<PAGE>
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1997
OR
TRANSITION REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from
-------------------------------------------------
Commission file number 0-20913
---------------------------------------------------------
TELEPORT COMMUNICATIONS GROUP INC.
- -------------------------------------------------------------------------------
(Exact name of Registrant as specified in its Charter)
Delaware 13-3173139
- -------------------------------------------------------------------------------
(State of other jurisdiction of (I.R.S. Employer
or organization) Identification No.)
437 Ridge Road, Executive Building 3, Dayton, New Jersey 08810
- --------------------------------------------------------------------------------
(Address of principal executive offices)
(732) 392-2000
- -------------------------------------------------------------------------------
(Registrant's telephone number, including area code)
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
-------------------- -------------
Number of outstanding shares of Registrant's Common Stock as of November 14,
1997: 61,222,03O shares of Class A Common Stock and 113,489,040 shares of
Class B Common Stock.
<PAGE>
PART I - FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share amounts)
<TABLE>
<CAPTION>
September 30, DECEMBER 31,
1997 1996
---- ----
(Unaudited)
ASSETS
Current assets:
<S> <C> <C>
Cash and cash equivalents $ 181,446 $ 277,540
---------- ----------
Marketable securities 150,205 440,806
---------- ----------
Accounts receivable:
Trade-net of allowance for doubtful accounts ($10,309 in 1997
and $5,989 in 1996) 78,018 46,325
Related parties 6,350 4,191
Miscellaneous-net of allowance for doubtful accounts ($182 in 1997
and $1,406 in 1996) 7,570 6,795
---------- ----------
Accounts receivable-net 91,938 57,311
---------- ----------
Prepaid expenses 10,207 9,531
---------- ----------
Other current assets 6,967 2,373
---------- ----------
Total current assets 440,763 787,561
---------- ----------
Fixed assets-at cost:
Communications network 1,564,156 1,211,922
Other 139,889 92,307
---------- ----------
1,704,045 1,304,229
Less accumulated depreciation and amortization (335,114) (236,967)
---------- ----------
Fixed assets-net 1,368,931 1,067,262
---------- ----------
Investment in and advances to unconsolidated affiliates 13,335 126,561
---------- ----------
Goodwill-net of accumulated amortization 263,089 57,764
---------- ----------
Other assets 29,802 10,949
---------- ----------
Total assets $2,115,920 $2,050,097
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued liabilities ($1,741 in 1997 and $1,079
in 1996 with related parties) $ 216,015 $ 215,808
Current portion of capital lease obligations ($23,865 in 1997
and $21,139 in 1996 with related parties) 27,114 24,063
Short-term bank debt 52,575 -
Other current liabilities 7,068 2,365
---------- ----------
Total current liabilities 302,772 242,236
Capital lease obligations ($17,732 in 1997 and $28,716 in 1996 with related parties) 22,864 34,489
TCI note-subordinated (including accrued interest of $2,554 in 1997 and $1,007
in 1996) 28,554 27,007
Senior Notes 300,000 300,000
Senior Discount Notes 715,620 659,567
Unamortized notes costs (23,734) (25,761)
Other liabilities 18,309 15,689
---------- ----------
Total liabilities 1,364,385 1,253,227
---------- ----------
Stockholders' equity:
Common Stock, Class A $.01 par value: 450,000,000 shares authorized,
42,817,381 shares issued and outstanding at September 30, 1997; and
28,668,400 shares issued and outstanding at December 31, 1996 428 287
Common Stock, Class B $.01 par value: 300,000,000 shares authorized,
130,750,370 shares issued and outstanding at September 30, 1997 and
139,250,370 shares issued and outstanding at December 31, 1996 1,308 1,393
Additional paid-in capital 1,301,838 1,197,252
Unrealized gain (loss) on marketable securities 142 (25)
Accumulated deficit (431,156) (281,012)
---------- ----------
872,560 917,895
Less cost of Class B Common Stock held in treasury, 7,975,738 shares at
September 30, 1997 and December 31, 1996 (121,025) (121,025)
---------- ----------
Total stockholders' equity 751,535 796,870
---------- ----------
Total liabilities and stockholders' equity $2,115,920 $2,050,097
========== ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
2
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS ENDED NINE MONTHS ENDED
September 30, September 30,
1997 1996 1997 1996
------------ ------------ ----------- ------------
<S> <C> <C> <C> <C>
Revenues:
Telecommunications services ($1,735 and
$546 for the three months ended
September 30, 1997 and 1996 and $6,233
and $737 for the nine months ended
September 30, 1997 and 1996, respectively,
with related parties) $ 131,406 $ 72,749 $ 343,914 $ 157,466
Management and royalty fees from affiliates - - - 22,805
------------ ------------ ------------ ------------
Total revenues 131,406 72,749 343,914 180,271
------------ ------------ ------------ ------------
Expenses:
Operating 75,066 43,694 200,030 106,030
Selling, general and administrative 44,545 25,993 117,279 55,373
Depreciation and amortization 40,426 25,025 107,437 51,984
------------ ------------ ------------ ------------
Total expenses 160,037 94,712 424,746 213,387
------------ ------------ ------------ ------------
Operating loss (28,631) (21,963) (80,832) (33,116)
------------ ------------ ------------ ------------
Interest:
Interest income 6,324 14,666 24,365 17,336
Interest expense ($1,540 and $1,673 for the
three months ended September 30, 1997 and
1996, and $4,714 and $12,525 for the nine
months ended September 30, 1997 and 1996,
respectively, with related parties) (30,693) (26,829) (88,944) (44,451)
------------ ------------ ------------ ------------
Total interest (24,369) (12,163) (64,579) (27,115)
------------ ------------ ------------ ------------
Loss before minority interest, equity in losses of
unconsolidated affiliates and income tax
provision (53,000) (34,126) (145,411) (60,231)
Minority interest - 1,369 - 2,225
Equity in losses of unconsolidated affiliates (396) ( 263) (3,229) (12,657)
------------ ------------ ------------ ------------
Loss before income tax provision (53,396) (33,020) (148,640) (70,663)
Income tax provision (388) (684) (1,504) (1,476)
------------ ------------ ------------ ------------
Net loss $ (53,784) $ (33,704) $ (150,144) $ (72,139)
============ ============ ============ ============
Loss per share $(.32) $(.21) $(.92) $( .72)
============ ============ ============ ============
Weighted average number of shares outstanding 165,502,998 158,876,191 164,053,559 100,234,987
============ ============ ============ ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
3
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997
(UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
UNREALIZED
CLASS A CLASS B GAIN(LOSS) ON
COMMON COMMON ADDITIONAL MARKETABLE
STOCK STOCK PAID-IN CAPITAL SECURITIES
-------------- -------------- ------------------- ----------------
<S> <C> <C> <C> <C>
Balance at January 1, 1997 $287 $1,393 $1,197,252 $(25)
Issuance of 791,898 shares of Class A Common
Stock upon exercise of options and employee
stock grants 7 - 11,150 -
Issuance of 2,100,000 shares of Class A
Common Stock to purchase CERFnet Services,
Inc. 21 - 47,386 -
Issuance of 2,757,083 shares of Class A
Common Stock to purchase controlling interest
in Eastern TeleLogic Corporation 28 - 46,050 -
Conversion of 8,500,000 shares of Class B
Common Stock to Class A Common Stock 85 (85) - -
Unrealized gain on marketable securities - - - 167
Net loss - - - -
------- ------- ----------- -------
Balance at September 30, 1997 $428 $ 1,308 $ 1,301,838 $ 142
======= ======= =========== =======
<CAPTION>
TOTAL
ACCUMULATED TREASURY STOCKHOLDERS'
DEFICIT STOCK EQUITY
-------------- -------------- -------------------
<S> <C> <C> <C>
Balance at January 1, 1997 $(281,012) $ (121,025) $ 796,870
Issuance of 791,898 shares of Class A Common
Stock upon exercise of options and employee
stock grants - - 11,157
Issuance of 2,100,000 shares of Class A
Common Stock to purchase CERFnet Services,
Inc. - - 47,407
Issuance of 2,757,083 shares of Class A
Common Stock to purchase controlling interest
in Eastern TeleLogic Corporation - - 46,078
Conversion of 8,500,000 shares of Class B
Common Stock to Class A Common Stock - - -
Unrealized gain on marketable securities - - 167
Net loss (150,144) - (150,144)
---------- -------------- ---------------
Balance at September 30, 1997 $(431,156) $(121,025) $ 751,535
========== ============== ===============
</TABLE>
The accompanying notes are an integral part of these financial statements.
