<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
F O R M 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from _____ to _____
Commission File Number: 0-21317
TCI SATELLITE ENTERTAINMENT, INC.
---------------------------------
(Exact name of Registrant as specified in its charter)
State of Delaware 84-1299995
- --------------------------------------------------- ------------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
8085 South Chester, Suite 300
Englewood, Colorado 80112
- --------------------------------------------------- ------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (303) 712-4600
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, and (2) has been subject to such filing
requirements for the past 90 days [X] Yes [ ] No
The number of shares outstanding of TCI Satellite Entertainment, Inc.'s
common stock as of July 31, 1998, was:
Series A common stock 59,280,466 shares; and
Series B common stock 8,465,324 shares.
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(unaudited)
<TABLE>
<CAPTION>
June 30, December 31,
1998 1997
-------------------------- -------------------------
Assets amounts in thousands
- ------
<S> <C> <C>
Cash and cash equivalents $ -- 6,084
Accounts receivable, net of allowance for doubtful accounts -- 35,079
Investment in PRIMESTAR, Inc. (notes 2 and 8) 335,788 --
Property and equipment, at cost:
Satellites (note 9) 463,133 463,133
Satellite reception equipment -- 674,387
Subscriber installation costs -- 227,131
Support equipment -- 34,389
--------- ---------
463,133 1,399,040
Less accumulated depreciation -- 277,103
--------- ---------
463,133 1,121,937
--------- ---------
Deferred financing costs and other assets,
net of accumulated amortization -- 41,756
--------- ---------
$ 798,921 1,204,856
========= =========
Liabilities and Stockholders' Equity
- ------------------------------------
Accounts payable and accrued expenses $ -- 157,050
Subscriber advance payments -- 29,675
Due to PRIMESTAR, Inc. (note 9) 463,133 463,133
Debt -- 418,729
--------- ---------
Total liabilities 463,133 1,068,587
--------- ---------
Stockholders' Equity:
Preferred stock, $.01 par value;
authorized 5,000,000 shares; none issued -- --
Series A common stock, $1 par value; authorized 185,000,000
shares; issued 59,280,466 in 1998, and 58,239,136 in 1997 59,280 58,239
Series B common stock, $1 par value; authorized 10,000,000
shares; issued 8,465,324 in 1998 and 1997 8,465 8,465
Additional paid-in capital 824,259 523,685
Accumulated deficit (556,216) (454,120)
--------- ---------
Total stockholders' equity 335,788 136,269
--------- ---------
$ 798,921 1,204,856
========= =========
</TABLE>
See accompanying notes to consolidated financial statements.
I-1
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
(unaudited)
<TABLE>
<CAPTION>
Three months ended Six months ended
June 30, June 30,
------------------------------------ ---------------------------------
1998 1997 1998 1997
------------------ ---------------- --------------- ----------------
amounts in thousands
<S> <C> <C> <C> <C>
Revenue:
Programming and equipment
rental $ -- 126,729 154,257 240,230
Installation -- 10,652 14,243 20,415
-------- ------- -------- --------
-- 137,381 168,500 260,645
-------- ------- -------- --------
Operating costs and expenses:
Charges from PRIMESTAR
Partners L.P. (note 10):
Programming -- 42,665 57,461 81,988
Satellite, marketing and
distribution -- 20,445 24,774 40,381
Other operating (note 10) -- 4,815 9,847 11,072
Selling, general and administrative (note 10) 43 47,385 55,384 91,773
Stock compensation (note 10) -- 1,158 4,869 1,552
Depreciation -- 58,643 65,105 113,266
-------- ------- -------- --------
43 175,111 217,440 340,032
-------- ------- -------- --------
Operating loss (43) (37,730) (48,940) (79,387)
Other income (expense):
Interest expense -- (12,025) (14,177) (21,408)
Share of losses of PRIMESTAR, Inc.
