**UNITEDSTATES****SECURITIES AND EXCHANGE COMMISSION**

**Washington, D.C. 20549**

 

**FORM 10 -Q**

 
|   | **ý****  ****QUARTERLY REPORT UNDER SECTION 13 OR 15(d)  OF THE SECURITIES EXCHANGE ACT OF 1934.** |
|--------|-------------------------------------------------------------------------------------------------------------------|

 

**For the quarterly period ended March 31, 2006**

 

**OR**

 
|   | **o****  TRANSITION REPORT PURSUANT TO  SECTION 13 OR 15(d)****OF THE SECURITIES EXCHANGE ACT OF 1934** |
|--------|------------------------------------------------------------------------------------------------------------------------|

 

**For the transition periodfrom                to                **

 

**Commission File Number - 001-32217**

 

**InfoSonicsCorporation**(Exact name ofregistrant as specified in its charter)

 

| **Maryland**                                                     | ** ** | **33-0599368**                        |
|------------------------------------------------------------------|------------|---------------------------------------|
| (State or other jurisdiction  of  incorporation or organization) |       | (IRS Employer Identification  Number) |

 

**5880 Pacific Center Blvd San Diego, CA 92121**(Address of principal executiveoffices including zip code)

 

**(858) 373-1600**(Registrant’s telephone number,including area code)

 

**NotApplicable**(Former Name or Former Address, ifChanged Since Last Report)

 

Indicate by check mark whether the registrant (1) has filed all reportsrequired to be filed by Section 13 or 15(d) of the Exchange Act during thepreceding 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days.

Yes   ý   No o

 

Indicate by check mark whether the registrant is a large acceleratedfiler, an accelerated filer, or a non-accelerated filer (as defined in Rule12b-2 of the Exchange Act).

Large Accelerated Filer  o           AcceleratedFiler  o           Non-AcceleratedFiler  ý

 

Indicate by checkmark whether the registrant is a shell company (as defined in Rule 12b-2 of theExchange Act).

Yes  o   No  ý

 

As of May 10, 2006,the Registrant had 6,766,346 shares outstanding of its $.001 par value common stock.

 

 

----

 

**InfoSonicsCorporation and Subsidiaries**

 

**QuarterlyReport on Form 10-Q For The Period Ended****March 31, 2006**

 

**Table ofContents**

 
| **PART I. FINANCIAL INFORMATION** |                                                                                                              |
|-----------------------------------|-------------------------------------------------------------------------------------------------------------------|
| Item 1.                           | Financial Statements                                                                                              |   |
|                              |                                                                                                              |   |
|                              | Consolidated Balance Sheets as of March 31,  2006 (unaudited) and December 31, 2005                               |   |
|                              |                                                                                                              |   |
|                              | Consolidated Statements of Income for the Three Months Ended March  31, 2006 (unaudited) and 2005 (unaudited)     |   |
|                              |                                                                                                              |   |
|                              | Consolidated Statements of Cash Flows for the Three Months Ended  March 31, 2006 (unaudited) and 2005 (unaudited) |   |
|                              |                                                                                                              |   |
|                              | Notes to Unaudited Consolidated Financial  Statements                                                             |   |
|                              |                                                                                                              |   |
| Item 2.                           | Management’s Discussion and Analysis of  Financial Condition and Results of Operations                       |   |
|                              |                                                                                                              |   |
| Item 3.                           | Quantitative and Qualitative Disclosures  About Market Risk                                                       |   |
|                              |                                                                                                              |   |
| Item 4.                           | Controls and Procedures                                                                                           |   |
|                              |                                                                                                              |   |
| **PART  II. OTHER INFORMATION**   |                                                                                                              |
|                              | ** **                                                                                                        |   |
| Item 1.                           | Legal Proceedings                                                                                                 |   |
|                              |                                                                                                              |   |
| Item 1A.                          | Risk Factors                                                                                                      |   |
|                              |                                                                                                              |   |
| Item 6.                           | Exhibits                                                                                                          |   |

 

2

----

 

**Part I. FINANCIAL INFORMATION**

 

**Item 1. Financial Statements**

 

**InfoSonicsCorporation and Subsidiaries**

**ConsolidatedBalance Sheets**

 
| ** **                                                                                                         | ** ** | **March 31  2006** | ** **     | **December 31  2005** | ** ** |
|--------------------------------------------------------------------------------------------------------------------|------------|-------------------------|----------------|----------------------------|------------|
| ** **                                                                                                         | ** ** | **(unaudited)**         | ** **     | ** **                 | ** ** |
| **ASSETS**                                                                                                         |       |                    |           |                       |       |
| **Current assets:**                                                                                                |       |                    |           |                       |       |
| Cash and cash equivalents                                                                                          |       | $                       | 12,346,313     |                       | $          | 7,712,915 |   |
| Trade accounts receivable, net of allowance  for doubtful accounts of $865,290 (unaudited) and $552,993            |       | 43,302,911              |           | 19,962,630                 |       |
| Inventory, net of reserves of $418,450  (unaudited) and $249,476                                                   |       | 7,849,851               |           | 5,612,343                  |       |
| Prepaid inventory                                                                                                  |       | 4,112,667               |           | 1,680,086                  |       |
| Prepaid expenses                                                                                                   |       | 841,980                 |           | 478,196                    |       |
| Net assets of discontinued operations                                                                              |       | 16,458                  |           | 18,931                     |       |
| Deferred tax assets - current                                                                                      |       | 644,000                 |           | 550,000                    |       |
|                                                                                                               |       |                    |           |                       |       |
| Total current assets                                                                                               |       | 69,114,180              |           | 36,015,101                 |       |
|                                                                                                               |       |                    |           |                       |       |
| Property and equipment, net                                                                                        |       | 422,074                 |           | 426,917                    |       |
| Intangible assets                                                                                                  |       | 504,000                 |           | 504,000                    |       |
| Other assets                                                                                                       |       | 90,279                  |           | 90,791                     |       |
|                                                                                                               |       |                    |           |                       |       |
| **Total assets**                                                                                                   | ** ** | **$**                   | **70,130,533** | ** **                 | **$**      | **37,036,809** | ** ** |
|                                                                                                               |       |                    |           |                       |       |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                     | ** ** | ** **              | ** **     | ** **                 | ** ** |
|                                                                                                               |       |                    |           |                       |       |
| **Current liabilities:**                                                                                           |       |                    |           |                       |       |
| Line of credit                                                                                                     |       | $                       | 17,911,931     |                       | $          | 10,000,000 |   |
| Accounts payable                                                                                                   |       | 15,958,692              |           | 5,986,890                  |       |
| Accrued expenses                                                                                                   |       | 3,462,606               |           | 2,983,880                  |       |
| Income taxes payable                                                                                               |       | 244,629                 |           | —                     |       |
|                                                                                                               |       |                    |           |                       |       |
| Total current liabilities                                                                                          |       | 37,577,858              |           | 18,970,770                 |       |
|                                                                                                               |       |                    |           |                       |       |
| Fair value of derivative liability                                                                                 |       | 2,041,265               |           | —                     |       |
| Deferred tax liability non-current                                                                                 |       | 3,000                   |           | 22,207                     |       |
|                                                                                                               |       |                    |           |                       |       |
| **Total liabilities**                                                                                              |       | 39,622,123              |           | 18,992,977                 |       |
|                                                                                                               |       |                    |           |                       |       |
| **Stockholders’ equity:**                                                                                     |       |                    |           |                       |       |
| Preferred stock, $0.001 par value  10,000,000 shares authorized and no shares issued and outstanding               |       | —                  |           | —                     |       |
| Common stock, $0.001 par value 40,000,000  shares authorized 6,766,348 and 5,626,422 shares issued and outstanding |       | 6,766                   |           | 5,626                      |       |
| Additional paid-in capital                                                                                         |       | 24,152,706              |           | 13,426,937                 |       |
| Retained earnings                                                                                                  |       | 6,348,938               |           | 4,611,269                  |       |
|                                                                                                               |       |                    |           |                       |       |
| Total stockholders’ equity                                                                                    |       | 30,508,410              |           | 18,043,832                 |       |
|                                                                                                               |       |                    |           |                       |       |
| **Total liabilities and stockholders’ equity**                                                                | ** ** | **$**                   | **70,130,533** | ** **                 | **$**      | **37,036,809** | ** ** |

 

*See accompanyingnotes.*

 

3

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**InfoSonicsCorporation and Subsidiaries**

**ConsolidatedStatements of Income**

**(unaudited)**

 
| ** **                                                                              | ** ** | **For the Three Months  Ended March 31,** | ** **    |
|-----------------------------------------------------------------------------------------|------------|--------------------------------------------------------------------|---------------|
| ** **                                                                              | ** ** | **2006**                                                           | ** **    | **2005** | ** ** |
| ** **                                                                              | ** ** | ** **                                                         | ** **    | ** ** | ** ** |
| **Net sales**                                                                           |       | $                                                                  | 54,127,089    |   | $ | 24,024,217 |   |
| **Cost of sales**                                                                       |       | 49,947,224                                                         |          | 21,892,957 |   |
|                                                                                    |       |                                                               |          |   |   |
| **Gross profit**                                                                        |       | 4,179,865                                                          |          | 2,131,260 |   |
| **Operating expenses, including non-cash  expense for stock options of $52,443 and $0** |       | 3,096,100                                                          |          | 1,566,914 |   |
|                                                                                    |       |                                                               |          |   |   |
| **Operating income from continuing operations**                                         |       | 1,083,765                                                          |          | 564,346 |   |
|                                                                                    |       |                                                               |          |   |   |
| **Other income (expense)**                                                              |       |                                                               |          |   |   |
| Change in fair value of derivative  liability                                           |       | 963,351                                                            |          | — |   |
| Interest expense                                                                        |       | (80,565                                                            | )             | (24,821 | ) |
|                                                                                    |       |                                                               |          |   |   |
| **Income from continuing operations before  provision for income taxes**                |       | 1,966,551                                                          |          | 539,525 |   |
| **Provision for income taxes**                                                          |       | 227,038                                                            |          | 218,610 |   |
|                                                                                    |       |                                                               |          |   |   |
| **Income from continuing operations**                                                   | ** ** | **1,739,513**                                                      | ** **    | **320,915** | ** ** |
| **Loss from discontinued operations, net of  income tax benefit**                       | ** ** | **(1,844**                                                         | **)**         | **(6,077** | **)** |
| ** **                                                                              | ** ** | ** **                                                         | ** **    | ** ** | ** ** |
| **Net income**                                                                          | ** ** | **$**                                                              | **1,737,669** | ** ** | **$** | **314,838** | ** ** |
|                                                                                    |       |                                                               |          |   |   |
| **Basic earnings per share:**                                                           |       |                                                               |          |   |   |
| From continuing operations                                                              | ** ** | **$**                                                              | **0.27**      | ** ** | **$** | **0.06** | ** ** |
| From discontinued operations                                                            | ** ** | **$**                                                              | **(0.00**     | **)** | **$** | **(0.00** | **)** |
| Net income                                                                              | ** ** | **$**                                                              | **0.27**      | ** ** | **$** | **0.06** | ** ** |
| **Diluted earnings per share:**                                                         | ** ** | ** **                                                         | ** **    | ** ** | ** ** |
| From continuing operations                                                              | ** ** | **$**                                                              | **0.22**      | ** ** | **$** | **0.05** | ** ** |
| From discontinued operations                                                            | ** ** | **$**                                                              | **(0.00**     | **)** | **$** | **(0.00** | **)** |
| Net income                                                                              | ** ** | **$**                                                              | **0.22**      | ** ** | **$** | **0.05** | ** ** |
|                                                                                    |       |                                                               |          |   |   |
| **Basic weighted-average number of common  shares outstanding**                         | ** ** | **6,397,911**                                                      | ** **    | **5,212,000** | ** ** |
|                                                                                    |       |                                                               |          |   |   |
| **Diluted weighted-average number of common  shares outstanding**                       | ** ** | **7,733,469**                                                      | ** **    | **5,856,686** | ** ** |

