SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. For the quarterly period ended September 30, 1998 or [_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934. For the transition period from _________ to__________ Commission File Number 333-50049 DTI Holdings, Inc. (Exact name of registrant as specified in its charter) Missouri 43-1674259 (State or other jurisdiction of (I.R.S. Employer Identification Number) incorporation or organization) 8112 Maryland Ave, 4th Floor St. Louis, Missouri 63105 (Address of principal executive office) (Zip Code) Registrant's telephone number, including area code: (314) 253-6600 Check here whether the issuer (1) has filed all reports required to be filed by Sections 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 [_] No [X] As of November 13, 1998, the following shares of the Registrant's common stock were issued and outstanding: Common Stock ($.01 par value) 30,000,000 DTI HOLDINGS, INC. FORM 10-Q September 30, 1998 TABLE OF CONTENTS Page PART I FINANCIAL INFORMATION Item 1. Financial Statements Condensed Consolidated Balance Sheets at June 30, 1998 and September 30, 1998 (Unaudited) 1 Condensed Consolidated Statements of Operations for the Three Months Ended September 30, 1997 and 1998 (Unaudited) 2 Condensed Consolidated Statements of Cash Flows for the Three Months Ended September 30, 1997 and 1998 (Unaudited) 3 Notes to Condensed Consolidated Financial Statements (Unaudited) 4 - 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 6 - 10 Item 3: Quantitative and Qualitative Disclosures About Market Risk 10 PART II OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K 11 Signatures Exhibit Index Part I: FINANCIAL INFORMATION Item 1. Financial Statements DTI HOLDINGS, INC. AND SUBSIDIARY CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited) June 30, September 30, 1998 1998 -------- ------------- Assets Current assets: Cash and cash equivalents...................... $251,057,274 $240,346,996 Accounts receivable............................ 501,612 708,985 Prepaid and other current assets............... 69,635 30,208 ------------ ------------ Total current assets...................... 251,628,521 241,086,189 Property and equipment, net...................... 77,771,527 106,754,523 Deferred financing costs, net of amortization of $509,869 and $918,911.................. 10,028,558 10,144,693 Deferred tax asset............................... 3,234,331 3,234,331 Other assets..................................... 202,223 60,985 ----------- ----------- Total..................................... $342,865,160 $361,280,721 ============ ============ Liabilities and stockholders' equity: Current liabilities: Accounts payable............................... $ 4,722,418 $ 17,148,020 Taxes payable (other than income taxes)........ 1,830,668 2,055,668 Other current liabilities...................... 83,605 243,226 ------------ ------------ Total current liabilities................. 6,636,691 19,446,914 Deferred revenues................................ 16,814,488 19,323,390 Senior discount notes, net of unamortized discount of $9,465,882 and $9,101,981..... 277,455,859 286,241,885 Other long-term liabilities...................... 100,000 ------------ ------------ Total liabilities......................... 300,907,038 325,112,189 ------------ ------------ Commitments and contingencies -- -- Stockholders' equity: Preferred stock, $.01 par value, 20,000 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.................... 44,013,063 44,213,063 Common stock warrants......................... 10,421,336 10,421,336 Unearned compensation......................... -- (100,000) Accumulated deficit........................... (12,776,577) (18,666,167) ------------ ------------ Total stockholders' equity............... 41,958,122 36,168,532 ------------ ------------ Total........................................... $342,865,160 $361,280,721 ============ ============ See notes to condensed consolidated financial statements. DTI HOLDINGS, INC. AND SUBSIDIARY CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited) Three Months Ended September 30, 1997 1998 ------------- ------------ REVENUES: Telecommunications services: Carrier's carrier services................ $ 317,662 $ 1,624,532 End-user services......................... 134,420 115,117 ------------ ----------- Total revenues......................... 452,082 1,739,649 ------------ ----------- OPERATING EXPENSES: Telecommunications services............... 183,806 992,644 Selling, general and administrative....... 654,080 1,536,538 Depreciation and amortization............. 361,750 692,000 ----------- ----------- Total operating expenses............... 1,199,636 3,221,182 ----------- ---------- LOSS FROM OPERATIONS........................ (747,554) (1,481,533) OTHER INCOME (EXPENSES): Interest income........................... 52,277 3,343,510 Interest expense.......................... -- (7,751,567) ----------- ----------- Loss before income tax benefit......... (695,277) (5,889,590) INCOME TAX BENEFIT.......................... 