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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED MARCH 31, 1999
(COMMISSION FILE NUMBER: 0-23717)
GLOBAL TELESYSTEMS GROUP, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 94-3068423
(State of incorporation) (I.R.S. Employer Identification No.)
1751 PINNACLE DRIVE, NORTH TOWER, 12TH FLOOR
MCLEAN, VIRGINIA 22102
(Address of principal executive office)
(703) 918-4500
(Registrant's telephone number, including area code)
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
registrants were required to file such reports), and (2) has been subject to
such filing requirements for the past 90 days. Yes [X] No [ ]
At April 15, 1999, there were outstanding 83,094,955 shares of common stock
of the registrant.
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TABLE OF CONTENTS
PAGE
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PART I. FINANCIAL INFORMATION
Item 1 FINANCIAL STATEMENTS OF GLOBAL TELESYSTEMS GROUP, INC
(UNAUDITED).................................................
Condensed Consolidated Balance Sheets as of March 31, 1999
and December 31, 1998....................................... 3
Condensed Consolidated Statements of Operations for the
Three Months Ended March 31, 1999 and 1998.................. 4
Condensed Consolidated Statements of Cash Flows for the
Three Months Ended March 31, 1999 and 1998.................. 5
Notes to Condensed Consolidated Financial Statements........ 6
Item 2 Management's Discussion and Analysis of Financial Condition 10
and Results of Operations...................................
Item 3 Quantitative and Qualitative Disclosures About Market 19
Risk........................................................
PART II. OTHER INFORMATION
Item 1 Legal Proceedings........................................... 20
Item 2 Changes in Securities and Use of Proceeds................... 20
Item 3 Defaults Upon Senior Securities............................. 20
Item 4 Submission of Matters to a Vote of Security Holders......... 20
Item 5 Other Information........................................... 20
Item 6 Exhibits and Reports on Form 8-K............................ 21
Signatures................................................................ 22
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PART I
FINANCIAL INFORMATION
ITEM 1. UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
GLOBAL TELESYSTEMS GROUP, INC.
CONDENSED, CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
ASSETS
MARCH 31, DECEMBER 31,
1999 1998
---------- ------------
(IN THOUSANDS, EXCEPT
SHARE DATA)
CURRENT ASSETS
Cash and cash equivalents................................. $1,124,994 $ 998,510
Accounts receivable, net.................................. 217,649 174,430
Restricted cash........................................... 58,497 82,025
Prepaid expenses.......................................... 20,567 21,640
Other assets.............................................. 13,535 16,752
---------- ----------
TOTAL CURRENT ASSETS.............................. 1,435,242 1,293,357
Property and equipment, net............................... 660,640 643,044
Investments in and advances to ventures................... 64,945 50,751
Goodwill and intangible assets, net....................... 522,596 543,524
Restricted cash and other non-current assets.............. 80,163 83,926
---------- ----------
TOTAL ASSETS...................................... $2,763,586 $2,614,602
========== ==========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES
Accounts payable and accrued expenses..................... $ 283,224 $ 279,509
Debt maturing within one year............................. 26,702 23,859
Current portion of capital lease obligations.............. 77,031 43,102
Unearned revenue.......................................... 46,686 36,059
Other current liabilities................................. 27,710 28,530
---------- ----------
TOTAL CURRENT LIABILITIES......................... 461,353 411,059
Long-term debt, less current portion...................... 1,796,193 1,504,614
Long-term portion of capital lease obligations............ 190,081 218,139
Related party long-term debt, less current portion........ 2,600 2,600
Unearned revenue, less current portion.................... 44,343 34,093
Taxes and other non-current liabilities................... 18,421 40,784
---------- ----------
TOTAL LIABILITIES................................. 2,512,991 2,211,289
COMMITMENTS AND CONTINGENCIES
Minority interest......................................... 37,632 37,329
Common stock, subject to repurchase (288,441 shares
outstanding at March 31, 1999 and December 31, 1998)... 16,167 16,081
SHAREHOLDERS' EQUITY
Preferred stock, $0.0001 par value (10,000,000 shares
authorized; none issued and outstanding)............... -- --
Common stock, $0.10 par value (135,000,000, shares
authorized; 81,221,352 and 80,733,372 shares issued and
outstanding at March 31, 1999 and December 31, 1998,
respectively).......................................... 8,122 8,073
Additional paid-in capital................................ 901,182 885,057
Accumulated other comprehensive income/(loss)............. (6,585) 488
Accumulated deficit....................................... (705,923) (543,715)
---------- ----------
TOTAL SHAREHOLDERS' EQUITY........................ 196,796 349,903
---------- ----------
TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY........ $2,763,586 $2,614,602
========== ==========
The accompanying notes are an integral part of these financial statements.
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GLOBAL TELESYSTEMS GROUP, INC.
CONDENSED, CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
--------------------------
1999 1998
------------ -----------
(IN THOUSANDS, EXCEPT PER
SHARE DATA)
Revenues.................................................... $ 170,881 $ 46,248
Operating expenses:
Telecommunications services............................... 102,539 33,179
Selling, general and administrative....................... 78,595 30,242
Esprit Telecom business combination costs................. 63,714 --
Depreciation and amortization............................. 39,258 9,513
Equity in losses/(earnings) of ventures................... 4,125 (3,412)
--------- --------
Total operating expenses.......................... 288,231 69,522
Loss from operations........................................ (117,350) (23,274)
Other income (expense):
Interest, net............................................. (32,548) (13,447)
Foreign currency losses................................... (8,127) (2,191)
--------- --------
(40,675) (15,638)
--------- --------
Net loss before income taxes, minority interest and
extraordinary loss........................................ (158,025) (38,912)
Income taxes................................................ 3,764 555
--------- --------
Net loss before minority interest and extraordinary loss.... (161,789) (39,467)
Minority interest........................................... (419) 2,353
--------- --------
Net loss before extraordinary loss.......................... (162,208) (37,114)
Extraordinary loss -- debt refinancing...................... -- (12,704)
--------- --------
Net Loss.................................................... $(162,208) $(49,818)
========= ========
Net loss per share before extraordinary loss................ $ (2.00) $ (0.60)
Net loss per share -- extraordinary loss.................... -- (0.21)
--------- --------
Net loss per share.......................................... $ (2.00) $ (0.81)
========= ========
Weighted average common shares outstanding.................. 81,052 61,427
========= ========
The accompanying notes are an integral part of these financial statements.
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GLOBAL TELESYSTEMS GROUP, INC.
