SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Under Section 13 or 15(d)
of the Securities Exchange Act of 1934
For Quarter Ended September 30, 1998
Commission File Number 1-4929
COMSAT CORPORATION
6560 Rock Spring Drive
Bethesda, MD 20817
(301) 214-3000
District of Columbia 52-0781863
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
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 twelve (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 ninety (90)
days. Yes [X] No [ ]
52,535,109 shares of the Registrant's common stock were outstanding as of
September 30, 1998.
<PAGE>
PART I. FINANCIAL INFORMATION
ITEM 1. INTERIM FINANCIAL STATEMENTS FOR THE CORPORATION (UNAUDITED)
COMSAT CORPORATION AND SUBSIDIARIES
Condensed Consolidated Income Statements
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Three Months Ended September 30, Nine Months Ended September 30,
-------------------------------- -------------------------------
In thousands, except per share amounts 1998 1997 1998 1997
- -------------------------------------------------------------------------------------------------------------------------------
REVENUES $ 158,415 $ 145,332 $ 454,177 $ 421,300
----------- ----------- ---------- -----------
Operating expenses:
Cost of services 73,853 72,677 205,727 197,382
Depreciation and amortization 56,676 47,222 163,727 135,531
Research and development 1,713 2,381 6,060 6,175
General and administrative 6,296 5,399 18,148 17,996
Impairment of long-lived assets 14,000 - 14,000 -
Merger costs 3,500 - 3,500 -
----------- ----------- --------- -----------
Total operating expenses 156,038 127,679 411,162 357,084
----------- ----------- ---------- -----------
OPERATING INCOME 2,377 17,653 43,015 64,216
Other income (expense), net (1,021) 7,140 (4,861) 7,866
Interest expense, net of amounts capitalized (6,088) (11,190) (30,144) (31,028)
----------- ----------- ---------- -----------
Income (loss) from continuing operations before taxes and
extraordinary item (4,732) 13,603 8,010 41,054
Income tax benefit (expense) 11,301 (4,208) 6,483 (14,462)
----------- ----------- ---------- -----------
INCOME FROM CONTINUING OPERATIONS BEFORE EXTRAORDINARY ITEM 6,569 9,395 14,493 26,592
Loss from discontinued operations, net of tax - (30,207) - (59,068)
----------- ----------- ---------- -----------
Income (loss) before extraordinary item 6,569 (20,812) 14,493 (32,476)
Extraordinary loss from early extinguishment of debt
(net of tax) - - - (3,946)
----------- ----------- ---------- -----------
NET INCOME (LOSS) $ 6,569 $ (20,812) $ 14,493 $ (36,422)
=========== =========== ========== ===========
EARNINGS (LOSS) PER COMMON SHARE - BASIC:
Income from continuing operations before
extraordinary item $ 0.13 $ 0.19 $ 0.28 $ 0.55
Loss from discontinued operations - (0.61) - (1.22)
Extraordinary loss - - - (0.08)
----------- ----------- ---------- -----------
Net income (loss) $ 0.13 $ (0.42) $ 0.28 $ (0.75)
=========== =========== ========== ===========
EARNINGS (LOSS) PER COMMON SHARE - ASSUMING DILUTION:
Income from continuing operations before
extraordinary item $ 0.12 $ 0.19 $ 0.27 $ 0.53
Loss from discontinued operations - (0.60) - (1.19)
Extraordinary loss - - - (0.08)
----------- ----------- ---------- -----------
Net income (loss) $ 0.12 $ (0.41) $ 0.27 $ (0.74)
=========== =========== ========== ===========
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
2
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<PAGE>
COMSAT CORPORATION AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
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September 30, December 31,
In thousands 1998 1997
- --------------------------------------------------------------------------------------------------------------
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 11,205 $ 5,757
Receivables 138,047 147,621
Other 50,104 22,387
Net assets of discontinued operations - 142,484
------------ ------------
Total current assets 199,356 318,249
------------ ------------
Property and equipment (net of accumulated depreciation
of $1,317,688 in 1998 and $1,161,242 in 1997) 1,373,367 1,359,293
Investments 100,682 91,543
Other assets 141,571 125,690
------------ ------------
TOTAL ASSETS $ 1,814,976 $ 1,894,775
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Current maturities of long-term debt $ 13,785 $ 13,785
Commercial paper 11,117 149,506
Accounts payable and accrued liabilities 90,670 89,772
Due to related parties 28,734 34,664
Other 13,740 8,919
------------ ------------
Total current liabilities 158,046 296,646
------------ ------------
Long-term debt 451,587 461,960
Deferred income taxes and investment tax credits 125,289 121,749
Accrued post-retirement benefit costs 49,032 49,246
Other long-term liabilities 180,778 178,903
Preferred securities issued by subsidiary 200,000 200,000
STOCKHOLDERS' EQUITY:
Common stock 427,204 366,901
Retained earnings 233,380 226,785
Treasury stock (2,905) (1,758)
Unearned compensation (5,004) (4,739)
Accumulated other comprehensive loss (2,431) (918)
Total stockholders' equity 650,244 586,271
------------ ------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 1,814,976 $ 1,894,775
============ ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
3
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<PAGE>
COMSAT CORPORATION AND SUBSIDIARIES
Condensed Consolidated Cash Flow Statements
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Nine Months Ended September 30,
-------------------------------
In thousands 1998 1997
- ------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ 14,493 $ (36,422)
Adjustments to reconcile net income (loss) to cash flow of
continuing operations:
Depreciation and amortization 163,727 135,531
Impairment loss and write-off of investment 15,950 -
Extraordinary loss from early extinguishment of debt - 3,946
Loss from discontinued operations - 59,068
Changes in operating assets and liabilities 7,970 (26,890)
Other (232) 5,379
----------- ------------
Net cash provided by continuing operations 201,908 140,612
Net cash provided (used) by discontinued operations 105,292 (27,690)
----------- ------------
Net cash provided by operating activities 307,200 112,922
----------- ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of property and equipment (194,260) (191,585)
Investments in unconsolidated businesses (6,634) (9,831)
Proceeds from sale of investments 1,700 9,060
Proceeds from note on sale of investment - 15,655
Decrease (increase) in INTELSAT ownership (722) 23,024
Decrease in Inmarsat ownership 5,910 -
Proceeds from sale of land, net - 9,293
Other 3,800 (4,254)
----------- ------------
Net cash used in investing activities (190,206) (148,638)
----------- ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Common stock issued 44,278 12,605
Cash dividends paid (7,769) (14,476)
Repayment/extinguishment of long-term debt (9,549) (110,952)
Net short-term borrowings (repayments) (138,506) 117,634
Proceeds from sale-leaseback financing, net - 34,343
Other - (3,736)
----------- ------------
Net cash provided (used) by financing activities (111,546) 35,418
----------- ------------
Net increase (decrease) in cash and cash equivalents 5,448 (298)
Cash and cash equivalents, beginning of period 5,757 7,659
----------- ------------
Cash and cash equivalents, end of period $ 11,205 $ 7,361
=========== ============
THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE FINANCIAL STATEMENTS.
4
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<PAGE>
COMSAT CORPORATION AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (Unaudited)
1. FINANCIAL STATEMENT PRESENTATION
The accompanying unaudited condensed consolidated financial statements
have been prepared by COMSAT Corporation (COMSAT or the corporation)
pursuant to the rules and regulations of the Securities and Exchange
Commission (the SEC). These financial statements should be read in the
context of the financial statements and notes thereto filed with the
SEC in the corporation's 1997 Annual Report on Form 10-K. Certain
information and footnote disclosures normally included in financial
statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted. The accompanying condensed
consolidated financial statements reflect all adjustments and
disclosures which, in the opinion of management, are necessary for a
fair presentation. All such adjustments are of a normal recurring
nature. The results of operations for the interim periods are not
necessarily indicative of the results of the entire year.
