SECURITIES AND EXCHANGE COMMISSION
Washington, DC. 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15 (d)
of the Securities Exchange Act of 1934
For the quarterly period ended Commission File Number 0-19437
September 30, 2001
CELLULAR TECHNICAL SERVICES COMPANY, INC.
(Exact Name of Registrant as Specified in Its Charter)
Delaware 11-2962080
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(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporation or Organization)
2815 Second Avenue, Suite 100, Seattle, Washington 98121
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(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (206) 443-6400
Not Applicable
(Former name, former address and former fiscal year, if changed
since last report.)
Indicate by check mark whether the Registrant (1) has filed
all reports required to be filed by Section 13 or 15(d) of the Securities
Exchange Act of 1934 during the preceding 12 months (or for such shorter period
that the Registrant was required to file such reports), and (2) has been subject
to the filing requirements for the past 90 days. Yes X No
--- ---
2,291,789 Common Shares were outstanding as of
November 6, 2001.
Page 1
CELLULAR TECHNICAL SERVICES COMPANY, INC.
TABLE OF CONTENTS FOR FORM 10-Q
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS............................................................................................3
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS...........................8
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.....................................................15
PART II. OTHER INFORMATION..............................................................................................15
None.
Page 2
CELLULAR TECHNICAL SERVICES COMPANY, INC..
-----------------------------------------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
CONDENSED CONSOLIDATED BALANCE SHEETS
(in 000's, except share and per share amounts)
September 30, December 31,
2001 2000
------------------ ------------------
ASSETS (unaudited) (NOTE A)
CURRENT ASSETS
Cash and cash equivalents $ 7,051 $ 4,529
Accounts receivable, net of reserves of $292 in 2001 and $418 in 2000 670 793
Employee receivable 35 60
Inventories, net 732 1,096
Prepaid expenses and deposits 191 471
------------------ ------------------
Total Current Assets 8,679 6,949
PROPERTY AND EQUIPMENT, net 598 963
GOODWILL 84 104
LONG-TERM INVESTMENT 1,754 1,758
------------------ ------------------
TOTAL ASSETS $ 11,115 $ 9,774
================== ==================
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable and accrued liabilities $ 787 $ 545
Payroll related liabilities 259 561
Taxes (other than payroll and income) 7 5
Customers' deposits and deferred revenue 1,259 395
------------------ ------------------
Total Current Liabilities 2,312 1,506
MINORITY INTEREST -- --
STOCKHOLDERS' EQUITY
Preferred Stock, $0.01 par value per share, 5,000 shares
authorized, none issued and outstanding -- --
Common Stock, $0.001 par value per share, 30,000 shares
authorized, 2,292 shares issued and outstanding at
September 30, 2001 and December 31, 2000 23 23
Additional paid-in capital 29,976 29,976
Accumulated Deficit (21,196) (21,731)
------------------ ------------------
Total Stockholders' Equity 8,803 8,268
------------------ ------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 11,115 $ 9,774
================== ==================
-----------------------------
The accompanying notes are an integral part of these financial statements.
Page 3
CELLULAR TECHNICAL SERVICES COMPANY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in 000's, except per share amounts)
(unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
---------------------------------- ----------------------------------
2001 2000 2001 2000
--------------- --------------- --------------- ---------------
REVENUES
Phonecards $ 4,052 $ 6,264 $ 12,395 $ 13,183
Services and Systems 1,318 1,777 4,104 6,173
--------------- --------------- --------------- ---------------
Total Revenues 5,370 8,041 16,499 19,356
COSTS AND EXPENSES
Cost of phonecards, services and systems 4,171 7,340 13,265 15,112
Sales and marketing 283 326 1,054 961
General and administrative 447 317 1,404 1,514
Research and development 434 394 1,411 1,043
--------------- --------------- --------------- ---------------
Total Costs and Expenses 5,335 8,377 17,134 18,630
--------------- --------------- --------------- ---------------
INCOME (LOSS) FROM OPERATIONS 35 (336) (635) 726
OTHER INCOME, net 2 95 947 1,644
INTEREST INCOME, net 63 129 244 356
--------------- --------------- --------------- ---------------
INCOME BEFORE INCOME TAXES AND MINORITY INTEREST 100 (112) 556 2,726
PROVISION FOR INCOME TAXES (19) (1) (21) (58)
--------------- --------------- --------------- ---------------
NET INCOME BEFORE MINORITY INTEREST 81 (113) 535 2,668
MINORITY INTEREST -- 178 -- (92)
--------------- --------------- --------------- ---------------
NET INCOME $ 81 $ 65 $ 535 $ 2,576
=============== =============== =============== ===============
EARNINGS PER SHARE:
Basic $ 0.04 $ 0.03 $ 0.23 $ 1.13
=============== =============== =============== ===============
Diluted $ 0.04 $ 0.03 $ 0.23 $ 1.10
=============== =============== =============== ===============
WEIGHTED AVERAGE SHARES OUTSTANDING:
Basic 2,292 2,289 2,292 2,286
Diluted 2,297 2,336 2,301 2,349
-----------------------------
The accompanying notes are an integral part of these financial statements.
