UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
_ _ _ _ _ _ _ _ _ _ _ _ _
FORM 10-Q
_ _ _ _ _ _ _
[x] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 2001.
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: 333-78573
333-78573-01
MUZAK HOLDINGS LLC
MUZAK HOLDINGS FINANCE CORP.
(Exact Name of Registrants as Specified in their charter)
DELAWARE 04-3433730
DELAWARE 04-3433728
(State or Other Jurisdiction of (I.R.S. Employer Identification No.)
Incorporated or Organization)
3318 LAKEMONT BLVD
FORT MILL, SC 29708
(803) 396-3000
(Address, Including Zip Code and Telephone Number including Area Code of
Registrants' Principal Executive Offices)
Indicate by check mark whether the registrants have filed all documents and
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
registrants were required to file such reports), and (2) have been subject to
such filing requirements for the past 90 days.
Yes [X] No [ ]
Muzak Holdings Finance Corp. meets the conditions set forth in General
Instruction H (1) (a) and (b) of Form 10-Q and is therefore filing this form
with the reduced disclosure format.
1
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS.
MUZAK HOLDINGS LLC
CONSOLIDATED BALANCE SHEETS
(in thousands)
June 30, December 31,
2001 2000
(unaudited)
-------------- --------------
ASSETS
Current assets:
Cash and cash equivalents........................................................... $ 2,823 $ 3,012
Accounts receivable, net of allowances of $2,997 and $4,066......................... 28,570 38,847
Inventory........................................................................... 10,867 11,082
Prepaid expenses and other assets................................................... 2,426 2,548
--------- --------
Total current assets............................................................. 44,686 55,489
Property and equipment, net........................................................... 116,588 114,571
Intangible assets, net................................................................ 309,288 324,544
Deferred charges and other assets, net................................................ 48,699 45,471
--------- --------
Total assets..................................................................... $ 519,261 $540,075
========= ========
LIABILITIES AND MEMBERS' INTEREST
Current liabilities:
Revolving credit facility........................................................... $ 12,500 $ 4,000
Current maturities of long term debt................................................ 6,023 5,281
Current maturities of other liabilities............................................. 3,735 3,776
Accounts payable.................................................................... 7,945 14,498
Accrued expenses.................................................................... 20,395 19,541
Advance billings.................................................................... 2,696 2,096
--------- --------
Total current liabilities........................................................ 53,294 49,192
Long-term debt........................................................................ 333,786 333,890
Related party notes................................................................... -- 27,000
Other liabilities..................................................................... 14,082 17,993
Commitments and contingencies (Note 7).........................................
Manditorily redeemable preferred units................................................ 84,774 79,762
Members' interest:
Class A units...................................................................... 140,046 110,680
Class B units...................................................................... 1,838 2,522
Accumulated other comprehensive loss............................................... (2,811) --
Accumulated deficit................................................................ (105,748) (80,964)
--------- --------
Total members' interest.......................................................... 33,325 32,238
--------- --------
Total liabilities and members' interest.......................................... $ 519,261 $540,075
========= ========
The notes are an integral part of these consolidated financial statements.
2
MUZAK HOLDINGS LLC
CONSOLIDATED STATEMENTS OF OPERATIONS
(Unaudited)
(in thousands)
Quarter Ended Six Months Ended
-------------------------- ---------------------------
June 30, June 30, June 30, June 30,
2001 2000 2001 2000
------------ ------------ ------------- ------------
Revenues:
Music and other business services..................... $ 37,113 $ 34,835 $ 73,931 $ 67,094
Equipment and related services........................ 13,623 13,181 26,773 24,617
-------- -------- -------- --------
50,736 48,016 100,704 91,711
Cost of revenues:
Music and other business services
(excluding $9,268 ,$7,298, $17,856 and
$13,888 of depreciation and
amortization expense)............................... 6,894 8,517 14,560 15,290
Equipment and related services........................ 10,016 9,724 18,997 18,655
-------- -------- -------- --------
16,910 18,241 33,557 33,945
-------- -------- -------- --------
33,826 29,775 67,147 57,766
Selling, general and administrative expenses............ 17,128 16,268 35,155 30,450
Depreciation and amortization expense................... 18,509 15,535 36,791 29,489
-------- -------- -------- --------
Loss from operations............................... (1,811) (2,028) (4,799) (2,173)
Other expense:
Interest expense, net................................. (9,533) (11,904) (20,419) (22,987)
Other, net............................................ (139) (437) (175) (430)
-------- -------- -------- --------
Loss before income taxes........................... (11,483) (14,369) (25,393) (25,590)
Income tax provision (benefit).......................... (172) 40 (609) 60
-------- -------- -------- --------
Net loss........................................... $(11,311) $(14,409) $(24,784) $(25,650)
======== ======== ======== ========
The notes are an integral part of these consolidated financial statements.
