FUSION TELECOMMUNICATIONS INTERNATIONAL INC - 10-K/A - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

(Edgar Glimpses Via Acquire Media NewsEdge) The following discussion of the Company's financial condition and results of operations should be read together with the Company's consolidated financial statements and the related notes thereto included elsewhere in this Annual Report on Form 10-K. This discussion contains certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1996. Such statements consist of any statement other than a recitation of historical fact and can be identified by the use of forward-looking terminology such as "may", "expect", "anticipate", "intend", "estimate" or "continue" or the negative thereof or other variations thereof or comparable terminology. The reader is cautioned that all forward-looking statements are speculative, and there are certain risks and uncertainties that could cause actual events or results to differ from those referred to in such forward-looking statements (see Item 1A, "Risk Factors").

OVERVIEW Our Business We are an international telecommunications carrier delivering value-added communications solutions to corporations and carriers in the United States and throughout the world. We offer services that include voice and data communications using Voice over Internet Protocol ("VoIP"), private network services, broadband Internet access, and other advanced services. The Company's Corporate Services business segment focuses on small, medium, and large corporations headquartered in the United States, but with the ability to serve their global communications needs and to provide service virtually anywhere in the world. The Company's Carrier Services business segment focuses on carriers across the globe, with a particular focus on providing services to and from emerging markets in Asia, the Middle East, Africa, Latin America, and the Caribbean. Historically, we have generated the majority of our revenues from voice traffic sold to other carriers, with a strong focus in recent years on VoIP termination to emerging markets. We have focused on growing our existing customer base, which was primarily U.S.-based, through the addition of new international customers. We have also focused on expanding the Company's vendor base through the addition of direct VoIP terminating arrangements to new countries and emerging markets.

Although we believe that the Carrier Services business segment continues to be of significant value to our long term strategy, ongoing competitive and pricing pressures have caused us to increase our focus on the higher margin Corporate Services business segment and to expand our efforts to market to small and mid-sized corporations, as well as larger enterprises, using both our direct and partner distribution channels. While our Corporate Services business segment is still a relatively small portion of our revenue base, we continue to increase our emphasis on this segment in order to increase the percentage of the Company's total revenues contributed by the Corporate Services business segment.

We believe that this will complement the Company's carrier business segment by providing higher margins and a more stable customer base.

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2011 ANNUAL REPORT ON FORM 10-K-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- On January 30, 2012, we entered into purchase agreements to acquire the business currently operated by Network Billing Systems, LLC and Interconnect Systems Group II LLC (collectively, "NBS"). NBS currently provides voice (including VoIP) and data telecommunications services, as well as a wide variety of managed and cloud-based telecommunications services, to small and medium sized companies. For the year ended December 31, 2011, NBS had unaudited revenues of approximately $26.8 million and unaudited net income of approximately $3.0 million. NBS has approximately 5,000 customers.

The aggregate purchase price for the NBS acquisition transaction is $20 million, consisting of $17.75 million in cash, $1.0 million to be evidenced by a 24-month promissory note payable to the sellers and $1.25 million in shares of restricted common stock of the Company. Consummation of the transaction contemplated by the purchase agreements is subject to the satisfaction of certain conditions precedent, including, but not limited to, satisfactory completion of our due diligence on the business being acquired, completion of an audit of the financial books and records of NBS, receipt of certain regulatory approvals, our receipt of sufficient funding to pay the cash portion of the purchase price and provide for reasonable post-acquisition working capital requirements, negotiation and execution of mutually acceptable executive employment and non-compete agreements with Jon Kaufman, the principal operating officer of NBS, and other customary conditions of closing. While the purchase agreements contemplate that closing of the acquisition of NBS would take place during the second quarter of 2012, the conditions precedent to closing are such that there can be no assurance that the acquisition will be completed in that time or at all.

We manage our revenues by business segment and customer. We manage our costs by service provider/vendor. We track revenues by business segment, as the Company's segments have different customer billing and payment terms and utilize different billing systems. We track total revenue at the customer level because our sales force manages revenue generation at the customer level, and because invoice charges are billed and collected at the customer level.

