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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
[X] Quarterly report under Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the quarterly period ended September 30, 1999.
[ ] 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
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
incorporation or organization) Number)
4100 East Mississippi Avenue
Denver, Colorado 80246
(Address of principal executive offices, including zip code)
303/256-2000
(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 November 5, 1999...54,184,191
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Index
PART I - FINANCIAL INFORMATION
Item 1 - Financial Statements
Condensed Consolidated Balance Sheets as of September 30, 1999
(Unaudited) and December 31, 1998
Condensed Consolidated Statements of Operations for the
three-months ended September 30, 1999 and 1998, (Unaudited),
the nine-months ended September 30, 1999 (Unaudited), and the
period April 3, 1998 (Inception) through September 30, 1998
(Unaudited)
Condensed Consolidated Statements of Cash Flows for the
nine-months ended September 30, 1999 (Unaudited) and the
period April 3, 1998 (Inception) through September 30, 1998
(Unaudited)
Notes to Condensed Consolidated Financial Statements
Item 2 - Management's Discussion and Analysis of Financial Condition
and Results of Operations
Item 3 - Quantitative and Qualitative Disclosures About Market Risk
PART II - OTHER INFORMATION
Item 1 - Legal Proceedings
Item 2 - Changes in Securities and Use of Proceeds
Item 3 - Defaults upon Senior Securities
Item 4 - Submission of Matters to a Vote of Security Holders
Item 5 - Other Information
Item 6 - Exhibits and Reports on Form 8-K
Signatures
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ITEM I - FINANCIAL INFORMATION
Part 1 - Financial Statements
HIGH SPEED ACCESS CORP.
CONDENSED CONSOLIDATED BALANCE SHEETS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
SEPTEMBER 30, DECEMBER 31,
1999 1998
------------- ------------
(UNAUDITED)
ASSETS
Current assets:
Cash and cash equivalents $ 62,741 $ 17,888
Short term investments 136,365 --
Accounts receivable, net of allowance for doubtful accounts of $54
and $13 as of September 30, 1999 and December 31, 1998, respectively 236 83
Prepaid expenses and other current assets 3,627 123
--------- ---------
Total current assets 202,969 18,094
Property, equipment and improvements, net 29,105 5,807
Intangible assets, net 3,562 3,603
Deferred distribution agreement costs, net 4,268 --
Other non-current assets 477 --
--------- ---------
Total assets $ 240,381 $ 27,504
========= =========
LIABILITIES, MANDATORILY REDEEMABLE CONVERTIBLE
PREFERRED STOCK AND STOCKHOLDERS' EQUITY (DEFICIT)
Current Liabilities:
Accounts payable $ 7,945 $ 2,741
Accrued compensation and related expenses 1,949 744
Other current liabilities 2,674 395
Long-term debt, current portion 699 8
Capital lease obligations, current portion 1,890 44
--------- ---------
Total current liabilities 15,157 3,932
Long-term debt 2,243 530
Capital lease obligations 4,433 219
--------- ---------
Total liabilities 21,833 4,681
--------- ---------
Commitments and contingencies
Mandatorily redeemable convertible preferred stock:
Series A, $.01 par value, 0 and 5,000,000 shares designated, issued and
outstanding at September 30, 1999 (unaudited) and December 31, 1998, respectively -- 47,050
Series B, $.01 par value, 0 and 10,000,000 shares designated, issued and
outstanding at September 30, 1999 (unaudited) and December 31, 1998, respectively -- 102,200
Series C, $.01 par value, 5,000,000 shares designated, no shares issued
and outstanding (unaudited) -- --
--------- ---------
Total mandatorily redeemable convertible preferred stock -- 149,250
--------- ---------
Stockholders' equity (deficit):
Preferred stock, $.01 par value, 20,000,000 shares authorized, none
issued and outstanding -- --
Common stock, $.01 par value, 400,000,000 shares authorized, 54,168,691
issued and outstanding - September 30, 1999 (unaudited); 6,200,000 shares
authorized, issued and outstanding - December 31, 1998 542 62
Class A common stock, 100,000,000 shares authorized -
September 30, 1999 (unaudited); none issued and outstanding -- --
Additional paid-in-capital 618,229 4,237
Deferred compensation (306) (84)
Accumulated deficit (399,450) (130,642)
Accumulated other comprehensive loss (467) --
--------- ---------
Total stockholders' equity (deficit) 218,548 (126,427)
--------- ---------
Total liabilities, mandatorily redeemable convertible preferred
stock and stockholders' equity (deficit) $ 240,381 $ 27,504
========= =========
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
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
(UNAUDITED)
THREE MONTHS THREE MONTHS NINE MONTHS
ENDED ENDED ENDED APRIL 3, 1998
SEPTEMBER 30, SEPTEMBER 30, SEPTEMBER 30, (INCEPTION) TO
1999 1998 1999 SEPTEMBER 30, 1998
------------ ------------ ------------ ------------------
Net Revenue $ 1,070 $ 101 $ 2,010 $ 192
Costs and expenses:
Operating 7,194 673 13,344 934
Engineering 2,547 705 6,103 1,103
Sales and Marketing 5,126 1,434 10,783 2,091
General and Administrative 3,019 784 6,666 1,348
Non-cash compensation expense from stock options 18 -- 2,698 --
Amortization of distribution agreement costs 193 -- 3,498 --
------------ ------------ ------------ ------------
Total costs and expenses 18,097 3,596 43,092 5,476
------------ ------------ ------------ ------------
Loss from operations (17,027) (3,495) (41,082) (5,284)
Interest income 2,824 9 3,684 10
Interest expense (122) (20) (216) (25)
------------ ------------ ------------ ------------
Net loss (14,325) (3,506) (37,614) (5,299)
Mandatorily redeemable convertible preferred stock dividends -- (85) (1,122) (109)
Accretion of redemption value of mandatorily redeemable
convertible preferred stock -- (7,500) (229,148) (7,500)
------------ ------------ ------------ ------------
Net loss available to common stockholders $ (14,325) $ (11,091) $ (267,884) $ (12,908)
============ ============ ============ ============
Basic and diluted net loss available to common
stockholders per share $ (0.26) $ (1.79) $ (10.10) $ (2.08)
============ ============ ============ ============
Weighted average shares used in computation of basic and diluted
net loss available to common stockholders per share 54,141,481 6,200,000 26,526,365 6,200,000
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
(DOLLARS IN THOUSANDS)
(UNAUDITED)
NINE MONTHS APRIL 3, 1998
ENDED (INCEPTION) TO
SEPTEMBER 30, 1999 SEPTEMBER 30, 1998
------------------ ------------------
OPERATING ACTIVITIES
Net loss $ (37,614) $ (5,299)
Adjustments to reconcile net loss to cash used
in operating activities:
Depreciation and amortization 4,073 733
Non-cash compensation expense from stock options 2,698 --
Amortization of distribution agreement costs 3,498
Changes in operating assets and liabilities excluding the effects of
acquisitions:
Accounts receivable (153) 7
Prepaid expenses and other current assets (3,540) (765)
Other non-current assets (477) --
Accounts payable 436 1,472
Accrued compensation and related expenses 1,205 193
Other current liabilities 2,279 127
-------------- --------------
Net cash used in operating activities (27,595) (3,532)
-------------- --------------
INVESTING ACTIVITIES
Purchase of short-term investments (231,732) --
Sales and maturities of short-term investments 94,900 --
Purchase of property, equipment and improvements, net of leases (15,895) (2,898)
Cash acquired in the purchase of CATV and HSAN -- 907
Purchase of customer base (491) --
-------------- --------------
Net cash used in investing activities (153,218) (1,991)
-------------- --------------
FINANCING ACTIVITIES
Net proceeds from issuance of common stock 197,754 --
Net proceeds from issuance of mandatorily redeemable convertible
preferred stock 24,987 6,000
Payments on capital lease obligations (226) --
Proceeds from long-term debt 2,639 --
Payments on long-term debt (234) (67)
Proceeds from options exercised by management 746 --
-------------- --------------
Net cash provided by financing activities 225,666 5,933
-------------- --------------
Net change in cash and cash equivalents 44,853 410
Cash and cash equivalents, beginning of period 17,888 --
-------------- --------------
Cash and cash equivalents, end of period $ 62,741 $ 410
============== ==============
SUPPLEMENTAL SCHEDULE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
Issuance of common stock and employee stock options in connection with the
purchase of CATV and HSAN $ -- $ 3,215
Equipment acquired under capital leases $ 6,286 $ 200
Issuance of note payable as consideration for advance from related party $ -- $ 650
Property and equipment purchases payable $ 4,769 $ 1,261
Distribution of Darwin Networks, Inc. subsidiary to shareholders $ 923 $ --
Warrants issued in connection with acquisitions $ 208 $ --
Warrants issued in connection with Microsoft Corp. agreements $ 3,235 $ --
Warrants earned in connection with distribution agreements $ 4,530 $ --
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
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
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 fairly present High Speed
Access Corp.'s (hereinafter referred to as the Company, we, us, or our)
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 periods ended September 30, 1999 are not necessarily indicative of the
results to be expected for any subsequent quarter or for the entire fiscal year
ending December 31, 1999. These financial statements should be read in
conjunction with the financial statements and notes thereto for the year ended
December 31, 1998, which are included in the Company's Registration Statement on
Form S-1 (File No. 333-74667) which was declared effective by the Securities and
Exchange Commission on June 3, 1999.