2. AGREEMENT AND PLAN OF MERGER WITH LOCKHEED MARTIN CORPORATION
COMSAT, Lockheed Martin Corporation (Lockheed Martin) and Deneb
Corporation, a wholly-owned subsidiary of Lockheed Martin, entered
into an Agreement and Plan of Merger (the Merger Agreement) on
September 18, 1998. Under the terms of the Merger Agreement, Lockheed
Martin will acquire all of the outstanding common stock of COMSAT in a
two-step transaction. See "Management's Discussion and Analysis --
Outlook" below. In connection with the transaction, the corporation
incurred costs of $3.5 million in the third quarter for investment
banking and other professional services.
3. DISCONTINUED OPERATIONS
The corporation began accounting for Ascent Entertainment Group, Inc.
(Ascent), its former entertainment subsidiary, and substantially all
of the assets and operations of COMSAT RSI, Inc. (CRSI), its
manufacturing subsidiary, as discontinued operations in the second
quarter of 1997.
The income (loss) from discontinued operations, net of tax, for Ascent
and CRSI for the three and nine months ended September 30, 1997 is
summarized below:
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Period Ended September 30, 1997
In millions Three Months Nine Months
- ----------------------------------------------------------------------------------------------------------
CRSI $ (30.2) $ (30.0)
Ascent - (29.1)
----------- ------------
Total $ (30.2) $ (59.1)
=========== ============
5
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<PAGE>
COMSAT RSI, INC.
On February 25, 1998, the corporation sold substantially all of the
assets of JEFA Wireless Systems (JEFA), a wholly owned subsidiary of
CRSI engaged in the wireless communications integration and
intelligent transportation systems business, in a separate
transaction. Pursuant to the sale agreement, the corporation assigned
to the buyer its rights in certain contracts and made a payment of
$4.7 million, net of a working capital adjustment at closing.
On June 25, 1998, the corporation completed the sale of substantially
all of CRSI to a subsidiary of TBG Industries, Inc. for $116.5
million. After adjusting for changes in inter-company loans and
advances, COMSAT received cash proceeds of $111.9 million.
Certain of CRSI's assets were excluded from the sale, including
Electromechanical Systems, Incorporated (EMS) and CRSI's 53% ownership
interest in Plexsys International Corporation (Plexsys). Plexsys
ceased doing business on July 1, 1998. The corporation has written-off
its investment in Plexsys and certain amounts owed to it by Plexsys.
Such amounts were included in the corporation's 1997 loss from
discontinued operations. COMSAT also will retain and complete a
long-term construction contract for a radio astronomy telescope in
Green Bank, West Virginia.
Discontinued operations include management's best estimates of the
amounts expected to be realized on the sale of net assets, operating
results through anticipated disposal dates, facility closure costs and
the estimated costs to complete the long-term contract retained by the
corporation. The net assets excluded from the sale include
management's estimate of the amount to be realized from a $29 million
claim, which is currently in arbitration, for work performed on the
long-term construction cntract. These estimates could change as
additional costs are incurred to complete the disposals and the
long-term construction contract and upon resolution of the
arbitration.
The net assets excluded from the sale primarily consist of
receivables, fixed assets and accounts payable. At September 30, 1998,
such amounts are presented, net of discontinued operation reserves, in
other current assets ($12.7 million) and other assets ($7.7 million).
ASCENT ENTERTAINMENT GROUP, INC.
The corporation distributed its 80.67% interest in Ascent through a
tax-free dividend to shareholders on June 27, 1997. COMSAT
shareholders of record on June 19, 1997 received 0.4888 of a share of
Ascent common stock for each share of COMSAT common stock owned.
Ascent was accounted for as a discontinued operation beginning on May
15, 1997, the date on which the corporation's Board of Directors
adopted a formal plan to effect the distribution. The tax-free
dividend of approximately $195 million was recorded as a reduction of
COMSAT's consolidated retained earnings.
6
<PAGE>
4. CHANGE IN SATELLITE ACCOUNTING POLICIES
Effective January 1, 1998, the corporation changed its accounting
policy with respect to the cost of satellites lost at launch or in
orbit. Such costs will be expensed in the period in which the
satellite is lost at launch or experiences a total failure in orbit.
Previously, the costs of failed satellites were amortized over their
original useful lives. Partial in-orbit failures will be evaluated for
impairment according to the provisions of Statement of Financial
Accounting Standards (SFAS) No. 121, "Accounting for the Impairment of
Long-lived Assets to be Disposed of." Also effective January 1, 1998,
the corporation changed its accounting policy with respect to
satellite performance incentive payments paid to manufacturers to
capitalize the net present value of such costs as a component of the
cost of the satellite. Previously, certain of these payments were
expensed as paid. These changes did not have a material effect on the
corporation's financial statements.
5. SATELLITE INSURANCE PROCEEDS
The INTELSAT 801 satellite suffered a damaged solar array during
in-orbit testing following its launch in the first quarter of 1997.
While the damage suffered by the solar array has not diminished the
satellite's operational capability, engineering studies completed in
the first nine months of 1998 confirmed that the expected operational
life of the satellite has been shortened by 18.5%, from 10 years to
8.15 years. Based on this study and under the terms of its satellite
insurance policy, a claim was filed with the insurers seeking a
recovery equal to 18.5% of the satellite's cost. The corporation
received insurance proceeds of $8.0 million in the third quarter of
this year and, accordingly, reduced the book value of the satellite.
6. IMPAIRMENT OF LONG-LIVED ASSETS
In the third quarter of 1998, the corporation recorded a non-cash
impairment loss of $14.0 million ($0.26 per fully diluted share)
related to the write-down of the long-lived assets (goodwill and plant
and equipment) of BelCom, COMSAT International's company operating in
Russia and in the Newly Independent States (NIS). The corporation is
not able to recognize a tax benefit on the impairment loss, which is
reported as part of COMSAT International in the Network Services
segment.
In accordance with the corporation's accounting policy for evaluation
of long-lived assets, the corporation evaluates its long-lived assets
whenever events or circumstances indicate the carrying amount of an
asset may not be fully recoverable. Due to BelCom's deteriorating
performance and the economic conditions in Russia and the NIS,
management determined that the corporation's investment in BelCom
should be reduced. The carrying amount of BelCom's long-lived assets
was determined based on a discounted analysis of expected cash flows.
7
<PAGE>
7. TAX BENEFIT
The corporation favorably resolved a state tax audit for the years
1992 - 1996 that allowed the corporation to reverse previously accrued
interest costs of $1.7 million and state taxes of $2.2 million. After
federal taxes, the interest and state tax benefit increased net income
for the third quarter and year-to-date period by $2.6 million ($0.05
per fully diluted share).
In addition, the corporation reversed previously accrued interest
costs of $2.5 million and taxes of $15.1 million for the years 1990 -
1994 related to certain federal tax matters. Events during the third
quarter prompted the corporation to conclude that the amounts accrued
were no longer required. The interest and tax benefit increased net
income for the third quarter and year-to-date period by $16.6 million
($0.31 per fully diluted share).
