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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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, 2000
/ / 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 001-15693
------------------------
CARRIER 1 INTERNATIONAL S.A.
(Exact Name of Registrant as Specified in its Charter)
LUXEMBOURG 98-0199626
(State or other jurisdiction of incorporation (I.R.S. Employer Identification No.)
organization)
------------------------
ROUTE D'ARLON 3
L-8009 Strassen, Luxembourg (011) (41-1) 297-2600
(Address, including zip code, and telephone number, including
area code, of registrant's principal executive offices)
------------------------
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 / /
At August 1, 2000 there were 41,721,278 shares of Common Stock of the
registrant outstanding.
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In this report, "Carrier 1 International" refers to Carrier 1 International
S.A., a societe anonyme organized under the laws of the Grand Duchy of
Luxembourg, and "Carrier1," "we," "our" and "us" refers to Carrier 1
International and its subsidiaries and their predecessors, except where the
context otherwise requires. In our filings with the United States Securities
Commission in "EDGAR" format, the symbol for the euro may be represented by
"(u)", "e", "[euro]", or similar symbol.
Certain statements contained herein which express "belief," "anticipation"
"expectation," or "intention" or any other projection, including statements
concerning the design, configuration, feature and performance of our network and
related services, the development and expansion of our business, the markets in
which our services are or will be offered, capital expenditures and regulatory
reform, insofar as they may apply prospectively and are not historical facts,
are "forward-looking" statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
Because such statements include risks and uncertainties, actual results may
differ materially from those expressed or implied by such forward-looking
statements. Factors that could cause actual results to differ materially from
those expressed or implied by such forward-looking statements include, but are
not limited to, the factors set forth in "Item 2. Management's Discussion and
Analysis of Financial Condition and Results of Operations."
2
CARRIER 1 INTERNATIONAL S.A.
FORM 10Q
INDEX
Part I--FINANCIAL INFORMATION............................... 4
Item 1. Financial Statements.............................. 4
Consolidated Balance Sheets June 30, 2000 (Unaudited)
and December 31, 1999.................................. 4
Unaudited Consolidated Statements of Operations Three
Months Ended June 30, 2000 and June 30, 1999 and Six
Months Ended June 30, 2000 and June 30, 1999........... 5
Unaudited Consolidated Statement of Shareholders' Equity
Six Months Ended June 30, 2000......................... 6
Unaudited Consolidated Statements of Cash Flows Six
Months Ended June 30, 2000 and June 30, 1999........... 7
Notes To Unaudited Consolidated Financial Statements.... 8
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations..................... 11
Item 3. Quantitative and Qualitative Disclosures About
Market Risk............................................. 27
Part II--OTHER INFORMATION.................................. 29
Item 1. Legal Proceedings................................. 29
Item 2. Changes in Securities and Use of Proceeds......... 29
Item 4. Submission of Matters to a Vote of Security
Holders................................................. 29
Item 5. Other Information................................. 30
Item 6. Exhibits and Reports on Form 8-K.................. 30
Signatures.................................................. 31
Exhibit Index............................................... 32
3
PART I--FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
CARRIER 1 INTERNATIONAL S.A. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
JUNE 30, 2000 (UNAUDITED) AND DECEMBER 31, 1999
(IN THOUSANDS OF U.S. DOLLARS, EXCEPT SHARE INFORMATION)
DECEMBER 31,
JUNE 30, 2000 1999*
------------- ------------
(UNAUDITED)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents................................. $ 508,814 $ 28,504
Restricted cash........................................... 21,202 5,512
Restricted investments held in escrow..................... 34,477 61,863
Accounts receivable, net of allowance for doubtful
accounts of $1,981 and $840 at June 30, 2000 and
December 31, 1999, respectively......................... 44,229 26,795
Unbilled receivables...................................... 22,208 18,226
Value-added tax refunds receivable........................ 26,562 20,499
Prepaid expenses and other current assets................. 17,966 9,873
---------- --------
Total current assets.................................. 675,458 171,272
PROPERTY AND EQUIPMENT--NET (See Note 4).................... 277,435 213,743
INVESTMENT IN AND ADVANCES TO JOINT VENTURES................ 27,931 4,691
RESTRICTED INVESTMENTS HELD IN ESCROW....................... 12,769 28,314
OTHER ASSETS................................................ 14,446 19,635
---------- --------
TOTAL....................................................... $1,008,039 $437,655
========== ========
LIABILITIES AND SHAREHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Trade accounts payable.................................... $ 32,313 $ 46,338
Accrued network costs..................................... 22,157 22,154
Accrued refile costs...................................... 30,364 18,234
Accrued interest.......................................... 11,981 12,984
Other accrued liabilities................................. 23,781 17,020
Short-term deferred revenue............................... 6,038 --
Short-term debt (See Note 5).............................. 28,805 12,658
---------- --------
Total current liabilities............................. 155,439 129,388
DEFERRED REVENUE............................................ 25,595 5,020
LONG-TERM DEBT (See Note 5):
Senior notes.............................................. 239,126 243,415
Other long-term debt...................................... 2,207 94,341
---------- --------
Total long-term debt.................................. 241,333 337,756
COMMITMENTS AND CONTINGENT LIABILITIES
SHAREHOLDERS' EQUITY (DEFICIT):
Common stock, $2 par value, 100,000,000 and 55,000,000
shares respectively authorized, 41,719,218 and
33,010,700, respectively issued and outstanding at June
30, 2000 and December 31, 1999.......................... 83,438 66,021
Additional paid-in capital................................ 667,178 2,524
Accumulated deficit....................................... (168,487) (107,734)
Accumulated other comprehensive income.................... 4,109 4,688
Common stock held in treasury............................. (566) (8)
---------- --------
Total shareholders' equity (deficit).................. 585,672 (34,509)
---------- --------
TOTAL....................................................... $1,008,039 $437,655
========== ========
- --------------------------
* Derived from audited consolidated financial statements.
See notes to unaudited consolidated financial statements.
4
CARRIER 1 INTERNATIONAL S.A. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED JUNE 30, 2000 AND JUNE 30, 1999 AND SIX MONTHS ENDED JUNE 30,
2000 AND JUNE 30, 1999
(IN THOUSANDS OF U.S. DOLLARS, EXCEPT SHARE INFORMATION)
THREE MONTHS ENDED THREE MONTHS ENDED SIX MONTHS ENDED SIX MONTHS ENDED
JUNE 30, 2000 JUNE 30, 1999 JUNE 30, 2000 JUNE 30, 1999
------------------ ------------------ ---------------- ----------------
REVENUES.................... $ 57,531 $ 20,194 $108,798 $ 32,487
OPERATING EXPENSES:
Cost of services
(exclusive of items
shown separately
below).................. 58,467 22,346 113,003 39,361
Selling, general and
administrative.......... 9,165 3,147 16,803 6,465
Depreciation and
amortization............ 7,228 2,298 13,379 3,634
-------- -------- -------- --------
Total operating
expenses................ 74,860 27,791 143,185 49,460
-------- -------- -------- --------
LOSS FROM OPERATIONS........ (17,329) (7,597) (34,387) (16,973)
OTHER INCOME (EXPENSE):
Interest expense.......... (5,712) (8,400) (19,625) (12,605)
Interest income........... 6,406 2,099 9,090 3,078
Currency exchange gain
(loss), net............. 3,862 (4,721) (15,825) (7,149)
Other, net................ (3) (413) (6) (413)
-------- -------- -------- --------
Total other income
(expense)............... 4,553 (11,435) (26,366) (17,089)
-------- -------- -------- --------
LOSS BEFORE INCOME TAX
BENEFIT................... (12,776) (19,032) (60,753) (34,062)
INCOME TAX BENEFIT--Net of
valuation allowance....... -- -- -- --
-------- -------- -------- --------
NET LOSS.................... $(12,776) $(19,032) $(60,753) $(34,062)
======== ======== ======== ========
LOSS PER SHARE:
Net loss:
Basic................... $ (0.31) $ (0.63) $ (1.56) $ (1.23)
======== ======== ======== ========
Diluted................. $ (0.31) $ (0.63) $ (1.56) $ (1.23)
======== ======== ======== ========
See notes to unaudited consolidated financial statements.
