10-Q 1 a39992.txt COVISTA COMMUNICATIONS, INC. UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 ---------- FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended April 30, 2005 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 Commission File Number 0-2180 [COVISTA LOGO] COVISTA COMMUNICATIONS, INC. (Exact name of Company as specified in its charter) New Jersey 22-1656895 ---------- ---------- (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 721 Broad Street, Suite 200 Chattanooga, TN 37402 (Address of principal executive offices)(Zip Code) (423) 648-9500 Company's telephone number, including area code: Indicate by check mark whether Covista Communications, Inc. ("Covista" or the "Company") (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that Covista was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ___ --- Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes ___ No X --- Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Class Outstanding at June 1, 2005 ----------------------------- --------------------------- Common Share, $0.05 par value 17,822,025 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES SECOND QUARTER REPORT ON FORM 10-Q INDEX

2 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS ASSETS

See notes to condensed consolidated financial statements 3 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)

See notes to condensed consolidated financial statements. 4 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

See notes to condensed consolidated financial statements 5 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) NOTE A - BASIS OF PRESENTATION The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Rule 10-01 of Regulation S-X. They do not include all information and notes required by generally accepted accounting principles for complete financial statements. However, except as disclosed herein, there has been no material change from the information disclosed in the notes to the consolidated financial statements included in the Annual Report on Form 10-K of Covista Communications, Inc. and Subsidiaries (Covista) for the fiscal year ended January 31, 2005. In the opinion of management, all adjustments (consisting of normal recurring adjustments only) considered necessary for a fair presentation have been included. Operating results for the three-month period ended April 30, 2005 are not necessarily indicative of the results that may be expected for the year ending January 31, 2006. Revenue Recognition The Company recognizes revenue on telecommunications services in the period that the service is provided. Revenue is recognized when earned based upon the following specific criteria: (1) persuasive evidence of arrangement exists, (2) services have been rendered, (3) seller's price to the buyer is fixed or determinable, and (4) collectibility is reasonably assured. Covista's revenue is generally comprised of fees paid by the end customers for voice and data services, and carrier charges including access. End customer revenue includes voice and data services and is comprised of monthly recurring charges and usage charges. Monthly recurring charges include the fees paid by customers for facilities in service and additional features on those facilities. Usage charges consist of usage-sensitive fees paid for calls made. Carrier access billing is comprised of charges paid primarily by inter-exchange carriers (IXC's) to the Company for the origination and termination of inter-exchange toll and toll-free calls. Amounts billed to IXC's are recorded based on the Company's determination of usage, category of traffic and the associated rate. These items are subject to some degree of estimation and subsequent adjustments may occur. However, management does not believe such adjustments will be material to the consolidated financial statements. Deferred Line Installation Costs The Company defers charges from other common carriers related to the cost of installing telephone transmission facilities (lines). Amortization of these costs is provided using the straight-line method over the related contract life of the lines ranging from three to five years. 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 at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reported period. Actual results could differ from those estimates. 6 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Intangible Assets Prior to the transaction with PAETEC, intangible assets consist of prepaid network capacity and purchased customer and agent relationships amortized on a straight-line basis over periods varying between 10 and 120 months. The Company incurred amortization expense on intangible assets of approximately $129,000 and $534,000 for the quarters ended April 30, 2005 and 2004 respectively. During the quarter ended October 31, 2004, the Company recorded a charge of approximately $1.35 million against intangible assets related to restructuring as a result of the PAETEC transaction. The Company's non-current balance of intangible assets with a definite life was approximately $2,067,000, net of accumulated amortization of approximately $1,533,000 at April 30, 2005 and