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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] Annual Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 For the fiscal year ended December 31, 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 333-64367
GOLDEN SKY SYSTEMS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 43-1749060
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
605 W. 47TH STREET, SUITE 300
KANSAS CITY, MO 64112
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code, (816) 753-5544
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act: None
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 _ No _X__
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (Section 229.405 of the chapter) is not contained herein, and
will not be contained, to the best of registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of this
Form 10-K or any amendment to this Form 10-K [ X ].
As of March 30, 1999, the Registrant's outstanding common stock consisted of
1,000 shares of Common Stock. The Registrant is a wholly-owned subsidiary of
Golden Sky DBS, Inc., which is a wholly-owned subsidiary of Golden Sky
Holdings, Inc. The aggregate market value of the voting stock held by
non-affiliates of the Registrant as of March 30, 1999 was $0.
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TABLE OF CONTENTS
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PART I
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Item 1. Business......................................................................... 1
Item 2. Properties....................................................................... 14
Item 3. Legal Proceedings................................................................ 14
Item 4. Submission of Matters to a Vote of Security Holders.............................. 14
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters............ 15
Item 6. Selected Financial Data.......................................................... 15
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations............................................................ 17
Item 7A. Quantitative and Qualitative Disclosures About Market Risk....................... 25
Item 8. Financial Statements and Supplementary Data...................................... 25
Item 9. Changes In and Disagreements with Accountants on Accounting and
Financial Disclosure............................................................. 25
PART III
Item 10. Directors and Executive Officers of the Registrant............................... 26
Item 11. Executive Compensation........................................................... 28
Item 12. Security Ownership of Certain Beneficial Owners and Management................... 31
Item 13. Certain Relationships and Related Transactions................................... 34
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K................. 37
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SOURCES OF MATERIAL INFORMATION
THIS REPORT CONTAINS INFORMATION OBTAINED FROM SOURCES OTHER THAN THE
COMPANY CONCERNING, AMONG OTHER THINGS, THE COMPANY'S INDUSTRY AND MARKETS, THE
COMPANY'S PRINCIPAL DIRECT AND INDIRECT SUPPLIERS OF SERVICES, DIRECTV, INC.
("DIRECTV"), THE NRTC (AS DEFINED HEREIN), THE RURAL DIRECTV MARKETS (AS
DEFINED HEREIN), AND THE NRTC'S RELATIONSHIP (CONTRACTUAL AND OTHERWISE) WITH
DIRECTV. SUCH INFORMATION IS MATERIAL TO UNDERSTANDING THE COMPANY'S BUSINESS
AND PROSPECTS. SPECIFICALLY, WHILE THE COMPANY'S SOLE BUSINESS IS THE OFFERING
OF DIRECTV SERVICES, THE COMPANY HAS NO DIRECT CONTRACTUAL RELATIONSHIP WITH
DIRECTV RELATING TO ITS PRINCIPAL MARKETS AND OBTAINS THOSE SERVICES THROUGH
THE NRTC. THE NRTC RECEIVES DIRECTV SERVICES PURSUANT TO ARRANGEMENTS WITH
DIRECTV THE TERMS OF WHICH HAVE BEEN KEPT CONFIDENTIAL BY THE NRTC. THE COMPANY
RELIES UPON THE NRTC TO HAVE ACCURATELY REPRESENTED THE SCOPE AND TERM OF ITS
ARRANGEMENTS WITH HUGHES (AS DEFINED HEREIN) AND DIRECTV. UNDER THE COMPANY'S
ARRANGEMENTS WITH THE NRTC, THE NRTC PROVIDES SUBSTANTIAL SERVICES TO THE
COMPANY, INCLUDING BILLING AND CUSTOMER AUTHORIZATION, AND THE COMPANY RELIES
UPON THE NRTC TO PROVIDE IT WITH ACCURATE AND COMPLETE INFORMATION CONCERNING
THE COMPANY'S CUSTOMERS. INFORMATION CONCERNING THE NRTC AND ITS ARRANGEMENTS
WITH DIRECTV IS BASED UPON INFORMATION THAT HAS BEEN MADE AVAILABLE TO THE
COMPANY BY THE NRTC OR IS OTHERWISE PUBLICLY AVAILABLE. EXCEPT WHERE OTHERWISE
INDICATED, INFORMATION REGARDING NUMBERS OF HOUSEHOLDS AND/OR SUBSCRIBERS IN
RURAL DIRECTV MARKETS IS BASED UPON INFORMATION COMPILED BY CLARITAS, INC.,
WHICH THE COMPANY HAS SUPPLEMENTED WHERE NECESSARY WITH INFORMATION COMPILED BY
THE U.S. POSTAL SERVICE. OTHER INDUSTRY-RELATED INFORMATION HAS BEEN DERIVED
FROM SKY REPORT AND DBS DIGEST. WHILE THE COMPANY BELIEVES THESE AND OTHER
THIRD-PARTY SOURCES OF INFORMATION TO BE RELIABLE, IT HAS NOT INDEPENDENTLY
VERIFIED SUCH INFORMATION AND IS NOT IN A POSITION TO DO SO. SEE "RISK
FACTORS-- RISKS RELATED TO RELATIONSHIP WITH NRTC."
The following trademarks owned by third parties are used in this Report:
DIRECTV(R), USSB(R), Total Choice(R), NFL SUNDAY TICKET(TM), NHL(R) CENTER
ICE(R) and DirecPC(R).
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PART I
ITEM 1. BUSINESS
This report contains forward-looking statements involving known and
unknown risks, uncertainties and other important factors that could cause the
actual results, performance or achievements of the Company, or industry
results, to differ materially from any future results, performance or
achievements expressed or implied by such forward-looking statements. Such
risks, uncertainties and other factors include, among others: a decrease in
subscriber growth; an increase in subscriber acquisition costs and subscriber
equipment subsidies; an unexpected equipment shortage; impediments to the
retransmission of distant broadcast network signals; an unexpected business
interruption due to the failure of external third-parties to remediate Year
2000 issues; an increase in competition from cable, other direct broadcast
satellite system operators, and other providers of subscription television
services; the introduction of new technologies and competitors into the
subscription television business; general business and economic conditions; and
other risk factors described from time to time in the Company's reports filed
with the Securities and Exchange Commission. All statements herein other than
statements of historical fact, including, without limitation, the statements
under "Management's Discussion and Analysis of Results of Operations and
Financial Condition -- Liquidity and Capital Resources," and "Business"
regarding the Company's profitability, financial position, liquidity and
capital requirements are forward-looking statements. Although the Company
believes that the expectations reflected in such forward-looking statements are
reasonable, it can give no assurances that those expectations will prove to
have been correct. Certain other important factors that could cause actual
results to differ materially from the Company's expectations ("Cautionary
Statements") are disclosed in this report. All written forward-looking
statements by or attributable to the Company or persons acting on its behalf
contained in this report are expressly qualified in their entirety by the
Cautionary Statements.
As used herein, unless the context requires otherwise, the term "Company"
includes Golden Sky Systems, Inc. and its consolidated subsidiaries. The term
"NRTC" refers to the National Rural Telecommunications Cooperative, an
organization whose members are engaged in the distribution of
telecommunications and other services in rural America. The term "Rural DIRECTV
Markets" means those areas in the United States in which the NRTC and certain
of its members and affiliates (including the Company) have the exclusive right
to provide DIRECTV services to residential customers.
GENERAL
The Company is the second largest independent provider of programming by
DIRECTV, the leading direct-broadcast satellite ("DBS") company serving the
continental United States. The Company markets and provides the programming
services of DIRECTV ("DIRECTV Programming") on an exclusive basis to
residential customers in certain Rural DIRECTV Markets and on a non-exclusive
basis to residents of multiple-dwelling units ("MDUs") and commercial
customers. The Company has obtained the exclusive right to provide DIRECTV
Programming to homes in its Rural DIRECTV Markets under agreements between the
Company and the NRTC. The NRTC and its DBS members and affiliates (including
the Company) provide DIRECTV Programming in Rural DIRECTV Markets pursuant to
an agreement between the NRTC and Hughes Communications Galaxy, Inc.
("Hughes"), DIRECTV's predecessor-in-interest. The Company estimates that the
Rural DIRECTV Markets comprise approximately 9.0 million households or
approximately 9% of total U.S. television households, but account for
approximately 1.0 million, or approximately 22%, of total DIRECTV customers.
Since its formation by management in June 1996 through January 31, 1999,
the Company has:
o acquired 50 Rural DIRECTV Markets in 23 states with approximately 1.8
million households and 129,800 subscribers at the dates of acquisition;
o increased its subscriber base in these markets by approximately 83.3% in
the aggregate, to approximately 238,000, achieving a subscriber
penetration rate of approximately 13.5% through aggressive marketing and a
local, service-driven approach to the customer; and
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o commenced marketing and distributing DIRECTV Programming to approximately
4,600 commercial and MDU customers in five cities near its Rural DIRECTV
Markets, with rights to provide such services on a non-exclusive basis
nationwide.
To date, the Company, together with its parent company, Golden Sky DBS,
Inc., a Delaware corporation ("Golden Sky DBS"), and the parent company of
Golden Sky DBS, Golden Sky Holdings, Inc., a Delaware corporation ("Holdings"),
has raised an aggregate $87.4 million of equity capital in financings led by
investment funds affiliated with Burr, Egan, Deleage & Co./Alta Communications,
Spectrum Equity Investors, L.P., BancBoston Ventures Inc., Norwest Equity
Partners and HarbourVest Partners LLC., including an aggregate $2.5 million
investment by management. The Company has also secured $150.0 million of senior
bank financing and $195.0 million gross proceeds from an offering (the "12 3/8%
Notes Offering") of 12 3/8% Senior Subordinated Notes due 2006 of the Company
(the "12 3/8% Notes") and approximately $100.0 million gross proceeds from an
offering (the "13 1/2% Notes Offering") of 13 1/2% Senior Discount Notes due
2007 of Golden Sky DBS (the "13 1/2% Notes"). See "Management's Discussion of
Results of Operations and Financial Condition -- Liquidity and Capital
Resources" and "Certain Relationships and Related Transactions."
Since inception, the Company's recurring revenue has increased rapidly due
to internal subscriber growth and a low average annual churn rate
(approximately 9% for the twelve months ended December 31, 1998). The Company's
net internal subscriber growth in its Rural DIRECTV Markets during 1998 totaled
approximately 80,300. This represented approximately 6.9% of DIRECTV's net new
subscribers nationwide for the period, although total households in the
Company's Rural DIRECTV Markets approximated just 1.5% of all television
households in the continental United States. Although the Company incurs
substantial costs to add subscribers, it has relatively low recurring costs to
service them. The Company believes these factors provide an opportunity to
increase operating leverage and provide strong growth in EBITDA. The Company
had EBITDA of negative $5.4 million and negative $20.0 million for the years
ended December 31, 1997 and 1998, respectively.
The Company believes that its exclusive right to provide DIRECTV
Programming in its Rural DIRECTV Markets is attractive for the following
reasons:
o DIRECTV Programming. The Company believes that marketing DIRECTV, the
country's leading DBS provider, gives it a competitive advantage over
providers of other subscription television services. DIRECTV offers more
channels than competing services at a comparable price, including a wide
variety of programming, exclusive sports packages (such as NFL SUNDAY
TICKET) and a large selection of pay-per-view movies and events. The
Company capitalizes on the recognition of DIRECTV's brand name and on
DIRECTV's programming advantages to broaden the Company's subscriber base
in its Rural DIRECTV Markets. DIRECTV currently has over 50% of all DBS
subscribers nationwide.
o Limited Competition in Rural Markets. Competition from cable television
providers in Rural DIRECTV Markets is often limited. Many households in
rural markets are not passed by traditional cable systems or are served by
analog systems with a small channel capacity (i.e., less than 40 channels)
and poor quality signal relative to DBS service. Given the relatively low
housing density in these markets, the build-out of new systems or upgrade
of existing systems may not be cost-effective. Other entertainment
options, such as theaters, movies and sporting events, may also be
limited. The Company believes that this market environment contributes to
a subscriber penetration rate within the Rural DIRECTV Markets that is
currently nearly three times the penetration rate for DIRECTV in other
U.S. markets.
o National Marketing, Distribution and Manufacturing Support. DIRECTV
supports local providers, such as the Company, with a national marketing
campaign, including television and print advertising, and through
alliances with strategic partners such as Bell Atlantic and GTE. DIRECTV
also supports its local providers with an extensive retail distribution
network, offering more channels of distribution and more retail
distribution points than competing services. Three major consumer
electronics manufacturers currently compete to provide customers with DBS
equipment. Management believes that competition among DBS equipment
providers results in greater availability, continued product innovation
and lower equipment costs compared to single-source DBS equipment required
for some competing services.
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o Consolidation Opportunity. Ownership of Rural DIRECTV Markets has
historically been fragmented, creating an opportunity for the Company to
grow through acquisitions, rationalize operations and create operating
leverage. Because most of the operators from whom the Company has acquired
or may acquire Rural DIRECTV Markets have not engaged in significant
marketing efforts, the Company believes it has the potential to increase
subscriber penetration significantly following such acquisitions.
Pursuant to its agreements with the NRTC, the Company has the exclusive right
to provide DIRECTV Programming in its Rural DIRECTV Markets, and receives the
monthly service revenue from all DIRECTV subscribers in such markets regardless
of the subscribers' original point of purchase.
In addition to its business in Rural DIRECTV Markets under agreements with
the NRTC, the Company has developed other business relationships with DIRECTV
and its affiliated companies. For example, the Company was chosen in January
1998 by DIRECTV to market and provide DIRECTV Programming nationally to
residents of MDUs and commercial establishments as a Master System Operator. In
February 1998, the Company began marketing and providing DIRECTV Programming to
residents of MDUs and commercial establishments in five major metropolitan
areas near its rural territories. The Company intends to focus its MDU and
commercial activities on high-growth urban areas near its Rural DIRECTV Markets
to create a larger universe of potential subscribers while maintaining its
fixed cost base.
STRATEGY
The Company intends to leverage its competitive strengths by pursuing the
following strategies:
o Emphasize Direct Sales and Local Customer Service. The Company
believes a commitment to a strong local presence generates rapid
subscriber growth, higher customer satisfaction and lower churn, and
ultimately greater revenue and EBITDA. The Company has created a
highly decentralized operating structure that permits managers to
respond quickly and flexibly to local needs. Management believes that
local presence differentiates the Company from other major DIRECTV
and DBS providers and is a key element in the Company's strategy for
attracting and retaining subscribers. Since inception, the Company
has opened 63 offices in its Rural DIRECTV Markets. The Company
provides sales, installation and customer service directly through
these offices and in conjunction with more than 350 local dealers.
The Company believes that focused local marketing significantly
enhances the existing national marketing efforts of DIRECTV and its
national distribution partners, and that local customer service
increases customer satisfaction and is a major contributor to the
Company's low churn rate. The Company complements its local presence
from its headquarters in Kansas City, Missouri with centralized
sales, marketing, operational and administrative support, including
overflow and after-hours customer support from a national call center
that operates 24 hours a day, seven days a week.
o Acquire Additional Rural DIRECTV Markets. The Company is aggressively
pursuing the acquisition of additional Rural DIRECTV Markets held by
original NRTC licensees, a majority of which are owned by rural
electric and television cooperatives for whom offering DIRECTV
Programming is an ancillary business. The Company is continually
evaluating acquisition prospects and expects to continue to enter
into acquisition agreements and complete acquisitions of additional
Rural DIRECTV Markets consistent with its growth strategy. The
Company is one of two companies actively consolidating Rural DIRECTV
Markets. The Company estimates that approximately 100 Rural DIRECTV
Markets, comprised of approximately 2.0 million households, are still
owned by original NRTC members.
o Develop Related Business Opportunities. The Company plans to leverage
its local sales and support infrastructure by expanding its base of
potential customers and product offerings. The Company has commenced
marketing to MDUs and commercial establishments in five cities near
its Rural DIRECTV Markets, including Dallas/Ft. Worth, Texas; Denver,
Colorado; Ft. Myers, Florida; Kansas City, Missouri; and Las Vegas,
Nevada. As of January 31, 1999, the Company had access to
approximately 32,000 MDUs via "right of entry" agreements, with
approximately 4,400 active subscribers. In addition, the Company is
evaluating other telecommunications products and services that could
be offered to customers using the
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Company's existing marketing and distribution infrastructure. In May 1998,
the Company commenced test marketing of DirecPC, a satellite-based
Internet access service provided by a corporate affiliate of Hughes.
SALES AND DISTRIBUTION
The Company offers DIRECTV Programming to consumer and business segments
in its Rural DIRECTV Markets through two separate but complementary sales and
distribution channels.
Direct Sales Force
The Company has established direct sales forces in all but one of its
Rural DIRECTV Markets, and has Company-owned full service retail stores located
in substantially all its Rural DIRECTV Markets. The Company currently has
approximately 250 direct salespeople and supports its direct sales staff and
its local offices with an advertising campaign that the Company believes is
both creative and consistent. The Company also seeks to develop close
relationships with independent dealers of DBS equipment and provides marketing,
subscriber authorization, installation and customer service support to enhance
subscriber additions from such dealers. Wherever possible, the Company's
arrangements with dealers are exclusive. In connection with the sale of a DBS
unit and a subscription to DIRECTV Programming offered by the Company, a dealer
retains the proceeds from the sale of the equipment and earns a one-time
commission paid by the Company. The Company retains the ongoing monthly
subscription revenue from the subscriber. For certain equipment sold through
the indirect dealer network, the Company provides a subsidy, thus lowering the
price of the equipment for the consumer. The Company believes that it can
increase penetration more rapidly through its direct sales approach instead of
relying, as some DTH providers have, upon the consumer to take the initiative
to purchase the product and services.
Other Distribution Channels
In addition to the Company's direct sales force, the Company utilizes
other distribution channels to offer DIRECTV Programming to potential
subscribers in the Company's Rural DIRECTV Markets by (i) national retailers
selected by DIRECTV, (ii) consumer electronics dealers authorized by DIRECTV to
sell DIRECTV Programming and (iii) satellite dealers and consumer electronics
dealers authorized by five regional sales management agents selected by
DIRECTV. Similar to the Company's indirect dealer network, the Company pays a
one-time commission to these distribution channels for the sale of DIRECTV
Programming to a subscriber located in the Company's Rural DIRECTV Markets and
the Company receives all monthly programming revenue associated therewith,
regardless of what outlet originally sold DIRECTV Programming to the
subscriber.
MARKETING
Management believes that direct broadcast satellite services can compete
favorably with medium and low power direct-to-home ("DTH"), cable and other
subscription television services on the basis of superior signal quality,
channel capacity, programming choice and price. The Company complements the
extensive existing marketing effort of DIRECTV and its other national
distribution partners through focused local marketing and sales, including
local print and radio advertising to promote general market acceptance of
DIRECTV Programming. The Company believes that, to date, there has been no
significant local presence to drive such local marketing and sales efforts.
The Company also implements support-advertising programs for its indirect
distribution channels. The Company's marketing efforts emphasize the value of
premium subscription plan offerings in order to maximize revenue per customer.
Specific promotions, such as offering new subscribers an initial month's
service at no charge, have been implemented to motivate customers to purchase
such plans, and the Company has incentive-based sales compensation for both the
direct and dealer sales forces to promote and sell premium subscription plans.
A key element of the Company's marketing strategy is to offer value-priced
DBS equipment and installation through the use of subsidies on direct sales of
equipment and installations. The Company offers various types of DBS equipment
and accessories through its direct sales force and retail locations. The
Company is able to take advantage of volume discounts in purchasing this
equipment from the NRTC and other vendors. In addition, dealers
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are motivated to lower the prices at which they offer DBS equipment and
installation by the Company's volume-based commission structure.
CUSTOMER SERVICE
The Company provides customer service from each of its local offices.
Generally offices are staffed from 9 a.m. to 7 p.m., six days a week. Local
managers are responsible for managing customer accounts receivable and churn.
The Company believes it can sustain its historical average churn rate by
providing local customer service and aggressively managing collections.
Overflow and after hours assistance is provided 24 hours a day, seven days a
week, by the Company's national call center located in Kansas City, Missouri.
The Company also provides professional installation services and technical
assistance in each of its offices.
OVERVIEW OF THE DTH INDUSTRY
DTH services encompass all types of television transmission from
satellites directly to the home. The FCC has authorized two types of satellite
services for transmission of television programming: Direct Broadcast Satellite
Services (commonly referred to as "DBS"), which operate at high power (120 to
240 watts per frequency channel) in the Ku-band, and Fixed Satellite Service
(commonly referred to as low power and medium power DTH), which includes low
power services transmitting in the C-band, as well as medium power (20 to 100
watts per frequency channel) services transmitting in the Ku-band. Both DBS and
medium power DTH satellites are used for digital satellite television services.
DBS provides high quality video and audio signals and can be received by an
18-inch dish. Medium and low power DTH signals require home satellite dishes of
27 inches to six feet in diameter (depending on the geographical location of
the dish and wattage per frequency channel). See "-- DIRECTV." DIRECTV, United
States Satellite Broadcasting Company ("USSB") and EchoStar Communications
Corporation ("EchoStar") are the only current domestic providers of DBS
services. All other DTH domestic satellite television providers currently
provide medium or low power DTH services. See "-- Competition."
A DBS system consists of an uplink center, one or more orbiting satellites
and the subscribers' receiving equipment. The uplink center collects
programming from on-site video equipment and from the direct feeds of
programmers. Through antennae located at the uplink center, the operator
transmits, or uplinks, the programming to transponders located on its
geostationary satellite. The transponders receive and amplify the digital
signal and transmit it to receiving dishes within the area covered by the
satellite. The digital signal is then transmitted via coaxial cable to the
subscribers' receiver, where it is converted into an analog signal that allows
it to be received by the subscribers' televisions. System security is
maintained through the use of reprogrammable access cards that must be inserted
into each subscriber's decoder box to unscramble programming signals.
DBS providers are afforded technological and regulatory advantages over
medium and low power DTH services. The FCC requires the satellites used to
provide DBS services to be spaced at greater intervals than medium and low
power DTH satellites (nine degrees orbital spacing over North America compared
to two degrees orbital spacing). The greater orbital spacing is intended to
ensure that the signals transmitted by DBS providers can be received by a small
dish, free of interference from adjacent satellites. The closer medium and low
power DTH satellite orbital spacing requires the use of a larger, 27-inch to
six-foot dish to eliminate interference from nearby satellites. See "--
Competition -- Other DTH Providers." In addition, DBS satellites are allowed to
broadcast with much higher power levels than medium and low power DTH
satellites. The combination of greater orbital spacing and higher power enables
providers of DBS services to obtain a superior balance of small dish size,
signal quality in adverse weather conditions and increased channel capacity.
DIRECTV
DIRECTV is a multichannel DBS programming service initially introduced to
U.S. television households in 1994. DIRECTV currently offers in excess of 220
channels of near laser disc quality video and CD-quality audio programming, and
transmits via three high-power Ku band satellites (only two are needed to
support transmission of DIRECTV Programming), each containing 16 transponders.
As of December 31, 1998, there were approximately 4.5 million DIRECTV
subscribers.
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The Company believes that DIRECTV services are superior to those provided
by other DTH service providers and that DIRECTV's extensive programming,
including up to 80 channels of pay-per-view movies and events, various sports
packages and the exclusive NFL SUNDAY TICKET(TM), will continue to contribute
to the growth of DIRECTV's subscriber base and DIRECTV's market share for DTH
services in the future. In addition, the Company believes that DIRECTV's
national marketing campaign provides the Company with significant marketing
advantages over other DTH competitors. DIRECTV's share of current DBS and
medium power DTH subscribers was approximately 51.1% as of January 31, 1999.
DIRECTV added approximately 1.2 million new subscribers (net of churn) during
the twelve months ended December 31, 1998, which was a greater increase than
any other DBS or medium power DTH provider and accounted for approximately
48.1% of all new DBS and medium power DTH subscribers. Although DIRECTV's share
of new subscribers can be expected to decline as existing and new DTH providers
aggressively compete for new subscribers, the Company expects DIRECTV to remain
the leading provider of DBS and medium power DTH services in an expanding
market.
The equipment required for reception of DIRECTV Programming (a DBS unit)
includes an 18-inch satellite antenna, a digital receiver approximately the
size of a standard VCR and a remote control, all of which are used with
standard television sets. Each DBS receiver includes a "smart card" that is
uniquely addressed to it. The smart card, which can be removed from the
receiver, prevents unauthorized reception of DIRECTV services and retains
billing information on pay-per-view usage, which information is sent at regular
intervals from the DBS receiver telephonically to DIRECTV's authorization and
billing system. The small size of the dish makes it more acceptable to housing
communities and organizations that prohibit the installation of larger dishes
due to their appearance. The DBS receiver captures and translates the signal
and interfaces with an easy to use on-screen electronic program guide, which
includes a parental locking/ratings control function.
DBS units also enable subscribers to receive USSB programming. USSB is a
DBS service providing 28 channels of video programming transmitted via five
transponders it owns on DIRECTV's first satellite. USSB primarily offers Time
Warner and Viacom premium satellite programming services, such as multiple
channels of HBO and Showtime, which are not available through DIRECTV but which
are generally complementary to DIRECTV Programming. As of December 31, 1998,
approximately 50% of DIRECTV's 4.5 million subscribers received USSB
programming.
On December 14, 1998, Hughes announced that it would acquire USSB for
approximately $1.3 billion. Hughes said it would combine its DIRECTV business
with USSB's assets and satellite slots to expand its DBS programming lineup
through the addition of premium multi-channel movie services such as HBO and
Showtime. Hughes also announced that it plans to use certain of the DBS
satellite frequencies to be acquired for the delivery of Spanish-language
programming services. On January 22, 1999, DIRECTV announced that it would
acquire certain of Primestar's and one of its affiliates' assets for
approximately $1.8 billion. The Company is not yet able to assess the effect of
Hughes' acquisition of USSB on its future business, financial position or
results of operations.
DBS equipment is now produced by major manufacturers under brand names
including RCA, Sony, Hughes and others. DBS equipment is currently sold at
retail outlets throughout the U.S. for prices typically ranging from $99 to
$299, depending upon the generation of the equipment, the level of features and
the retail outlet. Prices for DBS equipment have declined consistently since
introduction, further stimulating demand for DIRECTV services.
Programming
DIRECTV programming includes:
o cable networks, broadcast networks and audio services available for
purchase in tiers for a monthly subscription fee,
o premium services available a la carte or in tiers for a monthly
subscription fee,
o sports programming (major professional league sports packages,
including the exclusive NFL SUNDAY TICKET, regional sports networks
and seasonal college sports packages) available for a yearly,
seasonal or monthly subscription fee, and
o movies from all major Hollywood studios and special events available
for purchase on a pay-per-view basis.
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Satellite and premium services available a la carte or for a monthly
subscription are priced comparably to cable. Pay-per-view movies are available
for viewing on multiple channels at staggered starting times so that a viewer
does not have to wait more than 30 minutes to view a particular pay-per-view
movie.
DIRECTV periodically adjusts its programming packages to provide the best
channel mix possible at various price points. The following is a summary of
some of the more popular DIRECTV Programming packages currently available from
the Company:
Total Choice(TM): Package of 60 video channels, including two Disney
channels and in-market regional sports network, 31 CD audio channels and
access to up to 55 channels of pay per view movies and events, which
retails for $29.99 per month. Total Choice(TM) is DIRECTV's most popular
offering. Total Choice(TM) Platinum, Gold, Silver and Plus Encore offer
additional programming at higher retail prices.
Plus DIRECTV: Package of 16 video channels, 31 CD audio channels and
access to up to 55 channels of pay per view movies and events, which
retails for $14.99 per month. Plus DIRECTV consists of channels not
typically offered on most cable systems and is intended to be sold to
existing cable subscribers to augment their cable or other satellite
services.
NFL SUNDAY TICKET: All out-of-market NFL Sunday games. NFL SUNDAY TICKET
is exclusive to DIRECTV with respect to small dish providers through at
least the end of the 1999-2000 football season.
Other sports programming packages include:
Sports Choice: Package of 24 channels (including over 18 regional sports
networks) and five general sports networks (the Golf Channel, NewSport,
Speedvision, Classic Sports Network and Outdoor Life).
NHL CENTER ICE: Approximately 500 out-of-market NHL games.
MLB Extra Innings: Approximately 800 out-of-market major league baseball
games.
