Attached files
file | filename |
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EX-31.2 - EX-31.2 - EASYLINK SERVICES INTERNATIONAL CORP | v205480_ex31-2.htm |
EX-32.2 - EX-32.2 - EASYLINK SERVICES INTERNATIONAL CORP | v205480_ex32-2.htm |
EX-31.1 - EX-31.1 - EASYLINK SERVICES INTERNATIONAL CORP | v205480_ex31-1.htm |
EX-32.1 - EX-32.1 - EASYLINK SERVICES INTERNATIONAL CORP | v205480_ex32-1.htm |
UNITED
STATES
SECURITIES
AND EXCHANGE COMMISSION
WASHINGTON,
DC20549
FORM
10-Q
(Mark
One)
þ
|
QUARTERLY
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES
EXCHANGE ACT OF 1934
|
For
the quarterly period ended October 31, 2010
|
|
o
|
TRANSITION
REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES
EXCHANGE ACT OF 1934
|
For
the transition period from ___ to ___
Commission
File Number: 001-34446
EasyLink
Services International Corporation
(Exact
Name of Registrant as Specified in Its Charter)
Delaware
|
13-3645702
|
(State or Other Jurisdiction
of Incorporation or Organization)
|
(I.R.S.
Employer Identification No.)
|
6025
The Corners Parkway, Suite 100
|
|
Norcross,
Georgia
|
30092
|
(Address
of Principal Executive Offices)
|
(Zip
Code)
|
Registrant’s
telephone number, including area code: (678) 533-8000
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 þ No o
Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, 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 o No
o
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
definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.
Large
accelerated filer o
|
Accelerated
filer o
|
Non-accelerated
o
|
Smaller
reporting company þ
|
Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes o No þ
As of
November 30, 2010, the issuer had outstanding 29,318,324 shares of class A
common stock.
EASYLINK
SERVICES INTERNATIONAL CORPORATION
INDEX
TO FORM 10-Q
Page
|
||
PART
I FINANCIAL INFORMATION
|
||
Item
1. Financial Statements
|
1
|
|
Condensed
Consolidated Balance Sheets as of October 31, 2010 (Unaudited) and July
31, 2010
|
1
|
|
Condensed
Consolidated Statements of Operations for the three months ended October
31, 2010 and 2009 (Unaudited)
|
2
|
|
Condensed
Consolidated Statements of Cash Flows for the three months ended October
31, 2010 and
2009 (Unaudited)
|
3
|
|
Notes
to Condensed Consolidated Financial Statements (Unaudited)
|
4
|
|
Item
2. Management’s Discussion and Analysis of Financial
Condition and Results of Operations
|
13
|
|
Item
3. Quantitative and Qualitative Disclosures about Market
Risk
|
18
|
|
Item
4T. Controls and Procedures
|
18
|
|
PART
II OTHER INFORMATION
|
||
Item
1. Legal Proceedings
|
19
|
|
Item
1A. Risk Factors
|
19
|
|
Item
2. Unregistered Sales of Equity Securities and Use of
Proceeds
|
20
|
|
Item
3. Defaults Upon Senior Securities
|
20
|
|
Item
4. [Removed and Reserved]
|
20
|
|
Item
5. Other Information
|
20
|
|
Item
6. Exhibits
|
21
|
|
Signatures
|
22
|
PARTI.
FINANCIAL INFORMATION
Item
1. Financial Statements
Condensed
Consolidated Balance Sheets as of October 31, 2010 and July 31, 2010
(Unaudited)
October 31,
2010
|
July 31,
2010
|
|||||||
ASSETS
|
||||||||
Current
assets:
|
||||||||
Cash
and cash equivalents
|
$ | 18,084,541 | $ | 20,474,709 | ||||
Accounts
receivable, net of allowance for doubtful accounts and allowance for sales
returns and allowances of $1,920,556 and $1,662,502,
respectively
|
30,869,495 | 11,480,688 | ||||||
Prepaid
expenses and other current assets
|
3,627,507 | 1,865,013 | ||||||
Deferred
tax asset
|
6,602,064 | 6,597,983 | ||||||
Total
current assets
|
59,183,607 | 40,418,393 | ||||||
Property
and equipment, net of accumulated depreciation of $17,205,845 and
$16,379,755, respectively
|
20,895,100 | 5,521,146 | ||||||
Goodwill
|
62,776,775 | 34,454,935 | ||||||
Other
intangible assets, net
|
67,126,403 | 15,874,281 | ||||||
Deferred
tax asset, net of valuation allowance
|
7,134,343 | 7,588,257 | ||||||
Other
assets
|
1,104,414 | 629,261 | ||||||
Total
assets
|
$ | 218,220,642 | $ | 104,486,273 | ||||
LIABILITIES
AND STOCKHOLDERS’ EQUITY
|
||||||||
Current
liabilities:
|
||||||||
Accounts
payable
|
$ | 7,520,394 | $ | 2,310,168 | ||||
Notes
payable
|
27,901,860 | 15,257,852 | ||||||
Accrued
expenses
|
20,156,206 | 8,740,386 | ||||||
Accrued
dividends, deferred revenue and other current liabilities
|
1,622,747 | 1,497,174 | ||||||
Total
current liabilities
|
57,201,207 | 27,805,580 | ||||||
Notes
payable, long term
|
92,113,782 | 9,684,263 | ||||||
Other
liabilities
|
790,998 | 285,017 | ||||||
Total
liabilities
|
150,105,987 | 37,774,860 | ||||||
Commitments
and contingencies
|
||||||||
Stockholders’
Equity:
|
||||||||
Preferred
stock:
|
||||||||
Series
C Preferred Stock — par value $.01 per share, 5,000,000 shares authorized,
44.76 votes per share; 5,000 shares issued and 5,000 outstanding
(liquidation value of $5,166,575 at October 2010 and $5,116,164 at July
2010)
|
50 | 50 | ||||||
Common
stock:
|
||||||||
Class
A — par value $.01 per share, 300,000,000 shares authorized, one vote per
share; 30,297,802 and 30,255,293 shares issued at October 31, 2010 and
July 31, 2010, respectively
|
302,978 | 302,553 | ||||||
Additional
paid-in capital
|
133,014,068 | 132,798,748 | ||||||
Treasury
stock — 1,000,000 shares as of October 2010 and July 2010
|
(2,122,288 | ) | (2,122,288 | ) | ||||
Accumulated
other comprehensive loss
|
(5,576,428 | ) | (5,796,782 | ) | ||||
Accumulated
deficit
|
(57,503,725 | ) | (58,470,868 | ) | ||||
Total
stockholders’ equity
|
68,114,655 | 66,711,413 | ||||||
Total
liabilities and stockholders’ equity
|
$ | 218,220,642 | $ | 104,486,273 |
See notes
to condensed consolidated financial statements.
