SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF
THE SECURITIES EXCHANGE ACT OF 1934
COMMISSION FILE NO. 0-23087
STARTEC GLOBAL COMMUNICATIONS CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
MARYLAND 52-1660985
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION)
10411 MOTOR CITY DRIVE, BETHESDA, MD 20817
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
(301) 365-8959
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
Securities registered pursuant to Section 12(g) of the Act: None
Common Stock, $0.01 par value
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 by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K is not contained herein, and will not be contained,
to the best of the registrants' knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [_]
Non-affiliates of Startec Global Communications Corporation held
3,977,500 shares of Common Stock as of March 20, 1998. The fair market value of
the stock held by non-affiliates is $101,426,250 based on the sale price of the
shares on March 20, 1998.
As of March 20, 1998, 8,919,615 shares of Common Stock, par value $0.01,
were outstanding.
Documents Incorporated by Reference:
Portions of the definitive Proxy Statement to be delivered to Stockholders
in connection with the Annual Meeting of Stockholders are incorporated by
reference into Part III.
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STARTEC GLOBAL COMMUNICATIONS CORPORATION
FORM 10-K
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997
TABLE OF CONTENTS
PART I.
Item 1. BUSINESS.....................................................3
Item 2. PROPERTIES..................................................14
Item 3. LEGAL PROCEEDINGS...........................................15
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.........15
PART II.
Item 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED
STOCKHOLDER MATTERS......................................15
Item 6. SELECTED FINANCIAL DATA.....................................16
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS......................17
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET
RISK.....................................................21
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.................22
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON
ACCOUNTING AND FINANCIAL DISCLOSURE......................39
PART III.
Item 10. DIRECTORS AND EXECUTIVE OFFICERS............................39
Item 11. EXECUTIVE COMPENSATION......................................39
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL
OWNERS AND MANAGEMENT....................................39
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS..............39
PART IV.
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS
ON FORM 8-K..............................................39
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PART I
NOTE ON FORWARD-LOOKING STATEMENTS
This Form 10-K contains certain 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. Forward-looking
statements are statements other than historical information or statements of
current condition. Some forward-looking statements may be identified by use of
terms such as "believes", "anticipates", "intends", or "expects". These
forward-looking statements relate to the plans, objectives and expectations of
Startec Global Communications Corporation (the "Company" or "Startec Global".)
for future operations. In light of the risks and uncertainties inherent in all
forward-looking statements, the inclusion of such statements in this Form 10-K
should not be regarded as a representation by the Company or any other person
that the objectives or plans of the Company will be achieved or that any of the
Company's operating expectations will be realized. The Company's revenues and
results of operations are difficult to forecast and could differ materially from
those projected in the forward-looking statements contained herein as a result
of certain factors including, but not limited to, dependence on operating
agreements with foreign partners, significant foreign and U.S.-based customers
and suppliers, availability of transmission facilities, U.S. and foreign
regulations, international economic and political instability, dependence on
effective billing and information systems, customer attrition and rapid
technological change. These factors should not be considered exhaustive; the
Company undertakes no obligation to release publicly the results of any future
revisions it may make to forward-looking statements to reflect events or
circumstances after the date hereof or to reflect the occurrence of
unanticipated events.
ITEM 1. BUSINESS
OVERVIEW
STARTEC GLOBAL is a rapidly growing, facilities-based international long
distance carrier which markets its services to select ethnic U.S. residential
communities that have significant international long distance usage.
Additionally, to maximize the efficiency of its network capacity, the Company
sells its international long distance services to some of the world's leading
carriers. The Company provides its services through a flexible network of owned
and leased transmission facilities, resale arrangements and a variety of
operating agreements and termination arrangements. The Company currently
operates international gateway facilities in New York City and Washington, D.C.
In addition to these sites, it leases switching facilities from other
telecommunications carriers.
The Company's mission is to dominate select international telecom markets
by strategically building network facilities that allow it to manage both sides
of a telephone call. The Company intends to own multiple switches and other
network facilities which allow it to originate and terminate a substantial
portion of its own traffic. The Company believes that building network
facilities, acquiring additional termination options and expanding its proven
marketing strategy should lead to continued growth and improved profitability.
In October 1997, the Company completed an initial public offering of its
common stock (the "Offering"). Together with the exercise of the overallotment
option in November 1997, the Offering placed 3,277,500 shares of common stock,
yielding net proceeds to the Company of approximately $35 million. The Company
has used $6.5 million of the net proceeds to repay indebtedness. The Company has
used approximately $2.1 million to purchase international switching equipment
and undersea fiber optic cables. The Company intends to use the remaining net
proceeds of the Offering to acquire cable facilities, switching, compression and
other related telecommunications equipment, for marketing programs, to pay down
certain amounts due under the Company's existing credit facility and for working
capital and other general corporate purposes.
The Company was incorporated in Maryland in 1989. The principal
executive offices of the Company are located at 10411 Motor City Drive,
Bethesda, Maryland 20817 and its telephone number is (301) 365-8959. The Company
changed its name in 1997 from STARTEC, Inc. to Startec Global Communications
Corporation.
INDUSTRY BACKGROUND
The international telecommunications industry consists of transmissions of
voice and data that originate in one country and terminate in another. This
industry is experiencing a period of rapid change which has resulted in
substantial growth in international telecommunications traffic. For domestic
carriers, the international market can be divided into two major segments: the
U.S.-originated market, which consists of all international calls which either
originate or are billed in the United States, and the overseas market, which
consists of all calls billed outside the United States. According to the
Company's market research, the international telecommunications services market
was approximately $56 billion in aggregate carrier revenues for 1995, and the
volume of international traffic on the public telephone network is expected to
grow at a compound annual growth rate of 10% or more from 1997 through the year
2000. The U.S.-originated international market has experienced substantial
growth in recent years, with revenues rising from approximately $8 billion in
1990 to approximately $14 billion in 1995.
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The Company believes that the international telecommunications market will
continue to experience strong growth for the foreseeable future as a result of
the following developments and trends:
o Global Economic Development and Increased Access to
Telecommunications Services. The dramatic increase in the number of
telephone lines around the world, stimulated by economic growth and
development, government mandates and technological advancements, is
expected to lead to increased demand for international
telecommunications services in those markets.
o Deregulation of Telecommunications Markets. The continuing
deregulation and privatization of telecommunications markets has
provided, and continues to provide, opportunities for carriers who
desire to penetrate those markets.
o Reduced Rates Stimulating Higher Traffic Volumes. The reduction of
outbound international long distance rates, resulting from increased
competition and technological advancements, has made, and continues
to make, international calling available to a much larger customer
base thereby stimulating increased traffic volumes.
o Increased Capacity. The increased availability of higher-quality
digital undersea fiber optic cable has enabled international long
distance carriers to improve service quality while reducing costs.
o Popularity and Acceptance of Technology. The proliferation of
communications devices, including cellular telephones, facsimile
machines and communications equipment has led to a general increase
in the use of telecommunications services.
o Bandwidth Needs. The demand for bandwidth-intensive data
transmission services, including Internet-based demand, has
increased rapidly and is expected to continue to increase in the
future.
DEVELOPMENT OF U.S. AND FOREIGN TELECOMMUNICATIONS MARKETS
The 1984 court-ordered dissolution of AT&T's monopoly over local and long
distance telecommunications fostered the emergence of new U.S. long distance
companies. Today there are over 500 U.S. long distance companies, most of which
are small- or medium-sized companies, serving residential and business customers
and other carriers. In order to be successful, these small- and medium-sized
companies must offer customers a full range of services, including international
long distance. However, management believes most of these carriers do not have
the critical mass of traffic to receive volume discounts on international
transmission from the larger facilities-based carriers such as AT&T, MCI and
Sprint, or the financial ability to invest in international facilities.
Alternative international carriers, such as the Company, have capitalized on the
demand created by these small- and medium-sized companies for less expensive
international transmission facilities. These carriers are able to take advantage
of larger traffic volumes to obtain discounts on international routes (through
resale) and/or invest in facilities when volume on particular routes justifies
such investments. As these emerging international carriers have become
established, they have also begun to carry overflow traffic from larger long
distance providers which own international transmission facilities.
Liberalization and privatization have also allowed new long distance
providers to emerge in foreign markets. Liberalization began in the U.K. in 1981
when Mercury, a subsidiary of Cable & Wireless plc, was granted a license to
operate a facilities-based network and compete with British Telecom. The 1990
adoption of the "Directive on Competition in the Market for Telecommunications
Services" marked the beginning of deregulation in Europe, and a series of
subsequent EU directives, reports and actions are expected to result in
substantial deregulation of the telecommunications industries in most EU member
states by 1998. Liberalization is also occurring on a global basis as many
governments in Eastern Europe, Asia and Latin America privatize government-owned
monopolies and open their markets to competition. Also, signatories to the WTO
Agreement have committed, to varying degrees, to allow access to their domestic
and international markets to competing telecommunications providers, allow
foreign ownership interests in existing telecommunications providers and
establish regulatory schemes to develop and implement policies to accommodate
telecommunications competition.
As liberalization erodes the traditional monopolies held by single national
providers, many of which are wholly or partially government-owned PTT's, U.S.
long distance providers have the opportunity to negotiate more favorable
agreements with both the traditional and newly-emerging foreign providers.
Further, deregulation in certain countries is enabling U.S.-based providers to
establish local switching and transmission facilities in those countries,
allowing them to terminate their own traffic and begin to carry international
long distance traffic originating in those countries.
INTERNATIONAL SWITCHED LONG DISTANCE SERVICES
International switched long distance services are provided through
switching and transmission facilities that automatically route calls to circuits
based upon a predetermined set of routing criteria. In the U.S., an
international long distance call typically originates on a LEC's network and is
transported to the caller's domestic long distance carrier. The domestic long
distance provider picks up the call and carries the call to its own or another
carrier's international gateway switch, where an international long distance
provider picks it up and sends it directly or through one or more other long
distance providers to a corresponding gateway switch in the destination country.
Once the traffic reaches the destination country, it is routed to the party
being called through that country's domestic telephone network.
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International long distance carriers are often categorized according to
ownership and use of transmission facilities and switches. No carrier utilizes
exclusively-owned facilities for transmission of all of its long distance
traffic. Carriers vary from being primarily facilities-based, meaning that they
own and operate their own land-based and/or undersea cable and switches, to
those that are purely resellers of another carrier's transmission network. The
largest U.S. carriers, such as AT&T, MCI, Sprint and WorldCom primarily use
owned transmission facilities and switches and may transmit some of their
overflow traffic through other long distance providers, such as the Company.
Only very large carriers have the transmission facilities and operating
agreements necessary to cover the over 200 countries to which major long
distance providers generally offer service. A significantly larger group of long
distance providers own and operate their own switches but use a combination of
resale agreements with other long distance providers and leased and owned
facilities to transmit and terminate traffic, or rely solely on resale
agreements with other long distance providers.
Operating Agreements. Traditional operating agreements provide for the
termination of traffic in, and return traffic to, the international long
distance carriers' respective countries for mutual compensation at an
"accounting rate" negotiated by each country's dominant carrier. Under such
traditional operating agreements, the international long distance provider that
originates more traffic compensates the long distance provider in the other
country by paying an amount determined by multiplying the net traffic imbalance
by half of the accounting rate.
Under a typical operating agreement, each carrier owns or leases its
portion of the transmission facilities between two countries. A carrier gains
ownership rights in digital undersea fiber optic cables by: (i) purchasing
direct ownership in a particular cable (usually prior to the time the cable is
placed into service); (ii) acquiring an IRU in a previously installed cable; or
(iii) by leasing or otherwise obtaining capacity from another long distance
provider that has either direct ownership or IRU rights in a cable. In
situations in which a long distance provider has sufficiently high traffic
volume, routing calls across cable that is directly owned by a carrier or in
which a carrier has an IRU is generally more cost-effective than the use of
short-term variable capacity arrangements with other long distance providers or
leased cable. Direct ownership and IRU rights, however, require a carrier to
make an initial capital commitment based on anticipated usage.
Transit Arrangements. In addition to using traditional operating
agreements, an international long distance provider may use transit
arrangements, pursuant to which a long distance provider in an intermediate
country carries the traffic to the destination country. Transit arrangements
require agreement among all of the carriers of the countries involved in the
transmission and termination of the traffic, and are generally used for overflow
traffic or in cases in which a direct circuit is unavailable or not volume
justified.
Switched Resale Arrangements. Switched resale arrangements typically
involve the carrier purchase and sale of termination services between two long
distance providers on a variable, per minute basis. The resale of capacity was
first permitted as a result of the deregulation of the U.S. telecommunications
market, and has fostered the emergence of alternative international long
distance providers which rely, at least in part, on transmission services
acquired on a carrier basis from other long distance providers. A single
international call may pass through the facilities of multiple resellers before
it reaches the foreign facilities-based carrier which ultimately terminates the
call. Resale arrangements set per minute prices for different routes, which may
be guaranteed for a set period of time or may be subject to fluctuation
following notice. The resale market for international transmission capacity is
continually changing, as new long distance resellers emerge and existing
providers respond to changing costs and competitive pressures. In order to be
able to effectively manage costs when using resale arrangements, long distance
providers must have timely access to changing market prices and be able to react
to changes in costs through pricing adjustments and routing decisions.
Alternative Transit/Termination Arrangements. As the international long
distance market began to be more competitive, long distance providers developed
alternative transit/termination arrangements in an effort to decrease their
costs of terminating international traffic. Some of the more significant of
these arrangements include refiling, international simple resale ("ISR"), and
ownership of switching facilities in foreign countries. Refiling of traffic,
which takes advantage of disparities in settlement rates between different
countries, allows traffic to a destination country to be treated as if it
originated in another country which enjoys lower settlement rates with the
destination country, thereby resulting in a lower overall termination cost.
Refiling is similar to transit, except that with respect to transit, the
facilities- based long distance provider in the destination country has a direct
relationship with the originating long distance provider and is aware of the
transit arrangement, while with refiling, it is likely that the long distance
provider in the destination country is not aware that the received traffic
originated in another country with another carrier. To date, the FCC has made no
pronouncement as to whether refiling complies with U.S. or ITU regulations,
although it is considering such issues in an existing proceeding.
With ISR, a long distance provider completely bypasses the accounting rates
system by connecting an international leased private line to the public switched
telephone network of a foreign country or directly to the premises of a customer
or foreign partner. Although ISR is currently sanctioned by applicable
regulatory authorities only on a limited number of routes (including U.S.-U.K.,
U.S.-Canada, U.S.-Sweden, U.S.-New Zealand, U.K.-worldwide and Canada-U.K.), its
use is increasing and is expected to expand significantly as deregulation
continues in the international telecommunications market. In addition,
deregulation has made it possible for U.S.-based long distance providers to
establish their own switching facilities in certain foreign countries, allowing
them to directly terminate traffic.
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COMPANY STRATEGY
The Company began, and has historically operated, as a Switch-Based
Reseller. The Company currently is investing in network infrastructure which
will allow it to operate as a single-sided facilities-based carrier. Utilizing a
portion of the net proceeds from the Offering, the Company intends to invest in
additional network infrastructure with the objective of becoming an
international dual-sided facilities-based carrier. In December 1997, the Company
used $1.0 million in net proceeds from the Offering to acquire additional
international gateway switching equipment.
The Company intends to implement a network hubbing strategy, linking
foreign-based switches and other telecommunications equipment together with the
Company's marketing base in the United States. To implement this hubbing
strategy, the Company intends to: (i) build transmission capacity, including its
ability to originate and transport traffic; (ii) acquire additional termination
options to increase routing flexibility; and (iii) expand its customer base
through focused marketing efforts.
A "hub" will consist of an international gateway switch and/or other
telecommunications equipment, including cables and compression equipment. Hub
locations will be selected based on their similarity to the established
Company's U.S. model, in which identifiable international ethnic communities are
accessible, and where it is possible to connect with some of the leading
international carriers. Once established, these hubs will be connected to the
Company's marketing base in the United States. Management believes the hubbing
strategy will allow the Company to move from a single-sided facilities-based
carrier to a dual-sided facilities-based carrier serving ethnic communities and
telecommunication carriers in select markets worldwide.
The Company's strategy for achieving this objective consists of the
following key elements:
Build Transmission Capacity. The Company originates and transports customer
traffic through a network of Company-owned and managed facilities and facilities
leased or acquired through resale arrangements from other facilities-based long
distance carriers. The additional traffic generated by the Company's expanded
customer base and increased usage of its long distance services will necessitate
the acquisition of additional switching and transmission capacity. To meet these
needs, the Company has begun to implement a strategic build-out of its network,
including installation of improved switching facilities, planned acquisition of
ownership interests in and/or rights to use digital undersea fiber optic cables,
and installation of compression equipment to increase capacity on those cables.
The Company has also taken steps to improve its systems supporting the network
and further enhance the quality of its services by adding equipment upgrades in
its network monitoring and customer service centers, and plans to install
enhanced software which will allow it to monitor call traffic routing, capacity,
and quality. Building additional switching and transmission capacity will
decrease the Company's reliance on leased facilities and exposure to price
fluctuations. The Company's goal in taking these actions is to improve its gross
margin and provide greater assurance of the quality and reliability of its
services.
Acquire Additional Termination Options. Customer traffic is terminated in
the destination country through a variety of arrangements, including
international operating agreements. The anticipated expansion of the Company's
customer base in existing and new target markets, and the resulting increase in
traffic, will require the Company to provide additional methods to terminate
that traffic. As part of its hubbing strategy, the Company plans to explore a
number of options including additional operating agreements, strategic
alliances, transit and refile arrangements, and the acquisition of switching
facilities in foreign countries. The increase in termination options is expected
to provide greater routing flexibility and reliability, as well as permitting
greater management and control over the cost of transmitting customers' calls.
Expand Customer Base. The Company will continue to target additional ethnic
U.S. residential communities with significant international long distance usage.
In addition, the Company plans to extend its marketing efforts outside the U.S.
into countries which have ethnic communities which the Company believes are
potential customers, and to begin marketing its long distance services to
U.S.-based small businesses which have an international focus. The Company will
also consider opportunities to increase its residential customer base through
strategic alliances and acquisitions. By increasing its residential customer
base, the Company's goal is to capture operating efficiencies associated with
high traffic volumes and to increase its margins.
The Company's marketing strategy, which targets select ethnic communities
is attractive to foreign carriers who enter into agreements with the Company in
order to capture outgoing international U.S. traffic from customers located in
their corresponding U.S. ethnic communities. As a result of the relationships
established by these agreements, the Company expects that its global
telecommunications network will become more cost effective and will make the
Company an attractive supplier to the world's leading carriers. The Company also
anticipates that its hubbing strategy will allow it to serve carrier customers
over a wider geographical area.
