Securities and Exchange Commission
Washington, D.C. 20549
Form 10-KSB
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended December 31, 2004
OR
[ ] TRANSITIONAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______________to_________________
Commission File Number 001-1200
EUROWEB INTERNATIONAL CORP.
(Name of small business issuer as specified in its charter)
Delaware 13-3696015
-------- ----------
(State or other jurisdiction of I.R.S. Employer
incorporation or organization) Identification No.)
1138 Budapest, Vaci ut 141. Hungary
-----------------------------------
(Address of principal executive offices)
Issuer's telephone number, including area code:
(+36) 1-88-97-101, Facsimile:(+36)-1-88-97-100
----------------------------------------------
Securities registered under Section 12(g) of the Exchange Act:
Title of Each Class Name of Each Exchange on which Registered
-------------------------------------- -----------------------------------------
Common Stock, par value $.001 per share NASDAQ SMALL CAP
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 12 months (or for such shorter
period that the registrant was required to file such reports), and (2) has been
subject to such filing requirement for the past 90 days. Yes X No ___
Check if there is no disclosure of delinquent filers in response to Item 405 of
Regulation S-B is not contained in this form, and no disclosure will be
contained, to the best of registrant's knowledge, in definitive proxy or
information statements incorporated by reference in Part III of this Form 10-KSB
or any amendment to this Form 10-KSB. [ ]
Issuer had revenues of $36,615,725 for the year ended December 31, 2004. As of
March 25, 2005, 5,342,533 shares of Common Stock were outstanding of which
3,016,490 were held by non-affiliates of the Company. The aggregate market value
of the Common Stock held by non-affiliates of the Company as of March 1, 2005
was $9,743,263 (based upon the closing bid price on such date on the Nasdaq of
$3.23).
Transitional Small Business Disclosure Format (check one):
Yes ___ No X
TABLE OF CONTENTS
Page
PART I ................................................................................................3
Item 1. Description of Business.........................................................................3
EuroWeb Strategy................................................................................3
Entry into ISP Market in Central Europe and History of Acquisitions.............................3
Products and Services...........................................................................6
Customers.......................................................................................7
Network Operations and Technical Support........................................................7
Sales and Marketing.............................................................................8
Government Regulations..........................................................................8
Employees.......................................................................................8
Item 2. Description of Properties.......................................................................8
Item 3. Legal Proceedings...............................................................................9
Item 4. Submission of matters to a vote of security holders.............................................9
PART II ................................................................................................9
Item 5. Market For Registrant's Common Equity And Related Stockholder Matters...........................9
Market Information..............................................................................9
Holders of Common Stock........................................................................10
Dividends......................................................................................10
Item 6. Management's Discussion and Analysis of Financial Condition and Results of Operations..........11
Operations.....................................................................................11
Results of Operations..........................................................................18
Year Ended December 31, 2004 compared to Year Ended December 31, 2003..........................18
Liquidity and Capital Resources................................................................23
Inflation and Foreign Currency.................................................................24
Effect of Recent Accounting Pronouncements.....................................................24
Risk Factors...................................................................................25
Forward-Looking Statements.....................................................................29
Item 7. Financial Statements...........................................................................F-1
Item 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE...........30
Item 8A CONTROLS AND PROCEDURES.............................................................................30
Item 8B OTHER INFORMATION...................................................................................30
i
PART III ....................................................................................................31
Item 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(A) OF THE EXCHANGE ACT.........................................................31
Item 10. EXECUTIVE COMPENSATION.........................................................................34
Item 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.................................38
Item 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.................................................40
PART IV ....................................................................................................41
Item 13. EXHIBITS.......................................................................................41
Item 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES .......................................................42
2
PART I
Item 1. Description of Business
History of Business
EuroWeb International Corp. (the "Company" or "EuroWeb") is a Delaware
corporation which was organized on November 9, 1992. It was a development stage
company through December 31, 1993.
The Company operates in Hungary, Slovakia and Romania, through its
subsidiaries Euroweb Hungary Rt.. ("Euroweb Hungary"), Euroweb Slovakia a.s.
("Euroweb Slovakia") and Euroweb Romania S.A. ("Euroweb Romania"). On December
16, 2004, the Company disposed of Euroweb Czech and no longer has operations in
the Czech Republic. In early 2005, the Company has decided to sell Euroweb
Slovakia and therefore in 2005 Euroweb Slovakia will be considered discontinued
operations for U.S. financial reporting purposes.
The Company provides Internet access and additional value added services
including international/national leased line and voice services primary to
business customers.
KPN Telecom BV owned approximately 43.54% of EuroWeb's outstanding shares
of common stock as of December 31, 2004. In 2004, KPN Telecom B.V. announced
its intention to divest its interest in Pantel Rt., with certain sale agreements
being signed with a view to final consummation in 2005. In addition, on January
28, 2005, KPN entered into a Stock Purchase Agreement whereby it sold to CORCYRA
d.o.o., a Croatian company ("CORCYRA"), 289,855 shares of our common stock for
US $1,000,000 on February 1, 2005 and has also agreed to sell its remaining
2,036,188 shares of our common stock on or prior to April 30, 2006.
EuroWeb Strategy
The Company strives to be a leading supplier in Central Europe to
businesses of complete communications solutions using Internet technologies.
Rather than servicing individual users, the Company focuses its efforts on
business users and seeks to satisfy all their needs with high quality and
reliable service. In addition to Central Europe, the Company seeks opportunities
in the United States, provided that they consist of certain parameters which are
deemed to be potentially lucrative for the Company.
The Company's business has shown continued growth since it entered the
Internet field in January 1997, and the Company has made various acquisitions in
Hungary, the Czech Republic, Slovakia and Romania. The Company's acquisition of
Elender Rt. in Hungary has resulted in a more than 50% increase in consolidated
revenues over the previous year. The Company is focusing on its core business
and therefore sold its Czech operations in December 2004 and the sale of Euroweb
Slovakia in 2005 is probable. However, the Company is constantly reviewing
various business opportunities, which may include either an acquisition or a
merger with another company. No assurances can be given that we will be
successful in identifying or negotiating or closing any of these potential
business opportunities.
Entry into ISP Market in Central Europe and History of Acquisitions/Dispositions
The Company entered the Internet Service Provider ("ISP") market in Central
Europe through various acquisitions of companies in that area over the past five
3
years. All share figures in the discussion below have been restated to reflect
the one for five reverse stock split effective August 21, 2001.
Hungary
On January 2, 1997, the Company acquired all of the outstanding stock of
three Hungarian ISPs for a total purchase price of approximately $1,785,000,
consisting of 28,800 shares of common stock of the Company and $1,425,000 in
cash (collectively, the "1997 Acquisitions"). The 1997 Acquisitions included the
following:
o Eunet (Hungary Ltd.) for a total cash cost of $1,000,000, and an
assumption of $128,000 in liabilities;
o E-Net Hungary Telecommunications and Multimedia for a total cash cost
of $200,000 and $150,000 in stock (12,000 shares); and
o MS Telecom Rt. for a total cash cost of $225,000 and $210,000 in stock
(16,800 shares).
Thereafter in 1997, the three Hungarian companies were combined and merged
into a new Hungarian entity, Euroweb Hungary. On November 22, 1998, the Company
sold 51% of the outstanding shares of Euroweb Hungary to Pantel Rt. for
$2,200,000 in cash and an agreement to increase the share capital of Euroweb
Hungary by $300,000 without changing the ownership ratio (after the capital
increase, the ownership ratio remained 49 - 51 percent). In February 2004, the
Company acquired the 51% of Euroweb Hungary Rt. that it did not already own from
Pantel Rt. and is fully consolidated in the financial statements for all periods
presented (see Note 2 (q) in the accompanying 2004 financial statements). The
consideration paid by the Company for the 51% interest comprised EUR 1,650,000
(USD $2,105,000) in cash, and a guarantee that Euroweb Hungary Rt. will purchase
at least HUF 600 million (approximately $3 million) worth of services from
Pantel Rt. in each of the three years ending December 31, 2006. In each of 2003
and 2004, Euroweb Hungary and subsidiaries purchased in excess of HUF 700
million (approximately $3,500,000) in services from Pantel Rt. In the event that
Euroweb Hungary and its subsidiaries do not satisfy this commitment, Pantel Rt.
may charge a penalty equal to 25% of the commitment amount less any services
purchased.
On June 9, 2004, the Company acquired all of the outstanding shares of
Elender Business Communications Services Ltd ("Elender Rt."), an Internet
service provider located in Hungary that provides internet access to the
corporate and institutional (public) sector and, amongst others, 2,300 schools
in Hungary. Consideration paid of USD $9,350,005 consisted of USD $6,500,000 in
cash and 677,201 of the Company's common shares valued at USD $2,508,353
excluding registration cost, and USD $341,652 in transaction costs (consisting
primarily of professional fees incurred related to attorneys, accountants and
valuation advisors).
Under the terms of this agreement, the Company has placed 248,111
unregistered shares of newly issued (in the name of the Company) common stock
with an escrow agent as security for approximately $1.5 million loans payable to
former shareholders of Elender. The shares will be returned to the Company from
escrow once the outstanding loans have been fully repaid. The Company
anticipates repaying these loans entirely by the end of 2005, however, if there
is a default on the outstanding loan, then the shares will be issued to the
other party and the Company is then obliged to register these shares.
4
Czech Republic
On June 11, 1999, the Company acquired all of the participating interests
of Luko CzechNet, an ISP in the Czech Republic, for a total cost of $1,862,154
consisting of 90,000 shares of the Company's common stock and 50,000 options
valued at $2.00 per share, and the balance paid in cash. This acquisition was
effective as of June 1, 1999.
On August 25, 2000, the Company, through its subsidiary, Luko Czech,
acquired all of the outstanding capital stock of Stand s.r.o., an Internet
service provider in the Czech Republic for $280,735 in cash, which was merged
into Luko Czech under the name of Euroweb Czech Republic. This acquisition was
effective as of September 1, 2000.
On December 16, 2004, the Company sold all of its shares in its
wholly-owned subsidiary, Euroweb Czech for cash of $500,000. However, as a part
of the transaction, the Company effectively forgave $400,000 of loans receivable
from Euroweb Czech.
Slovakia
On July 15, 1999, the Company acquired all of the outstanding shares of
capital stock of EUnet Slovakia, an ISP in the Slovak Republic, for a total cost
of $813,299 consisting of 47,408 shares of the Company's common stock valued at
$400,005 issued August 9, 1999 and the balance paid in cash. This acquisition
was effective as of August 1, 1999. The Company then made another acquisition of
a Slovak ISP on July 15, 1999 with the purchase of 70% of the outstanding shares
of Dodo s.r.o.'s subsidiary, R-Net, for a total cost of $630,234 consisting of
29,091 shares of the Company's common stock valued at $200,000 issued August 13,
1999 and the balance paid in cash. This acquisition was effective as of August
1, 1999.
On September 23, 1999 and November 16, 1999, the Company acquired from
Slavia Capital o.c.p., a.s. 70% and 30%, respectively, of the issued and
outstanding stock of Global Network Services a.s.c., a Slovakian corporation
providing Internet service primarily to businesses located in Bratislava and
other major cities in Slovakia for a total purchase price of $1,633,051,
consisting of 71,114 shares of the Company's common stock valued at $499,929
issued on September 23, 1999, and the balance paid in cash. This acquisition was
effective as of October 1, 1999.
On April 21, 2000, the Company acquired all of the outstanding capital
stock of Isternet SR, s.r.o., an Internet service provider in the Slovak
Republic, for $1,029,299 in cash. Goodwill arising on this purchase was
$945,200. This acquisition was effective May 1, 2000.
On May 22, 2000, the Company acquired the remaining 30% of R-Net (the
initial 70% being acquired in 1999) for $355,810 in cash. Goodwill arising on
this purchase was $357,565.
All Slovakian operations were then merged into one company under the name
of Euroweb Slovakia. In early 2005, the Company decided to sell Euroweb Slovakia
and therefore Euroweb Slovakia will be considered discontinued operations for US
financial reporting purposes in 2005.
5
Romania
On May 19, 2000, the Company purchased all of the Internet related assets
of Sumitkom Rokura, S.R.L. an Internet service provider in Romania, for
$1,561,125 in cash. The acquisition has been accounted for as an asset purchase
with a value of $1,150,000 being assigned to customer lists acquired.
On June 14, 2000, the Company acquired all of the outstanding shares of
capital stock of Mediator S.A., an Internet service provider in Romania for
$2,040,000 in cash and the assumption of a $540,000 liability to the former
owner payable in annual installments of $180,000 commencing on June 1, 2001.
Goodwill arising on this purchase was $2,455,223. Immediately after the purchase
the name was changed to Euroweb Romania, S.A. This acquisition was effective as
of July 1, 2000.
Stock issued to KPN Telecom B.V.
On February 11, 2000, a special meeting of the shareholders approved the
issuance and sale by the Company to KPN Telecom B.V. ("KPN"), a Netherlands
Limited Liability Company, of 2,057,348 shares at $7.9 per share and rights to
shares equal to all other outstanding warrants, options and other securities at
$6.9 per share. At closing KPN exercised its option to purchase 303,362 shares
at $6.9 per share in addition to the 2,057,348 shares at $7.9 per share. These
approvals gave KPN control of 51% of the Company's common stock, representing
voting control of the Company. This transaction provided the Company with more
than $18,000,000 in capital to fund future acquisitions.
Products and Services
The activity of the Company can be divided into the following categories:
o Traditional ISP services: (a) Internet access, (b) Content, Web,
Advisory and other services, including IT services
o International/national leased line, IP data services (IP connections
between different countries);
o Voice or Voice over IP services; and
o Facilities (sale, rent and maintenance of dark fiber between the
Hungarian border and the Romanian City of Timisoara)
o Any feature of service that might be considers a combination of the
above.
Traditional ISP services
Internet access
Access to the Internet can be either through a leased line / DSL, microwave
technology, which enables a constant connection to the Internet at all times, or
through dial-up service, which requires subscribers to dial a telephone number
to connect to the Internet. EuroWeb offers a variety of access options and
packages.
6
Content and Web services
In addition to internet access services, EuroWeb provides services such as the
design, development, hosting and maintenance of home pages and web servers,
domain registration, consulting, and other services.
International/domestic leased line, IP data services
In order to meet requests of International customers, EuroWeb offers
international/national data connection for companies across borders, or within
the countries to connect premises in different countries. This service includes
single (one to one point) and also Virtual Private Network (many to many point)
IP connections. In most cases, PanTel Rt. acts as a partner in the development
of international network possibilities.
Voice or voice over IP services
The Company offers several voice products to private individuals and
businesses. They can be categorized as follows:
(a) Wholesale voice termination: Capitalizing on its existing
international presence and cross border connections, EuroWeb offers
voice services to major carriers based on Internet Protocol (IP), SS7
or other technology. Carriers sends Voice minutes to/from the region
in which EuroWeb operates. Euroweb's most significant VOIP partner is
Pantel Rt.
(b) Retail voice origination: businesses may use phone services through
leased line on competitive international and long distance rates
through Euroweb network.
(c) Neophone prepaid phonecard: Individuals can benefit on lower cost of
international and long distance calls by purchasing this product,
which can be used on any phone in the incumbent telecom operator
network
(d) New Neophone products such as: (i) VoIP service accessed through the
Internet aimed mainly at the residential segment (ii) CPS (Carrier
Pre-Selection) service (iii) Other similar features using VOIP
Customers
Our customers are mainly local businesses and professionals including
telecommunication carriers and multinational corporations. Our customer base
uses more than 1,500 leased lines and over 30,000 dial up connections in
Hungary, Slovakia, and in Romania as of December 31, 2004.
Network Operations and Technical Support
As of December 31, 2004, EuroWeb had a network operations group consisting
of approximately 110 people, including technical and customer support employees.
EuroWeb's network operations personnel located at EuroWeb's network operations
center in Hungary, Slovakia and Romania are responsible for continuously
monitoring traffic across EuroWeb's network infrastructure and also to carry out
implementation of new customer connections both for Internet and other IP data
connections. Both technical support and customer support personnel are currently
available from 8 a.m. to 8 p.m., Monday through Friday. At other times, these
personnel respond to technical support requests via telephone 24 hours a day. By
7
the end of December 2004, EuroWeb owned or contracted 97 Point of Presences
(POPs) covering the territory of the Hungary, Slovakia and Romania.
Sales and Marketing
EuroWeb employs approximately 73 persons in sales and marketing. To date,
EuroWeb has sold its Internet access and applications products and services
primarily through direct personal and telephone contact. The sales force works
closely with the customer and technical support group, which is responsible for
installation at multiple sites and for support and technical consulting
services.
Government Regulations
EuroWeb is not currently subject to direct government regulation other than
laws and regulations applicable to businesses generally. There are specific
industry laws that may apply to the local subsidiaries in the field of Internet
and Telecommunications. However, with the increasing popularity and use of the
Internet, it is likely that new laws and regulations involving the Internet will
be adopted at the local, state, national or international levels, covering
issues such as domain registration, user privacy, freedom of expression, pricing
of products and services, taxation, information security or the convergence of
traditional communications services with Internet communications.
Employees
The Company employs a total of 234 persons in Hungary, Slovakia and Romania
all of whom are full-time employees. None of the Company's employees is
represented by a labor organization.
Item 2. Description of Properties
The following table lists the office spaces that the Company and its
subsidiaries lease from unaffiliated persons:
c Rent
Amount/
Lessor Address of Property Primary Use Sq. feet Month Lease Terms
--------------------- -------------------------- ------------------------ --------- ---------- -----------------
Euroweb Hungary Vaci ut 141. stockholder relations, 18,000 EUR December
H-1138 general executive, 27,000 31, 2008
Budapest, Hungary general operation non-cancelable
Euroweb Slovakia * Priemyselna 1/A general operations 14,274 $12,500 August 31,
SK - 821 09 2007
Bratislava, Slovakia
non-cancelable
Euroweb Romania Lipscani 102 Street, 3rd general operations 4,951 $9,300 April 15,
Floor, NOUVEAU CENTER, 2006
Sector 3 Bucharest,
Romania 4 months
notice
8
* Management expects that this lease agreement will be included in any sale
of Euroweb Slovakia
The Company's Chief Executive, Csaba Toro, uses offices provided by Euroweb
Rt. No rent was charged in 2004.
Item 3. Legal Proceedings
Euroweb Slovakia has been the National registrar of Top Level Domains
(suffix attached to Internet domain names e.g. .sk, .net, etc.) since the middle
of 2003. The Company has been subject to legal proceedings and submissions to
different authorities in connection with its exclusive right to manage the
system. The Company has succeeded in its defense on all occasions to date, but
there is no assurance that it will be able to keep these rights and/or that
penalties will not be charged in the future.
From time to time, we are a party to litigation or other legal proceedings
that we consider to be a part of the ordinary course of our business. We are not
involved currently in legal proceedings that could reasonably be expected to
have a material adverse effect on our business, prospects, financial condition
or results of operations. We may become involved in material legal proceedings
in the future.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the Company's security holders
through the solicitation of proxies or otherwise, during the last quarter of the
fiscal year ended December 31, 2004.
PART II
ITEM 5. Market For Registrant's Common Equity And Related Stockholder Matters
Market Information
The Company's Common Stock is traded on the Nasdaq SmallCap Market
("Nasdaq") under the symbol "EWEB". On August 30, 2001, the shareholders
approved a one-for-five reverse stock split of the Company's Common Stock.
The following table sets forth the high and low bid prices for the Common
Stock during the periods indicated as reported by Nasdaq. The prices reported
reflect inter-dealer quotations, and may not represent actual transactions and
do not include retail mark-ups, mark-downs or commissions.
