UNITED
STATES


SECURITIES
AND EXCHANGE COMMISSION


WASHINGTON,
DC 20549





FORM
10-Q





(Mark One)





R
            QUARTERLY
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
              SECURITIES
      EXCHANGE ACT OF 1934For
      the quarterly period ended April 30, 2010£
            TRANSITION
      REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
              SECURITIES
      EXCHANGE ACT OF 1934For
      the transition period from to





Commission
File Number: 001-34446











EasyLink
Services International Corporation


(Exact
Name of Registrant as Specified in Its Charter)





Delaware
            13-3645702(State or Other Jurisdiction
      of Incorporation or Organization)
            (I.R.S.
      Employer Identification No.)6025
      The Corners Parkway, Suite 100Norcross,
      Georgia
            30092(Address
      of Principal Executive Offices)
            (Zip
      Code)





Registrant’s
telephone number, including area code: (678) 533-8000





Indicate
by check mark whether the Registrant (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 the Registrant was required
to file such reports), and (2) has been subject to such filing requirements for
the past 90 days. Yes R No £





Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Web site, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
Chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such files). Yes £ No £





Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.





Large
      accelerated filer £
            Accelerated
      filer £
            Non-accelerated
      £
            Smaller
      reporting company R





Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act). Yes £ No R





As of May
31, 2010 the issuer had outstanding 29,250,334 shares of class A common
stock.














EASYLINK
SERVICES INTERNATIONAL CORPORATION


INDEX
TO FORM 10-Q





PagePART
      I FINANCIAL INFORMATION (Unaudited)Item
      1.   Financial Statements
              1Condensed
      Consolidated Balance Sheets as of April 30, 2010 and July 31,
      2009
              1Condensed
      Consolidated Statements of Operations for the three and
      nine  months ended April 30, 2010 and 2009
              2Condensed
      Consolidated Statements of Cash Flows for the nine months ended April 30,
      2010and
      2009
              3Notes
      to Condensed Consolidated Financial Statements
              4Item
      2.   Management’s Discussion and Analysis of Financial
      Condition and Results of Operations
              11Item
      3.   Quantitative and Qualitative Disclosures about Market
      Risk
              18Item
      4T.  Controls and Procedures
              18PART
      II OTHER INFORMATIONItem
      1.   Legal Proceedings
              18Item
      1A.  Risk Factors
              19Item
      2.   Unregistered Sales of Equity Securities and Use of
      Proceeds
              19Item
      3.   Defaults Upon Senior Securities
              19Item
      4.   Submission of Matters to a Vote of Security
      Holders
              19Item
      5.   Other Information
              19Item
      6.   Exhibits
              20Signatures
              21





PART I. FINANCIAL
INFORMATION





Item
1. Financial Statements





Condensed
Consolidated Balance Sheets as of April 30, 2010 and July 31, 2009
(Unaudited)





April
      30,
                  2010
                
                
                July
      31,
                  2009ASSETSCurrent
      assets:Cash
      and cash equivalents
                
                $
                15,643,888
                
                
                $
                10,972,365Accounts
      receivable, net of allowance for doubtful accounts and allowance for sales
      returns and allowances of $1,312,830 and $1,461,368,
      respectively
                
                
                13,220,578
                
                
                
                11,508,674Prepaid
      expenses and other current assets
                
                
                2,721,795
                
                
                
                3,835,859Total
      current assets
                
                
                31,586,261
                
                
                
                26,316,898Property
      and equipment, net of accumulated depreciation of $15,538,975 and
      $13,574,865, respectively
                
                
                6,077,448
                
                
                
                8,230,843Goodwill
                
                
                34,306,193
                
                
                
                34,840,654Other
      intangible assets, net
                
                
                16,872,700
                
                
                
                21,406,880Deferred
      tax asset, net of valuation allowance and other assets
                
                
                3,146,813
                
                
                
                5,521,428Total
      assets
                
                $
                91,989,415
                
                
                $
                96,316,703LIABILITIES
      AND STOCKHOLDERS’ EQUITYCurrent
      liabilities:Accounts
      payable
                
                $
                2,705,402
                
                
                $
                3,044,378Notes
      payable
                
                
                9,635,335
                
                
                
                9,495,374Accrued
      expenses
                
                
                6,980,681
                
                
                
                6,644,665Accrued
      dividends, deferred revenue and other current liabilities
                
                
                2,031,851
                
                
                
                1,847,336Total
      current liabilities
                
                
                21,353,269
                
                
                
                21,031,753Notes
      payable, long term
                
                
                10,265,546
                
                
                
                17,512,034Other
      liabilities
                
                
                322,193
                
                
                
                553,762Total
      liabilities
                
                
                31,941,008
                
                
                
                39,097,549Commitments
      and contingenciesStockholders’
      Equity:Series
      C Preferred Stock — par value $.01 per share, 44.76 votes per share; 5,000
      shares issued and 5,000 outstanding (liquidation value of $5,065,753 at
      April 2010 and $5,116,164 at July 2009)
                
                
                50
                
                
                
                50Series
      E Preferred Stock — par value $0.01 per share; 6,577 shares issued and
      outstanding in 2010 (liquidation value of $7,229,265 at April 2010 and
      $6,710,342 at July 2009)
                
                
                66
                
                
                
                66Common
      stock:Class
      A — par value $.01 per share, 300,000,000 shares authorized, one voteper
      share; 30,236,584 and 27,261,193 shares issued at April 30, 2010 and July
      31, 2009, respectively
                
                
                302,366
                
                
                
                272,612Additional
      paid-in capital
                
                
                138,749,027
                
                
                
                138,463,290Treasury
      stock — 1,000,000 shares as of April 2010 and July 2009
                
                
                (2,122,288
                )
                
                
                (2,122,288
                )Accumulated
      other comprehensive loss
                
                
                (6,450,313
                )
                
                
                (4,442,091
                )Accumulated
      deficit
                
                
                (70,430,501
                )
                
                
                (74,952,485
                )Total
      stockholders’ equity
                
                
                60,048,407
                
                
                
                57,219,154Total
      liabilities and stockholders’ equity
                
                $
                91,989,415
                
                
                $
                96,316,703





See notes
to condensed consolidated financial statements.


1


Condensed
Consolidated Statements of Operations for the three and nine months ended April
30, 2010 and 2009 (Unaudited)





Three Months Ended
                                
                                
                                Nine Months EndedApril 30,
                                
                                
                                April 30,2010
                                
                                
                                2009
                                
                                
                                2010
                                
                                
                                2009Service
      revenue
                                
                                $
                                20,593,015
                                
                                
                                $
                                21,038,978
                                
                                
                                $
                                61,495,091
                                
                                
                                $
                                64,710,039Cost
      of services
                                
                                
                                5,509,153
                                
                                
                                
                                6,501,061
                                
                                
                                
                                17,272,572
                                
                                
                                
                                19,022,699Gross
      profit
                                
                                
                                15,083,862
                                
                                
                                
                                14,537,917
                                
                                
                                
                                44,222,519
                                
                                
                                
                                45,687,340Operating
      expenses:Product
      development and enhancement
                                
                                
                                1,884,210
                                
                                
                                
                                1,774,455
                                
                                
                                
                                5,499,576
                                
                                
                                
                                5,901,783Selling
      and marketing
                                
                                
                                3,086,871
                                
                                
                                
                                3,124,099
                                
                                
                                
                                9,584,468
                                
                                
                                
                                9,780,627General
      and administrative
                                
                                
                                6,764,569
                                
                                
                                
                                6,758,521
                                
                                
                                
                                20,633,593
                                
                                
                                
                                22,648,639Intangible
      impairment
                                
                                
                                —
                                
                                
                                
                                —
                                
                                
                                
                                —
                                
                                
                                
                                4,245,914Operating
      income
                                
                                
                                3,348,212
                                
                                
                                
                                2,880,842
                                
                                
                                
                                8,504,882
                                
                                
                                
