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SECURITIES AND EXCHANGE COMMISSION
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Washington, DC. 20549
FORM 10-Q
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Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the quarterly period ended Commission File Number 0-19437
September 30, 2002 -------
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CELLULAR TECHNICAL SERVICES COMPANY, INC.
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(Exact Name of Registrant as Specified in Its Charter)
Delaware 11-2962080
- ------------------------------- ------------------------------------
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
2815 Second Avenue. Suite 100, Seattle, Washington 98121
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(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (206) 443-6400
Not Applicable
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(Former name, former address and former fiscal year,
if changed since last report.)
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 the
filing requirements for the past 90 days. Yes X No
2,291,770 Common Shares were outstanding as of November 8, 2002.
1
CELLULAR TECHNICAL SERVICES COMPANY, INC.
TABLE OF CONTENTS FOR FORM 10-Q
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements..............................................................................3
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.............9
Item 3. Quantitative and Qualitative Disclosures about Market Risk.......................................14
Item 4. Controls and Procedures..........................................................................14
PART II. OTHER INFORMATION................................................................................15
Item 1. Legal Proceedings................................................................................15
Item 6. Exhibits and Reports on Form 8-K.................................................................15
2
CELLULAR TECHNICAL SERVICES COMPANY, INC.
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
CONDENSED CONSOLIDATED BALANCE SHEETS
(in 000's, except share amounts)
September 30, December 31,
2002 2001
---- -----
(unaudited) (NOTE A)
ASSETS
CURRENT ASSETS
Cash and cash equivalents $ 3,996 $ 6,353
Accounts receivable, net of reserves of $240 at September 30, 2002 and $259
at December 31, 2001 768 529
Employee receivable, net of reserves of $13 at September 30, 2002 and December
31, 2001 -- 16
Inventories 414 531
Prepaid expenses, deposits and other current assets 184 205
-------- --------
Total Current Assets 5,362 7,634
PROPERTY AND EQUIPMENT, net 304 477
LONG-TERM DEPOSIT -- 25
GOODWILL -- 100
LONG-TERM INVESTMENT 1,754 1,754
-------- --------
TOTAL ASSETS $ 7,420 $ 9,990
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable and accrued liabilities $ 1,020 $ 847
Payroll related liabilities 156 180
Customers' deposits and deferred revenue 129 84
-------- --------
Total Current Liabilities 1,305 1,111
STOCKHOLDERS' EQUITY
Preferred Stock, $0.01 par value per share, 5,000 shares
authorized, none issued and outstanding -- --
Common Stock, $0.001 par value per share, 30,000 shares
authorized, 2,292 shares issued and outstanding at
September 30, 2002 and at December 31, 2001 23 23
Additional paid-in capital 29,976 29,976
Accumulated deficit (23,884) (21,120)
-------- --------
Total Stockholders' Equity 6,115 8,879
-------- --------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 7,420 $ 9,990
======== ========
- -------------------------
The accompanying notes are an integral part of these
consolidated financial statements.
3
CELLULAR TECHNICAL SERVICES COMPANY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in 000's, except per share amounts)
(unaudited)
Three months ended Nine months ended
September 30, September 30,
---------------------------------------------------------------------
2002 2001 2002 2001
---------------------------------------------------------------------
REVENUE
Phonecards $3,728 $4,052 $ 9,417 $12,395
Services and Systems -- 1,318 -- 4,104
--------------------------------------------------------------------
Total Revenue 3,728 5,370 9,417 16,499
COSTS AND EXPENSES
Cost of phonecards 3,645 3,847 9,262 12,187
Cost of services and systems -- 324 -- 1,078
Sales and marketing 251 283 788 1,054
General and administrative 221 447 871 1,404
Research and development 402 434 1,217 1,411
--------------------------------------------------------------------
Total Costs and Expenses 4,519 5,335 12,138 17,134
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INCOME (LOSS) FROM OPERATIONS (791) 35 (2,721) (635)
OTHER INCOME, net 0 2 5 947
INTEREST INCOME, net 13 63 64 244
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INCOME (LOSS) BEFORE INCOME TAXES (778) 100 (2,652) 556
PROVISION FOR INCOME TAXES 5 19 12 21
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INCOME (LOSS) BEFORE THE EFFECT OF A CHANGE IN
ACCOUNTING PRINCIPLE (783) 81 (2,664) 535
CUMULATIVE EFFECT OF A CHANGE IN ACCOUNTING
PRINCIPLE -- -- (100) --
--------------------------------------------------------------------
NET INCOME (LOSS) $ (783) $ 81 $(2,764) $ 535
====================================================================
BASIC AND DILUTED PER SHARE DATA:
Income (loss) before the effect of a change in
accounting principle $ (0.34) $ 0.04 $ (1.17) $ 0.23
Cumulative effect of a change in accounting
principle -- -- (0.04) --
--------------------------------------------------------------------
Net Income (Loss) $ (0.34) $ 0.04 $ (1.21) $ 0.23
====================================================================
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic 2,292 2,292 2,292 2,292
Diluted 2,292 2,297 2,293 2,301
- -----------------
The accompanying notes are an integral part of these
consolidated financial statements.