278,000 -- ------------ ----------- NET LOSS.................................... $ (417,277) $(5,889,590) ============ ============ See notes to condensed consolidated financial statements. DTI HOLDINGS, INC. AND SUBSIDIARY CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) Three Months Ended September 30, 1997 1998 ------------- ----------- Cash flows provided by operating activities..... $ 426,889 $ 19,489,895 ------------ ------------- Cash flows from investing activities: Increase in network and equipment............. (12,807,368) (29,674,996) ------------ ------------- Net cash used in investing activities...... (12,807,368) (29,674,996) ------------ ------------- Cash flows form financing activities: Proceeds from issuance of redeemable convertible preferred stock................. 9,150,000 Deferred financing costs........................ -- (525,177) ------------ ------------- Cash flows provided by (used in) financing activities................................. 9,150,000 (525,177) ------------ ------------- Net increase in cash and cash equivalents..... (3,230,479) (10,910,278) Cash and cash equivalents, beginning of period..................................... 4,366,906 251,057,274 ------------ ------------- Cash and cash equivalents, end of period...... $ 1,136,427 $240,346,996 ============ ============= See notes to condensed consolidated financial statements. DTI HOLDINGS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) - -------------------------------------------------------------------------------- 1. PRESENTATION The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10-01 of Regulation S-X. Accordingly, they do not include all of the information and notes required by generally accepted accounting principles for complete financial statements. In the opinion of the management of DTI Holdings, Inc. and subsidiary (the "Company" or "DTI") the accompanying unaudited condensed consolidated financial statements contain all adjustments (consisting of normal recurring adjustments) considered necessary to present fairly the Company's financial information for the interim periods presented and have been prepared in accordance with generally accepted accounting principles. The interim results of operations are not necessarily indicative of results that may be expected for any other interim period or for the full year. The financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto for the year ended June 30, 1998 included in the Company's Form 10-K filed with the Securities and Exchange Commission. Accordingly, note disclosures which would substantially duplicate the disclosures in the audited financial statements have been omitted. 2. COMMITMENTS AND CONTINGENCIES On June 20, 1995, the Company and its President were named as defendants in a suit in which the plaintiff alleges that (i) the plaintiff entered into an oral contract with the defendants pursuant to which the plaintiff was to receive a percentage of the Company's common stock, (ii) the plaintiff provided services to the Company for which the plaintiff was not and should be compensated, and (iii) the defendants misrepresented certain facts to the plaintiff in order to induce him to loan money and provide services to the defendants. Based on these allegations, the plaintiff is suing for breach of contract and fraud and is seeking actual monetary damages, punitive damages and a percentage of the common stock of the Company. Management believes the plaintiff's claims are without merit and intends to vigorously defend the claims. It is not possible to determine what impact, if any, the outcome of this litigation might have on the financial condition, results of operations or cash flows of the Company at this time. The President has agreed personally to indemnify the Company against any and all losses and damages resulting from any judgments and awards rendered against the Company in this litigation. However, no guarantee can be made as to the ability to satisfy all such amounts. The President has also agreed to indemnify the holder of the convertible preferred stock from such losses and damages, and has pledged his stock ownership in the Company to secure such obligation. The Company has received notice from a customer that it intends to set off against amounts payable to the Company $15,000 per month, which as of September 30, 1998 totaled approximately $135,000 (in addition to $400,000 previously set off against other payments) as damages and penalties under the Company's contract with that customer due to the failure by the Company to meet certain construction deadlines, and such customer reserved its rights to seek other remedies under the contract. The Company believes that if such $135,000 setoff were to be made, it would not be material to the Company's business, financial position or results of operations. The Company is behind schedule with respect to such contract as a result of such customer's not obtaining on behalf of the Company certain rights-of-way required for completion of certain network facilities, and the Company's limitations on its financial and human resources, particularly prior to the Senior Discount Notes Offering. The Company has obtained alternative rights-of-way and hired additional construction supervisory personnel to accelerate the completion of such construction. Upon completion and turn-up of services, such customer is contractually required to pay the Company a lump sum of approximately $4.2 million for the Company's telecommunications services over its network 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. During fiscal 1999, the Company has made and will continue to make material commitments related to the expansion of its network. