UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark One) X Quarterly Report Pursuant to Section 13 or 15(d) of the - ----- Securities Exchange Act of 1934 For the quarterly period ended September 30, 1996 or Transition Report Pursuant to Section 13 or 15(d) of the - ----- Securities Exchange Act of 1934 For the transition period from to ------ ------ Commission file number 1-6435 ---------------- BBN Corporation - ----------------------------- (Exact name of registrant as specified in its charter) Massachusetts 04-2164398 - ---------------------------------- -------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 150 CambridgePark Drive, Cambridge, Massachusetts 02140 - ------------------------------------------------------------ (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (617) 873-2000 -------------------- - -------------------------------------------------------------------------- (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ----- ----- Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Number of shares of common stock, $1.00 par value, outstanding as of October 31, 1996: 21,012,534 Exhibit index appears on page 17 Page 1 of 17 pages BBN CORPORATION INDEX Page No. -------- Part I. Financial Information Consolidated Statements of Operations - Three Months Ended September 30, 1996 and 1995................3 Consolidated Balance Sheets - as of September 30, 1996 and June 30, 1996....................4 Consolidated Statements of Cash Flows - Three Months Ended September 30, 1996 and 1995................5 Notes to Consolidated Financial Statements.......................6 Management's Discussion and Analysis of Financial Condition and Results of Operations..........................10 Part II. Other Information Item 4. Submission of Matters to a Vote of Security Holders....16 Item 6. Exhibits and Reports on Form 8-K.......................16 Signatures......................................................16 Note: Page references relate solely to this document in its traditional filing format. PART I. FINANCIAL INFORMATION BBN CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) Dollars in thousands, except per-share data Three Months Ended ------------------------------ September 30 September 30 1996 1995 ------------ ------------ Revenue $ 74,296 $ 50,181 ----------- ----------- Costs and expenses: Cost of revenue 61,427 37,087 Research and development expenses 3,152 2,365 Selling, general and administrative expenses 20,630 17,599 ------------ ------------ 85,209 57,051 ------------ ------------ Loss from operations (10,913) (6,870) Interest income 1,556 1,594 Interest expense (1,389) (1,134) Minority interests (2) (69) ------------ ------------ Loss from continuing operations before income taxes (10,748) (6,479) Income taxes (2,049) ------------ ------------ Loss from continuing operations (10,748) (4,430) Income (loss) from discontinued operations (net of applicable income taxes) 20,000 (4,221) ------------ ------------ Net income (loss) $ 9,252 $ (8,651) ============ ============ Income (loss) per share: Continuing operations $ (.51) $ (.25) Discontinued operations $ .95 $ (.24) ------------ ------------ Net income (loss) per share $ .44 $ (.49) ============ ============ Shares used in per-share calculations 21,190,000 17,518,000 ============ ============ The accompanying notes are an integral part of the consolidated financial statements. BBN CORPORATION CONSOLIDATED BALANCE SHEETS Dollars in thousands September 30 June 30 1996 1996 ------------ ------------ (Unaudited) ASSETS Current assets: Cash and cash equivalents (includes restricted cash of $4,774 at September 30, 1996 and $4,711 at June 30, 1996) $ 73,755 $ 79,533 Short-term investments 49,980 40,742 Accounts receivable, net 64,674 60,825 Other current assets 10,654 10,314 Net assets of discontinued operations 8,082 ------------ ------------ Total current assets 199,063 199,496 Property, plant and equipment, net 54,032 48,069 Other assets 7,258 1,772 ------------ ------------ Total assets $ 260,353 $ 249,337 ============ ============ LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Accounts payable $ 17,480 $ 27,702 Accrued compensation and retirement plan 6,114 8,272 Accrued restructuring charges 7,086 7,352 Other accrued costs 32,093 16,649 Short term lease obligations 4,127 4,041 Deferred revenue 14,665 15,369 ------------ ------------ Total current liabilities 81,565 79,385 6% convertible subordinated debentures due 2012 73,170 73,170 Capital lease obligation 7,627 8,692 Minority interests 756 754 Redeemable convertible preferred stock of subsidiary 8,000 Redeemable common stock 8,000 Shareholders' equity: Common stock, $1 par value, authorized: 100,000,000 shares; issued: 24,980,285 shares at September 30, 1996 and 24,911,529 shares at June 30, 1996 24,980 24,912 Additional paid-in capital 111,347 113,742 Foreign currency translation adjustment 794 Accumulated deficit (18,673) (27,925) ------------ ------------ 117,654 111,523 Less shares in treasury, at cost: 3,997,551 and 4,527,464 shares at September 30, 1996 and June 30, 1996, respectively 