UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
-----------------
Form 10-K
[ x ] Annual report pursuant to section 13 or 15(d) of the
Securities Exchange Act of 1934
For the Fiscal Year Ended June 30, 2000
[ ] Transition report pursuant to section 13 or 15(d) of the
Securities Exchange Act of 1934
Commission File Number: 333-50049
DTI HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
Missouri 43-1828147
(State of incorporation) (I.R.S. Employer Identification No.)
8112 Maryland Ave, 4th Floor
St. Louis, Missouri 63105
(Address of principal executive offices)
(314) 880-1000
(Registrant's telephone number)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
No non-affiliates of the registrant own common stock of the registrant.
Documents Incorporated By Reference
None
DTI HOLDINGS, INC.
FORM 10-K
Year Ended June 30, 2000
TABLE OF CONTENTS
Page
PART I
Item 1. Business 4
Item 2. Properties 29
Item 3. Legal Proceedings 29
Item 4. Submission of Matters to a Vote of Security Holders 29
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters 30
Item 6. Selected Financial Data 31
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations 33
Item 7A. Quantitative and Qualitative Disclosures about Market Risk 40
Item 8. Financial Statements and Supplementary Data 40
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 40
PART III
Item 10. Directors and Executive Officers of the Registrant 41
Item 11. Executive Compensation 43
Item 12. Security Ownership of Certain Beneficial Owners and
Management 47
Item 13. Certain Relationships and Related Transactions 48
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K 49
Signatures
Exhibit Index
2
FORWARD-LOOKING STATEMENTS
We have included "forward-looking statements" throughout this document. These
statements describe our attempt to predict future events. We use the words
"believe," "anticipate," "expect," and similar expressions to identify
forward-looking statements. You should be aware that these forward-looking
statements are subject to a number of risks, assumptions, and uncertainties,
such as:
- - Risks associated with our capital requirements and existing debt;
- - Risks associated with increasing competition in the telecommunications
industry, including industry over-capacity and declining prices;
- - Changes in laws and regulations that govern the telecommunications
industry;
- - Risks related to continuing our network expansion without delays, including
the need to obtain permits and rights-of-way; and
- - Other risks discussed below under "Risk Factors."
This list is only an example of some of the risks that may affect our
forward-looking statements. If any of these risks or uncertainties materialize
(or if they fail to materialize), or if the underlying assumptions are
incorrect, then our results may differ materially from those we have projected
in the forward-looking statements. We have no obligation to revise these
statements to reflect future events or circumstances.
3
PART I
Item 1. Business
In this Annual Report on Form 10-K, we will refer to DTI Holdings, Inc., a
Missouri Corporation organized in 1997, as "DTI Holdings", the "Company", "we",
"us", and "our". We will refer to Digital Teleport, Inc., our wholly-owned
operating subsidiary organized in 1989, as "Digital Teleport."
Introduction
We are a facilities-based communications company that is creating an
approximately 20,000 route mile fiber optic network comprised of approximately
23 regional rings interconnecting primary, secondary and tertiary cities in 37
states and the District of Columbia. By providing high-capacity voice and data
transmission services to and from secondary and tertiary cities, we intend to
become a leading wholesale provider of regional communications transport
services to interexchange carriers ("IXCs") and other communications companies
("carrier's carrier services"). We are offering our carrier customers dedicated,
virtual circuits through the exclusive use of high capacity, ring-redundant
optical windows from dense wavelength division multiplexing ("DWDM") equipment
on the regional rings throughout our network. We will use the optical windows to
offer our carrier customers a high quality, ring-redundant means to efficiently
deliver their calls and data to a significant number of end-users along these
rings. Our regional rings will also offer carriers a means to aggregate, for
further long haul transport, the outgoing calls of that carrier's customers
along such rings to regional points of interconnection between the carrier's
network and our network for further transport by the carrier. We also offer our
carrier customers point-to-point non-ring protected transport services on our
facilities. Customers of our carrier's carrier services include Tier 1 and Tier
2 carriers and other communication companies. We also provide private line
services to targeted business and governmental end-user customers ("end-user
services").
On a fully diluted basis, we are 47% owned by an affiliate of Kansas City
Power & Light Company ("KCP&L"), and 47% owned by Richard D. Weinstein, our
President and Chief Executive Officer. Our principal business office is located
at 8112 Maryland Avenue - 4th Floor, St. Louis Missouri 63105, United States,
and our telephone number is (314) 880-1000.
Recent Events
On September 27, 2000, DTI Holdings, Inc. announced that Richard D.
Weinstein, the founder, president and chief executive officer of the Company,
has entered into a conditional agreement for the sale of his shares to KLT
Telecom Inc., the telecommunications subsidiary of KCP&L.
Under the agreement, KLT would acquire an additional 31 percent of the
fully diluted common stock of DTI Holdings, for a purchase price of
approximately $110 million. The investment would increase KLT's fully diluted
ownership to 78 percent of DTI. In addition to the initial share purchase, if
the transaction is consummated by November 20, 2000, Mr. Weinstein has agreed to
grant KLT a 5-year option to buy his remaining 15 percent of the fully diluted
common stock of DTI for an additional purchase price of approximately $12
million.
The stock acquisition is contingent upon satisfaction or waiver by KLT
of several conditions. These conditions include the purchase by KLT of at least
90% of the principal amount of DTI's Series B Senior Discount Notes due 2008
("Senior Discount Notes") and 90% of the Warrants which were issued together
with the Senior Discount Notes and which are now detachable. Each Warrant
entitles the holder to purchase 1.552 shares of DTI common stock. The purchase
price to be offered for the Senior Discount Notes and Warrants will be
determined by KLT, but in the case of the Senior Discount Notes is expected to
represent a significant discount to their accreted value. Other conditions
include receipt of a waiver from KLT's bank group and the availability of
financing to consummate the transactions.
4
At such time as KLT makes an offer to purchase at least 40% of the
Senior Discount Notes and 40% of the Warrants, persons designated by KLT would
be elected as Executive Vice Presidents of DTI with authority over certain
construction activities, marketing and sales, and approval rights for
transactions over $1 million, subject to separate approval rights which Mr.
Weinstein would retain over specified matters.
If the transaction is terminated, KLT and Mr. Weinstein have agreed to
a six-month "standstill" period, during which they will exercise joint
decision-making authority for contracts and capital expenditures in excess of $1
million.
5
Business Strategy
We intend to:
Leverage Integrated Long-Haul Routes, Regional Rings and Local Network Design
We believe that the strategic design of our network will allow us to offer
reliable, high-capacity transmission services on a region-by-region basis to
carrier and end-user customers who seek a competitive alternative to incumbent
providers of such services. The regional and local SONET rings in our network,
which provide instantaneous restoration of service in the event of a fiber cut,
will interconnect primary, secondary and tertiary markets, major IXCs points of
presence ("POPs") and incumbent local exchange carrier ("ILEC") access tandems
and, in selected metropolitan areas, potential end-user customers. This design
will permit us to provide our carrier customers with reliable transmission
capacity between the carrier's network and access tandems serving a significant
number of end-users in each region. Using a technologically advanced design, our
ringed network will provide rapid rerouting of calls in the event of a fiber cut
and, in many cases, will permit our customers to allocate, manage and monitor
the capacity they lease from us from within the customer's own network
operations center.
Develop a Low-Cost Network
We are striving to develop a low-cost network by (i) taking advantage of
the potential cost efficiencies of our network design, (ii) continuing to deploy
advanced fiber optic network technology, which we believe lowers construction,
operating and maintenance costs, and (iii) realizing cost efficiencies through
existing and additional fiber strand long-term indefeasible rights to use
("IRUs") and swap agreements with other telecommunications companies and
rights-of-way agreements with governmental authorities. We believe that our
approach will allow us to offer carrier customers regional transport on a more
economical basis than is currently available to such customers.
Selectively Pursue Local Switched Services Opportunities
We believe our network design will allow us to selectively and
cost-effectively pursue local switched service opportunities by creating
regional and local fiber optic rings along our long-haul routes and by
leveraging the technical capabilities and high-bandwidth capacity of our
network. We intend to provide local switched service capacity to our carrier
customers and to other facilities-based and non-facilities-based
telecommunications companies on a wholesale basis. Our network's design will
also provide us with sufficient long-haul capacity to offer local switched
services to targeted end-user customers in primary, secondary and tertiary
cities on our regional rings.
Leverage Experienced Management Team
Our management team includes individuals with significant experience in the
deployment and marketing of telecommunications services. Prior to founding
Digital Teleport in 1989, Richard D. Weinstein, President and Chief Executive
Officer, owned and managed Digital Teleresources, Inc., a firm which designed,
engineered and installed telecommunications systems for large telecommunications
companies, including SBC Communications, Inc. ("SBC"), and other Fortune 500
companies. Prior to joining us as Senior Vice President, Finance and
Administration and Chief Financial Officer, Gary W. Douglass was the Executive
Vice President and Chief Financial Officer of publicly-held Roosevelt Financial
Group, Inc., which was acquired by Mercantile Bancorporation in 1997, and had
previously spent 23 years at Deloitte & Touche LLP. Jerry W. Murphy, our
President - DTI Network Services and Chief Technology Officer, spent 18 years
with MCI, having spent the last 11 years in senior positions in engineering,
network implementation and network operations positions. William P. McDonough,
our Vice President of Network Engineering and Operations, has spent 37 years in
the telecommunications industry with 34 of those years having been spent at SBC
in various engineering and operations positions. Phillip S. Adams our Vice
President - Network Sales started in October 1998 from AT&T. Mr. Adams held a
number of management positions while at AT&T over the course of 27 years in
sales, project management, network services, and marketing. Daniel A. Davis,
6
Vice President and General Counsel joined us in June 1998 from the law firm of
Bryan Cave LLP where he practiced in the corporate transactions and corporate
finance groups, representing primarily telecommunications and other technology
based companies.
Going Concern
The accompanying consolidated financial statements and financial
information has been prepared assuming that we will continue as a going concern.
We incurred losses from operations of $22 million and net losses of $57 million
during the fiscal year ended June 30, 2000. We have not yet been successful in
obtaining additional financing to sustain our operations and may have
insufficient liquidity to meet our needs for continuing operations and meeting
our obligations. As of June 30, 2000, DTI had $33 million of cash and cash
equivalents. Such amounts, when coupled with anticipated collections of
additional amounts due us under existing IRU agreements upon delivery of
specific route segments, are expected to provide sufficient liquidity to meet
our operating and capital requirements through approximately March 2001.
Consequently, there is substantial doubt about our ability to continue as a
going concern. The Company's continuation as a going concern is dependent upon
its ability to (a) generate sufficient cash flow to meet its obligations on a
timely basis, (b) obtain additional financing as may be required, and (c)
ultimately sustain profitability. Management's recent actions and plans in
regard to these matters are as follows:
1. The Company is attempting to increase sales of monthly bandwidth
capacity to reduce the amount of cash flow required to fund
operations.
2. The Company is selectively evaluating the opportunities to sell
additional dark fiber and empty conduits to supplement its liquidity
position.
3. The Company is exploring vendor financing options as a source of
funding for its electronics purchases in order to light additional
network capacity.
4. The Company is exploring its options with respect to obtaining
additional equity infusions as well as the possibilities of additional
debt financing.
5. The Company is considering delaying, modifying or abandoning plans to
build or acquire certain portions of our network in order to conserve
cash until such time as additional cash is generated to support its
business plan.
There can be no assurance, however, that DTI will be successful in any of
the above mentioned actions or plans in a timely basis or on terms that are
acceptable to us and within the restrictions of our existing financing
arrangements, or at all.
7
Our Business
The Network
General. Our network is an exclusively fiber optic cable communications
system substantially all of which employs self-healing, SONET ring architecture
to minimize downtime in the event of a cut in a fiber ring. We expect that more
than 90% of the fiber in our network will be installed underground, typically 36
to 48 inches under the surface, providing protection from weather and other
environmental hazards affecting reliability of communication connections. We
expect to construct approximately one-third of our network, and to obtain IRUs
for fiber optic facilities for the remainder. On routes constructed by us we
install SMF-28 Corning fiber for our own use and LEAF fiber for future uses. In
June 1998, we entered into a two-year agreement with Pirelli Cable and Systems
LLC ("Pirelli") pursuant to which we agreed to purchase all of our fiber optic
cable from Pirelli. The Pirelli cable supply agreement has subsequently been
extended for an additional one-year period. Routes in our network constructed by
us are generally comprised of a minimum of 48 fiber strands. On routes where we
obtain IRUs we will generally acquire between four and 24 fiber strands. On
certain strategic routes which we construct, our network will also include one
or two empty innerducts for maintenance and future growth purposes. As part of
our design, we typically retain 60% or more of the fiber capacity on each
network route we construct for our own use.
We currently have approximately 18,000 route miles of fiber optic cable in
place or under construction throughout the United States consisting of long-haul
segments and local loop networks in the St. Louis, Kansas City and Memphis
metropolitan areas, as well as other smaller markets. We currently offer
services over approximately 2,000 route miles of our network.
Network Electronics. Long-haul routes on our network will generally utilize
Dense Wavelength Division Multiplexing ("DWDM") equipment. DWDM equipment
provides individual wavelength-specific circuits of OC-48 capacity optical
windows (a standard measure of optical transmission capacity). In September
1998, we entered into a three-year agreement with Cisco Systems, Inc. ("Cisco"),
successor to Pirelli's optical networking division, pursuant to which we agreed
to purchase from Cisco at least 80% of our needs for certain DWDM equipment. All
our network DWDM equipment is initially equipped to enable us to provide the
equivalent of eight dedicated, ring redundant, optical windows. Such equipment
has the ability to be expanded to offer additional optical windows as the need
for capacity on our network increases. The DWDM equipment will permit us to
offer to our carrier customers optical windows on regional rings providing a
dedicated, virtual circuit that can interconnect any two points on that regional
ring. The DWDM equipment, with the accompanying optical add/drop multiplexing
("OADM") equipment, also will permit us to efficiently provide high capacity
telecommunications services to secondary and tertiary markets that we believe
are currently underserved. Our use of open architecture, DWDM equipment on our
regional rings and long-haul routes will also give our network the ability to
inter-operate with our carrier customers' existing fiber optic transmission
systems, which have a broad range of transmission speeds and signal formats,
without the addition of expensive conversion equipment by those carriers. We
believe that the network's current and planned system architecture, with minor
additions or modifications, will accommodate asynchronous transfer mode ("ATM")
and frame relay transmission methods and emerging Internet Protocol
technologies.
On all routes throughout our network, whether constructed by us or
purchased, leased or swapped from another carrier, we will install centrally
controllable high-bit-rate transmission electronics. We believe the use of such
fiber optical terminal equipment will provide our customers the ability to
monitor, in their own network control centers, the optical windows on the
regional rings that they utilize. This equipment should also permit our
customers to utilize their own network control centers to add and remove
services on the optical windows serving that carrier. Our network design will
permit carriers to utilize our network as a means to efficiently expand their
networks to areas not previously served, to provide redundancy to their networks
or to upgrade the technology in areas already served by such networks. Our
network will also be capable of providing services to carriers and end-users in
increments of less than a full OC-48 optical window, from OC-12s to DS-3s.
8
We believe that our network design standards give us sufficient
transmission capacity to meet anticipated future increases in call volume and
the development of more bandwidth-intensive voice, data and video
telecommunication uses. Our network's capacity also will allow us to deploy
fewer high cost switches by facilitating the transport of rural switched calls
to and from distant centralized switching facilities. All network operations are
currently controlled from a network control center in suburban St. Louis,
Missouri.
Network Design. Our network is designed to include high-capacity (i)
long-haul routes between large metropolitan areas, (ii) regional rings
connecting primary, secondary and tertiary metropolitan areas to one another and
(iii) local rings in selected metropolitan areas along the regional rings. The
long-haul route portions of our network will generally be located to allow us to
more easily interconnect with major IXC POPs and ILEC access tandems in a
region. Any major ILEC access tandem along a regional ring not physically
interconnected through facilities owned or used pursuant to a long-term IRU by
us may be interconnected through leased lines until there are sufficient
customers to make construction of our own route to these access tandems
economically feasible. Local network portions of our network in metropolitan
areas are generally routed near major business telecommunications users,
metropolitan ILEC access tandems and major ILEC central offices. We believe the
different elements of our network complement each other and will create certain
construction, operating and maintenance synergies. We also believe our
integrated long-haul routes, regional ring and local ring design will allow us
to offer our carrier and end-user customers private line and local switched
services at a lower cost by reducing our use of ILEC and IXC facilities to
provide services to our customers.
Switching Capacity. We intend to install high-capacity switches in
strategically located, geographically diverse metropolitan areas to balance the
expected traffic throughout our network. When coupled with our integrated
network design, this switch placement will give us the ability to offer local
switched service and long-haul service to many end-user customers along our
regional rings. By using the expected excess capacity on our network, calls from
diverse geographic regions in our network can be routed long distances from the
originating point to one of our switches and on to their destination, reducing
the number of switches required and decreasing the cost and complexity of
constructing, operating and maintaining our network. In addition, the strategic
deployment of switches is expected to enable us to (i) offer switched services
on a more economical basis, (ii) offer custom calling features and billing
enhancements to all of our customers without involving the ILEC, and (iii) allow
us to sell our local switched service capacity to other carriers on a wholesale
basis.
Highway and Utility Rights-Of-Way. Much of the currently completed network
is located in rights-of-way obtained by us through strategic relationships with
utilities, state transportation departments and other governmental authorities.
To build the long-haul portions of our network between population centers in
Arkansas, Kansas, Missouri, Oklahoma and our future builds in Virginia we have
generally used rights-of-way in the median of and along the interstate highway
system. In addition, we believe that public rights-of-way for a substantial
portion of the remainder of the planned network will be available in the event
that we are unable to obtain rights-of-way from third parties.
As a result of this strategy we have entered into certain agreements with
the Department of Transportation ("DOTs") for various states and others that
require us to construct our network facilities along specified routes and within
certain time frames. To date we have approximately 4,700 miles of rights-of-way
required to be built pursuant to these agreements of which we have completed
approximately 2,800 miles. In exchange for these rights-of-way, we are required
to provide the DOTs either fibers, ducts, fiber optic capacity and connection
points within our network or a combination thereof. If we do not complete our
designated routes as required or cure a breach of the agreement in a timely
manner as specified in the applicable agreement, we may lose our rights under
the contract which may include exclusivity, access to our fiber or the ability
to complete our construction on the remaining unbuilt rights-of-way.
Build-Out Plan. We currently plan to deploy a fiber optic network in 37
states and the District of Columbia that will consist of approximately 20,000
route miles of fiber optic cable, DWDM and other signal transmission equipment,
and high-capacity switches strategically located in larger metropolitan areas.
We expect to construct approximately one-third of such network and to obtain
9
IRUs for fiber optic facilities of other carriers for the remainder of the
network. We have construction projects, including IRUs from other carriers,
currently underway in Colorado, Illinois, Indiana, Iowa, Kansas, Oklahoma,
Nebraska, Tennessee and Virginia.
In addition to routes that we will construct, we expect to (i) purchase,
for cash, IRUs for fiber optic facilities of other telecommunications companies
and (ii) exchange IRUs to use our fiber optic facilities for IRUs to use the
fiber optic facilities of other telecommunications companies. In this manner, we
believe that we will be able to establish telecommunications facilities along
our network routes more quickly than by constructing all of our own facilities.
We have entered into long-term IRUs for our use of fiber optic strands and
related facilities along the following routes which have all been delivered as
of September 2000.
Approximate
Route Route Miles
----- -----------
Washington D.C. to Dallas, TX 2,050
Portland, OR to Salt Lake City, UT to Los Angeles, CA 1,700
Denver, CO to Houston, TX 1,500
Los Angeles, CA to Portland, OR 1,150
Indianapolis, IN to New York City, NY 1,100
Denver, CO to Salt Lake City, UT 600
Indianapolis, IN to New York City, NY 600
Des Moines, IA to Minneapolis, MN 250
Other 400
-----
Total route miles delivered 9,350
=====
We have also entered into long-term IRUs for our use of fiber optic strands
and related facilities along the following routes that are scheduled to be
delivered over the next year:
Dallas, TX to Las Vegas, NV 1,350
Orlando, FL to Atlanta, GA 600
Atlanta, GA to Jacksonville, FL 350
Jacksonville, FL to Miami, FL 350
Miami, FL to Orlando, FL 400
Chicago, IL to Cleveland, OH 450
-----
Total route miles to be delivered 3,500
=====
Additionally, we have a short-term lease agreement along routes from Los
Angeles, CA to Dallas, TX to Joplin, MO, from St. Louis, MO to Indianapolis, IN
and from Indianapolis, IN to Chicago, IL totaling approximately 2,800 route
miles. This short-term lease of fiber was executed in order to provide
facilities prior to a long-term solution for this route through the construction
of, or the execution of long-term IRUs for, this route. We have also received
approximately 480 miles of inner-duct from Atlanta to Louisville during fiscal
2000 in exchange for fiber and cash. As of June 30, 2000, we had a receivable
recorded for $13 million related to this transaction. All such amounts have
subsequently been collected.
The routes listed above in the table, excluding the 2,800 route miles
related to the short-term lease, include an aggregate of approximately 12,850
route miles, for an aggregate advance cash consideration to be paid by DTI of
approximately $134 million, of which $8 million remains to be paid at June 30,
2000, plus recurring maintenance, power, building space fees and monthly lRU
payments, if any. In addition to the $8 million remaining to be paid by DTI, the
agreements in certain cases provide for consideration to be paid by DTI in the
form of fiber strands or cash, at our option, if the fiber is available.
Our IRU agreements provide for reduced payments and varying penalties from
the counter party for our late delivery of route segments, and allow the counter
party, after expiration of grace periods, to delete such non-delivered segment
from the system route to be delivered. Where we have exchanged IRUs to use our
fiber optic facilities for IRUs to use the fiber optic facilities of other
telecomunications companies, a significant increase in the level of
10
consideration settled in the form of cash versus fiber for any of these counter
parties could have a material adverse effect on our results of operations or
financial condition.
Monitoring and Maintenance. From our network management center in St.
Louis, we monitor our equipment and facilities and provide technical assistance
and support 24 hours a day, year-round. Various quality measures are monitored
on an ongoing basis, with the aim of identifying problems at an early stage
before they affect the customer. Through the use of sophisticated network
management equipment, we are able to effectively control bandwidth and provide
diagnostic services. We use internal technicians to install and repair
electronics and to provide service to customers. We use external installers as
necessary, to perform some initial installation work of equipment.
Network Resilience. Our network infrastructure is designed to provide
resilience through back-up power systems, automatic traffic re-routing and
computerized automatic network monitoring. If our network experiences a failure
of one of its links, the routing intelligence of the equipment is designed to
enable the circuit to be transferred to the next choice route, thus ensuring
circuit delivery without affecting the customer.
Products and Services
Carrier's Carrier Services
General. "Carrier's carrier services" are generally the high capacity
transmission services used by IXCs, ILECs and competitive local exchange
carriers ("CLECs") to transmit telecommunications traffic. Customers using
carrier's carrier services include (i) facilities-based carriers that require
transmission capacity where they have geographic gaps in their facilities, need
additional capacity or require alternative routing and (ii) non-facilities-based
carriers requiring transmission capacity to carry their customers'
telecommunications traffic. We currently provide carrier's carrier services
through IRUs and network capacity agreements. Our three largest customers
accounted for 68% of our revenues during fiscal 2000. Our present and planned
carrier's carrier services are set forth below.
Optical Windows. We are offering our carrier customers, through wholesale
network capacity agreements dedicated, virtual circuits through the exclusive
use of an OC-48 or lesser capacity, ring redundant wavelength of light, or
optical window, on the regional rings in our network. We supply all fiber optic
electronic equipment necessary to transmit telecommunications traffic along the
regional ring. We offer agreements for the provision of optical windows for a
term of years with fixed monthly payments over the term of the agreement,
regardless of the level of usage. Uses of optical windows by an IXC can include
point-to-point, dedicated data and voice circuit communications connections, as
well as redundancy and overflow capacity for existing facilities of the IXC.
Possible uses of optical windows by ILECs include connection of its central
offices to other central offices or access tandems. An ILEC may also use such
agreements as a cost-effective way to upgrade its network facilities. A CLEC may
use optical window agreements as a way of "filling out" its network.
We are offering our carrier customers the use of an OC-48 or lesser optical
window to create a high quality, ring redundant means to efficiently deliver its
calls to a significant number of end-users along these rings and aggregate, for
further long haul transport, the outgoing calls of that carrier's customers
along such rings to regional points of interconnection between the carrier's
network and our network. We are able to offer this service because (i) our
network is and will be physically interconnected with major IXC POPs in a
region, (ii) our network will typically be interconnected through our own or
leased facilities to major ILEC access tandems in a region, and (iii) our
network will integrate high capacity switches. Currently, IXCs have to provide
for the transport between each of their POPs and from each of those POPs to each
of the access tandems in the areas adjacent to such POPs, which can involve the
use of multiple networks and carriers. We believe that our method of
transporting an IXC's traffic directly to access tandems would be attractive to
an IXC because it should (i) reduce the administrative burden on the IXC of
terminating such calls, because the IXC will have to contract with only one
carrier to reach the ILEC access tandems, (ii) result in greater reliability,
because the calls are transported over a newer system, with fewer potential
points of failure, and (iii) result in greater accountability, because fewer
11
telecommunications companies may be involved in the delivery of such traffic. We
are offering leased services on a per-optical window, per-mile basis or a flat
monthly rate for a given amount of capacity.
Dedicated Bandwidth Services. Through our other wholesale network capacity
agreements, also referred to as dedicated bandwidth agreements, we provide
carriers with bandwidth capacity on our network in increments of less than a
full OC-48 optical window, such as a DS-3. The carrier customer in a dedicated
bandwidth agreement does not have exclusive use of any particular strand of
fiber or wavelength, but instead has the right to transmit a certain amount of
bandwidth between two points along our network. The carrier customer provides a
telecommunications signal to us, and we provide all fiber and electronic
equipment necessary to transmit the signal to the end point. This capacity may
or may not be along a regional ring providing redundancy. Dedicated bandwidth
agreements typically have terms ranging from one to five years, require the
customer to pay for such capacity regardless of the level of usage, and require
fixed monthly payments or a combination of advance payments and subsequent
monthly payments over the term of the agreement.