5
CARRIER 1 INTERNATIONAL S.A. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENT OF SHAREHOLDERS' EQUITY (DEFICIT)
SIX MONTHS ENDED JUNE 30, 2000
(IN THOUSANDS OF U.S. DOLLARS, EXCEPT SHARE INFORMATION)
ACCUMULATED COMMON
ADDITIONAL OTHER STOCK
COMMON PAID-IN ACCUMULATED COMPREHENSIVE HELD IN
STOCK CAPITAL DEFICIT INCOME TREASURY TOTAL
-------- ---------- ----------- ------------- -------- --------
BALANCE-December 31, 1999.............. $66,021 $ 2,524 $(107,734) $4,688 $ (8) $(34,509)
Issuance of Shares (8,708,518
shares)............................ 17,417 664,654 682,071
Repurchase of shares................. (558) (558)
Comprehensive income (loss):
Net loss............................. (60,753) (60,753)
Other comprehensive income,
net of tax:
Currency translation adjustments..... (579) (579)
--------
Total comprehensive loss............. (61,332)
------- -------- --------- ------ ----- --------
BALANCE-June 30, 2000.................. $83,438 $667,178 $(168,487) $4,109 $(566) $585,672
======= ======== ========= ====== ===== ========
See notes to unaudited consolidated financial statements.
6
CARRIER 1 INTERNATIONAL S.A. AND SUBSIDIARIES
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
SIX MONTHS ENDED JUNE 30, 2000 AND JUNE 30, 1999
(IN THOUSANDS OF U.S. DOLLARS, EXCEPT SHARE INFORMATION)
SIX MONTHS ENDED SIX MONTHS ENDED
JUNE 30, 2000 JUNE 30, 1999
---------------- ----------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss.................................................. $(60,753) $ (34,062)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization............................. 13,379 3,634
Amortization and write-off of capitalized financing
costs..................................................... 4,776
Changes in operating assets and liabilities:
Restricted cash........................................... (748) (1,297)
Receivables............................................... (30,773) (24,875)
Prepaid expenses and other current assets................. (8,366) (4,347)
Other assets.............................................. 478 (13,262)
Accounts payable and accrued liabilities.................. 33,327 21,799
Deferred revenue.......................................... 25,753 --
-------- ---------
Net cash used in operating activities................. (22,927) (52,410)
-------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of restricted investments held in escrow........ (135,486)
Purchase of property and equipment........................ (111,742) (51,460)
Investments in joint ventures............................. (23,480) (6)
Receipts from maturity of restricted investments.......... 42,931 --
-------- ---------
Net cash used in investing activities................. (92,291) (186,952)
-------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of short-term debt................. 48,490
Proceeds from issuance of long-term debt.................. 253,858
Proceeds from issuance of common stock and warrants....... 682,067 26,571
Payment on debt........................................... (124,858) --
Purchase of treasury stock................................ (558) --
Cash pledged for letter of credit......................... (19,318) --
Receipts from cash pledged for letter of credit........... 4,376 --
-------- ---------
Net cash provided by financing activities............. 590,199 280,429
-------- ---------
EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH
EQUIVALENTS............................................... 5,329 2,854
-------- ---------
NET INCREASE IN CASH AND CASH EQUIVALENTS................... 480,310 43,921
CASH AND CASH EQUIVALENTS:
Beginning of period....................................... 28,504 4,184
-------- ---------
End of period............................................. $508,814 $ 48,105
======== =========
SUPPLEMENTAL DISCLOSURE OF NONCASH OPERATING AND INVESTING ACTIVITIES:
- At June 30, 2000 and June 30, 1999, equipment purchases of approximately
$16,486 and $24,982, respectively, are included in accounts payable and
accrued network costs.
See notes to unaudited consolidated financial statements.
7
CARRIER 1 INTERNATIONAL S.A. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
THREE AND SIX MONTHS ENDED JUNE 30, 2000 AND JUNE 30, 1999
(IN THOUSANDS OF U.S. DOLLARS, EXCEPT SHARE INFORMATION)
1. NATURE OF OPERATIONS
Carrier 1 International S.A., its subsidiaries in Europe and its subsidiary
in the United States ("Carrier1" or the "Company"), operate in the
telecommunications industry offering voice, Internet and bandwidth and related
telecommunication services. Carrier1 offers these services primarily to other
telecommunications companies. Carrier1 is a societe anonyme organized under the
laws of the Grand Duchy of Luxembourg and has adopted a fiscal year end of
December 31.
2. UNAUDITED FINANCIAL INFORMATION
The financial information included herein is unaudited; however, the
information reflects all adjustments (consisting solely of normal recurring
adjustments) that are, in the opinion of management, necessary for a fair
presentation of the Company's financial position and results of operations and
cash flows for the interim periods presented. The results of operations for the
three and six months ended June 30, 2000 are not necessarily indicative of the
results to be expected for the full year.
3. EARNINGS PER SHARE
The following details the earnings per share calculations for the three
months ended June 30, 2000 and June 30, 1999 and for the six months ended
June 30, 2000 and June 30, 1999 (in thousands of U.S. dollars, except share
information):
THREE MONTHS THREE MONTHS SIX MONTHS SIX MONTHS
ENDED ENDED ENDED ENDED
JUNE 30, 2000 JUNE 30, 1999 JUNE 30, 2000 JUNE 30, 1999
------------- ------------- ------------- -------------
Loss from operations....... $ (17,329) $ (7,597) $ (34,387) $ (16,973)
========== ========== ========== ==========
Net loss................... $ (12,776) $ (19,032) $ (60,753) $ (34,062)
========== ========== ========== ==========
Total number of shares used
to compute basic earnings
(loss) per share......... 41,663,000 30,170,000 39,047,000 27,618,000
========== ========== ========== ==========
Loss from operations:
Basic and diluted loss
per share.............. $ (0.42) $ (0.25) $ (0.88) $ (0.61)
========== ========== ========== ==========
Net loss:
Basic and diluted loss
per share.............. $ (0.31) $ (0.63) $ (1.56) $ (1.23)
========== ========== ========== ==========
Potential dilutive securities have been excluded from the computation for
the three and six months ended June 30, 2000 and June 30, 1999 as their effect
is antidilutive. Had the Company been in a net income position for the three and
six months ended June 30, 2000 and June 30, 1999, diluted earnings per share
would have included an additional 4,507,429 and 4,288,000 shares, respectively,
related to outstanding warrants, stock options and stock subscriptions.
8
CARRIER 1 INTERNATIONAL S.A. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE AND SIX MONTHS ENDED JUNE 30, 2000 AND JUNE 30, 1999
(IN THOUSANDS OF U.S. DOLLARS, EXCEPT SHARE INFORMATION)
4. PROPERTY AND EQUIPMENT
Property and equipment at June 30, 2000, consist of the following:
Network equipment........................................... $ 93,193
Indefeasible right of use investments....................... 60,335
Leasehold improvements...................................... 13,398
Furniture, fixtures and office equipment.................... 12,118
Construction in progress.................................... 124,992
--------
304,036
Less: accumulated depreciation and amortization............. (26,601)
--------
Property and equipment, net................................. $277,435
========
5. DEBT
The details of other long-term debt are as follows:
Network fiber lease......................................... $2,207
------
Total....................................................... $2,207
======
Approximately $26.1 million of other long term debt was reclassified to
short term debt during June 2000 since the Company decided to repay a vendor
financing agreement early. This loan was repaid on July 5, 2000.
6. COMMITMENTS AND CONTINGENCIES
PURCHASE COMMITMENTS
On April 1, 2000, Carrier1 signed a contract with Nortel for the provision
of a first line maintenance, technical support and spares management service for
3 years for a total cost of $8.6 million.
We have secured an extensive UK network as part of an agreement announced
during the second quarter with 360networks. In this agreement, we have agreed to
purchase approximately $85 million of infrastructure and bandwidth capacity from
360networks and 360networks in turn has agreed to purchase approximately $150
million of infrastructure and bandwidth capacity from us. As a part of this
agreement, 360networks will provide us with trans-Atlantic and North American
capacity, as well as 12 strands of dark fiber on its diversely-routed
1,150-kilometer UK network between Liverpool and London, connecting Manchester,
Sheffield, Birmingham, Bristol, Nottingham and Cambridge.