4
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(IN THOUSANDS)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
September 30,
1997 1996
-------------------- -------------------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $(150,144) $ (72,139)
Adjustments to reconcile net loss to net cash
(used for) provided by operating activities, net of effects of
acquisitions:
Depreciation and amortization 107,437 51,984
Amortization of notes costs 2,027 675
Equity in losses of unconsolidated affiliates 3,229 12,657
Amortization of deferred credits (13,684) (1,855)
Provision for losses on accounts receivable 7,231 1,830
Accretion of discount on Senior Discount Notes 56,053 17,284
Accretion of TCI note 1,547 501
Minority interest - (2,225)
(Increase) decrease in operating assets and increase (decrease) in
operating liabilities:
Accounts receivable (37,828) (11,083)
Other assets (23,582) (2,424)
Accounts payable and accrued liabilities (12,884) 7,503
Deferred credits 21,848 1,808
--------- ----------
Net cash (used for) provided by operating activities (38,750) 4,516
--------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures (324,224) (176,717)
Investment in unconsolidated affiliates (5,170) (10,057)
Due from related parties - (23,042)
Purchase of a Local Market Partnership interest - (11,618)
Capital contributions to Local Market Partnerships prior to Reorganization - (16,435)
Proceeds from sales and maturities (purchases) of marketable securities 290,767 (544,685)
Cash paid for acquisitions, net of cash acquired (6,447) -
--------- ----------
Net cash used for investing activities (45,074) (782,554)
--------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from issuance of long-term debt - 162,500
Principal payments on capital leases (22,207) (6,005)
Proceeds from the exercise of employee stock options 9,937 47
Proceeds from Senior Notes - 300,000
Proceeds from Senior Discount Notes - 625,000
Proceeds from issuance of Class A Common Stock - 432,400
Purchase of treasury stock - (121,025)
Payment on bank revolving credit facility - (250,000)
--------- ----------
Net cash (used for) provided by financing activities (12,270) 1,142,917
--------- ----------
NET (DECREASE) INCREASE IN CASH AND CASH EQUIVALENTS (96,094) 364,879
CASH AND CASH EQUIVALENTS, JANUARY 1 277,540 11,862
--------- ----------
CASH AND CASH EQUIVALENTS, SEPTEMBER 30 $ 181,446 $ 376,741
========= ==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION -
Cash paid during the period for interest $ 17,519 $ 6,108
========= ==========
</TABLE>
The accompanying notes are an integral part of these financial statements.
5
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED
(UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
NINE MONTHS ENDED
September 30,
1997 1996
------------------ -----------------
<S> <C> <C>
Supplemental Schedule of Non-Cash Investing and Financing Activities:
In February 1997, TCG purchased all of the assets and liabilities of
CERFnet Services, Inc. for TCG's Class A Common Stock:
Fair value of 2,100,000 Class A Common Stock $ 47,407 $ -
Fair value of net assets acquired (2,980) -
-------- ------------
Goodwill recorded from non-cash transactions $ 44,427 $ -
======== ============
In March 1997, TCG purchased all of the assets and liabilities of
Eastern TeleLogic Corporation for TCG's Class A Common Stock:
Fair value of 2,757,083 Class A Common Stock $ 46,078 $ -
Fair value of net liabilities acquired 121,232 $ -
-------- ------------
Goodwill recorded from non-cash transactions $167,310 $ -
======== ============
Fixed assets acquired under capital leases $ 11,039 $ 1,134
======== ============
</TABLE>
The accompanying notes are an integral part of these financial statements.
6
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997
(UNAUDITED)
1. BASIS OF PRESENTATION
In the opinion of the management of Teleport Communications Group Inc.
(together with its wholly-owned subsidiaries, "TCG" or the "Company"), the
accompanying consolidated financial statements contain all adjustments,
consisting of only normal recurring adjustments, necessary to present fairly the
Company's financial position as of September 30, 1997, and the Company's results
of operations and cash flows for the nine months then ended.
The results of operations for the nine months ended September 30, 1997 are
not necessarily indicative of the results expected for the full year.
2. SIGNIFICANT ACCOUNTING POLICIES
Consolidation
The consolidated financial statements include the accounts of TCG's
wholly-owned subsidiaries at September 30, 1997. The 1997 consolidated
statements of operations and cash flows include equity in the losses of BizTel
Communications, Inc. for nine months and of Eastern TeleLogic Corporation for
two months (See Note 6 - Acquisitions). As of December 31, 1996, the
consolidated balance sheet includes the accounts of TCG and all wholly-owned
subsidiaries. The 1996 consolidated statements of operations and cash flows
include equity in losses of unconsolidated affiliates for all of the Local
Market Partnerships, except for TCG St. Louis which was consolidated for the six
months ended June 30, 1996. The consolidated financial statements include the
accounts of TCG's wholly-owned subsidiaries for the three months ended September
30, 1996 (See Note 3 -Reorganization).
All material intercompany transactions and balances have been eliminated
in consolidation. Certain information and footnote disclosure normally included
in financial statements prepared in accordance with generally accepted
accounting principles have been condensed or omitted. These financial statements
and notes should be read in conjunction with the financial statements of
Teleport Communications Group Inc. and Subsidiaries included as part of TCG's
Form 10-K for the year ended December 31, 1996, as amended, and TCG's
Registration Statement on Form S-3 (File No. 333-37597).
Earnings Per Share
In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 128 "Earnings per
Share." This statement is effective for financial statements issued for periods
ending after December 15, 1997. Management has evaluated the effect on its
financial reporting from the adoption of this statement and does not believe it
to be significant.
Capital Structure
In February 1997, the FASB also issued SFAS No. 129 "Disclosure of
Information about Capital Structure." This statement is effective for financial
statements issued for periods ending after December 15, 1997. Management has
evaluated the effect on its financial reporting and as it contains no change in
disclosure requirements for entities that were previously subject to the
requirements of Accounting Principles Board Opinions 10 and 15 and SFAS 47, no
further disclosures are needed.
7
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997
(UNAUDITED)
Comprehensive Income
In June 1997, the FASB also issued SFAS No. 130 "Reporting Comprehensive
Income." This statement is effective for financial statements issued for
periods ending after December 15, 1997. Management has evaluated the effect on
its financial reporting from the adoption of this statement and has found the
majority of required disclosures to be not applicable and the remainder to be
not significant.
Segments of an Enterprise and Related Information
In June 1997, the FASB issued SFAS No. 131 "Disclosure about Segments of
an Enterprise and Related Information." This statement is effective for fiscal
years beginning after December 15, 1997. SFAS No. 131 requires the reporting of
profit and loss, specific revenue and expense items, and assets for reportable
segments. It also requires the reconciliation of total segment revenues, total
segment profit or loss, total segment assets, and other amounts disclosed for
segments to the corresponding amounts in the general purpose financial
statements. The Company has not yet determined what additional disclosures may
be required in connection with adopting SFAS No. 131.
3. REORGANIZATION
Prior to its initial public offering in 1996, the Company was owned by TCI
Communications, Inc. (together with its consolidated subsidiaries, "TCI"), Cox
Communications, Inc. (together with its consolidated subsidiaries, "Cox"),
Comcast Corporation (together with its consolidated subsidiaries, "Comcast") and
Media One of Delaware, Inc. formerly Continental Cablevision Inc. (together with
its consolidated subsidiaries, "Continental"), collectively "the Cable
Stockholders." The business was operated through TCG and, beginning in 1992,
TCG Partners, which is a New York general partnership which was initially owned
by the Cable Stockholders in the same percentages as TCG. TCG Partners was
formed to invest, with TCG, the Cable Stockholders and other cable operators, in
14 local market partnerships (the "Local Market Partnerships") to develop and
operate local telecommunications networks. The Local Market Partnerships were
owned by TCG, and/or TCG Partners and certain of the Cable Stockholders which
had cable operations in the particular markets addressed by the Local Market
Partnerships and, in some cases, other cable operators in such markets. To
simplify this complex ownership structure, the Company and the Cable
Stockholders agreed to consolidate the ownership of TCG Partners and of the
Local Market Partnerships as wholly-owned subsidiaries of TCG (the
"Reorganization"). As part of this process, certain of the other cable
operators agreed to sell their interests in the Local Market Partnerships to TCG
directly or through a Cable Stockholder. The financial statements for one of
the Local Market Partnerships were previously consolidated with those of TCG.
