UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED September 30, 2001.
------------------
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES AND
EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ______ TO ________.
Commission File Number 1-12793
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STARTEK, INC.
------------------------------------------------------
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 84-1370538
- --------------------------------- ------------------------------------
(STATE OR OTHER JURISDICTION (I.R.S. EMPLOYER IDENTIFICATION NO.)
OF INCORPORATION OR ORGANIZATION)
100 GARFIELD STREET
DENVER, COLORADO 80206
----------------------------------------
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES)
(ZIP CODE)
(303) 361-6000
----------------------------------------------------
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
----------------------------------------------------
(FORMER NAME, FORMER ADDRESS AND FORMER FISCAL YEAR,
IF CHANGED SINCE LAST REPORT)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the Registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practical date.
Common Stock, $.01 Par Value - 14,082,561 shares as of October 31, 2001.
STARTEK, INC.
FORM 10-Q
INDEX
<Table>
<Caption>
Page
Number
------
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited)
Condensed Consolidated Balance Sheets -
December 31, 2000 and September 30, 2001 3
Condensed Consolidated Income Statements -
Three months ended September 30, 2000 and 2001
Nine months ended September 30, 2000 and 2001 4
Condensed Consolidated Statements of Cash Flows -
Nine months ended September 30, 2000 and 2001 5
Notes to Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 9
Item 3. Quantitative and Qualitative Disclosure About
Market Risk 14
PART II. OTHER INFORMATION
Item 2. Changes in Securities and Use of Proceeds 16
Item 6. Exhibits and Reports on Form 8-K 16
SIGNATURES 17
</Table>
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)
STARTEK, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(dollars in thousands)
<Table>
<Caption>
DECEMBER 31, SEPTEMBER 30,
2000 2001
------------ -------------
(unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 22,543 $ 9,544
Investments 32,413 28,987
Trade accounts receivable, less allowance for
doubtful accounts of $672 and $767, respectively 20,399 24,303
Inventories 1,946 6,073
Deferred tax assets 1,902 2,421
Prepaid expenses and other assets 742 931
--------- ---------
Total current assets 79,945 72,259
Property, plant and equipment, net 29,891 41,109
Investment in Gifts.com, Inc., at cost 2,606 2,606
Notes receivable from Gifts.com, Inc. 9,807 9,807
Other assets 34 37
--------- ---------
Total assets $ 122,283 $ 125,818
========= =========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 8,375 $ 14,450
Accrued liabilities 5,962 7,811
Income taxes payable 3,108 320
Line of credit 4,000 --
Current portion of long-term debt 1,992 2,044
Other 362 322
--------- ---------
Total current liabilities 23,799 24,947
Long-term debt, less current portion 5,505 3,554
Deferred income taxes 725 714
Other 290 103
Stockholders' equity:
Common stock 140 141
Additional paid-in capital 47,095 48,002
Cumulative translation adjustment 8 (319)
Unrealized loss on investments available for sale (495) (3,795)
Retained earnings 45,216 52,471
--------- ---------
Total stockholders' equity 91,964 96,500
--------- ---------
Total liabilities and stockholders' equity $ 122,283 $ 125,818
========= =========
</Table>
See notes to condensed consolidated financial statements.
3
STARTEK, INC. AND SUBSIDIARIES
Condensed Consolidated Income Statements
(dollars in thousands, except per share data)
(unaudited)
<Table>
<Caption>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
----------------------------- ------------------------------
2000 2001 2000 2001
------------ ------------ ------------ ------------
Revenues $ 51,510 $ 42,893 $ 142,767 $ 117,668
Cost of services 39,677 32,715 109,359 88,362
------------ ------------ ------------ ------------
Gross profit 11,833 10,178 33,408 29,306
Selling, general and
administrative expenses 5,284 6,110 15,325 18,123
------------ ------------ ------------ ------------
Operating profit 6,549 4,068 18,083 11,183
Net interest income and other 1,316 257 3,134 3,521
Non-recurring loss on impaired investment
-- -- -- (3,040)
------------ ------------ ------------ ------------
Income before income taxes 7,865 4,325 21,217 11,664
Income tax expense 2,918 1,650 7,871 4,409
------------ ------------ ------------ ------------
Net income(A) $ 4,947 $ 2,675 $ 13,346 $ 7,255
============ ============ ============ ============
Weighted average shares of common stock(B) 14,031,771 14,061,337 14,011,355 14,043,685
Dilutive effect of stock options 260,373 277,076 312,102 129,334
------------ ------------ ------------ ------------
Common stock and common stock
equivalents(C) 14,292,144 14,338,413 14,323,457 14,173,019
============ ============ ============ ============
Earnings per share:
Basic (A/B) $ 0.35 $ 0.19 $ 0.95 $ 0.52
Diluted (A/C) $ 0.35 $ 0.19 $ 0.93 $ 0.51
</Table>
See notes to condensed consolidated financial statements.
4
STARTEK, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
(dollars in thousands)
(unaudited)
<Table>
<Caption>
NINE MONTHS ENDED
SEPTEMBER 30
---------------------
2000 2001
-------- --------
OPERATING ACTIVITIES
Net income $ 13,346 $ 7,255
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation and amortization 3,663 4,732
Deferred income taxes 776 1,684
Gain on sale of assets (84) --
Changes in operating assets and liabilities:
(Purchases) sale of trading securities, net (12,797) 7,823
Trade accounts receivable, net 8,352 (3,904)
Inventories 1,338 (4,126)
Prepaid expenses and other assets 14 (193)
Accounts payable (4,470) 6,075
Income taxes payable 689 (2,788)
Accrued and other liabilities 1,640 1,624
-------- --------
Net cash provided by operating activities 12,467 18,182
INVESTING ACTIVITIES
Purchases of investments available for sale (11,905) (19,270)
Proceeds from disposition of investments available for sale 12,085 9,558
Purchases of property, plant and equipment (4,962) (16,006)
Proceeds from disposition of property plant and equipment 284 1
Notes receivable from Gifts.com, Inc. (995) --
-------- --------
Net cash used in investing activities (5,493) (25,717)
FINANCING ACTIVITIES
Stock options exercised 704 908
Principal payments on borrowings, net (1,252) (5,899)
Principal payments on capital lease obligations (74) --
-------- --------
Net cash used in financing activities (622) (4,991)
Effect of exchange rate changes on cash 141 (473)
-------- --------
Net increase (decrease) in cash and cash equivalents 6,493 (12,999)
Cash and cash equivalents at beginning of period 11,943 22,543
-------- --------
Cash and cash equivalents at end of period $ 18,436 $ 9,544
======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for interest $ 255 $ 253
Income taxes paid $ 6,291 $ 5,466
Change in unrealized loss on investments available
for sale, net of tax $ 434 $ (3,300)
</Table>
See notes to condensed consolidated financial statements.
