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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
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(Mark One)
[X] Quarterly report under Section 13 or 15(d) of the Securities Exchange Act
of 1934 for the quarterly period ended March 31, 2001.
[ ] 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 000-26153
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HIGH SPEED ACCESS CORP.
(Exact name of Registrant as specified in its charter)
DELAWARE 61-1324009
(State or other jurisdiction of (I.R.S. Employer Identification Number)
incorporation or organization)
10901 WEST TOLLER DRIVE
LITTLETON, COLORADO 80127
(Address of principal executive offices, including zip code)
720/922-2500
(Registrant's telephone number, including area code)
FORMER NAME, FORMER ADDRESS, AND FORMER YEAR, IF CHANGED SINCE LAST REPORT:
NOT APPLICABLE
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 [ ]
Number of shares of Common Stock outstanding as of April 30, 2001...58,809,052
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INDEX
PAGE
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
Condensed Consolidated Balance Sheets as of March 31, 2001 (Unaudited) and
December 31, 2000 3
Condensed Consolidated Statements of Operations for the three
months ended March 31, 2001 and 2000 (Unaudited) 4
Condensed Consolidated Statements of Cash Flows for the
three months ended March 31, 2001 and 2000 (Unaudited) 5
Notes to Condensed Consolidated Financial Statements (Unaudited) 6
Item 2 - Management's Discussion and Analysis of Financial Condition and Results of Operations 8
Item 3 - Quantitative and Qualitative Disclosures About Market Risk 25
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings 25
Item 2 - Changes in Securities and Use of Proceeds 25
Item 3 - Defaults upon Senior Securities 26
Item 4 - Submission of Matters to a Vote of Security Holders 26
Item 5 - Other Information 26
Item 6 - Exhibits and Reports on Form 8-K 26
Signatures 27
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PART I - FINANCIAL INFORMATION
ITEM 1 - FINANCIAL STATEMENTS
HIGH SPEED ACCESS CORP.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
MARCH 31, DECEMBER 31,
2001 2000
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(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents $ 84,625 $ 114,847
Short-term investments 7,065 15,698
Accounts receivable, net of allowance for doubtful accounts of $464
and $296, respectively 2,897 2,087
Prepaid expenses and other current assets 3,766 3,818
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Total current assets 98,353 136,450
Property, equipment and improvements, net 60,095 63,008
Intangible assets, net 3,820 4,197
Deferred distribution agreement costs, net 12,880 11,783
Other non-current assets 5,270 4,269
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Total assets $ 180,418 $ 219,707
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LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 11,865 $ 15,395
Accrued compensation and related expenses 4,468 6,757
Other current liabilities 9,720 9,073
Long-term debt, current portion 2,709 2,633
Capital lease obligations, current portion 8,050 7,790
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Total current liabilities 36,812 41,648
Long-term debt 1,731 2,313
Capital lease obligations 9,475 11,380
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Total liabilities 48,018 55,341
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Commitments and contingencies
Stockholders' equity:
Convertible preferred stock, $.01 par value (aggregate liquidation preference
of $75.0 million), 10,000,000 shares authorized, 75,000 shares issued and
outstanding at March 31, 2001 and December 31, 2000 1 1
Common stock, $.01 par value, 400,000,000 shares authorized, 58,684,052
shares issued and outstanding at March 31, 2001 and December 31, 2000 587 587
Class A common stock, 100,000,000 shares authorized, none issued
and outstanding - -
Additional paid-in capital 738,916 737,215
Deferred compensation (636) (713)
Accumulated deficit (606,607) (573,217)
Accumulated other comprehensive income 139 493
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Total stockholders' equity 132,400 164,366
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Total liabilities and stockholders' equity $ 180,418 $ 219,707
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The accompanying notes are an integral part of these
condensed consolidated financial statements.
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HIGH SPEED ACCESS CORP.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE THREE MONTHS ENDED MARCH 31, 2001 AND 2000
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
(UNAUDITED)
2001 2000
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Net revenue $ 7,004 $ 1,994
Costs and expenses:
Operating 22,097 15,946
Engineering 7,279 4,912
Sales and marketing 4,634 6,216
General and administrative:
Non-cash compensation expense from stock options, warrants and
restricted stock 77 24
Amortization of distribution agreement costs 604 225
Other general and administrative expenses 6,471 4,033
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Total general and administrative 7,152 4,282
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Total costs and expenses 41,162 31,356
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Loss from operations (34,158) (29,362)
Investment income 1,417 2,125
Interest expense (649) (490)
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Net loss available to common stockholders $ (33,390) $ (27,727)
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Basic and diluted net loss available to common stockholders per share $ (0.57) $ (0.51)
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Weighted average shares used in computation of basic and diluted net loss
available to common stockholders per share 58,684,052 54,329,031
The accompanying notes are an integral part of these
condensed consolidated financial statements.
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HIGH SPEED ACCESS CORP.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE THREE MONTHS ENDED MARCH 31, 2001 AND 2000
(IN THOUSANDS)
(UNAUDITED)
2001 2000
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OPERATING ACTIVITIES
Net loss $ (33,390) $ (27,727)
Adjustments to reconcile net loss to cash used in operating activities:
Depreciation and amortization 9,128 3,603
Non-cash compensation expense from stock options, warrants and restricted stock 77 24
Amortization of distribution agreement costs 604 225
Changes in operating assets and liabilities
Accounts receivable (810) (213)
Prepaid expenses and other current assets 52 342
Other non-current assets (1,001) (321)
Accounts payable (6,657) (1,482)
Accrued compensation and related expenses (2,289) (871)
Other current liabilities 647 2,214
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Net cash used in operating activities (33,639) (24,206)
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INVESTING ACTIVITIES
Purchases of short-term investments (1,534) (65,883)
Sales and maturities of short-term investments 9,813 101,483
Purchases of property, equipment and improvements, net of leases (2,388) (7,912)
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Net cash provided by investing activities 5,891 27,688
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FINANCING ACTIVITIES
Payments on capital lease obligations (1,968) (2,443)
Proceeds from long-term debt - 1,213
Payments on long-term debt (506) (414)
Proceeds from exercise of stock options - 376
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Net cash used by financing activities (2,474) (1,268)
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Net change in cash and cash equivalents (30,222) 2,214
Cash and cash equivalents, beginning of period 114,847 53,310
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Cash and cash equivalents, end of period $ 84,625 $ 55,524
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SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
Equipment acquired under capital leases $ 323 $ 885
Property and equipment purchases payable $ 1,403 $ 6,543
Warrants earned in connection with distribution agreements $ 1,701 $ -
The accompanying notes are an integral part of these
condensed consolidated financial statements.
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ITEM 1 - NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
NOTE 1 - THE COMPANY AND BASIS OF PRESENTATION
THE COMPANY
High Speed Access Corp. and its subsidiaries (hereinafter referred to as the
Company, we, us, or our) provides high speed Internet access to residential and
commercial end users primarily using cable modem technology. The Company focuses
primarily on residential end users in exurban areas, although the Company has
recently begun providing broadband services in some urban markets. The Company
defines exurban markets as cable systems with fewer than 100,000 homes passed.
The term "homes passed" refers to the number of homes that potentially can be
served by a cable system. The Company enters into long-term exclusive contracts
with cable system operators to provide a suite of services on a comprehensive
"turnkey" basis, as well as on an unbundled or "Network Services" basis. These
services enable a cable system's customers to receive high speed Internet
access.
In exchange for providing the Company with access to its customers in the
turnkey solution, we pay the cable operator a portion of the monthly fees
received from an end user that subscribes to our services. In an unbundled or
Network Services solution, we deliver fewer services and incur lower costs than
a turnkey solution, but also earn a smaller percentage of the subscription
revenue or a fixed fee on a per subscriber basis. Under the Network Services
solution, our cable partners will typically bill the end user and will remit to
us our percentage of the revenue or the fixed fee. Network Services solutions
have become a significant part of our business mix, and we anticipate this trend
will continue.
We intend to offer facilities-based Digital Subscriber Line ("DSL") Internet
access services. Additionally, we are expanding our offering of services to
include expanded web site hosting and a range of other value-added and ongoing
support services, all primarily for small and medium enterprises ("SMEs"). We
also intend to continue expanding our suite of core connectivity and related
value-added services, both domestically and internationally, as broadband
technology proliferates and additional services become viable. The Company also
provides, on a limited basis, standard Internet access through traditional
dial-up service to residential and SME customers.
BASIS OF PRESENTATION
The unaudited condensed consolidated financial statements included herein
reflect all adjustments, consisting only of normal recurring adjustments, which
in the opinion of management are necessary to present fairly the Company's
financial position, results of operations and cash flows for the periods
presented. Certain information and footnote disclosures normally included in
audited financial information prepared in accordance with generally accepted
accounting principles have been condensed or omitted pursuant to the Securities
and Exchange Commission's rules and regulations.
The results of operations for the period ended March 31, 2001 are not
necessarily indicative of the results to be expected for any subsequent quarter
or for the entire fiscal year ending December 31, 2001. These financial
statements should be read in conjunction with the financial statements and notes
thereto included in our Annual Report on Form 10-K for the fiscal year ended
December 31, 2000.
LIQUIDITY
The Company has incurred losses from operations and negative cash flows from
operating activities since April 3, 1998 ("Inception"), which have been funded
primarily through the issuance of equity securities and borrowings. Management
expects to experience substantial negative cash flows for at least the next
several years. As of March 31, 2001, the Company had $91.7 million of cash, cash
equivalents and short-term investments which management believes are sufficient
to meet the Company's cash needs in 2001. Management is closely monitoring the
level of expenditures and cash commitments. Continued implementation of the
Company's business plan will be dependent upon obtaining additional financing by
no later than early 2002 to fund operations, to finance investments in equipment
and corporate infrastructure needed for the Company's planned expansion, to
enhance and expand the range of services the Company offers and to respond to
competitive pressures and perceived opportunities, such as investment,
acquisition and international expansion activities. Management is evaluating the
availability of additional financing. There can be no assurance that additional
financing will be available on terms favorable to the Company, or at all. If
additional financing is not available on acceptable terms, the Company will be
forced to curtail operations, which could have a material adverse effect on the
Company. Such curtailment of operations would involve significant amendments to
the Company's current business plan including,
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but not limited to some or all of the following: a delay in further deployment
of certain services, administrative and operating expense reductions, a
reduction in planned capital expenditures, reduction of our sales and marketing
efforts, sales of certain assets or sale of the Company.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make certain estimates and
assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported results of operations during the reporting period.
These estimates are based on knowledge of current events and anticipated future
events. Actual results could differ from those estimates.
NOTE 2 - ADOPTION OF ACCOUNTING PRONOUNCEMENT
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivatives and Hedging Activities" ("SFAS 133") as amended by
SFAS 138, which establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts (collectively referred to as derivatives) and for hedging activities.