(note 8) (32,536) -- (32,536) --
Share of losses of PRIMESTAR
Partners L.P. -- (5,768) (5,822) (7,929)
Other, net -- 464 (621) 1,134
-------- ------- -------- --------
(32,536) (17,329) (53,156) (28,203)
-------- ------- -------- --------
Loss before income taxes (32,579) (55,059) (102,096) (107,590)
Income tax benefit (note 11) -- -- -- --
-------- ------- -------- --------
Net loss $(32,579) (55,059) (102,096) (107,590)
======== ======= ======== ========
Basic and diluted loss per common share
(note 6): $ (.48) (.83) (1.51) (1.61)
======== ======= ======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
I-2
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Consolidated Statement of Stockholders' Equity
Six months ended June 30, 1998
(unaudited)
<TABLE>
<CAPTION>
Common stock Additional Total
---------------------- Paid-in Accumulated stockholders'
Series A Series B capital deficit equity
------------ -------- ------------ -------------- ---------
amounts in thousands
<S> <C> <C> <C> <C> <C>
Balance at January 1, 1998 $58,239 8,465 523,685 (454,120) 136,269
Net loss -- -- -- (102,096) (102,096)
Recognition of stock compensation related to
stock options and restricted stock awards -- -- 1,578 -- 1,578
Issuance of Series A Common Stock related to
restricted stock awards 50 -- (50) -- --
Issuance of Series A Common Stock upon
conversion of convertible securities of
Tele-Communications, Inc. (note 4) 991 -- -- -- 991
Issuance of common stock by
subsidiary (note 2) -- -- 299,046 -- 299,046
------- -------- ------- -------- --------
Balance at June 30, 1998 $59,280 8,465 824,259 (556,216) 335,788
======= ======== ======= ======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
I-3
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(unaudited)
<TABLE>
<CAPTION>
Six months ended
June 30,
------------------------------------------
1998 1997
-------------------- --------------------
amounts in thousands
(see note (7)
<S> <C> <C>
Cash flows from operating activities:
Net loss $(102,096) (107,590)
Adjustments to reconcile net loss to
net cash provided by operating activities:
Depreciation 65,105 113,266
Share of losses of PRIMESTAR, Inc. 32,536 --
Share of losses of PRIMESTAR Partners L.P. 5,822 7,929
Accretion of debt discount 4,682 6,644
Stock compensation 4,869 1,552
Other non-cash items 7,999 1,962
Changes in operating assets and liabilities:
Change in receivables 10,845 (563)
Change in other assets (736) 82
Change in accruals and payables (10,209) 16,053
Change in subscriber advance payments (3,114) 4,718
--------- --------
Net cash provided by operating activities 15,703 44,053
--------- --------
Cash flows from investing activities:
Capital expended for property and equipment (73,966) (85,804)
Capital expended for satellites -- (5,265)
Additional investments in and advances to
PRIMESTAR Partners L.P. (75) (6,991)
Repayment of advances to PRIMESTAR Partners L.P. -- 7,663
--------- --------
Net cash used in investing activities (74,041) (90,397)
--------- --------
Cash flows from financing activities:
Borrowings of debt 113,000 405,061
Repayments of debt (61,735) (299,172)
Payment of deferred financing costs -- (18,452)
Increase in due to PRIMESTAR Partners L.P. -- 5,265
Proceeds from issuance of common stock 989 225
--------- --------
Net cash provided by financing activities 52,254 92,927
--------- --------
Net increase (decrease) in cash and cash
equivalents (6,084) 46,583
Cash and cash equivalents:
Beginning of period 6,084 6,560
--------- --------
End of period $ -- 53,143
========= ========
</TABLE>
See accompanying notes to consolidated financial statements.
I-4
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
June 30, 1998
(unaudited)
(1) Basis of Presentation
---------------------
The accompanying consolidated financial statements include the accounts of
TCI Satellite Entertainment, Inc. and those of all majority-owned
subsidiaries ("TSAT" or the "Company"). All significant inter-company
transactions have been eliminated.
The accompanying interim consolidated financial statements of TSAT are
unaudited. In the opinion of management, all adjustments (consisting only
of normal recurring accruals) have been made which are necessary to present
fairly the financial position of TSAT as of June 30, 1998 and the results
of its operations for the periods ended June 30, 1998 and 1997. The
results of operations for any interim period are not necessarily indicative
of the results for the entire year. These financial statements should be
read in conjunction with the financial statements and related notes thereto
included in TSAT's December 31, 1997 Annual Report on Form 10-K.
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 at
the date of the financial statements and the reported amounts of revenue
and expenses during the reporting period. Actual results could differ from
those estimates.
Certain amounts have been reclassified for comparability with the 1998
presentation.
(2) The Roll-up Plan
----------------
On March 6, 1998, the TSAT stockholders voted to approve a proposal to
adopt the provisions of certain agreements and the transactions
contemplated thereby, collectively, referred to herein as the "Roll-up
Plan." The Roll-up Plan is a two-step transaction, comprising the
Restructuring and the proposed TSAT Merger, as described below.
(continued)
I-5
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Restructuring
Effective April 1, 1998 (the "Closing Date") and pursuant to (i) a Merger
and Contribution Agreement dated as of February 6, 1998, (the
"Restructuring Agreement"), among TSAT, PRIMESTAR, Inc., prior to the
Restructuring a wholly-owned subsidiary of TSAT ("PRIMESTAR"), Time Warner
Entertainment Company, L.P. ("TWE"), Advance/Newhouse Partnership
("Newhouse"), Comcast Corporation ("Comcast"), Cox Communications, Inc.
("Cox"), MediaOne of Delaware, Inc., ("MediaOne"), US WEST Media Group,
Inc. and GE American Communications, Inc., and (ii) an Asset Transfer
Agreement dated as of February 6, 1998, (the "TSAT Asset Transfer
Agreement") between TSAT and PRIMESTAR, a business combination (the
"Restructuring") was consummated whereby (a) TSAT contributed and
transferred to PRIMESTAR (the "TSAT Asset Transfer") all of TSAT's assets
and liabilities except (I) the capital stock of TSAT's wholly-owned
subsidiary, Tempo Satellite, Inc. ("Tempo"), (II) the consideration to be
received by TSAT in the Restructuring and (III) the rights and obligations
of TSAT under certain agreements with PRIMESTAR and others, and (b) the
business of PRIMESTAR Partners L.P. ("PRIMESTAR Partners") and the business
of distributing the PRIMESTAR(R) programming service ("PRIMESTAR(R)") of
each of TWE, Newhouse, Comcast, Cox and affiliates of MediaOne was
consolidated into PRIMESTAR.