3
MUZAK HOLDINGS LLC
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Unaudited)
(in thousands)
Quarter Ended Six Months Ended
-------------------------- --------------------------
June 30, June 30, June 30, June 30,
2001 2000 2001 2000
------------ ------------ ------------ ------------
CASH FLOW FROM OPERATING ACTIVITIES
Net loss................................................................. $(11,311) $(14,409) $(24,784) $(25,650)
Adjustments to derive cash flow from continuing operating activities:
Loss on disposal of fixed assets......................................... 114 -- 109 --
Deferred income tax (benefit) provision.................................. (172) -- (609) 15
Depreciation and amortization............................................ 18,509 15,535 36,791 29,489
Amortization of deferred financing fees.................................. 473 464 945 911
Amortization of deferred subscriber acquisition costs.................... 2,279 1,357 4,352 2,478
Amortization of senior discount notes.................................... 1,723 1,519 3,276 2,890
Deferred subscriber acquisition costs.................................... (3,956) (4,404) (7,893) (8,601)
Unearned installment income.............................................. (238) (110) (332) (172)
Change in certain assets and liabilities, net of business acquisitions
Decrease (increase) in accounts receivable............................ 1,853 (2,973) 9,612 (3,440)
Decrease (increase) in inventory...................................... 1,219 (93) 220 1,194
Increase (decrease) in accrued interest............................... 3,990 1,070 1,532 (418)
Increase (decrease) in accounts payable............................... 449 6,604 (4,326) 11,028
Decrease in accrued expenses.......................................... (421) (1,220) (568) (9,033)
Increase (decrease) in advance billings.............................. (406) (570) 586 1,402
Other, net............................................................ (552) 360 140 175
-------- -------- -------- --------
NET CASH PROVIDED BY OPERATING ACTIVITIES.......................... 13,553 3,130 19,051 2,268
-------- -------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisitions, net of cash................................................ (979) (962) (979) (34,198)
Capital expenditures..................................................... (10,919) (9,970) (21,136) (20,070)
Proceeds from sale of fixed assets....................................... 271 -- 280 --
-------- -------- -------- --------
NET CASH USED IN INVESTING ACTIVITIES.............................. (11,627) (10,932) (21,835) (54,268)
-------- -------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES
Increase (decrease) in book overdrafts................................... 1,057 (1,375) (2,227) (5,355)
Repayments of senior credit facility..................................... (2,597) (1,800) (2,597) (1,800)
Net borrowing on revolver................................................ -- 9,991 8,500 9,683
Proceeds from issuance of floating rate notes............................ -- -- -- 36,000
Proceeds from interest rate swap......................................... -- -- -- 4,364
Proceeds from contributions by Company................................... -- 5,000 -- 15,636
Repayments of capital lease obligations and other debt................... (503) (415) (1,081) (1,086)
Payment of fees associated with the financing............................ -- -- -- (748)
-------- -------- -------- --------
NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITES................. (2,043) 11,401 2,595 56,694
-------- -------- -------- --------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS..................... (117) 3,599 (189) 4,694
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD........................... 2,940 3,370 3,012 2,275
CASH AND CASH EQUIVALENTS, END OF PERIOD................................. $ 2,823 $ 6,969 $ 2,823 $ 6,969
======== ======== ======== ========
The notes are an integral part of these consolidated financial statements.
4
MUZAK HOLDINGS LLC
CONSOLIDATED STATEMENT OF CHANGES IN MEMBERS' INTEREST
(Unaudited)
(in thousands, except for units)
Accumulated
Current Year Other Total
Comprehensive Class A Class B Accumulated Comprehensive Members'
Loss Units Dollars Units Dollars Deficit Loss Interest
------------- -------- -------- -------- -------- ----------- ------------- --------
Balance at December 31, 2000......... -- 96,910 $110,680 12,810 $2,522 $ (80,964) -- $ 32,238
Comprehensive loss:
Net loss............................. (24,784) (24,784) (24,784)
Unrealized loss on derivative........ (2,811) (2,811) (2,811)
-------
(27,595)
Issuance of units.................... 35,512 35,512 (790) 10 35,522
Preferred return on preferred units.. -- (6,146) -- (694) -- -- (6,840)
------- -------- ------ ------ --------- ----------- --------
Balance at June 30, 2001............. 132,422 $140,046 12,020 $1,838 $(105,748) $(2,811) $ 33,325
======= ======== ====== ====== ========= =========== ========
The notes are an integral part of these consolidated financial statements.