SFAS 133 requires that all derivatives be recognized as either assets or
liabilities in the balance sheet at their fair value, and sets forth the manner
in which gains or losses thereon are to be recognized. The treatment of such
gains or losses is dependent upon the type of exposure, if any, the derivative
is designated to hedge. The Company adopted SFAS 133 effective January 1, 2001.
The adoption did not have a material impact on the Company's financial position,
results of operations or cash flows.
NOTE 3 - LOSS PER SHARE
The Company computes net loss available to common stockholders per share
under the provisions of SFAS No. 128, "Earnings per Share," ("SFAS 128"). Under
the provisions of SFAS 128, basic net loss available to common stockholders per
share is computed by dividing the net loss available to common stockholders for
the period by the weighted average number of shares of common stock outstanding
during the period.
Diluted earnings per share is determined in the same manner as basic earnings
per share, except that the number of shares is increased assuming exercise of
dilutive stock options and warrants using the treasury stock method and assuming
conversion of preferred stock. In addition, income or loss is adjusted for
dividends and other transactions relating to preferred stock for which
conversion is assumed. The calculation of diluted net loss available to common
stockholders per share excludes potential common shares if the effect is
dilutive.
Basic and diluted net loss available to common stockholders per share for the
three months ended March 31, 2001 and 2000, were $0.57 and $0.51 based on
weighted average shares outstanding of 58,684,052 and 54,329,031, respectively.
Diluted loss available to common stockholders per share equals basic loss
available to common stockholders per share because the assumed exercise of the
Company's stock options and warrants and the assumed conversion of preferred
stock are dilutive.
Options and warrants to purchase 10,086,960 shares and 3,864,664 shares of
common stock at March 31, 2001 and 2000, respectively, were excluded from the
calculation of net loss available to common stockholders per share.
There is a potential to issue additional warrants pursuant to the agreements
set forth in Note 5. These potential warrants have been excluded from the
calculation above because they are not currently measurable and would be
dilutive. In the future, the Company also may issue additional stock or warrants
to purchase its common stock in connection with its efforts to expand the
distribution of its services. Stockholders could face additional dilution from
these possible future transactions.
NOTE 4 - COMPREHENSIVE LOSS
Comprehensive loss, comprised of net loss available to common stockholders
and net unrealized holding gains and losses on investments, totaled $33.7
million and $28.2 million for the three months ended March 31, 2001 and 2000,
respectively.
NOTE 5 - DISTRIBUTION AGREEMENTS
As an inducement to certain cable partners to commit systems, the Company
issues warrants to purchase its common stock in connection with Network Service
agreements and other agreements, collectively referred to as distribution
agreements. The Company
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values warrants to purchase its common stock using an accepted options pricing
model based on the value of the stock when the warrants and options are earned.
The Company recognizes an addition to equity for the fair value of any warrants
issued, and recognizes the related expense over the term of the agreement with
the respective cable system, generally four to five years, in accordance with
Emerging Issues Task Force Issue No. 96-18, "Accounting for Equity Instruments
that are Issued to Other than Employees for Acquiring or in Conjunction with
Selling, Goods or Services."
In May 2000, the Company entered into a second Network Services agreement
with Charter Communications, Inc. ("Charter"), a related party. Under this
agreement, Charter committed to provide the Company exclusive right to provide
Network Services related to the delivery of Internet access to homes passed in
certain cable systems. We will provide Network Services, including system
monitoring and security as well as call center support. Charter will receive the
warrants described in the following paragraph as an incentive to provide the
Company additional homes passed, although it is not obligated to do so. Charter
can terminate these exclusivity rights, on a system-by-system basis, if the
Company fails to meet performance specifications or otherwise breaches the
agreement. The agreement has an initial term of five years and may be renewed at
Charter's option for additional successive five-year terms.
In connection with the second Network Services agreement, the Company and
Charter entered into an amended and restated warrant to purchase up to
12,000,000 shares of common stock at an exercise price of $3.23 per share and
terminated two warrants that had been issued to Charter in November 1998. The
new warrant becomes exercisable at the rate of 1.55 shares for each home passed
committed to us by Charter under the Network Services agreement entered into by
Charter and us in November 1998. The warrant also becomes exercisable at the
rate of .775 shares for each home passed committed to us by Charter under the
Network Services agreement entered into in May 2000 up to 5,000,000 homes
passed, and at a rate of 1.55 shares for each home passed in excess of
5,000,000. Charter also has the opportunity to earn additional warrants to
purchase shares of common stock upon any renewal of the May 2000 agreement. Such
a renewal warrant will have an exercise price of $10 per share and will be
exercisable to purchase .50 shares for each home passed in the systems for which
the May 2000 agreement is renewed. With respect to each home passed, launched or
intended to be launched on or before the second anniversary date of the second
Network Services agreement, the Company will pay Charter, at Charter's option, a
launch fee of $3.00 per home passed committed. As of March 31, 2001, the Company
has paid Charter approximately $4.8 million of launch fees related to launched
systems or systems to be deployed in the near future. The launch fees paid will
be amortized over the remaining term of the agreement.
For the three months ended March 31, 2001, the Company recognized $3.5
million of revenue under these distribution agreements.
As of March 31, 2001, various cable partners, including Charter, had earned
2,735,406 warrants under distribution agreements of which 508,641 of these
warrants were earned at a cost of $1.7 million in the three months ended March
31, 2001. Deferred distribution agreement costs of $12.9 million, net of
accumulated amortization of $3.4 million were recorded in conjunction with these
warrants at March 31, 2001. Amortization of distribution agreement costs of $0.6
million and $0.2 million were recognized in the statement of operations for the
three months ended March 31, 2001 and 2000, respectively. Additional deferred
distribution agreement costs may be recorded and amortized in future periods
should the cable partners earn the right to purchase additional common shares
based on the number of homes passed committed to the Company. At March 31, 2001,
there were 15,064,594 additional warrants available to be earned under
distribution agreements.
NOTE 6 - COMMITMENTS AND CONTINGENCIES
The Company is not a party to any material legal proceedings. In the opinion
of management, the amount of ultimate liability with respect to any known
actions will not materially affect the financial position, results of operations
or cash flows of the Company.
NOTE 7 - BUSINESS DEVELOPMENTS
In April 2001, the Company notified its cable partners that it intends to
discontinue turnkey services in the majority of its one-way cable TV markets.
The change, which will affect fewer than four percent of the Company's
subscribers, may be accomplished by modifying the contractual relationship
between the Company and the cable operator from turnkey services to Network
Services or by terminating service in these markets. If service is terminated,
the Company may incur certain termination fees and asset write-downs.
ITEM 2 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Quarterly Report on Form 10-Q contains certain statements of a
forward-looking nature relating to future events or the future financial
performance of the Company. Such statements are only predictions, involve risks
and uncertainties, and actual events or
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results may differ materially from the results discussed in the forward-looking
statements. Factors that could cause or contribute to such differences include
those discussed under the caption "Management's Discussion and Analysis of
Financial Condition and Results of Operations - Risk Factors" as well as those
discussed in other filings with the Securities and Exchange Commission,
including the Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 2000.
OVERVIEW
We provide high speed Internet access to residential and commercial customers
primarily via cable modems. We focus primarily on residential and commercial end
users in exurban areas, although we have begun to provide broadband services in
some urban markets. The Company defines exurban markets as cable systems with
fewer than 100,000 homes passed. The term "homes passed" refers to the number of
homes that potentially can be served by a cable system. We enter into long-term
exclusive contracts with cable system operators to provide a suite of services
on a comprehensive "turnkey" basis as well as on an unbundled or "Network
Services" basis. These services enable a cable system's customers to receive
high speed Internet access.
In our turnkey solution, we generate revenue primarily from the monthly fees
we receive from end users for our cable modem-based Internet access services and
for the traditional dial-up services we offer as part of our end user
acquisition strategy. In our turnkey solution, we generally bill the end user
directly and pay our cable partners a portion of the monthly fee we receive. In
these instances, we report our revenues net of the percentage split we pay to
our cable partners. For promotional purposes, we often provide new end users
with 30 days of free Internet access when they subscribe to our services. As a
result, our revenue does not reflect new end users until the end of the
promotional period. We also receive revenues from renting cable modems to end
users.
We also offer services to our cable partners on an unbundled or "Network
Services" basis. In a Network Services solution, we deliver fewer services and
incur lower costs than in a turnkey solution but will also earn a smaller
percentage of the subscription revenue or a fixed fee on a per subscriber basis.
Our cable partners typically bill the end user and remit to us our percentage of
the revenue or the fixed fee. In May 2000, the Company entered into a second
Network Services agreement with Charter in which the Company has agreed to
provide unbundled services. Network Services solutions have become a significant
part of our business mix and we anticipate this trend will continue.
We also provide certain services, primarily engineering services related to
design and installation of data network hardware and software necessary to offer
Internet service via cable modems, on a fee for service basis.
Our revenue from dial-up services, as a percentage of total revenue, has been
decreasing and, we expect, will continue to decline over time as our high speed
business and other service revenue grows. Moreover, although we expect cable
modem rentals to be a significant part of our revenue during the next few years,
we expect our cable modem rental income to decline as cable modems become
commercially available at lower costs through retail stores and as they become
standard features of personal computers. However, we expect this reduction to be
partially offset by a reduction in the cost of purchasing and installing cable
modems for end users.
We provided DSL Internet access on a limited basis through reseller
arrangements. We terminated these DSL reseller agreements during the first
quarter of 2001, but we intend to offer facilities-based DSL services in the
future. DSL revenue was not a significant portion of total revenue during the
three months ended March 31, 2001 or during 2000, but we anticipate that our
business will become more dependent upon providing facilities-based DSL service
to commercial customers in the future.
We are also expanding our offering of services to include web site hosting
and a range of other value-added and ongoing support services, all primarily for
SMEs. We also intend to continue expanding our suite of core connectivity and
related value-added services, both domestically and internationally, as
broadband technology proliferates and additional services become viable.
Our expenses consist of the following:
- Operating costs, which consist primarily of salaries and related personnel
expenses for customer care, field technical support and network operations
center employees and web site design and development personnel;
telecommunications expenses, including charges for Internet backbone and
telecommunications circuitry; allocated cost of facilities; costs of
installing cable modems for our end users; and depreciation and
maintenance of equipment. In one-way cable systems, where the end user
transmits data back to the cable headend via a standard telephone line, we
must support the telephone return path from the local telephone company's
central office to the cable headend. Accordingly, we incur greater
telecommunications costs in a one-way system than we incur in a two-way
system. Consequently, the number of one-way systems in which we provide
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service will affect our operating margins. In April 2001, the Company
notified certain cable partners that it intends to discontinue turnkey
services in the majority of its one-way cable TV markets. The change,
which will affect fewer than four percent of the Company's subscribers,
may be accomplished by modifying the contractual relationship between the
Company and the cable operator from turnkey services to Network Services
or by terminating service in these markets. If service is terminated, the
Company may incur certain termination fees and write-down of assets. We
may also incur significant fees if we cancel our telecommunications
contracts in advance of the expiration of the term of the contract. Many
of our operating costs are relatively fixed in the short term. However, as
we add new end users we hope to be able to spread these costs over a
larger revenue base, and, accordingly, decrease our costs per subscriber
and improve our operating margins.
