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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1999
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number: 000-29828
NORTHPOINT COMMUNICATIONS GROUP, INC.
(Exact name of Registrant as Specified in its Charter)
DELAWARE 52-2147716
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
303 2nd Street, 10th Floor
North Tower
San Francisco, California 94107
(Address of Principal Executive Offices)
Registrant's telephone number, including area code: (415) 403-4003
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. [ X] Yes [ ] No
The number of shares of Common Stock, par value $0.001 per share, of
NorthPoint Communications Group, Inc. outstanding as of November 1, 1999 was
123,015,892. The number of shares of Class B Common Stock, par value of $0.001
per share, of NorthPoint Communication Group, Inc. outstanding as of November
1, 1999 was 2,466,724.
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TABLE OF CONTENTS
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<CAPTION>
PART I. FINANCIAL INFORMATION
<S> <C> <C>
Item 1. Consolidated Financial Statements..................................................................................... 3
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations................................. 8
Item 3. Quantitative and Qualitative Disclosures About Market Risk............................................................ 28
PART II. OTHER INFORMATION
Item 1. Legal Proceedings..................................................................................................... 29
Item 2. Changes in Securities and Use of Proceeds............................................................................. 29
Item 3. Defaults Upon Senior Securities....................................................................................... 29
Item 4. Submission of Matters to a Vote of Security Holders................................................................... 29
Item 5. Other Information..................................................................................................... 29
Item 6. Exhibits and Reports on Form 8-K...................................................................................... 29
</TABLE>
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PART 1. FINANCIAL INFORMATION
ITEM 1. CONSOLIDATED FINANCIAL STATEMENTS.
NORTHPOINT COMMUNICATIONS GROUP, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(amounts in 000's, except share and per share amounts)
<TABLE>
<CAPTION>
(Unaudited)
September 30, December 31,
1999 1998
-------------- -------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 136,251 $ 10,956
Short-term investments 167,125 ---
Accounts receivable, net 4,560 523
Inventories 2,845 ---
Prepaid expenses and other assets 11,428 2,649
----------- ----------
Total current assets 322,209 14,128
Property and equipment:
Networking equipment 81,517 26,041
Central office collocation space improvements 41,752 15,599
Computers and software 18,733 2,489
Furniture, fixtures and office equipment 3,684 1,927
Leasehold improvements 3,045 1,366
----------- ----------
Total property and equipment 148,731 47,422
Less accumulated depreciation and amortization (10,770) (1,344)
----------- ----------
Property and equipment, net 137,961 46,078
Long-term investment 6,740 ---
Deposits 497 296
----------- ----------
Total assets $ 467,407 $ 60,502
=========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities:
Accounts payable $ 5,194 $ 9,379
Accrued expenses 27,425 5,481
Deferred revenue --- 189
Capital lease obligations, current portion net of unamortized debt discount
of $265 and $265, respectively 1,001 925
Line of credit borrowings, net of unamortized debt discount of $2,303 --- 48,422
----------- ----------
Total current liabilities 33,620 64,396
Capital lease obligations, long-term portion, net of unamortized debt discount
of $399 and $598, respectively 1,806 2,640
Line of credit borrowings, long-term portion 50,479 ---
Deferred revenue 1,392 ---
----------- ----------
Total liabilities 87,297 67,036
Stockholders' equity (deficit):
Convertible preferred stock, $0.001 par value; 101,250,000 and 49,060,250
shares authorized at September 30, 1999 and December 31, 1998,
respectively; 38,499,054 shares issued and outstanding at December 31, 1998 --- 38
Common stock, $0.001 par value; 281,250,000 and 112,500,000 shares authorized
at September 30, 1999 and December 31, 1998, respectively; 125,241,738
(including 2,466,724 shares of Class B common stock) and 24,592,950 shares
issued and outstanding at September 30, 1999 and December 31, 1998, respectively 125 25
Warrants 8,702 5,232
Additional paid-in capital 524,590 31,480
Deferred stock compensation (15,275) (13,022)
Accumulated deficit (138,032) (30,287)
----------- ----------
Total stockholders' equity (deficit) 380,110 (6,534)
----------- ----------
Total liabilities and stockholders' equity (deficit) $ 467,407 $ 60,502
=========== ==========
</TABLE>
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
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NORTHPOINT COMMUNICATIONS GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(amounts in 000's, except share and per share amounts)
<TABLE>
<CAPTION>
(Unaudited) (Unaudited)
Three Months Ended Nine Months Ended
September 30, September 30,
-------------------------- -------------------------
1999 1998 1999 1998
----------- ---------- ---------- ----------
<S> <C> <C> <C> <C>
Revenues $ 5,734 $ 237 $ 9,521 $ 400
Operating expenses:
Network expenses 13,547 851 25,280 1,259
Selling, marketing, general and administrative 34,203 4,505 72,497 8,612
Amortization of deferred stock compensation 1,404 1,038 4,211 1,572
Depreciation and amortization 5,226 321 9,426 593
----------- ---------- ---------- ----------
Total operating expenses 54,380 6,715 111,414 12,036
----------- ---------- ---------- ----------
Loss from operations (48,646) (6,478) (101,893) (11,636)
Interest income 4,709 19 7,973 175
Interest expense (2,554) (1,323) (13,825) (1,445)
----------- ---------- ---------- ----------
Net loss $(46,491) $(7,782) $(107,745) $(12,906)
=========== ========== ========== ==========
Net loss per common share - basic and diluted $ (0.37) $ (0.32) $ (1.37) $ (0.53)
=========== ========== ========== ==========
Weighted average shares used in computing net loss
per common share - basic and diluted 124,486,783 24,434,430 78,867,684 24,375,138
=========== ========== ========== ==========
</TABLE>
The accompanying notes are an integral part of these condensed consolidated
financial statements.
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NORTHPOINT COMMUNICATIONS GROUP, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(amounts in 000's)
<TABLE>
<CAPTION>
(Unaudited)
Nine Months Ended
September 30,
-------------------------
1999 1998
--------- --------
<S> <C> <C>
Cash flows from operating activities:
Net loss $(107,745) $(12,906)
Adjustments to reconcile net loss to net cash used in operating activities:
Depreciation and amortization 9,426 593
Amortization of deferred stock compensation 4,211 1,572
Amortization of debt discount 4,414 1.031
Changes in assets and liabilities:
Accounts receivable (4,037) (214)
Prepaid expenses and other assets (11,623) (1,869)
Deposits (201) (95)
Accounts payable (4,185) 1,858
Accrued expenses 22,075 3,097
Deferred revenue (189) 77
--------- --------
Net cash used in operating activities (87,854) (6,856)
Cash flows from investing activities:
Purchase of short-term investments (167,125) ---
Purchase of long-term investment (5,000) ---
Purchase of property and equipment (101,310) (16,524)
--------- --------
Net cash used in investing activities (273,435) (16,524)
Cash flows from financing activities:
Proceeds from issuance of common and preferred stock 482,667 4,405
Borrowings on line of credit 55,000 11,724
Payments on line of credit (55,725) ---
Proceeds from convertible promissory note 5,600 ---
Principal payments on capital lease obligations (957) (480)
--------- --------
Net cash provided by financing activities 486,585 15,649
--------- --------
Net increase (decrease) in cash and equivalents 125,296 (7,731)
Cash and cash equivalents at beginning of period 10,955 9,448
--------- --------
Cash and cash equivalents at end of period $ 136,251 $ 1,717
========= ========
Supplemental cash flow information and noncash activities:
Fixed assets obtained through capital lease $ --- $ 4,085
========= ========
Warrants issued for bridge loan, capital lease and with issuance of equity
(Microsoft investment) $ 4,530 $ 5,232
========= ========
Conversion of convertible promissory note to Class B common stock $ 5,600 $ ---
========= ========
Income taxes paid $ 12 $ 1
========= ========
Interest paid $ 8,113 $ 499
========= ========
</TABLE>
The accompanying notes are an integral part of these condensed consolidated
financial statements.
5
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NORTHPOINT COMMUNICATIONS GROUP, INC
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1. ORGANIZATION AND BASIS OF PRESENTATION
The Company
NorthPoint Communications Group, Inc. provides high speed network and data
transport services, allowing internet service providers (ISPs), broadband data
service providers and long distance and local phone companies (collectively,
network service providers or NSPs) to meet the rapidly increasing information
needs of small and medium-sized businesses, people who work in home offices and
telecommuters.
Basis of Presentation
The consolidated financial statements include the accounts of NorthPoint
Communications Group, Inc. and its wholly-owned subsidiary NorthPoint
Communications, Inc., together with its wholly-owned subsidiary NorthPoint
Communications of Virginia, Inc. Effective March 22, 1999, NorthPoint
Communications, Inc. consummated a reorganization pursuant to which it became a
wholly-owned subsidiary of NorthPoint Communications Group, Inc., a newly
created holding company. The reorganization was effected by a merger of
NorthPoint Communications, Inc., with and into NorthPoint Merger Sub, Inc., a
wholly-owned subsidiary of NorthPoint Communications Group, Inc., with
NorthPoint Communications, Inc., as the surviving corporation of such merger. As
a result of the reorganization, the stockholders of NorthPoint Communications,
Inc. immediately before the reorganization became the only stockholders of
NorthPoint Communications Group, Inc. immediately after the reorganization. All
material intercompany accounts and transactions have been eliminated.
The accompanying unaudited condensed consolidated financial statements
reflect all adjustments which, in the opinion of management, are necessary for a
fair presentation of the results of operations for the periods shown. The
results of operations for such periods are not necessarily indicative of the
results expected for the full fiscal year or for any future period.
The Company considers all highly liquid investments with maturities of
three months or less at the date of purchase to be cash equivalents. Cash and
cash equivalents are stated at cost, which approximates market.
