UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
ANNUAL REPORT UNDER SECTION 13 OR 15(d)
OF THE SECURITIES AND EXCHANGE ACT OF 1934
For the year ended December 31, 2001
Commission File Number 0-27505.
CTC COMMUNICATIONS GROUP, INC.
(Exact name of registrant as specified in its charter)
Delaware 04-3469590
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
220 Bear Hill Rd., Waltham, Massachusetts 02451
(Address of principal executive offices) (Zip Code)
(781) 466-8080
(Registrant's telephone number including area code)
Securities registered pursuant to Section 12(b) of the Act:
None.
Securities registered pursuant to Section 12(g) of the Act:
Common Stock.
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
IV of this Form 10-K or any amendment to this Form 10-K. [X]
Based on the closing sale price on March 25, 2002, the aggregate
market value of the voting stock held by non-affiliates of the
Registrant was approximately $54,941,952.
At March 22, 2002, 27,112,555 shares of the Registrant's Common
Stock were outstanding.
PART I
GENERAL
At the Annual Meeting of our Board of Directors held on July 27, 2000, we
changed our fiscal year from a twelve month period ending March 31 of each
year to a twelve month period ending December 31 of each year.
ITEM 1. BUSINESS
Overview
We are a growing single-source provider of voice, data and Internet
Communications services, (an integrated communications provider, or ICP)
with 18 years of marketing, sales and service experience. We predominantly
target medium and larger-sized business customers who seek greater capacity
for voice and data traffic. We are a single provider for their
telecommunications requirements and we offer improved levels of service.
We became an integrated communications provider in January 1998. Prior to
that, we were the largest independent sales agent for NYNEX Corp. and then
Bell Atlantic (now Verizon), based on agency revenues measurements. At the
end of 1997, before withdrawing from the Verizon agency program, we were
managing relationships for approximately 7,000 customers, representing over
280,000 local access lines and over $200 million in annual local
telecommunications spending. As of December 31, 2001, we were serving over
15,000 customers and had 589,000 access lines and equivalent circuits, or
ALEs. ALEs are the total number of voice circuits and equivalent data
circuits we have in service. Voice circuits are the actual number of voice
circuits purchased by our customers. Equivalent data circuits represent the
data transmission capacity purchased by our customers divided by 64 kilobits
per second, which is the capacity necessary to carry one voice circuit.
As of December 31, 2001, our large, experienced sales force consists of 173
account executives supported by 174 network coordinators. Our sales force is
located close to our customers in 26 sales and service offices principally in
the Northeast and Mid-Atlantic states.
We currently operate our own state-of-the-art network facilities to carry
telecommunications traffic. This PowerPath(sm) Network uses packet-
switching, a technology that transmits data in discrete packages and uses
Internet protocol (IP), which is a method that allows computers with
different architectures and operating systems to communicate over the
Internet, and asynchronous transfer mode, or ATM, architecture. This permits
the network to transmit multiple types of media, such as voice, data,
Internet access and video with various levels of Quality of Service, or QOS.
The first phase of our network became operational for full production mode in
January 2000. We interconnect our facilities over 8,000 fiber route miles on
our own fiber, through fiber optic cable strands acquired over a 20-year
indefeasible right of use, or IRU, from Williams Communications, and from
other regional and metro fiber carriers. We have selected Cisco to provide
the Wavelength Digital Multiplexing (WDM) and SONET technology to activate or
light up the fiber and complete what we believe is a highly competitive,
scalable and secure fiber transport infrastructure. Cisco has reviewed and
certified our network design and has designated our network as a Cisco
Powered Network. We currently utilize a combination of both leased and
company-owned fiber facilities.
In September 1999, we initiated commercial service and as of December 31,
2001 we were servicing more than 5,300 customer locations with our
PowerPath(sm) Network across the Northeast and Mid-Atlantic states. In
December 2000, we announced completion of a successful Class-4/5 pilot phase
using a softswitch from Telcordia Technologies. The softswitch technology
integrated with our PowerPath(sm) Network allows us to deliver both local and
long distance voice services using a Voice over IP (VoIP) packet based
network. In 2001, the Company also introduced a suite of Hosting Solutions.
These E-business and business continuity (continuous systems uptime) services
consist of web hosting, Internet/WAN collocation and Data Center Storage
Networking.
Our Services
Local Telephone Services. We offer connections between our customers'
telecommunications equipment and the local telephone network which we lease
from incumbent phone companies in most instances. For large customers or
customers with specific requirements, we integrate their private systems with
analog or digital connections. We also provide all associated call processing
features as well as continuously connected private lines for voice
interconnectivity between separate facilities. We are now actively engaged in
activating local dial tone services using the Company's PowerPath(sm) Network
through the use of softswitch technology developed by Telcordia Technologies.
We will continue to rollout local dial tone services market by market
throughout 2002 as an addition to our existing converged product portfolio.
We also offer local telephone services through resale of the incumbent local
exchange carrier (ILEC) service.
Long Distance Telephone Services. We offer a full range of domestic and
international long distance services, including "1+" outbound calling,
inbound toll free service, and standard and customized calling plans. We also
offer related services such as calling cards, operator assistance and
conference calling.
High Speed Data Services. We offer a wide array of high speed data
services. Our portfolio includes Frame Relay as well as point to point
solutions from 56kbps to 45mbps.
Internet Services. We have built an extensive IP network infrastructure for
our PowerPath(sm) Network. We became registered as an official Internet
Service Provider, or ISP, in 2000, which enabled us to deliver Internet
access to our customers as part of our PowerPath(sm) Network converged
services offering. We launched our iMail web based email product during the
summer of 2000 and plan to further expand this offering to include unified
messaging services. We provide the necessary configuration support and other
network support services on a 24-hour,7-day a week basis. We offer Internet
access from 56k to 45mbps to our business customers.
Hosting Services. We provide web hosting services via our Springfield,
Massachusetts Data Center opened in early 2001 and through our Advanced
Technology Center (ATC) in Waltham, Massachusetts opened in September 2001.
The ATC is a 50,000 square foot state of the art data center that houses our
Eastern Massachusetts Super Node for the PowerPath(sm) Network and an
Internet/WAN Collocation Center. We currently offer customers hosting
solutions that include shared and dedicated web hosting and web site design
services, Internet/WAN collocation services and data center storage
networking services. In 2002, we plan to offer network attached storage and
remote data archiving services, and optical networking services for storage
area networking and other high bandwidth applications. These services have
been designed and released to support our customers' growing E-business and
business continuity (continuous systems uptime) requirements. We currently
support approximately 200 web sites for customers at our ATC in Waltham,
Massachusetts. In addition, we also support 15 Internet/WAN collocations
customers that utilize some or all of our complete suite of Hosting
Solutions. We are also engaged in the further analysis and potential
development of services such as managed firewall and monitoring service, data
security, and other network operating system support services.
Our Integrated Communications Network, or PowerPath(sm) Network
We began deploying the first phase of our state-of-the-art, packet-switched
network, the PowerPath(sm) Network, in January 1999. Today, our network is
fully operational providing customers with integrated broadband services
including voice, data, Internet access and access to web related services
over a single connection. We offer a broad array of sophisticated services
over our network including Class-4/5 switching, which provides customers with
local and long distance voice calling capabilities. Our packet-based network
infrastructure enables us to improve our margins, enhance network and service
quality and broaden our range of product and value added service offerings.
Our network services result in a more dynamic solution for our customers
providing them with better performance at less cost and it has also
demonstrated the ability to stimulate additional demand for new value added
services.
The open architecture of our PowerPath(sm) Network gives us the opportunity
to integrate new and emerging technology to meet our customers' increasing
demands for high capacity and reliable voice, data, Internet access and web-
based services. The network utilizes Cisco ESR/GSR and Cisco BPX/MGX 8850 IP
+ ATM routers/switches, which we believe are the most reliable and proven
method to handle all types of data, voice, Internet and video traffic. By
building out our own fiber infrastructure, switches and hubs are now
consolidated in major regional locations called Super Nodes. Connectivity to
customers is provided over protected SONET rings that expand to serving
Central Offices (COs), improving service reliability, increasing bandwidth
and at the same time reducing leased circuit costs in the middle mile. T1s,
multiple T1s using Inverse Multiplexing for ATM (IMA), DS3s or OCN services
are then extended from the COs to customer sites covering the last mile.
We believe our packet switched network is superior to the existing circuit
switched network used by our competitors. The basic voice technology within
the existing telephone-switching network has not changed for many years while
data technology has advanced dramatically. Circuit switch technology
dedicates a fixed amount of capacity for each voice line. In a packet
switched environment, there is no single dedicated circuit and both voice and
data information is broken apart and turned into packets that share a common
facility. They are then mixed with other types of data communications and
then reassembled at the end.
Our ability to transmit via packets provides for superior network utilization
and results in the ability to transmit more information through a similar
channel. As a result, more information, i.e. voice and data, is transported
at a lower cost and more efficiently with the ability to provide multiple
levels of QOS.
We are currently offering local dial tone (where we have elected to offer
it), long distance voice, data and Internet services over our network. We
introduced local dial tone in the first quarter of 2001, which will enable us
to provide all of our customer services on the PowerPath(sm) Network. The
customer does not have to disconnect from the local phone company and then
reconnect onto our network. The transition of the customer from the local
phone company's voice services to our network requires only some minor wiring
at the customers location and the reprogramming of the customer's system to
direct local voice service traffic to our equipment. This strategy enables
customers to keep existing phone numbers and enjoy the built-in redundancy of
the separate physical connection to the local phone company.
Adding Our Owned Fiber to the Powerpath(sm) Network
With the objective to achieve competitive transport capacity and improve time
to market of our PowerPath(sm) Network and value added services, we launched
a major Company owned dark fiber program in early 2000. The initial phase of
the fiber program covers our current footprint in the Northeastern United
States continuing through the Mid-Atlantic region. The buildout of these
segments is nearing completion, with all major segments expected to be
completed in the fall of 2002.
Our fiber network incorporates technology that is based on carrier class
optical networking equipment, specifically Cisco's ONS 15454, 15327
Synchronous Optical Network, or SONET, switches, and Cisco's ONS 15800 Dense
Wave-link Multiplexing, or DWM, switches.
In 2000 and early 2001, we entered into several agreements with metro and
regional fiber carriers to provide connections for the middle and, where
possible, last mile connections to the customer. These network build outs are
a continuation of our long-haul transport infrastructure making use of the
same WDM/SONET technology. Our metro and regional fiber program is designed
to expand outward from the 8,300 route miles of fiber purchased from Williams
Communications and connect to core ILEC CO's. By lighting the fiber closer to
our customers and operating a greater percentage of the facilities on which
customer traffic is routed, we are able to improve provisioning intervals,
more efficiently maintain the PowerPath(sm) Network, reduce dependency on the
local telephone company and improve margins. The long haul, regional and
metro fiber facilities of our network will allow for consolidation of
equipment and collocation resources. This cost saving measure, referred to as
the Super Node program, permits centralization of service inventory spares,
efficient monitoring of network elements and fewer points of failure, while
maintaining robust security, redundancy and area for expansion. It also
results in reduced expense associated with Point of Presence (POP)
collocation and leased circuits.
Sales and Customer Care
We market telecommunications services by developing long-term business
relationships with our customers and offering them comprehensive management
of their telecommunications requirements. Each customer is supported by a
dedicated local account team led by the Sales Account Executive and backed by
the customer service team that includes a Network Coordinator and Branch
Operations Management and a technical support team. This team works with the
customer to design, implement and maintain an integrated telecommunications
solution. The team also reviews the customer's services on a regular basis
through on-site meetings and, based upon changes in the customer's needs or
available technologies, recommends updates in order to make the best use of
currently available products and services. We believe that providing
localized, proactive high quality customer care promotes continued sales of
new services and reduces customer churn.
Sales and Service Infrastructure
Our 26 branch offices are currently staffed with over 450 individuals,
representing approximately 64% of our employees. As of December 31, 2001,
there were 200 Sales and Sales Management, 210 Service and Service
Management, 20 Field Technical Support and 20 Branch Administrators serving
markets in Maine, New Hampshire, Vermont, Massachusetts, Rhode Island,
Connecticut, New Jersey, New York, Pennsylvania, Maryland, Washington D.C.
and Virginia.
Customer Sales and Service Model
At the initial meeting with a prospective customer, our Account Executives
first obtain a detailed understanding of the customer's business, including
their method of operations, a description of their short and long-term
business plans and the communications challenges they currently face. A
thorough, detailed inventory of the customer's current communications
services and costs is prepared and analyzed. We then present a
communications solution to our customer based on our analysis of their
business and goals. We outline options and recommendations designed to
eliminate unnecessary expense, implement new services to improve the
functional and financial performance of their network and position them for
future business or technology requirements. Account Executives also review
with the customer the benefits of our comprehensive, ongoing account
management program which includes timely responses to daily customer needs,
and a proactive approach of keeping the customer informed of industry
changes. We believe the relationship-intensive approach of assigning both
Account Executives and Network Coordinators to each customer account results
in high customer satisfaction and retention rates.
Our Account Executives regularly participate in training programs on subjects
such as solution-oriented sales, comprehensive customer care, network design
and other technical features of our services. We seek to motivate and retain
our Account Executives through extensive training and a commission structure
that supports our relationship oriented sales and service policies and
rewards on-net, on our own facilities, account growth and customer retention.
Customer Care
Our Network Coordinators are the first line of support for our customers.
They are thoroughly trained in each of the Company's service offerings and
are responsible for customer care. Network Coordinators are located in each
of our sales and service branches and are responsible for customer accounts
in direct support of the sales executives. Each sales representative keeps
informed of the unique needs and aspects of each individual customer to whom
they are assigned. Our localized, multi-step account management process
provides an ongoing and comprehensive service program to our customers. This
process ranges from long-term consultative planning to prompt and responsive
handling of service issues.
Our customer care program is designed to provide prompt action in response to
customer inquiries and complaints. The local sales branches are staffed 11
hours a day, 5 days a week. At other times, incoming calls are automatically
connected to a central customer care center which is staffed 24 hours a day,
7 days a week. We believe that our Network Coordinators are motivated to
provide the highest level of customer care since a significant portion of
their compensation is based on customer retention and satisfaction.
Our Information Systems
Our information systems include five central applications which fully
integrate our sales and account management, customer care, provisioning,
billing and financial processes. Automation of each of these processes is
designed for high transaction volumes, accuracy, timely installation,
accurate billing feeds and quality customer service, all done in a secure
environment. Data entered in one application is generally exported into all
other applications. Each branch office is connected via wide area data
connections to the central processor. Our employees have online access to our
information systems from their branch personal computers or laptop computers
as well as remote access through our Virtual Private Network (VPN).
We also installed an electronic interface to most of our major suppliers.
When a sales executive wishes to place an order, our information systems
electronically direct it to the appropriate supplier and monitor any delays
in provisioning the order. Once the order is provisioned, our information
systems automatically remove it from the in-process order file, update the
customer's service inventory and network configuration, initiate billing,
post the sales executive's commission and update our financial reports.
Our information systems include the following applications:
Account and Sales Management. Our account management application is the hub
of our information systems. It stores all of our customer-related
information, such as installed services location detail, contact information,
transaction history and account profile. Our account management application
also automatically exports data to our customized sales application. Our
sales application is a fully-integrated database that provides sales
personnel with access to information for pricing services, customized sales
proposals, customer correspondence, sales performance, referencing methods
and procedures, service descriptions, competitive information and historical
profiles of our current and prospective customers. These historical profiles
include details of installed services, recent transactions and billing
history. Our sales system can be used both on- and off-line while maintaining
a secure environment. All entries made while off-line are automatically
updated to the central processor and all relevant data is simultaneously
exported to the other central applications each time a salesperson connects
to the network.
Customer Care. Our Network Coordinators use our account care application to
review installed services, make additions, changes and deletions to accounts,
initiate and track repair and service work and review past billing for any
customer. This closed loop application provides automatic follow up and
records all transactions in a customer history file. Service orders and
repair requests input in our account care application are automatically
exported into our provisioning application.
Provisioning. We generally direct customer orders through our provisioning
application electronically to our major suppliers. We track these orders
through our account care application from initiation through completion.
Order information is entered by the account team at each branch and then
forwarded for technical design review. When we provide PowerPath(sm) Network
services to a customer, we first develop a voice and data plan for that
customer's location and determine the appropriate broadband access facility
(T1 or multiple T1s) necessary to accommodate all of those services. Upon
design acceptance, an Access Service Request (ASR) is issued to a local
service provider to provision the PowerPath(sm) Network access connection.
This interval is from the local service provider and currently averages 20
days. Upon electronic receipt of the Firm Order Confirmation (FOC), the
installation and services appointment is scheduled. Network Coordinators are
notified of the date and they coordinate that date with the customer. Two
days before installation, network addresses and services are assigned
throughout the network and the Integrated Access Device (IAD) is programmed
and shipped to the installation depot. On the FOC date, the access service
is tested prior to acceptance. The following day, the IAD is installed and
the customer's services are activated. When the IAD at the customer's
location is connected to the customer's phone system, this puts voice
services on our PowerPath (sm) Network and the connection of the customer
routers puts data and Internet services on our network. With the use of fiber
within our PowerPath(sm) network, the total interval from receipt of customer
order to service activation now approaches 30 days. If any delay in the
process occurs, our information system alerts the sales and service team who
then have the ability to take corrective action and also notify the customer
of a possible delay. Once the order has been filled the information is
automatically fed to our billing application.
Billing and Customer Interface. Our billing application gives us the
ability to provide our customers a single bill for all the services they
purchase from us. Our billing application also allows the customer to review
historic bill detail, perform customized usage analyses and download
information directly to their own accounting applications. Using a secure
Web-based application called IntelliVIEW(sm), our customers have near real-
time online access to our billing application and are able to review and
analyze their bills and related information with many useful features
including:
Call summary Time of day analysis
Call detail Day of week analysis
Click-a-Bill drill down Location summary and analysis
Line usage summary Group summary and analysis
Expensive call breakdown e-mail notification of billing
Frequent call breakdown Unlimited query capability
Watchdog threshold monitoring
Customer billing statements are also available for electronic download or on
paper. Paper statements generated by our billing application offer our
customers different management formats.
Financial. Data from our billing application is electronically
transferred to our financial application. Our financial application is
used to track and prepare reports on sales activity, commissions, branch
operations, branch profitability and cash flows. The financial
application also compiles this data for our periodic financial reports.
In addition, this application provides internal controls for revenue
tracking and costing. The integrated nature of our information systems
allows us to operate each branch as a separate cost center.
Our Information Management Platform (IMP) is built on a N-Tiered
Architecture. Tier One covers the Data Mart built on Oracle and EMC
storage technology. Tier Two to Tier Four successively provide the
Business Systems layer including the Operating Support System from
Metasolv (OSS), the Network Management Systems layer (NMS), the Element
Management Systems (EMS) and the Portal layer. Tier Two to Four are
interconnected with Tier-One through a Tibco Data Bus. Finally Tier-Five
is the client Tier, a web based client allowing our employees, partners
and customers to access information with various levels of authorizations
using Windows, Windows NT or web browsers. Our IMP is built on a state-
of-the-art, open standard architecture providing a high level of
reliability, flexibility and scalability to accommodate future growth.
The IMP is fully redundant as all business critical information is
mirrored between our dual data centers (Springfield and Waltham). Most
systems are running on SUN-Microsystems(tm) and UNIX(tm). Furthermore, we
are building flow-through provisioning capabilities integrating our
packet based network with our IMP, finalizing our vision of creating an
IP and web centric services platform that will ultimately allow our
customers to self-serve their services activity from the Internet.
Competition
Competition from Single-Source Providers.
We operate in a competitive environment and have a relatively small
market share in each market in which we operate. We face substantial
competition from a variety of data transport, data networking and
telephony service providers. We face competition from single-source
providers and from providers of each individual telecommunications
service. Many of these competitors are larger and better capitalized than
we are. Many of our competitors are incumbent providers, with long
standing relationships with their customers and greater brand name
recognition.
Verizon is a competitor for local, voice and data services. We expect
that based on regulatory developments, Verizon will increasingly be a
competitor for long distance services as well. For example, Verizon was
granted authority by the FCC under Section 271 to provide in-region
interLATA services, including long distance services, in New York state,
Massachusetts and Rhode Island. Verizon also has applications pending
before the FCC to provide in-region interLATA services in Vermont, Maine,
New Jersey, and New Hampshire that may be approved in 2002. SBC
Communication, Inc.'s affiliate, The Southern New England Telephone
Company, is a major competitor in Connecticut for local, long distance
and data services. Competitors in our markets for single source solutions
include Choice One and Time Warner Telecom. Competitors for our data
services also include AT&T Local, Sprint and Worldcom. Our competitors
for long distance services include all the major carriers such as AT&T,
Worldcom and Sprint.