- Engineering expenses, which consist primarily of salaries and related
costs for the development and support of our information systems; network
design and installation of the telecommunications and data network
hardware and software; system testing and project management expenses;
allocated cost of facilities; and depreciation and maintenance on the
equipment used in our engineering processes.
- Sales and marketing expenses, which consist primarily of salaries and
related personnel expenses, commissions, costs associated with the
development and distribution of sales and marketing materials, the
preparation of database market analytics, and direct mail and
telemarketing expenses.
- Non-cash compensation expense from stock options, warrants and restricted
stock consists of the fair market value of our stock at the time of grant
over the exercise price of the stock options granted to employees and
directors amortized over the vesting period and the fair market value of
non-distribution agreement warrants and restricted stock issued to
employees amortized over the vesting period.
- Amortization of distribution agreement costs, which relates to warrants
issued to cable and strategic partners in connection with network services
and other distribution related agreements, collectively referred to as
distribution agreements. We measure the cost of warrants issued to cable
and strategic partners based on the fair values of the warrants when
earned by those partners. Because the fair value of the warrant is
dependent to a large extent on the price of our common stock, the cost of
warrants earned in the future may vary significantly. Costs of warrants
granted in connection with distribution agreements are amortized over the
term of the underlying agreement.
- Other general and administrative expenses, which consist primarily of
salaries for our executive, administrative, finance and human resource
personnel; amortization of goodwill; and fees for professional services.
Our operating results have varied on a quarterly basis during our short
operating history and may fluctuate significantly in the future due to a variety
of factors, many of which are outside our control. In addition, the results of
any quarter do not indicate the results to be expected for a full fiscal year.
The factors that may contribute to fluctuations in our operations are set forth
generally under the caption "Management's Discussion and Analysis of Financial
Conditions and Results of Operations - Risk Factors" and particularly in that
section under the heading "Our Quarterly Operating Results Are Likely To
Fluctuate Significantly And May Be Below Our Expectations And The Expectations
Of Analysts And Investors". As a result of such factors, our annual or quarterly
results of operations may be below the expectations of public market analysts or
investors, in which case the market price of the common stock could be
materially and adversely affected.
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED MARCH 31, 2001 COMPARED WITH
THE THREE MONTHS ENDED MARCH 31, 2000
REVENUES
Net revenue consists of net monthly subscription fees for cable modem-based
and traditional dial-up Internet services, cable modem rental income, fees for
engineering services provided to cable partners, international infrastructure
services, monthly fees for web hosting services and overall strategic
consulting. Total net revenue for the three months ended March 31, 2001 and 2000
was $7.0 million and $2.0 million respectively, an increase of $5.0 million.
For the quarters ending March 31, 2001 and 2000, revenue by product offering as
a percentage of total net revenue was as follows:
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% OF NET REVENUE
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2001 2000
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Cable modem-based subscription fees - Turnkey 33% 48%
Cable modem-based subscription fees - Network Services 24% 3%
Traditional dial-up service fees 7% 20%
Cable modem rental fees 17% 24%
Engineering services provided to cable partners 5% 3%
International infrastructure services 5% --
Web hosting 4% --
Other revenue 5% 2%
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100% 100%
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COSTS AND EXPENSES
OPERATING. Operating costs for the three months ended March 31, 2001 and 2000
were $22.1 million and $15.9 million, respectively, an increase of $6.2 million.
The increase in operating costs resulted primarily from an increase in personnel
and personnel related costs for additional staff in our customer care
department, additional personnel costs associated with the purchase of Digital
Chainsaw ("Digital"), an increase in telecommunications expense from the rollout
of our service to new markets, our larger subscriber base, additional
depreciation of capital equipment from the expansion of our network and the
installation of cable modems for additional subscribers.
ENGINEERING. Engineering expenses for the three months ended March 31, 2001
and 2000 were $7.3 million and $4.9 million, respectively, an increase of $2.4
million. The increase in engineering expenses resulted from the development and
support of information systems, continued network design, system testing and
project management for the evaluation of new equipment and possible new product
offerings, including the offering of service via DSL, an increase in personnel
and personnel-related costs for additional technical staff to support cable
modem services and additional depreciation on capital equipment.
SALES AND MARKETING. Sales and marketing expenses for the three months ended
March 31, 2001 and 2000 were $4.6 million and $6.2 million, respectively, a
decrease of $1.6 million. The decrease in sales and marketing expenses resulted
primarily from lower direct advertising costs and lower marketing costs aimed at
obtaining new cable partners.
NON-CASH COMPENSATION EXPENSE FROM STOCK OPTIONS, WARRANTS AND RESTRICTED
STOCK. Non-cash compensation expense from stock options, warrants and restricted
stock for the three months ended March 31, 2001 and 2000 was $77,000 and
$24,000, respectively. These expenses represent the excess of the fair market
value of our common stock over the exercise price of the stock options granted
to employees and directors amortized over the vesting period, the amortization
of common stock purchase warrants issued to contractors and the fair value of
restricted stock amortized over the restriction period.
AMORTIZATION OF DISTRIBUTION AGREEMENT COSTS. Amortization of distribution
agreement costs for the three months ended March 31, 2001 and 2000 was $0.6
million and $0.2 million, respectively, an increase of $0.4 million. The costs
consist of the amortization of the value of warrants earned under distribution
agreements for commitments of homes passed. The Company had issued 2,735,406 and
198,744 warrants in connection with distribution agreements at March 31, 2001
and 2000, respectively. We expect to incur additional material non-cash charges
related to further issuance of common stock purchase warrants to our cable and
strategic partners in the future. We will recognize an addition to equity for
the fair value of any warrants issued, and will recognize the related expense
over the term of the service agreement with the cable or strategic partner to
which the warrants relate. The amount of any such charges is not determinable
until the related warrants are earned. The use of warrants in these and similar
transactions may increase the volatility of our earnings in the future.
In May 2000, the Company and Charter entered into an amended and restated
warrant to purchase up to 12,000,000 shares of our common stock at an exercise
price of $3.23 per share. The restated warrant becomes exercisable at the rate
of 1.55 shares for each home passed committed to us by Charter under the Network
Services agreement entered into by Charter and us in November 1998. The warrant
also becomes exercisable at the rate of .775 shares for each home passed
committed to us by Charter under the second Network Services agreement entered
into in May 2000 up to 5,000,000 homes passed and at a rate of 1.55 shares for
each home passed in excess of 5,000,000. Charter also has the opportunity to
earn additional warrants to purchase shares of our common stock upon any renewal
of the May 2000 agreement. Such a renewal warrant will have an exercise price of
$10 per share and will be exercisable to purchase one-half of a share for each
home passed in the systems for which the May 2000 agreement is renewed.
OTHER GENERAL AND ADMINISTRATIVE. Other general and administrative expenses
for the three months ended March 31, 2001 and 2000 were $6.5 million and $4.0
million, respectively, an increase of $2.5 million. The increase in other
general and administrative expenses resulted from severance costs associated
with the termination of certain employees, additional personnel and personnel
related costs to administer the procurement, accounting and finance functions,
as well as additional depreciation on capital equipment
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and amortization of intangible assets associated with the purchase of Digital.
NET INVESTMENT INCOME. Net investment income for the three months ended March
31, 2001 and 2000 was $0.8 million and $1.6 million, respectively. The decrease
in investment income for the three months ended March 31, 2001, is the result of
lower investment balances during the first quarter of 2001. Net investment
income represents interest earned on cash, cash equivalents and short-term
investments.
INCOME TAXES. At December 31, 2000, we accumulated net operating loss
carryforwards for federal and state tax purposes of approximately $182.1 million
which will expire beginning in 2018. At December 31, 2000, we had net deferred
tax assets of $77.6 million relating principally to our accumulated net
operating losses. Our ability to realize the value of our deferred tax assets
depends on our future earnings, if any, the timing and amount of which are
uncertain. We have recorded a valuation allowance for the entire net deferred
tax asset as a result of those uncertainties. Accordingly, we did not record any
income tax benefit for net losses incurred for the three months ended March 31,
2001 and 2000.
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 2001, we had cash and cash equivalents of $84.6 million and
short-term investments of $7.1 million, compared with $114.8 million of cash and
cash equivalents and $15.7 million of short-term investments at December 31,
2000. We had significant negative cash flow from operating activities for the
three months ended March 31, 2001. Cash used in operating activities for the
three months ended March 31, 2001 was $33.6 million, caused primarily by a net
loss of $33.4 million, an increase in current and non-current assets of $1.7
million, a decrease in accounts payable, accrued expenses and other current
liabilities of $8.3 million, offset by non-cash expenses of $9.8 million.
Cash provided by investing activities for the three months ended March 31,
2001 was $5.9 million, the result of sales and maturities of short-term
investments of $9.8 million, offset by purchases of short-term investments of
$1.5 million. Also, capital expenditures totaled $2.4 million for the three
months ended March 31, 2001. The principal capital expenditures incurred during
this period were for the purchase of cable modems and central network hardware
and software, reflecting our expansion into new markets, and costs associated
with the implementation of our billing and customer care systems.
Cash used by financing activities for the three months ended March 31, 2001
was $2.5 million, comprised of net payments on capital lease obligations and
long-term debt.
We expect to experience substantial negative cash flow from operating
activities and negative cash flow from investing activities for at least the
next several years due to continued deployment of our services into new markets
and the enhancement of our network and operations. Our future cash requirements
will depend on a number of factors including:
- The mix of services offered by us, including whether we provide our
services on a turnkey or Network Services basis;
- The pace of the rollout of our service to our cable partners, including
the impact of substantial capital expenditures and related operating
expenses;
- The rate at which we enter into contracts with cable operators for
additional systems;
- The rate at which end users subscribe to our services;
- Changes in revenue splits with our cable partners;
- Price competition in the Internet and cable industries;
- Capital expenditures and costs related to infrastructure expansion;
- The rate at which our cable partners convert their systems from one-way to
two-way systems;
- End user turnover rates;
- Our ability to protect our systems from telecommunications failures, power
loss and software-related system failures;
- Changes in our operating expenses including, in particular, personnel
expenses;
- Our ability to offer DSL services through the acquisition of
facilities-based DSL assets;
- The introduction of new products or services by us or our competitors; and
- Economic conditions specific to the Internet and cable industries, as well
as general economic and market conditions.
INVESTMENT PORTFOLIO. Cash equivalents are highly liquid investments with
insignificant interest rate risk and original maturities of 90 days or less and
are stated at amounts that approximate fair value based on quoted market prices.
