SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED SEPTEMBER 30, 1998
Commission file number 000-22085
LORAL ORION, INC.
(Exact name of registrant as specified in its charter)
Delaware 52-2008654
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(State or other jurisdiction of (I.R.S. Employer
incorporation or organization No. ) Identification)
2440 Research Boulevard, Suite 400, Rockville, Maryland 20850
- ------------------------------------------------------- -----
(Address of principal executive offices) (Zip Code)
(301) 258-8101
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(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 __
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INDEX
LORAL ORION, INC.
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PAGE
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements (unaudited)
Condensed Consolidated Balance Sheets --- September 30, 1998 and December 31, 1997
(Predecessor Company).......................................................................... 3
Condensed Consolidated Statements of Operations --- Three and six months ended
September 30, 1998; three months ended September 30, 1997 and March 31, 1998
and nine months ended September 30, 1997 (Predecessor Company)................................. 5
Condensed Consolidated Statements of Cash Flows --- Six months ended
September 30, 1998; three months ended March 31, 1998 and nine months ended
September 30, 1997 (Predecessor Company)....................................................... 6
Notes to Condensed Consolidated Financial Statements........................................... 7
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Opera tions................................................................................. 10
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K............................................................... 17
Signature............................................................................................... 18
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PART I. FINANCIAL INFORMATION
ITEM I. FINANCIAL STATEMENTS
LORAL ORION, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
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<CAPTION>
DECEMBER 31,
-------------------
1997
SEPTEMBER 30, PREDECESSOR
1998 COMPANY
---------------- -----------------
(unaudited) Note
ASSETS
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Current assets:
Cash $ 57,005 $ 70,009
Restricted assets 50,180 50,064
Accounts receivable 14,323 11,781
Prepaid expenses and other current assets 5,272 6,846
---------------- -----------------
Total current assets 126,780 138,700
Restricted and segregated assets, including accrued interest of
approximately $1.0 million and $3.7 million at September 30, 1998 21,604 306,826
and December 31, 1997, respectively
Property and equipment at cost:
Land 74 74
Satellite and related equipment 255,188 322,159
Telecommunications equipment 32,028 40,654
Furniture and computer equipment 10,225 8,627
---------------- -----------------
297,515 371,514
Less, accumulated depreciation (25,876) (77,080)
Satellite construction in progress, including capitalized
interest of $13.2 million and $7.3 million at September 30, 1998
and December 31, 1997, respectively 322,319 106,843
---------------- -----------------
Net property and equipment 593,958 401,277
Due from Loral 6,366 --
Deferred financing costs, net 20,058 22,510
Costs in excess of net assets acquired associated with the Loral Merger, net 597,571 --
Deferred income taxes 49,769 --
Other assets, net 6,226 27,179
---------------- -----------------
TOTAL ASSETS $ 1,422,332 $ 896,492
================ =================
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Note: The December 31, 1997 Balance Sheet has been derived from the audited
consolidated financial statements at that date.
3
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LORAL ORION, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS (CONTINUED)
(IN THOUSANDS, EXCEPT SHARE DATA)
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DECEMBER 31,
-------------------
1997
SEPTEMBER 30, PREDECESSOR
1998 COMPANY
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(unaudited) Note
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
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Current liabilities:
Accounts payable $ 1,193 $ 5,231
Accrued liabilities 32,021 10,595
Other current liabilities 8,889 7,130
Interest payable 10,386 24,772
Current portion of long-term debt 2,020 6,405
---------------- ----------------
Total current liabilities 54,509 54,133
Long-term debt 908,593 790,671
Other liabilities 34,288 21,803
Redeemable preferred stock -- 76,734
Stockholders' equity (deficit):
Common stock, $.01 par value, 1,000 and 40,000,000 shares
authorized; 100 and 15,959,089 shares outstanding -- 160
Capital in excess of par value 478,511 153,294
Treasury stock, 0 and 269,274 shares at September 30, 1998 and
December 31,1997, respectively -- (91)
Unearned compensation (3,850) --
Cumulative translation adjustment (350) (956)
Accumulated deficit (49,369) (199,256)
---------------- -----------------
Total stockholders' equity (deficit) 424,942 (46,849)
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TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) $ 1,422,332 $ 896,492
================ =================
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
Note: The December 31, 1997 Balance Sheet has been derived from the audited
consolidated financial statements at that date.