28,419 32,187 ------------ ------------ Total shareholders' equity 89,235 79,336 ------------ ------------ Total liabilities and shareholders' equity $ 260,353 $ 249,337 ============ ============ The accompanying notes are an integral part of the consolidated financial statements. BBN CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) Dollars in thousands Three Months Ended ---------------------------- September 30 September 30 1996 1995 ------------ ------------ Cash flows from continuing operating activities: Loss from continuing operations $ (10,748) $ (4,430) ------------ ------------ Adjustments to reconcile loss from continuing operations to net cash used by operating activities: Depreciation and amortization 3,420 2,317 Amortization of goodwill 662 Change in assets and liabilities: Accounts receivable (3,849) (3,651) Other assets (826) (227) Accounts payable and other liabilities (3,002) 1,177 Restructuring expenditures (266) (376) Deferred revenue (704) 249 Income taxes, net (3,452) Other (314) (149) ------------ ------------ Total adjustments (5,541) (3,450) ------------ ------------ Net cash used by continuing operating activities (16,289) (7,880) ------------ ------------ Cash flows from discontinued operating activities (1,418) (4,062) ------------ ------------ Cash flows from investing activities: Proceeds from sale of BBN Domain 36,000 Purchases of short-term investments, net (9,238) (37,011) Additions to property, plant and equipment (9,868) (4,307) Additions to property, plant and equipment from discontinued operations (1,471) Investment in joint venture (5,000) Payments to minority owner (2,199) Net cash provided (used) by ------------ ------------ investing activities 11,894 (44,988) ------------ ------------ Cash flows from financing activities: Sale of subsidiary preferred stock 8,000 Repayments on capital lease obligations (979) Proceeds from employee options and stock plans 1,014 97 ------------ ------------ Net cash provided by financing activities 35 8,097 ------------ ------------ Net decrease in cash and cash equivalents (5,778) (48,833) Cash and cash equivalents - beginning of period 79,533 107,608 ------------ ------------ Cash and cash equivalents - end of period $ 73,755 $ 58,775 ============ ============ The accompanying notes are an integral part of the consolidated financial statements BBN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS A. Basis of Presentation The financial information included herein, with the exception of the consolidated balance sheet at June 30, 1996, has not been audited. However, in the opinion of management, all material adjustments necessary for a fair presentation of the results for these periods, have been reflected and consist only of normal recurring accruals. The results for these periods are not necessarily indicative of the results for the full fiscal year. The net assets, liabilities, results of operations, and cash flows of BBN Domain for the three months ended September 30, 1995 and the month ended July 31, 1996 are classified as discontinued operations in the consolidated financial statements. The accompanying financial information should be read in conjunction with the consolidated financial statements and notes thereto contained in the CompanyOs annual report on Form 10-K filed with the Securities Exchange Commission for the year ended June 30, 1996. B. Change in Accounting Estimate Effective July 1, 1996, the Company revised its estimate of the useful life of certain data communications equipment from three to five years to better reflect the useful service period of the related equipment. The change had the effect of reducing depreciation expense and the loss from continuing operations by approximately $400,000 or $.02 per share. C. Segment Information The following is a summary of business segment information from continuing operations for the three months ended September 30, 1996 and 1995, respectively. Three Months Ended September 30 ------------------------- Dollars in Thousands 1996 1995 ---------- ---------- Revenue: BBN Planet $ 32,705 $ 10,669 BBN Systems and Technologies 41,963 39,675 Eliminations (372) (163) ---------- ---------- $ 74,296 $ 50,181 ========== ========== Income (loss) from continuing operations: BBN Planet $ (10,786) $ (7,947) BBN Systems and Technologies 67 1,606 Unallocated corporate expenses (194) (529) ---------- ---------- $ (10,913) $ (6,870) =========== ========== BBN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) D. Other Assets On August 14, 1996, the Company and Andersen Consulting LLP entered into a joint venture aimed at exploring and developing opportunities in the Internet market. The Company contributed $5,000,000 in exchange for an approximately 12.5% ownership stake in the venture entity; Andersen Consulting LLP retains the remaining 87.5% interest. The Company entered into an agreement with Andersen Consulting LLP to provide the joint venture with technical and engineering services, the value of which is expected to be approximately $4,000,000 in fiscal 1997. E. Discontinued Operations On July 31, 1996 the Company