UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D. C. 20549

 

FORM 10-Q

   

x   Quarterly report under Section 13 or 15(d) of the Securities Exchange Act of 1934

 

For the quarterly period ended June 30, 2018

 

¨   Transition report under Section 13 or 15(d) of the Securities Exchange Act of 1934

 

For the transition period from ______ to ______

 

000-30061

(Commission file No.)

 

PARETEUM CORPORATION

(Exact name of registrant as specified in its charter)

 

DELAWARE	95-4557538
(State or other jurisdiction of	(I.R.S. employer identification no.)
incorporation or organization)

  

1185 Avenue of the Americas, New York, NY 10036

USA

(Address of principal executive offices) (Zip Code)

 

+ 1 (212) 984-1096

(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.

 

Yes  x    No  ¨

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).

 

Yes  x    No  ¨

 

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

 

Large Accelerated filer  ¨	Accelerated filer  ¨
Non-Accelerated filer  ¨	Smaller reporting company  x
	Emerging growth company  ¨

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

 

Yes  ¨    No  x

 

As of August 13, 2018, there were 60,263,228 shares of the Company’s common stock outstanding. 

 

 

 

PARETEUM CORPORATION AND SUBSIDIARIES

TABLE OF CONTENTS

FORM 10-Q REPORT

June 30, 2018

 

PART I - FINANCIAL INFORMATION	3
Item 1. Consolidated Financial Statements	3
Condensed Consolidated Balance Sheets as of June 30, 2018 (unaudited) and December 31, 2017	3
Condensed Consolidated Statements of Comprehensive Loss for the three and six months periods ended June 30, 2018 and 2017 (unaudited)	4
Condensed Consolidated Statements of Cash Flows for the six month periods ended June 30, 2018 and 2017 (unaudited)	5
Notes to Unaudited Condensed Consolidated Financial Statements	6
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations	16
Item 3. Quantitative and Qualitative Disclosures About Market Risk	25
Item 4. Controls and Procedures	25
PART II -  OTHER INFORMATION	25
Item 1. Legal Proceedings	25
Item 1A. Risk Factors	25
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	25
Item 3. Default upon Senior Securities	26
Item 4. Mine Safety Disclosure	26
Item 5. Other Information	26
Item 6. Exhibits	27
SIGNATURES	28

 

 

PART I - FINANCIAL INFORMATION

 

Item 1. Consolidated Financial Statements

 

PARETEUM CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

 

		June 30,				December 31,
		2018				2017
ASSETS
CURRENT ASSETS
Cash and cash equivalents		$	19,205,252			$	13,537,899
Restricted cash			229,083				199,776
Accounts receivable, net of an allowance for doubtful accounts of $0 at June 30, 2018 and $90,173 at December 31, 2017			3,852,866				2,058,284
Prepaid expenses and other current assets			1,174,617				900,369
Total current assets			24,461,818				16,696,328
NON-CURRENT ASSETS
OTHER ASSETS			89,245				91,267
NOTE RECEIVABLE			595,502				594,520
PROPERTY AND EQUIPMENT, NET			4,680,006				4,713,710
LONG TERM INVESTMENTS			3,230,208				3,230,208
TOTAL ASSETS		$	33,056,779			$	25,326,033
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES
Accounts payable and customer deposits		$	2,568,505			$	1,978,726
Net billings in excess of revenues			258,904				242,986
Accrued expenses and other payables			3,697,831				5,250,130
9% Unsecured Subordinate Convertible Promissory Note (current portion net of Debt Discount and Debt Issuance)			134,013				66,000
Total current liabilities			6,659,253				7,537,842
LONG TERM LIABILITIES
Derivative liabilities			-				1,597,647
Other long term liabilities			118,481				151,163
Unsecured Convertible Promissory Note (net of Debt Discount and Debt Issuance)			622,023				617,848
Total long term liabilities			740,504				2,366,658
Total liabilities			7,399,757				9,904,500
Commitments and Contingencies (See Notes)
STOCKHOLDERS’ EQUITY
Common Stock $0.00001 par value, 500,000,000 shares authorized, 55,656,115 issued and outstanding as of June 30, 2018 and 46,617,093 shares issued and outstanding as of December 31, 2017			331,959,299				321,271,437
Accumulated other comprehensive loss			(6,281,426	)			(6,306,691	)
Accumulated deficit			(300,020,851	)			(299,543,213	)
Total stockholders’ equity			25,657,022				15,421,533
TOTAL LIABILITIES AND STOCKHOLDERS’ EQUITY		$	33,056,779			$	25,326,033

 

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

 

 

PARETEUM CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENT OF COMPREHENSIVE LOSS

(UNAUDITED)

 

		Three months Ended June 30,								Six months Ended June 30,
		2018				2017				2018				2017
REVENUES		$	6,003,180			$	3,239,175			$	10,115,750			$	6,034,118
COST AND OPERATING EXPENSES
Cost of service			1,779,882				945,687				2,974,405				1,787,590
Product development			753,931				273,512				1,480,776				558,206
Sales and marketing			652,442				370,795				1,341,440				690,282
General and administrative			2,214,070				1,490,838				4,510,922				3,856,226
Restructuring and settlement costs			5,592				458,877				79,193				588,106
Depreciation and amortization			994,318				872,693				1,959,609				1,716,476
Total cost and operating expenses			6,400,235				4,412,402				12,346,345				9,196,886
(LOSS) FROM OPERATIONS			(397,055	)			(1,173,227	)			(2,230,595	)			(3,162,768	)
OTHER INCOME/ (EXPENSE)
Interest income			43,193				54,900				85,865				94,036
Interest expense			(99,708	)			(406,041	)			(163,467	)			(923,184	)
Interest expense related to debt discount and conversion feature			(30,272	)			(293,362	)			(59,838	)			(1,342,598	)
Changes in derivative liabilities			1,597,647				-				1,283,914				1,920,881
Gain on Extinguishment of Debt			-				-				-				463,345
Other income			567,710				433,658				637,255				470,476
Amortization of deferred financing costs			(6,209	)			(26,510	)			(12,351	)			(222,623	)
Total other income/ (expense)			2,072,361				(237,355	)			1,771,378				460,333
INCOME/ (LOSS) BEFORE PROVISION FOR INCOME TAXES			1,675,306				(1,410,582	)			(459,217	)			(2,702,435	)
Provision/ (benefit) for income taxes			18,842				(67,782	)			18,424				(66,495	)
NET INCOME/ (LOSS)			1,656,464				(1,342,800	)			(477,641	)			(2,635,940	)
OTHER COMPREHENSIVE INCOME / (LOSS)
Foreign currency translation (loss) /income			(79,137	)			16,169				25,266				(10,651	)
COMPREHENSIVE INCOME/ (LOSS)		$	1,577,327			$	(1,326,631	)		$	(452,375	)		$	(2,646,591	)
Net income/ (loss) per common share and equivalents - basic		$	0.03			$	(0.10	)		$	(0.01	)		$	(0.24	)
Net income/ (loss) per common share and equivalents - diluted		$	0.03			$	(0.10	)		$	(0.01	)		$	(0.24	)
Weighted average shares outstanding during the period – basic			53,348,376				12,910,929				51,714,482				11,132,580
Weighted average shares outstanding during the period – diluted			64,741,232				12,910,929				51,714,482				11,132,580

  

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements

 

 

PARETEUM CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

 