IRUs. Through IRUs, we provide carrier customers specified strands of
optical fiber (which are used exclusively by the carrier customer), while the
carrier customers are responsible for providing the electronic equipment
necessary to transmit communications along the fiber. IRUs, which are accounted
for as operating leases, typically have terms of 20 or more years and require
substantial advance payments and additional fixed annual maintenance payments
over the term of the agreement. Uses of IRUs by an IXC are the same as those for
optical windows or dedicated bandwidth agreements, but permit a customer to use
its own electronic equipment to light up the fibers at any level of capacity it
chooses.
Other Wholesale Services. We offer our end-user services on a wholesale
basis to other carriers for resale. For example, a private line could be leased
to an IXC to transmit the traffic of its large business customers, which are
located on or near our network from the premises of such customers to the IXC's
POPs, using our network exclusively. In addition, upon the installation of our
high-capacity switches at strategic points on our network, in the future we will
have the capacity to provide wholesale local switched services to our carrier
customers.
End-User Services
General. End-user services are telecommunications services provided to
business and governmental end-users. We currently provide private line services
connecting certain points on a given end-user's private telecommunications
network and in the past have established connections between such private
network and the facilities of that end-user's long distance service provider.
Private Line Services. A private line is an unswitched, generally
non-exclusive, lighted telecommunications transmission circuit used to transport
data, voice and video communications. The customer may use a private line for
communications between otherwise unconnected points on its internal network or
to connect its facilities to a switched IXC. Private line calls are generally
routed by a customer through the customer's Private Branch Exchange ("PBX")
facilities to a receiving terminal on our network. We then transmit the signals
over our network to the customer's terminal in the call recipient's area or to
the POP for the customer's long distance provider. Our current private line
service agreements have terms ranging from three to 40 years and typically
require a one-time installation charge as well as fixed monthly payments
throughout the term of the agreement regardless of level of usage.
Sales and Marketing
General. We currently have three employees focusing solely on carrier's
carrier services. Sales personnel are compensated through a combination of
salary and commissions. We plan to significantly expand our sales and marketing
activities.
Carrier's Carrier Services. Our carrier's carrier services are marketed and
sold to facilities-based and nonfacilities-based carriers that require capacity
in the form of IRUs and wholesale network capacity agreements to provide added
capacity in markets they currently serve, bridge geographic gaps in their
facilities or require geographically different routing of their long distance or
12
local traffic. We rely on direct selling to other carriers on a wholesale basis.
Our sales efforts also emphasize providing continued customer support services
to our existing customers. We intend to distinguish ourselves in the carrier's
carrier market on the basis of pricing, quality, availability of capacity and
flexibility and range of services.
End-User Services. Through our direct sales efforts, we market and sell our
end-user services to business and governmental end-users that require private
line services among multiple office sites or data centers and between the
end-user's private network and its long distance provider. End-user sales
generally are project-driven and typically involve sales cycles of two to six
months. For customers that are not located on the local rings of our network, we
will consider leasing circuits from the local ILEC or other telecommunications
company or, if necessary, build-out our network directly to such customers. We
do not currently anticipate offering switched long distance services under a DTI
brand. We intend to distinguish ourselves to end-users on the basis of pricing,
customer responsiveness and creative product implementation.
Competition
The telecommunications industry is highly competitive. We compete and, as
we expand our network, expect to continue to compete with numerous established
facilities-based IXCs, ILECs and CLECs. Many of these competitors have
substantially greater financial and technical resources, long-standing
relationships with their customers and the potential to subsidize competitive
services from less competitive service revenues. We are aware that other
facilities-based providers of local and long distance telecommunications
services are planning and constructing additional networks that, if and when
completed, could employ advanced fiber optic technology similar to, or more
advanced than, our network. Such competing networks may also have operating
capability similar to, or more advanced than, that of the DTI network and be
positioned geographically to compete directly with the DTI network for many of
the same customers along a significant portion of the same routes. Unlike
certain of our competitors, however, who are constructing or have announced
plans to construct nationwide fiber optic networks, DTI is deploying a network
design that it believes will allow it to address secondary and tertiary markets
located along DTI network's regional rings, which markets we believe are under
served by existing carriers and are not expected to be the primary targets of
most such newly constructed long distance networks.
We compete primarily on the basis of price, transmission quality,
reliability, customer service and support. Prices in our industry have been
declining and are expected to continue to do so. Our competitors in carrier's
carrier services include many large and small IXCs including AT&T, MCI WorldCom,
Sprint, IXC Communications, Qwest and McLeod USA. We compete with both LECs and
IXCs in our end-user business. In the end-user private line services market, our
principal competitors are SBC, Verizon Communications ("Verizon") and Sprint. In
the local exchange market, we expect to face competition from ILECs and other
competitive providers, including non-facilities based providers, and, as the
local markets become opened to IXCs under the Telecommunications Act of 1996
(the "Telecom Act"), from long distance providers. See "--Risk Factors -
Regulatory change could occur which might adversely affect our business."
Some major long distance and local telecommunications service providers
have also recently indicated a willingness to consolidate their operations to
offer a joint long distance and local package of telecommunications services.
MCI WorldCom currently provides both local exchange and long distance
telecommunications services throughout the United States. Unlike MCI WorldCom,
however, DTI's network is designed to reach secondary and tertiary markets,
which are substantially bypassed by MCI WorldCom's long haul and local exchange
networks. Qwest, a communications provider building a coast-to-coast fiber optic
network in the United States, following its merger with LCI International, Inc.,
a retail long distance provider, has become the nation's fourth largest long
distance company. Qwest completed a merger with U.S. West, one of the regional
bell operating companies ("RBOCs"), with local and long haul facilities in the
central and western U.S., in June 2000. In addition, in July 1998 AT&T completed
its acquisition of Teleport Communications Group, Inc. ("TCG"), a
facilities-based CLEC with networks in operation in 57 markets in the United
States and in March 1999 completed its merger with Tele-Communications, Inc., a
major cable franchise company that has been renamed AT&T Broadband and Internet
Services ("AT&T Broadband"). SBC has acquired Ameritech, one of the original
seven RBOCs, and Southern New England Telecommunications Corporation. Bell
13
Atlantic Corporation has merged with GTE Corporation ("GTE") and the combined
company has been renamed Verizon. Many of these combined entities could offer a
package of integrated services directly in competition with DTI in many of our
targeted markets. In addition, other companies, such as CapRock Communications
and Adelphia Business Solutions (formerly Hyperion) have announced business
plans specifically focusing on secondary and tertiary markets in areas including
our Midwestern region offering direct competition for our products.
We also believe that high initial network cost and low marginal costs of
carrying long distance traffic have led to a trend among non-facilities-based
carriers to consolidate in order to achieve economies of scale. Such
consolidation among significant telecommunications carriers could result in
larger, better-capitalized competitors that can offer a "one-stop shopping"
combination of long distance and local switched services in many of DTI's target
markets.
In addition to IXCs and LECs, entities potentially capable of offering
local switched services in competition with the DTI network include cable
television companies, such as AT&T Broadband, which is the second largest cable
television company in the United States, electric utilities, microwave carriers,
wireless telephone system operators and large subscribers who build private
networks. Previous impediments to certain utility companies entering
telecommunications markets under the Public Utility Holding Company Act of 1935
were also removed by the Telecom Act, at the same time creating both a new
competitive threat and a source of strategic business and customer relationships
for DTI.
In the future, we may be subject to more intense competition due to the
development of new technologies and an increased supply of transmission capacity
and the effects of deregulation resulting from the Telecom Act. The
telecommunications industry is experiencing a period of rapid technological
evolution, marked by the introduction of new product and service offerings and
increasing satellite transmission capacity for services similar to those we
provide. For instance, recent technological advances permit substantial
increases in transmission capacity of both new and existing fiber, and certain
companies have begun to deploy and use ATM network backbones for both data and
packetized voice transmission and announced plans to transport interstate long
distance calls via such voice-over-data technology. Certain companies have
announced efforts to use Internet technologies to supply telecommunications
services, potentially leading to a lower cost of supplying these services and
therefore increased pressure on IXCs and other telecommunications companies to
reduce their prices. There can be no assurance that our IXC and other carrier
customers will not experience substantial decreases in call volume or pricing
due to competition from Internet-based telecommunications, which could lead to a
decreased need for our services, or a reduction in the amount these companies
are willing or able to pay for our services. There can also be no assurance that
we will be able to offer our telecommunications services to end-users at a price
that is competitive with the Internet-based telecommunications services offered
by these companies. We do not currently market to Internet service providers
("ISPs") and therefore may not realize any revenues from the Internet-based
telecommunications market. If we do commence marketing to ISPs there can be no
assurance that it will be able to do so successfully, which would have a
material adverse effect on our business, financial condition and results of
operations. The introduction of such new products by other carriers or the
emergence of such new technologies may reduce the cost or increase the supply of
certain services similar to those we provide. We cannot predict which of many
possible future products and service offerings will be crucial to maintain our
competitive position or what expenditures will be required to profitably develop
and provide such products and services.
We believe our existing and planned rights-of-way along interstate highway
systems and public utility infrastructures have played and could continue to
play a significant role in achieving our business objectives. However, there can
be no assurance that competitors will not obtain rights to use the same or
similar rights-of-way for expansion of their communications networks.
Many of our competitors and potential competitors have financial,
personnel, marketing and other resources significantly greater than we have, as
well as other competitive advantages. The continuing trend toward business
combinations and alliances in the telecommunications industry may increase the
resources available to DTI's competitors and create significant new competitors.
The ability of DTI to compete effectively will depend upon, among other things,
our ability to deploy the planned DTI network and to maintain high quality
14
services at prices equal to or below those charged by our competitors. There can
be no assurance that we will be able to compete successfully with existing
competitors or new entrants in the markets for carrier's carrier and end-user
services and any of the other services DTI plans to offer in the future. Our
failure to do so would have a material adverse effect on our business, financial
condition, results of operations and business prospects.
Regulatory Matters
General Regulatory Environment
Our operations are subject to extensive Federal and state regulation.
Carrier's carrier and end-user services are subject to the provisions of the
Communications Act of 1934, as amended, including the Telecom Act, and the FCC
regulations thereunder, as well as the applicable laws and regulations of the
various states, including regulation by public utility commissions ("PUCs") and
other state agencies. Federal laws and FCC regulations apply to interstate
telecommunications, while state regulatory authorities have jurisdiction over
telecommunications both originating and terminating within the state. The
regulation of the telecommunications industry is changing rapidly, and the
regulatory environment varies substantially from state to state. Moreover, as
deregulation at the Federal level occurs, some states are reassessing the level
and scope of regulation that may be applicable to telecommunications service
providers, such as DTI. All of our operations are also subject to a variety of
environmental, safety, health and other governmental regulations. There can be
no assurance that future regulatory, judicial or legislative activities will not
have a material adverse effect on us, or that domestic regulators or third
parties will not raise material issues with regard to our compliance or
noncompliance with applicable regulations.
The Telecom Act is likely to have significant effects on our operations.
The Telecom Act, among other things, allows the RBOCs to enter the long distance
business after meeting certain competitive market conditions, and enables other
entities, including entities affiliated with power utilities and ventures
between ILECs and cable television companies, to provide an expanded range of
telecommunications services. The General Telephone Operating Companies may enter
the long distance markets without meeting these FCC criteria. Entry of such
companies into the long distance business would result in substantial
competition for carrier's carrier service customers, and may have a material
adverse effect on DTI and such customers. However, we believe the RBOCs' and
other companies' participation in the market will also provide opportunities for
us to lease fiber or sell wholesale network capacity. On November 5, 1999, the
FCC released a ruling that requires, among other things, incumbent local
telephone companies to lease fiber that has not yet been activated ("dark
fiber").
Under the Telecom Act, the RBOCs may immediately provide long distance
service outside those states in which they provide local exchange service
("out-of-region" service), and long distance service within the regions in which
they provide local exchange service ("in-region" service) upon meeting certain
conditions. The General Telephone Operating Companies may enter the long
distance market without regard to limitations by region. The Telecom Act does,
however, impose certain restrictions on, among others, the RBOCs and General
Telephone Operating Companies in connection with their provision of long
distance services. Out-of-region services by RBOCs are subject to receipt of any
necessary state and/or Federal regulatory approvals that are otherwise
applicable to the provision of intrastate and/or interstate long distance
service. In-region services by RBOCs are subject to specific FCC approval and
satisfaction of other conditions, including a checklist of pro-competitive
requirements. Verizon and SBC recently received permission from the FCC to begin
providing in-region long distance services in New York and Texas, respectively,
and Verizon's approval for New York was recently upheld by the U.S. Court of
Appeals for the D.C. Circuit. SBC has recently filed applications to provide
such service in Missouri and Arkansas.
The RBOCs may provide in-region long distance services only through
separate subsidiaries with separate books and records, financing, management and
employees, and all affiliate transactions must be conducted on an arm's length
and nondiscriminatory basis. The RBOCs are also prohibited from jointly
marketing local and long distance services, equipment and certain information
services unless competitors are permitted to offer similar packages of local and
15
long distance services in their market. Further, the RBOCs must obtain in-region
long distance authority before jointly marketing local and long distance
services in a particular state. Additionally, AT&T and other major carriers
serving more than 5% of presubscribed long distance access lines in the United
States are also restricted from packaging other long distance services and local
services provided over RBOC facilities. The General Telephone Operating
Companies are subject to the provisions of the Telecom Act that impose
interconnection and other requirements on ILECs. General Telephone Operating
Companies providing long distance services must obtain regulatory approvals
otherwise applicable to the provision of long distance services.
Federal Regulation
The FCC classifies DTI as a non-dominant carrier. Under existing
regulations, non-dominant carriers are required to file FCC tariffs listing the
rates, terms and conditions of both interstate and international services
provided by the carrier, however, under current regulations, by January 31,
2001, non-dominant carriers must cancel all tariffs for interstate domestic long
distance service and provide such service by contract. Generally, the FCC has
chosen not to exercise its statutory power to closely regulate the charges,
practices or classifications of non-dominant carriers. However, the FCC has the
power to impose more stringent regulation requirements on us and to change its
regulatory classification. In the current regulatory atmosphere, we believe the
FCC is unlikely to do so with respect to our service offerings.
As a non-dominant carrier, we may install and operate wireline facilities
for the transmission of domestic interstate communications without prior FCC
authorization, but must obtain all necessary authorizations from the FCC for use
of any radio frequencies. Non-dominant carriers are required to obtain prior FCC
authorization to provide international telecommunications; however, we currently
do not and have no intent to provide international services. The FCC also must
provide prior approval of certain transfers of control and assignments of
operating authorizations. Non-dominant carriers are required to file periodic
reports with the FCC concerning their interstate circuits and deployment of
network facilities. We are required to offer our interstate services on a
nondiscriminatory basis, at just and reasonable rates, and we are subject to FCC
complaint procedures. While the FCC generally has chosen not to exercise direct
oversight over cost justification or levels of charges for services of
non-dominant carriers, the FCC acts upon complaints against such carriers for
failure to comply with statutory obligations or with the FCC's rules,
regulations and policies. We could be subject to legal actions seeking damages,
assessment of monetary forfeitures and/or injunctive relief filed by any party
claiming to have been injured by our practices. We cannot predict either the
likelihood of the filing of any such complaints or the results if filed.
On May 8, 1997, the FCC released an order intended to reform its system of
interstate access charges to make that regime compatible with the
pro-competitive deregulatory framework of the Telecom Act. Access service is the
use of local exchange facilities for the origination and termination of
interexchange communications. The FCC's historic access charge rules were
formulated largely in anticipation of the 1984 divestiture of AT&T and the
emergence of long distance competition, and were designated to replace piecemeal
arrangements for compensating ILECs for use of their networks for access, to
ensure that all long distance companies would be able to originate and terminate
long distance traffic at just, reasonable, and non-discriminatory rates, and to
ensure that access charge revenues would be sufficient to provide certain levels
of subsidy to local exchange service. While there has been pressure on the FCC
historically to revisit its access pricing rules, the Telecom Act has made
access reform timely. The FCC's access reform order adopts various changes to
its rules and policies governing interstate access service pricing designed to
move access charges, over time, to more economically efficient levels and rate
structures. Among other things, the FCC modified rate structures for certain
non-traffic sensitive access rate elements, moving some costs from a
per-minute-of-use basis to flat-rate recovery, including one new flat-rate
element; changed its structure for interstate transport services; and affirmed
that ISPs may not be assessed interstate access charges. In response to claims
that existing access charge levels are excessive, the FCC stated that it would
rely on market forces first to drive prices for interstate access to levels that
would be achieved through competition but that a "prescriptive" approach,
specifying the nature and timing of changes to existing access rate levels,
might be adopted in the absence of competition. On August 19, 1998, the Eighth
Circuit upheld the FCC's decision in regard to interstate access charges. On
August 5, 1999, the FCC gave ILECs progressively greater flexibility in setting
interstate access rates as competition develops, including permitting those LECs
to file tariffs for services on a streamlined basis and permitting them to
16
remove interstate toll services between local access and transport areas
("LATAs") from price cap regulation upon full implementation of intra- and
inter-LATA toll dialing parity. Though we believe that access reform through
lowering and/or eliminating excessive access services charges will have a
positive effect on our services offerings and operations, we cannot predict how
or when such benefits may present themselves
On August 1, 1996, the FCC adopted an order in which it attempted to adopt
a framework of minimum, national rules to enable the states and the FCC to
implement the local competition provisions of the Telecom Act. This order
included pricing rules that apply to state commissions when they are called on
to arbitrate rate disputes between ILECs and entities entering the local
telephone market. The order also included rules addressing the three paths of
entry into the local telephone market. Several parties filed appeals of the
order, which were consolidated in the Eighth Circuit. On October 15, 1996, the
U.S. Court of Appeals for the Eighth Circuit issued a stay of the implementation
of certain of the FCC's rules and on July 18, 1997, the Court vacated portions
of the FCC's decision and found that the FCC lacked the power to prescribe and
enforce certain of its rules implementing the Telecom Act. On January 25, 1999,
the U.S. Supreme Court reversed the Eighth Circuit decision and reaffirmed the
FCC's authority to issue those rules, although it did invalidate a rule
determining which network elements the ILECs must provide to competitors on an
unbundled basis.
The FCC issued certain orders on remand from the Supreme Court. On
September 15, 1999, the FCC, reaffirmed that ILECs must provide particular
unbundled network elements to competitors. The FCC determined that ILECs must
provide six of the original seven network elements that it required to be
unbundled in its original 1996 order. On November 5, 1999, the FCC detailed
three changes affecting the ILECs' obligations to provide unbundled network
elements to competitors. First, the FCC removed requirements previously imposed
on ILECs to provide access to operator and directory assistance services.
Second, the FCC modified the definitions of two previously defined unbundled
network elements to require ILECs to provide unbundled access to portions of
local loops and dark fiber optic loops and transport. Third, the FCC also
removed requirements previously imposed on ILECs to provide access to unbundled
local circuit switching for certain customers (i.e., customers with four or more
lines that are located in the densest parts of the top 50 metropolitan
statistical areas in the country), provided that they provide access to
combinations of loop and transport network elements known as "enhanced extended
links." The United States Telecom Association has appealed the FCC's November 5
order, and the Company cannot predict the outcome of that appeal or other
proceedings that might arise from the FCC's 1999 orders on remand from the
Supreme Court, which makes it difficult to predict whether we will be able to
rely on existing interconnection agreements or have the ability to negotiate
acceptable interconnection agreements in the future.
On July 18, 2000, the Eighth Circuit issued a decision on remand from the
Supreme Court's reversal of its 1997 decision. In that decision, the Eighth
Circuit invalidated parts of the FCC's interconnection pricing standards set
forth in the August 1996 order. Those rules had required state commissions to
base the rates that ILECs charge to CLECs for interconnection and for the use of
unbundled network elements on the costs that would be incurred by the ILECs
using the most efficient technology available, rather than the technology
actually used by the ILEC and furnished to the CLEC. The Eighth Circuit held
that the FCC should have based such rates on the cost of the ILEC's actual
facilities. Although it is not clear to what extent, or how quickly, this
decision will be reflected in state commission-approved interconnection
agreements, the pricing standard required by the Eighth Circuit could result in
higher interconnection and unbundled element rates, which could make it more
difficult for carriers such as DTI to compete profitably with the ILECs.
In three orders released on December 24, 1996, May 16, 1997, and May 31,
2000, the FCC made major changes in the interstate access charge structure. In
the 1996 order, the FCC removed restrictions on ILECs' ability to lower access
prices and relaxed the regulation of new switched access services in those
markets where there are other providers of access services. If this increased
pricing flexibility is not effectively monitored by federal regulators, it could
have a material adverse effect on the Company's ability to compete in providing
interstate access services.
In the 1997 order, the FCC announced and began to implement its plan to
17
bring interstate access rate levels more in line with costs. Pursuant to this
plan, the FCC has adopted rules that grant ILECs subject to price cap regulation
increased pricing flexibility upon demonstrations of increased competition or
potential competition in relevant markets. The FCC elaborated on these access
pricing flexibility rules in an order released on August 27, 1999. The manner in
which the FCC implements this approach to lowering access charge levels could
have a material effect on the Company's access charge revenues and on its
ability to compete in providing interstate access services. Several parties
appealed the 1997 order and on August 19, 1998, the 1997 order was affirmed by
the U.S. Court of Appeals for the Eighth Circuit.
In the 2000 order, the FCC adopted several proposals to further reform
access charge rate structures, relying heavily on a proposal submitted by a
coalition of long distance companies and ILECs referred to as "CALLS." These and
related actions will result in significant changes to access charge rate
structures and rate levels. As ILECs' access rates are reduced, the Company may
experience downward market pressure on its own access rates. The impact of these
new changes will not be fully known until they are fully implemented.
In August 1999, the FCC asked for comment on claims by some long distance
carriers that CLECs were charging those carriers excessively high rates for
access to CLEC customers. Specifically, the FCC asked whether it should regulate
CLEC access charges to ensure that these charges are not unreasonable. More
recently, two coalitions of CLECs asked the FCC to prevent AT&T from withdrawing
its long distance services from customers of those local telephone companies.
These FCC proceedings are pending. Although we are unable to predict the outcome
of these proceedings, a decision by the FCC to regulate the level of CLEC access
charges could result in lower CLEC access charges and decrease the revenues some
competitive carriers, such as DTI, receive from providing access services.
Notably, AT&T and Sprint have disputed and refused payment of switched access
charges billed by certain CLECs at rates which exceed the ILEC tariffed rate
levels.
Meanwhile, certain state commissions have asserted that they will be active
in promoting local telephone competition using the authority they have under the
ruling, lessening the significance of the FCC role. Furthermore, other FCC rules
related to local telephone competition remain the subject of legal challenges,
and there can be no assurance that decisions affecting those rules will not be
adverse to companies seeking to enter the local telephone market.
When the FCC released its access reform order in 1987, it also released a
companion order on universal service reform. The universal availability of basic
telecommunications service at affordable prices has been a fundamental element
of U.S. telecommunications policy since enactment of the Communications Act of
1934. The current system of universal service is based on the indirect
subsidization of ILEC pricing, funded as part of a system of direct charges on
some ILEC customers, including interstate telecommunications carriers such as
DTI, and above-cost charges for certain ILEC services such as local business
rates and access charges. In accordance with the Telecom Act, the FCC adopted
plans to implement the recommendations of a Federal-State Joint Board to
preserve universal service, including a definition of services to be supported,
and defining carriers eligible for contributing to and receiving from universal
service subsidies. The FCC ruled, among other things, that: contributions to
universal service funding be based on all interstate telecommunications
carriers' gross revenues from both interstate and international
telecommunications services; only common carriers providing a full complement of
defined local services be eligible for support; and up to $2.25 billion in new
annual subsidies for discounted telecommunications services used by schools,
libraries, and rural health care providers be funded by an assessment on total
interstate and intrastate revenues of all interstate telecommunications
carriers. The FCC has initiated a proceeding to obtain comments on the mechanism
for continued support of universal service in high cost areas in a subsequent
proceeding. We are unable to predict the outcome of these proceedings or of any
judicial appeal or petition for FCC reconsideration on our operations.
The FCC has interpreted the Telecom Act to require that, where a subscriber
of one local telephone company places a local call that must be handed off to a
second local telephone company for delivery to the called party, the first
18
carrier must pay reciprocal compensation to the second carrier for terminating
the call. Several ILECs, including Southwestern Bell and BellSouth, have
challenged whether the obligation to pay reciprocal compensation should apply to
telephone calls received by end users who provide Internet access services.
These end users are commonly known as Internet service providers or "ISPs," who
have large amounts of incoming calls. The ILECs claim that calls made to ISPs
are interstate in nature and that calls to ISPs therefore should be exempt from
reciprocal compensation arrangements applicable to local calls carried by two
local telephone companies. CLECs claim that interconnection agreements providing
for reciprocal compensation contain no exception for local calls to ISPs and
reciprocal compensation is therefore applicable. On February 25, 1999, the FCC
determined that Internet traffic is largely interstate in nature, and
accordingly the reciprocal compensation requirement in the Telecom Act does not
apply to calls to ISPs. The FCC did not, however, determine whether calls to
ISPs are subject to reciprocal compensation in any particular instance, and
concluded that carriers are bound by their existing interconnection agreements,
as interpreted by state commissions, and thus are subject to reciprocal
compensation obligations to the extent provided in their interconnection
agreements or as determined by state commissions. The FCC also opened a
rulemaking proceeding to adopt an appropriate prospective inter-carrier
compensation mechanism for calls to ISPs.
In March 2000, the U.S. Court of Appeals for the D.C. Circuit invalidated
the FCC's February 1999 ruling, holding that the FCC order failed to include a
satisfactory explanation for its determination that calls to ISPs are not
subject to the Telecom Act's reciprocal compensation provisions. The FCC is now
seeking comment on the issues revised by the Court's ruling. The FCC may either
clarify its former decision or adopt a new one. We are unable to predict the
outcome of this process. Until the matter is resolved, we expect that ILECs will
continue to challenge reciprocal compensation payments in cases before state
regulators. To the extent that state commissions are persuaded to find that
interconnected calls to ISPs are not subject to reciprocal compensation
obligations, the revenues of the Company could be negatively affected, since it
would not receive reciprocal compensation on calls terminated on its networks to
its ISP customers in those states. In the meantime, some states have determined
that reciprocal compensation for ISP traffic should continue to be paid but we
cannot predict the outcome of the FCC's proceedings and various states.