4
CELLULAR TECHNICAL SERVICES COMPANY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in 000's)
(unaudited)
Nine Months Ended
September 30,
---------------------------------------
2002 2001
----------------- ------------------
OPERATING ACTIVITIES
Net income (loss) $(2,764) $ 535
Adjustments to reconcile net income (loss) to net cash provided by (used in)
operating activities:
Depreciation and amortization of property and equipment 184 408
Impairment of goodwill 100 --
Amortization of goodwill -- 20
Gain on disposal of assets -- (25)
Changes in operating assets and liabilities:
Decrease (increase) in accounts receivable, net (239) 123
Decrease in employee receivable, net 16 25
Decrease in inventories, net 117 364
Decrease in prepaid expenses and deposits 21 280
Increase in accounts payable, accrued liabilities and taxes other than
payroll or income 173 244
Decrease in payroll related liabilities (24) (302)
Increase in deferred revenue and customers' deposits 45 864
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NET CASH PROVIDED BY (USED IN) OPERATING ACTIVITIES (2,371) 2,536
INVESTING ACTIVITIES
Purchase of property and equipment (11) (57)
Proceeds from sale of assets -- 39
Long term deposit 25 --
Long term investment -- 4
------- ------
NET CASH PROVIDED BY (USED IN) INVESTING ACTIVITIES 14 (14)
------- ------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (2,357) 2,522
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 6,353 4,529
------- ------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 3,996 $7,051
======= ======
- -----------------
The accompanying notes are an integral part of these
consolidated financial statements.
5
CELLULAR TECHNICAL SERVICES COMPANY, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - BASIS OF PRESENTATION:
The accompanying unaudited consolidated financial statements of Cellular
Technical Services Company, Inc. ("CTS"), including the December 31, 2001
balance sheet which has been derived from audited financial statements, have
been prepared in accordance with generally accepted accounting principles for
interim financial information and with the instructions to Form 10-Q and Rule
10-01 of Regulation S-X. Accordingly, they do not include all of the information
and footnotes required by generally accepted accounting principles for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. The operating results for the three-month and nine-month periods
ended September 30, 2002 are not necessarily indicative of the results that may
be expected for the fiscal year ending December 31, 2002. For further
information, refer to the financial statements and footnotes thereto included in
the Company's Annual Report on Form 10-K for the year ended December 31, 2001
and in the Company's other filings with the Securities and Exchange Commission.
Unless the context otherwise requires, all references to the "Company" herein
include Cellular Technical Services Company, Inc. and any entity over which it
has or shares operational control.
NOTE B - LIQUIDITY:
Going forward into 2002, the Company has continued to reduce its fixed operating
costs. Management believes that under its current business plan, its current
cash balances and cash flows expected to be generated from operations are
sufficient to fund its operations and capital requirements for at least 12
months. However, the Company's inability to successfully generate sufficient
cash flow from operations or obtain financing from external sources would have a
material adverse impact on the Company's financial position, liquidity or
results of operations and may require the Company to reduce its expenditures
further or curtail certain operations to enable it to continue its operations
for that period.
On March 4, 2002 the Company received a notice from Nasdaq indicating that the
Company's public float had not been over $5 million for 30 consecutive days, a
violation of the Nasdaq National Market's continued listing requirements. In
late May the Company applied for listing on the Nasdaq SmallCap Market System
("SCM"), was accepted and began trading on the SmallCap market on June 14, 2002.
This transfer could have a material adverse affect on the price of its common
stock, could adversely affect the liquidity of the shares held by its
shareholders, and could restrict the Company's ability to raise additional
capital in the future.
The market value of the Company's common shares has recently traded below $1.00,
a violation of the listing requirements of the Nasdaq SCM. On November 1, 2002
the Company received a notice from Nasdaq giving the Company a 180-day period,
until April 30, 2003, in which to demonstrate compliance. If the deficiency is
not corrected, Nasdaq will provide delisting notification to the Company, which
may then go through an appeals process. A delisting of the Company's shares from
Nasdaq SCM could have a material adverse affect on the price of its common
stock, could adversely affect the liquidity of the shares held by its
shareholders, and could restrict the Company's ability to raise additional
capital in the future.
NOTE C - CHANGE IN ACCOUNTING FOR GOODWILL AND CERTAIN OTHER INTANGIBLES:
In July 2001, the Financial Accounting Standards Board ("FASB") issued Financial
Accounting Standard 141 -- Business Combinations ("FAS 141"). FAS 141, effective
for all business combinations initiated after July 1, 2001, requires that all
business combinations be accounted for using the purchase method of accounting.
Further, FAS 141 requires certain intangible assets to be recognized as assets
apart from goodwill if they meet certain criteria. FAS 141 also requires
expanded disclosures regarding the primary reason for consummation of the
combination and the allocation of the purchase price to the assets acquired and
liabilities assumed by major balance sheet caption. The Company adopted FAS 141
on January 1, 2002 and the adoption did not have a material effect on the
Company's results of operations or financial position.
