SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
(Mark One)
/ / ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended_________________
/X/ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from OCTOBER 1, 1997 to DECEMBER 31, 1997
Commission file number 333-33601-02
GST USA, INC.
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(Exact Name of Registrant as Specified in its Charter)
Delaware 83-0310464
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(State or other jurisdiction of (IRS Employer Identification
incorporation or organization Number)
4001 Main Street, Vancouver, Washington 98663
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(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (360) 906-7100
Securities registered pursuant to Section 12(b) of the Act:
None
Securities registered pursuant to Section 12(g) of the Act:
None
THE REGISTRANT MEETS THE CONDITIONS SET FORTH IN GENERAL INSTRUCTION I(1)(A)
AND (B) OF FORM 10-K AND IS THEREFORE FILING THIS FORM 10-K WITH THE
REDUCED DISCLOSURE FORMAT CONTEMPLATED THEREBY.
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 / /
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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 the Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. /X/
Indicate the number of shares outstanding of each of the Registrant's
classes of common stock, as of the latest practicable date: At March 26, 1998,
there were outstanding 10 shares of the Registrant's common stock, no par value
per share.
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ITEM 1. BUSINESS.
OVERVIEW
GST USA, Inc. ("GST USA") is a wholly-owned subsidiary of GST
Telecommunications, Inc. ("GST"). GST USA was formed to hold the capital stock
of the consolidated operating subsidiaries of GST. In December 1995, GST USA
issued its 137/8% Senior Discount Notes due 2005 (the "Senior Notes"), which are
unconditionally guaranteed by GST and GST issued its 137/8% Convertible Senior
Subordinated Notes due 2005 (the "Convertible Notes" and together with the
Senior Notes, the "1995 Notes") which are unconditionally guaranteed by GST USA
in a private placement (the "1995 Notes Offering"). In May 1996, GST USA
consummated an exchange offer for the Senior Notes. The net proceeds of the 1995
Notes Offering were used to fund capital expenditures and for working capital.
GST USA also purchases equipment from its wholly-owned subsidiary, GST
Equipment Funding, Inc. ("GST Funding") and leases such equipment to the
operating subsidiaries of GST and GST USA. GST USA is obligated to assume the 13
1/4% Senior Secured Notes due 2007 of GST Funding (the "Secured Notes") as soon
as GST USA is permitted to do so pursuant to the terms of the indenture relating
to the Senior Notes. At such time GST is obligated to guarantee the Secured
Notes. GST Funding issued the Secured Notes in a private placement in May 1997
(the "Secured Notes Offering"). Of the $255.8 million of net proceeds from the
Secured Notes Offering, as of December 31, 1997 approximately $93.8 million had
been used to purchase securities pledged to fund the first six interest payments
on the Secured Notes (the first such payment of $16.4 million having been made
in November 1997) and approximately $104.4 million had been used to purchase
telecommunications equipment ($41.5 million of which was used to refinance
intercompany indebtedness).
GST provides a broad range of integrated telecommunications products
and services, primarily to business customers located in the western continental
United States and Hawaii. As a facilities-based competitive local exchange
carrier, GST operates state-of-the-art, digital telecommunications networks that
represent an alternative to incumbent local exchange carriers. GST's full line
of products, which offer a "one-stop" solution to customers' telecommunications
services requirements, include long distance, Internet, data transmission and
private line services, and local dial tone services, which were recently
introduced.
GST's digital networks currently serve 40 markets in Arizona,
California, Hawaii, Idaho, New Mexico, Texas, Washington and Guam. In addition,
GST has networks under construction which, when completed, will serve two
additional markets and expand its regional footprint to Oregon. GST also
constructs, markets and manages longhaul fiber optic facilities, principally in
Arizona, California and Hawaii. GST's longhaul fiber optic facilities currently
extend approximately 700 route miles and an additional 1,600 route miles are
expected to become operational over the next 12 months.
ITEM 2. PROPERTIES.
GST USA neither owns nor leases material physical properties.
ITEM 3. LEGAL PROCEEDINGS.
On August 24, 1995, Aerotel, Ltd. and Aerotel U.S.A., Inc.
(collectively, "Aerotel") commenced an action against NACT Telecommunications,
Inc. ("NACT"), then a wholly-owned subsidiary of GST USA, and a customer of NACT
in the United States District Court, Southern District of New York, alleging
that
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telephone systems manufactured and sold by NACT incorporating prepaid debit card
features infringe upon Aerotel's patent which was issued in November 1987 (the
"Aerotel Patent"). The initial complaint further alleged defamation and unfair
competition as a result of a Special Report disseminated by NACT to its
customers and tortious interference with prospective business relations,
alleging that NACT induced third parties to abandon licensing negotiations with
Aerotel. Aerotel sought injunctive relief, damages in an unspecified amount,
damages of up to three times the damages found for willful infringement of the
Aerotel Patent and an order requiring NACT to publish a written apology to
Aerotel. NACT filed an answer and Counterclaim in which it denied infringement
of the Aerotel Patent and sought judgment that the Aerotel Patent is invalid and
unenforceable and that Aerotel has misused its patent in violation of antitrust
laws. NACT also denied that it had committed defamation, unfair competition or
tortious interference with prospective business relations. On May 3, 1996, NACT
served its motion for summary judgment. The Court has indicated it will deny
such motion, although the actual ruling has not yet been received. In August
1997, Aerotel amended its complaint to include as defendants GST and GST USA as
well as Kyle Love, the former President of NACT and Dr. Thomas E. Sawyer, a
director of GST and NACT and the former Chairman and Chief Executive Officer of
NACT. The amended pleadings seek in excess of $18.7 million in damages and
allege that GST and GST USA have infringed the Aerotel patent, aided and abetted
infringement by others, including NACT, and participated in, and aided and
abetted, alleged tortious conduct by NACT. GST, GST USA, Dr. Sawyer and Mr. Love
have served answers denying all material allegations and intend to defend
vigorously.
In February 1998, GST USA sold to World Access, Inc. ("World Access")
its then remaining interest in NACT. Concurrently with such sale, GST USA and
World Access entered into an agreement whereby GST USA generally will bear 50%
of any damages in the action, including reasonable attorneys fees, losses,
liabilities, claims and assessments, royalties and license fees. Under the
agreement, subsequent to a determination, if any, by a court that the Aerotel
Patent is valid and that it has been infringed, GST USA's liability associated
with royalties, license fees, refunds and cost of product replacement or
modification is limited to $2.0 million.
Pretrial discovery has commenced and is scheduled to be completed in
1998. The case is not expected to be tried until late 1998 at the earliest.
NACT's patent counsel believes that NACT has valid defenses to the Aerotel
claims. If upheld, these defenses would also be valid for all defendants. An
unfavorable decision in this action could have a material adverse effect on GST
USA and GST.
On or about February 25, 1997, U S WEST Communications, Inc. ("U S
WEST") filed a declaratory judgment action against members of the Arizona
Corporation Commission (the "ACC"), the ACC, ACSI, Brooks Fiber Properties Inc.
and GST in the United States District Court in Arizona. The District Court
consolidated a number of similar lawsuits filed by U S WEST against other CLECs,
including MFS Communications Company, Inc. ("MFS"), Sprint Corporation
("Sprint"), MCI Communications Corporation ("MCI") and AT&T Corp ("AT&T"). U S
WEST alleges that the ACC has entered into an interconnection order that
unlawfully requires U S WEST to resell services below cost, imposes resale
restrictions and denies U S WEST recovery for construction and implementation
costs, unlawfully treats the cost recovery of access revenues for interim number
portability, requires U S WEST to obtain additional rights of way or build
additional facilities solely to provide access to GST, and amounts to a taking
of U S WEST's property without just compensation. U S WEST seeks a declaratory
judgment stating that the ACC has violated the Telecommunications Act and that
the ACC has taken U S WEST's property without providing just compensation. U S
WEST also seeks an injunction prohibiting all defendants, including GST, from
taking any action to enforce any of the order's allegedly unlawful provisions.
GST's time to answer or move against the complaint has been extended
indefinitely by U S WEST, pending a decision with respect to motions filed by
all other defendants to dismiss the complaint. Should U S WEST prevail in its
suit, it could have an adverse impact on GST's operations in Arizona.
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On or about April 8, 1997, U S WEST filed a state court proceeding
against the ACC, individual members of the ACC, and GST Net (AZ), Inc. ("GST Net
(AZ)") which holds a Certificate of Convenience and Necessity ("CCN") to provide
local exchange service in Arizona. In its complaint appealing the ACC's February
6, 1997 decision and order granting GST Net (AZ) its CCN, U S WEST alleges that
the ACC's action violates certain requirements of the Arizona Constitution
relating to rate of return regulation, carrier of last resort obligations, and
equal protection. The appeal seeks to subject GST Net (AZ) and U S WEST to
identical forms of regulation, treating both carriers as either traditional
monopoly carriers or as co-equal competitive companies. The state court
consolidated the case with a number of substantially similar lawsuits filed
against other CLECs, including MFS, Sprint, MCI and AT&T. GST Net (AZ) answered
U S WEST's complaint on August 6, 1997, alleging, among other things, that U S
WEST's complaint is preempted by the Telecommunications Act. On February 27,
1998, GST Net(AZ) joined in the other CLECs' motions to dismiss. Should U S WEST
prevail in its appeal, it could have an adverse impact on GST's operations in
Arizona; however, the magnitude thereof is uncertain at this time.
GST USA is not a party to any other material legal proceedings, nor, to
the knowledge of GST USA, are any material legal proceedings threatened against
GST USA. GST USA's subsidiaries are a party to various proceedings before the
public utilities commissions of the states in which they provide or propose to
provide telecommunications services. These proceedings typically relate to
licensure of such subsidiaries or others and to the regulation of the provision
of telecommunications service.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not required.
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY
AND RELATED STOCKHOLDER MATTERS.
There is no established public trading market for GST USA's common
equity. All of the issued and outstanding shares of such common equity are owned
by GST.
ITEM 6. SELECTED FINANCIAL DATA.
Not required.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
The following management's discussion and analysis of financial
condition and results of operations contains forward looking statements that
involve risks and uncertainties. GST USA's actual results could differ
materially from those anticipated in these forward looking statements as a
result of certain factors discussed herein.
OVERVIEW
GST provides a broad range of integrated telecommunications products
and services, primarily to business customers located in the western continental
United States and Hawaii. GST's digital networks currently serve 40 markets in
Arizona, California, Hawaii, Idaho, New Mexico, Texas, Washington and Guam. In
addition, GST has networks under construction which, when completed, will serve
two additional markets and expand its regional footprint to Oregon. GST also
constructs, markets and manages longhaul fiber optic facilities, principally in
Arizona, California and Hawaii. GST's longhaul fiber optic facilities currently
extend approximately 700 route miles and an additional 1,600 route miles are
expected to become operational over the next 12 months. GST's full line of
products, which offer a "one-stop" solution
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to customers' telecommunications services requirements, include long distance,
Internet, data transmission, and private line services, and local dial tone
services, which were recently introduced.
GST has invested significant capital and effort in developing its
telecommunications business. This capital has been invested in the development
of GST's networks and longhaul fiber optic facilities, for the hiring and
development of an experienced management team, the development and installation
of operating systems, the introduction of services, marketing and sales efforts
and for acquisitions. GST expects to make increasing capital expenditures to
expand its networks and longhaul fiber optic facilities and broaden its service
offerings and may consummate additional acquisitions. Proper management of GST's
growth will require GST to maintain quality control over its services and to
expand GST's internal management, technical and accounting systems, all of which
will require substantial investment.
