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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2001
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
EXCHANGE ACT OF 1934
Commission file number 0-27231
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WIRELESS FACILITIES, INC.
(Exact name of Registrant as specified in its charter)
Delaware 13-3818604
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
4810 Eastgate Mall
San Diego, CA 92121
(858) 228-2000
(Address, including zip code, and telephone number, including
area code, of Registrant's principal executive offices)
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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 [_]
As of August 2, 2001 there were 45,198,077 shares of the Registrant's
$0.001 par value Common Stock outstanding.
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WIRELESS FACILITIES, INC.
FORM 10-Q
FOR THE QUARTER ENDED JUNE 30, 2001
INDEX
Page
No.
----
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements........................................... 3
Consolidated Balance Sheets as of December 31, 2000 and June
30, 2001 (unaudited).......................................... 3
Consolidated Statements of Operations for the Three and Six
Months Ended June 30, 2000 and 2001 (unaudited)............... 4
Consolidated Statements of Cash Flows for the Six Months Ended
June 30, 2000 and 2001 (unaudited)............................ 5
Notes to Consolidated Financial Statements (unaudited)......... 6
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations......................................... 10
Item 3. Quantitative and Qualitative Disclosures About Market Risk..... 24
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.............................................. 25
Item 2. Changes in Securities and Use of Proceeds...................... 25
Item 4. Submission of Matters to a Vote of Security Holders............ 25
Item 6. Exhibits and Reports on Form 8-K............................... 26
2
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
WIRELESS FACILITIES, INC.
CONSOLIDATED BALANCE SHEETS
(in millions, except par value)
December 31, June 30,
2000 2001
------------ -----------
(unaudited)
ASSETS
Current assets:
Cash and cash equivalents........................... $ 18.5 $ 8.2
Accounts receivable, net............................ 119.1 83.0
Contract management receivables..................... 20.8 17.3
Income taxes receivable............................. 12.7 13.9
Net deferred income tax assets...................... -- 8.2
Other current assets................................ 14.3 22.0
------ ------
Total current assets.............................. 185.4 152.6
Property and equipment, net........................... 20.0 20.7
Goodwill, net......................................... 64.7 61.8
Other intangibles, net................................ 17.1 10.4
Investments in unconsolidated affiliates.............. 9.2 8.6
Other assets.......................................... 0.7 1.4
------ ------
Total assets...................................... $297.1 $255.5
====== ======
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable.................................... $ 15.1 $ 23.0
Accrued expenses.................................... 17.6 7.9
Contract management payables........................ 9.2 7.4
Billings in excess of costs and profits............. 0.9 1.6
Line of credit payable.............................. 24.9 23.0
Notes payable--current portion...................... 1.7 0.2
Capital lease obligation--current portion........... 3.5 4.2
Net deferred income tax liabilities................. 8.8 --
------ ------
Total current liabilities......................... 81.7 67.3
Notes payable--net of current portion................. 0.6 0.5
Capital lease obligation--net of current portion...... 7.0 6.2
Common stock to be issued............................. 8.6 10.5
Other liabilities..................................... 0.5 4.0
------ ------
Total liabilities................................. 98.4 88.5
------ ------
Minority interest in subsidiary....................... 0.1 0.1
------ ------
Stockholders' equity:
Common stock, $0.001 par value, 195.0 shares
authorized; 43.3 and 45.2 shares issued and
outstanding at December 31, 2000 and June 30, 2001
(unaudited), respectively.......................... -- --
Additional paid-in capital.......................... 156.9 170.5
Retained earnings (accumulated deficit)............. 43.0 (3.8)
Accumulated other comprehensive (loss) income....... (1.3) 0.2
------ ------
Total stockholders' equity........................ 198.6 166.9
------ ------
Total liabilities and stockholders' equity........ $297.1 $255.5
====== ======
See accompanying notes to unaudited consolidated financial statements.
3
WIRELESS FACILITIES, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(in millions, except per share amounts)
Three months ended Six months ended
June 30, June 30,
------------------- ------------------
2000 2001 2000 2001
--------- --------- -------- --------
Revenues.............................. $ 59.4 $ 54.7 $ 102.8 $ 107.4
Cost of revenues...................... 33.0 32.5 58.4 71.6
-------- --------- -------- --------
Gross profit...................... 26.4 22.2 44.4 35.8
Selling, general and administrative
expenses............................. 11.7 40.3 19.3 70.6
Depreciation and amortization......... 1.9 5.5 3.0 10.9
Asset impairment charges.............. -- 12.9 -- 12.9
-------- --------- -------- --------
Operating income (loss)........... 12.8 (36.5) 22.1 (58.6)
-------- --------- -------- --------
Other income (expense):
Interest income..................... 0.6 0.2 1.5 0.4
Interest expense.................... (0.5) (1.0) (0.7) (2.1)
Foreign currency gain (loss)........ 0.3 (1.8) 0.1 (2.1)
Other............................... 0.1 0.2 0.1 (0.8)
-------- --------- -------- --------
Net other income (expense)........ 0.5 (2.4) 1.0 (4.6)
-------- --------- -------- --------
Income (loss) before income taxes
and minority interest in income
of subsidiary.................... 13.3 (38.9) 23.1 (63.2)
Provision (benefit) for income taxes.. 5.3 (0.6) 9.2 (16.4)
Minority interest in income of
subsidiary........................... 0.1 -- 0.2 --
-------- --------- -------- --------
Net income (loss)................. $ 7.9 $ (38.3) $ 13.7 $ (46.8)
======== ========= ======== ========
Net income (loss) per common share:
Basic............................... $ 0.19 $ (0.87) $ 0.34 $ (1.05)
Diluted............................. $ 0.16 $ (0.87) $ 0.28 $ (1.05)
Weighted average common shares
outstanding:
Basic............................... 41.3 44.1 40.9 44.7
Diluted............................. 50.1 44.1 49.5 44.7
See accompanying notes to unaudited consolidated financial statements.
4
WIRELESS FACILITIES, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(in millions)
Six months ended
June 30,
------------------
2000 2001
-------- --------
Net cash used in operating activities....................... $ (17.8) $ (7.3)
-------- --------
Investing activities:
Capital expenditures...................................... (1.0) (2.7)
Cash paid for acquisitions, net of cash acquired.......... (18.1) --
Cash paid for investments................................. (4.0) --
Proceeds from sales of investments........................ 26.0 --
-------- --------
Net cash provided by (used in) investing activities..... 2.9 (2.7)
-------- --------
Financing activities:
Proceeds from issuance of common stock.................... 5.0 4.9
Repayment of notes payable................................ (0.3) (1.6)
Net borrowing (repayment) under line of credit............ 13.6 (1.9)
Repayment of capital lease obligation..................... (0.3) (2.9)
-------- --------
Net cash provided by (used in) financing activities..... 18.0 (1.5)
-------- --------
Effect of exchange rate on cash and cash equivalents........ (0.3) 1.2
-------- --------
Net increase (decrease) in cash and cash equivalents........ 2.8 (10.3)
Cash and cash equivalents at beginning of period............ 34.3 18.5
-------- --------
Cash and cash equivalents at end of period.................. $ 37.1 $ 8.2
======== ========
Supplemental disclosures of noncash transactions:
Fair value of assets acquired in acquisitions............. $ 57.2 $ --
Issuance of common stock for acquisitions................. (26.5) --
Cash paid for acquisitions................................ (22.1) --
-------- --------
Liabilities assumed in acquisitions....................... $ 8.6 $ --
======== ========
Common stock issued for earn out provision in
acquisition.............................................. $ -- $ 8.7
Common stock issued under a cashless exercise of
warrants................................................. $ 0.2 $ --
Note receivable issued for sale of equipment.............. $ -- $ 1.0
Property and equipment acquired under capital leases...... $ 3.7 $ 2.8
Reduction of accounts receivable in exchange for notes
receivable............................................... $ -- $ 1.4
Reduction of note payable in lieu of consideration for
exercise of warrants..................................... $ 0.5 $ --
Supplemental disclosure of cash flow information:
Cash paid during the period for interest.................. $ 0.4 $ 2.1
Net cash paid (received) during the period for income
taxes.................................................... $ 6.7 $ (4.2)
See accompanying notes to unaudited consolidated financial statements.
5
WIRELESS FACILITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
(1) Organization and Summary of Significant Accounting Policies
(a) Description of Business
Wireless Facilities, Inc. ("WFI") was formed in the state of New York on
December 19, 1994, began operations in March 1995 and was reincorporated in
Delaware in 1998. WFI provides a full suite of outsourcing services to
wireless carriers and equipment vendors, including the design, deployment and
management of client networks. WFI's customers include both early-stage and
mature providers of cellular, PCS and broadband data services and equipment.
WFI's engagements range from small contracts for the deployment of a single
cell site, to large multi-year turnkey contracts. These services are billed
either on a time and materials basis or on a fixed price, time certain basis.