CUSTOMERS
The number of the Company's residential customers has grown significantly
over the past three years, from approximately 6,300 as of January 1, 1995 to
more than 71,500 as of December 31, 1997 (as measured over a 30 day period).
These customers generally are members of ethnic groups that tend to be
concentrated in major U.S. metropolitan areas, including Asian, Middle Eastern,
Sub-Saharan African, and European communities. Net revenues from residential
customers accounted for approximately 51%, 37% and 33% of the Company's net
revenues in the years ended December 31, 1995, 1996, and 1997, respectively. No
single residential customer accounted for more than one percent of the Company's
revenues during those periods.
The number of the Company's carrier customers also has grown significantly
since the Company first began marketing its services to this segment in late
1995. As of December 31, 1997, the Company had 39 active carrier customers, with
revenues from carrier customers accounting for 49%, 63% and 67% of the Company's
net revenues in the years ended December 31, 1995, 1996, and 1997, respectively.
One of these carrier customers, WorldCom, accounted for approximately 23% of
total net revenues in the years ended December 31, 1996 and 1997. In addition,
certain carrier customers also accounted for more than 10% of the Company's net
revenues during the fiscal years ended December 31, 1995, 1996
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and 1997. In 1995, VSNL accounted for approximately 19% of net revenues. In
1997, Frontier accounted for 14% of net revenues. No other customer accounted
for 10% or more of the Company's net revenues during 1995, 1996 or 1997. In a
number of cases, the Company provides services to carriers that are also
suppliers to the Company.
Substantially all of the Company's revenues for the past three fiscal years
have been derived from calls terminated outside the United States. The
percentages of net revenues attributable on a region-by-region basis are set
forth in the table below.
YEAR ENDED DECEMBER 31,
-----------------------
1995 1996 1997
---- ---- ----
Asia/Pacific Rim............................... 66.4 % 43.0 % 49.0 %
Middle East/North Africa....................... 6.6 25.7 24.7
Sub-Saharan Africa............................. 0.3 3.5 7.4
Eastern Europe................................. 3.0 8.2 9.3
Western Europe................................. 15.7 5.5 2.2
North America.................................. 4.7 11.5 4.0
Other.......................................... 3.3 2.6 3.4
----- ----- -----
100.0 % 100.0% 100.0%
====== ===== =====
The Company has entered into operating agreements with telecommunication
carriers in foreign countries under which international long-distance traffic is
both delivered and received. Under these agreements, the foreign carriers are
contractually obligated to adhere to the policy of the FCC, which requires that
traffic from the foreign country is routed to international carriers, such as
the Company, in the same proportion as traffic carried into the country.
Mutually exchanged traffic between the Company and foreign carriers is settled
through a formal settlement policy at agreed upon rates per minute. The Company
records the amount due to the foreign partner as an expense in the period the
traffic is terminated. When the return traffic is received in the future period,
the Company generally realizes a higher gross margin on the return traffic
compared to the lower margin (or sometimes negative margin) on the outbound
traffic. Revenue recognized from return traffic was approximately $2.0 million
$1.1 million , and $1.4 million, or 19%, 3%, and 2% of net revenues in 1995,
1996, and 1997, respectively. There can be no assurance that traffic will be
delivered back to the United States or what impact changes in future settlement
rates, allocations among carriers or levels of traffic will have on net payments
made and revenues received.
SERVICES AND MARKETING
The Company focuses primarily on the provision of international long
distance services to targeted residential customers in major U.S. metropolitan
areas. The Company also offers international long distance services to other
telecommunications carriers and interstate long distance services in the U.S.
Using part of the proceeds obtained under the Credit Agreement (or "Loan")
in July 1997 and a portion of the proceeds of the Offering, the Company recently
expanded its residential marketing program, targeting additional ethnic
communities with significant international long distance usage and increasing
its efforts within its current target markets. The Company intends to continue
to use a portion of the remaining proceeds of the Offering to expand
significantly its residential marketing programs in the U.S., and to implement
its marketing strategy abroad.
Residential Customers
The Company generally provides international and interstate residential
long distance customers with dial-around long distance service. Residential
customers access STARTEC GLOBAL'S network by dialing its CIC code before dialing
the number they are calling. Using a CIC Code to access the Company allows
customers to use the Company's services at any time without changing their
existing long distance carrier. It is also possible for a customer to select
STARTEC GLOBAL as its default long distance carrier. In this instance, the LEC
would automatically route all of that customer's long distance calls through
STARTEC GLOBAL'S network. As part of its marketing strategy, the Company
maintains a comprehensive database of customer information which is used for the
development of marketing programs, strategic planning, and other purposes.
The Company invests substantial resources in identifying and evaluating
potential markets for its services. In particular, the Company looks for ethnic
groups having qualities and characteristics which indicate a large potential for
high-volume international telecommunications usage. Once a market has been
identified, the Company evaluates the opportunity presented by that market based
upon factors that include the credit characteristics of the target group,
switching requirements, network access and vendor diversity. Assuming that the
target market meets the Company's criteria, the Company implements marketing
programs targeted specifically at that ethnic group, with the goal of generating
region-specific international long distance traffic. The Company markets its
residential services under the "STARTEC" name through a variety of media,
including low-cost print advertising, radio and television advertising on ethnic
programs and direct mail, all in the customers' native language.The Company also
sponsors and attends community events and trade shows
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Potential customers call a toll free number and are connected to a
multilingual customer service representative. The Company uses this opportunity
to obtain detailed information regarding, among other things, customers'
anticipated calling patterns. The customer service representative then sends out
a welcome pack explaining how to use the services. Once the customer begins to
use the services, the Company monitors usage and periodically communicates with
the customer to gauge service satisfaction. STARTEC GLOBAL also uses proprietary
software to assist it in tracking customer satisfaction and a variety of
customer behaviors, including turnover ("churn"), retention and frequency of
usage.
The Company currently markets its services to the Asian, Middle Eastern,
Sub-Saharan African, and European communities in the U.S. In addition, the
Company is considering marketing its services internationally in geographic
areas that have ethnic communities that may meet the Company's criteria for
potential target markets.
In addition to its current long distance services, the Company continually
evaluates potential new service offerings in order to increase traffic and
customer retention and loyalty. New services the Company expects to introduce
include Home Country Direct Services which provides customers with access to
STARTEC GLOBAL'S network from any country and allows them to place either
collect or credit/debit card calls, and Prepaid Domestic and International
Calling Cards which can be used from any touch tone telephone in the United
States, Canada or the United Kingdom.
Carrier Customers
To maximize the efficiency of its network capacity, the Company sells its
international long distance services to other telecommunication carriers.
STARTEC GLOBAL has been actively marketing its services to carrier customers
since late 1995 and believes that it has established a high degree of
credibility and valuable relationships with the leading carriers. The Company
participates in international carrier membership organizations, trade shows,
seminars and other events that provide its marketing staff with opportunities to
establish and maintain relationships with other carriers that are potential
customers. The Company generally avoids providing services to lower-tiered
carriers because of potential difficulties in collecting accounts receivable.
THE STARTEC GLOBAL NETWORK
The Company provides its services through a flexible network of owned and
leased transmission facilities, resale arrangements, and a variety of operating
agreements and termination arrangements, all of which allow the Company to
terminate traffic in every county which has telecommunication capabilities. The
Company has been expanding its network to match increases in its long distance
traffic volume, and has recently begun to implement plans for a significant
strategic build-out of the STARTEC GLOBAL network. The purpose of the build-out
is to increase profitability by controlling costs, while maintaining a high
degree of network quality and reliability. The network employs advanced
switching technologies and is supported by monitoring facilities and the
Company's technical support personnel.
Switching and Transmission Facilities
The Company currently has installed an international gateway switching
facility in New York City and owns and operates and international gateway in
Washington, D.C. The Company began migrating traffic from its Washington D.C.
switch to the New York switch in the first quarter of 1998. When all traffic has
been migrated to the New York switch, the Washington, D.C. location will become
a point-of-presence and the switch transferred to Chicago in the third quarter
of 1998. This installation of a switch in New York City is expected to reduce
leased line charges and increase the Company's ability to originate traffic on
its own network. In addition, the New York City facility is larger than the
Company's Washington, D.C. facility, which enabled the Company to install a
larger and more cost effective switch. The Company has also purchased a switch
for an additional international gateway facility in Los Angeles, California.
International long distance traffic is transmitted through an international
gateway switch, across undersea digital fiber optic cable lines or via
satellite, to the destination country. STARTEC GLOBAL has recently purchased
Indefeasible Rights of Usage (IRUs) on the Cantat-3, Canus-1, Columbus II, and
Columbus III cables. It accesses additional cables and satellite facilities
through arrangements with other carriers. The Company is currently negotiating
for the acquisition of IRUs on cables throughout the world. The Company believes
that it may achieve substantial savings by acquiring additional IRUs, which
would reduce its dependence on leased cable access. Having an ownership interest
rather than a lease interest in undersea cable enables the Company to increase
its capacity without a significant increase in cost, by utilizing digital
compression equipment, which it cannot do under leasing or similar access
arrangements. Digital compression equipment enhances the traffic capacity of the
undersea cable, which permits the Company to maximize cable utilization while
reducing the Company's need to acquire additional capacity. The Company is
currently in negotiations to acquire digital compression equipment.
The Company enters into lease arrangements and resale agreements with other
telecommunications carriers when cost effective. The Company purchases switched
minute capacity from various carriers and depends on such agreements for
termination of its traffic. The Company currently purchases capacity from
approximately 37 carriers. Purchases from the five largest suppliers of capacity
represented 67% and 47% of the Company's total cost of services for the fiscal
years ended December 31, 1996 and 1997, respectively. During the fiscal year
ended December 31, 1996, VSNL, Cherry Communications, Inc., and WorldCom
accounted for 25%, 13% and 13% of total cost of services, respectively. During
the fiscal year ended December 31, 1997, WorldCom and Pacific Gateway Exchange
accounted for and 13% and 12% of total costs of services, respectively. No other
supplier accounted for 10% or more of the Company's cost of sales during 1996 or
1997
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Further, the Company utilizes the services of several alternate, cost
effective carriers in order to transport and terminate its traffic. These
alternative carriers provide the Company with substantial flexibility and cost
efficiency, as well as diversity, in the event one carrier's charges increase or
such carrier is not capable of providing the services STARTEC GLOBAL needs in
order to transport and terminate its traffic.
The Company's efforts to build additional switching and transmission
capacity are intended to decrease the Company's reliance on leased facilities
and resale agreements. The strength of the Company's international operations is
based upon the diversity of its cost effective routes to terminal points. The
primary benefits of owning and operating additional network facilities instead
of leasing or reselling another carrier's capacity arise from reduced
transmission costs and greater control over service quality and reliability. The
transmission cost for a call that is not routed through the Company's owned
facilities is dependent upon the cost per minute paid to the underlying carrier.
In contrast, the cost of a call routed through the Company's owned facilities is
dependent upon the total fixed costs associated with owning and operating those
facilities. As traffic across the owned facilities increases, management
believes the Company can capture operating efficiencies and improve its margins.
Termination Arrangements
STARTEC GLOBAL attempts to retain flexibility and maximize its termination
options by using a mix of operating agreements, transit and refile arrangements,
resale agreements and other arrangements to terminate its traffic in the
destination country. The Company's approach is designed to enable it to take
advantage of the rapidly evolving international telecommunications market in
order to provide low cost international long distance services to its customers.
The Company currently has effective operating agreements with the national
telecommunications administrations of India, Uganda, Syria, Monaco, Malaysia,
and the Dominican Republic under which it exchanges traffic. The Company pursues
additional operating agreements with other foreign governments and
administrations on an ongoing basis. In addition, the Company uses resale
agreements and transit and refile arrangements to terminate its traffic in
countries with which it does not have operating agreements. These agreements and
arrangements provide the Company with multiple options for routing traffic to
each destination country.
The Company is also exploring the possibility of acquiring facilities in
certain foreign countries, including the United Kingdom. This option is becoming
increasingly available as deregulation continues in the international
telecommunications market, and would provide the Company with opportunities to
terminate its own traffic and better control customer calls.
Network Operations, Technical Support and Customer Service
The Company uses proprietary routing software to maximize routing
efficiency. Network operations personnel continually monitor pricing changes by
the Company's carrier-suppliers and adjust call routing to make cost efficient
use of available capacity. In addition, the Company provides 24-hour network
monitoring, trouble reporting and response procedures, service implementation
coordination and problem resolution. The Company has developed and used
proprietary software which allows it to monitor, on a minute by minute basis,
all key aspects of its services. Recent software upgrades and additional network
monitoring equipment have been installed to enhance the Company's ability to
handle increased traffic and monitor network operations. The Company's customer
service center, which services the residential customer base, is staffed by
trained, multilingual customer service representatives, and operates 24 hours a
day seven days a week. The customer service center uses advanced ACD software to
distribute incoming calls to its customer service representatives.
The Company generally utilizes redundant, highly automated state-of-the-art
telecommunications equipment in its network and has diverse alternate routes
available in cases of component or facility failure, or in the event that cable
transmission wires are inadvertently cut. Back-up power systems and automatic
traffic re-routing enable the Company to provide a high level of reliability for
its customers. Computerized automatic network monitoring equipment allows fast
and accurate analysis and resolution of network problems. In general, the
Company relies upon other carriers' networks to provide redundancy in the event
of technical difficulties in the network. The Company believes that this is a
more cost effective strategy than purchasing or leasing its own redundant
capacity.
MANAGEMENT INFORMATION AND BILLING SYSTEMS
The Company's operations use advanced information systems including call
data collection and call data storage linked to a proprietary reporting system.
The Company also maintains redundant billing systems for rapid and accurate
customer billing. The Company's systems enable it, on a real time basis, to
determine cost effective termination alternatives, monitor customer usage and
manage profit margins. The Company's systems also enable it to ensure accurate
and timely billing and reduce routing errors.
The Company's proprietary reporting software compiles call, price and cost
data into a variety of reports which the Company can use to re-program its
routes on a real time basis. The Company's reporting software can generate
additional reports, as needed, including customer usage, country usage, vendor
rates, vendor usage by minute, dollarized vendor usage, and loss reports.
The Company has built multiple redundancies into its billing and call data
collection systems. Two call collector computers receive redundant call
information simultaneously, one of which produces a file every 24 hours for
filing purposes while the other immediately forwards the called data to
corporate headquarters for use in customer service and traffic analysis. The
Company maintains two independent and redundant billing systems in order to both
verify billing internally and to ensure that bills are sent out on a timely
basis. All of the call data, and resulting billing data, are continuously backed
up on tape drive and redundant storage devices.
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Residential customers are billed for the Company's services through the
LEC, with the Company's charges appearing directly on the bill each residential
customer receives from its LEC. The Company utilizes a third party billing
company to facilitate collections of amounts due to the Company from the LECs.
The third party billing company receives collections from the LEC and transfers
the sums to the Company, after withholding processing fees, applicable taxes,
and provisions for credits and uncollectible accounts. As part of its strategy,
the Company also plans to enter into billing and collection agreements directly
with certain LECs, which will provide the Company with opportunities to reduce
some of the costs currently associated with billing and collection.
COMPETITION
The long distance telecommunications industry is intensely competitive. In
many of the markets targeted by the Company there are numerous entities which
are currently competing for the same residential and carrier customers and
others which have announced their intention to enter those markets.
International and interstate telecommunications providers compete on the basis
of price, customer service, transmission quality, breadth of service offerings
and value-added services. Residential customers frequently change long distance
providers in response to competitors' offerings of lower rates or promotional
incentives, and, in general, the Company's customers can switch carriers at any
time. In addition, the availability of dial-around long distance services has
made it possible for residential customers to use the services of a variety of
competing long distance providers without the necessity of switching carriers.
The Company's carrier customers generally also use the services of a number of
other international long distance telecommunications providers. The Company
believes that competition in its international and interstate long distance
markets is likely to increase as these markets continue to experience decreased
regulation and as new technologies are applied to telecommunications. Prices for
long distance calls in several of the markets in which the Company competes have
declined in recent years and are likely to continue to decrease. While the
Company competes generally with the domestic and international carriers
discussed herein, it believes that STARTEC GLOBAL is a leader in its chosen
business niche - the provision of international long distance services to
residential customers in targeted ethnic markets.
The U.S.-based international telecommunication services market is dominated
by AT&T, MCI and Sprint. The Company also competes with numerous other carriers
in certain markets, including WorldCom, Frontier, and Pacific Gateway Exchange.
Some of these competitors focus their efforts on the same customers targeted by
the Company. In addition, many of the Company's current competitors are also
Company customers. The Company's business could be materially adversely affected
if a significant number of those customers reduce or cease doing business with
the Company for competitive reasons.
Recent and pending deregulation initiatives in the U.S. and other countries
may encourage additional new industry entrants. The Telecommunications Act
permits and is designed to promote additional competition in the intrastate,
interstate and international telecommunications markets by both U.S.-based and
foreign companies, including the RBOCs. In addition, pursuant to the terms of
the WTO Agreement, countries who are signatories to the agreement are expected
to allow access to their domestic and international markets to competing
telecommunications providers, allow foreign ownership interests in existing
telecommunications providers and establish regulatory schemes and policies
designed to accommodate telecommunications competition. The Company also is
likely to be subject to additional competition as a result of mergers or the
formation of alliances among some of the largest telecommunications carriers.
Recent examples of mergers and alliances include the planned merger of WorldCom
and MCI and the "Global One" alliance among Sprint, Deutsche Telekom and France
Telecom.
Many of the Company's competitors are significantly larger, have
substantially greater financial, technical and marketing resources than the
Company, own or control larger networks, transmission and termination
facilities, and offer a broader variety of services than the Company, and have
strong name recognition, brand loyalty, and long-standing relationships with the
many of the Company's target customers. In addition, many of the Company's
competitors enjoy economies of scale that can result in a lower cost structure
for transmission and other costs of providing services, which could cause
significant pricing pressures within the long distance telecommunications
industry. If the Company's competitors were to devote significant additional
resources to the provision of international long distance services to the
Company's target customer base, the Company's business, results of operations
and financial condition could be materially adversely affected.
The telecommunications industry is in a period of rapid technological
evolution, marked by the introduction of new product and service offerings and
increasing satellite and undersea cable transmission capacity for services
similar to those provided by the Company. Such technologies include satellite
and ground based systems, utilization of the Internet for voice, data and video
communications, and digital wireless communication systems such as personal
communications services ("PCS"). The Company is unable to predict which of many
future product and service offerings will be important to maintain its
competitive position or the expenditures that may be required to acquire,
develop or otherwise provide such products and services.