ESPN Full Court: Hundreds of college basketball games.
ESPN Game Plan: Up to ten college football games every Saturday.
DIRECTV generally does not provide local broadcast programming via
satellite. However, seamless switching between satellite and broadcast
programming provided by other sources is possible with all DBS units. In
addition, DIRECTV provides programming from affiliates of the national
broadcast networks to subscribers who are unable to receive networks over the
air and do not subscribe to cable.
RELATIONSHIP WITH THE NRTC AND DIRECTV
The NRTC acquired the right to provide DIRECTV Programming to residential
households in 1992 and commercial establishments located in the Rural DIRECTV
Markets in 1994, pursuant to an agreement with Hughes (the "Hughes Agreement").
The NRTC subdivided its rights to provide such services into approximately 250
geographically based Rural DIRECTV Markets, then sold a portion of its rights
to the individual Rural DIRECTV Markets to NRTC members pursuant to agreements
between the NRTC and its members (collectively, the "NRTC Agreements"). The
Company acquired from the NRTC the exclusive right to provide DIRECTV
Programming in each of its Rural DIRECTV Markets pursuant to an NRTC Agreement,
which is assigned to the Company with the consent of the NRTC and DIRECTV when
the Company acquires such Rural DIRECTV Market.
Pursuant to the NRTC Agreements, the Company is obligated to promote,
market and sell DIRECTV Programming in accordance with NRTC procedures and to
take all reasonable steps to ensure that DIRECTV Programming is not received at
any unauthorized locations or in any unauthorized manner. The Company also
purchases customer authorization, billing services and centralized
remittance-processing services from the NRTC pursuant to the NRTC Agreements.
The NRTC Agreements also contain customary provisions regarding payment
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terms, compliance with laws and indemnification and provide that both the NRTC
and DIRECTV must consent prior to the assignment or transfer by the NRTC member
party thereto of its rights or obligations under the NRTC Agreements, which
consent shall not be unreasonably withheld. The NRTC Agreements also contain
termination provisions which allow the NRTC to terminate such agreements (i) as
a result of termination of the Hughes Agreement, with the NRTC remaining
responsible for paying to the Company its pro rata portion of any refunds that
the NRTC receives from Hughes under the Hughes Agreement, (ii) if the Company
fails to make any payment due to the NRTC or otherwise breaches a material
obligation of the NRTC Agreement and such failure or breach continues for more
than 30 days after written notice from the NRTC or (iii) if the Company fails
to keep and maintain any letter of credit required to be provided to the NRTC
in full force and effect or to adjust the amount of the letter of credit as
required by the NRTC Agreements. The NRTC Agreements also require the Company
to comply with policies of the NRTC promulgated from time to time. The Company
and other NRTC-affiliated DIRECTV providers have disputed certain policies
proposed by the NRTC in the past that they believed did not comply with the
NRTC Agreements and applicable law. For example, in 1998, the NRTC proposed new
conditions to securing its approval of acquisitions that included changes to
all of the NRTC Agreements that, if adopted, could have had material adverse
financial consequences to the Company. The dispute was resolved without any
modifications to the NRTC Agreements and the Company's then pending
acquisitions were approved. In addition, the NRTC has adopted a policy
regarding its own interests in the subscriber information of NRTC members and
affiliates. The NRTC Agreements provide that NRTC members and affiliates,
including the Company, have "substantial proprietary interests" in and rights
to the information and data with respect to their subscribers. The NRTC and its
affiliates, including the Company, have differed over the import of these
rights and interests, which may have consequences in the event that the
Company's rights to offer DIRECTV Programming through the NRTC are terminated
or expire.
Pursuant to the NRTC Agreements, the Company has obtained from the NRTC
the exclusive right in its Rural DIRECTV Markets to market, sell and retain all
of the revenue from subscribers derived from the sale of most programming
transmitted by the DIRECTV satellites over the 27 frequencies owned by Hughes.
The Company pays the NRTC for the wholesale cost of such programming and a fee
to DIRECTV based upon 5% of the programming revenue. The NRTC has the right to
choose to provide certain Non-Select Services, such as NFL SUNDAY TICKET, as
DIRECTV and the content providers enter into new agreements. "Non-Select
Services" are services not generally included in the DIRECTV Programming
provided by the Company, because providers of such programming require minimum
subscriber guarantees, advance payments or other similar commitments, which the
NRTC declines to give. The Company retains 5% of the revenue from Non-Select
Services purchased by its subscribers and remits the balance to DIRECTV.
The NRTC Agreements (and presumably the Hughes Agreement) expire when
Hughes removes its current satellite(s) from their assigned orbital locations.
According to Hughes and USSB, the DIRECTV satellites have estimated orbital
lives of at least 15 years from their respective launches in December 1993 and
1994. The Company believes that the Hughes Agreement provides the NRTC with a
right of first refusal to obtain DBS services (other than programming services)
in substantially the same form as such DBS Services are provided under the
existing Hughes Agreement in the event that Hughes elects to launch one or more
successor satellites upon the removal of the present satellites from their
assigned orbital locations. The NRTC Agreements do not expressly provide an
equivalent right of first refusal for the NRTC members to acquire DBS services
through the NRTC should the NRTC exercise any right of first refusal under the
Hughes Agreement. The Company is an affiliate of the NRTC.
COMPETITION
The Company faces competition both for acquisitions of Rural DIRECTV
Markets from one other company, and within its exclusive Rural DIRECTV Markets
from a broad range of companies offering communications and entertainment
services, including cable operators, other satellite service providers,
wireless cable operators, telephone companies, television networks and home
video product companies. Many of the Company's competitors have greater
financial and marketing resources than the Company, and the business of
providing subscription and pay television programming is highly competitive.
The Company believes that quality and variety of programming, signal quality
and service and cost will be the key bases of competition.
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Competition for Acquisition of Rural DIRECTV Markets
The Company is aware that at least one other company, Pegasus
Communications Corporation ("Pegasus"), currently is pursuing the same goal as
the Company of consolidating Rural DIRECTV Markets. Pegasus currently is the
largest independent provider of DIRECTV services and has substantially greater
financial resources than the Company. There can be no assurance that the
marketing and sales efforts or competing acquisition strategies of Pegasus or
other competitors will not have an adverse effect on the Company's ability to
execute its acquisition strategy.
Competing Subscription Television Providers
Cable Television Providers
Cable operators in the United States serve approximately 64 million
subscribers, representing over 65% penetration of television households passed
by cable systems. Cable operators typically offer 30 to 80 channels of
programming at an average monthly subscription price of approximately $35.
While cable companies currently serve a majority of the U.S. television market,
the Company believes many may not be able to provide the quality and variety of
programming offered by DIRECTV until they significantly upgrade their coaxial
systems. Many cable television providers are in the process of upgrading their
systems, and other cable operators have announced their intentions to make
significant upgrades. Many proposed upgrades, such as conversion to digital
format, fiber optic cabling, advanced compression technology and other
technological improvements, when fully completed, will permit cable companies
to increase channel capacity, thereby increasing programming alternatives, and
to deliver a better quality signal. However, although cable systems with
adequate channel capacity may offer digital service without major rebuilds, the
Company believes that other cable systems that have limited channel capacity
like those in most of the Rural DIRECTV Markets will have to be upgraded to add
bandwidth in order to provide digital service. The Company believes that such
upgrades will require substantial investments of capital and time to complete
industry-wide. As a result, the Company believes that there will be a
substantial delay before cable systems in the Rural DIRECTV Markets can offer
programming services equivalent to digital DBS providers and that some cable
systems in those markets may never be upgraded, subject to advances in digital
compression technology currently under development.
The Company expects to encounter a number of challenges in competing with
cable television providers. First, cable operators have an entrenched position
in the marketplace. The Company believes that its current strategy of targeting
for acquisition Rural DIRECTV Markets that are not served by cable or are
underserved by cable partially offsets the cable industry's position in the
consumer marketplace. Second, the up-front costs to the consumer associated
with purchasing and installing DBS equipment are higher than the up-front costs
for installation of cable television. However, prices for DBS equipment have
declined consistently since introduction, and the Company believes that
competition among DBS equipment vendors and technological improvements will
create continuing downward pressure on prices. Third, current DBS systems,
unlike cable, do not provide local broadcast programming via satellite,
although seamless switching between satellite and broadcast programming from
other sources is possible with all DBS units. In addition, DIRECTV provides
programming, from affiliates of the national broadcast networks to subscribers
who are unable to receive networks over the air and do not subscribe to cable.
The Company believes that the significant capital costs of upgrading cable
systems to provide similar services, combined with the marketing strength of
DBS providers such as DIRECTV, presents DBS providers with an opportunity to
take substantial market share for pay television services from cable in the
Rural DIRECTV Markets.
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Other DTH Providers
EchoStar, the only other DBS provider, commenced national broadcasting of
programming in March 1996 and currently broadcasts over 120 video channels and
30 audio channels. EchoStar has 21 licensed channel frequencies at the 119
degrees W.L. full continental United States ("CONUS") orbital position and has
69 frequencies in other partial CONUS orbital locations. EchoStar reported
approximately 2.1 million subscribers as of February 28, 1999. On November 30,
1998, EchoStar announced that it had entered into an agreement to acquire
certain satellite-television assets from The News Corporation Limited and MCI
Worldcom Inc. The satellite-television assets to be acquired by EchoStar
include a license for 28 DBS frequencies at 110 degrees W.L. (a full CONUS
orbital location), two satellites to be delivered in orbit, and a direct
broadcast operations facility. Consummation of these asset purchases by
EchoStar may enable it to significantly expand its DBS and other programming
offerings, thereby potentially strengthening its competitive strength relative
to DIRECTV and the Company. The Company believes that it can successfully
compete with EchoStar in the DBS market because of DIRECTV's brand name and its
significantly larger distribution networks and greater number of manufacturers
of the equipment used to receive DTH services.
Primestar, Inc. ("Primestar") a medium-power DTH provider owned primarily
by a consortium of cable companies including TCI, launched the first digital
DTH satellite television service in 1994. As a result of the successful launch
and operation of a new satellite in early 1997, Primestar increased its
programming services to approximately 150 channels. As of January 31, 1999,
Primestar had approximately 2.3 million subscribers. On January 22, 1999,
DIRECTV announced that it had reached an agreement with Primestar to acquire
Primestar's 2.3 million subscribers and related high-power satellite assets
from Primestar and one of its affiliates in two transactions valued at
approximately $1.8 billion. The Company is not yet able to assess the effect of
DIRECTV's acquisition of Primestar on its future business, financial position,
or results of operations.
Low power C-band operators reported approximately 1.9 million subscribers
as of January 31, 1999. The C-band/TVRO market has been built primarily on
subscribers who live in markets not served by cable television. C-band
equipment, including the six- to eight-foot dish necessary to receive the low
power signal, currently costs approximately $2,000 and is distributed by local
TVRO satellite dealers. The Company believes that DBS services have significant
advantages over low power C-band service in equipment cost, dish size and range
of programming packages. The number of C-band subscribers declined by
approximately 164,000 during 1998.
Other Competitors
Wireless cable systems (which are usually analog) typically offer only 20
to 40 channels of programming, which may include local programming. Wireless
cable requires a direct line of sight from the receiver to the transmitter,
which creates the potential for substantial interference from terrain,
buildings and foliage in the line of sight. However, while it is expected that
most large wireless operators (especially certain of those backed by local
telephone companies) will upgrade to digital technology over the next several
years, such upgrades will require the installation of new digital decoders in
customers' homes and modifications to transmission facilities, at a potentially
significant cost.
Certain regional telephone companies and other long distance companies
could become significant competitors in the future, as they have expressed an
interest in becoming subscription multichannel video programming distributors.
Furthermore, the Telecommunications Act of 1996 (the "1996 Act") removes
barriers to entry which previously inhibited local telephone companies from
competing, or made it more difficult for such telephone companies to compete,
in the provision of video programming and information services. Certain
telephone companies have received authorization to test market video and other
services in certain geographic areas using fiber optic cable and digital
compression over existing telephone lines. Estimates for the timing of
wide-scale deployment of such multi-channel video service vary, as several
telephone companies have pushed back or cancelled originally announced
deployment schedules.
As more telephone companies begin to provide multichannel video
programming and other information and other communications services to their
customers, additional significant competition for subscribers will develop.
Among other things, telephone companies have an existing relationship with
substantially every household in their
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service area, substantial financial resources, and an existing infrastructure
and may be able to subsidize the delivery of programming through their position
as the sole source of local wireline telephone service to the home.
Most areas of the U.S. are covered by traditional territorial over-the-air
VHF/UHF television broadcasters. Consumers can receive from three to ten
channels of over-the-air programming in most markets. These stations provide
local, network and syndicated programming free of charge, but each major market
is generally limited in the number of programming channels. On August 5, 1997,
Congress approved the release of additional digital spectra for use by VHF/UHF
broadcasters.
REGULATION
Unlike a cable operator, DBS operators such as DIRECTV are free to set
prices and serve customers according to their business judgment, without rate
of return or other regulation or the obligation not to discriminate among
customers. However, there are laws and regulations that affect DIRECTV and,
therefore, affect the Company. As an operator of a privately owned United
States satellite system, DIRECTV is subject to the regulatory jurisdiction of
the Federal Communications Commission (the "FCC"), primarily with respect to
(i) the licensing of individual satellites (i.e., the requirement that DIRECTV
meet minimum financial, legal and technical standards), (ii) avoidance of
interference with radio stations and (iii) compliance with rules that the FCC
has established specifically for DBS satellite licenses. As a distributor of
television programming, DIRECTV is also affected by numerous other laws and
regulations. The 1996 Act clarifies that the FCC has exclusive jurisdiction
over DTH satellite services and that criminal penalties may be imposed for
piracy of DTH satellite services. The 1996 Act also offers DTH operators relief
from private and local government-imposed restrictions on the placement of
receiving antennae. In some instances, DTH operators have been unable to serve
areas due to laws, zoning ordinances, homeowner association rules, or
restrictive property covenants banning the installation of antennae on or near
homes. In August 1996, the FCC promulgated rules designed to implement
Congress' intent by prohibiting any restriction, including zoning, land use or
building regulation, or any private covenant, homeowners' association rule, or
similar restriction on property within the exclusive use or control of the
antenna user where the user has a direct or indirect ownership interest in the
property, to the extent it impairs the installation, maintenance or use of a
DBS receiving antenna that is one meter or less in diameter or diagonal
measurement, except where such restriction is necessary to accomplish a clearly
defined safety objective or to preserve a recognized historic district. Local
governments and associations may apply to the FCC for a waiver of this rule
based on local concerns of a highly specialized or unusual nature. In November
1998, the FCC amended its rules to extend these protections to rental property
in those areas under the exclusive use or control of the renter. The 1996 Act
also preempted local (but not state) governments from imposing taxes or fees on
DTH services, including DBS. Finally, the 1996 Act required that multi-channel
video programming distributors such as DTH operators fully scramble or block
channels providing indecent or sexually explicit adult programming. If a
multi-channel video programming distributor cannot fully scramble or block such
programming, it must restrict transmission to those hours of the day when
children are unlikely to view the programming (as determined by the FCC). On
December 30, 1998, a three-judge federal court in Delaware held that this
provision was unconstitutional. The government has filed a notice indicating
its intent to appeal this decision to the United States Supreme Court.
In addition to regulating pricing practices and competition within the
franchise cable television industry, the Cable Television Consumer Protection
and Competition Act of 1992 (the "Cable Act") was intended to establish and
support existing and new multi-channel video services, such as wireless cable
and DTH, to provide subscription television services. DIRECTV and the Company
have benefited from the programming access provisions of the Cable Act and
implementing rules in that DIRECTV has been able to gain access to previously
unavailable programming services and, in some circumstances, has obtained
certain programming services at reduced cost. Any amendment to, or
interpretation of, the Cable Act or the FCC's rules that would permit cable
companies or entities affiliated with cable companies to discriminate against
competitors such as DIRECTV in making programming available (or to discriminate
in the terms and conditions of such programming) could adversely affect
DIRECTV's ability to acquire programming on a cost-effective basis, which would
have an adverse impact on the Company. Certain of the restrictions on
cable-affiliated programmers will expire in 2002 unless the FCC or Congress
extends such restrictions.
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The Cable Act also requires the FCC to conduct a rule-making proceeding
that will impose public interest requirements for providing video programming
on DTH licensees. In November 1998, the FCC adopted rules requiring DTH
licensees to provide reasonable and non-discriminatory access by qualified
candidates for elective office. These rules also require DTH licensees to set
aside four percent of the licensee's channel capacity for non-commercial
programming of an educational or informational nature.
While DTH operators like DIRECTV currently are not subject to the "must
carry" requirements of the Cable Act, the cable and broadcast television
industries have argued that DTH operators should be subject to these
requirements. In the event the "must carry" requirements of the Cable Act are
revised to include DTH operators, or to the extent that new legislation of a
similar nature is enacted, DIRECTV's future plans to provide local programming
will be adversely affected, and such must-carry requirements could cause the
displacement of possibly more attractive programming.
The Satellite Home Viewer Act of 1994 (the "SHVA") established the terms
and conditions under which a DTH operator, for a statutorily-mandated fee, may
claim a "compulsory" copyright license to retransmit "superstations" and
broadcast network programming to subscribers for private home viewing. The SHVA
currently is scheduled to expire on December 31, 1999, in which case DTH
operators would be required to negotiate in the marketplace to obtain the
necessary copyright clearances to retransmit superstations and broadcast
network programming. Legislation to extend the SHVA has been introduced in
Congress. This legislation also provides for a reduction in the royalty rates
payable under the SHVA and establishes new rules regarding the retransmission
of distant and local broadcast television stations by satellite carriers.
With respect the retransmission of broadcast network programming, the
compulsory license established by the SHVA is limited to DTH retransmissions to
persons in unserved households. In general, an "unserved household" is one that
cannot receive, through the use of a conventional outdoor rooftop antenna, a
sufficient over-the-air network signal, and has not, within 90 days prior to
subscribing to the DTH service, subscribed to a cable service that provides
that network signal. Until recently, a number of satellite providers, including
DIRECTV (and its distributors, including NRTC members and affiliates such as
the Company) received ABC, CBS, NBC and Fox network programming from PrimeTime
24 Joint Venture ("PrimeTime 24"). Certain television broadcast networks and
their affiliates have commenced litigation against PrimeTime 24 alleging that
the network programming offered by PrimeTime 24 has been retransmitted in
violation of the "unserved households" limitation of the SHVA.
The litigation commenced against PrimeTime 24 has resulted in the issuance
of permanent injunctions by courts in North Carolina and Florida prohibiting
PrimeTime 24 from providing the programming of certain broadcast networks to
subscribers in certain designated geographic areas. In North Carolina, the
court issued a permanent injunction restraining DIRECTV (and its distributors)
from providing retransmissions of any television station affiliated with ABC to
any household located within 75 miles of the transmission tower of WTVD, the
ABC affiliate serving the Raleigh-Durham market. The Florida injunction applies
nationwide and requires PrimeTime 24 to disconnect those customers for CBS and
Fox programming that are able to receive "a signal of Grade B intensity" (based
on Longley-Rice signal strength propagation maps) unless the local network
consents to continued service or a signal-strength test proves that a certain
quality of off-air service is unavailable to the customer. The Florida court
established February 28, 1999 as the deadline for compliance with the
injunction with respect to customers who first began receiving PrimeTime 24's
network programming after March 11, 1997; for customers who first received
service before that date, the compliance deadline is April 30, 1999. Additional
litigation against PrimeTime 24 alleging violations of the "unserved
households" limitation, brought in Texas by an NBC affiliate, is currently
pending.
In February 1999, DIRECTV announced that it was discontinuing
retransmission of the four broadcast networks received from PrimeTime 24 and
would instead distribute a different package of network affiliates to its
existing subscribers. On February 24, 1999 CBS, NBC, ABC and Fox asked the same
Federal District Court in Florida that had issued an injunction against
PrimeTime 24 to grant a temporary restraining order, preliminary injunction, and
contempt finding against DIRECTV for violating the SHVA. On February 25, 1999,
the court granted the requested temporary restraining order requiring DIRECTV
(and its agents and those who act in active concert or participation with
DIRECTV) not to deliver CBS or Fox programming to subscribers who do not live in
"unserved households." (For purposes of determining whether a subscriber is
"unserved," the court referred to a
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modified version of the Longley-Rice signal propagation model; the
modifications reflect an order adopted by the FCC on February 2, 1999 (see
below)). On March 12, 1999, DIRECTV and the broadcast networks announced that a
settlement of this litigation had been reached whereby DIRECTV agreed to
terminate its retransmission of NBC, CBS, ABC and Fox programming to ineligible
subscribers that are located with a local network affiliate's "Grade A" signal
strength contour as of June 30, 1999 and to terminate retransmission of such
network programming to ineligible subscribers in the "Grade B" signal strength
contour as of December 31, 1999. In addition, DIRECTV agreed to provide
discounted antennas to subscribers whose network programming service is
terminated.
A subscriber's eligibility to continue to receive network programming from
DIRECTV will be determined using the Individual Location Longley-Rice
technology approved by the FCC in a rulemaking order adopted on February 2,
1999. The FCC's rulemaking order was adopted in a proceeding commenced in
response to petitions for rulemaking filed by the NRTC and other satellite
providers. Although the FCC declined to changed the definition of a signal of
Grade B intensity, the agency did adopt a standardized method for predicting
signal strength at individual locations that could be used in place of taking
actual measurements. EchoStar has filed a petition for reconsideration of the
FCC's order.
In addition, in October 1998, EchoStar filed a lawsuit in the United
States District Court of Colorado seeking a declaratory ruling establishing a
predictive model for determining whether a household is "unserved" for purposes
of the SHVA based on a "Longley-Rice" predictive model that applies a criteria
of 95% of the locations receiving a Grade B signal 95% of the time with a 50%
degree of confidence. The lawsuit also asks the court to clarify the particular
means (e.g., antenna height and orientation) for measuring signal strength.
While the Company believes that it has complied to date with the SHVA in
providing network programming only to "unserved households" and the Company
does not believe that the interpretations of the SHVA applied by the Florida
and North Carolina federal courts will materially adversely affect the
Company's financial results or its ability to attract new subscribers, there
can be no assurance that the Company's inability to provide network services to
certain subscribers will not have such effects. In addition, should the Company
elect to continue to offer network services, there can be no assurance that the
costs of compliance with those interpretations will not be material. The
inability of DIRECTV and the Company to provide network programming to
subscribers in Rural DIRECTV Markets could adversely affect the Company's
average programming revenue per subscriber and subscriber growth.
In October 1997, the United States Copyright Office recommended that the
compulsory copyright fees for the retransmission of television "superstations"
and broadcast network affiliates by satellite providers be increased. The new
rates took effect on January 1, 1998. Although an exact comparison between
copyright fees payable by cable operators and by satellite providers is not
possible, it has been estimated that the new rates would be approximately 300%
and 900% of the rates applicable to cable providers in their provision of the
superstation signals and network signals, respectively. The United States Court
of Appeals for the District of Columbia Circuit has affirmed the decision to
increase the rates. Under the terms of the NRTC Agreements, the Company may
expect to have this cost passed along to it, unless the NRTC elects to absorb
all or a portion of the increased rate into the margin that it earns on the
provision of DIRECTV Programming.
YEAR 2000 COMPLIANCE
Many existing computer systems and software products use only two
character fields to identify dates. These programs were designed and developed
without consideration of the upcoming turn of the century. Significant
uncertainty exists in the software industry concerning the potential
consequences of the Year 2000 phenomenon. If not corrected, these computer
applications could fail or create erroneous information from the Year 2000 date
change. This issue affects virtually all organizations and can be very costly
and time consuming to correct. The Company has reviewed the Year 2000
compliance of its mission critical internally-controlled systems and believes
that such systems are Year 2000 compliant. However, there can be no assurance
that all of the software products currently used by the Company are in fact
Year 2000 compliant. The Company has engaged the services of a consultant to
assist in its assessment of the impact of the Year 2000 issue on the Company's
computerized systems and operations. Currently, the Company believes its costs
to successfully mitigate the impact of the Year 2000 issue will approximate
$200,000. Additionally, the Company is currently conducting surveys of all of
its vendors and other pertinent relationships to assess their readiness for
Year 2000 processing. The Company is significantly reliant
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on contracted data processing services from the NRTC and DIRECTV for customer
service, billing and remittance processing pursuant to the Company's
contractual relationship with the NRTC. The NRTC has informed the Company that
the computer systems that provide such services are not currently Year 2000
compliant, but that the majority of such systems will be compliant by September
1999. As to the NRTC's DBS Billing and Authorization System, the NRTC has
informed the Company that a small number of Year 2000 issues exist, and that
the appropriate changes have been requested and scheduled for development
action. The Company is reliant on DIRECTV for distribution of its DBS
programming services. The NRTC has informed the Company that DIRECTV expects to
establish Year 2000 compliance for its billing and authorization systems by the
end of the second calendar quarter of 1999. In addition to the NRTC and
DIRECTV, the Company is significantly reliant on other parties (such as its
suppliers of DSS equipment) for the successful conduct of its business. As
previously described, the Company is in the process of ascertaining the Year
2000 readiness of these third-parties. If the Company's plan is not successful
or is not completed in a timely manner, the Year 2000 issue could significantly
disrupt the Company's ability to transact business with its customers and
suppliers, and could have a material impact on its operations. There can be no
assurance that the systems of the NRTC, DIRECTV and other companies with which
the Company's systems interact or depend will be compliant by the end of 1999,
or that any such third party failure would not have an adverse effect on the
Company's business or its operations. Any adverse impact on subscribers in the
Company's Rural DIRECTV Markets could also have a material adverse effect on
the Company's business, financial condition and results of operations. See
"Management's Discussion and Analysis of Results of Operations and Financial
Condition -- Year 2000 Compliance."
MANAGEMENT AND EMPLOYEES
The Company has assembled an experienced management team to execute its
business strategy. Certain members of the senior management team have
significant experience working together. The Company's executive team brings to
the Company extensive business acquisition experience in the telecommunications
industry, as well as experience in the sales and delivery of a full array of
communications services to customers in rural America. As of December 31, 1998,
the Company had approximately 800 employees. The Company is not a party to any
collective bargaining agreement and considers its relations with its employees
to be good.
ITEM 2. PROPERTIES
The Company is currently headquartered in leased space in Kansas City,
Missouri. On January 27, 1999, the Company entered into a new lease with
respect to approximately 35,000 square feet of office space in Kansas City,
Missouri. Annual rent under this new lease will approximate $570,000 and the
lease will terminate in August 2002. The Company expects to move its principal
executive offices to this location in the second quarter of 1999. The Company
also leases approximately 65 local sales and customer service offices in its
Rural DIRECTV Markets. The Company expects these facilities to be adequate for
its needs in the foreseeable future. Management believes that the Company will
be able to lease office and retail space in its Rural DIRECTV Markets as needed
on acceptable terms.
ITEM 3. LEGAL PROCEEDINGS
The Company is not currently a party to any material legal proceedings.
The Company is, from time to time, involved in claims and legal proceedings
that arise in the ordinary course of business. In the Company's opinion, any
ultimate liability with respect to such claims will not have a material adverse
effect on its consolidated results of operations, cash flows or financial
position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No items were submitted to a vote of security holders during the fourth
quarter of 1998.
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PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
As of March 30, 1999, all 1,000 authorized, issued and outstanding shares
of the Company's Common Stock ($.01 par value) were held by Golden Sky DBS.
There is currently no established public trading market for the Company's
Common Stock. All of the outstanding capital stock of Golden Sky DBS is owned
by Holdings. There is no established public trading market for the common stock
($.01 par value) of Holdings.
The Company has never declared or paid any cash dividends on its common
stock and does not expect to do so in the foreseeable future. Payment of any
future dividends will depend upon the earnings and capital requirements of the
Company, the Company's debt facilities, and other factors the Board of
Directors considers appropriate. The Company currently intends to retain its
earnings, if any, to support future growth and expansion. The Company's ability
to declare dividends is affected by covenants in its debt facilities that
prohibit it from declaring dividends and its subsidiaries from transferring
funds in the form of cash dividends, loans or advances to Golden Sky DBS or
Holdings.