9
High$ Low$
Quarter Ending:
2003
March 31, 2003 3.73 1.53
June 30, 2003 3.25 1.92
September 30, 2003 8.30 2.45
December 31, 2003 4.82 3.10
2004
March 31, 2004 7.45 3.70
June 30, 2004 6.20 3.25
September 30, 2004 3.74 2.13
December 31, 2004 5.56 2.40
On March 29, 2005 the closing bid price on the Nasdaq for the Common Stock was
$3.28.
Holders of Common Stock
As of March 25, 2005, the Company had 5,342,533 shares of Common Stock
outstanding and 177 shareholders of record. The Company was advised by its
transfer agent, the American Stock Transfer & Trust Company, that according to a
search made, the Company has approximately 6,153 beneficial owners who hold
their shares in street names.
Dividends
It has been the policy of the Company to retain earnings, if any, to
finance the development and growth of its business.
Equity Compensation Plans
------------------------------- ---------------------------- ---------------------------- ----------------------------
Plan Category Number of shares to be Weighted-average exercise Number of shares remaining
issued upon exercise of price of outstanding available for future
outstanding options and options and warrants issuance under equity
warrants compensation plans
------------------------------- ---------------------------- ---------------------------- ----------------------------
Approved by security holders 391,000 $5.16 435,000
------------------------------- ---------------------------- ---------------------------- ----------------------------
Not approved by security 263,000 $ 5.6 -
holders
------------------------------- ---------------------------- ---------------------------- ----------------------------
Total 654,000 $5.33 435,000
------------------------------- ---------------------------- ---------------------------- ----------------------------
The equity compensation plans are discussed in Note 14 of the 2004
Consolidated Financial Statements.
10
Sale of Securities that were not Registered Under the Securities Act of 1933
The Company did not sell any securities that were not registered under the
Securities Act of 1933 during the year ended December 31, 2004 that have not
been previously included in a Quarterly Report on Form 10-QSB of Current Report
on Form 8-K.
Item 6 Management's Discussion and Analysis of Financial Condition and Results
of Operations
Overview
We own and operate Internet Service Providers in Hungary, Romania and Slovakia
through our subsidiaries, Euroweb Hungary, Euroweb Slovakia and Euroweb Romania.
On December 16, 2004, we sold Euroweb Czech and no longer have operations in the
Czech Republic. In early 2005, we decided to sell Euroweb Slovakia and therefore
in 2005 Euroweb Slovakia will be considered discontinued operations for U.S.
reporting purposes.
We operate in one industry segment, providing Internet access and additional
value added services to business customers.
Our revenues come from the following four sources:
o Internet Service Provider (Internet access, content and web services, other
services);
o International/domestic leased line and Internet Protocol data services;
o Voice or Voice over Internet Protocol services; and
o Facilities (sale, rental and maintenance of dark fiber between the
Hungarian border and the Romanian City of Timisoara).
For the services in the second and third points in Romania, our main customer in
2004 and 2003 was Pantel Rt, a related party (the Company is no longer a related
party with Pantel from March 1, 2005 - See Note 17 (a) of Notes to Consolidated
Financial Statements).
As an Internet Service Provider, we generally did not build out optical fibers
in the past, instead entering into a number of agreements with infrastructure
owners and telecom companies to buy internet and telecom services and resell
them to our customers. We also provide value added services and more
comprehensive solutions to our customers (additional services through domain,
web, hosting, application development, technical support, VPN, advising, voice
services etc.). Such a structure enables our company to avoid significant
capital expenditures on network development. However, without our own
infrastructure, our ability to compete with other Internet Service Providers and
telecom companies is limited due to existing access costs. In order to mitigate
the impact of newly introduced cheaper technology and competition, we took
several steps, including the following:
11
o Built strategic partnership with telecom companies;
o Increased the value added services and offered more comprehensive solutions;
o Introduced voice and international/domestic leased lines services;
o Started to build its own optical fiber network in Romania; and
o Made acquisitions to ensure economies of scale and utilize synergies.
This strategy has resulted in increased revenues and a reduction of losses since
2002 and has also increased our cash generating ability.
Related party transactions - Pantel Telecommunications Rt. (or "Pantel Rt.")
General: Our largest customer and supplier since early 2001 has been Pantel Rt.,
a Hungary-based alternative telecommunications provider. Pantel operates within
the region and has become a significant trading partner for Euroweb Romania
through the provision of a direct fibre cable connection which enables companies
to transmit data to a variety of destinations by utilizing the international
connections of Pantel Rt. As a result, Euroweb Romania became the preferred, but
not exclusive partner of Pantel Rt. for services in Romania. In addition to
this, Euroweb Hungary utilizes significant telecom services from Pantel Rt. Due
to the fact that a significant portion of our revenue is generated by
international/domestic leased line and Voice over Internet Protocol services, a
small number of our representatives have moved to the premises of Pantel Rt. in
order to improve co-operation on international and national projects.
After the acquisition and consolidation of Euroweb Hungary and Elender Rt. in
2004, the balance and volume of transactions with Pantel Rt. has changed
significantly. First, the net receivable position in the past (related party
receivables less related party liabilities) has changed to a net liability
position through the large trade and loan liability position of Euroweb Hungary
to Pantel Rt. Second, sales dependency on Pantel Rt. (i.e. percent of
consolidated sales derived from Pantel Rt.) will decrease as Euroweb Hungary and
Elender Rt. have insignificant sales to Pantel Rt. Third, dependency on Pantel
Rt. as the main supplier of the Company increased as Pantel Rt. is also the main
supplier of Euroweb Hungary.
Transactions: Both Euroweb Hungary and Euroweb Romania engage in the following
transactions with Pantel Rt.:
(a) Pantel Rt. receives revenue from the provision of the following services to
the Company and its subsidiaries:
- Internet and related services;
- National and international leased and telephone lines;
- VOIP services;
- Consulting services; and
- Interest on a loan to the Company.
The total amount of telecom related services were USD $6,198,505 (2003:
$5,796,350 - restated) during the year ended December 31, 2004. Additionally
$154,761 (2003: $292,864 - restated) is interest expense (2004) and consulting
fees (2003).
(b) Our company and our subsidiaries received revenue from the provision of the
following services to Pantel Rt.:
12
- Cost of international leased lines and local telephone lines in Romania;
- International/national data and voice over internet protocol services for
Pantel;
- Internet and related services;
- Consulting services; and
- Commission.
Total value of these services were approximately $8,503,939 (2003: $5,740,709
restated) for the year ended December 31, 2004.
During the year ended December 31, 2004, direct sales to Pantel Rt. were 23%
(2003: 26% - restated) of total consolidated revenues. However, the dependency
on Pantel is even more significant. Some third party sales of Euroweb Romania
involve Pantel Rt. as the subcontractor/service provider for the
international/domestic lines (hence the revenues related to Pantel Rt. are
greater than the amounts paid to Pantel Rt.), and some third party customers are
also clients of Pantel Rt. outside of Romania (i.e. their relationship with
Pantel is stronger than their relationship with Euroweb Romania).
Effective dependency on Pantel Rt. - taking into account direct and Pantel
Rt.-related sales - represents approximately 30% of total consolidated revenues
of the Company and approximately 80% of total sales of Euroweb Romania in 2004.
There is no such dependency in the case of Euroweb Hungary or Euroweb Slovakia.
With respect to pricing, agreements are made at market prices or a split of the
margin based on the financial investment into the specific services by each of
the parties. The Company always considers alternative suppliers for each
individual project.
On February 28, 2005, KPN Telecom B.V. (the majority owner of Pantel Rt. and our
largest shareholder), completed the sale of its entire interest in Pantel Rt.
Therefore Euroweb is no longer related party with Pantel from March 1, 2005.
It cannot be predicted in advance whether these changes will have an influence
on the business relationship between the Company and Pantel Rt. However,
management believes - although it cannot be assured - that the current business
agreements were made on arms-length principles and are beneficial to both
parties, and therefore significant changes may not occur.
The Company has not experienced material changes in the mutual relationship in
the first quarter of 2005 with Pantel Rt.
Acquisitions and disposals
(a) Acquisition of remaining 51% of Euroweb Hungary Rt.
The Hungarian operations are conducted through Euroweb Hungary Rt. In February
2004, the Company acquired the remaining 51% of Euroweb Hungary Rt. that it did
not already own from Pantel Telecommunication Rt. ("Pantel Rt.") and is fully
consolidated in the financial statements for all periods presented.
The consideration paid by the Company for the 51% interest comprised EUR
1,650,000 (USD $2,105,000) in cash, and a guarantee that Euroweb Hungary Rt.
will purchase at least HUF 600 million (approximately $3 million) worth of
13
services from Pantel Rt. in each of the three years ending December 31, 2006.
(b) Acquisition of Elender Business Communications Rt. ("Elender Rt.")
On June 9, 2004, the Company acquired all of the outstanding shares of Elender
Rt., an Internet Service Provider ("ISP") located in Hungary. Consideration paid
of USD $9,350,005 consisted of USD $6,500,000 in cash and 677,201 of the
Company's common shares valued at USD $2,508,353 excluding registration cost,
and USD $341,652 in transaction costs (consisting primarily of professional fees
incurred related to attorneys, accountants and valuation advisors). The results
of Elender Rt. have been included in the Company's consolidated financial
statements from the date of acquisition.
In accordance with the purchase method of accounting prescribed by SFAS No. 141
"Business Combinations" ("SFAS 141"), the Company allocated the consideration to
the tangible net assets and liabilities and intangible assets acquired, based on
their estimated fair values. The consideration has been allocated as follows:
Fair value of Elender Rt.'s recorded assets acquired and
liabilities assumed 1,379,404
Identified intangibles - customer contracts 2,730,420
Excess purchase price over allocation to identifiable
assets and liabilities (Goodwill) 5,240,181
-----------
Total Consideration 9,350,005
===========
In performing this purchase price allocation of acquired intangible assets based
in part on the valuation performed by an independent appraiser, the Company
considered its intention for future use of the assets, analyses of historical
financial performance and estimates of future performance of Elender Rt.'s
services, among other factors. Acquired identifiable intangible assets obtained
in the Company's acquisition of Elender Rt. relate to customer contracts which
are being amortized over the estimated useful life of 2.5 years.
The Company estimated the fair values of the identified intangibles - customer
contracts using the "income" valuation approach and discount rates ranging from
14% to 18%. The discount rates selected were based in part on the Company's
weighted average cost of capital and determined after consideration of the
Company's rate of return on debt and equity, and the risk associated with
achieving forecasted cash flows.
The excess of the purchase price over the fair value of the identifiable
tangible and intangible net assets acquired was assigned to goodwill. In
accordance with SFAS No. 142 "Goodwill and Other Intangible Assets" ("SFAS
142"), goodwill will not be amortized but will be tested for impairment at least
annually.
Although the former owners of Elender Rt. received shares of common stock of the
Company, each of the former owners of Elender Rt. currently holds less than 10%
of the outstanding shares of common stock in the Company. Therefore, they are
not considered related parties and those transactions are shown as third party
transactions in the accompanying consolidated financial statements of the
Company.
14
The following unaudited pro-forma information presents a summary of consolidated
results of operations of the Company including the acquisition of Elender Rt.,
the disposal of Euroweb Czech, and the probable disposal of Euroweb Slovakia
(see Note 17 Subsequent Events) as if the transactions had occurred at January
1, 2003.
December 31, 2004 December 31, 2003
Revenues $43,341,912 $39,686,446
Net Loss ($2,408,146) ($2,741,788)
Net Loss per share ($0.45) ($0.51)
The above unaudited pro forma summarized results of operations are intended for
informational purposes only and, in the opinion of management, are neither
indicative of the financial position or results of operations of the Company had
the acquisition actually taken place as of January 1, 2004 or 2003, nor
indicative of the Company's future results of operations. The above unaudited
pro forma summarized results of operations do not include potential cost savings
from operating efficiencies or synergies that may result from the Company's
acquisition of Elender Rt.
(c) Disposal of Euroweb Czech Republic
On December 16, 2004, the Company sold 100% of Euroweb Czech for cash of
$500,000. However, as a part of the transaction, the Company effectively forgave
$400,000 of loans receivable from Euroweb Czech. The Company realised a gain on
disposal of approximately $409,000 on this sale. The results of Euroweb Czech
are shown as discontinued operations in the accompanying financial statements.
Critical Accounting Estimates
Our discussion and analysis of our financial condition and results of operations
are based upon our consolidated financial statements that have been prepared in
accordance with generally accepted accounting principles in the United States of
America ("US GAAP"). This preparation requires management to make estimates and
assumptions that affect the reported amounts of assets, liabilities, revenues
and expenses, and the disclosure of contingent assets and liabilities. US GAAP
provides the framework from which to make these estimates, assumptions and
disclosures. We choose accounting policies within US GAAP that management
believes are appropriate to accurately and fairly report our operating results
and financial position in a consistent manner. Management regularly assesses
these policies in light of current and forecasted economic conditions. Although
we believe that our estimates, assumptions and judgments are reasonable, they
are based upon information presently available. Actual results may differ
significantly from these estimates under different assumptions, judgments or
conditions for a number of reasons. Our accounting policies are stated in Note 1
to the 2004 Consolidated Financial Statements. We identified the following
accounting policies as critical to understanding the results of operations and
the effect of the more significant judgments and estimates used in the
preparation of the consolidated financial statements: impairment of long-live
assets, allowance for doubtful accounts, stock-based compensation.
15
Impairment of long lived assets: We adopted Statement of Financial Accounting
Standard No. 142 ("SFAS 142"), "Goodwill and Other Intangible Assets," which
establishes that goodwill acquired in a business combination and that have
indefinite useful lives are no longer amortized but rather are tested at least
annually for impairment. These policies require us to make significant and
subjective estimates and assumptions, which are sensitive to deviations from
actual results. In particular, we make estimates regarding future undiscounted
cash flows from the use of long-lived assets in assessing potential impairment
whenever events or changes in circumstances indicate the carrying value of a
long-lived asset may not be recoverable. Since there were some events or changes
in circumstances in the past, the carrying value of long-lived assets were
impaired by $887,957 (restated) in 2003 as we recorded adjustments to the
carrying value of these assets. We cannot assure that there will be no future
events or changes in cash flow estimates or other circumstance, which may
significantly change the carrying value of long-lived assets.
Allowance for Doubtful Accounts: We make judgments as to our ability to collect
outstanding accounts receivable and provide an allowance for a portion of our
accounts receivable when collection becomes doubtful. We also make judgments
about the creditworthiness of customers based on ongoing credit evaluations and
the aging profile of customer accounts receivable and assess current economic
trends that might impact the level of credit losses in the future. Historically,
our allowance for doubtful accounts has been sufficient to cover our actual
credit losses. However, since we cannot predict changes in the financial
stability of our customers, we cannot guarantee that our allowance will continue
to be sufficient. If actual credit losses are significantly greater than the
allowance that we have established, this would increase our operating expenses
and our reported net loss.
Stock-Based compensation: We apply the intrinsic value-based method of
accounting prescribed by Accounting Principles Board ("APB") Opinion No. 25,
"Accounting for Stock Issued to Employees," and related interpretations
including FASB Interpretation No. 44, "Accounting for Certain Transactions
involving Stock Compensation an interpretation of APB Opinion No. 25". to
account for its stock options. Under this method, compensation expense is
recorded on the date of grant only if the current market price of the underlying
stock exceeds the exercise price. SFAS No. 123, "Accounting for Stock-Based
Compensation," ("SFAS No. 123") and FASB Statement No. 148 Accounting for
Stock-Based Compensation - Transition and Disclosure, an amendment of FASB
Statement No. 123".established accounting and disclosure requirements using a
fair value-based method of accounting for stock-based employee compensation
plans. As allowed by existing standards we elected to continue to apply the
intrinsic value-based method of accounting described above, and has adopted the
disclosure requirements of SFAS No. 123, as amended. The FASB has recently
issued Statement 123R which requires expense recognition for stock options and
other types of equity-based compensation based on the fair value of the options
at the grant date. Additionally, the FASB is evaluating how to develop a measure
of the fair value of an option. As a result, we will be required to recognize
expense related to stock options and other types of equity-based compensation in
future periods. Additionally, we may be required to change our method for
determining the fair value of stock options. This will result in the increase of
compensation expense and related cost in the profit and loss statement.
Acquisition Related Assets and Liabilities: Accounting for the acquisition of a
business as a purchase transaction requires an allocation of the purchase price
to the assets acquired and the liabilities assumed in the transaction at their
respective estimated fair values. The most difficult estimations of individual
fair values are those involving long-lived assets, such as property, plant and
equipment and intangible assets. We use all available information to make these
fair value determinations and, for major business acquisitions, engage an
independent valuation specialist to assist in the fair value determination of
16
the acquired long-lived assets. Due to inherent subjectivity in determining the
estimated fair value of long-lived assets and the value of business acquisitions
that we have completed, we believe that the recording of acquired assets and
liabilities is a critical accounting policy.
Accounting for Income Taxes: We recognize deferred tax assets and liabilities
for the expected future tax consequences of transactions and events. Under this
method, deferred tax assets and liabilities are determined based on the
difference between the financial statement and tax bases of assets and
liabilities using enacted tax rates in effect for the year in which the
differences are expected to reverse. If necessary, deferred tax assets are
reduced by a valuation allowance to an amount that is determined to be more
likely than not recoverable. We must make significant estimates and assumptions
about future taxable income and future tax consequences when determining the
amount of the valuation allowance. In addition, tax reserves are based on
significant estimates and assumptions as to the relative filing positions and
potential audit and litigation exposures related thereto.
Commitments and contingencies
The Company's subsidiaries have entered into various capital leases for vehicles
and internet equipment, as well as non-cancelable operational agreements for
office premises.
On June 1, 2004, Elender Rt. (which has now been merged with Euroweb Hungary
Rt.) entered into a bank loan agreement with Commerzbank (Budapest) Rt. The
agreement consists of a loan facility of HUF 300 million (approximately $1.67
million) of which approximately $1,070,000 was outstanding at December 31, 2004.
The loan is being repaid in quarterly installments of HUF 14.5 million
(approximately $80,000), commencing November 30, 2004. The interest rate is
BUBOR (Budapest Interbank Offered Rate) + 1.35%.
Notes payable of approximately $808,000 relate to outstanding liabilities to
three previous shareholders of Elender Rt.: Vitonas Investments Limited, Certus
Kft. and Rumed 2000 Kft. The outstanding amount is payable in four equal
quarterly installments of HUF 36.438 million (approximately $202,000), with the
final payment on December 31, 2005.
During 2002 Pantel Rt., a related party, provided a loan of HUF 245,000,000
(approximately $ 1.36 million using 2004 exchange rate) to a subsidiary of the
Company. The loan bears interest at a rate of 13% and is repayable in five equal
installments from December 2004 semi-annually until the end of 2006. The
year-end balance reflects the payment made in December 2004.
The following table summarizes the commitments described above:
----------------------------------- ---------------- ------------- ------------ ------------- -----------
Contractual Cash Obligations 2005 2006 2007 2008 After 2008
----------------------------------- ---------------- ------------- ------------ ------------- -----------
Capital leases $ 284,463 $ 94,201 $ 54,159 - -
----------------------------------- ---------------- ------------- ------------ ------------- -----------
Operational leases $ 592,019 $ 592,019 $ 542,019 $ 442,019 -
17
----------------------------------- ---------------- ------------- ------------ ------------- -----------
Employment agreements (1) $ 425,000 $ 200,000 - - -
----------------------------------- ---------------- ------------- ------------ ------------- -----------
Purchase commitment $ 3,000,000 $ 3,000,000 - - -
----------------------------------- ---------------- ------------- ------------ ------------- -----------
Related party note payable $ 543,568 $ 543,568 - - -
----------------------------------- ---------------- ------------- ------------ ------------- -----------
Bank loan payable $ 321,704 $ 321,704 $ 321,704 103,677 -
----------------------------------- ---------------- ------------- ------------ ------------- -----------
Note payable $ 808,441 - - - -
----------------------------------- ---------------- ------------- ------------ ------------- -----------
Total Contractual Cash Obligations $ 5,975,195 $ 4,751,492 $ 917,882 $ 545,696 -
----------------------------------- ---------------- ------------- ------------ ------------- -----------
(1) Csaba Toro's salary without bonus, and fixed term contracts of two managers
In addition to the above contractual cash obligations, our subsidiary in Romania
has entered into a 20 year Indefeasible Right of Use agreement whereby for the
duration of the agreement, Euroweb Romania is obliged to use all reasonable
endeavours to ensure the Cable System is maintained in efficient working order
and in accordance with industry standards. The total consideration of $920,000
has already been received, and is being accounted for as an operating lease.