In connection with the TSAT Asset Transfer, PRIMESTAR assumed all of TSAT's
indebtedness on such date, and TSAT received from PRIMESTAR such number of
shares of Class A Common Stock, $.01 par value per share, of PRIMESTAR
("PRIMESTAR Class A Common Stock") and Class B Common Stock, $.01 par value
per share, of PRIMESTAR ("PRIMESTAR Class B Common Stock" and together with
the PRIMESTAR Class A Common Stock, "PRIMESTAR Common Stock"),
respectively, as equals the number of shares of Series A Common Stock of
TSAT ("Series A Common Stock") and Series B Common Stock of TSAT ("Series B
Common Stock"), respectively, issued and outstanding on the Closing Date,
in accordance with the Restructuring Agreement and the TSAT Asset Transfer
Agreement, plus one share of PRIMESTAR Class A Common Stock for each share
of Series A Common Stock issuable at the Closing Date ("Issuable TSAT
Shares") pursuant to certain TSAT stock options, restricted stock awards
and other arrangements. TSAT received 66.3 million shares of PRIMESTAR
Class A Common Stock and 8.5 million shares of PRIMESTAR Class B Common
Stock, and as a result, owns approximately 37% of the outstanding shares of
common equity of PRIMESTAR at the closing of the Restructuring,
representing approximately 38% of the combined voting power of such common
equity. As a result of the dilution of TSAT's investment in PRIMESTAR from
100% to approximately 37%, TSAT recognized an increase in its investment in
PRIMESTAR and an increase in additional paid-in capital of $299,046,000,
net of income taxes. Such increase represents the difference between
TSAT's historical investment basis in PRIMESTAR and TSAT's proportionate
share of PRIMESTAR's equity subsequent to the Restructuring.
As a result of the TSAT Asset Transfer, TSAT is a holding company, with no
substantial assets or liabilities other than (i) 100% of the outstanding
capital stock of Tempo, (ii) its ownership interest in PRIMESTAR, and (iii)
its rights and obligations under certain agreements with PRIMESTAR and
others.
(continued)
I-6
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
TSAT Merger
Pursuant to an Agreement and Plan of Merger dated as of February 6, 1998
(the "TSAT Merger Agreement"), between TSAT and PRIMESTAR, it is
contemplated that TSAT will be merged with and into PRIMESTAR, with
PRIMESTAR as the surviving corporation (the "TSAT Merger"). In connection
therewith (i) each outstanding share of Series A Common Stock will be
converted into the right to receive one share of PRIMESTAR Class A Common
Stock, and (ii) each outstanding share of Series B Common Stock will be
converted into the right to receive one share of PRIMESTAR Class B Common
Stock, subject to adjustment. Each share of PRIMESTAR Common Stock then
held by TSAT will be canceled. The number of shares of PRIMESTAR Common
Stock issued to TSAT shareholders will be less than the number of shares of
PRIMESTAR Common Stock owned by TSAT prior to the TSAT Merger to the extent
Issuable TSAT Shares are not issued and outstanding at the time of the TSAT
Merger. However, PRIMESTAR shall assume all obligations of TSAT in respect
of the Issuable TSAT Shares.
Consummation of the TSAT Merger is subject to regulatory approval and other
conditions to closing set forth in the TSAT Merger Agreement. Accordingly,
there can be no assurance that the TSAT Merger will be consummated.
Proposed ASkyB Transaction
--------------------------
In a separate proposed transaction (the "ASkyB Transaction"), pursuant to
an asset acquisition agreement, dated as of June 11, 1997 among PRIMESTAR
Partners, The News Corporation Limited ("News Corp."), MCI
Telecommunications Corporation, the principal domestic operating subsidiary
of MCI Communications Corporation ("MCI"), American Sky Broadcasting LLC, a
wholly-owned subsidiary of News Corp. ("ASkyB") and for certain purposes
only, each of the partners of PRIMESTAR Partners (collectively, the
"Partners"), PRIMESTAR has agreed to acquire from MCI two high-power
communications satellites currently under construction, certain
authorizations granted to MCI by the Federal Communications Commission
("FCC") to operate a direct broadcast satellite business at the 110 West
Longitude ("W.L.") orbital location using 28 transponder channels, and
certain related contracts. In consideration, ASkyB will receive
approximately $600 million liquidation value of non-voting convertible
preferred stock, $.01 per value per share, of PRIMESTAR (the "PRIMESTAR
Convertible Preferred Stock") (convertible into approximately 52 million
shares of non-voting Series D Common Stock, $.01 par value per share, of
PRIMESTAR (the "PRIMESTAR Class D Common Stock"), subject to adjustment)
and approximately $442 million principal amount of convertible subordinated
notes of PRIMESTAR (the "PRIMESTAR Convertible Subordinated Notes")
(convertible into approximately 38.5 million shares of PRIMESTAR Class D
Common Stock).
