**UNITED STATES**

**SECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

**FORM 10–KSB/A-1**

**(MarkOne)**
| ý | **ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE  SECURITIES EXCHANGE ACT OF 1934** |
|--------|-------------------------------------------------------------------------------------------|

** **

**For the Fiscal Year Ended December31, 2001**

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

 

**CommissionFile No. 0-230 17**

 

**CHOICETELCOMMUNICATIONS, INC.**

(Name of smallbusiness issuer in its charter)

 
| **Minnesota**                                                   |               | **41-1649949**                        |
|-----------------------------------------------------------------|--------------------|---------------------------------------|
| (State or other  jurisdiction of incorporation or organization) |               | (I.R.S. Employer  Identification No.) |
|                                                            |               |                                  |
| **15500 Wayzata Blvd. #1029 Wayzata,  MN 55391**                |
| (Address of  principal executive offices)                       |
|                                                            |               |                                  |
| Issuer’s telephone  number:                                | **(952) 249-1801** |
|                                                                 |                    |                                       |  |

 

Securities registeredpursuant to Section 12(b) of the Act: **None**

 

Securities registered pursuant to Section 12(g) of theAct:

 
| **Title of each class:**     |   | **Name of each exchange on which registered:** |
|------------------------------|--------|------------------------------------------------|
| Common Stock, $.01 par value |   | The NASDAQ SmallCap Market                     |
| Redeemable Warrant           |   | The NASDAQ SmallCap Market                     |

 

Check whether theissuer (1) filed all reports required to be filed by Section 13 or 15(d) of theSecurities Exchange Act of 1934 during the past 12 months (or for such shorterperiod that the registrant was required to file such reports), and (2) has beensubject to such filing requirements for the past 90 days.

Yes ý  No o

 

Check if there isno disclosure of delinquent filers in response to Item 405 of Regulation S-B isnot contained in this form, and no disclosure will be contained, to the best ofregistrant’s knowledge, in definitive proxy or information statementsincorporated by reference in Part III of this Form 10-KSB or any amendment tothis Form 10-KSB. o

 

The revenues forChoiceTel Communications, Inc. for the fiscal year ended December 31, 2001 were$3,807,325.

 

Theaggregate market value of the voting and non-voting common equity held by non–affiliatesas of March 15, 2002, based on the closing sale price of the Common Stock onsuch date as reported on the NASDAQ SmallCap Market, was $2,233,543.

 

On March 15, 2002, theCompany had outstanding 3,035,735****shares of Common Stock, par value $.01 pershare.

 

**DOCUMENTS INCORPORATED BY REFERENCE**

 

Portions of theRegistrant’s Form SB-2, Registration Number 333-29969, are incorporated byreference into Part II of this Form 10-KSB.

 

Transitional SmallBusiness Disclosure Format (Check one):  Yes o;   No ý

 

 

This amendment #1corrects inadvertent errors contained in previous filings, which came to lightin the preparation of the Company's registration statement on Form S-4 to be filedon or about April 24, 2002.

 

This filingcorrects certain market price information and share ownership data. Inaddition, there is one change to the financial statements, at Note 7, toinclude a warrant granted to an investor in a former subsidiary for 150,000shares.

 

**PART II**

 

**ITEM 5.****     MARKETFOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS**

 

The Company’s Common Stock and Redeemable Warrantshave been quoted on the NASDAQ SmallCap Market under the symbol “PHON” and“PHONW”, respectively, since November 10, 1997 . The following table setsforth, for the periods indicated, the range of high and low prices for theCompany’s Common Stock and Redeemable Warrants as reported on the NASDAQSmallCap Market.

 

|           |   | **Common  Stock** |       | **Redeemable  Warrants** |       |
|----------------|--------|-------------------|------------|--------------------------|------------|
|           |   | **High**          |       | **Low**                  |       | **High** |   | **Low** |   |
| **2000:**      |   |              | ** ** |                     | ** ** |   | ** ** |   | ** ** |
| First Quarter  |   | $                 | 8.00       |                     | $          | 2.25 |   | $ | 2.00 |   | $ | 0.06 |   |
| Second Quarter |   | $                 | 5.88       |                     | $          | 2.50 |   | $ | 1.00 |   | $ | 0.25 |   |
| Third Quarter  |   | $                 | 3.75       |                     | $          | 2.13 |   | $ | 0.38 |   | $ | 0.19 |   |
| Fourth Quarter |   | $                 | 3.06       |                     | $          | 1.19 |   | $ | 0.25 |   | $ | 0.06 |   |
|           |   |              |       |                     |       |   |   |   |   |   |   |   |   |
| **2001:**      |   |              | ** ** |                     | ** ** |   | ** ** |   | ** ** |
| First Quarter  |   | $                 | 1.75       |                     | $          | 1.00 |   | $ | 0.09 |   | $ | 0.03 |   |
| Second Quarter |   | $                 | 1.45       |                     | $          | 1.00 |   | $ | 0.10 |   | $ | 0.01 |   |
| Third Quarter  |   | $                 | 1.09       |                     | $          | 0.75 |   | $ | 0.25 |   | $ | 0.01 |   |
| Fourth Quarter |   | $                 | 1.25       |                     | $          | 0.75 |   | $ | 0.09 |   | $ | 0.02 |   |

 

As of  February15, 2002 there were approximately 386 shareholders of the Company’s CommonStock.

 

 

1

----

 

 

**ITEM7.****     FINANCIALSTATEMENTS**

 

The followingfinancial information of the Company is included as follows:

 
|                                                                                             | **Page** |
|--------------------------------------------------------------------------------------------------|----------|
| Report of Independent Auditors                                                                   | F-1      |
| Consolidated Financial Statements:                                                               |     |
| Consolidated Balance Sheets for Years Ended December 31, 2001 and  2000                          | F-2      |
| Consolidated Statements of Operations for Years Ended December 31,  2001 and 2000                | F-3      |
| Consolidated Statements of Shareholders’ Equity for Years Ended  December 31, 2001 and 2000 | F-4      |
| Consolidated Statements of Cash Flows for Years Ended December 31,  2001 And 2000                | F-5      |
| Notes to Consolidated Financial Statements                                                       | F-7      |

 

 

2

----

 

**PART III**

 

 

**ITEM11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT**

 

The followingtable sets forth information as of December 31, 2001, regarding thebeneficial ownership of shares of Common Stock of the Company by each directorand executive officer of the Company, by all directors and executive officersof the Company as a group, and by each shareholder known by the Company to ownbeneficially more than five percent (5%) of the outstanding shares of theCompany’s Common Stock. Unless otherwise noted, each person or group identifiedpossesses sole voting and investment power with respect to such shares.

