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DIGERATI TECHNOLOGIES, INC. - 10-K - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
(Edgar Glimpses Via Acquire Media NewsEdge) SPECIAL NOTE: This Annual Report on Form 10-K contains "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933, as
amended and Section 21E of the Securities and Exchange Act of 1934, as amended.
"Forward looking statements" are those statements that describe management's
beliefs and expectations about the future. We have identified forward-looking
statements by using words such as "anticipate," "believe," "could," "estimate,"
"may," "expect," and "intend," or words of similar import. Although we believe
these expectations are reasonable, our operations involve a number of risks and
uncertainties, including those listed in Item 1A of this Annual Report on Form
10-K and actual results may be materially different than our expectations.
The following is a discussion of the consolidated financial condition and
results of operations of Digerati Technologies, Inc., for the fiscal years ended
July 31, 2012 and 2011. It should be read in conjunction with our Consolidated
Financial Statements, the Notes thereto, and the other financial information
included elsewhere in this annual report on Form 10-K. For purposes of the
following discussion, fiscal 2012 or 2012 refers to the year ended July 31, 2012
and fiscal 2011 or 2011 refers to the year ended July 31, 2011.
Sources of revenue and direct cost
Sources of revenue:
Global VoIP Services: We currently provide VoIP communication services to U.S.
and foreign telecommunications companies that lack transmission facilities,
require additional capacity or do not have the regulatory licenses to terminate
traffic in Mexico, Asia, the Middle East and Latin America. Typically, these
telecommunications companies offer their services to the public for domestic and
international long distance services
Cloud-based hosted Services: We provide enhanced VoIP services to resellers and
enterprise customers. The service include fully hosted IP/PBX services, IP
trunking, call center applications, prepaid services, interactive voice response
auto attendant, call recording, simultaneous calling, voicemail to email
conversion, and multiple customized IP/PBX features in a hosted environment for
specialized applications.
Direct Costs:
Global VoIP Services: We incur transmission and termination charges from our
suppliers and the providers of the infrastructure and network. The cost is based
on rate per minute, volume of minutes transported and terminated through the
network. Additionally, we incur fixed Internet bandwidth charges and per minute
billing charges. In some cases we incur installation charges from certain
carriers. These installation costs are passed on to our customers for the
connection to our VoIP network.
Cloud-based hosted Services: We incur bandwidth and co-location charges in
connection with enhanced VoIP Services. The bandwidth charges are incurred as
part of the connection between our customers to allow them access to our
services.
Results of Operations
The following table sets forth certain items included in our results of
operations in thousands of dollars amounts and variances between periods for the
years ended July 31, 2012 and 2011.
Year Ended July 31, 2012 Compared to Year ended July 31, 2011
Years ended July 31,
2012 2011 Variances %
OPERATING REVENUES:
Global VoIP services $ 3,746 $ 14,970 $ (11,224 ) -75 %
Cloud-based hosted services 389 257 132 51 %
Total operating revenues 4,135 15,227 (11,092 ) -73 %
Cost of services (exclusive
of depreciation and
amortization, shown below) 3,811 14,061 (10,250 ) -73 %
GROSS MARGIN 324 1,166 (842 ) -72 %
Selling, general and
administrative expense
(exclusive of legal and
professional fees) 1,481 2,146 (665 ) -31 %
Legal and professional fees 197 304 (107 ) -35 %
Bad debt - 40 (40 ) 100 %
Depreciation and amortization
expense 119 100 19 19 %
OPERATING LOSS (1,473 ) (1,424 ) (49 ) 3 %
OTHER INCOME (EXPENSE):
Gain on sale of an asset 90 - 90 100 %
Gain / loss derivative
instruments 626 - 626 100 %
Loss on debt extinguishment (75 ) (100 ) 25 -25 %
Gain on forgiveness of
accrued interest - 92 (92 ) -100 %
Interest expense (412 ) (205 ) (207 ) 101 %
Total other income (expense) 229 (213 ) 442 -208 %
NET LOSS $ (1,244 ) $ (1,637 ) $ 393 -24 %
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Global VoIP Services. Global VoIP services revenue decreased by $11,224,000, or
75%, from the year ended July 31, 2011 to the year ended July 31, 2012. Global
VoIP minutes carried by our network decreased by 79% from approximately
414,767,375 minutes of voice traffic during the year ended July 31, 2011 to
approximately 86,240,439 minutes of voice traffic during the year ended July 31,
2012. Our average revenue per minute increased from $0.0361 during the year
ended July 31, 2011 to $0.0434 for the year ended July 31, 2012. The increase in
average revenue per minute is attributable to the emphasis in targeting higher
revenue rate per minute countries with higher quality of services. The decrease
in revenue is attributable primarily to the price pressure in our industry due
to a reduction of international termination and the overall reduction in the
number of carriers connected to our network.