GST, GST USA and their subsidiaries changed their fiscal year end from
September 30 to December 31st in order to align financial reporting with
regulatory reporting and to the reporting of others in GST's industry sector.
GST, GST USA and GST Funding are providing investors audited financial
information for the three month transition period ended December 31, 1997 and
will provide audited financial information for the subsequent 12-month periods
ending December 31st. As a result of the limited revenues and significant
expenses associated with the expansion and development of its networks and
services, GST's operating results could vary significantly from period to
period.
LOCAL SERVICES. To facilitate its entry into local services, GST has in
service eight high capacity digital switches and has installed and is currently
testing six additional high capacity digital switches that are expected to
become operational by the end of the first quarter of 1998. As demand warrants,
GST plans to continue to install switching equipment in its operational
networks, in markets where it is constructing networks and in certain other
cities where GST will rely on the incumbent local exchange carrier ("ILEC")
facilities for transmission. Once a switch is operational, where regulatory
conditions permit, GST intends to offer local dial tone, in addition to enhanced
services such as ISDN, Centrex, voice mail and other custom calling features.
GST expects negative EBITDA from its switched services during the 24 to
36 month period after a switch is deployed. For switches operating in
conjunction with GST's networks, GST expects operating margins to improve as the
network is expanded and larger volumes of traffic are carried on GST's network.
For switches operating in cities where GST will rely on ILEC facilities for
transmission, GST will experience lower or negative operating margins under
current ILEC pricing tariffs. Although under the Telecommunications Act, the
ILECs will be required to unbundle local tariffs, permitting GST to purchase
only the origination and termination services it needs, thereby decreasing
operating expenses, there can be no assurance that such unbundling will be
effected in a timely manner and result in prices favorable to GST.
LONG DISTANCE SERVICES. GST offers basic and enhanced long distance
services, such as toll free, calling card, prepaid calling card and
international call back services, targeting primarily business customers
purchasing between $200 and $15,000 of services per month as well as resellers
and other carriers. As part of its strategy, GST has acquired long distance
carriers and intends to continue to pursue acquisitions of long distance
carriers in the future. GST purchases long distance capacity under agreements
with certain major long distance carriers that provide GST capacity at rates
that vary with the monthly traffic generated by GST. GST is obligated to satisfy
certain minimum monthly usage requirements of an aggregate of $2.3 million per
month as of January 1, 1998, increasing to a maximum of $6.1 million per month
over the next three years. If such requirements are not satisfied, GST may be
required to pay an underutilization fee in addition to its monthly bill.
INTERNET SERVICES. GST presently offers Internet-related services in
most of its markets, such as dedicated Internet services, Web site development
and hosting, provides access and upstream transport
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for local ISPs, EDI and electronic commerce services and is in the process of
developing various Internet software applications. GST also offers dial-up
Internet services to customers in Portland (Oregon), Vancouver (Washington), the
State of Hawaii and select markets in California and intends to begin offering
such services in the Los Angeles, San Francisco and Houston metropolitan areas
in 1998. Management believes that these services will become an important
component of GST's overall product offerings and intends to continue to expand
its Internet access and service business to other markets.
DATA SERVICES. GST offers national and international frame relay
services on its own frame relay network and through interconnection agreements
with other data service providers. Under these agreements, GST and such data
service providers have agreed to link their data networks and terminate one
another's traffic. GST has deployed Cascade Communications frame relay switches
in 21 markets in the western United States. Such switches can provide both frame
relay and Internet services.
GST is leveraging its infrastructure and network experience to offer
data networking services such as asynchronous transfer mode ("ATM"), high speed
LAN connectivity, video conferencing, multimedia networking, frame relay and
high capacity access to the Internet. GST has one ATM switch commercially
operational in each of Los Angeles and Ontario, California.
NETWORK OPERATIONS. The development, construction and expansion of
GST's networks requires significant capital, a large portion of which is
invested before any revenue is generated. GST has experienced, and expects to
continue to experience, increasing negative EBITDA and losses while it expands
its network operations and builds its customer base. None of GST's existing
networks is generating EBITDA. Based on its experience to date and that of its
competitors, GST estimates that a new network will generate EBITDA within 30 to
36 months after commencement of commercial operations. Construction periods and
operating results will vary from network to network. There can be no assurance
that GST will be able to establish a sufficient revenue-generating customer base
or achieve EBITDA in any particular market or on a consolidated basis.
Management estimates that the total costs associated with the purchase
and installation of fiber optic cable and high-speed electronic transmission
equipment, including capitalized engineering costs, will range from $10.0
million to $25.0 million per network, depending upon the size of the market
served and the scope and complexity of the network. Actual costs may vary
significantly from this range. The amounts and timing of these expenditures are
subject to a variety of factors that may vary significantly by the geographic
and demographic characteristics of each market. In addition to capital
expenditure requirements, upon commencement of the construction phase of a
network, GST begins to incur direct operating costs for such items as salaries
and rent. As network construction progresses, GST incurs rights-of-way costs and
increased sales and marketing expenses. Certain direct preoperating costs for
new networks are capitalized until the network becomes operational and are
thereafter expensed as incurred.
The initial development of a network may take as long as six months,
depending upon the size and complexity of the network and a variety of factors,
including the time required to obtain rights-of-way and other governmental
approvals, such as franchise agreements. Once actual construction commences, it
may take from two to six months to complete the initial backbone segment of a
network. The time required during the construction phase is significantly
influenced by the number of route miles involved, the mix of aerial versus
underground fiber deployment, possible delays in receiving fiber optic cable,
electronic equipment and required permits and other factors.
MANUFACTURING. In a series of transactions between 1993 and 1995, GST
acquired 100% of the outstanding capital stock of NACT, which produces advanced
telecommunications switching platforms with integrated applications software and
network telemanagement capabilities. The aggregate consideration paid for GST's
100% interest in NACT was $8.9 million, consisting of $4.1 million in cash and
notes payable and 956,283 common shares, without par value of GST (the "Common
Shares") valued at $4.8
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million. In February 1997, GST USA sold one million shares of NACT's common
stock for net proceeds of $9.0 million. In February 1998, GST USA sold its
remaining interest in NACT for net proceeds of $86.5 million.
GST USA. The majority of GST's business is performed through GST USA
and its subsidiaries. However, a portion of the long distance business of GST
was performed through direct wholly owned subsidiaries of GST during the periods
presented below.
RESULTS OF OPERATIONS
THREE MONTHS ENDED DECEMBER 31, 1997 COMPARED TO THE UNAUDITED THREE MONTHS
ENDED DECEMBER 31, 1996
REVENUES. Total revenue for the three months ended December 31, 1997
increased $8.1 million, or 53.9%, to $23.3 million from $15.2 million for the
three months ended December 31, 1996. Telecommunications services revenue for
the three months ended December 31, 1997 increased $5.6 million, or 54.4%, to
$16.0 million from $10.4 million for the three months ended December 31, 1996.
The increase in telecommunications services revenue resulted primarily from
increased local and long distance service revenue generated by GST USA's
networks. Additionally, during the three months ended December 31, 1997, the
Company completed a $1.5 million longhaul conduit sale. To a lesser extent, the
increase in revenue resulted from the acquisition of the Guam operations of
Sprint in October 1997. Product revenue for the three months ended December 31,
1997 increased $2.5 million, or 52.7%, to $7.3 million from $4.8 million for the
three months ended December 31, 1996. The increase in product revenue resulted
primarily from increased unit sales of NACT's STX switch.
OPERATING EXPENSES. Total operating expenses for the three months ended
December 31, 1997 increased $11.7 million, or 37.7%, to $42.8 million from $31.1
million for the three months ended December 31, 1996. Network expenses, which
include direct local and long distance circuit costs, increased $2.2 million, or
22.2%, to $12.2 million, or 76.3% of telecommunications services revenue for the
three months ended December 31, 1997 compared to $10.0 million, or 96.4% of
telecommunications services revenue for the three months ended December 31,
1996. The primary reason for the decrease in network expenses as a percent of
revenue is the increase in on-net revenues generated at GST USA's network as a
percent of total revenues. Facilities administration and maintenance expenses
(consisting primarily of costs related to personnel providing maintenance,
monitoring and technical assistance for GST USA's networks) for the three months
ended December 31, 1997 decreased $.2 million, or 7.4%, to $2.9 million, or
17.8% of telecommunications services revenue, compared to $3.1 million, or 29.7%
of telecommunications services revenue, for the three months ended December 31,
1996.
Cost of product revenue, which represents the costs associated with
product revenue of NACT, increased $.5 million, or 27.8%, to $2.3 million for
the three months ended December 31, 1997 from $1.8 million for the three months
ended December 31, 1996. Cost of product revenue was 31.9% of product revenue
for the three months ended December 31, 1997 compared to 38.1% for the three
months ended December 31, 1996. The decrease in cost of product revenue as a
percentage of product revenue resulted primarily from economies of scale related
to increased unit sales of NACT's STX switch. Research and development costs for
the three months ended December 31, 1997 increased $.3 million, or 82.0%, to $.7
million from $.4 million for the three months ended December 31, 1996. The
increase was due to the addition of personnel to enhance the current switch
product line and to facilitate the development of new switching products and
applications.
Selling, general and administrative expenses for the three months ended
December 31, 1997 increased $4.9 million, or 38.6%, to $17.6 million from $12.7
million for the three months ended December 31, 1996. The increase is due to the
expansion of GST USA's CLEC and enhanced services operations
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and the hiring of a significant number of marketing, management information and
sales personnel to implement GST USA's integrated services strategy. Selling,
general and administrative expenses were 75.3% of total revenue for the three
months ended December 31, 1997 compared to 83.7% of total revenue for the three
months ended December 31, 1996.
Depreciation and amortization for the three months ended December 31,
1997 increased $4.0 million, or 129.2%, to $7.1 million from $3.1 million for
the three months ended December 31, 1996. The increase was attributable to
newly-constructed networks becoming operational. GST USA expects that
depreciation will continue to increase as it expands its networks and longhaul
fiber optic facilities and installs additional switches. Depreciation and
amortization was 30.3% of total revenue for the three months ended December 31,
1997 compared to 20.4% for the three months ended December 31, 1996.
OTHER EXPENSES/INCOME. For the three months ended December 31, 1997,
net other expenses increased $9.5 million, or 245.4%, to $13.3 million, or 56.8%
of total revenue, from $3.8 million, or 25.3% of total revenue, for the three
months ended December 31, 1996. The primary reason for the increase was the
inclusion of interest expense associated with the Secured Notes. The increase in
interest expense was partially offset by interest income earned on the
investment of a portion of the proceeds of the sale of the Secured Notes. To a
lesser extent, net other expenses increased due to NACT's income tax expense as
well as minority interest in the income of NACT.
FISCAL 1997 COMPARED TO FISCAL 1996
REVENUES. Total revenue for the fiscal year ended September 30, 1997
("Fiscal 1997") increased $28.8 million, or 76.4%, to $66.5 million from $37.7
million for the fiscal year ended September 30, 1996 ("Fiscal 1996").