 
| **Name and Address of Beneficial Owner**                                          |   | **Number of  Shares  Beneficially Owned (1)** |   | **Percent of  Outstanding Shares (2)** |   |
|-----------------------------------------------------------------------------------|--------|-----------------------------------------------|--------|----------------------------------------|--------|
| Andrew Redleaf (3)  3033 Excelsior Blvd.  Minneapolis, Minn.  55416          |   | 445,063                                       |   | 14.7                                   | %      |
|                                                                              |   |                                          |   |                                   |   |
| Perkins Capital  Management (3)  730 East Lake Street  Wayzata, Minn.  55391 |   | 292,936                                       |   | 9.6                                    | %      |
|                                                                              |   |                                          |   |                                   |   |
| Melvin Graf (4)  2601 Abbey Hill Dr.  Minnetonka, Minn. 55305                     |   | 213,334                                       |   | 7.0                                    | %      |
|                                                                              |   |                                          |   |                                   |   |
| ***Directors, nominees and executive officers:***                                 |   |                                          |   |                                   |   |
|                                                                              |   |                                          |   |                                   |   |
| Gary S. Kohler (5)(6)(9)                                                          |   | 918,460                                       |   | 30.3                                   | %      |
| Jeffrey R. Paletz                                                                 |   | 342,358                                       |   | 11.3                                   | %      |
| Jack S. Kohler (6)                                                                |   | 260,800                                       |   | 8.6                                    | %      |
| Robert A. Hegstrom (7)                                                            |   | 176,341                                       |   | 5.5                                    | %      |
| Michael Wigley (7)(8)(9)                                                          |   | 417,091                                       |   | 13.0                                   | %      |
| All directors, nominees and executive officers as a group (5 persons)             |   | 1,819,725                                     |   | 53.9                                   | %      |

 

----

(1)     Each person has sole voting power and soledispositive power with respect to all outstanding shares, except as otherwisenoted or disclosed by the beneficial owners in the Schedule 13G filingdescribed at footnote 3 below.

 

(2)     Based on 3,035,735 shares outstanding atDecember 31, 2001. Each figure showing the percentage of outstanding sharesowned beneficially has been calculated by treating as outstanding and owned theshares which could be purchased by the indicated person(s) within 60 days uponthe exercise of existing stock options or warrants.

 

(3)               Reflectsinformation included on either Schedules 13D or 13G filed with the Securitiesand Exchange Commission.

 

(4)               Includes 13,334shares held by Miriam Graf.  Mr. Grafdisclaims beneficial ownership of such shares.

 

(5)               Includes 40,000shares held by Gary S. Kohler as custodian for the benefit of hischildren.  Mr. Kohler disclaimsbeneficial ownership of such shares.

 

(6)               Includes 200,000shares currently owned by Gary S. Kohler, who has granted Jack S. Kohler anoption to purchase such shares.

 

(7)               Includes options toacquire 166,341 shares from the Company.

 

(8)               Includes 95,325shares currently owned by Gary S. Kohler, who has granted Michael Wigley anoption to purchase such shares.

 

(9)               Includes 4,100shares held by Mike Wigley’s three children. Mr. Wigley disclaims beneficial ownership of such shares.

 

(10)         Includes warrants topurchase 5,000 shares from the Company.

** **

 

3

----

 

 

**Section 16(a) Beneficial Ownership Reporting Compliance**

 

Section 16(a) of theSecurities Exchange Act of 1934, as amended, requires the Company’s officers,directors, and persons who own more than ten percent of a registered class ofthe Company’s equity securities to file certain reports regarding ownership of,and transactions in, the Company’s securities with the Securities and ExchangeCommission (the “SEC”).  These officers,and directors and stockholders are also required by SEC rules to furnish theCompany with copies of all Section 16(a) reports that are filed with theSEC.  Based solely on a review of copiesof such forms received by the Company, the Company believes that for the yearended December 31, 2001, all Section 16(a) reports required to be filed by theCompany’s executive officers, directors and 10% stockholders were filed on atimely basis, except a Form 4 filed by Jeff Paletz on June 14, 2001 which wasdue no later than June 10, 2001.

 

 

4

----

 

**SIGNATURES**

 

In accordance with Section 13 or 15(d) of the ExchangeAct, the registrant caused this report to be signed on its behalf by theundersigned, thereunto duly authorized.

 
|   | **ChoiceTel  Communications, Inc.** |
|--------|-------------------------------------|
|   |                                |
|   | Date: April 23, 2002                |
|   | By /s/                              | Gary S. Kohler |   |
|   |                                | Gary S. Kohler |

 

Chairman of the Board of Directors

 

In accordance with the Exchange Act, this report hasbeen signed below by the following persons on behalf of the registrant and inthe capacities and on the dates indicated.

 

 

| **Signature** |               | **Title** |                                        | **Date** |
|---------------|--------------------|-----------|---------------------------------------------|----------|
|          |               |      |                                        |     |
| /s/           | Gary S. Kohler     |      | Director                                    |     | April 23, 2002 |
|          | Gary S. Kohler     |      |                                        |     |   |
|          |               |      |                                        |     |
| /s/           | Jeffrey R. Paletz  |      | President and  Director                     |     | April 23, 2002 |
|          | Jeffrey R. Paletz  |      |                                        |     |   |
|          |               |      |                                        |     |
| /s/           | Jack S. Kohler     |      | Vice President  and Chief Financial Officer |     | April 23, 2002 |
|          | Jack S. Kohler     |      |                                        |     |   |
|          |               |      |                                        |     |
| /s/           | Robert A. Hegstrom |      | Director                                    |     | April 23, 2002 |
|          | Robert A. Hegstrom |      |                                        |     |   |
|          |               |      |                                        |     |
| /s/           | Michael Wigley     |      | Director                                    |     | April 23, 2002 |
|          | Michael Wigley     |      |                                        |     |   |

 

 

5

----

 

 

INDEPENDENT AUDITORS’ REPORT

 

 

Board of Directors

ChoiceTelCommunications, Inc.

Minneapolis,Minnesota

 

 

We have auditedthe accompanying consolidated balance sheets of ChoiceTel Communications, Inc. andSubsidiary as of December 31, 2001 and 2000, and the related consolidatedstatements of operations, shareholders’ equity, and cash flows for the yearsthen ended.  These financial statementsare the responsibility of the Company’s management.  Our responsibility is to express an opinion on these financialstatements based on our audits.

