SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-QSB
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED NOVEMBER 30, 1998
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
Commission file number: 0-24426
C-PHONE CORPORATION
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(Exact name of small business issuer as specified in its charter)
NEW YORK 06-1170506
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(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
6714 NETHERLANDS DRIVE
WILMINGTON, NORTH CAROLINA 28405
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(Address of principal executive offices)
(910) 395-6100
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(Issuer's telephone number, including area code)
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act 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 [
].
State the number of shares outstanding of each of the issuer's classes of common
equity, as of the latest practicable date.
7,978,605 shares of common stock as of January 13, 1999.
Transitional Small Business Disclosure Form Yes [ ] No [X]
C-PHONE CORPORATION
FORM 10-QSB
INDEX
PAGE NUMBER
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PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
Balance Sheets as of February 28, 1998
and November 30, 1998 (unaudited) 3
Statements of Operations for the three and nine
months ended November 30, 1997 and 1998 (unaudited) 4
Statements of Cash Flows for the nine months
ended November 30, 1997 and 1998 (unaudited) 5
Notes to Unaudited Financial Statements 6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION 9
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 17
SIGNATURES 18
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
C-PHONE CORPORATION
BALANCE SHEETS
February 28, 1998 November 30, 1998
----------------- -----------------
ASSETS (unaudited)
Current assets:
Cash and cash equivalents $ 4,200,231 $ 5,636,599
Accounts receivable, net of allowance for doubtful accounts
of $173,227 at February 28, 1998 and $204,632 at
November 30, 1998 (unaudited) 346,684 282,542
Inventories 1,641,528 1,648,792
Prepaid expenses and other current assets 73,728 116,754
------------ ------------
Total current assets 6,262,171 7,684,687
Property and equipment, net 164,174 121,089
Other assets 42,686 108,322
------------ ------------
Total assets $ 6,469,031 $ 7,914,098
============ ============
LIABILITIES, PREFERRED STOCK AND
SHAREHOLDERS' EQUITY
Current liabilities:
Accounts payable, trade $ 796,019 $ 521,237
Accrued expenses 295,647 335,269
------------ ------------
Total current liabilities 1,091,666 856,506
Series A convertible preferred stock, $1,000 stated amount;
5,000 shares designated; 4,500 and 0 shares issued and
outstanding at February 28, 1998 and November 30, 1998
(unaudited), respectively (Note 3(b)) 4,543,767 --
Shareholders' equity:
Common stock, $.01 par value; 20,000,000 shares authorized
at February 28, 1998 and November 30, 1998 (unaudited);
5,348,234 and 7,978,605 shares issued and outstanding at
February 28, 1998 and November 30, 1998 (unaudited), respectively 53,482 79,786
Paid-in capital - common stock 18,038,006 28,601,399
------------ ------------
Paid-in capital - preferred stock 1,318,350 --
Accumulated deficit (18,576,240) (21,623,593)
------------ ------------
Total shareholders' equity 833,598 7,057,592
------------ ------------
Total liabilities, preferred stock and shareholders' equity $ 6,469,031 $ 7,914,098
============ ============
The accompanying notes are an integral part of the financial statements
3
C-PHONE CORPORATION
STATEMENTS OF OPERATIONS
(unaudited)
Three Months Ended November 30, Nine Months Ended November 30,
------------------------------- ------------------------------
1997 1998 1997 1998
----------- ----------- ----------- -----------
Net sales $ 449,514 $ 438,041 $ 1,202,424 $ 1,317,956
Other revenue 12,968 3,308 21,007 28,820
----------- ----------- ----------- -----------
Total revenue 462,482 441,349 1,223,431 1,346,776
----------- ----------- ----------- -----------
Cost of goods sold 662,925 589,410 1,982,347 1,729,031
Cost of other revenue 7,647 231 8,659 9,674
----------- ----------- ----------- -----------
Total cost of revenue 670,572 589,641 1,991,006 1,738,705
----------- ----------- ----------- -----------
Gross loss (208,090) (148,292) (767,575) (391,929)
----------- ----------- ----------- -----------
Operating expenses:
Selling, general and administrative 861,752 767,247 3,027,075 2,196,115
Research, development and engineering 234,394 192,529 755,380 599,329
----------- ----------- ----------- -----------
Total operating expenses 1,096,146 959,776 3,782,455 2,795,444
----------- ----------- ----------- -----------
Operating loss (1,304,236) (1,108,068) (4,550,030) (3,187,373)
Interest expense 0 0 (447) 0
Interest income 20,440 71,356 104,713 211,617
Net loss $(1,283,796) $(1,036,712) $(4,445,764) $(2,975,756)
=========== =========== =========== ===========
Per-share data:
Basic and diluted net loss per
common share $ (0.24) $ (0.13) $ (0.86) $ (0.44)
=========== =========== =========== ===========
Shares used in computing net loss per
common share 5,342,046 7,831,988 5,154,770 6,917,902
=========== =========== =========== ===========
The accompanying notes are an integral part of the financial statements.