approximately $2,167,000, net of accumulated amortization of approximately $1,433,000 at January 31, 2005. Approximate amortization expense on intangible assets for the next 5 years as of January 31, is as follows: 2006 $400,000 2007 $400,000 2008 $400,000 2009 $400,000 Thereafter $967,000 Risks and Uncertainties Future results of operations involve a number of risks and uncertainties. Factors that could affect future operating results and cash flows and cause actual results to vary materially from historical results include, but are not limited to: o Changes in government policy, regulation and enforcement or adverse judicial or administrative interpretations and rulings or legislative action relating to regulations, enforcement and pricing, including, but not limited to, changes that affect continued availability of the unbundled network element platforms of the local exchange carriers network and the costs associated therewith. o Dependence on the availability and functionality of the networks of the incumbent local exchange carriers as they relate to the unbundled network element platforms. o Increased price competition in local and long distance services, including bundled services and overall competition within the telecommunications industry. o Outcomes unfavorable to the Company of the FCC's rule-making process and pending litigation with regards to the availability and pricing of various network elements and bundles thereof. Negative developments in these areas could have a material adverse effect on the Company's business, financial condition and results of operations. Concentrations of Credit Risk The Company sells its telecommunications services and products primarily to residential users, small to medium size businesses, and wholesale customers. The Company performs ongoing credit evaluations of both its retail and wholesale customers. The Company generally does not require collateral; however, when circumstances warrant, deposits are required. Recent conditions in the telecommunications industry have given rise to an increase in potential doubtful accounts. Allowances are maintained for such potential credit losses. The Company has entered into offset arrangements with certain of its customers, which are also vendors, allowing for the ability to offset receivables against the Company's payables balance. 7 NOTE B - RECENT ACCOUNTING PRONOUNCEMENTS In December 2004, the FASB issued a revision to SFAS 123, "Share-Based Payment" (SFAS No. 123R), that amends existing pronouncements for share-based payment transactions in which an enterprise receives employee and non-employee services in exchange for (a) equity instruments of the enterprise or (b) liabilities that are based on the fair value of the enterprise's equity instruments or that may be settled by the issuance of such equity instruments. SFAS No. 123R eliminates the ability to account for share-based compensation transactions using APB 25 and generally requires such transactions be accounted for using a fair-value-based method. SFAS No. 123R's effective date would be applicable for awards that are granted, modified, become vested, or settled in cash in interim or annual periods beginning after December 15, 2005. SFAS No. 123R includes three transition methods; one that provides for prospective application and two that provide for retrospective application. The Company intends to adopt SFAS No. 123R prospectively commencing in the first quarter of the fiscal year ending January 31, 2007; it is expected that the adoption of SFAS No. 123R will cause us to record, as expense each quarter, a non-cash accounting charge approximating the fair value of such share based compensation meeting the criteria outlined in the provisions of SFAS No. 123R; as of January 31, 2005, the Company had approximately 483,000 granted stock options outstanding which had not yet become vested. There are two acceptable methods of valuing options under the revision, the Black-Sholes method and the binomial method. The Company is currently assessing the impact on its 2005 earnings using the two acceptable methods of valuing these options, and the ability to discount the fair value of unvested shares. In March 2005, the FASB issued FIN 47 as an interpretation of FASB Statement No. 143, Accounting for Asset Retirement Obligations (FASB No. 143). This interpretation clarifies that the term conditional asset retirement obligation as used in FASB No. 143, refers to a legal obligation to perform an asset retirement activity in which the timing and/or method of settlement are conditional on a future event that may or may not be within the control of the entity. The obligation to perform the asset retirement activity is unconditional even through uncertainly exists about the timing and/or method of settlement. Accordingly, an entity is required to recognize a liability for the fair value of a conditional asset retirement obligation if the fair value of the liability can be reasonably estimated. This interpretation also clarifies when an entity would have sufficient information to reasonably estimate the fair value of an asset retirement obligation. FIN 47 is effective no later than the end of fiscal years ending after December 15, 2005. The Company is currently assessing the impact of the adoption of FIN 47. 8 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) NOTE C - STOCK BASED COMPENSATION The following disclosure complies with the adoption of SFAS No. 123, amended by SFAS No. 148, "Accounting for Stock-Based Compensation - Transition and Disclosure - an amendment of FASB Statement No. 123", and includes pro forma net income (loss) as if the fair value based method of accounting had been applied:

For purposes of pro forma disclosures under SFAS 123, the estimated fair value of the options is assumed to be amortized to expense over the options' vesting periods. The fair value of the options granted has been estimated at the various dates of the grants using the Black-Scholes option-pricing model with the following assumptions: o Fair market value based on the Company's closing Common Stock price on the date the option is granted; o Risk-free interest rate based on the weighted averaged U.S. Treasury note rates; o Volatility based on the historical stock price over the expected term; o No expected dividend yield based on future dividend payment plans. 9 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) NOTE D - EARNINGS (LOSS) PER SHARE The following table sets forth the computation of basic and diluted earnings (loss) per Common Share:

1) Common Shares subject to options are not included in the calculation of diluted loss per Common Share for the three-month period ended April 30, 2004 as doing so would be antidilutive due to the net loss per common share. Options to purchase 1,391,958 shares of Common Stock at a weighted average exercise price of $2.90 per share were outstanding at April 30, 2005, but are excluded in the computation of diluted earnings per share because the options' exercise price was greater than the market price of the Common Shares. NOTE E - SEGMENT REPORTING The Company sells telecommunication services to three distinct segments: a residential segment, a retail segment, consisting primarily of small to medium size businesses and a wholesale segment, with sales to other telecommunications carriers. In addition to direct costs, each segment is allocated a proportion of the Company's operating expenses, including utilization of its switch and facilities. The allocation of expenses is based upon the minutes of use flowing through the Company's switching network. There are no intersegment sales. When specifically identified, assets are allocated to each segment. All intangible assets and goodwill have been allocated to the retail segment. Capital expenditures and other assets are allocated based on total revenue. Management evaluates performance on operating results of the three business segments. 10 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) Summarized financial information (000's) concerning Covista's reportable segments is shown in the following table:

NOTE F - INCOME TAXES For the fiscal year ended January 31, 2005, Covista established a valuation allowance against its net deferred tax asset due to the uncertainty of realizing certain tax credits and loss carryforwards. In the quarter ended April 30, 2005, Covista continued this accounting treatment and recorded a full valuation allowance against the net tax benefit arising from the quarter's operating activity. The result is that the net deferred tax asset of approximately $5.6 million is fully offset by the valuation allowance and as such, does not appear as an asset on the balance sheet. It will be reflected in the Company's balance sheet when the net deferred tax asset can be utilized in future periods or when management's assessment is substantially changed. NOTE G - DEBT On June 17, 2002, Covista entered into a term loan agreement with a major bank. The initial principal amount of this loan was $3,775,000, payable in 36 monthly installments at a fixed interest rate of 4.495% for the first year and converting to 2% over LIBOR on June 17, 2003 and thereafter or 3.1%. Effective June 17, 2003, Covista's Chairman of the Board paid the bank in full and assumed the remaining balance of this loan under the identical terms and conditions. This loan is secured by certain of the Company's switching equipment. The balance on this facility was approximately $258,000 at April 30, 2005 which is classified as current. NOTE H - COMMITMENTS AND CONTINGENCIES The Company is involved in various legal and administrative actions arising in the normal course of business. While the resolution of any such actions may have an impact on the financial results for the period in which it is resolved, management believes that the ultimate disposition of these matters will not have a material adverse effect upon its consolidated results of operations, cash flows or financial position. 