7. INCOME TAXES
The Company has tax loss carry forwards of approximately $49,031 at
June 30, 2000. The ability of the Company to fully realize deferred tax assets
related to these tax loss carryforwards in future years is contingent upon its
success in generating sufficient levels of taxable income before the statutory
9
CARRIER 1 INTERNATIONAL S.A. AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
THREE AND SIX MONTHS ENDED JUNE 30, 2000 AND JUNE 30, 1999
(IN THOUSANDS OF U.S. DOLLARS, EXCEPT SHARE INFORMATION)
7. INCOME TAXES (CONTINUED)
expiration periods for utilizing such net operating losses lapse. Due to its
limited history, the Company was unable to conclude that realization of such
deferred tax assets in the near future was more likely than not. Accordingly, a
valuation allowance was recorded to offset the full amount of such assets.
8. INITIAL PUBLIC OFFERING
On March 1, 2000, Carrier1 completed its initial public offering of
8,625,000 shares of common stock (including the underwriters' overallotment of
1,125,000 shares) at a price of (U)87 per share (approximately $87.42 per
share). Carrier1 received proceeds of approximately $682.1 million, net of
underwriting discounts and commissions, listing fees, and offering-related
expenses. Carrier1's shares are quoted and traded in the Federal Republic of
Germany on the Neuer Market segment of the Frankfurt Stock Exchange. In the
United States of America, Carrier1's shares are traded in the form of American
Depositary Shares ("ADSs"). Each ADS represents the right to receive 0.2 shares
of common stock. The ADS's are quoted and traded in the U.S. on the NASDAQ
National Market.
9. SEGMENT INFORMATION
Summarized financial information concerning the Company's reportable
segments for the six months ended June 30, 2000 and 1999 is shown in the
following table. The "Other" column includes unallocated shared and corporate
related assets.
Six Months Ended June 30, 2000:
INTERNET AND
BANDWIDTH
VOICE SERVICES SERVICES OTHER CONSOLIDATED
-------------- ------------ -------- ------------
Revenues........................ $95,635 $13,163 $ 108,798
Fixed cost contribution......... 9,453 10,925 20,378
Identifiable assets............. 29,642 6,421 971,976 1,008,039
Six Months Ended June 30, 1999:
INTERNET AND
BANDWIDTH
VOICE SERVICES SERVICES OTHER CONSOLIDATED
-------------- ------------ -------- ------------
Revenues........................ $27,748 $ 4,739 $ 32,487
Fixed cost contribution......... 5,384 4,739 10,123
Identifiable assets............. 18,252 2,962 304,075 325,289
10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis of our financial condition and results
of operations for the six and three months ended June 30, 2000 should be read in
conjunction with our consolidated financial statements and related notes.
Certain information contained in the discussion and analysis or set forth
elsewhere in this report, including information with respect to our plans and
strategy for our business and related financing, includes forward-looking
statements that involve risk and uncertainties, as detailed in our most recent
Form 10-K as of December 31, 1999.
OVERVIEW
We are a rapidly expanding European facilities-based provider of voice,
Internet and bandwidth and related telecommunications services. We offer these
services primarily to other telecommunications service providers. In
March 1998, our experienced management team and Providence Equity Partners
formed Carrier1 to capitalize on the significant opportunities emerging for
facilities-based carriers in Europe's rapidly liberalizing telecommunications
markets. By September 1998, we had deployed our initial network and commenced
selling services. By June 30, 2000, we had 352 contracts with voice customers
and 154 contracts with Internet and bandwidth customers.
We are developing an extensive city-to-city European fiber optic network
accessing and linking key population centers. In select European cities, we are
also developing intra-city networks and data centers for housing and managing
equipment. We expect these intra-city networks to give us faster, lower cost
access to customers, with better quality control. We also expect to bundle and
cross-sell our intra-city network and data center capabilities with our other
services. We intend to continue rapidly expanding our network in a
cost-effective manner by building, buying or swapping network assets.
To date, we have experienced net losses and, generally, negative cash flow
from operating activities. In the second quarter of 2000, we had positive cash
flow from operating activities of approximately $26.6 million. From our
inception to September 1998, our principal activities included developing our
business plans, obtaining governmental authorizations and licenses, acquiring
equipment and facilities, designing and implementing our voice and Internet
networks, hiring management and other key personnel, developing, acquiring and
integrating information and operational support systems and operational
procedures, negotiating interconnection agreements and negotiating and executing
customer service agreements. In September 1998, we commenced the roll-out of our
services. We expect to continue to generate net losses and negative cash flow
through at least 2002 as we expand our operations. Whether or when we will
generate positive cash flow from operating activities will depend on a number of
financial, competitive, regulatory, technical and other factors. See
"--Liquidity and Capital Resources."
Although our management is highly experienced in the wholesale
telecommunications business, our company itself has a limited operating history.
Prospective investors therefore have limited operating and financial information
about our company upon which to base an evaluation of our performance and an
investment in our securities.
Our consolidated financial statements are prepared in accordance with U.S.
generally accepted accounting principles. We have adopted a fiscal year end of
December 31.
FACTORS AFFECTING FUTURE OPERATIONS
REVENUES
We expect to generate most of our revenues through the sale of voice and,
Internet and bandwidth services to other telecommunications service providers.
We record revenues from the sale of voice and Internet services at the time of
customer usage. Revenue from bandwidth IRU sales is recognized in accordance
with the Financial Accounting Standards Board (the "FASB") interpretation of
accounting
11
rules generally on a monthly basis over contract life, typically over 15 to
20 years. For contracts that satisfy sales-type lease accounting, revenues are
recognized at the time of sale. Our agreements with our voice customers are
typically for an initial term of twelve months and will be renewed automatically
unless cancelled. They employ usage-based pricing and do not provide for minimum
volume commitments by the customer. We generate a steady stream of voice traffic
by providing high-quality service and superior customer support. Our Internet
and bandwidth services are generally charged at a flat monthly rate, regardless
of usage, based on the line speed and level of performance made available to the
customer. We also offer usage-based Internet pricing for our Internet transport
services, "Internet Exchange Connect", "Euro Transit" and "Global Transit", only
in combination with Internet contracts that have a fee-based component that
guarantees minimum revenue, in order to encourage usage of our network services
by our Internet customers. Our agreements with our Internet transport customers
are generally for a minimum term of twelve months. Currently, our bandwidth
services are typically also for an initial term of twelve months, although we
expect to be able to offer more flexible pricing alternatives to bandwidth
customers in the future. We believe that, if the quality of the service is
consistently high, Internet transport customers will typically increase the
amount of capacity they purchase from us. We believe that they will also
generally renew their contracts because it is costly and technically burdensome
to switch carriers.
Our services are priced competitively and we emphasize quality and customer
support. The rates charged to voice, Internet and bandwidth customers are
subject to change from time to time. Our revenue per billable minute for voice
traffic in the second quarter of 2000 increased compared with the second quarter
1999 as a result of a more favorable traffic and services mix. The revenue per
billable minute for voice traffic decreased in the second quarter of 2000
compared with the first quarter 2000. We generally expect to experience, and
have planned for, declining revenue per billable minute for voice traffic and
declining revenue per Mb for Internet traffic and bandwidth, in part as a result
of increasing competition.
As a result of the construction of European fiber optic networks by our
competitors, the price of bandwidth capacity is declining rapidly, which has
lowered the price at which we are able to sell our Internet and bandwidth
products, including dark fiber. We also expect technological advances that
greatly increase the capacity of fiber optic cable to exacerbate downward price
pressure. We anticipate, however, that the incremental costs of lighting dark
fiber with transmission equipment will remain significant and will therefore
serve as an economic restraint to increases in available managed bandwidth
capacity at low marginal costs. Furthermore, we believe that price decreases
will promote demand for high volumes and opportunities for volume related
revenue increases. The impact on our results of operations from price decreases
has been in prior quarters, and we believe it will continue to be, at least
partially offset by decreases in our cost of providing services, largely due to
our increased use of our own fiber and our consequent decreased termination
costs, and increases in our voice and Internet traffic volumes. In addition, we
believe that our ability to bundle and cross-sell network services allows us to
compete effectively and to protect our business, in part, against the impact of
these price decreases.