4
C-PHONE CORPORATION
STATEMENTS OF CASH FLOWS
(unaudited)
Nine Months Ended November 30,
------------------------------
1997 1998
----------- -----------
Cash flows from operating activities:
Net loss $(4,445,764) $(2,975,756)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 90,730 98,675
Provision for inventory obsolescence -- 70,176
Bad debt expense 164,629 134,697
Compensation expense of stock options 32,800 12,800
Compensation expense of stock issued 14,220 --
Changes in operating assets and liabilities:
Accounts receivable (127,014) (70,555)
Inventories (309,192) (77,440)
Prepaid expenses and other current assets (7,630) (43,026)
Other assets 101,614 (65,636)
Accounts payable 172,523 (274,782)
Accrued expenses (77,293) 39,622
----------- -----------
Net cash used in operating activities (4,390,377) (3,151,225)
----------- -----------
Cash flows from investing activities:
Equipment purchases (37,968) (55,590)
----------- -----------
Net cash used in investing activities (37,968) (55,590)
----------- -----------
Cash flows from financing activities:
Proceeds from exercise of stock options 41,403 304,937
Proceeds from private placement of common stock, net 4,369,518 --
Proceeds from exercise of warrants, net -- 4,338,246
Payment of capital lease obligations (11,507) --
----------- -----------
Net cash provided by financing activities 4,399,414 4,643,183
----------- -----------
Net (decrease) increase in cash and cash equivalents (28,931) 1,436,368
----------- -----------
Cash and cash equivalents, beginning of period 1,398,049 4,200,231
----------- -----------
Cash and cash equivalents, end of period $ 1,369,118 $ 5,636,599
=========== ===========
Supplemental disclosure of cash flow information:
Interest paid $ 447 $ 0
=========== ===========
The accompanying notes are an integral part of the financial statements.
5
C-PHONE CORPORATION
NOTES TO UNAUDITED FINANCIAL STATEMENTS
NOVEMBER 30, 1998
1. BASIS OF PRESENTATION
The accompanying unaudited financial statements of C-Phone Corporation (the
"Company") have been prepared in accordance with generally accepted
accounting principles for interim financial information and with the
instructions to Form 10-QSB and Item 310(b) of Regulation SB. Accordingly,
they do not include all of the information and footnotes required by
generally accepted accounting principles for complete financial statements.
In the opinion of management, such financial statements include all
adjustments necessary to present fairly, in all material respects, the
information set forth therein. Operating results for the three and nine
month periods ended November 30, 1998 are not necessarily indicative of the
results that may be expected for the fiscal year ending February 28, 1999.
The unaudited financial statements should be read in conjunction with the
audited financial statements and footnotes thereto included in the
Company's Annual Report on Form 10-KSB for the fiscal year ended February
28, 1998.
2. STOCK OPTIONS
As of November 30, 1998, options for 359,126 shares of the Company's common
stock, par value $.01 per share (the "Common Stock") were outstanding under
the Company's 1994 Stock Option Plan (the "Plan") (114,084 of which are
non-qualified options exercisable at prices ranging from $2.6875 to $7.00
per share, depending upon the date of grant, and 245,142 of which are
incentive stock options exercisable at prices ranging from $2.6875 to
$10.375 per share, depending upon the date of the grant), and options for
57,454 shares of Common Stock were available for future grants. Due to
vesting provisions included in the options, only options representing
191,508 shares of Common Stock were exercisable as of November 30, 1998.
During the nine month period ended November 30, 1998, options to purchase
57,749 shares of Common Stock were exercised at an average exercise price
of $5.28 per share. The following table summarizes certain information with
respect to exercisable options:
Number of
Range of Options
Exercise Price Exercisable
-------------- -----------
$3.00 - $3.38 61,525
$5.95 - $6.75 25,517
$7.00 - $7.50 90,724
$ 8.375 12,076
$ 10.375 1,666
3. PREFERRED STOCK, WARRANTS AND CONTINGENT VALUE RIGHTS
(a) During the week of March 31, 1997, the Company completed a private
placement (the "March Placement"), through a placement agent, pursuant
to which the Company issued an aggregate of 833,667 shares (the
"Original Shares") of Common Stock to the participants (the
"Investors") in the March Placement and received net proceeds of
approximately $4,370,000 (after payment of fees and expenses of
approximately $632,000). Accompanying each of the Original Shares was
the right, under certain circumstances, to receive additional shares
of Common Stock in accordance with the terms of a "contingent value
right" (the "Rights"). The Rights, which expired June 25, 1998, were
automatically exercised at the time, and from time to time, as the
Original Shares were first publicly sold through a broker-dealer. The
terms of the Rights provided that, upon the first such sale of any
Original Shares at a price of less than $8.00 per share, the seller of
the Original Shares would automatically receive, for each such
Original Share sold, and without the payment of any additional
consideration, such additional number of shares of Common Stock as
equaled (i) $8.00 divided by the Adjusted Price, minus (ii) one;
6
C-PHONE CORPORATION
NOTES TO UNAUDITED FINANCIAL STATEMENTS
NOVEMBER 30, 1998
where the Adjusted Price equals the greater of (x) the average closing
bid price per share of Common Stock on The Nasdaq National Market for
the ten trading days immediately preceding the date of sale of the
Original Shares, and (y) $2.00. All the Original Shares have been
publicly resold and, pursuant to the terms of the Rights, 136,863
additional shares were issued as a result thereof. In connection with
the March Placement, the Company issued to an affiliate of the
placement agent warrants to acquire an aggregate of 150,000 shares of
Common Stock at an exercise price of $9.60 per share, which warrants
expired without being exercised.
