UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
------------------------
Amendment No. 1 to
FORM 10-QSB
(MARK ONE)
|X| QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 2003
|_| TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF EXCHANGE ACT
Commission File Number 000-27699
ePHONE Telecom, Inc.
(Name of small business issuer as specified in its charter)
Florida 98-020-4749
------- -----------
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
66 Hawley Road
Oxford, Connecticut 06478
--------------------------------------
(Address of principal executive offices)
(703) 787-7000
-------------------------
(Issuer's telephone number)
------------------------
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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. |X|Yes |_| No
As of June 30, 2003 there were 42,476,298 shares of Common Stock issued and
outstanding.
Transitional Small Business Disclosure Format (check one): |_| Yes |X| No
ePHONE Telecom, Inc.
FORM 10-QSB
INDEX
PART I - FINANCIAL STATEMENTS................................................1
Item 1. Consolidated Financial Statements (Unaudited).................1
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS...................................5
Item 2. Management's Discussion And Analysis Of Financial
Condition And Results Of Operations..................... 11
Item 3. Controls And Procedures......................................18
PART II - OTHER INFORMATION.................................................19
Item 1. Legal proceedings............................................19
Item 2. Changes in securities and use of proceeds....................19
Item 3. Defaults upon senior securities..............................19
Item 4. Submission of matters to a vote of security holders..........19
Item 5. Other information............................................19
Item 6. Exhibits and reports on Form 8-K.............................20
EXHIBIT 31.1.................................................................1
EXHIBIT 32.1.................................................................1
PART I - FINANCIAL STATEMENTS
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
ePHONE Telecom, Inc.
Consolidated Balance Sheets
(unaudited)
June 30, December 31,
2003 2002
-------------------------------------------
Current Assets:
Cash and cash equivalents $ 81,951 $ 1,252,936
Accounts receivable, net of allowance for returns of $0 and $270,000 at
June 30, 2003 2003 and December 31, 2002, respectively 55,105 419,049
Inventory 13,936 263,608
Other receivables 86,529 86,789
-------------------------------------------
Total Current Assets 237,521 2,022,382
Property and equipment, net 1,081,954 1,686,704
Other assets 54,258 68,043
-------------------------------------------
Total Assets $ 1,373,733 $ 3,777,129
===========================================
Liabilities and Stockholders' Equity (Deficit):
Current Liabilities:
Accounts payable $ 2,327,248 $ 961,745
Accrued liabilities 613,006 1,187,355
Deferred revenue 70,034 278,956
Promissory notes payable, net of discount of $155,556 244,444 --
Capital lease obligation, current portion 37,612 51,385
-------------------------------------------
Total Current Liabilities 3,292,344 2,479,441
-------------------------------------------
Other long term obligation, net of current portion 171,773 68,126
Stockholders' Equity (Deficit):
Common stock, par value $0.001:
150,000,000 shares authorized, 42,476,298 and
38,084,994 issued and outstanding at June 30, 2003
and December 31, 2002, respectively. 42,476 38,085
Other comprehensive income 21,031 --
Additional paid-in capital 23,431,801 23,029,524
Accumulated deficit (25,585,691) (21,838,047)
-------------------------------------------
Total Stockholders' Equity (Deficit) (2,090,383) 1,229,562
-------------------------------------------
Total Liabilities and Stockholders' Equity (Deficit) $ 1,373,733 $ 3,777,129
===========================================
See accompanying notes to consolidated financial statements
1
EPHONE Telecom, Inc.
Consolidated Statements of Operations
(unaudited)
Six Months Ended June 30,
2003 2002
---------------------------------------------
Revenues $ 2,361,597 $ 9,143,252
Cost of revenues 2,999,128 5,261,745
---------------------------------------------
Gross Margin (637,532) 3,881,507
Operating expenses
Sales and marketing 785,989 564,893
General and administrative 1,835,926 2,682,535
---------------------------------------------
Operating income (loss) (3,259,447) 634,079
Interest and other (income), net 488,197 16,078
---------------------------------------------
Income (loss) before taxes (3,747,644) 618,001
Income tax expense -- --
---------------------------------------------
Net Income (loss) $ (3,747,644) $ 618,001
Earnings (loss) per share--(basic and diluted) $ (0.09) $ 0.02
=============================================
Weighted average number of common
shares outstanding 39,578,148 34,792,640
=============================================
See notes to accompanying consolidated financial statements
2
ePHONE Telecom, Inc.
Consolidated Statements of Operations
(unaudited)
Three months ended June 30,
2003 2002
Revenues $ 270,861 $ 5,081,429
Cost of revenues 925,836 2,776,497
-------------------------------------------
Gross Margin (654,975) 2,304,932
Operating expenses
Sales and marketing 505,808 364,485
General and administrative 930,727 1,528,880
-------------------------------------------
Operating income (loss) (2,091,510) 411,567
Interest and other (income), net 451,368 6,660
-------------------------------------------
Income (loss) before taxes (2,542,878) 404,907
Income tax expense -- --
-------------------------------------------
Net Income (loss) $ (2,542,878) $ 404,907
Earnings (loss) per share--(basic and diluted) $ (0.06) $ 0.01
===========================================
Weighted average number of common
shares outstanding 40,608,146 36,543,528
===========================================
See accompanying notes to consolidated financial statements
3
ePHONE Telecom, Inc.
Consolidated Statements of Cash Flows
(unaudited)
Six Months Ended June 30,
2003 2002
------------------------------------------
Cash Flows from Operating Activities:
Net income (loss) $ (3,747,644) $ 618,001
Adjustments to reconcile net income (loss) to net cash flows from
operating activities:
Depreciation and amortization 284,763 156,622
Stock issued for services rendered 140,000 37,715
Inventory issued for services 249,672 --
Allowance for returns (270,000) 129,810
Loss on sale of assets 359,708 --
Changes in operating assets and liabilities:
Accounts receivable and other receivables 634,204 (450,655)
Inventory 249,672 (32,794)
Other assets 13,785 (50,000)
Accounts payable 1,365,502 (179,884)
Accrued liabilities (574,349) 523,439
Deferred revenue (208,922) 455,767
------------------------------------------
Net cash flows provided by (used in) operating activities (1,753,281) 1,208,021
------------------------------------------
Cash flows from investing activities:
Purchase of fixed assets (9,440) (472,627)
Proceeds from sale of assets 80,831 --
------------------------------------------
Net cash flows (used in) provided by investing activities 71,391 (472,627)
Cash flows provided by financing activities:
Proceeds from exercise of warrants and options -- 809,873
Repayments on long-term obligation (15,000) (45,000)
Proceeds from loans 525,000
Repayment to related party -- (15,000)
Repayments on capital lease (20,126) (13,151)
------------------------------------------
Net cash flows provided by financing activities 489,874 736,722
------------------------------------------
Effect of exchange rates on cash 21,031 --
Net increase (decrease) in cash and cash equivalents (1,170,985) 1,472,116
Cash and cash equivalents, beginning of period 1,252,936 35,970
------------------------------------------
Cash and cash equivalents, end of period $ 81,951 $ 1,508,086
==========================================
See accompanying notes to consolidated financial statements
4
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Nature of Operations
ePHONE Telecom, Inc. ("ePHONE") was incorporated in 1996 under the laws of the
State of Florida, and is traded on the OTC Electronic Bulletin Board operated by
the National Association of Securities Dealers, Inc. under the trading symbol
"EPHO". The Company provides telecommunication services to retail and wholesale
customers. The Company is a global telecommunications carrier providing a full
complement of telecommunications services, including phone-to-phone, one-step
dialing, using Voice over Internet Protocol ("VoIP") technology and adaptable to
legacy and future technologies.
The Company has prepared the accompanying unaudited consolidated financial
statements pursuant to the rules and regulations of the Securities and Exchange
Commission. These financial statements should be read together with the
financial statements and notes in the Company's 2002 Annual Report on Form
10-KSB filed with the Securities and Exchange Commission. Certain information
and footnote disclosures normally included in financial statements prepared in
accordance with accounting principles generally accepted in the United States of
America have been condensed or omitted. The accompanying financial statements
reflect all adjustments and disclosures, which in our opinion are necessary for
fair presentation. All such adjustments are of a normal recurring nature. The
results of operations for the interim periods are not necessarily indicative of
the results of the entire year.