4
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LORAL ORION, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS)
(UNAUDITED)
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<CAPTION>
THREE MONTHS SIX MONTHS THREE MONTHS NINE MONTHS
ENDED ENDED ENDED ENDED
SEPTEMBER 30, SEPTEMBER 30, MARCH 31, SEPTEMBER 30,
------------- ------------- --------- -------------
1998 1997 1998 1998 1997
PREDECESSOR PREDECESSOR PREDECESSOR
COMPANY COMPANY COMPANY
-------------- ----------- -------------- ----------- -----------
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REVENUE $ 21,153 $ 17,619 $ 41,396 $ 18,790 $ 54,539
OPERATING EXPENSES:
Direct 7,265 6,312 14,277 6,406 19,691
Sales and marketing 5,186 4,820 11,986 5,790 13,381
Engineering and technical services 2,779 1,792 4,328 1,898 5,415
General and administrative 3,351 3,839 7,308 3,707 10,732
Depreciation and amortization 16,327 12,127 32,443 12,483 35,823
Merger costs 196 -- 301 12,145 --
-------- -------- -------- -------- --------
Total operating expenses 35,104 28,890 70,643 42,429 85,042
-------- -------- -------- -------- --------
LOSS FROM OPERATIONS (13,951) (11,271) (29,247) (23,639) (30,503)
OTHER (INCOME) EXPENSE:
Interest income (2,427) (6,124) (7,574) (5,425) (18,254)
Interest expense 14,996 22,331 32,748 21,190 62,291
Other (219) 32 (120) 287 605
-------- -------- -------- -------- --------
Total other (income) expense 12,350 16,239 25,054 16,052 44,642
-------- -------- -------- -------- --------
Loss before taxes, extraordinary loss on
extinguishment of debt, minority interest and
preacquisition loss of acquired subsidiary (26,301) (27,510) (54,301) (39,691) (75,145)
Income tax benefit (expense) (3,313) -- 4,932 -- --
Extraordinary loss on extinguishment of debt -- -- -- -- (15,763)
Limited Partners' and minority interest in the net loss
of Orion Atlantic and other consolidated entities -- -- -- -- 12,043
Preacquisition loss of acquired subsidiary -- -- -- -- 626
-------- -------- -------- -------- --------
NET LOSS (29,614) (27,510) (49,369) (39,691) (78,239)
Preferred stock dividend and accretion, net of
forfeitures -- 2,309 -- (1,387) 6,281
-------- -------- -------- -------- --------
Net loss attributable to common stockholders $(29,614) $(29,819) $(49,369) $(38,304) $(84,520)
======== ======== ======== ======== ========
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
5
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LORAL ORION, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
(UNAUDITED)
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THREE MONTHS NINE MONTHS
SIX MONTHS ENDED ENDED
ENDED MARCH 31, 1998 SEPTEMBER 30, 1997
SEPTEMBER 30, 1998 PREDECESSOR COMPANY PREDECESSOR COMPANY
------------------ ------------------- -------------------
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OPERATING ACTIVITIES
Net loss $ (49,369) $ (39,691) $ (78,239)
Adjustments to reconcile net loss to net cash used in operating
activities:
Extraordinary loss on extinguishment of debt -- -- 15,763
Deferred taxes 2,231 -- --
Depreciation and amortization 32,443 12,483 35,823
Amortization of deferred financing costs 1,303 609 2,382
Provision for bad debts 650 150 797
Non cash interest expense 15,276 10,292 27,625
Interest earned on restricted assets (5,825) (4,629) (2,616)
Other -- 1,644 --
Limited Partners' and minority interest in the net loss of
Orion Atlantic and other consolidated entities -- -- (12,043)
Changes in operating assets and liabilities:
Accounts receivable (1,934) (1,408) (1,533)
Prepaid expenses and other current assets (5,170) 4,388 (3,506)
Other assets 188 201 (2,743)
Accounts payable and accrued liabilities 19,834 (2,199) (3,224)
Other current liabilities 1,427 333 1,889
Interest payable (53) (11,754) 1,848
Deferred revenue 12,000 -- 12,250
Due from Loral (6,366) -- --
--------- --------- ---------
Net cash provided by (used in) operating activities 16,635 (29,581) (5,527)
INVESTING ACTIVITIES
Capital expenditures (10,794) (3,805) (11,924)
Increase in restricted and segregated assets (12,000) -- (357,182)
Uses of and transfers from restricted and segregated assets 276,123 31,962 --
Satellite construction costs, including capitalized interest (261,394) (14,575) (80,600)
Purchase of Teleport Europe GmbH, net of cash acquired -- -- (8,375)
Other -- -- (183)
--------- --------- ---------
Net cash provided by (used in) investing activities (8,065) 13,582 (458,264)
FINANCING ACTIVITIES
Debt and equity financing costs -- -- (25,959)
Proceeds from issuance of common stock -- 2,117 1,325
Proceeds from issuance of debt -- -- 770,397
Repayment of senior notes payable and notes payable (534) (254) (215,581)
Swap termination fee -- -- (5,288)
Payment of satellite incentive obligations (5,461) (1,302) (16,867)
Other 629 (770) (3,613)
--------- --------- ---------
Net cash (used in) provided by financing activities (5,366) (209) 504,414
Net increase (decrease) in cash and cash equivalents 3,204 (16,208) 40,623
Cash and cash equivalents at beginning of period 53,801 70,009 42,188
--------- --------- ---------
Cash and cash equivalents at end of period $ 57,005 $ 53,801 $ 82,811
========= ========= =========
</TABLE>
See Notes to Condensed Consolidated Financial Statements.