(b) On December 19, 1997, the Company completed a private placement (the
"December Placement") pursuant to which the Company issued to the
several participants an aggregate of (i) 4,500 shares (the "Preferred
Shares" ) of the Company's Series A Convertible Preferred Stock (the
"Preferred Stock"), par value $.01 per share, with an initial stated
value of $1,000 per share (which increased at the rate of 5% per
annum) (such amount, as increased from time to time, the "Stated
Value"), (ii) warrants (the "Class A Warrants") to acquire up to
315,000 shares of Common Stock, and (iii) warrants (the "Class B
Warrants") to acquire up to 135,000 shares of Common Stock. The
Company received net proceeds of approximately $4,110,000 (after
payment of fees (including finders fees) and related expenses of
approximately $390,000). Each Preferred Share was convertible, from
time to time, at the option of the holder, into such number of shares
of Common Stock as was determined by dividing the Stated Value by the
lesser of (x) $7.3575, and (y) 85% of the average of the closing bid
price during such three consecutive trading day period selected by the
holder during the 25-day trading period preceding the date of
conversion. Any outstanding Preferred Shares on December 19, 1999
automatically would have been converted into Common Stock at the
conversion price then in effect. The Preferred Shares were subject to
redemption at the option of the holder if, among other things, (i) the
Company failed to maintain an effective registration statement with
respect to the shares of Common Stock issuable upon exercise of the
Preferred Shares for more than 30 consecutive days or more than 60
days in any 12-month period, or (ii) the Company failed to maintain
the listing of the Common Stock on the Nasdaq National Market or
another principal securities exchange or automated quotation system.
If any of the foregoing events had occurred and the holders of the
Preferred Shares had elected to exercise their redemption rights, the
Company would have been required to redeem the remaining outstanding
Preferred Shares at an amount equal to the greater of (x) 118% of the
Stated Value of the Preferred Shares and (y) the market value of the
Common Stock into which the Preferred Shares would have been converted
on the date of redemption. The Class A Warrants expired on December
19, 1998, had an exercise price of $8.05 per share and were redeemable
at the option of the Company at a price of $.01 per warrant if the
closing price of the Common Stock had been greater than 130% of the
exercise price of the Class A Warrants for 10 consecutive trading
days. The Three-Year Warrants expire on December 19, 2000, have an
exercise price of $9.10 per share and are not redeemable. In
connection with the December Placement, the Company paid a finder's
fee of $295,000 and issued to an affiliate of the finder warrants
(upon the same terms as the Class A Warrants) to acquire an aggregate
of 185,000 shares of Common Stock.
Regulations promulgated by the Securities and Exchange Commission
require that all issues of mandatorily redeemable stock be excluded
from the shareholders' equity section of the balance sheet and be
presented separately. One of the characteristics of a mandatorily
redeemable stock is that it contains conditions for redemption, even
if remote, which are not solely within the control of the issuer. As
set forth above, the Preferred Shares were subject to redemption at
the option of the holder under certain circumstances. Since there was
the possibility that the occurrence of an event outside the control of
the Company could have caused redemption, the Preferred Stock has been
classified separately from shareholders' equity on the balance sheet.
(c) On May 13, 1998, the Company reduced the exercise price of the
warrants to purchase 200,000 shares of Common Stock issued in its 1994
initial public offering (the "1994 Warrants") from $8.40 to $6.00 per
share in consideration for (i) requiring payment of the exercise price
for the 1994 Warrants to be made in cash (rather than upon surrender
of 1994 Warrants) and (ii) changing the expiration date thereof from
7
C-PHONE CORPORATION
NOTES TO UNAUDITED FINANCIAL STATEMENTS
NOVEMBER 30, 1998
August 18, 1999 to May 21, 1998. On May 13, 1998, the closing sales
price of the Common Stock was $9.75. The holders of the 1994 Warrants
exercised all of the 1994 Warrants by May 15, 1998.
In addition, as of November 30, 1998, Class A Warrants (including the
warrants issued to the finder) to purchase 325,000 shares of Common
Stock at $8.05 per share and Class B Warrants to purchase 60,000
shares of Common Stock at $9.10 per share also had been exercised. As
a result of such warrant exercises, during the nine months ended
November 30, 1998, the Company received net proceeds of $4,338,246. As
of November 30, 1998, all 4,500 Preferred Shares had been converted
into an aggregate of 1,987,622 shares of Common Stock.
4. NET LOSS PER SHARE
In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 128 ("SFAS No. 128"), "Earnings Per
Share," which established new standards for computation of earnings per
share. SFAS No. 128 requires the presentation on the face of the income
statement of "basic" earnings per share and "diluted" earnings per share.
Basic earnings per share is computed by dividing the net income (loss)
available to common shareholders by the weighted average number of
outstanding common shares. The calculation of diluted earnings per share is
similar to the calculation of basic earnings per share, except that the
denominator includes dilutive common stock equivalents such as stock
options and warrants. Common stock options and warrants are not included
for the three and nine months ended November 30, 1997 or 1998 as they would
be anti-dilutive. The accretion of the 5% annual increase in stated value
of the Preferred Stock in the amount of $3,220 and $71,597 for the three
and nine months ended November 30, 1998 increased the net loss attributable
to common shareholders to $1,039,932 and $3,047,353, respectively, for the
purposes of the calculation of net loss per share for the three and nine
months ended November 30, 1998.