In July 2001, the FASB issued Financial Accounting Standard 142 -- Goodwill and
Intangible Assets ("FAS 142"). FAS 142, effective for fiscal years beginning
after December 15, 2001, defines accounting requirements for the treatment of
goodwill. The Company adopted FAS 142 effective January 1, 2002. Under FAS 142,
goodwill is considered to have an indefinite life and is therefore subject to
impairment accounting rather than amortization. As of January 1, 2002, the
Company had approximately $100,000 of goodwill related to the acquisition of New
England Telecom, Inc., in August 2000. In compliance with FAS 142, the Company
no longer amortizes goodwill, and performed an initial test of impairment on
goodwill that resulted in the recording of an impairment loss in the amount of
$100,000 during the three months ended March
6
31, 2002. This writedown has been presented as the cumulative effect of an
accounting change in the statement of operations. The following table summarizes
the effects of FAS 142 on net income (loss) had it been applied retroactively to
2001:
(in $000 except per share amounts) Three months ended Three months ended Nine months ended Nine months ended
September 30, 2002 September 30, 2001 September 30, 2002 September 30, 2001
------------------ ------------------ ------------------ ------------------
Net income (loss): $(783) $81 $(2,764) $535
Goodwill Amortization -- 7 -- 20
------------------------------------------------------------------------------------
Adjusted net income (loss): $(783) $88 $(2,764) $555
====================================================================================
There is no impact on basic or diluted loss per share due to the amortization of
goodwill, net of taxes.
NOTE D - INVENTORIES:
Inventory reflects phonecards sold through the Company's phonecard business.
Included in phonecard inventory at September 30, 2002 is $125,000 related to
sales that have been accounted for on a consignment basis and $121,000 related
to sales returns reserves at September 30, 2002. Included in phonecard inventory
at December 31, 2001 is $80,000 related to sales that have been accounted for on
a consignment basis and $143,000 related to sales returns reserves at December
31, 2001. Inventory consists of the following (in 000's):
September 30, December 31,
2002 2001
------------- ------------
Inventory $ 600 $ 578
Less reserves (186) (47)
----- -----
$ 414 $ 531
===== =====
NOTE E - CONTINGENCIES:
From time to time, the Company may be a party to legal proceedings, which may or
may not be in the ordinary course of business and which may have a material
adverse effect on the Company's business, financial condition or results of
operations. The Company is currently involved in one commercial litigation case.
On October 25, 2001, New England Telecom, Inc. and Paul Gregory, a former
employee, filed a claim in the Superior Court of Massachusetts against the
Company and its Chairman alleging, among other things, that the Company breached
a purchase agreement and a related employment contract. The agreement included a
two-year earn-out with a maximum contingent total payout of $1.5 million. The
Company has answered the allegations and intends to vigorously defend the case.
Since the case is currently in the discovery phase, the Company is unable to
assess the likely outcome of the case.
NOTE F- EARNINGS (LOSS) PER SHARE:
The calculation of basic and diluted earnings (loss) per share is as follows (in
000's, except per share amounts):
Three months ended Nine months ended
September 30, September 30,
----------------------- ------------------------
2002 2001 2002 2001
---- ---- ---- ----
Net income (loss) (A) $ (783) $ 81 $(2,764) $ 535
==================================================================
Weighted average number of shares outstanding (B) 2,292 2,292 2,292 2,292
Stock options -- 5 1 9
------------------------------------------------------------------
Weighted average number of shares and common share
equivalents outstanding (C) 2,292 2,297 2,293 2,301
==================================================================
Basic income (loss) per share (A)/(B) $ (0.34) $ 0.04 $ (1.21) $ 0.23
==================================================================
Diluted income (loss) per share (A)/(C) $ (0.34) $ 0.04 $ (1.21) $ 0.23
==================================================================
Outstanding stock options of 322,123 and 345,541 at September 30, 2002 and 2001,
respectively, were excluded from the computation of diluted earnings per share
because their effect was anti-dilutive.
7
NOTE G- SEGMENT INFORMATION:
The Company has two reportable business segments offering distinctive products
and services marketed through different channels: (i) a telecom
hardware/software segment including the Company's Blackbird'r' Platform product
line, which included the Blackbird'r' Platform, PreTect'TM' cloning-fraud
prevention application, No Clone Zone'TM' roaming-fraud prevention service, and
related application products and services and the Company's Neumobility
location-based services platform and software applications; and (ii) the
Company's prepaid long-distance phonecard business, which is conducted through
its majority-owned subsidiary, Isis Tele-Communications, Inc. Management
evaluates segment performance based upon segment profit or loss before income
taxes. The difference in pretax segment income of $556,000 and net income of
$535,000 for the nine months ended September 30, 2001 is attributable to income
tax expense of $21,000. The difference in pretax segment loss of $2,652,000 and
net loss of $2,764,000 for the nine months ended September 30, 2002 is
attributable to the write-down of $100,000 in goodwill and income tax expense of
$12,000. There were no inter-company sales of products between the segments. In
the first quarter of 2002 the Company recorded an impairment writedown of
$100,000 related to the writedown of goodwill associated with its phone card
segment. The impairment loss was presented in the statement of operations as a
cumulative effect of a change in accounting principle in accordance with the
transitional rules of FAS 142. In the nine-month period ended September 30, 2001
the Company recorded $20,000 of goodwill amortization associated with its phone
card segment. The value of goodwill recorded for the Company's phone card
segment was $104,000 at December 31, 2000, $84,000 at September 30, 2001,
$100,000 at December 31, 2001 and zero at September 30, 2002.