Page 4
CELLULAR TECHNICAL SERVICES COMPANY, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in 000's)
(unaudited)
Nine Months Ended
September 30,
--------------------------------------
2001 2000
---------------- -----------------
OPERATING ACTIVITIES
Net income $ 535 $ 2,576
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization of property and equipment 408 387
Amortization of software development costs -- 178
Amortization of acquired technology -- 58
Amortization of goodwill 20 --
(Gain) on disposal of assets (25) (30)
Minority interest -- 92
Changes in operating assets and liabilities:
Decrease in accounts receivable, net 123 1,051
Decrease in employee receivable 25 --
Decrease (increase) in inventories, net 364 (1,718)
Decrease (increase) in prepaid expenses and deposits 280 (179)
Increase (decrease) in accounts payable and accrued liabilities 242 (226)
(Decrease) in payroll related liabilities (302) (79)
Increase (decrease) in taxes (other than payroll and income) 2 (14)
Increase (decrease) in deferred revenue and customers' deposits 864 (1,256)
---------------- -----------------
NET CASH PROVIDED BY OPERATING ACTIVITIES 2,536 840
INVESTING ACTIVITIES
Purchase of property and equipment (57) (367)
Proceeds from sale of assets 39 40
Long term investment 4 (1,257)
---------------- -----------------
NET CASH USED IN INVESTING ACTIVITIES (14) (1,584)
NET CASH PROVIDED BY FINANCING ACTIVITIES (Stock option exercises) -- 27
---------------- -----------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 2,522 (717)
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD 4,529 4,787
---------------- -----------------
CASH AND CASH EQUIVALENTS AT END OF PERIOD $ 7,051 $ 4,070
================ =================
-----------------------------
The accompanying notes are an integral part of these financial statements
Page 5
CELLULAR TECHNICAL SERVICES COMPANY, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - BASIS OF PRESENTATION:
The accompanying unaudited financial statements of Cellular Technical Services
Company, Inc. ("CTS"), including the December 31, 2000 balance sheet which has
been derived from audited financial statements, have been prepared in accordance
with generally accepted accounting principles for interim financial information
and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by accounting principles generally accepted in the United States for complete
financial statements. In the opinion of management, all adjustments (consisting
of normal recurring accruals) considered necessary for a fair presentation have
been included. The operating results for the three-month and nine-month periods
ended September 30, 2001 are not necessarily indicative of the results that may
be expected for the fiscal year ending December 31, 2001. For further
information, refer to the financial statements and footnotes thereto included in
the Company's Annual Report on Form 10-K for the year ended December 31, 2000
and in the Company's other filings with the Securities and Exchange Commission.
Unless the context otherwise requires, all references to the "Company" herein
include Cellular Technical Services Company, Inc. and any entity over which it
has or shares operational control.
New Accounting Pronouncements: In July 2001, the Financial Accounting Standards
Board ("FASB") issued Statements of Financial Accounting Standards No. 141,
Business Combinations ("Statement 141"), and No. 142, Goodwill and Other
Intangible Assets ("Statement 142"). Statement 141 eliminates the
pooling-of-interests method of accounting for business combinations except for
qualifying business combinations that were initiated prior to July 1, 2001.
Statement 141 further clarifies the criteria to recognize intangible assets
separately from goodwill. The requirements of Statement 141 are effective for
any business combination accounted for by the purchase method that is completed
after June 30, 2001 (i.e., the acquisition date is July 1, 2001 or after).
Under Statement 142, goodwill and indefinite lived intangible assets are no
longer amortized but are reviewed annually (or more frequently if impairment
indicators arise) for impairment. Separable intangible assets that are not
deemed to have an indefinite life will continue to be amortized over their
useful lives. The amortization provisions of Statement 142 apply to goodwill and
intangible assets acquired after June 30, 2001. With respect to goodwill and
intangible assets acquired prior to July 1, 2001, the Company is required to
adopt Statement 142 on January 1, 2002. Because of the different transition
dates for goodwill and intangible assets acquired on or before June 30, 2001 and
those acquired after that date, pre-existing goodwill and intangibles will be
amortized during this transition period until adoption whereas new goodwill and
indefinite lived intangible assets acquired after June 30, 2001 will not. The
Company is currently analyzing the impact of these standards.