CONDENSED, CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
THREE MONTHS ENDED
MARCH 31,
---------------------
1999 1998
---------- --------
(IN THOUSANDS)
OPERATING ACTIVITIES
Net loss.................................................... $ (162,208) $(49,818)
ADJUSTMENTS TO RECONCILE NET LOSS TO NET CASH USED IN
OPERATING ACTIVITIES:
Extraordinary loss........................................ -- 12,704
Depreciation and Amortization............................. 38,027 9,206
Amortization of discount on note payable.................. -- 477
Equity in losses (earnings) of ventures, net of dividends
received............................................... 4,125 (3,412)
Change in fair value of foreign currency instrument....... 22,769 --
Non-cash Esprit business combination costs................ 35,699 --
Non-cash compensation..................................... 789 178
Minority interest......................................... 406 (2,353)
Other..................................................... 2,038 1,181
Changes in assets and liabilities, excluding effects of
acquisitions and ventures:.............................
Accounts receivable.................................... (42,959) (8,425)
Prepaid expenses....................................... 1,410 (1,161)
Accounts payable and accrued expenses.................. 6,980 10,702
Other changes in assets and liabilities................ (8,579) (3,380)
---------- --------
NET CASH USED IN OPERATING ACTIVITIES............. (101,503) (34,101)
INVESTING ACTIVITIES
Investments in and advances to ventures, net of
repayments............................................. (17,178) 2,370
Purchases of property and equipment....................... (20,310) (20,756)
Restricted cash........................................... 23,976 2,752
Purchases of intangible assets............................ (832) (14,634)
Acquisitions, net of cash................................. -- (1,053)
Other..................................................... -- 547
---------- --------
NET CASH USED IN INVESTING ACTIVITIES............. (14,344) (30,774)
FINANCING ACTIVITIES
Proceeds from debt........................................ 302,458 105,300
Repayments of debt........................................ (23,687) (91,355)
Payment of debt issue costs............................... (9,973) (3,957)
Net proceeds from issuance of common stock................ 3,229 235,977
Other financing activities................................ -- 7,199
---------- --------
NET CASH PROVIDED BY FINANCING ACTIVITIES......... 272,027 253,164
Effect of exchange rate changes on cash and cash
equivalents............................................... (29,696) (4,386)
---------- --------
Net increase in cash and cash equivalents................... 126,484 183,903
Cash and cash equivalents at beginning of period............ 998,510 538,757
---------- --------
CASH AND CASH EQUIVALENTS AT END OF PERIOD.................. $1,124,994 $722,660
========== ========
The accompanying notes are an integral part of these financial statements.
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GLOBAL TELESYSTEMS GROUP, INC.
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
Global TeleSystems Group, Inc. ("GTS" or "the Company"), is a provider of a
broad range of telecommunications services to businesses, other
telecommunications service providers and consumers through its operation of
voice and data networks, international gateways, local access and cellular
networks and the provision of various value-added services in Western Europe,
Central Europe and the Commonwealth of Independent States ("CIS"), primarily
Russia.
The financial statements of GTS included herein are unaudited and have been
prepared in accordance with generally accepted accounting principles for interim
financial reporting and in accordance with Securities and Exchange Commission
regulations. Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted pursuant to such rules and
regulations. Material intercompany affiliate account transactions have been
eliminated; however, other adjustments may have been required had an audit been
performed. In the opinion of management, the financial statements reflect all
adjustments of a normal and recurring nature necessary to present fairly the
Company's financial position, results of operations and cash flows for the
interim periods. These financial statements should be read in conjunction with
the Company's 1998 audited consolidated financial statements and the notes
related thereto. The results of operations for the three months ended March 31,
1999 may not be indicative of the operating results for the full year.
Effective March 4, 1999, the Company completed its business combination
with Esprit Telecom Group plc ("Esprit") which was accounted for as a pooling of
interests. Accordingly, these financial statements have been restated and are
presented as if the companies have been combined since inception.
2. POLICIES AND PROCEDURES
In accordance with Statement of Financial Accounting Standards ("SFAS") No.
130, "Reporting Comprehensive Income", comprehensive loss was $169.3 million and
$51.7 million for the three months ended March 31, 1999 and 1998, respectively,
and was comprised of net loss of $162.2 million and $49.8 million and foreign
currency translation adjustments of $7.1 million and $1.9 million for the three
months ended March 31, 1999 and 1998, respectively.
During 1997, the Company adopted SFAS No. 128, "Earnings Per Share," which
requires the Company to present basic and fully diluted earnings per share for
all periods presented. In accordance with SFAS No.128, "Earnings per Share" the
Company's net loss per share calculation (basic and diluted) is based upon the
weighted average common shares issued. There are no reconciling items in the
numerator or denominator of the Company's net loss per share calculation.
Employee stock options have been excluded from the net loss per share
calculation because their effect would be anti-dilutive.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." The Company expects to adopt the new
statement effective January 1, 2000. The statement will require the Company to
recognize all derivatives on the balance sheet at fair value. The Company does
not anticipate that the adoption of the statement will have a significant effect
on its results of operations or financial position.
3. INVESTMENT IN FLAG ATLANTIC LIMITED
On January 13, 1999, GTS, through its subsidiary GTS Transatlantic Holdings
Ltd., entered into an agreement with FLAG Telecom to form a 50/50 joint venture,
to be known as FLAG Atlantic Limited, that will build and operate a transoceanic
fiber optic link, known as FLAG Atlantic-1 between Europe and the United States.
FLAG Atlantic-1 is designed to carry voice, high-speed data and video traffic at
speeds of
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GLOBAL TELESYSTEMS GROUP, INC.
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
1.28 terabits per second, a 25-fold increase over current transatlantic cable
systems. The joint venture will also provide backhaul links from the European
landing points of the transoceanic link to Paris and London. By interconnecting
to FLAG Atlantic-1, GTS Carrier Services and its subsidiary Hermes Europe
Railtel B.V. ("Hermes Railtel") will be able to provide their carrier and
Internet service provider customers with high-capacity cable access from major
European cities to New York City. GTS's investment in FLAG Atlantic Limited is
designed to enable it to participate in the growth opportunity represented by
the rapid increase in demand by business customers for Internet Protocol-based
telecommunications services. The high-capacity fiber optic link will be based on
synchronous digital hierarchy and use dense wave division multiplexing
technology. FLAG Atlantic Limited is expected to begin offering services in the
last quarter of 2000. The project is subject to financing, the execution of
related agreements and other conditions. The Company has committed to a $100
million equity contribution and a commitment to purchase $150 million worth of
capacity.
3. DEBT OBLIGATIONS
In January 1999, our subsidiary Hermes Railtel issued, through a private
placement, aggregate principal amount $200 million of senior notes due January
15, 2009 (the "Dollar Notes") and Euro 85 million (approximately $100 million)
of senior notes due January 15, 2006 (the "Euro Notes" and together with the
Dollar Notes, the "New Senior Notes"). The New Senior Notes are general
unsecured obligations of Hermes Railtel, with interest payable semiannually at a
rate of 10.375%. Net proceeds from the issuance of the New Senior Notes was
approximately $289.3 million. Hermes Railtel filed an S-4 registration statement
with the Securities and Exchange Commission to exchange registered senior notes,
with the same terms and conditions as the New Senior Notes, for the New Senior
Notes, which became effective in February 1999. The exchange of registered notes
for the New Senior Notes was completed on March 24, 1999.