Three months ended September 30, 2002
-------------------------------------
(in 000's) Segments
---------------------------------- Consolidated
Telecom HW/SW Phone cards Totals
------------- ----------- ------
Revenue from external customers -- $3,728 $3,728
Inter-segment revenue -- -- --
Pretax segment loss before the effects of a
change in accounting principle ($625) (153) (778)
Expenditures for segment assets 11 -- 11
Segment assets (at September 30, 2002) 5,862 1,558 7,420
Three months ended September 30, 2001
-------------------------------------
(in 000's) Segments
---------------------------------- Consolidated
Telecom HW/SW Phone cards Totals
------------- ----------- ------
Revenue from external customers $1,318 $4,052 $5,370
Inter-segment revenue -- -- --
Pretax segment income (loss) 307 (207) 100
Expenditures for segment assets -- 12 12
Segment assets (at September 30, 2001) 9,527 1,588 11,115
Nine months ended September 30, 2002
------------------------------------
(in 000's) Segments
---------------------------------- Consolidated
Telecom HW/SW Phone cards Totals
------------- ----------- ------
Revenue from external customers -- $9,417 $9,417
Inter-segment revenue -- -- --
Pretax segment loss before the effects of a
change in accounting principle ($2,013) (639) (2,652)
Expenditures for segment assets 11 -- 11
Nine months ended September 30, 2001
------------------------------------
(in 000's) Segments
---------------------------------- Consolidated
Telecom HW/SW Phone cards Totals
------------- ----------- ------
Revenue from external customers $4,104 $12,395 $16,499
Inter-segment revenue -- -- --
Pretax segment income (loss) 1,702 (1,146) 556
Expenditures for segment assets 33 24 57
8
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion and analysis provides information which management
believes is relevant to an assessment and understanding of the Company's results
of operations and financial condition. The discussion should be read in
conjunction with the financial statements and notes thereto. Unless the context
otherwise requires, all references to the "Company" herein include Cellular
Technical Services Company, Inc. and any entity over which it has or shares
operational control.
Special Note Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q contains certain forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995 that
reflect the Company's views with respect to future events and financial
performance. The Company uses words and phrases such as "anticipate," "expect,"
"intend," "the Company believes," "future," and similar words and phrases to
identify forward-looking statements. Reliance should not be placed on these
forward-looking statements. These forward-looking statements are based on
current expectations and are subject to risks, uncertainties and assumptions
that could cause, or contribute to causing actual results to differ materially
from those expressed or implied in the applicable statements. Readers should pay
particular attention to the descriptions of risks and uncertainties described in
this report and in the Company's other filings with the Securities and Exchange
Commission. All forward-looking statements included in this report are based on
information available to the Company on the date of this report. The Company
assumes no obligation or duty to update any such forward-looking statements.
Critical Accounting Policies and Estimates
The Company's discussion and analysis of its financial condition and results of
operations are based upon the Company's consolidated financial statements, which
have been prepared in accordance with accounting principles generally accepted
in the United States. The preparation of these consolidated financial statements
requires the Company to make estimates and judgments that affect the reported
amounts of assets, liabilities, revenues and expenses, and related disclosure of
contingent assets and liabilities. On an on-going basis, the Company evaluates
its estimates, including those related to revenue recognition, product returns,
bad debts, inventories, investments, intangible assets, contingencies and
litigation. The Company bases its estimates on historical experience and on
various other assumptions that are believed to be reasonable under the
circumstances, the results of which form the basis for making judgments about
the carrying values of assets and liabilities that are not readily apparent from
other sources. A more detailed discussion on the application of these and other
accounting policies can be found in Note C in the Notes to the Consolidated
Financial Statements in Item 14 of the Company's 2001 Annual Report on Form
10-K. Actual results may differ from these estimates under different assumptions
or conditions.
Bad Debt: The Company maintains allowances for doubtful accounts for estimated
losses based on past collection history and specific risks identified in the
portfolio, resulting from the inability of its customers to make required
payments. If the financial condition of the Company's customers were to
deteriorate, resulting in an impairment of their ability to make payments,
additional allowances may be required.
Allowance for Sales Returns: The Company maintains a provision for estimated
sales returns of prepaid phonecards. The Company records a provision for
estimated sales returns in the same period as the related revenues are recorded.
These estimates are based on historical sales returns, analysis of credit memo
data and other known factors. If the historical data the Company uses to
calculate these estimates does not properly reflect future returns, revenue
could be overstated.
Inventory: The Company is required to state its inventories at the lower of cost
or market. In assessing the ultimate realization of inventories, the Company is
required to make judgments as to future demand requirements and compare that
with the current or committed inventory levels. An allowance for obsolete
inventory is maintained to reflect the expected un-saleable inventory based on
an evaluation of slow moving products. It is possible that changes in required
inventory reserves may occur in the future.
