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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-Q
(Mark One)
|X| QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 1998
OR
| | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from -------------- to ----------------
COMMISSION FILE NUMBER: 333-50475
KMC TELECOM HOLDINGS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 22-3545325
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
1545 ROUTE 206, SUITE 300
BEDMINSTER, NEW JERSEY 07921
(Address, including zip code, of principal executive offices)
(908) 470-2100
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. [ ] Yes [X ] No
Indicate the number of shares outstanding of each of the issuer's classes
of common stock, as of the latest practicable date.
CLASS OUTSTANDING
----- -----------
Common Stock, par value $0.01 837,876 shares,
per share. as of August 10, 1998
<PAGE>
KMC TELECOM HOLDINGS, INC.
INDEX
PART I. FINANCIAL INFORMATION PAGE NO.
ITEM 1. Financial Statements
Unaudited Condensed Consolidated Balance Sheets,
December 31, 1997 and June 30, 1998............................ 2
Unaudited Condensed Consolidated Statements of Operations,
Three Months Ended June 30, 1997 and 1998 and Six Months
Ended June 30, 1997 and 1998.................................. 3
Unaudited Condensed Consolidated Statements of Cash Flows,
Six Months Ended June 30, 1997 and 1998....................... 4
Notes to Unaudited Condensed Consolidated
Financial Statements.......................................... 5
ITEM 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations..................................... 9
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk..... 11
PART II. OTHER INFORMATION
ITEM 1. Legal Proceedings.............................................. 12
ITEM 2. Changes in Securities and Use of Proceeds...................... 12
ITEM 3. Defaults Upon Senior Securities................................ 12
ITEM 4. Submission of Matters to a Vote of Security Holders............ 12
ITEM 5. Other Information.............................................. 12
ITEM 6. Exhibits and Reports on Form 8-K............................... 12
SIGNATURES............................................................. 13
<PAGE>
PART I - FINANCIAL INFORMATION
KMC TELECOM HOLDINGS, INC.
UNAUDITED CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS)
<TABLE>
<CAPTION>
DECEMBER 31, JUNE 30,
1997 1998
----------- ---------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents........................... $ 15,553 $ 41,613
Accounts receivable, net of allowance for doubtful
accounts.......................................... 1,318 3,438
Prepaid expenses and other current assets........... 489 896
-------- ---------
Total current assets.................................. 17,360 45,947
Investments held for future capital expenditures...... - 153,500
Networks and equipment, net........................... 71,371 119,640
Intangible assets, net................................ 2,655 3,723
Deferred financing costs, net......................... 4,196 15,280
Other assets.......................................... 361 5,653
-------- ---------
$95,943 $343,743
======== =========
LIABILITIES AND REDEEMABLE AND NONREDEEMABLE EQUITY
Current liabilities:
Accounts payable.................................... $ 5,513 $ 29,724
Accrued expenses.................................... 8,128 8,194
Due to affiliates................................... 47 -
------- -------
Total current liabilities............................. 13,688 37,918
Notes payable......................................... 51,277 40,476
Subordinated notes payable............................ 10,000 -
Senior discount notes payable......................... - 252,419
------- -------
Total liabilities..................................... 74,965 330,813
Redeemable equity:
Redeemable cumulative convertible preferred
stock, par value $.01 per share 498,800 shares
authorized; shares issued and outstanding:
Series A, 123,800 shares in 1997 and 1998......... 18,879 25,466
Series C, 150,000 shares in 1997 and 175,000
shares in 1998.................................. 14,667 19,438
Series D, 25,000 shares in 1997 and 0 shares in
1998............................................ 2,379 -
Redeemable common stock, shares issued and
outstanding: 132,773 in 1997 and 224,041 in 1998.. 11,187 21,604
Redeemable common stock warrants.................... 539 610
--------- --------
Total redeemable equity............................... 47,651 67,118
--------- --------
Nonredeemable equity (deficiency):
Common stock, par value $.01 per share; 3,000,000
shares authorized, 613,835 shares issued and
outstanding....................................... 6 6
Additional paid-in capital.......................... 15,374 20,817
Unearned compensation............................... (6,521) (5,883)
Accumulated deficit................................. (35,532) (69,128)
---------- ---------
Total nonredeemable equity (deficiency)............... (26,673) (54,188)
---------- ---------
$95,943 $343,743
=========== =========
</TABLE>
See accompanying notes.