6
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LORAL ORION, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE A. BASIS OF PRESENTATION
BUSINESS AND OWNERSHIP
Loral Orion, Inc., (the "Company" or "Loral Orion"), formally Loral Orion
Network Systems, Inc., is a holding company with no assets or operations other
than its investments in its subsidiaries. Through the operations of its
Subsidiary Guarantors, the Company's principal business is the provision of
satellite-based communications services. Each of the Subsidiary Guarantors is a
wholly-owned (100%) subsidiary of the Company. The Subsidiary Guarantors
comprise all of the direct and indirect subsidiaries of the Company (other than
inconsequential subsidiaries).
GENERAL
The accompanying unaudited condensed consolidated financial statements have been
prepared by the Company pursuant to the rules of the Securities and Exchange
Commission ("SEC") and, in the opinion of the Company, include all adjustments
(consisting of normal recurring accruals) necessary for a fair presentation of
results of operations, financial position and cash flows. Certain information
and footnote disclosures normally included in financial statements prepared in
accordance with generally accepted accounting principles have been condensed or
omitted pursuant to such SEC rules. The Company believes that the disclosures
made are adequate to keep the information presented from being misleading. The
results of operations for the six months ended September 30, 1998 and the three
months ended March 31, 1998 are not necessarily indicative of the results to be
expected for the full year. It is suggested that these financial statements be
read in conjunction with the audited consolidated financial statements and notes
thereto of Orion Network Systems', Inc. latest annual report on Form 10-K.
RECENT DEVELOPMENTS
ACQUISITION OF THE COMPANY BY LORAL
On March 20, 1998, Orion Network Systems, Inc. ("Orion") was acquired by Loral
Space & Communications Ltd. ("Loral"), through the merger (the "Merger") of a
wholly owned subsidiary of Loral, Loral Satellite Corporation ("Merger Sub"),
with and into Orion. Loral consummated the acquisition by issuing 17.9 million
shares of its common stock and assuming existing Orion options and warrants to
purchase 1.9 million shares of Loral common stock representing an aggregate
purchase price of $469 million. Orion was the surviving corporation (the
"Surviving Corporation") of the Merger and thereby became a subsidiary of Loral.
At the effective date of the Merger, Loral contributed its investment in Orion
to Loral Space & Communications Corporation, a wholly owned subsidiary of Loral,
and Orion changed its name to "Loral Orion Network Systems, Inc." The name has
since been changed to "Loral Orion, Inc."
Following the Merger, the capital stock of Loral Orion ceased to be publicly
traded. However, the Company continues to have registered bonds outstanding and
will continue to have filing requirements with the SEC.
The foregoing description of the Merger does not purport to be complete and is
qualified in its entirety by the terms and conditions of the Merger Agreement,
filed as Exhibits 2.1 and 2.2 to Registration Statement No. 333-46407 on Form
S-4.
7
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LORAL ORION, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE A. BASIS OF PRESENTATION (CONTINUED)
For accounting purposes, the Merger was accounted for as of March 31, 1998 using
the purchase method. Accordingly, the condensed consolidated balance sheet at
March 31, 1998 reflected the push-down of the purchase price allocations (based
on preliminary estimates and subject to adjustment) to the assets and
liabilities (including an increase of $148.6 million to the carrying value of
the Senior Notes and Senior Discount Notes, based on quoted market prices) of
Orion at that date and a related increase in deferred tax assets of $52.0
million. The cost in excess of net assets acquired ($597.6 million) is being
amortized over 40 years using the straight-line method.
Had the acquisition of the Company occurred on January 1, 1997, the unaudited
pro forma sales, operating loss and net loss applicable to common stockholders
for the nine months ended September 30, 1998 and 1997 would have been $60.2
million and $54.5 million; $44.1 million and $41.5 million; and $67.7 million
and $54.2 million, respectively. These results, which are based on various
assumptions are not necessarily indicative of what would have occurred had the
acquisition been consummated on January 1, 1997.
COMPREHENSIVE INCOME
As of January 1, 1998, the Company adopted Statement of Financial Accounting
Standards No. 130 (SFAS 130), "Reporting Comprehensive Income". SFAS 130
established new rules for the reporting and display of comprehensive income and
its components. SFAS 130 requires unrealized gains or losses on the Company's
foreign currency translation adjustments, to be included in other comprehensive
income.
Total comprehensive loss for the six months ended September 30, 1998, three
months ended March 31, 1998 and nine months ended September 30, 1997 are as
follows (in thousands):
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<CAPTION>
THREE MONTHS NINE MONTHS
ENDED ENDED
SIX MONTHS MARCH 31, 1998 SEPTEMBER 30, 1997
ENDED PREDECESSOR PREDECESSOR
SEPTEMBER 30, 1998 COMPANY COMPANY
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Net loss $ (49,369) $ (39,691) $ (78,239)
Cumulative translation
adjustment (350) -- (742)
------------------ ------------------ -------------------
Comprehensive loss $ (49,719) $ (39,691) $ (78,981)
================== ================== ===================
</TABLE>
EARNINGS PER SHARE
Earnings per share is not presented since it is not considered meaningful due to
the Merger with Loral and recapitalization of the Company.
