PART II

    

Item 8. Financial Statements and Supplementary Data.

   

TOWERSTREAM CORPORATION

Index to Consolidated Financial Statements

 

	Page
Report of Independent Registered Public Accounting Firm	27
Consolidated Balance Sheets	28
Consolidated Statements of Operations	29
Consolidated Statements of Stockholders’ Equity	30
Consolidated Statements of Cash Flows	31
Notes to Consolidated Financial Statements	33

    

 

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Report of Independent Registered Public Accounting Firm

To the Audit Committee of the

Board of Directors and Shareholders of

Towerstream Corporation

We have audited the accompanying consolidated balance sheets of Towerstream Corporation and Subsidiaries (the “Company”) as of December 31, 2010 and December 31, 2009, and the related consolidated statements of operations, stockholders’ equity and cash flows for the years then ended.  These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement.  The Company is not required to have, nor were we engaged to perform, an audit of its internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company’s internal control over financial reporting. Accordingly, we express no such opinion.  An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation.  We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Towerstream Corporation and Subsidiaries as of December 31, 2010 and 2009, and the consolidated results of their operations and their cash flows for the years then ended, in conformity with accounting principles generally accepted in the United States of America.

/s/ Marcum LLP

Marcum LLP

New York, New York

March 17, 2011

 

 

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TOWERSTREAM CORPORATION

CONSOLIDATED BALANCE SHEETS

		As of December 31,
		2010				2009
Assets
Current Assets
Cash and cash equivalents		$	23,173,352			$	14,040,839
Accounts receivable, net			482,854				403,073
Prepaid expenses and other current assets			372,895				258,307
Total Current Assets			24,029,101				14,702,219
Property and equipment, net			15,266,056				13,634,685
Intangible assets, net			3,366,965				975,000
Goodwill			1,724,571				-
Other assets			203,132				190,803
Total Assets		$	44,589,825			$	29,502,707
Liabilities and Stockholders’ Equity
Current Liabilities
Accounts payable		$	909,548			$	1,055,804
Accrued expenses			1,595,716				1,086,258
Deferred revenues			1,000,018				1,028,952
Current maturities of capital lease obligations			88,613				-
Other			251,085				78,889
Total Current Liabilities			3,844,980				3,249,903
Long-Term Liabilities
Capital lease obligations, net of current maturities			55,735				-
Derivative liabilities			-				566,451
Other			668,232				275,182
Total Long-Term Liabilities			723,967				841,633
Total Liabilities			4,568,947				4,091,536
Commitments (Note 16)
Stockholders' Equity
Preferred stock, par value $0.001; 5,000,000 shares authorized; none issued			-				-
Common stock, par value $0.001;   70,000,000 shares authorized; 42,116,618 and 34,662,229 shares issued and outstanding, respectively			42,117				34,662
Additional paid-in-capital			75,332,969				55,127,710
Accumulated deficit			(35,354,208	)			(29,751,201	)
Total Stockholders' Equity			40,020,878				25,411,171
Total Liabilities and Stockholders' Equity		$	44,589,825			$	29,502,707

The accompanying notes are an integral part of these consolidated financial statements.

 

 

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TOWERSTREAM CORPORATION

CONSOLIDATED STATEMENTS OF OPERATIONS

		For the Years Ended December 31,
		2010				2009
Revenues		$	19,645,893			$	14,915,435
Operating Expenses
Cost of revenues (exclusive of depreciation)			4,887,881				3,690,089
Depreciation and amortization			5,770,335				4,035,267
Customer support services			2,549,615				2,132,968
Sales and marketing			5,088,085				5,545,714
General and administrative			7,398,420				6,943,086
Total Operating Expenses			25,694,336				22,347,124
Operating Loss			(6,048,443	)			(7,431,689	)
Other Income/(Expense)
Interest income			4,411				26,605
Interest expense			(489	)			(740,409	)
Gain on business acquisition			355,876				-
Loss on derivative financial instruments			-				(478,544	)
Other income (expense), net			85,638				(1,213	)
Total Other Income/(Expense)			445,436				(1,193,561	)
Net Loss		$	(5,603,007	)		$	(8,625,250	)
Net loss per common share – basic and diluted		$	(0.16	)		$	(0.25	)
Weighted average common shares outstanding – basic and diluted			35,626,783				34,606,798

 

The accompanying notes are an integral part of these consolidated financial statements.

 

 

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TOWERSTREAM CORPORATION

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

For the Years Ended December 31, 2010 and 2009

 

		Common Stock								Additional
		Shares				Amount				Paid-In- Capital				Accumulated Deficit				Total
Balance at January 1, 2009			34,587,854			$	34,588			$	54,851,755			$	(21,879,144	)		$	33,007,199
Cumulative effect of change in accounting principle - January 1, 2009 reclassification of equity-linked financial instruments to derivative liabilities											(526,927	)			753,193				226,266
Issuance of common stock for bonuses			32,687				32				42,493								42,525
Cashless exercise of options			41,688				42				(42	)							-
Stock-based compensation											760,431								760,431
Net loss															(8,625,250	)			(8,625,250	)
Balance at December 31, 2009			34,662,229				34,662				55,127,710				(29,751,201	)			25,411,171
Issuance of common stock for bonuses			9,225				9				17,241								17,250
Issuance of common stock for business acquisitions			687,223				687				1,914,911								1,915,598
Net proceeds from issuance of common stock			6,571,429				6,572				16,951,361								16,957,933
Issuance of common stock for services			66,075				66				104,994								105,060
Cashless exercise of options			119,104				119				(119	)							-
Exercise of options			1,333				2				918								920
Stock-based compensation											649,502								649,502
Reclassification of derivative liabilities to equity linked financial instruments											566,451								566,451
Net loss															(5,603,007	)			(5,603,007	)
Balance at December 31, 2010			42,116,618			$	42,117			$	75,332,969			$	(35,354,208	)		$	40,020,878

The accompanying notes are an integral part of these consolidated financial statements.

 

 

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TOWERSTREAM CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS

		For the Years Ended December 31,
		2010				2009
Cash Flows From Operating Activities
Net loss		$	(5,603,007	)		$	(8,625,250	)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
Provision for doubtful accounts			154,123				78,736
Depreciation and amortization			5,770,335				4,035,267
Stock-based compensation			771,812				802,956
Gain of business acquisition			(355,876	)			-
Accretion of debt discount			-				456,778
Amortization of financing costs			-				60,192
Loss on sale and disposition of property and equipment			74,533				57,413
Deferred rent			(78,889	)			(52,554	)
Loss on derivative financial instruments			-				478,544
Changes in operating assets and liabilities:
Accounts receivable			45,619				(202,410	)
Prepaid expenses and other current assets			(30,885	)			826
Accounts payable			(200,379	)			(338,672	)
Accrued expenses			509,458				224,868
Other current liabilities			(9,728	)			-
Deferred revenues			(453,314	)			43,549
Total Adjustments			6,196,809				5,645,493
Net Cash Provided By (Used In) Operating Activities			593,802				(2,979,757	)
Cash Flows From Investing Activities
Acquisitions of property and equipment			(5,659,702	)			(4,848,245	)
Acquisition of Sparkplug Chicago, Inc.			(1,170,000	)			-
Acquisition of Pipeline Wireless LLC			(1,580,060	)			-
Proceeds from sale of property and equipment			-				11,659
Acquisition of FCC license			-				(100,000	)
Change in security deposits			(3,250	)			(7,740	)
Net Cash Used In Investing Activities			(8,413,012	)			(4,944,326	)
Cash Flows From Financing Activities
Repayment of capital leases			(7,130	)			(25,346	)
Repayment of short-term debt			-				(2,750,000	)
Issuance of common stock upon exercise of options			920				-
Net proceeds from sale of common stock			16,957,933				-
Net Cash Provided By (Used In) Financing Activities			16,951,723				(2,775,346	)
Net Increase (Decrease) In Cash and Cash Equivalents			9,132,513				(10,699,429	)
Cash and Cash Equivalents – Beginning of year			14,040,839				24,740,268
Cash and Cash Equivalents – Ending of year		$	23,173,352			$	14,040,839

The accompanying notes are an integral part of these consolidated financial statements.