8. COMPREHENSIVE INCOME
In January 1998, the corporation adopted SFAS No. 130, "Reporting
Comprehensive Income." SFAS No. 130 establishes standards for
reporting and the display of comprehensive income and its components
in the corporation's financial statements; however, the adoption of
this statement had no impact on the corporation's results of
operations or stockholders' equity. SFAS No. 130 requires minimum
pension liability adjustments, unrealized gains and losses on the
corporation's available-for-sale securities and foreign currency
translation adjustments, which prior to adoption were reported
separately in stockholders' equity, to be included in other
comprehensive income. Total comprehensive income (loss) for the three
and nine months ended September 30, 1998 and 1997 were:
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Three Months Ended September 30 Nine Months Ended September 30
-------------------------------- -------------------------------
In millions 1998 1997 1998 1997
- ---------------------------------------------------------------------------------------------------------------
Net income (loss) $ 6.6 $ (20.8) $ 14.5 $ (36.4)
Other comprehensive loss (12.8) (3.0) (1.5) (7.2)
----------- ---------- ----------- ----------
Total comprehensive income (loss) $ (6.2) $ (23.8) $ 13.0 $ (43.6)
=========== ========== =========== ==========
</TABLE>
Other comprehensive income (loss) includes changes in the unrealized
gain (loss) of available-for-sale securities, net of tax, of ($9.1)
million, $7.6 million, ($3.0) million and ($6.1) million for the three
and nine month periods ended September 30, 1998 and 1997,
respectively.
9. INTELSAT AND INMARSAT SHARE CHANGES
The corporation's 18.0% ownership share of INTELSAT is unchanged from
December 31, 1997.
The corporation's ownership share of Inmarsat decreased from 23.0% at
December 31, 1997 to 22.2% as of September 30, 1998. As a result of
the change in ownership, the corporation received a total of $5.9
million during the nine months ended September 30, 1998.
8
<PAGE>
10. INVESTMENTS
In March 1998, the corporation wrote off its $2.0 million ($1.3
million net of tax) investment in Superconducting Core Technologies,
Inc. (SCT). The non-cash charge is reported in Other income (expense),
net, on the condensed consolidated income statement.
11. REGULATORY ENVIRONMENT AND LITIGATION
REGULATORY ENVIRONMENT. Under the Communications Satellite Act of 1962
(the Satellite Act), the International Maritime Satellite Act of 1978
(the Inmarsat Act) and the Communications Act of 1934, as amended (the
Communications Act), COMSAT is subject to regulation by the Federal
Communications Commission (FCC) with respect to its capital and
organizational structure, and with respect to its COMSAT World Systems
(CWS) and COMSAT Mobile Communications (CMC) businesses. FCC decisions
and policies have had and will continue to have a significant impact
on the corporation.
In April 1998, the FCC granted the corporation's petition to be
deregulated and reclassified as a "non-dominant" telecommunications
carrier in the major markets of CWS. The FCC's decision eliminates
rate-of-return restrictions, structural separation regulation and
14-day advance tariff notification in regard to approximately 90% of
COMSAT's INTELSAT business. It also allows CWS to integrate earth
station and space segment services, requiring only that COMSAT list
those offerings separately in tariff filings at the FCC. The FCC
denied requests by major INTELSAT users to condition non-dominant
carrier status on the grant of direct access for users to INTELSAT
satellite capacity. The FCC concluded that COMSAT's long-term carrier
contracts do not impede competition; thus, such contracts would not be
subject to regulatory abrogation based on the so-called "fresh look"
doctrine. The FCC indicated, however, that it would begin a future
proceeding to consider direct access implications. That proceeding was
initiated by a Notice of Proposed Rulemaking issued in October 1998.
For a discussion of these matters refer to "Management's Discussion
and Analysis -- Outlook" section of the Form 10-Q and the description
of the corporation's "Business" and Notes 8 and 9 to the corporation's
1997 financial statements included as part of the corporation's 1997
Form 10-K.
LITIGATION. COMSAT and its subsidiaries are a party to various
lawsuits and arbitration proceedings and are subject to various claims
and inquiries, which generally are incidental to the ordinary course
of its business. The outcome of legal proceedings cannot be predicted
with certainty. Based on currently available information, however,
management does not believe that the outcome of any matter which is
pending or threatened, either individually or in the aggregate, will
have a materially adverse affect on the consolidated financial
condition of the corporation but could materially effect consolidated
results of operations in a given year or quarter. Certain of those
matters are discussed in Notes 8 and 9 to the corporation's 1997
financial statements included as part of the corporation's 1997 Form
10-K and "Item 1 - Legal Proceedings" of Part II of the March 31, 1998
Form 10-Q.
9
<PAGE>
12. EARNINGS PER SHARE
The following reconciliation illustrates the calculation of the
corporation's basic and diluted earnings per share amounts for the
three and nine month periods ended September 30, 1998 and 1997:
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Three Months Ended September 30, Nine Months Ended September 30,
In millions, except per share amounts 1998 1997 1998 1997
- --------------------------------------------------------------------------------------------------------------
Income from continuing operations
before extraordinary item $ 6.6 $ 9.4 $ 14.5 $ 26.6
========== ========== ========== ==========
Basic:
Weighted average shares 52.1 49.1 51.5 48.8
=========== ========== ========== ==========
Per share $ 0.13 $ 0.19 $ 0.28 $ 0.55
=========== ========== ========== ==========
Assuming dilution:
Weighted average shares 52.1 49.1 51.5 48.8
Stock options 1.1 1.1 1.5 0.8
Restricted stock awards and units 0.1 0.2 0.1 0.2
----------- ---------- ---------- ----------
Total 53.3 50.4 53.1 49.8
=========== ========== ========== ==========
Per share $ 0.12 $ 0.19 $ 0.27 $ 0.53
=========== ========== ========== ==========
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13. NEW ACCOUNTING PRONOUNCEMENTS
In June 1997, the Financial Accounting Standards Board (FASB) issued
SFAS No. 131, "Disclosures about Segments of an Enterprise and Related
Information" and in February 1998, issued SFAS No. 132, "Employers'
Disclosures about Pensions and Other Postretirement Benefits." SFAS
No. 131 establishes standards for the way public business enterprises
report information about operating segments and the related
disclosures about products and services, geographic areas and major
customers. SFAS No. 132 requires revised disclosures about pension and
post-retirement benefit plans. Adoption of SFAS No. 132 is not
expected to have a material effect on the corporation's presentation
of pension and post-retirement benefit disclosures. In light of the
April 1998 developments in the corporation's regulatory environment
(see Note 7 and the "Management's Discussion and Analysis -- Outlook"
section of the Form 10-Q), the corporation is evaluating the effect of
implementing SFAS No. 131 on its presentation of operating segments
and related disclosures. The corporation will adopt SFAS Nos. 131 and
132 in the fourth quarter of 1998.
In June 1998, the Financial Accounting Standards Board issued SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities."
The statement requires companies to recognize all derivatives as
either assets or liabilities, with the instruments measured at fair
value. The accounting for changes in fair value and gains or losses
depends on the intended use of the derivative and its resulting
designation. The statement is effective for fiscal years beginning
after June 15, 1999. The corporation will adopt SFAS No. 133 in the
first quarter of 2000. The corporation is evaluating the impact that
implementation of SFAS No. 133 will have on its consolidated financial
statements.