 

*See accompanyingnotes*.

 

4

----

 

**InfoSonicsCorporation and Subsidiaries**

**ConsolidatedStatements of Cash Flows**

**(unaudited)**

 
| ** **                                                                                                             | ** ** | **For the Three Months Ended March 31,** | ** **     |
|------------------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------------------------|----------------|
| ** **                                                                                                             | ** ** | **2006**                                                               | ** **     | **2005** | ** ** |
| **Cash flows from operating activities:**                                                                              |       |                                                                   |           |   |   |
| Net income from continuing operations                                                                                  |       | $                                                                      | 1,739,513      |   | $ | 320,915 |   |
| Adjustments to reconcile net income from  continuing operations to net cash provided by (used in) operating activities |       |                                                                   |           |   |   |
| Depreciation and amortization                                                                                          |       | 31,935                                                                 |           | 13,690 |   |
| Provision for bad debt                                                                                                 |       | 312,297                                                                |           | 111,650 |   |
| Provision for obsolete inventory                                                                                       |       | 168,974                                                                |           | (21,330 | ) |
| Tax benefit from stock option exercises                                                                                |       | 96,409                                                                 |           | — |   |
| Stock option expense                                                                                                   |       | 52,443                                                                 |           | — |   |
| Change in fair value of derivative security                                                                            |       | (963,351                                                               | )              | — |   |
| (Increase) decrease in                                                                                                 |       |                                                                   |           |   |   |
| Trade accounts receivable                                                                                              |       | (23,652,578                                                            | )              | (5,087,956 | ) |
| Inventory                                                                                                              |       | (2,406,482                                                             | )              | 897,767 |   |
| Prepaid inventory                                                                                                      |       | (2,432,581                                                             | )              | (2,428,150 | ) |
| Prepaid expenses                                                                                                       |       | (363,784                                                               | )              | 168,221 |   |
| Other assets                                                                                                           |       | 511                                                                    |           | (14,415 | ) |
| Increase (decrease) in                                                                                                 |       |                                                                   |           |   |   |
| Accounts payable                                                                                                       |       | 9,971,802                                                              |           | (526,147 | ) |
| Accrued expenses                                                                                                       |       | 478,726                                                                |           | (62,224 | ) |
| Deferred tax asset current                                                                                             |       | (94,000                                                                | )              | (58,000 | ) |
| Deferred tax asset non current                                                                                         |       | (19,207                                                                | )              | 69,000 |   |
| Income tax liabilities                                                                                                 |       | 244,629                                                                |           | 108,514 |   |
|                                                                                                                   |       |                                                                   |           |   |   |
| Cash provided by (used in) continuing  operations                                                                      |       | (16,834,744                                                            | )              | (6,508,465 | ) |
| Cash provided by (used in) discontinued operations                                                                     |       | 629                                                                    |           | (25,001 | ) |
|                                                                                                                   |       |                                                                   |           |   |   |
| Net cash provided by (used in) operating  activities                                                                   |       | (16,834,115                                                            | )              | (6,533,466 | ) |
|                                                                                                                   |       |                                                                   |           |   |   |
| **Cash flows from investing activities:**                                                                              |       |                                                                   |           |   |   |
|                                                                                                                   |       |                                                                   |           |   |   |
| Purchase of property and equipment                                                                                     |       | (27,092                                                                | )              | (43,071 | ) |
|                                                                                                                   |       |                                                                   |           |   |   |
| Net cash provided by (used in) investing  activities                                                                   |       | (27,092                                                                | )              | (43,071 | ) |
|                                                                                                                   |       |                                                                   |           |   |   |
| **Cash flows from financing activities:**                                                                              |       |                                                                   |           |   |   |
| Borrowings from line of credit                                                                                         |       | 23,998,241                                                             |           | 18,422,466 |   |
| Payments on line of credit                                                                                             |       | (16,086,310                                                            | )              | (13,486,592 | ) |
| Cash paid for offering costs                                                                                           |       | (991,680                                                               | )              | — |   |
| Cash received for stock and warrants                                                                                   |       | 14,574,354                                                             |           | — |   |
|                                                                                                                   |       |                                                                   |           |   |   |
| Net cash provided by (used in) financing  activities                                                                   |       | 21,494,605                                                             |           | 4,935,874 |   |
|                                                                                                                   |       |                                                                   |           |   |   |
| Net increase (decrease) in cash and cash  equivalents                                                                  |       | 4,633,398                                                              |           | (1,640,663 | ) |
|                                                                                                                   |       |                                                                   |           |   |   |
| **Cash and cash equivalents, beginning of  period**                                                                    |       | 7,712,915                                                              |           | 5,183,876 |   |
|                                                                                                                   |       |                                                                   |           |   |   |
| **Cash and cash equivalents, end of period**                                                                           | ** ** | **$**                                                                  | **12,346,313** | ** ** | **$** | **3,543,213** | ** ** |

 

*See accompanyingnotes*.

 

5

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**InfoSonicsCorporation**

**Notes toUnaudited Consolidated Financial Statements**

**March 31,2006**

 

**NOTE 1. Basis of Presentation**

 

The accompanying unauditedConsolidated Financial Statements have been prepared in accordance withaccounting principles generally accepted in the United States for interimfinancial information and with the instructions to Form 10-Q and Article 10 ofRegulation S-X of the Securities Exchange Act of 1934. Accordingly, they do notinclude all of the information and footnotes required by accounting principlesgenerally accepted in the United States for complete financial statements. Thepreparation of financial statements requires management to make estimates andassumptions that affect amounts reported in the financial statements andaccompanying notes. Actual results are likely to differ from those estimates,but management does not believe such differences will materially affect thefinancial position or results of operations of InfoSonics Corporation (the“Company”). These Consolidated Financial Statements and notes should be read inconjunction with the financial statements and notes as of and for the yearended December 31, 2005 included in the Company’s Annual Report on Form 10-K,which was filed with the Securities and Exchange Commission on March 31, 2006.The Consolidated Financial Statements reflect all adjustments considered, inthe opinion of the Company, necessary to fairly present the results for theperiods. Such adjustments are of a normal recurring nature.

 

The Consolidated Financial Statements include theaccounts of the Company and its subsidiaries, Axcess Mobile LLC, InfoSonics DeMexico, InfoSonics de Guatemala, InfoSonics El Salvador and InfoSonics S.A.,all of which are wholly owned. Significant intercompany accounts and transactionshave been eliminated in consolidation.

 

The unaudited Consolidated BalanceSheet at March 31, 2006 does not include all of the information and footnotesrequired by accounting principles generally accepted in the United States forcomplete financial statements. Due to seasonal and other factors, the Company’sinterim results may not be indicative of annual results. The unauditedConsolidated Statements of Income for the three months ended March 31, 2006 andthe unaudited Consolidated Statement of Cash Flows for the three months endedMarch 31, 2006 are not necessarily indicative of the operating results or cashflows that may be expected for the full fiscal year or for any future period.

 

**NOTE 2.****Acquisition**

 

On January 19, 2005, the Company purchased PrimaselS.A., from Fanrock Investments Limited for up to 120,000 shares of theCompany’s common stock, based on sales of certain levels being achieved in thenext three years. During the year ended December 31, 2005, 120,000 shares ofstock were issued in full satisfaction of the Company’s potential shareissuance in connection with this transaction. In addition the Company isobligated to pay a profit sharing based on sales and profitability achieved inArgentina. During the three months ended March 31, 2006, the Company recordedan expense and related accrual of $544,000 related to sales and profitability.The Company has accounted for the transaction as a stock purchase. Thepurchase price has been recorded as an intangible asset on the accompanyingbalance sheet. Primasel had a distribution agreement and a management agreementwhich was the purpose for the transaction, and the implied value of thoseagreements is the value of the 120,000 shares issued in October 2005. TheCompany allocated 75% of the non-cash cost of this issuance towards themanagement agreement and 25% towards the distribution agreement. In February 2005, Primasel S.A. changed itsname to InfoSonics S.A. A proforma statement of operations for the three monthsended March, 31 2005 has not been presented as Primasel had no operations priorto the purchase.