Cash equivalents consist principally of investments in interest-bearing money
market accounts with financial institutions and highly liquid investment-grade
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debt securities of corporations and the U.S. Government.
Short-term investments are classified as available-for-sale and, as a result,
are stated at fair value. Short-term investments are principally comprised of
highly-liquid debt securities of corporations and the U.S. Government. We record
changes in the fair market value of securities held for short-term investment as
an equal adjustment to the carrying value of the security and stockholders'
equity.
LOAN FACILITIES. The Company has $3.9 million outstanding under various loan
facilities and $0.5 million outstanding on a note payable to a related party at
March 31, 2001. The related party note matured on and was paid on April 1, 2001.
The interest rate on draws on the loan facilities ranged from 14.63% to 15.52%
as of March 31, 2001.
We expect to incur $8.0 million to $12.0 million of capital expenditures in
2001 principally related to cable modems, data centers, and furniture and
telephone and computer equipment for customer care facilities. Actual capital
expenditures will be significantly affected by the rate at which end users
subscribe to our cable modem Internet access services, which requires us to
purchase a cable modem for each new end user where we provide turnkey services,
as well as the pace of the rollout of our systems, which requires us to purchase
headend data network hardware and software.
The Company has incurred losses from operations and negative cash flows from
operating activities since Inception, which have been funded primarily through
the issuance of equity securities and borrowings. Management expects to
experience substantial negative cash flows for at least the next several years.
As of March 31, 2001, the Company had $91.7 million of cash, cash equivalents
and short-term investments which management believes are sufficient to meet the
Company's cash needs in 2001. Management is closely monitoring the level of
expenditures and cash commitments. Continued implementation of the Company's
business plan will be dependent upon obtaining additional financing by no later
than early 2002 to fund operations, to finance investments in equipment and
corporate infrastructure needed for the Company's planned expansion, to enhance
and expand the range of services the Company offers and to respond to
competitive pressures and perceived opportunities, such as investment,
acquisition and international expansion activities. Management is evaluating the
availability of additional financing. Such financing could involve the issuance,
or deemed issuance, of additional shares of capital stock at a price below the
conversion price of our convertible preferred stock held by Vulcan Ventures,
Incorporated ("Vulcan") and Charter, which would result in a downward adjustment
of the conversion price. In the event of such an adjustment, the number of
shares of common stock issuable upon conversion of the convertible preferred
stock would be increased pursuant to the weighted average formula described
below under the caption "Management's Discussion and Analysis of Financial
Condition and Results of Operations - Risk Factors - Our Convertible Preferred
Stock Contains Anti-dilution Adjustments and Restrictions On Our Future
Activities". There can be no assurance that additional financing will be
available on terms favorable to the Company, or at all. If additional financing
is not available on acceptable terms, the Company will be forced to curtail
operations, which could have a material adverse effect on the Company. Such
curtailment of operations would involve significant amendments to the Company's
current business plan including, but not limited to some or all of the
following: a delay in further deployment of certain services, administrative and
operating expense reductions, a reduction in planned capital expenditures,
reduction of our sales and marketing efforts, sales of certain assets or sale of
the Company. Furthermore, additional equity or debt financing could give rise to
any or all of the following:
- Additional dilution to our current stockholders;
- The issuance of securities with rights, preferences or privileges senior
to those of the existing holders of our common stock; and
- The issuance of securities with covenants imposing restrictions on our
operations.
Charter can require any lender with liens on our equipment placed in Charter
headends to deliver to Charter a non-disturbance agreement as a condition to
such financing. We can offer no assurance that we will be able to obtain
additional secured equipment financing for Charter systems subject to such a
condition or that a potential lender will be able to negotiate acceptable terms
of non-disturbance with Charter.
ADOPTION OF ACCOUNTING PRONOUNCEMENT
In June 1998, the Financial Accounting Standards Board issued SFAS No. 133,
"Accounting for Derivatives and Hedging Activities" ("SFAS 133") as amended by
SFAS 138, which establishes accounting and reporting standards for derivative
instruments, including certain derivative instruments embedded in other
contracts (collectively referred to as derivatives) and for hedging activities.
SFAS 133 requires that all derivatives be recognized as either assets or
liabilities in the balance sheet at their fair value, and sets forth the manner
in which gains or losses thereon are to be recognized. The treatment of such
gains or losses is dependent upon the type of exposure, if any, the derivative
is designated to hedge. The Company adopted SFAS 133 effective January 1, 2001.
The adoption did
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not have a material impact on the Company's financial position, results of
operations or cash flows.
RISK FACTORS
You should carefully consider the following factors and other information in
this Form 10-Q and other filings we make with the Securities and Exchange
Commission before trading in our common stock. If any of the following risks
actually occur, our business and financial results could be materially and
adversely affected. In that case, the trading price of our common stock could
decline and you could lose all or part of your investment.
RISKS RELATED TO OUR OPERATIONS
WE CANNOT PREDICT OUR SUCCESS BECAUSE OUR BUSINESS MODEL IS UNPROVEN, HAS
CHANGED IN THE PAST AND MAY CONTINUE TO CHANGE.
Our success depends on continued growth in the use of the Internet and high
speed access services. Although Internet usage and popularity have grown
rapidly, we cannot be certain that this growth will continue at its present
rate, or at all. Critical issues concerning the increased use of the
Internet--including security, reliability, cost, ease of access, ease of
installation and customer acquisition and quality of service--remain unresolved
and are likely to affect the development of the market for our services.
Moreover, many industry analysts believe that Internet access providers will
become increasingly reliant upon advertising, barter and subscription-based
revenues from content due to competitive pressures to provide low cost or even
free Internet access.
The success of our business ultimately will depend upon the acceptance of our
services by end users. We continue to introduce new services, make changes to
our product offerings to meet customer demands and to respond to changes in our
evolving industry.
Although our primary service offering is high bandwidth Internet access, we
currently derive a portion of our revenue from standard dial-up Internet access.
We cannot predict whether demand for our high speed Internet access services
will develop, particularly at the volume or prices we need to become profitable.
Even if sufficient demand for our high speed services is generated, we may be
unable to deploy our services at the rate required to satisfy demand.
Additionally, we believe that Network Services will become an increasingly
important part of our business. Under the Network Services arrangements, such as
the one we signed with Charter on May 12, 2000, covering a minimum of 5 million
homes passed, we will earn less revenue, and absorb less operating expense, per
end user, than under a turnkey arrangement. In our Network Services solution, we
deliver fewer services and incur lower costs than in a turnkey solution but will
also earn a smaller percentage of the subscription revenue or a fixed fee on a
per subscriber basis.
We are committed to incorporating DSL technology as a key part of our ongoing
strategy for the SME market. Our intent is to purchase facilities-based assets
to pursue our DSL strategy. There is no assurance that we will be able to
successfully identify and purchase DSL assets, let alone enough DSL assets for
us to establish a significant footprint. Competition for the purchase of these
assets from larger and better-capitalized companies may make it difficult for us
to acquire these assets cost-effectively or at all. Even if we purchase DSL
assets, there is no assurance that our DSL operations will be successful.
Consequently, there is no assurance that we will be successful in
implementing our DSL strategy, and it is quite possible that our business will
continue to rely on our cable modem service, which may not be well suited for
many SMEs and for which market acceptance has been slow.
OUR BUSINESS IS DIFFICULT TO EVALUATE BECAUSE WE HAVE A LIMITED OPERATING
HISTORY.
Our predecessor companies began offering services to cable operators in
October 1997. Most of our cable modem deployments occurred within the last
eighteen months. Our senior management team and other employees have worked
together at our Company for only a short period of time. We have recognized only
limited revenues since our Inception. We do not consider any of the markets in
which we operate to be mature. Finally, we have recently expanded our business
to provide additional product offerings. As a result of our limited operating
history, as evidenced by the preceding examples, our business is difficult to
evaluate.
WE HAVE NOT BEEN PROFITABLE AND EXPECT FUTURE LOSSES.
Since our founding, we have not been profitable. We have incurred substantial
costs to create and introduce our broadband Internet access services, to operate
these services, and to grow our business. We incurred net losses of
approximately $254.7 million from
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April 3, 1998 ("Inception") through March 31, 2001. Our limited operating
history, the dynamic nature of our industry, changes in our business model and
our ambitious growth plans make predicting our operating results, including
operating expenses, difficult.
We expect to incur substantial losses and experience substantial negative
cash flow from operations for at least the next several years as we expand our
business. The principal costs of expanding our business will include:
- The costs of acquiring DSL facilities-based assets and the associated
operating costs;
- Direct and indirect selling, marketing and promotional costs;
- System operational expenses, including the lease of our Internet backbone,
which has a traffic capacity in excess of our current needs;
- Costs incurred in connection with staffing levels to meet our growth;
- The acquisition and installation of the equipment, software and
telecommunications circuits necessary to enable our cable partners to
offer our services or to add additional products and services; and
- Costs in connection with acquisitions, divestitures, business alliances or
changing technologies.
If any of these costs or expenses is not accompanied by an increase in revenues,
then our business and financial results could be materially and adversely
affected.
WE WILL NEED ADDITIONAL CAPITAL IN THE FUTURE AND IT MAY NOT BE AVAILABLE ON
ACCEPTABLE TERMS.
The Company has incurred losses from operations and negative cash flows from
operating activities since Inception, which have been funded primarily through
the issuance of equity securities and borrowings. Management expects to
experience substantial negative cash flows for at least the next several years.
As of March 31, 2001, the Company had $91.7 million of cash, cash equivalents
and short-term investments which management believes are sufficient to meet the
Company's cash needs in 2001. Management is closely monitoring the level of
expenditures and cash commitments. Continued implementation of the Company's
business plan will be dependent upon obtaining additional financing by no later
than early 2002 to fund operations, to finance investments in equipment and
corporate infrastructure needed for the Company's planned expansion, to enhance
and expand the range of services the Company offers and to respond to
competitive pressures and perceived opportunities, such as investment,
acquisition and international expansion activities. Management is evaluating the
availability of additional financing. Such financing could involve the issuance,
or deemed issuance, of additional shares of capital stock at a price below the
conversion price of our Series D convertible preferred stock held by Vulcan and
Charter, which would result in a downward adjustment of the conversion price. In
the event of such an adjustment, the number of shares of common stock issuable
upon conversion of the convertible preferred stock would be increased pursuant
to the weighted average formula described below under the caption "Management's
Discussion and Analysis of Financial Condition and Results of Operations - Risk
Factors - Our Series D Convertible Preferred Stock Contains Anti-dilution
Adjustments and Restrictions on our Future Activities". There can be no
assurance that additional financing will be available on terms favorable to the
Company, or at all. If additional financing is not available on acceptable
terms, the Company will be forced to curtail operations, which could have a
material adverse effect on the Company. Such curtailment of operations would
involve significant amendments to the Company's current business plan including,
but not limited to some or all of the following: a delay in further deployment
of certain services, administrative and operating expense reductions, a
reduction in planned capital expenditures, reduction of our sales and marketing
efforts, sales of certain assets or sale of the Company. Furthermore, additional
equity or debt financing could give rise to any or all of the following:
- Additional dilution to our current stockholders;
- The issuance of securities with rights, preferences or privileges senior
to those of the existing holders of our common stock; and
- The issuance of securities with covenants imposing restrictions on our
operations.