To the extent that we operate as an LEC, we will be required to comply with
local number portability rules and regulations. Compliance may require changes
in our business processes and support systems.
State Regulation
We are also subject to various state laws and regulations. Most PUCs
require providers such as DTI to obtain authority from the commission prior to
the initiation of service. In most states, we also are required to file tariffs
setting forth the terms, conditions and prices for services that are classified
as intrastate and, in some cases, interstate. We are also required to update or
amend our tariffs when we adjust our rates or adds new products, and are subject
to various reporting and record-keeping requirements.
Many states also require prior approval for transfers of control of
certified carriers, corporate reorganizations, acquisitions of
telecommunications operations, assignment of carrier assets, carrier stock
offerings and incurrence by carriers of significant debt obligations.
Certificates of authority can generally be conditioned, modified, canceled,
terminated or revoked by state regulatory authorities for failure to comply with
state law and/or the rules, regulations and policies of state regulatory
authorities. Fines or other penalties also may be imposed for such violations.
There can be no assurance that state utilities commissions or third parties will
not raise issues with regard to our compliance with applicable laws or
regulations.
We have all the necessary authority to offer local and interstate and
intrastate long-haul services in the states we now serve. We also hold other
authorities in various other states in which we plan to provide service. As it
becomes necessary, we will obtain those operating authorities in other states on
an as needed basis. Our receipt of necessary state certifications is dependent
upon the specific procedural requirements of the applicable PUC and the workload
of its staff. Additionally, receipt of state certifications may be subject to
delay as a result of a challenge to the applications and/or tariffs by third
parties, including the ILECs, which could delay our provision of services over
affected portions of the planned DTI network and could cause us to incur
19
substantial legal and administrative expenses. To date, we have not experienced
significant difficulties in receiving certifications, maintaining tariffs, or
otherwise complying with our regulatory obligations. There can be no assurances,
however, that we will not experience delay or be subject to third-party
challenges in obtaining necessary regulatory authorizations. The failure to
obtain such authorizations on a timely basis would have a material adverse
effect on our business, financial condition and results of operations.
Many issues remain open regarding how new local telephone carriers will be
regulated at the state level. For example, although the Telecom Act preempts the
ability of states to forbid local service competition, the Telecom Act preserves
the ability of states to impose reasonable terms and conditions of service and
other regulatory requirements. However, these statutes and related questions
arising from the Telecom Act will be elaborated through rules and policy
decisions made by PUCs in the process of addressing local service competition
issues.
We also will be heavily affected by state PUC decisions related to the
ILECs. For example, PUCs have significant responsibility under the Telecom Act
to oversee relationships between ILEC's and their new competitors with respect
to such competitors' use of the ILEC's network elements and wholesale local
services. PUCs arbitrate interconnection agreements between the ILECs and new
competitors such as DTI when necessary. PUCs are considering ILEC pricing issues
in major proceedings now underway. PUCs will also determine how competitors can
take advantage of the terms and conditions of interconnection agreements that
ILECs reach with other carriers. It is too early to evaluate how these matters
will be resolved, or their impact on our ability to pursue our business plan.
States also regulate the intrastate carrier's carrier services of the
ILECs. We are required to pay access charges to ILECs to originate and terminate
our intrastate long distance traffic. We could be adversely affected by high
access charges, particularly to the extent that the ILECs do not incur the same
level of costs with respect to their own intrastate long distance services. A
related issue is use by certain ILECs, with the approval of PUCs, of extended
local area calling that converts otherwise competitive intrastate toll service
to local service. States also are or will be addressing various intra-LATA
dialing parity issues that may affect competition. It is unclear whether state
utility commissions will adopt changes in their rules governing intrastate
access charges similar to those recently approved by the FCC for interstate
access or whether the outcome of currently pending litigation will give PUCs the
power to set such access charges. Our business could be adversely affected by
such changes.
We also will be affected by how states regulate the retail prices of the
ILECs with which we compete. We believe that, as the degree of intrastate
competition increases, the states will offer the ILECs increasing pricing
flexibility. This flexibility may present the ILECs with an opportunity to
subsidize services that compete with our services with revenues generated from
non-competitive services, thereby allowing ILECs to offer competitive services
at lower prices than they otherwise could. We cannot predict the extent to which
this may occur or its impact on our business.
Those states that permit the offering of intrastate/intra-LATA service by
IXCs generally require that end-users desiring to use such services dial special
access codes. Regulatory agencies in a number of states have issued decisions
that would permit IXCs to provide intra-LATA calling on a 1 + basis. Further,
the Telecom Act requires in most cases that the RBOCs provide such dialing
parity coincident to their providing in-region inter-LATA services. We may
benefit from the ability to offer 1 + intra-LATA services in states that allow
this type of dialing parity.
Employees
As of June 30, 2000, we employed 59 people. We believe our future success
will depend on our continued ability to attract and retain highly skilled and
qualified employees. We believe that the relations with our employees are good.
20
Risk Factors
Set out below is a description of certain risk factors that may adversely
affect our business and results of operations. You should carefully consider
these risk factors and the other information contained in this report before
investing in our Senior Discount Notes issued in 1998, which are described below
in Item 5 - "Market for the Company's Common Stock and Related Shareholder
Matters". Investing in our securities involves a high degree of risk. Any or all
of the risks listed below could have a material adverse effect on our business,
operating results or financial condition, which could cause the market price of
our Senior Discount Notes to decline. You should also keep these risk factors in
mind when you read forward-looking statements. There are other risks that may
adversely affect our business that we are not able to anticipate, and the risks
identified here may adversely affect our business or financial condition in ways
that we cannot anticipate.
We have sustained substantial net losses and may not be able to continue as a
going concern
We have historically sustained substantial operating and net losses. For
the following periods, we reported net losses of:
Year ended June 30, 1997................... $ .6 million
Year ended June 30, 1998................... $ 9.4 million
Year ended June 30, 1999................... $ 32.7 million
Year ended June 30, 2000................... $ 57.3 million
Inception through June 30, 2000............ $102.8 million
These net losses may continue. During the remainder of calendar 2000 and
thereafter, our ability to generate operating income, earnings before interest,
taxes, depreciation and amortization ("EBITDA ") and net income will depend
largely on demand for carrier's carrier services and our ability to sell those
services. We cannot assure you that we will be profitable in the future. Failure
to accomplish these goals may impair our ability to:
- meet our obligations under the Senior Discount Notes, or other
indebtedness; or
- raise additional equity or debt financing needed to expand our network
or for other reasons.
These events could have a material adverse effect on our business,
financial condition and results of operations.
Additionally, the accompanying consolidated financial statements and
financial information has been prepared assuming that we will continue as a
going concern. We incurred losses from operations of $22 million and net losses
of $57 million during the fiscal year ended June 30, 2000. We have not yet been
successful in obtaining additional financing to sustain our operations and may
have insufficient liquidity to meet our needs for continuing operations and
meeting our obligations. As of June 30, 2000, DTI had $33 million of cash and
cash equivalents. Such amounts, when coupled with anticipated collections of
additional amounts due us under existing IRU agreements upon delivery of
specific route segments, are expected to provide sufficient liquidity to meet
our operating and capital requirements through approximately March 2001.
Consequently, there is substantial doubt about our ability to continue as a
going concern. The Company's continuation as a going concern is dependent upon
its ability to (a) generate sufficient cash flow to meet its obligations on a
timely basis, (b) obtain additional financing as may be required, and (c)
ultimately sustain profitability. Management's recent actions and plans in
regard to these matters are as follows:
1. The Company is attempting to increase sales of monthly bandwidth
capacity to reduce the amount of cash flow required to fund
operations.
2. The Company is selectively evaluating opportunities to sell additional
dark fiber and empty conduits to supplement its liquidity position.
21
3. The Company is exploring vendor financing options as a source of
funding for its electronics purchases in order to light additional
network capacity.
4. The Company is exploring its options with respect to obtaining
additional equity infusions as well as the possibility of additional
debt financing.
5. The Company is considering delaying, modifying or abandoning plans to
build or acquire certain portions of our network in order to conserve
cash until such time as additional cash is generated to support its
business plan.
There can be no assurance, however, that DTI will be successful in any of
the above mentioned actions or plans in a timely basis or on terms that are
acceptable to us and within the restrictions of our existing financing
arrangements, or at all.
We may be unable to meet our substantial debt obligations
We have a substantial amount of debt. As of June 30, 2000, we had
approximately $367 million of indebtedness outstanding, most of which was
evidenced by our Senior Discount Notes. Because we are a holding company that
conducts our business through Digital Teleport, all existing and future
indebtedness and other liabilities and commitments of our subsidiary, including
trade payables, are effectively senior to the Senior Discount Notes, and Digital
Teleport is not a guarantor of the Senior Discount Notes. As of June 30, 2000,
DTI Holdings had aggregate liabilities of $424.2 million, including $41.9
million of deferred revenues. The indenture under which the Senior Discount
Notes were issued (the "Indenture") limits but does not prohibit the incurrence
of additional indebtedness by us, and we expect to incur additional indebtedness
in the future, some of which may be incurred by Digital Teleport and any future
subsidiaries.
As a result of our high level of debt, we:
- will need significant cash to service our debt, which will reduce
funds available for operations, future business opportunities and
investments in new or developing technologies and make us more
vulnerable to adverse economic conditions;
- may not be able to refinance our existing debt or raise additional
financing to fund future working capital, capital expenditures, debt
service requirements, acquisitions or other general corporate
requirements;
- may have less flexibility in planning for, or reacting to, changes in
our business and in the telecommunications industry that affect how we
implement our financing, construction or operating plans; and
- we may be at a competitive disadvantage with respect to competitors
who have lower levels of debt.
Our ability to pay the principal of and interest on our indebtedness will
depend upon our future performance, which is subject to a variety of factors,
uncertainties and contingencies, many of which are beyond our control. If we
fail to make the required payments or to comply with our debt covenants we will
default on our debt, which could result in acceleration of the debt. In such
event there can be no assurance that we would be able to make the required
payments or borrow sufficient funds from alternative sources to make any such
payments. Even if additional financing could be obtained, there can be no
assurance that it would be on terms that are acceptable to us.
Covenants in our debt agreements restrict our operations
The covenants in our Indenture related to our Senior Discount Notes may
materially and adversely affect our ability to finance our future operations or
capital needs or to engage in other business activities. Among other things,
these covenants limit our ability and the ability of our subsidiaries to:
- incur certain indebtedness;
- pay dividends, make certain other restricted payments;
- use assets as collateral for loans;
- permit other restrictions on dividends and other payments by our
subsidiaries;
22
- guarantee certain indebtedness;
- dispose of assets;
- enter into transactions with affiliates or related persons; or
- consolidate, merge or transfer all or substantially all of our assets.
Further, there can be no assurance that we will have available, or will be
able to acquire from alternative sources of financing, funds sufficient to
repurchase the Senior Discount Notes, as required under the Indenture, in the
event of a Change of Control (as defined).
We may be unable to raise the additional capital necessary to implement our
business strategy
The development of our business and the installation and expansion of our
network have required and will continue to require substantial capital. While we
anticipate that our existing financial resources will be adequate to fund our
current priorities and our existing capital commitments through approximately
March 2001, we expect to require significant additional capital in the future to
fully complete the planned DTI network. We also may require additional capital
in the future to fund operating deficits and net losses and for potential
strategic alliances, joint ventures and acquisitions. These activities could
require significant additional capital not included in the foregoing estimated
capital requirements. Our ability to fund our required capital expenditures
depends in part on:
- completing our network expansion as scheduled;
- satisfying our fiber sale obligations;
- otherwise raising significant capital; and
- increasing cash flow.
Our failure to accomplish any of these may significantly delay or prevent
capital expenditures. If we are unable to make our capital expenditures as
planned, our business may grow slower than expected. This would have a material
adverse effect on our business, financial condition and results of operations.
The actual amount and timing of future capital requirements may differ
materially from our current estimates depending on demand for our services, our
ability to implement our current business strategy and regulatory, technological
and competitive developments in the telecommunications industry. We may seek to
raise additional capital from public or private equity or debt sources. There
can be no assurance that we will be able to raise such capital on satisfactory
terms or at all. If we decide to raise additional capital through the incurrence
of debt, we may become subject to additional or more restrictive financial
covenants. In the event that we are unable to obtain such additional capital on
acceptable terms or at all, we may be required to reduce the scope or pace of
deployment of our network, which could materially adversely affect our business,
results of operations and financial condition and our ability to compete and to
make payments on the Senior Discount Notes.
A large number of options and warrants are outstanding, and the exercise of
those options and warrants would most likely raise less capital than DTI could
receive in a public offering
At June 30, 2000, options and warrants to purchase an aggregate of
5,586,560 shares of common stock were outstanding. The warrant holders have
certain rights to require the registration of the common stock that would be
received upon exercise of the warrants. The outstanding shares of our Series A
Convertible Preferred Stock are convertible into an aggregate of 30,000,000
shares of our common stock. Although the exercise of options or warrants may
raise capital for us, the amounts raised may be less than we could receive in a
public offering at the time of exercise.
We are dependent on a limited number of large customers
A relatively small number of customers account for a significant amount of
our total revenues. Our three largest customers in 2000 accounted for
approximately 68% of our revenues. Our three largest customers in 1999 accounted
for approximately 85% of our revenues.
23
Our business plan assumes that a large proportion of our future revenues
will come from our carrier's carrier services, which by their nature are
marketed to a limited number of telecommunications carriers. Most of our
arrangements with large customers do not provide any guarantees that they will
continue using our services at current levels. In addition, if our customers
build their own facilities, our competitors build additional facilities or there
are further consolidations in the telecommunications industry involving our
customers, then our customers could reduce or stop their use of our services
which could have a material adverse effect on our business, financial condition
and results of operations.
We may be unable to complete our network in a timely and cost-effective manner
Our ability to achieve our strategic objectives will depend in large part
upon the successful, timely and cost-effective completion of our network. The
completion of our network may be affected by a variety of factors, uncertainties
and contingencies, many of which are beyond our control. The successful and
timely completion of our network will depend upon, among other things, our
ability to:
- obtain substantial amounts of additional capital and financing, at
reasonable costs and on satisfactory terms and conditions,
- effectively and efficiently manage the construction and acquisition of
the planned network route segments,
- obtain IRUs from other carriers on satisfactory terms and conditions
and at reasonable prices,
- access markets and enter into additional customer contracts to sell or
lease high volume capacity on our network and
- obtain additional franchises, permits and rights-of-way to permit us
to complete our planned strategic routing.
Successful completion of our network also will depend upon our ability to
procure commitments from suppliers and third-party contractors with respect to
the supply of certain equipment and construction of network facilities and
timely performance by such suppliers and third-party contractors of their
obligations. There can be no assurance that we will obtain sufficient capital
and financing to fund our currently planned capital expenditures, successfully
manage construction, sell fiber and capacity to additional customers, meet
contractual timetables for future services, or maintain existing and acquire
necessary additional franchises, permits and rights-of-way. Any failure by us to
accomplish these objectives may significantly delay or prevent, or substantially
increase the cost of, completion of our network, which would have a material
adverse effect on our business, financial condition and results of operations.
Certain of our IRU and wholesale network capacity agreements provide for
reduced payments and varying penalties for late delivery of route segments and
allow the counter party, after expiration of grace periods, to delete such
non-delivered segments from the system route to be delivered. We are currently
not in compliance with construction schedules under three of our agreements as
follows:
1. In November 1999, we entered into an IRU agreement with Adelphia Business
Solutions for over 4000 route miles on our network initially valued at
between $27 to $42 million to DTI depending on the number of options for
additional routes of fiber strands exercised by the parties. Adelphia paid
$10 million in advance cash payments under the terms of the Agreement. In
August 2000, Adelphia cancelled five routes or portions thereof, which will
result in approximately $3.8 million in reduced future cash collections
under the Agreement, plus the repayment to Adelphia of approximately $1.6
million previously paid to DTI by Adelphia, which was repaid in September
2000. In addition to providing for certain rights to cancel delivery of
route segments not delivered to them by agreed upon dates, the Agreement
also provides for monthly financial penalties for late deliveries. As of
September 2000, DTI is late with respect to delivery of all routes, and
accrued penalties under the Agreement totaled approximately $3.5 million.
These penalties will result in an offset to future cash receipts by DTI
upon delivery of the remaining routes. If Adelphia were to cancel all
remaining route segments under the Agreement; then we would no longer
receive the remaining approximate $20 million, net of penalties, due under
the Agreement and would be required to return the remaining $8 million
received upon execution of the Agreement plus interest. Additionally, we
24
would receive none of the maintenance and other monthly and annual payments
due under the terms of the Agreement.
2. We have a swap agreement with a counter party under which both DTI and the
counter party have not delivered their respective routes by the contracted
due date. The counter party to the agreement has initiated the delivery
process for their two routes but we have yet to start the delivery process
related to our two routes. Once the counter party has delivered their
routes and we have accepted them we will be required to begin making annual
cash payments to them of approximately $1.4 million, plus quarterly
building and maintenance fees, in advance of their making payments to us
for our routes. Additionally, we may be required to accrue penalties for
late delivery of $100,000 per route per month. If the counter party were to
exercise their rights to cancel delivery of our routes we would not receive
approximately $26 million in lease payments over the term of the agreement
plus quarterly maintenance, building space and other quarterly and annual
payments due under the terms of the agreement.
3. An agreement dating back to October 1994, between AmerenUE and ourselves
requires us to construct a fiber optic network linking AmerenUE's 86 sites
throughout the states of Missouri and Illinois in return for cash payments
to DTI and the use of various rights-of-way including downtown St. Louis.
As of June 30, 2000, we had completed approximately 70% of the sites
required for AmerenUE and expect to complete all such construction by the
end of fiscal 2001. AmerenUE has given us notice that they intend to set
off against amounts payable to us up to $90,000 per month, which as of
September, 2000 totaled approximately $1.5 million (in addition to $400,000
previously set off against other payments) as damages and penalties under
our contract with them due to our failure to meet certain construction
deadlines, and AmerenUE has reserved its rights to seek other remedies
under the contract which could potentially include reclamation of the
rights-of-way granted to DTI. We are behind schedule with respect to such
contract as a result of AmerenUE not obtaining on behalf of the Company
certain rights-of-way required for completion of certain network
facilities, and the limitation of our financial and human resources,
particularly prior to the Senior Discount Notes Offering. We have obtained
alternative rights-of-way to accelerate the completion of such
construction. Upon completion and turn-up of services, AmerenUE is
contractually required to pay us a remaining lump sum of approximately $4.1
million, less the above mentioned penalties, for their telecommunications
services over our network.
There can be no assurance that such customers or other customers will not
in the future find us to have materially breached our contracts, that such
customers will not terminate such contracts or that such customers will not seek
other remedies.
Under our agreements with various DOTs, we have the right to build a long
haul, fiber optic network along the interstate highway system in exchange for
providing long-haul telecommunications services and/or equipment along such
network. The loss of our rights to routes constructed in accordance with the DOT
agreements could have a material adverse effect on our business, financial
condition and results of operations and our ability to make payments on the
Senior Discount Notes. See "Our Business - Highway and Utility Rights-of-Way."
Competitors with greater resources may adversely affect our business
The telecommunications industry is highly competitive. Many of our
competitors and potential competitors have far greater financial, personnel,
technical, marketing and other resources than we do. Many also have a more
extensive transmission network. These competitors may build additional fiber
capacity in the geographic areas that our network serves or in which we plan to
expand. Recent mergers and acquisitions in the telecommunications industry have
resulted in increased competitive pressures, which we expect to continue and to
increase in the future.
Our ability to compete effectively depends on our ability to maintain
high-quality services at prices generally equal to or lower than those of our
competitors. Prices have been declining and are expected to continue to do so.
Our competitors in carrier's carrier services include many large and small IXCs.
In the local exchange market, we expect to face competition from ILECs and other
25
competitive providers, including non-facilities based providers, and, as the
local access markets become opened to IXCs under the Telecommunications Act of
1996 (the "Telecom Act"), from long distance providers.
An alternative method of transmitting telecommunications traffic is through
satellite transmission. Satellite transmission is superior to fiber optic
transmission for distribution communications, like video broadcasting. Although
satellite transmission is not preferred to fiber optic transmission for voice
traffic in most parts of the United States because it exhibits an approximately
one-quarter-second delay, this slight time delay is unimportant for many
data-oriented uses. If the market for data transmission grows, we will compete
with satellite carriers in that market.
Under the Telecom Act, the original RBOCs and others may enter the long
distance market. When RBOCs enter the long distance market, they may acquire, or
take substantial business from, our customers or us. We cannot assure you that
we will be able to compete successfully with existing competitors or new
entrants in our markets. Our failure to do so would have a material adverse
effect on our business, financial condition and results of operations and the
value of our securities.
Under an agreement between the United States and the World Trade
Organization, foreign companies may be permitted to enter domestic U.S.
telecommunications markets and acquire ownership interest in U.S. companies.
Foreign telecommunications companies could also be significant new competitors
to us.
Pricing pressures and the risk of industry over-capacity may adversely affect
our business
The long distance transmission industry has generally been characterized by
over-capacity and declining prices since shortly after the AT&T break-up in
1984. We anticipate that our prices will continue to decline over the next
several years because of new competition. Other long distance carriers (new and
existing) are expanding their capacity and are constructing new fiber optic and
other long distance transmission networks. As a result of the recent mergers, we
face stronger competitors with larger networks and greater capacity. We believe
that although some new entrants seeking to establish fiber optic networks will
face significant barriers, others may have sufficient resources that the
barriers will not be significant to them.
As our competitors expand existing networks and build new networks, these
networks will have greater capacity. Because the cost of fiber is a relatively
small portion of the cost of building new transmission lines, companies building
such lines are likely to install fiber that provides far more transmission
capacity than will be needed over the short or medium term. Further, recent
technological advances have shown the potential to greatly expand the capacity
of existing and new fiber optic cable. Although such technological advances may
enable us to increase our network's capacity, an increase in our competitors'
capacity could adversely affect our business. If overall capacity in the
industry exceeds demand in general or along any of our routes, severe additional
pricing pressure could develop. Certain industry observers have noted the
beginning of what may be dramatic and substantial price reductions and have
predicted that long distance calls will soon not be much more expensive than
local calls. Price reductions could have a negative and material impact on our
business.
We need to expand our network and obtain and maintain franchises, permits and
rights-of-way
Our continuing network expansion is an essential element of our future
success. In the past, we have experienced delays in constructing our network and
may experience similar delays in the future. We have substantial existing
commitments to purchase materials and labor for expanding our network. In
addition, we will need to obtain additional materials and labor that may cost
more than anticipated. Some sections of our network are constructed by other
carriers or their contractors. We cannot guarantee that these third parties will
complete their work according to schedule. If any delays prevent or slow down
our network expansion our financial results would be materially and adversely
effected.
The expansion of our network depends, among other things, on acquiring
rights-of-way and required permits from railroads, utilities and governmental
authorities on satisfactory terms and conditions and on financing such
26
expansion, acquisition and construction. We have entered into long-term
agreements with highway authorities in Arkansas, Kansas, Missouri, Oklahoma and
Virginia and with electric utilities operating in Missouri and Southern Illinois
as well as Tulsa, Oklahoma, under which we generally have access to various
rights-of-ways in given localities. However, these agreements cover only a small
portion of our planned network. In addition, after our network is completed and
required rights and permits are obtained, we cannot guarantee that we will be
able to maintain all of the existing rights and permits. If we fail to obtain
rights and permits or we lose a substantial number of rights and permits our
financial results would suffer which could have a material adverse effect on our
business, financial condition and results of operation.
System failures or interruptions in our network may cause loss of customers
Our success depends on the seamless uninterrupted operation of our network
and on the management of traffic volumes and route preferences over our network.
Furthermore, as we continue to expand our network to increase both its capacity
and reach, and as traffic volume continues to increase, we will face increasing
demands and challenges in managing our circuit capacity and traffic management
systems. Any prolonged failure of our communications network or other systems or
hardware that causes significant interruptions to our operations could seriously
damage our reputation and result in customer attrition and financial losses.
Regulatory change could occur which might adversely affect our business
Some of our operations are regulated by the FCC under the Communications
Act of 1934. In addition, some of our businesses are regulated by state public
utility or public service commissions. Regulatory or interpretive changes in
existing legislation or new legislation that affects our operations could have a
material adverse effect on our business, financial condition and results of
operations. Recent and proposed regulatory changes are expected to allow the
RBOCs and others to enter the long distance business. We anticipate that some
entrants will be strong competitors because, among other reasons, they may:
- be well capitalized;
- already have substantial end-user customer bases; and/or
- enjoy cost advantages relating to local loops and access charges.
See "Business -- Industry Overview;" and "Business -- Regulation."
We are required to obtain certain authorizations from state public utility
commissions ("PUC") to offer certain of our telecommunication services, as well
as to file tariffs with the FCC and the PUCs for many of our services. We have
all the necessary authority to offer local and interstate and intrastate
long-haul services in the states we now serve. We also hold other authorities in
various other states in which we plan to provide service. As it becomes
necessary, we will obtain those operating authorities in other states on an as
needed basis. The receipt by the Company of necessary state certifications is
dependent upon the specific procedural requirements of the applicable PUC and
the workload of its staff. Additionally, receipt of state certifications may be
subject to delay as a result of a challenge to the applications and/or tariffs
by third parties, including the ILECs, which could cause us to delay provision
of services over affected portions of our network and to incur substantial legal
and administrative expenses. To date, we have not experienced significant
difficulties in receiving certifications, maintaining tariffs, or otherwise
complying with its regulatory obligations. There can be no assurances, however,
that we will not experience delays or be subject to third-party challenges in
obtaining necessary regulatory authorizations. The failure to obtain such
authorizations on a timely basis would have a material adverse effect on our
business, financial condition and results of operations.