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS RESULTS OF OPERATIONS Three Months Ended September 30, 1997 Compared to Three Months Ended September 30, 1998 REVENUE Total revenue increased 285%, from $452,000 in 1997 to $1.7 million in 1998, due to increased revenue from carrier's carrier services. Revenue from carrier's carrier services increased 411% principally from increased sales of wholesale network capacity agreements on the Company's completed routes. OPERATING EXPENSES Operating expenses increased 168%, from $1.2 million in 1997 to $3.2 million in 1998. The increase is primarily attributable to increased telecommunications services expenses which increased $809,000 for the quarter over the same quarter in 1997 due to increased personnel costs to support the expansion of the DTI network, as well as increased costs related to property taxes and other costs in connection with leasing capacity to support customers in areas not yet reached by the DTI network. The increase is also due to selling, general and administrative expenses which increased $882,000 over 1997 due principally to an increase in administrative and sales personnel and the expenses of supporting these personnel. Depreciation and amortization increased $330,000 over the comparable 1997 quarter due to higher amounts of plant and equipment being in service in 1998 versus 1997. Depreciation and amortization will continue to increase in conjunction with spending on capital assets to increase network capacity. INTEREST AND OTHER INCOME (EXPENSE) Net interest and other income (expense) increased from net income of $52,000 in 1997 to net expense of $4.4 million in 1998. This is due primarily to the issuance of the Company's Senior Discount Notes in February 1998, which resulted in increased non-cash interest expense, offset in part by interest income earned on the portion of the proceeds from the Senior Discount Notes invested in short-term investment-grade securities. INCOME TAXES An income tax benefit of $278,000 was recorded in the three month period ended September 30, 1997 compared to no benefit or provision in the comparable period in 1998. Management believes it is more likely than not that it will generate taxable income sufficient to realize the tax benefit associated with future deductible temporary differences and net operating loss carryforwards prior to their expiration. However, a valuation allowance is being provided against the deferred tax asset generated from the nondeductible interest expense related to the Company's Senior Discount Notes issued in February 1998. NET LOSS Net loss for the three months ended September 30, 1997 was $417,000 compared to $5.9 million for the three months ended September 30, 1998 as a result of the factors discussed above. LIQUIDITY AND CAPITAL RESOURCES As of September 30, 1998, the Company had $240.3 million of cash and cash equivalents. The decrease of $10.9 million in the Company's cash and cash equivalents for the three months ended September 30, 1998 was primarily due to expenditures on the Company's property and equipment as the Company continues to expand its network. The net cash provided by operating activities was $19.5 million for the quarter ended September 30, 1998 compared to $427,000 in the comparable period in 1997, primarily as a result of an increase in accounts payable associated with the continued development of the Company's network and an increase in deferred revenues associated with a dark fiber sale. Cash used in investing activities for the quarter ended September 30, 1998 was $29.7 million compared to $12.8 million for the comparable period of 1997. The increase reflects the purchase of network and equipment to be used in the Company's operations. Cash provided by (used in) financing activities was $(525,000) in the first quarter of fiscal 1999, compared to $9.2 million from the issuance of redeemable convertible preferred stock in the first quarter of fiscal 1998, as the Company did not enter into any new financing transactions in the first quarter of fiscal 1999. To achieve its business plan, DTI will need significant financing to fund its capital expenditure, working capital and debt service requirements and its anticipated future operating losses. The Company's estimated capital requirements primarily include the estimated cost of (i) constructing approximately half of the planned DTI network routes, (ii) purchasing, for cash, fiber optic facilities pursuant to long-term