GOVERNMENT REGULATION
Overview
The Company's business is subject to varying degrees of federal and state
regulation. Federal laws and the regulations of the FCC apply to the Company's
international and interstate facilities-based and resale telecommunications
services, while applicable PSCs have jurisdiction over telecommunications
services originating and terminating within the same state. At the federal level
the Company is subject to common carriage requirements under the Communications
Act. Comprehensive amendments to the Communications Act were made by the
Telecommunications Act. The purpose of the 1996 Act is to promote competition in
all areas of telecommunications by reducing unnecessary regulation at both the
federal and state levels to the greatest extent possible. The FCC and PSCs are
in the process of implementing the 1996 Act's regulatory reforms.
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In addition, although the laws of other countries only directly apply to
carriers doing business in those countries, the Company may be affected
indirectly by such laws insofar as they affect foreign carriers with which the
Company does business. There can be no assurance that future regulatory judicial
and legislative changes will not have a material adverse effect on the Company,
that U.S. or foreign regulators or third parties will not raise material issues
with regard to the Company's compliance or noncompliance with applicable laws
and regulations, or that regulatory activities will not have a material adverse
effect on the Company's business, financial condition and results of operations.
Moreover, the FCC and the PSCs generally have the authority to condition,
modify, cancel, terminate or revoke the Company's operating authority for
failure to comply with federal and state laws and applicable rules, regulations
and policies. Fines or other penalties also may be imposed for such violations.
Any such action by the FCC and/or the PSCs could have a material adverse effect
on the Company's business, financial condition and results of operations. See
"Risk Factors Government Regulation."
Federal and State Transactional Approvals
The FCC and certain PSCs also impose prior approval requirements on transfers or
changes of control, including pro forma transfers of control and corporate
reorganizations, and assignments of regulatory authorizations. Such requirements
may have the effect of delaying, deterring or preventing a change in control of
the Company. The Company also is required to obtain state approval for the
issuance of securities. Seven of the states in which the Company is certificated
provide for prior approval or notification of the issuance of securities by the
Company. Although the necessary approvals will be sought and notifications made
prior to the offering, because of time constraints, the Company may not have
obtained such approval from two of the states prior to consummation of the
Offering. The Company's intrastate revenues for the first half of 1997 for each
of the two states was less than $100 for each such state. Although these state
filing requirements may have been preempted by the National Securities Market
Improvement Act of 1996, there is no case law on this point. After consultation
with counsel, the Company believes the approvals will be granted and that
obtaining such approvals subsequent to the Offering should not result in any
material adverse consequences to the Company, although there can be no assurance
that such consequences will not result.
International Services
International telecommunications carriers are required to obtain authority
from the FCC under Section 214 of the Communications Act in order to provide
international service that originates or terminates in the United States. U.S.
international common carriers also are required to file and maintain tariffs
with the FCC specifying the rates, terms, and conditions of their services. In
1989, the Company received Section 214 authority from the FCC to acquire and
operate satellite facilities for the provision of direct international service
to Italy, Israel, Kenya, India, Iran, Saudi Arabia, Pakistan, Sri Lanka, South
Korea and the United Arab Emirates ("UAE"). The Company also is authorized to
resell services of other common carriers for the provision of switched voice,
telex, facsimile and other data services, and for the provision of INTELSAT
Business Services ("IBS") and international television services to various
overseas points.
In 1996, the FCC established new rules that streamlined its Section 214
authorization and tariff regulation processes to provide for shorter notice and
review periods for certain U.S. international carriers including the Company.
The FCC established streamlined regulation for "non-dominant" carriers service
providers found to lack market power on the routes served. The Company is
classified by the FCC as a non-dominant carrier on its international and
domestic routes. On August 27, 1997, the Company was granted global
facilities-based Section 214 authority under the FCC's new streamlined
processing rules. A facilities-based global Section 214 authorization enables
the Company to provide international basic switched, private line, data,
television and business services using authorized facilities to virtually all
countries in the world.
Additionally, the U.K. Department of Trade and Industry issued to the
Company an International Simple Resale ("ISR") License for the United Kingdom in
October, 1997. The ISR License allows the Company to resell traffic originating
in the U.K. Pursuant to regulatory restructure in the U.K. introduced in
December, 1997, the ISR License will be replaced by the International Simple
Voice Resale ("ISVR") License. Application for the ISVR license is pending
approval.
The FCC's streamlined rules also provide for global Section 214 authority
to resell switched and private line services of other carriers by non-dominant
international carriers. The FCC decides on a case-by-case basis, however,
whether to grant Section 214 authority to U.S. carriers affiliated with foreign
carriers. The FCC will grant authority to provide switched services by reselling
private lines of foreign carriers based on a showing that there are equivalent
resale opportunities for U.S. carriers in the foreign carrier's market or the
FCC's benchmark for settlement rates are met in the destination country. To
date, the FCC has found that Austria, Canada, the U.K., Sweden and New Zealand
do provide equivalent resale opportunities. The FCC has found that equivalent
resale opportunities do not exist in The Netherlands, Germany, Hong Kong and
France. It is possible that interconnected private line resale to additional
countries may be allowed in the future. Pursuant to FCC rules and policies, the
Company's authorization to provide service via the resale of interconnected
international private lines will be expanded to include countries subsequently
determined by the FCC to afford equivalent resale opportunities to those
available under United States law, if any. On October 30, 1997, the FCC
authorized Telmex and Sprint to resell switched services between the U.S. and
Mexico but conditioned that authorization on a commitment from Telmex that it
reduce the rate at which it settles international traffic within the next two
years. U.S. international carriers have sought review of the FCC's decision. As
a result of the recent signing of the WTO Agreement, the FCC has replaced the
"equivalency" test with a rebuttable presumption in favor of resale of
interconnected private lines to WTO member countries. Under new FCC rules which
took effect on February 9, 1998, upon entry into force of the WTO Agreement of
February 5, 1998, the FCC will authorize the provision of switched service over
private lines between the U.S. and a WTO member country if either the settlement
rates for at least 50 percent of the settled U.S.-billed traffic between the
U.S. and that country are at or below the FCC's benchmark settlement rate for
that country or the country satisfies he FCC's equivalency test. The FCC will
authorize the provision of switched service over private lines between the U.S.
and a non-WTO member country only if both the settlement rates for at least 50
percent of the settled U.S.-billed traffic between the U.S. and that country are
at or below the FCC's benchmark settlement rate for that country or the country
satisfies the FCC's equivalency test. Since the new rules took effect,
applications have been filed with the FCC for authorization to provide switched
service by resale of private lenes between the U.S. and such
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countries as Luxembourg, Denmark, Norway, France, Germany, and Belgium, based on
showings that at least 50 percent of U.S.-billed traffic is settled at or below
the FCC's benchmark settlement rate for those countries.
The Company must also conduct its international business in compliance with
the ISP. The ISP establishes the parameters by which U.S.-based carriers and
their foreign correspondents settle the cost of terminating each other's traffic
over their respective networks. The precise terms of settlement are established
in a correspondent agreement (also referred to as an "operating agreement"),
which also sets forth the term of the agreement, the types of service covered by
the agreement, the division of revenues between the carrier that bills for the
call and the carrier that terminates the call at the other end, the frequency of
settlements, the currency in which payments will be made, the formula for
calculating traffic flows between countries, technical standards, and procedures
for the settlement of disputes. The amount of payments (the "settlement rate")
is determined by the negotiated accounting rate specified in the operating
agreement. Under the ISP, the settlement rate generally must be one-half of the
accounting rate. Carriers must obtain waivers of the FCC's rules if they wish to
use an accounting rate that differs from the prevailing rate or vary the
settlement rate from one-half of the accounting rate.
The ISP is designed to eliminate foreign carriers' incentives and
opportunities to discriminate in their operating agreements among different
U.S.-based carriers through a practice referred to as "whipsawing." Whipsawing
involves a foreign carrier varying the accounting and/or settlement rate offered
to different U.S.-based carriers for the benefit of the foreign carrier, which
could secure various incentives by favoring one U.S.-based carrier over another.
Under the uniform settlements policy, U.S.-based carriers can only enter into
operating agreements that contain the same accounting rate and settlement terms
offered to all U.S.-based carriers in that country and provide for proportionate
return traffic. When a U.S.-based carrier negotiates an accounting rate with a
foreign carrier that is lower than the accounting rate offered to another
U.S.-based carrier for the same service, the U.S.-based carrier with the lower
rate must file a notification letter with the FCC. If a U.S.-based carrier does
not already have an operating agreement in effect, it must file a request with
the FCC to modify the accounting rate for that country to introduce service with
the foreign correspondent in that country. A U.S.-based carrier also must
request modification authority from the FCC for any proposal that is not
prospective, that is not a simple reduction in the accounting rate, or that
changes the terms and conditions of an existing operating agreement. The
notification and modification procedures are intended to provide all U.S.-based
carriers with an opportunity to compete in foreign markets on a
nondiscriminatory basis. Among other efforts to counter the practice of
whipsawing and inequitable treatment of similarly situated U.S.-based carriers,
the FCC adopted the principle of proportionate return - which requires that the
U.S. carrier terminate U.S.-inbound traffic in the same proportion as the
U.S-outbound traffic that it sends to the foreign correspondent - to assure that
competing U.S.-based carriers have roughly equitable opportunities to receive
the return traffic that reduces the marginal cost of providing international
service.
Consistent with its pro-competition policies, the FCC has prohibited
U.S.-based carriers from agreeing to accept special concessions from any foreign
carrier or administration. A special concession is any arrangement that affects
traffic flow to or from the U.S. that is offered exclusively by a foreign
carrier or administration to a particular U.S. carrier that is not offered to
similarly situated U.S. carriers authorized to serve a particular route. With
the adoption of the WTO Agreement this year, the FCC modified its no-special
concessions rule to prohibit only those exclusive arrangements granted by a
foreign correspondent with market power.
In 1996, the FCC amended the ISP to provide carriers with flexibility to
introduce alternative payment arrangements that deviate from the ISP with
foreign correspondents in any foreign country where the FCC has previously
determined that effective competitive opportunities ("ECO") exist. Alternative
arrangements that deviate from the ISP also may be established for international
switched traffic between the U.S. and countries that have not previously been
found to satisfy the ECO test where the U.S. carrier can demonstrate that
deviation from the ISP will promote market-oriented pricing and competition,
while precluding abuse of market power by the foreign correspondent. As a result
of the WTO Agreement, the FCC has replaced the ECO test with a rebuttable
presumption in favor of alternative payment arrangements with WTO member
countries. While these rule changes may provide more flexibility to the Company
to respond more rapidly to changes in the global telecommunications market, it
will also provide similar flexibility to the Company's competitors. The Company
intends, where possible, to take advantage of lowered accounting rates and more
flexible settlement arrangements. On August 7, 1997, the FCC adopted revisions
to reduce the level and increase enforcement of its international accounting
"benchmark" rates, which are the FCC's target ceilings for prices that U.S.
carriers should pay to foreign carriers for terminating U.S. calls overseas.
Certain foreign carriers have challenged the FCC decision in court appeals as
well as petitions for reconsideration filed with the FCC. If the FCC mandate of
benchmark reductions achieves its stated goal of establishing competitive
international settlement rates, the Company may benefit from such rate
reductions.
Pursuant to FCC regulations, U.S. international telecommunications carriers
are required to file copies of their contracts with foreign correspondents,
including operating agreements, with the FCC within 30 days of execution. The
Company has filed each of its operating agreements with the FCC. The FCC's rules
also require the Company to file periodically a variety of reports regarding its
international traffic flows and use of international facilities. The FCC is
engaged in a rulemaking proceeding in which it has proposed to reduce certain
reporting requirements of common carriers. The Company is unable to predict the
outcome of this proceeding or its effect on the Company. The Company currently
has on file with the FCC operating agreements and accounting rate modifications
for India, Syria, Uganda and Monaco. In addition, the Company has on file and
maintains with the FCC annual circuit status reports and traffic data reports.
The FCC is currently considering whether to limit or prohibit the practice
whereby a carrier routes, through its facilities in a third country, traffic
originating from one country and destined for another country. The FCC has
permitted third country calling where all countries involved consent to this
type of routing arrangements, referred to as "transiting." Under certain
arrangements referred to as "refiling," the carrier in the destination country
does not consent to receiving traffic from the originating country and does not
realize the traffic it receives from the third country is actually originating
from a different country. The FCC to date has made no pronouncement as to
whether refile arrangements comport either with U.S. or ITU regulations. It is
possible that the FCC may determine that refiling, as defined, violates U.S.
and/or international law. To the extent that the Company's traffic is routed
through a third country to reach a destination country, such an FCC
determination with respect to transiting and refiling could have a material
adverse effect on the Company's business, financial condition and results of
operations.
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The FCC also regulates the ability of U.S.-based international carriers
affiliated with foreign carriers to serve markets where the foreign affiliate is
dominant. Previously U.S. carriers were required to report any investment by a
foreign carrier of 10% or greater, and the Company has reported the 15%
investment in the Company by and affiliate of Portugal Telecom, a foreign
carrier from a WTO member country and a signatory to the WTO Agreement. Under
the FCC's new rules implementing the WTO Agreement, which took effect on
February 9, 1998 the 10% threshold for requiring reporting to the FCC has been
eliminated. Now U.S. carriers do not have to notify the FCC of foreign carrier
investment unless it exceeds 25%. This notification is subject to a public
notice and comment period and FCC review to determine whether the U.S. carrier
should be regulated as dominant on routes where the foreign affiliate is
dominant. The FCC considers a foreign-affiliated U.S. carrier to be dominant on
foreign routes where the foreign affiliate is a monopoly or has more than 50
percent market share in international or local telecommunications. A U.S.
carrier affiliated with a dominant foreign carrier may still obtain streamlined
entry into the U.S. if it agrees to be regulated as dominant on the routes where
the foreign affiliate is from a WTO member country. As a result of the WTO
Agreement, the FCC has adopted a rebuttable presumption in favor of entry by
foreign carrier affiliates from WTO member countries. The FCC's liberalized
foreign market entry policies may have a two-fold effect on the Company: (i)
increased opportunities for foreign investment in and by the Company and entry
by the Company into WTO member countries; and (ii) increased competition for the
Company from other U.S. international carriers serving or seeking to serve WTO
member countries.
The FCC may condition, modify or revoke any of the Section 214
authorizations granted to the Company for violations of the Communications Act,
the FCC's rules and policies or the conditions of those authorizations or may
impose monetary forfeitures for such violations. Any such action on the part of
the FCC may have a material adverse effect on the Company's business, financial
condition and results of operations.
Interstate and Intrastate Services
The Company's provision of domestic long distance service in the United
States is subject to regulation by the FCC and certain state PSCs, who regulate
to varying degrees interstate and intrastate rates, respectively, ownership of
transmission facilities, and the terms and conditions under which the Company's
domestic services are provided. In general, neither the FCC nor the PSCs
exercise direct oversight over cost justification for domestic carriers' rates,
services or profit levels, but either or both may do so in the future. Domestic
carriers such as the Company, however, are required by federal law and
regulations to file tariffs listing the rates, terms and conditions applicable
to their interstate services. The Company has filed domestic long distance
tariffs with the FCC. The FCC adopted an order on October 29, 1996 requiring
that non-dominant interstate carriers, such as the Company, eliminate FCC
tariffs for domestic interstate long distance service. This order was to take
effect as of December 1997. On February 13, 1997, however, the U.S. Court of
Appeals for the District of Columbia Circuit ruled that the FCC's order be
stayed pending judicial review of appeals challenging the order. Should the
appeals fail and the FCC's order become effective, the Company may benefit from
the elimination of FCC tariffs by gaining more flexibility and speed in dealing
with marketplace changes. The absence of tariffs, however, will also require
that the Company secure contractual agreements with its customers regarding many
of the terms of its existing tariffs or face possible claims arising because the
rights of the parties are no longer clearly defined. To the extent that the
Company's customer base involves "casual calling" customers, the potential
absence of tariffs would require the Company to establish contractual methods to
limit potential liability. On August 20, 1997, the FCC partially reconsidered
its order by allowing dial-around carriers such as the Company to maintain
tariffs on file with the FCC.
In addition, the Company generally is also required to obtain certification
from the relevant state PSC prior to the initiation of intrastate service and to
file tariffs with such states. The Company currently has the certifications
required to provide service in 34 states, and has filed or is in the process of
filing requests for certification in 6 additional states. Although the Company
intends and expects to obtain operating authority in each jurisdiction in which
operating authority is required, there can be no assurance that one or more of
these jurisdictions will not deny the Company's request for operating authority.
Any failure to maintain proper federal and state certification or tariffs, or
any difficulties or delays in obtaining required certifications could have a
material adverse effect on the Company's business, financial condition and
results of operations. Many states also impose various reporting requirements
and/or require prior approval for transfers of control of certified carriers,
corporate reorganizations, acquisitions of telecommunications operations,
assignments of carrier assets, carrier stock offerings, and incurrence by
carriers of significant debt obligations. Certificates of authority can
generally be conditioned, modified, canceled, terminated, or revoked by state
regulatory authorities for failure to comply with state law and/or the rules,
regulations, and policies of the PSCs. Fines and other penalties also may be
imposed for such violations. Any such action by the PSCs could have a material
adverse effect on the Company's business, financial condition and results of
operations. The Company monitors regulatory developments in all 50 states to
ensure regulatory compliance.
Casual Calling Issues
The FCC is currently engaged in a rulemaking proceeding to expand the
number of codes available for casual calling services. An increase in the number
of codes available for casual calling will allow for increased competition in
the casual calling industry. In addition, the FCC is considering rules to
require dominant local exchange carriers and competitive local exchange carriers
to make billing arrangements available on a nondiscriminatory basis to casual
calling service providers. The Company already has LEC billing arrangements in
place but may wish to take advantage of rules the FCC may adopt to develop new
billing arrangements with competing LECs. Competing casual calling providers
without billing arrangements also would benefit from such a nondiscriminatory
billing obligation.
Other Legislative and Regulatory Initiatives
The 1996 Act is designed to promote local competition through state and
federal deregulation. As part of its pro-competitive policies, the 1996 Act
frees the RBOCs from the judicial orders that prohibited their provision of long
distance services outside of their operating territories (LATAs). The 1996 Act
provides specific guidelines that allow the RBOCs to provide long distance
inter-LATA service to customers inside the RBOC's region but not before the RBOC
has demonstrated to the FCC and state regulators that it has opened up its local
network to competition and met a "competitive checklist" of requirements
designed to provide competing network providers with nondiscriminatory access to
the RBOC's local network. To date, the FCC has denied applications for in-region
long distance authority filed by Ameritech Corporation in Michigan
13
<PAGE>
and SBC in Oklahoma. Bell South recently filed a similar application for
Mississippi. The grant of such authority could permit RBOCs to compete with the
Company in the provision of domestic and international long distance services.