 

We conducted ouraudits in accordance with auditing standards generally accepted in the UnitedStates of America. Those standards require that we plan and perform the auditto obtain reasonable assurance about whether the financial statements are freeof material misstatement. An audit includes examining, on a test basis,evidence supporting the amounts and disclosures in the financial statements.  An audit also includes assessing theaccounting principles used and significant estimates made by management, aswell as evaluating the overall financial statement presentation.  We believe that our audits provide areasonable basis for our opinion.

 

In our opinion,the financial statements referred to above present fairly, in all materialrespects, the consolidated financial position of ChoiceTel Communications, Inc.and Subsidiary as of December 31, 2001 and 2000, and the consolidated resultsof its operations and its cash flows for the years then ended, in conformitywith accounting principles generally accepted in the United States of America.

 

As disclosed inthe outstanding warrants table of Note 7 to the financial statements, anomission resulting in the understatement of previously reported warrantsoutstanding as of December 31, 2001 and 2000, was discovered by management ofthe Company subsequent to March 14, 2002. Accordingly, an adjustment has been made to Note 7 to include thecorrected warrant information.

 

 

 
| /s/ Schechter Dokken Kanter Andrews & Selcer Ltd. |   |
|-------------------------------------------------------|--------|

 

 

Minneapolis,Minnesota

March 14, 2002,except for the last paragraph of Note 7 for which the date is April 22, 2002

 

F-1

----

 
|                                             |   |          |                | **CONSOLIDATED** |   |
|--------------------------------------------------|--------|---------------|---------------------|------------------|--------|
| **CHOICETEL COMMUNICATIONS, INC.**               |   |          | **BALANCE  SHEETS** |             |
| **AND SUBSIDIARY**                               |   |          |                | **DECEMBER  31** |   |
|                                             |   |          |                |             |   |
|                                             |   | **2001**      |                | 2000             |   |
|                                             |   |          |                |             |   |
| ***Assets:***                                    |   |          |                |             |   |
| Current assets:                                  |   |          |                |             |   |
| Cash and cash equivalents                        |   | **$**         | **751,059**         |             | $      | 580,926 |   |
| Investments                                      |   | **2,454,084** |                | 2,203,306        |   |
| Receivables                                      |   | **278,066**   |                | 521,072          |   |
| Prepaid and other assets                         |   | **325,354**   |                | 228,054          |   |
| Deferred taxes                                   |   | **493,000**   |                | 1,873,000        |   |
|                                             |   |          |                |             |   |
| Total current assets                             |   | **4,301,563** |                | 5,406,358        |   |
|                                             |   |          |                |             |   |
| Property and equipment, net                      |   | **1,843,101** |                | 2,307,683        |   |
| Other assets                                     |   | **67,292**    |                | 30,591           |   |
|                                             |   |          |                |             |   |
|                                             |   | **$**         | **6,211,956**       |             | $      | 7,744,632 |   |
|                                             |   |          |                |             |   |
| ***Liabilities and shareholders’ equity:*** |   |          |                |             |   |
| Current liabilities:                             |   |          |                |             |   |
| Accounts payable                                 |   | **$**         | **15,468**          |             | $      | 1,788,235 |   |
| Accrued expenses                                 |   | **241,920**   |                | 588,888          |   |
|                                             |   |          |                |             |   |
| Total current liabilities                        |   | **257,388**   |                | 2,377,123        |   |
|                                             |   |          |                |             |   |
| Shareholders’ equity                        |   | **5,954,568** |                | 5,367,509        |   |
|                                             |   |          |                |             |   |
|                                             |   | **$**         | **6,211,956**       |             | $      | 7,744,632 |   |

 

 

 

 

 

See notes toconsolidated financial statements.

 

 

 

F-2

----

 
|                                           |   |                         |          | **CONSOLIDATED** |   |
|------------------------------------------------|--------|------------------------------|---------------|------------------|--------|
| **CHOICETEL COMMUNICATIONS, INC.**             |   | **STATEMENTS OF OPERATIONS** |          |
| **AND SUBSIDIARY**                             |   | **YEARS ENDED DECEMBER 31**  |          |
|                                           |   |                         |          |             |   |
|                                           |   | **2001**                     |          | 2000             |   |
|                                           |   |                         |          |             |   |
| Service revenue                                |   | **$**                        | **3,807,325** |             | $      | 4,408,542 |   |
| Cost of service                                |   | **1,416,455**                |          | 1,883,101        |   |
|                                           |   |                         |          |             |   |
| Gross margin                                   |   | **2,390,870**                |          | 2,525,441        |   |
|                                           |   |                         |          |             |   |
| Selling, general and administrative expenses   |   | **2,177,647**                |          | 4,004,614        |   |
| Loss from impairment and sale of assets        |   |                         |          | 3,776,783        |   |
| Amortization and write-off of goodwill         |   |                         |          | 1,061,735        |   |
| Adjustment of accrued sales tax liability      |   |                         |          | (508,876         | )      |
| Deferred loss                                  |   |                         |          | 66,280           |   |
|                                           |   |                         |          |             |   |
| Total operating expenses                       |   | **2,177,647**                |          | 8,400,536        |   |
|                                           |   |                         |          |             |   |
| Operating income (loss)                        |   | **213,223**                  |          | (5,875,095       | )      |
|                                           |   |                         |          |             |   |
| Other income                                   |   |                         |          |             |   |
| Gain on sale of subsidiary, net                |   | **1,893,515**                |          |             |   |
| Investment income                              |   | **250,778**                  |          | 203,306          |   |
| Interest income, net                           |   | **15,327**                   |          | 107,807          |   |
|                                           |   |                         |          |             |   |
|                                           |   | **2,159,620**                |          | 311,113          |   |
|                                           |   |                         |          |             |   |
| Income (loss) before income taxes              |   | **2,372,843**                |          | (5,563,982       | )      |
|                                           |   |                         |          |             |   |
| Provision for income tax (benefit)             |   | **1,368,734**                |          | (1,751,000       | )      |
|                                           |   |                         |          |             |   |
| Income (loss) before minority interest         |   | **1,004,109**                |          | (3,812,982       | )      |
|                                           |   |                         |          |             |   |
| Minority interest                              |   |                         |          | 791,654          |   |
|                                           |   |                         |          |             |   |
| Net income (loss)                              |   | **$**                        | **1,004,109** |             | $      | (3,021,328 | ) |
|                                           |   |                         |          |             |   |
| Earnings (loss) per share:                     |   |                         |          |             |   |
| Net income (loss), basic and diluted           |   | **$**                        | **.31**       |             | $      | (0.93 | ) |
|                                           |   |                         |          |             |   |
| Weighted average number of shares outstanding: |   |                         |          |             |   |
| Basic                                          |   | **3,220,728**                |          | 3,245,016        |   |
|                                           |   |                         |          |             |   |
| Diluted                                        |   | **3,235,985**                |          | 3,245,016        |   |

 

 

 

 

 

See notes toconsolidated financial statements.