Short-term and long-term investments are accounted for in accordance with
Statement of Financial Accounting Standards No. 115 (SFAS 115) "Accounting for
Certain Investments in Debt and Equity Securities." This statement requires that
securities be classified as "held to maturity," "available for sale" or
"trading," and the securities in each classification be accounted for at either
amortized cost or fair market value, depending upon their classification. The
Company has the intent and the ability to hold investments until maturity.
Therefore, all such investments are classified as held to maturity investments
and carried at amortized cost in the accompanying consolidated financial
statements.
Inventories consist of communications equipment that will be installed at
subscriber locations. Inventories are accounted for using the first-in first-out
method at the lower of cost or market.
All share and per-share amounts in the accompanying consolidated financial
statements have been restated to give retroactive effect for all periods to a
three-for-two stock split effective April 9, 1999, and a three-for-two stock
split effective April 16, 1999.
These financial statements should be read in conjunction with the
consolidated financial statements and related notes included in the Company's
Registration Statement on Form S-1, as amended (File No. 333-73065), for the
year ended December 31, 1998. Certain prior period balances have been
reclassified to conform to current period presentation.
6
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2. EARNINGS (LOSS) PER SHARE - BASIC AND DILUTED
The Company computes net loss per share pursuant to Statement of Financial
Accounting Standards No. 128, Earnings Per Share. Basic net loss per share is
computed by dividing income or loss applicable to holders of common stock by the
weighted average number of shares of the Company's common stock outstanding
during the period after having given consideration to shares subject to
repurchase. Diluted net loss per share is determined in the same manner as basic
net loss per share except that the number of shares is increased assuming
exercise of dilutive stock options and warrants using the treasury stock method
and conversion of the Company's convertible preferred stock. See Condensed
Consolidated Statements of Operations for computed amounts.
The dilutive effect of options, warrants and convertible preferred stock
has not been considered because the Company has a net loss and the impact of
their assumed exercise would be antidilutive.
3. COMMON STOCK
From July 1, 1999 to September 30, 1999, the Company granted to employees
options to purchase an aggregate of 2,004,500 shares of common stock at an
exercise price of $18.63 to $26.75 per share, which was determined to be the
fair value of the stock at the time of the grants.
4. CREDIT FACILITY
On July 22, 1999, the Company repaid $5,000,000 outstanding under its
credit facility.
5. SUBSEQUENT EVENTS
On October 5, 1999, in accordance with the terms of its credit agreement,
the Company borrowed $60,000,000 of its senior first priority secured revolving
credit facility.
On October 21, 1999, the Company granted to certain employees options to
purchase an aggregate of 295,500 shares of common stock at an exercise price of
$21.63 per share, which was the fair value of the stock at the time of the
grant.
7
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ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS.
The following discussion of the financial condition and results of
operations of the Company should be read in conjunction with the condensed
consolidated unaudited financial statements and the related notes thereto
included elsewhere in this Form 10-Q and the consolidated audited financial
statements and notes thereto and Management's Discussion and Analysis of
Financial Condition and Results of Operations for the year ended December 31,
1998 included in the Company's Registration Statement on Form S-1, as amended
(File No. 333-73065).
Certain statements set forth below constitute "forward-looking statements."
Such forward-looking statements involve certain risks and uncertainties
including, but not limited to, those discussed herein under "Risk Factors" that
may cause actual results to differ materially from those expressed or implied in
any forward-looking statement. Investors and prospective investors are cautioned
not to place undue reliance on such forward-looking statements. We disclaim any
obligation to update the forward-looking statements contained herein to reflect
future events or developments. See "Forward-Looking Statements."
Overview
We are a national provider of high speed, local data network services. Our
networks use digital subscriber line, or DSL, technology to enable data
transport over telephone company copper lines at guaranteed speeds up to 25
times faster than common dial-up modems. We market our network and data
transport services to internet service providers, long-distance and local
telephone companies and data service providers, whom we call network service
providers. Our customers can use our fast, secure and reliable data networks to
provide continuously connected, economical Internet access and other data-
intensive applications to end users. These end users are typically small- and
medium-sized businesses with up to 500 employees, people who work in home
offices, and telecommuters.
We are currently providing services in 31 metropolitan areas, spanning 55
metropolitan statistical areas (MSAs), in the United States and intend to offer
service in a total of over 60 metropolitan areas, spanning 110 MSAs by the end
of next year. We have been and expect to be the first, or one of the first, to
offer DSL services in these markets. Our networks consist principally of digital
communications equipment that we own and install in telephone company offices
known as "central offices" and existing copper telephone lines that we lease to
connect our equipment with end users' premises. We will initially install our
equipment in the central offices with the highest density of small- and
medium-sized businesses in our targeted markets. We have already secured space
in over 1,300 of those central offices and paid for collocation space
improvements in these offices. As of September 30, 1999, we had converted 683 of
these central offices into operational status. We intend to expand the coverage
of our networks in these markets over time by installing equipment in additional
central offices.
Upon completion of our planned expansion, our networks will be able to
reach approximately 5.5 million businesses and 45 million households, including
more than 80% of the small- and medium-sized businesses in over 60 markets. We
are currently providing or have entered into agreements to provide our services
to more than 200 network service providers. As of September 30, 1999 we had
connected over 11,800 of their end users to our networks.
Since inception on May 16, 1997 and through the quarter ended September 30,
1999, our principal activities have included:
. developing our business plans;
. procuring governmental authorizations and space in central offices;
. raising capital, hiring management and other key personnel;
. working on the design and development of our network architecture and
operations support systems;
. acquiring equipment and facilities; and
. negotiating interconnection agreements.
8
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As a result of our development activities, we have experienced operating losses.
We expect to experience increasing operating losses as we expand our operations.
We introduced our commercial services in March 1998 in the San Francisco
Bay Area. We subsequently launched service in 30 additional markets, including
the greater Los Angeles area, Boston, New York, Chicago, San Diego, Washington,
D.C., Dallas, Detroit, Denver, Houston, Cleveland, Austin, Atlanta, Baltimore,
Philadelphia, Pittsburgh, Miami/Fort Lauderdale, St. Louis, Tampa/St.
Petersburg, Raleigh/Durham, Seattle, Portland, Oregon, Denver, Phoenix,
Minneapolis, Indianapolis, Milwaukee, Orlando, Sacramento, Providence and
Columbus, Ohio. We intend to offer our services in 29 additional metropolitan
areas by year-end 2000. Deployment of our networks will require significant
upfront capital expenditures. We have targeted for this year an initial 900
central offices necessary to roll out services in our initial 31 targeted
markets and, subsequently, an additional 800 central offices that will allow us
to achieve blanket coverage in these markets as well as 29 additional targeted
markets.
The principal capital expenditures we incur when we enter any market
include:
. the establishment of a metropolitan node -- a facility at which we
aggregate and disseminate data traffic in each metropolitan area -- and
the purchase and installation of electronic switching equipment for that
node;
. the procurement, design and construction of the collocation cage in each
central office;
. the purchase and installation of the network management
and network test equipment in those cages; and
. the capitalized cost of the installation of such equipment.
In addition, we incur operating, sales and market development expenses in order
to enter a new market. Once we have deployed our network in a market, the
majority of our additional capital expenditures are dependent upon orders to
connect new end users. These success-based capital expenditures include DSL line
cards, incremental digital subscriber line access multiplexers and network test
equipment, and line cards for our electronic switches in our metropolitan node.
In addition to the capital expenditures required to enter a market, we are
required to fund each market's cash flow deficit as we build our customer base.
Financial performance will vary from market to market, and the time when we
will achieve positive EBITDA, if at all, will depend on factors such as:
. the size of the addressable market;
. the level of upfront sales and marketing expenses;
. the number and sequencing of central offices built out;
. the cost of the necessary infrastructure;
. the timing of market entry;
. the commercial acceptance of our services; and
. the rate at which we can provision lines.
EBITDA is a measure of financial performance commonly used in the
telecommunications industry. It is defined as earnings before interest, taxes,
amortization of deferred stock compensation, depreciation and amortization. In
accordance with the Company's definition, EBITDA was as follows:
<TABLE>
<CAPTION>
Three Months Ended Nine Months Ended
September 30, September 30,
----------------------- -----------------------
1999 1998 1999 1998
-------- ------- -------- -------
<S> <C> <C> <C> <C>
EBITDA $(41,971) $(5,113) $(88,157) $(9,454)
======== ======= ======== =======
</TABLE>
Other companies' definition of EBITDA may differ from ours. You should not
construe it as an alternative to operating income as an indicator of our
operating performance or as an alternative to cash flows from operating
activities as a measure of liquidity.
9
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Factors Affecting Future Operations
Revenues
We derive our revenues from monthly recurring and nonrecurring charges to
internet service providers, long-distance and local telephone companies and data
service providers, whom we call network service providers. Monthly recurring
revenues consist of end user line fees, based upon the number of installed
lines, for the network service providers' end users connected to our networks
and interconnection fees for each connection to our metropolitan node in each
market. Nonrecurring revenues include charges for the installation and
activation of new end users and in some cases, for end-user modems or other
electronic equipment. Prior to the quarter ended September 30, 1999, we had sold
only minimal amounts of end-user modems or other electronic equipment. During
this most recent quarter, we began to sell an increasing amount of such
equipment to support the needs of our growing network service provider partner
base.
We seek to price our services competitively in relation to those of the
traditional telephone companies and other competitive telecommunications
companies in each market. Current standard end user line prices that we charge
to our network service providers for our services generally range from $75 per
month for 160 kilobits per second service to $250 per month for 1.5 megabits per
second service, before volume discounts. Although pricing will be an important
part of our strategy, we believe that customer relationships, customer care and
consistent quality will be the key to generating customer loyalty. During the
past several years, market prices for many telecommunications services have been
declining, which is a trend that we believe will likely continue. As prices
decline for any given speed of service, we expect that the total number of end
users and the proportion of our end users purchasing our higher-speed, higher-
priced services will increase. The cost to upgrade an end user's speed is
generally minimal.
