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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
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FORM 10 - Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1999
Commission File Number 0-11630
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INTELECT COMMUNICATIONS, INC.
(Exact Name of Registrant as Specified in Its Charter)
DELAWARE 76-0471342
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
1100 EXECUTIVE DRIVE, RICHARDSON, TEXAS
75081
(Address of Principal Executive Offices and Zip Code)
972-367-2100
(Registrant's Telephone Number, Including Area Code)
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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 [ ]
There were 60,936,573 shares of Common Stock outstanding as of October 31,
1999.
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INTELECT COMMUNICATIONS, INC. AND SUBSIDIARIES
INDEX
PAGE
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PART I FINANCIAL INFORMATION
ITEM 1 FINANCIAL STATEMENTS
Consolidated Balance Sheets of the Company
at September 30, 1999 (unaudited) and December 31, 1998 2
Consolidated Statements of Operations of the Company (unaudited)
for the three months and nine months ended September 30, 1999 and 1998 4
Consolidated Statements of Cash Flows of the Company
(unaudited) for the nine months ended September 30, 1999 and 1998 5
Notes to Consolidated Financial Statements 6
ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 9
PART II OTHER INFORMATION
ITEM 6 EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K 16
SIGNATURES 17
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PART I - FINANCIAL INFORMATION
ITEM 1 - FINANCIAL STATEMENTS
INTELECT COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Condensed Balance Sheets
(Thousands of dollars, except share data)
September 30, December 31,
1999 1998*
------------ ------------
(unaudited)
Assets
Current assets:
Cash and cash equivalents $ -- $ 991
Investments 195 681
Accounts receivable net of allowances of $1,157
and $870 in 1999 and 1998, respectively 5,449 7,232
Inventories 8,407 6,854
Prepaid expenses 442 655
------------ ------------
Total current assets 14,493 16,413
Property and equipment, net 6,009 6,386
Goodwill, net 4,283 4,787
Software development costs, net 2,385 3,134
Other intangible assets, net 647 916
Other assets 1,072 834
------------ ------------
$ 28,889 $ 32,470
============ ============
(Continued)
*Certain amounts have been reclassified to conform to current classifications.
See accompanying notes to consolidated financial statements
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INTELECT COMMUNICATIONS INC. AND SUBSIDIARIES
Consolidated Condensed Balance Sheets (Continued)
(Thousands of dollars, except share data)
September 30, December 31,
1999 1998*
------------ ------------
(unaudited)
Liabilities and Stockholders' Equity
Current liabilities:
Notes payable $ 16,741 $ 1,173
Current maturities of long-term debt -- 440
Accounts payable 5,393 4,293
Accrued liabilities 2,902 3,375
Net liabilities of discontinued operations 381 400
Deferred income taxes 45 45
Current installments of obligations under capital leases 36 126
------------ ------------
Total current liabilities 25,498 9,852
Long-term debt -- 15,000
Long-term obligations under capital leases, net of current installments 42 42
Deferred income taxes 44 44
------------ ------------
25,584 24,938
------------ ------------
Stockholders' equity:
$2.0145, 10% cumulative convertible preferred stock, Series A, $.01 par
value, (aggregate involuntary liquidation preference $7,680,000 in
1999). Authorized 10,000,000 shares; 3,719,409 and 4,219,409 issued and
outstanding in 1999 and 1998, respectively 37 42
Series C convertible preferred stock, $.01 par value. Authorized
12,500 shares; 1,843 issued and outstanding in 1998 -- 1
Series D convertible preferred stock, $.01 par value. Authorized
100,000 shares; 8,250 issued, and outstanding in 1998 -- 1
Common Stock, $.01 par value. Authorized 100,000,000 shares;
60,714,566 and 32,333,085 shares issued in 1999 and 1998,
respectively 607 323
Additional paid-in capital 126,314 104,451
Accumulated deficit (122,556) (96,189)
------------ ------------
4,402 8,629
Less 191,435 shares of common stock in treasury (1,097) (1,097)
------------ ------------
Total stockholders' equity $ 3,305 7,532
------------ ------------
$ 28,889 $ 32,470
============ ============
*Certain amounts have been reclassified to conform to current classifications.