Therefore, as a result of the Reorganization, TCG consolidated the financial
statements of the remaining 13 of the 14 Local Market Partnerships.
8
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997
(UNAUDITED)
Unaudited financial information for the nine months ended September 30,
1997 and unaudited pro forma financial information for the nine months ended
September 30, 1996, as if the Reorganization had occurred January 1, 1996, is as
follows (in thousands, except share amounts):
<TABLE>
<CAPTION>
NINE MONTHS ENDED
SEPTEMBER 30,
ACTUAL PRO FORMA
1997 1996
------------- -------------
<S> <C> <C>
Revenues $ 343,914 $ 195,985
------------ ------------
Expenses:
Operating 200,030 120,812
Selling, general and administrative 117,279 68,785
Depreciation and amortization 107,437 68,908
------------ ------------
Total expenses 424,746 258,505
------------ ------------
Operating loss (80,832) (62,520)
------------ ------------
Interest:
Interest income 24,365 16,280
Interest expense (88,944) (37,764)
------------ ------------
Total interest (64,579) (21,484)
------------ ------------
Loss before minority interest, equity in losses
of unconsolidated affiliates and income tax provision (145,411) (84,004)
Minority interest - 3,418
Equity in losses of unconsolidated affiliates (3,229) (908)
------------ ------------
Loss before provision for income taxes (148,640) (81,494)
Income tax provision (1,504) (1,476)
------------ ------------
Net loss $ (150,144) $ (82,970)
============ ============
Loss per share $(.92) $(.59)
============ ============
Weighted average number of shares outstanding 164,053,559 140,925,082
============ ============
</TABLE>
Pro forma adjustments include the reversal of TCG's equity in the losses
of 13 Local Market Partnerships for the six months ended June 30, 1996, as well
as amortization of the goodwill which was recorded upon closing of the
transactions and the reduction of interest expense from the conversion of
subordinated debt to parents to equity. The pro forma financial information
presented above is not necessarily indicative of the operating results which
would have been achieved had the transactions occurred at the beginning of the
period presented or of the results to be achieved in the future.
4. OFFERINGS
1996 Offerings
On July 2, 1996, TCG issued 27,025,000 shares of Class A Common Stock
which resulted in gross proceeds of approximately $432.4 million as part of an
initial public offering (the "Stock Offering"), and $300 million aggregate
amount of 9 7/8% Senior Notes and $1,073 million aggregate amount at maturity of
Senior Discount Notes (the "Notes Offerings" and collectively, with the Stock
Offering, the "1996 Offerings").
9
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997
(UNAUDITED)
1997 Offering
Continental acquired its interest in TCG in May 1993. On November 15,
1996, Continental was acquired by U S WEST. In connection with such acquisition,
on November 5, 1996, the U.S. Department of Justice announced, and on February
28, 1997, a final judgment was entered (the "Final Judgment") with respect to a
settlement with U S WEST and Continental pursuant to which Continental was
required to reduce its ownership in TCG below 10% by June 30, 1997, and is
required to eliminate such ownership entirely by December 31, 1998. On February
19, 1997, pursuant to the Amended and Restated Stockholders' Agreement dated
June 26, 1996, between TCG and the Cable Stockholders (the "Amended
Stockholders' Agreement"), Continental converted 4,000,000 shares of Class B
Common Stock into 4,000,000 shares of Class A Common Stock and, in accordance
with the provisions of Rule 144 promulgated by the Commission under the
Securities Act, transferred these shares to one or more third parties.
Thereafter, Continental converted an additional 4,500,000 shares of Class B
Common Stock, pursuant to the Amended Stockholders' Agreement, and in accordance
with the provisions of Rule 144 transferred 3,840,000 of such shares to one or
more third parties.
On July 2, 1997, Continental delivered to the Company a request, pursuant
to the Amended Stockholders' Agreement, that the Company effect the registration
of 10,285,592 shares of Class A Common Stock. As required by the Amended
Stockholders' Agreement, Continental gave notice to the remaining Cable
Stockholders of its intention to convert 10,285,592 shares of Class B Common
Stock into a like number of Class A Common Stock, and gave the remaining Cable
Stockholders the right, pursuant to the Amended Stockholders' Agreement, to
purchase these shares in lieu of conversion. The remaining Cable Stockholders
did not exercise their rights under the Amended Stockholders' Agreement.
On September 30, 1997, Continental owned 9,285,592 shares of Class B
Common Stock and 660,000 shares of Class A Common Stock representing 7.4% of the
combined voting power of the Class A Common Stock and Class B Common Stock.
TCG filed a registration statement for a public offering (the "1997
Offering") of 17,250,000 shares of Class A Common Stock on October 10, 1997, and
the 1997 Offering was consummated on November 13, 1997. Of the 17,250,000
shares, 7,304,408 were offered by the Company and 9,945,592 shares were offered
by Continental. The Company did not receive any proceeds from the sale of shares
by Continental. The net proceeds to the Company from its sale of shares pursuant
to the 1997 Offering were $317.6 million, after deducting the underwriting
discount and estimated expenses of approximately $11.1 million.
TCG intends to use the net proceeds from the sale of its shares pursuant
to the 1997 Offering and the remaining proceeds from the 1996 Offerings to
expand and develop existing and new networks and for general corporate and
working capital purposes, which may include acquisitions. A significant portion
of such proceeds will be contributed or advanced to the Company's subsidiaries
which own and operate the networks in the local markets. Expected capital
expenditures for the expansion, development and acquisition of networks and
other telecommunications assets include (i) the purchase and installation of
switches, electronics, fiber and other additional technologies in existing
networks and in networks to be constructed in new markets and (ii) the
acquisition and expansion of networks and other telecommunications assets
currently owned and operated by other companies. Expected expenditures for
general corporate and working capital purposes include (i) expenditures with
respect to the Company's management information systems and corporate service
support infrastructure and (ii) operating and administrative expenses with
respect to new networks and debt service.
5. EMPLOYEE BENEFIT PLANS
TCG adopted the Teleport Communications Group Inc. Employee Stock Purchase
Plan (1997) (the "Stock Purchase Plan"), effective July 1, 1997. The Stock
Purchase Plan is administered by the Compensation Committee of the Board of
Directors (the "Committee"). As of the first day of each calendar quarter each
eligible employee will be granted the option to purchase as of the last day of
each calendar quarter, a number of shares determined under a uniform formula
specified by the Committee. Each eligible employee was given an option to
purchase the
10
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997
(UNAUDITED)
number of shares equal to 10% of such employee's compensation plus bonus paid in
that calendar quarter, divided by the purchase price per share under the option.
No employee can receive options for more than $25,000 worth of shares in any
calendar year. The purchase price for one share of Class A Common Stock is 15%
below the average closing price of the last ten trading days of the calendar
quarter. The Committee authorized the issuance of 1,500,000 shares of Class A
Common Stock under the Stock Purchase Plan. TCG issued 24,964 shares of Class A
Common Stock pursuant to the exercise of options under the Stock Purchase Plan
in October 1997.
6. ACQUISITIONS
BizTel Communications, Inc.
On October 29, 1997, the Company acquired the remaining 50.1% equity
interest in BizTel Communications, Inc. ("BizTel") not owned by the Company in
exchange for the issuance of 1,667,631 shares of the Company's Class A Common
Stock. The Company had previously acquired a 49.9% interest in BizTel in
February 1996. BizTel is a holder of Federal Communications Commission ("FCC")
licenses to provide telecommunications services utilizing 38 Ghz digital
milliwave transmission in over 200 geographic areas, which include more than 95
of the 100 largest metropolitan markets and all markets where TCG operates.