5
MUZAK HOLDINGS LLC
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION
Muzak Holdings LLC and its subsidiaries ("the Company"), was formed in
September 1998 pursuant to the laws of Delaware. Muzak LLC, a wholly owned
subsidiary of the Company, provides business music programming to clients
through its integrated nationwide network of owned operations and franchises. As
of June 30, 2001, ABRY Partners, LLC and its respective affiliates collectively
own approximately 64% of the voting interests in the Company.
2. BASIS OF PRESENTATION
The condensed consolidated financial statements include the accounts of the
Company and its subsidiaries: Muzak LLC, Muzak Capital Corporation, Muzak
Finance Corporation, Muzak Holdings Finance Corporation, Business Sound Inc.,
Electro Systems Corporation, BI Acquisition LLC, MLP Environmental Music LLC,
Audio Environments Inc., Background Music Broadcasters Inc., Telephone Audio
Productions Inc., Vortex Sound Communications Company Inc., Music Incorporated,
and Muzak Houston, Inc. All significant intercompany items have been eliminated
in consolidation.
The accompanying unaudited interim consolidated financial statements have
been prepared in accordance with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X, and accordingly, certain financial information has been
condensed and certain footnote disclosures have been omitted. Such information
and disclosures are normally included in financial statements prepared in
accordance with generally accepted accounting principles in the United States.
For further information, refer to the consolidated financial statements and
footnotes thereto included in the Muzak Holdings LLC Annual Report on Form 10-K
for the fiscal year ended December 31, 2000.
The financial statements as of June 30, 2001 and June 30, 2000 and for the
three and six month periods then ended are unaudited; however, in the opinion of
management, such statements include all adjustments (consisting solely of normal
recurring adjustments) necessary for a fair statement of the financial
information included herein in accordance with generally accepted accounting
principles in the United States. The preparation of consolidated financial
statements in conformity with generally accepted accounting principles in the
United States requires management to make estimates and assumptions that affect
the reported amounts of assets and liabilities and disclosure of contingent
assets and liabilities at the date of the consolidated financial statements and
reported amounts of revenues and expenses during the period. Actual results
could differ from those estimates. Results of operations for interim periods are
not necessarily indicative of results for the full year.
Certain prior year items have been reclassified to conform with the 2001
presentation. Accounts receivable and advance billings have been reduced by the
amounts invoiced, but not received, in advance of the service period. Book
overdrafts have been reclassified as a financing activity on the statement of
cash flows.
6
MUZAK HOLDINGS LLC
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
3. PROPERTY AND EQUIPMENT
Property and equipment consists of the following (in thousands):
Useful June 30, December 31,
Life 2001 2000
(years) (Unaudited)
------------------------------------------------------
Equipment provided to subscribers.......................... 4-6 $ 110,453 $ 99,305
Capitalized installation labor............................. 5 41,686 33,341
Equipment.................................................. 5-7 17,103 16,945
Other...................................................... 3-30 14,972 13,832
---------- ----------
184,214 163,423
Less accumulated depreciation.............................. (67,626) (48,852)
---------- ----------
$ 116,588 $ 114,571
========== ==========
Depreciation expense was $9.8 million and $19.1 million for the quarter and
six months ended June 30, 2001, respectively, and $7.4 million and $14.0 million
for the quarter and six months ended June 30, 2000, respectively.
4. INTANGIBLE ASSETS
Intangible assets consist of the following (in thousands):
Useful June 30, December 31,
Life 2001 2000
(years) (Unaudited)
------------------------------------------------------
Goodwill................................................... 20 $ 158,643 $ 158,172
Income producing contracts................................. 8-14 154,166 153,485
License agreements......................................... 20 5,082 5,082
Deferred production costs.................................. 10 3,943 3,166
Trademarks................................................. 5 14,935 14,979
Non-compete agreements..................................... 2-7 24,869 24,604
Other...................................................... 5-20 17,110 17,024
---------- ----------
378,748 376,512
Less accumulated amortization.............................. (69,460) (51,968)
---------- ----------
$ 309,288 $ 324,544
========== ==========
Amortization expense was $8.5 million and $17.5 million for the quarter and
six months ended June 30, 2001, respectively, and $8.1 million and $15.5 million
for the quarter and six months ended June 30, 2000, respectively.
On May 31, 2001, the Company acquired Sound of Music, LTD ("Sound of
Music"), the Company's independent franchisee operating in Wisconsin. This
acquisition was accounted for using the purchase method of accounting.
