S-1/A 1 c60096_s1a.htm 3B2 EDGAR HTML -- c60096_preflight.htm

As filed with the Securities and Exchange Commission on April 27, 2010

Registration No. 333-164791



SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549


AMENDMENT NO. 4 TO

FORM S-1
REGISTRATION STATEMENT

UNDER

THE SECURITIES ACT OF 1933


WAVE2WAVE COMMUNICATIONS, INC.

(Exact name of registrant as specified in its charter)

 

 

 

 

 

Delaware

 

4899

 

113521535

(State or other jurisdiction of
incorporation or organization)

 

(Primary Standard Industrial
Classification Code Number)

 

(IRS Employer Identification No.)

433 Hackensack Avenue
Hackensack, New Jersey 07601
(201) 968-9797

(Address, including zip code, and telephone number, including
area code, of registrant’s principal executive offices)


Steven Asman, President
Wave2Wave Communications, Inc.
433 Hackensack Avenue
Hackensack, New Jersey 07601
(201) 968-9797

(Name, address, including zip code, and telephone number, including
area code, of agent for service)


 

 

 

With copies to:

Ivan K. Blumenthal, Esq.
Mintz, Levin, Cohn, Ferris,
Glovsky and Popeo, P.C.
666 Third Avenue
New York, NY 10017
(212) 935-3000

 

Thomas Rose, Esq.
Sichenzia Ross Friedman Ference, LLP
61 Broadway Avenue, 32
nd Floor
New York, NY 10006
(212) 930-9700

Approximate date of commencement of proposed sale to public: As soon as practicable after this Registration Statement becomes effective.

If any of the securities being registered on this Form are being offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act, check the following box. £

If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. £________

If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier registration statement for the same offering. £________

If this Form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier registration statement for the same offering. £________

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

 

 

 

 

 

 

Large accelerated filer

 

£

 

Accelerated filer

 

£

Non-accelerated filer

 

S (Do not check if a smaller reporting company)

 

Smaller reporting company

 

£

[cover continued on next page]


The Registrant hereby amends this Registration Statement on such date or dates as may be necessary to delay its effective date until the Registrant shall file a further amendment which specifically states that this Registration Statement shall thereafter become effective in accordance with Section 8(a) of the Securities Act or until the Registration Statement shall become effective on such date as the Securities and Exchange Commission, acting pursuant to Section 8(a), may determine.




(cover continued from previous page)

CALCULATION OF REGISTRATION FEE

 

 

 

 

 

 

Title of Each Class
of Securities to be Registered

 

Proposed Maximum Aggregate
Offering Price (1)

 

Amount of
Registration Fee (2)

 

Common Stock, $0.0001 par value per share (3)

 

 

$

 

94,875,000

   

 

$

 

6,764.59

 

 

Representative’s Common Stock Purchase Warrant

 

 

$

 

   

 

$

 

(4)

 

 

Shares of Common Stock underlying Representative’s Common Stock Purchase Warrant

 

 

$

 

3,588,750

   

 

$

 

255.88

 

 

Total Registration Fee

 

 

$

 

98,463,750

   

 

$

 

7,020.47

(5)

 

 

 

 

(1)

 

 

 

Estimated solely for the purpose of calculating the amount of registration fee pursuant to Rule 457(o) under the Securities Act.

 

(2)

 

 

 

Calculated pursuant to Rule 457(a) based on an estimate of the proposed maximum aggregate offering price.

 

(3)

 

 

 

Includes shares the underwriters have the option to purchase to cover over-allotments, if any.

 

(4)

 

 

 

No registration fee required pursuant to Rule 457(g) under the Securities Act.

 

(5)

 

 

 

Previously paid.


The information in this prospectus is not complete and may be changed. A registration statement relating to these securities has been filed with the Securities and Exchange Commission. These securities may not be sold until the registration statement filed with the Securities and Exchange Commission is effective. This prospectus is not an offer to sell these securities and it is not soliciting an offer to buy these securities in any state or other jurisdiction where the offer or sale is not permitted.

 

 

 

 

PRELIMINARY PROSPECTUS

 

SUBJECT TO COMPLETION, DATED APRIL 27, 2010

 

8,250,000 Shares


This is a firm commitment initial public offering of 8,250,000 shares of our common stock at a price we anticipate will be between $9 and $11 per share. No public market currently exists for our shares. We intend to apply to list our common stock on the New York Stock Exchange under the symbol “WAV.” No assurance can be given that our application will be approved.

Investing in our securities involves certain risks. See “Risk Factors” beginning on page 13 of this prospectus for a discussion of information that should be considered in connection with an investment in our securities.

Neither the Securities and Exchange Commission nor any state securities commission has approved or disapproved of these securities or determined if this prospectus is truthful or complete. Any representation to the contrary is a criminal offense.

 

 

 

 

 

 

 

 

Per share

 

Total

Public offering price

 

 

$

 

          

   

 

$

 

                    

 

Underwriting discounts and commissions (1)

 

 

$

 

          

   

 

$

 

                    

 

Proceeds, before expenses, to us (2)

 

 

$

 

          

   

 

$

 

                    

 

 

(1)

 

 

 

Does not include a non-accountable expense allowance equal to 1% of the gross proceeds of this offering payable to Rodman & Renshaw, LLC, the representative of the underwriters.

 

(2)

 

 

 

We estimate that the total expenses of this offering, excluding the underwriters’ discount and non-accountable expenses allowance, will be approximately $6,600,000.

We have granted a 45-day option to the representative of the underwriters, to purchase up to 1,237,500 additional shares of common stock solely to cover over-allotments, if any. The shares issuable upon exercise of the underwriter over-allotment option are identical to those offered by this prospectus and have been registered under the registration statement of which this prospectus forms a part.

In connection with this offering, we have also agreed to sell to Rodman & Renshaw, LLC, the underwriter representative, a warrant to purchase up to 3% of the shares sold, for $100. If the underwriter representative exercises this warrant, each share of common stock may be purchased at $[] per share (145% of the price of the shares sold in the offering).

The underwriters expect to deliver our shares to purchasers in the offering on or about [], 2010.

 

 

 

Rodman & Renshaw, LLC

 

Sunrise Securities Corp.

The date of this prospectus is [], 2010



Until [*], 2010, all dealers that effect transactions in these securities, whether or not participating in this offering, may be required to deliver a prospectus. This delivery requirement is in addition to the obligation of dealers to deliver a prospectus when acting as underwriters and with respect to their unsold allotments or subscriptions.

TABLE OF CONTENTS

 

 

 

 

 

Page

Prospectus Summary

 

 

 

1

 

Risk Factors

 

 

 

13

 

Information Concerning One of Our Founders, Managing Director and Head of Business Development

 

 

 

32

 

Special Note Regarding Forward-Looking Statements

 

 

 

34

 

Use of Proceeds

 

 

 

35

 

Dividend Policy

 

 

 

37

 

Capitalization

 

 

 

37

 

Dilution

 

 

 

38

 

Unaudited Pro Forma Consolidated Financial Data

 

 

 

40

 

Selected Historical Financial Data

 

 

 

45

 

Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

 

 

47

 

Information About Winncom

 

 

 

80

 

Business

 

 

 

85

 

Management

 

 

 

111

 

Executive Compensation

 

 

 

119

 

Certain Relationships and Related Person Transactions

 

 

 

134

 

Principal Stockholders

 

 

 

136

 

Description of Capital Stock

 

 

 

138

 

Shares Eligible for Future Sale

 

 

 

141

 

Material U.S. Federal Tax Consequences For Non-U.S. Holders

 

 

 

143

 

Underwriting

 

 

 

146

 

Legal Matters

 

 

 

154

 

Experts

 

 

 

154

 

Where You Can Find More Information

 

 

 

154

 

Index to Financial Statements

 

 

 

F-1

 


You should rely only on the information contained in this prospectus in deciding whether to purchase our common stock. We have not authorized anyone to provide you with information different from that contained in this prospectus. Under no circumstances should the delivery to you of this prospectus or any sale made pursuant to this prospectus create any implication that the information contained in this prospectus is correct as of any time after the date of this prospectus. To the extent that any facts or events arising after the date of this prospectus, individually or in the aggregate, represent a fundamental change in the information presented in this prospectus, this prospectus will be updated to the extent required by law.

We obtained statistical data, market data and other industry data and forecasts used throughout this prospectus from market research, publicly available information and industry publications. Industry publications generally state that they obtain their information from sources that they believe to be reliable, but they do not guarantee the accuracy and completeness of the information. Nevertheless, we are responsible for the accuracy and completeness of the historical information presented in this prospectus, as of the date of the prospectus.

i


PROSPECTUS SUMMARY

This summary highlights information contained elsewhere in this prospectus and may not contain all of the information that may be important to you in making an investment decision. You should read this summary together with the more detailed information, including our financial statements and the related notes, elsewhere in this prospectus. You should carefully consider, among other things, the matters discussed in “Risk Factors” beginning on page 13.

Unless otherwise stated or the context requires otherwise, references in this prospectus to “Wave2Wave,” “we,” “us” and “our” refer to Wave2Wave Communications, Inc. and its subsidiaries.

Our Company

Founded in 1999, Wave2Wave Communications, Inc. provides communication services to small to mid-sized businesses in the northeast and midwest United States with a complete package of integrated products that includes wired and wireless broadband Internet access services, Voice over Internet Protocol, or VoIP, data, email hosting, point-to point connections, managed network services, collocation, virtual private networks, or VPNs, and web hosting. We are currently in the process of testing our fourth generation, or 4G, based Hybrid Fiber-Wireless, or HFW, in-building network. Through our wholly-owned subsidiary RNK Inc., d/b/a RNK Communications, or RNK, we provide wholesale and retail services. These offerings include a range of voice and data “carrier class products” to other communications companies and to other larger-scale purchasers of network capacity, as well as services and prepaid long distance calling services. Specifically, we offer domestic and international access services, domestic local exchanges and long distance services, collocation, “8XX” toll free service, conference calling services and prepaid long distance calling services.

We sell our services to individuals and businesses primarily through a direct sales force, channel partners and telemarketing. While we market our services to many customer segments, we focus on selling to customers in multi-tenant office buildings (in-building) and to remote locations (stand-alone buildings). We currently have approximately 425 active Building Service Agreements, or BSAs, with building owners throughout New York, New Jersey, Illinois (Chicago), Connecticut and Pennsylvania (Philadelphia). Under these BSAs, we either pay the building owners monthly rent or a revenue share to allow us to sell throughout their buildings. The term of these BSAs are typically five to ten years in length, with automatic renewals. We have found that revenue share agreements give the building owners an incentive to promote our company to new tenants. This helps us to differentiate ourselves from our competition and creates a mutually beneficial relationship between us, the building owners and tenants. We also utilize a sales model in which we sell our services through a direct sales force, agents, independent company relationships, and contractual buy sell arrangements. RNK, as a Competitive Local Exchange Carrier, or CLEC, and interexchange carrier, or IXC, is able to provide a variety of local and long distance telecommunication services pursuant to our state and federal tariffs and customer contracts. We currently process approximately one billion minutes per month through our network of interconnected switches.

Since our inception, we have successfully implemented and sold fixed wireless broadband solutions throughout the northeast United States. Through our January 2006 acquisition of certain assets of Intellispace, Inc., or Intellispace, a wireline manage service provider and the 2007 acquisition of our wholly-owned subsidiary RNK, which has been operating in various jurisdictions since 1997, we significantly expanded our footprint and product offerings.

Proposed Acquisition

On February 4, 2010, we entered into a stock purchase agreement to acquire privately-held Winncom Technologies Holding Limited, a company incorporated under Irish law. Unless otherwise stated or the context requires otherwise, references in this prospectus to “Winncom” refer to Winncom Technologies Holding Limited and its subsidiaries and affiliates. Pursuant to the stock purchase agreement, we will acquire 100% of the issued share capital of Winncom from the stockholders of Winncom, for a payment, including the retirement of debt, of approximately $25

1


million and the issuance of approximately 2,357,019 shares of our common stock (as adjusted to reflect the 1-for-2 reverse stock split of our common stock effected on March 22, 2010), which number of shares represents approximately 7.5% of our issued and outstanding shares of common stock on a fully-diluted basis as of the date of this prospectus, subject to certain working capital adjustments to be determined within 120 days following the closing of the acquisition. We intend to consummate the acquisition immediately upon the closing of this offering. Concurrently with the consummation of this offering and the closing of the acquisition of Winncom, Gregory Raskin, the President and Chief Executive Officer of Winncom, will become our Chief Executive Officer. Our proposed acquisition of Winncom is subject to the consummation of this offering and the satisfaction of customary closing conditions. In addition, the stock purchase agreement is subject to termination by either party under certain circumstances if the closing has not occurred on or before May 30, 2010. We cannot assure you that we will consummate the Winncom acquisition on favorable terms or at all. We intend to use an aggregate of $25 million of the proceeds of this offering to acquire Winncom, consisting of $8 million payable as consideration to the stockholders of Winncom and $17 million payable for the retirement of certain of Winncom’s outstanding debt. For further detail on the Winncom acquisition, see the section of this prospectus entitled, “Information about Winncom—Proposed Acquisition of Winncom.”

Winncom, headquartered in Solon, Ohio, and with a registered office in Dublin, Ireland, is a worldwide distributor and provider of complete networking solutions, wireless and wired. Winncom’s reseller network has reached over 8,000 and serves over 90 markets worldwide. Winncom also has local offices in Hungary, Cyprus, Russia, Ukraine, Ireland, Uzbekistan and Kazakhstan with trained sales and technical professionals. Winncom’s subsidiary ServiceAero, or SA, is a service provider located in Moscow, Russia. SA provides internet and telephony services for the majority of companies located in Russia’s third largest airport Vnukovo. These companies include major Russian and international airlines, business aviation companies, air cargo companies, airline support and many others. SA offers domestic and international terminations, domestic origination with local access, long distance services, collocation, video conferencing, video surveillance, and conference calling capabilities, prepaid calling services, Wi-Fi hot spots, DSL services and fiber-to-the-building lease lines. SA potentially is a point of presence and starting point for a 4G based HFW rollout of in-building networks in Moscow and other large cities in the Commonwealth of Independent States.

Winncom has expertise in broadband wireless networking products and a full range of network infrastructure and access products by the leading industry manufacturers, allowing it to sell the products and provide complete solutions for various markets and applications. We believe that Winncom’s extensive experience and engineering resources makes it possible for the company to identify, design and implement the most effective and economical turnkey solutions based on a combination of the latest technologies, which will give us the ability to manage and roll out our new 4G based HFW networks. With its world-wide presence, Winncom is able to provide pre-sale consulting and post-sale engineering support to its customers. It has a portfolio of successful wireless and networking deployments in countries located in North America, Eastern Europe, Commonwealth of Independent States, Far East and Central Asia. Winncom’s international presence will allow us the opportunity to expand our 4G based HFW network roll out worldwide and give our telephone business access to international markets, which would include interconnection agreements. Through Winncom’s relationships (both domestic and international), we believe that we will also be well positioned to capitalize on opportunities for our current product offerings and services.

Executive Officers and Board of Directors

Following the consummation of this offering and the Winncom acquisition, Gregory Raskin will become our Chief Executive Officer. Steven Asman is currently our President, and we do not have a Chief Executive Officer. Based on Mr. Raskin’s qualifications and experience, we believe that he will be better equipped than Mr. Asman to run a large organization that will be a public company. Additionally, following the consummation of this offering and the Winncom acquisition, six new directors will be appointed to our board of directors. We believe that, in light of our business and

2


structure and given that we will be a public company, based on the experience, qualifications, attributes and skills of each of these individuals, they will be valuable members of our board of directors.

Our Competitive Advantages

Through our Strategic Partnership Agreement with incNetworks®, we are deploying 4G based Hybrid Fiber-Wireless, or HFW, networks within two multi-tenant buildings in New York, New York. The first building, the Lincoln Building (60 East 42nd Street, New York, New York) began testing during the the first quarter of 2010, and the second building (230 Park Avenue) is expected to begin testing during the second quarter of 2010. Upon the completion of this first phase of deployments, we intend to deploy additional 4G based HFW networks within hundreds of multi-tenant buildings in major metropolitan areas over the course of the next several years.

Following this offering and the completion of the proposed acquisition of Winncom:

 

 

 

 

We believe that we will be well positioned to launch our next generation HFW network services using fourth-generation, or 4G, technology. By overlaying the 4G technology on our current network, we intend to leverage our existing infrastructure, provisioning, customer service center, network operations center, or NOCs, telephone switches and back office processes that we already have in place. We also intend to take advantage of the hundreds of BSAs we have in place with building owners throughout New York, New Jersey, Pennsylvania (Philadelphia), Connecticut and Illinois (Chicago).

 

 

 

 

We believe that we will be one of the first companies in the United States to offer this in-building 4G based HFW network technology. This technology will enable us to provide in-building carrier-grade broadband wired and wireless network services, in-building data services and voice services, VoIP, high speed Internet access, WiFi, HDTV applications, multi-user video conferencing and more.

 

 

 

 

Since 4G will be a fully IP-based integrated system, wired and wireless technologies are allowed to converge and will be capable of providing between 100 Mbit/s and 1 Gbit/s Virtual Private LAN Services, or VPLS, supporting high definition, or HD, video services, high quality voice and high speed symmetrical data services with the latest security technology. We expect that this will provide both wired and mobile users with symmetrical broadband capabilities (both ways), providing an average upload and download bandwidth of 10mb/s per subscriber.

 

 

 

 

During Phase 1 of our roll-out, by deploying wireless nodes on every floor within a building, we intend to be able to provide our in-building customers with mobile data and voice services when they are inside the building. During Phase 2, we intend to enable wireless carriers (currently working on towards establishing agreements with carriers) to use our network so they can improve their coverage, increase available bandwidth within the building and free up their valuable network resources by downloading their traffic onto our network.

 

 

 

 

Following the completion of the proposed acquisition of Winncom, we intend to take advantage of Winncom’s international relationships, thereby providing us the opportunity to expand our in-building wireless 4G based HFW services worldwide and further expand RNK’s international telephone services.

Our Business Strategy

As an established company in the telecommunications sector, we believe that we are well-positioned to upgrade our network with state-of-the-art technology and deploy next generation in-building network technology to take advantage of market trends. We believe that these trends include significant growth in Internet usage, an increased demand for bandwidth based on new applications and devices such as the IPhone®, and the demand for increased mobility. We believe the roll out of our in-building 4G based HFW network will address all of these issues. By investing in sophisticated in-building wired and wireless networks, we believe that we will be in a position to take advantage of the growth expected in this sector.

3


Our business strategy is two-fold: Phase 1 of our business strategy will be the deployment of the next generation based HFW network throughout the buildings and the sale of bundled communication services to current and future business customers within the buildings. Phase 2 of our business strategy is to provide wholesale wireless access to other mobile carriers (our in building network will act as a small cell tower for the carriers) and, once developed, bring new 4G services within the building to our existing customers.

We expect to be positioned as a leader in providing network infrastructure products and services that enable the profitable delivery of high-speed Internet, video, data, and voice services to business and mobile subscribers worldwide, and be well positioned to meet the demand for unlimited access, scalable bandwidth and robust, reliable connectivity.

Enter into Strategic PartnershipsIn order to build-out the 4G based HFW network, we have entered into a partnership agreement with incNetworks®, pursuant to which we were granted an exclusive license to use, sell, and market HFW networks and services incorporating incNetworks® proprietary underlying CelluLAN® technology, within an expansive list of multi-tenant buildings to be identified by the parties. incNetworks® has developed an innovative next generation multi-megabit broadband wireless network architecture and technology that incorporates all specifications required for the next generation 4G technology with an ability to interoperate with both 2G and 3G Wide Area Wireless Networks via a roaming or access agreement with a cellular carrier.

We also have a working relationship with AVC Global Services Group, or AVC, which is the United States-based affiliate of AVC Europe, Ltd., an ISO 9002-registered professional services company based in the United Kingdom. AVC provides telecommunications and information technologies solutions to service providers, enterprises, and equipment manufacturers. AVC is currently deploying our technology in two office buildings in New York, New York and has the ability to roll-out our product on a large-scale basis worldwide.

We expect that following the acquisition of Winncom, Winncom will also be able to build-out the 4G based HFW network.

Market Opportunity

We are seeking to capitalize on the convergence of wireless, video, and content-based service models, and the coinciding need for wireless providers to off-load bandwidth from their existing networks and find alternative backhaul solutions for low latency, packet-based data and video applications. Growth in new applications in wireless voice and multimedia services, increasing demand for high quality mobile voice and high definition video entertainment services, and the desire of cellular carriers to efficiently manage valuable spectrum, drive the underlying demand for our wireless broadband products and systems. We believe that existing networks and technologies cannot fulfill this demand.

4G technology combines high speed broadband technology, with wireless mobility inside customers’ offices and office buildings, compatibility with legacy wireless data systems (and voice systems, pending the completion of agreements with wireless carriers), and efficient use of spectrum. Furthermore, it is adaptable to any application that communicates information over radio spectrum, including Internet, HDTV, cellular, industrial and emergency/military needs. 4G technology can provide seamless broadband wireless networks for both multi-tenant buildings and campuses/communities. As cellular providers continue to capture landline customers, in-building solutions will play a larger role in carrier networks.

According to a recent study from ABI Research, worldwide deployment revenues from in-building wireless systems are expected to grow from $3.8 billion in 2007 to more than $15 billion in 2013. Drivers for this tremendous growth include consumers’ growing dependence on wireless voice and messaging communications. According to TMT’s (Deloitte’s Technology, Media and Telecommunications Industry Group) Telecommunications Trends Report for 2007, 70% of mobile calls are being made indoors during the course of a year. Mobile data use has also moved indoors, a trend expected to continue.

4


Related Party Ownership

Following the consummation of this offering, our directors and executive officers, together with their affiliates and related persons, and stockholders owning more than 10% of our common stock will beneficially own, in the aggregate, approximately 40.4% of our outstanding common stock (or 40.2% including Gregory Raskin if the Winncom acquisition is consummated). As a result, these stockholders, if acting together, may have the ability to determine the outcome of matters submitted to our stockholders for approval, including the election and removal of directors and any merger, consolidation or sale of all or substantially all of our assets. In addition, these persons, acting together, may have the ability to control the management and affairs of our company. Accordingly, this concentration of ownership may harm the market price of our common stock by delaying or preventing a change in corporate control or may result in the entrenchment of management or our board of directors.

Verizon Litigation

On August 22, 2008 Verizon New England, Inc. (“Verizon”) filed a complaint in the United States District Court, District of Massachusetts against RNK, Inc., our wholly owned subsidiary, relating to the parties’ Interconnection Agreements in New York, Massachusetts and Rhode Island. Specifically, Verizon alleges breach of contract and contends that RNK owes $10,797,896.53 for Virtual Foreign Exchange (“VFX”) traffic, plus applicable late payment charges, seeks declaratory judgments that Verizon does not owe RNK certain invoiced amounts related to reciprocal compensation and access charges, and requests that the court reset the presumptive percentage of VFX which governs the parties’ agreements. RNK filed its answer on November 11, 2008. RNK denied the claims proffered by Verizon and asserted defenses and counter claims for breach of contract and violation of the Massachusetts Consumer Protection Statute. RNK’s counter claims seeks $25,361,434 in compensatory damages as of the date of the complaint, declaratory relief and statutory damages under the Massachusetts Consumer Protection Statute. Verizon answered RNK’s counterclaims on December 22, 2008 and simultaneously filed, but subsequently withdrew, a motion to dismiss certain of RNK’s counterclaims. The parties have agreed to a discovery schedule, with discovery to end in June 2010. If Verizon prevails in its claims, the costs to RNK could be substantial, which would have a material adverse effect on our business.

Recent Operations

For the years ended December 31, 2009, 2008 and 2007, we have experienced operating losses of approximately $21.5 million, $1.2 million and net earnings of $1.9 million, respectively. As of December 31, 2009 we have an accumulated deficit of approximately $34 million. We have outstanding debt obligations of approximately $68 million with a weighted average interest rate of 11.2%. We intend to use approximately $31 million of the proceeds of this offering to retire debt which carries a weighted average interest rate of 17.7%.

Regulatory Developments

We have arrangements with several telecommunications providers, whereby, RNK receives compensation for the termination of traffic originating with such provider and terminating on RNK’s network. One such provider, T-Mobile USA, Inc., or T-Mobile who we derived approximately 10% of our revenues from, terminated the interconnection agreement between RNK and T-Mobile, effective as of November 30, 2009. The parties are currently in negotiations to replace the prior agreement, although there can be no assurance that an agreement will be reached.

Use of Proceeds

We intend to use the net proceeds of this offering in the order of priority as follows: approximately (i) $10.7 million to repay the senior secured notes held by Victory Park; (ii) $21.2 million to repay the notes issued in connection with our acquisition of RNK; (iii) $25.0 million to fund the acquisition of Winncom; (iv) $2.0 million to fund the first phase of our 4G roll-out; (v) $551,250 to satisfy our obligation to pay Mr. Bressman under his separation agreement; and (vi) the balance to be used as working capital. See the sections of this prospectus entitled “Use of

5


Proceeds” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity—Sources of Liquidity” for further detail.

Corporate Information

We were incorporated in Delaware in November 1999. Our principal executive offices are located at 433 Hackensack Avenue, Hackensack, New Jersey 07601, and our main telephone number is (201) 968-9797. Our subsidiary, RNK, has its main offices at 333 Elm Street, Dedham, Massachusetts. Winncom is headquartered at 30700 Carter Street, Suite A, Solon, OH 44139. Our website address is www.wave2wave.com. The information on our website is not part of this prospectus. We have included our website address as a factual reference and do not intend it to be an active link to our website.

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7


The Offering

 

 

 

Common stock offered by us

 

8,250,000 shares

 

Number of shares issued on the date of effectiveness of this registration statement

 

     
28,449,704 shares

 

Number of shares outstanding after this offering and the acquisition of Winncom

 

     
39,806,223 shares (41,044,223 shares if the over-allotment option is exercised in full by the underwriter)

 

Offering price

 

$10.00 per share

 

Use of proceeds

 

We estimate that our net proceeds from the sale of shares of our common stock in this offering will be approximately $73.0 million, based on an assumed initial public offering price of $10 per share, the mid-point of the price range set forth on the cover of this prospectus, after deducting underwriting discounts and commissions and estimated offering expenses payable by us. We plan to use approximately $25 million of the net proceeds of this offering to acquire Winncom Technologies Holding Limited and to retire certain of its outstanding debt, $21.2 million of the net proceeds of this offering to repay our outstanding 6% secured promissory notes held by former owners of RNK, $10.7 million of the net proceeds of this offering to repay a bridge loan from Victory Park, $2.0 million to fund the rollout of our 4G based HFW network, $551,250 to satisfy our obligation to pay Mr. Bressman under his separation agreement and the remainder to fund continued development of our technology and for general corporate purposes, such as general research and development, general and administrative expenses, capital expenditures, working capital needs and the potential acquisition of, or investment in, other technologies, products or companies that complement our business. For a more complete description of our intended use of the proceeds from this offering, see “Use of Proceeds.”

 

Proposed New York Stock Exchange symbol

 

“WAV”

 

Risk Factors

 

The securities offered by this prospectus are speculative and involve a high degree of risk and investors purchasing securities should not purchase the securities unless they can afford the loss of their entire investment. See “Risk Factors” beginning on page 13.

 

Representative’s Warrant

 

In connection with this offering, we have also agreed to sell to the underwriter representative a warrant for $100 to purchase up to 3% of the shares of common stock sold. If this warrant is exercised, each share may be purchased by the underwriters’ representative at $[] per share (145% of the price of the shares sold in the offering).

8


General Information About This Prospectus

Unless otherwise noted, throughout this prospectus the number of shares of our common stock to be outstanding following this offering is based on shares of our common stock outstanding as of April 22, 2010 and excludes:

 

 

 

 

2,631,517 shares of common stock issuable upon the exercise of stock options outstanding as of April 15, 2010 at a weighted average exercise price of $0.24 per share;

 

 

 

 

1,470,588 shares of common stock issuable upon the exercise of warrants outstanding as of April 15, 2010 at a weighted average exercise price of $1.23 per share;

 

 

 

 

shares of common stock underlying the underwriters’ representative’s common stock purchase option; and

 

 

 

 

additional shares reserved for future issuance under our stock plans.

Unless otherwise indicated, all information in this prospectus:

 

 

 

 

reflects a 1-for-2 reverse stock split of our common stock effected on March 22, 2010;

 

 

 

 

assumes that the underwriters do not exercise their over-allotment option to purchase 1,237,500 shares of our common stock in this offering; and

 

 

 

 

assumes the filing of our second amended and restated certificate of incorporation and the adoption of our second amended and restated bylaws upon the completion of this offering.

9


SUMMARY HISTORICAL CONSOLIDATED FINANCIAL DATA AND
PRO FORMA FINANCIAL DATA

The following tables set forth our summary consolidated financial data for the periods ended and as of the dates indicated below. We have derived the summary consolidated financial data for the years ended December 31, 2009, 2008, and 2007 and as of December 31, 2009 and 2008 from our consolidated financial statements which have been audited by RBSM LLP, our independent registered public accounting firm, and are included elsewhere in this prospectus.

The summarized unaudited pro forma financial data as of December 31, 2009 has been prepared to give pro forma as adjusted effect to (1) the proposed Winncom acquisition, (2) the sale of shares in this offering, and (3) application of the net proceeds from this offering as if the transactions took place as of January 1, 2009 for the year ended December 31, 2009 and as of December 31, 2009 for the balance sheet data. This data is subject, and gives effect, to the assumptions and adjustments described in the notes accompanying the unaudited pro forma financial statements included elsewhere in this prospectus. The summary unaudited pro forma financial data is presented for informational purposes only and should not be considered indicative of actual results of operations that would have been achieved had the Winncom acquisition and this offering been consummated on the dates indicated, and do not purport to be indicative of balance sheet data or results of operations as of any future date or for any future period.

The information set forth below should be read in conjunction with “Use of Proceeds,” “Capitalization,” “Selected Historical Financial Data,” “Unaudited Pro Forma Consolidated Financial Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements including the notes thereto incorporated by reference in this prospectus.

All financial data presented in thousands except whereas noted.

