PARETEUM Corp - Quarter Report: 2008 June (Form 10-Q)

Item 1. Consolidated Financial Statements 

 

ELEPHANT TALK COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS

 

		June 30, 2008			December 31, 2007
		(Unaudited)
ASSETS
CURRENT ASSETS
Cash and cash equivalents		$	3,745,568		$	4,366,312
Restricted cash			23,301			23,266
Accounts receivable, net			5,763,535			4,438,224
Earnest Deposits			549,037			442,853
Prepaid expenses and other current assets			294,348			372,331
Due from related parties			17,731			18,514
Total Current Assets			10,393,520			9,661,500
PROPERTY AND EQUIPMENT – NET			3,396,046			3,484,224
INTANGIBLE ASSETS, NET			11,773,692			11,462,504
TOTAL ASSETS		$	25,563,258		$	24,608,228
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES
Bank Overdraft		$	209,763		$	197,815
Accounts payable and customer deposits			6,248,467			4,857,229
Deferred revenue			219,383			93,661
Accrued expenses and other payable			1,856,399			3,011,267
Management shares to be issued			5,261,428			4,974,199
Shares to be issued			—			13,280,866
Advances from third parties			279,136			201,191
Loans payable			875,052			875,432
Convertible promissory note - related party			—			6,484,063
Due to related parties			—			115,241
Total Current Liabilities			14,949,628			34,090,964
MINORITY INTEREST			171,144			231,575
COMMITMENT AND CONTINGENCIES
STOCKHOLDERS' EQUITY (DEFICIT)
Preferred stock Class B, no par value, 50,000,000 shares authorized, none issued and outstanding			—			—
Common stock, no par value, 250,000,000 shares authorized, 43,622,886 and 9,530,637 issued and outstanding for June 30, 2008 and December 31, 2007 respectively			43,722,333			17,868,448
Deferred Compensation			(482,986	)		—
Accumulated Comprehensive gain			2,651,420			1,437,073
Accumulated deficit			(35,448,281	)		(29,019,832	)
Total Stockholders' Equity (Deficit)			10,442,486			(9,714,311	)
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)		$	25,563,258		$	24,608,228
The accompanying notes are an integral part of the unaudited consolidated financial statements

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ELEPHANT TALK COMMUNICATIONS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENT OF OPERATIONS AND COMPREHENSIVE LOSS

(UNAUDITED)

 

		For the three months periods  June 30						For the six months periods June 30
		2008			2007			2008			2007
REVENUE		$	11,921,290		$	12,509,839		$	23,678,570		$	23,680,454
COST OF REVENUE (including depreciation and amortization of $545,476 and $1,104,376 for the three and six months ended June 30, 2008, and $464,467 and $927,996 for the three and six months ended June 30, 2007)			12,119,100			12,371,174			24,090,511			23,561,013
GROSS PFOFIT/(LOSS)			(197,810	)		138,665			(411,941	)		119,441
OPERATING EXPENSES
Selling, general and administrative			1,664,504			1,479,806			3,421,503			2,632,732
Non-cash compensation			228,585			4,686,968			390,072			4,686,968
Depreciation and amortization			206,249			52,392			321,805			102,238
Total Operating Expenses			2,099,338			6,219,166			4,133,380			7,421,938
LOSS FROM OPERATIONS			(2,297,148	)		(6,080,501	)		(4,545,321	)		(7,302,497	)
OTHER INCOME (EXPENSE)
Interest income			20,710			26,294			36,463			28,496
Interest expense			(398,494	)		(193,338	)		(769,071	)		(369,982	)
Other expense			(7,761	)		(6,673	)		(8,969	)		(7,901	)
Total Other Expense, net			(385,545	)		(173,717	)		(741,577	)		(349,387	)
LOSS BEFORE INCOME TAXES AND MINORITY INTEREST			(2,682,693	)		(6,254,218	)		(5,286,898	)		(7,651,884	)
Provision for income taxes			—			—			800			800
LOSS BEFORE MINORITY INTEREST			(2,682,693	)		(6,254,218	)		(5,287,698	)		(7,652,684	)
Minority interest			(30,232	)		(5,664	)		(59,249	)		(7,963	)
NET LOSS			(2,652,461	)		(6,248,554	)		(5,228,449	)		(7,644,721	)
OTHER COMPREHENSIVE INCOME
Foreign currency translation gain (loss)			103,715			(484,279	)		1,214,347			(463,146	)
COMPREHENSIVE LOSS		$	(2,548,746	)	$	(6,732,833	)		(4,014,102	)		(8,107,867	)
Net loss per common share and equivalents - basic and diluted		$	(0.152	)	$	(0.793	)	$	(0.306	)		(0.955	)
Weighted average shares outstanding during the period - basic and diluted			16,726,734			8,490,637			13,108,807			8,490,637
The accompanying notes are an integral part of the unaudited consolidated financial statements

 

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ELEPHANT TALK COMMUNICATIONS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(UNAUDITED)

 

		For the six months periods ended June 30,
		2008			2007
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss		$	(5,228,449	)	$	(7,644,721	)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization			1,426,181			1,030,234
Shares issued for consulting services			4,514			—
Amortization of stock option expense			390,072			4,686,968
Minority interest			(59,249	)		110,469
Changes in operating assets and liabilities:
Decrease (increase) in accounts receivable			(975,575	)		(959,790	)
(Increase) decrease in prepaid expenses, deposits and other assets			10,427			(28,418	)
Increase (decrease) in accounts payable, proceeds from related parties and customer deposits			982,368			4,183,407
Increase (decrease) in accrued expenses and other payable			300,675			(2,474,135	)
Net cash used in operating activities			(3,149,036	)		(1,095,986	)
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment			(489,102	)		(714,551	)
Restricted cash			1,588			(20,213	)
Earnest deposit on acquisitions, net			—			(241,883	)
Cash received from acquisition of subsidiary			—			382,439
Net cash used in investing activities			(487,514	)		(594,208	)
CASH FLOWS FROM FINANCING ACTIVITIES:
Cash overdraft			12,044			12,420
Received from investors			3,306,372			—
Placement Fees			(462,867	)		—
Proceeds from bank loans			(38,011	)		—
Proceeds from note payable			—			635,190
Proceeds from sale of shares			15,937			1,889,000
Proceeds from related parties			—			6,646
Payments to related parties			—			(19,147	)
Net cash used in financing activities			2,833,475			2,524,109
EFFECT OF EXCHANGE RATES ON CASH AND CASH EQUIVALENTS			182,331			(363,036	)
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS			(620,744	)		470,879
CASH AND CASH EQUIVALENTS, BEGINNING OF THE PERIOD			4,366,312			332,001
CASH AND CASH EQUIVALENTS, END OF THE PERIOD		$	3,745,568		$	802,880
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid during the period for interest		$	35,968		$	48,308
Cash paid during the period for income taxes		$	800		$	800
The accompanying notes are an integral part of the unaudited consolidated financial statements

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ELEPHANT TALK COMMUNICATIONS, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued)

(UNAUDITED)