8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OR PLAN OF OPERATION
THIS QUARTERLY REPORT ON FORM 10-QSB CONTAINS, IN ADDITION TO
HISTORICAL INFORMATION, CERTAIN FORWARD-LOOKING STATEMENTS THAT
INVOLVE SIGNIFICANT RISKS AND UNCERTAINTIES. SUCH FORWARD-LOOKING
STATEMENTS ARE BASED ON (I) MANAGEMENT'S BELIEF AND (II) ASSUMPTIONS
MADE BY, AND INFORMATION CURRENTLY AVAILABLE TO, MANAGEMENT PURSUANT
TO THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION
REFORM ACT OF 1995. FORWARD-LOOKING STATEMENTS GENERALLY CAN BE
IDENTIFIED AS SUCH BECAUSE THE CONTEXT OF THE STATEMENT USUALLY WILL
INCLUDE WORDS SUCH AS "BELIEVES" OR "EXPECTS" OR WORDS OF SIMILAR
IMPORT. STATEMENTS THAT DESCRIBE OUR FUTURE PLANS, OBJECTIVES,
ESTIMATES OR GOALS ARE ALSO FORWARD-LOOKING STATEMENTS. SUCH
STATEMENTS ADDRESS FUTURE EVENTS AND CONDITIONS CONCERNING CAPITAL
EXPENDITURES, EARNINGS, SALES, LIQUIDITY AND CAPITAL RESOURCES, AND
ACCOUNTING MATTERS. OUR ACTUAL RESULTS COULD DIFFER MATERIALLY FROM
THOSE EXPRESSED IN, OR IMPLIED BY, THE FORWARD-LOOKING STATEMENTS.
FACTORS THAT COULD CAUSE OR CONTRIBUTE TO SUCH DIFFERENCES INCLUDE
(I) THOSE DISCUSSED BELOW, (II) THOSE DISCUSSED IN ITEM 1 -
"DESCRIPTION OF BUSINESS" AND ELSEWHERE IN OUR ANNUAL REPORT ON FORM
10-KSB FOR THE FISCAL YEAR ENDED FEBRUARY 28, 1998, AND (III) OTHER
FACTORS, SUCH AS FUTURE ECONOMIC CONDITIONS, MARKET ACCEPTANCE OF OUR
PRODUCTS, CHANGES IN CUSTOMER DEMAND, LEGISLATIVE, REGULATORY AND
COMPETITIVE DEVELOPMENTS IN MARKETS IN WHICH WE OPERATE AND OTHER
CIRCUMSTANCES AFFECTING ANTICIPATED REVENUES AND COSTS. WE UNDERTAKE
NO OBLIGATION TO RELEASE PUBLICLY THE RESULT OF ANY REVISIONS TO
THESE FORWARD-LOOKING STATEMENTS THAT MAY BE MADE TO REFLECT EVENTS
OR CIRCUMSTANCES AFTER THE DATE OF THIS QUARTERLY REPORT ON FORM
10-QSB OR TO REFLECT THE OCCURRENCE OF OTHER UNANTICIPATED EVENTS.
OVERVIEW
We are engaged primarily in the engineering, manufacturing and
marketing of video conferencing systems. In 1993, we introduced C-Phone(R), our
first PC-based video conferencing system, which operates over digital networks.
In 1997, we introduced C-Phone Home(TM), a TV-based set-top Avideo phone," which
operates over analog (or regular) telephone lines and uses a standard television
set. In early 1998, we introduced DS-324(TM), a TV-based video conferencing
system, which operates over analog and digital telephone lines.
We presently market several TV-based video conferencing products,
including the following:
o the DS-324 for business and personal use.
o the DS-324/Pro(TM) for business use and special applications.
o the DS-324/AV(TM) for security and surveillance applications.
o the DS-324/Multipoint System(TM) for distance learning and training
o C-Phone Home for individual home use.
We believe that our TV-based video conferencing products currently
have greater market potential than our PC-based products and, therefore, have
recently shifted our resources to our TV-based products. We are continuing to
support our PC-based products and intend to provide equipment to our existing
customer base and to new customers in connection with their specialized
applications.
9
Our products are marketed through a variety of channels, depending
upon the product. Our TV-based video conferencing products are marketed to
end-users, distributors, resellers and original equipment manufacturers (OEMs)
which integrate our products with other equipment, for resale within specific
industries such as health care and security services.
C-Phone ITV(TM), a TV-based set top device, which provides internet
access, currently is being marketed to several existing customers for specific
applications such as healthcare and to selected foreign markets. We are
exploring other market opportunities for C-Phone ITV.
We have incurred significant losses during our three fiscal years
ended February 28, 1998 and the nine months ended November 30, 1998. Until
market acceptance of our products is established, which may not occur, we expect
to continue to incur significant losses due to our current level of
expenditures.
RECENT EQUITY OFFERINGS
MARCH 1997 PRIVATE PLACEMENT. During the week of March 31, 1997, we
completed a private placement in which we issued (either immediately or upon
subsequent exercise of related rights) an aggregate of 970,530 shares of our
common stock. We received net proceeds of approximately $4,370,000 (after
payment of fees and expenses of approximately $632,000). In connection with this
private placement, we issued to an affiliate of the placement agent warrants to
purchase 150,000 shares of our common stock at an exercise price of $9.60 per
share, which warrants expired without being exercised.
