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Form 10KSB/A for PHANTOM FIBER CORP
Annual Report
APRIL 19, 2006
Item 6. Managements Discussion and Analysis or Plan of Operation.
Forward-Looking Statements
The information in this annual report contains forward-looking statements. All statements other than statements of historical fact made in this report are forward looking. In particular, the statements herein regarding industry prospects and future results of operations or financial position are forward-looking statements. Forward-looking statements reflect management's current expectations and are inherently uncertain. Actual results may differ significantly from management's expectations.
The following discussion and analysis should be read in conjunction with the consolidated financial statements of Phantom Fiber 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. Such discussion represents only the best present assessment of management.
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Current Business and Outlook
Phantom Fiber provides wireless technology products and services that allow users to experience internet-like graphics and internet-like speed in an end-to-end highly secure solution for multiple mobile platforms. The Companys customers include cellular network carriers such as Wind (Italy), Vodophone and Telus Mobility (Canada), and several online gaming, horse racing, fixed odd game providers and sports book service providers companies including Golden Palace, Real-Time Gaming, WagerWorks, Interactive Gaming and Wagering, Digital Gaming Solutions, Kiron Interactive, Bet Options, Tribeca Tables, Wager Works, Orbis , IQ-Ludorum, CaribSports, and Parlay Entertainment. The Company also has clients in the financial and mobile payments vertical (such as FireOne, Citadel, and Navaho Networks), logistics and distribution software providers, and the security and remote-monitoring industries.
Phantom Fibers gaming and sports book customers typically enter into exclusive multi-year, revenue-sharing agreements, under which they use Phantom Fibers technology to offer games, content or other services to their subscribers and are charged a monthly user fee or percentage of the revenues or income generated from those games.
In 2005, the Company continued to secure several multi-year contracts with software providers to the online gaming and wagering industry. The growing backlog of sites to integrate and deploy has forced the Company to shift its focus and resources to provide functionality to address the demands of this specific market. This service includes the following: affiliate tracking; multi-lingual and multi-currency support; enhanced bandwidth optimization; integrated refer-a-friend; online registration; a simplified single click install wizard; enhanced client tracking and interactive technical support. The Company has determined that by working closer with its client operators it can significantly influence adoption by end users. The Companys marketing team has been enhanced to support the existing and growing client base to serve these needs.
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In the past year, the number of mobile phones and Personal Digital Assistants (PDAs) supported by Phantom Fibers software has increased from 20 devices at the end of 2004 to over 1,000 handheld mobile phones and PDAs currently produced. Management believes that ongoing success will stem from three areas: (1) contract fulfillment through client deployments; (2) direct involvement in the marketing and user adoption strategies of the operator; and (3) ongoing product development to expand the Companys product and service offerings and increase its competitive position. The Company intends to enhance its product offering by introducing new features and products as the market demands. As part of its product development process, the Company has worked closely with its customers and its distribution channels to ensure that such market needs are met.
Pursuant to the Share Exchange Agreement entered into as of April 21, 2004 (described under Organizational History on page 1 of this report), the Company assumed a number of obligations incurred by its predecessor business Pivotal Self-Service Technologies. totaling $493,400. By the end of fiscal 2005 the Company had settled or repaid approximately $301,400 of these obligations and had made arrangements on the remaining $192,000 Eliminating these matters is an important step towards freeing management to focus on sales and technology in 2006 and beyond. The recent financing closed on January 10, 2006 (described under Subsequent Events below) was another major advancement enabling the Company to increase in staff and execute on its plans. These plans include expanding to London, England, the US and Costa Rica in the second quarter of 2006, enhancing product support and accelerating deployment of new products and client sites.
Three markets management believes will dominate the Companys efforts in 2006 will be:
· the online gaming, horse racing and sports book sectors;
· the live video streaming and interactive mobile content sectors; and
· the payment processing sector allowing a seamless transition into a mobile wallet or mobile commerce market in subsequent years.