completed the divestiture of a majority interest in its BBN Domain Corporation ("Domain") subsidiary. Under the terms of the agreement, Domain has been recapitalized, a significant portion of the Company's interest has been redeemed, and a majority of the stock interest in Domain has been purchased by an investment group. The Company received a cash payment of $36,000,000 and will retain a minority interest in the voting stock of the renamed Domain Solutions Corporation. Domain Solutions Corporation has retained substantially all assets and liabilities related to its operations. The net gain recorded on the divestiture was $20,000,000 after considering costs of approximately $8,000,000 including facilities, employee related and other costs incurred in connection with the divestiture. The net assets, liabilities, results of operations and cash flows of Domain are classified as discontinued operations in the consolidated financial statements. F. Redeemable Common Stock and Preferred Stock of Subsidiary In July 1995, AT&T Venture Company, L.P. ("AT&T Venture") purchased 1,000,000 shares of BBN Planet's Series A Redeemable Convertible Preferred Stock for $8,000,000. On August 6, 1996, AT&T Venture's preferred stock investment was exchanged for 400,000 common shares of BBN Corporation. The shares, which were issued from treasury shares, are restricted and were not registered under the Securities Act of 1933 ("the Act") and may not be transferred or assigned before the sooner of the filing of an effective registration statement under the Act or an exemption from registration is available. The Company could be required, under certain circumstances, to register the shares under the Act; in addition, the holders of the shares are entitled to certain rights to sell the shares in connection with the filing of a registration statement initiated by the Company. During one year following the exchange, AT&T Venture may require the Company to purchase all or any part of the common shares at a price of $20.00 per share. G. Common Stock As of September 9, 1996, the minority shareholders' common stock investments in BBN Planet were converted into an aggregate of 92,000 common shares of BBN Corporation. The shares, which were issued from treasury shares, are restricted and were not registered under the Act and may not be offered or sold before the sooner of the filing of an effective registration statement under the Act or an exemption from BBN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) registration is available. The Company could be required, under certain circumstances, to register 80,000 of the shares under the Act; in addition, the holder of such 80,000 shares is entitled to certain rights to sell the shares in connection with the filing of a registration statement initiated by the Company. Refer to the "Redeemable Common Stock and Preferred Stock of Subsidiary" footnote for discussions of the conversion of BBN Planet's preferred shareholder's investment into common shares of BBN Corporation. H. Paid-in Capital As provided by the Company's 1986 Stock Incentive Plan, during the quarter ended September 30, 1995 the retiring chairman of the board transferred shares of the Company's common stock to the Company in payment of applicable withholding taxes in connection with the exercise of non-qualified stock options. The effect of this transaction was to reduce paid-in capital by approximately $1,400,000. I. Commitments and Contingencies The Company, like other companies doing business with the U.S. government, is subject to routine audit, and in certain circumstances to inquiry, review, or investigation, by U.S. government agencies, of its compliance with government procurement policies and practices. Based upon government procurement regulations, under certain circumstances a contractor violating or not complying with procurement regulations can be subject to legal or administrative proceedings, including fines and penalties, as well as be suspended or debarred from contracting with the government. The institution of such proceedings against the Company could, and suspension or debarment from contracting with the government would, materially adversely affect the Company's business, financial condition, and results of operations. The Company's policy has been and continues to be to conduct its activities in compliance with all applicable rules and regulations. The books and records of the Company are subject to audit by the Defense Contract Audit Agency ("DCAA"); such audits can result in adjustments to contract billings. Final contract billing rates for the Company have been established and billings audited for years through fiscal year 1991, except for the Company's former BBN Communications activities for which final contract billing rates have been established only through fiscal year 1984. The audit by DCAA of the Company's former BBN Communications activities for fiscal years 1985 through 1993, which had been delayed, is currently in progress. U.S. government revenue for BBN Communications activities during the nine-year period under audit represented