<PAGE>
===============================================================================
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
----------------
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 March 31, 2000
or
[ ] Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period to
COMMISSION FILE NUMBER: 000-24653
NORTHEAST OPTIC NETWORK, INC.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 04-3056279
(STATE OR OTHER JURISDICTION OF (IRS EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NUMBER)
2200 WEST PARK DRIVE
WESTBOROUGH, MASSACHUSETTS 01851
(508) 616-7800
(ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE,
OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES)
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 [ ]
As of March 31, 2000, there were [16,655,581] outstanding shares of the
Registrant's common stock, $0.01 par value per share.
===============================================================================
<PAGE>
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
NORTHEAST OPTIC NETWORK, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(UNAUDITED)
<TABLE>
<CAPTION>
ASSETS
MARCH 31, DECEMBER 31,
2000 1999
<S> <C> <C>
CURRENT ASSETS:
Cash and cash equivalents $ 6,665,050 $ 4,768,389
Short-term restricted cash and investments 20,344,602 22,518,611
Short-term investments 52,032,524 66,803,311
Accounts receivable 1,817,299 1,858,201
Prepaid expenses and other current assets 653,069 494,323
------------- ------------
Total current assets 81,512,544 96,442,835
------------- ------------
PROPERTY AND EQUIPMENT, NET 106,420,815 94,924,843
RESTRICTED CASH AND INVESTMENTS 23,029,978 31,693,543
INTANGIBLE ASSETS, NET 56,878,402 57,572,155
------------- ------------
$ 267,841,739 $ 280,633,376
------------- ------------
------------- ------------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable $ 9,103,730 $ 3,783,354
Accounts payable construction-in-progress 6,858,436 9,438,350
Accrued expenses 6,953,407 13,348,296
Accrued right-of-way fees, related party 797,014 886,322
Deferred revenue 77,760 58,380
------------- ------------
Total current liabilities 23,790,347 27,514,702
------------- ------------
DEFERRED REVENUE, NET OF CURRENT PORTION 951,204 969,026
------------- ------------
LONG-TERM ACCOUNTS PAYABLE - COMMUNICATIONS NETWORK 922,538 4,682,858
------------- ------------
LONG-TERM OBLIGATIONS 180,000,000 180,000,000
------------- ------------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY:
Common stock, $.01 par value-
Authorized--30,000,000 shares; 16,655,581 and 16,393,534 shares issued and
outstanding March 31, 2000 and December 31, 1999, respectively 166,555 163,935
Additional paid-in capital 113,055,338 110,072,881
Accumulated deficit (51,044,243) (42,770,026)
------------- ------------
Total stockholders' equity 62,177,650 67,466,790
------------- ------------
$ 267,841,739 $ 280,633,376
------------- ------------
------------- ------------
</TABLE>
The accompanying notes are an integral part of these condensed
consolidated financial statements.
2
<PAGE>
NORTHEAST OPTIC NETWORK, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE-MONTHS ENDED
MARCH 31,
2000 1999
<S> <C> <C>
Revenues:
Network service $ 1,663,192 $ 421,481
Other service 989,514 99,475
------------ ------------
Total revenues 2,652,706 520,956
------------ ------------
EXPENSES:
Cost of revenues 2,110,502 928,988
Selling, general and administrative 2,508,614 1,321,373
Depreciation and amortization 2,458,941 794,978
------------ ------------
Total expenses 7,078,057 3,045,339
------------ ------------
Loss from operations (4,425,351) (2,524,383)
OTHER INCOME (EXPENSE):
Interest income and other, net 1,535,409 2,240,764
Interest expense (5,384,275) (4,979,661)
------------ ------------
Total other income (expense) (3,848,866) (2,738,897)
------------ ------------
NET LOSS $ (8,274,217) $ (5,263,280)
------------ ------------
------------ ------------
BASIC AND DILUTED LOSS PER SHARE $ (0.50) $ (0.33)
------------ ------------
------------ ------------
BASIC AND DILUTED WEIGHTED AVERAGE SHARES OUTSTANDING 16,476,116 16,070,027
------------ ------------
------------ ------------
</TABLE>
The accompanying notes are an integral part of these condensed
consolidated financial statements.
3
<PAGE>
NORTHEAST OPTIC NETWORK, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(UNAUDITED)
<TABLE>
<CAPTION>
THREE-MONTHS ENDED MARCH 31,
2000 1999
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net loss $ (8,274,217) $ (5,263,280)
Adjustments to reconcile net loss to net cash used in operating
activities-
Depreciation and amortization 2,458,941 794,978
Amortization of deferred financing costs 325,071 156,661
Changes in assets and liabilities-
Accounts receivable 40,902 (76,084)
Refundable taxes from related party -- 755,838
Prepaid expenses and other current assets (158,746) (446,595)
Accounts payable 5,320,376 4,390,694
Accrued expenses (6,484,197) (6,776,248)
Deferred revenue 1,558 (97,702)
------------ ------------
Net cash used in operating activities (6,770,312) (6,561,738)
------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of short-term investments (53,479,213) (6,551,118)
Sales of short-term investments 68,250,000 --
Purchases of property and equipment (13,555,938) (14,837,780)
Increase in intangible assets (30,293) (382,831)
------------ ------------
Net cash provided by (used in) investing activities 1,184,556 (21,771,729)
------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
(Decrease) Increase in construction and long-term accounts
payable (6,340,234) 2,793,790
Payments on long-term obligations -- (108,394)
Decrease in restricted cash and investments 10,837,574 11,183,153
Proceeds from exercise of stock options and warrants 2,985,077 687
------------ ------------
Net cash provided by financing activities 7,482,417 13,869,236
------------ ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 1,896,661 (14,464,231)
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 4,768,389 57,737,792
------------ ------------
CASH AND CASH EQUIVALENTS, END OF YEAR $ 6,665,050 $ 43,273,561
------------ ------------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid during the year for-
Interest $ 11,077,350 $ 13,058,700
------------ ------------
------------ ------------
</TABLE>
The accompanying notes are an integral part of these condensed
consolidated financial statements.
4
<PAGE>
(1) Operations
NorthEast Optic Network, Inc. (the "Company" or "NEON") and its
subsidiaries are engaged in the ownership, management, operation and
construction of fiber optic telecommunication networks in the Northeast,
consisting of New England and New York. References to "we", "us" or "our"
in this Report mean NEON and its subsidiaries.