 

 

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TOWERSTREAM CORPORATION

CONSOLIDATED STATEMENTS OF CASH FLOWS – CONTINUED

		For the Years Ended December 31,
		2010				2009
Supplemental Disclosures of Cash Flow Information
Cash paid during the periods for:
Interest		$	489			$	277,382
Taxes		$	12,263			$	12,562
Non-cash investing and financing activities:
Fair value of common stock issued in connection with acquisitions		$	1,915,598			$	-
Acquisition of property and equipment under capital lease obligations		$	152,164			$	-

The accompanying notes are an integral part of these consolidated financial statements.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

Note 1.    Organization and Nature of Business

 

Towerstream Corporation (referred to as ‘‘Towerstream’’ or the ‘‘Company’’) was formed on December 17, 1999, and was incorporated in Delaware.  The Company provides broadband services to commercial customers and delivers access over a wireless network transmitting over both regulated and unregulated radio spectrum.   The Company’s service supports bandwidth on demand, wireless redundancy, virtual private networks (“VPNs”), disaster recovery, bundled data and video services. The Company provides service to business customers in New York City, Boston, Chicago, Los Angeles, San Francisco, Seattle, Miami, Dallas-Fort Worth, Philadelphia, Nashville, Providence and Newport, Rhode Island.

 

Note 2.    Summary of Significant Accounting Policies

 

Basis of Presentation.    The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All intercompany balances and transactions have been eliminated in consolidation

 

Use of Estimates.    The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities, and the amounts of revenues and expenses. Actual results could differ from those estimates. 

Cash and Cash Equivalents.    The Company considers all highly liquid investments with a maturity of three months or less when purchased to be cash equivalents.

 

Concentration of Credit Risk.    Financial instruments that potentially subject the Company to significant concentrations of credit risk consist of cash and cash equivalents.  At times, our cash and cash equivalents may be uninsured or in deposit accounts that exceed the Federal Deposit Insurance Corporation (“FDIC”) insurance limits. As of December 31, 2010, the Company had cash and cash equivalent balances of approximately $15,158,000 in excess of the federally insured limit of $250,000. Under the FDIC’s Transaction Account Guarantee (“TAG”) program, noninterest-bearing transaction deposit accounts have full federal deposit insurance coverage through December 31, 2012.  The Company has one noninterest-bearing transaction deposit account totaling approximately $500,000 that is covered under the TAG program.

The Company also had approximately $7,765,000 invested in three institutional money market funds.  These funds are protected under the Securities Investor Protection Corporation (‘‘SIPC’’), a nonprofit membership corporation which provides limited coverage up to $500,000.

 

Accounts Receivable .   Accounts receivable are stated at cost less an allowance for doubtful accounts. The allowance for doubtful accounts reflects the Company’s estimate of accounts receivable that will be not collected.  The allowance is based on the history of past write-offs, the aging of balances, collections experience and current credit conditions.  Amounts determined to be uncollectible are written-off against the allowance for doubtful accounts.  The allowance for doubtful accounts was $118,825 at December 31, 2010 and $88,299 at December 31, 2009.  Additions to the allowance for doubtful accounts, e.g. provision for bad debt, totaled $154,123 and $78,736 for 2010 and 2009, respectively.  Deductions to the allowance for doubtful accounts, e.g. customer write-offs, totaled $123,597 and $57,087 for 2010 and 2009, respectively.

Property and Equipment.    Property and equipment are stated at cost and include equipment, installation costs and materials. Depreciation is calculated on a straight-line basis over the estimated useful lives of the assets. Leasehold improvements are amortized over the lesser of the useful lives or the term of the respective lease. Network, base station and customer premise equipment are depreciated over estimated useful lives ranging from 5 to 7 years; furniture, fixtures and other from 3 to 7 years; computer equipment from 3 to 5 years and system software over 3 years.

Expenditures for maintenance and repairs, which do not generally extend the useful life of the assets, are charged to expense as incurred. Gains or losses on disposal of property and equipment are reflected in general and administrative expenses in the statement of operations.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED

FCC Licenses .    Federal Communications Commission (“FCC”) licenses are initially recorded at cost and are considered to be intangible assets with an indefinite life because the Company is able to maintain the license indefinitely as long as it complies with certain FCC requirements.  The Company intends to and has demonstrated an ability to maintain compliance with such requirements. The Financial Accounting Standards Board’s (“FASB”) guidance on goodwill and other intangible assets states that an asset with an indefinite useful life is not amortized.  However, as further described in the next paragraph, these assets are reviewed annually for impairment.

 

Long-Lived Assets .  Long-lived assets with definitive lives consist primarily of property and equipment, and intangible assets. Long-lived assets are evaluated periodically for impairment, or whenever events or circumstances indicate their carrying value may not be recoverable. Conditions that would result in an impairment charge include a significant decline in the fair value of an asset, a significant change in the extent or manner in which an asset is used, or a significant adverse change that would indicate that the carrying amount of an asset or group of assets is not recoverable. When such events or circumstances arise, an estimate of the future undiscounted cash flows produced by the asset, or the appropriate grouping of assets, is compared to the asset’s carrying value to determine if impairment exists. If the asset is determined to be impaired, the impairment loss is measured based on the excess of its carrying value over its fair value. Assets to be disposed of are reported at the lower of their carrying value or net realizable value.

The Company has determined that there were no impairments of its property and equipment or its intangible assets during the years ended December 31, 2010 and 2009.

The FASB’s guidance on asset retirement obligations addresses financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated costs.  This guidance requires the recognition of an asset retirement obligation and an associated asset retirement cost when there is a legal obligation associated with the retirement of tangible long-lived assets.  The Company’s network equipment is installed on both buildings in which the Company has a lease agreement (“Company Locations”) and at customer locations.  In both instances, the installation and removal of the Company’s equipment is not complicated and does not require structural changes to the building where the equipment is installed.  Costs associated with the removal of the Company’s equipment at company or customer locations are not material, and accordingly, the Company has determined that it does not presently have asset retirement obligations under the FASB’s accounting guidance.

Goodwill.      Goodwill represents the excess of the purchase price over the estimated fair value of identifiable net assets acquired in an acquisition.  Goodwill is not amortized but rather is reviewed annually for impairment, or whenever events or circumstances indicate that the carrying value may not be recoverable.  A two-step test is performed at the reporting unit level to assess goodwill for impairment.  First, the fair value of the reporting unit is compared to its carrying value. If the fair value exceeds the carrying value, the reporting unit is not impaired and no further testing is performed. The second step is performed if the carrying value exceeds the fair value. If the carrying value of the goodwill exceeds its implied fair value, an impairment loss equal to the difference will be recorded.

Fair Value of Financial Instruments.  The Company has categorized its financial assets and liabilities measured at fair value into a three-level hierarchy in accordance with the FASB’s guidance. Fair value is defined as an exit price, the amount that would be received upon the sale of an asset or paid upon the transfer of a liability in an orderly transaction between market participants at the measurement date.  The degree of judgment utilized in measuring the fair value of assets and liabilities generally correlates to the level of pricing observability.  Financial assets and liabilities with readily available, actively quoted prices or for which fair value can be measured from actively quoted prices in active markets generally have more pricing observability and require less judgment in measuring fair value.  Conversely, financial assets and liabilities that are rarely traded or not quoted have less price observability and are generally measured at fair value using valuation models that require more judgment.  These valuation techniques involve some level of management estimation and judgment, the degree of which is dependent on the price transparency of the asset, liability or market and the nature of the asset or liability.  See Note 15 for a further discussion regarding the Company’s measurement of financial assets and liabilities at fair value.

