<PAGE> 1
AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON JUNE 3, 1999.
REGISTRATION NO.
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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM S-3
REGISTRATION STATEMENT
UNDER
THE SECURITIES ACT OF 1933
------------------------
MGC COMMUNICATIONS, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
<TABLE>
<S> <C> <C>
NEVADA 4813 88-0360042
(STATE OR OTHER JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NO.)
3301 N. BUFFALO DRIVE KENT F. HEYMAN, ESQ.
LAS VEGAS, NEVADA 89129 3301 N. BUFFALO DRIVE
(702) 310-1000 LAS VEGAS, NEVADA 89129
(ADDRESS, INCLUDING ZIP CODE, (702) 310-1000
AND TELEPHONE NUMBER, INCLUDING (NAME, ADDRESS, INCLUDING ZIP CODE,
AREA CODE, OF REGISTRANT'S AND TELEPHONE NUMBER, INCLUDING
PRINCIPAL EXECUTIVE OFFICES) AREA CODE, OF AGENT FOR SERVICE)
</TABLE>
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COPIES TO:
<TABLE>
<S> <C>
ROBERT B. GOLDBERG, ESQ. RALPH J. SUTCLIFFE, ESQ.
ELLIS, FUNK, GOLDBERG, LABOVITZ & DOKSON, P.C. KRONISH LIEB WEINER & HELLMAN LLP
3490 PIEDMONT ROAD, N.E., SUITE 400 1114 AVENUE OF THE AMERICAS, 46TH FLOOR
ATLANTA, GEORGIA 30305 NEW YORK, NEW YORK 10036
(404) 233-2800 (212) 479-6000
</TABLE>
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APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: The sale of
securities under this Registration Statement will begin as soon as practicable
after the effective date of this Registration Statement.
If the only securities being registered on this Form are being offered in
connection with dividend or interest reinvestment plans, please check the
following box: [ ]
If any of the securities being registered on this Form are to be offered on
a delayed or continuous basis pursuant to Rule 415 under the Securities Act of
1933, other than securities offered only in connection with dividend or interest
reinvestment plans, check the following box. [ ]
If this Form is filed to register additional securities for an offering
pursuant to Rule 462(b) under the Securities Act, please check the following box
and list the Securities Act registration statement number of the earlier
effective registration statement for the same offering. [ ]
- ---------------
If this Form is a post-effective amendment filed pursuant to Rule 462(d)
under the Securities Act, check the following box and list the Securities Act
registration statement number of the earlier effective registration statement
for the same offering. [ ]
- ---------------
If the delivery of the prospectus is expected to be made pursuant to Rule
434, please check the following box. [ ]
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CALCULATION OF REGISTRATION FEE
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<CAPTION>
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PROPOSED MAXIMUM PROPOSED MAXIMUM
TITLE OF EACH CLASS OF AMOUNT OFFERING PRICE AGGREGATE AMOUNT OF
SECURITIES TO BE REGISTERED TO BE REGISTERED PER SHARE OFFERING PRICE REGISTRATION FEE
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<S> <C> <C> <C> <C>
Common Stock, $.001 par value.... (1) (1) $150,000,000 $41,700.00
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</TABLE>
(1) The number of shares and offering price per share will be determined based
on pricing considerations at the time of the offering. Based on the average
of the high and low sales prices of the Common Stock as reported on the
NASDAQ Stock Market on June 1, 1999, 5,479,452 shares would be registered
hereunder at $27.38 per share.
------------------------
THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR
DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL
FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THE REGISTRATION
STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF
THE SECURITIES ACT OF 1933 OR UNTIL THIS REGISTRATION STATEMENT SHALL BECOME
EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a),
MAY DETERMINE.
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<PAGE> 2
THE INFORMATION IN THIS PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. WE MAY
NOT SELL THESE SECURITIES UNTIL THE REGISTRATION STATEMENT FILED WITH THE
SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PROSPECTUS IS NOT AN OFFER
TO SELL THESE SECURITIES IN ANY STATE WHERE THE OFFER OR SALE IS NOT PERMITTED.
SUBJECT TO COMPLETION, DATED JUNE 3, 1999
PRELIMINARY PROSPECTUS
SHARES
MGC COMMUNICATIONS, INC.
COMMON STOCK
------------------------------
This is a public offering of shares of common stock of MGC
Communications, Inc. We are selling 5,000,000 shares of common stock and the
selling stockholders identified in this prospectus are selling shares
of common stock. We will not receive any of the proceeds from the shares of
common stock sold by the selling stockholders.
The underwriters have an option to purchase a maximum of additional
shares of common stock from us to cover over-allotments of shares.
Our common stock is traded on the Nasdaq National Market under the symbol
"MGCX." On , 1999, the last reported sales price was $ per
share.
SEE "RISK FACTORS" BEGINNING ON PAGE 8 TO READ ABOUT RISKS THAT YOU SHOULD
CONSIDER BEFORE BUYING SHARES OF OUR COMMON STOCK.
------------------------------
NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY OTHER REGULATORY BODY HAS
APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE ACCURACY OR
ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL
OFFENSE.
------------------------------
<TABLE>
<CAPTION>
PER
SHARE TOTAL
----- -----
<S> <C> <C>
Public offering price....................................... $ $
Underwriting discount....................................... $ $
Proceeds, before expenses, to us............................ $ $
Proceeds, before expenses, to the selling stockholders...... $ $
</TABLE>
------------------------------
The underwriters are severally underwriting the shares being offered in this
prospectus. The underwriters expect to deliver the shares against payment in New
York, New York on , 1999.
------------------------------
BEAR, STEARNS & CO. INC.
GOLDMAN, SACHS & CO.
ING BARING FURMAN SELZ LLC
THE DATE OF THIS PROSPECTUS IS , 1999.
<PAGE> 3
PROSPECTUS SUMMARY
This summary contains basic information about us and this offering. Because
it is a summary, it does not contain all of the information that you should
consider before investing. You should read the entire prospectus carefully,
including the section entitled "Risk Factors," our financial statements and the
notes related to our financial statements. References in this prospectus to
"we," "us," "our" or "MGC" mean MGC Communications, Inc. and its subsidiaries,
unless the context otherwise requires. The term "you" refers to prospective
investors in the common stock. Certain terms we use in this prospectus to
describe our network and its components are explained in the section entitled
"Business -- Network Architecture and Technology." Unless otherwise specified,
all information in this prospectus assumes no exercise of the underwriters'
over-allotment option.
MGC COMMUNICATIONS
We are a growing communications company currently offering local dialtone,
long distance and other voice services to small business and residential
customers. We expect to offer bundled voice and high-speed data services using
digital subscriber line ("DSL") technology in some of our markets later this
year.
- We have one of the largest collocation footprints, with 233 central
office collocation sites providing us access to approximately 12.8
million addressable lines, including an estimated 4.0 million small
business lines.
- We currently deliver our services in the metropolitan areas of Atlanta,
Chicago, Las Vegas, southern Florida and selected areas of southern
California, including Los Angeles and San Diego.
- We have interconnection agreements with five incumbent local exchange
carriers: Ameritech, BellSouth, GTE, PacBell and Sprint.
- At the end of the first quarter of 1999, we had 79,332 customer lines
sold, of which 65,147 lines were in service.
- During 1999, we plan to continue expanding our network to over 300
central office collocation sites providing access to approximately 17
million addressable lines.
- During 2000, we plan to expand into approximately 20 new markets and add
over 250 central office collocation sites.
- We have developed a sophisticated, proprietary operations support system
designed to manage all aspects of our business, including timely and
accurate provisioning to place our customers on our network.
We were one of the first competitive local exchange carriers to implement a
"smart-build" strategy, building and owning the intelligent components of our
network -- switches and collocation facilities -- while leasing unbundled loops
and transport from other carriers. We believe this "smart-build" strategy has
allowed us to quickly establish a large collocation footprint at a comparatively
low cost while maintaining control of the access to our customers. Having
executed our "smart-build" strategy, we are well-positioned to serve the growing
demand from small business customers for communications services.
The rapid growth of the Internet has fueled demand from small businesses
for access to high-speed data services. To meet this growing demand, we intend
to overlay DSL technology into our existing network to provide a bundled voice
and high-speed data solution over a single copper unbundled loop. This will be
accomplished by installing DSL equipment in our host switch sites, collocation
sites and at our customers' sites. On average, DSL technology increases the
transport
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capacity of standard copper telephone lines by 24 times. This increased capacity
will allow us to meet the growing demand for high-speed data services and to
deliver multiple voice telephone lines to a customer using a single unbundled
loop which we lease from the incumbent local exchange carrier. By using a single
unbundled loop to deliver a bundled voice and high-speed data product, we expect
to significantly reduce the per line costs of provisioning customer lines and
the associated recurring leased transport and unbundled loop costs. These
savings should allow us to offer a value-priced package of services to our
customers. Several of our customers are testing our bundled voice and high-speed
data product, which is delivered via DSL. We plan to offer this product to small
businesses in select markets later this year.
MARKET OPPORTUNITY
We believe we have a significant market opportunity as a result of:
- the impact of the Telecommunications Act of 1996;
- the needs of small businesses for integrated communications solutions;
- the growing market demand for high-speed digital communications; and
- the emergence of DSL technology.
THE MGC SOLUTION
We believe that we offer an attractive communications solution to small
business and residential customers. Key aspects of our solution include:
- Simple, Competitive Flat Rate Packages. We offer our customers simple,
value-priced solutions for their communications requirements, all on a
single bill. Today we offer high quality basic communications products
and services, including local dialtone, custom calling features, long
distance and dial-up Internet access, at discounted prices.
- "One-Stop" Communications Solutions. Our flat rate, bundled packages
eliminate the need for our customers to decide among a broad array of
communications options. Through the implementation of DSL technology, we
expect to offer a "one-stop" communications solution for our customers,
which will include our current communications products bundled with high-
speed data service. Our customers will have a single point of contact for
a complete package of services, eliminating the need for our customers to
manage multiple vendors.
- Service Reliability. We are able to offer our customers a high degree of
service reliability through efficient, timely execution of provisioning
unbundled loops due to our mature relationships with five incumbent local
exchange carriers. We believe the introduction of DSL technology will
enable us to further improve our service reliability by simplifying the
provisioning process. Moreover, our customer service center is staffed to
respond promptly to customer inquiries 24 hours a day, seven days a week.
BUSINESS STRATEGY
Our goal is to become a leading national communications provider of bundled
voice and data solutions to the small business market. We intend to implement
the following strategies in an effort to achieve our goal:
- address the greatest percentage of our targeted customers as quickly as
possible through our continued rapid service rollout;
- expand significantly our direct sales force to provide greater sales and
marketing coverage of the small business customers in our extensive
network footprint;
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<PAGE> 5
- deploy a DSL solution to position ourselves to be one of the first
providers of bundled voice and data services to small business customers
in our target markets;
- employ a capital efficient network strategy to maximize return on our
invested capital;
- continue to enhance and increase the capacity of our sophisticated
operations support system to support our expanding operations;
- control access to our customers by placing them directly on our network;
- effectively manage the provisioning process to transfer new customers
from the incumbent local exchange carriers' networks to our network in an
accurate and timely fashion; and
- provide superior service and customer care.
RECENT DEVELOPMENTS
In May 1999, we issued 5,277,779 shares of Series B Convertible Preferred
Stock to Providence Equity Partners III L.P., JK&B Capital III L.P., Wind Point
Partners III, L.P. and their affiliates. We received $47.5 million in gross
proceeds from the issuance of the Series B Convertible Preferred Stock. The
Series B Convertible Preferred Stock is convertible into common stock on a
one-for-one basis. See "Description of Securities."
PRINCIPAL EXECUTIVE OFFICES
Our principal executive offices are at 3301 N. Buffalo Drive, Las Vegas,
Nevada 89129. Our telephone number is (702) 310-1000.
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THE OFFERING
Common stock offered by
us(1)......................... 5,000,000 shares
Common stock offered by the
selling stockholders(2)....... shares
Common stock to be outstanding
after this offering(3)...... shares
Use of proceeds............... Capital expenditures related to the purchase
and installation of DSL and other
communications equipment and for general
corporate purposes, including working capital
to fund our expanding sales and marketing
efforts.
Nasdaq National Market Symbol
for Common Stock.............. MGCX
- -------------------------
(1) The underwriters have an over-allotment option to purchase an additional
shares solely to cover over-allotments.
(2) This represents the estimated number of shares that we expect the selling
stockholders to sell in the offering.
(3) The number of shares outstanding excludes:
- 2,209,130 shares of common stock which may be issued upon the exercise of
outstanding stock options granted at a weighted average exercise price of
$6.61 per share;
- 563,903 shares of common stock which may be issued upon the exercise of
outstanding warrants with an exercise price of approximately $.02 per
share;
- the conversion of the 5,277,779 shares of Series B Convertible Preferred
Stock outstanding, which shares may be converted into shares of common
stock on a one-for-one basis; and
- any shares which may be issued if the underwriters exercise their
over-allotment option.
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SUMMARY CONSOLIDATED FINANCIAL AND OPERATING DATA
<TABLE>
<CAPTION>
QUARTER ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
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1996 1997 1998 1998 1999
---- ---- ---- ---- ----
(AUDITED) (UNAUDITED)
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Operating revenues.............. $ 1 $ 3,791 $ 18,249 $ 2,846 $ 8,401
Cost of operating revenues...... 305 3,928 17,129 2,371 8,483
Selling, general and
administrative expenses....... 841 6,440 17,877 2,562 7,727
Loss from operations............ (1,554) (7,851) (21,995) (2,954) (11,293)
OTHER FINANCIAL DATA:
EBITDA(1)....................... $(1,145) $(6,577) $(16,757) $(2,087) $ (7,809)
Capital expenditures............ 3,659 22,641 97,101 10,671 15,240
OPERATING DATA (END OF PERIOD):
Total access lines in service... 50 15,590 47,744 20,924 65,147
Central office collocation
sites......................... 9 25 207 29 233
Switches in service............. 1 3 7 3 7
</TABLE>
<TABLE>
<CAPTION>
AS OF MARCH 31, 1999
--------------------------
ACTUAL AS ADJUSTED(2)
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(DOLLARS IN THOUSANDS)
(UNAUDITED)
<S> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents and investments available-for-sale
(excluding restricted investments)........................ $ 55,307 $
Restricted investments...................................... 39,929 39,929
Property and equipment, net................................. 128,136 128,136
Total assets................................................ 237,553
Long-term debt.............................................. 157,286 157,286
Series B Convertible Preferred Stock........................ -- 46,500
Stockholders' equity........................................ 48,649
</TABLE>
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(1) EBITDA consists of earnings before interest, income taxes, depreciation and
amortization. For the year ended December 31, 1996, EBITDA excludes a charge
of $355,000 related to the one-time write-off of purchased software. EBITDA
does not represent funds available for management's discretionary use and is
not intended to represent cash flow from operations. EBITDA should not be
considered as an alternative to loss from operations as an indicator of our
operating performance or as an alternative to cash flows as a measure of
liquidity. In addition, EBITDA is not a term defined by generally accepted
accounting principles and, as a result, the measure of EBITDA may not be
comparable to similarly titled measures used by other companies. We believe
that EBITDA is often reported and widely used by analysts, investors and
other interested parties in the communications industry. Accordingly, we are
including this information to permit a more complete comparison of our
operating performance relative to other companies in the industry.
(2) Gives effect to the issuance of 5,277,779 shares of Series B Convertible
Preferred Stock in May 1999 and to this offering.
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<PAGE> 8
RISK FACTORS
You should carefully consider the following factors, in addition to other
information in this prospectus, before purchasing the securities being offered.
The risks and uncertainties described below are not the only ones facing our
company. Additional risks and uncertainties of which we are unaware or currently
think are inmaterial may also impair our business operations.
If any of the following risks actually occur, our business, financial
condition or results of operations could be materially adversely affected. This
could cause the trading price of our common stock to decline and you could lose
all or part of your investment.
OUR BUSINESS MODEL IS STILL EVOLVING AND WE HAVE A LIMITED OPERATING HISTORY
We have a very limited operating history. As a result, there is limited
historical financial information about us upon which to base an evaluation of
our future prospects or performance. We began providing local telephone services
in December 1996 in Nevada. Since then, we have begun providing local telephone
services in Atlanta, Chicago, southern Florida and selected areas of southern
California, including Los Angeles and San Diego. In February 1998, we began
offering long distance services. We expect to continue to increase the size of
our operations in the future and to commence offering high-speed data and
Internet services. Because some of our services are new and a large portion of
our resources will be dedicated to our high-speed data and Internet services, it
is difficult to evaluate our business and our revenue and income potential is
uncertain.
We are depending on the success of our high-speed data and Internet
services to accelerate our revenue growth. If our business does not evolve as we
expect, we will likely grow at a significantly slower pace than would be the
case if our high-speed data and Internet services are successful. In addition,
there is no historical basis for estimating the number of customers or the
amount of revenues our high-speed data and Internet offerings will generate or
for determining whether we will be able to compete successfully in the
communications industry. If our high-speed data and Internet services do not
evolve as we expect or we are unable to compete in the communications industry,
it is likely the price of our stock will be adversely affected.
WE EXPECT OUR LOSSES TO CONTINUE
We recorded net losses of $14.2 million in the first quarter of 1999, $32.1
million in 1998, and $10.8 million in 1997. We expect to record significant net
losses and generate negative cash flow from operations for the foreseeable
future. In addition, we had negative cash flow from operations of $.6 million in
the first quarter 1999, $24.2 million in 1998 and $4.5 million in 1997. We
cannot assure you we will achieve or sustain profitability or generate
sufficient positive cash flow from operations to meet our planned capital
expenditures, working capital and debt service requirements. In the absence of
favorable operating results, we could face substantial liquidity problems and
might be required to seek additional financing through the issuance of debt or
equity securities. However, we could be unsuccessful in obtaining additional
financing on acceptable terms when needed.
WE WILL NEED SIGNIFICANT ADDITIONAL FUNDS THAT WE MAY NOT BE ABLE TO OBTAIN
We require significant amounts of capital to fund the development and
expansion of our business and services as well as operating costs and debt
service. We expect to fund our capital requirements through existing resources,
debt or equity financing and internally generated funds. We expect continued
expansion of our business may require raising substantial additional equity
and/or debt capital. However, our future capital requirements will depend upon a
number of factors, including factors not within our control, such as competitive
conditions, government regulation and capital costs. In addition, the terms of
our outstanding debt and preferred stock restrict our ability to incur
additional debt or issue additional preferred stock. We cannot assure you we
will be successful in
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raising sufficient debt or equity financing on acceptable terms. If we cannot
generate or otherwise access sufficient funds, we may be required to delay or
abandon some of our future expansion plans. This would likely have a negative
impact on our growth and our ability to compete in the communications industry.
OUR SUCCESS DEPENDS ON THE EFFECTIVENESS OF OUR MANAGEMENT AND WE ARE SEEKING TO
MAKE CHANGES TO OUR MANAGEMENT TEAM
Our business is managed by a small number of key management personnel, the
loss of some of whom could have a material adverse effect on our business. We
believe our future success will depend in large part on our ability to attract
and retain highly skilled and qualified personnel. None of our key executives is
a party to a long-term employment agreement and we do not maintain key man
insurance on our officers.
We are in the process of seeking a new chief executive officer and/or chief
operating officer. We cannot assure you that the new senior officer will be
effective in managing our company or will successfully work with our existing
management team, nor can we assure you that we will be successful in hiring a
senior officer upon terms acceptable to us. We expect our current chief
executive officer to continue to serve in a senior executive position after the
employment of the new executive, but we cannot assure you that he will do so or
effect an orderly transition to the new executive. Our failure to retain the
services of our current chief executive officer after the new executive is
employed could have a material adverse effect on our business. See
"Management -- Executive Officers and Directors."
OUR SUBSTANTIAL DEBT CREATES FINANCIAL AND OPERATING RISK
As of March 31, 1999, we had approximately $157.3 million total outstanding
debt. Our level of debt could have important consequences to you, including the
following:
- a substantial portion of our cash flow from operations will be dedicated
to paying principal and interest on our debt, thereby reducing funds
available for other purposes;
- our significant amount of debt could make us more vulnerable to changes
in general economic conditions or increases in prevailing interest rates;
- our ability to obtain additional financing for working capital, capital
expenditures, acquisitions, general corporate purposes or other purposes
could be impaired; and
- we may be more leveraged than some of our competitors, which may result
in a competitive disadvantage.
OUR DEBT COVENANTS AND PREFERRED STOCK TERMS COULD LIMIT HOW WE CONDUCT OUR
BUSINESS
Our debt indenture contains covenants that restrict our ability to:
- incur additional debt;
- pay dividends and make other distributions;
- prepay subordinated debt;
- make investments and other restricted payments;
- create liens;
- sell assets; and
- engage in transactions with affiliates.
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The terms of our Series B Convertible Preferred Stock require us to obtain
the approval of the holders of a majority of the Series B Convertible Preferred
Stock if we take specified actions. Please see "Description of
Securities -- Series B Convertible Preferred Stock."
Our future financing arrangements will likely contain similar or more
restrictive covenants. As a result of these restrictions, we may be:
- limited in how we conduct our business;
- unable to raise additional debt or equity financing to operate during
general economic or business downturns; and
- unable to compete effectively or to take advantage of new business
opportunities.
This may affect our ability to generate revenues and make profits.
Our failure to comply with the covenants and restrictions contained in our
indentures and other financing agreements could lead to a default under the
terms of these agreements. If a default occurs, the other parties to these
agreements could declare all amounts borrowed and all amounts due under these
agreements and under other instruments that contain provisions for
cross-acceleration or cross-default due and payable. If that occurs, we cannot
assure you we would be able to make payments on our debt, meet our working
capital and capital expenditure requirements, or find additional alternative
financing. Even if we could obtain additional alternative financing, we cannot
assure you it would be on favorable or acceptable terms.
OUR EQUIPMENT AND OPERATING SYSTEM, INCLUDING THE EQUIPMENT WE PLAN TO USE TO
PROVIDE DSL SERVICES, MAY NOT PERFORM AS WE EXPECT
We may never be able to deploy our DSL services as planned. An essential
element of our current strategy is provisioning switched local telephone service
and implementing DSL technology. In implementing our strategy, we may use new or
existing technologies in new applications. In addition, the DSL equipment we
plan to use has not previously been used to deliver retail services. We cannot
assure you we will be able to successfully deliver DSL services.
We employ a proprietary operations support system which is expected to be
an important factor in our success. If the operations support system fails or is
unable to perform as expected, it would have a substantial adverse effect on us.
Furthermore, problems may arise with higher processing volumes or with
additional automation features, which could potentially result in system
breakdowns and delays and additional, unanticipated expense to remedy the defect
or to replace the defective system with an alternative system.
OUR FAILURE TO MANAGE GROWTH COULD ADVERSELY AFFECT US
We may be unable to manage our growth effectively. This could have a
negative effect on our financial condition and our ability to fully implement
our expansion plans. The development and expansion of our business and our entry
into new markets will depend on, among other things, our ability to achieve the
following goals in a timely manner, at reasonable costs and on satisfactory
terms and conditions:
- purchase, install and operate switches and other equipment, including DSL
equipment;
- accurately assess potential new markets;
- negotiate suitable interconnection and collocation arrangements with
incumbent local exchange carriers ("ILECs") on satisfactory terms and
conditions;
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- hire and retain qualified personnel;
- lease suitable access to transport networks;
- lease or purchase suitable sites; and
- obtain required government authorizations.
We have experienced rapid growth since our inception, and we believe
sustained growth will place a strain on our operational, human and financial
resources. Our growth will also increase our operating complexity as well as the
level of responsibility for both existing and new management personnel. Our
ability to manage our expansion effectively will depend on the continued
development of plans, systems and controls for our operational, financial and
management needs and on our ability to expand, train and manage our employee
base.
OUR SERVICES MAY NOT ACHIEVE SUFFICIENT MARKET ACCEPTANCE TO BECOME PROFITABLE
Our success will depend upon the willingness of our target customers to
accept us as an alternative provider of local, long distance, high-speed data
and Internet services. The lack of acceptance by these customers would have a
negative impact on our business.
To date, we have offered only local and long distance communications
services. To address the needs of our target business customers, we are in the
process of developing additional products and services, such as high-speed data
and Internet services. However, we might not be able to provide the range of
communication services our target business customers need or desire.
The market for our proposed services has only recently begun to develop and
is highly competitive and evolving rapidly. We cannot assure you the market for
these services will develop or businesses will use high-speed data or
Internet-based services to the degree or in the manner we currently anticipate.
As a result, it is difficult for us to predict the extent to which our
high-speed data and Internet services will achieve market acceptance. To be
successful, we must develop and market services that are widely accepted by
businesses at profitable prices. If we are unable to react quickly to changes in
market conditions, if the market fails to develop or develops more slowly than
expected, or if our services do not achieve market acceptance, then our future
prospects will be reduced.
OUR FAILURE TO ACHIEVE OR SUSTAIN MARKET ACCEPTANCE AT DESIRED PRICING LEVELS
COULD IMPAIR OUR ABILITY TO ACHIEVE PROFITABILITY OR POSITIVE CASH FLOW
Prices for data communication services have fallen historically, a trend we
expect will continue. Accordingly, we cannot predict to what extent we may need
to reduce our prices to remain competitive or whether we will be able to sustain
future pricing levels as our competitors introduce competing services or similar
services at lower prices. Our ability to meet price competition may depend on
our ability to operate at costs equal to or lower than our competitors or
potential competitors. There is a risk competitors, perceiving us to lack
capital resources, may undercut our rates or increase their services in an
effort to force us out of business. Our failure to achieve or sustain market
acceptance at desired pricing levels could impair our ability to achieve
profitability or positive cash flow, which would have a material adverse effect
on our business, prospects, financial condition and operating results.
WE DEPEND ON INCUMBENT CARRIERS FOR COLLOCATION AND TRANSMISSION FACILITIES
We lease transport capacity from and rely upon our competitors. Because a
key element of our business and growth strategy is leasing transport capacity,
we are dependent upon the cooperation of
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ILECs and competitive local exchange carriers ("CLECs") whose fiber optic
networks and unbundled loops we lease. This carries considerable risks,
including the following:
- We must negotiate and renew favorable interconnection and collocation
agreements with other companies. The rates charged to us under the
interconnection agreements might not continue to be low enough for us to
attract a sufficient number of customers and to operate the business on a
profitable basis. In some cases, the rates that have been or will be
charged to us may be modified by regulatory proceedings, the result of
which we are unable to accurately predict.
- We rely on the timeliness of ILECs and CLECs which process our orders for
customers switching to our service and for the maintenance of unbundled
network elements to assure uninterrupted service. The ILECs have had
little experience in providing unbundled network elements to other
companies. Therefore, the ILECs might not be able to continue to provide
and maintain the unbundled network elements in a prompt and efficient
manner.
- Our interconnection agreements provide for our connection and maintenance
orders to receive attention on the same basis as the ILEC's or other
CLEC's customers and for the ILEC to provide adequate capacity to keep
blockage within industry standards. However, the ILECs might not continue
to comply with their network provisioning requirements. From time to
time, we have experienced excessive blockage in the delivery of calls
from the ILEC to our switches due to inadequate trunk provisioning by the
ILEC. Blocked calls result in customer dissatisfaction which may result
in the loss of business.
- We may not be able to lease adequate transport capacity in markets we
want to enter or renew our lease arrangements or obtain comparable
arrangements from other carriers in our existing markets. Because we
lease rather than build local transport capacity in each of our markets,
we would be unable to service our customers if we cannot obtain adequate
transport capacity.