<PAGE>
KMC TELECOM HOLDINGS, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE AND SHARE DATA)
<TABLE>
<CAPTION>
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
----------------------- -----------------------
1997 1998 1997 1998
----------- ----------- ----------- -----------
<S> <C> <C> <C> <C>
Revenue ............................ $ 388 $ 4,545 $ 513 $ 7,338
Operating expenses:
Network operating costs .......... 792 8,103 1,063 13,919
Selling, general and
administrative.................. 2,102 5,747 3,565 9,220
Stock option compensation expense 66 5,097 132 6,196
Depreciation and amortization .... 151 1,063 286 2,056
--------- --------- --------- ---------
Total operating expenses ....... 3,111 20,010 5,046 31,391
--------- --------- --------- ---------
Loss from operations ............... (2,723) (15,465) (4,533) (24,053)
Interest expense, net .............. 314 5,168 477 9,544
--------- --------- --------- ---------
Net loss ........................... (3,037) (20,633) (5,010) (33,597)
Dividends and accretion on
redeemable preferred stock ....... (1,470) (6,687) (1,634) (10,040)
--------- --------- --------- ---------
Net loss applicable to common
shareholders...................... $ (4,507) $ (27,320) $ (6,644) $ (43,637)
========= ========= ========= =========
Net loss per common share .......... $ (7.51) $ (32.61) $ (11.07) $ (52.71)
========= ========= ========= =========
Weighted average number of common
shares outstanding ............... 600,000 837,876 600,000 827,827
========= ========= ========= =========
</TABLE>
See accompanying notes.
<PAGE>
KMC TELECOM HOLDINGS, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
<TABLE>
<CAPTION>
SIX MONTHS ENDED
JUNE 30,
-----------------------
1997 1998
----------- -----------
<S> <C> <C>
OPERATING ACTIVITIES
Net loss.............................................. $(5,010) $ (33,597)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization....................... 286 2,056
Non-cash interest expense........................... 69 14,142
Non-cash stock option compensation expense.......... 132 6,196
Changes in assets and liabilities:
Accounts receivable............................... (101) (2,120)
Prepaid expenses and other current assets......... (426) (407)
Other assets...................................... 3 (292)
Accounts payable.................................. (1,052) (3,889)
Accrued expenses.................................. 811 697
Due to affiliates................................. (45) (47)
----------- -----------
Net cash used in operating activities................. (5,333) (17,261)
----------- -----------
INVESTING ACTIVITIES
Construction of networks and purchases of equipment... (8,897) (22,081)
Acquisitions of franchises, authorizations and
related assets...................................... (1,635) (1,212)
Deposit on purchase of equipment...................... - (5,000)
Purchases of investments, net......................... - (153,500)
----------- -----------
Net cash used in investing activities................. (10,532) (181,793)
----------- -----------
FINANCING ACTIVITIES
Proceeds from notes payable........................... 16,909 -
Repayment of notes payable............................ - (20,801)
Proceeds from issuance of common stock................ - 10,000
Proceeds from issuance of senior discount notes and
warrants, net of issuance costs of $13.5 million.... - 236,507
Dividends on preferred stock of subsidiary............ - (592)
----------- -----------
Net cash provided by financing activities............. 16,909 225,114
----------- -----------
Net increase in cash and cash equivalents............. 1,044 26,060
Cash and cash equivalents, beginning of period........ 1,487 15,553
----------- -----------
Cash and cash equivalents, end of period.............. $ 2,531 $ 41,613
=========== ===========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the period for interest, net of
amounts capitalized................................. $ 186 $ 2,200
=========== ===========
</TABLE>
See accompanying notes.
<PAGE>
KMC TELECOM HOLDINGS, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
JUNE 30, 1998
1. BASIS OF PRESENTATION AND ORGANIZATION
KMC Telecom Holdings, Inc. ("KMC Holdings") and its subsidiaries, KMC
Telecom Inc. ("KMC Telecom"), KMC Telecom II, Inc. ("KMC Telecom II") and KMC
Telecom of Virginia, Inc. are collectively referred to herein as the Company.