The Companys product development program and establishment of new long-term relationships, globally, is expected to expand the distribution channels for its product and service offerings and generate meaningful revenue streams. This remains key to Phantom Fibers objective of increasing brand awareness and market share on a basis that enhances profitability and shareholder value.
Results of operations
In fiscal 2005 the operating loss, before other income and expenses, increased by $352,070 to $2,068,180 from $1,716,110 in fiscal 2004. After the net impact of other income and expenses the net loss for the fiscal year ended December 31, 2005 was $2,725,200 ($0.20 per share) compared to a net loss of $1,524,049 ($0.15 per share) for the same period in the preceding year an increase of $1,201,151. The Company is continuing the transition from a product development enterprise into commercial rollout of its software that started in fiscal 2004. At the same time the Company is continuing to conduct extensive research and development to ensure its software keeps pace with changes in technology and market needs.
Revenue
Total revenue increased by $133,445 from $91,511 for the year ended December 31, 2004 to $224,956 for the year ended December 31, 2005, an increase of 146%. Professional services revenue increased by $49,065 from $56,636 in fiscal 2004 to $105,701 in fiscal 2005. The Company implemented 15 sites for customers in 2005 compared to eight in 2004. There were three projects initiated during 2005 that will be completed in fiscal 2006.
User fees and royalties are based on number of users and are recognized monthly. User fees and royalties increased by $84,380 from $34,875 in 2004 to $119,255 in 2005. There were 23 client sites live in 2005 compared to eight in 2004. The number of potential users will increase as further client sites are implemented.
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Operating expenses
Total operating expenses increased $485,515 from $1,807,621 for the year ended December 31, 2004 to $2,293,136 for the year ended December 31, 2005, an increase of 27%. Operating expenses are grouped into Research and development, Sales and marketing and General and administrative. The change in each of these groupings is described below:
Research and development
|
2005 |
2004 |
Change |
% |
| Salaries and benefits |
$ 1,051,486 |
$ 796,458 |
$ 255,028 |
32 |
| Other expenses |
11,585 |
12,999 |
(1,414 ) |
(11 ) |
| Less: Investment tax credits |
(129,572 ) |
(237,199 ) |
107,627 |
(45 ) |
| Total |
$ 933,499 |
$ 572,258 |
$ 361,241 |
63 |
The total research and development costs increased by $361,241 to $933,499 in 2005 from $572,258 in the prior year. R&D salaries and benefits paid to develop the product and assist in implementation increased from $796,458 in 2004 to $1,051,486 in 2005 an increase of $255,028 (32%). The Company added 11 people in 2005. This increase reflects the need for resources to continue to extend the capability of the product and to support the increased in product development activities and customer deployments. Other R&D expenses include software licenses, phone usage and other miscellaneous items. These costs decreased from $12,999 in fiscal 2004 to $11,585 in fiscal 2005. The Company is eligible for tax credits offered by federal and provincial governments in Canada for spending on research and development. In fiscal 2004 to the Company filed and received $237,199 in cash refundable investment tax credits. After the reverse acquisition the operating company ceased to be a Canadian Controlled Private Company (i.e. a designation in Canadian tax law for private companies that are owned at least 50% by residents of Canada). As a result of this change of status of the Company, cash refundable investment tax credits are no longer available from the federal government and, in aggregate, declined $107,627 to $129,572 in fiscal 2005 from $237,199 in fiscal 2004.
