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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS(Edgar Glimpses Via Acquire Media NewsEdge) Introduction The following discussion should be read in conjunction with the information contained in our audited consolidated financial statements and the related notes thereto, appearing elsewhere herein. Overview We are a telecommunications services company which, through our wholly-owned subsidiaries, provide prepaid telecommunication and transaction based point of sale activation solutions through over 420 independent retailers in the Eastern United States. Our operations are conducted primarily through our wholly-owned subsidiaries: Mr. Prepaid and Spot Mobile Corp. Mr. Prepaid operates as a retail point of sale distributor of prepaid wireless airtime. Spot Mobile Corp. is a prepaid wireless MVNO. We distribute and sell prepaid wireless handsets and SIM cards, offering talk, text and data services for wireless subscribers. Our MVNO operates on the Global System for Mobile Communications ("GSM") platform service and can offer wireless service on the AT&T and T-Mobile networks. 17-------------------------------------------------------------------------------- Table of Contents Critical Accounting Policies This disclosure is based upon the Company's consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires that we make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. We base our estimates on historical experience and other assumptions that we believe to be proper and reasonable under the circumstances. We continually evaluate the appropriateness of estimates and assumptions used in the preparation of its consolidated financial statements. Actual results could differ from those estimates. The following key accounting policies are impacted significantly by judgments, assumptions and estimates used in the preparation of the consolidated financial statements. Use of estimates: The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires our management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Actual results could differ from those estimates. Revenue recognition: Revenues generated by prepaid calling cards and point of sale activated Personal Identification Numbers ("PINs"), which represent the primary sources of our revenues, are recognized as revenue at the point of sale. Revenue from the sale of Spot Mobile cellular air time is recognized when the air time is used. Revenue from sale of Spot Mobile prepaid telephones is recognized at the point of sale. Inventory: Inventory consists of prepaid calling cards, PINs, cellular telephones and SIM cards which are valued at the lower of cost and net realizable value. Accounts receivable: Trade accounts receivable are stated at the amount we expect to collect. We regularly monitor credit risk exposures in accounts receivable and maintain a general allowance for doubtful accounts based on historical experience for estimated losses resulting from the inability of our customers to make required payments. We consider the following factors when determining the collectability of specific customer accounts: customer creditworthiness, past transaction history with the customer, current economic industry trends and changes in customer payment terms. Should any of these factors change, the estimates made by our management would also change, which in turn would impact the level of our future provision for doubtful accounts. Specifically, if the financial condition of our customers were to deteriorate, affecting their ability to make payments, additional customer-specific provisions for doubtful accounts may be required. We review our credit policies on a regular basis and analyze the risk of each prospective customer individually in order to minimize risk. Based on our management's assessment we provide for estimated uncollectible amounts through a charge to earnings and a credit to a valuation allowance. Interest is typically not charged on overdue accounts receivable. Balances that remain outstanding after we have used reasonable collection efforts are written off through a charge to the valuation allowance and a credit to accounts receivable. The valuation allowance was approximately $9,000 and $64,000 as of October 31, 2010 and 2009, respectively. Property and equipment: Property and equipment are stated at cost less accumulated depreciation and amortization. Depreciation of property and equipment is calculated using the straight-line method over the estimated useful lives of the assets ranging from three to seven years. Expenditures for repairs and maintenance are charged to expense as incurred. Goodwill: Goodwill relates to our Mr. Prepaid operating segment. The Company reviews goodwill arising from business combinations for impairment annually, or more frequently if impairment indicators arise. Impairment indicators include (i) a significant decrease in the market value of an asset, (ii) a significant change in the extent or manner in which an asset is used or a significant physical change in an asset, (iii) a significant adverse change in legal factors or in the business climate that could affect the value of an asset or an adverse action by a regulator, and (iv) a current period operating or cash flow loss combined with a history of operating or cash flow losses or a projection or forecast that demonstrates continuing losses associated with an asset used for the purpose of producing revenue. The Company considers the number of active stores and applies a fair market value per store to determine the fair market value of its goodwill. 