All significant intercompany accounts and transactions have been eliminated in
consolidation.
The unaudited condensed consolidated financial statements have been
prepared in accordance with generally accepted accounting principles for interim
financial reporting. Accordingly, they do not include certain information and
note disclosures required by generally accepted accounting principles for annual
financial reporting and should be read in conjunction with the financial
statements and notes thereto of KMC Telecom Holdings, Inc. and Predecessors as
of and for the year ended December 31, 1997.
The unaudited interim financial statements reflect all adjustments which
management considers necessary for a fair presentation of the results of
operations for these periods. The results of operations for the interim periods
are not necessarily indicative of the results for the full year.
The balance sheet of KMC Telecom Holdings, Inc. at December 31, 1997 was
derived from the audited consolidated balance sheet at that date.
2. INVESTMENTS HELD FOR FUTURE CAPITAL EXPENDITURES
The Company has designated a portion of the proceeds from the Senior
Discount Notes offering (See Note 6) as investments held for future capital
expenditures. As of June 30, 1998, the Company's investments held for future
capital expenditures consisted of cash equivalents (bank term deposits and
commercial paper with maturities of less than 90 days) of $113.5 million and
debt securities (US government obligations and commercial bonds due within 1
year) of $40.0 million. All debt securities have been designated by the Company
as held-to-maturity. Accordingly, such securities are recorded in the
accompanying June 30, 1998 financial statements at amortized cost. At June 30,
1998, the carrying value of such held-to-maturity debt securities approximated
their fair value.
3. NETWORKS AND EQUIPMENT
Networks and equipment are comprised of the following (in thousands):
DECEMBER JUNE 30,
31, 1997 1998
---------- -----------
Fiber optic systems.............................. $20,484 $ 24,838
Telecommunications equipment..................... 27,406 46,291
Furniture and fixtures and other................. 1,518 4,370
Leasehold improvements........................... 792 990
Construction-in-progress......................... 23,555 47,460
---------- -----------
73,755 123,949
Less accumulated depreciation.................... (2,384) (4,309)
---------- -----------
$71,371 $119,640
========== ===========
Costs capitalized during the development of the Company's networks include
amounts incurred related to network engineering, design and construction and
capitalized interest. Capitalized interest related to the construction of the
networks for the three months ended June 30, 1997 and 1998 amounted to
approximately $142,000 and $1.4 million respectively. For the three months and
six months ended June 30, 1998, interest expense is net of interest income of
$2.9 million and $5.0 million, respectively.
<PAGE>
4. INTANGIBLE ASSETS
Intangible assets are comprised of the following (in thousands):
DECEMBER JUNE 30,
31, 1997 1998
---------- ----------
Franchise costs.................................... $1,342 $1,670
Authorizations and rights-of-ways.................. 1,151 1,639
Building access agreements and other............... 567 961
---------- ----------
3,060 4,270
Less accumulated amortization...................... (405) (547)
---------- ----------
$2,655 $3,723
========== ==========
5. OTHER ASSETS
At June 30, 1998, other assets includes non-refundable deposits for the
purchase of switching equipment aggregating $5,000,000.
6. SENIOR DISCOUNT NOTES
On January 29, 1998, KMC Holdings sold 460,800 units, each unit consisting
of a 12 1/2% senior discount note with a principal amount at maturity of $1,000
due 2008 (the "Senior Discount Notes") and one warrant to purchase .21785 shares
of Common Stock of KMC Holdings at an exercise price of $.01 per share. Interest
on the Senior Discount Notes will be payable in cash on each February 15 and
August 15, commencing August 15, 2003. The Senior Discount Notes are
unsubordinated, unsecured indebtedness of KMC Holdings. However, KMC Holdings is
a holding company and the Senior Discount Notes will be effectively subordinated
to all existing and future liabilities (including trade payables) of the
Company's subsidiaries. The gross and net proceeds of the offering were
approximately $250.0 million and $236.5 million, respectively. Upon the closing
of the offering, the Company used the proceeds as follows: $10.8 million to
repay all amounts borrowed by the Company's subsidiary, KMC Telecom II, under an
Amended and Restated Loan and Security Agreement with AT&T Commercial Finance
Corporation ("AT&T Finance"); $10.1 million to repay all amounts borrowed by the
Company's subsidiaries, KMC Telecom and KMC Telecom II, under a subordinated
term loan from AT&T Finance (including $100,000 of accrued interest thereon);
$5.0 million as a non-refundable down payment for future purchases of switching
equipment; and $592,000 to pay dividend arrearages on the Series A Cumulative
Convertible Preferred Stock of KMC Telecom. The balance will be used to finance
the planned expansion and further development of the Company's networks and to
fund operating losses and for the other general corporate purposes. As of June
30, 1998, $153.5 million of the proceeds have been classified as non-current
assets, as such amounts have been designated for future capital expenditures.