Cloud-based hosted Services. Cloud-based hosted services revenue increased by
$132,000, or 51%, from the year ended July 31, 2011 to the year ended July 31,
2012. The increase in revenue between periods is primarily attributed to the
increase in customers that are generating significant monthly recurring hosted
services revenue. Hosted services include fully hosted IP/PBX services, IP
trunking, call center applications, prepaid services, interactive voice response
auto attendant, call recording, simultaneous calling, voicemail to email
conversion, SIP trunking and multiple other IP/PBX features in a hosted
environment.
Cost of Services (exclusive of depreciation and amortization). The consolidated
cost of services decreased by $10,250,000, or 73%, from the year ended July 31,
2011 to the year ended July 31, 2012. The decrease in cost of services is a
direct correlation to the decrease in Global VoIP services revenue. Cost of
services, as a percentage of revenue decreased by .18% between periods, from
92.34% of revenue during the year ended July 31, 2011 to 92.16% of revenue
during the year ended July 31, 2012. The decrease in cost of services as a
percentage of revenue was due to the decrease in costs from our vendors realized
during the period ended July 31, 2012.
Selling, General and Administrative (SG&A) Expenses (exclusive of legal and
professional fees). SG&A expenses decreased by $665,000, or 31%, from the year
ended July 31, 2011 to the year ended July 31, 2012. The decrease in SG&A "cash
basis" between periods is approximately $568,000, but the decrease in SG&A is
overshadowed by the recognition of $767,000 non-cash in non-cash expense related
to a consulting agreement with various individuals for investor relations
services during the year ended July 31, 2011. During the year ended July 31,
2012 the company only recognized $670,000 related to the stock grant
contribution to the company sponsored 401K profit sharing plan and warrants
issued to consultants. The decrease in SG&A "cash basis" between periods of
$568,000 is attributable to the cost reduction measures undertaken during fiscal
2012 in order to realign our current operations.
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Legal and professional fees. Legal and professional fees decreased by $107,000,
or 35%, from the year ended July 31, 2011 to the year ended July 31, 2012.
During the year ended July 31, 2011 we incurred legal fees associated with our
rebranding strategy and various SEC filings. We did not incur these expenses
during the year ended July 31, 2012, thus the decrease between periods.
Bad debt. Bad debt decreased by $40,000, or 100%, from the year ended July 31,
2011 to the year ended July 31, 2012. The decrease is attributable to the
recognition of bad debt expense for certain accounts receivable we deemed we
were unlikely to collect in 2011. We did not recognize any bad debt expense
during the year ended July 31, 2012.
Depreciation and amortization. Depreciation and amortization increased by
$19,000 or 19%, from the year ended July 31, 2011 to the year ended July 31,
2012. The increase is as a result of the new assets acquired during the year
ended July 31, 2012 that required recognition of additional depreciation.
Operating loss. The Company reported an operating loss of $1,473,000 for the
year ended July 31, 2012 compared to an operating loss of $1,424,000 for the
year ended July 31, 2011. The increase in operating loss is primarily attributed
to decline in gross margin, from $1,166,000 during the year ended July 31, 2011
to $324,000 during the year ended July 31, 2012. The decline in gross margin was
somewhat offset by the decline in non-cash compensation expense between periods,
from $767,000 in non-cash compensation expense during the year ending July 31,
2011 to $670,000 in non-cash compensation and warrant expense during the period
ending July 31, 2012. Also the decline in our gross margin was offset by the
decline in our legal and professional fees between periods by $107,000 and the
decline in our bad debt by $40,000 between periods.
Other income (expense). Other income (expenses) improved by $442,000, or 208%
from the year ended July 31, 2011 to the year ended July 31, 2012. The primary
reason for the improvement in other income (expenses) is attributed to the
recognition of $90,000 in gain on sale of an asset; during the year ended July
31, 2012 we recognized a gain on the sale of our minority interest in our
Mexican concession. At the time of the transaction, we had a value of $0 in our
books for this asset; as a result the total purchase price was recognized as a
gain. Additionally, we recognized $626,000 in a gain on derivative instruments,
we are required to re-measure all derivative instruments at the end of each
reporting period and adjust those instruments to market. These benefits were
slightly offset by the recognition of $75,000 in loss on extinguishment of debt
related to the pay-off of various notes in common stock. Additionally, during
the period ending July 31, 2012 we recognized $176,000 in accretion expense
related to the adjustment to the present value of various convertible notes.
Also, our interest expense increased between periods by $31,000 related to the
increase in interest expense for various notes secured during the year ended
July 31 2012.