 

**NOTE 3.Discontinued Operations**

 

Duringthe quarter ended September 30, 2004, the Company’s Board of Directors reviewedAxcess Mobile, LLC and its mall-based kiosk locations and implemented actionsnecessary to close the Company’s mall-based kiosk locations. On October 28,2004, the Company assigned the leases for six of the mall-based kiosk locationsto an unrelated assignee; however, the assignment did not release the Companyfrom the future lease obligations, of up to $965,000. The assignee operatesapproximately 400 mall-based kiosks in 28 states. A third party is holding inescrow two months rent for the locations from the assignee, and in the event ofdefault by the assignee, those funds will be released to the Company. TheCompany’s other four lease locations were closed in October 2004. SFAS No. 142,“Goodwill and Other Intangible Assets,” prohibits the amortization of goodwill,but requires that it be reviewed for impairment at least annually or on aninterim basis if an event occurs or circumstances change that could indicatethat its value has diminished or been impaired. As a result of the discontinuedoperation, the Company has reassessed the goodwill and written down thevalue to zero. This write-down 

 

6

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was recorded as an operating expense in the year ended December 31,2004. The results of the discontinued operations are as follows:

 
| ** **                    | ** ** | **Three months ended March 31** | ** ** |
|-------------------------------|------------|-----------------------------------------------------|------------|
| ** **                    | ** ** | **2006**                                            | ** ** | **2005** | ** ** |
| Net Sales                     |       | $                                                   | -0-        |   | $ | -0- |   |
| Gross Profit                  |       | -0-                                                 |       | -0- |   |
| Operating loss                |       | (1,844                                              | )          | (6,077 | ) |
| Capital Expenditures          |       | -0-                                                 |       | -0- |   |
| Depreciation and Amortization |       | -0-                                                 |       | -0- |   |
|                               |            |                                                     |            |  |  |  |  |

 

As of March 31, 2006, net assets of discontinued operationsconsist of cash of $12,224 and other assets of $4,234. As of March 31, 2006,the plans for the discontinued operations were complete; however the Companyexpects to continue to record adjustments and expenses through discontinuedoperations as necessary.

 

**NOTE 4. Stock-Based Compensation**

 

Prior toDecember 31, 2005, the Company accounted for employee stock option plans basedon the intrinsic value method in accordance with Accounting Principles Board(APB) Opinion No. 25, “ *Accounting for StockIssued to Employees,”*and related Interpretations and had adoptedthe disclosure requirements of SFAS No. 123, “ *Accountingfor Stock-Based Compensation”*(SFAS No.123), as amended by SFAS No.148, “ *Accounting for Stock-BasedCompensation–Transition and Disclosure*“ (SFAS No. 148). Accordingly,compensation cost for stock options was measured as the excess, if any, of thequoted market price of the Company’s stock at the grant date over the amount anemployee must pay to acquire the stock. The Company granted stock options withexercise prices equal to the market price of the underlying stock on the dateof grant; therefore, the Company did not record stock-based compensationexpense under APB Opinion No. 25.

 

In December2004, the Financial Accounting Standards Board (FASB) issued SFAS No. 123R, “ *Share-Based Payments”*to require thatcompensation cost relating to share-based payment arrangements be recognized inthe financial statements. As of January 1, 2006, the Company adopted SFAS No.123R using the modified prospective method, which requires measurement ofcompensation cost for all stock-based awards at fair value on the date of grantand recognition of compensation over the service period for awards expected tovest. The fair value of stock options were determined using the Black-Scholes valuationmodel, which is consistent with our valuation techniques previously utilizedfor stock options in footnote disclosures required under SFAS No. 123, asamended by SFAS No. 148. Such fair value is recognized as expense over theservice period, net of estimated forfeitures.

 

Ifthe Company had adopted SFAS No. 123R during the quarter ended March 31, 2005for its’ stock-based compensation plans, then the Company’s net income for thethree months ended March 31, 2005 would have been adjusted to the pro formaamounts indicated below:

 

| ** **                                                                                                                                                                        | ** ** | **Quarter ended  March 31,** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------------|------------|
| ** **                                                                                                                                                                        | ** ** | **2005**                               | ** ** |
| Net income as  reported                                                                                                                                                           |       | $                                      | 314,838    |   |
|                                                                                                                                                                              |       |                                   |       |
| Stock-based  employee compensation cost, net of related tax effects, that would have been  included in the determination of net income if the fair value method had been  applied |       | (460,011                               | )          |
| Pro forma                                                                                                                                                                         |       | $                                      | (145,173   | ) |
|                                                                                                                                                                              |       |                                   |       |
| Basic earnings  per common share as reported                                                                                                                                      |       | $                                      | 0.06       |   |
| Stock-based  employee compensation cost, net of related tax effects, that would have been  included in the determination of net income if the fair value method had been  applied |       | $                                      | (0.09      | ) |
| Pro forma                                                                                                                                                                         |       | $                                      | (0.03      | ) |
|                                                                                                                                                                              |       |                                   |       |
| Diluted earning  per share                                                                                                                                                        |       |                                   |       |
| As reported                                                                                                                                                                       |       | $                                      | 0.05       |   |
| Stock-based  employee compensation cost, net of related tax effects, that would have been  included in the determination of net income if the fair value method had been  applied |       | $                                      | (0.08      | ) |
| Pro forma                                                                                                                                                                         |       | $                                      | (0.03      | ) |

 

7

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On September27, 2001, the FASB Emerging Issues Task Force (EITF) issued EITF Issue 96-18“Accounting for Equity Instruments That are Issued to Other than Employees forAcquiring, or in Conjunction with Selling, Goods or Services” which requiresthat equity instruments issued in exchange for services be valued at the moreaccurate of the fair value of the services provided or the fair value of theequity instruments issued. For equity instruments issued that are subject to arequired service period the expense associated with the equity instruments isrecorded as the instruments vest or the services are provided. The Company hasgranted options and warrants to non-employees and recorded the fair value ofthe equity instruments on the date of issuance using the Black-Scholesvaluation model. For grants subject to vesting or service requirements, theexpenses is deferred and is recognized over the more appropriate of the vestingperiod, or as services are provided.

 

On March 29,2005, the Securities and Exchange Commission published Staff AccountingBulletin No. 107 (SAB 107), which provides the Staff’s views on a variety ofmatters relating to stock-based payments. SAB 107 requires stock-basedcompensation to be classified in the same expense line items as cashcompensation. Information about stock-based compensation included in theresults of operations for the quarter ended March 31, 2006 is as follows:

 

| ** **                        | ** ** | **Three Months Ended** | ** ** |
|-----------------------------------|------------|----------------------------------|------------|
| ** **                        | ** ** | **March 31, 2006**     | ** ** |
| Officer compensation              |       | $                                | 18,297     |   |
| Sales, general and administrative |       | 34,146                           |       |
| Totals                            |       | $                                | 52,443     |   |

 

Our stock options vest on an annual or a monthly basis. As of December31, 2005, there was $291,462 of total unrecognized compensation costs relatedto the non-vested stock options. That cost is expected to be recognized overthe next weighted-average period of 1.75 years. Such amounts may change as aresult of additional grants, forfeitures, modifications in assumptions andother factors. SFAS No. 123R provides that income tax effects of share-basedpayments are recognized in the financial statements for those awards which willnormally result in tax deductions under existing tax law. Under current U.S.federal tax law, we would receive a compensation expense deduction related tonon-qualified stock options only when those options are exercised and vestedshares are received. Accordingly, the financial statement recognition of compensationcost for non-qualified stock options creates a deductible temporary differencewhich results in a deferred tax asset and a corresponding deferred tax benefitin the income statement.

 

**NOTE 5. Earnings Per Share**

 

The Company utilizes SFAS No. 128,“Earnings per Share.” Basic earnings per share is computed by dividing incomeavailable to common stockholders by the weighted-average number of commonshares outstanding. Diluted earnings per share is computed similarly to basicearnings per share, except that the denominator is increased to include thenumber of additional common shares that would have been outstanding if thepotential additional common shares that were dilutive had been issued. Commonequivalent shares are excluded from the computation if their effect isanti-dilutive. The Company’s common share equivalents consist of stock options.

 

Thefollowing table represents a reconciliation of the shares used to calculatebasic and diluted earnings per share for the respective periods indicated:

 
| ** **                                                                                                  | ** ** | **Three Months Ended March 31,** | ** ** |
|-------------------------------------------------------------------------------------------------------------|------------|------------------------------------------------------|------------|
| ** **                                                                                                  | ** ** | **2006**                                             | ** ** | **2005** | ** ** |
|                                                                                                        |       |                                                 |       |   |   |
| Numerator: Net  income                                                                                      |       | $                                                    | 1,737,669  |   | $ | 314,838 |   |
| Denominator:                                                                                                |       |                                                 |       |   |   |
| Denominator for  basic earnings per share – weighted average shares                                    |       | 6,397,911                                            |       | 5,212,000 |   |
| Effect of  dilutive securities                                                                              |       |                                                 |       |   |   |
| Employee stock  options                                                                                     |       | 1,335,558                                            |       | 644,686 |   |
| Denominator for  diluted earnings per share – adjusted weighted average shares and assumed  conversion |       | 7,733,469                                            |       | 5,856,686 |   |
|                                                                                                        |       |                                                 |       |   |   |
| Basic earnings  per share                                                                                   |       | $                                                    | 0.27       |   | $ | 0.06 |   |
|                                                                                                        |       |                                                 |       |   |   |
| Diluted earnings  per share                                                                                 |       | $                                                    | 0.22       |   | $ | 0.05 |   |

 

8

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Potentialcommon shares have been excluded from the computation of diluted earnings pershare due to their exercise price being greater than the Company’s weightedaverage stock price for the period. For the three months ended March 31, 2006and 2005, the number of shares excluded for stock options and warrants was963,376 and 1,131,750 respectively.

 

**NOTE 6. IncomeTaxes**

 

SFAS No. 109, “ACCOUNTING FORINCOME TAXES”, establishes financial accounting and reporting standards for theeffect of income taxes. The objectives of accounting for income taxes are torecognize the amount of taxes payable or refundable for the current year anddeferred tax liabilities and assets for the future tax consequences of eventsthat have been recognized in an entity’s financial statements or tax returns.Judgment is required in assessing the future tax consequences of events thathave been recognized in our financial statements or tax returns. Fluctuationsin the actual outcome of these future tax consequences could materially impactour financial position or our results of operations.