NOTE B - INVENTORIES:
Inventory reflects phonecards sold through the Company's phonecard business, and
includes $72,000 and $87,000 related to sales that have been accounted for on a
consignment basis at September 30, 2001 and December 31, 2000, respectively, and
$188,000 and $259,000 related to sales returns reserves at September 30, 2001
and December 31, 2000, respectively. Inventory consists of the following (in
000's):
September 30, December 31,
2001 2000
------------------ ------------------
Inventory, primarily phone cards $ 1,079 $ 1,123
Less reserves (347) (27)
------------------ ------------------
$ 732 $ 1,096
================== ==================
Page 6
NOTE C - CONTINGENCIES:
From time to time, the Company is a party to legal proceedings in the ordinary
course of business which management believes will be resolved without a material
adverse effect on the Company's business, financial condition or results of
operations.
NOTE D- EARNINGS PER SHARE:
The calculation of basic and diluted earnings per share is as follows (in 000's,
except per share amounts):
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------------------ ----------------------------------
2001 2000 2001 2000
---------------- ----------------- --------------- ----------------
Net income (A) $ 81 $ 65 $ 535 $ 2,576
================ ================= =============== ================
Weighted average number of shares outstanding (B): 2,292 2,289 2,292 2,286
Stock options 5 47 9 63
---------------- ----------------- --------------- ----------------
Weighted average number of shares and common share
equivalents outstanding (C): 2,297 2,336 2,301 2,349
Earnings per share:
Basic (A)/(B) $ 0.04 $ 0.03 $ 0.23 $ 1.13
================ ================= =============== ================
Diluted (A)/(C) $ 0.04 $ 0.03 $ 0.23 $ 1.10
================ ================= =============== ================
NOTE E- OTHER INCOME:
The Company recorded other income of $2,000 for the three months ended September
30, 2001 and $947,000 for the nine months ended September 30, 2001. The amounts
for the nine-month period resulted primarily from the settlement of an
arbitration action the Company brought against a former customer. The Company
recorded other income of $95,000 for the three months ended September 30, 2000
and $1,644,000 for the nine months ended September 30, 2000. The amounts for the
nine-month period resulted primarily from a settlement of a legal action the
Company brought against a former vendor.
NOTE F- SEGMENT INFORMATION:
The Company had two reportable business segments for the three-month and
nine-month periods ended September 30, 2001 and 2000 which offer distinctive
products and services marketed through different channels: (i) the Company's
Blackbird'r' Platform product line, which includes the Blackbird'r' Platform,
PreTect'TM' cloning-fraud prevention application, No Clone Zone'sm'
roaming-fraud prevention service, and related application products and services;
and (ii) the Company's prepaid long-distance phone card business, which is
conducted through its majority-owned subsidiary, Isis Tele-Communications, Inc.
Management evaluates segment performance based upon segment profit or loss
before income taxes. The difference in the pretax segment income of $100,000
and consolidated net income of $81,000 for the three months ended September 30,
2001 is attributable to income tax expense of $19,000. The difference in the
pretax segment loss of $112,000 and consolidated net income of $65,000 for the
three months ended September 30, 2000 includes income tax expense of $1,000 and
minority interest benefit of $178,000. The difference in the pretax segment
profit of $556,000 and consolidated net income of $535,000 for the nine months
ended September 30, 2001 includes income tax expense of $21,000. The difference
in the pretax segment profit of $2,726,000 and consolidated net income of
$2,576,000 for the nine months ended September 30, 2000 includes income tax
expense of $58,000 and minority interest expense of $92,000. There were no
inter-company sales of products between the segments.
Page 7
Three months ended September 30, 2001
---------------------------------------------
(in 000's) Segments
-------------------------------- Consolidated
Blackbird Phonecards Totals
--------- ---------- ------
Platform
--------
Revenue from external customers $1,318 $4,052 $5,370
Pretax segment profit (loss) 307 (207) 100
Expenditures for segment assets -- 12 12
Three months ended September 30, 2000
---------------------------------------------
(in 000's) Segments
-------------------------------- Consolidated
Blackbird Phonecards Totals
--------- ---------- ------
Platform
--------
Revenue from external customers $1,777 $6,264 $8,041
Pretax segment profit (loss) 792 (904) (112)
Expenditures for segment assets 239 4 243
Nine months ended September 30, 2001
---------------------------------------------
(in 000's) Segments
-------------------------------- Consolidated
Blackbird Phonecards Totals
--------- ---------- ------
Platform
--------
Revenue from external customers $4,104 $12,395 $16,499
Pretax segment profit (loss) 1,702 (1,146) 556
Expenditures for segment assets 33 24 57
Segment assets at September 30, 2001 9,527 1,588 11,115
Nine months ended September 30, 2000
---------------------------------------------
(in 000's) Segments
-------------------------------- Consolidated
Blackbird Phonecards Totals
--------- ---------- ------
Platform
--------
Revenue from external customers $6,173 $13,183 $19,356
Pretax segment profit 2,257 469 2,726
Expenditures for segment assets 369 59 428
Segment assets at September 30, 2000 10,808 514 11,322
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
The following discussion and analysis provides information which management
believes is relevant to an assessment and understanding of the Company's results
of operations and financial condition. The discussion should be read in
conjunction with the financial statements and notes thereto. Unless the context
otherwise requires, all references to the "Company" herein include Cellular
Technical Services Company, Inc. and any entity over which it has or shares
operational control.