10
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14. NOTE RECEIVABLE
In January 1997, the corporation sold its 19.66% interest in
Philippine Global Communications, Inc. (PhilCom) for cash and a
collaterized note receivable totaling $32.6 million. At December 31,
1997, the remaining note receivable balance of $12.7 million was to be
paid in two payments during 1998. In the third quarter of 1998, the
note was amended so that the balance would be paid in installments
with interest through June 2000. The corporation received a payment of
$1.0 million in August 1998. The non-current portion of the note is
reported in other assets.
11
<PAGE>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS FOR THE QUARTER ENDED SEPTEMBER 30, 1998
ANALYSIS OF OPERATIONS
CONSOLIDATED OPERATIONS
- -----------------------
CONTINUING OPERATIONS
Consolidated revenues from continuing operations in the third quarter
and first nine months of 1998 were $158.4 million and $454.2 million,
respectively, which were $13.1 million and $32.9 million better than the
same periods in 1997. The higher revenues were primarily the result of
improvements in Network Services segment revenues.
Operating income for the third quarter and year-to-date was $2.4
million and $43.0 million, respectively, which was $15.3 million and $21.2
million below the comparative periods of last year. The third quarter
results included costs of $3.5 million related to the proposed merger with
Lockheed Martin Corporation and a $14.0 million write-down of BelCom,
COMSAT International's (CI) investment in Russia and the Newly Independent
States (NIS). See Notes 2 and 6 to the financial statements, respectively.
Other income (expense), net, for the third quarter was a net expense
of $1.0 million, compared with a net income of $7.1 million in the third
quarter of 1997. For the first nine months of 1998, other income (expense)
was a net expense of $4.9 million versus income of $7.9 million for the
same period last year. During the third quarter of 1997, the corporation
recorded a $7.3 million gain from the sale of land in Clarksburg, Maryland.
In addition, the year-to-date 1997 results included a currency gain
recorded in the first quarter related to the sale of an equity investment
and a gain in the second quarter from the sale of an equity investment. The
year-to-date 1998 results included the first quarter 1998 non-cash
write-off of the corporation's $2.0 million investment in Superconducting
Core Technologies, Inc. See Note 10 to the financial statements.
Interest expense, net of amounts capitalized for the third quarter and
first nine months of 1998, was $6.1 million and $30.1 million,
respectively, compared to $11.2 million and $31.0 million for the same
periods of 1997. The decrease was due to the reversal of $4.2 million of
previously accrued interest costs (discussed below in income tax benefit),
lower borrowings as a result of the use of the proceeds of the CRSI sale to
reduce debt, and lower amounts of capitalized interest due to the
completion of satellites under construction.
Income tax benefit for the third quarter and year-to-date was $11.3
million and $6.5 million, which compares to income tax expense of $4.2
million and $14.5 million for the same periods of 1997. In the third
quarter of 1998, the corporation favorably resolved a state tax audit and,
accordingly, reversed previously accrued interest costs of $1.7 million and
state income taxes of $2.2 million. In addition, events during the third
quarter led the corporation to determine that previously accrued interest
costs of $2.5 million and federal income taxes of $15.1 million related to
certain federal tax matters were no longer required. See Note 7 to the
financial statements.
12
<PAGE>
Income from continuing operations before extraordinary item for the
third quarter and year-to-date was $6.6 million and $14.5 million,
respectively, $2.8 million and $12.1 million below the same periods of last
year.
Basic earnings per share for continuing operations for the third
quarter were $0.13 and for the first nine months of 1998 were $0.28, which
were $0.06 and $0.27 below the comparative periods of 1997. Diluted
earnings per share for continuing operations were $0.12 for the third
quarter and $0.27 year-to-date, which were $0.07 and $0.26 below the same
periods of last year.
During the first nine months of 1997, the corporation repurchased $100
million of its long-term debt. This early extinguishment of debt resulted
in an extraordinary loss in 1997 of $3.9 million, net of tax.
DISCONTINUED OPERATIONS
During the second quarter of 1997, the corporation began accounting
for the operations of both Ascent Entertainment Group, Inc. (Ascent) and
substantially all of COMSAT RSI, Inc. (CRSI) as discontinued operations.
See Note 3 to the financial statements.
CONSOLIDATED RESULTS
On a consolidated basis, the net income for the third quarter and
first nine months of 1998 was $6.6 million and $14.5 million, respectively,
compared to net losses of $20.8 million and $36.4 million in the same
periods of 1997.
Basic earnings per share for the third quarter were $0.13 and for the
first nine months were $0.28, compared to losses per share of $0.42 and
$0.75 for the same periods of 1997. Diluted earnings per share were $0.12
for the third quarter and $0.27 year-to-date, compared to losses per share
of $0.41 and $0.74 for the same periods of last year.
SEGMENT OPERATING RESULTS
The corporation reports operating results in two segments - Satellite
Services and Network Services. The Satellite Services segment includes both
COMSAT World Systems (CWS) and COMSAT Mobile Communications (CMC). The
Network Services segment includes COMSAT International (CI), COMSAT
Laboratories and Government Programs.
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<TABLE>
<CAPTION>
<S> <C> <C> <C> <C>
RESULTS BY SEGMENT:
Quarter Ended September 30, Nine Months Ended September 30,
--------------------------------- ----------------------------------------
In millions 1998 1997 1998 1997
- --------------------------------------------------------------------------------------------------------------------------------
REVENUES
Satellite Services:
World Systems $ 69.7 $ 66.0 $ 204.7 $ 199.3
Mobile Communications 42.8 44.2 123.7 126.1
----------- ------------ ----------- -----------
Total Satellite Services 112.5 110.2 328.4 325.4
----------- ------------ ----------- -----------
Network Services:
International 29.8 25.1 82.0 62.5
Laboratories 11.4 8.9 31.9 26.7
Government Programs 14.0 11.2 42.0 33.5
----------- ------------ ----------- -----------
Total Network Services 55.2 45.2 155.9 122.7
----------- ------------ ----------- -----------
Eliminations and other (9.3) (10.1) (30.1) (26.8)
----------- ------------ ----------- -----------
Total revenues $ 158.4 $ 145.3 $ 454.2 $ 421.3
=========== ============ =========== ===========
OPERATING INCOME (LOSS)
Satellite Services:
World Systems $ 25.7 $ 22.3 $ 75.5 $ 77.6
Mobile Communications 7.4 6.8 22.4 17.7
----------- ------------ ------------ -----------
Total Satellite Services 33.1 29.1 97.9 95.3
----------- ------------ ------------ -----------
Network Services:
International (20.1) (3.9) (30.7) (10.5)
Laboratories (0.5) (1.0) (1.1) (1.3)
Government Programs 1.1 (0.3) 2.6 0.5
----------- ------------ ------------ -----------
Total Network Services (19.5) (5.2) (29.2) (11.3)
----------- ------------ ------------ -----------
Total segment operating income 13.6 23.9 68.7 84.0
General and administrative expense (6.3) (5.4) (18.2) (18.0)
Merger Costs (3.5) - (3.5) -
Other (1.4) (0.8) (4.0) (1.8)
----------- ------------ ------------ -----------
Total operating income $ 2.4 $ 17.7 $ 43.0 $ 64.2
=========== ============ ============ ===========
</TABLE>
SATELLITE SERVICES
Revenues in the Satellite Services segment in the third quarter and
year-to-date were $112.5 million and $328.4 million, respectively, which
were $2.3 million and $3.0 million above the comparative periods of last
year. Operating income in the third quarter and first nine months of 1998
was $33.1 million and $97.9 million, respectively, which was $4.0 million
and $2.6 million better than the same periods last year.