On November 24, 1999, the Company entered into preliminary agreements
with Consolidated Edison Communications, Inc. ("Consolidated Edison
Communications" or "CEC") and Exelon Corporation ("Exelon"). The Company
will provide network transport and carrier services in the service areas
of the Company, CEC and Exelon. At the same time, each of the parties
will provide connectivity from the Company's backbone system to their
respective local loops and each will manage their local distributions
into New York, Philadelphia, Baltimore and Washington, DC. The
communications network will operate under the NEON-Registered Trademark-
brand. The term of the CEC agreement is for no less than 25 years and
the term of the Exelon agreement is for 20 years with five-year
extension periods. Under these agreements, we have agreed to issue
2,448,240 shares of our common stock to Consolidated Edison
Communications and 2,106,625 shares of our common stock to Exelon
Corporation (in each case subject to adjustment as set forth in the
agreements), which would result in Consolidated Edison Communications
and Exelon Corporation owning approximately 10.75% and 9.25% of our
outstanding common stock, respectively. Each of these companies also
would receive the right to nominate one member to our board of
directors. The Company expects that a substantial portion of the value
of the stock paid to CEC and Exelon under these agreements will be
recorded as an intangible and will result in significant amortization
expense and an increase in the Company's net loss per share over the
terms of the related agreements. CEC and Exelon have also agreed to
contribute to the Company $3,500,000 and $1,950,000, respectively, for
the build-out of local points of presence ("POPs") and the related
optronics. Also, CEC and Exelon have agreed to pay the Company
approximately $7,900,000 and $6,000,000, respectively, over four years
for the cost of POP rental, POP operating expenses, optronics
maintenance and sales and marketing expenses. These agreements are
subject to termination by either party if the respective closings
thereunder have not occurred by September 7, 2000, and are subject to
substantial closing conditions that may not be satisfied by that date.
The Company is seeking an extension of this termination date. The CEC
transaction has encountered regulatory delays, and the Company cannot
predict when this transaction will close.
To date, the Company has recorded revenues principally from contract and
other services and has incurred cumulative operating losses of
approximately $51,000,000. The market for fiber optic telecommunications
in which the Company operates is changing rapidly due to technological
advancements, the introduction of new products and services and the
increasing demands placed on equipment in worldwide telecommunications
networks. The Company is dependent upon a single or limited source of
suppliers for a number of components and parts. Shortages resulting from
a change in arrangements with these suppliers and manufacturers could
cause significant delays in the expansion of the NEON system and could
have a material adverse effect on the Company.
(2) Significant Accounting Policies
The accompanying consolidated financial statements reflect the
application of certain accounting policies as described below and
elsewhere in these notes to consolidated financial statements.
(a) PRINCIPLES OF CONSOLIDATION
5
<PAGE>
The accompanying unaudited consolidated financial statements
include the results of operations of NorthEast Optic Network, Inc.
and its wholly owned subsidiaries. All significant intercompany
transactions and balances have been eliminated in consolidation.
(b) BASIS OF PRESENTATION
The accompanying unaudited consolidated financial statements have
been prepared by the Company pursuant to the rules and regulations
of the Securities and Exchange Commission, and reflect all
adjustments, consisting of only normal recurring adjustments,
which, in the opinion of management, are necessary for a fair
statement of the results of the interim periods presented. These
financial statements do not include disclosures associated with
the annual financial statements and, accordingly, should be read
in conjunction with the attached Management's Discussion and
Analysis of Financial Condition and Results of Operation and the
financial statements and footnotes for the year ended December 31,
1999 included in the Company's Annual Report on Form 10-K for the
year ended December 31, 1999.
(c) MANAGEMENT ESTIMATES
The preparation of financial statements in conformity with
generally accepted accounting principles requires management to
make estimates and assumptions that affect the reported amounts of
assets and liabilities and disclosure of contingent assets and
liabilities at the date of the financial statements and the
reported amounts of revenues and expenses during the reporting
period. Actual amounts could differ from those estimates.
(d) REVENUE RECOGNITION
The services the Company provides include long-term leases of dark
fiber (fiber optic transmission lines leased without optronics
equipment installed by the Company) and short-term leases of lit
fiber (fixed amounts of capacity on fiber optic transmission lines
that use optronics equipment) at fixed-cost pricing over
multi-year terms. Revenues on telecommunications network services
are recognized ratably over the term of the applicable agreements
with customers, which range from 1 to 20 years. Amounts billed in
advance of the service provided are recorded as deferred revenue.
The Company also leases space at its facilities (collocation
services). Other service revenue includes these collocation
service revenues as well as revenues from nonrecurring design,
engineering and construction services. Revenues for these
nonrecurring services are generally recognized as services are
performed as the Company has no further obligations.
The Company has contracts with customers that provide service
level commitments, which may obligate the Company to provide
credits against billings if service is interrupted or does not
meet the customer's operating parameters. These amounts are
accounted for in cost of sales. To date, credits issued under
these arrangements have not been material.
(e) COMPREHENSIVE INCOME (LOSS)
SFAS No. 130 requires disclosure of all components of
comprehensive income (loss) on an annual and interim basis.
Comprehensive income (loss) is defined as the change in equity of
a business enterprise during a period from transactions and other
events and circumstances from nonowner sources. Comprehensive net
loss is the same as reported net loss for all periods presented.
6
<PAGE>
(f) EARNINGS PER SHARE
In accordance with SFAS No. 128, EARNINGS PER SHARE, basic and
diluted loss per share were computed by dividing net loss by the
weighted average number of common shares outstanding during the
first three months of 2000 and 1999. Diluted net loss per share
excludes 1,835,533 shares issuable from the assumed exercise of
stock options, as their effect would be antidilutive.
(G) NEW ACCOUNTING STANDARDS
The SEC issued SAB No. 101, REVENUE RECOGNITION, in December 1999.
The Company is required to adopt this new accounting guidance, as
amended by SAB No. 101A through a cumulative charge to retained
earnings in accordance with Accounting Principles Board (APB)
Opinion No. 20, ACCOUNTING CHANGES, no later than the second
quarter of fiscal 2000. Management is currently evaluating the
effects that this guidance is expected to have on the Company's
financial statements.
(3) 12-3/4% SENIOR NOTES
In August 1998, the Company sold $180 million of 12-3/4% Senior Notes due
2008 to the public in the debt offering. The Senior Notes are due on
August 15, 2008 and scheduled interest payments are due on February 15
and August 15 of each year, commencing February 15, 1999. Upon closing of
the Senior Notes, the Company purchased approximately $72 million in U.S.
government obligations, with an average maturity of 645 days, to provide
for payment in full of the first seven scheduled interest payments on the
Senior Notes. Such securities are pledged as security for the benefit of
the holders of the Senior Notes, are classified as held-to-maturity and
reported at amortized cost and are included as restricted cash and
investments in the accompanying consolidated balance sheet. The Senior
Notes are redeemable in whole or in part at the option of the Company at
any time on or after August 15, 2003 at the following redemption prices
expressed as a percentage of principal plus accrued interest through the
date of redemption:
<TABLE>
<CAPTION>
Period REDEMPTION PRICE
<S> <C>
2003 106.375%
2004 104.250
2005 102.125
Thereafter 100.000
</TABLE>
In the event of a change in control, as defined, each holder of the notes
will be entitled to require the Company to purchase all or a portion of
such holder's Senior Notes at a purchase price equal to 101% of the
principal amount thereof, plus accrued and unpaid interest, if any, to
the date of purchase. The Senior Notes are unsecured obligations and rank
PARI PASSU in right of payment with all existing and future indebtedness
of the Company that is not by its terms in right of payment and priority
to the Senior Notes and is senior in right of payment to all future
subordinated indebtedness of the Company.