 

 

 

 

 

 

 

 

 

 

 

Year Ending December 31,

 

2009

 

2009

 

2008

 

2007

 

 

Pro Forma

 

 

 

 

 

 

Operating revenues

 

 

 

136,124

   

 

 

79,871

   

 

 

78,455

   

 

 

35,403

 

Operating expenses:

 

 

 

 

 

 

 

 

Costs of goods sold exclusive of depreciation shown
separately below

 

 

 

97,433

   

 

 

51,588

   

 

 

43,205

   

 

 

22,143

 

Depreciation and amortization

 

 

 

9,989

   

 

 

6,983

   

 

 

6,658

   

 

 

1,986

 

Selling, general, and administrative expenses

 

 

 

54,326

   

 

 

37,925

   

 

 

20,795

   

 

 

14,199

 

 

 

 

 

 

 

 

 

 

Total operating expenses:

 

 

 

161,748

   

 

 

96,496

   

 

 

70,658

   

 

 

38,328

 

 

 

 

 

 

 

 

 

 

(Losses) income from operations

 

 

 

(25,624

)

 

 

 

 

(16,625

)

 

 

 

 

7,797

   

 

 

(2,925

)

 

Interest expense, net

 

 

 

4,905

   

 

 

7,231

   

 

 

7,009

   

 

 

2,306

 

Other (expense) income

 

 

 

(543

)

 

 

 

 

(769

)

 

 

 

 

312

   

 

 

3,496

 

 

 

 

 

 

 

 

 

 

Net interest expense and other income

 

 

 

5,448

   

 

 

8,000

   

 

 

6,697

   

 

 

(1,190

)

 

(Loss) income before income taxes

 

 

 

(31,072

)

 

 

 

 

(24,625

)

 

 

 

 

1,100

   

 

 

(1,735

)

 

Provision for income taxes & minority interest

 

 

 

(4,728

)

 

 

 

 

(3,089

)

 

 

 

 

2,309

   

 

 

(3,629

)

 

 

 

 

 

 

 

 

 

 

Net (loss) income

 

 

 

(26,344

)

 

 

 

 

(21,536

)

 

 

 

 

(1,209

)

 

 

 

 

1,894

 

 

 

 

 

 

 

 

 

 

Diluted EPS

 

 

$

 

(0.90

)

 

 

 

$

 

(0.88

)

 

 

 

$

 

(0.06

)

 

 

 

$

 

0.07

 

Adjusted EBITDA*

 

 

 

9,584

   

 

 

8,071

   

 

 

8,870

   

 

 

2,255

 

10


 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended December 31,

 

2009

 

2009

 

2008

 

2007

 

2006

 

 

Pro Forma

 

 

 

 

 

 

 

 

Balance Sheet Data:

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

 

$

 

25,509

   

 

$

 

1,995

   

 

$

 

1,598

   

 

$

 

1,111

   

 

$

 

256

 

Working capital

 

 

33,055

   

 

 

(25,794

)

 

 

 

 

(59,561

)

 

 

 

 

(51,064

)

 

 

 

 

(2,239

)

 

Total assets

 

 

 

187,357

   

 

 

95,605

   

 

 

90,885

   

 

 

90,430

   

 

 

9,170

 

Stockholders’ equity

 

$

 

91,401

   

 

$

 

(1,681

)

 

 

 

$

 

1,401

   

 

$

 

339

   

 

$

 

(8,321

)

 


 

 

*

 

 

 

We define Adjusted EBITDA as operating income (loss) before interest, taxes, depreciation and amortization expenses, excluding stock-based compensation expense, write-off of public offering costs, gain recognized on troubled debt restructuring, gain or loss on asset dispositions and other non- operating income or expense. We use Adjusted EBITDA in our business operations to, among other things, evaluate the performance of our business, develop forecasts and measure our performance against those forecasts.

We believe that analysts and investors use Adjusted EBITDA as a supplementary measure to evaluate a company’s overall operating performance. However, Adjusted EBITDA has material limitations as an analytical tool and you should not consider Adjusted EBITDA in isolation, or as a substitute for analysis of our results as reported under GAAP. We believe that, with a full understanding of its limitations, adjusted EBITDA provides useful information regarding how our management views our business. In addition, it allows analysts, investors and other interested parties in the telecommunications industry to facilitate company to company comparisons because it eliminates many differences caused by variations in capital structures (affecting interest expense), taxation, the life-cycle stage and “book basis” depreciation expense of facilities and equipment, as well as non- operating and one-time charges to earnings.

Adjusted EBITDA may not be directly comparable to similarly titled measures reported by other companies due to differences in accounting policies and items excluded or included in the adjustments. Our calculation of Adjusted EBITDA is not directly comparable to EBIT (earnings before interest and taxes) or EBITDA. In addition, Adjusted EBITDA does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual commitments; changes in, or cash requirements for, our working capital needs; our interest expense, or the cash requirements necessary to service interest or principal payments our outstanding debt; any cash requirements for the replacement of assets being depreciated or amortized, which will often have to be replaced in the future, even though depreciation and amortization are non-cash charges; and the fact that other companies in our industry may calculate adjusted EBITDA differently than we do which limits its usefulness as a comparative measure. Adjusted EBITDA is not intended to replace operating income, net income and other measures of financial performance reported in accordance with GAAP. Rather, Adjusted EBITDA is a measure of operating performance that you may consider in addition to those measures. Because of these limitations, Adjusted EBITDA should not be considered as a measure of discretionary cash available to us to invest in the growth of our business. We compensate for these limitations by relying primarily on our GAAP results and using adjusted EBITDA as a supplementary measure.

11


Set forth below is a reconciliation of net (loss) income to EBITDA to Adjusted EBITDA for the periods presented.

 

 

 

 

 

 

 

 

 

 

Year ended December 31,

 

 

(in thousands)

 

 

2009

 

2009

 

2008

 

2007

 

 

Pro Forma

 

 

 

 

 

 

Reconciliation of net (loss) income
to EBITDA to Adjusted EBITDA

 

 

 

 

 

 

 

 

Net (loss) income

 

 

 

(26,344

)

 

 

 

 

(21,536

)

 

 

 

 

(1,209

)

 

 

 

 

1,894

 

Provision for income taxes & minority interest

 

 

 

(4,728

)

 

 

 

 

(3,089

)

 

 

 

 

2,309

   

 

 

(3,629

)

 

Other (expense) income

 

 

 

543

   

 

 

769

   

 

 

(312

)

 

 

 

 

(3,496

)

 

Interest expense, net

 

 

 

4,905

   

 

 

7,231

   

 

 

7,009

   

 

 

2,306

 

Depreciation and amortization

 

 

 

9,989

   

 

 

6,983

   

 

 

6,658

   

 

 

1,986

 

 

 

 

 

 

 

 

 

 

EBITDA

 

 

 

(15,635

)

 

 

 

 

(9,642

)

 

 

 

 

14,455

   

 

 

(939

)

 

Non-cash compensation and accretion

 

 

 

21,719

   

 

 

17,713

   

 

 

988

   

 

 

3,194

 

Gain on change in estimate for VFX

 

 

 

   

 

 

   

 

 

(6,573

)(1)

 

 

 

 

 

Separation/termination costs for key employee

 

 

 

3,500

   (2)

 

 

 

 

   

 

 

   

 

 

 

 

 

 

 

 

 

 

 

 

Adjusted EBITDA

 

 

$

 

9,584

   

 

$

 

8,071

   

 

$

 

8,870

   

 

$

 

2,255

 

 

 

 

 

 

 

 

 

 


 

 

(1)

 

 

 

A one-time favorable adjustment recorded pursuant to a rate change for calculating liabilities for virtual foreign exchange traffic processed by other carriers through existing interconnection agreements, as amended.

 

(2)

 

 

 

Payments related to separation agreement with key employee, Andrew Bressman.

12


RISK FACTORS

An investment in our common stock involves a high degree of risk. You should carefully read and consider the risks and uncertainties described below together with all of the other information contained in this prospectus, including the financial statements and the related notes appearing at the end of this prospectus, before deciding to invest in our common stock. If any of these risks actually occur, our business, business prospects, financial condition, results of operations or cash flows could be materially harmed. In any such case, the trading price of our common stock could decline, and you could lose all or part of your investment.

Risks Related to Our Business

Business and Competitive Risks

We have substantial indebtedness and may be unable to service our debt. Our substantial indebtedness could adversely affect our financial position, limit our available cash and our access to additional capital and prevent us from growing our business.

As of April 15, 2010 we have outstanding debt of approximately $70 million of which $30 million is short-term in nature. Our long-term debt of approximately $39.2 million matures on October 7, 2013 and is held by Wilmington Trust Company and G. Jeff Mennen, a principal stockholder and a member of our board of directors upon consummation of this offering, as co-trustees of a trust of which John Henry Mennen, G. Jeff Mennen’s brother, is the beneficiary. This related party has given us term extensions in the past. There can be no assurance that this party will continue to do so. The weighted average interest of our debt is approximately 11.2%. We have had to extend the maturity dates of a significant portion of our debt and have negotiated multiple amendments and modifications, specifically in connection to subordinated promissory notes held by the former owners of RNK. In order to secure modifications and amendments from various debt holders, we have issued additional consideration in the form of warrants to purchase shares of our common stock as an inducement for more favorable terms. We have not always been successful in servicing our debt and have been issued default notices; although subsequently we have been able to negotiate forbearances. From the proceeds of this offering, we have designated for retirement approximately $31.9 million of our debt, consisting of approximately $21.2 million for repayment of subordinated promissory notes held by the former owners of RNK and a bridge loan of approximately $10.7 million held by Victory Park Capital as use of proceeds. The RNK notes become due on the earlier of May 8, 2010, the consummation of this offering or the repayment of the loans from Victory Park. The loans from Victory Park become due on the earlier of May 8, 2010 or the consummation of our proposed offering. If we are unable to raise a certain amount of proceeds from this offering, we will be unable to retire the debt designated above and we may be in default in the repayment of such debt which would have a material adverse effect on our financial position, results of operations and related cash flows.

The level of our indebtedness could have important consequences, including:

 

 

 

 

a substantial portion of our cash flow from operations will be dedicated to debt service and may not be available for other purposes;

 

 

 

 

limiting our flexibility in planning for, or reacting to, changes in our business and the industry in which we operate;

 

 

 

 

limiting our ability to obtain financing in the future for working capital, capital expenditures and general corporate purposes, including acquisitions, and may impede our ability to secure favorable lease terms;

 

 

 

 

making us more vulnerable to economic downturns and may limit our ability to withstand competitive pressures; and

 

 

 

 

placing us at a competitive disadvantage compared to our competitors with less indebtedness.

13


We could continue to incur significant losses.

We have experienced significant losses in the past; at times we have been unable to generate sufficient cash flow from operations to fund our expenses. We can give no assurance that we will not continue to incur significant losses in the future. We experienced annual net losses of $1.6 million, $1.3 million, and $2.5 million in 2004, 2005, and 2006, respectively with a stockholders’ deficit as of December 31, 2006 of $6.5 million. We benefited from the acquisition of RNK in 2007, including a non-recurring tax benefit related to historical net operating losses of $4.5 million. We experienced a net profit of $1.9 million in 2007 and a net loss of $1.2 million in 2008. For the year ended December 31, 2009, we incurred a net loss of approximately $21.5 million and had a stockholders’ deficit of approximately $1.7 million.

Our market is extremely competitive and we face intense competition from other providers of communications services that have significantly greater resources than we do.

The market for broadband and related services is highly competitive and we compete with several other companies within each of our markets. We face competition from several different sources including wireless carriers, competitive local exchange carriers, incumbent local exchange carriers, cable operators and Internet service providers. Many of these operators have substantially greater resources and greater brand recognition than we do. Further, there is no guarantee that they will not enter the wireless Internet connectivity market and compete directly with us for our subscriber base, which could have a material adverse affect on our operations.

Our current or future competitors may provide services comparable or superior to those provided by us, or at lower prices, or adapt more quickly to evolving industry trends or changing market requirements.

Many providers of communications services have competitive advantages over us, including substantially greater financial, personnel and other resources, better access to capital, brand name recognition and long-standing relationships with customers. These resources may place us at a competitive disadvantage in our current markets and limit our ability to expand into new markets. Because of their greater financial resources, some of our competitors can also better afford to reduce prices for their services and engage in aggressive promotional activities. Such tactics could have a negative impact on our business. For example, some of our competitors have adopted pricing plans such that the rates that they charge are not always substantially higher, and in some cases are lower, than the rates that we charge for similar services. In addition, other providers are offering unlimited or nearly unlimited use of some of their services for an attractive monthly rate in conjunction with attractive “win-back” promotions. Due to these and other competitive pricing pressures, we currently expect average monthly revenue per customer location to remain relatively flat or decline in the foreseeable future. Any of the foregoing factors could require us to reduce our prices to remain competitive or cause us to lose customers, resulting in a decrease in our revenue.

We derived a significant portion of our total net revenues, approximately 10%, from services provided to a telecommunications provider that has advised us that it intends to terminate our agreement. Our revenues and results of operations will be adversely affected, possibly materially, if we are unable to replace the lost sales or a renegotiate a replacement agreement upon favorable terms.

We have arrangements with several telecommunications providers to provide them services. Under these arrangements, RNK receives compensation for the termination of traffic originating with such telecommunications provider and terminating on RNK’s network. On August 27, 2009, one such provider, T-Mobile USA, Inc., provided RNK with notice of termination of the interconnection agreement between the parties, with an effective termination date of November 30, 2009. Pursuant to the terms of the interconnection agreement, RNK may request renegotiations at any time prior to the proposed termination date. Upon receiving such notice for negotiations, the terms and conditions of the terminated agreement, including the obligation to pay for traffic exchanged between the parties, will continue until a new agreement is executed or the applicable timeframes, plus any extensions of such timeframes, for negotiations under the Telecommunications Act of 1996 are

14


exhausted. On November 16, 2009, RNK requested renegotiation of the agreement prior to the proposed termination date. As of April 15, 2010, T-Mobile has not recognized RNK’s request as valid and has indicated that it will not pay for traffic exchanged between the parties after November 30, 2009. Notwithstanding T-Mobile’s position, the parties are currently in negotiations to replace the prior agreement. RNK expects that the negotiations will result in a reasonable but lower compensation rate within five months of the termination date, although there can be no assurance that an agreement can be reached. RNK also expects that T-Mobile will not pay for any traffic exchanged between the parties after November 30, 2009 and that this will have a material adverse affect on our revenues in the short term and possibly in the long term depending on the final rate in any new agreement.

We are relying on incNetworks® as a key vendor. If for any reason our relationship with incNetworks® changes or is terminated, it will impair our ability to deploy 4G based HFW networks and could result in incNetworks® competing against us.

We entered into a strategic partnership master agreement with incNetworks® on August 11, 2006, or the incNetworks Agreement, which was amended on November 24, 2009 to grant us an exclusive license to use, sell and market incNetworks® 4G technology and services in designated buildings to be identified by the parties. incNetworks® may provide its 4G technology to other providers, potentially our competitors, outside of these designated buildings. The incNetworks Agreement may be terminated by either party in the event the initial public offering is not completed by March 31, 2010. Further, the incNetworks Agreement will terminate by its terms on September 10, 2010 if the parties fail to enter into an amendment to the incNetworks Agreement by August 11, 2010, unless the parties mutually agree to extend the amendment negotiation period. The incNetworks Agreement also provides for other grounds for termination, including but not limited to breach on the part of a party which remains uncured following notice of the breach. While the license grant survives any termination or expiration of the incNetworks Agreement, we are relying solely on incNetworks® as a vendor of 4G technology and do not have control over them. Therefore, if our relationship with incNetworks® changes or is terminated, or incNetworks® fails or cannot perform their duties for any reason, it will adversely affect our ability to deploy our 4G based HFW network build-out plan and negatively impact our business strategy.

The “Wholesale or “Neutral Host” model may require capital expenditures without having agreements from customers.

Our ability to profitably capture mobile wireless data users in each building is predicated on being able to secure sufficient “wholesale” revenue from wireless carriers who wish to off-load bandwidth from their “out-of-building” networks. We will have to scout locations and enter into wholesale agreements with significant wireless carriers to make the wholesale model work. It is likely that we will have to expend substantial capital to deploy our in-building wireless networks before we have commitments from wireless carriers to purchase our wholesale services.

We have experienced difficulties in collecting our accounts receivables. If we do not maintain adequate processes and systems for collecting our accounts receivable, or if we are otherwise unable to collect material amounts of our accounts receivables, our cash flow and profitability will be negatively affected.

We have experienced difficulties in the recent past in collecting accounts receivable from telecommunications providers due to the complexity involved in billing and the uncertainty with regard to certain regulatory matters. If we do not maintain adequate processes and systems for collecting our accounts receivable, or if we are otherwise unable to collect material amounts of our accounts receivables, our cash flow and profitability will be negatively affected.

We face considerable uncertainty in the estimation of revenues, related costs of services and their subsequent settlement

Our revenues and the related cost of sales are often earned and incurred with the same group of carriers who can be our vendors, suppliers and customers simultaneously. These revenues and

15


their related costs may be based on estimated amounts accrued for pending disputes with other carriers, the contractual rates charged by our service providers, as well as sometimes contentious interpretations of existing tariffs and regulations. Subsequent adjustments to these estimates may occur after the bills are received/tendered for the actual costs incurred and revenues earned, and these adjustments can often be material to our operating results. We routinely dispute charges that we feel have been billed in error or incorrectly; these disputed balances are recorded in accounts payable in our consolidated balance sheets. Some of these disputed amounts have been granted by our providers in the form of credits subsequent to the periods in which they were incurred. In some cases we enter into settlements with customers and issue credits against outstanding amounts owed in return for long- term agreements. These credits can be material to our results and are charged directly against revenues in periods subsequent to where the revenues/costs of services were initially measured. Judgment is required in estimating the ultimate outcome of the dispute resolution process, as well as any other amounts that may be incurred to conclude the negotiations. Actual results can differ from estimates, and such differences could be material.

Potential effects of litigation between our wholly-owned subsidiary RNK and Verizon New England, Inc. could have a material adverse effect on our revenues and operations.

On August 22, 2008, Verizon New England, Inc. (“Verizon”) filed a complaint in the United States District Court for the District of Massachusetts against RNK, asserting claims related to the parties’ Interconnection Agreements in New York, Massachusetts and Rhode Island. Specifically, Verizon alleges breach of contract and contends that RNK owes $10,797,897 for Virtual Foreign Exchange (“VFX”) traffic, plus applicable late payment charges, seeks declaratory judgments that Verizon does not owe RNK certain invoiced amounts related to reciprocal compensation and access charges, and requests that the court reset the presumptive percentage of VFX which governs the parties’ agreements.

On November 11, 2008, RNK filed an answer denying Verizon’s claims and asserting defenses thereto, and asserting counterclaims for breach of contract and violation of the Massachusetts Consumer Protection Statute. RNK’s counterclaims seek $25,361,434 in compensatory damages as well as certain declaratory relief and statutory damages under the Massachusetts Consumer Protection Statute. Verizon answered RNK’s counterclaims on December 22, 2008 and simultaneously filed, but subsequently withdrew, a motion to dismiss certain of RNK’s counterclaims. The parties are currently undergoing discovery which is scheduled to end in June 2010. If Verizon were to prevail on its claims as to the rate for or percentage of VFX traffic that should govern the parties’ agreements, RNK could incur substantial costs which may have a material adverse effect on our business and our liquidity, including paying at a higher rate and percentage of VFX traffic. Because we are unable to predict what an adverse decision would result in, we are unable to quantify how it would affect our liquidity.

If we do not prevail in intellectual property infringement claims against us, our business, financial condition and operating results could be harmed.

Patent positions in the telecommunications industry are uncertain and involve complex legal, scientific and factual questions and often conflicting claims. The industry has in the past been characterized by a substantial amount of litigation and related administrative proceedings regarding patents and intellectual property rights. In addition, established companies have used litigation against emerging growth companies and new technologies as a means of gaining a competitive advantage. Third parties may claim we are infringing their patents, copyrights, trademarks or other intellectual property and may go to court to attempt to stop us from engaging in our ongoing operations and activities. These lawsuits can be expensive to defend and conduct and may divert the time and attention of management.

Third parties may claim that our products and technologies infringe patents, copyrights, trademarks and other intellectual property held by such third parties. If a third-party successfully asserts an infringement claim against us, a court could order us to cease the infringing activity. The court could also order us to pay damages for the infringement, which could be substantial. Any order or damage award could harm our business, financial condition and operating results.

16


In addition, we may be required to participate in interference proceedings in the United States Patent and Trademark Office to determine the relative priorities of our inventions and third parties’ inventions. An adverse outcome in an interference proceeding could require us to cease using the technology or to license rights from prevailing third parties.

If we were unable to obtain any necessary license following an adverse determination in litigation or in interference or other administrative proceedings, we would have to redesign our products to avoid infringing a third-party’s patent and could temporarily or permanently have to discontinue manufacturing and selling the infringing products. If this were to occur, it would negatively impact future sales and could harm our business, financial condition and operating results.

Our business activities might require additional financing that might not be obtainable on acceptable terms, if at all, which could have a material adverse effect on our financial condition, liquidity and our ability to operate going forward.

We believe that the net proceeds from this offering, available capital lease financing and cash flow from operations will be sufficient to meet our working capital, capital expenditure and other cash needs for the next 12 months and beyond. However, if we do not meet our business plan targets, we might need to raise additional capital from public or private equity or debt sources in order to finance future growth, including the expansion of service within existing markets and to new markets, which can be capital intensive, as well as unanticipated working capital needs and capital expenditure requirements.

The actual amount of capital required to fund our operations and development may vary materially from our estimates. If our operations fail to generate the cash that we expect, we may have to seek additional capital to fund our business. If we are required to obtain additional funding in the future, we may have to sell assets, seek debt financing or obtain additional equity capital. In addition, any indebtedness we incur in the future could subject us to restrictive covenants limiting our flexibility in planning for, or reacting to changes in, our business. If we do not comply with such covenants, our lenders could accelerate repayment of our debt or restrict our access to further borrowings. If we raise funds by selling more stock, your ownership in us will be diluted, and we may grant future investors rights superior to those of the common stock that you are purchasing. If we are unable to obtain additional capital when needed, we may have to delay, modify or abandon some of our expansion plans. This could slow our growth, negatively affect our ability to compete in our industry and adversely affect our financial condition.

The long distance telecommunications industry is highly competitive which may adversely affect our performance.

The long distance telecommunications industry is intensely competitive and is significantly influenced by the marketing and pricing decisions of the larger industry participants. In most countries, the industry has relatively limited barriers to entry with numerous entities competing for the same customers. Customers frequently change long distance providers in response to the offering of lower rates or promotional incentives by competitors. Generally, our customers can switch carriers at any time. We believe that competition in all of our markets is likely to increase and that competition in non- United States markets is likely to become more similar to competition in the United States market over time as such non-United States markets continue to experience deregulatory influences. In each of our targeted regions, we compete primarily on the basis of price (particularly with respect to our sales to other carriers), and also on the basis of customer service and our ability to provide a variety of telecommunications products and services. There can be no assurance that we will be able to compete successfully in the future.

Many of our competitors are significantly larger, have substantially greater financial, technical and marketing resources and larger networks than us and a broader portfolio of services, control transmission lines and have strong name recognition and loyalty, long-standing relationships with our target customers, and economies of scale which can result in a lower cost structure for transmission and related costs. These competitors include, among others, AT&T, Verizon Business, Sprint and Verizon in the United States. We also compete with numerous other long distance providers, some of which focus their efforts on the same customers targeted by us. Increased competition in the

17


United States as a result of the foregoing, and other competitive developments could have an adverse effect on our business, results of operations and financial condition.

We are susceptible to risks associated with operating in international markets, and there can be no assurance that we will be able to obtain the requisite permits and licenses required to operate in those markets.

In many international markets, the existing carrier will control access to the local networks, enjoy better brand recognition and brand and customer loyalty, and have significant operational economies, including a larger backbone network and correspondent agreements with Post Telegraph and Telephones, or PTTs. Moreover, the incumbent may take many months to allow competitors, including us, to interconnect to its switches within the target market. Pursuit of international growth opportunities may require significant investments for an extended period before returns, if any, on such investments are realized. In addition, there can be no assurance that we will be able to obtain the permits and operating licenses required for us to operate, obtain access to local transmission facilities or to market, sell and deliver competitive services in these markets.

Our relationships with other telecommunications companies are material to our operations and their financial difficulties or failure to pay may negatively affect our business.

We originate and terminate calls for long distance carriers, interexchange carriers and other local exchange carriers over our network and for that service we receive payments called access charges. Some of the carriers that pay us these access charges are our largest customers in terms of revenues. In the past, several of such carriers have declared bankruptcy or are experienced substantial financial difficulties (e.g., MCI WorldCom and Global Crossing). Our inability to collect access charges from financially distressed carriers has had a negative effect on our financial results and cash flows, as would any subsequent bankruptcies or disruptions in the businesses of these or other interexchange carriers. Our ability to collect past due amounts of access billings from carriers is hampered by federal and state regulations governing these business relationships.

We use many vendors and suppliers that derive significant amounts of business from customers in the telecommunications business. Associated with the difficulties facing many service providers, some of these vendors and suppliers recently have experienced substantial financial difficulties, in some cases leading to bankruptcies and liquidations. Any disruptions experienced by these vendors and suppliers as a result of their own financial difficulties may affect their ability to deliver products or services to us, and delays in such deliveries could have an adverse affect on our business.

Furthermore, due to the complex and at times unclear regulatory environment, disputes between carriers for intercarrier compensation and other services are common. During the pendency of such disputes, carriers frequently withhold payment. These disputes can take years to settle or litigate and can substantially disrupt payments. As such, disputes of this nature can have a material adverse impact on us.

If third-party vendors fail to deliver equipment or deploy our in-building network, we may be unable to execute our business strategy.

Our success will depend on third parties who we do not control to deliver equipment and deploy our in-building network. We cannot be certain that third parties will be successful in their development and deployment efforts. Even if these parties are successful, the delivery and deployment process could be lengthy and subject to delays. If these delays occur, we will be unable to deploy our 4G based HFW network in a timely manner, negatively impacting our business plan and our prospects and results could be harmed.

We depend on third-party providers who we do not control to install our integrated access devices at customer locations. We must maintain relationships with efficient installation service providers in our current cities and identify similar providers as we enter new markets in order to maintain quality in our operations.

The installation of integrated access devices at customer locations is an essential step that enables our customers to obtain our service. We outsource the installation of integrated access

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devices to a number of different installation vendors in each market. We must insure that these vendors adhere to the timelines and quality that we require to provide our customers with a positive installation experience. In addition, we must obtain these installation services at reasonable prices. If we are unable to continue maintaining a sufficient number of installation vendors in our markets who provide high quality service at reasonable prices to us, we may have to use our own employees to perform installations of integrated access devices. We may not be able to manage such installations effectively using our own employees with the quality we desire and at reasonable costs.

We depend on local telephone companies for the installation and maintenance of our customers’ access lines and other network elements and facilities.

Our customers’ access lines are sometimes installed and maintained by local telephone companies in each of our markets. If the local telephone company does not perform the installation properly or in a timely manner, our customers could experience disruption in service and delays in obtaining our services. Since inception, we have experienced routine delays in the installation of access lines by the local telephone companies to our customers in each of our markets, although these delays have not yet resulted in any material impact to our ability to compete and add customers in our markets. Any work stoppage action by employees of a local telephone company that provides us services in one of our markets could result in substantial delays in activating new customers’ lines and could materially harm our operations. Furthermore, we are also dependent on traditional local telephone companies for access to their collocation facilities and we utilize certain of their network elements. Failure of these elements or damage to a local telephone company’s collocation facility would cause disruptions in our service.

We depend upon our suppliers and have limited sources of supply for key products and services.

We rely on other companies to lease or sell to us telecommunications equipment, computer hardware and software, networking equipment and related services that are critical to the maintenance and operation of our network. We have one major supplier, Verizon, that accounted for 24%, 35% and 28% of our costs of services for the years ended December 31, 2009, 2008 and 2007, respectively. We have no other major supplier that accounts for more than 10% of our costs of services. Despite working with major, reputable vendors, we do not carry substantial inventories of these products and cannot be assured that we will be able to lease the products and services that we need in a timely basis, or in sufficient quantities. If we are unable to obtain critical services and products in the quantities required by us and on a timely basis, our business, financial condition and results of operations may be materially adversely affected.

We depend on third-party vendors for information systems. If these vendors discontinue support for the systems we use or fail to maintain quality in future software releases, we could sustain a negative impact on the quality of our services to customers, the development of new services and features, and the quality of information needed to manage our business.

We have entered into agreements with vendors that provide for the development and operation of back office systems such as ordering, provisioning and billing systems. We also rely on vendors to provide the systems for monitoring the performance and condition of our network. The failure of those vendors to perform their services in a timely and effective manner at acceptable costs could materially harm our growth and our ability to monitor costs, bill customers, provision customer orders, maintain the network and achieve operating efficiencies. Such a failure could also negatively impact our ability to retain existing customers or to attract new customers.

We are dependent on key personnel and our ability to hire and retain sufficient numbers of qualified personnel.

Our success depends to a significant degree, upon the continued contributions of senior management. Despite choosing a management team believed to be very loyal to us, the loss of services of any of these employees could negatively impact our performance. Competition in the industry for qualified employees, especially technical personnel, is intense. Further, our success depends upon our ability to attract and retain additionally qualified personnel. Failure to hire

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qualified personnel and to retain out current personnel may impact our performance. As set forth in this prospectus, the term of the employment agreement of the President of RNK (Richard Koch) expires on the earlier of June 30, 2010 and the date that the RNK Notes are paid in full. Mr. Koch will become an at-will employee upon the expiration of his employment agreement. Additionally, as set forth under the section of this prospectus entitled “Information Concerning One of Our Founders, Managing Director and Head of Business Development,” there is a risk that some third parties might not do business with us, that some prospective investors might not purchase our securities or that some customers may be concerned about signing up for service with us as a result of Andrew Bressman’s background. If any of these risks were to be realized among a sizeable number of prospective investors, vendors or customers, there could be a material adverse affect on our business or the market price of our common stock.

If our new Chief Executive Officer and the six new members of our board of directors do not effectively transition as our new management of the company following the consummation of this offering and the acquisition of Winncom, we may not be able to execute our business strategy effectively, which may result in a decline in our stock price.