ITEM 6. SELECTED FINANCIAL DATA
The selected historical consolidated financial data as of December 31,
1996, 1997 and 1998 and for the periods then ended presented below were derived
from the audited consolidated financial statements of the Company included
elsewhere in this Report. The following information should be read in
conjunction with "Management's Discussion and Analysis of Results of Operations
and Financial Condition" and the Company's Consolidated Financial Statements
and notes thereto included elsewhere in this Report.
<TABLE>
<CAPTION>
INCEPTION TO YEARS ENDED DECEMBER 31,
DECEMBER 31, ---------------------------
1996 1997 1998
------------ -------- ---------
(in thousands)
<S> <C> <C> <C>
STATEMENT OF OPERATIONS DATA
Revenue:
DBS services.......................................... $ 219 $ 16,452 $ 74,910
Lease and other....................................... 36 944 1,014
------- -------- ---------
Total revenue............................................ 255 17,396 75,924
Costs and Expenses:
Cost of DBS services.................................. 130 9,304 45,291
System operations..................................... 26 3,796 11,021
Sales and marketing................................... 73 7,316 32,201
General and administrative............................ 1,035 2,331 7,431
Depreciation and amortization......................... 97 7,300 23,166
------- -------- ---------
Total costs and expenses................................. 1,361 30,047 119,110
------- -------- ---------
Operating loss........................................... (1,106) (12,651) (43,186)
Net interest expense..................................... (61) (3,133) (18,964)
======= ======== =========
Net loss before extraordinary charge..................... $(1,167) $(15,784) $ (62,150)
======= ======== =========
</TABLE>
15
<PAGE> 18
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------------------------
1996 1997 1998
-------- -------- --------
(in thousands)
<S> <C> <C> <C>
BALANCE SHEET DATA
Cash and cash equivalents................................ $ 479 $ 13,632 $ 4,460
Restricted cash (1):
Current............................................... -- -- 28,083
Long-term............................................. -- -- 23,534
Working capital.......................................... (1,948) 3,827 15,204
Total assets............................................. 6,383 156,236 328,071
Stockholder's equity (deficit)........................... (1,166) 70,449 15,922
</TABLE>
<TABLE>
<CAPTION>
INCEPTION TO YEARS ENDED DECEMBER 31,
DECEMBER 31, -----------------------------
1996 1997 1998
------------ ---------- ---------
(Dollars in thousands, except per subscriber data)
<S> <C> <C> <C>
OTHER FINANCIAL DATA
EBITDA (2)............................................... $(1,009) $ (5,351) $ (20,020)
Net cash used in operating activities.................... (790) (3,099) (36,588)
Net cash used in investing activities.................... (3,231) (120,729) (159,921)
Net cash provided by financing activities................ 4,500 136,981 187,337
Capital expenditures..................................... 105 998 3,317
Aggregate purchase price of acquisitions................. 5,256 129,725 124,844
OPERATING DATA
Households at end of period (3).......................... 22,000 1,135,000 1,727,000
Subscribers acquired in acquisitions (3)................. 3,000 65,700 55,300
Subscribers added in existing Rural DIRECTV Markets, net
(3)................................................... 200 22,000 80,300
Subscribers at end of period (3)......................... 3,200 90,900 226,500
SAC per gross subscriber added (4)....................... $290 $280 $320
Penetration at end of period............................. 14.7% 8.0% 13.1%
</TABLE>
(1) Represents the amount placed in escrow in connection with the offering of
the 12 3/8% Notes (as defined herein) to fund, together with the interest
received thereon, the first four scheduled interest payments on such 12
3/8% Notes. Also includes $5.3 million deposited with the administrative
agent under the credit facility to fund a contingent reduction of
availability under the term loan facility that will not occur under the
terms of the amendment.
(2) EBITDA represents earnings before interest, taxes, depreciation and
amortization. EBITDA is not a measure of performance under generally
accepted accounting principles and should not be construed as a substitute
for consolidated net income (loss) as a measure of performance, or as a
substitute for cash flow as a measure of liquidity. Nevertheless, the
Company believes that EBITDA is a commonly recognized measure of
performance in the communications industry and is the basis for many of
the Company's financial covenants. Further, the Company believes that
EBITDA provides useful information regarding an entity's ability to incur
and/or service debt. Increases or decreases in EBITDA may indicate
improvements or decreases, respectively, in the Company's free cash flows
available to incur and/or service debt and cover fixed charges.
Notwithstanding the above, EBITDA is not intended to represent cash flows
for the period and should not be considered in isolation or as a
substitute for measures of performance determined in accordance with
generally accepted accounting principles. Management expects that, because
EBITDA is commonly used in the communications industry as a measure of
performance, investors may use this data to analyze and compare other
communications companies with the Company in terms of operating
performance, leverage and liquidity. EBITDA as calculated by the Company
is not necessarily comparable to similarly captioned amounts of other
companies.
(3) Household and subscriber data reflect 100% of the households or
subscribers comprising the Company's Rural DIRECTV Markets, including two
Rural DIRECTV Markets in which the Company acquired less than 100%
ownership. The Company receives 100% of the revenue generated by all
subscribers in its Rural DIRECTV Markets. Excludes approximately 4,000
commercial and MDU subscribers.
(4) Represents subscriber acquisition costs ("SAC") incurred per net new
subscriber activation in Rural DIRECTV Markets. Excludes acquired,
commercial and MDU subscribers and related SAC.
16
<PAGE> 19
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following is a discussion of the historical consolidated results of
operations, liquidity and capital resources of the Company. This discussion
should be read in conjunction with the consolidated financial statements of the
Company and the notes related thereto appearing elsewhere in this Report.
OVERVIEW
The Company was formed in June 1996 to acquire rights to distribute
DIRECTV programming services in Rural DIRECTV Markets. The Company is a
non-voting affiliate of the NRTC. The Company acquired its first Rural DIRECTV
Market in November 1996. As of December 31, 1998 the Company had acquired the
rights to serve 48 Rural DIRECTV Markets serving approximately 1.7 million
households. The aggregate purchase price for these acquisitions totaled
approximately $259.8 million, or approximately $144 per household. The Company
has created a strong local presence in its Rural DIRECTV Markets through the
opening and operation of 63 offices in its territories. Additionally, the
Company has established dealer relationships with over 350 local retailers of
DBS equipment.
Subsequent to December 31, 1998, the Company acquired four Rural DIRECTV
Markets, which territories include approximately 54,000 households and 10,600
subscribers, for an aggregate purchase price of approximately $19.9 million.
The Company is continually evaluating acquisition prospects and expects to
continue to enter into acquisition agreements to purchase additional Rural
DIRECTV Markets consistent with its growth strategy.
In addition to growth by acquisitions, the Company has increased its
subscriber base through increased penetration of its Rural DIRECTV Markets.
Management believes that there is a substantial opportunity to increase
penetration through local marketing. Most of the NRTC members from which the
Company acquires Rural DIRECTV Markets generally have not engaged in
significant marketing efforts, but rather have relied primarily on the consumer
to take the initiative to acquire service.
The Company has experienced net losses as well as negative EBITDA and
operating cash flows from operations since its inception. These operating
shortfalls are primarily the result of the Company's rapid subscriber growth
and acquisitions of Rural DIRECTV Markets. In particular, the Company has
incurred significant sales and marketing expense in its effort to rapidly build
its subscriber base. Many of these expenses, which are expensed as incurred and
include advertising and promotional expenses, sales commissions and DBS
equipment and installation subsidies, are incurred at or before the time a new
subscriber is activated. As a result, revenue attributable to new subscribers
lags the expense incurred in acquiring same. The impact of this lag generally
increases with the rate at which the Company adds subscribers. The Company's
rapid subscriber growth and related subscriber acquisition costs have been
significant contributors to the Company's net losses and negative EBITDA
experienced to date. The Company believes that its subscriber acquisition costs
will continue to negatively affect operating results for at least the next year
as the Company continues to add new subscribers. However, as long as a
subscriber continues service, future operating results benefit from a recurring
monthly revenue stream with minimal additional sales and marketing expense.
Because the Company has experienced a relatively low rate of churn (its 1998
annual subscriber disconnect ("churn") rate was approximately 9%), the Company
believes that its investment in building its subscriber base rapidly will
enhance EBITDA and operating results in the longer term.
EBITDA represents earnings before interest, taxes, depreciation and
amortization. EBITDA is not a measure of performance under generally accepted
accounting principles and should not be construed as a substitute for
consolidated net income (loss) as a measure of performance, or as a substitute
for cash flow as a measure of liquidity. Nevertheless, the Company believes
that EBITDA is a commonly recognized measure of performance in the
communications industry and is the basis for many of the Company's financial
covenants. Further, the Company believes that EBITDA provides useful
information regarding an entity's ability to incur and/or service debt.
Increases or decreases in EBITDA may indicate improvements or decreases,
respectively, in the Company's free cash flows available to incur and/or
service debt and cover fixed charges. Notwithstanding the above, EBITDA is not
intended to represent cash flows for the period and should not be considered in
isolation or as a substitute for measures of performance determined in
accordance with generally accepted accounting principles. Management
17
<PAGE> 20
expects that, because EBITDA is commonly used in the communications industry as
a measure of performance, investors may use this data to analyze and compare
other communications companies with the Company in terms of operating
performance leverage and liquidity. EBITDA as calculated by the Company is not
necessarily comparable to similarly captioned amounts of other companies.
During the year ended December 31, 1997, the Company used net cash of $3.1
million in operating activities, used net cash of $120.7 million in investing
activities, and provided net cash of $137.0 million from financing activities.
During the year ended December 31, 1998, the Company used net cash of $36.6
million in operating activities, used net cash of $159.9 million in investing
activities, and provided net cash of $187.3 million from financing activities.
As a result of the Company's historical and anticipated significant growth
rate, the historical operating results of the Company may not be comparable
from period to period.
RECENT DEVELOPMENTS
On February 19, 1999, Golden Sky DBS, the holder of all of the Company's
outstanding capital stock, consummated its offering of $193.1 million in
principal amount at maturity of 13 1/2% Senior Discount Notes due 2007. The 13
1/2% Notes Offering resulted in net proceeds to Golden Sky DBS of approximately
$96.8 million (after payment of underwriting discounts and other issuance costs
aggregating approximately $3.3 million). Cash interest on the 13 1/2% Notes
will not accrue prior to March 1, 2004. Thereafter, cash interest on the 13
1/2% Notes will accrue at a rate of 13 1/2% per annum and will be payable in
arrears on March 1 and September 1 of each year, commencing September 1, 2004.
The 13 1/2% Notes will mature on March 1, 2007. Golden Sky DBS contributed the
net proceeds of the 13 1/2% Notes Offering to the Company, which utilized such
contributed proceeds to repay approximately $53.0 million of existing senior
bank indebtedness. The Company intends to utilize the remaining amount to fund
future acquisitions of Rural DIRECTV Markets, provide working capital and for
general corporate purposes. See "-- Liquidity and Capital Resources."
RESULTS OF OPERATIONS
The following table presents certain items from the Company's consolidated
statements of operations as a percentage of total revenue for the periods
noted.
<TABLE>
<CAPTION>
INCEPTION TO YEARS ENDED DECEMBER 31,
DECEMBER 31, ------------------------
1996 1997 1998
------------ ------ ------
<S> <C> <C> <C>
Revenue:
DBS services 85.9% 94.6% 98.7%
Lease and other 14.1 5.4 1.3
------ ------ ------
Total revenue 100.0 100.0% 100.0%
Costs and Expenses:
Cost of DBS services 51.0 53.5% 59.7%
System operations 10.2 21.8 14.5
Sales and marketing 28.6 42.0 42.4
General and administrative 405.9 13.4 9.8
Depreciation and amortization 38.0 42.0 30.5
------ ------ ------
Total costs and expenses 533.7 172.7 156.9
------ ------ ------
Operating loss (433.7) (72.7) (56.9)
Net interest expense (23.9) (18.0) (25.0)
====== ====== ======
Net loss before extraordinary charge (457.6)% (90.7)% (81.9)%
====== ====== ======
</TABLE>
Revenue. The Company earns revenue by providing DIRECTV programming
services to subscribers within its Rural DIRECTV Markets. DBS services revenue
includes any combination of various monthly program service plans, additional
monthly premium channel program upgrades, seasonal sports programming packages,
one-time event programming on a pay-per-view basis, and miscellaneous fee
revenue related to providing programming to
18
<PAGE> 21
subscribers. Lease and other revenue principally is comprised of revenue from
the rental of DBS equipment to subscribers.
Costs of DBS Services. The Company's largest cost of providing service to
its subscribers is the wholesale cost of DIRECTV programming and related
services. The principal components of programming costs include miscellaneous
service fees and programming costs paid to the NRTC, and a 5% royalty based on
programming revenue paid to DIRECTV.
System Operations. System operations expenses include costs of the
Company's national call center operations, field office operations and other
subscriber service expenses. The Company expects that these expenses will
increase as the Company continues to make acquisitions and open additional
field offices. However, many of these costs are fixed in nature, and the
Company does not expect that these expenses will increase in direct proportion
to revenue.
Sales and Marketing. Sales and marketing expenses include such costs as
advertising, promotional expenses, marketing personnel expenses, and commission
expenses to Company employees and outside sales agents, net equipment and
installation costs, and other marketing overhead costs. The Company subsidizes
the cost to the consumer of DBS equipment, as well as the cost of installation
of DBS equipment. Equipment and installation revenues and related expenses are
recognized upon delivery and installation of DBS equipment. Net transaction
costs associated with the sale and installation of DBS equipment are reported
as a component of sales and marketing expenses in the Company's statement of
operations. The Company invests significantly to develop its sales and
distribution systems and to acquire new subscribers. A large part of sales and
marketing expense is comprised of costs related to the addition of new
subscribers. Although the Company anticipates continuing to incur such costs as
it builds its subscriber base, these costs are not expected to increase in
direct proportion to revenue.
General and Administrative. General and administrative expenses include
corporate general office and administration expenses incurred primarily at the
Company's Kansas City corporate office. The Company expects that these expenses
will increase as the Company grows and continues to expand its infrastructure.
However, since many of these expenses are fixed in nature, general and
administrative expenses are not expected to increase in direct proportion to
increases in subscribers and revenue.
Depreciation and Amortization. Depreciation and amortization includes
amortization of intangible assets associated with acquisitions and depreciation
of property and equipment.
Income Taxes. The Company elected Subchapter "S" Corporation status in
1996. As an S Corporation, the Company was generally not directly subject to
income taxation and recognized no income tax expense or benefit as an S
corporation. On February 12, 1997, the Company terminated its Subchapter S
Corporation status, and became subject to income taxation as a C Corporation
under Subchapter "C" of the Internal Revenue Code. The Company has recognized
no income tax benefits in any of the periods presented because it has incurred
operating losses in all periods, and realization of future tax benefits is
uncertain.
Year Ended December 31, 1998 Compared to the Year Ended December 31, 1997.
Revenue. DBS services revenue for the year ended December 31, 1998 totaled
$74.9 million, which represented a 355% increase as compared to the prior year.
This increase was principally attributable to the increase in the number of
subscribers. The average number of subscribers during 1998 increased to
approximately 155,200, compared to approximately 33,600 during 1997. Average
monthly programming revenue per subscriber approximated $40 and $41 during
those same periods.
Costs of DBS Services. Costs of DBS services increased $36.0 million, or
387%, during 1998, to $45.3 million. This increase is consistent with the
increase in the average number of subscribers. As a percentage of DBS services
revenue, the costs of DBS services increased to 60% during 1998, compared to
57% in 1997. This increase resulted largely from increased programming costs.
19
<PAGE> 22
System Operations. System operations costs totaled $11.0 million for the
year ended December 31, 1998, a $7.2 million increase, or 190%, over 1997.
These costs rose as a result of the increased number of field offices and
related activity resulting from the Company's continued acquisition of Rural
DIRECTV Markets, as well as from subscriber growth. As a percentage of total
revenue, system operations expenses declined to 14.5% for the year ended
December 31, 1998, from 21.8% during the year ended December 31, 1997. The
decrease in system operations expenses as a percentage of total revenues
resulted from the increases in subscribers and revenues as previously
described.
Sales and Marketing. Sales and marketing expenses totaled $32.2 million
during the year ended December 31, 1998, an increase of $24.9 million compared
to the previous year. This increase principally resulted from the 265% increase
in new subscriber activations during 1998, as compared to 1997. Sales and
marketing costs per new subscriber activation approximated $320 and $280 during
the years ended December 31, 1998 and 1997, respectively. While there can be no
assurance, during 1999 the Company expects that its subscriber acquisition
costs, on a per new subscriber activation basis, generally will approximate
1998 levels. However, such costs may exceed historical levels to the extent
that (i) competition for new subscribers intensifies and the Company decides to
increase its subscription acquisition costs as a result thereof, (ii) the
Company participates in DIRECTV national promotions that result in higher
subscriber acquisition costs than those typically experienced by the Company,
and (iii) the Company opts to increase its subscriber acquisition costs in
response to specific business opportunities (such as the conversion of
Primestar subscribers). See "-- Liquidity and Capital Resources." Advertising
expenses totaled $5.1 million during the year ended December 31, 1998, compared
to $1.4 million during 1997. The increase in advertising expenses of $3.7
million resulted from the Company's increased size and marketing activities.
General and Administrative. During the year ended December 31, 1998,
general and administrative expenses totaled $7.4 million, compared to $2.3
million during 1997. The increase in general and administrative expenses
resulted from the addition of administrative resources necessary to support the
Company's growth. As a percentage of total revenue, general and administrative
expenses decreased to 9.8% during the year ended December 31, 1998, from 13.4%
during 1997. This decrease reflects the continued leveraging of these costs,
which are partially fixed in nature, over increased subscribers and revenues.
Earnings Before Interest, Taxes, Depreciation and Amortization. EBITDA for
the year ended December 31, 1998 totaled negative $20.0 million, compared to
EBITDA of negative $5.4 million during the same period in 1997. This increase
in negative EBITDA principally resulted from the increases in sales and
marketing activities and related new subscriber activation's previously
described. During the year ended December 31, 1998, the Company used net cash
of $36.6 million in operating activities, used net cash of $159.9 million in
investing activities, and provided net cash of $187.3 million from financing
activities. During the year ended December 31, 1997, the Company used net cash
of $3.1 million in operating activities, used net cash of $120.7 million in
investing activities, and provided net cash of $137.0 million from financing
activities.
Depreciation and Amortization. Depreciation and amortization expenses
increased $15.9 million to $23.2 million during the year ended December 31,
1998, compared to $7.3 million during the year ended December 31, 1997. This
increase resulted from higher intangible assets balances, which have resulted
from the Company's acquisitions of additional Rural DIRECTV Markets.
Interest Expense. Interest expense totaled $20.5 million during the year
ended December 31, 1998 and $3.2 million during 1997. This increase of $17.3
million primarily resulted from higher outstanding debt balances and, to a
lesser degree, from an increase in weighted-average interest costs.
Year Ended December 31, 1997 Compared to Period from Inception to December 31,
1996
Revenue. DBS services revenue for the year ended December 31, 1997
increased to $16.5 million from $219,000 for the period from Inception to
December 31, 1996 (the "1996 Period"). Equipment lease revenue was $944,000 for
the year ended December 31, 1997, compared to $36,000 for the 1996 Period.
These increases principally resulted from the Company operating for all of
1997, as opposed to only a portion of 1996, and from the increase in
subscribers. The average number of subscribers during 1997 increased to
approximately 33,600, compared to approximately 3,000 during the 1996 Period.
20
<PAGE> 23
Costs of DBS Services. Costs of DBS services totaled $9.3 million for the
year ended December 31, 1997, compared to $130,000 for the 1996 Period. The
increase in the costs of DBS services resulted from the Company operating for
all of 1997 as opposed to only a portion of 1996 and corresponds to the large
increase in subscribers added by the Company in 1997. As a percentage of DBS
services revenue, the costs of DBS services decreased to 57% for the year ended
December 31, 1997, compared to 59% for the 1996 Period. This decrease was
primarily due to a change in subscriber revenue mix toward packages with higher
margins.
System Operations. System operations expenses totaled $3.8 million for the
year ended December 31, 1997 and $26,000 for the 1996 Period. These expenses
rose as a result of the Company being operational during all of 1997 and from
the increase in the number of field offices and related activity during 1997.
The Company opened its first two field offices in November 1996 and had a total
of 36 field offices as of December 31, 1997.
Sales and Marketing. Sales and marketing expenses totaled $7.3 million for
the year ended December 31, 1997 and $73,000 for the 1996 Period. The increase
of $7.2 million in sales and marketing expenses resulted from the Company
operating for all of 1997 and from the increase in the size and scope of the
Company's operations. Advertising expenses were $1.4 million for the year ended
December 31, 1997, compared to $33,000 during the 1996 Period.
General and Administrative. General and administrative expenses
approximated $2.3 million for the year ended December 31, 1997 and $1.0 million
for the 1996 Period. The increase of $1.3 million in general and administrative
expenses resulted from the Company operating for all of 1997 and from the
Company's growth.
Earnings Before Interest, Taxes, Depreciation and Amortization. EBITDA for
the year ended December 31, 1997 totaled negative $5.4 million, compared to
EBITDA of negative $1.0 million during the 1996 Period. This increase in
negative EBITDA principally resulted from the Company operating for all of 1997
and from the increases in sales and marketing activities and related new
subscriber activation's previously described. During the year ended December
31, 1997, the Company used net cash of $3.1 million in operating activities,
used net cash of $120.7 million in investing activities, and provided net cash
of $137.0 million from financing activities. During the 1996 Period, the
Company used net cash of $790,000 in operating activities, used net cash of
$3.2 million in investing activities, and provided net cash of $4.5 million
from financing activities.
Depreciation and Amortization. Depreciation and amortization totaled $7.3
million for the year ended December 31, 1997, compared to $97,000 during the
1996 Period. The increase in depreciation and amortization expense of $7.2
million primarily reflects increased amortization of intangible assets
resulting from the Company's acquisition activity during 1997, as well as the
Company operating for all of 1997.
Interest Expense. Interest expense amounted to $3.2 million for the year
ended December 31, 1997 and $62,000 for the 1996 Period. The increase in
interest expense of $3.1 million resulted primarily from the Company operating
for all of 1997 and from increased borrowings. Bank borrowings at December 31,
1997 totaled approximately $60.0 million and were incurred to fund acquisitions
and, to a lesser extent, working capital needs resulting from the Company's
growth during the year.
LIQUIDITY AND CAPITAL RESOURCES
The Company's operations require substantial capital for (i) acquisitions
of Rural DIRECTV Markets, (ii) financing subscriber growth (including DBS
equipment and installation subsidies and marketing and selling expenses), (iii)
investments in, and maintenance of, field offices in its Rural DIRECTV Markets,
(iv) financing infrastructure development costs necessary to support the growth
of the Company's business, and (v) the funding of start-up losses and other
working capital requirements. The Company's capital expenditures, inclusive of
acquisitions of Rural DIRECTV Markets, totaled $107.8 million and $121.0
million during the years ended December 31, 1998 and 1997, respectively, and
$2.9 million during the 1996 Period. During those same periods, net cash flows
used in operations totaled $36.6 millions $3.1 million, and $790,000,
respectively.
To date, the Company's acquisitions, subscriber growth and operations have
been financed from borrowings under its bank credit facilities, proceeds of the
12 3/8% Notes Offering (as defined herein), proceeds from the
21
<PAGE> 24
issuance of capital stock, contributions by the Company's direct and indirect
parent companies, and, to a lesser extent, the issuance of promissory notes to
sellers of Rural DIRECTV Markets ("Seller Notes"). During the year ended
December 31, 1998, net cash flows from financing activities totaled $187.3
million, which was comprised of net proceeds of $189.2 million from the 12 3/8%
Notes Offering and net borrowings of $7.0 million under the Company's bank
credit facilities, less deferred financing costs of $5.2 million and $3.7
million of repayments on the Company's other indebtedness. In 1997, net cash
flows from financing activities totaled $137.0 million, comprised of $81.1
million from the issuance of capital stock and $59.2 million of net borrowings
under the Company's bank credit facilities and other indebtedness, less
deferred financing costs of $3.3 million.
Credit Facility
The Company entered into the Amended and Restated Credit Agreement, dated
as of May 8, 1998, among Holdings, the Company, the banks party thereto from
time to time, Paribas (formerly known as Banque Paribas), as syndication agent,
Fleet National Bank, as administrative agent, and General Electric Capital
Corporation, as documentation agent, as amended to date, which provides for a
$150.0 million line of credit to fund acquisitions and working capital
requirements. Of this amount, $35.0 million is in the form of a term loan
facility, and $115.0 million is in the form of a revolving credit facility
(including a letter of credit sub-limit of $40.0 million). In connection with
the 13 1/2% Notes Offering, the Company entered into an amendment to such
credit agreement (as so amended, the "Credit Facility"). As of February 28,
1999, the Company had fully utilized the entire $35.0 million of term loan
availability, had no outstanding borrowings under the revolving credit line,
and had utilized approximately $12.9 million of the letter of credit
sub-facility. The term loan amortizes in specified quarterly installments from
March 31, 2002 through maturity on December 31, 2005. Availability of revolving
loan borrowings reduces by specified amounts over the period from March 31,
2001 through maturity on September 30, 2005. Borrowings under the Credit
Facility bear interest at variable rates calculated on a base rate, such as the
prime rate or LIBOR, plus an applicable margin with reductions, under certain
circumstances, based on leverage.
The Credit Facility contains a number of significant covenants that, among
other things, limit the ability of the Company and its subsidiaries to incur
additional indebtedness and guaranty obligations, create liens and other
encumbrances, make certain payments, investments, loans and advances, pay
dividends or make other distributions in respect of its capital stock, sell or
otherwise dispose of assets, make capital expenditures, merge or consolidate
with another entity, create subsidiaries, make amendments to its organizational
documents or transact with affiliates.
The Credit Facility also contains a number of financial covenants that
will require the Company to meet certain financial ratios and financial
condition tests. These financial covenants, in certain instances, become
effective at different points in time and vary over time. The covenants include
limitations on indebtedness per subscriber, limitations on subscriber
acquisition costs, maintenance of a minimum fixed charge coverage ratio,
maintenance of minimum interest coverage ratios, and limitations on
indebtedness to Pro Forma EBITDA ratios. Availability under the revolving
credit line of the Credit Facility depends upon satisfaction of the various
covenants as well as minimum subscriber base requirements. As of December 31,
1998, the Company was in compliance with all of its covenants under the Credit
Facility.
12 3/8% Notes Offering
On July 31, 1998, the Company consummated the 12 3/8% Notes Offering.
Interest on the 12 3/8% Notes is payable in cash semi-annually in arrears on
February 1 and August 1 of each year, with the first interest payment due
February 1, 1999. The 12 3/8% Notes mature on August 1, 2006. The 12 3/8% Notes
Offering resulted in net proceeds to the Company of approximately $189.2
million (after payment of underwriting discounts and other issuance costs
aggregating approximately $5.8 million). Approximately $45.2 million of the net
proceeds of the 12 3/8% Notes Offering were placed in escrow to fund the first
four semi-annual interest payments (through August 1, 2000) on the 12 3/8%
Notes.
The 12 3/8% Notes are unsecured senior subordinated obligations of the
Company and are subordinated in right of payment to all existing and future
senior indebtedness. The 12 3/8% Notes rank pari passu in right of payment with
all other existing and future senior subordinated indebtedness, if any, of the
Company and senior in right of payment to all existing and future subordinated
indebtedness, if any, of the Company. The 12 3/8% Notes are
22
<PAGE> 25
guaranteed on a full, unconditional, joint and several basis by Argos Support
Services Company ("Argos") and PrimeWatch, Inc. ("PrimeWatch"). Both Argos and
PrimeWatch are wholly-owned subsidiaries of the Company.
The 12 3/8% Notes are redeemable, in whole or in part, at the option of
the Company on or after August 1, 2003, at redemption prices decreasing from
112% during the year commencing August 1, 2003 to 108% on or after August 1,
2005, plus accrued and unpaid interest, if any, to the date of redemption. In
addition, on or prior to August 1, 2001, the Company may, at its option, redeem
up to 35% of the originally issued aggregate principal amount of the 12 3/8%
Notes, at a redemption price equal to 112.375% of the principal amount thereof,
plus accrued and unpaid interest thereon, if any, to the date of redemption
solely with the net proceeds of a public equity offering of the Company or
Holdings yielding gross proceeds of at least $40.0 million and any subsequent
public equity offerings (provided that, in the case of any such offering or
offerings by Holdings, all the net proceeds thereof are contributed to the
Company); provided, further, that immediately after any such redemption the
aggregate principal amount of the 12 3/8% Notes outstanding must equal at least
65% of the originally issued aggregate principal amount of the 12 3/8% Notes.