8
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LORAL ORION, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
NOTE B. LONG-TERM DEBT
Long-term debt consists of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
1997
SEPTEMBER 30, PREDECESSOR
1998 COMPANY
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<S> <C> <C>
Senior notes (net of premium of $58.4 million at September 30, 1998
and unamortized discount of $4.9 million at December 31, 1997) $ 503,422 $ 440,100
Senior discount notes (maturity value of $484 million) 397,878 292,337
Convertible junior subordinated debentures -- 50,000
Notes payable - TT&C Facility 5,233 6,022
Satellite incentive obligations 3,027 6,479
Other 1,053 2,138
------------- -------------
Total long-term debt 910,613 797,076
Less: current portion 2,020 6,405
------------- -------------
Long-term debt less current portion $ 908,593 $ 790,671
============= =============
</TABLE>
In connection with the Merger, Loral did not assume Orion's Senior Notes or
Senior Discount Notes. Such debt remains outstanding and is non-recourse to
Loral. The carrying value of Orion's Senior Notes and Senior Discount Notes was
increased to reflect a fair value adjustment of $148.6 million in connection
with the Merger, based on quoted market prices at March 31, 1998.
NOTE C. REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (DEFICIT)
Prior to March 31, 1998, all of the redeemable convertible preferred stock
outstanding at December 31, 1997, including accrued dividends on the Series C
Preferred Stock, have been converted to approximately 6.1 million shares of
common stock at prices ranging from $8.50 to $17.50 per share.
NOTE D. INCOME TAXES
The Company is included in the consolidated U.S. Federal income tax return of
for 1998 Loral Space & Communications Corporation. Pursuant to a tax sharing
agreement for 1998 with Loral Space & Communications Corporation, the Company is
entitled to reimbursement for the use of its tax losses when such losses are
utilized by the consolidated group. For the six months ended September 30, 1998,
the Company recorded a receivable under this tax sharing agreement of
approximately $7.1 million and a deferred tax provision of $2.2 million. The
deferred tax asset of $49.8 million on the accompanying balance sheet arises
from the tax effect of the temporary differences between the carrying amount of
the Senior Notes and the Senior Discount Notes payable for financial and income
tax purposes.
NOTE E. RECLASSIFICATIONS
Certain prior period amounts have been reclassified to conform to the current
period presentation.
9
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LORAL ORION, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Except for the historical information contained herein, the matters discussed in
this Management's Discussion and Analysis of Financial Condition and Results of
Operations, and elsewhere in this Form 10-Q, are forward-looking statements
within the meaning of Section 27A of the Securities Act of 1933, as amended, and
Section 21E of the Securities Exchange Act of 1934, as amended. In addition,
from time to time, Loral Orion or their representatives have made or may make
forward-looking statements, orally or in writing. Such forward-looking
statements may be included in, but are not limited to, various filings made by
Loral Orion with the Securities and Exchange Commission, press releases or oral
statements made by or with the approval of an authorized executive officer of
Loral Orion. Actual results could differ materially from those projected or
suggested in any forward-looking statements as a result of a wide variety of
factors or conditions. See the section of Orion Network System's, Inc. Annual
Report on Form 10-K for the fiscal year ended December 31, 1997, entitled
"Forward Looking Statements".
GENERAL
The Company's principal business is providing satellite communications for
private communications networks and video distribution and other satellite
transmission services.
No restrictions exist on the ability of Subsidiary Guarantors to pay dividends
or make other distributions to the Company, except to the extent provided by law
generally (e.g., adequate capital to pay dividends under state corporate laws).
ORION 2 AND ORION 3
Orion 2. During the second quarter, the Company entered into a satellite
procurement contract with Space Systems/Loral ("SS/L"), a wholly owned
subsidiary of Loral, for the construction and launch of the Orion 2 satellite
for operation in the Atlantic Ocean region at 12(degree) W.L. (the "SS/L
Contract"). The SS/L Contract provides for delivery in-orbit of the Orion 2
aboard an Ariane 44L launch vehicle by June 30, 1999. The SS/L satellite design
provides for 38 Ku-band transponders with a footprint covering the Eastern
United States, Southeastern Canada, Europe, the Commonwealth of Independent
States, the Middle East, North and South Africa and South America.
The Company also notified Matra Marconi Space ("Matra") that it cancelled its
satellite procurement contract with Matra for the construction and launch of a
satellite for operation in the Atlantic Ocean region at 12(degree) W.L. (the
"Matra Contract"). As a result of the cancellation of the Matra Contract, the
Company will have no obligation to make further payments to Matra, but Matra
will be entitled to retain amounts previously paid by the Company of $49.1
million.