 

**NOTE 7. Inventory**

 

Inventoryis valued at the lower of cost or market using standard costs that approximateaverage cost. Inventories are reviewed periodically and items considered to beslow moving or obsolete are reduced to estimated net realizable value throughan appropriate reserve. In addition, included in our Prepaid Inventory at March31, 2006, we had consigned inventory of $1.9 million which is located at thedistribution center and retail locations of a certain carrier. This inventoryis owned by the Company until it is sold by the carrier. There was no consignedinventory at December 31, 2005. Inventory consists of the following:

 
| ** **        | ** ** | **March 31,  2006** | ** ** | **December 31,  2005** | ** ** |
|-------------------|------------|---------------------|------------|------------------------|------------|
| Finished goods    |       | $                   | 8,268,301  |                   | $          | 5,861,819 |   |
| Inventory reserve |       | (418,450            | )          | (249,476               | )          |
| Net inventory     |       | $                   | 7,849,851  |                   | $          | 5,612,343 |   |

 

**NOTE 8. Property and Equipment**

 

Property and equipment consisted of the following:

 
| ** **                     | ** ** | **March 31,  2006** | ** ** | **December 31,  2005** | ** ** |
|--------------------------------|------------|---------------------|------------|------------------------|------------|
| Machinery  and equipment       |       | $                   | 498,524    |                   | $          | 487,998 |   |
| Furniture  and fixtures        |       | 133,648             |       | 117,082                |       |
|                           |       | 632,172             |       | 605,080                |       |
| Less  accumulated depreciation |       | 210,098             |       | 178,163                |       |
| Total                          |       | $                   | 422,074    |                   | $          | 426,917 |   |

 

Depreciation expense was $31,935 and $13,690 for thequarter ended March 31, 2006 and March 31, 2005, respectively.

 

**NOTE 9. Line of Credit**

 

TheCompany has a line of credit from a bank, which provides for advances not toexceed 80% of eligible domestic accounts receivable and 85% of foreign insuredaccounts, depending on the country of the debtor, up to a maximum of$25,000,000. As of March 31, 2006, the majority of the debtors are foreign.

 

Interestis payable on a monthly basis at prime (7.75% at March 31, 2006) or at theLondon Inter-Bank Offering Rate (4.875% at March 31, 2006), plus 1.50%. Theline of credit is collateralized by substantially all of the assets of theCompany, and expires in October 2006. In addition to reporting and other non-financialcovenants, the line of credit contains certain financial covenants whichrequire the Company to maintain a tangible net worth of not less than$12,500,000, a quick ratio of not less than 1-to-1, a debt-to-net worth ratioof not greater than 2-to-1, and require the Company to maintain annual netincome after taxes of at least $1 on a rolling four quarter basis. Managementbelieves the Company was in compliance with these covenants at March 31, 2006.At March 31, 2006 and December 31, 2005, the amounts drawn against the line ofcredit were $17,911,931 and 10,000,000, respectively.

 

TheCompany has no other notes payable.

 

9

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**NOTE 10. Stockholders’ Equity**

 

Saleof Common Stock

 

On January 30, 2006**,**theCompany sold an aggregate of 1,100,000 shares of its common stock at $13.10 pershare, for total gross proceeds of $14,410,000.  The purchasers were alsoissued warrants (as described below).

 

Stock Options

 

TheCompany did not grant any stock options during the three months ended March 31,2006.

 

Warrants

 

In June 1998, FASB issued SFAS No. 133, Accounting forDerivative Instruments and Hedging Activities. The Statement establishesaccounting and reporting standards for derivative instruments, including certainderivative instruments embedded in other contracts, (collectively referred toas derivatives) and for hedging activities. It requires that an entityrecognize all derivatives as either assets or liabilities in the statement offinancial position and measure those instruments at fair value.

 

InJanuary 2006, the Company sold shares of common stock including warrants topurchase an aggregate of 330,000 shares of the Company’s common stock at anexercise price of $18.38 per share during the period beginning six months afterthe date of the purchase agreement and ending four years later. The Companyalso issued three year term warrants to purchase a total of 28,600 shares tothe placement agents in the offering.  Of the total number of placementagent warrants, warrants to purchase 22,000 shares have an exercise price of$13.76 per share and 6,600 have an exercise price of $19.30 per share. The placement agents also received cash compensation equal to 6% of the grossproceeds raised in the offering plus incidental expenses. The Company evaluated the warrants in thetransaction as derivatives in accordance with SFAS No. 133. The warrants, tothe extent that they are to be satisfied with common stock of the Company,would normally be included as equity obligations. However, in the event thatthe Company does not maintain effectiveness of the registration statementshares issued upon exercise of the warrants could be restricted; therefore, theCompany is required to record a liability for the fair value of the warrantsdetermined under the Black-Scholes option pricing formula (included in theliabilities as a “derivative liability”). Subsequent to the initial recording,the change in the fair value of the warrants, determined under theBlack-Scholes option pricing formula, at each reporting date, is recorded as anadjustment to the liability. The expense relating to the change in the fairvalue of the Company’s stock reflected in the change in the fair value of thewarrants is included as other income (expense). The value of the warrants onJanuary 30 and March 31, 2006 was calculated using the followingweighted-average assumptions: dividend yields of 0% and 0%, respectively,expected volatility of 97% and 98%, respectively risk-free interest rates of4.46% and 4.82%, respectively, and expected lives of 4 years and 4 years,respectively.

 

**NOTE 11. Recent AccountingPronouncements**

 

InDecember 2004, the FASB issued SFAS No. 123 (revised 2004), “ShareBased Payment” (“SFAS No. 123(R)”). SFAS No. 123(R) supersedes APBOpinion No. 25, “Accounting for Stock Issued to Employees,” and amendsSFAS No. 95, “Statement of Cash Flows.” Generally, the fair value approachin SFAS No. 123(R) is similar to the fair value approach described in SFASNo. 123. In 2005, our Company used the Black-Scholes-Merton formula toestimate the fair value of stock options granted to employees. Our Companyadopted SFAS No. 123(R), using the modified-prospective method, beginningJanuary 1, 2006. Based on the terms of our plans, our Company did not havea cumulative effect related to its plans. Our Company also elected to continueto estimate the fair value of stock options using the Black-Scholes-Mertonformula. In the first quarter of 2006, the adoption of SFAS No. 123(R)included an operating expense of $52,443. Further, we believe the adoption ofSFAS No. 123(R) could have a material impact on our Company’s futurestock-based compensation expense. As of March, 31, 2006, there wasapproximately $220,000 of total unrecognized compensation cost related tononvested share-based compensation arrangements granted under our plans. Thatcost is expected to be recognized over the next two years. This expectedcost does not include the impact of any future stock-based compensation awards.

 

InMay 2005, the FASB issued FASB Statement No. 154 (“SFAS 154”), AccountingChanges and Error Corrections. SFAS 154 applies to all voluntary changes inaccounting principle as well as to changes required by an accountingpronouncement that does not include specific transition provisions. SFAS 154eliminates the requirement in ABP Opinion No. 20, Accounting Changes, toinclude the cumulative effect of changes in accounting principle in the incomestatement in the

 

10

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periodof change and, instead, requires changes in accounting principle to beretrospectively applied. Retrospective application requires the new accountingprinciple to be applied as if the change occurred at the beginning of the firstperiod presented by modifying periods previously reported, if an estimate ofthe prior period impact is practicable and estimable. SFAS 154 is effective foraccounting changes and corrections of errors made in fiscal years beginningafter December 15, 2005. We do not currently anticipate any changes inaccounting principle other than the adoption of SFAS 123R discussed below,which has its own adoption transition provision and is therefore not in thescope of SFAS 154. As a result, we do not believe the adoption of SFAS 154 willhave a material impact on the Company’s consolidated financial statements.

 

InMarch 2005, the FASB issued FASB Interpretation (“FIN”) No. 47, “Accounting forConditional Asset Retirement Obligations”. FIN No. 47clarifies that the term conditional asset retirement obligation asused in FASB Statement No. 143, “Accounting for Asset RetirementObligations,” refers to a legal obligation to perform an assetretirement activity in which the timing and (or) method of settlement areconditional on a future event that may or may not be within the control of theentity. The obligation to perform the asset retirement activity isunconditional even though uncertainty exists about the timing and (or) methodof settlement. Uncertainty about the timing and/or method of settlement of aconditional asset retirement obligation should be factored into the measurementof the liability when sufficient information exists.  Thisinterpretation also clarifies when an entity would have sufficientinformation to reasonably estimate the fair value of an asset retirementobligation**.**FIN No. 47 became effective in December2005. Retrospective application of interim financial information is permittedbut is not required. Management does not expect adoption of FIN No. 47 to havea material impact on the Company’s financial statements.

 

InSeptember 2005, the Emerging Issues Task Force (EITF) ratified EITFIssue No. 04-13, Accounting for Purchases and Sales of Inventory with theSame Counterparty. Beginning April 1, 2006, EITF 04-13 requires arrangementswhereby purchase and sales transactions with the same counterparty that areentered into in contemplation of one another to be combined (net basis). TheCompany has had such arrangements whereby it purchases wireless devices orprepaid airtime from certain counterparties and sells similar items to the samecounterparties. These arrangements are accounted for on a net basis withinlogistic services. Therefore, the effect of adopting EITF 04-13 will have noimpact on the Company’s results of operations.

 

**NOTE 12. Geographic Information**

 

TheCompany currently operates in one business segment. All fixed assets arelocated in the Company facilities in the Untied States. Revenues bygeographical area for the three months ended March 31, 2006 and March 31, 2005:

 
| ** **    | ** ** | **March 31,  2006** | ** ** | **March 31,  2005** | ** ** |
|---------------|------------|---------------------|------------|---------------------|------------|
| United States |       | $                   | 1,720,699  |                | $          | 15,340,878 |   |
| Latin America |       | 19,375,215          |       | 6,151,923           |       |
| Argentina     |       | 33,031,175          |       | 2,531,416           |       |
| Total         |       | $                   | 54,127,089 |                | $          | 24,024,217 |   |

 

**NOTE 13. Subsequent Events**

 

Subsequentto the quarter ended March 31, 2006, we entered into a lease agreement for afacility in Mexico. We plan to use the facility for assembly, warehouse,distribution and logistical services and as our sales and headquarters forMexico. The term of the lease agreement is three years and has a total rentalexpense, including annual escalations, of $470,000 based on the exchange rateat March 31, 2006.