Net Earnings (Loss) per Share
We report basic and diluted earnings (loss) per share. Basic earnings (loss) per
share is computed by dividing net earnings (loss) by the weighted average number
of outstanding shares of common stock. Diluted earnings per share is computed by
dividing net earnings by the weighted average number of shares adjusted for the
potential dilution that could occur if stock options, warrants and other
convertible securities were exercised or converted into common stock.
For the six months ended June 30, 2003, options and warrants to purchase
4,088,584 shares of common stock were outstanding but were not included in the
computation of diluted earnings (loss) per share because the exercise price of
all outstanding options and warrants exceed the average market price of our
stock during this period causing them to be antidilutive.
Inventory
Inventory consists primarily of e-Trans-Port devices held for resale and is
stated at the lower of cost, utilizing the weighted average method, or market.
We use certain estimates and judgments to value our inventory. In April 2003, we
reached a settlement with a Consultant which transferred a number of our
e-TRANS-PORT assets to him in recognition of past and future services. This
resulted in a reduction in our Inventory Valuation to $13,936.
Stock Based Compensation
The Company accounts for stock-based employee compensation arrangements in
accordance with provisions of Accounting Principles Board ("APB") Opinion No.
25, "Accounting for Stock Issued to Employees", and related interpretations, and
comply with the disclosure provisions of SFAS No. 123, "Accounting for
Stock-Based Compensation," as amended by SFAS 148, "Stock Compensation -
Transition and Disclosure". Under APB No. 25, compensation expense is based on
the difference, if any, on the date of the grant, between the fair value of our
common stock and the exercise price.
The following table illustrates the effect on net income (loss) and net income
(loss) per share had compensation costs for the stock-based compensation plan
been determined based on grant date fair values of awards under the provisions
of SFAS No. 123, for the six month periods ended June 30:
5
For the three months ended For the six months ended June
June 30, 30,
2003 2002 2003 2002
----------------------------------------------------------------
Net income (loss)
As reported: $ (2,542,878) $ 404,907 $ (3,747,644) $ 618,001
Less total stock-based compensation expense
determined under fair value-based method
for all awards (29,581) (137,400) (59,162) (216,900)
Pro forma (2,572,459) 267,507 (3,806,806) 401,101
Net income (loss) per share, basic and diluted
As reported $ (0.06) $ 0.01 $ (0.09) $ 0.01
Pro forma $ (0.06) $ 0.01 $ (0.09) $ (0.00)
The Company accounts for non-employee stock-based awards in which services are
the consideration received for the equity instruments issued based on the fair
value of the consideration received or the fair value of the equity instrument
issued, whichever is more reliably measured. The Company determined the value of
stock grants made to both employees and non-employees based on the quoted market
price of our common stock on the date of grant.
Other Comprehensive Income
Other Comprehensive income consists of foreign currency translation adjustment:
Net Loss $3,747,644
Other Comprehensive Income 21,031
----------
Comprehensive Loss $3,726,613
Operations
As shown in the accompanying unaudited consolidated financial statements the
Company incurred a net loss for the six months ended June 30, 2003 of $3,747,644
and since our inception we have an accumulated deficit of approximately
$25,600,000.
We are currently experiencing a significant shortage of working capital. On
March 13, 2003, we received $200,000 from a private investment group under a 9%
short-term promissory note agreement. This note is due in December 2003. The
agreement also required that we issue to this private investment group
unregistered shares of our common stock equal to the face amount of the note.
Based on the market price, we issued 2,173,913 shares of our common stock to
this group.
On August 5, 2003, the Company and Champion finalized their agreement to merge
Champion with and into a wholly-owned subsidiary of the Company. In connection
with this proposed transaction, the Company has agreed to issue to the Champion
shareholders 80.8% of its outstanding common stock on a fully-diluted basis,
which on the date of the merger would have been 399,000,000 restricted shares of
its common stock. 54,000,000 restricted shares of the total 399,000,000
restricted shares have been issued to the Champion shareholders. In order to
issue the additional 345,000,000 restricted shares to the Champion shareholders
it is necessary for the Company to increase its authorized shares of common
stock from 150,000,000 to 600,000,000, which the Company has agreed to propose
at its annual meeting. Therefore, the remaining 345,000,000 restricted shares
that have not been issued to the Champion shareholders will be issued to the
Champion shareholders upon completion of its increase in its authorized shares
of common stock.
The merger with Champion will cause very significant dilution to our current
shareholders. Due, however, to the increasingly perilous and deteriorating
financial condition of the Company and limited access to alternative sources of
capital, the benefits and detriments of the merger were carefully weighed.
Offsetting this dilution was the Company's ability to address in the future an
expanded client base with an expanded array of product offerings, the
acquisition of Champion Teleport's tangible assets and the ability to combine
the managerial talents of both companies at the Oxford, Connecticut facility. In
addition, the merger provided a modest but badly needed immediate cash infusion.
In the absence of the merger, it is highly likely that the Company would have
found it necessary to cease operations. While in no way assuring that the new
entity can meet its financial obligations going forward without additional new
capital infusions and a return to profitable operations, Management and the
Board of Directors deemed this transaction to be in the best interest of the
current shareholders. The Board of Directors' approval to proceed was predicated
upon the Company obtaining a favorable Fairness Opinion from an independent
third party. This Fairness Opinion was obtained by the Company prior to closing.
6
The Company has received $200,000 from Champion under a 9% convertible secured
promissory note due in September 2003. This note is convertible into 13,333,333
shares of our common stock.
The Company's financial statements have been prepared on a going concern basis,
which contemplates the realization of assets, and the satisfaction of
liabilities in the normal course of business. Our auditors have included in
their Report of Independent Certified Public Accountants, dated February 10,
2003 (except for the third paragraph of Note 2, as to which the date is April
11, 2003), a fourth (explanatory) paragraph drawing attention to factors that
raise substantial doubt about our ability to continue as a going concern.
In the fourth quarter of 2002, we phased out our marketing agreement with our
Unlimited Domestic Calling Program telemarketer. As a result, we experienced a
decline in revenues from our Unlimited Domestic Calling Program when compared to
earlier in 2002. During the six months ended June 31, 2003, we generated
$148,000 in revenue from our Unlimited Domestic Program compared to $2,990,000
and $16,870,000 of revenue generated under this program during the three month
period ended December 31, 2002 and for the year ended December 31, 2002,
respectively.
The Company has entered into new a telemarketing agreement with a new
telemarketing organization and is actively seeking new telemarketing agreements.
The Company has reorganized its subscription fulfillment and collection
procedures.
During the second quarter of 2003, we terminated our relationship with our
Canadian calling card distributor. The company is currently seeking new
distributors throughout the United States and Canada.
The Company has undertaken significant expense reduction actions during 2003. We
have reduced head count by 70% and senior management salaries have been reduced
by 20%. The company has also reduced and deleted other non-operational costs.
While the Chief Executive and Chief Financial Officers had earned a $200,000
bonus collectively, which was accrued on the 2002 10-KSB, they have forgone
payment of this bonus. The expense has been reversed in this quarter and the
bonus will not be paid. The Company is continuing to evaluate other cost
reductions to increase efficiency in the day-to-day operations.
Despite our cost cutting and other efforts described above, our cash shortage
has continued. Our revenues for the three months ended June 30, 2003 were lower
than for the three months ended March 31, 2003.
Management believes that, even though it continues to provide both wholesale and
retail services to customers and has taken drastic cost cutting actions during
2003, that with the decline in our Unlimited Domestic Calling Program it needs
to raise additional funding in the short term in order to provide for needed
working capital and for marketing efforts related to the introduction of new
products. The Company is currently seeking additional investment capital. The
Company believes that without additional investment capital, it will not have
sufficient cash to fund its current activities, and as such, will not be able to
continue operating. Future prospects must be considered in light of the risks,
expenses and difficulties frequently encountered by companies in the
telecommunications industry.