                                3,110,377Other
      income (expense):Interest
      and investment income
                                
                                
                                6,670
                                
                                
                                
                                10,901
                                
                                
                                
                                21,016
                                
                                
                                
                                152,684Interest
      expense
                                
                                
                                (336,123
                                )
                                
                                
                                (1,584,575
                                )
                                
                                
                                (1,263,681
                                )
                                
                                
                                (10,603,230
                                )Foreign
      exchange gain
                                
                                
                                248,993
                                
                                
                                
                                167,663
                                
                                
                                
                                502,554
                                
                                
                                
                                303,813Other
      income
                                
                                
                                34,198
                                
                                
                                
                                1,247
                                
                                
                                
                                2,913
                                
                                
                                
                                99,812Profit
      (loss) before income taxes
                                
                                
                                3,301,950
                                
                                
                                
                                1,476,078
                                
                                
                                
                                7,767,684
                                
                                
                                
                                (6,936,544
                                )Provision
      for income taxes
                                
                                
                                1,312,890
                                
                                
                                
                                239,890
                                
                                
                                
                                3,107,073
                                
                                
                                
                                995,159Net
      Income (loss)
                                
                                
                                1,989,060
                                
                                
                                
                                1,236,188
                                
                                
                                
                                4,660,611
                                
                                
                                
                                (7,931,703
                                )Dividends
      on preferred stock
                                
                                
                                (209,138
                                )
                                
                                
                                (48,767
                                )
                                
                                
                                (641,513
                                )
                                
                                
                                (149,360
                                )Net
      income(loss) attributable to common stockholders
                                
                                $
                                1,779,922
                                
                                
                                $
                                1,187,421
                                
                                
                                $
                                4,019,098
                                
                                
                                $
                                (8,081,063
                                )Basic
      income(loss) per common share
                                
                                $
                                0.06
                                
                                
                                $
                                0.05
                                
                                
                                $
                                0.15
                                
                                
                                $
                                (0.33
                                )Diluted
      income(loss) per common share
                                
                                $
                                0.06
                                
                                
                                $
                                0.05
                                
                                
                                $
                                0.14
                                
                                
                                $
                                (0.33
                                )Anti-dilutive
      stock options, warrants, Series A and Series B Convertible Notes and
      Series C preferred stock
                                
                                
                                2,532,133
                                
                                
                                
                                23,733,691
                                
                                
                                
                                4,036,102
                                
                                
                                
                                22,506,043Weighted
      average number of common shares outstanding – basic
                                
                                
                                29,109,509
                                
                                
                                
                                24,243,183
                                
                                
                                
                                27,198,772
                                
                                
                                
                                24,460,449Weighted
      average number of common shares outstanding –diluted
                                
                                
                                29,793,245
                                
                                
                                
                                24,670,190
                                
                                
                                
                                29,519,215
                                
                                
                                
                                24,460,449





See notes
to condensed consolidated financial statements.


2





Condensed
Consolidated Statements of Cash Flows for the nine months ended April 30, 2010
and 2009


(Unaudited)





Nine Months Ended April 30,2010
                      
                      
                      2009Cash
      flows from operating activities:
                      
                      $
                      4,660,611
                      
                      
                      $
                      (7,931,703
                      )Net
      income (loss)Adjustments
      to reconcile net income (loss) to net cash provided by operating
      activities:Depreciation
      and amortization
                      
                      
                      6,147,498
                      
                      
                      
                      6,468,531Bad
      debt expense
                      
                      
                      367,614
                      
                      
                      
                      886,621Amortization
      of discount and other non-cash interest expense
                      
                      
                      404,161
                      
                      
                      
                      6,283,810Deferred
      tax expense
                      
                      
                      2,924,508
                      
                      
                      
                      —Non-cash
      charges for equity instruments issued for compensation and
      services
                      
                      
                      673,626
                      
                      
                      
                      738,832Non-cash
      equity in losses of investment and other non-cash items
                      
                      
                      105,351
                      
                      
                      
                      77,731Goodwill
      and intangible impairment
                      
                      
                      —
                      
                      
                      
                      4,245,914Changes
      in assets and liabilitiesAccounts
      receivable
                      
                      
                      (2,221,244
                      )
                      
                      
                      132,897Prepaid
      expenses and other assets
                      
                      
                      1,077,625
                      
                      
                      
                      1,983,235Accounts
      payable
                      
                      
                      (330,114
                      )
                      
                      
                      685,950Accrued
      expenses
                      
                      
                      182,248
                      
                      
                      
                      (4,416,827
                      )Other
      liabilities
                      
                      
                      (720,067
                      )
                      
                      
                      (1,371,375
                      )Net
      cash provided by operating activities
                      
                      
                      13,271,817
                      
                      
                      
                      7,783,616Cash
      flows from investing activities:Purchases
      of property and equipment
                      
                      
                      (866,622
                      )
                      
                      
                      (3,211,356
                      )Other
                      
                      
                      -
                      
                      
                      
                      53,924Net
      cash used in investing activities
                      
                      
                      (866,622
                      )
                      
                      
                      (3,157,432
                      )Cash
      flows from financing activities:Proceeds
      from sale of stock and exercise of options
                      
                      
                      144,750
                      
                      
                      
                      2,774Purchase
      of treasury stock
                      
                      
                      —
                      
                      
                      
                      (1,818,963
                      )Dividends
      paid
                      
                      
                      (200,000
                      )
                      
                      
                      (200,000
                      )Net
      repayments of notes payable and capital lease
                      
                      
                      (7,510,688
                      )
                      
                      
                      (23,938,502
                      )Net
      cash (used in) financing activities
                      
                      
                      (7,565,938
                      )
                      
                      
                      (25,954,691
                      )Effect
      of foreign exchange rate changes on cash and cash
    equivalents
                      
                      
                      (102,938
                      )
                      
                      
                      (1,037,746
                      )Net
      (decrease) increase in cash and cash equivalents
                      
                      
                      4,671,523
                      
                      
                      
                      (22,366,253
                      )Cash
      and cash equivalents, beginning of period
                      
                      
                      10,972,365
                      
                      
                      
                      32,091,005Cash
      and cash equivalents, end of period
                      
                      $
                      15,643,888
                      
                      
                      $
                      9,724,752





See notes
to condensed consolidated financial statements.


3


EASYLINK SERVICES INTERNATIONAL
CORPORATION


Notes
to Condensed Consolidated Financial Statements (Unaudited)





1.
BASIS OF PRESENTATION





The
accompanying unaudited condensed consolidated financial statements of EasyLink
Services International Corporation (referred to as “EasyLink,” the “Company,”
“we,” “our” or “us”) have been prepared in accordance with accounting principles
generally accepted in the United States of America (“GAAP”) for interim
financial information. In the opinion of management, such statements include all
adjustments (consisting only of normal recurring adjustments) necessary for the
fair presentation of our financial position, results of operations and cash
flows as of the dates and for the periods indicated. Pursuant to the
requirements of the Securities and Exchange Commission (“SEC”) applicable to
Quarterly Reports on Form 10-Q, the accompanying financial statements do not
include all disclosures required by GAAP for annual financial statements. While
we believe the disclosures presented are adequate to make the information not
misleading, these unaudited interim condensed consolidated financial statements
should be read in conjunction with the consolidated financial statements and
related notes included in our Annual Report on Form 10-K for the fiscal year
ended July 31, 2009.





The
condensed consolidated balance sheet as of July 31, 2009 has been derived from
the audited consolidated financial statements as of that date.





Operating
results for the nine–month period ended April 30, 2010 are not necessarily
indicative of the results that may be expected for the fiscal year ending July
31, 2010 or any future period.





Principles
of consolidation and basis of presentation





The
consolidated financial statements include the accounts of EasyLink and our
wholly-owned subsidiaries. All significant intercompany transactions have been
eliminated in consolidation.