Telecommunications services revenue for Fiscal 1997 increased $16.4 million, or
58.3%, to $44.6 million from $28.2 million for Fiscal 1996. The increase in
telecommunications services revenue primarily from increased CLEC service
revenue generated by GST USA's networks. To a lesser extent, the increase in
telecommunications services revenue resulted from increased Internet, shared
tenant and data services. Product revenue for Fiscal 1997 increased $12.4
million, or 129.6%, to $22.0 million from $9.6 million for Fiscal 1996. The
increase in product revenue resulted from the introduction in April 1996 of
NACT's STX switch and subsequent increased unit sales.
OPERATING EXPENSES. Total operating expenses for Fiscal 1997 increased
$60.5 million, or 78.0%, to $138.1 million from $77.6 million for Fiscal 1996.
Network expenses, which include direct local and long distance circuit costs,
increased $18.8 million, or 75.3%, to $43.7 million for Fiscal 1997 compared to
$25.0 million for Fiscal 1996. Facilities administration and maintenance
expenses (consisting primarily of costs related to personnel providing
maintenance, monitoring and technical assistance for GST USA's networks) for
Fiscal 1997 increased $1.2 million, or 11.4%, to $11.5 million, or 25.8% of
telecommunications services revenue, compared to $10.3 million, or 36.7% of
telecommunications services revenue, for Fiscal 1996. These expenses increased
primarily as a result of the continuing rollout of the local service at GST
USA's network locations.
Cost of product revenue, which are costs associated with product
revenue of NACT, increased $3.1 million, or 79.7%, to $7.1 million for Fiscal
1997 from $4.0 million for Fiscal 1996. Cost of product revenue was 32.5% of
product revenue for Fiscal 1997 compared to 41.5% for Fiscal 1996. The decrease
in cost of product revenue as a percentage of product revenue resulted from
economies of scale related to increased unit sales of NACT's STX switch.
Research and development costs for Fiscal 1997 increased $1.0 million, or 69.3%,
to $2.3 million from $1.3 million for Fiscal 1996. The increase was due to the
addition of NACT personnel to enhance the current switch product line and to
facilitate the development of new switching products and applications.
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Selling, general and administrative expenses for Fiscal 1997 increased
$26.5 million, or 90.6%, to $55.8 million from $29.3 million for Fiscal 1996.
The increase is due to the expansion of GST USA's CLEC and enhanced services
operations and the hiring of a significant number of marketing, management
information and sales personnel to implement GST USA's integrated services
strategy. Selling, general and administrative expenses were 83.8% of total
revenue for Fiscal 1997 compared to 77.6% of total revenue for Fiscal 1996.
Depreciation and amortization for Fiscal 1997 increased $9.9 million,
or 128.1%, to $17.6 million from $7.7 million for Fiscal 1996. The increase was
attributable to newly-constructed networks becoming operational. Depreciation
and amortization was 26.5% of total revenue for Fiscal 1997 compared to 20.5%
for Fiscal 1996.
OTHER EXPENSES/INCOME. For Fiscal 1997, net other expenses increased
$6.3 million, or 41.5%, to $21.6 million, or 32.5% of total revenue, from $15.3
million, or 40.5% of total revenue, for Fiscal 1996. Fiscal 1997 net other
expenses included a $7.4 million gain recognized on the sale of one million of
GST USA's shares of NACT in February 1997. If the gain had been excluded, other
expenses for Fiscal 1997 would have increased $13.8 million over Fiscal 1996.
Such increase primarily resulted from increased interest expense due to the
issuance of the 1995 Notes in December 1995 and the issuance of the Secured
Notes in May 1997. To a lesser extent, other expenses increased due to income
tax expense attributable to income of NACT, which as of March 1, 1997 was no
longer consolidated for tax purposes.
FISCAL 1996 COMPARED TO FISCAL 1995
REVENUES. Total revenues for Fiscal 1996 increased $19.0 million, or
101.9%, to $37.7 million from $18.7 million for the fiscal year ended September
30, 1995 ("Fiscal 1995"). Telecommunications services revenues for Fiscal 1996
increased $17.0 million, or 153.2%, to $28.1 million from $11.1 million for
Fiscal 1995. The increase in telecommunications services revenues resulted from
the continuing growth of long distance (including revenues associated with
Fiscal 1995 and 1996 acquisitions), local, Internet and data services.
Acquisitions (primarily the acquisition of International Telemanagement Group,
Inc. but also the acquisitions of businesses of Reservations, Inc. d/b/a/ Hawaii
On Line ("Hawaii On Line") and Texas-Ohio Communications, Inc. and affiliated
companies (collectively, "Texas-Ohio")) accounted for $11.5 million of the
increase in such revenues. Telecommunications products revenues for Fiscal 1996
increased $2.0 million, or 26.6%, over Fiscal 1995. The increase in
telecommunications products revenues resulted from the introduction by NACT of
the STX product line in the third quarter of Fiscal 1996.
OPERATING EXPENSES. Total operating expenses for Fiscal 1996 increased
$48.6 million, or 168.1%, to $77.6 million from $28.9 million for Fiscal 1995.
Network expenses, which include direct local and long distance circuit costs,
increased $14.9 million to $25.0 million from $10.1 million for Fiscal 1995, due
to an expanded customer base and increased usage. As a percentage of
telecommunications services revenues, network expenses decreased from 90.9% for
Fiscal 1995 to 88.7% for Fiscal 1996. Facilities administration and maintenance
expenses for Fiscal 1996 increased $8.2 million to $10.3 million from $2.1
million for Fiscal 1995. As a percentage of telecommunications services
revenues, facilities administration and maintenance expenses increased from
18.9% for Fiscal 1995 to 36.7% for Fiscal 1996. The increase related to
additional personnel and facility costs required by continuing network
expansion, a substantial portion of which are incurred before the realization of
revenues.
Cost of product revenues at NACT for Fiscal 1996 increased $.9 million
to $4.0 million from $3.1 million for Fiscal 1995. As a percentage of
telecommunications products revenues for Fiscal 1996, cost of product revenues
increased nominally as compared to Fiscal 1995 due to initial lower margins
resulting from the discontinuance of NACT's former switch product line as it
began to offer the new STX to existing customers. Research and development costs
increased nominally for Fiscal 1996 relative to Fiscal 1995
-8-
<PAGE>
as GST USA moved to more rapidly develop an improved billing system product and
to maintain ongoing research and development of GST USA's existing hardware and
software product lines.
Selling, general and administrative expenses increased $19.3 million,
or 192.4%, to $29.3 million from $10.0 million for Fiscal 1995. The increase was
due to the expansion of GST USA's CLEC and enhanced services operations, and to
a lesser extent, the acquisitions during Fiscal 1996 of Tri-Star Residential
Communications Corp. and the businesses of Hawaii On Line and Texas-Ohio. The
implementation of GST USA's integrated services strategy has resulted in
additional marketing, management information and sales staff.
Depreciation and amortization for Fiscal 1996 increased $5.4 million to
$7.7 million from $2.4 million for Fiscal 1995 due to increased depreciation
resulting from newly constructed networks becoming operational. To a lesser
extent, the increase in depreciation and amortization was also due to increased
amortization of intangible assets resulting from acquisitions.
OTHER EXPENSES/INCOME. Net other expenses (income) for Fiscal 1996
increased $16.1 million to $15.3 million from $(.8) million for Fiscal 1995. The
increase was principally the result of additional interest expense associated
with the 1995 Notes, offset by interest income resulting from the investment of
the proceeds of the sale of the 1995 Notes.
LIQUIDITY AND CAPITAL RESOURCES
GST USA has incurred significant operating and net losses as a result
of the development and operation of its networks. GST USA expects that such
losses will continue to increase as GST USA emphasizes the development,
construction and expansion of its networks and builds its customer base. Cash
provided by operations will not be sufficient to fund the expansion of its
networks, longhaul fiber optic facilities and services.
GST USA's net cash used in operating and investing activities was $83.5
million, $309.6 million, and $137.4 million for the three months ended December
31, 1997, Fiscal 1997 and Fiscal 1996, respectively. Net cash provided by
financing activities from borrowings and contributions from GST to fund capital
expenditures, acquisitions and operating losses was $226.2 million, $322.8
million and $174.9 million for the three months ended December 31, 1997, Fiscal
1997 and Fiscal 1996, respectively.
Capital expenditures for the three months ended December 31, 1997,
Fiscal 1997 and Fiscal 1996 were $46.7 million, $224.1 million and $96.8
million, respectively. GST USA estimates 1998 capital expenditures of
approximately $245.0 million. The majority of these expenditures is expected to
be made for the construction of network and longhaul fiber optic facilities and
the purchase of switches and related equipment to facilitate the offering of GST
USA's services. Continued significant capital expenditures are expected to be
made thereafter. In addition, GST USA expects to continue to incur operating
losses while it expands its business and builds its customer base. Actual
capital expenditures and operating losses will depend on numerous factors,
including the extent of future expansion, acquisition opportunities and other
factors beyond GST USA's control, including economic conditions, competition,
regulatory developments and the availability of capital.
In addition to GST USA's capital expenditures in Fiscal 1996, GST USA
acquired the business of Texas-Ohio for a purchase price of $.6 million and the
assumption of certain liabilities. All other acquisitions consummated by GST USA
in Fiscal 1996 (Hawaii On Line and Tri-Star) were in consideration of Common
Shares. In the first quarter of Fiscal 1997, GST USA acquired the remaining 50%
interest in Phoenix Fiber Access, Inc. ("Phoenix Fiber") owned by ICG Telecom
Group, Inc. ("ICG") in consideration of (i) the repayment to ICG at closing of
approximately $2.1 million of intercompany indebtedness and the
-9-
<PAGE>
repayment, under certain circumstances, of up to an additional $2.0 million of
such intercompany indebtedness and (ii) the indemnification of ICG in respect of
all indebtedness of Phoenix Fiber to GST USA and third parties, other than
certain liabilities of Phoenix Fiber that were assumed by ICG. Prior to the
acquisition of the remaining 50% interest, GST USA had contributed an aggregate
of $5.0 million to Phoenix Fiber. In October 1997, GST USA acquired the assets
of Sprint's operations in Guam for consideration of $2.0 million in cash and $.5
million in liabilities for services to be provided to Sprint.
In September 1996, GST Switchco, Inc. ("GST Switchco") a wholly owned
subsidiary of GST USA entered into a Loan and Security Agreement (the "Siemens
Loan Agreement") with Siemens Telecom Networks ("Siemens"), which provides for
loans by Siemens of up to an aggregate of $226.0 million to finance the purchase
of Siemens equipment and certain equipment from other suppliers. At December 31,
1997, $116.0 million of such facility was available to GST Switchco (of which
$7.9 million had been provided). GST Switchco may seek to increase the amount of
such facility up to $226.0 million on an as needed basis, subject to the
negotiation and execution of mutually satisfactory documentation. In December
1996, GST Equipco, Inc., a wholly owned subsidiary of GST USA entered into an
equipment loan and security agreement with NTFC Capital Corp., which provides
for $50.0 million of equipment financing to finance the purchase of equipment
and products from Northern Telecom Inc. (all of which had been provided to the
Company at December 31, 1997).
In March 1997, NACT completed an initial public offering of its common
stock pursuant to which GST USA and NACT sold one million and two million
shares, respectively, of NACT's common stock, resulting in net proceeds to GST
USA and NACT of approximately $9.0 million and $18.1 million, respectively. In
February 1998, GST USA completed the sale of its remaining interest in NACT for
net proceeds of $86.5 million.
