AI
Monday, February 04, 2008 5:35:36 PM
Form 10QSB/A for BROOKSIDE TECHNOLOGY HOLDINGS, CORP.
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4-Feb-2008
Quarterly Report
Item 2. Management's Discussion and Analysis or Plan of Operations
The information presented in this section should be read in conjunction with our audited financial statements and related notes for the periods ended December 31, 2006 and 2005 included in our Form 10-KSB, as filed with the Securities and Exchange Commission, as well as the information contained in the financial statements, including the notes thereto, appearing in this report. This discussion contains forward-looking statements reflecting our current expectations that involve risks and uncertainties. Actual results and the timing of events may differ materially from those contained in these forward-looking statements due to a number of factors, including those discussed in the section entitled "Risk Factors"of our Form 10-KSB for the year ended December 31, 2006, and elsewhere in this report.
General
Background/Name Change/Redomestication
Cruisestock, Inc, (the "Company") was incorporated in September 2005 under the laws of the State of Texas. Immediately prior to February 21, 2007, it was a shell corporation with no significant operations or assets. On February 21, 2007, the Company acquired all of the stock of Brookside Technology Partners, a Texas corporation, in a transaction where the shareholders of Brookside Technology Partners exchanged all of their shares for shares of common stock of the Company (the "Share Exchange"). As a result, Brookside Technology Partners became a wholly-owned subsidiary of the Company. However, from an accounting perspective, Brookside Technology Partners was the acquirer in the Share Exchange.
Because Brookside Technology Partners was the accounting acquirer in the Share Exchange, management does not believe that it is informative or useful to compare the Company's historical results of operations with those of Brookside Technology Partners. Instead, below we discuss only Brookside Technology Partners' results of operations and financial performance.
Subsequent to the Share Exchange, on July 6, 2007 (the "Effective Time"), the Company changed its name to Brookside Technology Holdings Corp. and redomesticated into Florida. The name change and redomestication were accomplished by merging the Company into a newly-formed, Florida wholly-owned subsidiary, with the subsidiary being the surviving entity (the "Redomestication"). As a result, the Company is now a Florida corporation and its name is Brookside Technology Holdings Corp.
The Company's common stock is quoted on the Over the Counter Bulletin Board (OTCBB) under a new symbol: BKSD.
Stock Split
Concurrently with the Redomestication and as of the Effective Time:
• Each outstanding share of Cruisestock's common stock, $0.001 per share, was automatically converted into seven shares of Brookside Technology Holdings Corp.'s common stock, $0.001 par value per share;
• Each outstanding share of Cruisestock's series A preferred stock, $0.001 per share, was automatically converted into one share of Brookside Technology Holdings Corp.'s series A preferred stock, $0.001 par value per share;
• The price at which the series A preferred stock converts into common stock was automatically adjusted, on a proportionate basis, to account for the forward split of the common shares by reducing the current conversion price of $0.40 per share to $0.0571428; and
• The number of shares of common stock underlying all of Cruisestock's outstanding options and warrants to purchase common stock, and the exercise price of such options and warrants, was automatically adjusted to account for the 7-for-1 common share stock split.
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Acquisition of USVD
On September 26, 2007, we acquired all of the membership interest of USVD from The Michael P. Fischer Irrevocable Delaware Trust under Agreement dated April 5, 2007, and The M. Scott Diamond Irrevocable Delaware Trust under Agreement dated April 23, 2007 (the "Sellers"), pursuant to a Membership Interest Purchase Agreement closed on such date (the "Purchase Agreement"). USVD, headquartered in Louisville, Kentucky, with offices in Lexington, Kentucky and Indianapolis, Indiana, is a leading regional provider of telecommunication services, including planning, design, installation and maintenance for converged voice and data systems. USVD had un-audited revenue of $15.1 million for the trailing twelve months ended August 31, 2007, and audited 2006 revenue of $12.1 million. The purchase price of $16,125,110 was paid through a combination of common stock, cash of at closing and a seller note. The Company issued 7,000,000 shares of its common stock valued at $.39 per share on September 14, 2007. Additionally, the Purchase Agreement provides the Sellers with the opportunity to earn additional stock or cash consideration in the form of a three-year performance based EBITDA earnout.
Additionally, the Company caused USVD, its new subsidiary, to enter into employment agreements with Michael P. Fischer and M. Scott Diamond, with initial terms of three years, pursuant to which they will serve as USVD's CEO and COO, respectively. The employment agreements contain standard terms and provisions, including non competition and confidentiality provisions and provisions relating to early termination and constructive termination, and provide for an annual base salary and certain standard benefits. Credit Facility
The Company, through Midtown Partners & Co., LLC and LCG Capital, raised approximately $11,000,000 ($10,000,000 advanced on the acquisition date) less fees and expenses of $1,192,000 for net cash proceeds of $9,808,000 to finance the acquisition of USVD. The financing consisted of approximately $8.0 million of senior and subordinated debt and $3.0 million of series B preferred stock. In connection therewith, the Company and its two subsidiaries, USVD and Brookside Technology Partners, entered into a Credit Agreement with Hilco Financial LLC, pursuant to which Hilco agreed to provide a $7,000,000 ($6,000,000 advanced on the acquisition date) revolving line of credit, bearing interest at 15% and maturing on September 26, 2008 (the "Senior Loan"). Additionally, the Company also entered into a Subordinated Note and a related Subordinated Note Purchase Agreement with DD Growth Premium Fund, pursuant to which DD Growth Premium Fund loaned the Company $1 million, bearing interest at 10% per annum and maturing on December 30, 2008 (the "Subordinated Loan"). Additionally, the Company entered into a Securities Purchase Agreement with Vicis Capital Master Fund, a sub-trust of Vicis Capital Series Master Trust, pursuant to which Vicis acquired 3,000,000 shares of Series B Convertible Preferred Stock of the Company for $3,000,000, which shares are convertible into 24,000,000 shares of common stock of the Company (subject to certain adjustments).