On December 31, 1997, in striking down an FCC order concerning certain RBOC
requests to enter the long distance market, a Federal District Court in Texas
found unconstitutional certain provisions of the 1996 Act restricting the RBOCs
from offering such services in their operating regions until they could
demonstrate that their networks have been made available to competitive
providers of local exchange service in those regions. The United States and
several long distance companies have requested a stay of this decision and it is
expected that they, and others, will seek its reversal on appeal. In the mean
time, other similar FCC decisions concerning other RBOCs may remain in effect.
The scope of the District Court Order, the timing of a ruling on the request for
stay and the timing of the ultimate resolution of the case are all uncertain. If
the District Court's decision ultimately is permitted to stand, it may result in
RBOC's providing interexchange service in their operating regions sooner than
previously expected.
The 1996 Act also contains provisions that will permit the FCC to forbear
from any provision of the Communications Act or FCC regulation upon a finding
that forbearance will promote competition and that the carrier seeking
forbearance does not possess market power. FCC forbearance could reduce some of
the Company's regulatory requirements, such as filing specific rates for its
domestic interstate interexchange services.
To originate and terminate calls in connection with providing their
services, long distance carriers such as the Company must purchase "access
services" from LECs or CLECs. Access charges represent a significant portion of
the Company's cost of U.S. domestic long distance services and, generally, such
access charges are regulated by the FCC for interstate services and by PSCs for
intrastate services. The FCC has undertaken a comprehensive review of its
regulation of LEC access charges to better account for increasing levels of
local competition. Under alternative access charge rate structures being
considered by the FCC, LECs would be permitted to allow volume discounts in the
pricing of access charges. While the outcome of these proceedings is uncertain,
if these rate structures are adopted, many long distance carriers, including the
Company, could be placed at a significant cost disadvantage to larger
competitors.
Certain additional provisions of the 1996 Act, and the rules that have been
proposed to be adopted pursuant thereto, could materially affect the growth and
operation of the telecommunications industry and the services provided by the
Company. Further, certain of the 1996 Act's provisions have been, and likely
will continue to be, judicially challenged. The Company is unable to predict the
outcome of such rulemakings or litigation or the substantive effect of the new
legislation and the rulemakings on the Company's business, financial condition
and results of operations.
WTO Agreement on Basic Telecommunications
In February 1997, the WTO announced that 69 countries, including the United
States, Japan, and all of the member states of the EU, agreed on the WTO
Agreement to facilitate competition in basic telecommunications services. The
WTO Agreement entered into force on February 5, 1998. Pursuant to the terms of
the WTO Agreement, signatories to the WTO Agreement have committed to varying
degrees to allow access to their domestic and international markets to competing
telecommunications providers, allow foreign ownership interests in existing
telecommunications providers and establish regulatory schemes to develop and
implement policies to accommodate telecommunications competition.
The FCC's new rules implementing the WTO Agreement, which took effect on
February 9, 1998 generally ease restrictions on entry by foreign
telecommunications carriers from WTO member countries into the U.S. and
streamline FCC regulation of such carriers. Foreign entry restrictions and full
FCC regulation remain in effect for foreign telecommunications carriers from
non-WTO countries. The FCC's new policies implementing the WTO Agreement also
address the viability of equivalency and other reciprocity principles currently
applicable to international facilities-based and resale services, foreign
ownership limitations, foreign carrier entry into the U.S. market, and
accounting rate benchmarks. At the same time, telecommunications markets in many
foreign countries are expected to be significantly liberalized, creating
additional competitive market opportunities for U.S. telecommunications
businesses such as the Company. Although many countries have agreed to make
certain changes to increase competition in their respective markets, there can
be no assurance that countries will enact or implement the legislation required
to effect the changes to which they have committed in a timely manner or at all.
Failure by a country to meet commitments made under the WTO Agreement may give
rise to a cause of action for the injured foreign countries to lodge a trade
dispute with the WTO. At this time, the Company is unable to predict the effect
the WTO Agreement and related developments might have on its business, financial
condition and results of operations.
EMPLOYEES
As of December 31, 1997, the Company had 70 full-time employees and 58
part-time employees. None of the Company's employees are currently represented
by a collective bargaining agreement. The Company believes that its relations
with its employees are good.
ITEM 2. PROPERTIES
The Company's headquarters are located in approximately 27,700 square feet
of space in Bethesda, Maryland. The Company leases this space under an agreement
(which was renegotiated on October 27, 1997 and which expires on October 31,
2002. The Company also is a party to a co-location agreement pursuant to which
it has the right to occupy certain space in Washington, D.C. as a site for its
switching facilities. The Company recently entered into a co-location agreement
with another party pursuant to which it has the right to occupy approximately
2,000 square feet in New York, New York as a site for its switching facilities.
The Washington, D.C. co-location agreement is currently renewable on a
month-to-month basis, and the New York City co-location agreement has a term of
five years, with a five-year renewal option. The Company anticipates that it
will incur additional lease and co-location expenses as it adds additional
switching capacity
14
<PAGE>
ITEM 3. LEGAL PROCEEDINGS
The Company is from time to time involved in litigation incidental to the
conduct of its business. The Company is not currently a party to any lawsuit or
proceeding which, in the opinion of management, is likely to have a material
adverse effect on the Company's business, financial condition or result of
operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of shareholders of the Company during
the fourth fiscal quarter of the fiscal year ended December 31, 1997.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS
Shares of the Company's Common Stock, par value $0.01 per share, were
initially offered to the public on October 9, 1997 at a price of $12.00 per
share. The common stock is quoted on the NASDAQ National Market under the ticker
symbol "STGC". The following table sets forth, on a per share basis, the range
of the high and low sale prices for the common stock as reported by the NASDAQ
National Market, for the periods indicated during the fiscal year ended December
31, 1997. Such prices reflect inter-dealer prices, without retail mark-up,
mark-down or commission, and do not necessarily represent actual transactions.
<TABLE>
<CAPTION>
HIGH LOW
------------- --------------
<S> <C> <C>
Quarter Ended December 31, 1997 (from October 8, 1997) $ 22.375 $ 14.500
</TABLE>
As of March 20, 1998, there were approximately 43 stockholders of record of the
Company's common stock.
15
<PAGE>
ITEM 6. SELECTED FINANCIAL DATA
The following table presents selected financial data for the Company for
the years ended December 31, 1993, 1994, 1995, 1996, and 1997. The historical
financial data as of December 31, 1994, 1995, 1996, and 1997 have been derived
from the financial statements of the Company which have been audited by Arthur
Andersen LLP, independent public accountants. The financial data as of December
31, 1993 has been derived from the Company's unaudited financial statements in a
manner consistent with the audited financial statements. In the opinion of the
Company's management, these unaudited financial statements include all
adjustments necessary for a fair presentation of such information. The following
information should be read in conjunction with the Company's selected financial
statements and notes thereto presented elsewhere herein. See "Financial
Statements" and "Management's Discussion and Analysis of Financial Condition and
Results of Operations." included herein.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
(IN THOUSANDS)
------------------------------------------------------
1993 1994 1995 1996 1997
----------- ---------- ---------- ---------- ---------
STATEMENT OF OPERATIONS DATA: (unaudited)
<S> <C> <C> <C> <C> <C>
Net revenues................................ $ 3,288 $ 5,108 $ 10,508 $ 32,215 $ 85,857
Cost of services............................ 3,090 4,701 9,129 29,881 75,783
----------- ---------- ---------- ---------- ----------
Gross margin............................. 198 407 1,379 2,334 10,074
General and administrative expenses......... 1,491 1,159 2,170 3,996 6,288
Selling and marketing expenses.............. 232 91 184 514 1,238
Depreciation and amortization............... 85 90 137 333 451
----------- ---------- ---------- ---------- ----------
Income (loss) from operations........... (1,610) (933) (1,112) (2,509) 2,097
Interest expense............................ 71 70 116 337 762
Interest income............................. 13 24 22 16 313
----------- ---------- ---------- ---------- ---------
Income (loss) before income tax (1,668) (979) (1,206) (2,830) 1,648
Provision.............................
Income tax provision -- -- -- -- 29
----------- ---------- ---------- ---------- ---------
Net income (loss) $ (1,668) $ (979) $ (1,206) $ (2,830) $ 1,619
=========== ========== ========== ========== =========
PER SHARE DATA:
Basic earnings (loss) per share............. $ (0.36) $ (0.21) $ (0.23) $ (0.52) $ 0.26
=========== ========== ========== ========== =========
Weighted average common shares outstanding
basic.......................... 4,596 4,596 5,317 5,403 6,136
=========== ========== ========== ========== ==========
Diluted earnings (loss) per share.......... $ (0.36) $ (0.21) $ (0.23) $ (0.52) $ 0.25
=========== ========== ========== ========== =========
Weighted average common and equivalent
shares outstanding - diluted............ 4,596 4,596 5,317 5,403 6,423
=========== ========== ========== ========== =========
</TABLE>
<TABLE>
<CAPTION>
AS OF DECEMBER 31,
-------------------------------------------------------
1993 1994 1995 1996 1997
---- ---- ---- ---- ----
(unaudited)
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents................... 194 257 528 148 $ 26,114
Working capital (deficit)................... (2,097) (3,295) (3,744) (6,999) 25,735
Total assets................................ 1,176 1,954 4,044 7,327 51,530
Long-term obligations....................... 248 6 361 646 461
Stockholders' equity (deficit).............. $ (1,824) $ (2,803)$ (3,259) $ (6,089) $ 31,590
</TABLE>
16
<PAGE>
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion and analysis of the financial condition and results
of operations should be read in conjunction with the financial statements,
related notes, and other detailed information included elsewhere in this Form
10-K. This discussion, including the Company's plans and strategy for its
business, contains forward-looking statements that involve certain risks and
uncertainties. The Company's actual results could differ materially from those
anticipated by the forward-looking statements as a result of certain factors,
including, but not limited to, dependence on operating agreements with foreign
partners, significant foreign and U.S.-based customers and suppliers,
availability of transmission facilities, U.S. and foreign regulations,
international economic and political instability, dependence on effective
billing and information systems, customer attrition and rapid technological
change. These factors should not be considered exhaustive; the Company
undertakes no obligation to release publicly the results of any future revisions
it may make to forward-looking statements to reflect events or circumstances
after the date hereof or to reflect the occurrence of unanticipated events.
OVERVIEW
The Company is a rapidly growing, facilities-based international long
distance carrier that has implemented a marketing strategy to serve ethnic
residential markets in the U.S. and some of the leading international long
distance carriers. The Company's annual revenues have increased over sixteen
fold over the last three years from approximately $5.1 million for the year
ended December 31, 1994 to approximately $85.9 million for the year ended
December 31, 1997. The Company's residential billing customers increased to over
71,500 for December 1997 compared to approximately 6,300 for December 1994, as
measured over a 30 day period. Since its inception in 1989, the Company has
focused its marketing efforts on the residential consumer marketplace in ethnic
communities in which management believes there is a high demand for
international long distance services. To achieve the economies of scale
necessary to maintain cost effective operations, the Company began reselling its
capacity to other carriers in late 1995. The Company currently offers
U.S.-originated long distance service worldwide through a flexible network of
owned and leased transmission facilities and resale arrangements, as well as a
variety of operating agreements and termination arrangements.
Until 1995, the Company's business was concentrated in the New York to
Washington, D.C. corridor and focused on the delivery of dial-around access
calling services to India. At the end of 1995, the Company expanded its customer
base to include the West Coast of the United States, and began targeting other
ethnic groups in the U.S., such as the Middle Eastern, Philippine and Russian
communities. This expansion was facilitated by utilizing a portion of the
proceeds of the sale of stock to Blue Carol Enterprises Ltd., an affiliate of
Portugal Telecom International. The Company supported this expansion by leasing
network capacity from other domestic telecommunications companies, thereby
experiencing higher per-minute costs. In late 1995, the Company began to market
its international long distance services to other telecommunications carriers.
While providing greater utilization of its own network facilities, the carrier
group allowed the Company to build relationships with other carriers, which in
turn, led to additional termination options for its residential traffic.
The Company's strategy is to serve its customers by building its own global
network, which will allow the Company to originate, transmit, and terminate
calls utilizing network capacity the Company manages. The Company anticipates
that this network expansion will allow it to achieve a per-minute cost advantage
over current arrangements. As the Company transitions from leasing to owning or
managing its facilities, the Company's management believes economies in the
per-minute cost of a call will be realized, while fixed costs will increase. The
facilities owned by the Company are, at this time, primarily domestically based
and therefore provide a cost advantage only with respect to origination costs.
The Company realizes a per-minute cost savings when it is able to originate
calls on network facilities it owns and manages ("on net") versus calls which
must be originated through the utilization of facilities the Company does not
own ("off net"). For the years ended December 31, 1996 and 1997, approximately
44.9% and 59.8%, respectively, of the Company's residential revenues were
originated on net. As a higher percentage of calls are originated, transmitted,
and terminated on the Company's own facilities, per-minute costs are expected to
decline, predicated on call traffic volumes.
Revenues for telecommunication services are recognized as such services are
rendered, net of an allowance for revenue that the Company estimates will
ultimately not be realized. Revenues for return traffic received according to
the terms of the Company's operating agreements with foreign PTT's, as described
below, are recognized as revenue as the return traffic is received and
processed. There can be no assurance that traffic will be delivered back to the
United States or what impact changes in future settlement rates, allocations
among carriers or levels of traffic will have on net payments made and revenues
received and recorded by the Company.
The Company's cost of services consists of origination, transmission and
termination expenses. Origination costs include the amounts paid to LECs and
other domestic telecommunication network providers in areas where the Company
does not have its own network facilities. Transmission expenses are fixed
month-to-month payments associated with capacity on satellites, undersea
fiber-optic cables, and other domestic and international leased lines. Leasing
this capacity subjects the Company to price changes that are beyond the
Company's control and to transmission costs that are higher than transmission
costs on the Company's owned network. As the Company builds its own transmission
capacity, the risk associated with price fluctuations and the relative costs of
transmission are expected to decrease; however, fixed costs will increase. In
addition, adjustments to the Company's cost of services which arise from the
resolution of billing disputes with other telecommunication network providers
may have a positive impact on gross margins in any particular year. The
Company's experience to date has been that the resolution of such disputes
occurs primarily in the fourth quarter of each year, and, therefore, the related
adjustments to cost of services may have a disproportionate impact on its fourth
quarter results of operations.
Among its various foreign termination arrangements, the Company has entered
into operating agreements with a number of foreign PTTs, under which
international long distance traffic is both delivered and received. Under these
agreements, the foreign carriers are contractually obligated to adhere to the
policy of the FCC, whereby traffic from the foreign country is routed through
U.S. international carriers, such as the Company, in the same proportion as
traffic carried into the country ("return traffic"). Mutually exchanged traffic
between the Company and foreign carriers is reconciled through a formal
settlement arrangement at agreed upon rates. The Company records the amount due
to the foreign PTT as an expense in the period the traffic is terminated. When
the Company receives return traffic in a future period, the Company generally
realizes a higher gross
17
<PAGE>
margin on the return traffic as compared to the lower margin on the outbound
traffic. Return traffic accounted for approximately 3% and 2% of revenues for
the years ended December 31, 1996 and 1997, respectively.
In addition to the operating agreements, the Company utilizes alternative
termination arrangements offered by third party vendors. The Company seeks to
maintain strong vendor diversity for countries where traffic volume is high.
These vendor arrangements provide service on a variable cost basis subject to
volume. These prices are subject to changes, generally upon seven-days notice.
As the international telecommunications marketplace has been deregulated,
per-minute prices have fallen and, as a consequence, related per-minute costs
for these services have also fallen. As a result, the Company has not been
adversely affected by the price reductions, although there can be no assurance
that this will continue. Although the Company generated positive net income for
the year ended December 31, 1997, the Company expects selling, general and
administrative costs to increase as it develops its infrastructure to manage
higher business volume. Thus, continued profitability is dependent upon
management's ability to successfully manage growth and operations.
Results of Operations
The following table sets forth certain financial data as a percentage of
net revenues for the periods indicated.
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
---------------------------------
1995 1996 1997
-------- --------- ---------
<S> <C> <C> <C>
Net revenues............................... 100.0 % 100.0 % 100.0 %
Cost of services.............................. 86.9 92.8 88.3
------- --------- ---------
Gross margin............................... 13.1 7.2 11.7
General and administrative expenses........... 20.7 12.4 7.3
Selling and marketing expenses................ 1.8 1.6 1.4
Depreciation and amortization................. 1.3 1.0 0.5
-------- --------- ---------
Income (loss) from operations............. (10.7) (7.8) 2.5
Interest expense.............................. (1.1) (1.1) (0.9)
Interest income............................... 0.2 0.1 0.3
-------- --------- ---------
Income (loss) before income tax provision.. (11.6) (8.8) 1.9
Income tax provision.......................... -- -- --
======== ========= =========
Net income (loss).......................... (11.6) % (8.8) % 1.9 %
======== ========= =========
</TABLE>
1997 COMPARED TO 1996
Net Revenues. Net revenues for the year ended December 31, 1997 increased
approximately $53.7 million or 166.8 %, to approximately $85.9 million from
$32.2 million for the year ended December 31, 1996. Residential revenue
increased in comparative periods by approximately $16.6 million or 138.3%, to
approximately $28.6 million for the year ended December 31, 1997 from
approximately $12.0 million in 1996. The increase in residential revenue is due
to an increase in residential customers to over 71,500 for December 1997 from
approximately 28,000 for December 1996. Carrier revenue for the year ended
December 31, 1997 increased approximately $37.1 million or 183.7%, to
approximately $57.3 million from approximately $20.2 million for the year ended
December 31, 1996. The increase in carrier revenues is due to the execution of
the Company's strategy to optimize its capacity on its facilities, which has
resulted in sales to additional carrier customers and increased sales to
existing carrier customers.
Gross Margin. Gross margin increased approximately $7.7 million to
approximately $10.0 million for the year ended December 31, 1997 from
approximately $2.3 million for the year ended December 31, 1996. Gross margin
improved as a percentage of net revenues for the year ended December 31, 1997 to
11.7% from 7.2% for the year ended December 31, 1996. The gross margin on
residential revenue increased to approximately 14.9% for the year ended December
31, 1997 from approximately 10.1% for the year ended December 31, 1996, due to
an increase in the percentage of residential traffic originated on net and
improved termination costs. In the year ended December 31, 1997, 59.8% of
residential traffic originated on net as compared to 44.9% for the year ended
December 31, 1996.