approximately 40% of the Company's total U.S. government revenue during the period. Based upon its interpretations of government contract regulations, DCAA in August 1996 recommended to the responsible governmental administrative contracting officer that adjustments to BBN Communications contract billings be made which, if asserted and sustained upon appeal, would have a material adverse effect on the Company's financial condition and results of operations. The amount of any adjustments which may ultimately be asserted by the administrative contracting officer on the basis of the DCAA recommendations is not currently determinable. The Company and its counsel believe that DCAA's recommendations, in substantial part, are based upon incorrect BBN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) interpretations of government contract regulations and are inconsistent with decided cases. The Company expects that any adjustments which may ultimately be asserted and sustained on appeal as a result of audits of the Company's fiscal years 1985 through 1995 (including the 1985 through 1993 period for BBN Communications) will not have a material adverse effect on the Company's financial condition and results of operations. The Company is subject to other legal proceedings and claims which arise in the ordinary course of its business. In the opinion of management, the results of these other legal proceedings and claims will not have a material effect on the Company's consolidated financial position and results of operations. J. Recent Pronouncement In October 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation," which is effective for the Company's FY1997 financial statements. SFAS No. 123 allows companies to either account for stock-based compensation under the new provisions of SFAS No. 123 or under the provisions of APB 25, but requires pro forma disclosure in the footnotes to the financial statements as if the measurement provisions of SFAS No. 123 had been adopted. The Company expects to continue accounting for its stock-based compensation in accordance with the provisions of APB 25. As such, the adoption of SFAS No. 123 will not impact the Company's financial position or the results of operations. BBN CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Forward-Looking Statements - -------------------------- This discussion includes certain forward-looking statements about the Company's revenue growth, including from its Internet-related activities, the need for additional investment, expected expenses, operating losses, and possible capital and funding needs. Any such statements are subject to risks that could cause the actual results or needs to vary materially. Certain of these risks are discussed in the appropriate sections of this Report. Each of these risk factors, and others, affecting the CompanyOs business are further discussed from time to time in the CompanyOs filings with the Securities and Exchange Commission, including its Report on Form 8-K dated November 14, 1996. The Company - ----------- The Company is a leading provider of Internet and internetworking services and solutions to businesses and other organizations, and a provider of contract research, development, and consulting services to governmental and other organizations. The Company operates through two principal business units: BBN Planet and BBN Systems and Technologies. BBN Planet is responsible for BBNOs Internet offerings to business customers, and includes the Company's managed Internet access and value-added services and related network operations, the Company's contract with AT&T Corp. ("AT&T"), and the America Online, Incorporated ("AOL") network management contract and related Internet dial-up access capabilities. BBN Systems and Technologies focuses on providing networking solutions and contract research and development, principally for the federal government, as well as creating next generation technology for advanced Internet applications, and is organized into three principal groups: Internetwork Technologies, Information Systems and Technologies, and Physical Systems and Technologies. The Company's commercial speech recognition activities are currently included in BBN Systems and Technologies. On July 31, 1996, the Company completed its previously announced divestiture of a majority interest in BBN Domain, then a wholly-owned subsidiary of the Company which focused its business on data analysis and process optimization software products for pharmaceutical and manufacturing applications. BBN Domain is accounted for as a discontinued operation at June 30, 1996. Upon consummation of the transaction, the Company received a cash payment of $36 million, and recorded a gain from discontinued operations of $20 million during the three month period ended September 30, 1996. With the divestiture of BBN Domain, a number of products, which in recent years had significant development efforts, including BBN Domain's Cornerstone, Clintrial, and Starfire software, are no longer offered for sale by the Company. BBN CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) BBN