We accelerated our deployment during the course of this calendar year into
additional geographic markets, successfully enabling us to sign more network
service provider partners than previously planned. We plan to continue this
strategy. We believe this strategy leaves us well-positioned to capitalize on
the demand for our products. In view of this rapid deployment, we need to
continue to enhance our abilities to develop the markets where we offer service.
Specifically, this accelerated deployment plan requires us to introduce
provisioning processes and interfaces with all of the eight major local
telephone companies simultaneously. We also must increase and enhance training
of our employees as well as our existing and new network service provider
partners. While we anticipate continuing strong increases in end-user line
installations in the next two to three quarters, we anticipate that line
installations will accelerate as we gain efficiencies through more advanced
provisioning processes and interfaces as well as anticipated growing demand for
DSL services from our expanded partner base in existing and new geographic
markets. Acceleration of line installation is dependent upon our ability to
upgrade our provisioning processes, the timing of which could affect future
quarterly results.
Network Expenses
Our network expenses consist of nonrecurring and monthly recurring charges
for the commodity transport elements we choose to lease rather than own.
Nonrecurring network expenses include transport and loop installation fees. We
expect these costs will be largely related to the activation of new central
offices and new end users. Monthly recurring network expenses include loop fees,
rent, power and other fees charged by traditional telephone companies,
competitive telecommunications companies and other providers. As our customer
and end user base grows, we expect the largest element of network expenses to be
traditional telephone company charges for leased copper lines, which have
historically been $3 to $40 per line per month, depending on the identity of the
traditional telephone company and the location of the lines.
Selling, Marketing, General and Administrative Expenses
Our selling, marketing, general and administrative expenses primarily
consist of costs related to selling, marketing, customer care, provisioning,
billing, regulatory, corporate administration, network engineering and
maintenance. Additionally, we incur other costs associated with administrative
overhead, office leases and bad debt. We expect that our selling, marketing,
general and administrative costs will grow significantly as we expand our
operations and that administrative overhead will be a large portion of these
expenses during the start-up phase of our business. However,
10
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we expect these expenses to decline as a percentage of our revenues as we build
our customer base and the number of end users connected to our networks
increases.
We plan to employ a regional sales team in each market we enter. To attract
and retain a highly qualified sales force, we plan to offer our sales and
customer care personnel a compensation package consisting of commissions and
stock options. We expect to incur significant selling and marketing costs as we
continue to expand our operations. In addition, we plan to offer sales
promotions, especially in the first few years as we establish our market
presence.
Amortization of Deferred Stock Compensation
Deferred stock compensation arises as a result of the granting of stock
options to employees with exercise prices per share subsequently determined to
be below the fair values per share for financial reporting purposes of our
common stock at dates of grant. The deferred compensation is being amortized
over the vesting period of the associated options.
Depreciation and Amortization
We expect depreciation and amortization expense to increase significantly
as more of our network becomes operational and as we increase capital
expenditures to expand our network. Depreciation and amortization expense
includes:
. depreciation of network infrastructure equipment;
. depreciation of information systems, furniture and fixtures;
. amortization of improvements to central offices, network control center
facilities and corporate facilities;
. amortization of central office collocation space improvements; and
. amortization of software.
Taxation
We have not generated any taxable income to date and therefore have not
paid any federal income taxes since inception. State taxes were limited to
nominal amounts. Use of our net operating loss carryforwards, which begin to
expire in 2003, may be subject to limitations under Section 382 of the Internal
Revenue Code of 1986, as amended. We have recorded a full valuation allowance on
the deferred tax asset, consisting primarily of net operating loss
carryforwards, because of uncertainty regarding its recoverability.
Results of Operations
As a result of the development and rapid growth of the Company's business
during the periods presented, the period-to-period comparisons of the Company's
results of operations are not necessarily meaningful and should not be relied
upon as an indication of future performance.
Revenues
We commercially introduced our services in March 1998 and recognized
$237,000 in revenues for the quarter ended September 30, 1998. Revenues for the
quarter ended September 30, 1999 were approximately $5,734,000, 53% of which
consisted of recurring revenues. For the nine months ended September 30, 1998
and September 30, 1999, revenues were $400,000 and $9,521,000, respectively, of
which 60% consisted of recurring revenues for the nine months ended September
30, 1999. The increase in revenues is due to the expansion of our installed end
user base that has occurred over the past year. In addition, nonrecurring
revenues as a proportion of total revenues increased from the prior quarter as
we sold an increasing amount of end-user modems and other electronic equipment
during the quarter to support the needs of our growing network service provider
partner base.
Network Expenses
Network expenses were approximately $851,000 for the quarter ended
September 30, 1998 and $13,547,000 for the quarter ended September 30, 1999. For
the nine months ended September 30, 1998 and September 30, 1999, network
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expenses were $1,259,000 and $25,280,000, respectively. These costs consisted
primarily of monthly rental costs for lines between end users and central
offices, between central offices and our metropolitan nodes, between our
metropolitan nodes and our network service providers, end user line installation
and costs, costs of end user modems, and costs charged to us by the traditional
telephone companies. The increase in network expenses reflects the growth in our
network as we expand into new markets and connect new end users.
Selling, Marketing, General and Administrative Expenses
Selling, marketing, general and administrative expenses were approximately
$4,505,000 for the quarter ended September 30, 1998 and $34,203,000 for the
quarter ended September 30, 1999. For the nine months ended September 30, 1998
and September 30, 1999, selling, marketing, general and administrative expenses
were $8,612,000 and $72,497,000, respectively. These expenses consisted
primarily of salaries and related expenses for the development of our business,
network architecture and software, the establishment of our management team and
the development of corporate identification, promotional and advertising
materials. As the staffing levels and operations of the Company have expanded
over the past year, so have these operating expenses to support such growth.
Amortization of Deferred Stock Compensation
Amortization of deferred stock compensation was $1,038,000 for the quarter
ended September 30, 1998 and $1,404,000 for the quarter ended September 30,
1999. For the nine months ended September 30, 1998 and September 30, 1999,
amortization of deferred stock compensation was $1,572,000 and $4,211,000,
respectively. This increase in deferred stock compensation expense is due to the
recruitment of new employees. The unamortized balance of $15,275,000 at
September 30, 1999 will be amortized over the remaining vesting period of each
grant.
Depreciation and Amortization
Depreciation and amortization expenses were approximately $321,000 for the
quarter ended September 30, 1998 and $5,226,000 for the quarter ended September
30, 1999. For the nine months ended September 30, 1998 and September 30, 1999,
depreciation and amortization was $593,000 and $9,426,000, respectively. Such
expenses consisted primarily of depreciation of network equipment, information
systems, office equipment, furniture and fixtures and amortization of leasehold
improvements. The increase in depreciation and amortization is primarily due to
the additional property and equipment that has been acquired and placed into
service as we continue to build out our networks.
Interest Income and Expense
The interest income for the quarter ended September 30, 1998 was $19,000
and was earned primarily from the proceeds raised in the Series B preferred
stock financing in August 1997 and the cash on hand from a line of credit
borrowing on a bridge loan closed in July 1998. The interest income for the
quarter ended September 30, 1999 was $4,709,000 and was earned primarily from
the proceeds raised in the initial public offering in May 1999. Interest income
was $175,000 for the nine months ended September 30, 1998 and $7,973,000 for the
nine months ended September 30, 1999.
The interest expense for the quarter ended September 30, 1998 was
approximately $1,323,000 and was primarily related to interest on borrowings
under the aforementioned line of credit. Interest expense for the quarter ended
September 30, 1999 of $2,554,000 primarily represents the interest associated
with our current credit facility, and replacing the existing bridge loan
facility, which we closed in February 1999. Interest expense was $1,445,000 for
the nine months ended September 30, 1998 and $13,825,000 for the nine months
ended September 30, 1999.
Liquidity and Capital Resources
Our operations have required substantial capital investment for the
procurement, design and construction of our central office collocation space
improvements and cages, the purchase of telecommunications equipment and the
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design and development of our networks. Capital expenditures were approximately
$16,524,000 for the nine months ended September 30, 1998 and $101,310,000 for
the nine months ended September 30, 1999.
Although we have no material commitments for capital expenditures during
1999, we plan to make total capital expenditures in 1999 estimated at
$140,000,000 to $170,000,000 to develop our networks. In each market, we will
initially target the central offices with the highest density of small- and
medium-sized businesses. We will expand into other central offices when we
obtain adequate demand or volume commitments from our customers. We will also
incur capital expenditures for building a metropolitan node in each market and
for expanding our network control center in San Francisco.
As of September 30, 1999, we had an accumulated operating deficit of
$138,032,000 and cash and cash equivalents of $136,251,000.
Net cash used in operating activities was $6,856,000 for the nine months
ended September 30, 1998 and $87,854,000 for the nine months ended September 30,
1999. The net cash used in operations was primarily due to net losses, offset in
part by increases in accrued expenses and accounts payable in 1998, and by an
increase in accrued expenses in 1999. The net cash used in investing activities
was $16,524,000 for the nine months ended September 30, 1998 and $273,435,000
for the nine months ended September 30, 1999, due to a purchase of short-term
investments and acquisitions of property and equipment. Net cash provided by
financing activities was $15,649,000 for the nine months ended September 30,
1998 and was primarily due to borrowings on a line of credit. Net cash provided
by financing activities was approximately $486,585,000 for the nine months ended
September 30, 1999, primarily related to the proceeds from issuance of common
and preferred stock.
On April 5, 1999, we entered into a secured credit facility with Goldman
Sachs Credit Partners L.P. and Newcourt Commercial Finance Corporation
consisting of:
. a $10,000,000 senior first priority secured term loan, all of which we
drew down on the closing date;
. a $50,000,000 senior first priority secured revolving credit facility
that converted into a senior first priority secured term loan on October
5, 1999, $5,000,000 of which we drew down on the closing date; and
. a $40,000,000 second priority secured term loan, all of which we drew
down on the closing date.