11 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) NOTE I - PAETEC TRANSACTION On May 25, 2004, the Company signed a definitive agreement to sell certain of its retail customers, and the related switches and facilities to PAETEC Communications, Inc., a Fairport, New York based competitive local exchange carrier, ("PAETEC") for an aggregate selling price of $14.6 million (the "Transaction"). This Transaction was consummated in two phases. Phase one of the transaction was consummated on August 17, 2004, whereby the Company sold to PAETEC the net assets and relationships serving these retail long distance customers, which represented approximately 92.5% of the aggregate purchase price. Phase two of this transaction was consummated on January 31, 2005, whereby the Company sold to PAETEC the net assets and relationships of these retail local customers, which represented approximately 7.5% of the aggregate purchase price. Contemporaneously with this transaction, Covista executed an agreement to purchase $12 million of services from PAETEC over 24 months (the "wholesale service agreement"). This Wholesale Service Agreement allows the Company to procure services at market competitive rates and the Company anticipates that it should fully utilize the commitment during the term. If the Company does not utilize the full amount within the first 24 months of the agreement, the Company would then have a commitment to PAETEC equal to 150% of the unused portion at the end of the 24-month term. The Company received aggregate cash proceeds for this transaction of approximately $12.7 million through April 30, 2005. The balance due with respect to the total selling price is subject to adjustment-based performance of the customer base through May 2005. Subsequent to April 30, 2005, PAETEC submitted a final calculation to the Company indicating that the purchased customer base has not performed, as expected and no additional payment would be made. Management is currently auditing this final calculation. Accordingly, the Company has not recognized the remaining balance payable by PAETEC because collectibility of the remaining amount was not considered probable as of April 30, 2005. The long-lived, tangible assets sold in the transaction had a carrying value of approximately $3.9 million and were primarily comprised of switches and network equipment. In addition, the Company wrote-off intangible assets of purchased customer and agent relationships with a carrying value of approximately $1.5 million and goodwill with a carrying value of approximately $8 million as a part of this transaction. A portion of any final amount collected from PAETEC was to be used by the Company to repurchase shares of the Company's outstanding Common Stock from the former Chief Operating Officer of the Company. Regardless of the amount of final payment collected from PAETEC, the Company was obligated to purchase a minimum of $250,000 worth of Common Stock from this former employee at $2.00 per share. Subsequent to April 30, 2005, the Company repurchased 125,000 shares. This amount was accrued as of April 30, 2005. NOTE J - SUBSEQUENT EVENT On May 27, 2005, the Company issued a press release announcing that the Company's Board of Directors had unanimously approved the voluntary delisting of the Company's Common Stock from the NASDAQ National Market. Simultaneously with the delisting, the Company will file a Form 15 with the Securities and Exchange Commission ("SEC") to deregister its Common Stock and suspend its reporting obligations under the Securities Exchange Act of 1934 (the "Exchange Act"). The Company intends to delist its Common Stock and file the Form 15 with the SEC on or about June 30, 2005. Upon delisting from NASDAQ, the Company's Common Stock will no longer trade on the NASDAQ National Market. The Company expects that the deregistration from the Exchange Act will become effective 90 days after filing of the Form 15. The Company's future reporting obligations to file periodic and current reports such as 10-K's, 10-Q's and 8-K's with the SEC will be suspended immediately upon filing of the Form 15. 12 ITEM 2 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULT OF OPERATIONS SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS: Certain matters discussed in this Quarterly Report on Form 10-Q are "forward-looking statements" intended to qualify for the safe harbor from liability provided by the Private Securities Litigation Reform Act of 1995. These forward-looking statements generally can be identified as such because the context of the statement will include words such as Covista "believes", "anticipates", "expects", or words of similar import. Similarly, statements, which describe Covista's future plans, objectives or goals, are also forward-looking statements. Such forward-looking statements are subject to certain risks and uncertainties, which are described in, close proximity to such statements and which could cause actual results to differ materially from those anticipated as of the date of this Report. Shareholders, potential investors and other readers are urged to consider these factors in evaluating the forward-looking statements and are cautioned not to place undue reliance upon such forward-looking statements. The forward-looking statements included herein are made only as of the date of this Report and Covista undertakes no obligation to publicly update such forward-looking statements to reflect subsequent events or