Planet - ---------- Three Months Ended September 30, ------------------------------------ 1996 1995 ----------------- ---------------- (dollars in millions) $ % $ % ------- ------- ------- ------- Revenue $ 32.7 100% $ 10.7 100% Costs and expenses: Cost of revenue 31.1 95% 10.1 94% Research and development 1.6 5% .7 7% Selling, general and administrative 10.8 33% 7.8 73% ------- ------- ------- ------- Loss from operations $(10.8) (33%) $ (7.9) (74%) ======= ======= ======= ======= BBN Planet provides a range of Internet services and solutions to businesses and other organizations. BBN Planet operates a high-bandwidth digital data communications network providing dedicated Internet access to its customers across the United States. BBN Planet's Internet access services include a range of dedicated leased line connectivity options, bulk private- label business dial-up services, network design, implementation, management, monitoring, and problem-resolution services. In addition to Internet access services, BBN Planet currently offers a range of value-added Internet services, including managed Internet security, World Wide Web server hosting, commercial transaction and payment processing services, applications development, and systems integration services. BBN Planet's revenue includes monthly connectivity and value-added services fees, related installation fees, sales of related equipment, and consulting services. Approximately 45% of BBN PlanetOs revenues for the three months ended September 30, 1996 were derived from the development, operations, and maintenance of the dial-up network for AOL. A substantial portion of this revenue represents the pass-through costs to BBN for telecommunications circuits and services. In support of its Internet business strategy, the Company has entered into strategic alliances. In FY1995, the Company entered into a five-year agreement with AOL, originally valued at approximately $11 million per year, to develop, operate, and maintain a portion of AOL's nationwide, high-speed, dial-up network. In October 1996, AOL and the Company significantly expanded this relationship by signing a four year replacement agreement under which BBN will continue to develop, operate, and maintain a significant portion of AOLOs network. The new contract, valued at $340 million, provides for cost recovery on a per modem basis within an agreed upon range, plus a fee consistent with cost reimbursement contracts. The contract provides that BBN and AOL will share equally in cost reductions below a minimum specified cost per modem while in certain circumstances cost per modem above a specified maximum will be the responsibility of BBN. As with the original agreement, the replacement agreement includes substantial pass-through costs to BBN, primarily for telecommunications circuits. As part of BBN's agreement with AOL, the Company has access to use certain capacity of the portion of the network operated by BBN CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) BBN Planet (continued) - ---------------------- BBN, and BBN has the right to resell a portion of such capacity. BBN uses this network capacity, the availability of which is currently limited primarily to business hours, as the basis for its own bulk dial-up service for business users. In FY1995, BBN and AT&T entered into a strategic relationship under which BBN is the exclusive provider for a period of up to three years of dedicated Internet access and managed network security services to AT&T for resale to customers of AT&T's Business Communications Services division in the United States. AT&T has agreed to purchase a minimum of $120 million of services during the first three years of the agreement. During the first year of the agreement ending August 31, 1996, AT&T met its first year minimum commitment of $20 million, accounting for a substantial portion of BBN PlanetOs new high- speed connections orders. It is anticipated that the number of new AT&T- related connections will continue to be a substantial portion of BBN PlanetOs total new connections. AT&T activity is expected to constitute a higher proportion of BBN PlanetOs revenue during the current fiscal year. BBN Planet has experienced significant revenue growth and incurred substantial operating losses. The Company expects continued revenue growth in BBN Planet, and it expects to incur substantial operating losses in FY1997 primarily as a result of its continued investment in Internet network infrastructure, sales and marketing, and the development of new value-added services. The Company expects that the success of BBN Planet will depend upon a number of factors, including the development and expansion of the market for Internet access services and products, and of the networks which comprise the Internet; the ability of the Company to continue and expand its current relationships with AOL and AT&T and develop additional strategic relationships; the capacity, reliability, cost, and security of its network infrastructure; its ability to finance expansion and upgrade of its network infrastructure; its ability to develop