(b) Basis of Presentation
The information as of June 30, 2001, and for the three and six month
periods ended June 30, 2000 and 2001 is unaudited. In the opinion of
management, these consolidated financial statements include all adjustments,
consisting of normal recurring adjustments, necessary for a fair presentation
of the results of operations for the interim periods presented. Interim
operating results are not necessarily indicative of operating results expected
in subsequent periods or for the year as a whole. These consolidated financial
statements should be read in conjunction with the consolidated financial
statements and the related notes included in WFI's annual consolidated
financial statements for the fiscal year ended December 31, 2000, filed on
Form 10-K with the Securities and Exchange Commission.
The consolidated financial statements include the accounts of WFI and its
wholly-owned and majority-owned subsidiaries. WFI and its subsidiaries are
collectively referred to herein as the "Company." All intercompany
transactions have been eliminated in consolidation. Investments accounted for
using the cost method include companies in which the Company owns less than
20% and for which the Company has no significant influence. Investments
accounted for using the equity method include companies in which the Company
owns more than 20% but less than 50%, or for which the Company is considered
to have significant influence.
(c) Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America require
management to make estimates and assumptions that affect the reported amounts
of assets and liabilities and disclosure of contingent assets and liabilities
at the date of the financial statements and the reported amounts of revenues
and expenses during the reporting period. Actual results could differ from
those estimates.
(d) Reclassifications
Certain prior period amounts have been reclassified to conform with the
current period presentation.
(e) New Accounting Pronouncements
In July 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 141 (SFAS No. 141), "Business
Combinations", and Statement No. 142 (SFAS No. 142), "Goodwill and Other
Intangible Assets". SFAS 141 supersedes APB Opinion No. 16, "Business
6
WIRELESS FACILITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Combinations" and SFAS No. 38, "Accounting for Preacquisition Contingencies of
Purchases Enterprises" and eliminates pooling-of-interests accounting
prospectively. SFAS No. 141 is required to be adopted for all business
combinations initiated after June 30, 2001. SFAS No. 142 supersedes APB
Opinion No. 17, "Intangible Assets" and changes the accounting for goodwill
from an amortization method to an impairment-only approach. Under SFAS No.
142, goodwill will be tested annually and whenever events or circumstances
occur indicating that goodwill might be impaired. The provisions of SFAS No.
142 are required to be applied starting with fiscal years beginning after
December 15, 2001. Upon adoption of SFAS No. 142, amortization of goodwill
recorded for business combinations consummated prior to July 1, 2001 will
cease, and intangible assets acquired prior to July 1, 2001 that do not meet
the criteria for recognition under SFAS 141 will be reclassified to goodwill.
The Company will adopt SFAS No. 141 immediately with regard to business
combinations initiated after June 30, 2001 and SFAS No. 142 on January 1,
2002, upon which time the Company will cease amortizing goodwill and
separately identifiable intangibles in accordance with the guidelines set
forth in the standard. As of the date of adoption, the Company expects
remaining unamortized goodwill and unamortized other intangible assets to be
approximately $56.9 million and $8.3 million, respectively, all of which will
be subject to the transition guidelines of SFAS No. 142. The Company is
currently evaluating the impact these standards will have on its results of
operations and financial position.
(2) Asset Impairment Charges
As required by SFAS No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of", the Company reviews long-
lived assets and intangibles for impairment when events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. The recent slowdown in the economy, current economic conditions
and visible trends in the telecommunications industry, triggered an impairment
evaluation by the Company of its goodwill and other intangible assets. Based
on the Company's analyses of the results of operations and projected future
cash flows associated with certain goodwill and other intangible assets, the
Company determined that impairment existed. Accordingly, the Company recorded
a $12.9 million impairment charge in the second quarter of 2001 determined as
the amount by which the carrying amount of the assets exceeded the present
value of the estimated future cash flows. Assets determined to be impaired
include goodwill and contract and workforce intangibles approximating $8.2
million in the Company's design and deployment segment and $4.7 million in its
network management segment. The Company does not believe these write-downs
will impair or affect the Company's ongoing operations.
(3) Earn-out on Davis Bay, LLC Acquisition
In June of 2000, the Company acquired the assets of Davis Bay, LLC, a
Washington State limited liability company, for $3.0 million in cash and
stock. Of the total purchase price, $2.4 million was paid through the issuance
of approximately 49,000 shares of the Company's common stock. Included in the
asset purchase agreement is an earn-out provision whereby the Company agrees
to pay Davis Bay's selling shareholders additional consideration contingent on
certain quarterly earnings results from existing and potential future
contracts secured by Davis Bay for the Company. These earn-out payments are
capped at $20.0 million. During the six months ended June 30, 2001, $10.5
million in additional goodwill was recorded under the earn-out provision,
bringing the total earn-out up to the $20.0 million allowed under the
contract. Additionally, the estimated liability of common stock to be issued
related to the earn-out agreement is $10.5 million as of June 30, 2001.
(4) Recent Event with Significant Customer
As a result of Metricom, Inc.'s filing for bankruptcy protection on July 2,
2001, the Company recorded an allowance for the entire receivable balance of
$13.9 million due from Metricom, Inc., in the quarter ended
7
WIRELESS FACILITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
June 30, 2001. The Company announced in February 2001 that Metricom, which
abandoned plans for a national rollout of its "Ricochet" wireless modem
service, had suspended its contract with the Company for engineering services.
(5) Net Income (Loss) Per Common Share
The Company calculates net income (loss) per share in accordance with SFAS
No. 128, "Earnings Per Share". Under SFAS No. 128, basic net income (loss) per
common share is calculated by dividing net income (loss) by the weighted-
average number of common shares outstanding during the reporting period.
Diluted net income (loss) per common share reflects the effects of potentially
dilutive securities. Weighted average shares used to compute net income (loss)
per share are presented below (in millions):
Three months ended Six months ended
June 30, June 30,
------------------- -----------------
2000 2001 2000 2001
--------- --------- -------- --------
Weighted-average shares, basic........... 41.3 44.1 40.9 44.7
Dilutive effect of stock options......... 7.8 -- 7.6 --
Dilutive effect of warrants.............. 1.0 -- 1.0 --
--------- --------- -------- --------
Weighted-average shares, diluted......... 50.1 44.1 49.5 44.7
========= ========= ======== ========
Options to purchase .6 million and 5.7 million shares of common stock for
the three months ended June 30, 2000 and 2001, respectively, were not included
in the calculation of diluted net income (loss) per share because the effect
of these instruments was anti-dilutive. Options to purchase .3 million and 6.2
million shares of common stock for the six months ended June 30, 2000 and
2001, respectively, were not included in the calculation of diluted net income
per share because the effect of these instruments was anti-dilutive.
(6) Segment Information
The Company's operations are organized along service lines and include
three reportable industry segments: Design and Deployment, Network Management,
and Business Consulting. Due to the nature of these services, the amount of
capital assets used in providing services to customers is not significant.
Revenues and operating income (loss) provided by the Company's industry
segments for the three and six months ended June 30, 2000 and 2001 are as
follows (in millions):
Three months ended Six months ended
June 30, June 30,
------------------ -----------------
2000 2001 2000 2001
------------------ -------- --------
Revenues:
Design and deployment.................. $ 51.7 $ 43.5 $ 91.8 $ 81.4
Network management..................... 5.5 9.0 7.9 22.1
Business consulting.................... 2.2 2.2 3.1 3.9
-------- --------- -------- --------
Total revenues....................... $ 59.4 $ 54.7 $ 102.8 $ 107.4
======== ========= ======== ========
Operating income (loss):
Design and deployment.................. $ 10.2 $ (27.7) $ 18.2 $ (45.6)
Network management..................... 1.6 (7.6) 2.5 (11.5)
Business consulting.................... 1.0 (1.2) 1.4 (1.5)
-------- --------- -------- --------
Total operating income (loss)........ $ 12.8 $ (36.5) $ 22.1 $ (58.6)
======== ========= ======== ========
8
WIRELESS FACILITIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Revenues derived by geographic region are as follows (in millions):
Three months ended Six months ended
June 30, June 30,
------------------- -----------------
2000 2001 2000 2001
--------- --------- -------- --------
Revenues:
U.S..................................... $44.6 $35.9 $ 76.1 $ 71.4
Central and South America............... 11.5 11.0 19.7 21.3
Europe, Middle East and Africa.......... 3.3 7.8 7.0 14.7
--------- --------- -------- --------
Total revenues........................ $59.4 $54.7 $102.8 $107.4
========= ========= ======== ========
(7) Subsequent Event
On July 19, 2001, the Company executed an amendment to its credit facility
which, among other items, changed the minimum EBITDA covenant to exclude
unusual charges up to a specified amount from the first and second quarters of
the Company's fiscal 2001 financial results.