IRUs for planned routes that the Company 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. The Company estimates that total capital expenditures necessary to complete the DTI network will be approximately $780 million, of which the Company had expended $111 million as of September 30, 1998. During the balance of calendar 1998 and all of calendar 1999, the Company anticipates its capital expenditure priorities will be focused principally on expanding from its existing Missouri/Arkansas base by building additional regional rings that adjoin existing rings and those that initiate new rings in areas in which strong carrier interest has been expressed. The Company anticipates that its existing financial resources will be adequate to fund the abovementioned priorities and its existing capital commitments, principally payments required under existing preliminary and definitive IRU and short-term lease agreements, totaling $125 million which are payable in varying installments over the period through December 31, 1999. In addition, the Company has a commitment at September 30, 1998 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. The Company 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. As of September 30, 1998, DTI had $240.3 million of cash and cash equivalents. Such amount is expected to provide sufficient liquidity to meet the Company's operating and capital requirements through approximately December 31, 1999. Subsequent to such date, DTI's operating and capital requirements are expected to be funded, in large part, out of additional debt or equity financing, advance payments under IRUs and wholesale network capacity agreements, and available cash flow from operations, if any. The Company is exploring the possibility of an additional high yield debt offering, a commercial credit facility and equity sales, but has no specific plans at this time. The Company is in various stages of discussions with potential customers for IRUs, wholesale network capacity agreements and regional ring service agreements. There can be no assurance, however, that the Company will continue to obtain advance payments from customers prior to commencing construction of, or obtaining IRUs for, planned routes, that it will be able to obtain financing under any credit facility or that other sources of capital will be available on a timely basis or on terms that are acceptable to the Company and within the restrictions under the Company's existing financing arrangements, or at all. If the Company fails to obtain the capital required to complete the DTI network, the Company could modify, defer or abandon plans to build or acquire certain portions of the DTI network. The failure of the Company, however, to raise the substantial capital required to complete the DTI network could have a material adverse effect on the Company. The actual amount and timing of DTI's capital requirements may differ materially from those estimates depending on demand for the Company's services, and the Company's ability to implement its current business strategy as a result of regulatory, technological and competitive developments (including market developments and new opportunities) in the telecommunications industry. Subject to the Indenture provisions that limit restrictions on the ability of any of the Company's Restricted Subsidiaries to pay dividends and make other payments to the Company, 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 the Company. 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 $63.25 million. In addition, the Senior Discount Notes mature on March 1, 2008. The Company currently expects 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. The Company does not anticipate that it will receive any material distributions from Digital Teleport prior to September 1, 2003. Even if the Company determined 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 the Company 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 the Company would have a material adverse effect on the Company's ability to meet its obligations on the Senior Discount Notes. Further, there can be no assurance that the Company 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. The Company has received notice from a customer that it intends to set off against amounts payable to the Company $15,000 per month, which as of September 30, 1998 totaled approximately $135,000 (in addition to $400,000 previously set off against other payments) as damages and penalties under the Company's contract with that customer due to the failure by the Company to meet certain construction deadlines, and such customer reserved its rights to seek other remedies under the contract. The Company believes that if such $135,000 setoff were to be made, it would not be material to the Company's business, financial position or results of operations. The Company is behind schedule with respect to such contract as a result of such customer's not obtaining on behalf of the Company certain rights-of-way required for completion of certain network facilities, and the Company's limitations on its