		For the six months ended
		June 30,				June 30,
		2018				2017
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss		$	(477,641	)		$	(2,635,940	)
Adjustments to reconcile net loss to net cash (used in) operating activities:
Depreciation and amortization			1,959,609				1,716,476
Provision for doubtful accounts			-				6,378
Stock based compensation			1,771,580				1,123,293
Change in fair value of warrant liability			(1,283,914	)			(1,920,881	)
Amortization of deferred financing costs			12,351				222,623
Interest expense relating to debt discount and conversion feature			59,838				1,342,598
Unrealized foreign currency transaction loss			-				(470,476	)
Payables settled by issuance of shares			86,778				473,692
(Gain) on Extinguishment of Debt			-				(463,345	)
Changes in operating assets and liabilities:
(Increase) / Decrease in accounts receivable			(1,851,046	)			359,013
(Increase) / Decrease in prepaid expenses, deposits and other assets			(351,046	)			444,262
Increase in accounts payable and customer deposits			606,393				466,013
Increase / (Decrease) in Net billings in excess of revenues and deferred revenue			22,627				(412,929	)
(Decrease) in accrued expenses and other payables			(1,508,005	)			(1,061,893	)
Net cash (used in) operating activities			(952,476	)			(811,116	)
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of property and equipment, and capitalized software			(1,877,477	)			(332,630	)
Net cash (used in) investing activities			(1,877,477	)			(332,630	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Exercise of warrants and options			3,070,110				-
Repayments on other long term loans			(32,682	)			-
Financing related fees			(653,000	)			(364,941	)
Gross Proceeds from public offering			6,100,000				3,500,000
Principal repayment Senior Secured Loan			-				(1,750,000	)
Net cash provided by financing activities			8,484,428				1,385,059
EFFECT OF EXCHANGE RATES ON CASH, CASH EQUIVALENTS AND RESTRICTED CASH			42,185				(294,918	)
NET INCREASE (DECREASE) IN CASH, CASH EQUIVALENTS AND RESTRICTED CASH			5,696,660				(53,605	)
CASH, CASH EQUIVALENTS AND RESTRICTED CASH, BEGINNING OF THE PERIOD			13,737,675				1,495,207
CASH, CASH EQUIVALENTS AND RESTRICTED CASH, END OF THE PERIOD		$	19,434,335			$	1,441,602
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash received/ (paid) during the period for interest		$	43,193			$	(336,193	)
Cash paid during the period for taxes			-				895
NON-CASH FINANCING ACTIVITIES:
Conversion of notes including accelerated amortization into common shares			-				801,549
Conversions of convertible notes			1,911,380				774,424
Amendment to warrants and convertible notes into common shares			313,733				2,344,948

 

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

 

 

PARETEUM CORPORATION AND SUBSIDIARIES

 

NOTES TO THE CONDENSED CONSOLIDATED

FINANCIAL STATEMENTS

UNAUDITED

 

Note 1. Financial Condition

 

As reflected in the accompanying consolidated financial statements, Pareteum Corporation (“Pareteum,” the “Company,” “we,” “us,” or “our”) (NYSE American: TEUM) reported a comprehensive loss of $452,375 for the six month period ended June 30, 2018 and had an accumulated deficit of $300,020,851 as of June 30, 2018.

 

The Company’s financial statements through June 30, 2018 were materially impacted by several warrant exercises.

 

Warrant Exercises  

 

From January 1, 2018 through June 30, 2018, 7,403,536 warrants were exercised on a cash and a cashless basis pursuant to which 5,914,270 shares of common stock were issued and a gross total of $3,070,110 was received by the Company.

 

Public Offering

 

On May 9, 2018, the Company entered into a securities purchase agreement with select accredited investors relating to a registered direct offering, issuance and sale of an aggregate of 2,440,000 shares of the Company’s common stock, $0.00001 par value per share, at a purchase price of $2.50 per share.

 

The Shares are being issued pursuant to the Company’s previously filed and effective Registration Statement on Form S-3 that was filed with the Securities and Exchange Commission on September 9, 2016, as amended October 21, 2016 and November 10, 2016, and declared effective November 14, 2016 (File No. 333-213575). The Company will file a prospectus supplement related to the registered direct offering dated May 9, 2018.

 

The gross proceeds to the Company from the Offering, before deducting the Company’s estimated offering expenses, are expected to be approximately $6,100,000. Proceeds from the Offering shall be used for working capital and general corporate purposes.

 

Dawson James Securities, Inc. acted as placement agent on a best-efforts basis in connection with the Offering, pursuant to a placement agency agreement that was entered into on May 9, 2018.

 

Acquisitions

 

On July 31, 2018, the Company filed a prospectus, following the filing of a registration statement on Form S-3, announcing the resale of an aggregate of 7,151,146 shares of common stock, par value $0.00001 per share, issuable upon the exercise of warrants issued to investors in a private placement offering conducted by the Company and closed on December 5, 2017. On July 25, 2018, the last reported sale price of the Company’s common stock on the New York Stock Exchange was $2.93 per share. The selling stockholders may offer all or part of the shares for resale from time to time through public or private transactions, at either prevailing market prices or at privately negotiated prices. The Company has paid all of the registration expenses incurred in connection with the registration of the shares, but the Company will not pay any of the selling commissions, brokerage fees or related expenses.

 

On August 3, 2018, the Company filed a DEFM14A (the “Proxy Statement”), announcing the proposed acquisition of Artilium plc, a public limited company registered in England and Wales (“Artilium”). In connection with the proposed acquisition, Artilium shareholders would be entitled to receive, for each Artilium ordinary share held by such shareholders, 1.9 pence in cash and 0.1016 new shares of the Company’s common stock, resulting in the issuance of an aggregate of approximately 37,852,076 new shares of the Company’s common stock. Following the transaction, Artilium shareholders will own approximately 35.14% of the Company’s fully diluted common stock and the Company would acquire the entire issued and to be issued ordinary shares of Artilium.

 

Further, under the Proxy Statement, the Company announced its proposed 2018 Long-Term Incentive Compensation Plan, including the reservation of eight million (8,000,000) shares of common stock with a 15% annual increase to the total number of reserved shares thereunder.

 

 

Note 2. Description of Business, Basis of Presentation and Use of Estimates

 

Business overview 

Pareteum has developed a Communications Cloud Services Platform, providing (i) Mobility, (ii) Messaging and (iii) Security services and applications, with a Single-Sign-On, API and software development suite. The Pareteum platform hosts integrated IT/Back Office and Core Network functionality for mobile network operators, and for enterprises implement and leverage mobile communications solutions on a fully outsourced SaaS, PaaS and/or IaaS basis: made available either as an on-premise solution or as a fully hosted service in the Cloud depending on the needs of our customers. Pareteum also delivers an Operational Support System (“OSS”) for channel partners, with Application Program Interfaces (“APIs”) for integration with third party systems, workflows for complex application orchestration, customer support with branded portals and plug-ins for a multitude of other applications. These features facilitate and improve the ability of our channel partners to provide support and to drive sales.

 

Basis of Presentation of Interim Periods

 

The interim condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States, or GAAP, for interim financial information and with the instructions to Securities and Exchange Commission, or SEC, Form 10-Q and Article 10 of SEC Regulation S-X. They do not include all the information and footnotes required by GAAP for complete financial statements. Therefore, these financial statements should be read in conjunction with our audited consolidated financial statements and notes thereto for the year ended December 31, 2017, included in our 2017 Annual Report on Form 10-K filed with the SEC on March 30, 2018, referred to as our 2017 Annual Report.

 

The interim condensed consolidated financial statements included herein are unaudited; however, they contain all normal recurring accruals and adjustments that, in the opinion of management, are necessary to present fairly our results of operations and financial position for the interim periods. The results of operations for the three and six months ended June 30, 2018 are not necessarily indicative of the results to be expected for future quarters or the full year.

 

For a complete summary of our significant accounting policies, please refer to Note 1, “Business and Summary of Significant Accounting Policies,” of our 2017 Annual Report. There have been no material changes to our significant accounting policies during the six months ended June 30, 2018.

 

Use of Estimates

 

The preparation of the accompanying consolidated financial statements conforms with accounting principles generally accepted in the U.S. and requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. 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. Significant areas of estimates include revenue recognition, intangible assets, bad debt allowance, valuation of financial instruments, useful lives of long lived assets and share-based compensation. Actual results may differ from these estimates under different assumptions or conditions.

 

 

Reclassification

 

Certain reclassifications have been made to the Company’s consolidated financial statements for the prior years to conform to the current year presentation. Such reclassifications had no impact on net income/ (loss) or net cash flows.

 

Recently Issued Accounting Standards

 

In May 2014, the FASB issued Accounting Standards Update No. 2014-09 (Topic 606) "Revenue from Contracts with Customers." Topic 606 supersedes the revenue recognition requirements in Topic 605 “Revenue Recognition” (Topic 605), and requires entities to recognize revenue when control of the promised goods or services is transferred to customers at an amount that reflects the consideration to which the entity expects to be entitled to in exchange for those goods or services. We adopted Topic 606 as of January 1, 2018 using the modified retrospective transition method. See Note 9 for further details.