Goodwill and Intangible Impairment: In assessing the recoverability of the
Company's goodwill and other intangibles the Company must make assumptions
regarding estimated future cash flows and other factors to determine the fair
value of the respective assets. On January 1, 2002 the Company adopted Statement
of Financial Accounting Standards No. 142,
9
"Goodwill and Other Intangible Assets," and was required to analyze its goodwill
for impairment issues in accordance with the transition rules of FAS 142. In the
three-month period ended March 31, 2002 the Company recorded an impairment
writedown of $100,000 related to the writedown of goodwill associated with its
phone card segment. The impairment loss was presented in the statement of
operations as a cumulative effect of a change in accounting principle in
accordance with the transitional rules of FAS 142. The Company has no goodwill
recorded on its books at September 30, 2002.
Long-Term Investment: The Company accounts for its investment of $1,754,000 in
TruePosition, Inc. under the cost method as the Company does not have the
ability to exercise significant influence. Under the cost method of accounting,
an investment in a private company is carried at cost and adjusted only for
other-than-temporary declines in fair value, distributions of earnings and
additional investments. The Company periodically evaluates whether any decline
in fair value of its investment is other-than-temporary. This evaluation
consists of review of qualitative and quantitative factors by members of senior
management as well as market prices of comparable public companies. The Company
receives periodic financial statements to assist in reviewing relevant financial
data and to assist in determining whether such data may indicate
other-than-temporary declines in fair value below the Company's accounting
basis. If any such decline in fair value is determined to be
other-than-temporary and below the accounting basis, the Company would record an
expense to reduce the cost to fair value.
Overview
Over the past 13 years the Company has developed, marketed, distributed and
supported a diversified mix of products and services for the telecommunications
industry. The Company has developed expertise in real-time wireless call
processing and has created technologically advanced solutions for this industry,
focusing primarily in the area of wireless communications fraud management.
During the past three years the Company implemented short and long-range
strategic plans to diversify its product mix. A description of the Company's
business follows.
Products
Prepaid Long-Distance Phonecard Products: To provide revenue growth for the
Company, and in alignment with its product diversification strategy, the Company
expanded into the prepaid long-distance service arena in December 1999. Through
its majority-owned subsidiary, Isis Tele-Communications, Inc., the Company
markets and distributes branded prepaid long-distance phonecards in
denominations generally ranging from $5 to $20 per card. Isis also markets
prepaid wireless phones and phonecards. Isis specializes in targeted marketing
programs and features local and toll-free access numbers and aggressive domestic
and international long-distance rates. Isis distributes cards through regional
and national multi-level distribution channels, using direct sales, third party
distributors and telemarketing. Isis has sales offices in Los Angeles and
Boston. The Company is continuing to evaluate a variety of strategic
alternatives with respect to its Isis prepaid products subsidiary.
Location Based Services ("LBS") Platform and Applications: In late 1999 the
Company began development of a location-based wireless software product platform
and mobile commerce applications to enter into the wireless geo-location market
being opened up as wireless carriers begin to comply with the FCC's new E-911
requirements. In January 2001 the Company formed a division called
Neumobility'TM' for this product line. The Neumobility family of products
includes a scalable platform and an application suite providing location-based
information utilizing both network and satellite positioning technologies. The
platform is called NeuTrac'TM', and is a system utilizing positioning data to
create, maintain and deliver relevant content and services in a location-based
format. The NeuTrac platform is configurable and creates a combination of
subscription-based, pay-per-use and free value-added services. The application
suite includes: NeuCommerce'TM', which allows for personalized, permission-based
one-to-one marketing; NeuMerchant'TM', which allows for the tracking of merchant
offers and creates metrics to analyze the impact of marketing efforts;
NeuMap'TM', which creates directions based upon positioning data; NeuList'TM',
which adds a location-sensitive component to wireless e-mail functions; and
NeuJournal'TM', a journaling feature which allows for the documentation of
location and content.
The Company has recently made the difficult decision to cease development
efforts of its Neumobility LBS platform and applications division, due to the
uncertainty in both timing and magnitude of future revenue streams, combined
with the large continuing investment required to complete, market and support
the products. The Company reduced its workforce by 13 persons in November 2002
as a result of this decision. The Company will continue to seek outside partners
or investors for the Neumobility IP portfolio and product suite. The Company is
evaluating severance and potential facilities or equipment
10
related charges to be accrued in the fourth quarter of 2002 related to the
closure of this division. The Company currently anticipates incurring
approximately $0.1 million in cash severance charges and in the range of $0.1
to $0.4 million in a combination of other charges related to the writedown of
excess computer equipment and lease costs related to excess facilities to be
paid through the third quarter of 2003.
Blackbird Platform Products: The Company's Blackbird Platform product line
included a suite of radio frequency based platform solutions focusing on
wireless fraud prevention. It involved various forms of "pre-call" verification
to ensure that the use of an analog wireless telephone was legitimate before the
device was allowed to connect to a carrier's analog wireless communications
network. Blackbird Platform products were initially installed in over 2,000 cell
sites in the US by wireless carriers in 1996-1998. As digital wireless
communication was adopted, analog fraud decreased, and carriers gradually
removed the Blackbird Platform products from service. The final contract expired
December 31, 2001, and no future revenue is anticipated from the Blackbird
Platform product line.