BizTel's 38 Ghz milliwave services can be used by TCG to economically connect
customers to the Company's fiber optic networks, to provide network redundancy,
diverse routing or quick temporary installations and to provide stand-alone
facilities where the Company does not have fiber optic networks.
The goodwill originally recorded with this investment, which represented
the excess of the Company's investment over the underlying net assets of BizTel,
was approximately $7.4 million. Prior to November 1, 1997, such amount was being
amortized over 20 years, beginning March 1996, and was reported in the statement
of operations in equity in losses of unconsolidated affiliates. Amortization
expense related to such goodwill for the nine months ended September 30, 1997
was $0.3 million. As of November 1, 1997, TCG consolidates BizTel's results with
its wholly-owned subsidiaries. The amount of goodwill recorded for the entire
acquisition was approximately $38.6 million. TCG intends to fully evaluate the
acquired assets and liabilities of BizTel, and as a result of the evaluation,
the allocation of costs among the tangible and the intangible assets acquired
may change.
Eastern TeleLogic Corporation
Effective as of March 1, 1997, TCG completed its acquisition of Eastern
TeleLogic Corporation ("ETC"). In the first of two steps, on October 25, 1996,
employees of ETC exercised their stock options and then ETC redeemed the shares
of its stock, (approximately 47%) not held by Comcast CAP, a corporation owned
51% by Comcast and 49% by TCG. Comcast CAP borrowed at a market interest rate
approximately $115 million from TCG as a short-term loan and, in turn, loaned
this amount to ETC to effect the redemption. In the second step, TCG acquired
Comcast's 51% stock interest in Comcast CAP in exchange for 2,757,083 shares of
the Company's Class A Common Stock, resulting in ETC becoming a wholly-owned
subsidiary of TCG. After the acquisition, the name of ETC was changed to TCG
Delaware Valley, Inc. TCG assumed $53 million of debt in this acquisition.
The goodwill recorded with this investment, which represented the excess
of the Company's investment over the underlying net assets of ETC, was
approximately $171.3 million. Such amount is being amortized over 20 years and
is reported in the statement of operations. Amortization expense related to such
goodwill for the nine months ended September 30, 1997 was $6.0 million.
TCG has retained an independent third party to fully evaluate the acquired
assets and liabilities of ETC, and as a result of the evaluation, the allocation
of the acquisition costs among the tangible and intangible assets acquired may
change. The results of this evaluation are expected to be recorded in the
fourth quarter of 1997.
11
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997
(UNAUDITED)
CERFnet Services, Inc.
On February 4, 1997, the Company acquired from General Atomics all of the
outstanding capital stock of CERFnet Services, Inc. (''CERFnet''), a leading
regional provider of Internet-related services to businesses, including dial-up
and dedicated Internet access, World Wide Web hosting, and colocation services
and Internet training. TCG issued 2,100,000 shares of its Class A Common Stock
to CERFnet's former controlling stockholder and granted to it certain
registration rights with respect to such shares of Class A Common Stock. After
the acquisition, the name CERFnet Services, Inc. was changed to TCG CERFnet,
Inc.
The goodwill recorded with this investment, which represented the excess
of the Company's investment over the underlying net assets of CERFnet, was
approximately $44.8 million. Such amount is being amortized over 20 years and is
reported in the statement of operations in depreciation and amortization
expense. Amortization of the CERFnet goodwill for the nine months ended
September 30, 1997 was approximately $1.5 million.
TCG has retained an independent third party to fully evaluate the acquired
assets and liabilities of CERFnet, and as a result of the evaluation, the
allocation of the acquisition costs among the tangible and intangible assets
acquired may change. The results of this evaluation are expected to be recorded
in the fourth quarter of 1997.
Unaudited pro forma financial information for the nine months ended
September 30, 1997 and 1996, as if the Reorganization and the acquisitions of
ETC, CERFnet and BizTel had occurred at the beginning of each of the respective
periods, is as follows (in thousands, except share amounts):
1997 1996
------------ ------------
Revenue $ 350,448 $ 219,520
Net loss $ (152,729) $ (92,107)
Loss per share $ (.92) $ (.62)
Weighted average number of shares
outstanding 166,747,813 147,449,796
Pro forma adjustments include (i) the reversal of TCG's equity in the
losses of ETC and BizTel for the nine months ended September 30, 1997, and the
reversal of TCG's equity in the losses of the 13 Local Market Partnerships, ETC
and BizTel for the nine months ended September 30, 1996, (ii) as well as
amortization of the goodwill recorded upon close of the transactions and (iii)
the reduction of interest expense from the conversion of subordinated debt to
parents to equity. The pro forma financial information presented above is not
necessarily indicative of the operating results which would have been achieved
had the transactions occurred at the beginning of the periods presented or of
the results to be achieved in the future.
7. COMMITMENTS AND CONTINGENCIES
In April 1997, a complaint (Case No. 97L001928) was filed against the
Company in the Circuit Court of Cook County, Illinois brought by two former
customers of the Company and an alleged class purporting to consist of investors
in one of the customers, alleging fraud and breach of contract. The Company
believes that the allegations are without merit and that it possesses
meritorious counterclaims for damages arising from breach of contract. The
Company additionally believes that any costs arising from this lawsuit will not
have a material adverse effect on its financial condition, results of operations
or cash flows.
12
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1997
(UNAUDITED)
8. REVOLVING CREDIT AGREEMENT
On July 28, 1997, TCG, through a wholly-owned subsidiary, TCG New York,
Inc. ("TCGNY") amended its $250 million Revolving Credit Agreement to a $400
million Revolving Credit Agreement (the "Revolving Credit Agreement"). The
Revolving Credit Agreement is secured by (i) the stock of the following wholly-
owned subsidiaries of TCGNY: TC New York Holdings I, Inc., TC New York Holdings
II, Inc., TC Systems, Inc., TCG Payphones, Inc. and the partnership interests in
Teleport Communications, (ii) a negative pledge with respect to the assets and a
pledge of the stock of each existing and future subsidiary of TCGNY, (iii) a
negative pledge with respect to the contracts that relate to TCGNY operations,
(iv) upstream guarantees from any existing and future subsidiaries of TCGNY, and
(v) a lien on all present and future intercompany indebtedness owed to TCGNY
from TCG and all of its subsidiaries. The Revolving Credit Agreement provides
for interest based upon either the base rate or London Interbank Offered Rate
("LIBOR"), adjusted as defined in the Revolving Credit Agreement. There is no
outstanding balance as of September 30, 1997.
The commitment will be reduced in equal quarterly installments according
to the following schedule:
YEAR AMOUNT
(in millions)
2000 $ 12.5
2001 35.0
2002 55.0
2003 70.0
2004 90.0
2005 100.0
2006 37.5
------
$400.0
======
13
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
RESULTS OF OPERATIONS
- ---------------------
Revenue
Total revenues increased to $131.4 million and $343.9 million for the
three months and nine months ended September 30, 1997 from $72.7 million and
$180.3 million for the similar periods in 1996, representing increases of $58.7
million and $163.6 million, or 81% and 91%, respectively. Pursuant to the
Reorganization, TCG consolidated the financial statements of the Local Market
Partnerships, which accounted for 24% of total revenue for the nine months ended
September 30, 1997. Had telecommunications services revenue generated by
unconsolidated Local Market Partnerships been included in the financial
statements for the nine months ended September 30, 1996, total revenues would
have increased to $343.9 million for the nine months ended September 30, 1997
from $196.0 million for the nine months ended September 30, 1996, on a pro forma
basis, reflecting an increase of $147.9 million, or 75%. Telecommunications
services revenue increased to $343.9 million for the nine months ended September
30, 1997, from $157.5 million for the nine months ended September 30, 1996, on a
pro forma basis, representing an increase of $186.4 million, or 118%. The
increases in revenue occurred in every revenue category, most significantly
switched services. These increases in revenues are also a result of increased
market penetration primarily in TCG's existing markets as well as expansion into
new markets. Total revenues for the three months and nine months ended September
30, 1997 include $12.5 million and $29.5 million, respectively, attributable to
both Eastern TeleLogic Corporation ("ETC"), now known as TCG Delaware Valley,
Inc., and CERFnet Services, Inc. ("CERFnet"), now known as TCG CERFnet, Inc.
which were acquired by TCG during the first quarter of 1997 and consolidated
with TCG from the dates of acquisition.