See accompanying notes to consolidated financial statements
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INTELECT COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
(Thousands of dollars, except share data)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ ------------------------------
1999 1998* 1999 1998*
------------ ------------ ------------ ------------
(unaudited)
Net revenues $ 1,662 $ 2,460 $ 11,978 $ 13,130
Cost of revenue 3,669 4,114 13,633 12,949
------------ ------------ ------------ ------------
Gross profit (loss) (2,007) (1,654) (1,655) 181
------------ ------------ ------------ ------------
Expenses:
Engineering and development 2,168 2,740 6,782 7,139
Selling and administrative 3,459 4,937 10,012 12,969
Asset writedowns -- 11,638 -- 11,628
Amortization of goodwill 168 317 504 957
------------ ------------ ------------ ------------
5,795 19,622 17,298 32,693
------------ ------------ ------------ ------------
Operating loss (7,802) (21,276) (18,953) (32,512)
------------ ------------ ------------ ------------
Other income (expense):
Interest expense (512) (1,097) (1,760) (3,209)
Interest income and other 111 62 (75) 232
------------ ------------ ------------ ------------
(401) (1,035) (1,835) (2,977)
------------ ------------ ------------ ------------
Loss from continuing operations before income taxes (8,203) (22,311) (20,788) (35,489)
Income tax benefit (expense) 6 (22) -- (36)
------------ ------------ ------------ ------------
Loss from continuing operations (8,197) (22,333) (20,788) (35,525)
Extraordinary losses (net of tax):
Loss on debt retirement 1,054 -- 1,054 --
Loss on disposal of discontinued operations -- 77 -- 262
------------ ------------ ------------ ------------
Net loss $ (9,251) $ (22,410) $ (21,842) $ (35,787)
============ ============ ============ ============
Dividends on preferred stock 2,913 530 4,741 1,814
------------ ------------ ------------ ------------
Loss allocable to common stockholders $ (12,164) $ (22,940) $ (26,583) $ (37,601)
============ ============ ============ ============
Basic and diluted loss per share:
Continuing operations $ (0.23) $ (0.89) $ (0.64) $ (1.51)
Discontinued operations -- -- -- (0.01)
------------ ------------ ------------ ------------
Net loss per share $ (0.23) $ (0.89) $ (0.64) $ (1.52)
============ ============ ============ ============
Weighted average number of common shares outstanding
(thousands) 52,535 25,751 41,776 24,712
============ ============ ============ ============
*Certain amounts have been reclassified to conform to current classifications.
See accompanying notes to consolidated financial statements
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INTELECT COMMUNICATIONS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(Thousands of dollars, except share data)
Nine Months Ended
September 30,
------------------------------
1999 1998*
------------ ------------
(unaudited)
Cash flows from operating activities:
Net Loss $ (21,842) $ (35,787)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization 3,356 2,782
Amortization of loan discount 641 2,391
Asset writedowns -- 11,628
Loss on disposal of discontinued operations 111 262
Loss on debt retirement 1,054 --
Noncash operating expenses (136) (708)
Other -- 236
Change in operating assets and liabilities:
Accounts receivable 1,783 4,927
Inventories (1,553) (1,857)
Other assets 297 299
Accounts payable and accrued liabilities 2,586 (3,411)
------------ ------------
Net cash used in operating activities (13,703) (19,238)
Cash flows from investing activities:
Payments for disposal of discontinued operations (18) (183)
Purchase of other intangible assets 7 (51)
Capital expenditures (999) (1,815)
Software development costs (459) (1,432)
Proceeds from sale of marketable securities 486 211
------------ ------------
Net cash used in investing activities (983) (3,270)
Cash flows from financing activities:
Proceeds from issuance of notes payable 5,300 14,851
Debt issuance costs -- (73)
Principal payments on notes payable (583) (11,807)
Principal payments under capital lease obligations (90) (68)
Principal payments on long-term debt -- (1,603)
Proceeds from issuance of preferred stock 5,518 18,815
Proceeds from issuance of common stock 3,550 37
Proceeds from exercise of employee stock options and warrants -- 262
------------ ------------
Net cash provided from financing activities 13,695 20,414
Net increase (decrease) in cash and cash equivalents (991) (2,094)
Cash and cash equivalents, beginning of period 991 2,094
------------ ------------
Cash and cash equivalents, end of period $ -- $ --
============ ============
*Certain amounts have been reclassified to conform to current classifications.
See accompanying notes to consolidated financial statements
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INTELECT COMMUNICATIONS, INC.