Income Taxes.    Income taxes are accounted for under the asset and liability method.  Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases, and operating loss and tax credit carryforwards.  Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled.  The effect on deferred tax assets and liabilities of a change in tax rates is recognized in operations in the period enacted.  A valuation allowance is provided when it is more likely than not that a portion or all of a deferred tax asset will not be realized.  The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income and the reversal of deferred tax liabilities during the period in which related temporary differences become deductible. The benefit of tax   positions taken or expected to be taken in the Company’s income tax returns are recognized in the consolidated financial statements if such positions are more likely than not of being sustained.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

Segment Information.    The FASB has established standards for reporting information on operating segments of an enterprise in interim and annual financial statements.  The Company operates in one segment which is the business of providing broadband services.  The Company’s chief operating decision-maker reviews the Company’s operating results on an aggregate basis and manages the Company’s operations as a single operating segment.

Revenue Recognition.    The Company normally enters into contractual agreements with its customers for periods ranging between one to three years.  The Company recognizes the total revenue provided under a contract ratably over the contract period, including any periods under which the Company has agreed to provide services at no cost.  The Company applies the revenue recognition principles set forth under SEC Staff Accounting Bulletin 104, (“SAB 104”) which provides for revenue to be recognized when (i) persuasive evidence of an arrangement exists, (ii) delivery or installation has been completed, (iii) the customer accepts and verifies receipt, and (iv) collectability is reasonably assured.

Deferred Revenues.     Customers are billed monthly in advance.  Deferred revenues are recognized for that portion of monthly charges not yet earned as of the end of the reporting period.  Deferred revenues are also recognized for certain customers who pay for their services in advance.

 

Advertising Costs.    The Company charges advertising costs to expense as incurred. Advertising costs for the years ended December 31, 2010 and 2009 were approximately $962,000 and $789,000, respectively, and are included in sales and marketing expenses in the statements of operations.

Stock-Based Compensation.    The Company accounts for stock-based awards issued to employees in accordance with FASB guidance.  Such awards primarily consist of options to purchase shares of common stock. The fair value of stock-based awards is determined on the grant date using a valuation model.  The fair value is recognized as compensation expense, net of estimated forfeitures, on a straight line basis over the service period, which is normally the vesting period.

 

Basic and Diluted Net Loss Per Share.  Basic and diluted net loss per share has been calculated by dividing net loss by the weighted average number of common shares outstanding during the period.  All potentially dilutive common shares have been excluded since their inclusion would be anti-dilutive.

 

The following common stock equivalents were excluded from the computation of diluted net loss per common share because they were anti-dilutive.  The exercise of these common stock equivalents would dilute earnings per shares if the Company becomes profitable in the future.  The exercise of the outstanding stock options and warrants could generate proceeds up to approximately $25,618,000.

       

		Years Ended December 31,
		2010				2009
Stock options			3,706,885				3,738,638
Warrants			4,332,310				4,332,310
Total			8,039,195				8,070,948

Reclassifications.    Certain accounts in the prior year consolidated financial statements have been reclassified for comparative purposes to conform to the presentation in the current year consolidated financial statements.  These reclassifications have no effect on the previously reported net loss.

Recent Accounting Pronouncements.    The FASB has issued Accounting Standards Update (“ASU”) 2010-29, “Business Combinations (Topic 805): Disclosure of Supplementary Pro Forma Information for Business Combinations.”   This amendment affects any public entity as defined by Topic 805, Business Combinations that enters into business combinations that are material on an individual or aggregate basis. The comparative financial statements should present and disclose revenue and earnings of the combined entity as though the business combination(s) that occurred during the current year had occurred as of the beginning of the comparable prior annual reporting period only. The amendments also expand the supplemental pro forma disclosures to include a description of the nature and amount of material, nonrecurring pro forma adjustments directly attributable to the business combination included in the reported pro forma revenue and earnings. The amendments are effective prospectively for 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, 2010. The adoption of this standard is not expected to have a material impact on the Company’s consolidated financial position and results of operations.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

In December 2010, the FASB issued ASU 2010-28, “Intangibles — Goodwill and Other (Topic 350): When to Perform Step 2 of the Goodwill Impairment Test for Reporting Units with Zero or Negative Carrying Amounts”. ASU 2010-28 modifies Step 1 of the goodwill impairment test for reporting units with zero or negative carrying amounts by requiring an entity to perform Step 2 of the goodwill impairment test if it is more likely than not that a goodwill impairment exists. This update will be effective for fiscal years beginning after December 15, 2010. The adoption of this standard is not expected to have a material impact on the Company’s consolidated financial position and results of operations.

Subsequent Events .  Subsequent events have been evaluated through the date of this filing.

Note 3.    Business Acquisitions

Acquisition of Sparkplug Chicago, Inc

On April 15, 2010, the Company completed the acquisition of the customer contracts, network infrastructure and related assets of the Chicago, Illinois and Nashville, Tennessee networks of Sparkplug Chicago, Inc. (“Sparkplug”).   The acquisition expanded the Company’s presence in the Chicago market and introduced Nashville, Tennessee as the Company's 11 th market nationally.  The Company obtained full control of Sparkplug in the acquisition.

The Company has determined that the acquisition of Sparkplug was a business combination to be accounted for under the acquisition method.  The following table summarizes the consideration transferred and the amounts of identified assets acquired and liabilities assumed at the acquisition date:

Fair value of consideration transferred:
Cash		$	1,170,000
Common stock (275,700 shares)			430,000
			1,600,000
Recognized amounts of identifiable assets acquired and liabilities assumed:
Customer contracts			1,483,000
Property and equipment			591,590
Accounts receivable			85,387
Security deposits			3,400
Prepaid expenses			844
Accounts payable			(23,903	)
Deferred revenue			(184,442	)
Total identifiable net assets			1,955,876
Gain on business acquisition		$	355,876

The Company recognized a $355,876 gain on the business acquisition as a result of Sparkplug Chicago, Inc. being sold at a discounted price due to the realignment of its geographic markets by its parent company, Sparkplug Inc. The gain on business acquisition is included in other income (expense) in the Company’s consolidated statements of operations.

During the year ended December 31, 2010, the Company incurred approximately $282,000 of third-party costs in connection with the Sparkplug acquisition.  These expenses are included in the general and administrative expenses in the Company’s consolidated statements of operations.

Acquisition of Pipeline Wireless, LLC

On December 15, 2010, the Company completed the acquisition of Pipeline Wireless, LLC (“Pipeline”).   The acquisition strengthened and expanded the Company’s presence in the Boston market.  The Company obtained full control of Pipeline in the acquisition.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

The Company has determined that the acquisition of Pipeline was a business combination to be accounted for under the acquisition method.  The following table summarizes the consideration transferred and the amounts of identified assets acquired and liabilities assumed at the acquisition date:

Fair value of consideration transferred:
Cash		$	1,580,060
Common stock (411,523 shares)			1,485,598
Deferred payments			613,646
Capital lease obligations assumed			152,164
			3,831,468
Recognized amounts of identifiable assets acquired and liabilities assumed:
Customer contracts			1,864,187
Property and equipment			266,345
Accounts receivable			194,137
Security deposits			6,363
Prepaid expenses and other current assets			86,240
Accounts payable			(30,219	)
Deferred revenue			(239,939	)
Other current liabilities			(40,217	)
Total identifiable net assets			2,106,897
Goodwill		$	1,724,571

The Company allocated the purchase price of Pipeline to identifiable assets acquired and liabilities assumed based of their fair values on the date of acquisition. The Company recognized $1,724,571 of goodwill related to the acquisition, which represents the excess of the purchase price over the estimated fair values of the identifiable net assets. The Company expects the full balance of goodwill to be tax deductible for tax purposes.