Under the Telecommunications Act of 1996, or Telecom Act, the Regional
Bell Operating Companies or the Regional Bell Operating Companies (RBOCs)
are permitted to provide interLATA long distance service outside those
states in which they have traditionally provided local exchange service
("out-of-region" long distance service) upon receipt of the necessary
state and/or federal regulatory approvals that are otherwise applicable.
The RBOCs are permitted to provide long distance service within the
regions in which they traditionally provided local exchange service ("in-
region" long distance service) on a state-by-state basis upon approval of
the FCC and based upon a finding that the RBOC has complied with the 14-
point checklist outlined in Section 271 of the Telecom Act. This 14-point
checklist is designed to ensure that competitors have the ability to
provide local telephone services in competition with the RBOC. Once the
RBOCs are allowed to offer in-region long distance services under the
terms of Section 271 of the Telecom Act, they will be in a position to
offer local and long distance services similar to the services we offer
and will likely become more effective competitors. Verizon was the first
RBOC permitted to provide in-region long distance services when its
Section 271 application for New York was approved in 1999. SBC is also
permitted to offer in-region long distance services in Connecticut,
because its operating subsidiary there was not part of the Bell system.
Verizon and other RBOCs are expected to continue to apply for authority
to provide in-region long distance services during the coming year.
Although the Telecom Act and other federal and state regulatory
initiatives will provide us with new business opportunities, as
competition increases regulators are likely to provide the incumbent
local exchange carriers with more pricing flexibility. Our revenues may
be adversely affected if the ILECs elect to lower their rates and sustain
these lower rates over time. We believe that we may be able to offset the
effect of lower rates with the capital and operating efficiency of our
network and by offering new services to our target customers, but we can
provide no assurance that this will occur. In addition, if future
regulatory decisions give ILECs increased pricing flexibility or other
regulatory relief, such decisions could have a material adverse effect on
our business.
Competition for Provision of Local Exchange Services. In the local
exchange market, ILECs, including RBOCs, continue to hold near-monopoly
positions. We also face competition or prospective competition from one
or more integrated communications providers, and from other competitive
providers, including providers who do not own their own network. Many of
these competitors are larger and better capitalized than we are. Some
carriers have entered into interconnection agreements with ILECs and
either have begun, or in the near future likely will begin, offering
local exchange service in each of our markets. As of February 8, 1999,
the largest long distance carriers were permitted to bundle local and
long distance services. This removes one of our competitive advantages.
Other entities that currently offer or are potentially capable of
offering switched services include cable television companies, electric
utilities, other long distance carriers, microwave carriers, and large
customers who build private networks.
Wireless telephone system operators are also competitors in the
provisioning of local services. Cellular, personal communications
service, and other commercial mobile radio services providers may offer
wireless services to fixed locations, rather than just to mobile
customers. This ability to provide fixed as well as mobile services will
enable wireless providers to offer wireless local loop service and other
services to fixed locations (e.g., office and apartment buildings) in
direct competition with us and other providers of traditional fixed
telephone service. In addition, the FCC has auctioned substantial blocks
of spectrum for fixed use including local exchange services.
Competition for Provision of Long Distance Services. The long distance
market is significantly more competitive than the local exchange market.
In the long distance market numerous entities compete for the same
customers. In addition, customers frequently change long distance
providers in response to lower rates or promotional incentives by
competitors. This results in a high average rate of customer loss, or
churn, in the long distance market. Prices in the long distance market
have declined significantly in recent years and are expected to continue
to decline. Competition in this market will further increase as RBOCs are
permitted to offer in-region long distance services.
Data and Internet Services. The market for high speed data services and
access to the Internet is highly competitive. We expect competition in
this market to continue to intensify. Our competitors in this market will
include Internet service providers and other telecommunications
companies, including large interexchange carriers and RBOCs. Many of
these competitors have greater financial, technological and marketing
resources than those available to us.
Hosting Solutions. The competitive landscape for Hosting Solutions has
changed over the past year. Certain Phase one Collocation Companies have
failed, giving way to Telecom Services Providers, like CTC, offering E-
Business and Business Continuity Services in conjunction with a powerful
voice/data communication network and associated services. The main
competition in this area comes from Worldcom, Sprint, AT&T, and Genuity.
In addition there are other Collocation Companies that offer these
services. End users are looking for single source providers of
communications infrastructure services that include Web Hosting,
Internet/WAN Collocation, and a variety of managed Data Storage services.
End users look to their Hosting Services provider to partner with
Applications Support Providers (ASP's) that can support Network Operating
Systems, Client Server Desktop to Enterprise software applications, and
ongoing software and help desk support. End users focus on E-business and
Business Continuity is driving them to buy these services from their
telecom services provider who have built their reputation and services
portfolio based on doing business on the Internet and guaranteed uptime
of services through Service Level Agreements (SLA's).
Government Regulation
The local and long distance telephony services and, to a lesser extent,
the data services we provide are regulated by federal, state, and, to
some extent, local government authorities. The FCC has jurisdiction over
all telecommunications common carriers to the extent they provide
interstate or international communications services. Each state
regulatory commission has jurisdiction over the same carriers with
respect to the provision of intrastate communications services. Local
governments sometimes impose franchise or licensing requirements on
telecommunications carriers and regulate construction activities
involving public rights-of-way. Changes to the regulations imposed by any
of these regulators could have a material adverse effect on our business,
operating results and financial condition.
In recent years, the regulation of the telecommunications industry has
been in a state of flux as the United States Congress and various state
legislatures have passed laws seeking to foster greater competition in
telecommunications markets. The FCC and state utility commissions have
adopted many new rules to implement this legislation and encourage
competition. These changes, which are still incomplete, have created new
opportunities and challenges for us and our competitors. The following
summary of regulatory developments and legislation is not intended to
describe all present and proposed federal, state and local regulations
and legislation affecting the telecommunications industry. Some of these
and other existing federal and state regulations are the subject of
judicial proceedings, legislative hearings and administrative proposals
which could change, in varying degree, the manner in which this industry
operates. We cannot predict the outcome of these proceedings, or their
impact on the telecommunications industry at this time.
Federal Regulation
Except with respect to access charges (see below), we are not subject to
price cap or rate of return regulation at the federal level and we are
not currently required to obtain FCC authorization for the installation,
acquisition or operation of our domestic interexchange network
facilities. However, we must comply with the requirements of common
carriage under the Communications Act. We are subject to the general
requirement that our charges and terms for our telecommunications
services be "just and reasonable" and that we not make any "unjust or
unreasonable discrimination" in our charges or terms. The FCC has
jurisdiction to act upon complaints against any common carrier for
failure to comply with its statutory obligations.
Comprehensive amendments to the Communications Act were made by the
Telecom Act, which was signed into law on February 8, 1996. The Telecom
Act effected changes in regulation at both the federal and state levels
that affect virtually every segment of the telecommunications industry.
The stated purpose of the Telecom Act is to promote competition in all
areas of telecommunications.
The FCC is charged with establishing national guidelines to implement
certain portions of the Telecom Act. The FCC issued its interconnection
order on August 8, 1996. On July 18, 1997, the United States Court of
Appeals for the Eighth Circuit issued a decision vacating the FCC's
pricing rules, as well as certain other portions of the FCC's
interconnection rules, on the grounds that the FCC had improperly
intruded into matters reserved for state jurisdiction. On January 25,
1999, the Supreme Court largely reversed the Eighth Circuit's order,
holding that the FCC has general jurisdiction to implement the local
competition provisions of the Telecom Act. In so doing, the Supreme
Court states that the FCC has authority to set pricing guidelines for
unbundled network elements or UNE, to prevent ILECs from disaggregating
existing combinations of network elements, and to establish "pick and
choose" rules regarding interconnection agreements. The FCC's "pick and
choose" rules permit a carrier seeking interconnection to "pick and
choose" among the terms of service from other interconnection agreements
between the ILECs and other competitive local exchange carriers. This
action reestablishes the validity of many of the FCC rules vacated by the
Eighth Circuit.
In its July 18, 2000 decision, the United States Court of Appeals for the
Eighth Circuit vacated the FCC's rule regarding the methodology for
calculating the discount rate at which ILECs must resell retail
telecommunications services to competitors, and remanded that rule to the
FCC. That order is now final. As a result of this decision we could
experience reduced margins on the ILEC services that we resell. In fact,
as a result of this decision, Verizon has proposed to reduce the discount
rate available to use and other resellers in Massachusetts from
approximately 25% to approximately 14%. We and other resellers have
challenged this proposed reduction in a proceeding before the
Massachusetts Department of Telecommunications and Energy, but there is
no assurance that our challenge will be successful.
In the meantime, the FCC began a review in December 2001 of its rules
regarding the unbundling of network elements. Some telecommunications
carriers, particularly the ILECS, have argued that this list of elements
should be reduced. In particular, they propose that any elements that
CLECs use to provide highspeed data services should not be provided at
cost-based rates. Moreover, there are some carriers, including some
CLECS, who have proposed new limits on ILEC obligations to provide
unbundled interoffice transport and unbundled switching in many areas.
If certain network elements are no longer available, we will need to
either provide these elements, which would increase costs, or forego the
opportunity to provide service to certain customers, which would reduce
revenues. We believe that the FCC will decide this issue sometime in
2002.
There is also legislation pending in Congress that would also limit CLEC
access to certain unbundled network elements, House Bill H.R. 1542 (the
"Tauzin-Dingell bill") would prohibit state or federal regulation of
high-speed data services, with the effect that ILECs would no longer be
required to provide unbundled elements at cost-based rates (if at all) if
those elements were to be used to provide high-speed data services.
Votes on this bill are expected in 2002. The implications of this bill
are broad and not entirely predictable at this point. Again, if certain
network elements are no longer available, we will need to either provide
these elements, which would increase costs, or forego the opportunity to
provide service to certain customers, which would reduce revenues.
In December 2001, the FCC also initiated several proceedings that
together will determine the key terms and conditions under which ILECs
may provide broadband services, including a review of what UNEs ILECs
must make available to CLECs for provision of broadband and other
services. These proceedings will examine whether ILECs should be treated
as "non-dominant" in the broadband telecommunications marketplace. This
proceeding will set the overall framework under which ILECs may provide
broadband services while at the same time determining how CLECs will be
able to provide broadband services using UNEs. If ILECs are determined
to be non-dominant in the provisioning of broadband services, it is
possible that they will be given more competitive pricing flexibility,
which could decrease our margins on these types of services. Moreover,
the ILECs may no longer provide us with UNEs for our broadband services,
which may increase our costs. At this point, we cannot predict the
outcome of this proceeding.
The FCC has adopted rules designed to make it easier and less expensive
for competitive local exchange carriers to obtain collocation at ILEC
central offices by, among other things, restricting the ILECs' ability to
prevent certain types of equipment from being collocated and requiring
ILECs to offer alternative collocation arrangements to competitive local
exchange carriers.
However, the Tauzin-Dingell bill has provisions that would roll back some
of these rules and would limit the types of equipment that CLECs could
collocate and place restrictions on their ability to connect to other
collocators. If these provisions are passed into law, we would likely
experience increased costs.
Under the Communications Act, ILECs have an obligation to negotiate with
us in good faith to enter into interconnection agreements. Currently, we
have or are concluding negotiation of interconnections throughout our
footprint. However, as explained above, the FCC rules governing pricing
standards for interconnection and access to the unbundled network
elements of the ILECs are currently being reviewed at the Supreme Court.
If the Supreme Court strikes down aspects of the FCC's pricing rules, the
FCC may adopt a new pricing methodology that would require us to pay a
higher price to ILECs for interconnection and unbundled network elements.
This could have a detrimental effect on our business.
The Telecom Act will permit RBOCS to provide long distance services in-
region upon demonstrating to the FCC and state regulatory agencies that
they have adhered to the Telecommunication Act's 14-point competitive
checklist. Many RBOCs have subsequently filed applications with various
state public utility commissions and the FCC seeking approval to offer
in-region long distance service. To date, Verizon has been granted long
distance authority in New York, Massachusetts, Connecticut, Rhode Island
and Pennsylvania and has applications pending in Vermont, New Hampshire,
Maine and New Jersey.
On October 31, 1996, the FCC issued an order that required nondominant
interexchange carriers, like us, to cease filing tariffs for our domestic
interexchange services. This order subsequently was stayed by a federal
appeals court; however, recently the court removed the stay.
Accordingly, nondominant interstate services providers are no longer able
to rely on the filing of tariffs with the FCC as a means of providing
notice to customers of prices, terms and conditions under which they
offer their domestic interstate interexchange Services. During 2001, we
canceled our FCC tariffs as a result of the FCC's orders.
In December 2000, the FCC released its Second Report and Order in the
Matter of Numbering Resource Optimization in which the FCC adopted rules
governing the utilization and forecasting of phone numbers, the
guidelines for area code relief, and implementation of One-Thousand
Number Block Pooling. Only carriers with number portability capable
switches can participate in One-Thousand Number Block Pooling.
Customers may presubscribe to various providers for their local exchange,
local toll and long distance services and have the option of changing
providers at any time. The FCC and some states have adopted rules
designed to prevent unauthorized changes in an end-user's carrier(s) of
choice. Unauthorized changes in service providers is known as
"slamming". The FCC has levied substantial fines for slamming. The risk
of financial damage and business reputation to slamming rules offenders
of the FCC's could be significant.
Over the last few years, the FCC has instituted various reforms to the
existing rate structure for interstate access to the local exchange
network that are designed to move access charges, over time, to more cost
based rate levels and structures. These changes have reduced, and will
continue to reduce, the access charges paid by long distance carriers to,
ILECs and will shift charges currently based on minutes of use, to a
flat-rate monthly per line charge on end users.
On May 31, 2000 the FCC adopted the proposal of the Coalition for
Affordable Long Distance Service ("CALLS") that significantly
restructures and, reduces in some respects, the interstate access charges
of the RBOCs. Among the more significant regulatory changes established
by the CALLS order, the RBOCs are required to reduce switched access
charges to an average of $0.0055/minute. Price cap ILECs are
additionally required to eliminate the presubscribed interexchange
carrier charge ("PICC") as a separate charge and fold it into an
increased End-User Common Line Charge ("EUCL"). AT&T and Sprint have
committed in this proceeding to pass on access charge reductions to
consumers, and to eliminate minimum monthly usage charges. Although the
CALLS order will not apply directly to CLECs, ILEC reductions in switched
access charges may place some downward pressure on CLECs like us to
reduce our own switched access charges. While we may be able to increase
the EUCL rate to our customers, competitive pricing pressures may make
this difficult or impossible.
On April 27, 2001 the FCC released an order concerning CLEC interstate
access charges specifically. The order seeks to reduce, over three
years, CLEC interstate access charges to the level of the ILEC in whose
territory the CLEC operates, except in the unlikely event that the IXC
agrees to pay a higher rate. The FCC established a benchmark rate at or
below which CLEC interstate access charges will be presumed just and
reasonable and which CLECs may impose on IXCs by tariff. For new
entrants such as us, the FCC set the benchmark rate at the level of the
ILEC in whose territory the CLEC operates.
In December 2001, the President signed into law the USA PATRIOT Act.
Enacted in response to the terrorist acts of September 11, 2001, the Act
(1) expands the scope of the government's pen register/trap and trace
surveillance powers; (2) permits providers to disclose subscribers'
communications or records related thereto to law enforcement or
government entities; (3) allows nationwide surveillance under a single
court order; (4) simplifies procedures for seizure of voicemail and other
communications; (5) subjects cable providers to the wiretapping laws; (6)
permits surveillance of computer trespassers; and (7) harmonizes the
wiretapping provisions of the Foreign Intelligence Surveillance Act and
the federal wiretapping laws. The PATRIOT Act allows electronic
communications service providers to divulge communications to law
enforcement agencies or records to governmental entities in certain
circumstances, but does not provide service providers choosing to do so
with liability protections. It is possible that this law will impose
additional administrative burdens on us which will increase our costs.
Moreover, the extent of carrier liability, if any, for divulging customer
information is not clear. We may find that complying with this law
exposes us to costly litigation.
State Regulation
To the extent that we provide telecommunications services which originate
and terminate in the same state, we are subject to the jurisdiction of
that state's public service commission. As our local service business
and product lines expand, we will offer more intrastate service and
become increasingly subject to state regulation. The Telecom Act
maintains the authority of individual state public service commissions to
preside over rate and other proceedings, as discussed above, and impose
their own regulation of local exchange and interexchange services so long
as such regulation is not inconsistent with the requirements of the
Telecom Act. For instance, states may impose tariff and filing
requirements, consumer protection measures and obligations to contribute
to universal service, and other funds.
We are subject to requirements in some states to obtain prior approval
for, or notify the state commission of, any transfers of control, sales
of assets, corporate reorganizations, issuances of stock or debt
instruments and related transactions. Although we believe such
authorizations could be obtained in due course, there can be no assurance
that the FCC or state commissions would grant us authority to complete
any of these transactions.
We have state regulatory authority to provide competitive facilities-based
local exchange services and interexchange services in 14 states. We also
have state regulatory authority to provide resold interexchange services
throughout the remaining continental United States. The Telecom Act
generally preempts state statutes and regulations that restrict the provision
of competitive local services. States, however, may still restrict
competition in some rural areas. As a result of this preemption, we will be
free to provide the full range of local, long distance, and data services in
any state. While this action greatly increases our potential for growth, it
also increases the amount of competition to which we may be subject.
Local Government Regulation
We may be required to obtain from municipal authorities, street opening
and construction permits to install our facilities in some cities. In
some of the areas where we provide service, we may be subject to
municipal franchise requirements requiring us to pay license or franchise
fees either on a percentage of gross revenue, flat fee or other basis.
The Telecom Act requires municipalities to charge nondiscriminatory fees
to all telecommunications providers, but it is uncertain how quickly this
requirement will be implemented by particular municipalities in which we
operate or plan to operate or whether it will be implemented without a
legal challenge.
Employees
As of March 25, 2002, we employed 705 persons. None of our employees are
represented by a collective bargaining agreement.
ITEM 2. PROPERTIES
Our headquarters and technology center are located in leased space in
Waltham, Massachusetts. We have a back-up network operations center in
Springfield, Massachusetts. We also lease offices in nine states.
Although we believe that our leased facilities are adequate at this time,
we expect to lease any additional facilities that may be required for
future expansion.
ITEM 3. LEGAL PROCEEDINGS
(a) Pending Legal Proceedings.
We are party to suits and regulatory proceedings arising in the normal
course of business which we believe are not material individually or in
the aggregate.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
Our common stock is listed on the Nasdaq National Market under the symbol
"CPTL." Following is the range of high and low trading prices on the
Nasdaq National Market for our common stock for the periods indicated.
All prices reflect the March 17, 2000 three-for-two stock split.
Price Range
---------------
High Low
------- ------
Calendar Year 2000
First Quarter ................ $56.13 $22.67
Second Quarter ................ $45.63 $19.75
Third Quarter ................ $36.06 $13.13
Fourth Quarter ............... $20.44 $3.88
Calendar Year 2001 ...............
First Quarter ................ $15.63 $4.44
Second Quarter ................ $7.73 $2.65
Third Quarter ................ $7.23 $2.93
Fourth Quarter ................ $7.95 $4.13
The last sale price of the common stock on the Nasdaq National Market on
March 25, 2002 was $2.50. Our common stock was held by 481 stockholders
of record.
We have never paid cash dividends on our common stock and we have no
plans to do so in the foreseeable future. We intend to retain earnings,
if any, to develop and expand our business. In addition, the terms of
our credit facility and the Series B preferred stock restrict our
ability to pay cash dividends on our common stock. We also expect the
terms of agreements governing any future indebtedness to restrict our
ability to pay cash dividends.
During the year ended December 31, 2001, we did not issue any securities
which were not registered under the Securities Act of 1933, as amended.
ITEM 6. SELECTED FINANCIAL DATA
At the annual meeting of directors held on July 27, 2000, we changed our
fiscal year from a twelve month period ending March 31 to a twelve month
period ending December 31. The consolidated financial statements include
presentation of the nine months ended December 31, 2000.
The following selected unaudited financial data for the year ended
December 31, 2001, the nine months ended December 31, 2000 and the three
years ended March 31, 2000 are derived from our consolidated financial
statements. You should read the following financial data together with
"Management's Discussion and Analysis of Financial Condition and Results
of Operations" and our consolidated financial statements and the related
notes.
All earnings per share and weighted average share information included in
the following financial data have been restated to reflect the March 17,
2000 three-for-two stock split.
The following unaudited financial data for each year is presented on a
pro forma basis assuming the adoption of SAB 101 as described in Note 2
and also pro forma twelve months ended December 31, 2000 and pro forma
nine months ended December 31, 1999 to the consolidated financial
statements to permit comparison of operating results and financial
condition for all periods presented.