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.
Actual results could differ from those estimates.
NOTE 2 - STOCKHOLDERS' EQUITY
Series C Preferred Stock
In April 1999, the Company received $25 million in cash proceeds from
the sale of 5,000,000 shares of Series C mandatorily redeemable convertible
preferred stock to Vulcan Ventures Incorporated ("Vulcan").
Recapitalization
In May 1999, the Company completed a 1.55 for 1 split of its common
stock. This stock split resulted in a corresponding change in the conversion
rate for all shares of the Company's Series A, B and C mandatorily redeemable
convertible preferred stock ("Preferred Stock") such that each share of
Preferred Stock was convertible into 1.55 shares of common stock after the
split. In addition, certain outstanding warrants, if earned, may be exercised to
acquire 1.55 shares of stock after the split. The accompanying financial
statements have been restated for all periods presented to reflect the effects
of the stock split.
Also, the Board of Directors of the Company authorized 100 million
shares of Class A common stock and increased the number of shares of the
Company's $.01 par value common stock authorized to 400 million shares.
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Initial Public Offering and Conversion of Preferred Stock
In June 1999, the Company sold 14,950,000 shares of its common stock in
an initial public offering (the "Offering"), including the underwriters'
over-allotment option, which generated proceeds of $179.3 million, net of the
underwriters' discount and other offering costs. Concurrently with the Offering,
the Company registered and sold 618,557 shares, 82,474 shares, and 824,742
shares of common stock to Cisco Systems, Inc. ("Cisco"), Com21, Inc. ("Com21")
and Microsoft Corp. ("Microsoft"), respectively, under stock purchase agreements
which generated $18.5 million.
Upon the closing of the Offering, all 20,000,000 shares of the
Preferred Stock outstanding at the time of the Offering were converted into an
aggregate of 31,000,000 shares of common stock. In addition, unpaid accumulated
dividends on the Preferred Stock of $1.5 million were paid by the issuance of
115,887 shares of common stock. Prior to the conversion of the Preferred Stock,
the Company had charged accumulated deficit to increase the carrying value of
the shares of each series of Preferred Stock to its estimated redemption value
at the time of the Offering of $13 per share. During the nine-month period ended
September 30, 1999, the Company recorded $229.1 million, and during the three
month period ended September 30, 1998 and the period April 3, 1998 (Inception)
through September 30, 1998 ("Inception Period"), the Company recorded $7.5
million related to this charge. In addition, the Company accrued dividends on
the Preferred Stock of $85,000 for the three-month period ended September 30,
1998, $1.1 million for the nine-month period ended September 30, 1999, and
$109,000 for the Inception Period. There was no expense of this nature during
the three-months ended September 30, 1999.
Distribution to Stockholders of Darwin Networks, Inc.
In March 1999, the Company transferred to Darwin Networks, Inc., a
newly created Delaware corporation, all of the assets used in the Company's
digital subscriber line service, which had a net book value of approximately
$330,000, in exchange for 100% of the outstanding Darwin common stock. These
assets consisted primarily of computer equipment and furniture and fixtures. In
March 1999, the Company distributed all of the outstanding Darwin common stock
to the Company's common and preferred stockholders. This distribution has been
recorded as a net reduction of stockholders equity in the accompanying condensed
consolidated financial statements. In connection with the asset transfer, the
Company entered into a services agreement with Darwin pursuant to which it
provided various financial, accounting and other professional staff services to
Darwin and will be compensated for its costs at fair market value. The Company
loaned Darwin $500,000 under a note payable which has subsequently been
collected. In connection with this note, Darwin issued to the Company a warrant
to purchase 1,000,000 shares of Darwin common stock at an exercise price of
$5.00 per share, which the Company has valued at $7,000. Subsequently, Darwin
executed a stock split under which the warrant split to 5,000,000 shares at
$1.00 per share. Expenses related to the Darwin service line approximated
$175,000 in 1998 and $302,000 for the three months ended March 31, 1999. No
revenue was realized in 1998 or 1999 associated with Darwin.
NOTE 3 - NET LOSS PER SHARE
The Company computes net loss per share under the provisions of SFAS
No. 128 "Earnings per Share" (SFAS 128) and SEC Staff Accounting Bulletin No. 98
(SAB 98). Under the provisions of SFAS 128 and SAB 98, basic and diluted net
loss 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. The calculation of diluted net loss per
share excludes potential common shares if the effect is antidilutive.
Basic and diluted net loss available to common stockholders per share
for the three months ended September 30, 1999 and 1998 were $.26 and $1.79 based
on weighted average shares outstanding of 54,141,481 and 6,200,000,
respectively. For the nine months ended September 30, 1999 and the period
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April 3, 1998 (Inception) through September 30, 1998, basic and diluted net loss
available to common stockholders per share was $10.10 and $2.08 based on
weighted average shares outstanding of 26,526,365 and 6,200,000, respectively.
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 the Company's Preferred Stock. In addition, income or
loss is adjusted for dividends and other transactions relating to preferred
shares for which conversion is assumed. The diluted earnings per share amount
equals basic earnings per share because the Company has a net loss, thus the
impact of the assumed exercise of the stock options and the assumed preferred
stock conversion is antidilutive. Options and issued warrants to purchase
2,578,083 shares of common stock at September 30, 1999 (unaudited), were
excluded from the calculation above because they are antidilutive.
In addition, there is a potential to issue additional warrants pursuant
to the agreements set forth in Note 6. These potential warrants have been
excluded from the calculation above because they are not currently measurable
and would be antidilutive. 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
The Company has adopted Statement of Financial Accounting Standards No.
130, Reporting Comprehensive Income, issued by the Financial Accounting Standard
Board in June 1997. Comprehensive loss, comprised of net loss applicable to
common stockholders and net unrealized losses on investments totaled $14,792,000
and $268,351,000 for the three and nine months ended September 30, 1999,
respectively. Comprehensive loss equaled net loss applicable to common
stockholders for the three months ended September 30, 1998 and the Inception
Period.