circumstances, except as required under applicable laws. Results of Operations Net sales were approximately $11,253,000 for the first three months of the current fiscal year, a decrease of approximately $6,941,000 or 38% as compared to the approximately $18,194,000 recorded in the first three months of the prior fiscal year. The overall decrease is primarily related to the sale of certain retail customers to PAETEC, as further discussed, and intense competitive pressure in the retail segment. For the quarter ended April 30, 2005, residential revenues were approximately $6,761,000, an increase of approximately $2,092,000 or 45% versus the first quarter from the prior fiscal year. Approximately $3,738,000 of the current quarter total was for local service versus $932,000 in the comparative quarter of last fiscal year. Residential minutes sold for the three-month period ended April 30, 2005 were approximately 72,676,000, an increase of approximately 2,261,000 or 3%. The overall blended rate per minute for long distance revenue was $0.042 versus $0.053 during the first quarter of the previous year. The current year revenue increase in the residential segment is primarily attributed to the launch of local service to these residential users in selected markets in addition to direct marketing via mail and web based affinity marketing campaigns. While the Company has launched local services to the residential segment in certain markets, the Company plans to expand the number of markets in which it has the ability to offer its local and long distance bundled product offering. Additionally, the Company plans to expand its marketing resources to target new geographic market areas where the Company has the ability to offer competitive bundled services to residential users. For the quarter ended April 30, 2005, retail revenues were approximately $3,425,000, a decrease of approximately $9,519,000 or 74% versus the comparative quarter in the last fiscal year. Retail minutes sold in the three-month period ended April 30, 2005 were approximately 50,008,000 minutes, a decrease of approximately 143,634,000 minutes or 74%. The overall blended retail rate per minute decreased to $0.062 versus $0.066 from the first quarter of the previous year. The current year revenue decrease in the retail segment is primarily attributed to the Company's sale of a major portion of its retail customer base to PAETEC, in addition to intense competitive pressure from other providers, especially those which have the ability to bundle local dial tone with traditional long distance offerings. 13 ITEM 2 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULT OF OPERATIONS For the quarter ended April 30, 2005, wholesale revenue was approximately $1,068,000, an increase of approximately $486,000 or 83% versus the comparative quarter in the last fiscal year. Wholesale revenue for the quarter ended April 30, 2005 includes approximately $157,000 of access charges billed to other long distance carriers, which terminate calls to the Company's local customers, versus approximately $118,000 for the quarter end April 30, 2004. The Company plans to maintain nominal wholesale volume in the future, based on network capacity and gross margin opportunities, while balancing any possible financial exposure related to un-collectable balances. Cost of revenue for the current three-month period was approximately $6,031,000, a decrease of approximately $3,927,000 or 39%. These changes were favorable in relation to the 38% decrease in revenue for the three-month period. The decrease in cost of revenue was primarily due to an overall decrease in revenue volume. In the normal course of business, billings for line costs are often not received until after the period of service, Covista, therefore, uses certain estimates to determine its monthly cost of revenue ("line cost") and corresponding accounts payable to these service providers. These line costs include fees for network transport, access, egress and facility charges. The Company completes a detailed bill audit function, which includes a comparison of invoices received to amounts accrued, contractual rates and applicable tariffs and engineering data regarding usage. Accrued amounts are adjusted based on the bill audit function and actual invoices received. These adjustments to actual expense are typically identified within 90 days following the period of estimate. We structure and price our products in order to maintain network and line costs as a percentage of revenue at certain targeted levels. There are several factors that could cause our network and line costs as a percentage of revenue to increase in the future, including without limitation: Determinations by the FCC, courts or state commission(s) that make unbundled local switching and/or combinations of unbundled network elements effectively unavailable to us in some or all of our geographic service areas, requiring us to provide services in these areas through other means, including local service resale agreements with incumbent local telephone companies, network elements purchased from the Regional Bell Operating Companies at "just and reasonable" rates under