Notes to Consolidated Financial Statements
(Unaudited)
September 30, 1999
BASIS OF PRESENTATION
The accompanying consolidated financial statements have been prepared
by the Company without audit in accordance with generally accepted accounting
principles for interim financial statements and with instructions to Form 10-Q
and Rule 10-01 of Regulation S-X. In the opinion of management, all adjustments
(consisting only of normal recurring accruals) considered necessary for a fair
presentation have been included.
The accompanying consolidated financial statements do not include
certain footnotes and financial presentations normally required under generally
accepted accounting principles and, therefore, should be read in conjunction
with the audited financial statements included in the Company's Annual Report
on Form 10-K as at December 31, 1998.
INVENTORIES
The components of inventories are as follows:
September 30, December 31,
1999 1998
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($ Thousands)
Raw materials $ 4,122 $ 5,038
Work in progress 1,482 888
Finished goods 5,000 3,472
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10,604 9,398
Less: allowance for obsolescence (2,197) (2,544)
------------ ------------
$ 8,407 $ 6,854
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SEGMENTS OF BUSINESS
Revenue by business segment:
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------- --------------------
1999 1998 1999 1998
-------- -------- -------- --------
($ Thousands)
Revenue:
Multi-services access platform (MAP) $ 590 $ (116) $ 6,397 $ 3,625
Design services 838 1,719 3,561 6,522
Digital signal processors (DSP) 178 196 1,089 1,250
Video network products 5 384 585 1,223
Other 51 277 346 510
-------- -------- -------- --------
$ 1,662 $ 2,460 $ 11,978 $ 13,130
-------- -------- -------- --------
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Segment-specific margins (Gross profit less total engineering and
development costs, including capitalized software, and asset write-downs for
the segment):
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ -------------------------------
1999 1998 1999 1998
------------ ----------- ------------ -------------
($ Thousands)
Multi-services access platform (MAP) $ (2,298) $ (2,745) $ (4,119) $ (5,419)
Design services (338) 102 (102) 1,687
Digital signal processors (DSP) (259) 61 (478) (236)
Video network products 97 (174) (864) (428)
Other (1,505) (2,125) (3,332) (4,081)
------------ ----------- ------------ -------------
Subtotal segment specific (4,303) (4,881) (8,895) (8,477)
Capitalized software 127 487 458 1,519
All other expenses (3,626) (16,882) (10,516) (25,554)
------------ ----------- ------------ -------------
Operating loss $ (7,802) $ (21,276) $ (18,953) $ (32,512)
============ =========== ============ =============
Assets identifiable only by combined segments:
At September 30, At December 31,
1999 1998
---------------- ---------------
($ Thousands)
MAP, video and other $ 18,869 $ 20,906
Design services and DSP 7,651 8,200
Not allocable to a segment 2,369 3,364
------------ ----------
Total $ 28,889 $ 32,470
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FINANCING MATTERS
Preferred Stock Settlement
In July 1999, the Company completed the settlement of certain disputes
with holders of its Series, C, D and E preferred stock regarding the conversion
of such preferred stock into common stock. As a result of the settlement
agreements all shares of Series C, D and E preferred stock have been converted
into an aggregate of approximately 13,354,000 shares of the Company's $.01 par
value common stock and the rights of the holders pursuant to the preferred
stock series designations have terminated. This settlement resulted in a
beneficial conversion feature in the amount of $2,726,000 which has been
treated as a preferred stock dividend. Also pursuant to these settlement
agreements, the holders of the preferred stock agreed to certain restrictions
regarding the common stock received in the settlements. These restrictions
include limitations on the volume of common stock which may be sold on any
given day and prohibitions on short sales of common stock and other similar
transactions. The Company has the right to repurchase certain of the shares of
common stock received pursuant to the settlements at market prices. In
addition, the holders of the preferred stock have granted to the Company an
irrevocable proxy for all common shares held by them, for as long as such
shares are held by the former holders of the preferred stock.
Debt Restructuring
In August 1999, the Company completed a restructuring of its debt held
by The Coastal Corporation Second Pension Trust ("Coastal") and by St. James
Capital Partners, L.P. and SJMB, L.P. (collectively "St. James").