The reported gross margin for the year ended December 31, 1997 and December
31, 1996 includes the effect of accrued disputed charges of approximately
$67,000 and $1.4 million respectively, which represents less than 1% and 5% of
reported net revenues.
General and Administrative. General and administrative expenses for the
year ended December 31, 1997 increased approximately $2.3 million or 57.5% to
approximately $6.3 million from $4.0 million for the year ended December 31,
1996. As a percentage of net revenues, general and administrative expenses
declined to 7.3% from 12.4% for the respective periods. The increase in dollar
amounts was primarily due to an increase in personnel to 128 at December 31,
1997 from 54 at December 31, 1996, and to a lesser extent, an increase in
billing processing fees.
18
<PAGE>
Selling and Marketing. Selling and marketing expenses for the year ended
December 31, 1997 increased approximately $700,000 or 140.0 % to approximately
$1.2 million from approximately $514,000 for the year ended December 31, 1996.
As a percentage of net revenues, selling and marketing expenses declined to 1.4
% from 1.6 % in the respective periods. The increase in dollar amounts is
primarily due to the Company's efforts to market to new customer groups.
Depreciation and Amortization. Depreciation and amortization expenses for
the year ended December 31, 1997 increased to approximately $451,000 from
approximately $333,000 for the year ended December 31, 1996, primarily due to
increases in capital expenditures pursuant to the Company's strategy of
expanding its network infrastructure.
Interest. Interest expense for the year ended December 31, 1997 increased
to approximately $762,000 from approximately $337,000 for the year ended
December 31, 1996, as a result of additional debt incurred by the Company to
fund expansion and working capital needs.
Net Income. Net Income was approximately $1.6 million in 1997 as compared
to a net loss of approximately $2.8 million in 1996.
1996 COMPARED TO 1995
Net Revenues. Net revenues for the year ended December 31, 1996 increased
approximately $21.7 million or 206.7 %, to approximately $32.2 million from
$10.5 million for the year ended December 31, 1995. Residential revenue
increased in comparative periods by approximately $6.6 million or 122.2 %, to
approximately $12.0 million in 1996 from $5.4 million in 1995. The increase in
residential revenue is due to a concerted effort to expand marketing to the West
Coast and to target additional ethnic communities such as the Middle Eastern,
Philippine, and Russian communities. The Company's residential customer base
grew to approximately 27,800 customers as of December 31, 1996 from 10,700
customers as of December 31, 1995. Carrier revenue increased approximately $15.1
million or 296.1 % to $20.2 million in 1996 from $5.1 million in 1995. This
growth is a result of the Company's strategy to optimize network utilization by
offering its services to other carriers. In this regard, the Company was
successful in expanding its marketing and increased sales to first and
second-tier carriers. Return traffic decreased to approximately $1.1 million in
1996 from $2.0 million in 1995. Net revenues in 1995 reflect the receipt of
previously undelivered return traffic revenues to the Company.
Gross Margin. Gross margin increased approximately $900,000 to $2.3 million
for the year ended December 31, 1996 from $1.4 million for the year ended
December 31, 1995. Gross margin declined as a percentage of net revenues to
approximately 7.2 % for the year ended December 31, 1996 from 13.1 % for the
year ended December 30, 1995. The gross margin on residential revenue decreased
to approximately 10.1 percent in 1996 from 10.4 % in 1995 due to initial
expenses associated with the entry into new markets. As a result of the
expansion into additional ethnic markets and new geographic areas, on net
origination declined to approximately 44.9 % in 1996, as compared to 62.9 % in
1995. The relative decrease in on net originated traffic was due to customer
base growth prior to the expansion of owned or managed facilities. The gross
margin on carrier revenue, excluding return traffic, increased to approximately
negative 0.02 % in 1996 from negative 36.9 % in 1995.
General and Administrative. General and administrative expenses for the
year ended December 31, 1996 increased approximately $1.8 million or 81.8 %, to
$4.0 million from $2.2 million for the year ended December 31, 1995. As a
percentage of net revenues, general and administrative expenses declined to
approximately 12.4% from 20.7% for the respective periods. The increase in
dollar amounts was primarily due to increased third party billing and collection
fees of approximately $349,000 to support higher calling volume; increased
personnel expenses to $1.5 million in 1996 from $1.1 million in 1995 as a result
of new hires; and bad debt losses of approximately $529,000 attributable to the
bankruptcy of one former customer.
Selling and Marketing. Selling and marketing expenses for the year ended
December 31, 1996 increased to approximately $514,000 from approximately
$184,000 for the year ended December 31, 1995. As a percentage of net revenues,
selling and marketing expenses declined to 1.6 % from 1.8% in the respective
periods. The increase in dollar amounts is attributable to the Company's efforts
to enter additional ethnic markets and new geographic areas.
Depreciation and Amortization. Depreciation and amortization expenses grew
to approximately $333,000 in 1996 from $137,000 in 1995, primarily due to
increased capital expenditures.
Interest. Interest expense increased to approximately $337,000 for 1996
from $116,000 in 1995, primarily due to increased borrowings under a credit
facility to support growth in accounts receivable, and to a lesser extent,
increased borrowings from related and other parties.
Net Loss. The Company experienced a net loss of approximately $2.8 million
in 1996 as compared to a net loss of $1.2 million in 1995.
19
<PAGE>
QUARTERLY RESULTS OF OPERATIONS
The following table sets forth certain unaudited quarterly financial data
for each of the quarters in the years ended December 31, 1996 and 1997. This
quarterly information has been derived from and should be read in conjunction
with the Company's financial statements and the notes thereto included elsewhere
in this Form 10-K, and, in management's opinion, reflects all adjustments
(consisting only of normal recurring adjustments, except as discussed in Notes
(B) and (C) below) necessary for a fair presentation of the information.
Operating results for any quarter are not necessarily indicative of results for
any future period.
<TABLE>
<CAPTION>
QUARTERS ENDED
----------------------------------------------------------------------------
1996 1997
-------------------------------------- -------------------------------------
MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30, DEC. 31,
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net revenues........................ $ 4,722 $ 8,485 $ 7,652 $ 11,356 $ 12,372 $16,464 $ 25,757 $31,264
Cost of services................... 4,467 7,922 6,763 10,729 10,765 14,485 22,668 27,865
-------- --------- --------- --------- -------- ------- --------- -------
Gross margin (B) (C)........... 255 563 889 627 1,607 1,979 3,089 3,399
General and administrative
expenses (B)................... 595 778 1,370 1,253 1,151 1,310 1,820 2,007
Selling and marketing expenses...... 52 101 166 195 104 202 391 541
Depreciation and amortization....... 52 93 93 95 96 118 140 97
-------- --------- --------- --------- -------- ------- --------- -------
Income (loss) from operations.. (444) (409) (740) (916) 256 349 738 754
Interest expense.................... 58 60 80 139 117 135 326 184
Interest income..................... 5 4 5 2 1 4 9 299
-------- --------- --------- --------- -------- ------- --------- -------
Income (loss) before income
tax provision.............. (497) (465) (815) (1,053) 140 218 421 869
Income tax provision................. -- -- -- -- 3 4 8 14
======== ========= ========= ========= ======== ========= ======== ======
Net income (loss)..............$ (497) $ (465) $ (815) $(1,053) $ 137 $ 214 $ 413 $ 855
======== ========= ========= ========= ======== ======= ========= =======
Basic earnings (loss) per share
(A)........................... $ (0.09) $(0.09) $(0.15) $(0.19) $ 0.03 $ 0.04 $ 0.08 $0.10
======== ========= ========= ========= ======== ======= ========= =======
Weighted average common shares
outstanding - basic (A)....... 5,403 5,403 5,403 5,403 5,403 5,403 5,403 8,324
======== ========= ========= ========= ======== ======= ========= =======
Diluted earnings (loss) per share
(A)............................ $(0.09) $(0.09) $(0.15) $(0.19) $0.03 $0.04 $0.07 $0.10
======== ========= ========= ========= ======== ======= ========= =======
Weighted average common shares
and equivalent - diluted (A).. 5,403 5,403 5,403 5,403 5,474 5,646 5,760 8,709
======== ========= ========= ========= ======== ======= ========= =======
</TABLE>
(A) The earnings (loss) per share amounts have been restated in accordance
with SAB No. 98 and SFAS No. 128. Quarterly per share data may not total
to annual per share data due to changes in shares outstanding for the
periods. The increase in weighted shares in the fourth quarter of 1997
is due to the Company's initial public offering in October 1997.
(B) Vendor disputes and other disputed charges resolved in the fourth
quarter of 1997 resulted in net credits as estimated by management of
approximately $300,000 recognized as lower cost of services and general
and administrative expenses.
(C) During the first quarter of 1997, the Company's gross margin improved by
approximately $1.0 million over the fourth quarter of 1996. The
improvement was due to (i) approximately $500,000 in costs accrued in
the fourth quarter 1996 for disputed vendor obligations as compared to
approximately $8,000 in costs accrued during the first quarter of 1997;
(ii) approximately $400,000 of cost reductions in 1997 resulting from an
increase in the utilization of alternative termination options; and
(iii) to a lesser extent, an increase in the percentage of residential
traffic originated on net.
LIQUIDITY AND CAPITAL RESOURCES
The Company's liquidity requirements arise from cash used in operating
activities, purchases of network equipment, and payments on outstanding
indebtedness. The Company has financed its growth through capital lease
financing, notes payable from individuals, and a credit and billing arrangement
with a third party company prior to July 1, 1997. This facility allowed the
Company to receive advances of 70 % of all records submitted for billing,
subject to a credit limit of $3 million. Subsequent to July 1, 1997 until the
Offering, the Company primarily financed its growth through a bank loan (the
"Loan"), which provides for maximum borrowings of up to $10 million through
December 31, 1997, and the lesser of $15 million or 85 % of eligible accounts
receivable, as defined, thereafter until maturity on December 31, 1999. The
Company may elect to pay quarterly interest payments at the prime rate, plus 2
%, or the adjusted LIBOR, plus 4 %. The Loan is secured by substantially all of
the Company's assets. It contains certain financial and non-financial covenants,
including, but not limited to, ratios of monthly net revenue to loan balance,
interest coverage, and cash flow leverage, minimum subscribers, limitations on
capital expenditures, additional indebtedness, acquisition or transfer of
assets, payment of dividends, new ventures or mergers, and issuance of
additional equity. The Company is currently in compliance with all financial
ratios and covenants of the Loan. Beginning on January 1, 1998 (and extending to
July 1, 1998 upon the occurrence of defined events), should the Bank determine
and assert based on its reasonable assessment that a material adverse change to
the Company has occurred, it could declare all amounts outstanding to be
immediately due and payable.
Although management has no definitive plans to extinguish the Loan, if such
an event were to occur in 1998, the Company would record a non-cash charge
related to the unamortized deferred debt financing costs, which totaled
approximately $950,000 as of December 31, 1997.
20
<PAGE>
In October 1997, the Company completed an initial public offering of its
common stock (the "Offering"). Together with the exercise of the overallotment
option in November 1997, the Offering placed 3,277,500 shares of common stock at
a price of $12.00 per share, yielding net proceeds (after underwriting
discounts, commissions, and other professional fees) to the Company of
approximately $35.0 million. The Company used a portion of its proceeds to
acquire cable facilities, switching, compression, and other related
telecommunications equipment. Proceeds were also used for marketing programs, to
pay down amounts due under the Loan, for working capital, and general corporate
purposes. As a result, the Company's cash and cash equivalents increased to
$26.1 million at December 31, 1997 from $148,000 at December 31, 1996. Net cash
used in operating activities was approximately $1.7 million for the year ended
December 31, 1997, as compared to net cash used in operating activities of
approximately $1.4 million for the year ended December 31, 1996. The increase in
cash used in operations was the result of the significant growth in net revenues
and the corresponding accounts receivable for the period.
Net cash used in investing activities was approximately $3.9 million and
$520,000 for the year ended December 31, 1997 and 1996, respectively. Net cash
used in investing activities for the year ended December 31, 1997 primarily
related to capital expenditures made to expand the Company's network
infrastructure.
Net cash provided by financing activities was approximately $31.6 million and
$1.5 million for the year ended December 31, 1997 and 1996, respectively. Cash
provided by financing activities for the year ended December 31, 1997 primarily
resulted from net proceeds from the Offering, as previously discussed, offset by
the repayment of amounts under the receivables-based credit facility, capital
lease obligations, and various notes payable. Any borrowings under the Loan were
repaid by December 31, 1997.
The Company is continuing to pursue a flexible approach to expand its markets
and enhance its network facilities by investing in marketing, and in switching
and transmission facilities, where anticipated traffic volumes justify such
investments. Historically, the Company has achieved market penetration with only
modest investments in marketing. There can be no assurance that the Company's
prior marketing achievements can be replicated with increased marketing
investments. A number of factors, including market share, competitor rates and
quality of service determine the effectiveness of the market entry strategy.
The Company has planned capital expenditures through 1998 of $19.2 million.
Additionally, marketing expenditures for 1997 and 1998 are expected to reach
$4.5 million in aggregate. These expenditure needs are expected to be met from
operations, amounts available under the Loan, and the proceeds of the Offering.
These capital needs will continue to expand as the Company executes its business
strategy.
As it relates to the Year 2000, management of the Company is taking steps to
assess the nature and extent of the impact of Year 2000 on its systems and
applications. While management has not yet finalized, its analysis, it does not
expect that the costs to make its systems Year 2000-compliant will have a
material adverse effect on its results of operations or financial position. Such
costs will be expensed as incurred.
The Company has accrued approximately $2.1 million as of December 31, 1997,
for disputed vendor obligations asserted by one of the Company's foreign
carriers for minutes processed in excess of the minutes reflected on the
Company's records. If the Company prevails in its disputes, these amounts or
portions thereof would be credited to operations in the period of resolution.
Conversely, if the Company does not prevail in its disputes, these amounts or
portions thereof may be paid in cash.
NEW ACCOUNTING STANDARDS
In June 1997, the Financial Accounting Standards Board issued SFAS No. 130,
"Reporting Comprehensive Income," and SFAS No. 131, "Disclosures About Segments
of an Enterprise and Related Information." The Company is required to adopt both
of these standards for the year ending December 31, 1998.
SFAS No. 130 requires "comprehensive income" and the components of "other
comprehensive income", to be reported in the financial statements and/or notes
thereto. As the Company does not currently have any components of "other
comprehensive income" it is not expected that this statement will affect the
Company's financial statements.
SFAS No. 131 requires entities to disclose financial and descriptive
information about its reportable operating segments. It also establishes
standards for related disclosures about products and services, geographic areas,
and major customers. The Company is in the process of assessing the additional
disclosures, if any, required by SFAS No. 131. However, such adoption will not
impact the Company's results of operations or financial position, since it
relates only to disclosures.
EFFECTS OF INFLATION
Inflation is not a material factor affecting the Company's business and has
not had a significant effect on the Company's operations to date.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not applicable.
21
<PAGE>
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO FINANCIAL STATEMENTS
PAGE
----
Report of Independent Public Accountants................................. 23
Statements of Operations for the years ended
December 31, 1995, 1996 and 1997................................... 24
Balance Sheets as of December 31, 1996 and 1997.......................... 25
Statements of Changes in Stockholders' Equity
(Deficit) for the years ended December 31, 1995, 1996 and 1997......... 26
Statements of Cash Flows for the years ended December 31, 1995,
1996 and 1997......................................................... 27
Notes to Financial Statements............................................ 28
22
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Startec Global Communications Corporation:
We have audited the accompanying balance sheets of Startec Global
Communications Corporation (a Maryland corporation) as of December 31, 1996 and
1997, and the related statements of operations, changes in stockholders' equity
(deficit), and cash flows for each of the three years in the period ended
December 31, 1997. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform an audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the financial position of Startec Global
Communications Corporation, as of December 31, 1996 and 1997, and the results of
its operations and its cash flows for each of the three years in the period
ended December 31, 1997, in conformity with generally accepted accounting
principles.
ARTHUR ANDERSEN LLP
Washington, D.C. ,
March 4, 1998
<PAGE>
STARTEC GLOBAL COMMUNICATIONS CORPORATION
STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------------
1995 1996 1997
----------- ----------- -----------
<S> <C> <C> <C>
Net revenues................................ $ 10,508 $ 32,215 $ 85,857
Cost of services............................. 9,129 29,881 75,783
----------- ----------- -----------
Gross margin........................... 1,379 2,334 10,074
General and administrative expenses.......... 2,170 3,996 6,288
Selling and marketing expenses .............. 184 514 1,238
Depreciation and amortization................ 137 333 451
----------- ----------- -----------
Income (loss) from operations.......... (1,112) (2,509) 2,097
Interest expense............................. 116 337 762
Interest income.............................. 22 16 313
----------- ----------- -----------
Income (loss) before income tax
provision.............................. (1,206) (2,830) 1,648
Income tax provision......................... -- -- 29
----------- ----------- -----------
Net income (loss)............................ $ (1,206) $ (2,830) $ 1,619
=========== =========== ===========
Basic earnings (loss) per share.............. $ (0.23) $ (0.52) $ 0.26
=========== =========== ===========
Weighted average common shares outstanding -
basic.................................... 5,317 5,403 6,136
=========== =========== ===========
Diluted earnings (loss) per share........... $ (0.23) $ (0.52) $ 0.25
=========== =========== ===========
Weighted average common and equivalent shares
outstanding - diluted.................... 5,317 5,403 6,423
=========== =========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
24
<PAGE>
STARTEC GLOBAL COMMUNICATIONS CORPORATION
BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------
ASSETS 1996 1997
----------- -----------
RRENT ASSETS:
<S> <C> <C>
Cash and cash equivalents........................................... $ 148 $ 26,114
Accounts receivable, net of allowance for doubtful
accounts of approximately $1,079 and $2,353, respectively......... 5,334 16,980
Accounts receivable, related party.................................. 78 377
Other current assets................................................ 211 1,743
----------- -----------
Total current assets........................................... 5,771 45,214
----------- -----------
PROPERTY AND EQUIPMENT:
Long distance communications equipment.............................. 1,773 3,305
Computer and office equipment....................................... 392 1,024
Less - Accumulated depreciation and amortization.................... (789) (1,240)
----------- -----------
1,376 3,089
-- 2,095
Construction in progress............................................ ----------- -----------
Total property and equipment, net................................ 1,376 5,184
----------- -----------
Deferred debt financing costs, net................................... -- 952
stricted cash........................................................ 180 180
----------- -----------
Total assets.................................................... $ 7,327 $ 51,530
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)c
CURRENT LIABILITIES:
Accounts payable.................................................. $ 7,171 $15,420
Accrued expenses............................................. 2,858 3,728
Short-term borrowings under receivables-based credit facility..... 1,812 --
Capital lease obligations......................................... 226 331
Notes payable to related parties.................................. 53 --
Notes payable to individuals and other............................ 650 --
----------- -----------
Total current liabilities....................................... 12,770 19,479
----------- -----------
Capital lease obligations, net of current portion.................... 546 417
Notes payable to related parties, net of current portion............. 100 --
Notes payable to individuals and other, net of current portion....... -- 44
----------- -----------
Total liabilities............................................... 13,416 19,940
----------- -----------
MMITMENTS AND CONTINGENCIES (NOTE 8)
OCKHOLDERS' EQUITY (DEFICIT):
Preferred stock, $1.00 par value, 100,000 shares authorized;
no shares issued and outstanding........................................... -- --
Voting common stock, $0.01 par value; 10,000,000 shares authorized at December
31, 1996; 20,000,000 shares authorized at December 31, 1997; 5,380,824 shares
issued and outstanding at December 31, 1996; 8,811,999 shares issued and
outstanding at December 31, 1997................................. 54 88
Nonvoting common stock, $1.00 par value; 25,000 shares authorized; 22,526
shares issued and outstanding at December 31, 1996; no shares issued and
outstanding at December 31, 1997................................... 22 --
Additional paid-in capital.......................................... 932 35,528
Warrants............................................................ -- 1,693
Unearned compensation............................................... -- (241)
Accumulated deficit ................................................ (7,097) (5,478)
----------- -----------
Total stockholders' equity (deficit)................................ (6,089) 31,590
----------- -----------
Total liabilities and stockholders' equity (deficit)................ $ 7,327 $ 51,530
=========== ===========
</TABLE>
The accompanying notes are an integral part of these balance sheets.
