-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, UifWX4WHDdWpebPmAp+5o86PE9AERVJGDi9A+YXWUnn2KFImJ67fFUtdTOR/gJ0s QVF4HxVMlSGHrP/3rQVXLw== 0000927356-99-001401.txt : 19990817 0000927356-99-001401.hdr.sgml : 19990817 ACCESSION NUMBER: 0000927356-99-001401 CONFORMED SUBMISSION TYPE: 10QSB PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19990630 FILED AS OF DATE: 19990816 FILER: COMPANY DATA: COMPANY CONFORMED NAME: INTERNET COMMUNICATIONS CORP CENTRAL INDEX KEY: 0000841693 STANDARD INDUSTRIAL CLASSIFICATION: WHOLESALE-ELECTRONIC PARTS & EQUIPMENT, NEC [5065] IRS NUMBER: 841095516 STATE OF INCORPORATION: CO FISCAL YEAR END: 0131 FILING VALUES: FORM TYPE: 10QSB SEC ACT: SEC FILE NUMBER: 000-19578 FILM NUMBER: 99692866 BUSINESS ADDRESS: STREET 1: 7100 E BELLEVIEW AVE STE 201 CITY: ENGLEWOOD STATE: CO ZIP: 80202 BUSINESS PHONE: 3037707600 FORMER COMPANY: FORMER CONFORMED NAME: WELLINGTON EQUITIES INC DATE OF NAME CHANGE: 19900319 10QSB 1 2ND QUARTER FORM 10-QSB UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q--QUARTERLY REPORT UNDER SECTION 13 OR (15)d OF THE SECURITIES EXCHANGE ACT OF 1934 (Mark One) [X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended June 30, 1999 ------------- [ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from _____________ to _____________ Commission file number 0-19578 ------- INTERNET COMMUNICATIONS CORPORATION - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Colorado 84-1095516 - ------------------------------- -------------------------- (State or other jurisdiction of (IRS Employer incorporation or organization) identification No.) 7100 E. Belleview Avenue, Suite 201, Greenwood Village, Colorado 80111 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) (303) 770-7600) - -------------------------------------------------------------------------------- (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. [X] Yes [ ] No At August 10, 1999, 5,617,637 shares of Common Stock, no par value, were outstanding. Page 1 of 17 pages. Internet Communications Corporation INDEX Page ------ Form 10-Q Cover Page 1 Index Page 2 Part I FINANCIAL INFORMATION Item 1- Financial Statements Condensed Consolidated Balance Sheets at 3 June 30, 1999 and December 31, 1998 Condensed Consolidated Statements of Operations for the 4 three and six months ended June 30, 1999 and 1998 Condensed Consolidated Statements of Cash Flows 5 for the six months ended June 30, 1999 and 1998 Notes to Condensed Consolidated Financial Statements 6 Item 2- Management's Discussion and Analysis of Financial 9 Condition and Results of Operations Item 3- Quantitative and Qualitative Disclosures 14 About Market Risk Part II OTHER INFORMATION Item 1- Legal Proceedings 15 Item 2- Changes in Securities and use of Proceeds 15 Item 3- Defaults upon Senior Securities 15 Item 4- Submission of Matters to a Vote of 16 Security Holders Item 5- Other Information 16 Item 6- Exhibits and Reports on Form 8-K 16 Signature Page 17 2 INTERNET COMMUNICATIONS CORPORATION Condensed Consolidated Balance Sheets (in thousands, except per share amounts)
- ------------------------------------------------------------------------------------------------------------------------------- June 30, December 31, Assets 1999 1998 - ------ ----------------- ------------------------- (unaudited) Current assets: Cash $ 330 14 Restricted cash -- 650 Trade receivables, net of allowance for doubtful accounts and sales returns of $530 at June 30, 1999 and $472 at December 31, 1998 5,438 5,637 Subscription receivable from a related party -- 2,500 Inventory 3,310 3,296 Prepaid expenses and other 342 350 Costs and estimated earnings in excess of billings 532 772 -------- ------- Total current assets 9,952 13,219 Equipment, net 1,166 1,458 Goodwill, net 802 838 Spares inventory 179 252 Net assets of discontinued operations 375 460 Other assets, net 472 540 -------- ------- Total assets $ 12,946 16,767 ======== ======= Liabilities and Stockholders' Equity - ------------------------------------ Current liabilities: Notes payable $ 3,534 1,569 Notes payable to a related party -- 1,300 Accounts payable 3,588 2,933 Accrued expenses 879 808 Billings in excess of costs and estimated earnings 863 1,239 Unearned income and deposits 811 834 -------- ------- Total current liabilities 9,675 8,683 -------- ------- Notes payable 57 3,585 Deferred revenue 142 184 -------- ------- Total liabilities 9,874 12,452 Stockholders' equity: Preferred stock, 100,000,000 shares authorized Series A Convertible Preferred Stock, issued and outstanding 50,000 shares, stated value of $100.00 5,000 5,000 Common stock, no par value, 20,000,000 shares authorized, 5,617,637 shares issued and outstanding 14,915 14,826 Stockholders' notes (22) (22) Accumulated deficit (16,821) (15,489) -------- ------- Total stockholders' equity 3,072 4,315 Commitments and contingencies -------- ------- Total liabilities and stockholders' equity $ 12,946 16,767 ======== =======
