<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 1999
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES ACT OF 1934
For the transition period from __________ to __________
Commission file number 0-23253
ITC/\DELTACOM, INC.
------------------------------------------------------
(Exact name of registrant as specified in its charter)
Delaware 58-2301135
- ------------------------------- ----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
1791 O.G. Skinner Drive, West Point, GA 31833
- ---------------------------------------- ----------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (706) 385-8000
--------------------------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports) and (2) has been subject to such filing
requirements for the past 90 days. Yes X No
________ ________
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
Outstanding at August 10, 1999
------------------------------
Common Stock at $.01 par value 58,923,072 Shares
<PAGE>
PART I
FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
ITC/\DELTACOM, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1999 1998
----------- ------------
(Unaudited)
ASSETS
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents.................................. $341,220 $184,167
Restricted assets.......................................... 13,491 14,300
Accounts receivable:
Customer, net of allowance for uncollectible accounts of
$1,582 and $1,260 in 1999 and 1998, respectively......... 38,512 34,219
Affiliate................................................. 3,412 3,307
Inventory.................................................. 2,157 1,635
Prepaid expenses........................................... 1,453 591
Federal income tax receivables............................. 3,939 3,939
-------- --------
Total current assets.................................... 404,184 242,158
-------- --------
PROPERTY, PLANT AND EQUIPMENT, net......................... 306,276 262,050
-------- --------
OTHER LONG-TERM ASSETS:
Intangible assets, net of accumulated amortization of
$7,594 and $6,303 in 1999 and 1998, respectively.......... 61,869 63,160
Restricted assets.......................................... 0 5,735
Other long-term assets..................................... 16,531 14,414
-------- --------
Total other long-term assets........................... 78,400 83,309
-------- --------
Total assets............................................ $788,860 $587,517
======== ========
</TABLE>
The accompanying notes are an integral part of
these consolidated balance sheets.
2
<PAGE>
ITC/\DELTACOM, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except share data)
<TABLE>
<CAPTION>
JUNE 30, DECEMBER 31,
1999 1998
----------- ------------
(Unaudited)
LIABILITIES AND STOCKHOLDERS' EQUITY
<S> <C> <C>
CURRENT LIABILITIES:
Accounts payable:
Trade................................................. $ 13,701 $ 12,810
Construction.......................................... 12,274 7,233
Accrued interest......................................... 8,358 8,049
Accrued compensation..................................... 2,725 2,998
Unearned revenue......................................... 10,673 11,457
Other accrued liabilities................................ 8,014 8,418
Current portion of long-term debt and
capital lease obligations............................... 1,069 1,075
-------- --------
Total current liabilities...................... 56,814 52,040
-------- --------
LONG-TERM LIABILITIES:
Deferred income taxes.................................... 512 418
Long-term debt and capital lease obligations............. 516,517 416,859
-------- --------
Total long-term liabilities.................... 517,029 417,277
-------- --------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Preferred Stock, $.01 par value; $7.40 liquidation
preference; 5,000,000 shares authorized; 1,480,771
shares issued and outstanding in 1999 and 1998.......... 15 15
Common Stock, $.01 par value; 90,000,000 shares
authorized; 58,117,236 and 51,339,838 shares issued
and outstanding in 1999 and 1998, respectively.......... 581 513
Additional paid-in-capital............................... 289,720 167,023
Accumulated deficit...................................... (75,299) (49,351)
-------- --------
Total stockholders' equity..................... 215,017 118,200
-------- --------
Total liabilities and stockholders' equity..... $788,860 $587,517
======== ========
</TABLE>
The accompanying notes are an integral part of
these consolidated balance sheets.
3
<PAGE>
ITC/\DELTACOM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
(In thousands, except share data)
<TABLE>
<CAPTION>
Three Months Ended June 30, Six Months Ended June 30,
----------------------------- ---------------------------
1999 1998 1999 1998
-------------- ------------- ------------- ------------
<S> <C> <C> <C> <C>
Operating revenues................................ $ 57,376 $ 40,852 $ 110,410 $ 77,546
Cost of services.................................. 28,259 19,261 55,020 36,134
----------- ----------- ----------- -----------
Gross margin...................................... 29,117 21,591 55,390 41,412
----------- ----------- ----------- -----------
Operating expenses:
Selling, operations and administration......... 22,112 15,471 42,380 29,038
Depreciation and amortization.................. 12,310 6,922 23,478 13,243
----------- ----------- ----------- -----------
Total operating expenses....................... 34,422 22,393 65,858 42,281
----------- ----------- ----------- -----------
Operating loss.................................... (5,305) (802) (10,468) (869)
----------- ----------- ----------- -----------
Other income (expense):
Interest expense............................... (11,131) (7,939) (21,594) (15,438)
Interest income................................ 3,290 2,520 5,679 5,354
Other income (expense), net.................... 304 66 529 (2,225)
----------- ----------- ----------- -----------
Total other expense, net....................... (7,537) (5,353) (15,386) (12,309)
----------- ----------- ----------- -----------
Loss before income taxes and
extraordinary item............................. (12,842) (6,155) (25,854) (13,178)
Income tax expense (benefit)...................... 94 (1,307) 94 (3,695)
----------- ----------- ----------- -----------
Loss before extraordinary item (12,936) (4,848) (25,948) (9,483)
Extraordinary item--loss on early extinguishment
of debt (less related income tax benefit of
$2,133 in 1998)................................ - - - (8,436)
----------- ----------- ----------- -----------
Net loss.......................................... $ (12,936) $ (4,848) $ (25,948) $ (17,919)
=========== =========== =========== ===========
Basic and diluted net loss per common share:
Before extraordinary item...................... $(0.23) $(0.10) $(0.49) $ (0.19)
Extraordinary item............................. - - - (0.16)
----------- ----------- ----------- -----------
Net loss....................................... $(0.23) $(0.10) $(0.49) $ (0.35)
=========== =========== =========== ===========
Basic and diluted weighted average common
shares outstanding............................. 55,192,631 50,944,486 53,359,820 50,664,332
=========== =========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
4
<PAGE>
ITC/\DELTACOM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(In thousands)
<TABLE>
<CAPTION>
Six Months Ended June 30,
-------------------------
1999 1998
---------- ----------
<S> <C> <C>
Cash flows from operating activities:
Net loss.......................................................... $(25,948) $(17,919)
-------- --------
Adjustments to reconcile net loss to net cash (used in)
provided by operating activities:
Depreciation and amortization.................................. 23,478 13,243
Amortization of bond issue costs............................... 985 757
Deferred income taxes.......................................... 94 (6,532)
Extraordinary item--loss on early extinguishment of
debt........................................................ 0 10,569
Changes in current operating assets and liabilities:
Accounts receivable, net..................................... (4,398) (3,630)
Inventory.................................................... (522) (714)
Prepaid expenses............................................. (862) (526)
Income tax receivable from ITC Holding....................... 0 1,887
Accounts payable............................................. 891 (471)
Accrued interest............................................. 309 4,111
Unearned revenue............................................. (784) 1,328
Accrued compensation and other accrued liabilities........... (677) 2,748
-------- --------
Total adjustments....................................... 18,514 22,770
-------- --------
Net cash (used in) provided by operating activities..... (7,434) 4,851
-------- --------
Cash flows from investing activities:
Capital expenditures.............................................. (66,616) (45,583)
Change in accrued construction costs.............................. 5,041 (3,710)
Change in restricted assets....................................... 6,544 24,085
Other............................................................. 29 (385)
-------- --------
Net cash used in investing activities................... (55,002) (25,593)
-------- --------
Cash flows from financing activities:
Proceeds from issuance of 4 1/2% Notes, net of issuance costs..... 97,029 -
Proceeds from issuance of 8 7/8% Senior Notes,
net of issuance costs.......................................... - 155,170
Repayment of 11% Senior Notes..................................... - (70,000)
Premium paid on early retirement of 11% Senior Notes.............. - (7,700)
Repayment of debt assumed in IT Group
Communications acquisition..................................... - (760)
Repayment of other long-term debt and
capital lease obligations...................................... (300) (171)
Proceeds from issuance of common stock, net of offering expenses.. 120,929 -
Proceeds from exercise of common stock options.................... 1,763 974
Other............................................................. 68 (154)
-------- --------
Net cash provided by financing activities................ 219,489 77,359
-------- --------
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
5
<PAGE>
ITC/\DELTACOM, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
(In thousands)
<TABLE>
<CAPTION>
Six Months Ended June 30,
-------------------------
1999 1998
---------- ----------
<S> <C> <C>
Increase in cash and cash equivalents............. $157,053 $ 56,617
Cash and cash equivalents at beginning of period.. 184,167 94,374
-------- --------
Cash and cash equivalents at end of period........ $341,220 $150,991
======== ========
SUPPLEMENTAL CASH FLOW DISCLOSURES:
Cash paid for interest............................ $21,005 $10,528
======= =======
Cash paid (refunds received) for income taxes,
net............................................... $ 68 $(1,674)
======= =======
NONCASH TRANSACTIONS:
IT Group acquisition:
Note payable and capital lease
obligation assumed............................ $ 0 $ 974
======= =======
Issuance of common stock....................... $ 0 $ 2,793
======= =======
</TABLE>
The accompanying notes are an integral part of these consolidated statements.