The Vicis Series B Convertible Preferred Stock must be either redeemed by the Company or acquired by a third party by December 26, 2007. The Hilco Credit Agreement prohibits any such redemption. The Series B Convertible Preferred Stock was classified as debt as a result of its mandatory redemption date. Warrants Issued in Connection with Financing:
In connection with the foregoing financing of the acquisition of USVD, the Company granted (a) Vicis a warrant to purchase 24,000,000 shares of common stock of the Company at an exercise price of $0.125 per share; (b) Hilco Financial LLC a warrant to purchase 61,273,835 shares of common stock of the Company at an exercise price of $0.137 per share; (c) DD Growth Premium Fund a warrant to purchase 10,000,000 shares of common stock of the Company at an exercise price of $0.114 per share; and (d) Midtown Partners & Co. a warrant to purchase 5,800,000 shares of common stock of the Company at an exercise price of $0.114 per share.
In addition to operating Brookside Technology Partners and USVD, the Company is exploring certain strategic acquisitions.
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Operations
We are the holding company for Brookside Technology Partners, Inc, a Texas corporation ("Brookside Technology Partners"), and US Voice & Data, LLC, an Indiana Limited Liability Company ("USVD"), and all operations are conducted through those two wholly owned subsidiaries.
Headquartered in Austin, Texas, Brookside Technology Partners is a provider and global managed service company specializing in selling, designing, analyzing and implementing converged Voice over IP (VoIP), data and wireless business communications systems and solutions for commercial and state/government organizations of all types and sizes in the United States. Brookside Technology Partners is recognized as a leading VoIP reseller and professional services vendor with over 300 Nortel BCM installations that have various forms of networked or VoIP functionality.
Headquartered in Louisville, Kentucky, USVD is a leading regional provider of telecommunication services including planning, design, installation and maintenance for the converged voice and data systems. USVD serves the Kentucky and Southern Indiana markets, operating out of offices in Louisville, Lexington and Indianapolis.
USVD combines technical expertise in a range of communications products, including IP-enabled platforms, wired and wireless IP and digital endpoints and leading edge communications applications to create converged voice, video and data networks that help businesses increase efficiency and optimize revenue opportunities, critical for success in today's competitive business environment. The sale of new systems, built on either Inter-Tel or NEC platforms, is the backbone of USVD's business, typically accounting for approximately 65% of USVD's revenue.
Results of Operations
The following discussion of the financial condition and results of operations of the Company should be read in conjunction with the financial statements included herewith. This discussion should not be construed to imply that the results discussed herein will necessarily continue into the future, or that any conclusion reached herein will necessarily be indicative of actual operating results in the future.
Three and Nine Months Ended September 30, 2007 compared to Three and Nine Months Ended September 30, 2006.
Revenues, Cost of Sales and Gross Margins Total revenues from operations for quarter ended September 30, 2007 were $927,036 compared to $1,123,494 reported for the same period in 2006, a decrease of $196,458 or 17.5%. This decrease in revenues is primarily due to less outside sales people as discussed further below. This difference was partially offset by the recognition of 17 days worth of revenue from our wholly owned subsidiary, US Voice & Data, LLC ("USVD"). Total revenues from operations for the nine months ended September 30, 2007 were $1,928,475 compared to $2,772,440 reported for the same period in 2006, a decrease of $843,965 or 30.4%. This decrease is primarily due to the recognition of two large Texas Department of Information Resources ("DIR") contracts, which totaled $648,287, in 2006. In addition, the Company was short staffed in outside salespeople through June 30, 2007, down to one salesperson from four, which negatively impacted sales. From May through July, 2007, the Company has since invested in additional outside sales people to focus on higher margin sales opportunities. The impact of these outside salespeople is expected to realize increases to revenues in the fourth quarter of this year. Cost of sales was $555,217 for the quarter ended September 30, 2007 compared to $576,446 for the quarter ended September 30, 2006, a decrease of $21,229 or 3.7%. Cost of sales was $1,146,865 for the nine months ended September 30, 2007 compared to $1,869,410 reported for the same period in 2006, a decrease of $722,545 or 63%. This decrease is primarily due to the decrease in total revenues in 2007 from 2006. As a percentage of sales, cost of sales was 59.9% and 51.3% for the quarter ended September 30, 2007 and 2006, respectively. This increase is primarily due to less profit margin realized on sales consummated in the third quarter 2007 versus the comparative period in 2006. As a percentage of sales, cost of sales was 59.5% and 67.4% for the nine months ended September
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30, 2007 and 2006, respectively. This improvement in cost of sales as a percentage of sales is primarily attributable to the decrease in business from the Texas Department of Information Resources in 2007, which has a higher cost of sales as a percentage of revenue, but higher revenues per contract. Our gross margin was 40.0% for the quarter ended September 30, 2007 compared to 48.7% for the quarter ended September 30, 2006. Decrease in gross margin percentage is due primarily to the low cost of sales percentage realized in the third quarter 2006, versus the same period in 2007. Gross margin was 40.5% for the nine months ended September 30, 2007 compared to 32.6% reported for the same period in 2006. The increase in the gross margin percentage is due primarily to a significantly less DIR revenue for the nine months ended September 30, 2007 compared to a significant amount of revenue in for the nine months ended September 30, 2006 from the Texas Department of Information Resources, which has less gross profit margin, but higher revenues per contract. General and Administrative Expenses
General and administrative expenses were $841,130 and $303,432 for the quarter ended September 30, 2007 and 2006, respectively. General and administrative expenses were $1,634,398 and $812,852 for the nine months ended September 30, 2007 and 2006, respectively. The increase in 2007 was due primarily to the administrative costs associated with being a public company, such as legal, accounting, public relations and investor relations, as well as additional administrative headcount, and 17 days of expenses from USVD.