See accompanying notes to these condensed consolidated financial statements. 3 INTERNET COMMUNICATIONS CORPORATION Condensed Consolidated Statements of Operations (in thousands, except per share amounts)
For Three Months Ended For Six Months Ended ---------------------------------- -------------------------------------- June 30, June 30, June 30, June 30, 1999 1998 1999 1998 -------------- -------------- ---------------- ----------- (Unaudited) (Unaudited) (Unaudited) (Unaudited) Sales: Network Services $ 3,223 3,880 6,519 7,579 Network Integration 3,031 4,662 7,006 9,176 ------------- ------------- --------- ------------- Total sales 6,254 8,542 13,525 16,755 Cost of Sales (4,543) (5,926) (9,746) (12,307) ------------- ------------- --------- ------------- Gross margin 1,711 2,616 3,779 4,448 ------------- ------------- --------- ------------- Operating expenses: Selling 795 1,189 1,623 2,899 General and administrative 1,757 1,467 3,178 3,378 Restructuring -- -- -- 1,199 Interest expense, net 113 169 221 291 ------------- ------------- --------- ------------- Total expenses 2,665 2,825 5,022 7,767 ------------- ------------- --------- ------------- Income (Loss) from continuing (954) (209) (1,243) (3,319) operations Discontinued operations -- Income (Loss) from operations -- -- -- (206) Estimated loss on disposal -- -- -- (237) ------------- ------------- --------- ------------- Net Income (Loss) (954) (209) (1,243) (3,762) ============= ============= ========= ============= Income (Loss) per share - basic and diluted: Weighted average common shares outstanding 5,618 5,460 5,618 5,429 Income (Loss) from continuing operations (0.17) (0.04) (0.22) (0.61) Income (Loss) from discontinued operations -- -- -- (0.08) Net Income (Loss) (0.17) (0.04) (0.22) (0.69) - -----------------------------------------------------
See accompanying notes to these condensed consolidated financial statements 4 INTERNET COMMUNICATIONS CORPORATION Condensed Consolidated Statements of Cash Flows (in thousands)
For Six Months Ended -------------------------------------------- June 30, June 30, 1999 1998 --------------------- --------------------- (Unaudited) Cash flows from operating activities: Net loss from continuing operations $ (1,243) (3,319) Adjustments to reconcile net loss from continued operations Depreciation and amortization 458 697 Allowance for doubtful accounts and sale returns 480 108 Changes in operating assets and liabilities: (Increase) decrease in: Receivables (281) (2,439) Inventory 30 (303) Prepaid expenses and other (22) (192) Costs in excess of billings and estimated earnings 240 892 Increase (decrease) in: Accounts payable 655 1,790 Accrued expenses 72 145 Unearned income and deferred revenue (65) (6) Billings in excess of costs and estimated earnings (376) (490) --------------------- --------------------- Net cash used in operating activities (52) (3,117) Net cash provided by discontinued operations 85 1,139 Cash flows from investing activities: Capital expenditures (9) (90) Proceeds from sales of assets 5 34 --------------------- --------------------- Net cash used in investing activities (4) (56) Cash flows from financing activities: Proceeds from debt 9,224 4,595 Repayment of debt (10,787) (2,941) Repayment of note from a related party (1,300) -- Subscription receivable from a related party 2,500 -- Proceeds from exercise of stock options -- 793 Repayment of stockholders' note -- 9 --------------------- --------------------- Net cash provided by (used in) financing activities (363) 2,456 --------------------- --------------------- Increase (decrease) in cash: (334) 422 Cash, beginning of period 664 -- --------------------- --------------------- Cash, end of period $ 330 422 ===================== ===================== See accompanying notes to these condensed consolidated financial statements.