		For the six months periods ended June 30,
		2008			2007
SUPPLEMENTAL DISCLOSURES OF NON-CASH INVESTING & FINANCING ACTIVITIES:
Shares issued to convert the notes payable to related parties and accrued interest		$	7,939,171		$	—
Deemed Dividend as a result of loss on conversion of the above Note to related party		$	1,200,000		$	—

 

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ELEPHANT TALK COMMUNICATIONS, INC. AND SUBSIDIARIES

NOTES TO THE UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS

NOTE 1     Organization and Nature of Operations

Elephant Talk Communications, Inc. (herein referred to as “Elephant Talk,” “ETCI” or “Company,” formerly known as Staruni Corporation), incorporated on February 5, 1962 under the laws of the state of California as Altius Corporation, was involved in the manufacturing of freeway signs. In March 1997, Altius acquired Starnet Universe Internet, Inc., a web developer and Internet Service Provider (ISP) and changed its name to Staruni Corporation. On January 4, 2002, Staruni Corporation merged with Elephant Talk Limited, a company incorporated in Hong Kong, and filed a Certificate of Amendment of Articles of Incorporation to amend the corporate name to Elephant Talk Communications, Inc. This name change was done in conjunction with the merger and to emphasize that the Company’s new focus is the business of Elephant Talk Limited.

On January 1, 2007, the Company completed its acquisition of Elephant Talk Communications Holding AG, formerly known as Benoit Telecom Holding AG (herein referred to as “Benoit Telecom”), an international telecom operator and multi-media distributor servicing primarily the business-to-business segment of the telecommunications and media market. Benoit Telecom offers a broad range of products and services based on the integration of telecom, VoIP, SMS, FAX, Conferencing and Streaming services all integrated with a Customer Relationship Management and Billing application.

Elephant Talk Caribbean was incorporated in the Netherlands on March 20, 2008 as a 100% subsidiary of Elephant Talk Global Holding B.V.. The issued capital amounts to € 18,000.00. The purpose of the Company is to act as the Joint Venture Partner of UTS N.V. in a specially to be created entity in Curacao, Netherlands Antilles.

ET-UTS NV was incorporated in Curacao, the Netherland Antilles, on April 9, 2008 as a subsidiary for 51% of Elephant Talk Caribbean B.V. and for 49% of the Joint Venture partner UTS N.V. The total issued capital amounts to US$ 100,000.00. Purpose of the Company is to design, install, maintain and exploit WIFI and WIMAX networks in the Caribbean area and Surinam, with the objective to provide in each of the Areas a complete range of services over such networks.

 

On December 28, 2007, our board of directors approved a 1-for-25 reverse stock split (the “Reverse Split”) of our outstanding common stock, no par value per share (the “Common Stock”). The Reverse Split was duly approved by a majority of our stockholders on January 15, 2008.   Pursuant to the Reverse Split, every twenty-five (25) shares of our issued and outstanding Common Stock as presently classified were, as of the open of business on June 11, 2008, reclassified and combined into one (1) whole post-split share of our Common Stock. No fractional shares of our Common Stock will be issued in connection with the Reverse Split. Any fractional shares were rounded up. There was not a corresponding reduction in our authorized Common Stock. The Reverse Split was effected at the open of business on June 11, 2008 (the “Record Date”), and the post-split shares began trading on the OTC Bulletin Board at the opening of business on June 11, 2008 (the “Effective Date”). Our new symbol is ETAK. All references to share and per-share data for all periods presented have been adjusted to give effect to this reverse split.

 

ETCI until recently was engaged in the long distance telephone business in China and the Special Administrative Region Hong Kong. In 2006 the Company adopted the strategy to position itself as an international telecom operator and enabler to the multi-media industry by facilitating to the distribution of all forms of content and telecommunications services to various global customers. Through intelligent design and organizational structure the Company pursues this strategy by building a worldwide network based on both clear and IP bandwidth that is managed centrally by its proprietary IN-CRM-Billing platform.

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In January 2007, through the acquisition of various assets in Europe, the Company established a foothold in the European Telecommunications Market, particularly in the market of Service Numbers like Toll Free and Premium Rate Services and to a smaller extent Carrier Pre Select Services. Furthermore, through the human and IT resources thereby acquired, the company obtained expertise of telecom and multi-media systems, telecom regulations and European markets.

The Company currently operates a switch-based telecom network with national licenses and direct fixed line interconnects with the Incumbents/National Telecom Operators in eight (8) European countries, one (1) in the Middle East (Bahrain), licenses in Hong Kong and the U.S.A. and partnerships with telecom operators in Scandinavia, Poland, Germany, Greece and Hong Kong. Codec and media streaming servers are currently located in six centers geographically spread around the world. Together with the centrally operated and managed IN-CRM-Billing platform, the Company thus offers geographical, premium rate, toll free, personal, nomadic and VoIP numbers. Services are primarily provided to the business market and include traditional telecom services, VOIP, media streaming and distribution including the necessary billing and collection. Through its European and Chinese development centers, ETCI develops in-house telecom and media related systems and software.

In the third quarter of 2007 the Company finalized testing and commissioned additional national interconnects in the United Kingdom (British Telecom) and Bahrain (Batelco), further enlarging the Company’s footprint in fixed line infrastructure. In the Caribbean and the Middle East, the Company installed its first Wifi test sites, aimed at creating own broadband mobile access networks in emerging markets with relatively poor (or relatively expensive) infrastructures.

 

In Europe, a step was made towards building a mobile enabled infrastructure on top of the Company’s fixed line infrastructure by committing capital expenditure and implementation resources towards becoming a Mobile Virtual Network Enabler (MVNE).

NOTE 2     Financial Condition and Going Concern

The Company has an accumulated deficit of $35,448,281 including a net loss of $2,652,461 and $5,228,449 for the three and six months ended June 30, 2008. The Company has historically relied on a combination of debt and equity financings to fund its ongoing cash requirements. Management believes that its cash balance at June 30, 2008, cash generated from operations and committed funds in connection with a recent financing, will provide sufficient funds through at least December 31, 2008. 

In the light of the need to raise additional funds in the immediate short term, the Company has been focused on capital raising activities in addition to continuing to control operating costs, aggressively managing working capital and attempting to settle certain debt by the issuance of common shares.

In May 2008 the Company received Subscription Agreements as a result of a European Funding Round of approximately $7.3 million. As of the date of this filing, the Company has received $6.3 million of equity financing and expects to receive an additional $1.0 million in the period ending September 30, 2008 (see also Note 23 - Subsequent Events). 

In addition to the aforementioned financing activity, the Company intends to raise additional debt or equity financing if possible in order to fund cash requirements generated by future operations, capital expenditures and potential acquisitions.  Although the Company has previously been able to raise capital as needed, there can be no assurance that such capital would continue to be available at all or, if available, that the terms of such financing would not be dilutive to existing stockholders or otherwise on terms favorable to us. If the Company is unable to secure additional capital as circumstances require, it may not be able to continue its operations.