The consolidated financial statements do not include any adjustments relating to
the recoverability and classification of liabilities that might be necessary
should we be unable to continue as a going concern.
NOTE 2 - RELATED PARTY TRANSACTIONS
During the six months ended June 30, 2003 we did not engage in any related party
transactions. During the six months ended June 30, 2002 we incurred costs for
management services provided by companies in which certain directors of ours
have a controlling interest and incurred consulting fees to certain directors of
ours totaling $15,000. The 2002 expense represents the fair value of 66,668
shares of our common stock issued in lieu of cash payments.
In July 2003, , the Company entered into a lease subject to finalization for
equipment and an office building from an associated company of Champion that
houses our Executive and Operational Offices, our Global Network Management
Center, our main back office computer systems and some operational network
equipment. The facility is fully equipped with two large 13m satellite dishes
and numerous smaller receive and transmit dishes, that can be used to provide a
range of satellite delivered IP and VoIP services. Finally, the Teleport is
fully equipped with a wide range of audio/visual equipment necessary to develop
and launch streaming media services over the Internet.
7
NOTE 3 - ACCRUED LIABILITIES
Accrued expenses consist of the following at June 30, 2003 and December 31,
2002:
2003 2002
Accrued vacation $ 50,815 $ 72,257
Accrued compensation 177,111 631,457
Accrued legal fees 25,000 50,000
Other 360,080 433,641
---------------- ----------------
$ 613,006 $1,187,355
================ ================
NOTE 4 - PROMISSORY NOTES PAYABLE
On March 13, 2003, the Company entered into a promissory note agreement for
$200,000 in order to meet its working capital needs. This promissory note bears
interest at 9%, with principal and accrued interest due on December 13, 2003.
The Company also issued to the note holder 2,173,913 shares of its common stock.
The shares of common stock had a fair market value on the date of issuance of
$200,000. The Company has recorded the fair value of the shares of common stock
as a discount to the promissory note and is recognizing the discount as
additional interest expense over the life of the promissory note. The Company
recognized $66,666 and $77,777 of the discount during the three and six months
ended June 30, 2003, respectively.
On May 6, 2003, the Company entered into a convertible promissory note agreement
for $200,000 in order to meet its working capital needs. This convertible
promissory note bears interest at 9%, with the principal and accrued interest
due on September 1, 2003. This note is convertible into 13,333,333 shares of our
common stock. The Company has recorded the value of the beneficial conversion
features of $66,667 as a discount to the face value of the debt. The company
recognized 33,334 of the discount during the three months ended June 30, 2003.
On June 24, 2003, Cornell Capital partners entered into a securities purchase
agreement with the Company under which Cornell Capital Partners agreed to
purchase the total amount of $200,000 of convertible debentures. Cornell Capital
purchased $125,000 of convertible debentures on June 24, 2003, and purchased the
remaining $75,000 when the Company filed a registration statement with the
Securities and Exchange Commission on July 28, 2003. The debentures are
convertible at the holder's option any time up to maturity at a conversion price
equal to the lower of (i) 120% of the closing bid price on the closing date
($0.075) or (ii) 80% of the average of the two lowest closing bid price of the
common stock for the five trading days immediately preceding the conversion
date. The debentures have a two year term and accrue interest at 5% per year. At
maturity, the Company has the option to either pay the holder the outstanding
principal balance and accrued interest or to convert the debentures into shares
of common stock at a conversion price equal to the lower of (i) 120% of the
closing bid price on the closing date or (ii) 80% of the average of the two
lowest closing bid price of the common stock for the five trading days
immediately preceding the conversion date. Cornell Capital Partners is entitled
to a 10% discount from the purchase price of the convertible debentures.
NOTE 5 - STOCKHOLDERS' EQUITY
On March 13, 2003, the Company entered into a promissory note agreement for
$200,000 in order to meet its working capital needs. This promissory note bears
interest at 9%, with principal and accrued interest due on December 13, 2003.
The Company also issued to the note holder 2,173,913 shares of its common stock
as additional incentive for the note holder to lend the funds to the Company.
The shares of common stock had a fair market value on the date of issuance of
$200,000. Pursuant to the broker agreement, the agent of record received a
commission of 217,913 shares of common stock. These shares of common stock had a
fair market value on the date of issuance of $20,000.
On August 5, 2003, the Company and Champion finalized their agreement to merge
Champion with and into a wholly-owned subsidiary of the Company. In connection
with this proposed transaction, the Company has agreed to issue to the Champion
shareholders 80.8% of its outstanding common stock on a fully-diluted basis,
which on the date of the merger would have been 399,000,000 restricted shares of
its common stock. 54,000,000 restricted shares of the total 399,000,000
restricted shares have been issued to the Champion shareholders. In order to
issue the additional 345,000,000 restricted shares to the Champion shareholders
it is necessary for the Company to increase its authorized shares of common
stock from 150,000,000 to 600,000,000, which the Company has agreed to propose
at its annual meeting. Therefore, the remaining 345,000,000 restricted shares
that have not been issued to the Champion shareholders will be issued to the
Champion shareholders upon completion of its increase in its authorized shares
of common stock.
8
NOTE 6 - COMMITMENTS AND CONTINGENCIES
In April 2003, the Company was informed by the Federal Trade Commission that
they have commenced a non-public investigation relating to whether the form of
payment authorization which the Company received from customers who purchased
its Unlimited Domestic Calling Program complied with the requirements of the
Electronic Fund Transfer Act and its implementing Regulation E. Management
believes that at this stage it is too early to determine whether the
investigation will result in a loss to the Company or to estimate the amount of
such loss, if any.
The Company is entering into new employment agreements with its CEO and COO in
compliance with the merger agreement but these contracts have not yet been
finalized.
The Company is currently in default on several capital leases for equipment it
uses in its operations as well at its long term obligation to a former officer
of the Company. We expect to cure these defaults when the funds from our equity
line of credit become available.
The Company defaulted on its office space lease in Herndon, VA. The Company
subsequently entered into an agreement with the landlord to pay $2,500 per month
for the remainder of 2003 to satisfy its debt in full before the beginning of
2004. The Company relocated its network and operations to a facility owned by
Champion in Oxford, Connecticut.
NOTE 7 - SUBSEQUENT EVENTS
On August 5, 2003, the company and Champion finalized the merger of Champion
with and into a wholly-owned subsidiary of ePhone (the "Transaction"). See Note
5 above.
The Company has entered into a lease subject to final negotiations for the
large, computer grade, equipment/office building from an associated company of
Champion and is planning to house the ePHONE Executive and Operational Offices,
our Global Network Management Center, our main back office computer systems and
some operational network equipment. The Teleport also is fully equipped with two
large 13m satellite dishes and numerous smaller receive and transmit dishes,
that can be used to provide a range of satellite delivered IP and VoIP services.
Finally, the Teleport is fully equipped with a wide range of audio/visual
equipment necessary to develop and launch streaming media services over the
Internet.
Cornell Capital partners purchased the remaining $75,000 of a $200,000 debenture
when the Company filed a registration statement with the Securities and Exchange
Commission on July 28, 2003 as more fully explained in note 5 and below.
On July 29, 2003 the Company filed a registration statement for the sale by
certain persons who are stockholders of the Company of up to 62,365,388 shares
of common stock on Form SB-2 The selling stockholders consists of Cornell
Capital Partners, who intends to sell up to 42,820,408 shares of common stock,
21,020,408 of which will be issued under the Equity Line of Credit, 20,000,000
are under convertible debentures, and 1,800,000 shares received by Cornell
Capital Partners on July 24, 2003, as a one-time commitment fee under the Equity
Line of Credit, TN Capital Equities, Ltd., who intends to sell up to 200,000
shares of common stock, Champion, who intends to sell up to 13,333,333 shares of
common stock under a convertible secured promissory note, and other investors,
who collectively intend to sell up to 6,011,647 shares of common stock.