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Pursuant to the restructuring, Coastal purchased 2,777,778 shares of
common stock and warrants to purchase 1,067,308 shares of the Company's common
stock at a price of $1.30 per share for a period of five years. In addition,
the exercise price for warrants to purchase an additional 450,000 shares of
common stock which had been issued in August, 1997 was reduced to $1.30 per
share from $6.00 per share. All remaining amounts outstanding to Coastal were
converted into an amended and restated revolving credit facility. The credit
facility provides for total borrowing of up to $12,000,000, of which
approximately $10,100,000 was outstanding as of October 31, 1999. Amounts
outstanding under the agreement are limited to a borrowing base as defined in
the agreement; however, advances under the agreement are made at the descretion
of Coastal. Interest is payable quarterly at prime plus 3.5% (11.5%) at October
31, 1999. Any amounts outstanding under the facility are due on July 31, 2000.
The facility is secured by a first lien on the Company's accounts receivable,
inventory and related assets and the stock of the Company's subsidiaries. The
facility is subject to an inter-creditor agreement between Coastal and St.
James.
Pursuant to the restructuring, St. James received an aggregate of
3,864,271 shares of common stock in repayment of an aggregate of $3,000,000 of
accrued interest and principal under notes outstanding. These settlements
resulted in a beneficial conversion feature in the amount of $1,054,000, which
has been reflected as a loss on debt retirement in the accompanying statement of
operations. As of October 31, 1999 an aggregate of $8,119,000 of principal and
accrued interest is due under these notes. As a part of the restructuring, the
maturity of the note was extended to July 31, 2000. In addition, St. James may
convert any amounts outstanding under the notes into common stock at a rate per
share equal to the greater of $1.08 and the then current market price of the
Company's common stock.
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ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS FOR THE PERIOD ENDED SEPTEMBER 30, 1999
This Form 10-Q contains certain forward looking statements within the
meaning of Section 27A of the Securities Act of 1933, as amended and Section
21E of the Securities Exchange Act of 1934, as amended. The forward looking
statements involve risks and uncertainties that could cause actual results to
differ materially from those expressed in, or implied by, the forward looking
statements. Factors that might cause such a difference include, but are not
limited to, those relating to: general economic conditions in the markets in
which the Company operates, success in the development and market acceptance of
new and existing products; dependence on suppliers, third party manufacturers
and channels of distribution; customer and product concentration; fluctuations
in customer demand; maintaining access to external sources of capital; ability
to execute management's margin improvement and cost control plans; overall
management of the Company's expansion; and other risk factors detailed from
time to time in the Company's filings with the Securities and Exchange
Commission.
THE COMPANY
The Company's operating results have been materially impacted by
certain events which occurred in the third quarter of 1999. These events
include the failure of the sale of its Designs Services operation and the
related proposed restructuring of the Company's debt obligations. The failure of
these transactions to close as and when anticipated resulted in the Company not
having access to working capital in amounts and within the time frame
anticipated. Accordingly, the Company was unable to complete and ship certain
orders in its backlog and was impaired in its ability to pursue new orders due
to the uncertainty regarding scheduled delivery dates.
During the third quarter of 1999, the Company introduced its OmniLYNX
product line of multiple access platforms ("MAPs") for use in public network
environments. OmniLYNX is an extension of the Company's SonetLYNX(TM) and
FibreTRAX(TM) products which have been very successful in purpose built network
environments around the world. The explosive growth of the Internet and
e-commerce is driving the demand for constantly increasing capacity and
bandwidth in telecommunications networks. Service providers are building new
public network access capabilities that can reliably deliver traditional voice
services as well as tap the enormous potential of high bandwidth data services.
The Company believes that OmniLYNX provides service providers with a key
element in developing these efficient, scalable and cost-effective
multi-service networks.
Because of the potential of the OmniLYNX product line in public access
networks, the Company has begun to focus its efforts and resources on
exploiting this opportunity, as well as the on-going opportunity for SonetLYNX
and FibreTRAX in purpose built networks. Accordingly, and as discussed more
fully below, the Company has curtailed other business activities such as the
development of the CS4 Intelligent Services Platform, further enhancements to
its Video Network Products and development of new Digital Signal Processing
("DSP") circuit board designs.
As a part of its refocus, and in order to raise additional capital to
help fund the exploitation of the Company's line of MAP products, the Company
had arranged the sale of a portion of its engineering services operations
conducted by its wholly-owned subsidiary, DNA Enterprises, Inc. The Company had
negotiated the sale of these operations to Cadence Design Systems, Inc.