We manage our business segments based on gross profit and margin, which represents net revenue less the cost of revenue, and on net profitability. Although our infrastructure is largely built to support all business segments and products, many of the infrastructure costs, selling, general and administrative expenses ("SG&A") and capital expenditures can be specifically associated with one of our two business segments. The majority of our operations, engineering, information systems and support personnel are assigned to either the corporate services or carrier services business segment for segment reporting purposes, while a relatively small number of personnel are allocated to the segments as appropriate.

Cost of revenues mainly includes the purchase of voice termination, as well as the cost of Internet access, private line, and other services from telecommunications carriers and Internet service providers. We continue to work to lower the variable component of cost of revenues through the use of least cost routing, and through on-going negotiation of usage-based costs with our many domestic and international service providers.

Our operating expenses are categorized as depreciation and amortization, SG&A and advertising and marketing. Depreciation and amortization includes the depreciation of our communications network equipment, leasehold improvements and office equipment and fixtures, as well as the amortization of our intangible assets. SG&A includes salaries and benefits, sales commissions, the costs of occupancy related to our leased network facilities and administrative offices, legal and professional fees and other administrative expenses. Advertising and marketing expense includes costs for promotional materials for the marketing of our corporate products and services.

Our Performance Revenues for the year ended December 31, 2011 were $42.4 million, an increase of $0.6 million, or 1.4%, compared to the year ended December 31, 2010. Our operating loss for 2011 was $4.3 million, compared to $5.8 million in 2010. The improvement was mainly due to a $1.2 million reduction in operating expenses in 2011. Net loss attributable to common stockholders was $4.9 million in 2011, compared to $6.4 million in 2010.

Our Outlook Our ability to grow our business, fully implement our business plan and achieve profitability is dependent upon our ability to raise significant amounts of additional capital. In addition to the cash portion of the purchase price of the pending NBS transaction, we require additional capital to support our Carrier Services business, specifically for capital expenditures required to expand our voice termination capacity, to implement a new automated system for the administration of routing and rates and for the working capital necessary to optimize the terms under which we buy from our vendors and sell to our customers. We believe that if we are able to obtain the necessary capital to fund our Carrier Services business and the acquisition of NBS we will be able to compete effectively in both of our business segments.

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2011 ANNUAL REPORT ON FORM 10-K-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- RESULTS OF OPERATIONSThe following table summarizes our results of operations for the years ended December 31, 2011 and 2010: 2011 2010 Revenues $ 42,350,640 100.0 % $ 41,763,002 100.0 % Cost of revenues, exclusive of depreciation and amortization 38,067,888 89.9 % 37,830,121 90.6 % Gross profit $ 4,282,752 10.1 % $ 3,932,881 9.4 % Operating expenses: Depreciation and amortization 516,892 1.2 % 847,881 2.0 % Loss on impairment of intangibles 163,126 0.4 % 19,018 0.0 % Selling general and administrative 7,897,339 18.6 % 8,847,474 21.2 % Advertising and marketing 14,959 0.0 % 38,973 0.1 % Total operating expenses 8,592,316 20.3 % 9,753,346 23.4 % Operating loss (4,309,564 ) -10.2 % (5,820,465 ) -13.9 % Interest expense, net of interest income (201,183 ) -0.5 % (180,714 ) -0.4 % Other (expenses) income 46,319 0.1 % 213,956 0.5 % Total other (expenses) income (154,864 ) -0.4 % 33,242 0.1 % Loss from continuing operations $ (4,464,428 ) -10.5 % $ (5,787,223 ) -13.9 % Year Ended December 31, 2011 Compared with Year Ended December 31, 2010 Revenues Consolidated revenues were $42.4 million in the year ended December 31, 2011, compared to $41.8 million during the year ended December 31, 2010, an increase of $0.6 million, or 1.4%. Carrier Services revenue of $40.1 million increased by $0.1 million, or 0.3%, over the same period of a year ago, as a 26% increase in the number of minutes transmitted over our network was mostly offset by the decrease in the blended rate per minute of traffic terminated.