9
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations ("MD&A")
This report contains forward-looking statements. These statements relate to
future events or our future financial performance. In some cases, you can
identify forward-looking statements by terminology such as "may," "will,"
"should," "expect," "plan," "anticipate," "believe," "estimate," "predict,"
"potential" or "continue," the negative of such terms or other comparable
terminology. These statements are only predictions. Actual events or results
may differ materially.
Although we believe that the expectations reflected in the forward-looking
statements are reasonable, we cannot guarantee future results, levels of
activity, performance or achievements. Moreover, neither we, nor any other
person, assumes responsibility for the accuracy and completeness of the
forward-looking statements. We are under no obligation to update any of the
forward-looking statements after the filing of this Quarterly Report on Form
10-Q to conform such statements to actual results or to changes in our
expectations.
The following discussion should be read in conjunction with our
consolidated financial statements and the related notes and other financial
information appearing elsewhere in this Form 10-Q. Readers are also urged to
carefully review and consider the various disclosures made by us which attempt
to advise interested parties of the factors which affect our business,
including without limitation to the disclosures made under the caption
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," under the caption "Risk Factors," and the audited consolidated
financial statements and related notes included in our Annual Report filed on
Form 10-K for the year ended December 31, 2000 and other reports and filings
made with the Securities and Exchange Commission.
Overview
Wireless Facilities, Inc. offers network business consulting, network
planning, design and deployment, and network operations and maintenance
services to the wireless telecommunications industry. For the six months ended
June 30, 2001, our consulting, design and deployment, and network management
segments contributed to 4%, 76% and 20% of our revenues, respectively. During
2000, we formed a subsidiary in the United Kingdom, Wireless Facilities
International, Ltd. ("WFIL"). WFIL began servicing existing contracts and
entering into new contracts in Europe, the Middle East and Africa ("EMEA") in
April 2000. These contracts include services performed for many of the latest
wireless technologies, including UMTS (Universal Mobile Telephone Service)
broadband wireless applications, and voice and video applications. Revenues
from our international operations contributed 34% of our total revenues for
the six months ended June 30, 2001.
Revenues from network planning, design and deployment contracts are
primarily fixed price contracts which are recognized using the percentage-of-
completion method. Under the percentage-of-completion method of accounting,
expenses on each project are recognized as incurred, and revenues are
recognized based on a comparison of the current costs incurred for the project
to date compared to the then estimated total costs of the project from start
to completion. Accordingly, revenue recognized in a given period depends on
the costs incurred on each individual project and the current estimate of the
total costs to complete a project, determined at that time. As a result, gross
margins for any single project may fluctuate from period to period. The full
amount of an estimated loss is charged to operations in the period it is
determined that a loss will be realized from the performance of a contract.
For business consulting, network planning, design and deployment contracts
offered on a time and expense basis, we recognize revenues as services are
performed. We typically charge a fixed monthly fee for ongoing radio frequency
optimization and network operations and maintenance services. With respect to
these services, we recognize revenue as services are performed.
Cost of revenues includes direct compensation and benefits, living and
travel expenses, payments to third-party sub-contractors, allocation of
overhead, costs of expendable computer software and equipment, and other
direct project-related expenses.
10
Selling, general and administrative expenses include compensation and
benefits, computer software and equipment, facilities expenses and other
expenses not related directly to projects. Our sales personnel have, as part
of their compensation package, incentives based on their productivity. As of
December 31, 2000, we had completed the first phase of implementing a new
financial management and accounting software program in our domestic
operations, and as of June 30, 2001, we had completed the same software
program implementation in Mexico and had started the initial phases in the
United Kingdom. Such software is expected to better accommodate our growth. We
expect to incur expenses in subsequent periods related to licensing the
software package and related personnel costs associated with completing its
implementation in our domestic and international operations. We may incur
expenses related to a given project in advance of the commencement of the
project as we increase our personnel to work on the project. New hires
typically undergo training on our systems and project management process prior
to being deployed on a project.
Due to the recent downturn in the financial markets in general, and
specifically within the telecommunications industry, many of our customers are
having trouble raising money in the capital markets to fund the expansion of
their businesses, including telecom network deployments and upgrades. The
current volatility of the financial markets and slowdown in the U.S. economy
has also intensified the uncertainty experienced by many of our customers, who
are finding it increasingly difficult to predict demand for their products and
services. As a result, many of our customers have and continue to slow and
postpone the deployment of new wireless networks and the development of new
technologies and products, which has reduced the demand for our services. Some
of our customers have recently cancelled or suspended their contracts with us
and many of our customers or potential customers have postponed entering into
new contracts for our services. For example, during the first quarter of 2001,
we announced that we received notice of contract suspension and termination
from Metricom, Inc. Also due to the difficult financing and economic
conditions, some of our customers may not be able to pay us for services that
we have already performed. If we are not able to collect amounts owed to us,
we may be required to write-off or convert significant amounts of our accounts
receivable. For example, two of our customers, Metricom, Inc. and Advanced
Radio Telecom filed for bankruptcy protection this year, causing us to
recognize bad debt expense of $3.5 million for Advanced Radio Telecom and
$13.9 million for Metricom, Inc. in the first and second quarters of fiscal
2001, respectively, which thereby negatively affected our profitability. Also,
some of our contracts with our customers include billing milestones, whereby
we do not bill for work performed until certain milestones are reached.
However, we recognize revenue under the percentage-of-completion method of
accounting. If a contract is terminated by a customer or modified before a
milestone is reached, we generally will be required to renegotiate the terms
of payment for work performed but not yet billed. As a result of the market
conditions described above, we began to experience this in the first half of
fiscal 2001 with a number of our contracts that contain billing milestones.
Due to the circumstances surrounding such cancellations or modifications and
the financial condition of the related customers, the amount we ultimately
collect from such customers may be, and often is, discounted from the amount
we have previously recorded in unbilled accounts receivable and revenue.
Because we are not able to reduce our costs as fast as our revenues may
decline, our costs as a percentage of revenues may increase and,
correspondingly, our net earnings may decline disproportionately to any
decreases in revenues. We have experienced this challenge particularly with
respect to managing our employee base, and this has resulted in
underutilization of employees due to the sudden reduction in the demand for
our services during the first and second quarters of fiscal 2001. In response
to these factors and the lack of visibility and uncertain market conditions,
we have taken steps and are continuing to take steps to reduce our level of
expenditures. Specifically, we have reduced our headcount by approximately
12.8% since December 31, 2000. We have also implemented a more stringent
expenditure approval policy, in an effort to further reduce our costs.
Additionally, we expect to continue to review our internal processes
throughout 2001 and make further adjustments as necessary.
Results of Operations
Comparison of Results for the Three Months Ended June 30, 2000 to the Three
Months Ended June 30, 2001
Revenues. Revenues decreased 8% from $59.4 million for the three months
ended June 30, 2000 to $54.7 million for the three months ended June 30, 2001.
The $4.7 million decrease was primarily attributable to
11
the termination of certain contracts partially offset by an increase resulting
from our expansion into international markets. Revenues from international
markets comprised 25% of our total revenues during the three months ended June
30, 2000, compared to 34% of our total revenues during the three month period
ended June 30, 2001.
Cost of Revenues. Cost of revenues decreased 2% from $33 million for the
three months ended June 30, 2000 to $32.5 million for the three months ended
June 30, 2001, primarily due to a corresponding reduction in contracts. Gross
profit was 44% of revenues for the three months ended June 30, 2000 compared
to 41% for the three months ended June 30, 2001. The decrease in gross profit
is due primarily to the effects of the recent decline in the economy and
specifically, in wireless telecommunications infrastructure spending, which
resulted in the suspension and termination of the Metricom, Inc. contract. The
sudden and unexpected loss of this customer caused the expected overall margin
on the related contract to decrease due to costs incurred to demobilize staff
as well as work performed on milestones that could not be completed and
billed. Additionally, we have experienced pressure associated with industry
price competition.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 244% from $11.7 million for the three months
ended June 30, 2000 to $40.3 million for the three months ended June 30, 2001.
As a percentage of revenues, selling, general and administrative expenses
increased from 20% for the three months ended June 30, 2000 to 74% for the
three months ended June 30, 2001. The increase was due primarily to higher
staffing levels and related costs to accommodate our growth, combined with the
recent downturn in the telecommunications industry, which resulted in lower
utilization rates, bad debt expense of $17.2 million which included a $13.9
million allowance for the entire receivable due from Metricom, Inc., and
certain unusual charges recorded in the second quarter of fiscal 2001. These
unusual charges included accruals for estimated contractor liability in our
Mexico subsidiary of $2.2 million and the estimated loss on our unused office
space of $1.4 million.
Depreciation and Amortization Expense. Depreciation and amortization
expense increased 189% from $1.9 million for the three months ended June 30,
2000 to $5.5 million for the three months ended June 30, 2001. The increase is
primarily due to amortization of goodwill and other identifiable intangibles
resulting from our acquisitions completed subsequent to June 30, 2000.