Recently
Adopted Accounting Pronouncements





In June
2009, the Financial Accounting Standards Board issued Statement of Financial
Accounting Standards (“SFAS”) No. 168 The FASB Accounting Standards
Codification and the Hierarchy of Generally Accepted Accounting
Principles (“SFAS 168”). The FASB Accounting Standards
Codification has become the source of authoritative U.S. generally
accepted accounting principles (“GAAP”) recognized by the FASB effective
September 15, 2009. Rules and interpretive releases of the Securities and
Exchange Commission (“SEC”) under authority of federal securities laws continue
to be sources of authoritative GAAP for SEC registrants. On the effective date
of SFAS 168, the Codification superseded all then-existing non-SEC accounting
and reporting standards.





In August
2009 the Financial Accounting Standards Board issued Accounting Standards Update
(“ASU”) No. 2009-05 Fair Value
Measurements and Disclosures (Topic 820)(“ASU 2009-05”).  ASU
2009-05 provides clarification that the fair value measurement of liabilities in
which a quoted price in an active market for the identical liability is not
available should be developed based on a valuation technique that uses the
quoted price of the identical liability when traded as an asset or quoted prices
for similar liabilities when traded as assets or another valuation technique
that is consistent with the principles of Topic 820 — Fair Value Measurements
and Disclosures. ASU 2009-05 also clarifies that there is no requirement to
adjust the fair value related to the existence of a restriction that prevents
the transfer of the liability and that both a quoted price in an active market
for the identical liability at the measurement date and the quoted price for the
identical liability when traded as an asset in an active market when no
adjustments to the quoted price of the asset are required are Level 1 fair value
measurements. This guidance was effective for the Company as of October 31, 2009
and did not have a significant impact on the Company’s consolidated financial
statements.


4





Recent
accounting pronouncements not yet adopted





In
October 2009, the Financial Accounting Standards Board issued ASU
No.2009-13 Revenue Recognition (Topic 605) “Multiple-Deliverable Revenue
Arrangements”.  As this ASU is only effective for fiscal year ends
beginning on or after June 15, 2010 we will review and make a determination at
that time.





In
October 2009, the Financial Accounting Standards Board issued ASU
No.2009-14 Software (Topic 985) “Certain Revenue Arrangements That Include
Software Elements – a consensus of the FASB Emerging Issues Task
Force”.  As this ASU is only effective for fiscal year ends beginning
on or after June 15, 2010 we will review and make a determination of its affect
on revenue at that time.





2.
ACQUIRED INTANGIBLE ASSETS





Intangible
assets net of accumulated amortization are summarized as follows:





Weighted average
                        amortization
                        period (years)
                      
                      
                      April 30, 2010
                      
                      
                      July 31, 2009Purchased
      customer relationships
                      
                      6-8
                      
                      
                      $
                      17,775,533
                      
                      
                      $
                      18,056,771Internally
      developed systems
                      
                      4
                      
                      
                      
                      10,481,232
                      
                      
                      
                      10,607,355Trade
      names
                      
                      <1
                      
                      
                      
                      3,720,820
                      
                      
                      
                      3,766,992Intangible
      assets, gross
                      
                      
                      
                      
                      
                      $
                      31,977,585
                      
                      
                      $
                      32,431,118Less
      accumulated amortization:Purchased
      customer relationships
                      
                      
                      
                      
                      
                      $
                      (6,871,527
                      )
                      
                      $
                      (4,919,923
                      )Internally
      developed systems
                      
                      
                      
                      
                      
                      
                      (8,091,295
                      )
                      
                      
                      (5,989,037
                      )Trade
      names
                      
                      
                      
                      
                      
                      
                      (142,063
                      )
                      
                      
                      (115,278
                      )Accumulated
      amortization
                      
                      
                      
                      
                      
                      
                      (15,104,885
                      )
                      
                      
                      (11,024,238
                      )Intangible
      assets, net
                      
                      
                      
                      
                      
                      $
                      16,872,700
                      
                      
                      $
                      21,406,880




Trade
names in the amount of $3,470,820 are not amortizable.





3.
NOTES PAYABLE




Long term
debt and capital lease obligations at April 30, 2010 and July 31, 2009 are as
follows:




April 30, 2010
                  
                  
                  July 31, 2009Term
      Loan
                  
                  $
                  20,416,667
                  
                  
                  $
                  27,916,667Capitalized
      leases
                  
                  
                  —
                  
                  
                  
                  10,688Subtotal
                  
                  
                  20,416,667
                  
                  
                  
                  27,927,355Less
      debt discount
                  
                  
                  515,786
                  
                  
                  
                  919,947Less
      current portion of long term debt
                  
                  
                  9,635,335
                  
                  
                  
                  9,495,374Long
      term debt
                  
                  $
                  10,265,546
                  
                  
                  $
                  17,512,034


5





4. STOCKHOLDERS’
EQUITY





Dividends





The
holders of the outstanding shares of our series C preferred stock are entitled
to receive a 4% per share annual cumulative dividend payable in cash or shares
of common stock at our option.  Dividends accrue and are cumulative on
a daily basis, whether or not earned or declared.  The series C
preferred stock has a par value of $0.01 and a liquidation value of $1,000 per
share.





As of
April 30, 2010 and July 31, 2009, accrued dividends, for the series C preferred
stock, of $65,753 and $116,164, respectively, were included in accrued expenses
on our balance sheet. Total liquidation preferences of the series C preferred
stock were $5,065,753 and $5,116,164 at April 30, 2010 and July 31, 2009,
respectively.





On
May 19, 2009, 6,577 shares of series E preferred stock were issued with a
par value of $0.01 and a liquidation value of $1,000 per share. The preferred
stock pays dividends at the rate of 10% for year 1, 12% for year 2, 14% for year
3 and 16% for each year thereafter.





As of
April 30, 2010 and July 31, 2009, accrued dividends, for the series E preferred
stock, of $625,265 and $133,342, respectively, were included in accrued expenses
on our balance sheet. Total liquidation preferences of the series E preferred
stock were $7,229,265 and $6,710,342 at April 30, 2010 and July 31, 2009,
respectively.





Warrants




On
February 1, 2010 and February 19, 2010, the Company issued 2,587,648 and 239,313
shares, respectively, of the Company’s class A common stock (the “Shares”) to
York Capital Management, L.P. and certain of its affiliates (collectively, “York
Capital”) upon York Capital’s exercise of certain outstanding warrants entitling
York Capital to acquire an aggregate of up to 2,841,892 shares of the Company’s
class A common stock (the “Warrants”).  York Capital had previously
received the Warrants pursuant to the Securities Exchange
Agreement  entered into on May 19, 2009 by and among the Company and
York Capital.





Stockholder Rights Agreement and
Authorization of Series F Junior Participating Preferred
Stock





On
August 25, 2009, the board of directors adopted a stockholder rights
agreement and declared a dividend distribution of one right for each outstanding
share of the Company’s class A common stock to stockholders of record at the
close of business on September 8, 2009. The description and terms of the
rights were set forth in a Stockholder Rights Agreement, by and between the
Company and American Stock Transfer and Trust Company, LLC, as rights agent,
dated as of August 25, 2009 (the “Stockholder Rights Agreement”). The board
of directors of the Company also adopted resolutions on August 25, 2009
providing for the issuance of a series of preferred stock of the Company, par
value $.01 per share, designated as series F Junior Participating Preferred
Stock, as set forth in a Certificate of the Powers, Designations, Preferences
and Relative, Participating, Optional and Other Special Rights of the series F
Junior Participating Preferred Stock (the “Certificate of Designations”). The
Certificate of Designations became effective on August 31,
2009.





5.
INCOME TAXES





Pursuant
to generally accepted accounting principles (“GAAP”) in the United
States  a tax position is recognized as a benefit only if it is “more
likely than not” that the tax position would be sustained in a tax examination,
with a tax examination being presumed to occur. The amount recognized is the
largest amount of tax benefit that is greater than 50% likely of being realized
on examination. For tax positions not meeting the “more likely than not” test,
no tax benefit is recorded. Current tax expense is based on the financial
results for the year as adjusted for items that are non-assessable or disallowed
for tax purposes. The tax expense is calculated using tax rates that have been
enacted or substantively enacted by the balance sheet date.