Annualized monthly recurring revenue increased to approximately $534.9
million for the month of September 30, 1997, from $282.9 million for the
comparable period in 1996, an increase of $252.0 million, or 89%. Monthly
recurring revenue represents monthly service charges billable to
telecommunications services customers for the month indicated, but excludes non-
recurring revenues for certain one-time services, such as installation fees or
equipment charges.
Switched services revenue increased 109% and 95% for the three months and
nine months ended September 30, 1997 from switched services revenue for the
comparable three month and pro forma nine month period in 1996. Switched
services revenue represented 44% and 39% (on a pro forma basis) of total revenue
for the nine months ended September 30, 1997 and 1996, respectively. Increased
monthly dedicated services revenue, as well as sales growth in switched services
products to new customers, also contributed to overall revenue growth. Dedicated
services revenue increased 53% and 55% for the three months and nine months
ended September 30, 1997, from dedicated services revenue for the comparable
three month and pro forma nine month period in 1996.
Management fees were directly related to operating and administrative
support services provided by TCG to the Local Market Partnerships. Royalty fees
were charged to the Local Market Partnerships based on revenue. As a result of
the Reorganization, management and royalty fees from the Local Market
Partnerships are no longer reflected as revenue for the three months and nine
months ended September 30, 1997 and the three months ended September 30, 1996,
due to the consolidation of the Local Market Partnerships.
Operating Expenses
Operating expenses increased to $75.1 million and $200.0 million for the
three months and nine months ended September 30, 1997, from $43.7 million and
$106.0 million for the three months and nine months ended September 30, 1996,
increases of $31.4 million and $94.0 million, or 72% and 89%, respectively.
Pursuant to the Reorganization, TCG has consolidated the financial statements of
the Local Market Partnerships, the operating expenses of which accounted for 24%
of the total operating expenses for the nine months ended September 30, 1997.
The remaining increases are directly related to the costs associated with the
expansion of TCG's networks. These expenses include costs specifically
associated with network operations, including compensation costs for technical
personnel, access, rights-of-way, node, rent and maintenance expenses.
Offsetting these expense increases are reductions in expenses due to
renegotiation of interconnection agreements with incumbent local exchange
carriers ("ILECs"). Operating expenses increased to $200.0 million for the nine
months ended September 30, 1997, from $120.8 million for the nine months ended
September
14
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
30, 1996, on a pro forma basis, an increase of $79.2 million, or 66%. Operating
expenses were approximately 57% and 58% of revenue for the three months and nine
months ended September 30, 1997, and 60% and 62% of revenue for the three months
and on a pro forma basis for the nine months ended September 30, 1996.
Selling, General and Administrative Expenses
Selling, general and administrative expenses increased to $44.5 million
and $117.3 million for the three months and nine months ended September 30,
1997, from $26.0 million and $55.4 million for the three months and nine months
ended September 30, 1996, increases of $18.5 million and $61.9 million, or 71%
and 112%, respectively. Pursuant to the Reorganization, TCG has consolidated the
financial statements of the Local Market Partnerships, the selling, general and
administrative expenses of which accounted for 32% of the total selling, general
and administrative expenses for the nine months ended September 30, 1997. The
remaining increase is attributable to the costs required to maintain an
infrastructure which supports the continued expansion of the Company's networks
and the introduction of new services. These costs include compensation,
occupancy, insurance, professional fees, and sales and marketing expenses.
Selling, general and administrative expenses increased to $117.3 million for the
nine months ended September 30, 1997, from $68.8 million for the nine months
ended September 30, 1996, on a pro forma basis, an increase of $48.5 million, or
70%. Selling, general and administrative expenses were approximately 34% of
revenue for both the three months and nine months ended September 30, 1997 and
36% and 35% of revenue for the three months and on a pro forma basis for the
nine months ended September 30, 1996.
EBITDA
EBITDA (earnings before interest, income taxes, depreciation,
amortization, minority interest and equity in losses of unconsolidated
affiliates) increased to $11.8 million and to $26.6 million for the three months
and nine months ended September 30, 1997, from $3.1 million and $18.9 million
for the three months and nine months ended September 30, 1996, or increases of
$8.7 million and $7.7 million, respectively. Pursuant to the Reorganization, TCG
has consolidated the financial statements of the Local Market Partnerships, the
EBITDA of which accounted for 10% of total EBITDA for the nine months ended
September 30, 1997. EBITDA increased to $26.6 million for the nine months ended
September 30, 1997, from $6.4 million for the nine months ended September 30,
1996, on a pro forma basis, or an increase of $20.2 million. The Local Market
Partnerships, which are included in the pro forma financial data to reflect the
Reorganization, had negative EBITDA due to the start-up or rapid expansion of
the networks of such Local Market Partnerships.
Depreciation and Amortization Expense
Depreciation and amortization expense increased to $40.4 million and
$107.4 million for the three months and nine months ended September 30, 1997,
from $25.0 million and $52.0 million for the three months and nine months ended
September 30, 1996, increases of $15.4 million and $55.4 million, or 62% and
107%, respectively. These increases are primarily attributable to increased
depreciation related to the expansion of the Company's local telecommunications
networks throughout the country and increased amortization of goodwill related
to various 1996 and 1997 acquisitions. Depreciation and amortization expense
increased to $107.4 million for the nine months ended September 30, 1997, from
$68.9 million for the nine months ended September 30, 1996, on a pro forma
basis, an increase of $38.5 million, or 56%.
Interest Income
Interest income decreased to $6.3 million and increased to $24.4 million
for the three months and nine months ended September 30, 1997, from $14.7
million and $17.3 million for the three months and nine months ended September
30, 1996, a decrease of $8.4 million and an increase of $7.1 million,
respectively. The decrease for the three months ended September 30, 1997 as
compared to the similar period in 1996 is attributable to a decrease in the cash
and cash equivalents and marketable securities. For the nine months ended
September 30, 1997 interest income increased compared to the nine months ended
September 30, 1996 because the proceeds of the 1996 Offerings were not received
until July 2, 1996.
15
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
Interest Expense
Interest expense increased to $30.7 million and $88.9 million for the
three months and nine months ended September 30, 1997, from $26.8 million and
$44.5 million for the three months and nine months ended September 30, 1996, or
increases of $3.9 million and $44.4 million, respectively. These increases
resulted from interest expense on the Company's Senior Notes, Senior Discount
Notes, the subordinated note to TCI issued on June 27, 1996, and interest on the
bank debt which TCG assumed in the acquisition of ETC, partially offset by the
absence of interest for the three and nine months ended September 30, 1997 on
the Revolving Credit Agreement and borrowings under a loan facility with the
Cable Stockholders.
Equity in Losses of Unconsolidated Affiliates
Equity in losses of unconsolidated affiliates increased to $0.4 million
and decreased to $3.2 million for the three months and nine months ended
September 30, 1997, respectively, from $0.3 million and $12.7 million for the
three months and nine months ended September 30, 1996, an increase of $0.1
million and a decrease of $9.5 million, respectively. The decrease for the nine
months ended September 30, 1997 resulted from the consolidation of the Local
Market Partnerships and ETC. As of September 30, 1997, the 49.9% ownership
interest of Biztel was accounted for under the equity method. Upon acquiring the
remaining 50.1% interest, TCG no longer accounts for this investment under the
equity method, and consolidates the financial results of BizTel as of November
1, 1997.
Net Loss
The Company's results for the three months and nine months ended September
30, 1997, reflected a net loss of $53.8 million and $150.1 million, compared to
a net loss of $33.7 million and $72.1 million for the three months and nine
months ended September 30, 1996, or increases of $20.1 million and $78.0
million, respectively. These increases in net loss are attributable to the
factors discussed above. Net loss increased to $150.1 million for the nine
months ended September 30, 1997 from $83.0 million for the nine months ended
September 30, 1996, on a pro forma basis, or an increase of $67.1 million.
LIQUIDITY AND CAPITAL RESOURCES
TCG had total assets of approximately $2.1 billion as of September 30,
1997 and December 31, 1996. At September 30, 1997 the Company's current assets
of approximately $440.8 million exceeded current liabilities of $302.8 million,
providing working capital of approximately $138.0 million. Network and
equipment, net of depreciation, as of September 30, 1997, aggregated
approximately $1.4 billion.