The indenture governing the 12 3/8% Notes (the "Indenture") contains
restrictive covenants that, among other things, impose limitations on the
ability of the Company to incur additional indebtedness, pay dividends or make
certain other restricted payments, consummate certain asset sales, enter into
certain transactions with affiliates, incur indebtedness that is subordinate in
right of payment to any senior indebtedness and senior in right of payment to
the 12 3/8% Notes, incur liens, permit restrictions on the ability of
subsidiaries to pay dividends or make certain payments to the Company, merge or
consolidate with any other person or sell, assign, transfer, lease, convey or
otherwise dispose of all or substantially all of the assets of the Company. In
the event of a change of control, as defined in the Indenture, each holder of
the 12 3/8% Notes will have the right to require the Company to purchase all or
a portion of such holder's Notes at a price equal to 101% of the principal
amount thereof, plus accrued and unpaid interest, if any, to the date of
purchase.
Future Capital Requirements
The Company's future capital requirements will depend upon a number of
factors, including the extent of the Company's acquisition activities, the rate
of subscriber growth, and the working capital needs necessary to accommodate
the Company's anticipated growth. The Company expects that increased
investments in its administrative and computer systems will be necessary to
support the Company's increased size and continued growth. The Company
currently subsidizes a portion of the cost of DBS equipment and subscriber
installations. The extent of such future subsidies may materially affect the
Company's liquidity and capital requirements. In addition, the Company's
favorable working capital position relies, in part, upon the existing terms of
its agreements with the NRTC and the timing for making required payments
thereto. Excluding costs associated with the acquisition of additional Rural
DIRECTV Markets, the Company anticipates that its total capital expenditures,
primarily related to expanding facilities and information systems for its
corporate office, customer service operations and field offices, will
approximate $5.0 million during the year ending December 31, 1999. During 1999,
the Company expects to continue its acquisitions of Rural DIRECTV Markets and
to expand its marketing efforts in its existing markets in order to increase
its subscriber penetration.
The Company continually evaluates acquisition prospects and expects to
enter into additional acquisition agreements and complete further acquisitions
of Rural DIRECTV Markets consistent with its growth strategy. There can be no
assurance that any such acquisitions will be consummated.
The Company is not yet able to assess whether and to what extent the
acquisition by Hughes of USSB or by DIRECTV of Primestar may affect the
Company's future capital requirements. Subsequent to DIRECTV's announcement of
its proposed acquisition of Primestar, EchoStar began to offer increased
promotional and other incentives to Primestar customers, as well as to EchoStar
retailers, to entice the conversion of Primestar subscribers to EchoStar's
competing DBS service, the DISH Network. Consequently, beginning in February
1999 the Company increased its marketing efforts with respect to Primestar
subscribers. The Company's increased Primestar conversion efforts include,
among other things, discounted equipment and installation prices and higher
sales commissions. The Company estimates that its subscriber acquisition costs
relative to converted Primestar subscribers may approximate
23
<PAGE> 26
as much as $400 on a per converted subscriber basis. The Company is unable to
estimate the number of Primestar subscribers it may be able to convert to its
DIRECTV service.
The Company is highly leveraged and expects to increase its leverage as it
pursues further acquisitions of Rural DIRECTV Markets by borrowing additional
funds under the Credit Facility or otherwise, and by the issuance of other
acquisition-related notes payable. The approximately $15.4 million of Seller
Notes outstanding at December 31, 1998 mature as follows: $8.5 million in 1999,
$1.9 million in 2000, $2.0 million in 2001, $2.0 million in 2002 and $1.0
million in 2003. Additional financing may be required to meet the Company's
debt service requirements and, depending upon the timing of the Company's
acquisitions, additional sources of capital may need to be secured to pursue
acquisitions. There can be no assurance that such additional financing would be
available on terms acceptable to the Company, or at all, and if available, that
the proceeds of such financing would be sufficient to enable the Company to
meet its debt service requirements or completely execute its business plan.
There may be a number of factors, some of which may be beyond the
Company's control or ability to predict, that could require the Company to
raise additional capital. These factors include possible acquisitions of
additional Rural DIRECTV Markets, increased costs associated with potential
future acquisitions of Rural DIRECTV Markets, unexpected increases in operating
costs and expenses, subscriber growth in excess of that currently expected, or
an increase in the cost of acquiring subscribers due to increased DBS equipment
and subscriber installation subsidies, as well as from additional competition,
among other things. Additional financing also may be required to meet the
Company's debt-service requirements. There can be no assurance that additional
debt, equity or other financing will be available on terms acceptable to the
Company, or at all, and if available, that the proceeds of such financing would
be sufficient to enable the Company to meet its debt-service requirements or
completely execute its business plan.
YEAR 2000
The Company continues to assess the impact of the Year 2000 issue on its
computer systems and operations. The Year 2000 issue is a general term used to
describe the various problems that may result from the improper processing of
dates and date-sensitive calculations by computers and other equipment as the
year 2000 approaches and is reached. Many existing computer systems and
applications currently use two-digit date fields to designate a year. Date
sensitive systems and applications may recognize the year 2000 as 1900 or not
at all. The inability to recognize or properly treat the Year 2000 issue may
cause computer systems and applications to fail to process critical financial
and operational information correctly. This issue affects virtually all
organizations and can be very costly and time consuming to correct.
The Company has reviewed the Year 2000 readiness of its mission critical
internally-controlled systems and believes that such systems are Year 2000
compliant. However, there can be no assurance that all of the software products
currently used by the Company are in fact Year 2000 compliant. The Company has
engaged the services of a consultant to assist in its assessment of the impact
of the Year 2000 issue on its computerized systems and operations.
Additionally, the Company is in the process of conducting surveys of all of its
significant vendors and other pertinent relationships to assess their readiness
for Year 2000 processing.
The Company is significantly reliant on contracted data processing
services from the NRTC and DIRECTV for customer service, billing and remittance
processing pursuant to the Company's contractual relationship with the NRTC.
The NRTC has informed the Company that the computer systems that provide such
services are not currently Year 2000 compliant, but that the majority of such
systems will be compliant by September 1999. As to the NRTC's DBS Billing and
Authorization System, the NRTC has informed the Company that a small number of
Year 2000 issues exist, and that the appropriate changes have been requested
and scheduled for development action. The Company is reliant on DIRECTV for
distribution of its DBS programming services. The NRTC has informed the Company
that DIRECTV expects to establish Year 2000 compliance for its billing and
authorization systems by the end of the second calendar quarter of 1999. In
addition to the NRTC and DIRECTV, the Company is significantly reliant on other
parties (such as its suppliers of DBS equipment) for the successful conduct of
its business. As previously described, the Company is in the process of
ascertaining the Year 2000 readiness of these third parties.
24
<PAGE> 27
Currently, the Company believes its costs to successfully mitigate the
Year 2000 issue will approximate $200,000. If the Company's plan is not
successful or is not completed in a timely manner, the Year 2000 issue could
significantly disrupt the Company's ability to transact business with its
customers and suppliers, and could have a material impact on its operations.
There can be no assurance that the systems of the NRTC, DIRECTV and other
companies with which the Company's systems interact or depend will be compliant
by the end of 1999, or that any such third party failure would not have an
adverse effect on the Company's business or its operations.
To date, the Company has not implemented a Year 2000 contingency plan.
Contingency plans for mission critical systems primarily involve development
and testing of manual procedures or the use of alternate systems. Viable
contingency plans are difficult to develop for certain third party failures,
especially in high-technology industries such as the DBS industry, due to the
lack of alternate suppliers. However, the Company will continue to monitor the
progress of third party remediation efforts and contingency plans. Substantial
completion of the Company's Year 2000 contingency plan is expected in mid 1999.
There can be no assurance that such contingency plans will successfully
mitigate any adverse effects that the Year 2000 issue may have on the Company's
operations.
RECENT ACCOUNTING DEVELOPMENTS
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("FAS No. 133"). FAS No. 133 is effective
for fiscal years beginning after June 15, 1999. FAS No. 133 establishes
accounting and reporting standards for derivative instruments and for hedging
activities. Currently, the Company has no derivative instruments or hedging
arrangements. Accordingly, adoption of FAS No. 133 is not expected to have a
material effect on the Company's financial position or results of operations.
In April 1998, the American Institute of Certified Public Accountants
issued Statement of Position 98-5, "Reporting on the Costs of Start-Up
Activities" ("SOP 98-5"). SOP 98-5, which is effective for fiscal years
beginning after December 15, 1998, defines costs related to start-up activities
and requires that such costs be expensed as incurred. As the Company previously
has expensed all such costs, the adoption of SOP 98-5 is not expected to effect
the Company's results of operations or financial position.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not Applicable
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Company's consolidated financial statements required by this item are
included in this report beginning on page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING
AND FINANCIAL DISCLOSURE
None.
25
<PAGE> 28
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth certain information regarding the executive
officers and directors of the Company as of March 30, 1999.
<TABLE>
<CAPTION>
NAME AGE POSITION
----------------------- --- -------------------------------------------
<S> <C> <C>
Rodney A. Weary........................................ 48 Chairman of the Board, Chief Executive
Officer and Director
John R. Hager.......................................... 37 Chief Financial Officer
William J. Gerski...................................... 46 Vice President, Sales and Marketing
Scott R. Brown......................................... 33 Vice President, Operations
Jo Ellen Linn.......................................... 37 Secretary and General Counsel
Robert F. Benbow(1).................................... 62 Director
William O. Charman..................................... 35 Director
William P. Collatos(1)................................. 44 Director
William A. Johnston(1)(2).............................. 46 Director
Robert B. Liepold(2)................................... 72 Director
Erik M. Torgerson(2)................................... 33 Director
</TABLE>
(1) Member of the Compensation Committee of the Board of Directors.
(2) Member of the Audit Committee of the Board of Directors.
BACKGROUND OF EXECUTIVE OFFICERS
Rodney A. Weary. Mr. Weary founded the Company in June 1996 and has been
its Chief Executive Officer since Inception. Until 1995, he was President of
Cable Video Enterprises Inc., which Mr. Weary formed in 1986 by acquiring
traditional cable systems located in three states. From 1988 to December 1994,
Mr. Weary was a co-founder, officer and director of Premiere Page, a paging
company. From 1986 to 1992, he was a principal shareholder in W.K. Cellular,
Inc., which owned and operated cellular license R.S.A. 5 in Indiana. Mr. Weary
was involved in the formation of the Missouri Cable Television Association in
the 1970s, and has served in many capacities for both it and the four-state
Mid-America Cable Television Association.
John R. Hager. Mr. Hager has been Chief Financial Officer of the Company
since October 1998. Mr. Hager joined the Company in August 1998 as Vice
President, Finance and Controller. From February 1997 until August 1998, Mr.
Hager was Vice President -- Controller of EchoStar Communications Corporation.
He was the Controller of American Telecasting, Inc. from August 1993 until
February 1997. Prior to joining American Telecasting in 1993, Mr. Hager was
with Ernst & Young, where he was an Audit Senior Manager.
William J. Gerski. Mr. Gerski has been Vice President, Sales and Marketing
of the Company since May 1997. From 1996 to 1997, Mr. Gerski was Regional
Director of Marketing and Sales at American Telecasting Incorporated. In 1996,
Mr. Gerski was Vice President of Marketing and Sales of Bell Atlantic Video
Services. From 1990 through 1995, Mr. Gerski was Corporate Director of Sales at
Adelphia Cable Communications. He has served on the Executive Board of
Directors of the Southern California Cable Association and the Los Angeles,
Chicago, and Cleveland Cable Co-ops.
Scott R. Brown. Mr. Brown has been Vice President of Operations of the
Company since February 1999. Mr. Brown held the position of Vice President of
Fulfillment Operations with Primestar, Inc. from April 1998 to February 1999
and was the Vice President of Operations with TCI Satellite Entertainment, Inc.
from November
26
<PAGE> 29
1995 to March 1998. From May 1989 to November 1995 Mr. Brown held several
positions with Tele-Communications, Inc, including General Manager of TCI Cable
of Westchester, General Manager of TCI Cablevision of Pinellas County, Business
Manager of TCI Cablevision of Dade/Broward County, and Internal Auditor of TCI
North Central Division.
Jo Ellen Linn. Ms. Linn has been Secretary and General Counsel of the
Company since Inception. From 1993 to 1996, Ms. Linn was General Counsel to
Cable Video Management, Inc., a communications management company and the
former Cable Video Enterprises, Inc., which owned and operated domestic cable
television systems. Ms. Linn was a contract negotiator in the network real
estate department of Sprint Communications from 1990 to 1992. From 1988 to
1990, Ms. Linn was Vice President and General Counsel of the cable brokerage
firm Hardesty, Puckett & Company (now HPC Puckett & Company). Ms. Linn is
licensed to practice law in Kansas and Texas.
BACKGROUND OF DIRECTORS
Robert F. Benbow. Mr. Benbow has been a Director of the Company since
February 1997. He is a Vice President of Burr, Egan, Deleage & Co. and a
General Partner of Alta Communications VI, L.P. Prior to joining Burr, Egan
Deleage & Co. in 1990, Mr. Benbow spent 22 years with the Bank of New England
N.A., where he was Senior Vice President responsible for special industries
lending in the areas of media, project finance and energy. He serves as a
Director of Teletrac, Inc., a major metropolitan wireless provider of location
and two way messaging services for fleets of commercial vehicles, and Preferred
Networks, Inc.
William O. Charman. Mr. Charman has been a Director of the Company since
March 1997. He has served as a Vice President of BancBoston Capital since 1995.
From 1993 to 1995, Mr. Charman was a Director and team leader for Bank of
Boston's Media & Communications Group in London. Mr. Charman was a Director in
Bank of Boston's Media & Communications Group in Boston from 1987 to 1993. Mr.
Charman is a Director of Cambridge Communications, MultiTechnology Services and
Prime Communications.
William P. Collatos. Mr. Collatos has been a Director of the Company since
March 1997. He is a Managing General Partner of Spectrum Equity Investors,
which he founded in 1993. Prior to the founding of Spectrum, he was an
independent consultant from 1991 to 1993. Mr. Collatos was an Associate and
then General Partner of funds managed by TA Associates from 1980 to 1990 and a
founding General Partner of Media/Communications Partners. Prior to joining TA
Associates, Mr. Collatos was in charge of the media lending group at Fleet
National Bank in Providence, Rhode Island. He is a Director of Galaxy Telecom
Systems, Inc., TSR Paging, Inc., Internet Network Services, Ltd. and ITXC, Inc.
William A. Johnston. Mr. Johnston has been a Director of the Company since
November 1997. He is a Managing Director of HarbourVest Partners, LLC and has
served in a variety of capacities for HarbourVest Partners, LLC and its
predecessor, Hancock Venture Partners, Inc., since 1983. Prior to joining
Hancock Venture Partners, Inc., Mr. Johnston was an assistant vice president at
State Street Bank in Boston, Massachusetts. He is a Director of Adesemi
Communications International, Inc., Epoch Internet, Inc., Formus
Communications, Inc., The Marks Group, Inc. and V-I-A Internet, Inc.
Robert B. Liepold. Mr. Liepold has been a Director of the Company since
Inception. Mr. Liepold has been President and Chief Executive Officer of
KCWE-TV, an independent commercial television station operating in Kansas City,
Missouri, since 1994. Since 1983, Mr. Liepold also has been a consultant to the
telecommunications industry. From 1978 through 1983, he was Executive Vice
President of Sprint/United Telecom. He is a Director of KCWE-TV, Com-21 and
W.K. Communications.
Erik M. Torgerson. Mr. Torgerson has been a Director of the Company since
November 1997. He is an Investment Manager at Norwest Equity Partners. Prior to
joining Norwest Equity Partners in 1993, Mr. Torgerson was with Arthur Anderson
& Co.'s financial consulting and audit practice. Mr. Torgerson serves as a
director of Command Tooling Systems, LLC, Seasonal Specialties, LLC, TelcoPlus
Communications, Inc., InSTEP, LLC and Norwesco, Inc.
27
<PAGE> 30
Each Director of the Company has been elected pursuant to the terms of the
Stockholders' Agreement. See "Certain Relationships and Related Transactions --
Stockholders' Agreement."
All directors are elected annually and hold office until the next annual
meeting of stockholders and until their successors are duly elected and
qualified. Directors do not receive an annual retainer or meeting attendance
fees. However, the Company reimburses non-management directors for expenses
incurred in attending meetings of the Board of Directors.
During 1998, the Board of Directors of the Company held 8 meetings. The
only standing committees of the Board of Directors are the Audit Committee and
the Compensation Committee. The current members of the Audit Committee are
Messrs. Liepold, Johnston and Torgerson. The Audit Committee periodically
consults with the Company's management and independent public accountants on
financial matters, including the Company's internal financial controls and
procedures. The Audit Committee was formed in February 1997. The current
members of the Compensation Committee are Messrs. Benbow, Collatos and
Johnston. The Compensation Committee approves compensation arrangements for the
Company's executive officers and administers the Company's Stock Option Plan.
The Compensation Committee was formed in February 1997.
ITEM 11. EXECUTIVE COMPENSATION
The following table sets forth certain compensation information for the
fiscal years ended December 31, 1997 and 1998 as to the Chief Executive Officer
and the two other highest paid executive officers of the Company whose total
annual salary and bonus exceeded $100,000 for such year:
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
COMPENSATION
AWARDS
---------------
ANNUAL COMPENSATION SECURITIES
---------------------- UNDERLYING ALL OTHER
NAME AND PRINCIPAL POSITION YEAR SALARY BONUS OPTIONS/SARS(#) COMPENSATION ($)
- ------------------------------------ ------ --------- ------- --------------- ----------------
<S> <C> <C> <C> <C> <C>
Rodney A. Weary 1998 $ 227,462 $90,000 21,884 $7,945 (1)
Chief Executive Officer, Chairman of 1997 198,818 50,000 21,884 --
the Board of Directors
William J. Gerski 1998 $153,270 $80,000 15,000 $ --
Vice President, Sales and Marketing 1997 60,259 50,000 12,182 --
Jo Ellen Linn 1998 $ 93,061 $32,500 2,501 $ --
Secretary and General Counsel 1997 80,926 25,000 2,501 --
</TABLE>
(1) Represents compensation attributable to Mr. Weary's use of a Company-owned
vehicle.
28
<PAGE> 31
OPTION GRANTS
The following table sets forth certain information concerning grants of
stock options to the named executive officers during the fiscal year ended
December 31, 1998:
OPTION GRANTS IN LAST FISCAL YEAR
<TABLE>
<CAPTION>
INDIVIDUAL GRANTS
----------------------------------------------------
POTENTIAL REALIZABLE
PERCENT OF VALUE AT ASSUMED ANNUAL
NUMBER OF TOTAL RATES OF STOCK PRICE
SECURITIES OPTIONS/ APPRECIATION FOR OPTION
UNDERLYING SARS GRANTED EXERCISE OF EXPIRATION TERM
OPTION/SARS TO EMPLOYEES BASE PRICE DATE -----------------------
NAME GRANTED (#) IN FISCAL YEAR ($/sh) DATE 5% ($) 10% ($)
- --------------------------------- ----------- -------------- ----------- ---------- ------- -------
<S> <C> <C> <C> <C> <C> <C>
Rodney A. Weary.................. -- -- -- -- -- --
William J. Gerski................ 2,818 15.1 $1.00 10/8/07 $1,772 $4,491
Jo Ellen Linn.................... -- -- -- -- -- --
</TABLE>
OPTION EXERCISES AND FISCAL YEAR-END OPTION VALUES
<TABLE>
<CAPTION>
NUMBER OF SECURITIES VALUE OF UNEXERCISED
UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS AT
SHARES OPTIONS AT FISCAL FISCAL YEAR-END ($) (1)
ACQUIRED ON VALUE YEAR-END (#)
EXERCISE REALIZED ----------- ------------- ----------- -------------
NAME (#) ($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE
- --------------------------------- ----------- -------- ----------- ------------- ----------- -------------
<S> <C> <C> <C> <C> <C> <C>
Rodney A. Weary.................. 9,726 -- 1,823 10,335 -- --
William J. Gerski................ 5,414 -- 2,502 7,084 -- --
Jo Ellen Linn.................... 1,111 -- 208 1,192 -- --
</TABLE>
(1) Based on a value of $1.00 per share, which is the fair value of the Common
Stock as determined by the board of directors of Holdings for purposes of
option grants. On this basis, the unexercised options are not in the
money.
EMPLOYMENT AGREEMENTS
In January 1997, the Company entered into substantially similar
non-competition agreements with Rodney A. Weary and Jo Ellen Linn, the terms of
which preclude each of them from competing with the Company during their
respective periods of employment and for two years thereafter in any market in
North America in which the Company operates or intends to operate.
In February 1997, the Company and Mr. Weary entered into an agreement
pursuant to which Mr. Weary agreed to serve as the President and Chief
Executive Officer of the Company through February 2000. Such agreement may be
extended according to its terms. Under the agreement, Mr. Weary is paid
compensation in an amount not less than $200,000 per year and is eligible to
participate in the Stock Option Plan.
Also during 1997, the Company entered into substantially similar
employment agreements with Ms. Linn and Mr. Gerski, pursuant to which each of
them agreed to serve the Company in their present capacity through February and
November 2000, respectively. Such agreements may be extended according to their
terms. Under the agreements, Ms. Linn is paid compensation in an amount not
less than $82,500 per year, and Mr. Gerski is paid compensation in an amount
not less than $100,000 per year. Each is also eligible to participate in the
Stock Option Plan.
In August 1998, the Company entered into an employment agreement with Mr.
Hager. Pursuant to the employment agreement, Mr. Hager agreed to serve the
Company in his current capacity through August 2001. The employment agreement
may be extended in accordance with its terms. Mr. Hager is paid compensation
under the
29
<PAGE> 32
employment agreement in an amount not less than $120,000 per year and is
eligible to participate in the Stock Option Plan. The Company and Mr. Hager
also entered into a non-competition agreement and a confidentiality and
proprietary rights agreement in August 1998. The terms of the non-competition
agreement preclude Mr. Hager from competing with the Company during the term of
his employment and for one year thereafter in any market in the United States
in which the Company operates or intends to operate. The confidentiality and
proprietary rights agreement requires Mr. Hager to maintain the confidentiality
of the Company's proprietary information during the period of his employment
and thereafter.
STOCK OPTION PLAN
In July 1997, the Board of Directors of the Company adopted the Stock
Option Plan pursuant to which the Company may, at the direction of the
Compensation Committee of the Company's Board of Directors, grant incentive
stock options, non-qualified stock options or restricted stock options to
officers, directors and employees of the Company. The Stock Option Plan was
approved by the stockholders of the Company on July 24, 1997. The Stock Option
Plan was assumed by Holdings and approved by its stockholders effective
September 9, 1997.
401(k) PLAN
The Company maintains a 401(k) Savings Plan for its full-time employees,
which permits employee contributions up to 15% of annual compensation to the
plan on a pre-tax basis. In addition, the Company may make contributions on a
discretionary basis as a percentage of each participating employee's annual
compensation. The Company may also make additional discretionary contributions
to the Plan in any plan year up to the annual 401(k) plan contribution limits
as defined in the Internal Revenue Code. The Plan is administered by the
Compensation Committee of the Board of Directors of the Company.
30
<PAGE> 33
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
All of the issued and outstanding capital stock of the Company is owned by
Golden Sky DBS, and all of the issued and outstanding capital stock of Golden
Sky DBS is owned by Holdings. The following table sets forth certain
information as of March 5, 1999, regarding the ownership of Holdings' Common
Stock, Series A Convertible Participating Preferred Stock, $.01 par value
("Series A Preferred Stock"), Series B Convertible Participating Preferred
Stock, $.01 par value ("Series B Preferred Stock"), and Series C Senior
Convertible Preferred Stock, $.01 par value ("Series C Preferred Stock"), by
(i) certain stockholders or groups of related stockholders who, individually or
as a group, are the beneficial owners of 5% or more of any class of Holdings'
capital stock and (ii) the executive officers and directors of the Company.
Beneficial ownership percentages of the Common Stock presented below are
significantly affected by the securities convertible into or exercisable for
Common Stock held by each stockholder. Except as required by law, holders of
the Common Stock do not vote as a separate class on matters presented for
stockholder approval.
<TABLE>
<CAPTION>
SHARES BENEFICIALLY OWNED
---------------------------------------------------------------------------------------
SERIES A SERIES B SERIES C
PREFERRED STOCK PREFERRED STOCK PREFERRED STOCK COMMON STOCK FULLY-
--------------------------------------------------------------------------------------- DILUTED
% OF % OF % OF % OF VOTING
NAME (1) SHARES CLASS SHARES CLASS SHARES CLASS SHARES(2) CLASS(3) POWER
- --------------------------------- ---------- ----- --------- ----- ---------- ----- --------- -------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
PRINCIPAL STOCKHOLDERS
Alta Subordinated Debt
Partners III, L.P. (4) ....... 55,532.00 13.3% 11,125.24 4.9% -- --% 2,116.00 7.8% 9.2%
Alta Communications VI,
L.P. (4) ..................... 92,365.00 22.1 18,504.38 8.1 -- -- 3,522.00 12.4 15.4
Alta-Comm S By S, LLC (4) ..... 2,103.00 * 421.84 * -- 81.00 * * *
Spectrun Equity Investors ..... 50,000.00 12.0 -- -- -- -- 12.00 * 6.7
L.P. (5)
Spectrum Equity Investors II
L.P. (5) ..................... 100,000.00 23.9 -- -- -- -- 25.00 * 13.4
BancBoston Ventures Inc. (6) .. 75,000.00 17.9 12,521.44 5.5 -- -- 19.00 * 11.8
Norwest Equity Partners VI,
L.P. (7) ..................... -- -- 50,083.75 21.9 -- -- -- -- 6.7
Norwest Venture Partners
VI, L.Pl (7) ................. -- -- 25,041.87 11.0 -- -- -- -- 3.4
HarbourVest Partners
V-Direct Fund L.P. (8) ....... -- -- 75,125.62 32.9 -- -- -- -- 10.1
Lion Investments Limited (9) .. -- -- 5,010.76 2.2 -- -- -- -- *
Westpool Investment Trust
plc (9) ...................... -- -- 15,031.27 6.6 -- -- -- -- 2.0
General Electric Capital
Corporation (10) ............. -- -- 15,000.00 6.6 -- -- -- -- 2.0
Harold Poulson (11) ........... 1,000.00 -- -- -- 19,809.27 37.0 19,809.27 44.3 2.7
Jack S. Ramirez and Carol
H. Ramirez (12) .............. -- -- -- -- 8,413.18 15.7 8,413.18 25.2 1.1
Joyce Travis, Trustee of
the Travis Living Trust
Dated the 5th day of ......... -- -- -- -- 4,952.31 9.3 4,952.31 16.6 *
March, 1998 (13)
James and Constance R .........