("Cadence") for $15 million in cash. The Company and counsel believe Cadence
and the Company signed and delivered an asset purchase agreement to consummate
the transaction. Concurrently with this transaction, the Company had negotiated
a restructuring of its debts with its primary lenders. The transaction was
scheduled to close on July 23, 1999. Despite the Company having met all
conditions to closing, Cadence failed to close the transaction and, therefore,
the Company believes breached the agreement which had been reached between the
parties. The Company has filed suit against Cadence to recover damages from
these actions.
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As a result of the events described above, the Company found itself
without the working capital which it had anticipated and was faced with other
unanticipated challenges. While, as discussed more fully below, the Company was
subsequently able to negotiate revisions to its existing debt agreements, these
agreements did not provide the amount of working capital originally
anticipated, nor was the working capital available within the time frames or on
the terms originally anticipated. This has had a material adverse effect on the
Company's operations, including impairing its ability to complete and ship
orders which are currently in its backlog and the ability to commit to new
orders due to the uncertainty of achievable completion and shipment dates. The
impact on these events on the Company's results of operations and liquidity and
capital resources and actions taken by management are discussed more fully
below.
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COMPARISON OF THIRD QUARTER AND NINE MONTHS 1999 TO 1998
- -------------------------------------------------------------------------------
The following table shows the revenue and gross profit for the
Company's products:
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ ------------------------------
1999 1998 1999 1998
------------ ----------- ------------ ------------
($ Thousands)
Revenue:
Multi-services access platform (MAP) $ 590 $ (116) $ 6,397 $ 3,625
Design services 838 1,719 3,561 6,522
Digital signal processors (DSP) 178 196 1,089 1,250
Video network products 5 384 585 1,223
Other 51 277 346 510
------------ ----------- ------------ ------------
$ 1,662 $ 2,460 $ 11,978 $ 13,130
------------ ----------- ------------ ------------
Gross profit (loss):
Multi-services access platform (MAP) $ (1,468) $ (1,517) $ (1,729) $ (1,495)
Design services (338) 102 (102) 1,687
Digital signal processors (DSP) (41) 527 186 491
Video network products (95) 115 (99) 471
Other (65) (881) 89 (973)
------------ ----------- ------------ ------------
$ (2,007) $ (1,654) $ (1,655) $ 181
------------ ----------- ------------ ------------
NET REVENUE
Increased sales of the Company's "MAP" products in both the third
quarter and nine months of 1999, $706,000 and $2,772,000, respectively, were
more than offset by declines in revenues in all other product lines in both
periods. Net revenues in the third quarter and first nine months of 1999
totaled $1,662,000 and $11,978,000, respectively, reflecting decreases of
$353,000 and $1,836,000, respectively, from the comparable periods in 1998.
As of July 1, 1998, the Company had an order backlog for MAP products
which amounted to approximately $7.5 million, a significant portion of which
was originally scheduled for completion and shipment during the third quarter
of 1999. Due to the lack of timely access to working capital, as discussed
above, the Company was unable to complete and ship these orders as originally
scheduled. In addition, completion and shipment dates for certain other orders
were delayed at the request of certain customers. These orders are anticipated
to be completed in the fourth quarter of 1999 or the first quarter of 2000.
During the negotiation of the sale of certain engineering services
operations to Cadence and preparation for closing the transaction, the Company
was limited in its ability to engage in new design services projects.
Therefore, as existing projects were completed, the Company experienced a
decline in revenues for such services. During the third quarter of 1999 and
after Cadence refused to close, the Company began efforts to engage new
projects and therefore increase revenues for design services to levels
previously attained.
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GROSS PROFIT (LOSS)
The third quarter 1999 gross loss on product revenues was $2,007,000
or 21% greater than the gross loss of $1,654,000 in the same quarter last year.
The gross loss of $1,655,000 in the nine months ended September 30, 1999
represents a decline of $1,836,000 from the gross profit of $181,000 in the
nine months ended September 30, 1998.
The decline in gross profit results partially from the lack of product
revenues as discussed above which in turn was largely due to the previously
discussed Cadence transaction. The Company continues to have certain fixed
production costs, regardless of the level of shipments. These unabsorbed
overhead costs amounted to approximately $1,046,000 during the three months
ended September 30, 1999 as compared to approximately $739,000 during the same
period of 1998.
Due to the Cadence transaction discussed above, the Company was
required to maintain certain minimum staffing levels within its Design Services
operations, irrespective of the amount of billable activity. Accordingly,
certain costs were incurred without the revenues normally associated with such
costs. Subsequent to the failure of the Cadence transaction to close, the
Company was forced to reduce staffing levels within the Design Services
operation, which resulted in certain severance and termination costs.