TCG has invested the net proceeds from the 1996 Offerings in marketable
securities such as Treasury bills, floating rate notes and commercial paper.
TCG will utilize the remaining net proceeds to expand its networks, for
acquisitions and to provide funds for working capital.
Effective as of March 1, 1997, TCG completed its acquisition of ETC for
2,757,083 shares of its Class A Common Stock. The Company also assumed $53
million in ETC debt and loaned $115 million to ETC, the proceeds of which were
used by ETC to redeem the stock held by certain minority stockholders. In
addition, as part of the acquisition, TCG assumed ETC's credit facility. This
facility, which ETC entered into in October 1995, is a $60 million credit
facility (the "ETC Facility") with certain banks. Initial borrowings under the
ETC Facility of $37 million were principally used to repay existing long-term
debt, leases and certain subordinated convertible demand promissory notes. The
ETC Facility provides for interest based upon either the base rate, or London
Interbank Offered Rate ("LIBOR"), adjusted as defined in the ETC Facility
(7.1875% at September 30, 1997), which is payable quarterly. The balance
outstanding is due on September 30, 1998. Borrowings under the ETC Facility are
collateralized by substantially all of the assets and outstanding common stock
of ETC. In addition, the ETC Facility contains certain restrictive covenants
which, among other things, require ETC to maintain certain debt service coverage
ratios and limit the payment of dividends and capital expenditures. In
addition, ETC is required to pay 3/8% per year on the available portion of the
ETC Facility. The total outstanding balance at September 30, 1997, was $52.6
million.
16
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
To finance TCG's capital expenditures, acquisitions, investments, working
capital and for other general corporate purpose, TCG's wholly-owned subsidiary,
TCG New York, Inc. ("TCGNY"), amended its $250 million Revolving Credit
Agreement to a $400 million Revolving Credit Agreement on July 28, 1997. The
Revolving Credit Agreement is secured by (i) the stock of the following TCGNY
wholly-owned subsidiaries: TC New York Holdings I, Inc., TC New York Holdings
II, Inc., TC Systems, Inc., TCG Payphones, Inc. and the partnership interests in
Teleport Communications (ii) a negative pledge on the assets and a pledge of the
stock of each existing and future subsidiary of TCGNY, (iii) a negative pledge
on the contracts that relate to TCGNY operations, (iv) upstream guarantees from
any existing and future subsidiaries of TCGNY and (v) a lien on all present and
future intercompany indebtedness owned to TCGNY from TCG and all its
subsidiaries. There is no outstanding balance as of September 30, 1997. As of
September 30, 1997, $362.8 million was available to the Company.
The Revolving Credit Agreement contains various covenants and conditions,
including restrictions on additional indebtedness, maintenance of certain
financial ratios and limitations on capital expenditures. None of these
covenants negatively impact TCG's liquidity or capital resources at this time.
In addition, TCG is required to pay .375% per year on the available portion of
the Revolving Credit Agreement.
The Company is negotiating with a competitive local exchange carrier
("CLEC"), a majority of the equity of which is owned by a Cable Stockholder, to
purchase substantially all of its assets used in connection with its fiber optic
communications system. If the parties sign a definitive purchase agreement
relating to this acquisition and pending the closing of such transaction, the
Company would provide certain services in connection with the operations of such
communications system. The proposed purchase price is approximately $55 million
in cash and the Company would be required to assume certain obligations of the
seller.
The Company has incurred significant net operating losses resulting from
the development and operation of new networks which TCG expects will continue as
it expands its networks. Persistent demands from TCG's customers for capital
intensive local services drives the development, construction and expansion of
its networks. While cash provided by operations may be sufficient to fund modest
incremental growth it may not be sufficient to fund the extensive expansion and
development of networks as currently planned.
TCG filed a registration statement for a public offering (the "1997
Offering") of 17,250,000 shares of Class A Common Stock on October 10, 1997, and
the 1997 Offering was consummated on November 13, 1997. Of the 17,250,000
shares, 7,304,408 were offered by the Company and 9,945,592 shares were offered
by Continental. The Company did not receive any proceeds from the sale of shares
by Continental. The net proceeds to the Company from its sale of shares pursuant
to the 1997 Offering were $317.6 million after deducting the underwriting
discount and estimated expenses of approximately $11.1 million.
TCG intends to use the net proceeds from the sale of its shares pursuant
to the 1997 Offering and the remaining proceeds from the 1996 Offerings to
expand and develop existing and new networks and for general corporate and
working capital purposes, which may include acquisitions. A significant portion
of such proceeds will be contributed or advanced to the Company's subsidiaries
which own and operate the networks in the local markets. Expected capital
expenditures for the expansion, development and acquisition of networks and
other telecommunications assets include (i) the purchase and installation of
switches, electronics, fiber and other additional technologies in existing
networks and in networks to be constructed in new markets and (ii) the
acquisition and expansion of networks and other telecommunications assets
currently owned and operated by other companies. Expected expenditures for
general corporate and working capital purposes include (i) expenditures with
respect to the Company's management information systems and corporate service
support infrastructure and (ii) operating and administrative expenses with
respect to new networks and debt service.
Net cash (used for) provided by financing activities for the nine months
ended September 30, 1997 and September 30, 1996, was ($12.3) million and $1.1
billion, respectively, comprised primarily of principal payments on capital
leases partially offset by proceeds from the exercise of employee stock options
for the nine months ended September 30, 1997, and proceeds from the 1996
Offerings, offset by the net repayments. Net cash (used for) provided by
operating activities was ($38.8) million and $4.5 million for the nine months
ended September 30, 1997 and 1996, respectively. Net cash used for investing
activities was $45.1 million and $782.6 million for the nine
17
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
months ended September 30, 1997 and 1996, respectively. As of September 30,
1997, cash and cash equivalents were $181.4 million and marketable securities
were $150.2 million.
TCG made capital expenditures (excluding acquisitions) of $335.6 million
and on a pro forma basis $231.6 million for the nine months ended September 30,
1997 and September 30, 1996, respectively. The Company anticipates that capital
expenditures (excluding acquisitions) will be approximately $500 million in the
aggregate in 1997, primarily for the expansion, development and construction of
its networks, the acquisition and deployment of switches and the expansion of
operating support systems.
The Company believes that the net proceeds from the 1997 Offering, the
remaining proceeds from the 1996 Offerings and the amount of credit available
under the Revolving Credit Agreement and the ETC Facility will be adequate for
its funding requirements through 1998. The Company intends to preserve financial
flexibility in order to respond to the rapidly evolving telecommunications
marketplace. TCG will continue to take advantage of favorable financing
arrangements, including the sale of debt or equity securities in the public
markets, private placements, increasing the amount available under the existing
credit facilities or adding additional lines of credits. The Company is actively
considering, depending on market conditions, accessing the debt markets during
the fourth quarter.
The Company from time to time evaluates acquisitions and investments in
light of the Company's long range plans. Such acquisitions and investments, if
realized, could use a material portion of the Company's financial resources and
may accelerate the need for raising additional capital in the future.
Earnings before fixed charges were insufficient to cover fixed charges for
the nine months ended September 30, 1997 and 1996, by $148.6 million and $72.9
million, respectively. On a pro forma basis, the Company's earnings would have
been insufficient to cover fixed charges by $84.9 million for the nine months
ended September 30, 1996.
REGULATORY MATTERS
TCG is subject to extensive federal and state regulation. In most states,
the Company is subject to certification and tariff filing requirements with
respect to intrastate services. TCG is required to file tariffs for interstate
access services with the FCC, although such tariff requirements are generally
less restrictive than those imposed on ILECs which offer similar services. An
October 1996 FCC ruling required federal tariffs for domestic interstate,
interexchange services to be canceled by September 22, 1997. The FCC's order has
been temporarily stayed and a number of parties have filed petitions with the
FCC seeking reconsideration of the FCC's decision. On June 19, 1997, the FCC
adopted an Order that permits CLECs like the Company to voluntarily withdraw
their FCC tariffs for most interstate services. The Company has not decided
whether to withdraw its FCC tariff. On the same day, the FCC initiated a further
inquiry to determine whether to require that competitive local exchange carriers
like the Company withdraw their tariffs. While the Company cannot predict what
the FCC will do with this further inquiry, were the FCC to require the
withdrawal of the Company's tariffs and replacement of those tariffs with
contractual arrangements, TCG could incur substantial legal and administrative
expenses.