We are also obliged to pay a $2,000 per day penalty ($170,000 as of December 31,
2004) if the registration of the 677,201 shares (which is currently in
progress), issued as part of the purchase consideration for Elender was not
effected by October 2004. The penalty is payable until the effective date of
registration if the delay is attributable to the fault of our company. The
Company is presently in discussion with the former shareholders of Elender to
obtain a waiver of the penalty, if any, and therefore this contingency is not
incorporated in the above table.
Due to the Company's strategy of aggressive acquisition, the Company may seek to
incur additional material debts, which are not reflected in the table above.
Results of Operations
Year Ended December 31, 2004 compared to Year Ended December 31, 2003
Due to the acquisition of Elender Rt. from June 9, 2004, the profit and loss
statements for the year ended December 31, 2004 and 2003 are not comparable from
an organic growth point of view. The Company finalized the legal and
organizational merger of Euroweb Hungary and Elender Rt. in the fourth quarter
of 2004, and it expects to realize certain synergy effects from 2005 onwards.
On February 12, 2004, the Company purchased the remaining 51% of Euroweb Hungary
shares that the Company did not already own from Pantel Rt. As this was a
transaction between entities under common control (at the date of the
acquisition, KPN owned 50.17% of the voting common shares of the Company and 75%
of the voting common shares of Pantel Rt.), the transaction was recorded in a
manner similar to a pooling-of-interest, and accordingly the 2003 historical
consolidated financial statements have been restated to include the financial
position, results of operations and cash flows of Euroweb Hungary for all
periods presented.
18
Year ended December 31, 2004 2003 (restated)
------ --------------
Total Revenues $ 36,615,725 $ 22,117,058
The Company experienced a 65% revenue growth, or an increase of $14,498,667, for
the twelve months ended December 31, 2004 compared to the twelve months ended
December 31, 2003. The increase was mainly due to the acquisition of Elender Rt.
and increase in VOIP services.
The following table summarizes the main changes in revenue compared to the
previous year with respect to the revenue structure:
------------------------------------ --------------------- --------------------- --------------
Revenue / services 2004 2003 (restated) % change
------------------------------------ --------------------- --------------------- --------------
ISP activity $ 22,230,572 $ 10,832,514 +105%
------------------------------------ --------------------- --------------------- --------------
Int./dom. leased line *(a) $ 6,515,664 $ 6,487,607 +1%
------------------------------------ --------------------- --------------------- --------------
VOIP (Hungary and Romania) $ 7,755,215 $ 4,511,604 +71%
------------------------------------ --------------------- --------------------- --------------
Facilities (a) $ 114,274 $ 285,333 -60%
------------------------------------ --------------------- --------------------- --------------
Total $ 36,615,725 $ 22,117,058 65%
------------------------------------ --------------------- --------------------- --------------
* - primarily Pantel or Pantel related sales,
(a) substantially all generated by the Romanian subsidiary
ISP revenue analysis
An estimated 78% (approximately $ 9.5 million) of the increase in ISP revenue is
due to the acquisition of Elender Rt. The remaining growth of ISP revenue (22%)
can be attributed to the weakness of the US Dollar (10%-13% depreciation of
dollar depending on comparisons with Hungary, Romania, Slovakia) and organic
growth compared to the previous year. Due to economic conditions and pricing
issues, customers - having access type services - generally transfer from higher
monthly fee subscriptions (such as leased line) to lower monthly fee
subscriptions (e.g. ADSL). Although the number of total customers has increased
compared to previous periods, organic revenue growth possibilities in this
segment are limited due to the structural change in utilized service types by
the customers.
International/national Leased Line revenue analysis
Revenue from international leased lines and IP data services produced by Euroweb
Romania has stagnated comparing to last year. This service is provided in
relationship with Pantel Rt.'s client base and services, and is generally
provided to a small number of Internet Service Providers, telecommunication
firms, and other international companies. Due to developments in the Romanian
market in the last few years, these individually agreed wholesale prices have
started to drop (by at least 20% to more than 50%). Despite price erosion, the
Company was able to secure new contracts (including a government contract) in
order to offset the negative trends in the international leased line segment.
Additionally, Euroweb Romania has started to increase the proportion of domestic
leased lines customers and has achieved an increase from 103 to 269 by the end
of 2004.
VOIP Service revenue analysis
--------------------------------------------- --------------- ---------------- ---------------
VOIP services revenue 2004 2003 (restated) % change
--------------------------------------------- --------------- ---------------- ---------------
Retail voice origination $ 585,203 $ 492,689 +18%
--------------------------------------------- --------------- ---------------- ---------------
Wholesale voice termination $ 5,183,000 $ 2,413,932 +114%
--------------------------------------------- --------------- ---------------- ---------------
Neophone prepaid phonecard (Hungary) $ 1,987,012 $ 1,604,983 +23%
--------------------------------------------- --------------- ---------------- ---------------
Total $ 7,755,215 $ 4,511,604 +71%
--------------------------------------------- --------------- ---------------- ---------------
19
Retail voice origination is provided to corporate customers over leased lines.
Such services enable the customers to reduce their costs of the international,
long distance and local calls, which they initiate. 35% of revenue is generated
in Romania, while the remaining 65% is generated in Hungary. From 2005, the
Hungarian subsidiary introduced a new voice product, Neophone Deal, which is a
more convenient and cheaper way for companies to reduce their voice costs.
Consequently future increases from this product is limited, though new voice
service categories will be introduced. The services are mostly denominated in
local currency, therefore in Dollar terms the overall increase is less than 7%
due to the depreciation of the US Dollar.
Wholesale voice termination represents voice minutes received from Pantel Rt.
and forwarded to Romanian telecommunication companies. Such services have
increased by 114%, but the margin has fallen in 2004 as the Company changed its
wholesale voice termination business model in the middle of 2003, which resulted
in a reduction in wholesale margins of more than 10%. It is a price sensitive
service which is also affected by the regulatory environment in Romania. The
service bears a high risk that the voice traffic may be completely eliminated if
a strategic decision is made by Pantel to use alternative providers or customers
can obtain better termination rates from competitors. Such volume reductions may
occur at any time, although the impact on the result of operation will be
limited as margins are low. Less than 10% of the increase can be attributed to
the weakening of the US Dollar from 2003 to 2004 against local currencies.
Neophone prepaid phonecards enable users (private individuals) to make cheaper
domestic or international calls compared to the rates of the incumbent telecom
operators, and were first introduced three years ago in Hungary. During this
time, the number of users and voice traffic has continuously and significantly
increased. For the year ended December 31, 2004, revenues from phone card
traffic increased by 23% compared to the previous year mainly due to volume
increases and the appreciation of the Hungarian Forint by approximately 10%.
From 2004, the competition has introduced aggressively low prices: up to 50%
discounts depending on the destination of calls compared to previous periods.
Consequently, the Company also had to reduce its prices, and so this development
may restrict the increase of such revenues in the following quarters.
Facilities revenue analysis
Revenues from facilities consist of lease and sale of fiber optic cables. In
2003, a fibre optic sale transaction resulted in revenues of approximately
$190,000. This sales revenue is not expected to continue in the future.
Geographic revenue analysis
The following table summarizes the main changes in revenue compared to the
previous year with respect to the geographical source of revenue:
----------------------------- -------------- --------------------- ------------
Revenue/country 2004 2003 (restated) Change in
%
----------------------------- -------------- --------------------- ------------
Slovakia $3,827,738 $3,424,633 +11%
----------------------------- -------------- --------------------- ------------
Hungary $19,150,985 $8,519,346 +124%
----------------------------- -------------- --------------------- ------------
Romania $13,637,002 $10,173,079 +34%
----------------------------- -------------- --------------------- ------------
Total $36,615,725 $22,117,058 +65%
----------------------------- -------------- --------------------- ------------
20
Slovakia has increased its revenue by 11%, which can be divided into two parts:
(a) an increase of $644,719 in domain revenue and (b) a decrease of $241,614 in
other ISP revenue, compared to 2003. The effect of the strengthening of the
Slovak Koruna against the US Dollar is approximately 13%, and therefore the
revenue in local currency has stagnated.
Elender Rt. has been consolidated from June 9, 2004, and consequently the
Hungarian operations have doubled, mainly (approximately 89%) due to this
acquisition. Approximately 10% of the increase in Hungary is because the
Hungarian Forint has also strengthened against the US Dollar, while the
remaining part is attributable to organic growth.
The Romanian operations have experienced a 34% or $3,463,923 revenue increase
compared to the prior period. Approximately 80% of this increase can be
attributed to the increased wholesale voice termination, while the remaining is
mainly in connection with the increased revenue from ISP activity.
Cost of revenues (excluding depreciation and amortization)
The following table summarizes our cost of revenues (excluding depreciation and
amortization) for the year ended December 31, 2004 and 2003:
Year ended December 31, 2004 2003 (restated)
---- ---------------
Total cost of revenues $ 23,432,499 $ 13,952,186
Cost of revenues (excluding depreciation and amortization) comprise mostly
telecommunication expenses. The increase of 68% is consistent with the overall
increase of revenues of 65%.
Compensation and related costs
The following table summarizes our compensation and related costs for the year
ended December 31, 2004 and 2003:
Year ended December 31, 2004 2003 (restated)
Compensation and related costs $ 4,182,977 $ 2,814,868
Overall compensation and related costs increased by 48% (approximately
$1,368,000) due mainly to the following factors: increase due to acquisition of
Elender Rt. in June 2004 (estimated at approximately $500,000), an increase in
compensation and accrued bonus for CEO ($154,000), and new management
($192,000). The remaining increase of $522,000 is due to increase of salaries
and payroll costs in subsidiaries (approximately 50%) and the effect of the
appreciation of Hungarian and Slovak currencies against the US Dollar
(approximately 50%).
Consulting and professional fees
The following table summarizes our consulting and professional fees for the year
ended December 31, 2004 and 2003:
21
Year ended December 31 2004 2003 (restated)
---- ---------------
Consulting and professional fees $ 2,829,025 $ 2,074,565
An estimated 85% of the $754,460 increase can be attributed to the acquisition
of Elender Rt. in June 2004 ($535,000), while the remaining part is due to
increased legal and consultancy costs associated with growth of the business.
Other selling, general and administrative expenses
The following table summarizes our other selling, general and administrative
expenses for the year ended December 31, 2004 and 2003:
Year ended December 31 2004 2003 (restated)
---- ---------------
Other selling, general and administrative expenses $ 4,237,848 $ 2,458,429
Overall other selling, general and administrative expenses increased by 66%
(approximately $1,779,000) mainly due to the acquisition of Elender Rt. in June
2004. The main categories are as follows: increase in marketing cost mainly due
to the operational merger of Euroweb Rt. ($662,000), increase in insurance costs
due to Officers and Directors Insurance - ($ 239,000 - a new policy effective
from end of 2003), increase in provision on bad debts ($200,000), increase in
repair and maintenance due to merge of the Hungarian subsidiaries ($222,000),
and an increase in telecommunication taxes in Romania ($163,000). The remaining
part can be attributed to other cost categories and the appreciation of the
Hungarian, Romanian and Slovak currencies against the US Dollar.
Depreciation and amortization
The following table summarizes our depreciation and amortization for the year
ended December 31, 2004 and 2003:
Year ended December 31, 2004 2003 (restated)
---- --------------
Depreciation $1,933,632 $1,569,224
Amortization of intangibles $677,132 $66,909
Impairment of intangibles - $100,364
Impairment of goodwill - $887,957
Total depreciation and amortization $2,610,764 $2,624,454
Depreciation has increased by $364,408 in the year ended December 31, 2004
compared to the same period in 2004. Although depreciation increased by
$362,217, this can be attributed to two main items: the acquisition and
consolidation of Elender Rt. (over $700,000), which was offset by the reduction
(over $350,000) of depreciation in Euroweb Hungary Rt. due to certain high-value
computer equipment having been fully depreciated by 2003.
Amortization of intangibles of $677,132 in 2004 relates to certain customer
contracts of Elender Rt, which were recognized as intangible assets upon
acquisition. The 2003 figure relates to amortization of intangibles related to
customer lists of Euroweb Romania (which were also fully impaired in 2003).
Net interest income
22
The following table summarizes our net interest income for the year ended
December 31, 2004 and 2003:
Year ended December 31, 2004 2003 (restated)
---- --------------
Interest income $275,987 $510,928
Interest expense $493,659 $166,608
Net interest income $(217,672) $344,320
The decrease in net interest income is due to the fact that (i) less
interest-generating funds were available in this period than in the same period
of the previous year because funds were disbursed in connection with
acquisitions, (ii) the effective interest rate on these investments has
decreased over the periods in question (iii) securities expired on February 15,
2004, without new investments being made due to cash being needed to fund
acquisitions in 2004, and (iv) consolidation of Elender Rt. and the loan
liability of Freestart Kft. has increased interest expense by more than $300,000
due to loans outstanding, and consequently have reduced net interest income.
Liquidity and Capital Resources
In recent years, we maintained approximately $11 million in cash invested into
US Government Securities, which matured in February 2004. The main source of
these funds was capital injections by KPN in previous years.
As of December 31, 2004, our cash, cash equivalents and marketable securities
were $4.5 million, a decrease of approximately $10 million from the end of
fiscal year 2003. The decrease is primarily due to the acquisition of the
remaining 51% of the Euroweb Hungary shares that we did not already own
(approximately $ 2.1 million), the acquisition of Elender Rt (approximately $
6.8 million in cash) and partial repayments of related party liabilities.
Cash flow from operations in fiscal 2004 was $2.2 million, an increase of 47%
from fiscal 2003. Investing activities also increased the cash at hand of the
company by $1.4 million due mainly to maturity of securities ($11.5 million) and
sale of Euroweb Czech ($0.5 million) which were partially offset by fixed asset
additions ($1.7 million) and cash paid in the acquisition of Elender Rt. and the
remaining 51% of Euroweb Rt. ($8.9 million).
Cash used in financing activities was approximately $2.3 million. The main
portion of this amount (almost $1.1 million) was used to repay related party
payables ($0.25 million) and notes payable ($0.8 million). The notes payable
relates to amounts owed by Elender Rt. to its former shareholders. Approximately
$0.7 million was used to repay bank loans and overdrafts related to Elender Rt.
Upon the acquisition of Elender Rt., the Company took over an overdraft facility
of approximately $830,000 and a loan facility of $1.67 million. At year-end, the
overdraft facility was available but not utilized, with the unutilized portion
of the loan facility being approximately $500,000.
Management believes that the synergy effects and potential business
opportunities of the merged Hungarian entities may contribute to improving our
cash generating ability from 2005. We intend to reduce the loans and trade
liabilities of our company from any such cash generated.
23
In the event the Company makes future acquisitions in Central and Eastern
Europe, the excess cash on hand, additional bank loans or fund raising may be
used to finance such future acquisitions. The Company may also consider the sale
of non-strategic assets or subsidiaries.
Due to the Company's strategy of aggressive acquisition, the Company may seek to
incur additional material debts, which are not reflected in the table above.
Inflation and Foreign Currency
The Company maintains its books in local currencies: Hungarian Forint for
Hungary, The Romanian Lei for Euroweb Romania, and the Slovak koruna for Euroweb
Slovakia.
The Company's operations are primary outside of the United States through its
wholly owned subsidiaries. As a result, fluctuations in currency exchange rates
may significantly effect the Company's sales, profitability and financial
position when the foreign currencies, primarily the Hungarian Forint, of its
international operations are translated into U.S. dollars for financial
reporting. In additional, we are also subject to currency fluctuation risk with
respect to certain foreign currency denominated receivables and payables.
Although the Company cannot predict the extent to which currency fluctuations
may or will effect, the Company's business and financial position, there is a
risk that such fluctuations will have an adverse impact on the Company's sales,
profits and financial position. Because differing portions of our revenues and
costs are denominated in foreign currency, movements could impact our margins
by, for example, decreasing our foreign revenues when the dollar strengthens and
not correspondingly decreasing our expenses. The Company does not currently
hedge our currency exposure. In the future, we may engage in hedging
transactions to mitigate foreign exchange risk.
The Slovakian Koruna has strengthened by 13%, The Romanian Lei has strengthed by
12%, while the Hungarian has strengthened against the U.S. dollar by
approximately 10% when compared with 2003.
Effect of Recent Accounting Pronouncements
In December 2004, the FASB issued SFAS No. 123 (revised 2004), Share-Based
Payment. SFAS No. 123(R) requires an entity to recognize the grant-date fair
value of stock options and other equity-based compensation issued to employees
in the income statement, but expresses no preference for a type of valuation
model. For small business issuers, the Statement is effective as of the
beginning of the first interim or annual reporting period that begins after
December 15, 2005. Early adoption is encouraged for interim or annual periods
for which financial statements or interim reports have not been issued. The
Company is currently assessing the impact SFAS 123(R) may have on its financial
statements.
In December 2004, the FASB issued SFAS No. 153, Exchanges of Nonmonetary Assets:
an amendment of APB Opinion No. 29, which is part of the short-term
international convergence project between the FASB and IASB. SFAS 153 eliminates
a company's ability to use the similar productive assets concept to account for
nonmonetary exchanges at book value without recognizing a gain. Nonmonetary
exchanges will have to be accounted for at fair value, with gain or loss
recognized, if the transactions meet a commercial-substance criterion and fair
value is determinable. SFAS 153 is effective for nonmonetary asset exchanges in
fiscal periods beginning after June 15, 2005, and early application is permitted
for nonmonetary asset exchanges occurring in fiscal periods beginning after
24
December 16, 2004. The Company is currently assessing the impact SFAS 153 may
have on its financial statements.
In December 2004 the Financial Accounting Standards Board ("FASB") issued SFAS
No. 151, Inventory Costs, which amends Chapter 4, Inventory Pricing, of
Accounting Research Bulletin No. 43, Restatement and Revision of Accounting
Research Bulletins. The Statement was issued as a result of the FASB's and
International Accounting Standards Board's ("IASB") joint project to improve the
comparability between U.S. and international accounting standards. SFAS 151
eliminates the so abnormal criterion in ARB 43 and requires companies to
recognize abnormal freight, handling costs, and amounts of wasted material
(spoilage) as current-period charges. Additionally, the Statement clarifies that
fixed production overhead cost should be allocated to inventory based on the
normal capacity of the production facility. SFAS 151 is effective for inventory
costs incurred during annual periods beginning after June 15, 2005. The Company
is currently assessing the impact SFAS 151 may have on its financial statements.
FASB Statement No. 150, Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity, was issued in May 2003. This
Statement establishes standards for the classification and measurement of
certain financial instruments with characteristics of both liabilities and
equity. The Statement also includes required disclosures for financial
instruments within its scope. For the Company, the Statement was effective as of
January 1, 2004, except for mandatory redeemable financial instruments. For
certain mandatorily redeemable financial instruments, the Statement will be
effective for the Company on January 1, 2005. The effective date has been
deferred indefinitely for certain other types of mandatorily redeemable
financial instruments. The Company currently does not have any financial
instruments that are within the scope of this Statement.