The Senior Discount Notes contain covenants that, among other things,
restrict the ability of KMC Holdings and its subsidiaries to incur additional
indebtedness, create liens, engage in sale-leaseback transactions, pay dividends
or make distributions in respect of their capital stock, make investments or
certain other restricted payments, sell assets, redeem capital stock, issue or
sell stock of subsidiaries, enter into transactions with stockholders or
affiliates or, with respect to KMC Holdings, effect a consolidation or merger.
However, these limitations are subject to a number of qualifications and
exceptions.
The Senior Discount Notes are "applicable high yield discount obligations"
("AHYDOs"), as defined in the Internal Revenue Code of 1986, as amended, because
the yield to maturity of such Senior Discount Notes exceeded the "applicable
federal rate" in effect at the time of their issuance (the "AFR") plus five
percentage points. Under the rules applicable to AHYDOs, a portion of the
original issue discount ("OID") that accrues on the Senior Discount Notes will
not be deductible by the Company at any time. The non-deductible portion of the
OID will be an amount that bears the same ratio to such OID as (i) the excess of
the yield to maturity of the Senior Discount Notes over the AFR plus six
percentage points bears to (ii) the yield to maturity of the Senior Discount
Notes. To the extent that the non-deductible portion of OID would have been
treated as a dividend if it had been distributed with respect to the Company's
stock, it generally will be treated as a dividend to holders of the Senior
Discount Notes for purposes of the rules relating to the dividends received
deduction applicable to corporate holders. Any remaining OID on the Senior
Discount Notes will not be deductible by the Company until such OID is paid.
<PAGE>
The warrants may be exercised at any time during the period beginning on
the date that is one year after the closing date of the Senior Discount Note
offering and ending on January 31, 2008. Warrants that are not exercised by such
date will expire. The warrants were recorded at their aggregate fair value of
$11 million.
KMC Telecom's $70.0 million senior line of credit with AT&T Finance
restricts the ability of KMC Telecom to pay dividends to, or to pay principal or
interest on loans from, KMC Holdings. Such restrictions could adversely affect
the Company's liquidity and ability to meet its cash requirements, including its
ability to repay the Senior Discount Notes.
7. COMMITMENTS AND CONTINGENCIES
LITIGATION
By letter dated August 29, 1997, KMC Telecom notified I-Net, Inc. ("I-NET")
that KMC Telecom considered I-NET to be in default under a Master
Telecommunications System Rollout Agreement dated as of October 1, 1996 (the
"I-NET Agreement"), pursuant to which I-NET had agreed to manage construction of
telephone systems for KMC Telecom in several cities, including the preparation
of design plans and specifications for each system. KMC Telecom considered I-NET
to be in default as a result of I-NET's failure to provide design plans and
specifications for several systems for which it had agreed to provide such plans
and specifications, to properly supervise construction of the systems or to
provide personnel with the necessary expertise to manage the projects. By letter
dated October 27, 1997, I-NET demanded payment of all amounts it alleged were
due under the I-NET Agreement and a related agreement (aggregating $4.1 million)
and stated that it would invoke the arbitration provisions under the I-NET
Agreement if the parties could not agree as to the amount due and payment terms
on or before November 27, 1997. By letter dated December 1, 1997, I-NET extended
its deadline for reaching agreement to December 15, 1997. Although the Company
and I-NET conducted discussions they were unable to reach an agreement and on
February 12, 1998, the Company received a demand for arbitration from Wang
Laboratories, Inc. ("Wang"), the successor to I-NET. The demand seeks at least
$4.1 million. The Company believes that it has meritorious defenses to Wang's
claims and has asserted counterclaims seeking in excess of $2.5 million as a
result of I-NET's defaults under the I-NET Agreement. The Company believes that
resolution of this matter will not have a material adverse impact on its
financial condition. No assurance can be given, however, as to the ultimate
resolution of this matter.