(continued)
I-7
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The PRIMESTAR Convertible Subordinated Notes will be due and payable, and
the PRIMESTAR Convertible Preferred Stock will be mandatorily redeemable,
on the tenth anniversary of the date of issuance. The PRIMESTAR
Convertible Preferred Stock will accrue cumulative dividends at the annual
rate of 5% of the liquidation value of such shares and the PRIMESTAR
Convertible Subordinated Notes will have an interest rate of 5%. Dividends
on the PRIMESTAR Convertible Preferred Stock and interest on the PRIMESTAR
Convertible Subordinated Notes will be payable in cash or, at the option of
PRIMESTAR, in shares of the non-voting PRIMESTAR Class D Common Stock, for
a period of four years. Thereafter, all dividend and interest payments
will be made solely in cash. Such convertible securities, and the shares
of PRIMESTAR Class D Common Stock to be issued to ASkyB or any of its
affiliates upon conversion of such PRIMESTAR Convertible Preferred Stock
and PRIMESTAR Convertible Subordinated Notes, or in payment of dividend or
interest obligations thereunder, will be non-voting; however, shares of
PRIMESTAR Class D Common Stock will automatically convert into shares of
PRIMESTAR Class A Common Stock, on a one-to-one basis, upon transfer to any
person other than ASkyB, News Corp. or any of their respective affiliates.
On May 12, 1998, the U.S. Department of Justice ("DOJ") filed a civil
antitrust action opposing the ASkyB Transaction (the "DOJ Action"), and the
Federal District Court has set a trial date for February 1, 1999. The DOJ
Action seeks to prevent PRIMESTAR from acquiring the direct broadcast
satellite assets of News Corp. and MCI or, in the alternative, to allow
such acquisition to go forward and require PRIMESTAR's stockholders
affiliated with the cable industry to divest their ownership interests in
PRIMESTAR.
PRIMESTAR intends to take all appropriate action to pursue its rights,
including, if necessary, vigorously contesting this matter in the courts.
However, no assurance can be given as to the outcome of this matter, and an
unfavorable decision could have a material adverse effect on PRIMESTAR's
current plans with respect to a high power digital satellite business.
Moreover, any protracted litigation with the DOJ could result in
significant additional legal expenses to PRIMESTAR. PRIMESTAR does not
believe, however, that the DOJ Action and any resulting litigation will
have a significant impact on the operation or operating results of
PRIMESTAR's existing medium power satellite television business.
PRIMESTAR also intends to pursue further discussions with the DOJ regarding
a potential consent decree to permit the ASkyB Transaction to go forward.
However, no assurance can be given that a negotiated resolution of this
matter is possible on terms acceptable to PRIMESTAR and its stockholders,
or on any terms. Additionally, the terms of any such consent decree could
have a material adverse effect on PRIMESTAR's current high power strategy.
(continued)
I-8
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(4) TSAT Spin-off Transaction
-------------------------
General
On December 4, 1996 (the "Spin-off Date"), Tele-Communications, Inc.
("TCI") distributed (the "Spin-off") all the capital stock of the Company
to the holders of Tele-Communications, Inc. Series A TCI Group Common Stock
(the "Series A TCI Group Stock") and Tele-Communications, Inc. Series B TCI
Group Common Stock (the "Series B TCI Group Stock" and together with the
Series A TCI Group Stock, the "TCI Group Stock"). The Spin-off did not
involve the payment of any consideration by the holders of TCI Group Stock
(such holders, the "TCI Group Stockholders"), and was intended to qualify
as a tax-free spin-off. TCI Group Stockholders received one share of
Series A Common Stock for each ten shares of Series A TCI Group Stock owned
and one share of Series B Common Stock for each ten shares of Series B TCI
Group Stock owned.
Since the Spin-off, TSAT and TCI have operated independently. For purposes
of governing certain of the ongoing relationships between TSAT and TCI
after the Spin-off, and to provide mechanisms for an orderly transition,
TSAT and TCI entered into various agreements, including the "Reorganization
Agreement" (see below), the "Fulfillment Agreement" (see note 10), the
"Transition Services Agreement" (see note 10), and an amendment to TCI's
then existing "Tax Sharing Agreement (see note 11).
Reorganization Agreement
Pursuant to the Reorganization Agreement, among other items, TSAT assumed
TCI's obligations under options granted on the Spin-off Date to certain key
employees of TCI (who are not employees of TSAT) representing, in the
aggregate, 1,660,190 shares of Series A Common Stock; and TSAT granted to
TCI an option to purchase up to 4,765,000 shares of Series A Common Stock,
at an exercise price of $1.00 per share, as required by TCI from time to
time to meet its obligations under the conversion features of certain
convertible securities of TCI as such conversion features were adjusted as
a result of the Spin-off.
(5) Comprehensive Income
--------------------
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, Reporting Comprehensive Income,
("SFAS No. 130") which establishes standards for reporting and disclosure
of comprehensive income and its components (revenues, expenses, gains and
losses). SFAS No. 130 is effective for fiscal years beginning after
December 15, 1997 and requires reclassification of financial statements for
earlier periods to be provided for comparative purposes. The Company's
total comprehensive loss for all periods presented herein did not differ
from those amounts reported as net loss in the consolidated statements of
operations.
(continued)
I-9
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(6) Loss Per Common Share
---------------------
The basic and diluted loss per common share is based on the weighted
average number of shares outstanding during the period (67,746,000 and
66,631,000 shares for the three months ended June 30, 1998 and 1997,
respectively; and 67,690,000 and 66,625,000 shares for the six months ended
June 30, 1998 and 1997, respectively). Excluded from the computation of
diluted loss per common share for the six months ended June 30, 1998 and
1997 are options and convertible securities to acquire 7,007,000 and
7,752,000 shares of Series A Common Stock, respectively, because inclusion
of such options would be anti-dilutive.