Revenue and Expense
Revenue: During the first nine months of 2002, the Company generated revenue
through sales of its Isis pre-paid phonecard products. Prepaid phone-card
revenue is comprised of wholesale and retail sales of prepaid local,
long-distance and wireless products. Revenue is recognized at shipment of
product, net of any reserves for estimated returns. The Company maintains an
allowance for sales returns of prepaid phonecards (based on estimated returns)
in accordance with SFAS 48. Estimated returns, along with their costs, have been
reflected as a reduction in sales and cost of goods sold, respectively, and
reflected as a reduction in accounts receivable and an increase in inventory,
respectively.
During the first nine months of 2001, the Company generated revenue from two
sources: sales of Isis pre-paid phone card products and Blackbird service
revenue. Service revenue was derived primarily from hardware and software
maintenance programs, No Clone Zone roaming fraud prevention service, Blackbird
Platform Monitoring service and related professional services provided in
support of the Company's previously deployed product base. Service revenue was
recognized ratably over the period during which the service was provided.
Costs and Expenses: Costs of phonecards, services and systems are primarily
comprised of: (i) prepaid phonecard costs; (ii) equipment, including both
proprietary and third-party hardware and, to a lesser extent, manufacturing
overhead and related expenses; (iii) customer support; and (iv) activities
associated with the evaluation, repair and testing of parts returned from the
field in connection with the Company's previous hardware maintenance service
activities.
Research and development expenditures include the costs for research, design,
development, testing, preparation of training and user documentation and fixing
and refining features for the software and hardware components included in the
Company's current and future products and services.
The Company expects that its costs and expenses in these and other areas will
continue to be incurred in the future, due to the ongoing need to: (i) make
investments in research and development to develop new products and services
which address emerging market opportunities; (ii) enhance its sales and
marketing activities; and (iii) enhance its general and administrative
activities.
Three months ended September 30, 2002 compared to three months ended September
30, 2001.
Overview: Total revenue decreased 31% to $3,728,000 in 2002 from $5,370,000 in
2001. Net loss was ($783,000), or ($0.34) per diluted share, in 2002 compared to
net income of $81,000, or $0.04 per diluted share, in 2001. The decreased
revenue resulted from the closure of the Company's Blackbird Platform product
system at the end of 2001 as well as reduced sales from its Isis phonecard
segment due to the closure of unprofitable sales offices and increased
competition in its marketplace.
The $864,000 decrease in net income is due to several factors.
o Gross margin decreased by $1,116,000. Gross margin from the Blackbird
products was zero in 2002, compared to $994,000 in 2001, as this
business ceased on December 31, 2001 resulting in a revenue decrease
of $1,318,000 and
11
associated cost decrease of $324,000. Gross margin in the Isis segment
decreased by $122,000 as revenue decreased $324,000 and cost of phone
cards decreased $202,000.
o Operating expenses decreased by $290,000 due to reductions of $32,000
in R&D, $226,000 in general and administrative and $32,000 in sales
and marketing expenses.
o Net other income decreased by $2,000 from the 2001 period to the 2002
period.
o Net interest income decreased by $50,000 and income taxes decreased by
$14,000 in the 2002 period compared to the 2001 period.
Revenue: Prepaid phone card revenue decreased 8% to $3,728,000 in 2002,
compared to $4,052,000 in 2001 due primarily to increased competition and lower
long-distance pricing. Service revenue decreased to zero in 2002 from $1,318,000
in 2001. All of the 2001 service revenue was derived from the Blackbird Platform
Product line, which was discontinued at the end of 2001 after reaching the end
of its service life.
Costs and Expenses: Costs of phone cards, services and systems decreased by
$526,000 to $3,645,000 in third quarter of 2002, from $4,171,000 in the same
period of 2001. As a percent of total revenue, the costs were 98% and 78% for
the 2002 and 2001 periods, respectively. The decrease in the amounts and
increase in the percentages of costs for 2002 relative to 2001 is primarily due
to the prepaid phone card business being a larger percentage of the Company's
overall business with lower gross margins compared to the Company's prior
Blackbird service product offerings.
Sales and marketing expenses decreased 11% to $251,000 in 2002 from $283,000 in
2001. The decrease in sales and marketing expenses is primarily attributable to
headcount decreases and office closures in the Isis segment, and to zero sales
and marketing expenses incurred for the Blackbird Platform product line in 2002.
General and administrative expenses decreased 51% to $221,000 in 2002 from
$447,000 in 2001, primarily due to headcount reductions and related expense
reductions in comparison to the prior year period.
Research and development costs decreased 7% to $402,000 in 2002 from $434,000 in
2001. The decrease in expenditures from 2001 was primarily attributable to
reduced spending on outside contractors, depreciation and prototypes in the LBS
technology area.
Other Income, net: Net other income was $0 in 2002 compared to $2,000 in 2001.
Other income includes gains or losses from sales of equipment and other
miscellaneous income items.
Interest Income and Expense: Net interest income decreased to $13,000 in 2002
from $63,000 in 2001. This decrease is attributable to lower interest rates
earned on invested cash in the 2002 period compared to the 2001 period and lower
average cash balances on hand in 2002.
Nine months ended September 30, 2002 compared to nine months ended September 30,
2001.
