Fonix Corporation

EX-99 3 ltelfinancialstatements.htm LTEL FINANCIAL STATEMENTS Fonix Corporation

Fonix Corporation

UNAUDITED PRO FORMA FINANCIAL INFORMATION

On February 24, 2004, Fonix Corporation ("Fonix") closed its acquisition of all

of the capital stock of LTEL Holdings Corporation including its wholly owned

subsidiaries, LecStar Telecom, Inc. and LecStar DataNet, Inc. (collectively

"LTEL") in exchange for negotiated consideration of $33,000,000, which consisted

of Fonix issuing 7,036,802 shares of Class A common stock, 2,000 shares of 5%

Series H non-voting, nonconvertible preferred stock, $10,000 stated value per

share, and a 5% $10,000,000 secured, six-year promissory note. In accordance

with Statements of Financial Accounting Standards No. 141, Business

Combinations, the consideration given and the purchase price were recorded at

the estimated fair value of the securities issued, or $12,800,000.

Interest on the promissory note is due quarterly at 5% per annum beginning April

15, 2004, then quarterly payments of interest and principal of $319,000 are due

beginning April 15, 2005 through January 10, 2010 when the remaining balance is

due. Additional principal payments are due in amounts equal to 33% of the

aggregate proceeds received from Fonix's Fifth Equity Line, and any successor

equity line from the same investor, in excess of $900,000 during any calendar

month, over the term of the note, commencing in August 2004.

Dividends on the stated value of the outstanding Series H preferred stock are

payable at the rate of 5% per annum as and when declared by the Board of

Directors. The annual dividend requirement is $1,000,000. If dividends are

declared on Fonix's common stock, as a condition of that dividend, Fonix is

required to pay 3% of the aggregate amount of such dividend to the Series H

preferred holders. Dividends on the Series H preferred stock and interest on the

promissory note are payable in cash or, at the option of Fonix, in shares of

Class A common stock.

On January 29, 2004, Fonix issued 3,250 shares of 8% Series I convertible

preferred stock, $1,000 stated value per share, in an offering that also

included the issuance of warrants to purchase 965,839 shares of Class A common

stock exercisable at $0.50 per share through December 31, 2008 and the issuance

of 2,414,596 shares of Class A common stock, for aggregate proceeds of

$3,250,000. Dividends are payable at the rate of 8% per annum of the stated

value of the shares outstanding in cash or shares of Class A common stock, at

Fonix's option.

The following unaudited pro forma condensed consolidated statement of operations

for the year ended December 31, 2003 has been prepared to present the effects of

the acquisition of LTEL as though the acquisition had occurred and the 8% Series

I preferred stock had been issued on January 1, 2003. The unaudited pro forma

financial information is illustrative of the effects of the acquisition and does

not necessarily reflect the resulted of operations that would have resulted had

the acquisition actually occurred on that date. In addition, the pro forma

financial information is not necessarily indicative of the results that may be

expected for the year ending December 31, 2004, or any other period.

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Fonix Corporation

UNAUDITED PRO FORMA CONDENSED CONSOLIDATED STATEMENT OF OPERATIONS

FOR THE YEAR ENDED DECEMBER 31, 2003

<TABLE>

LTEL

Acquisition Pro

Forma Pro Forma

Fonix LTEL Adjustments Results

------------------ -------------- ----------------- -----------------

Revenues $ 2,384,000 $ 15,859,000 $ - $ 18,243,000

Cost of revenues:

Impairment loss on capitalized software

Technology (822,000) - - (822,000)

Other cost of revenues (207,000) (7,461,000) - (7,668,000)

------------------ -------------- ----------------- -----------------

Gross profit 1,355,000 8,398,000 - 9,753,000

------------------ -------------- ----------------- -----------------

Operating expenses:

Selling, general and administrative 7,004,000 8,757,000 - 15,761,000

Amortization of intangibles - 99,000 6,259,000 (B) 6,358,000

Product development and research 5,141,000 - - 5,141,000

Impairment loss on intangible assets 302,000 - - 302,000

------------------ -------------- ----------------- -----------------

Total operating expenses 12,447,000 8,856,000 6,259,000 27,562,000

------------------ -------------- ----------------- -----------------

Loss from operations (11,092,000) (458,000) (6,259,000) (17,234,000)

Interest income 43,000 - - 43,000

Interest expense (1,973,000) (1,025,000) (1,038,000) (A) (4,036,000)

Other expense (161,000) - - (161,000)

------------------ -------------- ----------------- -----------------

Loss from operations before equity

in net loss of affiliate (13,183,000) (1,483,000) (7,297,000) (21,963,000)

Equity in net loss of affiliate (360,000) - - (360,000)

------------------ -------------- ----------------- -----------------

Net loss $ (13,543,000) $ (1,483,000) $ (7,297,000) $ (22,323,000)

================== ============== ================= =================

Basic and diluted net loss per common share $ (0.50) (C) $ (0.70)

================= =================

</TABLE>

See the accompanying notes to unaudited pro forma financial information.