1
Condensed
Consolidated Statements of Operations for the three months ended October 31,
2010 and 2009 (Unaudited)
Three Months Ended
October 31,
|
||||||||
2010
|
2009
|
|||||||
Service
revenues, net
|
$ | 22,735,880 | $ | 20,498,141 | ||||
Cost
of services
|
6,591,278 | 6,086,865 | ||||||
Gross
profit
|
16,144,602 | 14,411,276 | ||||||
Operating
expenses:
|
||||||||
Product
development and enhancement
|
1,938,151 | 1,858,874 | ||||||
Selling
and marketing
|
2,957,710 | 3,269,434 | ||||||
General
and administrative
|
9,186,665 | 7,222,582 | ||||||
Operating
income
|
2,062,076 | 2,060,386 | ||||||
Other
income (expense):
|
||||||||
Interest
and investment income
|
3,547 | 7,336 | ||||||
Interest
expense
|
(813,096 | ) | (493,832 | ) | ||||
Foreign
exchange gain
|
185,837 | 279,950 | ||||||
Other
income
|
121,542 | 54,006 | ||||||
(502,170 | ) | (152,540 | ) | |||||
Income
before income taxes
|
1,559,906 | 1,907,846 | ||||||
Provision
for income taxes
|
592,764 | 543,860 | ||||||
Net
income
|
967,142 | 1,363,986 | ||||||
Dividends
on preferred stock
|
(50,411 | ) | (216,187 | ) | ||||
Net
income attributable to common stockholders
|
$ | 916,731 | $ | 1,147,799 | ||||
Basic
income per common share
|
$ | .03 | $ | .04 | ||||
Diluted
income per common share
|
$ | .03 | $ | .04 | ||||
Anti-dilutive
stock options, restricted stock, warrants, and Series C preferred
stock
|
1,446,451 | 4,184,714 | ||||||
Weighted
average number of common shares outstanding — basic
|
29,260,600 | 26,269,172 | ||||||
Weighted
average number of common shares outstanding — diluted
|
30,217,739 | 29,415,574 |
See notes
to condensed consolidated financial statements.
2
Condensed
Consolidated Statements of Cash Flows for the three months ended October 31,
2010 and 2009
(Unaudited)
Three Months Ended October 31,
|
||||||||
2010
|
2009
|
|||||||
Cash
flows from operating activities:
|
||||||||
Net
income
|
$ | 967,142 | $ | 1,363,986 | ||||
Adjustments
to reconcile net income to net cash provided by operating
activities:
|
||||||||
Depreciation
and amortization
|
2,208,504 | 2,056,778 | ||||||
Bad
debt expense
|
48,295 | 106,926 | ||||||
Amortization
of discount and other non-cash interest expense
|
496,196 | 148,287 | ||||||
Deferred
tax expense
|
449,833 | 477,000 | ||||||
Non-cash
charges for equity instruments issued for compensation and
services
|
266,159 | 235,915 | ||||||
Non-cash
equity in losses of investment and other non-cash items
|
— | 130 | ||||||
Changes
in assets and liabilities
|
||||||||
Accounts
receivable
|
(2,939,555 | ) | (432,737 | ) | ||||
Prepaid
expenses and other assets
|
(96,042 | ) | 257,391 | |||||
Accounts
payable
|
1,548,553 | (290,763 | ) | |||||
Accrued
expenses
|
2,171,905 | 602,214 | ||||||
Other
liabilities
|
(200,493 | ) | (182,413 | ) | ||||
Net
cash provided by operating activities
|
4,920,497 | 4,342,714 | ||||||
Cash
flows from investing activities:
|
||||||||
Purchases
of property and equipment
|
(173,956 | ) | (297,078 | ) | ||||
Acquisition,
net of cash acquired
|
(101,514,250 | — | ||||||
Net
cash used in investing activities
|
(101,688,206 | ) | (297,078 | ) | ||||
Cash
flows from financing activities:
|
||||||||
Borrowings
of notes payable
|
122,000,000 | — | ||||||
Repayments
of notes payable and capital lease
|
(27,621,851 | ) | (7.082 | ) | ||||
Net
cash (used in) financing activities
|
94,378,149 | (7,082 | ) | |||||
Effect
of foreign exchange rate changes on cash and cash
equivalents
|
(608 | ) | (113,369 | ) | ||||
Net
(decrease) increase in cash and cash equivalents
|
(2,390,168 | ) | 3,925,185 | |||||
Cash
and cash equivalents, beginning of period
|
20,474,709 | 10,972,365 | ||||||
Cash
and cash equivalents, end of period
|
$ | 18,084,541 | $ | 14,897,550 |
See notes
to condensed consolidated financial statements.
3
EASYLINK
SERVICES INTERNATIONAL CORPORATION
Notes
to Condensed Consolidated Financial Statements (Unaudited)
1.
BASIS OF PRESENTATION
The
accompanying unaudited condensed consolidated financial statements of EasyLink
Services International Corporation (referred to as “EasyLink,” the “Company,”
“we,” “our” or “us”) have been prepared in accordance with accounting principles
generally accepted in the United States of America (“GAAP”) for interim
financial information. In the opinion of management, such statements include all
adjustments (consisting only of normal recurring adjustments) necessary for the
fair presentation of our financial position, results of operations and cash
flows as of the dates and for the periods indicated. Pursuant to the
requirements of the Securities and Exchange Commission (“SEC”) applicable to
Quarterly Reports on Form 10-Q, the accompanying financial statements do not
include all disclosures required by GAAP for annual financial statements. While
we believe the disclosures presented are adequate to make the information not
misleading, these unaudited interim condensed consolidated financial statements
should be read in conjunction with the consolidated financial statements and
related notes included in our Annual Report on Form 10-K for the fiscal year
ended July 31, 2010.
The
condensed consolidated balance sheet as of July 31, 2010 has been derived from
the audited consolidated financial statements as of that date.
Operating
results for the three–month period ended October 31, 2010 are not necessarily
indicative of the results that may be expected for the fiscal year ending July
31, 2011 or any future period.
Principles
of consolidation and basis of presentation
The
consolidated financial statements include the accounts of EasyLink and our
wholly-owned subsidiaries. All significant intercompany transactions have been
eliminated in consolidation.
Recently
Adopted Accounting Pronouncements
In
January 2010, the FASB issued ASU 2010-06, Fair Value Measurements and
Disclosures (Topic 820): Improving Disclosures about Fair Value
Measurements. This ASU requires reporting entities to make new
disclosures about recurring or nonrecurring fair-value measurements including
significant transfers into and out of Level 1 and Level 2 fair-value
measurements and information about purchases, sales, issuances, and settlements
on a gross reconciliation of Level 3 fair-value measurements. This
ASU also clarifies existing fair-value measurement disclosure guidance about the
level of disaggregation, inputs, and valuation techniques. This ASU
is effective for interim and annual reporting periods beginning after December
15, 2009, except for the disclosures about purchases, sales, issuances, and
settlements in the roll forward of activity in Level 3 fair value
measurements. Those disclosures are effective for fiscal years
beginning after December 15, 2010, and for interim periods within those fiscal
years. Early adoption is permitted. The adoption of the
applicable portions of this ASU did not have a material effect on the Company's
consolidated financial statements. The Company is currently
evaluating the impact that the adoption of the remainder of this guidance might
have on its consolidated financial statement disclosures in the first quarter of
fiscal 2012.
In
October 2009, the FASB issued ASU No. 2009-13, which amends ASC 605-25,
Revenue Recognition;
Multiple-Element Arrangements. These amendments provide
clarification on whether multiple deliverables exist, how the arrangement should
be separated, and the consideration allocated. An entity is required to
allocate revenue in an arrangement using estimated selling prices of
deliverables in the absence of vendor-specific objective evidence or third-party
evidence of selling price. These amendments also eliminate the use of the
residual method and require an entity to allocate revenue using the relative
selling price method. These amendments significantly expand the disclosure
requirements for multiple-deliverable revenue arrangements. These
provisions are to be applied on a prospective basis for revenue arrangements
entered into or materially modified in fiscal years beginning on or after
June 15, 2010, with earlier application permitted. The Company is
currently evaluating the impact of these amendments on its consolidated
financial statements.