CWS's revenues in the third quarter of 1998 were $69.7 million, which
were $3.7 million above the same period of 1997. For the first nine months
of 1998, revenues of $204.7 million were $5.4 million better than the same
period of last year. The increase in revenues was primarily the result of
improvements in International Business Service (IBS) traffic and wide-band
mobile services, offset in part by lower full-time voice revenues. The
improvement in IBS was due primarily to increases in high-speed data and
Internet services. CWS's operating income for the third quarter of 1998 and
first nine months of 1998 was $25.7 million and $75.5 million,
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<PAGE>
respectively, which was $3.4 million higher and $2.1 million lower than the
comparative periods last year. The improvement in operating income in the
third quarter was, in part, the result of increased revenues and lower
operating expenses, partially offset by increased depreciation from placing
in service four INTELSAT satellites during the past year.
Revenues in CMC during the third quarter and first nine months of 1998
were $42.8 million and $123.7 million, respectively, or $1.4 million and
$2.4 million below the same periods of 1997. The decreases in revenue were
primarily the result of a decline in sales of Planet 1 terminals, which
were introduced to the market in January 1997. The results in both periods
also reflect improved revenues from services provided to the Federal
Aviation Administration's (FAA) Wide Area Augmentation System (WAAS). CMC's
operating income for the quarter was $7.4 million, which was $600,000
better than the third quarter of 1997. For the first nine months of 1998,
operating income was $22.4 million, which was $4.7 million higher than the
same period last year. The improvement in operating income was primarily
the result of lower operating costs, partially offset by increased
depreciation from two Inmarsat satellites placed in service since July
1997. The operating costs in 1997 included marketing costs associated with
the launch of Planet 1 service.
NETWORK SERVICES
Network Services revenues for the third quarter and the first nine
months of 1998 were $55.2 million and $155.9 million, respectively, which
were $10.0 million and $33.2 million higher than the comparative periods of
last year. The operating loss in the third quarter and first nine months of
1998 was $19.5 million and $29.2 million, compared to operating losses of
$5.2 million and $11.3 million for the comparative periods of 1997.
Revenues in CI during the third quarter were $29.8 million, which were
$4.7 million or 19% higher than the same period last year. For the first
nine months revenues were $82.0 million, which were $19.5 million or 31%
above the same period of 1997. The year-to-date improvement in revenues was
driven primarily by increases in Argentina, Brazil, Colombia, Mexico and
Venezuela. CI's operating loss in the third quarter of 1998 was $20.1
million, compared to an operating loss of $3.9 million in the same quarter
of 1997. The year-to-date operating loss was $30.7 million, or $20.2
million higher than the same period last year. CI's operating loss for the
third quarter included a non-cash impairment loss of $14.0 million related
to the write-down of long-lived BelCom assets, namely goodwill and plant
and equipment. See Note 6 to the financial statements. The corporation is
not able to recognize a tax benefit on the impairment loss. Excluding the
BelCom charge of $14.0 million, operating losses increased from $3.9
million for the third quarter in 1997 to $6.1 million for the same period
in 1998. The increased operating loss was primarily due to BelCom's
deteriorating operating performance and a charge in Brazil which was in
part related to lost contracts. Revenue commitments under long-term
contracts at September 30, 1998 was $341 million, compared to $323 million
at December 31, 1997.
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<PAGE>
COMSAT Laboratories revenues in the third quarter and for year-to-date
were $11.4 million and $31.9 million, respectively, or $2.5 million and
$5.2 million higher than the comparative periods last year primarily due to
increases in technical consulting revenues. The Laboratories' operating
loss for the third quarter was $500,000 compared to a loss of $1.0 million
in the same quarter last year. For the first nine months of 1998, the
Laboratories operating loss was $1.1 million, or $200,000 better than the
comparative period of 1997. The Laboratories' backlog at September 30, 1998
was $24 million, as compared to $28 million at December 31, 1997.
Government Programs revenues for the third quarter of 1998 were $14.0
million, which was $2.8 million higher than the same quarter last year. For
the year-to-date, revenues were $42.0 million, or $8.5 million better than
the comparative period of 1997. The improvement over last year was
primarily the result of increased revenues from the Commercial Satellite
Communications Initiative (CSCI) contract. Operating income in Government
Programs for the third quarter and year-to-date was $1.1 million and $2.6
million, respectively, or $1.4 million and $2.1 million better than the
same periods of last year.
OUTLOOK
MANY OF THE STATEMENTS THAT FOLLOW ARE FORWARD-LOOKING AND RELATE TO
ANTICIPATED FUTURE EVENTS AND OPERATING RESULTS. STATEMENTS THAT LOOK
FORWARD IN TIME ARE BASED ON MANAGEMENT'S CURRENT EXPECTATIONS AND
ASSUMPTIONS, WHICH MAY BE AFFECTED BY SUBSEQUENT DEVELOPMENTS AND BUSINESS
CONDITIONS, AND NECESSARILY INVOLVE RISKS AND UNCERTAINTIES. THESE
STATEMENTS AND THE CORPORATION'S FUTURE OPERATING RESULTS MAY BE AFFECTED
BY THE TIMING AND OUTCOME OF REGULATORY AND OTHER GOVERNMENTAL PROCEEDINGS,
LEGISLATIVE ACTIONS, DEVELOPMENTS CONCERNING THE PRIVATIZATIONS OF INTELSAT
AND INMARSAT, THE PROPOSED ACQUISITION OF COMSAT BY LOCKHEED MARTIN
CORPORATION, INTERNATIONAL AND DOMESTIC BUSINESS CONDITIONS, INCREASED
COMPETITION FROM OTHER SATELLITE SERVICES PROVIDERS, THE DISPOSITION OF
DISCONTINUED OPERATIONS, THE EFFECT OF THE YEAR 2000 ISSUE ON COMSAT, AND
OTHER FACTORS. THEREFORE, THERE CAN BE NO ASSURANCE THAT ACTUAL FUTURE
RESULTS WILL NOT DIFFER MATERIALLY FROM ANTICIPATED RESULTS. ALTHOUGH THE
CORPORATION HAS ATTEMPTED TO IDENTIFY SOME OF THE IMPORTANT FACTORS THAT
MAY CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE ANTICIPATED, THOSE
FACTORS SHOULD NOT BE VIEWED AS THE ONLY FACTORS WHICH MAY AFFECT FUTURE
OPERATING RESULTS.
BUSINESS COMBINATION WITH LOCKHEED MARTIN
On September 18, 1998, COMSAT entered into an Agreement and Plan of
Merger (the Merger Agreement) with Lockheed Martin Corporation (Lockheed
Martin) and Deneb Corporation (Acquisition Sub), a wholly-owned subsidiary
of Lockheed Martin. Under the terms of the Merger Agreement, Lockheed
Martin will acquire all of the outstanding common stock, no par value, of
COMSAT (the COMSAT Common Stock) in a two-step transaction.
On September 25, 1998, a wholly-owned subsidiary of Lockheed Martin,
Regulus, LLC (Purchaser), initiated a tender offer to purchase up to 49%
(subject to certain adjustments) of the COMSAT Common Stock at a price of
$45.50 per share in cash. The tender offer is being made pursuant to the
Merger Agreement upon the terms and subject to the conditions set forth in
the Purchaser's Offer to Purchase, dated September 25, 1998 (the Offer to
Purchase), and the related Letter of Transmittal (which, together with the
Offer to Purchase, constitute the Offer).