The Company believes that the Orion 2 satellite being procured from SS/L offers
significant benefits compared to the Matra satellite. Orion's cash will be used
to fund the SS/L Contract up to an amount that when added to the amounts
previously paid to Matra, will not exceed $202 million, the total amount that
would otherwise have been due to Matra if the Matra Contract had not been
canceled. Any requirements to SS/L in excess of $202 million for Orion 2 will be
funded with additional equity contributed from Loral. Moreover, the
SS/L-designed satellite is both larger and more powerful than the Matra-designed
satellite. The SS/L satellite will have 8 additional transponders and will
provide greater transmitted power to Orion's customers. The expected in-orbit
life of the SS/L satellite is approximately 16 years compared to 13 years for
the Matra satellite. The SS/L satellite is designed to provide enhanced
transponder switching capabilities as compared to the Matra satellite and also
allows for both uplinking and downlinking of transmissions from South Africa,
while the Matra satellite would not have allowed for uplinking.
Orion 3. The Company entered into a satellite contract with Hughes Space and
Communications International, Inc. in 1997 for the construction and launch of
Orion 3. The contract provides for delivery in orbit of Orion 3 by the first
quarter of 1999, for a firm fixed price of $208 million excluding launch
insurance and performance incentives.
10
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LORAL ORION, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Pre-Construction Lease on Orion 3. The Company has entered into a contract with
DACOM Corp., a Korean communications company ("DACOM"), under which DACOM will,
subject to certain conditions, lease eight dedicated transponders on Orion 3 for
13 years, in return for approximately $89 million, payable over a period from
December 1996 through seven months following the lease commencement date for the
transponders (which is scheduled to occur by May 1999). Payments are subject to
refund if Orion 3 fails to commence commercial operation by June 30, 1999.
Through September 30, 1998, the Company has received $35.1 million from DACOM.
Satellite Launch and Operation Risk. There can be no assurance that Orion 2 or
Orion 3 will be successfully launched or operate in accordance with their
design. While the Company intends to procure launch insurance for the
satellites, a total or partial loss of either satellite will involve delays and
loss of revenue which will impair the Company's ability to service its
indebtedness, including the Notes, and such insurance will not protect the
Company against business interruption, loss or delay of revenues or similar
losses and may not fully reimburse the Company for its expenditures.
OVERVIEW
The Company's revenues are principally generated from two to five year contracts
for delivery of communications services derived principally from recurring
monthly fees from its customers. The revenues from each contract vary, depending
upon the type of service, amount of capacity, data handling ability of the
network, the number of very small aperture terminals ("VSATs") (which generally
are owned by the Company), value-added services and other factors. Substantially
all of the Company's contracts are denominated in U.S. dollars. The Company
begins to record revenues under its contracts upon service commencement to the
customer.
The services provided by the Company have been subject to decreasing prices over
recent years due to increased competition. This pricing pressure is expected to
continue (and may accelerate) for the foreseeable future, particularly if, as
expected, capacity continues to increase. The Company will need to increase its
volume of sales in order to compensate for such price reductions. The Company
believes that customers will increase the data speed in their communications
networks to support new applications, and that such upgrading of customer
networks will lead to increased revenues that will mitigate the effect of price
reductions. However, there can be no assurance that this will occur. The Company
expects to continue to incur net losses and have negative cash flow (after
payments for capital expenditures and interest) for the foreseeable future.
The Company's direct cost of services includes principally (i) costs relating to
the installation, maintenance and licensing of VSAT earth stations at its
customers' premises; (ii) satellite lease payments for transponder capacity
(generally for services outside of the Orion 1 footprint); (iii) in-orbit
insurance premiums; and (iv) personnel costs and travel related to TT&C, network
monitoring, network design and similar activities. These costs will increase as
the Company's business grows. Sales and marketing expenses consist of salaries,
sales commissions (including commissions to third party sales representatives),
travel and promotional expenses. The Company commenced a significant expansion
of its marketing program in 1997 which has continued in 1998. Due to the
complexity of the Company's services, and the continued expansion of sales
personnel, sales and marketing expenses increased significantly during the nine
months of 1998 and they are expected to increase through the remainder of 1998.
General and administrative expenses consist of personnel costs other than for
selling and engineering and include information systems, professional services,
and occupancy costs. These costs will increase generally as the Company's
operations expand. Depreciation and amortization expenses result mainly from the
depreciation of the Orion 1 satellite, goodwill amortization and the
depreciation of VSATs and the related equipment to service the expansion of the
private network communication services business. Interest income is primarily
the result of interest earned on the proceeds from the Company's debt and equity
offerings. Interest costs stem primarily from the Company's outstanding Senior
Notes and Senior Discount Notes.