In connection with this financing, the Company incurred approximately
$6.3 million of issuance costs. These costs have been classified as
intangible assets in the accompanying condensed consolidated balance
sheets and are being amortized, as interest expense, over the term of the
Notes.
7
<PAGE>
(4) PREFERRED STOCK
The Company's Certificate of Incorporation, as amended and restated to
date, authorizes the issuance of up to 2,000,000 shares of preferred
stock, $.01 par value per share. Under the terms of the Certificate of
Incorporation, the Board of Directors is authorized, subject to any
limitations prescribed by law, without stockholder approval, to issue
such shares of preferred stock in one or more series. Each series of
preferred stock will have such rights, preferences, privileges and
restrictions, including voting rights, dividend rights, conversion
rights, redemption privileges and liquidation preferences, as are
determined by the Board of Directors. At March 31, 2000, no such shares
of preferred stock were issued and outstanding.
(5) CONTINGENCIES
Certain claims arising in the ordinary course of business are pending
against the Company. Management believes these claims are without merit
and that no such claim will result in material liability to the Company.
(6) CONCENTRATION OF CREDIT RISK
SFAS No. 105, DISCLOSURE OF INFORMATION ABOUT FINANCIAL INSTRUMENTS WITH
OFF BALANCE SHEET RISK AND FINANCIAL INSTRUMENTS WITH CONCENTRATION OF
CREDIT RISK, requires disclosure of any significant off-balance sheet and
credit risk concentration. Financial instruments that potentially expose
the Company to concentrations of credit risk consist primarily of cash
and cash equivalents, short-term investments and accounts receivable. The
Company has not experienced significant losses related to receivables
from any individual or groups of customers or any specific industry or
geographic region. Due to these factors, no additional credit risk is
believed by management to be inherent in the Company's accounts
receivable. For the three months ended March 31, 2000 and March 31, 1999,
3 and 3 customers represented 36% and 88% of revenues, respectively. At
March 31, 2000 and December 31, 1999, 3 and 3 customers represented 47%
and 56% of accounts receivable, respectively.
(7) SEGMENT DISCLOSURE
SFAS No. 131, DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED
INFORMATION requires certain financial and supplementary information to
be disclosed on an annual and interim basis for each reportable operating
segment of an enterprise. Operating segments are defined as components of
an enterprise about which separate financial information is available
that is evaluated regularly by the chief operating decision-maker, or
decision-making group, in deciding how to allocate resources and in
assessing performance. The Company's chief operating decision-maker is
the Chief Executive Officer of the Company.
The Company analyzes segment reporting based on dark fiber, lit fiber,
collocation and other services. Dark fiber, lit fiber, collocation and
ancillary network services are reported as revenue only. Cost of
revenues, and property and equipment is primarily the operating costs and
the communications network and equipment that supports each segment,
which is not allocated among the segments for management reporting or
segment reporting purposes. Similarly, selling, general and
administrative expenses are not allocated among the segments for
management or segment reporting purposes.
8
<PAGE>
Management utilizes several measurements to evaluate its operations and
allocate resources. However, the principal measurements are consistent
with the Company's financial statements. The accounting policies of the
segments are the same as those described in Note 2.
Financial information for the Company's segments is as follows:
<TABLE>
<CAPTION>
THREE MONTHS ENDED MARCH 31,
2000 1999
<S> <C> <C>
Revenues
Dark fiber $ 663,304 $ 386,681
Lit fiber 999,888 34,800
Ancillary network services (1) 715,746 99,475
Collocation 273,768 -
------------- -------------
Total revenues 2,652,706 520,956
------------- -------------
Cost of revenues 2,110,502 928,988
Selling, general and administrative 2,508,614 1,321,373
Depreciation and amortization 2,458,941 794,978
------------- -------------
Operating loss $ (4,425,351) $ (2,524,383)
------------- -------------
------------- -------------
Net property and equipment $ 106,420,815 $ 67,364,457
------------- -------------
------------- -------------
Capital expenditures $ 13,555,938 $ 14,837,780
------------- -------------
------------- -------------
</TABLE>
(1) Includes nonrecurring revenues associated with design, engineering and
construction services.
9
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
CAUTIONARY STATEMENT
This Quarterly Report on Form 10-Q includes forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934. All statements, other than statements of
historical facts, included in this Report regarding our strategy, future
operations, financial position, future revenues, projected costs, prospects,
plans and objectives of management are forward-looking statements. The words
"anticipates," "believes," "estimates," "expects," "intends," "may," "plans,"
"projects," "will," "would" and similar expressions are intended to identify
forward-looking statements, although not all forward-looking statements contain
these identifying words. In particular, but without limiting the foregoing, our
statements about, relating to or dependent on our agreements with Consolidated
Edison Communications and Exelon Corporation, the satisfaction of the conditions
under those agreements and the extent of our network following the consummation
of the closing under each of those agreements constitute forward-looking
statements. We cannot guarantee that we actually will achieve the plans,
intentions or expectations disclosed in our forward-looking statements, and you
should not place undue reliance on our forward-looking statements. Actual
results or events could differ materially from the plans, intentions and
expectations disclosed in the forward-looking statements we make. We have
included important factors in the cautionary statements included in this report,
particularly under the heading "Risk Factors," that we believe could cause
actual results or events to differ materially from the forward-looking
statements that we make. Our forward-looking statements do not reflect the
potential impact of any future acquisitions, mergers, dispositions, joint
ventures or investments we may make. We do not assume any obligation to update
any forward-looking statements.
OVERVIEW
We own and operate a technologically advanced, high-bandwidth fiber optic
network providing capacity on a wholesale basis to telecommunications service
providers, including local, long distance and wireless telephone companies and
Internet service providers. Our network currently extends from Portland, Maine
to New York City and agreements currently in place with Exelon and Consolidated
Edison Communications would, subject to regulatory approval, extend our network
to Philadelphia, Baltimore and Washington, D.C. and expand the reach of our
network in and around New York City. Our customers can connect directly to our
network at multiple locations in the larger cities we serve and also in the
smaller communities along our network's routes.
To date we have experienced net losses and negative cash flow from operating
activities. From our inception to the present, our principal activities included
building our network, developing our business plans, hiring management and other
key personnel and negotiating and executing customer contracts. In the third
quarter of 1999, we commenced the roll-out of our lit services into New York
City. We expect to continue to generate net losses and negative cash flow as we
expand our operations. Whether or when we will generate positive cash flow from
operating activities will depend on a number of financial, competitive,
regulatory, technical and other factors. See "Liquidity and Capital Resources."