5
STARTEK, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except per share data)
(unaudited)
1. BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with accounting principles generally accepted in the
United States of America for interim financial information and instructions to
Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all
information and footnotes required by accounting principles generally accepted
in the United States of America for complete financial statements. In
management's opinion, all adjustments (consisting of normal recurring accruals)
considered necessary for a fair presentation have been included. Operating
results during the three and nine months ended September 30, 2001 are not
necessarily indicative of operating results that may be expected during any
other interim period of 2001.
The condensed consolidated balance sheet as of December 31, 2000 was
derived from audited financial statements, but does not include all information
and footnotes required by accounting principles generally accepted in the United
States of America for complete financial statements. For further information,
refer to consolidated financial statements and footnotes thereto included in
StarTek, Inc.'s annual report on Form 10-K for the year ended December 31, 2000.
2. EARNINGS PER SHARE
Basic earnings per share is computed based on weighted average number of
common shares outstanding. Diluted earnings per share is computed based on
weighted average number of common shares outstanding plus effects of outstanding
stock options using the "treasury stock" method.
3. NON-RECURRING LOSS ON IMPAIRED INVESTMENT
In January 2001, the Company purchased an investment in Six Sigma, LLC
("Six Sigma"). Six Sigma provided its audited financial statements which
included an unqualified independent auditors' opinion. The purpose of Six Sigma
was to provide revolving platform financing to its customer, a national mortgage
company ("Mortgage Company") and all advances were to be secured by first
mortgages or deeds of trust on residential properties located in 47 different
states. Six Sigma was to receive interest from the Mortgage Company and a
portion of the loan origination fees. Subsequently, a federal court placed the
Mortgage Company into receivership based on allegations by the Securities and
Exchange Commission that the president of the Mortgage Company had
misappropriated large amounts of funds. The concurrent default on the line of
credit extended by Six Sigma to the Mortgage Company triggered a bankruptcy
filing by Six Sigma. Based on the limited information available to the Company,
the Company believes it is probable its investment in Six Sigma has been
impaired, and as of March 31, 2001 has taken a charge for a non-recurring loss
on the entire investment balance of $3,000 and accrued interest and fees of $40.
The Company will continue to pursue recovery of this investment.
4. INVESTMENTS
As of December 31, 2000, investments available for sale consisted of:
<Table>
<Caption>
GROSS GROSS ESTIMATED
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
------- ------- ------- -------
Corporate bonds $ 7,081 $ 139 -- $ 7,220
Foreign government bonds 1,438 178 -- 1,616
Equity securities 9,871 -- $(1,107) 8,764
------- ------- ------- -------
Total $18,390 $ 317 $(1,107) $17,600
======= ======= ======= =======
</Table>
As of September 30, 2001, investments available for sale consisted of:
<Table>
<Caption>
GROSS GROSS ESTIMATED
UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
------- ------- ------- -------
Corporate bonds $ 8,815 $ 4 $(1,099) $ 7,720
Foreign government bonds 130 -- -- 130
Equity securities 19,154 85 (5,092) 14,147
------- ------- ------- -------
Total $28,099 $ 89 $(6,191) $21,997
======= ======= ======= =======
</Table>
6
STARTEK, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except per share data)
(unaudited)
4. INVESTMENTS (CONTINUED)
As of September 30, 2001, amortized costs and estimated fair values of
investments available for sale by contractual maturity were:
<Table>
<Caption>
ESTIMATED
COST FAIR VALUE
------- ----------
Corporate bonds, foreign government bonds,
and other debt securities maturing within:
One year $ 5,375 $ 4,860
Two to five years 1,481 1,150
Thereafter 2,089 1,840
Equity securities 19,154 14,147
------- -------
Total $28,099 $21,997
======= =======
</Table>
Equity securities primarily consisted of publicly traded common stock of US
based companies, equity mutual funds, and real estate investment trusts.
As of December 31, 2000, the Company was invested in trading securities,
which, in the aggregate, had an original cost and fair market value of $14,571
and $14,813, respectively. As of September 30, 2001, the Company was invested in
trading securities, which, in the aggregate, had an original cost and fair
market value of $7,422 and $6,990, respectively. Trading securities consisted
primarily of US and international mutual funds and investments in limited
partnerships. Certain investments include hedging and derivative securities.
Trading securities were held to meet short-term investment objectives.
Risk of loss to the Company regarding its current investments in the event
of nonperformance by any party is not considered substantial. Because of
potential limited liquidity of some of these instruments, recorded values of
these transactions may be different from values that might be realized if the
Company were to sell or close out the transactions. Such differences are not
considered substantial to the Company's results of operations, financial
condition, or liquidity. The foregoing call and put options may involve elements
of credit and market risks in excess of the amounts recognized in the Company's
financial statements. A substantial decline and/or change in value of equity
securities, equity prices in general, international equity mutual funds,
investment limited partnerships, and/or call and put options could have a
material adverse effect on the Company's portfolio of trading securities. Also,
trading securities could be materially and adversely affected by increasing
interest and/or inflation rates or market expectations thereon, poor management,
shrinking product demand, and other risks that may affect single companies, as
well as groups of companies.
5. INVENTORIES
The Company purchases components of its clients' products as an integral
part of its supply chain management services. At the close of an accounting
period, packaged and assembled products (together with other associated costs)
are reflected as finished goods inventories pending shipment. The Company
generally has the right to be reimbursed from its clients for unused
inventories. Client-owned inventories are not valued in the Company's balance
sheet. Inventories consisted of:
<Table>
<Caption>
DECEMBER 31, SEPTEMBER 30,
2000 2001
------------ -------------
Purchased components and
fabricated assemblies $1,524 $2,938
Finished goods 422 3,135
------ ------
$1,946 $6,073
====== ======
</Table>
7
STARTEK, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
(dollars in thousands, except per share data)
(unaudited)
6. GIFTS.COM, INC.
Through its wholly-owned subsidiary Domain.com, Inc., the Company has a
19.9% investment in and notes receivable from Gifts.com, Inc. of $12,413 in the
aggregate. The Company's investment in Gifts.com, Inc. is carried at cost.