PURCHASE COMMITMENTS
As of June 30, 1998, the Company has outstanding commitments aggregating
approximately $48.0 million related to purchases of telecommunications equipment
and fiber optic cable and its obligations under its agreements with certain
suppliers.
REDEMPTION RIGHTS
Pursuant to a stockholders agreement, certain of the Company's stockholders
and warrantholders have "put rights" entitling them to have the Company
repurchase their preferred and common shares and redeemable common stock
warrants for the fair value of such securities if no Liquidity Event (defined as
(i) an initial public offering with gross proceeds of at least $40.0 million,
(ii) the sale of substantially all of the stock or assets of the Company or
(iii) the merger or consolidation of the Company with one or more other
corporations) has taken place by the later of (x) October 22, 2003 or (y) 90
days after the final maturity of the Senior Discount Notes. The restrictive
covenants of the Senior Discount Notes limit the Company's ability to repurchase
such securities. All of the securities subject to such "put rights" are
presented as redeemable equity in the accompanying balance sheets.
The redeemable preferred stock, redeemable common stock and redeemable
common stock warrants are being accreted up to their fair market values from
their respective issuance dates to their earliest potential redemption date
(October 22, 2003). At June 30, 1998, the aggregate redemption value of the
redeemable equity was approximately $140 million, reflecting per share
redemption amounts of $630 for the Series A Preferred Stock, $248 for the Series
C and D Preferred Stock and $130 for the redeemable common stock and redeemable
common stock warrants.
<PAGE>
8. NET LOSS PER COMMON SHARE
The following table sets forth the computation of net loss per common
share-basic (in thousands):
THREE MONTHS ENDED SIX MONTHS ENDED
JUNE 30, JUNE 30,
----------------------- -----------------------
1997 1998 1997 1998
----------- ----------- ----------- -----------
Numerator:
Net loss.................. $(3,037) $(20,633) $(5,010) $(33,597)
Dividends and accretion
on redeemable preferred
stock................... (1,470) (6,687) (1,634) (10,040)
----------- ----------- ----------- -----------
Numerator for net loss
per common share - basic $(4,507) $(27,320) $(6,644) $(43,637)
=========== =========== =========== ===========
Denominator:
Denominator for net loss
per common share -
weighted average number
of common shares
outstanding 600,000 837,876 600,000 827,827
=========== =========== =========== ===========
Net loss per common share -
basic..................... $ (7.51) $ (32.61) $ (11.07) $ (52.71)
=========== =========== =========== ===========
Options and warrants to purchase an aggregate of 182,840 and 251,885 shares
of common stock were outstanding as of June 30, 1997 and 1998, respectively, but
a computation of diluted net loss per common share has not been presented, as
the effect would be anti-dilutive.
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
THIS FORM 10-Q CONTAINS FORWARD-LOOKING STATEMENTS WHICH INVOLVE RISKS AND
UNCERTAINTIES. THE COMPANY'S ACTUAL RESULTS MAY DIFFER SIGNIFICANTLY FROM THE
RESULTS DISCUSSED IN THE FORWARD-LOOKING STATEMENTS. THE FOLLOWING DISCUSSION
SHOULD BE READ IN CONJUNCTION WITH THE UNAUDITED CONDENSED CONSOLIDATED
FINANCIAL STATEMENTS, INCLUDING THE NOTES THERETO, INCLUDED ELSEWHERE IN THIS
FORM 10-Q.
RESULTS OF OPERATIONS
As a result of the development and rapid growth of the Company's business
during the periods presented, the period-to-period comparisons of the Company's
results of operations are not necessarily meaningful and should not be relied
upon as an indication of future performance.