Following the consummation of this offering and the Winncom acquisition, Gregory Raskin will become our Chief Executive Officer. Steven Asman is currently our President, and we do not have a Chief Executive Officer. Based on Mr. Raskin’s qualifications and experience, we believe that he will be better equipped than Mr. Asman to run a large organization that will be a public company. Additionally, following the consummation of this offering and the Winncom acquisition, six new directors will be appointed to our board of directors. We believe that, in light of our business and structure and given that we will be a public company, based on the experience, qualifications, attributes and skills of each of these individuals, they will be valuable members of our board of directors. We believe that our new Chief Executive Officer and directors will make a successful transition as our new management, and will quickly become familiar with our operations. However, in the event that they fail to transition effectively, we may not be able to execute our business strategy effectively, and as a result our stock price may decline.

If we fail to maintain effective internal controls over financial reporting, the price of our common stock may be adversely affected.

Our internal control over financial reporting may have weaknesses and conditions that could require correction or remediation, the disclosure of which may have an adverse impact on the price of our common stock. We are required to establish and maintain appropriate internal controls over financial reporting. Failure to establish those controls, or any failure of those controls once established, could adversely impact our public disclosures regarding our business, financial condition or results of operations. In addition, management’s assessment of internal controls over financial reporting may identify weaknesses and conditions that need to be addressed in our internal controls over financial reporting or other matters that may raise concerns for investors. Any actual or perceived weaknesses and conditions that need to be addressed in our internal control over financial reporting, disclosure of management’s assessment of our internal controls over financial reporting or disclosure of our public accounting firm’s attestation to or report on management’s assessment of our internal controls over financial reporting may have an adverse impact on the price of our common stock.

Standards for compliance with Section 404 of the Sarbanes-Oxley Act of 2002 are uncertain, and if we fail to comply in a timely manner, our business could be harmed and our stock price could decline.

Rules adopted by the SEC pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 require annual assessment of our internal controls over financial reporting, and attestation of our assessment by our independent registered public accounting firm. The standards that must be met for management to assess the internal controls over financial reporting as effective are evolving and complex, and require significant documentation, testing, and possible remediation to meet the detailed standards. We expect to incur significant expenses and to devote resources to Section 404

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compliance on an ongoing basis. It is difficult for us to predict how long it will take or costly it will be to complete the assessment of the effectiveness of our internal control over financial reporting for each year and to remediate any deficiencies in our internal control over financial reporting. As a result, we may not be able to complete the assessment and remediation process on a timely basis. In addition, the attestation process by our independent registered public accounting firm is new and we may encounter problems or delays in completing the implementation of any requested improvements and receiving an attestation of our assessment by our independent registered public accounting firm. In the event that our Chief Executive Officer, Chief Financial Officer or independent registered public accounting firm determine that our internal control over financial reporting is not effective as defined under Section 404, we cannot predict how regulators will react or how the market prices of our shares will be affected; as such, we believe that there is a risk that investor confidence and share value may be negatively impacted. We estimate the costs of completing the implementation of compliance with Section 404 of the Sarbanes-Oxley Act and the assessment of internal controls at approximately $450,000. We estimate the costs associated with our compliance with Section 404 of the Sarbanes-Oxley Act to be approximately $115,000 per year, and we estimate the costs of audit fees related to the attestation of internal controls to be approximately $200,000 per year.

Regulatory Risks

Federal or state regulators may take actions that materially reduce the amounts we can collect from other carriers.

RNK obtains a substantial portion of its revenue from the fees it is allowed to charge other carriers for sending traffic onto our network. These fees, generally referred to as intercarrier compensation, accounted for approximately 48% of our total revenues in 2009. Intercarrier compensation usually falls into two categories, access charges for long distance calls and reciprocal compensation for local calls. The Federal Communications Commission, or the FCC, regulates the amount we can charge other carriers for using our network to originate or terminate interstate calls. The FCC is considering rules that could substantially reduce the amount of intercarrier compensation we could assess other carriers. State utility commissions regulate the access charges we can assess other carriers for originating or terminating in-state long distance calls. These intrastate access charges are typically higher than interstate access charges, and in some cases we may charge more for access than our primary incumbent carrier competitors. State commissions may reduce the level of intrastate access charges we can impose to interstate levels or the level of the incumbent carriers. A number of states have already taken such steps and additional states where we provide service, are in the process of considering reducing intrastate access charges. Any of these regulatory actions, if taken, could materially reduce our revenues. For example, the Massachusetts regulatory body has ordered a reduction in access charges that could reduce our revenues by 7% if we are unable to justify higher rates or replace these revenue streams. Similarly, on February 1, 2010, the New Jersey Board of Public Utilities by order reduced intrastate switched access charges. The New Jersey Board reduced all LEC intrastate switched access rates to a rate equal to the interstate rate charged by the incumbent over 36 months in steps. Further, the Board ordered CLECs to, within 20 days of the date of the order, reduce intrastate access charges to the composite rate charged by the applicable incumbent local exchange carrier. Thereafter, rates would be reduced to the interstate rate annually in equal installments. If the final order remains unchanged and/or its appeal is unsuccessful, our consolidated revenues would decrease by 5% over 36 months with an immediate reduction of approximately 3% in our consolidated revenues 20 days following the effective date of the order if we are unable to replace the lost revenue with new sources. Several parties, including Verizon New Jersey, United Telephone Company of New Jersey, Inc. d/b/a Century Link f/d/b/a Embarq and the Joint CLEC parties (including RNK) have appealed the order in New Jersey courts. These appeals are currently pending. See section entitled “Government Regulation” for a further discussion of intercarrier compensation.

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Our inability to secure roaming agreements with wireless carriers may affect our ability to provide “single device” services.

We anticipate offering commercial wireless carriers the ability to “roam” onto the 4G based HFW network within the buildings we operate, initially with respect to the data services provide by those commercial carriers and later with respect to the voice services those providers offer. This will permit those carriers’ customers to transmit and receive data (and later voice) by connecting to the building’s wireless network, instead of the carrier’s network. However, our ability to offer these services to the customers of commercial carriers will depend on our ability to enter into “roaming” agreements with CMRS carriers. We also ultimately plan to offer single devices that will operate voice and data services on our 4G based HFW network while in buildings we cover, and on the networks of other carriers when users leave those buildings. Our ability to have customers use these “single device” services will depend on our ability to secure roaming agreements with other carriers.

The wireless portion of the HFW Network we are using operates in the unlicensed frequency band, which means other operators can operate in the same frequency and there is a risk of interference with our wireless signal.

Because we operate our in-building 4G based HFW network in unlicensed spectrum, other devices are allowed to operate in the same frequency band in the same geographic areas in which we will operate. Users of unlicensed spectrum are not entitled to protection from other users of that spectrum. Therefore, use of unlicensed spectrum is inherently subject to interference from third parties. While several precautions have been taken to avoid interference, there is no guarantee that we will not experience interference on the wireless portion of our network. If we do experience interference, it could cause customers to be dissatisfied with our wireless services, resulting in customers cancelling this portion of services or cancelling all of our services. This could greatly impair our ability to retain and or generate new customers in any building that has interference issues.

Regulatory decisions could materially increase our costs of leasing last-mile facilities.

In order to reach our end user customers, we must often lease lines from incumbent carriers, who are also our competitors. The extent to which the incumbent carrier must provide these facilities to us at low rates is dependent on federal and state regulatory actions. To date, we are still able to lease these facilities at low rates in most of our markets. Incumbent carriers are, however, allowed to escape this requirement in discrete geographic areas, typically in major urban centers, where there is substantial competitive deployment of facilities by other carriers. Additionally, incumbent carriers have been employing a statutorily authorized process called regulatory forbearance in an effort to lift these requirements over much larger areas. To the extent that the incumbents are successful in these actions in markets where we operate, our costs of obtaining these facilities could materially increase, adversely affecting our margins.

The FCC is reexamining its policies towards VoIP and telecommunications in general and changes in regulation could subject us to additional fees or increase the competition we face.

Voice over Internet Protocol, or VoIP, can be used to carry user-to-user voice communications over dial-up or broadband service. The FCC has ruled that some VoIP arrangements are not regulated as telecommunications services, but that a conventional telephone service that uses Internet protocol in its backbone is a telecommunications service. The FCC has initiated a proceeding to review the regulatory status of VoIP services and the possible application of various regulatory requirements, including the payment of access charges, which are not required at the present time. Expanded use of VoIP technology could reduce the access revenues received by local exchange carriers like us while carriers dispute our charges during the FCC’s review of the issue. We cannot predict whether or when VoIP providers may be required to pay or be entitled to receive access charges, or the extent to which users will substitute VoIP calls for traditional wireline communications. Furthermore, if, as planned in Phase 2 of our business strategy, we carry wireless carrier originated voice traffic over the 4G based HFW network, this traffic may be considered

22


interconnected VoIP traffic under the FCC’s rules and may be subject to separate regulatory requirements for us and the wireless carriers.

Prepaid calling card services may be subject to additional disclosure requirements and access charge disputes.

One of our lines of business is to provide prepaid calling card services. New prepaid calling card disclosure requirements may be adopted that could increase our cost of doing business. Moreover, the FCC ruled in 2006 that certain prepaid calling card providers are subject to access charges for long distance calls using their cards. Some local exchange companies, incumbent carriers in particular, may claim that we or other prepaid calling card providers have not paid access charges on traffic that should be subject to such charges. These disputes, if resolved against prepaid calling card providers, could materially increase our costs of providing prepaid calling card services.

As a local exchange carrier, we also provide local access services for other prepaid calling card providers. In conjunction with the FCC’s 2006 ruling, the FCC has been asked to clarify which carrier, the local exchange carrier or the prepaid calling card provider, is responsible for paying access charges, if applicable, when local access is used to originate a prepaid calling card call. A ruling regarding which local exchange carrier can charge access charges on such calls or that the local exchange carrier terminating such calls could be liable for access charges on prepaid calling card interexchange calls could impose additional costs on us and adversely impact our revenues.

We are subject to complex and sometimes unpredictable government regulations. If we fail to comply with these regulations, we could incur significant fines and penalties.

As a provider of telecommunications services, we are subject to extensive and frequently changing federal, state and local laws and regulations governing various aspects of our business. In particular, we are subject to Universal Service Fund, Consumer Proprietary Network Information, Communications Assistance With Law Enforcement Act and various reporting requirements. We incur various costs in complying and overseeing compliance with these laws and regulations and new requirements as they become effective.

We are unable to predict what additional federal or state legislation or regulatory initiatives may be enacted in the future regarding our business or the telecommunications industry in general, or what effect such legislation or regulations may have on us. Federal or state governments may impose additional restrictions or adopt interpretations of existing laws that could have a material adverse effect on us. If we fail to comply with any existing or future regulations, restrictions or interpretations, we could incur significant fines and penalties, including, but not limited to, loss of license or suspension of operating authority.

Judicial review and FCC decisions pursuant to the federal Telecommunications Act of 1996 may adversely affect our business.

The Telecommunications Act of 1996 provides for significant changes and increased competition in the telecommunications industry. This federal statute and its related regulations remain subject to judicial review and additional rulemakings of the FCC, thus making it difficult to predict what effect the legislation will have on us, our operations and our competitors. In addition to reviewing intercarrier compensation and access to last mile facilities, the FCC is also examining its universal service policies, including policies with respect to both contribution and disbursement that could have an effect on the amount and timing of our receipt of universal service funds for switching support. Changes in the universal fund could also increase the amount we must contribute to the fund. Further, many FCC telecommunications decisions are subject to substantial judicial review and delay. These delays and related litigation create uncertainty over federal policies and rules, and may affect our business plans, investments and operations.

Our operational support systems and business processes may not be adequate to effectively manage our growth.

Our continued success depends on the scalability of our systems and processes. We cannot be certain that our systems and processes are adequate to support ongoing growth in customers. Failure

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to manage our future growth effectively could harm our quality of service and customer relationships, which could increase our customer churn, result in higher operating costs, write-offs or other accounting charges, and otherwise materially harm our financial condition and results of operations.

We may not be able to continue to grow our customer base at historic rates, which would result in a decrease in the rate of revenue growth.

Future growth in our existing markets may be more difficult than our growth has been to date due to increased or more effective competition in the future, difficulties in scaling our business systems and processes, or difficulty in maintaining sufficient numbers of qualified market management personnel, sales personnel and qualified integrated access device installation service providers to obtain and support additional customers. Failure to continue to grow our customer base at historic rates would result in a corresponding decrease in the rate of our revenue growth.

We must keep up with rapid technology change and evolving industry standards in order to be successful. Our competitors may be better positioned than we are to adapt to rapid changes in technology, and we could lose customers.

The markets for our services are characterized by rapidly changing technology and evolving industry standards. Our future success will depend, in part, on our ability to effectively identify and implement leading technologies, develop technical expertise and influence and respond to emerging industry standards and other technology changes.

All this must be accomplished in a timely and cost-effective manner. We cannot assure you that we will be successful in effectively identifying or implementing new technologies, developing new services or enhancing our existing services in a timely fashion. Some of our competitors, including the local telephone companies, have a much longer operating history, more experience in making upgrades to their networks and greater financial resources than we do. We cannot assure you that we will obtain access to new technologies as quickly or on the same terms as our competitors, or that we will be able to apply new technologies to our existing networks without incurring significant costs or at all. In addition, responding to demand for new technologies would require us to increase our capital expenditures, which may require additional financing in order to fund. Further, our competitors, in particular the larger incumbent providers, enjoy greater economies of scale in regard to equipment acquisition and vendor relationships. As a result of those factors, we would lose customers and our financial results could be harmed. If we fail to identify and implement new technologies or services, our business, financial condition and results of operations could be materially adversely affected.

Our systems may experience security breaches which could negatively impact our business.

Despite the implementation of network security including firewalls, encryption for the radio frequency signal and user authentication measures, the core of our infrastructure is vulnerable to computer viruses, break-ins and similar disruptive problems. Computer viruses or other problems caused by third parties could lead to significant interruptions or delays in service to customers. We may face liability associated with such breaches and may lose potential customers. While we will attempt to reduce the risk of such losses through warranty disclaimers and liability limitation clauses in our license agreements and by maintaining product liability insurance, there can be no assurances that such measures will be effective in limiting our liability for such damages or avoiding government sanctions.

If we cannot negotiate new (or extensions of existing) interconnection agreements with local telephone companies on acceptable terms, it will be more difficult and costly for us to provide service to our existing customers and to expand our business.

We have agreements for the interconnection of our network with the networks of the local telephone companies covering each market in which we operate. These agreements also provide the framework for service to our customers when other local carriers are involved. We will be required to negotiate new interconnection agreements to enter new markets in the future. In addition, we will

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need to negotiate extension or replacement agreements as our existing interconnection agreements expire. Most of our interconnection agreements have terms of three years, with automatic renewal terms of at least 30 days until terminated by a party, although the parties may mutually decide to amend the terms of such agreements. Should an agreement be terminated, if we cannot negotiate new favorable interconnection agreements, adopt an existing agreement, renew our existing interconnection agreements on favorable terms or at all, we may invoke binding arbitration by state regulatory agencies. The arbitration process is expensive and time-consuming, and the results of arbitration may be unfavorable to us. If we are unable to obtain favorable interconnection terms, it would harm our existing operations and opportunities to grow our business in our current and new markets.

System disruptions could cause delays or interruptions of our service, which could cause us to lose customers or incur additional expenses.

Our success depends on our ability to provide reliable service. Although we have designed our network service to minimize the possibility of service disruptions or other outages, our service may be disrupted by problems on our system, such as malfunctions in our software or other facilities, overloading of our network and problems with the systems of competitors with which we interconnect, such as physical damage to telephone lines and power surges and outages. Although we have experienced isolated power disruptions and other outages for short time periods, we have not had any system disruptions of a sufficient duration or magnitude that would have a significant impact to our customers or our business. Any significant disruption in our network could cause us to lose customers and incur additional expenses.

We may be unsuccessful in integrating future acquisitions, which may decrease our profitability and make it more difficult for us to grow our business.

If we do not properly integrate and consolidate future acquisitions, including the proposed Winncom acquisition, it could hurt our performance and profitability. Some of the pro forma financial data contained in this prospectus relates to the proposed Winncom acquisition and may not be indicative of future financial or operating results. Any significant diversion of management’s attention or any major difficulties encountered in the integration of the businesses could have a material adverse effect on our business, financial condition or results of operation, which could decrease our profitability and make it more difficult for us to grow our business.

Risks Relating to the Proposed Winncom Acquisition

If we do not consummate the Winncom acquisition our expected results of operations in the future may be adversely affected.

We have entered into an agreement to acquire Winncom. The closing of this acquisition is subject to the receipt of financing, consisting of the portion of the net proceeds of this offering dedicated to funding the acquisition of Winncom, and the satisfaction of customary closing conditions. In addition, the stock purchase agreement is subject to termination by either party under certain circumstances if the closing has not occurred on or before May 30, 2010. We cannot assure you that we will consummate the Winncom acquisition on favorable terms, or at all. If we do not complete the Winncom acquisition, our expected results of operations in the future may be adversely affected, and we will have a large portion of the proceeds of this offering available to us for general corporate purposes.

If we consummate the Winncom acquisition, we may not be able to successfully integrate the acquired business or achieve expected results.

We may experience difficulties in successfully operating in this new market and new line of business for us, the re-selling of networking equipment, and in integrating Winncom’s business with our own, which could increase our costs or adversely impact our ability to operate our business. In addition, our due diligence with respect to Winncom has not yet been completed so we cannot be certain of the value, if any, this acquisition will bring to the company and its investors. Further, we cannot assure you that the information underlying our expected results of operations or the pro

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forma information presented elsewhere in this prospectus (including the related assumptions and adjustments) is sufficient or accurate. You should not consider the pro forma financial data to be indicative of actual results had the Winncom acquisition been consummated on the dates indicated, or indicative of our future operating results or financial position. If we cannot successfully integrate Winncom’s business with our own, our future prospects may be affected.

Winncom’s reliance on information technology requires significant expenditures and entails risk.

Winncom relies on a variety of information systems in its operations. Winncom’s success is dependent in large part on the accuracy and proper use of its information systems. To manage its growth, Winncom continually evaluates the adequacy of its existing systems and procedures. We anticipate that we will regularly need to make capital expenditures to upgrade and modify Winncom’s management information systems, including software and hardware, as we grow and the needs of our business change. The occurrence of a significant system failure, electrical or telecommunications outages or our failure to expand or successfully implement new systems could have a material adverse effect on our results of operations.

Winncom’s information systems networks, including its web sites and applications could be adversely affected by viruses or worms and may be vulnerable to malicious acts such as hacking. Although we take preventive measures, these procedures may not be sufficient to avoid harm to our operations, which could have an adverse effect on our results of operations.

Winncom is dependent on third-party suppliers, and the interruption or termination of its relationships with these suppliers, or the loss of or interruption of supply from its key suppliers, could materially adversely affect our business.

Winncom purchases substantially all of its products from major manufacturers such as Motorola, Proxim Wireless, Cisco Systems and Alvarion, who may deliver those products directly to its customers. These relationships will enable us to make available to our customers a wide selection of products without having to maintain significantly larger amounts of inventory. The termination or interruption of our relationships with any of these suppliers could materially adversely affect our business.

Winncom’s products contain electronic components, subassemblies and software that in some cases are supplied through sole or limited source third-party suppliers, some of which are located outside of the United States. Although we do not anticipate any problems procuring supplies in the near-term, there is no assurance that parts and supplies will be available in a timely manner and at reasonable prices. Any loss of, or interruption of, supply from key suppliers may require Winncom to find new suppliers. This could result in shipping and distribution delays while new suppliers are located, which could substantially impair operating results. If the availability of these or other components used in the manufacture of Winncom’s products was to decrease, or if the prices for these components were to increase significantly, operating costs and expenses could be adversely affected.

Winncom purchases a number of its products from vendors outside of the United States. Difficulties encountered by one or several of these suppliers could halt or disrupt completion or cause the cancellation of Winncom’s orders. Delays or interruptions in the transportation network could result in loss or delay of timely receipt of product required to fulfill customer orders.

Winncom has substantial international operations and is exposed to fluctuations in currency exchange rates and political uncertainties.

Winncom operates internationally and as a result, we are subject to risks associated with doing business globally. Risks inherent to operating overseas include:

 

 

 

 

Changes in a country’s economic or political conditions;

 

 

 

 

Changes in foreign currency exchange rates; and

 

 

 

 

Unexpected changes in regulatory requirements.

With respect to foreign currency exchange rate risks, Winncom currently has operations located in numerous countries outside the United States including Cyprus, Hungary, Ireland, Russia,

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Kazakhstan and Uzbekistan. To the extent the United States dollar strengthens against foreign currencies, our foreign revenues and profits will be reduced when translated into United States dollars. Of the countries previously mentioned, the Central Asia countries saw their currencies weaken against the dollar an average of 14% when comparing their respective average monthly exchange rates at for the year ended December 31, 2009, compared to the year ended December 31, 2008. Whenever possible, Winncom attempts to denominate material contracts and agreements in United States dollars so as to minimize our exposure. This is not always possible or practical. In addition as we operate in multiple foreign jurisdictions we face uncertainty with respect to changing tax laws and the regulatory environment therein.

Winncom is exposed to various inventory related risk primarily but not limited to obsolescence.

A substantial portion of Winncom’s inventory is subject to risk due to technological change and changes in market demand for particular products. If Winncom fails to manage its inventory of older products we may have excess or obsolete inventory. Winncom may have limited rights to return purchases to certain suppliers and we may not be able to obtain price protection on these items. The elimination of purchase return privileges and lack of availability of price protection could lower our gross margin or result in inventory write-downs.

Winncom also takes advantage of attractive product pricing by making opportunistic bulk inventory purchases; any resulting excess and/or obsolete inventory that it is not able to re-sell could have an adverse impact on our results of operations. Any inability to make such bulk inventory purchases may significantly impact our sales and profitability.

Winncom currently has multiple distribution agreements with all of its suppliers. A typical distribution agreement contains a stock rotation clause that allows it to exchange an agreed-upon percentage of inventory at original cost in return for an offsetting purchase of similar value merchandise. This percentage can range from 10-20%. All material distribution agreements also contain “discontinuance” clauses that allow Winncom to exchange discontinued equipment for non-discontinued equipment at equivalent value. Suppliers with agreements are required to give 30 calendar days notice regarding discontinuance of any equipment sold to Winncom. These clauses within Winncom’s agreements allow Winncom to partially mitigate the risk of inventory obsolescence.

Restrictions and covenants in Winncom’s credit facility may limit its ability to enter into certain transactions.

Winncom’s revolving credit agreement contains a number of restrictive covenants limiting its ability to, among other things:

 

 

 

 

create or permit liens on existing assets;

 

 

 

 

make capital expenditures or investments not considered “in the regular course of business”;

 

 

 

 

sell, lease, transfer or dispose of any plant or manufacturing facility;

 

 

 

 

not merge or consolidate with any person or sell, assign, lease, or otherwise dispose of, all or substantially all of its assets to any person; and

 

 

 

 

pay dividends, except dividends paid in shares of Winncom to shareholders or management fees to parent, subsidiaries or affiliates.

Winncom’s revolving credit facility also has a number of restrictive financial covenants that designate minimum ratios to be maintained including a maximum allowable leverage ratio, calculated as the ratio of “Total Senior Liabilities” to “Adjusted Tangible Capital” (3 to 1), both terms as defined within the terms of the revolving credit agreement. In addition Winncom must maintain minimum operating cash flows as a ratio of fixed charges (1.25 to 1). The revolving credit facility also prohibits payments on any subordinated debt except as expressly authorized in the existing subordination agreements held by the creditor.

If Winncom fails to comply with the covenants and other requirements set forth in its revolving credit agreement, it would be in default and would need to negotiate a waiver agreement with its lenders. Failure to agree on such a waiver could result in the lenders terminating the revolving

27


credit agreement and demanding repayment, which would adversely and materially affect availability of financing to Winncom, its financial position, operating cash flows and results of operations.

Winncom advertises manufacturers’ rebates on many of its products, and if the rebates are not processed satisfactorily, our reputation in the marketplace could be negatively impacted.

Similar to other companies in the technology products industry, Winncom advertises manufacturers’ rebates on many products it sells. These rebates are processed through third party vendors and in house. If these rebates are not processed in a timely and satisfactory manner by either third party vendors or our in house operations, our reputation in the marketplace could be negatively impacted.

Gross profit margins in both distribution and contract services are variable.

The industry is highly price competitive and gross profit margins typically exist in narrow range and are subject to some variability. Winncom’s ability to reduce prices in reaction to competitive pressure may be limited. Additionally, gross profit margins and operating margins are affected by changes in factors such as vendor pricing, vendor rebates and/or price protection programs, product return rights, and product mix. As there is a certain amount of transparency amongst all parties regarding the Manufacturer’s Suggested Retail Price of various equipments being resold through the use of listings and catalogs, resellers and distributors have limited flexibility with respect to pricing. Pricing pressure is always subject to significant decline in economic activity in the markets we serve and we expect this to continue during this or any period of sustained economic decline. Winncom may not be able to mitigate these pricing pressures and resultant declines in sales and gross profit margin with cost reductions in other areas or expansion into new product lines. If Winncom is unable to proportionately mitigate these conditions our operating results and financial condition may suffer.

Winncom may be liable for misuse, loss or theft of our customers’ private information.

In processing customer credit applications, purchase and sales orders, Winncom often collects sensitive private and credit card from its customers. Winncom has comprehensive privacy and data security policies in place which are designed to prevent security breaches, however, if a third party or a rogue employee(s) are able to bypass its network security or otherwise compromise its customers’ personal information or credit card information, Winncom could be subject to liability. This liability may include claims for identity theft, unauthorized purchases, claims alleging misrepresentation of our privacy and data security practices or other related claims.

Winncom’s success is dependent upon the availability of credit and financing.

Winncom requires significant levels of capital in its business to finance accounts receivable and inventory. Winncom maintains credit facilities in the United States and in Canada to finance increases in its working capital if available cash is insufficient. The amount of credit available to it at any point in time may be adversely affected by the quality or value of the assets collateralizing these credit lines. In addition, if Winncom is unable to renew or replace these facilities at maturity our liquidity and capital resources may be adversely affected. However, we currently have no reason to believe that it will not be able to renew or replace its facilities when they reach maturity.

Winncom’s income tax rate and the value of its deferred tax assets are subject to change.

Changes in Winncom’s income tax expense due to changes in the mix of United States and non-United States revenues and profitability, changes in tax rates or exposure to additional income tax liabilities could affect our profitability. Winncom is subject to income taxes in the United States and various foreign jurisdictions. Our effective tax rate could be adversely affected by changes in the mix of earnings in countries with differing statutory tax rates, changes in the valuation of deferred tax assets and liabilities, changes in tax laws or by material audit assessments. The carrying value of Winncom’s deferred tax assets, which are primarily in the United States and Russia, is dependent on its ability to generate future taxable income in those jurisdictions. In addition, the amount of income taxes we pay is subject to ongoing audits in various jurisdictions and a material assessment by a tax authority could affect our profitability.

28


Risks Related to Our Common Stock and this Offering

Our stock price is subject to volatility and trends in the communications industry in general, and the market price of our common stock after this offering may drop below the price you pay.

You should consider an investment in our common stock as risky and invest only if you can withstand a significant loss and wide fluctuations in the market value of your investment. Prior to this offering, there was no public market for our stock. We will negotiate and determine the initial public offering price with the representatives of the underwriters based on several factors. This price will likely vary from the market price of our common stock after this offering. Prices for the common stock will be determined in the marketplace and may be influenced by many factors, including variations in our financial results, changes in earnings estimates by industry research analysts, investors’ perceptions of us and general economic, industry and market conditions. Many of these factors are beyond our control. You may be unable to sell your shares of common stock at or above the initial offering price due to fluctuations in the market price of our common stock arising from changes in our operating performance or prospects. In addition, the stock market has recently experienced significant volatility. The volatility of the stock of such companies often does not relate to the operating performance of the companies represented by the stock. Some of the factors that may cause the market price of our common stock to fluctuate include:

 

 

 

 

introduction of technological innovations or new commercial products by us or our competitors;

 

 

 

 

regulatory developments or enforcement in the United States and foreign countries;

 

 

 

 

developments or disputes concerning patents or other proprietary rights;

 

 

 

 

changes in estimates or recommendations by securities analysts, if any covering our common stock;

 

 

 

 

litigation;

 

 

 

 

future sales of our common stock;

 

 

 

 

general market conditions;

 

 

 

 

economic, political and other external factors or other disasters or crises;

 

 

 

 

period-to-period fluctuations in our financial results; and

 

 

 

 

overall fluctuations in U.S. equity markets.

These and other external factors may cause the market price and demand for our common stock to fluctuate substantially, which may limit or prevent investors from readily selling their shares of common stock and may otherwise negatively affect the liquidity of our common stock. In addition, in the past, when the market price of a stock has been volatile, holders of that stock have instituted securities class action litigation against the company that issued the stock. If any of our stockholders brought a lawsuit against us, we could incur substantial costs defending the lawsuit. Such a lawsuit could also divert the time and attention of our management.

An active, liquid trading market for our common stock may not develop or be sustained after this offering.

There is currently no trading market for our common stock. Although we have applied to have our common stock listed on the New York Stock Exchange, there is no guarantee that an active trading market for our common stock will develop or be sustained after this offering on the New York Stock Exchange. If a trading market does not develop or is not maintained, you may experience difficulty in reselling your shares, or an inability to sell your shares quickly or at the latest market price.

Investors in this offering will pay a much higher price than the book value of our common stock and therefore you will incur immediate and substantial dilution of your investment.

If you purchase common stock in this offering, you will incur immediate and substantial dilution of $10.29 per share, representing the difference between our pro forma as adjusted net tangible book value per share and the assumed initial public offering price of $10.00 per share, which is the

29


midpoint of the price range listed on the cover page of this prospectus. In addition, investors purchasing common stock in this offering will contribute approximately 90.3% of the total amount invested by stockholders since inception, but will only own approximately 22.5% of the shares of common stock outstanding. In the past, we issued options and warrants to acquire common stock at prices significantly below the assumed initial public offering price. To the extent these outstanding options or warrants are ultimately exercised, you will sustain further dilution.