During the three months ended September 30, 2000, the Company recognized
approximately $139 of revenues related to services performed for Gifts.com,
Inc., and approximately $180 of interest income. During the nine months ended
September 30, 2000, the Company recognized approximately $1,014 of revenues
related to services performed for Gifts.com, Inc. and approximately $511 of
interest income. During the three months ended September 30, 2001, the Company
did not recognize any revenues related to services performed for Gifts.com,
Inc., but did recognize $132 of interest income. During the nine months ended
September 30, 2001, the Company did not recognize any revenues related to
services performed for Gifts.com, Inc., but did recognize $457 of interest
income. As of September 30, 2001, regular quarterly interest of $132 was current
from Gifts.com, Inc.
Effective September 30, 2001, an Amended, Restated, and Consolidated
Subordinated Loan Agreement (the "Amended Loan Agreement") was executed by
Domain.com, Reader's Digest, and Gifts.com. The Amended Loan Agreement provides
for a loan of $15.0 million (the "Senior Loan") to be extended to Gifts.com from
Reader's Digest. The Amended Loan Agreement canceled all notes made prior to
September 30, 2001 by Domain.com and Reader's Digest to Gifts.com. Pursuant to
the Amended Loan Agreement, new notes were established whereby Gifts.com
promised to pay to Domain.com and Reader's Digest the consolidated value of
their respective canceled notes. The new note subordinates the position of
Domain.com to Reader's Digest, waives all interest obligations to Domain.com
after September 30, 2001 up to a total of $1.2 million and establishes a
maturity date of the later of August 31, 2002 or the date of indefeasible
payment of all loan amounts due under the Senior Loan.
Management believes the Company's investment in and notes receivable from
Gifts.com, Inc. are recoverable and no permanent impairment loss provision is
necessary. Gifts.com, Inc. is currently experiencing operating losses, negative
cash flows, and a deficiency in working capital. Domain.com, Inc. does not
currently intend to make further contributions to Gifts.com, Inc. To the extent
Domain.com, Inc. has not participated in financing of Gifts.com, Inc. in 2001,
Domain.com, Inc.'s interest in Gifts.com, Inc. could be diluted. The Company
could lose its entire investment in and notes receivable from Gifts.com, Inc.
Although a permanent impairment of the Company's investment in and notes
receivable from Gifts.com, Inc. could have a material adverse effect on the
Company's statement of income and stockholders' equity, a write-off would not
adversely effect the Company's cash. The Company does not exercise significant
influence over financial or operating policies of Gifts.com, Inc.
7. PRINCIPAL CLIENTS
The following table represents revenue concentrations of the Company's
principal clients:
<Table>
<Caption>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
------------------- -------------------
2000 2001 2000 2001
------ ------ ------ ------
Microsoft Corp. 73.2% 41.3% 70.4% 47.0%
AT&T Wireless Services, Inc. * 20.7% * 20.2%
AT&T Corp. * 11.1% * 12.2%
Deutsche Telekom, AG * 12.1% * *
</Table>
- ---------
* Represents less than 10% of total revenue.
The loss of a principal client and/or changes in timing or termination of a
principal client's product launch or service offering would have a material
adverse effect on the Company's business, revenues, operating results, and
financial condition. To limit the Company's credit risk, management performs
ongoing credit evaluations of its clients. Although the Company is directly
impacted by economic conditions in which its clients operate, management does
not believe substantial credit risk existed as of September 30, 2001.
8. COMPREHENSIVE INCOME
Financial Accounting Standards Board Statement No. 130, "Reporting
Comprehensive Income", establishes standards for reporting and display of
comprehensive income. Comprehensive income is defined essentially as all changes
in stockholders' equity, exclusive of transactions with owners. Comprehensive
income was $5,128 and $38 for the three months ended September 30, 2000 and
2001, respectively. Comprehensive income was $13,768 and $3,628 for the nine
months ended September 30, 2000 and 2001, respectively.
8
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
All statements contained in this "Management's Discussion and Analysis of
Financial Condition and Results of Operations" or elsewhere in this Form 10-Q
which are not statements of historical facts are forward-looking statements that
involve substantial risks and uncertainties. Forward-looking statements are
preceded by terms such as "may", "will", "should", "anticipates", "expects",
"believes", "plans", "future", "estimate", "continue", and similar expressions.
The following are important factors that could cause actual results to differ
materially from those expressed or implied by such forward-looking statements;
these include, but are not limited to, inflation and general economic conditions
in the Company's and its clients' markets, risks associated with the Company's
reliance on principal clients, loss or delayed implementation of a large project
or service offering for a principal client, which could cause substantial
quarterly variation in the Company's revenues and earnings, difficulties in
managing rapid growth, risks associated with rapidly changing technology,
dependence on labor force, risks associated with international operations and
expansion, control by principal stockholders, dependence on key personnel,
dependence on key industries and trends toward outsourcing, risks associated
with the Company's contracts, highly competitive markets, risks of business
interruptions, volatility of the Company's stock price, risks related to the
Company's investment in and note receivable from Gifts.com, Inc., risks related
to the Company's Internet web site operations, risks related to the Company's
portfolio of Internet domain names, and risks related to changes in valuation of
the Company's investments. These factors include risks and uncertainties beyond
the Company's ability to control; and, in many cases, the Company and its
management cannot predict the risks and uncertainties that could cause actual
results to differ materially from those indicated by use of forward-looking
statements. Similarly, it is impossible for management to foresee or identify
all such factors. As such, investors should not consider the foregoing list to
be an exhaustive statement of all risks, uncertainties, or potentially
inaccurate assumptions. All forward-looking statements herein are made as of the
date hereof, and the Company undertakes no obligation to update any such
forward-looking statements. All forward-looking statements herein are qualified
in their entirety by information set forth in "Management's Discussion and
Analysis of Financial Condition and Results of Operations"--"Factors That May
Affect Future Results" section of the Company's annual report on Form 10-K for
the year ended December 31, 2000.
The following table sets forth certain unaudited condensed consolidated
income statement data expressed as a percentage of revenues:
<Table>
<Caption>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------- ------------------------
2000 2001 2000 2001
----- ------ ----- -----
Revenues 100.0% 100.0% 100.0% 100.0%
Cost of services 77.0 76.3 76.6 75.1
----- ------ ----- -----
Gross profit 23.0 23.7 23.4 24.9
Selling, general and administrative expenses 10.3 14.2 10.7 15.4
----- ------ ----- -----
Operating profit 12.7 9.5 12.7 9.5
Net interest income and other 2.6 0.6 2.2 3.0
Non-recurring loss on impaired investment -- -- -- (2.6)
----- ------ ----- -----
Income before income taxes 15.3 10.1 14.9 9.9
Income tax expense 5.7 3.8 5.5 3.8
----- ------ ----- -----
Net income 9.6% 6.3% 9.4% 6.1%
===== ====== ===== =====
</Table>
THREE MONTHS ENDED SEPTEMBER 30, 2001 COMPARED TO THREE MONTHS
ENDED SEPTEMBER 30, 2000
Revenues. Revenues decreased $8.6 million, or 16.7%, from $51.5 million to
$42.9 million during the three months ended September 30, 2000 and 2001,
respectively. This decrease was largely due to decreased services to certain
clients in supply chain management partially offset by increased revenues in
technical support and provisioning management services to certain clients.