On April 27, 1999, we entered into an amendment to the secured credit
facility under which the senior first priority secured revolving credit facility
was increased by $10,000,000. The secured credit facility matures on the fifth
anniversary of its closing date. The total amounts outstanding under the senior
first priority secured loans bear interest, in the absence of an event of
default, at our option at:
. the LIBOR rate plus four and one-half percent per year; or
. the greater of the prime rate or the federal funds rate as announced by
The Wall Street Journal plus four percent per year.
For the first year that the senior first priority secured loans are outstanding,
a portion of the interest payable on the loans equal to 2% per annum of the
loans outstanding is being added to the outstanding loan balance, rather than
being paid.
The total amounts outstanding under the second priority secured term loan
bear interest, in the absence of an event of default, at our option at:
. the LIBOR rate plus eight percent per year; or
. the greater of the prime rate or the federal funds rate as announced by
The Wall Street Journal plus seven and one-half percent per year.
Borrowings under the secured credit facility are restricted based upon our
leverage ratio and the value of our telecommunications assets from time to time.
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We pledged to the lenders under the secured credit facility all of the
capital stock of NorthPoint Communications, Inc. held by NorthPoint
Communications Group, Inc. We and our subsidiaries also pledged as additional
collateral under the secured credit facility all of our personal property.
In March and April 1999, we issued and sold an aggregate of 3,968,174
shares of Series D-1 preferred stock with total proceeds of approximately
$38,800,000. Purchasers of our Series D-1 preferred stock included ICG Services,
Inc. (an affiliate of ICG Communications, Inc.), At Home Corporation, Verio
Inc., Cable & Wireless USA, Inc., Concentric Network Corporation, ALC
Communications Corporation (an affiliate of Frontier Corporation), Network Plus
Corporation and Netopia, Inc.
In May 1999, we sold 17,250,000 shares of our common stock at $24 per share
in our initial public offering. Net of underwriting discounts and commissions,
the proceeds to us were $388,500,000. Microsoft Corporation and Tandy
Corporation purchased $30,000,000 and $20,000,000, respectively, of our stock in
this offering.
We have used and intend to use the proceeds of this offering and from the
secured credit facility to:
. to continue building our networks;
. to repay certain indebtedness;
. to fund working capital; and
. for general corporate purposes.
We believe that our existing capital resources will be sufficient to fund
our expansion and operating deficits through the middle of 2000. However, we may
decide to seek additional capital earlier than the middle of 2000, the timing of
which will depend upon market conditions, among other things. The actual amount
and timing of our future capital requirements may differ materially from our
estimates as a result of, among other things, the demand for our services and
regulatory, technological and competitive developments, including additional
market developments and new opportunities, in our industry. We may also need
additional financing if:
. we alter the schedule, targets or scope of our network rollout plan;
. our plans or projections change or prove to be inaccurate; or
. we acquire other companies or businesses.
We may obtain additional financing through commercial bank borrowings, equipment
financing or the private or public sale of equity or debt securities.
We may be unsuccessful in raising sufficient additional capital. In
particular, we may be unable to raise additional capital on terms that we
consider acceptable, that are within the limitations contained in our financing
agreements and that will not impair our ability to develop our business. If we
fail to raise sufficient funds, we may need to modify, delay or abandon some of
our planned future expansion or expenditures, which could have a material
adverse effect on our business, prospects, financial condition and results of
operations.
Impact of Year 2000 Issue
We believe that our computer systems and software are year 2000 compliant.
However, we cannot assess the impact of potential year 2000 problems on
operators of traditional telephone systems or other service providers (such as
electric and utility) in the markets in which we operate. Because our systems
will be interconnected with -- and thus are dependent on -- those of traditional
telephone companies who operate these traditional telephone systems and other
service providers, any disruption of operations in the computer programs of
these service providers would likely have an impact on our systems in our
markets. We cannot assure you that this impact will not have a material adverse
effect on our business, prospects, financial condition and results of
operations.
We have inventoried and tested our enterprise application systems,
including internally-developed and vendor-developed applications and
off-the-shelf software and hardware relating to our internal information
systems, and believe that such systems are year 2000 compliant. We have not
reviewed our non-information technology systems,
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such as fire alarms, elevators and badge access systems, for year 2000 issues
relating to embedded microprocessors. To the extent that year 2000 issues exist,
these systems may need to be replaced or upgraded. Because our systems were
implemented within the last two years, we do not anticipate significant year
2000 issues to arise, although we cannot be certain about this.
In the provision of our DSL services, we use third party equipment and
software and interact with traditional telephone companies that have equipment
and software that may not be year 2000 compliant. We have requested assurances
regarding year 2000 compliance from our equipment and software vendors and the
traditional telephone companies. We currently have received assurances from most
of our vendors and anticipate receiving assurances soon from the remaining
vendors. We have learned that the traditional telephone companies have informed
the Federal Communications Commission that they are year 2000 compliant. We are
in the process of requesting that they provide assurances of their year 2000
compliance directly to us. We plan to test our system interfaces with at least
one traditional telephone company if we are able to obtain traditional telephone
company cooperation. However, failure of our third-party or traditional
telephone company software and equipment to be year 2000 compliant could cause
us to incur significant expense in correcting any problems that arise, impacting
our business, prospects, operating results and financial condition.
We acknowledge the criticality and importance of year 2000 compliance
within our organization. We are currently gathering year 2000 compliance and
preparedness statements from all of our business partners. We plan to test and
validate our system interfaces with partners and to develop a contingency plan.
However, if our partners' systems are not year 2000 compliant, our business,
prospects, operating results and financial condition could be adversely
affected.
In the normal course of doing business with our partners and suppliers, we
establish manual back-up processes (fax, phone, e-mail, etc.) for all critical
interconnections and business functions. These manual processes are designed to
replace our automated interfaces and processes in the event of a failure. We
plan to test these contingency procedures on a frequent basis to ensure that
they work properly in support of our business. Our contingency procedures will
be available if year 2000 problems occur in any of our partner or supplier
environments. In addition, we plan to conduct back-ups of all of our mission-
critical systems in advance, with the ability to revert to previous day
transactions to ensure minimal loss of corporate data if year 2000 problems
occur in our systems.
Our aggregate historical costs for year 2000 analysis, planning and
remediation have not been material to date and we do not expect them to be
material in the future. However, we cannot assure that these costs will not be
greater than we currently expect. If these costs increase significantly, our
business, prospects, operating results and financial condition could be
adversely affected. We have completed our internal review of and planning for
year 2000 issues.
Forward Looking Statements
The statements contained in this report which are not historical facts may
be deemed to contain forward-looking statements. Such statements are indicated
by words or phrases such as "anticipate," "estimate, "projects," "believes,"
"intends," "expects" and similar words and phrases. Actual results may differ
materially from those expressed or implied in any forward-looking statement as a
result of certain risks and uncertainties, including, without limitation, the
company's dependence on strategic third parties to market and resell its
services, intense competition for the company's service offerings, dependence on
growth in demand for DSL-based services, ability to raise additional capital and
other risks and uncertainties detailed herein under "Risk Factors" and in our
Securities and Exchange Commission filings. Prospective investors are cautioned
not to place undue reliance on such forward-looking statements. We disclaim any
obligation to update any of the forward-looking statements contained herein to
reflect future events or developments.
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Risk Factors
In addition to the other information contained herein, you should carefully
consider the following risk factors in evaluating our company.
Because We Have a Limited Operating History, It Is Difficult to Evaluate Our
Business
We were formed in May 1997 and began offering commercial services in the
San Francisco Bay Area in March 1998. Because of our limited operating history,
investors have limited operating and financial data about our company upon which
to base an evaluation of our performance and an investment in our common stock.
Investors should consider the risks, expenses and difficulties we may
encounter, including those frequently encountered by early stage companies in
new and rapidly evolving markets. As a result, we may be unable to:
. develop our operational support systems and other information technology
systems;
. obtain central office space and suitable copper wire loops;
. expand our customer base;
. raise additional capital;
. maintain adequate control of our expenses;
. attract and retain qualified personnel;
. enter into and implement interconnection agreements with traditional
telephone companies, some of which are our competitors or potential
competitors;
. expand the geographic coverage of our network;
. obtain governmental authorizations to operate as a competitive
telecommunications company in new markets;
. continue to upgrade our technologies and enhance our product features;
and
. respond to technological changes and competitive market conditions.
We Expect Our Losses and Negative Cash Flow to Continue
To date, we have incurred substantial operating losses, net losses and
negative cash flow on both an annual and quarterly basis. For the year ended
December 31, 1998, we had operating losses of approximately $25,362,000, net
losses of $28,847,000, and negative cash flow from operating and purchasing of
property and equipment activities of $52,913,000. For the nine months ended
September 30, 1999, we had operating losses of approximately $101,893,000, net
losses of $107,745,000, and negative cash flow from operating and purchasing of
property and equipment activities of $189,164,000. We cannot assure our
investors that we will ever achieve profitability or generate positive cash
flow.
We expect our operating expenses will increase significantly, especially in
the areas of operations, sales and marketing, as we develop and expand our
business and, as a result, we will need to increase our revenue to become
profitable. If our revenue does not grow as expected or increases in our
expenses are not in line with our plans, there could be a material adverse
effect on our business, prospects, financial condition and results of
operations.
We Cannot Predict Whether We Will be Successful Because Our Business Model is
Unproven and Our Market Is Developing
Our business strategy is unproven. To be successful, we must, among other
things, develop and market data networks and services that are widely accepted
by our customers and their end users at prices that will yield a profit. Because
our business and the overall market for high speed data communications services
are in the early stages of development, we are unsure whether or when our DSL
services will achieve commercial acceptance.