(7) Supplemental Disclosures to Combined Statements of Cash Flows
-------------------------------------------------------------
Cash paid for interest was $13,844,000 and $5,913,000 during the six months
ended June 30, 1998 and 1997, respectively. Cash paid for income taxes was
not significant during either of such periods.
June 30,
----------------------------
1998 1997
------------- -------------
amounts in thousands
Significant non-cash investing activity-
increase in equity due to issuance of
common stock by subsidiary $299,046 --
============= =============
(8) Investment in PRIMESTAR
-----------------------
Summarized unaudited operating information for PRIMESTAR for the six months
ended June 30, 1998 is as follows (amounts in thousands):
Results of Operations
---------------------
Revenue $ 540,012
Operating, selling, general and
administrative expenses (479,252)
Depreciation and amortization (209,863)
---------
Operating loss (149,103)
Other expense, net (7,805)
---------
Net loss $(156,908)
=========
(continued)
I-10
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
(9) Satellites
----------
Tempo DBS System
TSAT, through Tempo, holds a permit (the "FCC Permit") issued by the FCC
authorizing construction of a high-power direct broadcast satellite ("DBS")
system consisting of up to two satellites delivering DBS service in 11
frequencies at the 119 degrees W.L. orbital position.
Tempo is also a party to a construction agreement (the "Satellite
Construction Agreement") with Space Systems/Loral, Inc. ("Loral"), pursuant
to which Tempo has arranged for the construction of two high power
communications satellites (the "Tempo Satellites") at a fixed contract
price of $487,159,500, and has an option to purchase up to three additional
satellites.
One of the Tempo Satellites ("Tempo DBS-1") was launched into
geosynchronous orbit on March 8, 1997. Since the launch of Tempo DBS-1,
Loral has notified TSAT of at least eight separate occurrences of power
reductions on Tempo DBS-1. TSAT does not currently know the extent of such
power reductions, and cannot confirm the precise causes thereof; however,
such reductions could eventually affect the proposed operation of Tempo
DBS-1, either alone or together with other events that may arise during the
expected life of the satellite. As a result of such power reductions, in-
orbit testing has been extended and Tempo DBS-1 has not yet been accepted.
Pursuant to the Satellite Construction Agreement, Loral bears the risk of
loss of the Tempo Satellites until Tempo accepts delivery of the Tempo
Satellites. TSAT currently believes that Tempo DBS-1 may not fully comply
with specifications, but has not yet determined the extent of any such non-
compliance. Tempo and Loral are currently engaged in negotiations regarding
this matter, including the timing, extent and methodology of any further
tests to be conducted and the terms of any monetary settlement with respect
to the satellite to which Tempo may be entitled under the Satellite
Construction Agreement. Certain launch defects or damages affecting Tempo
DBS-1 could cause a substantial monetary loss to TSAT or, following
consummation of the TSAT Merger, to PRIMESTAR.
Under the FCC Permit, the time by which the Tempo Satellites must be
operational was due to expire in May 1998. On April 3, 1998, Tempo filed a
request with the FCC for an extension of that deadline pending FCC review
of (i) TSAT's request for consent to the transfer of control of Tempo to
PRIMESTAR (the "Transfer Application") and (ii) PRIMESTAR Partner's
application for consent to the assignment to PRIMESTAR of the high power
DBS authorizations and certain assets owned by MCI (the "Assignment
Application") should the FCC determine that an extension is necessary for
Tempo to maintain its FCC authorizations at 119 degrees W.L. and 166
degrees W.L.
(continued)
I-11
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
On April 30, the FCC determined that Tempo's satellite at 119 W.L. was not
operational. It did find, however, that an extension of time was warranted
for that orbital location and granted an extension to Tempo for 119 W.L.
Such extension was granted until six months after the FCC determination on
the Transfer Application and the Assignment Application, with the condition
that Tempo not enter into a lease agreement with PRIMESTAR or any similar
lease arrangement prior to the FCC's decision on the Transfer Application
and the Assignment Application. In addition, Tempo voluntarily surrendered
its permit for 166 degrees W.L.
Upon delivery of each of the Tempo Satellites, Tempo is obligated to make a
$10 million incentive payment to Loral. Tempo is eligible to receive a pro
rata warranty payback of each such incentive payment to the extent that
transponder failures occur during the twelve-year period following
delivery. Satellite incentive payments and any related warranty paybacks
are treated as adjustments of the cost of the applicable Tempo Satellite.
Tempo Option
In February 1990, Tempo entered into an option agreement with PRIMESTAR
Partners granting PRIMESTAR Partners the right and option (the "Tempo
Option"), upon exercise, to purchase or lease 100% of the capacity of the
DBS system to be built, launched and operated by Tempo pursuant to the FCC
Permit with the purchase price (or aggregate lease payments) being
sufficient to cover the costs of constructing, launching and operating such
DBS system. In connection with the Tempo Option and certain related
matters, Tempo and PRIMESTAR Partners subsequently entered into two letter
agreements (the "Tempo Letter Agreements"), which provided for, among other
things, the funding by PRIMESTAR Partners of milestone and other payments
due under the Satellite Construction Agreement, and certain related costs,
through advances by PRIMESTAR Partners to Tempo. The aggregate funding
provided to Tempo by PRIMESTAR Partners ($463,133,000 at June 30, 1998) is
reflected in "Due to PRIMESTAR, Inc. in the accompanying consolidated
balance sheets.