Section 271 of the Act and the switching facilities of other non-incumbent carriers, in any case, at significantly increased costs or to provide services over our own switching facilities, if we were able to deploy them. For the quarter ended April 30, 2005, selling, general and administrative expense, excluding depreciation and amortization was approximately $4,433,000, a decrease of approximately $4,223,000 or 49% versus the comparative quarter in the last fiscal year. The overall decrease was primarily due to decreases in commissions of approximately $1,015,000, decreased payroll of approximately $1,409,000, decreases in advertising expense of approximately $668,000; decreased rent expense of approximately $87,000, decreased billing expense of approximately $117,000 and other general decreases of approximately $927,000. For the reasons described above, the operating income for the three-month period ended April 30, 2005 was approximately $204,000, an improvement of approximately $2,112,000 from the three-month period ended April 30, 2004. Basic and diluted earnings per Common Share was $0.01 per share for the current three-month period ended April 30, 2005 as compared to $(0.11) loss per share for the three-months ended April 30, 2004. Liquidity and Capital Resources At April 30, 2005, Covista had working capital of approximately $4,947,000, an increase of approximately $409,000 as compared to January 31, 2005. The ratio of current assets to current liabilities at April 30, 2005 was 1.46 as compared to the ratio of 1.33 at January 31, 2005. For the three months ended April 30, 2005 the Company used cash of approximately $1,641,000 in operating activities, approximately $141,000 in investing activities and approximately $315,000 in financing activities. 14 ITEM 2 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULT OF OPERATIONS Capital Expenditures Capital expenditures for the three-month period ended April 30, 2005 were approximately $141,000. Capital expenditures for the remainder of Fiscal 2005 are estimated at approximately $750,000 and are expected to be funded from operations. Prepaid Network Capacity In July 2001, Covista purchased 2.8 billion DS-0 channel miles of telecommunications network capacity from an unaffiliated party that expires on June 30, 2011. The unaffiliated party has been reorganized under Chapter 11 and, as of the date of this report, has continued to perform under the agreement. As of the date hereof, Covista has used approximately 946 million DS-0 channel miles of telecommunications network capacity against the 2.8 billion DS-0 total prepaid network capacity, of which $400,000 has been classified as a current asset and based on anticipated usage in the next 12 months the remainder of the prepaid capacity amount of approximately $2,067,000 is included in intangible assets. Accounts Receivable and Credit Risk Accounts receivable subject Covista to the potential for credit risk with customers principally in the retail and wholesale segments. To reduce credit risk, Covista performs ongoing evaluations of its customers' financial condition and, except in situations where the risk warrants it, Covista does not require a deposit or other collateral. Accounts receivable of approximately $8,468,000, net of the reserve for uncollectible accounts totaling approximately $1,527,000, represents approximately 35% of the total assets of Covista. No one customer accounts for greater than eight percent of the total revenues. In the wholesale segment, which contains Covista's largest customers, Covista has been able to reduce credit risk by using reciprocal arrangements with certain customers, which are also Covista's suppliers, to offset outstanding receivables. Covista has historically maintained a ratio of bad debts to revenues of less than 3%. For the three-month period ended April 30, 2005, this ratio was approximately 2.4%. Covista also measures accounts receivable turnover (as measured in days sales outstanding). For the periods ended April 30, 2005 and 2004, days sales outstanding were 56 days and 50 days, respectively. Related Party Transactions Jay J. Miller, a Director of Covista, has provided various legal services for Covista. During the quarter ended April 30, 2005, Covista accrued approximately $8,000 to Mr. Miller for services rendered. On June 17, 2002, Covista entered into a term loan agreement with a major bank. The initial principal amount of this loan was $3,775,000, payable in 36 monthly installments at a fixed interest rate of 4.495% for the first year and converting to 2% over LIBOR on June 17, 2003 and thereafter or 3.1%. Effective June 17, 2003, Covista's Chairman of the Board paid the bank in full and assumed the remaining balance of this loan under the identical terms and conditions. This loan is secured by certain of the Company's switching equipment. The balance on this facility was approximately $258,000 at April 30, 2005 which is classified as current. 