4. CAPITAL LEASE OBLIGATIONS
During the three months ended March 31, 1999, Hermes Railtel entered into
contractual commitments to lease fiber pairs, including facilities and
maintenance and utilizing the partial routes for laying fiber optic cable. Based
on the contract provisions, these commitments are currently estimated to
aggregate approximately $37.3 million. The commitments have expected lease terms
of ten to fifteen years.
5. SUPPLEMENTAL CASH FLOW INFORMATION
The following table summarizes non-cash investing and financing activities
for the Company:
THREE MONTHS
ENDED
MARCH 31, 1999
--------------
(IN THOUSANDS)
Capitalization of leases.................................... $48,127
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GLOBAL TELESYSTEMS GROUP, INC.
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
6. SEGMENT INFORMATION AND CERTAIN GEOGRAPHICAL DATA
The Company has historically operated in five segments within the
telecommunications industry. The industry consists of a wide range of
telecommunications services to international business customers, including long
distance voice and data services and electronic messaging services. The
following tables present consolidated financial information segmented by the
Company's geographic areas and lines of businesses for the quarters ended March
31, 1999 and 1998. Transfers between geographic areas and lines of businesses
were not considered material for disclosure purposes.
Geographical Data:
NORTHERN
AND CORPORATE
WESTERN CENTRAL OFFICE &
EUROPE CIS EUROPE ASIA ELIMINATIONS TOTAL
---------- -------- -------- -------- ------------ ----------
(IN THOUSANDS)
QUARTER ENDED MARCH 31, 1999
Total revenue.............. $ 140,202 $ 24,186 $ 5,899 917 (323) $ 170,881
Gross margin............... 51,107 14,860 2,413 79 (117) 68,342
Selling, general and
administrative
expenses................ 86,523 9,066 2,072 983 43,665 142,309
Net loss................... (99,564) (9,670) (3,382) (1,001) (48,591) (162,208)
Identifiable assets........ 1,669,521 216,167 45,129 4,494 828,275 2,763,586
Liabilities................ 1,766,079 144,357 29,424 9,841 563,290 2,512,991
Net (liabilities)/assets... (96,558) 71,810 15,705 (5,347) 264,985 250,595
QUARTER ENDED MARCH 31, 1998
Total revenue.............. $ 28,137 $ 13,757 $ 3,904 $ 450 $ -- $ 46,248
Gross margin............... 6,467 4,824 1,768 47 (37) 13,069
Selling, general and
administrative
expenses................ 14,330 7,512 1,448 675 6,277 30,242
Extraordinary items........ -- -- -- -- (12,704) (12,704)
Net loss................... (22,616) (1,708) (474) (957) (24,063) (49,818)
Identifiable assets........ 901,656 105,574 25,044 2,600 406,328 1,441,202
Liabilities................ 817,931 77,987 42,419 19,871 183,263 1,141,471
Net (liabilities)/assets... 83,725 27,587 (17,375) (17,271) 223,065 299,731
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GLOBAL TELESYSTEMS GROUP, INC.
NOTES TO CONDENSED, CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Line of Business Data:
BUSINESS MOBILE CORPORATE,
CARRIER BUSINESS ACCESS SERVICES SERVICES OTHER &
SERVICES SERVICES WE SERVICES CIS CIS ELIMINATIONS TOTAL
---------- ----------- -------- -------- -------- ------------ ----------
(IN THOUSANDS)
QUARTER ENDED MARCH 31, 1999
Total revenue................ $ 57,225 $ 82,977 $ 5,899 $20,136 $ 4,050 $ 594 $ 170,881
Gross margin................. 37,701 13,406 2,413 11,846 3,014 (38) 68,342
Selling, general and
administrative services... 12,933 71,323 4,339 7,029 2,037 44,648 142,309
Net loss..................... (4,103) (93,184) (5,659) (4,633) (5,037) (49,592) (162,208)
Identifiable assets.......... 1,001,066 667,070 46,514 163,501 52,666 832,769 2,763,586
Liabilities.................. 951,906 811,358 32,239 92,955 51,402 573,131 2,512,991
Net (liabilities)/assets..... 49,160 (144,288) 14,275 70,546 1,264 259,638 250,595
QUARTER ENDED MARCH 31, 1998
Total revenue................ $ 4,706 $ 23,431 $ 3,904 $12,934 $ 823 $ 450 $ 46,248
Gross margin................. 1,854 4,613 1,768 4,303 388 143 13,069
Selling, general and
administrative services... 4,425 9,905 1,448 4,948 961 8,555 30,242
Extraordinary items.......... -- -- -- -- -- (12,704) (12,704)
Net loss..................... (9,511) (13,105) (474) 461 (1,218) (25,971) (49,818)
Identifiable assets.......... 508,064 393,592 25,044 76,608 29,298 408,596 1,441,202
Liabilities.................. 450,981 366,950 42,419 52,274 19,247 209,600 1,141,471
Net (liabilities)/assets..... 57,083 26,642 (17,375) 24,334 10,051 198,996 299,731
7. SUBSEQUENT EVENTS
On April 26, 1999, GTS acquired a 52% ownership interest in Omnicom, a
French company, and assumed operational control. On April 27, 1999, GTS
initiated an offer for the remaining shares of Omnicom and as of May 12, 1999,
GTS had acquired 98.9 percent of the fully diluted capital and voting rights of
Omnicom and had paid approximately $314 million in cash and had issued 1,850,497
shares of the Company's common stock.
In April 1999, the Company issued in a private placement 10 million
depositary shares each representing 1/100th of a share of a new series of
cumulative convertible preferred stock. The Company received net proceeds of
$485 million from this issuance, excluding certain transaction costs. Holders of
the depositary shares will be entitled to a quarterly cash payment of $0.90625
per depositary share (or 7 1/4% per year per depositary share) payable on March
15, June 15, September 15 and December 15 of each year commencing on June 15,
1999. Each depositary share will have a liquidation preference of $50 per share
and will be convertible into GTS common stock at $69 per GTS common share. Due
to certain change of control provisions, the preferred stock will be classified
in the balance sheet as mezzanine equity. On May 7, 1999, the Company filed an
S-3 Registration Statement with the Securities and Exchange Commission ("SEC")
to register the depositary shares, the preferred shares and the common shares
into which the Depositary Shares are convertible. The Registration Statement has
not yet been declared effective by the SEC.