6




5.
INCOME TAXES (Continued)
  The tax
expense for the three and nine months ended April 30, 2010 represents the taxes
that we would expect to pay at statutory rates.  As noted above, GAAP
requires the application of a “more likely than not” threshold to the
recognition and derecognition of tax positions and also require that a change in
judgment related to prior years’ tax positions
be recognized in the quarter of such change.  We have had taxable
income for the last 13 quarters and continue to forecast future taxable
income. As a result, we plan to review the existing valuation allowance on our
net operating
loss carryforwards of approximately $27.3 million in the final quarter of this
fiscal year, which may result in the release of all or some of the valuation
allowance.





6.
FAIR VALUE REPORTING





GAAP
clarifies that fair value is an exit price, representing the amount that would
be received upon sale of an asset or paid to transfer a liability in an orderly
transaction between market participants. As such, fair value is a market-based
measurement that should be determined based on assumptions that market
participants would use in pricing an asset or liability. As a basis for
considering such assumptions, GAAP establishes a three-tier fair value
hierarchy, which prioritizes the inputs used in measuring fair value as
follows:





•
              Level
      1 — Observable inputs such as quoted prices in active
    market;




•
              Level
      2 — Inputs, other than the quoted prices in active markets, that are
      observable either directly or indirectly;
and




•
              Level
      3 — Unobservable inputs in which there is little or no market data, which
      require the reporting entity to develop its own
    assumptions.





The
following table presents the Company’s assets and liabilities that are measured
at fair value on a recurring basis at April 30, 2010:





Quoted Prices in
                  Active Markets
                  for Identical
                  Assets
                  (Liabilities)
                  (Level 1)
                
                
                Significant
                  Other
                  Observable
                  Inputs (Level 2)
                
                
                Significant
                  Unobservable
                  Inputs (Level 3)
                
                
                Carrying AmountCash
                
                $
                12,824,104
                
                
                
                —
                
                
                
                —
                
                
                $
                12,824,104Cash
      Equivalents
                
                $
                2,819,784
                
                
                
                —
                
                
                
                —
                
                
                $
                2,819,784Notes
      Payable
                
                
                —
                
                
                
                —
                
                
                $
                (19,568,948
                )
                
                $
                (19,900,880
                )





The
carrying amount of the notes payable contains a $515,786 discount. Management
believes that the assets can be liquidated without restriction.





7.
COMMITMENTS AND CONTINGENCIES





Litigation





From time
to time, we may be party to various legal proceedings and claims, either
asserted or unasserted, which arise in the ordinary course of
business.  While the outcome of these matters cannot be predicted with
certainty, we do not believe that the outcome of any of these claims or any of
the legal matters mentioned elsewhere in this Quarterly Report will have a
material adverse effect on our consolidated financial position, results of
operations or cash flow.





Beginning
in June 2008, j2 Global Communications, Inc. (“j2”) brought a series of two
patent infringement lawsuits against us in U.S. District Court.  j2
alleges that we infringed upon three of j2's patents, U.S. Patent Nos.
6,597,688, 7,020,132 and 6,208,638.  The cases are pending in the U.S.
District Court for the Central District of California and are currently in the
discovery phase.




In
connection with the termination of an agreement to sell the portal operations of
our discontinued India.com business, one of our subsidiaries is party to pending
litigation (India.com v. Dalal).  Judgment was entered against the
subsidiary in the amount of $1,482,347.  We have filed a notice of
appeal in the matter and intend to vigorously pursue the
issue.


7





7.
COMMITMENTS AND CONTINGENCIES (Continued)




As a
result of a New York state sales tax audit completed in 2005 of EasyLink
Services International, Inc., a dissolved subsidiary of EasyLink Services
Corporation, EasyLink Services International was assessed approximately $450,000
in tax, interest, and penalties on sales for the sales tax period beginning
March 1, 2001 and ending May 31, 2004.  The case has been remanded
back to the administrative law judge to determine allocation and penalty
issues.  We expect to appeal the Tribunal’s decision judicially once
all administrative law proceedings are completed.





The
outcome of litigation may not be assured, and despite management’s views of the
merits of any litigation, or the reasonableness of our estimates and reserves,
our cash balances could nonetheless be materially affected by an adverse
judgment.  In accordance with GAAP, we believe we have adequately
reserved for the contingencies arising from the above legal matters where an
outcome was deemed to be probable and the loss amount could be reasonably
estimated.  As such, we do not currently believe that the anticipated
outcome of the aforementioned proceedings will have a materially adverse impact
on our financial condition, cash flows or results of operations.





8.
INTERIM SEGMENT DISCLOSURES





Our
operations are divided into two business segments, which are defined as
follows:





•
              Supply
      Chain Messaging Segment (“Supply Chain”), which includes all our
      electronic data interchange (“EDI”) and telex
  services.




•
              On
      Demand Messaging Segment (“On Demand”), which includes all fax, e-mail,
      document capture and management (“DCM”) and workflow
    services.





The table
below summarizes information about operations for the fiscal quarters ended
April 30, 2010 and 2009:





Supply Chain
                  
                  
                  On Demand
                  
                  
                  TotalQuarter
      Ended April 30, 2010Revenue
      from external customers
                  
                  $
                  10,157,244
                  
                  
                  $
                  10,435,771
                  
                  
                  $
                  20,593,015Segment
      gross profit
                  
                  $
                  7,592,199
                  
                  
                  $
                  7,491,663
                  
                  
                  $
                  15,083,862





The
following is a reconciliation of operating segment income to net income for the
quarter ended April 30, 2010:





Segment
      gross profit
                
                $
                15,083,862Corporate
      expenses
                
                
                11,735,650Operating
      income
                
                
                3,348,212Other
      income (expense), net
                
                
                (46,262
                )Income
      before income taxes
                
                
                3,301,950Income
      tax expense
                
                
                1,312,890Net
      income
                
                $
                1,989,060


8





8.
INTERIM SEGMENT DISCLOSURES (Continued)





Supply Chain
                
                
                On Demand
                
                
                TotalQuarter
      Ended April 30, 2009Revenue
      from external customers
                
                $
                10,348,534
                
                
                $
                10,690,444
                
                
                $
                21,038,978Segment
      gross profit
                
                $
                7,184,346
                
                
                $
                7,353,571
                
                
                $
                14,537,917





The
following is a reconciliation of operating segment income to net income for the
quarter ended April 30, 2009:




Segment
      gross profit
                
                $
                14,537,917Corporate
      expenses
                
                
                11,657,075Operating
      income
                
                
                2,880,842Other
      income (expense), net
                
                
                (1,404,764
                )Income
      before income taxes
                
                
                1,476,078Income
      tax expense
                
                
                239,890Net
      income
                
                $
                1,236,188





The table
below summarizes information about operations for the nine months ended April
30, 2010 and 2009:





Supply Chain
                
                
                On Demand
                
                
                TotalNine
      Months Ended April 30, 2010Revenue
      from external customers
                
                $
                30,966,381
                
                
                $
                30,528,710
                
                
                $
                61,495,091Segment
      gross profit
                
                $
                23,014,371
                
                
                $
                21,208,148
                
                
                $
                44,222,519





The
following is a reconciliation of operating segment income to net income for the
nine months ended April 30, 2010:





Segment
      gross profit
                
                $
                44,222,519Corporate
      expenses
                
                
                35,717,637Operating
      income
                
                
                8,504,882Other
      income (expense), net
                
                
                (737,198
                )Income
      before income taxes
                
                
                7,767,684Income
      tax expense
                
                
                3,107,073Net
      income
                
                $
                4,660,611





Supply Chain
                
                
                On Demand
                
                
                TotalNine
      Months Ended April 30, 2009Revenue
      from external customers
                
                $
                32,396,416
                
                
                $
                32,313,623
                
                
                $
                64,710,039Segment
      gross profit
                
                $
                23,449,218
                
                
                $
                22,238,122
                
                
                $
                45,687,340





The
following is a reconciliation of operating segment income to net income for the
nine months ended April 30, 2009:





Segment
      gross profit
                
                $
                45,687,340Corporate
      expenses
                
                
                38,331,049Intangible
      impairment
                
                
                4,245,914Operating
      income
                
                
                3,110,377Other
      income (expense), net
                
                
                (10,046,921
                )Loss
      before income taxes
                
                
                (6,936,544
                )Income
      tax expense
                
                
                995,159Net
      loss
                
                $
                (7,931,703
                )


9


9.
DERIVATIVE FINANCIAL INSTRUMENTS





As of
April 30, 2010, we had no known material derivative financial
instruments.