 

F-3

----

 
| **CONSOLIDATED STATEMENTS**                             |   |
|---------------------------------------------------------|--------|
| **OF SHAREHOLDERS’ EQUITY**                        |   |
| **CHOICETEL  COMMUNICATIONS, INC.**                     |   |   |   |   |   | **YEARS ENDED** |   |
| **AND  SUBSIDIARY**                                     |   |   |   |   |   | **DECEMBER 31, 2001 AND 2000** |   |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
|                                                    |   | **15,000,000 shares authorized, $.01 par** |   |   |   |   |   |   |   |
|                                                    |   | **Shares** |   | **Amount** |   | **Additional**

**paid-in**

**capital** |   | **Accumulated**

**deficit** |   | **Total** |   |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Balance, January 1, 2000                                |   | 2,926,906 |   | $ | 29,269 |   | $ | 6,181,621 |   | $ | (36,019 | ) | $ | 6,174,871 |   |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Issuance of  minority shares of subsidiary              |   |   |   |   |   | 135,000 |   |   |   | 135,000 |   |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Issuance of  stock options for services                 |   |   |   |   |   | 38,000 |   |   |   | 38,000 |   |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Issuance of  common stock                               |   | 618,793 |   | 6,188 |   | 2,285,741 |   |   |   | 2,291,929 |   |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Repurchase of  common stock                             |   | (137,618 | ) | (1,376 | ) | (249,587 | ) |   |   | (250,963 | ) |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Net loss                                                |   |   |   |   |   |   |   | (3,021,328 | ) | (3,021,328 | ) |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Balance,  December 31, 2000                             |   | 3,408,081 |   | 34,081 |   | 8,390,775 |   | (3,057,347 | ) | 5,367,509 |   |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Issuance of stock in connection with sale of subsidiary |   | **20,000** |   | **200** |   | **19,800** |   |   |   | **20,000** |   |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Issuance of  common stock                               |   | **100** |   | **1** |   | **124** |   |   |   | **125** |   |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Repurchase of  common stock                             |   | **(392,386** | **)** | **(3,924** | **)** | **(433,251** | **)** |   |   | **(437,175** | **)** |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Net income                                              |   |   | ** ** |   |   |   |   | **1,004,109** |   | **1,004,109** |   |
|                                                    |   |   |   |   |   |   |   |   |   |   |   |
| Balance,  December 31, 2001                             |   | **3,035,795** |   | **$** | **30,358** |   | **$** | **7,977,448** |   | **$** | **(2,053,238** | **)** | **$** | **5,954,568** |   |

 

 

 

See notes toconsolidated financial statements.

 

F-4

----

 

 
|                                                                                      |   | **CONSOLIDATED**             |          |
|-------------------------------------------------------------------------------------------|--------|------------------------------|---------------|
| **CHOICETEL COMMUNICATIONS, INC.**                                                        |   | **STATEMENTS OF CASH FLOWS** |          |
| **AND SUBSIDIARY**                                                                        |   | **YEARS ENDED DECEMBER 31**  |          |
|                                                                                      |   |                         |          |   |   |
|                                                                                      |   | **2001**                     |          | **2000** |   |
|                                                                                      |   |                         |          |   |   |
| Cash flows from operating activities:                                                     |   |                         |          |   |   |
| Net income (loss)                                                                         |   | **$**                        | **1,004,109** |   | $ | (3,021,328 | ) |
| Adjustments to  reconcile net income (loss) to net cash provided by operating activities: |   |                         |          |   |   |
| Deferred taxes                                                                            |   | **1,380,000**                |          | (1,571,000 | ) |
| Depreciation                                                                              |   | **277,286**                  |          | 392,055 |   |
| Amortization and goodwill write-off, net                                                  |   | **18,299**                   |          | 770,542 |   |
| Stock based compensation issued                                                           |   |                         |          | 38,000 |   |
| Stock issued in connection with sale of subsidiary                                        |   | **20,000**                   |          |   |   |
| Minority interest loss                                                                    |   |                         |          | (791,654 | ) |
| (Gain) loss on disposals, net                                                             |   | **(1,893,515**               | **)**         | 1,449,336 |   |
| Impairment loss                                                                           |   |                         |          | 2,744,184 |   |
| Increase in value of investments                                                          |   | **(250,778**                 | )             | (203,306 | ) |
| Changes in operating assets and liabilities:                                              |   |                         |          |   |   |
| Coin in phone                                                                             |   |                         |          | 98,455 |   |
| Income tax receivable                                                                     |   |                         |          | (180,000 | ) |
| Receivables                                                                               |   | **242,870**                  |          | 942,634 |   |
| Prepaid expenses                                                                          |   | **(97,300**                  | **)**         | (33,745 | ) |
| Accounts payable                                                                          |   | **(78,162**                  | **)**         | 1,723,548 |   |
| Accrued expenses                                                                          |   | **(43,959**                  | **)**         | (1,758,870 | ) |
| Income tax payable                                                                        |   |                         |          | (221,000 | ) |
|                                                                                      |   |                         |          |   |   |
| Net cash provided by operating activities                                                 |   | **578,850**                  |          | 377,851 |   |
|                                                                                      |   |                         |          |   |   |
| Cash flows from investing activities:                                                     |   |                         |          |   |   |
| Purchase of:                                                                              |   |                         | ** **    |   |   |
| Site contracts                                                                            |   | **(55,000**                  | **)**         |   |   |
| Equipment                                                                                 |   | **(40,681**                  | **)**         | (3,836,481 | ) |
| **S**hort-term  investments                                                               |   |                         |          | (2,000,000 | ) |
| Proceeds from sale of equipment and rental contracts                                      |   | **19,514**                   | ** **    | 2,071,200 |   |
| Proceeds from sale of Advants                                                             |   | **500**                      | ** **    |   |   |
|                                                                                      |   |                         | ** **    |   |   |
| Net cash used in investing activities                                                     |   | **(75,667**                  | **)**         | (3,765,281 | ) |
|                                                                                      |   |                         |          |   |   |
| Cash flows from financing activities:                                                     |   |                         |          |   |   |
| Proceeds from issuance of:                                                                |   |                         |          |   |   |
| Common stock in subsidiary                                                                |   |                         |          | 225,000 | ** ** |
| Common stock                                                                              |   | **125**                      |          | 2,106,308 |   |
| Proceeds of note payable                                                                  |   | **104,000**                  |          |   |   |
| Repurchase of common stock                                                                |   | **(437,175**                 | **)**         | (250,963 | ) |
| Principal payments on long-term debt                                                      |   |                         |          | (387,475 | ) |
| Payment in notes payable                                                                  |   |                         |          | (47,858 | ) |
|                                                                                      |   |                         | ** **    |   |   |
| Net cash provided by (used in) financing activities                                       |   | **(333,050**                 | **)**         | 1,645,012 |   |
|                                                                                           |        |                              |               |  |  |  |  |

 

See notes toconsolidated financial statements.