WE DEPEND ON THIRD PARTIES FOR EQUIPMENT
We currently plan to purchase all of our equipment from a limited number of
vendors. If our suppliers enter into competition with us, or if our competitors
enter into exclusive or restrictive arrangements with our suppliers, it may
materially and adversely affect the availability and pricing of the equipment we
purchase.
The loss of any of our suppliers could have a material adverse effect on
our business, prospects, operating results and financial condition. We currently
rely and expect to continue to rely on Accelerated Networks, Inc. to manufacture
the equipment we require to implement our DSL technology. As we sign customer
agreements for DSL service, we expect to significantly increase the amount of
equipment we order from Accelerated Networks. We cannot assure you that our
vendors will be able to meet our needs in a satisfactory and timely manner in
the future or that we will be able to obtain alternative vendors when and if
needed. Although we have identified alternative suppliers and we are not
constrained to use Accelerated Networks as our exclusive supplier, it could take
a significant period of time to establish relationships with alternative
suppliers for critical technologies and to introduce substitute technologies
into our network. In addition, if we are required to select an alternative
vendor, we may need to replace all or a portion of the DSL equipment deployed
within our network. Our reliance on third-party vendors involves a number of
additional risks, including the absence of guaranteed capacity and reduced
control over delivery schedules, quality assurance, production yields and costs.
THE MARKET IN WHICH WE OPERATE IS HIGHLY COMPETITIVE AND WE MAY NOT BE ABLE TO
COMPETE EFFECTIVELY, ESPECIALLY AGAINST ESTABLISHED INDUSTRY COMPETITORS WITH
SIGNIFICANTLY GREATER FINANCIAL RESOURCES
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<PAGE> 13
When selling our local dialtone services, we compete with ILECs, which
currently dominate the local communications markets, and others. We also face
competition in most of our markets from one or more integrated communications
providers or CLECs. Through acquisitions, AT&T and MCI WorldCom have entered the
local dialtone market and other long distance carriers have announced their
intent to enter the local dialtone market. A continuing trend toward business
combinations and alliances in the communications industry may create significant
new competitors for us.
When offering long distance services, we compete with AT&T, MCI WorldCom,
Sprint and others. Our high-speed data and Internet services compete with
services offered by ILECs, long distance carriers, Internet service providers
and others. In particular, the market for Internet services is extremely
competitive and there are limited barriers to entry.
Many of these competitors are offering, or may soon offer, technologies and
services that will directly compete with some or all of our service offerings.
The competitive factors in our markets include reliability of service, breadth
of service availability, price performance, network security, transmission
speed, ease of access and use, content bundling, customer support, brand
recognition, operating experience, capital availability and exclusive contracts.
We believe we compare unfavorably with many of our competitors with regard to,
among other things, brand recognition, existing relationships with end users,
capital availability and exclusive contracts. Substantially all of our
competitors and potential competitors have substantially greater resources than
us. We may not be able to compete effectively in our target markets. Our failure
to compete effectively would have a material and adverse effect on our business,
prospects, operating results and financial condition.
For more information regarding the competitive environment in which we
operate, please see "Business -- Competition."
THE COMMUNICATIONS INDUSTRY IS UNDERGOING RAPID TECHNOLOGICAL CHANGE AND WE MAY
NOT BE ABLE TO OBTAIN OR IMPLEMENT NEW TECHNOLOGIES WHICH MAY BE NECESSARY TO
REMAIN COMPETITIVE
Rapid and significant changes in technology are expected in the
communications industry. While we believe for the foreseeable future these
changes will not materially affect or hinder our ability to acquire necessary
technologies, we cannot predict the effect of technological changes on our
business. Our future success will depend, in part, on our ability to anticipate
and adapt to technological changes, evolving industry standards and changing
needs of our current and prospective customers. We may be unable to obtain
access to new technology on acceptable terms or at all, and we may be unable to
adapt to new technologies and offer services in a competitive manner. Thus,
technological developments could negatively affect us.
A SYSTEM FAILURE OR BREACH OF NETWORK SECURITY COULD CAUSE DELAYS OR
INTERRUPTIONS OF SERVICE TO OUR CUSTOMERS
Our success in marketing our services to business and residential users
requires us to provide reliable service. Our networks may be affected by
physical damage, power loss, capacity limitations, software defects, breaches of
security (by computer virus, break-ins or otherwise) and other factors which may
cause interruptions in service or reduced capacity for our customers.
Interruptions in service, capacity limitations or security breaches could have a
negative effect on customer acceptance and, therefore, on our business,
financial condition and results of operations.
WE MAY BE UNABLE TO EFFECTIVELY DELIVER DSL SERVICES TO A SUBSTANTIAL NUMBER OF
CUSTOMERS
We cannot guarantee our network will be able to connect and manage a
substantial number of customers at high transmission speeds. We may be unable to
scale our network to serve a substantial number of customers while achieving
high performance. Further, our network may be unable to achieve and maintain
competitive digital transmission speeds. While digital transmission speeds of up
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<PAGE> 14
to 1.5 Mbps are possible on portions of our network, that speed may not be
available over a majority of our network. Actual transmission speeds on our
network will depend on a variety of factors many of which are beyond our
control, including the distance an end user is located from a central office,
the quality of the telephone lines, the presence of interfering transmissions on
nearby lines and other factors. As a result, we may not be able to achieve and
maintain digital transmission speeds that are attractive in the market.
OUR SERVICES MAY SUFFER BECAUSE THE TELEPHONE LINES WE REQUIRE MAY BE
UNAVAILABLE OR IN POOR CONDITION
Our ability to provide DSL services to potential customers depends on the
quality, physical condition, availability and maintenance of telephone lines
within the control of the ILECs. We believe the current condition of telephone
lines in many cases will be inadequate to permit us to fully implement our DSL
services. In addition, the ILECs may not maintain the telephone lines in a
condition that will allow us to implement our DSL services effectively. The
telephone lines may not be of sufficient quality or the ILECs may claim they are
not of sufficient quality to allow us to fully implement or operate our DSL
services. Further, some customers use technologies other than copper lines to
provide telephone services, and DSL might not be available to these customers.
INTERFERENCE OR CLAIMS OF INTERFERENCE COULD DELAY OUR ROLLOUT OR HARM OUR
SERVICES
Interference, or claims of interference by the ILECs, if widespread, could
adversely affect our speed of deployment, reputation, brand image, service
quality and customer satisfaction and retention. All transport technologies
deployed on copper telephone lines have the potential to interfere with, or to
be interfered with by, other transport technologies on the copper telephone
lines. We believe our DSL technologies, like other transport technologies, do
not interfere with existing voice services. We believe a workable plan that
takes into account all technologies could be implemented in a scalable way
across all ILECs using existing plant engineering principles. There are several
initiatives underway to establish national standards and principles for the
deployment of DSL technologies. We believe our technologies can be deployed
consistently with these evolving standards. Nevertheless, ILECs may claim the
potential for interference permits them to restrict or delay our deployment of
DSL services. Interference could degrade the performance of our services or make
us unable to provide service on selected lines. The procedures to resolve
interference issues between competitive carriers and ILECs are still being
developed, and these procedures may not be effective. We may be unable to
successfully negotiate interference resolution procedures with ILECs. Moreover,
ILECs may make claims regarding interference or unilaterally take action to
resolve interference issues to the detriment of our services. State or federal
regulators could also institute responsive actions.
OUR FUTURE SUCCESS WILL DEPEND ON GROWTH IN THE DEMAND FOR INTERNET ACCESS AND
HIGH-SPEED DATA SERVICES
If the markets for the services we offer, including Internet access and
high-speed data services, fail to develop, grow more slowly than anticipated or
become saturated with competitors, our business prospects, operating results and
financial condition could be materially adversely affected. The markets for
business Internet and high-speed data services are in the early stages of
development. Demand for Internet services is highly uncertain and depends on a
number of factors, including the growth in consumer and business use of new
interactive technologies, the development of technologies that facilitate
interactive communication between organizations and targeted audiences, security
concerns and increases in data transport capacity.
In addition, the market for high-speed data transmission via DSL technology
is relatively new and evolving. Various providers of high-speed digital services
are testing products from various suppliers for various applications, and no
industry standard has been broadly adopted. Critical issues
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<PAGE> 15
concerning commercial use of DSL for Internet and high-speed data access,
including security, reliability, ease of use and cost and quality of service,
remain unresolved and may impact the growth of these services.
OUR INTERNET SERVICE MAY BE AFFECTED BY OUR ABILITY TO MAINTAIN PEERING
RELATIONSHIPS WITH OTHER INTERNET SERVICE PROVIDERS
The Internet is comprised of many Internet service providers and underlying
transport providers who operate their own networks and interconnect with other
Internet service providers at various points. As we commence the operation of
Internet services, transport will be provided via wholesale carriers. We
anticipate as our volume increases, we will enter into peering agreements for
the exchange of traffic with other Internet service providers.
We cannot assure you other national Internet service providers would
maintain peering relationships with us. Peering relationships with other
Internet service providers will permit us to exchange traffic with other
Internet service providers without incurring settlement charges. In addition,
the requirements associated with maintaining peering relationships with the
major national Internet service providers may change. We cannot assure you we
will be able to expand or adapt our network infrastructure to meet any new
requirements on a timely basis, at a reasonable cost, or at all.
WE MAY INCUR LIABILITIES AS A RESULT OF OUR INTERNET SERVICES
United States law relating to the liability of on-line service providers
and Internet service providers for information carried on, disseminated through,
or hosted on their systems is currently unsettled. If liability is imposed on
Internet service providers, we would likely implement measures to minimize our
liability exposure. These measures could require us to expend substantial
resources or discontinue some of our product or service offerings. In addition,
increased attention to liability issues, as a result of litigation, legislation
or legislative proposals could adversely affect the growth and use of Internet
services.
OUR SERVICES ARE HIGHLY REGULATED AND CHANGES IN CURRENT OR FUTURE LAWS OR
REGULATIONS COULD RESTRICT THE WAY WE OPERATE OUR BUSINESS
A significant number of the services we offer are regulated at the federal,
state and/or local levels. Future federal or state regulations and legislation
may be less favorable to us than current regulation and legislation and
therefore have an adverse impact on our business, prospects, operating results
and financial condition. In addition, we may expend significant financial and
managerial resources to participate in administrative proceedings at either the
federal or state level, without achieving a favorable result. The Federal
Communications Commission (the "FCC") makes rules applicable to interstate
communications, including rules implementing the Telecommunications Act, a
responsibility it shares with the state regulatory commissions. We believe ILECs
and others may work aggressively to modify or restrict the operation of many
provisions of the Telecommunications Act. We expect ILECs and others to continue
to pursue litigation in courts, institute administrative proceedings with the
FCC and other regulatory agencies and lobby the United States Congress, all in
an effort to affect laws and regulations in a manner favorable to them and
against the interest of CLECs such as us. If the ILECs or others succeed in any
of their efforts, if these laws and regulations change or if the administrative
implementation of laws develops in an adverse manner, it could have a material
and adverse effect on our business, prospects and operating results. For more
details about our regulatory situation, please see "Business -- Government
Regulations."
THE PRICES WE CHARGE FOR OUR SERVICES AND PAY FOR THE USE OF SERVICES OF ILECS
AND OTHER CLECS MAY BE CHALLENGED IN REGULATORY PROCEEDINGS
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<PAGE> 16
If we were required to decrease the prices we charge for our services or to
pay higher prices for services we purchase from ILECs and other CLECs, it would
have an adverse effect on our business, prospects and operating results. We must
file tariffs with state and federal regulators which indicate the prices we
charge for our services. In addition, we purchase some tariffed services from
ILECs and/or CLECs. All of these tariffed prices may be challenged in regulatory
proceedings by customers, including ILECs, CLECs and long distance carriers who
purchase these services.
In addition, the rate we pay for other services we purchase from ILECs and
other CLECs are set by negotiations between the parties. These negotiated rates
are also subject to regulatory review. One of our interconnection agreements
requires a retroactive adjustment to the negotiated rate we pay for unbundled
loops when the state regulatory commission makes a final determination of the
appropriate rate. We believe the price we pay currently for unbundled loops
under this agreement will be reduced and therefore we have been recording our
cost for unbundled loops under this agreement based on management's best
estimate of the probable final rate. The difference between this rate and the
rate we currently pay for these services is recorded as an offset to accounts
payable. In May 1999, the state regulatory commission issued an order
establishing a rate for unbundled loops which was greater than the management
estimate used to record our costs. While we have filed a petition with the state
regulatory commission requesting reconsideration of the matter, we will
recognize additional cost for unbundled loops of approximately $0.7 million
during the second quarter of 1999. If the final rate is greater than our revised
estimated rate, we would be required to record further additional costs for
unbundled loops. In addition, if the final rate is greater than the rate we
currently pay for unbundled loops, we will be required to pay the ILEC the
incremental difference for the unbundled loops we have ordered since inception.
If we were required to retroactively increase the amount we have recorded as our
cost for unbundled loops under this interconnection agreement or increase the
additional costs we expect to recognize in the future, it could have a material
adverse effect on our operating results. See Note 12 "Subsequent Events
(Unaudited) -- Public Utilities Commission Order" to our Consolidated Financial
Statements.
THE ACCESS CHARGES WE COLLECT FROM LONG DISTANCE CARRIERS MAY BE REDUCED AS A
RESULT OF REGULATORY CHALLENGES
We may not be able to collect all of the access charges we have billed to
long distance carriers. When our facilities are used to originate a customer's
long distance call and deliver it to the long distance carrier designated by the
customer, or to terminate a long distance call received from a long distance
carrier by delivering it to a telephone number connected to our network, the
long distance carrier is required to pay us for access to our network and the
use of our facilities. These charges are called "access charges." Access charges
represented 41% of our operating revenues in 1998 and 36% of our operating
revenues in first quarter 1999. AT&T, Sprint and MCI WorldCom have recently
refused to pay the full amount of access charges billed to them under our
tariffs. Access charge revenues from AT&T, Sprint and MCI WorldCom represented
81% of our total access charge revenues in 1998 and 72% of our total access
charge revenues in the first quarter 1999. As of March 31, 1999, we reflected
approximately $5.6 million of access charges as accounts receivable, which
amount is reflected net of a discount we established in the event some of these
access charges are not paid by AT&T, Sprint or MCI WorldCom. We cannot assure
you the discount we have established is adequate. We have initiated proceedings
against AT&T at the FCC under an FCC procedure for expedited settlement of
disputes between common carriers. We are currently negotiating with Sprint and
MCI WorldCom and have submitted our dispute with MCI WorldCom to arbitration.
The law applicable to our disputes with AT&T, Sprint and MCI WorldCom is unclear
and we may not be able to collect the full amount of the access charges owed to
us by these long distance carriers. See "Business -- Legal Proceedings."
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<PAGE> 17
We anticipate access charges billed to long distance carriers will continue
to represent a substantial portion of our operating revenues and that the access
charges billed to AT&T, Sprint and MCI WorldCom will continue to represent a
substantial portion of the total amount of access charges we bill to long
distance carriers.
WE WILL FACE ADDITIONAL RISKS IF WE ACQUIRE OTHER BUSINESSES
We may acquire other businesses as a means of expanding into new markets or
developing new services. We are unable to predict whether or when any
prospective acquisitions will occur or the likelihood of any acquisition being
completed on favorable terms and conditions. Acquisitions of other businesses
involve risks including:
- difficulties assimilating acquired operations and personnel;
- potential disruptions of our ongoing business;
- the diversion of resources and management time;
- the possibility uniform standards, controls, procedures and policies may
not be maintained;
- risks associated with entering new markets in which we have little or no
experience; and
- the potential impairment of relationships with employees or customers as
a result of changes in management.
Any business we might acquire might not perform as expected.
FUTURE SALES OF OUR STOCK BY EXISTING STOCKHOLDERS MAY ADVERSELY AFFECT OUR
STOCK PRICE
Substantially all of our common stock is currently eligible for sale in the
open market. In addition, shares of our common stock issued upon exercise of
stock options are freely tradeable under a currently effective registration
statement. Sales and potential sales of substantial amounts of our common stock
in the open market could cause the market price for our common stock to fall.
See "Description of Securities -- Shares Eligible for Future Sale."
The holders of some of our outstanding shares of common stock and
convertible securities have demand registration rights which if exercised could
result in a registration statement covering shares of common stock being filed
by us. These holders also have the right to have shares of common stock included
in any registration statement filed by us in the future. See "Description of
Securities -- Registration Rights of Security Holders."
OUR STOCK PRICE HAS BEEN AND MAY CONTINUE TO BE VOLATILE
The trading price of our common stock has been and is likely to be highly
volatile. Our stock price could fluctuate widely in response to a variety of
factors, including:
- actual or anticipated variations in quarterly operating results;
- announcements of technological innovations;
- new products or services offered by us or our competitors;
- changes in financial estimates by securities analysts;
- significant acquisitions, strategic partnerships, joint ventures or
capital commitments;
- additions or departures of key personnel;
- sales of common stock; and
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<PAGE> 18
- other events or factors that may be beyond our control.
In addition, the Nasdaq National Market, where many publicly held
communications companies like us are traded, has recently experienced extreme
price and volume fluctuations. These fluctuations often have been unrelated or
disproportionate to the operating performance of these companies. Broad market
and industry factors may materially adversely affect the market price of our
common stock, regardless of our actual operating performance.
WE DO NOT INTEND TO PAY CASH DIVIDENDS
We have never declared or paid any cash dividends on our common stock and
do not expect to declare any dividends in the foreseeable future. Payment of any
future dividends will depend upon our earnings and capital requirements, our
debt facilities and other factors our Board of Directors considers appropriate.
We intend to retain our earnings, if any, to finance the development and
expansion of our business, and therefore we do not anticipate paying any cash
dividends in the foreseeable future. Our ability to declare and pay cash
dividends on our common stock is restricted by covenants in our debt indenture
and the terms of our outstanding preferred stock.
INVESTORS IN THIS OFFERING WILL PAY MORE PER SHARE THAN THE BOOK VALUE
There will be an immediate and substantial dilution of your investment in
our common stock, in that the net tangible book value per share of stock after
this offering will be substantially less than the per share offering price of
the common stock. See "Dilution."
OUR FAILURE AND THE FAILURE OF THIRD PARTIES TO BE YEAR 2000 COMPLIANT COULD
NEGATIVELY IMPACT OUR BUSINESS
For a discussion of risks presented by our ability and the ability of
others on whom we rely to successfully make computer systems and other
technology Year 2000 compliant, see "Management's Discussion and Analysis of
Financial Condition and Results of Operations -- Impact of Year 2000" in this
prospectus.
MANAGEMENT OWNS A SIGNIFICANT PERCENTAGE OF OUR COMPANY AND WILL BE ABLE TO
EXERCISE SIGNIFICANT INFLUENCE OVER OUR ACTIONS
We are controlled by our officers and directors, who in the aggregate own
43.8% of our outstanding common stock and voting power. Accordingly, these
stockholders collectively will likely be able to continue to control our
management policy, decide all fundamental corporate actions, including mergers,
substantial acquisitions and dispositions and elect our Board of Directors.
MANAGEMENT HAS BROAD DISCRETION TO USE THE PROCEEDS FROM THIS OFFERING
Our management will have broad discretion over the use of the proceeds
raised in this offering, and you must rely on the judgment of management in the
application of the proceeds. Please see "How We Intend to Use the Proceeds of
this Offering" for more information related to our financing plan.
WE MUST OBTAIN REGULATORY APPROVAL BEFORE THIS OFFERING MAY BE COMPLETED
Prior to issuing any equity, we must obtain the approval of the State of
Georgia. Because of time constraints, we will not have obtained approval from
the State of Georgia before closing this offering. After consultation with
counsel, we believe the approval will be granted and that seeking approval after
this offering should not result in any material adverse consequences to us,
although we cannot assure you of a favorable result.
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<PAGE> 19
OUR FORWARD-LOOKING STATEMENTS MAY MATERIALLY DIFFER FROM ACTUAL EVENTS OR
RESULTS
This prospectus contains "forward-looking statements," which you can
generally identify by our use of forward-looking words such as "believe,"
"expect," "intend," "may," "will," "should," "could," "anticipate" or "plan" or
the negative or other variations of these terms or comparable terminology, or by
discussion of strategies that involve risks and uncertainties. We often use
these types of statements when discussing our plans and strategies, our
anticipation of profitability or cash flow from operations, and statements
regarding the development of our business, the market for our services and
products, our anticipated capital expenditures, operations support systems,
changes in regulatory requirements and other statements contained in this
prospectus regarding matters that are not historical facts.
We caution you these forward-looking statements are only predictions and
estimates regarding future events and circumstances. We cannot assure you we
will achieve the future results reflected in these statements. The risks we face
that could cause us not to achieve these results include, but are not limited to
those described above.
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<PAGE> 20
HOW WE INTEND TO USE THE PROCEEDS OF THIS OFFERING
The net proceeds we receive from the sale of the shares of
common stock we are offering are estimated to be approximately $
million after deducting estimated underwriting discounts and other offering
expenses payable by us. We will receive approximately $ million if the
over-allotment option granted to the underwriters is exercised in full. We will
not receive any proceeds from the sale of any shares sold by the selling
stockholders. We intend to use the net proceeds for capital expenditures related
to the purchase and installation of DSL and other communications equipment and
for general corporate purposes, including working capital to fund our expanded
sales and marketing efforts. In addition, we may use a portion of the net
proceeds for acquisitions, although we are not involved in any acquisition
negotiations at this time. See "Risk Factors -- We will face additional risks if
we acquire other businesses" and " -- Management has broad discretion to use the
proceeds from this offering."
Pending use of the net proceeds as described above, we intend to invest
them in short-term, investment grade securities.
DIVIDEND POLICY
We have never paid cash dividends on our capital stock and we do not
anticipate paying cash dividends in the foreseeable future. Any future
determination to pay cash dividends will be at the discretion of our Board of
Directors and will be dependent upon our financial condition, results of
operations, capital requirements and other factors our Board of Directors
considers relevant. In addition, the terms of our outstanding indebtedness and
preferred stock restrict our ability to pay cash dividends on our common stock.
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<PAGE> 21
CAPITALIZATION
The following table shows our capitalization as of March 31, 1999, on (A)
an actual basis, (B) on an adjusted basis to reflect the sale of 5,277,779
shares of Series B Convertible Preferred Stock, and (C) on an adjusted basis to
reflect the sale of 5,277,779 shares of Series B Convertible Preferred Stock and
the shares of common stock we are offering at a public offering
price of $ per share, after deducting the underwriting discounts and
estimated offering expenses.
You should read this table with our financial statements and the related
notes appearing elsewhere in this prospectus.
<TABLE>
<CAPTION>
MARCH 31, 1999
--------------------------------------------
ACTUAL AS ADJUSTED(1) AS ADJUSTED(2)
-------- -------------- --------------
(DOLLARS IN THOUSANDS)
(UNAUDITED)
<S> <C> <C> <C>
Cash and cash equivalents and investments
available-for-sale (excluding restricted
investments)................................. $ 55,307 $101,807 $
Restricted investments......................... 39,929 39,929 39,929
-------- -------- --------
Total cash and cash equivalents, investments
available-for-sale and restricted
investments............................... $ 95,236 $141,736 $
13% Senior Secured Notes due 2004.............. $156,837 $156,837 $156,837
Other long-term debt........................... 449 449 449
Series B Convertible Preferred Stock -- par
value........................................ $ -- $ 5 5
Series B Convertible Preferred Stock -- paid in
capital in excess of par value............... -- 46,495 46,495
Stockholders' equity
Common stock -- par value.................... $ 17 $ 17 $
Common stock -- paid in capital in excess of
par value................................. 109,231 109,231
Accumulated deficit.......................... (58,604) (58,604) (58,604)
Accumulated other comprehensive income....... 178 178 178
Notes receivable from stockholders for
issuance of common stock.................. (2,173) (2,173) (2,173)
-------- -------- --------
Total stockholders' equity................... 48,649 48,649
-------- -------- --------
Total capitalization........................... $205,935 $252,435 $
======== ======== ========
</TABLE>
- -------------------------
(1) Gives effect to the issuance of 5,277,779 shares of Series B Convertible
Preferred Stock.
(2) Gives effect to the issuance of 5,277,779 shares of Series B Convertible
Preferred Stock and this offering.
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DILUTION
The net tangible book value of a share of our common stock is the
difference between our tangible assets and our liabilities, divided by the
number of shares of common stock outstanding. For investors in the common stock,
dilution is the difference between the $ per share offering price
of the common stock and the net tangible book value per share of common stock
immediately after completing this offering. Dilution in this case results from
the fact that the per share offering price of the common stock is substantially
higher than the per share price paid by our existing stockholders for our
presently outstanding stock.
On March 31, 1999, our net tangible book value was approximately $90.4
million after giving effect to the sale of 5,277,779 shares of Series B
Convertible Preferred Stock in May 1999, and the per share net tangible book
value of each of the assumed outstanding shares of common stock (assuming the
Series B Convertible Preferred Stock had been converted into 5,277,779 shares of
common stock) was approximately $4.01 per share.
As of March 31, 1999, without taking into account any changes in our net
tangible book value after that date other than to give effect to the sale of the
Series B Convertible Preferred Stock and the sale of the common stock offered in
this offering based on an assumed offering price of $ per share (after
deducting the estimated offering expenses, including the underwriting discount),
the net tangible book value of each of the assumed outstanding shares of common
stock would have been $ per share. Therefore, you would have paid
$ for a share of common stock having a net tangible book value of
approximately $ per share; that is, your investment would have been diluted
by approximately $ per share. At the same time, existing stockholders would
have realized an increase in net tangible book value of $ per share without
further cost or risk to themselves. The following table illustrates this per
share dilution:
<TABLE>
<S> <C> <C>
Price per share of common stock in this
offering...................................... $
Net tangible book value per share of common
stock before this offering(1).............. $ 4.01
Increase in net tangible book value per share
of common stock attributable to investors
in this offering(2)(3)..................... $
Net tangible book value per share of common
stock after this offering(2)(3)............ $
Dilution to new investors(3).................... $
</TABLE>
- -------------------------
(1) After giving effect to the sale of 5,277,779 shares of Series B Convertible
Preferred Stock in May 1999.
(2) After deducting the estimated offering expenses payable by us, including the
underwriting discount.
(3) Assumes that none of our outstanding options or warrants are exercised and
assumes the conversion of 5,277,779 shares of Series B Convertible Preferred
Stock which are convertible into shares of common stock on a one-for-one
basis.
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<PAGE> 23
SELECTED CONSOLIDATED FINANCIAL AND OPERATING DATA
You should read the following selected consolidated financial and operating
data with our consolidated financial statements and the related notes and with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations," each of which can be found elsewhere in this prospectus. The
selected consolidated statements of operations data presented below for the
years ended December 31, 1996, 1997 and 1998 are derived from our consolidated
financial statements, which have been audited by KPMG LLP (1996) and Arthur
Andersen LLP (1997 and 1998), independent auditors.