Insiders will continue to have substantial control over us which could delay or prevent a change in corporate control or result in the entrenchment of management or our board of directors.

After this offering, our directors and executive officers, together with their affiliates and related persons, and stockholders owning more than 10% of our common stock will beneficially own, in the aggregate, approximately 40.4% of our outstanding common stock (or 40.2% including Gregory Raskin if the Winncom acquisition is consummated). As a result, these stockholders, if acting together, may have the ability to determine the outcome of matters submitted to our stockholders for approval, including the election and removal of directors and any merger, consolidation or sale of all or substantially all of our assets. In addition, these persons, acting together, may have the ability to control the management and affairs of our company. Accordingly, this concentration of ownership may harm the market price of our common stock by:

 

 

 

 

delaying, deferring or preventing a change in control;

 

 

 

 

entrenching our management or our board of directors;

 

 

 

 

impeding a merger, consolidation, takeover or other business combination involving us; or

 

 

 

 

discouraging a potential acquirer from making a tender offer or otherwise attempting to obtain control of us.

Future sales of common stock by our existing stockholders may cause our stock price to fall.

Sales of substantial numbers of shares of our common stock in the public market following this offering, or the perception that these sales may occur, could cause the market price of our common stock to decline. After this offering and the consummation of the Winncom acquisition, we will have 39,806,723 outstanding shares of common stock. This includes the 8,250,000 shares that we are selling in this offering, which may be resold in the public market immediately. After the lock-up agreements pertaining to this offering expire, additional stockholders will be able to sell their shares in the public market, subject to legal restrictions on transfer. As soon as practicable upon completion of this offering, we also intend to file a registration statement covering shares of our common stock issued or reserved for issuance under our stock option plans. Following the expiration of the lock-up agreements, registration of these shares of our common stock would generally permit their sale into the market immediately after the registration statement was declared effective by the SEC. These registration rights of our stockholders could impair our ability to raise capital by depressing the price of our common stock. We may also sell additional shares of common stock in subsequent public offerings, which may adversely affect market prices for our common stock. See “Shares Eligible for Future Sale” for a more detailed description of sales of our common stock that may occur in the future.

We have broad discretion in the use of the net proceeds from this offering and may not use them effectively.

Management will retain broad discretion over the use of the net proceeds from this offering. Stockholders may not agree with such uses, and our use of the proceeds may not yield a significant return or any return at all for our stockholders. We intend to use the proceeds from this offering to fund the acquisition of Winncom, repay our outstanding related party secured promissory notes with a current rate of 9% per annum, repay a bridge loan from Victory Park, to build our operating infrastructure, and for general and administrative expenses, working capital needs and other general corporate purposes. Because of the number and variability of factors that will determine our use of the proceeds from this offering, their ultimate use may vary substantially from their currently intended use. The failure by our management to apply these funds effectively could have a material

30


adverse effect on our business. For a further description of our intended use of the proceeds of the offering, see “Use of Proceeds.”

Provisions of our charter, bylaws, and Delaware law may make an acquisition of us or a change in our management more difficult.

Certain provisions of our restated certificate of incorporation and restated bylaws that will be in effect upon the completion of this offering could discourage, delay or prevent a merger, acquisition or other change in control that stockholders may consider favorable, including transactions in which you might otherwise receive a premium for your shares. These provisions also could limit the price that investors might be willing to pay in the future for shares of our common stock, thereby depressing the market price of our common stock. Stockholders who wish to participate in these transactions may not have the opportunity to do so.

Furthermore, these provisions could prevent or frustrate attempts by our stockholders to replace or remove our management. These provisions:

 

 

 

 

allow the authorized number of directors to be changed only by resolution of our board of directors;

 

 

 

 

authorize our board of directors to issue without stockholder approval blank check preferred stock that, if issued, could operate as a “poison pill” to dilute the stock ownership of a potential hostile acquirer to prevent an acquisition that is not approved by our board of directors;

 

 

 

 

require that stockholder actions must be effected at a duly called stockholder meeting and prohibit stockholder action by written consent;

 

 

 

 

establish advance notice requirements for stockholder nominations to our board of directors or for stockholder proposals that can be acted on at stockholder meetings;

 

 

 

 

limit who may call stockholder meetings; and

 

 

 

 

require the approval of the holders of 75% of the outstanding shares of our capital stock entitled to vote in order to amend certain provisions of our restated certificate of incorporation and restated bylaws.

In addition, because we are incorporated in Delaware, we are governed by the provisions of Section 203 of the Delaware General Corporation Law, which may, unless certain criteria are met, prohibit large stockholders, in particular those owning 15% or more of our outstanding voting stock, from merging or combining with us for a prescribed period of time.

We do not anticipate paying cash dividends, and accordingly, stockholders must rely on stock appreciation for any return on their investment.

We have never declared or paid any cash dividend on our stock and do not currently intend to do so for the foreseeable future. We currently anticipate that we will retain future earnings for the development, operation and expansion of our business and do not anticipate declaring or paying any cash dividends for the foreseeable future. Therefore, the success of an investment in shares of our common stock will depend upon any future appreciation in their value. There is no guarantee that shares of our common stock will appreciate in value or even maintain the price at which our stockholders have purchased their shares.

31


INFORMATION CONCERNING ONE OF OUR FOUNDERS, MANAGING DIRECTOR
AND HEAD OF BUSINESS DEVELOPMENT

You may want to consider the history of one of our founders, managing director and head of business development, Andrew E. Bressman, before investing in our company or purchasing our common stock. Immediately prior to the listing of our common stock on the New York Stock Exchange, Mr. Bressman will no longer be employed by the company. In connection with Mr. Bressman’s separation from the company, we will enter into a separation agreement with Mr. Bressman, which is discussed below.

Past proceedings against Mr. Bressman and others. Prior to joining our company, Mr. Bressman spent five and a half years, from January 1990 until July 1996, working on Wall Street. From January 1990 through August 1992, Mr. Bressman was a registered representative at D.H. Blair & Co., Inc., a registered broker-dealer. In August 1992, Mr. Bressman left D.H. Blair to become a registered representative and president of A.R. Baron & Co., Inc., which was also a registered broker-dealer. In February 1993, Mr. Bressman became a registered principal at A.R. Baron and in September 1993 he began serving as its chief executive officer. Mr. Bressman’s employment with A.R. Baron ended in July 1996 when the company was placed into liquidation pursuant to the Securities Investors Protection Act.

The SEC alleged that, during his association with D.H. Blair and A.R. Baron, Mr. Bressman and others engaged in a scheme to manipulate the market for the common stock of several public companies marketed by D.H. Blair and A.R. Baron and engaged in certain abusive sales practices. In November 1999, Mr. Bressman entered into a consent decree with the SEC which resolved all SEC allegations without Mr. Bressman admitting or denying them. As part of the settlement, Mr. Bressman agreed to the entry of an injunction enjoining him from committing future violations of the U.S. securities laws, including the antifraud provisions set forth in Section 17(a) of the Securities Act, Section 10(b) of the Exchange Act and Rule 10b-5 promulgated thereunder. Mr. Bressman also agreed to a permanent bar from associating with any securities broker or dealer. In addition, Mr. Bressman agreed to and paid monetary penalties and disgorgement of profits over a five-year period. Bear Stearns Securities Corp., A.R. Baron’s clearing house, agreed to contribute $30 million to a restitution fund for A.R. Baron’s investors and the Securities Investors Protection Corporation recovered sufficient money to permit it to reimburse the majority of A.R. Baron’s customers for their full out-of-pocket losses.

In December 1997, Mr. Bressman pled guilty to New York State charges of enterprise corruption and grand larceny based on some of the same conduct while employed at A.R. Baron for which he settled with the SEC. Mr. Bressman served 18 months of confinement in a New York State prison for these offenses commencing in November 2003, after which he was released to a work release program for the next 18 months; his term of parole supervision was terminated early.

On July 3, 1996, Mr. Bressman filed a voluntary Chapter 11 petition pursuant to Title 11 of the United States Code in the United States Bankruptcy Court for the District of New Jersey. This case was subsequently converted to a Chapter 7 Bankruptcy case. The case was closed on or after July 24, 2004.

Actions taken or to be taken by our company. Mr. Bressman is one of our original founders and has been one of our key employees since our company’s founding in November 1999 until November 2003 and from June 2005 to date. Mr. Bressman assumed the role of head of business development and was responsible for locating and developing all new strategic opportunities, including the Intellispace and RNK acquisitions. He was responsible for generating business and strategic relationships that took the company from seven employees to an $80 million company with over 170 employees. Mr. Bressman is currently a senior executive officer of our company and serves as our managing director, responsible for overseeing the day-to-day operations and management of the company, and in a business development capacity, is primarily devoted to strategic acquisitions and dealing with technology partners and vendors. Immediately prior to the listing of our common stock on the the New York Stock Exchange, Mr. Bressman will relinquish his position as a senior executive officer and our managing director. Mr. Bressman has never been a director of our

32


company or any of its subsidiaries, has not had power to bind us and has never signed checks or contracts on our behalf.

Immediately prior to the listing of our common stock on the New York Stock Exchange, Mr. Bressman and the company have agreed that Mr. Bressman will no longer be employed by the company. In connection with Mr. Bressman’s separation from the company, the company and Mr. Bressman will enter into a separation agreement pursuant to which, among other things, the company will make a lump sum payment of $551,250 net of applicable taxes to Mr. Bressman at closing, and an aggregate payment of $198,750 to be paid to Mr. Bressman in 12 equal monthly installments, in consideration for the receipt from Mr. Bressman of a release of the company and for the extension of Mr. Bressman’s non-competition obligations as set forth in the agreement. In addition, Mr. Bressman will be entitled to receive payment of his base salary, certain fringe benefits and coverage under the company’s health and other benefit plans for the remainder of the term of his existing employment agreement.

Mr. Bressman has also agreed to certain limitations on his role with the company and its subsidiaries, or the Group. Mr. Bressman has agreed with us that he will not: (i) become a director, executive officer, or employee of any member of the Group; (ii) be engaged as a consultant to any member of the Group; or (iii) make any public communications about the company or its securities or promote the trading of the company’s securities in any manner. Our board of directors will monitor these guidelines to ensure his and our compliance with them.

Finally, Mr. Bressman’s wife and minor children are beneficiaries of trusts which own in the aggregate approximately 19% of our common stock, prior to giving effect to this initial public offering. Mr. Bressman has agreed that neither he, nor any member of his immediate family or their affiliates, either directly or indirectly through the trusts, will purchase any shares of our common stock either from the company or in secondary market transactions. The trustees of the trusts have also agreed that the trusts will vote their shares of common stock in accordance with the majority of the votes cast by our stockholders on any matter presented to the stockholders on which such trusts are entitled to vote.

Potential risks. There is a risk that some third parties might not do business with us, that some prospective investors might not purchase our securities or that some customers may be concerned about signing up for service with us as a result of Mr. Bressman’s background. If any of these risks were to be realized among a sizeable number of prospective investors, vendors or customers, there could be a material adverse affect on our business or the market price of our common stock.

33


SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

This prospectus contains forward-looking statements. The forward-looking statements are contained principally in the sections entitled “Prospectus Summary,” “Risk Factors,” “Use of Proceeds,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations,” and “Business.” All statements, other than statements of historical facts, included in this prospectus regarding our strategy, future operations, future financial position, projected expenses, prospects and plans and objectives of management are forward-looking statements. 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. Important factors that could cause such differences include, but are not limited to:

 

 

 

 

our inability to retire or renegotiate the terms of our outstanding debt;

 

 

 

 

our inability to deploy and maintain our competitive advantages;

 

 

 

 

failure to implement our business strategies;

 

 

 

 

expectations regarding our potential growth;

 

 

 

 

expectations regarding the size of our market;

 

 

 

 

our expectation regarding the future market demand for our services;

 

 

 

 

our financial performance;

 

 

 

 

our inability to achieve sustained profitability;

 

 

 

 

the establishment, development and maintenance of relationships with telecommunications carriers, vendors and customers;

 

 

 

 

our failure to obtain additional financing on acceptable terms, if necessary;

 

 

 

 

our inability to obtain the permits and licenses required to operate in international markets;

 

 

 

 

compliance with applicable laws and regulatory changes;

 

 

 

 

the outcome of the litigation that our wholly-owned subsidiary, RNK, is currently a party to;

 

 

 

 

changes in technology;

 

 

 

 

our inability to consummate the acquisition of Winncom;

 

 

 

 

our expectations regarding the successful integration of our business with Winncom’s business;

 

 

 

 

our inability to attract and retain additionally qualified key personnel and the loss of such key personnel;

 

 

 

 

general economic conditions;

 

 

 

 

the lack of a market for our securities; and

 

 

 

 

our liquidity.

In some cases, you can identify forward-looking statements by terms such as “anticipates,” “believes,” “could,” “estimates,” “expects,” “intends,” “may,” “plans,” “potential,” “predicts,” “projects,” “should,” “will,” “would” and similar expressions intended to identify forward-looking statements. Forward-looking statements reflect our current views with respect to future events and are based on assumptions and subject to risks and uncertainties. We discuss many of these risks in this prospectus in greater detail under the heading “Risk Factors.” Given these uncertainties, you should not place undue reliance on these forward-looking statements. Also, forward-looking statements represent our estimates and assumptions only as of the date of this prospectus. You should read this prospectus and the documents that we have filed as exhibits to the registration statement, of which this prospectus is a part, completely and with the understanding that our actual future results may be materially different from what we currently expect.

Except as required by law, we assume no obligation to update any forward-looking statements publicly or to update the reasons actual results could differ materially from those anticipated in any forward-looking statements, even if new information becomes available in the future.

This prospectus contains market data and industry forecasts that were obtained from industry publications. These publications generally indicate that this information has been obtained from sources believed to be reliable but do not guarantee the accuracy or completeness of this information. Although we believe that the reports are reliable, we have not independently verified any of this information.

34


USE OF PROCEEDS

We estimate that our net proceeds from the sale of 8,250,000 shares of our common stock in this offering will be approximately $73.0 million, or approximately $84.0 million if the underwriters exercise their over-allotment option in full, assuming an initial public offering price of $10.00 per share, the midpoint of the range listed on the cover page of this prospectus, and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us. A $1.00 increase (decrease) in the assumed initial public offering price of $10.00 per share would increase (decrease) the net proceeds to us from this offering by $7.3 million, assuming that the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting the estimated underwriting discounts and commissions and estimated offering expenses payable by us.

We intend to use the net proceeds from this offering as follows in order of priority:

 

 

 

Victory Park, estimated payout value on April 30, 2010 (36% per annum interest rate)

 

 

$

 

10,687,000

 

RNK Notes, estimated payout value on April 30, 2010 (9% per annum interest rate)

 

 

 

21,200,000

 

Winncom acquisition, $8 million of consideration and $17 million of debt repayment

 

 

 

25,000,000

 

4G Deployment to build our operating infrastructure for next generation networks

 

 

 

2,000,000

 

Separation payment to Mr. Bressman

 

 

 

551,250

 

Additional proceeds to be used as working capital and at management’s discretion

 

 

 

24,526,125

 

 

 

 

Capital raised

 

 

$

 

83,964,375

 

 

 

 

The principal purposes of this offering are to, net of professional and underwriter fees incurred directly in connection with this offering, repay our senior secured notes of $9.3 million held by Victory Park, repay the holders of the RNK Notes, currently with a principal of $19.4 million, fund the acquisition of Winncom fund the first phase of our 4G roll-out pursuant to our agreement with incNetworks® and to satisfy our obligation to pay Mr. Bressman under his separation agreement. We estimate that we will reserve the remaining proceeds of this offering to fund the general and administrative expenses, capital expenditures, working capital needs, and other general corporate purposes. We may also use a portion of the proceeds for the potential acquisition of, or investment in, other technologies, products, or companies that complement our business, although we have no current understandings, commitments, or agreements to do so other than as contemplated with respect to Winncom.

On February 4, 2010, we entered into a stock purchase agreement to acquire privately-held Winncom Technologies Holding Limited, a company incorporated under Irish law. Pursuant to the stock purchase agreement, we will acquire 100% of the issued share capital of Winncom from the stockholders of Winncom, for a payment, including the retirement of debt, of approximately $25 million and the issuance of approximately 2,357,019 shares of our common stock, which number of shares represents approximately 7.5% of our issued and outstanding shares of common stock on a fully- diluted basis as of the date of this prospectus, subject to certain working capital adjustments to be determined within 120 days following the closing of the acquisition. We intend to consummate the acquisition immediately upon the closing of this offering. We cannot assure you that we will consummate the Winncom acquisition on favorable terms or at all. We intend to use a portion of the proceeds of this offering to acquire Winncom and retire Winncom debt as described above. For additional information, see “Business—Proposed Acquisition.”

On October 12, 2007, we issued the RNK Notes in the aggregate original principal amount of $30,666,939, to RNK Holding Company, Wellesley Leasing, LLC and certain of RNK’s employees (including $27,899,026 to RNK Holding Company, an affiliate of Richard Koch, the president of RNK, our wholly-owned subsidiary), as partial consideration in connection with our acquisition of the issued and outstanding common stock of RNK. The RNK Notes originally bore an interest rate of 6% per annum and originally matured on November 10, 2009. The holders of the RNK Notes have agreed to a temporary term extension in conjunction with this offering, with the requirement that the RNK Notes will be paid in full out of the offering proceeds. The outstanding principal balance of the RNK Notes is $19,303,606, as of April 15, 2010, plus accrued interest currently accruing at a rate of 9% per annum. We have entered into several modifications and amendments to

35


the original RNK Notes. In connection with these amendments, we have issued 96,250 warrants at a fair market value of approximately $260,000 which were recorded as debt discount and amortized to interest expense from the date of issuance to the date of maturity.

On September 8, 2009, we entered into a $9,300,000 Senior Secured Financing Agreement with Victory Park Management, LLC, with proceeds used primarily for debt repayment, debt service and professional fees. This facility bears an interest rate of 3% per month and matures on the earlier of (a) May 8, 2010 and (b) the consummation of this offering.

On March 22, 2010, each of the lenders and Victory Park Management LLC (“VPC”), as administrative and collateral agent, agreed to forbear from exercising their default-related rights and remedies, including acceleration and foreclosure, against us or the collateral securing our obligations under the Senior Secured Financing Agreement, with respect to the existing events of default for the agreed upon forbearance period. The forbearance period ends on the earlier of May 8, 2010, and the occurrence of a forbearance default under the forbearance agreement, which includes, but is not limited to, the occurrence of an event of default other than the existing events of default as of March 22, 2010 the failure to comply with any condition or covenant of the forbearance agreement, and the breach of any representation or warranty set forth in the forbearance agreement. In consideration thereof, we agreed to pay the lenders and agent an aggregate fee of $150,000. This fee will be paid out of the net proceeds of this offering. Additionally, on April 16, 2010, each of the lenders and VPC agreed to forbear from exercising their default-related rights and remedies with respect to the existing events of default as of March 22, 2010 and April 16, 2010, for the agreed upon amended forbearance period. The amended forbearance period ends on the earlier of May 8, 2010, or the occurrence of a forbearance default under the second forbearance agreement, which includes, but is not limited to, the occurrence of an event of default other than the existing events of default as of April 16, 2010, the failure to comply with any condition or covenant of the second forbearance agreement, and the breach of any representation or warranty set forth in the second forbearance agreement. In consideration thereof, we agreed to pay the lenders and agent a fee of $400,000, which will be paid out of the net proceeds of this offering.

Immediately prior to the listing of our common stock on the New York Stock Exchange, Mr. Bressman and the company have agreed that Mr. Bressman will no longer be employed by the company. In connection with Mr. Bressman’s separation from the company, the company and Mr. Bressman will enter into a separation agreement pursuant to which, among other things, the company will make a lump sum payment of $551,250 to Mr. Bressman at closing, and an aggregate payment of $198,750 to be paid to Mr. Bressman in 12 equal monthly installments, in consideration for the receipt from Mr. Bressman of a release of the company and for the extension of Mr. Bressman’s non-competition obligations as set forth in the agreement. In addition, Mr. Bressman will be entitled to receive payment of his base salary, certain fringe benefits and coverage under the company’s health and other benefit plans for the remainder of the term of his existing employment agreement.

As of the date of this prospectus, we cannot predict with certainty all of the other uses for the proceeds from this offering, or the amounts that we will actually spend on the uses set forth above. The amounts and timing of our actual expenditures will depend upon numerous factors, including the progress of our research, development, and commercialization efforts, and our operating costs and expenditures. Accordingly, our management will have significant flexibility in applying the remaining net proceeds of this offering.

If we do not consummate the Winncom acquisition, we intend instead to use such portion of the net proceeds for general corporate purposes. Pending use of the proceeds from this offering as described above or otherwise, we intend to invest the net proceeds in short-term interest-bearing, investment grade securities.

36


DIVIDEND POLICY

We have never paid or declared any cash dividends on our common stock, and we do not anticipate paying any cash dividends on our common stock in the foreseeable future. We intend to retain all available funds and any future earnings to fund the development and expansion of our business, including potential acquisitions.

CAPITALIZATION

The following table sets forth our capitalization as of December 31, 2009:

 

 

 

 

on an actual basis;

 

 

 

 

on a pro forma as adjusted basis to give effect to our sale of 8,250,000 shares of common stock in this offering at an assumed initial public offering price of $10.00 per share, the midpoint of the range listed on the cover page of this prospectus, after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us; and

 

 

 

 

on a pro forma as adjusted basis to give effect to the proposed Winncom acquisition and to the events described above, as if they all had occurred on December 31, 2009.

This table should be read with “Selected Financial Data” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our financial statements and the related notes appearing elsewhere in this prospectus.

 

 

 

 

 

 

 

 

 

As of December 31, 2009

 

Actual

 

Pro Forma

 

Pro Forma
As Adjusted

 

 

(unaudited in thousands)

Cash and cash equivalents (includes restricted cash $750)

 

 

$

 

2,745

   

 

$

 

75,757

   

$

 

25,509

 

 

 

 

 

 

 

 

Debt:

 

 

 

 

 

 

Senior secured debt

 

 

 

9,300

   

 

 

9,300

   

 

 

 

Related party debt

 

 

 

39,450

   

 

 

39,450

   

 

 

39,450

 

Subordinated promissory notes, including accrued interest

 

 

 

20,474

   

 

 

20,474

   

 

 

 

Capital leases, current portions

 

 

 

3,045

   

 

 

3,045

   

 

 

3,045

 

All other debt

 

 

 

   

 

 

   

 

9,826

 

 

 

 

 

 

 

 

Total debt

 

 

 

72,269

   

 

 

72,269

   

 

52,321

 

Total stockholders’ equity

 

 

 

(1,681

)

 

 

 

74,219

   

 

91,402

 

Total capitalization

 

 

$

 

70,588

   

 

$

 

146,488

   

$

 

143,722

 

 

 

 

 

 

 

 

The outstanding share information excludes:

 

 

 

 

2,724,516 shares of common stock issuable upon the exercise of stock options outstanding as of December 31, 2009 at a weighted average exercise price of $0.23 per share;

 

 

 

 

1,060,588 shares of common stock issuable upon the exercise of warrants outstanding as of December 31, 2009 at a weighted average exercise price of $0.05 per share; and

 

 

 

 

3,780,066 additional shares reserved for future issuance under our stock plans as of December 31, 2009.

37


DILUTION

If you invest in our common stock, your interest will be diluted immediately to the extent of the difference between the assumed initial offering price of $10.00 per share of our common stock, which is the midpoint of the range listed on the cover page of this prospectus, and the pro forma as adjusted net tangible book value per share of our common stock after this offering.

Our historical net tangible book value as of December 31, 2009 was $(58.9) million, or negative $2.09 per share, based on 28,497,153 shares of common stock outstanding as of December 31, 2009.

After giving effect to the sale by us of 8,250,000 shares of common stock in this offering at an assumed initial public offering price of $10.00 per share and after deducting underwriting discounts and commissions and estimated offering expenses payable by us, our increase per share attributable to the offering as of December 31, 2009 would have been approximately $73 million, or approximately $2.46 per share. After giving effect to the foregoing and also to the Winncom acquisition, our pro forma net tangible book value at December 31, 2009 would have been approximately $(11.5) million, or $(0.29) per share. This amount represents an immediate increase in pro forma net tangible book value of $1.80 per share to our existing stockholders and an immediate dilution in pro forma net tangible book value of approximately $10.29 per share to new investors purchasing shares of common stock in this offering at the assumed initial public offering price. The following table illustrates this dilution on a per share basis:

 

 

 

 

 

 

 

Per Share

Assumed initial public offering price per share

 

 

 

 

$

 

10.00

 

Historical net tangible book value per share as of December 31, 2009

 

$

 

(2.09

)

 

 

 

Increase per share attributable to this offering

 

 

2.46

   

 

Decrease per share attributable to Winncom acquisition

 

 

 

(0.66

)

 

 

 

 

 

 

 

 

Pro forma net tangible book value per share after this offering

 

 

 

 

(0.29

)

 

 

 

 

 

 

Dilution per share to new investors in this offering

 

 

 

$

 

10.29

 

 

 

 

 

 

A $1.00 increase (decrease) in the assumed initial public offering price of $10.00 per share would increase (decrease) our pro forma as adjusted net tangible book value as of December 31, 2009 by approximately $7.5 million, the pro forma as adjusted net tangible book value per share after this offering by $0.19 and the dilution to new investors in this offering by $0.80 per share, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us.

If the underwriters exercise their over-allotment option in full, the pro forma as adjusted net tangible book value per share after this offering would be $0.01 per share, the increase per share attributable to new investors would be $2.76 per share and the dilution to new investors would be $9.99 per share.

38


The following table summarizes, as of December 31, 2009, the differences between the number of shares purchased from us, the total consideration paid to us and the average price per share that existing stockholders and new investors paid. The calculation below is based on an assumed initial public offering price of $10.00 per share, which is the midpoint of the range listed on the cover page of this prospectus, and before deducting underwriting discounts and commissions and estimated offering expenses that we must pay.

 

 

 

 

 

 

 

 

 

 

 

 

 

Shares Purchased

 

Total Consideration

 

Average
Price
Per Share

 

Number

 

Percent

 

Amount

 

Percent

Existing Stockholders

 

 

 

28,497,153

   

 

 

77.5

%

 

 

 

$

 

8,853,000

   

 

 

9.7

%

 

 

 

$

 

0.31

 

New Investors

 

 

 

8,250,000

   

 

 

22.5

%

 

 

 

 

82,500,000

   

 

 

90.3

%

 

 

 

 

10.00

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

36,747,153

   

 

 

100.0

%

 

 

 

$

 

91,353,000

   

 

 

100.0

%

 

 

 

$

 

2.49

 

 

 

 

 

 

 

 

 

 

 

 

A $1.00 increase (decrease) in the assumed initial public offering price of $10.00 per share would increase (decrease) total consideration paid to us by investors participating in this offering by approximately $7.5 million, assuming the number of shares offered by us, as set forth on the cover page of this prospectus, remains the same and after deducting estimated underwriting discounts and commissions and estimated offering expenses payable by us.

Assuming the underwriters’ over-allotment option is exercised in full, sales by us in this offering will reduce the percentage of shares held by existing stockholders to 75% and will increase the number of shares held by new investors to 9,487,500, or 25%.

If all outstanding options under our equity incentive plans were exercised, then our existing stockholders, including the holders of these options, would own 79% and our new investors would own 21%, of the total number of shares of our common stock outstanding upon the closing of this offering. In such event, the total consideration paid by our existing stockholders, including the holders of these options, would be approximately $9.5 million, or 10% the total consideration paid by our new investors which would be $82.5 million, or 3%, the average price per share paid by our existing stockholders would be $0.31 and the average price per share paid by our new investors would be $10.00.

If the holders of outstanding options to purchase shares of our common stock as of December 31, 2009, exercise their options, the total dilution new investors would experience is $10.29 per share, after giving effect to the initial public offering and the acquisition of Winncom.

39


UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL DATA

The following unaudited pro forma financial information for the year ended December 31, 2009 is derived from (1) our historical consolidated financial statements included elsewhere in this prospectus and (2) the historical consolidated financial statements of Winncom. The unaudited pro forma financial statements should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this prospectus, the consolidated financial statements of Winncom and related notes included elsewhere in this prospectus, "Management’s Discussion and Analysis of Financial Condition and Results of Operations" and the other financial information appearing elsewhere in this prospectus. In the proposed Winncom acquisition, we would acquire 100% of the issued share capital of Winncom from the stockholders of Winncom, for a payment, of approximately $8 million and the issuance of approximately 2,357,019 shares of our common stock and $17,000,000 to retire certain related party debt. The shares represents approximately 7.5% of our issued and outstanding shares of common stock on a fully-diluted basis as of the date of this prospectus. The purchase price is subject to certain working capital adjustments to be determined within 120 days following the closing of the acquisition.

The unaudited pro forma statement of operations data for the year ended December 31, 2009, and balance sheet data thereof have been prepared to give pro forma effect to the sale of shares in this offering (excluding shares under the underwriters’ over-allotment option), and application of the net proceeds from this offering, in the case of the statement of operations data, as if they had occurred on January 1, 2009 and, in the case of the balance sheet data, as if they had occurred on December 31, 2009. Additionally, the unaudited pro forma as adjusted statement of operations data for the year ended December 31, 2009 and the balance sheet data thereof have been prepared to give pro forma as adjusted effect to the Winncom acquisition, as well as to the events described above, in the case of the statement of operations data, as if they occurred on January 1, 2009 and, in the case of the balance sheet data, as if they had occurred on December 31, 2009. We accounted for the acquisition of Winncom under the purchase method of accounting, subject to the assumptions and adjustments described in the accompanying notes. The unaudited pro forma financial statements presented below are based upon preliminary estimates of purchase price allocations and do not reflect any anticipated operating efficiencies or cost savings from the integration of Winncom into our business.

The unaudited pro forma consolidated financial statements reflect pro forma adjustments that are described in the accompanying notes and are based on available information and certain assumptions we believe are reasonable, but are subject to change. We have made, in our opinion, all adjustments that are necessary to present fairly the pro forma financial data. The unaudited pro forma financial data is presented for informational purposes only and should not be considered indicative of actual results of operations that would have been achieved had the Winncom acquisition and this offering been consummated on the dates indicated, and do not purport to be indicative of balance sheet data or results of operations as of any future date or for any future period.