 

F-5

----

 

 
|                                                                                 |   |                         |          | **CONSOLIDATED** |    |
|--------------------------------------------------------------------------------------|--------|------------------------------|---------------|------------------|---------|
| **CHOICETEL COMMUNICATIONS, INC.**                                                   |   | **STATEMENTS OF CASH FLOWS** |          |
| **AND SUBSIDIARY**                                                                   |   | **YEARS ENDED DECEMBER 31**  |          |
|                                                                                 |   |                         |          |             |    |
|                                                                                 |   | **2001**                     |          | **2000**         |    |
|                                                                                 |   |                         |          |             |    |
| Net increase (decrease) in cash and cash equivalents                                 |   | **$**                        | **170,133**   |             | $       | (1,742,418 | ) |
|                                                                                 |   |                         |          |             |    |
| Cash and cash equivalents, beginning                                                 |   | **580,926**                  |          | 2,323,344        |    |
|                                                                                 |   |                         |          |             |    |
| Cash and cash equivalents, ending                                                    |   | **751,059**                  |          | $                | 580,926 |   |
|                                                                                 |   |                         |          |             |    |
| Supplemental disclosure of cash flow information:                                    |   |                         |          |             |    |
| Cash paid for interest                                                               |   |                         |          | $                | 4,584   |   |
|                                                                                 |   |                         |          |             |    |
| Supplemental cash flow information:                                                  |   |                         |          |             |    |
|                                                                                 |   |                         |          |             |    |
| Non-cash investing and financing activities:                                         |   |                         |          |             |    |
|                                                                                 |   |                         |          |             |    |
| Note payable settled partially by prepaid expenses                                   |   |                         |          | $                | 302,142 |   |
|                                                                                 |   |                         |          |             |    |
| Common stock issued in non-cash transactions                                         |   | **$**                        | **20,000**    |             | $       | 185,621 |   |
|                                                                                 |   |                         |          |             |    |
| The gain on  disposal of subsidiary includes the elimination of the following items: |   |                         |          |             |    |
|                                                                                 |   |                         |          |             |    |
| Accounts payable                                                                     |   | **$**                        | **1,694,605** |             |    |   |
| Accrued expenses                                                                     |   | **303,009**                  |          |             |    |
| Sale of equipment                                                                    |   | **(219,986**                 | )             |             |    |
| Issuance of notes payable                                                            |   | **104,000**                  |          |             |    |
| Receivables and other                                                                |   | **11,387**                   |          |             |    |
|                                                                                 |   |                         |          |             |    |
|                                                                                 |   | **$**                        | **1,893,015** |             |    |   |

 

 

 

See notes toconsolidated financial statements.

 

F-6

----

 

|                                | NOTES TO  CONSOLIDATED      |
|-------------------------------------|-----------------------------|
|                                | FINANCIAL  STATEMENTS       |
| **CHOICETEL  COMMUNICATIONS, INC.** | YEARS ENDED                 |
| **AND SUBSIDIARY**                  | DECEMBER  31, 2001 AND 2000 |

 
| 1.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |   | Nature of business and  discontinued operations: |   |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------------------------------------------------|--------|
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |
| Nature of business:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |   |                                             |
| ChoiceTel Communications, Inc. and Subsidiary (the Company) includes  a formerly 80% owned subsidiary, Advants, Inc.

(formerly Public Internet Access Holdings Corporation).  The Company’s primary business is  providing pay phone related 

service in Puerto Rico. ChoiceTel Communications, Inc. increased its  ownership interest in Advants, Inc. (Advants) from 60%

to 80% during 2000 mainly by providing a significant investment in  Advants common stock.  Advants was in  the business of

providing public internet access through kiosks located in perceived  high traffic areas such as gas stations and supermarkets.

Advants had minimal revenue and incurred large expenses for hardware  and software in development.  Advants’  total

liabilities exceed total assets by approximately $1.7 million as of  December 31, 2000.  Advants was sold  in May 2001. |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |   |                                             |
| Discontinued  operations:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |   |                                             |
| The Company decided to discontinue its pay phone operations in  December 1999 (measurement date).  The  Company had

estimated it would realize an overall gain on the disposal of  discontinued operations. In 1999, the Company sold all of its

phones in two territories in separate transactions totaling  approximately $6,400,000. In March 2000, the Company sold its

operations in the Eastern United States for approximately $2,000,000.                                                                                                                                                                                                                                                                                                                                                                                                                                                             |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |   |                                             |
| During 2001 the Company unsuccessfully sought buyers for its Puerto  Rican operations. Consequently, the Company has

reclassified items reported in 2000 as components of discontinued  operations as continuing since the attempted disposal period

had spanned multiple periods. There is no change in the Company’s  total reported earnings from 2000 as a result of this

change and the Company continues to make efforts to sell the  operations.                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |   |                                             |
| 2.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |   | Summary of significant  accounting policies:     |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |
| Principles of  consolidation:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |   |                                             |
| The consolidated financial statements for 2001 and 2000 include the  accounts of ChoiceTel Communications, Inc., and its 80%

owned subsidiary, Advants.   All material intercompany balances have been eliminated. The Company  sold its investment in

Advants in May 2001.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                    |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |   |                                             |
| Concentration of credit  risk:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |                                             |
| The Company maintains its cash in bank deposit accounts at financial  institutions where balances, at times, may exceed federally

insured limits.  It is  management’s opinion that the risk of loss is minimal.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |   |                                             |
| The Company has an investment with Whitebox Statistical Arbitrage  Fund, LP, a fund with a stated objective of providing

superior short-term risk adjusted returns through the use of a  statistical arbitrage trading strategy. This investment is neither

guaranteed nor insured. Consequently, the entire investment is  subject to market risk.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                  |   |                                             |
| Property and equipment  and depreciation methods:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |                                             |
| Property and equipment is recorded at cost. Depreciation is being  provided by the straight-line method over the estimated useful

lives generally between 5 and 10 years.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |        |                                                  |        |  |  |