Overview: Total revenue decreased 43% to $9,417,000 in 2002 from $16,499,000 in
2001. Net loss was ($2,764,000), or ($1.21) per diluted share, in 2002 compared
to net income of $535,000, or $0.23 per diluted share, in 2001. The decreased
revenue was due to the closure of the Company's Blackbird Platform product
system at the end of 2001 and to reduced sales from its Isis phonecard segment
due to the closure of sales offices and increased competition in its
marketplace.
The $3,299,000 decrease in net income is due to several factors.
o Gross margin decreased by $3,079,000. Gross margin from the Blackbird
products was zero in 2002, compared to $3,026,000 in 2001, as this
business closed on December 31, 2001 resulting in a revenue decrease
of $4,104,000 and associated cost decrease of $1,078,000. Gross margin
in the Isis segment decreased by $53,000 as revenue decreased by
$2,978,000, combined with cost decreases of $2,925,000.
12
o Operating expenses decreased by $993,000 due to reductions of $194,000
in R&D, $533,000 in general and administrative and $266,000 in sales
and marketing expenses.
o Net other income declined by a total of $942,000 from the 2001 period
to the 2002 period.
o Net interest income decreased by $180,000 and income taxes decreased
$9,000 in the 2002 period compared to the 2001 period.
o The Company recorded a goodwill writedown of $100,000 as the
cumulative effect of the change in accounting principle related to its
adoption of FAS 142 during the 2002 period.
Revenue: Prepaid phone card revenue decreased 24% to $9,417,000 in 2002,
compared to $12,395,000 in 2001. Service revenue decreased to zero in 2002 from
$4,104,000 in 2001. All of the 2001 service revenue was derived from the
Blackbird Platform Product line, which was discontinued at the end of 2001 after
reaching the end of its service life.
Costs and Expenses: Costs of phone cards, services and systems decreased by
$4,003,000 to $9,262,000 in first nine months of 2002, from $13,265,000 in the
same period of 2001. As a percent of total revenue, the costs were 98% and 80%
for the 2002 and 2001 periods, respectively. The decrease in the amount is due
to lower revenue levels in the 2002 period. The increase in the percentages of
costs for 2002 relative to 2001 is primarily due to the prepaid phone card
business being a larger percentage of the Company's overall business with lower
gross margins compared to the Company's prior Blackbird service product
offerings.
Sales and marketing expenses decreased 25% to $788,000 in 2002 from $1,054,000
in 2001. The decrease in sales and marketing expenses is primarily attributable
to headcount decreases and office closures in the Isis segment.
General and administrative expenses decreased 38% to $871,000 in 2002 from
$1,404,000 in 2001, primarily due to headcount reductions and related expense
reductions in comparison to the prior year period.
Research and development costs decreased 14% to $1,217,000 in 2002 from
$1,411,000 in 2001. The decrease in expenditures from 2001 was primarily
attributable to reduced spending on outside contractors, depreciation and
prototypes in the LBS technology area.
Other Income, net: Net other income was $5,000 in 2002 compared to $947,000 in
2001. Other income includes gains or losses from sales of equipment and other
miscellaneous income items. Other income in 2001 included approximately $0.9
million related to a one-time arbitration settlement, net of expenses.
Interest Income and Expense: Net interest income decreased to $64,000 in 2002
from $244,000 in 2001. This decrease is primarily attributable to lower interest
rates earned on invested cash in the 2002 period compared to the 2001 period,
lower average cash balances on hand and interest related to the net arbitration
settlement received in the 2001 period.
Liquidity and Capital Resources
The Company's capital requirements have consisted primarily of funding software
and hardware product development, property and equipment requirements, working
capital and the Company's operating expenses. The Company historically has
funded these requirements through the sale of common stock (including proceeds
from the exercise of warrants and options) and from operating profits in certain
periods. On September 30, 2002, the Company's cash balance was $4.0 million as
compared to $6.4 million on December 31, 2001. The Company's working capital
decreased to $4.1 million at September 30, 2002 from $6.5 million at December
31, 2001.
Net cash used in operating activities amounted to $2.4 million in the first nine
months of 2002, compared to net cash provided of $2.5 million in the comparable
2001 period. The largest factors in the decreased level of cash provided by
operations in 2002 compared to 2001 were the $3.3 million in reduced net income,
significant deferred revenue recorded in the 2001 period and changes in balance
sheet accounts in the reporting periods. At September 30, 2002, the Company had
no commitments for capital expenditures.
Operating Trends: The Company had a net loss of $2,764,000 in the first nine
months of 2002, compared to net income of
13
$0.6 million and $2.6 million for each of the full years ended December 31, 2001
and 2000, respectively. As of September 30, 2002, the Company had an accumulated
deficit of $23.9 million, which primarily accumulated during the three years
ended December 31, 1998. In the first nine months of 2002, revenue from prepaid
phone cards represented 100% of total revenue, compared to 75% in the prior year
period.
There can be no assurance that the Company's operations will be profitable on a
quarterly or annual basis in the future or that existing revenue levels can be
enhanced or sustained. Past and existing revenue levels should not be considered
indicative of future operating results. While the Company believes that its
current cash reserves and projected cash flow from operations will provide
sufficient cash to fund its operations for at least 12 months, unanticipated
changes in customer needs and/or other external factors may require additional
financing and/or further expense reductions.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
The Company is exposed to market risk related to changes in interest rates that
could adversely affect the value of the Company's investments. The Company does
not use derivative financial instruments for speculative or trading purposes.
