Pink Sheets

Teltronics (website, sec) is a telecom equipment maker [pause to let the horror of that sink in] whose stock price jumped but is now deflating as telecom stocks tend to do. The ask is 48 cents right now.

10-K for the period ending Dec 31, 2004
Incorporated in Delaware. Offices in Sarasota, FL.
8,636,539 shares of stock as of Nov 14, 2005. 803K options outstanding. 870K more can be issued.
Executives and Directors own 40.7% of the stock. The largest shareholder is actually Sr VP of Business Development and not the CEO.

Three reporting segments: Teltronics, Teltronics Ltd of UK ("UK"), and Mexico.

TELC has defaulted on Note Payable to Tri-Link Technologies (a composite products mfger) going back to Nov 2003! Submitted to arbitration. Tri-Link is demanding $426K and 1.35 million shares of TELC stock. Teltronics issued a $750K letter of credit to Tri-Link and postponed arbitration until Sept 2005.

A mezzanine financier sold 12,625 shares of TELC preferred B stock (with unconditional right to elect a director at any time, which Finova didn't exercize) to FGC Holdings (actually just Peter Friedmann) and Teltronics refused to register the transfer (legal complaint), arguing that TELC already has 5 members on the board of directors and can't make any changes until the shareholders' meeting. In 2004 (before TELC was informed about the transfer), TELC mailed out a proxy nominating 5 directors, but didn't mention anything about the right of Series B stockholders. Looks like Teltronics management lost.

TELC is looking for additional capital.

In the 1980s, Teltronics created "Intelligent Systems Management", which was a network management system for voice. Now it's been adapted for voice and data. ISM consists of remote agents and an MIS (this is not rocket science, it's very much like SNMP which is probably fairly mature at this point). TELC "Site Event Buffer-II" has been working for 10 years, 100,000 units installed. Q4 2002 FCS of a new update, Site Event Buffer Enterprise Agent (added SNMP). Recently added NET-PATH. The big competitor is Ion Network, Inc. which is a public company, IONN, on OTC BB (sec).

The customers are: Verizon, NextiraOne (Williams), Sprint, MCI, BellSouth. TELT maintains dedicated sales force for these major customers. About a 1 year sales cycle more or less for product integration.

Also, created a digital switching system, 20-20 Switching Systems (June 2000 acquisition). A variant is used by FAA in ground-air, ground-ground communications. Homologated in 60 countries. Supports SS7 and ISDN signalling.

Sales are strong outside the US.

VoIP softswitch switching system (Linux based, just like the computer I'm using to type this) for medium-size enterprises: both legacy PSTN interface and IP network interface. I worked in product development in this area about 15 years ago. I believe this is a bad business for these people to be in due to eventual consolidation and the inevitable driving down of margins.

Teltronics supports the usual PBX type features plus some other fancy stuff.

Here's the good stuff: Teltronics has a complete E911 solution for VoIP systems, including businesses with PBXs. Installations in over 900 PSAPs around the US. Based on the recent FCC ruling requiring E911 for VoIP, this is important, but only if they drive it aggressively in the marketplace to avoid getting overtaken by others.

They have a sufficient number of bargaining chips, I mean patents, in the digital switching area. They also have 5 US patents for Emergency 911 call station identification.

Also OmniWorks (acquired with 20-20) for telemarketers. Seems well featured, but this whole area is of dubious customer value, in my opinion. Maybe it will take-off worldwide in place like India/China? For now, it has zero value.

Manufacturing in Sarasota, FL. R&D expenses have slowly decreased from 2002 (downsizing). 245 employees.

Ewen R. Cameron: CEO since 1993. 32 years of industry experience. SRH plc (Euro telecom, can't find anything about it). Owns 9.7% of the common stock.

Russel R. Lee III: CFO since 2004. Formerly CFO of SinoFresh HealthCare, resperatory business. Also CFO of Gencor Industries (GNCI, sec). Joined Gencor in 1990. But there were accounting irregularities in 1999 in the UK subsidiary. Russel R. Lee III was treasurer at that point.

Peter G. Tuckerman, VP Product Management. Joined in 1977. Owns 1% of the common stock.

Robert B. Ramey: VP Manufacturing. Owns 2% of the common stock.

Compensation is not insanely high.

Norman R. Dobiesz owns 19.4% of the business, but has controlling voting interest via 100% of the Preferred Series A stock. Sr. VP of Business Development.

Directors and executives own 40.7% of the business.

Big customers:

• New York City Dept of Education: 14% (was 17% and 23% in prior years)
• IBM: 12% (was 14% and 17% in prior years)
• Nielsen Media Research: 10% (was 13% in prior year)

Also the NY Dept of Corrections and Federal Bureau of Prisons.

Revenue:
2001: $64 million
2002: $54 million
2003: $47 million
2004: $46 million
Based on the first 9 months, 2005 is looking to be down to $40 million. Gross profit is running about the same as 2004. Operational income in 9 months of 2005 is $919K vs $1.2 million. But non-operating gains is way up and interest costs are down. But I'm getting ahead of myself here.

The decrease in net sales for the year ended December 31, 2004 was primarily the results of; (1) the lingering slow down of the domestic telecommunications market which resulted in Teltronics net sales decreasing by $2.6 million, and (2) an increase of $1.8 million in net sales from our newly acquired UK Subsidiary. The decrease in net sales for the year ended December 31, 2003 was primarily attributable to a slowdown in the telecommunications market as evidenced by a decrease in net sales to our four largest customers of approximately $4.6 million or 16.6%.