Cost of Services. Cost of services decreased $7.0 million, or 17.6%, from
$39.7 million to $32.7 million during the three months ended September 30, 2000
and 2001, respectively. As a percentage of revenues, cost of services was 77.0%
and 76.3% during the three months ended September 30, 2000 and 2001,
respectively. This percentage decreased primarily due to an improving mix of
business.
Gross Profit. Gross profit decreased $1.6 million, or 13.6%, from $11.8
million to $10.2 million during the three months ended September 30, 2000 and
2001, respectively. As a percentage of revenues, gross profit was 23.0% and
23.7% during the three months ended September 30, 2000 and 2001, respectively.
This increase was due primarily to an improving mix of business.
9
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased $0.8 million, or 15.1%, from $5.3 million to
$6.1 million during the three months ended September 30, 2000 and 2001,
respectively. As a percentage of revenues, selling, general and administrative
expenses were 10.3% and 14.2% during the three months ended September 30, 2000
and 2001, respectively. The increase in selling, general and administrative
expenses as a percentage of revenue was primarily due to the increased costs of
developing systems, corporate and human resource infrastructure for expansion
and general and administrative expenses associated with new facilities in Grand
Junction, Colorado, Enid, Oklahoma, Cornwall, Ontario, Canada and two facilities
in Kingston, Ontario, Canada.
Operating Profit. As a result of the foregoing factors, operating profit
decreased from $6.5 million to $4.1 million, or 36.9% during the three months
ended September 30, 2000 and 2001, respectively. As a percentage of revenues,
operating profit was 12.7% and 9.5% during the three months ended September 30,
2000 and 2001, respectively.
Net Interest Income and Other. Net interest income decreased 76.9% from
$1.3 million to $0.3 million during the three months ended September 30, 2000
and 2001, respectively. This decrease was the result of lower interest rates,
less funds available for investment, and a declining market. Substantially all
net interest income and other continues to be derived from cash equivalents and
investment balances, offset by interest expense incurred as a result of the
Company's various debt and lease arrangements.
Income Before Income Taxes. As a result of the foregoing factors, income
before income taxes decreased $3.6 million, or 45.6%, from $7.9 million to $4.3
million during the three months ended September 30, 2000 and 2001, respectively.
As a percentage of revenues, income before income taxes decreased from 15.3% to
10.1% during the three months ended September 30, 2000 and 2001, respectively.
Income Tax Expense. Income tax expense during the three months ended
September 30, 2000 and 2001 reflects a provision for federal, state, and foreign
income taxes at an effective rate of 37.1% and 38.2%, respectively.
Net Income. Based on the factors discussed above, net income decreased $2.2
million, or 44.9%, from $4.9 million to $2.7 million during the three months
ended September 30, 2000 and 2001, respectively.
NINE MONTHS ENDED SEPTEMBER 30, 2001 COMPARED TO NINE MONTHS
ENDED SEPTEMBER 30, 2000
Revenues. Revenues decreased $25.1 million, or 17.6%, from $142.8 million
to $117.7 million during the nine months ended September 30, 2000 and 2001,
respectively. This decrease was largely due to reduced revenue from the
Company's largest client which provided 70.4% and 47.0% of revenues during the
nine months ended September 30, 2000 and 2001, respectively, partially offset by
increased revenues from other clients receiving technical support and
provisioning management services.
Cost of Services. Cost of services decreased $21.0 million, or 19.2%, from
$109.4 million to $88.4 million during the nine months ended September 30, 2000
and 2001, respectively. As a percentage of revenues, cost of services was 76.6%
and 75.1% during the nine months ended September 30, 2000 and 2001,
respectively. This percentage decreased primarily due to an improving mix of
business.
Gross Profit. Due to the foregoing factors, gross profit decreased $4.1
million, or 12.3%, from $33.4 million to $29.3 million during the nine months
ended September 30, 2000 and 2001, respectively. As a percentage of revenues,
gross profit was 23.4% and 24.9% during the nine months ended September 30, 2000
and 2001, respectively. This percentage increased primarily due to an improving
mix of business.
Selling, General and Administrative Expenses. Selling, general and
administrative expenses increased $2.8 million, or 18.3%, from $15.3 million to
$18.1 million during the nine months ended September 30, 2000 and 2001,
respectively. As a percentage of revenues, selling, general and administrative
expenses were 10.7% and 15.4% during the nine months ended September 30, 2000
and 2001, respectively. The increase in selling, general and administrative
expenses as a percentage of revenue was primarily due to the increased costs of
developing systems, corporate and human resource infrastructure for expansion
and general and administrative expenses associated with new facilities in Grand
Junction, Colorado, Enid, Oklahoma, Cornwall, Ontario, Canada and two facilities
in Kingston, Ontario, Canada.
Operating Profit. As a result of the foregoing factors, operating profit
decreased from $18.1 million to $11.2 million, or 38.1% during the nine months
ended September 30, 2000 and 2001, respectively. As a percentage of revenues,
operating profit was 12.7% and 9.5% during the nine months ended September 30,
2000 and 2001, respectively.
Net Interest Income and Other. Net interest income and other increased from
$3.1 million to $3.5 million, or 12.9% during the nine months ended September
30, 2000 and 2001, respectively. Substantially all net interest income and other
continues to be derived from cash equivalents and investment balances, partially
offset by interest expense incurred as a result of the Company's various debt
and lease arrangements.
10
Non-Recurring Loss on Impaired Investment. The Company believes it is
probable that its $3.0 million investment plus accrued interest and fees in Six
Sigma, LLC has been impaired and therefore took a charge for a non-recurring
loss on the entire investment balance as of March 31, 2001. See Note 3 to the
Financial Statements.
Income Before Income Taxes. As a result of the foregoing factors, income
before income taxes decreased $9.5 million, or 44.8%, from $21.2 million to
$11.7 million during the nine months ended September 30, 2000 and 2001,
respectively. As a percentage of revenues, income before income taxes decreased
from 14.9% to 9.9% during the nine months ended September 30, 2000 and 2001,
respectively.