Pro Forma Condensed Consolidated Balance Sheet at December 31, 2009

 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2009

 

Wave2Wave

 

Winncom

 

Transactions

 

Pro Forma
Combined

 

IPO

 

Winncom

Current assets:

 

 

 

 

 

 

 

 

 

 

Cash and equivalents

 

 

$

 

1,995

   

 

$

 

5,276

   

 

$

 

43,238

   a

 

 

 

$

 

(25,000

)d

 

 

 

$

 

25,509

 

Accounts receivable

 

 

 

26,190

   

 

 

12,593

   

 

 

 

 

 

 

 

 

38,783

 

Prepaids and inventory

 

 

 

858

   

 

 

9,913

 

 

 

 

 

 

 

 

10,771

 

Other current assets

 

 

 

370

   

 

 

2,797

 

 

 

 

 

 

 

 

3,167

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

29,413

   

 

 

30,579

   

 

 

43,238

   

 

 

(25,000

)

 

 

 

 

78,230

 

Property, equipment and software, net

 

 

 

8,031

   

 

 

1,086

   

 

 

 

 

 

 

 

 

9,117

 

Goodwill

 

 

 

31,716

   

 

 

261

 

 

 

 

 

 

(261

)h

 

 

 

 

31,716

 

Intangible assets, net

 

 

 

16,991

   

 

 

3,532

 

 

 

 

 

 

5,768

   h

 

 

 

 

26,291

 

Goodwill on acquisition

 

 

 

   

 

 

 

 

 

 

 

 

31,299

   i

 

 

 

 

31,299

 

All other assets

 

 

 

9,081

   

 

 

1,623

   

 

 

 

 

 

 

 

 

10,704

 

 

 

 

 

 

 

 

 

 

 

 

Total Assets

 

 

$

 

95,232

   

 

$

 

37,081

   

 

$

 

43,238

   

 

$

 

11,806

   

 

$

 

187,357

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

40


 

 

 

 

 

 

 

 

 

 

 

 

 

December 31, 2009

 

Wave2Wave

 

Winncom

 

Transactions

 

Pro Forma
Combined

 

IPO

 

Winncom

Current liabilities:

 

 

 

 

 

 

 

 

 

 

Accounts payable

 

 

$

 

18,206

   

 

$

 

9,365

 

 

 

 

 

 

 

$

 

27,571

 

Deferred revenue & customer deposits

 

 

 

2,525

   

 

 

330

 

 

 

 

 

 

 

 

2,855

 

Line of credit and revolving credit

 

 

 

   

 

 

3,790

 

 

 

 

 

 

 

 

3,790

 

Related party notes

 

 

 

19,374

   

 

 

17,000

   

 

 

(19,304

)b

 

 

 

 

(17,000

)de

 

 

 

 

70

 

Current portion of long-term leases and debt

 

 

 

10,217

   

 

 

2,276

   

 

 

(9,300

)b

 

 

 

 

 

 

3,193

 

All other current liablities

 

 

 

4,885

   

 

 

2,681

   

 

130

b,j

 

 

 

 

 

7,696

 

 

 

 

 

 

 

 

 

 

 

 

All current liabilities

 

 

 

55,207

   

 

 

35,442

   

 

(28,474

)

 

 

 

 

(17,000

)

 

 

 

45,175

 

Related party notes

 

 

 

39,200

   

 

 

 

 

 

 

 

 

 

 

39,200

 

Other long-term liabities

 

 

 

2,507

   

 

 

6,875

   

 

2,200

   j

 

 

 

 

 

11,582

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities

 

 

 

96,914

   

 

 

42,317

   

 

(26,274

)

 

 

 

 

(17,000

)

 

 

 

95,957

 

Stockholders’ equity

 

 

 

 

 

 

 

 

 

 

 

 

Preferrred Stock

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Minority interest

 

 

 

   

 

 

39

   

 

 

   

 

 

(39

)g

 

 

 

 

 

Common Stock

 

 

 

3

   

 

 

   

 

 

1

   c

 

 

 

 

 

 

4

 

Additional paid-in capital

 

 

 

33,123

   

 

 

   

 

 

75,899

   c

 

 

 

 

23,570

   f

 

 

 

 

132,592

 

(Accumulated deficit)

 

 

 

(33,968

)

 

 

 

 

(5,275

)e

 

 

 

(6,388

)c,j

 

 

 

 

5,275

   g

 

 

 

(40,356

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(842

)

 

 

 

 

(5,236

)

 

 

 

69,512

   

 

 

28,806

   

 

92,240

 

Notes receivable - related parties

 

 

 

(839

)

 

 

 

 

 

 

 

 

 

 

(839

)

 

Total stockholders’ equity

 

 

 

(1,681

)

 

 

 

 

(5,236

)

 

 

 

69,512

   

 

 

28,806

   

 

91,401

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities and stockholders’ equity

 

 

$

 

95,232

   

 

$

 

37,081

   

 

$

 

43,238

   

 

$

 

11,806

   

 

$

 

187,357

 

 

 

 

 

 

 

 

 

 

 

 

The preceding unaudited pro forma balance sheet assumes the following:

 

(a)

 

 

 

Receipt of $73.0 million of cash (proceeds of $82.5M raised less total underwriter fees of approximately 8.0% of gross proceeds and 3% estimate of gross proceeds for legal, advisory and accounting fees expensed immediately), payoff of $9.3 million of senior notes to Victory Park, payoff of $19.3 million of notes held by former owners of RNK, payoff of $1.2 million in accrued interest related to notes held by former employees of RNK.

 

(b)

 

 

 

Immediate repayment of Victory Park Loan in the amount of approximately $9.3 million and extinguishment of the RNK Notes in the amount of approximately $19.4 million plus $1.2 million of accrued interest.

 

(c)

 

 

 

Record issuance of approximately 8,250,000 shares at par value of $0.0001 per share. We recognize additional paid-in capital equal to gross proceeds of offering less underwriters fee (8% of gross proceeds). In addition, we offset against the proceeds all estimated offering costs including professional fees capitalized to that point in pursuit of this offering. Capitalized fees are estimated to be approximately 3.5% of gross proceeds.

 

(d)

 

 

 

We remit $25 million to extinguish a $17 million liability of Winncom and remit $8 million of cash consideration to the stockholders of Winncom for substantially all of their ownership interests.

 

(e)

 

 

 

We extinguish Winncom related party note of $17 million.

 

(f)

 

 

 

Pursuant to the Stock Purchase Agreement entered into with the stockholders of Winncom, we issue 2,357,019 shares of common stock valued at the midpoint of the price range that shares of our common stock will be offered in this offering, or $10.00.

 

(g)

 

 

 

We eliminate the equity of the newly-acquired subsidiary for the purpose of presenting a consolidated pro forma balance sheet.

 

(h)

 

 

 

We write down to zero the goodwill on the books and records of acquiree as a result of fair valuing the net assets. In addition we write up to appraised fair value of acquiree’s customer relationships and trademarks/tradenames with a weighted average amortizable life of six years. We have identified the preceding intangibles as having a fair value of approximately $9.3 million with the aforementioned useful life.

41


 

(i)

 

 

 

We determine our purchase price and the resultant allocation as follows:

 

 

 

Aggregate purchase price

 

 

Cash consideration paid

 

 

$

 

8,000

 

Common stock to be tendered

 

 

 

23,570

 

Winncom liabiilties extinguished

 

 

 

17,000

 

 

 

 

Purchase price to allocate

 

 

$

 

48,570

 

 

 

 

Purchase Price Allocation

 

 

 

Net assets acquired

 

 

Net current assets

 

 

$

 

12,136

 

Fixed and other assets

 

 

 

2,709

 

Identifiable intangible assets

 

 

 

9,301

 

Goodwill

 

 

 

31,299

 

Liabilities assumed (net of liabilities extinguished)

 

 

 

(6,875

)

 

 

 

 

Aggregate purchase price

 

 

$

 

48,570

 

 

 

 

 

(j)

 

 

 

Record long-term and current portions of liability related to Bressman separation agreement and corresponding charge to accumulated deficit.

A one dollar (decrease) increase from $10 will result in a (decrease) increase of approximately $2.35 million to the fair value of the 2,357,019 shares being issued to the stockholders of Winncom in consideration for the issued share capital of Winncom. Notwithstanding final immaterial changes in the assessment of fair values of net tangible assets, or purchase price adjustments contingent on minimum working capital levels maintained by Winncom immediately prior to closing, the (decrease) increase in consideration will be allocated entirely to goodwill. As such, the range of goodwill to be recognized will be $29 - $34 million with a midpoint of $31.8 million.

We do not expect final allocations of goodwill and other related purchase price allocations to be materially different from those presented in these pro forma financial statements.

Pro Forma Condensed Consolidated Statements of Operations

The following unaudited pro forma statements of operations assume that the acquisition of Winncom has been accounted for as an exchange $25 million of cash consideration and 2,357,019 shares of our common stock for 100% of the ownership equity of Winncom in which we are the legal acquirer. Reference is made to a footnote describing additional amortization expense that the combined entity would make due to amortization of certain estimated definitive lived intangibles that would be recognized upon consummation of the acquisition of Winncom as well as reduction of interest expense related to debt scheduled to be extinguished consistent with the “Use Of Proceeds.”

42


 

 

 

 

 

 

 

 

 

 

 

Year Ended December 31, 2009

 

Wave2Wave

 

Wincomm

 

Pro Forma
Adjustments

 

Pro Forma
Combined

Operating revenues

 

 

$

 

79,871

   

 

$

 

56,253

 

 

 

 

 

$

 

136,124

 

Operating Expenses:

 

 

 

 

 

 

 

 

Costs of goods sold (exclusive of depreciation
shown separately below)

 

 

 

51,588

   

 

 

45,845

 

 

 

 

 

 

97,433

 

Depreciation and amortization

 

 

 

6,983

   

 

 

1,456

   

 

 

1,550

   d

 

 

 

 

9,989

 

Selling, general, and administrative expenses

 

 

 

37,925

   

 

 

9,151

   

 

 

7,250

   b

 

 

 

 

54,326

 

 

 

 

 

 

 

 

 

 

Total operating expenses

 

 

 

96,496

   

 

 

56,452

   

 

 

8,800

   

 

 

161,748

 

(Losses) income from operations

 

 

 

(16,625

)

 

 

 

 

(199

)

 

 

 

 

(8,800

)

 

 

 

 

(25,624

)

 

Interest expense, net

 

 

 

7,231

   

 

 

1,467

   

 

 

(3,793

)a

 

 

 

 

4,905

 

Other (expense) income

 

 

 

(769

)

 

 

 

 

226

 

 

 

 

 

 

(543

)

 

 

 

 

 

 

 

 

 

 

Net interest expense and other income

 

 

 

8,000

   

 

 

1,241

   

 

 

(3,793

)

 

 

 

 

5,448

 

 

 

 

 

 

 

 

 

 

Losses before income taxes

 

 

 

(24,625

)

 

 

 

 

(1,440

)

 

 

 

 

(5,007

)

 

 

 

 

(31,072

)

 

Provision for income tax (benefit) expense

 

 

 

(3,089

)

 

 

 

 

68

   

 

 

(1,702

)c

 

 

 

 

(4,723

)

 

 

 

 

 

 

 

 

 

 

Net income (loss) before minority interest

 

 

 

(21,536

)

 

 

 

 

(1,508

)

 

 

 

 

(3,305

)

 

 

 

 

(26,349

)

 

Minority interest expense (income)

 

 

 

   

 

 

(5

)

 

 

 

 

   

 

 

(5

)

 

 

 

 

 

 

 

 

 

 

Net (losses) income

 

 

$

 

(21,536

)

 

 

 

$

 

(1,503

)

 

 

 

$

 

(3,305

)

 

 

 

$

 

(26,344

)

 

 

 

 

 

 

 

 

 

 

Earnings per share—dilutive

 

 

$

 

(0.88

)

 

 

 

 

 

 

 

$

 

(0.90

)

 

Average shares outstanding—dilutive

 

 

 

24,379

 

 

 

 

 

 

 

 

29,322

 


 

 

(a)

 

 

 

We record interest to gross up related party notes of Winncom to maturity value of $17.0 million for Winncom which are subsequently extinguished. We record interest expense savings on $28.7 million of loans payable held by us and extinguished discussed in the section entitled “Use of Proceeds.” The $28.7 million consists of notes held by former employees of RNK of $19.4 million (per annum interest rate of 9%) and the senior secured notes held by Victory Park Capital of $9.3 (per annum interest rate of 36%) for a weighted average interest rate of approximately 17.7%. The following schedule illustrates interest expense “saved” in thousands:

 

 

 

Debt to be extinguished

 

$

Victory Park Loan (36% per annum interest + fees)

 

 

 

1,409

 

RNK Notes (9% per annum interest + fees)

 

 

 

1,754

 

Winncom related party notes

 

 

 

630

 

 

 

 

 

 

 

$

 

3,793

 

 

 

 

 

(b)

 

 

 

We will record the fair value expense of the 750,000 shares of restricted stock issued to Gregory Raskin pursuant to his employment agreement. These shares of restricted stock have an estimated fair market value of $10 per share, the midpoint of the price range at which we will offer our common stock in the proposed offering, an aggregate value of $7.5 million which will vest ratably over two years. In addition we will record a charge of $3.5 million in connection with our obligation to pay Mr. Bressman under his separation agreement and employment agreement.

 

(c)

 

 

 

We tax effect the net of the preceding adjustments at the statutory Federal corporate tax rate of 34%. We do not purport this to be our actual effective tax rate post consummation of the acquisition of Winncom.

 

(d)

 

 

 

We estimate that we will recognize on the post-acquisition balance sheet of Winncom approximately $9.3 million of intangibles representing the fair value of acquired customer lists/relationships and trademarks. These definite lived intangibles will be amortized over a weighted average basis of six years.

43


NON-GAAP FINANCIAL MEASURES

We use adjusted EBITDA as a principal indicator of the operating performance of our business as well as the relative performance of our operating segments. EBITDA represents net income before interest, taxes, depreciation and amortization. We define adjusted EBITDA as operating income (loss) before interest, taxes, depreciation and amortization expenses, excluding stock-based compensation expense, write-off of public offering costs, gain recognized on troubled debt restructuring, gain or loss on asset dispositions and other non-operating income or expense. In our presentation of segment financial results, adjusted EBITDA for a segment does not include corporate overhead expense and other centralized operating costs. We believe that adjusted EBITDA trends are a valuable indicator of our operating segments’ relative performance and of whether our operating segments are able to produce operating cash flow to fund working capital needs, to service debt obligations and to fund capital expenditures. Our management uses adjusted EBITDA as a measure of assessing our performance. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations.” We believe that, with a full understanding of its limitations, adjusted EBITDA provides useful information regarding how our management views our business. In addition, it allows analysts, investors and other interested parties in the telecommunications industry to facilitate company to company comparisons because it eliminates many differences caused by variations in capital structures (affecting interest expense), taxation and the age and book depreciation of facilities and equipment (affecting relative depreciation expense), as well as non-operating and one-time charges to earnings. As used in this prospectus, however, adjusted EBITDA may not be directly comparable to similarly titled measures reported by other companies due to differences in accounting policies and items excluded or included in the adjustments. Our calculation of adjusted EBITDA is not directly comparable to EBIT (earnings before interest and taxes) or EBITDA. In addition, adjusted EBITDA does not reflect:

 

 

 

 

our cash expenditures, or future requirements, for capital expenditures or contractual commitments;

 

 

 

 

changes in, or cash requirements for, our working capital needs;

 

 

 

 

our interest expense, or the cash requirements necessary to service interest or principal payments on our debts;

 

 

 

 

any cash requirements for the replacement of assets being depreciated and amortized, which will often have to be replaced in the future, even though depreciation and amortization are non-cash charges; and

 

 

 

 

the fact that other companies in our industry may calculate adjusted EBITDA differently than we do, which limits its usefulness as a comparative measure.

Adjusted EBITDA is not intended to replace operating income, net income and other measures of financial performance reported in accordance with GAAP. Rather, adjusted EBITDA is a measure of operating performance that you may consider in addition to those measures. Because of these limitations, adjusted EBITDA should not be considered as a measure of discretionary cash available to us to invest in the growth of our business. We compensate for these limitations by relying primarily on our GAAP results and using adjusted EBITDA only supplementally.

44


SELECTED HISTORICAL FINANCIAL DATA

The following table sets forth our selected historical consolidated financial data as of the dates and for the dates periods indicated. The selected historical consolidated financial data as of and for the years ended December 31, 2006, 2007, 2008 and 2009 have been derived from our audited consolidated financial statements included elsewhere in this prospectus. The selected historical consolidated financial data as of and for the year ended December 31, 2005 has been derived from our unaudited consolidated financial information not included elsewhere in this prospectus. Our historical results are not necessarily indicative of future performance or results of operations. You should read the information presented below together with “Unaudited Pro Forma Consolidated Financial Data,” “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the consolidated financial statements and related notes included elsewhere in this prospectus.

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended December 31,

 

2009

 

2008

 

2007

 

2006

 

2005

 

                 

(unaudited)

Operating revenues

 

 

 

79,871

   

 

 

78,455

   

 

 

35,403

   

 

 

18,552

   

 

 

2,677

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

Costs of goods sold (exclusive of depreciation
shown separately below)

 

 

 

51,588

   

 

 

43,205

   

 

 

22,143

   

 

 

11,996

   

 

 

991

 

Depreciation and amortization

 

 

 

6,983

   

 

 

6,658

   

 

 

1,986

   

 

 

1,047

   

 

 

450

 

Selling, general, and administrative expenses

 

 

 

37,925

   

 

 

20,795

   

 

 

14,199

   

 

 

6,958

   

 

 

2,182

 

 

 

 

 

 

 

 

 

 

 

 

Total operating expenses:

 

 

 

96,496

   

 

 

70,658

   

 

 

38,328

   

 

 

20,001

   

 

 

3,623

 

 

 

 

 

 

 

 

 

 

 

 

(Loss) income from operations

 

 

 

(16,625

)

 

 

 

 

7,797

   

 

 

(2,925

)

 

 

 

 

(1,449

)

 

 

 

 

(946

)

 

Interest expense, net

 

 

 

7,231

   

 

 

7,009

   

 

 

2,306

   

 

 

871

   

 

 

305

 

Other income (expense)

 

 

 

(769

)

 

 

 

 

312

   

 

 

3,496

   

 

 

(131

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net interest expense and other income

 

 

 

8,000

   

 

 

6,697

   

 

 

(1,190

)

 

 

 

 

1,002

   

 

 

305

 

(Loss) income before income taxes

 

 

 

(24,625

)

 

 

 

 

1,100

   

 

 

(1,735

)

 

 

 

 

(2,451

)

 

 

 

 

(1,251

)

 

Provision for income taxes

 

 

 

(3,089

)

 

 

 

 

2,309

   

 

 

(3,629

)

 

 

 

 

   

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss) income

 

 

 

(21,536

)

 

 

 

 

(1,209

)

 

 

 

 

1,894

   

 

 

(2,451

)

 

 

 

 

(1,251

)

 

 

 

 

 

 

 

 

 

 

 

 

Diluted EPS

 

 

$

 

(0.88

)

 

 

 

$

 

(0.06

)

 

 

 

$

 

0.07

   

 

$

 

(0.12

)

 

 

 

$

 

(0.07

)

 

Adjusted EBITDA

 

 

$

 

8,071

   

 

$

 

8,870

   

 

$

 

2,255

   

 

$

 

(389

)

 

 

 

$

 

(496

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended December 31,

 

2009

 

2008

 

2007

 

2006

 

2005

 

                 

(unaudited)

Balance Sheet Data:

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

 

$

 

1,995

   

 

$

 

1,598

   

 

$

 

1,111

   

 

$

 

256

   

 

$

 

42

 

Working capital

 

 

 

(25,794

)

 

 

 

 

(59,561

)

 

 

 

 

(51,064

)

 

 

 

 

(2,239

)

 

 

 

 

536

 

Total assets

 

 

 

95,605

   

 

 

90,885

   

 

 

90,430

   

 

 

9,170

   

 

 

3,491

 

Stockholders’ equity

 

 

$

 

(1,681

)

 

 

 

$

 

1,401

   

 

$

 

339

   

 

$

 

(8,321

)

 

 

 

$

 

(3,264

)

 

 

*

 

 

 

We define Adjusted EBITDA as operating income (loss) before interest, taxes, depreciation and amortization expenses, excluding stock-based compensation expense, write-off of public offering costs, gain recognized on troubled debt restructuring, gain or loss on asset dispositions and other non- operating income or expense. We use Adjusted EBITDA in our business operations to, among other things, evaluate the performance of our business, develop forecasts and measure our performance against those forecasts.

We believe that analysts and investors use Adjusted EBITDA as a supplementary measure to evaluate a company’s overall operating performance. However, Adjusted EBITDA has material limitations as an analytical tool and you should not consider Adjusted EBITDA in isolation, or as a substitute for analysis of our results as reported under GAAP. We believe that, with a full understanding of its limitations, adjusted EBITDA provides useful information regarding how our management views our business. In addition, it allows analysts, investors and other interested parties in the telecommunications industry to facilitate company to company comparisons because

45


it eliminates many differences caused by variations in capital structures (affecting interest expense), taxation, the life-cycle stage and “book basis” depreciation expense of facilities and equipment, as well as non-operating and one-time charges to earnings.

Adjusted EBITDA may not be directly comparable to similarly titled measures reported by other companies due to differences in accounting policies and items excluded or included in the adjustments. Our calculation of Adjusted EBITDA is not directly comparable to EBIT (earnings before interest and taxes) or EBITDA. In addition, Adjusted EBITDA does not reflect our cash expenditures, or future requirements, for capital expenditures or contractual commitments; changes in, or cash requirements for, our working capital needs; our interest expense, or the cash requirements necessary to service interest or principal payments our outstanding debt; any cash requirements for the replacement of assets being depreciated or amortized, which will often have to be replaced in the future, even though depreciation and amortization are non-cash charges; and the fact that other companies in our industry may calculate adjusted EBITDA differently than we do which limits its usefulness as a comparative measure. Adjusted EBITDA is not intended to replace operating income, net income and other measures of financial performance reported in accordance with GAAP. Rather, Adjusted EBITDA is a measure of operating performance that you may consider in addition to those measures. Because of these limitations, Adjusted EBITDA should not be considered as a measure of discretionary cash available to us to invest in the growth of our business. We compensate for these limitations by relying primarily on our GAAP results and using adjusted EBITDA as a supplementary measure.

Set forth below is a reconciliation of net (loss) income to EBITDA to Adjusted EBITDA for the periods presented.

 

 

 

 

 

 

 

 

 

 

Year ended December 31,

Reconciliation of net (loss ) income
to EBITDA to Adjusted EBITDA

 

2009

 

2009

 

2008

 

2007

 

 

Pro Forma

 

 

 

 

 

 

Net (loss) income

 

 

 

(26,344

)

 

 

 

 

(21,536

)

 

 

 

 

(1,209

)

 

 

 

 

1,894

 

Provision for income taxes & minority interest

 

 

 

(4,728

)

 

 

 

 

(3,089

)

 

 

 

 

2,309

   

 

 

(3,629

)

 

Other (expense) income

 

 

 

543

   

 

 

769

   

 

 

(312

)

 

 

 

 

(3,496

)

 

Interest expense, net

 

 

 

4,905

   

 

 

7,231

   

 

 

7,009

   

 

 

2,306

 

Depreciation and amortization

 

 

 

9,989

   

 

 

6,983

   

 

 

6,658

   

 

 

1,986

 

 

 

 

 

 

 

 

 

 

EBITDA

 

 

 

(15,635

)

 

 

 

 

(9,642

)

 

 

 

 

14,455

   

 

 

(939

)

 

Non-cash compensation and accretion

 

 

 

21,719

   

 

 

17,713

   

 

 

988

   

 

 

3,194

 

Gain on change in estimate for VFX

 

 

 

   

 

 

   

 

 

(6,573

)

 

 

 

 

 

Separation/termination costs for key employee

 

 

 

3,500

   

 

 

   

 

 

   

 

 

 

 

 

 

 

 

 

 

 

 

Adjusted EBITDA

 

 

$

 

9,584

   

 

$

 

8,071

   

 

$

 

8,870

   

 

$

 

2,255

 

 

 

 

 

 

 

 

 

 


 

 

(1)

 

 

 

A one-time favorable adjustment recorded pursuant to a rate change for calculating liabilities for virtual foreign exchange (“VFX”) traffic processed by other carriers through existing interconnection agreements, as amended.

 

(2)

 

 

 

Payments related to separation agreement with key employee, Andrew Bressman.

46


MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS

You should read the following discussion together with “Selected consolidated financial and operating data” and our consolidated financial statements and the related notes included elsewhere in this prospectus. This discussion contains forward-looking statements about our business and operations, based on current expectations and related to future events and our future financial performance, that involve risks and uncertainties. Our actual results may differ materially from those we currently anticipate as a result of many important factors, including the factors we describe under “Risk factors,” “Cautionary notice regarding forward-looking statements” and elsewhere in this prospectus.

Overview and Recent Developments

We were founded in 1999 and incorporated in the State of Delaware as Wave2Wave Communications, Inc. We provide communication services to small to mid-sized businesses in the northeast and midwest United States with a complete package of integrated products that includes wired and wireless broadband Internet access services, Voice over Internet Protocol, or VoIP, data, email hosting, point-to point connections, managed network services, collocation, virtual private networks, or VPNs, and web hosting. Through our wholly-owned subsidiary RNK Inc., d/b/a RNK Communications, or RNK, a competitive local exchange carrier (“CLEC”), we provide wholesale services, offering a range of voice and data “carrier class products” to other communications companies and to larger-scale purchasers of network capacity. Specifically, we offer domestic and international terminations, domestic origination with local access, long distance services, collocation, “800” toll free origination, conference calling capabilities and prepaid calling services.

We are currently in the process of testing our fourth generation, or 4G, based Hybrid Fiber-Wireless, or HFW, in-building network. We focus on selling to customers in multi-tenant office buildings (in-building) and to remote locations (stand-alone buildings). We currently have approximately 425 active Building Service Agreements, or BSAs, with building owners throughout New York, New Jersey, Illinois (Chicago), Connecticut and Pennsylvania (Philadelphia). Under these BSAs, we either pay the building owners monthly rent or a revenue share to allow us to sell throughout their buildings. The term of these BSAs are typically five to ten years in length, with automatic renewals.

On January 1, 2006, we acquired certain assets of Intellispace, expanding our footprint to nine states in the northeast United States. Intellispace provided a range of wired-based services to businesses via a fiber network.

On October 12, 2007, we acquired RNK Inc., d/b/a RNK Communications, providing us with the experience and capabilities of a fully regulated telephone company. Through this acquisition, we obtained a fully redundant telecommunications network and state-of-the-art switching facilities serving an expansive footprint.

With the acquisition of RNK and our January 2006 acquisition of the assets of Intellispace, Inc., we significantly expanded our suite of product offerings and service footprint making us a global full service communications provider.

For the years ended December 31, 2009, 2008 and 2007, we experienced operating losses of approximately $21.5 million, $1.2 million and net earnings of $1.9 million, respectively. As of December 31, 2009, we have an accumulated deficit of approximately $34 million. The net losses over the past several years primarily reflect material non-cash charges such as stock compensation, amortization expenses as well as interest expense which had cash and non-cash components.

We have consummated two business combinations since 2007 (Intellispace and RNK), both of which were funded with debt. We have outstanding debt obligations of approximately $68 million, with a weighted average interest rate of 11.2%. Additionally, as a result of acquiring two service businesses, we have acquired material intangible assets which have resulted in material amortization, which will continue over the next several years. Over the past three years, we have generated

47


significant operating losses driven primarily by stock compensation expense of $21.2 million, depreciation and amortization expense of $15.6 million and net interest expense of $16.5 million.

Our net losses are primarily the result of continuing efforts to grow the business through acquisitions, which were primarily funded by debt, resulting in significant amortization and interest expense charges. We have also had to modify our debt obligations numerous times and have had to issue derivative securities such as warrants and options to purchase shares of our common stock. These issuances are recorded as debt discount and amortized to interest expense and have been material as well.

We intend to use approximately $31 million of the proceeds of our proposed offering to retire our most expensive debt that carries a weighted average interest rate of 17.7%. There is no assurance that we will not continue to generate losses. In addition, we are seeking to “go public.” This process and the ongoing costs of being a public company will drive our selling, general and administrative expenses higher on an absolute and relative basis. We are also seeking to consummate an acquisition following the consummation of our proposed offering. Although we believe that the acquisition of Winncom will be accretive to shareholders in the long-term, we initially expect the acquisition to drive losses, primarily as a result of stock-based compensation charges, definite-lived intangibles amortization and post-acquisition integration costs.

On February 4, 2010, we entered into a stock purchase agreement to acquire privately-held Winncom Technologies Holding Limited, a company incorporated under Irish law. Unless otherwise stated or the context requires otherwise, references in this prospectus to “Winncom” refer to Winncom Technologies Holding Limited and its subsidiaries and affiliates. Pursuant to the stock purchase agreement, we will acquire 100% of the issued share capital of Winncom from the stockholders of Winncom, for an aggregate purchase price of $8,000,000 in cash and 2,357,019 shares of our common stock (as adjusted to reflect the 1-for-2 reverse stock split of our common stock effected on March 22, 2010), which represents approximately 7.5% of our issued and outstanding shares of common stock on a fully-diluted basis as of the date of this prospectus, subject to certain working capital adjustments to be determined within 120 days following the closing of the acquisition. Additionally, simultaneously with the closing, we will make a $17 million payment on behalf of Winncom to retire certain of Winncom’s currently outstanding debt.

The stock purchase agreement contains customary representations and warranties of each of Winncom and its stockholders and of us, with respect to, among other things, incorporation and existence, authorization and binding obligation, consents and approvals, no conflicts, legal proceedings, no brokers and other standard matters as appropriate.

The obligations of each party to consummate the acquisition are subject to the consummation of this offering, as well as certain customary closing conditions, including, but not limited to the following: (a) the existence of no injunctions or restraints that would prevent the consummation of the acquisition; (b) the receipt of all applicable requisite governmental approvals; (c) the certification by the chief financial officer of Winncom that the working capital of Winncom as of the closing date is at least $10 million; (d) the delivery by each party to the other party of a certificate to the effect that the representations and warranties of each party are true and correct in all respects as of the closing and all covenants contained in the agreement have been complied with by each party; and (e) execution and delivery of an escrow agreement.