5 NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS June 30, 1999 (Unaudited) NOTE 1 -- BASIS OF PRESENTATION --------------------- The financial statements included herein have been prepared by Internet Communications Corporation ("Internet" or the "Company"), without audit, pursuant to the rules and regulations of the Securities and Exchange Commission and include all adjustments which are, in the opinion of management, necessary for a fair presentation. Certain information and footnote disclosures normally included in the financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. The Company believes that the disclosures are adequate to make the information presented not misleading. However, it is suggested that these financial statements be read in conjunction with the financial statements and the notes thereto which are included in the Company's Annual Report on Form 10-K for the fiscal year ended December 31, 1998. The financial data for the interim periods may not necessarily be indicative of results to be expected for the year. Discontinued Operations In March 1998, the Company's Board of Directors adopted a formal plan to sell its non-core business segments ("Segments"), Omega and ICNS. On April 30, 1998, the Company executed two separate divestiture agreements for the Segments. The Segments have been accounted for as discontinued operations in accordance with APB 30. As of the issuance date of the Company's Annual Report on Form 10-KSB for the year ended December 31, 1997, management was not anticipating net losses on the disposal of the Segments or the related interim period results of operations. Based, in part, on the definitive agreements entered into on April 30, 1998, and an agreement entered into by the Company to terminate the last major contract to be completed under the Company's plan to divest of ICNS, management determined that a net loss on disposal would be incurred as well as operating losses. Management revised these estimates in the financial statements for the year ended December 31, 1998. NOTE 2 - NOTES PAYABLE ------------- On December 30, 1998, the Company entered into an agreement with the bank to amend its credit facility. On February 1, 1999, the Fourth Amendment to Credit Agreement and Note Modification Agreement was executed. The new facility consists of a line-of-credit for $4,350,000 through March 31, 1999 and $4,000,000 thereafter with interest at prime plus 1% (8.75% at June 30, 1999). As of June 30, 1999, there was $3,477,000 outstanding under the line of credit. As of December 31, 1998, there was $5,000,000 outstanding under the line-of- credit. In accordance with the agreement with the bank, the Company paid down the amount outstanding by $650,000 on January 4, 1999 and by $850,000 on February 24, 1999. The cash used to make the $650,000 payment was reflected as restricted cash at December 31, 1998. The line-of-credit is subject to a borrowing base calculation and collateralized by accounts receivable and inventory. The line matures on March 1, 2000. The credit agreement requires that the Company remain in compliance with certain affirmative and negative covenants. The financial covenants include specific requirements for EBITDA, accounts receivable and accounts payable. In addition, the Company has monthly and quarterly reporting requirements. As of June 30, 1999, the Company was not in compliance with the EBITDA covenant. On August 10, 1999, the Fifth Amendment to Credit Agreement and Note Modification Agreement was executed. The fifth amendment waived the June 30, 1999 EBITDA covenant violation, reduced the line- of-credit to $3,500,000 and adjusted the covenants dealing with EBITDA, accounts receivable and accounts payable. 6 In March 1998, the Company received $1.6 million from a related party, in exchange for a convertible promissory note, due March 1999. The note bears interest at 10% and interest payments are due quarterly. If the Company defaults on the promissory note, the remaining principal outstanding may be converted into common stock of the Company at $4.25 per share. As of December 31, 1998, the balance on the note was $1,300,000. This amount was paid off on February 24, 1999. NOTE 3 - STOCKHOLDERS' EQUITY -------------------- The Company has authorized 100,000,000 shares of preferred stock, which may be issued in series and with such preferences as determined by the Company's Board of Directors. On December 30, 1998, the Company executed a stock purchase agreement with Interwest Group, Inc., a related party. Under the terms of the agreement, the Company issued 50,000 shares of Series A, 7 1/8% convertible preferred stock, convertible at $2.25 per share, in exchange for $5.0 million. Of the proceeds, $2.5 million was placed in escrow subject to shareholder approval as required by NASDAQ corporate governance rules. On February 23, 1999, the Company received shareholder approval and the escrow was released. After the purchase, Interwest Group owns 50% of the outstanding common stock of the Company and 64% on an if converted basis. NOTE 4 - INCOME (LOSS) PER SHARE ----------------------- Basic income (loss) per share is computed on the basis of weighted-average common shares outstanding. Diluted loss per share considers potential common stock in the calculation, and is the same as basic loss per share for the three and six months ended June 30, 1999 and 1998 as all of the Company's potentially dilutive securities were anti-dilutive during these periods. NOTE 5 - IMPACT OF RECENTLY ISSUED ACCOUNTING PROUNOUNCEMENTS ---------------------------------------------------- The Financial Accounting Standards Board recently issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities," ("SFAS 