In May 1997, GST Funding completed the Secured Notes Offering of $265.0
million principal amount of Secured Notes. Of the $255.8 million of net proceeds
from the issuance of the Secured Notes, as of December 31, 1997 approximately
$93.8 million had been used to purchase securities pledged to fund the first six
interest payments on the Secured Notes (the first such payment of $16.4 million
having been made in November 1997) and approximately $104.4 million had been
used to purchase telecommunications equipment, including approximately $41.5
million that had been used to refinance indebtedness of GST USA incurred to
purchase equipment. The indentures relating to the 1995 Notes and the Secured
Notes include restrictive covenants which, among other items, limit or restrict
additional indebtedness incurred by GST USA and GST, investment in certain
subsidiaries, the sale of assets and the payment of dividends.
In November 1997, GST completed a stock and debt offering (the "1997
Offering") which yielded net proceeds of approximately $211.2 million. The net
proceeds of the 1997 Offering will be used by GST to fund the expansion of its
infrastructure, the expansion of its products and service offerings and for
working capital and general corporate purposes.
As of December 31, 1997, GST USA had approximately $613.7 million of
indebtedness outstanding. In addition, as of December 31, 1997, GST USA had
$25.0 million of availability under a a credit facility (the "Tomen Facility")
with Tomen America, Inc. and its affiliates and $108.1 million of availability
under the Siemens Loan Agreement. Although GST USA's liquidity was substantially
improved as a result of the proceeds received from the sale of the 1995 Notes
and the Secured Notes and from the 1997 Offering, GST USA will have significant
debt service obligations. GST USA will be required to make principal and
interest payments of approximately $56.8 million (of which $35.1 million will be
made from funds securing the Secured Notes), $61.3 million (of which $35.1
million will be made from funds securing the Secured Notes), $65.7 million (of
which $17.6 million will be made from funds securing the Secured Notes), $110.2
million and $108.8 million in 1998, 1999, 2000, 2001 and 2002, respectively.
However, GST USA will need to refinance a substantial amount of such
indebtedness. In addition, GST USA anticipates
-10-
<PAGE>
that cash flow from operations will be insufficient to repay the 1995 Notes and
the Secured Notes in full and that such notes will need to be refinanced. The
ability of GST USA to effect such refinancings will be dependent upon the future
performance of GST USA, which will be subject to prevailing economic conditions
and to financial, business and other factors, including factors beyond the
control of GST USA. There can be no assurance that GST USA will be able to
improve its earnings before fixed charges or that GST USA will be able to meet
its debt service obligations.
At December 31, 1997, GST USA had cash, cash equivalents, and
investments, including restricted cash and investments, of approximately $349.4
million, compared to $229.7 million at September 30, 1997. GST and GST USA
believe that the net proceeds from the sale of NACT and the cash on hand
(including the remaining proceeds from the Secured Notes Offering available to
purchase equipment), and borrowings expected to be available under the Tomen
Facility and the Siemens Loan Agreement will provide sufficient funds for GST
and GST USA to expand its business as presently planned and to fund its
operating expenses through March 2000. Thereafter, GST and GST USA expect to
require additional financing. In the event that GST and GST USA's plans or
assumptions change or prove to be inaccurate, or its cash resources, together
with borrowings under the current financing arrangements prove to be
insufficient to fund GST and GST USA's growth and operations, or if GST or GST
USA consummates additional acquisitions, they may be required to seek additional
sources of capital (or seek additional capital sooner than currently
anticipated). GST and GST USA may also seek to raise additional capital to take
advantage of favorable conditions in the capital markets. There can be no
assurance that additional financing will be available to GST and GST USA or, if
available, that it can be concluded on terms acceptable to GST and GST USA or
within the limitations contained within GST and GST USA's financing
arrangements. Failure to obtain such financing could result in the delay or
abandonment of some or all of GST and GST USA's development or expansion plans
and could have material adverse effect on GST and GST USA's business. Such
failure could also limit the ability of GST and GST USA to make principal and
interest payments on its outstanding indebtedness. GST and GST USA have no
material working capital or other credit facility under which they may borrow
for working capital and other general corporate purposes. There can be no
assurance that such a facility will be available to such companies in the future
or that if such a facility were available, that it would be available on terms
and conditions acceptable to GST and/or GST USA.
INCOME TAXES AND ADOPTION OF NEW ACCOUNTING STANDARDS
At December 31, 1997, GST USA had a U.S. net operating loss
carryforward of approximately $129.6 million. While such loss carryforwards are
available to offset future taxable income of GST USA, GST USA does not expect to
generate sufficient taxable income so as to utilize all or a substantial portion
of such loss carryforwards prior to their expiration. Further, the utilization
of net operating loss carryforwards against future taxable income is subject to
limitation if GST USA experiences an "ownership change" as defined in Section
382 of the Internal Revenue Code of 1986, as amended.
In June 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standard ("SFAS") No. 130, "Reporting
Comprehensive Income." SFAS No. 130 established standards for the reporting and
display of comprehensive income and its components in the financial statements.
GST USA is required to adopt the provisions of SFAS No. 130 in 1998, however,
GST USA believes that adopting this new accounting standard will not materially
impact the manner of presentation of its financial statements as currently and
previously reported.
In June 1997, the FASB issued SFAS No. 131, "Disclosure about Segments
of an Enterprise and Related Information" ("SFAS No. 131"), which changes the
way public companies report information about operating segments. SFAS No. 131,
which is based on the management approach to segment reporting, establishes
requirements to report selected segment information quarterly and to report
entity-wide disclosures about products and services, major customers, and the
material countries in which the entity
-11-
<PAGE>
holds assets and reports revenue. Management has not yet evaluated the effects
of this change on its reporting of segment information. GST USA will adopt SFAS
No. 131 in the fiscal year ending December 31, 1998.
YEAR 2000 PROGRAM
Many computer systems experience difficulty processing dates beyond the
year 1999 and, as such, some computer hardware and software will need to be
modified prior to the year 2000 to remain functional. GST USA's core internal
systems that have been recently implemented are year 2000 compliant. The
remaining core internal systems are scheduled to be replaced by the second
quarter of 1999 and will be year 2000 compliant when installed. GST USA is also
completing a preliminary assessment of year 2000 issues not related to its core
systems, including issues surrounding systems that interface with external third
parties. Based on its initial evaluation, GST USA does not believe that the cost
of remedial actions will have a material adverse effect on GST USA's results of
operations and financial condition. There can be no assurance, however, that
there will not be a delay in, or increased costs associated with, the
implementation of changes as the program progresses, and failure to implement
such changes could have an adverse effect on future results of operations.
ITEM 7A. QUALITATIVE AND QUANTITATIVE DISCLOSURES ABOUT MARKET RISK.
Not applicable.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
See page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS
ON ACCOUNTING AND FINANCIAL DISCLOSURE.
Not applicable.
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Not required.
ITEM 11. EXECUTIVE COMPENSATION.
Not required.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
Not required.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Not required.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES
AND REPORTS ON FORM 8-K.
(a)(1) Financial Statements: see the Index to Financial Statements.
(2) Financial Statement Schedules: see page S-1.
(3) Exhibits:
*3(a) Certificate of Incorporation of GST USA, as amended.
*3(b) By-Laws of GST USA.
**4(a) Indenture dated as of May 13, 1997, by and among GST Funding, GST, GST
USA and United States Trust Company of New York.
-12-
<PAGE>
***4(b) Senior Notes Indenture dated as of December 19, 1995, by and among GST,
GST USA and United States Trust Company of New York.
***4(c) Convertible Notes Indenture dated as of December 19, 1995, by and among
GST, GST USA and United States Trust Company of New York.
#10(a) Stock Purchase Agreement dated December 31, 1997 by and among GST
Telecommunications, Inc., GST USA, Inc. and World Access, Inc.,
incorporated by reference to Exhibit 99.2 to the Company's Form 8-K
dated January 6, 1997.
##27 Financial Data Schedule.
- -------------------
* Incorporated by reference to GST USA's Registration Statement on Form
S-4 (No. 333-33601-02).
** Incorporated by reference to GST's Quarterly Report on Form 10-Q for
the period ended June 30, 1997.
*** Incorporated by reference to GST's Annual Report on Form 20-F for the
fiscal year ended September 30, 1995.
# Incorporated by reference to Exhibit 99.2 to GST's Form 8-K dated
January 6, 1998.
## Filed herewith.
(b) Reports on Form 8-K: None.
-13-
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, as amended, the Registrant has duly caused this report to
be signed on its behalf by the undersigned, thereunto duly authorized, in the
City of Vancouver, State of Washington, on the 26th day of March, 1998.
GST USA, INC.
By: /S/ JOHN WARTA
-------------------------
John Warta,
Chairman of the Board
POWER OF ATTORNEY
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature
appears below constitutes and appoints John Warta, Stephen Irwin, Daniel
Trampush and Clifford V. Sander his true and lawful attorney-in-fact, each
acting alone, with full power of substitution and resubstitution for him and in
his name, place and stead, in any and all capacities to sign any and all
amendments to this report, and to file the same, with all exhibits thereto, and
other documents in connection therewith, with the Securities and Exchange
Commission, hereby ratifying and confirming all that said attorneys-in-fact or
their substitutes, each acting alone, may lawfully do or cause to be done by
virtue thereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, as
amended, this report has been duly signed by the following persons in the
capacities on March 26, 1998.
SIGNATURE TITLE
/S/ JOHN WARTA
- --------------------------- Chairman of the Board, Chief Executive Officer
(John Warta) (Principal Executive Officer) and Director
/S/ DANIEL L. TRAMPUSH
- --------------------------- Senior Vice President and Chief Financial Officer
(Daniel L. Trampush) (Principal Financial Officer)
/S/ CLIFFORD V. SANDER
- -------------------------- Senior Vice President, Treasurer and Assistant
(Clifford V. Sander) Secretary (Principal Accounting Officer) and
Director
/S/ STEPHEN IRWIN
- -------------------------- Senior Vice President, Secretary and Director
(Stephen Irwin)
<PAGE>
INDEX TO FINANCIAL STATEMENTS
Page(s)
GST USA, INC.
Independent Auditors' Report.................................................F-2
Consolidated Balance Sheets at December 31, 1997, and
September 30, 1997 and 1996................................................F-3
Consolidated Statements of Operations for the
three-month period ended December 31, 1997
and the years ended September 30, 1997, 1996 and
and 1995...................................................................F-4
Consolidated Statements of
Shareholders' (Deficit) Equity at December 31, 1997
September 30, 1997, 1996 and 1995..........................................F-5
Consolidated Statements of Cash Flows for the
three-month period ended December 31, 1997
and the years ended September 30, 1997, 1996
and 1995...................................................................F-6
Notes to Consolidated Financial Statements...................................F-7
F-1
<PAGE>
Independent Auditors' Report
----------------------------
The Board of Directors and Shareholder
GST USA, Inc.:
We have audited the accompanying consolidated balance sheets of GST USA, Inc.
and subsidiaries as of December 31, 1997 and September 30, 1997 and 1996, and
the related consolidated statements of operations, shareholder's (deficit)
equity, and cash flows for the three-month period ended December 31, 1997 and
for each of the years in the three-year period ended September 30, 1997. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the consolidated financial statements are
free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the consolidated 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 financial position of GST USA, Inc. and
subsidiaries as of December 31, 1997 and September 30, 1997 and 1996, and the
results of its operations and cash flows for the three-month period ended
December 31, 1997 and for each of the years in the three-year period ended
September 30, 1997, in conformity with generally accepted accounting principles.