 

Note 3. Supplemental Financial Information

 

The following tables present details of our condensed consolidated financial statements:

 

		June 30,				December 31,
Prepaid expenses and other current assets		2018				2017
Prepaid Expenses - Other		$	569,761			$	576,277
Prepaid Expenses - Professional Services			230,816				-
VAT			374,040				324,092
		$	1,174,617			$	900,369

 

		June 30,				December 31,
Property and equipment		2018				2017
Furniture and fixtures		$	139,857			$	139,857
Computer, communications and network equipment			17,110,130				17,020,421
Software			4,039,554				2,899,794
Automobiles			10,744				10,744
Software development			619,566				398,654
Acc. Depreciation Property & Equipment			(17,239,845	)			(15,755,760	)
		$	4,680,006			$	4,713,710

 

		June 30,				December 31,
Accrued expenses and other payables		2018				2017
Accrued selling, general and administrative expenses		$	1,842,921			$	3,463,800
Accrued cost of service			545,389				413,942
Accrued taxes (including VAT)			804,417				877,366
Accrued interest payable			183,821				96,801
Other accrued expenses			321,283				398,221
		$	3,697,831			$	5,250,130

 

 

		Outstanding June 30, 2018				Closing(s) during 2018				Regular Amortizations  (during 2018)				Conversions (during 2018) including accelerated  amortization				December 31, 2017
9% Unsecured Convertible Note (Private Offering Q4- 2015 – Q1-2016		$	(134,013	)		$	-			$	(30,038	)		$	-			$	(103,975	)
9% Saffelberg Note (Unsecured Convertible)			(622,023	)			-				(42,151	)			-				(579,873	)
		$	(756,036	)		$	-			$	(72,189	)		$	-			$	(683,848	)

 

On June 29, 2018, the Company amended the Saffelberg Investments N.V. (“Saffelberg”) convertible note dated August 18, 2016 with principal of $723,900 removing Sections 4(d)(iii) and (iv) and amended the August 18, 2016 Warrant removing Sections 2(c) and (d). These changes removed the elements that generated the derivative liabilities and related expense from the convertible note and warrant.

 

On June 29, 2018, the Company entered into a term sheet with Saffelberg agreeing to (i) pay the balance and interest of the September 7, 2017 repayment agreement in the amount of $262,735 on July 11, 2018, (ii) convert at $2.37 per share on July 11, 2018 the August 18, 2016 $723,900 convertible note and accrued interest into 387,913 common shares, (iii) adjust the price of the 96,250 warrants to $2.37 on July 11, 2018 and (iv) register converted 387,913 common shares, the 96,250 warrant and other shares held by Saffelberg in the next registration statement.

 

Fair Market Value Warrants & Conversion Feature		FMV as of June 30, 2018				Additional closings during 2018				Agreement Amendments/ Conversions/ FX effect				Mark to market adjustment Ytd-2018				FMV as of December 31, 2017
9% Saffelberg Note (Unsecured Convertible)		$	-			$	-			$	(1,706,484	)		$	279,581			$	1,426,903
FMV Conversion Feature		$	-			$	-			$	(1,706,484	)		$	279,581			$	1,426,903
9% Convertible Note Warrants - Saffelberg		$	-			$	-			$	(204,896	)		$	34,152			$	170,744
FMV Warrant Liabilities		$	-			$	-			$	(204,896	)		$	34,152			$	170,744
Total		$	-			$	-			$	(1,911,380	)		$	313,733			$	1,597,647

 

 

Outstanding numbers of Dilutive Derivatives

 

The outstanding number of derivatives developed as per below movement schedule for the second quarter of 2018.

 

Number of underlying shares for Warrants & Conversion Features		Outstanding June 30, 2018				Agreement Amendments / Interest effects				Exercises / Conversions / Expirations				Outstanding December 31, 2017
9% Convertible Note - Investors			61,556				527				-				61,029
9% Convertible Note - Saffelberg			387,913				(472,030	)			-				859,943
Outstanding Conversion Features			449,469				(471,503	)			-				920,972
13%+Eurodollar Senior Secured			-				-				(2,400,000	)			2,400,000
2017 Registered Public Offering			508,970				-				(766,830	)			1,275,800
Investor Management Services			710,000				-				-				710,000
9% Convertible Note Warrants			520,373				-				-				520,373
2013 Convertible Notes			140,000				-				-				140,000
Other 9% Convertible Note Warrants			96,520				-				-				96,520
2017 Registered Public Offering Agent Warrants			110,279				-				(63,888	)			174,167
9% Convertible Note 7% Agent Warrants			66,230				-				-				66,230
Oct-2017 Shelf take Down Agent Warrants			843				74,750				(73,907	)			-
Nov-2017 Underwriter Agreement Investor Warrants			168,819				-				(2,669,677	)			2,838,496
Nov-2017 Underwriter Agreement Agent Warrants			982,744				-				(652,174	)			1,634,918
Dec-2017 SPA Investor Warrants			6,374,086				-				(777,060	)			7,151,146
Dec-2017 SPA Agent warrants			357,557				-				-				357,557
May-2018 Public Offering Agent Warrants			122,000				122,000				-				-
Preferred Share Conversion Warrants			731,798				-				-				731,798
Preferred Share issuance 8% Agent Warrants			38,827				-				-				38,827
Outstanding Warrants			10,929,046				196,750				(7,403,536	)			18,135,832
Total			11,378,515				(274,753	)			(7,403,536	)			19,056,804

 

 

Note 4. Fair Value Measurements

 

In accordance with Accounting Standards Update 820, Fair Value Measurement (“ASC 820”), the Company defines fair value as the price that would be received from selling an asset or paid to transfer a liability (i.e., the exit price) in an orderly transaction between market participants at the measurement date. ASC 820 establishes a fair value hierarchy for inputs used in measuring fair value that maximizes the use of observable inputs and minimizes the use of unobservable inputs by requiring that the most observable inputs be used when available.

  

Observable inputs are those that market participants would use in pricing the asset or liability based on market data obtained from sources independent of the Company. Unobservable inputs reflect the Company’s assumptions about the inputs that market participants would use in pricing the asset or liability developed based on the best information available in the circumstances.

 

The fair value hierarchy is categorized into three levels based on the inputs as follows:

 

Level 1 – Quoted prices are available in active markets for identical assets or liabilities as of the reported date.

 

Level 2 – Pricing inputs are other than quoted prices in active markets, which are either directly or indirectly observable as of the reported date. The nature of these financial instruments includes cash instruments for which quoted prices are available but are traded less frequently, derivative instruments whose fair values have been derived using a model where inputs to the model are directly observable in the market and instruments that are fair valued using other financial instruments, the parameters of which can be directly observed.

  

Level 3 – Instruments that have little to no pricing observability as of the reported date. These financial instruments are measured using management’s best estimate of fair value, where the inputs into the determination of fair value require significant management judgment or estimation.

 

The remaining derivative liabilities were transferred out of level 3 during the six months ended June 30, 2018.

 

The degree of judgment exercised by the Company in determining fair value is greatest for securities categorized in Level 3. In certain cases, the inputs used to measure fair value may fall into different levels of the fair value hierarchy. In such cases, for disclosure purposes, the level in the fair value hierarchy within which the fair value measurement falls in its entirety is determined by the lowest level input that is significant to the fair value measurement.

 

The Company used the Monte Carlo valuation model to determine the value of the outstanding warrants and conversion feature from the “Offering”. Since the Monte Carlo valuation model requires special software and expertise to model the assumptions to be used, the Company hired a third party valuation expert.

 

Note 5. Stockholders’ Equity

 

(A) Common Stock

 

The Company is presently authorized to issue 500,000,000 shares common stock. The Company had 55,656,115 shares of common stock issued and outstanding as of June 30, 2018, an increase of 9,039,022 shares from December 31, 2017, due to warrant exercises (5,914,270), equity fund raises (2,453,400), non-cash compensation for board and management (502,970), advisors (123,553) and settlement of debt (44,829).

  

(B) Warrants

 

Throughout the years, the Company has issued warrants with varying terms and conditions related to multiple financing rounds, acquisitions and other transactions. The number of warrants outstanding at June 30, 2018 (unaudited) and December 31, 2017 have been recorded and classified as equity is 10,929,046 and 18,039,312 respectively. As of June 30, 2018 and December 31, 2017, the Company has recorded zero and $96,520 respectively, in the balance sheet for the liability warrants issued in connection with the various offerings in the previous and current year. The Company successfully renegotiated the terms of the related ‘liability warrants’ and such amended terms resulted in the elimination of the derivative conditions. The Weighted Average Exercise Price for the currently outstanding warrants in the table below is $1.71. The table below summarizes the warrants outstanding as of June 30, 2018 and as of December 31, 2017:

 

 

Outstanding Warrants		Exercise/ Conversion price(s) (range)				Expiring				June 30, 2018				December 31, 2017
Equity Warrants - Fundraising			$1.05 - $5.375				2018 - 2023				10,929,046				18,039,312
Liability Warrants - Fundraising			NA				2021				-				96,520
											10,929,046				18,135,832

 

Note 6.  Amended and Restated 2008 Long Term Incentive Compensation Plan and 2017 Long-Term Incentive Compensation Plan

 

Amended and Restated 2008 Long-Term Incentive Compensation Plan (“2008 Plan”)

  

Total Authorized under the plan			2,240,000
Shares issued in prior years			1,074,824
Outstanding options			251,266
Available for grant at June 30, 2018 (Registered and Unregistered)			913,910

 

During the second quarter of 2018, no shares were issued or options granted under the 2008 Plan.