10.
SUBSEQUENT EVENTS





On May
19, 2010, the Company entered into a Commitment Increase Amendment to Revolving
Credit and Term Loan Agreement (the “Commitment Increase Amendment”) by and
among the Company, as borrower, the lenders from time to time party thereto (the
“Lenders”), and SunTrust Bank, as administrative agent for the
Lenders.  Pursuant to the Commitment Increase Amendment, the Company
partially exercised its rights under the accordion feature of its existing
Revolving Credit and Term Loan Agreement dated May 19, 2009 (the “Credit
Agreement”) and increased its borrowing under the Credit Agreement and the
related Term Notes by an aggregate of $5 million.  The Company entered
into Amended and Restated Term Notes dated May 19, 2010 in favor of the Lenders
evidencing the increased principal amount of its borrowing.




The
Company used the proceeds of the $5 million loan increase plus approximately
$2.2 million of its cash on hand to redeem all of its outstanding Series E
Preferred stock held by York Capital.




The
increased principal amount of the Term Loan will be due and payable in quarterly
installments beginning on July 31, 2010 and ending on April 30, 2012,
subject to acceleration in the event of a default.


10





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





Forward
Looking Statement Disclaimer





All
statements other than statements of historical facts included in this Quarterly
Report regarding our financial position, business strategy and plans and
objectives of management for future operations are forward-looking statements.
These forward-looking statements are based on the beliefs of management, as well
as assumptions made by and information currently available to management. When
used in this quarterly report, the words “anticipate,” “believe,” “estimate,”
“expect,” “may,” “will,” “hope,” “continue” and “intend,” and words or phrases
of similar import, as they relate to our financial position, business strategy
and plans, or objectives of management, are intended to identify forward-looking
statements. These statements reflect our current view with respect to future
events and are subject to risks, uncertainties and assumptions related to
various factors, including, without limitation, those described in Item 1A of
Part II of this Quarterly Report under the heading “Risk Factors” and in our
registration statements and periodic reports filed with the SEC under the
Securities Exchange Act of 1934, as amended (the “Exchange Act”), and the
Securities Act of 1933, as amended (the “Securities Act”).





Although
we believe that our expectations are reasonable, we cannot assure you that our
expectations will prove to be correct. Should any one or more of these risks or
uncertainties materialize, or should any underlying assumptions prove incorrect,
actual results may vary materially from those described in this Quarterly Report
as anticipated, believed, estimated, expected, hoped or intended.





Business
Overview





We are a
global provider of value added services that facilitate the electronic exchange
of documents and information between enterprises, their trading communities and
their customers. We deliver most of our services through a global IP network,
which hosts our applications on enterprise-class platforms that are comprised of
server and network operations centers located worldwide.





Our core
services include EDI services, fax services, telex services and other services
that are integral to the movement of money, materials, products, people and
information in the global economy including documents such as insurance claims,
trade and travel confirmations, purchase orders, invoices, shipping notices and
funds transfers that help our customers to be more efficient and mobile. Our
operations include two business segments defined as follows:





·
            Supply
      Chain segment, which includes all our EDI and telex
    services.





·
            On
      Demand segment, which includes all fax, e-mail, DCM and workflow
      services.





Global
macro economic trends are important barometers for our business. Changes in the
level of economic activity are reflected directly in the volumes of our services
used by our customers in both segments of our business. As the United States and
global economies have experienced recession, we have seen a decrease in the
volume of demand for our services from existing customers, as well as increasing
pricing pressure and customer bankruptcies and reorganizations. However,
extended economic slowdowns can possibly improve customer acquisition
opportunities as larger companies look to outsource business functions in our
service segments to reduce internal costs. We expect volume trends to reverse
when and as the United States and global economies move into a more robust
recovery and current unemployment levels begin to decline.  Our
management has taken steps to adjust our cost structure to reflect the decrease
in demand for our services, which steps have positively impacted our
profitability.  However, there can be no assurance that we can achieve
further offsetting cost reductions if revenue continues to drop
significantly





Approximately
25% of our revenue comes from international operations. Accordingly, our revenue
can vary based on the performance of non-US economies and on the prevailing
exchange rates of the relevant currencies (principally, the euro and the British
pound) compared to the US dollar.


11





We have
grown our business significantly through acquisitions in recent years. We
continue to seek to reap the benefits of those acquisitions through the
integration and consolidation of operations and the cross-selling of services
across the combined customer base. The current economic climate may provide
additional opportunities for consolidative or synergistic
acquisitions.





Critical Accounting Policies and
Significant Use of Estimates in Financial Statements





The
discussion and analysis of our financial condition and results of operations are
based upon our condensed consolidated financial statements, which have been
prepared in accordance with GAAP. The preparation of these financial statements
requires us to make estimates and judgments that affect the reported amount of
assets, liabilities, revenue and expenses. We consider certain accounting
policies related to revenue recognition, valuation of acquired intangibles and
impairment of long-lived assets, including goodwill to be critical policies due
to the estimation process involved in each. Management discusses its estimates
and judgments with the Audit Committee of our Board of Directors.





We
discuss our critical accounting policies in Item 7, Management’s Discussion and
Analysis of Financial Condition and Results of Operations, in our Annual Report
on Form 10-K for the year ended July 31, 2009. There have been no significant
changes in our critical accounting policies since July 31, 2009.





Nine Months Ended April 30, 2010
Compared with the Nine Months Ended April 30, 2009


Results of
Operations





The
following table reflects consolidated operating data by reported segment. All
significant intersegment activity has been eliminated. Accordingly, the segment
results below exclude the effect of transactions with our
subsidiaries.





Nine Months Ended April 30,2010
                  
                  
                  2009
                  
                  
                  VarianceRevenue:Supply
      Chain MessagingEDI
      Services
                  
                  $
                  24,846,669
                  
                  
                  $
                  24,996,8488
                  
                  
                  $
                  (150,179
                  )Telex
      Services
                  
                  
                  6,119,724
                  
                  
                  
                  7,399,568
                  
                  
                  
                  (1,279,844
                  )Total
      Supply Chain Messaging
                  
                  
                  30,966,393
                  
                  
                  
                  32,396,416
                  
                  
                  
                  (1,430,023
                  )On
      Demand MessagingFax
      Services
                  
                  
                  24,885,631
                  
                  
                  
                  25,883,384
                  
                  
                  
                  (997,753
                  )DCM
      Services
                  
                  
                  1,519,114
                  
                  
                  
                  2,046,495
                  
                  
                  
                  (527,381
                  )Other
      Services
                  
                  
                  4,123,953
                  
                  
                  
                  4,383,744
                  
                  
                  
                  (259,791
                  )Total
      On Demand Messaging
                  
                  
                  30,528,698
                  
                  
                  
                  32,313,623
                  
                  
                  
                  (1,784,925
                  )Total
      Revenue:
                  
                  
                  61,495,091
                  
                  
                  
                  64,710,039
                  
                  
                  
                  (3,214,948
                  )Cost
      of Revenue:Supply
      Chain Messaging
                  
                  
                  7,952,010
                  
                  
                  
                  8,947,198
                  
                  
                  
                  (995,188
                  )On
      Demand Messaging
                  
                  
                  9,320,562
                  
                  
                  