financial and human resources, particularly prior to the Senior Discount Notes Offering. The Company has obtained alternative rights-of-way and hired additional construction supervisory personnel to accelerate the completion of such construction. Upon completion and turn-up of services, such customer is contractually required to pay the Company a lump sum of approximately $4.2 million for the Company's telecommunications services over its network YEAR 2000 While the Company believes that its existing systems and software applications are Year 2000 compliant, there can be no assurance until the year 2000 that all of the Company's systems and software applications then in place will function adequately. The failure of the Company's systems or software applications to accommodate the year 2000 could have a material adverse effect on its business, financial condition and results of operations. Further, if the systems or software applications of telecommunications equipment suppliers, ILECs, IXCs or others on whose services or products the Company depends or with whom the Company's systems must interface are not Year 2000 compliant, it could have a material adverse effect on the Company's business, financial condition and results of operations. The Company intends to continue to monitor the performance of its accounting, information and processing systems and software applications and those of its third-party constituents to identify and resolve any Year 2000 issues. To the extent necessary, the Company may need to replace, upgrade or reprogram certain systems to ensure that all interfacing applications will be Year 2000 compliant when operating jointly. Based on current information, the Company does not expect that the costs of such replacements, upgrades and reprogramming will be material to its business, financial condition or results of operations. Most major domestic carriers have announced that they expect to achieve Year 2000 compliance for their networks and support systems by mid-1999; however, other domestic and international carriers and other third-party constituents may not be Year 2000 compliant, and failures on their networks and systems could adversely affect the operation of the Company's networks and support systems and have a material adverse effect on the Company's business, financial condition and results of operations. The Company has not developed a contingency plan with respect to the failure of its systems or the systems of its suppliers or other carriers to achieve year 2000 compliance. FORWARD LOOKING STATEMENTS Certain statements throughout Management's Discussion and Analysis of Financial Condition and Results of Operations and elsewhere in this quarterly report are "forward looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995 and involve known and unknown risks, uncertainties and other factors that may cause actual events or results to differ materially from those expressed or implied by the forward looking statements. The most important factors that could prevent the Company from achieving its stated goals include, but are not limited to, (a) failure to obtain substantial amounts of additional financing at reasonable costs and on acceptable terms, (b) failure to effectively and efficiently manage the expansion and construction of the Company's network, (c) failure to enter into additional indefeasible rights to use ("IRUs") and/or wholesale network capacity agreements, (d) failure to obtain and maintain sufficient rights-of-way, (e) intense competition and pricing decreases, (f) potential for rapid and significant changes in telecommunications technology and their effect on the Company's business, and (g) adverse changes in the regulatory environment. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. Not applicable. PART II - OTHER INFORMATION Item 6. Exhibits and Reports on Form 8-K: (a) Exhibits 3.1 Restated Articles of Incorporation of the Registrant (incorporated herein by reference to Exhibit 3.1 to the Registrant's Registration Statement on Form S-4 (File No. 333-50049)(the "S-4")). 3.2 Restated Bylaws of the Registrant (incorporated herein by reference to Exhibit 3.2 to the S-4). 27 Financial Data Schedule (b) Reports on Form 8-K (1) Form 8-K date September 1, 1998 was filed pursuant to Item 7 (Financial Statements and Exhibits) (2) Form 8-K dated October 7, 1998 was filed pursuan to Item 6 (Resignation of Registrant's Directors) and Item 7. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. DTI HOLDINGS, INC. Date: November 13, 1998 /S/Gary W. Douglass ----------------- ------------------- Gary W. Douglass, Senior Vice President Finance and administration and Chief Financial Officer (Principal Financial and Accounting Officer) EXHIBIT INDEX Exhibit Number Description 3.1 Restated Articles of Incorporation of the Registrant (incorporated herein by reference to Exhibit 3.1 to the Registrant's Registration Statement on Form S-4 (File No. 333-50049)(the "S-4")). 3.2 Restated Bylaws of the Registrant (incorporated herein by reference to Exhibit 3.2 to the S-4). 27 Financial Data Schedule