Rental expense for operating leases during the quarters ended September 30, 2007 and 2006 was $29,971 and $16,082, respectively. Rental expense for operating leases for the nine months ended September 30, 2007 and 2006 was $42,854 and $41,647, respectively. $14,098 of the increase for the three months ended September 30, 2007 is due to the acquisition of USVD. The Company also entered into a lease to rent out approximately 5,500 square feet of office space in Austin Texas in July 2007.
On July 26, 2007 the Company entered into a 31 month lease for its Austin operations under a lease classified as an operating lease. Effective September 26, 2007 the Company assumed current operating leases for the three offices leased by USVD. On October 15, 2007 the Company entered into a 60 month lease for its headquarters in Clearwater, Florida effective December 1, 2007. Minimum lease obligations are as follows:
October through December 2007 $ 69,868
2008 304,212
2009 299,476
2010 234,025
2011 110,665
2012 76,870
Stock Based Compensation
Stock based compensation for the nine months ended September 30, 2007 was $915,000 compared to $0 reported for the same periods in 2006. This expense relates to the stock option agreements entered into with George Pacinelli, our President, and Bryan McGuire, our Chief Financial Officer. Pursuant to Mr. Pacinelli's stock option agreement, we granted to Mr. Pacinelli an option to purchase up to 7,000,000 shares of our common stock at an exercise price of $0.185714 per share (the "Pacinelli Options"). Pursuant to Mr. McGuire's stock option agreement, we granted to Mr. McGuire an option to purchase up to 7,000,000 shares of our common stock at an exercise price of $0.185714 per share (the "McGuire Options"), (the Pacinelli Options and the McGuire Options collectively hereinafter referred to as the "Options"). The Options are intended to qualify as incentive stock options within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended, and were granted pursuant to our 2007 Stock Option Plan, pursuant to which we have reserved 35,000,000 shares of common stock for issuance to employees, directors and consultants. All of Mr. McGuire's options are immediately exercisable. One half of Mr. Pacinelli's options are immediately exercisable and the remainder vest as follows:
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Number of Shares Vesting Date
2,100,000 April 19, 2008
1,400,000 April 19, 2009
The Company recognizes employee stock based compensation in accordance with the adoption of SFAS 123R. The Company utilizes the Black-Scholes valuation model to value all stock options (the "Options"). Compensation for restricted stock awards is measured at fair value on the date of grant based on the number of shares expected to vest and the quoted market price of the Company's common stock. Compensation cost for all awards will be recognized in earnings, net of estimated forfeitures, on a straight-line basis over the requisite service period. For the nine months ended September 30, 2007, the Company recognized $915,000 in Employee Stock Compensation Expense. The Company has unrecognized stock compensation expense of $305,000 which will be recognized to expense over the remaning 21 month vesting period.
Amortization Expense
The Company recognized $933,615 of amortization expense for the quarter and nine months ending September 30, 2007 related to the accounting treatment of the warrants issued and allocation of beneficial conversion in connection with the debt financing for the acquisition of USVD. There was no such expense for the comparable periods in 2006.
Interest Expense
Interest expense was $34,838 and $19,988 for the quarters ended September 30, 2007 and 2006, respectively. Interest expense was $61,395 and $42,895 for the nine months ended September 30, 2007 and 2006, respectively. The increase is due primarily to the additional debt incurred with the acquisition of USVD. Net Profit/Net Loss from Operations
We realized a net loss from operations of ($1,444,691) for the quarter ended September 30, 2007 compared to income from operations of $223,532 for the quarter ended September 30, 2006. Net income (loss) from operations was ($2,789,774) and $23,860 for the nine months ended September 30, 2007 and 2006, respectively. This decrease in income from operations is primarily due to the employee stock compensation expense of $915,000 for the nine months ended September 30,2007, the amortization expense of $933,615 for the three and nine months ended September 30, 2007 and $0 reported for the same periods in 2006. Also, this loss from operations is also due to the significant decrease in total revenues and the increase in general and administrative expenses, as discussed above.
Liquidity and Capital Resources
Prior to the Share Exchange on February 21, 2007, Brookside Technology Partners was funded primarily through shareholder loans and from cash provided by its operations. In connection with the Share Exchange, as previously reported, the Company raised funds through a private placement of Series A Preferred Stock (the "Private Placement"). In the Private Placement, the Company received net cash proceeds of $1,280,337, after the deduction of all expenses and not including the conversion of certain notes payable.