<TABLE>
<CAPTION>
QUARTER ENDED
YEAR ENDED DECEMBER 31, MARCH 31,
------------------------------ -------------------
1996 1997 1998 1998 1999
------- ------- -------- ------- --------
(AUDITED) (UNAUDITED)
(DOLLARS IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Operating revenues..................... $ 1 $ 3,791 $ 18,249 $ 2,846 $ 8,401
Cost of operating revenues............. 305 3,928 17,129 2,371 8,483
Selling, general and administrative
expenses............................. 841 6,440 17,877 2,562 7,727
------- ------- -------- ------- --------
Loss from operations................... (1,554) (7,851) (21,995) (2,954) (11,293)
OTHER FINANCIAL DATA:
EBITDA(1).............................. $(1,145) $(6,577) $(16,757) $(2,087) $ (7,809)
Capital expenditures................... 3,659 22,641 97,101 10,671 15,240
OPERATING DATA (END OF PERIOD):
Total access lines in service.......... 50 15,590 47,744 20,924 65,147
Central office collocation sites....... 9 25 207 29 233
Switches in service.................... 1 3 7 3 7
</TABLE>
<TABLE>
<CAPTION>
AS OF MARCH 31, 1999
-------------------------
ACTUAL AS ADJUSTED(2)
-------- --------------
(DOLLARS IN THOUSANDS)
(UNAUDITED)
<S> <C> <C>
BALANCE SHEET DATA:
Cash and cash equivalents and investments available-for-sale
(excluding restricted investments)........................ $ 55,307 $
Restricted investments...................................... 39,929 39,929
Property and equipment, net................................. 128,136 128,136
Total assets................................................ 237,553
Long-term debt.............................................. 157,286 157,286
Series B Convertible Preferred Stock........................ -- 46,500
Stockholders' equity........................................ 48,649
</TABLE>
- -------------------------
(1) EBITDA consists of earnings before interest, income taxes, depreciation and
amortization. For the year ended December 31, 1996, EBITDA excludes a charge
of $355,000 related to the one-time write-off of purchased software. EBITDA
does not represent funds available for management's discretionary use and is
not intended to represent cash flow from operations. EBITDA should not be
considered as an alternative to loss from operations as an indicator of our
operating performance or to cash flows as a measure of liquidity. In
addition, EBITDA is not a term defined by generally accepted accounting
principles and, as a result, the measure of EBITDA may not be comparable to
similarly titled measures used by other companies. We believe that EBITDA is
often reported and widely used by analysts, investors and other interested
parties in the communications industry. Accordingly, we are including this
information to permit a more complete comparison of our operating
performance relative to other companies in the industry.
(2) Gives effect to the issuance of 5,277,779 shares of Series B Convertible
Preferred Stock in May 1999 and to this offering.
23
<PAGE> 24
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
You should read the following discussion together with our financial
statements and the notes related to our financial statements, each of which can
be found elsewhere in this prospectus. The results shown in this prospectus do
not necessarily indicate the results to be expected in any future periods. This
discussion contains forward-looking statements. We caution you these
forward-looking statements are only predictions and estimates regarding future
events and circumstances. We cannot assure you we will achieve the future
results reflected in these statements. Our actual results may differ from those
anticipated due to a number of factors, including those described in the section
entitled "Risk Factors" and elsewhere in this prospectus.
OVERVIEW
We began providing competitive local dialtone services to small business
and residential customers in December 1996 and began offering long distance
services by February 1998. Currently, we have switches fully operational in Las
Vegas, Atlanta, Chicago, southern Florida, and in selected areas of southern
California, including Los Angeles and San Diego.
Our 1997 revenues were generated from sales of communications services
consisting primarily of local phone service, switched access billings and
non-recurring charges, principally installation charges. In 1998 and first
quarter 1999, long distance services also contributed to our revenue base.
Our principal operating expenses consist of cost of operating revenues,
selling, general and administrative costs and depreciation and amortization
expense. Cost of operating revenues consists primarily of access charges, line
installation expenses, transport expenses, compensation expenses of technical
personnel, long distance expenses and collocation lease expenses. Selling,
general and administrative expenses consist primarily of compensation expenses,
advertising, provision for bad debts, professional fees and office rentals.
Depreciation and amortization expense includes depreciation of switching and
collocation equipment as well as general property and equipment.
During 1998, we expanded significantly with the installation of four
additional switches and the build-out of 182 additional collocation sites. As
expected, both cost of operating revenues and selling, general and
administrative costs increased as many of the fixed costs of providing service
in new markets are incurred before significant revenue can be generated from
those markets. In addition, we incurred significant marketing costs to build our
initial base of customers in our new markets.
Building and expanding our business has required and will continue to
require us to incur significant capital expenditures primarily consisting of the
costs of purchasing switches, associated equipment and land for switching sites
and constructing buildings or improving leased buildings to house our switching
and collocation facilities. As part of our "smart build" network strategy, we
purchased and installed host switches in each of our markets while leasing the
means of transporting voice and data traffic from these switches to our
customers' telephones or other equipment. We believe this facilities-based
strategy, while initially increasing our level of capital expenditures and
operating losses, will enhance our long-term financial performance in comparison
to a resale strategy.
We have experienced operating losses and generated negative cash flow from
operations since inception and expect to continue to generate negative cash flow
from operations for the foreseeable future while we continue to expand our
network and develop our product offerings and customer base. There can be no
assurance our revenue or customer base will grow or that we will be able to
achieve or sustain positive cash flow from operations. See "Risk Factors -- We
expect our losses to continue."
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<PAGE> 25
RESULTS OF OPERATIONS
QUARTER ENDED MARCH 31, 1999 VS. 1998
Total operating revenues increased to $8.4 million for the quarter ended
March 31, 1999 as compared to $2.8 million for the quarter ended March 31, 1998.
The 195% increase is a result of the increase in the number of lines in service
and increased long distance service revenue. We had 65,147 lines in service at
the end of the first quarter 1999 as compared to 20,924 lines in service at
March 31, 1998, a 211% increase.
Cost of operating revenues for the quarter ended March 31, 1999 was $8.5
million as compared to $2.4 million for the quarter ended March 31, 1998. The
258% increase is due to the increased number of lines in service and
installation and operational expenses associated with the expansion of our
network.
For the quarter ended March 31, 1999, selling, general and administration
expenses totaled $7.7 million, a 202% increase over the $2.6 million for the
quarter ended March 31, 1998. The increase is a result of increased costs
attributable to marketing and delivering our service and supporting our
continued network expansion.
For the quarter ended March 31, 1999, depreciation and amortization was
$3.5 million as compared to $0.9 million for the quarter ended March 31, 1998.
This increase is a result of placing additional assets in service to support the
planned build-out of our network.
Gross interest expense for each of the quarters ended March 31, 1999 and
March 31, 1998 totaled $5.6 million. Interest capitalized for the quarter ended
March 31, 1999 increased to $1.0 million as compared to $0.1 million for the
quarter ended March 31, 1998. This increase is due to the increase in switching
equipment under construction. Gross interest expense is primarily attributable
to the 13% Senior Secured Notes due 2004 (the "Senior Secured Notes") we issued
in September 1997.
Interest income was $1.5 million during the quarter ended March 31, 1999
compared to $2.2 million for the quarter ended March 31, 1998. The 31% decrease
is a result of the decrease in cash and investments since March 31, 1998. Cash
and investments have been used to purchase switching equipment, pay interest on
our Senior Secured Notes and fund operating losses.
We incurred net losses of $14.2 million during the first quarter 1999 and
$6.3 million during the first quarter 1998.
YEAR ENDED DECEMBER 31, 1998 VS. 1997
Total operating revenues for the year ended December 31, 1998 were $18.2
million as compared to $3.8 million for the year ended December 31, 1997. The
381% increase is a result of the installation of four additional switches, an
increase in the number of lines in service and the introduction of long distance
service in early 1998. We provided communications services in only Las Vegas
until December, 1997 when we initiated service in Atlanta and southern
California. As a result of our network expansion, during 1998 we began to offer
service in Chicago and additional areas of southern California, including Los
Angeles and San Diego. We had 47,744 lines in service as of December 31, 1998 as
compared to 15,590 lines in service as of December 31, 1997, a 206% increase.
Cost of operating revenues for the year ended December 31, 1998 was $17.1
million as compared to $3.9 million for the year ended December 31, 1997. The
336% increase is due to the increased number of lines in service during 1998,
network expenses associated with long distance service, and installation and
operational expenses associated with the significant expansion of our network.
For the year ended December 31, 1998, selling, general and administrative
expenses totaled $17.9 million, a 178% increase over the $6.4 million for the
year ended December 31, 1997. The
25
<PAGE> 26
increase in expenses resulted from increased costs attributable to marketing of
services, delivering our service and supporting our continued network expansion.
For the year ended December 31, 1998, depreciation and amortization was
$5.2 million as compared to $1.3 million for the year ended December 31, 1997.
This increase is a result of placing additional assets in service during the
period to support our planned build-out of our network. As of December 31, 1998
we had seven operational switches and 207 collocation sites built out as
compared to three switches and 25 collocations sites as of December 31, 1997.
Interest expense for fiscal 1998 totaled $19.1 million as compared to $5.5
million for fiscal 1997. The increase is primarily attributable to a full year
of interest incurred on the Senior Secured Notes we issued in September 1997.
Interest income was $8.8 million for the year ended December 31, 1998
compared to $2.5 million for the year ended December 31, 1997. The income is
attributable to earnings on investments made with the proceeds from the issuance
of the Senior Secured Notes and with the proceeds from the sale of our common
and preferred stock.
We incurred net losses of $32.1 million during 1998 and $10.8 million
during 1997.
YEAR ENDED DECEMBER 31, 1996
Our operations before December 1996 were limited to start-up activities
and, as a result, our revenues and expenditures for the period were not
indicative of anticipated revenues which may be attained or expenditures which
may be incurred by us in future periods. We did not begin revenue-generating
operations until December 1996. As a result, any comparison of the year ended
December 31, 1997 with the year ended December 31, 1996 would not be meaningful.
During the year ended December 31, 1996, we generated $1,000 in operating
revenues as a result of commencing service during the month of December. We had
cost of operating revenues of $0.3 million which represents primarily fixed
costs. In addition, we incurred other operating expenses, including depreciation
and amortization, of $1.3 million in connection with the commencement of
operations and the build-out of our network. These expenses consisted primarily
of payroll expenses, professional fees, expenses related to the introduction of
initial service and a one-time write-off of purchased software.
We earned interest income in the period of $0.1 million.
As a result, we incurred a net loss in the period of $1.5 million. This
loss is primarily attributable to the expenses incurred in connection with the
initial development of our business.
LIQUIDITY AND CAPITAL RESOURCES
Our operations require substantial capital investment for the purchase of
communications equipment and the development and installation of our network.
Capital expenditures were $15.2 million for the quarter ended March 31, 1999,
$97.1 million for the year ended December 31, 1998 and $22.6 million for the
year ended December 31, 1997. We expect we will continue to require substantial
amounts of capital to fund the purchase of the equipment necessary to continue
expanding our network footprint in our existing markets and to develop new
products and services. In addition, we expect to enter new markets during 2000.
We expect capital expenditures of approximately $400 million over the next five
years which will be funded from cash on hand and public or private debt or
equity financing. In addition, we are currently evaluating financing proposals
from vendor and equipment lease financing companies. We cannot assure you that
we will be successful in raising sufficient debt or equity capital on acceptable
terms.
From our inception through September 1997, we raised approximately $17.8
million from private sales of common stock.
26
<PAGE> 27
In September 1997, we completed a $160.0 million offering of Senior Secured
Notes and warrants to purchase 862,923 shares of common stock (after giving
effect to anti-dilution adjustments). At the closing of the sale of the Senior
Secured Notes, we used approximately $56.8 million of the net proceeds from the
sale of the Senior Secured Notes to purchase a portfolio of securities that has
been pledged as security to cover the first six interest payments on the Senior
Secured Notes. In addition, we have granted the holders of the Senior Secured
Notes a security interest in a substantial portion of our communications
equipment.
In November 1997 and January 1998, we issued an aggregate of 6,571,427
shares of Series A Convertible Preferred Stock at $3.50 per share for net
proceeds of $21.6 million.
We completed our initial public offering of common stock on May 15, 1998.
We sold a total of 4,025,000 shares of our common stock to the public and
received net proceeds of $63.0 million. In connection with the initial public
offering of our common stock, we reduced the number of authorized and
outstanding shares of our common stock by 40%. Our outstanding shares of
preferred stock were converted into 3,942,856 shares of common stock upon our
initial public offering.
In May 1999, we issued 5,277,779 shares of Series B Convertible Preferred
Stock at $9.00 per share for net proceeds of approximately $46.5 million.
The substantial capital investment required to initiate services and fund
our initial operations has exceeded our operating cash flow. This negative cash
flow from operations results from the need to establish our network in
anticipation of connecting revenue-generating customers. We expect to continue
recording negative cash flow from operations for a period of time because we are
continuing network expansion activities. We cannot assure you we will attain
break-even cash flow from operations in subsequent periods. Until sufficient
cash flow from operations is generated, we will need to use our current and
future capital resources to meet our cash flow requirements and may be required
to issue additional debt and/or equity securities. We expect our available cash
and the proceeds of this offering should be adequate to fund our operations and
planned capital expenditures through the end of the third quarter 2000. The
indenture governing the Senior Secured Notes and the terms of our Series B
Convertible Preferred Stock impose restrictions upon our ability to incur
additional debt or issue preferred stock.
IMPACT OF YEAR 2000
The year 2000 issue, commonly referred to as Y2K, is a result of the way
some computer systems store dates. In many cases, when a date is stored by a
computer, a two digit field has been used to store the year (i.e., 01/01/98 =
January 1, 1998). The system assumes that the first two digits in the year field
are "19." With the end of the century approaching, those same systems should
reflect 01/01/00 as being "January 1, 2000." However, a non-compliant system
will read 01/01/00 as January 1, 1900.
We have been focused on year 2000 issues since our inception in 1996. In
recognition of the priority associated with the year 2000 issue, we have
established a Year 2000 Project Team at the corporate level to lead the year
2000 effort. Since we are young, much of the hardware and software currently in
place was purchased with Y2K readiness in mind. However, in most cases, we have
relied on representations of our vendors as to the Y2K compliance of the
hardware and software we have purchased. We cannot assure you the vendor
representations we relied upon are accurate or complete or that we will have
recourse against any vendors whose representations prove misleading.
Our Y2K plans include a number of phases designed to evaluate the Y2K
readiness of our network and computer systems and prepare for readiness by June
1999. We have completed the inventory and assessment of all network and
information systems and have begun the renovation and testing phases. Mission
critical components of our network and operations support system are targeted
for Year 2000 compliance by June 1999. We will continue integration testing
throughout the
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<PAGE> 28
remainder of 1999. Subject to additional compliance testing, we believe our
essential processes, systems and business functions will be ready for the 1999
to 2000 transition.
Our significant vendors, including our major communications equipment
suppliers, have assured us their applications are year 2000 compliant. Our
business also relies on other third parties. The ability of third parties upon
whom we rely to adequately address their year 2000 issues is outside our
control. However, we are coordinating efforts with these parties to minimize the
extent to which our business will be vulnerable to their failure to remediate
their own year 2000 issues. We cannot assure you the systems of the third
parties will be modified on a timely basis. Our business, financial condition
and results of operations could be materially adversely affected by the failure
of the systems and applications of third parties to properly operate after 1999.
We are in the process of developing contingency plans should mission
critical systems fail as a result of Y2K issues.
In a recent SEC release regarding year 2000 disclosure, the SEC stated that
public companies must disclose the most reasonably likely worst case year 2000
scenario. Although it is not possible to assess the likelihood of any of the
following events, each must be included in a consideration of worst case
scenarios: widespread failure of electrical, gas and similar suppliers serving
us; widespread disruption of the services provided by common carriers; similar
disruption to the means and modes of transportation for our employees,
contractors, suppliers and customers; significant disruption to our ability to
gain access to, and remain working in, office buildings and other facilities;
the failure of substantial numbers of our critical computer hardware and
software systems, including both internal business systems and systems
controlling operational facilities such as electrical generation, transmission
and distribution systems; and the failure of outside entities' systems,
including systems related to banking and finance.
If we cannot operate effectively after December 31, 1999, we could, among
other things, face substantial claims by customers or loss of revenue due to
service interruptions, inability to fulfill contractual obligations or to bill
customers accurately and on a timely basis, as well as increased expenses
associated with litigation, stabilization of operations following critical
system failures and the execution of contingency plans. We could also experience
an inability by customers and others to pay, on a timely basis or at all,
obligations owed to us. Under these circumstances, the adverse effects, although
not quantifiable at this time, could be material.
IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS
The American Institute of Certified Public Accountants recently issued
Statement of Position ("SOP") 98-5, "Reporting on the Costs of Start-Up
Activities." SOP 98-5 requires start-up costs, as defined, to be expensed as
incurred and is effective for financial statements for fiscal years beginning
after December 15, 1998. We currently expense all start-up costs as incurred and
consequently, the application of SOP 98-5 will have no material impact on our
financial statements.
28
<PAGE> 29
BUSINESS
MGC COMMUNICATIONS
We are a growing communications company currently offering local dialtone,
long distance and other voice services to small business and residential
customers. We expect to offer bundled voice and high-speed data services using
DSL technology in some of our markets later this year. We have one of the
largest collocation footprints, with 233 central office collocation sites
providing us access to approximately 12.8 million addressable lines, including
an estimated 4.0 million small business lines. We currently deliver our services
in the metropolitan areas of Atlanta, Chicago, Las Vegas, southern Florida and
selected areas of southern California, including Los Angeles and San Diego. We
have interconnection agreements with five ILECs: Ameritech, BellSouth, GTE,
PacBell and Sprint. At the end of the first quarter of 1999, we had 79,332
customer lines sold, of which 65,147 lines were in service. During 1999, we plan
to continue expanding our network to over 300 central office collocation sites
providing access to approximately 17 million addressable lines.
We were one of the first CLECs to implement a "smart-build" strategy,
building and owning the intelligent components of our network -- switches and
collocation facilities -- while leasing unbundled loops and transport from other
common carriers. For an explanation of certain terms used in this prospectus to
describe our network and its components, please read the section entitled
"-- Network Architecture and Technology." We believe this "smart-build" strategy
has allowed us to quickly establish a large collocation footprint at a
comparatively low cost while maintaining control of access to our customers.
Having executed our "smart-build" strategy, we are well-positioned to serve the
growing demand from small business customers for communications services.
The rapid growth of the Internet has fueled demand from small businesses
for access to high-speed data services. To meet this growing demand, we expect
to use our current network infrastructure to offer a bundled voice and
high-speed data product over a single copper unbundled loop by implementing DSL
as a data transport solution. On average, DSL technology increases the transport
capacity of standard copper telephone lines by 24 times. This increased capacity
will allow us to meet the growing demand for high-speed data services and to
deliver multiple voice telephone lines to a customer using a single unbundled
loop which we lease from the ILEC. By using a single unbundled loop to deliver a
bundled voice and high-speed data product, we expect to significantly reduce the
per line costs of provisioning customer lines and the associated leased
transport and unbundled loop costs. These savings should allow us to offer a
value-priced package of services to our customers. Several of our customers are
testing our bundled voice and high-speed data product, which is delivered via
DSL. We plan to offer this product to small businesses in select markets later
this year.
MARKET OPPORTUNITY
We believe we have a significant market opportunity as a result of the
following factors:
Impact of the Telecommunications Act of 1996
The Telecommunications Act of 1996 allows CLECs to use the existing
infrastructure established by ILECs, as opposed to building a competing
infrastructure at significant cost. The Telecommunications Act requires all
ILECs to allow CLECs to collocate their equipment in the ILEC's central offices.
This enables CLECs to access customers through existing telephone line
connections. The Telecommunications Act creates an incentive for ILECs that were
formerly part of the Bell system to cooperate with CLECs by precluding these
ILECs from providing long distance service in their region until regulators
determine there is a significant level of competition in the ILEC's local
market. See "-- Government Regulations."
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<PAGE> 30
Needs of Small Businesses for Integrated Communications Solutions
Many small businesses have no cost-effective alternative to dial-up modems
for Internet access. As a result, these businesses must contend with
productivity limitations associated with slow transmission speeds. In addition,
to meet their communications needs, small businesses are subject to the cost and
complexity of utilizing multiple service providers: local dialtone providers,
long distance carriers, Internet service providers and equipment integrators. We
believe these businesses can benefit significantly from an integrated
cost-effective communications solution delivered by a single service provider.
Growing Market Demand for High-Speed Data Services
The popularity of the Internet with consumers and the development of the
Internet as a commercial medium have driven the demand for high-speed data
services. Businesses are increasingly establishing Web sites and corporate
intranets and extranets to expand their customer reach and improve their
communications efficiency. To remain competitive, small businesses increasingly
need high-speed data and Internet connections to access critical business
information and communicate more effectively with employees, customers, vendors
and business partners. High-speed digital connections are also becoming
increasingly important to businesses and consumers as more information and
applications become available on the Internet.
Emergence of DSL Technology
DSL technology emerged in 1990 and is now commercially available. DSL
technology dramatically increases the data, voice and video carrying capacity of
standard copper telephone lines. Because DSL technology uses existing copper
telephone lines, a broad network deployment can be implemented rapidly and
requires a lower initial fixed investment than some existing alternative
technologies. In addition, since a significant portion of the expense associated
with a DSL network is incurred only when a new customer is added to the network,
capital is efficiently deployed.
THE MGC SOLUTION
We believe we offer an attractive communications solution to small business
and residential customers. In developing our solution, we have attempted to
include elements intended to create customer loyalty. Key aspects of our
solution include:
Simple, Competitive Flat Rate Packages. We offer our customers simple,
value-priced solutions for their communications requirements, all on a single
bill. Today we offer high quality basic communications products and services,
including local dialtone, custom calling features, long distance and dial-up
Internet access, at discounted prices. Our flat rate, bundled packages eliminate
the need for our customers to choose among a broad array of communications
options.
"One-Stop" Communications Solutions. Through the implementation of DSL
technology, we expect to offer a "one-stop" communications solution for our
customers, which will include our current communications products bundled with
high-speed data access. Our customers will have a single point of contact for a
complete package of services, eliminating the need for our customers to manage
multiple vendors.
Service Reliability. We are able to offer our customers a high degree of
service reliability through efficient, timely execution of provisioning
unbundled loops due to our mature relationships with five ILECs. We believe the
introduction of DSL technology will enable us to further improve our service
reliability by simplifying the provisioning process. Moreover, our customer
service center is staffed to respond promptly to customer inquiries 24 hours a
day, seven days a week.
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<PAGE> 31
BUSINESS STRATEGY
Continued Rapid Service Rollout. Our strategy is to address the greatest
percentage of our targeted customers as quickly as possible and gain market
share. To accomplish this, during 1999, we plan to expand the coverage of our
network within our existing markets to over 300 central office collocation
sites. During 2000, we plan to expand into approximately 20 new markets and add
over 250 central office collocation sites. Our central office collocation
build-out program is designed to allow us extensive coverage in all the markets
we enter. By positioning ourselves to be the first provider of bundled voice and
data services to small business customers in our markets, we expect to attract
many "early adopter" customers that are interested in high-speed Internet and
data access. See "-- Markets."
Focused Sales and Marketing Effort. To date, we have demonstrated an
ability to sell and provision our services to small business and residential
customers. We achieved this through a direct sales force, vendor programs and
targeted advertising. Our objective for 1999 is to expand significantly our
direct sales force to provide increased sales coverage of our extensive network
footprint. We plan to grow our direct sales force from 66 at March 31, 1999 to
over 130 by year end 1999. Additionally, we will continue developing
relationships with third party agents or vendors as a complement to our direct
sales channels. Our simplified, packaged product set enables us to easily train
our sales force and decreases the time required to market and sell our services.
With the introduction of our bundled voice and data solution, our sales force
can target the small business market segment with a total communications
solution.
Deployment of DSL Solution. We are developing and intend to deploy a
high-speed data solution within our existing network. This solution will
transport multiple voice lines and high-speed data over one unbundled loop using
DSL technology. Our physical presence in ILECs' facilities allows us access to
unbundled loops which is critical to deploying our DSL product set. The
integration of DSL into our existing network is accomplished by installing
advanced equipment in our host switch sites, collocation facilities and customer
sites. This next-generation product is expected to allow us a first-to-market
advantage with a unique product set providing all of a customer's voice and data
needs, billed on one statement from a single source.
Targeting Small Business Users. Based on unbundled loops in service, we
believe the small business customer base is a large and rapidly growing segment
of the communications market in the United States. We target suburban areas of
large metropolitan markets because these areas have high concentrations of small
businesses. By introducing a bundled voice and data solution and placing more
focus on small business sales, we believe we will gain a competitive advantage
over the ILEC, our primary competitor for these customers.
Capital Efficient Network. We were one of the first competitive local
exchange carriers to implement a network strategy of purchasing and installing
switches, collocating in the central offices of the ILEC and leasing the
necessary transport. We believe this network deployment strategy provides a
capital efficient build-out plan and an attractive return on our invested
capital. DSL technology is highly compatible with our existing network and will
allow us to reduce significantly the number of unbundled loops we lease.
Additionally, we are testing a new switching device from Lucent known as
Pathstar(TM). This next generation switch is significantly smaller and less
expensive than the switches we have deployed to date and we envision
installation of this or similar devices in our new markets to extend the
intelligence that determines where to route traffic further into our network. We
expect this decentralized switching approach will allow us greater efficiencies
in our network.
Sophisticated Operations Support System. We have developed a
comprehensive, proprietary operations support system to manage our business. Our
proprietary system provides integrated features addressing substantially all
aspects of our business, including customer care, billing and collections,
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<PAGE> 32
general ledger, payroll, fixed asset tracking, and personnel management. We
believe our system is adaptable to changing circumstances and multiple ILEC
provisioning systems, and can be scaled to support our operations throughout our
planned growth.
Customer Access Control. By connecting the unbundled loop connection from
our customer's site to our central office collocation, we effectively place the
customer on our network. This connection serves as the platform for delivering
our current and future communications services to our customers. Any future
changes our customers want to make to their services, including purchasing more
services from us, are under our direct control. The one exception is for
repairs, which are infrequent but may require the participation of the ILEC's
network maintenance staff.
Timely and Accurate Provisioning for Our Customers. We believe one of the
keys to our success is effectively managing the provisioning process so new
customers are transferred from the ILEC's network to ours in an accurate and
timely fashion. Towards this goal, we have committed significant time and
resources to designing more efficient provisioning processes with each of the
ILECs, particularly automated interfaces. Since 1998, we have been developing
and implementing electronic order interfaces designed to improve provisioning
performance by eliminating manual keying of information and the need to fax
paper orders back and forth. As an illustration, we are finalizing testing of an
interface with BellSouth which provides real-time access to customer information
as well as real-time order entry and confirmation.
As we deploy DSL technology throughout our network, the provisioning
process will become easier for us and more transparent for our customers. With
DSL technology in place, one copper loop will provide enough capacity for
multiple voice and data connections at the customer's premises. Therefore we
will be provisioning far fewer lines, making us significantly less dependent on
the ILEC for placing our customers in service.
Quality Customer Service. We believe providing quality customer service is
essential to offering a superior product to our customers and creating customer
loyalty. A service representative is assigned to each business customer to
coordinate conversion of service and handle any post-installation issues. In
addition, we have a centralized call service center operating 24 hours a day,
seven days a week which handles general billing, customer care and related
issues for all of our customers. The service representatives use our proprietary
operations support system to gain immediate access to our customers' data,
enabling quick responses to customer requests and needs at any time. This system
allows us to present our customers with one fully integrated monthly billing
statement for all communication services.