 

Stock option activity is set forth below for the 2008 Plan:

 

Options:		Number of Options				Weighted Average Exercise Price
Outstanding as of December 31, 2017			1,128,384			$	9.40
Cancelled January 1, 2018			(786,697	)		$	6.33
Forfeitures (Pre-vesting)			(175	)		$	3.07
Expirations (Post-vesting)			(90,246	)		$	25.60
Outstanding as of June 30, 2018			251,266			$	13.18

 

At June 30, 2018, due to all unvested options being canceled as part of reorganization, the unrecognized expense portion of stock-based awards granted to employees under the 2008 Plan was $0, compared to $843,467 for the same period in 2017.

 

2017 Long-Term Incentive Compensation Plan (“2017 Plan”)

 

Total Authorized under the plan (Shareholders)			6,500,000
Total Registered under the plan (S-8 dated June 14, 2017 and April 13, 2018)			6,500,000
Shares issued under the plan			2,071,417
Reserved for Time-conditioned share awards			1,102,086
Reserved for outstanding Options			3,251,000
Available for grant at June 30, 2018 (Registered & Unregistered)			75,497

 

During the second quarter of 2018, 1,419,000 shares were issued or options granted under the 2017 Plan.

 

Stock option activity is set forth below for the 2017 Plan:

 

Options:		Number of Options				Weighted Average Exercise Price
Outstanding as of December 31, 2017			1,899,800			$	1.00
Granted in 2018			1,419,000			$	2.49
Forfeitures (Pre-vesting)			(67,800	)		$	1.00
Expirations (Post-vesting)			-			$	NA
Outstanding as of June 30, 2018			3,251,000			$	1.65

  

 

At June 30, 2017 and 2018, the unrecognized expense portion of stock-based awards granted to employees under the 2017 Plan was $0 and $3,248,852, respectively.

 

Under the provisions of ASC 718, expensing takes place proportionally to the vesting associated with each stock-award, adjusted for cancellations, forfeitures and returns. If there are any modifications or cancellations of the underlying unvested awards, we may be required to accelerate, increase or cancel any remaining unearned stock-based compensation expense.

 

Note 7.  Income taxes

 

Income Taxes

 

The following table presents details of the net provision (benefit) for income taxes:

 

		Three Months Ended								Six Months Ended
		June 30,								June 30,
		2018				2017				2018				2017
Net Provision for income taxes			18,842				(67,782	)			18,424				(66,495	)

 

As a result of our cumulative tax losses in the U.S. and certain foreign jurisdictions, and the full utilization of our loss carryback opportunities, we have concluded that a full valuation allowance should be recorded in such jurisdictions. In certain other foreign jurisdictions where we do not have cumulative losses, we had net deferred tax liabilities based upon an expected annual tax rate.

 

Note 8. Significant Customer and Geographical Information

 

Sales to our significant customers, as a percentage of net revenue were as follows:

 

		Three Months Ended								Six Months Ended
		June 30,								June 30,
		2018				2017				2018				2017
Two largest customers			75.0	%			96.5	%			79.3	%			95.7	%

 

The geographical distribution of our revenue, as a percentage of revenue, was as follows: 

  

		Three Months Ended								Six Months Ended
		June 30,								June 30,
		2018				2017				2018				2017
Europe			59.4	%			90.2	%			67.8	%			93.4	%
All other (non-European) countries			40.6	%			9.8	%			32.2	%			6.6	%
			100	%			100	%			100	%			100	%

 

Note 9. Revenues

 

Adoption of ASC Topic 606, "Revenue from Contracts with Customers"

 

On January 1, 2018, we adopted Topic 606 using the modified retrospective method applied to those contracts which were not completed as of January 1, 2018. Results for reporting periods beginning after January 1, 2018 are presented under Topic 606, while prior period amounts are not adjusted and continue to be reported in accordance with our historic accounting under Topic 605.

 

We recorded a net increase to opening retained earnings of $107,520 as of January 1, 2018 due to the cumulative impact of adopting Topic 606, with the impact primarily related to our installation revenues that were previously deferred for which the performance obligation was determined to be complete as of the date of adoption. The impact to revenues to be recognized for the six months ended June 30, 2018 was a decrease of $107,520 as a result of applying Topic 606, relating to the aforementioned installation revenues and an increase to the accumulated deficit.

 

 

The impact to previously reported net billings in excess of revenue as a result of ASC Topic 606 is as follows:

 

		As of
		December 31, 2017
		Reported				Adjusted
Net billings in excess of revenue		$	242,986			$	135,466
Total revenues		$	13,547,507			$	13,547,507

 

Revenue Recognition

 

Our revenues represent amounts earned for our mobile and security solutions. Our solutions take many forms but our revenue generally consists of fixed and/or variable charges for services delivered monthly under a combined services and SaaS model. We also offer discrete (one-time) services for implementation and for development of specific functionality to properly service our customers.

 

The following table presents our revenues disaggregated by revenue source:

 

		Three Months Ended								Six Months Ended
		June 30,								June  30,
		2018				2017				2018				2017 (1)
Monthly Service		$	4,277,289			$	3,003,786			$	7,772,831			$	5,641,620
Installation and Software Development			1,725,891				235,389				2,342,919				392,498
Total revenues		$	6,003,180			$	3,239,175			$	10,115,750			$	6,034,118

 

(1)

As noted above, prior period amounts have not been adjusted under the modified retrospective method.

 

Monthly services revenues are recognized at a point in time and amounted to $7,772,831 for the period ended June 30, 2018. Installation and software development revenues are recognized over time and amounted to $2,342,919 for the period ended June 30, 2018.

 

The following table presents our revenues disaggregated by geography, based on the billing addresses of our customers

 

		Three Months Ended								Six Months Ended
		June 30,								June  30,
		2018				2017				2018				2017 (1)
Europe		$	3,563,089			$	2,928,429			$	7,772,831			$	5,641,620
Other geographic areas			2,440,091				310,746				2,342,919				392,498
Total revenues		$	6,003,180			$	3,239,175			$	10,115,750			$	6,034,118

 

(1)

As noted above, prior period amounts have not been adjusted under the modified retrospective method.

 

Monthly Service Revenues

 

The Company’s performance obligations in a monthly SaaS and service offerings are simultaneously received and consumed by the customer and therefore, are recognized over time. For recognition purposes, we do not unbundle such services into separate performance obligations. The Company typically bills its customer at the end of each month, with payment to be received shortly thereafter. The fees charged may include a combination of fixed and variable charges with the variable charges tied to the number of subscribers or some other measure of volume. Although the consideration may be variable, the volumes are easily estimable at the time of billing, with “true-up” adjustments occurring in the subsequent month. As such adjustments have not historically been material, no amounts of variable consideration are subject to constraint.

 

 

Installation and Software Development Revenues

 

The Company’s other revenues consist generally of installation and development projects.

 

Installation represents the activities necessary for a customer to obtain access and connectivity to the Company’s monthly SaaS and service offerings. While installation may require separate phases, it represents one promise within the context of the contract.

 

Development consists of programming and other services to add new, additional or customized functionality to a customer’s existing service offerings. Each development activity is typically its own performance obligation.

 

Revenue is recognized over time if the installation and development activities create an asset that has no alternative use for which the Company is entitled to receive payment for performance completed to date. If not, then revenue is not recognized until the applicable performance obligation is satisfied.

 

Arrangements with Multiple Performance Obligations

 

The Company’s contracts with customers may include multiple performance obligations. For such arrangements, the Company allocates revenue to each performance obligation based on its relative standalone selling price. The Company generally determines standalone selling prices based on the prices charged to customers.

 

Net Billings in Excess of Revenues

 

The Company records net billings in excess of revenues when payments are made or due in advance of our performance, including amounts which are refundable. The increase in net billings in excess of revenues of $15,918 for the six months ended June 30, 2018 is primarily driven by an increase in invoices due in advance of satisfying our performance obligations which was $258,904 as of June 30, 2018 compared to $242,986 for December 31, 2017.

 

Payment terms vary by the type and location of our customer and the products or services offered. The term between invoicing and when payment is due is not significant. For certain products or services and customer types, payment is required before the products or services are delivered to the customer.

 

Contract Assets

 

Given the nature of the Company’s services and contracts, it has no contract assets.