These financial statements assume that the Company will continue as a going concern. If the Company is unable to continue as a going concern, the Company may be unable to realize its assets and discharge its liabilities in the normal course of business. The financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or to the amounts and classification of liabilities that may be necessary should the Company be unable to continue as a going concern

NOTE 3     Significant Accounting Policies

Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements and related notes as included in the Company's 2007 Form 10-K. These consolidated financial statements should be read in conjunction with the audited consolidated financial statements of the Company for the year ended December 31, 2007 which were filed on April 15, 2008 with the Securities and Exchange Commission and are hereby referenced. In the opinion of management, the accompanying unaudited consolidated financial statements contain all adjustments (which include only normal recurring adjustments) considered necessary for fair presentation has been included.

 

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The results of operations for the three and six months ended June 30, 2008 are not necessarily indicative of the results to be expected for the entire year. Certain 2007 amounts have been reclassified to conform to current period presentation. These reclassifications have no effect on previously reported net income (loss).

Principles of Consolidation

The accompanying consolidated financial statements for the three and six months ended June 30, 2008 and December 31, 2007 included the accounts of Elephant Talk Communications, Inc., its wholly-owned subsidiary Elephant Talk Europe Holding B.V., its wholly-owned subsidiary Elephant Talk Communication Holding AG, its wholly-owned subsidiary Elephant Talk Communications S.L.U., its wholly-owned subsidiary Cardnet Clearing Services B.V., its wholly-owned subsidiary Elephant Talk Communication Austria GmbH, its wholly-owned subsidiary Vocalis Austria GmbH, its wholly-owned subsidiary Elephant Talk Communications Italy S.R.L., its wholly-owned subsidiary ET-Stream GmbH, its wholly-owned subsidiary Elephant Talk Communication Carrier Services GmbH, its wholly-owned subsidiary Elephant Talk Communication (Europe) GmbH, its wholly-owned subsidiary Elephant Talk Communication Schweiz GmbH, its majority owned (51%) subsidiary Elephant Talk Communications Premium Rate Services Netherlands B.V., its wholly-owned subsidiary Elephant Talk Communications France S.A.S., its majority owned (51%) subsidiary Elephant Talk Communications PRS U.K. Limited, its wholly-owned subsidiary Elephant Talk Communications Luxembourg SA, its wholly-owned subsidiary Elephant Talk Global Holding B.V., its wholly-owned subsidiary Elephant Talk Business Services W.L.L., its wholly-owned subsidiary Guangzhou Elephant Talk Information Technology Limited., its wholly-owned Elephant Talk Caribbean B.V., its majority owned (51%) subsidiary ET-UTS N.V., its wholly-owned subsidiary Elephant Talk Limited, its wholly-owned subsidiary Full Mark Technology Ltd., its wholly-owned subsidiary Jinfuyi Technology Limited, its majority owned (51%) subsidiary Elephant Talk Middle East & Africa (Holding) W.L.L., its majority owned (51%) subsidiary Elephant Talk Middle East & Africa (Holding) Jordan L.L.C., its majority owned (50.49%) subsidiary Elephant Talk Middle East & Africa Bahrain W.L.L and its majority owned (50.54%) subsidiary Elephant Talk Middle East & Africa FZ-LLC.

Foreign Currency Translation

The functional currency was Euros for its wholly-owned subsidiary Elephant Talk Europe Holding B.V. and subsidiaries, and Euro for its wholly-owned subsidiary Elephant Talk Global Holding B.V., and the Hong Kong Dollar for its wholly-owned subsidiary Elephant Talk Limited. The financial statements of the Company were translated to USD using period-end exchange rates as to assets and liabilities and average exchange rates as to revenues and expenses. Capital accounts were translated at their historical exchange rates when the capital transaction occurred. Net gains and losses resulting from translation of foreign currency financial statements are included in the statements of stockholder’s equity as other comprehensive income (loss). Foreign currency translation gains and losses are included in consolidated income (loss). The accumulated comprehensive gain as at June 30, 2008 and December 31, 2007 were $2,651,420 and $1,437,073, respectively. The foreign currency translation gain (loss) for the three months ended June 30, 2008 and 2007 was $103,715 and ($484,279), respectively. The foreign currency translation gain (loss) for the six months ended June 30, 2008 and 2007 were $1,214,347 and ($463,146) respectively.

Use of Estimate

The preparation of the accompanying financial statements conforms with accounting principles generally accepted in the United States of America and requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates and assumptions. 

 

Cash and Cash Equivalents

For purposes of the cash flow statements, the Company considers all highly liquid investments with original maturities of six months or less at the time of purchase to be cash equivalents.

Restricted Cash

Restricted cash represents cash deposited as bank guarantee for interconnects.

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Accounts Receivables, net

The Company’s customer base consists of a geographically dispersed customer base. The Company maintains reserves for potential credit losses on accounts receivable. Management reviews the composition of accounts receivable and analyzes historical bad debts, customer concentrations, customer credit worthiness, current economic trends and changes in customer payment patterns to evaluate the adequacy of these reserves. Reserves are recorded primarily on a specific identification basis. As of June 30, 2008 and December 31, 2007 the reserve for doubtful debts was $120,037 and $146,215, respectively.

Revenue Recognition, Cost of Revenue and Deferred Revenue

The Company's revenue recognition policies are in compliance with Staff accounting bulletin (SAB) 104. The Company derives revenues from activities as a fixed-line telecom provider with its own carrier network and its own switching technology. Revenue represents amounts earned for telecommunication services provided to customers (net of value added tax and inter-company revenue). Cost of revenues includes the cost of capacity associated with the revenue recognized within the corresponding time period, payments made to content providers and depreciation of network infrastructure and equipment

The Company recognizes revenue from prepaid calling cards as the services are provided. Payments received before all of the relevant criteria for revenue recognition are satisfied are recorded as deferred revenue. Cost of revenue includes the cost of capacity associated with the revenue recognized within the corresponding time period.

Deferred revenue represents amounts received from the customers against future sales of services since the Company recognizes revenue upon performing the services. Deferred revenue was $219,383 and $93,661 as of June 30, 2008 and December 31, 2007, respectively.

Reporting Segments

Statement of financial accounting standards No. 131, Disclosures about segments of an enterprise and related information (SFAS No. 131), which superseded statement of financial accounting standards No. 14, Financial reporting for segments of a business enterprise, establishes standards for the way that public enterprises report information about operating segments in annual financial statements and requires reporting of selected information about operating segments in interim financial statements regarding products and services, geographic areas and major customers. SFAS No. 131 defines operating segments as components of an enterprise about which separate financial information is available that is evaluated regularly by the chief operating decision maker in deciding how to allocate resources and in assessing performances. The Company allocates its resources and assesses the performance of its sales activities based upon geographic locations of its subsidiaries.

Stock-based Compensation

Effective January 1, 2006, the Company adopted Statement No.123R, Share-Based Payment (SFAS 123R), which requires companies to measure and recognize compensation expense for all stock-based payments at fair value. SFAS 123R is being applied on the modified prospective basis. Prior to the adoption of SFAS 123R, the Company accounted for its stock-based compensation plans under the recognition and measurement principles of Accounting Principles Board (APB) Opinion No.25, Accounting for Stock Issued to Employees, and related interpretations, and accordingly, recognized no compensation expense related to the stock-based plans. Under the modified prospective approach, SFAS 123R applies to new awards and to awards that were outstanding on January 1, 2006 that are subsequently modified, repurchased or cancelled.