NOTE 5 - INVESTMENTS
The Company invests certain of its excess cash in debt instruments of
the U.S. Government, its agencies, and of high quality corporate issuers. All
highly liquid instruments with an original maturity of three months or less are
considered cash equivalents; those with original maturities greater than three
months are considered short-term investments. The investment policy of the
Company precludes investments in financial instruments with maturities greater
than 12 months. The Company has adopted Statement of Financial Accounting
Standards No. 115, Accounting for Certain Investments in Debt and Equity
Securities ("SFAS 115") and, accordingly, classifies investment securities as
available-for-sale. Unrealized holding losses were $467,000 at September 30,
1999.
NOTE 6 - DISTRIBUTION AGREEMENTS
General
As an inducement to certain cable partners to commit systems to the
Company, 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 values warrants and options 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
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related expense over the term of the agreement with the cable system to which
the warrants relate, 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.
Classic Cable
In July 1999, the Company executed a series of agreements with Classic
Cable, Inc. ("Classic"). The Company issued warrants to purchase up to 600,000
shares of the Company's common stock at a purchase price of $13.00 per share.
The warrants are earned and exercisable generally at the rate of one share of
common stock per home passed in systems committed subject to certain minimum
homes passed criteria. The term "homes passed" refers to the number of homes
that potentially can be served by a cable system. The warrants may be earned by
Classic on or before December 31, 2003. The warrants must be exercised within
three years of the date earned.
As of September 30, 1999, Classic has earned warrants to purchase
76,095 shares of common stock under these agreements. Deferred distribution
agreement costs of $1.9 million were recorded in connection with the warrants
during the three and nine-months ended September 30, 1999. Amortization of
distribution agreement costs of $65,000 was recognized in the statement of
operations for the same period. Additional deferred distribution agreement costs
may be recorded and amortized in future periods should Classic earn the right to
purchase additional shares based on the number of homes passed committed to the
Company.
Cable Management Associates
In July 1999, the Company executed a series of agreements with ETAN
Industries Inc. d/b/a Cable Management Associates ("CMA"). The Company issued
warrants to purchase up to 200,000 shares of the Company's common stock at a
purchase price of $13.00 per share. The warrants are earned and exercisable
generally at the rate of one share of common stock for each home passed in
systems committed to the Company by CMA subject to certain minimum homes passed
criteria. The warrants may be earned by CMA on or before December 31, 2002. The
warrants must be exercised on or before December 31, 2002.
As of September 30, 1999, CMA has earned warrants to purchase 44,911
shares of common stock under these agreements. Deferred distribution agreement
costs of $1.8 million were recorded in conjunction with the warrants during the
three and nine-months ended September 30, 1999. Amortization of distribution
agreement costs of $81,000 was recognized in the statement of operations for the
same periods. Additional deferred distribution agreement costs may be recorded
and amortized in future periods should CMA earn the right to purchase additional
shares based on the number of homes passed committed to the Company.
Vulcan Ventures Incorporated
In November 1998, the Company entered into a series of agreements with
Vulcan, in which the Company issued shares of Preferred Stock to Vulcan and
entered into agreements under which it will provide Internet access services to
customers in certain cable systems controlled by Vulcan.
These agreements included a systems access and investment agreement
with Vulcan and its affiliate Charter Communications ("Charter"), a programming
content agreement with Vulcan, and a related network services agreement with
Charter. Under these agreements, Charter committed to provide the Company
exclusive access to at least 750,000 homes passed. Charter has an equity
incentive to
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provide us additional homes passed, although it is not obligated to do so. Under
the agreements, we agreed to pay Charter 50% of our gross revenues for cable
modem access services, 15% of our gross revenues for dial up access services,
and 50% of our gross revenues for all other optional services. In addition, if
we sell equipment to a subscriber, we agreed to pay Charter 50% of the gross
profit we receive from the sale. If Charter sells equipment to a subscriber,
Charter keeps 100% of the gross revenues from the sale. We also agreed that
Charter's share of gross revenues will not be less than that paid to other cable
operators to whom we provide services. Charter can terminate the agreement,
remove a particular agreement or terminate exclusivity rights, on a
system-by-system basis, if the Company fails to meet performance benchmarks or
otherwise breaches our agreement, including our agreement to provide content
designated by Vulcan. The performance benchmarks include requiring us to achieve
minimum penetration rates, to add equipment or bandwidth capacity when Internet
data traffic on a system reaches set levels, to maintain a designated response
rate at our call center and resolve a designated percentage of all non-cable
plant related trouble calls within specific time frames, and to provide monthly
reports to Charter tracking our compliance with these requirements. Charter can
also terminate this agreement, for any reason, as long as it purchases the
associated cable headend equipment and modems at book value and pays the Company
a termination fee based on the net present value of revenues the Company
otherwise would earn for the remaining term of the agreement from end users
subscribing to the Company's services as of the termination date. During the
term of the agreements, the Company has agreed not to compete with Charter in
any market in which it owns or operates a cable system and will not deploy
Worldgate, Web TV(R) or various other digital TV products in the market areas of
any committed system or in areas in which Charter operates a cable system. The
agreements will continue until the Company ceases to provide services to an end
user residing in a home passed in a committed system.
As an inducement to Vulcan to cause Charter to commit additional
systems to the Company, we granted Vulcan warrants to purchase up to 7,750,000
shares of the Company's common stock at a purchase price of $3.23 per share.
Vulcan subsequently assigned the warrants to Charter. The warrants are
exercisable by Charter at the rate of 1.55 shares of common stock for each home
passed committed to the Company by Charter in excess of 750,000. 3,875,000
warrants may be earned by Charter on or before July 31, 2001 and must be
exercised on or before July 31, 2002 or these warrants will expire. 3,875,000
warrants may be earned by Charter on or before July 31, 2003 and must be
exercised on or before July 31, 2004 or these warrants will expire. The warrants
may be forfeited in certain circumstances, generally if the number of homes
passed in a committed system is reduced.
In May 1999, Charter and the Company entered into a limited service
agreement which reduced the number of warrants issued per home passed in
exchange for a reduction in the revenue share per end user and a more beneficial
cost sharing arrangement for the Company in certain specified cable systems.
Under the terms of this limited service agreement, Charter will earn only 1
warrant per every three homes passed if it commits systems totaling less than 1
million homes passed, and 1 warrant for every 2 homes passed if the systems
total 1 million or more homes passed.
As of September 30, 1999, Charter has earned 77,738 warrants under
these agreements. Deferred distribution agreement costs of $96,000 and $780,000
were recorded in conjunction with these warrants for the three-month and
nine-month periods ended September 30, 1999. Amortization of distribution
agreement costs of $47,200 and $117,000 was recognized in the statement of
operations for the same periods, respectively. Additional deferred distribution
agreement costs may be recorded and amortized in future periods should Charter
earn the right to purchase additional common shares based on the number of homes
passed committed to the Company.
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Microsoft Corp.
Microsoft purchased $10.0 million of the Company's common stock
concurrently with the Offering at the offering price net of the underwriting
discount. At the time of the Offering, the Company also had a non-binding letter
of intent with Microsoft covering a number of potential areas of strategic
relationship.
Pursuant to the non-binding letter of intent and subsequent letter
agreement entered into in June 1999, the Company granted Microsoft warrants to
purchase 387,500 shares of common stock at an exercise price of $16.25 per
share. Under the terms of these agreements, Microsoft has agreed, among other
things, to introduce the benefits of the Company's services to Comcast Corp., a
multiple system cable operator. The warrants also provide Microsoft the right to
purchase one share of common stock for each 10 homes passed over 2,500,000 that
are committed by Comcast Corp. to the Company by May 1, 2002.
The Company recorded charges to earnings of $3.2 million during the
nine months ended September 30, 1999 related to the issuance of these warrants
based on the fair value of the shares at the time of grant. Additional expense
may also be recognized in future periods should Microsoft earn the right to
purchase additional common shares based on the number of homes passed committed
to the Company by Comcast Corp.