 

Note 10. Subsequent Events

 

On July 31, 2018, the Company filed a prospectus, following the filing of a registration statement on Form S-3, announcing the resale of an aggregate of 7,151,146 shares of common stock, par value $0.00001 per share, issuable upon the exercise of warrants issued to investors in a private placement offering conducted by the Company and closed on December 5, 2017. On July 25, 2018, the last reported sale price of the Company’s common stock on the New York Stock Exchange was $2.93 per share. The selling stockholders may offer all or part of the shares for resale from time to time through public or private transactions, at either prevailing market prices or at privately negotiated prices. The Company has paid all of the registration expenses incurred in connection with the registration of the shares, but the Company will not pay any of the selling commissions, brokerage fees or related expenses.

 

On August 3, 2018, the Company filed a DEFM14A (the “Proxy Statement”), announcing the proposed acquisition of Artilium plc, a public limited company registered in England and Wales (“Artilium”). In connection with the proposed acquisition, Artilium shareholders would be entitled to receive, for each Artilium ordinary share held by such shareholders, 1.9 pence in cash and 0.1016 new shares of the Company’s common stock, resulting in the issuance of an aggregate of approximately 37,852,076 new shares of the Company’s common stock. Following the transaction, Artilium shareholders will own approximately 35.14% of the Company’s fully diluted common stock and the Company would acquire the entire issued and to be issued ordinary shares of Artilium.

 

Further, under the Proxy Statement, the Company announced its proposed 2018 Long-Term Incentive Compensation Plan, including the reservation of eight million (8,000,000) shares of common stock with a 15% annual increase to the total number of reserved shares thereunder.

 

On August 6, 2018, the Company entered into an Increased Independent Director Duties & Fee Proposal Agreement (the “Agreement”) between the Company and Mr. Yves van Sante, an independent director of the Company. The Agreement provides for certain compensation to be paid to Mr. van Sante, including the following: $105,000 to be paid to Mr. van Sante in consideration of his current duties and annual remuneration; $75,000 to be paid to Mr. van Sante in consideration of his performance of additional duties relating to Pareteum’s forecasted future global operations in Asia and Europe; and $120,000 to be paid to Mr. van Sante as a one-off extraordinary service bonus award in consideration of extraordinary service to the Company during 2017 and 2018.

 

 

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Forward-Looking Statements

 

Any forward looking statements made herein are based on current expectations of the Company, involve a number of risks and uncertainties and should not be considered as guarantees of future performance. The factors that could cause actual results to differ materially include: interruptions or cancellation of existing contracts, inability to integrate acquisitions, impact of competitive products and pricing, product demand and market acceptance risks, the presence of competitors with greater financial resources than the Company, product development and commercialization risks, changes in governmental regulations, and changing economic conditions in developing countries and an inability to arrange additional debt or equity financing. 

 

Overview 

 

Pareteum is an award-winning global Cloud Communications Platform company with a mission: “to connect every person and every thing”.™ Customers use Pareteum’s award-winning Communications-Platform-as-a-Service (CPaaS) and software solutions to to energize their growth and profitability through cloud communication services and complete turnkey solutions featuring relevant content, applications, and connectivity worldwide. We provide a single software solution, fully enabling and securing cloud communications, connections and transactions, regardless of users’ location or network. With estimates of up to 30 billion devices to be managed, connected and intelligently leveraged, there are numerous large addressable markets for our Communications-Platform-as-a-Service (CPaaS) solutions.

 

Pareteum’s customers include Enterprises of all sizes, Communication Service Providers (CSPs), Internet of Things (IoT) and other software and application developers, manufacturers and brand-marketing companies. These customers use Pareteum to energize their growth and profitability through cloud-based communication services featuring relevant content, applications, and connectivity worldwide.

 

Our proprietary and patent-protected software enablement platforms are connected to 53 international mobile networks in 76 countries using multiple different communications protocols including IP, mobile telephony, data, SMS, VOIP, OTT services. We support 64+ million Wi-Fi hotspots in 180+ countries through our strategic alliance with iPass. We also have over 1,200 GSMA and CDMA connectivity interconnect relationships - and counting! Pareteum integrates all these disparate software enablement methods and services and brings them to life for customers and application developers, allowing communications to become value-added, using simple Application Program Interfaces (APIs). It is our strategy to enable open mobility, applications, software and developer exchange through our APIs. Our API toolkits allow customers and developers to connect to previously hard to access networks and communications services. In other words, Pareteum’s software enablement solutions remove the commercial and technical barriers to all forms of connectivity allowing our customers to create new and interesting solutions and revenue opportunities all over the world. The simplicity of our “SuperAPI” allows our customers and developers to iterate, test and refine new ideas and business cases on our Customer Success Platform. Our strategy involves supporting “any device… any network… anytime” and for our customers a key advantage is to “pay as you go @ The Speed of Need”, leveraging the advantages of scale and elasticity of cloud-computing, for communications and connectivity. This represents a major strategic shift for many industries, from telecommunications providers to the disruptive software and big data enterprises of today and the future.

 

Our software enablement solutions have proven themselves globally against much larger competitors and are deployed in multiple companies in diverse countries around the world ranging from small service providers to one of the world’s largest telecoms companies, Vodafone. We had more than 2.7 million active connections on our platforms as of June 30, 2018. We expect this number to grow rapidly through our own aggressive sales growth, as well as through our acquisition strategy, which includes the planned close of our acquisition of Artilium plc later this year.

 

The vast majority of our global Cloud Communications Platform is comprised of our self-developed software and services, which provide our customers with a great deal of flexibility in how they use our products now and in the future and allows us to be market-driven in our future. Our customers are able, with Pareteum, to deliver award winning mobile enablement without heavy capex investment in proprietary mobile or telecom infrastructure. Our software and services partners (technologies integrated into our cloud) include solutions from HPE, IBM, Sonus, Oracle, Microsoft, NetNumber, Affirmed, iPass and Artilium and other world class technology providers.

 

Our integrated communications and software enablement solutions increasingly leverage the latest developments in deep neural networks (DNN), predictive analytics and machine-learning (ML) and artificial intelligence (AI) and we see this trend growing and are competing aggressively to bring the maximum commercial value from these techniques. All this is complemented through enabling a new set of features such as distributed ledger (blockchain) functionality and cashless settlements through cryptocurrencies – in all cases, positioning our customers’ business ahead of market disruption and growth.

 

 

The Pareteum Cloud Communications Platform and software increasingly also targets new and growing sectors from IoT (Internet of Things), Data Analytics, Smart Cities, and Application-developer markets - each in need of mobile platforms, management and connectivity. These sectors need Communications-as-a-Service (CaaS), which Pareteum delivers. Our solutions have received industry acclaim.

 

Pareteum is a mission focused company empowering every person and every “thing” to be globally connected, applying our philosophy of ANY DEVICE, ANY NETWORK, ANYWHERE™.

 

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our financial statements and notes thereto and the other financial information included elsewhere in this report.

 

 

Critical Accounting Policies and Estimates

 

The preparation of financial statements in accordance with U.S. generally accepted accounting principles, or GAAP, requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of net revenue and expenses in the reporting period. We regularly evaluate our estimates and assumptions related to revenue recognition, rebates, allowances for doubtful accounts, sales returns and allowances, warranty reserves, inventory reserves, stock-based compensation expense, long-lived asset valuations, strategic investments, deferred income tax asset valuation allowances, uncertain tax positions, tax contingencies, self-insurance, restructuring costs, litigation and other loss contingencies. We base our estimates and assumptions on current facts, historical experience and various other factors that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities and the recording of revenue, costs and expenses that are not readily apparent from other sources. The actual results experienced by us may differ materially and adversely from our estimates. To the extent there are material differences between our estimates and the actual results, our future results of operations will be affected. For a description of our critical accounting policies and estimates, please refer to the “Critical Accounting Policies and Estimates” section in Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of our 2017 Annual Report. There have been no material changes in any of our critical accounting policies and estimates during the six months ended June 30, 2018.

 

Comparison of three months ended June 30, 2018 and June 30, 2017.

 

Revenue

 

Revenue for the three months ended June 30, 2018, was $6,003,180, a $2,764,005 or 85% increase compared to $3,239,175 for the comparable three months in 2017. Our deployments with existing customers continues to grow, new implementations are generating new revenues and new cloud based revenues were all factors in our revenue growth.

 

		Three months ended June 30,
		2018				2017				Variance
Revenues		$	6,003,180			$	3,239,175			$	2,764,005

 

Cost of Service

 

Cost of service includes origination, termination, network and billing charges from telecommunications operators, costs of telecommunications service providers, network costs, data center costs, facility cost of hosting network and equipment and cost in providing resale arrangements with long distance service providers, cost of leasing transmission facilities, international gateway switches for voice, data transmission services, and the cost of professional services of staff directly related to the generation of revenues, consisting primarily of employee-related costs associated with these services, including share-based compensation and the cost of subcontractors. Cost of service excludes depreciation and amortization. 