11
<PAGE>
LORAL ORION, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
RESULTS OF OPERATIONS
Acquisition of Teleport Europe GmbH. On March 26, 1997, the Company acquired
German-based Teleport Europe GmbH (a communications company specializing in
private satellite networks for voice and data services), whose name was
subsequently changed to Loral Orion-Europe GmbH ("Orion Europe"). The Company
has consolidated the operations of Orion Europe for the nine months ended
September 30, 1997, retroactively to January 1, 1997. The effect of this
consolidation on operations prior to acquisition was to increase consolidated
revenues by approximately $4.1 million, increase total operating expenses by
approximately $4.0 million and other expenses by approximately $0.7 million. The
preacquisition loss of Orion Europe of $0.6 million has been deducted from the
consolidated statement of operations for the nine months ended September 30,
1997.
On March 20, 1998, Orion Network Systems, Inc. ("Orion") was acquired by Loral
Space & Communications Ltd. ("Loral"), through the merger (the "Merger") of a
wholly owned subsidiary of Loral, Loral Satellite Corporation ("Merger Sub"),
with and into Orion. Loral consummated the acquisition by issuing 17.9 million
shares of its common stock and assuming existing Orion options and warrants to
purchase 1.9 million shares of Loral common stock representing an aggregate
purchase price of $469 million. Orion was the surviving corporation (the
"Surviving Corporation") of the Merger and thereby became a wholly owned
subsidiary of Loral. At the effective date of the Merger, Loral contributed its
investment in Orion to Loral Space & Communications Corporation, a wholly owned
subsidiary of Loral, and Orion changed its name to "Loral Orion Network Systems,
Inc." The name has since been changed to "Loral Orion, Inc."
For accounting purposes, the Merger was accounted for as of March 31, 1998 using
the purchase method. Accordingly, the condensed consolidated balance sheet at
March 31, 1998 reflected the push-down of the purchase price allocations (based
on preliminary estimates and subject to adjustment) to the assets and
liabilities (including an increase of $148.6 million to the carrying value of
the Senior Notes and Senior Discount Notes, based on quoted market prices) of
Orion at that date and a related increase in deferred tax assets of $52.0
million. The cost in excess of net assets acquired ($597.6 million) is being
amortized over 40 years using the straight-line method.
Had the acquisition of the Company occurred on January 1, 1997, the unaudited
pro forma sales, operating loss and net loss applicable to common stockholders
for the nine months ended September 30, 1998 and 1997 would have been $60.2
million and $54.5 million; $44.1 million and $41.5 million; and $67.7 million
and $54.2 million, respectively. These results, which are based on various
assumptions are not necessarily indicative of what would have occurred had the
acquisition been consummated on January 1, 1997.
In order to provide an understanding of the Company, the results of operations
discusses the actual results for the three months ended September 30, 1998 and
September 30, 1997; and the pro forma results of operations for the nine months
ended September 30, 1998 compared with the pro forma results of operations for
the nine months ended September 30, 1997.
Revenue and Backlog. Total revenues for the three months ended September 30,
1998 and 1997 were $21.2 million and $17.6 million, an increase of $3.6 million
or 20 percent. This increase is primarily attributable to the private
communications network services operations which included the addition of 132
customer sites in service compared to the same period in 1997. The pro forma
revenues for the nine months ended September 30, 1998 and 1997 were $60.2
million and $54.5 million, an increase of $5.7 million or 10 percent, which is
attributable to the additional installed customer sites in service for private
communications network services for the nine month period ended September 30,
1998 compared to the same period in 1997.
At September 30, 1998, the Company had a customer contract backlog (representing
future revenues under contract) of approximately $299.7 million compared to
$254.1 million at September 30, 1997, an increase of 18 percent. Revenue from
customer contract backlog is typically earned over two to five years.
12
<PAGE>
LORAL ORION, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
OPERATING EXPENSES
Direct Expenses. Direct expenses for the three months ended September 30, 1998,
were $7.3 million compared to $6.3 million for the same period in 1997, an
increase of $1.0 million or 16 percent. This increase was primarily attributable
to Internet access and terrestrial link charges in support of the Worldcast
Internet access product which provides international internet connectivity
through the Orion 1 satellite and additional maintenance costs associated with
growth in the installed customer base of private networks. Direct expenses for
the pro forma nine months ended September 30, 1998 and 1997 were $20.7 million
and $19.7 million, respectively.
Sales and Marketing Expenses. Sales and marketing expenses were $5.2 million for
the three months ended September 30, 1998, as compared to $4.8 million for the
same period in 1997, an increase of $0.4 million or 8 percent. Sales and
marketing expenses for the pro forma nine months ended September 30, 1998 and
1997 were $17.8 million and $13.4 million, an increase of $4.4 million or 33
percent. These increases primarily relate to additional sales salaries and
commissions, independent contractor fees and advertising associated with the
growth in the private communications network service business and Worldcast. The
Company expects the increase in sales and marketing expenses to continue for the
remainder of 1998.
Engineering and Technical Services Expenses. Engineering and technical services
expenses for the three months ended September 30, 1998 were $2.8 million
compared to $1.8 million for the same period in 1997. Engineering and technical
services expenses for the pro forma nine months ended September 30, 1998 and
1997 were $6.2 million and $5.4 million, respectively. These increases are
primarily due to additional salaries associated with support of Worldcast
Internet.