4
In
October 2009, the FASB issued ASU No.2009-14 Software (Topic 985) “Certain
Revenue Arrangements That Include Software Elements – a consensus of the FASB
Emerging Issues Task Force”. This ASU is only effective for fiscal
years beginning on or after June 15, 2010. We have determined that the ASU
did not have a material impact on our financial statements.
2.
ACQUISITION
Xpedite
Business
On
October 21, 2010 we acquired the iSend and iNotify advanced messaging businesses
(the “Xpedite Business”) from Premiere Global Services, Inc. (“PGI”) for $105
million in cash, through the purchase of PGI’s wholly-owned subsidiaries,
Xpedite Systems, LLC and Premiere Global Services (UK) Limited and certain
related assets owned by PGI’s subsidiary Premiere Conferencing (Canada)
Limited. We paid for the acquisition with $5 million of cash on hand
and a new credit facility consisting of a $110 million term loan and a $20
million revolving loan (the “2010 Loans”), of which $12 million of the revolving
loan was drawn upon to refinance our existing credit facility
indebtedness. The 2010 Loans call for quarterly payments of
$4,125,000 with interest and a final balloon payment in 2014, with interest,
which commence on January 31, 2011.
The 2010
Loans are secured by substantially all of the US assets of the Company and
guarantees by certain of the international subsidiaries of the Company and
related pledges of a portion of the stock of certain of the international
subsidaries.
The Credit Agreement for the 2010
Loans contains usual and customary covenants for financings of this type,
including, among other things: (i) requirements to deliver financial
statements, other reports and notices; (ii) restrictions on additional
indebtedness; (iii) restrictions on dividends, distributions and
redemptions of equity and repayment of subordinated indebtedness;
(iv) restrictions on liens; (v) restrictions on making certain
payments; (vi) restrictions on investments; (vii) restrictions on
asset dispositions and other fundamental changes; and (viii) restrictions
on transactions with affiliates. In addition, the Credit Agreement contains
certain financial covenants, including, among other things: (i) a maximum
leverage ratio; (ii) a minimum fixed charge coverage ratio; (iii) a
minimum amount of consolidated adjusted EBITDA; (iv) a minimum amount of
liquidity; and (v) a maximum amount of capital expenditures. Without the
permission of the Lenders, our ability to complete material acquisitions will be
restricted. A default on any of these restrictions and covenants will
cause, in certain circumstances, the amounts due under such agreements to become
due and payable upon demand.
In order to close the Xpedite
acquisition, we spent approximately $3.8 million, of which approximately $1.6
million was expensed as occurred and approximately $2.2 million was recorded as
a discount to the term loan and will be amortized over the same period as the
term loan.
An adjustment to the purchase price
will be made based on the working capital of the acquired business at the
acquisition date as defined in the Security and Asset Purchase Agreement dated
October 21, 2010 entered into in connection with the acquisition of the Xpedite
Business. If the working capital is less than $6.4 million, PGI will
pay for the shortfall. If the working capital is greater than $6.4
million we will be required to pay the surplus to PGI up to $2.0
million. As of the end of the quarter management expects that we will
be required to pay PGI the $2.0 million for the working capital
adjustment.
5
2. ACQUISITION
(Continued)
The
following table provides the estimated fair value of assets acquired and
liabilities assumed in the Xpedite Business acquisition. The
preliminary purchase price allocation is based on the estimated fair value of
assets acquired and liabilities assumed:
Cash
|
$ | 5,485,750 | ||
Accounts
receivable
|
16,389,901 | |||
Prepaid
expenses and other current assets
|
1,883,623 | |||
Fixed
assets
|
16,086,492 | |||
Intangible
assets — customer relationships
|
34,800,000 | |||
Intangible
assets — software
|
16,400,000 | |||
Intangible
assets — non-competes
|
1,200,000 | |||
Other
Assets
|
300,493 | |||
Accounts
payable and Accrued Expenses
|
(12,791,105 | ) | ||
Other
current liabilities
|
(197,258 | ) | ||
Capital
leases
|
(199,182 | ) | ||
Long
term liabilities
|
(543,157 | ) | ||
Fair
value of net assets acquired
|
78,815,557 | |||
Goodwill
|
28,184,443 | |||
Total
purchase price
|
$ | 107,000,000 |
Estimates
of acquired intangible assets are as follows:
Acquired Intangible Assets
|
Estimated
Fair Value
|
Weighted Average
Estimated
Useful Life (yrs)
|
||||||
Customer
Relationships
|
$ | 34,800,000 |
10-12
|
|||||
Internally
developed software
|
16,400,000 |
8-10
|
||||||
Non-competes
|
1,200,000 |
5
|
||||||
Goodwill
|
28,184,443 |
Non-amortizable
|
As part
of the allocation of the purchase price, using an independent valuation expert’s
preliminary results, the Company has recorded certain tangible assets,
intangible assets and goodwill. The preliminary results are subject to
adjustment upon finalization of the valuation. The final allocation price could
differ materially from the preliminary allocation. Any subsequent changes to the
purchase price allocation that result in material changes to our consolidated
financial results will be adjusted retrospectively.
The
Goodwill and Intangibles acquired in the Xpedite acquisition were all related to
the On Demand business segment.
6
2.
ACQUISITION (Continued)
Pro
Forma Financial Information
The pro
forma statements below are for the combined entities and demonstrate the
statement of operations as if the transaction had occurred as of the beginning
of the quarters ended October 31, 2009. The statements for the
Xpedite Business are based on carve-out financial statements provided by PGI,
and as such, reflect expenses incurred by PGI in order to support their
management structure and includes allocations deemed reasonable by PGI’s
management.
Pro
Forma Consolidated Combined Statement of Operations
(in
thousands)
Three Months Ended
October 31,
|
||||||||
2010
|
2009
|
|||||||
Service
revenues, net
|
$ | 48,125 | $ | 52,772 | ||||
Cost
of services
|
16,660 | 19,454 | ||||||
Gross
profit
|
31,465 | 33,318 | ||||||
Operating
expenses:
|
||||||||
Product
development and enhancement
|
3,021 | 3,439 | ||||||
Selling
and marketing
|
8,671 | 10,368 | ||||||
General
and administrative
|
23,733 | 29,248 | ||||||
Operating
income
|
(3,960 | ) | (9,737 | ) | ||||
Other
income (expense):
|
||||||||
Interest
expense, net
|
(1,340 | ) | (1,412 | ) | ||||
Foreign
exchange gain
|
208 | 340 | ||||||
Other
income
|
122 | 54 | ||||||
Income
before income taxes
|
(4,970 | ) | (10,755 | ) | ||||
Benefit
for income taxes
|
(1,889 | ) | (3,011 | ) | ||||
Net
income
|
(3,081 | ) | (7,744 | ) | ||||
Dividends
on preferred stock
|
(50 | ) | (216 | ) | ||||
Net
income attributable to common stockholders
|
$ | (3,131 | ) | $ | (7,960 | ) | ||
Basic
income per common share
|
$ | (0.11 | ) | $ | (0.30 | ) | ||
Diluted
income per common share
|
$ | (0.11 | ) | $ | (0.30 | ) | ||
Weighted
average number of common shares outstanding — basic
|
29,261 | 26,269 | ||||||
Weighted
average number of common shares outstanding — diluted
|
29,261 | 29,269 |
The pro
forma statements reflect the results of operations for the Company for its
fiscal quarters ended October 31, 2010 and 2009, and the results of operations
for the Xpedite Business for its fiscal quarters ended September 30, 2010 and
2009. The pro forma adjustments used to prepare the statements above, include
the removal of intercompany interest between the Xpedite Business and PGI of $0
in 2009 and $71,000 in 2010 as well as the removal of the amortization of the
intangible assets for the Xpedite Business due to the revaluation of intangibles
that was performed subsequent to the acquisition of $29,000 in 2009 and $23,000
in 2010. In addition to the removal of expenses for the Xpedite
Business, interest expense has been increased by $926,000 in 2009 and $561,000
in 2010 to reflect the new debt agreement and amortization of the intangibles
has been increased by $1,306,000 for 2009 and 2010 in order to reflect the new
value of the intangibles subsequent to the acquisition date.