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ITEM 2.MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis relates to the financial condition
and results of operations of the Company for the three months ended March 31,
1999 and 1998. This information should be read in conjunction with the Company's
Condensed, Consolidated Financial Statements and the notes related thereto
appearing elsewhere in the document.
SPECIAL NOTE REGARDING FORWARD LOOKING STATEMENTS
Certain statements contained in "Management's Discussion and Analysis of
Financial Condition and Results of Operations" including, without limitation,
those concerning (i) projected traffic volume, (ii) future revenues and costs,
(iii) changes in the Company's competitive environment and (iv) the performance
of future equity-method investments, contain forward-looking statements
concerning the Company's operations, economic performance and financial
condition. Because such statements involve risks and uncertainties, actual
results may differ materially from those expressed or implied by such
forward-looking statements.
In addition, any statements that express, or involve discussions as to,
expectations, beliefs, plans, objectives, assumptions or future events or
performance (often, but not always, through the use of words or phrases such as
"will likely result," "are expected to," "will continue," "is anticipated,"
"estimated," "intends," "plans," "projection" and "outlook") are not historical
facts and may be forward-looking and, accordingly, such statements involve
estimates, assumptions and uncertainties which could cause actual results to
differ materially from those expressed in the forward-looking statements.
Accordingly, any such statements are qualified in their entirety by reference
to, and are accompanied by, the factors discussed throughout this Report. Among
the key factors that have a direct bearing on the Company's results of
operations are the potential risk of delay in implementing the Company's
business plan; the political, economic and legal aspects of the markets in which
the Company operates; competition and the Company's need for additional
substantial financing. These and other factors are discussed herein under
"Business," "Management's Discussion and Analysis of Financial Condition and
Results of Operations" and elsewhere in this Report.
The factors described in this Report could cause actual results or outcomes
to differ materially from those expressed in any forward-looking statements of
the Company made by or on behalf of the Company, and investors, therefore,
should not place undue reliance on any such forward-looking statements. Further,
any forward-looking statement speaks only as of the date on which such statement
is made, and the Company undertakes no obligation to update any forward-looking
statement or statements to reflect events or circumstances after the date on
which such statement is made or to reflect the occurrence of unanticipated
events. New factors may emerge from time to time, and it is not possible for
management to predict all of such factors. Further, management cannot assess the
impact of each such factor on the Company's business or the extent to which any
factor, or combination of factors, may cause actual results to differ materially
from those contained in any forward-looking statements.
OVERVIEW
We are a leading independent provider of telecommunications services to
businesses, other high usage customers and telecommunications carriers in
Western Europe. We also provide telecommunications services in Russia and the
Commonwealth of Independent States (CIS).
From our inception until 1998, we focused on (1) providing
telecommunications services in emerging markets, particularly in Russia and (2)
establishing and developing Hermes Railtel, a venture designed to provide a high
speed transmission network across national borders in Western Europe. We
intended to capitalize on the rapidly growing demand for telecommunications
services in countries emerging from totalitarian rule and state-controlled
economies. In addition, in Western Europe, growing liberalization of regulations
governing the provision of telecommunications services has resulted in a
proliferation of new competitors to the incumbent public telecommunications
operators. At the same time, with the trend toward the increasing globalization
of business, there has been substantial growth in demand for high-quality voice
and data telecommunications. We perceived a need for a fast, efficient and lower
cost cross-border network
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that would carry the traffic of established public telecommunications operators
and other carriers. Since we began operating our Hermes Railtel network in late
1996, the demand for its services has validated our decision to build and
develop such a network.
In 1998, we changed our strategy in response to the economic crisis in
emerging markets and the advent on January 1, 1998 of the deregulation of the
provision of telecommunications services in Western Europe. We also sought to
build on the success of our Hermes Railtel network by developing a plan to
provide telecommunications services, including local access services, directly
to businesses and other customers. In October 1998 we realigned our operations
into five lines of business: GTS Carrier Services, GTS Business Services, GTS
Access Services, GTS Business Services -- CIS and GTS Mobile Services -- CIS.
Our strategy to develop our businesses is to:
- Continue the buildout of the Hermes Railtel network by extending its
coverage and by putting in place a cost-efficient transatlantic link
through our participation in FLAG Atlantic Limited;
- Develop local access infrastructure to facilitate our customers' access
to our network and to exploit what we believe to be an expanding market;
- Capitalize on growth in data/IP traffic by expanding our IP-based
capabilities and product offerings;
- Reinforce and extend market penetration of Hermes Railtel's network by
enhancing the scope, capacity, reliability and efficiency of our
infrastructure, and by providing our own local access; and
- Increase high usage retail customer base and route traffic over our own
network.
As part of our business strategy, we expect to continue to expand through
additional significant acquisitions and by entering into additional joint
ventures and other cooperative business relationships. As part of our business
strategy, we expect to make significant acquisitions in the future. We believe
that additional attractive acquisitions opportunities currently exist in Western
and Central Europe and in the United States and are continually evaluating these
opportunities. Certain of these transactions, if consummated, may be material to
our operations and financial condition. Such acquisitions may not be
successfully integrated or result in projected benefits. We may not be able to
raise the additional capital necessary to fund such acquisitions and may have to
divert resources from other areas. Although we periodically have discussions
with other companies to assess opportunities on an ongoing basis, we do not have
a definitive agreement with respect to any material acquisition or joint
venture.
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RESULTS OF OPERATIONS
The following discussion of our results of operations and liquidity and
capital resource requirements reflect the restatement of our financial results
for 1999 and prior periods as a result of the business combination with Esprit
Telecom, which we accounted for as a pooling of interests.
The following table sets forth our statement of operations as a percentage
of revenues:
THREE MONTHS
ENDED
MARCH 31,
--------------
1999 1998
----- ------
Revenues.................................................... 100.0% 100.0%
Telecommunications services................................. 60.0 71.7
Selling, general and administrative......................... 46.0 65.4
Esprit Telecom business combination costs................... 37.3 --
Depreciation and amortization............................... 23.0 20.6
Equity in losses/(earnings) of ventures..................... 2.4 (7.4)
----- ------
Loss from operations........................................ (68.7) (50.3)
Interest, net............................................... (19.0) (29.1)
Foreign currency losses..................................... (4.8) (4.7)
----- ------
Net loss before income taxes, minority interest and
extraordinary loss........................................ (92.5) (84.1)
Income taxes................................................ 2.2 1.2
Net loss before minority interest and extraordinary loss.... (94.7) (85.3)
Minority interest........................................... (0.2) 5.1
----- ------
Net loss before extraordinary loss.......................... (94.9) (80.2)
Extraordinary loss -- debt refinancing...................... 0.0 (27.5)
----- ------
Net loss.................................................... (94.9)% (107.7)%
===== ======
THREE MONTHS ENDED MARCH 31, 1999 COMPARED TO THE THREE MONTHS ENDED MARCH 31,
1998
Revenue. Our consolidated revenue increased to $170.9 million for the three
months ended March 31, 1999 as compared to $46.2 million for the three months
ended March 31, 1998. Significant components of revenue for the three months
ended March 31, 1999 were Business Services -- Western Europe ($83.0 million),
Carrier Services ($57.2 million) and Business Services -- CIS ($20.1 million).