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<PAGE>
Certain significant conditions to the consummation of the Offer
include: (i) there being validly tendered and not withdrawn prior to the
expiration date of the Offer at least one-third of the outstanding shares
of COMSAT Common Stock; (ii) the approval by COMSAT shareholders of the
Merger (described below) and the Merger Agreement; and (iii) the receipt of
all required regulatory consents and approvals. In addition, the
obligations of the Purchaser to consummate the Offer are subject to there
not being any failure of any representation or warranty, or breach of any
covenant or agreement, of COMSAT, or any fact or circumstance that would
reasonably be expected to have a Material Adverse Effect (as defined in the
Merger Agreement) on COMSAT. In addition, the Purchaser will not be
obligated to consummate the Offer if (a) there has been a decline in the
Standard & Poor's 500 Index of at least 27% from the date of the Merger
Agreement through any given day (a Measurement Date) prior to the
termination or expiration of the Offer, and (b) the Standard & Poor's 500
Index is at least 27% lower than on the date of the Merger Agreement on the
earlier of (i) the close of trading on the next trading day at least 30
calendar days from such Measurement Date, and (ii) the close of trading on
the next trading date immediately prior to the date on which the expiration
of the Offer would otherwise occur but for the failure to satisfy this
condition.
The Merger Agreement also provides that as soon as practicable after
consummation of the Offer and the satisfaction or waiver of the conditions
set forth therein, COMSAT will be merged with Acquisition Sub (the Merger).
In the Merger, each share of COMSAT Common Stock that is issued and
outstanding immediately prior to the effective time of the Merger (other
than shares of COMSAT Common Stock held by COMSAT, Purchaser or Lockheed
Martin and dissenting shares, if any) will be converted into the right to
receive 0.5 shares of common stock, par value $1.00 per share, of Lockheed
Martin (the Lockheed Martin Common Stock), subject to adjustment as
provided in the Merger Agreement. Lockheed Martin recently announced their
intention to change their capitalization through a two-for-one stock split.
As a result of this stock split, the exchange ratio in the Merger will be
adjusted so that each share of COMSAT Common Stock outstanding at the time
of the Merger (other than shares of COMSAT Common Stock held by COMSAT,
Purchaser or Lockheed Martin and dissenting shares, if any) will be
exchanged for one share of Lockheed Martin Common Stock, subject to
adjustment as provided in the Merger Agreement.
Certain significant conditions to the consummation of the Merger
include: (i) the consummation of the Offer; (ii) the amendment or repeal of
the Communications Satellite Act of 1962 (the Satellite Act), and (iii) the
receipt of the approvals of the FCC and other governmental authorities
required for the consummation of the Merger. In addition, the obligations
of Lockheed Martin and Acquisition Sub to consummate the Merger are subject
to there not being any fact or circumstance that would reasonably be
expected to have a Significant Adverse Effect (as defined in the Merger
Agreement).
In connection with the execution of the Merger Agreement, the parties
entered into certain ancillary agreements. The Company entered into a
Shareholders Agreement, dated as of September 18, 1998, with Lockheed
Martin (the Shareholders Agreement), pursuant to which, upon the
consummation of the Offer, COMSAT will take all actions necessary to cause
the three individuals selected by Lockheed Martin (the Lockheed Martin
Designees) to be elected to the Board of Directors of COMSAT and appointed
to certain committees of the Board of Directors of COMSAT. Pursuant to the
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<PAGE>
Shareholders Agreement, the Company agreed not to amend or repeal the
provisions of its bylaws that permits any three directors to call a special
meeting of the Board of Directors or otherwise amend its Articles of
Incorporation or bylaws in a manner that would adversely affect the rights
of Lockheed Martin under the Shareholders Agreement or the Registration
Rights Agreement (described below). The Shareholders Agreement also
provides that, in the event that the Merger is not consummated, COMSAT will
cause its Board of Directors to amend COMSAT's Articles of Incorporation to
eliminate the transfer restrictions contained in Section 5.03(c) thereof
and to recommend such amendment to the shareholders of COMSAT for their
approval. The Shareholders Agreement contains other restrictions on
Lockheed Martin with respect to its ownership of COMSAT Common Stock.
In addition, Lockheed Martin and COMSAT entered into the Registration
Rights Agreement, dated as of September 18, 1998 (the Registration Rights
Agreement), pursuant to which, assuming that the Purchaser acquired shares
of COMSAT Common Stock in the Offer and that the Merger is not consummated,
Lockheed Martin has certain demand and piggy-back registration rights to
cause COMSAT to prepare and file registration statements under the
Securities Act of 1933, as amended, to register shares of COMSAT Common
Stock held by Lockheed Martin.
In order to facilitate consummation of the Offer and the Merger,
COMSAT also entered into a Carrier Acquisition Agreement, dated as of
September 18, 1998, with Lockheed Martin, the Purchaser and COMSAT
Government Systems, Inc. (CGSI), a wholly-owned subsidiary of COMSAT,
pursuant to which CGSI will be merged with and into Purchaser (the Carrier
Acquisition) as soon as practicable following the satisfaction or waiver of
the conditions set forth in the Carrier Acquisition Agreement, or on such
other date as the parties may agree, but in all events prior to the
consummation of the Offer. In the Carrier Acquisition, the Purchaser will
acquire the common carrier telecommunications business of CGSI.
RESTRUCTURING OF INTELSAT AND INMARSAT
During 1998, significant progress has been made with respect to the
corporation's ongoing efforts to restructure INTELSAT and Inmarsat.
The INTELSAT Assembly of Parties, at its March 1998 meeting, approved
a restructuring plan to transfer six INTELSAT satellites (five currently in
orbit and one to be launched in 1999) into a separate, new commercial
company. The new company, incorporated in the Netherlands, has been
temporarily named New Skies Satellites N.V. (New Skies). It is expected
that the transfer of assets from INTELSAT to New Skies will occur before
the end of this year. Additionally, an initial public offering is expected
to occur sometime during 1999 to fund New Skies' future capital
requirements. New Skies will operate as an entirely separate company,
independent of INTELSAT. INTELSAT's direct ownership in New Skies, set at
10%, will be held in a non-voting trust. Individual ownership levels will
be limited to 17%, and it is expected that COMSAT's initial direct
investment in New Skies will be approximately 16.6%.
In June 1998, the FCC issued a public notice requiring U.S. earth
stations licensees which currently use INTELSAT satellites that will
transfer to New Skies to file license modification applications by July 17,
1998 in order to access the New Skies system. Several companies, including
COMSAT, filed applications in response to this notice. In September 1998, a
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<PAGE>
competitor of New Skies filed a petition asking the FCC to grant the
applicants special temporary authority to access New Skies for a limited
period and to defer the question of permanent authority to a later date.
COMSAT, New Skies, and several of the applicants opposed this petition. The
corporation anticipates that the FCC will ultimately grant these
applications, and that, if necessary, it will grant special temporary
authority for the period between the asset transfer from INTELSAT to New
Skies and the issuance of the FCC's decisions.
COMSAT currently consolidates its share of the accounts of INTELSAT
and recognizes its portion of INTELSAT's results of operations each
reporting period. COMSAT anticipates it will use the cost method of
accounting for its investment in New Skies. Under the cost method, COMSAT
would only recognize income at the time dividends from New Skies are
received. COMSAT does not anticipate that New Skies will declare dividends
during its first year of operations. As a result, beginning at the time of
the transfer of assets to New Skies, the corporation's pre-tax earnings
from its investments in both INTELSAT and New Skies will be lower by
approximately $2 million each quarter as compared to periods prior to the
transfer in the absence of other factors that may affect operating results
in CWS.