Deferred payments totaling $768,869 will be made to Pipeline beginning in June 2011 in 36 monthly installments of $21,357. Total gross payments of $768,869 were discounted at a 12% rate and recorded at $613,646 for acquisition purposes. Current and long-term balances totaled $136,439 and $477,207 at December 31, 2010, respectively.

During the year ended December 31, 2010, the Company incurred approximately $337,000 of third-party costs in connection with the Pipeline acquisition.  These expenses are included in the general and administrative expenses in the Company’s consolidated statements of operations.

Pro Forma Information

The following table reflects the unaudited pro forma consolidated results of operations had the Sparkplug and Pipeline acquisitions taken place at the beginning of the 2010 and 2009 periods:

		Year Ended December 31,
		2010				2009
Revenues		$	21,864,364			$	18,339,663
Amortization expense			2,587,040				2,587,040
Total operating expenses			28,307,060				26,443,247
Net loss			(5,997,260	)			(9,297,145	)
Basic net loss per share		$	(0.17	)		$	(0.27	)

 

The pro forma information presented above does not purport to present what actual results would have been had the acquisitions actually occurred at the beginning of 2009, nor does the information project results for any future period.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

Note 4.    Property and Equipment, net

 

The Company’s property and equipment, net is comprised of:

		December 31,
		2010				2009
Network and base station equipment		$	16,278,966			$	13,282,567
Customer premise equipment			12,496,065				9,324,444
Furniture, fixtures and other			1,541,675				1,525,980
Computer equipment			683,071				610,847
System software			833,109				819,305
Leasehold improvements			775,420				775,420
			32,608,306				26,338,563
Less: accumulated depreciation			17,342,250				12,703,878
		$	15,266,056			$	13,634,685

Depreciation expense for the years ended December 31, 2010 and 2009 was $4,815,113 and $4,035,267, respectively. The Company sold or disposed of property and equipment with $254,444 of cost and $176,741 of accumulated depreciation for the year ended December 31, 2010.  The Company sold or disposed of property and equipment with $315,264 of cost and $246,192 of accumulated depreciation for the year ended December 31, 2009.

 

Property held under capital leases included within the Company’s property and equipment consists of the following:

		December 31,
		2010				2009
Network and base station equipment		$	92,836			$	168,441
Customer premise equipment			59,328				-
			152,164				168,441
Less: accumulated depreciation			1,268				130,515
		$	150,896			$	37,926

During 2009, the Company finished making lease payments on property held under capital leases with a gross value of $168,441 and accumulated depreciation of $130,515. The Company obtained clear title to the equipment, and accordingly, is no longer reporting these assets as property held under capital leases.

Note 5.  Intangible Assets, net

The Company’s intangible assets, net are comprised of the following:

		December 31,
		2010				2009
Customer contracts		$	3,347,187			$	-
FCC licenses			975,000				975,000
			4,322,187				975,000
Less: accumulated amortization			955,222				-
		$	3,366,965			$	975,000

Amortization expense for year ended December 31, 2010 was $955,222.  The Company is amortizing the customer contracts acquired in the Sparkplug acquisition over a 14 month period and the customer contracts acquired in the Pipeline acquisition over a 17 month period.  As of December 31, 2010, the average remaining amortization period was 11 months. Future amortization expense of intangible assets is expected to be approximately $1,899,000 for 2011 and $493,000 for 2012.  No amortization expense is expected to be recognized after 2012.

As further described in Note 2, FCC licenses are not subject to amortization as they have an indefinite useful life.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

  

Note 6.  Accrued Expenses

Accrued expenses consist of the following:

		December 31,
		2010				2009
Payroll and related		$	595,710			$	430,360
Property and equipment			338,763				140,566
Professional services			325,485				157,151
Network			111,055				57,688
Marketing			65,898				79,026
Offering costs			55,000				-
Penalties			-				95,726
Other			103,805				125,741
Total		$	1,595,716			$	1,086,258

Network expenses consist of expenses directly related to providing services to our customers.

  

Note 7.    Debt

  

In January 2007, the Company issued $3,500,000 of 8% senior convertible debentures (the ‘‘Debentures’’). The Debentures matured on December 31, 2009 and were convertible, in whole or in part, into shares of common stock at an initial conversion price of $2.75 per share.  In addition, holders of the Debentures received warrants to purchase an aggregate of 636,364 shares of common stock at an exercise price of $4.00 per share and warrants to purchase an aggregate of 636,364 shares of common stock at an exercise price of $6.00 per share. These warrants are exercisable until January 2012 and were calculated using the Black-Scholes option pricing model. The proceeds were allocated between the warrants ($526,927) and the Debentures ($2,973,073) based on their relative fair values.  The initial, discounted carrying value of the Debentures of $2,973,073 was accreted to the maturity value over the term of the Debentures.  The amount of accretion recorded in each period was recognized as non-cash interest expense.

In January 2008, a Debenture holder converted $750,000 of Debentures into common stock at a conversion price of $2.75 per share resulting in the issuance of 272,727 shares of common stock.  On December 31, 2009, the maturity date, the Company paid $2,750,000 to the holder of all outstanding Debentures.

As further described in Note 8, a new accounting standard became effective on January 1, 2009 related to the accounting for derivative financial instruments indexed to a company’s own stock.  In connection with its implementation, the Company was required to classify the conversion feature of the Debentures and the warrants issued with the Debentures as derivative liabilities.  The cumulative effect of adopting this standard resulted in a decrease in the carrying value of the Debentures as of January 1, 2009 from $2,607,395 to $2,293,222.  Interest expense totaled $676,778 during the year ended December 31, 2009 and included $220,000 associated with the 8% coupon and $456,778 associated with accretion of the discount.   

  

In connection with the Debentures, the Company incurred placement agent fees totaling approximately $140,000 and issued placement agent warrants to purchase up to 63,636 shares of common stock at an exercise price of $4.50 per share. The warrants are exercisable for five years and were valued at $34,750 using the Black-Scholes pricing model.  These financing costs were amortized ratably through December 31, 2009.

Note 8.    Derivative Liabilities

In June 2008, the FASB issued an accounting standard related to the accounting for derivative financial instruments indexed to a company’s own stock.  Under this standard, instruments which do not have fixed settlement provisions are deemed to be derivative instruments.  The fair value of these liabilities is re-measured at the end of every reporting period with the change in value reported in the statement of operations.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

Certain of the Company’s warrants did not initially have fixed settlement provisions because their exercise price could have been lowered if the Company had issued securities at lower prices (“reset provisions”).  Accordingly, these warrants were initially reported as derivative liabilities.  As of January 1, 2010, the reset provisions were no longer applicable and the warrants were determined to have fixed settlement provisions.  As a result, the fair value of the warrants were reclassified to equity as of January 1, 2010.