7
2.
ACQUISITION (Continued)
For the
10 day period ending October 31, 2010 the Xpedite Business provided
approximately $474K in net income for the On Demand business segment, which
consisted of approximately $2.9 million in gross revenue and $2.4 million in
expenses.
3.
ACQUIRED INTANGIBLE ASSETS AND GOODWILL
Intangible
assets net of accumulated amortization are summarized as follows:
Weighted average
amortization
period (years)
|
October 31, 2010
|
July 31, 2010
|
||||||||||
Purchased
customer relationships
|
6-12
|
$ | 52,726,101 | $ | 17,853,802 | |||||||
Internally
developed systems
|
4-10
|
26,974,244 | 10,516,331 | |||||||||
Non-Competes
|
5
|
1,200,000 | — | |||||||||
Trade
names
|
<1
|
3,745,539 | 3,733,670 | |||||||||
Intangible
assets, gross
|
$ | 84,645,884 | $ | 32,103,803 | ||||||||
Less
accumulated amortization:
|
||||||||||||
Purchased
customer relationships
|
$ | (8,093,155 | ) | (7,437,966 | ) | |||||||
Internally
developed systems
|
(9,259,953 | ) | (8,640,564 | ) | ||||||||
Non-Competes
|
(6,452 | ) | — | |||||||||
Trade
names
|
(159,921 | ) | (150,992 | ) | ||||||||
Accumulated
amortization
|
(17,519,481 | ) | (16.229,522 | ) | ||||||||
Intangible
assets, net
|
$ | 67,126,403 | $ | 15,874,281 |
Trade
names in the amount of $3,495,539 are not amortizable.
The
changes in the carrying amount of intangible assets for the quarter ended
October 31, 2010 is as follows:
Balance
at July 31, 2010
|
$ | 15,874,281 | ||
Purchases
of customer relationships
|
34,800,000 | |||
Purchase
of internally developed software
|
16,400,000 | |||
Purchase
of non-competes
|
1,200,000 | |||
Intangible
amortization
|
(1,318,375 | ) | ||
Foreign
currency effect
|
170,497 | |||
Balance
at October 31, 2010
|
$ | 67,126,403 |
The
changes in the carrying amount of goodwill for the quarter ended October 31,
2010 as follows:
Balance
at July 31, 2010
|
$ | 34,454,935 | ||
Goodwill
purchased
|
28,184,443 | |||
Foreign
currency effect
|
137,397 | |||
Balance
at October 31, 2010
|
$ | 62,776,775 |
8
4.
NOTES PAYABLE
Long term
debt and capital lease obligations at October 31, 2010 and July 31, 2010 are as
follows:
October 31, 2010
|
July 31, 2010
|
|||||||
Term
Loan
|
$ | 110,000,000 | $ | 25,416,667 | ||||
Revolving
Line of Credit
|
12,000,000 | — | ||||||
Capital
Leases
|
199,182 | — | ||||||
Subtotal
|
122,199,182 | 25,416,667 | ||||||
Less
current portion of capital leases
|
91,261 | — | ||||||
Less
debt discount
|
2,183,540 | 474,552 | ||||||
Less
current portion of long term debt
|
27,810,599 | 15,257,852 | ||||||
Long
term debt
|
$ | 92,113,782 | $ | 9,684,263 |
On
October 21, 2010 we acquired the Xpedite Business for $105 million in
cash. We paid for the acquisition with $5 million of cash on hand and
a new credit facility consisting of a $110 million term loan and a $20 million
revolving loan, which also refinanced our existing credit facility
indebtedness. The 2010 Loans call for quarterly payments of
$4,125,000 with interest and a final balloon payment in 2014, with interest,
which commence on January 31, 2011.
The debt
discount consists of bank fees associated with the closing of the 2010 loans
totaling approximately $2.2 million. The other expenses related to
the 2010 acquisitions were expensed as incurred in accordance with ASC 805
Business Combinations and total approximately $1.6 million.
The
Credit Agreement for the 2010 Loans contains usual and customary covenants for
financings of this type, including, among other things: (i) requirements to
deliver financial statements, other reports and notices; (ii) restrictions on
additional indebtedness; (iii) restrictions on dividends, distributions and
redemptions of equity and repayment of subordinated indebtedness;
(iv) restrictions on liens; (v) restrictions on making certain
payments; (vi) restrictions on investments; (vii) restrictions on
asset dispositions and other fundamental changes; and (viii) restrictions
on transactions with affiliates. In addition, the Credit Agreement
contains certain financial covenants, including, among other things: (i) a
maximum leverage ratio; (ii) a minimum fixed charge coverage ratio;
(iii) a minimum amount of consolidated adjusted EBITDA; (iv)a minimum
amount of liquidity; and (v) a maximum amount of capital expenditures.
Without the permission of the Lenders, our ability to complete material
acquisitions will be restricted. A default on any of these
restrictions and covenants will cause, in certain circumstances, the amounts due
under such agreements to become due and payable upon demand.
Borrowings
under the Credit Agreement bear interest, at the Company’s election, at a rate
tied to one of the following rates, in each case plus a specified margin:
(i) the higher of (1) the Administrative Agent’s prime lending rate,
(2) the U.S. Federal Funds Rate plus 0.5%, and (3) adjusted one-month
LIBOR plus 1.0%; (ii) adjusted LIBOR for the interest period of such
borrowing; and (iii) a LIBOR index rate. The interest margin for each such
type of borrowing varies from 1.75% to 4.50%, depending on the Company’s
consolidated leverage ratio at the time of such borrowing.
5.
STOCKHOLDERS’
EQUITY
Dividends
The
holders of the outstanding shares of our series C preferred stock are entitled
to receive a 4% per share annual cumulative dividend payable in cash or shares
of common stock at our option. Dividends accrue and are cumulative on
a daily basis, whether or not earned or declared. The series C
preferred stock has a par value of $0.01 and a liquidation value of $1,000 per
share.
9
5.
STOCKHOLDERS’
EQUITY (Continued)
As of
October 31, 2010 and July 31, 2010, accrued dividends, for the series C
preferred stock, of $166,575 and $116,164, respectively, were included in
accrued expenses on our balance sheet. Total liquidation preferences of the
series C preferred stock were $5,166,575 and $5,116,164 at October 31, 2010 and
July 31, 2010, respectively.
6.