Asset Impairment Charges. For the second quarter of fiscal 2001, asset
impairment charges were $12.9 million, compared to no charge for the second
quarter of fiscal 2000. The recent slowdown in the economy, current economic
conditions and visible trends in the telecommunications industry, triggered an
impairment evaluation by the Company of its goodwill and other intangible
assets. Based on the Company's analyses of the results of operations and
projected future cash flows associated with certain goodwill and other
intangible assets, the Company determined that impairment existed.
Accordingly, the Company recorded a $12.9 million impairment charge in the
second quarter of 2001 determined as the amount by which the carrying amount
of the assets exceeded the present value of the estimated future cash flows.
Assets determined to be impaired include goodwill and contract and workforce
intangibles approximating $8.2 million in the Company's design and deployment
segment and $4.7 million in its network management segment. The Company does
not believe these write-downs will impair or affect the Company's ongoing
operations.
Net Other Income (Expense). For the three months ended June 30, 2000, net
other income was $0.5 million as compared to net other expense of $2.4 million
for the three months ended June 30, 2001. This $2.9 million increase in
expense was primarily attributable to higher interest expense resulting from
increased debt outstanding during the periods under comparison and higher
foreign currency transaction losses due to higher international operations
activity combined with foreign currency fluctuations.
Provision for Income Taxes. Our effective income tax rate decreased from
40% for the three months ended June 30, 2000, to 1.5% for the three months
ended June 30, 2001. The decrease was primarily attributable to a change in
projected earnings combined with an increase in the valuation allowance on the
losses from certain foreign operations. The net income tax benefit recognized
in the second quarter of fiscal 2001 included an adjustment to reflect the
change in the expected annual effective tax rate to 26% from the 65% rate
estimated in the first quarter of fiscal 2001. The difference in the tax rate
was primarily due to the effect of certain asset impairment and bad debt
charges recorded in the second quarter of fiscal 2001.
12
Comparison of Results for the Six Months Ended June 30, 2000 to the Six
Months Ended June 30, 2001
Revenues. Revenues increased 4% from $102.8 million for the six months
ended June 30, 2000 to $107.4 million for the six months ended June 30, 2001.
The $4.6 million increase was primarily attributable to our expansion into
international markets. Revenues from international markets comprised 26% of
our total revenues during the six months ended June 30, 2000, compared to 34%
of our total revenues during the six month period ended June 30, 2001.
Cost of Revenues. Cost of revenues increased 23% from $58.4 million for the
six months ended June 30, 2000 to $71.6 million for the six months ended June
30, 2001, primarily due to higher staffing in support of contracts. Gross
profit was 43% of revenues for the six months ended June 30, 2000, compared to
33% for the six months ended June 30, 2001. The decline in gross profit is
primarily attributable to the recent decline in the economy and specifically,
in wireless telecommunications infrastructure spending which resulted in the
suspension and termination of our contracts with Metricom, Inc. and Advanced
Radio Telecom. The sudden and unexpected loss of these customers caused the
expected overall margin on the related contracts to decrease and therefore a
cumulative entry was recorded in the first half of fiscal 2001 to adjust the
margin recorded to date to the expected final margin on the contracts. Gross
profit also decreased due to costs incurred to demobilize staff as well as
work performed on milestones that could not be completed and billed.
Additionally, we have begun to experience pressure associated with industry
price competition.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased 266% from $19.3 million for the six months
ended June 30, 2000 to $70.6 million for the six months ended June 30, 2001.
As a percentage of revenues, selling, general and administrative expenses
increased from 19% for the six months ended June 30, 2000 to 66% for the six
months ended June 30, 2001. The increase is due primarily to higher staffing
levels and related costs to accommodate our growth, combined with the recent
downturn in the telecommunications industry, which resulted in lower
utilization rates. Additionally, bad debt expense of $21.2 million which
included allowances for receivables due from Metricom, Inc. of $13.9 million
and Advanced Radio Telecom of $3.5 million, and certain unusual charges were
recorded during the six months ended June 30, 2001. These unusual charges
included accruals for estimated contractor liability in our Mexico subsidiary
of $2.2 million and the estimated loss on unused office space of $1.4 million.
Depreciation and Amortization Expense. Depreciation and amortization
expense increased 263% from $3.0 million for the six months ended June 30,
2000 to $10.9 million for the six months ended June 30, 2001. The increase is
primarily due to the amortization of goodwill and other identifiable
intangibles resulting from our acquisitions completed subsequent to June 30,
2000.
Asset Impairment Charges. For the six months ended June 30, 2001, asset
impairment charges were $12.9 million, compared to no charge for the six
months ended June 30, 2000. The recent slowdown in the economy, current
economic conditions and visible trends in the telecommunications industry,
triggered an impairment evaluation by the Company of its goodwill and other
intangible assets. Based on the Company's analyses of the results of
operations and projected future cash flows associated with certain goodwill
and other intangible assets, the Company determined that impairment existed.
Accordingly, the Company recorded a $12.9 million impairment charge in the
second quarter of 2001 determined as the amount by which the carrying amount
of the assets exceeded the present value of the estimated future cash flows.
Assets determined to be impaired include goodwill and contract and workforce
intangibles approximating $8.2 million in the Company's design and deployment
segment and $4.7 million in its network management segment. The Company does
not believe these write-downs will impair or affect the Company's ongoing
operations.
Net Other Income (Expense). For the six months ended June 30, 2000, net
other income was $1.0 million compared to net other expense of $4.6 million
for the six months ended June 30, 2001. This increase in expense of
$5.6 million was primarily attributable to higher interest expense resulting
from increased debt outstanding during the periods under comparison, higher
foreign currency transaction losses due to higher international activity
combined with foreign currency fluctuations during the six months ended June
30, 2001, and the realized loss on available-for-sale investment securities
related to the bankruptcy filing of Advanced Radio Telecom which was recorded
in the first quarter of fiscal 2001.
13
Provision for Income Taxes. Our effective income tax rate decreased from
40% for the six months ended June 30, 2000, to 26% for the six months ended
June 30, 2001. The decrease was primarily attributable to a change in
projected earnings which included the effect of certain asset impairment and
bad debt charges recorded through the six months ended June 30, 2001, combined
with an increase in the valuation allowance on the losses from certain foreign
operations.
Earn-out on Davis Bay, LLC Acquisition
In June of 2000, the Company acquired the assets of Davis Bay, LLC, a
Washington State limited liability company, for $3.0 million in cash and
stock. Of the total purchase price, $2.4 million was paid through the issuance
of approximately 49,000 shares of the Company's common stock. Included in the
asset purchase agreement is an earn-out provision whereby the Company agrees
to pay Davis Bay's selling shareholders additional consideration contingent on
certain quarterly earnings results from existing and potential future
contracts secured by Davis Bay for the Company. These earn-out payments are
capped at $20.0 million. During the six months ended June 30, 2001, $10.5
million in additional goodwill was recorded under the earn-out provision,
bringing the total earn-out up to the $20.0 million allowed under the
contract. Additionally, the estimated liability of common stock to be issued
related to the earn-out agreement is $10.5 million as of June 30, 2001.
New Accounting Pronouncements
In July 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 141 (SFAS No. 141), "Business
Combinations", and Statement No. 142 (SFAS No. 142), "Goodwill and Other
Intangible Assets". SFAS 141 supersedes APB Opinion No. 16, "Business
Combinations" and SFAS No. 38, "Accounting for Preacquisition Contingencies of
Purchases Enterprises" and eliminates pooling-of-interests accounting
prospectively. SFAS No. 141 is required to be adopted for all business
combinations initiated after June 30, 2001. SFAS No. 142 supersedes APB
Opinion No. 17, "Intangible Assets" and changes the accounting for goodwill
from an amortization method to an impairment-only approach. Under SFAS No.
142, goodwill will be tested annually and whenever events or circumstances
occur indicating that goodwill might be impaired. The provisions of SFAS No.
142 are required to be applied starting with fiscal years beginning after
December 15, 2001. Upon adoption of SFAS No. 142, amortization of goodwill
recorded for business combinations consummated prior to July 1, 2001 will
cease, and intangible assets acquired prior to July 1, 2001 that do not meet
the criteria for recognition under SFAS 141 will be reclassified to goodwill.
The Company will adopt SFAS No. 141 immediately with regard to business
combinations initiated after July 1, 2001 and SFAS No. 142 on January 1, 2002,
upon which time the Company will cease amortizing goodwill and separately
identifiable intangibles in accordance with the guidelines set forth in the
standard. As of the date of adoption, the Company expects remaining
unamortized goodwill and unamortized other intangible assets to be
approximately $56.9 million and $8.3 million, respectively, all of which will
be subject to the transition guidelines of SFAS No. 142. The Company is
currently evaluating the impact these standards will have on its results of
operations and financial position.