10
<PAGE>
Our network service revenues include long-term leases of dark fiber and
shorter-term leases of lit fiber at fixed-cost pricing over multi-year terms. We
also provide collocation services at our facilities. Other service revenues
include nonrecurring design, engineering and construction services. We generally
receive fixed monthly payments from our customers for the leasing of capacity on
our network and recognize revenues ratably over the term of the applicable
customer agreement. Other service revenues are non-refundable and are generally
recognized as services are performed.
In the first quarter of 2000, approximately 37% of our revenues consisted of
other service revenues. We anticipate that as we proceed with the deployment of
our network, the percentage of revenues which we receive from network services
will increase as a percentage of revenues.
Our costs consist primarily of cost of sales, selling, general and
administrative expenses, depreciation and amortization and interest expense.
Cost of sales relates to lease payments for fiber optic facilities, network
surveillance, operations and maintenance costs and property taxes. Selling,
general and administrative expenses relate to expenses in connection with sales
and marketing infrastructure, including personnel, advertising costs and
promotional activities and management and information technology. Depreciation
and amortization expense is associated with the build-out of our network, as
well as goodwill from our reorganization on July 8, 1998. Interest expense
relates to interest on our $180 million 12 3/4% Senior Notes Due 2008.
All references to "we", "us" or "our" appearing in this Report mean NorthEast
Optic Network, Inc. and its subsidiaries.
RESULTS OF OPERATIONS
Revenues for the three months ended March 31, 2000 were $2,652,706, an increase
of $2,131,750 or 409% compared to $520,956 in the same period in 1999. Revenues
were generated by recurring lease services of $1,663,192 during the first
quarter of 2000 compared to $421,481 during the first quarter of 1999 and other
service revenue of $989,514 during the first quarter of 2000 compared to $99,475
during the first quarter of 1999. Other service revenue consists of collocation
revenues and nonrecurring revenues related to design, engineering, and
construction.
Cost of sales for the three months ended March 31, 2000 were $2,110,502, an
increase of $1,181,514 or 127% compared to $928,988 in the same period in 1999.
This increase was primarily due to lease payments for fiber optic facilities,
network surveillance cost, operations and maintenance costs and property taxes
resulting from network expansion in our service territory.
Selling, general, and administrative expenses were $2,508,614 for the three
months ended March 31, 2000, an increase of $1,187,241 or 90% compared to
$1,321,373 in the same period in 1999. The increase reflects an investment in
the sales and marketing infrastructure, including personnel, advertising costs
and promotional activities and an increase in management and information
technology.
Depreciation and amortization expense increased 209% to $2,458,941 for the three
months ended March 31, 2000 compared to $794,978 for the three months ended
March 31, 1999. This increase
11
<PAGE>
resulted from higher depreciation expense associated with additional segments
of our system being placed into service, completion of points of presence and
the amortization of goodwill resulting from the reorganization on July 8,
1998.
Interest income decreased 31% to $1,535,409 for the three months ended March 31,
2000 from $2,240,764 for the three months ended March 31, 1999. This decrease
was due primarily to lower cash and investment balances for the quarter,
resulting from capital expenditures necessary to place additional segments of
the NEON system into service.
Interest expense was $5,384,275 for the three months ended March 31, 2000
compared to $4,979,661 for the same period in 1999, an increase of 8%. This
increase relates primarily to interest expense resulting from long-term network
accounts payable, in addition to interest on our $180 million 12 3/4% Senior
Notes Due 2008.
Our net loss for the quarter ended March 31, 2000 was $8,274,217 or a loss of
$.50 per share. This compares to a net loss of $5,263,280 or a loss of $.33 per
share in the same period last year. The increase in net loss is primarily
attributable to the factors discussed above.
LIQUIDITY AND CAPITAL RESOURCES
Our operations have required substantial investment for the design, construction
and development of our network and the purchase of telecommunication equipment.
Capital expenditures were approximately $13,600,000 and $14,800,000 for the
three months ended March 31, 2000 and 1999, respectively. We expect to require
substantial capital in connection with the following:
- - expansion and improvement of our network;
- - connection of additional buildings and customers to our network;
- - purchase of additional telecommunications equipment;
- - purchase and development of our operating support systems; and
- - operation and maintenance of existing facilities.
We have funded a substantial portion of these expenditures through our completed
public offerings on August 5, 1998, resulting in net proceeds to us of
approximately $218 million (after deducting expenses and before deducting $72.0
million in escrowed funds to cover the first seven semi-annual interest payments
on our $180 million 12 3/4% Senior Notes due 2008).
The substantial capital investment required to build our network has resulted in
negative cash flow after investing activities over the last three years. This
negative cash flow after investing activities is a result of the requirement to
build a substantial portion of our network before connecting revenue-generating
customers. We expect to continue to produce negative cash flow after investing
activities for the current year due to the continuous expansion and development
of our network. Our ability to continue this expansion will be limited by our
current capital resources until sufficient cash flow after investing activities
is generated unless we seek and obtain additional capital.
12
<PAGE>
Net cash used in operating activities was $6,770,312 and $6,561,738 for the
three months ended March 31, 2000 and 1999 respectively. Net cash used by
operating activities for the three months ended March 31, 2000 was due primarily
to our operating loss partially offset by improved working capital and non-cash
items.
Net cash provided by (used in) investing activities was $1,184,556 and
($21,771,729) for the three months ended March 31, 2000 and 1999
respectively. Cash provided by investing activities for the three months
ended March 31, 2000 was due primarily to proceeds from sales of the
investments coming to maturity during the first quarter of 2000, offset by
the cost of construction and deployment of telecommunications equipment to
build our network and the purchases of short-term investments.
Cash flow from financing activities was $7,482,417 and $13,869,236 for the three
months ended March 31, 2000 and 1999 respectively. Cash flow from financing
activities during the three months ended March 31, 2000 was generated from the
restricted cash placed in escrow in connection with the proceeds from the sale
of our 12 3/4% Senior Notes Due 2008 and payments made on long-term construction
accounts payable during the quarter.
We anticipate that we will continue to experience negative cash flow as we
expand our network, construct additional networks, deploy telecommunications
electronic equipment and market our services to an expanding customer base. Cash
provided by operations will not be sufficient to fund the expansion and
development of our system in the Northeast and its planned expansion to the
Mid-Atlantic region. As a result, we intend to use our cash on hand and the
remaining net proceeds of the 1998 public offerings, and we may attempt to raise
additional financing through some combination of commercial bank borrowings,
leasing, vendor financing, strategic alliances and the sale of equity and/or
debt securities.
Our capital requirements may vary based upon the timing and the success of
implementation of our business plan and as a result of regulatory, technological
and competitive developments or if:
- - demand for our services or cash flow from operations is less than or more
than expected;
- - our plans or projections change or prove to be inaccurate;
- - we make acquisitions; or
- - we accelerate deployment of our network or otherwise alter the schedule or
targets of our business plan implementation.
The expectations of required future capital expenditures are based on our
current estimates.
