Annual report pursuant to section 13 and 15(d)

3. Summary of Significant Accounting Policies (Policies)

v2.4.0.6
3. Summary of Significant Accounting Policies (Policies)
12 Months Ended
Dec. 31, 2012
Notes to Financial Statements  
Basis of Presentation and Consolidation

Basis of Presentation and Consolidation

The consolidated financial statements include the accounts of the Company and its wholly owned and majority-owned subsidiaries (see note 4). The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S GAAP”) and in accordance with Regulation S-X of the Securities and Exchange Commission (the “SEC”). All material inter-company accounts and transactions have been eliminated in consolidation, and certain prior year balances have been reclassified to conform to the current presentation.

Revenue Recognition

Revenue Recognition

The Company recognizes revenue when persuasive evidence of a sale arrangement exists, delivery has occurred or services have been rendered, the sales price is fixed and determinable, and collectability is reasonably assured. The Company records provisions against revenue for billing adjustments, which are based upon estimates derived from factors that include, but are not limited to, historical results, analysis of credits issued and current economic trends. The provisions for revenue adjustments are recorded as a reduction of revenue when incurred.

 

The Company’s revenue is primarily derived from usage fees charged to other telecommunications carriers that terminate voice traffic over the Company’s network, and from the monthly recurring fees charged to customers that purchase the Company’s business products and services.

 

Variable revenue is earned based on the length of a call, as measured by the number of minutes of duration. It is recognized upon completion of the call, and is adjusted to reflect the Company’s allowance for billing adjustments. Revenue for each customer is calculated from information received through the Company’s network switches. The Company’s customized software tracks the information from the switches and analyzes the call detail records against stored detailed information about revenue rates. This software provides the Company with the ability to complete a timely and accurate analysis of revenue earned in a period. The Company believes that the nature of this process is such that recorded revenues are unlikely to be revised in future periods.

 

Fixed revenue is earned from monthly recurring services provided to the customer, for which the charges are contracted for over a specified period of time. Revenue recognition commences after the provisioning, testing and acceptance of the service by the customer. The recurring customer charges continue until the expiration of the contract, or until cancellation of the service by the customer. To the extent that payments received from a customer are related to a future period, the payment is recorded as deferred revenue until the service is provided or the usage occurs.

Cost of Revenues

Cost of Revenues

Cost of revenues is comprised primarily of costs incurred from other domestic and international communications carriers to originate, transport, and terminate voice calls for the Company’s carrier and business customers. The majority of the Company’s cost of revenues is thus variable, based upon the number of minutes actually used by the Company’s customers and the destinations they are calling. Call activity is tracked and analyzed with customized software that analyzes the traffic flowing through the Company’s network switch. During each period, the call activity is analyzed and an accrual is recorded for the revenues associated with minutes not yet invoiced. This cost accrual is calculated using minutes from the system and the variable cost of revenue based upon predetermined contractual rates.

 

Fixed expenses reflect the costs associated with connectivity between the Company’s network infrastructure, including its New York switching facility, and certain large carrier customers and vendors. In addition, fixed expenses include the monthly recurring charges associated with certain platform services purchased from other service providers, the monthly recurring costs associated with private line services for business customers and the cost of broadband Internet access used to provide service to both carrier and business customers.

 

Accounts Receivable and Allowance for Doubtful Accounts

Accounts Receivable and Allowance for Doubtful Accounts

Accounts receivable are recorded net of an allowance for doubtful accounts. On a periodic basis, the Company evaluates accounts receivable and records an allowance for doubtful accounts based on the Company’s history of past write-offs, collections experience and current credit conditions. Specific customer accounts are written off as uncollectible when collection efforts have been exhausted and payments are not expected to be received.

 

The Company has an agreement to sell certain of its accounts receivable under an arrangement with a third party (see note 5). These transactions qualify as sales of financial assets under the criteria outlined in Accounting Standards Codification Topic (“ASC”) 860, Transfers and Servicing, in that the rights, title and interest to the receivables are transferred. As a result, the Company accounts for the sales of its accounts receivable by derecognizing them from its consolidated balance sheet as of the date of sale and recording a loss on sale at the time the receivables are sold for the difference between the book value of the receivables sold and their respective purchase price.

Inventory

Inventory

Inventory consists primarily of switches, routers, handsets and ancillary items and is recorded at the lower of cost or market value. The cost of inventory shipped to customers for which the Company retains title is amortized over a period of two years and is reflected in cost of sales.

Fair Value of Financial Instruments

Fair Value of Financial Instruments

The carrying amounts of the Company’s assets and liabilities approximate their fair value presented in the accompanying Consolidated Balance Sheets, due to their short maturities.