On February 7, 1997, the Partners Committee of PRIMESTAR Partners adopted a
resolution (i) affirming that PRIMESTAR Partners had unconditionally
exercised the Tempo Option, (ii) approving the proposed launch of Tempo
DBS-1 into the 119 degrees W.L. orbital position and the use of the second
Tempo Satellite as a spare or back-up for Tempo DBS-1, pending other
deployment or disposition as determined by PRIMESTAR Partners, and (iii)
authorizing the payment by PRIMESTAR Partners to Tempo of a $1,000,000
exercise fee (the "Exercise Fee") and other amounts in connection with the
Tempo Option and the Tempo Letter Agreements, including funding of
substantially all construction and related costs relating to the Tempo
Satellites not previously funded by PRIMESTAR Partners.
(continued)
I-12
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
The Tempo Letter Agreements permit PRIMESTAR Partners to apply its advances
to Tempo against any payments (other than the Exercise Fee) due under the
Tempo Option with respect to its purchase or lease of satellite capacity.
Although TSAT and PRIMESTAR Partners have not entered into an agreement
with respect to the purchase or lease of 100% of the capacity of the
proposed Tempo DBS system pursuant to the Tempo Option, TSAT believes that
its obligations to PRIMESTAR Partners with respect to such advances will be
satisfied in connection with the completion of such purchase or lease.
However, if notwithstanding the exercise of the Tempo Option such purchase
or lease of satellite capacity is not completed, TSAT believes that
alternative courses of action are available that would allow TSAT to
recover its costs of constructing the Tempo Satellites.
(10) Transactions with Related Parties
---------------------------------
Pursuant to the terms of the TSAT Merger Agreement, PRIMESTAR shall
reimburse TSAT for all reasonable costs and expenses incurred by TSAT (i)
to comply with its tax and financial reporting obligations, (ii) to
maintain certain insurance coverage and (iii) to maintain its status as a
publicly traded company. During the three months ended June 30, 1998, such
reimbursements aggregated $43,000. The effects of such reimbursements have
been reflected as a reduction of TSAT's investment in PRIMESTAR.
Prior to the Restructuring, the Partnership provided programming services
to the Company and other authorized distributors in exchange for a fee
based upon the number of subscribers receiving programming services. In
addition, the Partnership arranged for satellite capacity and uplink
services, and provided national marketing and administrative support
services in exchange for a separate authorization fee.
During 1997, TCI provided certain installation, maintenance, retrieval and
other customer fulfillment services to TSAT pursuant to a fulfillment
agreement (as amended, the "Fulfillment Agreement"). During the six months
ended June 30, 1997, TSAT's capitalized installation costs included amounts
charged by TCI to TSAT of $32,009,000. Maintenance, retrieval and other
operating expenses charged by TCI to TSAT aggregated $4,490,000 during the
six months ended June 30, 1997. The Fulfillment Agreement terminated on
December 31, 1997.
TCI also provided corporate administrative services to TSAT pursuant to a
transition services agreement (the "Transition Services Agreement").
Pursuant to the Transition Services Agreement, TSAT was required to pay TCI
a monthly fee of $1.50 per qualified subscriber up to a maximum of
$3,000,000 per month, and to reimburse TCI quarterly for direct, out-of-
pocket expenses incurred by TCI to third parties in providing the services.
Charges under the Transition Services Agreement aggregated $3,174,000 and
$9,919,000 during the six months ended June 30, 1998 and 1997,
respectively. The Transition Services Agreement was terminated in
connection with the consummation of the Restructuring.
During the six months ended June 30, 1998 and 1997, TSAT purchased from TCI
at TCI's cost certain telephony services aggregating $1,354,000 and
$4,255,000 respectively.
(continued)
I-13
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
Beginning in March 1997, and through the Closing Date, TCI provided TSAT
with customer support services from its Boise, Idaho call center ( the
"Boise Call Center"). The Boise Call Center responded to calls that
exceeded the capacity of TSAT's national call center. Amounts charged by
TCI to TSAT for such services aggregated $5,026,000 and $2,273,000 during
the six months ended June 30, 1998 and 1997, respectively.
Prior to the Restructuring, certain key employees of TSAT held stock
options in tandem with stock appreciation rights with respect to certain
common stock of TCI. Estimates of the compensation related to the options
and/or stock appreciation rights granted to employees of TSAT have been
recorded in the accompanying consolidated financial statements.
Compensation expense recognized by TSAT related to such options aggregated
$3,814,000 and $688,000 during the six months ended June 30, 1998 and 1997,
respectively.
(11) Income Taxes
------------
Through the Spin-off Date, TSAT's results of operations were included in
TCI's consolidated U.S. Federal income tax returns, in accordance with the
existing tax sharing arrangements among TCI and its consolidated
subsidiaries. Effective July 1, 1995, TCI, and certain subsidiaries of
TCI entered into a tax sharing agreement (the "Tax Sharing Agreement"),
which formalized such pre-existing tax sharing arrangements and implemented
additional provisions regarding the allocation of certain consolidated
income tax attributes and the settlement procedures with respect to the
inter-company allocation of current tax attributes. The Tax Sharing
Agreement encompasses U.S. Federal, state, local and foreign tax
consequences and relies upon the U.S. Internal Revenue Code of 1986, as
amended, (the "Code") and any applicable state, local and foreign tax law
and related regulations. In connection with the Spin-off, the Tax Sharing
Agreement was amended to provide that TSAT be treated as if it had been a
party to the Tax Sharing Agreement, effective July 1, 1995.