25
<PAGE>
STARTEC GLOBAL COMMUNICATIONS CORPORATION
STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
(IN THOUSANDS)
<TABLE>
<CAPTION>
VOTING NONVOTING
COMMON STOCK COMMON STOCK ADDITIONAL
------------------ ------------------- PAID-In UNEARNED ACCUMULATED
SHARES AMOUNT SHARES AMOUNT CAPITAL WARRANTS COMPENSATION DEFICIT TOTAL
------ ------ ------ ------ ------- -------- ------------ ------- -----
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1994.... 4,574 $ 46 22 $ 22 $ 190 $ -- $ -- $ (3,061) $ (2,803)
Net loss................. -- -- -- -- -- -- -- (1,206) (1,206)
Issuance of common stock........ 807 8 -- -- 742 -- -- -- 750
------- ------ ------- -------- ----------- -------- ------------- ----------- --------
Balance at December 31, 1995.... 5,381 54 22 22 932 -- -- (4,267) (3,259)
Net loss................... -- -- -- -- -- -- -- (2,830) (2,830)
------- ------ ------- -------- ----------- -------- ------------- ----------- --------
Balance at December 31, 1996.... 5,381 54 22 22 932 -- -- (7,097) (6,089)
Net income............... -- -- -- -- -- -- -- 1,619 1,619
Conversion of nonvoting
common shares to voting
common shares.............. 17 -- (17) (17) 17 -- -- -- --
Purchase and retirement of
nonvoting common shares.... -- -- (5) (5) (40) -- -- -- (45)
Net proceeds from initial
public offering,.......... 3,278 33 -- -- 34,961 -- -- -- 34,994
Exercise of employee stock
options.................... 136 1 -- -- 143 -- -- -- 144
Unearned compensation
pursuant to issuance of
stock options.............. -- -- -- -- 385 -- (385) -- --
Amortization of unearned
compensation............... -- -- -- -- -- -- 144 -- 144
Warrants issued in
connection with equity
($870) and debt placement
($823) .................... -- -- -- -- (870) 1,693 -- -- 823
======= =========-======= ======= =========== =========== ============= =========== ========
Balance at December 31, 1997.... 8,812 $ 88 -- $ -- $ 35,528 $ 1,693 $ (241) $ (5,478) $31,590
======= ========= ======= ======= =========== =========== ============= =========== =======
</TABLE>
The accompanying notes are an integral part of these statements.
26
<PAGE>
STARTEC GLOBAL COMMUNICATIONS CORPORATION
STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------
1995 1996 1997
--------- ----------- --------
<S> <C> <C> <C>
OPERATING ACTIVITIES:
Net income (loss) ........................................ $ (1,206) $ (2,830) $ 1,619
Adjustments to net income (loss) :
Depreciation and amortization............................ 137 333 451
Compensation pursuant to stock options .................. -- -- 144
Amortization of deferred debt financing costs and debt
discounts................................................ -- -- 237
Changes in operating assets and liabilities:
(Increase) decrease in assets:
Accounts receivable, net............................... (1,342) (3,113) (11,646)
Accounts receivable, related party..................... (46) 241 (299)
Other current assets................................... (83) (80) (429)
Increase (decrease) in liabilities:
Accounts payable ...................................... 1,135 2,515 8,249
Accrued expenses....................................... 637 1,578 (45)
--------- ---------- ---------
Net cash used in operating activities............. (768) (1,356) (1,719)
--------- --------- ---------
INVESTING ACTIVITIES:
Purchases of property and equipment........................ (200) (520) (3,881)
---------- -------- --------
Net cash used in investing activities.............. (200) (520) (3,881)
--------- ------- --------
FINANCING ACTIVITIES:
Net borrowings (repayments) under receivables-based credit
facility................................................ 570 1,242 (1,812)
Repayments under capital lease obligations ................ (96) (91) (402)
Repayments under notes payable to related parties ......... -- (5) (153)
Borrowings under notes payable to individuals and other... 50 475 --
Repayments under notes payable to individuals and other... (35) (125) (650)
Payments of debt financing costs........................... -- -- (366)
Net proceeds from issuance of common stock................. 750 -- 34,994
Purchase and retirement of nonvoting common stock.......... -- -- (45)
--------- -------- --------
Net cash provided by financing activities ................ 1,239 1,496 31,566
--------- -------- --------
Net increase (decrease) in cash and cash equivalents...... 271 (380) 25,966
--------- -------- --------
Cash and cash equivalents at the beginning of the period 257 528 148
--------- -------- --------
Cash and cash equivalents at the end of the period ........ $ 528 $ 148 $ 26,114
======== ======== ========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Interest paid................................................. $ 87 $ 296 $ 591
======= ======== ========
Income taxes paid............................................. $ -- $ -- $ 19
====== ======== ========
SUPPLEMENTAL DISCLOSURE OF NONCASH ACTIVITIES:
Equipment acquired under capital lease........................ $ 285 $ 524 $ 378
Accrued expenses converted to a note.......................... -- -- 44
In 1997, the Company recorded $1,103 in "Other current assets",
$959 in accrued expenses and $144 in equity, related to
options exercised through December 31, 1997. This amount was
collected in January 1998 (Note 2).
</TABLE>
The accompanying notes are an integral part of these statements.
27
<PAGE>
STARTEC GLOBAL COMMUNICATIONS CORPORATION
NOTES TO FINANCIAL STATEMENTS
1. BUSINESS DESCRIPTION:
ORGANIZATION
Startec Global Communications Corporation (the "Company", formerly Startec,
Inc.), is a Maryland corporation founded in 1989 to provide long-distance
telephone services. The Company currently offers U.S.-originated long-distance
service to residential and carrier customers through a flexible network of owned
and leased transmission facilities, resale arrangements, and foreign termination
arrangements. The Company's marketing targets specific ethnic residential market
segments in the United States that are most likely to seek low-cost
international long-distance service to specific and identifiable country
markets. The Company is headquartered in Bethesda, Maryland.
INITIAL PUBLIC OFFERING
In October 1997, the Company completed an initial public offering of its
common stock (the "Offering"). Together with the exercise of the overallotment
option in November 1997, the Offering placed 3,277,500 shares of common stock at
a price of $12.00 per share, yielding net proceeds (after underwriting
discounts, commissions, and other professional fees) to the Company of
approximately $35.0 million.
RISKS AND OTHER IMPORTANT FACTORS
The Company is subject to various risks in connection with the operation of
its business. These risks include, but are not limited to, dependence on
operating agreements with foreign partners, significant foreign and U.S.-based
customers and suppliers, availability of transmission facilities, U.S. and
foreign regulations, international economic and political instability,
dependence on effective billing and information systems, customer attrition, and
rapid technological change. Many of the Company's competitors are significantly
larger and have substantially greater financial, technical, and marketing
resources than the Company; employ larger networks and control transmission
lines; offer a broader portfolio of services; have stronger name recognition and
loyalty; and have long-standing relationships with the Company's target
customers. In addition, many of the Company's competitors enjoy economies of
scale that can result in a lower cost structure for transmission and related
costs, which could cause significant pricing pressures within the long-distance
telecommunications industry. If the Company's competitors were to devote
significant additional resources to the provision of international long-distance
services to the Company's target customer base, the Company's business,
financial condition, and results of operations could be materially adversely
affected.
In the United States, the Federal Communications Commission ("FCC") and
relevant state Public Service Commissions have the authority to regulate
interstate and intrastate telephone service rates, respectively, ownership of
transmission facilities, and the terms and conditions under which the Company's
services are provided. Legislation that substantially revised the U.S.
Communications Act of 1934 was signed into law on February 8, 1996. This
legislation has specific guidelines under which the Regional Bell Operating
Companies ("RBOCs") can provide long-distance services, which will permit the
RBOCs to compete with the Company in providing domestic and international
long-distance services. Further, the legislation, among other things, opens
local service markets to competition from any entity (including long-distance
carriers, cable television companies and utilities).
Because the legislation opens the Company's markets to additional
competition, particularly from the RBOCs, the Company's ability to compete may
be adversely affected. Moreover, certain Federal and other governmental
regulations may be amended or modified, and any such amendment or modification
could have material adverse effects on the Company's business, results of
operations, and financial condition.
2. SIGNIFICANT ACCOUNTING PRINCIPLES:
USE OF ESTIMATES IN PREPARATION OF FINANCIAL STATEMENTS
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates.
REVENUE RECOGNITION
Revenues for telecommunication services provided to customers are recognized
as services are rendered, net of an allowance for revenue that the Company
estimates will ultimately not be realized. Revenues for return traffic received
according to the terms of the Company's operating agreements with its foreign
partners are recognized as revenue as the return traffic is received and
processed.
28
<PAGE>
The Company has entered into operating agreements with telecommunications
carriers in foreign countries under which international long-distance traffic is
both delivered and received. Under these agreements, the foreign carriers are
contractually obligated to adhere to the policy of the FCC, whereby traffic from
the foreign country is routed to international carriers, such as the Company, in
the same proportion as traffic carried into the country. Mutually exchanged
traffic between the Company and foreign carriers is settled through a formal
settlement policy at agreed upon rates per-minute. The Company records the
amount due to the foreign partner as an expense in the period the traffic is
terminated. When the return traffic is received in the future period, the
Company generally realizes a higher gross margin on the return traffic compared
to the lower margin (or sometimes negative margin) on the outbound traffic.
Revenue recognized from return traffic was approximately $2.0 million, $1.1
million and $1.4 million, or 19 percent, 3 percent, and 2 percent of net
revenues in 1995, 1996, and 1997, respectively. There can be no assurance that
traffic will be delivered back to the United States or what impact changes in
future settlement rates, allocations among carriers or levels of traffic will
have on net payments made and revenues received and recorded by the Company.
COST OF SERVICES
Cost of services represents direct charges from vendors that the Company
incurs to deliver service to its customers. These include costs of leasing
capacity and rate-per-minute charges from carriers that originate, transmit, and
terminate traffic on behalf of the Company. The Company accrues disputed vendor
charges until such differences are resolved. (see Notes 4 and 12).
CASH AND CASH EQUIVALENTS
The Company considers all short-term investments with original maturities of
90 days or less to be cash equivalents. Cash equivalents consist primarily of
money market accounts that are available on demand. The carrying amount reported
in the accompanying balance sheets approximates fair value.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts for current assets and current liabilities, other than
the current portion of notes payable to related parties and individuals and
other, approximate their fair value due to their short maturity. The carrying
value of the receivables-based credit facility approximates fair value, since it
bears interest at a variable rate which reprices frequently. The carrying value
of restricted cash approximates fair value plus accrued interest. The fair value
of notes payable to individuals and others and notes payable to related parties
cannot be reasonably and practicably estimated due to the unique nature of the
related underlying transactions and terms (Note 7). However, given the terms and
conditions of these instruments, if these financial instruments were with
unrelated parties, interest rates and payment terms could be substantially
different than the currently stated rates and terms. These notes were paid in
full in July 1997.
LONG-LIVED ASSETS
Long-lived assets and identifiable assets to be held and used are reviewed
for impairment whenever events or changes in circumstances indicate that the
carrying amount should be addressed. Impairment is measured by comparing the
carrying value to the estimated undiscounted future cash flows expected to
result from the use of the assets and their eventual dispositions. The Company
considers expected cash flows and estimated future operating results, trends,
and other available information in assessing whether the carrying value of the
assets is impaired. The Company believes that no such impairment existed as of
December 31, 1996 and 1997.
The Company's estimates of anticipated gross revenues, the remaining
estimated lives of tangible and intangible assets, or both, could be reduced
significantly in the future due to changes in technology, regulation, available
financing, or competitive pressures (see Note 1). As a result, the carrying
amount of long-lived assets could be reduced materially in the future.
OTHER CURRENT ASSETS
Included in other current assets is approximately $1.1 million for amounts
due from employees related to the exercise of stock options in December 1997. No
cash was advanced to these employees. Additionally, none of these employees were
executive officers of the corporation. All amounts due from employees for the
payments of the exercise price and related payroll taxes. were collected in
January 1998.
PROPERTY AND EQUIPMENT
Property and equipment are stated at historical cost. Depreciation is
provided for financial reporting purposes using the straight line method over
the following estimated useful lives:
Long-distance communications equipment (including
undersea cable)................................ 7 to 20 years
Computer and office equipment .................... 3 to 5 years
Long-distance communications equipment includes assets financed under capital
lease obligations of approximately $1,287,000 and $1,456,000 as of December 31,
1996 and 1997, respectively. Accumulated depreciation on these assets as of
December 31, 1996, and 1997, was approximately $587,000 and $672,000
respectively.
Maintenance and repairs are expensed as incurred. Replacements and betterments
are capitalized. The cost and related accumulated depreciation of assets sold or
retired are removed from the balance sheet, and any resulting gain or loss is
reflected in the statement of operations
29
<PAGE>
CONCENTRATIONS OF RISK
Financial instruments that potentially subject the Company to a concentration
of credit risk are accounts receivable. Residential accounts receivable consist
of individually small amounts due from geographically dispersed customers.
Carrier accounts receivable represent amounts due from long-distance carriers.
The Company's allowance for doubtful accounts is based on current market
conditions. The Company's four largest carrier customers represented
approximately 35 and 44 percent of gross accounts receivable as of December 31,
1996 and 1997, respectively. Revenues from several customers represented more
than 10 percent of net revenues for the periods presented (see Note 10).
Including charges in dispute (see Note 4), purchases from the five largest
suppliers represented approximately 67 and 47 percent of cost of services in the
year ended December 31, 1996 and 1997, respectively. Services purchased from
several suppliers represented more than 10 percent of cost of services in the
periods presented (see Note 10). One of these suppliers, representing 25 percent
and 7 percent of cost of services in the year ended December 31, 1996 and 1997,
respectively, is based in a foreign country.
INCOME TAXES
The Company accounts for income taxes in accordance with Statement of
Financial Accounting Standards ("SFAS") No. 109, "Accounting for Income Taxes."
SFAS No. 109 requires that deferred income taxes reflect the expected tax
consequences on future years of differences between the tax bases of assets and
liabilities and their bases for financial reporting purposes. Valuation
allowances are established when necessary to reduce deferred tax assets to the
expected amount to be realized.
EARNINGS (LOSS) PER SHARE
In February 1997, the Financial Accounting Standards Board released Statement
No. 128, "Earnings Per Share." SFAS No. 128 requires dual presentation of basic
and diluted earnings per share on the face of the statements of operations for
all periods presented. Basic earnings per share excludes dilution and is
computed by dividing income available to common stockholders by the
weighted-average number of common shares outstanding for the period. Diluted
earnings per share reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock or resulted in the issuance of common stock that then shared
in the earnings of the entity. Diluted earnings per share is computed similarly
to fully diluted earnings per share under Accounting Principles Bulletin No. 15.
In February 1998, the Securities and Exchange Commission released Staff
Accounting Bulletin ("SAB") No. 98, which revised the previous "cheap stock"
rules for earnings per share calculations in initial public offerings under SAB
No. 83. SAB No. 98 essentially replaces the term "cheap stock" with "nominal
issuances" of common stock. Nominal issuances arise when a company issues common
stock, options, or warrants for nominal consideration in the periods preceding
the initial public offering. SAB No. 98 is effective immediately, and also
reflects the requirements of SFAS No. 128. The Company has restated its earnings
(loss) per share for all periods presented to be consistent with SFAS No. 128
and SAB No. 98.
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
YEAR ENDED DECEMBER 31,
-----------------------------
1995 1996 1997
---------- -------- --------
Weighted average common shares
outstanding - basic.......... 5,317 5,403 6,136
Stock options and warrant -- -- 287
equivalents..................--------- -------- ---------
Weighted average shares and
equivalents - diluted........ 5,317 5,403 6,423
.--------- -------- ---------
Per Share Amounts:
Basic........................ $ (0.23) $ (0.52) $ 0.26
========== ========= ========
Diluted......................$ (0.23) $ (0.52) $ 0.25
========== ========= ========
Options to purchase approximately 143,000 and 138,000 shares of common stock,
were excluded from the computation of diluted loss per share in 1995 and 1996,
respectively, because inclusion of these options would have an anti-dilutive
effect on earnings per share.
DEBT DISCOUNT AND DEFERRED DEBT FINANCING COSTS
As more fully discussed in Note 5, on July 1, 1997, the Company entered into
a credit facility (the "Loan") with a bank (the "Lender"). Debt discount costs
represent amounts ascribed to the redeemable warrants issued in connection with
the Loan. The unamortized debt discount as of December 31, 1997 was
approximately $658,000. Unamortized deferred debt financing costs were
approximately $294,000 at December 31, 1997 and represent other costs incurred
in connection with the establishment of the Loan. These costs are being
amortized over the term of the Loan using the effective interest method. The
aggregate unamortized amounts are reflected in "Deferred debt financing costs,
net" in the balance sheet as of December 31, 1997.