Intangible Assets and Goodwill Impairment Testing

Intangible Assets and Goodwill

Intangible assets at December 31, 2012 pertain to a trade name and trademark, a non-compete agreement, proprietary technology, customer contracts and a below-market lease, all of which were acquired in the acquisition transaction described in note 4. In determining fair value, the Company uses standard analytical approaches to business enterprise valuation (“BEV”), such as the market comparable approach and the income approach. The market comparable approach is based on comparisons of the subject company to similar companies engaged in an actual merger or acquisition or to public companies whose stocks are actively traded. The income approach involves estimating the present value of the subject asset’s future cash flows by using projections of the cash flows that the asset is expected to generate, and discounting these cash flows at a given rate of return. Each of these BEV methodologies requires the use of management estimates and assumptions. In 2011, intangible assets consisted primarily of the trade name and trademarks related to Efonica FZ, LLC (“Efonica”), which were fully amortized at December 31, 2012 (see note 6). 

Goodwill is the excess of the acquisition cost of businesses over the fair value of the identifiable net assets acquired. The Company recognized $2.4 million in goodwill in the year ended December 31, 2012 (see note 4).

Impairment of Long-Lived Assets

Impairment of Long-Lived Assets

The Company reviews long-lived assets, including intangible assets, for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. If an impairment indicator is present, the Company evaluates recoverability by a comparison of the carrying amount of the assets to future undiscounted net cash flows expected to be generated by the assets. If the carrying value of the asset exceeds the projected undiscounted cash flows, the Company is required to estimate the fair value of the asset and recognize an impairment charge to the extent that the carrying value of the asset exceeds its estimated fair value. The Company recorded an impairment charges related to its Efonica trademarks of approximately $163,000 in the year ended December 31, 2011.

Impairment testing for goodwill is performed annually in the Company’s fourth fiscal quarter. The Company has the option to perform a qualitative assessment to determine if the fair value of the entity is less than its carrying value. However, the Company may elect to perform an impairment test even if no indications of a potential impairment exist. The impairment test for goodwill uses a two-step approach, which is performed at the reporting unit level. The Company has determined that its reporting units are its operating segments since that is the lowest level at which discrete, reliable financial and cash flow information is available. Step one compares the fair value of the reporting unit (calculated using a market approach and/or a discounted cash flow method) to its carrying value. If the carrying value exceeds the fair value, there is a potential impairment and step two must be performed. Step two compares the carrying value of the reporting unit’s goodwill to its implied fair value, which is the fair value of the reporting unit less the fair value of the unit’s assets and liabilities, including identifiable intangible assets. If the implied fair value of goodwill is less than its carrying amount, an impairment is recognized.

The Company did not perform an impairment test on the goodwill acquired on October 29, 2012 (see note 4), due to the proximity of the transaction to the Company’s fiscal year-end and the allocation of the purchase price to the fair value of assets and liabilities as of the acquisition date.

Property and Equipment

Property and Equipment

Property and equipment are stated at cost and are depreciated using the straight-line method over the estimated useful lives of the assets as follows:

 

Asset Estimated Useful Lives
Network equipment 5 – 7 Years
Furniture and fixtures 3 – 7 Years
Computer equipment and software 3 – 5 Years

 

Leasehold improvements are depreciated over the shorter of the estimated useful lives of the assets or the term of the associated lease. Maintenance and repairs are recorded as a period expense, while betterments and improvements are capitalized.

 

The Company capitalizes a portion of its payroll and related costs for the development of software for internal use and amortizes these costs over three years. During the year ended December 31, 2012, the Company capitalized costs pertaining to the development of internally used software in the approximate amount of $151,000.

Derivative Financial Instruments

The Company accounts for warrants issued in conjunction with the issuance of debt in accordance with the guidance contained in ASC 815. For warrant instruments that are not deemed to be indexed to the Company’s own stock, the Company classifies the warrant instrument as a liability at its fair value and adjusts the instrument to fair value at each reporting period. This liability is subject to re-measurement at each balance sheet date until exercised, and any change in fair value is recognized in the Company’s statement of operations (see notes12 and 22) . The fair value of the warrants has been estimated using a black-scholes valuation model and the Company’s quoted market price.

Advertising and Marketing

Advertising and Marketing

Advertising and marketing expense includes cost for promotional materials and trade show expenses for the marketing of the Company’s business products and services. Advertising and marketing expenses were approximately $23,000 and $15,000 for the years ended December 31, 2012 and 2011, respectively.

Income Taxes

Income Taxes

The Company complies with accounting and reporting requirements with respect to accounting for income taxes, which require an asset and liability approach to financial accounting and reporting for income taxes. Deferred income tax assets and liabilities are computed for differences between the financial statement and tax bases of assets and liabilities that will result in future taxable or deductible amounts, based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established, when necessary, to reduce deferred income tax assets to the amount expected to be realized.