 

 

 

F-7

----

 
| Impairment of assets:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |   |   |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|--------|
| During 2000 the Company determined that substantially all of the  assets of Advants and related goodwill had become

impaired, as defined by Statement of Financial Accounting Standards  No. 121 (SFAS No. 121) *Accounting for Impairment*

*of  Long-Lived Assets and for Long-Lived Assets to Be Disposed Of*.  The impaired assets included public access  Internet

kiosks, related equipment and capitalized software development costs.  Pursuant to the requirements of SFAS No. 121, the

Company had recorded an impairment loss on these assets.                                                                 |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |   |   |
| Income taxes:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |   |   |
| Income taxes are provided for the tax effects of transactions  reported in the financial statements and consist of taxes currently

due plus deferred taxes.   Deferred taxes are recognized from differences between the tax basis  of assets and liabilities and

their reported amounts in the financial statements.  The deferred tax assets and liabilities  represent the future tax expense of

those differences.                                                                                                                                                                                               |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |   |   |
| For 2001, the Company will file a consolidated tax return that  includes Advants from January 1 through May 8, 2001. For tax

purposes, the Company has made an election that will enable the  Company to carry forward substantially all of the net

operating losses incurred by Advants from its inception through May  8, 2001.                                                                                                                                                                                                                                                                                               |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |   |   |
| For 2000, the Company filed a consolidated tax return that includes  Advants for the period August 1, 2000 through December

31, 2000.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |   |   |
| Stock-based  compensation:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |   |
| The Company accounts for its stock options in accordance with the  provisions of Accounting Principles Board Opinion No. 25

(APB No. 25), *Accounting for Stock Issued to Employees*,  and related interpretations.  As such,  compensation expense is

recorded on the date of grant only if the current market price of the  underlying stock exceeded the exercise price. The

Company has also adopted SFAS No. 123, *Accounting for Stock-Based  Compensation*, which permits entities to recognize

the expense over the vesting period of the fair value of all  stock-based awards on the date of grant.            |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |   |   |
| Alternatively, SFAS No. 123 allows entities to continue to apply the  provisions of APB No. 25 and provide proforma net

income disclosures for employee stock option grants as if the  fair-value based method defined in SFAS No. 123 had been

applied.  The Company has  elected to continue to apply the provisions of APB No. 25 and provide the  proforma disclosure

provisions of SFAS No. 123.                                                                                                                                                                                                                     |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |   |   |
| Earnings per share:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                               |   |   |
| The Company adopted SFAS No. 128, *Earnings per Share*.  Basic earnings per common share are based  on the weighted

average number of common shares outstanding in each year.  Diluted earnings per common share assume  that outstanding

common shares were increased by shares issuable upon exercise of  stock options and warrants for which market price

exceeds exercise price, less shares which could have been purchased  by the Company with related proceeds.   This

calculation added 15,257 and zero shares to the diluted weighted  average shares outstanding for 2001 and 2000,

respectively. |

 

 

F-8

----

 
| Earnings per share  (continued):                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |   |                                          |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|-----------------------------------------------|
| Stock options and warrants for 1,085,282 shares for December 31,  2000, were not used in the calculation of diluted earnings

per share because they were antidilutive.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |                                          |
| Cash equivalents:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |                                          |
| The Company  considers all highly liquid investments with original maturities of three  months or less to be cash equivalents.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |                                          |
| Use of estimates:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |   |                                          |
| The preparation  of financial statements in conformity with generally accepted accounting  principles requires management to

make estimates  and assumptions that affect certain reported amounts and disclosures.  Accordingly, the actual amounts

could differ  from those estimates. Any adjustments applied to estimated amounts are  recognized in the year in which such

adjustments are  determined.  Estimates that are  susceptible to significant change are contingencies, asset impairment, and

deferred taxes.                                                                                                                                                                                                                                                                                   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |                                          |
| 3.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |   | Related party  transactions:                  |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| During 2000, the Company invested $2,000,000 in Whitebox Arbitrage  Fund, LP.  A holder of more than 10%  of the

Company’s common stock is the President of Whitebox Advisors, Inc.,  which is the general partner of Whitebox Arbitrage

Fund, LP.  The value of the  investment at December 31, 2001 is $2,454,084. The investment was redeemed by  the Company

on January 1, 2002 for cash of the same amount.                                                                                                                                                                                                                                                                                                                                                                                          |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |                                          |
| 4.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |   | Write-off of goodwill  and asset impairments: |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
| During the fourth quarter of 2000, management determined that the  Company’s efforts to penetrate the public access Internet

kiosk business were not going to generate a cash flow sufficient to  support the cost of the related assets.   Consequently, the

Company wrote-off goodwill generated in 2000 of approximately  $1,062,000.                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |                                          |
| Additionally, in the fourth quarter of 2000, the Company recorded  asset impairments of $2,744,184.   These asset impairments

were required to reduce the carrying value of the Company’s Internet  kiosks, related equipment and related capitalized

software development costs.   The reported values of the profitable assets were determined from an  analysis of projected

undiscounted cash flows, which were no longer deemed adequate to  support the value of the goodwill or of the assets. 

Reported values of most of the assets were based upon salvage values  net of costs required for disposal.   These write-downs

relate to substantially all of the assets of Advants and related  goodwill generated by common stock purchases of Advants by 

ChoiceTel Communications, Inc. |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |   |                                          |
| 5.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                          |   | Property and equipment:                       |   |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                             |        |                                               |  |  |  |  |  |

 
|                      |   | **2001**      |          | 2000      |   |
|---------------------------|--------|---------------|---------------|-----------|--------|
|                      |   |          |          |      |   |
| Office equipment          |   | **$**         | **97,868**    |      | $      | 129,603 |   |
| Telephones and  equipment |   | **2,335,739** |          | 2,346,048 |   |
| Kiosks                    |   |          |          | 154,500   |   |
| Accumulated  depreciation |   | **(590,506**  | )             | (372,468  | )      |
|                      |   | **1,843,101** |          | 2,257,683 |   |
| In process software       |   |          |          | 50,000    |   |
|                      |   |          |          |      |   |
|                      |   | **$**         | **1,843,101** |      | $      | 2,307,683 |   |

 

 

F-9

----

 
| 6.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |   | Commitments and  contingencies: |   |
|----------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|--------|---------------------------------|--------|
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| Commitments:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
| Phone locations:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| The Company rents phone locations from merchants and property owners  under varying lease terms, usually ten years,

generally cancelable by the Company upon 30 days notice.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                        |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| Consulting agreement:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
| The Company paid a director/shareholder $28,800 for certain  consulting services in each year 2001 and 2000.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                         |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| Leases:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
| The Company leases its corporate   offices and its Puerto Rico offices under a lease which became  month-to-month in 2002.

