PARETEUM CORPORATION AND SUBSIDIARIES

CONDENSED CONSOLIDATED BALANCE SHEETS

(UNAUDITED)

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.

PARETEUM CORPORATION AND SUBSIDIARIES

NOTES TO THE CONDENSED CONSOLIDATED

FINANCIAL STATEMENTS

(UNAUDITED)

Note 1. Financial Condition

As reflected in the accompanying condensed consolidated financial statements, Pareteum Corporation (“Pareteum,” the “Company,” “we,” “us,” or “our”) (NASDAQ: TEUM) reported a net loss of $6,294,324 for the six months ended June 30, 2019, and had an accumulated deficit of $318,919,707 as of June 30, 2019.

Note 2. Description of Business, Basis of Presentation and Use of Estimates

Business overview 

Pareteum has developed a Communications Cloud Services Platform, providing (i) Mobility, (ii) Messaging, and (iii) Security services and applications, with a Single-Sign-On, API and software development suite. The Pareteum platform hosts integrated IT/Back Office and Core Network functionality for mobile network operators, and for enterprises implement and leverage mobile communications solutions on a fully outsourced SaaS, PaaS and/or IaaS basis: made available either as an on-premise solution or as a fully hosted service in the Cloud depending on the needs of our customers. Pareteum also delivers an Operational Support System (“OSS”) for channel partners, with Application Program Interfaces (“APIs”) for integration with third party systems, workflows for complex application orchestration, customer support with branded portals and plug-ins for a multitude of other applications. These features facilitate and improve the ability of our channel partners to provide support and to drive sales.

Basis of Presentation of Interim Periods

The unaudited interim condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America (“GAAP,”) for interim financial information and in accordance with the instructions to Securities and Exchange Commission (“SEC”), Form 10-Q and Article 8 of SEC Regulation S-X. They do not include all the information and footnotes required by GAAP for complete financial statements. Therefore, these financial statements should be read in conjunction with our audited consolidated financial statements and notes thereto for the year ended December 31, 2018, included in our 2018 Annual Report on Form 10-K filed with the SEC on March 18, 2019, referred to as our 2018 Annual Report.

The interim condensed consolidated financial statements included herein are unaudited; however, they contain all normal recurring accruals and adjustments that, in the opinion of management, are necessary to present fairly our results of operations and financial position for the interim periods. The results of operations for the three and six month periods ended June 30, 2019, are not necessarily indicative of the results to be expected for future quarters or the full year. All intercompany transactions and account balances have been eliminated in consolidation. As of June 30, 2019, the Company’s subsidiaries are:

For a complete summary of our significant accounting policies, please refer to Note 1, “Business and Summary of Significant Accounting Policies,” in Item 8 of our 2018 Annual Report.

Use of Estimates

The preparation of the accompanying consolidated financial statements in conformity with GAAP requires management to make certain estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities and intangible assets acquired in our acquisitions of Artilium, iPass and Devicescape. Significant estimates include the bad debt allowance, revenue recognition, impairment of long-lived assets, valuation of financial instruments, useful lives of long-lived assets and share-based compensation. Actual results may differ from these estimates under different assumptions or conditions and those differences could be material. 

Reclassification

Certain reclassifications have been made to the Company’s consolidated financial statements for the prior period to conform to the current period presentation. Such reclassifications had no impact on net loss or net cash flows.

Note 3. Business Combinations

On November 12, 2018, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) by and among the Company, Purchaser, and iPass. Pursuant to the Merger Agreement, Purchaser, a wholly-owned subsidiary of the Company, commenced the offer for the “iPass Shares for the “Transaction Consideration, upon the terms and subject to the conditions set forth in the Prospectus/Offer to Exchange dated December 4, 2018 (together with any amendments and supplements thereto, the “Offer to Exchange”), and the related Letter of Transmittal. The Offer and withdrawal rights expired at 5:00 p.m. New York City time on February 12, 2019, and promptly following such time Purchaser accepted for payment and promptly paid for all validly tendered iPass Shares in accordance with the terms of the Offer. The Company acquired 100% of the voting shares of iPass.