Sales and marketing
|
2005 |
2004 |
Change |
% |
| Salaries and benefits |
$ 154,360 |
$ 270,934 |
($ 116,574 ) |
(43 ) |
| Advertising and promotion |
50,827 |
21,417 |
29,410 |
137 |
| Public relations |
100,139 |
<4,274/Td>
| 95,865 |
2243 |
| Market research |
|
9,789 |
(9,789 ) |
|
| Travel and entertainment |
47,290 |
18,687 |
28,603 |
153 |
| Total |
$ 352,616 |
$ 325,101 |
$ 27,515 |
8 |
Total sales and marketing expenses increased by $27,515 to $352,616 in fiscal 2005 from $325,101 in the previous year. Sales and marketing salaries and benefits declined by 43% from $270,934 in 2004 to $154,360 in 2005. The Company had four people in the sales and marketing department in 2004 including a Vice President of Sales and two account representatives that had high base salaries. The staff reduced to one person for part of 2005 with a second person added later in 2005. Management made a decision to focus the marketing staff on assisting clients with user adoption rather than field sales staff. The Company will rebuild a sales team in the current year. The Company increased its advertising and promotion spending in 2005 by $29,410 from $21,417 in fiscal 2004 to $50,827 in fiscal 2005. These expenditures were on advertising in trade publications, some trade show spending and miscellaneous promotion. The company increased its spending on public relations from $4,274 in 2004 to $100,139 in 2005. The Company worked with two firms during the year to increase exposure of Phantom Fiber in the market. This account also included expenditures on the preparation and issuance of press releases. The Company spent $9,789 on a research study in fiscal 2004. There were no research studies or other market research activities undertaken in 2005. Travel and entertainment expenses increased from $18,687 in 2004 to $47,290 in 2005 an increase of $28,603. The Company incurred these costs to travel to prospective customer sites, attend trade shows and entertain prospective clients. These costs had been curtailed in prior years due to keep costs down and preserve cash.
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General and administrative expenses
|
2005 |
2004 |
Change |
% |
| Salaries and benefits |
$ 493,246 |
$ 186,105 |
307,141 |
165 |
| Directors compensation |
71,801 |
|
71,801 |
|
| Professional and consulting fees |
193,632 |
281,654 |
(88,022 ) |
(31 ) |
| Investor relations and filing fees |
40,356 |
302,500 |
(262,144 ) |
(87 ) |
| Occupancy costs |
90,752 |
67,909 |
22,843 |
34 |
| Telephone |
13,004 |
12,514 |
490 |
4 |
| Equipment leasing |
|
905 |
(905 ) |
(100 ) |
| Insurance |
3,231 |
2,714 |
517 |
19 |
| Office and general |
26,785 |
43,950 |
(17,165 ) |
(39 ) |
| Bad debt expense |
19,807 |
|
19,807 |
100 |
| Stock-based compensation expense |
39,000 |
|
39,000 |
|
| Amortization |
15,407 |
12,011 |
3,396 |
28 |
| Total |
$ 1,007,021 |
$ 910,262 |
$ 96,795 |
10 |
The Companys general and administrative expenses increased to $1,007,021 for the year ended December 31, 2005 from $910,262 for the prior year an increase of $96,795. Administrative salaries and benefits increased by $307,141, primarily due to a stock bonus paid to the CEO of $270,000 and an allocation of approximately $105,000 of the CEOs salary that had previously been recorded in R&D offset by the reduction in the number of administrative staff. The Company paid fees of $71,801 to its directors which had not been paid in the prior year. The occupancy costs increased by $22,843 from $67,909 in 2004 to $90,752 in 2005. In 2004 the Company only occupied the current premises for eight months and had space with lower cost for the first four months. In 2005 the Company occupied the premises for the entire year. Investor relations and filing fees declined by $262,144 from $302,500 in 2004 to $40,356 in 2005. The Company had arranged a contract with an investor relations firm in 2004 that was not renewed in 2005. The Company also found less expensive services for the regulatory filings than the services used in 2004. The professional and consulting fees declined by $88,022 to $193,632 in 2005 from $281,654 in 2004. The Company incurred higher legal fees in 2004 to complete the reverse takeover transaction. The audit fees were higher due to the need to audit prior year balances to comply with the filing requirements. The Company also incurred a consulting fee to file its investment tax credit claim. No consulting firm will be used for the 2005 filing. The office and general expenses decreased in 2005 to $26,785 from $43,950 in the prior year. The Company incurred higher costs in 2004 with the move to larger premises. The Company needed to stock the office with supplies, stationery and other miscellaneous items. The bad debt expense of $19,807 in 2005 was the result of one account where collection is in doubt. The Company did not have any such accounts in 2004. Amortization expense increased by $3,396 from $12,011 in 2004 to $15,407 in 2005. The Company made purchases of capital assets in 2005 that resulted in an increase in amortization expense. There were small increases in telephone equipment and insurance due to increased business activity. The Company recorded stock based compensation expense of $39,000 in fiscal 2005. This expense reflects the change in accounting policy whereby the cost of stock options and warrants granted to non employees are expensed.