Revenues for the Corporate Services segment increased $0.5 million, or 27.5%, to $2.2 million in 2011 compared to 2010 due to the continued growth in the customer base for this segment.

Cost of Revenues and Gross Margin Consolidated cost of revenues was $38.1 million in the year ended December 31, 2011, compared to $37.8 million in the year ended December 31, 2010. Consolidated gross margin was 10.1% in 2011, compared to 9.4% in the same period of a year ago. The increase is mainly due to the higher Carrier Services margin and, to a lesser extent, the increased relative contribution of the higher margin Corporate Services business. Gross margin for the Carrier Services business was 8.7% in 2011 compared to 8.1% in 2010. The higher margin was due to a reduction of approximately $0.2 million in fixed costs in 2011, primarily for TDM circuits and internet bandwidth. We believe there are opportunities to further improve our Carrier Services margin if we can obtain the necessary funding for capital expenditures and working capital.

During 2011, the Corporate Services business segment accounted for 19.0% of our consolidated gross profit, compared to 17.6% of consolidated gross profit in 2010. Continuing to increase the relative contribution of our Corporate Services business segment is an essential component of our business strategy, and we believe that the NBS acquisition, if it takes place, will result in a substantial increase to our consolidated gross margins and significantly improve our overall operating results. Gross margin for the Corporate Services business was 36.5% in 2011, compared with 39.7% in 2010. The decrease in gross margin during the year was mainly due to price discounts granted to certain customers in 2011 in order to secure long-term business and expand our customer base, and to increased competitive pressures as 2011 progressed. We expect these trends to continue in 2012, and we believe that we need to achieve greater economies of scale and enhance our product offerings in order to compete effectively in this business.

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2011 ANNUAL REPORT ON FORM 10-K-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- Depreciation and Amortization Depreciation and amortization expense decreased by $0.3 million, from $0.8 million in the year ended December 31, 2010 to $0.5 million in the year ended December 31, 2011, as more existing assets became fully depreciated during 2011 than there were new assets placed into service during the year. Although our liquidity constraints in 2011 did not significantly impact our ability to incur capital expenditures that were required to support our current network operations, if we are able to obtain funding to enhance our network capacity and capabilities in 2012 and beyond, we expect that this will result in future increases to depreciation expense.

Loss on Impairment During the year ended December 31, 2011, we recorded an impairment charge in the amount of $0.2 million related to the Company's trademark intangible assets, as compared to an impairment charge of approximately $19,000 in the same period of a year ago. The impairment charges are based on the difference between the asset's carrying value at the time of the impairment test and our estimate of fair market value.

SG&A SG&A decreased to $7.9 million for the year ended December 31, 2011 as compared to $8.8 million in the year ended December 31, 2010. During 2011, we reduced our accruals for certain state franchise taxes and other state and local taxes based on changes in estimates, resulting in a decrease in expense of $0.4 million. Excluding this adjustment, SG&A decreased by $0.6 million, or 6.6%. This decrease resulted from reduced employee compensation costs of $0.5 million, a $0.2 million reduction in rent and other occupancy costs, which was mainly due to the restructuring of the lease at our switch facility in late 2010, and $0.1 million of lower insurance expense, partly offset by a $0.2 million increase in bad debt expense and a $0.1 million increase in agent commissions associated with the growth of the Corporate Services business segment.

Advertising and Marketing Advertising and marketing expenses was approximately $15,000 in the year ended December 31, 2011, compared to approximately $39,000 in the year ended December 31, 2010. Although our use of advertising continues to be minimal, our pursuit of certain large scale opportunities for our Corporate Services business may result in increased marketing expenses in 2012 and beyond.

Operating Loss Our operating loss decreased by $1.5 million, or 26.0%, from $5.8 million for the year ended December 31, 2010 to $4.3 million for the year ended December 31, 2011. The decrease in operating loss was primarily attributable to a $1.2 million reduction in operating expenses, primarily SG&A, and a $0.3 million increase in gross profit, which was mainly the result of the improved margins in the Carrier Services segment.