DECEMBER 1997 PRIVATE PLACEMENT. In December 1997, we completed a
private placement pursuant to which we issued an aggregate of (i) 4,500 shares
of Series A Convertible Preferred Stock, (ii) Class A Warrants to purchase
315,000 shares of our common stock, and (iii) Class B Warrants to purchase
135,000 shares of our common stock. We received net proceeds of approximately
$4,110,000 (after payment of fees and expenses of approximately $390,000). In
connection with this transaction, we paid a finder's fee of $295,000 and issued
to an affiliate of the finder warrants (upon the same terms as the Class A
Warrants) to acquire an aggregate of 185,000 shares of our common stock. All of
the issued Series A Preferred Stock have been converted into a total of
1,987,622 shares of our common stock.
The Class B Warrants have an exercise price of $9.10 per share,
subject to adjustment under certain circumstances, including upon the issuance
of shares of our common stock (or securities convertible or exchangeable into
shares of our common stock) at less than 80% of the then market price. These
warrants expire on December 19, 2000 and are not redeemable. As of January 14,
1999, Class B Warrants to purchase 60,000 shares of our common stock had been
exercised for an aggregate of $546,000.
The Class A Warrants expired on December 19, 1998. Prior to such
date, Class A Warrants to purchase 325,000 shares of our common stock were
exercised at $8.05 per share (including the warrants issued to the finder). We
received aggregate proceeds of $2,616,250 from the exercise of these warrants.
The remaining Class A Warrants expired unexercised.
1994 WARRANT EXERCISES. In connection with our 1994 initial public
offering, we had issued to the representative of the underwriters, warrants
expiring August 19, 1999 to purchase 200,000 shares of our common stock at an
exercise price of $8.40 per share payable in cash or by delivering back to us
warrants having an equivalent value. On May 13, 1998, we reduced the exercise
price of such warrants to $6.00 per share, in consideration for (i) requiring
payment of the exercise price for such warrants to be made in cash (rather than
upon surrender of warrants), and (ii) changing the expiration date thereof to
May 21, 1998. On May 13, 1998, the closing sales price of our common stock was
$9.75. All of such warrants were exercised and we received aggregate proceeds of
$1,200,000.
10
EQUITY LINE. On September 18, 1998, we entered into a Private Equity
Credit Agreement with Sovereign Partners, L.P., who had been one of the
investors in our December 1997 private placement. Pursuant to the Agreement,
Sovereign Partners has agreed to purchase up to $5 million of our common stock
during the 18-month period commencing on the effective date of the registration
statement covering its resale of common stock being acquired from us under the
Agreement. From time to time during the term of the Agreement, but no more
frequently than once every 30 days, we can require Sovereign Partners to
purchase between $500,000 and $1 million of our common stock. The purchase price
for each share of common stock to be paid by Sovereign Partners will equal 85%
of the average closing bid price of our common stock during the five trading
days immediately preceding the day we notify Sovereign Partners of a purchase
obligation.
Sovereign Partners' obligation to purchase our common stock is
subject to certain conditions, including: (i) the continued effectiveness of the
registration statement covering its resale of common stock acquired under the
Agreement, (ii) the average closing bid price of our common stock being at least
$1.00 per share for the 20 trading days preceding the date of delivery to
Sovereign Partners of our notice of purchase; (iii) the continued trading of our
common stock on The Nasdaq Stock Market; and (iv) Sovereign Partners's ownership
of our common stock not being more than 9.9% of the total number of shares of
our common stock then outstanding.
We may terminate the Agreement without any further obligation to
Sovereign Partners at any time after we have sold it at least $1 million of our
common stock. Sovereign Partners has agreed not to engage in any short sales of
our common stock (which means that it will not sell any shares that it does not
yet own), except that it may engage in such sales after it receives a purchase
notice from us, but only for the number of shares of common stock covered by our
purchase notice.
Under a related registration rights agreement, we have agreed to file
and maintain effectiveness of a registration statement for the resale by
Sovereign Partners of the shares of common stock it purchases under the
Agreement. If we fail to do so, Sovereign Partners may require us to pay certain
penalties. While we have filed such registration statement, it has not yet been
declared effective by the SEC. Therefore, we do not yet have the ability to
exercise our right to require Sovereign Partners to purchase our common stock.
In connection with the Agreement, we issued to Cardinal Capital
Management, Inc., as finder, a two-year warrant to purchase 100,000 shares of
our common stock at an exercise price of $8.00 per share. We may redeem this
warrant, at our option and for nominal consideration, if the closing sales price
of our common stock exceeds $10.00 for five consecutive trading days. We also
paid Cardinal Capital Management a cash fee of $30,000 and have agreed to pay
Cardinal Capital Management an additional cash fee equal to 6% of the dollar
amount of any sales of our common stock to Sovereign Partners under the
Agreement, with our initial $30,000 payment to be credited against such fee.
If you would like more information concerning our March 1997 and
December 1997 private placements, we refer you to Item 6 - "Management's
Discussion and Analysis or Plan of Operation - Recent Equity Offerings" in our
Annual Report on Form 10-KSB for the fiscal year ended February 28, 1998. If you
would like more information concerning our agreement with Sovereign Partners, we
refer you to Item 5 - "Other Events" in our Current Report on Form 8-K, dated
September 24, 1998.
RESULTS OF OPERATIONS
THREE MONTHS ENDED NOVEMBER 30, 1998 AS COMPARED TO THREE MONTHS ENDED NOVEMBER
30, 1997
REVENUES. Net sales decreased 3% to $438,041 in the third quarter of
Fiscal 1999 from $449,514 in third quarter of Fiscal 1998, reflecting our change
of focus to TV-based products from PC-based products in the first quarter of
Fiscal 1999. Sales of our TV-based products represented 97% of net sales during
the third quarter of Fiscal 1999 , as compared to 64% of net sales during the
third quarter of Fiscal 1998. During
11
the third quarter of Fiscal 1999, we had other revenue of $3,308 compared to
$12,968 during the third quarter of Fiscal 1998. As a result of the foregoing,
our total revenues decreased 5% to $441,349 in the third quarter of Fiscal 1999,
from $462,482 in the third quarter of Fiscal 1998.