Other income and expenses
|
2005 |
2004 |
Change |
% |
| Loss on disposal of marketable securities |
$ (588,573 ) |
$ (109,534 ) |
$ (479,039 ) |
437 |
| Loss on settlement of payables and debt |
(27,902 ) |
|
(27,902 ) |
|
| Loss on settlement of loan obligation |
|
(83,250 ) |
(83,250 ) |
|
| Gain on sale of Battery Business |
|
391,874 |
(391,874 ) |
|
| Earnout on Battery Business |
82,500 |
35,500 |
47,000 |
132 |
| Interest expense |
(121,032 ) |
(111,495 ) |
(9,537 ) |
9 |
| Interest revenue |
6,464 |
6,906 |
(442 ) |
(6 ) |
| Gain (loss) on foreign exchange |
(8,477 ) |
62,060 |
(70,537 ) |
(114 ) |
| Total |
$ (657,020 ) |
$ 192,061 |
($888,081 ) |
(462 ) |
During the year ended December 31, 2005, the Company recorded a loss on disposal of marketable securities that were sold to fund operations of $588,573. This loss compares to the loss of $109,534 recorded in fiscal 2004. In fiscal 2005 the Company issued shares to pay for accounts payable, debt and services resulting in a loss on settlement of $27,902. In fiscal 2004 there were no accounts payable balances settled for shares. The Company did settle a number of notes payable in early 2004 with shareholders resulting in a loss on debt settlement of $83,250. The Company recorded a gain on the divestment of the Battery Division of $391,874 in fiscal 2004 and a further earnout of $35,500 for a total of $427,374. In 2005 the Company recognized the remaining earnout of $82,500 from this transaction. The Company recorded a loss on foreign exchange in the current year of $8,477 compared to a gain of $62,060 in 2004 as accounts receivable and cash balances denominated in US dollars were impacted by the strengthening of the Canadian dollar in fiscal 2005. Interest expense increased by $9,537 to $121,032 in fiscal 2005 from $111,495 in the prior year. The Company repaid a number of interest bearing obligations during 2005 with interest on these obligations of approximately $40,000 in 2005 compared to approximately $66,500 in 2004. This reduction was offset by interest and penalties on overdue payroll remittances of $58,596 paid in 2005. The Company received interest revenue of $6,464 in fiscal 2005 from the Government of Canada on its investment tax credits receivable. In 2004 the Company received interest of $6,906 on these investment tax credits.
Financial Condition
Total assets decreased $724,265 from $1,444,124 as at December 31, 2004 to $719,859 as at December 31, 2005. The decrease is due primarily to the decline in marketable securities of $922,099 from $962,599 at the end of fiscal 2005 to $40,500 at the end of the prior year. Marketable securities with a book value of $954,599 were sold while shares valued at $32,500 were received for consulting services rendered. At December 31, 2004, the Company held 1,145,000 common shares of Wireless Age Communications, Inc., and 3,000,000 shares of Trackpower Inc. valued at $812,950 and $149,649 respectively. All of the Trackpower shares and 1,120,000 of the Wireless Age shares were sold during fiscal 2005. The proceeds from these sales of $967,890 were used to fund operations of the Company.