6
<PAGE>
ITC/\DELTACOM, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION, NATURE OF BUSINESS, AND BASIS OF PRESENTATION
Organization
ITC/\DeltaCom, Inc. was incorporated on March 24, 1997 under the laws of
the State of Delaware, as a wholly-owned subsidiary of ITC Holding Company,
Inc., to acquire and operate selected wholly owned subsidiaries of ITC Holding.
On July 25, 1997, upon receipt of regulatory approvals and other consents, ITC
Holding completed the reorganization of the subsidiaries that became wholly
owned by ITC/\DeltaCom.
Effective October 20, 1997, as part of a further reorganization of ITC
Holding, ITC Holding transferred all of its assets, other than stock in
ITC/\DeltaCom, and all of its liabilities to another entity and then merged with
and into ITC/\DeltaCom. ITC/\DeltaCom was the surviving corporation in the
merger.
Nature of Business
ITC/\DeltaCom is a full service provider of integrated voice and data
telecommunications services on a retail basis to mid-sized and major regional
businesses in the southern United States. These services, which are called its
"retail services," include:
. local exchange telephone services;
. long distance services;
. calling card and operator services;
. Asynchronous Transfer Mode, or ATM, frame relay and high capacity broadband
private line services;
. Internet, Intranet, web page hosting and development services;
. primary rate interface connectivity and collocation services to Internet
service providers, or "ISPs";
. customer premise equipment sale, installation and repair; and
. enhanced services, including conference calling, fax broadcasting and
pre-paid calling cards.
ITC/\DeltaCom is also a leading regional provider of wholesale long-haul
services to other telecommunications companies, which means it sells capacity on
its network to, and switches and transports telecommunications traffic for,
these companies. These wholesale long haul services are referred to as
ITC/\DeltaCom's "carriers' carrier services."
In connection with these businesses, ITC/\DeltaCom owns, operates and
manages an extensive fiber optic network in the southern United States.
Basis of Presentation
The accompanying interim consolidated financial statements are unaudited
and have been prepared by us according to the rules and regulations of the SEC.
In the opinion of management, all adjustments considered necessary for the fair
presentation of the unaudited, consolidated financial statements have been
included, and the unaudited, consolidated financial statements present fairly
the financial position and results of operations for the interim periods
presented. These unaudited, consolidated financial statements should be read in
conjunction with the audited, consolidated financial statements and related
footnotes included in ITC/\DeltaCom's Annual Report on Form 10-K, as filed with
the SEC on March 25, 1999 and as amended by ITC/\DeltaCom's Form 10-K/A filed
with the SEC on April 30, 1999 (File No. 0-23252).
7
<PAGE>
2. LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS
Long term debt and capital lease obligations at June 30, 1999 and December
31, 1998 consisted of the following (in thousands):
<TABLE>
<CAPTION>
June 30, December 31,
1999 1998
----------- -----------
<S> <C> <C>
4 1/2% Notes $ 100,000 $ 0
11% Senior Notes 130,000 130,000
8 7/8% Senior Notes 159,861 159,853
9 3/4% Senior Notes 125,000 125,000
Capital lease obligations at varying interest rates,
maturing through June 2006 2,329 2,643
Other 396 438
-------- --------
Total long-term debt and capital lease obligations 517,586 417,934
Less current maturities (1,069) (1,075)
-------- --------
Total $516,517 $416,859
======== ========
</TABLE>
On May 12, 1999, ITC/\DeltaCom completed a private offering and sale of
$100 million aggregate principal amount of its 4 1/2% Convertible Subordinated
Notes due May 15, 2006 (the "Notes"), yielding net proceeds to ITC/\DeltaCom of
approximately $97.0 million. The Notes bear interest at an annual rate of 4 1/2%
payable each May 15 and November 15 beginning November 15, 1999. The Notes are
unsecured general obligations of ITC/\DeltaCom and are convertible into common
stock at any time after August 10, 1999, at a conversion price of $26.67 per
share, subject to adjustment in certain events. ITC/\DeltaCom may redeem the
Notes or make the Notes nonconvertible under certain circumstances before May
17, 2002. ITC/\DeltaCom intends to use the net proceeds from this private
offering primarily (1) to fund an accelerated expansion of its fiber optic
network and (2) to purchase switching equipment, inventory and other electronics
and network assets related to its fiber optic network and to its provision of
primary rate interface connectivity to ISPs.
In May 1999, ITC/\DeltaCom amended its secured revolving credit facility
with NationsBank, N.A. to permit (1) the merger with AvData (see Note 7), (2)
the issuance of the common stock in the May 1999 common stock offering (see Note
3) and (3) the issuance of and payment of interest on the Notes, the redemption
of the Notes and the issuance of common stock upon conversion of the Notes.
3. EQUITY INTERESTS
Public Offering of Common Stock
On May 12, 1999, ITC/\DeltaCom completed an underwritten public offering
and sale of 6,037,500 shares of its common stock, yielding net proceeds to
ITC/\DeltaCom of approximately $120.9 million. ITC/\DeltaCom intends to use the
net proceeds from this offering (1) to fund an accelerated market expansion of
its telecommunications business, including expansion of its fiber optic network,
expansion of its ISP local telecommunications services and the opening of new
sales offices, and (2) for additional working capital and other general
corporate purposes.
8
<PAGE>
Amendment to Employee Stock Option Plan
On May 13, 1999, ITC/\DeltaCom's stockholders approved an increase in the
number of options authorized to be granted under the ITC/\DeltaCom, Inc. 1997
Stock Option Plan from 4,815,000 to 7,815,000.
4. COMMITMENTS AND CONTINGENCIES
At June 30, 1999, ITC/\DeltaCom had entered into agreements with vendors to
purchase approximately $40.3 million of equipment related to the improvement and
installation of switches, other network expansion efforts and certain services.
5. ACQUISITION
On May 28, 1999, ITC/\DeltaCom signed a letter of intent to purchase the
business assets of Scientific Telecommunications, Inc., ("SciTel") a privately
owned telecommunications equipment provider headquartered in Greenwood,
Mississippi. As consideration for the asset purchase, ITC/\DeltaCom expects to
pay approximately $2.0 million in common stock to the owners of SciTel. The
transaction is expected to close in the third quarter of 1999.
6. SEGMENT REPORTING
As discussed in Note 1, ITC/\DeltaCom operates in two business segments:
retail services and carriers' carrier services. ITC/\DeltaCom also has a
corporate segment which has no operations. Identifiable assets of the corporate
segment include $123.7 million of cash and cash equivalents, $4.2 million other
current assets and $14.4 million other non-current assets. Summarized financial
data by business segment as of and for the six months ended June 30, 1999 and
1998 are as follows (in thousands):
<TABLE>
<CAPTION>
1999
---------------------------------------------
Carriers'
Carrier Retail Corporate
Segment Segment Segment Consolidated
--------- --------- --------- ------------
<S> <C> <C> <C> <C>
Operating revenues....................................... $ 34,629 $ 75,781 $ 0 $110,410
Gross margin............................................. 29,219 26,171 0 55,390
Selling, operations, and administration.................. 10,553 31,827 0 42,380
Depreciation and amortization............................ 13,049 10,388 41 23,478
Other income, net........................................ 6,208
Interest expense......................................... 21,594
--------
Loss before income taxes and extraordinary item.......... $ 25,854
========
Identifiable assets...................................... $426,102 $220,456 $142,302 $788,860
======== ======== ======== ========
Capital expenditures, net................................ $ 27,865 $ 33,710 $ 0 $ 61,575
======== ======== ======== ========
</TABLE>
<TABLE>
<CAPTION>
1998
-----------------------------------------------
Carriers'
Carrier Retail Corporate
Segment Segment Segment Consolidated
--------- --------- --------- ------------
<S> <C> <C> <C> <C>
Operating revenues.................................... $ 23,370 $ 54,176 $ 0 $ 77,546
Gross margin.......................................... 20,335 21,077 0 41,412
Selling, operations, and administration............... 7,070 21,968 0 29,038
Depreciation and amortization......................... 8,711 4,491 41 13,243
Other income, net..................................... 3,129
Interest expense...................................... 15,438
--------
Loss before income taxes and extraordinary item....... $ 13,178
========
Identifiable assets................................... $308,346 $142,020 $9,854 $460,220
======== ======== ====== ========
Capital expenditures, net............................. $ 19,684 $ 29,609 $ 0 $ 49,293
======== ======== ====== ========
</TABLE>
7. SUBSEQUENT EVENT
On July 8, 1999, ITC/\DeltaCom completed its merger with AvData Systems,
Inc. ("AvData"), a privately owned data network management solutions provider in
Atlanta, Georgia. ITC/\DeltaCom issued 983,511 shares of common stock to
consummate the merger, of which 171,898 shares are being held by a trustee in a
two-year escrow to protect against certain contingencies. The transaction is
subject to an earnout, which, if certain performance objectives are met, could
require ITC/\DeltaCom to issue up to an additional 336,730 shares of common
stock in 2000.