Our obligations to consummate the transactions contemplated by the stock purchase agreement also are conditioned upon each of the following, among other things: (a) no material adverse change shall have occurred; (b) all requisite third party consents and approvals shall have been obtained; (c) all loans or advances made to Winncom’s employees shall have been repaid; (d) all indebtedness owed to or from the stockholders or their affiliates by or to Winncom shall have been repaid; and (e) receipt of a certificate from Winncom’s chief financial officer that the current assets to current liabilities ratio of Winncom is at least 1.25 to 1.0.

The representations, warranties, covenants and agreements in the stock purchase agreement will survive the closing until the later of such date that our consolidated 2010 audited financial statements have been filed with the Securities and Exchange Commission and 12 months after the closing date, with certain exceptions.

48


The stockholders of Winncom are obligated to indemnify us against losses in certain instances. With certain exceptions, claims for indemnification may be asserted by us once the damages exceed $300,000 and are indemnifiable for all losses in excess of $300,000. With certain exceptions, the aggregate liability for losses shall not exceed the amount of consideration for the Winncom shares in escrow for the satisfaction of indemnification obligations, consisting of $4 million of our common stock and $3 million in cash. The maximum losses payable with respect to any losses resulting from a breach or inaccuracy of the representations and warranties related to environmental matters and taxes is $2,000,000. Notwithstanding the foregoing, the limitations described above shall not apply to any claims arising from claims arising from fraud or willful misrepresentation.

We intend to consummate the acquisition immediately upon the closing of this offering. Concurrently with the consummation of this offering and the closing of the acquisition of Winncom, Gregory Raskin, the President and Chief Executive Officer of Winncom, will become our Chief Executive Officer, pursuant to an employment agreement that we entered into with Mr. Raskin on February 4, 2010. In addition, the stock purchase agreement is subject to termination by either party under certain circumstances, including if the closing has not occurred on or before May 30, 2010. We cannot assure you that we will consummate the Winncom acquisition on favorable terms or at all. We intend to use an aggregate of $25 million of the proceeds of this offering to acquire Winncom, consisting of $8 million payable as consideration to the stockholders of Winncom and $17 million payable for the retirement of certain of Winncom’s outstanding debt.

Winncom, headquartered in Solon, Ohio, and with a registered office in Dublin, Ireland, is a holding company with active, wholly-owned subsidiaries operating in the United States, Cyprus, Hungary, Ireland, Kazakhstan, Russia and Uzbekistan. Winncom is a worldwide distributor and provider of complete networking solutions, and specializes in the distribution of wired and wireless networking products as well as contract services that involve implementation and installation of wireless components and network solutions in support of both voice and data applications. Winncom has expertise in broadband wireless networking products and a full range of network infrastructure and access products by the leading industry manufacturers, allowing it to sell the products and provide complete solutions for various markets and applications. We believe that Winncom’s extensive experience and engineering resources will make it possible for us to identify, design and implement the most effective and economical turnkey solutions based on a combination of the latest technologies, which will give us the ability to manage and roll out our new 4G based HFW networks globally. With its world-wide presence, Winncom is able to provide pre-sale consulting and post-sale engineering support to its customers. It has a portfolio of successful wireless and networking deployments in countries located in North America, Eastern Europe, Commonwealth of Independent States, Far East and Central Asia. We expect that Winncom’s international presence will allow us the opportunity to expand our 4G based HFW network roll out worldwide and give our telephone business access to international markets, which would include interconnection agreements. Through Winncom’s relationships (both domestic and international), we believe that we will also be well positioned to capitalize on opportunities for our current product offerings and services.

We have entered into a Strategic Partnership Master Agreement with incNetworks®, under which we were granted an exclusive license to use, sell and market HFW networks and services incorporating incNetworks® proprietary underlying CelluLAN® technology, within an expansive list of multi-tenant buildings to be identified by the parties. incNetworks® has developed a next generation multi-megabit broadband Wireless Network Architecture that incorporates all specifications required for 4G Broadband Wireless Networks with an ability to interoperate with both 2G and 3G Wide Area Wireless Networks (a roaming or access agreement with a mobile carrier is needed, which we currently do not have) for a seamless handoff from within our building to outside of our building). Just as 1G cellular enabled symmetric or balanced transmission and reception of voice, 4G enables symmetric transmission and reception of HQ Voice, HD Video, and Broadband Data Services.

Following the completion of this offering and the acquisition of Winncom, we believe that we will be well positioned to launch next generation 4G capable wired and wireless broadband services. This will enable us to support in-building carrier-grade broadband wired and wireless services, including high speed Internet access, cell phone services, VoIP, HDTV applications, two-way multi-

49


session, multi-party video conferencing and more. We believe that we will be one of the first companies in the United States to offer in-building HFW networks.

In an exclusive partnership with incNetworks®, our management is committed to rolling out its first 4G based HFW networks in the United States during the first quarter of 2010 and expanding these services into hundreds of our buildings with which we currently have BSAs over the next several years. With throughput speeds of up to 1 GBit per second, our network will be able to support the delivery of very high bandwidth products such as high-definition video, high quality voice, symmetrical data download services, multi-user video conferencing, WiFi, and HDTV. We refer to this roll-out and implementation as Phase 1.

Phase 2 involves our entering into roaming and interconnection agreements with wireless and wired carriers, allowing their wireless customers to roam onto our network when they enter one of our buildings equipped with a 4G based HFW network. This would allow these wireless carriers to off load their traffic from their networks which are in need of additional capacity. In addition, to lessen traffic on wireless carriers’ networks, this would allow for targeted advertising and marketing opportunities to consumers within a specific area.

We intend to use the net proceeds of this offering, less payment of fees, the cash consideration for the acquisition of Winncom and the retirement of all debt as described in our “Use Of Proceeds” section of this prospectus for the rollout of our 4G based HFW network. Currently, management estimates that a building, averaging 250,000 square feet, can be upgraded, or lit, to a 4G based HFW network in 90 to 120 days at an estimated cost of approximately $1.78 per square foot. Installation costs include all equipment and related labor, which would be depreciated over a composite useful life of five years. We believe that this estimate is accurate given the information available at this time; but we cannot assure you that the cost to implement per square foot will not increase going forward.

Our deployment of 4G based HFW networks may not be completely successful due to any number of reasons. We may be unable to secure roaming agreements with wireless carriers for our Phase 2 activities which would make it extremely difficult for us to implement our business plan. In addition, we may be unable to implement the technology successfully or find that the technology is not “as advertised” with respect to performance. We may find that the cost of implementation exceeds the breakeven point of costs versus projected revenue or that potential subscribers are unwilling to pay the projected rates. Also, in the event that our partnership with incNetworks® ends or is reset at less favorable terms, we may lose the right to incorporate incNetworks®’ CelluLAN® technology into our 4G based HFW networks.

Our management expects that implementation of HFW networks in buildings will be rolled out in approximately ninety to one hundred twenty days with an approximate all-in installation cost of $1.78 per square foot. We currently have 425 buildings under existing service agreements, many of which have agreed, in principle, to be up-sold services associated with a HFW network. Upon full deployment, we expect gross margin, defined as revenues less direct costs of services, to be at or above approximately 50%, although we cannot assure you of this. Installation costs will be capitalized and depreciated over an estimate composite useful life of approximately five years. We are estimating a payback period of approximately three years on invested capital per building.

Current Business and Planned Expanded Offerings

As a broadband internet service provider, or ISP, and a CLEC (through our wholly-owned subsidiary RNK), we currently derive the majority of our revenue from providing network, carrier and subscriber services, as well as prepaid calling card fees. During the past year, we have begun to sell VoIP services to our retail customers and are in the process of planning the marketing of this service to our existing customer base and new subscribers.

Sources of Revenues

Our revenues can be split into wholesale (the CLEC-based business) and retail (Broadband services). For the years ended December 31, 2009 and 2008 revenue from two customers totaled

50


28% and 34% of our operating revenues, respectively. The concentration of these revenues for the years ended December 31, 2009 and 2008 were distributed as follows:

 

 

 

 

 

Customer

 

2009

 

2008

Verizon

 

 

 

19

%

 

 

 

 

19

%

 

T-Mobile

 

 

 

9

%

 

 

 

 

15

%

 

 

 

 

 

 

Total

 

 

 

28

%

 

 

 

 

34

%

 

For the year ended December 31, 2007 no single customer accounted for more than 10% of our revenues.

CLEC Revenues (Wholesale)

Access. Approximately 50% of our revenues are carrier access charges (including reciprocal compensation) billed pursuant to various interconnection agreements and state and federal tariffs, which are generated by RNK, our wholly-owned subsidiary and a certified CLEC. We provide local access numbers, switching, and transport to major customers that have large volumes of inbound traffic. Each time we complete a call from a non-subscriber line to a subscriber line, we bill the originating carrier at the appropriate rate, based the jurisdiction of the call.

Carrier. We provide, on a wholesale basis, a variety of carrier services, including international termination utilizing third-party international carriers as vendors, collocation services, domestic toll-free and local origination, and point to point circuits. Carrier services allow other carriers to send and receive traffic utilizing our switching and operations centers, points of presence, and vendor network. We believe that international and local termination fees are a growth area for our business and expect revenue growth and stable margins in our carrier revenues. Additionally, assuming our completion of the acquisition of Winncom, we believe that we will be able to leverage their relationships with several international carriers and give us an opportunity to handle some of their international phone traffic.

Prepaid. We offer our own prepaid products sold through convenience stores and national chain stores.

Although our CLEC business currently provides the bulk of our revenues, the competitive landscape of this particular business is undergoing change. We expect margins and revenues to decline in the foreseeable future due to increased rate regulation and less favorable traffic exchange agreement terms.

ISP Revenues (Retail)

Subscriber. Subscriber revenues are primarily derived from billing end user customers for data services. Currently, our data services include wired and to a lesser degree, fixed wireless broadband Internet access services, VoIP, email hosting, point-to point connections, managed network services, collocation, VPNs, and web hosting. Our broadband Internet access services currently provide the bulk of subscriber revenues, though recent reporting periods have shown a favorable shift towards higher margin services such as VoIP and SIP trunking, while also seeing revenues increase in the overall category.

We seek to expand our subscriber offerings to include higher margin services including, but not limited to 4G wireless connectivity, video, and video conferencing. In addition, we continue to focus on “up selling” our existing customer base to expand and/or switch to higher margin services that we currently offer such as VoIP. We are also increasing our focus to in-building sales, which tend to be more cost effective and generate higher margins as compared to remote sales. As subscriber revenues in general command higher margins and have better growth prospects, we will continue to attempt to increase subscriber revenues through more aggressive sales deployment, targeted marketing and potential joint ventures.

The two categories of our revenues are in different phases of the service life cycle, requiring different levels of investment and focus, and providing different contributions to the results of operations. We believe that growth in revenue from our broadband ISP business is critical to our

51


long-term success. At the same time, we believe we must continue to effectively manage the positive cash flows and results of our CLEC business by maintaining cost controls, focusing on execution and vigorously monitoring the increasingly unfavorable regulatory environment.

Planned Expanded Offerings

In addition, we continue to expand our services offered by focusing on development of revenue streams that will leverage our existing CLEC infrastructure. Some of our current and potential product/service offerings include, but are not limited to:

NOC Services. Network Operations Centers (“NOCs”) are the locations from which we control/manage/monitor our telecommunications network. Our NOC facilities and personnel represent a significant ongoing investment that we maintain in order to continue to provide world-class service to our customers and other carriers. Opportunities exist generate significantly more collocation revenue, i.e. “co-locating” external carriers’ equipment within our NOC and providing additional service including network security, maintenance, emergency service as well as standard cooling and physical security.

MyTempNumber®. As people continue to rely more on mobile phones than landlines, the privacy of an individual’s mobile telephone number has become a major concern. Social networking sites have seen exponential growth and the consumer is concerned about safety and privacy. In 2008, we launched the MyTempNumber® service. MyTempNumber® gives users the ability to add an additional temporary phone number which forwards to their current mobile telephone. This temporary number allows users to have increased privacy and security while participating in social networking sites, signing up for dating sites, or placing classified ads. Currently this product is available on the iPhone® App Store® and can be downloaded through Apple® iTunes® and iPhone and iPod touch® devices. MyTempNumber® is also available in the Nokia® OVI® store and can be downloaded on Series 60 3rd edition and 5th edition smart phones. This application has had some success in winning subscribers, without a significant targeted marketing/advertising effort.

SMS DIDs (Simple Messaging Service through Direct Inward Dialing). We are currently exploring an opportunity to enable our carrier DID’s to have SMS capability with two potential partners. We are currently negotiating the terms of an agreement to purchase SMS services from one of the two vendors with whom we were originally exploring these opportunities. This would give us the opportunity to compete with mobile operators by offering SMS capabilities via SMS enabled DIDs. We would be able to sell SMS DIDs to current customers at a premium as it would embrace a newer technology, with still unnumbered applications, married to a traditional and familiar plain old telephone service technology. Such an agreement would allow us to pair the vendor’s SMS services with the company’s DIDs and resell the bundled product offering to our customers.

The product and service offerings which are not, at the moment, operational but are, rather, aspirational are 4G wireless connectivity, video, video conferencing and SMS DIDs. In terms of discussions with potential SMS partners, we are currently negotiating the terms of an agreement to purchase SMS services from one of the two vendors with whom we were originally exploring these opportunities. Such an agreement would allow us to pair the vendor’s SMS services with our DIDs and resell the bundled product offering to our customers.

Factors Impacting Our Operating Results

We believe that our business and operating results will be affected by the following factors:

Increase minute volume on our network. We must continue to increase the minute volume on our network at acceptable prices in order to realize our targets for anticipated revenue growth, cash flow, operating efficiencies and the cost benefits of our network. If we do not maintain or improve our current relationships with existing customers, vendors and suppliers and leverage the infrastructure in place, we may not be able to sustain acceptable margins, which would adversely affect our ability to become and/or remain profitable.

Develop effective business support systems. Our business depends on our ability to continue to develop effective business support systems. In certain cases, the development of these business

52


support systems is required to realize our anticipated benefits from our acquisitions. This is a complicated undertaking requiring significant resources and expertise and support from third-party vendors.

Successful integration of acquired businesses. Our financial condition and growth depends upon the successful integration of our acquired or to be acquired businesses. We may not be able to efficiently and effectively integrate acquired operations, and accordingly may not fully realize the anticipated benefits from such acquisitions as Winncom. Achieving the anticipated benefits of the acquisitions that we have completed starting in January 2006 will depend in part upon whether we can continue to integrate our businesses in an efficient and effective manner.

General economic conditions and our ability to obtain financing or restructure our debt. We have historically relied on outside financing to fund our operations, capital expenditures and expansion. However, we may require additional capital from equity or debt financing in the future to fund our operations, or respond to competitive pressures or strategic opportunities. We may not be able to secure additional financing on favorable terms, or at all. The terms of additional financing may place limits on our financial and operating flexibility. The tightening credit markets have made available and attractively termed financing difficult to secure. We have approximately $70 million in debt and have, in the past, required extensions or been served with default notices. If we are unable to generate the requisite cash flows to stay out of default and service our debt adequately, it could have a material adverse effect on our results of operations, financial position and cash flows from operations. In addition, the tightening of the capital markets may make it impossible for us to obtain debt or equity financing to refinance our existing debt on attractive terms, or at all.

Dependence on a limited number of suppliers. Our CLEC business currently leases its transport capacity from a limited number of suppliers and is dependent upon the availability of transmission facilities owned by such suppliers. We are vulnerable to the risk of renewing favorable supplier contracts and timeliness of the supplier in processing our orders for customers, and are at risk related to regulation and regulatory developments that govern the rates to be charged to us and, in some instances, whether certain facilities are required to be made available to us. We have one major supplier, Verizon, that accounted for 24%, 35% and 28% of our costs of services for the years ended December 31, 2009, 2008, and 2007, respectively. We have no other major supplier that accounts for more than 10% of ours costs of services.

Revenue Classifications

Access. Approximately 48% of our revenues are carrier access charges (including reciprocal compensation) billed pursuant to various interconnection agreements and state and federal tariffs, which are generated by RNK, our wholly-owned subsidiary and a certified CLEC. We provide local access numbers, switching, and transport to major prepaid calling card providers, conference call service providers, and other entities that have large volumes of inbound traffic. Each time we complete a call from a non- subscriber line to a subscriber line, we bill the originating carrier at the appropriate rate, based on geographical jurisdiction. Although our CLEC business currently provides the bulk of our revenues, the competitive landscape of this particular business is undergoing significant change. We expect margins and revenues to decline in the foreseeable future due to increased rate regulation and less favorable traffic exchange agreement terms.

Carrier. We provide, on a wholesale basis, a variety of carrier services, including international termination utilizing third-party international carriers as vendors, collocation services, domestic toll-free and local origination, and point to point circuits. Carrier services allow other carriers to send and receive traffic utilizing our switching and operations centers, points of presence, and vendor network. We believe that international and local termination fees are a growth area for our business and expect revenue growth and stable margins in our carrier revenues.

Subscriber. Subscriber revenues are primarily derived from billing end user customers for data services. Currently, our data services include wired and wireless broadband Internet access services, VoIP, data, email hosting, point-to point connections, managed network services, collocation, VPNs, and web hosting. Our broadband Internet access services currently provide the bulk of subscriber revenues. We seek to expand our subscriber offerings to include higher margin services including,

53


but not limited to, 4G wireless connectivity, video, and video conferencing. In addition, we continue to focus on “up selling” our existing customer base to expand and/or switch to higher margin services that we currently offer such a VoIP and wireless Internet access.

Prepaid. In addition to providing services to major prepaid calling card providers, we also offer our own prepaid products sold through convenience stores and national chain stores.

Cost of Revenues Classifications

Network Usage. Network usage costs are direct variable per minute costs associated with terminating to or originating from third party networks for which we are the billed party.

Network Facilities. Network facilities costs are step-variable costs associated with leased circuits, collocation, bandwidth, and other components that connect our multiple switching sites to one another and to customers and vendors. These costs are typically monthly recurring amounts without a usage component.

Revenue Share. Revenue share costs represent two main items: the portion of access revenues shared with large customers to incentivize growth in traffic and amounts that represent the portion of subscriber revenues shared with building management companies for tenant access.

Salaries and Benefits. Direct salaries and benefits associated with production, including network engineering, provisioning, commissions and customer service are included in costs of goods sold. All other salaries and benefits are included in selling, general and administrative expenses.

Telecom Taxes and Fees. We collect and remit end-user telecom taxes and fees, including 911, state excise and sales taxes including Universal Service Funds, which are funds collected by the FCC used to support telecommunications services in rural and high cost areas and other rural programs, Telecommunications Relay Service fees (fully subsidized telephone services for hearing and speech disabled users) and other contributions and regulatory assessments.

Operating Expenses Classifications

Selling, General and Administrative Expenses. Our selling, general and administrative expenses include compensation, commissions, selling and marketing, customer service, billing, corporate administration, engineering personnel and other personnel costs. We have typically maintained our selling, general and administrative expenses as a percentage of revenues in the range between 20%-30%. However, there can be no assurance that we will be able to maintain this percentage given the additional costs that we will incur as a public company. As a public company, we will bear the expense of items including but not limited to: additional attestation costs related to quarterly reviews, quarterly reports, annual reports, proxy statements, and other SEC filings, as well as other costs related to compliance.

Interest Expense. Interest expenses consists of all material expenses that are recorded directly in connection with our various debt arrangements. These arrangements include: letters and lines of credit, term loans, related party notes, loan guarantees, bridge loans, short-term financing as well as routine bank services fees and finance charges. We incur additional interest cost as we have entered into multiple modifications of various loans and financing arrangements. In the course of seeking more favorable terms and/or extensions, we have issued additional consideration in the form of warrants to purchase shares of our common stock to induce creditors to enter into these amendments and modifications. These warrants issued in connection with debt modifications are recorded as additional debt discount and amortized to interest expense from the inception of the applicable amendment or modification until the maturity date (which may have been changed pursuant to an amendment) of the applicable financing arrangement.

Other Income. Other income consists of various non-recurring items that can vary in materiality with respect to their impact on our results of operations. Our largest other income item to date was a management fee that we charged to RNK during the year-to-date period ended October 12, 2007, the date of acquisition of RNK. This fee was settled as a positive purchase price adjustment for us.

54


Otherwise, other income consists of miscellaneous credits or expenses that are not part of our routine operations.

Critical Accounting Policies and Use of Estimates

Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates, judgments and assumptions that affect the reported amounts of assets and liabilities, contingent liabilities, and revenues and expenses during the reporting periods. We evaluate our estimates on an ongoing basis based on historical experience and other assumptions we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities. The policies discussed below are considered by our management to be critical because they are not only important to the portrayal of our financial condition and results of operations but also because application and interpretation of these policies require both judgment and estimates of matters that are inherently uncertain and unknown. As a result, actual results may differ materially from our estimates. See the notes to our consolidated financial statements for a summary of our significant accounting policies.

Revenue Recognition

We are a CLEC (through our wholly-owned subsidiary RNK), and a broadband Internet Service Provider. As such, we derive revenue from sales of our network, carrier, subscriber services, and prepaid calling card fees. We derive the majority of our revenue from monthly recurring fees and usage- based fees that are generated principally by sales of our network, carrier and subscription services.

Monthly recurring fees include the fees paid by our network and carrier services customers for lines in service and additional features on those lines. We primarily bill monthly recurring fees in advance, and recognize the fees in the period in which the service is provided.

Usage-based fees consist of fees paid by our network and carrier services customers for each call made, and fees paid by outside carriers when our switching facilities provide a connection between the outside carrier and the end user, i.e. “reciprocal compensation.” In addition, access fees are paid by outside carriers for long distance calls we originate or terminate for those outside carriers. These fees are billed in arrears and recognized in the period in which the service is provided.

Subscriber fees include monthly recurring fees paid by our end-user subscribers for lines in service, additional features on those lines, and usage-based per-call and per-minute fees. Subscriber fees also consist of provision of access to data, wireless, and VoIP services. These fees are billed in advance for monthly recurring items and in arrears for usage-based items, and revenues are recognized in the period in which service is provided.

Prepaid calling card fees are billed in advance based on the retail face value of the calling card, net of wholesale discounts, if applicable. Revenue is recognized as the card is used and service is provided to the end user.

Termination revenue is recognized when a customer discontinues service prior to the end of the contract period, for which we had previously received consideration. Termination revenue is also recognized when customers are required to make termination penalty payments to us to settle contractually committed purchase amounts that the customer no longer expects to meet or when a customer and we renegotiate a contract under which we are no longer obligated to provide services for consideration previously received.

We recognize revenue in accordance with GAAP, specifically ASC 605 “Revenue Recognition,” which requires satisfaction of the following four basic criteria before revenue can be recognized:

 

 

 

 

there is persuasive evidence that an arrangement exists;

 

 

 

 

delivery has occurred or services have been rendered;

55


 

 

 

 

the fee is fixed and determinable; and

 

 

 

 

collectability is reasonably assured.

We base our determination of the third and fourth criteria above on our judgment regarding the fixed nature of the fee we have charged for the services rendered and products delivered, and the prospects that those fees will be collected. If changes in conditions should cause us to determine that these criteria likely will not be met for some future transactions, revenue recognized for any reporting period could be materially adversely affected. Our management continually reviews and evaluates the collectability of revenues. For further information please see “Accounts Receivable and Allowance for Doubtful Accounts.”

Our management makes estimates of future customer credits and settlements, due to various disputes on pricing and other terms of the contracts, through the analysis of historical trends and known events. Provisions for customer credits and settlements are recorded as a reduction of revenue when incurred. Since any revenue allowances are recorded as an offset to revenue, any future increases or decreases in the allowances will positively or negatively affect revenue by the same amount.

Accounts Receivable and Allowance for Doubtful Accounts

We extend credit to certain customers, based upon credit evaluations, in the normal course of business, primarily with 30-60 day terms. Our reserve requirements are based on the best facts available to us and are reevaluated and adjusted as additional information is received. Our reserves are also based on amounts determined by using percentages applied to certain aged receivable categories. These percentages are determined by a variety of factors including, but not limited to, current economic trends, historical payment and bad debt write-off experience. Accounts are written off when they are deemed uncollectible. In some cases, we require deposits from our customers.

Our valuation allowance for uncollectible accounts receivable is designed to account for the expense associated with accounts receivable that we estimate will not be collected. We assess the adequacy of this allowance by evaluating general factors, such as the length of time individual receivables are past due, historical collection experience, and changes in the credit-worthiness of our customers. We assesses the ability of specific customers to meet their financial obligations to us and establish specific allowances based on the amount we expect to collect from these customers. If circumstances relating to specific customers change or economic conditions change such that our past collections experience and assessment of the economic environment are no longer appropriate, our estimate of the recoverability of our trade receivables could be impacted.

Impairment of Long-lived Assets

In accordance with the ASC 360 “Property, Plant, and Equipment” (the “PP&E Topic”), long-lived assets are periodically evaluated for potential impairment whenever events or changes in circumstances indicate that their carrying amount may not be recoverable. In the event that periodic assessments reflect that the carrying amount of the asset exceeds the sum of the undiscounted cash flows (excluding interest) that are expected to result from the use and eventual disposition of the asset, we would recognize an impairment loss to the extent the carrying amount exceeded the fair value of the property. We estimate the fair value using available market information or other industry valuation techniques such as present value calculations. No impairment losses were recognized for the years ended December 31, 2009, 2008 and 2007.

We recognize goodwill and other non-amortizing intangible assets in accordance with the requirements of ASC 350 “Intangibles—Goodwill and Other” (the “Topic”). Under this Topic, goodwill is recorded at its carrying value and is tested for impairment at least annually or more frequently if impairment indicators exist, at a level of reporting referred to as a reporting unit. We recognize goodwill in accordance with the requirements of the Topic and test the carrying value for impairment during the fourth quarter of each year. The goodwill impairment analysis is a two-step process. The first step used to identify potential impairment involves comparing each reporting unit’s estimated fair value to its carrying value, including goodwill. To estimate the fair value of its

56


reporting units, we use a discounted cash flow model and market comparable data. Significant judgment is required by management in developing the assumptions for the discounted cash flow model. These assumptions include cash flow projections utilizing revenue growth rates, profit margin percentages, discount rates and market/economic conditions. If the estimated fair value of a reporting unit exceeds its carrying value, goodwill is considered to not be impaired. If the carrying value exceeds estimated fair value, there is an indication of potential impairment and the second step is performed to measure the amount of impairment. The second step of the process involves the calculation of an implied fair value of goodwill for each reporting unit for which step one indicated a potential impairment. The implied fair value of goodwill is determined by measuring the excess of the estimated fair value of the reporting unit as calculated in step one, over the estimated fair values of the individual assets, liabilities and identified intangibles. No impairment losses were recognized for the years ended December 31, 2009, 2008 and 2007.

For the years ended December 31, 2009, 2008, and 2007, we determined that the one reporting unit identified for purposes of goodwill impairment had a fair value that was substantially in excess of carrying value.

Goodwill and Other Identified Intangible Assets

Goodwill represents the excess of cost over the fair value of net assets of businesses acquired. We test goodwill for impairment annually and whenever events or circumstances make it more likely than not that the fair value of a reporting unit has fallen below its carrying amount, such as a significant adverse change in the business climate. Determining whether an impairment has occurred requires valuation of the respective reporting unit, which we estimate using a discounted cash flow method. When available and as appropriate, we use comparative market multiples to corroborate discounted cash flow results. In applying this methodology, we rely on a number of factors, including actual operating results, future business plans, economic projections and market data.

Stock-Based Compensation

From time to time, we award employees of our company with equity awards pursuant to our equity incentive plans. These awards and their related cost are recognized over the period during which an employee is required to provide service in exchange for the award in accordance with ASC 718-10 “Stock Compensation” which we adopted effective January 1, 2006 under the modified prospective transition method.

Under ASC 718-10, stock based compensation cost will be recognized over the period during which an employee is required to provide service in exchange for the award. ASC 718-10 also requires an entity to calculate the pool of excess tax benefits available to absorb tax deficiencies recognized subsequent to adoption of ASC 718-10 (the “APIC pool”). We have evaluated our APIC pool and have determined that it was immaterial as of January 1, 2006. ASC 718-10 also amends ASC 230 “Cash Flows”, to require that excess tax benefits that had been reflected as operating cash flows be reflected as financing cash flows.

We also issue equity based instruments as non-employee compensation and as issuances related to various outstanding debt arrangements. These awards are measured at fair value in accordance with ASC 718-10 but recognized over different periods in accordance with ASC 505-50 “Equity—Equity- Based Payments to Non-Employees.”

The fair value of the common stock for the stock options granted during the years ended December 31, 2009, 2008, 2007 and 2006 were originally estimated by the board of directors, with input from management. We did not obtain contemporaneous valuations or an unrelated third-party specialist because, at the time of the issuances of stock options during this period, our efforts were focused on running the operations of the business and the financial and managerial resources for doing so were limited. In September of 2009 we engaged, for the first time, an independent third-party valuation specialist to assist us in measuring the fair value of our stock issued as compensation —on a retrospective basis for some stock issuances and contemporaneously for other stock issuances.

57


This third-party specialist was engaged to value, retrospectively, our common stock at December 31 of 2008, 2007 and 2006.

The 2008, 2007, and 2006 valuations were completed retrospectively and we believe that these valuations fall within “Level 2” of the fair value hierarchy. We believe that the December 31, 2009 valuations also fall within “Level 2” of the hierarchy.

Determining the fair value of our common stock requires making complex and subjective judgments. The approaches used to value our common stock included (i) discounted cash flow (DCF), (ii) guideline public company market approach and (iii) the guideline transaction (M&A) market approach. The DCF approach uses our estimates of revenue, driven by market growth rates and market participant expectations; and estimated costs as well as appropriate discount rates. These estimates are consistent with the plans and estimates that we use to manage our business. There is inherent uncertainty in making these estimates.