/s/ KPMG PEAT MARWICK LLP
Portland, Oregon
February 25, 1998
F - 2
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Consolidated Balance Sheets
(In thousands, except share amounts)
<TABLE>
<CAPTION>
September 30,
December 31, -------------------
Assets 1997 1997 1996
------ ---- ---- ----
<S> <C> <C> <C>
Current assets:
Cash and cash equivalents $ 197,373 $ 54,657 $ 41,420
Restricted cash and investments 31,731 50,039 16,000
Accounts receivable, net 21,254 16,232 7,186
Receivable from parent 964 964 988
Investments 7,554 3,247 5,177
Inventory 2,823 2,790 2,406
Other current assets 12,736 10,100 4,329
--------- --------- ---------
274,435 138,029 77,506
Restricted investments 112,719 121,711 --
Property and equipment, net 402,767 359,976 124,545
Goodwill, net 17,005 19,846 21,394
Other assets, net 44,278 42,098 22,943
--------- --------- ---------
Total assets $ 851,204 $ 681,660 $ 246,388
========= ========= =========
Liabilities And Shareholder's (Deficit) Equity
----------------------------------------------
Current liabilities:
Accounts payable $ 10,795 $ 16,369 $ 8,635
Accrued expenses 28,381 40,528 21,588
Payable to parent 298,889 85,775 --
Current portion of capital lease obligations 5,755 5,892 286
Current portion of long-term debt 3,097 2,521 3,091
Other current liabilities 994 607 686
--------- --------- ---------
347,911 151,692 34,286
--------- --------- ---------
Other liabilities 1,409 1,088 158
Capital lease obligations, less current portion 13,140 14,343 541
Long-term debt, less current portion 591,728 585,405 209,544
Minority interest 12,732 12,208 182
Commitments and contingencies
Shareholder's (deficit) equity:
Common stock: 200 shares authorized, 10 shares
issued and outstanding, no par value 78,462 78,373 69,957
Accumulated deficit (194,178) (161,449) (68,280)
--------- --------- ---------
(115,716) (83,076) 1,677
--------- --------- ---------
Total liabilities and shareholder's (deficit) equity $ 851,204 $ 681,660 $ 246,388
========= ========= =========
</TABLE>
See accompanying notes to consolidated financial statements.
F - 3
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Consolidated Statements of Operations
(In thousands)
<TABLE>
<CAPTION>
Three-month
period ended Years ended September 30,
December 31, -------------------------------
1997 1997 1996 1995
---- ---- ---- ----
<S> <C> <C> <C> <C>
Revenue:
Telecommunications and other services $ 16,028 $ 44,566 $ 28,148 $ 11,118
Product 7,300 21,982 9,573 7,563
------- ------- ------- -------
Total revenue 23,328 66,548 37,721 18,681
------- ------- ------- -------
Operating costs and expenses:
Network expenses 12,226 43,746 24,955 10,103
Facilities administration and maintenance 2,852 11,495 10,317 2,096
Cost of product revenues 2,328 7,141 3,974 3,096
Selling, general and administrative 17,577 55,773 29,259 10,008
Research and development 746 2,289 1,352 1,270
Depreciation and amortization 7,073 17,639 7,733 2,369
------- ------- ------- -------
Total operating costs and expenses 42,802 138,083 77,590 28,942
------- ------- ------- -------
Loss from operations (19,474) (71,535) (39,869) (10,261)
------- ------- ------- -------
Other expenses (income):
Interest income (4,077) (6,315) (4,927) (241)
Interest expense, net of amounts capitalized 15,793 33,849 18,263 805
Loss from joint venture -- -- 1,495 661
Other, net 217 (7,415) 794 159
------- ------- ------- -------
11,933 20,119 15,625 1,384
------- ------- ------- -------
Loss before minority interest in
(income) loss of subsidiary
and income tax expense (31,407) (91,654) (55,494) (11,645)
------- ------- ------- -------
Income tax expense:
Current 758 1,802 72 70
Deferred 92 (899) -- 96
------- ------- ------- -------
850 903 72 166
------- ------- ------- -------
Loss before minority interest in
(income) loss of subsidiary (32,257) (92,557) (55,566) (11,811)
Minority interest in (income) loss of subsidiary (472) (612) 411 2,364
------- ------- ------- -------
Net loss $ (32,729) $ (93,169) $ (55,155) $ (9,447)
========= ========= ========= =========
</TABLE>
See accompanying notes to consolidated financial statements.
F - 4
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Consolidated Statements of Shareholder's (Deficit) Equity
(In thousands, except share amounts)
<TABLE>
<CAPTION>
Total
Common Shares shareholder's
---------------------- Accumulated (deficit)
Shares Amount Deficit Equity
------ ------ ------- ------
<S> <C> <C> <C> <C>
Balance, September 30, 1994 10 $ 16,340 $ (3,678) $ 12,662
Cash contributions from parent -- 24,675 -- 24,675
Non-cash contributions from parent -- 6,894 -- 6,894
Net loss -- -- (9,447) (9,447)
--------- --------- --------- ---------
Balance, September 30, 1995 10 47,909 (13,125) 34,784
Cash contributions from parent -- 9,009 -- 9,009
Non-cash contributions from parent -- 13,039 -- 13,039
Net loss -- -- (55,155) (55,155)
--------- --------- --------- ---------
Balance, September 30, 1996 10 69,957 (68,280) 1,677
Capital transaction, sale of subsidiary
shares -- 8,416 -- 8,416
Net loss -- -- (93,169) (93,169)
--------- --------- --------- ---------
Balance, September 30, 1997 10 78,373 (161,449) (83,076)
Exercise of subsidiary stock options -- 89 -- 89
Net loss -- -- (32,729) (32,729)
--------- --------- --------- ---------
Balance, December 31, 1997 10 $ 78,462 $(194,178) $(115,716)
========= ========= ========= =========
</TABLE>
See accompanying notes to consolidated financial statements.
F - 5
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands)
<TABLE>
<CAPTION>
Three-month
period ended YEARS ENDED SEPTEMBER 30,
December 31, -------------------------------
1997 1997 1996 1995
---- ---- ---- ----
Operations:
<S> <C> <C> <C> <C>
Net loss $ (32,729) $ (93,169) $ (55,155) $ (9,447)
Items not involving cash:
Minority interest in income (loss) of subsidiary 472 612 (411) (2,364)
Depreciation and amortization 7,823 19,469 8,821 2,819
Deferred income taxes 92 (899) -- 96
Accretion of interest 5,767 17,099 17,758 --
Non-cash stock compensation and other expense 374 2,521 574 --
Loss on disposal of assets -- 679 1,012 122
Loss on joint venture -- -- 1,495 766
Gain on sale of subsidiary shares -- (7,376) -- --
Changes in non-cash operating working capital:
Accounts receivable, net (4,173) (9,696) (2,274) (1,522)
Inventory (35) (382) (2,019) (13)
Other current and other assets, net (2,726) (5,718) (4,162) (1,848)
Accounts payable and accrued liabilities (17,531) 24,667 1,909 (298)
Other liabilities 708 130 153 413
------- ------- ------- -------
Cash used in operations (41,958) (52,063) (32,299) (11,276)
------- ------- ------- -------
Investing:
Acquisition of subsidiaries, net of cash acquired (2,105) (673) (1,466) 207
Purchase of investments (4,307) (3,247) (9,799) (28)
Proceeds from sales of investments -- 5,177 5,493 --
Purchase of fixed assets (46,475) (221,540) (75,698) (27,713)
Proceeds from sale of fixed assets -- 5,774 8 --
Purchase of other assets (992) (10,359) (7,628) (2,150)
Change in cash and investments restricted for the purchase
of property and equipment 12,217 (59,776) (16,000) --
Proceeds from sale of subsidiary shares, net 141 27,105 -- 615
------- ------- ------- -------
Cash used in investing activities (41,521) (257,539) (105,090) (29,069)
------- ------- ------- -------
Financing:
Proceeds from long-term debt 7,729 352,850 175,897 19,923
Proceeds of debt payable to parent 212,740 82,879 -- --
Principal payments on long-term debt and capital leases (9,270) (4,912) (1,511) (816)
Contributions from parent -- -- 9,009 24,675
Deferred debt financing costs (87) (12,004) (8,480) (853)
Change in investments restricted to finance interest payments 15,083 (95,974) -- --
------- ------- ------- -------
Cash provided by financing activities 226,195 323,839 174,915 42,929
------- ------- ------- -------
Increase in cash and cash equivalents 142,716 13,237 37,526 2,584
Cash and cash equivalents, beginning of year 54,657 41,420 3,894 1,310
------- ------- ------- -------
Cash and cash equivalents, end of year $ 197,373 $ 54,657 $ 41,420 $ 3,894
========= ========= ========= =========
Supplemental disclosure of cash flow information:
Cash paid for interest $ 21,631 $ 4,564 $ 1,813 $ 364
Cash paid for income taxes 1,038 638 -- 264
Supplemental schedule of non-cash investing and financing activities:
Recorded in business combinations:
Assets acquired $ 2,605 $ 1,052 $ 12,817 $ 17,081
Liabilities assumed 500 379 3,037 7,706
Minority interest -- -- (2,686) 1,797
Common shares of parent -- -- 12,465 7,241
Amounts in accounts payable and accrued liabilities for the
purchase of fixed assets at year-end 19,029 19,718 18,291 4,363
Assets acquired through capital leases 480 21,241 -- 128
</TABLE>
See accompanying notes to consolidated financial statements.
F - 6
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
December 31, 1997 and September 30, 1997 and 1996
(1) Summary of Significant Accounting Policies
(a) Description of the Company
GST USA, Inc. (the Company) is a wholly-owned subsidiary of GST
Telecommunications, Inc. (GST), a Canadian company, and is engaged in the
business of providing competitive local exchange services primarily in
the western United States. In addition, the Company provides a range of
telecommunications services which include long distance, Internet access
and data services. Upon formation of the Company in August of 1994, GST
transferred all of its operating subsidiaries and equity investments to
the Company.
(b) CHANGE IN FISCAL YEAR-END
In 1997, the Company changed its fiscal year-end from September 30 to
December 31. Included in the accompanying audited financial statements
are the results of operations for the three-month period ended December
31, 1997. Unaudited results of operations for the comparable three-month
period ended December 31, 1996 are summarized below:
Revenues $ 15,161
Loss from operations (15,927)
Other expenses, net (3,838)
Income tax expense -
Net loss (19,765)
(c) BASIS OF CONSOLIDATION
The accompanying consolidated financial statements include the accounts
of the Company and its greater than 50% owned subsidiaries. The Company's
investments in unconsolidated companies owned 20% or more are accounted
for using the equity method. All significant intercompany accounts have
been eliminated.
(d) CASH AND CASH EQUIVALENTS
Cash equivalents consist of short-term, highly liquid investments with
original maturities of ninety days or less.
(Continued)
F - 7
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(e) ACCOUNTS AND NOTES RECEIVABLE
The Company maintains a security interest in the telecommunications
systems it sells until the Company is paid in full. Notes receivable from
customers, included in accounts receivable, total $4,055, $3,334 and $623
at December 31, 1997 and September 30, 1997 and 1996, respectively.
Management provides an allowance for doubtful accounts and notes based on
current customer information and historical statistics. The allowance for
doubtful accounts was $3,830, $3,451 and $1,183 at December 31, 1997 and
September 30, 1997 and 1996, respectively.