9
<PAGE>
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
This quarterly report on Form 10-Q contains certain forward-looking
statements that involve risks and uncertainties. In addition, members of
ITC/\DeltaCom's senior management may, from time to time, make forward-looking
statements concerning ITC/\DeltaCom's operations, performance and other
developments. ITC/\DeltaCom's actual results could differ materially from those
anticipated in such forward-looking statements as a result of various factors.
The following analysis should be read in conjunction with ITC/\DeltaCom's Annual
Report on Form 10-K and the financial statements and related notes thereto.
ITC/\DeltaCom has included data with respect to EBITDA, as adjusted, in the
following analysis because it is a measure commonly used in the company's
industry. EBITDA, as adjusted, represents earnings before extraordinary item,
net interest, other income (expense), income taxes, depreciation and
amortization. EBITDA, as adjusted, is not a measure of financial performance
under generally accepted accounting principles and should not be considered an
alternative to net income as a measure of performance or to cash flows as a
measure of liquidity. EBITDA, as adjusted, is not necessarily comparable with
similarly titled measures for other companies.
Unless otherwise indicated, all dollar amounts in the following
Management's Discussion and Analysis of Financial Condition and Results of
Operations that exceed $1 million have been rounded to the nearest decimal point
and all dollar amounts less than $1 million have been rounded to the nearest
thousand.
Overview
We are a full service provider of integrated voice and data
telecommunications services on a retail basis to mid-size and major regional
businesses in the southern United States and we are a leading regional provider
of wholesale long-haul services to other telecommunications companies. In
connection with these businesses, we own, operate and manage an extensive fiber
optic network in the southern United States. We had revenues of $57.4 million
and $40.9 million for the three months ended June 30, 1999 and 1998,
respectively, and $110.4 million and $77.5 million for the six months ended June
30, 1999 and 1998, respectively.
We provide our wholesale long-haul services, which we refer to as our
"carriers' carrier services," to other telecommunications carriers, including
AT&T, MCI WorldCom, Sprint, Cable & Wireless, Qwest, Frontier and IXC. Our
carriers' carrier services business generated revenues of $18.2 million and
$12.3 million for the three months ended June 30, 1999 and 1998, respectively,
and $34.6 million and $23.4 million for the six months ended June 30, 1999 and
1998, respectively.
We also are a full service provider of integrated retail telecommunications
services to mid-sized and major regional businesses in a bundled package
tailored to the business customer's specific needs. These retail services
include:
. local exchange telephone services;
. long distance services;
. calling card and operator services;
. Asynchronous Transfer Mode, or ATM, frame relay and high capacity broadband
private line services;
. Internet, Intranet, web page hosting and development services;
. primary rate interface connectivity and collocation services to Internet
service providers;
. customer premise equipment sale, installation and repair; and
. enhanced services, including conference calling, fax broadcasting and
pre-paid calling cards.
As of June 30, 1999, we provided retail services to approximately 11,250
business customers in 26 metropolitan areas and had sold approximately 74,400
access lines, of which approximately 56,000 had been installed. The
implementation backlog was attributable primarily to ISP service installation
delays, brought about by both customer installation delays and incumbent local
carrier capacity constraints in some markets. We expect service installation
issues to be substantially resolved in the third quarter of 1999. We intend to
provide a full range of retail services in a total of approximately 42
metropolitan areas throughout the southern United
10
<PAGE>
States over the next two years. Our retail services business generated revenue
of $39.2 million and $28.6 million for the three months ended June 30, 1999 and
1998, respectively, and $75.8 million and $54.2 million for the six months ended
June 30, 1999 and 1998, respectively.
At June 30, 1999, our fiber optic network reached over 90 points of
presence, or "POPs," in the following 11 southern states: Alabama, Arkansas,
Florida, Georgia, Louisiana, Mississippi, North Carolina, South Carolina,
Tennessee, Texas and Virginia. Our network extended approximately 8,100 route
miles at that date, of which approximately 4,400 miles are owned by us and
approximately 3,700 miles are owned and operated principally by three public
utilities, Duke Power Company, Florida Power & Light Company and Entergy
Technology Company, and managed and marketed by us. We expect to add
approximately 500 owned and operated route miles to our fiber network by the end
of 1999 and an additional 1,000 to 1,500 route miles by the end of 2000 through
a combination of construction and long-term dark fiber leases. At June 30,
1999, our network included seven Nortel DMS-500 and one Nortel DMS-250 voice
switches, nineteen Ascend 9000 frame relay switches and ten ATM switches. In
addition, we had completed physical collocation of switching equipment in 36
BellSouth markets.
During the three months ended June 30, 1999, our operational highlights
included the following:
. we signed a letter of intent to purchase the business assets of Scientific
Telecommunications, Inc., headquartered in Greenwood, Mississippi,
expanding our product bundle and customer base in Mississippi;
. we completed a public offering of 6,037,500 shares of common stock
generating net proceeds of approximately $120.9 million;
. we completed a private offering of $100 million aggregate principle amount
of 4 1/2% Convertible Subordinated Notes due 2006, generating net proceeds
of approximately $97.0 million;
. we completed the addition of approximately 300 route miles of new fiber
network, increasing the total network to approximately 8,100 route miles;
. network enhancements continued with the addition of a Nortel DMS500 switch
in Greensboro, North Carolina, as well as four frame relay switches and
three ATM switches located throughout the network; and
. we opened branch offices in Tampa and Ft. Lauderdale, Florida, and
Greensboro, North Carolina.
Pursuant to our interconnection agreement with BellSouth
Telecommunications, Inc., we continued to bill BellSouth during the first six
months of 1999 for reciprocal interconnection charges related to our provision
of facilities-based local exchange services. A significant amount of these
charges are attributable to call terminations by us to customers that are ISPs.
BellSouth has stated that it views termination to ISPs as not included under the
reciprocal charge arrangements set forth in the BellSouth interconnection
agreement, and has refused to pay compensation for such terminations either to
us or to other CLECs operating under similar interconnection agreements. The
Alabama PSC rendered a ruling in favor of ITC/\DeltaCom on March 4, 1999 and
issued an order requiring BellSouth to pay all withheld reciprocal compensation
sums within 20 days. The Alabama PSC ruling is now on appeal by BellSouth in
federal district court. We have filed a similar complaint before the South
Carolina PUC seeking a ruling requiring BellSouth to pay the reciprocal
compensation with respect to our South Carolina operations. For the three months
and six months ended June 30, 1999, these charges to BellSouth amounted to
approximately $4.2 million and $7.7 million, respectively. We recognized
approximately $583,000 and $933,000 of these charges as operating revenues
during the three months and six months ended June 30, 1999, respectively,
representing amounts BellSouth has paid or indicated it will pay, and we
reserved against the remaining $3.6 million and $6.8 million of billings during
the three months and six months ended June 30, 1999, respectively. As of June
30, 1999, we had reserved for approximately $13.4 million of cumulative local
interconnection billings.
On July 1, 1999 our resale and interconnection agreement with BellSouth
expired. We are in negotiations with BellSouth to renew the terms of the
interconnection agreement. In addition, we have filed for arbitration of
certain unresolved issues with the relevant state regulatory authorities in all
BellSouth states except for Kentucky. As contemplated by the original
interconnection agreement, we will continue to exchange traffic under
substantially the same terms on a month-to-month basis until such time as
renewal terms, conditions and prices are ordered by a state commission or
negotiated by the parties. The new terms, conditions
11
<PAGE>
and prices would then be retroactive to July 1, 1999. We expect that a final
resolution will be reached during the first quarter of 2000.
On July 8, 1999, we completed our acquisition of AvData Systems, Inc., a
privately-owned data network management solutions provider in Atlanta, Georgia.
We issued 983,511 shares of our common stock related to this acquisition, of
which 171,898 shares are being held in a two-year escrow account to protect
against certain contingencies. The transaction is subject to an earnout, which,
if certain performance objectives are met, could require us to issue up to an
additional 336,730 shares of common stock in 2000. AvData's service offerings
include consulting, integration, operation and proactive management of data
networks, with 24 x 7 monitoring, trouble shooting, problem resolution and
comprehensive network performance reporting for corporate Internet access,
remote monitoring of firewall security systems, VSAT Data Networks, frame relay
and other data networks. AvData also provides in-depth network performance
analysis, as well as design and implementation services for data network
deployment. This acquisition is expected to strengthen and enhance our data
service offerings.