Special Note Regarding Forward-Looking Statements
This Quarterly Report on Form 10-Q contains certain forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995 that
reflect the Company's views with respect to future events and financial
performance. The Company uses words and phrases such as "anticipate," "expect,"
"intend," "the Company believes,"
Page 8
"future," and similar words and phrases to identify forward-looking statements.
Reliance should not be placed on these forward-looking statements. These
forward-looking statements are based on current expectations and are subject to
risks, uncertainties and assumptions that could cause, or contribute to causing,
actual results to differ materially from those expressed or implied in the
applicable statements. Readers should pay particular attention to the
descriptions of risks and uncertainties described in the Company's Annual Report
on Form 10-K for the year ended December 31, 2000 and in the Company's other
filings with the Securities and Exchange Commission. All forward-looking
statements included in this report are based on information available to the
Company on the date of this report. The Company assumes no obligation or duty to
update any such forward-looking statements.
Overview
The Company develops, markets, distributes and supports products and services
for the telecommunications industry. Over the past 12 years, the Company has
developed expertise in real-time wireless call processing and has created
technologically advanced solutions for this industry, focusing primarily in the
area of wireless communications fraud management. During 1999 and 2000, the
Company implemented short and long-range strategic plans to diversify its
product mix, both within and outside of the telecommunications industry. This
diversification strategy is at the foundation of the Company's growth plan for
the future.
Products
The Blackbird Platform Products
The Company's Blackbird'r' Platform product line includes a suite of radio
frequency ("RF") based platform solutions focusing on wireless fraud prevention.
Presently, it involves various forms of "pre-call" verification to ensure that
the use of an analog wireless telephone is legitimate before the device is
allowed to connect to a carrier's analog wireless communications network. In
this area, the Company is a leading provider of RF-based solutions for the
prevention of "cloning fraud." This term is used to describe the illegal
activity of using a scanning device to steal the electronic serial number and
mobile identification number of a legitimate wireless telephone while in use,
then reprogramming the stolen numbers into other phones. These reprogrammed
phones, or "clone phones," are then used to make calls on a wireless
communications network, without payment for the wireless services rendered. The
Company's suite of RF-based platform solutions include the Blackbird'r'
Platform, PreTect'TM' cloning-fraud prevention application, No Clone Zone'sm'
roaming-fraud prevention service, and related application products and services
(collectively, the "Blackbird Platform Products"). The Company's Blackbird
Platform Products are currently deployed in approximately 1,000 cell sites in
many major metropolitan areas throughout the United States. The Company's
customers have reported up to a 98% reduction in cloning fraud activity in areas
served by the Blackbird Platform Products since its initial installation, and
continue to rely on its cloning prevention capabilities for their existing
analog wireless communications networks. The Company believes that this product
line will be removed from service by the end of calendar year 200 since its
major contract to supply Blackbird Platform Products was not renewed for 2002.
Prepaid Long-Distance Phone Products
To stimulate revenue growth for the Company, and in alignment with its product
diversification strategy, the Company expanded into the prepaid long-distance
service arena in the fourth quarter of 1999. Through its majority-owned
subsidiary, Isis Tele-Communications, Inc., the Company markets and distributes
branded prepaid long-distance phone cards in denominations generally ranging
from $5 to $20 per card. Isis also resells prepaid cellular hardware and
airtime. Isis specializes in targeted marketing programs and features local and
toll-free access numbers and aggressive domestic and international long-distance
rates. Isis distributes products through regional and national multi-level
distribution channels, using direct sales, third-party distributors and
telemarketing. The Company anticipates that its ability to provide quality
calls, aggressive per-minute rates, broad multi-level distribution coverage, and
quality customer service are the key ingredients to enable revenue growth of
this product line for the Company. Isis has offices in Los Angeles, Boston, New
Jersey and Seattle.