We will be affected by how the states regulate the retail prices of the
ILECs with which we compete. As the degree of intrastate competition increases,
states may offer the ILECs increasing pricing flexibility. This flexibility may
present the ILECs with an opportunity to subsidize services that compete with
our services with revenues generated by non-competitive services, thereby
allowing ILECs to offer competitive services at lower prices than they may
otherwise. Any pricing flexibility or other significant deregulation of the
ILECs by the states could have a material adverse effect on us.
27
In addition to the rules affecting local and long distance competition, the
FCC or the states have adopted, or may adopt, rules and regulations which impose
fees or surcharges based on revenues derived from the provision of our
telecommunications services or require changes to our network configuration to
provide certain services. Compliance with these existing and future regulations
may have a material adverse effect on our results of operations.
We are dependent on major suppliers for key equipment, materials and labor
We are dependent upon single or limited source suppliers for our fiber
optic cable, electronic equipment and construction services used in completing
our network, some of which components employ advanced technologies built to
specifications provided by us to such suppliers. In particular due to our
purchase agreement with Pirelli through June 2001 we are dependent on Pirelli
for our supply of fiber optic cable. We have also entered into a three-year
agreement with Cisco in which we agreed to purchase from them at least 80% of
our needs for certain DWDM equipment. Therefore, we are dependent on Cisco for
DWDM equipment. To date, our arrangements have provided us with a supply of
fiber optic cable and DWDM equipment at a generally stable, attractive price but
delivery times for requested fiber continue to grow longer. We also are
dependent on a small number of contractors for the construction of network
routes built by DTI. There can be no assurance that our suppliers will be able
to meet our future requirements on a timely basis. We could obtain equipment and
services of comparable quality from several alternative suppliers. However, we
may fail to acquire compatible services and equipment from such alternative
sources on a timely and cost-efficient basis.
Some of the technologically advanced equipment, including the DWDM
equipment, which we are using in our network, has not been extensively used in
our operations over a long-term period. We believe that such equipment will meet
or exceed the required specifications and will perform satisfactorily. However,
any extended failure of such equipment to perform as expected could have a
material adverse effect on us.
We may be adversely affected if we cannot retain key personnel
We continue to rely upon the contribution of a number of key executives. We
have entered into employment agreements with certain of these executives. We can
not assure you that we will be able to retain such qualified personnel. In the
past, we have lost the services of certain of our senior executives. Our future
success and ability to manage growth will be dependent also upon our ability to
hire and retain additional highly skilled employees for a variety of management,
engineering, technical, and sales and marketing positions. The competition for
such personnel is intense. We can not assure you that we will be able to attract
and retain such qualified personnel.
We may face difficulties in integrating, managing and operating new technology
Our operations depend on our ability to successfully integrate new and
emerging technologies and equipment. These include the technology and equipment
required for DWDM, which allows multiple signals to be carried simultaneously,
and IP transmission using DWDM technology. Integrating these new technologies
could increase the risk of system failure and result in further strains.
Additionally, any damage to our network control center in our carrier's carrier
services line of business could harm our ability to monitor and manage the
network operations.
We must continue improving our accounting, processing and information systems
Sophisticated information and processing systems are vital to our
operations and growth and our ability to monitor costs, process customer orders,
provide customer service, render monthly invoices for services and achieve
operating efficiencies. We have developed processes and procedures in the
implementation and servicing of customer orders for telecommunications services,
the provisioning, installation and delivery of those services and monthly
billing for those services. However, we must improve our internal processes and
procedures and install additional accounting, processing and information systems
28
to accommodate our anticipated growth. We intend to obtain and install the
accounting, processing and information systems necessary to provide our services
efficiently. However, there can be no assurance that we will be able to
successfully obtain, install or operate such systems. The failure to maintain
effective internal processes and systems for these service elements could have a
material adverse effect on our ability to achieve its growth strategy. Any
acquisitions would place additional burdens on our accounting, information and
other systems.
Item 2. Properties
Our network in progress and fiber optic cable, transmission equipment and
other component assets are our principal properties. Our installed fiber optic
cable is laid under various rights-of-way that we maintain. Other fixed assets
are located at various leased locations in geographic areas served by us. We
believe that our existing properties are adequate to meet our anticipated needs
in the markets in which we have deployed or begun to deploy our network and that
additional facilities are and will be available to meet our development and
expansion needs in existing and planned markets for the foreseeable future.
Our principal executive offices and Network Control Center are located in
St. Louis, Missouri. We lease this 16,000 square-feet of space pursuant to the
terms of the lease that expires in July 2001. The Company also leases additional
office and equipment space in St. Louis, Missouri from Mr. Weinstein at market
rates on a month-to-month basis. See "Certain Relationships and Related
Transactions."
Item 3. Legal Proceedings
In June 1999, we and Mr. Weinstein settled a suit brought in the Circuit
Court of St. Louis County, Missouri, in a matter styled Alfred H. Frank v.
Richard D. Weinstein and Digital Teleport, Inc. Pursuant to the terms of the
settlement we paid $1.25 million and Mr. Weinstein paid $1.25 million to the
plaintiff. Mr. Weinstein obtained a loan from us for his portion of the
settlement cost plus approximately $200,000 representing 50% of the legal costs
incurred by the Company, that is repayable by Mr. Weinstein to us at the
earliest of the following three events:
- a change in control of DTI
- a public offering of shares of DTI
- three years after the date of the loan
The loan earns interest at a rate of 7.5% which will be payable at the
same time as the principal balance is due. Mr. Weinstein has pledged 1,500,000
shares of his common stock in the Company as collateral for the loan.
From time to time we are named as a defendant in routine lawsuits
incidental to our business. Based on the information currently available, we
believe that none of such current proceedings, individually or in the aggregate,
will have a material adverse effect on us.
Item 4. Submission of Matters to a Vote of Security Holders
None.
29
PART II
Item 5. Market for the Company's Common Stock and Related Shareholder Matters
There is no established public trading market for our common stock. As of
June 30, 2000, there was one holder of our common stock and one holder of our
restricted stock. We have never declared or paid cash dividends on our common
stock. It is our present intention to retain all future earnings for use in our
business and, therefore, we do not expect to pay cash dividends on the common
stock in the foreseeable future. The declaration and payment of dividends on the
common stock is restricted by the terms of our indebtedness under the indenture
pursuant to which we issued our Senior Discount Notes.
On February 23, 1998, we consummated a private placement in reliance upon
the exemption from registration under Section 4(2) of the Securities Act of 1933
(the "Securities Act"), pursuant to which we issued and sold 506,000 units (the
"Units") consisting of $506 million aggregate principal amount at maturity of
Senior Discount Notes and warrants to purchase 3,926,560 shares of Common Stock
(the "Warrants"). The Senior Discount Notes were sold at an aggregate price of
$275 million, and we received approximately $265 million net proceeds, after
deductions for offering expenses. The Warrants were allocated a value of $10
million. The Senior Discount Notes were initially purchased by Merrill Lynch,
Pierce, Fenner & Smith Incorporated and TD Securities USA Inc., and were resold
in accordance with Rule 144A and Regulation S under the Securities Act of 1933,
as amended. On September 15, 1998, we completed an Exchange Offering under the
Securities Act of 1933, of Series B Senior Discount Notes due 2008 and Warrants
to Purchase 3,926,560 Shares of Common Stock for the Company's then outstanding
Senior Discount Notes due 2008 and Warrants to Purchase 3,926,560 Shares of
Common Stock. The form and terms of the Series B Senior Discount Notes are
identical in all material respects to those of the Senior Discount Notes, except
for certain transfer restrictions and registration rights relating to the Senior
Discount Notes and except for certain interest provisions related to such
registration rights. Together the Series B Senior Discount Notes and Senior
Discount Notes are referred to as the "Senior Discount Notes" throughout this
document.
Through September 24, 2000, under our Incentive Award Plan, we granted or
became obligated to grant options to purchase an aggregate of 1,260,000 shares
of our Common Stock to certain of our directors and key employees at exercise
prices ranging from $2.60 to $6.66 per share. Such transactions were completed
without registration under the Securities Act in reliance on the exemption
provided by Section 4(2) of the Securities Act and Rule 701 under the Securities
Act.
30
Item 6. Selected Financial Data
Selected Consolidated Financial Data
The following is a summary of selected historical financial data as of and
for the five years in the period ended June 30, 2000 which has been derived from
our audited Consolidated Financial Statements. The information set forth below
should be read in conjunction with the discussion under "Management's Discussion
and Analysis of Financial Condition and Results of Operations", "Business" and
the audited Consolidated Financial Statements and notes thereto appearing
elsewhere in this document.
Fiscal Year Ended June 30,
--------------------------
1996(a) 1997 1998 1999 2000
------- ---- ---- ---- ----
Operating Statement Data:
Total revenues......................... $ 676,801 $ 2,033,990 $ 3,542,771 $ 7,209,383 $ 8,985,534
----------- ------------ -------------- ------------- -------------
Operating expenses:
Telecommunication services........... 296,912 1,097,190 2,294,181 6,307,678 11,977,936
Other services....................... - 364,495 - - -
Selling, general and administrative.. 548,613 868,809 3,668,540 5,744,417 5,306,526
Depreciation and amortization........ 425,841 757,173 2,030,789 4,653,536 13,922,515
----------- ------------ -------------- ------------- -------------
Total operating expenses 1,271,366 3,087,667 7,993,510 16,705,631 31,206,977
----------- ------------ -------------- ------------- -------------
Loss from operations................... (594,565) (1,053,677) (4,450,739) (9,496,248) (22,221,443)
Interest income (expense) - net........ (191,810) (798,087) (6,991,773) (22,219,999) (32,825,756)
----------- ------------ -------------- ------------- -------------
Loss before income taxes............... (786,375) (1,851,764) (11,442,512) (31,716,247) (55,047,199)
Income tax benefit/(provision)......... - 1,214,331 2,020,000 (1,000,000) (2,234,331)
----------- ------------ -------------- ------------- -------------
Net loss (e)........................... $ (786,375) $ (637,433) $ (9,422,512) $ (32,716,247) $ (57,281,530)
=========== ============ ============== ============= =============
Balance Sheet Data:
Cash and cash equivalents.............. $ 817,391 4,366,906 $ 251,057,274 $ 132,175,829 $ 32,841,453
Network and equipment, net............. 13,064,169 34,000,634 77,771,527 213,469,187 317,103,473
Total assets........................... 15,025,758 39,849,136 342,865,160 363,760,890 374,822,002
Accounts payable....................... 1,658,836 5,086,830 4,722,418 9,561,973 10,248,286
Vendor financing:
Current............................ - - - 2,298,946 6,566,250
Long-term.......................... - - - 2,298,946 3,843,158
Senior discount notes, net............. - - 277,455,859 314,677,178 356,712,668
Deferred revenues...................... 6,734,728 9,679,904 16,814,488 22,270,006 41,917,427
Redeemable Convertible Preferred
Stock(b)........................... - 28,889,165 - - -
Stockholders' equity (deficit) (b)..... (1,100,703) (4,729,867) 41,958,122 7,919,145 (49,415,607)
Other Financial Data:
Cash flows from operations............. $ 299,710 $ 7,674,272 $ 9,707,957 $ 11,461,067 $ 5,322,630
Cash flows from investing activities (1,122,569) (19,417,073) (44,952,682) (128,367,335) (102,456,285)
Cash flows from financing activities... 1,500,030 15,292,316 281,935,093 (1,975,177) (2,200,721)
EBITDA (c)............................. (168,724) (259,068) (2,419,950) (4,842,712) (8,298,928)
Capital expenditures................... 5,663,047 19,876,595 44,952,682 128,367,335 102,456,285
Ratio of earnings to fixed charges (d). - - - - -
<FN>
(a) Through June 30, 1996, we were considered a development stage enterprise
focused on developing our network and customer base.
(b) On February 13, 1998, in conjunction with the Senior Discount Notes
Offering, we amended the terms of the Series A Preferred Stock to provide
that it is no longer mandatorily redeemable, and, as a result, the Series A
Preferred Stock has been classified with stockholders' equity.
(c) EBITDA represents net loss before interest income (expense), loan
commitment fees, income tax benefit, depreciation and amortization. EBITDA
is included because we understand that such information is commonly used by
investors in the telecommunications industry as an additional basis on
which to evaluate our ability to pay interest, repay debt and make capital
expenditures. Excluded from EBITDA are interest income (expense), loan
commitment fees, income taxes, depreciation and amortization, each of which
can significantly affect our results of operations and liquidity and should
be considered in evaluating our financial performance. EBITDA is not
intended to represent, and should not be considered more meaningful than,
or an alternative to, measures of operating performance determined in
accordance with generally accepted accounting principles ("GAAP").
31
Additionally, EBITDA should not be used as a comparison between companies,
as it may not be calculated in a similar manner by all companies.
(d) For purposes of calculating the ratio of earnings to fixed charges: (i)
earnings consist of loss before income tax benefit, plus fixed charges
excluding capitalized interest; and (ii) fixed charges consist of interest
expenses and capitalized costs, amortization of deferred financing costs,
plus the portion of rentals considered to be representative of the interest
factor (one-third of lease payments). For the years ended June 30, 1996,
1997, 1998, 1999 and 2000 our earnings were insufficient to cover fixed
charges by approximately $2.4 million, $2.5 million, $12.3 million, $39.3
million and $62.8, respectively.
(e) Net loss attributable to Common Stock, loss per share data and weighted
average number of shares outstanding are not meaningful as there was only
one common shareholder and no class of securities was registered.
</FN>
32
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
The following discussion and analysis relates to our financial condition
and results of operations for each of the three years ended June 30, 2000. This
information should be read in conjunction with our consolidated financial
statements and the notes thereto and the other financial data appearing
elsewhere in this document.
Overview
Introduction
We are a facilities-based communications company that is creating an
approximately 20,000 route mile digital fiber optic network comprised of
approximately 23 regional rings interconnecting primary, secondary and tertiary
cities in 37 states and the District of Columbia. By providing high-capacity
voice and data transmission services to and from secondary and tertiary cities,
the Company intends to become a leading wholesale provider of regional
communications transport services to IXCs and other communications companies. We
currently provide carrier's carrier services under contracts with Tier 1 and
Tier 2 carriers and other telecommunication companies. We also provide private
line services to a few targeted business and governmental end-user customers. We
are 47% owned by an affiliate of Kansas City Power & Light Company ("KCP&L").
Revenues
We derive revenues principally from (i) the sale of wholesale
telecommunications services, primarily through IRUs and wholesale network
capacity agreements, to IXCs, such as the Tier 1 and Tier 2 carriers, and other
telecommunications entities and (ii) the sale of telecommunications services
directly to business and governmental end-users. For the year ended June 30,
2000, we derived approximately 97% and 3% of our total revenues from carrier's
carrier services and end-user services, respectively. Of our total carrier's
carrier service revenues, approximately 80% related to wholesale network
capacity services and 20% related to IRU agreements.
During the past several years, market prices for many telecommunications
services have been declining, which is a trend we believe will likely continue.
This decline has had and will continue to have a negative effect on our gross
margin, which may not be offset by decreases in our cost of services. However,
we believe that such decreases in prices may be partially offset by increased
demand for our telecommunications services as we expand our network and
introduce new services.
We derive carrier's carrier services revenues from IRUs and wholesale
network capacity agreements. IRUs typically have a term of 20 or more years. We
provide wholesale network capacity services through service agreements for terms
of one year or longer which typically require customers to pay for such capacity
regardless of level of usage. IRUs, which are accounted for as operating leases,
generally require substantial advance payments and periodic maintenance fees
over the terms of the agreements. Advance payments are recorded by us as
deferred revenue and are then recognized on a straight-line basis over the terms
of the IRU agreements. Fixed periodic maintenance payments are also recognized
on a straight-line basis over the term of the agreements as ongoing maintenance
services are provided. Wholesale network capacity agreements generally provide
for a fixed monthly payment based on the capacity and length of circuit provided
and sometimes require substantial advance payments. Advance payments and fixed
monthly service payments are recognized on a straight-line basis over the terms
of the agreements, which represent the periods during which services are
rendered. For the years ended June 30, 1999 and 2000, our three largest carrier
customers combined accounted for an aggregate of 91% and 69%, respectively, of
carrier's carrier services revenues, or 85% and 68%, respectively, of total
revenues. Our IRU contracts provide for the return of advance payments and
reduced future payments and varying penalties for late delivery of route
segments, and allow the customers, after expiration of grace periods, to delete
such non-delivered segments from the system route to be delivered.
33
End-user services are telecommunications services provided directly to
businesses and governmental end-users. We currently provide private line
services to end-users to connect certain points on an end-user's private
telecommunications network as well as to bypass the applicable ILEC in accessing
such end-user's long distance provider. Our end-user services agreements to date
have generally provided for services for a term of one year or longer and for a
fixed monthly payment based on the capacity and length of circuit provided,
regardless of level of usage. For the year ended June 30, 1999 and 2000, six
customers accounted for all of our end-user services revenue, or an aggregate of
6% and 3%, respectively, of total revenues.
As of June 30, 2000, we have received aggregate advance payments of
approximately $46 million from certain of our IRU, carrier's carrier and
end-user customers which are recorded as deferred revenue when received.
Deferred revenues from IRUs, carrier's carrier and end-user customers are
recognized on a straight-line basis over the life of the contract. Upon
expiration, such agreements may be renewed or services may be provided on a
month-to-month basis.
Operating Expenses
Our principal operating expenses consist of the cost of telecommunications
services, selling, general and administrative ("SG&A") expenses, depreciation
and amortization.
The cost of telecommunications services consists primarily of the cost of
leased line facilities and capacity, operating costs in connection with our
owned facilities and costs related to fibers accepted under our long-term IRUs.
Because we currently provide carrier's carrier and end-user services principally
over our own network, the cost of providing these services includes a minor
amount of leased space (in the form of physical collocation at ILEC access
tandems and IXC POPs) and leased line capacity (to fill requirements of a
customer contract which are otherwise substantially met on our network and
typically where we plan to expand our network) and ILEC access charges. Leased
space, power and maintenance costs have increased significantly as we have
accepted fibers related to our long-term IRUs. Further, leased line capacity
costs and access charges are expected to increase significantly because we
expect to obtain access to a greater number of ILEC facilities through leased
lines in order to reach end-users and access tandems that cannot be
cost-effectively connected to our network in a given local market. Operating
costs include, but are not limited to, costs of managing our network facilities,
technical personnel salaries and benefits, rights-of-way fees, locating
installed fiber to minimize the risk of fiber cuts and property taxes.
SG&A expenses include the cost of salaries, benefits, occupancy costs,
sales and marketing expenses and administrative expenses. We plan to add sales
offices in selected markets, as additional segments of our network become
operational. Depreciation and amortization are primarily related to fiber optic
cable plant, electronic terminal equipment and network buildings, and are
expected to increase as we incur substantial capital expenditures to build and
acquire the components of our network and begin to install our own switches. In
general, SG&A expenses have increased significantly as we have developed and
expanded our network. We expect to incur significant increases in SG&A expenses
to realize the anticipated growth in revenue for carrier's carrier services and
end-user services. In addition, SG&A expenses will increase as we continue to
recruit experienced personnel to implement our business strategy.
Operating Losses
As a result of build-out and operating expenses, we have incurred
significant operating and net losses to date. Losses from operations in fiscal
1998, 1999 and 2000 were $4 million, $9 million and $22 million, respectively.
We may incur significant and possibly increasing operating losses. There can be
no assurance that we will achieve or sustain profitability or generate
sufficient positive cash flow to meet our debt service obligations and working
capital requirements. If we cannot achieve operating profitability or positive
cash flows from operating activities, we may not be able to service the Senior
Discount Notes or meet our other debt service or working capital requirements,
which could have a material adverse effect on us.
34
Results of Operations
The table set forth below summarizes our percentage of revenue by source
and operating expenses as a percentage of total revenues:
Fiscal Year Ended June 30,
--------------------------
1998 1999 2000
---- ---- ----
Revenue:
Carrier's carrier services............... 87% 94% 97%
End-user services........................ 13 6 3
--- --- ---
Total revenue......................... 100% 100% 100%
Operating Expenses:
Telecommunications services.............. 65% 88% 133%
Selling, general and administrative...... 104 80 59
Depreciation and amortization............ 57 64 155
--- --- ---
Total operating expenses.............. 226% 232% 347%
=== === ===
Fiscal Year Ended June 30, 1999 Compared to Fiscal Year Ended June 30, 2000
Revenue. Total revenue grew 25% from $7.2 million in 1999 to $9.0 million
in 2000 principally due to increased revenue from carrier's carrier services.
Revenue from carrier's carrier services was up 29% to $8.7 million primarily due
to increased sales of capacity on our completed routes. End-user revenues
declined 40%, which is attributable to the expiration of a customer's contract.
Operating Expenses. Operating expenses grew 87% from $16.7 million in 1999
to $31.2 million in 2000, due primarily to increases in telecommunications
services and depreciation and amortization. Telecommunications services expenses
were up 90% to $12.0 million in 2000 due to increased personnel costs to support
the expansion of our network, property taxes, leased capacity costs incurred to
support customers in areas not yet reached by our network, and costs related to
recently accepted dark fiber segments on previously acquired routes. Selling,
general and administrative expenses were down 8% to $5.3 million in 2000 due
mainly to a reduction in outside legal, professional and consulting costs as
more of these functions are now performed internally. Depreciation and
amortization grew 199% over last year due to higher amounts of plant and
equipment being in service in 2000 versus 1999. We expect that significant
additional amounts of plant and equipment will be placed in service throughout
fiscal 2001. As a result, depreciation and amortization will continue to grow as
we continue to invest in capital assets to increase network capacity and as
additional network routes are placed into service.
Other Income (Expenses). Net interest and other income (expense) increased
from a net expense of $22.2 million in 1999 to net expense of $32.8 million in
2000. Interest income decreased from $10.7 million in 1999 to $4.0 million in
2000 as the average cash balances and related interest income from our
investment-grade securities have decreased as we have implemented our business
strategy. Similarly, as a result of the Senior Discount Notes issued in February
1998, interest expense increased from $31.5 million in 1999 to $36.8 million in
2000 due to the continued accretion of the Senior Discount Notes, which result
in increasing noncash interest expense. Additionally, we and Mr. Weinstein,
President and CEO of the Company, settled a lawsuit which resulted in a one-time
charge of $1.5 million in fiscal 1999.
Income Taxes. An income tax provision of $1.0 million was recorded in
fiscal 1999 related to the anticipated settlement of an income tax examination.
This matter was settled at no cost to the Company and the related $1 million
provision was reversed in June 2000. Additionally, as management believes it is
likely that we will not generate taxable income sufficient to realize certain of
the tax benefits associated with future deductible temporary differences and net
operating loss carryforwards prior to their expiration a tax provision of $3.2
million was recorded in June 2000 to provide a valuation allowance for the
Company's deferred tax asset. The net effect of the two transactions in fiscal
2000 was $2.2 million.
Net Loss. Net loss for the fiscal year ended June 30, 1999 was $32.7
million compared to $57.3 million for the fiscal year ended June 30, 2000 as a
result of the factors discussed above.
35
Fiscal Year Ended June 30, 1998 Compared to Fiscal Year Ended June 30, 1999
Revenue. Total revenue grew 103% from $3.5 million in 1998 to $7.2 million
in 1999 principally due to increased revenue from carrier's carrier services.
Revenue from carrier's carrier services was up 121% to $6.8 million primarily
due to increased sales of capacity on our completed routes. End-user revenues
declined 9%, which is attributable to the expiration of a customer's contract.
Operating Expenses. Operating expenses grew 109% from $8.0 million in 1998
to $16.7 million in 1999, due primarily to increases in telecommunications
services, selling, general and administrative expenses and depreciation and
amortization. Telecommunications services expenses were up 175% to $6.3 million
in 1999 due to increased personnel costs to support the expansion of our
network, property taxes, leased capacity costs incurred to support customers in
areas not yet reached by our network, and costs related to recently accepted
dark fiber segments on previously acquired routes. Selling, general and
administrative expenses were up 57% to $5.7 million in 1999, in order to support
the expansion of our network, which includes an increase in administrative and
sales personnel and the related expenses of supporting these personnel.
Depreciation and amortization grew 129% over last year due to higher amounts of
plant and equipment being in service in 1999 versus 1998.
Other Income (Expenses). Net interest and other income (expense) increased
from a net expense of $7.0 million in 1998 to net expense of $22.2 million in
1999. Interest income increased from $5.1 million in 1998 to $10.7 million in
1999 due to the investment of the proceeds from the Senior Discount Notes.
Similarly, as a result of the Senior Discount Notes issued in February 1998,
interest expense increased from $12.1 million in 1998 to $31.5 million in 1999.
Additionally, we and Mr. Weinstein, President and CEO of the Company, settled a
lawsuit which resulted in a one-time charge of $1.5 million in fiscal 1999.
Income Taxes. An income tax benefit of $2.0 million was recorded in fiscal
1998 as management believes it is more likely than not that we will generate
taxable income sufficient to realize certain of the tax benefits associated with
future deductible temporary differences and net operating loss carryforwards
prior to their expiration. A tax provision of $1.0 million was recorded in
fiscal 1999 related to the anticipated settlement of an income tax examination.
Net Loss. Net loss for the fiscal year ended 1998 was $9.4 million compared
to $32.7 million for the fiscal year ended June 30, 1999 as a result of the
factors discussed above.
Liquidity and Capital Resources
We have funded our capital expenditures, working capital and debt
requirements and operating losses through a combination of advance payments for
future telecommunications services received from certain major customers, debt
and equity financing and external borrowings.
At June 30, 2000, we had a working capital surplus of $27.2 million, which
represents a decrease of $89.3 million compared to the working capital surplus
of $116.5 million at June 30, 1999. This decrease is primarily attributable to
the continued build-out of our network.