 

		Three months ended June 30,
		2018				2017				Variance
Revenues		$	6,003,180			$	3,239,175			$	2,764,005
Cost of service (excluding depreciation and amortization)			1,779,882				945,687				834,195
Margin (excluding depreciation and amortization)		$	4,223,298			$	2,293,488			$	1,929,810

  

Cost of service for the three-month period ended June 30, 2018 was $1,779,882, an increase of $834,195 or 88%, compared to $945,687 for the three-month period in 2017. This 88% increase in cost of service is in line with our 85% increase in revenue, as margins and additional costs associated from implementations for new clients have stayed relatively constant.

 

Product Development

 

Product Development costs consist primarily of salaries and related expenses, including share-based expenses, of employees involved in the development of the Company’s services, which are expensed as incurred. Costs such as database architecture, and Pareteum business operating system network and intelligent network platform development and testing are included in this function.

 

Product development costs for the three-month periods ended June 30, 2018 and 2017 were $753,931 and $273,512, respectively, an increase of $480,419 or 176%. The increase is due to the overall expansion of our lines of business year over year.

 

 

Sales and Marketing

 

Sales and Marketing expenses consist primarily of salaries and related expenses, including share-based expenses, for our sales and marketing staff, including commissions, payments to partners and marketing programs. Marketing programs consist of advertising, events, corporate communications and brand building.

  

Sales and marketing expenses for the three-month periods ended June 30, 2018 and 2017 were $652,442 and $370,795 respectively, an increase of $281,647 or 76%. This increase is a direct result of hiring new employees and allocating resources to growing our business.

 

General and Administrative

 

General and administrative expenses are our largest cost and consist primarily of overhead related salaries and expenses, including share-based compensation, for non-employee directors, finance and accounting, legal, internal audit and human resources personnel, legal costs, professional fees and other corporate expenses.

 

General and administrative expenses for the three-month period ended June 30, 2018 and 2017 were $2,214,070 and $1,490,838, respectively, an increase of $723,232 or 49%. This increase is primarily the results of increased travel, legal, accounting, and marketing costs.

  

Restructuring charges

 

Restructuring charges for the three months ended June 30, 2018 and 2017 were $5,592 and $458,877, a decrease of $453,285 or 99%, as a result of most restructuring activities being completed in 2017.

 

Share-based compensation

 

Share-based compensation is comprised of:

 

·

the expensing of the options granted under the 2008 and 2017 Plan to staff and management;

 

·

the expensing of the shares issued under the 2008 and 2017 Plans to contractors, directors and executive officers in lieu of cash compensation; and

 

·

the expensing of restricted shares issued for consultancy services.

 

For the three-month period ended June 30, 2018 and 2017, we recognized share-based compensation expense of $693,955 and $305,007, respectively, an increase of $388,948 or 128%. Insignificant adjustments were made in the three-month period ending June 30, 2018 relating to the forfeiture of certain options that were conformed with amounts previously recognized in 2018.

  

In the following table, we show the allocation of share-based compensation according to functions in the Consolidated Statement of Comprehensive Loss:

 

		Three months ended June 30,
		2018				2017
Cost of service (excluding depreciation and amortization)		$	(13,122	)		$	(3,436	)
Product Development			(25,845	)			803
Sales and Marketing			(39,430	)			28,848
General and Administrative			772,352				278,792
Restructuring			-				-
Total		$	693,955			$	305,007

 

Depreciation and Amortization

 

Depreciation and amortization expenses for the three-month period ended June 30, 2018 was $994,318, an increase of $121,625 or 14%, compared to $872,693 for the three-month period ended June 30, 2017. This was due to an increase in amortization of software development which was $227,102 for the current period.

 

Interest Income and Expense

 

Interest income for the three-month periods ended June 30, 2018 and 2017, was $43,193 and $54,900, respectively, a decrease of $11,707 or 21%. Interest income mainly consists of interest accrued for the $1.0 million promissory note by ValidSoft held by the Company and interest charged to customers for extended payment terms.

 

Interest expense for the three-month periods ended June 30, 2018 and 2017, was $99,708 and $406,041, respectively, a decrease of $306,333 or 75%. Interest expense decreased mainly as the result of paying off all Senior Secured Debt during December of 2017.

  

 

Interest Expense Related to Debt Discount Accretion

 

For the three months ended June 30, 2018 and 2017, interest expenses related to debt discount accretion were $30,272 and $293,362, respectively a decrease of $263,090 or 90%. This decrease is mainly the result of paying off all Senior Secured Debt during December of 2017.

 

Amortization of Deferred Financing Costs

 

Amortization of Deferred Financing Costs for the three-month periods ended June 30, 2018 and 2017 was $6,209 and $26,510, respectively, a decrease of $20,301 or 77%. This decrease is mainly the result of paying off all Senior Secured Debt during December of 2017.

 

Changes in derivative liabilities 

 

Changes in derivative liabilities for the three-month period ended June 30, 2018 was a gain of $1,597,647, an increase of $1,597,647, compared to $-0- for the same period in 2017. This is due to renegotiated terms and removal of the remaining outstanding derivative liability elements, the Company accounted for any effects of the amended terms through the profit and loss account for the changes in the fair value of the occurring this year and the remainder of the fair market value of the amendment on previous year derivative liability balance through equity.

 

The fair market value of the more complex conversion feature and warrant liability was determined by a third-party valuation expert using a Monte-Carlo Simulation model.

 

Other Income, net

 

Other income for the three-month periods ended June 30, 2018 and 2017 were $567,710 and $433,658, respectively, an increase of $134,052 or 31%. This represents the unrealized exchange rate gains and an adjustment to liabilities that are no longer deemed obligations.

  

(Benefit) Provision Income taxes

 

Income tax provision for the three-month period ended June 30, 2018 was $18,842, compared to an income tax benefit of $67,782 for the same period in 2017. The tax provision was calculated based upon an expected annual tax rate.  

 

Net Income

 

Net income for the three-month period ended June 30, 2018, was $1,656,464, an increase of $2,999,264 or 223%, compared to the loss of $1,342,800 for the same period in 2017. The increase in Net Income was primarily due to an increase in revenues of $2,764,005, decrease of interest and debt discount expenses for an aggregate amount of $589,724 as a result of the repayment of our senior secured loan at the end of 2017, a gain on the change in fair value in derivative liabilities for an amount of $1,597,647 and an increase of other income of $134,052.

 

Other Comprehensive Income (Loss)

 

We record foreign currency translation gains and losses as other comprehensive income or loss, which amounted to a loss of $79,137 and a gain of $16,169 for the three-month periods ended June 30, 2018 and 2017, respectively. This change is primarily attributable to the translation effect resulting from the fluctuations in the USD/Euro exchange rates.

 

Comparison of six months ended June 30, 2018 and June 30, 2017.

 

Revenue

 

Revenue for the six months ended June 30, 2018, was $10,115,750, a $4,081,632 or 68% increase compared to $6,034,118 for the comparable six months in 2017. Our deployments with existing customers continues to grow, new implementations are generating new revenues and new cloud based revenues were all factors in our revenue growth.

 

 

		Six months ended June 30,
		2018				2017				Variance
Revenues		$	10,115,750			$	6,034,118			$	4,081,632

 

Cost of Service

 

Cost of service includes origination, termination, network and billing charges from telecommunications operators, costs of telecommunications service providers, network costs, data center costs, facility cost of hosting network and equipment and cost in providing resale arrangements with long distance service providers, cost of leasing transmission facilities, international gateway switches for voice, data transmission services, and the cost of professional services of staff directly related to the generation of revenues, consisting primarily of employee-related costs associated with these services, including share-based compensation and the cost of subcontractors. Cost of service excludes depreciation and amortization. 

 

		Six months ended June 30,
		2018				2017				Variance
Revenues		$	10,115,750			$	6,034,118			$	4,081,632
Cost of service (excluding depreciation and amortization)			2,974,405				1,787,590				1,186,815
Margin (excluding depreciation and amortization)		$	7,141,345			$	4,246,528			$	2,894,817

  

Cost of service for the six-month period ended June 30, 2018 was $2,974,405, an increase of $1,186,815 or 66%, compared to $1,787,590 for the three-month period in 2017. This 66% increase in cost of service is in line with our 68% increase in revenue, as margins and additional costs associated from implementations for new clients have stayed relatively constant.

 

Product Development

 

Product Development costs consist primarily of salaries and related expenses, including share-based expenses, of employees involved in the development of the Company’s services, which are expensed as incurred. Costs such as database architecture, and Pareteum business operating system network and intelligent network platform development and testing are included in this function.