Also in July, we announced that we would introduce an advanced IP network
in the southeast beginning this fall. We expect that the network will employ
packet-over-SONET technology delivered via an OC-48 ring-protected backbone. We
plan to deploy Cisco 12000 and 7500 series (gigabit) routers in strategic IP
points of presence across the network. As planned, the IP network's core routers
will be located in Dallas, TX, Birmingham, AL, Atlanta, GA, Columbia, SC,
Orlando, FL, and Gulfport, MS, and will be strategically interconnected at this
level with national Internet backbone providers.
Quarterly Statistical Highlights*
<TABLE>
<CAPTION>
June 30, March 31, December 31,
1999 1999 1998
--------- ---------- -------------
<S> <C> <C> <C>
Statistical Data:
Cumulative markets 26 23 22
Business customers served-
Retail Services** 11,250 11,000 10,500
Route miles 8,100 7,800 7,800
Collocations 36 30 30
Voice switches 8 7 7
ATM switches 10 7 6
Frame relay switches 19 15 14
Number of employees 1,330 1,170 1,125
Lines sold cumulative 74,400 60,000 42,000
Lines installed cumulative 56,000 45,300 32,200
Lines installed/Lines sold percentage 75% 76% 77%
</TABLE>
*Data rounded except as to markets, collocations and switches.
**Restated to reflect the combination of certain customers'
multiple accounts into a single customer profile.
12
<PAGE>
Historical Results of Operations
The following tables set forth, in thousands, certain historical data for
the three and six month periods ended June 30, 1999 and the three and six month
periods ended June 30, 1998 for our carriers' carrier services business and the
retail services business:
<TABLE>
<CAPTION>
CARRIERS' CARRIER SERVICES
------------------------------------------------------------------------------------
Three Months Ended Six Months Ended
June 30, June 30,
1999 % 1998 % 1999 % 1998 %
--------- ---- --------- ---- --------- ---- --------- ----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues $ 18,166 100% $ 12,258 100% $ 34,629 100% $ 23,370 100%
Cost of services 2,838 16% 1,823 15% 5,410 16% 3,035 13%
--------- ---- --------- ---- --------- ---- --------- ----
Gross margin 15,328 84% 10,435 85% 29,219 84% 20,335 87%
--------- ---- --------- ---- --------- ---- --------- ----
Operating expenses:
Selling, operations
and administration 5,414 30% 3,558 29% 10,553 30% 7,070 30%
Depreciation and
amortization 6,779 37% 4,605 38% 13,049 38% 8,711 37%
--------- ---- --------- ---- --------- ---- --------- ----
Total operating expenses 12,193 67% 8,163 67% 23,602 68% 15,781 67%
--------- ---- --------- ---- --------- ---- --------- ----
Operating income $ 3,135 17% $ 2,272 18% $ 5,617 16% $ 4,554 20%
========= ==== ========= ==== ========= ==== ========= ====
EBITDA, as adjusted $ 9,914 54% $ 6,877 56% $ 18,666 54% $ 13,265 57%
========= ==== ========= ==== ========= ==== ========= ====
</TABLE>
<TABLE>
<CAPTION>
RETAIL SERVICES
------------------------------------------------------------------------------------
Three Months Ended Six Months Ended
June 30, June 30,
1999 % 1998 % 1999 % 1998 %
--------- ---- --------- ---- --------- ---- --------- ----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Revenues $ 39,210 100% $ 28,594 100% $ 75,781 100% $ 54,176 100%
Cost of services 25,421 65% 17,438 61% 49,610 65% 33,099 61%
--------- ---- --------- ---- --------- ---- --------- ----
Gross margin 13,789 35% 11,156 39% 26,171 35% 21,077 39%
--------- ---- --------- ---- --------- ---- --------- ----
Operating expenses:
Selling, operations
and administration 16,698 42% 11,913 42% 31,827 42% 21,968 41%
Depreciation and
amortization 5,510 14% 2,297 8% 10,388 14% 4,491 8%
--------- ---- --------- ---- --------- ---- --------- ----
Total operating
expenses 22,208 56% 14,210 50% 42,215 56% 26,459 49%
--------- ---- --------- ---- --------- ---- --------- ----
Operating loss $ (8,419) (21)% $ (3,054) (11)% $ (16,044) (21)% $ (5,382) (10)%
========= ==== ========= ==== ========= ==== ========= ====
EBITDA, as adjusted $ (2,209) (7)% $ (757) (3)% $ (5,656) (7)% $ (891) (2)%
========= ==== ========= ==== ========= ==== ========= ====
</TABLE>
13
<PAGE>
Three Months Ended June 30, 1999 Compared With Three Months Ended June 30, 1998
Revenues
Total revenue increased $16.5 million, or 40.3%, from $40.9 million for the
three months ended June 30, 1998 to $57.4 million for the three months ended
June 30, 1999. Revenues from our retail services increased $10.6 million, or
37.1% , from $28.6 million for the three months ended June 30, 1998 to $39.2
million for the three months ended June 30, 1999. The increase in retail
services revenue was attributable to:
. a continued increase in the number of business customers;
. an increase in revenues from local exchange services, local ISP
telecommunications services and data services;
. continued growth in long distance minutes of use, partially offset by a
decrease in rates per long distance minutes of use; and
. continued stability in the rate of revenue loss from lost customers from
period to period.
We continue to experience strong revenue growth rates in our local and data
products and expect this trend to continue through the remainder of 1999.
Revenues from our carriers' carrier services increased $5.9 million, or
48.0%, from $12.3 million for the three months ended June 30, 1998 to $18.2
million for the three months ended June 30, 1999. The increase in revenue from
the carriers' carrier services segment was attributable to:
. continued increasing demand for bandwidth, partially offset by pricing
pressures on certain network routes;
. expansion of the owned and operated network routes, including the addition
of 300 route miles during the second quarter of 1999; and
. growth in commissions derived from the managed, monitored, and marketed
network routes.
We expect to continue to experience growth in our carrier's carrier services
revenue during the remainder of 1999 as a result of the continued increasing
demand for bandwidth, offset in part by competitive pricing of our services.
Cost of Services
Total cost of services increased $9.0 million, from $19.3 million for the
three months ended June 30, 1998 to $28.3 million for the three months ended
June 30, 1999. Cost of services for our retail services increased $8.0 million,
from $17.4 million for the three months ended June 30, 1998 to $25.4 million for
the three months ended June 30, 1999. Cost of services as a percentage of
revenue for retail services totaled 65% for the three months ended June 30,
1999, compared to 61% for the three months ended June 30, 1998. The increase in
cost of services as a percentage of revenue from the second quarter of 1998
compared to the second quarter of 1999 was due primarily to (1) increased sales
of the local resale product, which generally has lower margins and (2) decreased
long distance rates. We expect to experience improvements in cost of services
as a percentage of revenues as we continue to migrate local and long distance
services to our own facilities and as we receive reductions in our off-net
costs, including incumbent local exchange carrier access revisions effective
July 1, 1999, partially offset by the initial costs related to our advanced IP
network initiative.
Cost of services attributable to our carriers' carrier services increased
$1.0 million, from $1.8 million for the three months ended June 30, 1998 to $2.8
million for the three months ended June 30, 1999. Cost of services as a
percentage of revenue for carriers' carrier services increased to 16% for the
three months ended June 30, 1999 from 15% for the three months ended June 30,
1998. The increase in the cost of services as a percentage of revenue was due
primarily to rate adjustments for customers to current market rates. We
believe these pricing pressures will be offset in the future by an increasing
demand for bandwidth allowing for continued revenue growth.
14
<PAGE>
Selling, Operations and Administration Expense
Total selling, operations and administration expense increased $6.6
million, from $15.5 million, or 37.9% as a percentage of revenue, for the three
months ended June 30, 1998 to $22.1 million, or 38.5% as a percentage of
revenue, for the three months ended June 30, 1999. Selling, operations and
administration expense attributable to retail services increased $4.8 million,
from $11.9 million, or 41.7% as a percentage of revenue, for the three months
ended June 30, 1998 to $16.7 million, or 42.6% as a percentage of revenue, for
the three months ended June 30, 1999. The increase in selling, operations and
administration expense as a percentage of revenue for the retail services
segment was attributable to:
. an increase in the number of employees, primarily sales, customer support
and provisioning;
. continued geographic expansion, including the addition of three new sales
offices during the second quarter of 1999; and
. costs associated with the expansion of existing service offerings,
primarily local services.