Our focus on providing services to other operators results in us having
substantially fewer customers than a carrier in the mass retail sector. As a
result, a shift in the traffic pattern of any one customer, especially in the
near term and on one of our high volume routes, could have a material impact,
positive or negative, on our revenues. For example, in the six months ended
June 30, 2000, one customer accounted for approximately 8% of our revenues, and
this customer may continue to account for a significant portion of revenues in
the near term. Furthermore, many wholesale customers of voice services tend to
be price sensitive and may switch suppliers for certain routes on the basis of
small price differentials. In contrast, Internet and bandwidth customers tend to
use fewer suppliers than voice customers, cannot switch suppliers as easily and,
we believe, are more sensitive to service quality than to price. We believe that
customers for data center services are more sensitive to the value added
12
services that we plan to provide than to price. In addition, we believe that
they are unlikely to move between facilities due to their initial investments in
tenant improvements and the high costs and risks of network outage associated
with moving to another facility.
We have entered into contracts to provide bandwidth and capacity on our
network with a total value to us of approximately $262 million over contract
life. Because we have not yet begun to deliver capacity under the contracts and
as most of these are operating leases, we will recognize revenue on a monthly
basis over contract life, typically over 15 to 20 years.
COST OF SERVICES, EXCLUSIVE OF ITEMS DISCUSSED SEPARATELY BELOW
Cost of services, exclusive of depreciation and amortization, which is
discussed separately below, are classified into the following general
categories: access costs, transmission costs, voice and Internet termination
costs and other costs of services.
ACCESS COSTS. We have minimal access costs as our customers are typically
responsible for the cost of accessing our network. We have begun to provide
services to switchless resellers. Switchless resellers do not have any
telecommunications infrastructure. Therefore, for services to switchless
resellers we will have access costs payable to the originating local provider,
usually the incumbent telephone operator. These costs are reflected in our
pricing and will vary based on calling volume and the distance between the
caller and our point of presence.
TRANSMISSION COSTS. Our transmission costs currently consist of leased
capacity, operation, administration and maintenance cost of owned fiber as well
as switch and router facilities costs. Leased capacity charges are fixed monthly
payments based on capacity provided and are typically higher than a "dark fiber
cost level," which is our target cost level and represents the lowest possible
per unit cost. Dark fiber cost level is the per unit cost of high-capacity fiber
that has been laid and readied for use but which has not been "lit" with
transmission electronics. Dark fiber cost levels can be achieved not only
through owned facilities, but also may be possible through other rights of use
such as multiple investment units, known as "MIUs," or indefeasible rights of
use, known as "IRUs."
As part of our strategy to lower our cost base over time, we will seek dark
fiber cost levels for our entire transmission platform, through building,
acquiring or swapping capacity. For example, our German network is operational,
and, except for a few segments for which we expect final regulatory approval
later in the third quarter, in commercial service. The Paris and Amsterdam
intra-city networks will be operational at the end of 2000. We have acquired
intra-city capacity in London to lower our access costs, and we have made
capital-efficient arrangements to swap capacity on the German network for
capacity on other networks. We have secured an extensive UK network as part of
an agreement announced during the second quarter with 360networks. In this
agreement, we have agreed to purchase approximately $85 million of
infrastructure and bandwidth capacity from 360networks and 360networks in turn
has agreed to purchase approximately $150 million of infrastructure and
bandwidth capacity from us. As a part of this agreement, 360networks will
provide us with trans-Atlantic and North American capacity, as well as 12
strands of dark fiber on its diversely-routed 1,150 kilometer UK network between
Liverpool and London, connecting Manchester, Sheffield, Birmingham, Bristol,
Nottingham and Cambridge. We will provide and sell dark fiber on our German
network and our Paris and Amsterdam city rings and broadband capacity on our
pan-European network. We further minimize our transmission costs by optimizing
the routing of our voice traffic and increasing volumes on our fixed-cost leased
and owned lines, thereby spreading the allocation of fixed costs over a larger
number of voice minutes or larger volume of Internet traffic, as applicable. To
the extent we overestimate anticipated traffic volume, however, per unit costs
will increase. As we continue to develop our owned network and rely less on
leased capacity, per unit voice transmission costs are expected to decrease
substantially, offset partially by an increase in depreciation and amortization
expense. We also expect to experience declining transmission costs per billable
minute or per Mb, as applicable, as a result of
13
increasing use of our owned network as opposed to leased network assets,
decreasing cost of leased transmission capacity, increasing availability of more
competitively priced IRUs and MIUs and increasing traffic volumes.
VOICE TERMINATION COSTS. Termination costs represent the costs we are
required to pay to other carriers from the point of exit from our network to the
final point of destination. Generally, most of the total costs associated with a
call, from receipt to completion, are termination-related costs. Voice
termination costs per unit are generally variable based on distance, quality,
geographical location of the termination point and the degree of competition in
the country in which the call is being terminated.
If a non-mobile call is terminated in a city in which we have a point of
presence and an interconnection agreement with the national incumbent telephone
operator, the call will be transferred to the public switched telephone network
for local termination. This is usually the least costly mode of terminating a
call. If a call is to a location in which we do not have a point of presence, or
have a point of presence but do not have an interconnection agreement giving us
access to the public switched telephone network, then the call must be
transferred to, and refiled with, another carrier that has access to the
relevant public network for local termination. We pay this carrier a refile fee
for terminating our traffic. Most refilers currently operate out of New York and
various European cities such as London, Frankfurt and Vienna, so that the
refiled traffic is rerouted to such cities and from there is carried to its
termination point. Refile agreements provide for fluctuating rates with rate
change notice periods typically of one or four weeks. We seek to reduce our
refile costs by utilizing least cost routing. For example, where we do not yet
have interconnection agreements, we implement "resale" agreements whereby a
local carrier that has an interconnection agreement with the incumbent telephone
operator "resells" or shares this interconnection right with us for a fee.
Termination through resale agreements is more expensive than through
interconnection agreements but significantly less expensive than through refile
agreements because the traffic does not need to be rerouted to another country.
In countries where we have not been directly authorized to provide services,
we will negotiate to obtain direct operating agreements with correspondent
telecommunications operators where such agreements will result in lower
termination costs than might be possible through refile arrangements. We believe
our refile and resale agreements are competitively priced. If our traffic
volumes are higher than expected, we may have to divert excess traffic onto
another carrier's network, which would also increase our termination costs. We
believe, however, that we have sufficient capacity and could, if necessary,
obtain more. In addition, our technologically advanced daily traffic monitoring
capabilities allow us to identify changes in volume and termination cost
patterns as they begin to develop, thereby permitting us to respond in a
cost-efficient manner.
We believe that our termination costs per unit should decrease as we extend
our network and increase transmission capacity. We also believe that continuing
liberalization in Europe will lead to decreases in termination costs as new
telecommunications service providers offer alternatives to the incumbent
telephone operators for local termination, and as European Union member states
implement and enforce regulations requiring incumbent telephone operators to
establish rates which are set on the basis of forward-looking, long run economic
costs that would be incurred by an efficient provider using advanced technology.
There can be no assurance, however, regarding the extent or timing of such
decreases in termination costs.
TERMINATION OF MOBILE TRAFFIC. A substantial portion of our revenue from
our voice products is based on mobile traffic. We have arrangements in place for
termination of mobile traffic. However, direct operating agreements with mobile
operators tend to be expensive and refiling of mobile traffic generally does not
meet our quality targets. Although we currently have a number of direct
agreements with mobile operators and quality refilers in place, we cannot
guarantee that we can maintain these
14
agreements or enter into similar agreements of adequate price levels, or at all,
to support the expansion of our mobile traffic.
INTERNET TERMINATION COSTS. Termination costs represent costs we are
required to pay to other Internet backbone providers from the point of exit of
our network. Internet termination is effected through peering and transit
arrangements. Peering arrangements provide for the exchange of Internet traffic
free-of-charge. We have entered into peering arrangements with ISPs in the
United States and Europe, including recent peering arrangements with several
European incumbent telephone operators. There can be no assurance that we will
be able to negotiate additional peering arrangements. Under transit
arrangements, we are required to pay a fee to exchange traffic. That fee is
largely fixed and is based on the minimum Mb amount charged to us by our transit
partners.
Recently, the Internet services industry has experienced merger and
consolidation activity. This activity is likely to increase the concentration of
market power of Internet backbone providers, and may adversely affect our
ability to obtain peering and cost-effective transit arrangements.
OTHER COSTS OF SERVICES. Other costs of planned services include the
expenses associated with providing value-added Internet services and data center
capabilities. These expenses will consist primarily of certain engineering
costs, personnel costs and lease expenses within our data center facilities.