The independent, third-party valuations used the income and market approaches to estimate our enterprise value at each of the dates listed above. The income approach involves applying appropriate discount rates to estimated cash flows that are based on forecasts of revenue and costs. Our revenue forecasts are based on expected annual growth rates that were derived from our historical revenue growth, our internal forecasts and from market participant data. We also considered estimates of market growth published by certain independent market research organizations. In the income approach, we projected that our revenue would increase due to (i) the growth of our Intellispace business, (ii) the acquisition of RNK, (iii) expansion of our telephony services, and (iv) an increase in our market share. We also estimated that our costs would grow. There is inherent uncertainty in these estimates. The assumptions underlying the estimates are consistent with our business plan. The risks associated with achieving our forecasts were assessed in selecting the appropriate discount rates. If different discount rates had been used, the valuations would have been different. The estimates used in the income approach varied with each valuation date due to the changes in our business operations resulting from our RNK acquisition and due to changes in market participant data and changes within the telecommunications industry and the economy.

The valuation specialist also utilized the market approach by utilizing the guideline public company method and the guideline transaction method. These methods use direct comparisons to other enterprises and their equity securities to estimate the fair value of the common shares of privately issued securities and are described further below.

The market approach references actual transactions in the equity of the enterprise being valued or transactions in similar enterprises that are traded in the public markets. Third-party transactions in the equity of an enterprise generally represent the best estimate of fair market value if they are done at arm’s length. In using transactions from similar enterprises, there are two primary methods. The first, often referred to as the Guideline Transactions Method, involves determining valuation multiples from sales of enterprises with similar financial and operating characteristics and applying those multiples to the subject enterprise. The second, often referred to as the Guideline Public Company Method, involves identifying and selecting publicly traded enterprises with financial and operating characteristics similar to the enterprise being valued. Once publicly traded enterprises are identified, valuation multiples can be derived, adjusted for comparability, and then applied to the subject enterprise to estimate the value of its equity or invested capital.

As part of the Guideline Public Company Method, public companies were selected that were reasonably comparable to our company, and the valuation indications from these comparable companies’ market capitalization were analyzed. Based upon research of the relevant industry and management insights with respect to our competitors, the population of possible guideline companies was analyzed and those that were selected were considered to be the most comparable to us in terms of business operations, size, stage of development, prospects for growth, and risk. From the analysis of the guideline public companies, the value of invested capital and value of equity were calculated for each guideline company. Those metrics were then used to calculate various valuation multiples.

58


Some or all of these multiples were then applied to our results of operations, including operating revenues, EBITDA, EBIT and adjusted EBITDA (a non-GAAP measure for which reconciliations from GAAP measures are provided). In cases where we did not have positive results for EBITDA or EBIT, the analysis relied on projected results.

There is inherent uncertainty in making estimates of value by utilizing the Guideline Public Company Method. If different guideline public companies were chosen in the analysis, the valuation using this method would have been different. The guideline public companies used in each estimate varied with each valuation date due to the changes in our operations related to our RNK acquisition of 2007 and other changes to our enterprise and changes in the industry. These different choices in guideline public companies resulted in different multiples and different values. The relative size and growth of our company and the guideline public companies may render valuation multiples more or less useful, and the multiples may or may not require adjustment. Smaller companies generally have lower pricing multiples than larger ones. When comparing companies, higher growth rates tend to increase value. The analysis did include adjustments for size and growth and these adjustments did require making complex and subjective judgments. If different size and growth adjustments were made in the analysis or if no size and growth adjustments were made, the valuations using this method would have been different.

As part of the Guideline Transactions Method, an analysis was completed where reference was made to recent transactions in the marketplace for which there was relevant financial data available, and which could be considered reasonably comparable to us. In order to identify relevant market transactions that were reasonably comparable to us, the analysis entailed searching several databases and having multiple internal discussions. This analysis and search resulted in the selection of a number of specific transactions where the acquired company appeared to be somewhat comparable to us in terms of business operations, size, stage of development, prospects for growth, and risk. Valuation multiples were calculated for each of the transactions and then applied to our operating results and other financial metrics.

There is inherent uncertainty in making estimates of value by utilizing the Guideline Transaction Method. If different transactions were chosen in the analysis, the valuation using this method would have been different. The transactions used in each estimate varied with each valuation date due to the changes in the operations whether due to significant acquisitions, other changes to our enterprise, and the date of valuation. These different choices in transactions resulted in different multiples and different values. We are a unique company, and a guideline transaction of a precisely similar enterprise in the marketplace was not observable, which may render this method less reliable than another method as a result.

Enterprise value of the entire company, or enterprise, was determined as a weighted average of valuations derived from the following valuation approaches: 1) income approach, specifically discounted cash flows (“DCF”) and 2) market approaches.

DCF applies a discount rate to projected/estimated cash flows of the enterprise based on forecasts of revenues and costs. These forecasts incorporate management’s estimates and assumptions as well as available market participant data. Application of different discount rates or growth assumptions with respect to revenues and costs can result in materially different estimates of enterprise value.

When applying market approaches, we estimated enterprise value by using the “Guideline Public Company Method” (“Guideline Method”) and the “Merger and Acquisition Method” (“M&A Method”) The Guideline Method estimates valuation based on analysis of public companies that are similar to us and then applies pricing multiples on GAAP measures such as revenues, EBIT, EBITDA, other measures and/or some combination thereof to determine an estimated enterprise value. The M&A method uses a similar pricing multiple based approached but derives its “comparables” from recently effected merger/business combination transactions between business entities that are similar to us. Every enterprise is unique and often times application of these methods results in comparing companies that are similar but, of course, not identical.

We generated different enterprise values based on the DCF, Guideline and M&A methods. It then weighted each valuation based on management’s judgment as to which approach had more or

59


less utility with respect to valuation of our enterprise and its underlying businesses. Accordingly, we weighted the enterprise value determined by our application of the DCF method heavier than the valuations derived with the market-based approaches when determining overall enterprise value.

The enterprise value was then allocated to our capital structure using the probability weighted expected return method. Under this method, the value of an enterprise’s common stock is estimated based upon an analysis of future values for the company assuming various possible future liquidity events: IPO, strategic sale or merger, dissolution, and private enterprise (no liquidity event).

The following table presents selected information about options granted in 2009 by grant date:

 

 

 

 

 

 

 

 

 

Grant
Month

 

Shares
Underlying
Options
Granted (#)

 

Exercise
Price per
Share ($)

 

Common Stock
Fair Value
per Share
for Financial
Reporting
Purpose at
Grant Date ($)

 

Intrinsic
Value
per share ($)

May-09

 

 

 

25,000

   

 

$

 

0.02

   

 

$

 

4.26

   

 

$

 

4.20

 

Nov-09

 

 

 

1,711,934

   

 

 

0.36

   

 

 

7.60

   

 

 

7.24

 

 

 

 

 

 

 

 

 

 

 

 

 

1,736,934

   

 

$

 

0.36

   

 

$

 

7.55

   

 

$

 

7.20

 

The following table presents selected information about the intrinsic value of options outstanding, vested and unvested, as of December 31, 2009, based on the midpoint of the price range of the offering, or $10.00 per share:

 

 

 

 

 

 

 

Shares
Underlying
Options
Granted (#)

 

Exercise
Price per
Share ($)

 

Intrinsic
Value
per share ($)

 

Total
Intrinsic
Value ($)

 

940,250

   

 

$

 

0.02

   

 

$

 

9.98

   

 

$

 

9,383,695

 

 

 

1,500

   

 

 

0.20

   

 

 

9.80

   

 

 

14,700

 

 

70,832

   

 

 

0.06

   

 

 

9.94

   

 

 

704,070

 

 

 

1,711,934

   

 

 

0.36

   

 

 

9.64

   

 

 

16,503,044

 

 

 

 

 

 

 

 

 

2,724,516

   

 

$

 

0.23

   

 

$

 

9.77

   

 

$

 

26,605,509

 

Fair Value Measurements

ASC 820 “Fair Value Measurements and Disclosures”, (the “Fair Value Topic”) requires disclosure of fair value of financial instruments, whether or not recognized on the face of the balance sheet, for which it is practical to estimate that value. The Fair Value Topic defines fair value as the quoted market prices for those instruments that are actively traded in financial markets. In cases where quoted market prices are not available, fair values are estimated using present value or other valuation techniques. The fair value estimates are made at the end of each year based on available market information and judgments about the financial instrument, such as estimates of timing and amount of expected future cash flows. Such estimates do not reflect any premium or discount that could result from offering for sale at one time our entire holdings of a particular financial instrument, nor do they consider that tax impact of the realization of unrealized gains or losses. In many cases, the fair value estimates cannot be substantiated by comparison to independent markets, nor can the disclosed value be realized in immediate settlement of the instrument.

The Fair Value Topic establishes a framework for measuring fair value in generally accepted accounting principles and establishes a hierarchy that categorizes and prioritizes the sources to be used to estimate fair value as follows:

Level 1—defined as observable inputs such as quoted prices in active markets;

Level 2—inputs include quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability (interest rates, yield curves, etc.), and inputs that are derived principally from or corroborated by observable market data by correlation or other means (market corroborated inputs); and

60


Level 3—unobservable inputs that reflect our determination of assumptions that market participants would use in pricing the asset or liability. These inputs are developed based on the best information available, including the Company’s own data.

We adopted the Fair Value Topic as of January 1, 2008 as it applies to financial instruments.

Income Taxes

Our annual tax rate is based on our income, statutory tax rates and tax planning opportunities available to us in the various jurisdictions in which we operate. Tax laws are complex and subject to different interpretations by the taxpayer and respective governmental taxing authorities. Significant judgment is required in determining our tax expense and in evaluating our tax positions, including evaluating uncertainties under ASC 740-10-25-5 “Income Taxes—Overall—Recognition—Basis Recognition Threshold” (the “Tax Position Topic”). We review our tax positions annually and adjust the balances as new information becomes available. Our income tax rate is significantly affected by the tax rates throughout the multiple state jurisdictions with which we have established nexus.

Differences between the financial statement and tax bases of assets and liabilities, together with net operating loss carry forwards and tax credits are recorded as deferred tax assets or liabilities on the consolidated balance sheets. Deferred income tax assets represent amounts available to reduce income taxes payable on taxable income in future years. We evaluate the recoverability of these future tax deductions and credits by assessing the adequacy of future expected taxable income from all sources, including reversal of taxable temporary differences, forecasted operating earnings and available tax planning strategies. These sources of income inherently rely heavily on estimates. We use our historical experience and our short and long-range business forecasts to provide insight. To the extent we do not consider it more likely than not that a deferred tax asset will be recovered, a valuation allowance is established.

A valuation allowance is provided when it is considered more likely than not that deferred tax assets will not be realized. Due to our state tax filing position, we have provided a valuation allowance for a portion of the state tax deferred tax assets at December 31, 2009 and 2008. Due to the October 12, 2007 acquisition of RNK, we had released the federal valuation allowance on the deferred tax assets of approximately $4.0 million dollars as of December 31, 2007.

In forming this assessment, we considered the weight of available positive evidence, particularly that which was the most objectively verifiable, including the cumulative profits in recent years of RNK. The acquisition of this profitable business entity provided a source of taxable income that has triggered the realization of our federal deferred tax assets. This has been demonstrated by our ability in recent years to begin utilizing the net operating loss carryforwards generated by us. Although we incurred a consolidated pre-tax loss of $24.6 million for 2009, the taxable loss was only $4 million. A significant portion of the loss, approximately $17 million, was attributable to stock based compensation related to the executive employment agreements entered into prior to our proposed offering. Based on the prior two years average of consolidated taxable income of approximately $2.2 million, we would utilize its net operating losses over five years based on historical trends.

In addition, management forecasts that with current business growth and future business strategies, our projected earnings will be sufficient enough to recover losses generated by us before they begin to expire. One of the key drivers to these projections is the anticipated revenue growth from the deployment of our 4G HFW in-building networks as well as continued growth in our subscriber revenue streams. A moderate, 3–5% increase in revenues, inclusive of a slight shift from the lower margin carrier and legacy subscriber businesses to provision of 4G based networking technologies would assure the ability to fully realize the existing NOLs. If we returned to 2008 or 2007 levels of taxable income, which management believes is more likely than not, we would still be able to generate sufficient taxable income to fully utilize existing NOLs estimated within four or five years. Accordingly, management concluded that a valuation allowance against our federal deferred tax assets was no longer necessary.

61


Management forecasts that, based on historical trends, our future earnings will be sufficient enough to recover the losses generated by us before they begin to expire. Accordingly, management concluded that a valuation allowance against our federal deferred tax assets was no longer necessary.

At December 31, 2009 and 2008, we had federal net operating loss carryforwards of approximately $23.0 million and $7.0 million, respectively which begin to expire in 2022. At December 31, 2009 and 2008 we had state net operating loss carryforwards of approximately $45.0 million and $22.4 million, respectively, which begin to expire in 2019.

In 2007, we adopted the Tax Position Topic. This interpretation clarifies the accounting for uncertainty in income taxes recognized in a company’s financial statements in accordance with ASC 740, “Income Taxes.” The Tax Position topic details how companies should recognize, measure, present and disclose uncertain tax positions that have or are expected to be taken. As such, financial statements will reflect expected future tax consequences of uncertain tax positions presuming the taxing authorities’ full knowledge of the position and all relevant facts.

Business Combinations

We account for the purchase of a business pursuant to ASC 805 “Business Combinations” by allocating the purchase price to the assets acquired and the liabilities assumed in the transaction at their respective estimated fair values. The most difficult estimations of individual fair values are those involving long-lived assets, such as property and equipment and intangible assets. We use available information to make these fair value determinations such as estimated fair values using quoted market prices, when available, or using present values determined at appropriate current interest rates. When necessary we engage independent valuation specialists to assist in the fair value determination of the acquired long-lived assets. Because of the inherent subjectivity associated with estimating the fair value of long-lived assets, we believe that the recording of assets and liabilities acquired in conjunction with the acquisition of a business is a critical accounting policy. Consideration not in the form of cash is measured based upon the fair value of the consideration given.

Results of Operations

Within this “Results of Operations” section, we disclose results of operations on both an “as reported” and a “pro forma” basis. The reported results are not necessarily representative of our ongoing operations as RNK’s results are included only for the period of time after the October 12, 2007 closing date of the acquisition of RNK. Prior to that date, the reported results reflect only the results of Wave2Wave prior to the acquisition of RNK. Therefore, to facilitate an understanding of our trends and on-going performance, we have presented pro forma results in addition to the reported results. The pro forma results include the RNK operations for 2007 and 2006, as adjusted for certain pro forma purchase accounting adjustments and other non-recurring charges, and give effect to the transactions as though the closing had occurred as of January 1, 2007. A comparison of the RNK results of operations for 2007 and 2006 as a standalone entity follows the pro forma results within this “Results of Operations” section. Finally, a reconciliation of pro forma amounts to reported amounts has been included under the heading “Pro Forma Reconciliation.”

62


As Reported Results—Year ended December 31, 2009 compared to year ended December 31, 2008

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended December 31,

 

2009 vs 2008

 

2009

 

% of Net
revenues

 

2008

 

% of Net
revenues

 

$ Change

 

% Change

Operating revenues

 

 

 

79,871

   

 

 

100.0

%

 

 

 

 

78,455

   

 

 

100.0

%

 

 

 

 

1,416

   

 

 

1.8

%

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

Costs of goods sold (exclusive of depreciation shown separately below)

 

 

 

51,588

   

 

 

64.6

%

 

 

 

 

43,205

   

 

 

55.1

%

 

 

 

 

8,383

   

 

 

19.4

%

 

Depreciation and amortization

 

 

 

6,983

   

 

 

8.7

%

 

 

 

 

6,658

   

 

 

8.5

%

 

 

 

 

325

   

 

 

4.9

%

 

Selling, general, and administrative
expenses

 

 

 

37,925

   

 

 

47.5

%

 

 

 

 

20,795

   

 

 

26.5

%

 

 

 

 

17,130

   

 

 

82.4

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating expenses

 

 

 

96,496

   

 

 

120.8

%

 

 

 

 

70,658

   

 

 

90.1

%

 

 

 

 

25,838

   

 

 

36.6

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from operations

 

 

 

(16,625

)

 

 

 

 

-20.8

%

 

 

 

 

7,797

   

 

 

9.9

%

 

 

 

 

(24,422

)

 

 

 

 

-313.2

%

 

Interest expense, net

 

 

 

7,231

   

 

 

9.1

%

 

 

 

 

7,009

   

 

 

8.9

%

 

 

 

 

222

   

 

 

3.2

%

 

Other income (expense)

 

 

 

(769

)

 

 

 

 

-1.0

%

 

 

 

 

312

   

 

 

0.4

%

 

 

 

 

(1,081

)

 

 

 

 

-346.5

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net interest expense and other income

 

 

 

8,000

   

 

 

10.0

%

 

 

 

 

6,697

   

 

 

8.5

%

 

 

 

 

1,303

   

 

 

19.5

%

 

(Loss) income before income taxes

 

 

 

(24,625

)

 

 

 

 

-30.8

%

 

 

 

 

1,100

   

 

 

1.4

%

 

 

 

 

(25,725

)

 

 

 

 

-2,338.6

%

 

Provision for income taxes

 

 

 

(3,089

)

 

 

 

 

-3.9

%

 

 

 

 

2,309

   

 

 

2.9

%

 

 

 

 

(5,398

)

 

 

 

 

-233.8

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss) income

 

 

 

(21,536

)

 

 

 

 

-27.0

%

 

 

 

 

(1,209

)

 

 

 

 

-1.5

%

 

 

 

 

(20,327

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Adjusted EBITDA

 

 

$

 

8,071

 

 

 

 

 

$

 

8,870

 

 

 

 

 

 

 

Revenue. Our revenues increased $1.4 million or 1.8% to $79.9 million for the year ended December 31, 2009, from $78.5 million for the year end December 31, 2008, due primarily to a modest increase in subscriber revenue and higher minute volume, partially offset by lower per-minute rates. In 2009, in accordance with GAAP, we also recorded against revenue an adverse settlement with a customer over disputed prior period revenues/billings. This settlement of approximately $3.0 million is non-recurring in nature. Subscriber revenues increased moderately, although our revenue mix shifted favorably away from lower margin broadband services to higher margin VoIP and in-building services and other revenues typically related to activation.

In previous periods our wholly-owned subsidiary, RNK, a CLEC, charged higher per minute rates to originating carriers through its reciprocal compensation agreements and state and federal tariffs (access revenues) than it has been able to obtain in more recent periods. The majority of the rate reductions have been related to wireless and intrastate long-distance calling. Excluding the effect of the non-recurring charge of $3.0 million noted above, we believe that revenues and gross margins related to the access revenues of the CLEC business will continue to decline for the foreseeable future. We had several favorable adjustments during 2008 that were non-recurring in nature and presented margins that were unsustainable. We believe that our 2009 results of operations (normalized for the impact of the $3.0 million charge to revenues) presents an unsustainable view of our margins going for our CLEC business. We expect margins and revenues to decline in the foreseeable future due to increased rate regulation and less favorable traffic exchange agreement terms.

Costs Of Goods Sold. Our costs of goods sold increased $8.4 million, or 19.4%, to $51.6 million for the year ended December 31, 2009, from $43.2 million for the year ended December 31, 2008, due primarily to a favorable non-recurring adjustment to our results in fiscal year 2008 in accrued expenses related to our VFX liability, which increased 2008 gross margins above previous levels. In 2009, we continued to incur costs of services to certain non-paying carriers that terminate traffic to our network. We are unable to disconnect these carriers due to the prevailing public policy concerns related to the ubiquity of the national telephone network. Such considerations, as detailed by the FCC, substantially prevent common carriers from blocking communications between telephone customers as a result of intercarrier billing disputes between two carriers. Carriers that resort to

63


“self-help” and block traffic as a result of payment disputes do so at their own risk and may face regulatory sanctions and legal action.

Depreciation and Amortization Expense. Depreciation and amortization expense increased $0.3 million, or 4.9%, to $7.0 million for the year ended December 31, 2009, from $6.7 million for the year ended December 31, 2008, due primarily to the amortization of loan closing costs offset partially by lower intangibles amortization. Depreciation and amortization consists mainly of depreciation of fixed assets and amortization of definite lived intangibles that were recognized pursuant to the acquisitions of Intellispace and RNK in 2006 and 2007, respectively. We amortize these intangibles over their estimated useful life and test for impairment on annual basis. We record depreciation and amortization of all definite lived assets on a straight-line basis

Selling, General, and Administrative Expenses. Our selling, general and administrative expenses increased $17.1 million to $37.9 million or 82.4% for the year ended December 31, 2009, from $20.8 million for the year ended December 31, 2008, due primarily to $17.0 million for stock compensation expense as well as increases in professional fees. Stock compensation expense was driven primarily by accelerated vests on various grants. We expect stock compensation expense to decrease considerably going forward.

We believe, with the exception of stock-based compensation, that selling, general and administrative expenses will increase on an absolute and relative basis due to our increased size after the successful consummation of the offering, the proposed acquisition of Winncom and an increase in costs due to being a public company. We also expect to incur material non-recurring costs with respect to post-acquisition integration and the direct expensing of substantially all professional fees related to the offering.

On an ongoing basis, we expect to incur costs associated with being a public company including, but not limited to, implementation and maintenance of Section 404 of the Sarbanes-Oxley Act of 2002, directors and officers insurance, the cost of Securities and Exchange Commission filings including Forms 10-K, 10-Q, 8-K, proxy statements and others as well investor relations, annual meetings of shareholders, listing and other exchange related fees, board of directors compensation and potentially higher headcount.

With respect to compliance with Section 404 of the Sarbanes-Oxley Act (“SOX 404”), we estimate the costs of the assessment of internal controls and implementation and remediation of internal controls thereof at approximately $450,000. We estimate ongoing maintenance, improvement, documentation and testing of our internal controls through the use of internal resources and external consultants to be approximately $115,000 on per annum. Ongoing integrated audit fees specifically related to attestation of internal controls we estimate to be roughly $200,000 on annual basis. There can be no guarantee that the cost of implementing and maintain compliance with SOX 404 will not be materially higher.

We estimate that the incremental burden of costs associated with being a public company and that of company traded on a national exchange to be on average approximately $2.3 million per annum. There can be no guarantee that the cost will not be materially higher.

Interest Expense. Interest expense increased $0.3 million or 3.2% for the year end December 31, 2009, from $7.0 million for the year end December 31, 2008, primarily due to a higher effective interest rate on a weighted average basis of our debt obligations, high debt discount amortization which were partially offset by the recognition of a deferred gain on a favorable debt modification with respect to our notes held by the former owners of RNK, our wholly-owned subsidiary. We expect interest expense to decrease significantly as we expect to retire debt with a principal carrying value of $29.6 million with a weighted average interest rate of 17.7%.

Other Income. Other income decreased $1.1 million to a loss of $ 0.8 million for the year ended December 31, 2009 from the year ended December 31, 2008. The decrease was driven primarily by a loss on extinguishment of debt whereupon we wrote down $1.1 million of debt discount upon the assignment of $38.7 million of notes payable by us from one creditor, Greystone, to another, the Wilmington Trust Company and G. Jeff Mennen, a related party.

64


Income Taxes. Income tax benefit of $3.1 million increased $5.4 million for the year ended December 31, 2009, from an income tax expense of $2.3 million for the year ended December 31, 2008. The income tax benefit resulted from the recognition of deferred tax assets related to the acquisition of RNK offset against our net operating losses carried forward. This benefit was non-recurring in nature.

As Reported Results—Year ended December 31, 2008 compared to year ended December 31, 2007

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended December 31,

 

2008 vs 2007

 

2008

 

% of Net
revenues

 

2007

 

% of Net
revenues

 

$ Change

 

% Change

Operating revenues

 

 

 

78,455

   

 

 

100.0

%

 

 

 

 

35,403

   

 

 

100.0

%

 

 

 

 

43,052

   

 

 

121.6

%

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

Costs of goods sold (exclusive of depreciation shown separately below)

 

 

 

43,205

   

 

 

55.1

%

 

 

 

 

22,143

   

 

 

62.5

%

 

 

 

 

21,062

   

 

 

95.1

%

 

Depreciation and amortization

 

 

 

6,658

   

 

 

8.5

%

 

 

 

 

1,986

   

 

 

5.6

%

 

 

 

 

4,672

   

 

 

235.2

%

 

Selling, general, and administrative expenses

 

 

 

20,795

   

 

 

26.5

%

 

 

 

 

14,199

   

 

 

40.1

%

 

 

 

 

6,596

   

 

 

46.5

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating expenses

 

 

 

70,658

   

 

 

90.1

%

 

 

 

 

38,328

   

 

 

45.7

%

 

 

 

 

32,330

   

 

 

86.4

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from operations

 

 

 

7,797

   

 

 

9.9

%

 

 

 

 

(2,925

)

 

 

 

 

54.3

%

 

 

 

 

10,722

   

 

 

(366.6

)%

 

Interest expense

 

 

 

7,009

   

 

 

8.9

%

 

 

 

 

2,306

   

 

 

6.5

%

 

 

 

 

4,703

   

 

 

203.9

%

 

Other (expense) income

 

 

 

312

   

 

 

0.4

%

 

 

 

 

3,496

   

 

 

9.9

%

 

 

 

 

(3,184

)

 

 

 

 

-91.1

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net interest expense and other income

 

 

 

6,697

   

 

 

8.5

%

 

 

 

 

(1,190

)

 

 

 

 

-3.4

%

 

 

 

 

7,887

 

 

 

(Loss) income before income taxes

 

 

 

1,100

   

 

 

1.4

%

 

 

 

 

(1,735

)

 

 

 

 

57.6

%

 

 

 

 

2,835

   

 

 

(163.4

)%

 

Provision for income taxes

 

 

 

2,309

   

 

 

2.9

%

 

 

 

 

(3,629

)

 

 

 

 

-10.3

%

 

 

 

 

5,938

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss) income

 

 

 

(1,209

)

 

 

 

 

-1.5

%

 

 

 

 

1,894

   

 

 

67.9

%

 

 

 

 

(3,103

)

 

 

 

 

(163.8

)%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Adjusted EBITDA

 

 

$

 

8,870

 

 

 

 

 

$

 

2,255

 

 

 

 

 

 

 

Revenue. Our revenues increased $43.1 million, or 121.6%, to $78.5 million for the year ended December 31, 2008 from $35.4 million for the year ended December 31, 2007 due primarily to the full year effect of the acquisition of RNK and to a lesser degree, stronger overall subscriber revenue associated with higher broadband and VoIP sales. This increase was partially offset by lower fixed wireless activity.

Costs Of Goods Sold. Our costs of goods sold increased $21.1 million, or 95.1%, to $43.2 million for the year ended December 31, 2008 from $22.1 million for the year ended December 31, 2007 due primarily to the acquisition of RNK. We recorded favorable adjustments in 2008 related to VFX which were non-recurring in nature and temporarily increased our gross margins. These margins will moderate to lower and more sustainable levels going forward. Excluding the effect of non-recurring adjustments related to VFX, gross margins would have been 36.6% compared to 37.5% with respect to the same period in 2007. Subscriber revenue related costs of services were more favorable compared to the prior period as revenues shifted to a more favorable mix of services with respect to higher margins.

Depreciation and Amortization Expense. Depreciation and amortization expense increased $4.7 million, or 235.2%, to $6.7 million for the year ended December 31, 2008 from $2.0 million for the year ended December 31, 2007 primarily due to the full year effect of the acquisition of RNK and the related increased base of depreciable assets. Depreciation and amortization are recorded on a straight-line basis.

Selling, General, and Administrative Expenses. Our selling, general and administrative expense increased $6.6 million, or 46.5%, to $20.8 million for the year ended December 31, 2008 from $14.2 million for the year ended December 31, 2007 primarily due to the full year effect of the acquisition of RNK. We continue to optimize post-acquisition integration with respect to controlling professional

65


fees, eliminating redundancies with respect to headcount, and note that our selling, general and administrative expense for 2008 is a lower, but not necessarily more sustainable percentage of gross revenues than from the same period in 2007.

Interest Expense. Interest expense increased 203.9% to approximately $7.0 million for the year ended December 31, 2008 compared to the same period ended 2007. The increase in interest expense was due primarily to a full year of debt service on new borrowings made in connection with the purchase of RNK on October 12, 2007.

Other Income. Other income decreased $3.2 million, or 91.1%, to $0.3 million for the year ended December 31, 2008 from $3.5 million for the year ended December 31, 2007. The decrease in other income was due to the non-recurring nature of a one-time management fee that we charged to RNK pre-acquisition. This management fee was realized as a favorable purchase price adjustment upon consummation of the acquisition on October 12, 2007.

Income Taxes. Income tax expense increased to $2.3 million for the year ended December 31, 2008 from an income tax benefit of $3.6 million for the year ended December 31, 2007. The benefit from 2007 resulted from recognition of a deferred tax asset upon acquiring RNK related to our net operating losses carried forward. This benefit was non-recurring in nature.