Recently Issued Accounting Pronouncements 

In December 2007, the FASB issued SFAS No. 160, “Non-controlling Interests in Consolidated Financial Statements”, which is an amendment of Accounting Research Bulletin (“ARB”) No. 51.  This statement clarifies that a non-controlling interest in a subsidiary is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements.  This statement changes the way the consolidated income statement is presented, thus requiring consolidated net income to be reported at amounts that include the amounts attributable to both parent and the non-controlling interest.  This statement is effective for the fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008.  Based on current conditions, the Company does not expect the adoption of SFAS 160 to have a significant impact on its results of operations or financial position.

In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations.”  This statement replaces FASB Statement No. 141, “Business Combinations.” This statement retains the fundamental requirements in SFAS 141 that the acquisition method of accounting (which SFAS 141 called the purchase method) be used for all business combinations and for an acquirer to be identified for each business combination. This statement defines the acquirer as the entity that obtains control of one or more businesses in the business combination and establishes the acquisition date as the date that the acquirer achieves control. This statement requires an acquirer to recognize the assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree at the acquisition date, measured at their fair values as of that date, with limited exceptions specified in the statement. This statement applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. The Company does not expect the adoption of SFAS 141 to have a significant impact on its results of operations or financial position.

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In March, 2008, the FASB issued FASB Statement No. 161, “Disclosures about Derivative Instruments and Hedging Activities”. The new standard is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity’s financial position, financial performance, and cash flows. It is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The new standard also improves transparency about the location and amounts of derivative instruments in an entity’s financial statements; how derivative instruments and related hedged items are accounted for under Statement 133; and how derivative instruments and related hedged items affect its financial position, financial performance, and cash flows. FASB Statement No. 161 achieves these improvements by requiring disclosure of the fair values of derivative instruments and their gains and losses in a tabular format. It also provides more information about an entity’s liquidity by requiring disclosure of derivative features that are credit risk-related. Finally, it requires cross-referencing within footnotes to enable financial statement users to locate important. Based on current conditions, the Company does not expect the adoption of SFAS 161 to have a significant impact on its results of operations or financial position.

In May of 2008, FASB issued SFASB No.162, “The Hierarchy of Generally Accepted Accounting Principles”. The pronouncement mandates the GAAP hierarchy reside in the accounting literature as opposed to the audit literature. This has the practical impact of elevating FASB Statements of Financial Accounting Concepts in the GAAP hierarchy. This pronouncement will become effective 60 days following SEC approval. The Company does not believe this pronouncement will impact its financial statements.

 

In May of 2008, FASB issued SFASB No. 163, “Accounting for Financial Guarantee Insurance Contracts-an interpretation of FASB Statement No. 60”. The scope of the statement is limited to financial guarantee insurance (and reinsurance) contracts. The pronouncement is effective for fiscal years beginning after December 31, 2008. The Company does not believe this pronouncement will impact its financial statements.

NOTE 4

Acquisitions

On January 1, 2007, the Company, through its wholly-owned subsidiary Elephant Talk Europe Holding B.V., completed its acquisition of Elephant Talk Communication Holding AG (formerly known as “Benoit Telecom Holding AG” or “Benoit Telecom”), a European telecom company. Benoit Telecom is an international telecom operator and multi-media distributor servicing primarily the business-to-business segment of the telecommunications and media market. Benoit Telecom offers a broad range of products and services based on the integration of telecom, VoIP, SMS, FAX, Conferencing and Streaming services all integrated with a sophisticated Customer Relationship Management and Billing application and using its own fixed-line national interconnects and partner interconnects in numerous European countries. The Company purchased all of the 100,000 issued and outstanding shares of Benoit Telecom in exchange for a) cash payment of $6,643,080 and b) 1,600,000 shares of the Company’s common stock valued at $3,000,000. The common shares were valued at the actual date of issuance of such shares. The total consideration for the purchase of Benoit Telecom was valued at $9,643,080.

A summary of the assets acquired and liabilities assumed for Benoit Telecom are:

Cash & cash equivalents		$	409,174
Accounts receivables			4,485,259
Property & equipment			2,163,157
Customer contracts & licenses			11,504,192
Other assets			1,299,647
Total Assets acquired			19,861,430
Accounts payable			1,535,504
Accrued expenses and other payables			3,631,658
Payable to third parties			4,013,056
Others			125,160
Liabilities assumed			9,305,378
Net assets acquired			10,556,052
Consideration paid			9,643,080
Negative goodwill		$	(912,972	)

 

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The Company has reduced the recorded value of the non-current assets acquired, by negative goodwill of $912,972. The purchase price allocation for Benoit Telecom acquisition is based on the fair value of assets acquired and liabilities assumed. Immediately after the execution of the definitive agreement, the Company obtained effective control over Benoit Telecom. Accordingly, the operating results of Benoit Telecom have been consolidated with those of the Company starting January 1, 2007.

In accordance with paragraph 44 of SFAS 142, any excess of cost over net assets acquired shall be allocated as a pro rata reduction of the amounts that otherwise would have been assigned to all of the acquired assets except financial assets other than investments accounted for by the equity method, assets to be disposed of by sale, deferred tax assets, prepaid assets relating to pension or other postretirement benefit plans and any other current assets.

 

The value of the shares issued by the Company in connection with this acquisition exceeded the fair market value of the net assets acquired. Thus, negative goodwill generated was allocated to reduce the cost of the non-current assets acquired.

The Company included the financial results of Benoit Telecom in its consolidated 2007 financial results from the date of the purchase, January 1, 2007 through December 31, 2007.

On January 1, 2007, the Company’s subsidiary Elephant Talk Europe Holding B.V., entered into a Share Purchase Agreement with 3U Telecom AG, and acquired all of the issued and outstanding shares of 3U Telecom SARL France, for a consideration of 180,000 Euros (approximately $241,935). The Agreement entitled the Company to a 100% share of the economic benefits of the operations of 3U Telecom SARL. On June 1, 2007, all the terms and conditions of the Agreement were completed, and the Company acquired total assets $419,365 and assumed liabilities of $177,430 upon completion of this acquisition.

		FOR THE PERIOD ENDED
		June 30, 2007
REVENUE, net		$	23,961,296
LOSS FROM OPERATION		$	(7,215,481	)
NET LOSS		$	(7,557,705	)
Loss per share - basic and fully diluted		$	(1.00	)

NOTE 5

Earnest deposit

Deposits to various telecom carriers during the course of its operations amount to $549,037 as at June 30, 2008 compared to $442,853 as at December 31, 2007. The deposits are refundable at the conclusion of the business relationship with the carriers.

 

NOTE 6

Prepaid expenses and other current assets

Prepaid expenses and other current assets recorded as $294,348 as at June 30, 2008 and $372,331 as at December 31, 2007. The amount consists primarily of VAT prepaid and receivable from various European authorities.