 

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

 

This discussion and analysis shouldbe read in conjunction with the accompanying unaudited Consolidated FinancialStatements and related notes included in this report and with our 2005 auditedfinancial statements and related notes thereto included in our Annual Report onForm 10-K, which was filed with the Securities and Exchange Commission on March31, 2006. Our discussion and analysis of our financial condition and results ofoperations are based upon our consolidated financial statements, which havebeen prepared in accordance with accounting principles generally accepted inthe United States. The preparation of financial statements in conformity withaccounting principles generally accepted in the United States of Americarequires us to make estimates and assumptions that affect the reported amountsof assets and liabilities, disclosure of any contingent liabilities at thefinancial statement date, and reported amounts of revenue and expenses duringthe reporting period. On an ongoing basis we review our estimates and assumptions.Our estimates are based on our historical experience and other assumptions thatwe believe to be reasonable under the circumstances. Actual results are likelyto differ

 

11

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from those estimates under different assumptions or conditions, but wedo not believe such differences will materially affect our financial positionor results of operations. Our critical accounting policies, the policies webelieve are most important to the presentation of our financial statements andrequire the most difficult, subjective and complex judgments, are outlinedbelow in”—Critical Accounting Policies.”

 

The matters in this report that are forward-lookingstatements, including without limitation to statements about future revenues,sales levels, operating income and margins, wireless handset sales, stock-basedcompensation expense, gain (loss) in value of derivatives, cost synergies,operating efficiencies, profitability, market share and rates of return, arebased on current management expectations that involve certain risks which, ifrealized, in whole or in part, could cause such expectations to fail to beachieved and have a material adverse effect on InfoSonics’ business, financialcondition and results of operations, including, without limitation: (1) intensecompetition, regionally and internationally, including competition fromalternative business models, such as manufacturer-to-carrier sales, which maylead to reduced prices, lower sales or reduced sales growth, lower grossmargins, extended payment terms with customers, increased capital investmentand interest costs, bad debt risks and product supply shortages; (2) inabilityto secure adequate supply of competitive products on a timely basis and oncommercially reasonable terms; (3) foreign exchange rate fluctuations,devaluation of a foreign currency, adverse governmental controls or actions,political or economic instability, or disruption of a foreign market, and otherrelated risks of our international operations; (4) the ability to attract newsources of profitable business from expansion of products or services or risksassociated with entry into new markets, including geographies, products andservices; (5) an interruption or failure of our information systems orsubversion of access or other system controls may result in a significant lossof business, assets, or competitive information; (6) significant changes insupplier terms and relationships; (7) termination of a supply or servicesagreement with a major supplier or product supply shortages; (8) continuedconsolidation in the wireless handset carrier market; (9) extended generaleconomic downturn; (10) loss of business from one or more significantcustomers; (11) customer and geographical accounts receivable concentrationrisk; (12) rapid product improvement and technological change resulting ininventory obsolescence; (13) future terrorist or military actions; (14) theloss of a key executive officer or other key employees; (15) changes inconsumer demand for multimedia wireless handset products and features; (16) ourfailure to adequately adapt to industry changes and to manage potential growthand/or contractions; (17) future periodic assessments required by current ornew accounting standards such as those relating to long-lived assets, goodwilland other intangible assets and expensing of stock options and valuing gain orloss on fair value of derivatives may result in additional non-cash income orexpenses; (18) seasonal buying patterns; (19) dependency on Latin Americansales; and (20) uncertain political and economic conditions internationally.Our actual results could differ materially from those anticipated in ourforward looking statements.

 

InfoSonics has instituted in the past and continuesto institute changes to its strategies, operations and processes to addressthese risk factors and to mitigate their impact on InfoSonics’ results ofoperations and financial condition. However, no assurances can be given thatInfoSonics will be successful in these efforts. For a further discussion ofsignificant factors to consider in connection with forward-looking statementsconcerning InfoSonics, reference is made to Item 1A Risk Factors of InfoSonics’Annual Report on Form 10-K for the year ended December 31, 2005; other risks oruncertainties may be detailed from time to time in InfoSonics’ future SECfilings. InfoSonics does not intend to update any forward-looking statements.

 

**Overview**

 

Wedistribute wireless handsets and accessories in the United States and are oneof the fastest growing distributors of wireless handsets and accessories inLatin America. We provide end-to-end handset and wireless terminal solutionsfor carriers in both the United States and Latin America. We distributeproducts of several key manufacturers, including i-mate, Motorola, Nokia,Novatel, Samsung, VK Mobile, and others. As an integral part of our customers’supply chain, we perform value added services and solutions, including productapproval and certification, light assembly, warehousing, logistics services(packing, shipping and delivery), marketing campaigns, warranty services andend-user support. We provide these services to wireless telecommunicationsmanufacturers in order to facilitate sales to carriers (network operators),agents, resellers, distributors, independent dealers and retailers in theUnited States and Latin America. During 2005, we significantly changed ourbusiness model from selling products to dealers and agents in the United Statesand Latin America to providing products, services and solutions primarily tocarriers in such regions. As a result, we believe that this shift in customerfocus enables us to better service our customers and vendors as we play a moreimportant role in the supply chain for wireless handsets.

 

Our corporate headquarters is in San Diego,California and from our facility in Miami Florida, where we have our LatinAmerica sales and executive offices, we operate a warehouse and distributioncenter. This distribution center services our customers in the United Statesand Latin America. Our distribution and solution services include producttesting, certification, carriers’ approval, light assembly, warehousing,logistics services (packing, shipping and delivery), marketing campaigns,warranty services and end-user support. These services are provided formanufacturers of wireless

 

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telecommunications products, inorder to facilitate sales to network carriers, agents, resellers, distributors,independent dealers and retailers in the United States and Latin America.Additionally, we have wholly-owned subsidiaries in Latin America which conductsome of our business activities in their respective regions of Latin America,including Primasel S.A., which we purchased in January 2005 and laterchanged its name to InfoSonics S.A. See Note 2 to our consolidatedfinancial statements for financial information regarding this purchase

 

Due toseasonal and other factors, our interim results may not be indicative of annualresults. Our operating results are influenced by several seasonal and otherfactors, which may cause our revenues and operating results to fluctuate on aquarterly basis, including but not limited to the timing and introduction ofnew products by our suppliers and competitors, promotions and subsidies bywireless network operators, technical and certification delays by industrybodies as well as the operators, purchasing patterns of customers, and thetiming of holidays and other events affecting consumer demand.

 

**Areas ofManagement Focus and Performance Indicators**

 

Wefocus on the needs of our customers, developing and maintaining closerelationships with manufacturers, expanding in and entering into new markets,and sourcing new and innovative products, while maintaining close attention tooperational efficiencies and costs. We intend to increase shipping volumes andimprove efficiencies to enable higher levels of profitability and earningsgrowth.

 

Performanceindicators that are key for the monitoring and management of our businessinclude operating and net income, cost of sales and gross profit percentage,operating expenses as a percent of revenues, and overall net sales growth. Wemake extensive use of our customized information system to closely monitor allaspects of our business, including customer relationship management,intelligent purchasing, inventory control, and inventory flow, line item margincontrol for every order, and weighted average cost and statistical data forevery product, customer and supplier. We believe a strong focus on providingbetter service to customers leads to increased customer satisfaction andretention and potential increases in sales.

 

Managementspends a significant amount of time traveling with the purpose of spending timewith key customers, suppliers and employees. We believe that theserelationships are vital to our success and we will continue to dedicate asignificant amount of time to this area.

 

**Industry Trends,Challenges, Risks and Growth Opportunities**

 

Accordingto a February 2006 report by JP Morgan Chase & Co, in 2005, overallworldwide wireless handset sales increased by approximately 24%, and areforecasted to increase 15% in 2006. A rapid decline in wireless handset salesgrowth could negatively impact our net sales. Excess supply conditions canreduce the market prices of the products we sell and therefore affect ourability to generate net sales and gross profit at historical levels and couldaffect the value of our inventory. Conversely, should manufacturers be unableto respond to an unanticipated increase in demand on a timely basis, we, alongwith others in our industry, could experience supply constraints that wouldaffect our ability to deliver products. We are unable to quantify theseeffects, as it is difficult to predict future supply conditions and demandpatterns which affect our ability to meet customer demand or sell wirelesshandsets at an acceptable gross profit.

 

**Company SpecificTrends, Challenges, Risks and Growth Opportunities**

 

Inthe quarter ended March 31, 2006, our net sales increased by 125%, and wirelesshandset units sold increased by 253%, compared with the quarter ended March 31,2005. Although we have incorporated growth into our strategy, there can be noassurances that these trends will continue. Similarly, although we haveexperienced high levels of growth in operating income from continuingoperations (92% increase over the same quarter last year), we cannot anticipatefuture growth to be at the same levels. We experienced significant growth inour Latin America and Argentina regions during the quarter ended March 31,2006, combined they accounted for 97% of sales for the quarter compared to 36%for the quarter ended March 31, 2005. This increase is primarily the result ofour increased sales and marketing efforts in both of those regions, in additionto the overall wireless handset growth those regions have experienced in therecent past. By contrast, the U.S. regional revenues decreased to 3% of totalsales from 64% of sales during the quarter ended March 31, 2005. During thequarter ended March 31, 2006, due to delayed introductions and longer thanexpected approval certifications processes for certain products in the U.S., wewere unable to procure and deliver product to meet the needs of our U.S.customers. Our strategy incorporates overall growth elements for each aspect ofour business, which we hope will result in continued earnings growth; howeverthere can be no assurance that this trend will continue. In addition, oursupply of product is highly dependent upon the manufacturers continuing ourbusiness relationships within our assigned territories. Such manufacturerrelationships could be terminated in the future and might not be replaced byother manufacturers. 