Liquidity and Capital Resources
Our sources of cash liquidity included cash, cash from operations, amounts
available under credit facilities, and other external sources of funds. As of
June 30, 2001, we had cash of $8.2 million and $23.0 million outstanding on
our line of credit with a group of financial institutions.
Cash used in operations is primarily derived from our contracts in process
and changes in working capital. Cash used in operations was $17.8 million and
$7.3 million for the six months ended June 30, 2000 and 2001, respectively.
Cash provided by investing activities was $2.9 million for the six months
ended June 30, 2000. Cash used in investing activities was $2.7 million for
the six months ended June 30, 2001. Investing activities for the six
14
months ended June 30, 2000 consisted primarily of proceeds totaling $26
million received from sales of investments, partially offset by cash paid of
approximately $18.1 million for the acquisition of the assets from The Walter
Group, Inc., Comcor Advisory Services, Davis Bay and a network operations
center, and $4.0 million for an equity investment in Diverse Networks, Inc.
Investing activities for the six months ended June 30, 2001 consisted
primarily of capital expenditures.
Cash provided by financing activities for the six months ended June 30,
2000 was $18.0 million, which was primarily derived from net borrowings under
the line of credit of $13.6 million and sales of common stock issued through
our stock option and employee stock purchase plans of $5.0 million. Cash used
in financing activities was $1.5 million for the six months ended June 30,
2001 and consisted primarily of repayment of borrowings under our line of
credit, notes payable and capital lease obligations partially offset by
proceeds from the issuance of common stock.
At June 30, 2001, $23.0 million was outstanding under our line of credit
with a group of financial institutions. This credit facility is due on
February 2004 and bears interest, at our discretion, at either (i) the greater
of the bank prime rate or the Federal Funds Rate plus .5%, plus a margin of
1.25%, the ("base rate margin"), or (ii) at the London Interbank Offering Rate
("LIBOR") plus a margin of 2.25%, (the "LIBOR rate margin"). Beginning in the
third quarter of 2001, the base rate margin and the LIBOR rate margin are to
be determined based on certain financial ratios as of the end of the most
recently ended fiscal quarter which will result in margins ranging from .75%
to 1.50% and 1.75% to 2.50%, respectively. On July 19, 2001, we executed an
amendment to our credit facility which, among other items, changed the minimum
EBITDA covenant to exclude unusual charges up to a specified amount from the
first and second quarters of our fiscal 2001 financial results.
We have no material cash commitments other than obligations under our
credit facilities, promissory notes, and operating and capital leases. Future
capital requirements will depend upon many factors, including the timing of
payments under contracts and increases in personnel in advance of new
contracts.
15
Risk Factors That May Affect Results of Operations and Financial Condition
You should carefully consider the following risk factors and all other
information contained herein as well as the information included in our Annual
Report on Form 10-K for the year ended December 31, 2000, and other reports
and filings made with the Securities and Exchange Commission before investing
in our common stock. Investing in our common stock involves a high degree of
risk. Risks and uncertainties, in addition to those we describe below, that
are not presently known to us or that we currently believe are immaterial may
also impair our business operations. If any of the following risks occur, our
business could be harmed, the price of our common stock could decline and you
may lose all or part of your investment. See the note regarding
forward-looking statements included at the beginning of Item 2. Management's
Discussion and Analysis of Financial Condition and Results of Operations.
We expect our quarterly results to fluctuate. If we fail to meet earnings
estimates, our stock price could decline.
Our quarterly and annual operating results have fluctuated in the past and
will vary in the future due to a variety of factors, many of which are outside
of our control. The factors outside of our control include:
. telecom market conditions and economic conditions generally;
. the timing and size of network deployment by our carrier customers and
the timing and size of orders for network equipment built by our vendor
customers;
. fluctuations in demand for our services;
. the length of sales cycles;
. reductions in the prices of services offered by our competitors; and
. costs of integrating technologies or businesses.
The factors substantially within our control include:
. changes in the actual and estimated costs and timing to complete fixed-
price, time-certain projects;
. the timing of expansion into new markets, both domestically and
internationally; and
. the timing and payments associated with possible acquisitions.
Due to these factors, quarterly revenues, expenses and results of
operations have recently varied significantly and could continue to vary
significantly in the future. You should take these factors into account when
evaluating past periods, and, because of the potential variability due to
these factors, you should not rely upon results of past periods as an
indication of our future performance. In addition, we may from time to time
provide estimates of our future performance. Such estimates are inherently
uncertain and actual results are likely to deviate, perhaps substantially,
from such estimates as a result of the many risks and uncertainties in our
business, including those set forth in these risk factors. We undertake no
duty to update such estimates if given. In addition, the long-term viability
of our business could be negatively impacted if there were a sustained
downward trend in our revenues and results of operations. Because our
operating results may vary significantly from quarter to quarter based upon
the factors described above, results may not meet the expectations of
securities analysts and investors, and this could cause the price of our
common stock to decline significantly.
In recent months, we have experienced a negative impact to our earnings and
stock price as a result of the factors that may cause our quarterly results to
fluctuate. We expect that this negative trend may continue for the foreseeable
future, and at least through the third quarter of 2001. Due to the recent
downturn in the financial markets in general, and specifically the slowdown in
wireless telecommunications infrastructure spending, some of our customers
have cancelled or suspended their contracts with us and many of our customers
or potential customers have postponed entering into new contracts for our
services. The reduction in the availability of capital
16
has also delayed the completion of mergers contemplated by some of our
customers, which has resulted in project delays. In addition, unfavorable
economic conditions are causing some of our customers to take longer to pay us
for services we perform, increasing the average number of days that our sales
are outstanding. Also due to the difficult financing and economic conditions,
some of our customers may not be able to pay us for services that we have
already performed and two of our customers have filed for bankruptcy
protection in recent months. If we are not able to collect amounts due to us,
we may be required to write-off or convert significant amounts of our accounts
receivable. For example, Advanced Radio Telecom's filing for bankruptcy
protection caused us to recognize bad-debt expense of $3.5 million during the
first quarter of 2001 and Metricom, Inc.'s filing for bankruptcy protection
has caused us to recognize bad debt expense of $13.9 million for the entire
Metricom receivable during the second quarter of 2001. Because we are not able
to reduce our costs as fast as our revenues may decline, our costs as a
percentage of revenues may increase and, correspondingly, our net earnings may
decline disproportionately to any decrease in revenues. If we restructure our
business in an effort to minimize our expenses, we may incur associated
charges. As a result of these and other factors, it has become extremely
difficult to forecast our future revenues and earnings, and any predictions we
make are subject to significant change and are very uncertain.
Our success is dependent on the continued growth in the deployment of
wireless networks, and to the extent that such growth cannot be sustained our
business may be harmed.
The wireless telecom industry has historically experienced a dramatic rate
of growth both in the United States and internationally. Recently, however,
many telecom carriers have been re-evaluating their network deployment plans
in response to downturns in the capital markets, changing perceptions
regarding industry growth and the adoption of new wireless technologies, and a
general economic slowdown in the United States. It is difficult to predict
whether these changes will result in a sustained downturn in the telecom
industry. If the rate of growth continues to slow and carriers continue to
reduce their capital investments in wireless infrastructure or fail to expand
into new geographies, our business will be significantly harmed.
The uncertainty associated with rapidly changing telecommunications
technologies may also continue to negatively impact the rate of deployment of
wireless networks and the demand for our services. Telecommunications service
providers face significant challenges in assessing consumer demand and
acceptance of rapidly changing enhanced telecommunication capabilities. If
telecommunications service providers continue to perceive that the rate of
acceptance of next generation telecommunications products will grow more
slowly than previously expected, they may continue to slow their development
of next generation technologies. Any significant sustained slowdown will
further reduce the demand for our services and adversely affect our financial
results.
Our revenues will be negatively impacted if there are delays in the
deployment of new wireless networks.
A significant portion of our revenue is generated from new licensees
seeking to deploy their networks. To date, the pace of network deployment has
sometimes been slower than expected, due in part to difficulty experienced by
holders of licenses in raising the necessary financing, and there can be no
assurance that future bidders for licenses will not experience similar
difficulties. In addition, uncertainties regarding the availability and
allocation of spectrum have caused delays in network deployment. There has
also been substantial regulatory uncertainty regarding payments owed to the
United States Government by past successful wireless bidders, and such
uncertainty has also delayed network deployments. In addition, factors
adversely affecting the demand for wireless services, such as allegations of
health risks associated with the use of cellular phones, could slow or delay
the deployment of wireless networks. These factors, as well as future
legislation, delays in granting the use of spectrum by the United States
Government, legal decisions and regulation may slow or delay the deployment of
wireless networks, which, in turn, could harm our business.
If our customers do not receive sufficient financing, our business may be
seriously harmed.