7
MUZAK HOLDINGS LLC
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
5. DEBT
Debt obligations consist of the following (in thousands):
June 30, December 31,
2001 2000
(Unaudited)
--------------- ---------------
Revolving loan- Senior Credit Facility......................... $ 12,500 $ 4,000
======== ========
Related Party Notes............................................ -- 27,000
======== ========
Long term debt:
Senior Credit Facility........................................ 168,803 171,400
Senior Subordinated Notes..................................... 115,000 115,000
Senior Discount Notes......................................... 53,414 50,139
Other......................................................... 2,592 2,632
-------- --------
Total debt obligations......................................... 339,809 339,171
Less current maturities........................................ (6,023) (5,281)
-------- --------
$333,786 $333,890
======== ========
Senior Credit Facility
The Senior Credit Facility is guaranteed by the Company and certain 100%
owned subsidiaries. The non-guarantor subsidiary is minor and the consolidated
amounts in the Company's financial statements are representative of the combined
guarantors. The Senior Credit Facility contains restrictive covenants including
maintenance of interest, senior and total leverage and fixed charge ratios and
various other restrictive covenants which are customary for such facilities. In
addition, the Company is generally prohibited from incurring additional
indebtedness, incurring liens, paying dividends or making other restricted
payments, consummating asset sales, entering into transactions with affiliates,
merging or consolidating with any other person or selling assigning,
transferring, leasing, conveying, or otherwise disposing of assets. On May 15,
2001 the Company entered into the fifth amendment in which, among other things,
the parties amended the interest coverage ratios for the quarter ended March 31,
2001 and with respect to future periods.
The Senior Credit Facility consists of two term loan facilities (Term Loan
A and Term Loan B) and a revolving loan. Amounts outstanding on the Term Loan A
and Term Loan B loans were $25.9 million and $142.9 million, respectively, as of
June 30, 2001. Indebtedness under the Term Loan A and the Revolving Loan bear
interest at a per annum rate equal to the Company's choice of (i) the Alternate
Base Rate (which is the highest of prime rate and the Federal Funds Rate plus
.5%) plus a margin ranging from 1.50% to 2.50%; or (ii) the offered rates for
Eurodollar deposits ("LIBOR") of one, two, three, or six months, as selected by
the Company, plus a margin ranging from 2.50% to 3.50%. Margins, which are
subject to adjustment based on the changes in the Company's ratio of
consolidated total debt to Adjusted EBITDA (i.e., earnings before interest,
taxes, depreciation, amortization and other non cash charges) were 2.25% in the
case of Alternate Base Rate and 3.25% in the case of LIBOR as of June 30, 2001.
Based upon the Company's ratio of consolidated total debt to EBITDA as of June
30, 2001, upon delivering the quarterly financial statements and covenants to
the administrative agent, the margins will be lowered to 2.0% in the case of
Alternate Base Rate and 3.0% in the case of LIBOR. Indebtedness under the Term
Loan B bears interest at a per annum rate equal to the Company's choice of (i)
the Alternate Base Rate (as described above) plus a margin of 3.0%; or (ii)
LIBOR of one, two, three, or six months, as selected by the Company plus a
margin of 4.0%. The weighted average rate of interest on the Senior Credit
Facility, including the effects of the interest rate swap, at June 30, 2001 was
9.9%.
8
MUZAK HOLDINGS LLC
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
5. Debt (Continued)
Related Party Notes
On May 9, 2001 and May 24, 2001, $20.0 million and $7.0 million,
respectively, of the Related Party Notes borrowed from MEM Holdings LLC, as well
as $5.0 million and $1.7 million, respectively, of accrued interest, converted
into Class A units of the Company. MEM Holdings owns 64% of the voting interests
in the Company as of June 30, 2001. ABRY Broadcast Partners III and ABRY
Broadcast Partners II are the beneficial owners of MEM Holdings.
Senior Subordinated Notes
On March 18, 1999, Muzak LLC together with its wholly owned subsidiary,
Muzak Finance Corp., co-issued $115.0 million in principal amount of 9 7/8%
Senior Subordinated Notes ("Senior Notes") which mature on March 15, 2009.
Interest is payable semi-annually, in arrears, on March 15 and September 15 of
each year. The Senior Notes are general unsecured obligations of Muzak LLC and
Muzak Finance Corp. and are subordinated in right of payment to all existing and
future Senior Indebtedness of Muzak LLC and Muzak Finance Corp. The Senior Notes
are guaranteed by the Company, MLP Environmental Music LLC, Business Sound Inc.,
BI Acquisition LLC, Audio Environments Inc., Background Music Broadcasters Inc.,
Muzak Capital Corporation, Telephone Audio Productions Inc., Muzak Houston Inc.,
Vortex Sound Communications Company Inc., and Music Incorporated. Muzak LLC's
non-guarantor subsidiary is minor and the consolidated amounts in the Company's
financial statements are representative of the combined guarantors financial
statements. The indenture governing the Senior Notes prohibits Muzak LLC from
making certain payments such as dividend and distributions of their capital
stock, repurchases or redemptions of their capital stock, and investments (other
than permitted investments) unless certain conditions are met by Muzak LLC.