FAIR VALUE REPORTING
GAAP
clarifies that fair value is an exit price, representing the amount that would
be received upon sale of an asset or paid to transfer a liability in an orderly
transaction between market participants. As such, fair value is a market-based
measurement that should be determined based on assumptions that market
participants would use in pricing an asset or liability. As a basis for
considering such assumptions, GAAP establishes a three-tier fair value
hierarchy, which prioritizes the inputs used in measuring fair value as
follows:
•
|
Level
1 — Observable inputs such as quoted prices in active
market;
|
•
|
Level
2 — Inputs, other than the quoted prices in active markets, that are
observable either directly or indirectly;
and
|
•
|
Level
3 — Unobservable inputs in which there is little or no market data, which
require the reporting entity to develop its own
assumptions.
|
The
following table presents the Company’s assets and liabilities that are measured
at fair value on a recurring basis at October 31, 2010:
Quoted Prices in
Active Markets
for Identical
Assets
(Liabilities)
(Level 1)
|
Significant
Other
Observable
Inputs (Level 2)
|
Significant
Unobservable
Inputs (Level 3)
|
Carrying Amount
|
|||||||||||||
Cash
|
$ | 15,070,141 | — | — | $ | 15,070,141 | ||||||||||
Cash
Equivalents
|
$ | 3,014,400 | — | — | $ | 3,014,400 | ||||||||||
Notes
Payable
|
— | — | $ | (120,865,058 | ) | $ | (120,015,642 | ) |
The
carrying amount of the notes payable contains a $2,183,540 discount. Management
believes that the assets can be liquidated without restriction.
10
7.
COMMITMENTS AND CONTINGENCIES
Litigation
From time
to time, we may be party to various legal proceedings and claims, either
asserted or unasserted, which arise in the ordinary course of business.
While the outcome of these matters cannot be predicted with certainty, we do not
believe that the outcome of any of these claims or any of the legal matters
mentioned elsewhere in this Quarterly Report will have a material adverse effect
on our consolidated financial position, results of operations or cash
flow.
In June
2008, j2 Global Communications, Inc. (“j2”) brought a patent infringement
lawsuit against us, alleging that we infringe upon three of j2's patents, U.S.
Patent Nos. 6,597,688, 7,020,132 and 6,208,638. The case is
pending in
the U.S. District Court for the Central District of California and is
currently in the discovery phase. We have denied infringing any of the j2
patents and have filed a counterclaim seeking a declaratory judgment that the j2
patents are invalid. The case is scheduled for trial in July 2011.
In
connection with the termination of an agreement to sell the portal operations of
our discontinued India.com business, one of our subsidiaries is party to pending
litigation (India.com v. Dalal). Judgment was entered against the subsidiary in
the amount of $1,482,347. We are pursuing an appeal in the U.S.
Court of Appeals for the Second Circuit and expect a decision toward
the end of 2010 or early 2011.
As a
result of a New York state sales tax audit completed in 2005 of EasyLink
Services International, Inc., a dissolved subsidiary of EasyLink Services
Corporation, EasyLink Services International, Inc. was assessed approximately
$450,000 in tax, interest, and penalties on sales for the sales tax period
beginning March 1, 2001 and ending May 31, 2004. EasyLink Services
International, Inc. appealed the assessment administratively to the New York
Division of Tax Appeals, which resulted in an opinion in 2008 in favor of
EasyLink Services International, Inc. In late July 2009, after appeal by
the New York Department of Taxation and Finance, the decision was reversed by
the administrative New York Tax Appeals Tribunal and remanded back to the
administrative law judge to determine allocation and penalty issues. On
remand, the Administrative Law Judge upheld Tax Department's position on the
allocation issues but agreed with EasyLink on the penalty issues and cancelled
all penalties. The Administrative Law Judge's decision on remand is now
being appealed back to the Tribunal.
The
outcome of litigation cannot be assured, and despite management’s views of
the merits of any litigation, or the reasonableness of our estimates and
reserves, our cash balances could nonetheless be materially affected by an
adverse judgment. In accordance with ASC 450, Contingencies, we believe we
have adequately reserved for the contingencies arising from the above legal
matters where an outcome was deemed to be probable and the loss amount could be
reasonably estimated. As such, we do not believe that the anticipated
outcome of the aforementioned proceedings will have a materially adverse impact
on our financial condition, cash flows or results of
operations.
11
8.
INTERIM SEGMENT DISCLOSURES
Our
operations are divided into two business segments, which are defined as
follows:
•
|
Supply
Chain Messaging Segment (“Supply Chain”), which includes all our
electronic data interchange (“EDI”) and telex
services.
|
•
|
On
Demand Messaging Segment (“On Demand”), which includes all fax, e-mail,
document capture and management (“DCM”), workflow and Notify
services
|
The table
below summarizes information about operations for the fiscal quarters ended
October 31, 2010 and 2009 which includes 10 days of operations of the recently
acquired Xpedite Business:
Supply Chain
|
On Demand
|
Total
|
||||||||||
Quarter
Ended October 31, 2010
|
||||||||||||
Revenue
from external customers
|
$ | 9,781,393 | $ | 12,954,487 | $ | 22,735,880 | ||||||
Segment
gross profit
|
$ | 7,245,919 | $ | 8,898,683 | $ | 16,144,602 |
The
following is a reconciliation of operating segment income to net income for the
quarter ended October 31, 2010:
Segment
gross profit
|
$ | 16,144,602 | ||
Corporate
expenses
|
14,082,526 | |||
Operating
income
|
2,062,076 | |||
Other
income (expense), net
|
(502,170 | ) | ||
Income
before income taxes
|
1,559,906 | |||
Income
tax expense
|
592,764 | |||
Net
income
|
$ | 967,142 |
Supply Chain
|
On Demand
|
Total
|
||||||||||
Quarter
Ended October 31, 2009
|
||||||||||||
Revenue
from external customers
|
$ | 10,571,248 | $ | 9,926,893 | $ | 20,498,141 | ||||||
Segment
gross profit
|
$ | 7,776,926 | $ | 6,634,350 | $ | 14,411,276 |
The
following is a reconciliation of operating segment income to net income for the
quarter ended October 31, 2009:
Segment
gross profit
|
$ | 14,411,276 | ||
Corporate
expenses
|
12,350,890 | |||
Operating
income
|
2,060,386 | |||
Other
income (expense), net
|
(152,540 | ) | ||
Income
before income taxes
|
1,907,846 | |||
Income
tax expense
|
543,860 | |||
Net
income
|
$ | 1,363,986 |
12
Item
2. Management’s Discussion and Analysis of Financial Condition and Results of
Operations
Forward
Looking Statement Disclaimer
All
statements other than statements of historical facts included in this Quarterly
Report regarding our financial position, business strategy and plans and
objectives of management for future operations are forward-looking statements.
These forward-looking statements are based on the beliefs of management, as well
as assumptions made by and information currently available to management. When
used in this quarterly report, the words “anticipate,” “believe,” “estimate,”
“expect,” “may,” “will,” “hope,” “continue” and “intend,” and words or phrases
of similar import, as they relate to our financial position, business strategy
and plans, or objectives of management, are intended to identify forward-looking
statements. These statements reflect our current view with respect to future
events and are subject to risks, uncertainties and assumptions related to
various factors, including, without limitation, those described in Item 1A of
Part II of this Quarterly Report under the heading “Risk Factors” and in our
registration statements and periodic reports filed with the SEC under the
Securities Exchange Act of 1934, as amended (the “Exchange Act”), and the
Securities Act of 1933, as amended (the “Securities Act”).
Although
we believe that our expectations are reasonable, we cannot assure you that our
expectations will prove to be correct. Should any one or more of these risks or
uncertainties materialize, or should any underlying assumptions prove incorrect,
actual results may vary materially from those described in this Quarterly Report
as anticipated, believed, estimated, expected, hoped or intended.
Business
Overview
We are a
global provider of value added services that facilitate the electronic exchange
of documents and information between enterprises, their trading communities and
their customers. We deliver most of our services through a global IP network,
which hosts our applications on enterprise-class platforms that are comprised of
server and network operations centers located worldwide.