 

13

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| ** **                | ** ** | **Quarter Ended March 31,** | ** ** |
|---------------------------|------------|--------------------------------------------|------------|
| ** **                | ** ** | **2006**                                   | ** ** | **2005** | ** ** |
| ** **                | ** ** | **(Dollar amounts in thousands)**          | ** ** |
| Net sales                 |       | $                                          | 54,127     |   | $ | 24,024 |   |
| Increase  over prior year |       | 125                                        | %          | 28 | % |
|                           |            |                                            |            |  |  |  |  |

 

**Results of Operations:**

** **

***QuarterEnded March 31, 2006 Compared With Quarter Ended March 31, 2005***

*** ***

For the quarter ended March 31, 2006, we hadincome from continuing operations of $1.7 million, or $.22 per diluted share,on net sales of $54.1 million. This was an increase of 442% when compared tothe quarter ended March 31, 2005 of $321,000, or $.05 per diluted share, on netsales of $24.0 million. This increase was due to overall sales growth and tonon-cash items, including the change in fair value of derivative liability of$963,000 and related stock option expense of $52,000. Our revenue increase of125% was primarily attributable to a 253% increase in handset volume offsettinga 33% decrease in average selling price per unit. The geographic mix ofrevenues shifted significantly in 2006 as sales in Argentina and Latin Americaincreased to 61% and 36% respectively of total net sales. Combined, these tworegions represented 97% of net sales in the quarter ended March 31, 2006 ascompared to 36% in the quarter ended March 31, 2005. This increase was primarilythe result of our increased sales and marketing efforts in both of thoseregions, in addition to the overall cellular growth those regions haveexperienced in the recent past. Sales in the United States made up theremainder of our sales in the quarter ended March 31, 2006, declining 89% to$1.7 million, or 3% of total net sales. The decrease in our U.S. sales resultedfrom increased competition and product introduction delays for the region fromour primary vendors. In addition, our interest expense increased for thequarter ended March 31, 2006 to $81,000 from $25,000 in the same quarter lastyear which negatively impacted our diluted earnings per share. The increase ininterest expense primarily resulted from our net sales growth and the capital necessaryto fund such growth.

 
| ** **                                             | ** ** | **Quarter ended March 31,**                                  | ** ** | ** ** | ** ** |
|--------------------------------------------------------|------------|--------------------------------------------------------------|------------|------------|------------|
| ** **                                             | ** ** | **2006**                                                     | ** ** | **2005**   | ** ** | **Increase** | ** ** |
| ** **                                             | ** ** | **(Dollar amounts in thousands,  except per share amounts)** | ** ** | ** ** | ** ** |
| Net Sales                                              |       | $                                                            | 54,127     |       | $          | 24,024 |   | 125 | % |
| Gross Profit                                           |       | 4,180                                                        |       | 2,131      |       | 96 | % |
| Income from  continuing operations                     |       | 1,740                                                        |       | 321        |       | 442 | % |
|                                                   |       |                                                         |       |       |       |   |   |
| Diluted Earnings per share from continuing  operations |       | $                                                            | 0.22       |       | $          | 0.05 |   | 340 | % |

 

Revenues bygeographic region

 
| ** **     | ** ** | **Quarter ended March 31,**       | ** ** |
|----------------|------------|-----------------------------------|------------|
| ** **     | ** ** | **2006**                          | ** ** | **2005** | ** ** |
| ** **     | ** ** | **(Dollar amounts in thousands)** | ** ** |
| United  States |       | $                                 | 1,721      |   | $ | 15,341 |   |
| Latin  America |       | 19,375                            |       | 6,152 |   |
| Argentina      |       | 33,031                            |       | 2,531 |   |
| Total          |       | $                                 | 54,127     |   | $ | 24,024 |   |

 

**Cost of Sales, Gross Profit and Gross Margin**

 

Forthe quarter ended March 31, 2006, cost of sales was $49.9 million, or92.3% of sales, compared with $21.9 million, or 91.1% of sales, for the quarterended March 31, 2005. The increase in our cost of sales was a directresult of the increased wireless handset volume we purchased and sold duringthe quarter ended March 31, 2006. In addition, the decrease in gross margin wasthe result of product and region mix, as different product and differentregions have varying margins.

 

Forthe quarter ended March 31, 2006, our gross profit increased to $4.2million from $2.1 million, an increase of 96%, as compared with the samequarter last year. The increase in gross profit was primarily the result ofincreased sales

 

14

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levels offset by a decrease ingross margin to 7.7% during the quarter ended March 31, 2006 from 8.9% in thequarter ended March 31, 2005.

** **
| ** **    | ** ** | **Quarter Ended March 31,**       | ** ** |
|---------------|------------|--------------------------------------------------|------------|
| ** **    | ** ** | **2006**                                         | ** ** | **2005** | ** ** |
| ** **    | ** ** | **(Dollar amounts in thousands)** | ** ** |
| Cost of sales |       | $                                                | 49,947     |   | $ | 21,893 |   |
| Gross profit  |       | $                                                | 4,180      |   | $ | 2,131 |   |
| Gross margin  |       | 7.7                                              | %          | 8.9 | % |

 

**Operating Expenses and Operating Income from ContinuingOperations**

 

Forthe quarter ended March 31, 2006, operating expenses were $3.1 million, anincrease of 98%, as compared with the same quarter last year. As a percentageof net sales, operating expenses were 5.7% for the quarter ended March 31, 2006compared with 6.5% in the same quarter last year. In compliance with SFAS 123R,during the quarter ended March 31, 2006, we incurred $52,000 of non-cashexpense, included in our operating expenses, as compared to zero in the prioryears’ quarter. In addition the increase in operating expense dollars is also aresult of increased facility physical space and operational expenses related togrowth, as well as the profit sharing related to our Argentina business. The decreasein operating expenses as a percentage of revenues is a primary result ofincreased revenues together with management’s efforts to utilize efficiencies,as we have structured our operating expenses to fluctuate with the varyinglevels of sales volume on a quarterly basis.

 

Forthe quarter ended March 31, 2006, our operating income from continuingoperations was $1.1 million, as compared with $0.6 million for the quarterended March 31, 2005. As a percentage of net sales, operating income fromcontinuing operations was 2.0% for the quarter ended March 31, 2006 ascompared to 2.3% for the quarter ended March 31, 2005. The decrease inoperating income from continuing operations as a percentage of net sales forthe quarter ended March 31, 2006 was a result of the factors discussedabove, specifically the decrease in gross margin. The dollar increase in incomefrom continuing operations is due to increased sales, increased gross profitdollars, and no change in operating cost per dollar of revenue.

 

**Operating Expenses**

 
| ** **            | ** ** | **Quarter Ended March 31,**       | ** ** |
|-----------------------|------------|--------------------------------------------------|------------|
| ** **            | ** ** | **2006**                                         | ** ** | **2005** | ** ** |
| ** **            | ** ** | **(Dollar amounts in thousands)** | ** ** |
| Operating expenses    |       | $                                                | 3,096      |   | $ | 1,567 |   |
| Percentage of revenue |       | 5.7                                              | %          | 6.5 | % |
|                       |            |                                                  |            |  |  |  |  |

 

**Operating Income from Continuing Operations**

 
| ** **                                  | ** ** | **Quarter Ended March 31,**       | ** ** |
|---------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                  | ** ** | **2006**                                         | ** ** | **2005** | ** ** |
| ** **                                  | ** ** | **(Dollar amounts in thousands)** | ** ** |
| Operating income from Continuing Operations |       | $                                                | 1,084      |   | $ | 564 |   |
| Percentage of revenue                       |       | 2.0                                              | %          | 2.3 | % |
|                                             |            |                                                  |            |  |  |  |  |

 

**OtherIncome**

 

During the first quarter2006, we had income from a non-cash change in fair value of derivativeliability (for financing related warrants) of $963,000 and non-cash expenserelated to stock-option compensation of $52,000. To comply with accountingrules for treatment of derivative liabilities (SFAS 133), we will record anon-cash loss or gain each quarter, based on the calculated change in fair valueof the warrants, which were issued in conjunction with our financing during thefirst quarter. In addition, we will recognize non-cash compensation expense(SFAS 123R) each quarter for outstanding stock options. These non-cash itemshave the potential to materially affect our earnings per share, both positivelyand negatively on a quarterly basis.

 

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| ** **                                    | ** ** | **Quarter Ended March 31,**       | ** ** |
|-----------------------------------------------|------------|--------------------------------------------------|------------|
| ** **                                    | ** ** | **2006**                                         | ** ** | **2005** | ** ** |
| ** **                                    | ** ** | **(Dollar amounts in thousands)** | ** ** |
| Change in fair value of derivative  liability |       | $                                                | 963        |   | $ | — |   |
| Interest expense                              |       | (81                                              | )          | (25 | ) |
| Other Income (expense) total                  |       | $                                                | 882        |   | $ | (25 | ) |

 

**First Quarter 2006 Results with Reconciliation of Non-GAAP FinancialMeasures to the Corresponding GAAP Financial Measures (unaudited)**

 

Thefollowing are selected results excluding and including the impact of SFAS 123Rand SFAS 133: 

 
| **Three months ended  March 31, 2006** | ** ** | **Actual** | ** ** | **Adjustment** | ** ** | **Non-GAAP  Pro-forma (c)** | ** ** |
|------------------------------------------------------------|------------|------------|------------|----------------|------------|----------------------------------|------------|
|                                                       |       |       |       | $              | 52,443     | (a)                              |       |   |
|                                                       |       |       |       |           |       |                             |       |
|                                                       |       |       |       | (963,351       | )(b)       |                             |       |
| Net income                                                 |       | $          | 1,737,669  |           | $          | (910,908                         | )          | $ | 826,761 |   |
|                                                       |       |       |       |           |       |                             |       |
| Diluted earnings per share                                 |       | $          | 0.22       |           | $          | (0.11                            | )          | $ | 0.11 |   |

 

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(a)   To eliminate stock-option compensationcharges (SFAS 123 R) recorded in the first quarter of 2006.

(b)   To eliminate change in fair value ofderivative liability (warrants) (SFAS 133) recorded in the first quarter of2006.

(c)   Non-GAAP pro-forma basis of presentation.

 

EffectiveJanuary 1, 2006, the Company adopted Statement of Financial AccountingStandards (SFAS) No. 123R, “Share-Based Payment”, which requires the costrelating to share-based payment transactions in which an entity exchanges itsequity instruments for goods or services from either employees or non-employeesrecognized in the Consolidated Financial Statements as the goods or servicesare rendered. The cost is measured at the fair value of the equity instrumentissued. The Company is no longer permitted to follow the intrinsic valueaccounting method under previous accounting guidance, which resulted in noexpense for stock options for which the exercise price was equal to the fairvalue of the underlying stock on the date of grant.

 

TheCompany believes that excluding the incremental impact of SFAS 123R from netincome provides meaningful supplemental information regarding its financialresults for the three months ended March 31, 2006 as compared to the sameperiod in 2005 since the Company’s Consolidated Financial Statements issuedprior to January 1, 2006 did not change as a result of adopting SFAS 123R. TheCompany also believes that this financial information is useful in assessingthe Company’s historical performance and year-over-year growth and whenplanning, forecasting and analyzing future periods. The incremental impact ofSFAS 123R during the three months ended March 31, 2006 represents the stockoption expense related to stock options issued prior to the adoption of SFAS123R and vested during the current period and the impact of estimatingforfeitures related to nonvested shares.