		Number of shares to be issued
Computation of Shares Outstanding - June 30, 2008		Pre reverse stock split			Post reverse stock split
Shared O/S at March 31, 2008 (issued)			238,265,927			9,530,637
Shares issued: RWC – sale of shares			95,947,395			3,837,896
Shares Issued: Pursuant to Existing Ratchet Provision			258,546,313			10,341,853
Shares Issued: Sold to 5 investors – $4,105,500 @$0.9375 per share			109,480,000			4,379,200
Shares Issued: Sold to 5 accredited investors $ 5,271,658 @ $ 1.4875			90,998,790			3,639,952
Shares Issued: RWC – Conversion of $3.5 million Promissory Note			100,000,000			4,000,000
Shares Issued: Accrued interest $889,881 on Promissory Note			25,425,178			1,017,007
Shares Issued: RWC – Conversion of $3 million Promissory Note			71,428,571			2,857,143
Shares Issued: Accrued cumulated interest $549,289			13,078,320			523,133
Shares Issued: European Funding Round May 2008
Received $3,306,372 in second quarter			78,723,143			3,148,926
Shares Issued: Consulting services						325,000
Shares Issued: Placement Agent						16,667
Shares issued for fraction shares due to reverse split						5,473
Total number of shares issued as of June 30, 2008			1,081,893,637			43,622,886
Shares to be issued: Quercus Management Group NV – Placement Fees						7,990
Shares to be issued: Amelia & Associates NV – Placement Fees						33,334
Shares to be issued: Management Compensation			51,761,600			2,070,464
Shares to be issued: Management Compensation as of June 30, 2008			10,137,600			405,504
Total number of shares issued and to be issued as of June 30, 2008			1,143,792,837			48,657,083

In May and June of 2008, the Company consummated an initial closing (the “Closing”) of its private placement offering (the “Offering”) of Units comprised of shares of common stock (the “Shares”) and warrants to purchase shares of common stock (the “Warrants”, together with the Shares, the “Securities”) to accredited European investors (“Investors”). The Securities were offered and sold pursuant to an exemption from registration under Section 4(2) of the Securities Act of 1933, as amended (the “Securities Act”). The Company sold an aggregate of 3,148,926 Shares at a purchase price of $1.05 per Share and is obligated to deliver Warrants to purchase an aggregate of 3,148,926 shares of the Company’s common stock at a purchase price of $1.25 per share and Warrants to purchase an aggregate of 1,574,463 shares of the Company’s common stock at a purchase price of $1.45 per share. The Investors of this Offering are not entitled to any registration rights with respect to the Securities. The Company realized gross proceeds of $3,306,372 and net proceeds of $2,843,505, after the payment of placement fees which totaled $462,867.

The Warrants entitle the holders to purchase shares of the Company’s common stock reserved for issuance there under (the “Warrant Shares”) for a period of five years from the date of issuance at an exercise price of $1.25 and $1.45 respectively. The Warrants contain certain anti-dilution rights on terms specified in the Warrants. The above warrants were to be issued as of June 30, 2008. The Warrants had a calculated Black-Scholes value of $4,001,146 at time of issuance, based on a term of five years, volatility of 59%, and a risk free rate of 3.2%. All the share and dollar amounts detailed above in relation to the Offering are presented to reflect the impact of the Company’s 1-for-25 reverse stock split which was effected on June 11, 2008.

From July 1, 2008 through the date of this filing, the Company has received an additional $3 million in gross proceeds from the Offering. The Company expects to receive an additional $1 million in gross proceeds from the Offering prior to September 30, 2008..

(B) Preferred Stock

The Company’s Articles of Incorporation (Articles”) authorize the issuance of 50,000,000 shares of no par value Preferred Stock. No shares of Preferred Stock are currently issued and outstanding. Under the Company’s Articles, the Board of Directors has the power, without further action by the holders of the Common Stock, to designate the relative rights and preferences of the preferred stock, and issue the preferred stock in such one or more series as designated by the Board of Directors. The designation of rights and preferences could include preferences as to liquidation, redemption and conversion rights, voting rights, dividends or other preferences, any of which may be dilutive of the interest of the holders of the Common Stock or the Preferred Stock of any other series. The issuance of Preferred Stock may have the effect of delaying or preventing a change in control of the Company without further shareholder action and may adversely affect the rights and powers, including voting rights, of the holders of Common Stock. In certain circumstances, the issuance of preferred stock could depress the market price of the Common Stock.

During the three and six months ended June 30, 2008, the Company did not issue any shares of Preferred Stock or warrants.

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NOTE 16     Basic and Diluted Net Loss Per Share

Net loss per share is calculated in accordance with the Statement of financial accounting standards No.128 (SFAS No.128), “Earnings per share”. Basic net loss per share is based upon the weighted average number of common shares outstanding. Dilution is computed by applying the treasury stock method. Under this method, options and warrants are assumed to be exercised at the beginning of the period (or at the time of issuance, if later), and as if funds obtained thereby were used to purchase common stock at the average market price during the period. Weighted average number of shares used to compute basic and diluted loss per share is the same since the effect of dilutive securities is anti-dilutive.

 

NOTE 17     Employee Benefit Plan and Non-Qualified Stock Option and Compensation Plan

The 2000 Employee Benefit Plan

Under this Plan, out of an available 160,000 shares of common stock and 160,000 of stock options, 148,000 shares of common stock have been issued to date. Therefore 12,000 shares of common stock and 160,000 stock options remain available for grant at June 30, 2008.

2006 Non-Qualified Stock and Option Compensation Plan

 

At March 31, 2008 there were 284,833 options outstanding under this plan. During the three months ended June 30, 2008 there were 32,200 options issued each at an exercise price of $2.25. There were no exercises or cancellations. The total number of outstanding options under this plan is at June 30, 2008: 317,033.

The fair market value of the options issued during the three months period ended June 30, 2008 of $25,646 was calculated using the Black-Sholes options model. The assumptions used for the Black Scholes calculation are: volatility of 59%, term of 4 years and a risk free rate of 3.2%.

The 284,833 options were granted with an exercise price of $2.25, the share closing price as of September 26, 2007. The options will vest on December 31, 2009 or so much earlier as there will be a change of control of the Company. The options are exercisable though December 31, 2011.

2008 Long-Term Incentive Plan

The 2008 Long Term Incentive Plan was adopted on January 15, 2008, and approved by our stockholders on the same date at our annual meeting. This incentive plan authorizes awards of up to 5,000,000 shares of common stock, in the form of incentive and non-qualified stock options, stock appreciation rights, performance units, restricted stock awards and performance bonuses. The amount of common stock underlying the awards to be granted remained the same after the 25 to one reverse stock-split. As of June 30, 2008, 325,000 shares of restricted stock have been granted under this Plan.