133"), which is effective for all fiscal years beginning after June 15, 1999. SFAS 133 establishes accounting and reporting standards for derivative instruments and hedging activities by requiring that all derivative instruments be reported as assets or liabilities and measured at their fair values. Although management of the Company has not completed its assessment of the impact of SFAS 133 on its consolidated results of operations and financial position, management estimates that the impact of SFAS 133 will not be material. NOTE 6 - YEAR 2000 RISKS --------------- Currently, many computer systems, hardware and software products are coded to accept only two digit entries in the date code field and, consequently, cannot distinguish 21st century dates from 20th century dates. As a result, many companies' software and computer systems may need to be upgraded or replaced in order to comply with such "Year 2000" requirements. The Company and third parties with which the Company does business rely on numerous computer programs in their day to day operations. The Company has identified computer systems that could be affected by the Year 2000 issue as it relates to the Company's internal hardware and software, as well as third parties which provide the Company goods or services. As of the second quarter of 1999, testing has been substantially completed and remediation and replacement has commenced. By the end of the third quarter, the Company intends to have developed a contingency plan that would be utilized if current efforts by the Company and its vendors are unsuccessful. There can be no assurance that the Year 2000 issues will be resolved in 1999. The Company has an estimate of approximately $50,000 for the costs required for this effort, but may incur additional costs in resolving its Year 2000 issues. If not resolved, this issue could have a material adverse impact on the Company's business, operating results, financial condition and cash flow. 7 NOTE 7 - COMMITMENTS AND CONTINGENCIES ----------------------------- On October 14, 1998, the Company filed a complaint against Rocky Mountain Internet, Inc. ("RMI") in the District Court, City and County of Denver, State of Colorado. The complaint relates to RMI's failure to close the merger between the Company and RMI, based on a merger agreement entered into on June 5, 1998. The complaint alleges that RMI breached the merger agreement and made certain misrepresentations to the Company with respect to the merger transaction. The Company has claimed damages of at least $30 million. RMI has counterclaimed that the Company breached the merger agreement by failing to file the merger proxy in a timely manner, misrepresenting the Company's compatibility with RMI and failing to maintain satisfactory business operations. The counterclaim seeks substantial damages based on RMI's inability to complete a $175 million high yield debt offering as a result of the Company's breach of contract. The Company believes RMI's counterclaims are frivolous and without merit. Upon cross-motions for summary judgement the Court, on May 28, 1999, entered an Order, which limits damages upon termination to $1,050,000 for the non-breaching party. On August 6, 1999, the Company and RMI reached an agreement to settle the lawsuit. Under the agreement, both parties agreed to drop their respective claims. NOTE 8 - SUBSEQUENT EVENT ---------------- On August 11, 1999, the Company executed a stock purchase agreement with Interwest Group, Inc., a related party. Under the terms of the agreement the Company issued 19,000 shares of Series B 7-3/8% convertible preferred stock, convertible at $2.9063 per share, and 100,000 warrants to purchase common stock (exercisable for four years at $2.9063) in exchange for $1.9 million. In addition, the agreement provides a one year commitment for an additional sale of 5,000 shares of Series B 7-3/8% convertible preferred stock ($500,000) subject to the Company meeting certain requirements. 8 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND --------------------------------------------------------------- RESULTS OF OPERATIONS - --------------------- CAUTIONARY STATEMENT PURSUANT TO SAFE HARBOR PROVISIONS OF THE PRIVATE - ---------------------------------------------------------------------- SECURITIES LITIGATION REFORM ACT OF 1995 - ---------------------------------------- This 10-Q contains "forward-looking statements" within the meaning of the federal securities laws. These forward-looking statements include statements of expectations, beliefs, future plans and strategies, anticipated events or trends and similar expressions concerning matters that are not historical facts. The forward-looking statements in this 10-Q are subject to risks and uncertainties that could cause actual results to differ materially from those expressed in or implied by the statements. With regard to the Company, the most important factors include, but are not limited to, the following: - Changing technology. - Competition. - Possible future government regulation. - Competition for talented employees. - Company's ability to fund future operations. - Becoming Y2K compliant. The following is management's discussion and analysis of certain significant factors which have affected the Company's financial condition and results of operations during the periods included in the accompanying condensed financial statements. LIQUIDITY AND CAPITAL RESOURCES - ------------------------------- Capital Resources On December 30, 1998, the Company executed a stock purchase agreement with Interwest Group, Inc., a related party. Under the terms of the agreement, the Company issued Series A 7-1/8% convertible preferred stock, convertible