On April 30, 2003, the FASB issued FASB Statement No. 149, Amendment of
Statement 133 on Derivative Instruments and Hedging Activities, which amends
FASB Statement No. 133, Accounting for Derivative Instruments and Hedging
Activities, to address (1) decisions reached by the Derivatives Implementation
Group, (2) developments in other Board projects that address financial
instruments, and (3) implementation issues related to the definition of a
derivative. The Company does not believe that FAS 149 will have any impact on
its financial statements.
Risk Factors
The Company is subject to certain risk factors due to the industry in which
it competes and the nature of its operations. Theses risks include the
following:
We have incurred net losses for the prior periods and we will again incur net
losses if we are unable to generate sufficient revenue and control costs.
We incurred net losses of $734,454 for the year ended December 31, 2004 and
$1,791,027 for the year ended December 31, 2003 (restated). We may not achieve
profitability on a quarterly or annual basis in the future. If revenues grow
more slowly than we anticipate or if operating expenses exceed our expectations
or cannot be adjusted accordingly, we will continue to incur losses. Our future
performance is dependent upon the successful development and marketing of our
services and products, about which there is no assurance. Any future success
that we might enjoy will depend upon many factors, including factors out of our
control or which cannot be predicted at this time. These factors may include
changes in or increased levels of competition, including the entry of additional
25
competitors and increased success by existing competitors, changes in general
economic conditions, increases in operating costs, including costs of supplies,
personnel and equipment, reduced margins caused by competitive pressures and
other factors. These conditions may have a materially adverse effect upon us or
may force us to reduce or curtail operations.
We could incur material additional expenses, which could reduce our gross
margins or increase operating losses, if the Internet service industry becomes
subject to additional regulations.
The Internet service industry is not currently subject to direct regulation
other than regulation applicable to businesses generally. However, changes in
the regulatory environment relating to the telecommunications, Internet and
media industries could have an effect on our business, which may be materially
adverse to our interests. Additionally, legislative proposals from
international, federal, state and foreign governmental bodies in the areas of
content regulation, intellectual property, privacy rights and tax issues, could
impose additional regulations and obligations upon all online service and
content providers, which may be materially adverse to our interests. We cannot
predict the likelihood that any such legislation be introduced, nor the
financial impact, if any, of the resulting regulation.
Moreover, the applicability to persons engaged in Internet commerce of existing
laws governing issues such as intellectual property ownership, libel and
personal privacy is uncertain. Recent events relating to the use of online
services for certain activities has increased public focus and could lead to
increased pressure on foreign and national legislatures to impose regulations on
online service providers. The law relating to the liability of entities
conducting business over the Internet for information carried on, or
disseminated through, their systems is currently unsettled and has been the
subject of several recent private lawsuits. In the event that a similar action
be initiated against us, costs incurred as a result of such actions could have a
material adverse effect on the business of our company.
As we may seek to acquire more companies, we may choose to finance these
acquisitions through proceeds generated from debt financing, which may lead to a
substantial increase in interest expenses.
Our future success is dependent, in part, on the performance and continued
service of our Chief Executive Officer and our ability to attract additional
qualified personnel. If we are unable to do so our results from operations may
be negatively impacted.
Our success will be dependent on the personal efforts of Csaba Toro, Chief
Executive Officer. The loss of the services of Mr. Toro could have a material
adverse effect on our business and prospects. We do not have and do not intend
to obtain "key-man" insurance on the life of any of our officers. The success of
our company is largely dependent upon our ability to hire and retain additional
qualified management, marketing, technical, financial and other personnel.
Competition for qualified personnel is intense, and there can be no assurance
that we will be able to hire or retain additional qualified management. The
inability to attract and retain qualified management and other personnel will
have a material adverse effect on our company as our key personnel are critical
to our overall management as well as the development of our technology, our
culture and our strategic direction.
26
Our wholly owned subsidiary, Euroweb Romania, is highly dependent on one
customer, Pantel Rt. ("Pantel"), which was owned by KPN Telecom B.V. If Pantel
were to terminate our relationship, our results from operations would be
materially impacted. We note that on February 28, 2005, Hungarian Telephone &
Cable Corp. announced the completion of its purchase of the Pantel business from
KPN.
The majority owner of Pantel Rt. and the largest stockholder of Euroweb
International Corp. during 2004 and prior years was KPN Telecom B.V. Such
ownership has led to improved co-operation between the two companies, which has
resulted in a high level of dependency in the case of Euroweb Romania. Actual
dependency from Pantel Rt., taking into account the direct and Pantel Rt.
related sales, represents approximately 30% of total consolidated revenue of
Euroweb International Corp. and approximately 85% of total sales of Euroweb
Romania. . In addition, in February 2004 a Service Contract was entered between
Euroweb Hungary and its subsidiaries and Pantel Rt., whereby Euroweb Hungary
agreed to buy services from Pantel Rt. on an annual basis of HUF 600,000,000
(approximately $3 million) plus value added tax during each of 2004-2006. In the
event that Euroweb Hungary does not satisfy this annual commitment, it is
required to pay to Pantel Rt. a penalty equal to 25% of the annual commitment
less any services purchased. Despite the fact that co-operation is based on
arm's length agreements, disagreements between the management of Pantel Rt. and
EuroWeb, or an effective change of ownership in one or both companies, may
result in the loss of the Pantel Rt. related revenues and their significant
margin. On February 28, 2005, Hungarian Telephone & Cable Corp. announced the
completion of its purchase from KPN of the Pantel business. Therefore, Pantel is
no longer considered a related party effective March 1, 2005.
Increased competition in the Internet service industry may make it difficult for
our company to attract and retain customers and to maintain current pricing
levels.
The market for Internet-based products and services is new, intensely
competitive, rapidly evolving and subject to rapid technological change. The
Company expects competition to persist, intensify and increase in the future.
Such competition could materially adversely affect the Company's business,
operating results or financial condition.
The main competitors of Euroweb Hungary are five of the largest or most active
providers in Hungary:
o The incumbent telecom operator, Matav/Axelero
o GTS-Datanet
o Pantel
o Enternet, and
o Interware
The above companies also provide internet services. Both Interware and
GTS-Datanet have a customer base similar to that of the Company's.
Romania's Internet market is in the initial phase of development. At present,
other then Euroweb Romania, there are two other data transmission companies
providing internet services, which also cover the entire territory of Romania:
27
o Global One Romania; and
o Logic Telecom
We believe that the main competitors of Euroweb Slovakia are four of the largest
or most active providers in Slovakia:
o Nextra;
o GTS Inec;
o SLOVANET; and
o the incumbent telecom operator, Slovak Telecom.
The above are all also providing internet services. Both Nextra and GTS Inec
have a customer base similar to that of the Company's.
The Company may face intense competition from other companies directly
involved in the same business and also from many other companies offering
products which can be used in lieu of those offered by the Company. Competition
can take many forms, including convenience in obtaining products, service,
marketing and distribution channels. Although the Company believes it can
compete on the basis of the quality and reliability of its services, there can
be no assurance that the Company will be able to compete successfully against
current or future competitors or that competitive pressures faced by the Company
will not materially adversely affect the Company's business, operating results
or financial condition.
Foreign Currency and Exchange Risks and Rate Revaluation.
The Company will be subject to significant foreign exchange risk. There are
currently no meaningful ways to hedge currency risk in either Hungary, Romania
or Slovakia. Therefore, the Company's ability to limit its exposure to currency
fluctuations is significantly restricted. The Company's ability to obtain
dividends or other distributions is subject to, among other things, restrictions
on dividends under applicable local laws and foreign currency exchange
regulations of the jurisdictions in which its subsidiaries operate. The laws
under which the Company's operating subsidiaries are organized provide generally
that dividends may be declared by the partners or shareholders out of yearly
profits subject to the maintenance of registered capital and required reserves
and after the recovery of accumulated losses.
Other factors affecting shareholders/investors
Possible Future Capital Needs.
The Company currently anticipates that its available cash resources will be
sufficient to meet its presently anticipated working capital and capital
expenditure requirements for at least the next 12 months. Although the Company
has no definitive plans for acquisitions at this time (other than that described
in Note 17 (d) of the consolidated financial statements), the Company may have
future acquisitions that could potentially exceed available funds. Therefore,
the Company may need to raise additional funds in order to support more rapid
expansion, acquire complementary businesses or technologies or take advantage of
unanticipated opportunities through public or private financing, strategic
relationships or other arrangements. There can be no assurance that such
additional funding, if needed, will be available on terms acceptable to the
28
Company, or at all. If adequate funds are not available on acceptable terms, the
Company may be unable to develop or enhance its services and products or take
advantage of future opportunities either of which could have a material adverse
effect on the Company's business, results of operations and financial condition.
No Dividends.
It has been the policy of the Company to not pay cash dividends on its
common stock. At present, the Company will follow a policy of retaining all of
its earnings, if any, to finance the development and expansion of its business
Potential Issuance of Additional Common and Preferred Stock.
The Company is currently authorized to issue up to 35,000,000 shares. The
Board of Directors of the Company will have the ability, without seeking
stockholder approval, to issue additional shares of common stock in the future
for such consideration as the Board of Directors may consider sufficient. The
issuance of additional common stock in the future will reduce the proportionate
ownership and voting power of the common stock offered hereby. The Company is
also authorized to issue up to 5,000,000 shares of preferred stock, the rights
and preferences of which may be designated in series by the Board of Directors.
To the extent of such authorization, such designations may be made without
stockholder approval. The designation and issuance of series of preferred stock
in the future would create additional securities which may have voting,
dividend, liquidation preferences or other rights that are superior to those of
the common stock, which could effectively deter any takeover attempt of the
Company.
Forward-Looking Statements
When used in this Form 10-KSB, in other filings by the Company with the
SEC, in the Company's press releases or other public or stockholder
communications, or in oral statements made with the approval of an authorized
executive officer of the Company, the words or phrases "would be," "will allow,"
"intends to," "will likely result," "are expected to," "will continue," "is
anticipated," "estimate," "project," or similar expressions are intended to
identify "forward-looking statements" within the meaning of the Private
Securities Litigation Reform Act of 1995.
The Company cautions readers not to place undue reliance on any
forward-looking statements, which speak only as of the date made, are based on
certain assumptions and expectations which may or may not be valid or actually
occur, and which involve various risks and uncertainties, including but not
limited to the risks set forth above. See "Risk Factors." In addition, sales and
other revenues may not commence and/or continue as anticipated due to delays or
otherwise. As a result, the Company's actual results for future periods could
differ materially from those anticipated or projected.
29
Unless otherwise required by applicable law, the Company does not
undertake, and specifically disclaims any obligation, to update any
forward-looking statements to reflect occurrences, developments, unanticipated
events or circumstances after the date of such statement.
Item 7. Financial Statements.
Reference is made to the Consolidated Financial Statements of the Company,
beginning with the index thereto on page F-1
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
ITEM 8A. CONTROLS AND PROCEDURES
As of December 31, 2004, an evaluation was performed under the supervision and
with the participation of the Company's management, including the Chief
Executive Officer and the Chief Accounting Officer, of the effectiveness of the
design and operation of the Company's disclosure controls and procedures. Based
on that evaluation, the Company's management, including the Chief Executive
Officer and the Chief Accounting Officer, concluded that the Company's
disclosure controls and procedures were effective as of December 31, 2004. There
have been no significant changes in the Company's internal controls or in other
factors that could significantly affect internal controls subsequent to December
31, 2004.
ITEM 8B. OTHER INFORMATION
None.
30
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(A) OF THE EXCHANGE ACT
The following table sets forth certain information regarding the executive
officers and directors of the Company as of March 25, 2005
Name Age Position with Company
Csaba Toro 39 Chief Executive Officer, Treasurer and Director
Howard Cooper 48 Director - Resigned on March 21, 2005
Stewart Reich 60 Director, Board Chairman, Audit and Compensation
Committees Chairman
Gabor Ormosy 34 Director
Ilan Kenig 43 Director, Audit and Compensation
Committee's member
Yossi Attia 42 Director, Audit and Compensation
Committee's member
Csaba Toro, age 39, Director and CEO of the Company since June 2002, has been
with the Company since September 1998 in various other positions. During 2001
and 2002, Mr. Toro held the positions of COO and CEO in Pantel Rt. He resigned
as CEO of Pantel Rt. as of March 2003. From 1997 to 1999, Mr. Toro was managing
director of the Company's Hungarian subsidiary. Prior thereto, since 1994, he
was managing director of ENET Kft., which was acquired by the Company in 1997.
Howard Cooper, age 48, has been the President, CEO and Chairman, Teton Petroleum
Company - Denver, CO (AMEX:TPE) from 1996. Teton has raised institutional equity
and US Trade and Development Agency funding for the development of proven oil
fields in Russia. Teton has been successful in Russia producing oil, exporting
oil for hard currency, and developing an oil field with proven and probable
reserves in excess of 107 million barrels. Previously he was engaged in oil
projects in the former Soviet Union. On March 21, 2005, Mr. Cooper resigned as a
director of the Company.
Stewart Reich, age 60, was Chief Executive Officer and President of Golden
Telecom Inc., Russia's largest alternative voice and data service provider as
well as its largest ISP, since 1997. In September 1992, Mr Reich was employed as
Chief Financial Officer at UTEL (Ukraine Telecommunications), of which he was
appointed President in November 1992. Prior to that Mr. Reich held various
positions at a number of subsidiaries of AT&T Corp. Mr. Reich has been a
director of the Company since 2002.
Gabor Ormosy, age 34, served as the Chief Financial Officer of Elender from 2002
to 2004 where he was responsible for strategic planning, controlling, treasury,
accounting, administration, business development and investor relationships.
From 2000 to 2002, Mr. Ormosy served as the Chief Financial Officer for Webigen
Rt., which was a web developer and marketing company before merging into
Elender. Prior to joining Webigen Rt., Mr. Ormosy served in the corporate
finance department of CA IB Securities Ltd., Budapest where he was responsible
as project manager for deal execution and valuations in mergers & acquisitions
31
and capital market deals. Since 2002, Mr. Ormosy has also served as the
President of the Board of Directors of Wallizing Rt. and as a member of the
Board of Directors of Index Rt.
Yossi Attia, age 42, has been self employed as a real estate developer since
2000. Mr. Attia was appointed to the Company's Board on February 1, 2005. Prior
to entering into the real estate development industry, Mr. Attia served as the
Senior Vice President of Investments of Interfirst Capital from 1996 to 2000.
From 1994 though 1996, Mr. Attia was a Senior Vice President of Investments with
Sutro & Co. and from 1992 through 1994 Mr. Attia served as the Vice President of
investments of Prudential Securities. Mr. Attia received a BA in economics and
marketing from Haifa University in 1987 and a MBA from Pepperdine University in
1995. Mr. Attia held Series 7 and 63 securities licenses from 1991 until 2002.
Effective March 21, 2005, Mr. Attia was appointed as a member of the Audit
Committee and the Compensation committee.
Ilan Kenig, age 43, has over 20 years of management, legal, venture capital and
investment banking experience with specific emphasis in the technology and
telecommunications arena. Mr. Kenig was appointed to the Company's Board on
February 1, 2005. Mr. Kenig joined Unity Wireless Corporation ("Unity"), a
designer, developer and manufacturer of wireless systems, as Vice President of
Business Development in December 2001 before assuming the position of President
and CEO in April 2002. From January 1999 until December 2001, Mr. Kenig pursued
international finance activities and mergers and acquisitions in New York. Mr.
Kenig was a founder of a law firm in Tel-Aviv representing technology and
telecommunications interests. Mr. Kenig holds a law degree from Bar-Ilan
University. Effective March 21, 2005, Mr. Kenig was appointed as a member of the
Audit Committee and the Compensation committee.
Directors are elected annually and hold office until the next annual meeting of
the stockholders of the Company and until their successors are elected and
qualified. Officers are elected annually and serve at the discretion of the
Board of Directors.
ROLE OF THE BOARD
Pursuant to Delaware law, our business, property and affairs are managed
under the direction of our board of directors. The board has responsibility for
establishing broad corporate policies and for the overall performance and
direction of EuroWeb, but is not involved in day-to-day operations. Members of
the board keep informed of our business by participating in board and committee
meetings, by reviewing analyses and reports sent to them regularly, and through
discussions with our executive officers.
2004 BOARD MEETINGS
In 2004, the board met five times. Except for one director, no director
attended less than 80% of all of the combined total meetings of the board and
the committees on which they served in 2004.
BOARD COMMITTEES
Audit Committee The audit committee of the board of directors reviews the
internal accounting procedures of the Company and consults with and reviews the
services provided by our independent accountants. During 2004, the audit
32
committee consisted of Messrs. Stewart Reich and Howard Cooper, both of whom are
considered to be independent. The audit committee held four meetings in 2004.
Mr. Reich serves as the financial expert on the Audit Committee. On March 21,
2005, Mr. Cooper resigned as a director of the Company and a member of the Audit
Committee. On March 21, 2005, the Board of Directors appointed Mr. Attia and Mr.
Kenig, both independent members of the board of directors, to serve as members
of the Audit Committee.
Compensation Committee
The compensation committee of the board of directors i) reviews and
recommends to the board the compensation and benefits of our executive officers;
ii) administers our stock option plans and employee stock purchase plan; and
iii) establishes and reviews general policies relating to compensation and
employee benefits. In 2004, the compensation committee consisted of Messrs
Cooper, Reich and Lipman. No interlocking relationships exist between the board
of directors or compensation committee and the board of directors or
compensation committee of any other company. During the past fiscal year the
compensation committee had two meetings. On January 28, 2005, Mr. Lipman
resigned as a director of the Company and a member of the Compensation
Committee. On March 21, 2005, Mr. Cooper resigned as a director of the Company
and a member of the Compensation Committee. On March 21, 2005, the Board of
Directors appointed Mr. Attia and Mr. Kenig, both independent members of the
Board of Directors,, to serve as members of the Compensation Committee.
SECTION 16(A) BENEFICIAL OWNERSHIP COMPLIANCE
Section 16(a) of the Securities Exchange Act of 1934 requires the Company's
directors and executive officers, and persons who own more then 10 percent of
the Company's Common Stock, to file with the SEC the initial reports of
ownership and reports of changes in ownership of common stock. Officers,
directors and greater than 10 percent stockholders are required by SEC
regulation to furnish the Company with copies of all Section 16(a) forms they
file.
Specific due dates for such reports have been established by the Commission
and the Company is required to disclose in this Proxy Statement any failure to
file reports by such dates during fiscal 2003. Based solely on its review of the
copies of such reports received by it, or written representations from certain
reporting persons that no Forms 5 were required for such persons, the Company
believes that during the fiscal year ended December 31, 2004, there was no
failure to comply with Section 16(a) filing requirements applicable to its
officers, directors and ten percent stockholders.
POLICY WITH RESPECT TO SECTION 162(m)
Section 162(m) of the Internal Revenue Code of 1986, as amended (the
"Code"), provides that, unless an appropriate exemption applies, a tax deduction
for the Company for compensation of certain executive officers named in the
Summary Compensation Table will not be allowed to the extent such compensation
in any taxable year exceeds $1 million. As no executive officer of the Company
received compensation during 2003 approaching $1 million, and the Company does
not believe that any executive officer's compensation is likely to exceed $1
million in 2003, the Company has not developed an executive compensation policy
with respect to qualifying compensation paid to its executive officers for
deductibility under Section 162(m) of the Code.
33
CODE OF ETHICS
The Company has adopted its Code of Ethics and Business Conduct for
Officers, Directors and Employees that applies to all of the officers, directors
and employees of the Company.