Future Opportunities For Growth In Emerging Technologies
Page 9
The Federal Communications Commission ("FCC") has required all wireless carriers
to deploy wireless geo-location technology ("E-911") to provide comparable 911
services to wireless telecommunications subscribers. Wireless geo-location
technology provides and identifies the specific geographic location (in latitude
and longitude measurements) of a wireless telephone, and can eventually be
applied to other wireless communications devices. Industry analysts have
estimated the market for commercial geo-location applications to be well over
$8.0 billion. During the fourth quarter of 1999, and as part of the Company's
long-term diversification strategy, the Company made a strategic investment in
KSI Inc. ("KSI"), a provider of development-stage wireless geo-location
technology. In August 2000, TruePosition, Inc., a subsidiary of Liberty Media
Corporation, acquired KSI in a stock-for-stock transaction. The cost of the
Company's investment in TruePosition, Inc. common stock at September 30, 2001
was $1,754,000.
In late 1999 the Company began development of a location-based wireless software
product platform and mobile commerce applications. The Company expects to
leverage its entrance into the geo-location marketplace by developing,
marketing, distributing and supporting a suite of commercial geo-location
applications as the technology evolves and is deployed by all wireless carriers
to comply with the FCC's requirements. In January 2001 the Company formed a
division called Neumobility'TM' for this product line. The Neumobility family of
products includes a scalable platform and an application suite providing
location-based information utilizing both network and satellite positioning
technologies. The platform is called NeuTrac'TM', and is a system utilizing
positioning data to create, maintain and deliver relevant content and services
in a location-based format. The NeuTrac platform is configurable and creates a
combination of subscription-based, pay-per-use and free value-added services.
The application suite will include: NeuCommerce'TM', which allows for
personalized, permission-based one-to-one marketing with location-based coupons;
NeuMerchant'TM', which provides an interactive location-based presence for
merchants; NeuMap'TM', which provides mapping, navigation, search engine
functions and service provisioning; NeuList'TM', which provides personalized
"buddy lists" and" buddy finders;" and NeuJournal'TM', a private, collaborative
and public location-based message board. The Company has completed design of the
platform and initial product suite and is now available for deployment in final
tests. The Company currently anticipates wireless carriers will implement E-911
technology beginning in early 2002, but that full deployment will take a number
of years to complete based upon waivers granted by the FCC in October 2001 to
wireless carriers that extend implementation deadlines.
Revenue and Expense
Revenue
During the first nine months of 2001, the Company generated revenue from two
sources: Isis pre-paid phone card product sales and Blackbird service revenue.
Prepaid phone card revenue is comprised of wholesale and retail sales of prepaid
local, long-distance and wireless products. The revenue is recognized at
shipment of product, net of reserves for estimated returns. The Company
maintains an allowance for sales returns for prepaid phone cards based on
estimated returns in accordance with Statement of Financial Accounting Standard
("SFAS") 48. Estimated returns, along with their costs, have been reflected as a
reduction in sales and cost of goods sold, respectively, and reflected as a
reduction in accounts receivable and an increase in inventory, respectively.
Service revenue is derived primarily from hardware and software maintenance
programs, No Clone Zone roaming fraud prevention service, Blackbird Platform
Monitoring service and related professional services provided in support of the
Company's currently deployed product base. Service revenue is recognized ratably
over the period that the service is provided.
Systems revenue is generated from licensing and sales of the Company's
proprietary software and hardware products, the sale of third-party products
sold in connection with the Company's proprietary products and, to a lesser
extent, fees earned in connection with the installation and deployment of these
products. The Company did not record any systems revenue in the first nine
months of 2001. Revenue would be recognized when all of the following conditions
have been met: persuasive evidence of an arrangement exists; delivery has
occurred, including satisfaction of all contractual obligations, and other
elements that are essential to the functionality of the delivered products have
been satisfied; the amount is fixed or determinable; and collectability is
probable. Revenue is deferred if the above conditions are not met, based on
vendor
Page 10
specific objective evidence ("VSOE") of the fair value for all elements
of the arrangement. VSOE is based on the price charged when an element is sold
separately, or, in the case of an element not yet sold separately, the price
established by authorized management, if it is probable that the price, once
established, will not change before market introduction. Elements included in
multiple element arrangements could consist of software products, upgrades,
enhancements, customer support services, or consulting services.
Revenue recognition for the Company's systems varies by customer and by product.
Every element of a contract must be identified and valued based upon VSOE,
regardless of any stated price in the contract. Revenue from any undelivered
element of a contract is deferred. However, any undelivered element essential to
the functionality of the delivered product will cause a 100% deferral of the
sale. Amounts billed and received on sales contracts before products are
delivered or before revenue is recognized or recognizable are recorded as
customer deposits or deferred revenue.
Costs and Expenses
Cost of phone cards, services and systems is primarily comprised of the costs
of: (i) prepaid phone card activation; (ii) customer support; (iii) activities
associated with the evaluation, repair and testing of parts returned from the
field in connection with the Company's ongoing hardware maintenance service
activities; (iv) equipment, including both proprietary and third-party hardware
and, to a lesser extent, manufacturing overhead and related expenses; and (v)
systems integration and installation.