                  10,075,501
                  
                  
                  
                  (754,939
                  )Total
      Cost of Revenue
                  
                  
                  17,272,572
                  
                  
                  
                  19,022,699
                  
                  
                  
                  (1,750,127
                  )Gross
      Margin:Supply
      Chain Messaging
                  
                  
                  23,014,383
                  
                  
                  
                  23,449,218
                  
                  
                  
                  (434,835
                  )On
      Demand Messaging
                  
                  
                  21,208,136
                  
                  
                  
                  22,238,122
                  
                  
                  
                  (1,029,986
                  )Total
      Gross Margin
                  
                  
                  44,222,519
                  
                  
                  
                  45,687,340
                  
                  
                  
                  (1,464,821
                  )Product
      Development and Enhancement
                  
                  
                  5,499,576
                  
                  
                  
                  5,901,783
                  
                  
                  
                  (402,207
                  )Selling
      and Marketing
                  
                  
                  9,584,468
                  
                  
                  
                  9,780,627
                  
                  
                  
                  (196,159
                  )General
      and Administrative
                  
                  
                  20,633,593
                  
                  
                  
                  22,648,639
                  
                  
                  
                  (2,015,046
                  )Intangible
      Impairment
                  
                  
                  —
                  
                  
                  
                  4,245,914
                  
                  
                  
                  (4,245,914
                  )Total
      product, selling and G&A expenses
                  
                  
                  35,717,637
                  
                  
                  
                  42,576,963
                  
                  
                  
                  (6,859,326
                  )Other
      (expense) income
                  
                  
                  (737,198
                  )
                  
                  
                  (10,046,921
                  )
                  
                  
                  9,309,723Income
      (loss) before income taxes
                  
                  $
                  7,767,684
                  
                  
                  $
                  (6,936,544
                  )
                  
                  $
                  14,704,2288


12


Revenue —
Total revenue for the nine months ended April 30, 2010 was approximately
$61.5  million, a decrease of approximately $3.2 million or 5.0% as
compared to the nine-month period ended April 30, 2009. This decrease in
revenues is primarily due to revenue from the first quarter of fiscal 2009 that
was not affected by the global economic slowdown as well as reduced customer
volume.





The
Supply Chain Messaging segment decreased approximately $1.4 million, or 4.4%,
from the nine-month period ended April 30, 2009, as compared to the nine-month
period ended  April 30, 2010, due to a decrease of approximately
$150,000 (a 0.6% decrease)  in EDI services and a decrease of
approximately $1.3 million (a 17.3% decrease) in Telex services.





The On
Demand Messaging segment decreased approximately $1.8 million, or 5.5%, from the
nine-month period ended April 30, 2009, as compared to the nine-month period
ended  April 30, 2010, due to decreases of approximately $2.3 million
(a 30.4% decrease) for Production Fax services and approximately $527,000 (a
25.8% decrease) for DCM services.  The reductions were partially
offset by a $1.5 million (8.7% increase) increase in Desktop Fax
services.





Gross
Profit and Gross Margin — Gross profit decreased approximately $1.5 million, or
3.2% from the nine-month period ended April 30, 2009, as compared to the
nine-month period ended  April 30, 2010, due to the decrease in
customer revenues.  However, gross margin improved to 71.9% for the
nine-month period ended April 30, 2010, as compared to 70.6% for the nine-month
period ended April 30, 2009 due mainly to reduced network operations
expenses.





Cost of
Revenue — Total cost of revenue on a year over year basis decreased
approximately $1.8 million, or 9.2%, due mainly to reductions in labor and
related expenses of approximately $1.5 million (a 25.2% decrease), approximately
$285,000 in reduced equipment expense (a 27.6 % decrease), approximately
$206,000 in reduced building related expenses (a 26.0% decrease), and
approximately $126,000 (a 40.7% decrease) in reduced travel and other
costs.  All of the reductions are a result of management’s continued
efforts to streamline operations and reduce costs.  These reductions
were partially offset by an approximate $237,000 (a 2.7% increase) increase in
telecom expense and an approximate $64,000 (a 4.0% increase) increase in
depreciation expense due to infrastructure upgrades.





Product
Development — Product development costs decreased approximately $402,000, or
6.8%, from the nine-month period ended April 30, 2009, as compared to the
nine-month period ended  April 30, 2010. These decreased costs
consisted mainly of a decrease of approximately $165,000  (a 94.3%
decrease) in telecom and equipment expense , an approximate $99,000 decrease (a
89.3% decrease) in building related expenses, an approximate $74,000 decrease (a
71.5% decrease) in travel related expenses and an approximate decrease of
$72,000 (a 62.2% reduction) for outside professionals and consultants. The
decreases were part of the company’s restructuring during the previous quarters
for which benefits are now being realized.





Selling
and Marketing — Selling and marketing expenses decreased approximately $196,000,
or 2.0%, from the nine-month period ended April 30, 2009, as compared to the
nine-month period ended  April 30, 2010. These decreased costs
consisted mainly of outside professional services of approximately $457,000 (a
21.9% reduction) and a $167,000 decrease (a 21.9% decrease) in travel related
costs.  The reductions were partially offset by an increase in
compensation and benefits expense of approximately $311,000 (a 4.9% increase)
and an increase in lead generation and web marketing expenses of approximately
$160,000 (an 87.3% increase).





General
and Administrative and Intangible Impairment — General and administrative and
intangible impairment expenses decreased approximately $6.3 million, or 23.2%,
from the nine-month period ended April 30, 2009, as compared to the nine-month
period ended  April 30, 2010. The reduction in expense was attributed
to an approximate $1.5 million charge in the fiscal year 2009 for professional
fees related to the due diligence of an acquisition that did not occur, a
reduction of compensation and benefits of approximately $809,000 (a 9.8%
decrease) due to organizational restructuring, the reduction of bad debt expense
of approximately $521,000 (a 58.6% decrease) due to increased collection
efforts, an approximate $94,000 (an 11.9% decrease) decrease in equipment
expense and a decrease in intangible amortization expense of approximately $4.6
million (a 51.6% decrease) due mainly to an impairment of intangible assets in
fiscal year 2009 of approximately $4.2 million which, in turn, caused a decrease
of continued amortization expense of approximately $400,000.  These
decreases are partially offset by a $500,000 increase in accrued expenses, a
$260,000 (a 49.8% increase) increase in other outside professional services and
an approximate $125,000 (a 6.2% increase) increase in building related expenses
due to a one-time payment for a lease buyout.


13




Operating
Income — Operating income increased approximately $5.4 million from the
nine-month period ended April 30, 2009, as compared to the nine-month period
ended April 30, 2010, mainly from the $4.2 million impairment of intangible
assets during 2009, the $1.5 million in professional fees booked in 2009 that
related to the due diligence of an acquisition that did not occur as well as
savings from management’s cost cutting efforts and the reduced professional fees
in 2010.





Other
Expense — Other expenses for the nine-month period ended April 30, 2010 consist
mainly of net interest expense of approximately $1.3 million which included
approximately $860,000 in net cash interest expense and approximately $404,000
in interest expense from the amortization of the discount on our Term
Loan.  Interest expenses for the nine-month period ended April 30,
2010 decreased approximately $9.3 million from the nine-month period ended April
30, 2009, due mainly to the elimination of $6.3 million in non-cash interest
accrued in fiscal 2009 from the refinancing of the debt and a $1.7 million early
payment penalty recorded as interest expense that was paid as a result of the
Company making an early payment on the previous outstanding debt.  An
additional $1.1 million of interest expense was recognized in 2009 due to the
higher balance on the outstanding debt as well as a higher interest rate at
April 30, 2009 on the outstanding debt as compared to the existing Term Note
balance and interest rate at April 30, 2010.  Other expense was also
lower due to approximately $503,000 of foreign exchange gains during the
nine-month period ended April 30, 2010.