price competitive services that meet changing customer requirements or acquire rights to such products and services from other providers; its ability to compete with larger competitors, including telecommunications companies with greater resources and existing customer relationships and with installed infrastructure and other compatible service offerings; its ability on a timely basis to attract and retain additional highly qualified management, technical, marketing, and sales personnel; its ability to manage its growth; and its ability to improve its overall margins through improved operating efficiencies and an increase in the value-added services portion of its revenues. BBN CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) BBN Systems and Technologies - ---------------------------- Three Months Ended September 30, ------------------------------------ 1996 1995 ----------------- ---------------- (dollars in millions) $ % $ % ------- ------- ------- ------- Revenue $ 42.0 100% $ 39.7 100% Costs and expenses: Cost of revenue 31.4 75% 27.6 70% Research and development 1.6 4% 1.6 4% Selling, general and administrative 8.9 21% 8.9 22% ------- ------- ------- ------- Income from operations $ 0.1 - $ 1.6 4% ======= ======= ======= ======= The Company, through its BBN Systems and Technologies business unit, has historically derived the majority of its revenue from contracts and subcontracts with the U.S. government. BBN Systems and Technologies currently derives approximately 80% of its revenues from the U.S. Government and its agencies, particularly the Department of Defense. In recent years, the CompanyOs business with the Department of Defense has been adversely affected by significant changes in defense spending. Overall defense budgets have been declining, and it is expected that this general decline and attendant increased competition within the consolidating defense industry will continue over the next several years. Further, funding limitations could result in reduction, delay, or cancellation of existing or emerging programs. Although U.S. government revenue modestly increased in FY1996 compared to FY1995, and for the quarter ended September 30, 1996 compared to the comparable quarter ended September 30, 1995, there can be no assurance that such increases will continue in the future. The Company anticipates that competition in all defense-related areas will continue to be intense and accordingly, that there will be continued significant competitive pressure to lower prices, which may reduce profitability in this area of the Company's business. For the past several years, BBN has provided network systems and services to the Department of Defense, including to the Defense Data Network ("DDN"). The Company's multi-year contract to support the DDN expired in April 1996. The Company has been awarded a one-year extension of the contract to support the DDN, valued at approximately $10 million, which would continue the Company's existing activities for DDN through April 1997. However, this contract is terminable at the convenience of the U.S. government upon sixty days notice, and the Company expects that the U.S. government will exercise its right to terminate this contract prior to April 1997, following the commencement of operations under a follow-on contract for DDN (which has been awarded to another contractor), thereby discontinuing BBN's activities related to this contract. In recent years, the CompanyOs traditional commercial systems and products businesses, consisting principally of X.25 network systems and products, have reached maturity in their life cycles. BBN Systems and Technologies has been experiencing substantially lower revenue, and significantly reduced its development and selling efforts, for such X.25 network systems and products. BBN CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) Consolidated Results of Continuing Operations: Three months ended September 30, - ------------------------------------------------------------------------------- 1996 compared to the three months ended September 30, 1995 - ---------------------------------------------------------- Three Months Ended September 30, ------------------------------------ 1996 1995 ----------------- ---------------- (dollars in millions) $ % $ % ------- ------- ------- ------- Revenue $ 74.3 100% $ 50.2 100% Costs and expenses: Cost of revenue 61.4 83% 37.1 74% Research and development 3.2 4% 2.4 5% Selling, general and administrative 20.6 28% 17.6 35% ------- ------- ------- ------- Income from operations $(10.9) (15%) $ (6.9) (14%) ======= ======= ======= ======= Overview - -------- For the three months ended September 30, 1996, the Company's continuing operations reported an operating loss of $10.9 million, compared to an operating loss of $6.9 million for the three months ended September 30, 1995. The operating losses reflect continued investment in BBN Planet, including the upgrade and expansion of the CompanyOs network infrastructure, sales and marketing activities, and the development of new value-added Internet services. The Company is accelerating