Subsequent to the Private Placement, the Company acquired US Voice & Data, LLC ("USVD"). In order to fund the acquisition, the Company, through Midtown Partners & Co., LLC and LCG Capital, raised approximately $11,000,000 less fees and expenses of $1,192,000 for net cash proceeds of $9,808,000 to finance the acquisition of USVD. The financing consisted of approximately $8.0 million of senior and subordinated debt and $3.0 million of series B preferred stock. In connection therewith, the Company and its two subsidiaries, USVD and Brookside Technology Partners, entered into a Credit Agreement with Hilco Financial LLC, pursuant to which Hilco agreed to provide a $7,000,000 revolving line of credit, bearing interest at 15% and maturing on September 26, 2008 (the "Senior Loan"). This note will need to be refinanced prior to the maturity date of September 26, 2008. There can be
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no assurances that we will be able to obtain such financing. In accordance with terms of this credit facility, we are required to submit to Hilco our cash availability pursuant to a borrowing base certificate ("BBC"). This BBC calculates availability based on the eligible accounts receivable and inventory each week. Since our availibilty is dependant upon our eligible accounts receivable and inventory, our room on this line has been at near the limit each week. There can be no assurances that we will generate sufficient availability under this arrangement to provide adequate financing to fund our business strategy. Failure to due so will have a severe adverse affect on the Company. Additionally, the Company entered into a Securities Purchase Agreement with Vicis Capital Master Fund, a sub-trust of Vicis Capital Series Master Trust, pursuant to which Vicis acquired 3,000,000 shares of Series B Convertible Preferred Stock of the Company for $3,000,000, which shares are convertible into 24,000,000 shares of common stock of the Company (subject to certain adjustments).
The Vicis Series B Convertible Preferred Stock must be either redeemed by the Company or acquired by a third party by December 26, 2007. The Hilco Credit Agreement prohibits any such redemption. The Company is therefore seeking a third party to acquire the Series B Convertible Preferred Stock, but there can be no assurances that it will be able to do so.
Additionally, the Company also entered into a Subordinated Note and a related Subordinated Note Purchase Agreement with DD Growth Premium Fund, pursuant to which DD Growth Premium Fund loaned the Company $1 million, bearing interest at 10% per annum and maturing on December 30, 2008 (the "Subordinated Loan"). Hilco Financial, LLC, Vicis Capital and DD Growth Premium Fund are together hereinafter referred to as "Lenders". On or prior ro the maturity of the subordinated loan, we will also need to refinance this loan as well. There can be no assurances that we will be able to obtain such financing.
If we are not able to refinance our debt, then we will be in default with our Lenders. This will restrict our access to cash. The Lenders will have the authority to call the notes payable and also take control of our assets. There can be no assurances that we will be able to obtain such financing. Also, if we fail to obtain such financing, we will not be able to implement our growth strategy and may not be able to continue as a going concern. We incurred net losses during the nine months ended September 30, 2007 and for the years ended 2006, 2005 and 2004. Our current and past losses raise doubt about our ability to continue as a going concern.
In connection with the forgoing, the Company granted (a) Vicis a warrant to purchase 24,000,000 shares of common stock of the Company at an exercise price of $0.125 per share; (b) Hilco Financial LLC a warrant to purchase 61,273,835 shares of common stock of the Company at an exercise price of $0.137 per share;
(c) DD Growth Premium Fund a warrant to purchase 10,000,000 shares of common stock of the Company at an exercise price of $0.114 per share; and (d) Midtown Partners & Co. a warrant to purchase 5,800,000 shares of common stock of the Company at an exercise price of $0.114 per share. The Company has incurred net losses during the nine months ended September 30, 2007, and the years ended December 31, 2006, 2005 and 2004. The Company's ability to meet its obligations in the ordinary course of business is dependent upon its ability to establish profitable operations, raise additional financing through public or private equity financings, or secure other sources of financing to fund operations. The Company has cash and cash equivalents of $133,685 and a working capital deficit of $2,387,007 at September 30, 2007. The Company had net cash used in operating activities of $1,036,693 during the nine months ended September 30, 2007. These matters raise substantial doubt about the Company's ability to continue as a going concern. The financial statements do not include any adjustments that might result from the outcome of this uncertainty Critical Accounting Policies Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. For a description of those estimates, see Note 3, Significant Accounting Policies,
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contained in the explanatory notes to our financial statements contained in this Report. On an on-going basis, we evaluate our estimates, including those related to reserves, deferred tax assets and valuation allowance, and impairment of long-lived assets. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions; however, we believe that our estimates, including those for the above-described items, are reasonable.
Revenue Recognition
Brookside derives its revenues primarily from sales of converged VOIP telecommunications equipment and professional services implementation/installation, data and wireless equipment and installation, recurring maintenance/managed service and network service agreements and other services. It recognizes revenue in accordance with SEC Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements" ("SAB 101"), as amended by SAB No. 104. Under SAB 101 and SAB 104, revenue is recognized when there is persuasive evidence of an arrangement, delivery has occurred or services have been rendered, the sales price is determinable, and collectibility is reasonably assured. Sales are recorded net of discounts, rebates, and returns. Brookside's recognizes revenue from the equipment sales and installation services at the completion of the contract and acceptance by the customer. A majority of equipment sales and installation services revenues are billed in advance on a monthly basis based upon the fixed price, and are included both accounts receivable and deferred income on the accompanying balance sheets. Direct costs incurred on such contracts are deferred until the related revenue is recognized and are included in deferred contract costs on the accompanying balance sheets.
Brookside also provides professional services (maintenance/managed services) on a fixed price basis. These services are billed as bundles and or upon completion of the services.
Recent Accounting Pronouncements
In July 2006, the FASB issued Interpretation No. 48, "Accounting for Uncertainty . . .