Revenue for the three months ended March 31, 1998 was primarily comprised of
Business Services -- Western Europe ($23.4 million), Business Services -- CIS
($12.9 million) and Carrier Services ($4.7 million). The growth in revenue was
primarily attributable to the increase in our customer base and resulting
traffic in all of our operations. An additional contributor to the revenue
growth in the first quarter of 1999 was that we followed the consolidation
method of accounting for certain business ventures, whereas in the first quarter
of 1998, these business ventures were accounted for following the equity method
of accounting.
Telecommunications Services. Our costs associated with providing
telecommunications services through our five lines of business in 1999 increased
to $102.5 million or 60.0% of revenues as compared to $33.2 million or 71.7% of
revenues for the first quarter of 1998. The decrease in telecommunication
services as a percentage of revenues in 1999 is attributable to the growth in
our customer revenue offset by increased settlement and interconnect costs paid
to third parties and direct network operating and maintenance costs. Although
telecommunications services costs as a percentage of revenue have decreased, we
continue to incur substantial costs related to the implementation of our
business strategy.
Selling, General and Administrative. Selling, general and administrative
expenses for 1999 increased to $78.6 million or 46.0% of revenues as compared to
$30.2 million or 65.4% of revenues for 1998. The increase in selling, general
and administrative expenses is attributable to increases in the number of staff
associated with business growth, as well as administrative and marketing costs
required for our increased customer base. We expect to establish sales offices
in additional European cities, which involves incurring substantial additional
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start-up costs. Accordingly, our consolidated results of operations will
fluctuate depending on the timing of our expansion strategy. During a period of
rapid expansion, selling, general and administrative expenses will be relatively
higher than during more stable periods of growth.
Esprit Telecom Business Combination Costs. In connection with our business
combination with Esprit Telecom, we recognized a $63.7 million, or 37.3% of
revenue, charge to earnings for transaction and integration costs. This charge
included $45.6 million in transaction costs related to the acquisition,
including investment banking, advisory, debt restructuring, legal, accounting,
printing and employee-related expenses. The remaining charges of $18.1 million
were incurred in connection with the elimination or reduction of redundancies in
the GTS and Esprit Telecom networks through cancellation of fiber leases,
write-off of excess equipment and redeployment of switches.
Depreciation and Amortization. Depreciation and amortization increased to
$39.3 million or 23.0% of revenues for the three months ended March 31, 1999 as
compared to $9.5 million or 20.6% of revenues for the three months ended March
31, 1998. The substantial increase in depreciation and amortization costs is
attributable to the depreciation related to the expansion of our network
infrastructure that we have undertaken over the past several years.
Additionally, we have experienced an increase in amortization expense associated
with goodwill that has arisen principally from our 1999 acquisition activities
(Plusnet and NetSource).
Losses in Ventures. We recognized losses in our investments in
non-consolidated ventures of $4.1 million for the three months ended March 31,
1999 as compared to income of $3.4 million of the three months ended March 31,
1998. Included in these losses/income was our ownership share of losses of $1.9
million and earnings of $4.5 million for the three months ended March 31, 1999
and 1998, respectively.
Interest, net. Interest increased to approximately ($32.5) million in the
first quarter 1999 from ($13.4) million in the first quarter of 1998. This
significant increase in interest is attributable to the substantial increase in
our outstanding debt obligations since the first quarter of 1998 offset by an
increase in interest earned on the short term investments of equity and debt
proceeds.
Foreign Currency Loss. We recognized foreign currency losses of $8.1
million in the first quarter of 1999 as compared to $2.2 million in the first
quarter of 1998. Our foreign currency losses have been primarily attributable to
our unhedged US$ and DEM$ debt obligations outstanding.
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LIQUIDITY AND CAPITAL RESOURCES
CORPORATE
The telecommunications industry is capital intensive. In order for us to
successfully compete, we will require substantial capital to continue to develop
our networks and meet the funding requirements of our operations, including
losses from operations, as well as to provide capital for our acquisition and
business development initiatives. We expect that we will spend over $1.3 billion
in cash over the next three years to meet our capital expenditures, to fund our
operations, and to implement our business plan.
Historically, we have raised capital through a combination of public and
private offerings of equity and debt securities. We have received cash proceeds
of $3.2 million, $370.1 million, $89.8 million and $141.7 million in the first
quarter of 1999 and for the years ended December 31, 1998, 1997 and 1996,
respectively, net of placement costs, associated with the issuance of our common
stock in connection with these offerings, including issuance of warrants and the
exercise of stock options. In addition, the Company received $289.3 million,
$812.0 million, $714.8 million and $60.0 million in gross proceeds in the first
quarter of 1999 and for the years ended December 31, 1998, 1997 and 1996,
respectively, for a total of approximately $1.9 billion under various debt
securities that were issued by Hermes Railtel, Esprit Telecom and ourselves.
We believe that our existing cash balances and cash flow received from
certain operating ventures will be sufficient to fund our currently anticipated
capital needs over at least the next 12 months. However, because we expect
acquisitions will constitute a major part of our business strategy, it is
certainly possible that we will seek additional financing in the future.
Additionally, as our business strategy evolves, we continuously evaluate the
optimal capital structure to ensure that it meets our overall corporate
strategy.
The actual amount and timing of our future capital requirements may differ
materially from our estimates. In particular, the accuracy of our estimates is
subject to changes and fluctuations in our revenues, operating costs and
development expenses, which can be affected by our ability to (1) effectively
and efficiently manage the expansion of the Hermes Railtel network and
operations and the buildout of our local access infrastructure in our targeted
metropolitan markets, (2) effectively and efficiently manage the build-out of
the FLAG Atlantic-1 transatlantic cable, either directly or through our
participation in the FLAG Atlantic joint venture, (3) obtain infrastructure
contracts, rights-of-way, licenses, interconnection agreements and other
regulatory approvals necessary to complete and operate the Hermes Railtel
network, construct our local access infrastructure and offer telecommunications
services to end-users, (4) negotiate favorable contracts with suppliers,
including large volume discounts on purchases of capital equipment and (5)
access markets, attract sufficient numbers of customers and provide and develop
services for which customers will subscribe. Our revenues and costs are also
dependent upon factors that are not within our control such as political,
economic and regulatory changes, changes in technology, increased competition
and various factors such as strikes, weather, and performance by third parties
in connection with our operations. Due to the uncertainty of these factors,
actual revenues and costs may vary from expected amounts, possibly to a material
degree, and such variations are likely to affect our future capital
requirements. In addition, if we expand our operations at an accelerated rate or
consummate acquisitions, our funding needs will increase, possibly to a
significant degree, and we will expend our capital resources sooner than
currently expected. As a result of the foregoing, or if our capital resources
prove to be insufficient, we will need to raise additional capital to execute
our current business plan and to fund expected operating losses, as well as to
consummate future acquisitions and exploit opportunities to expand and develop
our businesses.