Other (Expense) Income For the year ended December 31, 2011, total other (expense) income was a net expense of approximately $155,000, compared to net income of approximately $33,000 for the year ended December 31, 2010. The change is due to approximately $160,000 of gains on vendor settlements in 2010 compared to $75,000 in 2011, as well as a loss on the sale of our accounts receivable of approximately $52,000 in 2011 with no comparable amount in 2010. In addition, interest expense increased by approximately $25,000 in 2011 due to the issuance of additional notes payable, and we recorded a loss on the disposal of certain of our property and equipment of approximately $25,000 in 2011, with no comparable amount in 2010.

Discontinued Operations Discontinued Operations pertains to our former consumer segment that we discontinued in 2009. During the year ended December 31, 2011 we recorded a gain from discontinued operations of approximately $10,000, compared with a loss from discontinued operations of approximately $12,000 in 2010. The change was largely the result of cash received for certain customer receivables pertaining to this segment that had previously been written off.

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2011 ANNUAL REPORT ON FORM 10-K-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- Net Loss Net loss decreased $1.3 million, or 23.2% to $4.5 million for the year ended December 31, 2011, from $5.8 million for the year ended December 31, 2010, mainly due to the decrease in operating expenses and increase in gross profit.

LIQUIDITY AND CAPITAL RESOURCES Our ability to continue as a going concern is dependent upon our ability to raise additional capital to support our day to day operations and implement our business plan. Since our inception, we have incurred significant operating and net losses. In addition, we have yet to generate positive cash flow from operations. As of December 31, 2011, we had a stockholders' deficit of $10.6 million, as compared to $8.1 million at December 31, 2010, and a working capital deficit of $12.0 million, as compared to $9.7 million at December 31, 2010. We currently do not have sufficient cash or other financial resources to fund our operations and meet our obligations for the next twelve months.

We have historically relied upon the sale of our equity securities and loans from non-related and related parties, including Marvin Rosen, the Chairman of the Board of Directors, to fund our operations. For the year ended December 31, 2011, we raised approximately $1.1 million from the sale of our securities through private placement financings and received $2.9 million in new loans from Mr. Rosen. From January 1, 2012 through the date of this report, we raised an additional $0.9 million from additional private sales of our securities. We expect to continue to rely on additional sales of our securities and additional borrowings to support our operations and meet the Company's financial obligations for the remainder of 2012. There are no current commitments for such funds and there can be no assurances that such funds will be available to the Company as needed. In addition, a substantial portion of our outstanding indebtedness is payable upon ten days notice from the lender. Although we have yet to receive any demand notices for this indebtedness, there are no assurances that we will not receive any such notices in the future, and we currently do not have the financial resources to repay these loans should we receive a demand for payment.

On September 12, 2011, we entered into a purchase and sale agreement with Prestige Capital Corporation ("Prestige"), whereby we may sell certain of our accounts receivable to Prestige, at a discount in order to improve our liquidity and cash flow. Since the fourth quarter of fiscal 2011 through the date of this report, we have been utilizing this agreement to assist us with our short term liquidity needs and we expect to continue to do so until such time as we can complete a significant equity raise. Under the terms of the purchase and sale agreement, Prestige pays a percentage of the face amount of the receivables at the time of sale, and the remainder, net of the discount, is paid to us within three business days after Prestige receives payment on the receivables, which generally have 30 day terms.

Prestige also provided the Company with a one-time advance of $208,000 at the time we entered into this agreement. This advance is secured by a priority lien on the Company's accounts receivable. The proceeds from the advance were used to pay down other third party indebtedness and for general corporate purposes. The advance is payable in 25 equal weekly installments beginning in October of 2011 and an advance fee of approximately $15,000 is payable 180 days after the closing date. The outstanding balance on this advance was approximately $103,000 at December 31, 2011, and this balance was paid in full as of March 30, 2012. The Prestige agreement expires in June of 2012, but contains automatic renewals unless either party provides a written notice of cancellation within 60 days prior to expiration.