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4-Feb-2008
Quarterly Report
Item 2. Management's Discussion and Analysis or Plan of Operations
The information presented in this section should be read in conjunction with our audited financial statements and related notes for the periods ended December 31, 2006 and 2005 included in our Form 10-KSB, as filed with the Securities and Exchange Commission, as well as the information contained in the financial statements, including the notes thereto, appearing in this report. This discussion contains forward-looking statements reflecting our current expectations that involve risks and uncertainties. Actual results and the timing of events may differ materially from those contained in these forward-looking statements due to a number of factors, including those discussed in the section entitled "Risk Factors"of our Form 10-KSB for the year ended December 31, 2006, and elsewhere in this report.
General
Background/Name Change/Redomestication
Cruisestock, Inc, (the "Company") was incorporated in September 2005 under the laws of the State of Texas. Immediately prior to February 21, 2007, it was a shell corporation with no significant operations or assets. On February 21, 2007, the Company acquired all of the stock of Brookside Technology Partners, a Texas corporation, in a transaction where the shareholders of Brookside Technology Partners exchanged all of their shares for shares of common stock of the Company (the "Share Exchange"). As a result, Brookside Technology Partners became a wholly-owned subsidiary of the Company. However, from an accounting perspective, Brookside Technology Partners was the acquirer in the Share Exchange.
Because Brookside Technology Partners was the accounting acquirer in the Share Exchange, management does not believe that it is informative or useful to compare the Company's historical results of operations with those of Brookside Technology Partners. Instead, below we discuss only Brookside Technology Partners' results of operations and financial performance.
Subsequent to the Share Exchange, on July 6, 2007 (the "Effective Time"), the Company changed its name to Brookside Technology Holdings Corp. and redomesticated into Florida. The name change and redomestication were accomplished by merging the Company into a newly-formed, Florida wholly-owned subsidiary, with the subsidiary being the surviving entity (the "Redomestication"). As a result, the Company is now a Florida corporation and its name is Brookside Technology Holdings Corp.
The Company's common stock is quoted on the Over the Counter Bulletin Board (OTCBB) under a new symbol: BKSD.
Stock Split
Concurrently with the Redomestication and as of the Effective Time:
• Each outstanding share of Cruisestock's common stock, $0.001 per share, was automatically converted into seven shares of Brookside Technology Holdings Corp.'s common stock, $0.001 par value per share;
• Each outstanding share of Cruisestock's series A preferred stock, $0.001 per share, was automatically converted into one share of Brookside Technology Holdings Corp.'s series A preferred stock, $0.001 par value per share;
• The price at which the series A preferred stock converts into common stock was automatically adjusted, on a proportionate basis, to account for the forward split of the common shares by reducing the current conversion price of $0.40 per share to $0.0571428; and
• The number of shares of common stock underlying all of Cruisestock's outstanding options and warrants to purchase common stock, and the exercise price of such options and warrants, was automatically adjusted to account for the 7-for-1 common share stock split.
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Acquisition of USVD
On September 26, 2007, we acquired all of the membership interest of USVD from The Michael P. Fischer Irrevocable Delaware Trust under Agreement dated April 5, 2007, and The M. Scott Diamond Irrevocable Delaware Trust under Agreement dated April 23, 2007 (the "Sellers"), pursuant to a Membership Interest Purchase Agreement closed on such date (the "Purchase Agreement"). USVD, headquartered in Louisville, Kentucky, with offices in Lexington, Kentucky and Indianapolis, Indiana, is a leading regional provider of telecommunication services, including planning, design, installation and maintenance for converged voice and data systems. USVD had un-audited revenue of $15.1 million for the trailing twelve months ended August 31, 2007, and audited 2006 revenue of $12.1 million. The purchase price of $16,125,110 was paid through a combination of common stock, cash of at closing and a seller note. The Company issued 7,000,000 shares of its common stock valued at $.39 per share on September 14, 2007. Additionally, the Purchase Agreement provides the Sellers with the opportunity to earn additional stock or cash consideration in the form of a three-year performance based EBITDA earnout.
Additionally, the Company caused USVD, its new subsidiary, to enter into employment agreements with Michael P. Fischer and M. Scott Diamond, with initial terms of three years, pursuant to which they will serve as USVD's CEO and COO, respectively. The employment agreements contain standard terms and provisions, including non competition and confidentiality provisions and provisions relating to early termination and constructive termination, and provide for an annual base salary and certain standard benefits. Credit Facility
The Company, through Midtown Partners & Co., LLC and LCG Capital, raised approximately $11,000,000 ($10,000,000 advanced on the acquisition date) less fees and expenses of $1,192,000 for net cash proceeds of $9,808,000 to finance the acquisition of USVD. The financing consisted of approximately $8.0 million of senior and subordinated debt and $3.0 million of series B preferred stock. In connection therewith, the Company and its two subsidiaries, USVD and Brookside Technology Partners, entered into a Credit Agreement with Hilco Financial LLC, pursuant to which Hilco agreed to provide a $7,000,000 ($6,000,000 advanced on the acquisition date) revolving line of credit, bearing interest at 15% and maturing on September 26, 2008 (the "Senior Loan"). Additionally, the Company also entered into a Subordinated Note and a related Subordinated Note Purchase Agreement with DD Growth Premium Fund, pursuant to which DD Growth Premium Fund loaned the Company $1 million, bearing interest at 10% per annum and maturing on December 30, 2008 (the "Subordinated Loan"). Additionally, the Company entered into a Securities Purchase Agreement with Vicis Capital Master Fund, a sub-trust of Vicis Capital Series Master Trust, pursuant to which Vicis acquired 3,000,000 shares of Series B Convertible Preferred Stock of the Company for $3,000,000, which shares are convertible into 24,000,000 shares of common stock of the Company (subject to certain adjustments).