Pursuant to the Equity Line of Credit, the Company may, at our discretion,
periodically issue and sell to Cornell Capital Partners shares of common stock
for a total purchase price of $3 million. The amount of each advance is subject
to a maximum advance amount of $85,000, and the Company may not submit any
advance within seven trading days of a prior advance. Cornell Capital Partners
will pay ePHONE 98% of, or a 2% discount to, the lowest closing bid price of the
common stock during the five consecutive trading day period immediately
following the notice date. Of each advance made by ePHONE, Cornell Capital
Partners shall retain 5% of each advance. In addition, Cornell Capital Partners
has received 1,800,000 shares of common stock a one-time commitment fee on July
24, 2003. Cornell Capital Partners intends to sell any shares purchased under
the Equity Line of Credit at the then prevailing market price.
The Company engaged TN Capital Equities, Ltd, a registered broker-dealer, in
connection with the Equity Line of Credit. TN Capital Equities, Ltd was paid a
fee of 200,000 shares of ePHONE's common stock on July 24, 2003.
9
Resignation Of Officer And Director
Charlie Rodriguez, former chief financial officer, Secretary and
Director of the company, tendered his resignation for personal reasons effective
August 1, 2003, the Company is actively recruiting for a Chief Financial
Officer. Mahmoud Wahba (the majority holder of Champion capital stock) was
elected a Director on May 27, 2003. On August 5, 2003, Mr. Wahba was elected
President and Carmine Taglialatela, Jr. is continuing as Chief Executive
Officer. John Wahba (Mr. Mahmoud Wahba's son) was appointed a Director of the
Company on August 5, 2003.
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Forward Looking Statements
Certain information in this report including statements made in
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" and elsewhere in this Form 10-QSB contains "forward-looking
statements". All statements other than statements of historical fact are
"forward-looking statements", including any projections of earnings, revenues or
other financial items, any statements of the plans and objectives of management
for future operations, any statements concerning proposed new products or
services, any statements regarding future economic conditions or performance,
and any statements of assumptions underlying any of the foregoing. In some
cases, forward-looking statements can be identified by the use of terminology
such as "may", "will", "expects", "plans", "anticipates", "estimates",
"potential", or "continue", or the negative thereof or other comparable
terminology. These statements involve known and unknown risks, uncertainties and
other factors which may cause our actual results, performance or achievements to
be materially different from any future results, performance or achievements
expressed or implied by the forward-looking statements. In addition to factors
that may be described in this Form 10-QSB, the following factors, among others,
could cause our actual results to differ materially from those expressed in any
forward-looking statements we make:
o the rate of expansion of our network and/or customer base
o introduction of new products
o inaccuracies in our forecasts of customer or market demand
o highly competitive market conditions
o changes in or developments under laws, regulations and
licensing requirements
o changes in telecommunications technology
o changes in economic conditions in the countries in which we
plan to operate
These factors should not be construed as exhaustive. We will not update
or revise any forward-looking statements. See also "Risk Factors" for additional
cautionary statements identifying important factors with respect to
forward-looking statements contained in this Form 10-QSB that could cause actual
results to differ materially from results or expectations referred to in the
forward-looking statements.
Overview
We are a provider of advanced Internet-based communications services.
We offer domestic and international voice and other enhanced services that
combine the flexibility and power of the Internet with the simplicity and
ubiquity of a telephone. We have been based in Herndon, Virginia, however we
have moved our operations to Oxford, Connecticut, have a FCC 214
carrier-to-carrier and resale license, and other telephony licenses required to
operate our domestic and international services.
During late 2002, we began providing retail and wholesale
telecommunication services throughout Canada through its wholly-owned
subsidiary, ePHONE Telecom, Canada. We terminated our Canadian calling card
operations as it previously existed and has started to search for a new
distributor to allow us to re-launch services in Canada.
Our strategy is to continue operations as a next generation global
Voice over Internet Protocol ("VoIP") provider offering a full complement of
telecommunications and data services utilizing the efficiency and reliability of
new generation VoIP based telecommunication technologies.
This entails offering a full complement of telecommunications services,
including a variety of retail services, wholesale arbitrage and data services,
using VoIP technology over both the Internet and private leased circuits. Using
a private Internet Protocol ("IP") network and the public Internet, we have
developed the capability to provide voice and data transmission and other
telephony features at high quality and low cost. Our international services
allows us to capitalize on inexpensive wholesale termination rates, which can be
further leveraged into retail products in order to increase overall margins.
11
We have developed a strategy that builds one element upon the other to
decrease our costs of providing service while increasing market penetration. We
also employ a channel distribution model based on the development of
partnerships both domestically and internationally. Our philosophy is to create
and sustain ourselves as a facilities based marketing and sales oriented
telecommunications company.
We believe we can differentiate ourself from the competition through
innovative marketing approaches and techniques while utilizing state of the art
technologies to provide a comprehensive array of competitive service offerings.
On August 5, 2003, we finalized our agreement with Champion to merge
Champion with and into a wholly-owned subsidiary of ours. Mr. Mahmoud Wahba who
recently became one of our directors is the 20% owner of Champion. Champion is
privately held company. We will issue a total of 399,000,000 restricted shares
of our common stock to the Champion shareholders in exchange for all of the
issued and outstanding shares of Champion's capital stock. This will result in
significant dilution to our current shareholders. As a result of the merger, we
will issue 54,000,000 of the ultimate total of 399,000,000 restricted shares of
our common stock causing a change in control. The merger will be accounted for
as a reverse acquisition, with Champion being considered the accounting
acquirer.
Champion brings a variety of assets and capabilities to the Company,
which, we believe, will allow us to develop and launch new products and extend
services to a broader geographic area. Champion locates its equipment in a
building leased from an associated company and has licenses to operate as a
Teleport in Oxford, Connecticut. On July 1, 2003, we entered into a lease with
an affiliate of Champion for the large, computer grade, equipment/office
building that will house our Executive and Operational Offices, our Global
Network Management Center, our main back office computer systems and some
operational network equipment. The Teleport also is fully equipped with two
large 13m satellite dishes and numerous smaller receive and transmit dishes,
that can be used to provide a range of satellite delivered IP and VoIP services.
Finally, the Teleport is fully equipped with a wide range of audio/visual
equipment necessary to develop and launch streaming media services over the
Internet.
We believe that voice over Internet Protocol (VoIP) services are now
forming a substantial part of the International Voice business, and recent moves
by Cisco among other companies to develop and launch WiFi based VoIP handsets
will create the momentum to move the conversion of Voice into IP packets to the
customer's desk - potentially providing the full bypass of the local loop/RBOC
infrastructure and giving fast agile companies the edge to gain significant
market share in the entire retail voice business. WiFi is creating great
interest but more importantly tremendous opportunities for those companies who
already have in place VoIP and satellite networks. This is because WiFi is a
technology with great capacity, but relatively low reach. Cost effective
solutions can often require the delivery of the "backbone broadband connection"
to small pockets of deployed antennas, covering an office park or residential
development and the unique "broadcast" capability of satellite can deliver
backbone services (with VoIP) to many distinct deployments very cost
effectively.
In the International market, especially in South America, Africa,
Eastern Europe and the Middle East, there are many new companies taking the
advantage of liberalizing market places. We believe that ePHONE and Champion can
deliver a complete packaged solution to a new carrier in those markets,
delivering a backbone IP connection for Internet services, carrying voice into
and out of the country at very low cost. We believe that this integrated package
will increase speed to market and give the new company a significant edge in
increasing market share. Demand for such service packages delivered by satellite
broadband connectivity is growing worldwide, and is especially popular in
markets such as Africa and Latin America, where terrestrial and internet
infrastructure is weak or non-existent and phone calling is cost prohibitive.
We believe that, with sufficient immediate funding, this integration of
Voice, IP and Broadband Satellite will provide ePHONE and Champion as a combined
company with the ability to demonstrate the innovation of the two companies and
opens up numerous opportunities as we move forward in delivering quality
products to the a global customer base. In this evolving market, we believe that
ePHONE and Champion are well positioned to take advantage of their respective
technologies to provide a host of innovative, reliable and affordable services
to a broad customer base.
12
Results Of Operations
Three And Six Months Ended June 30, 2003 And 2002
We experienced net losses from operations for the three and six months
ended June 30, 2003 and net income from operations for the three and six months
ended June 30, 2002. The totals rounded to the nearest thousand are below.