Road Runner Agreement
In July 1999, the Company entered into an agreement with ServiceCo LLC,
the entity that provides Road Runner's cable Internet access and content
aggregation services. The agreement establishes general terms and conditions
under which Road Runner may, if it wishes, engage the Company as a subcontractor
to provide all or some of the Company's network integration services to cable
operators who contract with Road Runner to deploy Road Runner-branded Internet
content and access services. The agreement also grants ServiceCo LLC a warrant
to purchase one share of common stock at a price of $5 per share for each home
passed, up to a maximum of 5 million homes, in those systems where ServiceCo LLC
engages the Company to serve as a subcontractor of services.
NOTE 7 - LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS
In July 1999, the Company entered into a commitment for a $5.0 million
loan facility. This loan facility is unused as of September 30, 1999. The terms
of the loan facility provide for interest at the rate of the 3-year U.S.
Treasury Note yield plus 9.76%, 36 equal monthly payments and a balloon payment
of 5.0% of the original loan balance in the 37th month and collateral of the
headend, data center and other field equipment of the Company.
In April 1999, the Company entered into a $3.0 million loan facility of
which $2.6 million has been drawn down at September 30, 1999. The terms of the
master loan agreement provide for interest at the rate of the 3-year U.S.
Treasury Note yield plus 9.76%, 36 equal monthly payments and a balloon payment
of 12.5% of the original loan balance in the 37th month and collateral of the
headend, data center and other field equipment of the Company. These terms are
effective on the date of, and applied separately to, each draw down on the total
loan facility.
In May 1999, the Company entered into a $3.0 million capital lease
facility, subsequently increased to $20.0 million, with Cisco Systems to provide
operating equipment. Financing of approximately $6.3 million had been obtained
under this agreement at September 30, 1999. The minimum lease payments for
outstanding obligations at September 30, 1999 are $514,000, $2.5 million,
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$2.5 million and $1.9 million for the periods ended December 31, 1999, 2000,
2001 and 2002, respectively.
NOTE 8 - 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 9 - RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, Accounting for Derivatives and
Hedging Activities (SFAS 133), 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, as amended by SFAS 137, is effective for the
Company's year ending December 31, 2001. As the Company does not currently
engage in or plan to engage in derivatives, or hedging transactions there will
be no impact on the Company's results of operations, financial position or cash
flows upon the adoption of SFAS 133.
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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 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 below under the heading
"Risk Factors" as well as those discussed in other filings with the Securities
and Exchange Commission, including the Company's registration statement on Form
S-1 declared effective on June 3, 1999 and form of final prospectus under Rule
424(e) filed on June 7, 1999.
OVERVIEW
High Speed Access Corp. (hereinafter referred to as the Company, we,
us, or our) is a leading provider of high speed Internet access via cable modem
to residential and commercial end users in exurban areas. In our full turnkey
solution, we generate revenue primarily from the monthly fees we receive from
end users for our cable modem-based Internet access service and for the
traditional dial-up services we offer as part of our end user acquisition
strategy. We report these 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.
Although we also earn revenues from the one-time fees we charge for the
installation of the cable modem at the end user's home or business, we
frequently waive this fee.
We also offer to our cable partners a partial turnkey solution. In a
partial turnkey solution, we deliver fewer services and incur lower costs than a
full 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 will bill the end user and remit to us our percentage of the revenue or
the fixed fee. During the quarter ended September 30, 1999, we initiated partial
turnkey services in four cable systems. We anticipate that partial turnkey
solutions will become a more significant part of our business mix.
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 currently is a significant part of
our total revenue. However, we expect this business mix to shift over time as
our dial-up end users migrate to high speed Internet access and as end users
generally become aware of the benefits of high speed Internet access. 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 will
save the cost of purchasing and installing cable modems for end users. In the
future we expect to earn revenues from the local content we provide and, subject
to our agreement with Vulcan Ventures Incorporated ("Vulcan"), from additional
services such as Internet telephony.
Our expenses consist of the following:
o Operating costs, which consist primarily of salaries for help desk and
network operations center employees; 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 rate at which our cable partners
upgrade their systems to two-way capability will affect our operating
margins. We expect our operating costs to grow significantly as we
roll out services in new systems. Many of our operating costs are
relatively fixed in the short term. However, as we add new end users
we will be able to spread these costs over a larger revenue base, and,
accordingly, decrease our costs per subscriber and improve our
operating margins.
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o Engineering expenses, which consist primarily of salaries and related
costs for 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. We
expect our engineering expenses to grow significantly as we introduce
our services in new markets and expand our network.
o Sales and marketing expenses, which consist primarily of salaries,
commissions and related personnel expenses and costs associated with
the development of sales and marketing materials, database market
analytics, direct mail and telemarketing. We expect that our sales and
marketing expenses will increase significantly as we pursue our growth
strategy.
o 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. We expect to hire additional support personnel and to incur
other additional expenses associated with being a public company,
including costs of directors' and officers' insurance and increased
legal and accounting fees.
o Non-cash compensation expense from stock options, which equals the
excess 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.
o 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. Warrants not directly associated with long-term
distribution agreements are expensed as earned.
RESULTS OF OPERATIONS FOR THE THREE MONTHS ENDED SEPTEMBER 30, 1999
(UNAUDITED), THE THREE MONTHS ENDED SEPTEMBER 30, 1998 (UNAUDITED),
THE NINE MONTHS ENDED SEPTEMBER 30, 1999 (UNAUDITED) AND FOR
THE PERIOD APRIL 3, 1998 (INCEPTION) TO SEPTEMBER 30, 1998 (UNAUDITED)
On April 3, 1998, we acquired CATV.net, Inc. and High Speed Access
Network, Inc. in a transaction recorded under the purchase method of accounting.
We had no operations prior to these acquisitions. Accordingly, the following
discussion reflects our results of operations since April 3, 1998.
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.
As a result of the foregoing 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.
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Revenues. Net revenue consists primarily 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
and installation fees and other up front fees from end users. Total net revenue
for the three months ended September 30, 1999 was $1.1 million, an increase of
$1.0 million over net revenues of $101,000 for the three months ended September
30, 1998. Net revenue for the nine months ended September 30, 1999 was $2.0
million, an increase of $1.8 million over net revenue of $0.2 million for the
period April 3, 1998 (Inception) through September 30, 1998 ("Inception
Period"). For the three months ended September 30, 1999 and 1998, cable modem
based subscription fees contributed approximately 41% and 46% of our net
revenues, traditional dial up service fees contributed 30% and 32%, cable modem
rental fees contributed 19% and 7%, engineering services provided to cable
partners contributed 7% and 0%, and installation and other up front fees from
end users contributed 3% and 15%, respectively. For the nine months ended
September 30, 1999 and the Inception Period, cable modem based subscription fees
contributed approximately 41% and 38% of our net revenue, traditional dial-up
fees contributed approximately 35% and 41%, cable modem rental fees contributed
17% and 6%, engineering services provided to cable partners contributed 4% and
0%, and installation and other up front fees from end users contributed 3% and
15%, respectively.
Costs and Expenses
Operating. Operating costs for the three months ended September 30,
1999 were $7.2 million, an increase of $6.5 million over operating costs of $0.7
million for the three months ended September 30, 1998. Operating costs were
$13.3 million for the nine months ended September 30, 1999, an increase of $12.4
million over $0.9 million for the Inception Period. The increase in operating
costs resulted primarily from an increase in personnel and personnel related
costs for additional staff in our network operations centers, help desk and
field technical support departments, an increase in telecommunications expense
from the rollout of our service to new markets and larger subscriber base and
depreciation of capital equipment from the expansion of our network and the
installation of cable modems for a growing subscriber base.
Engineering. Engineering expenses for the three months ended September
30, 1999 were $2.6 million, an increase of $1.9 million over engineering
expenses of $0.7 million for the three months ended September 30, 1998.
Engineering costs were $6.1 million for the nine months ended September 30,
1999, an increase of $5.0 million over $1.1 million for the Inception Period.
