement
in profitability and cash flow, as reflected in the following table:
Page 12
Unaudited operating information for the past six quarters (in 000's)
CASH PROVIDED BY
NET (USED IN) OP.
THREE MONTHS ENDED: REVENUE INCOME (LOSS) ACTIVITIES EBITDA+
------------------------- ----------------- ---------------- ----------------------- --------------
June 30, 1998 $3,423 ($3,916) $1,185 ($527)
September 30, 1998 2,416 (2,447) (634) 34
December 31, 1998 2,712 (2,706) (530) 532
March 31, 1999 2,764 515 927 964
June 30, 1999 2,791 694 1,459 957
September 30, 1999 2,576 784 1,612 1,222
The EBITDA+ information shown above reflects earnings (loss) before interest and
taxes, and certain non-cash charges to operations for depreciation,
amortization, losses on disposal of assets and inventory reserves. This is one
of the Company's important cash flow monitoring tools in evaluating the
effectiveness of its 1998 restructuring plan and its current operations. The
positive trends experienced during each of the last six quarterly periods show
the effectiveness of the 1998 restructuring plan towards achieving the Company's
goals of both positive cash flow by the end of 1998 and profitability during
1999. However, 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. While the Company believes
that its current cash reserves and projected cash flow from operations provide
sufficient cash to fund its operations for at least the next twelve months,
unanticipated changes in customer needs and/or other external factors may
require additional financing and/or further expense reductions.
Year 2000 Compliance
The Company is currently utilizing internal resources and, where appropriate,
outside resources to comprehensively identify, evaluate and resolve, in a timely
manner, the potential impact of the year 2000 and beyond processing of
date-sensitive information as it applies to the Company's business. Generally,
year 2000 processing issues are the result of systems that use two digits
(rather than four digits) to define the applicable year. Thus, for example, any
system that utilizes date-sensitive coding may recognize a date using "00" as
the year 1900 rather than the year 2000. Year 2000 processing issues also may
arise in other contexts, such as certain leap year calculations and in systems
that use certain dates to provide special functionality. Any of these year 2000
processing issues could result in miscalculations or system failures causing
disruptions to products, services, or operations.
To address year 2000 processing issues, the Company formed a cross-functional
task force, headed by senior management, to evaluate the risks and implement
appropriate remediation and contingency plans. As part of its efforts, the
Company divided its systems that process date-sensitive information into the
following three categories: (i) Blackbird Platform Products; (ii) Hotwatch
Platform Products; and (iii) systems used in the Company's internal operations.
Each of these categories may include internally-developed applications,
third-party applications, operating systems, outsourced systems and interfaces
with external systems. Overall, the Company believes that its year 2000
compliance projects will be completed in a timely manner. The general status of
each of these categories is described below.
Blackbird Platform Products - The Company has substantially completed its
assessment of year 2000 compliance for its Blackbird Platform Products. The
Company believes that its software incorporated in these products is year 2000
compliant, so long as all necessary software and hardware with which it operates
is also year 2000 compliant. With respect to third-party software incorporated
in or operating with these products, all vendors of such software have indicated
that their software is year 2000 compliant, and the Company either has or is in
the process of installing software upgrades, as appropriate. In addition, the
Company has conducted internal tests which indicate that the Blackbird Platform
Products, when used in conjunction with such third-party software, is year 2000
compliant in all material respects. As the vendors of such third-party software
continue to evaluate year 2000 processing issues for their own products, several
have uncovered new or additional problems relating to their products from time
to time, resulting in a change of their stated year 2000
Page 13
compliant versions. In some cases, these new or additional problems have
necessitated additional software upgrades or testing by the Company. The Company
plans to continue monitoring the status of such third-party software for year
2000 readiness and perform appropriate software upgrades, if necessary.
Hotwatch Platform Products - The Company's Hotwatch Platform Products, which
revenue is not currently material to the Company's financial position, results
of operations, or cash flows, are not currently year 2000 compliant. All
customer use of Hotwatch Platform Products is scheduled to be phased out before
the end of 1999. The Company has identified the aspects of these products that
would require enhancements to become year 2000 compliant. If the Company
identifies an opportunity for the sale or license of Hotwatch Platform Products
in the future, the Company expects that any year 2000 compliance project for
these products, if initiated, will be completed in a timely manner and that all
related costs will be borne by its future customer(s) of these products.