Additionally, in order to stabilize and retain the remaining staff, the Company
was required to incur additional costs in the form of salary adjustments and
retention bonuses. During the third quarter of 1999, costs related to these
items amounted to approximately $250,000.
ENGINEERING AND DEVELOPMENT (E&D) EXPENSE
E&D expense in the third quarter 1999 decreased $572,000, or 21% from
the same period last year, to $2,168,000. For the nine months ended September
30, 1999, E&D expense was $6,782,000, representing a 5% decrease from the
$7,139,000 of E&D expense recorded in the comparable period last year. These
costs by product line are summarized in the following table.
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------ ------------------------------
1999 1998 1999 1998
------------ ------------ ------------ ------------
($ Thousands)
Multi-services access platform (MAP) $ 830 $ 1,226 $ 2,390 $ 3,924
CS4 1,440 1,245 3,421 3,108
Digital signal processor (DSP) 218 466 664 727
Video network products (192) 290 765 899
------------ ------------ ------------ ------------
2,296 3,227 7,240 8,658
Capitalized software development costs (128) (487) (458) (1,519)
------------ ------------ ------------ ------------
E & D expense $ 2,168 $ 2,740 $ 6,782 $ 7,139
============ ============ ============ ============
During the third quarter of 1999, the Company incurred engineering and
development costs of approximately $1,440,000 related to its CS4 Intelligent
Switching Platform. The Company has completed or suspended all development
activities related to this project and accordingly does not currently plan to
incur engineering and development costs related to it subsequent to the third
quarter of 1999. In addition, engineering and development activities related to
DSP and video network products have been reduced so as to focus on near-term
sales opportunities.
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SELLING AND ADMINISTRATIVE EXPENSE
Selling and administrative expenses in the third quarter and nine
months of 1999 were reduced 30% and 23% compared to the prior year periods.
These reductions are a result of the Company's on-going efforts to reduce
selling and administrative expense, including the closing of certain offices
and staff reductions. During the third quarter of 1999, the Company increased
its allowance for uncollectible accounts receivable by approximately $550,000.
In addition, selling and administrative expenses for the third quarter include
legal costs of approximately $200,000 related to the Cadence transaction and
the debt and equity financing transactions during the quarter.
ASSET WRITE DOWNS
In accordance with the evolving focus of the Company's primary
technologies, products and markets and forward growth plans, and in accordance
with the Company's accounting policies, including review of realizability of
its long-term assets, including goodwill, the Company wrote off at September
30, 1998, the balance of $6,888,000 of goodwill from the acquisition in 1995 of
Intelect Inc., which at that time was primarily engaged in the supply of
communications systems for air traffic control and air defense installations,
and is presently operating as Intelect Network Technologies, emphasizing the
SonetLYNX(TM) and FibreTRAX(TM) product lines. This decision was influenced by
a review of recent revenue results and prospects in the air traffic control
market, by the loss attributable to Korean business, and by the prospects for
significantly improving cash flows in these business areas. Goodwill
amortization charges in the amount of $149,000 per quarter were eliminated
following the writeoff of goodwill. In this connection, $900,000 was added at
September 30, 1998 to the Company's inventory reserve for obsolescence in order
to provide for slow moving items specific to air traffic control communications
systems.
Accounts and notes receivable from the Company's Korean distributor,
and relating to the sales of the Company's products in Korea, totaled
$4,696,000 at the end of September 1998, compared to $9,879,000 at December 31,
1997, from which $6,731,000 has been collected and to which $1,548,000 of
billings were added in the first nine months of 1998. Upon review and
consideration of factors affecting collectibility during the third quarter and
currently expected through year-end 1998, the Company determined that it would
be prudent and timely to write off $605,000 of such receivables and to provide
a $4,135,000 increase in the allowance for doubtful accounts primarily
attributable to such receivables. Subsequently, in February 1999, the Company
received $1,000,000 from the distributor.
INTEREST EXPENSE
In the third quarter of 1999, interest expense decreased to $512,000,
a 53% reduction from the $1,097,000 of interest expense in the same quarter
last year. The nine months ended September 30, 1999 interest expense of
$1,760,000 was 45% lower than the $3,208,000 of interest expense in the same
period last year. Cash interest expense in the three months ended September 30,
1999 and 1998 was $383,000 and $240,000, respectively. For the nine months
ended September 30, 1999 and 1998, the cash interest expense was $1,110,000 and
$812,000, respectively. The remainder of interest expense consists of non-cash
amortizations of debt discounts and deferred financing costs attributable to
valuation of warrants using the Black-Scholes pricing model.