THREE MONTHS ENDED JUNE 30, 1998 COMPARED TO
THREE MONTHS ENDED JUNE 30, 1997
REVENUE. Revenue increased from $388,000 for the three months ended June
30, 1997 (the "1997 Second Quarter") to $4.5 million for the three months ended
June 30, 1998 (the "1998 Second Quarter"). The increase is primarily
attributable to the fact that the Company had eight systems in commercial
operation during the 1998 Second Quarter compared to only three systems in
commercial operation during the entire 1997 Second Quarter. Two additional
systems became commercially operational during the 1997 Second Quarter but did
not generate significant revenues during that period. Revenue for the 1997 and
1998 Second Quarters included $200,000 and $3.1 million, respectively, of
revenue derived from resale of switched services and an aggregate of $188,000
and $1.4 million, respectively, of revenue derived from on-net special access,
private line and switched services.
NETWORK OPERATING COSTS. Network operating costs increased from $792,000 in
the 1997 Second Quarter to $8.1 million in the 1998 Second Quarter. This
increase of approximately $7.3 million was due primarily to the increase in the
number of systems in commercial operation in the 1998 Second Quarter and the
related increases of $3.5 million in costs associated with providing resale
services, $1.4 million in personnel costs, $600,000 in consulting and
professional services costs, $500,000 in contracted network support costs, and
$1.3 million in facilities, travel and other direct operating costs.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased from $2.1 million for the 1997 Second Quarter
to $5.7 million for the 1998 Second Quarter. This increase of approximately $3.6
million resulted primarily from increases of $2.5 million in personnel costs and
$500,000 in professional costs (consisting primarily of legal costs), as well as
increases in other marketing and general and administrative costs aggregating
approximately $600,000.
STOCK OPTION COMPENSATION EXPENSE. Stock option compensation expense, a
non-cash charge, increased from $66,000 in the 1997 Second Quarter to $5.1
million in the 1998 Second Quarter, primarily as a result of an increase in the
fair market value of KMC Telecom's common stock and, to a lesser extent, as a
result of the greater number of options outstanding during the 1998 Second
Quarter.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization expense
increased from $151,000 for the 1997 Second Quarter to $1.1 million for the 1998
Second Quarter primarily as a result of depreciation expense associated with the
greater number of networks commercially operational during the 1998 Second
Quarter.
INTEREST EXPENSE. Interest expense increased from $314,000 in the 1997
Second Quarter to $5.2 million in the 1998 Second Quarter. The increase resulted
primarily from the issuance of the Senior Discount Notes during the first
quarter of 1998, which generated interest expense of $8.2 million in the 1998
Second Quarter, as well as the increased expense attributable to the higher
level of borrowings under the Company's $70.0 million senior line of credit with
AT&T Commercial Finance Corporation (the "AT&T Facility") in the 1998 Second
Quarter. The increase was partially offset by $2.9 million of interest income
earned on the investment of the unused portion of the proceeds of the Senior
Discount Note offering. The Company capitalized interest of $802,000 related to
network construction projects during the 1998 Second Quarter.
<PAGE>
NET LOSS. For the reasons stated above, net loss increased from $3.0
million for the 1997 Second Quarter to $20.6 million for the 1998 Second
Quarter.
SIX MONTHS ENDED JUNE 30, 1998 COMPARED TO
SIX MONTHS ENDED JUNE 30, 1997
REVENUE. Revenue increased from $513,000 for the six months ended June 30,
1997 (the "1997 Six Months") to $7.3 million for the six months ended June 30,
1998 (the "1998 Six Months"). This increase is primarily attributable to the
fact that for the 1998 Six Months the Company had eight systems in commercial
operation during the entire period as compared to the 1997 Six Months when the
Company had one system in commercial operation during the entire period and four
systems beginning commercial operations at various points during the period.
Revenue for the 1997 Six Months and 1998 Six Months included $325,000 and $5.3
million, respectively, of revenue derived from resale of switched services and
an aggregate of $188,000 and $2.0 million, respectively, of revenue derived from
on-net special access, private line and switched services.