15 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES CRITICAL ACCOUNTING POLICIES Nature of Operations Covista Communications, Inc. ("Covista"), and its wholly-owned subsidiaries (collectively, the "Company") operates as a switch based resale common carrier providing domestic and international long distance and local telecommunications service to customers throughout the United States. On September 15, 2000, the Company changed its name from Total-Tel USA Communications, Inc. to Covista Communications, Inc. Prior to the acquisition on February 8, 2002 of Capsule Communications, Inc. ("Capsule"), the Company's principal customers were primarily businesses and other common carriers. As a result, Capsule became a wholly owned subsidiary of Covista. Capsule was a switch-based interexchange carrier providing long distance telephone communications services primarily to small and medium-size business customers as well as residential accounts. The results of Capsule's operations have been included in the Company's statement of operations since the acquisition date. Principles of Consolidation The consolidated financial statements include the accounts of Covista Communications, Inc. and its subsidiaries, all of which are wholly owned. All significant inter-company transactions and balances have been eliminated in the consolidated financial statements. Revenue Recognition The Company recognizes revenue on telecommunications services in the period that the service is provided. Revenue is recognized when earned based upon the following specific criteria: (1) persuasive evidence of arrangement exists, (2) services have been rendered, (3) seller's price to the buyer is fixed or determinable, and (4) collectibility is reasonably assured. Covista's revenue is generally comprised of fees paid by the end customers for voice and data services, and carrier charges including access. End customer revenue includes voice and data services and is comprised of monthly recurring charges and usage charges. Monthly recurring charges include the fees paid by customers for facilities in service and additional features on those facilities. Usage charges consist of usage-sensitive fees paid for calls made. Carrier access billing is comprised of charges paid primarily by inter-exchange carriers (IXC's) to the Company for the origination and termination of inter-exchange toll and toll-free calls. Amounts billed to IXC's are recorded based on the Company's determination of usage, category of traffic and the associated rate. These items are subject to some degree of estimation and subsequent adjustments may occur. However, management does not believe such adjustments will be material to the consolidated financial statements. Property and Equipment Property and equipment are stated at cost. Depreciation and amortization is being provided by use of the straight-line method over the estimated useful lives of the related assets. Leasehold improvements are amortized over the shorter of the term of the lease or the useful lives of the asset. The estimated useful lives of the principal classes of assets and book value as of April 30, 2005 are as follows:

Deferred Line Installation Costs The Company defers charges from other common carriers related to the cost of installing telephone transmission facilities (lines). Amortization of these costs is provided using the straight-line method over the related contract life of the lines ranging from three to five years. 16 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES CRITICAL ACCOUNTING POLICIES Goodwill Goodwill represents the excess of the purchase price over the net tangible and identifiable intangible assets of acquired businesses and, in accordance with SFAS No. 142 is not amortized. The Company makes an annual impairment assessment on January 31st of each year. The annual impairment assessment made at January 31, 2005 and 2004 did not result in any impairment charges. 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 at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reported period. Actual results could differ from those estimates. Vendor Disputes The Company records disputed line cost expenses in accordance with FASB Statement No. 5, "Accounting for Contingencies". Billings from line cost vendors are compared to the Company's engineering and operations data, with differences filed with the vendors as a disputed billing. Disputed line cost billings are recorded by the Company at the estimated liability due based upon the Company's historical experience in settling similar disputes. Actual settlement of disputes may differ from original estimates. Management adjusts the dispute reserve each month. The net reserve for dispute losses at April 30, 2005 and 2004 was approximately $848 thousand and $2.2 million respectively and is included in accounts payable and accrued line cost. Risks and Uncertainties Future results of operations involve a number of risks and uncertainties. Factors that could affect future operating results and cash flows and cause actual results to vary materially from historical results include, but are not limited to: o Changes in government policy, regulation and enforcement or adverse judicial or administrative interpretations and rulings or legislative action relating to regulations, enforcement and pricing, including, but not limited to, changes