HEADCOUNT. Our headcount grew to 247 at June 30, 2000, up from 103 at
June 30, 1999. We believe that our headcount in the second half of 2000 will not
increase so rapidly as in the first half of 2000.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Our strategy of selling mainly to operators allows us to maintain lower
selling, general and administrative expenses than companies providing services
to the mass retail market. Our selling, general and administrative expenses
consist primarily of personnel costs, information technology costs, office
costs, travel, commissions, billing, professional fees and advertising and
promotion expenses. We employ a direct sales force located in the major markets
in which we offer services. To attract and retain a highly qualified sales
force, we offer our sales personnel a compensation package emphasizing
performance-based commissions and equity options. We expect to incur significant
selling and marketing costs in advance of anticipated related revenue as we
continue to expand our operations and service offerings. Our selling, general
and administrative expenses are expected to decrease as a percentage of
revenues, however, once we have established our operations in targeted markets
and expanded our customer base.
DEPRECIATION AND AMORTIZATION
Depreciation and amortization expense includes charges relating to
depreciation of property and equipment, which consist principally of equipment
(such as switches, multiplexers and routers), investments in indefeasible rights
of use and in multiple investment units, furniture and equipment. We depreciate
our network over periods ranging from 5 to 15 years and amortize our intangible
assets over a period of 5 years. We depreciate our investments in indefeasible
rights of use and in multiple investment units over their estimated useful lives
of not more than 20 years. We expect depreciation and amortization expense to
increase significantly as we expand our owned network, including the development
of the German network.
FINANCIAL POSITION
Current assets at June 30, 2000 were approximately $675.5 million,
representing an increase of approximately 294% over current assets at
December 31, 1999 of approximately $171.3 million, and a
15
decrease of approximately 6% over current assets at March 31 of approximately
$720.2 million. The increase from December 31, 1999, is primarily related to the
receipt of the net proceeds of our initial public offering (the "IPO") of common
stock in February 2000. In addition, total accounts and unbilled receivables
increased from approximately $45.0 million at December 31, 1999 and
approximately $63.3 million at March 31, 2000, to approximately $66.4 million at
June 30, 2000 as a result of increased revenues.
Property and equipment increased approximately 30% from approximately $213.7
million at December 31, 1999 to approximately $277.4 million at June 30, 2000
mainly due to the investments in the construction of the German network.
Investment in joint ventures increased approximately 495% from approximately
$4.7 million at December 31, 1999 to approximately $27.9 million at June 30,
2000 as a result of our investment in the Digiplex joint venture (formerly
Hubco).
Restricted investments held in escrow (both current and long-term) decreased
from December 31, 1999 and March 31, 2000 to June 30, 2000 as a result of our
funding of scheduled interest payments on our senior notes and additions to our
German network.
Other current liabilities increased approximately 10% from approximately
$17.0 million at December 31, 1999 to approximately $23.8 million at June 30,
2000 mainly as a result of an increase in the value-added tax payable.
Deferred revenue (both current and long-term) increased approximately 530%
from approximately $5.0 million at December 31, 1999 and approximately 163% from
approximately $12.1 million at March 31, 2000 to approximately $31.6 million at
June 30, 2000 as a result of new bandwidth and infrastructure sales agreements.
Total long-term debt was approximately $241.3 million at June 30, 2000,
representing a decrease of approximately 29% from long-term debt at
December 31, 1999 of approximately $337.8 million and a decrease of
approximately 10% from long-term debt at March 31, 2000 of approximately
$268.2 million. The decrease is related to the repayment of our credit facility
with Nortel Networks of approximately $77.2 million and the reclassification of
our $26.1 million credit facility with Siemens to short-term debt at June 30,
2000 since this facility was repaid in July 2000.
Shareholders' equity (deficit) rose from a deficit of approximately
$34.5 million at December 31, 1999 to an equity balance of approximately
$605.2 million at March 31, 2000, then declined to an equity balance of
approximately $585.7 million at June 30, 2000 mainly as a result of our IPO and
the net losses incurred in the first quarter and second quarter of 2000.
16
THREE MONTHS ENDED JUNE 30, 2000 AS COMPARED TO THREE MONTHS ENDED JUNE 30,
1999 AND THREE MONTHS ENDED MARCH 31, 2000:
Revenues for the three months ended June 30, 2000 were approximately
$57.5 million, representing an increase of approximately 12% over revenues for
the three months ended March 31, 2000 of approximately $51.3 million and
approximately 185% over revenues for the three months ended June 30, 1999 of
approximately $20.2 million. Revenues primarily related to voice services, which
contributed approximately $47.9 million or 83% of total revenue in the second
quarter of 2000. Voice revenue grew 0.5% compared to the three months ended
March 31, 2000 and 203% over the three months ended June 30, 1999. Voice traffic
volume during the three months ended June 30, 2000 was approximately
343 million minutes compared with approximately 309 million and 122 million
minutes during the three months ended March 31, 2000 and June 30, 1999,
respectively. Average revenue per minute was approximately 14 cents, which
represented a decrease of approximately 10% compared to the three months ended
March 31, 2000 due primarily to changes in traffic mix and, to a lesser extent,
price reductions. Average revenue per minute increased by approximately 8%
compared to the second quarter of 1999, which primarily reflects changes in
traffic mix. The majority of voice traffic in the second quarter of 2000 both
originated and terminated in Europe where prices are generally lower, but where
we have implemented interconnection agreements and therefore generally do not
need to terminate traffic via more costly refile or resale arrangements.
Internet and bandwidth services revenue was approximately $9.6 million during
the three months ended June 30, 2000, representing an increase of 170% over the
three months ended March 31, 2000 and 120% over the three months ended June 30,
1999, primarily due to increases in our customer base. During the second quarter
of 2000, we recognized revenue of approximately $4.7 million from one bandwidth
IRU contract that qualified as a sales-type lease.
Cost of services (exclusive of items shown separately) for the three months
ended June 30, 2000 were approximately $58.5 million compared with approximately
$54.5 million and $22.3 million for the three months ended March 31, 2000 and
June 30, 1999, respectively. Such costs increased primarily as a result of costs
directly associated with our increased voice traffic. These costs consisted
primarily of operation of the network, leases for transmission capacity,
operation, administration and maintenance cost of owned fiber as well as
termination expenses including refiling.
Expressed as a percentage of revenues, cost of services (exclusive of items
shown separately) was 102% during the three months ended June 30, 2000 compared
with 106% and 111% for the three months ended March 31, 2000 and June 30, 1999,
respectively. These decreases are primarily the result of higher volumes carried
on our existing network.
Depreciation and amortization for the three months ended June 30, 2000 was
approximately $7.2 million compared with approximately $6.2 million and
$2.3 million for the three months ended March 31, 2000 and June 30, 1999,
respectively. These costs increased over the three months ended June 30, 1999
due to higher investments for network equipment, indefeasible rights of use, and
other furniture and equipment.
Selling, general and administrative expenses were approximately
$9.2 million during the three months ended June 30, 2000 compared with
approximately $7.6 million and $3.1 million for the three months ended
March 31, 2000 and June 30, 1999, respectively. Such costs consisted primarily
of personnel costs, information technology costs, office costs, professional
fees and expenses. These costs increased over the three months ended June 30,
1999 primarily as a result of increased headcount, information technology costs,
promotional costs, office costs and provisions for bad debts.
Net interest income for the three-month period ended June 30, 2000 was
approximately $0.7 million. Interest income of approximately $6.4 million
consisted of interest earned on deposits of escrowed proceeds of our senior
notes and unused net proceeds of our IPO. Interest expense of
17
approximately $9.0 million mainly consisted of interest accrued on the senior
notes, less the write-off capitalized financing cost of $0.3 million, less
capitalized interest of approximately $2.7 million.
The strengthening of the Euro to the U.S. dollar in the second quarter of
2000 resulted in a currency exchange gain of $3.9 million, compared with losses
of $19.7 million and $4.7 million during the quarters ended March 31, 2000 and
June 30, 1999, respectively.
Our management evaluates the relative performance of our voice and internet
and bandwidth ("data") operations based on their respective fixed cost
contributions. Fixed cost contribution is defined as segment revenues less
direct variable costs incurred by the segment. Certain direct costs, such as
network and transmission costs, are shared by both the voice and data operations
and are not allocated by management to the segment.