(f) CASH AND INVESTMENTS
The Company follows the provisions of Statement of Financial Accounting
Standards (SFAS) No. 115, ACCOUNTING FOR CERTAIN INVESTMENTS IN DEBT AND
EQUITY SECURITIES.
The Company classifies its restricted investments, consisting at December
31, 1997 of $143,375 in U.S. Treasury securities and $1,075 in
certificates of deposit, as available-for-sale and held-to-maturity.
Held-to-maturity investments, recorded at amortized cost, totaling
$81,966 and $97,049 at December 31, 1997 and September 30, 1997,
respectively, and maturing between three months and three years, are
restricted primarily for interest payments. Available-for-sale
investments, totaling $62,484 and $74,701 at December 31, 1997 and
September 30, 1997, respectively, and maturing between two months and one
year, are restricted for equipment purchases. Available-for-sale
securities are recorded at amortized cost which approximates the market
value of such securities at December 31, 1997 and September 30, 1997.
The Company's unrestricted investments totaling $7,554, $3,247 and $5,177
at December 31, 1997 and September 30, 1997 and 1996, respectively,
consist of U.S. government securities and certificates of deposit, all
maturing within one year, and are classified as available-for-sale which
approximates market value.
(Continued)
F - 8
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(g) INVENTORY
Inventory is stated at the lower of cost (first-in, first-out) or market
(net realizable value) and consists of the following:
<TABLE>
<CAPTION>
December 31, September 30, September 30,
1997 1997 1996
---- ---- ----
<S> <C> <C> <C>
Raw materials $1,577 $1,065 $ 378
Work in process 587 499 346
Finished and refurbished goods 659 1,226 1,682
------ ------ ------
Inventory $2,823 $2,790 $2,406
====== ====== ======
</TABLE>
(h) PROPERTY AND EQUIPMENT
Property and equipment is recorded at cost and is depreciated on the
straight-line basis over their estimated useful lives, which are as
follows:
Telecommunications networks 20 years
Electronic and related equipment 10 years
Leasehold improvements 10 years
Furniture, office equipment and other 3 - 7 years
Building 40 years
Construction, engineering and overhead costs directly related to the
development of the Company's networks are capitalized. The Company begins
depreciating these costs when the networks become commercially
operational. Depreciation expense totaled $5,857, $13,756, $5,496 and
$1,193 for the three-month period ended December 31, 1997 and for the
years ended September 30, 1997, 1996 and 1995, respectively.
(i) GOODWILL
Goodwill is amortized, using the straight-line method, over periods
ranging from five to twenty years. The Company assesses the carrying
amount of goodwill for impairment whenever events or changes in
circumstances indicate that the carrying amount may not be recoverable.
Measurement of any impairment includes a comparison of estimated future
operating cash flows anticipated to be generated during the remaining
life of the goodwill to the net carrying value. Amortization charged to
operations was $602, $2,385, $1,528 and $389 for the three-month period
ended December 31, 1997 and for the years ended September 30, 1997, 1996
and 1995, respectively.
(Continued)
F - 9
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(j) REVENUE RECOGNITION
Telecommunication services revenue is recorded upon placing of calls or
rendering of other related services. Product revenue is recorded upon
shipment of product and is presented in the accompanying consolidated
statements of operations net of product returns.
Deferred revenue consists of monthly service contract payments received
in advance, warranty payments received in advance and research and
development advances, and is included in other current liabilities in the
accompanying consolidated balance sheets. Advance warranty payments are
amortized over the length of warranty on the system sold, which is
typically one year.
(k) LOSS PER SHARE
The Company does not have any equity instruments which are considered
common stock equivalents, and, as weighted average common shares total
only ten for all periods, loss per share information is not meaningful
and is not presented in the accompanying consolidated financial
statements.
(l) ISSUANCE OF SUBSIDIARY STOCK
Issuances of subsidiary stock are accounted for as capital transactions
in the accompanying consolidated financial statements.
(m) MINORITY INTEREST
In March 1997, the Company's then wholly-owned subsidiary, NACT
Telecommunications, Inc. (NACT), completed an initial public offering of
its common stock, pursuant to which the Company and NACT sold one and two
million shares, respectively, of NACT's common stock, resulting in net
proceeds of approximately $9,000 and $18,100, respectively. As a result
of the offering, the Company's ownership was reduced to 63%. Minority
interest represents the non-Company owned shareholder interest in NACT's
equity resulting from the 1997 offering.
As discussed in note 11, the Company sold its remaining interest in NACT
in February 1998.
(Continued)
F - 10
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(n) CONCENTRATION OF CREDIT RISK
For purposes of segment reporting, the Company is presently operating
100% in the telecommunications industry in the United States and results
of operations are derived from United States operations and substantially
all assets reside in the United States. The Company is exposed to
concentration of credit risk principally from accounts receivable. The
Company's five largest telecommunications services customers accounted
for approximately 28.8%, 38.5%, 52.9% and 26.8% of the Company's
consolidated telecommunications services revenue for the three-month
period ended December 31, 1997 and for the years ended September 30,
1997, 1996 and 1995, respectively.
(o) INCOME TAXES
The Company accounts for income taxes under the asset and liability
method. Under the asset and liability method, deferred income taxes
reflect the future tax consequences of differences between the tax bases
of assets and liabilities and their financial reporting amounts at each
year-end. Deferred tax assets and liabilities are measured using enacted
tax rates expected to apply to taxable income in the years in which those
temporary differences are expected to be recovered or settled. The effect
on deferred tax assets and liabilities of a change in the tax rates is
recognized in income in the period that includes the enactment date.
Valuation allowances are established when necessary to reduce deferred
tax assets to the amounts expected to be realized.
(p) FINANCIAL INSTRUMENTS
The carrying amounts reported in the balance sheet for cash and cash
equivalents, receivables, short-term borrowings and accounts payable and
accrued liabilities approximate fair values due to the short maturity of
those instruments.
The carrying amount of the Company's long-term debt approximates its fair
value. The fair value of the Company's long-term debt was determined
based on quoted market prices for similar issues or on current rates
available to the Company for debt of the same remaining maturities and
similar terms.
Fair value estimates are made at a specific point in time, based on
relevant market information about the financial instrument. These
estimates are subjective in nature and involve uncertainties and matters
of significant judgment and therefore cannot be determined with
precision. Changes in assumptions could significantly affect the
estimates.
(Continued)
F - 11
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(q) USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amounts of assets and liabilities
and disclosure of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
(r) ADVERTISING COSTS
The Company expenses advertising costs as incurred.
(s) RECLASSIFICATIONS
Certain reclassifications have been made in the accompanying consolidated
financial statements for September 30, 1997, 1996 and 1995 to conform
with the December 31, 1997 presentation.
(2) ACQUISITIONS
The Company has made the acquisitions set forth below, each of which was
accounted for as a purchase. The consolidated financial statements
include the operating results from the effective date of acquisition.
(a) PHOENIX FIBER ACCESS, INC. (PHOENIX FIBER)
In the first quarter of 1997, the Company paid $2,000 in cash to acquire
the remaining 50% of Phoenix Fiber, previously 50% owned by the Company
through a joint venture with ICG Telecom Group, Inc. (ICG). In addition,
the Company assumed the repayment of up to $2,000 of intercompany
indebtedness, under certain circumstances, and indemnified ICG in respect
of all indebtedness of Phoenix Fiber to the Company and third parties,
other than certain liabilities of Phoenix Fiber that were assumed by ICG.
Phoenix Fiber is an Arizona company engaged in providing competitive
local exchange services in the Phoenix metropolitan area.
(Continued)
F - 12
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(b) GST TELECOM, INC. (GST TELECOM)
In a series of transactions between 1994 and 1996, the Company purchased
100% of the outstanding shares of GST Telecom, which develops, constructs
and operates competitive local exchange networks and other communications
systems. Consideration paid for GST Telecom consisted of 2,100,000 common
shares of GST valued at $15,447, which shares were paid to Pacwest, LLC
(Pacwest), an entity controlled by the Chief Executive Officer of the
Company. Goodwill of $15,330 was recorded as a result of this
acquisition.
(c) OTHERS
In October 1997, the Company purchased the assets of the Guam operations
of Sprint Communications Company L.P. (Sprint) which provide long
distance and ancillary services in Guam. Consideration paid for this
acquisition consisted of $2,000 in cash and $500 in liabilities for
services to be provided to Sprint.
In May 1996, the Company purchased from Tomen America, Inc. (Tomen) the
remaining 10% interest in the GST Pacific Lightwave, Inc., a GST Telecom
subsidiary which operates a fiber optic competitive local exchange
network in southern California. The consideration paid for this
acquisition consisted of $1,250 in cash, which was recorded as goodwill.
During 1996, the Company acquired the assets of Reservations, Inc. dba
Hawaii Online (Hawaii Online), the assets of Texas-Ohio Communications,
Inc. (Texas-Ohio), and 100% of the outstanding capital stock of Tri-Star
Residential Communications, Inc. (Tri-Star). Hawaii Online is an Internet
service provider; Texas-Ohio is a long distance service provider; and
Tri-Star provides shared tenant services consisting of long distance,
cable television and security service to tenants of multi-dwelling
apartment units. Consideration paid for these acquisitions consisted of
199,887 common shares of GST valued at $1,862, a commitment to issue
approximately 50,887 common shares of GST valued at $604 over the next
year and $719 of cash. Goodwill of $1,044 was recorded as a result of
these acquisitions.
The consolidated results of operations for the three-month period ended
December 31, 1997 reflect each of the acquisitions discussed above for
the full period. Pro forma results for the years ended September 30,
1997, 1996 and 1995 are not material to the financial statements and, as
such, have not been presented.
(Continued)
F - 13
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(3) PROPERTY AND EQUIPMENT
<TABLE>
<CAPTION>
December 31, September 30, September 30,
1997 1997 1996
---- ---- ----
<S> <C> <C> <C>
Telecommunications networks $ 132,028 $ 95,447 $ 25,551
Electronic and related equipment 66,627 57,925 29,951
Leasehold improvements 20,858 8,439 3,495
Furniture, office equipment
and other 12,282 11,780 7,465
Building 3,366 3,366 2,134
Construction in progress 192,888 202,545 62,658
----------- -------- ---------
428,049 379,502 131,254
Less accumulated depreciation (25,282) (19,526) (6,709)
----------- -------- ---------
$ 402,767 $359,976 $ 124,545
=========== ======== =========
</TABLE>
Property and equipment includes $192,888, $202,545 and $62,658 of
equipment which had not been placed in service at December 31, 1997,
September 30, 1997 and 1996, respectively, and accordingly is not being
depreciated. During the three-month period ended December 31, 1997 and
the three years ended September 30, 1997, 1996 and 1995, $3,726, $15,170,
$2,316 and $291 of interest, respectively, was capitalized as part of
telecommunications networks and networks in progress.