Fiscal Year ended March 31,
------------------------------------------------
1998 as 1999 as
previously pro forma previously pro forma
reported 1998 reported 1999
------- --------- ---------- ---------
(dollars in thousands, except per share information)
Statement of Operations Data:
Agency revenues ...................... $ 24,775 $ 24,775 $ --- $ ---
Telecommunications revenues .......... 16,172 15,962 70,964 70,046
--------- --------- --------- ---------
Total revenues .................. 40,947 40,737 70,964 70,046
Cost of telecommunications revenue
(excluding depreciation and
amortization) ....................... 14,039 13,854 61,866 61,055
Selling, general and administrative
expenses ............................ 29,488 29,472 52,521 52,451
Depreciation and amortization ........ 1,418 1,418 3,778 3,778
-------- -------- --------- ---------
Loss from operations.................. (3,998) (4,007) (47,201) (47,238)
Loss before extraordinary item
and cumulative effect................ (2,498) (2,507) (51,238) (51,275)
Loss before cumulative effect......... (2,498) (2,507) (51,238) (51,275)
Net loss.............................. $ (2,498) $ (2,507) $(51,238) (51,275)
========= ========= ========== =========
Per Share Data:
Loss per share before
extraordinary item and cumulative
effect
Basic and Diluted.................... (0.17) (0.17) (3.45) (3.46)
Loss per share before
cumulative effect
Basic and Diluted.................... (0.17) (0.17) (3.45) (3.46)
Net loss per share
Basic and Diluted.................... (0.17) (0.17) (3.45) (3.46)
Other Financial Data:
EBITDA loss........................... $ (2,405) $ (2,414) $(43,346) $(43,383)
Capital expenditures .................. 6,109 6,109 36,041 36,041
Net cash used by operating
activities .......................... (7,951) (7,951) (33,254) (33,254)
Net cash used in investing activities 4,765 4,765 6,282 6,282
Net cash provided by financing
activities ......................... 8,479 8,479 39,622 39,622
Fiscal Year Ended
March 31, Nine Months Ended Year Ended
December 31 December 31,
------------------- ------------------ ------------------------
2000 as
previously pro forma pro forma pro forma
reported 2000 1999 2000 2000 2001
------- --------- ---------- --------- ------------ ----------
(dollars in thousands, except per share information)
Statement of Operations Data:
Telecommunications revenues .......... $153,101 $147,517 $102,591 $170,353 $215,278 $299,438
Cost of telecommunications revenue
(excluding depreciation and
amortization) ....................... 119,586 116,984 82,076 133,196 168,103 240,519
Selling, general and administrative
expenses ............................ 56,676 56,363 40,910 63,421 78,875 82,534
Depreciation and amortization ........ 18,754 18,754 11,681 34,917 41,989 77,002
-------- -------- -------- -------- --------- -----------
Loss from operations.................. (41,915) (44,584) (32,076) (61,181) (73,689) (100,617)
Loss before extraordinary item
and cumulative effect................ (57,073) (59,742) (43,456) (69,326) (85,611) (124,173)
Loss before cumulative effect......... (59,504) (62,173) (43,456) (69,326) (88,042) (124,173)
Net loss.............................. $(59,504) $(62,173) $(43,456) $(72,205) $(90,921) $(124,173)
========= ========= ========= ========= ========= ===========
Per Share Data:
Loss per share before
extraordinary item and cumulative
effect
Basic and Diluted.................... $(2.89) $(3.02) $(2.30) $(3.08) $(3.84) $(5.34)
Loss per share before
cumulative effect
Basic and Diluted.................... (3.01) (3.14) (2.30) (3.08) (3.93) (5.34)
Net loss per share
Basic and Diluted.................... $(3.01) $(3.14) $(2.30) $(3.19) $(4.05) $(5.34)
Other Financial Data:
EBITDA loss before non-recurring
charge............................... $(23,153) $(25,822) $(20,395) $(23,385) $(26,390) $(23,865)
EBITDA loss........................... (23,153) (25,822) (20,395) (26,264) (31,699) (23,865)
Capital expenditures .................. 71,187 71,187 (41,411) 139,010 168,786 106,472
Net cash used by operating
activities .......................... (36,984) (36,984) (27,562) (44,608) (56,087) (38,869)
Net cash used in investing activities. 43,721 43,721 (26,155) 79,682 (95,194) (75,033)
Net cash provided by financing
activities ......................... $98,544 $98,544 $66,985 $184,226 $215,788 $100,162
As of March 31,
------------------------------------------------
1998 as 1999 as
previously pro forma previously pro forma
reported 1998 reported 1999
------- --------- ---------- ---------
(dollars in thousands)
Balance Sheet Data:
Cash and cash equivalents .............$ 2,168 $ 2,168 $ 2,254 $ 2,254
Total assets .......................... 30,768 30,558 69,482 68,564
Total long-term debt, including
current portion ..................... 9,673 9,673 64,858 64,858
Series A redeemable convertible
preferred stock ..................... -- -- 12,672 12,672
Stockholders' equity (deficit) ........ 11,966 11,957 (37,144) (37,181)
Stockholders' equity (deficit)/
preferred stock $11,966 $11,957 $(24,472) $(24,509)
Fiscal Year Ended
March 31, Nine Months Ended Year Ended
December 31 December 31,
2000 as -------------------- ------------------------
previously pro forma 1999 2000
reported 2000 (Pro forma) 2000 (Pro forma) 2001
------- --------- ---------- --------- ------------ ----------
(dollars in thousands, except per share information)
Balance Sheet Data:
Cash and cash equivalents .............$ 20,093 $ 20,093 $ 15,522 $ 80,029 $ 80,029 $ 66,289
Total assets .......................... 162,233 157,046 123,074 344,129 344,129 367,438
Total long-term debt, including
current portion ..................... 129,122 129,122 85,446 184,822 184,822 324,381
Series A redeemable convertible
preferred stock ..................... -- -- 13,712 -- -- --
Series B redeemable convertible
preferred stock ..................... -- -- -- 203,249 203,249 222,812
Stockholders' deficit.................. (15,700) (18,369) (16,417) (96,686) (96,686) (241,049)
Stockholders' deficit/Preferred stock.. $(15,700) $(18,369) $(2,705) $106,563 $106,563 $(18,237)
EBITDA consists of income (loss) before interest, income taxes,
depreciation and amortization. We have provided EBITDA because it is
a measure of financial performance commonly used in the
telecommunications industry. Other companies may calculate it
differently from us. EBITDA is not a measurement of financial
performance under accounting principles generally accepted in the
United States, or GAAP. We do not believe you should consider EBITDA
as an alternative to net income (loss) as a measure of results of
operations or to GAAP-based cash flow data as a measure of liquidity.
Non-recurring charges represent a cumulative effect of change in
accounting principle of $2,879,000 at December 31, 2000 and an
extraordinary item for the early extinguishment of debt of $2,431,000
at March 31,2000 and.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
Overview
Historically, our income consisted of agency revenues and telecommunications
revenues. Agency revenues consist of commissions we formerly earned as an
agent of Bell Atlantic and other Regional Bell Operating Companies, and long
distance providers. Telecommunications revenues are generated by our sale of
local, long distance, data communications, Internet access and other
communications services. As a result of our transition to an integrated
communications provider, or ICP, in January 1998, agency commissions earned
after December 31, 1997 were not material.
Our financial information for the year ended December 31, 2001 reflects our
fourth year of operations under our new strategy. Our financial information
for fiscal years ended on or before March 31, 1998 primarily reflects our
operations as an agent for Verizon. Because of our transition to a new
strategy and our network buildout, most of the financial information for
March 31, 1998 and earlier does not reflect our current business and is not
comparable to results in subsequent periods.
Results of Operations
Year Ended December 31, 2001 Compared to
Pro forma Twelve Months Ended December 31, 2000
At the Annual Meeting of our Board of Directors held on July 27, 2000, we
changed our fiscal year from a twelve month period ending March 31 of each
year to a twelve month period ending December 31 of each year. As a result,
the pro forma year ended December 31, 2000 is the sum of the nine month
transition period ended December 31, 2000 and the quarter ended March 31,
2000.
Total revenues for the year ended December 31, 2001 ("2001") were
$299,438,000, an increase of 39% from $215,278,000 for the comparable twelve
month period of 2000 ("2000") due to an increase in access line equivalents,
or ALE's. As an integrated communications provider, revenues reflect our
direct sales of local telecommunications services in addition to our direct
sales of other telecommunications services, including toll and data services.
A common basis for measurement of an integrated communications provider's
progress is the growth in ALEs. ALEs are the total number of voice circuits
and equivalent data circuits we have in service. Voice circuits are the
actual number of voice circuits purchased by our customers. We calculate our
equivalent data circuits by dividing the data transmission capacity purchased
by our customers by 64 kilobits per second, which represents the capacity
necessary to carry one voice circuit. During the year ended December 31,
2001, voice and data ALEs in service increased by 135,700, or approximately
30%, from the year ended December 30, 2000. This increase is a result of
ALE's from new customers and growth from existing customers. This brought
total ALEs in service to 589,000 at December 31, 2001.
Costs of telecommunications revenues, excluding depreciation and
amortization, increased 43% to $240,519,000 for 2001 from $168,103,000 for
2000 as a result of the variable costs associated with increased revenues and
increased leased circuits associated with our PowerPath(sm) Network. As a
percentage of telecommunications revenue, costs of telecommunications
revenues were 80% and 78% for 2001 and 2000, respectively, due to lower
discounts and competitive pricing pressures on our off-net services offset in
part by an improvement in higher margins on our PowerPath(sm) Network.
Selling, general and administrative expenses increased 5% to $82,534,000 in
2001 from $78,875,000 for 2000. This increase was primarily due to the
variable costs, such as commissions, associated with the increased revenues.
As of December 31, 2001, we had 708 employees including 173 sales executives
and 174 network coordinators in 26 branch locations throughout the Northeast
and mid-Atlantic states as compared to 725 employees including 216 sales
executives and 169 network coordinators in 30 branch locations at December
31, 2000.
Included in SG&A, we incurred charges of $700,000 and $3,110,000 in 2001 and
2000, respectively, for the consolidation of collocation and branch office
sites to reduce costs and maximize network efficiency through optimal use of
fiber deployment and to realize near term operating efficiencies through our
branch sites.
Depreciation and amortization expense increased 83% to $77,002,000 in 2001
from $41,989,000 in 2000. This increase was a result of additional expense
associated with the equipment and software relating to the network deployment
and the upgrade of our information systems. Network equipment and software
is being depreciated over 2-5 years, reflecting the risk of rapid
technological change.
Interest and other expense increased 98% to $23,556,000 for 2001, as compared
to interest and other expense of $11,923,000 for 2000. The increase in
interest expense is due to increased borrowings to fund our operating losses
and the deployment of our network.
Nine Months Ended December 31, 2000 Compared to Pro forma Nine Months Ended
December 31, 1999
Total revenues for the nine months ended December 31, 2000 ("Transition
2000") were $170,353,000, an increase of 66% from $102,591,000 (restated for
SAB 101 - see note 2 in consolidated financial statements) for the comparable
nine month period of 1999 ("Transition 1999").
During the quarter ended December 31, 2000, voice and data ALEs in service
increased by 46,200, or approximately 11% from the quarter ended September
30, 2000. This brought our total ALEs in service to 453,300 at December 31,
2000. Data ALEs increased by approximately 10% from the quarter ended
September 30, 2000 to 98,000, or 22% of total ALEs in service as of December
31, 2000. Data ALEs at December 31, 2000 include ALEs purchased by other
carriers including Internet service providers.
Costs of telecommunications revenues, excluding depreciation and
amortization, increased 62% to $133,196,000 for Transition 2000 from
$82,076,000 (restated for SAB 101) for Transition 1999 as a result of our
increase in direct sales of local telecommunications services and expenses
associated with our PowerPath(sm) Network. As a percentage of
telecommunications revenue, costs of telecommunications revenues were 78% and
80% for Transition 2000 and Transition 1999, respectively.
Selling, general and administrative expenses increased 56% to $63,421,000 in
Transition 2000 from $40,910,000 (restated for SAB 101) for Transition 1999.
This increase was primarily due to the costs incurred in opening additional
branch sales offices and the associated increased number of sales, service
and engineering employees hired in connection with the transition to the ICP
platform. As of December 31, 2000, we had 725 employees including 216 sales
executives and 169 network coordinators in 30 branch locations throughout the
Northeast and mid-Atlantic states as compared to 496 employees including 194
sales executives and 119 network coordinators in 28 branch locations at
December 31, 1999.
We incurred a charge of $3,110,000 for the consolidation of collocation and
branch office sites to reduce costs and maximize network efficiency through
optimal use of fiber deployment and to realize near term operating
efficiencies through our branch sites.
Depreciation and amortization expense increased 199% to $34,916,000 in
Transition 2000 from $11,681,000 in Transition 1999. This increase was a
result of additional expense associated with the equipment and software
relating to the network deployment and the upgrade of our information
systems. Network equipment and software is being depreciated over 3-5 years,
reflecting the risk of rapid technological change.
Interest and other expense increased 7% to $13,081,000 for Transition 2000,
as compared to interest and other expense of $12,246,000 for Transition 1999.
The increase in interest expense is due to increased borrowings to fund our
operating losses and the deployment of our network. There was an increase in
interest income to $4,936,000 as a result of the proceeds of our Series B
redeemable convertible preferred stock financing in Transition 2000, as
compared to interest income of $865,000 for Transition 1999.
We incurred a charge of $2,879,000 for the cumulative effect of a change in
accounting principle by adopting Staff Accounting Bulletin No. 101, "Revenue
Recognition in Financial Statements" (SAB 101). See Note 2 to consolidated
financial statements.
Liquidity and Capital Resources
Working capital at December 31, 2001 was $21.0 million compared to $51.5
million at December 31, 2000, a decrease of $31.5 million. Cash balances at
December 31, 2001 and December 31, 2000 totaled $66,289,000 and $80,029,000,
respectively, excluding restricted cash. The decrease in cash at December 31,
2001 is due to cash used by operating and investing activities of $38.9
million and $75.0 million, respectively, partially offset by cash provided by
financing activities of $100.2 million.
Accounts Receivable increased 9% from December 31, 2000 to December 31, 2001.
This increase was less than the 39% sales increase for the same period. Days
sales outstanding improved from 62 days in the fourth quarter of 2000 to 54
days in the fourth quarter of 2001.
During 2001, we used cash of $74.4 million to purchase property and equipment
primarily to fund the continuation of the buildout of our PowerPath(sm)
Network.
During the year ended December 31, 2001, we entered into an equipment lease
financing arrangement, which restricts $7.5 million of cash as security for
this arrangement.
During 2001, we borrowed the remaining $125 million under our TD Credit
Facility. As of December 31, 2001, the full $225 million of the TD Credit
Facility has been utilized.
During 2001, we repaid $27.0 million of capital leases and notes payable.
Since September 30, 1998, we have entered into various lease and vendor
financing agreements, which provide for the acquisition of equipment and
software. As of December 31, 2001 and 2000, the aggregate amount borrowed
under these agreements was approximately $141.1 million and $100 million,
respectively.
In May 2000, we completed a $200 million preferred stock financing with Bain
Capital Inc. ($75 million), Thomas H. Lee Partners, L.P. ($75 million) and
CSFB Private Equity ($50 million). The investment consists of 8.25% Series B
redeemable convertible preferred stock which converts into our common stock
at $50 per share at any time at the option of the holder. We may require
conversion of the preferred shares if our common stock reaches certain
levels. We may elect to redeem the preferred shares on the fifth anniversary
of the closing and all outstanding shares of preferred stock must be redeemed
or converted by May 2010. The net proceeds from the sale of the Series B
redeemable preferred stock were used to fund strategic marketing and
technology initiatives of our business plan which include the purchase of
dark fiber and optronics, PowerPath(sm) Network expansion and new
PowerPath(sm) Network product and applications development.
In March 2000, TD Securities (U.S.) Inc. underwrote a $225 million senior
secured credit facility ("TD Credit Facility") to fund our base plan for
expansion of our branch sales offices and our PowerPath(sm) Network. The
proceeds were used to retire the $43 million balance of a $75 million
existing credit facility and to repay in full a $25 million vendor financing
facility. The TD Credit Facility includes a $50 million senior secured 7-1/2
year revolving credit facility, a $100 million senior secured 7-1/2 year
delayed draw term loan and a $75 million senior secured 8 year term loan. In
March 2002, we amended the agreement covering our Senior Facility to include
new covenant levels as well as an increase in the interest rate grids. The
Senior Facility provides for certain financial and operational covenants,
including but not limited to minimum access lines installed and billable,
minimum quarterly revenue and operating cash flow, and maximum capital
expenditures and other investments. At December 31, 2001, the Company was
not in compliance with the covenants prior to the amendment signed in March
2002. However, as of December 31, 2001, the Company is in compliance with all
the amended covenants. In connection with the amendment, the bank syndicate
will receive common stock warrants, which could total 3.25% of our
outstanding shares of common stock if warrants to purchase common stock are
issued in conjunction with the Company's March 2002 Vendor Finance Facility,
as discussed in the following paragraph. The issuance, terms and prices of
the warrants are structured in the same manner as the warrants issuable under
the Vendor Finance Facility. As of December 31, 2001, the full $225 million
of the TD Credit Facility has been utilized.
In March 2002, we entered into an agreement with a vendor ("Vendor Finance
Facility"), which an executive officer thereof is on the Board of Directors
of the Company, which restructures approximately $48 million in outstanding
capital leases. The leases have been restructured into 36 month leases
beginning in March 2002. There will be no principle or interest payments for
the first six months and the leases will then be amortized over the remaining
30 months. In addition, subject to meeting the conditions for the financing,
we will also receive up to $40 million in capital lease financing from the
finance subsidiary of this vendor for equipment purchases in 2002 available
in four separate tranches of $10 million each. These are available quarterly
on the first days of February, May, August and November 2002. For each new
tranche of capital drawn, there are no payments required for the first six
months, and then the leases will be amortized over the next 30 months. This
additional capital is dependent upon our compliance with the conditions in
the agreement, including compliance with financial and operating covenants.
These covenants are virtually the same as those in the amended TD Credit
Facility with an additional covenant relating to minimum unrestricted cash
balance. Prior to each tranche period, we must elect to utilize the financing
tranche for that period or decline it and the remaining tranches. If we elect
to use a tranche, we will issue warrants before the beginning of the tranche
period equal to 2% of our outstanding common stock for the first $10 million,
1% of the then outstanding common stock for each of tranches two and three,
and 2.5% of the then outstanding common stock for the fourth tranche. The
number of shares of common stock outstanding for the first tranche is
determined as of January 1, 2002. The second through fourth tranches are
determined as of the first day of the month immediately preceding the first
day of the tranche period. The initial warrants will be issued at an exercise
price of $4.10. Subsequent warrants, if issued, would be priced at the
average of our stock price for the period from the 10th to the 14th trading
days of the month during which such warrants are issued.
We will continue to use the proceeds remaining from the TD Credit Facility
and Series B redeemable convertible preferred stock financing for general
corporate purposes including capital expenditures, working capital and
operating losses associated with the continued deployment of our network and
further penetration of our existing region throughout the Northeast and Mid-
Atlantic states. Until utilized, the net proceeds from the TD Credit
Facility and Series B redeemable convertible preferred stock financing are
being invested in short-term, interest-bearing instruments and other
investment-grade securities.
We believe that cash on hand and the amounts expected to be available under
our Vendor Finance Facility will be sufficient to fund our planned capital
expenditures, working capital and operating losses for at least the next 12
months. We also believe that these sources fully fund the business plan
described in our Business Overview in Item 1. We can provide no assurance
that if we require funds in addition to the funds made available through the
TD Credit Facility, the preferred stock financing and the Vendor Finance
Facility, such financing will be available, or if available, on terms
acceptable to us when needed. If we are unable to obtain such financing when
needed, we may be required to postpone or abandon our development and
expansion plans, which could have a material adverse effect on our business,
results of operations and financial condition. The actual timing and amount
of our capital requirements may be materially affected by various factors,
including the timing and actual cost of the network, the timing and cost of
our expansion into new markets, the extent of competition and pricing of
telecommunications services by others in our markets, the demand by customers
for our services, technological change and potential acquisitions.
The Company's covenants under its debt and vendor financing facilities (see
Note 6) contemplate improvements in the Company's operating results in fiscal
2002 over 2001. Among other things, these covenants require significant
improvement in Earnings Before Interest, Taxes, Depreciation and Amortization
(EBITDA), as defined in the Senior Facility and the Vendor Financing
Facility, (see Note 6). The Company's ability to remain in compliance with
the covenants is dependent upon the Company's continued execution of its
business plan which consists of the following primary initiatives; continued
migration of existing offnet customers onto the Company's network, improving
margins by reducing network costs of goods, (primarily by replacing leased
network facilities with owned and operated fiber facilities), controlling
selling, general and administrative expenses and continued revenue growth by
adding new customers and selling new services. In the event that conditions
arise that do not allow the Company to meet all of the primary initiatives of
its business plan, management expects to take all necessary actions to remain
in compliance with its required covenants which may include the reduction of
certain operating expenses, migration of customers onto the Company's network
and elimination of certain discretionary expenses. Management believes that
if necessary, these actions could be implemented to meet its covenants,
including its EBITDA covenant.