The net cash provided by operating activities for the years ended June
30, 1999 and 2000 totaled $11.5 million and $5.3 million, respectively. During
fiscal 1999, net cash provided by operating activities resulted principally from
an increase in interest income of $5.7 million and additional deferred revenues
of $5.5 million relating to advance payments received under IRUs, wholesale
network capacity agreements and end-user agreements. From fiscal 1999 to 2000,
net cash provided by operating activities decreased $6.2 million primarily due
to increased telecommunications costs to support our network as it has expanded
and less cash derived from interest income as the average cash balances have
decreased as we have implemented our business strategy. As of June 30, 2000,
payments of approximately $158.7 million will become due us over the next twenty
years under existing agreements with certain major customers upon meeting our
obligations under such agreements, which require us to provide
telecommunications services, dark fiber capacity, maintenance, power and
building space under our respective agreements. We, in turn, will owe
36
approximately $180.2 million over the next twenty years in order to meet our
existing obligations under certain agreements for dark fiber capacity,
maintenance, power, and building space.
Our investing activities used cash of $128.4 million for the year ended
June 30, 1999 and $102.5 million for the year ended June 30, 2000. During both
years 100% of the investing activities were in network and equipment.
Cash provided by (used in) financing activities was $2.0 million for
the year ended June 30, 1999 and $(2.2) million for the year ended June 30,
2000. During fiscal 1999 the Company paid $525,000 in financing costs and
granted a loan to an officer for $1.5 million as described in Item 13 below,
"Certain Relationships and Related Transactions." Additionally, in December,
1998 we entered into a vendor financing agreement with our fiber optic cable
vendor allowing for deferred payment terms of one and two-year periods on
qualifying cable purchases up to $15.0 million. This agreement expired in June
2000 and was not renewed. During fiscal 2000, we paid down $2.2 million of our
outstanding vendor financing. We did not enter into any new cash financing
transactions during fiscal 2000.
The accompanying consolidated financial statements and financial
information has been prepared assuming that we will continue as a going concern.
We incurred losses from operations of $22 million and net losses of $57 million
during the fiscal year ended June 30, 2000. We have not yet been successful in
obtaining additional financing to sustain our operations and may have
insufficient liquidity to meet our needs for continuing operations and meeting
our obligations. As of June 30, 2000, DTI had $33 million of cash and cash
equivalents. Such amounts, when coupled with anticipated collections of
additional amounts due us under existing IRU agreements upon delivery of
specific route segments, are expected to provide sufficient liquidity to meet
our operating and capital requirements through approximately March 2001.
Consequently, there is substantial doubt about our ability to continue as a
going concern. The Company's continuation as a going concern is dependent upon
its ability to (a) generate sufficient cash flow to meet its obligations on a
timely basis, (b) obtain additional financing as may be required, and (c)
ultimately sustain profitability. Management's recent actions and plans in
regard to these matters are as follows:
1. The Company is attempting to increase sales of monthly bandwidth
capacity to reduce the amount of cash flow required to fund
operations.
2. The Company is selectively evaluating opportunities to sell additional
dark fiber and empty conduits to supplement its liquidity position.
3. The Company is exploring vendor financing options as a source of
funding for its electronics purchases in order to light additional
network capacity.
4. The Company is exploring its options with respect to obtaining
additional equity infusions as well as the possibility of additional
debt financing.
5. The Company is considering delaying, modifying or abandoning plans to
build or acquire certain portions of our network in order to conserve
cash until such time as additional cash is generated to support its
business plan.
There can be no assurance, however, that DTI will be successful in any of
the above mentioned actions or plans in a timely basis or on terms that are
acceptable to us and within the restrictions of our existing financing
arrangements, or at all.
To achieve our business plan, we will need significant financing to fund
our capital expenditure, working capital, debt service requirements and our
anticipated future operating losses. Our estimated capital requirements
primarily include the estimated cost of (i) constructing the remaining portions
of the planned DTI network routes, (ii) purchasing, for cash, fiber optic
facilities pursuant to long-term IRUs for planned routes that we will neither
construct nor acquire through swaps with other telecommunication carriers, and
(iii) additional network expansion activities, including the construction of
additional local loops in secondary and tertiary cities as network traffic
volume increases. We estimate that total capital expenditures necessary to
37
complete our network will approximate $650 million, of which we had expended
$335 million as of June 30, 2000. During the balance of fiscal year 2001, we
anticipate our capital expenditure priorities will be focused principally on
completing our nationwide backbone and lighting rings in our network in areas in
which we believe there is strong carrier interest. We anticipate that our
existing financial resources will be adequate to fund our existing capital
commitments which consist principally of construction commitments of $11 million
for network segments under construction and payments required under existing IRU
and short-term lease agreements, totaling $8 million, which are payable within
the next twelve months as related contract completion criteria are met. In
addition, we have a commitment at June 30, 2000 for eight telecommunications
switches totaling $15 million which is cancelable upon the payment of a
cancellation fee of $42,000 for each of the remaining unpurchased switches. We
also may require additional capital in the future to fund operating deficits and
net losses and for potential strategic alliances, joint ventures and
acquisitions. These activities could require significant additional capital not
included in the foregoing estimated capital requirements.
We have entered into various agreements with state DOTs that require us to
construct our network facilities in order to obtain rights-of-way. Our agreement
with the Kansas Department of Transportation requires us to build approximately
750 miles of fiber optic network along an interstate highway system by September
2000, of which approximately 600 miles have been completed. We may lose our
rights under this agreement if we are declared in breach of the agreement and do
not cure such breach as required under the terms of the agreement.
In November 1999, we entered into an IRU agreement with Adelphia Business
Solutions for over 4000 route miles on our network initially valued at between
$27 to $42 million to DTI depending on the number of options for additional
routes of fiber strands exercised by the parties. Adelphia paid $10 million in
advance cash payments under the terms of the Agreement. In August 2000, Adelphia
cancelled five routes or portions thereof, which will result in approximately
$3.8 million in reduced future cash collections under the Agreement, plus the
repayment to Adelphia of approximately $1.6 million previously paid to DTI by
Adelphia, which was repaid in September 2000. In addition to providing for
certain rights to cancel delivery of route segments not delivered to them by
agreed upon dates, the Agreement also provides for monthly financial penalties
for late deliveries. As of September 2000, DTI is late with respect to delivery
of all routes, and accrued penalties under the Agreement totaled approximately
$3.5 million. These penalties will result in an offset to future cash receipts
by DTI upon delivery of the remaining routes. If Adelphia were to cancel all
remaining route segments under the Agreement; then we would no longer receive
the remaining approximate $20 million, net of penalties, due under the Agreement
and would be required to return the remaining $8 million received upon execution
of the Agreement plus interest. Additionally, we would receive none of the
maintenance and other monthly and annual payments due under the terms of the
Agreement.
We have a swap agreement with a counter party under which both DTI and the
counter party have not delivered their respective routes by the contracted due
date. The counter party to the agreement has initiated the delivery process for
their two routes but we have yet to start the delivery process related to our
two routes. Once the counter party has delivered their routes and we have
accepted them we will be required to begin making annual cash payments to them
of approximately $1.4 million, plus quarterly building and maintenance fees, in
advance of their making payments to us for our routes. Additionally, we may be
required to accrue penalties for late delivery of $100,000 per route per month.
If the counter party were to exercise their rights to cancel delivery of our
routes we would not receive approximately $26 million in lease payments over the
term of the agreement plus quarterly maintenance, building space and other
quarterly and annual payments due under the terms of the agreement.
In another swap agreement, if we do not settle an obligation by providing
the counter party with additional DTI fiber by December 31, 2000, we will be
required to pay an additional $7 million in cash to the counter party.
An agreement dating back to October 1994, between AmerenUE and ourselves
requires us to construct a fiber optic network linking AmerenUE's 86 sites
throughout the states of Missouri and Illinois in return for cash payments to
DTI and the use of various rights-of-way including downtown St. Louis. As of
June 30, 2000, we had completed approximately 70% of the sites required for
38
AmerenUE and expect to complete all such construction by the end of fiscal 2001.
AmerenUE has given us notice that they intend to set off against amounts payable
to us up to $90,000 per month, which as of September, 2000 totaled approximately
$1.5 million (in addition to $400,000 previously set off against other payments)
as damages and penalties under our contract with them due to our failure to meet
certain construction deadlines, and AmerenUE has reserved its rights to seek
other remedies under the contract which could potentially include reclamation of
the rights-of-way granted to DTI. We are behind schedule with respect to such
contract as a result of AmerenUE not obtaining on behalf of the Company certain
rights-of-way required for completion of certain network facilities, and the
limitation of our financial and human resources, particularly prior to the
Senior Discount Notes Offering. We have obtained alternative rights-of-way to
accelerate the completion of such construction. Upon completion and turn-up of
services, AmerenUE is contractually required to pay us a remaining lump sum of
approximately $4.1 million, less the above mentioned penalties, for their
telecommunications services over our network.
On February 23, 1998, we completed the issuance and sale of the Senior
Discount Notes, from which we received proceeds, net of underwriting discounts
and expenses, totaling approximately $265 million. We are using and have used
the net proceeds (i) to fund additional capital expenditures required for the
completion of the our network, (ii) to expand our management, operations and
sales and marketing infrastructure and (iii) for additional working capital and
other general corporate purposes. We may incur significant and possibly
increasing operating losses and expect to generate negative net cash flows after
capital expenditures during at least the next two years as we continue to invest
substantial funds to complete our network and develop and expand our
telecommunications services and customer base. Accordingly, if we cannot achieve
operating profitability or positive cash flows from operating activities, we may
not be able to service the Senior Discount Notes or to meet our other debt
service or working capital requirements, which would have a material adverse
effect on us.
Subject to the Indenture provisions that limit restrictions on the ability
of any of our Restricted Subsidiaries to pay dividends and make other payments
to us, future debt instruments of Digital Teleport may impose significant
restrictions that may affect, among other things, the ability of Digital
Teleport to pay dividends or make loans, advances or other distributions to us.
The ability of Digital Teleport to pay dividends and make other distributions
also will be subject to, among other things, applicable state laws and
regulations. Although the Senior Discount Notes do not require cash interest
payments until September 1, 2003, at such time the Senior Discount Notes will
require annual cash interest payments of $63 million. In addition, the Senior
Discount Notes mature on March 1, 2008. We currently expect that the earnings
and cash flow, if any, of Digital Teleport will be retained and used by such
subsidiary in its operations, including servicing its own debt obligations. We
do not anticipate that we will receive any material distributions from Digital
Teleport prior to September 1, 2003. Even if we determine to pay a dividend on
or make a distribution in respect of the capital stock of Digital Teleport,
there can be no assurance that Digital Teleport will generate sufficient cash
flow to pay such a dividend or distribute such funds to us or that applicable
state law and contractual restrictions, including negative covenants contained
in any future debt instruments of Digital Teleport, will permit such dividends
or distributions. The failure of Digital Teleport to pay or to generate
sufficient earnings or cash flow to distribute any cash dividends or make any
loans, advances or other payments of funds to us would have a material adverse
effect on our ability to meet our obligations on the Senior Discount Notes.
Further, there can be no assurance that we will have available, or will be able
to acquire from alternative sources of financing, funds sufficient to repurchase
the Senior Discount Notes in the event of a Change of Control.
Inflation
We do not believe that inflation has had a significant impact on our
consolidated results of operations.
New Accounting Standards
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activity" ("SFAS 133") which requires that all
derivatives be recognized in the statement of financial position as either
assets or liabilities and measured at fair value. In addition, all hedging
relationships must be designated, reassessed and documented pursuant to the
provisions of SFAS No. 133. In June 1999, FASB delayed the effectiveness of SFAS
133 to fiscal years beginning after June 15, 2000. The adoption of SFAS 133 will
39
not have an impact on our financial position, results of operations or cash
flows.
In June 1999, the Financial Accounting Standards Board (the "FASB") issued
Interpretation No. 43, "Real Estate Sales, an interpretation of FASB Statement
No. 66." The interpretation is effective for sales of real estate with property
improvements or integral equipment entered into after June 30, 1999. Under this
interpretation, we believe dark fiber is considered integral equipment and
accordingly, title must transfer to a lessee in order for a lease transaction to
be accounted for as a sales-type lease. The application of the provisions of
FASB Interpretation No. 43 did not have an impact on our financial position,
results of operations or cash flows.
In December 1999, the SEC staff issued Staff Accounting Bulletin No. 101,
"Revenue Recognition in Financial Statements" ("SAB 101"). SAB 101 summarizes
certain of the staff's views in applying General Accepted Accounting Principles
to revenue recognition and accounting for deferred costs in the financial
statements. The Company is still assessing the impact that SAB 101 will have on
its financial position, results of operations or cash flows.
Item 7A.Quantitative and Qualitative Disclosures about Market Risk
None.
Item 8. Financial Statements and Supplementary Data
Reference is made to the Index to Consolidated Financial Statements on Page
F-1.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
40
PART III
Item 10. Directors and Executive Officers of the Company
The following table sets forth certain information concerning directors and
executive officers of the Company as of June 30, 2000.
Directors and Executive Officers Table
Name Age Position(s) with the Company
- ---- --- ----------------------------
Richard D. Weinstein (1) 48 President, Chief Executive Officer and Secretary; Director
and Chairman
Gary W. Douglass 49 Senior Vice President, Finance and Administration
and Chief Financial Officer
Jerry W. Murphy 42 President - DTI Network Services and Chief Technology Officer
Daniel A. Davis 34 Vice President and General Counsel
Ronald G. Wasson (1) 55 Director
Gregory J. Orman 31 Director
Richard S. Brownlee, III 54 Director
Kenneth V. Hager 49 Director
<FN>
- -------------------------
(1) Member of Compensation Committee
</FN>
Background of Directors and Executive Officers
Richard D. Weinstein has been our President, Chief Executive Officer and
Secretary since we commenced operations. He founded DTI in 1989. Prior to 1989,
Mr. Weinstein owned and managed Digital Teleresources, Inc., a firm that
consulted, designed, engineered and installed telecommunications systems. That
company focused on providing private microwave networks for ILEC bypass purposes
to Fortune 500 companies such as General Dynamics, May Department Stores and
Boatmen's Bancshares (now Bank of America), as well as various cellular and
health care firms. In this capacity, Mr. Weinstein worked closely with SBC
Communications, Inc.'s deregulated marketing subsidiary. Prior to 1984, Mr.
Weinstein's consulting efforts were focused on early wireless services,
particularly paging and mobile telephone providers and end-users. Mr. Weinstein
also owned and operated a distributor of Motorola microwave equipment from 1986
to 1991.
Gary W. Douglass became our Senior Vice President, Finance and
Administration and Chief Financial Officer, in July 1998. From March 1995 to
December 1997, Mr. Douglass was Executive Vice President and Chief Financial
Officer of Roosevelt Financial Group, Inc., a publicly held banking corporation
that merged with Mercantile Bancorporation Inc. in July 1997. Prior to joining
Roosevelt Financial, Mr. Douglass was a partner with Deloitte & Touche LLP,
where he was in charge of the accounting and auditing function and financial
institution practice of the firm's St. Louis office. Mr. Douglass was a director
from January 2000 to May 2000 at which time he resigned from the Board of
Directors.
Jerry W. Murphy our President - DTI Network Services and Chief Technology
Officer, joined us in June 1998. From October 1996 to December 1997, Mr. Murphy
was the Director of Construction Support of MCImetro. Mr. Murphy was MCImetro's
Director of Engineering and Construction from January 1994 to October 1996, and
was Vice President of Engineering and Construction of Advanced Transmissions
Systems, Inc., a wholly-owned subsidiary of MCI, from January 1990 to January
1995. Prior to such time, Mr. Murphy spent over 10 years with MCI in various
engineering, network implementation and network operations positions.
Daniel A. Davis our Vice President and General Counsel, joined us in June
1998 from the law firm of Bryan Cave LLP, our primary outside counsel. At Bryan
Cave, Mr. Davis practiced in the corporate transactions and corporate finance
41
groups, representing primarily telecommunications and other technology based
companies. Mr. Davis specialized in mergers and acquisitions, public offerings,
financings and federal securities law. Mr. Davis received a B.A, from the
University of Illinois and a J.D. from St. Louis University School of Law, cum
laude.
Ronald G. Wasson has been one of our directors since March 1997. He is
currently Chairman of the Board of KLT Inc. a wholly-owned subsidiary of KCP&L.
He is also President KLT Telecom Inc., a wholly-owned subsidiary of KLT Inc.
(together "KLT"). Mr. Wasson joined KCP&L in 1966 as Power Sales Engineer and
held various positions in marketing, engineering, corporate planning and
economic controls until 1977. After working briefly for R.W. Beck and Associates
as a Principal Engineer, he rejoined KCP&L in 1979 in the Operational Analysis
and Development Department as a Management Analyst. In 1980, he was appointed
Manager of Fossil Fuels, became Vice President of Purchasing in 1983, Vice
President of Administrative Services in 1986 and Senior Vice President of
Administration and Technical Services in 1991. Effective January 1995, he
transferred to KLT as Executive Vice President until he was named President in
November 1996 and his current position as Chairman in January 2000. Mr. Wasson
also serves on the Board of Directors of Junior Achievement of Mid-America and
the Board of Governors for the American Royal Association in Kansas City,
Missouri.
Gregory J. Orman has been one of our directors since February 2000. Mr.
Orman currently serves as Chief Executive Officer, President and Director of KLT
which position he has held since January 2000. Mr. Orman started with KLT in
November 1996 as President of KLT Energy Services, Inc. which position he still
retains. Mr. Orman is also a director for Bracknell, Inc. Mr. Orman has held
positions as Chairman of the Board of Nationwide Electric from September 1997 to
September 1999 and Chief Executive Officer and President of Custom Energy, LLC
form January 1997 to July 1999. Prior to these positions he was Chairman and CEO
of Environmental Lighting Concepts, a company he co-founded in 1992 and sold to
KLT in 1996. Mr. Orman graduated from Princeton University and began his career
at McKinsey & Company, an international management consulting firm.
Richard S. Brownlee, III has been one of our directors since December 1998.
Mr. Brownlee is currently a partner at Hendren and Andrae, LLC whose practice is
primarily devoted to matters dealing with governmental, civil and environmental
litigation. He has a regular administrative practice before the State of
Missouri Public Service Commission, Department of Insurance and Department of
Natural Resources. In addition, he has served as principal counsel in the
certification process of over 50 interexchange carriers and currently services
as counsel on certain regulatory matters of the Company. He also serves as
Missouri counsel for the Williams Companies of Tulsa, Oklahoma.
Kenneth V. Hager has been one of our directors since November 1997. Mr.
Hager has been employed by DST Systems, Inc. since 1988 and is currently its
Vice President, Chief Financial Officer and Treasurer. DST Systems, Inc. is a
provider of information processing and computer software services and products,
primarily to mutual funds, insurance companies, banks and other financial
services organizations. Since 1980, Mr. Hager has been a member of the Board of
Directors of the American Cancer Society -- Kansas City Unit, and is the current
Chairman of the Society's Metropolitan Kansas City Coordinating Council. Mr.
Hager also serves on the Board of Directors of the Greater Kansas City Sports
Commission and is a member of the Accounting and Information Systems Advisory
Council for the University of Kansas School of Business.
General
Officers are elected by and serve at the discretion of the Board of
Directors. There are no family relationships among the directors and executive
officers of our Company.
The Board of Directors has a Compensation Committee comprised of Messrs.
Wasson (Chairman) and Weinstein.
A Shareholders' Agreement among ourselves, Mr. Weinstein and KLT (as
amended, the "Shareholders' Agreement"), provides for a Board of Directors
consisting of six directors, at least two of whom must not be affiliated with
either the Company or KLT. Pursuant to the Shareholders' Agreement, Mr.
Weinstein and KLT will each have the right to designate three directors. The
42
current directors have been elected to serve until the expiration of the term to
which they have been elected and until their respective successors are elected
and qualified or until the earlier of their death, resignation or removal.
Pursuant to the Shareholders' Agreement, Messrs. Hager and Brownlee, as
directors who are not affiliates (as defined in the Shareholders' Agreement and
as set forth in the Glossary included as Annex A hereto) of either Mr.
Weinstein, ourselves or KLT are paid a $20,000 annual retainer fee payable in
quarterly installments. All directors are reimbursed for expenses incurred in
connection with attending Board and committee meetings. We have also granted
options to purchase 150,000 shares under the Plan to each of Messrs. Hager and
Brownlee, our non-affiliated directors.
Since the resignation of Mr. Douglass as a director in May, 2000, there has
been a vacancy on the board. Under the Shareholders' Agreement, Mr. Weinstein
has the right to designate the person to fill such vacancy, but he has not yet
done so.
Item 11. Executive Compensation
The following table sets forth all compensation awarded, earned or paid
during the last three fiscal years to our: (i) Chief Executive Officer and (ii)
the four most highly compensated executive officers in fiscal 1999 other than
the Chief Executive Officer, (collectively, the "Named Executive Officers").
Summary Compensation Table
Long-term Compensation
----------------------
Other Annual Restricted Securities All Other
Name and Annual Compensation Compensation Stock Underlying Compensation
Principal Position Year Salary($) Bonus($) ($) Awards($) Options(#) ($)
------------------ ---- ------------------- ------------ ---------- ---------- ------------
Richard D. Weinstein, 2000 $155,769 - - - - $280,300 (1)
President, Chief Executive 1999 150,000 - - - - 85,098 (1)
Officer and Secretary 1998 150,000 - - - - 83,234 (1)
H.P. Scott, Senior Vice 2000 55,000 - - - - 290,800 (2)
President 1999 168,350 - - - - 169,600 (2)
1998 28,800 $100,000 - - - -
Gary W. Douglass, Senior 2000 207,692 50,000 - - - 105,642 (2)(6)
VP, Finance and 1999 192,308 66,667 - $200,000 (3) 200,000 (4) -
Administration and Chief 1997 - - - - - -
Financial Officer
Jerry W. Murphy, President - 2000 186,058 15,000 - - - -
DTI Network Services and 1999 170,385 83,333 - - 300,000 (5) 12,297 (6)
Chief Technology Officer 1998 5,538 - - - - -
Daniel A. Davis, VP and 2000 151,422 45,000 - - - 100,000 (2)
General Counsel 1999 127,308 45,000 - - 150,000 (5) -
1998 23,846 - - - - -
<FN>
- --------------
(1) Amount represents rent paid for our POP and switch facility site in St.
Louis, equipment sold to the Company and other fringe benefits.
(2) Amount reflects payment of sales and business development awards.
(3) Represents the dollar value (net of consideration to be paid by Mr.
Douglass) for 200,000 shares of restricted stock, which represents the
aggregate value and number of shares of restricted stock held by Mr.
Douglass. The shares vest in an amount of one-third each year on the three
anniversary dates of grant, beginning on July 9, 1999. Mr. Douglass
received a tax gross-up for taxes due related to this restricted stock.
(4) Shares of common stock underlying stock options awarded under the Stock
Option Plan. Mr. Douglass also has a put feature that will allow him to put
these shares to us at a price of $12.16 per share. Additionally, Mr.
Douglass will receive a tax gross-up for taxes due related to this award.
(5) Shares of common stock underlying stock options awarded under the Stock
Option Plan.
(6) Represents reimbursed relocation expenses or other fringe benefits.
</FN>
43
Options/SAR Grants in Last Fiscal Year
There were no stock option grants to the five most highly compensated
officers during fiscal 2000 under the Stock Option Plan.
Employment and Consulting Agreements
Weinstein Employment Agreement
As a condition of the KLT Investment, we and Mr. Weinstein entered into an
employment agreement (the "Weinstein Employment Agreement"), which provides that
Mr. Weinstein will serve as our President and Chief Executive Officer and in
such other capacities as the Board may determine. The Agreement expired on
January 1, 2000. Mr. Weinstein is continuing in this capacity as President and
Chief Executive Officer under terms consistent with the Agreement. For the
duration of the lease of our POP and switch facility site in St. Louis entered
into as of December 31, 1996 by and among Mr. Weinstein, his wife and us (as
amended, the "Lease Agreement"), Mr. Weinstein is being compensated at the rate
of $150,000 per year (which is in addition to payments made to Mr. Weinstein
under the Lease Agreement), in addition to group health or other benefits
generally provided to our other employees. During its term and for two years
thereafter, the Weinstein Employment Agreement restricts the ability of Mr.
Weinstein to compete with us as an employee of or investor in another company in
a 14-state region in the Midwest. The Weinstein Employment Agreement also
imposes on Mr. Weinstein certain non-solicitation restrictions with respect to
Company employees, customers and clients.
Douglass Employment Agreement
In July 1998, Digital Teleport and Mr. Douglass entered into an employment
agreement (the "Douglass Agreement"), which provides that Mr. Douglass will
serve in a full-time capacity as Senior Vice President, Finance and
Administration and Chief Financial Officer, of both Digital Teleport and
ourselves for a term of three years for a minimum base compensation of $200,000
per year, in addition to group health or other benefits generally provided to
other Digital Teleport employees. Moreover, Mr. Douglass is eligible for
discretionary incentive compensation of up to one-third of his annual base
compensation each year.
In addition to his cash compensation, we granted Mr. Douglass (i) 200,000
shares of restricted shares of our Common Stock (which restricted stock will not
carry voting rights and will vest in equal portions for each of the three years
of the term of the Douglass Agreement, subject to certain acceleration events)
and (ii) nonqualified options to purchase 200,000 shares of our Common Stock at
$6.66 per share. We have a right to call the vested restricted nonvoting shares
in the event that Mr. Douglass is no longer employed by us for any reason at a
price equal to the greater of $1.00 per share or our per share book value;
provided that such call right lapses upon a "Change of Control" (as defined in
the Douglass Agreement) or the consummation of an initial public offering of our
Common Stock. In the event that Mr. Douglass is terminated for any reason other
than for cause at any time following a Change of Control, Mr. Douglass may put
his shares to us at fair market value (determined in accordance with the
Douglass Agreement); provided that such put right terminates upon consummation
of an initial public offering of our Common Stock. We have agreed to make a
three-year loan at the applicable minimum federal interest rate to Mr. Douglass
to enable him to pay tax on income recognized as a result of the restricted
stock grants. This loan will be forgiven upon the earliest of the expiration of
the three year period, Mr. Douglass' termination without cause or a Change in
Control, and we will pay Mr. Douglass additional cash in an amount sufficient to
pay federal and state income taxes on the ordinary income recognized as a result
of such loan forgiveness.