Fixed cost contribution for voice services for the three-month period ended
June 30, 2000 was $4.8 million, representing $47.9 million in voice revenue less
$43.1 million, or approximately 13 cents per minute, in voice termination costs.
Fixed cost contribution for data services for the same period was $7.5 million
representing $9.6 million in data revenue less $2.3 million in data direct cost.
SIX MONTHS ENDED JUNE 30, 2000 AS COMPARED TO SIX MONTHS ENDED JUNE 30,
1999:
Revenues for the six months ended June 30, 2000 were approximately
$108.8 million, representing an increase of approximately 235% over revenues for
the six months ended June 30, 1999 of approximately $32.5 million. Revenues
primarily related to voice services, which contributed approximately
$95.6 million or 88% of total revenue in the first half of 2000. Voice revenue
grew 245% over the six months ended June 30, 1999. Voice traffic volume during
the six months ended June 30, 2000 was approximately 652 million minutes
compared with approximately 184 million minutes during the six months ended
June 30, 1999. Average revenue per minute was approximately 14.6 cents, which
represented a decrease of approximately 3% compared to the six months ended
June 30, 1999, due primarily to changes in traffic mix and, to a lesser extent,
price reductions. The majority of voice traffic in the first half of 2000 both
originated and terminated in Europe where prices are generally lower, but where
we have implemented interconnection agreements and therefore generally do not
need to terminate traffic via more costly refile or resale arrangements.
Internet and bandwidth services revenue was approximately $13.2 million during
the six months ended June 30, 2000, representing an increase of 178% over the
six months ended June 30, 1999, primarily due to increases in our customer base.
Cost of services (exclusive of items shown separately) for the six months
ended June 30, 2000 were approximately $113.0 million compared with
approximately $39.4 million for the six months ended June 30, 1999. Such costs
increased primarily as a result of costs directly associated with our increased
voice traffic. These costs consisted primarily of operation of the network,
leases for transmission capacity, operation, administration and maintenance cost
of owned fiber as well as termination expenses including refiling.
Expressed as a percentage of revenues, cost of services (exclusive of items
shown separately) was approximately 104% during the six months ended June 30,
2000 compared with approximately 121% for the six months ended June 30, 1999.
These decreases are primarily the result of higher volumes carried on our
existing network.
Depreciation and amortization for the six months ended June 30, 2000 was
approximately $13.4 million compared with approximately $3.6 million for the six
months ended June 30, 1999. These costs increased compared to the six months
ended June 30, 1999 due to higher investments for network equipment,
indefeasible rights of use, and other furniture and equipment.
Selling, general and administrative expenses were approximately
$16.8 million during the six months ended June 30, 2000 compared with
approximately $6.5 million for the six months ended June 30, 1999. Such costs
consisted primarily of personnel costs, information technology costs, office
18
costs, professional fees and expenses. These costs increased over the six months
ended June 30, 1999 primarily as a result of increased headcount, information
technology costs, promotional costs, office costs and provisions for bad debts.
Net interest expense for the six-month period ended June 30, 2000 was
approximately $10.5 million. It consisted during this period of approximately
$18 million of interest accrued on our senior notes, less capitalized interest
of approximately $4.1 million and interest income.
The over-all weakening of the Euro to the U.S. dollar in the first half of
2000 resulted in a currency exchange loss of $15.8 million, compared with a loss
of $7.1 million during the six-month period ended June 30, 1999.
Fixed cost contribution for voice services for the six-month period ended
June 30, 2000 was $9.5 million, representing $95.6 million in voice revenue less
$86.1 million, or approximately 13 cents per minute, in voice termination costs.
Fixed cost contribution for data services for the same period was $10.9 million
representing $13.2 million in data revenue less $2.3 million in data direct
cost.
LIQUIDITY AND CAPITAL RESOURCES
We broadly define liquidity as our ability to generate sufficient cash flow
from operating activities to meet our obligations and commitments. In addition,
liquidity includes the ability to obtain appropriate debt and equity financing
and to convert into cash those assets that are no longer required to meet
existing strategic and financial objectives. Therefore, liquidity cannot be
considered separately from capital resources that consist of current or
potentially available funds for use in achieving long-range business objectives
and meeting debt service commitments.
From our inception through December 31, 1998, we financed our operations
through equity contributions. During the year ended December 31, 1999, we
financed our operations through additional equity contributions and with the
proceeds of the issuance of our 13 1/4% senior notes and related warrants,
vendor financing and an interim credit facility. The further development of our
business and deployment of our network will require significant capital to fund
capital expenditures, working capital, cash flow deficits and debt service. Our
principal capital expenditure requirements include the expansion of our network,
including construction of the German and intra-city networks, the acquisition of
multiplexers, routers and transmission equipment and the construction of data
center facilities through an investment in the Digiplex (formerly named Hubco)
joint venture. Additional funding will also be required for office space, switch
site build-out and corporate overhead and personnel.
Between our inception and December 31, 1998, we had incurred capital
expenditures of approximately $37.2 million, and during the year ended
December 31, 1999 we incurred capital expenditures of approximately
$195.4 million, including amounts related to the German network in both periods.
Capital expenditures in 1998 and 1999 were principally for investments in fiber
infrastructure and transmission equipment. We estimate that we will incur
capital expenditures of approximately $362 million from January 2000 through the
end of 2001 ($242 million for 2000 and $120 million for 2001), including
approximately $23 million for our investment in the Digiplex joint venture. We
expect capital expenditures in 2000 and 2001 will be principally for investments
in fiber infrastructure and transmission equipment. We completed the
construction of the German network and portions of it became operational in
July 2000, with full operation expected in the second half of 2000. We plan to
purchase additional multiplexers and routers for our network. We plan to
complete the Amsterdam and Paris intra-city network by the end of 2000.
As of December 31, 1998 funds managed by our equity sponsors had invested a
total of approximately $37.8 million to fund start-up operations. By
February 19, 1999, such funds had completed their aggregate investment totaling
$60 million in equity contributions. On February 19,
19
1999, we issued 13 1/4% senior notes, with warrants, for net proceeds of
approximately $242 million, after deducting discounts and commissions and
expenses. Approximately $79.0 million of the net proceeds were originally used
to secure the first five interest payments on the notes. In addition, as of
December 31, 1999, employees and directors had directly or indirectly invested
approximately $6.7 million in our shares.
On March 1, 2000, we completed our initial public offering of 8,625,000
shares of common stock (including the underwriters' overallotment of 1,125,000
shares) at a price of [EURO]87 per share (approximately $87.42 per share). We
received proceeds of approximately $682 million, net of underwriting discounts
and commissions, listing fees, and offering-related expenses.
In addition to the net proceeds of our initial public offering, other
potential sources of capital, if available on acceptable terms or at all, may
include possible sales of dark fiber on the German or intra-city networks (such
as Amsterdam) or additional private or public financings, such as an offering of
debt or equity in the capital markets, an accounts receivable or bank facility
or equipment financings. We believe, based on our current business plan, that
these sources, or a combination of them, will be sufficient to fund the
expansion of our business as planned, and to fund operations until we achieve
positive cash flow. We expect to continue to generate net losses and negative
cash flow through at least 2002 as we expand our operations. Whether or when we
will generate positive cash flow will depend on a number of financial,
competitive, regulatory, technical and other factors. For example, our net
losses and negative cash flow from operating activities are likely to continue
beyond that time if:
- we decide to build extensions to our network because we cannot otherwise
reduce our transmission costs,
- we do not establish a customer base that generates sufficient revenue,
- we do not reduce our termination costs by negotiating competitive
interconnection rates and peering arrangements as we expand our network,
- prices decline faster than we have anticipated,
- we do not attract and retain qualified personnel,
- we do not obtain necessary governmental approvals and operator licenses or
- we are unable to obtain any additional financing as may be required.
Our ability to achieve these objectives is subject to financial,
competitive, regulatory, technical and other factors, many of which are beyond
our control. There can be no assurance that we will achieve profitability or
positive cash flow.
The actual amount and timing of our future capital requirements may differ
materially from our estimates as a result of, among other things, the demand for
our services and regulatory, technological and competitive developments. There
can be no assurance that sources of additional financing will be available on
acceptable terms or at all.