PRODUCTS AND SERVICES
To date, we have focused on offering basic telephone services to our small
business and residential customers. These services include switched local
dialtone, direct dial long distance and custom calling features such as voice
mail, call waiting and call forwarding. To capitalize on the growing demand of
small business and residential customers for Internet and data services, we
intend to introduce an Internet access portal known as MGCi.com in the second
quarter of this year and
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high-speed data access using DSL technology in some of our markets later this
year. The chart below shows our current offerings and our planned bundled
service solution:
<TABLE>
<CAPTION>
TARGET CUSTOMER CURRENT SERVICE OFFERINGS PLANNED SERVICE OFFERINGS
--------------- ------------------------- -------------------------
<S> <C> <C>
Small Business........... Local Dialtone Local Dialtone
Custom Calling Features Custom Calling Features
Direct Dial Long Distance Direct Dial Long Distance
Inbound 8XX Service
Calling Cards
MGCi.com
High-Speed Data Services
Residential.............. Local Dialtone Local Dialtone
Custom Calling Features Custom Calling Features
Direct Dial Long Distance Direct Dial Long Distance
MGCi.com
High-Speed Data Services
</TABLE>
All of our local services are, and all of our high-speed data services will
be, delivered over our network. Our long distance service is delivered through
resale agreements with various vendors. We offer everyday prices of $.10 per
minute or less for continental United States direct dial long distance calls and
more attractive rates for customers with greater volumes. We bill domestic calls
in six-second increments. To obtain our flat rate long distance prices, a
customer must purchase our local dialtone service. Additionally, we provide
operator and directory services, 911 services and Yellow Page and White Page
listings for our customers through agreements with various ILECs and long
distance carriers in our markets.
MARKETS
We currently operate in Las Vegas, Atlanta, Chicago, southern Florida and
selected areas of southern California, including Los Angeles and San Diego. As
of March 31, 1999, we had 233 central office collocation sites providing access
to approximately 12.8 million addressible lines in these markets. The chart
below shows the distribution of our central office collocation sites within
these markets.
<TABLE>
<CAPTION>
MARKET AREA COLLOCATION SITES ADDRESSABLE LINES
- ----------- ----------------- -----------------
<S> <C> <C>
Southern California.................... 123 7.2 Million
Atlanta................................ 36 1.9 Million
Chicago................................ 39 1.8 Million
Southern Florida....................... 17 1.0 Million
Las Vegas.............................. 18 .9 Million
TOTALS....................... 233 12.8 MILLION
</TABLE>
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During 1999, we plan to expand the coverage of our network within our
existing markets. During 2000, we plan to expand into approximately 20 new
markets. When evaluating new markets, we consider:
- The demographics of the market, specifically the presence of clusters of
ILEC central offices with high concentrations of small business lines. We
have cross-indexed a database of 10 million small businesses against a
database of ILECs' central offices providing unbundled loops to these
businesses to determine the most attractive central office sites for our
future expansion. This research assists in identifying the central
offices which will afford us access to our target customers for bundled
voice and high-speed data services; and
- Our ability to reduce implementation risks by using our existing
relationship with an ILEC to enter new markets within the ILEC's service
territory.
Based on the criteria outlined above, the chart below lists the states and
estimated number of markets we have identified for expansion during 2000 and the
planned time period for the commencement of operations in the first of those
markets. The timing and order of our entering into new markets may vary and will
depend on market conditions, ILEC cooperation and other factors. We cannot
assure you we will begin to offer our services in each of the markets or at the
times indicated below.
<TABLE>
<CAPTION>
NUMBER OF PLANNED
STATE NEW MARKETS OPERATIONAL DATE
----- ----------- ----------------
<S> <C> <C>
California Four First Quarter 2000
Michigan Three First Quarter 2000
Ohio Two First Quarter 2000
Texas Five First Quarter 2000
Wisconsin One First Quarter 2000
Florida Three Second Quarter 2000
Tennessee Two Third Quarter 2000
</TABLE>
SALES AND MARKETING
We concentrate our sales and marketing efforts on users of basic
communications services. We target:
- Small business customers that typically have between three and 24 lines;
- Single family residential users;
- Pay phone operators; and
- Multi-dwelling and multi-business unit owners and managers.
Our highly focused marketing efforts seek to generate well-managed,
profitable growth through increased market share with minimal customer turnover.
Our current sales programs include direct sales efforts, programs with agents
and vendors, telemarketing and targeted advertising.
With the introduction of our bundled voice and high-speed data solution, we
will be putting more emphasis on direct sales to small business prospects. Due
to the simplicity of our bundled voice and data solution, we will not need to
incur extensive costs to retrain our existing sales force.
As of March 31, 1999, we employed 61 local sales personnel and five
national sales personnel. We expect the size of our sales force to increase
substantially during 1999 as we introduce our bundled high-speed data offering.
During the fourth quarter of 1998, we implemented a "team" sales approach in our
Las Vegas market. We plan to implement this approach in each of our local
markets
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<PAGE> 35
during 1999. Each team will consist of two sales representatives, one business
service representative, one telemarketer and one field technician. The
telemarketer and sales representatives will work from lead lists which
specifically identify small business prospects located within the service area
of our collocation sites. The telemarketer will solicit leads and schedule
appointments and, when practical, close sales over the phone. Our business
service representative will act as the liaison between the small business
customer and our operational personnel to effect a coordinated transfer of
service from the ILEC's network to our network. The field technician will be
responsible for the installation of the customer premise equipment. Our national
sales force is responsible for identifying and soliciting owners and managers of
multi-dwelling and multi-business units and pay phone operators.
To complement our local and national sales force, we use established
telephone equipment vendors to market our local and long distance services in
conjunction with equipment sales to business customers. We believe this
distribution channel will become more productive for us in the near future with
the introduction of our bundled voice and high-speed data solution.
NETWORK ARCHITECTURE AND TECHNOLOGY
Network Architecture. In building our network we have implemented a
"smart-build" strategy, building and owning the intelligent components of our
network -- switches and collocation facilities -- while leasing transport from
other common carriers. We use three basic types of transport: first, we lease
unbundled loops which connect a customer to our collocated facilities in an
ILEC's central office; second, we lease local transport which connects our
collocation equipment to our switches; and third, we lease long distance
transport to support our dedicated fully digital, packet switched voice and data
Asynchronous Transfer Mode ("ATM") backbone which connects our switches to each
other and our customers' long distance calls to national and international
destinations. We believe this network strategy provides us an efficient capital
deployment plan and an attractive return on our invested capital.
DSL technology is highly compatible with our existing network and will
allow us to reduce significantly the number of unbundled loops we lease. The
diagram below depicts the configuration of our network in each of our existing
markets.
(Diagram showing connection from customer sites to worldwide telephones
and the Internet through our central office collocations and switches)
We believe leasing unbundled loops, the traditional copper loop connection
from the ILEC's central office to the end user, provides a cost-effective
solution to gaining control of access to the customer. Leasing costs are not
incurred until we have acquired a customer and revenue can be generated.
It is our experience that the local transport capacity required to connect
our collocation sites to our switches and the long distance transport required
to connect our customers' calls to the Internet or other telephones is available
at reasonable prices in all of our markets. Because local and long distance
transport have become readily available services, we have focused our efforts on
installing
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<PAGE> 36
and owning switches and collocation facilities and on selling and provisioning
unbundled loops. See "Risk Factors -- We depend on incumbent carriers for
collocation and transmission facilities."
In 1996, we installed our first Nortel DMS-500 digital switch in Las Vegas.
By the end of 1998, we had seven operational DMS-500 switches installed. The
DMS-500 system offers a flexible and cost effective means for us to provide both
local and long distance services. We are currently testing a smaller and less
costly switching device known as Pathstar(TM), developed by Lucent Technologies.
Pathstar(TM) is an ATM switching device that allows us to extend the
intelligence that determines where to route traffic onto our network. This
decentralized switching approach, as opposed to our current installed network
which uses one large switch for multiple collocations, should allow us to make
more efficient use of our network. The early results look promising and we
envision our expansion in 2000 and beyond being supported by Pathstar(TM)-type
switching devices located in our collocation sites which we expect will interact
fully with our current and future DSL equipment. Our seven installed switches
are connected to each other via an ATM transport backbone. ATM is a high-speed
transport technology which carries traffic in fully digital, fixed-length data
packets and allows both voice and data to be transported over a single
connection at high speeds and at reasonable costs. The introduction of DSL
technology into our existing network will create a network where voice and data
are transported exclusively in digital form, from the customer's location to our
collocation and from the collocation to our switch. End-to-end digital transport
will permit us to support more traffic with less incremental cost and, as a
result, should improve operating margins.
To connect our switches to our unbundled loops, we lease local transport
and install collocation equipment in the ILEC's central offices where the
unbundled loops originate and terminate. The installation of this equipment in
the ILEC's central office is referred to as "collocating," "collocations" or
"collocated facilities." Once collocation equipment is installed, we initiate
service to a customer by arranging for the ILEC to physically disconnect the
unbundled loop from its equipment and reconnect the unbundled loop to our
collocation equipment. This connection serves as the platform for delivering our
current and future communications services to our customers because once the
ILEC has connected a customer's unbundled loop to our collocation equipment, we
have direct access to that customer. Any future changes our customers want to
make to their services, including purchasing more services from us, are under
our direct control. The one exception is for repairs, which are infrequent, but
which may require the participation of the ILEC's network maintenance staff.
We have increased our central office collocations from nine as of December
31, 1996 to 233 as of March 31, 1999. We believe the expertise we have developed
in applying for, building and maintaining collocation facilities will allow us
to efficiently handle our planned network expansion including the installation
of collocation equipment required for our planned deployment of DSL technology.
We expect to install DSL equipment at most of our collocation sites during 1999.
We intend to overlay DSL technology into our existing network to provide a
bundled voice and high-speed data solution. This will be accomplished by
installing DSL equipment in our host switch sites, collocation sites and at our
customers' sites. The diagram below depicts how our network will be configured
after DSL technology is installed in an existing market.
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<PAGE> 37
(Diagram showing connection from customer sites to worldwide telephones
and the Internet through our central office collocations and switches using DSL
technology)
This technology is expected to let us deliver voice and data services over
a single unbundled loop and is expected to provide substantial cost savings as
well as provide significant bandwidth when compared to our current network.
Using DSL technology, we expect to deliver transport speeds of up to 1.5 million
bits per second ("Mbps"), the equivalent of 24 voice grade lines, over a single
traditional copper line. Our DSL equipment is programmed to allocate the
available bandwidth. For example, voice transmissions are carried at 64 thousand
bits per second ("Kbps"); if a customer has 12 lines (the current configuration
of our equipment installed at our customers' sites) and all are in use
concurrently, then 768 Kbps of the 1.5 Mbps is allocated for voice transmission
and the remaining 732 Kbps is available for data transmission. To ensure the
quality of our service offering we intend to initially offer the service only to
customers located within an approximate three-mile radius of a collocation
facility.
We believe this technology, when implemented, will significantly reduce our
customers' implementation risk and our per line transport costs by reducing the
number of unbundled loops which must be leased from, and provisioned by, the
ILEC in order to deliver our services to a customer. For example, if a customer
today has 12 lines, we must order and provision through the ILEC 12 individual
unbundled loops. If the same customer were to connect to our bundled voice and
data package, we would simply convert one of their existing lines to our DSL
equipment, provide the same number of voice circuits to the customer and notify
the ILEC to cancel the remaining 11 unbundled loops. Also, we expect that future
additional products and services designed around the increased bandwidth
provided by DSL technology will generate incremental revenue with attractive
margins.
Interconnection Agreements and CLEC Certifications. We have
interconnection agreements with Sprint for Nevada, BellSouth for Georgia and
Florida, GTE and PacBell for California and
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<PAGE> 38
Ameritech for Illinois. These agreements expire on various dates through July
2000. We are certified as a CLEC in Illinois, Georgia, Nevada, California,
Florida and Massachusetts.
Accelerated Networks Agreement. To deploy DSL technology in our existing
network, we have executed an agreement with Accelerated Networks (a privately
held company based in Moorpark, California) for the purchase of DSL equipment
which is installed at our host switch sites, collocation facilities and customer
sites. The agreement has an aggregate value of $2.4 million and allows for a 90
day testing period, which will expire in early June, using equipment we have
installed in our Las Vegas switch, one collocation site and two customer sites.
Should the equipment not meet previously agreed to specifications, we will
return the equipment with no further obligation. If, as expected, the equipment
does meet our specifications, then we will purchase sufficient equipment to
install at our host switch site, 13 collocations and 488 customer sites in Las
Vegas over the next year. As our internal systems are configured to work with
Accelerated Networks equipment and we finalize our deployment plans for the
balance of our existing network, we will determine whether or not to extend this
agreement so we can deploy Accelerated Networks' equipment throughout the
balance of our current markets.
SERVICE DEPLOYMENT AND OPERATIONS
Customer Service. We strive to provide high quality customer service
through:
- Personnel. Our customer service representatives and sales personnel are
well trained and attentive to our customers' needs.
- Call Center. Our centralized customer service center in Las Vegas
operates 24 hours a day, seven days a week. Calls from our customers are
answered and responded to with minimal wait time.
- Coordination of Service Provisioning. We coordinate service installation
with our customer and the ILEC to ensure a smooth transition of services
from the ILEC to us.
- Close Customer Contact. We proactively monitor our network and keep our
customers informed of installation or repair problems and allocate the
necessary resources to resolve any problems.
- Billing. We provide our customers with accurate, timely and easily
understood bills.
Process Automation. We have developed a comprehensive operations support
system to manage our business. This proprietary system provides integrated
features addressing substantially all aspects of our business including customer
care, billing and collections, general ledger, payroll, fixed asset tracking and
personnel management. In addition, in 1998, to improve provisioning performance,
we began developing electronic interfaces with five ILECs to reduce the need to
manually process orders.
When a new customer orders our service, we track the progress of the order
with electronic or fax updates from the ILEC. Our installation personnel follow
the customer's order, seeking to ensure the installation date is met.
Additionally, customer service representatives are able to handle all other
customer service inquiries, including billing questions and repair calls, with
the information available from our integrated system.
The billing component of our operations support system is designed to track
and bill all forms of local service, including line and feature charges as well
as long distance charges. We can accommodate business customers desiring a
single bill for many locations, summary bills without detail or a number of
other types of customized bills. We can deliver bills to our customers in a
number of alternative media including electronic files and during 1999, on-line
inquiry through our Website.
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<PAGE> 39
GOVERNMENT REGULATIONS
Overview
Our services are regulated at the federal, state and local level. The FCC
exercises jurisdiction over all facilities of, and services offered by,
communications common carriers like us, as long as those facilities are used in
connection with interstate or international communications. State regulatory
commissions have some jurisdiction over most of the same facilities and services
if they are used in connection with communications within states. Many of the
regulations issued by these federal and state agencies may be reviewed by
courts, the results of which we are unable to predict.
Federal Regulation
The FCC regulates interstate and international communications services,
including the use of local telephone facilities to place and receive interstate
and international calls. We provide these services as a common carrier. The FCC
imposes regulations on common carriers such as the ILECs, that have some degree
of market power. The FCC imposes less regulation on common carriers without
market power including, to date, CLECs like us. The FCC requires all common
carriers to receive an authorization to construct and operate communications
facilities, and to provide or resell communications services, between the United
States and international points.
The Telecommunications Act permits virtually any entity, including cable
television companies and electric and gas utilities, to enter any communications
market. The Telecommunications Act takes precedence over inconsistent state
regulation. However, entities that enter communications markets must follow
state regulations relating to safety, quality and consumer protection.
Implementation of the Telecommunications Act may be affected by numerous federal
and state policy rulemaking proceedings and review by courts. We are uncertain
as to how our business may be affected by these proceedings.
The Telecommunications Act is intended to promote competition. The
Telecommunications Act opens the local services market to competition by
requiring ILECs to permit interconnection to their networks and by establishing
ILEC and CLEC obligations with respect to:
Reciprocal Compensation. All ILECs and CLECs are currently required
to complete calls originated by each other under reciprocal arrangements at
prices based on tariffs or negotiated prices.
Resale. All ILECs and CLECs are required to permit resale of their
communications services without unreasonable restrictions or conditions. In
addition, ILECs are required to offer wholesale versions of all retail
services to other common carriers for resale at discounted rates, based on
the costs avoided by the ILEC by offering these services at wholesale
rates.
Interconnection. All ILECs and CLECs are required to permit their
competitors to interconnect with their facilities. All ILECs are required
to permit interconnection at any feasible point within their networks, on
nondiscriminatory terms, at prices based on cost, which may include a
reasonable profit. At the option of the carrier requesting interconnection,
collocation of the requesting carrier's equipment in the ILECs' premises
must be offered.
Unbundled Access. All ILECs are required to provide access to
unbundled network elements on nondiscriminatory terms and at prices based
on cost, which may include a reasonable profit.
Number Portability. All ILECs and CLECs are required to permit users
of communications services to retain their existing telephone numbers
without impairment of quality, reliability or convenience when switching
from one common carrier to another.
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<PAGE> 40
Dialing Parity. All ILECs and CLECs are required to provide "l+"
equal access to competing providers of long distance service, and to
provide nondiscriminatory access to telephone numbers, operator services,
directory assistance and directory listing, with no unreasonable dialing
delays.
Access to Rights-of-Way. All ILECs and CLECs are required to permit
competing carriers access to their poles, ducts, conduits and rights-of-way
at regulated prices.
ILECs are required to negotiate in good faith with carriers requesting any
or all of the above arrangements. If the negotiating carriers cannot reach
agreement within a predetermined amount of time, either carrier may request
arbitration of the disputed issues by the state regulatory commission. Where an
agreement has not been reached, ILECs continue to have interconnection
obligations established by the FCC and state regulatory commissions.
In August 1996, the FCC established rules to implement the ILEC
interconnection obligations described above. On July 18, 1997, a United States
appeals court overturned portions of these rules and narrowly interpreted the
FCC's power to establish and enforce rules implementing the Telecommunications
Act. On January 25, 1999, the United States Supreme Court reversed the appeals
court decision and confirmed the FCC's broad authority to issue rules
implementing the Telecommunications Act. Specifically, the Supreme Court decided
that:
- the FCC has jurisdiction over pricing of unbundled network elements; and
- the FCC has authority to make rules allowing a CLEC to "pick and choose"
among the most favorable terms from existing agreements between an ILEC
and other CLECs.
On the other hand, the Supreme Court vacated an FCC rule which described
the network elements the ILECs must provide to competitors on an unbundled
basis. This required the FCC to re-examine its rules regarding which unbundled
network elements must be made available to competitors. The FCC subsequently
opened an administrative proceeding to examine its rules in light of the Supreme
Court's January 25, 1999 interpretation, and tentatively concluded that
unbundled loops, the element most important to our business, must continue to be
made available to CLECs like us. This conclusion is not final, and even when
finalized, this and the rest of the FCC's conclusions may be further reviewed by
courts. We expect the FCC to render a final decision by the end of 1999.
We have taken the steps necessary to be a provider of local dialtone
services, and we have obtained CLEC certification in six states. In addition, we
have successfully negotiated interconnection agreements with five ILECs. In some
cases, one or both parties may be entitled to demand renegotiation of particular
provisions in an agreement based on intervening changes in the law. It is
uncertain whether we will be able to renew these agreements on favorable terms
when they expire. Some of the rates in these interconnection agreements have
been established by the FCC and may be adjusted by subsequent negotiations
between the parties. For example, the rates we pay Sprint (Nevada) for unbundled
network elements are in dispute. In this situation, we have recorded unbundled
network element expenses using our best estimate of the probable outcome for the
final negotiated rates. We believe the resolution of this matter will not have a
material adverse effect on our financial position, results of operations or
liquidity.
The Telecommunications Act also contains special provisions that replace
prior antitrust restrictions that prohibited the regional Bell operating
companies from providing long distance services and engaging in communications
equipment manufacturing. Prior to the passage of the Telecommunications Act, the
regional Bell operating companies and the dominant ILECs were restricted to
providing services within a distinct geographical area known as a Local Access
and Transport Area ("LATA"). After the breakup of the Bell system, the country
was divided into
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<PAGE> 41
LATAs. Under this system, regional Bell operating companies could only provide
local service within their LATA. The Telecommunications Act changed this system.
The Telecommunications Act permits the regional Bell operating companies to
provide long distance service in their market region once they have satisfied
several procedural and substantive requirements, including:
- a showing that the regional Bell operating company is subject to
meaningful competition; and
- a determination that the regional Bell operating company's entry into
long distance markets is in the public interest.
No request by a regional Bell operating company to offer long distance
services in its own market region has been approved by the FCC as of May 7,
1999. However, additional requests will likely be filed in 1999 and may receive
approval, allowing regional Bell operating companies to offer long distance
services in one or more of our markets. This may have an unfavorable effect on
our business.
Two regional Bell operating companies, US West and Ameritech, entered into
"teaming agreements" with Qwest Communications International, Inc. ("Qwest"),
under which these regional Bell operating companies would solicit their
customers for Qwest's long distance service and handle billing of those
customers in exchange for a fee. These agreements would have permitted the
regional Bell operating companies to compete with us by offering their local
customers a package of local and long distance services, even though the
regional Bell operating companies would not themselves be providing the long
distance element of these services. We joined other carriers in requesting that
the FCC block this proposed arrangement and we commenced litigation in federal
courts to block the proposed arrangement. The courts, at the request of the FCC,
referred the question of the legality of the agreements under the
Telecommunications Act to the FCC. On October 7, 1998, the FCC released a
decision that these agreements were an improper attempt by the regional Bell
operating companies to provide long distance service between LATAs that would be
inconsistent with the Telecommunications Act. The FCC's decision has been
appealed to the federal courts.
The FCC is also considering a regional Bell operating company proposal to
permit regional Bell operating companies to eventually offer high-speed data
services between LATAs through a separate subsidiary, without first having to
demonstrate that they have met the FCC procedural and substantive requirements
referred to above.
With respect to our domestic and international service offerings, we have
filed tariffs with the FCC stating the rates, terms and conditions for our
interstate and international services. Our interstate tariffs are subject to
"streamlined" tariff regulations and are generally not reviewed by the FCC
before becoming effective. Our tariffs can be amended on one day's notice. With
limited exceptions, the FCC currently requires ILECs to charge all customers the
same price for the same service. The FCC may, however, permit ILECs to offer
special rate packages to very large customers, as it has done in a few cases, or
permit other forms of rate flexibility. The FCC has adopted some proposals that
significantly lessen the regulation of ILECs which encounter competition in
their service areas and provide these ILECs with additional flexibility in
pricing their services.
In two orders released on December 24, l996 and May 16, 1997, the FCC made
major changes in the structure of interstate access charges. The December 24th
order permits ILECs to lower access charges. The May 16th order grants ILECs
increased pricing flexibility subject to the FCC's price cap rules upon
demonstrations of increased competition or potential competition in their
markets. The manner in which these changes are implemented could have a material
effect on the amount of switched access charges we collect from long distance
carriers. Several parties appealed the May 16th order. On August 19, 1998, the
May 16th order was affirmed by a United States appeals court. The FCC is now
considering public comments on a pricing flexibility proposal submitted by two
regional Bell operating companies and on modifying the factors the FCC uses to
determine annual price cap
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adjustments. In addition, on May 21, 1999, a United States court of appeals
reversed an FCC order that had established the factors that are currently used
to set the annual price cap. The court ordered the FCC to further explain the
methodology it used in establishing those factors.
ILECs have been contesting whether their obligation to pay reciprocal
compensation to CLECs should apply to local telephone calls from an ILEC's
customers to Internet service providers served by CLECs. The ILECs claim this
traffic is interstate in nature and should be exempt from reciprocal
compensation arrangements applicable to local and intrastate calls. CLECs have
contended that their interconnection agreements with ILECs provide no exception
for local calls to Internet service providers and reciprocal compensation is
applicable.
On February 26, 1999, the FCC ruled that Internet service provider traffic
is within the FCC's jurisdiction but that its current rules neither require nor
prohibit the payment of reciprocal compensation for these calls. The FCC
determined that state commissions have authority to interpret and enforce the
reciprocal compensation provisions of existing interconnection agreements and to
determine the appropriate treatment of Internet service provider traffic in
arbitrating new agreements. The FCC also requested comment on federal rules to
govern compensation for these calls in the future.
Currently, 29 state commissions and several federal and state courts have
ruled that reciprocal compensation arrangements apply to calls to Internet
service providers. However, one state has ruled that reciprocal compensation
arrangements are not applicable to calls to Internet service providers. Some
regional Bell operating companies have asked state commissions to reopen
decisions requiring the payment of reciprocal compensation on Internet service
provider calls. Additional disputes over the appropriate treatment of Internet
service provider traffic are pending.
Internet service providers may be among our potential customers and adverse
decisions in state proceedings could limit our ability to service this group of
customers profitably. However, at the present time, we do not focus our
marketing efforts on Internet service providers. Given the uncertainty as to
whether reciprocal compensation is payable in connection with calls to Internet
service providers, we do not recognize revenue from calls to Internet service
providers.
On May 8, 1997, the FCC released an order establishing a significantly
expanded federal universal service subsidy program. Several parties have
appealed this order. The appeals have been consolidated and transferred to a
United States appeals court where they are currently pending. The FCC's May 8,
1997 order established new subsidies for telecommunications and information
services provided to qualifying schools and libraries with an annual cap of
$2.25 billion and for services provided to rural health care providers with an
annual cap of $400 million. The FCC also expanded federal subsidies for local
dialtone services provided to low-income consumers. Providers of interstate
telecommunications service, such as us, must contribute to these programs. We
intend to recover these costs through charges assessed directly to our customers
and participation in federally subsidized programs. The net financial effect of
these regulations on us cannot be determined at this time. Currently, the FCC is
assessing contributions to these programs on the basis of a provider's revenue
for the previous year. The FCC announced that it intends, effective July 1,
1999, to revise its rules for subsidizing service provided to consumers in high
cost areas, which may result in further substantial increases in the cost of the
subsidy program.
State Regulation
The implementation of the Telecommunications Act is subject to numerous
state rulemaking proceedings. As a result, it is currently difficult to predict
how quickly full competition for local services, including local dialtone, will
be introduced.
To provide services within a state, we generally must obtain a certificate
of public convenience and necessity from the state regulatory agency and comply
with state requirements for telecommunica-
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tions utilities, including state tariffing requirements. To date, we have
satisfied state requirements to provide local and intrastate long distance
service in Nevada, Georgia, Illinois, California, Florida and Massachusetts.
State regulatory agencies have jurisdiction over our facilities and
services used to provide intrastate services. State agencies require us to file
periodic reports, pay various fees and assessments and comply with rules
governing quality of service, consumer protection and similar issues. The
specific requirements vary from state to state. Price cap or rate of return
regulation does not apply in any of our current or planned expansion markets.
However, we cannot assure you that the imposition of new regulatory burdens in a
particular state will not affect the profitability of our services in that
state.
Local Regulation
Our networks must comply with numerous local regulations such as building
codes, municipal franchise requirements and licensing. These regulations vary on
a city by city and county by county basis. In some of the areas where we provide
service, we may have to comply with municipal franchise requirements and may be
required to pay license or franchise fees based on a percentage of gross revenue
or other factors. Municipalities that do not currently impose fees may seek to
impose fees in the future. We cannot assure you fees will remain at their
current levels following the expiration of existing franchises.
COMPETITION
The communications industry is highly competitive. We believe the principal
competitive factors affecting our business will be pricing levels and policies,
transmission speed, customer service, breadth of service availability, network
security, ease of access and use, content bundling, brand recognition, operating
experience, capital availability, exclusive contracts, accurate billing and
variety of services. To maintain our competitive posture, we believe we must be
in a position to reduce our prices to meet any reductions in rates by our
competitors. Any reductions could adversely affect us. Many of our current and
potential competitors have financial, personnel and other resources, including
brand name recognition, substantially greater than ours, as well as other
competitive advantages over us. In addition, competitive alternatives may result
in substantial customer turnover in the future. Many providers of communications
and networking services experience high rates of customer turnover.