ITEM 10. EXECUTIVE COMPENSATION
The following table sets forth information concerning the annual and long term
compensation of the Company's Chief Executive Officer. The Company does not have
any officer whose annual salary and bonus exceeds $100,000 as of December 31,
2004:
ANNUAL COMPENSATION LONG-TERM COMPENSATION
------------------- ----------------------
Restricted Number of
Bonus and Stock Award(s) Securities
Name and Year Ended Other Annual Underlying All Other
Principal Position December 31, Salary ($) Compensation ($) ($) Options/SARs(#) Compensation ($)
------------------------------ ------------- ---------------- ----------------- --------------- --------------- ---------------
Csaba Toro 2004 $150,000 $100,000 -- 125,000 --
Director, CEO, and Treasurer 2003 $96,000 -- -- -- --
2002 $96,000 -- -- -- --
OPTIONS/SAR GRANTS IN LAST FISCAL YEAR
On April 28, 2004, the Company granted 125,000 options to the Chief Executive
Officer under the 2004 Incentive Plan.
There were no other grants of Stock Options/SAR made to the named Executive
during the fiscal year ended December 31, 2004.
34
AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND YEAR-END OPTION/SAR
VALUES
------------------------ ---------------------- --------------------- ------------------------ -----------------------
Number of securities Value of the
underlying unexercised unexercised in the
options/SARs at FY-end money options/SARs at
(#) FY-end ($)*
Name Shares acquired on Value realized ($) Exercisable/UnexercisableExercisable/Unexercisable
exercise (#)
------------------------ ---------------------- --------------------- ------------------------ -----------------------
Csaba Toro, Director None None 94,250 $0.00
CEO, and Treasurer
------------------------ ---------------------- --------------------- ------------------------ -----------------------
* Fair market value of underlying securities (calculated by subtracting the
exercise price of the options from the closing price of the Company's Common
Stock quoted on the Nasdaq as of December 31, 2003), which was $3.77 per share.
None of Mr. Toro's options are presently in the money.
EMPLOYMENT AND MANAGEMENT AGREEMENTS
The Company entered into a six-year agreement with its Chief Executive
Officer and Director, Csaba Toro on October 18, 1999, which commenced January 1,
2000, and provided for an annual compensation of $96,000. The agreement was
amended in 2004. The amended agreement provides for an annual salary of $150,000
and a bonus of up to $100,000 (guaranteed minimum of $50,000) in 2004, and an
annual salary of $200,000 and a bonus of up to $150,000 in 2005 and 2006, as
well as an annual car allowance of $30,000.
The Company also entered into two fixed-term employment agreements for
management of the subsidiaries of the Company which provide for an aggregate
monthly compensation of $ 18,750 until December 31, 2005.
The three employment agreements mentioned above further provide that, if
employment is terminated other than for willful breach by the employee, for
cause or in event of a change in control of the Company, then the employee has
the right to terminate the agreement. In the event of any such termination, the
employee will be entitled to receive the payment due on the balance of his
employment agreement.
The Company has no pension or profit sharing plan or other contingent forms
of remuneration with any officer, director, employee or consultant, although
bonuses are paid to some individuals.
DIRECTOR COMPENSATION
Directors who are also officers of the Company are not separately
compensated for their services as a director. Directors who are not officers
receive cash compensation for their services: $2,000 at the time of agreeing to
become a Director; $2,000 for each Board Meeting attended either in person or by
telephone; and $1,000 for each Audit and Compensation Committee Meeting attended
either in person or by telephone. Non-employee directors are reimbursed for
their expenses incurred in connection with attending meetings of the Board or
any committee on which they serve and are eligible to receive awards under the
Company's 1993 Stock Option Plan (described below).
35
STOCK OPTION PLAN
2004 Incentive Plan
General
The 2004 Incentive Plan was adopted by the Board of Directors. The Board of
Directors has initially reserved 800,000 shares of Common Stock for issuance
under the 2004 Incentive Plan. Under the Plan, options may be granted which are
intended to qualify as Incentive Stock Options ("ISOs") under Section 422 of the
Internal Revenue Code of 1986 (the "Code") or which are not ("Non-ISOs")
intended to qualify as Incentive Stock Options thereunder.
The 2004 Incentive Plan and the right of participants to make purchases
thereunder are intended to qualify as an "employee stock purchase plan" under
Section 423 of the Internal Revenue Code of 1986, as amended (the "Code"). The
2004 Incentive Plan is not a qualified deferred compensation plan under Section
401(a) of the Internal Revenue Code and is not subject to the provisions of the
Employee Retirement Income Security Act of 1974 ("ERISA").
On April 28, 2004, the Company granted 125,000 options to the Chief Executive
Officer and an additional 240,000 options to seven employees and consultants of
our company. The exercise price of the options ($4.78) is equal to the market
price on the date the grants were made. The options vest over a period of
between 3-4 years.
Purpose
The primary purpose of the 2004 Incentive Plan is to attract and retain the best
available personnel for the Company in order to promote the success of the
Company's business and to facilitate the ownership of the Company's stock by
employees.
Administration
The 2004 Incentive Plan is administered by the Company's Board of Directors, as
the Board of Directors may be composed from time to time. All questions of
interpretation of the 2004 Incentive Plan are determined by the Board, and its
decisions are final and binding upon all participants. Any determination by a
majority of the members of the Board of Directors at any meeting, or by written
consent in lieu of a meeting, shall be deemed to have been made by the whole
Board of Directors.
Notwithstanding the foregoing, the Board of Directors may at any time, or from
time to time, appoint a committee (the "Committee") of at least two members of
the Board of Directors, and delegate to the Committee the authority of the Board
of Directors to administer the Plan. Upon such appointment and delegation, the
Committee shall have all the powers, privileges and duties of the Board of
Directors, and shall be substituted for the Board of Directors, in the
administration of the Plan, subject to certain limitations.
36
Members of the Board of Directors who are eligible employees are permitted to
participate in the 2004 Incentive Plan, provided that any such eligible member
may not vote on any matter affecting the administration of the 2004 Incentive
Plan or the grant of any option pursuant to it, or serve on a committee
appointed to administer the 2004 Incentive Plan. In the event that any member of
the Board of Directors is at any time not a "disinterested person", as defined
in Rule 16b-3(c)(3)(i) promulgated pursuant to the Securities Exchange Act of
1934, the Plan shall not be administered by the Board of Directors, and may only
by administered by a Committee, all the members of which are disinterested
persons, as so defined.
Eligibility
Under the 2004 Incentive Plan, options may be granted to key employees,
officers, directors or consultants of the Company, as provided in the 2004
Incentive Plan.
Terms of Options
The term of each Option granted under the Plan shall be contained in a stock
option agreement between the Optionee and the Company and such terms shall be
determined by the Board of Directors consistent with the provisions of the Plan,
including the following:
(a) PURCHASE PRICE. The purchase price of the Common Shares subject to each ISO
shall not be less than the fair market value (as set forth in the 2004 Incentive
Plan), or in the case of the grant of an ISO to a Principal Stockholder, not
less that 110% of fair market value of such Common Shares at the time such
Option is granted. The purchase price of the Common Shares subject to each
Non-ISO shall be determined at the time such Option is granted, but in no case
less than 85% of the fair market value of such Common Shares at the time such
Option is granted.
(b) VESTING. The dates on which each Option (or portion thereof) shall be
exercisable and the conditions precedent to such exercise, if any, shall be
fixed by the Board of Directors, in its discretion, at the time such Option is
granted.
(c) EXPIRATION. The expiration of each Option shall be fixed by the Board of
Directors, in its discretion, at the time such Option is granted; however,
unless otherwise determined by the Board of Directors at the time such Option is
granted, an Option shall be exercisable for ten(10) years after the date on
which it was granted (the "Grant Date"). Each Option shall be subject to earlier
termination as expressly provided in the 2004 Incentive Plan or as determined by
the Board of Directors, in its discretion, at the time such Option is granted.
(d) TRANSFERABILITY. No Option shall be transferable, except by will or the laws
of descent and distribution, and any Option may be exercised during the lifetime
of the Optionee only by him. No Option granted under the Plan shall be subject
to execution, attachment or other process.
(e) OPTION ADJUSTMENTS. The aggregate number and class of shares as to which
Options may be granted under the Plan, the number and class shares covered by
each outstanding Option and the exercise price per share thereof (but not the
total price), and all such Options, shall each be proportionately adjusted for
any increase decrease in the number of issued Common Shares resulting from
split-up spin-off or consolidation of shares or any like Capital adjustment or
the payment of any stock dividend.
37
Except as otherwise provided in the 2004 Incentive Plan, any Option granted
hereunder shall terminate in the event of a merger, consolidation, acquisition
of property or stock, separation, reorganization or liquidation of the Company.
However, the Optionee shall have the right immediately prior to any such
transaction to exercise his Option in whole or in part notwithstanding any
otherwise applicable vesting requirements.
(f) TERMINATION, MODIFICATION AND AMENDMENT. The 2004 Incentive Plan (but not
Options previously granted under the Plan) shall terminate ten (10) years from
the earlier of the date of its adoption by the Board of Directors or the date on
which the Plan is approved by the affirmative vote of the holders of a majority
of the outstanding shares of capital stock of the Company entitled to vote
thereon, and no Option shall be granted after termination of the Plan. Subject
to certain restrictions, the Plan may at any time be terminated and from time to
time be modified or amended by the affirmative vote of the holders of a majority
of the outstanding shares of the capital stock of the Company present, or
represented, and entitled to vote at a meeting duly held in accordance with the
applicable laws of the State of Delaware.
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following table sets forth information with respect to the beneficial
ownership of our common stock as of March 22, 2005 by (i) each person known by
our company to own beneficially more than 5% of the outstanding Common Stock;
(ii) each director of our company; (iii) each officer of our company and (iv)
all executive officers and directors as a group. Except as otherwise indicated
below, each of the entities or persons named in the table has sole voting and
investment powers with respect to all shares of Common Stock beneficially owned
by it or him as set forth opposite its or his name.
Shares
Name and Address Beneficially Owned(1) Percent Owned (1)
--------------------------------------------------- ----------------------------
KPN Telecom B.V. (4) 2,036,188 38.11%
Maanplein 5
The Hague, The Netherlands
Fleminghouse Investments Limited 522,054 9.77%
Chrysanthou Mylona 3, P.C.
3030 Limassol
Cyprus
CORCYRA d.o.o.(3) 2,326,043 43.53%
Verudela 17
Pula Croatia 52100
Csaba Toro (2)(5)(6) 94,250 1.76%
1138 Budapest
Vaci ut 141.
Hungary
38
Howard Cooper (6)(7) 50,000 *
2135 Burgess Creek Road, Ste. #7
Steamboat Springs, CO 80477
Stewart Reich (6)(7) 50,000 *
18 Dorset Lane,
Bedminister, NJ 07921
Gabor Ormosy
Fleminghouse Investments Limited 0 0
Chrysanthou Mylona 3, P.C. (3)
3030 Limassol
Cyprus
Yossi Attia (6)(8) 0 0
1061 1/2 Spalding Ave.
West Hollywood, CA 90046
Ilan Kenig (6)(8) 0 0
7438 Fraser Park Drive
Burnaby, BC Canada V5J 5B9
All Officers and Directors as a 194,250 3.63%
Group (6 Persons)
39
* Less than one percent
(1) Unless otherwise indicated, each person has sole investment and voting power
with respect to the shares indicated. For purposes of this table, a person or
group of persons is deemed to have "beneficial ownership" of any shares which
such person has the right to acquire within 60 days after March 22, 2005. For
purposes of computing the percentage of outstanding shares held by each person
or group of persons named above on March 22, 2005 any security which such person
or group of persons has the right to acquire within 60 days after such date is
deemed to be outstanding for the purpose of computing the percentage ownership
for such person or persons, but is not deemed to be outstanding for the purpose
of computing the percentage ownership of any other person.
(2) Mr. Toro owns, directly or indirectly, 1.76% of the issued and outstanding
shares of the Company represented by options to purchase 94,250 shares.
(3) Pursuant to a Stock Purchase Agreement dated as of January 28, 2005, by and
between KPN Telecom B.V. ("KPN Telecom"), a company incorporated under the laws
of the Netherlands, and CORCYRA d.o.o., a Croatian company ("CORCYRA"), (the
"Purchase Agreement"), KPN Telecom sold to CORCYRA 289,855 shares (the "Initial
Shares") of our common stock for US $1,000,000 (the "Initial Closing"). The
Initial Closing occurred on February 1, 2005. Pursuant to the Purchase
Agreement, CORCYRA has also agreed to purchase and, KPN has agreed to sell, KPN
Telecom's remaining 2,036,188 shares of our common stock (the "Final Shares") on
April 30, 2006 (the "Final Closing"); provided, however, that upon 14 days'
prior written notice to KPN Telecom, CORCYRA may accelerate the Final Closing to
an earlier month-end date as specified in such notice; provided, further, that
the Final Closing is subject to the satisfaction or waiver of all of the
conditions to closing set forth in the Purchase Agreement. Accordingly, CORCYRA
presently owns 289,855 shares of common stock and is deemed to own, pursuant to
Rule 13d-3(d), promulgated under the Securities Exchance Act of 1934, as
amended, the remaining 2,036,188 shares held by KPN Telecom.
(4) KPN Telecom B.V. is a subsidiary of Royal KPN N.V.
(5) An officer of the Company.
(6) A director of our company.
(7) Includes an option to purchase 50,000 shares of common stock at an exercise
price of $4.21 per share. 25,000 options vest on April 13, 2004, while 25,000
options vest on April 13, 2005
(8) Effective March 22, 2005 the Board of Directors decided to grant the two new
directors 100,000 options each, under the 2004 Incentive Plan. No such option
were vested to date.
The foregoing table is based upon 5,342,533 shares of common stock outstanding
as of March 22, 2005.
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Significant related party transactions exist with Pantel Rt. Details of
these transactions can be found in the MD&A section and in Note 14 of the 2004
Consolidated Financial Statements.
There are no other significant related party transactions.
40
ITEM 13. EXHIBITS
A. Exhibits (numbers below reference Regulation S-B, Item 601)
(2) Subscription Agreement and Option Agreement with KPN(1)(2)
(3) (a) Certificate of Incorporation filed November 9, 1992(1) (b)
Amendment to Certificate of Incorporation filed July 9, 1997(2) (c)
By-laws(2)
(4) (a) Form of Common Stock Certificate(1)
(b) Form of Underwriters'
Warrants to be sold to Underwriters(1)
(c) Placement Agreement between
Registrant and J.W. Barclay & Co., Inc. and form of Placement
Agent Warrants issued in connection with private placement
financing(1)
(10) (a) Shares Purchase Agreement between PanTel Tavkozlesi es
Kommunikacios rt., a Hungarian company, and Euroweb International
Corp., a Delaware corporation (3)
(10) (b) Guaranty by Euroweb International Corp., a Delaware corporation,
in favor of PanTel Tavkozlesi es Kommunikacios rt., a Hungarian
company (3)
(10) (c) Shares Purchase Agreement between Vitonas Investments Limited, a
Hungarian corporation, Certus Kft., a Hungarian corporation, Rumed
2000 Kft., a Hungarian corporation and Euroweb International Corp., a
Delaware corporation, dated as of February 23, 2004. (4)
(31) (a) Certification of the Chief Executive Officer of Euroweb
International Corp. pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.
(31) (b) Certification of the Chief Accounting Officer of Euroweb
International Corp. pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.
(32) (a) Certification of the Chief Executive Officer of Euroweb
International Corp. Pursuant to 18 U.S.C. Section 1350, As Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(32) (b) Certification of the Chief Accounting Officer of Euroweb
International Corp., Pursuant to 18 U.S.C. Section 1350, As Adopted
Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
(99) (a) Code of Ethics and Business Conduct of Officers, Directors and
Euroweb International Corp. Incorporated by reference to the Form
10-KSB for the year ended December 31, 2003.
__________________________________
(1) Exhibits are incorporated by reference to Registrant's Registration
Statement on Form SB-2 dated May 12, 1993 (Registration No. 33-62672-NY, as
amended)
(2) Filed with Form 10-QSB for quarter ended June 30, 1998.
(3) Filed as an exhibit to Form 8-K on February 27, 2004.
(4) Filed as an exhibit to Form 8-K on March 9, 2004.
41
ITEM 14. PRINCIPAL ACCOUNTANTS FEES AND SERVICES
Audit Fees. The aggregate fees billed by our auditors, for professional services
rendered for the audit of the Company's annual financial statements for the
years ended December 31, 2004 and 2003, and for the reviews of the financial
statements included in the Company's Quarterly Reports on Form 10-QSB during the
fiscal years were $217,000 and $178,000, respectively.
Audit related fees: Additionally, in 2004, fees for the audit of the 2003 US
GAAP financial statements of Euroweb Hungary Rt. (for 8-K filing purposes) was
$18,750 and fees for the restatement of the Company's 2003 financial statements
to reflect the "as-if" pooling of Euroweb Hungary Rt. for purposes of the SB-2
filing was $37,000. There were no audit related fees in 2003.
All Other Fees. The aggregate fees billed by auditors for services rendered to
the Company, other than the services covered in "Audit Fees" and "Audit related
fees" and for the fiscal years ended December 31, 2004 and 2003 were $124,600
and EUR 33,000. - The 2004 fees relate to the SB-2 registration statement costs
($123,000), and miscellaneous tax advise ($1,600) provided during the course of
2004. The 2003 fees relate to assistance provide to Euroweb Romania in
connection with the Tax Authority Review on VAT.
The Board of Directors has considered whether the provision of non-audit
services is compatible with maintaining the principal accountant's independence.
42
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the Registrant has duly caused this Report to
be signed on its behalf by the undersigned, thereunto duly authorized, in the
City of New York, State of New York, on the 30th day of March 2005.
EUROWEB INTERNATIONAL CORP.
By /s/Csaba Toro
-----------------
Csaba Toro
Chief Executive Officer and Director
(Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange of 1934, as
amended, this Report has been signed below by the following persons in the
capacities and on the dates indicated:
SIGNATURE TITLE DATE
------------------------------ --------------------------------------- ---------------
By: /s/Csaba Toro Chief Executive Officer and Director March 30, 2005
---------------- (Principal Executive Officer)
Csaba Toro
------------------------------ --------------------------------------- ---------------
By: Chairman March 30, 2005
Stewart Reich
------------------------------ --------------------------------------- ---------------
------------------------------ --------------------------------------- ---------------
By: /s/ Gabor Ormosy Director March 30, 2005
-------------------
Gabor Ormosy
------------------------------ --------------------------------------- ---------------
By: /s/ Yossi Attia Director March 30, 2005
--------------------
Yossi Attia
------------------------------ --------------------------------------- ---------------
By: /s/ Ilan Kenig Director March 30, 2005
------------------
Ilan Kenig
------------------------------ --------------------------------------- ---------------
By: /s/ Peter Szigeti Chief Accounting Officer March 30, 2005
---------------------
Peter Szigeti
------------------------------ --------------------------------------- ---------------
43
EUROWEB INTERNATIONAL CORP.
Consolidated Balance Sheet as of December 31, 2004, and
Consolidated Statements of Operations & Comprehensive Loss,
Stockholders' Equity, and Cash Flows for the
Years ended December 31, 2004 and 2003
EUROWEB INTERNATIONAL CORP.
Consolidated Financial Statements
December 31, 2004 and 2003
TABLE OF CONTENTS
-----------------
Page
------
Report of the Independent Registered Public Accounting Firm F-2
Consolidated Financial Statements:
Consolidated Balance Sheet F-3
Consolidated Statements of Operations and Comprehensive Loss F-4
Consolidated Statements of Stockholders' Equity F-5
Consolidated Statements of Cash Flows F-6
Notes to Consolidated Financial Statements F-7
Report of the Independent Registered Public Accounting Firm
The Board of Directors and Stockholders
Euroweb International Corp.