 

Product development costs for the six-month periods ended June 30, 2018 and 2017 were $1,480,776 and $558,206, respectively, an increase of $922,570 or 165%. The increase is due to the overall expansion of our lines of business year over year.

 

Sales and Marketing

 

Sales and Marketing expenses consist primarily of salaries and related expenses, including share-based expenses, for our sales and marketing staff, including commissions, payments to partners and marketing programs. Marketing programs consist of advertising, events, corporate communications and brand building.

 

 

Sales and marketing expenses for the six-month periods ended June 30, 2018 and 2017 were $1,341,440 and $690,282 respectively, an increase of $651,158 or 94%. This increase is a direct result of hiring new employees and allocating resources to growing our business.

 

General and Administrative

 

General and administrative expenses are our largest cost and consist primarily of overhead related salaries and expenses, including share-based compensation, for non-employee directors, finance and accounting, legal, internal audit and human resources personnel, legal costs, professional fees and other corporate expenses.

 

General and administrative expenses for the six-month period ended June 30, 2018 and 2017 were $4,510,922 and $3,856,226, respectively, a increase of $654,696 or 17%.

  

Restructuring charges

 

Restructuring charges for the six months ended June 30, 2018 and 2017 were $79,193 and $588,106, a decrease of $508,913 or 87%, as a result of most restructuring activities being completed in 2017.

 

Share-based compensation

 

Share-based compensation is comprised of:

 

·

the expensing of the options granted under the 2008 and 2017 Plan to staff and management;

 

·

the expensing of the shares issued under the 2008 and 2017 Plans to contractors, directors and executive officers in lieu of cash compensation and awards; and

 

·

the expensing of restricted shares issued for consultancy services.

 

For the six-month period ended June 30, 2018 and 2017, we recognized share-based compensation expense of $1,771,580 and $1,123,293, respectively, an increase of $648,287 or 58%.

  

In the following table, we show the allocation of share-based compensation according to functions in the Consolidated Statement of Comprehensive Loss:

 

		June 30,				June 30,
		2018				2017
Cost of service (excluding depreciation and amortization)		$	11,254			$	3,821
Product Development			16,587				17,143
Sales and Marketing			88,939				66,565
General and Administrative			1,628,896				1,035,764
Restructuring			25,904				-
Total		$	1,771,580			$	1,123,293

 

Depreciation and Amortization

 

Depreciation and amortization expenses for the six-month period ended June 30, 2018 was $1,959,609, an increase of $243,133 or 14%, compared to $1,716,476 for the same period in 2017. This was due to amortization of software development which was $414,504 for the current period and a decrease in depreciation expense due to certain assets having been fully depreciated in a prior period.

 

Interest Income and Expense

 

Interest income for the six-month periods ended June 30, 2018 and 2017, was $85,865 and $94,036, respectively, a decrease of $8,171 or 9%. Interest income mainly consists of interest accrued for the $1.0 million promissory note by ValidSoft held by the Company and interest charged to customers for extended payment terms.

 

Interest expense for the six-month periods ended June 30, 2018 and 2017, was $163,467 and $923,184, respectively, a decrease of $759,717 or 82%. Interest expense decreased mainly as the result of paying off all Senior Secured Debt during December of 2017.

 

 

Interest Expense Related to Debt Discount Accretion

 

For the six months ended June 30, 2018 and 2017, interest expenses related to debt discount accretion were $59,838 and $1,342,598, respectively a decrease of $1,282,760 or 96%. This decrease is mainly the result of paying off all Senior Secured Debt during December of 2017.

 

Amortization of Deferred Financing Costs

 

Amortization of Deferred Financing Costs for the six-month periods ended June 30, 2018 and 2017 was $12,351 and $222,623, respectively, a decrease of $210,272 or 94%. This decrease is mainly the result of paying off all Senior Secured Debt during December of 2017.

 

Changes in derivative liabilities 

 

Changes in derivative liabilities for the six-month period ended June 30, 2018 was $1,283,914, a decrease of $637,967 or 33%, compared to a change of $1,920,881 for the same period in 2017. During 2017 the change was the result of renegotiating and elimination of the derivative feature of certain outstanding warrants and convertible notes, also during 2018 we renegotiated terms of the remaining outstanding derivative liabilities, the company accounted for any effects of the amended terms through the profit and loss account for the changes in the fair value of the occurring this year and the remainder of the fair market value of the amendment on previous year derivative liability balance through equity.

 

Our derivative liabilities as of June 30, 2018 are $0, so no quarterly calculations will need to be made, in the past these fair market valuations for the conversion features and warrant liabilities were determined by a third-party valuation expert using a Monte-Carlo Simulation model.

  

Other Income, net

 

Other income for the six-month periods ended June 30, 2018 and 2017 were $637,255 and $470,476, respectively, an increase of $166,779 or 35%. This represents the unrealized exchange rate gains and an adjustment to liabilities for no longer deemed obligations.

  

(Benefit) Provision Income taxes

 

Income tax provision for the six-month period ended June 30, 2018 was $18,424, compared to an income tax benefit of $66,495 for the same period in 2017. The tax provision was calculated based upon an expected annual tax rate.  

  

Net Loss

 

Net loss for the six-month period ended June 30, 2018, was $477,641, a decrease of $2,158,299 or 82%, compared to the loss of $2,635,940 for the same period in 2017. The decrease in net loss was primarily due to an increase in revenues of $4,081,632, a decrease of interest and debt discount expenses for an aggregate amount of $2,252,749 due to the repayment of our senior secured loan, an increase of other income of $166,779, and a change in derivative liabilities of $637,967.

 

Other Comprehensive Income (Loss)

 

We record foreign currency translation gains and losses as other comprehensive income or loss, which amounted to a gain of $25,266 and a loss of $10,651 for the six-month periods ended June 30, 2018 and 2017, respectively. This change is primarily attributable to the translation effect resulting from the fluctuations in the USD/Euro exchange rates.

 

Liquidity and Capital Resources

 

As reflected in the accompanying consolidated financial statements, the Company reported net loss of $477,641 for the period ended June 30, 2018 and had an accumulated deficit of $300,020,851 as of June 30, 2018.

 

The cash balance including restricted cash of the Company at June 30, 2018 was $19,434,335.

 

 

Operating activities

 

Net cash used in operating activities of $952,476 for the six-month period ended June 30, 2018 was due to an increase in accounts payable and customer deposits of $606,393, an increase in net billings in excess of revenues and deferred revenue of $22,627, and was partly offset by the increase in accounts receivable of $1,851,046, an increase of prepaid expenses, deposits and other assets of $351,046, and a decrease in accrued expenses and other payables of $1,508,004.

 

As a result of the above, cash used in operating activities was $952,476 for the six months ended June 30, 2018 compared to net cash used in operating activities of $811,116 for the six months ended June 30, 2017 for a decrease of $141,360 or 15%. This increase was due to an increase in non-cash expenses and accounts payable, and offset by an increase in accounts receivable.

 

Investing activities

 

Net cash used in investing activities for the six months ended June 30, 2018 was $1,877,477, an increase of $1,544,847, or 464% compared to $332,630 in the same period in 2017. This change was mainly the result of software purchases of $1,218,305 and capitalized software development of $635,416 in 2018.

 

Financing activities

 

Net cash provided by financing activities for the six months ended June 30, 2018 and 2017 was $8,484,428 and $1,385,059, respectively, an increase of $7,099,369 or 513%. This increase was due to an increase of short term loans, proceeds from public offerings and the absence of principal repayments on senior secured debt that was paid off in December of 2017.

  

Effect of exchange rates on cash and cash equivalents

 

Effect of exchange rates on cash and cash equivalents for the six-month period ended June 30, 2018 was a gain of $42,185, compared to a loss of $294,918 for the same period in 2017.

 

As a result of the above activities, for six months ended June 30, 2018, we had cash, cash equivalents and restricted cash of $19,434,335, a net increase in cash and cash equivalents of $5,696,660 since December 31, 2017.

 

Off- Balance Sheet Arrangements

 

We do not have any off-balance sheet arrangements that have or are reasonably likely to have either a current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources that is material to investors, nor we have any relationships with unconsolidated organizations or financial partnerships, such as structured finance or special purpose entities that would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.