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Our Failure to Achieve or Sustain Market Acceptance at Desired Pricing Levels
Could Impair Our Ability to Achieve Profitability or Positive Cash Flow
Prices for digital communication services have fallen historically, a trend
we expect will continue. Accordingly, we cannot predict to what extent we may
need to reduce our prices to remain competitive or whether we will be able to
sustain future pricing levels as our competitors introduce competing services or
similar services at lower prices. Our failure to achieve or sustain market
acceptance at desired pricing levels could impair our ability to achieve
profitability or positive cash flow, which would have a material adverse effect
on our business, prospects, financial condition and results of operations.
Our Quarterly Operating Results Are Likely to Fluctuate Significantly, Causing
Our Stock Price to be Volatile or to Decline
We cannot accurately forecast our revenue because of our limited operating
history and the emerging nature of the data communications industry in our
markets. Our revenue could fall short of our expectations if we experience
delays or cancellations by even a small number of our customers. A number of
factors are likely to cause fluctuations in our operating results, including:
. the rate at which we are able to attract and retain customers, and
whether larger customers fulfill their volume commitments to us;
. the ability of our customers to generate significant end user demand;
. the timing and willingness of traditional telephone companies to provide
and construct the required central office facilities;
. the timing and willingness of traditional telephone companies to provide
suitable copper wire loops at favorable prices;
. the prices our customers and, in turn, their end users pay for our
services; availability of financing to continue to fund our expansion;
. our ability to deploy our services on a timely basis to satisfy end user
demand;
. the mix of line orders between lower priced and higher priced lines;
. the amount and timing of capital expenditures and operating costs as we
expand our network;
. the announcement or introduction of new or enhanced services by our
competitors; and
. technical difficulties or network downtime.
As a result, it is likely that in some future quarters our operating
results will be below the expectations of securities analysts and investors. If
this happens, the trading price of our common stock would likely be materially
adversely affected.
A Limited Number of Customers Account for a High Percentage of Our Revenue and
the Loss of a Significant Customer Could Harm Our Business
We currently provide or have agreements to provide data transport solutions
to approximately 200 network service providers. For the quarter ended September
30, 1999, our two largest customers accounted for approximately 29% of our
revenue. We anticipate that, as we expand our business, we will continue to rely
upon a limited number of customers for a high percentage of our revenue and end-
user lines. As a result of this concentration of our customer base, a loss of or
decrease in business from one or more of our customers could have a material
adverse effect on our business, prospects, financial condition and results of
operations.
Similarly, if our customers are unsuccessful in competing for end users in
their own intensely competitive markets or experience other financial or
operating difficulties, our business, prospects, financial condition and results
of operations would be materially adversely affected.
Many of our agreements with our customers are non-exclusive, and many of
our customers are also customers of, or have invested in, our competitors. To
the extent our significant customers strengthen their commercial relationships
with our competitors, our business would be materially adversely affected.
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We May Not Be Able to Continue to Grow Our Business If We Do Not Obtain
Significant Additional Funds By the Middle of 2000
We believe our current capital resources will be sufficient for our funding
and working capital requirements and for the deployment and operation of our
networks in targeted markets through the middle of 2000. We will need
significant additional funds beyond then. We expect that the actual amount and
timing of our future capital requirements will depend upon the demand for our
services and regulatory, technological and competitive developments, including
additional market developments and new opportunities, in our industry. We may
seek additional financing earlier than the middle of 2000 if:
. we alter the schedule, targets or scope of our network rollout plan;
. our plans or projections change or prove to be inaccurate;
. we acquire other companies or businesses; or
. market conditions allow us to raise public or privately financed capital
on attractive terms.
We may be unsuccessful in raising sufficient additional capital at all or
on terms that we consider acceptable. If we are unable to obtain adequate funds
on acceptable terms, our ability to deploy and operate our networks, fund our
expansion or respond to competitive pressures would be significantly impaired.
Such limitation could have a material adverse effect on our business, prospects,
financial condition or results of operations.
Our Business Activities and Our Ability to Raise Additional Funds Are Limited by
Covenants Contained in Our Financing Agreements
Our debt agreements and other financing agreements contain and will contain
restrictions on our activities and financial covenants with which we will be
required to comply. If we fail to comply with these requirements, we would be in
default and our obligations could be declared immediately due and payable. We
may be unable to make such required payments, or to raise sufficient funds from
other sources.
In addition, the terms of proposed new indebtedness or other funding may
not be permitted by the terms of our current financing agreements. This may
impair our ability to develop our business. If we fail to raise sufficient
funds, we may be required to modify, delay or abandon some of our expansion
plans, which could have a material adverse effect on our business, prospects,
financial condition and results of operations.
We Need to Make Capital Expenditures, and the Amounts, Timing and Returns are
Uncertain
In 1999, we will have to make significant capital expenditures estimated at
$140,000,000 to $170,000,000 to develop our business and deploy our services and
systems. The amount and timing of these expenditures are uncertain and will
depend upon our ability to execute our plans in a timely and cost-effective
manner. We will need to increase our revenue in order to earn a return from our
capital expenditures. If our revenue does not grow as expected, or capital
expenditures exceed our estimates, there could be a material adverse effect on
our business, prospects, financial condition and results of operations.
Our Failure to Manage Our Growth Effectively Could Impair Our Business
If we are successful in implementing our business plan, our operations will
expand rapidly. This rapid expansion could place a significant strain on our
management, financial and other resources. Our ability to manage future growth,
if it occurs, will depend upon our ability to:
. control costs;
. maintain regulatory compliance;
. implement and significantly expand our financial and operating systems;
. maintain our operations support systems; and
. expand, train and manage our employee base.
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We may be unable to do these things successfully. In addition, we may not
successfully obtain, integrate and use our employees and management, operating
and financial resources. Our business, prospects, financial condition and
results of operations will be materially adversely affected if we are unable to
manage our growth effectively.
The Data Communications Industry is Undergoing Rapid Technological Changes and
New Technologies May Be Superior to the Technology We Use
The data communications industry is subject to rapid and significant
technological change, including continuing developments in DSL technology, which
does not presently have widely accepted standards, and alternative technologies
for providing high speed data communications such as cable modem technology. As
a consequence:
. we will rely on third parties, including some of our competitors and
potential competitors, to develop and provide us with access to
communications and networking technology;
. our success will depend on our ability to anticipate or adapt to new
technology on a timely basis; and
. we expect that new products and technologies will emerge that may be
superior to, or may not be compatible with, our products and
technologies.
If we fail to adapt successfully to technological changes or obsolescence
or fail to obtain access to important technologies, our business, prospects,
financial condition and results of operations could be materially adversely
affected.
Our Success in Attracting and Retaining Customers Significantly Depends on Our
Ability to Obtain Central Office Space From Traditional Telephone Companies
We believe the growth and success of our business will depend upon securing
physical central office space for our equipment in the central offices of
traditional telephone companies in our target markets. We have experienced
initial rejections of our applications to obtain space in some central offices.
We believe we will continue to receive rejections of requested physical central
office space as we expand our existing and planned networks. Although to date a
majority of our applications to obtain physical central office space that were
initially rejected have subsequently been accepted, we cannot assure you that we
will be successful in reversing the pending rejections or any other rejected
applications for space in desired central offices. Nor can we predict the extent
of these rejections or their impact on our ability to provide service in our
target markets. The rejection of our applications for central office space has
in the past and could in the future result in delays and increased costs as we
expand our services in our target markets. This may materially adversely affect
our business, prospects, financial condition and results of operations.
As we grow, we may be unable to secure central office space on a timely
basis or at all. In some cases, although physical central office space is
available, traditional telephone companies have claimed that they must refurbish
space to make it suitable for our equipment--for example, by adding separate
entrances, removing asbestos or obsolete machinery, or increasing power supply
and air conditioning--which in some cases has made the cost to obtain that
physical central office space prohibitively expensive. The FCC recently adopted
new rules designed to make it easier and less expensive for competitive
telecommunications companies to obtain central office space and to require
traditional telephone companies to provide them with alternative arrangements
for obtaining central office space. We cannot be certain of how effective these
rules will be or whether our competitors will benefit to a greater extent from
these rules than we will. We expect physical central office space to become
increasingly scarce due to increasing demand from a growing number of
competitive telecommunications companies.
Even when space is available, we may face delays ranging from four months
to more than a year after we place an order before space for our equipment is
made available. If our applications for physical central office space are
rejected, or the costs or delays associated with obtaining central office space
become too expensive, our expansion plans could be adversely affected, which
could have a material adverse effect on our business, prospects, financial
condition and results of operations.
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Broad service availability is also important to our customers and potential
customers that want to provide Internet access or other data services on a
national or regional basis. Our inability to obtain physical central office
space in a timely manner could have a material adverse effect on our ability to
attract and retain customers.
Any disputes with traditional telephone companies over the types of
equipment we seek to install in the central office space could also delay our
installation and even impair our ability to provide service in the manner we
deem appropriate. These delays or refusals could have a material adverse effect
on our business, prospects, financial condition and results of operations.
Our Success Depends on Interconnection Agreements with Traditional Telephone
Companies in Each of Our Markets
The success of our strategy depends on our ability to enter into and renew
interconnection agreements with traditional telephone companies in each of our
target markets on a timely basis. Delays in obtaining additional interconnection
agreements would postpone our entry into a market, which could have a material
adverse effect on our business, prospects, financial condition and results of
operations.
Interconnection agreements have limited terms of two to three years and we
cannot assure you that existing or new agreements will be extended or negotiated
on terms favorable to us. Interconnection agreements are also subject to state
commission, FCC and judicial oversight. These government bodies may modify the
terms or prices of our interconnection agreements in ways that adversely affect
our business, prospects, financial condition and results of operations.