the expansion of its national backbone network and an upgrade of other parts of the network infrastructure for its Internet operations in order to meet increasing demand and to improve reliability. Additionally, the results of operations of BBN Systems and Technologies include operating losses of its commercial speech recognition activities of approximately $1.3 million and $1.1 million for the three month periods ended September 30, 1996 and 1995, respectively. The prior year first quarter results for BBN Systems and Technologies were also favorably impacted by a one time licensing agreement approximating $1.5 million. The loss from continuing operations, which includes interest and other income and expense, for the three months ended September 30, 1996 was $10.7 million compared to a loss from continuing operations for the three months ended September 30, 1995 of $4.4 million. The loss from continuing operations for the three months ended September 30, 1995 includes a tax benefit of $2.0 million which represents the CompanyOs first quarter FY1996 benefit of utilizing its FY1996 losses to recover taxes paid in FY1995. There is no tax benefit in the current year since the loss carrybacks were fully utilized in FY1996. The Company expects that it will incur substantial operating losses in fiscal 1997 as it continues to invest in BBN Planet's Internet-related business. BBN CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) Revenue - ------- Revenue for the three months ended September 30, 1996 increased $24.1 million or 48% to $74.3 million, compared to $50.2 million for the three months ended September 30, 1995. The increase in the first quarter of FY1997 compared to the prior yearOs first quarter relates primarily to BBN Planet, which reported first quarter FY1997 revenue of $32.7 million compared to $10.7 million for the first quarter of FY1996, an increase of over 200%. Approximately one-half of the increased BBN Planet revenue relates to the AOL network management contract. BBN Planet revenue includes substantial pass- through costs to BBN for telecommunications circuits and services. Additionally, BBN Systems and Technologies revenue increased approximately $2.3 million or 6% in the first quarter of FY1997 compared to the first quarter of FY1996. Cost of Revenue - --------------- Cost of revenue increased to 83% for the three months ended September 30, 1996 compared to 74% in the comparable three month period ended September 30, 1995. The increase in the cost of revenue percentage is principally related to lower margins on increased Internet services revenue. Internet services revenue was 44% of consolidated revenue in the first quarter of FY1997 compared to 21% in the prior yearOs first quarter. Cost of revenue for Internet services consists of telecommunications circuit and services costs, labor and expenses of operating the network infrastructure and supporting customers, and the depreciation of network equipment. The increased cost of revenue percentage in the Company's Internet related business reflects lower margin revenue associated with the build-out of the dial-up network for AOL, the upgrade and expansion of the Company's network infrastructure, and resulting lower network utilization. Effective July 1, 1996, the Company revised its estimate of the useful life of certain data communications equipment from three to five years to better reflect the useful service period of the related equipment. The change had the effect of reducing depreciation expense and the loss from continuing operations by approximately $400,000. The cost of revenue percentage for the first quarter of FY1996 was favorably impacted by a one-time licensing fee of approximately $1.5 million recognized by BBN Systems and Technologies. Research and Development Expenses - --------------------------------- Research and development expenses for the three months ended September 30, 1996 were $3.2 million compared to $2.4 million for the three months ended September 30, 1995. The increase for the FY1997 first quarter period was primarily associated with the development of Internet-related products and services at BBN Planet. Selling, General, and Administrative Expenses - --------------------------------------------- Selling, general, and administrative expenses for the three months ended September 30, 1996 increased $3.0 million from the comparable three month period ended September 30, 1995. As a percentage of revenue, selling, general, and administrative expenses decreased to 28% of revenue in the first quarter of FY1997 from 35% of revenue for the first quarter of FY1996. The dollar increase in the FY1997 first quarter period reflects the Company's increasing investment during FY1996 in the sales and marketing infrastructure BBN CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) including expansion of indirect sales channels, advertising costs, and other promotional activities primarily at BBN Planet. As a percentage of revenue, the percentage decrease is indicative of the significantly higher period to period revenue growth of 48% compared to the 17% growth