Common stock purchase options consisted of the following as of June 30, 2008:

		No. of shares			Exercise Price			Aggregate Intrinsic Value
Options:
Outstanding as of March 31, 2008			284,833			2.25			-
Granted			32,300			2.25			-
Exercised			-						-
Expired			-			-			-
Outstanding as of June 30, 2008			317,033			2.25		$	-

Following is a summary of the status of options outstanding at June 30, 2008:

Range of Exercise Price		Total Options Outstanding			Weighted Average Remaining Life (Years)			Weighted Average Exercise Price			Options Exercisable			Weighted Average Exercise Price
$2.25			317,033			3.25 years		$	2.25			-			-

 

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NOTE 18     Commitments

As of June 30, 2008 commitments of the Company relating to leases, co-location, interconnect and office rents,

December 31, 2008		$	2,163,974
December 31, 2009			1,804,442
December 31, 2010			1,732,065
December 31, 2011			1,627,801
December 31, 2012			1,578,780
Total		$	8,907,062

 

		EUROPE
		Netherlands			Spain			Switzerland			Others			Total			Far East HK/PRC			Middle East			USA			TOTAL
Revenue from unaffiliated customers		$	16,372,294		$	1,496,186		$	5,505,735		$	217,875		$	23,592,090		$	88,363		$	-		$	-		$	23,680,453
Operating income (loss)		$	115,032		$	264,284		$	(1,694,772	)	$	(231,290	)	$	(1,546,746	)	$	(436,586	)	$	(8,850	)	$	(5,310,315	)	$	(7,302,497	)
Net Income (Loss)		$	121,686		$	264,284		$	(1,694,772	)	$	(231,290	)	$	(1,540,092	)	$	(499,897	)	$	(8,850	)	$	(5,595,882	)	$	(7,644,721	)
Identifiable assets		$	4,103,138		$	2,031,903		$	13,130,766		$	1,026,078		$	20,291,885		$	611,780		$	419,201		$	148,116		$	21,470,982
Depreciation and amortization		$	87,852	)	$	56,742		$	861,878		$	3,515		$	1,009,987		$	20,046		$	-		$	201		$	1,030,234
Capital expenditure		$	31,968		$	17,410		$	487,134		$	178,039		$	714,551		$	-		$	-		$	-		$	714,551

 

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Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Forward-Looking Statements

 

Any forward looking statements made herein are based on current expectations of the Company, involve a number of risks and uncertainties and should not be considered as guarantees of future performance. The factors that could cause actual results to differ materially include: interruptions or cancellation of existing contracts, inability to integrate acquisitions, impact of competitive products and pricing, product demand and market acceptance risks, the presence of competitors with greater financial resources than the Company, product development and commercialization risks, changes in governmental regulations, and changing economic conditions in developing countries and an inability to arrange additional debt or equity financing. More information about factors that potentially could affect the Company's financial results is included in the Company's filings with the Securities and Exchange Commission, including its Annual Report on Form 10-K for the year ended December 31, 2007.

 

The following discussion and analysis of our financial condition and results of operations should be read in conjunction with our financial statements and notes thereto and the other financial information included elsewhere in this document.

Overview

Elephant Talk Communications Inc. (“ETCI”), until recently was engaged in the long distance telephone business in China and the Special Administrative Region Hong Kong.

In 2006, the Company adopted the strategy to position itself as an international telecom operator and enabler to the multi-media industry by facilitating to the distribution of all forms of content and telecommunications services to various global customers. Through intelligent design and organizational structure the Company pursues this strategy by building a worldwide network based on both clear and IP bandwidth that is managed centrally by its proprietary IN-CRM-Billing platform.

In January 2007, through the acquisition of various assets in Europe, the Company established a foothold in the European Telecommunications Market, particularly in the market of Service Numbers like Toll Free and Premium Rate Services and to a smaller extent Carrier (Pre) Select Services. Furthermore, through the human and IT resources thereby acquired, the company obtained expertise of telecom and multi-media systems, telecom regulations and European markets.

The Company currently operates a switch-based telecom network with national licenses and direct fixed line interconnects with the Incumbents/National Telecom Operators in eight (8) European countries, one (1) in the Middle East (Bahrain), licenses in Hong Kong and the U.S.A. and partnerships with telecom operators in Scandinavia, Poland, Germany, Greece and Hong Kong. Codec and media streaming servers are currently located in six centers geographically spread around the world. Together with the centrally operated and managed IN-CRM-Billing platform, the Company thus offers geographical, premium rate, toll free, personal, nomadic and VoIP numbers. Services are primarily provided to the business market and include traditional telecom services, VOIP, media streaming and distribution including the necessary billing and collection. Through its European and Chinese development centers, ETCI develops in-house telecom and media related systems and software.

 

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In Europe, a step was made towards building a mobile enabled infrastructure on top of the Company’s fixed line infrastructure by committing capital expenditure and implementation resources towards becoming a Mobile Virtual Network Enabler (MVNE).

At the same time the Company is pursuing the above described business opportunities, attention is paid by its Management to improve the internal structuring of the organization and to realize a fully integrated organization. This will have to be achieved not only on a corporate level but also in the financial, technical and operational departments of the Company in order to implement new services, connectivity in new countries and extra capacity.

Results of Operations

Our results of operations for the three and six months ended June 30, 2008, consisted of the operations of Elephant Talk Communications, Inc., its wholly-owned subsidiary Elephant Talk Limited and its subsidiaries, its wholly-owned subsidiary Elephant Talk Europe Holding BV and its subsidiaries, and its wholly-owned subsidiary Elephant Talk Global Holding BV and its subsidiaries.

The results of operations for the three and six months ended June 30, 2007 consisted the operations of Elephant Talk Communications, Inc., its wholly-owned subsidiary Elephant Talk Limited and its subsidiaries, and its wholly-owned subsidiary Elephant Talk Europe Holding BV and its subsidiaries

On January 18, 2008, our shareholder’s approved a 1-for-25 reverse stock split, which became effective on June 11, 2008. All references to share and per-share data for all periods presented have been adjusted to give effect to this reverse split

Three and Six Month Periods Ended June 30, 2008 compared to the Three and Six Month Periods Ended June 30, 2007

Revenue

Revenue for the three months ended June 30, 2008 was $11,921,290 compared to $12,509,839 for the same period in 2007. Revenue for the six months ended June 30, 2008 was $23,678,570 compared to $23,680,454 for the six months ended June 30, 2007. Our revenue base is primarily comprised of Premium Rate Calling services (PRS) and Carrier Select services (CPS). Revenue for the three month period decreased when compared to prior year, primarily as a result of a decrease in our PRS business attributable to fluctuations in customer demand. Revenue for the six months period was flat reflecting overall telecommunications industry trends. In addition to focusing our sales and marketing activities on the PRS business, we are also focused on becoming an MNVE/MVNO.

 

Cost of revenue

Cost of revenue for the three months ended June 30, 2008 was $12,119,100 compared to $12,371,174 in the 2007 period. For the six months ended June 30, 2008, cost of revenue was $24,090,511 compared to $23,561,013 for the same period in 2007. Gross margin, as a percentage of revenue, was negative 1.7% for both the three month and six month periods ended June 30, 2008. In the same periods in 2007, gross margin was 1.1% and 0.5%. Our cost of revenue includes depreciation of assets and amortization of intangibles that are directly attributable to the ability to generate revenue,; including, network costs, facility cost of hosting network and equipment and cost in providing resale arrangements with long distance service providers, cost of leasing transmission facilities, international gateway switches for voice, data transmission services. The depreciation and amortization expense does not directly correspond to the actual capacity utilization of our network infrastructure. Therefore, given that our network infrastructure is currently at less than full capacity, as the utilization increases in the future, we expect our margin to increase as the incremental revenue run through the network will not have the same depreciation and amortization burden as our existing revenue base.