We expect that selling, operations and administration expense as a percentage of
revenue for our retail services could increase slightly in the third quarter as
we incur costs associated with our advanced IP network initiative, expand our
markets for customer premise equipment and integrate AvData into our
organization.
Selling, operations and administration expense attributable to our
carriers' carrier services increased $1.8 million, from $3.6 million, or 29.0%
as a percentage of revenue, for the three months ended June 30, 1998 to $5.4
million, or 29.8% as a percentage of revenue, for the three months ended June
30, 1999. The increase in selling, operations, and administration expense for
the carriers' carrier segment was primarily due to additions of personnel
resulting from the geographic expansion of our network and an increase in the
percentage allocation of overhead costs.
Depreciation and Amortization
Total depreciation and amortization expense increased $5.4 million, from
$6.9 million for the three months ended June 30, 1998 to $12.3 million for the
three months ended June 30, 1999. Retail services operations accounted for $3.2
million of the increase, which was primarily related to installation of new
equipment. Carriers' carrier services operations accounted for $2.2 million of
the increase, which was primarily due to the continued expansion of the fiber
optic network operations. We expect depreciation and amortization to continue
to increase during the remainder of 1999 as we add new switches and network
facilities and expand into new markets.
Interest Expense
Total interest expense increased $3.2 million, from $7.9 million for the
three months ended June 30, 1998 to $11.1 million for the three months ended
June 30, 1999. The $3.2 million increase in interest expense was primarily
attributable to the interest on our 9 3/4% Senior Notes, which we issued
November 1998, and our 4 1/2% Convertible Subordinated Notes, which we issued
May 1999.
Interest Income
Total interest income increased $800,000, from $2.5 million for the three
months ended June 30, 1998 to $3.3 million for the three months ended June 30,
1999 as a result of the investment of excess cash balances.
Other Income
In March 1998, we reclassified our interest rate swap from a hedge of an
anticipated transaction to a trading security resulting in a non-cash charge
against earnings of approximately $2.5 million. This change in classification
required us to record the interest rate swap agreement on the consolidated
balance sheet at fair market value. The interest rate swap agreement is marked
to market on a monthly basis. For the three months ended June 30, 1999 and
1998, we recognized income from the mark-to-market of the interest rate swap of
approximately $304,000 and $66,000, respectively.
15
<PAGE>
EBITDA, as adjusted
EBITDA, as adjusted, increased $900,000, from $6.1 million for the three
months ended June 30, 1998 to $7.0 million for the three months ended June 30,
1999. EBITDA, as adjusted, attributable to our retail services for the three
months ended June 30, 1999 was $(2.9) million compared to $(800,000) for the
three months ended June 30, 1998. EBITDA, as adjusted, attributable to retail
services decreased from (2.6)% of revenues for the three months ended June 30,
1998 to (7.4)% of revenues for the three months ended June 30, 1999. The
decrease in EBITDA, as adjusted, for the retail services was primarily due to
the increase in our local resale product, which generally has lower margins, and
the addition of new personnel to support both the geographic and product
expansion efforts. EBITDA, as adjusted, attributable to our carriers' carrier
services increased $3.0 million, from $6.9 million for the three months ended
June 30, 1998 to $9.9 million for the three months ended June 30, 1999. The
increase in EBITDA, as adjusted, for the carriers' carrier segment was primarily
attributable to the continued increase in the demand for bandwidth, partially
offset by rate adjustments for customers to current market rates. Although we
expect to continue to experience pricing pressures as well as incur initial
costs on our advanced IP network initiative, we expect EBITDA, as adjusted, to
increase during the remainder of 1999 as we benefit from the migration of more
of our new and existing traffic onto our own facilities and as certain of our
markets mature.
Six Months Ended June 30, 1999 Compared With Six Months Ended June 30, 1998
Revenues
Total revenue increased $32.9 million (42.5%), from $77.5 million for the
six months ended June 30, 1998 to $110.4 million for the six months ended June
30, 1999. Revenues from our retail services increased $21.6 million (39.9%),
from $54.2 million for the six months ended June 30, 1998 to $75.8 million for
the six months ended June 30, 1999. The increase in retail services revenue was
attributable to:
. a continued increase in the number of business customers, from 9,600 as of
June 30, 1998 to over 11,250 as of June 30, 1999;
. an increase in revenues from local exchange services, local ISP
telecommunications services and data services;
. growth in long distance minutes of use, partially offset by a decrease in
the rates per long distance minutes of use; and
. continued stability in the rate of revenue loss from lost customers from
period to period.
We continue to experience strong revenue growth rates in our local and data
products and expect this trend to continue through the remainder of 1999.
Revenues from our carriers' carrier services increased $11.2 million
(47.9%), from $23.4 million for the six months ended June 30, 1998 to $34.6
million for the six months ended June 30, 1999. The increase in revenue from the
carriers' carrier services segment was attributable to:
. increasing demand for bandwidth;
. expansion of the owned and operated routes; and
. growth in commissions derived from the managed, monitored,
and marketed routes.
We expect to experience continued growth in our carrier's carrier services
revenue during the remainder of 1999 as a result of a continuing increasing
demand for bandwidth, offset in part by the competitive pricing of our services.
Cost of Services
Total cost of services increased $18.9 million, from $36.1 million for the
six months ended June 30, 1998 to $55.0 million for the six months ended June
30, 1999. Cost of services for our retail services increased $16.5 million,
from $33.1 million for the six months ended June 30, 1998 to $49.6 million for
the six months ended June 30, 1999. Cost of services as a percentage of revenue
for retail services increased slightly to 65% for the six
16
<PAGE>
months ended June 30, 1999 from 61% for the six months ended June 30, 1998. The
increase in cost of services as a percentage of revenue from the first six
months of 1998 compared to the first six months of 1999 was due primarily to (1)
the increase in sales of the local resale product, which generally has lower
margins and (2) the decrease in long distance rates. We expect to experience
modest improvements in the cost of service as a percentage of revenues as we
continue to migrate local and long distance services to our own facilities and
as we receive reductions in our off-net costs, including incumbent local
exchange carrier access revisions effective July 1, 1999, partially offset by
the initial costs related to our advanced IP network initiative.
Cost of services attributable to our carriers' carrier services increased
$2.4 million, from $3.0 million for the six months ended June 30, 1998 to $5.4
million for the six months ended June 30, 1999. Cost of services as a percentage
of revenue for carriers' carrier services increased slightly to 16% for the six
months ended June 30, 1999 from 13% for the six months ended June 30, 1998. The
increase in the cost of services as a percentage of revenue was due primarily to
rate adjustments for customers to current market rates. We believe the pricing
pressures will be offset in the future by an increasing demand for bandwidth
allowing for continued revenue growth.
Selling, Operations and Administration Expense
Total selling, operations and administration expense increased $13.4
million, from $29.0 million, or 37.4% as a percentage of revenue, for the six
months ended June 30, 1998 to $42.4 million, or 38.4% as a percentage of
revenue, for the six months ended June 30, 1999. Selling, operations and
administration expense attributable to our retail services increased $9.8
million, from $22.0 million for the six months ended June 30, 1998 to $31.8
million for the six months ended June 30, 1999, which represented an increase
from 41% to 42% as a percentage of revenue. The increase in selling, operations
and administration expense as a percentage of revenue for the retail services
segment was attributable to:
. an increase in the number of employees;
. continued geographic expansion; and
. costs associated with the expansion of existing service offerings,
primarily local services.
We expect that selling, operations and administration expense as a percentage of
revenue for our retail services could increase slightly in the third quarter as
we incur costs associated with our advanced IP network initiative, expand our
markets for customer premise equipment and integrate AvData into our
organization.
Selling, operations and administration expense attributable to our
carriers' carrier services increased $3.5 million, from $7.1 million for the six
months ended June 30, 1998 to $10.6 million for the six months ended June 30,
1999. Selling, operations and administration expense as a percentage of revenue
remained unchanged at 30% for the six months ended June 30, 1999 and 1998. The
increase in selling, operations, and administration expense for the carriers'
carrier segment was primarily due to additions of personnel resulting from the
geographic expansion of our network and an increase in the percentage allocation
of overhead costs.
Depreciation and Amortization
Total depreciation and amortization expense increased $10.3 million, from
$13.2 million for the six months ended June 30, 1998 to $23.5 million for the
six months ended June 30, 1999. Retail services accounted for $5.9 million of
the increase, which was primarily related to the installation of new central
office and other telecommunications equipment. Carriers' carrier services
accounted for $4.4 million of the increase, which was primarily attributable to
network expansion. We expect depreciation and amortization expense to continue
to increase through the remainder of 1999 as we add new switches and network
facilities and expand into new markets.