As of June 30, 2000, we had total current assets of $675.5 million, of which
$32.0 million was escrowed for interest payments on the 13 1/4% senior notes and
$2.5 million of which was allocated to the construction cost of the German
network. Net unrestricted cash as of the same date was $508.8 million. In the
first half of 2000, we allocated approximately $19.3 million in additional funds
for the construction cost of the German network and provided a letter of credit
to secure payment of that amount. The balance of that letter of credit was
$14.9 million as of June 30, 2000.
EBITDA, which we define as earnings before interest, taxes, depreciation,
amortization, foreign currency exchange gains or losses and other income
(expense), decreased from negative $12.3 million in
20
the fourth quarter of 1999 to negative $10.9 million in the first quarter of
2000 and decreased to negative $10.1 million in the second quarter of 2000.
EBITDA is used by management and certain investors as an indicator of a
company's ability to service debt and to satisfy capital requirements. However,
EBITDA is not a measure of financial performance under generally accepted
accounting principles and should not be considered as an alternative to cash
flows from operating, investing or financing activities as a measure of
liquidity or an alternative to net income as an indication of our operating
performance or any other measure of performance derived under generally accepted
accounting principles. EBITDA as used in this report may not be comparable to
other similarly titled measures of other companies or to similarly titled
measures as calculated under our debt agreements.
Our significant debt and vendor financing activity to date has consisted of
the following:
- On February 19, 1999, we issued $160 million and [EURO]85 million of
13 1/4% senior notes, with a scheduled maturity of February 15, 2009, with
detachable warrants.
- On February 18, 1999 we entered into an agreement to purchase fiber optic
cable for the German network for $20.3 million plus value-added tax. We
borrowed an additional amount of approximately $5.7 million under this
agreement since December 31, 1999. We decided in June 2000 to repay this
financing and did so on July 5, 2000.
- In June 1999, we entered into a financing facility with Nortel
Networks Inc., an equipment supplier. As of December 31, 1999, we had
borrowed substantially the full amount of the $75 million available under
the facility. The debt outstanding under this facility bore interest at a
LIBOR-based floating interest rate, and the weighted average on
outstanding amounts was 11.04% as of December 31, 1999. The debt was
repaid from the proceeds of our initial public offering.
- In December 1999, we entered into an interim credit agreement with Morgan
Stanley Senior Funding, Inc. and Citibank N.A. As of December 31, 1999, we
had borrowed [EURO]10 million of the $200.0 million (or the euro
equivalent) available under the facility. This debt bore interest at a
LIBOR-based floating interest rate equal to 6.72% as of December 31, 1999.
The debt outstanding under this facility ([EURO]40 million at the time of
our initial public offering), was repaid from the proceeds of our initial
public offering, and the facility terminated.
FOREIGN CURRENCY
Our reporting currency is the U.S. dollar, and interest and principal
payments on the 13 1/4% senior notes are in U.S. dollars and euros and a
significant portion of our costs and investments are denominated in dollars.
However, the majority of our revenues and operating costs are derived from sales
and operations outside the United States and are incurred in a number of
different currencies. Accordingly, fluctuations in currency exchange rates may
have a significant effect on our results of operations and balance sheet data.
The euro has eliminated exchange rate fluctuations among the 11 participating
European Union member states. Adoption of the euro has therefore reduced the
degree of intra-Western European currency fluctuations to which we are subject.
We will, however, continue to incur revenues and operating costs in non-Euro
denominated currencies, such as pounds sterling. Although we do not currently
engage in exchange rate hedging strategies, we may attempt to limit foreign
exchange exposure by purchasing forward foreign exchange contracts or engaging
in other similar hedging strategies. We have outstanding one contract to
purchase Deutsche Marks in exchange for dollars from time to time in amounts
anticipated to satisfy our Deutsche Mark-denominated obligations under our
German network arrangements. Any reversion from the euro currency system to a
system of individual country floating currencies could subject us to increased
currency exchange risk.
21
INFORMATION CONCERNING FORWARD-LOOKING STATEMENTS
Certain of the statements contained in this report (other than the financial
statements and other statements of historical fact) are forward-looking
statements, including, without limitation:
(i) the statements in "--Overview" concerning (a) our expectations of
improved access to customers and better quality control associated with the
building of intra-city networks, (b) our expectations with regard to our ability
to bundle and cross-sell our intra-city network and data center capabilities
with our other services and (c) our expectation that we will continue to
generate net losses and negative cash flow through at least 2002;
(ii) the statements in "--Revenues" concerning (a) the generation of most of
our revenues through the sale of voice and Internet and bandwidth services to
other telecommunications service providers, (b) our belief that, if the quality
of the service is consistently high, Internet transport customers will typically
increase the amount of capacity they purchase from us and will also generally
renew their contracts, (c) our expectation of declining revenue per billable
minute for voice traffic and declining revenue per Mb for Internet traffic and
bandwidth, (d) our expectation that technological advances will exacerbate
downward price pressure, (e) our anticipation that the incremental costs of
lighting dark fiber will serve as an economic restraint to increases in
available managed bandwidth capacity at low marginal costs, (f) our belief that
price decreases will promote demand for high volumes, (g) our belief that the
impact on our results of operations from price decreases will continue to be at
least partially offset by decreases in our cost of providing services and
increases in our traffic volumes, (h) our belief that our ability to bundle and
cross-sell network services allows us to compete effectively and to protect our
business, in part, against the impact of these price decreases and (i) our
belief that customers for data center services are more sensitive to the value
added services that we plan to provide than to price and that they are unlikely
to move between facilities;
(iii) the statements in "--Transmission Costs" concerning (a) the times at
which our German network will be in commercial service and our Paris and
Amsterdam intra-city networks will be operational, (b) our expectation that per
unit voice transmission costs will decrease, partially offset by increases in
depreciation and amortization expenses and (c) our expectation that we will
experience declining transmission costs as a result of increasing use of our
owned network, decreasing cost of leased transmission capacity, increasing
availability of more competitively priced IRUs and MIUs and increasing traffic
volumes;
(iv) the statements in "--Voice Termination Costs" concerning (a) our belief
that we can obtain more transmission capacity, if necessary, (b) our belief that
our termination costs per unit should decrease as we extend our network and
increase capacity and (c) our belief that continuing liberalization in Europe
will lead to decreases in termination costs;
(v) the statement in "--Termination of Mobile Traffic" that we cannot
guarantee our ability to maintain our current agreements for termination of
mobile traffic or to enter into similar agreements of adequate price levels, or
at all;
(vi) the statement in "--Internet Termination Costs" that merger and
consolidation activity in the Internet services industry is likely to increase
the concentration of market power of Internet backbone providers;
(vii) the statements in "--Selling, General and Administrative Expenses"
concerning (a) expected incurrence of significant selling and marketing costs in
advance of anticipated related revenue and (b) our expectation that selling,
general and administrative expenses will decrease as a percentage of revenues
once our operations are more established and our customer base expands;
(viii) the statement in "--Depreciation and Amortization" regarding our
expectation that depreciation and amortization expense will increase as we
expand our owned network; and
22
(ix) other statements as to management's or the Company's expectations and
beliefs presented in this "Management's Discussion and Analysis of Financial
Condition and Results of Operations."
Forward-looking statements are made based upon management's current
expectations and beliefs concerning future developments and their potential
effects upon us. There can be no assurance that future developments will be in
accordance with management's expectations or that the effect of future
developments on us will be those anticipated by management. The important
factors described elsewhere in this report (including, without limitation, those
discussed in "--Financial Condition, Liquidity and Capital Resources"), our most
recent report on Form 10-K for the year ended December 31, 1999, our most recent
report on Form 10-Q for the three months ended March 31, 2000, or in other
Securities and Exchange Commission filings, could affect (and in some cases have
affected) our actual results and could cause such results to differ materially
from estimates or expectations reflected in such forward-looking statements.
These factors include the following:
- Our limited operating history makes it difficult for others to evaluate
our performance.
- We expect to experience net losses and negative cash flow.
- If we are unable to improve and adapt our operations and systems as we
grow, we could lose customers and revenues.
- Our operating results may fluctuate significantly.
- Our ability to generate cash to service our substantial capital needs
depends on many factors, some of which are beyond our control.
- Our substantial indebtedness and our ability to incur more indebtedness
could prevent us from fulfilling our obligations under our existing debt
obligations.
- Our debt agreements impose operating and financial restrictions, which may
prevent us from capitalizing on business opportunities.