The options include a put right similar to that attendant to the restricted
nonvoting shares, except that the price that we must pay is equal to fair market
value reduced by the exercise price and further that "fair market value" for
such purpose is no less than $12.16 per share. The stock option put right
terminates upon consummation of an initial public offering of our Common Stock;
provided that the option put right does not terminate unless our Common Stock is
44
listed on a national stock exchange or on the NASDAQ National Market and has an
average closing price of at least $12.16 for the 90 day period prior to the
expiration of such lock-up period. In order to allow Mr. Douglass to meet his
tax obligations arising from the option grants, we have agreed to pay him cash
in such amounts as are sufficient to pay federal and state income taxes on the
ordinary income (up to a maximum of $1.1 million of ordinary income) required to
be recognized in the event of any exercise of such options.
The Douglass Agreement restricts the ability of Mr. Douglass to compete
with Digital Teleport during the term thereof and for up to one year thereafter
as a principal, employee, partner, consultant, agent or otherwise in any region
in which Digital Teleport does business at such time. The Douglass agreement
also imposes on Mr. Douglass certain confidentiality obligations and proprietary
and non-solicitation restrictions with respect to Digital Teleport employees,
customers and clients.
Scott Consulting Agreement
In April 1999, the Company and Mr. H.P. Scott entered into a new consulting
agreement (the "Scott Agreement"), which provides that Mr. Scott will serve as a
Senior Vice President of the Company for a term of one year, providing such
consulting services as the Company requests, in the areas of carrier's carrier
sales, fiber swaps and any other services as mutually agreed. For the duration
of the Scott Agreement, Mr. Scott will be compensated at a rate of $5,000 per
month for such consulting services. At the current time, Mr. Scott is no longer
working on the Company's behalf.
Mr. Scott also will receive, with respect to sales which were substantially
negotiated during the consulting term and with which Mr. Scott was substantively
involved, a commission equal to the following: (i) 1% of any cash payments
received for sales of dark fiber or conduit to telecommunications companies,
which payments are within five (5) years of the completion of the term of the
Scott Agreement (ii) $200 per route mile of dark fiber or conduit received by
the Company pursuant to a swap for dark fiber or conduit owned by the Company;
(iii) 1% of any cash payments received by the Company from sales of lighted
bandwidth capacity at a rate of DS-3 or above to telecommunications companies,
which payments are within five (5) years of the completion of such term; and
(iv) 1% of the value of any bandwidth received by the Company in exchange for
bandwidth capacity at a rate of DS-3 or above of the Company, which commission
shall be paid for up to five years following the completion of such term,
reduced on a pro rata basis by any cash paid by the Company pursuant to such
exchange. Mr. Scott may elect, in his sole discretion, to receive up to 50% of
any such commission in the form of Common Stock at fair market value.
Additionally, Mr. Scott is eligible for reimbursement of certain expenses.
The Scott Agreement restricts the ability of Mr. Scott to compete with the
Company during the term thereof and for up to one year thereafter as a
principal, employee, partner or consultant in any region in which the Company
does business at such time. The Scott Agreement also imposes on Mr. Scott
certain confidentiality obligations and proprietary and non-solicitation
restrictions with respect to Company employees, customers and clients.
Murphy Employment Agreement
In November 1998, Digital Teleport and Mr. Murphy entered into an
employment agreement (the "Murphy Agreement"), which provides that Mr. Murphy
will serve in a full-time capacity as President - DTI Network Services and Chief
Technology Officer, of Digital Teleport for a term of three years for a minimum
base compensation of $180,000 per year, in addition to group health or other
benefits generally provided to other Digital Teleport employees. Moreover, Mr.
Murphy is eligible for discretionary incentive compensation of up to one-third
of his annual base compensation each year. In addition to his cash compensation,
we granted Mr. Murphy nonqualified options to purchase 300,000 shares of our
Common Stock at $6.66 per share.
The Murphy Agreement restricts the ability of Mr. Murphy to compete with
Digital Teleport during the term thereof and for up to one year thereafter as a
principal, employee, partner, consultant, agent or otherwise in any region in
which Digital Teleport does business at such time. The Murphy Agreement also
imposes on Mr. Murphy certain confidentiality obligations and proprietary and
non-solicitation restrictions with respect to Digital Teleport employees,
customers and clients.
45
Davis Employment Agreement
In June 1998, Digital Teleport and Mr. Davis entered into an employment
agreement which was subsequently amended (the "Davis Agreement"), which provides
that Mr. Davis will serve in a full-time capacity as Vice President and General
Counsel of Digital Teleport for a term of six years for a minimum base
compensation of $185,000 per year, in addition to group health or other benefits
generally provided to other Digital Teleport employees. Moreover, Mr. Davis is
eligible for discretionary incentive compensation of up to one-third of his
annual base compensation each year. In addition to his cash compensation, we
granted Mr. Davis nonqualified options to purchase 150,000 shares of our Common
Stock at $6.66 per share.
The Davis Agreement restricts the ability of Mr. Davis to compete with
Digital Teleport during the term thereof and for up to one year thereafter as a
principal, employee, partner, consultant, agent or otherwise in any region in
which Digital Teleport does business at such time, provided that Mr. Davis is
not restricted from any activity in the practice of law or any business
activities incident thereto. The Davis Agreement also imposes on Mr. Davis
certain confidentiality obligations and proprietary and non-solicitation
restrictions with respect to Digital Teleport employees, customers and clients.
Incentive Award Plan
Our 1997 Long-Term Incentive Award Plan (the "Plan") was adopted by our
Board of Directors in December 1997. A total of 3,000,000 shares of our Common
Stock has been reserved for issuance under the Plan. We have granted or are
obligated to grant options to purchase an aggregate of 960,000 shares of Common
Stock to certain of our key employees at an exercise price equal to the fair
market value of the Common Stock on the applicable date of grant. We have also
granted options to purchase 150,000 shares of Common Stock to each of our
non-affiliated directors (i.e., Messrs. Hager and Brownlee) at an exercise price
equal to the fair market value of the Common Stock on the date of grant. We are
also obligated to issue 200,000 shares of restricted stock to an executive
officer under the Plan. No other options or other awards are outstanding under
the Plan. The Plan will terminate in December 2007, unless sooner terminated by
the Board of Directors.
The Plan provides for grants of "incentive stock options," within the
meaning of Section 422 of the Internal Revenue Code of 1986, as amended, to
employees (including employee directors) and grants of nonqualified options to
employees and directors. The Plan also allows for the grant of stock
appreciation rights, restricted shares and performance shares to employees. The
Plan is administered by a committee designated by the Board of Directors.
Messrs. Wasson and Weinstein comprise the current committee. The exercise price
of incentive stock options granted under the Plan must not be less than the fair
market value of the Common Stock on the date of grant. With respect to any
optionee who owns stock representing more than 10% of the voting power of all
classes of the Company's outstanding capital stock, the exercise price of any
incentive stock option must be equal to at least 110% of the fair market value
of the Common Stock on the date of grant, and the term of the option must not
exceed five years. The terms of all other options may not exceed ten years. To
the extent that the aggregate fair market value of Common Stock (determined as
of the date of the option grant) for options which would otherwise be incentive
stock options may for the first time become exercisable by any individual in any
calendar year exceeds $100,000, such options shall be nonqualified stock
options.
46
Item 12. Security Ownership of Certain Beneficial Owners and Management
The following table sets forth certain information regarding the beneficial
ownership of the outstanding Common Stock of DTI as of June 30, 2000 by each
person or entity who is known by us to beneficially own 5% or more of the Common
Stock, which includes our President and Chief Executive Officer, each of our
directors and all of our directors and executive officers as a group.
Number Of Shares Percent Of
Beneficially Common Stock
Name Of Beneficial Owner Owned Outstanding (a)
- ------------------------ ---------------- ---------------
Richard D. Weinstein................ 30,000,000 47%
8112 Maryland Avenue, 4th Floor
St. Louis, Missouri 63105
KLT Telecom Inc.(b)................. 30,000,000 47%
1201 Walnut Avenue
Kansas City, Missouri 64141
Ronald G. Wasson(b)................. 30,000,000 47%
Gregory J. Orman(b)................. 30,000,000 47%
Richard S. Brownlee, II ............ -- --
Kenneth V. Hager.................... -- --
Directors and executive officers
as a group (7 persons) 60,000,000 94%
- -------------------------
(a) Reflects Common Stock outstanding, on a fully diluted basis, after giving
effect to the conversion of all outstanding shares of the Series A Preferred
Stock into Common Stock and conversion of the Warrants and options outstanding.
KLT owns 30,000 shares of the Series A Preferred Stock, which constitutes 100%
of such stock. Each such share of Series A Preferred Stock is convertible into
1,000 shares of Common Stock of the Company.
(b) All of the shares shown as owned by each of Messrs. Wasson and Orman are the
shares of Series A Preferred Stock owned by KLT Telecom Inc. KLT Telecom Inc. is
a wholly-owned subsidiary of KLT Inc. (together "KLT"), a wholly-owned
subsidiary of KCP&L. Mr. Wasson is the Chairman of the Board of KLT. Mr. Orman
is the Chief Executive Officer, President and Director of KLT. Each of Messrs.
Wasson and Orman disclaims beneficial ownership of such shares held by KLT.
KLT owns 100% of the Series A Preferred Stock. Except for any amendment
affecting the rights and obligations of holders of Series A Preferred Stock or
as otherwise provided by law, holders of Series A Preferred Stock vote together
with the holders of Common Stock as a single class. The holders of the Series A
Preferred Stock vote separately as a class with respect to any amendment
affecting the rights and obligations of holders of Series A Preferred Stock and
as otherwise required by law.
47
Item 13. Certain Relationships and Related Transactions
On December 31, 1996, Mr. Weinstein, Mr. Weinstein's wife and we
formalized a lease with respect to our POP and switch facility site in St. Louis
(the "Lease Agreement"). The lease pertains to 10,000 of the 14,400 square feet
available in such building and provides for monthly lease payments of $6,250.
The lease is currently running on a month-to-month basis. The Company believes
that the terms of the current Lease Agreement are comparable to those that would
be available to an unaffiliated entity on the basis of an arm's-length
negotiation. The Shareholders' Agreement also requires that if Mr. Weinstein
proposes to build or obtain ownership of a new building to house these
operations, Mr. Weinstein will first offer to us the opportunity to build or own
such building. If we decline to exercise this right, then the rent we would pay
for occupying such building would be 80% of the market-appraised rate for such
space.
On December 29, 1999, the Company and Mr. Weinstein entered into an
agreement whereby for the sum of $201,200 the Company purchased from Mr.
Weinstein equipment used by the Company in its operations.
Effective July 1996, we formed a joint venture with KLT to develop,
construct and operate a network in the Kansas City metropolitan area, using in
part the electrical duct system and certain other real estate owned by KCP&L and
licensed to the joint venture. In March 1997, KLT became a strategic investor in
DTI when it entered into an agreement with DTI (the "KLT Agreement") pursuant to
which KLT committed to make an equity investment of up to $45.0 million in
preferred stock of the Company. As of June 30, 1997 there were 18,500 shares of
Series A Preferred Stock outstanding to KLT with the remaining 11,500 shares of
Series A Preferred Stock to be issued as additional capital as required by the
Company upon twenty days notice by DTI to KLT and verification by KLT as to the
use of the monies pursuant to the terms of the Stock Purchase Agreement. In
September and October 1997, DTI issued the remaining 11,500 shares of Series A
Preferred Stock to KLT for aggregate cash payments of approximately $17.3
million. See Note 5 of the notes to the consolidated financial statements. Each
share of Series A Preferred Stock of the Company is entitled to the number of
votes equal to the number of shares into which such share of Series A Preferred
Stock is convertible with respect to any and all matters presented to the
stockholders of the Company for their action or consideration. Except for any
amendments affecting the rights and obligations of holders of Series A Preferred
Stock, with respect to which such holders vote separately as a class, or as
otherwise provided by law, holders of Series A Preferred Stock vote together
with the holders of the Common Stock as a single class. Pursuant to the KLT
Agreement, KLT has the right of first offer concerning energy services rights
and contracts involving DTI. In connection with the issuance of the Series A
Preferred Stock, Mr. Weinstein had guaranteed to KLT the performance by the
Company of its obligations under the KLT Agreement, including without
limitation, representations and warranties under such agreement. Mr. Weinstein
had pledged his Common Stock to secure such guarantee. Such obligations to KLT
were subordinated to Mr. Weinstein's obligations to hold the Company and KLT
harmless for any losses resulting from judgments and awards rendered against
Digital Teleport or the Company in the matter of Alfred H. Frank v. Richard D.
Weinstein and Digital Teleport, Inc. See Item 3 - "Legal Proceedings." Mr.
Weinstein had pledged his shares of Common Stock to KLT, which had agreed to
reimburse the Company and Digital Teleport for losses incurred by them in
connection with the Frank litigation to the extent of any proceeds KLT receives
from Weinstein pursuant to such pledge, less KLT's costs in pursuing such claim
against Weinstein. KLT had also agreed to bear one-half of any such losses. As a
result of the settlement of the Frank litigation in June 1999 the guaranty and
stock pledge agreements were terminated. A new loan and security agreement was
entered into in June 1999 with Mr. Weinstein for $1,450,000 which is
collateralized by 1,500,000 shares of Mr. Weinstein's common stock in the
Company.
48
PART IV
Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K
(a)(1) Financial statements
See index to Consolidated Financial Statements
(a)(2) Financial statement schedules
None.
(a)(3) Exhibits required by Item 601 of Regulation S-K
See Exhibit Index for the exhibits filed as part of or incorporated by reference
into this Report.
(b) Reports on Form 8-K
None.
49
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, as amended, the Registrant has duly caused this report to be signed
on its behalf by the undersigned thereunto duly authorized.
DTI HOLDINGS, INC.
BY: /S/ GARY W. DOUGLASS
Gary W. Douglass
Senior Vice President, Finance and
Administration and Chief Financial
Officer (principal financial and
accounting officer)
September 25, 2000
Pursuant to the requirements of the Securities and Exchange Act of 1934, as
amended, this report has been signed by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
Signature Title Date
/S/ RICHARD D. WEINSTEIN President, Chief Executive Officer, September 25, 2000
Richard D. Weinstein Secretary and Director (Principal
Executive Officer)
/S/ GARY W. DOUGLASS Senior Vice President, Finance and September 25, 2000
Gary W. Douglass Administration and Chief Financial
Officer (Principal Financial and
Accounting Officer)
/S/ RONALD G. WASSON Director September 25, 2000
Ronald G. Wasson
/S/ GREGORY J. ORMAN Director September 25, 2000
Gregory J. Orman
/S/ RICHARD S. BROWNLEE, III Director September 25, 2000
Richard S. Brownlee, III
/S/ KENNETH V. HAGER Director September 25, 2000
Kenneth V. Hager
50
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
DTI HOLDINGS, INC. AND SUBSIDIARIES
AUDITED CONSOLIDATED FINANCIAL STATEMENTS
Page
----
Independent Auditors' Report.............................................. F-2
Consolidated Balance Sheets as of June 30, 1999 and 2000.................. F-3
Consolidated Statements of Operations for the years ended
June 30, 1998, 1999 and 2000........................................... F-4
Consolidated Statements of Stockholders' Equity (Deficit) for
the years ended June 30, 1998, 1999 and 2000........................... F-5
Consolidated Statements of Cash Flows for the years ended
June 30, 1998, 1999 and 2000........................................... F-6
Notes to Consolidated Financial Statements................................ F-7
F-1
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders of DTI Holdings, Inc.:
We have audited the accompanying consolidated balance sheets of DTI
Holdings, Inc., and subsidiaries (the "Company") as of June 30, 1999 and 2000
and the related consolidated statements of operations, stockholders' equity
(deficit), and cash flows for each of the three years in the period ended June
30, 2000. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, such consolidated financial statements present fairly, in
all material respects, the financial position of the Company as of June 30, 1999
and 2000 and the results of its operations and its cash flows for each of the
three years in the period ended June 30, 2000 in conformity with accounting
principles generally accepted in the United States of America.
The accompanying financial statements as of and for the year ended June 30,
2000 have been prepared assuming that the Company will continue as a going
concern. As discussed in Note 1, the Company is experiencing difficulty in
generating sufficient cash flow to meet its obligations and sustain its
operations and has experienced recurring losses from operations, all of which
raise substantial doubt about its ability to continue as a going concern.
Management's plans in regard to these matters are also described in Note 1. The
financial statements do not include any adjustments that might result from the
outcome of this uncertainty.
/s/ DELOITTE & TOUCHE, LLP
St. Louis, Missouri
September 27, 2000
F-2
DTI HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
JUNE 30, 1999 AND 2000
1999 2000
---------------- -------------
Assets
Current assets:
Cash and cash equivalents........................................... $ 132,175,829 $ 32,841,453
Accounts receivable, less allowance for doubtful accounts
of $139,625 in 1999............................................ 261,372 451,467
Other receivables................................................... -- 13,271,495
Prepaid and other current assets.................................... 294,688 752,518
--------------- -------------
Total current assets........................................... 132,731,889 47,316,933
Network and equipment, net ........................................... 213,469,187 317,103,473
Deferred financing costs, net......................................... 8,895,865 7,042,054
Prepaid fiber usage rights and fees................................... 5,273,347 2,929,639
Deferred tax asset.................................................... 3,234,331
Other assets.......................................................... 156,271 429,903
--------------- -------------
Total.......................................................... $ 363,760,890 $ 374,822,002
=============== =============
Liabilities and stockholders' equity Current liabilities:
Accounts payable.................................................... $ 9,561,973 $ 10,248,286
Vendor financing.................................................... 2,298,946 6,566,250
Taxes payable....................................................... 3,140,681 2,490,589
Other current liabilities........................................... 1,227,344 859,207
--------------- -------------
Total current liabilities...................................... 16,228,944 20,164,332
Senior discount notes, net of unamortized underwriter's discount of
$9,465,882 and $7,924,244 in 1999 and 2000, respectively....... 314,677,178 356,712,668
Deferred revenues..................................................... 22,270,006 41,917,427
Vendor financing ..................................................... 2,298,946 3,843,158
Other liabilities..................................................... 366,671 1,600,024
--------------- -------------
Total liabilities.............................................. 355,841,745 424,237,609
--------------- -------------
Commitments and contingencies
Stockholders' equity (deficit):
Preferred stock, $.01 par value, 20,000,000 shares authorized, no
shares issued and outstanding.................................... -- --
Convertible series A preferred stock, $.01 par value, (aggregate
liquidation preference of $45,000,000) 30,000 shares authorized,
issued and outstanding........................................... 300 300
Common stock, $.01 par value, 100,000,000 shares authorized,
30,000,000 shares issued and outstanding......................... 300,000 300,000
Additional paid-in capital ......................................... 44,213,063 44,213,063
Common stock warrants .............................................. 10,421,336 10,421,336
Loan to stockholder................................................. (1,450,000) (1,539,582)
Unearned compensation............................................... (72,730) (36,370)
Accumulated deficit................................................. (45,492,824) (102,774,354)
---------------- -------------
Total stockholders' equity (deficit)....................... 7,919,145 (49,415,607)
--------------- -------------
Total................................................................. $ 363,760,890 $ 374,822,002
=============== =============
See notes to consolidated financial statements.
F-3
DTI HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED JUNE 30, 1998, 1999 AND 2000
1998 1999 2000
------------ ------------ ------------
REVENUES:
Telecommunications services:
Carrier's carrier services......................... $ 3,075,527 $ 6,783,571 $ 8,729,789
End-user services.................................. 467,244 425,812 255,745
------------ ------------ ------------
Total revenues.................................. 3,542,771 7,209,383 8,985,534
------------ ------------ ------------
OPERATING EXPENSES:
Telecommunications services........................ 2,294,181 6,307,678 11,977,936
Selling, general and administrative................ 3,668,540 5,744,417 5,306,526
Depreciation and amortization...................... 2,030,789 4,653,536 13,922,515
------------ ------------ ------------
Total operating expenses........................ 7,993,510 16,705,631 31,206,977
------------ ------------ ------------
Loss from operations............................ (4,450,739) (9,496,248) (22,221,443)
OTHER INCOME (EXPENSES):
Interest income.................................... 5,063,655 10,724,139 3,976,727
Interest expense................................... (12,055,428) (31,494,138) (36,802,483)
Litigation settlement ............................. -- (1,450,000) --
------------ ------------- ------------
Loss before income taxes........................ (11,442,512) (31,716,247) (55,047,199)
INCOME TAX BENEFIT/(PROVISON) ....................... 2,020,000 (1,000,000) (2,234,331)
------------ ------------- -------------
NET LOSS............................................. $ (9,422,512) $(32,716,247) $(57,281,530)
============ ============ ============
See notes to consolidated financial statements.
F-4
DTI HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF
STOCKHOLDERS' EQUITY (DEFICIT)
YEARS ENDED JUNE 30, 1998, 1999 AND 2000
1998 1999 2000
- ---------------------------------------------------------------------- -------------------------------- ------------------
Preferred stock:
Balance at beginning of year $ -- $ $ --
- ---------------------------------------------------------------------- -------------------------------- ------------------
Balance at end of year -- -- --
- ---------------------------------------------------------------------- -------------------------------- ------------------
Convertible series A preferred stock:
Balance at beginning of year -- 300 300
Reclassification of redeemable convertible stock to convertible
series A preferred stock and reversal of related accretion 300 -- --
- ---------------------------------------------------------------------- ---------------- --------------- ------------------
Balance at end of year 300 300 300
- ---------------------------------------------------------------------- ---------------- --------------- ------------------
Common stock:
Balance at beginning of year 300,000 300,000 300,000
- ---------------------------------------------------------------------- ---------------- --------------- ------------------
Balance at end of year 300,000 300,000 300,000
- ---------------------------------------------------------------------- ---------------- --------------- ------------------
Additional paid-in capital:
Balance at beginning of year -- 44,013,063 44,213,063
Reclassification of redeemable convertible stock to convertible
series A preferred stock and reversal of related accretion 44,283,033 -- --
Reclassification to additional paid-in capital of charge to
accumulated deficit to effect of stock splits (269,970) -- --
Allocation of restricted stock -- 200,000 --
- ---------------------------------------------------------------------- ---------------- --------------- ------------------
Balance at end of year 44,013,063 44,213,063 44,213,063
- ---------------------------------------------------------------------- ---------------- --------------- ------------------
Common stock warrants:
Balance at beginning of year 450,000 10,421,336 10,421,336
Allocation of proceeds from senior discount notes offering to
related warrants 9,971,336 -- --
- ---------------------------------------------------------------------------- ---------------- --------------- ------------------
Balance at end of year 10,421,336 10,421,336 10,421,336
- ---------------------------------------------------------------------------- ---------------- --------------- ------------------
Loan to stockholder:
Balance at beginning of year -- -- (1,450,000)
Issuance of loan to stockholder -- (1,450,000) --
Interest on loan to stockholder -- -- (89,582)
- ---------------------------------------------------------------------------- ---------------- --------------- ------------------
Balance at end of year -- (1,450,000) (1,539,582)
- ---------------------------------------------------------------------------- ---------------- --------------- ------------------
Unearned compensation:
Balance at beginning of year -- -- (72,730)
Issuance of restricted stock -- (200,000) --
Amortization of unearned compensation -- 127,270 36,360
- ---------------------------------------------------------------------------- ---------------- --------------- ------------------
Balance at end of year -- (72,730) (36,370)
- ---------------------------------------------------------------------------- ---------------- --------------- ------------------
Accumulated deficit:
Balance at beginning of year (5,479,867) (12,776,577) (45,492,824)
Accretion of redeemable convertible preferred stock to redemption
price (4,985,442) -- --
Reclassification of redeemable convertible stock to convertible
series A preferred stock and reversal of related accretion 6,841,274 -- --
Reclassification to additional paid-in capital of charge to
accumulated deficit to effect of stock splits 269,970 -- --
Net loss for the year (9,422,512) (32,716,247) (57,281,530)
- ---------------------------------------------------------------------------- ---------------- --------------- ------------------
Balance at end of year (12,776,577) (45,492,824) (102,774,354)
- ---------------------------------------------------------------------------- ---------------- --------------- ------------------
Total stockholder's equity (deficit) $41,958,122 $ 7,919,145 $ (49,415,607)
- ---------------------------------------------------------------------------- ---------------- --------------- ------------------
See notes to consolidated financial statements.
F-5
DTI HOLDINGS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED JUNE 30, 1998, 1999 AND 2000
1998 1999 2000
Cash flows from operating activities:
Net loss....................................................... $ (9,422,512) $ (32,716,247) $ (57,281,530)
Adjustments to reconcile net loss to cash provided by
operating activities:
Depreciation and amortization............................. 2,030,789 4,653,536 13,922,515
Accretion of senior discount notes........................ 11,355,675 29,638,899 34,286,809
Amortization of deferred financing costs.................. 509,869 1,657,870 1,853,811
Deferred income taxes..................................... (2,020,000) - 3,234,331
Amortization of prepaid fiber usage rights and fees....... - 886,933 2,343,708
Other..................................................... - 323,721 607,180
Changes in assets and liabilities:
Accounts receivable.................................... (342,344) 240,240 (190,095)
Other assets........................................... (164,861) (6,339,381) (14,002,957)
Accounts payable....................................... (364,412) 4,839,555 686,313
Other current liabilities.............................. 83,605 1,510,410 865,216
Taxes payable.......................................... 907,564 1,310,013 (650,092)
Deferred revenues...................................... 7,134,584 5,455,518 19,647,421
-------------- -------------- -------------
Net cash flows provided by operating activities.................. 9,707,957 11,461,067 5,322,630
-------------- -------------- -------------
Cash flows from investing activities:
Increase in network and equipment.............................. (44,952,682) (128,367,335) (102,456,285)
-------------- -------------- -------------
Net cash used in investing activities....................... (44,952,682) (128,367,335) (102,456,285)
-------------- -------------- -------------
Cash flows from financing activities:
Proceeds from issuance of senior discount notes and
attached warrants........................................... 275,223,520 - -
Deferred financing costs....................................... (10,538,427) (525,177) -
Proceeds from issuance of redeemable convertible
preferred stock, including cash from
contributed joint venture of $2,253,045 in 1997............. 17,250,000 - -
Payment of vendor financing.................................... - - (2,200,721)
Loan to stockholder............................................ - (1,450,000) -
Proceeds from credit facility.................................. 3,000,000 - -
Principal payments on credit facility.......................... (3,000,000) - -
-------------- -------------- -------------
Net cash provided by (used in) financing activities 281,935,093 (1,975,177) (2,200,721)
-------------- -------------- -------------
Net increase (decrease) in cash and cash equivalents........... 246,690,368 (118,881,445) (99,334,376)
Cash and cash equivalents, beginning of period................. 4,366,906 251,057,274 132,175,829
-------------- -------------- -------------
Cash and cash equivalents, end of period....................... $ 251,057,274 $ 132,175,829 $ 32,841,453
============== ============== =============
Supplemental cash flow statement information:
Non-cash investing and financing activities:
Interest capitalized to fixed assets...................... $ 848,000 $ 7,582,420 $ 7,748,681
Fixed assets acquired through vendor financing............ - 4,401,441 7,351,835
Allocation of restricted stock............................ - 200,000 -
See notes to consolidated financial statements.