LOSS OF DEBT RETIREMENT
Pursuant to a restructuring of its debt obligations in August, 1999,
the Company repaid $3,000,000 of notes payable to St. James in return for the
issuance of 3,864,271 shares of common stock. This resulted in a beneficial
conversion feature in the amount of $1,054,000 which has been accounted for as
a loss on debt retirement.
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DIVIDENDS ON PREFERRED STOCK
Preferred dividends consist of the following:
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ ------------------------
1999 1998 1999 1998
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($ Thousands)
Series A, B paid in common stock $ 187 $ 232 $ 569 $ 856
Series C, D, E upon conversion
paid in common stock -- 252 262 440
Beneficial conversion features 2,726 46 3,910 518
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$ 2,913 $ 530 $ 4,741 $ 1,814
The Company has elected to pay Series A and B preferred dividends with
common stock. The Series B preferred stock was not outstanding subsequent to
December 31, 1998. As of September 30, 1999, only the Series A preferred stock
remained outstanding. Non-cash financing costs attributable to the value of
beneficial conversion features of the preferred stock are reportable as
additional dividends over the period from date of issue to the earliest
conversion date. After September 30 1999, there are no amounts attributable to
such conversion features.
YEAR 2000 COMPLIANCE
The Company has conducted a review of its computer systems to identify
the systems that could be affected by the "Year 2000 Problem," the result of
computer programs using two digits rather than four to define the year portion
of dates. The Company has determined that none of its significant systems fail
to comply with the ability to distinguish the year 2000 from the year 1900. The
review continues, in an ongoing process, to examine the risk, if any, to the
Company, of vendor or customer exposure to the Year 2000 Problem. To date, no
exposure has been discovered which would have a material adverse effect on the
Company. Certain purchased software, resold or used in company products, has
been certified by the vendors to be compliant. The financial impact of Year
2000 compliance has not been and is not anticipated to be material to the
Company's financial position or results of operations in any given year.
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LIQUIDITY AND CAPITAL RESOURCES
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SOURCES AND USES OF CASH
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Cash balances decreased $991,000 for the nine months ended September
30, 1999. In this period, the net cash used in operating activities
($13,703,000) and in investing activities ($983,000) was funded by the
reduction of cash balances and by securing new financings which netted
$13,697,000 from all financing activities.
Operating Activities
Net cash used in operations primarily reflects the $20,788,000 net
loss incurred in the first nine months of 1999 partially offset by $3,972,000
of non-cash charges and a $3,113,000 decrease in working capital.
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Investing Activities
Capital expenditures of $999,000 and capitalized software development
costs of $459,000 were partially offset by $486,000 of proceeds from the sale
of marketable securities. Expenditures for manufacturing equipment, test
equipment and computers accounted for most of the capital monies spent.
Financing Activities
Cash received from the private placement sales of common stock in
January and June ($3,550,000), the sale of Series E Preferred Stock
($5,518,000) and increased borrowings under the Credit Facility ($5,300,000)
were partially offset by $673,000 of principal payments on notes payable and
capital leases.
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LIQUIDITY
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In July, 1999, the Company completed the settlement of certain
disputes with the holders of its Series C, D and E preferred stock. This
settlement resulted in the exchange of all such preferred stock and rights
related to it for approximately 13,354,000 shares of common stock. Due to the
application of the variable conversion features of this preferred stock and the
disputes which arose between the Company and the holders of the preferred
stock, the Company found it very difficult to arrange additional sources of
capital while this preferred stock was outstanding. Therefore, management
believes that the conversion of this preferred stock into common stock and the
settlement of disputes with the holders of the preferred stock was very
significant in positioning the Company to obtain additional capital in order to
exploit its available business opportunities.
Subsequent to the failure of the Cadence transaction to close, the
Company negotiated a restructuring of its debt obligations with St. James
Capital L.P. and SJMB L P. (collectively "St. James") and with The Coastal
Corporation Second Pension Trust ("Coastal").
Pursuant to the restructuring, the Company exchanged an aggregate of
$3,000,000 of accrued interest and principal due under notes payable to St.