- If we are unable to extend our network in the manner we have planned, our
operating revenues or gross margins could be adversely affected.
- European use of the Internet, electronic commerce and the demand for
bandwidth intensive applications may not increase as substantially as we
expect, which would limit demand for our services and limit our ability to
increase our revenues.
- We have no control over third parties on whom we rely for the operation or
maintenance of portions of our network, and if they or their facilities do
not perform or function adequately, our network may be impaired.
- We depend on our highly trained executive officers and employees. Any
difficulty in retaining our current employees or in hiring new employees
would adversely affect our ability to operate our business.
- A failure to enter into or maintain adequate interconnection and peering
arrangements could cause us to incur higher termination costs than
competitors who have such arrangements.
- If we lost one or more of our government licenses or became subject to
more onerous government regulations, we could be adversely affected.
- The adoption or modification of laws or regulations relating to the
Internet could adversely affect our business.
- The telecommunications industry is highly competitive and we may be unable
to compete successfully.
23
- Our competitors may have more experience, superior operational economies
or greater resources, placing us at a cost and price disadvantage.
- We may not be able to obtain sufficient cost-effective transmission
capacity, which could delay our ability to penetrate certain markets or
carry a higher volume of traffic in markets in which we already operate.
- If estimates we have made are not correct, we may have too much or too
little capacity.
- We may have difficulty enhancing our sophisticated billing, customer and
information systems. Any such difficulties could delay or disrupt our
ability to service or bill our customers.
- Rapid change in our industry could require us to expend substantial costs
to implement new technologies. We could lose customers if our competitors
implement new technologies before we do.
- Customers that are price sensitive may divert their traffic to another
carrier based on small price changes, resulting in fluctuations or loss in
our revenue.
- We rely on a small number of significant customers, and the loss of any
single customer could therefore have a material adverse effect on our
revenues.
- We will engage in joint ventures, which are accompanied by inherent risks.
- The costs and difficulties of acquiring and integrating businesses or
engaging in other strategic transactions could impede our future growth
and adversely affect our competitiveness.
- We are controlled by parties whose interests may not be aligned with other
holders of our securities.
- The international scope of our operations may adversely affect our
business.
- Conversion to the euro may result in increased costs and possible
accounting, billing and logistical difficulties in operating our business.
- We may be adversely affected by year 2000 issues.
- Enforcing judgments against us may require compliance with non-U.S. law.
- The possible volatility of our stock price could adversely affect our
shareholders.
- Future sales of substantial numbers of shares could adversely affect the
market price of our shares.
While we periodically reassess material trends and uncertainties affecting
our results of operations and financial condition in connection with our
preparation of management's discussion and analysis of results of operations and
financial condition contained in our quarterly and annual reports, we do not
intend to review or revise any particular forward-looking statement referenced
in this report in light of future events.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities." This statement establishes accounting and reporting
standards for derivative instruments embedded in other contracts (collectively
referred to as derivatives) and for hedging activities. The adoption of this
standard is effective for the first quarter of our fiscal year ending
December 31, 2001. Management has not yet completed its analysis of this new
accounting standard and, therefore, has not determined whether this standard
will have a material effect on our financial statements.
24
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The following discussion summarizes the financial instruments and derivative
instruments held by us at June 30, 2000 that are sensitive to changes in
interest rates and foreign exchange rates. In the normal course of business, we
also face risks that are either nonfinancial or nonquantifiable. Such risks
principally include country risk, credit risk, and legal risk, and are not
reviewed in this discussion.
INTEREST RATE RISK MANAGEMENT. Within the past year, the sensitivity of our
cash flows, earnings, and financial condition to changes in market interest
rates declined significantly, upon our repayment (from the proceeds of our
initial public offering) of the [EURO]40 million, the $75 million and the
$26 million that were outstanding under floating rate facilities.
Because most of our outstanding debt at June 30, 2000 is fixed-rate debt, a
change in market interest rates is not likely to have a material effect on our
earnings, cash flows or financial condition. As of June 30, 2000, we did not
have a position in futures, forwards, swaps, options or other similar financial
instruments to manage the risk arising from these interest rate exposures.
FOREIGN EXCHANGE RISK MANAGEMENT. We have foreign exchange currency
exposures related to purchasing services and equipment and selling our services
in currencies other than the US dollar, our reporting currency. Because the
majority of our revenues and operating costs are derived from sales and
operations outside the United States and are incurred in a number of different
currencies, changes in foreign currency exchange rates may have a significant
effect on our results of operations and balance sheet data. The most significant
of our foreign currency exposures relate to our purchasing and selling
activities in the Western European countries such as Germany, Switzerland and
the United Kingdom, where our principal operations exist.
In addition, the [EURO]85 million of our 13 1/4% senior notes payable
denominated in euros exposes us to foreign exchange rate risk.
PART II--OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
We may, from time to time, be a party to litigation that arises in the
normal course of our business operations. Since our inception we have not been,
and we are not presently, a party to any litigation or arbitration that we
believe had or would reasonably be expected to have a material adverse effect on
our business or results of operations.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
RECENT SALES OF UNREGISTERED SECURITIES
During the quarterly period ended June 30, 2000, we did not sell or issue
securities.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
During the second quarter of 2000, certain matters were submitted to a vote
of security holders at our annual and extraordinary meeting of shareholders.
ANNUAL MEETING. The Annual Meeting of Shareholders was held on June 13,
2000, in Luxembourg. At the Annual Meeting, 32,370,675 voting shares were
present. The table below discloses the vote with respect to each proposal:
Proposal I
25
To approve our statutory accounts for the year ended December 31, 1999, and
the reports of our statutory auditors, dated February 11, 2000, and the Board of
Directors on the statutory accounts, dated May 2, 2000.
For 32,365,076 Against 1,502 Abstain 4,097
Proposal II
To approve the determination to carry forward the loss we reported for the
year ended December 31, 1999 to the year commencing January 1, 2000.
For 32,362,866 Against 2,953 Abstain 4,856
Proposal III
To approve the discharge of our Board of Directors--pursuant to Article 74
of Luxembourg's Company Law--from the execution of their mandate as directors
for the year ended December 31, 1999.
For 32,319,101 Against 42,390 Abstain 9,184
Proposal IV
To approve the discharge of our statutory auditors--pursuant to Article 74
of Luxembourg's Company Law--from the execution of their mandate as statutory
auditors for the year ended December 31, 1999.
For 32,319,414 Against 43,378 Abstain 7,883
EXTRAORDINARY MEETING. An Extraordinary Meeting of Shareholders was held
immediately following the Annual Meeting of Shareholders on June 13, 2000, in
Luxembourg. At the Extraordinary Meeting, 32,368,440 voting shares were present
or represented. The table below discloses the vote with respect to each
proposal:
Proposal I
To amend our Articles of Incorporation to increase the number of shares that
the Board of Directors is authorized to issue from 55,000,000 to 100,000,000.
For 32,353,723 Against 6,928 Abstain 7,789
Proposal II
To amend our Articles of Incorporation to authorize the Board of Directors
to fix record dates for shareholders' meetings, dividend entitlement and other
specified purposes.
For 30,310,293 Against 1,867 Abstain 2,056,280
Proposal III
To amend our Articles of Incorporation to Articles of Incorporation to
eliminate the shareholder's option for shares to be issued in bearer form.
For 30,299,205 Against 8,369 Abstain 2,060,866
26
ITEM 5. OTHER INFORMATION
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
3.1 Articles of Incorporation of Carrier1 International S.A.
27.1 Financial Data Schedule
(b) Reports on Form 8-K
We did not file any reports on Form 8-K during the fiscal quarter ended
June 30, 2000.
27
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934, AS AMENDED, THE REGISTRANT HAS DULY CAUSED THIS REPORT TO
BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED.
SIGNATURE CAPACITY IN WHICH SIGNED DATE
--------- ------------------------ ----
Director, Chief Executive
/s/ STIG JOHANSSON Officer and President
------------------------------------------- (Principal Executive August 7, 2000
Stig Johansson Officer)
Chief Financial Officer
/s/ JOACHIM W. BAUER (Principal Financial Officer
------------------------------------------- and Principal Accounting August 7, 2000
Joachim W. Bauer Officer)
28
EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION
- -------------- -----------
3.1 Articles of Incorporation of Carrier 1 International S.A.
27.1 Financial Data Schedule
29