Description of Senior Secured Facility
TD Securities (U.S.) Inc. Facility
In March 2000, we entered into a $225 million senior secured credit facility
with a consortium of banks. The TD Credit Facility is comprised of a $50
million senior secured revolving credit facility (the "Revolver") with a
seven and one-half year term, a $100 million senior, delayed draw term
facility with a seven and one-half year term ("Term A") and a $75 million
senior secured eight year term loan facility ("Term B"). As amended in March
2002, advances under the Revolver and Term A bear interest at either prime
rate plus 2.25-3.5% per annum or London interbank rate ("LIBOR") plus 3.25-
4.5% per annum based upon the total leverage ratio in effect at the time.
Term B borrowings bear interest at the prime rate plus 3.75% per annum or
LIBOR plus 4.75% per annum. Borrowing at prime or LIBOR is at our discretion.
As required by the TD Credit Facility, Term B borrowings of $75 million were
drawn down in full at the closing date along with borrowings of $25 million
under the Revolver. Part of the proceeds were used to pay off a $25 million
vendor financing facility and the outstanding balance of the existing credit
facility revolving line of credit of approximately $43 million. We paid a
one-time up front fee and other closing costs, which have been capitalized as
deferred financing costs and are being amortized as interest expense over the
term of the TD Credit Facility. The unamortized balance of deferred
financing costs associated with the previously existing credit facility were
recorded as an extraordinary item in the fiscal year ended March 31, 2000.
We will pay an annual commitment fee of .75-1.5% per annum, depending on the
percentage of the total Senior Facility used. At December 31, 2001, the
entire $225 million was outstanding.
At June 30, 2003, we will begin to repay the outstanding balances of Term A
and Term B on a quarterly basis through the year 2007.
In September 2000, we entered into an interest rate collar agreement with a
notional amount outstanding at December 31, 2000 of $33 million, with an
expected maturity date in the year 2003. The interest rate collar
effectively locks $33 million of the Senior Facility borrowings between
12.25% and 9.67%. In addition we have an interest rate swap which effectively
caps $17 million of borrowings at 10.75%. In December 2001 and January 2002,
we entered into two additional interest rate cap agreements of 6.5% maturing
in October 2003 and September 2003 on $12.5 million and $50 million of
borrowings, respectively.
In March 2002, we amended the agreement covering our TD Credit Facility to
include new covenants as well as an increase in the interest rate grids. The
bank syndicate will receive common stock warrants, which could total 3.25% of
our outstanding shares of common stock. The issuance, terms and prices of the
warrants are structured in the same manner as the warrants issuable under the
Vendor Finance Facility.
The TD Credit Facility provides for certain financial and operational
covenants, including but not limited to minimum access lines installed and
billable, minimum quarterly revenue and operating cash flow, and maximum
capital expenditures. We have also agreed, among other things, not to assume
any other secured debt other than capital leases, agree to a merger, sell our
assets or declare dividends without the consent of the lenders.
Critical Accounting Policies
Our consolidated financial statements are prepared in accordance with
accounting principles generally accepted in the United States of America.
(See note 2 to the financial statements). We believe the following represent
our critical accounting policies:
Revenue Recognition
We recognize revenue in accordance with SEC Staff Accounting Bulletin No.
101, Revenue Recognition in Financial Statements (SAB 101), as amended by SAB
101A and 101B. SAB 101 requires that four basic criteria must be met before
revenue can be recognized: (1) persuasive evidence of an arrangement exists;
(2) delivery has occurred or services rendered; (3) the fee is fixed and
determinable; and (4) collectability is reasonably assured. We use historical
data to estimate a provision for any sales allowances. Historically our
provisions for allowances have remained relatively constant as a percentage
of sales. We do not believe different assumptions would lead to materially
different amounts recorded. If our experience were to change in the future,
we may have to adjust our provision accordingly.
Allowance for Bad Debt
We maintain allowances for doubtful accounts for estimated losses resulting
from the inability of our customers to make required payments. We use current
evidence of collectability and historical data to estimate this provision.
If the financial condition of our customers were to deteriorate, resulting in
an impairment of their ability to make payments, additional allowances may be
required.
Property and Equipment
Property and equipment are stated at the lower of cost or fair market value
less accumulated depreciation. Our policy requires capitalization of all
direct costs associated with acquiring and installing an asset to perform its
intended use and expensing of all costs relating to the ongoing operations
and maintenance of the Powerpath(sm) Network. Significant internal resources
are utilized in the buildout of our Powerpath(sm) Network and have been
capitalized as a component of property and equipment. The process of
providing a connection between our customers and our Powerpath(sm) Network
requires that we lease a customer specific last mile circuit. We capitalize
the cost of this circuit while we install it to our asset at our customer's
location. Once telecommunications traffic can flow over the circuit, usually
within a month, these circuit lease costs are expensed. Our policy
incorporates estimates, assumptions and judgments by management relative to
the capitalized costs and useful lives of all property and equipment,
including the Powerpath(sm) Network and related assets. We believe the
judgements and estimates we have used to date result in an accurate recording
of our property and equipment. Changes in business conditions in the future
may lead to changes in our judgements and estimates.
Derivative Transactions
We utilize derivative financial instrument transactions in the form of
interest rate swap, collar and cap agreements to hedge variable rate interest
risk. The effective portion of the hedge is recorded in other comprehensive
income until the hedged item is recognized in earnings. The ineffective
portion of a derivative's change in fair value will be immediately recognized
in earnings. Changes in market conditions could impact the amount of
derivative change in fair value that is recognized in earnings. The
assessment of hedge effectiveness is made quarterly. Changes in market
conditions could affect the assessment of hedge effectiveness. Hedges that
are not deemed to be highly effective would result in changes in fair value
for the entire hedging instrument to be recognized in earnings.
Recent Accounting Pronouncements
In July, 2001, the Financial Accounting Standards Board issued Statement No.
141, "Business Combinations" (FAS 141) and Statement No. 142, "Goodwill and
Other Intangible Assets" (FAS 142). FAS 141 eliminates the pooling-of-
interests method of accounting for business combinations except for
qualifying business combinations that were initiated prior to July 1, 2001.
FAS 141 further clarifies the criteria to recognize intangible assets
separately from goodwill. The requirements of Statement 141 are effective for
any business combination accounted for by the purchase method that is
completed after June 30, 2001. Under FAS 142, goodwill and indefinite lived
intangible assets are no longer amortized but are reviewed annually (or more
frequently if impairment indicators arise) for impairment. Separable
intangible assets that are not deemed to have an indefinite life will
continue to be amortized over their useful lives. The amortization provisions
of Statement 142 apply to goodwill and intangible assets acquired after June
30, 2001. With respect to goodwill and intangible assets acquired prior to
July 1, 2001, companies are required to adopt FAS 142 in their fiscal year
beginning after December 15, 2001. For the intangible assets acquired on or
before June 30, 2001 the intangibles will be amortized during this transition
period until adoption of FAS 142. We are not expecting any material impact
from the adoption FAS 141 and FAS 142 on our financial position and results
of operations.
In June 2001, the Financial Accounting Standards Board issued Statement No.
143, "Accounting for Asset Retirement Obligations" (FAS 143), which addresses
financial accounting and reporting for obligations associated with the
retirement of tangible long-lived assets and the associated asset retirement
costs. It also applies the legal obligations associated with the retirement
of long-lived assets that result from acquisition, construction, development
and (or) the normal operation of a long-lived asset, except for certain
obligations of lessees. The standard is effective for fiscal years beginning
after June 15, 2002 (January 1, 2003 for the Company), with earlier
application encouraged. We believe the adoption of FAS 143 will not have a
material impact on our financial position or results of operations.
In August 2001, the Financial Accounting Standards Board issued Statement No.
144, "Accounting for the Impairment or Disposal of Long-Lived Assets" (FAS
144), which addresses the financial accounting and reporting for the
impairment of long-lived assets. This statement supercedes Statement of
Financial Accounting Standards No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" and the
accounting and reporting provisions for the disposal of a segment of a
business of APB Opinion No. 30, "Reporting the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions."
The provisions of this statement are effective for the financial statements
issued for fiscal years beginning after December 15, 2001, and interim
periods within those fiscal years, with early adoption permitted. We
believes that the adoption of FAS 144 will not have a material impact on our
financial position or results of operations.
Adoption of Staff Accounting Bulletin 101.
We have revised our revenue recognition policy for certain recurring monthly
fees to be consistent with applicable provisions of Staff Accounting Bulletin
101, "Revenue Recognition in Financial Statements" ("SAB 101"). Previously,
monthly recurring fees for the next month's service were recognized at the
time all of our significant performance obligations had been fulfilled and
the related monthly service fee became nonrefundable based on the terms of
the contract with our customers which require 60 days notice for
cancellation.
Since SAB 101 now indicates that nonrefundability of revenues and fulfillment
of all significant performance obligations are not a basis for revenue
recognition, we have determined that deferral of the monthly recurring
service fees to the period in which the service is available to the customer
is a preferable method of accounting. The impact of the change in
recognizing recurring service fees was reported as a cumulative effect of a
change in accounting principle as of April 1, 2000 in accordance with
Accounting Principles Board Opinion No. 20, "Accounting Changes". The
cumulative effect of this change increased our loss by approximately $2.9
million as of April 1, 2000. This amount represents the income attributable
to the deferral, as of that date, of one month's recurring service fee
revenue totaling approximately $10 million. The previously reported
quarterly financial information for the nine month transition period ended
December 31, 2000 has been restated so that annual operating results for the
transition period are presented on the new basis.
There is no impact to our cash flow from operations as a result of this
change. Also, the adoption of this change in accounting for the fiscal year
ended March 31, 2000 or prior periods did not have a material effect on the
our previously reported results of operations, financial position or cash
flows for those periods.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Our exposure to financial risk, including changes in interest rates, relates
primarily to outstanding debt obligations. We utilize our senior secured
credit facility to fund a substantial portion of our capital requirements.
This facility bears interest at a variable interest rate, which is subject to
market changes. Our earnings are affected by changes in short-term interest
rates as a result of our borrowings under the TD credit facility. The TD
Credit Facility interest payments are determined by the outstanding
indebtedness and the prime or LIBOR rate at the beginning of the period in
which interest is computed. As required under the TD Credit Facility, we
utilize interest rate swap, cap and collar agreements to hedge variable rate
interest risk on 50% of the TD Credit Facility. All of our derivative
financial instrument transactions are entered into for non-trading purposes.
Notional amounts outstanding at December 31, 2001 subject to the interest
rate collar is $33 million, with an expected maturity date in the year 2003.
The interest rate collar effectively locks $33 million of our TD credit
facility borrowings between 12.25% and 9.67%.
Notional amount outstanding at December 31, 2001 subject to the interest rate
swap is $17 million, with an expected maturity date in the year 2003. The
interest rate swap effectively caps $17 million of our TD credit facility
borrowings at 10.75%. In December 2001 and January 2002, we entered into two
additional interest rate cap agreements of 6.5% maturing in October 2003 and
September 2003 on $12.5 and $50 million of borrowings, respectively.
For purposes of specific risk analysis we use sensitivity analysis to
determine the impacts that market risk exposure may have on the fair value of
our outstanding debt obligations. To perform sensitivity analysis, we assess
the risk of loss in fair values from the impact of hypothetical changes in
interest rates on market sensitive instruments, considering the hedge
agreements noted above. We compare the market values for interest risk based
on the present value of future cash flows as impacted by the changes in the
rates. We selected discount rates for the present value computations based on
market interest rates in effect at December 31, 2001. We compared the market
values resulting from these computations with the market values of these
financial instruments at December 31, 2001. The differences in the comparison
are the hypothetical gains or losses associated with each type of risk. As a
result of our analysis we determined at December 31, 2001, with respect to
our variable rate debt obligations, a 10% increase in interest rates with all
other variables held constant would result in increased interest expense and
cash expenditures for interest of approximately $1.3 million for the year
ended December 31, 2001. A 10% decrease in interest rates would result in
reduced interest expense and cash expenditures of approximately $85,000 for
the same period taking into consideration the interest rate collar as noted.
For purposes of specific risk analysis we use sensitivity analysis to
determine the impacts that market risk exposure may have on the fair value of
our outstanding fixed rate redeemable convertible preferred stock. To perform
sensitivity analysis, we assess the risk of loss in fair values from the
impact of hypothetical changes in dividend rates on market sensitive
instruments. We compare the market values for dividend risk based on the
present value of future cash flows as impacted by the changes in the rates.
We selected discount rates for the present value computations based on market
dividend rates in effect at December 31, 2001. We compared the market values
resulting from these computations with the market values of these financial
instruments at December 31, 2001. The differences in the comparison are the
hypothetical gains or losses associated with each type of risk. As a result
of our analysis we determined at December 31, 2001, with respect to our fixed
rate redeemable convertible preferred stock, a 10% increase in dividend rates
with all other variables held constant would result in increased dividends of
approximately $1.9 million for the year ended December 31, 2001. A 10%
decrease in dividend rates would result in reduced dividends of approximately
$1.9 million for the same period.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Index to Financial Statements, Financial Statements and Supplementary Data
begin on page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT*
Our executive officers and directors are as follows:
Name Current Office Held
- ---------------------- --------------------------------------
Robert J. Fabbricatore Chairman and Chief Executive Officer
Steven P. Milton President and Chief Operating Officer
John D. Pittenger Executive Vice President-Finance and
Administration, Chief Financial Officer,
Treasurer and Secretary
Thomas Fabbricatore Vice President--Business Systems
Anthony D. Vermette Vice President--Sales
Frederick Kunzi Vice President and Chief Technology Officer
Jeffrey C. Lavin Vice President--Corporate Development
Russell Oliver Vice President--Network Operations
Katherine D. Courage Director
Henry Hermann Director
Kevin J. Maroni Director
J. Richard Murphy Director
Mark E. Nunnelly Director
Carl Redfield Director
Richard J. Santagati Director
Ralph C. Sillari Director
Scott M. Sperling Director
Ralph S. Troupe Director
Robert J. Fabbricatore, a founder of the Company and a director since its
inception in 1980, became Chairman of the Board of Directors in March 1983
and served as President from October 1993 to August 1995. Robert J.
Fabbricatore is the brother of Thomas Fabbricatore, Vice President-Business
Systems.
Steven P. Milton has been employed by the Company since 1984 and has served
as President and Chief Operating Officer since August 1995. Prior to that, he
held various positions within the Company including Branch Manager, District
Manager, Regional Manager and Vice President--Sales and Marketing.
John D. Pittenger has served as Chief Financial Officer since April 14, 1999,
as Executive Vice President--Finance and Administration since April 1998 and
as Treasurer and Secretary of the Company since August 1989. Mr. Pittenger
served as Vice President--Finance from 1991 until April 1998, and as Chief
Financial Officer from 1989 to April 1998.
Thomas Fabbricatore has been employed by the Company since 1982 in a number
of positions. He was named Vice President--Business Systems in 1999. Thomas
Fabbricatore is the brother of Robert J. Fabbricatore.
Anthony D. Vermette has been employed by the Company in a variety of
positions since 1987. Mr. Vermette was named Vice President--Sales in 1996.
Frederick Kunzi joined the Company as a Vice President and Chief Technology
Officer in August 1998. Mr. Kunzi has over 25 years experience in information
technology. From 1985 to September 1998, he was employed by Digital Equipment
Corporation, most recently as Senior Manager, Global Network Services where
he was responsible for Digital's worldwide enterprise network infrastructure.
Jeffrey C. Lavin joined the Company in June 1998 as Vice President--Corporate
Development. Mr. Lavin has 20 years of sales and operational management
experience in the telecommunications industry. From December 1996 to May
1998, Mr. Lavin was Vice President of Sales, Americas/Asia Pacific for
NovaSoft Systems, Inc., a software development corporation. From 1979 to
1996, Mr. Lavin was employed by Comlink Incorporated, a communications
network integrator, most recently as Senior Vice President. Following the
acquisition of Comlink in 1996 by Williams Communications, Mr. Lavin serve as
Vice President and General Manager of Network Systems Integration.
Russell Oliver joined the Company in October 1999 as Vice President--Network
Operations. From 1985 to 1996, Mr. Oliver was employed by by Comlink
Incorporated, a communications network integrator, most recently as Vice
President of Operations, Following the acquisition of Comlink in 1996 by
Williams Communications, Mr. Oliver served as Vice President of Network
Systems Integration. From September 1998 to October 1999, Mr. Oliver was
employed by LaVigne as Vice President of Operations, where he was responsible
for network systems integration throughout North America. Mr. Oliver serves
on the Board of Directors of BICSI, a non-profit association that promotes
standards and education throughout the telecommunications industry.
Katherine D. Courage became a director of the Company in April 1999. Ms.
Courage is a managing director in the Global Telecommunications and Media
Group in the Investment Banking Department of Credit Suisse First Boston, one
of the underwriters of our earlier common stock offerings. Prior to joining
Credit Suisse First Boston in September 1996, Ms. Courage worked at Salomon
Brothers Inc. for ten years where she was a managing director in the Global
Telecommunications Group. Ms. Courage currently serves as a director of
NorthEast Optic Network, Inc. Credit Suisse First Boston Equity Partners,
L.P., as a Series B preferred stockholder, has appointed Ms. Courage as its
designee to the Company's Board of Directors.
Henry Hermann, CFA, became a director of the Company in September 1996.
Since November 1997, he has operated Hermann Companies, a financial services
company. Mr. Hermann is registered as an Investment Advisor with the State of
Texas, a Chartered Financial Analyst and, as an independent contractor,
offers general securities through SWS Financial. Mr. Hermann has been a NASD
Board of Arbitrators Member since 1991.
Kevin J. Maroni joined the board in April 1998. Mr. Maroni is a Managing
General Partner of Spectrum Equity Investors, a leading private equity firm
focused on communications companies with $2.9 billion under management.
Prior to Spectrum, Mr. Maroni worked at Time Warner, Inc. and Harvard
Management Company. Mr. Maroni currently sits on several private company
boards. He holds an MBA from Harvard University and a AB from the
University of Michigan.
J. Richard Murphy became a director of the Company in August 1995. Mr. Murphy
is a managing director of Atlantic Management Company Incorporated (AMC), a
Portsmouth, a New Hampshire valuation, investment banking and financial
advisory firm that has been serving New England's business, legal and
financial communities since 1968. Prior to joining AMC in January 2002, Mr.
Murphy was a managing director of Baldwin & Clarke Corporate Finance, Inc., a
Bedford, New Hampshire investment banking firm which he joined August 1999.
Mr. Murphy was the director of the Corporate Advisory Group of Moody,
Cavanaugh and Company, LLP, a North Andover, Massachusetts public accounting
firm, from April 1996 to August 1999.
Mark E. Nunnelly became director of the Company in June 2000 as a designee of
Bain Capital, Inc. He joined Bain Capital as a General Partner in 1990 and
has served as Managing Director since April 1993. Mr. Nunnelly also serves
on the Board of Directors of Domino's, DoubleClick, Modus Media
International, and Eschelon Telecom. Mr. Nunnelly received an M.B.A. from
Harvard Business School and a B.A. from Centre College.
Carl Redfield became a director of the Company in January 1999. He has been
Senior Vice President, Manufacturing and Logistics of Cisco since February
1997. From September 1993 to February 1997 he was Vice President of
Manufacturing. Mr. Redfield also is a director of VA Linus Systems, Inc.,
iBasis Inc. and Broadwing, Inc.
Richard J. Santagati became a director of the Company in September 1991. He
has been the President of Merrimack College in North Andover, Massachusetts
since 1994. From March 1992 to February 1994, Mr. Santagati was the Chairman
of the Board, Chief Executive Officer and President of Artel Communications
Corp., a publicly held data communications firm located in Hudson,
Massachusetts. Mr. Santagati also serves as a director of Celerity Solutions,
Inc., a software company.
Ralph C. Sillari became a director of the Company in October 1997. Since
1991, Mr. Sillari has been employed by Fleet National Bank where he is
currently an Executive Vice President, Manager of Regional Banking.
Scott M. Sperling became a director of the Company in May 2000 as a designee
of Thomas H. Lee Company. He has been a Managing Director of Thomas H. Lee
Company since July 1994 and is also President of TH Lee, Putnam Capital,
Trustee of THL Equity Trust III and Managing Director of THL Equity Advisors
IV, LLC. Mr. Sperling is currently a Director of Fisher Scientific
International, Inc., GenTek, Inc., Safelite Glass Corp., LiveWire Systems
LLC, Wyndham International, GoodHome.com and several private companies. He
holds an MBA degree from Harvard University and a B.S. from Purdue
University.