(4) ACCRUED EXPENSES
<TABLE>
<CAPTION>
December 31, September 30, September 30,
1997 1997 1996
---- ---- ----
<S> <C> <C> <C>
Fixed asset purchases $ 12,157 $11,531 $14,153
Carrier costs 23 2,113 2,659
Accrued interest 7,966 17,998 413
Payroll and related liabilities 2,345 2,752 1,468
Other 5,890 6,134 2,895
---------- ------- -------
Total $ 28,381 $40,528 $21,588
========== ======= =======
</TABLE>
(Continued)
F - 14
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(5) LONG-TERM DEBT
<TABLE>
<CAPTION>
December 31, September 30, September 30,
1997 1997 1996
---- ---- ----
<S> <C> <C> <C>
Senior secured notes, 13.25%,
due May 1, 2007 $265,000 $265,000 $ -
Note payable to Tomen,
LIBOR plus 3% (9.0% at
December 31, 1997) 61,793 69,137 31,771
Note payable to NTFC, LIBOR
plus 3.5% (9.5% at
December 31, 1997) 50,000 44,634 -
Note payable to Siemens,
LIBOR plus 3.5% (9.5%
at December 31, 1997) 7,889 5,846 -
Senior discount notes, 13.875%,
due December 15, 2005 210,136 203,280 177,760
Other 7 29 3,104
-------- ------- -------
594,825 587,926 212,635
Less current portion of
long-term debt 3,097 2,521 3,091
-------- -------- --------
$591,728 $585,405 $209,544
======== ======== ========
</TABLE>
The schedule of future principal payments on long-term debt is as follows:
Year ending December 31:
1998 $ 3,097
1999 13,196
2000 19,115
2001 22,242
2002 22,945
Thereafter 514,230
---------
$ 594,825
=========
(Continued)
F - 15
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(a) SENIOR SECURED NOTES
In May of 1997, GST Equipment Funding, a wholly-owned subsidiary of the
Company, issued $265,000 in Senior Secured Notes (the Secured Notes) due
May 1, 2007. The Secured Notes bear interest at a rate of 13.25% with
semiannual interest payments due beginning November 1, 1997.
Approximately $93,790 of the proceeds were set aside to fund the first
six scheduled interest payments. The remainder of the net proceeds are
restricted to the purchase and installation of telecommunications
equipment. The Secured Notes are secured by the equipment purchased with
the proceeds and are subject to certain debt covenants.
The Indenture provides that the Company will assume and become a direct
obligor on the Secured Notes and GST will guarantee the Secured Notes on
May 13, 2000, or earlier if permitted by the terms of their existing
debt. Once assumed, the Secured Notes will be secured senior indebtedness
of the Company. The note guarantee will be senior unsecured indebtedness
of GST.
The Secured Notes are redeemable at the option of the Company, in whole
or in part, at any time, on or after May 1, 2002, initially at 106.625%
of their principal amount, plus accrued and unpaid interest, declining
ratably to 100% on or after May 1, 2004. If on May 13, 2000, the Company
is prohibited from assuming all of the Secured Notes, the Company will
redeem the portion of the Secured Notes that cannot be assumed at 101% of
their principal amount plus accrued interest at the date of redemption.
(b) TOMEN FACILITY
In the first quarter of 1995, the Company entered into a master financing
agreement with Tomen. Under the agreement, Tomen will loan up to $100,000
to subsidiaries of the Company for development and construction of
network projects. As of December 31, 1997, Tomen had provided a total of
$69,468 in debt financing to the Company's subsidiaries for construction
and operation of its fiber optic networks in southern California, New
Mexico, Arizona and Hawaii. The Tomen financing is secured by the
equipment purchased with the proceeds and subject to certain debt
covenants.
(c) NTFC CAPITAL CORPORATION (NTFC) AGREEMENT
In the first quarter of 1997, the Company entered into a $50,000 loan and
security agreement with NTFC to finance the purchase of certain equipment
from Northern Telecom, Inc. Amounts borrowed under the agreement bear
interest at LIBOR plus 3.5% and will be repaid in twenty quarterly
installments beginning in January 1999. The loan is secured by the
equipment purchased with the proceeds and subject to certain debt
covenants.
(Continued)
F - 16
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(d) SIEMENS TELECOM NETWORKS (SIEMENS) AGREEMENT
In the fourth quarter of 1996, the Company entered into a loan and
security agreement with Siemens. Under the terms of the agreement,
Siemens will loan up to $226,000 to the Company for the purchase and
installation of telecommunications switching and related equipment. At
December 31, 1997, $116,000 was available to the Company. Amounts
borrowed under the agreement initially bear interest at LIBOR plus 4.5%
and are secured by the equipment. Such interest decreases to LIBOR plus
3.5% at the time each initial loan is converted to a term loan, which
conversion occurs at the first calendar quarter following the initial
loan. The Company is committed to purchase a minimum of $16,500 in
equipment over three years. Amounts borrowed under the agreement will be
repaid in twenty-four quarterly installments beginning five quarters
after the initial loan is converted to a term loan. The loan is subject
to certain debt covenants.
(e) SENIOR DISCOUNT NOTES
In the first quarter of 1996, the Company issued approximately $160,000
in 13.875% Senior Discount Notes (the Senior Notes) maturing on December
15, 2005. The Senior Notes were sold at a substantial discount and there
will be no accrual of cash interest prior to December 15, 2000 or payment
of interest until June 15, 2001. The Senior Notes accrete to a total
principal amount, due December 15, 2005, of approximately $312,400 by
December 15, 2000. The Senior Notes rank in right of payment with all
unsubordinated indebtedness of the Company. On or after December 15,
2000, the Senior Notes will be redeemable at the option of the Company.
The Senior Notes are subject to certain debt covenants and are guaranteed
by GST.
(f) GUARANTEE OF PARENT'S DEBT
The Company has guaranteed GST's Convertible Senior Subordinated Discount
Notes (the Convertible Notes) totaling approximately $26,133 at December
31, 1997. The Convertible Notes accrete to a total principal amount, due
December 15, 2005, of approximately $39,100 by December 15, 2000. On or
after December 15, 2000, the Convertible Notes will be redeemable at the
option of the Company and GST. The Convertible Notes are subject to
certain debt covenants.
(Continued)
F - 17
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(6) SHAREHOLDER'S (DEFICIT) EQUITY
(a) COMMON STOCK
Since inception, GST has owned all of the outstanding shares of the
Company.
(b) NON-CASH CONTRIBUTIONS FROM PARENT
Non-cash contributions from parent consist primarily of GST stock issued
in connection with the Company's acquisition of certain subsidiaries.
(c) STOCK-BASED COMPENSATION
Certain employees of the Company are eligible for stock option and stock
bonus awards of GST's common stock. Pursuant to performance-based awards,
compensation expense of $374, $2,521, $574 and $-0- for the three-month
period ended December 31, 1997 and for the years ended September 30,
1997, 1996 and 1995, respectively, has been recorded in the Company's
financial statements.
(Continued)
F - 18
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(7) INCOME TAXES
The provision for income taxes differs from the amount computed by
applying the statutory income tax rate to net income before taxes for the
three-month period ended December 31, 1997 and the years ended September
30, 1997, 1996 and 1995 as follows:
<TABLE>
<CAPTION>
December 31, September 30, September 30, September 30,
1997 1997 1996 1995
---- ---- ---- ----
<S> <C> <C> <C> <C>
Computed expected income
tax expense (benefit)
at statutory rate (34)% (34)% (34)% (34)%
Expected state income tax
expense (benefit) (4) (4) (4) (5)
Increase in valuation
allowance 38 36 25 37
Amortization of goodwill 1 1 1 7
Minority interest - - - (9)
Effect of inability to offset
losses of subsidiaries - - - 2
Equity method accounting
for joint venture - - 1 2
Effect of acquisition of new
subsidiaries - - 5 1
Non-deductible interest 2 2 2 -
Other - - 4 1
---- ---- ---- ---
Income tax expense 3 % 1 % - % 2 %
==== ==== === ====
</TABLE>
(Continued)
F - 19
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
Deferred income taxes reflect the net tax effects of temporary
differences between the carrying amounts of assets and liabilities for
financial reporting purposes and the amounts used for income tax
purposes. The tax effects of significant items comprising the Company's
deferred tax asset and liability are as follows:
<TABLE>
<CAPTION>
December 31, September 30, September 30,
1997 1997 1996
---- ---- ----
<S> <C> <C> <C>
Deferred tax assets:
Federal and state net operating
loss carryforwards $ 47,246 $ 40,106 $ 16,378
Non-deductible interest 18,365 13,757 4,608
Other 4,425 3,692 2,063
------------ ------------ ------------
Total gross deferred
tax assets 70,036 57,555 23,049
Less valuation allowance (63,659) (51,501) (18,438)
------------ ------------ ------------
Deferred tax liabilities:
Furniture, fixtures and
equipment, due to
differences in depreciation 5,376 4,918 2,110
Capitalized software/intangibles 1,436 1,479 2,501
------------ ------------ ------------
Total gross deferred
tax liabilities 6,812 6,397 4,611
------------ ------------ ------------
Net deferred tax liabilities $ (435) $ (343) $ -
============ ============ ===========
</TABLE>
The valuation allowance for deferred tax assets as of October 1, 1994 was
$713. The net change in total valuation allowance for the three-month
period ended December 31, 1997 and for the years ended September 30,
1997, 1996 and 1995 was an increase of $12,158, $33,063, $14,237 and
$3,488, respectively.
(Continued)
F - 20
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
The Company has net operating losses for income tax purposes of
approximately $129,633 available to reduce United States taxable income
of future years, expiring as follows:
2006 $ 405
2007 537
2008 2,800
2009 5,020
2010 36,922
2011 64,379
2012 19,570
--------
$129,633
========
Utilization of net operating losses may be subject to limitation in the
event of certain substantial stock ownership changes having occurred
pursuant to IRC Section 382 and referred to hereinafter as an ownership
change. The Company may have incurred an ownership change under IRS
Section 382. This potential ownership change would limit the utilization
of any net operating losses incurred prior to the change in ownership
date. The Company intends to complete an analysis under IRC Section 382
to determine if an ownership change has occurred.
(8) LEASES
The Company is obligated under capital leases for equipment which expire
at various dates during the next twenty years. Certain of these
agreements contain clauses which allow the lessor to cancel the agreement
upon twelve-month written notice. However, the Company believes that the
likelihood of such clauses being exercised is remote. Gross amounts of
equipment and related accumulated amortization recorded under capital
leases were as follows:
<TABLE>
<CAPTION>
December 31, September 30, September 30,
1997 1997 1996
---- ---- ----
<S> <C> <C> <C>
Equipment $24,265 $24,030 $ 924
Less accumulated amortization (4,985) (3,541) (249)
------- ------- -----
$19,280 $20,489 $ 675
======= ======= =====
</TABLE>
Amortization of assets held under capital leases is included with
depreciation expense.
(Continued)
F - 21
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
The Company also has noncancelable operating leases, primarily for
facilities, which expire over the next thirty years. Rental expense under
operating leases was $934, $2,822, $1,443 and $800 for three-month period
ended December 31, 1997 and for the years ended September 30, 1997, 1996
and 1995, respectively.
Future minimum lease payments under noncancelable leases (with initial or
remaining lease terms in excess of one year) and future minimum capital
lease payments as of December 31, 1997 are:
Capital Operating
Leases Leases
------ ------
Year ending December 31:
1998 $ 7,717 $ 4,253
1999 2,849 3,768
2000 2,780 3,036
2001 2,780 2,461
2002 2,780 2,317
Thereafter 12,930 9,012
-------- -------
Total minimum lease payments 31,836 $24,847
======= =======
Less amount representing interest
(at rates ranging from
10% to 17%) 12,941
-------
Net minimum lease payments 18,895
Less current installments of
obligations under
capital leases 5,755
-------
Obligations under capital
leases, excluding
current installments $13,140
=======
(9) COMMITMENTS AND CONTINGENCIES
(a) PENSION AND PROFIT SHARING PLANS
In 1995, the Company adopted a defined contribution 401(k) plan (the
Plan). Employees are eligible to participate in the Plan upon
commencement of service. Participants may defer up to 15% of eligible
compensation. Currently, the Company does not provide matching
contributions for the Plan.