  

The derivative liabilities were valued using the Black-Scholes option pricing model and the following assumptions:

		December 31, 2009				January 1, 2009				January 18, 2007
Debenture conversion feature:
Risk-free interest rate							0.4	%			4.7	%
Expected volatility							74	%			60	%
Expected life (in years)							1				3
Expected dividend yield							-				-
Warrants:
Risk-free interest rate			1.1	%			1.0	%			4.7	%
Expected volatility			86	%			74	%			60	%
Expected life (in years)			2				3				3
Expected dividend yield			-				-				-
Fair value:
Debenture conversion feature		$	-			$	11,838			$	856,025
Warrants		$	566,451			$	76,069			$	620,316

The risk-free interest rate was based on rates established by the Federal Reserve.  Effective in the first quarter of 2008, the Company based expected volatility on the historical volatility for its common stock.  Previously, the Company’s estimated volatility was based on the volatility of publicly-traded peers.  The expected life of the Debentures’ conversion option was based on the maturity of the Debentures and the expected life of the warrants was based on their full term.  The expected dividend yield of zero was based upon the fact that the Company has not historically paid dividends, and does not expect to pay dividends in the future.

This new standard was implemented in the first quarter of 2009 and is reported as the cumulative effect of a change in accounting principle.  The cumulative effect on the accounting for the conversion feature and the warrants as of January 1, 2009 was as follows:

Derivative Instrument		Additional Paid-In-Capital				Accumulated Deficit				Derivative Liability				Debenture
Conversion feature		$	-			$	(277,531	)		$	(11,838	)		$	289,369
Warrants		$	526,927			$	(475,662	)		$	(76,069	)		$	24,804
Total		$	526,927			$	(753,193	)		$	(87,907	)		$	314,173

The warrants were originally recorded at their relative fair value as an increase in additional paid-in-capital.  Changes in the accumulated deficit upon the adoption of the new standard include $635,241 of interest expense associated with the accretion of additional discount recognized on the Debenture and $1,388,434 in gains resulting from decreases in the fair value of the derivative liabilities through December 31, 2008.  The derivative liability amounts reflect the fair value of each derivative instrument as of the January 1, 2009 date of implementation.  The Debenture amounts represent the additional discount recorded upon adoption of this new standard.  This discount was recognized in 2009 as additional interest expense.

On December 31, 2009, the Company repaid the Debentures.  Therefore, as of December, 31, 2009, there was no value associated with the debenture conversion feature.

 

 

40

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

  Note 9.    Capital Stock

 

The Company is authorized to issue 5,000,000 shares of preferred stock at a par value of $0.001.  There were no issuances of preferred stock as of December 31, 2010 and 2009, respectively.

The Company is authorized to issue 70,000,000 shares of common stock at a par value of $0.001. The holders of common stock are entitled to one vote per share.  The holders of common stock are entitled to receive ratably such dividends, if any, as may be declared by the board of directors out of legally available funds. Upon liquidation, dissolution or winding-up, the holders of the Company’s common stock are entitled to share ratably in all assets that are legally available for distribution. The holders of the Company’s common stock have no preemptive, subscription, redemption or conversion rights. The rights, preferences and privileges of holders of the Company’s common stock are subject to, and may be adversely affected by, the rights of the holders of any series of preferred stock, which may be designated solely by action of the board of directors and issued in the future.

In November 2010, the Company adopted a shareholder rights plan (the “Rights Plan”).  The purpose of the Rights Plan is to protect the long-term value of the Company for its shareholders and to protect shareholders from various abusive takeover tactics.  Under the Rights Plan, the Company issued one preferred share purchase right for each of the Company's common stock held by shareholders of record as of the close of business on November 24, 2010.  In general, the rights would become exercisable if a person or group acquires 15% or more of the Company’s common stock or announces a tender offer or exchange offer for 15% or more of the Company’s common stock.  Each holder of a right will be allowed to purchase one one-hundredth of a share of a newly created series of the Company’s preferred shares at an exercise price of $18.00.   The rights will expire on November 8, 2020.  The Company may redeem the rights for $0.001 each at any time until the tenth business day following public announcement that a person or group has acquired 15% or more of its outstanding common stock.

In 2010, 9,225 shares of common stock were issued to executive officers as part of their quarterly bonuses.  The Company recognized compensation expense totaling $17,250, which represented the fair value of the shares on the date of issuance.  In 2009, 32,687 shares of common stock were issued to executive officers as part of their quarterly bonuses.  The Company recognized compensation expense totaling $42,525, which represented the fair value of the shares on the date of issuance.

During 2010, stock options were exercised on a cashless basis by current or former employees to purchase a total of 361,950 shares, resulting in the issuance of 119,104 shares.  During 2009, stock options were exercised on a cashless basis by current or former employees to purchase a total of 144,177 shares, resulting in the issuance of 41,688 shares.  Under a cashless exercise, the holder uses a portion of the shares that would otherwise be issuable upon exercise, rather than cash, as consideration for the exercise.  The amount of net shares issuable in connection with a cashless exercise will vary based on the exercise price of the option or warrant compared to the current market price of the Company’s common stock on the date of exercise.

During 2010, stock options were exercised on a cash basis by a current employee to purchase a total of 1,333 shares at an exercise price of $0.69 per share.

In April 2010, the Company issued 275,700 shares of common stock to Sparkplug as part of the consideration paid for the acquisition.  The fair value of the common stock issued was $430,000.

In November 2010, the Company issued 6,571,429 shares of common stock in connection with an underwritten offering at $2.80 per share, resulting in gross proceeds of $18,400,000. The Company incurred costs of approximately $1,440,000 related to this underwritten offering.

In December 2010, the Company issued 411,523 shares of common stock to Pipeline as part of the consideration paid for the acquisition.  The fair value of the common stock issued was $1,485,598.

Note 10.  Share-Based Compensation

The Company uses the Black-Scholes valuation model to value options granted to employees, directors and consultants.  Compensation expense, including the effect of forfeitures, is recognized over the period of service, generally the vesting period.  Stock-based compensation for the amortization of stock options granted under the Company’s stock option plans totaled $649,502 and $760,431 for the years ended December 31, 2010 and 2009, respectively.  Stock-based compensation is included in general and administrative expenses in the accompanying consolidated statements of operations.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

The unamortized amount of stock options expense was $360,898 as of December 31, 2010 which will be recognized over a weighted-average period of 1.99 years.

The fair values of stock option grants were calculated on the dates of grant using the Black-Scholes option pricing model and the following weighted average assumptions:

		Years Ended December 31,
		2010				2009
Risk-free interest rate			1.0% - 3.3	%			0.2% - 2.9	%
Expected volatility			73	%			79% - 88	%
Expected life (in years)			2.5 – 6.1				0.1 - 6.8
Expected dividend yield			0	%			0	%

 

The risk-free interest rate was based on rates established by the Federal Reserve. The Company’s expected volatility was based upon the historical volatility for its common stock.  The expected life of the Company’s options was determined using the simplified method as a result of limited historical data regarding the Company’s activity.  The dividend yield is based upon the fact that the Company has not historically paid dividends, and does not expect to pay dividends in the future.

The Company recorded additional stock-based compensation related to the issuance of common stock to executive officers as a part of their bonus programs, which totaled $17,250 and $42,525 for the years ended December 31, 2010 and 2009, respectively.  Total shares issued to executive officers were 9,225 and 32,687 for the years ended December 31, 2010 and 2009, respectively.

In the third quarter of 2010, the Company recorded stock-based compensation related to the issuance of common stock to a third party for services rendered.  The fair value of the common stock issued was $105,060.  The total shares issued as part of this consideration was 66,075.

Note 11.   Employee Benefit Plan

 

The Company has established a 401(k) retirement plan (“401(k) plan”) which covers all eligible employees who have attained the age of twenty-one and have completed 30 days of employment with the Company. The Company can elect to match up to a certain amount of employees’ contributions to the 401(k) plan.  No employer contributions were made during the years ended December 31, 2010 and 2009.