We cannot assure you that we will be able to consummate additional
financing on favorable terms. As a result, we may be subject to additional or
more restrictive financial covenants, our interest obligations may increase
significantly and our existing shareholders may be adversely diluted. Failure to
generate sufficient funds in the future, whether from operations or by raising
additional debt or equity capital, may require us to delay or abandon some or
all of our anticipated expenditures, to sell assets, or both, either of which
could have a material adverse effect on our operations.
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HERMES RAILTEL NETWORK
Development of Hermes Railtel's fiber optic network has required and will
continue to require substantial capital. Hermes Railtel raised $265.0 million in
gross proceeds from its offering of senior notes in July 1997 (of which $56.6
million was placed in escrow as an interest reserve). We have spent
approximately $217 million in cash on network capital expenditures through March
31, 1999 and we expect to incur an additional $573 million through 2000 in order
to complete the build-out of the network and enhance its capacity through the
implementation of dense wave division multiplexing and Internet Protocol
technology. In addition, as of March 31, 1999, $308 million has been capitalized
in connection with long-term fiber lease arrangements and an additional $115
million is expected to be capitalized through 2000 in order to complete the
build-out of the network. In January 1999, Hermes Railtel issued $200 million
aggregate principal amount of 10.375% Senior notes due 2009 and E85 million
(approximately $100 million) aggregate principal amount of 10.375% Senior notes
due 2006. These new senior notes have substantially the same terms as the notes
Hermes Railtel issued in 1997. We believe that the net proceeds from the 1997
senior notes and the new senior notes, combined with projected internally
generated funds, should be sufficient to fund expected capital expenditures as
well as payments on the long-term fiber lease arrangements. However, the actual
amount and timing of our future requirements may differ materially from our
estimates. Any failure to obtain necessary financing may require us to delay or
abandon our plans for deploying the remainder of the network.
TRANSOCEANIC SERVICES
We are participating in the construction and operation of the FLAG
Atlantic-1 transoceanic cable through our 50% interest in the Flag Atlantic
Limited joint venture. The terms of the joint venture require that we (1) invest
$100 million for our interest in the venture and (2) purchase capacity on the
cable for $150 million. Although these expenditures are payable over a number of
years, we may be required to cover these payments by posting a fully cash
collateralized letter of credit during the second quarter of 1999. We expect to
fund these cash requirements from existing cash balances. We may also fund or
refinance a portion of these cash requirements through the proceeds of debt or
equity financings that we may execute during 1999.
In addition, the terms of the joint venture contemplate that we will be
responsible in part for constructing the European and U.S. backhaul portion of
the FLAG Atlantic project, that is, the terrestrial portion of the network
connecting the landing points of FLAG Atlantic-1 to Paris, London and New York.
At this time, we estimate that our share of the costs associated with this
portion of the project will be approximately $200 million, of which
approximately $150 million is scheduled to be incurred in 2000. We expect to
meet this cash requirement through a combination of cash on hand and equity or
debt financings. We cannot assure you, however, that we will be able to fund our
expenditures associated with our Transoceanic Services business or that this
business will achieve or sustain profitability or positive cash flow.
ACCESS SERVICES BUILDOUT
We plan to provide local access services in up to 12 major European cities
by the end of 2001. We have announced that we expect to have operating
competitive local exchange carrier networks in Paris, France and Geneva,
Switzerland by the third quarter 1999 and in Berlin, Germany by the fourth
quarter 1999. We plan to develop our infrastructure by constructing, purchasing
or leasing fiber optic networks, developing microwave transmission networks or
through acquisition or partnership. We project that approximately $250 million
will be required through the end of 2000 to implement these networks. We expect
to be able to fund these expenditures through a combination of cash on hand and
equity and debt financings.
We cannot estimate with any degree of certainty the amount and timing of
these future capital requirements or other cash requirements for the
implementation of our Access Services plans. These expenditures will be
dependent on many factors, including the rate at which we roll out our Access
Services networks, the types of services we offer, staffing levels, acquisitions
and customer growth, as well as other factors that are not within our control,
including competitive conditions, regulatory developments and capital costs. We
expect that we will have significant operating and net losses and will record
significant net cash outflow, before financing, in coming years in connection
with our Access Services business. We cannot assure
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you that we will be able to fund the $250 million in projected expenditures or
any additional expenditures or that our Access Services line of business will
achieve or sustain profitability or positive cash flow in the future.
LIQUIDITY ANALYSIS
We had cash and cash equivalents of $1,125.0 million and $998.5 million as
of March 31, 1999 and December 31, 1998, respectively. We had restricted cash of
$121.0 million and $143.4 million as of March 31, 1999 and December 31, 1998,
respectively, that primarily represent amounts held in escrow for debt interest
payments.
In the quarters ended March 31, 1999 and 1998 we used cash of $101.5
million and $34.1 million respectively, for our operating activities. The
significant increase in cash spending for our operations in the quarter ended
March 31, 1999 as compared to 1998 is attributable to the growth of our business
operations which has resulted in higher operating cash costs and accounts
receivable carrying balances. We also used cash of $14.3 million and $30.8
million for our investing activities in the first quarter of 1999 and 1998,
respectively. We cannot assure you that our operations will achieve or sustain
profitability or positive cash flow in the future. If we cannot achieve and
sustain operating profitability or positive cash flow from operations, we may
not be able to meet our debt service obligations or working capital
requirements.
Substantially all of our operations are outside the United States and
therefore our consolidated financial results are subject to fluctuations in
currency exchange rates. Our operations transact their business in the following
significant currencies: Deutschmark, French Franc, British Pound Sterling,
Belgian Franc, Dutch Guilder, the Russian Ruble, and, effective January 1, 1999,
the Euro. For those operating companies that transact their business in
currencies that are not readily convertible, we attempt to minimize our exposure
by indexing our invoices and collections to the applicable dollar/foreign
currency exchange rate to the extent our costs (including interest expense,
capital expenditures and equity) are incurred in U.S. Dollars. Although we are
attempting to match revenues, costs, borrowing and repayments in terms of their
respective currencies, we have experienced, and may continue to experience,
losses and a resulting negative impact on earnings with respect to holdings
solely as a result of foreign currency exchange rate fluctuations, which include
foreign currency devaluations against the U.S. Dollar. Furthermore, certain of
our operations have notes payable and notes receivable which are denominated in
a currency other than their own functional currency or loans linked to the U.S.