at $2.25 per share, in exchange for $5.0 million. On December 30, 1998, $2.5 million was funded to the Company, of which $650,000 was restricted for payment on the Company's credit facility. Of the balance of the proceeds, $300,000 was used to pay down the note from the related party, and $1,550,000 was used for working capital. The remaining $2.5 million was funded to escrow subject to shareholder approval as required by NASDAQ corporate governance rules. On February 23, 1999, the Company received shareholder approval and the escrow was released. The Company used $850,000 to pay down the Company's credit facility, $1,300,000 to pay the balance of the note from the related party, and $350,000 for working capital purposes. As a result of this equity investment, the Company reduced its debt by $3.1 million. On August 11, 1999, the Company executed a stock purchase agreement with Interwest Group, Inc., a related party. Under the terms of the agreement the Company issued 19,000 shares of Series B 7-3/8% convertible preferred stock, convertible at $2.9063 per share, and 100,000 warrants to purchase common stock (exercisable for four years at $2.9063) in exchange for $1.9 million. In addition, the agreement provides a one year commitment for an additional sale of 5,000 shares of Series B 7-3/8% convertible preferred stock ($500,000) subject to the Company meeting certain requirements. On December 30, 1998, the Company entered into an agreement with the bank to amend its credit facility. On February 1, 1999, the Fourth Amendment to Credit Agreement and Note Modification Agreement was 9 executed. The new facility consists of a line-of-credit of $4,350,000 through March 31, 1999 and $4,000,000 thereafter with interest at prime plus 1% (8.75% at June 30, 1999). As of June 30, 1999, there was $3,477,000 outstanding under the line-of-credit. The line-of-credit is subject to a borrowing base calculation and is collateralized by accounts receivable and inventory. The line matures on March 1, 2000. As of June 30, 1999, the Company was not in compliance with the EBITDA covenant. On August 10, 1999, the Fifth Amendment to Credit Agreement and Note Modification Agreement was executed. The fifth amendment waived the June 30, 1999 EBITDA covenant violation, reduced the line-of-credit to $3,500,000 and adjusted the covenants dealing with EBITDA, accounts receivable and accounts payable. In March 1998, the Company received $1.6 million from a related party in exchange for a convertible promissory note ("Note"), due March 1999. The Note bears interest at 10% and interest payments are due quarterly. The Note includes a conversion clause which allows conversion if the Note is not paid when due and carries a conversion price of $4.25 per common share. At December 31, 1998, $1,300,000 was outstanding on this note. This note was paid in full upon release of the escrowed funds as mentioned above. Liquidity During the six months ended June 30, 1999, the Company's cash position decreased by $334,000. Of this decrease, $650,000 of cash classified as restricted on December 31, 1998, was used to pay down the Company's credit facility on January 4, 1999. The Company's current ratio declined to 1.03 at June 30, 1999, from 1.52 at December 31, 1998. The decline in the current ratio is due primarily to the reclassification of the Company's credit facility to short-term at March 31, 1999 from long-term at December 31, 1998. The Company's accounts receivable, net of allowance for doubtful accounts and sales returns, was $5,438,000 at June 30, 1999, as compared to $5,637,000 at December 31, 1998. During 1999, the Company has aggressively addressed collection of outstanding aged accounts receivable, while closely monitoring the current year receivables. A credit manager was hired during the second quarter, and additional resources were committed to collection efforts. Based upon accounts receivable collection efforts made by the Company thus far, $422,000 has been written off during the six months ended June 30, 1999. These write-offs were primarily due to customer billing problems when the Company implemented new software in the first quarter of 1998, and data base and process problems on changes in recurring service contract terms. Both problems have been addressed in 1999. In addition, the company has provided for increases in the allowance for doubtful accounts of $480,000 in 1999. Accounts payable and accrued expenses at June 30, 1999 were $4,467,000, as compared to $3,741,000 at December 31, 1998. The Company made no significant investment in property, plant, or equipment during the quarter ended June 30, 1999. There are no material commitments for capital expenditures and the Company is maintaining tight controls over its capital purchases. RESULTS OF OPERATIONS: - ---------------------- The Company recorded a loss from continuing operations of $954,000 and $1,243,000 for the three and six months ended June 30, 1999, as compared to $209,000 and $3,319,000 for the three and six months ended June 30, 1998. Included in the loss for the quarter ended March 31, 1998, were restructuring costs of $1,199,000, and product line reduction costs associated with the restructuring of $409,000. In March of 1998, the Company adopted a plan to divest itself of its non-strategic subsidiaries, Omega and ICNS. These segments were accounted for as discontinued operations in accordance with APB 30, and for the three months ended March 31, 1998, the Company recorded a loss from discontinued operations of $206,000, and an additional estimated loss on disposal of discontinued operations of $237,000. 