ADVERTISING COST
In accordance with Statement of Position 93-7, "Reporting on Advertising
Costs," costs for advertising are expensed as incurred within the fiscal year.
Such costs are included in " Selling and marketing expenses" in the statements
of operations.
30
<PAGE>
ACCOUNTING PRONOUNCEMENTS NOT YET EFFECTIVE
In June 1997, the Financial Accounting Standards Board issued SFAS No. 130,
"Reporting Comprehensive Income," and SFAS No. 131, "Disclosures About Segments
of an Enterprise and Related Information." The Company is required to adopt both
of these standards for the year ending December 31, 1998.
SFAS No. 130 requires "comprehensive income" and the components of "other
comprehensive income", to be reported in the financial statements and/or notes
thereto. As the Company does not currently have any components of "other
comprehensive income" it is not expected that this statement will affect the
Company's financial statements.
SFAS No. 131 requires entities to disclose financial and descriptive
information about its reportable operating segments. It also establishes
standards for related disclosures about products and services, geographic areas,
and major customers. The Company is in the process of assessing the additional
disclosures, if any, required by SFAS No. 131. However, such adoption will not
impact the Company's results of operations or financial position, since it
relates only to disclosures.
3. ACCOUNTS RECEIVABLE:
Accounts receivable consist of the following (in thousands):
DECEMBER 31,
---------------
1996 1997
---- -----
Residential...................... $ 3,840 $ 9,560
Carrier.......................... 2,573 9,773
-------- --------
6,413 19,333
Allowance for doubtful accounts.. (1,079) (2,353)
======== ========
$5,334 $ 16,980
======== ========
The Company has certain service providers that are also customers. The
Company carries and settles amounts receivable and payable from and to certain
of these parties on a net basis.
Approximately $3,428,000 of residential receivables as of December 31, 1996
were pledged as security under the receivables-based credit facility agreement
discussed in Note 5. No receivables were pledged as of December 31, 1997, as the
related facility was extinguished in July 1997.
4. ACCRUED EXPENSES:
Accrued expenses consist of the following (in thousands):
DECEMBER 31,
------------
1996 1997
---- -----
Disputed vendor charges............ $ 2,057 $ 2,124
Accrued payroll and related taxes.. 368 1,194
Accrued excise taxes and related 182 --
charges............................
Accrued interest................... 88 22
Other.............................. 163 388
--------- ----------
$ 2,858 $ 3,728
========= ==========
Disputed vendor charges represent an assertion from one of the Company's
foreign carriers for minutes processed that are in excess of the Company's
records. The Company has provided approximately $1,414,000 and $67,000 in the
years ended December 31, 1996 and 1997, respectively, related to disputed
minutes for which the Company has not recognized any corresponding revenue. If
the Company prevails in its dispute, these amounts or portions thereof would be
credited to operations in the period of resolution. Conversely, if the Company
does not prevail in its dispute, these amounts or portions thereof would
presumably be paid in cash.
5. CREDIT FACILITY:
Prior to July 1, 1997, the Company had an advanced payment agreement with a
third party billing company, which allowed the Company to take advances against
70 percent of all records submitted for billing. Advances were secured by the
receivables involved. Approximately $1,812,000 was outstanding under such
receivables-based credit facility as of December 31, 1996, with a weighted
average interest rate on outstanding borrowings of 12.25 percent. In July 1997,
the Company paid the remaining amounts owed under this agreement using proceeds
from the Loan discussed below.
31
<PAGE>
On July 1, 1997 the Company entered into a Loan with a Lender. The Loan
provides for maximum borrowings of up to $10 million through December 31, 1997,
and the lesser of $15 million or 85 percent of eligible accounts receivable, as
defined, thereafter until maturity in December 1999. The Company may elect to
pay quarterly interest payments at the prime rate, plus 2 percent, or the
adjusted LIBOR, plus 4 percent. The Loan required a $150,000 commitment fee to
be paid at closing, and a quarterly commitment fee of one quarter percent of the
unborrowed portion. The Loan is secured by substantially all of the Company's
assets and the common stock owned by the majority stockholder and another
stockholder. The Loan contains certain financial and non-financial covenants, as
defined, including, but not limited to, ratios of monthly net revenues to Loan
balance, interest coverage, and cash flow leverage, minimum residential
subscribers, and limitations on capital expenditures, additional indebtedness,
acquisition or transfer of assets, payment of dividends, new ventures or
mergers, and issuance of additional equity (excluding shares issuable in
connection with the Offering). Beginning on July 1, 1998, should the Lender
determine and assert based on its reasonable assessment that a material adverse
change has occurred, all amounts outstanding would become due and payable. The
weighted average borrowings and interest cost under the Loan during 1997 were
approximately $2,015,000 and 10 percent, respectively. The highest balance
outstanding during 1997 was approximately $7,012,000. The Company had no
outstanding balance under the Loan as of December 31, 1997.
In connection with the Loan, the Company issued the Lender warrants to
purchase 539,800 shares of the Company's common stock, representing 10 percent
of the outstanding common stock on the date of issuance. Warrants with respect
to 269,900 of such shares, or 5 percent of the outstanding common stock at the
time the warrants were issued, vested fully on the date of the issuance. Vesting
of the remaining warrants was contingent on the occurrence of certain events,
and, since the Company completed the Offering prior to December 31, 1997, no
additional warrants will vest. The exercise price of the warrants is $8.46 per
share, and they expire on July 1, 2002. Upon completion of the Offering, the
warrants ceased to be redeemable and, accordingly, the fair value of
approximately $823,000 ascribed to the warrants are classified as a component of
stockholders' equity as of December 31, 1997. Proceeds from the Loan were used
to pay down the receivables-based credit facility (discussed above), to retire
the notes payable to related parties and individuals and other (Note 7), to
retire certain capital lease obligations, to purchase long-distance
communications equipment, and for general working capital purposes.
6. STOCKHOLDERS' EQUITY (DEFICIT):
In July 1997, the Company exchanged 17,175 shares of its outstanding
nonvoting common stock for authorized voting common stock and purchased the
remaining 5,351 shares of outstanding nonvoting common stock from a former
officer and director of the Company for $45,269. In August 1997, the Company
increased its authorized shares of common stock to 20,000,000 and created a
preferred class of stock with 100,000 shares of $1.00 par value preferred stock
authorized for issuance.
STOCK OPTION PLANS
1997 Performance Incentive Plan
In August 1997, the stockholders of the Company approved the 1997 Performance
Incentive Plan (the "Performance Plan"). The Performance Plan provides for the
award to eligible employees of the Company and others of stock options, stock
appreciation rights, restricted stock, and other stock-based awards, as well as
cash-based annual and long-term incentive awards. The Performance Plan reserves
750,000 shares of common stock for issuance, and the Company may grant options
to acquire up to 480,000 shares of common stock without triggering the
antidilution provisions of the warrants issued to the Lender (see Note 5). The
options expire 10 years from the date of grant and vest ratably over five years.
The Performance Plan provides that all outstanding options become fully vested
in the event of a change in control, as defined. As of December 31, 1997,
approximately 352,000 options were available for grant under the Performance
Plan.
Amended and Restated Stock Option Plan
The Company's Amended and Restated Stock Option Plan, reserves 270,000 shares
of voting common stock to be issued to officers and key employees under terms
and conditions to be set by the Company's Board of Directors. Options granted
under this plan may be exercised only upon the occurrence of any of the
following events: (i) a sale of more than 50 percent of the issued and
outstanding shares of stock in one transaction, (ii) a dissolution or
liquidation of the Company, (iii) a merger or consolidation in which the Company
is not the surviving corporation, (iv) a filing by the Company of an effective
registration statement under the Securities Act of 1933, as amended, or (v) the
seventh anniversary of the date of full-time employment of the optionee. The
Company amended its stock option plan as of January 20, 1997 to provide that
options may be exercised on or after the seventh anniversary of the date of full
time employment. In conjunction with the original exercise prices and pursuant
to Accounting Principles Board opinion No. 25, "Accounting for Stock Issued to
Employees" ("APB No. 25") and its related interpretations, compensation expense
is recognized for financial reporting purposes when it becomes probable that the
options will be exercisable. The amount of compensation expense that will be
recognized is determined by the excess of the fair value of the common stock
over the exercise price of the related option at the measurement date. The
Company recognized approximately $131,000 in compensation expense for the year
ended December 31, 1997 as the vesting of the options accelerated upon
completion of the Offering.
32
<PAGE>
A summary of the Company's aggregate stock option activity and related
information under the Amended and Restated Option Plan and the Performance Plan,
is as follows:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------------------------------------
1995 1996 1997
-------------------------- ------------------------ -----------------------------
WEIGHTED- WEIGHTED- WEIGHTED-
AVERAGE AVERAGE AVERAGE
EXERCISE EXERCISE EXERCISE
OPTIONS PRICE OPTIONS PRICE OPTIONS PRICE
------------ ------------- ----------- ----------- ----------- ------------
<S> <C> <C> <C> <C> <C> <C>
Options outstanding at
beginning of period.......... 103,200 $0.30 143,200 $ 0.38 138,300 $ 0.38
Granted......................... 40,000 0.60 -- -- 668,366 8.14
Exercised ...................... -- -- -- -- (136,500) 1.05
Forfeited....................... -- -- (4,900) 0.36 (138,500) 0.38
============ ============= ----------- ----------- =========== ========
Options outstanding at end
of period................... 143,200 $ 0.38 138,300 $ 0.38 531,666 $ 9.96
============ ============= =========== =========== =========== ========
Options exercisable at end
of period.................. -- -- 133,266 $ 1.85
============ =========== =========== ==========
</TABLE>
Exercise prices for options outstanding as of December 31, 1997, are as
follows:
<TABLE>
<CAPTION>
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
---------------------------------------------------------- --------------------------------------II
RANGE OF NUMBER OUTSTANDING WEIGHTED-AVERAGE WEIGHTED-AVERAGE NUMBER OF OPTIONS WEIGHTED-AVERAGE
EXERCISE PRICES AS OF DECEMBER REMAINING EXERCISE OUTSTANDING AS OF EXERCISE
31, 1997 CONTRACTUAL LIFE PRICE DECEMBER 31, 1997 PRICE
IN YEARS
------------------ -------------------- ------------------- ------------- -------------------- ------------
<S> <C> <C> <C> <C> <C>
$1.85 - $1.85 133,266 9.05 $ 1.85 133,266 $ 1.85
$10.00 - $10.00 230,900 9.63 10.00 -- --
$12.00 - $12.00 7,500 9.63 12.00 -- --
$16.56 - $16.56 160,000 9.94 16.56 -- --
================== ==================== ==================== ============ ==================== ============
$1.85 - $16.56 531,666 9.58 $ 9.96 133,266 $ 1.85
================== ==================== =================== ============= ==================== ===========
</TABLE>
The Company has elected to account for stock and stock rights in accordance
with APB No. 25. SFAS No. 123, "Accounting for Stock-Based Compensation,"
established an alternative method of expense recognition for stock-based
compensation awards to employees based on fair values. The Company has elected
not to adopt SFAS No. 123 for expense recognition purposes.
Pro forma information regarding net income is required by SFAS No. 123 and
has been determined as if the Company had accounted for its employee stock
options under the fair value method prescribed by SFAS No. 123. The fair value
of options granted during the year ended December 31, 1995 and the year ended
December 31, 1997, was estimated at the date of grant using a Black-Scholes
option pricing model with the following weighted-average assumptions: risk-free
interest rates of 5.4 percent and 6.2 percent; no dividend yield;
weighted-average expected lives of the options of five years, and expected
volatility of 50 percent. There were no options granted in 1996.
The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options that have no vesting restrictions and are fully
transferable. In addition, option valuation models require the input of highly
subjective assumptions, including the expected stock price characteristics that
are significantly different from those of traded options. Because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its stock rights.
The weighted-average fair value of options granted during 1995 and 1997, was
$0.34 per share and $4.32 per share, respectively. For purposes of pro forma
disclosures, the estimated fair value of options is amortized to expense over
the estimated service period. If the Company had used the fair value accounting
provisions of SFAS No. 123, the pro forma net loss for 1995 and 1996 would have
been $1,208,714 and $2,832,531, respectively, or $0.23 and $0.52 per share
(basic and diluted), respectively. Pro forma net income for 1997 would have been
$1,599,733, or $0.26 per share (basic) and $0.25 per share (diluted). The
provisions of SFAS No. 123 are not required to be applied to awards granted
prior to January 1, 1995. The impact of applying SFAS No. 123 may not
necessarily be indicative of future results.
33
<PAGE>
In December 1997, under the Performance Plan, the Company granted to several
consultants options to acquire 30,000 shares of the Company's common stock in
lieu of payment of certain consulting services to be performed in the future.
Pursuant to SFAS No. 123, the Company will recognize compensation expense for
the fair value of these options granted to consultants, as calculated using the
Black-Scholes option pricing model, using the weighted average assumptions
described above. The fair value of these options is approximately $254,000 and
will be recognized ratably over five years.
WARRANTS AND REGISTRATION RIGHTS
The Company agreed to issue to representatives of the underwriters of the
Offering, warrants to purchase up to 150,000 shares of common stock at an
exercise price of $13.20 per share. The warrants are exercisable for a period of
five years beginning October 1998. The holders of the warrants will have no
voting or other stockholder rights unless and until the warrants are exercised.
The fair value of these warrants was approximately $870,000, and is classified
in stockholders' equity.
See Note 5 for a discussion of the warrants issued to the Lender in
connection with the Loan.
7. NOTES PAYABLE TO RELATED PARTIES AND NOTES PAYABLE TO INDIVIDUALS AND OTHER:
NOTES PAYABLE TO RELATED PARTIES
Notes payable to related parties consist of the following (in thousands):
DECEMBER 31,
------------
1996 1997
---- ----
Notes payable to parties related to the primary
stockholder and president of the Company, bearing
interest at rates ranging from 15 to 25 percent.... $ 153 $ --
Less Current Portion............................... (53) --
========= =========
Long-term Portion.................................. $ 100 $ --
========= =========
NOTES PAYABLE TO INDIVIDUALS AND OTHER
Notes payable to individuals and other consist of the following (in
thousands):
DECEMBER 31,
------------
1996 1997
---- ----
Notes payable to various parties, bearing interest
at rates ranging from 15 to 25 percent........... $ 650 $ --
Note payable to individual, non-interest bearing,
convertible into 24,000 shares of voting common
stock upon maturity in 1999........................ -- 44
--------- -------
650 44
Less Current Portion............................... (650) --
========= =======
Long-term Portion.................................. $ -- $ 44
========= =======
8. COMMITMENTS AND CONTINGENCIES:
LEASES
The Company leases office space and equipment under noncancelable operating
leases. Rent expense was approximately $94,000, $97,000, and $313,000 for the
years ended December 31, 1995, 1996, and 1997, respectively. The terms of the
office lease require the Company to pay a proportionate share of real estate
taxes and operating expenses. As discussed in Note 2, the Company also leases
equipment under capital lease obligations. The future minimum commitments under
lease obligations are as follows (in thousands):
CAPITAL OPERATING
YEAR ENDING DECEMBER 31, LEASES LEASES
------------------------ ------ ------
1998...................................... $ 398 $ 615
1999...................................... 393 712
2000...................................... 53 733
2001...................................... -- 657
2002...................................... -- 537
---------- ----------
$ 844 $ 3,254
Less - Amounts representing interest...... (96)
Less - Current portion.................... (331)
==========
Long-term Portion......................... $ 417
==========
34
<PAGE>
LEASE WITH RELATED PARTY
The Company has entered into an agreement with an affiliate of a stockholder
to lease capacity in certain undersea fiber optic cable. The agreement grants a
perpetual right to use the cable and requires ten semiannual payments of $38,330
beginning on June 30, 1996. The Company has recorded $93,500 in accounts payable
as of December 31, 1997, related to this agreement. Unpaid amounts bear interest
at the 180-day LIBOR rate, plus one quarter percent.
The Company is required to pay a proportional share of the cost of operating
and maintaining the cable. The Company can cancel this agreement without further
obligation, except for amounts related to past usage, at any time.
RESTRICTED CASH
The Company was required to provide a bank guarantee of $180,000 in connection
with one of its foreign operating agreements. This guarantee is in the form of a
certificate of deposit and is shown as restricted cash in the accompanying
balance sheets.
EMPLOYEE BENEFIT PLANS
Subsequent to year end, the Company adopted the Startec 401(K) Plan, a
defined contribution plan (the "Plan"). Employees are eligible for the Plan
after completing at least one year of service and attaining age 20. The Plan
allows for employee contributions up to 15% of their compensation.
LITIGATION
Certain claims and suits have been filed or are pending against the Company.
In management's opinion, resolution of these matters will not have a material
impact on the Company's financial position or results of operations and adequate
provision for any potential losses has been made in the accompanying financial
statements.
9. RELATED-PARTY TRANSACTIONS:
The Company has an agreement with an affiliate of a stockholder of the
Company that calls for the purchase and sale of long distance services. Revenues
generated from this affiliate amounted to approximately $1.0 million, $1.5
million, and $1.9 million, or 10, 5, and 2 percent of total net revenues for the
years ended December 31, 1995, 1996, and 1997, respectively. The Company was in
a net account receivable position with this affiliate of approximately $14,000
and $377,000 as of December 31, 1996 and 1997, respectively. Services provided
by this affiliate and recognized in cost of services amounted to approximately
$134,000, $663,000 and $680,000 for the years ended December 31, 1995, 1996 and
1997, respectively.
The Company provided long-distance services to an affiliated entity owned by
the primary stockholder and president of the Company. In the opinion of
management, these services were provided on standard commercial terms. The
affiliate provided long-distance services to customers in certain foreign
countries. Payments received by the Company from this affiliate amounted to
approximately $396,000 and $262,000 for the years ended December 31, 1995, and
1996, respectively. No services were provided in 1997. The affiliate was unable
to collect approximately $150,000 and $95,000 from its residential customers in
the years ended December 31, 1995 and 1996, respectively. Accounts receivable
from this affiliated entity were approximately $64,000 as of December 31, 1996.
There were no amounts outstanding from this affiliate as of December 31, 1997.
The Company had notes payable to parties related to the primary stockholder
and president of the Company which were paid in full in July 1997 (see Note 7)
and a lease with an affiliate of a stockholder of the Company (see Note 8).
<PAGE>
10. SEGMENT DATA AND SIGNIFICANT CUSTOMERS AND SUPPLIERS:
SEGMENT DATA
The Company classifies its operations into one industry segment,
telecommunications services. Substantially all of the Company's revenues for
each period presented were derived from calls terminated outside the United
States.