Hertz (14) ................... -- -- -- -- 5,047.91 9.4 5,047.91 16.8 *
Maxon R. and Kristina Davis
(15) ......................... -- -- -- -- 3,400.20 6.4 3,400.20 12.0 *
Louise A. Davis (16) .......... -- -- -- -- 3,322.66 6.2 3,322.66 11.8 *
Jay and Maria Downen (17) .... -- -- -- -- 2,865.00 5.4 2,865.00 10.3 *
Otis J. Downen, Trustee of
the Otis J. Downen June
1992 Trust, and Frances
Eileen Downen, Trustee of
the Frances Eileen Downen
June 1992 Trust, as
Tenants in ................... -- -- -- -- 2,862.44 5.3 2,862.44 10.3 *
Common (18)
Chris J. Downen (19) .......... -- -- -- -- 2,862.44 5.3 2,862.44 10.3 *
</TABLE>
31
<PAGE> 34
<TABLE>
<CAPTION>
SHARES BENEFICIALLY OWNED
---------------------------------------------------------------------------------------
SERIES A SERIES B SERIES C
PREFERRED STOCK PREFERRED STOCK PREFERRED STOCK COMMON STOCK FULLY-
--------------------------------------------------------------------------------------- DILUTED
% OF % OF % OF % OF VOTING
NAME (1) SHARES CLASS SHARES CLASS SHARES CLASS SHARES(2) CLASS(3) POWER
- --------------------------------- ---------- ----- --------- ----- -------- ----- --------- -------- -------
<S> <C> <C> <C> <C> <C> <C> <C> <C> <C>
EXECUTIVE OFFICERS AND
DIRECTORS
Rodney A. Weary (20) (21) ....... 16,030.00 3.8 -- -- -- -- 13,377.00 46.8 3.9
John R. Hager (21) (22) ......... -- -- -- -- -- -- 2,500.00 9.1 *
William J. Gerski (21) (23) ..... -- -- -- -- -- -- 9,166.00 32.0 1.2
Jo Ellen Linn (21) (24) ......... 430.00 * -- -- -- -- 1,528.00 6.0 *
Robert F. Benbow (25) ........... 150,000.00 38.9 30,051.46 13.2 -- -- 5,719.00 20.5 24.8
William O. Charman (26) ......... 75,000.00 17.9 12,521.44 5.5 -- -- 19.00 * 11.7
William P. Collatos (27) ........ 150,000.00 35.9 -- -- -- -- 37.00 * 20.1
William A. Johnston (28) ........ -- -- 75,125.62 32.9 -- -- -- -- 10.1
Robert B. Liepold (21) (23) ..... 1,000.00 * -- -- -- -- 2,113.00 8.2 *
Erik M. Torgerson (30) .......... -- -- 50,083.75 21.9 -- -- -- -- 6.7
All executive officers and
directors as a group (ten
persons) ....................... 392,460.00 93.5 167,782.27 73.4 -- -- 34,459.00 100.00 79.5
</TABLE>
* Less than 1%
(1) Except as otherwise noted below, the persons named in the table have
sole voting power and investment power with respect to all shares set
forth in the table.
(2) Includes shares issuable upon exercise of warrants and options
exercisable within 60 days of the date hereof, as well as shares of
Common Stock issuable upon conversion of beneficially-owned shares of
Series C Preferred Stock.
(3) The percent of class beneficially owned by each listed holder of
Common Stock appears unusually large, because there is a small number
of shares of Common Stock outstanding relative to the number of
shares of Common Stock owned and subject to options, warrants or
conversion privileges held by such person.
(4) The address is c/o Alta Communications, Inc., One Embarcadero Center,
Suite 4050, San Francisco, California 94111, Attn: Robert Benbow.
Alta Subordinated Debt Partners III, L.P. ("Alta Sub Debt III") is
managed by Burr, Egan, Deleage & Co. Alta Communications VI, L.P.
("Alta VI") and Alta Comm S by S, LLC ("S by S") are managed by Alta
Communications, Inc. The general partner of Alta Sub Debt III and the
general partner of Alta VI exercise sole voting and investment powers
with respect to the securities held by their respective fund. The
general partners of Alta Subordinated Debt Management III, L.P.,
which is the general partner of Alta Sub Debt III, include Messrs.
Craig Burr, William P. Egan, Brian McNeill, Robert Benbow, Timothy
Dibble, Jean Deleage and Jonathan Flint and Ms. Eileen McCarthy. Such
general partners may be deemed to share voting and investment powers
for the shares held by Alta Sub Debt III. The general partners of
Alta Communications VI Management Partners, L.P., which is the
general partner of Alta VI, include Messrs. William P. Egan, Brian
McNeill, Robert Benbow, Timothy Dibble and David Retik and Ms. Eileen
McCarthy. Such general partners may be deemed to share voting and
investment powers for the shares held by Alta VI. These general
partners disclaim beneficial ownership of all such securities held by
the funds except to the extent of their proportionate pecuniary
interests therein. Certain principals of Burr, Egan, Deleage & Co.
and Alta Communications, Inc. (including certain of the individuals
identified above) are members of S by S, which invests alongside Alta
VI. As members of S by S, they may be deemed to share voting and
investment powers for the shares held by S by S. These principals
disclaim beneficial ownership of all such shares except to the extent
of their proportionate pecuniary interest therein.
Common stock ownership includes warrants to purchase 2,103, 3,499 and
80 shares of Common Stock owned by Alta Sub Debt III, Alta VI and S
by S, respectively.
(5) The address is 125 High Street, Suite 2600, Boston, Massachusetts
02110, Attn: William P. Collatos. The sole general partner of
Spectrum Equity Investors, L.P. is Spectrum Equity Advisors, LLC, a
limited liability company whose members are Messrs. Brion B.
Applegate and William P. Collatos. The sole general partner
32
<PAGE> 35
of Spectrum Equity Investors II, L.P. is Spectrum Equity Advisors II,
LLC, a limited liability company whose members are Messrs. Brion B.
Applegate, William P. Collatos and Kevin J. Morroni. Messrs.
Applegate and Collatos may be deemed to share beneficial ownership of
the shares owned by Spectrum Equity Investors, L.P., and Messrs.
Applegate, Collatos and Morroni may be deemed to share beneficial
ownership of the shares owned by Spectrum Equity Investors II, L.P.
Such individuals disclaim such beneficial ownership except to the
extent of their respective pecuniary interests in such shares.
(6) The address is 175 Federal Street, 10th Floor, Boston, Massachusetts
02110, Attn: William O. Charman. The shares of Series A Preferred
Stock and Series B Preferred Stock beneficially owned by BancBoston
Ventures Inc. are controlled by its President, Frederick M. Fritz,
and by its Managing Director, Sanford Anstey, and by William O.
Charman, who is a director of the Company.
(7) The address is c/o Norwest Venture Capital Management, Inc., 2800
Piper Jaffray Tower, 222 South Ninth Street, Minneapolis, Minnesota
55402, Attn: Erik M. Torgerson. The shares of Series B Preferred
Stock beneficially owned by Norwest Equity Partners VI, LP are
controlled by its general partner, Itasca LBO Partners VI, LLP, which
is controlled by John E. Lindahl, Managing Partner, and by John P.
Whaley, Managing Administrative Partner. The shares of Series B
Preferred Stock beneficially owned by Norwest Venture Partners VI, LP
are controlled by its general partner, Itasca VC partners, LLP, which
is controlled by its Managing Partner, George J. Still, Jr., and by
John P. Whaley, Managing Administrative Partner.
(8) The address is c/o HarbourVest Partners, LLC, One Financial Center,
44th Floor, Boston, Massachusetts 02111, Attn: William A. Johnston.
The sole general partner of HarbourVest Partners V -- Direct Fund
L.P. ("HarbourVest V") is a limited liability company whose managing
member is HarbourVest Partners, LLC. The managing directors of
HarbourVest Partners, LLC are Messrs. George Anson, John M. Begg,
Philip M. Bilden, Theodore A. Clark, Kevin S. Delbridge, William A.
Johnston, Edward W. Kane, Frederick C. Maynard, Ofer Nernirovsky,
Robert M. Wadsworth and D. Brooks Zug, and Ms. Martha D. Vorlicek.
Such individuals may be deemed to share beneficial ownership of the
shares held by HarbourVest V, and disclaim such beneficial ownership
except to the extent of their respective pecuniary interest in such
shares.
(9) The address is c/o London Merchant Securities, Carlton House, 33
Robert Adam Street, London WIM 5AH, England, Attn: Iain MacPhail.
Each of Lion Investments Limited and Westpool Investment Trust plc is
a wholly-owned subsidiary of London Merchant Supplies plc, a publicly
traded company in the U.K.
(10) The address is 120 Long Ridge Road, 3rd Floor, Stamford, Connecticut
06927, Attn: Peter Foley. General Electric Capital Corporation is a
wholly-owned subsidiary of General Electric Corporation.
(11) The address is P.O. Box 1376, Great Falls, Montana 59403.
(12) The address is 2061 Norwich Ct., Glenview, Illinois 60025.
(13) The address is Escalon Avenue Apt. 2117, Sunnyvale, California 94086.
(14) The address is 7444 Molt Road, Billings, Montana 59106.
(15) The address is 163 Woodland Estates Rd., Great Falls, Montana 59404.
(16) The address is 242 East 87th Street, Apt. 1K, New York, New York
10128.
(17) The address is 511 Fortress Circle, Leesburg, Virginia 21075.
(18) The address is 2105 Noble Avenue, Springfield, Illinois 62704.
(19) The address is 1617 Outer Park, Springfield, Illinois 62704.
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<PAGE> 36
(20) 16,030 shares of Series A Preferred Stock and 9,730 shares of Common
Stock are held by the Rodney A. Weary Revocable Trust Dated 10/25/95
and may be deemed to be beneficially owned by Mr. Weary. In addition,
through the Stock Option Plan, Mr. Weary beneficially owns 3,647
shares of Common Stock as to which options have vested or will have
vested within 60 days, out of a pool of 21,884 shares available to
him.
(21) The address is c/o Golden Sky Systems, Inc., 605 West 47th Street,
Suite 300, Kansas City, Missouri 64112.
(22) Through the Stock Option Plan, Mr. Hager beneficially owns 2,500
shares of Common Stock as to which options have vested or will have
vested within 60 days, out of a pool of 10,000 available to him.
(23) Mr. Gerski beneficially owns 5,414 shares of Common Stock. In
addition, through the Stock Option Plan, Mr. Gerski beneficially owns
3,752 shares of Common Stock as to which options have vested or will
have vested within 60 days, out of a pool of 15,000 shares available
to him.
(24) Ms. Linn beneficially owns 430 shares of Series A Preferred Stock and
1,111 shares of Common Stock. In addition, through the Stock Option
Plan, Ms. Linn beneficially owns 417 shares of Common Stock as to
which options have vested or will have vested within 60 days, out of
a pool of 2,501 shares available to her.
(25) The address is c/o Alta Communications, Inc., One Embarcadero Center,
Suite 4050, San Francisco, California 94111. Shares held by Alta
Subordinated Debt Partners III, L.P., Alta Communications VI, L.P.
and Alta-Comm S By S, LLC. Mr. Benbow is a general partner of the
respective general partners of Alta Subordinated Debt Partners III,
L.P. and Alta Communications VI, L.P. As a general partner, he may be
deemed to share voting and investment powers with respect to the
shares held by the funds. Mr. Benbow disclaims beneficial ownership
of the shares held by such funds except to the extent of his
proportionate pecuniary interest therein. Mr. Benbow also disclaims
beneficial ownership of all shares held by Alta Comm S by S, LLC, of
which he is not a member.
(26) The address is c/o BancBoston Ventures, Inc., 175 Federal Street,
10th Floor, Boston, Massachusetts 02110. Shares held by BancBoston
Ventures Inc., which may be deemed to be beneficially owned by Mr.
Charman.
(27) The address is c/o Spectrum Equity Investors, 125 High Street, Suite
2600, Boston, Massachusetts 02110. Shares held by Spectrum Equity
Investors L.P. and Spectrum Equity Investors II L.P., which may be
deemed to be beneficially owned by Mr. Collatos.
(28) The address is c/o HarbourVest Partners, LLC, One Financial Center,
44th Floor, Boston, Massachusetts 02111. Shares held by HarbourVest
Partners V-Direct Fund L.P., which may be deemed to be beneficially
owned by Mr. Johnston.
(29) Mr. Liepold beneficially owns 1,000 shares of Series A Preferred
Stock and 1,425 shares of Common Stock. In addition, through the
Stock Option Plan, Mr. Liepold beneficially owns 688 shares of Common
Stock as to which options have vested or will have vested within 60
days, out of a pool of 3,758 shares available to him.
(30) The address is c/o Norwest Equity Partners, 2800 Piper Jaffray Tower,
222 South Ninth Street, Minneapolis, Minnesota 55402-3388. Shares
held by Norwest Equity Partners VI, LP, which may be deemed to be
beneficially owned by Mr. Torgerson.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
STOCK PURCHASE AGREEMENTS
On February 12, 1997, pursuant to the Stock Purchase Agreement dated as of
such date by and among the Company, Rodney A. Weary, and the investors named
therein, the Company sold an aggregate 199,000 shares of Series A Preferred
Stock, 75 shares of Common Stock, and warrants to purchase 5,682 shares of
Common Stock to
34
<PAGE> 37
such investors. At subsequent closings on February 28 and March 10, 1997, the
Company issued certain of such investors an additional 207,000 shares of Series
A Preferred Stock and 25 shares of Common Stock in the aggregate. Such
transactions resulted in proceeds to the Company of approximately $40.6 million
in the aggregate. The Company subsequently sold an aggregate 12,000 shares of
Series A Preferred Stock to certain investors who had not previously purchased
either Series A Preferred Stock or Common Stock. Such transactions resulted in
proceeds to the Company of approximately $35.6 million, in addition to
conversion of approximately $2.4 million in stock subscriptions and $3.8
million in short term borrowings.
Pursuant to an Agreement and Plan of Merger dated as of September 9, 1997
by and among the Company, GSS Mergersub Inc., a wholly-owned subsidiary of
Holdings, and Holdings, GSS Mergersub Inc. merged with and into the Company,
with the Company being the surviving corporation. Upon the consummation of such
merger, each share of Series A Preferred Stock of the Company was converted
into a share of Series A Preferred Stock of Holdings, each share of Common
Stock of the Company was converted into a share of Common Stock of Holdings,
and each share of capital stock of GSS Mergersub Inc. was converted into a
share of Common Stock of the Company, thereby causing the Company to be a
wholly-owned subsidiary of Holdings. Pursuant to a letter agreement dated as of
September 9, 1997 by and between Holdings and the Company, the Company assigned
and Holdings assumed all of the rights and obligations of the Company under the
Series A Stock Purchase Agreement.
Pursuant to a Note Purchase Agreement dated as of November 6, 1997 by and
among Holdings, the Company and certain outside investors, Holdings issued and
sold to such investors an aggregate $10.0 million principal amount of
convertible promissory notes of Holdings ("Series B Convertible Notes"). Each
Series B Convertible Note (together with accrued interest thereon, if any) was
automatically convertible into a specified number of shares of Series B
Preferred Stock upon the consummation of a qualified Series B Preferred Stock
financing. On November 24, 1997, pursuant to the Stock Purchase Agreement dated
as of such date by and among Holdings, the Company, Rodney A. Weary and the
investors named therein, Holdings issued an aggregate 228,442 shares of Series
B Preferred Stock at a purchase price of $200 per share to certain of such
investors upon conversion of the Series B Convertible Notes. Such Stock
Purchase Agreement provides that certain actions by Holdings, including the
incurrence of indebtedness in excess of $1.0 million and the granting of liens
securing indebtedness in excess of $1.0 million, require the approval of a
supermajority of the members of the Holdings' Board of Directors.
Subject to certain exceptions, Holdings and its subsidiaries (including
the Company) are prohibited under the terms of each of the Stock Purchase
Agreements from paying any dividends or making any distributions of cash,
property or securities of Holdings or any such subsidiary with respect to any
shares of capital stock of any such company, or directly or indirectly
redeeming, purchasing or otherwise acquiring for consideration any shares of
capital stock of any such company. Such prohibitions could have the effect of
limiting the cash available for the Company to service its indebtedness.
On October 2, 1998, pursuant to an Agreement and Plan of Merger, dated as
of September 1, 1998, among Holdings, the Company, Western Montana DBS, Inc.
d/b/a Rocky Mountain DBS ("Western Montana DBS") and the then stockholders of
Western Montana DBS, Holdings issued an aggregate 51,000 shares of Series C
Preferred Stock to such stockholders.
On February 19, 1999, Holdings transferred all the outstanding capital
stock of the Company (together with $100 in cash) to Golden Sky DBS in exchange
for 100 shares of common stock, $.01 par value, of Golden Sky DBS.
STOCKHOLDERS' AGREEMENT
Holdings and its stockholders have entered into a stockholders' agreement
dated as of November 24, 1997 (the "Stockholders' Agreement"). Under the
Stockholders' Agreement, Holdings and certain of its stockholders were granted
a right of first offer and a co-sale option with respect to shares of Holdings'
capital stock offered in transactions not otherwise expressly permitted under
the Stockholders' Agreement. In addition, certain of the holders of Series A
and Series B Preferred Stock were granted the right, upon the affirmative vote
of 58% of the outstanding shares of each such class, to cause the other holders
to (i) dispose of all their shares of capital stock of Holdings in connection
with a sale of all outstanding shares of Holdings capital stock or (ii) vote
for the merger or consolidation of Holdings with an unaffiliated acquiring
entity or the sale of all or substantially all the assets of
35
<PAGE> 38
Holdings. Such rights shall terminate immediately upon an initial public
offering of Holdings' Common Stock meeting certain criteria or a sale of
Holdings. The election of directors is also established by the Stockholders'
Agreement. Under the Stockholders' Agreement, Holdings has agreed, subject to
certain conditions, to effect up to four demand registrations of the Common
Stock held by its stockholders for a sale to the public under applicable
federal and state securities laws. In addition, the stockholders have certain
"piggy-back" registration rights and rights to registration on Form S-3,
subject to certain conditions. In consideration for such registration rights,
under the Stockholders' Agreement the stockholders have agreed not to sell or
otherwise dispose of shares of Holdings' Common Stock for 180 days following
any initial public offering by Holdings upon the request of Holdings or the
underwriter for such offering. The obligations of Holdings to register shares
of its Common Stock under the Stockholders' Agreement will terminate as to any
party thereto (other than Holdings) seven years after an initial public
offering of Holdings' securities, or, as to any party holding less than 2% of
Holdings' outstanding Common Stock, at such time after the first anniversary of
an initial public offering when all such shares can be legally transferred in a
three-month period under Rule 144 under the Securities Act (as reasonably
determined by Holdings).
FORMER CABLE-VIDEO MANAGEMENT, INC. ARRANGEMENT
On July 1, 1996, the Company entered into a management agreement with
Cable-Video Management, Inc. ("CVM"), which is owned by Rodney A. Weary, the
Company's Chief Executive Officer, to administer the Company's first
Acquisition. The management agreement was terminated effective September 30,
1996. During the term of the agreement, total management fees of $280,000 were
paid to CVM, and the Company reimbursed CVM for salaries and other
miscellaneous expenses totaling approximately $343,000. Upon termination of the
management agreement, the Company purchased the assets of CVM for $44,000.
CONSULTING ARRANGEMENT WITH ROBERT B. LIEPOLD
The Company has an oral consulting agreement with Robert B. Liepold, a
vice president and director of the Company, to provide expertise on an "as
needed" basis at the rate of $200 per hour in fiscal 1997 and at the rate of
$7,000 per month in 1998. The Company paid an aggregate $77,000 and $84,000 to
Mr. Liepold in 1997 and 1998, respectively, in connection with such services.
In addition, the Company paid Mr. Liepold a commission of $75,000 in October
1998 in connection with a recent acquisition.
PAYMENTS TO AFFILIATES OF RODNEY A. WEARY
The Company utilizes the air transportation services of a company owned by
Rodney A. Weary, the Company's Chief Executive Officer. The Company paid
$506,000 in 1998, $109,000 in 1997 and $31,000 in 1996 in connection with such
services. In October 1997, the Company entered into an agreement to lease an
aircraft from Mr. Weary. The lease is cancelable with six months' notice and
requires monthly payments equal to the greater of $20,000 or a fixed hourly
operating charge based on prevailing market rates.
In 1997, Mr. Weary loaned $150,000 to the Company at an interest rate of
10% per annum. In 1996, Mr. Weary made a short-term loan in the principal
amount of $381,000 to the Company at an annual interest rate of 10%. All such
amounts were repaid by the Company prior to December 31, 1997.
Also in 1997, the Company paid $66,000 to a company affiliated with Mr.
Weary, which payment was reimbursement relating to consulting services rendered
to the Company.
In 1997, F.G. Weary, the father of Rodney A. Weary, loaned $215,000 to the
Company at an interest rate of 10% per annum. Such loan, together with accrued
interest, was repaid by the Company prior to December 31, 1997.
36
<PAGE> 39
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this Report:
(1) Financial Statements
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
Independent Auditors' Report ................................................... F-2
Consolidated Balance Sheets as of December 31, 1997 and 1998.................... F-3
Consolidated Statements of Operations for the period from inception
(June 25, 1996) through December 31, 1996, and for the years ended
December 31, 1997 and 1998.................................................... F-4
Consolidated Statements of Stockholder's Equity for the period from
inception (June 25, 1996) through December 31, 1996, and for the years
ended December 31, 1997 and 1998............................................ F-5
Consolidated Statements of Cash Flows for the period from inception
(June 25, 1996) through December 31, 1996, and for the years ended
December 31, 1997 and 1998................................................... F-6
</TABLE>
(2) Financial Statement Schedules
None. All schedules have been included in the Consolidated Financial
Statements or Notes thereto.
(3) Exhibits
The following documents are filed as Exhibits to this report on Form 10-K
or incorporated by reference herein. Each document incorporated by
reference is identified by a parenthetical referencing the prior filing
in which it was included.
2.1 Stock Purchase Agreement, dated as of July 11, 1997, among Golden
Sky Systems, Inc., Argos Support Services Company and the several
shareholders named therein. (Exhibit 2.1 to Registration Statement
on Form S-4 No. 333-64367)
2.2 Asset Purchase Agreement, dated as of July 19, 1998, by and between
Golden Sky Systems, Inc. and Volcano Vision, Inc. (Exhibit 2.2 to
Registration Statement on Form S-4 No. 333-64367)
2.3 Agreement and Plan of Merger, dated as of September 1, 1998, among
Golden Sky Holdings, Inc., Golden Sky Systems, Inc., Western
Montana DBS, Inc. d/b/a Rocky Mountain DBS and the stockholders of
Western Montana DBS, Inc. named therein. (Exhibit 2.3 to
Registration Statement on Form S-4 No. 333-64367)
3.1 Second Amended and Restated Certificate of Incorporation of Golden
Sky Systems, Inc. (Exhibit 3.1 to Registration Statement on Form
S-4 No. 333-64367)
3.2 By-Laws of Golden Sky Systems, Inc., adopted as of October 1, 1997.
(Exhibit 3.2 to Registration Statement on Form S-4 No. 333-64367)
37
<PAGE> 40
4.1 Indenture, dated as of July 31, 1998, by and among Golden Sky
Systems, Inc., as issuer, Argos Support Services Company, as
guarantor, PrimeWatch, Inc., as guarantor, and State Street Bank
and Trust Company of Missouri, N.A., as trustee, relating to the 12
3/8% Senior Subordinated Notes due 2006, Series A and 12 3/8%
Senior Subordinated Notes due 2006, Series B of Golden Sky Systems,
Inc. (Exhibit 4.1 to Registration Statement on Form S-4 No.
333-64367)
4.2 Form of 12 3/8% Senior Subordinated Note due 2006, Series B of
Golden Sky Systems, Inc. (Included in Exhibit 4.1 to Registration
Statement on Form S-4 No. 333-64367)
4.3 Registration Rights Agreement, dated as of July 31, 1998, by and
among Golden Sky Systems, Inc., Merrill Lynch, Pierce, Fenner &
Smith Incorporated and NationsBanc Montgomery Securities LLC, as
initial purchasers. (Exhibit 4.3 to Registration Statement on Form
S-4 No. 333-64367)
4.4 Escrow Agreement, dated as of July 31, 1998, by and among State
Street Bank and Trust Company of Missouri, N.A., as escrow agent
and as trustee under the Indenture, and Golden Sky Systems, Inc.
(Exhibit 4.4 to Registration Statement on Form S-4 No. 333-64367)
4.5 Account Control Agreement, dated as of July 31, 1998, by and among
Golden Sky Systems, Inc., State Street Bank and Trust Company of
Missouri, N.A., as escrow agent and as custodian and securities
intermediary. (Exhibit 4.5 to Registration Statement on Form S-4
No. 333-64367)
10.1 Purchase Agreement, dated July 24, 1998, among Golden Sky Systems,
Inc., Merrill Lynch, Pierce, Fenner & Smith Incorporated and
NationsBanc Montgomery Securities LLC, relating to the issuance and
sale of $195,000,000 aggregate principal amount of 12 3/8% Senior
Subordinated Notes due 2006, Series A of Golden Sky Systems, Inc.
(Exhibit 10.1 to Registration Statement on Form S-4 No. 333-64367)
10.2 Amended and Restated Credit Agreement, dated as of May 8, 1998,
among Golden Sky Holdings, Inc., Golden Sky Systems, Inc., various
banks, Paribas (formerly known as Banque Paribas), as syndication
agent, Fleet National Bank, as administrative agent, and General
Electric Capital Corporation, as documentation agent. (Exhibit 10.2
to Registration Statement on Form S-4 No. 333-64367)
10.3 First Amendment to Amended and Restated Credit Agreement, dated as
of February 10, 1999, among Golden Sky Holdings, Inc., Golden Sky
Systems, Inc., various banks, Paribas (formerly known as Banque
Paribas), as syndication agent, Fleet National Bank, as
administrative agent, and General Electric Capital Corporation, as
documentation agent. (Exhibit 10.17 to Registration Statement on
Form S-4 No. 333-64367)
10.4 Form of NRTC/Member Agreement for Marketing and Distribution of DBS
Services, as amended. (Exhibit 10.3 to Registration Statement on
Form S-4 No. 333-64367)
10.6 Employment Agreement, dated February 12, 1997, between Golden Sky
Systems, Inc. and Rodney A. Weary. (Exhibit 10.6 to Registration
Statement on Form S-4 No. 333-64367)*
10.7 Non-Competition Agreement between Golden Sky Systems, Inc., and
Rodney A. Weary. (Exhibit 10.11 to Registration Statement on Form
S-4 No. 333-64367)*
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<PAGE> 41
10.8 Employment Agreement, dated February 12, 1997, between Golden Sky
Systems, Inc. and Jo Ellen Linn. (Exhibit 10.7 to Registration
Statement on Form S-4 No. 333-64367)*
10.9 Non-Competition Agreement between Golden Sky Systems, Inc. and Jo
Ellen Linn. (Exhibit 10.12 to Registration Statement on Form S-4
No. 333-64367)*
10.10 Employment Agreement, dated as of November 3, 1997, between Golden
Sky Systems, Inc. and William J. Gerski. (Exhibit 10.8 to
Registration Statement on Form S-4 No. 333-64367)*
10.11 Employment Agreement, dated August 24, 1998, between Golden Sky
Systems, Inc. and John R. Hager. (Exhibit 10.10 to Registration
Statement on Form S-4 No. 333-64367)*
10.12 Non-Competition Agreement, dated August 24, 1998, between Golden
Sky Systems, Inc. and John R. Hager. (Exhibit 10.13 to Registration
Statement on Form S-4 No. 333-64367)*
10.13 Confidentiality and Proprietary Rights Agreements, dated August 24,
1998, between Golden Sky Systems, Inc. and John R. Hager. (Exhibit
10.15 to Registration Statement on Form S-4 No. 333-64367)*
10.14 Form of Director Indemnification Agreement, dated February 12,
1997, between Golden Sky Systems, Inc. and each of the members of
its Board of Directors. (Exhibit 10.14 to Registration Statement on
Form S-4 No. 333-64367)
10.15 Exchange Agency Agreement, dated as of November 24, 1998, between
Golden Sky Systems, Inc. and State Street Bank and Trust Company of
Missouri, N.A., as exchange agent. (Exhibit 10.16 to Registration
Statement on Form S-4 No. 333-64367)
10.16 Office Building Lease, dated January 27, 1999, between Belletower
Partners, L.L.C. and Golden Sky Systems, Inc. (Exhibit 10.18 to
Registration Statement on Form S-4 No. 333-64367)
12.1 Statements re Computation of Ratios. (Exhibit 12.1 to Registration
Statement on Form S-4 No. 333-64367)
21.1 Subsidiaries of Golden Sky Systems, Inc. (Exhibit 21.1 to
Registration Statement on Form S-4 No. 333-64367)
24.1 Powers of Attorney of the members of the Board of Directors of
Golden Sky Systems, Inc. (Included in the signature pages of this
report)**
27.1 Financial Data Schedule.**
99.1 Stock Purchase Agreement, dated as of February 12, 1997, among
Golden Sky Systems, Inc., Rodney A. Weary and the investors named
therein. (Exhibit 99.3 to Registration Statement on Form S-4 No.