Income Tax Expense. Income tax expense during the nine months ended
September 30, 2000 and 2001 reflects a provision for federal, state, and foreign
income taxes at an effective rate of 37.1% and 37.8%, respectively.
Net Income. Based on the factors discussed above, net income decreased $6.0
million, or 45.1%, from $13.3 million to $7.3 million during the nine months
ended September 30, 2000 and 2001, respectively.
LIQUIDITY AND CAPITAL RESOURCES
Since its initial public offering, the Company has primarily financed its
operations, liquidity requirements, capital expenditures, and capacity expansion
through cash flows from operations, and to a lesser degree, through various
forms of debt and leasing arrangements.
The Company had a $5.0 million secured line of credit with Wells Fargo Bank
West, N.A. (the "Bank") that matured on April 30, 2001. The Company has
established an unsecured $10.0 million line of credit with the same financial
institution. Borrowings under the new line of credit bear interest at the Bank's
prime rate minus 1% (5.0% as of September 30, 2001). Under this new line of
credit, the Company is required to maintain minimum tangible net worth of $65.0
million and operate at a profit (excluding any adjustments of carrying value
pertaining to Gifts.com, Inc). The Company may not pay dividends in an amount
which would cause a failure to meet these financial covenants. As of September
30, 2001 and the date of this Form 10-Q, the Company was in compliance with the
financial covenants pertaining to the unsecured line of credit.
Effective September 15, 1999, the Company entered into a contribution
agreement (the "Contribution Agreement") and stockholders agreement with The
Reader's Digest Association, Inc. ("Reader's Digest") and Gifts.com. Inc.
("Gifts.com"), previously a wholly-owned subsidiary of Reader's Digest. On
November 8, 1999, pursuant to the Contribution Agreement, Domain.com
("Domain.com") a wholly-owned subsidiary of the Company, purchased 19.9% of the
outstanding common stock of Gifts.com for approximately $2.6 million in cash.
Reader's Digest owns the remaining 80.1% of the outstanding common stock of
Gifts.com. The Contribution Agreement provides for an assignment from Domain.com
to Gifts.com of Domain.com's right, title, and interest in and to the URL
www.gifts.com. Domain.com has the right to designate at least one member of
Gifts.com's board of directors, which consists of at least five directors.
Effective November 1, 1999, Domain.com and Reader's Digest entered into a loan
agreement pursuant to which Domain.com advanced an unsecured loan of $7.8
million and Reader's Digest also advanced an unsecured loan to Gifts.com ( the
"Loans"). Domain.com advanced two additional $0.99 million loans to Gifts.com:
the first loan was made August 2, 2000 and the second loan was made December 5,
2000.
Effective September 30, 2001, an Amended, Restated, and Consolidated
Subordinated Loan Agreement (the "Amended Loan Agreement") was executed by
Domain.com, Reader's Digest, and Gifts.com. The Amended Loan Agreement provides
for a loan of $15.0 million (the "Senior Loan") to be extended to Gifts.com from
Reader's Digest. The Amended Loan Agreement canceled all notes made prior to
September 30, 2001 by Domain.com and Reader's Digest to Gifts.com. Pursuant to
the Amended Loan Agreement, new notes were established whereby Gifts.com
promised to pay to Domain.com and Reader's Digest the consolidated value of
their respective canceled notes. The new note subordinates the position of
Domain.com to Reader's Digest, waives all interest obligations to Domain.com
after September 30, 2001 up to a total of $1.2 million and establishes a
maturity date of the later of August 31, 2002 or the date of indefeasible
payment of all loan amounts due under the Senior Loan.
Gifts.com is currently experiencing operating losses, negative cash flows
and a deficiency in working capital. Domain.com does not currently intend to
make further contributions to Gifts.com. To the extent Domain.com has not
participated in financing of Gifts.com in 2001, Domain.com's investment in
Gifts.com could be diluted. The Company could lose its entire investment in and
notes receivable from Gifts.com. Although a permanent impairment of the
Company's investment and notes receivable from Gifts.com would have a material
adverse effect on the Company's statement of income and stockholders' equity, a
write-off would not adversely effect the Company's cash.
As of September 30, 2001, the Company had cash, cash equivalents, and
investment balances of $38.5 million, working capital of $47.3 million, and
stockholders' equity of $96.5 million. Cash and cash equivalents are not
restricted. See "Quantitative and Qualitative Disclosure About Market Risk" set
forth herein for further discussions regarding the Company's cash, cash
equivalents, investments available for sale, and trading securities.
11
As of September 30, 2001, the Company was committed to capital expenditures
of approximately $1.4 million related to property, plant, and equipment for
2001.
On July 1, 2001, the Company entered into a sublease agreement for
approximately 20,000 square feet of building space, to be used for teleservices,
in Kingston, Ontario, Canada. The term of the sublease agreement is ten years,
commencing on September 1, 2001. The annual rental expense is approximately $0.2
million, payable monthly, and the total minimum rental commitment is
approximately $2.1 million. The Company may terminate the agreement anytime
after the end of the fifth year, by giving the landlord three months prior
written notice and payment of three months base rent and unamortized brokerage
fees as a termination penalty.
On July 25, 2001, the Company entered into a lease agreement for
approximately 74,000 square feet of building space, to be used for teleservices,
in Cornwall, Ontario, Canada. The term of the lease agreement is ten years,
commencing on September 1, 2001. The annual rental expense is approximately $0.4
million, payable monthly, and the total minimum rental commitment is
approximately $3.6 million.
On November 2, 2001, the Company entered into an equipment loan with Key
Equipment Finance Canada Limited for financing of equipment to be used in the
Company's Canadian facilities. The loan is in the amount of $7.0 million US
bearing interest at 5.0% to be repaid over a 48-month period. As of November 7,
2001, the Company had drawn $6.3 million US from this loan. This loan is secured
with the title of the equipment purchased as collateral. There is a penalty if
the loan is prepaid before the end of the second year.
Net cash provided by operating activities was $12.5 million and $18.2
million for the nine months ended September 30, 2000 and 2001, respectively.
This increase was primarily a result of increases in net accounts payable, and
decreases in net purchases of trading securities partially offset by an increase
in accounts receivable and inventories. Without the effect of net purchases of
trading securities and the non-recurring loss on impaired investment, net cash
provided by operating activities was $25.3 million and $10.3 million for the
nine months ended September 30, 2000 and 2001, respectively.
Net cash used in investing activities was $5.5 million and $25.7 million
for the nine months ended September 30, 2000 and 2001, respectively. This
increase was primarily due to a net increase in investments available for sale
together with an increase in purchases of property, plant, and equipment.