Charter can require any lender with liens on our equipment placed in Charter
headends to deliver to Charter a non-disturbance agreement as a condition to
such financing. We can offer no assurance that we will be able to obtain
additional secured equipment financing for Charter systems subject to such a
condition or that a potential lender will be able to negotiate acceptable terms
of non-disturbance with Charter.
See "Management's Discussion and Analysis of Financial Condition and Results
of Operations - Liquidity and Capital Resources."
OUR ABILITY TO ATTRACT AND RETAIN END USERS DEPENDS ON MANY FACTORS WE CANNOT
CONTROL.
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Our ability to increase the number of our end users, and our ability to
retain end users, will depend on a number of factors, many of which are beyond
our control. These factors include:
- Our ability to enter into and retain agreements with cable operators;
- The speed at which our cable partners acquire new end users in Network
Services systems;
- The speed at which we are able to deploy our services, particularly if we
cannot obtain on a timely basis, the telecommunications circuitry
necessary to connect DSL customers and cable headend equipment to the
Internet;
- The speed at which our competitors are able to deploy their service
offerings;
- Our success in marketing our connectivity, web hosting and other advanced
services to new and existing end users;
- Competition, including new entrants advertising free or lower-priced
Internet access and/or alternative access technologies;
- Whether our cable partners maintain their cable systems or upgrade their
systems from one-way to two-way service;
- Whether incumbent local exchange carriers maintain and upgrade their loops
to support DSL services;
- The quality of the customer and technical support we provide; and
- The quality of the content we offer.
In addition, our service is currently priced at a premium to many other
online services and many end users may not be willing to pay a premium for our
service. Because of these factors, our actual revenues or the rate at which we
will add new end users may differ from past increases, the forecasts of industry
analysts, or a level that meets the expectations of investors.
OUR QUARTERLY OPERATING RESULTS ARE LIKELY TO FLUCTUATE SIGNIFICANTLY AND MAY BE
BELOW OUR EXPECTATIONS AND THE EXPECTATIONS OF ANALYSTS AND INVESTORS.
Our revenues and expenses, and in particular our quarterly revenues, expenses
and operating results have varied in the past and may fluctuate significantly in
the future due to a variety of factors, many of which are outside of our
control. These factors include:
- The pace of the rollout of DSL services to end users and our cable modem
service to our cable partners, including the impact of substantial capital
expenditures and related operating expenses;
- Whether and the rate at which we enter into contracts with cable operators
for additional systems;
- The rate at which new end users subscribe to our services, the rate at
which these customers are installed and provisioned for service, and the
rate at which we retain these customers, net of customers who disconnect;
- Changes in revenue splits with our cable partners;
- Price competition in the Internet, telecommunications and cable
industries;
- The extent to which we provide Network Services, rather than turnkey
access;
- Capital expenditures and costs related to infrastructure expansion;
- The rate at which our cable partners convert their systems from one-way to
two-way systems;
- Our ability to protect our systems from telecommunications failures, power
loss and software-related system failures;
- Changes in our operating expenses including, in particular, personnel
expenses;
- The success of our cost control measures;
- The introduction of new products or services by us or our competitors;
- Our ability to enter into strategic alliances with content providers; and
- Economic conditions specific to the Internet and cable industries, as well
as general economic and market conditions.
In addition, our operating expenses are based on our expectations of the
future demand for our services and are relatively fixed in the short term. We
may be unable to adjust spending quickly enough to offset any unexpected demand
surge or shortfall in demand. A shortfall in revenues in relation to our
expenses could have a material and adverse effect on our business and financial
results.
The quarter-to-quarter comparisons of our results of operations should not be
relied upon as an indication of future performance. It is possible that in some
future periods our results of operations may be below our expectations and the
expectations of public market analysts and investors. In that event, the price
of our common stock is likely to fall.
WE MAY NOT BE ABLE TO ESTABLISH OR MAINTAIN ACCEPTABLE RELATIONSHIPS WITH CABLE
OPERATORS.
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Our success depends, in part, on our ability to gain access to cable
customers. We gain that access through our agreements with cable operators.
There can be no assurance that we will be able to establish or maintain
relationships with cable operators. Even if we are able to establish and
maintain those relationships, there can be no assurance that we will be able to
do so on terms favorable to us or in the quantities we need to become
profitable. If we fail to form partnerships rapidly with a large number of cable
operators, we can be effectively excluded from providing our services in the
systems owned by those operators. Not only can other cable-based broadband
service providers compete against us for an exclusive contract, the cable
operator may decide to offer cable-based Internet services directly without
assistance from us or our competitors. Delays in forming relationships and
deploying our cable-based services also create windows of time for alternative
broadband access providers to enter the market and acquire customers.
Furthermore, in order to rapidly deploy our services within a market, we
typically begin installation of our equipment and related telecommunications
circuits prior to the execution of final documentation. If we are unable to
finalize our contractual relationship with a cable operator, if the exclusive
relationship between us and our cable partners, or between our cable partners
and their cable customers, is impaired, or if we do not become affiliated with a
sufficient number of cable operators, our business and financial results could
be materially and adversely affected.
OUR LARGEST CABLE PARTNER CAN TERMINATE ITS CONTRACT WITH US.
Our largest cable partner is Charter. Charter is an affiliate of Vulcan, an
affiliate of Microsoft co-founder Paul Allen, who may be deemed to beneficially
own 49.0% of our outstanding common stock as of March 31, 2001, assuming 100%
conversion of the Company's convertible preferred stock and the exercise of
2,559,351 warrants owned by Charter. We have entered into several agreements
with Charter, including several Network Services agreements. The first Network
Services agreement was entered into in November 1998 and the second in May 2000.
Under both agreements, Charter has committed to provide us the exclusive right
to provide network services related to the delivery of Internet access to homes
passed in some cable systems.
Under the May 2000 agreement, we will provide Network Services, including
call center support for cable modem customers as well as network monitoring,
troubleshooting and security services. The agreement has an initial term of five
years and may be renewed at Charter's option for additional successive five-year
terms. In a Network Services solution, we deliver fewer services and incur lower
costs than in turnkey solutions, but will also earn a smaller percentage of the
subscription revenue based on a fixed fee per subscriber. Under the November
1998 agreement, we have primarily provided turnkey services.
Subject to the provisions of the Network Service agreements, Charter can
terminate our exclusivity rights, on a system-by-system basis, if we fail to
meet performance specifications or otherwise breach our agreement. Moreover,
Charter can terminate the November 1998 agreement, for any reason, as long as it
purchases the associated cable headend equipment and modems at book value and
pays us a termination fee based on the net present value of the revenues we
otherwise would earn for the remaining term of the agreement from those end
users subscribing to our services as of the date of termination. We may be
unable to meet the benchmarks related to its customer penetration rates.
Further, Charter may decide to terminate either agreement for any other reason.
If Charter were to terminate either agreement, in whole or for any material
system, regardless of any termination fee we may receive, we would lose end
users and market share, and likely be forced to incur significant unanticipated
costs to establish alternative arrangements, which may not be available on
competitive terms, or at all.
OUR AGREEMENTS WITH VULCAN VENTURES COULD CONSTRAIN OUR ABILITY TO GENERATE
REVENUES FROM PROVIDING CONTENT AND FUTURE SERVICES OUR END USERS MAY DEMAND.
Under our programming content agreement with Vulcan, Vulcan has the right to
require us to carry, on an exclusive basis in all cable systems we serve,
content it designates. Vulcan content may include start-up and related web
pages, electronic programming guides, other multimedia information and telephony
services. We will not share in any revenues Vulcan may earn through the content
or telephony services it provides. We must provide all equipment necessary for
the delivery of Vulcan content, although Vulcan will reimburse us for any costs
we incur in excess of $3,000 per cable headend. Vulcan cannot charge us for any
Vulcan content through November 2008; after that date we will be obligated to
pay Vulcan for this content at the lowest fee charged to any Internet service
provider who subscribes to Vulcan content.
Vulcan has the right to prohibit us from providing content or telephony
services that compete with Vulcan content at Vulcan's discretion and can require
us to remove competing content. Many industry analysts believe that Internet
access will become increasingly reliant upon revenues from content due to
competitive pressures to provide low cost or even free Internet access. If
Vulcan were to require us to remove our content or substitute its telephony
services for any we might provide, we could lose a source of additional revenues
and might not recover all related costs of providing our content or telephony
services. Vulcan's ability to
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prohibit us from providing content and telephony services means that Vulcan's
interests are not necessarily aligned with those of our other stockholders.
OUR CONVERTIBLE PREFERRED STOCK CONTAINS ANTI-DILUTION ADJUSTMENTS AND
RESTRICTIONS ON OUR FUTURE ACTIVITIES.
In December 2000, we closed the sale of 75,000 shares of our convertible
preferred stock for an aggregate purchase price of $75.0 million. Vulcan
purchased 38,000 and Charter purchased 37,000 shares, each at a price of $1,000
per share. Paul Allen controls Vulcan and Charter. The shares of convertible
preferred stock initially are convertible at a conversion price of $5.01875 per
share into 14,943,960 shares of common stock. The conversion price is subject to
an anti-dilution adjustment which would increase the number of shares issuable
to Vulcan and Charter upon conversion of the convertible preferred stock if we
issue common stock (or are deemed to issue common stock) at below the conversion
price.
The terms of the convertible preferred stock also place significant
restrictions on our activities in the future. Among other things, these
constraints will require us to:
- Obtain the approval of Vulcan and Charter before declaring a dividend,
entering into a merger, acquisition, consolidation, business combination,
or other similar transaction, or issuing any debt or equity securities;
- Provide Vulcan and Charter with a right of first refusal to purchase
shares of stock, common or otherwise, that we may offer in the future; and
- Offer and make available to Vulcan, Charter and their affiliates,
licensing and business arrangements relating to our technologies, products
and services, of any combination thereof, on terms and conditions at least
as favorable as those agreed to with any third party at substantially the
same level of purchase or other financial commitment.
Because the convertible preferred stock has voting rights, its issuance has a
dilutive effect on the relative voting power of our common stockholders. You
should also be aware that conversion of the convertible preferred stock into
shares of common stock will have a dilutive effect on earnings per share of our
common stockholders. In addition, you should note that we may issue additional
shares of common stock in connection with the payment of dividends or conversion
price adjustments on the convertible preferred stock, which may increase the
number of shares of common stock issued in connection with the transaction.
ONE-WAY CABLE SYSTEMS INCREASE OUR OPERATING COSTS AND MAY NOT PROVIDE THE
QUALITY NECESSARY TO ATTRACT CUSTOMERS.