We have audited the accompanying consolidated balance sheet of Euroweb
International Corp. and subsidiaries as of December 31, 2004, and the related
consolidated statements of operations and comprehensive loss, stockholders'
equity, and cash flows for the years ended December 31, 2004 and 2003. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of Euroweb
International Corp. and subsidiaries as of December 31, 2004, and the
consolidated results of their operations and their cash flows for the years
ended December 31, 2004 and 2003 in conformity with accounting principles
generally accepted in the United States of America.
The consolidated financial statements give retroactive effect to the purchase of
Euroweb Rt. by the Company on February 29, 2004 which has been accounted for as
a combination of entities under common control in a manner similar to a pooling
of interests as described in Note 2(q) to the consolidated financial statements.
KPMG Hungaria Kft.
Budapest, Hungary
March 23, 2005
F-2
Euroweb International Corp.
Consolidated Balance Sheet
December 31, 2004
2004
ASSETS
Current assets:
Cash and cash equivalents (note 3) $ 4,537,633
Trade accounts receivable, less allowance for doubtful accounts of $1,384,415 3,695,990
Related party receivables 1,869,667
Unbilled receivables 1,107,501
Prepaid and other current assets 858,694
Deferred tax asset (note 10) 253,425
------------
Total current assets 12,322,910
Property and equipment (note 4) 7,253,113
Goodwill (note 5) 5,806,181
Intangibles- customer contracts (note 5) 2,053,288
Other assets 568,356
------------
Total assets $28,003,848
============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Trade accounts payable $4,254,759
Related party payables 564,818
Related party loan payable - short term portion (note 8) 543,568
Overdrafts and current portion of bank loans (note 7) 321,704
Notes payable (note 7) 808,441
Other current liabilities 1,091,470
Accrued expenses 2,808,073
Deferred IRU revenue (note 6) 46,000
Deferred other revenues 1,260,225
------------
Total current liabilities 11,699,058
Deferred tax liability (note 10) 253,425
Non-current portion of related party loan payable (note 8) 543,568
Non-current portion of bank loans (note 7) 747,085
Non-current portion of deferred IRU revenue (note 6) 797,334
Non-current portion of lease obligations (note 6) 148,359
------------
Total liabilities 14,188,829
Commitments and contingencies (note 13)
Stockholders' equity
Preferred stock, $.001 par value - Authorized 5,000,000 shares;
no shares issued or outstanding -
Common stock, $.001 par value - Authorized 35,000,000 shares;
issued and outstanding 5,342,533 shares 24,807
Additional paid-in capital 50,780,084
Accumulated deficit (35,982,726)
Accumulated other comprehensive (loss)/income 108,266
Treasury stock - 175,490 common shares, at cost (1,115,412)
------------
Total stockholders' equity 13,815,019
------------
Total liabilities and stockholders' equity $28,003,848
============
See accompanying notes to consolidated financial statements.
F-3
Euroweb International Corp.
Consolidated Statements of Operations and Comprehensive Loss
Years Ended December 31, 2004 and 2003
2004 2003
------------- -------------
(restated)
Revenues
Third party $ 28,111,786 $ 16,376,349
Related party 8,503,939 5,740,709
------------- -------------
Total Revenues 36,615,725 22,117,058
Cost of revenues (exclusive of depreciation and amortization
shown separately below)
Third party 17,233,994 8,155,836
Related party 6,198,505 5,796,350
------------- -------------
Total Cost of revenues (exclusive of 23,432,499 13,952,186
depreciation and amortization shown separately below)
Operating expenses
Compensation and related costs 4,182,977 2,814,868
Consulting, professional and directors fees 2,829,525 2,074,565
Other selling, general and administrative expenses 4,237,848 2,458,429
Goodwill impairment - 887,957
Impairment of intangibles - 100,364
Depreciation and amortization 2,610,764 1,636,133
------------- -------------
Total operating expenses 13,861,114 9,972,316
------------- -------------
Operating loss (677,888) (1,807,444)
Net interest (expense) income (217,672) 344,320
Other expenses (170,000) -
Gain from sale of
subsidiaries 28,751 109,621
Loss from continuing operations before income taxes (1,036,809) (1,353,503)
Income tax expense-current 62,367 61,590
Income tax expense-deferred - -
------------- -------------
Income tax expense 62,367 61,590
Loss from continuing operations (1,099,176) (1,415,093)
Gain (Loss) from discontinued Czech Republic operations 364,722 (375,934)
(including 2004 gain on disposal of $409,314)
Net loss (734,454) (1,791,027)
Other comprehensive income (loss) 133,768 (261,644)
------------- -------------
Comprehensive loss $(600,686) $(2,052,671)
============= =============
Loss per share, before discontinued operations (0.22) (0.30)
Discontinued operations 0.07 (0.08)
Net loss per share, basic (0.15) (0.38)
Weighted average number of shares outstanding 5,043,822 4,665,332
See accompanying notes to consolidated financial statements
F-4
EUROWEB INTERNATIONAL CORP.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 2004 and 2003
Accumulated
Additional Other TOTAL
Common Stock Paid-in Accumulated Comprehensive Treasury Stockholders'
Shares Amount Capital Deficit Gains(Losses) Stock Equity
---------- -------- ------------ ------------- -------------- ------------ ------------
Balances, December 31, 2002
(restated) 4,665,332 $24,129 $48,227,764 $(31,314,689) $ 236,142 (1,115,412) $16,057,934
========== ======== ============ ============= ============== ============ ============
Foreign currency translation gain - - - - (45,237) - (45,237)
Reversal of unrealized gain on
securities available for sale - - - - (216,407) - (216,407)
Net loss for the period (restated) - - - (1,791,027) - - (1,791,027)
Treasury stock - - - - - - -
---------- -------- ------------ ------------- -------------- ------------ ------------
Balances, December 31, 2003
(restated) 4,665,332 $24,129 $48,227,764 $(33,105,716) $(25,502) $(1,115,412) $14,005,263
========== ======== ============ ============= ============== ============ ============
Foreign currency translation gain - - - - 162,573 - 162,573
Reversal of unrealized gain on - - - - (28,805) - (28,805)
securities available for sale
Deemed distribution (Note
2q) - (2,142,556) (2,142,556)
Compensation charge on share - - 94,212 94,212
options issued to consultants
Issuance of shares (Elender Rt.
acquisition) 677,201 678 2,458,108 - - - 2,458,786
Net loss for the period - - - (734,454) - - (734,454)
---------- -------- ------------ ------------- -------------- ------------ ------------
Balances, December 31, 2004 5,342,533 $24,807 $50,780,084 $(35,982,726) $108,266 $(1,115,412) $13,815,019
========== ======== ============ ============= ============== ============ ============
See accompanying notes to consolidated financial statements
F-5
Euroweb International Corp.
Consolidated Statements of Cash Flows
Year Ended December 31, 2004 and 2003
------------------------------------------------------------------------------------------------------------------------------
2004 2003
-------------- -------------
(restated)
Net loss (734,454) (1,791,027)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization 2,610,764 1,636,133
Goodwill impairment - 887,957
Intangibles impairment - customer lists - 100,364
Amortization of discount on acquisition indebtedness - 5,232
Foreign exchange gain 11,430 101,134
Bad debts provision 238,807 120,859
Compensation expense charged to equity 94,212 -
Gain on sale of subsidiaries - (109,621)
Realized gain on sale of investment securities (26,383) (7,113)
Unrealized interest income on investment securities - (360,539)
Changes in operating assets and liabilities net of effects of acquisitions:
Accounts receivable (704,871) (708,675)
Prepaid and other assets 585,974 328,199
Accounts payable, other current liabilities and accrued expenses 339,036 825,499
Deferred revenue 128,311 320,268
Adjustments relating to discontinued operations (364,722) 128,621
-------------- -------------
Net cash provided by operating activities 2,178,104 1,477,291
-------------- -------------
Cash flows from investing activities:
Maturity of securities 11,464,000 798,567
Proceed on sale of subsidiaries 500,001 4,933
Acquisition of 51% of Euroweb Rt. (2,142,000) -
Acquisition of 100% of Elender Rt. (net of cash) (6,891,897) -
Payment of acquisition indebtedness - (180,000)
Collection on notes receivable 173,911 190,065
Repayment of loan payable - (129,945)
Capital expenditures in discontinued operations - (21,816)
Acquisition of property and equipment (1,701,990) (1,150,167)
-------------- -------------
Net cash provided by (used in) investing activities 1,402,025 (488,363)
-------------- -------------
Cash flows from financing activities:
Principal payment under capital lease obligations (544,876) (616,611)
Repayments on notes payable (807,447) -
Repayments on related party loan payable (249,597) -
Repayments on overdraft and bank loan (678,906) -
-------------- -------------
Net cash used in financing activities (2,280,826) (616,611)
-------------- -------------
Effect of foreign exchange rate changes on cash 233,652 72,238
-------------- -------------
Net (decrease) increase in cash and cash equivalents 1,532,955 444,555
Cash and cash equivalents, beginning of year 3,004,678 2,560,123
-------------- -------------
Cash and cash equivalents, end of year 4,537,633 3,004,678
============== =============
Supplemental disclosure:
Shares issued as consideration in acquisition of Elender Rt. $2,508,353 -
Interest paid $389,809 $158,306
Income taxes paid $62,367 $61,590
New capital leases $81,664 $378,855
See accompanying notes to consolidated financial statements.
F-6
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
1. Organization of Business
Euroweb International Corp. is a Delaware corporation which was organized on
November 9, 1992. The largest shareholder of Euroweb International Corp. was KPN
Telecom B.V. ("KPN"), a Netherlands corporation, with a 43.6% shareholding at
December 31, 2004.
Euroweb International Corp. owns and operates Internet service providers in
Hungary, Slovakia and Romania (collectively referred to as the "Company"). The
Company operates in one business segment. In January 2005 the Company decided to
sell its operations in Slovakia (see Note 17, Subsequent Events).
Acquisition of remaining 51% of Euroweb Hungary Rt ("Euroweb Rt.").
The Hungarian operations are conducted through Euroweb Rt. In February 2004, the
Company acquired the remaining 51% of Euroweb Rt. that it did not already own
from Pantel Telecommunication Rt. ("Pantel Rt.") and Euroweb Rt. is fully
consolidated in the financial statements for all periods presented (see Note 2
(q) below).
The consideration paid by the Company for the 51% interest comprised EUR
1,650,000 (USD $2,105,000) in cash, and a guarantee that Euroweb Hungary Rt.
will purchase at least HUF 600 million (approximately $3 million) worth of
services from Pantel Rt. in each of the three years ending December 31, 2006.
Acquisition of Elender Business Communications Rt. ("Elender Rt.")
On June 9, 2004, the Company acquired all of the outstanding shares of Elender
Rt., an Internet Service Provider ("ISP") located in Hungary. Consideration paid
of USD $9,350,005 consisted of USD $6,500,000 in cash and 677,201 of the
Company's common shares valued at USD $2,508,353 excluding registration cost,
and USD $341,652 in transaction costs (consisting primarily of professional fees
incurred related to attorneys, accountants and valuation advisors). The results
of Elender Rt. have been included in the Company's consolidated financial
statements from the date of acquisition.
In accordance with the purchase method of accounting prescribed by SFAS No. 141
"Business Combinations" ("SFAS 141"), the Company allocated the consideration to
the tangible net assets and liabilities and intangible assets acquired, based on
their estimated fair values. The consideration has been allocated as follows:
Fair value of Elender Rt.'s recorded assets acquired and
liabilities assumed 1,379,404
Identified intangibles - customer contracts 2,730,420
Excess purchase price over allocation to identifiable
assets and liabilities (Goodwill) 5,240,181
------------
Total Consideration $ 9,350,005
============
F-7
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
In performing this purchase price allocation of acquired intangible assets based
in part on the valuation performed by an independent appraiser, the Company
considered its intention for future use of the assets, analyses of historical
financial performance and estimates of future performance of Elender Rt.'s
services, among other factors. Acquired identifiable intangible assets obtained
in the Company's acquisition of Elender Rt. relate to customer contracts which
are being amortized over the estimated useful life of 2.5 years.
The Company estimated the fair values of the identified intangibles - customer
contracts using the "income" valuation approach and discount rates ranging from
14% to 18%. The discount rates selected were based in part on the Company's
weighted average cost of capital and determined after consideration of the
Company's rate of return on debt and equity, and the risk associated with
achieving forecasted cash flows.
The excess of the purchase price over the fair value of the identifiable
tangible and intangible net assets acquired was assigned to goodwill. In
accordance with SFAS No. 142 "Goodwill and Other Intangible Assets" ("SFAS
142"), goodwill will not be amortized but will be tested for impairment at least
annually.
Although the former owners of Elender Rt. received shares of common stock of the
Company, each of the former owners of Elender Rt. currently holds less than 10%
of the outstanding shares of common stock in the Company. Therefore, they are
not considered related parties and those transactions are shown as third party
transactions in the accompanying consolidated financial statements of the
Company.
Sale of Euroweb Czech
On December 16, 2004, the Company sold all of its shares in its wholly-owned
subsidiary, Euroweb Czech for cash of $500,000. However, as a part of the
transaction, the Company effectively forgave $400,000 of loans receivable from
Euroweb Czech. The Company believes that the sale of Euroweb Czech meets the
criteria for presentation as a discontinued operation under the provisions of
Statements of Financial Accounting Standard ("SFAS") No. 144, "Accounting for
the Impairment or Disposal of Long-Lived Assets, therefore all periods are
restated to reflect Euroweb Czech Republic as discontinued operations.
The following unaudited pro-forma information presents a summary of consolidated
results of operations of the Company, as if the acquisition of Elender Rt., the
disposal of Euroweb Czech, and the planned disposal of Euroweb Slovakia (see
Note 17 Subsequent Events), had occurred at January 1, 2003.
December 31, 2004 December 31, 2003
Revenues $43,341,912 $39,686,446
Net Loss ($2,408,146) ($2,741,788)
Net Loss per share ($0.45) ($0.51)
The above unaudited pro forma summarized results of operations are intended for
informational purposes only and, in the opinion of management, are neither
indicative of the financial position or results of operations of the Company had
the acquisition and disposals actually taken place as of January 1, 2004 or
2003, nor indicative of the Company's future results of operations. The above
unaudited pro forma summarized results of operations do not include potential
cost savings from operating efficiencies or synergies that may result from the
Company's acquisition of Elender Rt.
F-8
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
2. Summary of Significant Accounting Policies and Practices
(a) Principles of consolidation and basis of presentation
The consolidated financial statements comprise the accounts of the Company and
its controlled subsidiaries. All material inter-company balances and
transactions have been eliminated upon consolidation and all adjustments,
consisting mainly of normal recurring accruals necessary for a fair
presentation, have been made. The purchase of the remaining 51% of Euroweb
Hungary Rt. has been accounted in a manner similar to a pooling-of-interest with
prior periods being restated.
The consolidated financial statements have been prepared in accordance with
generally accepted accounting principles in the United States of America ("U.S.
GAAP").
(b) Use of estimates
The preparation of consolidated financial statements requires management to make
a number of estimates and assumptions that affect the reported amounts of assets
and liabilities and the disclosure of contingent assets and liabilities at the
date of the consolidated financial statements and the reported amounts of
revenues and expenses during the reporting period. Significant items subject to
such estimates and assumptions made by the Company include the period of benefit
and recoverability of goodwill and other intangible assets. Actual results could
differ from those estimates.
(c) Fair value of financial instruments
The carrying values of cash equivalents, investment in debt securities, notes
and loans receivable, accounts payable, loans payable and accrued expenses
approximate fair values.
(d) Revenue recognition
Revenue Recognition--The Company applies the provisions of SEC Staff Accounting
Bulletin ("SAB") No. 104, Revenue Recognition in Financial Statements, which
provides guidance on the recognition, presentation and disclosure of revenue in
financial statements filed with the SEC. SAB No. 104 outlines the basic criteria
that must be met to recognize revenue and provides guidance for disclosure
related to revenue recognition policies. In general, the Company recognizes
revenue related to its billable services when (i) persuasive evidence of an
arrangement exists, (ii) services have been rendered, (iii) the fee is fixed or
determinable and (iv) collectibility is reasonably assured. Generally, these
criteria are met monthly as the Company's service is provided on a
month-to-month basis and collection for the service is generally made within 30
days of the service being provided.
Billable services revenues are recognized in the period in which fees are fixed
or determinable and the related services are provided to the user. When the
Company's subscribers pay in advance for services, revenue is recognized ratably
over the period in which the related services are provided. Advance payments
from users are recorded on the balance sheet as deferred revenue. In
circumstances where payment is not received in advance, revenue is only
recognized if collectibility is reasonably assured.
F-9
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
Access revenues consist of monthly fees charged to customers for dial-up
Internet access services. Access revenues also consist of fees charged for
high-speed, high-capacity access services including digital subscriber lines
("ADSL") and leased lines. Voice revenue relates to the transmission of voice
information in digital form in discrete packets. Revenues are recognized on a
monthly basis based on usage.
Data revenue refers to the provision of leased lines to business customers.
Revenues are derived from monthly fixed fees and are recognized in the month
earned.
Domain registration revenue is usually billed in advance for a period of between
0-2 years. It is recorded as deferred revenue on the balance sheet and is taken
into income monthly on a straight-line basis.
Web design relates to services performed for customers who require assistance
with setting up a web page. Revenue is recognized once the final product has
been accepted by the customer. Any work-in-progress is classified as ,,other
assets" on the balance sheet. Hosting revenues consist of fees earned by leasing
server space and providing web services to companies and individuals wishing to
present a web or e-commerce presence. Revenues are derived from monthly fixed
fees and are recognized in the month earned.
Revenues from prepaid calling card sales are recognized when the customer uses
the cards and are based on the ratio of actual minutes used to minutes
purchased. Once the prepaid calling cards expire, any remaining prepaid amounts
are recognized as revenues.
In 2002, the Company entered into an agreement to provide transmission capacity
to a customer pursuant to an indefeasible rights-of-use agreement ("IRU"). Since
the Company's IRU does not involve a transfer of title and other factors,
management believes the agreement does not qualify for up-front sales treatment
despite collection in full of the $920,000 arrangement fee. The Company has
accounted for this transaction as an operating lease under Financial Accounting
Standards Board Interpretation No. 13, "Accounting for Leases" ("FAS 13"). This
accounting has resulted in a substantial amount of deferred revenue being
recorded on the balance sheet. Revenue attributable to the transaction is being
recognized on a straight-line basis over the term of the 20-year lease agreement
(monthly $3,833).
The Company is also obligated to maintain its network in efficient working order
and in accordance with industry standards. The customer is obligated for the
term of the agreement to pay for their allocable share of the costs for
operating and maintaining the network.
(e) Cost of revenues (excluding depreciation and amortization)
Cost of revenues (excluding depreciation and amortization) comprise principally
of telecommunication network expenses, costs of content services and cost of
leased lines and are recognized as incurred.
(f) Foreign currency translation
The Company considers the United States Dollar ("US$") to be the functional
currency of the U.S. entity and unless otherwise stated, the respective local
currency to be the functional currency of its subsidiaries. The reporting
currency of the Company is the US$ and accordingly, all amounts included in the
consolidated financial statements have been translated into US$.
F-10
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
The balance sheets of subsidiaries are translated into US$ using the year end
exchange rates. Revenues and expenses are translated at average rates in effect
for the periods presented. The cumulative translation adjustment is reflected as
a separate component of shareholders' equity, "other comprehensive income
(loss)", on the consolidated balance sheet for Euroweb Hungary, Euroweb Romania
and Euroweb Slovakia. Until December 31, 2003 the Company considered Romania a
highly inflationary economy (under SFAS 52) and, therefore the U.S. dollar was
used as the functional currency, with resulting gains/losses on translation
being charged directly to the Statement of Operations.
Foreign currency transaction gains and losses are also included in the
consolidated results of operations for the periods presented.