NEW ACCOUNTING STANDARDS
In June 1998, the Financial Accounting Standards Board (the "FASB") issued
Statement of Financial Accounting Standard ("SFAS") No. 133, ACCOUNTING FOR
DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES. SFAS No. 133 establishes
accounting and reporting standards for derivative instruments, including
certain derivative instruments embedded in other contracts (collectively
referred to as derivatives) and for hedging activities. SFAS No. 133, as
amended by SFAS No. 137, is effective for all fiscal quarters of fiscal years
beginning after June 15, 2000. This new standard is not
13
<PAGE>
anticipated to have a significant impact on our consolidated financial
statements based on the current structure and operations.
The Securities and Exchange Commission issued SAB No. 101, REVENUE RECOGNITION,
in December 1999. We are required to adopt this new accounting guidance, as
amended by SAB No. 101A through a cumulative charge to retained earnings in
accordance with Accounting Principles Board ("APB") Opinion No. 20, ACCOUNTING
CHANGES, no later than the second quarter of fiscal 2000. We are currently
evaluating the effects that this guidance is expected to have on the Company's
financial statements.
In March 2000, the FASB issued Interpretation No. 44, ACCOUNTING FOR CERTAIN
TRANSACTIONS INVOLVING STOCK COMPENSATION--AN INTERPRETATION OF APB OPINION NO.
25. The interpretation clarifies the application of APB Opinion No. 25 in
certain situations, as defined. The interpretation is effective July 1, 2000,
but covers certain events occurring during the period after December 15, 1998
but before the effective date. To the extent that events covered by this
interpretation occur during the period after December 15, 1998 but before the
effective date, the effects of applying this interpretation would be recognized
on a prospective basis from the effective date. Accordingly, upon initial
application of the final interpretation, (i) no adjustments would be made to the
financial statements for periods before the effective date and (ii) no expense
would be recognized for any additional compensation cost measured that is
attributable to periods before the effective date. We expect that the adoption
of this interpretation would not have any effect on the accompanying financial
statements.
RISK FACTORS
There are a number of important factors that could affect our business and
future operating results, including, without limitation, the factors set forth
below, and the information contained in this Quarterly Report on Form 10-Q
should be read in light of such factors. Any of the following factors could have
a material adverse effect on our business and our future operating results.
RISKS RELATING TO OUR BUSINESS STRATEGY
WE HAVE HAD SIGNIFICANT NET LOSSES AND OUR OPERATING RESULTS HAVE VARIED AND
WILL CONTINUE TO VARY SIGNIFICANTLY.
Our current business has a very limited history. We have incurred net losses
since our inception. Our future operating results will fluctuate annually and
quarterly due to several factors, some of which are outside our control. These
factors include pricing strategies for our services, changes in
telecommunications technology, changes in the regulatory environment, cost and
timely availability of equipment, cost of construction and changes in general
and local economic conditions.
OUR BUSINESS STRATEGY DEPENDS UPON ANTICIPATED CUSTOMER DEMAND FOR OUR SERVICES,
AND OUR FAILURE TO OBTAIN CUSTOMERS FOR OUR SERVICES AT PROFITABLE RATES WOULD
ADVERSELY AFFECT OUR BUSINESS RESULTS.
14
<PAGE>
Our ability to become profitable depends upon our ability to secure a market for
our services and obtain service contracts with our communications customers.
Many of our targeted customers may also be our potential competitors. If our
services are not satisfactory or cost competitive, our targeted customers may
utilize other providers where available, or construct their own networks, which
would reduce their need for our services and create future sources of
competition for us.
INTENSE COMPETITION IN THE TELECOMMUNICATIONS INDUSTRY FROM A BROAD RANGE OF
COMPETITORS MAY PREVENT US FROM OBTAINING CUSTOMERS AND REQUIRE US TO CUT
PRICES.
The telecommunications industry is highly competitive. We face substantial
competition from companies with significantly greater financial and other
resources whose capacity is interchangeable with the capacity we offer,
including incumbent local telephone companies, competitive local telephone
companies and major long distance companies. In addition, potential competitors
capable of offering services similar to those offered by us include other
communications service providers that own and operate their own networks and
equipment, including cable television companies, electric utilities, microwave
carriers, satellite carriers, wireless communication system operators and
end-users with private communications networks. Two of our principal
stockholders, Northeast Utilities and CMP Group, Inc., an affiliate of the
selling stockholder, each own or have rights to fibers in the cable that
includes a portion of our network, which permits each of them to compete
directly with us in the future if they use these fibers for purposes other than
their corporate requirements. Our rights-of-way are non-exclusive so that other
service providers (including the utilities themselves) could install competing
networks using the same rights-of-way.
BECAUSE WE OFFER A RELATIVELY NARROW RANGE OF SERVICES IN COMPARISON TO SOME OF
OUR COMPETITORS, WE CANNOT ACHIEVE REVENUES COMPARABLE TO COMPANIES OFFERING A
BROADER ARRAY OF SERVICES AND MAY BE AT A COMPETITIVE DISADVANTAGE WITH RESPECT
TO THE SERVICES WE OFFER.
Unlike more diversified telecommunications companies, we derive and expect to
continue to derive substantially all of our revenues from the leasing of fiber
optic capacity on a wholesale basis to our customers, most of whom are
telecommunications companies and Internet service providers serving end-users.
The limited nature of our current services could limit our potential revenues
and result in our having lower revenues than competitors which provide a wider
array of services.
DUE TO RAPIDLY EVOLVING TECHNOLOGIES IN OUR INDUSTRY AND THE UNCERTAINTY OF
FUTURE GOVERNMENT REGULATION, OUR CURRENT BUSINESS PLAN MAY BECOME OBSOLETE AND
WE MAY BE UNABLE TO MAINTAIN A COMPETITIVE POSITION IF WE ARE UNABLE TO
SUCCESSFULLY ADJUST OUR PRODUCTS, SERVICES AND BUSINESS STRATEGIES AS REQUIRED.
In the future, we may become subject to more intense competition due to the
development of new technologies, an increased supply of domestic and
international transmission capacity, the consolidation in the industry among
local and long distance service providers and the effects of deregulation
resulting from the Telecommunications Act of 1996. The introduction of new
services and products or the emergence of new technologies may change the cost
or increase the
15
<PAGE>
supply of services and products similar to those which we provide. We cannot
predict which of many possible future product and service offerings will be
crucial to maintain our competitive position or what expenditures will be
required to develop profitably and provide such products and services. Prices
for our services to carriers specifically, and interstate services in
general, may decline over the next several years due primarily to price
competition to the extent that network providers continue to install networks
that compete with our network. We also believe that there will be
technological advances that will permit substantial increases in the
transmission capacity of both new and existing fiber.
A LIMITED NUMBER OF CUSTOMERS HAS ACCOUNTED FOR A SIGNIFICANT PERCENTAGE OF OUR
REVENUES.