Research and development expenditures include the costs for research, design,
development, testing, preparation of training and user documentation and fixing
and refining features for the software and hardware components included in the
Company's current and future products and services.
The Company expects that its costs and expenses in these and other areas will
continue to be incurred in the future, due to the ongoing need to: (i) make
investments in research and development to enhance existing products and
services and to develop new products and services to address emerging market
opportunities, such as those in the geo-location and prepaid phone card markets;
(ii) enhance its sales and marketing activities; (iii) enhance its customer
support capabilities; and (iv) enhance its general and administrative
activities.
Three months ended September 30, 2001 compared to three months ended September
30, 2000
Overview
Total revenue decreased 33% to $5,370,000 in 2001 from $8,041,000 in 2000. Net
income was $81,000, or $0.04 per diluted share, in 2001 compared to net income
of $65,000, or $0.03 per diluted share, in 2000. The consolidated revenue
decrease was a result of decreased systems and service revenue from the
Company's Blackbird Platform products and from its Isis prepaid phone card
segment as described below under "Revenue".
Net income for the 2001 and 2000 periods were each comparable at $0.1 million,
however, the following components showed changes between the periods:
o Gross margin increased $0.5 million from Q3 2000 to Q3 2001. Blackbird
gross margins decreased $0.2 million on a revenue decrease of $0.5 million
ISIS gross margins increased $0.7 million, although revenue decreased by
$2.2 million, as the prior year period included significant inventory
reserves
o Operating expenses increased $0.1 million due to higher G&A and R&D
spending, partially offset by sales and marking reductions.
o Other income decreased $0.1 million as the Company had significant asset
sales in the prior year period.
o The 2000 period also included a $0.2 million benefit to net income due to
the reversal of a minority interest accrual.
o Higher state income taxes and reduced interest income combined to reduce
net income by $0.1 million during the 2001 period compared to the 2000
period.
Page 11
Revenue
Prepaid phone card revenue was $4,052,000 in 2001, a decrease of 35% from the
$6,264,000 recorded in 2000. The decrease is due to reduced demand for the
Company's current product offerings, lower headcount in the Company's ISIS
segment and the closure of the Company's Chicago office during the period.
Service and systems revenue decreased 26% to $1,318,000 in 2001 from $1,777,000
in 2000. All of the 2001 and 2000 service revenue was derived from the Blackbird
Platform Products. The decrease is due to: (i) a reduction in domestic market
opportunities for the Company's cloning fraud prevention technology, (ii) the
effectiveness of this and other authentication-based products in combating
cloning fraud, (iii) lower penetration than originally planned of Blackbird
Platform Products into existing customers' markets and new and/or additional
markets, (iv) the lack of additional new domestic and international customers,
and (v) the lack of any systems upgrades in the current period compared to the
prior year period. The Company anticipates that this revenue will cease by
December 31, 2001 since its major contract to supply Blackbird Platform Products
was not renewed for 2002.
Costs and Expenses
Cost of phone cards, services and systems decreased by $3,169,000 to $4,171,000
in three months ended September 30, 2001, from $7,340,000 in the same period
during 2000. As a percent of total revenue, the costs were 78% and 91% for the
2001 and 2000 periods, respectively. The decrease in the amounts and percentages
of costs for 2001 relative to 2000 is due to a combination of $0.2 million in
lower margins on Blackbird services as a result of revenue decreases, and $0.7
million in increased phone card margins as the prior year period included an
inventory write-down of $0.8 million and there was a lower volume of revenue in
the 2001 period.
Sales and marketing expenses decreased $43,000 to $283,000 in 2001 from $326,000
in 2000. As a percent of total revenue, the costs were 5% and 4% for the 2001
and 2000 periods, respectively. The decrease reflects lower headcount and
related spending for the Blackbird Platform and Isis product lines, offset by
increased spending related to the introduction of the Company's Neumobility
product line.
General and administrative expenses increased 41% to $447,000 in 2001 from
$317,000 in 2000, resulting from approximately $0.1 million in bonus accrual
reversals in the prior year related to the Isis segment.
Research and development costs increased 10% to $434,000 in 2001 from $394,000
in 2000. The increase in expenditures in 2001 was attributable to increased
spending on new product development in the geo-location application technology
area.
Other Income, net
Net other income decreased to $2,000 in the three months ended September 30,
2001 from $95,000 in the comparable 2000 period. The 2000 period included sales
of excess manufacturing and test equipment related to the Blackbird segment.
Other income generally includes gains or losses from sales of equipment and
other miscellaneous income items.