Dollar. We may also experience economic loss and a negative impact on earnings
related to these monetary assets and liabilities.
We have developed risk management policies that establish guidelines for
managing foreign exchange risk. We are currently evaluating the materiality of
foreign exchange exposures in different countries and the financial instruments
available to mitigate this exposure. Our ability to hedge our exposure is
limited since certain of our operations are located in countries whose
currencies are not easily convertible. Financial hedge instruments for these
countries are nonexistent or limited and also pricing of these instruments is
often volatile and not always efficient. We designed and implemented reporting
processes to monitor the potential exposure on an ongoing basis in 1998. We will
use the output of this process to execute financial hedges to cover foreign
exchange exposure when practical and economically justified.
In April 1998, we consummated a foreign exchange swap transaction to
mitigate the foreign exchange exposure resulting from the issuance of $265
million senior notes issued by Hermes Railtel.
YEAR 2000 COMPLIANCE
The "Year 2000" issue is the result of computer programs using two digits
rather than four to define the applicable year. Because of this programming
convention, software, hardware or firmware may recognize a date using "00" as
the year 1900 rather than the year 2000. Use of non-Year 2000 compliant programs
could result in system failures, miscalculations or errors causing disruptions
of operations or other business problems, including, among others, a temporary
inability to process transactions and invoices or engage in similar normal
business activities.
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Issues Posed by the Year 2000 Issue. We are exposed to the Year 2000 issue
in a number of ways. Among other things, the Year 2000 issue might affect our:
(1) computer hardware and software; (2) telecommunications equipment and other
systems with embedded logic (among other things, this includes our fire
detection, access control systems, heating, ventilation and air conditioning,
and uninterruptible power supply); (3) operating partners and organizations upon
which we are dependent; (4) local access connections, upon which we are
dependent; and (5) supply chain.
Our Year 2000 Compliance Program. We have initiated a Year 2000 compliance
program to address the aforementioned risks which the Year 2000 issue poses and
to avoid any material loss or impact to us or our customers due to these risks.
The object of this Year 2000 compliance program is to ensure that neither the
performance nor functionality of our operations are affected by dates, prior to,
during and after 2000. The scope of the Year 2000 compliance program includes
all of the business functions, locations and resources which are essential to
us. The resources which are within the scope of the Year 2000 compliance program
are, among other things, our computer systems, software, vendor supplied
software, telecommunications equipment, third party telecommunications partners
and other network service suppliers, environmental and building control systems,
internal communication systems and other interfaces with third party services.
As explained below, our efforts to assess our systems as well as non-system
areas related to Year 2000 compliance involve (1) a wide-ranging assessment of
the Year 2000 problems that may affect us, (2) the development of remedies to
address the problems discovered in the assessment phase and (3) testing of the
remedies.
Assessment Phase. The assessment phase includes internal and third party
review of potential risks associated with the availability, integrity and
reliability of operational systems necessary to conduct business. During the
assessment phase we have identified substantially all of our major hardware and
software platforms, applications, telecommunications equipment and other non-IT
resources that support the business functions. The assessment phase of the Year
2000 compliance program further identified the internal and external technical
interfaces, third party business relationships and internally developed systems
which might be materially impacted by Year 2000 issues. Our observations from
the assessment phase during the third and fourth quarters of 1998 is that most
of our telecommunications equipment and software has been purchased within the
past three years and the majority is already compliant or can be made compliant
with minor upgrades. We completed the assessment phase of our Year 2000
readiness in the fourth quarter of 1998.
Remediation, Prevention and Testing Phases. Based on those resources
identified in the assessment phase, we developed a detailed plan in the fourth
quarter of 1998, that will then be followed by an upgrade, a remediation, a
prevention and a testing phase in early 1999. These phases are expected to be
completed during the second quarter of 1999.
Assessment of Third Party Compliance. As noted above, we have also
undertaken under our Year 2000 compliance program to assess and monitor the
progress of third party vendors in resolving Year 2000 issues. To ensure the
compliance of vendors of hardware and software applications used by us, we are
obtaining confirmations from our primary telecommunication vendors, business
partners and hardware and software vendors as to what plans, if any, are being
developed or are already in place to address their ability to process
transactions in the Year 2000. We intend to continue follow up with any vendors
who indicate any material problems in their replies. We expect to receive
statements of intended compliance by mid-1999.
Our Worst Case Scenario. Our worst case scenario would be the failing of
our telecommunications equipment, power providers and/or interfaces with other
telecommunication vendors and either or both of the following:
- a loss of interconnect capacity from one or more major suppliers of
transmission capacity; and
- our inability to record, track or invoice billable minutes which could
ultimately cause us to temporarily stop carrying traffic.
These cases would create business interruption at some of our operations
and would adversely affect our revenues. For example, the Moscow power
authorities have publicly stated that they do not intend to address Year 2000
issues until problems arise. However, we have operations that are geographically
diversified;
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therefore, it is not anticipated that the worst case scenario would affect all
operations at the same time. Additionally, if power failures occur, we currently
have diesel generators at certain of our major sites. Based on our assessment
during the third and fourth quarters of 1998, we do not foresee a material loss
due to these conditions and management is hopeful that our remediation and
testing efforts will ensure that we have addressed our Year 2000 readiness.
However, we cannot assure you that Year 2000 non-compliance by our systems or
the systems of vendors, customers, partners or others will not result in a
material adverse effect.
Contingency Plans. We are considering a contingency plan to address our
worst case scenario; however, certain of the initiatives are subject to
execution risk. This risk would include the ability to have access to diesel
fuel or large generators should power failures occur, the ability to quickly
replace telecommunications equipment and the ability to contract with
alternative telecommunication and maintenance providers at reasonable terms.
Moreover, we are further limited in resources in certain geographical regions
due to the market volatility and weak economies in which we have business
operations.
Costs Related to the Year 2000 Issue. We expect that we will incur between
$10.0 million to $11.5 million in expenses to complete the assessment, detailed
planning, remediation, prevention and testing phases, exclusive of replacement
costs for telecommunications equipment and software, of which approximately $4.9
million had been incurred during 1998. It is estimated that between $5.0 million
to $6.0 million of the total expenditure will be required to complete the
remediation and testing phase, excluding the replacement of telecommunications
equipment and software. We have currently identified that certain
telecommunications equipment and software will need to be replaced and we
anticipate that we will incur approximately $2.0 million to replace the
identified telecommunications equipment and software. Further, we are currently
unable to quantify the total costs that we may incur for the replacement of all
telecommunications equipment and software due to the stage of our Year 2000
readiness review. These costs will be funded from operating cash flows and
expensed as incurred. In addition, the preceding cost estimate does not include
amounts associated with the accelerated acquisition of replacement systems as
none are included in the initial assessment during the third and fourth quarters
of 1998. We do not expect that the costs of addressing our Year 2000 readiness
will have a material effect on our financial condition or results of operations.