Although our service can operate in one-way cable systems where data can be
transmitted at high speeds from the cable headend to the end user, the end user
in a one-way system can only transmit data back to the cable headend via a
standard phone line. Because we must support the telephone return component of
the system, we incur higher operating costs in one-way systems. Presently,
three-fourths of the systems where we are or will soon operate our services are
two-way systems. Over time, we expect most, if not all, of our cable partners to
upgrade and or rebuild their plants to provide increased bandwidth and two-way
capabilities. We believe faster uploads and the elimination of phone line return
costs make our service more valuable and may lead to higher customer penetration
rates, which in turn benefits the cable operator through higher revenue.
However, upgrading a cable system can be expensive and time-consuming for the
cable operator. Delays in upgrading one-way cable plants also makes our services
vulnerable to competition from alternative broadband technologies, and may make
our cable partners vulnerable to overbuilds by competitors.
Moreover, we do not require our cable partners to make these upgrades and
they have no legal obligation to do so. Consequently, if our cable partners do
not upgrade to two-way capability at the rate we anticipate, our financial
results may be negatively affected.
In April 2001, the Company notified its cable partners that it intends to
discontinue turnkey services in the majority of its one-way cable TV markets.
The change, which will affect fewer than four percent of the Company's
subscribers, may be accomplished by modifying the contractual relationship
between the Company and the cable operator from turnkey services to Network
Services or by terminating service in these markets. If service is terminated,
the Company may incur certain termination fees and write-down of assets.
WE MAY HAVE DIFFICULTY MANAGING OUR GROWTH PLANS.
To manage our anticipated growth, we must continue to implement and improve
our operational, financial and management information systems; hire, train and
retain additional qualified personnel; continue to expand and upgrade core
technologies; and effectively manage our relationships with our end users,
suppliers and other third parties. Our expansion could place a significant
strain on our current services and support operations, sales and administrative
personnel, and other resources. While we believe that
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we generally have adequate controls and procedures in place for our current
operations, our billing software is not adequate to meet our growth plans. We
are in the process of replacing our billing software with an integrated billing
and customer care software system that we believe is capable of meeting our
planned future needs, but can offer no assurances that we will successfully
achieve such replacement, or if we do achieve such replacement, that we will do
so within a time frame that will permit us to achieve our growth objectives. We
could also experience difficulties meeting demand for our products and services.
Additionally, if we are unable to provide training and support for our products,
the implementation process will be longer and customer satisfaction may be
lower. We may pursue acquisitions in the implementation of our growth plans. If
we acquire a company, we could have difficulty integrating its operations, or
assimilating and retaining its key personnel. In addition, if the demand for our
service exceeds our ability to provide our services on a timely basis, we may
lose customers. There can be no assurance that our systems, procedures or
controls will be adequate to support our operations or that our management will
be capable of exploiting fully the market for our products and services. The
failure to manage our growth effectively could have a material adverse effect on
our business and financial results.
OUR ABILITY TO INCREASE THE CAPACITY AND MAINTAIN THE SPEED OF OUR NETWORK IS
UNPROVEN.
We may not be able to increase the transmission capacity of our network to
meet expected end user levels while maintaining superior performance. While peak
downstream data transmission speeds across the cable infrastructure approach 10
Mbps in each 6 megahertz (Mhz) channel, actual downstream data transmission
speeds are almost always significantly slower depending on a variety of factors.
These factors include our intentional throttling of data traffic flowing through
the local network out in order to optimize the use our network capacity and to
sell tiered price-service packages, bandwidth capacity constraints between the
cable headend and the Internet backbone, the type and location of content,
Internet traffic, the number of active end users on a given cable network node,
the number of 6 Mhz channels allocated to us by our cable partner, the
capabilities of the cable modems used and the service quality of the cable
operators' fiber-coax facilities. The actual data delivery speed that an end
user realizes also will depend on the end user's hardware, operating system and
software configurations. There can be no assurance that we will be able to
achieve or maintain a speed of data transmission sufficiently high to enable us
to attract and retain our planned number of end users, especially as the number
of end users grows. Because end users will share the available capacity on a
cable network node, we may underestimate the capacity we need to provide in
order to maintain peak transmission speeds. A perceived or actual failure to
achieve or maintain sufficiently high speed data transmission could
significantly reduce end user demand for our services or increase costs
associated with customer complaints and have a material adverse effect on our
business and financial results.
OUR NETWORK MAY BE VULNERABLE TO SECURITY RISKS.
Despite our implementation of industry-standard security measures the
networks we operate may be vulnerable to unauthorized access, computer viruses
and other disruptive problems. Internet and online service providers in the past
have experienced, and in the future may experience, interruptions in service as
a result of the accidental or intentional actions of Internet users. Because the
cable infrastructure is a shared medium, it is inherently more vulnerable to
security risks than dedicated telephony technologies such as digital subscriber
lines. Moreover, we have no control over the security measures that our cable
partners and end users adopt. Unauthorized access could also potentially
jeopardize the security of confidential information stored in the computer
systems maintained by us and our end users. These events may result in liability
to us or harm to our end users. Eliminating computer viruses and alleviating
other security problems may require interruptions, delays or cessation of
service to our end users, which could have a material adverse effect on our
business and financial results. In addition, the threat of these and other
security risks may deter potential end users from purchasing our services, which
could have a material adverse effect on our business and financial results.
WE MAY BECOME SUBJECT TO RISKS OF INTERNATIONAL OPERATIONS.
We are providing services on an international basis to Kabel
Nordrhein-Westfalen GMBH & Co., KG and are currently evaluating other
international expansion opportunities. As a result of expanding internationally
or entering into joint venture arrangements to pursue international business
opportunities, we will become subject to the risks of conducting business
internationally, including:
- Foreign currency fluctuations, which could result in reduced revenues or
increased operating expenses;
- Inability to locate qualified local partners and suppliers;
- The burdens of complying with a variety of foreign laws and trade
standards;
- Tariffs and trade barriers;
- Difficulty in accounts receivable collection;
- Potentially longer payment cycles;
- Foreign taxes;
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- Unexpected changes in regulatory requirements, including the regulation of
Internet access; and
- Uncertainty regarding liability for information retrieved and replicated
in foreign countries.
If we expand internationally, we will also be subject to general geopolitical
risks, such as political and economic instability and changes in diplomatic and
trade relationships. Our international operations could harm our revenues and
ability to achieve profitability.
WE HAVE RECENTLY MADE ACQUISITIONS AND EXPECT TO MAKE FUTURE ACQUISITIONS WHERE
ADVISABLE AND ACQUISITIONS INVOLVE NUMEROUS RISKS.
Our growth is dependent upon market growth, our ability to enhance our
existing products and our ability to introduce new products on a timely basis.
One of the ways we have addressed, and will continue to address, the need to
develop new products is through acquisitions of other companies. In particular,
we recently acquired Digital in order to allow us to offer additional services
to our customers, including web hosting and web design. Acquisitions involve
numerous risks, including the following:
- Difficulties in integration of the operations, technologies, and products
of the acquired companies;
- The risk of diverting management's attention from normal daily operations
of the business;
- Potential difficulties in completing projects associated with purchased
in-process research and development;
- Risks of entering markets in which we have no or limited direct prior
experience and where competitors in such markets have stronger market
positions; and
- The potential loss of key employees of the acquired company.
Mergers and acquisitions of high-technology companies are inherently risky,
and we can give no assurance that our previous or future acquisitions will be
successful and will not materially adversely affect our business, operating
results or financial condition.
We must also maintain our ability to manage any such growth effectively.
Failure to manage growth effectively and successfully integrate acquisitions we
made could harm our business and operating results.
OUR AGREEMENT WITH ROAD RUNNER MAY NOT BENEFIT US.
Under our agreement with ServiceCo LLC, the entity that provides Road
Runner's cable Internet access and content aggregation services, we may provide
our services as a Road Runner subcontractor to cable operators that we and Road
Runner jointly designate to receive our services. We can offer no assurances
that Road Runner will agree to designate any cable operator systems to receive
our services. We may not be able to meet any system deployment schedule proposed
by Road Runner. Even if asked to provide services to a Road Runner-contracted
system, we may be asked to deploy far fewer turnkey homes than we originally
anticipated. In a Network Services solution, we deliver fewer services and incur
lower costs than in a turnkey solution, but will also earn a smaller percentage
of the subscription revenue. Since the agreement provides that Road Runner will
earn a warrant to purchase one share of our common stock per home passed in
cable systems designated to receive service regardless of whether we deploy a
Network Services or turnkey solution, our stockholders could suffer dilution in
exchange for potentially less profitable homes. Consequently, our agreement with
Road Runner may be of no material benefit to us.
RISKS RELATED TO THE MARKET FOR HIGH SPEED INTERNET ACCESS
THE MARKET FOR INTERNET SERVICES IS HIGHLY COMPETITIVE.
We face competition for partnerships with cable operators from other cable
modem-based providers of Internet access services and for end users from
providers of other types of data and Internet services.
We believe the major competitive factors in the market for partnerships with
cable operators include breadth of service, speed and ease of deployment,
revenue sharing arrangements, cash and equity incentives and operating
experience. We believe the major competitive factors in the market to provide
high speed Internet access to end users include financial, marketing and sales
resources, established customer relationships, price, ease of access and use,
transmission speed, reliability of service, quantity and quality of content,
network security and customer support. We face competition from many competitors
with significantly greater financial, sales and marketing resources, larger
customer bases, longer operating histories, greater name recognition and more
established relationships with advertisers, content and application providers
and/or other strategic partners than we have. We expect the level of
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this competition in cable and DSL Internet access markets to increase in
intensity in the future. We face competition from both cable modem service
providers and from providers of other types of data and Internet services for
end users, including DSL companies. Due to this intense competition, there may
be a time-limited market opportunity for our cable-based high speed access and
our entry into DSL services. There can be no assurance that we will be
successful in achieving widespread acceptance of our services before competitors
offer services similar to our current offerings, which might preclude or delay
purchasing decisions by potential customers.
For the reasons discussed below, we may not be able to compete successfully
against current or future competitors, and competitive pressures we face could
materially and adversely affect our business and financial results.
CABLE-BASED INTERNET ACCESS MARKET. Our competitors in the cable-based
Internet access market are those companies that have developed their own
cable-based services and market those services to cable system operators. In
particular, @Home, Road Runner, and Earthlink and their respective cable
partners, are deploying high speed Internet access services over cable networks.
@Home, through its @Home Solutions product, markets to systems in markets with
at least 20,000 homes passed. Other competitors in the cable-based Internet
access market are those companies seeking to establish distribution arrangements
with cable system operators in exurban markets and/or provide one-way system
capability. In addition, other cable system operators have launched their own
cable-based Internet services that could limit the market for our services. Many
of our competitors and potential competitors in the market for partnerships with
cable operators, in particular @Home, have substantially greater financial,
sales and marketing resources, larger customer bases, longer operating
histories, greater name recognition and more established relationships with
cable operators, advertisers and content and application providers than we do.