Net revenues terminated by geographic area were as follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------------------
1995 1996 1997
---- ---- ----
<S> <C> <C> <C>
Asia/Pacific Rim..................................... $ 6,970 $ 13,824 $42,039
Middle East/North Africa............................. 694 8,276 21,236
Sub-Saharan Africa................................... 35 1,136 6,394
Eastern Europe....................................... 317 2,650 7,964
Western Europe....................................... 1,647 1,783 1,913
North America........................................ 494 3,718 3,398
Other................................................ 351 828 2,913
=========== =========== ==========
10,508 32,215 85,857
=========== =========== ===========
</TABLE>
35
<PAGE>
SIGNIFICANT CUSTOMERS
A significant portion of the Company's net revenues is derived from a
limited number of customers. During 1996, the Company's five largest carrier
customers accounted for approximately 40 percent of the Company's total net
revenues, with one customer accounting for 10 percent or more of total net
revenues. During 1997, the Company's five largest carrier customers accounted
for approximately 47 percent of net revenues, with two customers accounting for
10 percent or more of the Company's total net revenues. No other carrier
customer accounted for 10 percent or more of total net revenues in 1997. The
Company's agreements and arrangements with its carrier customers generally may
be terminated on short notice without penalty. The following customers provided
10 percent or more of the Company's total net revenues (in thousands):
DECEMBER 31,
------------------------------------------
1995 1996 1997
---- ---- ----
Videsh Sanchar Nigam Limited
("VSNL").......................... $1,959 * *
WorldCom, Inc....................... * $7,383 $19,886
Frontier............................ * * 12,420
* Revenue provided was less than 10 percent of total revenues for the year.
SIGNIFICANT SUPPLIERS
A significant portion of the Company's cost of services is purchased from a
limited number of suppliers. The following suppliers provided 10 percent or more
of the Company's total cost of services (in thousands):
DECEMBER 31,
--------------------------------------
1995 1996 1997
---- ---- ----
VSNL........................................ $7,155 $7,525 *
Cherry Communications...................... * 3,897 *
WorldCom, Inc.............................. * 3,972 $9,918
Pacific Gateway Exchange.................. * * 8,893
* Cost of services provided was less than 10 percent of total cost of services
for the year.
The cost of services attributable to VSNL include charges that are in dispute,
as discussed in Note 4. VSNL is a government-owned, foreign carrier that has a
monopoly on telephone service in that country.
11. INCOME TAXES:
The Company has net operating loss carryforwards ("NOLs") for Federal income
tax purposes of approximately $2,564,000 and $1,878,000, as of December 31, 1996
and 1997, respectively, which may be applied against future taxable income and
expire in years 2010 and 2011. The Company utilized a portion of these NOLs to
partially offset its taxable income for the year ended December 31, 1997. The
use of the NOLs is subject to statutory and regulatory limitations regarding
changes in ownership. SFAS No. 109 requires that the tax benefit of NOLs for
financial reporting purposes be recorded as an asset to the extent that
management assesses the realization of such deferred tax assets is "more likely
than not." A valuation reserve is established for any deferred tax assets that
are not expected to be realized.
As a result of historical operating losses and the fact that the Company has
a limited operating history, a valuation allowance equal to the deferred tax
asset was recorded for all periods presented.
36
<PAGE>
The tax effect of significant temporary differences, which comprise the
deferred tax assets and liabilities, are as follows (in thousands)
DECEMBER 31,
------------
1996 1997
------ ------
Deferred tax assets:
Net operating loss carryforwards.......... $1,014 $ 725
Allowance for doubtful accounts........... 336 909
Contested liabilities..................... 814 1,024
Cash to accrual adjustments............... 778 460
Other..................................... 17 119
---------- ---------
Total deferred tax assets............... 2,959 3,237
Deferred tax liabilities:
Depreciation.............................. 66 204
Other..................................... -- 42
---------- ---------
Total deferred tax liabilities.......... 66 246
---------- ---------
Net deferred tax assets..................... 2,893 2,991
Valuation allowance......................... (2,893) (2,991)
---------- ---------
$ -- $--
========== =========
Pursuant to Section 448 of the Internal Revenue Code, the Company was
required to change from the cash to the accrual method of accounting. The effect
of this change will be amortized over four years for tax purposes.
The Company recorded no benefit or provision for income taxes for the years
ended December 31, 1995 and 1996. A provision for Federal alternative minimum
tax was recorded for the year ended December 31, 1997. The components of income
tax expense for the year ended December 31, 1997 are as follows (in thousands):
DECEMBER 31,
1997
----
Current Provision
Federal.......................................... $ 171
Federal alternative minimum tax.................. 29
State............................................ 23
Deferred benefit
Federal ......................................... (86)
State............................................. (12)
Benefit of net operating loss carryforwards ...... (96)
......................................
----
$ 29
=====
The provision for income taxes results in an effective rate which differs
from the Federal statutory rate as follows:
DECEMBER 31,
1997
----
Statutory Federal income tax rate................ 35.0%
Impact of graduated rate......................... (1.0)
State income taxes, net of Federal tax benefit... 4.6
Federal alternative minimum tax.................. 1.8
Benefit of net operating loss carryforwards...... (38.6)
======
Effective rate................................... 1.8%
======
37
<PAGE>
12. QUARTERLY DATA - UNAUDITED:
The following quarterly financial data has been prepared from the financial
records of the Company without audit, and reflects all adjustments which, in the
opinion of management, were of a normal recurring nature (except as discussed in
notes (B) and (C) below) and necessary for a fair presentation of the results of
operations for the interim periods presented. The operating results for any
quarter are not necessarily indicative of results for any future period.
<TABLE>
<CAPTION>
QUARTERS ENDED
--------------------------------------------------------------------------
1996 1997
-------------------------------------- -----------------------------------
MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30 DEC. 31
<S> <C> <C> <C> <C> <C> <C> <C> <C>
Net revenues.................. 4,722 8,485 7,652 11,356 12,372 16,464 25,757 31,264
Gross margin (B) (C).......... 255 563 889 627 1,607 1,979 3,089 3,399
Income (loss) from operations. (444) (409) (740) (916) 256 349 738 754
Net income (loss) (B)......... (497) (465) (815) (1,053) 137 214 413 855
======== ========= ======== ========= ======== ======== ======== ========
Basic earnings (loss) per
share (A)................... (0.09) (0.09) (0.15) (0.19) 0.03 0.04 0.08 0.10
======== ========= ======== ========= ======== ======== ======== ========
Weighted average common
shares outstanding - basic
(A)....................... . 5,403 5,403 5,403 5,403 5,403 5,403 5,403 8,324
======== ========= ======== ========= ======== ======== ======== ========
Diluted earnings (loss) per
share (A)................... (0.09) (0.09) (0.15) (0.19) 0.03 0.04 0.07 0.10
======== ========= ======== ========= ======== ======== ======== ========
Weighted average common
shares and equivalent -
diluted (A)........... 5,403 5,403 5,403 5,403 5,474 5,646 5,760 8,709
======== ========= ======== ========= ======== ======== ======== ========
</TABLE>
(A) The earnings (loss) per share amounts have been restated in accordance
with SAB No. 98 and SFAS No. 128. Quarterly per share data may not total
to annual per share data due to changes in shares outstanding for the
periods. The increase in weighted shares in the fourth quarter of 1997
is due to the Company's initial public offering in October 1997.
(B) Vendor disputes and other disputed charges resolved in the fourth
quarter of 1997 resulted in net credits as estimated by management of
approximately $300,000 recognized as lower cost of services and general
and administrative expenses.
(C) During the first quarter of 1997, the Company's gross margin improved by
approximately $1.0 million over the fourth quarter of 1996. The
improvement was due to (i) approximately $500,000 in costs accrued in
the fourth quarter 1996 for disputed vendor obligations as compared to
approximately $8,000 in costs accrued during the first quarter of 1997;
(ii) approximately $400,000 of cost reductions in 1997 resulting from an
increase in the utilization of alternative termination options; and
(iii) to a lesser extent, an increase in the percentage of residential
traffic originated on net.
38
<PAGE>
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS
The information concerning directors required for this item is incorporated
by reference to the information contained under the captions "Election of
Directors", "Meetings and Committees of the Board" and "Section 16(a) Beneficial
Ownership Reporting Compliance" in the Company's Proxy Statement for the Annual
Meeting of Stockholders.
ITEM 11. EXECUTIVE COMPENSATION
The information required for this item is incorporated by reference to the
information contained under the caption "Compensation of Directors and Executive
Officers" in the Company's Proxy Statement for the Annual Meeting of
Stockholders.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required for this item is incorporated by reference to the
information contained under the caption "Ownership of the Capital Stock of the
Company" in the Company's Proxy Statement for the Annual Meeting of
Stockholders.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required for this item is incorporated by reference to the
information contained under the caption "Certain Relationships and Related
Transactions" in the Company's Proxy Statement for the Annual Meeting of
Stockholders.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
The following documents are filed as part of this Annual Report on Form
10-K:
(a) 1. FINANCIAL STATEMENTS. The financial statements of the Company and
the related Report of Independent Public Accountants are filed as
Item 8 hereof.
(a) 2. FINANCIAL STATEMENT SCHEDULE. The Financial Statement Schedule
described below is filed as part of this report.
Description:
------------
Report of Independent Public Accountants
Schedule II - Valuation and Qualifying Accounts
(a) 3. EXHIBITS
EXHIBIT INDEX
<TABLE>
<CAPTION>
Sequential
Exhibit Page
Number Description Number
- ------------ --------------------------------------------------------------------------------- -----------
<S> <C> <C>
3.1* Amended and Restated Articles of Incorporation.
3.2* Amended and Restated Bylaws.
4.1* Specimen of Common Stock Certificate.
4.2* Warrant Agreement dated as of July 1, 1997 by and between Startec, Inc. and
Signet Bank.
4.3* Form of Underwriters' Warrant Agreement (including Form of Warrant).
4.4* Voting Agreement dated as of July 31, 1997 by and between Ram Mukunda and
Vijay and Usha Srinivas.
10.1* Secured Revolving Line of Credit Facility Agreement dated as of July 1, 1997 by
and between Startec, Inc. and Signet Bank.
10.2* Lease by and between Vaswani Place Limited Partnership and Startec, Inc. dated
as of September 1, 1994, as amended.
10.3* Agreement by and between World Communications, Inc. and Startec, Inc. dated as
of April 25, 1990.
10.4* Co-Location and Facilities Management Services Agreement by and between
Extranet Telecommunications, Inc. and Startec, Inc. dated as of August 28, 1997.
10.5* Employment Agreement dated as of July 1, 1997 by and between Startec, Inc. and
Ram Makunda.
10.6* Employment Agreement dated as of July 1, 1997 by and between Startec, Inc. and
Prabhav V. Maniyar.
10.7* Amended and Restated Stock Option Plan.
10.8* 1997 Performance Incentive Plan.
10.9* Subscription Agreement by and among Blue Carol Enterprises, Limited, Startec,
Inc. and Ram Mukunda dated as of February 8, 1995.
10.10* Agreement for Management Participation by and among Blue Carol Enterprises,
Limited, Startec, Inc. and Ram Makunda dated as of February 8, 1995, as amended
as of June 16, 1997.
10.11* Service Agreement by and between Companhia Santomensed De
Telecommunicacoes and Startec, Inc. as amended on February 8, 1995.
10.12*+ Lease Agreement between Companhia Protuguesa Radio Marconi, S.A. and
Startec, Inc. dated as of June 15, 1996.
10.13*+ Indefeasible Right of Use Agreement between Companhia Portuguesa Radio
Marconi, S.A. and Startec, Inc. dated as of January 1, 1996.
10.14*+ International Telecommunication Services Agreement between Videsh Sanchar
Nigam Ltd. and Startec, Inc. dated as of November 12, 1992.
10.15*+ Digital Service Agreement with Communications Transmission Group, Inc. dated
as of October 25, 1994.
10.16*+ Lease Agreement by and between GPT Finance Corporation and
Startec, Inc. dated as of January 10, 1990.
10.17*+ Carrier Services Agreement by and between Frontier Communications Services,
Inc. and Startec, Inc. dated as of February 26, 1997.
</TABLE>
<PAGE>
<TABLE>
<CAPTION>
Sequential
Exhibit Page
Number Description Number
- ------------- ------------------------------------------------------------------------------- -----------
<S> <C> <C>
10.18*+ Carrier Services Agreement by and between MFS International, Inc. and Startec,
Inc. dated as of July 3, 1996.
10.19*+ International Carrier Voice Service Agreement by and between MFS
International, Inc. and Startec, Inc. dated as of June 6, 1996.
10.20*+ Carrier Services Agreement by and between Cherry Communications, Inc. and
Startec, Inc. dated as of June 7, 1995.
11*# Statement re Computation of per share earnings.
12** Not Applicable.
13*** Annual Report to Security Holders.
16 Not Applicable.
18 Not Applicable.
21 Not Applicable.
22 Not Applicable.
23.1* * Consent of Arthur Andersen LLP.
24 Not Applicable.
27.1* * Financial Data Schedule.
</TABLE>
- ----------
Incorporated by reference from the Company's Registration Statement on Form S-1
(SEC File No. 333-32753).
*#- Included in footnotes to financial statements.
**Filed herewith.
*** To be filed by amendment.
Portions of the Exhibit have been omitted pursuant to a grant of
Confidential Treatment by the Securities and Exchange Commission under Rule 406
of the Securities Act of 1933, as amended, and the Freedom of Information Act.
(b) REPORTS ON FORM 8-K
-------------------
On November 17, 1997, the Company filed a Form 8-K with the Securities and
Exchange Commission.
39
<PAGE>
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, as amended, the Registrant has duly caused this Report to be signed
on its behalf by the undersigned, thereunto duly authorized, in Montgomery
County, State of Maryland, on the 31st day of March, 1998.
STARTEC GLOBAL COMMUNICATIONS CORPORATION
-----------------------------------------
<TABLE>
<CAPTION>
Signatures Title Date
---------- ----- ----
<S> <C> <C>
/s/ Ram Mukunda President, Chief Executive Officer, Treasurer and March 31, 1998
-------------------------------------- Director (Principal Executive Officer)
Ram Mukunda
/s/ Prabhav V. Maniyar Senior Vice President, Chief Financial Officer, March 31, 1998
------------------------------------- Secretary and Director(Principal Financial and
Prabhav V. Maniyar Accounting Officer)
/s/ Vijay Srinivas Director March 31, 1998
- --------------------------------------
Vijay Srinivas
/s/ Nazir G. Dossani Director March 31, 1998
- --------------------------------------
Nazir G. Dossani
/s/ Richard K. Prins Director March 31, 1998
- --------------------------------------
Richard K. Prins
</TABLE>
40
<PAGE>
EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION
----------- -----------
23.1 Consent of Arthur Andersen LLP
27.1 Financial Data Schedule
41
<PAGE>
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To Startec Global Communications Corporation:
We have audited, in accordance with generally accepted auditing standards,
the financial statements of Startec Global Communications Corporation (a
Maryland corporation) included in this Form 10-K and have issued our report
thereon dated March 4, 1998. Our audits were made for the purpose of forming an
opinion on the basic financial statements taken as a whole. The schedule listed
in Item 14(a) is the responsibility of the Company's management and is presented
for purposes of complying with the Securities and Exchange Commission's rules
and is not part of the basic financial statements. This schedule has been
subjected to the auditing procedures applied in the audits of the basic
financial statements and, in our opinion, fairly states, in all material
respects, the financial data required to be set forth therein in relation to the
basic financial statements taken as a whole.
ARTHUR ANDERSEN LLP
Washington, D.C.,
March 4, 1998
42
<PAGE>
STARTEC GLOBAL COMMUNICATIONS CORPORATION
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
(IN THOUSANDS)
COLUMN A COLUMN B COLUMN C COLUMN D COLUMN E COLUMN F
-------- -------- -------- -------- -------- --------
ADDITIONS
-----------------------------
BALANCE CHARGED CHARGED TO
AT TO COSTS OTHER BALANCE
BEGINNING AND ACCOUNTS- DEDUCTIONS- AT END OF
DESCRIPTION OF PERIOD EXPENSES DESCRIBER(A) DESCRIBE(B) PERIOD
----------- --------- -------- ------------ ----------- ------
<S> <C> <C> <C> <C> <C>
Reflected as reductions
to the related assets:
Provisions for uncollectible
accounts (deductions from trade
accounts receivable)
Year ended December 31, 1995......... $ 752 $ 150 $ 174 $ (619) $ 457
Year ended December 31, 1996......... 457 783 464 (625) 1,079
Year ended December 31, 1997......... 1,079 57 1,864 (647) 2,353
(a) Represents reduction of revenue for accrued credits on residential business.
(b) Represents amounts written off as uncollectible.
</TABLE>
43
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the incorporation of
our reports included in this Form 10-K, into Startec Global Communications
Corporation's previously filed Registration Statement on Form S-8, File No.
333-44317.
ARTHUR ANDERSEN LLP
Washington, D.C.,
March 27, 1998
<TABLE> <S> <C>
<ARTICLE> 5
<MULTIPLIER> 1000
<CURRENCY> US DOLLARS
<S> <C> <C>
<PERIOD-TYPE> 12-MOS 12-MOS
<FISCAL-YEAR-END> DEC-31-1996 DEC-31-1997
<PERIOD-START> JAN-01-1996 JAN-01-1997
<PERIOD-END> DEC-31-1996 DEC-31-1997
<EXCHANGE-RATE> 1 1
<CASH> 148 26,114
<SECURITIES> 0 0
<RECEIVABLES> 6,491 19,710
<ALLOWANCES> 1,079 2,353
<INVENTORY> 0 0
<CURRENT-ASSETS> 5,771 45,214
<PP&E> 2,165 6,424
<DEPRECIATION> 789 1,240
<TOTAL-ASSETS> 7,327 51,530
<CURRENT-LIABILITIES> 12,770 19,479
<BONDS> 0 0
0 0
0 0
<COMMON> 76 88
<OTHER-SE> (6,165) 31,502
<TOTAL-LIABILITY-AND-EQUITY> 7,327 51,530
<SALES> 0 0
<TOTAL-REVENUES> 32,215 85,857
<CGS> 0 0
<TOTAL-COSTS> 29,881 75,783
<OTHER-EXPENSES> 847 1,689
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 337 762
<INCOME-PRETAX> (2,830) 1,648
<INCOME-TAX> 0 29
<INCOME-CONTINUING> (2,830) 1,619
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> (2,830) 1,619
<EPS-PRIMARY> (0.52) 0.26
<EPS-DILUTED> (0.52) 0.25
</TABLE>