The Vicis Series B Convertible Preferred Stock must be either redeemed by the Company or acquired by a third party by December 26, 2007. The Hilco Credit Agreement prohibits any such redemption. The Series B Convertible Preferred Stock was classified as debt as a result of its mandatory redemption date. Warrants Issued in Connection with Financing:
In connection with the foregoing financing of the acquisition of USVD, the Company granted (a) Vicis a warrant to purchase 24,000,000 shares of common stock of the Company at an exercise price of $0.125 per share; (b) Hilco Financial LLC a warrant to purchase 61,273,835 shares of common stock of the Company at an exercise price of $0.137 per share; (c) DD Growth Premium Fund a warrant to purchase 10,000,000 shares of common stock of the Company at an exercise price of $0.114 per share; and (d) Midtown Partners & Co. a warrant to purchase 5,800,000 shares of common stock of the Company at an exercise price of $0.114 per share.
In addition to operating Brookside Technology Partners and USVD, the Company is exploring certain strategic acquisitions.
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Operations
We are the holding company for Brookside Technology Partners, Inc, a Texas corporation ("Brookside Technology Partners"), and US Voice & Data, LLC, an Indiana Limited Liability Company ("USVD"), and all operations are conducted through those two wholly owned subsidiaries.
Headquartered in Austin, Texas, Brookside Technology Partners is a provider and global managed service company specializing in selling, designing, analyzing and implementing converged Voice over IP (VoIP), data and wireless business communications systems and solutions for commercial and state/government organizations of all types and sizes in the United States. Brookside Technology Partners is recognized as a leading VoIP reseller and professional services vendor with over 300 Nortel BCM installations that have various forms of networked or VoIP functionality.
Headquartered in Louisville, Kentucky, USVD is a leading regional provider of telecommunication services including planning, design, installation and maintenance for the converged voice and data systems. USVD serves the Kentucky and Southern Indiana markets, operating out of offices in Louisville, Lexington and Indianapolis.
USVD combines technical expertise in a range of communications products, including IP-enabled platforms, wired and wireless IP and digital endpoints and leading edge communications applications to create converged voice, video and data networks that help businesses increase efficiency and optimize revenue opportunities, critical for success in today's competitive business environment. The sale of new systems, built on either Inter-Tel or NEC platforms, is the backbone of USVD's business, typically accounting for approximately 65% of USVD's revenue.
Results of Operations
The following discussion of the financial condition and results of operations of the Company should be read in conjunction with the financial statements included herewith. This discussion should not be construed to imply that the results discussed herein will necessarily continue into the future, or that any conclusion reached herein will necessarily be indicative of actual operating results in the future.
Three and Nine Months Ended September 30, 2007 compared to Three and Nine Months Ended September 30, 2006.
Revenues, Cost of Sales and Gross Margins Total revenues from operations for quarter ended September 30, 2007 were $927,036 compared to $1,123,494 reported for the same period in 2006, a decrease of $196,458 or 17.5%. This decrease in revenues is primarily due to less outside sales people as discussed further below. This difference was partially offset by the recognition of 17 days worth of revenue from our wholly owned subsidiary, US Voice & Data, LLC ("USVD"). Total revenues from operations for the nine months ended September 30, 2007 were $1,928,475 compared to $2,772,440 reported for the same period in 2006, a decrease of $843,965 or 30.4%. This decrease is primarily due to the recognition of two large Texas Department of Information Resources ("DIR") contracts, which totaled $648,287, in 2006. In addition, the Company was short staffed in outside salespeople through June 30, 2007, down to one salesperson from four, which negatively impacted sales. From May through July, 2007, the Company has since invested in additional outside sales people to focus on higher margin sales opportunities. The impact of these outside salespeople is expected to realize increases to revenues in the fourth quarter of this year. Cost of sales was $555,217 for the quarter ended September 30, 2007 compared to $576,446 for the quarter ended September 30, 2006, a decrease of $21,229 or 3.7%. Cost of sales was $1,146,865 for the nine months ended September 30, 2007 compared to $1,869,410 reported for the same period in 2006, a decrease of $722,545 or 63%. This decrease is primarily due to the decrease in total revenues in 2007 from 2006. As a percentage of sales, cost of sales was 59.9% and 51.3% for the quarter ended September 30, 2007 and 2006, respectively. This increase is primarily due to less profit margin realized on sales consummated in the third quarter 2007 versus the comparative period in 2006. As a percentage of sales, cost of sales was 59.5% and 67.4% for the nine months ended September
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30, 2007 and 2006, respectively. This improvement in cost of sales as a percentage of sales is primarily attributable to the decrease in business from the Texas Department of Information Resources in 2007, which has a higher cost of sales as a percentage of revenue, but higher revenues per contract. Our gross margin was 40.0% for the quarter ended September 30, 2007 compared to 48.7% for the quarter ended September 30, 2006. Decrease in gross margin percentage is due primarily to the low cost of sales percentage realized in the third quarter 2006, versus the same period in 2007. Gross margin was 40.5% for the nine months ended September 30, 2007 compared to 32.6% reported for the same period in 2006. The increase in the gross margin percentage is due primarily to a significantly less DIR revenue for the nine months ended September 30, 2007 compared to a significant amount of revenue in for the nine months ended September 30, 2006 from the Texas Department of Information Resources, which has less gross profit margin, but higher revenues per contract. General and Administrative Expenses
General and administrative expenses were $841,130 and $303,432 for the quarter ended September 30, 2007 and 2006, respectively. General and administrative expenses were $1,634,398 and $812,852 for the nine months ended September 30, 2007 and 2006, respectively. The increase in 2007 was due primarily to the administrative costs associated with being a public company, such as legal, accounting, public relations and investor relations, as well as additional administrative headcount, and 17 days of expenses from USVD.