The increase in engineering expenses resulted from personnel and personnel
related costs for additional technical staff to support the installation of
cable headend hardware and software in our cable partners' systems, continued
network design, system testing, and project management as we evaluated new
equipment and possible new product offerings.
Sales and Marketing. Sales and marketing expenses for the three months
ended September 30, 1999 were $5.1 million, an increase of $3.7 million over
sales and marketing expenses of $1.4 million for the three months ended
September 30, 1998. For the nine months ended September 30, 1999, sales and
marketing expenses were $10.8 million, an increase of $8.7 million over $2.1
million for the Inception Period. The increase in sales and marketing expenses
resulted primarily from an increase in personnel and personnel related cost to
expand our residential and commercial end user sales force, new cable partner
sales force and telemarketing sales force, as well as an increase in direct
marketing and advertising expenses.
General and Administrative. General and administrative expenses were
$3.0 million for the three months ended September 30, 1999, an increase of $2.2
million over general and administrative expenses of $0.8 million for the three
months ended September 30, 1998. General and administrative expenses for the
three months ended September 30, 1999 and 1998 also included amortization of
intangible assets of $268,000 and $216,000, respectively. General and
administrative expenses were $6.7 million for the nine months ended September
30, 1999, an increase of $5.4 million over general and administrative expenses
of $1.3 million for the Inception Period, including amortization of intangible
assets of $740,000 and $432,000,
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respectively, related to the acquisitions mentioned above. Amortization of
intangible assets relates primarily to the acquisitions of CATV.net, Inc. and
High Speed Access Network, Inc. The increase in general and administrative
expenses resulted from additional personnel costs as we hired personnel to
implement procedures and controls to support our planned expansion and to
administer finance, legal and human resource functions.
Non-cash Compensation Expense from Stock Options. Non-cash compensation
expense from stock options for the three months and nine months ended September
30, 1999 was $18,000 and $2.7 million, respectively. This expense is principally
related to 227,695 options issued under the 1998 Stock Option Plan that vested
upon execution of the Initial Public Offering ("the Offering"). There was no
expense of this nature during the three months ended September 30, 1998 or the
Inception Period. Non-cash compensation expense represents the excess of the
fair market value of our common stock over the exercise price of the stock
options granted. The remaining amount of deferred compensation expense will be
recognized over the vesting period of the options.
Amortization of Distribution Agreement Costs. Amortization of
distribution agreement costs for the three months ended September 30, 1999 was
$193,000. There were no expenses of this nature during the three months ended
September 30, 1998 or the Inception Period. Amortization of distribution
agreement costs for the nine months ended September 30, 1999 was $3.5 million,
of which $3.2 million related to the issuance of 387,500 warrants issued under
the terms of a non-binding letter of intent and subsequent letter agreement with
Microsoft Corp. ("Microsoft"). The remaining amount reflects the amortization of
the value of 77,738, 76,095, and 44,911 warrants earned by Charter
Communications ("Charter"), Classic Cable Inc. ("Classic") and ETAN Industries
Inc. d/b/a Cable Management Associates ("CMA"), respectively, under distribution
agreements for commitments of homes passed to us. We may incur additional
material non-cash charges related to further issuance of stock warrants to our
cable and strategic partners in the future. The Company will recognize an
addition to equity for the fair value of any warrants issued, and 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 such warrants are earned. The use of warrants in these
and similar transactions may increase the volatility of our earnings in the
future.
Interest Income. Interest income was $2.8 million for the three months
ended September 30, 1999, compared to interest income of $9,000 for the three
months ended September 30, 1998. Interest income was $3.7 million for the nine
months ended September 30, 1999, compared to interest income of $10,000 for the
Inception Period. The primary reason for the increase in interest income relates
to interest on the net proceeds of our initial public offering ("Offering").
Interest income represents interest earned on cash, cash equivalents and short
term investments.
Interest Expense. Interest expense was $122,000 for the three months
ended September 30, 1999, an increase of $102,000 over interest expense of
$20,000 for the three months ended September 30, 1998. Interest expense was
$216,000 for the nine months ended September 30, 1999, an increase of $191,000
over interest expense of $25,000 for the Inception Period. Interest expense
represents interest payable by the company on long-term debt and capital lease
obligations.
Income Taxes. At September 30, 1999, we had accumulated net operating
loss carryforwards for federal and state tax purposes of approximately $45.7
million, which will expire at various times beginning in 2018. At September 30,
1999, we had a net deferred tax asset of $15.5 million relating principally to
our accumulated net operating losses. Our ability to realize the value of our
deferred tax asset 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 September 30, 1999, 1998, the nine months ended September 30, 1999 or the
Inception Period.
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LIQUIDITY AND CAPITAL RESOURCES
At September 30, 1999, we had cash and cash equivalents of $62.7
million, and short term investments of $136.4 million, compared with $17.9
million of cash and cash equivalents at December 31, 1998. We had significant
negative cash flows from operating activities for the nine months ended
September 30, 1999. Cash used in operating activities was $27.6 million for the
nine months ended September 30, 1999 caused primarily by a net loss of $37.6
million and an increase in current and non-current assets of $4.2 million,
offset by non-cash expenses of $10.3 million and increases in accounts payable,
accrued expenses and other current liabilities of $3.9 million.
Cash used in investing activities was $153.2 million for the nine
months ended September 30, 1999, the result of short term investments of $231.7
million, offset by sales and maturities of short term investments of $94.9
million, and capital expenditures of $15.9 million. The principal capital
expenditures incurred during this period were for the purchase of headend data
network hardware and software, billing and customer care systems, cable modems
and central network hardware and software, reflecting our expansion into new
markets.
Cash provided by financing activities for the nine months ended
September 30, 1999 was $225.7 million comprised primarily of $179.3 million in
net proceeds from the Offering, $18.5 million in proceeds from the concurrent
offering to Cisco, Com21 and Microsoft, $25.0 million in net proceeds from the
issuance of mandatorily redeemable convertible preferred stock, and $2.6 million
in proceeds from 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:
o The pace of the rollout of our service to our cable partners,
including the impact of substantial capital expenditures and related
operating expenses;
o The rate at which we enter into contracts with cable operators for
additional systems;
o The rate at which end users subscribe to our services;
o Changes in revenue splits with our cable partners;
o Price competition in the Internet and cable industries;
o The mix of services offered by us including whether we provide our
services on a full or partial turnkey basis;
o Capital expenditures and costs related to infrastructure expansion;
o The rate at which our cable partners convert their systems from
one-way to two-way systems;
o End user turnover rates;
o Our ability to protect our systems from telecommunications failures,
power loss and software-related system failures;
o Changes in our operating expenses including, in particular, personnel
expenses;
o The introduction of new products or services by us or our competitors;
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o Our ability to enter into strategic alliances with content providers;
and
o Economic conditions specific to the Internet and cable industries, as
well as general economic and market conditions.
We expect to incur approximately $10.0 million of additional capital
expenditures funded through a combination of capital lease financing and cash
on-hand, for the remainder of 1999 principally related to the installation of
headend data network hardware and software, cable modems, central network
hardware and software, and a billing and customer care system. Actual capital
expenditures will be significantly affected by the rate at which end users
subscribe for our cable modem Internet access services, which requires us to
purchase a cable modem for each new end user, as well as by the pace of the roll
out of our systems, which requires us to purchase headend data network hardware
and software.
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 debt securities of corporations and the U.S. Government. We include in
cash and cash equivalents all short-term, highly liquid investments that mature
within 90 days of their original issue date.
Short term investments are classified as available-for-sale under Statement of
Financial Accounting Standards No. 115, Accounting for Certain Investments in
Debt and Equity Securities ("SFAS No. 115"). Short term investments are
principally comprised of investments in highly liquid debt securities of
corporations and the U.S. Government. The Company recognizes changes in the fair
market value of securities held for short term investment as an equal adjustment
to the carrying value and equity. We do not expect any material loss with
respect to our investment portfolio. In addition, we do not use derivative
financial instruments in our investment portfolio.