F-6
DTI HOLDINGS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
YEARS ENDED JUNE 30, 1998, 1999 AND 2000
1. Description of Business
DTI Holdings, Inc. (the "Company" or "DTI") was incorporated in December
1997 as part of the reorganization (the "Reorganization") of Digital Teleport,
Inc., a wholly-owned subsidiary of DTI ("Digital Teleport"). Pursuant to the
Reorganization, the outstanding shares of common and preferred stock of Digital
Teleport were exchanged for the number of shares of common and preferred stock
of DTI having the same relative rights and preferences as such exchanged shares.
The Reorganization was required in connection with the establishment of a credit
facility which was repaid with the net proceeds of the Senior Discount Notes
issued in February 1998 (see Note 4). The business operations, name, charter,
by-laws and board of directors of the Company are identical in all material
respects to those of Digital Teleport, which did not change as a result of the
Reorganization. Accordingly, the consolidated financial statements have been
presented as if Digital Teleport had always been a wholly-owned subsidiary of
DTI. DTI is a holding company and, as such, has no operations other than its
ownership interest in its subsidiaries.
DTI is a facilities-based provider of non-switched interexchange and local
network telecommunications services to interexchange carriers ("IXCs"), and
business and governmental end-users. DTI's network is designed to include
high-capacity (i) interexchange long-haul routes between the larger metropolitan
areas in the region, (ii) local networks in such larger metropolitan areas, and
(iii) local networks in secondary and tertiary markets located along the
long-haul routes. All of the Company's operations are subject to federal and
state regulations, any changes in these regulations could materially impact the
Company.
At June 30, 2000, activities were primarily located in the States of
Missouri, Arkansas and Oklahoma providing interexchange end-user and carrier's
carrier services. Carrier's carrier services are provided through wholesale
network capacity agreements and indefeasible rights to use ("IRU") agreements.
Wholesale network capacity agreements provide carriers with virtual circuits or
bandwidth capacity on DTI's network for terms specified in the agreements,
ranging from one to five years. The carrier customer in a wholesale network
capacity agreement does not have exclusive use of any particular strand of
fiber, but instead has the right to transmit along a virtual circuit or a
certain amount of bandwidth along DTI's network. These agreements require the
customer to pay for such capacity regardless of the level of usage, and
generally require fixed monthly payments over the term of the agreement. In an
IRU agreement the Company grants indefeasible rights to use specified strands of
optical fiber (which are used exclusively by the carrier customer), while the
carrier customer is responsible for providing the electronic equipment necessary
to transmit communications along the fiber. IRUs generally require substantial
advance payments and additional fixed annual maintenance payments over the terms
of the agreements, which typically have a term of 20 years or longer. End-user
services are telecommunications services provided to business and governmental
end-users and typically require a combination of advanced payments and fixed
monthly payments throughout the term of the agreement regardless of the level of
usage. In all cases, title to the optical fiber is retained by the Company and
the Company is generally obligated for all costs of ongoing maintenance and
repairs, unless such repairs are necessitated by acts or omissions of the
customer. Generally, the agreements may be terminated upon the mutual written
consent of both parties; however, certain of the agreements may be terminated by
the customer subject to acceleration of all payments due thereunder.
The accompanying consolidated financial statements and financial
information has been prepared assuming that the Company will continue as a going
concern. The Company incurred losses from operations of $22 million and net
losses of $57 million during the fiscal year ended June 30, 2000. The Company
has not yet been successful in obtaining additional financing to sustain its
operations and may have insufficient liquidity to meet its needs for continuing
operations and meeting its obligations. As of June 30, 2000, DTI had $33 million
of cash and cash equivalents. Such amounts, when coupled with anticipated
F-7
collections of additional amounts due it under existing IRU agreements upon
delivery of specific route segments, are expected to provide sufficient
liquidity to meet DTI's operating and capital requirements through approximately
March 2001. Consequently, there is substantial doubt about DTI's ability to
continue as a going concern. The Company's continuation as a going concern is
dependent upon its ability to (a) generate sufficient cash flow to meet its
obligations on a timely basis, (b) obtain additional financing as may be
required, and (c) ultimately sustain profitability. Management's recent actions
and plans in regard to these matters are as follows:
1. The Company is attempting to increase sales of monthly bandwidth capacity
to reduce the amount of cash flow required to fund operations.
2. The Company is selectively evaluating opportunities to sell additional dark
fiber and empty conduits to supplement its liquidity position.
3. The Company is exploring vendor financing options as a source of funding
for its electronics purchases in order to light additional network
capacity.
4. The Company is exploring its options with respect to obtaining additional
equity infusions as well as the possibility of additional debt financing.
5. The Company is considering delaying, modifying or abandoning plans to build
or acquire certain portions of its network in order to conserve cash until
such time as additional cash is generated to support its business plan.
There can be no assurance, however, that DTI will be successful in any of
the above mentioned actions or plans in a timely basis or on terms that are
acceptable to it and within the restrictions of its existing financing
arrangements, or at all.
2. Summary of Significant Accounting Policies
Principles of Consolidation -- The consolidated financial statements include the
accounts of DTI and its wholly-owned subsidiaries, Digital Teleport, Inc. and
Digital Teleport of Virginia, Inc. In September 1998 Digital Teleport of
Virginia, Inc. was established in order to conduct business in the state of
Virginia. All intercompany transactions and balances have been eliminated.
Revenues -- The Company recognizes revenue under its various agreements as
follows:
Carrier's Carrier Services:
Wholesale network capacity agreements -- All revenues are deferred by
the Company until related route segments are ready for service. Advance
payments, one-time installation fees and fixed monthly service payments are
then recognized on a straight-line basis as revenue over the terms of the
agreements, which represent the periods during which services are provided.
IRU Agreements -- These agreements are accounted for as operating
leases. All revenues are deferred until specified route segments are
completed and accepted by the customer. Advance payments are then recognized
on a straight-line basis over the terms of the agreements. Fixed periodic
maintenance payments are also recognized on a straight-line basis over the
terms of the agreements as ongoing maintenance services are provided.
End-user Service Agreements -- All revenues are deferred until related
route segments are available for service. Advance payments and fixed monthly
payments are then recognized on a straight-line basis over the terms of the
agreements, which represent the periods during which services are provided.
F-8
Cash and Cash Equivalents -- The Company considers all highly liquid investments
with original maturities of three months or less to be cash equivalents.
Network and Equipment -- Network and equipment are stated at cost. Costs of
construction are capitalized, including interest costs on funds borrowed to
finance the construction. Maintenance and repairs are charged to operations as
incurred. Fiber optic cable plant includes primarily costs of cable, inner-duct
and related installation charges. Fiber usage rights include the costs
associated with obtaining the right to use fiber accepted under long-term IRU
agreements. Depreciation is provided using the straight-line method over the
estimated useful lives of the assets as follows:
Fiber optical cable plant....................... 25 years
Fiber usage rights.............................. 20 years
Network buildings............................... 15 years
Leasehold improvements.......................... 10 years
Fiber optic terminal equipment.................. 8 years
Furniture, office equipment and other........... 5 years
The carrying value of long-lived assets is periodically evaluated by
management for impairment. Upon indication of impairment, the Company will
record a loss on its long-lived assets if the undiscounted cash flows estimated
to be generated by those assets are less than the related carrying amount of the
assets. In such circumstances, the amount of impairment would be measured as the
difference between the estimated fair market value of the asset and its carrying
amount.
Income Taxes -- The Company accounts for income taxes utilizing the
asset/liability method, and deferred taxes are determined based on the estimated
future tax effects of temporary differences between the financial statement and
tax bases of assets and liabilities given the provisions of the enacted tax
laws. A valuation allowance will be considered if the Company believes that it
is likely that it will not generate taxable income sufficient to realize the tax
benefit associated with future deductible temporary differences and net
operating loss carryforwards prior to their expiration related to the net
deferred tax asset.
Deferred Financing Costs -- Deferred financing costs are stated at cost and
amortized over the life of the related debt using the effective interest method.
Amortization of deferred financing costs is included in interest expense.
Stock-Based Compensation -- Statement of Financial Accounting Standards ("SFAS")
No. 123, Accounting for Stock-Based Compensation, establishes a fair value
method of accounting for employee stock options and similar equity instruments.
The fair value method requires compensation cost to be measured at the grant
date based on the value of the award and is recognized over the service period.
SFAS No. 123 generally allows companies to either account for stock-based
compensation under the new provisions of SFAS No. 123 or under the provisions of
Accounting Principles Board (APB) Opinion No. 25, Accounting for Stock Issued to
Employees. The Company has elected generally to account for its stock-based
compensation in accordance with the provisions of APB No. 25 and presents pro
forma disclosures of net loss as if the fair value method had been adopted.
Fair Value of Financial Instruments -- The carrying amounts of cash and cash
equivalents and other short-term financial instruments approximate fair value
because of the short-term maturity of these instruments. As of June 30, 1999 and
2000, the fair value of debt was $187.3 million and $215.0 million compared to
its carrying value of $314.7 million and $356.7 million, respectively. The fair
value of debt instruments as of June 30, 1999 and 2000 was determined based on
quoted market prices. The recorded amounts for all other long-term debt of the
Company approximates fair value.
New Accounting Standards -- In June 1998, the FASB issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activity" ("SFAS 133") which
requires that all derivatives be recognized in the statement of financial
position as either assets or liabilities and measured at fair value. In
addition, all hedging relationships must be designated, reassessed and
documented pursuant to the provisions of SFAS No. 133. In June 1999, FASB
F-9
delayed the effectiveness of SFAS 133 to fiscal years beginning after June 15,
2000. The adoption of SFAS 133 will not have an impact on DTI's financial
position, results of operations or cash flows.
In June 1999, the Financial Accounting Standards Board (the "FASB") issued
Interpretation No. 43, "Real Estate Sales, an interpretation of FASB Statement
No. 66." The interpretation is effective for sales of real estate with property
improvements or integral equipment entered into after June 30, 1999. Under this
interpretation, we believe dark fiber is considered integral equipment and
accordingly, title must transfer to a lessee in order for a lease transaction to
be accounted for as a sales-type lease. The application of the provisions of
FASB Interpretation No. 43 did not have an impact on DTI's financial position,
results of operations or cash flows.
In December 1999, the SEC staff issued Staff Accounting Bulletin No. 101,
"Revenue Recognition in Financial Statements" ("SAB 101"). SAB 101 summarizes
certain of the staff's views in applying generally accepted accounting
principles to revenue recognition and accounting for deferred costs in the
financial statements. The Company is still assessing the impact that SAB 101
will have on its financial position, results of operations or cash flows.
Management Estimates -- The preparation of financial statements in conformity
with generally accepted accounting principles requires that management 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. The reported amounts of revenues and expenses during
the reporting period may also be affected by the estimates and assumptions
management is required to make. Actual results may differ from those estimates.
Concentrations of Risk -- The Company currently operates in the
telecommunications industry within the States of Arkansas, Missouri and
Oklahoma. See Note 7 regarding concentration of credit risk associated with
deferred revenues and revenues. Additionally, the Company is dependent upon
single or limited source suppliers for its fiber optic cable and for the
electronic equipment used in its network.
Reclassifications -- Certain amounts for prior years have been reclassified to
conform to the 2000 presentation.
3. Network and Equipment
Network and equipment consists of the following as of June 30:
1999 2000
---- ----
Land..................................... $ 46,190 $ 756,945
Fiber optic cable plant.................. 95,615,071 154,775,867
Fiber usage rights....................... 82,062,685 128,667,295
Fiber optic terminal equipment........... 37,014,509 42,596,743
Network buildings........................ 4,755,042 8,696,531
Furniture, office equipment and other.... 1,309,402 2,846,165
Leasehold improvements................... 585,254 605,407
------------ ------------
221,388,153 338,944,953
Less-- accumulated depreciation.......... 7,918,966 21,841,480
------------ ------------
Network and equipment, net $213,469,187 $317,103,473
============ ============
At June 30, 1999 and 2000, fiber optic cable plant, fiber optic terminal
equipment and network buildings include $52,690,082 and $74,664,677 of
construction in progress, respectively, that was not in service and,
accordingly, has not been depreciated.
On December 29, 1999, the Company and Mr. Weinstein, the founder, president
and chief executive officer of the Company, entered into an agreement whereby
for the sum of $201,200 the Company purchased from Mr. Weinstein equipment used
by the Company in its operations.
F-10
4. Borrowing Arrangements
Senior Discount Notes -- On February 23, 1998, the Company issued 506,000 Units
consisting of $506.0 million aggregate principal amount at maturity of 12 1/2%
Senior Discount Notes (effective interest rate 12.9%) due March 1, 2008 and
warrants (the "Warrants") to purchase 3,926,560 shares of Common Stock, for
which the Company received proceeds, net of underwriting discounts and expenses
(deferred financing costs), of approximately $264.7 million. Of the $275.2
million gross proceeds from the issuance of the Units, $265.2 million was
allocated to the Senior Discount Notes and $10.0 million was allocated to
Warrants included in stockholders' equity, based on the fair market value of the
Warrants as determined by the Company and the initial purchasers of the Units
utilizing the Black-Scholes method. The Senior Discount Notes are senior
unsecured obligations of the Company and may be redeemed at the option of the
Company, in whole or in part, on or after March 1, 2003 at a premium declining
to zero in 2006. At any time and from time to time on or prior to March 1, 2001,
the Company may redeem an aggregate of up to 33 1/3% of the aggregate principal
amount at maturity of the originally issued Senior Discount Notes within 60 days
of one or more public equity offerings with the net proceeds of such offerings,
at a redemption price of 112.5% of the accreted value (determined at the
redemption date). The discount on the Senior Discount Notes accrues from the
date of the issue until March 1, 2003 at which time cash interest on the Senior
Discount Notes accrues at a rate of 12 1/2% per annum and is payable
semi-annually in arrears on March 1 and September 1, commencing September 1,
2003.
In the event of a "Change of Control" (as defined in the Indenture pursuant
to which the Senior Discount Notes were issued), holders of the Senior Discount
Notes may require the Company to offer to repurchase all outstanding Senior
Discount Notes at a price equal to 101% of the accreted value thereof, plus
accrued interest, if any, to the date of redemption. The Senior Discount Notes
also contain certain covenants that restrict the ability of the Company and its
Restricted Subsidiaries (as defined in the Indenture) to incur certain
indebtedness, pay dividends and make certain other restricted payments, create
liens, permit other restrictions on dividends and other payments by Restricted
Subsidiaries, issue and sell capital stock of its Restricted Subsidiaries,
guarantee certain indebtedness, sell assets, enter into transactions with
affiliates, merge, consolidate or transfer substantially all of the assets of
the Company and make any investments in any Unrestricted Subsidiary (as defined
in the Indenture). The issuance of the Senior Discount Notes does not constitute
a "qualified public offering" within the meaning of the Company's Articles of
Incorporation and, therefore, did not effect the conversion of the Series A
Preferred Stock into common stock (see Note 5).
On April 14, 1998, the Company filed a Registration Statement on Form S-4
(subsequently amended and registered) relating to an offer to exchange, under
substantially similar terms, the Company's 12 1/2% Series B Senior Discount
Notes due March 1, 2008 for its outstanding Senior Discount Notes (the "Exchange
Offer").
Vendor Financing Agreement -- On December 15, 1998, the Company entered into a
vendor financing agreement with its fiber optic cable vendor allowing for
deferred payment terms for one and two-year periods on qualifying cable
purchases up to $15 million. Interest under the agreement will accrue at a rate
of LIBOR plus 2%. This vendor financing expired in June 2000 and was not
renewed.
5. Convertible Series A Preferred Stock
On December 31, 1996, the Company entered into a Stock Purchase Agreement
(the "Stock Purchase Agreement") with KLT Inc. ("KLT"), a wholly-owned
subsidiary of Kansas City Power & Light, to sell 30,000 shares of redeemable
convertible preferred stock (designated "Series A Preferred Stock") for
$45,000,000. Series A Preferred Stock shareholders are entitled to one common
vote for each share of common stock that would be issuable upon conversion of
the Series A Preferred Stock. Each share of Series A Preferred Stock is
convertible into one thousand shares (after giving effect to the stock splits
discussed in Note 6 and the Reorganization discussed in Note 1) of common stock
(the "Conversion Shares") under the terms of the Stock Purchase Agreement and is
entitled to the number of votes equal to the number of Conversion Shares into
which such shares of Series A Preferred Stock is convertible with respect to any
and all matters presented to the shareholders of the Company for their action or
F-11
consideration. The Series A Preferred Stock shares will automatically convert
into common stock upon the sale of shares of common stock or debt securities of
the Company in a "qualified public offering" within the meaning of the Company's
Articles of Incorporation and subject to the satisfaction of certain net proceed
dollar thresholds. Series A Preferred Stock shareholders rank senior to common
shareholders in the event of any voluntary or involuntary liquidation,
dissolution or winding up of the Company. Series A Preferred Stock shareholders
are entitled to receive such dividends as would be declared and paid on each
share of common stock.
In conjunction with the Stock Purchase Agreement, the Company entered into
a Shareholders' Agreement whereby the Series A Preferred Stock shareholders will
designate half of the directors of the Company's Board of Directors.
On February 13, 1998, in connection with the Company's offering of Senior
Discount Notes (See Note 4), the Company amended its Articles of Incorporation
amending the terms of the Series A Preferred Stock such that the Series A
Preferred Stock is no longer redeemable. The Series A Preferred Stock, as a
result of such amendment, is now classified with stockholders' equity subsequent
to such date.
6. Equity Transactions
Stock Splits -- On August 22, 1997 and on February 17, 1998, the Company
approved stock splits in the form of stock dividends of 99 shares and 999
shares, respectively, of common stock for each one share of common stock
outstanding. Effective October 17, 1997 and February 18, 1998, the Company's
Articles of Incorporation were amended to increase the number of authorized
shares of common stock to 100,000 and 100,000,000, respectively, and the stock
dividends were issued to the Company's stockholders. All share information
included in the accompanying financial statements, and in the discussion below,
has been retroactively adjusted to give effect to the stock splits. In order to
effect the 999 for 1 stock split on February 17, 1998, $269,970 was charged to
accumulated deficit. The Company recorded an entry in the third quarter of
fiscal 1998 to reclassify this amount from accumulated deficit to additional
paid-in capital recorded in conjunction with the reclassification of Series A
Preferred Stock on February 13, 1998 (see Note 5).
Warrant to Third Party --The Company has a warrant outstanding to a third party
representing the right to purchase 1% of the common stock of the Company for
$0.01 per share which is exercisable at the option of the holder and expires in
the year 2007.
Stock Based Compensation -- On August 22, 1997, the Company adopted a Long-Term
Incentive Award Plan (the "Plan"). A total of 3,000,000 shares of common stock
of the Company have been reserved for issuance under the Plan. The employees'
options vest 100% ratably over three to five years from the date of grant,
subject to certain acceleration events, and have a term of 10 years. The
directors' options vest 25% per year beginning one year from the date of grant.
The exercise prices per share of such options are based on fair market value as
determined in good faith by the Board of Directors. The Board reviewed a
combination of detailed financial analyses, as well as information derived from
discussions with outside financial advisors.
For purposes of the pro forma disclosures required by SFAS 123, the fair
value for these options was estimated at the date of grant using the
Black-Scholes option pricing model with the following weighted-average
assumptions for fiscal 2000: risk-free interest rate of 5.6%; no dividend yield;
volatility factor of the expected market price of the Company's common stock of
.678; and a weighted-average expected life of the options of approximately 10
years. The weighted average grant date fair value of options granted during
fiscal 2000 was $5.25.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options, which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the Company's stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
F-12
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its stock options.
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. The Company's
pro forma information follows:
1998 1999 2000
---- ---- ----
Loss applicable to common stockholders:
As reported............................ $9,422,512 $32,716,247 $57,281,530
========== ========== ===========
Pro Forma.............................. $9,516,824 $34,728,351 $59,179,938
========== ========== ===========
A summary of the Company's stock option activity, and related
information for the years ended June 30, 1999 and 2000 follows:
1998 1999 2000
---------------------------- ---------------------------- ----------------------------
Weighted Average Weighted Average Weighted Average
Options Exercise Price Options Exercise Price Options Exercise Price
------- -------------- ------- -------------- ------- --------------
Outstanding - beginning of year..... - $ - 575,000 $ 4.54 1,325,000 $ 6.20
Granted............................. 1,175,000 2.99 950,000 6.66 110,000 6.66
Exercised........................... - - - - - -
Forfeited........................... (600,000) 1.50 (200,000) 3.62 (175,000) 6.66
--------- ------- --------- ------- --------- ---------
Outstanding - end of year........... 575,000 $ 4.54 1,325,000 $ 6.20 1,260,000 $ 6.18
========= ======= ========= ======= ========= =========
Exercisable - end of year........... - $ - 202,500 $ 5.91 600,000 $ 6.15
========= ======= ========= ======= ========= =========
The following table summarizes outstanding options at June 30, 2000 by
price range:
Outstanding
---------------------------------------------------------------------------------------
Weighted Average
Number of Options Range of Exercise Weighted Average Remaining Contractual
Price Exercise Price Life of Options
150,000 $ 2.60 $2.60 7.51
1,110,000 6.66 6.66 8.44
--------- ---------------- ----- ----
1,260,000 $2.60 to $6.66 $6.18 8.36
========= ================ ===== ====
In December 1999, in conjunction with the execution of an officer's
employment agreement in July of 1998, the Company granted the officer 200,000
shares of restricted stock. These shares do not carry voting rights and will
vest over the three-year term of the employment agreement.
7. Customer Contracts
The Company enters into agreements with unrelated third parties whereby the
Company will provide IRUs in multiple fibers along certain routes, wholesale
network capacity agreements or end-user service agreements for a minimum
purchase price paid in advance or over the life of the contract. These amounts
are then recognized over the terms of the related agreements, which terms are
typically 20 years or more, on a straight-line basis. The Company has various
contracts related to IRUs that in some cases provide for advanced payments that
can result in deferred revenue as detailed below and may include monthly
maintenance, power and building payments. The Company also has various wholesale
network capacity agreements and end-user contracts that provide for a
combination of advance payments, which are detailed below, and monthly payments.
The following schedule details the payments received or to be received over the
life of the agreements under IRU, wholesale network capacity agreements and
end-user service agreements and the components of deferred revenue at June 30:
F-13
2000
----
Wholesale
Network
Capacity End-user
IRUs Agreements Services Total
---- ---------- -------- -----
Total contract amounts.................... $193,900,632 $1,500,000 $9,473,039 $204,873,671
Less: future payments due under
Contracts............................... 156,025,727 - 2,630,000 158,655,727
------------ ---------- ---------- ------------
Total amounts collected/billed to date.... 37,874,905 1,500,000 6,843,039 46,217,944
Less: total amounts recognized as
revenues to date....................... 3,516,991 225,000 558,526 4,300,517
------------ ---------- ---------- ------------
Deferred revenue.......................... 34,357,914 1,275,000 6,284,513 41,917,427
Less: amounts to be recognized
within 12 months........................ 2,376,536 75,000 139,844 2,591,380
------------ ---------- ---------- ------------
$ 31,981,377 $1,200,000 $6,144,669 $ 39,326,046
============ ========== ========== ============
Future minimum rentals, maintenance, power and building payments due DTI
over the next five years and thereafter under the IRU agreements accounted for
as operating leases are generally as follows as of June 30, 2000:
2001............................. $ 32,294,000
2002............................. 9,150,000
2003............................. 8,698,000
2004............................. 8,138,000
2005............................. 7,890,000
Thereafter....................... 89,855,727
-------------
Total............................ $ 156,025,727
=============
The total costs of fiber optic cable plant for the route segments completed
to date are allocated to property subject to lease under IRU agreements based on
the percentage of fiber strands under lease to total fiber count in the related
route segments and amount to approximately $9 million at June 30, 2000.
Additional route segments related to the IRU agreements are in process or
planned for construction under timelines established in the IRU agreements.
The Company's IRU contracts provide for reduced payments and varying
penalties for late delivery of route segments, and allow the customers, after
expiration of grace periods, to delete such non-delivered segment from the
system route to be delivered. A significant reduction in the level of services
the Company provides for any of these customers could have a material adverse
effect on the Company's results of operations or financial condition.
In November 1999, DTI entered into an IRU agreement with Adelphia Business
Solutions for over 4000 route miles on its network initially valued at between
$27 to $42 million to DTI depending on the number of options for additional
routes of fiber strands exercised by the parties. Adelphia paid $10 million in
advance cash payments under the terms of the Agreement. In August 2000, Adelphia
cancelled five routes or portions thereof, which will result in approximately
$3.8 million in reduced future cash collections under the Agreement, plus the
repayment to Adelphia of approximately $1.6 million previously paid to DTI by
Adelphia, which was repaid in September 2000. In addition to providing for
certain rights to cancel delivery of route segments not delivered to them by
agreed upon dates, the Agreement also provides for monthly financial penalties
for late deliveries. As of September 2000, DTI is late with respect to delivery
of all routes, and accrued penalties under the Agreement totaled approximately
$3.5 million. These penalties will result in an offset to future cash receipts
by DTI upon delivery of the remaining routes. If Adelphia were to cancel all
remaining route segments under the Agreement; then DTI would no longer receive
the remaining approximate $20 million, net of penalties, due under the Agreement
and would be required to return the remaining $8 million received upon execution
of the Agreement plus interest. Additionally, DTI would receive none of the
maintenance and other monthly and annual payments due under the terms of the
Agreement.