Interest Income and Expense
Net interest income decreased to $63,000 in 2001 from $129,000 in 2000. This
decrease is primarily attributable to lower interest rates earned on invested
cash balances in the current period compared to the prior year period and to
interest earned on a note with KSI, Inc. that was outstanding during the prior
year period.
Page 12
Nine months ended September 30, 2001 compared to nine months ended September 30,
2000
Overview
Total revenue decreased 15% to $16,499,000 in 2001 from $19,356,000 in 2000. Net
income was $535,000, or $0.23 per diluted share, in 2001 compared to net income
of $2,576,000, or $1.10 per diluted share, in 2000. The Company recorded income
tax expense of $21,000 and $58,000 during the 2001 and 2000 periods,
respectively.
The consolidated revenue decrease was a result of lower systems and service
revenue from the Company's Blackbird Platform products as well as from its Isis
prepaid phone card segment, described below under "Revenue".
The $2.0 million decrease in net income for the first nine months of 2001 in
comparison to the 2000 period is due to several factors:
o Gross margin decreased $1.0 million from the 2000 period to the 2001
period. Blackbird gross margins decreased $1.0 million as revenue decreased
by $2.1 million Although ISIS revenue decreased by $0.8 million, ISIS gross
margins remained comparable as the prior year period included $0.8 million
in inventory write-downs.
o Operating expenses increased $0.4 million, due to $0.4 of increased R&D
spending and $0.1 million of increased sales and marketing spending for the
Company's Neumobility product line, partially offset by $0.1 million of
reduced G&A spending.
o Other income decreased $0.7 million as the Company recognized a one-time
net arbitration settlement (excluding interest) of approximately $0.9
million during the 2001 period related to the Blackbird segment, and a
one-time net payment from settlement of litigation in the amount of
approximately $1.5 million during the 2000 period related to the ISIS
segment. Additionally, there was approximately $0.1 million in asset sales
in the 2000 period.
o The 2000 period also included a $0.1 million reduction in net income due to
the inclusion of a minority interest accrual.
Revenue
Prepaid phone card revenue was $12,395,000 for the first nine months of 2001,
compared to $13,183,000 in the 2000 period. The decrease is due to reduced
demand for the Company's current product offerings.
Service and systems revenue decreased 34% to $4,104,000 in 2001 from $6,173,000
in 2000. All of the 2001 and 2000 service revenue was derived from the Blackbird
Platform Products. The decrease is due to the factors discussed above. The
Company anticipates that this revenue will cease by the end of 2001 as the
Company's major contract was not renewed for 2002. There was no systems revenue
recorded in the first nine months of 2001, which was a decrease from $284,000
recognized in the 2000 period when the Company recognized revenue from certain
systems upgrades. The Company does not currently anticipate any Blackbird
systems or service revenue after December 31, 2001.
Costs and Expenses
Cost of phone cards, services and systems decreased by $1,847,000 to $13,265,000
in nine months ended September 30, 2001, from $15,112,000 in the same period
during 2000. As a percent of total revenue, the costs were 80% and 78% for the
2001 and 2000 periods, respectively. The increase in the percentages of costs
for 2001 relative to 2000 is primarily due to the prepaid phone card business
being a larger percentage of the Company's overall business (75% vs. 68%) with
lower gross margins compared to the Company's Blackbird service product
offerings.
Sales and marketing expenses increased 10% to $1,054,000 in 2001 from $961,000
in 2000. As a percent of total revenue, the costs were 6% and 5% for the 2001
and 2000 periods, respectively. The increase in sales and marketing expenses is
attributable to additional spending during the first nine months of 2001 in
anticipation of the introduction of the Company's Neumobility product line,
offset by a decrease in sales and marketing expenses for the Blackbird Platform
products.
General and administrative expenses decreased 7% to $1,404,000 in 2001 from
$1,514,000 in 2000, primarily due to headcount reductions as compared to the
prior year period.
Page 13
Research and development costs increased 35% to $1,411,000 in 2001 from
$1,043,000 in 2000. The increase was attributable to increased spending on new
product development in the geo-location application technology area.
Other Income, net
Net other income decreased to $947,000 in the nine months ended September 30,
2001 from $1,644,000 in the comparable 2000 period. The 2001 period included a
net arbitration settlement (excluding interest) of approximately $900,000
related to the Blackbird business segment. The 2000 period included a net
litigation settlement of approximately $1,500,000 related to the Isis phonecard
business segment. Other income also includes gains or losses from sales of
equipment and other miscellaneous income items.
Interest Income and Expense
Net interest income decreased to $244,000 in 2001 from $356,000 in 2000. This
decrease is attributable to lower interest rates earned on invested cash
balances in the current period compared to the prior year period, which included
interest earned on a note with KSI, Inc. that was outstanding during the prior
year period, offset by pre-award interest received on an arbitration settlement
in the 2001 period.