We believe our current cash, cash equivalents and short term
investments, together with the proceeds from $8.0 million in loan facilities
entered into during 1999, and a $20.0 million capital lease facility entered
into during the year, as well as additional loan and lease facilities, will be
sufficient to meet our working capital requirements, including operating losses,
and capital expenditure requirements for the next 15 months, assuming we achieve
our business plan. There can be no assurance that we will be able to raise
additional capital, should that become necessary, on terms acceptable to us or
at all. The sale of additional equity or convertible debt securities may result
in additional dilution to our stockholders. If financing is not available at
terms acceptable to us, management has the intent and the ability to reduce
expenditures so as to delay the need for additional financing.
In June 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 133, Accounting for Derivatives and
Hedging Activities (SFAS 133), 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, as amended by SFAS 137, is effective for our
fiscal year ending December 31, 2001. As we do not currently engage or plan to
engage in derivatives or hedging transactions there will be no impact on our
results of operations, financial position or cash flows upon the adoption of
SFAS 133.
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YEAR 2000 COMPLIANCE
We may realize exposure and risk if the systems upon which we are
dependent to conduct our operations are not Year 2000 compliant. Should any of
our "date dependent" equipment, circuits or software fail as a result, our
services could be severely affected. Our potential areas of exposure include
information technology, including computers and software that we purchase or
licenses from third parties, and non-information technology, such as telephone
systems and other equipment that we acquire and use internally. Other potential
areas of exposure include the systems of business partners upon whom our
services are dependent, including our cable partners and their RF-cable TV
plants, and Internet backbone providers and telephone companies.
We engaged a third party consultant to perform a Year 2000 assessment
study. The planning, inventory, business impact analysis, and contingency
planning portions of our Year 2000 assessment project are complete.
o We have completed the discreet testing of all our internal PC-based
software applications and other local area computer networks, and
identified only minor issues that have been remediated by routine software
& hardware upgrades. Additionally, we expect to commence the integrated
system-wide testing of all our software and hardware applications on
November 15, 1999, and expect to complete this testing by November 30,
1999. To the extent this integrated systems-level testing reveals any
remaining Year 2000 compliance anomalies, we expect to resolve them
primarily through software upgrades or hardware replacement and re-testing
of the affected systems by December 31, 1999.
o We continue to seek verification from our cable affiliates that the cable
plants over which our service operates are Year 2000 compliant. Our major
cable partner, Charter Communications, Inc., has indicated that it expects
to complete its Year 2000 testing and remediation efforts by November 5,
1999. Our other cable partners are in various states of Year 2000 readiness
and planning, but we believe the risk posed to our services by our cable
partners' head end equipment to be slight. To the extent our cable partners
are not presently compliant, we are asking them to provide us with a
description of their plans to become so. We are also assessing the possible
impact on our business and the nature of our electronic interdependencies
with those non-Year 2000 compliant cable affiliates, and expect to take
appropriate remediation action to the extent possible.
o Our efforts to verify that the business operations of the vendors and
suppliers upon which we rely are year 2000 compliant are complete. We have
not terminated any vendor relationships because of Year 2000 compliance
issues, and to date, all of the vendors and suppliers that we consider
vital to our operations have issued letters of Year 2000 compliant status
to us.
o We have completed the preparation of specific contingency plans to deal
with the worst-case scenario that might occur if the technologies we are
dependent upon are not Year 2000 compliant and fail to operate effective.
This includes our plan to add extra staffing to our customer service
centers and data network operating centers on the evening of December 31,
1999 through the morning of January 1, 2000 to address any Year 2000 issues
or failures that may occur.
Although we believe that we can quickly address any difficulties that
may arise, in the event that our Web-hosting servers and network facilities are
not Year 2000 compliant, all or portions of our Internet access services,
including our web sites, could be unavailable to deliver services to our cable
affiliates and customers. Moreover, if our present efforts to address our
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potential Year 2000 compliance issues are not successful, or if our cable
partners, vendors, and other third parties with which we conduct business do not
successfully address these issues, our business and financial results could be
materially and adversely affected. This in turn could expose us to claims and
liabilities of unknown and potentially material proportions.
We have expended approximately $335,000 through September 30, 1999 on
our Year 200 compliance efforts. None of this amount has been capitalized. We
estimate that our total cost to develop and implement our Year 2000 compliance
assessment plan will not exceed $500,000, which will be funded from cash on
hand.
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
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. We have recognized limited revenues since our inception. In
addition, our senior management team and other employees have worked together at
our company for only a short period of time. Consequently, we have a limited
operating history upon which our business can be evaluated.
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 $45.7 million from April 3, 1998 (Inception) through
September 30, 1999. Our limited operating history 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 flows from operations for at least the next several years as we
expand our business. The principal costs of expanding our business will include:
o Substantial direct and indirect selling, marketing and promotional
costs;
o System operational expenses, including the lease of our Internet
backbone, which has a traffic capacity in excess of our current needs;
o Costs incurred in connection with higher staffing levels to meet our
growth;
o The acquisition and installation of the equipment, software and
telecommunications circuits necessary to enable our cable partners to
offer our services; and
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o 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 CANNOT PREDICT OUR SUCCESS BECAUSE OUR BUSINESS MODEL IS UNPROVEN AND MAY
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 in its present
form, or at all. Critical issues concerning the increased use of the
Internet--including security, reliability, cost, ease of access and quality of
service--remain unresolved and are likely to affect the development of the
market for our services. Relatively few companies currently offer cable-based
Internet access, and we do not believe any of those has been profitable.
Moreover, many industry analysts believe that Internet access providers will
become increasingly reliant upon 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, who in our comprehensive turnkey service will
purchase or rent a cable modem from us and pay both monthly service and
installation fees. We have launched full operations in only 55 cable systems and
we have approximately 9,300 residential cable modem end users. In the quarter
ended September 30, 1999, we initiated partial turnkey services in four systems.
In our partial turnkey solution, we deliver fewer services and incur lower costs
than in a full turnkey solution but will also earn a smaller percentage of the
subscription revenue or a fixed fee on a per subscriber basis. We anticipate
that partial turnkey services will become a more significant part of our
business mix. If partial turnkey services become a larger portion of our
business mix, this will affect our future revenues and profitability per
subscriber.
Although our primary service offering is high bandwidth Internet
access, we currently derive a substantial portion of our revenues from standard
dial-up Internet access, which we offer as a feeder for our high speed
offerings. 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. Additionally, we cannot predict whether partial turnkey services
will become an increasingly important part of our business.
OUR ABILITY TO ATTRACT AND RETAIN END USERS DEPENDS ON MANY FACTORS WE CANNOT
CONTROL.
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:
o Our ability to enter into and retain agreements with cable operators;
o 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 our cable headend equipment to our Internet
backbone;
o Our success in marketing our service to new and existing end users;
o Competition, including new entrants advertising free or lower priced
Internet access and/or alternative access technologies;
o Whether our cable partners maintain their cable systems or upgrade
their systems from one-way to two-way service;
o The quality of the customer and technical support we provide; and
o The quality of the content we offer.
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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 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:
o The pace of the rollout of our service to our cable partners,
including the impact of substantial capital expenditures and related
operating expenses;
o The rate at which we enter into contracts with cable operators for
additional systems;
o The rate at which end users subscribe to our services and the rate at
which these customers are installed and provisioned for service;
o Changes in revenue splits with our cable partners;
o Price competition in the Internet and cable industries;
o The extent to which we provide partial, rather than full turnkey
access;
o Capital expenditures and costs related to infrastructure expansion;
o The rate at which our cable partners convert their systems from
one-way to two-way systems;
o End user turnover rates;
o Our ability to protect our systems from telecommunications failures,
power loss and software-related system failures;
o Changes in our operating expenses including, in particular, personnel
expenses;
o The introduction of new products or services by us or our competitors;
o Our ability to enter into strategic alliances with content providers;
and
o 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 shortfall. 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
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be below 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.