333-64367)
99.2 Stock Purchase Agreement, dated as of November 24, 1997, by and
among Golden Sky Holdings, Inc., Golden Sky Systems, Inc., Rodney
A. Weary, and the investors named therein. (Exhibit 99.4 to
Registration Statement on Form S-4 No. 333-64367)
39
<PAGE> 42
99.3 Stockholders Agreement, dated as of November 24, 1997, by and among
Golden Sky Holdings, Inc. and the investors and other stockholders
named therein. (Exhibit 99.5 to Registration Statement on Form S-4
No. 333-64367)
* Management contract or compensatory plan or arrangement.
** Filed herewith.
(b) Reports on Form 8-K
No reports on Form 8-K were filed during the quarter ended December 31,
1998.
40
<PAGE> 43
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
GOLDEN SKY SYSTEMS, INC.
By: /s/ John R. Hager
---------------------------
John R. Hager
Chief Financial Officer
Date: March 30, 1999
The undersigned directors and officers of Golden Sky Systems, Inc. hereby
appoint Rodney A. Weary and John R. Hager, or either of them individually, as
attorney-in-fact for the undersigned, with full power of substitution for, and
in the name, place and stead of the undersigned, to sign and file with the
Securities and Exchange Commission under the Securities Exchange Act of 1934,
as amended, any and all amendments to this Report on Form 10-K, and Exhibits to
this Report on Form 10-K, with full power and authority to do and perform any
and all acts and things whatsoever requisite and necessary or desirable, hereby
ratifying and confirming all that said attorney-in-fact, or his substitute or
substitutes, may lawfully do or cause to be done by virtue hereof.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated
<TABLE>
<CAPTION>
Signature Title Date
- --------- ----- ----
<S> <C> <C>
/s/ RODNEY A. WEARY Chairman of the Board, March 30, 1999
- ------------------------------------- Chief Executive Officer
Rodney A. Weary and Director (Principal
Executive Officer)
/s/ JOHN R. HAGER Chief Financial Officer March 30, 1999
- ------------------------------------------ (Principal Financial and
John R. Hager Accounting Officer)
/s/ ROBERT F. BENBOW Director March 30, 1999
- ------------------------------------
Robert F. Benbow
Director
- ----------------------------------
William O. Charman
Director
- -----------------------------------
William P. Collatos
Director
- ----------------------------------
William A. Johnston
/s/ ROBERT B. LIEPOLD Director March 30, 1999
- --------------------------------------
Robert B. Liepold
/s/ ERIK M. TORGERSON Director March 30, 1999
- ------------------------------------
Erik M. Torgerson
</TABLE>
SUPPLEMENTAL INFORMATION TO BE FURNISHED WITH REPORTS FILED PURSUANT
TO SECTION 15(d) OF THE ACT BY REGISTRANTS WHICH HAVE NOT REGISTERED SECURITIES
PURSUANT TO SECTION 12 OF THE ACT.
No annual report to security holders covering the registrant's last fiscal
year or proxy statement, form of proxy or other proxy soliciting material has
been sent to any security holders.
41
<PAGE> 44
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
<TABLE>
<CAPTION>
PAGE
----
<S> <C>
CONSOLIDATED FINANCIAL STATEMENTS
Independent Auditors' Report........................................................................ F-2
Consolidated Balance Sheets as of December 31, 1997 and 1998........................................ F-3
Consolidated Statements of Operations for the period from inception (June 25, 1996) through
December 31, 1996, and for the years ended December 31, 1997 and 1998............................. F-4
Consolidated Statements of Stockholder's Equity for the period from inception (June 25, 1996)
through December 31, 1996, and for the years ended December 31, 1997 and 1998..................... F-5
Consolidated Statements of Cash Flows for the period from inception (June 25, 1996) through
December 31, 1996, and for the years ended December 31, 1997 and 1998............................. F-6
</TABLE>
F-1
<PAGE> 45
INDEPENDENT AUDITORS' REPORT
Board of Directors and Investors
Golden Sky Systems, Inc.:
We have audited the accompanying consolidated balance sheets of Golden Sky
Systems, Inc. as of December 31, 1997 and 1998 and the related consolidated
statements of operations, stockholder's equity and cash flows for the period
from inception (June 25, 1996) through December 31, 1996, and for the years
ended December 31, 1997 and 1998. These consolidated financial statements are
the responsibility of the Company's management. Our responsibility is to
express an opinion on these consolidated financial statements based on our
audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Golden Sky
Systems, Inc. as of December 31, 1997 and 1998 and the results of their
operations and their cash flows for the period from inception (June 25, 1996)
through December 31, 1996, and for the years ended December 31, 1997 and 1998,
in conformity with generally accepted accounting principles.
KPMG LLP
February 22, 1999, except for paragraph seven of Note 5, which is as of
March 22, 1999
Kansas City, Missouri
F-2
<PAGE> 46
GOLDEN SKY SYSTEMS, INC.
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except per share amounts)
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------------
1997 1998
---------- ----------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ............................... $ 13,632 $ 4,460
Restricted cash, current portion ........................ -- 28,083
Subscriber receivables (net of allowance for
uncollectible accounts of $138 and $293, .............. 3,843 8,632
respectively)
Other receivables ....................................... 335 2,465
Inventory ............................................... 2,174 10,146
Prepaid expenses and other .............................. 127 1,859
---------- ----------
Total current assets ....................................... 20,111 55,645
Restricted cash, net of current portion .................... -- 23,534
Property and equipment (net of accumulated depreciation
of $1,061 and $3,214, respectively) ..................... 2,936 4,994
Intangible assets, net ..................................... 129,896 233,139
Deferred financing costs ................................... 3,106 10,541
Other assets ............................................... 187 218
---------- ----------
Total assets .......................................... $ 156,236 $ 328,071
========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY Current liabilities:
Trade accounts payable .................................. $ 8,471 $ 13,539
Interest payable ........................................ 786 11,009
Current maturities of long-term obligations ............. 2,538 8,916
Unearned revenue ........................................ 2,630 5,574
Accrued payroll and other ............................... 1,859 1,403
---------- ----------
Total current liabilities .................................. 16,284 40,441
Long-term obligations, net of current maturities:
12 3/8% Notes .......................................... -- 195,000
Bank debt ............................................... 60,000 67,000
Seller notes payable .................................... 6,200 6,912
Other notes payable and obligations under capital . 375 376
leases
Minority interest ....................................... 2,928 2,420
---------- ----------
Total long-term obligations, net of current maturities ..... 69,503 271,708
---------- ----------
Total liabilities .......................................... 85,787 312,149
Commitments and contingencies
Stockholder's Equity:
Common Stock, par value $.01; 1,000 shares authorized,
issued and outstanding ................................ -- --
Additional paid-in capital .............................. 87,400 97,600
Accumulated deficit ..................................... (16,951) (81,678)
---------- ----------
Total stockholder's equity ................................. 70,449 15,922
---------- ----------
Total liabilities and stockholder's equity ................. $ 156,236 $ 328,071
========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
F-3
<PAGE> 47
GOLDEN SKY SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands)
<TABLE>
<CAPTION>
INCEPTION
THROUGH
YEARS ENDED DECEMBER 31,
DECEMBER 31, --------------------------
1996 1997 1998
------------ ---------- ----------
<S> <C> <C> <C>
Revenue:
DBS services .................................. $ 219 $ 16,452 $ 74,910
Lease and other ............................... 36 944 1,014
---------- ---------- ----------
Total revenue .................................... 255 17,396 75,924
Costs and Expenses:
Costs of DBS services ......................... 130 9,304 45,291
System operations ............................. 26 3,796 11,021
Sales and marketing ........................... 73 7,316 32,201
General and administrative .................... 1,035 2,331 7,431
Depreciation and amortization ................. 97 7,300 23,166
---------- ---------- ----------
Total costs and expenses ......................... 1,361 30,047 119,110
---------- ---------- ----------
Operating loss ................................... (1,106) (12,651) (43,186)
Non-operating items:
Interest and investment income ................ 1 40 1,573
Interest expense .............................. (62) (3,173) (20,537)
---------- ---------- ----------
Total non-operating items ........................ (61) (3,133) (18,964)
---------- ---------- ----------
Loss before income taxes ......................... (1,167) (15,784) (62,150)
Income taxes ..................................... -- -- --
---------- ---------- ----------
Loss before extraordinary charge ................. (1,167) (15,784) (62,150)
Extraordinary charge on early retirement of debt . -- (2,577) --
---------- ---------- ----------
Net loss ......................................... $ (1,167) $ (15,784) $ (64,727)
========== ========== ==========
</TABLE>
See accompanying notes to consolidated financial statements.
F-4
<PAGE> 48
GOLDEN SKY SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDER'S EQUITY
(Dollars in thousands)
<TABLE>
<CAPTION>
ADDITIONAL
COMMON PAID-IN ACCUMULATED
STOCK CAPITAL DEFICIT TOTAL
-------- -------- ----------- --------
<S> <C> <C> <C> <C>
Balance at inception (June 25, 1996) .................. $ -- $ -- $ -- $ --
Issuance of 1,000 shares of Common Stock ........... -- 1 -- 1
Net loss ........................................... -- -- (1,167) (1,167)
-------- -------- -------- --------
Balance at December 31, 1996 .......................... -- 1 (1,167) (1,166)
Cancellation of originally issued Common Stock ..... -- (1) -- (1)
Issuance of 1,000 shares of new Common Stock ....... -- -- -- --
Contribution from Golden Sky Holdings, Inc. ........ -- 87,400 -- 87,400
Net loss ........................................... -- -- (15,784) (15,784)
-------- -------- -------- --------
Balance at December 31, 1997 .......................... -- 87,400 (16,951) 70,449
Contribution from Golden Sky Holdings, Inc. ........ -- 10,200 -- 10,200
Net loss ........................................... -- -- (64,727) (64,727)
-------- -------- -------- --------
Balance at December 31, 1998 .......................... $ -- $ 97,600 $(81,678) $ 15,922
======== ======== ======== ========
</TABLE>
See accompanying notes to consolidated financial statements.
F-5
<PAGE> 49
GOLDEN SKY SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
<TABLE>
<CAPTION>
INCEPTION
THROUGH
DECEMBER 31, YEARS ENDED DECEMBER 31,
--------------------------------------
1996 1997 1998
---------- ---------- ----------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss ........................................................ $ (1,167) $ (15,784) $ (64,727)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization ................................ 97 7,300 23,166
Amortization of deferred financing costs ..................... -- 215 977
Extraordinary charge on early retirement of debt ............. -- -- 2,577
Change in operating assets and liabilities, net of
acquisitions:
Subscriber receivables, net of unearned revenue ............ (13) (2,501) (1,757)
Other receivables .......................................... (123) (161) (2,130)
Inventory .................................................. (31) (1,604) (8,049)
Prepaid expenses and other ................................. (17) (203) (1,228)
Trade accounts payable ..................................... 372 7,515 5,068
Interest payable ........................................... 53 733 10,223
Accrued payroll and other .................................. 39 1,391 (708)
---------- ---------- ----------
Net cash used in operating activities ........................... (790) (3,099) (36,588)
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisitions of Rural DIRECTV Markets ........................... (2,806) (120,051) (104,487)
Offering proceeds and investment earnings placed in escrow ...... -- -- (51,617)
Purchases of property and equipment ............................. (105) (998) (3,317)
Other ........................................................... (320) 320 (500)
---------- ---------- ----------
Net cash used in investing activities ........................... (3,231) (120,729) (159,921)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from investors' subscriptions to purchase .............. 2,499 -- --
preferred stock
Proceeds from issuance of Series A Convertible
Participating ................................................ -- 34,289 --
Preferred Stock
Net proceeds from issuance of 12 3/8% Notes ..................... -- -- 189,150
Borrowings under the Credit Agreement ........................... -- 75,000 28,000
Borrowings under the Credit Facility ............................ -- -- 62,000
Principal payments on the Credit Agreement ...................... -- (15,000) --
Principal payments on the Credit Facility ....................... -- -- (83,000)
Proceeds from issuance of notes payable ......................... 2,396 2,115 --
Principal payments on notes payable and obligations under
capital leases ............................................... (396) (2,902) (3,675)
Proceeds from issuance of Common Stock .......................... 1 -- --
Contribution from Golden Sky Holdings, Inc. ..................... -- 46,800 --
Increase in deferred financing costs ............................ -- (3,321) (5,138)
---------- ---------- ----------
Net cash provided by financing activities ....................... 4,500 136,981 187,337
---------- ---------- ----------
Net increase (decrease) in cash and cash equivalents ............ 479 13,153 (9,172)
Cash and cash equivalents, beginning of period .................. -- 479 13,632
========== ========== ==========
Cash and cash equivalents, end of period ........................ $ 479 $ 13,632 $ 4,460
========== ========== ==========
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
Cash paid for interest ....................................... $ 9 $ 2,225 $ 9,337
Property and equipment acquired under capitalized
lease obligations ......................................... -- 554 609
Retirement of Credit Agreement from borrowings under
the Credit Facility ....................................... -- -- 88,000
Issuance of seller notes payable in acquisitions ............. 2,450 8,600 10,157
Conversion of notes payable and subscriptions to
Series A Convertible Participating Preferred Stock ........ -- 6,311 --
Contribution from Golden Sky Holdings, Inc. resulting
from issuance of its preferred stock in acquisitions ...... -- -- 10,200
</TABLE>
See accompanying notes to consolidated financial statements.
F-6
<PAGE> 50
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION AND NATURE OF OPERATIONS
Principal Business
Golden Sky Systems, Inc. ("Systems" or "the Company") is the second largest
independent provider of DIRECTV subscription television services. DIRECTV is
the leading direct broadcast satellite ("DBS") company serving the continental
United States. Systems, a Delaware corporation formed on June 25, 1996
("Inception"), is a non-voting affiliate of the National Rural
Telecommunications Cooperative (the "NRTC"). The NRTC has contracted with
Hughes Communications Galaxy, Inc. ("Hughes") for the exclusive right to
distribute DIRECTV programming to homes in certain rural territories of the
United States ("Rural DIRECTV Markets"). As of December 31, 1998, Systems has
acquired 48 Rural DIRECTV Markets in 22 states with approximately 1.7 million
households. As of that same date, Systems served approximately 230,500
subscribers.
Organization and Legal Structure
Until February 1999, Systems was a wholly-owned subsidiary of Golden Sky
Holdings, Inc. ("Holdings"). Holdings is a Delaware corporation formed on
September 9, 1997 for the purpose of holding all the capital stock of Systems.
Upon the formation of Holdings, Systems issued 1,000 shares of its common stock
to Holdings and all the shareholders of the then outstanding preferred stock of
Systems were issued equivalent shares of Holdings stock with identical features
to Systems' preferred stock (the "Exchange"). The Exchange was accounted for as
a reorganization of entities under common control and the historical cost basis
of consolidated assets and liabilities was not affected by the transaction.
Holdings has no significant assets or liabilities other than its investment in
Systems.
On February 2, 1999, Golden Sky DBS, Inc. ("Golden Sky DBS") was formed for
the purpose of effecting an offering of senior discount notes. Upon formation,
Golden Sky DBS issued 100 shares of its common stock to Holdings in exchange
for $100 and the subsequent transfer of all of the capital stock of Systems to
Golden Sky DBS. Upon completion of the aforementioned transfer, Systems became
a wholly-owned subsidiary of Golden Sky DBS.
Significant Risks and Uncertainties
Substantial Leverage. Systems is highly leveraged, making it vulnerable to
changes in general economic conditions and interest rates. As of December 31,
1998, Systems had outstanding long-term debt (including current portion)
totaling approximately $278.2 million. Substantially all of Systems' and its
subsidiaries' assets are pledged as collateral on its long-term debt. Further,
the terms associated with Systems' long-term debt obligations significantly
restrict its ability to incur additional indebtedness. Thus, it may be
difficult for Systems and its subsidiaries to obtain additional debt financing
if desired or required in order to further implement Systems' business
strategy.
Expected Operating Losses. Due to the substantial expenditures required to
acquire Rural DIRECTV Markets and subscribers, Systems has sustained
significant losses since Inception. Systems' operating losses were $1.1
million, $12.7 million and $43.2 million for the periods ended December 31,
1996, 1997 and 1998, respectively. Systems' net losses during those same
periods aggregated $1.2 million, $15.8 million and $64.7 million, respectively.
Improvement in Systems' results of operations is principally dependent upon its
ability to cost effectively expand its subscriber base, control subscriber
churn (i.e., the rate at which subscribers terminate service), and effectively
manage its operating and overhead costs. No assurance can be given that Systems
will be effective with regard to these matters. Systems incurs significant
costs to acquire DIRECTV subscribers. The high cost of obtaining new
subscribers magnifies the negative effects of subscriber churn. Systems
anticipates that it will continue to experience operating losses through at
least 1999. There can be no assurance that such operating losses will not
continue beyond 1999 or that Systems' operations will generate sufficient cash
flows to pay its obligations, including its obligations on its long-term debt.
F-7
<PAGE> 51
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. ORGANIZATION AND NATURE OF OPERATIONS - CONTINUED
Restrictions on Dividends and Other Distributions. The ability of Systems
and its subsidiaries to pay dividends and make other distributions and advances
is subject to, among other things, the terms of its long-term debt obligations
and applicable law. As a result, Systems may be limited in its ability to make
dividend payments and other distributions to Golden Sky DBS at the time such
distributions are needed by Golden Sky DBS to meet its obligations.
Reliance on DIRECTV/NRTC. Systems obtains substantially all of its revenue
from the distribution of DIRECTV programming services. As a result, Systems
would be materially adversely affected by any material change in the assets,
financial condition, programming, technological capabilities or services of
DIRECTV or Hughes. Further, Systems relies upon DIRECTV to continue to provide
programming services on a basis consistent with its past practice. Any change
in such practice due to, for example, a failure to replace a satellite upon the
expiration of its useful orbital life or a delay in launching a successor
satellite may prevent Systems from continuing to provide DBS services and could
have a material adverse effect on Systems financial condition and results of
operations. Additionally, Systems' ability to offer DIRECTV programming
services depends upon agreements between the NRTC and Hughes and between
Systems and the NRTC. The NRTC's interests may differ from Systems' interests.
Systems would be materially and adversely affected by the termination of the
NRTC's agreement with Hughes and/or the termination of Systems' agreements with
the NRTC. Systems' agreements with the NRTC require that it use the NRTC for
certain support services including subscriber information and data reporting
capability, retail billing services and central office subscriber services.
Such services are critical to the operation and management of Systems'
business.
Competition. The subscription television industry is highly competitive.
Systems faces competition from companies offering video, audio, data,
programming and entertainment services. Many of these competitors have
substantially greater financial and marketing resources than Systems. Systems
ability to effectively compete in the subscription television industry will
depend on a number of factors, including competitive factors (such as the
introduction of new technologies or the entry of additional strong competitors)
and the level of consumer demand for such services.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation and Principles of Consolidation
The consolidated financial statements include the financial statements of
Systems and its majority owned subsidiaries. All significant intercompany
transactions and balances have been eliminated. Minority interest represents
the cumulative earnings and losses, after capital contributions, attributable
to minority partners and stockholders.
Use of Estimates
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make a number
of estimates and assumptions which affect the reported amounts of assets and
liabilities, as well as the reported amounts of revenue and expenses during the
period. Actual results could differ from these estimates.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original
maturities of three months or less to be cash equivalents. At December 31, 1997
and 1998, cash and cash equivalents include cash on hand, demand deposits and
money market accounts.
F-8
<PAGE> 52
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
Restricted Cash
Restricted cash, as reflected in the accompanying consolidated balance
sheets, include cash restricted by the indenture associated with the Company's
12 3/8% Notes (see Note 5), plus investment earnings thereon. Restricted cash,
which is held in escrow, is invested in certain permitted debt and other
marketable investment securities until disbursed for the express purposes
identified in the indenture. As of December 31, 1998, restricted cash was
composed entirely of U.S. treasury notes.
Inventory
Inventory is stated at the lower of cost (first-in, first-out) or market
and consists of receivers, satellite dishes and accessories ("DBS equipment").
The Company subsidizes the cost to the consumer of such equipment, which is
required to receive DIRECTV programming services. Additionally, the Company
subsidizes the cost to the consumer of installation of DBS equipment. Equipment
and installation revenues and related expenses are recognized upon delivery and
installation of DBS equipment. Net transaction costs associated with the sale
and installation of DBS equipment are reported as a component of sales and
marketing expenses in the accompanying consolidated statements of operations.
During the periods ended December 31, 1996, 1997 and 1998, aggregate proceeds
from the sale and installation of DBS equipment totaled $57,000, $3.8 million
and $11.0 million, respectively; related cost of sales totaled $68,000, $4.6
million and $25.8 million during those same periods.
Long-lived Assets
Systems reviews its long-lived assets (e.g., property and equipment) and
certain identifiable intangible assets to be held and used for impairment
whenever events or changes in circumstances indicate that the carrying amount
of an asset may not be recoverable. For assets which are held and used in
operations, the asset would be impaired if the book value of the asset exceeded
the undiscounted future cash flows related to the asset. For those assets that
are to be disposed of, the assets would be impaired to the extent the fair
value does not exceed the book value. Systems considers relevant cash flow,
estimated future operating results, trends and other available information
including the fair value of DIRECTV distribution rights owned, in assessing
whether the carrying value of assets can be recovered.
Property and Equipment
Property and equipment, consisting of computer hardware and software,
furniture, vehicles, and office and other equipment, is recorded at cost.
Depreciation is recognized on a straight-line basis over the related estimated
useful lives, which range from two to five years.
DIRECTV Distribution Rights
DIRECTV distribution rights, which represent the excess of the purchase
price over the fair value of net assets acquired, are amortized on a
straight-line basis over the periods expected to be benefited, generally up to
12 years. The expected period to be benefited corresponds to the remaining
estimated orbital lives of the satellites used by Hughes for distribution of
DIRECTV programming services. Hughes' satellites are estimated to have orbital
lives of approximately 15 years from the respective launch dates in December
1993, August 1994 and June 1995.
F-9
<PAGE> 53
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
Fair Value of Financial Instruments
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to estimate
that value:
Cash and cash equivalents: The carrying value approximates fair value
as a result of the short maturity of these instruments.
Receivables and payables: These assets are carried at cost, which
approximates fair value as a result of the short-term nature of the
instruments.
Long-term debt and notes payable: Fair value of the 12 3/8% Notes (as
defined) is based on quoted market prices. As of December 31, 1998,
the carrying value of the 12 3/8% Notes was $195.0 million; the fair
value of the 12 3/8% Notes approximated $199.9 million as of that same
date. The carrying value of Systems' Credit Facility (as defined) and
other notes payable approximate fair value, as interest rates are
variable or approximate market rates.
Revenue Recognition
DBS services revenue is recognized in the month service is provided.
Unearned revenue represents subscriber advance billings for one or more months
and revenue recognition is deferred until service is provided.
System Operations Expense
System operations expense includes payroll and other administrative costs
related to the Company's local offices and national call center.
Advertising Costs
Advertising costs are expensed as incurred. Such costs aggregated $33,000,
$1.4 million and $5.1 million during the periods ended December 31, 1996, 1997
and 1998, respectively.
Income Taxes
Systems elected to be taxed as an S Corporation for federal income tax
purposes in 1996. As an S Corporation, Systems was generally not directly
subject to income taxation. On February 12, 1997, Systems terminated its S
Corporation status, and thereafter is subject to income taxation as a C
Corporation under Subchapter "C" of the Internal Revenue Code. Upon formation,
Holdings elected to be taxed as a C Corporation for federal income tax
purposes. Pro forma income taxes have not been presented because the Company
has incurred operating losses in all periods.
Effects of Recently Issued Accounting Pronouncements
Systems adopted Statement of Financial Accounting Standards ("FAS") No.
130, "Reporting Comprehensive Income" ("FAS No. 130") during the first quarter
of 1998. FAS No. 130 established new rules for the reporting of comprehensive
income and its components. FAS No. 130 has no impact on net income or
stockholder's equity. Systems has no components of comprehensive income other
than net loss and thus, adoption of FAS No. 130 had no effect on its financial
statements.
F-10
<PAGE> 54
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - CONTINUED
In June 1998, the Financial Accounting Standards Board (the "FASB") issued
FAS No. 133, "Accounting for Derivative Instruments and Hedging Activities"
("FAS No. 133"). FAS No. 133 is effective for fiscal years beginning after June
15, 1999. FAS No. 133 establishes accounting and reporting standards for
derivative instruments and for hedging activities. Currently, Systems has no
derivative instruments or hedging arrangements. Accordingly, adoption of FAS
No. 133 is not expected to have a material effect on Systems' financial
position or results of operations.
In April 1998, the American Institute of Certified Public Accountants
issued Statement of Position 98-5, "Reporting on the Costs of Start-Up
Activities" ("SOP 98-5"). SOP 98-5, which is effective for fiscal years
beginning after December 15, 1998, defines costs related to start-up activities
and requires that such costs be expensed as incurred. As Systems previously has
expensed all such costs, the adoption of SOP 98-5 is not expected to effect
Systems' financial position or results of operations.
Reclassifications
Certain amounts from the prior years consolidated financial statements have
been reclassified to conform with the current year presentation.
3. ACQUISITIONS
The Company accounts for its acquisitions using the purchase method. The
Company's consolidated statements of operations for the periods ended December
31, 1996, 1997 and 1998 include the results of operations of acquired Rural
DIRECTV Markets from the respective acquisition dates.
The aggregate purchase price (including direct acquisition costs) for the
acquisitions completed during 1996, 1997 and 1998 were allocated as follows
(dollars in thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
------------------------------------------
1996 1997 1998
---------- ---------- ----------
<S> <C> <C> <C>
DIRECTV distribution rights ............ $ 4,664 $ 116,394 $ 114,747
Customer lists ......................... 453 9,450 7,114
Non-compete agreements ................. 35 4,879 2,587
Property and equipment ................. 135 1,953 204
Minority interest ...................... -- (2,931) --
Working capital, net ................... (31) (20) 192
---------- ---------- ----------
$ 5,256 $ 129,725 $ 124,844
========== ========== ==========
</TABLE>
F-11
<PAGE> 55
3. ACQUISITIONS - CONTINUED
The following summarizes the Company's acquisitions of Rural DIRECTV
Markets consummated during 1996, 1997 and 1998 (dollars in thousands):
<TABLE>
<CAPTION>
AGGREGATE
SELLER ACQUISITION DATE STATE CONSIDERATION
---------------------------------------------- ------------------- -------------------- ---------------
<S> <C> <C> <C>
Aurora Cable TV............................... November 15, 1996 Tennessee $ 1,092
TV Tennessee, Inc............................. November 22, 1996 Tennessee 4,164
--------
Total 1996 acquisitions.................... $ 5,256
========
Deep East Texas Telecommunications, Inc....... February 7, 1997 Texas $ 1,919
Images DBS Kansas, L.C., Images DBS
Oklahoma, L.C. and Total Communications, February 12, 1997 Kansas/Oklahoma 12,702
Inc........................................
Direct Satellite TV, LTD...................... February 28, 1997 Texas 3,746
Thunderbolt Systems, Inc...................... March 11, 1997 Missouri 6,127
Western Montana DBS, Inc. dba Rocky Mountain
DBS........................................ May 1, 1997 Colorado 4,774
TEG DBS Services, Inc......................... June 12, 1997 Nevada 5,237
GVEC Rural TV, Inc............................ July 8, 1997 Texas 5,176
Satellite Entertainment, Inc.................. July 14, 1997 Minnesota/Michigan 9,640
Direct Vision................................. July 15, 1997 Minnesota 7,452
Argos Support Services Company................ August 8, 1997 Florida/Texas/Utah 18,217
JECTV, a segment of Jackson Electric August 26, 1997 Texas 9,453
Cooperative................................
Lakes Area TV................................. September 2, 1997 Minnesota 1,355
DCE Satellite Entertainment, LLC.............. October 13, 1997 Wisconsin 313
Direct Broadcast Satellite, a segment of CTS
Communication Corporation.................. November 7, 1997 Michigan 4,293
DBS, L.C...................................... November 17, 1997 Iowa 1,911
Panora Telecommunications, Inc................ November 20, 1997 Iowa 1,131
Souris River Television, Inc.................. November 21, 1997 North Dakota 7,276
Cal-Ore Digital TV, Inc....................... December 8, 1997 California/Oregon 5,095
NRTC System No. 0093, a segment of Cable and
Communications Corporation................. December 17, 1997 Montana 3,876
Western Montana Entertainment Television, December 22, 1997 Montana 7,067
Inc........................................