Before March 15, 2002, the issuers may redeem up to 35% of the aggregate
principal amount of the Senior Notes originally issued under the indenture at a
redemption price of 109.875% of the aggregate principal amount so redeemed, plus
accrued and unpaid interest to the redemption date, with the net proceeds of one
or more equity offerings if certain conditions are met. After March 15, 2004,
the issuers may redeem all or part of the Senior Notes at a redemption price
equal to 104.938% of the principal which redemption price declines to 100% of
the principal amount in 2007.
Senior Discount Notes
On March 18, 1999, the Company together with its wholly owned subsidiary
Muzak Holdings Finance Corp., co-issued $75.0 million in principal amount at
maturity, or $39.9 million in accreted value on the issue date, of 13% Senior
Discount Notes (the "Senior Discount Notes") due March 2010. Cash interest on
the Senior Discount Notes does not accrue and is not payable prior to March 15,
2004. The Senior Discount Notes were issued at a substantial discount from their
principal amount at maturity. Until March 15, 2004, the Senior Discount Notes
will accrete in value such that the accreted value on March 15, 2004 will equal
the principal amount at maturity of the Senior Discount Notes. From and after
March 15, 2004, interest on the Senior Discount Notes will accrue at a rate of
13% per annum. Interest will be payable semi-annually in arrears on each March
15 and September 15, commencing September 15, 2004, to holders of record of the
Senior Discount Notes at the close of business on the immediately preceding
March 1 and September 1.
9
MUZAK HOLDINGS LLC
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
5. Debt (Continued)
Annual Maturities of Debt
Annual maturities of debt obligations are as follows (in thousands):
2001.................................... $ 2,637
2002.................................... 6,773
2003.................................... 7,855
2004.................................... 27,742
2005.................................... 55,433
Thereafter................................ 251,869
Total interest paid by the Company on all indebtedness was $3.0 million and
$13.2 million for the quarter and six months ended June 30, 2001, respectively.
Total interest paid by the Company on all indebtedness was $6.8 million and
$17.8 million for the quarter and six months ended June 30, 2000, respectively.
Accrued interest payable was $6.8 million as of June 30, 2001 and June 30, 2000.
Interest Rate Swap Agreements
At June 30, 2001, the Company had in effect one interest rate swap
agreement required by its Senior Credit Facility, with a notional amount of
$100.0 million. Muzak's interest rate swap agreement requires Muzak to pay a
fixed rate and receive a floating rate, thereby creating fixed rate debt. The
agreement is designated as a hedge of interest rates, and the differential to be
paid or received on the swap is recorded as an adjustment to interest expense.
The fair value of the interest rate swap agreement representing the cash the
Company would pay to settle the agreement, was approximately $2.8 million at
June 30, 2001. There were no amounts of hedge ineffectiveness related to the
Company's interest rate swap and no gains or losses were excluded from the
assessment of hedge effectiveness. During the quarter and six months ended June
30, 2001, the interest rate swap agreement resulted in an increase to interest
expense of approximately $0.5 million and $0.8 million, respectively.
6. MUZAK FINANCE CORP.
Muzak Finance Corp. had no operating activities during the quarter and six
months ended June 30, 2001.
7. COMMITMENTS AND CONTINGENCIES
Litigation
The Company is involved in various claims and lawsuits arising out of the
normal conduct of its business. Although the ultimate outcome of these legal
proceedings cannot be predicted with certainty, the management of the Company
believes that the resulting liability, if any, will not have a material effect
upon the Company's consolidated financial statements or liquidity.
10
MUZAK HOLDINGS LLC
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
7. Commitments and Contingencies (Continued)
The industry wide agreement between business music providers and Broadcast
Music Inc. ("BMI") expired in December 1993. Since this time the Company has
been operating under an interim agreement pursuant to which the Company has
continued to pay royalties at the 1993 rates. Business music providers and BMI
have been negotiating the terms of a new agreement. The Company is involved in a
rate court proceeding, initiated by BMI in Federal Court in New York. At issue
are the music license fees payable by the Company and its owned operations as
well as licensed independent franchisees to BMI. The period from which such
"reasonable" license fees are payable covers the period January 1, 1994 to June
30, 2001, and likely several years thereafter. BMI contends that those fee
levels understate reasonable fee levels by as much as 100%. The Company
vigorously contests BMI's assessment. The eventual court ruling setting final
fees for the period covered will require retroactive adjustment, upward or
downward, likely back to January 1, 1994, and possibly will also entail payment
of pre-judgment interest. Discovery in the proceeding has commenced and is not
yet completed. A trial date has not been set.