10 Continuing Operations Revenue Revenue for the three months ended June 30, 1999 decreased by $2,288,000, or 26.8% as compared to the three months ended June 30, 1998, and by $3,230,000, or 19.3% as compared to the six months ended June 30, 1998. The Company experienced significant turnover and attrition in its sales force during and as a result of the failed merger with Rocky Mountain Internet in the third and fourth quarter of 1998. Management had to restaff the sales department in the first half of 1999. The lower revenue in the second quarter is reflective of an understaffed and new sales force. In addition to restaffing, the Company has added a base sales manager to enhance existing customer relations, added a telemarketing group led by an experienced manager to increase leads and has initiated a professional marketing communications program. Additionally, $500,000 of project installations were delayed due to construction at customer sites. During the second quarter of 1999, 51% of revenue was from Network Services, with 49% of revenue from Network Integration. This compares to 45% of revenue from Network Services and 55% of revenue from Network Integration for the quarter ended June 30, 1998. The Company continues to focus sales efforts on "total network solutions" which include recurring services sales, rather than on equipment and installation projects that do not include any of the recurring services. Gross Margin The gross margin percentage for the three and six months ended June 30, 1999 was 27.4% and 27.9% of revenue versus 30.6% and 26.6% of revenue for the comparable periods in 1998. The decline in the margin for the three months ended June 30, 1999 is due to reduced labor utilization resulting from delays in projects. During the quarter ended March 31, 1998, the Company recorded a charge of $409,000 for product line reduction as part of the restructuring. Selling Selling expenses for the three and six months ended June 30, 1999 decreased by $394,000 and $1,276,000 as compared to the three and six months ended June 30, 1998. Selling expenses as a percentage of revenue were 12.7% and 12.0% for the three and six months ended June 30, 1999, as compared to 13.9% and 17.3% of revenue for the comparable periods in 1998. This decrease in selling expenses is primarily attributable to a decrease of $373,000 and $1,078,000 in personnel related expenditures for the quarter and year to date. The remaining decrease in selling expenses is due to decreased expenditures for recruiting and travel. General and Administrative General and administrative expenses increased by $290,000 for the three months, and decreased by $200,000 for the six months ended June 30, 1999, as compared to similar periods in 1998. The increase in general and administrative expenses of $290,000 for the three months ended June 30,1999 is due, in part, to an increase in the allowance for doubtful accounts of $384,000, partially offset by reduced personnel expenses of $145,000. During the six months ended June 30, 1999, cost reductions of $496,000 in personnel expenses and $188,000 in depreciation and amortization were offset by increases of $374,000 in bad debt expense. 11 Restructuring In March 1998, the Company announced a restructuring plan aimed at tightening the strategic focus on the data communications network service market. Management determined the Company had over-extended resources in the Rocky Mountain region and had evolved into an overly complex organization. Accordingly, the number of departments was reduced, employees were separated from the Company, the number of manufacturers' product lines were reduced and the wholesale engineering services business, launched during the fourth quarter of the fiscal year ended December 31, 1997, was closed. The restructuring resulted in the Company recognizing expenses totaling $1,345,000 for the year ended December 31, 1998. The restructuring charge, as initially recorded in the three month period ended March 31, 1998, was based on management's best estimates at the time. As a result of the actual costs of the restructuring, the Company revised its estimates during the fourth quarter of 1998. A description of the major components of the restructuring expense and the product line reduction are as follows: Employee Severance of $664,000: The Company severed 50 positions, closed the wholesale engineering business and accepted the resignations of the Company's former president, CEO and a director, the Company's former secretary, vice president-administration and a director. The severed employees each signed a Severance Agreement and Legal Release, which provided them 30 days severance pay and continued health insurance coverage for the month of April 1998. As disclosed in the Company's Definitive Proxy Statement filed April 30, 1999, the former president entered into a Severance Agreement and Mutual Legal Release whereby the Company agreed to pay a total of two years severance at a rate of $160,000 per year. As described in the Definitive Proxy Statement filed April 23, 1998, the former secretary and vice president entered into a Severance Agreement and Mutual Legal Release whereby the Company agreed to pay a total of twelve months severance pay at a rate of $100,000 per year. Facilities Consolidation of $229,000: The facilities consolidation expense includes the cost of leased space which would no longer be required by the Company, for the period from the date of the restructuring to the estimated date of securing a sublease and the related real estate brokers commissions for subletting the space. In addition, the expense includes the net furniture costs in excess of expected trade in or sales value. Other of $43,000: Other represents legal fees related to the severance plan and agreements and disposition of vehicles