Some of our customers and potential customers are companies with limited or
no operating histories and limited financial resources. These customers often
must obtain significant amounts of financing to pay for their
17
spectrum licenses, fund operations and deploy their networks. Other customers
of ours rely upon outside financing to pay the considerable costs of deploying
their networks. In either instance, we frequently work with such companies
prior to their receipt of financing. If these companies fail to receive
adequate financing or experience delays in receiving financing, particularly
after we have begun working with them, our results of operations may be
harmed. In addition, to the extent our customers continue to experience
capital constraints, they could place pressure on us to lower the prices we
charge for our services. If competitive pressures force us to make price
concessions or otherwise reduce prices for our services, then our revenues or
margins will decline and our results of operations may be harmed.
Our success is dependent on the continued trend toward outsourcing wireless
telecom services.
Our success is dependent on the continued trend by wireless carriers and
network equipment vendors to outsource for their network design, deployment
and management needs. If wireless carriers and network equipment vendors elect
to perform more network deployment services themselves, our revenues may
decline and our business would be harmed.
A loss of one or more of our key customers or delays in project timing for
such customers could cause a significant decrease in our net revenues.
We have derived, and believe that we will continue to derive, a significant
portion of our revenues from a limited number of customers. We anticipate that
our key customers will change in the future as current projects are completed
and new projects begin. The services required by any one customer can be
limited by a number of factors, including industry consolidation,
technological developments, economic slowdown and internal budget constraints.
None of our customers is obligated to purchase additional services and most of
our customer contracts can be terminated without cause or penalty by the
customer on notice to us of 90 days or less. As a result of these factors, the
volume of work performed for specific customers is likely to vary from period
to period, and a major customer in one period may not use our services in a
subsequent period. Accordingly, we cannot be certain that present or future
customers will not terminate their network service arrangements with us or
significantly reduce or delay their contracts.
The consolidation of equipment vendors or carriers could impact our business.
Recently, the wireless telecom industry has been characterized by
significant consolidation activity. This consolidation may lead to a greater
ability among equipment vendors and carriers to provide a full suite of
network services, and could simplify integration and installation, which may
lead to a reduction in demand for our services. Moreover, the consolidation of
equipment vendors or carriers could have the effect of reducing the number of
our current or potential customers, which could result in their increased
bargaining power. This potential increase in bargaining power could create
competitive pressures whereby a particular customer may request our
exclusivity with them in a particular market and put downward pressure on the
prices we charge for our services. Accordingly, we may not be able to
represent some customers who wish to retain our services.
We may not be able to hire and retain a sufficient number of qualified
engineers or other employees to sustain our growth, meet our contract
commitments or maintain the quality of our services.
To the extent we continue to grow, our future success will depend on our
ability to hire and retain additional highly skilled engineering, managerial,
marketing and sales personnel. Competition for such personnel is intense,
especially for engineers and project managers, and we may be unable to attract
sufficiently qualified personnel in adequate numbers to meet the demand for
our services in the future. In addition, as of June 30, 2001, 23% of our
employees in the United States were working under H-1B visas. H-1B visas are a
special class of nonimmigrant working visas for qualified aliens working in
specialty occupations, including, for example, radio frequency engineers. We
are aware that the Department of Labor has issued interim final regulations
that place greater requirements on H-1B dependent companies, such as ours, and
may restrict our ability to hire workers
18
under the H-1B visa category in the future, as well as exposing us to
significant penalties (including a prohibition on the hiring of H-1B workers)
if noncompliance is determined. In addition, immigration policies are subject
to rapid change and any significant changes in immigration law or regulations
may further restrict our ability to continue to employ or to hire new workers
on H-1B visas and could harm our business.
A significant percentage of our revenue is accounted for on a percentage-of-
completion basis, which could cause our quarterly results to fluctuate.
A significant percentage of our revenue is derived from fixed priced
contracts which are accounted for on a percentage-of-completion basis. The
portion of our revenue from fixed price contracts accounted for approximately
45% of our revenues for the six months ended June 30, 2001. With the
percentage-of-completion method, in each period we recognize expenses as they
are incurred and we recognize revenue based on a comparison of the current
costs incurred for the project to the then estimated total costs of the
project. Accordingly, the revenue we recognize in a given quarter depends on
the costs we have incurred for individual projects and our then current
estimate of the total remaining costs to complete individual projects. If in
any period we significantly increase our estimate of the total costs to
complete a project, we may recognize very little or no additional revenue with
respect to that project. As a result, our gross margin in such period and in
future periods may be significantly reduced and in some cases we may recognize
a loss on individual projects prior to their completion. For example, in 1999
we revised the estimated costs to complete two large contracts which resulted
in a reduction of gross margins of 9.9% in the first quarter of 1999 and 6.9%
in the second quarter of 1999. To the extent that our estimates fluctuate over
time or differ from actual requirements, gross margins in subsequent quarters
may vary significantly from our estimates and could harm our business and
financial results.
Similarly, the cancellation or modification of a contract which is
accounted for on a percentage-of-completion basis may adversely affect our
gross margins for the period during which the contract is modified or
cancelled. In the first quarter of 2001, we experienced such gross margin
adjustments related to the suspension and termination of the Metricom, Inc.
and Advanced Radio Telecom contracts. Under certain circumstances, a
cancellation or modification of a fixed price contract could also result in us
being required to reverse revenue that was recognized in a prior period, which
could significantly reduce the amount of revenues recognized for the period in
which the adjustment is made. For example, if we have a three year fixed price
contract where the contract fee is $1 million and the initial estimated costs
associated with the contract are $550,000, and if, during the first year we
incur $220,000 in costs related to the contract and correspondingly estimate
that the contract is 40% complete, then under the percentage-of-completion
accounting method we would recognize 40%, or $400,000 in revenue during the
first year of the contract. If, during the second year of the contract the
project is terminated with 35% of the services deemed provided to the client,
then the total revenue for the project would be adjusted downward to $350,000,
and the revenue recognizable during the second year would be the total revenue
earned to date, the $350,000 less the revenue previously recognized or
$400,000, resulting in a reversal of $50,000 of revenue previously recognized.
To the extent we experience additional adjustments such as those described
above, our revenues and profit margins will be adversely affected.
Our business may be harmed if we maintain or increase our staffing levels in
anticipation of one or more projects and underutilize our personnel because
such projects are delayed, reduced or terminated.
Since our business is driven by large, and sometimes multi-year, contracts,
we forecast our personnel needs for future projected business. If we maintain
or increase our staffing levels in anticipation of one or more projects and
such projects are delayed, reduced or terminated, we may underutilize these
additional personnel, which would increase our general and administrative
expenses, reduce our earnings and possibly harm our results of operations.
Additionally, due to current market conditions, we are faced with the
challenge of managing the appropriate size of our workforce in light of
projected demand for our services. If we maintain a workforce sufficient to
support a resurgence in demand, then in the meantime our general and
administrative expenses will be high
19
relative to our revenues and our profitability will suffer. Alternatively, if
we reduce the size of our workforce too quickly in response to any decrease in
the demand for our services, then our ability to quickly respond to any
resurgence in demand will be impaired. As a result, to the extent that we fail
to successfully manage this challenge our financial results will be harmed.
Our short operating history, recent growth in expanding services, and more
recent and sudden slowdown due to the current economic conditions in the
telecommunications industry limit our ability to forecast operating results.
We have generated revenues for only six years and, thus, we have only a
short history from which to predict future revenues. This limited operating
experience, together with the dynamic market environment in which we operate,
including fluctuating demand for our services, reduces our ability to
accurately forecast our quarterly and annual revenues. Further, we plan our
operating expenses based primarily on these revenue projections. Because most
of our expenses are incurred in advance of anticipated revenues, we may not be
able to decrease our expenses in a timely manner to offset any unexpected
shortfall in revenues. For further financial information relating to our
business, see "Management's Discussion and Analysis of Financial Condition and
Operating Results."
Our operating results may suffer because of competition in the wireless
services industry.
The network services market is highly competitive and fragmented and is
served by numerous companies. Many of these competitors have significantly
greater financial, technical and marketing resources, generate greater
revenues and have greater name recognition and experience than us. We do not
know of any competitors that are dominant in our industry. For a further
description of our competition, see "Business--Competition" in our Annual
Report on Form 10-K for the year ended December 31, 2000.
We believe that the principal competitive factors in our market include the
ability to deliver results within budget and on time, reputation,
accountability, project management expertise, industry experience and pricing.
In addition, expertise in new and evolving technologies, such as wireless
internet services, has become increasingly important. We also believe our
ability to compete depends on a number of factors outside of our control,
including:
. the prices at which others offer competitive services;
. the ability and willingness of our competitors to finance customers'
projects on favorable terms;
. the ability of our customers to perform the services themselves; and
. the extent of our competitors' responsiveness to customer needs.