Historically, a limited number of customers has accounted for a significant
percentage of our revenues. In 1998, three customers accounted for 50%, 19% and
12% of revenues, respectively. In 1999, three customers accounted for 18%, 16%
and 13% of revenues, respectively. We anticipate that our results of operations
in any given period will continue to depend to a significant extent upon
revenues of a small number of customers.
RISKS RELATING TO THE EXPANSION AND OPERATION OF OUR FIBER OPTIC NETWORK
THE SUCCESSFUL, TIMELY AND COST-EFFECTIVE EXPANSION OF OUR FIBER OPTIC NETWORK
WITHIN THE NORTHEAST AND INTO THE MID-ATLANTIC REGION IS CRUCIAL TO OUR BUSINESS
PLAN, AND DEPENDS UPON NUMEROUS FACTORS BEYOND OUR CONTROL.
Our ability to achieve our strategic objectives depends in large part upon the
successful, timely and cost-effective expansion of our fiber optic network
within the Northeast and into the Mid-Atlantic region. Among
the major factors that could affect our success are:
- - the inability to consummate, or a delay in consummating, our agreement with
Consolidated Edison Communications, which remains subject to substantial
regulatory conditions which have already resulted in delays; and
- - the failure of both affiliated and third-party suppliers or contractors to
meet their obligations to construct and maintain significant portions of
our fiber optic network in a timely and cost-effective manner.
Either of these factors, or other factors, over which we have little control,
could significantly hinder our ability to complete our network and execute our
business plan.
EACH OF OUR AGREEMENTS WITH CONSOLIDATED EDISON COMMUNICATIONS AND EXELON
CORPORATION IS SUBJECT TO POSSIBLE TERMINATION IF THE CLOSING UNDER THAT
AGREEMENT DOES NOT OCCUR BY SEPTEMBER 7, 2000.
Each of our agreements with Consolidated Edison Communications and Exelon
Corporation is subject to termination by either party if the closing conditions
under that agreement have not been satisfied by September 7, 2000. Both of these
agreements are subject to substantial closing
16
<PAGE>
conditions that may not be satisfied by September 7, 2000. If one or both of
these agreements is terminated, our business plan will be adversely affected.
OUR AGREEMENT WITH CONSOLIDATED EDISON COMMUNICATIONS FOR THE EXPANSION OF OUR
NETWORK IN NEW YORK CITY HAS ENCOUNTERED REGULATORY DELAYS.
Consolidated Edison Communications' application for a municipal franchise to
operate as a telecommunications carrier in New York City and the application of
its parent, Consolidated Edison, which would enable it to install fiber optic
cable in its conduits, have encountered delays, and we cannot be sure when they
will be granted, if at all. Our agreement with Consolidated Edison
Communications is contingent on this approval, and if the necessary approvals
are not forthcoming, we may be forced to serve New York City using alternative
rights of way shared by other carriers that would not provide the same route
diversity as those offered by Consolidated Edison Communications. A significant
delay in obtaining the necessary approvals, or in our decision to select an
alternative means of serving this area, would delay our expansion into New York
City.
THE EXPENDITURES NECESSARY TO SUFFICIENTLY EXPAND OUR FIBER OPTIC NETWORK AND
DEVELOP OUR SERVICES IN ORDER TO SATISFY THE CURRENT AND FORECASTED DEMANDS OF
OUR CUSTOMERS MAY SURPASS OUR AVAILABLE CASH, AND WE MAY BE UNABLE TO OBTAIN
ADDITIONAL CAPITAL TO DEVELOP OUR SERVICES ON A TIMELY BASIS AND ON ACCEPTABLE
TERMS.
Although we have expended significant resources in building our network from
Portland, Maine to New York City and the development of our customer base, we
will require significant additional cash in order to expand our geographic
coverage and the range of services which we can offer throughout our service
area in order to be competitive in our market. These expenditures for expansion
and for more services, together with associated operating expenses, will reduce
our cash flow and profitability until we establish an adequate customer base
throughout all of our coverage areas. To date, we have expended substantial
amounts on construction of our network from the proceeds of our financing
activities and, accordingly, we have generated negative cash flow. We may need
to obtain additional capital to expand our services and increase our service
territory, and cannot guarantee that additional financing will be available to
us or, if available, that we can obtain it on a timely basis and on acceptable
terms.
WE OBTAIN SOME OF THE KEY COMPONENTS USED IN OUR FIBER OPTIC NETWORK FROM A
SINGLE SOURCE OR A LIMITED GROUP OF SUPPLIERS, AND THE PARTIAL OR COMPLETE LOSS
OF ONE OF THESE SUPPLIERS COULD DISRUPT OUR OPERATIONS AND RESULT IN A
SUBSTANTIAL LOSS OF REVENUE.
We depend upon a small group of suppliers for some of the key components and
parts used in our network. In particular, we purchase cable from Lucent-Fitel
and from Corning, and we purchase fiber optic equipment from Nortel Networks,
Cerent Corporation and Sycamore Networks. Any delay or extended interruption in
the supply of any of the key components, changes in the pricing arrangements
with our suppliers and manufacturers or delay in transitioning a replacement
supplier's product into our network could disrupt our operations.
OUR FIBER OPTIC NETWORK, WHICH IS OUR SOLE SOURCE OF REVENUE, IS VULNERABLE TO
PHYSICAL
17
<PAGE>
DAMAGE, CATASTROPHIC OUTAGES, POWER LOSS AND OTHER DISRUPTIONS BEYOND OUR
CONTROL, AND THE OCCURRENCE OF ANY OF THESE FAILURES COULD RESULT IN
IMMEDIATE LOSS OF REVENUE, PAYMENT OF OUTAGE CREDITS TO OUR CUSTOMERS AND,
MORE IMPORTANTLY, THE LOSS OF OUR CUSTOMERS' CONFIDENCE AND OUR BUSINESS
REPUTATION.
Our success in marketing our services to our customers requires that we provide
high reliability, high bandwidth and a secure network. Our network and the
infrastructure upon which it depends are subject to physical damage, power loss,
capacity limitations, software defects, breaches of security and other
disruptions beyond our control that may cause interruptions in service or
reduced capacity for customers. Our agreements with our customers typically
provide for the payment of outage related credits (a predetermined reduction or
offset against our lease rate when a customer's leased facility is
non-operational or otherwise does not meet certain operating parameters) or
damages in the event of a disruption in service. These credits or damages could
be substantial and could significantly decrease our net revenue. Significant or
lengthy outages would also undermine our customers' confidence in our fiber
optic network and injure our business reputation.
RISKS RELATING TO OUR RIGHTS-OF-WAY
WE COULD LOSE THE CONTRACT RIGHTS UPON WHICH WE RELY TO OPERATE AND MAINTAIN OUR
NETWORK IN THE EVENT OF BANKRUPTCY PROCEEDINGS RELATING TO ONE OR MORE OF THE
THIRD PARTIES THAT HAVE GRANTED TO US THE RIGHT TO BUILD AND OPERATE OUR NETWORK
USING THEIR RIGHTS-OF-WAY.