Net
income — Net income increased approximately $12.6 million, or 158.7%, from the
nine-month period ended April 30, 2009, as compared to the nine-month period
ended April 30, 2010, due primarily to $4.2 million for the impairment of
intangibles recognized in 2009 and the $9.3 million reduction in interest
expense.


14





Three
Months Ended April 30, 2010 Compared with the Three Months Ended April 30,
2009


Results of
Operations





The
following table reflects consolidated operating data by reported segment. All
significant intersegment activity has been eliminated. Accordingly, the segment
results below exclude the effect of transactions with our
subsidiaries.





Three Months Ended April 30,2010
                
                
                2009
                
                
                VarianceRevenue:Supply
      Chain MessagingEDI
      Services
                
                $
                8,215,485
                
                
                $
                8,029,866
                
                
                $
                185,619Telex
      Services
                
                
                1,941,760
                
                
                
                2,318,668
                
                
                
                (376,908
                )Total
      Supply Chain Messaging
                
                
                10,157,245
                
                
                
                10,348,534
                
                
                
                (191,289
                )On
      Demand MessagingFax
      Services
                
                
                8,680,228
                
                
                
                8,550,085
                
                
                
                130,143DCM
      Services
                
                
                482,546
                
                
                
                613,592
                
                
                
                (131,046
                )Other
      Services
                
                
                1,272,996
                
                
                
                1,526,767
                
                
                
                (253,771
                )Total
      On Demand Messaging
                
                
                10,435,770
                
                
                
                10,690,444
                
                
                
                (254,674
                )Total
      Revenue:
                
                
                20,593,015
                
                
                
                21,038,978
                
                
                
                (445,963
                )Cost
      of Revenue:Supply
      Chain Messaging
                
                
                2,565,045
                
                
                
                3,164,188
                
                
                
                (599,143
                )On
      Demand Messaging
                
                
                2,944,108
                
                
                
                3,336,873
                
                
                
                (392,765
                )Total
      Cost of Revenue
                
                
                5,509,153
                
                
                
                6,501,061
                
                
                
                (991,908
                )Gross
      Margin:Supply
      Chain Messaging
                
                
                7,592,200
                
                
                
                7,184,346
                
                
                
                407,854On
      Demand Messaging
                
                
                7,491,662
                
                
                
                7,353,571
                
                
                
                138,091Total
      Gross Margin
                
                
                15,083,862
                
                
                
                14,537,917
                
                
                
                545,945Product
      Development and Enhancement
                
                
                1,884,210
                
                
                
                1,774,455
                
                
                
                109,755Selling
      and Marketing
                
                
                3,086,871
                
                
                
                3,124,099
                
                
                
                (37,228
                )General
      and Administrative
                
                
                6,764,569
                
                
                
                6,758,521
                
                
                
                6,048Total
      product, selling and G&A expenses
                
                
                11,735,650
                
                
                
                11,657,075
                
                
                
                78,575Other
      (expense) income
                
                
                (46,262
                )
                
                
                ( 1,404,764
                )
                
                
                1,358,502Income
      before income taxes
                
                $
                3,301,950
                
                
                $
                1,476,078
                
                
                $
                1,825,872


15


Revenue —
Total revenue for the three months ended April 30, 2010 was approximately $20.6
million, a decrease of approximately $446,000, or 2.1%, as compared to the
three-month period ended April 30, 2009. This decrease in revenues is primarily
due to reduced customer volume resulting from the continued global economic
slowdown. The effect of the exchange rate fluctuations on revenues for the
quarterly comparison was an increase of approximately $200,000 due mainly to the
strengthening of the Great British Pound year over year.





The
Supply Chain Messaging segment decreased approximately $191,000, or 1.8%, from
the three-month period ended April 30, 2009, as compared to the three-month
period ended April 30, 2010, due to decrease of approximately
$377,000  (a 16.3% decrease) in Telex services.  The
decreases were partially offset by an increase of approximately $185,000 (a 2.3%
increase) in EDI services.





The On
Demand Messaging segment decreased approximately $254,000, or 2.4%, from the
three-month period ended April 30, 2009, as compared to the three-month period
ended April 30, 2010, due to decreases of approximately $307,000 (a 14.7%
decrease) for Production Fax services, approximately $254,000 (a 16.6% decrease)
for Other services and approximately $131,000 (a 21.4% decrease) for DCM
services.  These reductions were partially offset by increases of
$444,000 (a 7.1% increase) for Desktop Fax Services.





Gross
Profit and Gross Margin — Gross profit decreased approximately $546,000, or
3.8%, from the three-month period ended April 30, 2009, as compared to the
three-month period ended April 30, 2010, due to the decrease in customer
volumes.  However, gross margin increased to 73.2% for the three-month
period ended April 30, 2010 as compared to 69.1% for the period ending April 30,
2009 due mainly to one-time reduced network operations
expenses.  These reduced network operations expenses are not
sustainable and will not be experienced in future periods.





Cost of
Revenue — Total cost of revenue decreased approximately $992,000, or 15.2%, due
mainly to reductions in labor and related expenses of approximately $398,000 (a
21.0% decrease), approximately $204,000 in reduced hardware and software
maintenance expense (a 60.8% decrease), approximately $185,000 (a 5.9% decrease)
in reduced telecom expense, and approximately $76,000 in reduced building
related expenses (a 29.0% decrease).  Foreign currency effects had a
minor effect on the year over year cost of revenues.





Product
Development — Product development costs increased approximately $110,000, or
6.2%, from the three-month period ended April 30, 2009, compared to the
three-month period ended April 30, 2010. These increased costs consisted mainly
of approximately $196,000 in increased labor and benefits.  These
increases were partially offset by a reduction in telecom and equipment expense
of approximately $41,000 (a 49.7% reduction), an approximate decrease of $31,000
(an 87.4% reduction) for building related costs and an approximate decrease of
$18,000 (a 58.8% decrease) for travel related expenses. The decreases were part
of the company’s restructuring during the previous quarters for which benefits
are now being realized.  Foreign currency effects had a minor effect
on the year over year product development costs.





Selling
and Marketing — Selling and marketing expenses decreased approximately $37,000,
or 1.2%, from the three-month period ended April 30, 2009, compared to the
three-month period ended April 30, 2010. These decreased costs consisted mainly
of an approximate decrease of $155,000 (a 82.0% decrease) in consulting and
recruiting expenses, an approximate decrease of $107,000 (a 13% decrease) for
non-employee commissions, an approximate decrease of $53,000 (a 22.9% decrease)
in travel related expenses and an approximate decrease of $39,000 (a 99.6%
decrease) for seminars   These decreases were partially offset by
an increase due to the fluctuation in foreign currency of approximately
$100,000, an approximate $186,000 (a 9.7% increase) increase in labor,
commissions and benefits and an approximate $47,000 (a 89.1% increase) increase
in miscellaneous marketing expense  These increases are due to an
increased effort to generate new business by promoting the EasyLink brand and
products.





General
and Administrative and Intangible Impairment — General and administrative
expenses increased approximately $6,000, or 0.1%, from the three-month period
ended April 30, 2009 to the three-month period ended April 30, 2010. Although
the quarterly comparatives remained relatively consistent,  there was
an increase of approximately $594,000 (a 214.0% increase) in legal expenses and
an increase due to foreign exchange of $52,000.  This increase was
partially offset by a reduction of bad debt expense of approximately $196,000 (a
62.4% decrease) due to increased collection efforts, a decrease of approximately
$175,000 (a 6.6% decrease) in salary and benefit related costs due to
organizational restructuring, a decrease in equipment expense of approximately
$69,000 (a 28.0% decrease), and a decrease in depreciation and amortization of
approximately $87,000 (a 5.7% decrease).


16





Operating
Income — Operating income increased approximately $467,000, or 16.2%, from the
three-month period ended April 30, 2009 as compared to the three-month period
ended April 30, 2010 due mainly to the improved gross margins.  These
improved margins were partially offset by $189,000 in increased costs due to
foreign currency fluctuations.