Our Business Could Suffer if High Quality Copper Lines Are Not Available or Cost
Us More Than We Expect
We significantly depend on the quality of the copper lines and the
traditional telephone companies' maintenance of such lines. We cannot assure you
that we will be able to obtain the copper lines and the services we require from
the traditional telephone companies at quality levels, prices, terms and
conditions satisfactory to us. Our failure to do so would have a material
adverse effect on our business, prospects, financial condition and results of
operations.
Under federal law, traditional telephone companies have an obligation to
negotiate with us in good faith to enter into interconnection agreements,
including agreements on the price at which we can obtain suitable lines from
these telephone companies. If no agreement can be reached, either side may
petition the applicable state commission to arbitrate remaining disagreements.
These arbitration proceedings can last up to nine months. Moreover, the state
commission must approve any interconnection agreement resulting from negotiation
or arbitration, and any party may appeal an adverse decision by the state
commission to federal district court. The potential cost in resources and delay
from this process could harm our ability to compete in certain markets, and
there is no guarantee that a state commission would resolve disputes, including
pricing disputes, regarding our access to suitable lines in our favor. Moreover,
the FCC rules governing pricing standards for access to the networks of the
traditional telephone companies are currently being challenged in federal court.
If the courts overturn the FCC's pricing rules, the FCC may adopt a new pricing
methodology that would require us to pay a higher price to traditional telephone
companies for access to suitable lines. This could have a detrimental effect on
our business.
We have not yet established a history of ordering and obtaining the
provisioning and repair of very large volumes of lines from any traditional
telephone company. We also depend on cooperation from traditional telephone
companies for repair of transmission facilities. The traditional telephone
companies in turn rely significantly on unionized labor. Labor-related issues
and actions on the part of the traditional telephone companies have in the past,
and may in the future, adversely affect traditional telephone companies'
provision of services and network components that we order.
Our dependence on the traditional telephone companies has caused and could
continue to cause us to encounter delays in establishing our networks,
provisioning lines and upgrading our services. These delays could adversely
affect our relationships with our customers, harm our reputation or could
otherwise have a material adverse effect on our business, prospects, financial
condition and results of operations.
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We Depend on Market Acceptance for DSL-Based Services
The market for small- and medium-sized business, telecommuter and
residential Internet access is in the early stages of development. Because we
offer services to a new and evolving market and because current and future
competitors are likely to introduce competing services, it is difficult for us
to predict the rate at which these markets will grow. Various providers of
high-speed digital communications services are testing products from various
suppliers for various applications, and it is unclear if DSL will offer the same
or more attractive price-performance characteristics. If the markets for our
services fail to develop, grow more slowly than anticipated or become saturated
with competitors, our business, prospects, financial condition and results of
operations could be materially adversely affected.
We Depend on Our Billing, Customer Service and Information Support Systems,
Which Need Further Development
Sophisticated information and processing systems are vital to our growth
and ability to monitor costs, bill customers, process customer orders and
achieve operating efficiencies. Our plans for the development and implementation
of our operations support systems rely, for the most part, on acquiring products
and services offered by third-party vendors and integrating those products and
services in-house to produce efficient operational solutions. However, we may
not successfully identify all of our information and processing needs or
implement these systems on a timely basis or at all, and these systems may not
perform as expected.
In addition, our right to use these systems is dependent upon license
agreements with third-party vendors. Some of those agreements may be cancelable
by the vendor and the cancellation or nonrenewal of these agreements may have a
material adverse effect on our business, prospects, financial condition and
results of operations.
Similar issues are applicable to the operations support systems and other
systems of our customers, and to the interface between our systems and those of
our customers. Therefore, failures at our customers could also have a material
adverse effect on our business, prospects, financial condition and results of
operations.
If We Do Not Adequately Address Year 2000 Issues, We May Incur Significant Costs
and Our Business Could Suffer
The year 2000 issue is the result of computer programs being written using
two digits rather than four to define the applicable year. As a result, our
computer programs that have date-sensitive software and software of companies
into which our network is interconnected may recognize a date using "00" as the
year 1900 rather than the year 2000. This could result in system failures or
miscalculations causing disruptions of operations, including, among other
things, a temporary inability to process transactions, send invoices or engage
in similar normal business activities. If the systems of other companies on
whose services we depend or with whom our systems interconnect are not year 2000
compliant, it could have a material adverse effect on our business, prospects,
financial condition and results of operations. See "Impact of Year 2000 Issue."
We May Be Unable to Expand Our Network Services Effectively and Provide High
Performance to a Substantial Number of End Users
Due to the limited deployment of our services, the ability of our DSL
network to connect and manage a substantial number of end users at high
transmission speeds is still unknown. While peak digital data transmission
speeds across our DSL network to and from the central office and the end user
can exceed 1.5 megabits per second, the actual data transmission speeds over our
network could be significantly slower due to:
. the type of DSL technology deployed;
. the distance an end user is located from a central office;
. the configuration of the telecommunications line being used;
. the existence of and number of data transmission impediments on the
telephone company copper lines;
. the gauge of the copper lines; and
. the presence and severity of interfering transmissions on nearby lines.
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For example, we are not certain whether we can successfully deploy higher DSL
speeds through digital loop carrier systems which, because they connect copper
lines to a fiber link, currently limit DSL service to a maximum speed of 144
kilobits per second.
Because we rely on traditional telephone companies to overcome technical
limitations associated with loop carrier systems, we cannot assure investors
that we will be able to successfully deploy high speed DSL service to all areas
in our markets. As a result, our network may not be able to achieve and maintain
the highest possible digital transmission speed. Our failure to achieve or
maintain high speed digital transmissions would have a material adverse effect
on our business, prospects, financial condition and results of operations.
Our Success Depends on Our Retention of Executive Officers and Other Key
Personnel and Our Ability to Hire Additional Key Personnel
We are managed by a small number of executive officers. Competition for
qualified executives in the data communications services industry is intense,
and there are a limited number of persons with comparable experience. We depend
upon our executive officers because we believe there are few managerial
personnel with qualifications to swiftly implement a business plan integrating
DSL technology with the existing telephone infrastructure. We do not have
employment agreements with any of our executive officers, so any of these
individuals may terminate his or her employment with us at any time. We do not
have "key person" life insurance policies on any of our executive officers. The
loss of these key individuals could have a material adverse effect on our
business, prospects, financial condition and results of operations.
We believe that our success will depend in large part on our ability to
retain and attract qualified technical, marketing, managerial and other
personnel. Additionally, we believe an effective sales force is critical to our
success. The industry in which we compete is characterized by a high level of
employee mobility and aggressive recruiting of skilled personnel. We may be
unable to hire or retain necessary personnel in the future. Our inability to
attract and retain key personnel would have a material adverse effect on our
business, prospects, financial condition and results of operations.
The Market in Which We Operate is Highly Competitive, and We May Not Be Able to
Compete Effectively, Especially Against Established Industry Competitors with
Significantly Greater Financial Resources
We face competition from many competitors with significantly greater
financial resources, well-established brand names and larger customer bases. We
also expect competition to intensify in the future. We expect significant
competition from traditional and new telephone and telecommunications companies,
including national long distance carriers, cable modem service providers,
Internet service providers, on-line service providers, and wireless and
satellite data service providers.
Other Competitive Telecommunications Companies, Some with Greater Financial
Resources, Compete in the Same Markets for the Same Customers. Other competitive
telecommunications companies have entered and may continue to enter the market
and offer high speed data services using a business strategy similar to ours.
Some competitors, including those focusing on data transport such as Rhythms
NetConnections Inc., Covad Communications Group, Inc., HarvardNet Inc., Dakota
Services Limited, Prism Solutions, Inc. and Network Access Solutions
Corporation, have begun to offer DSL-based access services, and others are
likely to do so in the future. Certain of our customers have made investments in
our competitors, which may enhance their relationships with these competitors at
our expense. The Telecommunications Act of 1996 specifically grants any
competitive local exchange carrier, or competitive telecommunications company,
the right to negotiate interconnection agreements with traditional telephone
companies, or incumbent local exchange carriers. The Telecommunications Act also
allows competitive telecommunications companies to enter into interconnection
agreements which are identical in all respects to ours. In addition, some
competitive telecommunications companies have extensive fiber networks in many
metropolitan areas primarily providing high speed digital and voice circuits to
large corporations, and have interconnection agreements with traditional
telephone companies pursuant to which they have acquired space in traditional
telephone companies' central offices in many of our markets. As a result, our
customers may contract with other competitive telecommunications companies,
which may decrease our customers' demand for our services.
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Traditional Telephone Companies With Greater Resources Than Ours May
Directly Compete in Our Markets. The traditional telephone companies have an
established brand name and reputation for high quality in their service areas,
possess significant capital to deploy DSL equipment rapidly, have their own
copper lines and can bundle digital data services with their existing analog
voice services to achieve economies of scale in serving customers. In addition,
most traditional telephone companies have established or are establishing their
own Internet service provider businesses, and all of the largest traditional
telephone companies that are present in our target markets are conducting market
trials of or have commenced offering DSL-based access services. For example,
Pacific Bell and Southwestern Bell are offering commercial services in some
territories in which we offer services, US WEST is offering commercial DSL
services and Ameritech has announced commercial DSL services in some areas of
Michigan and Illinois. We recognize that the traditional telephone companies
have the potential to quickly deploy DSL services and are in a position to offer
service from central offices where we may be unable to secure space in
traditional telephone companies' central offices. In addition, the FCC is
considering establishing requirements for separate subsidiaries through which
the traditional telephone companies could provide DSL service on a largely
deregulated basis. As a result, we expect traditional telephone companies to be
strong competitors in each of our target markets.