A continuing trend toward consolidation of communications companies and the
formation of strategic alliances within the communications industry, as well as
the development of new technologies, could give rise to significant new
competitors to us. For example, WorldCom acquired MFS Communications in December
1996, acquired another CLEC, Brooks Fiber Properties, Inc., in 1997, and
recently merged with MCI. AT&T recently acquired Teleport Communications Group
Inc., a CLEC, and TeleCommunications, Inc., a cable, communications and
high-speed Internet services provider, and recently announced its intent to
merge with MediaOne. Ameritech Corporation has agreed to merge with SBC
Communications and Bell Atlantic has agreed to merge with GTE Corporation. These
types of consolidations and strategic alliances could put us at a competitive
disadvantage.
LOCAL DIALTONE SERVICES
Incumbent Local Exchange Carriers
In each of the markets we target, we will compete principally with the ILEC
serving that area. We believe the regional Bell operating companies are
aggressively seeking to be able to offer long distance service in their service
territories. Many experts expect one or more of the regional Bell operating
companies to be successful in entering the long distance market during 1999. We
believe
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<PAGE> 44
the regional Bell operating companies expect to offset losses of market share in
their local markets by attempting to capture a large percentage of the long
distance market in their market areas, especially among residential users where
their strong regional brand names and extensive advertising campaigns may be
very successful. In addition, a continuing trend toward business combinations
and alliances in the communications industry may create significant new
competitors for us.
We have not achieved and do not expect to achieve a significant market
share for any of our services. The ILECs have long-standing relationships with
their customers, have financial, technical and marketing resources substantially
greater than ours, have the potential to subsidize competitive services with
revenues from a variety of businesses and currently benefit from existing
regulations that favor the ILECs over us in some respects. While recent
regulatory initiatives which allow CLECs such as us to interconnect with ILEC
facilities provide increased business opportunities for us, interconnection
opportunities have been and likely will continue to be accompanied by increased
pricing flexibility for, and relaxation of regulatory oversight of, the ILECs.
ILECs have long-standing relationships with regulatory authorities at the
federal and state levels. The FCC recently proposed a rule that would provide
for increased ILEC pricing flexibility and deregulation for competitive access
services, either automatically or after competitive levels are reached. If the
ILECs are allowed by regulators to offer discounts to large customers through
contract tariffs, engage in aggressive volume and term discount pricing
practices for their customers, and/or seek to charge competitors excessive fees
for interconnection to their networks, our operating margins could be materially
adversely affected. Future regulatory decisions which give the ILECs increased
pricing flexibility or other regulatory relief could also have a material
adverse effect on us.
Competitive Local Exchange Carriers/Long Distance Carriers/Other Market
Entrants.
We face, and expect to continue to face, competition from long distance
carriers, such as AT&T, MCI WorldCom, and Sprint, seeking to enter, reenter or
expand entry into the local exchange market. We also compete with other CLECs,
resellers of local dialtone services, cable television companies, electric
utilities, microwave carriers, wireless telephone system operators and large
customers.
The Telecommunications Act includes provisions which impose regulatory
requirements on all ILECs and CLECs but grants the FCC expanded authority to
reduce the level of regulation applicable to these common carriers. The manner
in which these provisions of the Telecommunications Act are implemented and
enforced could have a material adverse effect on our ability to successfully
compete against ILECs and other communications service providers.
The Telecommunications Act radically altered the market opportunity for
CLECs. Many existing CLECs which entered the market before 1996 had to build a
fiber infrastructure before offering services. With the Telecommunications Act
requiring unbundling of the ILEC networks, CLECs are now able to more rapidly
enter the market by installing switches and leasing transport and unbundled loop
capacity.
A number of CLECs have entered or announced their intention to enter one or
more of our markets. We believe that not all CLECs, however, are pursuing the
same target customers as us. We intend to keep our prices at levels below those
of the ILECs while providing, in our opinion, a higher level of service and
responsiveness to our customers. Innovative packaging and pricing of basic
telephone services is expected to provide competitive differentiation for us in
each of our markets.
LONG DISTANCE SERVICES
The long distance services industry is very competitive and many long
distance providers experience a high average turnover rate as customers
frequently change long distance providers in
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<PAGE> 45
response to offerings of lower rates or promotional incentives by competitors.
Prices in the long distance market have declined significantly in recent years
and are expected to continue to decline. We expect to face increasing
competition from companies offering long distance data and voice services over
the Internet. Companies offering these services over the Internet could enjoy a
significant cost advantage because they do not currently pay common carrier
access charges or universal service fees.
DATA AND INTERNET SERVICES
We expect the level of competition with respect to data and Internet
services to intensify in the future. We expect significant competition from:
- ILECs. Most ILECs have announced deployment of commercial DSL services.
Some ILECs have announced they intend to aggressively market these
services to their residential customers at attractive prices. In
addition, most ILECs are combining their DSL service with their own
Internet service provider businesses. We believe ILECs have the potential
to quickly overcome many of the issues that have delayed widespread
deployment of DSL services in the past. The ILECs have an established
brand name in their service areas, possess sufficient capital to deploy
DSL services rapidly and are in a position to offer service from central
offices where we may be unable to secure collocation space. If a regional
Bell operating company is authorized to provide long distance service, by
fulfilling the requirements of the Telecommunications Act, the regional
Bell operating company may be able to offer "one stop shopping" that
would be competitive with our offerings.
- Traditional Long Distance Carriers. Many of the leading traditional long
distance carriers, such as AT&T, MCI WorldCom and Sprint, are expanding
their capabilities to support high-speed, end-to-end networking services.
We expect them to offer combined data, voice and video services over
their networks. These carriers have extensive fiber networks in many
metropolitan areas that primarily provide high-speed data and voice
services to large companies. They could deploy DSL services in
combination with their current fiber networks. They also have
interconnection agreements with many ILECs and have secured collocation
space from which they could begin to offer competitive DSL services.
- Newer Long Distance Carriers. The newer long distance carriers, such as
Williams Communications, Qwest Communications International and Level 3
Communications, are building and managing high-speed networks nationwide.
They are also building direct sales forces and partnering with Internet
service providers to offer services directly to business customers. They
could extend their existing networks and offer high-speed services using
DSL, either alone or in partnership with others.
- Cable Modem Service Providers. Cable modem service providers, like @Home
Networks and its cable partners, are offering, or are preparing to offer,
high-speed Internet access over cable networks to consumers. @Work has
positioned itself to do the same for businesses. These networks provide
high-speed data services similar to our services, and in some cases at
higher speeds. These companies use a variety of new and emerging
technologies, such as point-to-point and point-to-multipoint wireless
services, satellite-based networking and high-speed wireless digital
communications.
- Competitive Carriers. Carriers, including Covad Communications Group,
Inc., Rhythms NetConnections Inc. and NorthPoint Communications, Inc.,
have begun offering DSL services and have strategic equity investors,
marketing alliances and product development partners.
Many of these competitors are offering, or may soon offer, DSL technologies
and services that will directly compete with us. Please see "Risk Factors -- The
market in which we operate is highly
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<PAGE> 46
competitive and we may not be able to compete effectively, especially against
established industry competitors with significantly greater financial
resources."
PROPERTY
In Las Vegas, we have a five year lease (expiring in 2001) with a five year
option for the site housing our switch. We also lease space in Las Vegas for our
corporate headquarters, national customer service operations, national sales
personnel, Las Vegas sales personnel and general administration. This lease
expires in 2003. This facility is owned by a limited liability company which is
principally owned by two of our principal stockholders and directors, Maurice J.
Gallagher, Jr. and Timothy P. Flynn.
We also own property housing our switch facilities in Ontario, Long Beach,
San Diego, Chicago and Fort Lauderdale. Our switch site in Atlanta has been
leased for a term expiring in 2007 with renewal options. We have leased
facilities to house our local sales and administration staff in each market.
We place great importance on each switch facility and seek to insure
maximum security and environmental control. We also believe this can be achieved
most effectively through stand-alone structures. This approach minimizes the
risk of fire or other hazards from adjacent tenants or properties.
PERSONNEL
As of March 31, 1999, we had 488 employees, most of whom were located in
Las Vegas. We expect to substantially increase the number of our employees over
the next two years.
We have non-disclosure and non-compete agreements with all of our executive
employees. None of our employees are represented by a collective bargaining
agreement.
LEGAL PROCEEDINGS
We are party to numerous state and federal administrative proceedings. In
these proceedings, we are seeking to define and/or enforce ILEC performance
requirements related to:
- the cost and provisioning of unbundled network elements;
- the establishment of customer care and provisioning;
- the allocation of subsidies; and
- collocation costs and procedures.
The outcome of these proceedings will establish the rates and procedures by
which we obtain and provide unbundled network elements and could have a material
effect on our operating costs.
We are also involved in legal proceedings in which we are seeking to
enforce our tariffed rates for originating and terminating long distance calls.
As of March 31, 1999, we had outstanding receivables of approximately $5.6
million attributable to access charges from AT&T, Sprint and MCI WorldCom. These
long distance carriers have refused to pay the full amount of the access charges
billed to them. We have initiated proceedings against AT&T at the FCC under an
FCC procedure for expedited settlement of disputes between common carriers. Any
decision by the FCC may be appealed by either party to a federal appeals court.
We are currently negotiating with Sprint and MCI WorldCom and have submitted our
dispute with MCI WorldCom to arbitration. The outcome of the disputes with AT&T,
Sprint and MCI WorldCom is uncertain. If we are unable to collect our tarriffed
access charges from these long distance carriers, it could have a material
impact on our
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<PAGE> 47
financial condition. See "Risk Factors -- The access charges we collect from
long distance carriers may be reduced as a result of regulatory challenges."
From time to time, we engage in other litigation and governmental
proceedings in the ordinary course of our business. We do not believe any
pending litigation or governmental proceedings will have a material adverse
effect on our results of operations or financial condition.
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<PAGE> 48
MANAGEMENT
EXECUTIVE OFFICERS AND DIRECTORS
Our executive officers and directors, and their respective ages as of May
15, 1999, are as follows:
<TABLE>
<CAPTION>
NAME AGE POSITION
- ---- --- --------
<S> <C> <C>
Maurice J. Gallagher, Jr.................... 49 Chairman of the Board of Directors
Nield J. Montgomery......................... 54 Chief Executive Officer, President, Director
Timothy P. Flynn(1)......................... 48 Director
Jack L. Hancock(2).......................... 69 Director
David Kronfeld.............................. 51 Director
Thomas Neustaetter(1)(2).................... 47 Director
Paul J. Salem(1)(2)......................... 35 Director
John Boersma................................ 38 Senior Vice President -- Operations
Michael E. Burke............................ 54 Vice President -- Network Operations
David S. Clark.............................. 38 Senior Vice President -- Sales and Marketing
Kent F. Heyman.............................. 43 Vice President and General Counsel
James J. Hurley, III........................ 50 President -- Midwest Region
James Mitchell.............................. 38 President -- Eastern Region
Mark W. Peterson............................ 44 President -- Western Region
Linda M. Sunbury............................ 37 Senior Vice President and Chief Financial
Officer
</TABLE>
- -------------------------
(1) Member of Audit Committee.
(2) Member of Compensation Committee.
MAURICE J. GALLAGHER, JR. has served as the Chairman of our Board of
Directors since our inception. Mr. Gallagher was instrumental in organizing the
Company with Mr. Montgomery. Mr. Gallagher was a founder of ValuJet Airlines,
Inc. ("ValuJet") in 1993 and served as a director of ValuJet from 1993 until
November 1997. Mr. Gallagher also held prior positions (including Chief
Financial Officer) with ValuJet from 1993 to 1994 and served as Vice Chairman
from 1994 to 1997. Prior to ValuJet, Mr. Gallagher was a founder and President
of WestAir Holding, Inc. ("WestAir"), a commuter airline headquartered in
Fresno, California. WestAir was sold to Mesa Airlines ("Mesa") in June 1992. Mr.
Gallagher was a member of the Mesa board of directors from June 1992 through
March 1993.
NIELD J. MONTGOMERY has been our Chief Executive Officer and President and
a member of our Board of Directors since our founding. Mr. Montgomery has over
36 years of telephone experience, most recently serving as a general manager for
ICG Telecom Group, Inc. ("ICG Telecom") from April 1994 to June 1995. In that
capacity, he was responsible for developing strategy and deploying telephone
switches nationally to position ICG Telecom to enter the local phone service
business. Prior to that, Mr. Montgomery served as General Marketing and Sales
Manager for Sprint/Centel (successor to Centel Nevada) ("Centel"). During his 13
year Centel career from 1980 to 1993, he served in senior executive positions
directing engineering, operations, business office, sales, and marketing
functions. Before joining Centel, Mr. Montgomery held a variety of management
positions with NYNEX from 1969 to 1980.
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<PAGE> 49
TIMOTHY P. FLYNN has served as a member of our Board of Directors since
1996. Mr. Flynn served as a member of the board of directors of ValuJet since he
participated in its founding in 1993 until November 1997. Prior to ValuJet, Mr.
Flynn was Chairman of the Board and CEO of WestAir. He and Mr. Gallagher
purchased WestAir in 1983 and operated it through June 1992 when it was sold to
Mesa. Mr. Flynn was a member of the board of directors of Mesa from June 1992
through March 1993. Mr. Flynn and Mr. Gallagher are affiliated in a number of
other transactions.
JACK L. HANCOCK has served as a member of our Board of Directors since
1996. Mr. Hancock was Vice President of Systems Technology and Executive Vice
President, Product and Technology for PacBell (from 1988 to 1993). He is a
member of the boards of directors of Union Bank of California (from 1994 to
present) and Wittaker Corporation (from 1994 to present).
DAVID KRONFELD was elected to serve as a member of our Board of Directors
in February 1998. Mr. Kronfeld is the founder of JK&B Management, L.L.C., a
venture capital firm, and has managed its affairs since 1995. Since 1989, Mr.
Kronfeld has also been a partner at Boston Capital Ventures, a venture capital
firm where he specialized in the telecommunications and software industries.
THOMAS NEUSTAETTER was elected to serve as a member of our Board of
Directors in February 1998. Since January 1996, Mr. Neustaetter has been a
principal of The Chatterjee Group ("TCG"), an investment firm. Prior to TCG, he
was managing director and founder of Bancroft Capital (financial advisory
services) from January 1996 to December 1996 and was a managing director at
Chemical Bank from 1990 to 1995. Mr. Neustaetter serves as a director of 21st
Century Telecom Group, Inc.
PAUL J. SALEM was elected to serve as a member of our Board of Directors in
May 1999. Since 1997, Mr. Salem served as a managing director of Providence
Equity Partners, Inc., which provides investment management services to
Providence Equity Partners III L.P. ("PEP") and has since its founding in 1998
served as a member of Providence Equity Partners III LLC, the general partner of
PEP. Mr. Salem also served as a Vice President of Providence Ventures Inc. from
1992 to 1996. Mr. Salem has served as a director of MetroNet Communications
Corp. since July 1996 and as a director of Verio, Inc. since 1996.
JOHN BOERSMA has served as our Vice President -- Operations since May 1997
and was designated Senior Vice President -- Operations in May 1999. He served as
Vice President of Carrier Relations for ICG Telecom Group, Inc. from 1996 to
1997. In that capacity, he was responsible for ICG Telecom's relationship with
local exchange carriers and implementation, purchase agreements and service
quality. Mr. Boersma served as Vice President, Northern California Operations of
ICG Telecom from April 1994 to September 1996.
MICHAEL E. BURKE has served as our Vice President -- Network Operations
since 1996. Mr. Burke has over 28 years of engineering and engineering project
management experience in the telecommunications industry, and served from 1990
to 1995 as a member of the Board of Directors and as Vice President -- Network
Design for Contel of California. Mr. Burke also served in various engineering
management roles with Continental Telephone Company from 1971 to 1995.
DAVID S. CLARK has served as our Vice President -- Marketing since May 1997
and was designated Senior Vice President -- Sales and Marketing in May 1999. Mr.
Clark has been in the telecommunications industry for 10 years, with
responsibilities including engineering, purchasing, product development, client
acquisition and maintenance, marketing and advertising. From 1989 to 1997, Mr.
Clark was employed by North American Telecom, his last position being Vice
President of Communications Services.
KENT F. HEYMAN has served as our Vice President and General Counsel since
June 1996. Mr. Heyman has 18 years of legal experience, most recently as
chairman of the litigation department and Senior Trial Counsel of the Dowling,
Magarian, Aaron & Heyman Law Firm. Mr. Heyman has
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<PAGE> 50
served as a California Superior Court Judge pro tempore presiding over trial,
settlement conference and other proceedings from 1990 to 1996.
JAMES J. HURLEY III has served as our President -- Midwest Region since
March 1998. He previously served as Chief Operating Officer of Wireless Works,
Inc. in Chicago, Illinois from 1996 to 1998. From 1992 to 1996, Mr. Hurley was
President and Chief Executive Officer of Inn Room Systems, Inc. (a manufacturer
of on-line room refreshment centers).
JAMES MITCHELL has served as our President -- Eastern Region since February
1998. Mr. Mitchell has over nine years of telephone industry experience, serving
from 1990 to 1998 in various sales and marketing management roles with MCI, his
last position being Regional Sales and Marketing Manager for the Southeast
Region.
MARK W. PETERSON has served as our President -- Western Region since March
1997. From 1993 to 1996, Mr. Peterson was a marketing and communications
consultant and a law student. He previously served as head of corporate affairs
for WestAir Holding, Inc. operating as United Express in Fresno, California from
1988 to 1992.
LINDA M. SUNBURY has served as our Vice President since June 1996 and our
Chief Financial Officer since January 1998. Ms. Sunbury was designated Senior
Vice President in May 1999. Ms. Sunbury has over 15 years accounting and
administrative experience, having held similar positions in the airline
industry. Most recently, Ms. Sunbury was Vice President of Administration for
Business Express, Inc. ("Business Express") dba the Delta Connection from 1994
to 1996. While Ms. Sunbury was at Business Express, creditors of Business
Express filed an involuntary petition for bankruptcy in January 1996. Business
Express subsequently reorganized and emerged from bankruptcy in April 1997.
Prior to that, Ms. Sunbury served as Controller for WestAir from 1988 to 1994.
Messrs. Kronfeld and Neustaetter were initially selected to serve on our
Board of Directors by the holders of our Series A Convertible Preferred Stock.
The Series A Convertible Preferred Stock was automatically converted into common
stock upon our initial public offering.
Mr. Salem was selected to serve on our Board of Directors by the holders of
our Series B Convertible Preferred Stock.
We are currently in the process of searching for an individual who will
serve as our chief executive officer and/or chief operating officer. We have
engaged an executive search firm to assist us in this process. It is currently
anticipated that Nield Montgomery will continue to serve in a senior executive
position after the employment of the new executive but that his responsibilities
will be modified to accommodate the responsibilities of the new executive. We
cannot assure you that we will be able to hire a new chief executive officer or
chief operating officer upon terms acceptable to us. See "Risk Factors -- Our
success depends on the effectiveness of our management and we are seeking to
make changes to our management team."
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PRINCIPAL AND SELLING STOCKHOLDERS
SECURITY OWNERSHIP OF MANAGEMENT AND BENEFICIAL OWNERS
The following table shows information known to us with respect to
beneficial ownership of common stock as of May 17, 1999, by (A) each director,
(B) all executive officers and directors as a group and (C) each person known by
us to be a beneficial owner of more than 5% of our outstanding common stock.
<TABLE>
<CAPTION>
NUMBER OF SHARES PERCENT OF
NAME OF BENEFICIAL OWNER BENEFICIALLY OWNED(1) OWNERSHIP(1)
- ------------------------ --------------------- ------------
<S> <C> <C>
Providence Equity Partners III LLC(2).................. 4,166,667 19.2%
Maurice J. Gallagher, Jr.(3)........................... 3,274,108 18.7%
David Kronfeld(4)...................................... 1,703,927 9.4%
Wind Point Investors, L.L.C.(5)........................ 1,241,270 6.9%
West Highland Capital, Inc.(6)......................... 1,012,100 5.8%
Nield J. Montgomery(7)................................. 952,500 5.4%
Timothy P. Flynn(8).................................... 899,700 5.1%
Thomas Neustaetter(9).................................. 694,514 4.0%
Jack L. Hancock(10).................................... 37,200 *
Paul J. Salem(11)...................................... -- --
All Executive Officers and Directors as a Group (15
persons) (3)(4)(7)(8)(9)(10)(11)(12)................. 8,088,289 43.8%
</TABLE>
- -------------------------
* Less than 1% of total.
(1) In accordance with the Commission's rules, each beneficial owner's holdings
have been calculated assuming the full exercise of options and the
conversion of all shares of convertible preferred stock held by the holder
which are currently exercisable or convertible or which will become
exercisable or convertible within 60 days after the date of this prospectus
and no exercise of options or conversion of preferred stock held by any
other person.
(2) Includes 4,166,667 shares of Series B Convertible Preferred Stock
(purchased in May 1999) which are convertible into common stock on a
one-for-one basis. The address of this beneficial owner is 901 Fleet
Center, 50 Kennedy Plaza, Providence, Rhode Island 02903.
(3) Includes options to purchase 36,000 shares of common stock which are
presently exercisable and 3,170,878 shares of common stock owned by the
various partnerships, trusts or corporations with respect to which Mr.
Gallagher is a general partner, beneficiary and/or controlling stockholder.
Also includes 44,730 shares owned by a trust for the benefit of Mr.
Gallagher's minor children with respect to which Mr. Gallagher disclaims
any beneficial ownership interest. Mr. Gallagher's address is 3301 N.
Buffalo Drive, Las Vegas, Nevada 89129.
(4) Includes 1,139,571 shares of common stock and 555,556 shares of Series B
Convertible Preferred Stock (purchased in May 1999) owned by partnerships
in which Mr. Kronfeld is a general partner or manager of a general partner.
The shares of Series B Convertible Preferred Stock are convertible into
common stock on a one-for-one basis. Mr. Kronfeld's address is JK&B
Management, L.L.C., 205 North Michigan, Suite 808, Chicago, Illinois 60601.
(5) Includes 555,556 shares of Series B Convertible Preferred Stock (purchased
in May 1999) which are convertible into common stock on a one-for-one
basis. The address of this beneficial holder is One Towne Square, Suite
780, Southfield, Michigan 48076.
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<PAGE> 52
(6) The address of this beneficial holder is 300 Drakes Landing Road, Suite
290, Greenbrae, California 94904.
(7) Includes options to purchase 216,000 shares which are presently
exercisable. Mr. Montgomery's address is 3301 N. Buffalo Drive, Las Vegas,
Nevada 89129.
(8) Includes options to purchase 7,200 shares which are presently exercisable
or will become exercisable within 60 days after the date of this
prospectus and 102,000 shares of common stock owned by various
partnerships or corporations with respect to which Mr. Flynn is a general
partner and/or controlling stockholder. Mr. Flynn's address is 3291 N.
Buffalo Drive, Suite 8, Las Vegas, Nevada 89129.
(9) Includes 685,714 shares of common stock held for the account of entities
associated with Chatterjee Management Company. Mr. Neustaetter is an
officer of Chatterjee Management Company. Mr. Neustaetter disclaims
beneficial ownership of these shares as he does not exercise investment or
voting power over them.
(10) Includes options to purchase 7,200 shares that are presently exercisable
or will become exercisable within 60 days after the date of this
prospectus.
(11) Excludes 4,166,667 shares of Series B Convertible Preferred Stock owned by
Providence Equity Partners III L.P. and its affiliates. Mr. Salem
disclaims beneficial ownership of these shares except to the extent of his
pecuniary interest in the general partner of Providence Equity Partners
III L.P.
(12) Includes options to purchase 131,400 shares owned by executive officers
not named above which are presently exercisable.
SELLING STOCKHOLDERS
The selling stockholders listed in the table below have agreed to sell the
number of shares of common stock indicated opposite their respective names. The
table sets forth information about common stock held of record by the selling
stockholders as of the date of this prospectus and as adjusted to reflect the
sale of shares of common stock in this offering. Information with respect to
ownership has been furnished by the respective selling stockholders. There is
and has been no material relationship during our history between us or any
affiliate of ours and any selling stockholder except as described in the
footnotes appearing at the end of the following table.
<TABLE>
<CAPTION>
SHARES OWNED SHARES OWNED SHARES OWNED
BEFORE THIS SOLD IN THIS AFTER THIS
SELLING STOCKHOLDER OFFERING OFFERING OFFERING
- ------------------- ------------ ------------ --------------
<S> <C> <C> <C>
</TABLE>
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<PAGE> 53
DESCRIPTION OF SECURITIES
GENERAL -- CAPITAL STOCK
The following description is a summary of the material terms of our capital
stock. It is not a complete description of all of the terms of our capital
stock. You should read this description of our capital stock as well as the
Nevada General Corporation Law, our Articles of Incorporation, including the
Certificate of Designation of the Series B Convertible Preferred Stock, and our
By-laws. Copies of our Articles and By-laws have been filed as exhibits to the
registration statement of which this prospectus is a part.
Our authorized capital stock consists of 60,000,000 shares of common stock,
$.001 par value per share, and 50,000,000 shares of preferred stock, $.001 par
value per share. As of May 12, 1999, 17,505,050 shares of common stock and
5,277,779 shares of Series B Convertible Preferred Stock (the "Series B
Preferred Stock") were outstanding and 2,773,033 shares of common stock were
subject to outstanding options and warrants. As of May 12, 1999, there were
approximately 173 holders of record of the common stock and five holders of
record of the Series B Preferred Stock.
If we issue preferred stock in the future, the preferred stock will have
the rights, terms and preferences specified by our Board of Directors in a
certificate filed with the Secretary of State of Nevada. As of the date of this
prospectus, we have authorized the issuance of up to 5,278,000 shares of Series
B Preferred Stock with the voting, dividend, liquidation and conversion rights
described below. The issuance of preferred stock by the Board of Directors in
the future could adversely affect the rights of holders of common stock. For
example, an issuance of preferred stock could result in a class of securities
outstanding with preferences over the common stock with respect to dividends and
liquidations and/or a class of securities with voting rights equal to or greater
than those of the common stock. We have no present plan to issue any additional
series of preferred stock. See "-- Anti-Takeover Provisions of Articles of
Incorporation."
SERIES B CONVERTIBLE PREFERRED STOCK
The Series B Preferred Stock has the following rights and preferences:
Dividends accrue at the rate of 10% per year, are cumulative and must be
paid before any dividends may be paid on our common stock. Beginning November
22, 1999, we may elect to terminate the accrual of dividends if our common stock
price per share exceeds $27.00 for 20 consecutive trading days. Except as
described below, accrued dividends will be paid in common stock at the time the
Series B Preferred Stock is converted into common stock if the dividends have
not been paid prior to that time.
On any matter submitted to our stockholders, holders of shares of Series B
Preferred Stock will be treated as if they hold the number of shares of common
stock into which their shares of Series B Preferred Stock could be converted and
will be allowed to vote those shares along with the holders of our common stock.
In addition, the holders of shares of Series B Preferred Stock will have the
right to approve any action to:
- issue preferred stock ranking equal or senior to the Series B Preferred
Stock;
- dispose of assets in excess of a fixed dollar amount, merge or
consolidate or sell our company;
- liquidate our company;
- alter the terms of the Series B Preferred Stock;
- pay dividends on common stock or other securities junior to the Series B
Preferred Stock;
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- enter into transactions with our affiliates other than transactions
covered by specified exceptions;
- make acquisitions in excess of a fixed dollar amount;
- incur additional debt in excess of fixed amounts;
- make material changes to our business plan;
- hire a chief executive officer;
- organize subsidiaries or enter into joint ventures unless specified
conditions are met; and
- issue additional common stock that would result in an increase in the
number of shares of common stock into which the Series B Preferred Stock
may be converted.