(g) Cash and cash equivalents
Cash and cash equivalents at December 31, 2004 include cash at bank and
short-term deposits of less than three months duration.
(h) Investment in securities
Investments in marketable debt securities are classified as available-for-sale
and are recorded at fair value with any unrealized holding gains or losses
included as a component of other comprehensive income until realized.
Investments with remaining maturities of greater than one year are classified as
long-term, while those with remaining maturities of less than one year are
classified as short-term. A decline in the market value of available-for-sale
securities below cost that is deemed to be other-than-temporary temporary
results in a reduction in the carrying value amount to fair value. Such
impairment is charged to earnings and a new cost basis for the security is
established. In assessing whether an impairment is other-than-temporary, the
Company considers several factors including, but not limited to, the ability and
intent to hold the investment, reason and duration for the impairment and
forecasted performance of the investee.
(i) Property and equipment
Property and equipment are stated at cost, less accumulated depreciation.
Equipment purchased under capital lease is stated at the present value of
minimum lease payments at the inception of the lease, less accumulated
depreciation. The Company provides for depreciation of equipment using the
straight-line method over the shorter of estimated useful lives of up to four
years or the lease term. Total depreciation from continuing operations for the
years ended December 31, 2004 and 2003 was $ 1,933,632 and $1,569,224
respectively.
Recurring maintenance on property and equipment is expensed as incurred.
Any gain or loss on retirements and disposals are included in the results of
operations.
F-11
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
(j) Goodwill and Intangibles
Goodwill results from business acquisitions and represents the excess of
purchase price over the fair value of net assets acquired. Amortization was
computed over the estimated future period of benefit (generally five years) on a
straight-line basis until December 31, 2001. On January 1, 2002 the Company
adopted Statement of Financial Accounting Standard No. 142 ("SFAS 142"),
"Goodwill and Other Intangible Assets," which establishes that goodwill and
intangible assets acquired in a business combination and that have indefinite
useful lives are no longer amortized but rather are tested at least annually for
impairment. The first step of this test requires the Company to compare the
carrying value of any reporting unit that has goodwill to the estimated fair
value of the reporting unit. When the current fair value is less than the
carrying value, the Company performs the second step of the impairment test.
This second step requires the Company to measure the excess of the recorded
goodwill over the current value of the goodwill by performing an exercise
similar to a purchase price allocation, and to record any excess as an
impairment.
Intangible assets that have finite useful lives (whether or not acquired in a
business combination) are amortized over their estimated useful lives but also
reviewed for impairment in accordance with FASB No. 144 "Accounting for
Impairment or Disposal of Long Lived Assets". Intangibles currently consist of
customer contracts which were acquired as a result of a purchase of assets and
are being amortized over the estimated future period of benefit of 2.5 years.
The assessment of recoverability and possible impairment are determined using
estimates of undiscounted future cash flows, if an impairment has occurred. The
Company then measures impairment based on the amount by which the carrying value
of the customer lists exceeds its fair market value. Fair market value is
determined primarily using the projected future cash flows discounted at a rate
commensurate with the risk involved.
(k) Net loss per share
The Company has adopted Statement of Financial Accounting Standards No. 128,
"Earnings per Share," ("SFAS No. 128"), which provides for the calculation of
"basic" and "diluted" earnings per share. Basic earnings (loss) per share
include no dilution and is computed by dividing income(loss) attributable to
common stockholders by the weighted average number of common shares outstanding
for the period. Diluted earnings (loss) per share reflects the potential effect
of common shares issuable upon exercise of stock options and warrants in periods
in which they have a dilutive effect. The Company had potentially dilutive
common stock equivalents for the years ended December 31, 2004 and 2003, which
were not included in the computation of diluted net loss per share because they
were antidilutive.
(l) Comprehensive income
Comprehensive income includes all changes in equity except those resulting from
investments by, and distributions to, owners. All items that are required to be
recognized under current accounting standards as components of comprehensive
income are required to be reported in a financial statement that is displayed
with the same prominence as other financial statements. The Company has chosen
to present a Combined Statement of Operations and Comprehensive Loss.
F-12
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
(m) Business segment reporting
The Company's operations fall into one industry segment: providing Internet
access and additional value added services to business customers. Substantially
all of the Company's revenues are derived from the provision of such services.
The Company manages its operations, and accordingly determines its operating
segments, on a geographic basis. Consequently, the Company has three operating
segments: Euroweb Hungary, Euroweb Romania, and Euroweb Slovakia.
(n) Income taxes
Income taxes are accounted for under the asset and liability method. Deferred
tax assets, net of appropriate valuation allowances, and liabilities are
recognized for the future tax consequences attributable to differences between
the financial statement carrying amounts of existing assets and liabilities and
their respective tax bases and operating loss and tax credit carry-forwards.
Deferred tax assets and liabilities, if any, are measured using enacted tax
rates expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred tax
assets and liabilities of a change in tax rates is recognized in income in the
period that includes the enactment date.
(o) Stock-Based compensation
The Company applies the intrinsic value-based method of accounting prescribed by
Accounting Principles Board ("APB") Opinion No. 25, "Accounting for Stock Issued
to Employees," and related interpretations including FASB Interpretation No. 44,
"Accounting for Certain Transactions involving Stock Compensation, an
interpretation of APB Opinion No. 25" to account for its fixed plan stock
options. Under this method, compensation expense is recorded on the date of
grant only if the current market price of the underlying stock exceeds the
exercise price. SFAS No. 123, "Accounting for Stock-Based Compensation," ("SFAS
No. 123") and FASB Statement No. 148, ,,Accounting for Stock-Based Compensation
- Transition and Disclosure, an amendment of FASB Statement No. 123"established
accounting and disclosure requirements using a fair value-based method of
accounting for stock-based employee compensation plans. As allowed by existing
standards, the Company has elected to continue to apply the intrinsic
value-based method of accounting described above, and has adopted the disclosure
requirements of SFAS No. 123, as amended.
Under the accounting provisions of SFAS No. 123, the Company's 2004 and 2003 net
loss and net loss per share would have been increased to the pro forma amounts
indicated below:
2004 2003
(restated)
Net loss:
Net loss as reported $(734,454) $(1,791,027)
Compensation expense (943,164) (110,482)
Pro forma net loss (1,677,618) (1,901,509)
Basic and diluted loss per share:
As reported $ (0.15) $ (0.38)
Pro forma (0.33) (0.41)
F-13
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
(p) Recently Issued Accounting Standards
In December 2004, the FASB issued SFAS No. 123 (revised 2004), Share-Based
Payment. SFAS No. 123(R) requires an entity to recognize the grant-date fair
value of stock options and other equity-based compensation issued to employees
in the income statement, but expresses no preference for a type of valuation
model. For small business issuers, the Statement is effective as of the
beginning of the first interim or annual reporting period that begins after
December 15, 2005. Early adoption is encouraged for interim or annual periods
for which financial statements or interim reports have not been issued. The
Company is currently assessing the impact SFAS 123(R) may have on its financial
statements.
In December 2004, the FASB issued SFAS No. 153, Exchanges of Nonmonetary Assets:
an amendment of APB Opinion No. 29, which is part of the short-term
international convergence project between the FASB and IASB. SFAS 153 eliminates
a company's ability to use the similar productive assets concept to account for
nonmonetary exchanges at book value without recognizing a gain. Nonmonetary
exchanges will have to be accounted for at fair value, with gain or loss
recognized, if the transactions meet a commercial-substance criterion and fair
value is determinable. SFAS 153 is effective for nonmonetary asset exchanges in
fiscal periods beginning after June 15, 2005, and early application is permitted
for nonmonetary asset exchanges occurring in fiscal periods beginning after
December 16, 2004. The Company is currently assessing the impact SFAS 153 may
have on its financial statements.
In December 2004 the Financial Accounting Standards Board ("FASB") issued SFAS
No. 151, Inventory Costs, which amends Chapter 4, Inventory Pricing, of
Accounting Research Bulletin No. 43, Restatement and Revision of Accounting
Research Bulletins. The Statement was issued as a result of the FASB's and
International Accounting Standards Board's ("IASB") joint project to improve the
comparability between U.S. and international accounting standards. SFAS 151
eliminates the so abnormal criterion in ARB 43 and requires companies to
recognize abnormal freight, handling costs, and amounts of wasted material
(spoilage) as current-period charges. Additionally, the Statement clarifies that
fixed production overhead cost should be allocated to inventory based on the
normal capacity of the production facility. SFAS 151 is effective for inventory
costs incurred during annual periods beginning after June 15, 2005. The Company
is currently assessing the impact SFAS 151 may have on its financial statements.
FASB Statement No. 150, Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity, was issued in May 2003. This
Statement establishes standards for the classification and measurement of
certain financial instruments with characteristics of both liabilities and
equity. The Statement also includes required disclosures for financial
instruments within its scope. For the Company, the Statement was effective as of
January 1, 2004, except for mandatory redeemable financial instruments. For
certain mandatorily redeemable financial instruments, the Statement will be
effective on January 1, 2005. The effective date has been deferred indefinitely
for certain other types of mandatorily redeemable financial instruments. The
Company currently does not have any financial instruments that are within the
scope of this Statement.
On April 30, 2003, the FASB issued FASB Statement No. 149, Amendment of
Statement 133 on Derivative Instruments and Hedging Activities, which amends
FASB Statement No. 133, Accounting for Derivative Instruments and Hedging
Activities, to address (1) decisions reached by the Derivatives Implementation
Group, (2) developments in other Board projects that address financial
instruments, and (3) implementation issues related to the definition of a
derivative. The Company does not believe that FAS 149 will have any impact on
its financial statements.
F-14
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
(q) Business Combination following the "as-if" pooling-of-interest method of
accounting
On February 12, 2004, the Company entered into a Share Purchase Agreement with a
related party, Pantel Rt. ("Pantel") to acquire the remaining 51% of Euroweb
Hungary shares that the Company did not already own. Pantel's majority
shareholder is also KPN. As this was a transaction between entities under common
control (at the date of the acquisition, KPN owned 50.17% of the voting common
shares of the Company and 75% of the voting common shares of Pantel Rt.), the
transaction was recorded in a manner similar to a pooling-of-interest, and
accordingly the historical consolidated financial statements have been restated
to include the financial position, results of operations and cash flows of
Euroweb Hungary for all periods presented. Since the purchase consideration was
in excess of Euroweb Hungary's book value by $2,142,556 it is accounted for as a
distribution to KPN which resulted in a deduction from retained earnings at the
closing of the transaction. There were no intercompany transactions requiring
elimination in any period.
3. Cash Concentration
All cash and cash equivalents are held in current accounts as of December 31,
2004. Approximately $2.4 million is held in the United States, and approximately
$228,000 is held in United States dollars in Romania, Slovakia and Hungary.
Approximately $39,000 is held in Romania in Euro. The remaining amounts are held
in local currency in Romania, Slovakia, and Hungary.
4. Property and equipment -
Property and equipment as at December 31, 2004 comprise the following:
2004 Useful Life
---- -----------
Software $ 1,406,167 3 years
Internet equipment 8,168,003 3 years
Fibre optic cables-Romania 1,280,484 20 years
Vehicles 528,344 4-5 years
Other 1,209,190 3-5 years
------------
Total 12,592,188
Less accumulated depreciation (5,339,075)
------------
$ 7,253,113
============
F-15
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
5. Goodwill and Acquired Intangible Assets
Goodwill and acquired intangible assets as at December 31, 2004 comprise the
following:
2004
----
Customer contracts (Elender Rt.) 2,730,420
Less accumulated amortization-Customer contracts (677,132)
-----------
$2,053,288
===========
Goodwill 13,447,287
Less impairment -Goodwill (5,004,426)
Less accumulated amortization-Goodwill (2,636,680)
-----------
$5,806,181
===========
Customer contracts
Most (approximately 87%) of the Customer contracts relate to an Elender Rt.
contract to provide internet access to schools in Hungary. The remaining items
are leased line contracts of Elender Rt. These contracts are being amortized
over a period of 2.5 years from the date of acquisition (June 2004).
Goodwill and Impairment Charges
The Gross book value of Goodwill relates to the following reporting units under
SFAS 142: Euroweb Romania ($2,455,223), Euroweb Slovakia ($4,413,173), and
Euroweb Hungary ($6,578,891). The Goodwill of Euroweb Slovakia was fully
impaired by December 31, 2003, and the Goodwill of Euroweb Romania had been
impaired down to $566,000. The Goodwill relating to Euroweb Hungary arose on the
acquisition of Elender Rt. ($5,240,181) which has now been merged into Euroweb
Hungary Rt. and is considered as one reporting unit for purposes of SFAS 142.
The other Goodwill of $1,338,710 relating to Euroweb Hungary arose from several
acquisitions and had been fully impaired by December 31, 2003.
At the beginning of 2005 the Company performed its annual impairment test
relating to the goodwill as of December 31, 2004. The Company compared the fair
value of the reporting units (Euroweb Romania and Euroweb Hungary) to their
carrying amounts, noting that in each case the fair value was higher than the
carrying amount, and that no impairment charge was required.
In 2003 impairments of $563,000 for Euroweb Slovakia, $324,957 for Euroweb
Romania, and $92,581 for Euroweb Czech were recorded. The 2003 Euroweb Czech
impairment is included in the `loss from discontinued operations' line item in
the accompanying Consolidated Statement of Operations.
The net book value of goodwill of $5,806,181 as of December 31, 2004 relates to
Euroweb Romania ($566,000) and Euroweb Hungary ($5,240,181).
F-16
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
6. Leases
Capital leases
The Company is committed under various capital leases, which expire over the
next three years. The amount of assets held under capital leases included in
property and equipment is as follows:
2004
----
Leased Internet equipment gross value 128,560
Leased vehicles gross value 355,791
----------
Total gross book value leased assets 484,351
Less accumulated depreciation (90,570)
----------
Total net book value leased assets $393,781
==========
The following is a schedule of future minimum capital lease payments (with
initial or remaining lease terms in excess of one year) as of December 31, 2004:
2005 284,463
2006 94,201
2007 54,159
----------
Total minimum lease payments 432,823
Less interest costs (37,086)
----------
Present value of future minimum lease payments 395,737
Less: current installments (247,378)
----------
Non-current portion of lease obligations $148,359
==========
The current portion of lease obligations are included in `Other current
liabilities' on the Balance Sheet.
Operating leases
The Company's subsidiary in Slovakia (as Lessee) has a five year non-cancelable
lease agreement for office premises. Remaining minimal rental payments total
approximately $380,000; $138,000 in each of 2005 and 2006, and $104,000 in 2007.
F-17
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
The Company's subsidiary in Hungary (as Lessee) has a seven year non-cancelable
lease agreement for office premises. Remaining minimal rental payments total
approximately EUR 1,282,176; EUR 320,544 in each of 2005, 2006, 2007 and 2008.
In 2002, the Company (as Lessor) entered into a twenty year Indefeasible Right
of Use agreement to provide transmission capacity and collected the $920,000
lease payment in full in the same year (Note 2(d)).
7. Bank loans, overdraft, and notes payable
On June 1, 2004, Elender Rt. (which has now been merged with Euroweb Hungary
Rt.) entered into a bank loan agreement with Commerzbank (Budapest) Rt. The
agreement consists of a loan facility of HUF 300 million (approximately $1.67
million) of which approximately $1,070,000 was outstanding at December 31, 2004.
The loan is being repaid in quarterly installments of HUF 14.5 million
(approximately $80,000), commencing November 30, 2004. The interest rate is
BUBOR (Budapest Interbank Offered Rate) + 1.35%.
In addition, the bank also provided an overdraft facility of HUF 150 million
(approximately $830,000) to Elender Rt. The Company did not need to utilize this
facility as at December 31, 2004. The interest rate is BUBOR (Budapest Interbank
Offered Rate) + 1%.
Notes payable of approximately $808,000 relate to outstanding liabilities to
three previous shareholders of Elender Rt.: Vitonas Investments Limited, Certus
Kft. and Rumed 2000 Kft. The outstanding amount is payable in four equal
quarterly installments of HUF 36.438 million (approximately $202,000), with the
final payment on December 31, 2005.
8. Related party loan payable
During 2002 Pantel Rt., a related party, provided a loan of HUF 245,000,000
(approximately $ 1.36 million using 2004 exchange rate) to a subsidiary of the
Company. The loan bears interest at a rate of 13% and is repayable in five equal
installments from December 2004 semi-annually until the end of 2006. The
year-end balance reflects the payment made in December 2004.
9. Discontinued Operations and disposal of subsidiaries
On December 16, 2004, the Company sold all of its shares in its wholly-owned
subsidiary, Euroweb Czech for cash of $500,000. However, as a part of the
transaction, the Company effectively forgave $400,000 of loans receivable from
Euroweb Czech. The Company believes that the sale of Euroweb Czech meets the
criteria for presentation as a discontinued operation under the provisions of
Statements of Financial Accounting Standard ("SFAS") No. 144, "Accounting for
the Impairment or Disposal of Long-Lived Assets, therefore all periods are
restated to reflect Euroweb Czech Republic as discontinued operations. The
Company recognized a gain of approximately US $409,000 on the sale of Euroweb
Czech.
On April 13, 2004, the Company sold its 100% shareholding in Neophone Rt. (a
non-operational subsidiary) for approximately $60,000, realizing a gain of
$28,751. In 2003, Euroweb Hungary sold two subsidiaries for approximately $
5,000. A gain of $ 109,621 was recorded on the sales due to the fact that both
subsidiaries had net liabilities at the time of sale.
F-18
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
10. Income taxes
Deferred Tax Assets and Liabilities
Upon the acquisition of Elender Rt., the Company recognized a net Deferred Tax
Liability of $294,005 related to the excess of fair value of net assets over
carrying values. As most of the excess relates to the recognition of customer
contracts (Note 5) which is being amortized over a period of 2.5 years from
acquisition, the Deferred Tax Liability is being reduced proportionately.
$83,576 was expensed in 2004. Elender Rt. had tax loss carryforwards of
approximately $1.9 million (resulting in a potential Deferred Tax Asset of
$312,005) which could be carried forward post acquisition. An amount up to the
value of the Deferred Tax Liability ($294,005) was recognized as a Deferred Tax
Asset at acquisition and the remaining deferred tax asset of $18,000 is covered
by a valuation allowance (subsequent recognition of the benefits of this
valuation allowance will be credited against Goodwill from the Elender
acquisition). This amount has been reduced at year-end to $253,425.
The deferred income tax expense of zero in 2004 is a result of a $83,576
deferred income tax benefit due to the excess of acquisition of Elender Rt., and
is offset by a deferred income tax expense of $83,576 to reduce Deferred Tax
Assets.
The loss from continuing operations before income taxes by tax jurisdiction for
the years ended December 31 2004 and 2003 was as follows:
2004 2003
------------ ------------
Loss from continuing operations
before income taxes:
Domestic $(1,670,486) (1,370,658)
Foreign 633,677 17,155
------------ ------------
Total $(1,036,809) $(1,353,503)
============ ============
The current income tax expense of $62,367 (2003: 61,590) is attributable to
income/loss from continuing operations and relates entirely to current foreign
tax.
F-19
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
The difference between the total expected tax expense (benefit) and tax expense
for the years ended December 31, 2004 and 2003 is accounted for as follows:
2004 2003
Amount % Amount %
--------- ------ -------- ------
Computed expected tax
Benefit $(352,515) (34.00) $(460,191) (34.00)
Foreign Tax Rate Differential 696,053 67.13 50,922 3.76
Utilization of net operating losses
not previously recognized (55,732) (5.38) (51,529) (3.81)
Change in tax rates - - 194,390 14.36
Non-deductible expenses 17,178 1.66 333,383 24.63
Change in Valuation Allowance (242,617) (23.40) (5,385) (0.40)
--------- ------ --------- ------
Total Expense $62,367 6.02% $61,590 4.55%
========= ====== ========= ======
The change in the tax rates in 2003 results from the fact that the corporate tax
rate in Hungary was 18% for 2003 and prior years, but in 2003, the Hungarian
parliament enacted a tax rate of 16% for 2004 and subsequent years. The net
impact of the change in tax rates has no material impact on the financial
statements as the Company has provided a full valuation allowance for deferred
tax assets (see below).