18 -------------------------------------------------------------------------------- Table of Contents Segment information: Prior to October 29, 2010, we had one operating segment and one reporting unit. For the purpose of identifying the reporting units (i) an operating segment is a reporting unit if discrete financial information is available, (ii) management regularly reviews individual operating results, and (iii) similar economic characteristics of components within one operating segment in a single reporting unit. Our management regularly reviews one set of financial information, and all of our products share similar economic characteristics. To date, we have been developing and testing our Spot Mobile phone products. With the acquisition of the technology assets on October 29, 2010, we began operating in two segments; (i) our Mr. Prepaid retail segment which markets and distributes electronic prepaid telecommunication products through independent retailers, and (ii) our Spot Mobile MVNO offering prepaid mobile telephones and SIM cards and airtime utilizing our telecommunication assets. These two segments are required on a regular basis by our chief operating decision makers. All of our operations are in the United States and no customers are individually material to our operations. Long-lived assets: Long-lived assets, including our customer lists and intellectual property arising from business combinations, are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of the assets might not be recoverable. We do not perform a periodic assessment of assets for impairment in the absence of such information or indicators. Conditions that would necessitate an impairment include a significant decline in the observable market value of an asset, a significant change in the extent or manner in which an asset is used, or a significant adverse change that would indicate that the carrying amount of an asset or group of assets is not recoverable. For long-lived assets to be held and used, we recognize an impairment loss only if an impairment is indicated by its carrying value not being recoverable through undiscounted cash flows. The impairment loss is the difference between the carrying amount and the fair value of the asset estimated using discounted cash flows. Long-lived assets held for sale are reported at the lower of cost or fair value less costs to sell. During 2010 and 2009, we completed goodwill and long-lived asset impairment analyses. Based on the work performed, our management concluded that an impairment loss existed. Accordingly, we recorded non-cash impairment charges for goodwill and intangible assets in 2010 and in 2009. The impairment charges resulted primarily from the general economic downturn in the U.S. in 2008 and from a decline in the customer base since 2009. Our management estimated the impairment charges by cash flow analyses and by consideration of current market conditions and transactions in the prepaid telecommunications industry. Fair value of financial instruments: The carrying amount of financial instruments included in current assets and liabilities and long-term debt is not materially different from fair value because of the short maturity of the instruments and/or their respective interest rate amounts and other terms have been negotiated recently. The fair value of related party notes and advances payable are not practicable to estimate due to the related party nature of the underlying transactions. Income taxes: We utilize the asset and liability approach to financial accounting and reporting for income taxes. Deferred income taxes and liabilities are computed for differences between the financial statement carrying amounts and tax bases of assets and liabilities that will result in taxable or deductible amounts in the future based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are recorded when necessary to reduce deferred tax assets to the amount expected to be realized. Income tax expense or benefit is the tax payable or refundable for the period plus or minus the change during the period in deferred tax assets and liabilities. Recent accounting pronouncements: In June 2009, the Financial Accounting Standards Board ("FASB") approved its Accounting Standards Codification ("Codification") as the single source of authoritative United States accounting and reporting standards applicable for all non-governmental entities, with the exception of the SEC and its staff. The Codification, which changes the referencing of financial standards, is effective for interim or annual financial periods ending after September 15, 2009. Therefore, all references made to US GAAP now use the new Codification numbering system prescribed by the FASB. As the Codification is not intended to change or alter existing US GAAP, it did not have any impact on our financial position or results of operations. 19 -------------------------------------------------------------------------------- Table of Contents In October 2009, the FASB issued a new accounting standard which provides guidance for arrangements with multiple deliverables. Specifically, the new standard requires an entity to allocate consideration at the inception of an arrangement to all of its deliverables based on their relative selling prices. In the absence of the vendor-specific objective evidence or third-party evidence of the selling prices, consideration must be allocated to the deliverables based on our management's best estimate of the selling prices. In addition, the new standard eliminates the use of the residual method of allocation. In October 2009, the FASB also issued a new accounting standard which changes revenue recognition for tangible products containing software and hardware elements. Specifically, tangible products containing software and hardware that function together to deliver the tangible products' essential functionality are scoped out of the existing software revenue recognition guidance and will be accounted for under the multiple-element arrangements revenue recognition guidance discussed above. Both standards will be effective for the Company in the first quarter of 2011. Early adoption is permitted. We are currently evaluating the impact that the adoption of this standard may have on its consolidated financial statements. Results of Operations Comparison of the Fiscal Year Ended October 31, 2010 to the Fiscal Year Ended October 31, 2009 Operating Revenues Revenues for the fiscal year ended October 31, 2010 decreased by $7,665,000, or 32%, as compared to fiscal year 2009. This decrease is due to increased competition and lower margins resulting in our losses of stores, some of which became unprofitable. Our profit margin of a group of PINs that represents 50% of our sales has been reduced significantly, due to lower discounts from our supplier. Revenues for the 2010 period also include $57,000 from our subsidiary, Spot Mobile Corp. Costs of Revenues Cost of revenue for the fiscal year ended October 31, 2010 decreased by $6,933,000, or 30%, as compared to fiscal year 2009. The decrease in costs of revenues is consistent with reduction in revenues. Cost of revenues for 2010 also includes $189,000 from our subsidiary, Spot Mobile Corp., and a write-down of $210,000 related to