On January 30, 2012 we entered into agreements to acquire NBS. The cash portion of the purchase price is $17.75 million. In conjunction with our efforts to obtain debt financing for a substantial portion of this amount, we are seeking to consummate a significant sale of our equity securities which will (i) finance the remaining amount of the cash portion of the purchase price; (ii) provide for necessary post-acquisition working capital requirements for the acquired business; and (iii) provide the necessary funds for capital expenditures and working capital requirements of our existing business, including the implementation of our long term business plan. There are currently no commitments for any such financings and no assurances can be given that funds will be available on terms that are acceptable to us, or at all.

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2011 ANNUAL REPORT ON FORM 10-K-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- On October 27, 2011, the landlord over premises leased by the Company exercised its right under the lease to draw down the full amount of a letter of credit in the amount of $428,391 that we had posted as security under the terms of the lease. The letter of credit was issued for our benefit by a third party lending institution and we had partially collateralized the letter of credit in the approximate amount of $240,000 by depositing this amount in a money market account with the lending institution. As a result of the drawdown of the letter of credit, we were required to pay the issuer of the letter of credit the difference between the full amount of the letter of credit and the amount of the collateral, which difference is approximately $188,000. While our failure to make this payment constitutes an event of default under the terms of the letter of credit, we did not receive a default notice from the lending institution. The Company and the lender have agreed in principle on the terms of a forbearance and settlement agreement which, among other things, sets forth payment terms for the outstanding amount. Under the terms of the proposed forbearance and settlement agreement, which provides for interest on the outstanding amount at the rate of 5.25% per annum, we will be required to make principal payments in the amount of $5,000 per month from March 27, 2012 through August 27, 2012, $50,000 on each of September 27, 2012, December 27, 2012 and March 27, 2013 and approximately $8,000 June 27, 2013. Although there can be no assurances, we expect that the forbearance and settlement agreement will be fully executed in the second quarter of 2012.

In the event that we are unable to secure the necessary funding to meet our working capital requirements and payment obligations, either through the sale of our securities or through other financing arrangements, we may be required to downsize, reduce our workforce, sell assets or possibly curtail or even cease operations.

A summary of the Company's cash flows for years ended December 31, 2011 and 2010 is as follows: 2011 2010 Cash from continuing operations: Cash used in operating activities $ (3,461,117 ) $ (4,791,026 ) Cash used in investing activities (146,528 ) (508,617 ) Cash provided by financing activities 3,654,862 5,386,503 Increase (decrease) in cash and cash equivalents from continuing operations 47,217 86,860 Cash from discontinued operations (64,540 ) (165,509 ) Net increase (decrease) in cash and cash equivalents (17,323 ) (78,649 ) Cash and cash equivalents, beginning of period 20,370 99,019 Cash and cash equivalents, end of period $ 3,047 $ 20,370 Cash used in operating activities was $3.5 million for the year ended December 31, 2011, compared to $4.8 million for the year ended December 31, 2010. The decrease is mainly due to a lower operating loss. As we continue to implement our business strategy with our Carrier Services and Corporate Services business segments we expect that our net cash flows from operating activities will continue to improve.

Cash used in investing activities was $0.1 million for the year ended December 31, 2011, compared to $0.5 million in the year ended December 31, 2010. The decrease is due to increases in restricted cash in 2010 in order to collateralize letters of credit required under our leasing arrangements, and lower capital expenditures in 2011. We expect our cash capital expenditures to be approximately $0.4 million in 2012, mainly to implement improvements to our network for our Carrier Services business segment.

Cash provided by financing activities was $3.7 million for the year ended December 31, 2011, as compared to $5.4 million in the year ended December 31, 2010. During 2011, we raised $1.1 million from the sale of our common stock, compared to $3.6 million in 2010. We also raised $2.6 million from new borrowings, net of repayments, in 2011, compared with $1.8 million in 2010.

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2011 ANNUAL REPORT ON FORM 10-K-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- Sources of Liquidity As of December 31, 2011, we had cash and cash equivalents of approximately $3,000 and accounts receivable of approximately $2.4 million. Our long-term liquidity is dependent on our ability to develop profitable operations that will generate positive cash flow. We cannot predict if and when we will be able to achieve profitability.