In connection with the Restructuring, TSAT and TCI entered into a tax
sharing agreement dated June 1997, to confirm that pursuant to the amended
Tax Sharing Agreement (i) neither TSAT nor any of its subsidiaries has any
obligation to indemnify TCI or the TCI shareholders for any tax resulting
from the Spin-off failing to qualify as a tax-free distribution pursuant to
Section 355 of the Code; (ii) TCI is obligated to indemnify TSAT and its
subsidiaries for any taxes resulting from the Spin-off failing to qualify
as a tax-free distribution pursuant to Section 355 of the Code; (iii) to
the best knowledge of TCI, TSAT's total payment obligation under the Tax
Sharing Agreement could not reasonably be expected to exceed $5 million;
and (iv) the sole agreement between TCI, on the one hand, and TSAT or any
of its subsidiaries, on the other, relating to taxes is the Tax Sharing
Agreement
TSAT recognized no income tax benefit during either of the six month
periods ended June 30, 1998 and 1997. As a result of the Spin-off, TSAT is
no longer a part of the TCI consolidated tax group, and accordingly, is
only able to realize income tax benefits for financial reporting purposes
to the extent that such benefits offset TSAT's income tax liabilities or
TSAT generates taxable income. For financial reporting purposes, all of
TSAT's income tax liabilities had been fully offset by income tax benefits
at June 30, 1998 and December 31, 1997. Additionally, during the first
several years following the Spin-off, TSAT believes that it will incur net
losses for income tax purposes, and accordingly, will not be in a position
to realize income tax benefits on a current basis
I-14
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition and
- ---------------------------------------------------------------
Results of Operations
---------------------
General
- -------
The following discussion and analysis provides information concerning the
financial condition and results of operations of TSAT and should be read in
conjunction with (i) the accompanying financial statements of TSAT, and (ii) the
financial statements, and related notes thereto, of TSAT, and Management's
------------
Discussion and Analysis of Financial Condition and Results of Operations
- ------------------------------------------------------------------------
included in TSAT's Annual Report on Form 10-K for the year ended December 31,
1997.
Certain statements in this Quarterly Report on Form 10-Q constitute "forward-
looking statements" within the meaning of the Private Securities Litigation
Reform Act of 1995. Such forward-looking statements involve known and unknown
risks, uncertainties and other important factors that could cause the actual
results, performance or achievements of TSAT, or industry results, to differ
materially from any future results, performance or achievements expressed or
implied by such forward-looking statements. Such risks, uncertainties and other
factors include, among others: general economic and business conditions and
industry trends; the continued strength of the multichannel video programming
distribution industry and the satellite services industry and the growth of
satellite delivered television programming; uncertainties inherent in proposed
business strategies, new product launches and development plans, including
uncertainties regarding possible regulatory issues under the Investment Company
Act of 1940, as amended (the "Investment Company Act"); the TSAT Merger; the
ASkyB Transaction; PRIMESTAR's high-power strategy; future financial
performance, including availability, terms and deployment of capital; the
ability of vendors to deliver required equipment, software and services;
availability of qualified personnel; changes in, or the failure or the inability
to comply with, government regulations, including, without limitation,
regulations of the FCC, and adverse outcomes from regulatory proceedings;
changes in the nature of key strategic relationships with partners and joint
venturers; competitor responses to PRIMESTAR's products and services, and the
overall market acceptance of such products and services, including acceptance of
the pricing of such products and services; and other factors referenced in this
Report. These forward-looking statements speak only as of the date of this
Report. TSAT expressly disclaims any obligation or undertaking to disseminate
any updates or revisions to any forward-looking statement contained herein to
reflect any change in TSAT's expectations with regard thereto or any change in
events, conditions or circumstances on which any such statement is based.
I-15
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Material Changes in Results of Operations
- -----------------------------------------
As described in note 2 to the accompanying consolidated financial
statements, the Restructuring was consummated on April 1, 1998. As a result of
such consummation, TSAT is a holding company whose primary assets are (i)
Tempo's authorizations granted by the FCC and other assets and liabilities
relating to a proposed direct broadcast system being constructed by Tempo and
(ii) its investment in PRIMESTAR. Until the consummation of the TSAT Merger (of
which there can be no assurance), TSAT's operations will consist primarily of
accounting and legal expenses incurred to maintain TSAT as a public company and
TSAT's share of PRIMESTAR's earnings or losses. PRIMESTAR is a significantly
larger entity than TSAT, and it is anticipated that PRIMESTAR will initially
incur significantly greater losses than TSAT due primarily to disproportionately
higher levels of depreciation, amortization and interest expense. In addition,
it is anticipated that PRIMESTAR will develop a high-power DBS service, and that
PRIMESTAR may determine to migrate some or all of the existing medium-power
PRIMESTAR(R) customers to such high-power service. Under such circumstances,
PRIMESTAR would necessarily be operating under a different cost structure than
that of TSAT's medium-power business. In addition, TSAT has entered into certain
binding agreements, including, among others, the TSAT Merger Agreement. Upon
consummation of the TSAT Merger, TSAT will be consolidated into PRIMESTAR and
TSAT will no longer be a separate public company. As closing of the TSAT Merger
is subject to regulatory and other conditions, no assurance can be given that
the TSAT Merger will be consummated.