Widespread commercial acceptance of any of these competitors' products could
significantly reduce the potential customer base for our services, which could
have a material adverse effect on our business and financial results.
DSL AND OTHER TECHNOLOGIES. We intend to offer DSL Internet access services
primarily through the opportunistic acquisition of facilities-based DSL assets.
We believe we will face significant competition from DSL companies and other
Internet access providers in our attempts to acquire these DSL assets. To the
extent we are successful in acquiring DSL assets and in expanding our DSL
service offerings, we will compete directly against DSL companies and
telecommunications companies offering DSL services to end users. In addition,
long distance inter-exchange carriers, such as AT&T, Sprint and MCI WorldCom,
have deployed large-scale Internet access networks and sell Internet access to
business and residential customers. The regional Bell operating companies and
other local exchange carriers have also entered this field and are providing
price competitive services. Many of these carriers are offering diversified
packages of telecommunications services, including Internet access, to
residential customers, and could bundle these services together, which could put
us at a competitive disadvantage. Many of these competitors are offering, or may
soon offer, technologies that will compete with our cable-based high speed data
service offerings. Such competing technologies include integrated services
digital networks, digital subscriber lines and wireless and satellite services.
Many of our competitors and potential competitors, particularly regional Bell
operating companies, have substantially greater financial, sales and marketing
resources than we have, and also may compete favorably in terms of price, ease
of access and use, transmission speed and reliability of service. Widespread
commercial acceptance of DSL or other competing technologies could significantly
reduce the potential customer base for our cable-based services, which could
have a material adverse effect on our business and financial results.
INTERNET AND ONLINE SERVICE PROVIDERS. We also compete with traditional
Internet service providers, which provide basic Internet access to residential
and commercial end users and businesses, generally using the existing telephone
network. While not presently offering the advantages of broadband access, these
services are widely available and inexpensive. Many online service providers,
such as America Online, have the advantage of large customer bases, industry
experience, longer operating histories, greater name recognition, established
relationships with advertisers and content and application providers, and
significant financial, marketing and sales resources. Moreover, America Online
recently merged with Time Warner, a major content provider and cable system
owner/operator, to create AOL Time Warner. One condition placed on this merger
involves AOL Time Warner permitting unaffiliated Internet access providers to
use AOL Time Warner's cable systems to provide high speed Internet access to
their customers. These "open access" arrangements may affect our business in
various respects. See "Government Regulation." Previously, AOL announced
alliances with SBC Communications and Bell Atlantic to offer AOL's services via
digital subscriber line connections to be installed by these regional Bell
operating companies. The pace at which AOL and its telephone company partners
roll out DSL service could limit our ability to attract and retain end users in
areas where our service offerings overlap.
PEAKING CONSUMER INTEREST IN INTERNET ACCESS. Although the growth in consumer
interest in accessing the Internet has been growing for several years, growth in
consumer time spent on the Internet will eventually level off and may decline.
This leveling off of demand may be offset over time by the development of
additional Internet-based services and functions by existing and new
Internet-oriented firms, but there is no assurance that these new services will
actually be developed or will achieve customer
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acceptance. A leveling of demand will tend to intensify competition among
existing providers of Internet access, including us and traditional dial-up
providers of access.
OUR CABLE PARTNERS COULD SELL THEIR SYSTEMS OR BE ACQUIRED.
In recent years, the cable television industry has undergone substantial
consolidation. If one of our cable partners is acquired by a cable operator that
already has a relationship with one of our competitors or that does not enter
into a contract with us, we could lose the ability to offer our cable modem
access services in the systems formerly served by our cable partner, which could
have a material and adverse effect on our business and financial results. Many
of the cable operators with whom we have contracts operate multiple systems,
thus increasing the risk to us if they are acquired. Moreover, it is common in
the cable industry for operators to swap systems, which could cause us to lose
our contract for a swapped system. Even though many of our contracts obligate
our cable partners to pay us a termination fee if they sell their system to
another operator who does not assume our contract, the potential termination fee
may not be adequate to ensure that the successor operator assumes our contract,
or to compensate us fully for the loss of future business in that system.
OUR CABLE PARTNERS COULD LOSE THEIR FRANCHISES, AND ARE VULNERABLE TO
COMPETITION.
Cable television companies operate under franchises granted by local or state
authorities that are subject to renewal and renegotiations from time to time. A
franchise is generally granted for a fixed term ranging from five to 15 years,
although in many cases the franchise is terminable if the franchisee fails to
comply with the material provisions of its franchise agreement. No assurance can
be given that the cable operators that have contracts with us will be able to
retain or renew their franchises. The non-renewal or termination of any of these
franchises would result in the termination of our contract with the applicable
cable operator. Moreover, cable television operators are sometimes subject to
overbuilding by competing operators who offer competing video and Internet
access services. Moreover, many direct broadcast satellite ("DBS") operators can
compete with cable operators and provide Internet access services to their
subscribers. Any such dilution of our cable operator market base can adversely
affect our potential market base.
OUR MARKET IS CHARACTERIZED BY RAPID TECHNOLOGICAL CHANGE AND OUR SERVICES COULD
BECOME OBSOLETE OR FAIL TO GAIN MARKET ACCEPTANCE.
The market for our services is characterized by rapid technological advances,
evolving industry standards, changes in end user requirements and frequent new
service introductions and enhancements. For example, the North American cable
industry has adopted a set of interface specifications, known as "DOCSIS," for
hardware and software to support cable-based data delivery using cable modems.
Our ability to adapt to rapidly changing technology and industry standards, such
as DOCSIS, and to develop and introduce new and enhanced products and service
offerings will be significant factors in maintaining or improving our
competitive position reducing our costs, and our prospects for growth. If our
technologies become obsolete or fail to gain widespread consumer acceptance, or
if we are unable to meet newly adopted industry standards, then our business and
financial results will be materially and adversely affected.
We currently anticipate that we will use a significant portion of our working
capital to acquire cable modem and DSL equipment. The technology underlying that
equipment is continuing to evolve. It is possible that the equipment we acquire
could become obsolete prior to the time we would otherwise intend to replace it,
which could require us to make unanticipated capital expenditures. Our inability
to replace obsolete equipment on a timely basis could have a material adverse
effect on our business and financial results.
WE DEPEND ON THIRD PARTIES AND OUR BUSINESS IS SUBJECT TO DISRUPTION BY EVENTS
OUTSIDE OUR CONTROL.
Our success will depend upon the capacity, reliability and security of the
infrastructure used to carry data between our end users and the Internet. A
significant portion of that infrastructure is owned by third parties.
Accordingly, we have no control over its quality and maintenance. For example,
we rely on our cable partners to maintain their cable infrastructures. We also
rely on other third parties to provide a connection from the cable
infrastructure to the Internet and to provide fulfillment services to us.
Currently, we have transit agreements with MCI WorldCom and its affiliate,
UUNet, and others to support the exchange of traffic between our data servers,
the cable infrastructure and the Internet. We also have agreements with various
vendors to manage and oversee our customer installation process, including
installation, customer education, dispatch service, quality control, recruitment
and training. The failure of these third parties to maintain this infrastructure
and otherwise fulfill their obligations under these agreements could have a
material adverse effect on our business and financial results.
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Our operations also depend on our ability to avoid damages from fires,
earthquakes, floods, power losses, telecommunications failures, network software
flaws, transmission cable cuts, and similar events. The occurrence of any of
these events could interrupt our services. The failure of the Internet backbone,
our servers, or any other link in the delivery chain, whether from operational
disruption, natural disaster or otherwise, resulting in an interruption in our
operations could have a material adverse effect on our business and financial
results.
WE MAY BE HELD LIABLE FOR DEFAMATORY OR INDECENT CONTENT, AS WELL AS INFORMATION
RETRIEVED OR REPLICATED.
In part, our business involves supplying information and entertainment to
customers over the cable systems of our cable system partners. Accordingly, we
face the same types of risks that apply to all businesses that publish or
distribute information, such as potential liability for defamation, libel,
invasion of privacy and similar claims, as well as copyright or trademark
infringement and similar claims. A number of third parties have claimed that
they hold patents covering various forms of online transactions or online
technologies. In addition, our errors and omissions and liability insurance may
not cover potential patent or copyright infringement claims and may not
adequately indemnify us for any liability that may be imposed.
The law relating to the liability of Internet and online service providers
for information carried or disseminated through their networks is unsettled.
There are some federal laws regarding the distribution of obscene or indecent
material over the Internet under which we are subject to potential liability.
These risks are mitigated by two federal laws. One, passed in 1996, immunizes
Internet service providers from liability for defamation and similar claims for
materials the Internet service provider did not create, but merely distributed.
The other, passed in 1998, creates a "safe harbor" from copyright infringement
liability for Internet service providers who comply with its requirements, which
we intend to do. These laws apply only in the United States; if we expand our
operations to other countries, our potential liability under the laws of those
countries could be greater.
WE MAY BECOME SUBJECT TO BURDENSOME GOVERNMENT REGULATION, "OPEN ACCESS"
COMPETITION AND OTHER DSL- AND DBS-BASED COMPETITION.
The regulatory climate affecting our business is uncertain at this time, and
we may become subject to burdensome governmental regulation in the future.
Historically, the Company and its cable partners believed that for regulatory
purposes our services would be considered a form of cable service, or an
unregulated information service. Some federal courts have reached decisions
consistent with these views. However, in June 2000, the federal appeals court
for the 9th Circuit concluded that a cable operator's provision of transmission
facilities in some instances is a telecommunications service under the
Communications Act. This classification could subject our cable partners, and
possibly us, to federal and state regulation as "telecommunications carriers."
If we or our cable partners were classified as telecommunications common
carriers, or otherwise subject to common carrier-like access and
non-discrimination requirements in the provision of our Internet over cable
service, the Company or its cable partners could be subject to burdensome
governmental regulations. In particular, the government might seek to regulate
us and our cable partners with respect to the terms, conditions and prices for
Internet connection services and interconnections with the public switched
telephone network, and require that we make contributions to the universal
service support fund. The law in this area thus remains unsettled. In addition,
the DSL service we expect to offer and deploy in the future will also likely be
regulated as a common carrier telecommunications service, although at present
the specific regulatory burdens associated with offering this service are not
unduly severe. Accordingly, if we are successful in acquiring DSL assets, we may
be required to get a "telecommunications franchise" or a license to operate as a
"competitive local exchange carrier" from some states or localities, which might
not be available on reasonable terms, or at all. Moreover, some local
franchising authorities might claim that our cable partners need a separate
franchise to offer our service. This franchise may not be obtainable on
reasonable terms, or at all.