South Plains DBS.............................. December 23, 1997 Texas 9,143
Lakeland DBS.................................. December 24, 1997 Oklahoma 3,822
--------
Total 1997 acquisitions.................... $129,725
========
</TABLE>
F-12
<PAGE> 56
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3. ACQUISITIONS - CONTINUED
<TABLE>
<CAPTION>
AGGREGATE
SELLER ACQUISITION DATE STATE CONSIDERATION
---------------------------------------------- ------------------- -------------------- ---------------
<S> <C> <C> <C>
Direct Broadcast Satellite, a segment of
Nemont Communications Inc.................. January 14, 1998 Montana/Wyoming 8,284
Triangle Communications System, Inc........... January 20, 1998 Montana 9,765
Wyoming Mutual Telephone...................... January 21, 1998 Iowa 527
North Willamette Telephone.................... March 10, 1998 Oregon 6,015
Northwest Communications...................... March 10, 1998 North Dakota 1,363
Beulahland Communications, Inc................ March 19, 1998 Colorado 835
Direct Broadcast Satellite, a segment of SCS
Communications & Security, Inc............. April 20, 1998 Oregon 5,386
PrimeWatch, Inc............................... May 8, 1998 North Carolina 7,988
Mega TV....................................... May 11, 1998 Georgia 2,103
Direct Broadcast Satellite, a division of
Baldwin County Electric Membership June 29, 1998 Alabama 11,769
Corporation................................
Frontier Corporation.......................... July 8, 1998 Wisconsin 734
North Texas Communications.................... August 6, 1998 Texas 3,118
SEMO Communications Corporation............... August 26, 1998 Missouri 2,918
DBS Segment of Cumby Cellular, Inc............ August 31, 1998 Texas 7,553
Minburn Telephone............................. September 18, 1998 Iowa 447
Western Montana DBS, Inc. dba Rocky Mountain
DBS........................................ October 2, 1998 Idaho/Montana 20,740
Direct Broadcast Satellite, a segment of
Volcano Vision, Inc........................ October 9, 1998 California 31,425
North Central Missouri Electric Coop.......... November 2, 1998 Missouri 1,745
Star Search Rural Television, Inc............. November 5, 1998 Oklahoma 2,129
---- --------
Total 1998 acquisitions.................... $124,844
========
</TABLE>
The unaudited pro forma information presented below reflects the Company's
acquisitions of Rural DIRECTV Markets consummated during 1997 and 1998 as if
each such acquisition had occurred as of the beginning of the period presented.
These results are not necessarily indicative of future operating results or of
what would have occurred had the acquisitions been consummated at those times
(dollars in thousands).
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
------------------------------
1997 1998
------------- -------------
<S> <C> <C>
Total revenue................................. $ 39,937 $ 87,857
Net loss before extraordinary charge.......... (26,654) (79,813)
</TABLE>
Subsequent to December 31, 1998, the Company acquired the exclusive rights
to provide DIRECTV programming in four additional Rural DIRECTV Markets. These
Rural DIRECTV Markets served approximately 10,600 subscribers as of the
respective acquisition dates. The aggregate purchase price of these
acquisitions, which represent approximately 54,000 television households,
totaled $19.9 million.
During 1997, Systems acquired a controlling interest in DCE Satellite
Entertainment, LLC ("DCE"). Systems has an option to purchase, for
approximately $3.9 million, the remaining ownership interest in DCE that it
does not own. Systems may exercise this option by delivering no earlier than
April 8, 1999, and no later than April 23, 1999, written notice to DCE of its
intention to exercise such option. Pursuant to the related operating agreement
between Systems and DCE, closing shall occur no later than 30 days after the
delivery of such notice.
F-13
<PAGE> 57
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4. INTANGIBLE ASSETS
Intangible assets, which are amortized using the straight-line method over
the related estimated useful lives, consist of the following (dollars in
thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
------------------------- ESTIMATED
1997 1998 USEFUL LIFE
---------- ---------- -----------
<S> <C> <C> <C>
DIRECTV distribution rights ............ $ 121,969 $ 236,531 10-12 years
Customer lists ......................... 9,903 17,018 5 years
Non-compete agreements ................. 4,914 7,501 3 years
---------- ----------
136,786 261,050
Less accumulated amortization............ (6,890) (27,911)
---------- ----------
Intangible assets, net................. $ 129,896 $ 233,139
========== ==========
</TABLE>
5. LONG-TERM OBLIGATIONS
Long-term obligations consist of the following (dollars in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------------
1997 1998
---------- ----------
<S> <C> <C>
12 3/8% Notes .............................................. $ -- $ 195,000
Bank debt .................................................. 60,000 67,000
Seller notes payable ....................................... 8,600 15,407
Other notes payable and obligations under capital leases ... 513 797
Minority interest .......................................... 2,928 2,420
---------- ----------
Total long-term obligations ................................ 72,041 280,624
Less current maturities .................................... (2,538) (8,916)
========== ==========
Long-term obligations, net of current maturities ...... $ 69,503 $ 271,708
========== ==========
</TABLE>
12 3/8% Notes
On July 31, 1998, Systems consummated an offering (the "12 3/8% Notes
Offering") of 12 3/8% Senior Subordinated Notes due 2006 (the "12 3/8% Notes").
Interest on the 12 3/8% Notes is payable in cash semi-annually in arrears on
February 1 and August 1 of each year, with the first interest payment due
February 1, 1999. The 12 3/8% Notes mature on August 1, 2006. The 12 3/8% Notes
Offering resulted in net proceeds to the Company of approximately $189.2
million (after payment of underwriting discounts and other issuance costs
aggregating approximately $5.8 million). Approximately $45.2 million of the net
proceeds of the 12 3/8% Notes Offering were placed in escrow to fund the first
four semi-annual interest payments (through August 1, 2000) on the 12 3/8%
Notes. Additionally, $5.3 million was reserved to fund a portion of a
contingent reduction of the Company's availability under its Credit Facility.
Such contingent reduction will not occur as a result of the February 1999
amendment to the Credit Facility (see Note 15).
The 12 3/8% Notes are unsecured senior subordinated obligations and are
subordinated in right of payment to all existing and future senior indebtedness
of Systems. The 12 3/8% Notes rank pari passu in right of payment with all
other existing and future senior subordinated indebtedness, if any, of Systems
and senior in right of payment to all existing and future subordinated
indebtedness, if any, of Systems. The 12 3/8% Notes are guaranteed on a full,
unconditional, joint and several basis by Argos Support Services Company
("Argos") and PrimeWatch, Inc. ("PrimeWatch"). Both Argos and PrimeWatch are
wholly-owned subsidiaries of the Company.
F-14
<PAGE> 58
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5. LONG-TERM OBLIGATIONS - CONTINUED
The 12 3/8% Notes are redeemable, in whole or in part, at Systems' option
on or after August 1, 2003, at redemption prices decreasing from 112% during
the year commencing August 1, 2003 to 108% on or after August 1, 2005, plus
accrued and unpaid interest, if any, to the date of redemption. In addition, on
or prior to August 1, 2001, Systems may, at its option, redeem up to 35% of the
originally issued aggregate principal amount of the 12 3/8% Notes, at a
redemption price equal to 112.375% of the principal amount thereof, plus
accrued and unpaid interest thereon, if any, to the date of redemption solely
with the net proceeds of a public equity offering of Systems or Holdings
yielding gross proceeds of at least $40.0 million and any subsequent public
equity offerings (provided that, in the case of any such offering or offerings
by Holdings, all the net proceeds thereof are contributed to Systems);
provided, further that immediately after any such redemption the aggregate
principal amount of Notes outstanding must equal at least 65% of the originally
issued aggregate principal amount of the 12 3/8% Notes.
The indenture related to the 12 3/8% Notes (the "12 3/8% Notes Indenture")
contains restrictive covenants that, among other things, impose limitations on
Systems' ability to incur additional indebtedness, pay dividends or make
certain other restricted payments, consummate certain asset sales, enter into
certain transactions with affiliates, incur indebtedness that is subordinate in
right of payment to any senior indebtedness and senior in right of payment to
the 12 3/8% Notes, incur liens, permit restrictions on the ability of
subsidiaries to pay dividends or make certain payments to Systems, merge or
consolidate with any other person or sell, assign, transfer, lease, convey or
otherwise dispose of all or substantially all of Systems' assets.
In the event of a change of control, as defined in the 12 3/8% Notes
Indenture, each holder of 12 3/8% Notes will have the right to require Systems
to purchase all or a portion of such holder's 12 3/8% Notes at a price equal to
101% of the principal amount thereof, plus accrued and unpaid interest, if any,
to the date of purchase.
The 12 3/8% Notes were issued in a private placement pursuant to Rule 144A
of the Securities Act of 1933, as amended (the "Securities Act"). During 1998,
Systems filed a registration statement with the Securities and Exchange
Commission (the "SEC") relating to the exchange of the privately issued notes
for publicly registered notes with substantially identical terms (including
principal amount, interest rate, maturity, security and ranking). Because the
registration statement was not declared effective within the time period
required under the registration rights agreement associated with the 12 3/8%
Notes Offering, from December 29, 1998 through March 22, 1999 (the date the
registration statement was declared effective), Systems was required to pay
liquidated damages of $18,750 per week to holders of the 12 3/8% Notes.
Bank Debt
During 1997, Systems entered into a credit agreement (the "Credit
Agreement") with a group of financial institutions, which provided for
borrowings of $100.0 million. Loans outstanding under the Credit Agreement bore
interest at variable rates (prime rate or LIBOR plus an applicable margin). At
December 31, 1997, the effective rates on these loans ranged from 9% to 11%.
During May 1998, the Company entered into a seven-year, $150.0 million
amended credit facility (the "Credit Facility") with a syndicate of lenders.
The Credit Facility provides for a term loan commitment of $35.0 million and a
revolving loan commitment of $115.0 million. Borrowings under the Credit
Facility bear interest at variable rates (approximately 10% as of December 31,
1998) calculated on a base rate, such as the prime rate or LIBOR, plus an
applicable margin. As of December 31, 1998, aggregate borrowings outstanding
under the Credit Facility totaled $67.0 million, including $35.0 million
borrowed pursuant to the Credit Facility's term loan commitment.
Upon execution of the Credit Facility, Systems recognized an extraordinary
charge of approximately $2.6 million to write-off unamortized deferred
financing costs associated with the Credit Agreement.
F-15
<PAGE> 59
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5. LONG-TERM OBLIGATIONS - CONTINUED
In February 1999, the Credit Facility was amended to permit, among other
things, the offering of senior discount notes by Golden Sky DBS (see Note 15).
As amended, the term loan commitment amortizes in specified quarterly
installments from March 31, 2002 through maturity on December 31, 2005.
Availability of revolving loan borrowings reduces by specified amounts over the
period from March 31, 2001 through maturity on September 30, 2005. Borrowings
under the Credit Facility are unconditionally and irrevocably guaranteed by
Holdings, Golden Sky DBS, and two subsidiaries of Systems, Argos and
PrimeWatch. Further, such borrowings are secured by (i) a pledge by Holdings of
all of the capital stock of Golden Sky DBS, (ii) a pledge by Golden Sky DBS of
all of the capital stock of Systems, (iii) an equal and ratable pledge of all
of the capital stock of Systems' subsidiaries, (iv) a first priority security
interest in all of such subsidiaries' assets, and (v) a collateral assignment
of Systems' NRTC agreements.
The Credit Facility contains a number of significant covenants that, among
other things, limit Systems' ability to incur additional indebtedness and
guaranty obligations, create liens and other encumbrances, make certain
payments, investments, loans and advances, pay dividends or make other
distributions in respect of Systems' capital stock, sell or otherwise dispose
of assets, make capital expenditures, merge or consolidate with another entity,
create subsidiaries, make amendments to its organizational documents or
transact with affiliates. As of each of December 31, 1997 and 1998, no amounts
were available for distribution to Holdings.
The Credit Facility also contains a number of financial covenants that will
require Systems to meet certain financial ratios and financial condition tests.
These financial covenants, in certain instances, become effective at different
points in time and vary over time. The covenants include limitations on
indebtedness per subscriber, limitations on subscriber acquisition costs,
maintenance of a minimum fixed charge coverage ratio, maintenance of minimum
interest coverage ratios, and limitations on indebtedness to pro forma EBITDA
(earnings before interest, taxes, depreciation and amortization) ratios.
Revolving credit availability under the Credit Facility depends upon
satisfaction of the various covenants as well as minimum subscriber base
requirements. As of December 31, 1998, the Company was in compliance with all
of the covenants under the Credit Facility.
Commitment fees are payable on unused amounts available under the Credit
Facility. Such commitment fees, which are payable quarterly in arrears, range
from 0.50% per annum to 1.25% per annum based on Systems' utilization of such
commitments.
Seller Notes Payable
In connection with certain 1996 acquisitions, the Company issued seller
notes payable totaling $2.5 million and bearing interest at an annual rate of
10%. These notes were repaid during 1997. The Company also issued seller notes
payable totaling $8.6 million in connection with certain 1997 acquisitions and
$10.2 million in connection with certain 1998 acquisitions. As of December 31,
1998, approximately $13.9 million of the outstanding seller notes payable were
collateralized by bank letters of credit. The seller notes payable bear
interest at rates ranging from 7% to 10%.
Other Notes Payable
In November 1996, the Company issued $2.0 million in promissory notes to a
group of lenders under a bridge financing agreement. The notes bore interest at
the rate of 10% per annum. In February 1997, these notes, along with $1.8
million in additional promissory notes issued in January 1997, were exchanged
for Systems' Series A Convertible Participating Preferred Stock. In connection
with the bridge agreement, Systems' issued warrants exercisable for 5,682
shares of its Common Stock at an exercise price of $.01 per share. These
warrants were immediately exercisable and expire on February 12, 2007. At the
date of issuance, the fair value of the warrants was not material. These
warrants were assumed by Holdings after its formation.
F-16
<PAGE> 60
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5. LONG-TERM OBLIGATIONS - CONTINUED
Future maturities of amounts outstanding under Systems' long-term
obligations as of December 31, 1998 are summarized as follows (dollars in
thousands, bank debt amounts reflect February 1999 amendment):
<TABLE>
<CAPTION>
12 3/8% SELLER NOTES
NOTES BANK DEBT PAYABLE OTHER TOTAL
---------- ---------- ------------ ---------- ----------
<S> <C> <C> <C> <C> <C>
Year Ending December 31,
1999 ................................ $ -- $ -- $ 8,495 $ 421 $ 8,916
2000 ................................ -- -- 1,906 322 2,228
2001 ................................ -- -- 1,969 54 2,023
2002 ................................ -- 350 2,037 -- 2,387
2003 ................................ -- 350 1,000 -- 1,350
Thereafter .......................... 195,000 66,300 -- -- 261,300
---------- ---------- ---------- ---------- ----------
Total debt ......................... $ 195,000 $ 67,000 $ 15,407 $ 797 $ 278,204
========== ========== ========== ========== ==========
</TABLE>
6. STOCKHOLDER'S EQUITY
During 1996, Systems issued 1,000 shares of Common Stock, par value $.01,
for aggregate consideration of $1,000 cash. In February 1997, Systems (i)
amended its certificate of incorporation to cancel its outstanding shares of
Common Stock; (ii) created new classes of common and preferred stock and (iii)
exchanged all of the canceled shares of Systems' Common Stock for an aggregate
of ten shares of Systems' Series A Convertible Participating Preferred Stock
(the "Series A Preferred Stock").
In February 1997, Systems issued 24,990 shares of Series A Preferred Stock
in fulfillment of an investor's subscription to purchase Series A Preferred
Stock that was outstanding at December 31, 1996 (aggregate consideration of
$2,499,000). During that same month, Systems issued 100 shares of its Common
Stock (par value $.01) for aggregate consideration of $100 cash and a total of
38,107 shares of Series A Preferred Stock upon the conversion of convertible
promissory notes (plus accrued interest of approximately $62,000) issued in
November 1996 ($2.0 million) and January 1997 ($1.8 million). In February and
March 1997, Systems issued 342,893 additional shares of Series A Preferred
Stock for cash totaling $34.3 million. Upon the formation of Holdings in
September 1997, all shareholders of Systems' Common Stock and Series A
Preferred Stock were issued equivalent shares of Holdings stock. Concurrent
therewith, Systems issued 1,000 shares of its Common Stock (par value $0.01) to
Holdings for cash proceeds of $10 and all previously outstanding shares of
Systems' Common Stock and Series A Preferred Stock were canceled.
7. STOCK INCENTIVE PLAN
In July 1997 Systems adopted the Golden Sky Systems, Inc. Stock Option and
Restricted Stock Purchase Plan (the "Stock Incentive Plan") to provide
incentive to attract and retain certain officers, directors and key employees.
The options are exercisable during a period of up to ten years after grant.
Stock options granted under the Stock Incentive Plan vest over a three-year
period. Effective September 9, 1997, Holdings assumed the Stock Incentive Plan.
Participants in the Holdings' Stock Incentive Plan received options with terms
identical to those under Systems' Stock Incentive Plan and all previously
outstanding options were canceled.
F-17
<PAGE> 61
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. STOCK INCENTIVE PLAN - CONTINUED
A summary of incentive stock option activity during 1997 and 1998 is as
follows:
<TABLE>
<CAPTION>
1997 1998
--------------------- -----------------------
WEIGHTED- WEIGHTED-
AVERAGE AVERAGE
EXERCISE EXERCISE
OPTIONS PRICE OPTIONS PRICE
------- -------- ------- --------
<S> <C> <C> <C> <C>
Options outstanding, beginning of year ............................. -- $ -- 62,525 $ 1.00
Granted ............................................................ 62,525 1.00 18,693 1.00
Exercised .......................................................... -- -- (24,831) 1.00
Forfeited .......................................................... -- -- (7,642) 1.00
------ -------- ------ --------
Options outstanding, end of year ................................... 62,525 $ 1.00 48,745 $ 1.00
====== ======== ====== ========
Options exercisable, end of year ................................... 8,684 $ 1.00 5,595 $ 1.00
====== ======== ====== ========
</TABLE>
Accounting for Stock-Based Compensation
Systems has elected to follow Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees" ("APB 25"), and related
interpretations in accounting for the Stock Incentive Plan. Under APB 25,
because the exercise price of employee stock options granted pursuant to the
Stock Incentive Plan is equal to or greater than the fair value of the
underlying stock on the date of grant, no compensation expense is recognized.
In October 1995, the FASB issued FAS No. 123, "Accounting for Stock-Based
Compensation" ("FAS No. 123"), which established an alternative method of
expense recognition for stock-based compensation awards to employees based on
fair values. Systems elected to not adopt FAS No. 123 for expense recognition
purposes.
Pro forma information regarding net income is required by FAS No. 123 and
has been determined as if Systems had accounted for its stock-based
compensation using the fair value method prescribed by that statement. For
purposes of pro forma disclosures, the estimated fair value of the options is
amortized to expense over the corresponding vesting period. All options are
initially assumed to vest. Compensation previously recognized is reversed to
the extent applicable to forfeitures of unvested options. The fair value of
each option grant was estimated at the date of the grant using a Black-Scholes
option valuation model with the following weighted-average assumptions:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------
1997 1998
-------- --------
<S> <C> <C>
Risk-free interest rate........................................ 6.0% 6.0%
Dividend yield................................................. 0.0% 0.0%
Volatility factor.............................................. 0.0% 0.0%
Expected term of options....................................... 10 years 10 years
</TABLE>
The options granted during the years ended December 31, 1997 and 1998 had
no net value using the preceding assumptions. Therefore, there was no pro forma
effect on Systems' net loss.
F-18
<PAGE> 62
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
8. 401(k) RETIREMENT PLAN
Systems sponsors a 401(k) Retirement Plan (the "401(k) Plan") for eligible
employees. Employer matching contributions to the 401(k) Plan, which became
effective as of January 1, 1997, are discretionary. During the years ended
December 31, 1997 and 1998, Systems made no discretionary employer matching
contributions to the 401(k) Plan. Administrative expenses associated with the
401(k) Plan during those same periods were not material.
9. INCOME TAXES
The components of the (provision for) benefit from income taxes are as
follows (in thousands):
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
1997 1998
---------- ----------
<S> <C> <C>
Current (provision) benefit:
Federal .................................. $ 3,777 $ 16,325
State .................................... 717 3,097
Increase in valuation allowance .......... (4,494) (19,422)
---------- ----------
Total current (provision) benefit ........... -- --
Deferred benefit:
Federal .................................. 1,148 3,243
State .................................... 218 615
Increase in valuation allowance .......... (1,366) (3,858)
---------- ----------
Total deferred benefit ...................... -- --
---------- ----------
Total benefit (provision) .............. $ -- $ --
========== ==========
</TABLE>
As of December 31, 1998, the Company had net operating loss carryforwards
("NOLs") for federal income tax purposes of approximately $63.4 million. The
NOLs expire beginning in the year 2011. Use of the NOLs is subject to statutory
and regulatory limitations regarding changes in ownership. FAS No. 109,
"Accounting for Income Taxes" ("FAS No. 109"), requires that the potential
future tax benefit of NOLs be recorded as an asset. FAS No. 109 also requires
that deferred tax assets and liabilities be recorded for the estimated future
tax effects of temporary differences between the tax basis and book value of
assets and liabilities. Deferred tax assets are offset by a valuation allowance
if deemed necessary.
In 1998, Systems increased its valuation allowance sufficient to fully
offset net deferred tax assets arising during the year. Realization of net
deferred tax assets is not assured and is principally dependent on generating
future taxable income prior to expiration of the NOLs. Management frequently
reviews the adequacy of its valuation allowance. Future decreases to the
valuation allowance will be made only as changed circumstances indicate that it
is more likely than not the additional benefits will be realized. Any future
adjustments to the valuation allowance will be recognized as a separate
component of Systems' provision for income taxes.
F-19
<PAGE> 63
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. INCOME TAXES - CONTINUED
The temporary differences that give rise to deferred tax assets and
liabilities as of December 31, 1997 and 1998 are as follows (in thousands):
<TABLE>
<CAPTION>
DECEMBER 31,
-----------------------------
1997 1998
---------- ----------
<S> <C> <C>
Current deferred tax assets:
Allowance for doubtful accounts .......... $ 52 $ 111
Amortization of intangible assets ........ 54 54
Accrued expenses ......................... -- 29
---------- ----------
Gross current deferred tax assets ........... 106 194
Valuation allowance ......................... (106) (194)
---------- ----------
Net current deferred tax assets ............. -- --
Non-current deferred tax assets:
Depreciation ............................. 7 45
Amortization of intangible assets ........ 951 4,497
Net operating loss carryforwards ......... 5,095 24,677
---------- ----------
Total non-current deferred tax assets ....... 6,053 29,219
Non-current deferred tax liabilities:
Amortization of intangible assets ........ (299) (271)
---------- ----------
Gross non-current deferred tax assets ....... 5,754 28,948
Valuation allowance ......................... (5,754) (28,948)
---------- ----------
Net non-current deferred tax assets ......... -- --
---------- ----------
Net deferred tax assets ..................... $ -- $ --
========== ==========
</TABLE>
The actual income tax benefit (provision) for 1997 and 1998 are reconciled
to the amounts computed by applying the statutory federal tax rate to income
before income taxes as follows:
<TABLE>
<CAPTION>
YEARS ENDED DECEMBER 31,
-------------------------------------------------------------
1997 1998
------------------------- --------------------------
TAX RATE TAX RATE
-------- -------- -------- --------
<S> <C> <C> <C> <C>
Statutory rate ........................................ $ 4,725 34.0 % $ 21,131 34.0 %
State income taxes, net of federal benefit ............ 617 4.4 2,450 3.9
Non-deductible amortization of intangible assets ...... (291) (2.1) (415) (0.7)
Other ................................................. (12) -- (27) --
Increase in valuation allowance ....................... (5,039) (36.3) (23,139) (37.2)
-------- -------- -------- --------
Income taxes .......................................... $ -- - % $ -- - %
======== ======== ======== ========
</TABLE>
F-20
<PAGE> 64
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
10. COMMITMENTS AND CONTINGENCIES
The Company has non-cancelable operating leases for office, warehouse and
storage space that expire at various dates. Future minimum lease payments as of
December 31, 1998 are summarized as follows (dollars in thousands):
<TABLE>
<S> <C>
1999......................................................... $1,522
2000......................................................... 1,186
2001......................................................... 733
2002......................................................... 443
2003......................................................... 121
------
Total.............................................. $4,005
======
</TABLE>
In November 1999, certain meteoroid events will occur as the earth's orbit
passes through the particulate trail of Comet 55P (Tempel-Tuttle). These
meteoroid events pose a potential threat to all in-orbit geosynchronous
satellites, including DBS satellites. The Company is unable to determine the
impact, if any, these meteoroid events could have on the DBS satellites used by
Hughes for distribution of DIRECTV programming services. In the event the
Hughes DBS satellites are adversely affected by these meteoroid or other
events, the Company's business and results of operations could be adversely
impacted.
11. RELATED PARTY TRANSACTIONS
During 1996, Systems purchased the assets of Cable-Video Management, Inc.
("CVM"), an entity owned by Systems' president, for $44,000. Prior to the
acquisition of CVM's assets, Systems obtained management and other services
from CVM. Aggregate management fees paid to CVM approximated $280,000 during
1996 and are included in general and administrative expenses in the
accompanying consolidated statements of operations. Also during 1996, Systems
reimbursed CVM for salaries and other miscellaneous expenses aggregating
$343,000. In 1997, Systems paid $66,000 to a company affiliated with Systems'
president for consulting services received by Systems. Additionally, during
1996, 1997 and 1998, Systems paid $5,000, $77,000 and $159,000 (including
$75,000 paid in connection with a 1998 acquisition), respectively, to one of
its directors for consulting services.
During 1996, the Company's president provided Systems with a short-term
loan in the amount of $381,000. In 1997, the Company received an additional
$150,000 short-term loan from its president and a $215,000 short-term loan from
a shareholder. Each of these loans bore interest at an annual rate of 10% and
was repaid during 1997.
Systems has contracted with an entity owned by its president for air
transportation services. Such services include the lease of an aircraft. This
lease is cancelable with six months notice and requires monthly payments equal
to the greater of $20,000 or an aggregate fixed hourly operating charge. The
fixed hourly operating charge is based on prevailing market prices. The total
cost of such services received by Systems approximated $31,000, $109,000 and
$506,000 during 1996, 1997 and 1998, respectively.