The Company maintains a short-term investment portfolio consisting of interest
bearing securities with maturities of less than ninety days. These securities
are classified as cash. These securities are interest bearing and thus subject
to interest rate risk and may fall in value if market interest rates increase.
Because the Company has the ability to hold its fixed income investments until
maturity, the Company does not expect its operating results or cash flows to be
affected to any significant degree by a sudden change in market interest rates
on its securities portfolio. The Company has operated primarily in the United
States and all revenues to date have been in U.S. dollars. Accordingly, the
Company does not have material exposure to foreign currency rate fluctuations.
The Company has not entered into any foreign exchange contracts to hedge any
exposure to foreign currency rate fluctuations because such exposure is
immaterial.
Item 4. Controls and Procedures
Within the 90 days prior to the filing date of this report, the Company carried
out an evaluation, under the supervision and with the participation of the
Company's management, including the Company's Chief Executive Officer and Chief
Financial Officer, of the effectiveness of the design and operation of our
disclosure controls and procedures pursuant to the Exchange Act Rule 13a-14.
Based upon that evaluation, the Company's Chief Executive Officer and Chief
Financial Officer concluded that the Company's disclosure controls and
procedures that are designed to ensure that information required to be disclosed
in Company reports filed or submitted under the Exchange Act is recorded,
processed, summarized and reported within the time periods specified in the
Securities and Exchange Commission's rules and forms.
There have been no significant changes in the Company's internal controls or in
other factors that could significantly affect internal controls subsequent to
the date we carried out this evaluation.
14
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
From time to time, the Company may be a party to legal proceedings, which may or
may not be in the ordinary course of business and which may have a material
adverse effect on the Company's business, financial condition or results of
operations. The Company is currently involved in one commercial litigation case.
On October 25, 2001, New England Telecom, Inc. and Paul Gregory, a former
employee, filed a claim in the Superior Court of Massachusetts against the
Company and its Chairman alleging, among other things, that the Company breached
a purchase agreement and a related employment contract. The agreement included a
two-year earn-out with a maximum contingent total payout of $1.5 million. The
Company has answered the allegations and intends to vigorously defend the case.
Since the case is currently in the discovery phase, the Company is unable to
assess the likely outcome of the case.
Item 6. Exhibits and Reports on Form 8-K
a) Exhibits
--------
Exhibit 99.1 Certification Pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002
b) Reports on Form 8-K
-------------------
None.
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.
CELLULAR TECHNICAL SERVICES COMPANY, INC.
By: /s/ Bruce R. York
-----------------
Bruce R. York
Vice President and Chief Financial Officer
November 8, 2002
15
Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
In connection with the filing of the Quarterly Report on Form 10-Q for the
Quarter Ended September 30, 2002 (the "Report") by Cellular Technical Services
Company, Inc. ("Registrant"), I, Bruce R. York, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Cellular
Technical Services Company, Inc.;
2. based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. the registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a - 14 and 15d - 14) for the
registrant and we have: a) designed such disclosure controls and
procedures to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this quarterly report is being prepared; b) evaluated the
effectiveness of the registrant's disclosure controls and procedures
as of a date within 90 days prior to the filing date of this quarterly
report (the "Evaluation Date"); and c) presented in this quarterly
report our conclusions about the effectiveness of the disclosure
controls and procedures based on our evaluation as of the Evaluation
Date;
5. the registrant's other certifying officer and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function): a) all significant deficiencies
in the design or operation of internal controls which could adversely
affect the registrant's ability to record, process, summarize and
report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and b) any
fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. the registrant's other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
By: /s/ Bruce R. York
-----------------
Bruce R. York
Vice President and Chief Financial Officer
November 8, 2002
16
Certification Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
In connection with the filing of the Quarterly Report on Form 10-Q for the
Quarter Ended September 30, 2002 (the "Report") by Cellular Technical Services
Company, Inc. ("Registrant"), I, Stephen Katz, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Cellular
Technical Services Company, Inc.;
2. based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. the registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a - 14 and 15d - 14) for the
registrant and we have: a) designed such disclosure controls and
procedures to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this quarterly report is being prepared; b) evaluated the
effectiveness of the registrant's disclosure controls and procedures
as of a date within 90 days prior to the filing date of this quarterly
report (the "Evaluation Date"); and c) presented in this quarterly
report our conclusions about the effectiveness of the disclosure
controls and procedures based on our evaluation as of the Evaluation
Date;
5. the registrant's other certifying officer and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of registrant's board of directors (or persons
performing the equivalent function): a) all significant deficiencies
in the design or operation of internal controls which could adversely
affect the registrant's ability to record, process, summarize and
report financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and b) any
fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. the registrant's other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in
internal controls or in other factors that could significantly affect
internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
By: /s/ Stephen Katz
----------------
Stephen Katz
Chief Executive Officer
November 8, 2002
17
STATEMENT OF DIFFERENCES
The trademark symbol shall be expressed as...............................'TM'
The registered trademark symbol shall be expressed as....................'r'