Note 12.   Income Taxes

The provision for income taxes using the statutory Federal tax rate as compared to the Company’s effective tax rate is summarized as follows:

		For the Years Ended December 31,
		2010				2009
Federal statutory rate			(34.0	)%			(34.0	)%
State taxes			(6.0	)%			(6.0	)%
Permanent differences			(0.4	)%			3.9	%
Valuation allowance			40.4	%			36.1	%
Effective tax rate			0.0	%			0.0	%

The Company files income tax returns for Towerstream Corporation and its subsidiaries in the United States with the Internal Revenue Service and with various state jurisdictions.  As of December 31, 2010, the tax returns for Towerstream Corporation for the years 2007 through 2010 remain open to examination by the Internal Revenue Service and various state authorities.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

  

Deferred tax assets (liabilities) consist of the following:

		For the Years Ended December 31,
		2010				2009
Net operating loss carryforward		$	12,894,080			$	11,134,911
Stock-based compensation			1,074,190				894,420
Intangible assets			359,114				-
Allowance for doubtful accounts			47,530				35,320
Other			24,170				16,195
Total deferred tax assets			14,399,084				12,080,846
Valuation allowance			(12,986,730	)			(10,725,067	)
Net deferred tax assets			1,412,354				1,355,779
Depreciation			(1,412,354	)			(1,301,223	)
Intangible assets			-				(54,556	)
Deferred tax liabilities			(1,412,354	)			(1,355,779	)
Net		$	-			$	-

Accounting for Uncertainty in Income Taxes

Effective January 1, 2007, the Company adopted the FASB’s guidance on accounting for uncertainty in income taxes.  In accordance with this guidance, interest costs and related penalties related to unrecognized tax benefits are required to be calculated, if applicable.  No interest and penalties were recorded during the years ended December 31, 2010 and 2009, respectively.  As of December 31, 2010 and 2009, no liability for unrecognized tax benefits was required to be recorded.

  

NOL Limitations

  

The Company’s utilization of net operating loss ( “ NOL ” ) carryforwards is subject to an annual limitation due to ownership changes that have occurred previously or that could occur in the future as provided in Section 382 of the Internal Revenue Code of 1986, as well as similar state and foreign provisions.  In general, an ownership change, as defined by Section 382, results from transactions increasing the ownership of certain stockholders in the stock of a corporation by more than fifty percentage points over a three-year period. Since its formation, the Company has raised capital through the issuance of capital stock and various convertible instruments which, combined with the purchasing shareholders’ subsequent disposition of these shares, has resulted in an ownership change as defined by Section 382, and also could result in an ownership change in the future upon subsequent disposition.

The annual NOL limitation is determined by first multiplying the value of the Company’s stock at the time of ownership change by the applicable long-term tax exempt rate, and could then be subject to additional adjustments, as required. Any limitation may result in expiration of a portion of the NOL carryforwards before utilization. 

The Company has not utilized any of its NOL carryforwards as it has never reported taxable income.  The Company has applied a full valuation allowance against deferred tax assets related to its NOL carryforwards. The Company had NOLs of approximately $32,235,000 and $27,809,000 for the years ended December 31, 2010 and 2009, respectively. Federal NOLs will begin expiring in 2027.  State NOLs will begin expiring in 2012.

   

Valuation Allowance

  

In assessing the realizability of deferred tax assets, the Company has considered whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. In making this determination, under the applicable financial reporting standards, the Company is allowed to consider the scheduled reversal of deferred tax liabilities, projected future taxable income, and tax planning strategies. A full valuation allowance has been recorded for the deferred tax asset balance as of December 31, 2010 and 2009. The change in valuation allowance was $2,261,663 and $3,109,343, respectively for the years ended December 31, 2010 and 2009.  A valuation allowance will be maintained until sufficient positive evidence exists to support the reversal of any portion or all of the valuation allowance.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

   

Note 13.    Stock Option Plans

 

In January 2007, the Company adopted the 2007 Equity Compensation Plan (the ‘‘2007 Plan’’).  The 2007 Plan provides for the issuance of options, stock appreciation rights, restricted stock, restricted stock units, bonus shares and dividend equivalents to officers and other employees, consultants and directors of the Company.  The total number of shares of common stock issuable under the 2007 Plan is 2,403,922. A total of 2,112,974 stock options or common stock has been issued under the 2007 Plan as of December 31, 2010.

In May 2007, the Board of Directors approved the adoption of the 2007 Incentive Stock Plan which provides for the issuance of up to 2,500,000 shares of common stock in the form of options or restricted stock (the ‘‘2007 Incentive Stock Plan’’). The 2007 Incentive Stock Plan was approved by the Company’s stockholders in May 2007. A total of 1,453,053 stock options or common stock has been issued under the 2007 Incentive Stock Plan as of December 31, 2010.

Options granted under both the 2007 Plan and the 2007 Incentive Plan have terms up to ten years and are exercisable at a price per share not less than the fair value of the underlying common stock on the date of grant. The total number of shares of common stock that remain available for issuance as of December 31, 2010 under the 2007 Plan and the 2007 Incentive Stock Plan combined is 1,337,895 shares.

 

In August 2008, the Company’s stockholders approved the adoption of the 2008 Non-Employee Directors Compensation Plan (the “2008 Directors Plan”).  Under the 2008 Directors Plan, an aggregate of 1,000,000 shares have been reserved for issuance.  As of December 31, 2010, 400,000 stock options or common stock have been issued under this plan.  Options granted under the 2008 Directors Plan have terms of up to five years and are exercisable at a price per share equal to the fair value of the underlying common stock on the date of grant.

Transactions under the stock option plans during the years ended December 31, 2010 and 2009 were as follows:

		Number of Options				Weighted Average Exercise Price
Outstanding as of  January 1, 2009			3,335,793			$	1.82
Granted during 2009			690,526				0.86
Exercised			(144,177	)			1.27
Forfeited /expired			(143,504	)			1.27
Outstanding as of December 31, 2009			3,738,638			$	1.69
Granted during 2010			375,000				1.80
Exercised			(363,283	)			1.37
Forfeited /expired			(43,470	)			0.95
Outstanding as of December 31, 2010			3,706,885			$	1.74

The weighted-average fair value of the options granted during 2010 and 2009 were $0.99 and $0.58, respectively. Outstanding options of 3,706,885 as of December 31, 2010 had exercise prices that ranged from $0.68 to $9.74 and had a weighted-average remaining contractual life of 5.80.  Exercisable options of 3,218,413 as of December 31, 2010 had exercise prices that ranged from $0.68 to $9.74 and had a weighted-average remaining contractual life of 5.42.

The intrinsic value of outstanding and exercisable options totaled $9,426,350 and $8,155,462, respectively, as of December 31, 2010.  The intrinsic value is calculated as the difference between the closing price of the Company’s common stock at December 31, 2010, which was $4.06 per share, and the exercise price of the options.

The number of shares issuable upon the exercise of outstanding options, and the proceeds upon the exercise of such options, will be lower if an option holder elects to exercise on a cashless basis.

Note 14.    Stock Warrants

Warrants outstanding and exercisable totaled 4,332,310 with a weighted-average exercise price of $4.61 (ranging between $4.00 and $6.00) as of December 31, 2010 and December 31, 2009.  The weighted-average remaining contractual life as of December 31, 2010 was 1.06 years.

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

The following table summarizes information concerning outstanding and exercisable warrants as of December 31, 2010:

      

Exercise Prices				Number Outstanding				Weighted Average Remaining Contractual Life (years)				Proceeds Upon Exercise				Intrinsic Value			Expiration Date
$	4.00				636,364				1.03			$	2,545,456			$	38,182		1/12/12
$	4.00				300,000				1.45				1,200,000				18,000		6/11/12
$	4.50				2,759,582				1.03				12,418,119				-		1/12/12
$	6.00				636,364				1.03				3,818,184				-		1/12/12
					4,332,310				1.06			$	19,981,759			$	56,182

The intrinsic value associated with the Company’s warrants outstanding or exercisable totaled $56,182 and zero as of December 31, 2010 and 2009, respectively.