F-21
<PAGE> 65
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
12. VALUATION AND QUALIFYING ACCOUNTS
Systems' valuation and qualifying accounts as of December 31, 1996, 1997
and 1998 are as follows (in thousands):
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------- -------------- ---------------
1996 1997 1998
---------- ---------- ----------
<S> <C> <C> <C>
Allowance for doubtful accounts, beginning of period $ -- $ 4 $ 138
Charged to costs and expenses ................................... 4 417 1,537
Deductions ...................................................... -- (283) (1,382)
---------- ---------- ----------
Allowance for doubtful accounts, end of period .................. $ 4 $ 138 $ 293
========== ========== ==========
</TABLE>
13. CONSOLIDATING FINANCIAL INFORMATION AND SUBSIDIARY GUARANTORS
Consolidating financial information for the Company, the Company's
guarantor subsidiaries, and the Company's non-guarantor subsidiaries is as
follows (dollars in thousands):
Consolidated Balance Sheet -- December 31, 1997
<TABLE>
<CAPTION>
CONSOLIDATING/
GUARANTOR NON-GUARANTOR ELIMINATING SYSTEMS
SYSTEMS SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
---------- ------------ ------------ -------------- ------------
<S> <C> <C> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ................. $ 12,146 $ 1,077 $ 409 $-- $ 13,632
Subscriber receivables, net ............... 2,841 633 369 -- 3,843
Other receivables ......................... 307 28 -- -- 335
Intercompany receivables .................. 2,570 -- -- (2,570) --
Inventory ................................. 1,997 106 71 -- 2,174
Prepaid expenses and other ................ 127 -- -- -- 127
---------- ---------- ---------- ---------- ----------
Total current assets ........................ 19,988 1,844 849 (2,570) 20,111
Property and equipment, net ................. 2,759 77 100 -- 2,936
Investment in subsidiaries .................. 26,735 -- -- (26,735) --
Intangible assets, net ...................... 96,585 18,302 3,842 11,167 129,896
Deferred financing costs .................... 3,106 -- -- -- 3,106
Other assets ................................ 91 86 10 -- 187
---------- ---------- ---------- ---------- ----------
Total assets ........................... $ 149,264 $ 20,309 $ 4,801 $ (18,138) $ 156,236
========== ========== ========== ========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Trade accounts payable ................... $ 8,125 $ 194 $ 152 $-- $ 8,471
Interest payable ......................... 786 -- -- -- 786
Current maturities of long-term .......... 2,538 -- -- -- 2,538
obligations
Unearned revenue ......................... 1,857 511 262 -- 2,630
Accrued payroll and other ................ 1,372 2,655 402 (2,570) 1,859
---------- ---------- ---------- ---------- ----------
Total current liabilities ................... 14,678 3,360 816 (2,570) 16,284
Long-term obligations, net of current
maturities:
Bank debt ................................ 60,000 -- -- -- 60,000
Seller notes payable ..................... 6,200 -- -- -- 6,200
Other notes payable and obligations
under capital leases ................... 331 44 -- -- 375
Minority interest ........................ -- -- -- 2,928 2,928
---------- ---------- ---------- ---------- ----------
Total long-term obligations, net of
current maturities ........................ 66,531 44 -- 2,928 69,503
---------- ---------- ---------- ---------- ----------
Total liabilities ........................... 81,209 3,404 816 358 85,787
Stockholder's Equity (Deficit):
Common Stock .............................. -- 6 -- (6) --
Additional paid-in capital ................ 87,400 1,967 -- (1,967) 87,400
Retained earnings (accumulated
deficit) ................................. (19,345) 14,932 3,985 (16,523) (16,951)
---------- ---------- ---------- ---------- ----------
Total stockholder's equity (deficit) ........ 68,055 16,905 3,985 (18,496) 70,449
---------- ---------- ---------- ---------- ----------
Total liabilities and stockholder's
equity (deficit) ..................... $ 149,264 $ 20,309 $ 4,801 $ (18,138) $ 156,236
========== ========== ========== ========== ==========
</TABLE>
F-22
<PAGE> 66
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
13. CONSOLIDATING FINANCIAL INFORMATION AND SUBSIDIARY GUARANTORS - CONTINUED
Consolidated Statement of Operations - Year Ended December 31, 1997
<TABLE>
<CAPTION>
CONSOLIDATING/
GUARANTOR NON-GUARANTOR ELIMINATING SYSTEMS
SYSTEMS SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
---------- ------------ ------------- ----------- ----------
<S> <C> <C> <C> <C> <C>
Revenue:
DBS services ......................... $ 13,356 $ 2,787 $ 309 $ -- $ 16,452
Lease and other ...................... 931 -- 13 -- 944
---------- ---------- ---------- ---------- ----------
Total revenue ......................... 14,287 2,787 322 -- 17,396
Costs and Expenses:
Costs of DBS services ................. 7,514 1,601 189 -- 9,304
System operations ................... 2,830 876 100 (10) 3,796
Sales and marketing ................. 6,597 693 26 -- 7,316
General and administrative .......... 2,260 59 12 -- 2,331
Depreciation and amortization ....... 6,312 109 79 800 7,300
---------- ---------- ---------- ---------- ----------
Total costs and expenses .............. 25,513 3,338 406 790 30,047
---------- ---------- ---------- ---------- ----------
Operating loss ........................ (11,226) (551) (84) (790) (12,651)
Non-operating items:
Interest and investment income ..... 30 10 -- -- 40
Interest expense .................... (3,170) (3) -- -- (3,173)
---------- ---------- ---------- ---------- ----------
Total non-operating items ............. (3,140) 7 -- -- (3,133)
---------- ---------- ---------- ---------- ----------
Loss before income taxes .............. (14,366) (544) (84) (790) (15,784)
Income taxes .......................... -- -- -- -- --
---------- ---------- ---------- ---------- ----------
Net loss .............................. $ (14,366) $ (544) $ (84) $ (790) $ (15,784)
========== ========== ========== ========== ==========
</TABLE>
F-23
<PAGE> 67
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
13. CONSOLIDATING FINANCIAL INFORMATION AND SUBSIDIARY GUARANTORS - CONTINUED
Consolidated Statement of Cash Flows - Year Ended December 31, 1997
<TABLE>
<CAPTION>
CONSOLIDATING/
GUARANTOR NON-GUARANTOR ELIMINATING SYSTEMS
SYSTEMS SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
---------- ------------ ------------- ------------- ------------
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING
ACTIVITIES
Net loss ...................................... $ (14,366) $ (544) $ (84) $ (790) $ (15,784)
Adjustments to reconcile net loss
to net cash provided by (used in)
operating activities:
Depreciation and amortization ............. 6,312 109 79 800 7,300
Amortization of deferred
financing costs ......................... 215 -- -- -- 215
Change in operating assets and
liabilities, net of acquisitions:
Subscriber receivables, net
of unearned revenue ..................... (1,827) (615) (59) -- (2,501)
Other receivables ........................ (185) 24 -- -- (161)
Inventory ................................ (1,499) (34) (71) -- (1,604)
Prepaid expenses and other ............... (201) 8 (10) -- (203)
Trade accounts payable ................... 7,683 (320) 152 -- 7,515
Interest payable ......................... 733 -- -- -- 733
Accrued payroll and other ................ (1,461) 2,460 402 (10) 1,391
---------- ---------- ---------- ---------- ----------
Net cash used in operating
activities .................................. (4,596) 1,088 409 -- (3,099)
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisitions of Rural DIRECTV
Markets .................................... (120,051) -- -- -- (120,051)
Purchases of property and equipment ........... (992) (6) -- -- (998)
Other ......................................... 320 -- -- -- 320
---------- ---------- ---------- ---------- ----------
Net cash used in investing
activities .................................. (120,723) (6) -- -- (120,729)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from issuance of Series A
Preferred Stock ............................ 34,289 -- -- -- 34,289
Borrowings under the Credit
Agreement .................................. 75,000 -- -- -- 75,000
Principal payments on the Credit
Agreement .................................. (14,995) (5) -- -- (15,000)
Proceeds from issuance of notes
payable .................................... 2,115 -- -- -- 2,115
Principal payments on notes
payable and obligations under
capital leases ............................. (2,902) -- -- -- (2,902)
Contribution from Holdings .................... 46,800 -- -- -- 46,800
Increase in deferred financing
costs ...................................... (3,321) -- -- -- (3,321)
---------- ---------- ---------- ---------- ----------
Net cash provided by (used in)
financing activities .......................... 136,986 (5) -- -- 136,981
Net increase in cash and cash ................. 11,667 1,077 409 -- 13,153
equivalents
Cash and cash equivalents,
beginning of period ......................... 479 -- -- -- 479
---------- ---------- ---------- ---------- ----------
Cash and cash equivalents, end of
period ...................................... $ 12,146 $ 1,077 $ 409 $ -- $ 13,632
========== ========== ========== ========== ==========
</TABLE>
F-24
<PAGE> 68
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
13. CONSOLIDATING FINANCIAL INFORMATION AND SUBSIDIARY GUARANTORS - CONTINUED
Consolidated Balance Sheet -- December 31, 1998
<TABLE>
<CAPTION>
CONSOLIDATING/
GUARANTOR NON-GUARANTOR ELIMINATING SYSTEMS
SYSTEMS SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
---------- ------------ ------------- -------------- ------------
<S> <C> <C> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents ............. $ 827 $ 1,189 $ 2,444 $ $ 4,460
Restricted cash, current portion ...... 28,083 -- -- -- 28,083
Subscriber receivables, net ........... 6,815 1,043 774 -- 8,632
Other receivables ..................... 2,360 87 18 -- 2,465
Intercompany receivables .............. 11,521 -- -- (11,521) --
Inventory ............................. 9,255 583 308 -- 10,146
Prepaid expenses and other ............ 1,819 37 3 -- 1,859
---------- ---------- ---------- ---------- ----------
Total current assets ..................... 60,680 2,939 3,547 (11,521) 55,645
Restricted cash, net of current
portion ............................... 23,534 -- -- -- 23,534
Property and equipment, net .............. 4,418 381 195 -- 4,994
Investment in subsidiaries ............... 34,200 -- -- (34,200) --
Intangible assets, net ................... 199,867 25,051 3,525 4,696 233,139
Deferred financing costs ................. 10,541 -- -- -- 10,541
Other assets ............................. 133 85 -- -- 218
---------- ---------- ---------- ---------- ----------
Total assets ........................ $ 333,373 $ 28,456 $ 7,267 $ (41,025) $ 328,071
========== ========== ========== ========== ==========
LIABILITIES AND STOCKHOLDER'S EQUITY
Current liabilities:
Trade accounts payable ................ $ 13,482 $ 49 $ 8 $ -- $ 13,539
Interest payable ...................... 11,009 -- -- -- 11,009
Current maturities of long-term
obligations ......................... 8,916 -- -- -- 8,916
Unearned revenue ...................... 4,380 789 405 -- 5,574
Accrued payroll and other ............. 1028 6,263 5,633 (11,521) 1,403
---------- ---------- ---------- ---------- ----------
Total current liabilities ................ 38,815 7,101 6,046 (11,521) 40,441
Long-term obligations, net of current
maturities
12 3/8% Notes ......................... 195,000 -- -- -- 195,000
Bank debt ............................. 67,000 -- -- -- 67,000
Seller notes payable .................. 6,912 -- -- -- 6,912
Other notes payable and
obligations under capital leases .... 318 58 -- -- 376
Minority interest ..................... -- -- -- 2,420 2,420
---------- ---------- ---------- ---------- ----------
Total long-term obligations, net of
current maturities ..................... 269,230 58 -- 2,420 271,708
---------- ---------- ---------- ---------- ----------
Total liabilities ........................ 308,045 7,159 6,046 (9,101) 312,149
Stockholder's Equity (Deficit):
Common Stock ........................... -- 896 -- (896) --
Additional paid-in capital ............. 97,600 1,967 -- (1,967) 97,600
Retained earnings (accumulated
deficit) .............................. (72,272) 18,434 1,221 (29,061) (81,678)
---------- ---------- ---------- ---------- ----------
Total stockholder's equity (deficit) ..... 25,328 21,297 1,221 (31,924) 15,922
---------- ---------- ---------- ---------- ----------
Total liabilities and
stockholder's equity (deficit) .... $ 333,373 $ 28,456 $ 7,267 $ (41,025) $ 328,071
========== ========== ========== ========== ==========
</TABLE>
F-25
<PAGE> 69
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
13. CONSOLIDATING FINANCIAL INFORMATION AND SUBSIDIARY GUARANTORS - CONTINUED
Consolidated Statement of Operations - Year Ended December 31, 1998
<TABLE>
<CAPTION>
CONSOLIDATING/
GUARANTOR NON-GUARANTOR ELIMINATING SYSTEMS
SYSTEMS SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
---------- ------------ ------------- -------------- ------------
<S> <C> <C> <C> <C> <C>
Revenue:
DBS services ........................ $ 57,437 $ 11,172 $ 6,301 $ -- $ 74,910
Lease and other ..................... 982 22 10 -- 1,014
---------- ---------- ---------- ---------- ----------
Total revenue ......................... 58,419 11,194 6,311 -- 75,924
Costs and Expenses:
Costs of DBS services ............... 34,640 6,813 3,838 -- 45,291
System operations ................... 7,683 2,533 1,318 (513) 11,021
Sales and marketing ................. 23,753 5,045 3,403 -- 32,201
General and administrative .......... 7,000 267 164 -- 7,431
Depreciation and amortization ....... 19,336 996 340 2,494 23,166
---------- ---------- ---------- ---------- ----------
Total costs and expenses .............. 92,412 15,654 9,063 1,981 119,110
---------- ---------- ---------- ---------- ----------
Operating loss ........................ (33,993) (4,460) (2,752) (1,981) (43,186)
Non-operating items:
Interest and investment income ...... 1,571 2 -- -- 1,573
Interest expense .................... (20,497) (28) (12) -- (20,537)
---------- ---------- ---------- ---------- ----------
Total non-operating items ............. (18,926) (26) (12) -- (18,964)
---------- ---------- ---------- ---------- ----------
Loss before income taxes .............. (52,919) (4,486) (2,764) (1,981) (62,150)
Income taxes .......................... -- -- -- -- --
---------- ---------- ---------- ---------- ----------
Loss before extraordinary charge ...... (52,919) (4,486) (2,764) (1,981) (62,150)
---------- ---------- ---------- ---------- ----------
Extraordinary charge on early
retirement of debt................ (2,577) -- -- -- (2,577)
---------- ---------- ---------- ---------- ----------
Net loss .............................. $ (55,496) $ (4,486) $ (2,764) $ (1,981) $ (64,727)
========== ========== ========== ========== ==========
</TABLE>
F-26
<PAGE> 70
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
13. CONSOLIDATING FINANCIAL INFORMATION AND SUBSIDIARY GUARANTORS - CONTINUED
Consolidated Statement of Cash Flows - Year Ended December 31, 1998
<TABLE>
<CAPTION>
CONSOLIDATING/
GUARANTOR NON-GUARANTOR ELIMINATING SYSTEMS
SYSTEMS SUBSIDIARIES SUBSIDIARIES ADJUSTMENTS CONSOLIDATED
---------- ------------ ------------- -------------- ------------
<S> <C> <C> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss .................................. $ (55,496) $ (4,486) $ (2,764) $ (1,981) $ (64,727)
Adjustments to reconcile net loss to
net cash provided by (used in)
operating activities:
Depreciation and amortization .......... 19,336 996 340 2,494 23,166
Amortization of deferred financing
costs ................................ 977 -- -- -- 977
Extraordinary charge on early
retirement of debt ................... 2,577 -- -- -- 2,577
Change in operating assets and
liabilities, net of acquisitions:
Subscriber receivables, net of
unearned revenue ................... (1,283) (222) (252) -- (1,757)
Other receivables .................... (2,144) 32 (18) -- (2,130)
Inventory ............................ (7,335) (477) (237) -- (8,049)
Prepaid expenses and other ........... (1,189) (36) (3) -- (1,228)
Trade accounts payable ............... 5,357 (145) (144) -- 5,068
Interest payable ..................... 10,223 -- -- -- 10,223
Accrued payroll and other ............ (10,253) 4,827 5,231 (513) (708)
---------- ---------- ---------- ---------- ----------
Net cash provided by (used in)
operating activities .................... (39,230) 489 2,153 -- (36,588)
---------- ---------- ---------- ---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisitions of Rural DIRECTV Markets ..... (104,487) -- -- -- (104,487)
Offering proceeds and investment
earnings placed in escrow .............. (51,617) -- -- -- (51,617)
Purchases of property and equipment ....... (2,858) (341) (118) -- (3,317)
Other ..................................... (500) -- -- -- (500)
---------- ---------- ---------- ---------- ----------
Net cash used in investing activities ..... (159,462) (341) (118) -- (159,921)
CASH FLOWS FROM FINANCING ACTIVITIES
Net proceeds from issuance of 12 3/8%
Notes .................................. 189,150 -- -- -- 189,150
Borrowings under the Credit Agreement ..... 28,000 -- -- -- 28,000
Borrowings under the Credit Facility ...... 62,000 -- -- -- 62,000
Principal payments on the Credit
Facility ............................... (83,000) -- -- -- (83,000)
Principal payments on notes payable
and obligations under capital
leases ................................. (3,639) (36) -- -- (3,675)
Increase in deferred financing costs ...... (5,138) -- -- -- (5,138)
---------- ---------- ---------- ---------- ----------
Net cash provided by (used in)
financing activities ................... 187,373 (36) -- -- 187,337
---------- ---------- ---------- ---------- ----------
Net increase (decrease) in cash and
cash equivalents ........................ (11,319) 112 2,035 -- (9,172)
Cash and cash equivalents, beginning
of period ............................... 12,146 1,077 409 -- 13,632
---------- ---------- ---------- ---------- ----------
Cash and cash equivalents, end of
period .................................. $ 827 $ 1,189 $ 2,444 $ -- $ 4,460
========== ========== ========== ========== ==========
</TABLE>
14. QUARTERLY FINANCIAL DATA (UNAUDITED)
Systems' quarterly results of operations are summarized as follows (in
thousands):
<TABLE>
<CAPTION>
THREE MONTHS ENDED
----------------------------------------------------
MARCH 31 JUNE 30 SEPTEMBER 30 DECEMBER 31
-------- -------- ------------ -----------
<S> <C> <C> <C> <C>
Period Ended December 31, 1997:
Total revenue ....................... $ 1,255 $ 2,248 $ 5,634 $ 8,259
Operating loss ...................... (766) (1,966) (3,918) (6,001)
Net loss ............................ (834) (2,024) (5,160) (7,766)
Period Ended December 31, 1998:
Total revenue ....................... $ 14,129 $ 16,849 $ 19,912 $ 25,034
Operating loss ...................... (6,034) (8,806) (11,462) (16,884)
Loss before extraordinary charge .... (8,287) (11,761) (17,354) (24,748)
Net loss ............................ (8,287) (14,338) (17,354) (24,748)
</TABLE>
F-27
<PAGE> 71
GOLDEN SKY SYTEMS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
15. SUBSEQUENT EVENTS
On February 19, 1999, Golden Sky DBS consummated an offering (the "13 1/2%
Notes Offering") of 13 1/2% Senior Discount Notes due 2007 (the "13 1/2%
Notes"). The 13 1/2% Notes Offering resulted in net proceeds to Golden Sky DBS
of approximately $96.8 million (after initial purchasers' discount but before
other offering expenses). Golden Sky DBS intends to contribute the net proceeds
of the 13 1/2% Notes Offering to Systems. Systems will use the contributed
proceeds to repay existing revolving credit indebtedness outstanding under its
Credit Facility, to finance the acquisition of Rural DIRECTV Markets and
related costs and expenses, and for general corporate purposes. Interest on the
13 1/2% Notes will not accrue prior to March 1, 2004. Thereafter, cash interest
on the 13 1/2% Notes will accrue at a rate of 13 1/2% per annum and be payable
in arrears on March 1 and September 1 of each year, commencing September 1,
2004. The 13 1/2% Notes will mature on March 1, 2007. Systems is not obligated
for repayment of the 13 1/2% Notes and, as described in Note 5, is restricted
as to its ability to make payments to Golden Sky DBS. However, Golden Sky DBS
is dependent on Systems for dividends or other cash distributions in amounts
sufficient to make the required payments.
As previously described, in connection with the 13 1/2% Notes Offering,
Systems' Credit Facility was amended. The amendment became effective on
February 19, 1999. On that same date, Systems repaid balances outstanding under
the revolving credit commitment of the Credit Facility (total of $53.0 million,
which may be reborrowed for permitted purposes, including to finance the
acquisition of Rural DIRECTV Markets) with the proceeds of cash contributed to
Systems by Golden Sky DBS. Systems expects that it will report an extraordinary
charge on the early retirement of debt of approximately $2.9 million during the
first quarter of 1999 as a result of the amendment.
F-28
<PAGE> 72
EXHIBIT INDEX
<TABLE>
<CAPTION>
Exhibit Description
------- -----------
<S> <C>
2.1 Stock Purchase Agreement, dated as of July 11, 1997, among Golden
Sky Systems, Inc., Argos Support Services Company and the several
shareholders named therein. (Exhibit 2.1 to Registration Statement
on Form S-4 No. 333-64367)
2.2 Asset Purchase Agreement, dated as of July 19, 1998, by and between
Golden Sky Systems, Inc. and Volcano Vision, Inc. (Exhibit 2.2 to
Registration Statement on Form S-4 No. 333-64367)
2.3 Agreement and Plan of Merger, dated as of September 1, 1998, among
Golden Sky Holdings, Inc., Golden Sky Systems, Inc., Western
Montana DBS, Inc. d/b/a Rocky Mountain DBS and the stockholders of
Western Montana DBS, Inc. named therein. (Exhibit 2.3 to
Registration Statement on Form S-4 No. 333-64367)
3.1 Second Amended and Restated Certificate of Incorporation of Golden
Sky Systems, Inc. (Exhibit 3.1 to Registration Statement on Form
S-4 No. 333-64367)
3.2 By-Laws of Golden Sky Systems, Inc., adopted as of October 1, 1997.
(Exhibit 3.2 to Registration Statement on Form S-4 No. 333-64367)
4.1 Indenture, dated as of July 31, 1998, by and among Golden Sky
Systems, Inc., as issuer, Argos Support Services Company, as
guarantor, PrimeWatch, Inc., as guarantor, and State Street Bank
and Trust Company of Missouri, N.A., as trustee, relating to the 12
3/8% Senior Subordinated Notes due 2006, Series A and 12 3/8%
Senior Subordinated Notes due 2006, Series B of Golden Sky Systems,
Inc. (Exhibit 4.1 to Registration Statement on Form S-4 No.
333-64367)
4.2 Form of 12 3/8% Senior Subordinated Note due 2006, Series B of
Golden Sky Systems, Inc. (Included in Exhibit 4.1 to Registration
Statement on Form S-4 No. 333-64367)
4.3 Registration Rights Agreement, dated as of July 31, 1998, by and
among Golden Sky Systems, Inc., Merrill Lynch, Pierce, Fenner &
Smith Incorporated and NationsBanc Montgomery Securities LLC, as
initial purchasers. (Exhibit 4.3 to Registration Statement on Form
S-4 No. 333-64367)
4.4 Escrow Agreement, dated as of July 31, 1998, by and among State
Street Bank and Trust Company of Missouri, N.A., as escrow agent
and as trustee under the Indenture, and Golden Sky Systems, Inc.
(Exhibit 4.4 to Registration Statement on Form S-4 No. 333-64367)
4.5 Account Control Agreement, dated as of July 31, 1998, by and among
Golden Sky Systems, Inc., State Street Bank and Trust Company of
Missouri, N.A., as escrow agent and as custodian and securities
intermediary. (Exhibit 4.5 to Registration Statement on Form S-4
No. 333-64367)
10.1 Purchase Agreement, dated July 24, 1998, among Golden Sky Systems,
Inc., Merrill Lynch, Pierce, Fenner & Smith Incorporated and
NationsBanc Montgomery Securities LLC, relating to the issuance and
sale of $195,000,000 aggregate principal amount of 12 3/8% Senior
Subordinated Notes due 2006, Series A of Golden Sky Systems, Inc.
(Exhibit 10.1 to Registration Statement on Form S-4 No. 333-64367)
10.2 Amended and Restated Credit Agreement, dated as of May 8, 1998,
among Golden Sky Holdings, Inc., Golden Sky Systems, Inc., various
banks, Paribas (formerly known as Banque Paribas), as syndication
agent, Fleet National Bank, as administrative agent, and General
Electric Capital Corporation, as documentation agent. (Exhibit 10.2
to Registration Statement on Form S-4 No. 333-64367)
10.3 First Amendment to Amended and Restated Credit Agreement, dated as
of February 10, 1999, among Golden Sky Holdings, Inc., Golden Sky
Systems, Inc., various banks, Paribas (formerly known as Banque
Paribas), as syndication agent, Fleet National Bank, as
administrative agent, and General Electric Capital Corporation, as
documentation agent. (Exhibit 10.17 to Registration Statement on
Form S-4 No. 333-64367)
10.4 Form of NRTC/Member Agreement for Marketing and Distribution of DBS
Services, as amended. (Exhibit 10.3 to Registration Statement on
Form S-4 No. 333-64367)
10.6 Employment Agreement, dated February 12, 1997, between Golden Sky
Systems, Inc. and Rodney A. Weary. (Exhibit 10.6 to Registration
Statement on Form S-4 No. 333-64367)*
10.7 Non-Competition Agreement between Golden Sky Systems, Inc., and
Rodney A. Weary. (Exhibit 10.11 to Registration Statement on Form
S-4 No. 333-64367)*
</TABLE>
<PAGE> 73
<TABLE>
<CAPTION>
Exhibit Description
------- -----------
<S> <C>
10.8 Employment Agreement, dated February 12, 1997, between Golden Sky
Systems, Inc. and Jo Ellen Linn. (Exhibit 10.7 to Registration
Statement on Form S-4 No. 333-64367)*
10.9 Non-Competition Agreement between Golden Sky Systems, Inc. and Jo
Ellen Linn. (Exhibit 10.12 to Registration Statement on Form S-4
No. 333-64367)*
10.10 Employment Agreement, dated as of November 3, 1997, between Golden
Sky Systems, Inc. and William J. Gerski. (Exhibit 10.8 to
Registration Statement on Form S-4 No. 333-64367)*
10.11 Employment Agreement, dated August 24, 1998, between Golden Sky
Systems, Inc. and John R. Hager. (Exhibit 10.10 to Registration
Statement on Form S-4 No. 333-64367)*
10.12 Non-Competition Agreement, dated August 24, 1998, between Golden
Sky Systems, Inc. and John R. Hager. (Exhibit 10.13 to Registration
Statement on Form S-4 No. 333-64367)*
10.13 Confidentiality and Proprietary Rights Agreements, dated August 24,
1998, between Golden Sky Systems, Inc. and John R. Hager. (Exhibit
10.15 to Registration Statement on Form S-4 No. 333-64367)*
10.14 Form of Director Indemnification Agreement, dated February 12,
1997, between Golden Sky Systems, Inc. and each of the members of
its Board of Directors. (Exhibit 10.14 to Registration Statement on
Form S-4 No. 333-64367)
10.15 Exchange Agency Agreement, dated as of November 24, 1998, between
Golden Sky Systems, Inc. and State Street Bank and Trust Company of
Missouri, N.A., as exchange agent. (Exhibit 10.16 to Registration
Statement on Form S-4 No. 333-64367)
10.16 Office Building Lease, dated January 27, 1999, between Belletower
Partners, L.L.C. and Golden Sky Systems, Inc. (Exhibit 10.18 to
Registration Statement on Form S-4 No. 333-64367)
12.1 Statements re Computation of Ratios. (Exhibit 12.1 to Registration
Statement on Form S-4 No. 333-64367)
21.1 Subsidiaries of Golden Sky Systems, Inc. (Exhibit 21.1 to
Registration Statement on Form S-4 No. 333-64367)
24.1 Powers of Attorney of the members of the Board of Directors of
Golden Sky Systems, Inc. (Included in the signature pages of this
report)**
27.1 Financial Data Schedule.**
99.1 Stock Purchase Agreement, dated as of February 12, 1997, among
Golden Sky Systems, Inc., Rodney A. Weary and the investors named
therein. (Exhibit 99.3 to Registration Statement on Form S-4 No.
333-64367)
99.2 Stock Purchase Agreement, dated as of November 24, 1997, by and
among Golden Sky Holdings, Inc., Golden Sky Systems, Inc., Rodney
A. Weary, and the investors named therein. (Exhibit 99.4 to
Registration Statement on Form S-4 No. 333-64367)
99.3 Stockholders Agreement, dated as of November 24, 1997, by and among
Golden Sky Holdings, Inc. and the investors and other stockholders
named therein. (Exhibit 99.5 to Registration Statement on Form S-4
No. 333-64367)
* Management contract or compensatory plan or arrangement.
** Filed herewith.
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM (A) THE
CONSOLIDATED FINANCIAL STATEMENTS OF GOLDEN SKY SYSTEMS, INC. AT DECEMBER 31,
1998 AND FOR THE YEAR THEN ENDED AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE
TO SUCH (B) FINANCIAL STATEMENTS
</LEGEND>
<CIK> 0001070669
<NAME> GOLDEN SKY SYSTEMS INC.
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<CASH> 4,460
<SECURITIES> 0
<RECEIVABLES> 8,925
<ALLOWANCES> (293)
<INVENTORY> 10,146
<CURRENT-ASSETS> 55,645
<PP&E> 8,208
<DEPRECIATION> (3,214)
<TOTAL-ASSETS> 328,071
<CURRENT-LIABILITIES> 40,441
<BONDS> 271,708
0
0
<COMMON> 0
<OTHER-SE> 15,922
<TOTAL-LIABILITY-AND-EQUITY> 328,071
<SALES> 0
<TOTAL-REVENUES> 75,924
<CGS> 0
<TOTAL-COSTS> 45,291
<OTHER-EXPENSES> 73,819
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 20,537
<INCOME-PRETAX> (62,150)
<INCOME-TAX> 0
<INCOME-CONTINUING> (62,150)
<DISCONTINUED> 0
<EXTRAORDINARY> (2,577)
<CHANGES> 0
<NET-INCOME> (64,727)
<EPS-PRIMARY> 0
<EPS-DILUTED> 0
</TABLE>