Liquidity and Capital Resources
The Company's capital requirements have consisted primarily of funding software
and hardware research and development, property and equipment requirements,
working capital and the Company's operating expenses. The Company historically
has funded these requirements through the sale of common stock (including
proceeds from the exercise of warrants and options) and from operating profits
in certain periods. On September 30, 2001, the Company's cash balance was $7.1
million as compared to $4.5 million on December 31, 2000. The Company's working
capital increased to $6.4 million at September 30, 2001 from $5.4 million at
December 31, 2000.
Net cash provided by operating activities amounted to $2.5 million in the first
nine months of 2001, compared to $.8 million in the comparable 2000 period.
Operating cash flow for the first nine months of 2001 was positively impacted by
the receipt of the majority of calendar year 2001 Blackbird customer payments
during the first half of 2001, increasing the Company's deferred revenue.
Additionally, the Company's $0.5 million net income, non-cash expenses and
reductions in levels of inventories and prepaid assets provided positive
operating cash flow. Operating cash flow for the comparable 2000 period was
positively impacted by the Company's $2.6 million in net income, non-cash
expenses and balance sheet changes.
Net cash used in investing activities totaled $14,000 in 2001, compared to cash
used in investing activities of $1,584,000 in 2000 when the Company made
additional investments in TruePosition, Inc. and purchased significant amounts
of property and equipment. At September 30, 2001, the Company had no significant
commitments for capital expenditures.
Operating Trends
The Company had net income of $535,000 in the first nine months of 2001,
compared to earnings of $2.6 million for each of the full years ended December
31, 2000 and 1999. As of September 30, 2001, the Company had an accumulated
deficit of $21.2 million, which was accumulated primarily during the three years
ended December 31, 1998. During 1996 and 1997, the Company deployed its initial
cloning fraud prevention Blackbird Platform Products and incurred substantial
operating expenses during that deployment. In 1998, in response to unfavorable
operating results, the Company implemented a restructuring plan that included,
among other initiatives, streamlining the Company's operations to better balance
expenses and revenues, and directing additional development efforts and
resources towards new products to generate new sources of revenue.
In the first nine months of 2001, revenue from prepaid phone cards represented
75% of total revenue, and revenue from Blackbird Platform Products represented
25% of the Company's total revenue. As the industry moves from analog to digital
wireless equipment, the need for the Company's Blackbird Platform Products has
decreased and will continue to decrease.
Page 14
While the Company anticipates continued profitability from its Blackbird
Platform Products in 2001, revenue from this segment will continue to decline
and the Company currently forecasts that it will cease by December 31, 2001 as
the Company's major contract was not renewed for 2002.
Despite the Company's profitability, positive cash flow, and product
diversification in 1999, 2000 and the first nine months of 2001, there can be no
assurance that the Company's operations will be profitable on a quarterly or
annual basis in the future or that existing revenue levels can be enhanced or
sustained. Past and existing revenue levels should not be considered indicative
of future operating results. The Company's results for 2000 and for the first
three quarters of 2001 were favorably impacted by non-recurring, other income
items. The Company does not anticipate any such items will occur in future
periods. While the Company believes that its current cash reserves and working
capital will provide sufficient cash to fund its operations for at least the
next twelve to eighteen months, unanticipated changes in customer needs and/or
other external factors may require additional financing and/or further expense
reductions.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
We are exposed to market risk related to changes in interest rates that could
adversely affect the value of our investments. We do not use derivative
financial instruments for speculative or trading purposes. We maintain a
short-term investment portfolio consisting of interest bearing securities with
maturities of less than ninety days. These securities are classified as cash.
These securities are interest bearing and thus subject to interest rate risk and
will fall in value if market interest rates increase. Because we have the
ability to hold our fixed income investments until maturity, we do not expect
our operating results or cash flows to be affected to any significant degree by
a sudden change in market interest rates on our securities portfolio. We have
operated primarily in the United States and all revenues to date have been in
U.S. dollars. Accordingly, we do not have material exposure to foreign currency
rate fluctuations. We have not entered into any foreign exchange contracts to
hedge any exposure to foreign currency rate fluctuations because such exposure
is immaterial.
PART II. OTHER INFORMATION
None.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
CELLULAR TECHNICAL SERVICES COMPANY, INC.
By: /s/ Bruce R. York
-----------------
Bruce R. York
Vice President and Chief Financial Officer
November 6, 2001
Page 15
STATEMENT OF DIFFERENCES
The trademark symbol shall be expressed as................................'TM'
The registered trademark symbol shall be expressed as......................'r'
The service mark symbol shall be expressed as.............................'sm'