Three months Three months Six months Six months
ended June 30, ended June 30, ended June ended June
2003 2002 30, 2003 30, 2002
------------------------------------------------------------------------------
Net income (loss) from operations $ (2,543,000) $ 405,000 $ (3,748,000) $ 618,000
Net income (loss) per common share (0.06) 0.01 (0.09) 0.02
Revenues
Our revenue from operations for the three and six months ended June 30,
2003 and 2002 were as follows.
Three months Three months Six months Six months
ended June 30, ended June 30, ended June 30, ended June 30,
2003 2002 2003 2002
---------------- ---------------- ---------------- ----------------
Service Revenue $ 271,000 $ 5,081,000 $ 2,362,000 $ 9,143,000
=================== ==================== ==================== ====================
Revenues decreased from $9,143,000 for the six months ended June 30,
2002 to $2,362,000 for the same period in 2003. The majority of the decrease is
attributed to our "Unlimited Calling" Program. We generated approximately
$148,000 in revenue from our Unlimited Domestic Program in the six months ended
June 30, 2003 compared to revenue generated from this program for the six months
ended June 30, 2002 totaling $8,239,000.
Through our wholly owned subsidiary, ePHONE Canada, Inc. we launched
our new Canadian prepaid calling card program in late 2002. Due to unforeseen
technically difficulties encountered in the startup of this program and
competitive pricing to gain market acceptance the program generated negative
margins during the six months ended June 30, 2003. Revenue from the Canadian
calling card program for the six months ended June 30, 2003 was $760,000 and a
large amount of revenue was lost upon termination of the plan due to the
uncollectability of the sales of those calling cards. Due to the challenges
mentioned above the Company has determined that it was in its best interest to
terminate the plan for the time being until a more profitable and stable product
could be introduced into the Canadian market.
The wholesale strategy, including placing equipment directly in foreign
countries, such as Guatemala, resulted in revenue of $1,144,000 for the six
months ended June 30, 2003. Due to the Company's cash flow requirements, we
anticipate that wholesale revenues will be substantially reduced until the
Company completes the relocation of its operations to Connecticut and rebuilds
the success it had achieved in previous quarters.
The prepaid calling card and wholesale traffic programs accounted for
approximately 90% of our revenue for the six months ended June 30, 2003.
We engaged a new telemarketer and have reorganized subscription
fulfillment and collection procedures related to our domestic unlimited calling
program. While we remain hopeful that this program will once again generate a
significant portion of our revenue, it is not experiencing the same level of
growth as it had experienced in 2002.
We believe that integration of Voice, IP and Broadband Satellite
provides ePHONE and Champion as a combined company the ability to demonstrate
the innovation of the two companies and opens up numerous opportunities as we
move forward in delivering quality products to the a global customer base. In
this evolving market, ePHONE and Champion are uniquely well positioned to take
advantage of their respective technologies to provide a host of innovative,
reliable and affordable services to a broad customer base.
13
Cost Of Revenues
During the three and six months ended June 30, 2003 and 2002 cost of
services revenue and cost of product revenue were as follows.
Three months Three months Six months Six months
ended June 30, ended June 30, ended June 30, ended June 30,
2003 2002 2003 2002
---------------- ---------------- ---------------- ----------------
Cost of service revenue $ 926,000 $ 2,776,000 $ 2,999,000 $ 5,262,000
================ ================ ================ ================
Cost of Revenues decreased from $5,262,000 for the six months ended
June 30, 2002 to $2,999,000 for the same period in 2003. The reduction was due
to a substantial decrease in revenue. For the three months ended June 30, 2003
and 2002, cost of goods sold represented commissions, origination and
termination charges, network costs and processing charges related to our
telecommunications services programs. Gross margin for the three and six months
ended June 30, 2003 were negative, due mainly to the termination of the Canadian
calling card program and the associated negative margins the plan experienced
while operating, compared to a gross margin of 42% for the six months ending
June 30, 2002. The primary reduction in our gross margin is due to the change in
our revenue mix and the negative gross margin we experienced during the
six-month period ended June 30, 2003 in our Canadian calling card program.
Sales And Marketing
Sales and marketing expense increased from $565,000 for the six months
ended June 30, 2002 to $786,000 for the same period in 2003. During 2002 and
2003, our sales and marketing expenses included marketing commissions and
salaries. The increase is mainly attributable to the termination and settlement
of a consulting arrangement with a marketing consultant the Company employed to
develop new business.
General And Administrative
General and administrative expense decreased from $2,683,000 for the
six months ended June 30, 2002 to $1,836,000 for the same period in 2002.
General and administrative expense included non-cash compensation of $38,000 for
the six months ended June 30, 2002. This expense represented the fair value of
171,000 shares of our common stock issued for consulting services to two
consultants and to two members of our Board of Directors. The decrease is mainly
attributable to the Company's efforts to cut costs at every conceivable level as
explained below. Until the Company has the ability to ramp up its operations in
Connecticut it is likely that general and administrative expenses remain at a
very low level.
The Company has undertaken significant expense reduction actions during
2003. We have reduced head count by 70% and senior management salaries have been
reduced by 20%. The Company has also reduced and deleted other non-operational
costs. While the Chief Executive and Chief Financial Officers had earned a
$200,000 bonus collectively, which was accrued on the 2002 10-KSB, they have
forgone payment of this bonus. The expense has been reversed in this six-month
period and the bonus will not be paid. The Company is continuing to evaluate
other cost reductions to increase efficiency in the day-to-day operations.
Income Taxes
There was no provision for federal or state income taxes for the six
and three months ended June 30, 2003 and 2002 due to current operating losses
and the availability of a net operating loss (NOL) for income tax purposes. This
NOL was generated from previous operating losses incurred since inception. A
valuation allowance has been established and, accordingly, no asset has been
recorded for our net operating losses and other deferred tax assets.
Liquidity And Capital Resources
We are currently experiencing a significant shortage of working capital
and unless we are able to raise additional capital in the short term we will not
be able to continue operations.
14
On March 13, 2003, we have received $200,000 from a private investment
group under a 9% short-term promissory note agreement. This note is due in
December 2003. The agreement also required that we issue to this private
investment group unregistered shares of our common stock equal to the face
amount of the note. Based on the market price, we issued 2,173,913 shares of our
common stock to this group. The shares were issued with a restricted legend and
must be registered within 180 days and become effective within 240 days of
closing. On August 5, 2003, as described above, we finalized our agreement with
Champion under which we have merged with Champion, with the Champion
shareholders receiving 399,000,000 restricted shares of our common stock. This
will cause significant dilution to our current shareholders. Management and the
Board of Directors believes that due to our current financial condition, this
transaction will be in the best interest of our shareholders. We received
$200,000 from Champion under a 9% convertible secured promissory note due in
September 2003. This note is convertible into 13,333,333 shares of our common
stock.
Our financial statements have been prepared on a going concern basis,
which contemplates the realization of assets, and the satisfaction of
liabilities in the normal course of business. Our auditors have included in
their Report of Independent Certified Public Accountants, dated February 10,
2003 (except for the third paragraph of Note 2, as to which the date is April
11, 2003), a fourth (explanatory) paragraph drawing attention to factors that
raise substantial doubt about our ability to continue as a going concern.
Management believes that, even though it continues to provide both
wholesale and retail services to customers and has taken drastic cost cutting
actions during 2003, that with the decline in our revenues it needs to raise
additional funding in the short term in order to provide for needed working
capital and for marketing efforts related to the introduction of new products,
including eTRANS-PORT. We are currently seeking additional investment capital.
We believe that without additional investment capital, we will not have
sufficient cash to fund our current activities, and as such, may not be able to
continue operating. Future prospects must be considered in light of these risks,
and the risks, expenses and difficulties frequently encountered by companies in
the telecommunications industry.
During the six months ended June 30, 2003, we utilized $1,753,000 of
cash from operating activities. Investing activities contributed $71,000 of cash
from the sale of fixed assets and financing activities provided $490,000 which
consisted of proceeds from Promissory Notes less payments on long term
obligations during the three month period ended June 30, 2003.