 

In June 1998, FASB issued SFAS No. 133, Accountingfor Derivative Instruments and Hedging Activities. The Statement establishesaccounting and reporting standards for derivative instruments, includingcertain derivative instruments embedded in other contracts, (collectivelyreferred to as derivatives) and for hedging activities. It requires that anentity recognize all derivatives as either assets or liabilities in thestatement of financial position and measure those instruments at fair value.

 

In January 2006, the Company sold shares of common stock including warrantsto purchase common stock from the Company. The Company evaluated the warrantsin the transaction as derivatives in accordance with SFAS No. 133. Thewarrants, to the extent that they are to be satisfied with common stock of theCompany, would normally be included as equity obligations. However, in theevent that the Company does not maintain effectiveness of the registrationstatement shares issued upon exercise of the warrants could be restricted;therefore, the Company is required to record a liability for the fair value ofthe warrants determined under the Black-Scholes option pricing formula(included in the liabilities as a “derivative liability”). Subsequent to theinitial recording, the change in the fair value of the warrants, determinedunder the Black-

 

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Scholesoption pricing formula at each reporting date, is recorded as an adjustment tothe liability. The expense relating to the change in the fair value of theCompany’s stock reflected in the change in the fair value of the warrants isincluded as other income (expense).

 

**Financial Condition, Liquidityand Capital Resources**

 

At March 31, 2006,we had $12.3 million in cash. In January 2006, we raised $14.4 million grossproceeds from the sale of our common stock (and related warrants). We believe that our existing cash resources, together withour projected cash flow from operations and the net proceeds from our bank lineof credit, will be sufficient to allow us to implement our strategy and growthplan.

 

During the quarter ended March 31, 2006, in addition to capitalraised from the sale of our common stock (and related warrants), we continuedto leverage our bank and vendor lines of credit to help fund our growth. Thenet cash used by operating activities was $16.8 million for the quarter endedMarch 31, 2006 which resulted primarily from increased accounts receivable andincreased inventory levels. The approximately $23.7 million increase inaccounts receivable was due to increased sales and increased net terms to someregions during the quarter ended March 31, 2006. The approximately $2.4 millionincrease in inventory and $2.4 increase in prepaid inventory was due to highersales levels and buying opportunities which were available to us at the end ofthe quarter ended March 31, 2006. Allowance for doubtful accounts at March 31, 2006increased to $865,000 compared to $553,000 at December 31, 2005. This increase****was related to our increased sales levelsand increased accounts receivable balance at March 31, 2006. We believe that atMarch 31, 2006, our reserve for doubtful accounts is adequate. Our increase inaccounts payable of $10.0 million was an offset to the cash used by increasedaccounts receivable and inventory.

 

Days of sales outstanding at March 31, 2006 were 53 dayscompared with 34 days at December 31, 2005. Normal payment terms require ourcustomer payment on a net 30-day or net 60-day basis depending on the region. Weare constantly working with our customers to reduce our days of salesoutstanding. The increased use of net 60-day terms was required to remaincompetitive in several of the regions we currently operate.

 

The net cash used in investing activities was $27,000 forthe three months ended March 31, 2006 compared with $43,000 for the threemonths ended March 31, 2005. This use of cash was primarily the result ofexpenditures for new furniture and fixtures related to increased office,technical assembly and warehouse space, as well as the technical tools andequipment necessary for the customization process.

 

The net cash provided by financing activities for the threemonths ended March 31, 2006 of $21.5 million was primarily the result of thesale of 1.1 million shares of our common stock (and 358,600 related warrants) fornet proceeds of $13.4 million in addition to borrowings from our bank line ofcredit.

 

Our net working capital at March 31, 2006 was $31.5million, compared with $17.0 million at December 31, 2005. This change was dueprimarily to our sale of common stock (and related warrants) and our net incomefor the quarter ended March 31, 2006.

 

**Borrowings**

 

We have a fully collateralized line of creditwith Wells Fargo HSBC Trade Bank N.A. that allows us to borrow up to a maximumof $25 million with a maturity date of October 1, 2006. Although we cannot assure that this line ofcredit will be extended or renewed, we believe that we can obtain an extensionor renewal on reasonable terms. Our advances cannot exceed 80% of eligible domestic accountsreceivable and 85% of eligible foreign insured accounts.

 

Outstanding balance under the line of credit bears interest on amonthly basis at either Wells Fargo’s prime rate **(**8.0****%**** at May 10, 2006) or at theLondon Inter-Bank Offering Rate (“LIBOR”) plus 1.5% (5.0% at May 10, 2006) fora fixed amount drawn down. Our outstanding balance at April 30, 2006 wasapproximately $6.4 million. In addition to reporting and other non-financialcovenants, the line of credit contains certain financial covenants which, amongother items, require us to maintain a tangible net worth of not less than $12million a quick ratio of not less than 1-to-1, a debt-to-tangible net worthratio of not greater than 2-to-1, a pre-tax profit of not less than $1 on arolling four-quarter basis, and net income after taxes of not less than $1 onan annual basis. We believe that we complied with these covenants at May 10,2006.

 

Forthe quarter ended March 31, 2006 and the year ended December 31, 2005 amountsadvanced against our then existing line of credit were approximately $17.9 and$10.0, million, respectively. Our credit lines have been important parts

 

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of growing our business,and market changes affecting accounts receivable could diminish the borrowingbase of available funds. For the quarters ended March 31, 2006 andDecember 31, 2005, advances were 72% and 71%, respectively, of theavailable borrowing base.

 

***Subsequent Events***

*** ***

Subsequent to the quarter ended March 31, 2006, we enteredinto a lease agreement for a new facility in Mexico. We plan to use thefacility for assembly, warehouse, distribution and logistical services and asour sales and headquarters for Mexico. The term of the lease agreement is threeyears and has a total rental expense of $470,000 based on the applicable exchangerate at March 31, 2006.

 

***Critical Accounting Policies***

*** ***

Webelieve the following critical accounting policies are important to thepresentation of our financial condition and results, and require management’sjudgments to make estimates about the effects of matters that are inherentlyuncertain.

 

*RevenueRecognition and Accrued Chargebacks*

* *

Revenuesare recognized (1) upon shipment of the products to customers,(2) when collection of the outstanding receivables are probable; and(3) when the final price of the product has been determined. The carrierhas nine months from date of activation to charge back amounts previouslycredited to us if the customer terminates its service. We provide an allowancefor estimated returns based on our experience, which estimate is recorded as acontra asset against accounts receivable. A provision for returns is providedin the same period in which the related commission revenue is recorded.Customer credit-worthiness and economic conditions may change and increase therisk of collectibility and contract terminations and may require additionalprovisions, which would negatively impact our operating results.

 

*Allowancefor Doubtful Accounts and Sales Return Reserve*

* *

Creditevaluations are undertaken for all major sale transactions before shipment isauthorized. Normal payment terms require payment on a net 30 or 60 day basisdepending on customer. On an ongoing basis, we analyze the payment history ofcustomer accounts, including recent customer purchases. We evaluate aged itemsin the accounts receivable aging and provide reserves for doubtful accounts andestimated sales returns. Customer credit worthiness and economic conditions maychange and increase the risk of collectibility and sales returns, and mayrequire additional provisions, which would negatively impact our operatingresults.

 

*InventoryWrite-Off and Effect on Gross Margin*

* *

Weregularly monitor inventory quantities on hand and record a provision forexcess and obsolete inventories based primarily on historical usage rates andour estimated forecast of product demand for a period of time, generally ninemonths. Because of obsolescence, we will generally provide a full reserve forthe costs of our inventories in excess of our relevant forecast for theapplicable period. We attempt to control our inventory levels so that we do nothold inventories in excess of demand for the succeeding nine months. However,because we need to place non-cancelable orders with significant lead time andbecause it is difficult to estimate product demand, it is possible that we willbuild inventories in excess of demand for the future periods. If we haveinventories in excess of estimated product demand, we will provide a reserve,which could have a material adverse effect on our reported results ofoperations and financial position.

 

*DerivativeInstruments*

 

In connection with the saleof debt or equity instruments, we may sell options or warrants to purchase ourcommon stock. In certain circumstances, these options or warrants may beclassified as derivative liabilities, rather than as equity. Additionally, thedebt or equity instruments may contain embedded derivative instruments, such asvariable conversion options, which in certain circumstances may be required tobe bifurcated from the host instrument and accounted for separately as aderivative instrument liability.

 

The identification of, andaccounting for, derivative instruments is complex. Derivative instrumentliabilities are re-valued at the end of each reporting period, with changes infair value of the derivative liability recorded as charges or credits to incomein the period in which the changes occur. For options, warrants and bifurcatedconversion options that are accounted for as derivative instrument liabilities,we determine the fair value of these instruments using the Black-Sholes optionpricing model, binomial stock price probability trees, or other valuationtechniques, sometimes with the assistance of a certified valuation expert.These models require assumptions related to the remaining term of theinstruments and risk-free rates of return, our current common stock price andexpected dividend yield, and the expected volatility of our common stock

 

18

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price based on not only the history of our stock price but also theexperience of other entities considered comparable to us. The identificationof, and accounting for, derivative instruments and the assumptions used tovalue them can significantly affect our financial statements.

 

**Item 3. Quantitative andQualitative Disclosures About Market Risk**

 

The primary objective of thefollowing information is to provide forward-looking quantitative andqualitative information about our potential exposure to market risks. The term “marketrisk” for us refers to the risk of loss arising from adverse changes ininterest rates and various foreign currencies. The disclosures are not meant tobe precise indicators of expected future losses, but rather indicators of reasonablypossible losses. This forward-looking information provides indicators of how weview and manage our ongoing market risk exposures.

 

**InterestRate**

 

We are exposedto market risk from changes in interest rates on our outstanding revolving lineof credit. At March 31, 2006, we had approximately $17.9 millionoutstanding, which could be affected by changes in short term interest rates.The interest rate for the revolving line of credit is the prime rate (7.75% atMarch 31, 2006) or LIBOR plus 1.50% (4.875% at March 31, 2006). Forevery 1% increase in our bank’s prime rate or LIBOR, our interest expense wouldincrease by $100,000 assuming $10.0 million remained outstanding for the entireyear.