On February 12, 2019, following acceptance and payment for the validly tendered iPass Shares and pursuant to the terms and conditions of the Merger Agreement, the Company completed its acquisition of iPass from the stockholders of iPass when Purchaser merged with and into iPass, with iPass surviving as a wholly owned subsidiary of the Company (the “Merger”). The Merger was governed by Section 251(h) of the Delaware General Corporation Law, as amended (the “DGCL”) with no stockholder vote required to consummate the Merger. At the effective time of the Merger, each iPass Share outstanding was converted into the right to receive the Transaction Consideration. The iPass Shares are no longer listed on the Nasdaq Capital Market.

As part of the acquisition, the Company issued 9,865,412 common shares to shareholders and 705,000 shares were granted to employees.

The allocation of the purchase price was as follows (in thousands):

The period ended June 30, 2019, consolidated financial statements included iPass and its subsidiaries from the closing date of February 12, 2019, through June 30, 2019.

The allocation of the purchase price for iPass’s intangible assets were as follows (in thousands):

On April 22, 2019, the Company, together with Devicescape Holdings, Inc., a Delaware corporation and wholly-owned subsidiary of the Company (the “Holdco” and together with the Company, the “Buyer”) entered into an asset purchase agreement (the “Purchase Agreement”) with Devicescape Software, Inc., a California corporation (“Devicescape”), whereby the Buyer acquired substantially all of the assets of Devicescape and assumed certain liabilities of Devicescape, such that Holdco shall continue as a surviving subsidiary of the Company holding all assets and assuming those certain liabilities of Devicescape (the “Devicescape Purchase”). In connection with the Devicescape Purchase, and pursuant to the terms and subject to the conditions set forth in the Purchase Agreement, the Company paid cash consideration of $2,000,000 and issued to the stockholders of Devicescape an aggregate of 400,000 shares of the Company’s common stock at a value of $1,692,000 based on our closing price on April 22, 2019, of $4.23 per share.

The allocation of the purchase price was as follows (in thousands):

The June 30, 2019, consolidated financial statements included Devicescape and its subsidiaries from April 22, 2019, the acquisition date, through June 30, 2019 .

The allocation of the purchase price for Devicescape’s intangible assets were as follows (in thousands):

During the six months ended June 30, 2019, the conversion feature was exercised at a price of $1.75 per share, and a total of 84,220 shares were exercised.

Outstanding numbers of Dilutive Securities

The outstanding number of dilutive securities for the six months ended June 30, 2019, can be seen below:

Cash and Restricted Cash

The following table provides a reconciliation of cash, cash equivalents and restricted cash reported within the Condensed Consolidated Balance Sheets to that sum to the total amounts shown in the Condensed Consolidated Statements of Cash Flows:

Notes Receivable

At June 30, 2019, and December 31, 2018, the Company had non-current notes receivable of $2,819,200 and $1,082,436, respectively, and the current portion amounted to $1,024,025 and $0 respectively.

The third quarter 2016 sale of ValidSoft for the price of $3,000,000 was completed and the Company received $2,000,000 in cash and a $1,000,000 promissory note, with an interest rate of 5% per annum. The maturity date of the note is September 30, 2019. At June 30, 2019, and December 31, 2018, the remaining outstanding principal amounts were $488,191 and $576,769, respectively.

On November 26, 2018, the Company executed a senior secured promissory note for $500,000 from Yonder Media Mobile (an unrelated entity), with interest accruing at a simple rate of 6% per annum with a maturity date of May 26, 2020. On January 9, 2019, February 12, 2019 and February 28, 2019, the Company issued additional notes of $500,000, $200,000, and $2,000,000, respectively (the “2019 Notes”). The 2019 Notes each bear an interest rate of 12% per annum and mature 18 months following the issuance date. All principal and interest are due on the maturity date. At June 30, 2019 and December 31, 2018, the remaining outstanding principal amounts were $3,355,034 and $505,667, respectively.

Related Party Loan

As of June 30, 2019 and December 31, 2018, there remained an outstanding related party loan to Comsys, a wholly-owned subsidiary of Artilium BV, from Comsystems (a company owned by Gerard Derenbos). Prior to the acquisition by Pareteum, Gerard Derenbos was a shareholder of Artilium PLC, with approximately 15% of the total shares of Artilium PLC, and a board member of Artilium PLC.

The total outstanding balance as of June 30, 2019 and December 31, 2018 was $342,000 and $341,998, respectively. The loan carries an 8% interest rate and a maturity date of December 31, 2021. All principal and interest are due on the maturity date.