Ralph S. Troupe became a director of the Company in May 1999. In October
1999, Mr. Troupe co-founded Callisma (formerly known as Rt.1 Solutions), a
network services company focusing on all key aspects of complex network
planning, design and implementation, and serves as its President and Chief
Executive Officer. From January 1993 to October 1999, Mr. Troupe was
employed by International Network Services, most recently as Vice President
of North American Field Operations, East. Mr. Troupe holds a B.S. degree
from Northeastern University and is a 1998 graduate of the Harvard Business
School Advanced Management Program for International Senior Managers.
ITEM 11. EXECUTIVE COMPENSATION*
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT*
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS*
*The balance of the information required by Item 10 of Part III of this
Annual Report, and Items 11 through 13 of Part III of this Annual Report are
incorporated by reference to the corresponding items in our definitive proxy
statement to be filed with the Securities and Exchange Commission in April
2002.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this report:
(1) Financial Statements:
Consolidated Balance Sheets as of December 31, 2001 and 2000
Consolidated Statements of Operations for the year ended December 31, 2001,
the nine months ended December 31, 2000 and the year ended March 31, 2000.
Consolidated Statements of Stockholders' Equity (Deficit)
for the year ended December 31, 2001, the nine months
ended December 31, 2000 and the year ended March 31, 2000
Consolidated Statements of Cash Flows for the year ended
December 31, 2001, the nine months ended December 31, 2000
and the year ended March 31, 2000
Notes to Consolidated Financial Statements
(2) Financial Statement Schedule:
Schedule II - Valuation and Qualifying Accounts
Financial statement schedules not included have been omitted because of the
absence of conditions under which they are required or because the required
information, where material, is shown in the financial statements or notes.
(3) Exhibits:
The following Exhibits are either filed herewith or have heretofore been
filed with the Securities and Exchange Commission and are referred to and
incorporated herein by reference to such filings.
Exhibit No. Title
- ------------ -----
3.1 Restated Articles of Incorporation (11)
3.2 Certificate of Designation for Series B Convertible
Preferred Stock (5)
3.3 Amended and Restated By-Laws (11)
4.1 Form of Common Stock Certificate (3)
10.1 1996 Stock Option Plan, as amended (1)
10.2 1993 Stock Option Plan (3)
10.3 Employee Stock Purchase Plan (2)
10.4 Lease for premises at 360 Second Ave., Waltham, MA (3)
10.5 Sublease for premises at 360 Second Ave., Waltham, MA (3)
10.6 Lease for premises at 110 Hartwell Ave., Lexington, MA (3)
10.7 Lease for premises at 120 Broadway, New York, NY (3)
10.8 Agreement dated February 1, 1996 between NYNEX and CTC Communications
Corp. (3)
10.9 Agreement dated May 1, 1997 between Pacific Bell and CTC
Communications Corp. (3)
10.10 Agreement dated January 1, 1996 between SNET America, Inc. and CTC
Communications Corp. (3)
10.11 Agreement dated June 23, 1995 between IXC Long Distance Inc. and CTC
Communications Corp., as amended (3)
10.12 Agreement dated August 19, 1996 between Innovative Telecom Corp. and
CTC Communications Corp. (3)
10.13 Agreement dated October 20, 1994 between Frontier Communications
10.14 Agreement dated January 21, 1997 between Intermedia Communications
Inc. and CTC Communications Corp. (3)
10.16 Securities Purchase Agreement dated April 10, 1998 among CTC
Communications Corp. and the Purchasers named therein (4)
10.17 Registration Rights Agreement dated April 10, 1998 among CTC
Communications Corp. and the Holders named therein (4)
10.18 Form of Warrant dated April 10, 1998 (4)
10.19 Loan and Security Agreement dated as of September 1, 1998 by and
between CTC Communications Corp., Goldman Sachs Credit Partners L.P.
and Fleet National Bank (6)
10.20 Agreement with Cisco Systems Capital Corp. dated as of October 14, 1998 (7)
10.21 Warrant dated July 15, 1998 issued to Spectrum (8)
10.22 Lease for premises at 220 Bear Hill Rd., Waltham, MA (8)
10.23 Warrant dated September 1, 1998 issued to Goldman Sachs & Co. (8)
10.24 Warrant dated September 1, 1998 issued to Fleet National Bank (8)
10.25 1998 Incentive Plan, as amended (1)
10.26 Loan Agreement dated as of March 15, 1999 by and between CTC
Communications Corp, TD Dominion (Texas), Inc. & TD Securities(USA), Inc.(9)
10.27 Warrant dated March 24, 1999 issued to Toronto Dominion (Texas), Inc. (9)
10.28 1999 Equity Incentive Plan for Non-Employee Directors (1)
10.29 Series B Preferred Stock Purchase Agreement dated as of March 22, 2000. (5)
10.30 Series B Preferred Stock Registration Rights Agreement
dated as of March 22, 2000. (5)
10.31 Amendment No. 1 to Loan and Security Agreement dated as of
September 30, 1999 among CTC Communications Corp., Fleet
National Bank and Goldman Sachs Credit Partners L.P. (12)
10.32** Dark Fiber IRU Agreement between Williams Communications, Inc.
and CTC Communications Corp. dated as of March 31, 2000 (13)
10.33** Carrier Services Agreement between Williams Communications, Inc.
and CTC Communications Corp. dated as of March 31, 2000 (13)
10.34 $225 Million Credit Agreement with TD Securities (USA) Inc. and
the other parties to the agreement dated as of March 30, 2000 (14)
10.35 Lease for premises at 115-125 Bear Hill Rd., Waltham MA 02451(14)
10.36 2000 Flexible Stock Plan (13)
10.37 Fourth Amendment dated as of February 27, 2002 to Credit Agreement with TD
Securities (USA) Inc. and the other parties to the agreement dated as of
March 30, 2000 (++)
23 Consent of Ernst & Young LLP (++)
27 Financial Data Schedule (++)
99 Risk Factors (++)
<fn>
- ------------------
++ Filed herewith.
(1) Incorporated by reference to an Exhibit filed as part of the
Registrant's Registration Statement on Form S-8 (File No. 333-93735).
(2) Incorporated by reference to an Exhibit filed as part of the
Registrant's Registration Statement on Form S-8 (File No. 33-44337).
(3) Incorporated by reference to an Exhibit filed as part of the
Registrant's Annual Report on Form 10-K for the Fiscal Year Ended
March 31, 1997.
(4) Incorporated by reference to an Exhibit filed as part of the
Registrant's Current Report on Form 8-K dated May 15, 1998.
(5) Incorporated by reference to an Exhibit filed as part of the
Registrant's Current Report on Form 8-K dated April 19, 2000.
(6) Incorporated by reference to an Exhibit filed as part of the
Registrant's Current Report on Form 8-K dated October 2, 1998.
(7) Incorporated by reference to an Exhibit filed as part of the
Registrant's Current Report on Form 8-K dated November 6, 1998.
(8) Incorporated by reference to an Exhibit filed as part of the
Registrant's Quarterly Report on Form 10-Q for the quarter
ended September 30, 1998.
(9) Incorporated by reference to an Exhibit filed as part of the
Registrant's Registration Statement on Form S-1 (File No. 333-77709).
(10) Incorporated by reference to an Appendix filed as part of the
Registrant's Schedule 14A (Amendment No. 2) filed on June 4, 1999.
(11) Incorporated by reference to an Exhibit filed as part of the
Registrant's Current Report on Form 8-K dated October 1, 1999.
(12) Incorporated by reference to an Exhibit filed as part of the
Registrant's Quarterly Report on Form 10-Q for the quarter
ended September 30, 1999.
(13) Incorporated by reference to an Exhibit filed as part of the
Registrant's Registration Statement on Form S-8 (File No. 333-44002).
(14) Incorporated by reference to an exhibit filed as part of the Registrant's
Annual Report on Form 10-K for the nine months ended December 31, 2001.
** PORTIONS OF THIS EXHIBIT HAVE BEEN OMITTED PURSUANT TO A REQUEST FOR
CONFIDENTIAL TREATMENT
</FN>
(4) Reports on Form 8-K
The Company filed the following reports on Form 8-K during the quarter
ended December 31, 2001:
Date Items Reported
- ---- --------------
October 2, 2001. Announcement that Fiber Access and Packet Based Dial
Tone and Voice Services Available to Maine Customers
October 23, 2001. Announcement that (1) we have applied for a U.S. patent on
our Intergrated Communications System, or PowerPath(sm)
network and (2) the Wall Street Transcript has published
an in-depth interview with Robert J. Fabbricatore, our
Chairman and CEO.
October 31, 2001 Announcement of results for the quarter ended
September 30, 2001.
SIGNATURES
SIGNATURES
PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) 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 ON THIS 31st DAY
OF MARCH, 2002.
CTC Communications Group, Inc.
By: /s/ Robert J. Fabbricatore
----------------------------------------
Robert J. Fabbricatore,
Chairman and Chief Executive Officer
PURSUANT TO THE REQUIREMENTS OF THE SECURITIES AND EXCHANGE ACT OF 1934,
THIS REPORT HAS BEEN SIGNED BELOW BY THE FOLLOWING PERSONS ON BEHALF OF THE
REGISTRANT IN THE CAPACITIES AND ON THE DATES INDICATED:
SIGNATURE TITLE DATE
--------- ----- ----
Chairman of the Board March 31, 2002
/s/Robert J. Fabbricatore and Chief Executive
Robert J. Fabbricatore Officer, Director
Chief Financial Officer March 31, 2002
/s/ John D. Pittenger and Chief Accounting
John D. Pittenger Officer
/s/ Katherine D. Courage
Katherine D. Courage Director March 31, 2002
/s/ Henry Hermann
Henry Hermann Director March 31, 2002
/s/ Kevin J. Maroni
Kevin J. Maroni Director March 31, 2002
/s/ J. Richard Murphy
J. Richard Murphy Director March 31, 2002
/s/ Mark E. Nunnelly
Mark E. Nunnelly Director March 31, 2002
/s/ Carl Redfield
Carl Redfield Director March 31, 2002
/s/ Richard J. Santagati
Richard J. Santagati Director March 31, 2002
/s/ Ralph C. Sillari
Ralph C. Sillari Director March 31, 2002
/s/ Scott M. Sperling
Scott M. Sperling Director March 31, 2002
/s/ Ralph S. Troupe
Ralph S. Troupe Director March 31, 2002
CTC COMMUNICATIONS GROUP, INC.
Index to Financial Statements
Audited Consolidated Financial Statements
Management's responsibility for financial statements......................... F-1
Report of Independent Auditors............................................... F-2
Consolidated Balance Sheets as of December 31, 2001 and 2000................. F-3
Consolidated Statements of Operations for the year ended December 31, 2001,
the nine months ended December 31, 2000 and the year ended March 31, 2000... F-4
Consolidated Statements of Stockholders' Equity (Deficit)
for the year ended December 31, 2001, the nine months
ended December 31, 2000 and the year ended March 31, 2000................... F-5
Consolidated Statements of Cash Flows for the year ended
December 31, 2001, the nine months ended December 31, 2000
and the year ended March 31, 2000........................................... F-7
Notes to Consolidated Financial Statements................................... F-8
- ------------------------------
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL STATEMENTS
Management is responsible for the preparation of the consolidated financial
statements and related information for CTC Communications Group, Inc.
appearing in this report. Management believes that the consolidated financial
statements fairly reflect the form and substance of transactions and that the
consolidated financial statements reasonably present CTCCommunications Group,
Inc.'s financial position and results of operations in conformity with
accounting principles generally accepted in the United States. Management has
also included in the consolidated financial statements amounts that are based
on estimates and judgments which it believes are reasonable under the
circumstances.
The independent auditors audit the consolidated financial statements in
conformity with accounting principles generally accepted in the United States
and provide an objective, independent review of the fairness of reported
operating results and consolidated financial position.
The Board of Directors of CTC Communications Group, Inc. has an Audit
Committee composed of four non-management directors. The Committee meets
periodically with financial management and the independent auditors to review
accounting, control and financial reporting matters applicable to CTC
Communications Group, Inc.
F-1
Report of Independent Auditors
The Board of Directors and Stockholders
CTC Communications Group, Inc.
We have audited the accompanying consolidated balance sheets of CTC
Communications Group, Inc., as of December 31, 2001 and 2000, and the related
consolidated statements of operations, stockholders' equity (deficit), and
cash flows for the year ended December 31, 2001, the nine months ended
December 31, 2000 and the year ended March 31, 2000. Our audits also included
the financial statement schedule listed in the Index at Item 14(a). These
financial statements and schedule are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. 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, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of CTC Communications Group, Inc. at December 31, 2001 and 2000, and the
consolidated results of its operations and its cash flows for the year ended
December 31, 2001, the nine months ended December 31, 2000 and the year ended
March 31, 2000, in conformity with accounting principles generally accepted
in the United States. Also, in our opinion, the related financial statement
schedule, when considered in relation to the basic financial statements taken
as a whole, presents fairly in all material respects the information set
forth therein.
/s/ Ernst & Young LLP
Boston, Massachusetts
February 15, 2002, except for Note 6
and the last paragraph of Note 7,
as to which the date is March 6, 2002
F-2
CTC COMMUNICATIONS GROUP, INC.
CONSOLIDATED BALANCE SHEETS
December 31,
2001 2000
----------- ------------
ASSETS
Current assets:
Cash and cash equivalents $66,289,140 $80,029,442
Restricted cash - current 550,000 -
Accounts receivable, less allowance for doubtful
accounts of $6,915,598 and $4,501,672 in
December 2001 and 2000, respectively 47,059,065 43,137,423
Prepaid commissions 2,200,000 2,518,995
Prepaid expenses and other current assets 1,186,850 1,030,603
Notes receivable from executives 1,217,281 6,375,135
Amounts due from employees 158,561 212,304
------------- -------------
Total current assets 118,660,897 133,303,902
Property and equipment:
Property and equipment 366,087,446 259,615,413
Accumulated depreciation and amortization (135,762,149) (63,873,598)
------------- -------------
Total property and equipment, net 230,325,297 195,741,815
Restricted cash - noncurrent 6,950,000 -
Deferred financing costs, net of amortization 6,124,749 6,403,413
Other assets 5,377,382 8,679,463
------------- -------------
Total assets $367,438,325 $344,128,593
============== ==============
LIABILITIES AND STOCKHOLDERS' DEFICIT
Current liabilities:
Accounts payable and accrued expenses $56,657,154 $48,716,754
Accounts payable to related party 1,641,525 744,796
Accrued salaries and related taxes 2,995,383 3,282,079
Current portion of obligations under capital leases 33,036,325 27,055,850
Current portion of notes payable 3,354,399 1,983,984
------------- -------------
Total current liabilities 97,684,786 81,783,463
Long term liabilities:
Obligations under capital leases, net of current portion 60,324,538 52,763,576
Notes payable, net of current portion 225,000,000 103,018,589
Other 2,665,710 -
------------- -------------
Total long term liabilities 287,990,248 155,782,165
Commitments and contingencies:
Series B redeemable convertible preferred stock, par
value $1.00 per share; authorized 10,000,000 shares,
200,000 shares issued and outstanding at
December 31, 2001 and 2000, respectively (liquidation
preference $255,546,343 at December 31, 2001) 222,812,360 203,249,272
Stockholders' deficit:
Common stock, par value $.01 per share; authorized
100,000,000 shares, 27,103,730 and 26,582,137 shares
issued and outstanding at December 31, 2001
and 2000, respectively 271,037 265,821
Additional paid-in capital 95,528,040 93,300,483
Deferred compensation - (26,910)
Other accumulated comprehensive loss (2,886,424) -
Retained deficit (333,961,722) (190,225,701)
------------- --------------
Total stockholders' deficit (241,049,069) (96,686,307)
------------- --------------
Total liabilities and stockholders' deficit $367,438,325 $344,128,593
============== ==============
<FN>
The accompanying notes are an integral part of these consolidated financial statements.
</FN>
F-3
CTC COMMUNICATIONS GROUP, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
Nine
Year Ended Months Ended Year Ended
December 31, December 31, March 31,
2001 2000 2000
---------------- ----------- ------------
Telecommunications revenues $299,438,481 $170,352,695 $153,100,934
Operating costs and expenses:
Cost of telecommunications revenues
(excluding depreciation and amortization) 240,518,899 133,196,099 119,585,548
Selling, general and administrative expenses 82,534,316 63,421,022 56,676,773
Depreciation and amortization 77,002,257 34,916,209 18,753,667
-----------------------------------------
Total operating costs and expenses 400,055,472 231,533,330 195,015,988
-----------------------------------------
Loss from operations (100,616,991) (61,180,635) (41,915,054)
Other income (expense):
Interest income 2,873,314 4,935,575 996,283
Interest expense (26,179,255) (13,081,070) (16,162,835)
Other income (expense) (250,000) - 8,519
-----------------------------------------
Total other expense (23,555,941) (8,145,495) (15,158,033)
-----------------------------------------
Loss before extraordinary item and cumulative
effect of change in accounting principle (124,172,932) (69,326,130) (57,073,087)
Extraordinary item - early extinguishment of debt - - (2,430,456)
-----------------------------------------
Loss before the cumulative effect of change in
accounting principle (124,172,932) (69,326,130) (59,503,543)
Cumulative effect of change in accounting principle - (2,878,949) -
-----------------------------------------
Net loss ($124,172,932) ($72,205,079) ($59,503,543)
==========================================
Net loss available to common stockholders ($143,736,021) ($83,722,079) ($61,112,894)
==========================================
Loss per common share excluding extraordinary item and
cumulative effect of change in accounting principle
Basic and Diluted ($5.34) ($3.08) ($2.89)
Loss per common share before cumulative effect of change
in accounting principle: Basic and Diluted ($5.34) ($3.08) ($3.01)
Cumulative effect of change in accounting principle - (0.11) -
-----------------------------------------
Net loss per common share: Basic and Diluted ($5.34) ($3.19) ($3.01)
Weighted average number of shares used in computing ==========================================
net loss per common share: Basic and Diluted 26,903,518 26,249,173 20,320,626
==========================================
Pro forma amounts assuming the accounting change
is applied retroactively:
Loss before extraordinary item ($124,172,932) ($69,326,130) ($57,914,190)
Net loss ($124,172,932) ($69,326,130) ($60,344,646)
Net loss per common share ($5.34) ($3.08) ($3.05)
<FN>
The accompanying notes are an integral part of these consolidated financial statements.
</FN>
F-4
CTC Communications Group, Inc.
Consolidated Statements of Stockholders' Equity (Deficit)
Common Stock Additional Retained Amount
--------------------- Paid-In Deferred Earnings Treasury Due From
Shares Par Value Capital Compensation (Deficit) Stock Stockholders Total
---------- --------- ---------- ------------ ------------ -------- ------------ -----------
Balance at March 31,
1999................... 10,352,513 $103,525 $8,386,816 $(212,410) $(45,390,732) -- $(31,025) $(37,143,826)
Issuance of stock
pursuant to employee
stock purchase plan... 16,875 169 183,465 -- -- -- -- 183,634
Exercise of employee
stock options......... 1,339,979 13,400 7,179,737 -- -- -- -- 7,193,137
Issuance of common
stock................. 4,025,000 40,250 61,758,528 -- -- -- -- 61,798,778
Issuance of common
stock due to stock
split................. 7,740,882 77,408 (77,408) -- -- -- -- --
Noncash stock
compensation.......... 10,503 105 2,456,934 -- -- -- -- 2,457,039
Acquisition of treasury
stock................. -- -- -- -- -- $(3,494,121) -- (3,494,121)
Retirement of treasury
stock................. (88,834) (888) (3,493,233) -- -- 3,494,121 -- --
Deferred compensation.. -- -- -- 106,000 -- -- 106,000
Receipt of amounts due
from stockholders..... -- -- -- -- -- -- 31,025 31,025
Accretion of offering
costs related to
Series A convertible
preferred stock....... -- -- -- -- (112,000) -- -- (112,000)
Accretion of warrants
related to Series A
convertible preferred
stock................. -- -- -- -- (296,888) -- -- (296,888)
Preferred stock
dividend.............. -- -- -- -- (1,200,459) -- -- (1,200,459)
Conversion of Series A
convertible preferred
stock to common stock 2,376,660 23,767 14,257,181 -- -- -- -- 14,280,948
Net loss............... -- -- -- -- (59,503,543) -- -- (59,503,543)
---------- -------- ---------- --------- ------------ --------- --------- ------------
Balance at
March 31, 2000......... 25,773,578 257,736 90,652,020 (106,410) (106,503,622) -- -- (15,700,276)
Issuance of stock
pursuant to employee
stock purchase plan... 5,689 57 135,341 -- -- -- -- 135,398
Exercise of employee
stock options......... 938,733 9,387 4,499,809 -- -- -- -- 4,509,196
Acquisition of treasury
stock................. -- -- -- -- -- (1,988,046) -- (1,988,046)
Retirement of treasury
stock................. (135,863) (1,359) (1,986,687) -- -- 1,988,046 -- --
Deferred compensation.. -- -- -- 79,500 -- -- 79,500
Accretion of offering
costs related to
Series B redeemable
convertible preferred
stock . -- -- -- -- (1,033,466) -- -- (1,033,466)
Preferred stock
dividend.............. -- -- -- -- (10,483,534) -- -- (10,483,534)
Net loss.............. -- -- -- -- (72,205,079) -- -- (72,205,079)
---------- -------- ---------- --------- ------------ --------- --------- ------------
Balance at
December 31, 2000...... 26,582,137 $265,821 $93,300,483 $ (26,910) $(190,225,701) -- -- $(96,686,307)
========== ======== =========== ========= ============== ======== ========== ==============
(table continued on next page)
F-5
CTC Communications Group, Inc.