Uses of Liquidity Our short-term and long-term liquidity needs arise primarily from working capital requirements to support the growth and day-to-day operations of our business, principal and interest payments related to our financing obligations, capital expenditures and any additional funds that may be required for business expansion opportunities. In some situations, we may be required to guarantee payment or performance under agreements, and in these circumstances we may be required to secure letters of credit or bonds to do so. These instruments may further limit unrestricted cash and cash equivalents, and may place a further strain on our liquidity.

Debt Service Requirements During the year ended December 31, 2011, we repaid $0.5 million of promissory notes and other indebtedness held by unrelated parties. For 2012, we expect to make debt service payments aggregating to $0.3 million related to the letter of credit drawdown and the Prestige advance. At December 31, 2011, we had $4.9 million of debt payable to Mr. Rosen, which is payable on demand and is collateralized by a subordinated security interest in our accounts receivable. As of the date of this report we have not received any demand for payment.

Capital Instruments Over the course of 2011 we entered into subscription agreements with 27 accredited investors, under which we issued an aggregate of 13,291,167 shares of common stock and five-year warrants to purchase 3,482,785 shares of the Company's common stock for aggregate consideration of $1.1 million. The warrants are exercisable at 112% to 125% of the average closing price of the Company's common stock for the five trading days prior to closing. Two of these investors, accounting for 1,037,038 shares, 272,224 warrants and proceeds of $85,000, were directors of the Company. Also during 2011, two of our directors and two unrelated note holders converted an aggregate of $0.7 million of promissory notes and accrued interest that were payable on demand into an aggregate of 8,409,685 shares of the Company's common stock and warrants to purchase 1,961,304 shares of the Company's common stock.

Between January 1, 2012 and March 15, 2012, we sold and issued to 20 accredited investors 8,594,988 shares of common stock and warrants to issue 2,578,503 shares of the Company's common stock at exercise prices ranging from $0.09 to $0.23 per share, or 112% to 125% of the average closing price of the Company's common stock for the five trading days prior to closing. The net proceeds of $0.9 million were used for general working capital purposes. In addition, three of our officers and/or directors converted an aggregate of $85,000 of indebtedness from the Company into 814,816 shares of common stock and warrants to issue 244,447 shares of the Company's common stock at exercise prices ranging from $0.09 to $0.17 per share, or 112% to 125% of the average closing price of the Company's common stock for the five trading days prior to closing.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES We have identified the policies and significant estimation processes discussed below as critical to our business operations and to the understanding of our results of operations. In many cases, the accounting treatment of a particular transaction is dictated by specific accounting principles generally accepted in the United States of America, with no need for management's judgment in their application. In other cases, management is required to exercise judgment in the application of accounting principles with respect to particular transactions. For a detailed discussion on the application of these and other accounting policies, see note 3 in the Notes to Consolidated Financial Statements included elsewhere in this Annual Report on Form 10-K. The preparation of our consolidated financial statements requires us to make estimates and assumptions that affect the reported amount of assets and liabilities, disclosure of contingent assets and liabilities at the date of our consolidated financial statements, and the reported amounts of revenue and expenses during the reporting periods. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances. There can be no assurance that actual results will not differ from those estimates and such differences could be significant.

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2011 ANNUAL REPORT ON FORM 10-K-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- Revenue Recognition Our revenue is primarily derived from usage fees charged to carriers and corporations that terminate voice traffic over our network, and from the monthly recurring fees charged to customers that purchase our corporate products and services.

Variable revenue is earned based on the length (number of minutes duration) of a call. It is recognized upon completion of the call, and is adjusted to reflect customer billing adjustments. Revenue for each customer is calculated from information received through our network switches. Customized software has been designed to track the information from the switch and analyze the call detail records against stored detailed information about revenue rates. This software provides us with the ability to complete a timely and accurate analysis of revenue earned in a period. We believe that the nature of this process is such that recorded revenues are unlikely to be revised in the future.