National Long Distance Carriers May Begin to Compete for Our Small- and
Medium-Sized Business Customers. Many of the leading traditional national long
distance carriers, including MCI WorldCom, Inc., AT&T Corp. and Sprint
Corporation, are expanding their capabilities to support high speed, end-to-end
data networking services. They also have interconnection agreements with many of
the traditional telephone companies and a number of spaces in traditional
telephone companies' central offices from which they could begin to offer
competitive DSL services. The newer national long distance carriers, such as
Level 3 Communications, Inc., The Williams Companies, Inc., IXC Communications,
Inc. and Qwest Communications International, Inc. are building and managing high
speed fiber-based national data networks and partnering with Internet service
providers to offer services directly to the public. These companies could modify
their current business focus to include small- and medium-sized business
customers using DSL or other technologies in combination with their current
fiber networks.
Cable Modem Service Providers May Offer High Speed Internet Access at More
Competitive Rates Than Ours, Forcing Us to Lower Our Prices. Cable modem service
providers, such as At Home Corporation and Road Runner, Inc. (with their cable
partners), are deploying high speed internet access services over hybrid fiber
coaxial cable networks. Where deployed, these networks provide similar and in
some cases higher speed Internet access than we provide. They also offer these
services at lower price points than our services. Actual or prospective cable
modem service provider competition may have a significant negative effect on our
ability to secure customers and may create downward pressure on the prices we
can charge for our services.
Internet Service Providers, Our Targeted Customers, May Begin to Provide
DSL Services Directly. Internet service providers, such as GTE Internetworking,
UUNET (a subsidiary of MCI WorldCom, Inc.), Sprint, Concentric Network
Corporation, MindSpring Enterprises, Inc. and PSINet, Inc., provide Internet
access to residential and business customers, generally using the existing
telephone system. Some regional Internet service providers, such as HarvardNet
Inc., InterAccess Co., Vitts Networks Inc. and Prism Solutions, Inc., have begun
offering DSL-based services. Internet service providers could become competing
DSL service providers if they attain certification as competitive
telecommunications companies in the states in which they planned to operate.
On-line Service Providers, Our Targeted Customers, May Begin to Provide DSL
Services Directly. On-line service providers, such as America Online, Inc.,
Compuserve (a subsidiary of America Online), Microsoft Network, Prodigy, Inc.,
and WebTV Networks, Inc. (a subsidiary of Microsoft), provide, over the Internet
and on proprietary on-line services, content and applications ranging from news
and sports to consumer video conferencing. These services are designed for broad
consumer access over telecommunications-based transmission media, which enable
digital services to be provided to the significant number of consumers who have
personal computers with modems. In addition, on-line service providers provide
Internet connectivity, ease-of-use and consistency of environment. Many of these
on-line service providers have developed their own access networks for modem
connections. AOL has announced that it will purchase DSL services from Bell
Atlantic and SBC Communications. If these on-line service providers were to
extend their owned access networks to DSL, they would be our competitors.
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Wireless and Satellite Data Service Providers May Begin to Offer Wireless
and Satellite-Based Internet Connectivity, Also Competing Against Us. Wireless
and satellite data service providers are developing wireless and satellite-based
Internet connectivity. We may face competition from terrestrial wireless
services, including multi-channel multipoint distribution system, local
multipoint distribution system, wireless communication service and point-to-
point microwave systems. The FCC recently adopted new rules to permit multi-
channel multipoint distribution system licensees to use their systems to offer
two-way services, including high speed data, rather than solely to provide one-
way video services. The FCC also has auctioned local multipoint distribution
system licenses in all markets for wireless systems, which can be used for high
speed data services. In addition, companies such as Teligent, Inc., Advanced
Radio Telecom Corp., WNP (which recently agreed to be acquired by NEXTLINK) and
WinStar Communications, Inc. hold point-to-point and/or point-to-multipoint
microwave licenses to provide fixed wireless services such as voice, data and
video conferencing.
We also may face competition from satellite-based systems. Motorola
Satellite Systems, Inc., Hughes Communications, Inc. (a subsidiary of General
Motors Corporation), Teledesic LLC and others have filed applications with the
FCC for global satellite networks which can be used to provide broadband voice
and data services.
In January 1997, the FCC allocated 300 MHz of spectrum in the 5 GHz band
for unlicensed devices to provide short-range, high speed wireless digital
communications. These frequencies must be shared with incumbent users without
causing interference. Although the allocation is designed to facilitate the
creation of new wireless local area networks, it is too early to predict what
kind of equipment might ultimately be manufactured and for what purposes it
might be used.
The telecommunications industry is subject to rapid and significant changes
in technology, and we cannot predict the effect of technological changes on our
business, such as continuing developments in DSL technology and alternative
technologies for providing high speed data communications. These technological
developments in the telecommunications industry could have a material adverse
effect on our competitive position and therefore on our business, prospects,
financial condition and results of operations.
Industry Consolidation Could Make Competing More Difficult
Consolidation of companies offering high speed local data transport is
occurring through acquisitions, joint ventures and licensing arrangements
involving our competitors and our customers' competitors. As a company with
limited operating history, we cannot assure that we will be able to compete
successfully in an increasingly consolidated industry. Any heightened
competitive pressures that we may face may have a material adverse effect on our
business, prospects, financial condition and results of operations.
Additionally, because we rely on our customers' marketing channels to provide
our services to business and residential end users, if our customers are
adversely affected by consolidation and integration in the market, our business,
prospects, financial condition and results of operations could be materially
adversely affected.
Our Services are Subject to Uncertain Government Regulation, and Changes in
Current or Future Laws or Regulations Could Restrict the Way We Operate Our
Business
We are subject to federal, state and local regulation of our
telecommunications business. With the passage of the Telecommunications Act in
1996, Congress sought to foster competition in the telecommunications industry
and to promote the deployment of advanced telecommunications technology.
Implementation of the Telecommunications Act is the subject of ongoing
administrative proceedings at the federal and state levels, litigation in
federal and state courts, and legislation in federal and state legislatures. We
cannot predict the outcome of the various proceedings, litigation and
legislation or whether or to what extent these proceedings, litigation and
legislation may adversely affect our business and operations.
As a competitive telecommunications company, we are subject to FCC
regulation for our contractual, or interconnection, arrangements with the
traditional telephone companies, or incumbent local exchange carriers, in our
markets, but the scope of this regulation is uncertain because it is the subject
of ongoing court and administrative proceedings. Several parties have brought
court challenges to the FCC's interconnection rules, including the rules that
24
<PAGE>
establish the terms under which a competitive telecommunications company may use
portions of a traditional telephone company's network. Although the Supreme
Court recently held that the FCC has the authority to adopt interconnection
rules and specifically upheld several of these rules, other rules are still
being considered by the courts. If a rule that is beneficial to our business is
struck down, it could harm our ability to compete. In particular, the courts
have not yet resolved the lawfulness of the methodology that the FCC established
to determine the price that competitive telecommunications companies would have
to pay traditional telephone companies for use of the traditional telephone
companies' networks. The courts may determine that the FCC's pricing rules are
unlawful, which would require the FCC to establish a new pricing methodology. If
this occurs, the new pricing methodology that the FCC adopts may result in our
having to pay a higher price to traditional telephone companies if we were to
use a portion of their networks in providing our services, and this could have a
detrimental effect on our business.
Although the Supreme Court upheld most of the FCC's rules that the Court
reviewed, it struck down the rule specifying the various portions of the
traditional telephone companies' networks that the traditional telephone
companies were required to make available to competitive telecommunications
companies. As a result, the FCC will have to develop a new standard for
determining which portions of the traditional telephone companies' networks must
be made available to competitive telecommunications companies. This new standard
may reduce the number of network components to which competitive
telecommunications companies will have access. If this occurs, this may harm our
ability to compete.
Recently, various traditional telephone companies have requested the FCC
grant them regulatory relief in the provision of data transmission services,
including DSL services, which would allow the traditional telephone companies to
compete more directly with DSL providers such as NorthPoint. In response, the
FCC issued a decision that data services generally are telecommunications
services that, when provided by traditional telephone companies, are subject to
the FCC's interconnection rules, including the rule requiring that a traditional
telephone company's data services be subject to unbundling and resale
requirements. This issue is still pending before the FCC, and we cannot be
certain that the FCC will not reconsider its decision. Moreover, although the
FCC recently adopted new rules designed to provide greater access to central
office space at less cost, these new rules may benefit our competitors to a
greater extent than they benefit us, which could harm our competitiveness.
Additionally, since the FCC issued its decision, various traditional telephone
companies have again asked the FCC for regulatory relief with respect to their
provision of data transmission services. The FCC has not yet resolved these
later requests. We would expect that an FCC decision in favor of the traditional
telephone companies could have a material adverse effect on our business,
prospects, financial condition and results of operations.
Our Debt Creates Financial and Operating Risk That Could Limit the Growth of Our
Business
As of September 30, 1999, we had approximately $53,950,000 of indebtedness
and $380,110,000 of stockholders' equity.
The degree to which we are leveraged could have important consequences to
holders of our common stock, including, but not limited to, the following:
. our ability to obtain additional financing or refinancing in the future
for capital expenditures, repayment of outstanding indebtedness,
working capital, acquisitions, general corporate or other purposes may
be materially limited or impaired;
. our cash flow, if any, may be unavailable for building our business, as
a substantial portion of our cash flow may be dedicated to the payment
of principal and interest on our indebtedness or other indebtedness
that we may incur in the future, and our failure to generate sufficient
cash flow to service such indebtedness could result in a default;
. our debt agreements will contain restrictions and financial covenants
which, if we fail to meet them, could result in our indebtedness being
declared due prematurely, at a time when we could not make the required
payments;
. our leverage may make us more vulnerable to economic downturns, may
limit our ability to withstand competitive pressures and may reduce our
flexibility in responding to changing business and economic conditions;
and
25
<PAGE>
. we may from time to time be more highly leveraged than many of our
competitors, which may place us at a competitive disadvantage.
We Rely on Our Intellectual Property Which We May Be Unable to Protect, or We
May Be Found to Infringe the Rights of Others
Our success depends in part on our ability to protect our proprietary
intellectual property. In addition, we may be sued over intellectual property
rights. These lawsuits, or our inability to protect our intellectual property
rights, could have a material adverse effect on our business, prospects,
financial condition and results of operations.