net realizable value of our inventory of prepaid mobile phones. Selling, General and Administrative Expenses Selling, general and administrative expenses increased by $982,000, or 126%. General and administrative expenses for the 2010 fiscal year increased by $521,000 comprised primarily of Spot Mobile Corp. costs and legal, accounting and other professional costs related to being a publicly reporting company of $461,000. We also recorded a provision for goodwill impairment in our Mr. Prepaid segment of $200,000 (2009-$300,000). Depreciation and Amortization Depreciation and amortization decreased by $7,000 for the fiscal year ended October 31, 2010 as compared to fiscal year 2009. In this respect, we recorded a loss of $5,000 on the disposal of terminal PIN machines from former customers. Interest Expense Interest expense increased by $22,000 from fiscal year 2009, all relating to the senior secured debt we assumed under the initial closing under the Share Exchange Agreement on February 24, 2010. Liquidity and Sources of Capital On February 24, 2010, we executed a Convertible Promissory Note in the principal amount of $500,000 in favor of a third party lender (the "Convertible Note"). The principal amount under the Convertible Note will begin to accrue interest on February 28, 2011 at the rate of 3.00% per year with quarterly payments of interest commencing on June 1, 2011. The principal amount of the Convertible Note is due on December 31, 2011. Prior to maturity, the Convertible Note may be converted, at any time at the option of the holder, into shares of our common stock based on an initial conversion rate of $0.81 per share. 20-------------------------------------------------------------------------------- Table of Contents In July 2010, we commenced a private placement to "accredited investors" of up to 803,333 million shares of our common stock pursuant for an aggregate purchase price of $1,205,000 ($1.50 per share of common stock). For each share subscribed for in the private placement, each investor is also entitled to receive a warrant to purchase one share of our common stock at $4.50 per share and a warrant to purchase one share of our common stock at $2.70 per share. The issuance of the common stock and the warrants was made in reliance upon the exemption from registration provided by Section 4(2) of the Securities Act, or Regulation D promulgated thereunder. On January 25, 2011, we completed the initial closing of the Private Placement with the Investors, pursuant to which we sold to the Investors an aggregate of 41 Units at a purchase price of $50,000 per Unit. Each Unit is comprised of (i) 100,000 shares of our common stock; and (ii) a three-year warrant to purchase 100,000 shares of common stock at an exercise price of $0.75 per share, subject to adjustment for stock splits, stock dividends, recapitalizations and similar events. In the initial closing, we sold 41 Units and received net proceeds of approximately $1.8 million after payment of placement agent fees and costs relating to the Private Placement. Pursuant to the terms of the Private Placement, we may issue up to an additional 39 Units, for a total 80 Units (which the Company and the placement agent may in their sole discretion increase to 100 Units), at a price of $50,000 per Unit. The net proceeds from the Private Placement will be used to fund our ongoing operations and to provide working capital. Overall Cash Inflows and Outflows Our operating activities used approximately $1,430,000 of cash during the fiscal year ended October 31, 2010, which primarily resulted from decreased operating revenues, and changes in our current assets and liabilities. Based on a negative operating cash flow during fiscal year 2010, and generally a history of negative operating cash flows, our fiscal 2010 audit report includes an explanatory paragraph indicating doubt about our ability to continue as a going concern. At October 31, 2010, we had cash and cash equivalents of $156,000, an increase in cash and cash equivalents of $84,000 from the balance at October 31, 2009. We had working capital deficits at October 31, 2010 and October 31, 2009 of approximately $2,942,000 and $898,000, respectively. This increase in working capital deficit is primarily attributable to share subscriptions of $1,205,000 in July 2010 and net cash used in operations. The consolidated financial statements have been prepared assuming we will continue as a going concern. We have incurred net losses of approximately $3,560,000 and $713,000 during the years ended October 31, 2010 and 2009, respectively. These factors raise substantial doubt about our ability to continue as a going concern. The accompanying consolidated financial statements do not include any adjustments relating to the recoverability or classification of assets or the amounts and classification of liabilities that may result should we be unable to continue as a going concern. Funding of our current and future anticipated operating losses, and expansion of the Company will require continuing capital investment. Our strategy is to fund these cash requirements through debt and equity financing. We obtained financing in July 2010 of $1,205,000 and in January 2011 of $1,800,000 under private placements of our capital stock. There can be no assurance that sufficient debt or equity financing will be available in the future or that it will be available on terms acceptable to us. Failure to obtain sufficient capital could materially affect our operations in the short term and hinder expansion strategies. We continue to explore external financing opportunities. Historically, some of our funding has been provided by our shareholders. At October 31, 2010, approximately 16% of our debt is due to some shareholders and other related parties. Our operating history makes it difficult to accurately assess our general prospects in the prepaid telecommunications industry and the effectiveness of our business strategy. In addition, we have limited meaningful historical financial data upon which to forecast our future sales and operating expenses. Our future performance will also be subject to prevailing economic conditions and to financial, business and other factors. Accordingly, we cannot assure that we will successfully implement our business strategy or that our actual future cash flows from operations will be sufficient to satisfy debt obligations and working capital needs. |