(Continued)
F - 22
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(b) LONG DISTANCE CARRIERS
The Company is party to various contracts with long distance carriers
pursuant to which the Company is committed to minimum service fees. The
average monthly minimum commitments range from $2,300 to $6,100 per month
over the next three years. The Company may be required to pay the
carriers for differences between the commitment amounts and the actual
amounts billed.
(c) LEGAL PROCEEDINGS
On August 24, 1995, Aerotel, Ltd. and Aerotel U.S.A., Inc. (collectively,
"Aerotel") filed a patent infringement suit against NACT alleging that
telephone systems manufactured and sold by NACT incorporate prepaid
calling features which infringe upon a patent issued to Aerotel in
November 1987. The complaint further alleges defamation and unfair
competition by NACT and seeks various damages. NACT has filed an Answer
and Counterclaim denying patent infringement, committing defamation or
unfair competition and seeks judgment that the Aerotel patent is invalid
and that Aerotel has misused its patent in violation of antitrust laws.
On May 3, 1996, NACT served its motion for summary judgment, which the
Court has indicated it will deny such motion, although the Court has not
yet issued its ruling. Aerotel amended its complaint to include as
defendants the Company and GST. The amended pleadings allege that the
Company and GST have infringed the Aerotel patent, aided and abetted
infringement by others, including NACT, and participated in, and aided
and abetted alleged tortious conduct by NACT. The Company and GST have
served answers denying all material allegations and intend to defend
vigorously. Pretrial discovery has commenced and is scheduled to be
completed in 1998. The case is not expected to be tried until late 1998
at the earliest. NACT's patent counsel believes that NACT has valid
defenses to the Aerotel claims. If upheld, these defenses would also be
valid for all defendants. An unfavorable decision in this action could
have a material adverse effect on the Company. Based on information
currently available, the Company's management is of the opinion that
there will be no material impact of the Company's financial position,
results of operations, or cash flows as a result of this suit.
Accordingly, no provision for loss has been provided in the accompanying
consolidated financial statements.
Concurrent with the sale of NACT (see note 11), the Company and World
Access, Inc. entered into an agreement whereby the Company generally will
bear 50% of any damages, including reasonable attorney fees, losses,
liabilities, claims and assessments, royalties and license fees. Under
the agreement, subsequent to a determination, if any, by a Court that the
Aerotel patent is valid and it has been infringed, the Company's
liability associated with royalties and license fees, refunds and cost of
product replacement or modification is limited to $2,000.
(Continued)
F - 23
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
The Company is involved in various other claims and legal actions arising
in the ordinary course of business. In the opinion of management, the
ultimate disposition of these matters will not have a material effect on
the Company's financial position, results of operations or cash flows.
(d) REPURCHASE AGREEMENT
NACT is guarantor for financing transactions executed under a repurchase
agreement with Zions Credit Corporation (Zions) for a maximum of $4,169
at December 31, 1997. Zions provides lease financing to NACT customers on
a recourse basis.
(e) EMPLOYMENT AGREEMENTS
The Company has entered into employment agreements with key members of
management. These agreements provide for payments based upon death,
disability and change of control. The agreements also contain covenants
not to compete.
(10) RELATED PARTY TRANSACTIONS
(a) MAGNACOM WIRELESS, LLC (MAGNACOM)
Magnacom, a company 99% owned by Pacwest Network, Inc. (PNI), which is in
turn controlled by the Chief Executive Officer of the Company, and the
Company have entered into a twelve-year reseller agreement (the Magnacom
Reseller Agreement) pursuant to which (i) the Company has been designated
a non-exclusive reseller of PCS telephone services in the markets in
which Magnacom has obtained licenses, and (ii) Magnacom has agreed to use
the Company on an exclusive basis to provide switched local and long
distance services, and other enhanced telecommunications services, to all
of Magnacom's resellers in markets where the Company has operational
networks. Magnacom agreed to sell PCS minutes to the Company at five
cents per minute, subject to downward adjustment to equal the most
favorable rates offered to Magnacom's other resellers (but in no event
less than Magnacom's cost). In connection with the Magnacom Reseller
Agreement, the Company has paid a total of approximately $14,000 as
pre-payments for future PCS services.
(Continued)
F - 24
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
In addition, the Company has been granted a conditional option to acquire
up to PNI's entire interest in Magnacom (currently 99%), conditioned upon
Magnacom and the Company entering into an agreement for the construction
and/or operation of Magnacom's facilities. The condition precedent to
such option has not yet been met. Such option, if and when the condition
precedent is met, shall be subject to compliance with all applicable FCC
regulations relating to prior approval of any transfer of control of PCS
licenses, including those relating to foreign ownership or control and
requirements regarding the ownership of C and F block licenses.
Accordingly, until such time as FCC regulations or administrative action
permit the Company to own in excess of 25% of Magnacom, the option by its
terms is limited to a 24% interest in Magnacom. The Company, Magnacom and
PNI are in negotiations with respect to modifying the option in order to
provide, among other things, that the Company own no more than a 25%
interest in Magnacom upon exercise of such option.
(b) PACWEST NETWORK, INC. (PNI)
The operations of the Company's Hawaiian microwave network require the
use of radio licenses from the FCC. Such licenses are owned by PNI, a
company controlled by the Company's Chief Executive Officer. Under
agreements between the Company and PNI, (1) the Company pays a monthly
fee to PNI to utilize PNI's licenses for its communications traffic and
(2) PNI pays an equal monthly fee to the Company for the right to utilize
the Company's facilities for other communications traffic using up to 10%
of PNI's license capacity.
(c) TOMEN
Under the Tomen facility, Tomen has the right to act as procurement agent
for each network project it finances. The Company has purchased equipment
through Tomen at competitive prices. Additionally, an upfront fee of
1.50% of the aggregate principal amount of each project loan advanced and
a commitment fee of .50% per annum on the unused portion of each project
loan is payable to Tomen.
Pursuant to the Tomen agreements, Tomen has purchased 1,579,902 shares of
GST common stock for total cash consideration of $10,400 and holds
warrants to purchase an additional 246,155 shares of GST common stock at
prices ranging from $12.61 to $12.96 per share. Such warrants expire at
various times between May 1998 and September 1999.
(Continued)
F - 25
<PAGE>
GST USA, INC.
AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(In thousands, except share amounts)
(d) OTHER
The Company and GST paid approximately $104, $2,066, $2,264 and $770 in
legal fees during the three-month period ended December 31, 1997 and the
years ended September 30, 1997, 1996 and 1995, respectively, to a firm
having a member who is also a director of the Company and of GST.
Prior to June 1997, the Company's Chief Executive Officer served as a
paid consultant to Tomen. Additionally, Pacwest received a fee equal to
1% of the aggregate debt and equity financing provided by Tomen to the
Company and GST through October 1997. Such fees incurred by the Company
and GST totaled $437, $195 and $221 during the years ended September 30,
1997, 1996 and 1995, respectively.
Receivables from parent are primarily comprised of expenses paid by the
Company of behalf of GST.
Payables to parent represent advances from GST to be used in constructing
and operating the Company's telecommunications networks.
(11) SUBSEQUENT EVENT
In February 1998, the Company completed the sale of its remaining
interest in NACT for net proceeds of $86,545.
F - 26
<PAGE>
INDEPENDENT AUDITORS' REPORT
The Board of Directors
GST USA, Inc.:
Under date of February 25, 1998, we reported on the consolidated balance sheets
of GST USA, Inc. and subsidiaries as of December 31, 1997 and September 30, 1997
and 1996, and the related consolidated statements of operations, shareholder's
(deficit) equity and cash flows for the three-month period ended December 31,
1997 and for each of the years in the three-year period ended September 30,
1997, which are included in the transition report on Form 10-K for the
three-month period ended December 31, 1997. In connection with our audits of the
aforementioned consolidated financial statements, we also have audited the
related consolidated financial statement schedule listed in the accompanying
index. This financial statement schedule is the responsibility of the Company's
management. Our responsibility is to express an opinion on this financial
statement schedule based on our audits.
In our opinion, such financial statement schedule, when considered in relation
to the basic consolidated financial statements taken as a whole, presents
fairly, in all material respects, the information set forth therein.
/s/ KPMG PEAT MARWICK LLP
Portland, Oregon
February 25, 1998
S-1
<PAGE>
GST USA, INC.
Valuation and Qualifying Accounts
<TABLE>
<CAPTION>
Balance at Charged Written off Balance at
beginning to bad debt against end of
Allowance for doubtful accounts of period expense allowance period
- ------------------------------- --------- ------- --------- ------
<S> <C> <C> <C> <C>
Three months ended December 31, 1997 3,451 1,121 742 3,830
Year ended September 30, 1997 1,183 4,765 2,497 3,451
Year ended September 30, 1996 1,402 1,703 1,922 1,183
Year ended September 30, 1995 60 1,354 12 1,402
</TABLE>
S-2
<PAGE>
EXHIBIT INDEX
EXHIBIT
*3(a) Certificate of Incorporation of GST USA, as amended.
*3(b) By-Laws of GST USA.
**4(a) Indenture dated as of May 13, 1997, by and among GST Funding, GST, GST
USA and United States Trust Company of New York.
***4(b) Senior Notes Indenture dated as of December 19, 1995, by and among
GST, GST USA and United States Trust Company of New York.
***4(c) Convertible Notes Indenture dated as of December 19, 1995, by and
among GST, GST USA and United States Trust Company of New York.
#10(a) Stock Purchase Agreement dated December 31, 1997 by and among GST, GST
USA and World Access, Inc.
##27 Financial Data Schedule.
- ---------------------
* Incorporated by reference to GST USA's Registration Statement on Form
S-4 (No. 333-33601-02).
** Incorporated by reference to GST's Quarterly Report on Form 10-Q for
the period ended June 30, 1997.
*** Incorporated by reference to GST's Annual Report on Form 20-F for the
fiscal year ended September 30, 1995.
# Incorporated by reference to Exhibit 99.2 to GST's Form 8-K dated
January 6, 1998.
## Filed herewith.
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
This schedule contains summary financial information extracted from the
Company's Form 10-K for the three month transition period ended December 31,
1997 and is qualified in its entirety by reference to such financial statements.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<PERIOD-START> OCT-01-1997
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-END> DEC-31-1997
<CASH> 197,373,479
<SECURITIES> 39,284,421
<RECEIVABLES> 21,029,763
<ALLOWANCES> (3,830,342)
<INVENTORY> 2,823,179
<CURRENT-ASSETS> 274,434,988
<PP&E> 428,048,644
<DEPRECIATION> 25,281,860
<TOTAL-ASSETS> 851,203,623
<CURRENT-LIABILITIES> 347,910,566
<BONDS> 475,135,601
<COMMON> 78,462,464
0
0
<OTHER-SE> (194,178,866)
<TOTAL-LIABILITY-AND-EQUITY> 851,203,623
<SALES> 23,327,813
<TOTAL-REVENUES> 23,327,813
<CGS> 14,553,553
<TOTAL-COSTS> 28,248,036
<OTHER-EXPENSES> (3,387,102)
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 15,792,589
<INCOME-PRETAX> (31,879,262)
<INCOME-TAX> 849,644
<INCOME-CONTINUING> (32,728,906)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (32,728,906)
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
</TABLE>