Note 5. Equity

(A) Common Stock

The Company is presently authorized to issue 500,000,000 shares of common stock. The Company had 111,652,349 shares of common stock issued and outstanding as of June 30, 2019, an increase of 13,799,438 shares from December 31, 2018, were largely due to the iPass and Devicescape acquisitions (10,970,412), warrant exercises (858,344), shares issued to Senior Secured lender (425,000), and services settled by issuance of shares (653,796).

(B) Warrants

Throughout the years, the Company has issued warrants with varying terms and conditions related to multiple financing rounds, acquisitions and other transactions. The number of warrants outstanding at June 30, 2019 and December 31, 2018, have been recorded and classified as equity is 3,173,713 and 3,789,482, respectively. The weighted average exercise price for the currently outstanding warrants in the table below is $2.21. The table below summarizes the warrants outstanding as of June 30, 2019 and as of December 31, 2018:

Note 6.  Amended and Restated 2008 Long Term Incentive Compensation Plan, 2017 Long-Term Incentive Compensation Plan and 2018 Long Term Incentive Compensation Plan, As Amended

The Company maintains the following Long Term Incentive Compensation Plans (collectively, the “Plans”):

On October 10, 2018, the Company filed an S-8 to register the remaining 8,000,000 shares of common stock of the 2018 Plan which was previously ratified by our stockholders on September 12, 2018 at our annual meeting of stockholders. This incentive plan provides for awards of up to 8,000,000 shares of common stock, in the form of options, restricted stock awards, stock appreciation rights (“SAR’s”), performance units and performance bonuses to eligible employees and the grant of nonqualified stock options, restricted stock awards, SAR’s and performance units to consultants and eligible directors.

Pursuant to the terms of the 2018 Plan, as amended, the number of shares available under the plan shall increase on the first day of each fiscal year in an amount equal to the lesser of (i) 15% of the total number of shares of common stock outstanding as of December 31 ^st of the preceding fiscal year or (ii) such number of shares of common stock determined by the Board of Directors (the “Evergreen Increase”). As a result of the 2019 Evergreen Increase, the number of shares available under the 2018 Plan increased by 7,500,000 shares, such number determined by the Board of Directors being the lesser of (i) and (ii) as described herein (the “2018 Plan Increase”). The 2018 Plan Increase took effect upon the filing of the Registration Statement on Form S-8 on June 28, 2019.

Under the provisions of ASC 718, expensing takes place proportionally to the vesting associated with each stock-award, adjusted for cancellations, forfeitures and returns. If there are any modifications or cancellations of the underlying unvested awards, we may be required to accelerate, increase or cancel any remaining unearned stock-based compensation expense.

As of June 30, 2019, the following shares were authorized under the Plans:

The Company’s stockholders also approved an additional 920,000 shares and 400,000 shares under the 2008 Plan on December 17, 2013 and September 12, 2014, respectively. These approved shares have not been registered on Form S-8 as of June 30, 2019.

The following table summarizes the activities that occurred during the three months ended June 30, 2019:

The following table summarizes the activity that occurred during the six month period ended June 30, 2019:

Stock-based compensation expense totaled $5,722,447 and $1,771,580 for the six months ended June 30, 2019 and 2018, respectively. Stock-based compensation expense totaled $2,008,833 and $697,448 for the three months ended June 30, 2019 and 2018, respectively. At June 30, 2019, there was $6,280,777 of unrecognized expense for share-based awards granted under the Plans.

Note 7.  Income taxes

The following table presents details of income tax (benefit)/expense:

As a result of our cumulative tax losses in the U.S. and certain foreign jurisdictions, and the full utilization of our loss carryback opportunities, we have concluded that a full valuation allowance should be recorded in such jurisdictions. In certain other foreign jurisdictions where we do not have cumulative losses, we had net deferred tax liabilities based upon an expected annual tax rate.

Note 8. Significant Customers and Geographical Information

During the three months ended June 30, 2019 and 2018, 19.7% and 75% of revenue, respectively, were made from two customers. For the three months ended June 30, 2019 and 2018, our largest customer represented 11.2% and 53.4% of revenues, respectively. Our second largest customer represented 8.5% and 21.6% of revenues for the three months ended June 30, 2019 and 2018, respectively.

During the six months ended June 30, 2019 and 2018, 20.4% and 79.3% of revenues, respectively, were made from two customers. For the six months ended June 30, 2019 and 2018, our largest customer represented 12.5% and 63.5% of revenues, respectively. Our second largest customer represented 7.9% and 15.8% of revenues for the six months ended June 30, 2019 and 2018, respectively.