Net Loss. Net loss improved by $393,000 from the year ended July 31, 2011 to the
year ended July 31, 2012. The improvement in net loss is primarily attributed to
the improvement in other income (expense) between periods by $442,000. And the
decline in non-cash compensation expense between periods, from $767,000 in
non-cash compensation expense during the year ended July 31, 2011 to $670,000 in
non-cash compensation and warrant expense during the year ended July 31, 2012.
Additionally, our legal and professional fees decreased between periods by
$107,000.
Liquidity and Capital Resources
Cash Position: We had a cash balance of $2,000 as of July 31, 2012. Net cash
used by operating activities during the year ended July 31, 2012 was
approximately $180,000. Investing activities during the year ended July 31, 2012
generated $52,000, consisting of the acquisition of various servers and
computers for $33,000 and the proceeds from the sale of a concession for
$85,000. Financing activities during the year ended July 31, 2012 provided
$70,000 in cash. We received proceeds of $163,000 from various promissory notes
and $50,000 from various convertible debentures during the year ended July 31,
2012. The cash consumed during the period is associated with the debt principal
payments of $143,000 related to various notes payable. Overall, our net
operating, investing and financing activities during the year ended July 31,
2012 consumed $58,000 of our available cash.
We are currently utilizing our available cash to fund any deficiencies in our
cash flows from operations. On August 2, 2010, we entered into a $750,000
revolving credit facility with Thermo Credit to finance our expected growth
during the year ending July 31, 2013.
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Our current cash expenses are expected to be approximately $57,000 per month,
including wages, rent, utilities and corporate professional fees. As described
elsewhere herein, we do not have sufficient funds to pay our ongoing operating
expenses, or to pay our current liabilities which are approximately $2,479,000.
We also need approximately $500,000 of additional working capital to fund our
ongoing operations. Additionally, we have accumulated a deficit of approximately
$77,201,000 and a working capital deficit of approximately $2,448,000, which
raises substantial doubt about the Company's ability to continue as a going
concern.
During the year ended July 31, 2012, we entered into four nine-month convertible
promissory notes with Asher Enterprise, Inc. for $163,000; additionally during
the year ended July 31, 2012 we received $50,000 under various convertible
debentures. The funds secured were utilized to cover our cash short falls from
operations. We will continue to work with various funding sources to secure
additional debt and equity financings. However, we cannot offer any assurance
that it will be successful in executing the aforementioned plans to continue as
a going concern.
Critical Accounting Policies
Revenue Recognition. We derive our revenue from Global VoIP Services. Revenue is
recognized when persuasive evidence of an arrangement exists, service or network
capacity has been provided, the price is fixed or determinable, collectibles is
reasonably assured and there are no significant obligations remaining.
We record and report our revenue on the gross amount billed to our customers in
accordance with the following "gross indicators":
· Digerati is the primary obligor in its arrangements,
· Digerati has latitude in establishing pricing,
· Digerati changes the product or performs part of the service and is involved in
the determination of the product or service specifications,
· Digerati has discretion in supplier selection; and
· Digerati assumes credit risk for the amount billed to the customer
We recognize revenue from Global VoIP Services in the period the service is
provided, net of revenue reserves for potential billing credits. Such disputes
can result from disagreements with customers regarding the duration, destination
or rates charged for each call. Digerati recognizes Cloud-based Enhanced
Services revenue during the period the services are provided.
Stock-based Compensation.We account for share-based compensation in accordance
with provisions on share-based payments which require measurement of
compensation cost for all stock-based awards at fair value on date of grant and
recognition of compensation over the service period for awards expected to vest.
The fair value of stock options is determined using the Black-Scholes valuation
model. We use the following key assumptions in determining the fair market value
of its options:
For the Years Ended July 31,
2012 2011
Expected dividend yield 0.00 % 0.00 %
Expected stock price volatility 415.75 % 218.67% - 223.86%
Risk-free interest rate 1.42 % 2.04% - 3.12%
Expected term 3.5 - 4.25 years 3.5 - 4.75 years
Derivative financial instruments. We do not use derivative instruments to hedge
exposures to cash flow, market, or foreign currency risks. However, we evaluate
the application of derivative accounting for all convertible financial
instruments and freestanding warrants.
For derivative financial instruments that meet the definition of liabilities,
the derivative instrument is initially recorded at its fair value and is then
re-valued at each reporting date, with changes in the fair value reported as
charges or credits to income. For option-based derivative financial instruments,
we use the Black-Scholes option-pricing model to value the derivative
instruments. The classification of derivative instruments, including whether
such instruments should be recorded as liabilities or as equity, is re-assessed
at the end of each reporting period. Derivative instrument liabilities are
classified in the balance sheet as current or non-current based on whether or
not net-cash settlement of the derivative instrument could be required within 12
months of the balance sheet date.
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