Investment tax credits receivable declined by $218,681 from $353,340 at the end of 2004 to $134,659 at the end of fiscal 2005. The outstanding balance at the end of 2004 was received in 2005 while the claim for the fiscal year 2005 was lower than the outstanding balance at the end of 2004. Accounts receivable increased by $26,819 from $41,244 at the end of fiscal 2004 to $68,063 at the end of fiscal 2005 due to increased revenue in 2005. The prepaid expenses and other receivables increased by $55,222 to $69,636 at the end of fiscal 2005 compared to $14,414 at end of fiscal 2004. The increase was due to a receivable of $54,575 for the balance of proceeds due from the sale of shares of marketable securities during fiscal 2005. Property plant and equipment declined by $7,976 from $53,127 at the end of fiscal 2004 to $45,151 at the end of fiscal 2005 as amortization expense exceeded the property, plant and equipment added during fiscal 2005. The Company recorded deferred development costs of $92,440 reflecting the cost of warrants provided to parties assisting with raising funds. There were no such costs in 2004.
Total liabilities increased $479,457 from $1,645,247 at December 31, 2004 to $2,124,704 as at December 31, 2005. At December 31, 2005 accounts payable and accrued liabilities increased by $62,312 to $1,139,491 at the end of fiscal 2005 from $1,077,179 at the end of the previous year. The factors impacting this change include:
· a reduction in trade accounts payable of $225,908 compared to the prior year,
· the accrual of a common stock bonus to the CEO of $270,000 in 2005,
· the allocation of a note payable of $57,500 to accrued liabilities in 2005,
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· recording of deferred financing costs of $68,640 related to fees paid in connection with subscriptions for securities in December, 2005,
· an accrual for directors compensation of $72,000 in fiscal 2005,
· an increase in wage and vacation pay accruals of $38,005 at the end of fiscal 2005 compared to the prior period,
· a decrease in the professional fee accrual of $127,245 at the end of fiscal 2005 compared to fiscal 2004,
· a decrease in respect of accruals at December 31, 2004 for a fee to a director of the predecessor company of $18,300 that was repaid in 2005 and for accrued interest on debentures of $25,722 that was converted to common stock in 2005.
· a decrease in statutory liabilities for employee tax deductions and sales tax of $22,598 from the prior year, and
· a reduction of $24,060 in other miscellaneous accruals at the end of fiscal 2005 compared to the prior year.
There is a balance of $51,963 in unearned revenue at the end of fiscal 2005 for funds received on professional services projects not completed at year end. There were no such uncompleted projects at December 31, 2004. Short term borrowings decreased by $295,749 from $340,920 at the end of fiscal 2004 to $45,171 at the end of fiscal 2005. The Company repaid some high interest rate financing as funds became available. The notes payable of $109,725 outstanding at the end of December 31, 2004 was reduced to nil. A note of $52,225 was applied against a receivable due from the sale of marketable securities to the party holding the note. Another note payable of $57,500 was reclassified to accounts payable and accrued liabilities pending confirmation of a negotiated settlement. The obligation under capital leases decreased by $20,844 to $30,079 at the end of fiscal 2005 from $50,923 at the end of fiscal 2004 as repayments exceeded the cost of new leases. Convertible debentures in the principal amount of $66,500 as at December 31, 2004 were converted to common stock in 2005. Lastly, the Company raised $858,000 during December, 2005 in connection with subscriptions received for its securities.