In April 1999 we received a letter from one of our competitors, Covad
Communications Group, Inc., indicating that it has been informed of allowance of
a United States patent application. This means that Covad can expect a United
States patent will issue in the near future. According to Covad's letter, their
patent application relates to digital subscriber loop implementations supporting
(a) a bandwidth of 128 kbps or 144 kbps combined with (b) a bandwidth greater
than 128 or 144 kbps. Although the Covad letter quoted an allegedly allowed
patent claim, the allowed patent application remains secret until issuance of
the patent, and we have no other pertinent information about this patent
application. To our knowledge, the patent has not been issued. As a result, we
are unable to evaluate fully the validity or relevance of this patent
application. If the patent application results in an issued patent that is
valid, and if we infringe this patent, we could be required to obtain a license
under the patent. While Covad has indicated that we may be interested in
obtaining a license from them at the appropriate time, we cannot be certain that
such a license, if needed, would be available on commercially acceptable terms
if at all. If our services or portions of our services infringe a valid patent,
and if we are unwilling or unable to obtain a license, then we will be unable to
offer the infringing services. This could have a material adverse effect on our
business, prospects, financial condition and results of operations.
A System Failure or Breach of Network Security Could Delay or Interrupt Service
to Our Customers
The reliability of our transmission services in our markets would be
impaired by a natural disaster or other unanticipated interruption of service or
damage at any of our facilities. Additionally, failure of a traditional
telephone company or other service provider to provide communications capacity
required by us, as a result of a natural disaster, operational disruption or for
any other reason, could cause interruptions in our services. Damage or failure
that causes interruptions in our services could have a material adverse effect
on our business, prospects, financial condition and results of operations.
Our network may be vulnerable to unauthorized access, computer viruses and
other disruptive problems. Unauthorized access could also potentially jeopardize
the security of confidential information stored in the computer systems of our
customers, which might result in liability to our customers, and also might
deter potential customers. Although we intend to implement security measures
that are standard within the telecommunications industry, we may be unable to
implement such measures in a timely manner or, if and when implemented, our
security measures may be circumvented. Eliminating computer viruses and
alleviating other security problems may require interruptions, delays or
cessation of service to our customers and these customers' end users. Any of the
foregoing factors relating to network security could have a material adverse
effect on our business, prospects, financial condition and results of
operations.
Our Business Could Suffer From a Reduction or Interruption From Our Equipment
Suppliers or Other Third Parties On Whom We Rely for Installation and Provision
of Field Service
We plan to purchase all of our equipment from various vendors and outsource
the installation and field service of our networks to third parties. We also
depend on the availability of fiber optic transmission facilities from third
parties to connect our equipment within and between metropolitan areas. Any
reduction of or interruption from our equipment suppliers, such as Copper
Mountain Network, Inc., from which we purchase most of our digital subscriber
line access equipment, or interruption in service from any significant installer
or field service provider, such as Lucent Technologies, Inc., which has
installed and maintained our equipment in all of our markets, could have a
disruptive effect on our business, prospects, financial condition and results of
operations.
26
<PAGE>
In addition, the pricing of the equipment we purchase may substantially
increase over time, increasing the costs we pay in the future, or decrease over
time, providing later market entrants with a cost advantage over us. The
availability and pricing of the equipment we purchase would be adversely
affected if our suppliers were to compete with us, or if our competitors enter
into exclusive or restrictive arrangements with our suppliers. It could take a
significant period of time to establish relationships with alternative suppliers
for each of our technologies and substitute their technologies into our network.
Uncertain Federal and State Tax and Other Surcharges on Our Services May
Increase Our Payment Obligations
Telecommunications providers are subject to a variety of complex federal
and state surcharges and fees on their gross revenues from interstate and
intrastate services, including regulatory fees, and surcharges related to the
support of universal service. A finding that we misjudged the applicability of
the surcharges and fees could increase our payment obligations and have a
material adverse effect on our business, prospects, financial condition and
results of operations.
Claims of Interference Could Harm Our Ability to Deploy Our Services
Certain technical laboratory tests and field experience indicate that some
types of DSL, in particular, asymmetrical DSL--in which data transport to the
end user is faster than transport from the end user--may cause interference with
and be interfered with by other signals present in a traditional telephone
company copper plant. Citing this potential interference, some traditional
telephone companies have imposed restrictions on the use of asymmetrical DSL
technology over their copper lines. However, we do not believe that our
symmetrical DSL technology equipment, which permits the same speed of data
transport to and from the end user, poses interference risks. If traditional
telephone companies were to restrict our use of our technology or equipment in
the future, our business, prospects, financial condition and results of
operations could be materially adversely affected.
Our Stock Price May Be Volatile
The trading price of our common stock has been and is likely to continue to
be highly volatile. Our stock price is likely to be volatile and may fluctuate
substantially due to factors such as:
. our historical and anticipated quarterly and annual operating results;
. variations between our actual results and analyst and investor
expectations;
. announcements by us or others and developments affecting our business;
. investor perceptions of our company and comparable public companies; and
. conditions and trends in the data communications and Internet-related
industries.
In particular, the stock market has from time to time experienced
significant price and volume fluctuations affecting the common stocks of
technology companies, which may include data communications and Internet-related
companies. These fluctuations may result in a material decline in the market
price of our common stock.
The Sale of Shares or the Perception of Future Sales Could Depress Our Stock
Price
Sales of a large number of shares of common stock in the market or the
perception that sales may occur could cause the market price of our common stock
to drop. As of November 1, 1999, we have 123,015,892 shares of common stock and
2,466,724 shares of Class B common stock outstanding. Of these common shares,
approximately 83,056,917 shares are freely tradeable, except for any such shares
held at any time by an "affiliate" of NorthPoint, as defined under Rule 144
under the Securities Act. Of the remaining shares, approximately 51% are
"restricted securities" as defined in Rule 144 under the Securities Act. These
shares may be sold in the future without registration under the Securities Act
to the extent permitted by Rule 144 or an exemption under the Securities Act.
27
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Our Principal Stockholders and Management Own a Significant Percentage of
NorthPoint, and Will Be Able to Exercise Significant Influence
Our executive officers and directors and principal stockholders together
beneficially own approximately 81% of our common stock. These stockholders, if
they vote together, will be able to exercise significant influence over all
matters requiring stockholder approval, including the election of directors and
approval of significant corporate transactions. This concentration of ownership
may also delay or prevent a change in control of NorthPoint.
Our Certificate of Incorporation and Bylaws Contain Provisions That Could Delay
or Prevent a Change In Control of NorthPoint
Certain provisions of our certificate of incorporation and bylaws could
make it more difficult for a third party to acquire control of NorthPoint, even
if a change in control would be beneficial to stockholders. Our certificate of
incorporation allows our board of directors to issue, without stockholder
approval, preferred stock with terms set by the board of directors. The
preferred stock could be issued quickly with terms that delay or prevent a
change in control of NorthPoint or make removal of management more difficult.
Also, the issuance of preferred stock may cause the market price of the common
stock to decrease.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
We are currently exposed to the impact of interest rate changes and changes
in market values of investments through our investment portfolio. Our principal
exposure to financial market fluctuations relates to our secured credit
facility, which is floating rate debt. We have capped our interest rate exposure
as required by the terms of our secured credit facility. We do not believe a
hypothetical 10% adverse rate change in our variable rate debt obligations would
be material to our results of operations.
We believe our market risk exposure with regard to marketable debt
securities in our investment portfolio is limited to changes in quoted market
prices for such securities. Based upon the composition of our marketable debt
securities at September 30, 1999, we do not believe a hypothetical 10% adverse
change in quoted market prices would be material to our results of operations.
28
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS.
We are not currently involved in any pending legal proceedings that
individually, or in the aggregate, are material to us.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS.
(d) Report of Offering of Securities and Use of Proceeds Therefrom:
In May 1999, we commenced and completed a firm commitment underwritten
initial public offering of 17,250,000 shares of our common stock, including
2,250,000 shares related to the underwriters' overallotment option, at a price
of $24.00 per share. The shares were registered with the Securities and Exchange
Commission pursuant to a Registration Statement on Form S-1 (File No. 333-
73065), which was declared effective on May 5, 1999. The public offering was
underwritten by a syndicate of underwriters led by Goldman, Sachs & Co., Morgan
Stanley Dean Witter and Credit Suisse First Boston as their representatives.
After deducting underwriting discounts and commissions of $25,500,000 and
expenses of $2,000,000, we received net proceeds of $386,500,000.
As of September 30, 1999, we had invested the net proceeds from our initial
public offering in short-term investments in order to meet anticipated cash
needs for future working capital. We invested our available cash principally in
high- quality corporate issuers and in debt instruments of the U.S. government
and its agencies. The use of proceeds from the offering does not represent a
material change in the use of proceeds described in our Registration Statement
on Form S- 1, as amended (File No. 333-73065). None of the net proceeds of the
offering were paid directly or indirectly to any director or officer of
NorthPoint Communications Group, Inc., persons owning 10% or more of any class
of our equity securities or any of our affiliates.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES.
None.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
ITEM 5. OTHER INFORMATION.
None.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K.
(a) Exhibits:
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The following exhibits are included as part of this Report:
Exhibit
No. Description of Exhibit
------- ----------------------
27.1 Financial Data Schedule for the three months ended September 30,
1999.
(b) Reports on Form 8-K:
None.
30
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized.
NORTHPOINT COMMUNICATIONS GROUP, INC.
Registrant
Dated: November 15, 1999 By: /s/ Michael W. Malaga
-------------------------------
Michael W. Malaga
Chairman of the Board and
Chief Executive Officer
Dated: November 15, 1999 By: /s/ Henry P. Huff
-------------------------------
Henry P. Huff
Chief Financial Officer
31
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