Interest Expense
Total interest expense increased $6.2 million, from $15.4 million for the
six months ended June 30, 1998 to $21.6 million for the six months ended June
30, 1999. The $6.2 million increase was attributable to interest on our 8 7/8%
Senior Notes, which we issued March 1998, our 9 3/4% Senior Notes, which we
issued November
17
<PAGE>
1998, and our 4 1/2% Convertible Subordinated Notes, which we issued May 1999.
We expect interest expense to increase during the remainder of 1999 compared to
1998 due to interest on the 9 3/4% Senior Notes and the 4 1/2% Convertible
Subordinated Notes.
Interest Income
Total interest income increased $300,000, from $5.4 million for the six months
ended June 30, 1998 to $5.7 million for the six months ended June 30, 1999 as a
result of the investment of excess cash balances.
Other Income (Expense)
In March 1998, we reclassified our interest rate swap from a hedge of an
anticipated transaction to a trading security resulting in a non-cash charge
against earnings of approximately $2.5 million. This change in classification
required us to record the interest rate swap agreement on the consolidated
balance sheet at fair market value. The interest rate swap agreement is marked
to market on a monthly basis. For the six months ended June 30, 1999 and 1998,
we recognized income (expense) from the mark-to-market of the interest rate swap
of approximately $529,000 and $(2.2) million, respectively.
Extraordinary Loss
During the six months ended June 30, 1998, we incurred a pre-tax
extraordinary loss of $10.6 million, or $8.4 million after tax, related to the
redemption of $70 million of our 11% Senior Notes. The extraordinary loss
consisted of a $7.7 million redemption premium and a $2.9 million write-off of
related debt-issuance costs.
EBITDA, as adjusted
EBITDA, as adjusted, increased $600,000, from $12.4 million for the six
months ended June 30, 1998 to $13.0 million for the six months ended June 30,
1999. EBITDA, as adjusted, attributable to our retail services for the six
months ended June 30, 1999 was $(5.7) million compared to $(900,000) for the six
months ended June 30, 1998. EBITDA, as adjusted, attributable to retail
services decreased from (1.6)% of revenues for the six months ended June 30,
1998 to (7.5)% of revenues for the six months ended June 30, 1999. The decrease
in EBITDA, as adjusted, for the retail services was primarily due to increases
in local services provided on a resale basis, which generally has lower margins,
an increase in the costs associated with the expansion of new sales offices and
the employment of additional support personnel to position this segment for
growth and expansion. EBITDA, as adjusted, attributable to our carriers'
carrier services increased $5.4 million, from $13.3 million for the six months
ended June 30, 1998 to $18.7 million for the six months ended June 30, 1999. The
increase in EBITDA, as adjusted, for the carriers' carrier segment was primarily
attributable to the increased demand for bandwidth, partially offset by rate
adjustments for customers to current market rates. We expect EBITDA, as
adjusted, to increase during the remainder of 1999 as we migrate more of our new
and existing traffic onto our own facilities, as the demand in our carriers'
carrier segment for bandwidth remains strong and as certain of our markets
mature, partially offset by the initial costs of our advanced IP network
initiative and pricing pressures on certain products.
Liquidity and Capital Resources
We generated net cash from operating activities of $(7.4) million and $4.9
million for the six months ended June 30, 1999 and 1998, respectively. Changes
in working capital were $(6.0) million and $4.7 million for the six months ended
June 30, 1999 and 1998, respectively. The change for the six months ended June
30, 1999 resulted primarily from a decrease in unearned revenue and other
accrued liabilities and an increase in accounts receivable, inventory, and other
prepaid expenses, partially offset by an increase in accounts payable and
accrued interest. For the six months ended June 30, 1998 such changes were
primarily due to an increase in accrued interest, unearned revenue, other
accrued liabilities and a decrease in income tax refund receivable offset by
increases in accounts receivable, inventory and prepaid expenses and a decrease
in accounts payable.
18
<PAGE>
Cash used for investing activities was $55.0 million and $25.6 million for
the six months ended June 30, 1999 and 1998, respectively. The cash used in
investing activities in the six months ended June 30, 1999 and 1998 was
primarily for the funding of capital expenditures. We made net capital
expenditures of $61.6 million and $49.3 million for the six months ended June
30, 1999 and 1998, respectively. Of the $61.6 million of net capital
expenditures for the six months ended June 30, 1999, $27.9 million related to
carriers' carrier services and $33.7 million related to retail services. Of the
$49.3 million of net capital expenditures for the six months ended June 30,
1998, $19.7 million related to carriers' carrier services and $29.6 million
related to retail services. The increase in cash used in investing activities
results from our commitment to expand the existing network and facilities as we
implement our business plan.
Cash provided by financing activities was $219.5 million and $77.4 million
for the six months ended June 30, 1999 and 1998, respectively. Cash provided by
financing activities for the six months ended June 30, 1999 consisted primarily
of net proceeds of $97.0 million from the sale of the 4 1/2% Convertible
Subordinated Notes and $120.9 million from the issuance of common stock. Cash
provided by financing activities for the six months ended June 30, 1998
consisted primarily of net proceeds of $155.2 million from the sale of the 8
7/8% Senior Notes, less $70.0 million repayment of principal on the 11% Senior
Notes and $7.7 million premium payment on the early extinguishment of debt.
On May 12, 1999, we completed an underwritten public offering and sale of
6,037,500 shares of our common stock, yielding net proceeds to us of
approximately $120.9 million. We intend to use the net proceeds from this
offering (1) to fund an accelerated market expansion of our telecommunications
business, including expansion of our fiber optic network, expansion of our local
ISP telecommunications services and the opening of new sales offices and (2)
for additional working capital and other general corporate purposes.
On May 12, 1999, we completed a private offering and sale of $100 million
aggregate principal amount of our 4 1/2% Convertible Subordinated Notes due
2006, yielding net proceeds to us of approximately $97.0 million. The 4 1/2%
Convertible Subordinated Notes bear interest at an annual rate of 4 1/2%
payable each May 15 and November 15 beginning November 15, 1999. These notes
are unsecured general obligations of ITC/\DeltaCom and are convertible into
common stock at any time after August 10, 1999, at a conversion price of $26.67
per share, subject to adjustment in certain events. We may redeem the notes or
make the notes nonconvertible under certain circumstances before May 17, 2002.
We intend to use the net proceeds from this private offering (1) to fund an
accelerated expansion of our fiber optic network and (2) to purchase switching
equipment, inventory, and other electronics and network assets related to our
fiber optic network and to our provision of primary rate interface connectivity
to ISPs.
In May 1999, we amended our secured revolving credit facility with
NationsBank, N.A. to permit (1) the merger with AvData, (2) the issuance of the
common stock in the May 1999 common stock offering and (3) the issuance of and
payment of interest on the 4 1/2% Convertible Subordinated Notes, the
redemption of those notes and the issuance of common stock upon conversion of
those notes. No amounts are outstanding under the credit facility.
At June 30, 1999, we had entered into agreements with vendors to purchase
approximately $40.3 million of equipment and services, and for the six months
ended June 30, 1999, had made net capital expenditures of $61.6 million. We
currently estimate that our aggregate capital requirements through 2000 will
total approximately $250.0 to $300.0 million (inclusive of the $40.3 million in
commitments as of June 30, 1999). We expect to make substantial capital
expenditures thereafter. Capital expenditures through 2000 will be primarily
for the following:
. accelerated expansion of our fiber optic network in Texas, including Austin
and San Antonio, and in Tennessee, including Memphis, Nashville,
Chattanooga and Knoxville;
. continued addition of facilities-based local telephone service to our
bundle of integrated telecommunications services, including acquisition and
installation of switches and related equipment;
. continued addition of switching capacity, electrical equipment and
additional collocation space in connection with the expansion of our ISP
local telecommunications services;
. market expansion; and
19
<PAGE>
. infrastructure enhancements, principally for information systems.
The actual amount and timing of our capital requirements may differ
materially from the foregoing estimate as a result of regulatory, technological
and competitive developments (including market developments and new
opportunities) in our industry, or if we decide to make acquisitions or enter
into joint ventures and strategic alliances.
On July 8, 1999, we completed our merger with AvData Systems, Inc., a
privately owned data network management solutions provider in Atlanta, Georgia.
We issued 983,511 shares of our common stock to consummate the merger, of which
171,898 shares are being held by a trustee in escrow for two years to protect
against certain contingencies. The transaction is subject to an earnout, which,
if certain performance objectives are met, could require us to issue up to an
additional 336,730 shares of common stock in 2000.