Rental expense for operating leases during the quarters ended September 30, 2007 and 2006 was $29,971 and $16,082, respectively. Rental expense for operating leases for the nine months ended September 30, 2007 and 2006 was $42,854 and $41,647, respectively. $14,098 of the increase for the three months ended September 30, 2007 is due to the acquisition of USVD. The Company also entered into a lease to rent out approximately 5,500 square feet of office space in Austin Texas in July 2007.
On July 26, 2007 the Company entered into a 31 month lease for its Austin operations under a lease classified as an operating lease. Effective September 26, 2007 the Company assumed current operating leases for the three offices leased by USVD. On October 15, 2007 the Company entered into a 60 month lease for its headquarters in Clearwater, Florida effective December 1, 2007. Minimum lease obligations are as follows:
October through December 2007 $ 69,868
2008 304,212
2009 299,476
2010 234,025
2011 110,665
2012 76,870
Stock Based Compensation
Stock based compensation for the nine months ended September 30, 2007 was $915,000 compared to $0 reported for the same periods in 2006. This expense relates to the stock option agreements entered into with George Pacinelli, our President, and Bryan McGuire, our Chief Financial Officer. Pursuant to Mr. Pacinelli's stock option agreement, we granted to Mr. Pacinelli an option to purchase up to 7,000,000 shares of our common stock at an exercise price of $0.185714 per share (the "Pacinelli Options"). Pursuant to Mr. McGuire's stock option agreement, we granted to Mr. McGuire an option to purchase up to 7,000,000 shares of our common stock at an exercise price of $0.185714 per share (the "McGuire Options"), (the Pacinelli Options and the McGuire Options collectively hereinafter referred to as the "Options"). The Options are intended to qualify as incentive stock options within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended, and were granted pursuant to our 2007 Stock Option Plan, pursuant to which we have reserved 35,000,000 shares of common stock for issuance to employees, directors and consultants. All of Mr. McGuire's options are immediately exercisable. One half of Mr. Pacinelli's options are immediately exercisable and the remainder vest as follows:
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Number of Shares Vesting Date
2,100,000 April 19, 2008
1,400,000 April 19, 2009
The Company recognizes employee stock based compensation in accordance with the adoption of SFAS 123R. The Company utilizes the Black-Scholes valuation model to value all stock options (the "Options"). Compensation for restricted stock awards is measured at fair value on the date of grant based on the number of shares expected to vest and the quoted market price of the Company's common stock. Compensation cost for all awards will be recognized in earnings, net of estimated forfeitures, on a straight-line basis over the requisite service period. For the nine months ended September 30, 2007, the Company recognized $915,000 in Employee Stock Compensation Expense. The Company has unrecognized stock compensation expense of $305,000 which will be recognized to expense over the remaning 21 month vesting period.
Amortization Expense
The Company recognized $933,615 of amortization expense for the quarter and nine months ending September 30, 2007 related to the accounting treatment of the warrants issued and allocation of beneficial conversion in connection with the debt financing for the acquisition of USVD. There was no such expense for the comparable periods in 2006.
Interest Expense
Interest expense was $34,838 and $19,988 for the quarters ended September 30, 2007 and 2006, respectively. Interest expense was $61,395 and $42,895 for the nine months ended September 30, 2007 and 2006, respectively. The increase is due primarily to the additional debt incurred with the acquisition of USVD. Net Profit/Net Loss from Operations
We realized a net loss from operations of ($1,444,691) for the quarter ended September 30, 2007 compared to income from operations of $223,532 for the quarter ended September 30, 2006. Net income (loss) from operations was ($2,789,774) and $23,860 for the nine months ended September 30, 2007 and 2006, respectively. This decrease in income from operations is primarily due to the employee stock compensation expense of $915,000 for the nine months ended September 30,2007, the amortization expense of $933,615 for the three and nine months ended September 30, 2007 and $0 reported for the same periods in 2006. Also, this loss from operations is also due to the significant decrease in total revenues and the increase in general and administrative expenses, as discussed above.
Liquidity and Capital Resources
Prior to the Share Exchange on February 21, 2007, Brookside Technology Partners was funded primarily through shareholder loans and from cash provided by its operations. In connection with the Share Exchange, as previously reported, the Company raised funds through a private placement of Series A Preferred Stock (the "Private Placement"). In the Private Placement, the Company received net cash proceeds of $1,280,337, after the deduction of all expenses and not including the conversion of certain notes payable.