In 2004, gross margins were about 40%, up from 39% in 2003, 36% in 2002.

Operating expenses were 37.6% of sales in 2004 vs 42.4% in 2003 and 41.5% in 2002.

Operating income:
2001: ($4.6 million)
2002: ($3.0 million)
2003: ($1.6 million)
2004: $951K
So far in 2005, it's $919K for 9 months (but it was a $226K LOSS in most recent quarter)

They would have a net loss in 2004 if not for a $1.2 million gain on sale of patents.

The gain on sale of patents of $1.2 million was related to the sale of 20-20™ patents previously acquired from Harris Corporation in 2000 that were sold back to Harris in August 2004 in exchange for past due principal and interest on the Company's debt owed to Harris.

Share count:
2001: 4.9 million
2002: 5.5 million
2003: 7.3 million
2004: 7.8 million
November 14, 2005: 8.6 million

Revenue recognition is normal, but some of the revenue is based on turnkey contracts (revenue recognized as customer accepts deliverables). For customers with only final acceptance criteria, revenue is recognized under either completed contract method or percentage-of-completion method depending on the right to progress payments and to approve services performed to-date based on contract requirements.

Maintenance revenue is recognized ratably over the maintenance period. The unrecognized part is deferred revenue. Costs are recognized on the earlier of 1) when costs are incurred, 2) when the related revenue is recognized.

Multi-deliverable revenue (product, installation, and training) is based on EITF 00-21 (also here, but this is better). The relevant determination is whether the stand-alone deliverables have value to the customer (and none are software). There must be some rational method for determining stand-alone value. Also, the [required] right of return of various parts puts a limit on how much revenue can be recognized at the intermediate milestones. Based on what I read, this doesn't seem to be a great fit for EITF 00-21 or SOP 81-1. But I'm not sure, it's fairly complicated.

The audit opinion has a going concern qualifier.

The balance sheet has a $6 million shareholder deficit on $16 million in assets (reality is probably closer to $15 million in assets and an $7 million deficit). The current ratio is less than 1.

Net income (without the gain on sale of patents) would be ($688K) loss. Plus there's a required $624K dividends on preferred stock.

Cash flow from ops is $1.6 million (with $2 million depreciation). Capex was $255K. Operations has pretty much provided cash every year back to 2002. Much of the preferred dividends were not paid ($469K in 2004, $401K in 2003).

Capitalized software is depreciated over 5 years.

Warranties are 3 months to 18 months depending on product. Payments made:
2002: $339K
2003: $137K
2004: $135K
Balance at the end of 2004 was $192K.

AR allowance was $290K (of $5.8 million) in 2004, $266K (of $3.8 million) in 2003. It's not surprising that the percentage dropped in 2004.

Costs and estimated earnings table for 2004 looks sane. The numbers are fairly low. 2003 looks ok from what I can tell.

Inventory reserves were $880K on $3.9 million of overall inventory. The writeoffs have been fairly large in prior years, but never significantly more than the reserve balance at the beginning of the year (was slightly more in 2002). Writeoffs have been in the $1 million range.

$18 million in PP&E, depreciated down to $3.7 million.

Intangibles:
customer list: $202K (5 year life)
patents: $178K (14.6 year life) (sold $42K book value of patents for a $2.1 million gain)
customer contracts and relationships: $432K (7 years)
Amortization: $329K

Maturities:
due 2005: $4.8 million
due 2006: $7.8 million
due 2007: $67K
due 2008: $8K

They've been fairly pathetic in paying off debt, swapping a lot of stuff for equity/warrants pushing stuff out into the future.

Preferred Series A stock: owned by director and Sr VP of Business Development, giving voting control of the business. Limited rights of transfer.

Preferred Series B stock: $16 per share annual dividend increasing to $18 per share in 2004 and $20 per share in 2005. The 12,625 shares can be converted to 721K shares of common. Company can redeem at face value plus accrued unpaid dividends. Total of $170K unpaid in arrears.

Preferred Series C convertable: $10 per share annual dividend, increasing to $20 in 2007. The 40K shares can be converted to 1.45 million shares of common. Total of $700K unpaid in arrears.

Common stock: 7,874,539 shares on March 28, 2005

Warrants: 1.2 million shares at $1.00.

Options: 1.6 million at 88 cents with 6.4 years left on ave.

I would assume some serious dilution in the future of about 2 million shares.

NOLs of $7.5 million remaining.

During 2004, an entity controlled by a Director loaned the company $350K (short term). Yeah, I saw that in cash flows from financing. Later on, a director loaned the company $750K at 15% interest.

Almost all of the revenues are from Teltronics, with a small amount from the "UK" subsidiary and even less from the Mexico subsidiary. Other stuff seems allocated rationally (finance, assets, capex, etc).

The UK and Mexico subsidiaries make a respectable profit.

E&Y auditors. 2003: $231K audit fees. $7.6K other fees.
Kirkland, Russ, Murphy & Tapp, P.A. were the independent public accountants for 2004. $90K fee. Clearwater, FL. Reptron Electronics (RPRN, sec) just selected them. They don't have any important legal proceedings in their 10-K.