We may not be able to compete effectively on these or other bases, and, as
a result, our revenues or income may decline and harm our business. In
addition, we have recently begun to face competition from a new class of
entrants into the network services market comprised of recently laid off
telecom workers who are starting their own businesses and are willing to
operate with lower profit margins. To the extent that these competitors are
able to gain increasing market share, our business may suffer.
We must keep pace with rapid technological change, market conditions and
industry developments to maintain or grow our revenues.
The market for wireless and other network system design, deployment and
management services is characterized by rapid change and technological
improvements. Our future success will depend in part on our ability to enhance
our current service offerings to keep pace with technological developments and
to address increasingly sophisticated customer needs. We may not be successful
in developing and marketing in a timely manner service offerings that respond
to the technological advances by others and our services may not
20
adequately or competitively address the needs of the changing marketplace. If
we are not successful in responding in a timely manner to technological
change, market conditions and industry developments, our revenues may decline
and our business may be harmed.
Our business operations could be significantly disrupted if we lose members
of our management team.
Our success depends to a significant degree upon the continued
contributions of our executive officers, both individually and as a group. See
"Management--Directors, Executive Officers and Key Employees", incorporated by
reference into our Annual Report on Form 10-K for the year ended December 31,
2000, for a listing of such executive officers. Our future performance will be
substantially dependent on our ability to retain and motivate them.
We may not be successful in our efforts to identify, acquire or integrate
acquisitions.
Our failure to manage risks associated with acquisitions could harm our
business. An important component of our business strategy is to expand our
presence in new or existing markets by acquiring additional businesses. During
2000, we acquired seven businesses. We are almost continuously engaged in
discussions or negotiations regarding the acquisition of businesses or
strategic investments in businesses, some potentially material in relation to
our size. We may not be able to identify, acquire or profitably manage
additional businesses or integrate successfully any acquired businesses
without substantial expense, delay or other operational or financial problems.
Acquisitions involve a number of risks, including:
. diversion of management's attention;
. difficulty in integrating and absorbing the acquired business, its
employees, corporate culture, managerial systems and processes and
services;
. failure to retain key personnel and employee turnover;
. customer dissatisfaction or performance problems with an acquired firm;
. assumption of unknown liabilities; and
. other unanticipated events or circumstances.
Our failure to adequately address these risk factors may negatively affect
the expected profitability from acquisitions or harm our ability to
successfully negotiate future acquisitions.
We may not be successful in our efforts to integrate international
acquisitions.
A key component of our business model is to expand our operations into
international markets. We have accomplished this through the establishment of
offices in Brazil, India and Mexico, among others, and through our
acquisitions during fiscal 2000 of Questus Ltd. in the United Kingdom and
Telia Academy and Telia Contracting in Sweden. International acquisitions pose
a challenge to our business, as we must integrate operations despite
differences in culture, language and legal environments. To date, we have
limited experience with international acquisitions and face certain related
risks, including:
. difficulties in staffing, managing and integrating international
operations due to language, cultural or other factors;
. different or conflicting regulatory or legal requirements;
. foreign currency fluctuations; and
. distractions of significant management time and attention.
Our failure to address these risks could inhibit or preclude our efforts to
pursue international acquisitions.
21
We have recently expanded our operations internationally. Our failure to
effectively manage our international operations could harm our business.
We currently have operations overseas, including offices in Mexico, the
United Kingdom, India, Brazil and Sweden. For the six months ended June 30,
2001, international operations accounted for approximately 34% of our total
revenues. We believe that the percentage of total revenues attributable to
international operations will continue to be significant. We intend to expand
our existing international operations and may enter additional international
markets, which will require significant management attention and financial
resources and could adversely affect our operating margins and earnings. In
order to expand our international operations, we will need to hire additional
personnel and develop relationships with potential international customers. To
the extent that we are unable to do so on a timely basis, our growth in
international markets would be limited, and our business would be harmed.
Our international business operations are subject to a number of material
risks, including, but not limited to:
. difficulties in building and managing foreign operations;
. difficulties in enforcing agreements and collecting receivables through
foreign legal systems and addressing other legal issues;
. longer payment cycles;
. taxation issues;
. potential weaknesses in foreign economies, particularly in Europe, South
America and Mexico;
. fluctuations in the value of foreign currencies; and
. unexpected domestic and international regulatory, economic or political
changes.
To date, we have encountered each of the risks set forth above in our
international operations. If we are unable to expand and manage our
international operations effectively, our business may be harmed.
Fluctuations in the value of foreign currencies could harm our profitability.
The majority of our international sales are currently denominated in U.S.
dollars. As a result of some of our recent acquisitions as well as the growth
of our foreign operations, an increasing portion of our international sales
are denominated in foreign currencies. Fluctuations in the value of the U.S.
dollar and foreign currencies may make our services more expensive than local
service offerings. This could make our service offerings less competitive than
local service offerings, which could harm our business. To date, our
experience with this foreign currency risk has predominately related to the
Brazilian real and Mexican peso. In addition, we conduct business in Swedish
krona and British pound sterling, and have a primary EMEA contract in Euros.
We do not currently engage in currency hedging activities to limit the risks
of exchange rate fluctuations. Therefore, fluctuations in the value of foreign
currencies could have a negative impact on the profitability of our global
operations, which would harm our business and financial results.
We may encounter potential costs or claims resulting from project
performance.
Our engagements often involve large scale, highly complex projects. Our
performance on such projects frequently depends upon our ability to manage our
relationship with our customers, effectively administer the project and deploy
appropriate resources, both our own personnel and third party contractors, in
a timely manner. Many of our engagements involve projects that are significant
to the operations of our customers' businesses. Our failure to meet a
customer's expectations in the planning or implementation of a project or the
failure of our personnel or third party contractors to meet project completion
deadlines could damage our reputation, result in termination of our engagement
and adversely affect our ability to attract new business. We frequently
undertake
22
projects in which we guarantee performance based upon defined operating
specifications or guaranteed delivery dates. Unsatisfactory performance or
unanticipated difficulties or delays in completing such projects may result in
a direct reduction in payments to us, or payment of damages by us, which could
harm our business.
As of June 30, 2001, executive officers and directors and their affiliates
controlled 62% of our outstanding common stock and as a result are able to
exercise control over matters requiring stockholder approval.
As of June 30, 2001, executive officers and directors and their affiliates
beneficially owned, in the aggregate, approximately 62% of our outstanding
common stock. In particular, as of June 30, 2001, our Chairman, Massih Tayebi,
and our Chief Executive Officer, Masood K. Tayebi, beneficially owned, in the
aggregate, approximately 44% of our outstanding common stock. In addition,
other members of the Tayebi family owned, as of June 30, 2001, in the
aggregate, approximately 7% of our outstanding common stock. As a result,
these stockholders are able to exercise control over matters requiring
stockholder approval, such as the election of directors and approval of
significant corporate transactions, which may have the effect of delaying or
preventing a third party from acquiring control over us. These transactions
may include those that other stockholders deem to be in their best interests
and in which those other stockholders might otherwise receive a premium for
their shares over their current prices. For further information regarding our
stock ownership, see "Security Ownership of Certain Beneficial Owners and
Management" incorporated by reference into our Annual Report on Form 10-K for
the year ended December 31, 2000.
Our stock price may be particularly volatile because of the industry of our
business.
The stock market in general has recently experienced extreme price and
volume fluctuations. In addition, the market prices of securities of
technology and telecom companies have been extremely volatile, and have
experienced fluctuations that have often been unrelated to or disproportionate
to the operating performance of such companies. These broad market
fluctuations could adversely affect the price of our common stock. For further
information regarding recent stock trends, see "Market for Registrant's Common
Equity and Related Stockholder Matters" in our Annual Report on Form 10-K for
the year ended December 31, 2000.
Provisions in our charter documents and Delaware law may make it difficult
for a third party to acquire our company and could depress the price of our
common stock.
Delaware corporate law and our certificate of incorporation and bylaws
contain provisions that could delay, defer or prevent a change in control of
our company or our management. These provisions could also discourage proxy
contests and make it more difficult for our stockholders to elect directors
and take other corporate actions. As a result, these provisions could limit
the price that investors are willing to pay in the future for shares of our
common stock. These provisions include:
. authorizing the board of directors to issue preferred stock;
. prohibiting cumulative voting in the election of directors;
. limiting the persons who may call special meetings of stockholders;
. prohibiting stockholder action by written consent; and
. establishing advance notice requirements for nominations for election to
the board of directors or for proposing matters that can be acted on by
stockholders at stockholder meetings.
We are also subject to certain provisions of Delaware law which could
delay, deter or prevent us from entering into an acquisition, including
Section 203 of the Delaware General Corporation Law, which prohibits a
Delaware corporation from engaging in a business combination with an
interested stockholder unless specific conditions are met.