If we were to take one of these restricted actions without the approval of
the holders of the Series B Preferred Stock, the holders of the Series B
Preferred Stock may have the right to require us to seek a sale of our company.
To avoid having to sell our company in the event one of the restricted actions
described above is not approved, we have the right to redeem the Series B
Preferred Stock at predetermined prices. If we elect not to redeem the Series B
Preferred Stock and such a sale is not effected within six months, then the
holders of the Series B Preferred Stock would be entitled to elect a majority of
our Board of Directors.
The approval rights described above will terminate if fewer than 1,759,260
shares of Series B Preferred Stock remain outstanding and the shares of Series B
Preferred Stock outstanding constitute less than 5% of the outstanding common
stock assuming conversion of all outstanding shares of Series B Preferred Stock.
Based on the number of shares of common stock to be outstanding after this
offering, 5% of the common stock would be approximately shares.
The holders of the Series B Preferred Stock have the right to nominate one
or more directors depending on the size of our Board of Directors and the
percentage of our stock represented by the outstanding Series B Preferred Stock.
The holders of the Series B Preferred Stock also have the right to have their
Board representative serve on each committee of our Board and on the board of
each of our subsidiaries. The holders of the Series B Preferred Stock are
currently entitled to nominate one director since we have seven directors. Paul
J. Salem has been elected to the Board after being nominated by the holders of
Series B Preferred Stock.
The right to nominate directors will terminate if fewer than 1,759,260
shares of Series B Preferred Stock remain outstanding and the shares of Series B
Preferred Stock outstanding constitute less than 5% of the outstanding common
stock assuming conversion of all outstanding shares of Series B Preferred Stock.
Upon our liquidation, the holders of the Series B Preferred Stock are
entitled to receive their liquidation amount before any amounts may be paid to
holders of our common stock or other junior securities. The liquidation amount
will be the greater of (a) $9.00 per share plus accrued and unpaid dividends or
(b) the amount the holders of Series B Preferred Stock would have received if
the Series B Preferred Stock had been converted into common stock. The holders
of the Series B Preferred Stock have the right to elect that a sale of our
company be treated as a liquidation for these purposes. If the liquidation or
sale occurs before May 4, 2002, the accrued dividends will not be paid to the
extent the holders of Series B Preferred Stock will receive more than $22.50 per
share.
A holder of shares of Series B Preferred Stock may convert those shares
into common stock at any time. Initially, each share of Series B Preferred Stock
may be converted into one share of common stock. The number of shares of common
stock into which each share of Series B Preferred Stock can be converted may be
adjusted as a result of stock splits, stock dividends and other issuances of
additional stock.
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<PAGE> 55
After the earlier of May 24, 2000 or the date on which the holders of
Series B Preferred Stock exercise their demand registration rights, which are
discussed below, we have the right to require the conversion of the Series B
Preferred Stock if our common stock price exceeds $27.00 per share for 20
consecutive trading days. If we require conversion before May 4, 2002, no
accrued dividends will be paid.
The holders of Series B Preferred Stock have the right to require us to
redeem the Series B Preferred Stock after May 4, 2005 or upon a sale of our
company. The redemption price will be equal to the greater of:
- $9.00 per share plus accrued and unpaid dividends; or
- the value of the common stock into which the Series B Preferred Stock is
then convertible.
If we fail to redeem all shares of Series B Preferred Stock within six
months of the date specified by the holders of the Series B Preferred Stock,
then the holders of the Series B Preferred Stock will have the right to elect a
majority of our Board of Directors.
The holders of Series B Preferred Stock have demand and piggyback
registration rights, although a demand registration may not be initiated by the
holders of the Series B Preferred Stock before May 4, 2000, unless our stock
price exceeds $27.00 per share for 20 consecutive trading days.
OUTSTANDING WARRANTS
As of May 12, 1999, there are outstanding warrants ("Warrants") to purchase
approximately 563,900 shares of common stock. These warrants were originally
issued in September 1997 to purchasers of units consisting of our Senior Secured
Notes and the Warrants. Each holder of a Warrant may purchase shares of common
stock at a price of $.02 per share at any time on or before October 1, 2004.
SHARES ELIGIBLE FOR FUTURE SALE
Upon completion of this offering, we will have outstanding shares
of common stock. Of these shares, the shares sold in this offering,
any additional shares sold upon exercise of the over-allotment option granted to
the underwriters, the 4,025,000 shares sold in our initial public offering and
approximately 29,000 shares issued upon exercise of stock options will be freely
tradable without restriction or further registration under the Securities Act
unless those shares are held by our "affiliates" as defined by the Securities
Act.
The remaining shares of our common stock, including 5,277,779
shares of common stock which may be issued upon conversion of the Series B
Preferred Stock, are "restricted securities" under the Securities Act because
they were issued and sold by us in private transactions in reliance upon
exemptions from registration under the Securities Act. Restricted securities may
not be sold except in compliance with the registration requirements of the
Securities Act or under an exemption from registration, such as the exemption
provided by Rule 144 under the Securities Act. Substantially all of these
restricted securities, other than the 5,277,779 shares of common stock which may
be issued upon conversion of the Series B Preferred Stock, currently qualify for
sale under Rule 144.
The holders of approximately shares of our common stock,
5,277,779 shares of the Series B Preferred Stock and Warrants to purchase
shares of common stock have agreed not to offer, sell or otherwise
dispose of their securities in the public market until at least 90 days after
the offering is completed without the consent of Bear, Stearns & Co. Inc. After
the 90 day period, all of these securities other than the 5,277,779 shares of
the Series B Preferred Stock will be
55
<PAGE> 56
eligible for sale in the public market upon registration or compliance with Rule
144 under the Securities Act.
Sales of a substantial amount of common stock in the public market, or the
perception that sales could occur, could reduce the price of our stock.
REGISTRATION RIGHTS OF SECURITY HOLDERS
The holders of the 5,277,779 shares of our outstanding Series B Preferred
Stock, the holders of shares of common stock that have been or may be
acquired upon exercise of the Warrants and the holders of shares of
common stock received upon conversion of the Series A Convertible Preferred
Stock upon our initial public offering have the right to demand that their
common stock be registered with the SEC. The demand rights of the holders of the
Series B Preferred Stock may not be exercised before May 4, 2000, unless our
stock price exceeds $27.00 per share for 20 consecutive trading days and may not
in any event be exercised before August 2, 1999.
The holders of the 5,277,779 shares of our outstanding Series B Preferred
Stock, the holders of shares of common stock that have been or may be
acquired upon exercise of the Warrants and the holders of an additional
shares of common stock have piggyback registration rights under
agreements with us.
FUTURE SALE OF STOCK TO EMPLOYEES
We plan to seek to attract and retain employees in part by offering stock
options and other purchase rights for a significant number of our shares of
common stock. These plans may dilute the percentage of ownership of our then
existing stockholders.
CONTROL SHARE ACQUISITIONS
Sections 78.3791 through 78.3793 of the Nevada Revised Statutes generally
apply to any acquisition of outstanding voting securities of an Issuing
Corporation which results in the acquiror owning more than 20% of the Issuing
Corporation's then outstanding voting securities. An Issuing Corporation is any
Nevada corporation with at least 200 stockholders, at least 100 of which are
stockholders of record and Nevada residents, and which conducts business in
Nevada.
The securities acquired in a covered acquisition are denied voting rights
unless a majority of the security holders of the Issuing Corporation approve the
granting of voting rights. If permitted by the Issuing Corporation's Articles of
Incorporation or By-laws then in effect, voting securities acquired in the
covered acquisition are redeemable by the Issuing Corporation at the average
price paid for the securities by the acquiror if the acquiring person has not
given timely notice to the Issuing Corporation or if the stockholders of the
Issuing Corporation vote not to grant voting rights to the acquiring person's
securities.
Unless the Issuing Corporation's Articles of Incorporation or By-laws then
in effect provide otherwise, if the acquiring person acquired securities having
50% or more of the voting power of the Issuing Corporation's outstanding
securities and the stockholders of the Issuing Corporation grant voting rights
to the acquiring person, then any stockholders of the Issuing Corporation who
voted against granting voting rights to the acquiring person may demand that the
Issuing Corporation purchase, for fair value, all or any portion of his
securities.
Our Articles of Incorporation and By-laws do not limit the effect of these
provisions.
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<PAGE> 57
TRANSFER AGENT
The Transfer Agent and Registrar for our common stock is Continental Stock
Transfer & Trust Company, New York, New York.
LIMITATION OF LIABILITY AND INDEMNIFICATION OF DIRECTORS
The right of the stockholders to sue any director for misconduct in
conducting our affairs is limited by our Articles of Incorporation and Nevada
statutes to cases for damages resulting from breaches of fiduciary duties
involving acts or omissions involving intentional misconduct, fraud, knowing
violations of the law or the unlawful payment of dividends. Ordinary negligence
is not grounds for suit. The statute does not limit the liability of directors
or officers for monetary damages under the federal securities laws.
We also have the obligation, under our By-laws, to indemnify any director
or officer of ours for all expenses incurred by them in connection with any
legal action brought or threatened against the person for or on account of any
action or omission alleged to have been committed while acting in the course and
scope of the person's duties, if the person acted in good faith and in a manner
which the person reasonably believed to be in or not opposed to our best
interests, and with respect to criminal actions, had no reasonable cause to
believe the person's conduct was unlawful, provided that indemnification is made
under then existing provisions of Nevada General Corporation Law at the time of
indemnification.
Insofar as indemnification for liabilities arising under the Securities Act
may be permitted to our directors, officers or other controlling persons under
the foregoing provisions, we have been informed that in the opinion of the SEC
indemnification is against public policy as expressed in the Securities Act and
is therefore unenforceable.
ANTI-TAKEOVER PROVISIONS OF ARTICLES OF INCORPORATION
Our Articles of Incorporation authorize our Board of Directors to issue up
to 50,000,000 shares of preferred stock from time to time in one or more
designated series or classes. As of May 12, 1999, 5,278,000 shares of preferred
stock have been designated as Series B Preferred Stock and 5,277,779 shares of
Series B Preferred Stock were outstanding. We previously issued 6,571,427 shares
of Series A Convertible Preferred Stock which reverted to authorized but
unissued shares of preferred stock when we closed our initial public offering of
common stock. Our Board of Directors, without approval of the stockholders, is
authorized to establish the voting, dividend, redemption, conversion,
liquidation and other provisions of a particular series of preferred stock,
which could, among other things, adversely affect the voting power or other
rights of the holders of common stock and, under some circumstances, make it
more difficult for a third party to acquire, or discourage a third party from
acquiring, control of our company. Our Board of Directors has no present
intention to authorize the issuance of any additional series of preferred stock.
BOARD OF DIRECTORS
Our By-laws provide that our Board is divided into three classes of
directors, with each class having a number of directors as nearly equal as
possible and with the term of each class expiring in a different year. Because
only one class of directors stands for election or re-election each year,
classifying our Board prevents persons seeking to acquire control of our company
from electing more than a minority of directors in any year, thereby delaying,
deferring or preventing a change in control. Our By-laws provide that our Board
shall consist of between three and nine members, with the exact number to be
determined from time to time by our Board. Our Board has set the number of
directors at seven and, as a result, the size of each class is two or three.
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<PAGE> 58
STOCKHOLDER ACTION AND SPECIAL MEETINGS
Our By-laws provide that:
- all action required or permitted to be taken by our stockholders must be
effected at a duly called annual or special meeting of stockholders and
may not be effected by any consent in writing, and
- the number of directors is set by resolution of our Board.
These provisions may have the effect of deterring hostile takeovers or delaying
changes in control or management of our company. Our By-laws provide that
special meetings of stockholders may be called by the Board, the Chairman of the
Board, the President or the holders of at least a majority of the shares of our
common stock issued and outstanding and entitled to vote.
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<PAGE> 59
UNDERWRITING
The underwriters of this offering named below, for whom Bear, Stearns & Co.
Inc., Goldman, Sachs & Co. and ING Baring Furman Selz LLC are acting as
representatives, have severally agreed with us under the terms and conditions of
the underwriting agreement (the form of which has been filed as an exhibit to
the registration statement on Form S-3 of which this prospectus is a part), to
purchase from us and the selling stockholders the aggregate number of shares of
common stock set forth opposite their respective names below:
<TABLE>
<CAPTION>
THE UNDERWRITERS NUMBER OF SHARES
- ---------------- ----------------
<S> <C>
Bear, Stearns & Co. Inc.....................................
Goldman, Sachs & Co. .......................................
ING Baring Furman Selz LLC..................................
-----------
Total.....................................................
===========
</TABLE>
The obligations of the underwriters to purchase the shares from us and the
selling stockholders under the underwriting agreement are conditioned upon
approval of legal matters by counsel and other conditions. The underwriters are
committed to purchase and pay for all of the above shares, if any of the shares
are purchased.
If the underwriters sell more than the total number of shares set forth in
the table above, the underwriters have an option to buy up to an additional
shares from us to cover such sales. They may exercise this option
for 30 days. If any shares are purchased pursuant to this option, the
underwriters will severally purchase shares in approximately the same proportion
as set forth in the table above.
Shares sold by the underwriters to the public will initially be offered at
the per share offering price on the cover page of this prospectus, less an
amount not greater than the per share amount of the concession to dealers
described below. Any shares sold by the underwriters to securities dealers may
be sold at a discount of up to $ per share from the public offering price.
Securities dealers may resell any shares purchased from the underwriters to
other brokers or dealers at a discount of up to $0.10 per share from the public
offering price. If all the shares are not sold at the public offering price, the
representatives may change the public offering price and the other selling
terms.
The following table shows the per share and total underwriting discounts
and commissions to be paid to the underwriters by us and by the selling
stockholders. With respect to the underwriting discounts and commissions to be
paid by us, these amounts are shown assuming both no exercise and full exercise
of the underwriters' option to purchase additional shares.
<TABLE>
<CAPTION>
PAID BY US
----------------------- PAID BY
NO EXERCISE EXERCISE SELLING STOCKHOLDERS
----------- -------- --------------------
<S> <C> <C> <C>
Per share...................................... $ $ $
Total.......................................... $ $ $
</TABLE>
We estimate that our share of the total expenses of this offering,
excluding underwriting discounts and commissions, will be approximately
$ .
Under the underwriting agreement, we and the selling stockholders have
agreed to indemnify the underwriters against certain liabilities under the
Securities Act or to contribute to payments the underwriters are required to
make as a result of certain liabilities under the Securities Act.
The holders of approximately shares of our common stock,
5,277,779 shares of the Series B Preferred Stock and Warrants to purchase
shares of common stock have agreed
59
<PAGE> 60
not to offer, sell or otherwise dispose of their securities in the public market
until at least 90 days after the offering is completed without the consent of
Bear, Stearns & Co. Inc. After the 90 day period, all of these securities other
than the 5,277,779 shares of the Series B Preferred Stock will be eligible for
sale in the public market upon registration or compliance with Rule 144 under
the Securities Act.
In connection with this offering, the underwriters may purchase and sell
shares of common stock in the open market. These transactions may include short
sales, stabilizing transactions and purchases to cover positions created by
short sales. Short sales involve the sale by the underwriters of a greater
number of shares than they are required to purchase in this offering.
Stabilizing transactions consist of certain bids or purchases made for the
purpose of preventing or slowing a decline in the market price of the common
stock while this offering is in progress.
The underwriters also may impose a penalty bid. This occurs when a
particular underwriter repays to the underwriters a portion of the underwriting
discount received by it because the representatives have repurchased shares sold
by or for the account of such underwriter in stabilizing or short covering
transactions. These activities by the underwriters may stabilize, maintain or
otherwise affect the market price of the common stock. As a result, the price of
the common stock may be higher than the price that otherwise might exist in the
open market. A penalty bid may also affect the price of the common stock if it
discourages resales of the common stock. No assurance is made as to the
magnitude or effect of any stabilization or other transactions. If these
activities are commenced, they may be discontinued by the underwriters at any
time. These transactions may be effected on the Nasdaq National Market, in the
over-the-counter market or otherwise.
In connection with this offering, certain underwriters and selling group
members, if any, who are qualified market makers on the Nasdaq National Market
may engage in passive market making transactions in the common stock on the
Nasdaq National Market in accordance with Rule 103 of Regulation M under the
Exchange Act. Passive market makers must comply with applicable volume and price
limitations and must be identified as passive market makers. In general, a
passive market maker must display its bid at a price not in excess of the
highest independent bid for the security; if all independent bids are lowered
below the passive market maker's bid, however, the bid must then be lowered when
certain purchase limits are exceeded.
Bear Stearns and Furman Selz LLC, a predecessor in interest to ING Baring
Furman Selz LLC, acted as initial purchasers in connection with the offering in
September 1997 of units consisting of Senior Secured Notes and Warrants. Bear
Stearns and Furman Selz LLC also acted as placement agents in connection with
the sale of Series A Convertible Preferred Stock in November 1997 (the "November
1997 Private Placement"), for which they received customary fees. During January
1998, we sold additional shares of Series A Convertible Preferred Stock (the
"January 1998 Private Placement") for which neither Bear Stearns nor Furman Selz
LLC received any commission. Bear Stearns and Furman Selz LLC acted as
representatives of the underwriters (which included Goldman Sachs & Co.) in our
initial public offering of our common stock, for which they received customary
fees. In addition, an affiliate of ING Baring Furman Selz LLC provides cash
management services to us for which it receives customary fees.
LEGAL MATTERS
Certain legal matters regarding the validity of the common stock offered by
this prospectus will be passed upon for us by Ellis, Funk, Goldberg, Labovitz &
Dokson, P.C., Atlanta, Georgia. Shareholders of Ellis, Funk, Goldberg, Labovitz
& Dokson, P.C. own approximately 21,600 shares of our common stock. Kronish Lieb
Weiner & Hellman LLP, New York, New York, is acting as
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<PAGE> 61
counsel to the underwriters in connection with certain legal matters relative to
the common stock offered by this prospectus.
EXPERTS
The financial statements included in this prospectus and elsewhere in the
registration statement, to the extent and for the periods indicated in their
reports, have been audited by Arthur Andersen LLP and KPMG LLP, independent
public accountants, and are included herein in reliance upon the authority of
these firms as experts in giving said reports.
WHERE YOU CAN FIND MORE INFORMATION
We must comply with the periodic reporting and other informational
requirements of the Exchange Act and file reports, proxy statements and other
information with the SEC. Copies of our periodic reports and proxy statements
and of other information filed by us with the SEC may be inspected at the public
reference facilities maintained by the SEC at Room 1024, 450 Fifth Street, N.W.,
Washington, D.C. 20549, or at its regional offices located at the Citicorp
Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661 and 7 World
Trade Center, 13th Floor, New York, New York 10007. The SEC maintains an
Internet site that contains reports, proxy and information statements and other
information regarding us. The address of the SEC's Web site is
http://www.sec.gov. Our Internet address is http://www.mgci.com.
We have filed with the SEC a registration statement on Form S-3 under the
Securities Act covering the common stock being offered. This prospectus does not
contain all the information included in the registration statement, parts of
which are omitted as allowed by the rules of the SEC. For further information
about us and the securities offered, please refer to the registration statement.
The registration statement may be inspected and copied, at prescribed rates, at
the SEC's public reference facilities at the addresses shown above. Statements
made in this prospectus concerning the contents of any document referred to in
this prospectus are not necessarily complete. With respect to each document
filed with the SEC as an exhibit to the registration statement, you should refer
to the exhibit for a more complete description of the matter involved.
The following documents filed by us with the SEC are incorporated into this
prospectus by reference:
- our Annual Report on Form 10-K for the fiscal year ended December 31,
1998;
- our Quarterly Report on Form 10-Q for the quarter ended March 31, 1999;
- the description of our common stock included in our registration
statement filed under the Exchange Act and any amendment or report filed
for the purpose of updating that description; and
- all reports filed by us to comply with Section 13(a) or 15(d) of the
Exchange Act since the end of the quarter covered by our Quarterly Report
on Form 10-Q for our quarter ended March 31, 1999.
All documents filed by us as required by Section 13(a), 13(c), 14, or 15(d) of
the Exchange Act after the date of this prospectus are incorporated by reference
in this prospectus and are made a part of this prospectus from the date of
filing of these documents.
Any statement contained in a document incorporated by reference in this
prospectus shall be deemed to be modified or superseded for purposes of this
prospectus to the extent that a statement contained in this prospectus or in any
other subsequently filed document which also is incorporated by reference
modifies or supersedes an earlier statement. Any earlier statement so modified
or
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<PAGE> 62
superseded shall not be deemed, except as so modified or superseded, to
constitute a part of this prospectus.
THIS PROSPECTUS INCORPORATES DOCUMENTS BY REFERENCE WHICH ARE NOT PRESENTED
IN OR DELIVERED WITH THIS PROSPECTUS. THESE DOCUMENTS ARE AVAILABLE TO YOU
WITHOUT CHARGE UPON YOUR WRITTEN OR ORAL REQUEST. TO REQUEST THESE DOCUMENTS,
PLEASE CONTACT KENT F. HEYMAN, ESQ., VICE PRESIDENT AND GENERAL COUNSEL, MGC
COMMUNICATIONS, INC., 3301 N. BUFFALO DRIVE, LAS VEGAS, NEVADA 89129 (TELEPHONE
702-310-8258).
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<PAGE> 63
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
MGC COMMUNICATIONS, INC.
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Report of Independent Public Accountants.................... F-2
Independent Auditors' Report................................ F-3
Consolidated Balance Sheets as of March 31, 1999 (unaudited)
and December 31, 1998 and 1997............................ F-4
Consolidated Statements of Operations for the three months
ended March 31, 1999 and 1998 (unaudited) and for the
years ended December 31, 1998, 1997 and 1996.............. F-5
Consolidated Statements of Redeemable Preferred Stock and
Stockholders' Equity for the three months ended March 31,
1999 (unaudited) and for the years ended December 31,
1998, 1997 and 1996....................................... F-6
Consolidated Statements of Cash Flows for the three months
ended March 31, 1999 and 1998 (unaudited) and for the
years ended December 31, 1998, 1997 and 1996.............. F-7
Notes to Consolidated Financial Statements.................. F-8
</TABLE>
F-1
<PAGE> 64
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders and
Board of Directors of
MGC Communications, Inc.:
We have audited the accompanying consolidated balance sheets of MGC
Communications, Inc. (a Nevada corporation) and subsidiary (the "Company") as of
December 31, 1998 and 1997, and the related consolidated statements of
operations, redeemable preferred stock and stockholders' equity and cash flows
for the years then ended. 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 the 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 MGC Communications, Inc. and
subsidiary as of December 31, 1998 and 1997, and the results of their operations
and their cash flows for the years then ended in conformity with generally
accepted accounting principles.
ARTHUR ANDERSEN LLP
Las Vegas, Nevada
March 2, 1999
F-2
<PAGE> 65
INDEPENDENT AUDITORS' REPORT
The Board of Directors
MGC Communications, Inc.
We have audited the accompanying statements of operations, stockholders'
equity and cash flows of MGC Communications, Inc. for the year ended December
31, 1996. 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 audit.
We conducted our audit in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the 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 audit provides a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the results of operations and the cash flows of MGC
Communications, Inc. for the year ended December 31, 1996, in conformity with
generally accepted accounting principles.
/s/ KPMG LLP
Las Vegas, Nevada
August 18, 1997
F-3
<PAGE> 66
MGC COMMUNICATIONS, INC.
CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
DECEMBER 31,
MARCH 31, --------------------
1999 1998 1997
----------- -------- --------
(UNAUDITED)
<S> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents................................. $ 5,972 $ 11,886 $ 45,054
Investments held-to-maturity.............................. -- -- 7,797
Investments available-for-sale............................ 1,867 9,851 --
Restricted investments.................................... 31,428 20,797 18,482
Accounts receivable, less allowance for doubtful accounts
of $363, $257 and $216.................................. 8,988 6,360 1,200
Prepaid expenses.......................................... 250 208 277
-------- -------- --------
Total current assets............................... 48,505 49,102 72,810
Property and equipment, net................................. 128,136 116,380 24,617
Investments held-to-maturity................................ -- -- 49,913
Investments available-for-sale.............................. 47,468 63,212 --
Restricted investments...................................... 8,501 18,582 39,092
Deferred financing costs, net of accumulated amortization of
$1,272, $1,065 and $198................................... 4,507 4,714 5,448
Other assets................................................ 436 129 97
-------- -------- --------
Total assets....................................... $237,553 $252,119 $191,977
======== ======== ========
LIABILITIES, REDEEMABLE PREFERRED STOCK
AND STOCKHOLDERS' EQUITY
Current liabilities:
Current maturities of long-term debt........................ $ 241 $ 332 $ 381
Accounts payable:
Trade..................................................... 12,133 5,314 462
Property and equipment.................................... 5,683 18,577 3,123
Accrued interest............................................ 10,400 5,200 5,328
Accrued other expenses...................................... 3,402 2,473 786
-------- -------- --------
Total current liabilities.......................... 31,859 31,896 10,080
Senior Secured Notes, net of unamortized discount of $3,163,
$3,307 and $3,882......................................... 156,837 156,693 156,118
Other long-term debt........................................ 208 270 138
-------- -------- --------
Total liabilities.................................. 188,904 188,859 166,336
-------- -------- --------
Commitments and contingencies
Redeemable preferred stock:
8% Series A Convertible Preferred Stock, 6,571,450 shares
authorized, 5,148,570 issued and outstanding at December
31, 1997................................................ -- -- 16,665
Stockholders' equity:
Preferred stock, 43,428,550 shares authorized but
unissued................................................ -- -- --
Common stock, $0.001 par value, 60,000,000 shares
authorized, 17,236,134, 17,190,428 and 8,799,600 shares
issued and outstanding.................................. 17 17 9
Additional paid-in capital................................ 109,231 108,991 22,118
Accumulated deficit....................................... (58,604) (44,392) (12,463)
-------- -------- --------
50,644 64,616 9,664
Accumulated other comprehensive income.................... 178 817 --
Notes receivable from stockholders for issuance of common
stock................................................... (2,173) (2,173) (688)
-------- -------- --------
Total stockholders' equity......................... 48,649 63,260 8,976
-------- -------- --------
Total liabilities, redeemable preferred stock and
stockholders' equity............................. $237,553 $252,119 $191,977
======== ======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE> 67
MGC COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
<TABLE>
<CAPTION>
THREE MONTHS YEAR ENDED
ENDED MARCH 31, DECEMBER 31,
---------------------- --------------------------------
1999 1998 1998 1997 1996
---------- --------- ---------- --------- -------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Operating revenues:
Telecommunication services..... $ 8,401 $ 2,846 $ 18,249 $ 3,791 $ 1
---------- --------- ---------- --------- -------
Operating expenses:
Cost of operating revenues..... 8,483 2,371 17,129 3,928 305
Selling, general and
administrative.............. 7,727 2,562 17,877 6,440 841
Depreciation and
amortization................ 3,484 867 5,238 1,274 54
Write-off of purchased
software.................... -- -- -- -- 355
---------- --------- ---------- --------- -------
19,694 5,800 40,244 11,642 1,555
---------- --------- ---------- --------- -------
Loss from operations........ (11,293) (2,954) (21,995) (7,851) (1,554)
Other income (expense):
Gain on sale of investments.... 205 -- 223 -- --
Interest income................ 1,500 2,169 8,771 2,507 63
Interest expense............... (4,624) (5,505) (19,064) (5,492) --
---------- --------- ---------- --------- -------
Net loss.................... (14,212) (6,290) (32,065) (10,836) (1,491)
Accrued preferred stock
dividend....................... -- (444) -- (136) --
Net loss applicable to common
stockholders................... $ (14,212) $ (6,734) $ (32,065) $ (10,972) $(1,491)
========== ========= ========== ========= =======
Basic and diluted loss per share
of common stock................ $ (.83) $ (.76) $ (2.26) $ (1.30) $ (2.11)
========== ========= ========== ========= =======
Basic and diluted weighted
average shares outstanding..... 17,204,944 8,892,282 14,178,729 8,458,991 707,359
========== ========= ========== ========= =======
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE> 68
MGC COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY
(IN THOUSANDS, EXCEPT SHARE AMOUNTS)
<TABLE>
<CAPTION>
NOTES
REDEEMABLE RECEIVABLE FROM
PREFERRED STOCK COMMON STOCK ADDITIONAL STOCKHOLDERS FOR
--------------------- ------------------- PAID-IN ACCUMULATED ISSUANCE OF
SHARES AMOUNT SHARES AMOUNT CAPITAL DEFICIT COMMON STOCK
---------- -------- ---------- ------ ---------- ----------- -----------------
<S> <C> <C> <C> <C> <C> <C> <C>
BALANCE AT JANUARY 1, 1996......... -- $ -- 240,000 $-- $ 1 $ -- $ --
Common stock issued for services
contributed by stockholder....... -- -- 480,000 1 1 -- --
Common stock issued for cash....... -- -- 6,456,000 6 12,274 -- --
Net loss........................... -- -- -- -- -- (1,491) --
---------- -------- ---------- --- -------- -------- -------
BALANCE AT DECEMBER 31, 1996....... -- -- 7,176,000 7 12,276 (1,491) --
Common stock issued for cash....... -- -- 1,458,600 2 4,860 -- --
Common stock issued for notes
receivable....................... -- -- 165,000 -- 688 -- (688)
Proceeds from offering allocated to
warrants......................... -- -- -- -- 3,885 -- --
Warrants issued for common stock
commitment....................... -- -- -- -- 409 -- --
Net loss........................... -- -- -- -- -- (10,836) --
8% Series A Convertible Preferred
Stock issued for cash............ 5,148,570 16,665 -- -- -- -- --
Accrued preferred stock dividend... -- -- -- -- -- (136) --
---------- -------- ---------- --- -------- -------- -------
BALANCE AT DECEMBER 31, 1997....... 5,148,570 16,665 8,799,600 9 22,118 (12,463) (688)
Common stock issued for cash....... -- -- 100,680 -- 774 -- --
Common stock issued for notes
receivable....................... -- -- 189,000 -- 1,485 -- (1,485)
Warrants and options exercised for
common stock..................... -- -- 133,309 -- 14 -- --
8% Series A Convertible Preferred
Stock issued for cash............ 1,422,857 4,980 -- -- -- -- --
Accrued preferred stock dividend... -- -- -- -- -- (654) --
Common stock issued for cash....... -- -- 4,025,000 4 62,959 -- --
Conversion of preferred stock to
common stock..................... (6,571,427) (21,645) 3,942,839 4 21,641 790 --
Unrealized gain on investments
available-for-sale............... -- -- -- -- -- -- --
Net loss........................... -- -- -- -- -- (32,065) --
---------- -------- ---------- --- -------- -------- -------
BALANCE AT DECEMBER 31, 1998....... -- -- 17,190,428 17 108,991 (44,392) (2,173)
Unrealized loss on investments
available-for-sale............... -- -- -- -- -- -- --
Common stock issued................ -- -- 45,706 -- 240 -- --
Net loss........................... -- -- -- -- -- (14,212) --
---------- -------- ---------- --- -------- -------- -------
BALANCE AT MARCH 31, 1999
(unaudited)...................... -- $ -- 17,236,134 $17 $109,231 $(58,604) $(2,173)
========== ======== ========== === ======== ======== =======
<CAPTION>
ACCUMULATED
OTHER TOTAL
COMPREHENSIVE STOCKHOLDERS'
INCOME EQUITY
------------- --------------
<S> <C> <C>
BALANCE AT JANUARY 1, 1996......... $ -- $ 1
Common stock issued for services
contributed by stockholder....... -- 2
Common stock issued for cash....... -- 12,280
Net loss........................... -- (1,491)
---- --------
BALANCE AT DECEMBER 31, 1996....... -- 10,792
Common stock issued for cash....... -- 4,862
Common stock issued for notes
receivable....................... -- --
Proceeds from offering allocated to
warrants......................... -- 3,885
Warrants issued for common stock
commitment....................... -- 409
Net loss........................... -- (10,836)
8% Series A Convertible Preferred
Stock issued for cash............ -- --
Accrued preferred stock dividend... -- (136)
---- --------
BALANCE AT DECEMBER 31, 1997....... -- 8,976
Common stock issued for cash....... -- 774
Common stock issued for notes
receivable....................... -- --
Warrants and options exercised for
common stock..................... -- 14
8% Series A Convertible Preferred
Stock issued for cash............ -- --
Accrued preferred stock dividend... -- (654)
Common stock issued for cash....... -- 62,963
Conversion of preferred stock to
common stock..................... -- 22,435
Unrealized gain on investments
available-for-sale............... 817 817
Net loss........................... -- (32,065)
---- --------
BALANCE AT DECEMBER 31, 1998....... 817 63,260
Unrealized loss on investments
available-for-sale............... (639) (639)
Common stock issued................ -- 240
Net loss........................... -- (14,212)
---- --------
BALANCE AT MARCH 31, 1999
(unaudited)...................... $178 $ 48,649
==== ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE> 69
MGC COMMUNICATIONS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
THREE MONTHS YEAR ENDED
ENDED MARCH 31, DECEMBER 31,
-------------------- ---------------------------------
1999 1998 1998 1997 1996
-------- -------- -------- --------- --------
(UNAUDITED)
<S> <C> <C> <C> <C> <C>
Cash flows from operating activities:
Net loss................................... $(14,212) $ (6,290) $(32,065) $ (10,836) $ (1,491)
Adjustments to reconcile net loss to net
cash used in operating activities:
Depreciation and amortization............ 3,484 867 5,238 1,274 54
Write-off of purchased software.......... -- -- -- -- 355
Gain on sale of investments.............. (205) -- (223) -- --
Amortization of debt discount............ 144 144 575 144 --
Amortization of deferred financing
costs.................................. 207 210 867 198 --
Stock issued for services rendered....... -- -- -- -- 2
Changes in assets and liabilities:
Increase in accounts receivable, net..... (2,628) (1,442) (5,160) (1,190) (9)
(Increase) decrease in prepaid
expenses............................... (42) (46) 69 (254) (23)
Increase in other assets................. (307) (52) (32) (91) (5)
Increase in accounts payable -- trade.... 6,819 1,446 4,852 386 76
Increase in accrued interest and other
expenses............................... 6,129 4,981 1,695 5,879 99
-------- -------- -------- --------- --------
Net cash used in operating
activities.......................... (611) (182) (24,184) (4,490) (942)
-------- -------- -------- --------- --------
Cash flows from investing activities:
Purchase of property and equipment, net of
payables................................. (15,240) (9,795) (81,597) (20,207) (2,287)
Decrease in accounts payable-property
and equipment............................ (12,894) -- -- -- --
Purchase of investments held-to-maturity... -- (276) -- (57,710) --
Sale (purchase) of investments
available-for-sale, net.................. 23,294 -- (14,313) -- --
(Purchase) sale of restricted
investments.............................. (550) (792) 18,195 (57,574) --
-------- -------- -------- --------- --------
Net cash used in investing
activities.......................... (5,390) (10,863) (77,715) (135,491) (2,287)
-------- -------- -------- --------- --------
Cash flows from financing activities:
Proceeds from issuance of Senior Secured
Notes net of discount of $4,026.......... -- -- -- 155,974 --
Costs associated with issuance of Senior
Secured Notes and warrants............... -- (133) (133) (5,237) --
Proceeds from issuance of 8% Series A
Convertible Preferred Stock, net of
issuance costs........................... -- 4,980 4,980 16,665 --
Proceeds from issuance of warrants......... -- -- -- 3,885 --
(Payments) proceeds on other long term
debt, net................................ (153) (92) 133 (164) --
Proceeds from issuance of common stock..... 240 647 63,751 6,015 11,126
-------- -------- -------- --------- --------
Net cash provided by financing
activities.......................... 87 5,402 68,731 177,138 11,126
-------- -------- -------- --------- --------
Net (decrease) increase in cash........ (5,914) (5,643) (33,168) 37,157 7,897
Cash and cash equivalents at beginning of
period..................................... 11,886 45,054 45,054 7,897 --
-------- -------- -------- --------- --------
Cash and cash equivalents at the end of
period..................................... 5,972 39,411 $ 11,886 $ 45,054 $ 7,897
-------- -------- -------- --------- --------
Supplemental schedule of non-cash investing
and financing activities:
Stock issued for services rendered......... $ -- $ -- $ -- $ -- $ 2
======== ======== ======== ========= ========
Increase in property and equipment
purchases included in accounts/notes
payable -- property and equipment........ $ -- $ 876 $ 15,504 $ 2,434 $ 1,372
======== ======== ======== ========= ========
Stock issued for notes receivable.......... $ -- $ 1,485 $ 1,485 $ 688 $ --
======== ======== ======== ========= ========
Warrants issued as consideration in debt
offering capitalized as deferred
financing costs.......................... $ -- $ -- $ -- $ 409 $ --
======== ======== ======== ========= ========
Other disclosures:
Cash paid for interest net of amounts
capitalized.............................. $ -- $ 305 $ 19,192 $ 164 $ --
======== ======== ======== ========= ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-7
<PAGE> 70
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 1999 AND DECEMBER 31, 1998
(INFORMATION AS OF AND FOR THE THREE MONTHS ENDED MARCH 31, 1999 AND 1998 IS
UNAUDITED)
(1) PRINCIPLES OF CONSOLIDATION AND BASIS OF PRESENTATION
DESCRIPTION OF BUSINESS
The accompanying consolidated financial statements of MGC Communications,
Inc. (the "Company"), a Nevada corporation, include the accounts of the Company
and its wholly-owned subsidiaries, MGC Lease Corporation and MGC LJ.Net, Inc.
All significant inter-company balances have been eliminated.
The Company was organized on October 16, 1995 as a competitive local
exchange carrier to provide low cost alternative communication services to
residential and small business users through the utilization of Company owned
switches and network architecture leased from incumbent local exchange carriers.
During the year ended December 31, 1998, the Company operated in Las Vegas,
Atlanta, Chicago, southern Florida, and selected areas of southern California
including Los Angeles and San Diego with substantially all of its operating
revenues being derived from the Las Vegas, southern California, and Atlanta
operations.
THREE MONTHS ENDED MARCH 31, 1999 AND 1998
The financial statements for the three months ended March 31, 1999 and 1998
and the related amounts in the Notes to Consolidated Financial Statements are
unaudited, but in the opinion of management reflect all normal and recurring
adjustments necessary for a fair presentation of the results of those periods.
REVENUE RECOGNITION
The Company recognizes operating revenues from communication services in
the period the related services are provided. Due to current disputes and
pending arbitration and litigation, the Company has recognized switched access
revenues based on management's best estimate of the probable collections from
such revenue. For the three months ended March 31, 1999 and 1998 and the years
ended December 31, 1998, 1997 and 1996, the Company has recognized in operating
revenues switched access revenues of approximately $2,975,000, $1,239,000,
$7,378,000, $730,000 and $0, respectively. Included in trade accounts receivable
in the accompanying balance sheets as of March 31, 1999 and December 31, 1998
and 1997 are receivables related to switched access of approximately $5,604,000,
$3,590,000 and $730,000, respectively.
CASH AND CASH EQUIVALENTS
The Company considers short-term investments with a remaining maturity of
three months or less at the date of purchase to be cash equivalents.
RESTRICTED INVESTMENTS
Restricted investments consist of U.S. Treasury Notes which are restricted
in that they must be used for the repayment of interest on certain debt and are
stated at amortized cost plus accrued interest. Management designated these
investments as held-to-maturity securities in accordance with the provisions of
Statement of Financial Accounting Standards ("SFAS") No. 115, "Accounting for
Certain Investments in Debt and Equity Securities." The carrying value of the
restricted investments approximates the fair value.
F-8
<PAGE> 71
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
ADVERTISING COSTS
The Company expenses advertising costs in the period incurred. For the
years ended December 31, 1998, 1997 and 1996, the Company had expensed
advertising costs of $810,000, $125,000 and $0, respectively.
INVESTMENTS
Investments classified as available-for-sale at December 31, 1998 were
classified as held-to-maturity as of December 31, 1997. During the fourth
quarter of 1998, the Company sold investments, previously classified as
held-to-maturity, prior to their maturity date. In accordance with SFAS No. 115,
"Accounting for Certain Investments in Debt and Equity Securities," the
classification of these investments has been appropriately changed in the
accompanying consolidated financial statements.
Available-for-sale securities represent investments principally in
commercial paper and government securities. The commercial paper reflected as of
December 31, 1998 matures in March of 1999 and the government securities mature
periodically through September 30, 2001. The unamortized cost basis of these
investments at December 31, 1998 is approximately $72,246,000. The cost basis
for which the realized gain was calculated on available-for-sale securities was
$72,023,000 using the specific identification method.
PROPERTY AND EQUIPMENT
Property and equipment are carried at cost, less accumulated depreciation
and amortization. Direct and indirect costs of construction are capitalized, and
include $3,175,000 and $188,000 of interest costs related to construction during
1998 and 1997, respectively. Depreciation is computed using the straight-line
method over estimated useful lives beginning in the month an asset is put into
service.
Estimated useful lives of property and equipment are as follows:
<TABLE>
<S> <C>
Buildings................................ 40 years
Telecommunications and other switching
equipment.............................. 5-10 years
Computer hardware and software........... 3-5 years
Office furniture & equipment............. 3-5 years
Leasehold improvements................... the lesser of the estimated useful lives
or term of lease
</TABLE>
DEFERRED FINANCING COSTS
Deferred financing costs are amortized to interest expense over the life of
the related financing using the effective interest method.
INCOME TAXES
The Company has applied the provisions of SFAS No. 109, "Accounting for
Income Taxes," which requires the recognition of deferred tax assets and
liabilities for the consequences of temporary differences between amounts
reported for financial reporting and income tax purposes. SFAS No. 109 requires
recognition of a future tax benefit of net operating loss carryforwards and
certain other temporary differences to the extent that realization of such
benefit is more likely than not; otherwise, a valuation allowance is applied.
F-9
<PAGE> 72
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosure About Fair Value of Financial Instruments,"
requires all entities to disclose the fair value of financial instruments, both
assets and liabilities recognized and not recognized on the balance sheet, for
which it is practicable to estimate fair value. SFAS No. 107 defines fair value
of a financial instrument as the amount at which the instrument could be
exchanged in a current transaction between willing parties. At December 31, 1998
and 1997, the carrying value of all financial instruments (accounts receivable,
accounts payable and long-term debt) approximates fair value due to the short
term nature of the instruments or interest rates, which are comparable with
current rates.
LONG-LIVED ASSETS
Management periodically evaluates the carrying value of its long-lived
assets, including property, equipment and intangible assets, whenever events or
changes in circumstances indicate that the carrying value may not be
recoverable. To the extent the estimated future cash inflows attributable to the
asset, less estimated future cash outflows, is less than the carrying amount, an
impairment loss is recognized. Management believes no material impairment in the
value of long-lived assets exists at December 31, 1998 or 1997.
IMPACT OF RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1997, the FASB issued SFAS No. 130, "Reporting Comprehensive
Income." SFAS No. 130 requires companies to classify items of other
comprehensive income by their nature in a financial statement and display the
accumulated balance of other comprehensive income separately from retained
earnings, and is effective for financial statements issued for fiscal years
beginning after December 15, 1997. The Company has adopted SFAS No. 130 as
reflected in the accompanying consolidated financial statements.
In June 1997, the FASB issued SFAS No. 131, "Disclosure About Segments of
an Enterprise and Related Information." SFAS No. 131 establishes additional
standards for segment reporting in financial statements and is effective for
fiscal years beginning after December 15, 1997. The Company currently operates
as one segment.
The American Institute of Certified Public Accountants recently issued
Statement of Position ("SOP") 98-5, "Reporting the Costs of Start-Up
Activities." SOP 98-5 requires start-up costs, as defined, to be expensed as
incurred and is effective for financial statements for fiscal years beginning
after December 15, 1998. The Company currently expenses all start-up costs as
incurred and the application of SOP 98-5 will have no material impact on the
Company's consolidated financial statements.
CONCENTRATION OF SUPPLIERS
The Company currently leases its transport capacity from a limited number
of suppliers and is dependent upon the availability of collocation space and
fiber optic transmission facilities owned by the suppliers. The Company is
currently vulnerable to the risk of renewing favorable supplier contracts,
timeliness of the supplier in processing the Company's orders for customers and
is at risk with regard to regulatory agreements that govern the rates to be
charged to the Company.
F-10
<PAGE> 73
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
USE OF ESTIMATES
The preparation of the 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 these estimates.
RECLASSIFICATION
Certain reclassifications, which have no effect on net income, have been
made in the prior period financial statements to conform to the current
presentation.
(2) PLAN OF OPERATIONS
In September 1997, the Company completed an offering of units consisting of
in the aggregate $160 million of 13% Senior Secured Notes due in 2004 (the
"Notes") and warrants to purchase shares of common stock, as discussed in Note
4. During May and June 1998, the Company sold an aggregate of 4,025,000 shares
of common stock at $17.00 per share as discussed in Note 5. The Company expects
to continue its expansion into new markets and its development of new services.
The Company expects to fund its capital requirements through existing resources,
debt or equity financing and internally generated funds.
Management recognizes the Company must generate additional resources or
consider modifications to its expansion plans. To the extent the Company is
unable to achieve its funding plan, management has contingency plans which
include curtailing capital expenditure activities, reducing infrastructure costs
associated with expansion and development plans and achieving profitable
operations as soon as practicable. However, no assurance can be given the
Company will be successful in raising additional capital, achieving profitable
results, or entering into new markets.
Management also recognizes certain risks are inherent to the industry. Such
risks and assumptions include, but are not limited to, the Company's ability to
successfully market its existing and proposed services to current and new
customers in existing and planned markets, successfully develop commercially
viable data and Internet offerings, access markets, install switches and obtain
suitable locations for its switches, negotiate suitable interconnect agreements
with the ILECs, obtain an acceptable level of cooperation from the ILECs, all in
a timely manner, at reasonable cost and on satisfactory terms and conditions, as
well as competitive, regulatory, legislative and judicial developments that
could materially affect the Company's future results.
F-11
<PAGE> 74
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(3) PROPERTY AND EQUIPMENT
Property and equipment consist of the following (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
MARCH 31, -------------------
1999 1998 1997
----------- -------- -------
(UNAUDITED)
<S> <C> <C> <C>
Buildings and property........................ $ 5,036 $ 2,653 $ 278
Switching equipment........................... 88,538 57,045 21,621
Leasehold improvements........................ 774 740 956
Computer hardware and software................ 2,691 2,218 1,404
Office equipment and vehicles................. 1,065 901 300
-------- -------- -------
98,104 63,557 24,559
Less accumulated depreciation and
amortization................................ (10,039) (6,555) (1,317)
-------- -------- -------
88,065 57,002 23,242
Switching equipment under construction........ 40,071 59,378 1,375
-------- -------- -------
Net property and equipment.................. $128,136 $116,380 $24,617
======== ======== =======
</TABLE>
(4) DEBT
Long-term borrowings at December 31, 1998 and 1997 consist of the
following:
<TABLE>
<CAPTION>
DECEMBER 31,
--------------------
1998 1997
-------- --------
(IN THOUSANDS)
<S> <C> <C>
13% Senior Secured Notes, due October 1, 2004, net of
unamortized discount of $3,307 and $3,882............... $156,693 $156,118
10% note payable in monthly installments through February
1999.................................................... 225 441
Other..................................................... 377 78
-------- --------
157,295 156,637
Less current portion...................................... (332) (381)
-------- --------
$156,963 $156,256
======== ========
</TABLE>
F-12
<PAGE> 75
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Maturities of long-term debt for each of the next six years ending December
31, consist of the following:
<TABLE>
<CAPTION>
(IN THOUSANDS)
<S> <C>
1999...................................................... $ 332
2000...................................................... 174
2001...................................................... 96
2002...................................................... --
2003...................................................... --
2004...................................................... 156,693
--------
$157,295
========
</TABLE>
In September 1997, the Company completed an offering of units consisting of
in the aggregate $160 million of 13% Senior Secured Notes due in 2004 and
warrants to purchase 774,720 shares of common stock (collectively the "1997
Offering").
The Notes bear interest at the rate of 13% per annum, payable semi-annually
in arrears on April 1 and October 1, commencing April 1, 1998. As set forth in
the Indenture pursuant to which the Notes were issued the Company is required to
hold in a trust account sufficient funds to provide for payment in full of
interest on the Notes through October 1, 2000. The accompanying consolidated
financial statements reflect approximately $39.4 million as restricted
investments as security for the interest payments on the Notes. In addition, the
Notes are secured by a security interest in certain telecommunications equipment
owned by the Company or which may be acquired in the future. As of December 31,
1998, the Notes were secured by a security interest in telecommunications
equipment with a net book value of $85.3 million.
In conjunction with the 1997 Offering, the Company engaged an
investment-banking firm that determined a value for each warrant and share of
common stock. Consistent with this determination, the Company has allocated a
portion of the 1997 Offering proceeds to the warrants based on a value of $4.68
per share of common stock less the exercise price of $.02 per share specified in
the warrant agreement.
The warrants are currently exercisable and expire on October 1, 2004. The
agreement pursuant to which the warrants were issued required an anti-dilution
adjustment if the November 1997 preferred stock offering was consummated at a
price less than $5.00 per share. As further discussed in Note 5, the Company
completed the November 1997 preferred stock offering for $3.50 per share.
Accordingly, the warrants issued in connection with the 1997 Offering were
increased from 774,200 to 862,923 and have been reflected in the accompanying
consolidated financial statements as of December 31, 1998 and 1997. Expenses
allocated to the warrants in connection with the 1997 Offering were $141,000.
In conjunction with the 1997 Offering, certain persons deposited an
aggregate of $15.0 million in escrow (the "Common Stock Commitment"), which
funds were to have been applied to the purchase of shares of Common Stock in the
event the Company failed to sell at least $15.0 million of preferred stock
within a certain period of time. Since sufficient preferred stock was issued
within the time period, the investors received a return of their funds
contributed to escrow. As a commitment fee for the Common Stock Commitment, the
Company issued to all such persons contributing to the escrow funds warrants to
purchase an aggregate of 90,000 shares of Common Stock at $.02 per share.
F-13
<PAGE> 76
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company has recorded the commitment fee as non-cash consideration in
connection with the 1997 Offering. The value of the warrants issued as a
commitment fee was determined based on a value of the Company's common stock at
$4.68 per share less the exercise price of $.02 per share specified in the
warrant agreement. All such warrants were exercised in January and February
1998.
The Notes may be redeemed at the option of the Company, in whole or in
part, on or after October 1, 2001, at a premium declining to par in 2003, plus
accrued and unpaid interest and liquidated damages, if any, through the
redemption date as follows:
<TABLE>
<CAPTION>
YEAR PERCENTAGE
---- ----------
<S> <C>
2001................................................. 106.50
2002................................................. 103.25
2003 and thereafter.................................. 100.00
</TABLE>
In the event of a sale by the Company prior to October 1, 2000 of its
capital stock in one or more equity offerings, up to a maximum of 35% of the
aggregate principal amount of the Notes originally issued may, at the option of
the Company, be redeemed from the net cash proceeds at a redemption price equal
to 113% of the principal amount, plus accrued and unpaid interest and liquidated
damages, if any, to the redemption date, provided at least 65% of the aggregate
principal amount of Notes originally issued remains outstanding immediately
after the occurrence of such redemption. As of the date of these consolidated
financial statements, management has no intention of redeeming the Notes prior
to their stated redemption date.
The Indenture contains certain covenants that among other things, limit the
ability of the Company and its restricted subsidiaries to incur additional
indebtedness and issue preferred stock, pay dividends or make other
distributions, repurchase equity interests or subordinated indebtedness, engage
in sale and lease back transactions, create certain liens, enter into certain
transactions with affiliates, sell assets of the Company or its restricted
subsidiaries, conduct certain lines of business, issue or sell equity interests
of the Company's restricted subsidiaries or enter into certain mergers and
consolidations. As of December 31, 1998, management believes it is in compliance
with all debt covenants.
In conjunction with the 1997 Offering, the authorized capital stock of the
Company was increased to 60,000,000 shares of common stock, $.001 par value per
share, and 50,000,000 shares of preferred stock, $.001 par value per share.
In January 1998, the Company filed a registration statement offering to
exchange the Notes for 13% Series B Senior Secured Notes due 2004 under the
Securities Act of 1933, as amended. Terms of the 13% Series B Senior Secured
Notes due 2004 are substantially the same as the Notes. The exchange was
consummated in March 1998.
Associated with the issuance of the Notes, expenses of $68,000 were paid to
a related party for charter services in 1997.
(5) REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY
COMMON STOCK
On December 6, 1996, the Board of Directors approved a four-hundred-for-one
stock split, effected in the form of a stock dividend distributed on December
31, 1996 to shareholders of record as of June 8, 1996. All share and per share
data presented in the consolidated financial statements and notes thereto have
been retroactively restated to give effect to this stock split.
F-14
<PAGE> 77
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
During 1995, in exchange for expending cash to incorporate the Company, a
shareholder received 240,000 shares of $.001 par value common stock valued at
$.0042 per share. The Company capitalized the value of the issued shares as
organization costs included in other assets in the accompanying consolidated
financial statements, which costs are being amortized over 60 months using the
straight-line method.
In April 1996, the Company issued 480,000 shares of $.001 par value common
stock valued at $.0042 per share in exchange for services rendered by a
stockholder.
During 1996, NevTEL LLC ("LLC") was formed for the purpose of funding the
development stage of MGC Communications, Inc. In June 1996, the Company and LLC
entered into an agreement whereby LLC would acquire 3,696,000 shares of $.001
par value common stock of the Company for $.83 per share. The agreement called
for LLC to advance funds for operating expenses incurred by the Company (to be
applied against the purchase price of the stock) until the Company produced
operating revenues, at which time the remaining purchase price would be remitted
to the Company, the Company's common stock would be issued to LLC owners and LLC
would terminate. The agreement stipulated that the funds advanced for operating
expenses were to be paid back to LLC if the Company did not generate operating
revenue by December 31, 1996. The Company began revenue generating activities in
December 1996. The shares were issued to LLC owners on December 31, 1996, at
which time LLC terminated and the remaining purchase price was owed to the
Company. Such amount was transferred to the Company in February 1997 and is
classified as amounts receivable for shares issued at December 31, 1996.
In December 1996, the Company offered 4,068,600 shares of $.001 par value
common stock at $3.33 per share through a private placement. In connection with
this offering, the Company issued 1,308,600 shares and 2,760,000 shares of $.001
par value common stock and received proceeds of $4,362,000 and $9,200,000 during
the years ended December 31, 1997 and 1996, respectively.