As of June 30, 1999, we had $341.2 million of cash and cash equivalents
excluding restricted investments. We believe that proceeds from the May 1999
common stock offering, proceeds from the May 1999 convertible subordinated notes
offering, cash on hand and cash flow from operations will provide sufficient
funds to enable us to expand our business as currently planned. In addition,
subject to compliance with applicable covenants in the credit agreement, we may
borrow funds under our credit facility to supplement the capital we need to
expand our business as currently planned. In the event that our plans or
assumptions change or prove to be inaccurate, the foregoing sources of funds may
prove to be insufficient to fund our currently planned growth and operations. In
addition, if we successfully complete any acquisitions, we may be required to
seek additional capital sooner than currently anticipated. Additional sources
may include equity and debt financing and other financing agreements, such as
vendor financing. We cannot assure you that we will be able to generate
sufficient cash flow from operations or that additional financing arrangements
will be available or, if available, that they can be concluded on terms
acceptable to us. Our inability to generate or obtain sufficient funds would
result in delay or abandonment of some or all of our development and expansion
plans, which could have a material adverse effect on us.
Although our liquidity has improved, our level of indebtedness and debt
service obligations significantly increased as a result of our issuance of the
11% Senior Notes, the 8-7/8% Senior Notes, the 9 3/4% Senior Notes, and the 4
1/2% Convertible Subordinated Notes. The successful implementation of our
strategy, including expansion of our network and obtaining and retaining a
significant number of customers, and significant and sustained growth in our
cash flow are necessary for us to be able to meet our debt service requirements.
We cannot assure you that we will successfully implement our strategy or that we
will be able to generate sufficient cash flow from operating activities to
improve our earnings before fixed charges, or to meet our debt service
obligations and working capital requirements. Our ability to meet our
obligations will be dependent upon our future performance, which will be subject
to prevailing economic conditions and to financial, business and other factors.
Year 2000
The Year 2000 Issue. The Year 2000 issue is the result of a computer
--------------------
programming practice first utilized during the 1960s when storage space was very
expensive and processing capability was limited. By shortening the year portion
of date field entries to two digits rather than four, programmers could save
valuable storage space and increase data processing speeds. This method of date
entry became the standard method for programmers for mainframes, personal
computers, and hardware, including processor chips. Because of this programming
convention, software, hardware, or firmware may recognize a date field using
"00" as the year 1900 rather than the year 2000. If left uncorrected, this
could possibly result in system failures, miscalculations, or errors causing
disruptions in software-dependent operations.
ITC/\DeltaCom's Program. We have undertaken a comprehensive program to
-----------------------
address the Year 2000 issue with respect to the following:
. our information technology and operating systems, including network
switching, customer service, call detail and billing systems;
20
<PAGE>
. our non-information technology systems, such as buildings, plant, equipment
and other infrastructure systems that may contain embedded microcontroller
technology;
. the systems of our major vendors, third party network service providers,
and other material service providers insofar as they relate to our
business; and
. our major carrier's carrier and retail services customers.
As explained below, the program involves:
. a wide-ranging assessment of the potential Year 2000 issues that may affect
us;
. the development of remedies to address the concerns discovered in the
assessment phase;
. testing of the remedies; and
. the preparation of contingency plans to deal with potential failure
scenarios.
These steps will vary to meet the particular needs of a system or company
division and, in some cases, will overlap. Assessment, for example, is an on-
going element of our Year 2000 program.
Assessment Phase. As part of the assessment phase of this program, we have
-----------------
identified substantially all of the major components of the systems described
above. In order to determine the extent to which such systems are vulnerable to
the Year 2000 issue, we:
. evaluated our internally developed software applications;
. inventoried and assessed our facilities and equipment; and
. contacted substantially all of our significant hardware, software, and
other equipment vendors, third party network service providers, other
material service providers, and material customers, requesting detailed,
written information related to their Year 2000 compliance and the
compliance status of the products or services they provide to us, if any.
In addition, we perform a Year 2000 readiness assessment of all potential
purchases, leases, or contracts in an effort to prevent the acquisition of a
non-compliant system or facility.
To date, we have received and analyzed responses from substantially all of
our major vendors and service providers. We have also received responses from
approximately four-fifths of our customers to which inquiries were sent. The
responses received included our major carrier's carrier and retail services
customers.
Based upon the responses received to date, and assuming contradictory
responses are not received in the future from the third parties who have been
solicited, we believe that our third party manufactured computer operating
systems dedicated to our customer service, call detail records and billing
systems and our Nortel and Ascend system switches are now Year 2000 compliant.
We are in the process of investigating, and intend to closely monitor, the Year
2000 readiness of the three public utilities that own and operate approximately
3,700 miles of our approximately 8,100-mile fiber optic network. These three
utilities have indicated that they are Year 2000 compliant. We have been
informed by the financial institutions that provide services to us that they
each have undertaken Year 2000 programs and expect to be Year 2000 compliant.
Of our two largest carrier's carrier customers, which together represented
approximately 11.4% of our consolidated revenues for the six months ended June
30, 1999, one has responded that it is Year 2000 compliant and the other has
responded that it plans to have its mission-critical systems compliant by the
end of the third quarter of 1999. Of our five largest retail services
customers, which represented an aggregate of approximately 12.2% of our
consolidated revenues for the six months ended June 30, 1999, four have either
informed ITC/\DeltaCom or made public disclosures that their mission-critical
systems are now Year 2000 compliant.
Remediation and Testing. Based upon the results of our assessment efforts,
-----------------------
we conducted remediation and testing of the at-risk systems identified by the
assessment. The activities conducted during this phase were intended to
affirmatively address potential Year 2000 problems in our internally developed
computer software in our information technology and non-information technology
systems, and then demonstrate that the remediation was effective when the system
is used within normal operating parameters. In this phase, we first evaluated a
program application and, if a potential Year 2000 problem was identified, steps
were taken to remediate the problem, and the application was then individually
tested to confirm that the remediating changes were effective
21
<PAGE>
and did not adversely affect the functionality of that application. Similar
remediation and testing was undertaken with respect to the hardware and other
equipment that operates or is operated by the software. After the individual
applications and system components were remediated and tested, integrated
testing was conducted to demonstrate functional integrated systems operation.
We have completed the remediation and testing of our internally developed
code and the systems that operate and are operated by such software, and we have
placed the remediated systems and software into production.
After we completed the internally developed code remediation, we arranged
to conduct laboratory-simulated integrated systems testing in an effort to
demonstrate Year 2000 compliance of our integrated telecommunications systems
currently in use as they interface with external systems and the equipment of
major vendors, third party network providers, other material service providers
and customers. This testing effort covered our essential network configurations
and integration configurations with the most common network components, which
are utilized by customers and other third parties that interconnect with our
network. We have completed the integrated systems testing process. No Year
2000 related failure or errors were experienced in testing.
Contingency Plans. We continue to develop contingency plans to handle
------------------
potential Year 2000-related failure scenarios. We anticipate that the bulk of
our contingency planning will primarily address potential year 2000 problems due
to the potential failure of our interconnecting carriers' and vendors' Year 2000
remediation efforts and our failure and/or the failure of our third party
suppliers to remediate major systems successfully.
We expect to complete preparation of our contingency plans by the end of
the third quarter of 1999. These contingency plans will continue to be refined
and updated through the end of 1999 based upon, among other things, responses
from third party inquiries. A failure to meet this target could materially
impact our operations.
Program Execution and Oversight. We have established a Year 2000 project
--------------------------------
office, and our executive management reviews our progress on Year 2000 efforts
on a monthly basis. The board of directors has designated the Year 2000
oversight role to the Board's Audit Committee, and that Committee receives
periodic updates and progress reports on our Year 2000 preparations.
To execute our Year 2000 program, we are utilizing both internal and
external resources to identify, correct, reprogram, and test our systems for
Year 2000 compliance. Our use of internal resources to achieve the aims of our
Year 2000 program has not had a material adverse effect on our ability to
develop new products and services or to maintain and upgrade, if necessary, our
existing products and services. Our use of external resources to achieve the
aims of our Year 2000 program has not had a material adverse effect on our
operations or earnings.
Costs Related to the Year 2000 Issue. We have incurred, and expect to
-------------------------------------
incur in the future, internal labor as well as consulting and other expenses
necessary to prepare our systems for the Year 2000. Through the end of 1998, we
incurred approximately $1.1 million in external costs for our Year 2000 program.
We incurred approximately $552,000 during the six months ended June 30, 1999 and
currently estimate that we will incur external expenses during 1999 to complete
our Year 2000 compliance work which we do not expect to exceed approximately
$450,000. The actual costs, which may vary from our estimates, have been, and
will continue to be, expensed as incurred.
Risks Related to the Year 2000 Issue. We have been implementing a detailed
-------------------------------------
program to minimize the possibility of service interruptions or adverse effects
related to the Year 2000 issue. Although our Year 2000 efforts are intended to
minimize the potential adverse effects of the Year 2000 issue on our business
and operations, the actual effects of the issue cannot and will not be known
until the Year 2000. Failure by us and/or our major vendors, third party
network service providers, and other material service providers and customers to
adequately address their respective Year 2000 issues in a timely manner, insofar
as they relate to our business, could have a material adverse effect on our
business, results of operations, and financial condition.