Internal Systems - The Company continues to assess the systems used in the
Company's internal operations for year 2000 compliance. To date, nearly all of
these systems have been confirmed to be either presently year 2000 compliant in
all material respects, or year 2000 compliant with the purchase of
readily-available software upgrades or alternatives that are currently
identified to be year 2000 compliant. For these internal systems, the Company
either has or is in the process of installing software upgrades and/or
implementing alternatives, as appropriate. As the vendors of third-party systems
and software continue to evaluate year 2000 processing issues for their own
products, several have uncovered new or additional problems relating to their
products from time to time, resulting in a change of their stated year 2000
compliant versions. In some cases, these new or additional problems have
necessitated additional software upgrades or testing by the Company for its
internal systems. The Company plans to continue monitoring the status of such
third-party systems and software for year 2000 readiness and perform appropriate
upgrades, if necessary. The Company expects that its year 2000 compliance
projects for internal systems will be completed in a timely manner.
The Company has developed contingency plans for its critical operational
departments to address the impact to the Company in the event its suppliers,
products, or internal systems are not year 2000 compliant. These plans are
designed to enable the Company to continue its operations, based upon different
scenarios which may or may not be within the Company's span of control. These
plans address internal remediation procedures, use of alternative suppliers or
operating methods where possible, and required staffing levels during critical
periods. Evaluation of year 2000 processing issues and appropriate contingency
planning is continuing. Despite the Company's efforts to address these issues,
there can be no assurance that additional year 2000 processing issues, not
presently known by the Company, will not arise or that third party systems or
products on which the Company relies will be year 2000 compliant.
Costs incurred to date for year 2000 compliance issues have not been significant
and costs to complete are not currently expected to have a material adverse
impact on the Company's financial position, results of operations, or cash flows
in future periods. If, however, the Company, its customers, or its vendors are
unable to adequately resolve any year 2000 compliance issues not yet addressed
in a timely manner, the Company's business, financial condition and results of
operations may be adversely affected. In addition, the Company has on occasion
agreed to warrant and/or indemnify certain of its customers for claims and
losses arising out of the failure of its products to be year 2000 compliant.
There can be no assurance that the Company's current and future products and
internal systems do not contain undetected errors related to year 2000
processing that may result in material additional costs or liabilities that
could have a material adverse effect on the Company's business, financial
condition and results of operations. Further, to the extent that the Company is
not able to test the technology provided to it by third parties for its own use
or for redistribution, or to obtain adequate assurances from such third parties
that their products are year 2000 compliant, the Company may experience
additional costs or liabilities that could have a material adverse effect on the
Company's business, financial condition and results of operations.
Page 14
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
None.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In January 1998, Communications Information Services, Inc. filed an action
against the Company and AirTouch Communications, Inc. for alleged infringement
of United States Patent No. 5,329,591 ("the '591 patent") in the United States
District Court for the Northern District of Georgia at Atlanta. In January 1999,
the Court granted the Company's motion to transfer this lawsuit to the United
States District Court for the Western District of Washington. The complaint
asserts that the plaintiff is the exclusive licensee of all rights under the
'591 patent, alleges that the Company's cellular telephone fraud prevention
technology infringes the '591 patent, and seeks damages in unspecified amounts.
The Company believes this lawsuit is without merit and is vigorously defending
against it. Although no estimate of any outcome of this action can currently be
made, an unfavorable resolution of this lawsuit could have a material adverse
effect on the Company's liquidity, financial condition and results of
operations.
From time to time, the Company is also a party to other legal proceedings in the
ordinary course of business and/or which management believes will be resolved
without a material adverse effect on the Company's liquidity, financial
condition or results of operations.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) EXHIBITS
27 Financial Data Schedule - filed only with EDGAR submission
b) REPORTS ON FORM 8-K
None.
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
November 12, 1999
Page 15
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'