We have three equipment commitments totaling $47,000, which expire in
2003 and 2004.
During the year ended December 31, 2002, we received $690,000 for the
purchase of 3,448,913 shares of our common stock from the exercise of warrants
we had issued in connection with the sale of special warrants in 2000. On March
30, 2002, the warrants for the purchase of 9,115,161 shares of our common stock
expired unexercised. We also received $321,000 for the issuance of 1,106,500
shares of our common stock for the exercise of 1,106,500 stock options by our
CEO and CFO at prices ranging from $0.20 to $0.35 per share. Six board members
also exercised options to purchase 253,200 shares of our common stock at
exercise prices ranging from $0.20 to $0.35 with the proceeds totaling $81,000.
The proceeds from the exercise of these warrants and stock options, along with
$890,000 of cash generated from our operations during the year ended December
31, 2002, net of our $1,600,000 settlement payment to Comdial and $664,000 in
property, plant and equipment purchases, increased our cash from $36,000 at
December 31, 2001 to $1,252,936 at December 31, 2002.
It is important to point out that since our inception, we have
accumulated a deficit of approximately $26,000,000, and that we funded our
operations, prior to our generating service revenues beginning in August 2001,
primarily with the proceeds we raised in our special warrant offering in 2000,
from the exercise of warrants during 2001 of $305,000, and from limited
equipment sales.
During the twelve months ended December 31, 2002, investing activities
used $664,000 of cash for the purchase of fixed assets and financing activities
provided $959,000 which consisted of $1,093,000 received from the exercise of
warrants and employee stock options offset by payments on obligations for the
year ended December 31, 2002.
On June 24, 2003, Cornell Capital Partners entered into a securities
purchase agreement with us under which Cornell Capital Partners agreed to
purchase a total amount of $200,000 of convertible debentures. Cornell Capital
purchased $125,000 of convertible debentures on June 24, 2003, and purchased
$75,000 upon filing of the registration statement with the Securities and
Exchange Commission. The debentures are convertible at the holder's option any
time up to maturity at a conversion price equal to the lower of (i) 120% of the
closing bid price on the closing date or (ii) 80% of the average of the two
lowest closing bid price of the common stock for the five trading days
immediately preceding the conversion date. The debentures have a two year term
and accrue interest at 5% per year. At maturity, ePHONE has the option to either
pay the holder the outstanding principal balance and accrued interest or to
convert the debentures into shares of common stock at a conversion price equal
to the lower of (i) 120% of the closing bid price on the closing date or (ii)
80% of the average of the two lowest closing bid price of the common stock for
the five trading days immediately preceding the conversion date. Cornell Capital
Partners is entitled to a 10% discount from the purchase price of the
convertible debentures. Cornell Capital Partners purchased the convertible
debentures from ePHONE in a private placement.
15
On June 24, 2003, we entered into an Equity Line of Credit with Cornell
Capital Partners. Pursuant to the Equity Line of Credit, we may, at our
discretion, periodically sell to Cornell Capital Partners shares of common stock
for a total purchase price of up to $3 million. For each share of common stock
purchased under the Equity Line of Credit, Cornell Capital Partners will pay
ePHONE 98% of, or a 2% discount to, the lowest closing bid price of our common
stock on the Over-the-Counter Bulletin Board or other principal market on which
our common stock is traded for the five days immediately following the notice
date. Further, Cornell Capital Partners will retain 5% of each advance under the
Equity Line of Credit. In connection with the Equity Line of Credit, Cornell
Capital Partners has received 1,800,000 shares of common stock as a one-time
commitment fee on July 24, 2003.
The Company is currently in default on several capital leases for
equipment it uses in its operations as well at its long term obligation to a
former officer of the Company. We expect to cure these defaults when the funds
from our Equity Line of Credit become available.
Our future capital requirements will depend on many factors, including
growth of our business, economic conditions and other factors, including the
results of future operations. If we are unable to raise sufficient funds to meet
our long-term capital needs, we will be required to cease operations.
Risks Factors
ePHONE Has Historically Lost Money And Losses May Continue In The
Future
Since our inception we have not always been profitable and have lost
money on both a cash and non-cash basis. While we had net income of $502,780 for
the fiscal year ended December 31, 2002, we lost $7,021,129 for the fiscal year
ended December 31, 2001. Additionally, we lost $3,747,344 for the six months
ended June 30, 2003. Our accumulated deficit was $25,585,691 as at the end of
June 30, 2003. Due to the significant reduction in revenue we experienced during
late 2002 and in 2003, we anticipate future losses and negative cash flows will
continue to occur. We are currently experiencing a significant operating cash
flow deficit due and need to immediately raise additional capital in order to
have funds to pay for operations. No assurances can be given that we will be
successful in again reaching or maintaining profitable operations. Our ability
to return to profitability depends on many circumstances. If we do not return to
profitability, our ability to respond effectively to market conditions, to make
capital expenditures and to take advantage of business opportunities could be
affected. In addition, our prospects must be considered in light of the risks
encountered by companies like ours developing products and services in new and
rapidly evolving markets. Our failure to perform in these areas could have a
material adverse effect on the business plan of operations and financial
condition. Accordingly, we may experience liquidity and cash flow problems.
ePHONE May Need To Raise Additional Capital Or Debt Funding To
Sustain Operations
Unless ePHONE can become profitable with the existing sources of funds
we have available, we will require additional capital to sustain operations and
we may need access to additional capital or additional debt financing to grow
our sales. In addition, to the extent that we have a working capital deficit and
cannot offset the deficit from profitable sales we may have to raise capital to
repay the deficit and provide more working capital to permit growth in revenues.
We cannot assure you that financing whether from external sources or related
parties will be available if needed or on favorable terms. Our inability to
obtain adequate financing will result in the need to reduce our business
operations. Any of these events could be materially harmful to our business and
may result in a lower stock price.
We Have Been The Subject Of A Going Concern Opinion For Our Fiscal Year
Ended December 31, 2002 From Our Independent Auditors, Which Means That
We May Not Be Able To Continue Operations Unless We Can Become
Profitable or Obtain Additional Funding
Our independent auditors have added an explanatory paragraph to their
audit opinions issued in connection with our financial statements for the year
ended December 31, 2002, which states that the financial statements raise
substantial doubt as to ePHONE's ability to continue as a going concern. We have
experienced a decline in revenues from our Unlimited Domestic Calling Program.
Revenues from that Program generated only $148,000 in the six months ended June
30, 2003. In 2002, revenues from the Unlimited Domestic Calling Program were
approximately $16,870,000 or approximately 88% of our total revenues. Our
ability to make operations profitable or obtain additional funding will
determine our ability to continue as a going concern. Our financial statements
do not include any adjustments that might result from the outcome of this
uncertainty. Based on our current budget assessment, and excluding any
acquisitions which may occur in 2003, we believe that we may need to obtain
approximately $3 million in additional debt or equity capital from one or more
sources to fund operations for the next 12 months. These funds are expected to
be obtained from the sale of securities, including the sale of stock under the
Equity Line of Credit.
16
We Are Subject To A Working Capital Deficit, Which Means That Our
Current Assets On June 30, 2003 Were Not Sufficient To Satisfy Our
Current Liabilities
We had a working capital deficit of $3,055,000 at June 30, 2003, which
means that our current liabilities as of that date exceeded our current assets
on June 30, 2003 by $3,055,000. Current assets are assets that are expected to
be converted to cash within one year and, therefore, may be used to pay current
liabilities as they become due. Our working capital deficit means that our
current assets on June 30, 2003 were not sufficient to satisfy all of our
current liabilities on that date. If our ongoing operations do not begin to
provide sufficient profitability to offset the working capital deficit we may
have to raise capital or debt to fund the deficit.