Net cash used in financing activities was $0.6 million and $5.0 million for
the nine months ended September 30, 2000 and 2001, respectively. Financing
activities, during both periods, consisted of principal payments on borrowings,
partially offset by proceeds from exercises of employee stock options.
The effect of currency exchange rate changes on translation of the
Company's United Kingdom, Canada and Singapore operations was not material
during the nine months ended September 30, 2001. Terms of the Company's
agreements with clients and subcontractors are typically in US dollars except
for certain agreements related to its United Kingdom, Canada and Singapore
operations. If the international portion of the Company's business grows, more
revenues and expenses will be denominated in foreign currencies, which will
increase the Company's exposure to fluctuations in currency exchange rates. See
"Quantitative and Qualitative Disclosure About Market Risk" set forth herein for
a further discussion of the Company's exposure to foreign currency exchange
risks in connection with its investments.
Management believes the Company's cash, cash equivalents, investments,
anticipated cash flows from future operations, and $10.0 million line of credit
will be sufficient to support its operations, capital expenditures, and various
repayment obligations under its debt and lease agreements for the foreseeable
future. Liquidity and capital requirements depend on many factors, including,
but not limited to, the Company's ability to retain or successfully and timely
replace its principal clients and the rate at which the Company expands its
business, whether internally or through acquisitions and strategic alliances. To
the extent funds generated from sources described above are insufficient to
support the Company's activities in the short or long-term, the Company will be
required to raise additional funds through public or private financing. No
assurance can be given that additional financing will be available, or if
available, it will be available on terms favorable to the Company.
INFLATION AND GENERAL ECONOMIC CONDITIONS
Although management cannot accurately anticipate effects of domestic and
foreign inflation on the Company's operations, management does not believe
inflation has had, or is likely in the foreseeable future to have, a material
adverse effect on the Company's results of operations or financial condition.
12
RELIANCE ON PRINCIPAL CLIENT RELATIONSHIPS
The following table represents revenue concentrations of the Company's
principal clients:
<Table>
<Caption>
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------- ---------------------
2000 2001 2000 2001
----- ----- ---- -----
Microsoft Corp. 73.2% 41.3% 70.4% 47.0%
AT&T Wireless Services, Inc. * 20.7% * 20.2%
AT&T Corp. * 11.1% * 12.2%
Deutsche Telekom, AG * 12.1% * *
</Table>
- ----------
* Represents less than 10% of total revenue.
Loss of a principal client(s) and/or changes in timing or termination of a
principal client's product launch or service offering would have a material
adverse affect on the Company's business, revenues, operating results, and
financial condition. There can be no assurance the Company will be able to
retain its principal client(s) or, if it were to lose its principal client(s),
would be able to timely replace such clients with clients that generate a
comparable amount of revenues. Additionally, the amount and growth rate of
revenues derived from its principal clients in the past is not necessarily
indicative of revenues that may be expected from such clients in the future.
VARIABILITY OF QUARTERLY OPERATING RESULTS
The Company's business is seasonal, however, growth in the teleservices
platform is mitigating the impact of this seasonal business, which is at times
conducted in support of product launches for new and existing clients.
Historically, the Company's revenues have been substantially lower in the first
three fiscal quarters due to timing of its clients' marketing programs and
product launches, which are typically geared toward the holiday buying season.
However, the Company's revenues and operating results for the three and nine
months ended September 30, 2001 are not necessarily indicative of revenues or
operating results that may be experienced in future periods. Additionally, the
Company has experienced and expects to continue to experience, quarterly
variations in revenues and operating results as a result of a variety of
factors, many of which are outside the Company's control, including: (i) timing
of existing and future client product launches or service offerings; (ii)
expiration or termination of client projects; (iii) timing and amount of costs
incurred to expand capacity in order to provide for further revenue growth from
existing and future clients; (iv) seasonal nature of certain clients'
businesses; (v) cyclical nature of certain high technology clients' businesses;
and (vi) changes in the amount and growth rate of revenues generated from the
Company's principal clients.
RISKS RELATED TO THE COMPANY'S INVESTMENT IN AND NOTES RECEIVABLE FROM GIFTS.COM
Through its wholly-owned subsidiary Domain.com, the Company's investment in
and note receivable from Gifts.com of approximately $12.4 million, in the
aggregate, involves a high degree of risk. Gifts.com is currently experiencing
operating losses and negative cash flows and has a deficiency in working
capital. Domain.com does not currently intend to make further contributions to
Gifts.com. To the extent Domain.com has not participated in financing of
Gifts.com in 2001, Domain.com's interest in Gifts.com could be diluted. An
investor in the Company's common stock must consider the challenges, risks, and
uncertainties frequently encountered by early stage companies using new and
unproven business models in new and rapidly evolving markets. These challenges
influencing Gifts.com's ability to substantially increase its revenues and
thereby achieve profitability, include Gifts.com's ability to: (i) execute on
its business model; (ii) increase brand recognition; (iii) manage growth in its
operations; (iv) cost-effectively attract and retain a high volume of catalog
and online customers and build a critical mass of repeat customers at a
reasonable cost; (v) effectively manage, control, and account for inventory;
(vi) upgrade and enhance its web sites, transaction-processing systems, order
fulfillment capabilities, and inventory management systems; (vii) increase
awareness of its online stores; (viii) establish pricing to meet customer
expectations; (ix) compete effectively in its market; (x) adapt to rapid
regulatory and technological changes related to catalog operations, E-commerce
and the Internet; and (xi) protect its trademarks, service marks, and
copyrights. These and other uncertainties generally attributable to businesses
engaging in catalog operations, E-commerce and the Internet must be considered
when evaluating the Company's investment in and notes receivable from Gifts.com,
and the Company's participation in the business of Gifts.com. Although a
permanent impairment of the Company's investment in and notes receivable from
Gifts.com could have a material adverse effect on the Company's statement of
income and stockholders' equity, a write-off would not adversely effect the
Company's cash. The Company could lose its entire investment in and notes
receivable from Gifts.com. The Company does not exercise significant influence
over financial or operating policies of Gifts.com.
13
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
The following discusses the Company's exposure to market risks related to
changes in interest rates and other general market risks, equity market prices
and other general market risks, and foreign currency exchange rates as of
September 30, 2001. All of the Company's investment decisions are supervised or
managed by its Chairman of the Board. The Company's investment portfolio policy,
approved by the Board of Directors during 1999, provides for, among other
things, investment objectives and portfolio allocation guidelines. This
discussion contains forward-looking statements subject to risks and
uncertainties. Actual results could vary materially as a result of a number of
factors, including but not limited to, changes in interest and inflation rates
or market expectations thereon, equity market prices, foreign currency exchange
rates, and those set forth in the "Management's Discussion and Analysis of
Financial Condition and Results of Operations"--"Factors That May Affect Future
Results" section of the Company's annual report on Form 10-K for the year ended
December 31, 2000.