Under the Telecommunications Act of 1996 (the "1996 Act") all local
exchange carriers, including TCG, must interconnect with other carriers, make
their services available for resale by other carriers, provide non-
discriminatory access to rights of way, offer reciprocal compensation for
termination of traffic and provide dialing parity and telephone number
portability. The Company, ILECs, other CLECs and long distance carriers, will
also be required to contribute some portion of their gross revenues (subject to
adjustments) to the support of universal service programs under the FCC's rules
implementing the universal service provisions of the 1996 Act, which were
adopted on May 7, 1997. TCG may also be eligible to receive funds from universal
service programs if the Company provides services to schools and libraries.
Several parties have sought judicial review of the FCC's universal service
rules.
Various ILECs have taken the position that the historical exemption from
access charges of certain service providers, which currently include Internet
service providers, ("ISPs") should be reversed. Although this position was
rejected by the FCC in its May 7, 1997 access charge Order, certain ILECs have
also taken the position that
18
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
they will not pay reciprocal compensation to CLECs with respect to telephone
services from the ILEC's customer to an ISP served by a CLEC. TCG believes these
positions are contrary to the 1996 Act and those state commissions which have so
far considered the issue have declared that ILECs should pay CLECs reciprocal
compensation for the Internet traffic. However, no prediction can be made
whether the ILECs ultimately will be successful in asserting their positions.
However, if state commissions, the FCC or courts were to reach final decisions
which found in favor of the ILECs, such decisions could result in a material
adverse effect on TCG, both as an ISP itself, and as a provider of TCG local
exchange services to other ISPs.
On August 8, 1996, the FCC released both a First Report and Order and a
Second Report and Order and a Memorandum Opinion and Order in its CC Docket No.
96-98 (collectively, the "Interconnection Orders"). The Interconnection Orders
established a framework of minimum national standards and procedures to enable
State Public Utility Commissions and the FCC to begin implementing many of the
local competition provisions of the 1996 Act. On September 27, 1996, the FCC
issued an Order on Reconsideration of the First Report and Order in CC Docket
No. 96-98, in which it added a non-usage-sensitive charge to the rate for
unbundled switching and clarified that, as a practical matter, an Interexchange
Carrier could not lease unbundled switching for the provision of exchange access
service only. The new rules were scheduled to become effective on September 30,
1996. On October 15, 1996, however, the U.S. Court of Appeals for the Eighth
Circuit issued a stay of certain provisions of the rules pending its resolution
of numerous petitions for review filed by ILECs and others. Specifically, the
Court stayed the FCC's pricing rules and its "pick and choose" rule, which would
have allowed CLECs to receive the benefit of the most favorable provisions
contained in an ILEC's agreements with other carriers. On July 18, 1997, the
Court of Appeals held that the pricing rules and the "pick and choose" rule
exceeded the FCC's authority and were inconsistent with the terms of the 1996
Act. The Court also invalidated the FCC's rule requiring that interconnection
agreements negotiated prior to enactment of the 1996 Act be submitted to state
commissions for approval, and it held that the FCC had no authority to review or
enforce agreements approved by state regulators. The FCC has indicated that it
may ask the United States Supreme Court to review this decision of the Court of
Appeals. The Supreme Court previously rejected applications to vacate the stay
that had been imposed by the Court of Appeals, and it is impossible to predict
whether the Court will agree to review the decision or what the outcome of such
review would be.
On June 13, 1997 the FCC ordered certain ILECs to refund to certain CLECs,
including the Company, various overcharges by the ILECs for colocation
arrangements retroactive to December 1994. TCG is unable to estimate the
probable amount of this refund, but the amount of any refund will not be
material to the Company's financial condition.
The matters discussed or incorporated by reference in this Form 10-Q
contain forward-looking statements, within the meaning of Section 21E of the
Securities Exchange Act of 1934, as amended, which are inherently uncertain.
Actual results and events may differ significantly from those discussed in such
forward-looking statements. In addition to other information discussed herein,
factors that might cause or contribute to such differences include the risks and
uncertainties set forth under the caption "Risk Factors" in the Prospectus,
dated as of November 6, 1997, relating to the 1997 Offering, included in the
Company's Registration Statement on Form S-3 (File No. 333-37597) and the
matters set forth in the Company's 1996 Annual Report on Form 10-K, as amended.
EFFECTS OF RECENTLY ISSUED ACCOUNTING STANDARDS
In February 1997, the Financial Accounting Standards Board ("FASB") issued
Statement of Financial Accounting Standards ("SFAS") No. 128 "Earnings per
Share." This statement is effective for financial statements issued for periods
ending after December 15, 1997. Management has evaluated the effect on its
financial reporting from the adoption of this statement and does not believe it
to be significant.
In February 1997, the FASB also issued SFAS No. 129 "Disclosure of
Information about Capital Structure." This statement is effective for financial
statements issued for periods ending after December 15, 1997. Management has
evaluated the effect on its financial reporting and as it contains no change in
disclosure requirements for entities that were previously subject to the
requirements of Accounting Principles Board Opinions 10 and 15 and Statement 47,
no further disclosures are needed.
19
<PAGE>
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS - (Continued)
In June 1997, the FASB issued SFAS No. 130 "Reporting Comprehensive
Income." This statement is effective for financial statements issued for periods
ending after December 15, 1997. Management has evaluated the effect on its
financial reporting from the adoption of this statement and has found the
majority of required disclosures to be not applicable and the remainder to be
not significant.
In June 1997, the FASB issued SFAS No. 131 "Disclosure about Segments of
an Enterprise and Related Information." SFAS No. 131 requires the reporting of
profit and loss, specific revenue and expense items, and assets for reportable
segments. It also requires the reconciliation of total segment revenues, total
segment profit or loss, total segment assets, and other amounts disclosed for
segments to the corresponding amounts in the general purpose financial
statements. SFAS No. 131 is effective for fiscal years beginning after December
15, 1997. The Company has not yet determined what additional disclosures may be
required in connection with adopting SFAS No. 131.
ITEM 3: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
None
20
<PAGE>
PART II
- Other Information
ITEM 1: LEGAL PROCEEDINGS
In April 1997, a complaint (Case No. 97L001928) was filed against the
Company in the Circuit Court of Cook County, Illinois brought by two former
customers of the Company and an alleged class purporting to consist of investors
in one of the customers, alleging fraud and breach of contract. The Company
believes that the allegations are without merit and that it possesses
meritorious counterclaims for damages arising from breach of contract. The
Company additionally believes that any costs arising from this lawsuit will not
have a material adverse effect on its financial condition, results of operations
or cash flows.
ITEM 2: CHANGES IN SECURITIES AND USE OF PROCEEDS
TCG filed a registration statement for a public offering (the "1997
Offering") of 17,250,000 shares of Class A Common Stock. The registration
statement was declared effective by the Securities Exchange Commission on
November 5, 1997, and the 1997 Offering was consummated on November 13, 1997.
For the 1997 Offering, Merrill Lynch, Pierce, Fenner & Smith Incorporated,
Lehman Brothers Inc., Donaldson, Lufkin & Jenrette Securities Corporation, Bear
Stearns & Co. Inc. and Deutche Morgan Grenfell Inc. were representatives of the
underwriters in the United States and Canada, and Merrill Lynch International,
Lehman Brothers International (Europe), Cazenove & Co., Morgan Grenfell & Co.
Limited and UBS Limited were the managers outside the United States and Canada.
Of the 17,250,000 shares offered, 7,304,408 were offered by TCG and 9,945,592
shares were offered by Continental. TCG did not receive any proceeds from the
sale of shares by Continental. The Company received net proceeds of
approximately $317.6 million from its sale of shares in the 1997 Offering, after
deducting the underwriting discount and estimated expenses of approximately
$11.1 million. (TCG has not yet applied any of the proceeds from the 1997
Offering.) For more details regarding TCG's intended uses for the proceeds of
the 1997 Offering in general, see Note 4 to the Company's unaudited consolidated
financial statements for the nine months ended September 30, 1997.