General Administrative Expenses. General and administrative expenses were $3.4
million for the three months ended September 30, 1998, compared to $3.8 million
for the same period in 1997. General and administrative expenses for the pro
forma nine months ended September 30, 1998 and 1997 were $11.0 million and $10.7
million, respectively.
Depreciation and Amortization. Depreciation and amortization expense for the
three months ended September 30, 1998 were $16.3 million compared to $12.1
million for the same period in 1997, an increase of $4.2 million or 35 percent.
Depreciation and amortization expense for the pro forma nine months ended
September 30, 1998 and 1997 were $48.3 million and $46.8 million, an increase of
$1.9 million or 4 percent. These increases were primarily the result of
depreciation of ground equipment to service the expansion of the private network
communication services business and amortization of costs in excess of assets
acquired and unearned compensation associated with the acquisition of the
Company by Loral.
Interest. Interest income was $2.4 million for the three months ended September
30, 1998, compared to $6.1 million for the same period in 1997. Interest income
for the pro forma nine months ended September 30, 1998 and 1997 were $13.0
million and $18.3 million, respectively. The decrease in interest income is due
to a reduction in the balance held in the Company's segregated funds, which were
used for the construction of satellites. Interest expense, net of capitalized
interest of $6.1 million and $2.0 million, respectively, was $15 million for the
three months ended September 30, 1998, and $22.3 million for the comparable
period in 1997. The decrease in interest expense for the three months ended
September 30, 1998 is due to additional capitalized interest costs attributable
to the two satellites under construction, redemption of the convertible
debentures and amortization of the fair value adjustment of the outstanding
debt. Interest expense for the pro forma nine months ended September 30, 1998
and 1997 were $49.3 million and $54.5 million, respectively.
13
<PAGE>
LORAL ORION, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
Income Taxes. The Company is included in the consolidated U.S. Federal income
tax return of Loral Space & Communications Corporation. Pursuant to a tax
sharing agreement for 1998 with Loral Space & Communications Corporation, the
Company is entitled to reimbursement for the use of its tax losses when such
losses are utilized by the consolidated group. For the six months ended
September 30, 1998, the Company recorded a receivable under this tax sharing
agreement of approximately $7.1 million and a deferred tax provision of $2.2
million. The deferred tax asset of $49.8 million on the accompanying balance
sheet arises from the tax effect of the temporary differences between the
carrying amount of the Senior Notes and the Senior Discount Notes payable for
financial and income tax purposes.
Net Loss. As a result of the above, the Company incurred net losses of $18.5
million and $27.5 million for the three months ended September 30, 1998 and
1997. Net losses for the pro forma nine months ended September 30, 1998 and 1997
were $56.7 million and $54.2 million, respectively.
LIQUIDITY AND CAPITAL RESOURCES
Existing Capital Resources. As of September 30, 1998, the Company had cash and
cash equivalents of $57.0 million and restricted assets of $71.8 million,
including $70.8 million plus accrued interest of $1.0 million placed in a
pledged account (to pre-fund the next three interest payments on the Senior
Notes).
While the Company believes its existing resources are adequate to fund its needs
for the remainder of 1998, based upon its current expectations for growth, the
Company anticipates it will have additional funding requirements over the next
three years to fund the purchase of VSATs, other capital expenditures and other
capital needs. Interest charges on the Senior Notes are fully provided for by
restricted cash through January 2000.
The in-orbit delivered costs of the Orion 2 and Orion 3 satellites are expected
to aggregate approximately $356.5 million, of which $301.2 million has been
incurred by the Company through September 30, 1998. The Company will need to
make additional payments of approximately $13.0 million and $42.3 million in
1998 and 1999, respectively. These amounts exclude the cost of launch insurance
and $8.0 million of incentive payments for Orion 3 payable over 15 years from
the date of launch. The contracts for Orion 2 and Orion 3 provide firm fixed
prices for the construction and launch of those satellites and provide for
penalties in the event of late delivery by the manufacturer, however, the
Company's actual payments could be substantially higher due to any change orders
for the satellites, increased insurance rates, delays and other factors.
The Company can use a portion of its working capital to make payments for
additional satellites and certain related costs (or to pay interest and
principal on the Senior Notes) if it chooses to do so. The Company has working
capital of $72.3 million at September 30, 1998, of which $50.2 million is
restricted. However, there can be no assurance that cost increases for Orion 2
and/or Orion 3 due to change orders, increased insurance rates or construction
delays, among other factors may not increase the Company's capital requirements
or that the Company's growth may vary from its expectations resulting in changes
in its cash requirements or expected cash.