As Reported Results—Year ended December 31, 2007 compared to year ended December 31, 2006

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended December 31,

 

2007 vs 2006

 

2007

 

% of Net
revenues

 

2006

 

% of Net
revenues

 

$ Change

 

% Change

Operating revenues

 

 

 

35,403

   

 

 

100.0

%

 

 

 

 

18,552

   

 

 

100.0

%

 

 

 

 

16,851

   

 

 

90.8

%

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

Costs of goods sold (exclusive of depreciation shown separately below)

 

 

 

22,143

   

 

 

62.5

%

 

 

 

 

11,996

   

 

 

64.7

%

 

 

 

 

10,147

   

 

 

84.6

%

 

Depreciation and amortization

 

 

 

1,986

   

 

 

5.6

%

 

 

 

 

1,047

   

 

 

5.6

%

 

 

 

 

939

   

 

 

89.7

%

 

Selling, general, and administrative expenses

 

 

 

14,199

   

 

 

40.1

%

 

 

 

 

6,958

   

 

 

37.5

%

 

 

 

 

7,241

   

 

 

104.1

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating expenses

 

 

 

38,328

   

 

 

108.3

%

 

 

 

 

20,001

   

 

 

107.8

%

 

 

 

 

18,327

   

 

 

91.6

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from operations

 

 

 

(2,925

)

 

 

 

 

-8.3

%

 

 

 

 

(1,449

)

 

 

 

 

-7.8

%

 

 

 

 

(1,476

)

 

 

 

Interest expense

 

 

 

2,306

   

 

 

6.5

%

 

 

 

 

871

   

 

 

4.7

%

 

 

 

 

1,435

   

 

 

160.3

%

 

Other income (expense)

 

 

 

3,496

   

 

 

9.9

%

 

 

 

 

(131

)

 

 

 

 

-0.7

%

 

 

 

 

3,627

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net interest expense and other income

 

 

 

(1,190

)

 

 

 

 

-3.4

%

 

 

 

 

1,002

   

 

 

5.4

%

 

 

 

 

(2,192

)

 

 

 

 

-217.0

%

 

(Loss) income before income taxes

 

 

 

(1,735

)

 

 

 

 

-4.9

%

 

 

 

 

(2,451

)

 

 

 

 

-13.2

%

 

 

 

 

716

 

 

 

Provision for income taxes

 

 

 

(3,629

)

 

 

 

 

-10.3

%

 

 

 

 

   

 

 

0.0

%

 

 

 

 

(3,629

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss) income

 

 

 

1,894

   

 

 

5.3

%

 

 

 

 

(2,451

)

 

 

 

 

-13.2

%

 

 

 

 

4,345

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Adjusted EBITDA

 

 

$

 

2,255

 

 

 

 

 

$

 

(389

)

 

 

 

 

 

 

 

Revenue. Our revenues increased $16.8 million, or 90.8%, to $35.4 million for the year ended December 31, 2007 from $18.6 million for the year ended December 31, 2006 due primarily to the acquisition of RNK and to growth in access and subscriber revenues.

Costs Of Goods Sold. Our costs of goods sold increased $10.1 million, or 84.6%, to $22.1 million for the year ended December 31, 2007 from $12.0 million for the year ended December 31, 2006 due primarily to the acquisition of RNK which was effective October 12, 2007. The cost of services to provide subscription services increased as a percentage of sales but was more than offset by the higher margin CLEC results generated by RNK acquired on October 12, 2007.

Depreciation and Amortization Expense. Depreciation and amortization expense increased $1 million, or 89.7%, to $2.0 million for the year ended December 31, 2007 from $1.0 million for the year ended December 31, 2006 primarily due to the effect of recording depreciation for RNK,

66


amortization expense related to definite lived intangibles acquired pursuant to the acquisition of RNK which were partially offset by lower depreciation expense recorded due to our lower capital expenditures. Depreciation and amortization are recorded on a straight-line basis.

Selling, General, and Administrative Expenses. Selling, general, and administrative expenses increased $7.2 million, or 104.1%, to $14.2 million for the year ended December 31, 2007 from $7.0 million for the year ended December 31, 2006 due to the acquisition of RNK and higher compensation and professional fees primarily associated with the acquisition of RNK.

Interest Expense. Interest expense increased 160.3% to $2.3 million for the year ended December 31, 2007 from $0.9 million for the year ended December 31, 2006 as a result of increased debt related to the acquisition of RNK, higher capital lease obligations and debt discount amortization related to equity issuances made in connection with new debt issued by us.

Other Expense (Income). Other income increased to $3.6 million for the year ended December 31, 2007 from an expense of $0.1 million for the year ended December 31, 2006 due to management fees assessed to RNK pre-acquisition. These management fees were non-recurring in nature and were settled through a favorable purchase price adjustment upon acquisition of RNK.

Income Taxes. Income benefit increased to $3.6 million for the year ended December 31, 2007 from $-0- for the year ended December 31, 2006. The increase in income tax benefit resulted from the recognition of deferred tax assets related to the acquisition of RNK offset against our operating losses carried forward. This benefit was non-recurring in nature.

Pro Forma Results—Year ended December 31, 2008 compared to year ended December 31, 2007 (as adjusted)

The unaudited pro forma combined statements of operations that follows is presented for informational purposes only and is not intended to represent or be indicative of the combined results of operations that would have been reported had the acquisition of RNK been completed as of January 1, 2007 and should not be taken as representative of the future consolidated results of operations of our company.

The following unaudited pro forma combined statements of operations for the year ended December 31, 2007 were prepared using (1) the audited consolidated financial statements of Wave2Wave for the year ended December 31, 2007 and (2) the audited consolidated financial statements of RNK for the year-to-date period ended October 12, 2007. The unaudited pro forma combined statements of operations should be read in conjunction with these separate historical financial statements and accompanying notes thereto. A reconciliation of pro forma amounts to reported amounts has been included under the heading “Pro Forma Reconciliation.”

67


 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended December 31,

 

2008 vs 2007

 

2008

 

% of Net
revenues

 

2007

 

% of Net
revenues

 

$ Change

 

% Change

 

         

(unaudited)

 

 

 

 

 

 

Operating revenues

 

 

 

78,455

   

 

 

100.0

%

 

 

 

 

78,638

   

 

 

100.0

%

 

 

 

 

(183

)

 

 

 

 

-0.2

%

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

Costs of goods sold (exclusive of depreciation shown separately below)

 

 

 

43,205

   

 

 

55.1

%

 

 

 

 

50,295

   

 

 

64.0

%

 

 

 

 

(7,090

)

 

 

 

 

-14.1

%

 

Depreciation and amortization

 

 

 

6,658

   

 

 

8.5

%

 

 

 

 

3,339

   

 

 

4.2

%

 

 

 

 

3,319

   

 

 

99.4

%

 

Selling, general, and administrative expenses

 

 

 

20,795

   

 

 

26.5

%

 

 

 

 

22,494

   

 

 

28.6

%

 

 

 

 

(1,699

)

 

 

 

 

-7.6

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating expenses:

 

 

 

70,658

   

 

 

90.1

%

 

 

 

 

76,128

   

 

 

96.8

%

 

 

 

 

(5,470

)

 

 

 

 

-7.2

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from operations

 

 

 

7,797

   

 

 

9.9

%

 

 

 

 

2,510

   

 

 

3.2

%

 

 

 

 

5,287

   

 

 

210.6

%

 

Interest expense

 

 

 

7,009

   

 

 

8.9

%

 

 

 

 

6,683

   

 

 

8.5

%

 

 

 

 

326

   

 

 

4.9

%

 

Other (expense) income

 

 

 

312

   

 

 

0.4

%

 

 

 

 

3,482

   

 

 

4.4

%

 

 

 

 

(3,170

)

 

 

 

 

-91.0

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net interest expense and other income

 

 

 

6,697

   

 

 

8.5

%

 

 

 

 

3,201

   

 

 

4.1

%

 

 

 

 

3,496

   

 

 

109.2

%

 

(Loss) income before income taxes

 

 

 

1,100

   

 

 

1.4

%

 

 

 

 

(691

)

 

 

 

 

-0.9

%

 

 

 

 

1,791

 

 

 

Provision for income taxes

 

 

 

2,309

   

 

 

2.9

%

 

 

 

 

(3,458

)

 

 

 

 

-4.4

%

 

 

 

 

5,767

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss) income

 

 

 

(1,209

)

 

 

 

 

-1.5

%

 

 

 

 

2,767

   

 

 

3.5

%

 

 

 

 

(3,976

)

 

 

 

 

-143.7

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Adjusted EBITDA

 

$

 

8,870

   

 

 

 

$

 

12,525

 

 

 

 

 

 

 

Revenue. Our revenues decreased $0.2 million, or 0.2%, to $78.4 million for the year ended December 31, 2008 from $78.6 million for the year ended December 31, 2007 due to a decrease in access revenues primarily driven by lower per-minute rates mostly offset by higher minutes volume. Subscriber revenues were mostly flat, though subscriber revenues saw a shift to a more favorable mix of services, specifically, higher in-building activity and VoIP.

Costs Of Goods Sold. Costs of goods sold decreased $7.1 million, or 14.1%, to $43.2 million for the year ended December 31, 2008 from $50.3 million for the year ended December 31, 2007 due to minute volume increases and lower costs of services as a percentage within the subscriber revenue stream. In addition, in 2008 we recorded a favorable non-recurring adjustment with respect to Virtual Foreign Exchange (“VFX”) traffic on the CLEC side of our business. The favorable VFX adjustment lowered the overall costs of services but is primarily related to our access revenues. These favorable adjustments and increased network economies of scale resulted in a gross margin of 45% which we do not feel is sustainable due to the non-recurring nature of such adjustments.

Depreciation and Amortization Expense. Depreciation and amortization expense increased $3.3 million, or 99%, to $6.7 million for the year ended December 31, 2008 from $3.4 million for the year ended December 31, 2007 primarily reflecting revised estimates with respect to amortization and significantly higher capital expenditure. Depreciation and amortization are recorded on a straight-line basis.

Selling, General, and Administrative Expenses. Selling, general, and administrative expenses decreased $1.7 million, or 7.6%, to $20.8 million for the year ended December 31, 2008 from $22.5 million for the year ended December 31, 2007 due to lower legal and accounting fees as well as modest headcount reductions.

Interest Expense. Interest expense increased $0.3 million, or 5%, to $7.0 million for the year ended December 31, 2008 from $6.7 million for the year ended December 31, 2007 as a result of increased debt borrowings, loan modifications that included equity issuances that were recorded as additional debt discount and amortized to interest expense.

Other Expense (Income). Other income decreased to $0.3 million for the year ended December 31, 2008 from approximately $3.5 million for the year ended December 31, 2007 due to non-

68


recurring items which primarily consisted of a management fee that we charged RNK prior to acquisition and which was realized as a favorable purchase price adjustment.

Income Taxes. Income tax expense increased to $2.3 million for the year ended December 31, 2008 from an income tax benefit of $3.5 million for the year ended December 31, 2007. The benefit from 2007 resulted from recognition of a deferred tax asset upon acquiring RNK related to our net operating losses carried forward. This benefit was non-recurring in nature.

Pro Forma Results—Year Ended December 31, 2007 compared to year ended December 31, 2006 (as adjusted)

The unaudited pro forma combined statements of operations that follows is presented for informational purposes only and is not intended to represent or be indicative of the combined results of operations that would have been reported had the acquisition of RNK been completed as of January 1, 2006 and should not be taken as representative of the future consolidated results of operations of our company.

The following unaudited pro forma combined statements of operations for the year ended December 31, 2007 and 2006 were prepared using (1) the audited consolidated financial statements of Wave2Wave for the years ended December 31, 2007 and 2006; and (2) the audited consolidated financial statements of RNK for the year-to-date period ended October 12, 2007 and the year ended December 31, 2006. The unaudited pro forma combined statements of operations should be read in conjunction with these separate historical financial statements and accompanying notes thereto. A reconciliation of pro forma amounts to reported amounts and a comparison of the RNK results of operations for the year-to-date period ended October 12, 2007 and the year ended December 31, 2006 have been included under the heading “Pro Forma Reconciliation.”

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended December 31,

 

2007 vs 2006

 

2007

 

% of Net
revenues

 

2006

 

% of Net
revenues

 

$ Change

 

% Change

 

 

(unaudited)

     

(unaudited)

 

 

 

 

 

 

Operating revenues

 

 

 

78,638

   

 

 

100.0

%

 

 

 

 

58,839

   

 

 

100.0

%

 

 

 

 

19,799

   

 

 

33.6

%

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

Costs of goods sold (exclusive of depreciation shown separately below)

 

 

 

50,295

   

 

 

64.0

%

 

 

 

 

42,315

   

 

 

71.9

%

 

 

 

 

7,980

   

 

 

18.9

%

 

Depreciation and amortization

 

 

 

3,339

   

 

 

4.2

%

 

 

 

 

4,560

   

 

 

7.7

%

 

 

 

 

(1,221

)

 

 

 

 

-26.8

%

 

Selling, general, and administrative expenses

 

 

 

22,494

   

 

 

28.6

%

 

 

 

 

14,087

   

 

 

23.9

%

 

 

 

 

8,407

   

 

 

59.7

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating expenses:

 

 

 

76,128

   

 

 

96.8

%

 

 

 

 

60,962

   

 

 

103.6

%

 

 

 

 

15,166

   

 

 

24.9

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from operations

 

 

 

2,510

   

 

 

3.2

%

 

 

 

 

(2,123

)

 

 

 

 

-3.6

%

 

 

 

 

4,633

 

 

 

Interest expense

 

 

 

6,683

   

 

 

8.5

%

 

 

 

 

6,100

   

 

 

10.4

%

 

 

 

 

583

   

 

 

9.6

%

 

Other (expense) income

 

 

 

3,482

   

 

 

4.4

%

 

 

 

 

(223

)

 

 

 

 

-0.4

%

 

 

 

 

3,705

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net interest expense and other income

 

 

 

3,201

   

 

 

4.1

%

 

 

 

 

6,323

   

 

 

10.7

%

 

 

 

 

(3,122

)

 

 

 

 

-49.4

%

 

(Loss) income before income taxes

 

 

 

(691

)

 

 

 

 

-0.9

%

 

 

 

 

(8,446

)

 

 

 

 

-14.4

%

 

 

 

 

7,755

 

 

 

Provision for income taxes

 

 

 

(3,458

)

 

 

 

 

-4.4

%

 

 

 

 

67

   

 

 

0.1

%

 

 

 

 

(3,525

)

 

 

 

 

-5,261.2

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss) income

 

 

 

2,767

   

 

 

3.5

%

 

 

 

 

(8,513

)

 

 

 

 

-14.5

%

 

 

 

 

11,280

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Adjusted EBITDA

 

 

$

 

12,525

 

 

 

 

 

$

 

2,227

 

 

 

 

 

 

 

Revenue. Our revenues increased $19.8 million, or 33.6%, to $78.6 million for the year ended December 31, 2007 from $58.8 million for the year ended December 31, 2006 due primarily to growth in access and subscriber revenues.

Costs Of Goods Sold. Costs of goods sold increased $7.9 million, or 18.9%, to $50.3 million for the year ended December 31, 2007 from $42.3 million for the year ended December 31, 2006 due

69


primarily to minute volume increases related to growth of access revenues which were partially offset by increased network economies of scale, resulting in higher gross margin percentages.

Depreciation and Amortization Expense. Depreciation and amortization expense decreased $1.2 million, or 26.8%, to $3.3 million for the year ended December 31, 2007 from $4.6 million for the year ended December 31, 2006 primarily due to higher intangibles related amortization. Depreciation and amortization are recorded on a straight-line basis.

Selling, General, and Administrative Expenses. Selling, general, and administrative expenses increased $8.4 million, or 59.7%, to $22.5 million from $14.1 million for the year ended December 31, 2006 due to higher compensation and higher consulting fees incurred in connection with the acquisition of RNK.

Interest Expense. Interest expense increased $0.6 million, or 9.6%, to $6.7 million for the year ended December 31, 2007 from $6.1 million for the year ended December 31, 2006 as a result of increased interest on short-term debt, capital lease obligations in addition to interest on additional debt taken on in 2007.

Other Expense (Income). Other income increased to $3.5 million for the year ended December 31, 2007 from an expense of $0.2 million for the year ended December 31, 2006 due to miscellaneous non-recurring items including a one time management fee paid to us that resulted in a favorable purchase price adjustment.

Income Taxes. Income tax benefit increased to $3.5 million for the year ended December 31, 2007 from an expense of $67,000 for the year ended December 31, 2006. The increase in 2007 is due primarily to the application of net operating loss carryfowards.

RNK Results of Operations—Period Ended October 12, 2007 compared to year ended December 31, 2006

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year-to-date period ending

 

2007 vs 2006

 

October 12,
2007

 

% of Net
revenues

 

December 31,
2006

 

% of Net
revenues

 

$ Change

 

% Change

Operating revenues

 

 

 

43,235

   

 

 

100.0

%

 

 

 

 

40,287

   

 

 

100.0

%

 

 

 

 

2,948

   

 

 

7.3

%

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

Costs of goods sold (exclusive of depreciation shown separately below)

 

 

 

28,152

   

 

 

65.1

%

 

 

 

 

30,319

   

 

 

75.3

%

 

 

 

 

(2,167

)

 

 

 

 

-7.1

%

 

Depreciation and amortization

 

 

 

1,353

   

 

 

3.1

%

 

 

 

 

1,174

   

 

 

2.9

%

 

 

 

 

179

   

 

 

15.2

%

 

Selling, general, and administrative expenses

 

 

 

8,295

   

 

 

19.2

%

 

 

 

 

7,129

   

 

 

17.7

%

 

 

 

 

1,166

   

 

 

16.4

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating expenses:

 

 

 

37,800

   

 

 

87.4

%

 

 

 

 

38,622

   

 

 

95.9

%

 

 

 

 

(822

)

 

 

 

 

-2.1

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income (loss) from operations

 

 

 

5,435

   

 

 

12.6

%

 

 

 

 

1,665

   

 

 

4.1

%

 

 

 

 

3,770

   

 

 

226.4

%

 

Interest expense

 

 

 

746

   

 

 

1.7

%

 

 

 

 

579

   

 

 

1.4

%

 

 

 

 

167

   

 

 

28.8

%

 

Other (expense) income

 

 

 

(14

)

 

 

 

 

0.0

%

 

 

 

 

(92

)

 

 

 

 

-0.2

%

 

 

 

 

78

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net interest expense and other income

 

 

 

760

   

 

 

1.8

%

 

 

 

 

671

   

 

 

1.7

%

 

 

 

 

89

   

 

 

13.3

%

 

(Loss) income before income taxes

 

 

 

4,675

   

 

 

10.8

%

 

 

 

 

994

   

 

 

2.5

%

 

 

 

 

3,681

   

 

 

370.3

%

 

Provision for income taxes

 

 

 

171

   

 

 

0.4

%

 

 

 

 

67

   

 

 

0.2

%

 

 

 

 

104

   

 

 

155.2

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net (loss) income

 

 

 

4,504

   

 

 

10.4

%

 

 

 

 

927

   

 

 

2.3

%

 

 

 

 

3,577

   

 

 

385.9

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Adjusted EBITDA

 

 

$

 

6,788

 

 

 

 

 

$

 

2,839

 

 

 

 

 

 

 

Revenue. RNK’s revenues increased $2.9 million, or 7.3%, to $43.2 million for the period ended October 12, 2007 from $40.3 million for the year ended December 31, 2006 due primarily to increasing minute volume and corresponding access revenues.

70


Costs of Goods Sold. Costs of goods sold decreased $2.2 million, or 7.1%, to $28.1 million for the period ended October 12, 2007 from $30.3 million for the year ended December 31, 2006 due primarily to full year versus short year comparison. Gross margin on incremental revenues increased as a result of increased network efficiency and ongoing cost reduction initiatives.

Depreciation and Amortization Expense. Depreciation and amortization expense increased $0.2 million, or 15.2%, to $1.4 million for the period ended October 12, 2007 from $1.2 million for the year ended December 31, 2006 due to increases in capital expenditures.

Selling, General, and Administrative Expenses. Selling, general, and administrative expenses increased $1.2 million, or 16.4%, to $8.3 million for the period ended October 12, 2007 from $7.1 million for the year ended December 31, 2006 due primarily to increased headcount and use of outside professional services.

Interest Expense. Interest expense increased to $0.7 million for the period ended October 12, 2007 from $0.6 million for the year ended December 31, 2006 as a result of increased interest on short-term debt, capital lease obligations and finance charges on late payment.

Other Expense (Income). Other expense for the periods reported were not material to the results of our operations.

Income Taxes. Income tax expense increased to $0.2 million from $.01 million. For the periods reported income tax expense was not material to the results of operations.

Pro Forma Reconciliation

The following table provides a reconciliation from the as reported results to the pro forma results presented above for the years ended December 31, 2007 and 2006 (in thousands). The following unaudited pro forma statement of operations has been derived from our audited statement of operations for the years ended December 31, 2007 and 2006 and the audited statement of operations of RNK for the year-to-date period ended October 12, 2007 and the year ended December 31, 2006. These statements give effect to the acquisition of RNK as if the transaction occurred at the beginning of the respective periods. The actual date of acquisition of RNK was October 12, 2007.

The pro forma adjustments to the financial information presented below for the years ended December 31, 2007 and 2006, respectively, are needed to reflect the full year effect of the RNK acquisition consummated on October 12, 2007.

Adjustments to depreciation and amortization assume a full year of increases in amortization expense related to acquired intangible assets, as well as a full year of incremental decreases in depreciation expense resulting from the new lowered cost basis of acquired fixed assets.

Interest expense is adjusted to reflect a full year of interest expense on debt issued to facilitate the acquisition. Adjustments to the provision for income taxes reflect the tax effects of the depreciation, amortization and interest expense adjustments, as well as the non-recurring loss carry forward tax benefit resulting from the acquisition.

71


 

 

 

 

 

 

 

 

 

 

Year Ended December 31, 2006

 

 

Wave2Wave

 

RNK

 

Pro Forma
Adjustments

 

Pro Forma
Combined

 

             

(unaudited)

Operating revenues

 

 

$

 

18,552

   

 

$

 

40,287

   

 

 

   

 

$

 

58,839

 

Operating Expense:

 

 

 

 

 

 

 

 

Costs of goods sold (exclusive of depreciation shown separately below)

 

 

 

11,996

   

 

 

30,319

   

 

 

   

 

 

42,315

 

Depreciation and amortization

 

 

 

1,047

   

 

 

1,174

   

 

 

2,339

(a)

 

 

 

 

4,560

 

Selling, general, and administrative expenses

 

 

 

6,958

   

 

 

7,129

   

 

 

   

 

 

14,087

 

 

 

 

 

 

 

 

 

 

Total operating expenses

 

 

 

20,001

   

 

 

38,622

   

 

 

2,339

   

 

 

60,962

 

 

 

 

 

 

 

 

 

 

Income from operations

 

 

 

(1,449

)

 

 

 

 

1,665

   

 

 

(2,339

)

 

 

 

 

(2,123

)

 

Interest expense

 

 

 

871

   

 

 

579

   

 

 

4,650

(b)

 

 

 

 

6,100

 

Other (expense) income

 

 

 

(131

)

 

 

 

 

(92

)

 

 

 

 

   

 

 

(223

)

 

 

 

 

 

 

 

 

 

 

Net interest expense and other income

 

 

 

1,002

   

 

 

671

   

 

 

4,650

   

 

 

6,323

 

Income before income taxes

 

 

 

(2,451

)

 

 

 

 

994

   

 

 

(6,989

)

 

 

 

 

(8,446

)

 

Provision for income taxes

 

 

 

   

 

 

67

   

 

 

   

 

 

67

 

Net income (loss) before minority interest

 

 

 

(2,451

)

 

 

 

 

927

   

 

 

(6,989

)

 

 

 

 

(8,513

)

 

 

 

 

 

 

 

 

 

 

Minority interest expense (income)

 

 

 

   

 

 

   

 

 

   

 

 

 

 

 

 

 

 

 

 

 

 

Net income (loss)

 

 

$

 

(2,451

)

 

 

 

$

 

927

   

 

$

 

(6,989

)

 

 

 

$

 

(8,513

)

 

 

 

 

 

 

 

 

 

 


 

 

(a)

 

 

 

Depreciation and amortization expense adjusted to reflect the full year effect of the amortization of acquired intangibles and additional depreciation expense for fixed assets. acquired, albeit at a lower cost basis than that of the acquiree’s original basis.

 

(b)

 

 

 

Additional interest expense recorded for the full year on approximately $60 million of additional debt financing acquired to facilitate the acquisition of RNK at a weighted average interest rate of 7.75%.

 

 

 

 

 

 

 

 

 

 

Year Ended December 31, 2007

 

 

Wave2Wave

 

RNK

 

Pro Forma
Adjustments

 

Pro Forma
Combined

 

             

(unaudited)

Operating revenues

 

 

$

 

35,403

   

 

$

 

43,235

   

 

 

   

 

$

 

78,638

 

Operating expenses:

 

 

 

 

 

 

 

 

Costs of goods sold (exclusive of depreciation shown separately below)

 

 

 

22,143

   

 

 

28,152

   

 

 

   

 

 

50,295

 

Depreciation and amortization

 

 

 

1,986

   

 

 

1,353

   

 

 

1,221

(a)

 

 

 

 

3,339

 

Selling, general, and administrative expenses

 

 

 

14,199

   

 

 

8,295

   

 

 

   

 

 

22,494

 

 

 

 

 

 

 

 

 

 

Total operating expenses:

 

 

 

38,328

   

 

 

37,800

   

 

 

1,221

   

 

 

76,128

 

 

 

 

 

 

 

 

 

 

Income from operations

 

 

 

(2,925

)

 

 

 

 

5,435

   

 

 

(1,221

)

 

 

 

 

2,510

 

Interest expense

 

 

 

2,306

   

 

 

746

   

 

 

3,631

(b)

 

 

 

 

6,683

 

Other income

 

 

 

3,496

   

 

 

(14

)

 

 

 

 

   

 

 

3,482

 

 

 

 

 

 

 

 

 

 

Net interest expense and other income

 

 

 

(1,190

)

 

 

 

 

760

   

 

 

3,631

   

 

 

3,201

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

 

 

(1,735

)

 

 

 

 

4,675

   

 

 

(4,852

)

 

 

 

 

(691

)

 

Provision for income taxes

 

 

 

(3,629

)

 

 

 

 

171

   

 

 

   

 

 

(3,458

)

 

 

 

 

 

 

 

 

 

 

Net income (loss) before minority interest

 

 

 

1,894

   

 

 

4,504

   

 

 

(4,852

)

 

 

 

 

2,767

 

Minority interest expense (income)

 

 

 

   

 

 

   

 

 

   

 

 

 

 

 

 

 

 

 

 

 

 

Net income (loss)

 

 

$

 

1,894

   

 

$

 

4,504

   

 

$

 

(4,852

)

 

 

 

$

 

2,767

 

 

 

 

 

 

 

 

 

 


 

 

(a)

 

 

 

Depreciation and amortization expense adjusted to reflect the full year effect of the amortization of acquired intangibles and additional depreciation expense for fixed assets.

72


 

(b)

 

 

 

Additional interest expense recorded for the period from January 1, 2007 through October 12, 2007, the effective date of acquisition on approximately $60 million of additional debt financing acquired to facilitate the acquisition of RNK at a weighted average interest rate of 7.75%

Liquidity and Capital Resources

The following table sets for the major sources and uses of cash, in thousands, for the periods set forth below:

 

 

 

 

 

 

 

 

 

Year Ended December 31,

 

2009

 

2008

 

2007

Net cash provided by (used in)

 

 

 

 

 

 

Operating activities

 

 

$

 

2,509

   

 

$

 

4,013

   

 

$

 

(2,647

)

 

Investing activities

 

 

 

(859

)

 

 

 

 

(1,227

)

 

 

 

 

(18,026

)

 

Financing activities

 

 

 

(1,253

)

 

 

 

 

(2,299

)

 

 

 

 

21,528

 

 

 

 

 

 

 

 

Net increase (decrease) in cash and cash equivalents

 

 

 

397

   

 

 

487

   

 

 

855

 

Cash and cash equivalents, at the beginning of the period

 

 

 

1,598

   

 

 

1,111

   

 

 

256

 

 

 

 

 

 

 

 

Cash and cash equivalents, at the end of the period

 

 

$

 

1,995

   

 

$

 

1,598

   

 

$

 

1,111

 

 

 

 

 

 

 

 

Sources of Liquidity

We have incurred net losses during the majority of our reported periods but have been adjusted EBITDA positive since the year ended 2007. We have sought growth to our revenues through active re-investment into our infrastructure as well as aggressively pursuing acquisitions. In 2006, we acquired substantially all of the assets of Intellispace, Inc. and in 2007 we acquired RNK. Although these acquisitions were not immediately accretive to our results, eliminating for the effect of amortization of acquisition related intangibles and other related non-cash charges, these acquisitions have been cash flow positive.

In order to fund growth and working capital needs as they arise, we have sought a variety of financing arrangements which are described below.

In October 2007, we entered into multiple financing arrangements with Greystone Capital, specifically its wholly-owned subsidiary GBC Funding, LLC (“GBC”). On October 12, 2007, we entered into a loan for approximately $34.0 million which was further increased to $35.7 million by the end of 2007. In January 2008, we entered into an accounts receivable, or AR Facility, for $12.0 million that was collateralized by the accounts receivable of our CLEC business (i.e. RNK). The arrangement was further modified in June 2008, whereby $3.0 million of the AR Facility was converted into a term loan maturing on June 25, 2011; leaving the AR Facility with a new limit of $9.0 million. As we negotiated and amended our various debt arrangements, from time to time, we have issued additional consideration such as warrants to purchase shares of our common stock to debt holders. For the various amendments entered into by GBC and us, we have issued, effectively, 514,275 warrants to purchase the equivalent amount of shares of common stock. These warrants are recognized at fair value, recorded as debt discount and amortized as an additional component of interest expense through the relevant maturity date, June 25, 2011.

On October 12, 2007, we entered into a series of notes (the “Notes”) payable to eight distinct individuals and entities (the “Noteholders”) in connection with the acquisition of RNK. A significant number of the Noteholders are currently employed by RNK, as such these notes are classified as related party debt. The Noteholders’, in aggregate, were issued notes for the amount of $30,666,939 to be repaid in eight equal quarterly payments consisting of principal and interest with the first quarterly payment due on February 10, 2008. The Notes carried an annual interest rate of 6% to be calculated monthly. Should we go into default for any reason, the Noteholders have the right to step-up the interest rate to 12%. Through the date of this prospectus, we have amended the original Notes several times, resulting in the issuance of, in the aggregate, warrants to purchase 96,250 shares of common stock.

73


On January 10, 2009, we did not remit the payment due pursuant to an extension entered into on December 15, 2008. On April 23, 2009, a default notification was issued and the interest rate was increased to 12%. On September 8, 2009, an extension was granted through January 31, 2010 with a rate decrease to 9% and a $4,303,606 discount on the principal if settled in full by January 31, 2010. In return for the extension we issued the Noteholders 87,500 shares of our common stock. Currently, including accrued interest, the payoff value of the Notes is approximately $20.5 million.

On March 18, 2009, we assigned, without recourse, all debt outstanding with GBC to Wilmington Trust Company and G. Jeff Mennen (the “Lender”), a related party. The face value of the debt was approximately $38,700,000 and consisted of two pieces. The first was $35,700,000 that originally expired on October 9, 2009, and carried monthly interest at 3.25% + prime. The second, is a $3,000,000 term loan that carries a 5.75% + prime per annum interest rate payable monthly that is due in full on January 25,