22
<PAGE>
Like all telecommunication service providers, our ability to provide
service is dependent on our interconnecting carriers and third party vendors,
including non-telecommunications related services providers. Our ability to
provide service and, therefore, our business, could be adversely affected if
these third parties fail to achieve Year 2000 compliance on a timely basis.
Failure by our carrier's carrier customers and retail services customers to
adequately address their Year 2000 issues could adversely affect their demand
for telecommunications service, which in turn could adversely affect our
revenues. We have taken steps to raise customer awareness of the Year 2000
issue and to encourage our customers to develop and implement plans to become
Year 2000 compliant.
Our failure to correct a material Year 2000 problem could result in
interruptions or a failure of our normal business activities and operations.
Such failures could materially and adversely affect our results of operations,
liquidity, and financial condition. At this time, we are unable to determine
whether the consequences of third-party Year 2000 failures will have a material
impact on our results of operations, liquidity, or financial condition due to
the general uncertainty inherent in the Year 2000 problem, and uncertainties
relating to the Year 2000 readiness of our interconnecting carriers and vendors.
Our Year 2000 program is expected to reduce significantly our level of
uncertainty about the Year 2000 problem and, in particular, about the Year 2000
compliance and readiness of our information technology, telecommunications
equipment, and operating systems, our major vendors, third party network service
providers, and other material service providers and our customers. We believe
that, with the internal implementation of remediated information and network
systems, our interconnecting carriers' and primary vendors' Year 2000 readiness,
and completion of the Year 2000 contingency plan as scheduled, we will maintain
normal operations for dates after December 31, 1999.
Effects of Accounting Standards
Statement of Position 98-1, Accounting for the Costs of Computer Software
Developed or Obtained for Internal Use, provides guidance on accounting for the
costs of computer software developed or obtained for internal use and was
adopted January 1, 1999, with no material impact on the consolidated financial
statements.
SFAS No. 133, Accounting for Derivative Instruments and for Hedging
Activities, establishes accounting and reporting standards requiring that every
derivative instrument (including certain derivative instruments embedded in
other contracts) be recorded in the balance sheet as either an asset or
liability measured at its fair value. SFAS No. 133 requires that changes in the
derivative's fair value be recognized currently in earnings unless specific
hedge accounting criteria are met. Special accounting for qualifying hedges
allows a derivative's gains and losses to offset related results on the hedged
item in the income statement, and requires that a company must formally
document, designate and assess the effectiveness of transactions that receive
hedge accounting. SFAS No. 133 was originally effective for fiscal years
beginning after June 15, 1999. SFAS No. 133 cannot be applied retroactively.
SFAS No. 133 must be applied to (1) derivative instruments and (2) certain
derivative instruments embedded in hybrid contracts that were issued, acquired,
or substantively modified after December 31, 1997. In June 1999, the FASB
issued SFAS No. 137, Accounting for Derivative Instruments and Hedging
Activities Deferral of the Effective Date of FASB Statement No. 133, which
amends SFAS No. 133 to be effective for all fiscal years beginning after June
15, 2000 (January 1, 2001 for companies with calendar-year fiscal years). We
expect to implement SFAS No. 137 for the fiscal year beginning January 1, 2001,
and do not expect the adoption of SFAS No. 137 will have a material affect on
our consolidated financial statements.
Inflation
We do not believe that inflation has had a significant impact on our
consolidated operations.
Item 3. Quantitative And Qualitative Disclosures About Market Risk.
We are exposed to interest rate risk related to our interest rate swap
agreement and our borrowings under our credit facility. There were no borrowings
outstanding under our credit facility as of June 30, 1999. Additionally, we are
exposed to fair value risk related to our fixed-rate, long-term debt. Our market
risk sensitive instruments do not subject us to material market risk exposures.
23
<PAGE>
P A R T II
OTHER INFORMATION
Item 4. Submission of Matters to a Vote of Security Holders
The Annual Meeting of Stockholders of ITC/\DeltaCom was held on May 13,
1999. All of the proposals presented for stockholder consideration at the
Annual Meeting were approved. The following is a tabulation of the voting on
each proposal presented at the Annual Meeting and a listing of the directors
whose term of office as a director continued after the meeting. Each share of
common stock voted on the proposals set forth below had one vote per share.
<TABLE>
<CAPTION>
Proposal 1 --- Election of Directors
Elected Director Term Expires Votes For Votes Against
- ---------------- ------------ --------- -------------
<S> <C> <C> <C>
Robert A. Dolson 2002 41,954,132 47,443
O. Gene Gabbard 2002 41,954,632 46,943
William H. Scott, III 2002 41,954,632 46,943
Continuing Directors
- --------------------
Campbell B. Lanier, III 2000
Andrew M. Walker 2000
Donald W. Burton 2001
Malcolm C. Davenport, V 2001
William T. Parr 2001
William B. Timmerman 2000
</TABLE>
Proposal 2 --- Amendment to the ITC/\DeltaCom, Inc. 1997 Stock Option Plan
An amendment to the ITC/\DeltaCom, Inc. 1997 Stock Option Plan to increase
the number of shares of our common stock that may be issued thereunder from
4,815,000 shares to 7,815,000 shares was voted on and approved.
<TABLE>
<CAPTION>
<S> <C>
Votes For 33,636,389
Votes Against 3,020,069
Votes Withheld 29,826
Broker Non-Votes 5,315,291
Proposal 3 --- Ratification of the Appointment of ITC/\DeltaCom's Independent Public Accountants.
Votes For 41,981,073
Votes Against 5,052
Votes Withheld 15,450
Broker Non-Votes 0
</TABLE>
24
<PAGE>
Item 5. Other Information
Pursuant to the Agreement and Plan of Merger between AvData Systems, Inc.
and ITC/\DeltaCom, dated April 15, 1999, James H. Black, Jr. was unanimously
appointed to ITC/\DeltaCom's board of directors on July 27, 1999. Mr. Black's
term will expire in 2000.
In connection with Mr. Black's appointment, the number of directors
constituting ITC/\DeltaCom's board was increased from nine to ten.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits.
2.1 Agreement and Plan of Merger, dated April 15, 1999. Filed as exhibit
2.1 to the Current Report on Form 8-K, File No. 0-23253, filed with
the Securities and Exchange Commission on April 15, 1999, and
incorporated herein by reference.
27.1 Financial Data Schedule.
99.1 Press Release dated April 15, 1999. Filed as exhibit 99.1 to the
Current Report on Form 8-K, File No. 0-23253, filed with the
Securities and Exchange Commission on April 15, 1999, and incorporated
herein by reference.
99.2 Press Release dated April 28, 1999. Filed as exhibit 99.1 to the
Current Report on Form 8-K, File No. 0-23253, filed with the
Securities and Exchange Commission on May 6, 1999, and incorporated
herein by reference.
(b) Reports on Form 8-K.
On April 15, 1999, in connection with the acquisition of AvData,
ITC/\DeltaCom filed a Current Report on Form 8-K.
On May 6, 1999, in connection with the public offering of common stock and
the private offering of 4 1/2% convertible subordinated notes due 2006,
ITC/\DeltaCom filed a Current Report on Form 8-K.
25
<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.
ITC/\DELTACOM, INC.
------------------
(Registrant)
Date: August 13, 1999 By: /s/ Foster O. McDonald
----------------------
Foster O. McDonald
President
Date: August 13, 1999 By: /s/ Douglas A. Shumate
----------------------
Douglas A. Shumate
Senior Vice President and
Chief Financial Officer
26
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
This financial data schedule contains summary financial information extracted
from the unaudited balance sheet of ITC/\DeltaCom, Inc. as of June 30, 1999.
This information is qualified in its entirety by reference to such financial
statements.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> JUN-30-1999
<CASH> 341,220
<SECURITIES> 0
<RECEIVABLES> 43,506
<ALLOWANCES> 1,582
<INVENTORY> 2,157
<CURRENT-ASSETS> 404,184
<PP&E> 382,013
<DEPRECIATION> 75,737
<TOTAL-ASSETS> 788,860
<CURRENT-LIABILITIES> 56,814
<BONDS> 516,517
0
15
<COMMON> 581
<OTHER-SE> 214,421
<TOTAL-LIABILITY-AND-EQUITY> 788,860
<SALES> 110,410
<TOTAL-REVENUES> 110,410
<CGS> 55,020
<TOTAL-COSTS> 120,878
<OTHER-EXPENSES> 529
<LOSS-PROVISION> 495
<INTEREST-EXPENSE> 21,594
<INCOME-PRETAX> (25,854)
<INCOME-TAX> 94
<INCOME-CONTINUING> (25,948)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (25,948)
<EPS-BASIC> (.49)
<EPS-DILUTED> (.49)
</TABLE>