At its meeting in September 1998, the INTELSAT Board of Governors
continued its discussions on transforming the remaining portion of INTELSAT
to a fully private company. The INTELSAT Board of Governors will continue
this work at its next meeting in December 1998. It is the corporation's
objective to privatize the remaining portion of INTELSAT by the end of
2001. The corporation, as a minority shareholder and the U.S. signatory to
INTELSAT, lacks the ability to independently effect a restructuring of
INTELSAT. The success of the corporation's efforts will depend on the
corporation's ability to achieve a consensus among other signatories and
participating member governments. A two-thirds vote of the governments that
are members of INTELSAT would be necessary for approval of any final
privatization proposal.
In September 1998, the Inmarsat Assembly of Parties approved a plan to
transfer the operating assets of the current Inmarsat intergovernmental
organization to a new company. Inmarsat is expected to become an
independent commercial company on or shortly after April 1, 1999. While the
new company initially would not be publicly traded, it is expected that the
company would proceed with an initial public offering within approximately
24 months after its creation. Individual ownership in the new company would
be capped at 15%, although COMSAT's ownership in Inmarsat at the time of
privatization would be grandfathered. COMSAT's voting rights, however,
would be capped at 15% with respect to votes against certain shareholder
resolutions. COMSAT's ownership of Inmarsat as of September 30, 1998 was
22.2%. Prior to the public offering, owners are expected to be able to
trade shares, and strategic investors may invest up to $500 million in
equity in the new company.
The U.S. government delegation to the Inmarsat Assembly did not oppose
the Assembly's final decision on privatization which called for rapid
implementation. However, COMSAT understands that the Executive Branch has
concluded that it may not "implement" the Inmarsat restructuring within the
United States without legislative authorization. COMSAT understands that
the Executive Branch is currently assessing a number of options, including
potential U.S. withdrawal from Inmarsat, either prior to or after the
restructuring, and instructing COMSAT not to accept its shares in the
restructured Inmarsat until the requisite legislation is enacted. If the
U.S. were to withdraw from Inmarsat prior to the restructuring, COMSAT
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<PAGE>
would be required to liquidate its investment in Inmarsat at book value. If
the U.S. were to withdraw from Inmarsat after the restructuring, COMSAT
might be required to place its shares in the restructured Inmarsat in trust
and might not be able to vote those shares but would have the ability to
direct the disposition of those shares. The corporation plans to work
closely with the U.S. Government to achieve a resolution of these issues
that protects the value of the corporation's investment in Inmarsat. There
can be no assurance, however, that the corporation will be successful in
that effort.
As with INTELSAT, COMSAT consolidates its shares of the accounts of
Inmarsat. Assuming COMSAT continues to own at least 20% of the new company
at the time it is privatized and other details and assumptions related to
the restructuring do not change, the corporation anticipates that it would
use the equity method of accounting for its investment in the privatized
Inmarsat. Under the equity method, the corporation would continue to
include its proportionate share of the new company's operating results, net
of taxes, as part of the corporation's pre-tax operating results. The
accounting method used for this investment, however, will be dependent upon
the terms and conditions of the final Inmarsat restructuring and the
corporation's then current ownership interest. As a privatized entity,
Inmarsat will recognize income tax expense in its operating results. It is
anticipated that Inmarsat will have a higher effective rate than the
corporation in 1999, which will decrease the corporation's net income by
approximately $2 million.
REGULATORY AND LEGISLATIVE DEVELOPMENTS
On April 24, 1998, the FCC granted the corporation's petition for
reclassification as a non-dominant common carrier in markets that represent
approximately 90% of CWS's revenues. For those markets, rate-of-return
regulation has been lifted effective immediately. In the remaining
"thin-route" markets, which are expected to account for only 10% or less of
the CWS business in 1998, the FCC denied the corporation's request to
forbear from dominant carrier regulation. The FCC, however, stated that it
would consider on an expedited basis a form of incentive-based regulation
to replace dominant carrier rate-of-return regulation for the thin-route
business, and issued a Notice of Proposed Rulemaking seeking public
comment. In response, COMSAT submitted an incentive regulation proposal
committing to various rate reductions and price caps for thin route
services. A decision by the FCC in the incentive regulation proceeding is
expected before the end of the year. The FCC's non-dominant order also
granted the corporation's request to file tariffs on one day's notice with
a presumption of lawfulness and request for the elimination of the CWS
structural separation requirements. In addition, the non-dominant order
gave CWS authority to enter the earth station market on an unseparated and
non-dominant basis. The non-dominant order also reviewed COMSAT's long-term
carrier contracts and found that they do not impede competition; thus, such
contracts should not be subject to regulatory abrogation based on the
so-called "fresh look" doctrine. On October 28, 1998, the FCC issued a
separate notice of proposed rulemaking to explore the implications of
enabling users to have direct access to the INTELSAT system, as the FCC
indicated that it would do in its non-dominant order. In the direct access
notice, the FCC tentatively concluded, among other things, that it lacks
the statutory authority to impose Level 4 direct access (by which users
could
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<PAGE>
invest in INTELSAT), but does have the authority to require Level 3 direct
access (by which users could contract with INTELSAT for capacity). The FCC
is seeking comments on whether it is in the public interest to exercise its
authority and mandate Level 3 direct access. The corporation plans to file
comments in this proceeding contesting the basis for the FCC's proposed
action.
In October 1998, Congress passed, and the President subsequently
signed, the International Anti-Bribery Act of 1998. The act contains a
provision which states that, except as required by international agreements
to which the United States is a party, an international organization
providing commercial satellite services shall not be accorded immunity from
suit or legal process in connection with its provision of such service. The
effective date of this provision is May 1, 1999. The Act also states that
the President shall designate which agreements are international agreements
to which the United States is a party for purposes of this provision, and
directs the President to take all appropriate actions to reduce or
eliminate all privileges and immunities that are not eliminated pursuant to
this provision. The corporation opposed prior versions of this legislation,
but supported it in the form ultimately passed by Congress. The corporation
does not believe that enactment of this legislation will have a material
effect on its business, because (i) Inmarsat is expected to be privatized
before May 1, 1999, and (ii) the President is expected to designate the
INTELSAT Headquarters Agreement, which affords INTELSAT immunity from suit
and legal process, as an international agreement to which the United States
is a party.
In May 1998, the U.S. House of Representatives passed a bill entitled
the "Communications Satellite Competition and Privatization Act of 1998"
(H.R. 1872). While the corporation supports H.R. 1872's stated objective of
privatizing INTELSAT and Inmarsat in a pro-competitive manner, COMSAT
opposed H.R. 1872 in the form in which it was passed. In testimony before
the Senate Subcommittee on Communications on September 10, 1998, the
Clinton Administration also opposed H.R. 1872 on the grounds, among others,
that it would reduce, not promote, competition for satellite services, and
would negatively impact the President's foreign policy prerogatives as well
as national security and trade policy. H.R. 1872 expired upon the
adjournment of the 105th Congress on October 21, 1998.
An international satellite bill, S. 2365, also was introduced in the
Senate on July 28, 1998. COMSAT believes that S. 2365, on the whole,
represented a more constructive approach to privatization and international
satellite policy. The proposed Senate bill excluded many of the provisions
of H.R. 1872 that could impair COMSAT's investments and operations. The
Senate bill, however, contained certain provisions (including a provision
authorizing direct access to INTELSAT and Inmarsat on so-called "thin
routes" and another provision which could lead to U.S. withdrawal from
INTELSAT and Inmarsat if full privatization has not been realized by
January 1, 2003) which the corporation believes are not needed and could be
counterproductive. As with H.R. 1872, S. 2365 expired with the adjournment
of the 105th Congress.