The balance of the Company's funding requirements are dependent upon its growth
and cash flow from operations. The Company cannot predict whether its existing
resources and cash flows will be adequate to cover its future cash needs. If
existing resources and cash flows are not sufficient to cover the Company's
future cash needs, the Company will need to secure borrowings from Loral, or
raise additional financing. The Company does not have a revolving credit
facility or other source of readily available capital. Sources of additional
capital may include public or private debt, equity financings or strategic
investments. To the extent that the Company seeks to raise additional debt
financing, the Indentures limit the amount of such additional debt (under a
variety of provisions contained in such Indentures) and prohibit the Company
from using Orion 1, Orion 2 or Orion 3 as collateral for indebtedness for money
borrowed. If the Company requires additional financing and is unable to obtain
such financing from Loral or from outside sources in the amounts and at the
times needed, there would be a material adverse effect on the Company.
14
<PAGE>
LORAL ORION, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
OTHER MATTERS
IMPACT OF YEAR 2000
The Company's Year 2000 Program is proceeding on schedule. The Year 2000 Issue
is the result of computer programs which were written using two digits rather
than four to signify a year (i.e., the year 1997 is denoted as "97" and not
"1997"). Computer programs written using only two digits may recognize the year
2000 as the year 1900. This could result in a system failure or miscalculations
causing disruption of operations.
The Company has implemented a Year 2000 program (the "Year 2000 Program") for
its internal products, system and equipment, as well as for key vendor and
customer supplied products, systems and equipment. As part of the Year 2000
Program, the Company is assessing the Year 2000 capabilities of, among other
things, its satellite, ground equipment, research and development activities,
and facility management systems. The Year 2000 Program consists of the following
phases: Inventory of Year 2000 items, Assessment (including prioritization),
Remediation (including modification, upgrading and replacement), Testing and
Auditing. This five-step program is divided into six major sections covering
both information and non-information technology systems: 1) business systems, 2)
technical systems, 3) products and services, 4) imbedded hardware/firmware, 5)
vendor supplied products and 6) customer provided products. To date, the Company
completed approximately 90% of the inventory phase and approximately 25% of its
assessment phase. The Company expects to complete the first four phases, through
the testing phase, of the Year 2000 Program during the second quarter of 1999,
which is prior to any anticipated material impact on the operations of the
Company. The fifth phase, the audit phase, is expected to commence in January of
1999 and continue through the third quarter of 1999 to accommodate re-audits if
deemed necessary.
Both internal and external resources are being utilized to execute the Company's
plan. The program to address Year 2000 has been underway since July 1997. The
incremental costs incurred to date for this effort by the Company was
approximately $25,000. Based on the efforts of the Company to date, the Company
anticipates additional incremental expenses of approximately $125,000 will be
incurred to substantially complete the effort.
Based upon the accomplishments to date, no contingency plans are expected to be
needed. As risks are identified, contingency plans will be developed and
implemented as necessary. However, because of the progress achieved to date and
the Company's expectations that its Year 2000 program will be substantially
complete in the second quarter of calendar 1999, the Company believes adequate
time will be available to insure alternatives can be developed, assessed and
implemented prior to a Year 2000 issue having a material negative impact on the
operations of the Company. However, there can be no assurance that such
modifications and conversions, if required, will be completed on a timely basis.
The cost of the program and the dates on which the Company believes it will
substantially complete Year 2000 modifications are based on management's best
estimates. Such estimates were derived using software surveys and programs to
evaluate calendar date exposures and numerous assumptions of future events,
including the continued availability of certain resources, third-party year 2000
readiness and other factors. Because none of these estimates can be guaranteed,
actual results could differ materially and adversely from those anticipated.
Specific factors that might cause an adjustment of costs are: number of
personnel trained in this area, the ability to locate and correct all relevant
computer codes, the ability to validate supplier certification and similar
uncertainies.
The Company's failure to remediate a material Year 2000 problem could result in
an interruption or failure of certain basic business operations. These failures
could materially and adversely effect the Company's results of operations,
liquidity and financial condition. The Company is also assessing the Year 2000
readiness of key third-party suppliers. Information requests have been
distributed to such suppliers and replies are being evaluated. If the
15
<PAGE>
LORAL ORION, INC.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS (CONTINUED)
risk is deemed material, on-site visits to suppliers will be conducted to verify
the adequacy of the information received. However, due to the general
uncertainty of the Year 2000 problem, including uncertainty with regard to
third-party suppliers and customers, the Company is unable to determine at this
time whether the consequences of Year 2000 failures will have an adverse
material impact on the Company's results of operations, liquidity or financial
condition. The Company's Year 2000 Program is expected to have considerably
reduced the Company's level of exposure in regard to third-party supplier Year
2000 problems.
16
<PAGE>
LORAL ORION, INC.
PART II. OTHER INFORMATION
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits required by Item 601 of Regulation S-K:
27 Financial Data Schedule
(b) Reports on Form 8-K during the three months ended September 30, 1998:
None.
17
<PAGE>
LORAL ORION, INC.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, as amended,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
LORAL ORION, INC.
(Registrant)
Date: November 16, 1998 /s/ Michael P. DeBlasio
------------------------------------------
Michael P. DeBlasio
First Senior Vice President
(Principal Financial Officer and
Principal Accounting Officer)
18
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