ITEM 3: DEFAULTS UPON SENIOR SECURITIES
There were no reportable events during the quarter ended September 30,
1997.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
ITEM 5: OTHER INFORMATION
There were no reportable events during the quarter ended September 30,
1997.
ITEM 6: EXHIBITS AND REPORTS ON FORM 8-K
A. Exhibits:
Exhibit No.
- -----------
*2.1 Reorganization Agreement, dated as of April 18, 1996
*3.6 Amended and Restated Certificate of Incorporation of TCG, as revised
*3.7 Amended and Restated By-laws of TCG, as revised
*4.2 Form of Amended and Restated Stockholders' Agreement (incorporated by
reference to Exhibit E of Exhibit 2.1 hereof)
*4.3 Form of Indenture between TCG and United States Trust Company of New
York, as Trustee, relating to the 11 1/8% Senior Discount Notes due 2007
of TCG
*4.4 Form of Indenture between TCG and United States Trust Company of New
York, as Trustee, relating to
21
<PAGE>
9 7/8% Senior Notes due 2006 of TCG
*4.5 From of Stock Certificate for Teleport Communications Group, Inc.
*10.1 New York Franchise Agreement, dated May 2, 1994, as amended
*10.2 Participation Agreement, dated May 15, 1984
*10.3 Agreement of Lease, dated May 15, 1984, as amended
*10.4 Keepwell Agreement, dated June 7, 1984, as amended
*10.5 Agreement of Lease with Teleport Associates, dated November 10, 1987
*10.6 Agreement of Sublease between Merrill Lynch/WFC/L, Inc. and TC Systems,
Inc. dated January 30, 1990
*10.7 Loan Agreement, dated May 5, 1993
*10.8 Amendment No. 1 to Loan Agreement, dated March 1, 1994
*10.9 Amendment No. 2 to Loan Agreement, dated October 23, 1994
*10.10 Amendment No. 3 to Loan Agreement, dated February 15, 1995
****10.11 Amended and Restated Loan Agreement
*10.12 Amendment No. 1 to Loan Agreement, dated May 31, 1996
*10.13 Teleport Communications Group Inc. 1992 Unit Appreciation Plan
*10.14 Teleport Communications Group Inc. 1993 Unit Appreciation Plan
*10.15 Teleport Communications Group Inc. 1993 Stock Option Plan, as amended
*10.16 Form of Teleport Communications Group Inc. Employee Stock Purchase Plan
*10.17 Deferred Compensation Plan of Teleport Communications Group Inc.
*10.18 Make-up Plan of Teleport Communications Group Inc. for the Retirement
Savings Plan
*10.19 Teleport Communications Group Inc. 1996 Equity Incentive Plan
*10.20 Robert Annunziata Employment Agreement, dated December 18, 1992, as
amended
*10.21 John A. Scarpati Employment Agreement, dated July 12, 1994, as amended
*10.22 Robert C. Atkinson Employment Agreement, dated July 12, 1994, as
amended
*10.23 Stuart A. Mencher Employment Agreement, dated July 12, 1994, as amended
*10.24 Alf T. Hansen Employment Agreement, dated July 12, 1994, as amended
*10.25 Partnership Agreement of TCG Detroit, dated as of November 1, 1993
*10.26 Amended and Restated Partnership Agreement of TCG Los Angeles, dated as
of March 1, 1994
*10.27 Partnership Agreement of TCG Pittsburgh, dated as of March 1, 1994
*10.28 Partnership Agreement of TCG San Diego, dated as of June 1, 1994
*10.29 Partnership Agreement of TCG San Francisco, dated as of January 1,
1994, as amended
*10.30 Partnership Agreement of TCG Seattle, dated as of January 1, 1994, as
amended
*10.31 Agreement among Teleport Communications Group Inc. and Comcast
Corporation, dated April 18, 1996
*10.32 First Amendment to the Teleport Communications Group Inc. 1993 Stock
Option Plan
*10.33 Second Amendment to the Teleport Communications Group Inc. 1993 Stock
Option Plan
*10.34 Letter of Intent between Viacom Telecom, Inc. and Teleport
Communications Group Inc., dated as of May 30, 1996.
*10.35 Letter of Intent between Viacom Telecom, Inc. and Teleport
Communications Group Inc., dated as of May 30, 1996
*10.36 First Amendment to the Teleport Communications Group Inc. 1996 Equity
Incentive Plan
*10.37 Stockholders' Agreement of Comcast CAP of Philadelphia, Inc. dated as of
June 30, 1993
**10.38 Teleport Communications Group Inc. 1997 Employee Stock Purchase Plan
***10.39 Teleport Communications Group Inc. Restricted Stock and Bonus Plan
11.00 Computation of Loss Per Common Share
27.00 Financial Data Schedule
*Incorporated by reference to the corresponding exhibit of TCG's Registration
Statements on Form S-1 (File Nos. 333-3850 and 333-3984).
**Incorporated by reference to the corresponding exhibit of TCG's Registration
Statement on Form S-8 (File No. 333-30571).
***Incorporated by reference to the corresponding exhibit of TCG's Registration
Statement on Form S-8 (File No. 333-30569).
****Incorporated by reference to the corresponding exhibit of TCG's Registration
Statement on Form S-3 (File No. 333-37597).
22
<PAGE>
B. Reports on Form 8-K:
The following reports on Form 8-K was filed during the quarter ended
September 30, 1997.
An Item 5 report on Form 8-K, dated October 22, 1997, was filed to announce
that the Company had filed a registration statement for a proposed public
offering of Class A Common Stock.
An Item 5 report on Form 8-K, dated October 29, 1997, was filed to report
the Company's financial results for the fiscal quarter ended September 30, 1997.
An Item 2 report on Form 8-K, dated October 30, 1997, was filed reporting
the Company's acquisition of BizTel Communications.
23
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf of the
undersigned, thereunto duly authorized.
TELEPORT COMMUNICATIONS GROUP INC.
Dated: November 14, 1997
By: /s/ John A. Scarpati
---------------------------
Name: John A. Scarpati
Title: Senior Vice President
and Chief Financial Officer
Dated: November 14, 1997 By: /s/ Maria Terranova-Evans
------------------------------
Name: Maria Terranova-Evans
Title: Vice President and Controller
(Principal Accounting Officer)
<PAGE>
Exhibit 11
TELEPORT COMMUNICATIONS GROUP INC. AND SUBSIDIARIES
COMPUTATION OF LOSS PER SHARE
THREE MONTHS AND NINE MONTHS ENDED SEPTEMBER 30, 1997 AND 1996
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
1997 1996 1997 1996
---- ---- ---- ----
<S> <C> <C> <C> <C>
Net loss $(53,784,000) $(33,704,000) $(150,144,000) $(72,139,000)
============ ============ ============= ============
Primary loss per common share:
Weighted average number of shares
outstanding 165,502,998 158,876,191 164,053,559 100,234,987
============ ============ ============= ============
Loss per share $ (.32) $ (.21) $ (.92) $ (.72)
============ ============ ============= ============
</TABLE>
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1997
<PERIOD-END> SEP-30-1997
<CASH> 181,446
<SECURITIES> 150,205
<RECEIVABLES> 78,018
<ALLOWANCES> 10,309
<INVENTORY> 0
<CURRENT-ASSETS> 440,763
<PP&E> 1,704,045
<DEPRECIATION> 335,114
<TOTAL-ASSETS> 2,115,920
<CURRENT-LIABILITIES> 302,772
<BONDS> 1,122,993
0
0
<COMMON> 1,736
<OTHER-SE> 870,682
<TOTAL-LIABILITY-AND-EQUITY> 2,115,920
<SALES> 0
<TOTAL-REVENUES> 131,406
<CGS> 0
<TOTAL-COSTS> 75,066
<OTHER-EXPENSES> 40,426
<LOSS-PROVISION> 4,213
<INTEREST-EXPENSE> 30,693
<INCOME-PRETAX> (53,396)
<INCOME-TAX> 388
<INCOME-CONTINUING> (53,784)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (53,784)
<EPS-PRIMARY> (.32)
<EPS-DILUTED> (.32)
</TABLE>