Consolidated Statements of Stockholders' Equity (Deficit)
(table continued)
Common Stock Additional Retained Other
--------------------- Paid-In Deferred Earnings Treasury Comprehensive
Shares Par Value Capital Compensation (Deficit) Stock Income Total
---------- --------- ---------- ------------ ------------ -------- ------------ -----------
Balance at
December 31, 2000...... 26,582,137 $265,821 $93,300,483 $(26,910) $(190,225,701) -- -- $(96,686,307)
Issuance of stock
pursuant to employee
stock purchase plan... 132,120 1,321 401,169 -- -- -- -- 402,490
Exercise of employee
stock options......... 404,062 4,041 1,817,775 -- -- -- -- 1,821,816
Acquisition of treasury
stock................. -- -- -- -- -- $(91,533) -- (91,533)
Retirement of treasury
stock................. (14,589) (146) (91,387) -- -- 91,533 -- --
Deferred compensation.. -- -- -- 26,910 -- -- 26,910
Stock options issued
to outside consultant -- -- 100,000 -- -- -- -- 100,000
Accretion of offering
costs related to
Series B convertible
preferred stock....... -- -- -- -- (1,653,546) -- -- (1,653,546)
Preferred stock
dividend.............. -- -- -- -- (17,909,543) -- -- (17,909,543)
Unrealized loss on
derivative instruments -- -- -- -- -- -- (2,886,424) (2,886,424)
Net loss............... -- -- -- -- (124,172,932) -- -- (124,172,932)
-------------
Comprehensive loss..... -- -- -- -- -- -- -- (127,059,356)
---------- -------- ---------- --------- ------------ -------- ------------ -------------
Balance at
December 31, 2001...... 27,103,730 $271,037 $95,528,040 -- $(333,961,722) -- $(2,886,424) $(241,049,069)
<FN>
The accompanying notes are an integral part of these consolidated financial statements.
</FN>
F-6
CTC COMMUNICATIONS GROUP, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Nine
Year Ended Months Ended Year Ended
December 31, December 31, March 31,
2001 2000 2000
---------------- ------------ ------------
Operating Activities:
Net loss $(124,172,932) $(72,205,079) $(59,503,543)
Adjustments to reconcile net loss to net cash
provided by (used in)operating activities:
Extraordinary item-early extinguishment of debt - - 2,430,456
Depreciation and amortization 77,002,257 34,916,209 18,753,667
Interest related to warrants and certain fees 679,312 704,671 2,754,556
Provision for doubtful accounts 4,123,921 2,950,521 1,528,564
Stock-based compensation 126,910 79,500 2,563,039
Gain on sale of property and equipment - (247,740) -
Changes in operating assets and liabilities:
Accounts receivable (8,045,563) (6,122,609) (22,292,968)
Prepaid commissions 318,995 (478,513) 459,518
Prepaid expenses and other current assets (156,247) 406,448 (414,853)
Amounts due from employees 53,743 (113,804) (42,928)
Income taxes receivable - - 2,313,070
Deferred financing costs and other assets 2,650,231 (8,429,466) (5,247,944)
Accounts payable and accrued expenses 8,837,129 3,132,793 18,889,269
Accrued salaries and related taxes (286,696) 799,279 826,433
--------------------------------------------
Net cash used by operating activities (38,868,940) (44,607,790) (36,983,664)
Investing Activities:
Additions to property and equipment (74,425,034) (73,554,572) (41,667,211)
Restricted cash (7,500,000) - -
Proceeds from dispositions of property
and equipment 1,734,115 247,740 -
Deposits for property and equipment - - (2,053,900)
Repayments of notes receivable from stockholders 5,414,676 - -
Notes receivable from stockholders (256,822) (6,375,135) -
--------------------------------------------
Net cash used in investing activities (75,033,065) (79,681,967) (43,721,111)
Financing Activities:
Proceeds from the issuance of Series B
Redeemable Convertible Preferred Stock,
net of offering costs - 191,732,271 -
Proceeds from the issuance of common stock 2,132,773 2,656,548 65,681,228
Amounts due from stockholders, net - - 31,025
Borrowings under notes payable 125,000,000 25,000,000 185,165,892
Repayment of notes payable (1,697,618) (26,074,674) (147,996,587)
Repayment of capital lease obligations (25,273,452) (9,088,102) (4,337,885)
--------------------------------------------
Net cash provided by financing activities 100,161,703 184,226,043 98,543,673
--------------------------------------------
Increase in cash and cash equivalents (13,740,302) 59,936,286 17,838,898
Cash and cash equivalents at beginning of year 80,029,442 20,093,156 2,254,258
--------------------------------------------
Cash and cash equivalents at end of period $66,289,140 $80,029,442 $20,093,156
============================================
Supplemental disclosure of cash flow information:
Cash paid for interest $24,285,376 $11,617,264 $13,408,279
Cash received for income taxes - - $(2,463,571)
Noncash investing and financing activities:
Receipt of common stock in exercise of
stock options $91,533 $1,988,046 $3,494,121
Network and related equipment
acquired under capital leases $41,103,288 $65,463,006 $16,547,964
Network and related equipment
acquired under notes payable - $362,615 $12,972,029
Conversion of Series A Redeemable Convertible
Preferred Stock to common stock - - $14,280,948
<FN>
The accompanying notes are an integral part of these consolidated financial statements.
</FN>
F-7
CTC Communications Group, Inc.
Notes to Consolidated Financial Statements
December 31, 2001
1. Nature of Business
The Company
CTC Communications Group, Inc., through its wholly-owned operating
subsidiary, CTC Communications Corp. (the "Company") is an integrated
communications provider ("ICP"), which offers voice and data services
predominantly to medium and larger-sized business customers in the Northeast
and Mid-Atlantic states. Prior to becoming an ICP in January 1998, the
Company, since 1984, had been a sales agent for Verizon (formerly Bell
Atlantic). The Company has also offered long distance and data services
under its own brand name since 1994. In January 1999, the Company began
deploying a packet-switched network in its existing markets. The Company
operates in a single industry segment providing telecommunication service to
medium and larger-sized business customers.
As the Company continues to deploy its network, further penetrates its
existing region and expands into new markets throughout the Boston-
Washington, D.C. corridor, the Company will need significant amounts of
additional capital. The Company believes that proceeds available from the
preferred stock financing described in Note 9, the senior secured facility
described in Note 6, cash on hand and the amounts expected to be available
under its bank and lease financing arrangements will be sufficient to fund
its planned capital expenditures, working capital and operating losses for
at least the next 12 months. We also believe that the above noted sources
fully fund our business plan. During this period the Company may seek to
raise additional capital through the issuance of debt or equity securities,
the timing of which will depend on market conditions. The Company may also
seek to raise additional capital through vendor financing, equipment lease
financing or bank loans.
There can be no assurance that additional financing will be available on
terms acceptable to the Company when needed or if at all. The agreements
governing its existing indebtedness limit its ability to obtain debt
financing. If the Company is unable to obtain financing when needed, it may
delay or abandon its development and expansion plans which could have a
material adverse effect on its business, results of operations and financial
condition. The actual timing and amount of its capital requirements may be
materially affected by various factors, including the timing and actual cost
of the network, the timing and cost of its expansion into new markets, the
extent of competition and pricing of telecommunications services by others
in its markets, the demand by customers for its services, technological
change and potential acquisitions.
The Company's covenants under its debt and vendor financing facilities (see
Note 6) contemplate improvements in the Company's operating results in
fiscal 2002 over 2001. Among other things, these covenants require
significant improvement in Earnings Before Interest, Taxes, Depreciation and
Amortization (EBITDA), as defined in the Senior Facility and the Vendor
F-8
Financing Facility, (see Note 6). The Company's ability to remain in
compliance with the covenants is dependent upon the Company's continued
execution of its business plan which consists of the following primary
initiatives; continued migration of existing offnet customers onto the
Company's network, improving margins by reducing network costs of goods,
(primarily by replacing leased network facilities with owned and operated
fiber facilities), controlling selling, general and administrative expenses
and continued revenue growth by adding new customers and selling new
services. In the event that conditions arise that do not allow the Company
to meet all of the primary initiatives of its business plan, management
expects to take all necessary actions to remain in compliance with its
required covenants which may include the reduction of certain operating
expenses, migration of customers onto the Company's network and elimination
of certain discretionary expenses. Management believes that if necessary,
these actions could be implemented to meet its covenants, including its
EBITDA covenant.
2. Summary of Significant Accounting Policies
Basis of Presentation
The accompanying consolidated financial statements include the accounts of
CTC Communications Group, Inc. and its subsidiaries. All significant
intercompany balances and transactions have been eliminated. Certain amounts
in the prior years have been reclassified to conform to current year
presentation.
At the Annual Meeting of the Company's Board of Directors held on July 27,
2000, the Company changed its fiscal year from a twelve month period ending
March 31 of each year to a twelve month period ending December 31 of each
year. The consolidated financial statements include presentation of the
nine month transition period beginning April 1, 2000 and ending December 31,
2000.
The following table presents certain financial information for the twelve
months ended December 31, 2001, December 31, 2000 (restated for SAB 101 as
discussed below), and March 31, 1999, respectively.
Twelve months ended
December 31, March 31,
2001 2000 2000
------------ ------------ ---------
(Unaudited)
Telecommunications revenue $299,438,481 $215,278,467
$153,100,934
Costs of telecommunications revenue 240,518,899 168,103,119
119,585,548
(excluding depreciation and amortization)
Loss from operations (100,616,991) (73,688,504)
(41,915,054)
Net loss (124,172,932) (90,920,874)
(59,503,543)
Net loss per share, basic and diluted $(5.34) $(4.05)
$(3.01)
============ ============
============
F-9
Cash and Cash Equivalents
The Company considers all highly liquid investments with original maturities
of three months or less as cash equivalents.
The Company has entered into an equipment lease financing arrangement which
restricts $7.5 million of cash as security for this arrangement. At
December 31, 2001, other non-current assets include $6.9 million of this
restricted cash and the balance of $550,000 is reflected as current
restricted cash.
Allowance for Doubtful Accounts
The Company maintains allowances for doubtful accounts for estimated losses
resulting from the inability of its customers to make required payments.
Property and Equipment
Property and equipment are stated at the lower of cost or fair market value
less accumulated depreciation and amortization. The Company accounts for
internal use software under the provisions of AICPA Statement of Position
98-1 "Accounting for the Costs of Computer Software Developed or Obtained
for Internal Use" ("SOP 98-1"). Capitalization of costs commences when the
preliminary project stage, as defined under SOP 98-1, is completed.
Amortization on a straight-line basis, commences at the point that the
software components have been subjected to all significant testing phases
and are substantially complete and ready for their intended use. The
Company also capitalizes certain external and internal costs associated with
the installation of network equipment. A significant portion of the network
and related equipment costs is subject to the risk of rapid technological
change. Accordingly, the Company's useful lives reflect this risk.
Depreciation and amortization is provided using the straight-line method
over the following estimated useful lives:
Furniture, fixture, vehicles and equipment................ 3-7 years
Network and related equipment............................. 2-5 years
Fiber-related equipment .................................. 3-5 years
Building ................................................. 14 years
Fiber .................................................... 15 years
Leasehold improvements and assets under capital leases are amortized over
the lesser of the lease term or the useful life of the property, usually 3-5
years.
Impairment of Long-Lived Assets
In accordance with Statement of Financial Accounting Standards ("SFAS") No.
121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of" ("SFAS No. 121"), the Company reviews its long-
lived assets, including property and equipment, and identifiable intangibles
for impairment whenever events or changes in circumstances indicate that the
carrying amount of the assets may not be fully recoverable. To determine
recoverability of its long-lived assets, the Company evaluates the
F-10
probability that future undiscounted net cash flows will be less than
the carrying amount of the assets. Impairment is measured at fair value.
Collocation Agreements
The Company annually reviews its collocation agreements based on its current
fiber deployment strategy and in 2000 concluded that it no longer required
all of the collocation sites originally planned enabling a consolidation of
collocation sites. Consequently, the collocation consolidation resulted in
a $700,000 and $2.4 million accrual of collocation termination costs and
write-off of deposits as a component of general and administrative expenses
for the year ended December 31, 2001 and the nine months ended December 31,
2000, respectively.
Revenue Recognition
Telecommunication revenues primarily relate to customer usage of services
and recurring monthly fees to customers for certain other services.
Revenues related to usage are recognized as usage accrues.
Retroactive to April 1, 2000, the Company revised its revenue recognition
policy for certain recurring monthly fees to be consistent with applicable
provisions of Staff Accounting Bulletin 101, "Revenue Recognition in
Financial Statements" ("SAB 101"). Previously, monthly recurring fees for
the next month's service were recognized at the time all of the Company's
significant performance obligations had been fulfilled and the related
monthly service fee became nonrefundable based on the terms of the Company's
contract with its customers. The new method of accounting defers
recognition of monthly recurring service fees to the period in which the
service is available to the customer. The cumulative effect of the change
resulted in a charge to income of $2,879,000 which is included in the net
loss for the nine months ended December 31, 2000. The effect of the change
on the nine months ended December 31, 2000 was to increase the loss before
the cumulative effect of the accounting change by $1,018,000 ($0.04 per
share).
For the three months ended June 30, 2000, the Company recognized $9,649,000
in revenue that was included in the cumulative effect adjustment as of April
1, 2000. The effect of that revenue in the first quarter of 2000 was to
increase income by $2,506,000 during that period.
Deferred Financing Costs
In connection with certain financing arrangements, the Company capitalized
$719,527, $3,971,577 and $3,099,424 of financing costs during the year ended
December 31, 2001, the nine months ended December 31, 2000 and the year
ended March 31, 2000, respectively. These costs represent professional and
debt origination fees. The financing arrangements are being amortized over
the lives of the agreements. Due to the early extinguishment of the fiscal
1999 financing arrangements, the unamortized balance of the deferred
financing costs and unamortized value of the warrants relating to those
agreements were recognized as an extraordinary expense item in the fiscal
year ended March 31, 2000. For the year ended December 31, 2001, the nine
months ended December 31, 2000, and the year ended March 31, 2000, the
Company recorded amortization, excluding the extraordinary expense item, of
F-11
$998,191, $667,588 and $1,743,958, respectively, related to deferred
financing costs associated with the various financing arrangements.
Income Taxes
The Company provides for income taxes under the liability method prescribed
by SFAS No. 109, "Accounting for Income Taxes." Under this method, deferred
income taxes are recognized for the future tax consequences of differences
between the tax and financial accounting bases of assets and liabilities at
each year end. Deferred income taxes are based on enacted tax laws and
statutory tax rates applicable to the periods in which the differences are
expected to affect taxable income (loss). Valuation allowances are
established when necessary to reduce deferred tax assets to the amounts
expected to be realized.
Income (Loss) Per Share
The Company's income (loss) per share information is prepared in conformity
with SFAS No. 128 "Earnings per Share" ("SFAS No. 128"). SFAS No. 128
replaced the calculation of primary and fully diluted earnings per share
with basic and diluted earnings per share. Unlike primary earnings per
share, basic earnings per share excludes any dilutive effects of options,
warrants and convertible securities. Diluted earnings per share is similar
to the previously reported fully diluted earnings per share.
Concentration of Credit Risk
Financial instruments which potentially subject the Company to a
concentration of credit risk principally consist of cash, cash equivalents
and accounts receivable. Until utilized, the net proceeds from the TD
credit facility and Series B redeemable convertible preferred stock
financing are being invested in short-term, interest-bearing instruments
and other investment-grade securities which minimizes the concentration of
credit risk with respect to cash and cash equivalents. Concentration of
credit risk with respect to accounts receivable at December 31, 2001 and
2000 was minimized by the large number of customers across New England and
New York State. The Company reduces its risk of loss through periodic
review of customer creditworthiness and generally does not require
deposits. From a supplier standpoint, the Company has a large concentration
of recurring expenditures to Verizon primarily as a result of resale
services.
Fair Value of Financial Instruments
The Company is required to disclose the fair value of financial instruments.
At December 31, 2001 and 2000, the Company's financial instruments consist
of cash, cash equivalents, accounts receivable, accounts payable and accrued
expenses, notes payable and interest rate swap and collar agreements. The
fair value of these financial instruments, excluding the notes payable and
interest rate swap and collar agreements, approximates their cost due to the
short-term maturity of these financial instruments. Of the $228,354,399
total notes payable, the carrying value of $225,000,000 approximates fair
value due to the variable interest rates on the Note. The carrying value of
F-12
the remaining notes payable of $3,354,399 are not materially different
than their estimated fair value. The fair value of the interest rate swap
and collar represent liabilities to the Company of $1,196,201 and
$1,469,509, respectively, at December 31, 2001. The fair value of the cap at
December 31, 2001 is immaterial.
Significant Estimates and Assumptions
The financial statements have been prepared in conformity with accounting
principles generally accepted in the United States. The preparation of
financial statements in conformity with accounting principles generally
accepted in the United States requires management to make significant
estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date
of the financial statements and the reported amounts of revenues and
expenses during the reporting period. Significant estimates and assumptions
made by management affect the Company's allowance for doubtful accounts and
certain accrued expenses. Actual results could differ from those estimates.
Accounting for Stock Options
The Company grants stock options for a fixed number of shares to employees
with an exercise price at least equal to the fair value of the shares at the
date of the grant. The Company has elected to follow Accounting Principles
Board Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB No.
25") and related interpretations in accounting for its employee stock
options. Under APB No. 25, because the exercise price of the Company's
employee stock options equals the market price of the underlying stock on
the date of grant, no compensation expense is recognized. Stock options
and other stock-based awards to non-employees are accounted for based on the
provisions of SFAS No. 123 and EITF 96-18, "Accounting for Equity
Instruments That Are Issued to Other Than Employees for Acquiring, or in
Conjunction with Selling, Goods or Services". During the year ended
December 31, 2001, the Company granted stock options to outside consultants
to purchase an aggregate of 40,000 shares of its common stock. These
options have exercise prices ranging from $3.06 to $4.28. As of December
31, 2001, 30,000 of these options have vested and a cost of $100,000 has
been recorded to the general and administrative expense for the year ended
December 31, 2001.
Leases
Leases, in which the Company is the lessee and which transfer substantially
all of the risks and benefits of ownership to the Company, are classified as
capital leases. Accordingly, assets and liabilities are recorded at amounts
equal to the lesser of the present value of the minimum lease payments or
the fair value of the leased property or equipment at the beginning of the
respective lease terms. Interest expense relating to the lease obligations
is recorded to effect constant rates of interest over the terms of the
lease. Leases which do not meet capital lease criteria are classified as
operating leases and the related rentals are charged to
expense as incurred.
F-13
Derivatives and Hedging Activities
In June 1998, the Financial Accounting Standards Board (FASB) issued
Statement No. 133, "Accounting for Derivative Instruments and Hedging
Activities", and its Amendments, FASB Statements Nos. 137 and 138, in June
1999 and June 2000, respectively (collectively, FAS 133). FAS 133 requires
the Company to recognize all derivatives on the balance sheet at fair value.
Derivatives that are not hedges must be adjusted to fair value through
income. If the derivative is designated and qualifies as a hedge, depending
on the nature of the hedge, changes in the fair value of derivatives are
either offset against the change in fair value of assets, liabilities, or
firm commitments through earnings (fair value hedge), or, for the effective
portion of the hedge, recorded in other comprehensive income until the
hedged item is recognized in earnings (cash flow hedge). The ineffective
portion of a derivative's change in fair value will be immediately
recognized in earnings. The Company adopted FAS 133 on January 1, 2001. The
adoption of this statement resulted in a cumulative effect adjustment to
other comprehensive income (loss) of $(716,504), (see Note 12).
Cash Flow Hedging Strategy
As required by the Company's credit facility with TD Securities (US) Inc.
(the TD Credit Facility), the Company maintains an interest rate collar and
an interest rate swap. These instruments hedge the variable rate of interest
due on the TD Credit Facility. The interest rate collar effectively locks
$33 million of the TD Credit Facility borrowings between 12.25% and 9.67%.