F-14
Pursuant to the terms of one of DTI's swap agreements DTI has received
approximately 480 miles of inner-duct from Atlanta to Louisville during fiscal
2000 in exchange for fiber and cash. As of June 30, 2000, DTI had a receivable
recorded for $13.3 million related to this transaction and deferred revenue of
$8.2 million. The receivable of $13.3 million was subsequently collected in the
first quarter of fiscal 2001.
DTI has a swap agreement with a counter party under which both DTI and the
counter party have not delivered their respective routes by the contracted due
date. The counter party to the agreement has initiated the delivery process for
their two routes but DTI has yet to start the delivery process related to its
two routes. Once the counter party has delivered their routes and DTI has
accepted them DTI will be required to begin making annual cash payments to them
of approximately $1.4 million, plus quarterly building and maintenance fees, in
advance of their making payments to DTI for its routes. Additionally, DTI may be
required to accrue penalties for late delivery of $100,000 per route per month.
If the counter party were to exercise their rights to cancel delivery of DTI's
routes DTI would not receive approximately $26 million in lease payments over
the term of the agreement plus quarterly maintenance, building space and other
quarterly and annual payments due under the terms of the agreement.
In another swap agreement, if DTI does not settle an obligation by
providing the counter party with additional DTI fiber by December 31, 2000, DTI
will be required to pay an additional $7 million in cash to the counter party.
An agreement dating back to October 1994, between AmerenUE and DTI requires
DTI to construct a fiber optic network linking AmerenUE's 86 sites throughout
the states of Missouri and Illinois in return for cash payments to DTI and the
use of various rights-of-way including downtown St. Louis. As of June 30, 2000,
DTI had completed approximately 70% of the sites required for AmerenUE and
expect to complete all such construction by the end of fiscal 2001. AmerenUE has
given DTI notice that they intend to set off against amounts payable to DTI up
to $90,000 per month, which as of September, 2000 totaled approximately $1.5
million (in addition to $400,000 previously set off against other payments) as
damages and penalties under DTI's contract with them due to our failure to meet
certain construction deadlines, and AmerenUE has reserved its rights to seek
other remedies under the contract which could potentially include reclamation of
the rights-of-way granted to DTI. DTI is behind schedule with respect to such
contract as a result of AmerenUE not obtaining on behalf of the Company certain
rights-of-way required for completion of certain network facilities, and the
limitation of our financial and human resources, particularly prior to the
Senior Discount Notes Offering. DTI has obtained alternative rights-of-way to
accelerate the completion of such construction. Upon completion and turn-up of
services, AmerenUE is contractually required to pay DTI a remaining lump sum of
approximately $4.1 million, less the above mentioned penalties, for their
telecommunications services over DTI's network.
The Company's business plan assumes increased revenue from its carrier's
carrier services operations to partially fund the expansion of the DTI network.
Many of the Company's customer arrangements are subject to termination and do
not provide the Company with guarantees that service quantities will be
maintained at current levels. The Company is aware that certain interexchange
carriers are constructing or considering new networks. Accordingly, there can be
no assurance that any of the Company's carrier's carrier services customers will
increase their use of the Company's services, or will not reduce or cease their
use of the Company's services, either of which could have a material adverse
effect on the Company's ability to fund the expansion of the DTI network.
The Company has substantial business relationships with several large
customers. Six customers accounted for 24%, 20%, 15%, 12%, 12% and 10% of
deferred revenues at June 30, 2000. Additionally, three customers accounted for
40%, 30% and 10% of amounts to be received per the customer contracts referred
to above.
During fiscal 2000, the Company's three largest customers accounted for
44%, 14% and 10% of telecommunications services revenue. During fiscal 1999, the
F-15
Company's two largest customers accounted for 60% and 18% of telecommunications
services revenue. During fiscal year 1998, the Company's three largest customers
accounted for 44%, 11% and 10% of telecommunications services revenue.
8. Income Taxes
The actual income tax benefit (provision) for the years ended June 30,
1998, 1999 and 2000 differs from the "expected" income taxes, computed by
applying the U.S. Federal corporate tax rate of 35% to loss before income taxes
as follows:
1998 1999 2000
---- ---- ----
Tax benefit at federal statutory rates.............. $4,004,879 $ 11,100,686 $ 19,265,555
State income tax benefit net of federal effect...... 572,126 1,330,152 1,853,929
Change in valuation allowance....................... (2,232,780) (12,402,275) (22,625,841)
Disqualified interest related to the Senior
Discount Notes................................... (414,967) (1,016,036) (1,700,888)
Permanent and other differences..................... 90,742 (12,527) 972,914
---------- ------------ -------------
Benefit (provision) for income taxes........... $2,020,000 $ (1,000,000) $ (2,234,331)
========== ============ =============
Significant components of the benefits (provision) for income taxes are as
follows at June 30:
1998 1999 2000
---- ---- ----
Current:
Federal......................................... $ $ (1,000,000) $ 1,000,000
State........................................... - - -
---------- ------------ ------------
- (1,000,000) 1,000,000
---------- ------------ ------------
Deferred:
Federal......................................... 1,767,500 - (2,830,040)
State........................................... 252,500 (404,291)
---------- ------------ ------------
2,020,000 - $(3,234,331
========== ============ ============
Total benefit (provision) for income taxes... $2,020,000 $ (1,000,000) $(2,234,331)
========== ============ ============
1999 2000
---- ----
Deferred tax assets:
Accretion on senior discount notes....... $ 15,032,097 $ 28,424,114
Deferred revenues........................ 1,411,954 -
Accelerated depreciation................. - 136,888
Other.................................... 930,985 1,277,414
------------ -------------
Total deferred tax assets............. 18,776,177 41,583,568
Deferred revenues........................ (4,322,672)
Accelerated depreciation................. (906,859) -
Valuation allowance........................ (14,634,987) (37,260,896)
------------ ------------
Net deferred tax assets............... $ 3,234,331 $ -
============ =============
A valuation allowance of $37,260,896 was established to offset the
Company's deferred tax asset, primarily related to the accretion on the Senior
Discount Notes, that may not be realizable due to the ultimate uncertainty of
its realization. The Company believes that it is likely that it will not
generate taxable income sufficient to realize the tax benefit associated with
future deductible temporary differences and net operating loss carryforwards
prior to their expiration related to the remaining net deferred tax asset. The
Company also settled an income tax examination in June 2000 at no cost to the
Company and reversed the related $1 million provision. Tax net operating losses
of approximately $29.0 million expire in years 2021 if not utilized in future
income tax returns. The availability of the loss carryforwards may be limited in
the event of a significant change in the ownership of the Company or its
subsidiary.
F-16
9. Operating Leases and IRU Commitments
The Company is a lessee under operating leases and IRUs for fiber,
equipment space, maintenance, power costs and office space. The Company's point
of presence ("POP") and switch facility in St. Louis is leased from the
Company's President and Chief Executive Officer at a rate of $75,000 per year on
a month to month basis. The Company leases its headquarters and network control
center space, which lease expires in July 2001. Additionally, fiber, equipment
space, maintenance and power costs related to IRUs are typically for periods up
to 20 years. Also, most of the IRUs contain renewal options of five to ten
years. Minimum rental commitments under these operating leases and IRUs are as
follows:
Year ending June 30:
2001................................. $ 7,514,000
2002................................. 9,376,000
2003................................. 9,167,000
2004................................. 9,167,000
2005................................. 9,167,000
Thereafter........................... 135,774,000
-------------
Total........................... $ 180,165,000
=============
Total expense of operating leases and IRUs aggregated $75,000, $2.1 million
and $7.0 million for the years ended June 30, 1998, 1999 and 2000, respectively.
10. Commitments
Highway and Utility Rights-of-Way -- The Company has entered into certain
agreements with the Department of Transportation ("DOTs") for various states and
others that require DTI to construct its network facilities along specified
routes and within certain time frames. To date the Company has approximately
4,700 miles of rights-of-way required to be built pursuant to these agreements
of which DTI has completed approximately 2,800 miles. In exchange for these
rights-of-way, the Company is required to provide the DOTs either fibers, ducts,
fiber optic capacity and connection points within its network or a combination
thereof. If the Company does not complete its designated routes as required or
cure a breach of the agreement in a timely manner as specified in the applicable
agreement, the Company may lose its rights under the contract which may include
exclusivity, access to its fiber or the ability to complete the construction on
the remaining unbuilt rights-of-way. Additionally, the Company has been required
to post $455,000 in performance and payment bonds under the terms of these
agreements.
An agreement with the Kansas Department of Transportation requires us to
build approximately 750 miles of fiber optic network along an interstate highway
system by September of 2000, of which approximately 600 miles have been
completed. DTI may lose its rights under this agreement if it is declared in
breach of the agreement and do not cure such breach as required under the terms
of the agreement.
In addition to the agreements with the DOTs the Company has used available
public rights-of-way in certain states. Pursuant to the agreements with these
states the Company has been required to post $600,000 in performance bonds.
The Company will continue to seek and obtain the rights-of-way that it
needs for the expansion of its network in areas where it will construct network
rather than purchase or swap fiber optic strands by entering into agreements
with other state highway departments and other governmental authorities,
utilities or pipeline companies and it may enter into joint ventures or other
"in-kind" transfers in order to obtain such rights. In addition, DTI may use
available public rights-of-way.
Licensing Agreements -- The Company has entered into various licensing
agreements with municipalities. Under the terms of these agreements, the Company
F-17
maintains certain performance bonds, totaling $510,000 in the aggregate, and
minimum insurance levels. Such agreements generally have terms from 10 to 15
years and grant to the Company a non-exclusive license to construct, operate,
maintain and replace communications transmission lines for its fiber optic cable
system and other necessary appurtenances on public roads, rights-of-way and
easements within the municipality. In exchange for such licenses, the Company
generally provides to the municipality in-kind rights and services (such as the
right to use certain dedicated strands of optic fiber in the DTI network within
the municipality, interconnection services to the DTI network within the
municipality, and maintenance of the municipality's fibers), or, less
frequently, a nominal percentage of the gross revenues of the Company for
services provided within the municipality. In some instances, the Company is
obligated to make nominal annual cash payments for such rights based on linear
footage.
Employment Agreements -- DTI has employment agreements entered into during
fiscal years 1998, 1999 and 2000 with certain senior management personnel. These
agreements are effective for various periods through fiscal 2003, unless
terminated earlier by the executive or DTI, and provide for annual salaries,
additional compensation in the form of bonuses based on performance of the
executive, and participation in the various benefit plans of DTI. The agreements
contain certain benefits to the executive if DTI terminates the executive's
employment without cause.
Supplier Agreements -- DTI's supplier agreements are with its major network
construction contractors and its material equipment suppliers.
Purchase Commitments -- DTI's remaining aggregate purchase commitments for
construction and switching equipment at June 30, 2000 is approximately $26
million. The switching equipment commitment totaling $15 million is cancelable
upon the payment of a $42,000 cancellation fee for each of the remaining eight
unpurchased switches. Additionally, the Company has entered into definitive
agreements to purchase for cash IRUs for fiber optic strands (fiber usage
rights) with remaining advance payments of approximately $8 million to be paid
over the next fiscal year, exclusive of any continuing monthly maintenance,
building or power payments.
11. Contingencies
In June 1999, the Company and Mr. Weinstein, the founder, president and
chief executive officer of the Company, settled a suit brought in the Circuit
Court of St. Louis County, Missouri, in a matter styled Alfred H. Frank v.
Richard D. Weinstein and Digital Teleport, Inc. Pursuant to the terms of the
settlement the Company paid $1.25 million and Mr. Weinstein paid $1.25 million
to the plaintiff and the Company released Mr. Weinstein from his
indemnification. Mr. Weinstein obtained a loan from the Company for his portion
of the settlement cost plus approximately $200,000 representing 50% of the legal
costs incurred by the Company, that is repayable by Mr. Weinstein to the Company
at the earliest of the following three events:
- - a change in control of DTI
- - a public offering of shares of DTI
- - three years after the date of the loan
The loan will earn interest at a rate of 7.5% which will be payable at the
same time as the principal balance is due. Mr. Weinstein has pledged 1,500,000
shares of his common stock in the Company as collateral for the loan.
From time to time the Company is named as a defendant in routine lawsuits
incidental to its business. The Company believes that none of such current
proceedings, individually or in the aggregate, will have a material adverse
effect on the Company's financial position, results of operations or cash flows.
F-18
12. Valuation and Qualifying Accounts
Activity in the Company's allowance for doubtful accounts was as follows:
Additions Charged
Balance at to Costs Balance at
For the year ended Beginning of Year and Expenses Deductions End of Year
June 30, 1998......... $ 48,000 $ 139,768 $ 187,768 $ -
========= ========= ========== =========
June 30, 1999......... $ - $ 139,625 $ - $ 139,625
========= ========= ========== =========
June 30, 2000......... $ 139,625 $ - $ 139,625 $ -
========= ========= ========== =========
13. Quarterly Results (Unaudited)
The Company's unaudited quarterly results are as follows:
For the fiscal 1999 Quarter Ended
September 30, 1998 December 31, 1998 March 31, 1999 June 30, 1999
Total revenues........ $ 1,739,649 $ 1,730,432 $ 1,810,758 $ 1,928,544
============= ============ ============ =============
Loss from operations.. $ (1,481,533) $ (1,544,543) $ (2,701,550) $ (3,768,622)
============= ============ ============ =============
Net loss.............. $ (5,889,590) $ (6,289,135) $ (7,900,601) $ (12,636,921)
============= ============ ============ =============
For the fiscal 2000 Quarter Ended
September 30, 1999 December 31, 1999 March 31, 2000 June 30, 2000
Total revenues........ $ 1,959,450 $ 2,182,583 $ 2,370,493 $ 2,473,008
============= ============ ============ =============
Loss from operations.. $ (5,153,131) $ (5,848,375) $ (5,521,212) $ (5,698,725)
============= ============ ============ =============
Net loss.............. $ (12,309,323) $(14,415,758) $(13,764,824) $ (16,791,625)
============= ============ ============ =============
14. Subsequent Event
On September 27, 2000, DTI Holdings, Inc. announced that Richard D.
Weinstein, the founder, president and chief executive officer of the Company,
has entered into a conditional agreement for the sale of his shares to KLT
Telecom Inc., the telecommunications subsidiary of KCP&L.
Under the agreement, KLT would acquire an additional 31 percent of the
fully diluted common stock of DTI Holdings, for a purchase price of
approximately $110 million. The investment would increase KLT's fully diluted
ownership to 78 percent of DTI. In addition to the initial share purchase, if
the transaction is consummated by November 20, 2000, Mr. Weinstein has agreed to
grant KLT a 5-year option to buy his remaining 15 percent of the fully diluted
common stock of DTI for an additional purchase price of approximately $12
million.
The stock acquisition is contingent upon satisfaction or waiver by KLT
of several conditions. These conditions include the purchase by KLT of at least
90% of the principal amount of DTI's Series B Senior Discount Notes due 2008
("Senior Discount Notes") and 90% of the Warrants which were issued together
with the Senior Discount Notes and which are now detachable. Each Warrant
entitles the holder to purchase 1.552 shares of DTI common stock. The purchase
price to be offered for the Senior Discount Notes and Warrants will be
determined by KLT, but in the case of the Senior Discount Notes is expected to
represent a significant discount to their accreted value. Other conditions
include receipt of a waiver from KLT's bank group and the availability of
financing to consummate the transactions.
At such time as KLT makes an offer to purchase at least 40% of the
Senior Discount Notes and 40% of the Warrants, persons designated by KLT would
be elected as Executive Vice Presidents of DTI with authority over certain
construction activities, marketing and sales, and approval rights for
transactions over $1 million, subject to separate approval rights which Mr.
Weinstein would retain over specified matters.
F-19
If the transaction is terminated, KLT and Mr. Weinstein have agreed to a
six-month "standstill" period, during which they will exercise joint
decision-making authority for contracts and capital expenditures in excess of $1
million.
* * * * * *
F-20
Exhibit Index
Number Description
2.1 Stock Purchase Agreement by and between KLT Telecom Inc. and Digital
Teleport, Inc., dated December 31, 1996 (incorporated herein by
reference to Exhibit 2.1 to the Company's Registration Statement on Form
S-4 (File No. 333-50049) (the "S-4")).
2.2 Amendment No. 1 to Stock Purchase Agreement between KLT Telecom Inc. and
Digital Teleport, Inc. dated February 12, 1998 (incorporated herein by
reference to Exhibit 2.2 to the S-4).
3.1 Restated Articles of Incorporation of the Registrant (incorporated
herein by reference to Exhibit 3.1 to the S-4).
3.2 Restated Bylaws of the Registrant (incorporated herein by reference to
Exhibit 3.2 to the S-4).
4.1 Indenture by and between the Registrant and The Bank of New York, as
Trustee, for the Registrant's 12 1/2% Senior Discount Notes due 2008,
dated February 23, 1998 (the "Indenture") (including form of the
Company's 12 1/2% Senior Discount Note due 2008 and 12 1/2% Series B
Senior Discount Note due 2008) (incorporated herein by reference to
Exhibit 4.1 to the S-4).
4.2 Note Registration Rights Agreement by and among the Registrant and the
Initial Purchasers named therein, dated as of February 23, 1998
(incorporated herein by reference to Exhibit 4.2 to the S-4).
4.3 Warrant Agreement by and between the Registrant and The Bank of New
York, as Warrant Agent, dated February 23, 1998 (incorporated herein by
reference to Exhibit 4.3 to the S-4).
4.4 Warrant Registration Rights Agreement by and among the Registrant and
the Initial Purchasers named therein, dated February 23, 1998
(incorporated herein by reference to Exhibit 4.4 to the S-4).
4.5 Digital Teleport, Inc. Shareholders' Agreement between Richard D.
Weinstein and KLT Telecom Inc., dated March 12, 1997 (incorporated
herein by reference to Exhibit 4.5 to the S-4).
4.6 Amendment No. 1 to the Digital Teleport, Inc. Shareholders' Agreement,
dated November 7, 1997 (incorporated herein by reference to Exhibit 4.6
to the S-4).
4.7 Amendment No. 2 to the Digital Teleport, Inc. Shareholders' Agreement,
dated December 18, 1997 (incorporated herein by reference to Exhibit 4.7
to the S-4).
4.8 Amendment No. 3 to the Digital Teleport, Inc. Shareholders' Agreement,
dated February 12, 1998 (incorporated herein by reference to Exhibit 4.8
to the S-4).
4.9 Stock Pledge Agreement between Richard D. Weinstein and KLT Telecom
Inc., dated March 12, 1997, securing the performance of Digital
Teleport, Inc.'s obligations under that certain Stock Purchase Agreement
dated as of December 31, 1996, as amended, (incorporated herein by
reference to Exhibit 4.9 to the S-4).
4.10 Amendment No. 1 to Stock Pledge Agreement between Richard D. Weinstein
and KLT Telecom Inc., dated December 18, 1997 (incorporated herein by
reference to Exhibit 4.10 to the S-4).
4.11 Amendment No. 2 to Stock Pledge Agreement between Richard D. Weinstein
and KLT Telecom Inc., dated February 12, 1998 (incorporated herein by
reference to Exhibit 4.11 to the S-4).
4.12 Subordination Agreement, by and among the Registrant, Digital Teleport,
Inc., KLT Telecom Inc. and Richard D. Weinstein, dated February 12, 1998
(incorporated herein by reference to Exhibit 4.12 to the S-4).
4.13 Warrant agreement, by and among the Digital Teleport, Inc. and Banque
Indosuez expiring October 21, 2007.
10.1 Employment Agreement between Digital Teleport, Inc. and Richard D.
Weinstein, dated December 31, 1996 (incorporated herein by reference to
Exhibit 10.1 to the S-4).
10.2 Director Indemnification Agreement between the Registrant and Richard D.
Weinstein, dated December 23, 1997 (incorporated herein by reference to
Exhibit 10.2 to the S-4).
10.3 Director Indemnification Agreement between the Registrant and Bernard J.
Beaudoin, dated December 23, 1997 (incorporated herein by reference to
Exhibit 10.4 to the S-4).
10.4 Director Indemnification Agreement between the Registrant and Ronald
G. Wasson, dated December 23, 1997 (incorporated herein by reference
to Exhibit 10.5 to the S-4).
10.5 Director Indemnification Agreement between the Registrant and James V.
O'Donnell, dated December 23, 1997 (incorporated herein by reference to
Exhibit 10.6 to the S-4).
10.6 Director Indemnification Agreement between the Registrant and Kenneth
V. Hager, dated December 23, 1997 (incorporated herein by reference to
Exhibit 10.7 to the S-4).
10.7 1997 Long-Term Incentive Award Plan of the Registrant (incorporated
herein by reference to Exhibit 2.2 to the S-4).
10.8 Product Attachment -- Carrier Networks Products Agreement between
Digital Teleport, Inc. and Northern Telecom, Inc., effective October
23, 1997 (incorporated herein by reference to Exhibit 10.12 to the
S-4).
10.9 Agreement re: Fiber Optic Cable on Freeways in Missouri, between the
Missouri Highway and Transportation Commission and Digital Teleport,
Inc., effective July 29, 1994 (incorporated herein by reference to
Exhibit 10.13 to the S-4).
10.10 First Amendment to Agreement re: Fiber Optic Cable on Freeways in
Missouri, between the Missouri Highway and Transportation Commission
and Digital Teleport, Inc., effective September 22, 1994 (incorporated
herein by reference to Exhibit 10.14 to the S-4).
10.11 Second Amendment to Agreement re: Fiber Optic Cable on Freeways in
Missouri, between the Missouri Highway and Transportation Commission
and Digital Teleport, Inc., effective November 7, 1994 (incorporated
herein by reference to Exhibit 10.15 to the S-4).
10.12 Third Amendment to Agreement re: Fiber Optic Cable on Freeways in
Missouri, between the Missouri Highway and Transportation Commission
and Digital Teleport, Inc., effective October 9, 1996 (incorporated
herein by reference to Exhibit 10.16 to the S-4).
10.13 Contract Extension to Agreement re: Fiber Optic Cable on Freeways in
Missouri, between the Missouri Department of Transportation (as
successor to the Missouri Highway and Transportation Commission) and
Digital Teleport, Inc., dated February 7, 1997, (incorporated herein by
reference to Exhibit 10.17 to the S-4).
10.14 FiberOptic Cable Agreement, between the Arkansas State Highway and
Transportation Department and Digital Teleport, Inc., dated May 29,
1997 (incorporated herein by reference to Exhibit 10.18 to the S-4).
10.15 Missouri Interconnection, Resale and Unbundling Agreement between GTE
Midwest Incorporated, GTE Arkansas Incorporated and Digital Teleport,
Inc. executed November 7, 1997 (incorporated herein by reference to
Exhibit 10.23 to the S-4).
10.16 Arkansas Interconnection, Resale and Unbundling Agreement between GTE
Southwest Incorporated, GTE Midwest Incorporated, GTE Arkansas
Incorporated and Digital Teleport, Inc., executed November 7, 1997
(incorporated herein by reference to Exhibit 10.24 to the S-4).
10.17 Oklahoma Interconnection, Resale and Unbundling Agreement between GTE
Southwest Incorporated, GTE Arkansas Incorporated, GTE Midwest and
Digital Teleport, Inc., executed November 7, 1997 (incorporated herein
by reference to Exhibit 10.25 to the S-4).
10.18 Texas Interconnection, Resale and Unbundling Agreement between GTE
Southwest Incorporated and Digital Teleport, Inc., executed November
18, 1997 (incorporated herein by reference to Exhibit 10.26 to the
S-4).
10.19 Kansas Master Resale Agreement between United Telephone Company of
Kansas (Sprint) and Digital Teleport, Inc., dated September 30, 1997
(incorporated herein by reference to Exhibit 10.27 to the S-4).
10.20 Commercial Lease between Richard D. Weinstein and Digital Teleport,
Inc., dated December 31, 1996 (incorporated herein by reference to
Exhibit 10.28 to the S-4).
10.21 Commercial Lease Extension Agreement between Richard D. Weinstein and
Digital Teleport, Inc., dated December 31, 1997 (incorporated herein by
reference to Exhibit 10.29 to the S-4).
10.22 Purchase Agreement by and between the Registrant and the Initial
Purchasers named therein, dated as of February 13, 1998 (incorporated
herein by reference to Exhibit 10.30 to the S-4).
10.23 Consulting Agreement between Digital Teleport, Inc. and H.P. Scott,
dated May 4, 1998, (incorporated herein by reference to Exhibit 10.33
to the S-4).
10.24 Employment Agreement between Digital Teleport, Inc. and Gary W.
Douglass, dated July 20, 1998 (incorporated herein by reference to
Exhibit 10.34 to the S-4).
10.25 Agreement for Purchase and Sale of Equipment between Digital Teleport,
Inc. and Pirelli Cables and Systems LLC, dated as of June 26, 1998
(incorporated herein by reference to Exhibit 10.35 to the S-4).
10.26 Amendment to Agreement for the Purchase and Sale of Optical Amplifier
and Dense Wavelength Division Multiplexing Equipment between Digital
Teleport, Inc. and Pirelli Cables and Systems LLC dated as of June 25,
2000.
10.27 Agreement for the Purchase and Sale of Optical Amplifier and Dense
Wavelength Division Multiplexing Equipment between Digital Teleport,
Inc. and Pirelli Cables and Systems LLC dated as of September 1, 1998
(incorporated by reference to Exhibit 10.36 to the Company's Current
Report on Form 8-K filed October 13, 1998).
10.28 Consulting Agreement between Digital Teleport, Inc. and Jerry W.
Murphy, dated November 5, 1998.
10.29 Employment Agreement between Digital Teleport, Inc. and Daniel A.
Davis, dated June 10, 1998.
10.30 Amendment to Employment Agreement of Daniel A. Davis
12 Statement re: Computation of Ratios
21 Subsidiaries of the Registrant (incorporated herein by reference to
Exhibit 21.1 to the S-4).
27 Financial Data Schedule
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