The geographical distribution of our revenue, as a percentage of revenues, was as follows: 

Note 9. Revenues

Our revenues represent amounts earned for our mobile and security solutions. Our solutions take many forms, but our revenues generally consist of fixed and/or variable charges for services delivered monthly under a combined services and SaaS model. We also offer discrete (one-time) services for implementation and for development of specific functionality to properly service our customers.

The following table presents our revenues disaggregated by revenue source:

Monthly services revenues are generally recognized over time and amounted to $31,627,289 and $53,237,189 for the three and six months ended June 30, 2019, respectively. Installation and software development revenues are recognized over time and amounted to $2,521,107 and $3,951,121 over for the three and six months ended June 30, 2019, respectively.

The following table presents our revenues disaggregated by geography, based on the billing addresses of our customers:

Monthly Service Revenues

The Company’s performance obligations in a monthly SaaS and service offerings are simultaneously received and consumed by the customer and therefore, are generally recognized over time. For recognition purposes, we do not unbundle such services into separate performance obligations as their pattern of transfer does not differ. The Company typically bills its customer at the end of each month. The fees charged may include a combination of fixed and variable charges with the variable charges tied to the number of subscribers or some other measure of volume. Although the consideration may be variable, the volumes are easily estimable at the time of billing, with “true-up” adjustments occurring in the subsequent month. As such adjustments have not historically been material, no amounts of variable consideration are subject to constraint.

Installation and Software Development Revenues

The Company’s other revenues consist generally of installation and development projects.

Installation represents the activities necessary for a customer to obtain access and connectivity to the Company’s monthly SaaS and service offerings. While installation may require separate phases, it represents one performance obligation within the context of the contract.

Development consists of programming and other services to add new, additional or customized functionality to a customer’s existing service offerings. Each development activity is typically its own performance obligation.

Revenue is recognized over time if the installation and development activities create an asset that has no alternative use for which the Company is entitled to receive payment for performance completed to date. If not, then revenue is not recognized until the applicable performance obligation is satisfied.

Arrangements with Multiple Performance Obligations

The Company’s contracts with customers may include multiple performance obligations. For such arrangements, the Company allocates revenue to each performance obligation based on its relative standalone selling price. The Company generally determines standalone selling prices based on the prices charged to customers.

Net Billings in Excess of Revenues

The Company records net billings in excess of revenues when payments are made or due in advance of our performance, including amounts which are refundable.

Payment terms vary by the type and location of our customer and the products or services offered. The term between invoicing and when payment is due is not significant. For certain products or services and customer types, payment is required before the products or services are delivered to the customer.

Contract Assets

Given the nature of the Company’s services and contracts, it has no contract assets. 

Note 10. Credit Agreement

On February 26, 2019, Pareteum Corporation and certain of its subsidiaries entered into a credit agreement (the “Credit Agreement”) with Post Road Administrative Finance, LLC and its affiliate Post Road Special Opportunity Fund I LLP (collectively, “Post Road”). Pursuant to the Credit Agreement, Post Road will provide the Company with a secured loan of up to $50,000,000 (the “Loan”), with an initial loan of $25,000,000 funded on February 26, 2019, and additional amounts in $5,000,000 increments as requested by the Company before the 18-month anniversary of the initial funding date. No additional loan shall be funded until the later of delivery of certain third-party consents (the “Consents”), the filing of Pareteum’s Quarterly Report on Form 10-Q for the first quarter of 2019, or June 1, 2019. All amounts owed under the Credit Agreement shall be due on February 26, 2022.

The unpaid principal amount of the Loan shall bear interest from the relevant funding dates at a rate per year of Libor plus 8.5% in effect from time to time, provided however, that upon an event of default or if certain of the Consents are not delivered prior to May 1, 2019 or June 1, 2019, as applicable, the unpaid principal amount of the Loan shall bear interest from the relevant funding dates at a rate per year of Libor plus 11.5% in effect from time to time until the Consents are delivered. The interest shall be due and payable monthly in cash in arrears, provided, however, that the Company may elect to pay any or all of the interest in the form of Payment-in-Kind (“PIK”) interest due and payable at maturity at a maximum percentage per year equal to (a) through and including the first anniversary of the initial funding date, 3%, (b) after the first anniversary of the initial funding date through and including the second anniversary of the initial funding date, 2%, and (c) after the second anniversary of the initial funding date, 1%.