Interest Rate Sensitivity and Other General Market Risks
Cash and Cash Equivalents. The Company had $9.5 million in cash and cash
equivalents, which consisted of: (i) $9.0 million invested in various money
market funds, overnight investments, and various commercial paper securities at
a combined weighted average interest rate of approximately 2.9%; and (ii) $0.5
million in various non-interest bearing accounts. Cash and cash equivalents are
not restricted. Management considers cash equivalents to be short-term, highly
liquid investments readily convertible to known amounts of cash, and so near
their maturity they present insignificant risk of changes in value because of
changes in interest rates. The Company does not expect any substantial loss with
respect to its cash and cash equivalents as a result of interest rate changes,
and estimated fair value of its cash and cash equivalents approximates original
cost.
Investments Available for Sale. The Company had investments available for
sale, which, in the aggregate, had an original cost and fair market value of
$28.1 million and $22.0 million, respectively. Investments available for sale
generally consisted of corporate bonds, bond mutual funds, and various forms of
equity securities. The Company's investment portfolio is subject to interest and
inflation rate risks and will fall in value if interest and/or inflation rates
or market expectations thereon increase.
Fair market value of and estimated cash flows from the Company's
investments in corporate bonds are substantially dependent upon credit
worthiness of certain corporations expected to repay their debts to the Company.
If such corporations' financial condition and liquidity adversely changes, the
Company's investments in their debts can be expected to be materially and
adversely affected.
The table below provides information about maturity dates and corresponding
weighted average interest rates related to certain of the Company's investments
available for sale:
<Table>
<Caption>
EXPECTED MATURITY DATE
-COST-
WEIGHTED (DOLLARS IN THOUSANDS)
AVERAGE ----------------------------------------------------------------------
INTEREST RATES 1 year 2 years 3 years 4 years 5 years Thereafter Total FAIR VALUE
-------------- ------ ------- ------- ------- ------- ---------- ------ ----------
Corporate bonds 6.13% $5,245 $ -- $ -- $5,245 $4,730
Foreign bonds 6.37% 130 130 130
Corporate bonds 6.24% $ 506 506 505
Corporate bonds 16.92% $ 975 975 645
Corporate bonds 6.82% $2,089 2,089 1,840
------ ------- ------- ------- ------- ------ ------ ------
Total $5,375 $ 506 $ -- $ 975 $ -- $2,089 $8,945 $7,850
</Table>
Management believes the Company has the ability to hold the foregoing
investments until maturity, and therefore, if held to maturity, the Company
would not expect the future proceeds from these investments to be affected, to
any significant degree, by the effect of a sudden change in market interest
rates. Declines in interest rates over time will, however, reduce the Company's
interest income derived from future investments.
Outstanding Debt of the Company. The Company had outstanding debt of $5.4
million, $1.2 million of which bears interest at an annual fixed rate of 7.0%,
and $1.4 million of which bears no interest as long as the Company complies with
the terms of this debt arrangement. On October 22, 1999, the Company completed
an equipment loan, $1.1 million outstanding, whereby the Company is expected to
repay its debt at a variable rate of interest (4.4% at September 30, 2001) over
a forty-eight month period. On December 21, 2000, the Company completed an
equipment loan, $1.7 million outstanding as of September 30, 2001, whereby the
Company is expected to repay its debt at an annual fixed rate of interest of
7.65% over a forty-eight month period. Management believes a hypothetical 10.0%
increase in interest rates would not have a material adverse effect on the
Company. Increases in interest rates would, however, increase interest expense
associated with the Company's existing variable rate equipment loan and future
borrowings by the Company, if any. For example, the Company may from time to
time effect borrowings under its $10.0 million line of credit for general
corporate purposes, including working capital requirements, capital
expenditures, and other purposes related to expansion of the Company's capacity.
Borrowings under the $10.0 million line of credit bear interest at the lender's
prime rate less 1% (5.0% as of September 30, 2001). The Company had no
outstanding line of credit obligations as of September 30, 2001. In the past,
the Company has not hedged against interest rate changes.
14
Equity Price Risks, General Market Risks, and Other Risks
Equity Securities. The Company held in its investments available for sale
portfolio certain equity securities with original cost and fair market value, in
the aggregate, of $19.2 million and $14.1 million, respectively as of September
30, 2001. Equity securities primarily consisted of publicly traded common stock
of US based companies, equity mutual funds, and real estate investment trusts. A
substantial decline in values of equity securities and equity prices in general
would have a material adverse affect on the Company's equity investments. Also,
prices of common stocks held by the Company would be materially and adversely
affected by increasing inflation and/or interest rates or market expectations
thereon, poor management, shrinking product demand, and other risks that may
affect single companies, as well as groups of companies.
Trading Securities. The Company was invested in trading securities, which,
in the aggregate, had an original cost and fair market value of $7.4 million and
$7.0 million, respectively as of September 30, 2001. Trading securities
consisted primarily of US and international mutual funds, investments in limited
partnerships, and US equity securities. Trading securities were held to meet
short-term investment objectives. As part of trading securities and as of
September 30, 2001, the Company had sold call options for a total of 3,000
shares of US equity securities which, in the aggregate, had a basis and market
value of $0.0 million and $0.0 million, and sold put options for a total of
26,000 shares of US equity securities which, in the aggregate, had a basis and
market value of $0.0 million and $0.0 million. The foregoing call and put
options were reported net as components of trading securities and expire October
2001.
Non-Recurring Loss on Impaired Investment. In January 2001, the Company
purchased an investment in Six Sigma, LLC ("Six Sigma"). Six Sigma provided its
audited financial statements which included an unqualified independent auditors'
opinion. The purpose of Six Sigma was to provide revolving platform financing to
its customer, a national mortgage company ("Mortgage Company") and all advances
were to be secured by first mortgages or deeds of trust on residential
properties located in 47 different states. Six Sigma was to receive interest
from the Mortgage Company and a portion of the loan origination fees.
Subsequently, a federal court placed the Mortgage Company into receivership
based on allegations by the Securities and Exchange Commission that the
president of the Mortgage Company had misappropriated large amounts of funds.