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. In addition, our failure to form partnerships with a large number of
cable operators as quickly as possible permits other cable-based broadband
service providers to enter into exclusive agreements and effectively exclude us
from the systems covered by those agreements. 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 Communications. Charter is an
affiliate of Vulcan, which owns 37.2% of our outstanding common stock as of
September 30, 1999. Charter has provided us exclusive access to at least 750,000
homes passed. Charter has equity incentives to provide us additional homes
passed, although it is not obligated to do so. If Charter were to commit more
homes passed to our services, Charter could ask us to deploy many or possibly
even all of those homes passed on a partial turnkey basis. In a partial turnkey
solution, we deliver fewer services and incur lower costs than in full turnkey
solutions, but will also earn a smaller percentage of the subscription revenue.
Under our network service agreement, Charter can also terminate our
exclusivity rights, on a system-by-system basis, if we fail to meet performance
benchmarks or otherwise breach our agreement, including our commitment to
provide content designated by Vulcan. Moreover, Charter can terminate our
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. There can be no assurances we will meet the benchmarks related
to our customer penetration rates or that Charter will not decide to terminate
our agreement for any other reason. If Charter were to terminate this agreement,
in whole or for any material system, our business and financial results would be
materially and adversely affected.
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 25, 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 in 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
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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 prohibit us from providing content and telephony
services means that Vulcan's interests are not necessarily aligned with those of
our other stockholders.
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 will 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, and thus our agreement with Road Runner may be of no material
benefit to us. In addition, we may not be able to meet the system deployment
schedule proposed by Road Runner. Moreover, while we expect that only a portion
of the homes under the agreement will be deployed on a partial turnkey basis,
Road Runner could ask us to deploy more partial turnkey homes than we
anticipate. In a partial turnkey solution, we deliver fewer services and incur
lower costs than in a full turnkey solution, but will also earn a smaller
percentage of the subscription revenue. Since the agreement provides that Road
Runner will earn one warrant per home passed in cable systems designated to
receive service regardless of whether we deploy a partial or full turnkey
solution, our stockholders could suffer dilution in exchange for potentially
less profitable homes.
INVESTORS MAY SUFFER SUBSTANTIAL DILUTION FROM OTHER TRANSACTIONS.
As an inducement to cause Charter to commit additional systems to us,
we have granted Charter warrants to purchase up to 7,750,000 shares of our
common stock at an exercise price of $3.23 per share. These warrants become
exercisable at the rate of 1.55 shares for each home passed committed to us by
Charter in excess of 750,000. To the extent that Charter becomes eligible to
exercise all or a significant portion of these warrants, our 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. Our agreement with ServiceCo LLC provides for
granting of warrants to purchase one share of our common stock at a price of $5
per share up to a maximum of 5 million shares. 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.
Stockholders could face additional dilution from these possible future
transactions.
DARWIN, OUR FORMER DIGITAL SUBSCRIBER LINE TECHNOLOGY DIVISION, AND OUR
PRINCIPAL STOCKHOLDERS ARE NOT RESTRICTED FROM PROVIDING COMPETING HIGH SPEED
INTERNET ACCESS SERVICES.
In March 1999, we transferred all of the assets used in our digital
subscriber line technology division to Darwin Networks, Inc., a newly-formed
subsidiary, and distributed all of the Darwin common stock to our current
stockholders. Darwin's digital subscriber line technology is an alternative
method of providing high speed Internet access to end users using the telephone
infrastructure. Although Darwin is at an early stage of its development, if
Darwin were to deploy this technology successfully in future partnerships with
wireline telephone providers in markets where we provide our high speed Internet
access, Darwin could become one of our competitors. Neither Darwin nor our
principal stockholders, including Vulcan, will be restricted from providing
competing high speed digital subscriber line Internet access.
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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 only one-third of the systems where we are or will soon operate our
services are two-way systems. Over time, however, 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. 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.
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 services and support operations, sales and administrative
personnel, and other resources. In fact, our predecessor companies had
inadequate accounting controls and procedures in place. While we believe that 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. 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. Our growth plan may include acquisitions. If
we acquire a company, we could have difficulty assimilating 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.
THE MARKET FOR INTERNET SERVICES IS HIGHLY COMPETITIVE.
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 this competition to intensify in
the future. We face competition from other cable modem service providers for
partnerships with cable operators and from providers of other types of data and
Internet services for end users. Due to this intense competition, there may be a
time-limited market opportunity for our cable-based high speed access 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.
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. Other competitors in the cable-based
Internet access market are those companies seeking to establish
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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. 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.
We also compete with traditional Internet service providers and other
competing broadband technologies including ISDNs, DSLs, wireless and satellite
data services. Moreover, our competitors include long distance inter-exchange
carriers, regional Bell operating companies and other local exchange carriers.
Many of these carriers are offering diversified packages of telecommunications
services, including Internet access, and could bundle these services together,
putting us at a competitive disadvantage. Widespread commercial acceptance of
any of these competing technologies or 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.
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 likely to be significantly slower, depending on a
variety of factors, including 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'
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 the 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
cable networks over which 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.
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WE MAY NEED ADDITIONAL CAPITAL IN THE FUTURE AND IT MAY NOT BE AVAILABLE ON
ACCEPTABLE TERMS.
The development of our business may require significant additional
capital in the future to fund our operations, to finance the substantial
investments in equipment and corporate infrastructure needed for our planned
expansion, to enhance and expand the range of services we offer and to respond
to competitive pressures and perceived opportunities, such as investment,
acquisition and international expansion activities. To date, our cash flow from
operations has been insufficient to cover our expenses and capital needs. We
believe our current cash, cash equivalents and short term investments, together
with the proceeds from $8.0 million loan facilities entered into during 1999,
and a $20.0 million capital lease financing facility entered into during 1999,
as well as additional loan and lease financing facilities will be sufficient to
meet our working capital requirements, including operating losses, and capital
expenditure requirements for the next 15 months, assuming we achieve our
business plan. There can be no assurance that additional financing will be
available on terms favorable to us, or at all. Charter can require any lender
with liens on our equipment placed in Charter head ends to deliver to Charter a
non-disturbance agreement as a condition to such financings. We can offer no
assurance that we will be able to obtain 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. If adequate funds
are not available on acceptable terms, we may be forced to curtail or cease our
operations. Moreover, even if we are able to continue our operations, the
failure to obtain additional financing could have a material and adverse effect
on our business and financial results and we may need to delay the deployment of
our services. See "Management's Discussion and Analysis of Financial Condition
and Results of Operations -- Liquidity and Capital Resources."
WE FACE RISKS FROM POTENTIAL YEAR 2000 PROBLEMS.
We engaged a third-party consultant to complete a Year 2000 assessment
study. The third-party consultant identified only minor issues that have been
remediated by routine upgrades, patches and replacements. We are continuing to
seek verification from our cable partners that they are Year 2000 compliant. To
the extent that our cable affiliates fail to provide certification that they are
Year 2000 compliant by November 1999, we will reassess the possible impact on
our business and the nature of our interdependencies at that time, and take
appropriate remediation action to the extent possible. Our inability to correct
a significant Year 2000 problem, if one exists, could result in an interruption
in, or a failure of, certain of our normal business activities and operations.
In addition, a significant Year 2000 problem concerning our high speed access
services could cause our users to consider seeking alternate providers of
Internet access. Any significant Year 2000 problem could require us to incur
significant unanticipated expenses to remedy these problems and could divert
management's time and attention, either of which could have a material adverse
effect on our business, results of operation and financial condition. See
"Management's Discussion and Analysis of Financial Condition and Results of
Operations -- Year 2000 Compliance" for information on our state of readiness,
potential risks and contingency plans regarding the Year 2000 issue.