The interest rate swap effectively caps $17 million of the TD Credit
Facility borrowings at 10.75%. Both the collar and the swap mature on
September 22, 2003. In December 2001 and January 2002, the Company entered
into two interest rate cap agreements of 6.5% maturing in October 2003 and
September 2003 on $12.5 million and $50 million of the TD Credit Facility
borrowings, respectively. All of these instruments have been entered into
for non-trading purposes.
During the year ended December 31,2001, the Company recorded a loss of
$(716,504) in other comprehensive income (loss) as a cumulative effect
adjustment in connection with the adoption of FAS 133, effective January 1,
2001. During the year ended December 31,2001, the Company recorded a loss
of $(1,949,206) in other comprehensive income (loss) for the change in fair
value of the collar, swap and cap outstanding at December 31, 2001.
Furthermore, during the year ended December 31, 2001, the Company
reclassified out of other comprehensive income (loss) to interest expense a
loss of $(29,937) related to the ineffective portion of the collar and the
swap and gain of $250,651 for the same period related to the time value
deterioration on the collar, (see Note 12).
For the period from January 1, 2002 to December 31, 2002, the Company
expects to reclassify approximately $(1,840,000) of losses on the collar,
the swap and interest cap agreements from accumulated other comprehensive
income (loss) to interest expense due to the payment of variable interest
associated with the TD Credit Facility.
F-14
Segment Information
The Company operates in a single industry segment and manages its business
as one operating segment.
Recent Accounting Pronouncements
In July, 2001, the Financial Accounting Standards Board issued Statement No.
141, "Business Combinations" (FAS 141) and Statement No. 142, "Goodwill and
Other Intangible Assets" (FAS 142). FAS 141 eliminates the pooling-of-
interests method of accounting for business combinations except for
qualifying business combinations that were initiated prior to July 1, 2001.
FAS 141 further clarifies the criteria to recognize intangible assets
separately from goodwill. The requirements of Statement 141 are effective for
any business combination accounted for by the purchase method that is
completed after June 30, 2001. Under FAS 142, goodwill and indefinite lived
intangible assets are no longer amortized but are reviewed annually (or more
frequently if impairment indicators arise) for impairment. Separable
intangible assets that are not deemed to have an indefinite life will
continue to be amortized over their useful lives. The amortization provisions
of Statement 142 apply to goodwill and intangible assets acquired after June
30, 2001. With respect to goodwill and intangible assets acquired prior to
July 1, 2001, companies are required to adopt FAS 142 in their fiscal year
beginning after December 15, 2001. For the intangible assets acquired on or
before June 30, 2001 the intangibles will be amortized during this transition
period until adoption of FAS 142. The Company is not expecting any material
impact from the adoption FAS 141 and FAS 142 on its financial position and
results of operations.
In June 2001, the Financial Accounting Standards Board issued Statement No.
143, "Accounting for Asset Retirement Obligations" (FAS 143), which
addresses financial accounting and reporting for obligations associated with
the retirement of tangible long-lived assets and the associated asset
retirement costs. It also applies the legal obligations associated with the
retirement of long-lived assets that result from acquisition, construction,
development and (or) the normal operation of a long-lived asset, except for
certain obligations of lessees. The standard is effective for fiscal years
beginning after June 15, 2002 (January 1, 2003 for the Company), with
earlier application encouraged. The Company believes the adoption of FAS 143
will not have a material impact on the Company's financial position or
results of operations.
In August 2001, the Financial Accounting Standards Board issued Statement
No. 144, "Accounting for the Impairment or Disposal of Long-Lived Assets"
(FAS 144), which addresses the financial accounting and reporting for the
impairment of long-lived assets. This statement supercedes Statement of
Financial Accounting Standards No. 121, "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" and the
accounting and reporting provisions for the disposal of a segment of a
business of APB Opinion No. 30, "Reporting the Results of Operations -
Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions."
F-15
The provisions of this statement are effective for the financial statements
issued for fiscal years beginning after December 15, 2001, and interim
periods within those fiscal years, with early adoption permitted. The
Company believes that the adoption of FAS 144 will not have a material
impact on the Company's financial position or results of operations.
3. Property and Equipment
Property and equipment, at cost, and related accumulated depreciation
and amortization balances are as follows:
December 31,
2001 2000
----------- ------------
Furniture, fixtures, vehicles and equipment.........$ 11,497,228 $ 5,922,131
Network and related equipment....................... 149,680,055 115,141,984
Leasehold improvements.............................. 40,187,598 21,170,502
Fiber and related equipment......................... 28,412,779 17,627,621
Assets under capital lease ......................... 136,309,786 99,753,175
------------ ------------
366,087,446 259,615,413
Less accumulated depreciation and amortization...... 135,762,149 63,873,598
----------- ------------
$230,325,297 $195,741,815
============ ============
Assets under capital lease principally consist of $93,482,053 of network and
related equipment, $27,043,528 of fiber related equipment, $4,098,152 of
furniture and fixtures, and $11,686,053 of building and leasehold
improvements. Amortization expense of capital lease assets is included in
depreciation expense. Capitalized interest of $5,172,698 and $3,659,000 were
recorded in the year ended December 31, 2001 and the nine months ended
December 31, 2000, respectively.
4. Related-Party Transactions
The installation of certain telecommunications equipment and certain related
activities are generally subcontracted to a company in which the Chairman of
the Company is the major shareholder. In addition, equipment is purchased
from this company. Amounts paid to this company for hardware and services,
based on fair market value, aggregated $11,374,050, $3,928,713 and $1,361,430
during the year ended December 31, 2001, the nine months ended December 31,
2000 and the year ended March 31, 2000, respectively. Amounts payable to this
company were $1,641,525 and $744,796 at December 31, 2001 and 2000,
respectively.
The Company leases office space from a trust in which the Chairman is a
beneficiary. Rent expense for these facilities aggregated $51,584, $38,688
and $51,584 during the year ended December 31, 2001, the nine months ended
December 31, 2000 and the year ended March 31, 2000, respectively. The lease
expires during fiscal 2002.
F-16
The Company subleases space to a company controlled by the Chairman of the
Company. Terms of the sublease are identical to those included in the
Company's lease. Sublease rental income totaled $131,073, $100,862 and
$108,326 during the year ended December 31, 2001, the nine months ended
December 31, 2000 and the year ended March 31, 2000, respectively.
In May 2000, the Company entered into a 15 year lease for approximately
71,250 feet from a limited liability company in which two executive officers,
including the Chairman, own a majority of membership interests, and in which
three executive officers each own a minority membership interest. The
payments under this lease were $1,933,508 and $1,162,982 for the year ended
December 31, 2001 and the nine months ended December 31, 2000. The Company
has funded a security deposit of $889,050 as of December 31, 2001. During
the nine months ended December 31, 2000, the Company funded an escrow account
guarantee for this lease in the sum of $2.5 million which was repaid with
interest to the Company during the year ended December 31, 2001. This lease
has been accounted for as a capital lease. The Company has recorded capital
lease obligations to this related party of $10.0 million at December 31, 2001
and 2000. The limited liability company has a mortgage on the building at
December 31, 2001 of $9,233,575.
As of December 31, 2001 and 2000, the Company had advanced funds to certain
stockholders, who are executives and officers, amounting to $1,217,281 and
$6,375,135, respectively, evidenced by fully secured promissory notes. These
notes bear interest at 10.75%. During March 2001, $5,414,676 was repaid
together with interest due. In February 2002, the Company advanced $545,243
to two executives that have been secured fully by promissory notes bearing
interest at 10.75%.
5. Accounts Payable and Accrued Expenses
Accounts payable and accrued expenses consist of the following:
December 31,
2001 2000
----------- ----------
Trade accounts payable and accrued
telecommunication costs......................... $51,137,700 $41,174,477
Sales tax payable................................. 4,789,078 7,209,500
Other accrued expenses............................ 2,371,901 1,077,573
----------- -----------
$58,298,679 $49,461,550
=========== ===========
F-17
6. Financing Arrangements
In September 1998, the Company entered into an agreement providing for a
revolving line of credit agreement (the "Revolving Line of Credit") with a
consortium of lenders, providing for a three year senior secured credit
facility of up to $75,000,000. Advances under the Revolving Line of Credit
were subject to interest at the prime rate plus 1.75% per annum. The
outstanding debt was secured by all the Company's assets excluding those
acquired through purchase money financing. The Company paid a one-time up
front fee which was capitalized as a deferred financing cost and amortized
as interest expense over the term of the Revolving Line of Credit. Warrants
to purchase an aggregate of 1,461,618 shares of the Company's common stock
at an exercise price of $4.50 per share were issued to the lenders in
connection with the transaction. The fair value of the warrants of
$1,909,848 was amortized and included in interest expense over the term of
the Revolving Line of Credit. Borrowings under the Revolving Line of Credit
were repaid from the senior secured credit facility obtained in March 2000
and described below. The unamortized balance of deferred financing costs
associated with the Revolving Line of Credit were recognized as an
extraordinary item for the fiscal year ended March 31, 2000.
In March 2000, the Company entered into a $225 million senior secured credit
facility (the "Senior Facility") with a consortium of banks. This Senior
Facility is comprised of a $50 million senior secured revolving credit
facility (the "Revolver") with a seven and one-half year term, a $100
million senior, delayed draw facility with a seven and one-half year term
("Term A") and a $75 million senior secured eight year term loan facility
("Term B"). This facility is secured by all assets of the Company excluding
those assets used to secure other notes payables and capital leases. As
amended in March 2002, advances under the Revolver and Term A bear interest
at either prime rate plus 2.25-3.5% per annum or London interbank rate
("LIBOR") plus 3.25-4.5% per annum based upon the total leverage ratio in
effect at the time. Term B borrowings bear interest at the prime rate plus
3.75% per annum or LIBOR plus 4.75% per annum. Borrowing at prime or LIBOR
is at our discretion. As required by the Senior Facility, Term B borrowings
of $75 million were made at the closing date along with borrowings of $25
million under the Revolver. The proceeds were used to pay off an existing
$25 million vendor financing facility and the outstanding balance of the
revolving line of credit approximating $43 million. The
Company paid a one-time up front fee and other closing costs at the closing,
which have been capitalized as deferred financing costs and are being
amortized as interest expense over the term of the Senior Facility.
We will pay an annual commitment fee of .75-1.5% per annum, depending on the
percentage of the total Senior Facility used. At December 31, 2001, the
entire $225 million was outstanding.
At June 30, 2003, we will begin to repay the outstanding balances of Term A
and Term B on a quarterly basis through the year 2007.
F-18
In September 2000, we entered into an interest rate collar agreement with a
notional amount outstanding at December 31, 2000 of $33 million, with an
expected maturity date in the year 2003. The interest rate collar
effectively locks $33 million of the Senior Facility borrowings between
12.25% and 9.67%. In addition we have an interest rate swap which effectively
caps $17 million of borrowings at 10.75%. In December 2001 and January 2002,
we entered into two additional interest rate cap agreements of 6.5% maturing
in October 2003 and September 2003 on $12.5 million and $50 million of
borrowings, respectively.
These interest rate collar, swap and cap agreements expose the Company to
losses in the event the counter party is unable to perform under the
contracts. The risk of nonperformance is low due to the credit worthiness of
the counter party.
In March 2002, we amended the agreement covering our Senior Facility to
include new covenant levels as well as an increase in the interest rate
grids. The Senior Facility provides for certain financial and operational
covenants, including but not limited to minimum access lines installed and
billable, minimum quarterly revenue and operating cash flow, and maximum
capital expenditures and other investments. At December 31, 2001, the
Company was not in compliance with the covenants prior to the amendment
signed in March 2002. However, as of December 31, 2001, the Company is in
compliance with all the amended covenants. In connection with the amendment,
the bank syndicate will receive common stock warrants, which could total
3.25% of our outstanding shares of common stock (if warrants to purchase
common stock are issued in conjunction with the Company's March 2002 Vendor
Finance Facility, as discussed in the following paragraph). The issuance,
terms and prices of the warrants are structured in the same manner as the
warrants issuable under the Vendor Finance Facility.
In March 2002, we entered into an agreement with a vendor ("Vendor Finance
Facility"), which an executive officer thereof is on the Board of Directors
of the Company, which restructures approximately $48 million in outstanding
capital leases. The leases have been restructured into 36 month leases
beginning in March 2002. There will be no principle or interest payments for
the first six months and the leases will then be amortized over the remaining
30 months. In addition, subject to meeting the conditions for the financing,
we will also receive up to $40 million in capital lease financing from the
finance subsidiary of this vendor for equipment purchases in 2002 available
in four separate tranches of $10 million each. These are available quarterly
on the first days of February, May, August and November 2002. For each new
tranche of capital drawn, there are no payments required for the first six
months, and then the leases will be amortized over the next 30 months. This
additional capital is dependent upon our compliance with the conditions in
the agreement, including compliance with financial and operating covenants.
These covenants are virtually the same as those in the amended Senior
facility with an additional covenant relating to minimum cash balance. Prior
to each tranche period, we must elect to utilize the financing tranche for
that period or decline it and the remaining tranches. If we elect to use a
tranche, we will issue warrants before the beginning of the tranche period
equal to 2% of our outstanding common stock for the first $10 million, 1% of
F-19
the then outstanding common stock for each of tranches two and three,
and 2.5% of the then outstanding common stock for the fourth tranche. The
number of shares of common stock outstanding for the first tranche is
determined as of January 1, 2002. The second through fourth tranches are
determined as of the first day of the month immediately preceding the first
day of the tranche period. The initial warrants will be issued at an exercise
price of $4.10. Subsequent warrants, if issued, would be priced at the
average of our stock price for the period from the 10th to the 14th trading
days of the month during which such warrants are issued.
Notes payable, net of the unamortized discount of related warrants, consisted
of the following:
December 31,
2001 2000
------------ ------------
Senior facility................................ $225,000,000 $100,000,000
Notes payable for network and related equipment 3,354,399 5,002,573
------------ ------------
$228,354,399 $105,002,573
Less current portion........................... (3,354,399) (1,983,984)
------------ ------------
$225,000,000 $103,018,589
============ ============
Long-term debt matures as follows:
Year ending December 31:
2002................................................... 3,354,399
2003................................................... 11,812,500
2004................................................... 27,000,000
2005................................................... 36,375,000
2006................................................... 43,875,000
2007................................................... 82,312,500
2008................................................... 23,625,000
------------
$228,354,399
============
7. Leases
The Company leases office facilities under long-term lease agreements
classified as operating leases. The following is a schedule of future minimum
lease payments, net of sublease income, for operating leases as of December
31, 2001:
Sublease
Operating Rental
Leases Income Net
---------- --------- -----------
Year ending December 31:
2002.................................... 3,499,567 (144,933) 3,354,634
2003.................................... 2,961,084 (109,212) 2,851,872
2004.................................... 2,252,200 (81,909) 2,170,291
2005.................................... 1,122,295 - 1,122,295
2006.................................... 1,019,362 - 1,019,362
Thereafter.............................. 2,609,095 - 2,609,095
----------- --------- -----------
Net future minimum lease payments........$13,463,603 $(336,054) $13,127,549
=========== ========= ===========
F-20
Rental expense for operating leases aggregated $4,591,838, $2,918,127
and $2,470,340 for the year ended December 31, 2001, the nine months ended
December 31, 2000 and the year ended March 31, 2000, respectively. Sublease
rental income amounted to $131,073, $100,862 and $108,326 for the year ended
December 31, 2001, the nine months ended December 31, 2000 and the year
ended March 31, 2000, respectively.
For the nine months ended December 31, 2000, the Company reserved $700,000
for future lease obligations of branch locations that were consolidated to
achieve near term operating efficiencies. As of December 31, 2001, the
Company has a reserve balance of $269,092 outstanding.
The Company leases certain assets, principally network and related equipment,
fiber related equipment and buildings, under capital leases. At December 31,
2001 and 2000, the Company has capitalized leased equipment totaling
$136,309,786 and $99,753,175, respectively, with related accumulated
amortization of $28,935,304 and $18,767,228 for the year ended December 31,
2001 and the nine months ended December 31, 2000, respectively.
As of December 31, 2001, obligations under capital leases mature as follows:
Year ending December 31:
2002.....................................................$ 43,351,581
2003...................................................... 36,524,216
2004...................................................... 17,301,459
2005...................................................... 4,342,288
2006...................................................... 3,949,090
Thereafter................................................ 47,517,226
-----------
152,985,860
Less amount representing interest..........................(59,624,997)
-----------
Present value of minimum lease payments.................... 93,360,863
Less current portion of obligations under capital leases...(33,036,325)
-----------
Obligations under capital leases, net of current portion...$60,324,538
===========
In March 2002, we entered into an agreement with a vendor, (see note 6)
which restructures a portion of the above capital leases outstanding. We
expect this restructuring to reduce our cash outflow in 2002 by
approximately $7.5 million for the leases outstanding at December 31, 2001.
This restructuring is not included in the table above. Under the agreement,
these payments will now be due during the years ending December 31, 2003,
2004 and 2005.
8. Telecommunications Agreements
On October 20, 1994, the Company entered into a four-year non-exclusive
agreement with a long-distance service provider for the right to provide
long distance service to the Company's customers at fixed prices during the
term of the agreement. On September 6, 2000, the Company entered into an
amendment that extended the initial term of the agreement through April
2003. In December 2001, the Company entered into an amendment which reduced
its minimum aggregate usage commitment to $36 million. Based upon existing
F-21
and expected usage, these provisions had no effect on the financial
statements for the twelve months ended December 31, 2001. Through December
31, 2001, the Company had incurred expenditures of approximately $54.8
million under these agreements.
On January 8, 1999, the Company entered into agreements with two
communications companies for the provision of transmission and collocation
facilities for the Company's initial network build-out in New England and New
York State. The agreements, which total $11.6 million of expenditures by the
Company over three years, provide for connectivity between the Company's 22
network hub sites and two fully redundant network operations centers.
Through the year ended December 31, 2001, the Company had incurred
expenditures of approximately $18.5 million under these agreements.
In fiscal years 1999 and 2000, the Company entered into an amendment that
revised the original terms of the Company's resale agreements with a supplier
of local services. The Amendment provides for several additional discounts
on various resold services if certain term and volume commitment levels
associated with access lines and Minutes of Use (MOUs) are maintained. While
the Company exceeded its commitment levels in fiscal year 2001 relative to
the number of access lines and MOUs, there is currently some uncertainty as
to whether the Company met a commitment level in certain jurisdictions
associated with one of the smaller discount percentages under the agreement.
The Company and its suppliers are currently considering revising the terms
associated with this discount percentage.
On March 31, 2000, the Company entered into a 20 year agreement to purchase
an exclusive, indefeasible right of use of optical dark fibers from a fiber
optic engineering and construction company. The agreement also includes
collocation facilities at points of presence and transmission site locations
and ongoing fiber maintenance services provided by the supplier. The
Company's total estimated commitment is approximately $115 million. Through
December 31, 2001, the Company had incurred expenditures of approximately $12
million under this agreement.
On May 9, 2000, the Company entered into an agreement with a professional
services company for the "softswitch" and related software required to
support local services of the Company for a total commitment of approximately
$26 million through the end of 2005. Through December 31, 2001, the Company
had incurred costs of $15.1 million.
During the year ended December 31, 2001, the Company finalized negotiations
of a local interconnection agreements which the Company intends to execute in
all states within its footprint. It is the Company's current intention to
use the negotiated agreement in new markets within its footprint and as a
replacement agreement for expiring agreements in Connecticut, Maine,
Massachusetts, New Hampshire, New York, Rhode Island and Vermont. These
agreements enable the Company to interconnect with the public switched
telephone network (PSTN), obtain access to unbundled network elements (UNEs),
collocate in the incumbent local provider's central offices, and purchase
other miscellaneous additional services also provided by the incumbent for
purposes of providing local dial tone and associated local services over the
Company's network facilities.
F-22
9. Stockholders' Equity (Deficit)
In connection with the reorganization of the Company into a holding company
structure in September 1999, each share of Common Stock, $.01 par value, and
each share of Series A Convertible Preferred Stock, $1.00 par value, of CTC
Communications Corp., was converted into one share of Common Stock, $.01 par
value, and one share of Series A Convertible Preferred Stock, $1.00 par
value, of CTC Communications Group, Inc. ("CTC Group"). CTC Group is
authorized to issue up to 100 million shares of common stock, $.01 par value,
and 10 million shares of preferred stock, $1.00 par value. As a result of
the reorganization, CTC Communications Corp. became a wholly-owned subsidiary
of CTC Group.
On March 17, 2000, the Company effected a three-for-two stock split for
stockholders of record as of March 6, 2000. All common stock information
presented in Note 9 herein has been adjusted to reflect the stock split.