23
Item 3. Quantitative and Qualitative Disclosures About Market Risk
We are exposed to foreign currency risks due to both transactions and
translations between a functional and reporting currency in our Mexican,
Brazilian and United Kingdom subsidiaries. We currently do not hedge any of
these risks in our foreign subsidiaries because (1) cash flows from foreign
operations in Mexico are generally reinvested locally in Mexico, (2) foreign
operations in Brazil are minimal, (3) the British pound sterling is relatively
stable against the U.S. dollar, and (4) we do not believe that to do so is
justified by the current exposure and the cost at this time. We are exposed to
the impact of foreign currency fluctuations due to the operations of and
intercompany transactions with our consolidated foreign subsidiaries. While
these intercompany balances are eliminated in consolidation, exchange rate
changes do affect consolidated earnings. The following table sets forth total
amounts owed to our U.S. operations from our Mexican, Brazilian, and United
Kingdom subsidiaries at June 30, 2000 and 2001 (denominated in U.S. dollars,
in millions):
2000 2001
---- ----
Mexico.......................................................... $8.6 $8.3
Brazil.......................................................... $1.3 $1.4
United Kingdom.................................................. $0.1 $5.5
The potential foreign currency translation losses from a hypothetical 10%
adverse change in the exchange rates from the intercompany balances at June
30, 2000 and 2001 are as follows (denominated in U.S. dollars, in millions):
2000 2001
---- ----
Mexico.......................................................... $0.9 $0.8
Brazil.......................................................... $0.1 $0.1
United Kingdom.................................................. $-- $0.6
In addition, we estimate that a 10% change in foreign exchange rates would
impact reported operating profit by approximately $.6 million for the six
months ended June 30, 2000 and 2001. This was estimated using a 10%
deterioration factor to the average monthly exchange rates applied to net
income or loss for each of the subsidiaries in the respective period.
We do not use derivative financial instruments, derivative commodity
instruments or other market risk sensitive instruments, positions or
transactions in any material fashion. Accordingly, management believes that it
is not subject to any material risks arising from changes in interest rates,
foreign currency exchange rates, commodity prices, equity prices or other
market changes that affect market risk sensitive instruments.
As of June 30, 2001, $23.0 million was outstanding under our line of credit
with a group of financial institutions. The credit facility is due in February
2004 and bears interest, at our discretion, at either (i) the greater of the
bank prime rate and the Federal Funds Rate plus .5%, plus a margin of 1.25%,
the base rate margin, or (ii) at the London Interbank Offering Rate (LIBOR)
plus 2.25%, the LIBOR rate margin. Beginning in the third quarter of 2001, the
base rate margin and the LIBOR rate margin will be determined based on certain
financial ratios as of the end of the most recently ended fiscal quarter which
will result in margins ranging from .75% to 1.50% and 1.75% to 2.50%,
respectively. The credit facility is secured by substantially all of our
assets. The credit agreement contains restrictive covenants, which, among
other things, require maintenance of certain financial ratios. On July 19,
2001, we executed an amendment to our credit facility agreement which, among
other items, changed the minimum EBITDA covenant to exclude unusual charges up
to a specified amount from the first and second quarters of our fiscal 2001
financial results.
We do not utilize any derivative financial instruments to hedge the
interest rate fluctuation as our balances under the credit facility are
borrowed over the short term and we currently retain the ability to pay down
amounts borrowed through our operational funds. A hypothetical 10% adverse
change in the weighted average interest rate for the six months ended June 30,
2001 would have increased net loss for the period by approximately
$0.1 million.
24
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Reference is made to the description of the dispute with Norm Korey
described in our Quarterly Report on Form 10-Q for the quarter ended March 31,
2001.
The Company and certain of its directors and officers are among the
defendants named in five purported class action complaints filed in June 2001
in the United States District Court for the Southern District of New York on
behalf of persons and entities who acquired the Company's common stock at
various times on or after November 4, 1999. The complaints allege that the
registration statement and prospectus dated November 4, 1999, issued by the
Company in connection with the public offering of the Company's common stock
contained untrue statements of material fact or omissions of material fact in
violation of securities laws because the registration statement and prospectus
allegedly failed to disclose that the offering's underwriters had solicited
and received additional and excessive compensation and benefits beyond those
listed in the registration statement and prospectus and that the offering's
underwriters had entered into tie-in or other arrangements with certain of
their customers which were allegedly designed to maintain, distort and/or
inflate the market price of the Company's common stock in the aftermarket. The
actions seek unspecified monetary damages and other relief. The Company
believes these lawsuits are without merit and intends to vigorously defend
against them.
In addition to the foregoing matters, from time to time, we may become
involved in various lawsuits and legal proceedings which arise in the ordinary
course of business. However, litigation is subject to inherent uncertainties,
and an adverse result in these or other matters may arise from time to time
that may harm our business.
Item 2. Changes in Securities
Recent Sales of Unregistered Securities
During the six months ended June 30, 2001, we issued unregistered
securities in the following transactions:
1. On January 17, 2001, we issued an aggregate of 19,920 shares of common
stock, valued at $.9 million, to Davis Bay, LLC. The shares were issued
pursuant to an earn-out provision in the asset purchase agreement.
2. On February 6, 2001, we issued an aggregate of 216,059 shares of common
stock, valued at $8.6 million, to Davis Bay, LLC. The shares were issued
pursuant to an earn-out provision in the asset purchase agreement.
3. On March 30, 2001, we issued an aggregate of 899,994 shares of common
stock to two members of our board of directors. The shares were issued
pursuant to Warrant Agreements, dated February 28, 1997 and February 1,
1998, between the Company and each of the two members of the board of
directors. The exercise prices of $.93 and $1.58 were paid in exchange
for 99,996 shares and 799,998 shares of our common stock, respectively.
The issuance of the securities in the transactions described in
paragraphs (1) through (3) above were deemed to be exempt from
registration under the Securities Act of 1933, as amended by virtue of
Section 4(2) and/or Regulation D promulgated thereunder. The recipients
represented their intentions to acquire the securities for investment
purposes only and not with a view to the distribution thereof. Each of
the recipients received adequate information about the Company and the
Company reasonably believed that each of the recipients was an
"Accredited Investor", as such term is defined in the Securities Act of
1933, as amended.
25
Item 4. Submission of Matters to a Vote of Security Holders
The Annual Meeting of Stockholders of Wireless Facilities, Inc. was held on
June 22, 2001. The following proposals were adopted by the votes indicated
below:
1. To elect a Board of Directors to serve for the ensuing year and until
their successors are elected. Elected to serve as directors were: Massih
Tayebi, Ph.D., 41,203,078 for and 561,915 withheld; Masood K. Tayebi,
Ph.D., 41,201,088 for and 563,905 withheld; Scott Anderson 41,651,028
for and 113,965 withheld; Scot Jarvis 41,651,022 for and 113,971
withheld; William Hoglund 41,651,234 for and 113,759 withheld; and David
Lee, Ph.D., 41,655,027 for and 109,966 withheld.
2. To ratify the selection of KPMG LLP as independent auditors of the
Company for its fiscal year ending December 31, 2001: 41,701,532 for,
45,477 against, and 17,984 abstained.
3. To approve the amendment to the Company's Employee Stock Purchase Plan:
31,424,921 for, 474,027 against, 44,241 abstained, and 9,821,804 broker
non-votes.
4. To approve the amendment to the Company's 1999 Equity Incentive Plan:
30,231,088 for, 1,676,918 against, 35,183 abstained, and 9,821,804
broker non-votes.
Item 6. Exhibits and Reports on Form 8-K:
(a). Exhibits:
10.1 First Amendment to Amended and Restated Credit Agreement effective July
19, 2001.
10.2 Employment Offer Letter by and between the Company and Brad Weller
effective August 16, 1999.
10.3 Executive Change of Control Agreement dated as of May 11, 2001 between
the Company and Brad Weller.*
--------
* The Company has also entered in substantially identical Executive Change
of Control Agreements with Terry Ashwill and Frankie Farjood. See
Schedule I to Exhibit 10.3.
(b). Reports on Form 8-K:
None.
26
SIGNATURES
Pursuant to the requirements of the Securities Act of 1934, as amended, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
Wireless Facilities, Inc.
/s/ Masood K. Tayebi, Ph.D
By: _________________________________
Masood K. Tayebi, Ph.D.
Chief Executive Officer
/s/ Terry Ashwill
By: _________________________________
Terry Ashwill
Executive Vice President and
Chief Financial Officer
Date: August 10, 2001
27
INDEX TO EXHIBITS
Exhibit
No. Description
------- ----------------------------------------------------------------------
10.1 First Amendment to Amended and Restated Credit Agreement effective
July 19, 2001.
10.2 Employment Offer Letter by and between the Company and Brad Weller
effective August 16, 1999.
10.3 Executive Change of Control Agreement dated as of May 11, 2001 between
the Company and Brad Weller.*
- --------
* The Company has also entered in substantially identical Executive Change of
Control Agreements with Terry Ashwill and Frankie Farjood. See Schedule I to
Exhibit 10.3.