related to the restructuring. Product Line Reduction of $409,000: The Company's restructuring plan included a clearly defined approach to hardware and material offerings. The Company undertook a review of the then offered products which included the product and technical support requirements and the manufacturer's warranty, quality standards and support standards. As a result of this review, the Company reduced the number of approved vendors from 51 to 22. This reduction in product offerings allows the Company to reduce future training costs and allow its technicians to be more proficient on the products offered. The product line reduction expense represents inventory that would no longer be offered as part of the Company's standard product offerings and has been included in cost of sales. The balance of these restructuring expenses remaining to be funded as of June 30, 1999 was approximately $81,000. 12 Discontinued Operations Pursuant to a plan adopted in March 1998, the Company executed two separate divestiture agreements on April 30, 1998 for its non-strategic subsidiaries, Omega and ICNS. The subsidiaries have been accounted for as discontinued operations in accordance with APB 30. The remaining assets and liabilities of the subsidiaries at June 30, 1999 primarily consisted of accounts receivable and accounts payable. The Company executed a Stock Purchase Agreement on April 30, 1998 for the sale of its 80% ownership of the common stock of Omega to Omega's vice president and sole minority shareholder. The consideration for the sale of Company's common stock ownership of Omega was $209,000. The Company executed an Agreement on April 30, 1998 for the transition of the business activities of its wholly owned subsidiary, ICNS, to a newly formed corporation ("MetroWest") owned and operated by the principal managers of ICNS. The Agreement specifies that MetroWest shall satisfactorily complete the ICNS contracts existing at April 30, 1998. ICNS shall pay MetroWest incentive compensation for the completion and final customer acceptance of ICNS contracts. As of December 31, 1998, all of the contracts were completed. As of the issuance date of the Company's Annual Report on Form 10-KSB for the year ended December 31, 1997, management was not anticipating net losses on the disposal of the Subsidiaries or the related interim period results of operations. Based, in part, on the definitive agreements entered into on April 30, 1998, and an agreement entered into by the Company to terminate the last major contract to be completed under the Company's plan to divest of ICNS, management determined that a net loss on disposal would be incurred as well as operating losses. Management has revised its estimates in the financial statements for the year ended December 31, 1998. The Company recognized a loss of $1,173,000 from discontinued operations for fiscal 1998. Year 2000 Risks Currently, many computer systems, hardware and software products are coded to accept only two digit entries in the date code field and, consequently, cannot distinguish 21st century dates from 20th century dates. As a result, many companies' software and computer systems may need to be upgraded or replaced in order to comply with such "Year 2000" requirements. The Company and third parties with which the Company does business rely on numerous computer programs in their day to day operations. The Company has identified computer systems that could be affected by the Year 2000 issue as it relates to the Company's internal hardware and software, as well as third parties which provide the Company goods or services. The Company groups its analysis of these software, hardware and systems into the following four categories: (a) Customer Network Installations, where the Company has installed third party vendor equipment and software, and the software is covered by certain maintenance programs provided by the Company. (b) Network Control Center, where the Company monitors and manages the integrity and quality of customer networks. (c) Third party vendors and providers (other than the equipment vendors referred to above), including those which provide the Company with services such as its data transmission capacity. (d) Corporate Administrative Functions, including financial systems and other corporate functions. 13 For all categories, the Company has completed its inventory and assessment of the software and devices involved. During this inventory phase, the project team worked with third party equipment and software vendors to assess whether these devices and software programs are date dependent and whether it is anticipated that they will be Year 2000 compliant. As of the second quarter of 1999, testing has been substantially completed and remediation and replacement has commenced for all categories. By the end of the third quarter, the Company intends to have developed a contingency plan that would be utilized if current efforts by the Company and its vendors are unsuccessful. In the event that the Company acquires other assets or businesses, the software and hardware acquired by the Company in connection with those business combinations may also be Year 2000 non-compliant. There can be no assurance that the Year 2000 issues will be resolved in 1999. The Company has an estimate of approximately $50,000 for the costs required for this effort, but may incur additional costs in resolving its Year 2000 issues. If not resolved, this issue could have a material adverse impact on the Company's business, operating results, financial condition and cash flow. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK --------------------------------------------------------- The Company's exposure to interest rate changes is primarily related to its variable rate debt which may be outstanding from time to time under the Company's credit facility. The Company's credit facility is a line of credit with an interest rate based on the prime rate plus 1%. The credit facility matures on March 1, 2000. Because the interest rate on the credit facility is variable, the Company's cash flow may be affected by increases in the prime rate. Management does not, however, believe that any risk inherent in the variable-rate nature of the loan is likely to have a material effect on the Company. As of June 30, 1999, the Company's outstanding balance on the credit facility was $3,477,000. Sensitivity Analysis. To assess exposure to interest rate changes, the Company has performed a sensitivity analysis assuming the Company has a $4 million balance outstanding under the line of credit (the limit on the line of credit at June 30,1999). The monthly interest payment, if the rate stayed constant, would be approximately $30,000. If the prime rate rose 100 basis points, the monthly interest payment would be approximately $33,300. The Company does not believe the risk resulting from such fluctuations is material nor that the payment required would have material effect on cash flow. 14 Part II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS ----------------- On October 14, 1998, the Company filed a complaint against Rocky Mountain Internet, Inc. ("RMI") in the District Court, City and County of Denver, State of Colorado. The complaint relates to RMI's failure to close the merger between the Company and RMI, based on a merger agreement entered into on June 5, 1998. The complaint alleges that RMI breached the merger agreement and made certain misrepresentations to the Company with respect to the merger transaction. The Company has claimed damages of at least $30 million. RMI has counterclaimed that the Company breached the merger agreement by failing to file the merger proxy in a timely manner, misrepresenting the Company's compatibility with RMI and failing to maintain satisfactory business operations. The counterclaim seeks substantial damages based on RMI's inability to complete a $175 million high yield debt offering as a result of the Company's breach of contract. The Company believes RMI's counterclaims are frivolous and without merit. Upon cross-motions for summary judgement the Court, on May 28, 1999, entered an Order, which limits damages upon termination to $1,050,000 for the non-breaching party. On August 6, 1999, the Company and RMI reached an agreement to settle the lawsuit. Under the agreement, both parties agreed to drop their respective claims. ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS ----------------------------------------- On December 30, 1998, the Company executed a stock purchase agreement with Interwest Group, Inc., a related party. Under the terms of the agreement, the Company issued 50,000 shares of Series A 7-1/8% convertible preferred stock, convertible at $2.25 per share, in exchange for $5.0 million. On December 30, 1998, $2.5 million was funded to the Company, of which $650,000 was restricted for payment on the Company's credit facility. Of the balance of the proceeds, $300,000 was used to pay down the note from the related party, and $1,550,000 was used for working capital. The remaining $2.5 million was funded to escrow subject to shareholder approval as required by NASDAQ corporate governance rules. On February 23, 1999, the Company received shareholder approval and the escrow was released. The Company used $850,000 to pay down the Company's credit facility, $1,300,000 to pay the balance of the note from the related party, and $350,000 for working capital purposes. As a result of this equity investment, the Company reduced its debt by $3.1 million. ITEM 3. DEFAULTS UPON SENIOR SECURITIES ------------------------------- NONE 15 ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS --------------------------------------------------- On May 27, 1999, the annual meeting of the Company's shareholders was held to vote on proposals contained in the proxy statement mailed to shareholders on May 7, 1999. The Company's shareholders elected John M. Couzens, Thomas C. Galley, and Richard T. Liebhaber to the Board of Directors, each to serve a three-year term. The Company's shareholders also approved the 1999 Employee Stock Purchase Plan. The number of shares voted and withheld with respect to each director and the 1999 Employee Stock Purchase Plan were as follows: Election of Directors For Withheld --------- -------- John M. Couzens 7,270,094 32,340 Thomas C. Galley 7,269,494 32,940 Richard Liebhaber 7,283,434 19,000 For Withheld Abstain --------- -------- ------- 1999 Employee Stock Purchase Plan 7,243,379 58,965 1,090 ITEM 5. OTHER INFORMATION ----------------- NONE ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K -------------------------------- NONE 16 SIGNATURES ---------- Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. INTERNET COMMUNICATIONS CORPORATION ----------------------------------- (Registrant) Date: August 16, 1999 By: /s/ John M. Couzens ---------------------------------- John M. Couzens, President Date: August 16, 1999 By: /s/ T. Timothy Kershisnik ---------------------------------- T. Timothy Kershisnik, Chief Financial Officer 17 EX-27 2 FINANCIAL DATA SCHEDULE
5 1,000 3-MOS DEC-31-1999 JAN-01-1999 JUN-30-1999 330,000 0 5,968,000 530,000 3,310,000 10,027,000 5,657,000 4,491,000 12,946,000 9,675,000 0 0 5,000,000 14,915,000 (16,843,000) 12,946,000 6,254,000 6,254,000 (4,543,000) (7,095,000) 0 410,000 113,000 (954,000) 0 (954,000) 0 0 0 (954,000) (.17) (.17)
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