The construction and operation of significant portions of our fiber optic
network depend upon contract rights known as indefeasible rights-of-use.
Indefeasible rights-of-use are commonly used in the telecommunications industry,
but remain a relatively new concept in property law. Although indefeasible
rights-of-use give the holder a number of rights to control the relevant
rights-of-way or fiber optic filaments, legal title remains with the grantor of
the rights. Therefore, the legal status of indefeasible rights-of-use remains
uncertain, and our indefeasible rights-of-use might be voidable in the event of
bankruptcy of the grantor. If we were to lose an indefeasible right-of-use in a
key portion of our network, our ability to service our customers could become
seriously impaired and we could be required to incur significant expense to
resume the operation of our fiber optic network in the affected areas.
DESPITE OUR EXISTING RIGHTS-OF-WAY, WE MAY BE FORCED TO MAKE SUBSTANTIAL
ADDITIONAL PAYMENTS TO THE AFFECTED LANDOWNERS OR REMOVE OUR NETWORK FROM THEIR
PROPERTY, WHICH WOULD SIGNIFICANTLY HARM OUR BUSINESS AND OUR RESULTS OF
OPERATIONS.
Our indefeasible rights-of-use depend on the grantor's interest in the property
on which our network is located. To the extent that a grantor of an indefeasible
right-of-use has a limited easement in the underlying property and not full
legal title, the adequacy of our indefeasible rights-of-use could be challenged
in court. For example, in May 1999, AT&T entered into a costly settlement of a
class action suit brought by landowners who asserted that the railroad-based
rights-of-way upon which AT&T had relied to build portions of its fiber optic
network were insufficient to permit AT&T to use these rights-of-way for
telecommunications purposes.
18
<PAGE>
We believe that it is likely that a number of landowners may make similar claims
against us based on our use of utility rights-of-way for our telecommunications
purposes. In fact, some landowners have already asserted claims against us on
this basis, and, to date, in two cases, rather than electing to contest the
landowners' interpretation of the scope of the easement, we have made a payment
to such landowners to acquire rights-of-way meeting our requirements. We believe
that the easements granted by a substantial number of landowners to grantors of
our indefeasible rights-of-use are similar in scope to those with respect to
which claims have been asserted, and we cannot guarantee that additional claims
will not be made in the future.
BECAUSE SIGNIFICANT PORTIONS OF OUR FIBER OPTIC NETWORK ARE CONSTRUCTED UPON
RIGHTS-OF-WAY CONTROLLED BY ELECTRIC UTILITY COMPANIES WHICH GENERALLY PLACE THE
OPERATION OF THEIR ELECTRICAL FACILITIES AHEAD OF THE OPERATION OF OUR FIBER
OPTIC NETWORK, WE MAY BE UNABLE TO CONSTRUCT AND OPERATE OUR FIBER OPTIC NETWORK
IN THE AFFECTED AREAS WITHOUT PERIODIC INTERRUPTIONS AND DELAYS CAUSED BY THE
DAY-TO-DAY OPERATIONS OF THESE UTILITY COMPANIES.
Our rights-of-way agreements with Northeast Utilities and Central Maine Power
Company contain provisions which acknowledge the right of Northeast Utilities
and Central Maine Power, respectively, to make the provision of electrical
services to their own customers their top priority. Northeast Utilities and
Central Maine Power are required only to exercise "reasonable care" with respect
to our facilities and are otherwise free to take whatever actions they deem
appropriate with respect to ensuring or restoring service to their electricity
customers, any of which actions could impair operation of our network. In
addition, some of our ongoing operational efforts are constrained by the limited
ability of the utilities to de-energize segments of their transmission and
distribution facilities in order to permit construction crews to work safely. We
have experienced construction delays in the past as a result of such inability
to timely de-energize certain segments and we may experience such delays in the
future.
RISKS RELATING TO GOVERNMENT REGULATION
FEDERAL REGULATION OF THE TELECOMMUNICATIONS INDUSTRY IS CHANGING RAPIDLY AND WE
COULD BECOME SUBJECT TO UNFAVORABLE NEW RULES AND REQUIREMENTS WHICH COULD
IMPOSE SUBSTANTIAL FINANCIAL AND ADMINISTRATIVE BURDENS ON US AND INTERFERE WITH
OUR ABILITY TO SUCCESSFULLY EXECUTE OUR BUSINESS STRATEGIES.
Regulation of the telecommunications industry is changing rapidly. Existing and
future federal, state, and local governmental regulations will greatly influence
our viability. Consequently, undesirable regulatory changes could adversely
affect our business, financial condition and results of operations.
REVENUES FROM LIT SERVICES TO INTERNET SERVICE PROVIDERS, WHICH REPRESENT A
PORTION OF OUR REVENUES, ARE SUBJECT TO CONTRIBUTIONS TO THE FCC'S UNIVERSAL
SERVICE FUND.
While we generally do not deal directly with end-users of telecommunications
services and are therefore generally exempt from contributing to the FCC's
Universal Service Fund, the FCC treats Internet service providers purchasing lit
services as end-users for these purposes. Our revenues from providing these
services, which represent a portion of our revenues, are therefore
19
<PAGE>
subject to an assessment of 5.8% of gross interstate revenue for the first
quarter of 2000, and this assessment could increase.
IF WE BECOME SUBJECT TO REGULATION AS A COMMON CARRIER IN THE FUTURE, WE WOULD
BE SUBJECT TO ADDITIONAL REGULATORY REQUIREMENTS.
We do not believe that we are currently a "common carrier," but that status
could change based on differing interpretations of current regulations,
regulatory changes and changes in the way we conduct our business. If we become
regulated as a common carrier, we would have to file tariffs for our services
with the FCC and submit other reports, and would be required to contribute to
federal funds including, but not limited to, those established for
Telecommunications Relay Services and for the management of the North American
Numbering Plan. These regulatory requirements could impose substantial
burdens on us.
A recent FCC decision requiring incumbent local telephone companies to provide
their dark fiber to third parties may increase competition among providers of
dark fiber services.
The Communications Act of 1934 requires incumbent local telephone companies to
provide elements of their networks to competitors on an unbundled basis. In a
recent decision, the FCC determined that dark fiber is a network element that
incumbent local telephone companies must provide to others. The availability of
this alternative source of supply could decrease the demand for our dark fiber.
REGULATORY CHANGES COULD AFFECT RELATIONSHIPS BETWEEN US, OUR COMPETITORS AND
CUSTOMERS IN UNFORSEEABLE WAYS THAT COULD REDUCE OUR BUSINESS OPPORTUNITIES.
Our relationships with the telecommunications companies with whom we deal are
all affected by our respective positions in the FCC's regulatory scheme.