Subsequent to the Private Placement, the Company acquired US Voice & Data, LLC ("USVD"). In order to fund the acquisition, the Company, through Midtown Partners & Co., LLC and LCG Capital, raised approximately $11,000,000 less fees and expenses of $1,192,000 for net cash proceeds of $9,808,000 to finance the acquisition of USVD. The financing consisted of approximately $8.0 million of senior and subordinated debt and $3.0 million of series B preferred stock. In connection therewith, the Company and its two subsidiaries, USVD and Brookside Technology Partners, entered into a Credit Agreement with Hilco Financial LLC, pursuant to which Hilco agreed to provide a $7,000,000 revolving line of credit, bearing interest at 15% and maturing on September 26, 2008 (the "Senior Loan"). This note will need to be refinanced prior to the maturity date of September 26, 2008. There can be
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no assurances that we will be able to obtain such financing. In accordance with terms of this credit facility, we are required to submit to Hilco our cash availability pursuant to a borrowing base certificate ("BBC"). This BBC calculates availability based on the eligible accounts receivable and inventory each week. Since our availibilty is dependant upon our eligible accounts receivable and inventory, our room on this line has been at near the limit each week. There can be no assurances that we will generate sufficient availability under this arrangement to provide adequate financing to fund our business strategy. Failure to due so will have a severe adverse affect on the Company. Additionally, the Company entered into a Securities Purchase Agreement with Vicis Capital Master Fund, a sub-trust of Vicis Capital Series Master Trust, pursuant to which Vicis acquired 3,000,000 shares of Series B Convertible Preferred Stock of the Company for $3,000,000, which shares are convertible into 24,000,000 shares of common stock of the Company (subject to certain adjustments).
The Vicis Series B Convertible Preferred Stock must be either redeemed by the Company or acquired by a third party by December 26, 2007. The Hilco Credit Agreement prohibits any such redemption. The Company is therefore seeking a third party to acquire the Series B Convertible Preferred Stock, but there can be no assurances that it will be able to do so.
Additionally, the Company also entered into a Subordinated Note and a related Subordinated Note Purchase Agreement with DD Growth Premium Fund, pursuant to which DD Growth Premium Fund loaned the Company $1 million, bearing interest at 10% per annum and maturing on December 30, 2008 (the "Subordinated Loan"). Hilco Financial, LLC, Vicis Capital and DD Growth Premium Fund are together hereinafter referred to as "Lenders". On or prior ro the maturity of the subordinated loan, we will also need to refinance this loan as well. There can be no assurances that we will be able to obtain such financing.
If we are not able to refinance our debt, then we will be in default with our Lenders. This will restrict our access to cash. The Lenders will have the authority to call the notes payable and also take control of our assets. There can be no assurances that we will be able to obtain such financing. Also, if we fail to obtain such financing, we will not be able to implement our growth strategy and may not be able to continue as a going concern. We incurred net losses during the nine months ended September 30, 2007 and for the years ended 2006, 2005 and 2004. Our current and past losses raise doubt about our ability to continue as a going concern.
In connection with the forgoing, the Company granted (a) Vicis a warrant to purchase 24,000,000 shares of common stock of the Company at an exercise price of $0.125 per share; (b) Hilco Financial LLC a warrant to purchase 61,273,835 shares of common stock of the Company at an exercise price of $0.137 per share;
(c) DD Growth Premium Fund a warrant to purchase 10,000,000 shares of common stock of the Company at an exercise price of $0.114 per share; and (d) Midtown Partners & Co. a warrant to purchase 5,800,000 shares of common stock of the Company at an exercise price of $0.114 per share. The Company has incurred net losses during the nine months ended September 30, 2007, and the years ended December 31, 2006, 2005 and 2004. The Company's ability to meet its obligations in the ordinary course of business is dependent upon its ability to establish profitable operations, raise additional financing through public or private equity financings, or secure other sources of financing to fund operations. The Company has cash and cash equivalents of $133,685 and a working capital deficit of $2,387,007 at September 30, 2007. The Company had net cash used in operating activities of $1,036,693 during the nine months ended September 30, 2007. These matters raise substantial doubt about the Company's ability to continue as a going concern. The financial statements do not include any adjustments that might result from the outcome of this uncertainty Critical Accounting Policies Our discussion and analysis of our financial condition and results of operations are based upon our financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. For a description of those estimates, see Note 3, Significant Accounting Policies,
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contained in the explanatory notes to our financial statements contained in this Report. On an on-going basis, we evaluate our estimates, including those related to reserves, deferred tax assets and valuation allowance, and impairment of long-lived assets. We base our estimates on historical experience and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions; however, we believe that our estimates, including those for the above-described items, are reasonable.
Revenue Recognition
Brookside derives its revenues primarily from sales of converged VOIP telecommunications equipment and professional services implementation/installation, data and wireless equipment and installation, recurring maintenance/managed service and network service agreements and other services. It recognizes revenue in accordance with SEC Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements" ("SAB 101"), as amended by SAB No. 104. Under SAB 101 and SAB 104, revenue is recognized when there is persuasive evidence of an arrangement, delivery has occurred or services have been rendered, the sales price is determinable, and collectibility is reasonably assured. Sales are recorded net of discounts, rebates, and returns. Brookside's recognizes revenue from the equipment sales and installation services at the completion of the contract and acceptance by the customer. A majority of equipment sales and installation services revenues are billed in advance on a monthly basis based upon the fixed price, and are included both accounts receivable and deferred income on the accompanying balance sheets. Direct costs incurred on such contracts are deferred until the related revenue is recognized and are included in deferred contract costs on the accompanying balance sheets.
Brookside also provides professional services (maintenance/managed services) on a fixed price basis. These services are billed as bundles and or upon completion of the services.
Recent Accounting Pronouncements
In July 2006, the FASB issued Interpretation No. 48, "Accounting for Uncertainty . . .
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