NETWORK OPERATING COSTS. Network operating costs increased from $1.1
million in the 1997 Six Months to $13.9 million in the 1998 Six Months. This
increase of approximately $12.8 million was due primarily to the increase in the
number of systems in commercial operation in the 1998 Six Months and the related
increases of $5.8 million in costs associated with providing resale services,
$3.3 million in personnel costs, $1.0 million in consulting and professional
services costs, $1.0 million in contracted network support costs, and $1.7
million in facilities, travel and other direct operating costs.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and
administrative expenses increased from $3.6 million in the 1997 Six Months to
$9.2 million in the 1998 Six Months. This increase of approximately $5.6 million
resulted primarily from increases of $4.0 million in personnel costs and
$400,000 in professional costs (consisting primarily of legal costs), as well as
increases in other marketing and general and administrative costs aggregating
approximately $1.2 million.
STOCK OPTION COMPENSATION EXPENSE. Stock option compensation expense, a
non-cash charge, increased from $132,000 in the 1997 Six Months to $6.2 million
in the 1998 Six Months, primarily as a result of an increase in the fair market
value of KMC Telecom's common stock and, to a lesser extent, as a result of the
greater number of options outstanding during the 1998 Six Months.
DEPRECIATION AND AMORTIZATION. Depreciation and amortization expense
increased from $286,000 for the 1997 Six Months to $2.1 million for the 1998 Six
Months, primarily as a result of depreciation expense associated with the
greater number of networks commercially operational during the 1998 Six Months.
INTEREST EXPENSE. Interest expense increased from $477,000 in the 1997 Six
Months to $9.5 million in the 1998 Six Months. This increase resulted primarily
from the issuance of the Senior Discount Notes during the first quarter of 1998,
which generated interest expense of $13.8 million in the 1998 Six Months, as
well as the increased expense attributable to the higher level of borrowings
under the AT&T Facility in the 1998 Six Months. This increase was partially
offset by $5.0 million of interest income earned on the investment of the unused
portion of the proceeds of the Senior Discount Note offering during the 1998 Six
Months. The Company capitalized interest of $1.4 million related to network
construction projects during the 1998 Six Months.
NET LOSS. For the reasons stated above, net loss increased from $5.0
million for the 1997 Six Months to $33.6 million for the 1998 Six Months.
<PAGE>
LIQUIDITY AND CAPITAL RESOURCES
The Company has incurred significant operating and net losses as a result
of the development and operation of its networks. The Company expects that such
losses will continue as the Company emphasizes the development, construction and
expansion of its networks and builds its customer base and that cash provided by
operations will not be sufficient to fund the expansion of its networks and
service capabilities.
Under the AT&T Facility, the Company may borrow up to an aggregate of $70.0
million for the construction of fiber optic telecommunications networks in
certain markets, subject to certain conditions. At June 30, 1998, the Company
had $40.5 million of indebtedness outstanding under the AT&T Facility and had
$29.5 million in borrowing capacity available under the AT&T Facility, subject
to certain conditions. On January 29, 1998, the Company completed an offering of
460,800 units, each unit consisting of one 12 1/2% Senior Discount Note due 2008
with a principal amount at maturity of $1,000 (the "Senior Discount Notes") and
one warrant to purchase .21785 shares of Common Stock of the Company at an
exercise price of $.01 per share. The net proceeds to the Company from the
offering were approximately $236.5 million. The AT&T Facility restricts the
ability of KMC Telecom to pay dividends to, or to pay principal or interest on
loans from, KMC Holdings. Such restrictions could adversely affect the Company's
liquidity and ability to meet its cash requirements, including its ability to
repay the Senior Discount Notes.
Net cash provided by financing activities from borrowings and equity
issuances was $225.1 million for the 1998 Six Months. The Company's net cash
used in operating and investment activities was $199.1 million for the 1998 Six
Months.
The Company made capital expenditures of $22.1 million in the 1998 Six
Months. These capital expenditures were financed from the proceeds of the Senior
Discount Note offering. The Company currently plans to make additional capital
expenditures of approximately $130.0 million during the remainder of 1998.
Continued significant capital expenditures are expected to be made thereafter.
The majority of these expenditures are expected to be made for network
construction and the purchase of switches and related equipment to facilitate
the offering of the Company's services. In addition, the Company expects to
continue to incur operating losses while it expands its business and builds its
customer base. Actual capital expenditures and operating losses will depend on
numerous factors, including the nature of future expansion and acquisition
opportunities and factors beyond the Company's control, including economic
conditions, competition, regulatory developments and the availability of
capital.