Our Common Stock May Be Affected By Limited Trading Volume And May
Fluctuate Significantly
Historically, there has been a limited public market for our
common stock and there can be no assurance that a more active trading market for
our common stock will develop. An absence of an active trading market could
adversely affect our shareholders' ability to sell our common stock in short
time periods, or possibly at all. Our common stock has experienced, and is
likely to experience in the future, significant price and volume fluctuations,
which could adversely affect the market price of our common stock without regard
to our operating performance. In addition, we believe that factors such as
quarterly fluctuations in our financial results and changes in the overall
economy or the condition of the financial markets could cause the price of our
common stock to fluctuate substantially. These fluctuations may also cause short
sellers to enter the market from time to time in the belief that ePHONE will
have poor results in the future. We cannot predict the actions of market
participants and, therefore, can offer no assurances that the market for our
stock will be stable or appreciate over time.
Our Common Stock Is Deemed To Be "Penny Stock," Which May Make It More
Difficult For Investors To Sell Their Shares Due To Suitability
Requirements
Our common stock is deemed to be "penny stock" as that term is defined
in Rule 3a51-1 promulgated under the Securities Exchange Act of 1934. These
requirements may reduce the potential market for our common stock by reducing
the number of potential investors. This may make it more difficult for investors
in our common stock to sell shares to third parties or to otherwise dispose of
them. This could cause our stock price to decline. Penny stocks are stock:
o With a price of less than $5.00 per share;
o That are not traded on a "recognized" national exchange;
o Whose prices are not quoted on the NASDAQ automated quotation
system (NASDAQ listed stock must still have a price of not
less than $5.00 per share); or
o In issuers with net tangible assets less than $2.0 million (if
the issuer has been in continuous operation for at least three
years) or $10.0 million (if in continuous operation for less
than three years), or with average revenues of less than $6.0
million for the last three years.
Broker/dealers dealing in penny stocks are required to provide
potential investors with a document disclosing the risks of penny stocks.
Moreover, broker/dealers are required to determine whether an investment in a
penny stock is a suitable investment for a prospective investor.
We Could Fail To Attract Or Retain Key Personnel
Our success largely depends on the efforts and abilities of key
executives, including Carmine Taglialatela, Jr., our Chief Executive Officer,
Mahmoud Wahba, our President, and Steven Heap, our Chief Operating Officer. The
loss of the services of Mr. Taglialatela, Jr., Mr. Wahba or Mr. Heap could
materially harm our business because of the cost and time necessary to replace
and train a replacement. Such a loss would also divert management attention away
from operational issues. We do not presently maintain key-man life insurance
policies. We also have other key employees that manage our operations and if we
were to lose their services, senior management would be required to expend time
and energy to replace and train replacements. To the extent that we are smaller
than our competitors and have fewer resources, we may not be able to attract the
sufficient number and quality of staff.
17
Our Limited Operating History Makes It Difficult Or Impossible To
Evaluate Our Performance And Make Predictions About Our Future
We have been operating for less than four years. Based on this limited
operating history, it is difficult or impossible for us to evaluate our
operational and financial performance, or to make accurate predictions about our
future performance.
Our Failure To Acquire, Integrate And Operate New Technology Could Harm
Our Competitive Position
The telecommunications industry is characterized by rapid and
significant technological advancements and the related introduction of new
products and services. We do not possess significant intellectual property
rights with respect to the technologies we use, and we are dependent on third
parties for the development of and access to new technology. The effect of
technological changes on our business plan cannot be predicted. In addition, it
is impossible for us to predict with any certainty whether demand for VoIP
services in the future markets will develop or will prove to be an economical
and efficient technology that is capable of attracting customer usage. Failure
by us to obtain and adapt to new technology in the future markets could have a
material adverse effect on its business and plan of operations.
We Do Not Presently Intend To Pay Dividends On Our Common Stock
We have never paid dividends on our common stock and do not presently
intend to pay cash dividends on our common stock. Any future decisions as to the
payment of dividends will be at the discretion of our Board of Directors,
subject to applicable law.
Telecommunications Related Stock Prices Have Been Especially Volatile
And This Volatility May Depress Our Stock Price
The stock market has from time to time experienced significant price
and volume fluctuations which have particularly affected the market prices of
the stocks of high technology and telecommunications-related companies,
including companies like ours, and which may be unrelated or disproportionate to
the operating performance of particular companies. Factors such as quarterly
variations in actual or anticipated operating results, changes in earnings
estimates by analysts, market conditions in the industry, analysts' reports,
announcements by competitors, regulatory actions or other events or factors,
including the risk factors described in this prospectus, and general economic
conditions may have a significant effect on the market price of our common
stock. This broad market and industry volatility may reduce the value of our
common stock, regardless of ePHONE's operating performance. Due to this
volatility, the value of our common stock could decrease.
ITEM 3. CONTROLS AND PROCEDURES
(a) Evaluation of disclosure controls and procedures. As of the end of
the period covered by this report, the Company carried out an evaluation, under
the supervision and with the participation of the Company's Principal Executive
Officer/Acting Principal Financial Officer (one person), of the effectiveness of
the design and operation of the Company's disclosure controls and procedures.
The Company's disclosure controls and procedures are designed to provide a
reasonable level of assurance of achieving the Company's disclosure control
objectives. The Company's Principal Executive Officer/Acting Principal
Accounting Officer has concluded that the Company's disclosure controls and
procedures are, in fact, effective at this reasonable assurance level.
(b) Changes in internal controls. There were no significant changes in
the Company's internal controls or in other factors that could significantly
affect the Company's disclosure controls and procedures subsequent to the date
of the evaluation.
(c) The Company is actively recruiting a prospective Chief Financial
Officer and additional accounting personnel to insure that the disclosure
controls and procedures do not deteriorate over time.
18
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
In April 2003 The Federal Trade Commission commenced a non-public
investigation relating to whether the form of payment authorization which ePHONE
received from customers who purchased its Unlimited Domestic Calling Program
complied with the requirements of the Electronic Fund Transfer Act and its
implementing Regulation E. At this stage the investigation has not proceeded
beyond a request for voluntary production of documents and it is too early to
determine the outcome.
The company defaulted on its office space lease in Herndon, VA and was
subsequently sued by its landlord. The company subsequently entered into an
agreement with the landlord to pay $2,500 per month for the remainder of 2003 to
satisfy its debt in full.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
No issuances of common occurred during the second quarter of 2003. On
July 24, 2003, the Company issued 200,000 shares to TN Capital Equities, Ltd as
compensation for placement agent services in connection with the Equity Line of
Credit. The Company also issued 1,800,000 shares to Cornell Capital as a
commitment fee under the Equity Line of Credit.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5. OTHER INFORMATION
Change In Control
On August 5, 2003, in connection with the acquisition of Champion
Teleport, Inc., we agreed to issue to an aggregate of 399,000,000 restricted
shares of our common stock to the Champion shareholders. Each of the following
persons will receive 99,750,000 restricted shares of our common stock in
connection with the acquisition of Champion: Mahmoud Wahba, James Wahba, John
Wahba and Timothy Wahba. James, John and Timothy Wahba are the sons of Mahmoud
Wahba. The 399,000,000 restricted shares of common stock to be issued to the
Champion shareholders represents 80.8% of the Company's outstanding shares as of
the date of the acquisition. Each of Mahmoud and John Wahba have been elected to
serve as directors on the Company's Board of Directors.
Acquisition Of Champion Teleport, Inc.
On August 5, 2003, the Company and Champion finalized their agreement
to merge Champion with and into a wholly-owned subsidiary of the Company. In
connection with this proposed transaction, the Company has agreed to issue to
the Champion shareholders 80.8% of its outstanding common stock on a
fully-diluted basis, which on the date of the merger would have been 399,000,000
restricted shares of its common stock. 54,000,000 restricted shares of the total
399,000,000 restricted shares are being issued to the Champion shareholders. In
order to issue the additional 345,000,000 restricted shares to the Champion
shareholders it is necessary for the Company to increase its authorized shares
of common stock from 150,000,000 to 600,000,000, which the Company has agreed to
propose at its annual meeting. Therefore, the remaining 345,000,000 restricted
shares that have not been issued to the Champion shareholders will be issued to
the Champion shareholders upon completion of its increase in its authorized
shares of common stock. The Company received an opinion as to the "fairness" of
the transaction, from a financial point of view, from Evergreen Capital.