in selling, general, and administrative costs. Interest Income and Expense - --------------------------- Interest income for the three months ended September 30, 1996 was approximately the same as compared with the three months ended September 30, 1995, as a result of comparable levels of invested cash balances during the respective three month periods. Interest expense was $1.4 million for the three months ended September 30, 1996 compared to $1.1 million for the three months ended September 30, 1995. The increase relates to interest expense associated with capital leases entered into during the fourth quarter of FY1996. Income Taxes - ------------ There is no income tax benefit for the three months ended September 30, 1996, compared to a $2.0 million income tax benefit for the three-month period ended September 30, 1995, representing the first quarter benefit reflected in the FY1996 period of utilizing its FY1996 losses to recover taxes paid in FY1995. There is no current year benefit since the loss carryback was fully utilized in FY1996. Liquidity and Capital Resources - ------------------------------- At September 30, 1996, the CompanyOs cash, cash equivalents, and short- term investments (which consisted primarily of investment funds, short-term U.S. government securities, and commercial paper) were $123.7 million, compared to $120.3 million at June 30, 1996. The increase is primarily attributable to the net proceeds from the divestiture of BBN Domain of $36 million partially offset by $16.3 million used by operations, $9.9 million used for capital expenditures, both primarily at BBN Planet, and in August 1996, a $5 million investment for a 12.5% ownership stake in a joint venture with Andersen Consulting LLP aimed at exploring and developing opportunities in the Internet market. Changes in cash balances due to fluctuation in foreign exchange rates were insignificant. Accrued restructuring costs of $7.1 million relates to the Company's FY1993 downsizing and represents excess facilities costs under long-term leases in excess of sublease income. These costs are anticipated to be liquidated in varying amounts through 2005. The Company has sublet or assigned certain of its excess facilities under agreements with terms expiring between 1998 and 2005. In April 1996, the Company entered into a capital lease agreement to finance certain equipment acquisitions. The principal portion of the lease payments for the three months ended September 30, 1996 was approximately $1.0 million. BBN CORPORATION MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) The Company's capital requirements which include the costs for the upgrade and expansion of its Internet network infrastructure, for further investments in working capital, other capital equipment, and selling and marketing infrastructure, and for pursuing potential investments, acquisitions, and other expansion opportunities, are expected to be significant. The Company believes that existing cash balances are adequate to meet its requirements through FY1997. The Company expects that it will need to raise additional funds through public or private debt or equity financings in order to execute its strategy. The Company's ability to raise such funds, if required, will be dependent on, among other things, its ability to execute its business plan and the availability of such funds within the capital markets. There can be no assurance that any such funding will be available, or of the terms or timing of any such funding. Currently, the Company does not have any bank lines of credit. PART II. OTHER INFORMATION BBN CORPORATION Item 4. Submission of Matters to a Vote of Security Holders At the annual meeting of shareholders of the Company held on November 6, 1996, the shareholders authorized the following proposals by the vote as noted: Number of Shares Voted ----------------------- Proposal For Withheld -------- ---------- ---------- Election as Director of George H. Conrades 16,322,486 325,419 Election as Director of Stephen R. Levy 16,311,127 336,778 Abstain or For Against Not Voting ---------- ---------- ---------- To amend the Company's 1986 Stock Incentive Plan relative to increase in shares 13,957,138 2,456,033 234,734 Ratification of Coopers & Lybrand L.L.P. as auditors 16,503,878 83,438 60,589 Item 6. Exhibits and Reports on Form 8-K (a) Exhibits: 11.1 Computation of Net Loss Per Share 27.1 Financial Data Schedule (b) Reports on Form 8-K for the quarter ended September 30, 1996 filed by the Registrant were as follows: 1. The Registrant filed a Current Report on Form 8-K dated July 31, 1996 with the Securities and Exchange Commission on August 14, 1996 reporting on the disposition of assets of BBN Domain on July 31, 1996. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the company has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. BBN Corporation By ----------------------------------------- Paul F. Brauneis Vice President and Corporate Controller Date: November 14, 1996 BBN CORPORATION LIST OF EXHIBITS 11.1 Computation of Net Loss Per Share (page 18) 27.1 Financial Data Schedule (page 19)