 

In accordance with U.S. GAAP, the Company is required to determine whether a tax position of the Company is more likely than not to be sustained upon examination by the applicable taxing authority, including resolution of any related appeals or litigation processes, based on the technical merits of the position. The tax benefit to be recognized is measured as the largest amount of benefit that is greater than fifty percent likely of being realized upon ultimate settlement. Derecognition of a tax benefit previously recognized could result in the Company recording a tax liability that would reduce net assets. Based on its analysis, the Company has determined that it has not incurred any liability for unrecognized tax benefits as of December 31, 2012 and 2011. The Company is subject to income tax examinations by major taxing authorities for all tax years since 2009 and may be subject to review and adjustment at a later date based on factors including, but not limited to, on-going analyses of and changes to tax laws, regulations and interpretations thereof. No interest expense or penalties have been recognized as of December 31, 2012 and 2011. During the years ended December 31, 2012 and 2011, the Company recognized no adjustments for uncertain tax positions.

Earnings (Loss) per Share

Earnings (Loss) per Share

The Company complies with the accounting and disclosure requirements regarding earnings per share. Basic loss per share excludes dilution and is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding during the period. Diluted loss per share reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the income of the Company. The following securities were excluded in the calculation of diluted loss per share because their inclusion would be antidilutive:

  2012 2011
Warrants           89,974,479      47,615,186
Stock options             8,864,261        6,634,261
Convertible preferred stock           70,064,862        7,021,512
          168,903,602      61,270,959

 

The net loss per common share calculation includes a provision for preferred stock dividends in the amount of $403,600 and $470,175 for the years ended December 31, 2012 and 2011, respectively. However, no cash dividend had been declared by the board of directors for any of the years presented. The dilutive securities in the year ended 2012 include preferred stock convertible into 62,672,008 shares of common stock and warrants to purchase 25,068,862 shares of common stock that contain a provision that prohibits their conversion or exercise until the Company files an amendment to its Certificate of Incorporation to increase the number of shares which it is authorized to issue sufficient to permit the preferred stock and warrants to be converted and exercised, respectively (see note 14). The Company filed the Certificate of Amendment on February 21, 2013 (see note 24).

Discontinued Operations

Discontinued Operations

The Company maintains an accrual for outstanding liabilities associated with its consumer services segment, which the Company eliminated in 2009. The estimate of liabilities associated with the consumer segment was $55,000 and $97,855 at December 31, 2012 and 2011, respectively. The Company recorded income from discontinued operations of approximately $41,000 and $10,000 in the years ended December 31, 2012 and 2011 respectively, which were primarily attributable to reductions in the accrual for liabilities associated with the discontinued business segment.

Stock-Based Compensation

Stock-Based Compensation

The Company accounts for stock-based compensation by recognizing the fair value of compensation cost for all stock and stock-based awards over the service period (generally equal to the vesting period). Compensation cost is determined using the Black-Scholes option pricing model to estimate the fair value of the awards at the grant date. An offsetting increase to stockholders’ equity is recorded equal to the amount of the compensation expense charge.

 

For the years ended December 31, 2012 and 2011 the Company recognized stock-based compensation expense of approximately $200,000 and $97,000, respectively, and are comprised of the following:

 

  2012 2011
Expenses associated with stock options granted to employees and directors  $                  89,929  $        97,000
Common stock issued in connection with an employment agreement                      50,000                    -   
Common stock or warrants issued or issuable for services rendered                      59,825                    -   
   $                199,754  $        97,000

 

Stock-based compensation is included in selling, general, and administrative expenses in the Consolidated Statements of Operations and, with respect to stock option expense, has been reduced for estimated forfeitures. When estimating forfeitures, the Company considered historical forfeiture rates as well as ongoing trends for actual option forfeiture.

 

The Company calculated the fair value of each common stock option grant on the date of grant using the Black-Scholes option pricing model method with the following assumptions:

 

  2012   2011
Dividend yield 0.00%   0.00%
Stock volatility 138%   151%
Average Risk-free interest rate 1.74%   1.83%
Average option term (years) 3-4   3-4

 

Recently Adopted and Issued Accounting Pronouncements

Recently Adopted and Issued Accounting Pronouncements

During the years ended 2012 and 2011, there were no new accounting pronouncements adopted by the Company that had a material impact on the Company’s consolidated financial statements. Management does not believe there are any recently issued, but not yet effective, accounting pronouncements that, if currently adopted, would have a material effect on the Company’s consolidated financial statements.

 

Use of Estimates

Use of Estimates

The preparation of consolidated financial statements in conformity with U.S. GAAP requires 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 consolidated financial statements and the reported amounts of revenues and expenses during the year. Actual results could be affected by those estimates.