However, we cannot assure you that Year 2000 non-compliance by our systems or
the systems of vendors, customers, partners or others will not result in a
material adverse effect for us.
Risks Related to the Year 2000 Issue. Although our efforts to be Year 2000
compliant are intended to minimize the adverse effects of the Year 2000 issue on
our business and operations, the actual effects of the issue will not be known
until 2000. Difficulties in implementing the remediation or prevention phases or
failure by us to fully implement the planning or remediation phases or the
failure of our major vendors, third party network service providers, and other
material service providers and customers to adequately address their respective
Year 2000 issues in a timely manner would have a material adverse effect on our
business, results of operations, and financial condition. For a comprehensive
discussion of Year 2000 risks.
IMPACT OF THE EURO
On January 1, 1999, eleven of the fifteen member countries of the European
Union, including Belgium, The Netherlands, Ireland, France, Germany, Italy and
Spain established fixed conversion rate between their existing sovereign
currencies and a new currency called the "Euro." These countries adopted the
Euro as their common legal currency on that date. The Euro trades on currency
exchanges and is available for non-cash transactions. Hereafter and until
January 1, 2002, the existing sovereign currencies will remain legal tender in
these countries. On January 1, 2002, the Euro is scheduled to replace the
sovereign legal currencies of these countries.
We have significant operations within the European Union including many of
the countries that have adopted the Euro. We are currently evaluating the impact
the Euro will have on our continuing business operations and no assurances can
be given that the Euro will not have material adverse affect on our business,
financial condition and results of operations. However, we do not expect the
Euro to have a material effect on our competitive position as a result of price
transparency within the European Union as we have always operated as a
pan-European business with transparent pricing in ECU for the majority of our
customers.
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Moreover, we are evaluating our ability to update our information systems to
accommodate the adoption of the Euro but we do not expect to incur material
costs in either the evaluating or the updating of such systems. In addition, we
cannot accurately predict the impact the Euro will have on currency exchange
rates or on our currency exchange risk.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
We are exposed to market risk from changes in interest rates on long-term
obligations and as a global company, we also face exposure to adverse movements
in foreign currency exchange rates. A portion of the our debt obligations are
denominated in currencies which expose us to risks associated with changes in
foreign exchange rates. We have developed risk management policies that
establish guidelines for managing foreign exchange risk and periodically
evaluates the materiality of foreign exchange exposures and the financial
instruments available to mitigate this exposure.
Our subsidiary, Hermes Railtel, entered into a foreign currency swap
agreement in 1998 in order to mitigate its exposure on US dollar denominated
debt. We also attempt to mitigate this and other exposures from debt obligations
denominated in exposed currencies by maintaining assets in the exposed currency
wherever possible. We find it impractical to hedge all foreign currency exposure
and as a result will continue to experience foreign currency gains and losses.
The introduction of the Euro as a common currency for members of the European
Union occurred on January 1, 1999. We have not determined what impact, if any,
the Euro will have on our foreign exchange exposure.
The following are the significant changes since December 31, 1998:
- -- In January 1999, Hermes Railtel, a subsidiary of the Company, issued $200
million 10.375% senior notes due January 15, 2009 which exposes Hermes
Railtel to interest and foreign exchange rates, and the issuance of Euro 85
million 10.375% senior notes due January 15, 2006 which exposes Hermes
Railtel to changes in interest rates.
- -- In April 1999, we issued $500 million of depositary shares representing a new
series of 7 1/4% cumulative convertible preferred stock in a private
offering. We have filed a registration statement covering these securities
with the Securities and Exchange Commission under the Securities Act of 1933.
The issuance of these equity securities exposes us to changes in interest
rates.
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PART II
OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
None.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
c) In April 1999, we issued for cash, pursuant to exemptions from
registration under the Securities Act of 1933 (the 'Securities Act"), 10 million
depositary shares, each representing 1/100 of a new series of cumulative
convertible preferred stock. The underwriters for the sale were Merrill Lynch &
Co.; Donaldson, Lufkin & Jenrette; Bear, Stearns & Co., Inc.; BT Alex. Brown;
Lehman Brothers. Gross proceeds for the sale of the depositary shares were $500
million. The underwriters' discount was $15 million. We received net proceeds,
before other expenses associated with the sale, of $485 million. We sold the
depositary shares pursuant to Rule 144A and, as to non-U.S. persons, pursuant to
Regulation S under the Securities Act. See Note 7 to the Company's unaudited
Condensed, Consolidated Financial Statements included in this report for
additional information concerning the depositary shares and the preferred stock.
d) In January 1999, our subsidiary, Hermes Railtel, issued, through a
private placement, aggregate principal amount $200 million of senior notes due
January 15, 2009 and Euro 85 million (approximately $100 million) of senior
notes due January 15, 2006 (together, the "New Senior Notes"). The New Senior
Notes were subsequently replaced with similar registered securities. The net
proceeds from the New Senior Notes was approximately $289.3 million. Such net
proceeds will be used to finance the cost of network assets, to permit the
network expansion beyond the originally contemplated scope, for the Hermes
Railtel subsidiary. Accordingly, there were no direct or indirect payments to
directors or officers of the Company or the Hermes Railtel subsidiary or to any
persons or entity.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On March 3, 1999, we held a special meeting of shareholders to approve the
issuance of shares of our common stock in connection with our acquisition of
Esprit Telecom Group plc. This matter was approved by the shareholders by the
following vote: 40,909,851 shares "for," 2,765 shares "against," and 5,545
shares abstaining.
ITEM 5. OTHER INFORMATION
See Note 7 to the Company's unaudited Condensed, Consolidated Financial
Statements included in this report.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
A. Exhibits
DESIGNATION DESCRIPTION
- ----------- -----------
10 -- Employment agreement between the Company and H.
Brian Thompson
27 -- Financial Data Schedule
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B. Reports on Form 8-K
DATE OF REPORT SUBJECT OF REPORT
-------------- -----------------
January 13, 1999 Formation of a 50/50 joint venture with FLAG Telecom
to build and operate a transoceanic fiber optic
link between Europe and the United States to be
known as FLAG Atlantic-1
November 30, 1998, Acquisition of NetSource Europe ASA
Amended on January 20,
1999
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SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934,
the registrants have duly caused this report to be signed on their behalf by the
undersigned thereunto duly authorized.
GLOBAL TELESYSTEMS GROUP, INC.
(Registrant)
By: /s/ WILLIAM H. SEIPPEL
----------------------------------
Name: William H. Seippel
Title: Executive Vice President
and
Chief Financial Officer (Principal
Financial and Accounting Officer)
Date: May 17, 1999
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EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION
----------- -----------
10 -- Employment Agreement
27 -- Financial Data Schedule