Rent expense was $44,132 and $121,878 for the years ended December  31, 2001 and 2000, respectively.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| Contingencies:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                       |
| Sales tax:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                           |
| During 2000, the Company reached a settlement with the Minnesota  Department of Revenue covering all sales tax liabilities

during the period the Company operated pay phones in the State of  Minnesota.  As a result of the  settlement the Company

recognized a $509,000 gain.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                              |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| Lawsuits:                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                            |
| The Company has been named in several lawsuits for unpaid bills of  Advants, as well as for claims of promissory estoppel and

other matters.  The Company  intends to defend these lawsuits and believes that the likelihood of an  unfavorable outcome is

remote. Further, the Company does not believe that any loss pursuant  to these claims will have a material effect on the

financial statements. Consequently, no provision has been made in the  financial statements.                                                                                                                                                                                                                                                                                                                                                                                                                             |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| The Company was  unable to reconcile outstanding invoice balances during the period of March  1998 to May 2000 because

line rates were  in dispute with PRTC. At December 31, 2000 the Company had accrued a $250,000  liability which was

believed to be  adequate to cover any losses resulting from resolution of this matter. During  2001, the matter was resolved

with a credit of  $325,000 issued to the Company by PRTC which the Company is using to offset  future phone bills.  The

unused credit  approximates $177,000 at December 31, 2001 and is included in prepaid  expenses.                                                                                                                                                                                                                                                                                                             |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |
| In 2000, the Company entered into an agreement to settle certain  other claims by issuing 46,560 shares of common stock and a

$175,000 payment.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                     |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |   |                            |
| 7.                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                   |   | Stock options and  warrants:    |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                 |   |                            |
| On April 11, 1997, the  Company’s Board of Directors adopted the 1997 Long-Term Incentive and Stock  Option Plan (the Plan).  The Plan  provides for the issuance of incentive stock options and non-qualified stock  options to key employees and directors of the Company.  The total number of shares of common stock  authorized and reserved for issuance under the Plan is 350,000 shares.  The exercise price for each incentive  stock option granted under the Plan may not be less than the fair market  value of the common stock on the date of the grant, except in the case of  incentive stock options.  In this case  the optionee owns greater than 10% of the total combined voting power of all  classes of capital stock of the Company, in which the exercise price may not  be less than 110% of the fair market value of the common stock on the date of  the grant. |
|                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                                      |        |                                 |        |  |

 

 

 

F-10

----

 
| The exercise price for  each non-qualified option may not be less than 85% of the fair market value  of the common stock on the date of grant. Unless otherwise determined by the  Board, incentive options granted under the Plan have a maximum duration of 10  years, non-qualified options and awards have a maximum duration of 15  years.   Vesting is based on such terms and conditions as the Board shall  determine. |
|------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------------|
|                                                                                                                                                                                                                                                                                                                                                                                                                                     |
| The proforma effects of  options issued to employees are as follows:                                                                                                                                                                                                                                                                                                                                                                     |

 

 

|                                   |   | **As  reported** |          | **Proforma** |   |
|----------------------------------------|--------|------------------|---------------|--------------|--------|
| 2001:                                  |   |             |          |         |   |
| Net income                             |   | **$**            | **1,004,109** | ** **   | **$**  | **973,252** | ** ** |
|                                   |   |             |          |         |   |
| Income per share, primary and diluted. |   | **$**            | **.31**       |         | **$**  | **.30** |   |
|                                   |   |             |          |         |   |
| 2000:                                  |   |             |          |         |   |
| Net loss                               |   | $                | (3,021,328    | )            | $      | (3,025,968 | ) |
|                                   |   |             |          |         |   |
| Loss per share                         |   | $                | (.93          | )            | $      | (.93 | ) |

 

Assumptions usedto estimate the fair value of options issued to employees using the BlackScholes model are as follows:

 

|                     |   | **2001**   |   | 2000    |   |
|--------------------------|--------|------------|--------|---------|--------|
|                     |   |       |   |    |   |
| Estimated:               |   |       |   |    |   |
| Risk free  interest rate |   | **3.00**   | %      | 5.13    | %      |
| Life                     |   | **1 year** |   | 4 years |   |
| Volatility               |   | **98.64**  | %      | 0.00    | %      |
| Dividends                |   | **0.00**   | %      | 0.00    | %      |

 

 

Information withrespect to options outstanding as of December 31 is summarized as follows:

 
|                                                            |   | **2001**      |              | **2000**                                   |     |
|-----------------------------------------------------------------|--------|---------------|-------------------|--------------------------------------------|----------|
|                                                            |   | **Shares**    |              | **Weighted  average**

**exercise  price** |     | Shares |   | Weighted average

exercise  price |   |
|                                                            |   |          |              |                                       |     |   |   |   |   |
| Outstanding at beginning of year                                |   | **345,824**   | ** **        | **$**                                      | 3.02     |   | 252,666 | ** ** | **$** | 3.21 | ** ** |
| Granted                                                         |   | **142,858**   | ** **        | **0.92**                                   |     | 123,158 |   | 3.18 |   |
| Exercised                                                       |   |          |              |                                       |     |   |   |   |   |
| Forfeited                                                       |   | **(90,000**   | **)**             | **2.36**                                   |     | (30,000 | ) | 5.75 |   |
|                                                            |   |          |              |                                       |     |   |   |   |   |
| Outstanding at end of year                                      |   | **398,682**   | ** **        | **$**                                      | **2.29** |   | 345,824 |   | $ | 3.02 |   |
|                                                            |   |          |              |                                       |     |   |   |   |   |
| Range of  exercise prices of options outstanding at December 31 |   | **$**         | **0.92 -  $5.00** |                                       |     |   | $ | 2.25 - $5.00 |   |   |   |
|                                                            |   |          |              |                                       |     |   |   |   |   |
| Options exercisable at year end                                 |   | **398,682**   |              |                                       |     | 342,491 |   |   |   |
|                                                            |   |          |              |                                       |     |   |   |   |   |
| Weighted average remaining life                                 |   | **3.0 years** |              |                                       |     | 2.4 years |   |   |   |
|                                                                 |        |               |                   |                                            |          |  |  |  |  |  |  |  |  |

 

 

 