Selling, general and administrative

Selling, general and administrative expenses for the three months ended June 30, 2008 was $1,664,504 compared to $1,479,806 in 2007. For the six month ended June 30, 2008, SG&A expense was $3,421,503 compared to $2,632,732 in the same period in 2007. The increase in SG&A for both periods is primarily attributable to headcount and related cost increases in the sales organization as we focus on our transition to becoming an MVNE/MVNO.

Non-cash compensation

Non-cash compensation for the three month and six months ended June 30, 2008 was $228,585 and $390,072 respectively, compared to $4,686,968 and $4,686,968, for the corresponding 2007 periods. Non-cash compensation is comprised of the expense related to shares of restricted common stock that are anticipated to be issued to management in connection with a compensation plan originated in the first quarter of 2007. The 2007 amounts include the expense associated with the initial sign on bonus provided to the management team.

 

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Depreciation and amortization

Depreciation and amortization for the three months and six months ended June 20, 2008 was $206,249 and $321,805 respectively, compared to $52,329 and $102,238 for the comparable periods in 2007. Depreciation and amortization expense was higher in both periods primarily due to higher levels of fixed assets in the 2008 period compared to the comparable period in 2007.

 

Other Income and Expenses

Interest income for the three months ended June 30, 2008 was $20,710 compared to $26,294 in 2007. Interest income was $36,463 and $28,496 for the six months ended June 30, 2008 and 2007 respectively. For the three months ended June 30, 2008, interest expense was $398,494 compared to $193,338 in 2007. Interest expense was $769,071 and $369,982 for the six months ended June 30, 2008 and 2007 respectively. The increase in interest expense was due to increased promissory note balances in the 2008 period compared to 2007. For the period ended June 30, 2008, we also incurred a Beneficial Conversion Charge of $1,200,000 related to the conversion of the RWC Promissory Notes (see Note 14 – Convertible Promissory Notes).

 

Minority Interest

Our majority owned subsidiaries Elephant Talk Communications PRS U.K. Limited, Elephant Talk Communications Premium Rate Services Netherlands B.V., Elephant Talk Communications Luxembourg SA, Elephant Talk Middle East & Africa (Holding) W.L.L., Elephant Talk Middle East & Africa (Holding) Jordan L.L.C., Elephant Talk Middle East & Africa Bahrain W.L.L., Elephant Talk Middle East & Africa FZ-LLC incurred a loss of $30,232 and $59,249 attributed to minority shareholders’ interest in the three and six months ended June 30, 2008. During the same period in 2007, the Company’s incurred losses of $5,664 and $7,963 attributed to minority shareholders’ interest.

 

Comprehensive Income (Loss)

We record foreign currency translation gains and losses as comprehensive income or loss. Comprehensive Income for the three and six months was $103,715 and $1,214,347 respectively, compared to a loss of $484,279 and $463,146 for the three and six months ended June 30, 2007. The increase in 2008 compared to 2007 is primarily attributable to the translation gain resulting from the increase in the value of Euro compared to the USD which has occurred throughout 2008.

 

Liquidity and Capital Resources

We have an accumulated deficit of $35,448,281 including a net loss of $2,652,461 and $5,228,449 for the three and six months ended June 30, 2008. We have historically relied on a combination of debt and equity financings to fund its ongoing cash requirements. Management believes that its cash balance at June 30, 2008, cash generated from operations and the receipt of the committed funds in connection with our recent Offering, will provide sufficient funds through at least December 31, 2008. 

In the light of the need to raise additional funds in the immediate short term, we have been focused on capital raising activities in addition to continuing to control operating costs, aggressively managing working capital and attempting to settle certain debt by the issuance of common shares.

We received subscription agreements totaling approximately $7.3 million related to our Offering. As of the date of this filing, the Company has received $6.3 million of equity financing and expects to receive an additional $1.0 million in the period ending September 30, 2008 (see also Note 15 – Stockholders Equity – (A) Common Stock and Note 23 – Subsequent Events). 

In addition to the aforementioned financing activity, we intend to raise additional debt or equity financing, if possible, in order to fund cash requirements generated by future operations, capital expenditures and potential acquisitions.  Although we have previously been able to raise capital as needed, there can be no assurance that such capital would continue to be available at all or, if available, that the terms of such financing would not be dilutive to existing stockholders or otherwise on terms favorable to us. If we are unable to secure additional capital as circumstances require, we may not be able to continue its operations.

These financial statements assume that we will continue as a going concern. If we are unable to continue as a going concern, we may be unable to realize its assets and discharge its liabilities in the normal course of business. The financial statements do not include any adjustments relating to the recoverability and classification of recorded asset amounts or to the amounts and classification of liabilities that may be necessary should we be unable to continue as a going concern

Operating activities

Net cash used in operating activities for the six months ended June 30, 2008 was $3,149,036. The increase is primarily due to the increase in accounts receivable of $975,575, increase in customer deposits of $982,368 and increase in accrued expenses and other payable of $261,345.

 

Investment activities

Net cash used in investment activities for the six months ended June 30, 2008 was $487,514. Cash used to purchase plant and equipment was $489,102.

 

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Financing activities

Net cash received by financing activities for the six months ended June 30, 2008 was $2,833,475.

 As a result of the above activities, the Company recorded a cash and cash equivalent balance of $3,745,568 as of June 30, 2008, a net decrease in cash and cash equivalent of $620,744 for the six months ended June 30, 2008. 

Application of Critical Accounting Policies and Estimates

Revenue Recognition, Cost of Revenue and Deferred Revenue:

Stock-based Compensation:

The Company follows the prescribed accounting and reporting standards for all stock-based compensation plans, including employee stock options, restricted stock, employee stock purchase plans and stock appreciation rights in accordance with SFAS No. 148 “Accounting for Stock-Based Compensation.” SFAS No. 148 provides alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, this Statement requires prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used, on reported results.

The Company accounts for the issuance of equity instruments to acquire goods and services based on the fair value of the goods and services or the fair value of the equity instrument at the time of issuance, whichever is more reliably measurable.

Impact of Accounting Pronouncements

In December 2007, the FASB issued SFAS No. 160, “Non-controlling Interests in Consolidated Financial Statements”, which is an amendment of Accounting Research Bulletin (“ARB”) No. 51.  This statement clarifies that a non-controlling interest in a subsidiary is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements.  This statement changes the way the consolidated income statement is presented, thus requiring consolidated net income to be reported at amounts that include the amounts attributable to both parent and the non-controlling interest.  This statement is effective for the fiscal years, and interim periods within those fiscal years, beginning on or after December 15, 2008.  Based on current conditions, the Company does not expect the adoption of SFAS 160 to have a significant impact on its results of operations or financial position.

In December 2007, the FASB issued SFAS No. 141 (revised 2007), “Business Combinations.”  This statement replaces FASB Statement No. 141, “Business Combinations.” This statement retains the fundamental requirements in SFAS 141 that the acquisition method of accounting (which SFAS 141 called the purchase method) be used for all business combinations and for an acquirer to be identified for each business combination. This statement defines the acquirer as the entity that obtains control of one or more businesses in the business combination and establishes the acquisition date as the date that the acquirer achieves control. This statement requires an acquirer to recognize the assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree at the acquisition date, measured at their fair values as of that date, with limited exceptions specified in the statement. This statement applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. The Company does not expect the adoption of SFAS 141 to have a significant impact on its results of operations or financial position.