Our core
services include EDI services, fax services, telex services and other services
that are integral to the movement of money, materials, products, people and
information in the global economy including documents such as insurance claims,
trade and travel confirmations, purchase orders, invoices, shipping notices and
funds transfers that help our customers to be more efficient and mobile. Our
operations include two business segments defined as follows:
|
·
|
Supply
Chain segment, which includes all our EDI and telex
services.
|
|
·
|
On
Demand segment, which includes all fax, e-mail, DCM, workflow and Notify
(which includes the acquired Xpedite Business)
services.
|
Global
macro economic trends are important barometers for our business. Changes in the
level of economic activity are reflected directly in the volumes of our services
used by our customers in both segments of our business. As the United States and
global economies have experienced recession, we have seen a decrease in the
volume of demand for our services from existing customers, as well as increasing
pricing pressure and customer bankruptcies and reorganizations. However,
extended economic slowdowns can possibly improve customer acquisition
opportunities as larger companies look to outsource business functions in our
service segments to reduce internal costs. We expect volume trends to reverse
when and as the United States and global economies move into a more robust
recovery and current unemployment levels begin to decline. Our management has
taken steps to adjust our cost structure to reflect the decrease in demand for
our services, which steps have positively impacted our
profitability. However, there can be no assurance that we can achieve
further offsetting cost reductions if revenue was to drop
significantly.
13
On
October 21, 2010, we acquired the iSend and iNotify advanced messaging
businesses (the “Xpedite Business”) from Premiere Global Services, Inc. (“PGI”)
for $105 million in cash, through the purchase of PGI’s wholly-owned
subsidiaries Xpedite Systems, LLC and Premiere Global Services (UK) Limited and
certain related assets owned by PGI’s subsidiary Premiere Conferencing (Canada)
Limited. We paid for the acquisition with $5 million of cash on hand and a
new credit facility consisting of a $110 million term loan and a $20 million
revolving loan, which also refinanced our existing credit facility
indebtedness. The operating results of the Xpedite Business are included
in the financial results for our first fiscal quarter only from the date of
acquisition. The Xpedite Business is expected to significantly increase
our revenue in our On Demand segment, with related impacts on the cost of
revenue and other items in our results of operations, compared to prior
periods. The integration of the Xpedite Business and the servicing of the
acquisition debt will be important drivers of our financial results in future
reporting periods.
Approximately
25% of our quarterly revenue in the current quarter came from international
operations, and this ratio will increase in future periods due to the
acquisition of the Xpedite Business and the inclusion of its operations for full
reporting periods. Accordingly, our revenue can vary based on the
performance of non-US economies and on the prevailing exchange rates of the
relevant currencies (principally, the Euro, the British pound, and the Japanese
yen) compared to the US dollar.
We have
grown our business significantly through acquisitions in recent years. We
continue to seek to reap the benefits of those acquisitions through the
integration and consolidation of operations and the cross-selling of services
across the combined customer base. The current economic climate may provide
additional opportunities for consolidative or synergistic
acquisitions.
Critical
Accounting Policies and Significant Use of Estimates in Financial
Statements
The
discussion and analysis of our financial condition and results of operations are
based upon our condensed consolidated financial statements, which have been
prepared in accordance with GAAP. The preparation of these financial statements
requires us to make estimates and judgments that affect the reported amount of
assets, liabilities, revenue and expenses. We consider certain accounting
policies related to revenue recognition, valuation of acquired intangibles and
impairment of long-lived assets, including goodwill to be critical policies due
to the estimation process involved in each. Management discusses its estimates
and judgments with the Audit Committee of our Board of Directors.
We
discuss our critical accounting policies in Item 7, Management’s Discussion and
Analysis of Financial Condition and Results of Operations, in our Annual Report
on Form 10-K for the year ended July 31, 2010. There have been no significant
changes in our critical accounting policies since July 31,
2010.
14
Three
Months Ended October 31, 2010 Compared with the Three Months Ended October 31,
2009
Results
of Operations
The
following table reflects consolidated operating data by reported segment
including 10 days of revenue and expense contributed by the Xpedite Business
which was acquired on October 21, 2010. All significant intersegment
activity has been eliminated. Accordingly, the segment results below exclude the
effect of transactions with our subsidiaries. The Xpedite Business
provided approximately $474,000 in net income for the On Demand business
segment, which consisted of approximately $2.8 million in gross revenue and $2.4
million in expenses.
Three Months Ended October
31,
|
||||||||||||
2010
|
2009
|
Variance
|
||||||||||
Revenue:
|
||||||||||||
Supply
Chain Messaging
|
||||||||||||
EDI
Services
|
$ | 8,084,158 | $ | 8,434,060 | $ | (349,902 | ) | |||||
Telex
Services
|
1,697,235 | 2,137,188 | (439,953 | ) | ||||||||
Total
Supply Chain Messaging
|
9,781,393 | 10,571,248 | (789,855 | ) | ||||||||
On
Demand Messaging
|
||||||||||||
Fax
Services
|
11,188.323 | 8,087,207 | 3,101,116 | |||||||||
DCM
Services
|
497,408 | 515,231 | (17,823 | ) | ||||||||
Other
Services
|
1,268,756 | 1,324,455 | (55,699 | ) | ||||||||
Total
On Demand Messaging
|
12,954,487 | 9,926,893 | 3,027,594 | |||||||||
Total
Revenue:
|
22,735,880 | 20,498,141 | 2,237,739 | |||||||||
Cost
of Revenue:
|
||||||||||||
Supply
Chain Messaging
|
2,535,474 | 2,794,322 | (258,848 | ) | ||||||||
On
Demand Messaging
|
4,055,804 | 3,292,543 | 763,261 | |||||||||
Total
Cost of Revenue
|
6,591,278 | 6,086,865 | 504,413 | |||||||||
Gross
Margin:
|
||||||||||||
Supply
Chain Messaging
|
7,245,919 | 7,776,926 | (531,007 | ) | ||||||||
On
Demand Messaging
|
8,898,683 | 6,634,350 | 2,264,333 | |||||||||
Total
Gross Margin
|
16,144,602 | 14,411,276 | 1,733,326 | |||||||||
Product
Development and Enhancement
|
1,938,151 | 1,858,874 | 79,277 | |||||||||
Selling
and Marketing
|
2,957,710 | 3,269,434 | (311,724 | ) | ||||||||
General
and Administrative
|
9,186,665 | 7,222,582 | 1,964,083 | |||||||||
Total
product, selling and G&A expenses
|
14,082,526 | 12,350,890 | 1,731,636 | |||||||||
Other
(expense) income
|
(502,170 | ) | (152,540 | ) | (349,630 | ) | ||||||
Income before
income taxes
|
$ | 1,559,906 | $ | 1,907,846 | $ | (347,940 | ) |
15
Revenue —
Total revenue for the three months ended October 31, 2010 was approximately
$22.7 million, an increase of approximately $2.2 million or 10.9%, as compared
to the three-month period ended October 31, 2009. This increase in revenue is
primarily due to the acquisition of the Xpedite Business on October 21,
2010.
The
Supply Chain Messaging segment decreased approximately $790,000, or 7.5%, from
the three-month period ended October 31, 2009, as compared to the three-month
period ended October 31, 2010, due to a decrease of approximately
$350,000 (a 4.1% decrease) in EDI services due to lower customer
volumes in the current economic environment and a decrease of approximately
$440,000 (a 20.6% decrease) in Telex services due to decreased customer volumes
resulting from a switch to technologies with enhanced features.