The tax effects of temporary differences that give rise to significant portions
of deferred tax assets at December 31, 2004 and 2003 are as follows:
2004 2003
----------- -----------
Deferred Tax Assets:
Net Operating Loss Carryovers $5,328,292 $5,241,133
Other - 76,351
Capital Loss Carryovers - 63,801
----------- -----------
Gross Deferred Tax Assets 5,328,292 5,381,385
Valuation Allowance (5,074,867) (5,381,385)
----------- -----------
Net Deferred Tax Assets 253,425 -
Deferred Tax Liabilities (Intangibles) (253,425) -
----------- -----------
Net Deferred Tax Assets $ - $ -
=========== ===========
F-20
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
The valuation allowance was $6,384,117 at January 1, 2003. During 2004, the
valuation allowance decreased by $306,518, while during 2003 it decreased by
$1,002,732.
The Company has unused net operating loss carryforwards at December 31, 2004 of
approximately $20 million available to offset future taxable income. Of this
amount, approximately $10 million of losses that arose in the first three years
of operation in Hungary can be carried forward indefinitely based on current
Hungarian Tax Legislation. Of the remaining $10 million of losses, $1.9 million
expire in various years from 2005-2010, $1.6 million expires in 2011, and the
remaining $6.5 million expire in various years from 2016 through 2024. The Tax
Acts of some jurisdictions contain provisions which may limit the net operating
loss carryforwards available to be used in any given year if certain events
occur, including significant changes in ownership interests. The Company has not
assessed the impact of these provisions on the availability of Company loss
carryovers since the deferred tax assets are fully offset by the valuation
allowance.
In assessing the realizability of deferred tax assets, management considers
whether it is more likely than not that some portion or all of the deferred tax
assets will not be realized. The ultimate realization of deferred tax assets is
dependent upon the generation of future taxable income during the periods in
which those temporary differences and tax loss carryforwards become deductible.
Management considers the scheduled reversal of deferred tax liabilities,
projected future taxable income and tax planning strategies in making this
assessment. Based upon the level of historical taxable income and projections
for future taxable income over the periods in which the deferred tax assets are
deductible, management believes that it is more likely than not that the Company
will realize the benefit of these deductible differences, net of existing
valuation allowances at December 31, 2004.
11. Stockholders' Equity
On April 28, 2004, the Company granted 125,000 options to the Chief Executive
Officer and an additional 195,000 options to five employees and 45,000 options
to two consultants of the Company (see Note 14(a)). As the Company follows APB
25 with respect to accounting for grants made to employees, no compensation
expense was recorded for the options granted to the Chief Executive Officer and
the five employees. However, the Company will recognize total compensation
charges of approximately $162,000 for the grants made to the two consultants,
which will be expensed over the vesting period of three years (compensation
expense for the year ended December 31, 2004 was $94,212).
In connection with the acquisition of Elender Rt. (Note 1), the Company issued
677,201 of common shares. The Company is in the process of registering these
common shares.
12. Related party transactions
General: The largest customer of the Company since early 2001 has been Pantel
Rt. ("Pantel"), a Hungary-based alternative telecommunications provider. As at
December 31, 2004, KPN was the majority owner of Pantel and the largest
shareholder of the Company. Pantel operates within the region and has become a
significant trading partner for Euroweb Romania through the provision of a
F-21
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
direct fiber cable connection, which enables companies to transmit data to a
variety of destinations by utilizing the international connections of Pantel.
Due to the increase in revenues from International/domestic leased line and VOIP
services provided in conjunction with Pantel, some of the representatives of the
Company work at the premises of Pantel in order to improve the effectiveness of
the co-operation on international projects and daily operational issues. Csaba
Toro, Chief Executive Officer of Euroweb International Corp., was also the Chief
Executive Officer of Pantel until February 2003. Euroweb Hungary and Euroweb
Romania have engaged in transactions with Pantel:
(a) Pantel provides the following services to the subsidiaries of the Company:
- Internet bandwidth
- National leased and telephone lines within Hungary
- VOIP services
- Consulting services
The total amount of these services purchased from Pantel was $6,198,505 during
2004 (2003: $5,796,350). Additionally, consulting services amounted to $292,864
in 2003, there was no such services in 2004. In 2004, Pantel Rt. charged
interest of $154,761 (2003: zero).
(b) The Company and its subsidiaries provided the following services to Pantel:
- International leased lines and local loops in Hungary and Romania
- International IP and VOIP services
- Certain consultants are hired by the Company, but also work on projects for
Pantel. In these cases, Pantel is recharged a portion of the consulting fees
The total value of these services sold was approximately $8,503,939 in 2004
(2003: $5,740,709).
Direct sales to Pantel were 23% of total consolidated revenue in 2004 (2003:
26%). However, the dependency on Euroweb Romania on Pantel is even more
significant. Some third party sales involve Pantel as the subcontractor/service
provider for the international/domestic lines, and some third party customers
were introduced to the Company by Pantel (i.e. their relationship with Pantel is
stronger than their relationship with Euroweb Romania).
Effective dependency on Pantel: Direct sales to Pantel and Pantel-related sales
represent approximately 30% of total consolidated revenues of the Company and
approximately 80% of total sales of Euroweb Romania. There is no such sales
dependency in the case of Euroweb Hungary and Euroweb Slovakia.
Pricing: Agreements are made at market prices or a portion of the margin based
on the financial investment into the specific services by each of the parties.
The Company considers alternative suppliers for individual projects, when
appropriate.
There were no other significant related party transactions in 2004 or 2003.
F-22
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
13. Commitments and Contingencies
(a) Employment Agreements
A fixed-term employment agreement with the Chief Executive Officer which
provided for aggregate annual compensation of $96,000 through December 31, 2005
was amended in 2004. The amended agreement provides for an annual salary of
$200,000 and a bonus of up to $150,000 in each of 2005 and 2006, as well as an
annual car allowance of $30,000.
Two fixed-term employment agreements for Officers of the Company provide for an
aggregate monthly compensation of $ 18,750 until December 31, 2005.
(b) Lease agreements
The Company's subsidiaries have entered into various capital leases for vehicles
and internet equipment, as well as non-cancelable agreements for office
premises. Refer to Note 6 (Leases).
(c) 20 years' usage rights
In 2002, Euroweb Romania provided an Indefeasible Right of Use for transmission
capacity on 12 pairs of fiber (see Note 6) over a period of 20 years, commencing
in 2003. For the duration of the agreement, Euroweb Romania is obliged to use
all reasonable endeavours to ensure the Cable System is maintained in efficient
working order and in accordance with industry standards.
(d) Legal Proceedings
There are no known significant legal procedures that have been filed and are
outstanding against the Company.
(e) Elender Rt. acquisition
On June 9, 2004 the Company acquired all of the outstanding shares of Elender
Business Communications Rt., a leading ISP in Hungary, for USD 6,500,000 in cash
and 677,201 of the Company's shares of common stock. Under the terms of this
agreement, the Company has placed 248,111 unregistered shares of newly issued
(in the name of the Company) common stock with an escrow agent as security for
approximately $1.5 million loans payable to former shareholders of Elender. The
shares will be returned to the Company from escrow once the outstanding loans
have been fully repaid. However, if there is a default on the outstanding loan,
then the shares will be issued to the other party and the Company is then
obliged to register these shares.
F-23
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
Pursuant to section 1 of the Registration Rights Agreement signed on June 1,
2004 with the Sellers of Elender Rt., if the shares of the Company's common
stock were not registered within 120 days of Closing (Closing was on June 9,
2004) for reasons attributable to the Company, a penalty of $ 2,000 per day is
payable until the shares are registered. The Company is in the process of
registering the shares of common stock issued in connection with the Elender Rt.
acquisition. The Company has made a provision of $170,000 to accrue for
potential penalties under this Clause until December 31, 2004.
(f) Euroweb Hungary Rt. purchase guarantee
In February 2004, the remaining 51% of Euroweb Hungary Rt. was purchased from
Pantel Rt. The Consideration paid by the Company for the 51% interest consisted
of EUR 1,650,000 (USD $2,105,000) in cash, and a purchase commitment that
Euroweb Hungary Rt. will purchase at least HUF 600 million (approximately $3
million) worth of services from Pantel Rt. in each of 2004-2006. In the event
that Euroweb Hungary and its subsidiaries do not satisfy this commitment, Pantel
Rt. may charge a penalty equal to 25% of the commitment amount less any services
purchased. Purchases in 2004 exceeded this amount.
(g) Indemnities provided upon sale of subsidiaries
On April 13, 2004, the Company sold its 100% shareholding in Neophone Rt. (a
non-operational subsidiary) for approximately $60,000. Under the terms of the
sale the Company has indemnified the Buyer for any unaccrued costs, fines,
penalties and lawsuits which relate to a period prior to the sale. No claims
have been made to date.
Under the terms of the sale agreement for Euroweb Czech (see Note 9), the Buyer
has a right to make claims against the Company for up to $200,000 under
representation and warranties provisions of the sale agreement. This provision
is applicable for claims made within 12 months of closing. No claims have been
made to date.
14. Stock Option Plan and Employee Options
a) Stock Option Plan
The Company's Stock Option Plan expired in 2003, although unexpired options
issued under this Plan are exercisable until expiry. At December 31, 2004,
options for 26,000 (December 31, 2003: 46,000) Common Stock were outstanding and
exercisable (by the Chief Executive Officer) under this Stock Option Plan.
In 2004, the Board of Directors established the "2004 Incentive Plan" or "the
Plan", with an aggregate of 800,000 shares of common stock authorized for
issuance under the Plan. The Plan provides that incentive and nonqualified
options may be granted to key employees, officers, directors and consultants of
the Company for the purpose of providing an incentive to those persons. The Plan
may be administered by either the Board of Directors or a committee of two
directors appointed by the Board (the "Committee"). The Board or Committee
determines, among other things, the persons to whom stock options are granted,
the number of shares subject to each option, the date or dates upon which each
option may be exercised and the exercise price per share.
F-24
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
Options granted under the Plan are generally exercisable for a period of up to
ten years from the date of grant. No Option shall be transferable, except by
will or the laws of descent and distribution. Incentive options granted to a
Principal Stockholder must have an exercise price of not less than 110% of the
fair market value of the underlying stock on the date of the grant. The Company
will not grant a nonqualified option with an exercise price less than 85% of the
fair market value of the underlying common stock on the date of the grant.
Under the Plan, the Company on April 26, 2004 granted 125,000 options to the
Chief Executive Officer and an additional 195,000 options to five employees and
45,000 options to two consultants of the Company. All of these options have an
exercise price equal to the market price on day of grant ($4.78), vest over a
period of between 3-4 years and relate to future services to be performed. As
the Company follows APB 25 with respect to accounting for grants made to
employees, no compensation expense will be recorded for the options granted to
the Chief Executive Officer and the five employees. However, the Company will
recognize total compensation charges of approximately $162,000 for the grants
made to the two consultants, which is being expensed over the vesting period of
three years.
(b) Other Options
The Company has issued exercisable options pursuant to employment agreements. As
of December 31, 2004 (and 2003) fully vested options are outstanding and
exercisable for 63,000 shares pursuant to the employment agreement with the
Chief Executive Officer. The options were granted on April 2, 1999 (with
exercise price equal to stock price at date of grant) and expire on April 2,
2005. The options are exercisable at $ 10.00 per share.
On October 13 2003, the Company granted two Directors 100,000 options each, at
an exercise price (equal to the fair value on that day) of $4.21 per share, with
25,000 options vesting on each April 13 of 2004-2007.
(c) Accounting for stock-based options
SFAS No. 123, "Accounting for Stock-Based Compensation," ("SFAS No. 123"),
requires the Company to provide pro forma information regarding net income and
earnings per share as if compensation cost for the Company's stock options had
been determined in accordance with the fair value-based method prescribed in
SFAS No. 123. The Company estimates the fair value of each stock option at the
grant date by using the Black-Scholes option-pricing model.
The amount calculated as total compensation expense under SFAS No. 123 is
$632,766 for the 200,000 options granted to directors on October 13, 2003, and
$1.3 million for the 365,000 options granted on April 26, 2004 (calculated at
grant date using Black-Scholes valuation model with volatility of 88%, interest
rate of 4%, expected life of 6 years and a no-dividend assumption). Under the
accounting provisions of SFAS No. 123, this compensation expense is recorded
over the vesting period of the options (3-4 years) and the Company's 2004 and
2003 net loss and net loss per share would have increased to the pro forma
amounts indicated below:
F-25
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
2004 2003
(restated)
Net loss:
Net loss as reported $(734,454) $(1,791,027)
Compensation expense (943,164) (110,482)
Pro forma net loss (1,677,618) (1,901,509)
Basic and diluted loss per share:
As reported $ (0.15) $ (0.38)
Pro forma (0.33) (0.41)
The following table summarizes the total number of shares for which options have
been issued (Stock Option Plan, 2004 Incentive Plan, Employment Agreements and
grants to Directors) and are outstanding:
2004 2003
------------------- -------------------
Weighted Weighted
average average
exercise exercise
Options Price Options Price
--------- --------- --------- --------
Outstanding, January 1, 309,000 $5.95 124,500 $9.00
Granted 365,000 4.78 200,000 4.21
Cancelled - - - -
Expired (20,000) 5.00 (15,500) 7.65
--------- --------- --------- --------
Outstanding, December 31, 654,000 5.33 309,000 5.95
========= ========= ========= ========
250,250 options are outstanding and exercisable at December 31, 2004 (2003:
109,000)
The 200,000 options granted to Directors in 2003 are exercisable as follows:
50,000 exercisable on each April 14 of 2004, 2005, 2006, and 2007. The 365,000
options granted on April 26, 2004 are exercisable as follows: 111,250 options on
November 1, 2004, 111,250 options on each of October 1, 2005, and October 1,
2006, and 31,250 options on October 1, 2007. The remaining 89,000 options
outstanding as at December 31, 2004 are all exercisable as at December 31, 2004.
No options were exercised in 2004 and 2003.
At December 31, 2004 the range of exercise prices and weighted average remaining
contractual life of outstanding options was $4.21 - $10.47 and 5.93 years,
respectively.
15. Stock Warrants
As at December 31, 2003 the total number of shares for which warrants have been
issued and are exercisable (at $ 11 per share) was 10,000. These warrants
expired unexercised on May 2, 2004. No warrants were issued in 2004.
16. Geographic information
F-26
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
The Company's operations fall into one industry segment: providing Internet
access and additional value added services to business customers. The Company
manages its operations, and accordingly determines its operating segments, on a
geographic basis. Consequently, the Company has three operating segments:
Euroweb Hungary, Euroweb Romania, and Euroweb Slovakia. The performance of
geographic operating segments is monitored based on net income or loss from
operations (before income taxes, interest, and foreign exchange gains/losses).
The accounting policies of the segments are the same as those described in the
summary of accounting policies in Note 2. There are no inter-segment sales
revenues.
The following tables summarize financial information by geographic segment for
the year ended December 31, 2004 and 2003:
Geographic information for 2004
Slovakia Romania Hungary Corporate Total
3rd party revenues 3,827,738 5,637,991 18,646,057 - $28,111,786
Pantel related revenues - 7,999,011 504,928 - 8,503,939
Total revenues 3,827,738 13,637,002 19,150,985 - 36,615,725
Depreciation 185,758 626,564 1,119,262 2,048 1,933,632
Intangible amortization
(customer contract) - - 677,132 - 677,132
Interest income 32,857 24,437 95,539 49,154 201,987
Interest expense 8,718 30,571 380,370 - 419,659
Net interest (expense)
income 24,139 (6,134) (284,831) 49,154 (217,672)
Income tax 31,275 31,092 - - 61,590
Net loss 313,754 (53,704) (97,317) (897,187) (734,454)
Fixed assets, net 234,557 2,195,881 5,274,303 - 7,704,741
Fixed asset additions 76,807 985,492 639,691 - 1,701,990
Goodwill - 566,000 5,240,181 5.806.181
Geographic information for 2003
Slovakia Romania Hungary Corporate Total
3rd party revenues 3,424,633 4,539,215 8,412,501 - $16,376,349
Pantel related revenues - 5,633,864 106,845 - 5,740,709
Total revenues 3,424,633 10,173,079 8,519,346 - 22,117,058
Depreciation 328,182 466,853 841,098 - 1,636,133
Intangible impairment - 100,364 - - 100,364
Goodwill impairment 563,000 324,957 - - 887,957
Interest income 18,990 3,934 82,012 390,349 495,285
Interest expense 28,269 24,333 93,132 5,231 150,965
Net interest (expense)
income (9,279) (20,399) (11,120) 385,118 344,320
Income tax - 61,590 - - 61,590
Net loss (457,092) (399,232) (214,967) (719,736) (1,791,027)
Fixed assets, net 326,788 1,575,851 879,385 - 2,782,024
Fixed asset additions 94,954 752,848 310,270 - 1,158,072
Goodwill - 566,000 - - 566,000
F-27
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
Goodwill and related impairment amounts are recorded in the books of the
Corporate entity and allocated to reporting units. The Gain/Loss on discontinued
operations is included in the Corporate Net Loss.
17. Subsequent events
(a) Status of Pantel Rt. as a related party
On February 28, 2005, it was announced that the sale of KPN NV's 75.1% interest
in the Pantel business to the Hungarian Telephone and Cable Corp. had been
completed. Therefore, Pantel is no longer considered a related party effective
March 1, 2005.
(b) Euroweb Slovakia
In January 2005, the Company decided that the operations of Euroweb Slovakia
were no longer considered part of the core assets of the Company. In light of
this decision, the Company, in January 2005, approached a potential buyer
interested in acquiring internet service providers in Slovakia. The Company is
currently negotiating the sale of Euroweb Slovakia with this potential buyer.
The Company intends to treat Euroweb Slovakia as a discontinued operation for
purposes of US GAAP reporting in future periods, with appropriate restatement of
comparative prior period amounts. The following table presents the carrying
amounts of the major classes of assets and liabilities of Euroweb Slovakia as at
December 31, 2004:
2004
----
Current assets 1,480,522
Long-term assets 234,557
Total assets $1,715,079
Current liabilities 1,244,310
Long-term liabilities 6,701
Total liabilities $1,251,011
Net equity $464,068
F-28
Euroweb International Corp.
Notes to Consolidated Financial Statements
December 31, 2004 and 2003
(c) Announced sale of the Company's shares by KPN
Pursuant to a Stock Purchase Agreement dated as of January 28, 2005, between KPN
Telecom B.V. (the largest shareholder of the Company), and CORCYRA
d.o.o.("CORCYRA"), CORCYRA purchased 289,855 shares of the Company's common
stock from KPN Telecom B.V. and has also agreed to purchase KPN Telecom B.V.'s
remaining shares of the Company's common stock by April 30, 2006.
(d) Potential acquisition
In March 2005, the Company signed a Letter of Intent relating to a potential
acquisition. The finalisation of the transaction terms is subject to the
completion of due diligence procedures (currently underway) and agreement on
terms which will be detailed in a formal purchase agreement. The purchase
consideration, if the transaction goes ahead, is expected to comprise a
combination of cash and Company stock.
(e) New Stock options
On March 22nd, 2005 the Board of Directors decided to grant two new directors
100,000 stock options each under the 2004 Incentive Plan. These stock options
are exercisable as follows: 50,000 exercisable on each September 22 of 2005,
2006, 2007, and 2008.
F-29