In June 1997, the Company approved agreements with two key members of
management granting them rights to purchase a total of 150,000 shares at $3.33
per share and 165,000 shares at $4.17 per share. In both cases, the Company
retains the right to repurchase these shares at their cost in the event of
termination of employment for any reason and has agreed to finance the purchase
price of the shares purchased at $4.17 per share over a period of three years.
During September 1997, the members of management exercised their rights and the
respective aforementioned shares were issued. The Company received $500,000 for
the 150,000 shares issued at $3.33 per share. The $688,000 owed to the Company
for the 165,000 shares issued at $4.17 per share has been classified in the
accompanying consolidated statements of redeemable preferred stock and
stockholders' equity as notes receivable from stockholders for issuance of
common stock.
During 1998, the Company issued 100,680 shares of $.001 par value common
stock at prices ranging from $5.83 to $8.33 per share, for total proceeds to the
Company of $774,000.
During 1998, the Company approved agreements with 11 key members of
management to purchase a total of 189,000 shares of common stock. The purchase
price of these shares ranged from $5.83 to $8.33 per share. In each case, the
Company retains the right to repurchase these shares at their cost in the event
of termination of employment for any reason and has agreed to finance a portion
of the purchase price of the shares over a period of three years. The $1,485,000
owed to the Company is classified in the accompanying statements of redeemable
preferred stock and stockholders' equity as notes receivable from stockholders
for issuance of common stock.
F-15
<PAGE> 78
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
During May and June 1998, the Company sold 4,025,000 shares of common stock
at $17.00 per share pursuant to a registration statement on Form S-1, which was
declared effective by the Securities and Exchange Commission on May 11, 1998. In
connection with the initial public offering of the Company's common stock, the
Company effected a six for ten reverse stock split, which has been reflected in
the accompanying consolidated financial statements. In addition to the reverse
stock split, the Company's 6,571,427 outstanding shares of 8% Series A
Convertible Preferred Stock (the "Series A Preferred Stock") as discussed below,
were converted to 3,942,839 shares of the Company's common stock upon completion
of the initial public offering. The conversion of the Series A Preferred Stock
has been reflected in the accompanying consolidated financial statements.
REDEEMABLE PREFERRED STOCK
The Company has authorized the issuance of up to 50,000,000 shares of
preferred stock. In November 1997, the Company designated 6,571,450 shares as 8%
Series A Convertible Preferred Stock.
In November 1997, the Company completed a private placement offering in
which 5,148,570 shares of the Series A Preferred Stock were issued at $3.50 per
share, for total proceeds to the Company of approximately $16.7 million, net of
expenses.
In January 1998, the Company completed an additional private placement
offering in which 1,422,857 shares of Series A Preferred Stock were issued at
$3.50 per share for total proceeds to the Company of approximately $5.0 million,
net of expenses. The terms of the offering were substantially identical to those
of the previous preferred stock offering.
Each share of Series A Preferred Stock was automatically converted into
common stock on a six for ten basis upon the consummation of the Company's IPO.
In accordance with the terms of the Series A Preferred Stock, the accrued
dividends were reversed at the time of conversion.
(6) STOCK OPTION PLAN
In June 1996, the Company adopted a stock option plan which allows the
Board of Directors to grant incentives to employees in the form of incentive
stock options and non-qualified stock options. As of December 31, 1997, the
Company had reserved 1,440,000 shares of common stock to be issued under the
plan. In March 1998, the Board of Directors approved an additional 1,200,000
shares of common stock to be issued under the plan.
In July 1998, the Company filed a registration statement on Form S-8 to
register the shares of the Company's common stock reserved for issuance under
the MGC Communications, Inc. Stock Option Plan.
Under the plan, substantially all options have been granted to employees at
a price equal to the then-current market price, as estimated by management, and
vest primarily over a 5-year period. All options expire within ten years of the
date of grant.
F-16
<PAGE> 79
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Stock option transactions during 1998, 1997 and 1996 are as follows:
<TABLE>
<CAPTION>
WEIGHTED
AVERAGE
NUMBER EXERCISE
OF SHARES PRICE
--------- --------
<S> <C> <C>
Outstanding at December 31, 1995.......................... -- --
Granted................................................... 811,860 $1.35
Canceled.................................................. (30,000) $1.67
---------
Outstanding at December 31, 1996.......................... 781,860 $1.35
Granted................................................... 274,560 $5.78
Canceled.................................................. (3,300) $5.08
---------
Outstanding at December 31, 1997.......................... 1,053,120 $2.50
Granted................................................... 865,700 $8.48
Exercised................................................. (7,380) $1.77
Canceled.................................................. (85,240) $5.84
---------
Outstanding at December 31, 1998.......................... 1,826,200 $5.18
=========
Exercisable at December 31, 1996.......................... 11,760 $3.33
=========
Exercisable at December 31, 1997.......................... 165,720 $1.47
=========
Exercisable at December 31, 1998.......................... 378,660 $2.07
=========
</TABLE>
For options granted during the year ended December 31, 1998, the weighted
average fair value of options on the date of grant, estimated using the
Black-Scholes option pricing model, was $6.70 using the following assumptions:
dividend yield of 0%; expected option life of 6.5 years; and risk free interest
rate of 5.06% and an expected volatility of 80.5%.
The weighted average fair value of the options issued during the years
ended December 31, 1997 and 1996, substantially all of which were granted at a
price equal to the then current market price as estimated by management, was
estimated to be $4.03 and $.92, respectively, using an option pricing model with
the following assumptions: dividend yield of 0%; expected option life of 6.5
years; and risk free interest rate at December 31, 1997 and 1996 of 5.06% and
6.12%, respectively.
The following table summarizes information about stock options outstanding
at December 31, 1998:
<TABLE>
<CAPTION>
WEIGHTED
NUMBER AVERAGE WEIGHTED NUMBER WEIGHTED
OUTSTANDING REMAINING AVERAGE EXERCISABLE AVERAGE
RANGE OF AT DEC. 31, CONTRACTUAL EXERCISE AT DEC. 31, EXERCISE
EXERCISE PRICE 1998 LIFE PRICE 1998 PRICE
- ---------------- ----------- ----------- -------- ----------- --------
<S> <C> <C> <C> <C> <C>
$0.83 to $3.50 745,980 7.38 years $ 1.33 320,400 $1.37
$5.00 to $6.50 488,920 8.97 years $ 5.99 56,760 $5.84
$7.50 to $10.00 496,800 9.58 years $ 8.45 1,500 $8.33
$12.50 to $17.00 94,500 9.44 years $14.10 -- $ --
--------- -------
$0.83 to $17.00 1,826,200 8.51 years $ 5.18 378,660 $2.07
========= =======
</TABLE>
F-17
<PAGE> 80
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The Company applied Accounting Principles Board Opinion No. 25 in
accounting for its plan. No compensation expense was recognized for the years
ended December 31, 1998, 1997 and 1996. Had the Company determined compensation
expense using the fair value based method defined in SFAS No. 123, the Company's
loss for the years then ended would have increased by $565,000, $7,000 and
$10,000, respectively.
(7) LOSS PER SHARE
SFAS No. 128, "Earnings Per Share," requires the Company to calculate its
earnings per share based on basic and diluted earnings per share, as defined.
Basic and diluted loss per share for the years ended December 31, 1998, 1997 and
1996 were computed by dividing net loss applicable to common stockholders by the
weighted average number of shares of common stock outstanding.
The Company's warrants, preferred stock and stock options granted and
issued during 1998, 1997 and 1996, and outstanding as of December 31, 1998 and
1997, are antidilutive and have been excluded from the diluted loss per share
calculation for the years ended December 31, 1998, 1997 and 1996. Had the
Company shown the effects of dilution, the warrants, preferred stock and options
would have added an additional 1.8 million, 1.6 million and 0.5 million shares
to the weighted average shares outstanding for the years ended December 31,
1998, 1997 and 1996, respectively.
(8) INCOME TAXES
The net deferred tax asset as of December 31, 1998 and 1997 is as follows
(in thousands):
<TABLE>
<CAPTION>
1998 1997
-------- -------
<S> <C> <C>
Deferred Tax Asset
Net operating loss carry-forward......................... $ 17,804 $ 4,529
Start-up expenditures.................................... 164 220
Other.................................................... 534 141
-------- -------
18,502 4,890
Less: valuation allowance................................ (15,517) (4,309)
-------- -------
Net deferred tax asset................................... 2,985 581
-------- -------
Deferred Tax Liability
Excess of tax depreciation over book..................... 2,769 481
Other.................................................... 216 100
-------- -------
Net deferred tax liability............................... 2,985 581
-------- -------
Net........................................................ $ -- $ --
======== =======
</TABLE>
SFAS No. 109 requires recognition of the future tax benefit of these assets
to the extent realization of such benefits is more likely than not; otherwise, a
valuation allowance is applied. At December 31, 1998 and 1997, the Company
determined that $15,517,000 and $4,309,000, respectively, of tax benefits did
not meet the realization criteria because of the Company's historical operating
results. Accordingly, a valuation allowance was applied to reserve against the
applicable deferred tax asset.
At December 31, 1998 and 1997, the Company had net operating loss
carry-forwards available for income tax purposes of approximately $50,869,000
and $12,940,000, respectively, which expire principally from 2011 to 2018.
F-18
<PAGE> 81
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
(9) COMMITMENTS AND CONTINGENCIES
LEASE OBLIGATIONS
The Company has entered into various leasing agreements for its switching
facilities, offices, and office equipment. The facility which houses the
Company's headquarters in Las Vegas is owned by an entity principally owned by
two of the Company's principal stockholders and directors. Management believes
the terms and conditions of this agreement are equal to the terms which would be
available from an unaffiliated lessor.
Future minimum lease obligations in effect as of December 31, 1998 are as
follows (in thousands):
<TABLE>
<S> <C>
Payments during the year ending December 31:
1999...................................................... $1,389
2000...................................................... 1,272
2001...................................................... 1,166
2002...................................................... 977
2003...................................................... 159
Thereafter................................................ 342
------
$5,305
======
</TABLE>
Rent expense was $850,000, $207,000 and $33,000 for the years ended
December 31, 1998, 1997 and 1996, respectively, of which $614,000 was paid to a
related party during 1998.
PURCHASE COMMITMENTS
In the ordinary course of business, the Company enters into purchase
agreements with its vendors of telecommunications equipment. As of March 31,
1999 and December 31, 1998, the Company had a total for all vendors of
approximately $19.0 million and $15.4 million, respectively, of remaining
purchase commitments for purchases of switching equipment.
LITIGATION
The Company is party to various legal proceedings, most of which relate to
routine matters incidental to its business. Management does not believe that the
outcome of such proceedings will have a material adverse effect on the Company's
financial position or results of operations.
INTERCONNECTION AGREEMENTS
The Company has interconnection agreements with five incumbent local
exchange carriers. These agreements expire on various dates through July 2000.
The Company is dependent on the cooperation of the incumbent local exchange
carriers to provide access service for the origination and termination of its
local and long distance traffic. Historically, these access charges can make up
a significant percentage of the overall cost of providing these services. To the
extent the access services of the local exchange carriers are used, the Company
and its customers are subject to the quality of service, equipment failures and
service interruptions of the local exchange carriers.
(10) RISKS AND UNCERTAINTIES
Certain rates in the interconnection agreements have been established by
the Federal Communications Commission (FCC) and are subject to adjustment upon
final negotiations. The Company has recorded costs of operating revenues related
to the Sprint (Nevada) interconnection
F-19
<PAGE> 82
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
agreement at amounts which are management's best estimates of the probable
outcome of the final negotiated rates, which are less than the FCC established
rates. The difference, which totals approximately $2.2 million, $1.7 million and
$1.1 million at March 31, 1999, December 31, 1998 and 1997, respectively, has
not been recorded in the accompanying consolidated financial statements.
Management believes that the resolution of this matter will not have an adverse
effect on the Company's consolidated financial position, results of operations,
or liquidity.
(11) RELATED PARTY TRANSACTION
In May 1997, the Company entered into an agreement with a company, the
owner of which is a former officer and current stockholder of the Company, for
the purchase of certain computer software pursuant to which the Company paid the
contract price of $600,000 in six equal monthly installments beginning July 1,
1997. In addition, the Company has paid $656,000 and $40,000 during 1998 and
1997, respectively, under such agreement to support and maintain the Company's
proprietary operations support system. Management believes the terms and
conditions of this agreement are equal to the terms which would be available
from an unaffiliated party.
(12) SUBSEQUENT EVENTS (UNAUDITED)
PREFERRED STOCK OFFERING
On April 5, 1999, the Company entered into a Securities Purchase Agreement
with Providence Equity Partners III L.P. ("Providence"), JK&B Capital III L.P.
("JK&B III") and Wind Point Partners III L.P. ("Wind Point") under which
Providence, JK&B III and Wind Point and their affiliates (the "Purchasers")
agreed to purchase 5,277,779 shares of newly issued Series B Convertible
Preferred Stock ("Series B Preferred Stock") at $9.00 per share(the
"Transaction") for a total consideration of $47.5 million. Net proceeds to the
Company were approximately $46.5 million.
Dividends accrue on the Series B Preferred Stock at the rate of 10% per
annum, are cumulative and are payable in preference to any dividends that may be
paid with respect to the Company's Common Stock. Beginning 201 days after the
closing, the Company may elect to terminate the accrual of dividends if the
Company's stock price exceeds $27.00 per share (subject to certain adjustments)
for 20 consecutive trading days (the "Market Threshold") within three years
after the closing. The Transaction was consummated on May 4, 1999. The Series B
Preferred Stock will vote along with the Common Stock on an as-converted basis.
The holders of the Series B Preferred Stock have the right to nominate one
or more directors depending on the size of the Company's Board of Directors and
the percentage of the Company's stock represented by the outstanding Series B
Preferred Stock. The holders of the Series B Preferred Stock also have the right
to have their Board representative serve on each committee of the Company's
Board and on the Board of each of the Company's subsidiaries.
The Series B Preferred Stock is convertible into Common Stock at any time
at the option of the holder. Initially, each share of Series B Preferred Stock
is convertible into one share of Common Stock. The conversion price is subject
to adjustment as a result of stock splits, stock dividends and certain other
issuances of additional stock.
After the earlier of May 24, 2000 or the date on which the holders of
Series B Preferred Stock exercise their demand registration rights, the Company
has the right to require the conversion of the Series B Preferred Stock if the
Company's stock price exceeds the Market Threshold referenced
F-20
<PAGE> 83
MGC COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
above. If the Company requires conversion within three years after closing, no
accrued dividends will be paid.
PUBLIC UTILITIES COMMISSION ORDER
In May 1999, the Nevada Public Utilities Commission (the "NPUC") issued an
order establishing loop costs from Sprint that adversely affects the Company's
previously estimated costs of operating revenues (see Note 10). On May 26, 1999,
the Company petitioned the NPUC for reconsideration. Although the ultimate
resolution of this matter remains uncertain pending such reconsideration by the
NPUC, management's best estimate of the most probable outcome is to incur
additional costs of operating revenues of $.7 million, however the NPUC's order
may cause the Company to recognize additional costs of operating revenues
totaling a maximum of $1.3 million. Although the ultimate outcome of this
contingency is unknown, the Company will recognize additional costs of operating
revenues of $.7 million during the quarter ended June 30, 1999 to reflect the
probable outcome.
F-21
<PAGE> 84
- ------------------------------------------------------
- ------------------------------------------------------
WE HAVE NOT AUTHORIZED ANY DEALER, SALESPERSON OR OTHER PERSON TO GIVE ANY
INFORMATION OR REPRESENT ANYTHING NOT CONTAINED IN THIS PROSPECTUS. YOU MUST NOT
RELY ON ANY UNAUTHORIZED INFORMATION. THIS PROSPECTUS IS NOT AN OFFER TO SELL
AND IS NOT A SOLICITATION OF AN OFFER TO BUY THESE SECURITIES IN ANY
JURISDICTION WHERE THE OFFER OR SALE IS NOT PERMITTED. THE INFORMATION IN THIS
PROSPECTUS IS CORRECT ONLY AS OF THE DATE OF THIS PROSPECTUS.
--------------------------------
TABLE OF CONTENTS
--------------------------------
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Prospectus Summary.................. 3
Risk Factors........................ 8
How We Intend to Use the Proceeds Of
this Offering..................... 20
Dividend Policy..................... 20
Capitalization...................... 21
Dilution............................ 22
Selected Consolidated Financial and
Operating Data.................... 23
Management's Discussion and Analysis
of Financial Condition and Results
of Operations..................... 24
Business............................ 29
Management.......................... 48
Principal and Selling
Stockholders...................... 51
Description of Securities........... 53
Underwriting........................ 59
Legal Matters....................... 60
Experts............................. 61
Where You Can Find More
Information....................... 61
Index to Financial Statements....... F-1
</TABLE>
- ------------------------------------------------------
- ------------------------------------------------------
- ------------------------------------------------------
- ------------------------------------------------------
SHARES
MGC COMMUNICATIONS, INC.
COMMON STOCK
--------------------
PROSPECTUS
--------------------
BEAR, STEARNS & CO. INC.
GOLDMAN, SACHS & CO.
ING BARING FURMAN SELZ LLC
, 1999
- ------------------------------------------------------
- ------------------------------------------------------
<PAGE> 85
MGC COMMUNICATIONS, INC.
PART II
INFORMATION NOT REQUIRED IN PROSPECTUS
ITEM 14. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION.
The fees and expenses to be paid in connection with this offering are as
follows:
<TABLE>
<S> <C>
SEC filing fee.............................................. $ 41,700.00
NASD filing fee............................................. 17,750.00
NASDAQ listing fee.......................................... 17,500.00
Accounting fees and expenses*............................... 150,000.00
Legal fees and expenses*.................................... 150,000.00
Printing expenses*.......................................... 150,000.00
Miscellaneous*.............................................. 123,050.00
-----------
Total............................................. $650,000.00
===========
</TABLE>
- ---------------
* Estimated
ITEM 15. INDEMNIFICATION OF DIRECTORS AND OFFICERS
The Articles of Incorporation of the Company provide that directors of the
Company will not be personally liable for monetary damages to the Company for
certain breaches of their fiduciary duty as directors to the fullest extent
allowable by Nevada law. Under current Nevada law, directors would remain liable
for: (i) acts or omissions which involve intentional misconduct, fraud or a
knowing violation of law, and (ii) approval of certain illegal dividends or
redemptions. In appropriate circumstances, equitable remedies or nonmonetary
relief, such as an injunction, will remain available to a stockholder seeking
redress from any such violation. In addition, the provision applies only to
claims against a director arising out of his role as a director and not in any
other capacity (such as an officer or employee of the Company).
The Company also has the obligation, pursuant to its By-laws, to indemnify
any director or officer of the Company for all expenses incurred by them in
connection with any legal action brought or threatened against such person for
or on account of any action or omission alleged to have been committed while
acting in the course and scope of the person's duties, if the person acted in
good faith and in a manner which the person reasonably believed to be in or not
opposed to the best interests of the Company, and with respect to criminal
actions, had no reasonable cause to believe the person's conduct was unlawful,
provided that such indemnification is made pursuant to then existing provisions
of Nevada General Corporation Law at the time of any such indemnification.
II-1
<PAGE> 86
ITEM 16. EXHIBITS
EXHIBIT INDEX
<TABLE>
<CAPTION>
EXHIBIT NO. AND DESCRIPTION
---------------------------
<S> <C>
1.1 Underwriting Agreement (to be filed by amendment).
4.1 Articles of Incorporation and Amendments.(1)
4.2 By-laws.(1)
4.3 Stockholders' Agreement dated as of November 26, 1997, among
the Company, Maurice J. Gallagher, Jr., Nield J. Montgomery
and certain investors identified therein.(1)
4.4 Indenture dated as of September 29, 1997, between the
Company and Marine Midland Bank, as Trustee.(1)
4.5 Warrant Registration Rights Agreement dated as of September
29, 1997, among the Company, Bear, Stearns & Co. Inc. and
Furman Selz LLC.(1)
4.6 Certificate of Designation of Series B Convertible Preferred
Stock.(2)
4.7 Registration Rights Agreement dated May 4, 1999, among the
Company and the purchasers of Series B Convertible Preferred
Stock.(2)
4.8 Securityholders' Agreement dated April 5, 1999, among the
Company, the purchasers of Series B Convertible Preferred
Stock and certain stockholders of the Company.(2)
5.1 Legal Opinion of Ellis, Funk, Goldberg, Labovitz & Dokson,
P.C. (to be filed by amendment).
23.1 Consent of Arthur Andersen LLP.
23.2 Consent of KPMG LLP.
</TABLE>
- ---------------
(1) Incorporated by reference to the Company's Registration Statement on Form
S-4, registration number 333-33837, filed with the Commission on August 18,
1997, and amendments thereto.
(2) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for
the quarter ended March 31, 1999, Commission File No. 0-26914, filed with
the Commission on May 17, 1999.
ITEM 17. UNDERTAKINGS.
The undersigned Registrant hereby undertakes that for purposes of
determining any liability under the Securities Act of 1933:
(1) the information omitted from the form of prospectus filed as part
of this registration statement in reliance upon Rule 430A and contained in
a form of prospectus filed by the Registrant pursuant to Rule 424(b)(1) or
(4) or 497(h) under the Securities Act shall be deemed to be part of this
registration statement as of the time it was declared effective.
(2) each post-effective amendment that contains a form of prospectus
shall be deemed to be a new registration statement relating to the
securities offered therein, and the offering of such securities at that
time shall be deemed to be the initial bona fide offering thereof.
(3) each filing of the Registrant's annual report pursuant to Section
13(a) or Section 15(d) of the Securities Exchange Act of 1934 (and, where
applicable, each filing of an employee benefit plan's annual report
pursuant to Section 15(d) of the Securities Exchange Act of 1934) that is
incorporated by reference in the registration statement shall be deemed to
be a new registration statement relating to the securities offered therein,
and the offering of such securities at that time shall be deemed to be the
initial bona fide offering thereof.
Insofar as indemnification for liabilities arising under the Securities Act
of 1933 may be permitted to directors, officers and controlling persons of the
Registrant pursuant to the foregoing provisions, or otherwise, the Registrant
has been advised that in the opinion of the Securities and Exchange Commission
such indemnification is against public policy as expressed in the Securities Act
II-2
<PAGE> 87
and is, therefore, unenforceable. In the event that a claim for indemnification
against such liabilities (other than the payment by the Registrant of expenses
incurred or paid by a director, officer or controlling person of the Registrant
in the successful defense of any action, suit or proceeding) is asserted by such
director, officer or controlling person in connection with the securities being
registered, the Registrant will, unless in the opinion of its counsel the matter
has been settled by controlling precedent, submit to a court of appropriate
jurisdiction the question whether such indemnification by it is against public
policy as expressed in the Securities Act and will be governed by the final
adjudication of such issue.
II-3
<PAGE> 88
SIGNATURES
Pursuant to the requirements of the Securities Act of 1933, the Registrant
certifies that it has reasonable grounds to believe that it meets all of the
requirements for filing on Form S-3 and has duly caused this Registration
Statement to be signed on its behalf by the undersigned, thereunto duly
authorized, in the City of Las Vegas, State of Nevada on the 27th day of May,
1999.
MGC COMMUNICATIONS, INC.
By: /s/ NIELD J. MONTGOMERY
--------------------------------------
Nield J. Montgomery, President and
Chief Executive Officer
KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears
below constitutes and appoints NIELD J. MONTGOMERY and LINDA M. SUNBURY and
either of them (with full power in each to act alone), his true and lawful
attorneys-in-fact, with full power of substitution, for him and in his name,
place and stead, in any and all capacities, to sign any and all amendments
(including post-effective amendments) to this Registration Statement, and to
file the same with all exhibits thereto, and other documents in connection
therewith including, without limitation, any registration statement for the same
offering that is to be effective upon filing pursuant to Rule 462(b) under the
Securities Act of 1933, as amended, with the Securities and Exchange Commission,
hereby ratifying and confirming all that said attorneys-in-fact, or their
substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Act of 1933, this
Registration Statement has been signed by the following persons in the
capacities indicated.
<TABLE>
<S> <C> <C>
/s/ NIELD J. MONTGOMERY May 27, 1999
- ---------------------------------------------------
Nield J. Montgomery, President
(Chief Executive Officer) and Director
/s/ LINDA M. SUNBURY May 27, 1999
- ---------------------------------------------------
Linda M. Sunbury, Senior Vice President
(Chief Financial Officer and Principal Accounting
Officer)
/s/ MAURICE J. GALLAGHER, JR. May 27, 1999
- ---------------------------------------------------
Maurice J. Gallagher, Jr., Director
(Chairman of the Board)
/s/ TIMOTHY P. FLYNN May 27, 1999
- ---------------------------------------------------
Timothy P. Flynn, Director
/s/ JACK L. HANCOCK May 27, 1999
- ---------------------------------------------------
Jack L. Hancock, Director
/s/ DAVID KRONFELD May 27, 1999
- ---------------------------------------------------
David Kronfeld, Director
</TABLE>
II-4
<PAGE> 89
<TABLE>
<S> <C> <C>
/s/ THOMAS NEUSTAETTER May 27, 1999
- ------------------------------------------
Thomas Neustaetter, Director
/s/ PAUL J. SALEM May 27, 1999
- ------------------------------------------
Paul J. Salem, Director
</TABLE>
II-5
<PAGE> 90
EXHIBIT INDEX
<TABLE>
<CAPTION>
PAGE
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<S> <C> <C>
1.1 Underwriting Agreement (to be filed by amendment)...........
4.1 Articles of Incorporation and Amendments.(1)................
4.2 By-laws.(1).................................................
4.3 Stockholders' Agreement dated as of November 26, 1997, among
the Company, Maurice J. Gallagher, Jr., Nield J. Montgomery
and certain investors identified therein.(1)................
4.4 Indenture dated as of September 29, 1997, between the
Company and Marine Midland Bank, as Trustee.(1).............
4.5 Warrant Registration Rights Agreement dated as of September
29, 1997, among the Company, Bear, Stearns & Co. Inc. and
Furman Selz LLC.(1).........................................
4.6 Certificate of Designation of Series B Convertible Preferred
Stock.(2)...................................................
4.7 Registration Rights Agreement dated May 4, 1999, among the
Company and the purchasers of Series B Convertible Preferred
Stock.(2)...................................................
4.8 Securityholders' Agreement dated April 5, 1999, among the
Company, the purchasers of Series B Convertible Preferred
Stock and certain stockholders of the Company.(2)...........
5.1 Legal Opinion of Ellis, Funk, Goldberg, Labovitz & Dokson,
P.C. (to be filed by amendment).............................
23.1 Consent of Arthur Andersen LLP..............................
23.2 Consent of KPMG LLP.........................................
</TABLE>
- ---------------
(1) Incorporated by reference to the Company's Registration Statement on Form
S-4, registration number 333-33837, filed with the Commission on August 18,
1997, and amendments thereto.
(2) Incorporated by reference to the Company's Quarterly Report on Form 10-Q for
the quarter ended March 31, 1999, Commission File No. 0-26914, filed with
the Commission on May 17, 1999.
<PAGE> 1
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
As independent public accountants, we hereby consent to the use of our report
dated March 2, 1999 (and to all references to our Firm) included in or made a
part of this Registration Statement on Form S-3.
ARTHUR ANDERSEN LLP
Las Vegas, Nevada
June 1, 1999
<PAGE> 1
EXHIBIT 23.2
INDEPENDENT AUDITORS' CONSENT
The Board of Directors
MGC Communications, Inc.:
We consent to the use of our report dated August 18, 1997 relating to the
financial statements of MGC Communications, Inc. for the year ended December
31, 1996 included in this registration statement.
KPMG LLP
Las Vegas, Nevada
June 2, 1999