At December 31, 2001, 14,178,735 shares of common stock are reserved for
future issuance upon exercise of outstanding stock options and common stock
purchase warrants and conversion of outstanding preferred stock.
Preferred Stock
The dividends, Liquidation Preference, voting rights and other rights of each
series of preferred stock, when issued, are to be designated by the Board of
Directors prior to issuance.
In May 2000, the Company completed a $200 million preferred stock financing
with Bain Capital Inc., Thomas H. Lee Partners, L.P. and CSFB Private Equity,
consisting of 8.25% Series B redeemable convertible preferred stock which
converts into common stock at $50 per share. The 8.25% dividends are
cumulative and are payable in cash or upon conversion or redemption, at the
Company's option, as discussed below.
Bain Capital and Thomas H. Lee each invested $75 million and CSFB Private
Equity has invested $50 million.
The Company may require conversion of the preferred shares, into the
Company's common stock, if the average market price of the common stock of
the Company equals or exceeds 200% of the conversion price for a period of 30
consecutive trading days or if there are outstanding fewer than 15% of the
number of shares issued on the closing date. In the event the Company elects
to require conversion of the preferred stock under this provision, the
Company is required to convert the principal and cumulative dividends that
would otherwise have been payable through the third anniversary ($55.5
million or $13.89 per share) or through the date of conversion, whichever is
greater (the "Liquidation Preference"), at $50 per share. The value ($55
million) related to this contingent conversion is recognizable at the time
the conversion occurs.
The Company may elect to redeem the preferred shares on or after the fifth
anniversary of the closing. The redemption price per share is equal to the
greater of the Liquidation Preference or the current market value of the
number of shares of common stock into which a share of preferred stock could
be converted by the holder on the redemption date.
F-23
To the extent the Company has funds available, on the tenth anniversary
of the closing date the Company is required to redeem all outstanding shares
of the Series B Preferred Stock, if any, at a redemption price per share
equal to the greater of (a) the Liquidation Preference as of that date, and
(b) the current market value of the number of shares of Common Stock into
which a share of Preferred Stock could be converted by the holder as of that
date. The redemption price is payable, at the Company's option, in cash or in
shares of Common Stock, which shares are to be valued at 95% of the average
market price, as defined, if redeemed for cash and 100% of the average market
price, as defined, if redeemed for stock.
The holders of the shares of Series B Preferred Stock have the right at any
time and from time to time, at the holder's option, to convert any or all
outstanding shares (and fractional shares) of Series B Preferred Stock plus
cumulative dividends into fully paid and non-assessable shares of Common
Stock.
Holders of Series B stock are entitled to a number of votes equal to the
whole number of common stock they would receive if they converted their
Series B stock.
Dividends
The Company has never paid cash dividends on our common stock and does not
plan to do so in the foreseeable future. The Company intends to retain
earnings, if any, to develop and expand its business. In addition, the terms
of its credit facility and the Series B preferred stock restrict its ability
to pay cash dividends on the common stock. The Company also expects the
terms of agreements governing any future indebtedness to restrict its ability
to pay cash dividends.
Common Stock Purchase Warrants
As of December 31, 2001, the Company had outstanding warrants in
connection with the issuance of the Series A and the financing arrangements
disclosed in Note 6 to purchase an aggregate of 515,489 shares of common
stock at exercise prices ranging from $4.50 to $7.87 with exercise periods
extending through March 2009. The values of the warrants range from $1.96 to
$4.76 and were determined using a Black-Scholes pricing methodology.
Significant assumptions include an interest rate of 5.21%, an expected
volatility of 50% and an expected life of the warrants of 2.5 to 3 years.
Employee Stock Purchase Plan
The Company has an employee stock purchase plan (the "ESPP") which
enables participating employees to purchase Company shares at 85% of the
lower of the market prices prevailing on two valuation dates as defined in
the ESPP. Individuals can contribute up to 5% of their base salary. The
Company made no contributions to the ESPP during the year ended December 31,
2001, the nine months ended December 31, 2000 and the fiscal year ended March
31, 2000. Set forth below is a summary of shares of common stock purchased
under the ESPP.
F-24
Date Shares Purchased Purchase Price
- ------------- ------------------ ---------------
July 2001 87,632 $ 2.57
February 2001 44,488 $ 3.98
July 2000 5,689 $23.80
February 2000 10,533 $10.38
July 1999 14,779 $ 5.03
February 1999 11,945 $ 4.46
Stock Option Plans
Under the terms of its 1993 Incentive Stock Option Plan, 1996 Stock Option
Plan, 1998 Incentive Plan and 2000 Flexible Stock Plan, (collectively, the
"Plans"), the Company may grant qualified and non-qualified incentive stock
options for the purchase of common stock to all employees and, except for the
1993 Stock Option Plan and 2000 Flexible Stock Plan, to members of the Board
of Directors. The Plans generally provide that the option price will be fixed
by a committee of the Board of Directors but for qualified incentive stock
options will not be less than 100% (110% for 10% stockholders) of the fair
market value per share on the date of grant. Non-qualified options are
granted at no less than 85% (110% for 10% stockholders) of the fair market
value per share on the date of grant. The 2000 Flexible Stock Plan also
provides for benefits in the form of stock appreciation rights, performance
shares, cash awards and other common stock based awards. The stock
appreciation rights represent the fair market value per share on the date of
grant. The performance shares are equal to the fair market value of the
stock on the date all the restrictions are satisfied. No options have a term
of more than ten years and options to 10% stockholders may not have a term of
more than five years.
In the event of termination of employment, other than by reason of death,
disability or with the written consent of the Company, all options granted to
employees are terminated. Vesting is determined by the Board of Directors.
Under the terms of the 1999 Equity Incentive Plan for Non-Employee Directors,
at each annual meeting at which a non-employee director is reelected or is
continuing as a director, he or she will be granted a five-year, non-
discretionary, option to purchase 10,000 shares of common stock, at an
exercise price equal to 100% of the fair market value of the common stock on
the day before the date of the grant. The options are exercisable on the
grant date. In addition to the foregoing options, the plan administrator
also has the authority to award options to eligible directors in amounts and
on terms as it determines. These options are referred to as discretionary
options. The exercise price of discretionary options will be set by the
administrator and will become exercisable and expire as the administrator
determines, but no options will expire later than 10 years from the date of
grant. If a director dies, or otherwise ceases to be a director, all options,
including those issued under the 1993, 1996, 1998, 1999 and 2000 Plans, not
then exercisable will immediately terminate, unless the board of directors
otherwise determines. Any exercisable options will remain exercisable for a
period of one year following death or three months following other
termination of the individual's status as a director, but in no event beyond
F-25
the fifth anniversary of the date of grant in the case of non-
discretionary options and beyond the tenth anniversary of the date of the
grant in the case of discretionary options. Upon a merger or consolidation,
which results in a 50% change in ownership, a transfer of all or
substantially all of the Company's assets, or a dissolution or liquidation of
the Company, all options, including the 1993, 1996, 1998, 1999 and 2000
plans, not then exercisable will become exercisable and all unexercised
options will terminate upon the consummation of the transaction. However, in
lieu of termination, the board of directors may cause the acquiring or
surviving corporation to assume all options outstanding under the plan or
provide replacement options on substantially the same terms, with any
necessary adjustments.
Stock Based Compensation
Pro forma information regarding net loss and net loss per common share is
required by SFAS No. 123, and has been determined as if the Company had
accounted for its employee stock options granted under the Plans and shares
issued pursuant to the ESPP under the fair value method of SFAS No. 123. The
fair value for these options and shares issued pursuant to the ESPP was
estimated at the dates of grant using a Black-Scholes option pricing model
with the following weighted-average assumptions:
Options ESPP
December 31, March 31, December 31, March 31,
------------- -------- ----------- ----------
2001 2000 2000 2001 2000 2000
----- ----- ----- ----- ----- ----
Expected life (years)................. 4.00 3.73 3.69 0.50 0.50 0.50
Interest rate......................... 5.73% 5.75% 6.12% 5.56% 5.85% 6.08%
Volatility............................ 95.11% 93.25% 84.12% 105.60% 136.54% 82.73%
Dividend yield........................ 0.00 0.00 0.00 0.00 0.00 0.00
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 employee 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 management's opinion, the existing models do not necessarily
provide a reliable single measure of the fair value of its employee stock
options.
For purposes of pro forma disclosures, the expense related to estimated fair
value of the options is recognized over the options' vesting period. The
Company's pro forma net loss and loss per common share, which has been
adjusted to reflect the March 17, 2000 three-for-two stock split, are as
follows:
F-26
December 31, March 31,
----------------------------------------
2001 2000 2000
------------ ------------ -----------
Pro forma net loss attributable to
Common shareholders............... $(155,463,241)$(91,918,300)$(66,276,203)
Pro forma net loss per common share
(Basic and diluted)............... $ (5.78) $ (3.50) $ (3.26)
The effects on the year ended December 31, 2001, the nine months ended
December 31, 2000 and the fiscal year ended March 31, 2000 pro forma net loss
and loss per common share of expensing the estimated fair value of stock
options and shares issued pursuant to the ESPP are not necessarily
representative of the effects on reporting the results of operations for
future years as the periods presented only include the effects of option
grants under the Company's plans since 1997.
A summary of the Company's stock option activity, and related information for
the nine months ended December 31, 2000 and the fiscal years ended March 31,
1999 and 1998, which has been adjusted to reflect the March 17, 2000 three-
for-two stock split, follows:
December 31, 2001 December 31, 2000 March 31, 2000
------------------- -------------------- -------------------
Weighted Weighted Weighted
Average Average Average
Exercise Exercise Exercise
Options Price Options Price Options Price
--------- -------- ---------- -------- --------- --------
Outstanding at beginning
of year................ 6,352,005 $ 9.97 5,906,373 $ 8.91 5,423,714 $ 4.70
Options granted....... 2,818,148 5.47 1,292,750 16.01 2,137,569 15.08
Options terminated.... (779,093) 12.86 (221,100) 33.60 (411,950) 4.67
Options exercised..... (418,062) 4.51 (626,018) 4.96 (1,242,960) 3.37
--------- ---------- ---------
Outstanding at end of
year................... 7,972,998 $8.42 6,352,005 $9.97 5,906,373 $8.91
========== ========== =========
Exercisable at end of
year................... 3,546,327 2,286,752 1,630,865
Weighted-average fair
value of options
granted during the
year................... $ 3.81 $ 10.35 $ 8.87
F-27
The following table presents weighted-average price and life information
about significant option groups outstanding at December 31, 2001:
Options Outstanding Options Exercisable
---------------------------------------------------------------------------
Weighted Average
Remaining Weighted Weighted
Range of Contractual Average Average
Exercise Prices Outstanding Life--Years Exercise Price Exercisable Exercise Price
--------------- ----------- ---------------- -------------- ----------- -------------------
$ 0.00-5.35............. 2,376,961 3.6 $ 4.45 1,833,398 $ 4.39
5.35-10.70............ 3,586,616 6.3 6.76 888,600 7.85
10.70-16.05............ 1,216,322 3.1 11.65 579,334 11.48
16.05-21.40............ 442,200 4.6 18.32 94,065 18.11
21.40-26.75............ 196,650 4.0 24.24 127,080 24.07
26.75-32.10............ 71,749 4.5 28.38 8,850 28.49
32.10-37.45............ 49,000 4.3 34.93 8,300 34.91
37.45-42.80............ 5,500 4.2 38.90 1,100 38.90
42.80-48.15............ 21,500 5.7 46.22 4,300 46.22
48.15-53.50............ 6,500 5.4 53.38 1,300 53.38
--------- ---------
7,972,998 3,546,327
========= =========
10. Benefit Plans
Defined Contribution Plan (the "401(k) Plan")
The Company maintains a defined contribution plan (the "401(k) Plan") which
covers all employees who meet certain eligibility requirements and complies
with Section 401(k) of the Internal Revenue Code ("IRC"). Participants may
make contributions to the 401(k) Plan up to 15% of their compensation, as
defined under the terms of the 401(k) Plan, up to the maximum established by
the IRC.
The Company may make a matching contribution of an amount to be determined by
the Board of Directors, but subject to a maximum of 6% of compensation
contributed by each participant. Company contributions vest ratably over
three years. Company contributions to the 401(k) Plan were $963,302, $527,724
and $486,434 in the year ended December 31, 2001, the nine months ended
December 31, 2000, and the fiscal year ended March 31, 2000, respectively.
F-28
11. Loss Per Share
Loss per common share has been calculated as follows:
December 31, March 31,
2001 2000 2000
------------ ----------- -----------
Numerator:
Loss before extraordinary item
and cumulative effect of change
in accounting principle ........... $(124,172,932) $(69,326,130) $(57,073,087)
Extraordinary item-early
extinguishment of debt.............. - - (2,430,456)
Loss before cumulative effect of --------------- ------------- -------------
change in accounting principle..... (124,172,932) (69,326,130) (59,503,543)
Cumulative effect of change in
accounting principle............... - (2,878,949) -
--------------- ------------- -------------
Net loss (124,172,932) (72,205,079) (59,503,543)
Less preferred stock dividends and
accretion to redemption value of
preferred stock...................... (19,563,089) (11,517,000) (1,609,351)
-------------- ----------- -------------
Equals: numerator for Basic and
Diluted loss per common share........ $(143,736,021) $(83,722,079) $(61,112,894)
Denominator: ============== ============= =============
Denominator for Basic and Diluted loss
per common share-weighted average
shares............................... 26,903,518 26,249,173 20,320,626
-------------- ------------ ------------
Basic and diluted loss per common share. $ (5.34) $ (3.19) $ (3.01)
============== ============= ============
Basic and diluted loss per common share-
cumulative effect of change in
accounting principle.................. $ - $ (0.11) $ -
============== ============= ============
Basic and diluted loss per common share-
extraordinary item.................... $ - $ - $ (0.12)
============== ============= ============
Basic and diluted loss per common share-
before extraordinary item
and cumulative effect of change in
accounting principle.................. $ (5.34) $ (3.08) $ (2.89)
============== ============= ============
12. Comprehensive Loss
The Company reports comprehensive loss as required by Financial Accounting
Standards Board Statement No. 130, "Reporting Comprehensive Income," (FAS
130). FAS 130 requires that changes in fair value of the Company's
derivative instruments designated as cash flow hedges, as well as other
certain changes in stockholders' equity, be included in comprehensive loss.
For the year ended December 31, 2001 the nine months ended December 31, 2000
and the year ended March 31, 2000, comprehensive loss was $(127,059,356),
$(72,205,079) and $(59,503,543) respectively, as follows:
F-29
Year ended Nine Months Year ended
December 31, ended March 31,
2001 December 31, 2000 2000
-------------------------------------------
Comprehensive loss:
Net loss $(124,172,932) $(72,205,079) $(59,503,543)
Cumulative effect of change in
accounting principle (716,504) -- --
Additions to comprehensive
loss for changes in fair value of
cash flow hedges (1,949,206) -- --
Reclassification of gain from
comprehensive loss line as offset to
interest expense for ineffective portion
and time value of cash flow hedges (220,714) -- --
-----------------------------------------
Comprehensive loss $(127,059,356) $(72,205,079) $(59,503,543)
==========================================
13. Income Taxes
Significant components of the Company's deferred tax assets
and liabilities as of December 31, 2001 and 2000, are as follows:
December 31,
2001 2000
------------ ------------
Deferred tax assets:
Bad debt allowance.................................$ 2,801,000 $ 1,823,000
Accruals and allowances, other..................... 4,420,000 1,965,000
Stock option expense............................... 41,000 -
Net operating loss carryforward.................... 105,607,000 71,514,000
Depreciation ..................................... 13,873,000 2,606,000
------------ ------------
Total deferred tax asset............................. 126,742,000 77,908,000
Deferred tax liability:
Other expenses..................................... (220,000) (117,000)
- ------------ -----------
Total deferred tax liability......................... (220,000) (117,000)
------------ -----------
Net deferred tax asset before valuation allowance.... 126,522,000 77,791,000
Valuation allowance..................................(126,522,000) (77,791,000)
------------ -----------
Net deferred tax asset............................... $ - $ -
============ ============
Management has provided a full valuation allowance against deferred tax
assets due to the uncertainty that the Company will realize these assets.
The Company believes that, based upon a number of factors, the available
objective evidence creates sufficient uncertainty regarding the realization
of the deferred tax assets such that a full valuation allowance has been
recorded. The Company will continue to assess the realization of the
deferred tax assets based on actual and forecasted operating results. At
F-30
December 31, 2001, the Company had federal and state net operating loss
carryforwards of approximately $260,800,000 which may be used to reduce
future income tax liabilities, and expire ratably through 2020. Changes in
the Company's ownership will subject the net operating loss carryforwards to
limitations pursuant to Sections 382 of the Internal Revenue Code.
The income tax expense is different from that which would be obtained by
applying the enacted statutory federal income tax rate to loss before income
taxes. The items causing this difference are as follows:
December 31, March 31,
2001 2000 2000
------------ ----------- ----------
Tax (benefit) at U.S. statutory rate $ (42,219,000)$ (24,550,000) $(20,231,000)
State income taxes,
net of federal benefit............ (8,071,000) (4,693,000) (3,867,000)
Unbenefitted losses and other....... 50,290,000 29,243,000 24,098,000
-------------- ------------- ------------
$ - $ - $ -
============= ============= ============
14. Quarterly Information (Unaudited)
A summary of operating results and net loss per share for the quarterly
periods in the year ended December 31, 2001, the nine months ended December
31, 2000 (restated for SAB 101), and the fiscal year ended March 31, 2000 is
set forth below:
Quarter Ended
-------------------------------------------------------------------
March 31 June 30 September 30 December 31 Total
----------- ------------ ------------ ------------ ------------
Year ended December 31, 2001
Revenues................ $67,621,144 $ 74,512,308 $ 78,166,156 $ 79,138,873 $299,438,481
Cost of telecommunications
revenues (excluding
depreciation and
amortization).......... 55,344,185 59,852,566 61,989,987 63,332,161 240,518,899
Net loss................ (28,948,653) (27,613,754) (30,226,603) (37,383,922) (124,172,932)
Net loss per share -
Basic and diluted...... (1.26) (1.21) (1.30) (1.57) (5.34)
F-31
Quarter Ended
-----------------------------------------------------------
June 30, 2000 September 30,
as 2000 December 31,
restated as restated 2000 Total
------------- ------------ ------------ ------------
Nine months ended
December 31, 2000
Total revenues........ $51,052,832 $56,993,993 $62,305,870 $170,352,695
Cost of
telecommunications
revenues (excluding
depreciation and
amortization) 39,178,593 44,386,041 49,631,465 133,196,099
Loss before
cumulative effect.... (18,176,697) (21,901,440) (29,247,993) (69,326,130)
Net loss.............. (21,055,646) (21,901,440) (29,247,993) (72,205,079)
Loss per common share
-before cumulative
effect............... (0.79) (1.01) (1.28) (3.08)
Net loss per
common share......... (0.90) (1.01) (1.28) (3.19)
Quarter Ended
-------------------------------------------------------------------
June 30 September 30 December 31 March 31 Total
----------- ------------ ------------ ------------ ------------
Year ended March 31, 2000
Total revenues.......... $31,046,851 $ 35,109,155 $ 40,369,021 $ 46,575,907 $153,100,934
Cost of telecommunications
revenues (excluding
depreciation and
amortization) 26,089,184 27,398,259 30,409,039 35,689,066 119,585,548
Loss before extra-
ordinary item.......... (15,118,813) (12,293,504) (14,216,531) (15,444,239) (57,073,087)
Net loss................ (15,118,813) (12,293,504) (14,216,531) (17,874,695) (59,503,543)
Loss per common share
before extraordinary item (.99) (.61) (.67) (.69) (2.89)
Net loss per share -
Basic and diluted...... (.99) (.61) (.67) (.80) (3.01)
F-32
SCHEDULE II--VALUATION AND QUALIFYING ACCOUNTS
CTC COMMUNICATIONS GROUP, INC.
Col. A Col. B Col. C Col. D Col. E
---------- ---------- ---------- ---------- ----------
Additions
Balance at Charged to Charged to Balance at
Beginning Costs and Other End of
Description of Period Expenses Accounts Deductions(a) Period
----------- ---------- ---------- ---------- ------------- ----------
Year ended
December 31, 2001:
Allowance for doubtful
accounts............. $4,501,672 $4,123,921 - $1,709,995 $6,915,598
Nine months ended
December 31, 2000:
Allowance for doubtful
accounts............. $2,000,000 $2,950,521 - $ 448,849 $4,501,672
Year ended March 31,
2000:
Allowance for doubtful
accounts............. $1,717,000 $1,528,564 - $1,245,564 $2,000,000
<FN>
- ---------
(a) Bad debts written off, net of collections.
</FN
All other schedules for which provision is made in the applicable accounting
regulations of the Securities and Exchange Commission are not required under
the related instructions or are inapplicable, and therefore have been
omitted.