The industry wide agreement between business music providers and American
Society of Composers, Authors and Publishers ("ASCAP") expired in May 1999.
Negotiations between ASCAP and the Company began in June 1999, and the Company
has continued to pay ASCAP royalties at the 1999 rates.
Other Commitments
As of June 30, 2001, the Company has approximately $34.1 million in
outstanding capital expenditure commitments over a five year period. The Company
is the lessee under various operating and capital leases for equipment,
vehicles, satellite capacity, and buildings for periods ranging from 2 years to
15 years. On January 1, 2001, the Company entered into a long term commitment to
lease additional transponder space from Microspace.
8. RECENTLY ANNOUNCED ACCOUNTING STANDARDS
Business Combinations and Goodwill and Other Intangible Assets
In July 2001, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 141, "Business Combinations" ("SFAS No.141")
and Statement of Financial Accounting Standards No. 142, "Goodwill and Other
Intangible Assets" ("SFAS No. 142"). SFAS No. 141 requires that all business
combinations be accounted for under the purchase method. The statement further
requires separate recognition of intangible assets that meet one of two
criteria. The statement applies to all business combinations initiated after
June 30, 2001.
SFAS No. 142 requires that an intangible asset that is acquired shall be
initially recognized and measured based on its fair value. The statement also
provides that goodwill should not be amortized, but shall be tested for
impairment annually, or more frequently if circumstances indicate potential
impairment, through a comparison of fair value to its carrying amount. Existing
goodwill will continue to be amortized through the remainder of 2001 at which
time amortization will cease and the Company will perform a transitional
goodwill impairment test. SFAS No. 142 is effective for fiscal periods beginning
after December 15, 2001. The Company is currently evaluating the impact of the
new accounting standards on existing goodwill and other intangible assets. While
the ultimate impact of the new accounting standards has yet to be determined,
goodwill amortization expense for the six months ended June 30, 2001 was $4.0
million.
11
MUZAK HOLDINGS LLC
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
8. Recently Announced Accounting Standards (Continued)
Derivatives and Hedging Activities
In June 1998, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards No. 133, "Accounting for Derivative
Instruments and Hedging Activities," ("SFAS No. 133"). Subsequently, SFAS No.
133 was amended by the issuance of Statement of Accounting Standards No. 137 and
Statement of Accounting Standards No. 138. These amendments modify the
provisions and effective date of SFAS No. 133. SFAS No. 133, as amended, is
effective for fiscal quarters beginning after January 1, 2001. The Company
adopted SFAS No. 133 on January 1, 2001.
The Company uses a derivative financial instrument for purposes other than
trading, such as hedging for long-term debt and does so to reduce its exposure
to fluctuations in interest rates, as dictated by its Senior Credit Facility.
The Company's derivative is recognized on the balance sheet at its fair value.
The hedge is 100% effective for exposures to interest rate fluctuations. As a
result of the 100% effectiveness of the hedge, changes in the fair value of the
derivative are recorded each period in other comprehensive income.
Comprehensive Income
Statement of Financial Accounting Standards No. 130, "Reporting
Comprehensive Income", ("SFAS No. 130") requires the display of comprehensive
income or loss and its components as part of the Company's full set of financial
statements. Comprehensive income or loss is comprised of net income or loss and
other comprehensive income or loss. Other comprehensive income or loss includes
certain changes in equity that are excluded from net income, such as translation
adjustments and unrealized holding gains and losses on available-for-sale
marketable securities and certain derivative instruments, net of tax.
Prior to January 1, 2001, the Company did not have any transactions that
qualified as comprehensive income or loss. Upon adoption of SFAS No. 133, on
January 1, 2001, the Company recorded other comprehensive loss to recognize at
fair value a derivative that is designated as a cash flow hedging instrument,
which is comprised of unrealized losses related to the Company's interest rate
swap of $1.6 million. This unrealized loss increased by $1.2 million during the
six months ended June 30, 2001 and the cumulative unrealized losses on the
Company's interest rate swap was $2.8 million as of June 30, 2001.
12
MUZAK HOLDINGS LLC
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This Form 10-Q contains statements which, to the extent they are not
historical fact, constitute forward-looking statements within the meaning of
Section 27A of the Securities Act of 1933 and Section 21E of the Securities and
Exchange Act of 1934 (the "Safe Harbor Acts"). All forward-looking statements
involve risks and uncertainties. The forward-looking statements in this Form 10-
Q are intended to be subject to the safe harbor protection provided by the Safe
Harbor Acts.