Other
Expense — Other expenses for the three-month period ended April 30, 2010 consist
mainly of interest expense of approximately $336,000, which included
approximately $216,000 in cash interest expense and approximately $120,000 in
interest expense from the amortization of the discount on our Term
Loan.  Interest expenses for the three-month period ended April 30,
2010 decreased approximately $1.2 million from the three-month period ended
April 30, 2009 due mainly to the elimination of $1.0 million in non-cash
interest due to the refinancing of the previous held debt and $200,000 of cash
interest expense related to the outstanding debt.  In addition, there
was an increase in foreign currency gain of approximately $81,000.





Net
income — Net income increased approximately $753,000, or 60.9%, from the
three-month period ended April 30, 2009 as compared to the three-month period
ended April 30, 2010 due primarily to the improvement in operating income and
the reduction in interest expense.





Liquidity
and Capital Resources





Our
principal source of liquidity consists of cash generated from operations. As the
majority of our revenue is reoccurring under contract, it is primarily affected
by the volumes incurred by the customer using the underlying messaging service.
Operating expenses are primarily driven by labor and telecom costs which are
directly tied to customer utilization of messaging services. Cash and cash
equivalents increased approximately $4.6 million to a total balance of
approximately $15.6 million as of April 30, 2010 from approximately $11.0
million as of July 30, 2009. This increase in cash was primarily caused by
approximately $13.9 million in operating cash flow. These cash flows were
partially offset by approximately $889,000 in investing cash flow for the
purchase of computer equipment and $7.5 million for principal and interest
payments under our Term Loan.





Our
liquidity will be affected by the three year Term Loan that calls for quarterly
principal payments of approximately $2.5 million that are prorated at the
beginning and end of the terms.  Borrowings under the Term Loan bear
interest, at our election, at a rate tied to one of the following rates, in each
case plus a specified margin: (i) the higher of (1) the prime lending
rate of SunTrust Bank, the administrative agent for the Lenders, (2) the
U.S. Federal Funds Rate plus 0.5%, and (3) adjusted one-month LIBOR plus
1.0%; (ii) adjusted LIBOR for the interest period of such borrowing; and
(iii) a LIBOR index rate. The interest margin for each such type of
borrowing varies from 2.50% to 4.50%, depending on our consolidated leverage
ratio at the time of such borrowing.  The interest rate on the Term
Loan as of April 30, 2010 was 3.73%.





On May 19, 2010, the Company used the
proceeds of  $5 million from the Commitment Increase Amendment with
its current Lenders plus approximately $2.2 million of its cash on hand to
redeem all of its outstanding Series E Preferred stock held by York
Capital. The increased
principal amount of the Term Loan will be due and payable in quarterly
installments beginning on July 31, 2010 and ending on April 30, 2012,
subject to acceleration in the event of a default.  The new quarterly
principal payments of $3,125,000 are $625,000 greater than our original
principal payment.





The
accounts receivable increased in the third quarter due to payment delays by
several large customers.  Management believes that existing cash and
cash equivalent balances and cash provided from operations will provide
sufficient liquidity to meet the operating and capital expenditure needs for
existing operations during the next twelve months.


17





Off-Balance
Sheet Arrangements





We do not
have any off-balance sheet arrangements.





Item
3. Quantitative and Qualitative Disclosures About Market Risk





Not
applicable to smaller reporting companies.





Item 4T. Controls and
Procedures





Disclosure
Controls and Procedures





EasyLink
management has established and maintained disclosure controls and procedures as
defined in Exchange Act Rules  13a-15(e) and 15d-15(e) that are designed to
provide reasonable assurance that information required to be disclosed in the
reports that are filed or submitted under the Exchange Act is recorded,
processed, summarized, reported and is accumulated and communicated to the Chief
Executive Officer and Chief Financial Officer, as appropriate, by others within
the entity to allow timely decisions regarding required disclosure.  Our
management, including the Chief Executive Officer and Chief Financial Officer
has evaluated the effectiveness of the disclosure controls and procedures and,
based on this evaluation, have concluded that disclosure controls and procedures
were effective at a reasonable assurance level as of the end of the period
covered by the report.  EasyLink continually reviews the respective
disclosure controls and procedures and make changes, as necessary, to ensure the
quality of its financial reporting.





Internal
Controls over Financial Reporting




There
have been no changes in internal control over financial reporting that occurred
during the third quarter of fiscal year 2010 that have materially affected, or
are reasonably likely to materially affect, EasyLink’s internal control over
financial reporting.





PART
II. OTHER INFORMATION





Item
1. Legal Proceedings




From time
to time, we may be party to various legal proceedings and claims, either
asserted or unasserted, which arise in the ordinary course of
business.  While the outcome of these matters cannot be predicted with
certainty, we do not believe that the outcome of any of these claims or any of
the legal matters mentioned elsewhere in this Quarterly Report will have a
material adverse effect on our consolidated financial position, results of
operations or cash flow.




Beginning
in June 2008, j2 Global Communications, Inc. (“j2”) brought a series of two
patent infringement lawsuits against us in U.S. District Court.  j2
alleges that we infringed upon three of j2's patents, U.S. Patent Nos.
6,597,688, 7,020,132 and 6,208,638.  The cases are pending in the U.S.
District Court for the Central District of California and are currently in the
discovery phase.




In
connection with the termination of an agreement to sell the portal operations of
our discontinued India.com business, one of our subsidiaries is party to pending
litigation (India.com v. Dalal).  Judgment was entered against the
subsidiary in the amount of $1,482,347.  We have filed a notice of
appeal in the matter and intend to vigorously pursue the issue.




As a
result of a New York state sales tax audit completed in 2005 of EasyLink
Services International, Inc., a dissolved subsidiary of EasyLink Services
Corporation, EasyLink Services International, Inc. was assessed approximately
$450,000 in tax, interest, and penalties on sales for the sales tax period
beginning March 1, 2001 and ending May 31, 2004.  The case has been
remanded back to the administrative law judge to determine allocation and
penalty issues.  We expect to appeal the Tribunal’s decision
judicially once all administrative law proceedings are
completed.


18




The
outcome of litigation may not be assured, and despite management’s views of the
merits of any litigation, or the reasonableness of our estimates and reserves,
our cash balances could nonetheless be materially affected by an adverse
judgment.  In accordance with GAAP, we believe we have adequately
reserved for the contingencies arising from the above legal matters where an
outcome was deemed to be probable and the loss amount could be reasonably
estimated.  As such, we do not currently believe that the anticipated
outcome of the aforementioned proceedings will have a materially adverse impact
on our financial condition, cash flows or results of operations.





Item 1A. Risk
Factors





There are
no updates to the risk factors as disclosed in our Annual Report on Form 10-K
for the year ended July 31, 2009 previously filed with the SEC.





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





None.





Item
3. Defaults Upon Senior Securities





None.





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





None.





Item
5. Other Information





None.


19





Item
6. Exhibits





Exhibit
                    Number
                  
                  Description31.1
                  
                  Certification
      of the Chief Executive Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.31.2
                  
                  Certification
      of the Chief Financial Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.32.1
                  
                  Certification
      of the Chief Executive Officer pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002.32.2
                  
                  Certification
      of the Chief Financial Officer pursuant to Section 906 of the
      Sarbanes-Oxley Act of
2002.




20





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.





Date:
June 7, 2010





EASYLINK
      SERVICES INTERNATIONALCORPORATIONBy:
                /s/ Glen E. ShipleyGlen
      E. ShipleyChief
      Financial Officer


21





EXHIBIT
INDEX





Exhibit
                    Number
                  
                  Description31.1
                  
                  Certification
      of the Chief Executive Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.31.2
                  
                  Certification
      of the Chief Financial Officer pursuant to Section 302 of the
      Sarbanes-Oxley Act of 2002.32.1
                  
                  Certification
      of the Chief Executive Officer pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002.32.2
                  
                  Certification
      of the Chief Financial Officer pursuant to Section 906 of the
      Sarbanes-Oxley Act of
2002.




22