 

 

Item 3. Quantitative and Qualitative Disclosure about Market Risks

 

Foreign currency exchange rate

 

Although the majority of our business activities are carried out in Euros, we report its financial statements in USD. The conversion of Euros and USD leads to period-to-period fluctuations in our reported USD results arising from changes in the exchange rate between the USD and the Euro. Generally, when the USD strengthens relative to the Euro, it has an unfavorable impact on our reported revenue and income and a favorable impact on our reported expenses. Conversely, when the USD weakens relative to the Euro, it produces a favorable impact on our reported revenue and income, and an unfavorable impact on our reported expenses. The above fluctuations in the USD/Euro exchange rate therefore result in currency translation effects (not to be confused with real currency exchange effects), which impact our reported USD results and may make it difficult to determine actual increases and decreases in our revenue and expenses which are attributable to our actual operating activities. We carry out our business activities primarily in Euros, and we do not currently engage in hedging activities. As the clear majority of our business activities are carried out in Euros and we report our financial statements in USD, fluctuations in foreign currencies impact the total amount of assets and liabilities that we report for our foreign subsidiaries upon the translation of those amounts in USD. We do not believe that we have currently material exposure to interest rate or other market risk.

  

Item 4. Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

 

As of June 30, 2018, the Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s Principal Executive Officer and Principal Financial and Accounting Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures, as defined in Rule 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934. Based on the evaluation, the Company’s Principal Executive Officer and Principal Accounting Officer have concluded that the Company’s disclosure controls and procedures are effective to ensure that information required to be disclosed by the Company in the reports it files or submits under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms and is accumulated and communicated to our management as appropriate to allow timely decisions regarding required disclosure.

 

Changes in Internal Control Over Financial Reporting

 

On January 1, 2018, the Company adopted ASC Topic 606, “Revenue from Contracts with Customers” and other than this change and related update to the Company’s internal controls, there have been no additional changes in the Company’s internal control over financial reporting that occurred during the Company’s fiscal quarter ended June 30, 2018 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

    

PART II - OTHER INFORMATION

 

Item 1. Legal Proceedings

 

The Company is not presently engaged in any active material litigation or regulatory proceedings and no such proceedings are contemplated. Nevertheless, from time to time, the Company may be subject to legal actions and claims in the ordinary course of business. We have previously received, and may in the future continue to receive, claims from third parties asserting, among other things, infringement of their intellectual property rights. Future litigation may be necessary to defend ourselves or our customers or partners by determining the scope, enforceability and validity of third-party proprietary rights, or to establish our proprietary rights. The results of any current or future litigation cannot be predicted with certainty, and regardless of the outcome, litigation can have an adverse impact on us because of defense and settlement costs, diversion of management resources, and other factors.

 

Item 1A. Risk Factors

 

In addition to the other information set forth in this Quarterly Report on Form 10-Q, you should carefully consider the Risk Factors included in Part I, Item 1A. — “Risk Factors” of our Annual Report on Form 10-K for the year ended December 31, 2017. These Risk Factors could materially impact our business, financial condition and/or operating results. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely impact our business, financial condition and/or operating results.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

None.

 

 

Item 3. Defaults upon Senior Securities.

 

None.

 

Item 4. Mine Safety Disclosures

 

Not applicable.

 

Item 5. Other Information

 

On May 8, 2018, the Company entered into a software license agreement with iPass Inc. In exchange for perpetual access to certain licensed software for up to 25,000,000 authorized devices, the Company shall pay iPass Inc. a software license fee of $3,000,000 (which includes the first year annual maintenance fee of 20%). The Company shall pay iPass Inc. the software license fee in three increments of $1,000,000 by June 15, 2018, September 30, 2018 and December 31, 2018, respectively. An annual maintenance fee of $600,000 for support services and software updates will be paid to iPass Inc. by the Company annually beginning May 8, 2019 until the annual maintenance is not renewed.

 

On May 11, 2018, the Company closed on its previously announced public offering of common stock gross proceeds of $6,100,000. The public offering was a shelf takedown off of our registration statement on Form S-3 (File No. 333-213575). The offering was conducted pursuant to a securities purchase agreement (the “Purchase Agreement”), with select accredited investors, and a placement agency agreement (the “Placement Agreement”), between the Company and Dawson James Securities, Inc., the placement agent on a best-efforts basis with respect to the offerings (the “Placement Agent”), that were entered into on May 9, 2018. The Company sold 2,440,000 shares of common stock at a purchase price of $2.50 per share. The material terms of the offerings are described in a prospectus supplement which was filed by us with the Securities and Exchange Commission pursuant to Rule 424(b) under the Securities Act of 1933, as amended, on May 10, 2018. The Placement Agreement contains customary representations, warranties and agreements by us and the Placement Agent. We also agreed in the Placement Agreement to indemnify the Placement Agent against certain liabilities.

 

On June 29, 2018, the Company amended the Saffelberg Investments N.V. (“Saffelberg”)  convertible note dated August 18, 2016 with principal of $723,900 removing Sections 4(d)(iii) and (iv) and will separately amended the August 18, 2016 Warrant removing Sections 2(c) and (d). This amendment removed the elements that generated the derivative liabilities and related expense from the convertible note and warrant.

 

On June 29, 2018, the Company entered into a term sheet with Saffelberg agreeing to (i) pay the balance and interest of the September 7, 2017 repayment agreement in the amount of $262,735 on July 11, 2018, (ii) convert at $2.37 per share on July 11, 2018 the August 18, 2016 $723,900 convertible note and accrued interest into 387,913 common shares, (iii) adjust the price of the 96,250 warrants to $2.37 on July 11, 2018 and (iv) register converted 387,913 common shares, the 96,250 warrant and other common stock equivalents held by Saffelberg in the next registration statement.

 

On July 31, 2018, the Company filed a prospectus, following the filing of a registration statement on Form S-3, announcing the resale of an aggregate of 7,151,146 shares of common stock, par value $0.00001 per share, issuable upon the exercise of warrants issued to investors in a private placement offering conducted by the Company and closed on December 5, 2017. On July 25, 2018, the last reported sale price of the Company’s common stock on the New York Stock Exchange was $2.93 per share. The selling stockholders may offer all or part of the shares for resale from time to time through public or private transactions, at either prevailing market prices or at privately negotiated prices. The Company has paid all of the registration expenses incurred in connection with the registration of the shares, but the Company will not pay any of the selling commissions, brokerage fees or related expenses.

 

On August 3, 2018, the Company filed a DEFM14A (the “Proxy Statement”), announcing the proposed acquisition of Artilium plc, a public limited company registered in England and Wales (“Artilium”). In connection with the proposed acquisition, Artilium shareholders would be entitled to receive, for each Artilium ordinary share held by such shareholders, 1.9 pence in cash and 0.1016 new shares of the Company’s common stock, resulting in the issuance of an aggregate of approximately 37,852,076 new shares of the Company’s common stock. Following the transaction, Artilium shareholders will own approximately 35.14% of the Company’s fully diluted common stock and the Company would acquire the entire issued and to be issued ordinary shares of Artilium.

 

Further, under the Proxy Statement, the Company announced its proposed 2018 Long-Term Incentive Compensation Plan, including the reservation of eight million (8,000,000) shares of common stock with a 15% annual increase to the total number of reserved shares thereunder.

 

On August 6, 2018, the Company entered into an Increased Independent Director Duties & Fee Proposal Agreement (the “Agreement”) between the Company and Mr. Yves van Sante, an independent director of the Company. The Agreement provides for certain compensation to be paid to Mr. van Sante, including the following: $105,000 to be paid to Mr. van Sante in consideration of his current duties and annual remuneration; $75,000 to be paid to Mr. van Sante in consideration of his performance of additional duties relating to Pareteum’s forecasted future global operations in Asia and Europe; $120,000 to be paid to Mr. van Sante in common stock of the Company, having a par value of $0.00001 per share, as a one-off extraordinary service bonus award in consideration of extraordinary service to the Company during 2017 and 2018.

 

 

Item 6. Exhibits

 

(a)

Exhibits

 

10.1		Software License Agreement, dated May 8, 2018, by and between iPass Inc. and Pareteum Corporation
31.1		Certification of the principal executive officer pursuant to Rule 13a-14(a) or Rule 15(d)-14(a)
31.2		Certification of the principal accounting officer pursuant to Rule 13a-14(a) or Rule 15(d)-14(a)
32.1		Certification pursuant to 18 U.S.C. §1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2		Certification pursuant to 18 U.S.C. §1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101.INS		XBRL Instance Document
101.SCH		XBRL Taxonomy Extension Schema Document
101.CAL		XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF		XBRL Taxonomy Extension Definition Linkbase Document
101.LAB		XBRL Taxonomy Extension Label Linkbase Document
101.PRE		XBRL Taxonomy Extension Presentation Linkbase Document

 

 

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.

 

	PARETEUM CORPORATION
Date: August 13, 2018	By	/s/ Robert H. Turner
		Robert H. Turner
		Executive Chairman
		(Principal Executive Officer)
Date: August 13, 2018	By	/s/ Edward O’Donnell
		Edward O’Donnell
		Chief Financial Officer
		(Principal Financial and Accounting Officer)