Risks and uncertainties that could cause actual results to vary materially
from those anticipated in the forward-looking statements included in this Form
10-Q include, but are not limited to, industry-based factors such as the level
of competition in the business music industry, competitive pricing,
concentrations in and dependence on satellite delivery capabilities, rapid
technological changes, the impact of legislation and regulation, as well as
factors more specific to the Company such as the substantial leverage and debt
service requirements, limitations imposed by the Company's debt facilities, the
Company's history of net losses, and the Company's ability to integrate
acquisitions, the Company's ability to obtain future financings to fund internal
growth, the Company's future capital requirements, the Company's dependence on
license agreements, and risks associated with economic conditions generally.
General
Muzak is the leading provider of business music programming in the United
States based on market share. We believe that, together with our franchisees, we
have a market share of approximately 60% of the estimated number of U.S.
business locations currently subscribing to business music programming. Together
with our franchisees, we have nationwide coverage and serve an installed base of
approximately 335,000 client locations.
Recent Developments
On May 31, 2001, the Company acquired Sound of Music, LTD ("Sound of
Music"), the Company's independent franchisee operating in Wisconsin.
Results of Operations
Set forth below are discussions of the results of operations for Muzak
Holdings LLC for the quarter and six months ended June 30, 2001 compared to the
quarter and six months ended June 30, 2000.
Revenues. Revenues for the second quarter of 2001 increased 5.7% to $50.7
million from the second quarter of 2000. Revenues for the six months ended June
30, 2001 increased 9.8% to $100.7 million, up $9.0 million from the comparable
2000 period. These increases are due to Muzak's growth in both Audio Marketing
and Audio Architecture clients resulting from both acquisitions and internal
growth, as well as the expansion of Muzak's drive-thru systems business. During
the twelve months ended June 30, 2001, through our sales and marketing efforts,
we added, net of churn, 22,000 Audio Architecture clients, 6,000 Audio
Marketing, and 3,000 drive-thru client locations. This increase from client
growth is partially offset by the loss of revenues due to the renegotiated
EchoStar agreement. During the six months ended June 30, 2000, the Company
recorded approximately $1.6 million of revenues, whereas no revenues were
recorded during the six months ended June 30, 2001.
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MUZAK HOLDINGS LLC
Item 2 Management's Discussion and Analysis (Continued)
Cost of Revenues. Cost of revenues was $16.9 million and $18.2 million for the
quarters ended June 30, 2001 and 2000, respectively, a decrease of 7.3%. Cost of
revenues for the six months ended June 30, 2001 decreased $0.4 million to $33.6
million as compared to the same 2000 period. Cost of revenues, as a percentage
of revenues was 33.3% and 36.3% for the quarters ended June 30, 2001 and 2000,
respectively, and 33.4% and 37.0% for the six months ended June 30, 2001 and
June 30, 2000, respectively. This improvement is due to the leveraging of fixed
costs over a larger client base resulting from acquisitions and internal growth
and headcount reductions taken in the second half of 2000, as well as a $1.6
million charge in the second quarter of 2000 recorded in connection with the
renegotiated EchoStar Agreement.
Selling, general and administrative expenses. Selling, general, and
administrative expenses were $17.1 million and $16.3 million for the quarters
ended June 30, 2001 and 2000, respectively, an increase of 5.3%. For the six
months ended June 30, 2001, selling, general and administrative expenses were
$35.1 million, compared to $30.5 million in the comparable 2000 period. This
increase is attributable to the one-time expenses of $0.7 million recorded in
the first quarter of 2001 related to the postponement of the senior subordinated
notes offering, as well as expenses associated with growth in revenues and the
increase in our owned operations resulting from acquisitions. Amortization of
deferred subscriber acquisition costs, a non-cash component of selling, general,
and administrative expenses, was $2.3 million and $1.4 million for the quarters
ended June 30, 2001 and 2000, respectively. Excluding the amortization of
deferred subscriber acquisition costs and excluding EchoStar revenues recorded
in the quarter ended June 30, 2000, selling, general, and administrative
expenses as a percentage of revenues were 29.3% and 31.5% for the quarters ended
June 30, 2001 and 2000, respectively.
Depreciation and amortization expenses. Depreciation and amortization was $18.5
million and $15.5 million for the quarters ended June 30, 2001 and 2000,
respectively, an increase of 19.1%. Depreciation and amortization was $36.8
million and $29.5 million for the six months ended June 30, 2001 and June 30,
2000, respectively. This increase is due to the growth in intangibles related to
the acquisitions consummated in 2000, along with the increase in property and
equipment in conjunction with Muzak's significant growth in the number of client
locations resulting from acquisitions and internal growth.