WE MAY BECOME SUBJECT TO RISKS OF INTERNATIONAL OPERATIONS.
We are currently at the early stages of evaluating international
expansion opportunities. If we expand internationally, we would become subject
to the risks of conducting business internationally, including:
o Foreign currency fluctuations, which could result in reduced revenues
or increased operating expenses;
o Inability to locate qualified local partners and suppliers;
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o The burdens of complying with a variety of foreign laws and trade
standards;
o Tariffs and trade barriers;
o Difficulty in accounts receivable collection;
o Potentially longer payment cycles;
o Foreign taxes;
o Unexpected changes in regulatory requirements including the regulation
of Internet access; and
o 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. There can be no assurance that the risks
associated with our proposed international operations will not materially and
adversely affect our business and financial results.
RISKS RELATED TO THE MARKET FOR HIGH SPEED INTERNET 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.
Cable television companies operate under franchises granted by local or
state authorities that are subject to renewal and renegotiation 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.
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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 and our prospects for growth. If technologies
or standards applicable to our services become obsolete or fail to gain
widespread consumer acceptance, 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 headend, cable modem and other related capital
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 have a material
adverse effect on our business and financial results.
WE DEPEND ON A DATA TRANSMISSION INFRASTRUCTURE LARGELY MAINTAINED BY THIRD
PARTIES OR 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. Currently, we have transit agreements with
UUNet, a division of MCI WorldCom, and others to support the exchange of traffic
between our data servers, the cable infrastructure and the Internet. Our
operations also depend on our ability to avoid damages from fires, earthquakes,
floods, power losses, telecommunications failures, network software flaws,
transmission cable cuts, Year 2000 problems 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
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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.
The part of our business that involves installing and maintaining the
equipment used by cable systems to transmit high-speed data in a
computer-accessible format is not regulated, but cable businesses are. Changes
in cable regulations, as they relate to our service, could negatively affect our
business in several ways. First, cable operators usually classify our service as
a "cable service." If our service is not considered a cable service, some cable
franchising authorities, in most cases usually cities or counties, might claim
that our cable partners need a separate franchise to offer it. This franchise
may not be obtainable on reasonable terms, or at all. In the alternative, even
if the service is treated as cable service, local franchising authorities may
seek to impose "non-discrimination" or "open access" obligations on our cable
partners as a condition of franchise transfer or renewal. Also, even if our
service is not considered a cable service, it might be treated as a
"telecommunications service," which could subject our cable partners, and
possibly us, to federal and state regulation as "telecommunications carriers."
This could negatively affect our business in various ways. For example, if we or
our cable partners were either 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, we or they
could potentially be subject to government-regulated terms, conditions and
prices for Internet connection services, as well as become obligated to make
contributions to the universal service support fund. Subject to our agreement
with Charter, we may also provide Internet telephony services over cable plant,
and this service may be regulated in the future as a common carrier
telecommunications service. Moreover, we or our cable partners might then have
to get a "telecommunications franchise" from some localities, which might not be
available on reasonable terms, or at all. In addition, our contracts with our
cable partners make us the exclusive supplier of high-speed data on the cable
systems where our service is offered. Firms such as America Online and large
telephone companies are seeking to have regulators ban such exclusive
arrangements. If such arrangements are banned, we 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. Finally, any future regulatory decisions that
make DSL technology services easier for competing telephone companies to deploy
over normal telephone lines, and less expensive for customers to buy, could
negatively affect our 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 President, Chief Operating Officer, Chief Strategy
Officer and Chief Technology 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.
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RISK RELATED TO TRADING IN OUR STOCK
BECAUSE OF OUR RELATIONSHIP WITH VULCAN VENTURES, NEW INVESTORS WILL HAVE LITTLE
INFLUENCE OVER MANAGEMENT DECISIONS.
Vulcan owns 37.4% of our outstanding stock. Vulcan's affiliate, Charter
Communications, also has warrants to purchase up to an additional 7.75 million
shares of our common stock, which become exercisable at the rate of 1.55 shares
per home passed committed to us by Charter, in excess of 750,000. Accordingly,
Vulcan 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 Vulcan's control relationship with us, including:
o Conflicts between Vulcan, as our controlling stockholder, and our
other stockholders, whose interests may differ with respect to, among
other things, our strategic direction or significant corporate
transactions,
o conflicts related to corporate opportunities that could be pursued by
us, on the one hand, or by Vulcan, on the other hand, or
o conflicts related to existing or new contractual relationships between
us, on the one hand, and Vulcan and its other affiliates, on the other
hand.
In particular, Vulcan is affiliated with Charter, currently 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.
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.
THERE HAS BEEN NO PRIOR MARKET FOR OUR COMMON STOCK; OUR STOCK PRICE IS LIKELY
TO BE HIGHLY VOLATILE.
Prior to our initial public offering in June 1999, there was no public
market for our common stock. We cannot predict the extent to which investor
interest in us will lead to the development of an active trading market in our
stock or how liquid that market might become. 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 in Vulcan, could
make it difficult for a third party to acquire us, even if doing so might be
beneficial to our other stockholders.
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ITEM 3 - QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
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PART II - OTHER INFORMATION
Item 1 - Legal Proceedings.
None.
Item 2 - Changes in Securities and Use of Proceeds.
a. From July 1, 1999 through September 30, 1999, we issued an aggregate
of 30,689 shares to employees upon the exercise of options to purchase our
common stock with exercise prices ranging from $0.65 to $3.23, all of which
were paid in cash. The issuances of these securities were deemed exempt from
registration under the Securities Act in reliance upon Rule 701 promulgated
under the Securities Act.
In August, 1999, we issued an aggregate of 20,150 shares of common
stock to Mr. Marvin Anglin upon exercise of a warrant with an exercise price of
$13.00 per share, which was paid in cash. The warrant was originally issued in
connection with the Company's acquisition of Atlanta Online, Inc. in March,
1999. The issuance of such securities was deemed to be exempt from registration
under the Securities Act in reliance on Section 4(2) of such Act as a
transaction by an issuer not involving any public offering. The sale was made
without general solicitation or advertising and the purchaser had access to all
relevant information necessary to evaluate the investment and represented to the
Company that the shares were being acquired for investment.
b. On June 4, 1999, the Company consummated its initial public offering
(the "Offering") of its common stock, par value $.01 per share (the "Common
Stock"). The registration statement relating to this Offering (File No.
333-74667) was declared effective on June 3, 1999.
During the three months ended September 30, 1999, we did not incur any
additional expenses with respect to the Offering.
The proceeds are invested in short-term investments consisting mostly
of debt instruments of the U.S. government, its agencies, and of high quality
corporate issuers as of September 30, 1999.
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
See attached exhibit index.
(b) Reports on Form 8-K
No such reports were filed during the quarter ended
September 30, 1999.
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 By
------------------ --------------------------------
Title President
Date By
------------------ --------------------------------
Title Chief Financial Officer
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Exhibit Index
Exhibit
Number Exhibit Title
- ------- -------------
10.1 Securities Purchase Warrant dated June 3, 1999 between Classic Cable, Inc. and High Speed
Access Corp.
10.2 Securities Purchase Warrant dated June 4, 1999 between ETAN Industries, Inc. and High
Speed Access Corp.
10.3 Cherry Creek Plaza Office Building Lease dated May 18, 1999 between Plaza II, Ltd. and
High Speed Access Corp.
10.4 Deed of Lease dated August 20, 1999 between Realty Associates Fund III, LP and High Speed
Access Corp.
10.5 Sublease dated August 20, 1999 between R Squared Distributing of Colorado and High Speed
Access Corp.
27. Financial Data Schedule