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YEAR 2000 ISSUE - (YEAR 2000 READINESS DISCLOSURE)
The year 2000 issue is the result of computer programs being written
using two digits rather than four digits to define the applicable year
(I.E., "97" for 1997). Certain of the corporation's computer programs that
have date-sensitive software may not operate properly when the last two
digits become "00", as will occur on January 1, 2000. To the extent that
this situation exists, there is the potential for system failure or
miscalculations, which could cause a disruption of operations. The problem
is not limited to computer programs, as some of the corporation's computer
and other operational equipment that has date-sensitive processors may not
be able to process dates after December 31, 1999.
In the second half of 1996, the corporation initiated a program to
identify and properly address issues associated with the year 2000 problem
in order to avoid interruption to the corporation's operations at the turn
of the century. Each of the operating segments of the corporation, as well
as the administrative functions, has essentially completed the inventory
and assessment phase of the year 2000 implementation plan and is currently
implementing plans to remediate the non-compliant systems identified during
these first two phases. The corporation presently believes that such
changes to the corporation's key computer and other operational systems and
equipment will be completed and tested by the end of the third quarter of
1999.
The corporation's current estimate is that it will cost approximately
$8 million prior to January 1, 2000 to modify its in-house management
information systems, customer products and other systems and equipment
affected by the year 2000 issue. Of this amount, the corporation has spent
$800,000 or 10% of the projected amount through September 30, 1998. Year
2000 modifications and replacements are based on management's current
expectations and assumptions, which were derived using assumptions of
future events, including the continued availability of resources and the
reliability of third party modification plans. Future events that might
cause material differences in management's current expectations and
assumptions include, but are not limited to, the availability and cost of
personnel with appropriate skills, the ability to locate and correct all
relevant computer code, reliance on third parties and similar
uncertainties.
SATELLITE SERVICES. While the corporation is devoting substantial
resources to its own year 2000 compliance effort, COMSAT, as well as other
international telecommunications carriers, will be dependent, in part, on
foreign and other third party telecommunication carriers being year 2000
compliant. The financial impact of foreign or third party
telecommunications carriers failing to meet the year 2000 challenge would
be realized in either of two ways: loss of revenue due to the inability to
complete the up-link or down-link transmissions to or from a satellite
and/or loss of the corporation's share of INTELSAT and Inmarsat revenues.
In recognition of the financial exposure resulting from this dependency on
foreign and third party telecommunications carriers, the corporation has
undertaken, as part of its year 2000 efforts, an analysis of the year 2000
compliance efforts of these telecommunications carriers as to the status of
their year 2000 compliance efforts. In addition to this analysis, the
corporation is also utilizing the results of efforts undertaken by the
International Telecommunication Union (ITU). The corporation will develop
contingency plans to deal with this issue depending on the results of its
analysis and the year 2000 readiness status of individual
telecommunications carriers.
22
<PAGE>
COMSAT World Systems derives in excess of 90% of it revenues under
long-term contracts. Almost all of these revenues are dependent upon
termination with a foreign telecommunication carrier. Even though these
long-term contracts are not subject to termination as a result of the year
2000 issue, a significant portion of the expected future CWS revenues and
COMSAT's share of INTELSAT revenues is generated from services between the
United States and areas of the world which may be subject to service
interruptions resulting from year 2000 readiness issues. It is not possible
for the corporation to accurately quantify the amount, if any, of this
exposure at this time.
COMSAT Mobile Communications derives a significant portion of its
revenues from services either originating or terminating outside of the
United States. If the originating or terminating carrier is unable to
initiate or terminate a call, COMSAT Mobile Communications, directly and
through its share of Inmarsat revenues, would be adversely affected by
reduced revenues. It is not possible at this time to accurately measure the
corporation's financial exposure as a result of this situation.
NETWORK SERVICES. COMSAT International and COMSAT Laboratories rely on
third-party vendor provided and vendor supported systems to provide
products and services to their customers. COMSAT International and COMSAT
Laboratories have sought, but have not yet received, final certification
from all of their third-party vendors. If it became necessary, a compliant
product provided by a different supplier would be utilized to replace a
non-compliant product. At this time neither COMSAT International nor COMSAT
Laboratories has any reason to believe this will become necessary.
LIQUIDITY AND CAPITAL RESOURCES
The primary sources of cash in the first nine months of 1998 were cash
from operations, and proceeds from the sale of CRSI and the exercise of
stock options. Cash was used primarily for the purchase of property and
equipment and to reduce short-term debt. The corporation's working capital
at September 30, 1998 was $41.3 million, which was $19.7 million higher
than at December 31, 1997.
The corporation has access to short-term and long-term financing at
favorable rates. The corporation's current long-term debt ratings are A-
from Standard and Poor's and A3 from Moody's. The corporation's current
commercial paper ratings are A2 from Standard and Poor's and P2 from
Moody's. Following the announcement of the Merger Agreement with Lockheed
Martin, both Standard and Poor's and Moody's placed their ratings on the
corporation's long-term debt under review for possible downgrades. The
downgrades would take effect as a result of merging the corporation with a
lower-rated parent company. The ratings for commercial paper are not under
review at this time.
The corporation's $200 million commercial paper program had $11
million in borrowings outstanding at September 30, 1998. A $200 million
credit agreement, expiring in 1999, backs up the corporation's commercial
paper program.
23
<PAGE>
The corporation had $36 million remaining at September 30, 1998 under
a $100 million medium-term note program, which is unchanged from year-end
1997. The medium-term program is part of a $200 million debt securities
shelf registration program initiated in 1994.
The corporation's capital structure and debt-financing activities are
regulated by the FCC. The corporation is required to submit a
capitalization plan to the FCC for review annually. In August 1997, the FCC
approved the corporation's 1997 capitalization plan. The corporation
submitted its 1998 capitalization plan to the FCC in May 1998, and a
response from the FCC is expected in the fourth quarter of 1998. Under the
existing FCC guidelines, the corporation is subject to a limit of $200
million in short-term debt, a maximum long-term debt-to-total-capital ratio
of 45% and an interest coverage ratio of 2.3 to 1. The latter two
guidelines are measured at year end. The corporation was in compliance with
the $200 million short-term debt limit as of September 30, 1998 and expects
to be in compliance with the other guidelines at December 31, 1998.
24
<PAGE>
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
See Note 11 of this Form 10-Q, Item 1 of Part II of the
corporation's March 31, 1998 Form 10-Q and Item 3 of the
corporation's 1997 Form 10-K, which are incorporated herein by
reference.
ITEM 2. CHANGE IN SECURITIES
None
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. (a) EXHIBITS
27 - Financial Data Schedule
(b) REPORTS ON FORM 8-K
Report dated September 20, 1998 announcing that the
corporation had entered into an Agreement and Plan of
Merger, dated September 18, 1998, by and among the
corporation, Lockheed Martin Corporation and Deneb
Corporation, a wholly-owned subsidiary of Lockheed Martin
Corporation.
25
<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 hereunto duly authorized.
COMSAT CORPORATION
By /S/ ALAN G. KOROBOV
-------------------
Alan G. Korobov
Controller
Date: November 16, 1998
26
<PAGE>
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<PERIOD-START> JAN-01-1998
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<PP&E> 2,691,055
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0
0
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<INCOME-TAX> 6,483
<INCOME-CONTINUING> 14,493
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<EXTRAORDINARY> 0
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