Stockholders deficiency increased from $201,123 at December 31, 2004 to $1,404,845 at December 31, 2005. The increase is the result of:
1. The net loss of $2,725,200 recorded in fiscal 2005; and
2. Cumulative foreign exchange translation loss of $30,059;
offset by:
1. A reversal of the unrealized loss on available for sale marketable securities of $519,364;
2. Issuance of shares totaling $969,373; and
3. Stock based compensation amounts of $62,800.
The consolidated financial statements of the Company are prepared in conformity with United States generally accepted accounting principles, which require 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 period. Some of the significant estimates required to be made by management include the realizable value of intangible assets and the fair value of common stock and common stock equivalents issued for services or in settlement of obligations. Actual results could differ from those estimates.
Liquidity and Capital Resources
The Company reported a negative working capital of $669,152 at December 31, 2005 compared with a negative working capital of $229,601 at December 31, 2004 representing a decrease of $439,551. The decline in current liabilities was offset by the decrease in marketable securities and investment tax credits receivable as described above. As of December 31, 2005, the Company had cash and cash equivalents of $269,410 compared with cash and cash equivalents of $19,400 at the end of the prior year.
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For the year ended December 31, 2005, cash used in operating activities totaled $1,513,922, primarily as a result of operating losses. This amount compares to $984,455 used in operations in fiscal 2004. These losses were funded by an increase in financing activities of $903,867 and cash from investing activities of $860,065. The Company raised funds in a private placement stock issue of $300,000 and a debt subscription of $858,000. These funds raised were partially offset by repayments of short term borrowings of $223,136 and lease payments of $30,997 during the year. In fiscal 2004 the Company generated $778,583 from financing activities from the sale of $625,630 of convertible debentures and from increases in short term borrowings of $203,784 offset by repayments on notes payable of $38,000 and obligation under capital lease of $12,831. In fiscal 2005, the Company generated $860,065 from investing activities through the sale of marketable securities. In fiscal 2004 the Company generated $205,530 from investing activities, comprised of $199,989 from the sale of marketable securities and $5,541 of cash assumed in the reverse acquisition.
During the first fiscal quarter of 2006 the company completed a private placement of senior convertible notes and warrants for gross proceeds received during 2006 of $2,642,000. The material terms of this transaction are described below under Subsequent Events. Based on current cash resources and other current assets, management believes the Company has sufficient liquidity to fund operations for the next twelve months.
Subsequent Events
On January 5, 2006, the Company entered into a Securities Purchase Agreement with accredited investors for the sale of (i) $3,500,000 principal amount of senior convertible notes and (ii) warrants to purchase up to 7,000,000 shares of common stock. The sale of the senior convertible notes and warrants closed on January 9, 2006. Participants in a private placement which closed on December 8, 2005 for gross proceeds of $858,000 exchanged the securities they previously purchased for an investment in the senior convertible notes and warrants based on the dollar amount of their prior investment, bringing the total gross proceeds from the transactions to $3,500,000.
The senior convertible notes bear interest at 1% per annum payable semi-annually, mature two years from the date of issuance and are convertible into shares of common stock at the investors option at $0.50 per share, subject to adjustment. Under prescribed conditions relating mainly to share price and average daily trading volumes, the Company have the right to require the holders to convert the principal amount then remaining under the senior convertible notes. Should the Company fail to deploy its wireless software platform on or prior to December 31, 2006 to a specified number of gaming related sites with a specified aggregate number of end users then the conversion price could be adjusted to 75% of the conversion price then in effect. Further, the conversion price of the senior convertible notes could be adjusted if the company should
(i) issue shares of common stock below the then applicable conversion price, or
(ii) pay a stock dividend, subdivides or combine outstanding shares of common stock into a greater or lesser number of shares, or take such other actions as would otherwise result in dilution of the holders position. Interest may be paid with shares of common stock at the option of the Company based on 90% of the dollar volume weighted average price of the common stock on each of the 30 consecutive trading days immediately preceding the applicable interest payment due date.
For Investor Relations, please contact:
The Investor Relations Group - Jordan Silverstein
11 Stone St., 3rd fl, New York, NY 10004
(212) 825-3210
(212) 825-3229 (FAX)
jsilverstein@investorrelationsgroup.com
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