The number of shares issuable upon the exercise of outstanding warrants, and the proceeds upon the exercise of such warrants, will be lower if a warrant holder elects to exercise on a cashless basis.

Note 15.    Fair Value Measurement

Valuation Hierarchy

The FASB’s accounting standard for fair value measurements establishes a valuation hierarchy for disclosure of the inputs to valuation used to measure fair value.  This hierarchy prioritizes the inputs into three broad levels as follows.  Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities.  Level 2 inputs are quoted prices for similar assets and liabilities in active markets or inputs that are observable for the asset or liability, either directly or indirectly through market corroboration, for substantially the full term of the financial instrument.  Level 3 inputs are unobservable inputs based on the Company’s own assumptions used to measure assets and liabilities at fair value.  A financial asset or liability’s classification within the hierarchy is determined based on the lowest level input that is significant to the fair value measurement.

The following table provides the assets and liabilities carried at fair value measured on a recurring basis as of December 31, 2010 and 2009, respectively:

						Fair Value Measurements at December 31, 2010
		Total Carrying Value at December 31, 2010				Quoted prices in active markets (Level 1)				Significant other observable inputs (Level 2)				Significant unobservable inputs (Level 3)
Cash and cash equivalents		$	23,173,352			$	23,173,352			$	-			$	-

  

						Fair Value Measurements at December 31, 2009
		Total Carrying Value at December 31, 2009				Quoted prices in active markets (Level 1)				Significant other observable inputs (Level 2)				Significant unobservable inputs (Level 3)
Cash and cash equivalents		$	14,040,839			$	14,040,839			$	-			$	-
Derivative liabilities		$	566,451			$	-			$	-			$	566,451

 

 

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TOWERSTREAM CORPORATION

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS- CONTINUED

Cash and cash equivalents are measured at fair value using quoted market prices and are classified within Level 1 of the valuation hierarchy.  The carrying amounts of accounts receivable, accounts payable and accrued liabilities approximate their fair value due to their short maturities.  The derivative liabilities are measured at fair value using quoted market prices and estimated volatility factors, and are classified within Level 3 of the valuation hierarchy. There were no changes in the valuation techniques during the year ended December 31, 2010.

The following table sets forth a summary of the changes in the fair value of our Level 3 financial liabilities that are measured at fair value on a recurring basis:

		Years Ended December 31,
		2010				2009
Fair value, beginning of period		$	566,451			$	87,907
Reclassification of derivative liability to equity			(566,451	)			-
Net unrealized loss on derivative financial instruments			-				478,544
Ending balance		$	-			$	566,451

Note 16.    Commitments and Contingencies

 

Lease Obligations.    The Company has entered into operating leases related to roof rights, cellular towers, office space, and equipment leases under various non-cancelable agreements expiring through December 2020.

As of December 31, 2010, total future lease commitments were as follows:

Year Ending December 31,
2011		$	3,914,914
2012			3,523,107
2013			2,513,656
2014			1,445,535
2015			740,827
Thereafter			1,742,702
		$	13,880,741

Rent expense for the years ended December 31, 2010 and 2009 totaled approximately $3,280,000 and $2,614,000, respectively.

 

In March 2007, the Company entered into a lease agreement for its corporate offices (the “Original Space”). In August 2007, the Company signed a lease amendment adding approximately 25,000 square feet (the “Additional Space”) and extending the lease term. The new lease term commenced in October 2007 and terminates six years from the date of commencement with an option to renew for an additional five-year term.  The Company’s annual rent payments totaled approximately $557,000 in 2010 and will remain at that level through May 2012, before increasing to approximately $590,000 through the end of the lease.

The landlord provided the Company with certain incentives as an inducement to enter the lease agreements.  These incentives included (i) an allowance of $163,330 for leasehold improvements on the Original Space, (ii) an allowance of $200,000 for leasehold improvements on the Additional Space, and (iii) an initial six-month rent-free period on half of the Additional Space.  Leasehold improvements funded by the landlord have been (i) capitalized and are being amortized over the remaining lease term and (ii) recognized as deferred rent and amortized ratably over the term of the lease.   The economic value of the rent-free period is also recognized as deferred rent and amortized ratably over the term of the lease.  Current and long term balances totaled $84,157 and $191,025 at December 31, 2010.

 

Other Commitments and Contingencies .  One of the purchase agreements related to FCC licenses includes a contingent payment depending on the status of the license with the FCC and whether the Company has obtained approval to broadcast terrestrially in the 3650 to 3700 MHz band.  The contingent payment is due in May 2011 and payable in shares of common stock with a fair value of $275,000. The Company presently expects that it will make the contingent payment in May 2011.

 

 

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Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure.

None.

Item 9A. Controls and Procedures.

 

Disclosure Controls and Procedures

 

We carried out an evaluation, under the supervision and with the participation of our management, including our chief executive officer and chief financial officer, of the effectiveness of the design and operation of our disclosure controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the ‘‘Exchange Act’’). 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, including its principal executive and principal financial officers, or persons performing similar functions, as appropriate to allow timely decisions regarding required disclosure. Based upon our evaluation, our chief executive officer and chief financial officer concluded that our disclosure controls and procedures are effective, as of December 31, 2010, in ensuring that material information that we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission rules and forms.

 

Changes in Internal Control over Financial Reporting

 

There were no changes in our system of internal control over financial reporting during the fourth quarter of the year ended December 31, 2010 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

 

Management’s Annual Report on Internal Control over Financial Reporting

 

Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act as a process designed by, or under the supervision of, a company’s principal executive and principal financial officers and effected by a company’s 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. Our internal control over financial reporting includes those policies and procedures that:

·

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

·

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

·

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

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

Our management assessed the effectiveness of our internal control over financial reporting as of December 31, 2010. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control — Integrated Framework.

Based on our assessment, our management has concluded that, as of December 31, 2010, our internal control over financial reporting is effective based on those criteria.

 

 

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This annual report does not include an attestation report of our registered public accounting firm regarding internal control over financial reporting. Management’s report was not subject to attestation by our registered public accounting firm pursuant to rules of the Securities and Exchange Commission that permanently exempt smaller reporting companies.

Item 9B. Other Information.

None.

 

 

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PART III

Item 10. Directors, Executive Officers and Corporate Governance.

Directors and Executive Officers

The following table sets forth the names, ages, and positions of our current directors and executive officers.  Our directors hold office for one-year terms until the following annual meeting of stockholders and until his or her successor has been elected and qualified or until the director’s earlier resignation or removal. Officers are elected annually by the Board of Directors (the “Board”) and serve at the discretion of the Board.

 

Name		Age		Position
Jeffrey M. Thompson		46		President, Chief Executive Officer and Director
Philip Urso		51		Chairman of the Board of Directors
Joseph P. Hernon		51		Chief Financial Officer
Melvin L. Yarbrough, Jr.		45		Chief Operating Officer
Howard L. Haronian, M.D. (1)(2)(3)		49		Director
Paul Koehler (1)(3)		51		Director
William J. Bush (1)(2)		45		Director

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(1)	Member of our Audit Committee.

(2)	Member of our Compensation Committee.

(3)	Member of our Nominating Committee.