 

The abovesensitivity analysis for interest rate risk excludes accounts receivable,accounts payable and accrued liabilities because of the short-term maturity ofsuch instruments. The analysis does not consider the effect this movement mayhave on other variables including changes in sales volumes that could be indirectlyattributed to changes in interest rates. The actions that we would take inresponse to such a change are also not considered. If it were possible toquantify this impact, the results could well be different than the sensitivityeffects shown above.

 

**MarketRisk**

 

A substantialportion of our revenue and expenses are transacted in markets outside theUnited States, however all sales transactions and accounts receivable aredenominated in U.S. dollars. As a result of our international sales, our futureoperating results could be adversely affected by a variety of factors,including changes in specific countries’ political, economic or regulatoryconditions and trade protection measures. Our market risk management includesan accounts receivable insurance policy for both our domestic and foreign sales.However, there can be no assurance that our insurance policy will substantiallyoffset the impact of fluctuations in currency exchange rates, political,economic or regulatory conditions on its results of operations and financialposition. Foreign currency fluctuations did not have a material impact on ourfinancial results during the quarter ended March 31, 2006.

 

**Item 4. Controls and Procedures**

 

**Disclosure Controls**

 

TheCompany, under the supervision and with the participation of its management,including its principal executive officer and principal financial officer,evaluated the effectiveness of the design and operation of its disclosurecontrols and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under theExchange Act) as of the end of the period covered by this report. Based on thisevaluation, the principal executive officer and principal financial officerconcluded that the Company’s disclosure controls and procedures are effectiveas of the end of the period covered by this report. There have been no changesin our internal control over financial reporting during the quarter covered bythis report that have materially affected, or are reasonably likely tomaterially affect, our internal control over financial reporting.

 

**Changes in Internal Control OverFinancial Reporting**

 

Theprincipal executive officer and principal financial officer also conducted anevaluation of the Company’s internal control over financial reporting (asdefined in Exchange Act Rule 13a-15(f)) (“Internal Control”) to determinewhether any changes in Internal Control occurred during the quarter ended March 31,2006, that have materially affected or which are reasonably likely tomaterially affect Internal Control. Based on that evaluation, there has been nosuch change during such period.

 

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**PART II. OTHER INFORMATION**

 

**Item 1. Legal Proceedings**

 

We may become involved in certain legal proceedings andclaims which arise in the normal course of business. As of March 31, 2006, we didnot have any significant litigation outstanding, and management does not expectany pending litigation matters to have a material impact on our liquidity orthe financial statements taken as a whole.

 

**Item 1A. RiskFactors**

 

In addition to the otherinformation set forth in this report, you should carefully consider the factorsdiscussed in Part I, “Item 1A. Risk Factors” in our Annual Report on Form 10-Kfor the year ended December 31, 2005, which could materially affect ourbusiness, financial condition or future results. The risks described in ourAnnual Report on Form 10-K are not the only risks facing us. Additional risksand uncertainties not currently known to us or that we currently deem to beimmaterial also may materially adversely affect our business, financialcondition and/or operating results. Except as set forth below, there were nomaterial changes to the risk factors included in our Annual Report on Form 10-Kfor the year ended December 31, 2005 during the period covered by this report.

 

***We buy a significantamount of our products from a limited number of suppliers, who may not provideus with competitive products at reasonable prices when we need them in thefuture.***

 

Wepurchase wireless handsets and accessories principally from wirelesscommunications equipment manufacturers and distributors. We depend on thesesuppliers to provide us with adequate inventories of currently popular brandname products on a timely basis and on favorable pricing and other terms, aswell as we are dependent upon our vendors for their own abilities and financialstability. For the quarter ended March 31,2006, two vendors accounted for 47% and 19% respectively of our total cost ofsales. We currentlyhave one exclusive and several non-exclusive agreements with our principalsuppliers, which can be terminated on short notice and provide for certainterritorial restrictions. Our suppliers may not offer us competitive productson favorable terms or with timely delivery. In addition new products from othermanufacturers could impact the demand for products from manufacturers werepresent. From time to time, we have been unable to obtain sufficient productsupplies. Any failure or delay by our suppliers, particularly our three primaryvendors, in supplying us with products on favorable terms may severely diminishour ability to obtain and deliver products to our customers on a timely andcompetitive basis. If we lose any of our principal suppliers, or if these suppliersare unable to fulfill our product needs, or if any principal supplier imposessubstantial price increases and alternative sources of supply are not readilyavailable, it would have a material adverse effect on our results ofoperations.

 

***The loss orreduction in orders from principal customers or a reduction in prices we areable to charge these customers will have a negative impact upon our revenuesand could cause our stock price to decline.***

 

Ourtwo largest customers in the quarter ended March 31, 2006 represented 31% and23% of our net sales. These customers are carriers in Latin America. Themarkets we serve are subject to severe price competition. Additionally, ourcustomers are not contractually obligated to purchase product from us. Forthese and other reasons such as competitive pricing and competitive pressures,customers may seek to obtain products or services from us at lower prices thanwe have been able to obtain from these customers in the past. This could occur,for example, in the case of a customer purchasing large quantities of a productfrom us, who then terminates this relationship because the customer can obtaina lower price by buying directly from the manufacturer. The loss of any of ourprincipal customers, a reduction in the amount of product or services ourprincipal customers order from us or the inability to maintain current terms,including price, with these or other customers could have an adverse effect onour financial condition, results of operations and liquidity. We haveexperienced losses of certain customers through industry consolidation andordinary course of business and there can be no assurance that any of ourcustomers will continue to purchase products or services from us or that theirpurchases will be at the same or greater levels than in prior periods.

 

***Approximately97% of our revenues during the quarter ended March 31, 2006 were generatedoutside of the United States in countries that may have volatile currencies orother risks.***

 

Weengage in significant sales activities in territories and countries outside ofthe United States, particularly Latin American countries, including Argentina. Allour sales transactions are completed in U.S. dollars. The fact that wedistribute products into a number of countries exposes us to increased creditrisks, customs duties, import quotas and other trade restrictions, potentiallygreater and more unpredictable inflationary pressures, and shipping delays.Changes may occur in social, political, regulatory and economic conditions orin laws and policies governing foreign trade and investment in the territoriesand countries where we currently distribute products. United States laws andregulations relating to investment and trade in foreign countries could alsochange to our detriment. Any of these factors could have a material adverseeffect on our business and operations. Although we purchase and sell productsand services in U.S. dollars and do not engage in exchange swaps, futures oroptions contracts or other hedging techniques, fluctuations in currencyexchange rates could reduce demand

 

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for productssold in U.S. dollars. We cannot predict the effect that future exchange ratefluctuations will have on our operating results. We may in the future engage incurrency hedging transactions, which could result in our incurring significantadditional losses.

 

***We have outstandingindebtedness, which is secured by substantially all our assets and which couldprevent us from borrowing additional funds, if needed.***

 

We had outstanding debt in theamount of approximately $17.9 million and $10.0 million at March 31, 2006 andDecember 31, 2005, respectively, in the form of a bank line of credit ofup to $25 million based on a borrowing base of which is based on a percentageof eligible accounts receivable. If we violate our loan covenants, default on ourobligations or become subject to a change of control, our indebtedness wouldbecome immediately due and payable. Any significant decrease in our level ofeligible accounts receivable will reduce our ability to borrow additional fundsto adequately finance our operations and expansion strategies. The terms of ourcredit facility could substantially prohibit us from incurring additional indebtedness,which could limit our ability to expand our operations. We are also subject tonegative covenants that, among other things, limit our ability to sell certainassets and make certain payments, including but not limited to, dividends,repurchases of common stock and other payments outside the normal course ofbusiness, as well as prohibiting us from merging or consolidating with anothercorporation or selling all or substantially all of our assets.

 

***Stockholders may bediluted as a result of past, future offerings or other financings.***

 

We may need to raise additional capitalthrough one or more future public offerings, private placements or otherfinancings involving our securities. As a result of these financings, ownershipinterests in our company may be greatly diluted. In January 2006**,**we sold an aggregate 1,100,000 shares ofour common stock at $13.10 per share, for total gross proceeds of $14,410,000.The purchasers were also issued warrants to purchase an aggregate of 330,000shares of our common stock at an exercise price of $18.38 per share during theperiod beginning six months after the date of the purchase agreement and endingfour years later. We also issued three year term warrants to purchase a totalof 28,600 shares to the placement agents in the offering with varying exerciseprices (22,000 shares at $13.76 per share and 6,600 at $19.30 per share).

 

**Item 6.****   ****Exhibits**

 
| 10.1 |   | Securities Purchase Agreement by and among  InfoSonics Corporation and the investors listed thereon dated January 30,  2005 (1)                                          |
|------|--------|--------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
| 10.2 |   | Form of Common Stock Purchase Warrant (1)                                                                                                                                |
| 31.1 |   | Certification of Chief Executive Officer  pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934,  implementing Section 302 of Sarbanes-Oxley Act of 2002 (*) |
| 31.2 |   | Certification of Chief Financial Officer  pursuant to Rule 13a-14(a) of the Securities Exchange Act of 1934,  implementing Section 302 of Sarbanes-Oxley Act of 2002 (*) |
| 32.1 |   | Certification of Chief Executive Officer  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of  Sarbanes-Oxley Act of 2002 (*)                      |
| 32.2 |   | Certification of Chief Financial Officer  pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of  Sarbanes-Oxley Act of 2002 (*)                      |

 

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(1)  Incorporated by reference from the Company’s CurrentReport on Form 8-K, filed on February 2, 2006.

 

(*)  Filed herewith

 

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**SIGNATURE**

 

Pursuant to the requirements of theSecurities Exchange Act of 1934, as amended, the registrant has duly causedthis report to be signed on its behalf by the undersigned, thereunto dulyauthorized.

 
|   |         |   | InfoSonics  Corporation          |
|--------|--------------|--------|----------------------------------|
|   |         |   |
|   |         |   |
| Date:  | May 15, 2006 | By:    | /s/  Joseph  Ram       |   |
|   |         |   | Joseph Ram                       |
|   |         |   | Chief Executive  Officer         |
|   |         |   |
|   |         |   |
| Date:  | May 15, 2006 | By:    | /s/  Jeffrey  Klausner |   |
|   |         |   | Jeffrey Klausner                 |
|   |         |   | Chief Financial  Officer         |
|        |              |        |                                  |  |  |  |

 

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