<PAGE>

Fonix Corporation

NOTES TO UNAUDITED PRO FORMA FINANCIAL INFORMATION

A To record interest expense on the carrying amount of the 5% $10,000,000

promissory note at the imputed interest rate of 25% per annum.

B To adjust depreciation of property and equipment and amortization of the

intangible assets over their estimated useful lives. Of the $18,500,000 of

acquired intangible assets, $1,110,000 was assigned to LecStar's brand

name, which has an indefinite life and therefore is not subject to

amortization, $14,430,000 was assigned to the local telephone exchange

customer base, with a 2.9-year weighted-average useful life, and $2,960,000

was assigned to established marketing contracts and agreements with utility

companies, with a 1.8-year estimated useful life. Total intangible assets

subject to amortization have a weighted-average useful life of

approximately 2.7 years. Approximately 44% of the customer base includes

residential customers with an estimated weighted-average customer life of

2.3 years and 56% are business customers with an estimated weighted-average

customer life of 3.3 years.

C Historical and pro forma basic and diluted net loss per common share for

the year ended December 31, 2003 was computed as follows:

<TABLE>

Fonix Pro Forma

----------------- ----------------

Loss from continuing operations $ (13,543,000) $ (22,323,000)

5% Series H preferred stock dividends - (1,000,000)

8% Series I preferred stock dividends - (260,000)(1)

----------------- ----------------

Net loss attributable to common stockholders $ (13,543,000) $ (23,583,000)

================= ================

Basic and diluted weighted-average common shares outstanding

26,894,005 33,930,807

================= ================

Basic and diluted net loss per common share $ (0.50) $ (0.70)

================= ================

</TABLE>

1 Excludes $2,821,000 of nonrecurring Series I Preferred stock

dividends recognized on January 29, 2004.

The effects of the acquisition of LTEL and the issuance of the Series

I preferred stock were increases to the pro forma basic and diluted

net loss per common share for the year ended December 31, 2003 of

$0.17 and $0.03 per share, respectively.

<PAGE>

LTEL HOLDINGS CORPORATION AND SUBSIDIARIES

CONSOLIDATED FINANCIAL STATEMENTS

Years ended December 31, 2003 and 2002

CONTENTS

Report of Independent Auditors............................................F-2

Report of Independent Auditors............................................F-3

Consolidated Financial Statements

Consolidated Balance Sheets ..............................................F-4

Consolidated Statements of Operations.....................................F-5

Consolidated Statements of Accumulated Deficit............................F-6

Consolidated Statements of Cash Flows.....................................F-7

Notes To Consolidated Financial Statements................................F-8

F-1

<PAGE>

REPORT OF INDEPENDENT AUDITORS

The Board of Directors and Stockholders

LecStar Telcom, Inc. and LecStar Datanet, Inc.

We have audited the accompanying combined statements of operations, accumulated

deficit, and cash flows of LecStar Telecom, Inc. and LecStar Datanet, Inc. for

the period from January 1, 2002 through December 5, 2002. These financial

statements are the responsibility of the Company's management. Our

responsibility is to express an opinion on these financial statements based on

our audits.

We conducted our audits in accordance with auditing standards generally accepted

in the United States. Those standards require that we plan and perform the audit

to obtain reasonable assurance about whether the financial statements are free

of material misstatement. An audit includes examining, on a test basis, evidence

supporting the amounts and disclosures in the financial statements. An audit

also includes assessing the accounting principles used and significant estimates

made by management, as well as evaluating the overall financial statement

presentation. We believe that our audits provide a reasonable basis for our

opinion.

In our opinion, the combined financial statements referred to above present

fairly, in all material respects, the results of their operations and their cash

flows for the period from January 1, 2002 through December 5, 2002 in conformity

with accounting principles generally accepted in the United States.

December 18, 2003

New York, New York

Sherb & Co., LLP

Certified Public Accountants

F-2

<PAGE>

REPORT OF INDEPENDENT AUDITORS

The Board of Directors and Stockholders

LTEL Holdings Corporation

We have audited the accompanying consolidated balance sheet of LTEL Holdings

Corporation and subsidiaries as of December 31, 2003 and 2002 and the related

consolidated statements of operations, accumulated deficit, and cash flows for

the year ended December 31, 2003 and the period from December 6, 2002 through

December 31, 2002. These financial statements are the responsibility of the

Company's management. Our responsibility is to express an opinion on these

financial statements based on our audits.