At June 30, 1998 the Company had outstanding commitments aggregating
approximately $48.0 million related to the purchase of fiber optic cable and
telecommunications equipment as well as engineering services.
At June 30, 1998 the Company had cash and cash equivalents and marketable
securities of approximately $195.1 million. The Company believes that these
funds, together with available cash and borrowings expected to be available
under the AT&T Facility, will provide sufficient funds for the Company to expand
its business as currently planned and to fund its currently anticipated expenses
through the completion of its eight existing networks, the ten new networks
currently under construction and expected to be completed by the end of 1998,
and the five additional networks expected to be completed in 1999, and to fund
its working capital requirements for 1999. Thereafter, the Company will require
additional financing. However, in the event that the Company's plans change, the
assumptions upon which the Company's plans are based prove inaccurate, the
Company expands or accelerates its business plan or the Company determines to
consummate additional acquisitions, the foregoing sources of funds may prove to
be insufficient to complete all such networks, and the Company may be required
to seek additional financing.
<PAGE>
YEAR 2000 COMPLIANCE
The Company believes that its existing software applications are Year 2000
compliant. However, there can be no assurance until the year 2000 occurs that
all systems will then function adequately. The Company currently requests that
all vendors proposing to provide it with software applications certify that such
software is year 2000 compliant. If a proposed vendor were to be unable to
certify compliance, the Company will request that the proposed vendor provide it
with the vendor's plan for bringing its software application into compliance.
The Company will consider that plan in making a decision whether to purchase the
software application. If the software applications of the local exchange
carriers, long distance carriers or others on whose services the Company depends
or with whom the Company's systems interface are not year 2000 compliant, it
could affect the Company's systems which would have a material adverse effect on
the Company's business.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not Applicable.
<PAGE>
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
Not Applicable.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
Not Applicable.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
Not Applicable.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not Applicable.
ITEM 5. OTHER INFORMATION.
Not Applicable.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) EXHIBITS
27. Financial Data Schedule.
(b) REPORTS ON FORM 8-K
No reports on Form 8-K were filed by the Company during the quarter ended
June 30, 1998.
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
DATED: August 13, 1998
KMC TELECOM HOLDINGS, INC.
(Registrant)
By: /s/ Michael A. Sternberg
--------------------------
Michael A. Sternberg
President and Chief Executive
Officer
(Principal Executive Officer)
By: /s/ Cynthia Worthman
--------------------------
Cynthia Worthman
Chief Financial Officer,
Vice President,
Secretary and Treasurer
(Principal Financial and
Accounting Officer)
<PAGE>
EXHIBIT INDEX
NO. DESCRIPTION
27 Financial Data Schedule
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
BALANCE SHEET OF KMC TELECOM HOLDINGS, INC. AS OF JUNE 30, 1998 AND THE RELATED
STATEMENT OF OPERATIONS FOR THE SIX MONTHS ENDED JUNE 30, 1998, AND IS QUALIFIED
IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 6-MOS
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-1-1998
<PERIOD-END> JUN-30-1998
<CASH> 41,613,000
<SECURITIES> 0
<RECEIVABLES> 3,438,000
<ALLOWANCES> (106,000)
<INVENTORY> 0
<CURRENT-ASSETS> 45,947,000
<PP&E> 123,949,000
<DEPRECIATION> (4,309,000)
<TOTAL-ASSETS> 343,743,000
<CURRENT-LIABILITIES> 37,918,000
<BONDS> 292,895,000
67,118,000
0
<COMMON> 6,000
<OTHER-SE> (54,194,000)
<TOTAL-LIABILITY-AND-EQUITY> 343,743,000
<SALES> 0
<TOTAL-REVENUES> 7,338,000
<CGS> 0
<TOTAL-COSTS> 13,919,000
<OTHER-EXPENSES> 17,472,000
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 9,544,000
<INCOME-PRETAX> (33,597,000)
<INCOME-TAX> 0
<INCOME-CONTINUING> (33,597,000)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (33,597,000)
<EPS-PRIMARY> (52.71)
<EPS-DILUTED> (52.71)
</TABLE>