James for 3,864,271 shares of common stock. St. James also received the right
to convert all, or any remaining portion of accrued interest and principal due
under the notes into common stock at the rate of the greater of $1.08 and the
market price of the Company's common stock at the time of the conversion. As a
part of the restructuring, the maturity of the notes was extended to July 31,
2000.
In the restructuring, the Company exchanged an aggregate of $3,000,000
of accrued interest and principal due to Coastal for 2,777,778 shares of common
stock. All remaining amounts outstanding to Coastal were converted into an
amended and restated revolving credit facility. The credit facility provides
for total borrowings of up to $12, 000,000, subject to a borrowing base as
defined in the agreement. As of October 31, 1999, there was approximately
$10,100,000 outstanding under the facility. However, advances under the
facility are at the discretion of Coastal.
The Company currently does not generate positive cash flow from
operations. In addition, in order to exploit the opportunities for its OmniLYNX
product line, management believes the Company must increase marketing and
promotional activities and must continue research and development activities to
continue to enhance the product line. Accordingly, the Company requires
additional capital to fund these activities, to provide for increased working
capital requirements which may arise from increased sales activities and to
fund operating losses until sales increase to such a level that cash flow from
operation becomes positive. Since June 30, 1999, the Company's working capital
requirements have been met by collections of accounts receivable and by
borrowings under the
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revolving credit facility with Coastal. There is no assurance that the timing
of collections of accounts receivable or that amounts available under the
revolving credit agreement will be sufficient to meet all of the Company's
needs. The Company is currently actively pursuing other sources of capital,
including the issuance of additional debt or equity securities. There is no
assurance that the Company will be able to secure such additional capital or
that such capital will be available under terms which are acceptable to the
Company.
In the third quarter of 1999, the Company was notified that it did not
meet the listing criteria for the listing of its common stock on the Nasdaq
National Market System. Accordingly, the Company has applied for listing of its
common stock on the Nasdaq Small Cap Market and began trading on such market on
August 26, 1999. The Company's listing application for the Nasdaq Small Cap
Market has been accepted, subject to its common stock achieving a minimum bid
price of $1.00 for a period of time. The Nasdaq Small Cap Market requires,
among other items, that a listed Company's stock have a bid price of no less
than $1.00. In order to maintain its listing on the Nasdaq Small Cap Market,
the Company's common stock must achieve a minimum bid price of $1.00 for no less
than ten consecutive trading days between November 8, 1999 and February 4, 2000.
There can be no assurance that such requirement will be met.
If the Company's stock is delisted from the Nasdaq Small Cap Market,
it could impair the ability of the Company to attract equity capital which
could, in turn, have a material adverse effect on the liquidity of the Company.
The Company has incurred significant operating losses and negative cash flows
from operations in the last three years. The Company expects operating losses
and negative operating cash flow to continue into the immediate future. It is
uncertain when, if ever, the Company will report operating income or positive
cash flow from operations. If cash needs exceed available resources, there can
be no assurance that additional capital will be available from the sale of debt
or equity securities or through existing or new credit agreements. The
financial statements have been prepared assuming the Company will continue as a
going concern and do not include any adjustments that might result from the
unfavorable outcome of such uncertainty.
PART II - OTHER INFORMATION
ITEM 6 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
A. The Financial Statements and Financial Statement Schedules filed as
part of this report are listed and indexed on Page 1. Schedules other than
those listed in the index have been omitted because they are not applicable or
the required information has been included elsewhere in this report.
B. Listed below are all Exhibits filed as part of this report. Certain
Exhibits are incorporated by reference to documents previously filed by the
Registrant with the Securities and Exchange Commission pursuant to Rule 12b-32
under the Securities Exchange Act of 1934, as amended.
Exhibit No. Exhibit
27 Financial Data Schedule
C. The Company has not filed any report on Form 8-K during the period
covered by this Report, except as follows:
August 25, 1999
August 18, 1999
July 8, 1999
July 2, 1999
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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.
INTELECT COMMUNICATIONS, INC.
(Registrant)
Date: November 12, 1999 By: /s/ ROBERT P. CAPPS
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Robert P. Capps
Chief Financial Officer
(Principal Financial and
Accounting Officer)
Date: November 12, 1999 By: /s/ HERMAN M. FRIETSCH
--------------------- -------------------------------
Herman M. .Frietsch
Chairman of the Board and Chief
Executive Officer
(Principal Executive Officer)
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INDEX TO EXHIBITS
EXHIBIT
NUMBER DESCRIPTION
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27 Financial Data Schedule