TSAT recognized no income tax benefit during either of the six month
periods ended June 30, 1998 and 1997. TSAT is only able to realize income tax
benefits for financial reporting purposes to the extent that such benefits
offset TSAT's income tax liabilities or TSAT generates taxable income. For
financial reporting purposes, all of TSAT's income tax liabilities had been
fully offset by income tax benefits at June 30, 1998 and December 31, 1997.
Additionally, TSAT believes that it will incur net losses for income tax
purposes for several years, and accordingly, will not be in a position to
realize income tax benefits on a current basis.
Material Changes in Financial Position
- --------------------------------------
As a holding company, TSAT's ability to satisfy any liabilities or
obligations is dependent solely upon the earnings of Tempo and PRIMESTAR and the
distribution or the payment of such earnings to TSAT in the form of dividends,
loans or other advances. Moreover, during the term of the TSAT Merger
Agreement, TSAT will be subject to the covenants provided for therein, including
limitations on TSAT's ability to conduct business activities, incur liabilities,
and acquire or dispose of assets. The payment of dividends or the making of
loans or advances to TSAT by Tempo and PRIMESTAR may be subject to statutory,
regulatory or contractual restriction, will be contingent upon the earnings of
those subsidiaries and affiliates, and will be subject to various business
considerations. Moreover, TSAT does not control PRIMESTAR, and PRIMESTAR has no
obligation, contingent or otherwise, to make any funds available to TSAT,
whether by dividends, loans or other payments (except for the obligation of
PRIMESTAR to reimburse TSAT for certain financial reporting, legal, accounting
and other obligations of TSAT as a public company, as provided in the TSAT
Merger Agreement). In addition, PRIMESTAR is subject to loan agreements that
prohibit or limit the transfer of funds to TSAT in the form of dividends, loans,
or advances and/or require that any indebtedness of such subsidiaries or
affiliates of TSAT be subordinate to the indebtedness under such loan
agreements.
I-16
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
Material Changes in Financial Position, continued
- -------------------------------------------------
TSAT's right to participate in the distribution of assets of either
PRIMESTAR or Tempo upon the liquidation or reorganization of such entity would
be subject to the prior claims of the creditors of such entity, including trade
creditors, except to the extent that TSAT may itself be a creditor with
recognized claims against such entity.
Consummation of the TSAT Merger is subject to regulatory and other
conditions, including the right of PRIMESTAR to terminate the TSAT Merger
Agreement under certain circumstances. Accordingly, there can be no assurance
that the TSAT Merger will be consummated. If the TSAT Merger is not consummated
then TSAT will continue to be subject to the risks associated with operating as
a holding company including possible regulation under the Investment Company
Act. TSAT does not currently intend to be an investment company within the
meaning of the Investment Company Act. TSAT has made no decision as to what
course of action it would pursue if the TSAT Merger is not consummated.
Certain contingent liabilities of TSAT related to (i) indemnification
agreements entered into between TSAT and TCI and (ii) other obligations were
assumed by PRIMESTAR in connection with the Restructuring.
I-17
<PAGE>
TCI SATELLITE ENTERTAINMENT, INC. AND SUBSIDIARIES
PART II - OTHER INFORMATION
Item 2. Changes in Securities.
- ------- ----------------------
During the three months ended June 30, 1998, TSAT issued 2,554 shares
of Series A Common Stock to TCI for aggregate consideration of $2,554.
Such shares were issued pursuant to a "Share Purchase Agreement"
between TSAT and TCI to allow TCI to meet its obligations under the
conversion features of certain convertible securities of TCI. The
issuance was made in reliance on the exemption from registration
afforded by Section 4(2) of the Securities Act.
Item 6. Exhibits and Reports on Form 8-K.
- ------ --------------------------------
(a) Exhibit
27 - Financial Data Schedule
(b) Report on Form 8-K filed during quarter ended June 30, 1998 -
Financial
Date of Items Statements
Report Reported Filed
------ -------- -----
April 15, 1998 Item 2 and Item 7 None
II-1
<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 by the
undersigned thereunto duly authorized.
TCI SATELLITE ENTERTAINMENT, INC.
Date: August 13, 1998 By: /s/ Gary S. Howard
--------------------------------
Gary S. Howard
Chief Executive Officer
Date: August 13, 1998 By: /s/ Kenneth G. Carroll
--------------------------------
Kenneth G. Carroll
Senior Vice President and
Chief Financial Officer
(Principal Financial Officer)
Date: August 13, 1998 By: /s/ Scott D. Macdonald
--------------------------------
Scott D. Macdonald
Vice President and Controller
(Chief Accounting Officer)
II-2
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM TCI
SATELLITE ENTERTAINMENT INC.'S QUARTERLY REPORT ON FORM 10-Q FOR THE QUARTER
ENDED JUNE 30, 1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
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<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> JUN-30-1998
<CASH> 0
<SECURITIES> 0
<RECEIVABLES> 0
<ALLOWANCES> 0
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<CURRENT-ASSETS> 0
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<COMMON> 67,745
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<OTHER-EXPENSES> 65,105
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<INTEREST-EXPENSE> 14,177
<INCOME-PRETAX> (102,096)
<INCOME-TAX> 0
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