In March, 2008, the FASB issued FASB Statement No. 161, “Disclosures about Derivative Instruments and Hedging Activities”. The new standard is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand their effects on an entity’s financial position, financial performance, and cash flows. It is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. The new standard also improves transparency about the location and amounts of derivative instruments in an entity’s financial statements; how derivative instruments and related hedged items are accounted for under Statement 133; and how derivative instruments and related hedged items affect its financial position, financial performance, and cash flows. FASB Statement No. 161 achieves these improvements by requiring disclosure of the fair values of derivative instruments and their gains and losses in a tabular format. It also provides more information about an entity’s liquidity by requiring disclosure of derivative features that are credit risk-related. Finally, it requires cross-referencing within footnotes to enable financial statement users to locate important. Based on current conditions, the Company does not expect the adoption of SFAS 161 to have a significant impact on its results of operations or financial position.

 

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Item 3. Quantitative and Qualitative Disclosure About Market Risks

Not applicable.  

 

Item 4T. Controls and Procedures

Evaluation of Disclosure Controls and Procedures

As of the end of the period covered by this Quarterly Report, the Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer (“the Certifying Officers”), conducted evaluations of the Company’s disclosure controls and procedures. As defined under Sections 13a - 15(e) and 15d - 15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), the term “disclosure controls and procedures” means controls and other procedures of an issuer that are designed to ensure that information required to be disclosed by the issuer in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Commission’s rules and forms. Disclosure controls and procedures include without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer in the reports that it files or submits under the Exchange Act is accumulated and communicated to the issuer’s management, included the Certifying Officers, to allow timely decisions regarding required disclosures. As of the end of the period covered by this Quarterly Report, the Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer (“the Certifying Officers”), conducted evaluations of the Company’s disclosure controls and procedures. As defined under Sections 13a–15(e) and 15d–15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), the term “disclosure controls and procedures” means controls and other procedures of an issuer that are designed to ensure that information required to be disclosed by the issuer in the reports that it files or submits under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Commission’s rules and forms. Disclosure controls and procedures include without limitation, controls and procedures designed to ensure that information required to be disclosed by an issuer in the reports that it files or submits under the Exchange Act is accumulated and communicated to the issuer’s management, included the Certifying Officers, to allow timely decisions regarding required disclosures.

Based on this evaluation, the Certifying Officers have concluded that the Company’s disclosure controls and procedures were effective to ensure that material information is recorded, processed, summarized and reported by management of the Company on a timely basis in order to comply with the Company’s disclosure obligations under the Exchange Act and the rules and regulations promulgated thereunder.

Our Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), are responsible for establishing and maintaining adequate internal control over financial reporting, as such term is defined in Rule 13a-15(f) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) . Internal control over financial reporting is promulgated under the Exchange Act as a process designed by, or under the supervision of, our CEO and CFO and effected by our board of directors, management and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles and includes those policies and procedures that:

 

1.

Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets;

2.

Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and

3.

Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition or disposition of our assets that could have a material effect on the financial statements.

The Company’s management made an initial assessment as defined in Rule 13a-15(f) of the Securities Exchange Act of 1934, and determined that a material weakness within its internal control over financial reporting exists.

 

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Based on this evaluation, our management feels our controls and procedures are not effective as of the end of the period covered by this report. Our management was unable to evaluate our controls and procedures based upon the framework in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) due to the fact that the Company does not have the personnel resources nor technological infrastructure in place to perform this evaluation. Management has identified this lack of personnel and technological resources as a material weakness in the Company’s internal control over financial reporting. While management believes the financial reports included in this Quarterly Report fairly represent the financial condition of the Company, due to the Company’s inability to evaluate its internal controls over financial reporting based on the framework developed by COSO, there is no guarantee that the financial reports accurately represent our financial condition.

Changes in Internal Control Over Financial Reporting

The Company has begun to take appropriate steps to remediate the material weakness described above. The Company has hired a Sarbanes-Oxley (“SOX”) consultant and intends to purchase software designed to strengthen internal controls over financial reporting. The consultant has formulated a Plan to assist the Company in becoming SOX compliant. The Plan consists of five phases. During the first half of this year the first two phases were realized: an overview of SOX requirements for ETCI, a SOX scoping plan and a Plan of Approach to identify the key risks and the key IT controls.

The Company expects to initiate these remediation efforts in the second half of 2008. The effectiveness of our internal controls following our remediation efforts will not be known until we test those controls in connection with management’s tests of internal control over financial reporting that will be performed after the close of our third fiscal quarter of 2008, ending September 30.

 

This Report does not include an attestation report of the Company’s registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by the Company’s registered public accounting firm pursuant to temporary rules of the Securities and Exchange Commission that permit the Company to provide only management’s report in this Report.

 

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PART II - OTHER INFORMATION

Item 1. Legal Proceedings

There have been no updates to any of the legal proceedings disclosed in our previous quarterly report on Form 10-Q for the three months ended March 31, 2008.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

Pursuant to a Consulting Agreement dated June 20, 2008, as amended July 9, 2008, the Company issued 325,000 shares of its common stock pursuant to its 2008 Long-Term Incentive Plan to a consultant in exchange for services to be rendered. The shares of common stock were issued pursuant to the exemption from registration provided by Section 4(2) of the Securities Act of 1933.

Other than the aforesaid and as disclosed on the Company’s Current Reports on Form 8-K dated May 19, 2008, as amended June 12, 2008, and dated June 12, 2008, there have been no sales of unregistered securities.

Item 3. Defaults upon Senior Securities.

None.

Item 4. Submission of Matters to a Vote of Security Holders

None.

 

Item 5. Other Information

None.

 

Item 6. Exhibits

(a)

Exhibits

	31.1	Certification of the CEO pursuant to Rule 13a-14(a) or Rule 15(d)-14(a) on page X-1.
	31.2	Certification of the CFO pursuant to Rule 13a-14(a) or Rule 15(d)-14(a) on page X-2.
	32.1	Certification pursuant to 18 U.S.C. §1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 on page X-3 .
	32.2	Certification pursuant to 18 U.S.C. §1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 on page X-4.

__________________________

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SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

	ELEPHANT TALK COMMUNICATIONS, INC.
August 14, 2008	By:	/s/ Steven van der Velden
		Steven van der Velden
		President and Chief Executive Officer
		(Principal Executive Officer)
August 14, 2008	By:	/s/ Willem Ackermans
		Willem Ackermans
		Chief Financial Officer
		(Principal Financial and Accounting Officer)

 

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Index to Exhibits

 

Number		Exhibit		Page
31.1		Certification of the CEO pursuant to Rule 13a-14(a) or Rule 15(d)-14(a)		X-1
31.2		Certification of the CFO pursuant to Rule 13a-14(a) or Rule 15(d)-14(a)		X-2
32.1		Certification pursuant to 18 U.S.C. §1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002		X-3
32.2		Certification pursuant to 18 U.S.C. §1350 as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002		X-4