COST OF REVENUE. Cost of revenue consists of cost of goods sold and
cost of other revenue. Cost of goods sold includes labor, materials and other
manufacturing costs (such as salaries, supplies, leasing costs, depreciation
related to production operations and the write-down of inventory to net
realizable value). Cost of other revenue consists primarily of the allocation of
salaries and benefits of personnel and the cost of outside services directly
related to such revenue. Cost of goods sold decreased 11% to $589,410 (135% of
net sales) in the third quarter of Fiscal 1999 from $662,925 (147% of net sales)
in the third quarter of Fiscal 1998. During the second quarter of Fiscal 1999,
we discontinued selling TV-based units at less than cost when purchased in
conjunction with a telecommunications agreement with us. This, along with a
decrease in TV-based unit costs, reduced our cost of goods sold during the
period. However, the decrease in cost of goods sold was offset in part by a
$70,176 provision for inventory obsolescence primarily related to our remaining
PC-based product inventory. In addition, the low production volume of our
TV-based units did not allow us to cover all fixed manufacturing costs.
Therefore, cost of goods sold (excluding the inventory obsolescence provision)
exceeded net sales for the third quarter of Fiscal 1999. Cost of other revenues
was $231 in the third quarter of Fiscal 1999 (or 7% of related revenue), as
compared to cost of revenue of $7,647 (or 59% of related revenue) in the third
quarter of Fiscal 1998.
GROSS LOSS. Our gross loss was $148,292 in the third quarter of
Fiscal 1999, as compared to a gross loss of $208,090 in the third quarter of
Fiscal 1998, a decrease of 29%. The gross loss in the third quarter of Fiscal
1999 was primarily the result of the low sales volume and the related high cost
of goods sold discussed above.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and
administrative expenses decreased 11% to $767,247 (174% of revenues) in the
third quarter of Fiscal 1999 from $861,752 (186% of revenues) in the third
quarter of Fiscal 1998. The decrease resulted primarily from a decrease in
selling and marketing expenses which during the third quarter of Fiscal 1998
included expenses related to the marketing launch of C-Phone Home in calendar
1997. We expect that we will continue to incur substantial selling, general and
administrative expenses during Fiscal 1999 as a result of the continued
commercialization of our TV-based products.
RESEARCH, DEVELOPMENT AND ENGINEERING. Research, development and
engineering expenses decreased 18% to $192,529 (44% of revenues) in the third
quarter of Fiscal 1999 from $234,394 (51% of revenues) in the third quarter of
Fiscal 1998. The decrease was primarily the result of the completion of the
initial development of our current TV-based products prior to the third quarter
of Fiscal 1999. All of these costs were charged to operations as incurred and
were funded by our cash reserves. We expect to continue to invest significant
resources during the foreseeable future in new product development and
engineering.
OPERATING LOSS. As a result of the factors discussed above, our
operating loss decreased 15% to $1,108,068 in the third quarter of Fiscal 1999
from $1,304,236 in the third quarter of Fiscal 1998.
INTEREST. Interest income increased 249% to $71,356 in the third
quarter of Fiscal 1999 from $20,440 in the third quarter of Fiscal 1998 as a
result of interest earned on the higher average balance of cash and cash
equivalents we had in the third quarter of Fiscal 1999 due to the receipt of
proceeds from our December 1997 private placement and from the exercise of
previously issued warrants and options in May 1998.
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INCOME TAXES. Our losses for the third quarter of Fiscal 1999 and the
third quarter of Fiscal 1998 may be utilized as an offset against future
earnings, although we cannot assure you that our future operations will produce
taxable earnings.
NINE MONTHS ENDED NOVEMBER 30, 1998 AS COMPARED TO NINE MONTHS ENDED NOVEMBER
30, 1997
REVENUES. Net sales increased 10% to $1,317,956 in the first nine
months of Fiscal 1999 from $1,202,424 in the first nine months of Fiscal 1998,
reflecting our change of focus to TV-based products from PC-based products
during the first quarter of Fiscal 1999. Sales of TV-based products represented
92% of net sales during for the first nine months of Fiscal 1999, as compared to
40% of net sales during the first nine months of Fiscal 1998. During the first
nine months of Fiscal 1999, we had other revenue of $28,820 compared to $21,007
during the first nine months of Fiscal 1998. As a result of the foregoing, our
total revenues increased 10% to $1,346,776 in the first nine months of Fiscal
1999 from $1,223,431 in the first nine months of Fiscal 1998.