F-11

----

 
| Independent Auditors'  Report                                        |
|----------------------------------------------------------------------|
| Notes to Consolidated  Financial Statements                          |
| CHOICETEL  COMMUNICATIONS, INC. AND SUBSIDIARY                       |
| YEARS ENDED DECEMBER  31, 2001 AND 2000                              |
|                                                                 |
| At December 31, the  Company has the following outstanding warrants: |

 
|                                        |   |          |   |      |   | Weighted average |   |
|---------------------------------------------|--------|---------------|--------|-----------|--------|------------------|--------|
|                                        |   | **2001**      |   | 2000      |   | exercise price   |   |
|                                        |   |          |   |      |   |             |   |
| Issued as part of units in public offering  |   | **800,000**   |   | 800,000   |   | $                | 9.50   |   |
|                                        |   |          |   |      |   |             |   |
| Granted to underwriter in public offering   |   | **160,000**   |   | 160,000   |   | 8.95             |   |
|                                        |   |          |   |      |   |             |   |
| Granted to underwriter in private offering  |   | **629,457**   |   | 629,457   |   | 4.95             |   |
|                                        |   |          |   |      |   |             |   |
| Granted to investor in former subsidiary(a) |   | **150,000**   |   | 150,000   |   | 5.00             |   |
|                                        |   |          |   |      |   |             |   |
| Granted to investment relations company     |   | **50,000**    |   | 100,000   |   | 7.00             |   |
|                                        |   |          |   |      |   |             |   |
| Outstanding at year end                     |   | **1,789,457** |   | 1,839,457 |   |             |   |
|                                        |   |          |   |      |   |             |   |
| Warrants exercisable at year end            |   | **1,789,457** |   | 1,839,457 |   | $                | 7.44   |   |
|                                        |   |          |   |      |   |             |   |
| Weighted average remaining life             |   | **2.2 years** |   | 3.4 years |   |             |   |

 

----

(a)     As restated to reflect previous omission ofthis warrant.

 

F-12

----

 

 
| 8. |   | Income taxes: |   |
|----|--------|---------------|--------|

 

 

|                                                 |   | **2001**      |          | 2000       |   |
|------------------------------------------------------|--------|---------------|---------------|------------|--------|
|                                                 |   |          |          |       |   |
| Provisions (benefits) calculated at statutory rates: |   |          |          |       |   |
| Deferred:                                            |   |          |          |       |   |
| Federal                                              |   | **$**         | **910,000**   |       | $      | (1,925,000 | ) |
| State                                                |   | **160,000**   |          | (339,000   | )      |
|                                                 |   |          |          |       |   |
|                                                 |   | **1,070,000** |          | (2,264,000 | )      |
|                                                 |   |          |          |       |   |
| Valuation  allowance                                 |   | **299,000**   |          | 513,000    |   |
|                                                 |   |          |          |       |   |
|                                                 |   | **$**         | **1,369,000** |       | $      | (1,751,000 | ) |

 

The deferred taxasset and deferred tax liability consist of the following at December 31:

 

|                             |   | **2001**      |          | 2000      |   |
|----------------------------------|--------|---------------|---------------|-----------|--------|
|                             |   |          |          |      |   |
| Deferred tax  asset (liability): |   |          |          |      |   |
| Net operating  loss carryforward |   | **$**         | **1,705,000** |      | $      | 981,000 |   |
| PRTC settlement                  |   |          |          | 100,000   |   |
| Depreciation                     |   | **(401,000**  | )             | (230,000  | )      |
| Amortization                     |   | **34,000**    |          | 425,000   |   |
| Accrued expenses                 |   | **20,000**    |          | 25,000    |   |
| Impairment loss                  |   |          |          | 1,138,000 |   |
|                             |   | **1,358,000** |          | 2,439,000 |   |
| Valuation allowance              |   | **865,000**   |          | 566,000   |   |
|                             |   |          |          |      |   |
|                             |   | **$**         | **493,000**   |      | $      | 1,873,000 |   |

 

The Company hasavailable loss carryforwards of $4,265,000 that expire beginning in 2020.

 

Utilization of thedeferred tax asset of $493,000 disclosed above is dependent on future taxableprofits in excess of profits arising from existing taxable temporarydifferences.  Assets have beenrecognized based on management’s estimate of projected future taxable incomeprior to the anticipated transaction discussed in Footnote 10 below.  The 2001 valuation considers the ability ofSontra Medical to utilize the net operating loss carryforwards after its mergerwith the Company.

 
| 9. |   | Financial instruments: |   |
|----|--------|------------------------|--------|

 

The Company’sfinancial instruments recorded on the balance sheet include cash, investments,accounts receivable and accounts payable. Because of their short maturity, thecarrying amount of cash, investments, accounts receivable and accounts payableapproximates fair value.

 
| 10. |   | Subsequent events: |   |
|-----|--------|--------------------|--------|

 

On February 28,2002, the Company announced that it had entered into an Agreement Plan ofReorganization (the “Merger Agreement”), dated as of February 27, 2002, withSontra Medical, Inc., a Delaware development stage medical technologycorporation. Pursuant to the Merger Agreement, the Company’s recentlyincorporated, wholly-owned subsidiary, CC Merger Corp., a Delaware corporation,will merge with and into Sontra Medical. Sontra Medical will be the survivingcorporation and become a wholly-owned subsidiary of ChoiceTel. On the closingdate of the Merger, the outstanding shares of Sontra Medical’s stock will be convertedinto the right to receive newly-issued shares of ChoiceTel common stock basedon an exchange ratio of 0.2347 shares of ChoiceTel common stock for each shareof Sontra Medical stock.

 

 

F-13

----

 

 

The exchange ratiois subject to adjustment in certain circumstances as set forth in the MergerAgreement. After completion of the transaction, the shareholders of SontraMedical will own approximately 71% of ChoiceTel and ChoiceTel shareholders willown approximately 29% of ChoiceTel. Outstanding rights to purchase stock ofSontra Medical will also be converted into the rights to purchase ChoiceTelcommon stock at the same exchange ratio.

 

The transaction,which is anticipated to be tax-free to the shareholders of both companies, andwhich will be accounted for as a reverse merger, is expected to close late inthe second fiscal quarter, subject to regulatory approvals, approval by theshareholders of both companies, and customary closing conditions. The holdersof approximately 60% of ChoiceTel’s outstanding shares of common stock haveagreed to vote their shares in favor of the Merger, and the holders ofapproximately 85% of Sontra Medical’s outstanding shares of capital stock haveagreed to vote their shares in favor of the Merger.

 

 

 

 

F-14

----