Interest expense. Interest expense, net of interest income, was $9.5 million and
$11.9 million for the quarters ended June 30, 2001 and 2000, respectively, a
decrease of 19.9%. Interest expense, net of interest income, decreased $2.6
million, or 11.2%, to $20.4 million for the six months ended June 30, 2001 as
compared to the six months ended June 30, 2000. The decrease in interest expense
is due to lower borrowing levels, the conversion of related party notes to
equity during the second quarter of 2001, as well as a decrease in interest
rates during 2001.
Income tax provision. The income tax provision (benefit) was ($0.2) million and
$40 thousand for the quarters ended June 30, 2001 and 2000, respectively. Muzak
is a limited liability company and is treated as a partnership for income tax
purposes.
Net Loss. The combined effect of the foregoing resulted in a net loss of $11.3
million for the quarter ended June 30, 2001, compared to a net loss of $14.4
million for the comparable 2000 period.
Liquidity and Capital Resources
During the six month period ending June 30, 2001, our principal sources of funds
have been borrowings under the revolving credit facility and cash generated from
operations. Cash provided from operations, before deferred subscriber
acquisition costs, was $17.5 million and $26.9 million in the quarter and six
months ended June 30 2001, respectively, an increase of $10.0 million and $16.1
million over the comparable periods of 2000. Cash
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MUZAK HOLDINGS LLC
Item 2 Management's Discussion and Analysis (Continued)
was used to make interest and principal payments, make investments in new client
locations, the acquisition of Sound of Music, and for general corporate
purposes. In connection with the Company's execution of the fifth amendment on
May 15, 2001, applicable margins were amended to reflect an across the board
increase of .5%. These new margin ranges are reflected in Note 5 to the
Consolidated Financial Statements.
We expect that our principal uses of funds from operating activities and
borrowings will be the funding of growth in new client locations, interest and
principal payments on indebtedness and net working capital increases. The
Company continues to explore various financing alternatives, which would provide
necessary liquidity for future organic growth and acquisitions. However, the
Company believes that the cash flows from operations and current borrowing
availability will be sufficient to fund operations and investments associated
with new client locations through June 30, 2002.
Capital Investments. The majority of our capital expenditures are comprised of
the initial one-time investment for the installation of equipment for new client
locations. During the six months ended June 30, 2001, the total initial
investment in new client locations was $27.2 million, which was comprised of
equipment and installation costs attributable to new client locations of $19.3
million and $7.9 million in deferred subscriber acquisition costs relating to
these new locations. The deferred subscriber acquisition costs are capitalized
in deferred charges and other assets, net, and are amortized as a component of
selling, general, and administrative expenses over the initial contract term of
five years. If a client's contract terminates early, the unamortized deferred
subscriber acquisition costs are typically recovered. We also receive
installation revenue relating to new locations. This revenue is deferred and
amortized as a component of equipment and related services over the initial
contract term of five years.
We currently anticipate that our total initial investment in new client
locations for the remainder of fiscal 2001 will be approximately $31.0 million,
including $21.2 million of equipment and installation costs attributable to new
client locations, and $9.8 million in deferred subscriber acquisition costs
relating to new client locations.
Debt Maturities. The current maturities of long-term debt primarily consist of
the current portion of the senior credit facility and other miscellaneous debt.
The maturities of long-term debt of our operations as of June 30, 2001 during
the remainder of 2001 and 2002, 2003, 2004, 2005, and thereafter are $2.6
million, $6.8 million, $7.9 million, $27.7 million, $55.4 million, and $251.9
million, respectively.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
For the period ended June 30, 2001, the Company did not experience any
material changes in market risk disclosure that affect the quantitative and
qualitative disclosures presented in the 10-K.
PART II - OTHER INFORMATION
ITEM 1. Legal Proceedings.
There have been no material developments in legal proceedings involving the
Company since those reported in the Company's Report on Form 10-K for fiscal
year ended December 31, 2000.
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MUZAK HOLDINGS LLC
Item 2 Management's Discussion and Analysis (Continued)
ITEM 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
Exhibit
Number Description
- ------ -----------
10.1 Amended and Restated Executive Employment Agreement, dated as of March
16, 2001, among Muzak Holdings LLC, Muzak LLC, and William A. Boyd.
(b) Reports on Form 8-K
During the quarter ended June 30, 2001, the Company filed no reports
on Form 8-K.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrants have duly caused this report to be signed on their behalf by the
undersigned thereunto duly authorized.
MUZAK HOLDINGS LLC
MUZAK HOLDINGS FINANCE CORP.
By: /s/ William A. Boyd
---------------------------------
Date: August 14, 2001 William A. Boyd
Chief Executive Officer
(Principal Executive Officer)
By: /s/ Stephen P. Villa
---------------------------------
Date: August 14, 2001 Stephen P. Villa
Chief Financial Officer
(Principal Financial
Officer and Chief
Accounting Officer)
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