The On
Demand Messaging segment increased approximately $3.0 million, or 30.4%, from
the three-month period ended October 31, 2009, as compared to the three-month
period ended October 31, 2010, due to an increase of approximately
$3.1 million (a 38.3% increase) for fax services. The fax revenue related
to the acquisition of the Xpedite Business was approximately $2.9 million.
The increase in revenue was partially offset by decreases of approximately
$18,000 (a 3.5% decrease) for DCM services and approximately $55,000 (a 4.2%
decrease) in other revenue.
Cost of
Revenue — Total cost of revenue increased approximately $504,000, or 8.2%, from
the three-month period ended October 31, 2009, as compared to the three-month
period ended October 31, 2010. The Xpedite Business contributed
approximately $1.1 million, or 21.0%, to the cost of revenue and building
related expenses increased approximately $109,000 (a 47.3% increase) due to
additional co-location facility expenses. These increases were partially
offset by reductions in labor and related expenses of approximately $95,000 (a
6.3% decrease) including approximately $541,000 (an 18.7% decrease) in telecom
related expenses, and approximately $117,000 in reduced equipment expense (a
13.0 % decrease). The decreases were related to cost cutting efforts by
management and reduced telecom expenses due to decreased customer
traffic.
Gross
Profit and Gross Margin — Gross profit increased approximately $1.7 million, or
12.0%, from the three-month period ended October 31, 2009, as compared to the
three-month period ended October 31, 2010. The gross margin for the legacy
business was relatively flat for the period due to reduced expenses which offset
the reduced revenues. The Xpedite Business contributed a gross margin of
approximately $1.7 million.
Product
Development — Product development costs increased approximately $79,000, or
4.3%, from the three-month period ended October 31, 2009, as compared to the
three-month period ended October 31, 2010. The Xpedite Business
contributed approximately $204,000, or 10.5%, to the product development expense
and other expenses increased by approximately $17,000 (an 87.1% increase).
These increases were partially offset by a reduction in labor and related
expenses of $119,000 (a 6.6% decrease) and approximately $24,000 in reduced
equipment expense (a 56.2% decrease) due to decreased maintenance
expenses.
Selling
and Marketing — Selling and marketing expenses decreased approximately $312,000,
or 9.5%, from the three-month period ended October 31, 2009, as compared to the
three-month period ended October 31, 2010. These decreased costs
consisted mainly of a reduction in labor and related expenses of $441,000 (a
19.7% decrease), a decrease in outside professional services of approximately
$258,000 (a 42.6% decrease), a decrease of approximately $25,000 (a 10.4%
decrease) in travel related costs, and a decrease of approximately $24,000 (a
26.7% decrease) in marketing expenses, and a decrease of approximately $16,000
(a 28.4% decrease) in building related expenses. The reductions were
partially offset by the Xpedite Business which contributed approximately
$457,000, or 15.4%, of expense. The reductions are due to head count cost
saving measures implemented by management and reduced commissions paid for
inside and outside sales.
General
and Administrative— General and administrative expenses increased approximately
$2.0 million, or 27.5%, from the three-month period ended October 31, 2009, as
compared to the three-month period ended October 31, 2010. The
increase in expenses was attributed to an approximate $1.6 million charge for
professional fees related to the Xpedite Business and approximately $309,000 (an
11.9% increase) in labor and related expenses. In addition, the Xpedite
Business contributed approximately $600,000 in expense for the period.
These increases were partially offset by a decrease of approximately $197,000
(an 11.9% decrease) in equipment expense for reduced hardware and software
maintenance, a decrease of approximately $173,000 (an 18.9% decrease) in
building related expenses for rent, and a decrease of approximately $129,000 (a
9.3% decrease) in outside professional fees.
16
Operating
Income — Operating income was essentially flat from the three-month period ended
October 31, 2009, as compared to the three-month period ended October 31,
2010 The $1.9 million of acquisition related expenses were partially
offset by reduced operating expenses and the approximate $494,000 in operating
income contributed by the Xpedite business for the 10 day period.
Other
Income (Expense) — Other expenses for the three-month period ended October 31,
2010 consist mainly of net interest expense of approximately $810,000 which
included approximately $314,000 in net cash interest expense and approximately
$496,000 in non-cash interest expense which mainly consisted of the accelerated
amortization of the discount on our previous credit facility that refinanced in
connection with the 2010 Loan used to purchase the Xpedite business. These
expenses were partially offset by $186,000 in foreign exchange gains and
$122,000 in other income.
Net
income — Net income decreased approximately $397,000, or 29.1%, from the
three-month period ended October 31, 2009, as compared to the three-month period
ended October 31, 2010, due primarily to the increase in net interest
expense.
Liquidity
and Capital Resources
Our
principal source of liquidity consists of cash generated from operations. As the
majority of our revenue is reoccurring under contract, it is primarily affected
by the volumes incurred by the customer using the underlying messaging service.
Operating expenses are primarily driven by labor and telecom costs which are
directly tied to customer utilization of messaging services. Cash and cash
equivalents decreased approximately $2.4 million to a total balance of
approximately $18.1 million as of October 2010 from approximately $20.5 million
as of July 31, 2010. This decrease in cash was primarily caused by approximately
$2.2 million in net cash used for the bank fees related to the purchase of the
Xpedite Business.
Our
liquidity will be affected by the new credit facility consisting of a $110
million term loan and a $20 million revolving loan (of which $12 million is
outstanding) (the “2010 Loans”), which refinanced our existing credit
facility. The 2010 Loans call for quarterly payments of $4,125,000 with
interest and a final balloon payment in 2014, with interest, which commence on
January 31, 2011.
The
Credit Agreement for the 2010 Loans contains usual and customary covenants for
financings of this type, including, among other things: (i) requirements to
deliver financial statements, other reports and notices; (ii) restrictions on
additional indebtedness; (iii) restrictions on dividends, distributions and
redemptions of equity and repayment of subordinated indebtedness;
(iv) restrictions on liens; (v) restrictions on making certain
payments; (vi) restrictions on investments; (vii) restrictions on
asset dispositions and other fundamental changes; and (viii) restrictions
on transactions with affiliates.In addition, the Credit Agreement contains
certain financial covenants, including, among other things: (i) a maximum
leverage ratio; (ii) a minimum fixed charge coverage ratio; (iii) a
minimum amount of consolidated adjusted EBITDA; (iv) a minimum amount of
liquidity; and (v) a maximum amount of capital expenditures. Without the
permission of the Lenders, our ability to complete material acquisitions will be
restricted. A default on any of these restrictions and covenants will
cause, in certain circumstances, the amounts due under such agreements to become
due and payable upon demand.
Borrowings
under the Credit Agreement bear interest, at the Company’s election, at a rate
tied to one of the following rates, in each case plus a specified margin:
(i) the higher of (1) the Administrative Agent’s prime lending rate,
(2) the U.S. Federal Funds Rate plus 0.5%, and (3) adjusted one-month
LIBOR plus 1.0%; (ii) adjusted LIBOR for the interest period of such
borrowing; and (iii) a LIBOR index rate. The interest margin for each such
type of borrowing varies from 1.75% to 4.50%, depending on the Company’s
consolidated leverage ratio at the time of such borrowing.
An
adjustment to the purchase price of the Xpedite Business will be made during the
second quarter of 2011 based on the working capital of the acquired entity at
the acquisition date as defined in the Security and Asset Purchase Agreement
dated October 21, 2010 entered into in connection with the acquisition of the
Xpedite Business. If the working capital is less than $6.4 million, PGI
will pay for the shortfall. If the working capital is greater than $6.4
million we will be required to pay the surplus to PGI up to$2.0 million.