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

Accounts Receivable Accounts receivable is recorded net of an allowance for doubtful accounts. On a periodic basis, we evaluate our accounts receivable and adjust the allowance for doubtful accounts based on our history of past write-offs and collections and current credit conditions. Specific customer accounts are written off as uncollectible if the probability of a future loss has been established, collection efforts have been exhausted and payment is not expected to be received.

Cost of Revenues and Cost of Revenues Accrual Cost of revenues is comprised primarily of costs incurred from other domestic and international communications carriers to originate, transport, and terminate voice calls for the Company's carrier and corporate customers. The majority of the Company's cost of revenues is thus variable, based upon the number of minutes actually used by the Company's customers and the destinations they are calling. Cost of revenues also includes the monthly recurring cost of certain platform services purchased from other service providers, as well as the monthly recurring costs of broadband Internet access and/or private line services purchased from other carriers to meet the needs of the Company's customers. Call activity is tracked and analyzed with customized software that analyzes the traffic flowing through the Company's network switches. During each period, the call activity is analyzed and an accrual is recorded for the revenues associated with minutes not yet invoiced. This cost accrual is calculated using minutes from the system and the variable cost of revenue based upon predetermined contractual rates.

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

Impairment of Long-Lived Assets We periodically review long-lived assets, including intangible assets, for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. If an impairment indicator is present, we evaluate recoverability by a comparison of the carrying amount of the asset to future undiscounted net cash flows expected to be generated by the asset. If the carrying value of the asset exceeds the projected undiscounted cash flows, we are required to estimate the fair value of the asset and recognize an impairment charge to the extent that the carrying value of the asset exceeds its estimated fair value. We recorded impairment charges related to our Efonica trademarks of approximately $163,000 and $19,000 in the years ended December 31, 2011 and 2010, respectively. In addition, we wrote off certain of our property and equipment that we determined was no longer in use, and recorded a loss on disposal of approximately $25,000 for the net book value of these assets during the year ended December 31, 2011.

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2011 ANNUAL REPORT ON FORM 10-K-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- Income Taxes We account for income taxes in accordance with U.S. GAAP, which requires the recognition of deferred tax liabilities and assets for the expected future income tax consequences of events that have been recognized in our financial statements. Deferred income tax assets and liabilities are computed for temporary differences between the financial statement and tax bases of assets and liabilities that will result in future taxable or deductible amounts, based on enacted tax laws and rates applicable to the periods in which the differences are expected to affect taxable income. Valuation allowances are established to reduce deferred income tax assets when we determine that it is more like than not that we will fail to generate sufficient taxable income to be able to utilize the deferred tax assets.

Recently Issued Accounting Pronouncements During the years ended December 31, 2011 and 2010, there were no new accounting pronouncements adopted by the Company that had a material impact on the Company's consolidated financial statements. Our management does not believe that there are any recently issued, but not yet effective, accounting pronouncements, if currently adopted, which would have a material effect on our consolidated financial statements.

OTHER MATTERSInflation We do not believe inflation has a significant effect on the Company's operations at this time.

Off Balance Sheet Arrangements Under SEC regulations, we are required to disclose the Company's off-balance sheet arrangements that have or are reasonably likely to have a current or future effect on the Company's financial condition, results of operations, liquidity, capital expenditures or capital resources that are material to investors. Off-balance sheet arrangements consist of transactions, agreements or contractual arrangements to which any entity that is not consolidated with us is a party, under which we have: Any obligation under certain guarantee contracts.

Any retained or contingent interest in assets transferred to an unconsolidated entity or similar arrangement that serves as credit, liquidity or market risk support to that entity for such assets.

Any obligation under a contract that would be accounted for as a derivative instrument, except that it is both indexed to the Company's stock and classified in stockholder's equity in the Company's statement of financial position.

Any obligation arising out of a material variable interest held by us in an unconsolidated entity that provides financing, liquidity, market risk or credit risk support to us, or engages in leasing, hedging or research and development services with us.

As of December 31, 2011, the Company has no off-balance sheet arrangements that have, or are reasonably likely to have, a current or future effect on the Company's financial condition, results of operations, liquidity, capital expenditures or capital resources that is material to investors.

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