Permitted use of proceeds for the initial $25,000,000 of the Loan include approximately $11,700,000 for payment in full of outstanding secured debt owed to Fortress Credit Corp. (together with its affiliates, “Fortress”) incurred in connection with the Company’s previously disclosed acquisition of iPass Inc. (“iPass”) on February 12, 2019, as well as remaining amounts for permitted acquisitions and investments, for general working capital purposes and paid $623,555 in transaction fees related to the Loan. Proceeds are to be used for permitted acquisitions and to fund growth capital expenditures and other growth initiatives.

The Loan is subject to prepayment upon the receipt of proceeds outside the ordinary course of business in excess of $1,000,000 and the Company must pay a commitment fee of 1% per year for an unfunded commitment. The initial $25,000,000 loan is reduced by an original issue discount of (i) 0.75% of $25,000,000 and (ii) 1.25% of $50,000,000, and any additional amounts borrowed will be reduced by an original issue discount of 0.75% of the funded amounts.

The Company’s obligations under the Credit Agreement are secured by a first-priority security interest in all the assets of the Company and guaranteed by certain subsidiaries of the Company. The Credit Agreement contains customary representations, warranties and indemnification provisions. The Credit Agreement also contains affirmative and negative covenants with respect to operation of the business and properties of the Company as well as financial performance, including requirements to maintain a minimum of $2,000,000 of unrestricted cash, certain maximum total leverage ratios, a debt to asset ratio, maximum churn rate and minimum adjusted EBITDA. The Credit Agreement further provides customary events of default and cure periods for certain specified events of default, and in the event of uncured default, the acceleration of the maturity date, an increase in the applicable interest rate with respect to amounts outstanding under the Loan and payment of additional fees.

On February 26, 2019, concurrently with entering into the Credit Agreement, the existing loan and security agreement by and among iPass, iPass IP LLC and Fortress (the “Existing iPass Loan”) terminated. Credit facilities under the Existing iPass Loan included a term loan A facility and a term loan B facility maturing on February 27, 2019.

On February 26, 2019, pursuant to the terms of the Credit Agreement, the Company issued to Post Road 425,000 shares of common stock at $1,606,500 and will issue an additional 200,000 shares of common stock upon the next subsequent funding, if any, under the Loan.

As of June 30, 2019, and December 31, 2018, the Company had outstanding senior secured debt of $22,077,767 and $0, respectively. For the three and six months ended June 30, 2019, the Company recorded interest expense of $747,245 and $1,054,120, respectively, related to the Loan. The interest rate at June 30, 2019 was 11%. The Company recorded $1,655,112 in deferred financing costs and other fees as a reduction of the outstanding loan balance through June 30, 2019. A total of $101,664 and $151,355 was amortized during the three and six months ended June 30, 2019. The remaining capacity under the Loan was $25,000,000 at June 30, 2019.

As of June 30, 2019, the Company was in compliance with all covenants required by the Loan.

Note 11. Commitments and Contingencies

Lease Commitments

We have operating leases for our office space. Our leases have remaining lease terms of less than one year to 6 years, some of which include options to indefinitely extend the leases monthly. For our month to month leases, we determined the number of renewal periods we are reasonably certain to exercise and include these periods in our right of use asset and lease liability calculations. Lease expense was $487,850 and $970,398 for the three and six months ended June 30, 2019, respectively, and is included in general and administrative expense in the condensed consolidated statement of comprehensive loss. Lease expense was $39,393 and $81,506 for the three and six months ended June 30, 2018.

The following represents maturities of operating lease liabilities as of June 30, 2019:

Legal Proceedings

Ellenoff Grossman & Schole LLP, claimed legal fees.

On May 5, 2017, the Company’s former legal counsel, Ellenoff Grossman & Schole LLP, commenced litigation proceedings in New York alleging breach of contract and claiming $817,822 in unpaid legal fees for January 2015 through November 2016. On June 29, 2017, the parties entered into a settlement agreement for the full $817,822 with agreed-upon monthly installment payments through August 31, 2019. As of June 30, 2019, this transaction is reflected in the financial statements.

The Company is involved in various claims and lawsuits incidental to our business.  In the opinion of management, the ultimate resolution of such claims and lawsuits will not have a material effect on our financial position, liquidity, or results of operations.