Champion brings a variety of assets and capabilities to the Company,
which we believe will allow us to develop and launch new products and extend
services to a broader geographic area. Champion located its equipment in a
building leased from an associated company and has licenses to operate as a
Teleport in Oxford, Connecticut. On July 1, 2003, we entered into a lease,
subject to final negotiation, with an associated company of Champion for the
large, computer grade, equipment/office building that will house our Executive
and Operational Offices, our Global Network Management Center, our main back
office computer systems and some operational network equipment. The Teleport
also is fully equipped with two large 13m satellite dishes and numerous smaller
receive and transmit dishes, that can be used to provide a range of satellite
delivered IP and VoIP services. Finally, the Teleport is fully equipped with a
wide range of audio/visual equipment necessary to develop and launch streaming
media services over the Internet.
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We believe that voice over Internet Protocol (VoIP) services are now
forming a substantial part of the International Voice business, and recent moves
by Cisco among other companies to develop and launch WiFi based VoIP handsets
will create the momentum to move the conversion of Voice into IP packets to the
customer's desk - potentially providing the full bypass of the local loop/RBOC
infrastructure and giving fast agile companies the edge to gain significant
market share in the entire retail voice business. WiFi is creating great
interest but more importantly tremendous opportunities for those companies who
already have in place VOIP and satellite networks. This is because WiFi is a
technology with great capacity, but relatively low reach. Cost effective
solutions can often require the delivery of the "backbone broadband connection"
to small pockets of deployed antennas, covering an office park or residential
development and the unique "broadcast" capability of satellite can deliver
backbone services (with VoIP) to many distinct deployments very cost
effectively.
In the International market, especially in South America, Africa,
Eastern Europe and the Middle East, there are many new companies taking
opportunity of liberalizing market places. We believe that ePHONE and Champion
can deliver a complete packaged solution to a new carrier in those markets,
delivering a backbone IP connection for Internet services, carrying voice into
and out of the country at very low cost. We believe that this integrated package
will increase speed to market and give the new company a significant edge in
increasing market share. Demand for such service packages delivered by satellite
broadband connectivity is growing worldwide, and is especially popular in
markets such as Africa and Latin America, where terrestrial and internet
infrastructure is weak or non-existent and phone calling is cost prohibitive.
We believe, with sufficient immediate funding, that this integration of
Voice, IP and Broadband Satellite will provide ePHONE and Champion as a combined
company with the ability to demonstrate the innovation of the two companies and
opens up numerous opportunities as we move forward in delivering quality
products to the a global customer base. In this evolving market, we believe that
ePHONE and Champion, with the proper funding, are well positioned to take
advantage of their respective technologies to provide a host of innovative,
reliable and affordable services to a broad customer base.
Resignation Of Officer And Director
Charlie Rodriguez, former chief financial officer, Secretary and
Director of the company, tendered his resignation for personal reasons effective
August 1, 2003, the Company is actively recruiting for a Chief Financial
Officer. Mahmoud Wahba (the majority holder of Champion capital stock) was
elected a Director on May 27, 2003. On August 5, 2003, Mr. Wahba was elected
President and Carmine Taglialatela, Jr. is continuing as Chief Executive
Officer. John Wahba (Mr. Mahmoud Wahba's son) was appointed a Director of the
Company on August 5, 2003.
Effective September 12, 2003, Lawrence Codovaci, Eugene Sekulow,
Sheldon Kamins, John Wahba and Robert Stuart resigned as directors of the
Company.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a. Exhibits:
Exhibit No. Description
- ----------- ------------
3.1 Articles of Incorporation (1)
3.2 Amendment to Articles of Incorporation (1)
3.3 Bylaws (1)
3.4 Amended and Restated Articles of Incorporation (2)
3.5 Amended and Restated Articles of Incorporation (3)
9.1 Arbitration Award (4)
9.2 Press Release issued in connection with the Comdial Arbitration (4)
9.3 Arbitration Settlement Agreement(9)
10.1 Specimen of form of Option Incentive Agreement (1)
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10.2 Agency Agreement dated as of March 16, 2000 between ePHONE and
Groome Capital.com, Inc. (5)
10.3 ePHONE Telecom, Inc. 2000 Long-Term Incentive Plan (6)
10.4 Employment Agreement with James Meadows, Chief Operating
Officer (8)
10.5 Employment Agreement with Carmine Taglialatela, President and Chief
Executive Officer (8)
10.6 Employment Agreement with Steven Heap ,Chief Operating Officer (8)
10.7 Letter of Intent to merge with Champion Teleport, Inc.(11)
99.1 Settlement Agreement and Mutual General Release between Charlie
Yang and ePHONE Telecom, Inc., dated March 23, 2001 (7)
99.2 Settlement Agreement between Comdial Corporation, Array Telecom
Corporation and ePHONE dated November 13, 2002 (9)
99.3 Equity Line of Credit Agreement dated June 24, 2003 between the
Registrant and Cornell Capital Partners LP(10)
99.4 Registration Rights Agreement dated June 24, 2003 between the
Registrant and Cornell Capital Partners, LP(10)
99.5 Escrow Agreement dated June 24, 2003 among the Registrant, Cornell
Capital Partners, LP, Butler Gonzalez, LLP(10)
99.6 Securities Purchase Agreement dated June 24, 2003 among the
Registrant and the Buyers(10)
99.7 Escrow Agreement dated June 24, 2003 among the Registrant, the
Buyers, and Butler Gonzalez, LLP(10)
99.8 Debenture Agreement Dated June 24, 2003 between the Registrant and
Cornell Capital Partners LP(10)
99.9 Investor Registration Rights Agreement dated June 24, 2003 between
the Registrant and the Investors(10)
99.10 Placement Agent Agreement dated June 24, 2003 among the Registrant,
NT Capital Equities, Ltd. and Cornell Capital Partners LP(10)
99.11 Agreement and Plan of Merger by and among ePHONE Telecom, Inc.,
Champion Teleport, Inc. and ePHONE Merger Corp. dated as of August
5, 2003(11)
31.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 (12)
32.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 (12)
(1) Previously filed as an exhibit to ePHONE's Form 10-SB, filed with
the Securities and Exchange Commission on October 15, 1999.
(2) Previously filed as an exhibit to Amendment No. 2 to ePHONE's Form
10-SB, filed with the Securities and Exchange Commission on January
5, 2000.
(3) Previously filed as an exhibit to Amendment No. 1 to ePHONE's
preliminary proxy filed with Securities and Exchange Commission on
July 24, 2002.
(4) Previously filed as an exhibit to ePHONE's Form 8-K filed with the
Securities and Exchange Commission on September 9, 2002.
(5) Previously filed as an exhibit to Amendment No. 5 to ePHONE's Form
10-SB, filed with the Commission on June 5, 2000.
(6) Previously filed as an exhibit to ePHONE's Form SB-2 filed with the
Commission on August 9, 2000.
(7) Previously filed as an exhibit to ePHONE's Form 8-K, filed with the
Commission on April 16, 2001.
(8) Previously filed as an exhibit to ePHONE's Form 10-KSB, filed with
the Commission on April 15, 2001.
(9) Previously filed as an exhibit to ePHONE's Form 10-QSB, filed with
the Commission on November 14, 2002.
(10) Previously filed as an exhibit to ePHONE's Form SB-2 Registration
Statement, filed with the Commission on July 28, 2003.
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(11) Previously filed as an exhibit to ePHONE's Form 8-K filed with the
Commission on August 22, 2003.
(12) Provided herewith.
b. Reports on Form 8-K:
On August 22, 2003, the Company filed a current report on Form 8-K
announcing under Item 2 that the merger between the Company and Champion
Teleport, Inc. had been completed on August 5, 2003.
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SIGNATURE
Pursuant to the requirements of Section 12 of the Securities Exchange
Act of 1934, the registrant has duly caused this registration statement to be
signed on its behalf by the undersigned, thereunto duly authorized.
Date Signature
September 16, 2003 By: /s/ Carmine Taglialatela, Jr.
-----------------------------
Carmine Taglialatela, Jr., CEO and
Acting Chief Financial Officer
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