Upon the review of the quarterly numbers management believes that we will owe
PGI the $2.0 million for the working capital.
17
The
accounts receivable increased approximately $19.4 million in the first quarter
due primarily to the acquisition of the Xpedite Business which has a balance of
approximately $19.3 million as of October 31, 2010. Management believes
that existing cash and cash equivalent balances and cash provided from
operations will provide sufficient liquidity to meet the operating and capital
expenditure needs for existing operations during the next twelve
months.
Off-Balance
Sheet Arrangements
We do not
have any off-balance sheet arrangements.
Item
3. Quantitative and Qualitative Disclosures About Market Risk
Not
applicable to smaller reporting companies.
Item
4T. Controls and Procedures
Disclosure
Controls and Procedures
Our
management has established and maintained disclosure controls and procedures as
defined in Exchange Act Rules 13a-15(e) and 15d-15(e) that are designed to
provide reasonable assurance that information required to be disclosed in the
reports that are filed or submitted under the Exchange Act is recorded,
processed, summarized, reported and is accumulated and communicated to the Chief
Executive Officer and Chief Financial Officer, as appropriate, by others within
the entity to allow timely decisions regarding required disclosure. Our
management, including the Chief Executive Officer and Chief Financial Officer
has evaluated the effectiveness of the disclosure controls and procedures and,
based on this evaluation, have concluded that disclosure controls and procedures
were effective at a reasonable assurance level as of the end of the period
covered by the report. We continually reviews the respective disclosure
controls and procedures and make changes, as necessary, to ensure the quality of
our financial reporting.
Internal
Controls over Financial Reporting
On
October 21, 2010, we acquired the Xpedite Business from Premiere Global
Services, Inc. Our management is in the process of integrating financial
accounts of the Xpedite Business into our current financial accounting
system. Our management expects to complete the integration by the end of
the second quarter of fiscal year 2011. This initiative is substantial in
scale, and will result in significant changes to our internal control over
financial reporting once completed (as such term is defined in
Rules 13a-15(f) and 15d-15(f) under the Exchange Act) that will materially
affect, or are reasonably likely to materially affect, its internal control over
financial reporting.
There
have been no changes in internal control over financial reporting that occurred
during the first quarter of fiscal year 2011 that have materially affected, or
are reasonably likely to materially affect our internal control over financial
reporting.
18
PART
II. OTHER INFORMATION
Item
1. Legal Proceedings
From time
to time, we may be party to various legal proceedings and claims, either
asserted or unasserted, which arise in the ordinary course of business.
While the outcome of these matters cannot be predicted with certainty, we do not
believe that the outcome of any of these claims or any of the legal matters
mentioned elsewhere in this Quarterly Report will have a material adverse effect
on our consolidated financial position, results of operations or cash
flow.
In June
2008, j2 Global Communications, Inc. (“j2”) brought a patent infringement
lawsuit against us, alleging that we infringe upon three of j2's patents, U.S.
Patent Nos. 6,597,688, 7,020,132 and 6,208,638. The case is
pending in the U.S. District Court for the Central District of California
and is currently in the discovery phase. We have denied infringing any
of the j2 patents and have filed a counterclaim seeking a declaratory judgment
that the j2 patents are invalid. The case is scheduled for trial in July
2011.
In
connection with the termination of an agreement to sell the portal operations of
our discontinued India.com business, one of our subsidiaries is party to pending
litigation (India.com v. Dalal). Judgment was entered against the subsidiary in
the amount of $1,482,347. We are pursuing an appeal in the U.S.
Court of Appeals for the Second Circuit and expect a decision toward
the end of 2010 or early 2011.
As a
result of a New York state sales tax audit completed in 2005 of EasyLink
Services International, Inc., a dissolved subsidiary of EasyLink Services
Corporation, EasyLink Services International, Inc. was assessed approximately
$450,000 in tax, interest, and penalties on sales for the sales tax period
beginning March 1, 2001 and ending May 31, 2004. EasyLink Services
International, Inc. appealed the assessment administratively to the New York
Division of Tax Appeals, which resulted in an opinion in 2008 in favor of
EasyLink Services International, Inc. In late July 2009, after appeal by
the New York Department of Taxation and Finance, the decision was reversed by
the administrative New York Tax Appeals Tribunal and remanded back to the
administrative law judge to determine allocation and penalty issues. On
remand, the Administrative Law Judge upheld Tax Department's position on the
allocation issues but agreed with EasyLink on the penalty issues and cancelled
all penalties. The Administrative Law Judge's decision on remand is now
being appealed back to the Tribunal.
The
outcome of litigation cannot be assured, and despite management’s views of
the merits of any litigation, or the reasonableness of our estimates and
reserves, our cash balances could nonetheless be materially affected by an
adverse judgment. In accordance with ASC 450, Contingencies, we believe we
have adequately reserved for the contingencies arising from the above legal
matters where an outcome was deemed to be probable and the loss amount could be
reasonably estimated. As such, we do not believe that the anticipated
outcome of the aforementioned proceedings will have a materially adverse impact
on our financial condition, cash flows or results of operations.
Item
1A. Risk Factors
The
following Risk Factor disclosure updates the risk factors as disclosed in our
2010 Annual Report on Form 10-K previously filed with the SEC.
Acquisitions
are central to our growth plan. If we cannot find, finance and integrate
accretive acquisitions, our financial results may suffer.
Our
ability to implement our business plan depends on identifying appropriate
acquisitions, negotiating accretive financial terms, obtaining additional
financing at affordable costs and successfully integrating the acquired
businesses. The shortage of available credit at reasonable costs in
fiscal 2009 prevented us from closing a significant transaction and the shortage
of available credit at reasonable costs in fiscal 2010 slowed our ability to
identify financeable transactions. If our acquisition efforts are not
successful, our business and financial results may suffer. If we are
successful in our acquisition efforts, we expect that we will need to continue
to manage and to expand multiple relationships with customers, Internet service
providers and other third parties. We also expect that we will need
to continue to improve our financial systems, procedures and controls and will
need to expand, train and manage our workforce, particularly our information
technology and sales and marketing staffs. Our acquisition of the
Xpedite Business presents all of these challenges, and any failure to meet them
may have a material adverse effect on our financial condition, results of
operations or cash flow.
19
For
additional risk factors see those disclosed in our Annual Report on Form 10-K
for the year ended July 31, 2010 previously filed with the SEC.
Item
2. Unregistered Sales of Equity Securities and Use of Proceeds
None.
Item
3. Defaults Upon Senior Securities
None.
Item
4. [Removed and Reserved]
Item
5. Other Information
None.
20
Item
6. Exhibits
Exhibit
Number
|
Description
|
|
31.1
|
Certification
of the Chief Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
31.2
|
Certification
of the Chief Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
32.1
|
Certification
of the Chief Executive Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|
|
32.2
|
|
Certification
of the Chief Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|
21
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.
Date:
December 15, 2010
EASYLINK
SERVICES INTERNATIONAL
|
|||
CORPORATION
|
|||
By:
|
/s/ Glen E. Shipley
|
||
Glen
E. Shipley
|
|||
Chief
Financial Officer
|
22
EXHIBIT
INDEX
Exhibit
Number
|
Description
|
|
31.1
|
Certification
of the Chief Executive Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
31.2
|
Certification
of the Chief Financial Officer pursuant to Section 302 of the
Sarbanes-Oxley Act of 2002.
|
|
32.1
|
Certification
of the Chief Executive Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|
|
32.2
|
|
Certification
of the Chief Financial Officer pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
|
23