COST OF REVENUE. Cost of revenue consists of cost of goods sold and
cost of other revenue. Cost of goods sold includes labor, materials and other
manufacturing costs (such as salaries, supplies, leasing costs, depreciation
related to production operations and the write-down of inventory to net
realizable value). Cost of other revenue consists primarily of the allocation of
salaries and benefits of personnel and the cost of outside services directly
related to such revenue. Cost of goods sold decreased 13% to $1,729,031 (131% of
net sales) in the first nine months of Fiscal 1999 from $1,982,347 (165% of net
sales) in the first nine months of Fiscal 1998. During the second quarter of
Fiscal 1999, we discontinued selling TV-based units at less than cost when
purchased in conjunction with a telecommunications agreement with us. This,
along with a decrease in TV-based unit costs, reduced our cost of goods sold
during the first nine months of Fiscal 1999. However, the decrease in cost of
goods sold was offset in part by a $70,176 provision for inventory obsolescence
primarily related to our remaining PC-based product inventory. In addition, the
low production volume of our TV-based units did not allow us to cover all fixed
manufacturing costs. Therefore, cost of goods sold (excluding the inventory
obsolescence provision) exceeded net sales for the first nine months of Fiscal
1999. Cost of other revenues was $9,674 in the first nine months of Fiscal 1999
(or 34% of related revenue), as compared to cost of revenue of $8,659 (or 41% of
related revenue) in the first nine months of Fiscal 1998.
GROSS LOSS. Our gross loss was $391,929 in the first nine months of
Fiscal 1999, as compared to a gross loss of $767,575 in the first nine months of
Fiscal 1998, a decrease of 49%. The gross loss in the first nine months of
Fiscal 1999 was primarily the result of the low sales volume and the related
high cost of goods sold discussed above.
SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and
administrative expenses decreased 27% to $2,196,115 (163% of revenues) in the
first nine months of Fiscal 1999 from $3,027,075 (247% of revenues) in the first
nine months of Fiscal 1998. The primary reason for the decrease was a 51%
decrease in selling and marketing expenses to approximately $769,000 in the
first nine months of Fiscal 1999 from approximately $1,572,000 in the first nine
months of Fiscal 1998, substantially all of which decrease was directly related
to expenses incurred in the marketing launch of C-Phone Home in calendar 1997.
We expect that we will continue to incur substantial selling, general and
administrative expenses during Fiscal 1999 as a result of the continued
commercialization of our TV-based products.
RESEARCH, DEVELOPMENT AND ENGINEERING. Research, development and
engineering expenses decreased 21% to $599,329 (45% of revenues) in the first
nine months of Fiscal 1999 from $755,380 (62% of revenues) in the first nine
months of Fiscal 1998. The decrease was primarily the result of the completion
of the initial development of our current TV-based products during our prior
fiscal year. All of these costs were charged to operations as incurred and were
funded by our cash reserves. We expect to continue to invest significant
resources during the foreseeable future in new product development and
engineering.
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OPERATING LOSS. As a result of the factors discussed above, our
operating loss decreased 30% to $3,187,373 in the first nine months of Fiscal
1999 from $4,550,030 in the first nine months of Fiscal 1998.
INTEREST. Interest income increased 102% to $211,617 in the first
nine months of Fiscal 1999 from $104,713 in the first nine months of Fiscal 1998
as a result of interest earned on the higher average balance of cash and cash
equivalents we had during the first nine months of Fiscal 1999 due to the
receipt of proceeds from our December 1997 private placement and from the
exercise of previously issued warrants and options in May 1998.
INCOME TAXES. Our losses for the first nine months of Fiscal 1999 and
the first nine months of Fiscal 1998 may be utilized as an offset against future
earnings, although we cannot assure you that our future operations will produce
taxable earnings.
LIQUIDITY AND CAPITAL RESOURCES
We have financed our recent operations primarily from the proceeds of
our March 1997 private placement, which raised net proceeds of approximately
$4,370,000, and our December 1997 private placement, which raised net proceeds
of approximately $4,110,000. In addition, during May 1998, we received
approximately $4,650,000 from the exercise of previously issued warrants and
options. For additional information, please refer to the section "Recent Equity
Offerings."
At November 30, 1998, we had working capital of $6,828,181 (an
increase of $1,657,676 from $5,170,505 at February 28, 1998) and cash and cash
equivalents of $5,636,599 (as compared to $4,200,231 at February 28, 1998). Our
invested funds consisted primarily of overnight repurchase agreements for
discount notes issued by the United States Treasury or United States government
agencies. During the first nine months of Fiscal 1999, operating activities used
$3,151,225 of net cash, primarily to fund operating activities, investing
activities used $55,590 of net cash for equipment purchases, and financing
activities provided $4,643,183 of net cash from the exercise of previously
issued warrants and options. Due to the technical nature of our business and the
anticipated expansion of our video conferencing technology into new
applications, management expects to continue to expend significant resources for
continued development and engineering as well as selling and marketing expenses.
We believe that our current working capital, together with
anticipated funds from operations and available proceeds from our agreement with
Sovereign Partners (discussed above), will be sufficient to meet our projected
operating needs and capital expenditures, including the continued development
and commercialization of our products, at least through the third quarter of
fiscal year 2000. If any of our TV-based products gain significant market
acceptance, we will be required to make a very substantial investment in
manufacturing, inventory build-up, marketing and carrying of accounts
receivable. This would require us to obtain even more working capital. We
anticipate that such additional funds should be available through one or more
possible sources, including through (i) the sale of our common stock pursuant to
our agreement with Sovereign Partners, (ii) a private placement of (a) debt
securities, including debt securities convertible into our common stock, and/or
(b) common stock or preferred stock, (iii) the exercise of our outstanding
warrants, if the market price of our common stock were to exceed the exercise
price of such warrants, and/or (iv) a public offering of our common stock. We
cannot assure you that out based products will achieve significant market
acceptance or that if they do, that we will be able to obtain the additional
funds necessary to exploit such success. Unless we obtain adequate income from
sales of our TV-based products, we may require additional cash resources for the
development of alternative products. We cannot assure you that these additional
funds will be available when needed or, even if such funds are available, that
the terms of such fundings will be favorable or acceptable to us.