that affect continued availability of the unbundled network element platforms of the local exchange carriers network and the costs associated therewith. o Dependence on the availability and functionality of the networks of the incumbent local exchange carriers as they relate to the unbundled network element platforms. o Increased price competition in local and long distance services, including bundled services and overall competition within the telecommunications industry. o Outcomes unfavorable to the Company of the FCC's rule-making process and pending litigation with regards to the availability and pricing of various network elements and bundles thereof. Negative developments in these areas could have a material adverse effect on the Company's business, financial condition and results of operations. 17 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES CRITICAL ACCOUNTING POLICIES Concentrations of Credit Risk The Company sells its telecommunications services and products primarily to residential, small to medium size businesses, and wholesale customers. The Company performs ongoing credit evaluations of both its retail and wholesale customers. The Company generally does not require collateral; however, when circumstances warrant, deposits are required. Recent conditions in the telecommunications industry have given rise to an increase in potential doubtful accounts. Allowances are maintained for such potential credit losses. The Company has entered into offset arrangements with certain of its customers which are also vendors, allowing for the ability to offset receivables against the Company's payables balance. Cash and Cash Equivalents The Company considers all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents. Cash and cash equivalents consist of cash on hand, demand deposits and money market accounts. Income Taxes 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 basis. 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 income in the period that includes the enactment date. In the event the future tax consequences of differences between the financial reporting bases and the tax bases of Covista's assets and liabilities result in deferred tax assets, an evaluation of the probability of being able to realize the future benefits indicated by such asset is required. A valuation allowance is provided for a portion of the deferred tax assets when it is more likely than not that some portion or all of the deferred tax assets will not be realized. In assessing whether deferred tax assets can be realized, management considers the scheduled reversals of deferred tax liabilities, projected future taxable income, and tax-planning strategies. Fair Value of Financial Instruments For cash and cash equivalents, the carrying value is a reasonable estimate of its fair value. The estimated fair value of publicly traded financial instruments is determined by the Company using quoted market prices, dealer quotes and prices obtained from independent third parties. For financial instruments not publicly traded, fair values are estimated based on values obtained from independent third parties or quoted market prices of comparable instruments. The fair value of the debt was determined based on interest rates that are currently available to the Company for issuance of debt with similar terms and remaining maturities for debt issues that are not traded on quoted market prices. However, judgment is required to interpret market data to develop the estimates of fair value. Accordingly, the estimates are not necessarily indicative of the amounts that could be realized in a current market exchange. The carrying values were approximately equal to the fair values of financial instruments as of January 31, 2005 and April 30, 2005. Long-Lived Assets Effective February 1, 2002, the Company adopted Statement of Financial Accounting Standards No. 144, "Accounting for the Impairment of Disposal of Long-Lived Assets". SFAS 144 establishes a single accounting model for the impairment or disposal of long-lived assets, including discontinued operations. The Company reviews the recoverability of the carrying value of long-lived assets, including intangibles with a definite life, for impairment using the methodology prescribed in SFAS 144 whenever events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. The Company uses an undiscounted cash flow methodology and if not recoverable, adjusts assets to fair value. 18 COVISTA COMMUNICATIONS, INC. AND SUBSIDIARIES PART II - OTHER INFORMATION ITEMS 1-5 Not applicable ITEM 6 Exhibits and Reports on Form 8K 8K - Dated April 29, 2005, Press Release Regarding Fiscal 2005 Results 8K - Dated June 1, 2005, Press Release Regarding Voluntary Delisting 19 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. COVISTA COMMUNICATIONS, INC. (Registrant) Date: June 14, 2005 By: /s/ A. John Leach, Jr. ------------- ----------------------- A. John Leach, Jr. President and Chief Executive Officer Date: June 14, 2005 By: /s/ Frank J. Pazera ------------- --------------------- Executive Vice President, Chief Financial Officer and Principal Accounting Officer 20

COVISTA COMMUNICATIONS INC 10-Q