Accordingly, changes in federal telecommunications law may affect our business
by virtue of the interrelationships that exist among us and many of these
regulated telecommunications entities. It is difficult for us to forecast at
this time how these changes will affect us in light of the complex
interrelationships that exist in the industry and the different levels of
regulation.
STATE REGULATION OF COMPANIES PROVIDING TELECOMMUNICATIONS SERVICES VARIES
SUBSTANTIALLY FROM STATE TO STATE AND WE MAY BECOME SUBJECT TO BURDENSOME AND
RESTRICTIVE STATE REGULATIONS AS WE EXPAND OUR FIBER OPTIC NETWORK INTO A
BROADER GEOGRAPHIC AREA, WHICH COULD INTERFERE WITH OUR OPERATIONS AND OUR
ABILITY TO MEET OUR STRATEGIC OBJECTIVES.
We may be subject to state regulation, which can vary substantially from state
to state. Our subsidiaries in New York and Connecticut have obtained authority
to provide intrastate telecommunications services on a competitive common
carrier basis. Therefore, these subsidiaries are subject to the obligations that
applicable law places on all similarly certificated common carriers including
the filing of tariffs, state regulation of certain service offerings, pricing,
payment of regulatory fees and reporting requirements. The costs of compliance
with these regulatory obligations, or any of the regulatory requirements of
other states to which we might become subject, could have a material adverse
effect on our operations. Moreover, some
20
<PAGE>
of our rights-of-way depend on our status as a common carrier in these
states, and if that status were to be successfully challenged, those
rights-of-way could be terminated.
MUNICIPAL REGULATION OF OUR ACCESS TO PUBLIC RIGHTS-OF-WAY IS SUBJECT TO CHANGE
AND COULD IMPOSE ADMINISTRATIVE BURDENS THAT WOULD ADVERSELY AFFECT OUR
BUSINESS.
Local governments typically retain the ability to license public rights-of-way,
subject to the federal requirement that local governments may not prohibit the
provision of telecommunications services. Changes in local government regulation
could impose additional costs on our business and limit our operations. Local
authorities affect the timing and costs associated with our use of public
rights-of-way.
RISKS RELATING TO OUR CAPITALIZATION
BECAUSE WE HAVE A LARGE AMOUNT OF DEBT, WE WILL BE REQUIRED TO DEVOTE A
SIGNIFICANT PORTION OF OUR CASH FLOW TO PAY INTEREST AND WE MAY NOT HAVE
SUFFICIENT REMAINING CASH FLOW TO MEET OUR OTHER OBLIGATIONS AND EXECUTE OUR
BUSINESS STRATEGIES.
We are highly leveraged. Our high degree of debt, including our $180 million
12 3/4% Senior Notes Due 2008, could have adverse consequences to the holders
of our equity securities. Commencing on August 15, 2002, a substantial
portion of our cash flow will be dedicated to the payment of the $22,950,000
per annum of interest expense associated with our debt and such cash flow may
be insufficient to meet our payment obligations on our debt in addition to
paying our other obligations as they become due. In addition, due to our
leverage ratio, our ability to obtain any necessary financing in the future
for completion of our network or other purposes may be impaired. Also,
certain of our future borrowings may be at variable rates of interest that
could cause us to be vulnerable to increases in interest rates. Because we
are highly leveraged, we may be at a competitive disadvantage to our
competitors and may be especially vulnerable to a downturn in our business or
the economy generally, or to delays in or increases in the costs of operating
and constructing our network.
IN CONNECTION WITH OUR SUBSTANTIAL PUBLIC DEBT, WE HAVE AGREED TO SIGNIFICANT
RESTRICTIONS ON OUR OPERATIONS THAT LIMIT OUR ABILITY TO ENTER INTO MAJOR
CORPORATE TRANSACTIONS, AND AS A RESULT WE MAY BE UNABLE TO PURSUE POTENTIAL
CORPORATE OPPORTUNITIES WHICH WOULD BENEFIT US AND OUR STOCKHOLDERS.
The indenture under which our debt was issued imposes significant operating and
financing restrictions on us and our present and future subsidiaries. These
restrictions affect, and in certain cases significantly limit or prohibit, among
other things, our ability to incur indebtedness, pay dividends and make other
restricted payments, create liens, issue and sell capital stock of subsidiaries,
guarantee indebtedness, sell assets or consolidate, merge or transfer all or
substantially all of our assets. These limitations could prevent us from
exploiting corporate opportunities as they arise, which could be detrimental to
the interests of our stockholders.
21
<PAGE>
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to market risk related to changes in interest rates, but
does not believe that this exposure is material. The Company does not use
derivative financial instruments for speculative or trading purposes.
The Company maintains a short-term investment portfolio consisting mainly of
corporate debt securities and U.S. government agency discount notes with an
average maturity of less than six months. These held-to-maturity securities are
subject to interest rate risk and will fall in value if market interest rates
increase. If market interest rates were to increase immediately and uniformly by
10% from levels that existed at March 31, 2000, the fair value of the portfolio
would decline by an immaterial amount. Since the Company has the ability to hold
its fixed income investments until maturity, the Company would not expect its
operating results or cash flows to be materially affected.
PART II. OTHER INFORMATION
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
Exhibit 27 - Financial Data Schedule
(b) Reports on Form 8-K
No reports on Form 8-K were filed during the quarter covered
by this Report.
22
<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.
By: /s/ VINCENT C. BISCEGLIA Date: May [12], 2000
-----------------------------------------------
Vincent C. Bisceglia
Chairman and Chief Executive Officer
By: /s/ WILLIAM F. FENNELL Date: May [12], 2000
-----------------------------------------------
William F. Fennell
Vice President, Finance,
Chief Financial Officer and Treasurer
(Principal Financial Officer)
23
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM CONSOLIDATED
STATEMENTS OF OPERATIONS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-2000
<PERIOD-START> JAN-01-2000
<PERIOD-END> MAR-31-2000
<CASH> 6,179,561
<SECURITIES> 95,892,593
<RECEIVABLES> 2,011,518
<ALLOWANCES> (194,219)
<INVENTORY> 0
<CURRENT-ASSETS> 81,512,544
<PP&E> 114,170,232
<DEPRECIATION> (7,749,417)
<TOTAL-ASSETS> 267,841,739
<CURRENT-LIABILITIES> 23,790,347
<BONDS> 180,000,000
0
0
<COMMON> 166,555
<OTHER-SE> 62,011,095
<TOTAL-LIABILITY-AND-EQUITY> 267,841,739
<SALES> 2,652,706
<TOTAL-REVENUES> 2,652,706
<CGS> 2,110,502
<TOTAL-COSTS> 2,110,502
<OTHER-EXPENSES> 4,967,555
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 5,384,275
<INCOME-PRETAX> (8,274,217)
<INCOME-TAX> 0
<INCOME-CONTINUING> (8,274,217)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (8,274,217)
<EPS-BASIC> (0.50)
<EPS-DILUTED> (0.50)
</TABLE>