The biographies below include information related to service by the persons below to Towerstream Corporation and our subsidiary, Towerstream I, Inc. On January 4, 2007, we merged with and into a wholly-owned Delaware subsidiary, for the sole purpose of changing our state of incorporation to Delaware. On January 12, 2007, a wholly-owned subsidiary of ours completed a reverse merger with and into a private company, Towerstream Corporation, with Towerstream Corporation (the private company) being the surviving company and becoming a wholly-owned subsidiary of ours. Upon closing of the merger, we discontinued our former business and succeeded to the business of Towerstream Corporation as our sole line of business. At the same time, we also changed our name from University Girls Calendar Ltd to Towerstream Corporation, and our newly acquired subsidiary, Towerstream Corporation, changed its name to Towerstream I, Inc.

 

Jeffrey M. Thompson co-founded Towerstream I, Inc. in December 1999 with Philip Urso. Mr. Thompson has served as a director since inception and as chief operating officer from inception until November 2005 when Mr. Thompson became president and chief executive officer. Since becoming a public entity in January 2007, Mr. Thompson has been our president, chief executive officer and a director.  In 1995, Mr. Thompson co-founded and was vice president of operations of EdgeNet Inc., a privately held Internet service provider (which was sold to Citadel Broadcasting Corporation in 1997 and became eFortress (“eFortress”)) through 1999. Mr. Thompson holds a B.S. degree from the University of Massachusetts. Mr. Thompson was appointed to the Board of Directors due to his significant experience in the wireless broadband industry, his familiarity with the Company, as well as his extensive business management expertise.

Philip Urso co-founded Towerstream I, Inc. in December 1999 with Jeffrey M. Thompson. Mr. Urso has served as a director and chairman since inception and as chief executive officer from inception until November 2005. Since becoming a public entity in January 2007, Mr. Urso has been our chairman and a director. In 1995, Mr. Urso co-founded eFortress (previously EdgeNet Inc.) and served as its president through 1999. From 1983 until 1997, Mr. Urso owned and operated a group of radio stations. In addition, Mr. Urso co-founded the regional cell-tower company, MCF Communications, Inc. Mr. Urso was appointed to the Board of Directors due to his significant experience in the wireless broadband industry, his familiarity with the Company, as well as his extensive business management expertise.

Joseph P. Hernon has been our chief financial officer, principal financial officer and principal accounting officer since joining the Company in May 2008. From November 2007 until May 2008, Mr. Hernon was a financial consultant to a high technology company. From November 2005 until October 2007, Mr. Hernon served as the chief financial officer of Aqua Bounty Technologies Inc., a biotechnology company dedicated to the improvement of productivity in the acquaculture industry through the application of biotechnology. From August 1996 until October 2005, Mr. Hernon served as vice president, chief financial officer and secretary of Boston Life Sciences Inc., a biotechnology company focused on developing therapeutics and diagnostics for central nervous system diseases. From January 1987 until August 1996, Mr. Hernon held various positions while employed at Price Waterhouse Coopers LLP, an international accounting firm.  Mr. Hernon is a certified public accountant and holds a B.S. degree in Business Administration from the University of Lowell, Massachusetts and a M.S. degree in Accounting from Bentley College in Waltham, MA.

 

 

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Melvin L. Yarbrough, Jr. has been our chief operating officer since November 2010.  Mr. Yarbrough has been employed by the Company since April 2007, serving as Vice President of Sales until his appointment to Chief Revenue Officer in August 2008.  In November 2010, Mr. Yarbrough was appointed to Chief Operating Officer. Mr. Yarbrough came to Towerstream from Hoovers (Dun and Bradstreet (“D&B”)), where he first served as Vice President of Business Development and then Vice President of Subscription Sales from 2005 until 2007. Prior to joining D&B, Mr. Yarbrough spent nearly a decade in several executive sales positions, including serving as Senior Vice President of Sales, Marketing and Alliance Channel at StarCite, an on-demand global meetings management company, and as Vice President of Sales at Handango, a handheld and wireless software solutions company. Mr. Yarbrough holds a B.A. degree in Economics and Business from Southern Methodist University and a J.D. degree from Vanderbilt University School of Law.

Howard L. Haronian, M.D., has served as a director of Towerstream I, Inc. since inception in December 1999. Since becoming a public entity in January 2007, Dr. Haronian has been a director. Dr. Haronian is an interventional cardiologist and has been president of Cardiology Specialists, Ltd. of Rhode Island since 1994. Dr. Haronian has served on the clinical faculty of the Yale School of Medicine since 1994. Dr. Haronian has directed the cardiac catheterization program at Westerly Hospital since founding the program in 2003. Dr. Haronian was appointed to the Board of Directors based on his extensive knowledge of the Company’s operations since its founding and his executive level experience at other organizations.

Paul Koehler has been a director since January 2007. Mr. Koehler has served as vice president of corporate development of Pacific Ethanol, Inc. (NasdaqGM: PEIX) since June 2005. Mr. Koehler has over twenty years of experience in the power and renewable fuels industries and in marketing, trading and project development. Prior to working for Pacific Ethanol Inc., from 2001 to 2005, Mr. Koehler developed wind power projects for PPM Energy Inc., a wind power producer and marketer. Mr. Koehler was president and co-founder of Kinergy Corporation, a consulting firm focused on renewable energy, project development and risk management from 1993 to 2003. During the 1990s, Mr. Koehler worked for Portland General Electric Company and Enron Corp. in marketing and origination of long- term transactions, risk management and energy trading. Mr. Koehler holds a B.A. degree from the Honors College at the University of Oregon.  Mr. Koehler currently serves on the Board of Directors of Oregon College of Art and Craft, a private art college, and has been a director since 2009.  Mr. Koehler also served on the Board of Directors of Oregon College of Art and Craft, from 2005 through 2007. Mr. Koehler was appointed to the Board of Directors based on his experience as an executive at other public companies and as a director of other organizations.

 

William J. Bush has been a director since January 2007. Since January 2010, Mr. Bush has served as the chief financial officer of Borrego Solar Systems, Inc., which is one of the nation’s leading financiers, designers and installers of commercial and government grid-connected solar electric power systems. From October 2008 to December 2009, Mr. Bush served as the chief financial officer of Solar Semiconductor, Ltd., a private vertically integrated manufacturer and distributor of quality photovoltaic modules and systems targeted for use in industrial, commercial and residential applications with operations in India helping it reach $100 million in sales in its first 15 months of operation . From January 2006 through December 2007, Mr. Bush served as chief financial officer of ZVUE Corporation (formerly known as Handheld Entertainment, Inc. (Pink Sheets: ZVUE.PK)), a distributor of user generated content. From 2002 to 2005, Mr. Bush was the chief financial officer and secretary for International Microcomputer Software, Inc. (OTCBB: IMSI.OB), a developer and distributor of precision design software, content and on-line services. Prior to that he was a director of business development and corporate controller for Buzzsaw.com, Inc. Mr. Bush was one of the founding members of Buzzsaw.com, Inc., a privately held company spun off from Autodesk, Inc. in 1999, focusing on online collaboration, printing and procurement applications. From 1997 to 1999, Mr. Bush worked as corporate controller at Autodesk, Inc. (NasdaqGM: ADSK), the fourth largest software applications company in the world. Prior to that, Mr. Bush worked for seven years in public accounting, first with Ernst & Young, and later with Price Waterhouse in Munich, Germany. Mr. Bush holds a B.S. degree in Business Administration from U.C. Berkeley and is a certified public accountant. Mr. Bush currently serves on the Board of Directors of FindEx.com (OTCBB: FIND), a Bible study software provider and has been a director since 2007. Mr. Bush was appointed to the Board of Directors because he has significant experience and acumen as a finance professional.

Directorships

Except as otherwise reported above, none of our directors held directorships in other reporting companies and registered investment companies at any time during the past five years.