In addition, some local cable franchising authorities seek to impose
"non-discrimination" or "open access" obligations on our cable partners, under
which competing ISPs would have access to the high-speed transmission
capabilities of our cable partners' networks. AOL and Time Warner agreed to such
an "open access" condition, applicable to Time Warner's cable networks, in order
to obtain federal antitrust approval for their recent merger. A consortium of
dial-up Internet service providers and large telephone companies are encouraging
local franchising authorities and the Federal Communications Commission ("FCC")
to ban the type of exclusive ISP-cable operator arrangements that we have with
our cable partners that make us the exclusive supplier of high speed data on the
cable systems where our service is offered. If such arrangements are banned, the
Company could face additional competition from other Internet access providers
using the cable system to connect to their customers, which could have a
material adverse effect on our business and financial results. Both AOL-Time
Warner and AT&T have announced plans to open their networks to competing
Internet service providers in the coming years, and AT&T and Time Warner Cable
have initiated "open-access" trials with selected ISPs in several markets. Other
ISPs are petitioning the FCC and various large cable operators for access to
cable plants. The Company cannot predict the degree to which such voluntary or
involuntary "open access" will affect our business.
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In addition, regulatory decisions that make services based on DSL technology
easier for competing telephone companies to deploy over normal telephone lines
and less expensive for customers to buy, could negatively affect the Company's
cable-based high speed access business. The FCC issued a line-sharing ruling in
December 1999 that allows DSL providers to simply lease the data spectrum of the
customer's local loop from the incumbent carrier. This obviates the need for the
customers to lease a secondary DSL-provisioned loop from the incumbent carrier
in order to obtain high speed DSL data service, which in turn could make DSL
service a more cost-competitive alternative to our services. In addition, in
several decisions issued in 2000, the FCC took steps designed to make it more
efficient for DSL providers to locate their equipment in telephone company
switching centers. Furthermore, firms controlling digital broadcast spectrum
have announced plans to utilize a portion of that spectrum to offer consumers
high-bandwidth data delivery via broadcast. Some DBS video companies are also
deploying higher-bandwidth data delivery products. The Company cannot predict
when or whether these services will be offered, but if offered, they could
present material competition to our cable-based high speed access services and
could materially and adversely affect our success in the marketplace.
In addition to regulatory activity, large Incumbent Local Exchange Carriers
("ILECs") have been pressing Congress to amend the Communications Act to make it
easier for those firms to offer high-speed Internet access services to consumers
and to participate directly in transmitting information between their customers
and the Internet backbone. If such legislation were to pass, ILECs could become
even more formidable competitors in the high speed Internet access business.
WE DEPEND ON OUR KEY PERSONNEL AND MAY HAVE DIFFICULTY ATTRACTING AND RETAINING
THE SKILLED EMPLOYEES WE NEED TO EXECUTE OUR GROWTH PLAN.
Our future success depends on the continued service of our key personnel,
especially our Chief Executive Officer and Chief Operating Officer. We do not
carry key person life insurance on most of our personnel. Given our early stage
and plans for rapid expansion, the loss of the services of any of our executive
officers or the loss of the services of other key employees could have a
material adverse effect on our business and financial results. Our future
success also depends on our ability to attract, retain and motivate highly
skilled employees, particularly engineering and technical personnel. Competition
for employees in our industry is intense. We may not be able to retain our key
employees or attract, assimilate or retain other highly qualified employees in
the future. From time to time we have experienced, and we expect to continue to
experience in the future, difficulty in hiring and retaining highly skilled
employees.
RISK RELATED TO TRADING IN OUR STOCK
BECAUSE OF OUR RELATIONSHIP WITH VULCAN VENTURES, NEW INVESTORS WILL HAVE LITTLE
INFLUENCE OVER MANAGEMENT DECISIONS.
Vulcan and Charter currently own 36.1% and 12.9%, respectively, of our
outstanding stock assuming 100% conversion of the Company's convertible
preferred stock and the exercise of 2,559,351 warrants owned by Charter.
Charter, also has warrants to purchase up to 12,000,000 shares of our common
stock at an exercise price of $3.23 per share. Paul Allen is the controlling
stockholder of Charter and Vulcan and as a result Mr. Allen's beneficial
ownership of our outstanding stock is 49.0%. Accordingly, Mr. Allen will be able
to significantly influence and possibly exercise control over most matters
requiring approval by our stockholders, including the election of directors and
approval of significant corporate transactions. This concentration of ownership
may also have the effect of delaying or preventing a change in control. In
addition, conflicts of interest may arise as a consequence of Mr. Allen's
control relationship with us, including:
- Conflicts between Vulcan, Charter and other affiliates of Mr. Allen and
our other stockholders, whose interests may differ with respect to, among
other things, our strategic direction or significant corporate
transactions;
- Conflicts related to corporate opportunities that could be pursued by us,
on the one hand, or by Vulcan, Charter or other affiliates of Mr. Allen,
on the other hand; or
- Conflicts related to existing or new contractual relationships between us,
on the one hand, and Mr. Allen and his affiliates, such as Vulcan and
Charter, on the other hand.
In particular Mr. Allen controls Charter, our largest cable partner.
Additionally, Vulcan has the exclusive right to provide or designate the first
page our end users see when they log on to our service and, if it provides that
first page, will be entitled to all of the related revenues. Moreover, Vulcan
can prohibit us from providing content that competes with content it chooses to
provide, and can prohibit us from providing telephony service if it chooses to
provide those services.
INVESTORS MAY SUFFER SUBSTANTIAL DILUTION FROM OTHER TRANSACTIONS.
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As an inducement to cause Charter to commit additional systems to us in
connection with Network Services agreements entered into in November 1998 and
May 2000, we have granted Charter warrants to purchase up to 12,000,000 shares
of our common stock at an exercise price of $3.23 per share. These warrants
become exercisable, in respect of turnkey systems at the rate of 1.55 shares for
each home passed in excess of 750,000, and Network Services systems at the rate
of 0.775 shares for each home passed for up to 5,000,000 homes passed; and at a
rate of 1.55 shares for each additional home passed in excess of 5,000,000. To
the extent that Charter becomes eligible to exercise all or a significant
portion of these warrants, the Company's stockholders will experience
substantial dilution.
In addition, we have granted Microsoft a warrant to purchase 387,500 shares
of our common stock at an exercise price of $16.25, with additional warrants
issuable for homes passed above 2,500,000 homes passed committed to us by
Comcast. Furthermore, under our agreement with ServiceCo LLC, we are obligated
to grant warrants to purchase up to 5,000,000 shares of our common stock at a
price of $5 per share if they elect to use our services. The Company has also
granted Classic Cable, Inc. and CMA Associates, both cable operators, a warrant
to purchase 600,000 and 200,000 shares at an exercise price of $13,
respectively, in connection with the distribution of our services. We have
issued and may in the future issue additional stock or warrants to purchase our
common stock in connection with our efforts to expand the distribution of our
services and retain various consulting services. Stockholders could face
additional dilution from these possible future transactions.
THE FUTURE SALE OF SHARES MAY HURT OUR MARKET PRICE.
A substantial number of shares of our common stock are available for resale.
If our stockholders sell substantial amounts of our common stock in the public
market, the market price of our common stock could fall. These sales also might
make it more difficult for us to sell equity securities in the future at times
and prices that we deem appropriate.
OUR STOCK PRICE IS LIKELY TO BE HIGHLY VOLATILE.
The stock market has experienced extreme price and volume fluctuations. In
particular, the market prices of the securities of Internet-related companies
have been especially volatile. In the past, companies that have experienced
volatility in the market price of their stock have been the object of securities
class action litigation. If we were the object of securities class action
litigation, it could result in substantial costs and a diversion of our
management's attention and resources.
WE HAVE ANTI-TAKEOVER PROVISIONS.
Certain provisions of our certificate of incorporation, our bylaws and
Delaware law, in addition to the concentration of ownership by Mr. Paul Allen,
could make it difficult for a third party to acquire us, even if doing so might
be beneficial to our other stockholders.
ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our exposure to market risk is limited to interest rate sensitivity, which is
affected by changes in the general level of U.S. interest rates, and foreign
currency exchange rates. Our cash equivalents are invested with high-quality
issuers and limit the amount of credit exposure to any one issuer. Due to the
short-term nature of our cash equivalents, we believe that we are not subject to
any material market risk exposure. Substantially all of our revenues are
realized in U.S. dollars and are from customers in the United States. We do not
have any foreign currency hedging instruments.
PART II - OTHER INFORMATION
ITEM 1 - LEGAL PROCEEDINGS
We are not a party to any material legal proceedings.
ITEM 2 - CHANGES IN SECURITIES AND USE OF PROCEEDS
(a) In June 1999, we completed our initial public offering of Common Stock.
Concurrent with the initial public offering, we sold Common Stock to Cisco
Systems, Com21 and Microsoft under stock purchase agreements. The initial
proceeds to the Company after deducting underwriting discounts and commissions
of $13,081,250 were $199,768,750. Through March 31, 2001 the gross proceeds
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of the offering have been applied as follows:
Direct or Indirect payment to others for:
Underwriting discounts and commissions $ 13,081,250
Other offering expenses $ 1,828,854
Working Capital $ 190,267,259
None of these expenses were direct or indirect payments to investors or
officers or 10% stockholders of the Company. The remainder of the proceeds is
invested in interest-bearing money market accounts with financial institutions
and highly-liquid investment-grade debt securities of corporations and the U.S.
Government.
(b) In December 2000, we issued and sold 38,000 shares and 37,000 shares of
senior convertible preferred stock to Vulcan and Charter Communications
Ventures, LLC, an affiliate of Charter, respectively. In this private placement,
we received aggregate consideration of $38,000,000 and $37,000,000 from Vulcan
and Charter, respectively. The preferred stock may convert into common stock of
the Company at a conversion price of $5.01875 per share, subject to adjustment
for future stock issuances at less than the conversion price and other customary
adjustments. The initial proceeds to the Company were $75.0 million. Through
March 31, 2001 the proceeds have been applied to offering expenses of $1.0
million only.
None of these expenses were direct or indirect payments to investors or
officers or 10% stockholders of the Company. The remainder of the proceeds is
invested in interest-bearing money market accounts with financial institutions
and highly-liquid investment-grade debt securities of corporations and the U.S.
Government. This issuance of preferred stock was made in reliance on the
exemption from registration provided by section 4(2) of the Securities Act and
Rule 506 promulgated thereunder.
ITEM 3 - DEFAULTS UPON SENIOR SECURITIES
None.
ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5 - OTHER INFORMATION
None.
ITEM 6 - EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
None.
(b) Reports on Form 8-K
None.
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SIGNATURES
Pursuant to the requirements 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.
High Speed Access Corp.
Date: May 15, 2001 By /s/ Daniel J. O'Brien
---------------------------- --------------------------
Daniel J. O'Brien
President, Chief Executive Officer and Director
Date: May 15, 2001 By /s/ George Willett
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George Willett
Chief Financial Officer
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