The concurrent default on the line of credit extended by Six Sigma to the
Mortgage Company triggered a bankruptcy filing by Six Sigma. Based on the
limited information available to the Company, the Company believes it is
probable its investment in Six Sigma has been impaired, and as of March 31, 2001
has taken a charge for a non-recurring loss on the entire investment balance of
$3.0 million and accrued interest and fees of $0.04 million. The Company will
continue to pursue recovery of this investment.
Risk of loss regarding its current investments to the Company in the event
of nonperformance by any party is not considered substantial. Because of
potential limited liquidity of some of these instruments, recorded values of
these transactions may be different from values that might be realized if the
Company were to sell or close out the transactions. Such differences are not
considered substantial to the Company's results of operations, financial
condition, or liquidity. The foregoing call and put options, may involve
elements of credit and market risks in excess of the amounts recognized in the
Company's financial statements. A substantial decline and/or change in value of
equity securities, equity prices in general, international equity mutual funds,
investments in limited partnerships, and/or call and put options could have a
material adverse effect on the Company's portfolio of trading securities. Also,
trading securities could be materially and adversely affected by increasing
interest and/or inflation rates or market expectations thereon, poor management,
shrinking product demand, and other risks that may affect single companies, as
well as groups of companies.
Foreign Currency Exchange Risks
Of the Company's revenues for the three months ended September 30, 2001,
22.1% were derived from arrangements whereby the Company received payments from
clients in currencies other than US dollars. Terms of the Company's agreements
with clients and subcontractors are typically in US dollars except for certain
agreements related to its United Kingdom, Singapore, and Canada operations. If
an arrangement provides for the Company to receive payments in a foreign
currency, revenues realized from such an arrangement may be less if the value of
such foreign currency declines. Similarly, if an arrangement provides for the
Company to make payments in a foreign currency, cost of services and operating
expenses for such an arrangement may be more if the value of such foreign
currency increases. For example, a 10% change in the relative value of such
foreign currency could cause a related 10% change in the Company's previously
expected revenues, cost of services, and operating expenses. If the
international portion of the Company's business grows, more revenues and
expenses will be denominated in foreign currencies, which increases the
Company's exposure to fluctuations in currency exchange rates. In the past, the
Company has not hedged against foreign currency exchange rate changes related to
its United Kingdom, Singapore, and Canada operations.
15
PART II. OTHER INFORMATION
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
(c) Sales of Unregistered Securities
The Company did not issue or sell unregistered securities during
the three months ended September 30, 2001 except as follows:
On July 3, 2001, the Company granted options to purchase
17,600 shares of common stock, in the aggregate, to 176
employees pursuant to the Company's Employee Stock Option
Plan. These options vest at a rate of 20% per year beginning
July 3, 2002, expire July 3, 2011, and are exercisable at
price of $21.85 per share, which was the market value of the
Company's common stock on the date the options were granted.
On August 27, 2001, the Company granted options to purchase
45,000 shares of common stock to an employee pursuant to the
Company's Employee Stock Option Plan. These options vest at
a rate of 20% per year beginning August 27, 2002, expire
August 27, 2011, and are exercisable at price of $25.26 per
share, which was the market value of the Company's common
stock on the date the options were granted. This employee
was appointed Executive Vice President and Chief Financial
Officer on August 28, 2001.
The foregoing stock option grants were made in reliance upon
exemptions from registration provided by Sections 4(2) and 3(b)
of the Securities Act of 1933, as amended, and regulations
promulgated thereunder.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
*10.37 Voicestream Wireless Corporation Services (wholly owned
subsidiary of Deutsche Telekom, AG) Agreement between
Startek USA, Inc. and Voicestream Wireless Corporation dated
June 8, 2001.
*10.38 Microsoft Corporation Manufacturing and Supply and Services
Agreement between StarTek, Inc. and Microsoft Corporation
dated July 1, 2001.
10.39 Gifts.com, Inc. Amended, Restated and Consolidated
Subordinate Loan Agreement between Reader's Digest
Association, Inc., Domain.com, Inc. and Gifts.com, Inc.
dated September 30, 2001.
10.40 Promissory Note of StarTek Canada Services, Ltd. Dated
November 2, 2001 in the principal amount of $9,948,624 (CAD)
payable to Key Equipment Finance Canada Limited and Security
Agreement dated November 2, 2001 by and between StarTek
Canada Services, Ltd. and Key Equipment Finance Canada
Limited.
- ---------
* Certain portions of the exhibit have been omitted pursuant to a request for
confidential treatment and have been filed separately with the Securities and
Exchange Commission.
(b) Reports on Form 8-K
On August 31, 2001, the Company filed a report on Form 8-K
under Item 5, reporting the appointment of David I.
Rosenthal as Executive Vice President, Chief Financial
Officer, Secretary and Treasurer of StarTek, Inc. Dennis M.
Swenson, who retired, resigned as Executive Vice President,
Chief Financial Officer, Secretary and Treasurer of StarTek,
Inc. effective August 28, 2001.
16
SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
STARTEK, INC.
-------------------------------------
(Registrant)
Date: November 14, 2001 /s/ A. EMMET STEPHENSON, JR.
----------------- -------------------------------------
A. Emmet Stephenson, Jr.
Chairman of the Board
Date: November 14, 2001 /s/ WILLIAM E. MEADE, JR.
----------------- -------------------------------------
William E. Meade, Jr.
President and Chief Executive Officer
Date: November 14, 2001 /s/ DAVID I. ROSENTHAL
----------------- -------------------------------------
David I. Rosenthal
Executive Vice President and
Chief Financial Officer
(Principal Financial and
Accounting Officer)
17
EXHIBIT INDEX
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION
------- -----------
*10.37 Voicestream Wireless Corporation Services (wholly owned
subsidiary of Deutsche Telekom, AG) Agreement between
Startek USA, Inc. and Voicestream Wireless Corporation dated
June 8, 2001.
*10.38 Microsoft Corporation Manufacturing and Supply and Services
Agreement between StarTek, Inc. and Microsoft Corporation
dated July 1, 2001.
10.39 Gifts.com, Inc. Amended, Restated and Consolidated
Subordinate Loan Agreement between Reader's Digest
Association, Inc., Domain.com, Inc. and Gifts.com, Inc.
dated September 30, 2001.
10.40 Promissory Note of StarTek Canada Services, Ltd. Dated
November 2, 2001 in the principal amount of $9,948,624 (CAD)
payable to Key Equipment Finance Canada Limited and Security
Agreement dated November 2, 2001 by and between StarTek
Canada Services, Ltd. and Key Equipment Finance Canada
Limited.
</Table>
- ---------
* Certain portions of the exhibit have been omitted pursuant to a request for
confidential treatment and have been filed separately with the Securities and
Exchange Commission.