The development and recent introduction of TV-based products have
placed a significant strain on our limited personnel, management and other
resources. Our ability to manage any future growth
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effectively will require us to continue to attract, train, motivate and manage
our employees successfully and to continue to improve our operational, financial
and management systems. Our failure to effectively manage our growth could have
a material adverse effect on our business and operating results.
We lease our facility and own our manufacturing equipment free from
encumbrances. As of November 30, 1998, we had no material commitments for
capital expenditures.
At February 28, 1998, we estimate that we had available net operating
loss carryforwards of approximately $15,125,000 for Federal purposes and net
economic loss carryforwards of approximately $15,337,000 for state purposes,
which may be used to reduce future taxable income, if any. The Federal
carryforwards will expire starting in 2009 and the state carryforwards will
expire starting in 1999.
We believe that, during the past three years, inflation has not had a
significant impact on our sales or operating results. Certain of our products,
and components and subassemblies used by us in our products, are manufactured
outside of the United States and represent a material portion of the unit cost
of our basic products. Although we have not experienced any significant price
increases to date as a result of changes in foreign currency rates, we cannot
assure you that, in the future, changes in foreign currency rates will not
affect the cost of our foreign purchased components and subassemblies. Our
foreign sales are denominated in U.S. dollars and we do not incur any foreign
currency risks; however, fluctuations in currency exchange rates could cause our
products to become relatively more expensive to foreign customers, which could
reduce foreign sales or the profitability of any of such sales.
IMPACT OF YEAR 2000 ISSUE
Computer systems may experience problems handling dates beyond the
year 1999 because many computer programs use only two digits to identify a year
in a date field. We have addressed this issue in several parts our products, our
application software for our internal operations and third-party suppliers.
PRODUCTS - As our products do not include date/time mechanisms in
their operating software, our products are Year 2000 compliant. However, some of
our earlier PC-based products use Windows(R) for Workgroups as their operating
system and there may exist Year 2000 issues with the specific user installed LAN
interface employed by any certain customer which issues are beyond the scope of
our involvement.
APPLICATION SOFTWARE - During Fiscal 1998, for operational purposes,
we made the decision to upgrade our internal financial and operational software
system. This upgrade was completed in June 1998 and the system is now Year 2000
compliant. We have substantially completed the identification of other internal
computer-based systems we use which may require upgrading to insure operational
continuity beyond December 31, 1999. Our plan to complete such identification,
the upgrading of necessary applications and the testing of all application
software for Year 2000 compliance by December 31, 1998, is slightly behind
schedule. As of December 31, 1998, we had completed the identification of all
applications and completed the testing of about 90% of the applications. We plan
to complete the balance of the testing and any necessary upgrading of
applications by February 28, 1999.
THIRD-PARTY SUPPLIERS - We are assessing the possible effects on our
operations of Year 2000 compliance related to key suppliers and subcontractors.
Our reliance on suppliers and subcontractors means that the failure to address
Year 2000 compliance issues by these parties could have a material impact on our
business. We have identified critical third-party suppliers and have requested
information as to their plans and progress in addressing the Year 2000 problem.
Our plan to complete the evaluation of our third-party suppliers by December 31,
1998, has been delayed due to the lack of appropriate responses from many of
such suppliers. We have submitted follow up requests for information from the
non responding suppliers and now anticipate completing our evaluation by March
31, 1999. Based upon our evaluations, we intend to develop alternative sourcing
or other contingency plans by mid-1999.
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COSTS - The total cost associated with the Year 2000 issue is not
expected to be material to our financial position. Our current estimated
out-of-pocket cost is not expected to exceed $50,000, of which only an
immaterial amount has been expended to date.. As the upgrade of our application
software was done for operational purposes, the cost of such upgrade has not
been included in our estimates.
RISKS - Due to the uncertainty of the Year 2000 readiness of our
third-party suppliers, we are unable to determine at this time whether the
consequences of Year 2000 failures will have a material impact on our results of
operations, liquidity or financial condition. In addition, although our business
is not dependent on any single or small number of customers, Year 2000 problems
which significantly interrupt the normal business operations of a significant
number of our customers could have a material adverse impact on us. We have not
yet developed a contingency plan in the event of unsuccessful implementation of
our Year 2000 project or as a result of the noncompliance by any of our key
suppliers or customers. However, we believe that our Year 2000 plan will
significantly reduce our exposure from the problems associated with the Year
2000 issues.
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PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) EXHIBITS
27. Financial Data Schedule
(b) REPORTS ON FORM 8-K
We filed a Current Report on Form 8-K (responding to Item 5 -
"Other Events") on September 25, 1998.
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SIGNATURES
In accordance with the requirements of the Exchange Act, the registrant caused
this report to be signed on our behalf by the undersigned, thereunto duly
authorized.
C-PHONE CORPORATION
Date: January 14, 1999 By: /s/ Daniel P. Flohr
------------------------------------------------
Daniel P. Flohr
President and Chief Executive Officer
(Principal Executive Officer)
Date: January 14, 1999 By: /s/ Paul H. Albritton
------------------------------------------------
Paul H. Albritton
Vice President and Chief Financial Officer
(Principal Accounting and Financial Officer)
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