<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly Report under Section 13 or 15(d) of the Securities Exchange Act
of 1934
For the quarterly period ended: March 31, 1999
OR
[ ] Transition report pursuant to section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from ______ to _________
Commission File Number: 000-25333
PRODIGY COMMUNICATIONS CORPORATION
(Exact name of registrant as specified in its charter)
DELAWARE 04-3323363
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
44 SOUTH BROADWAY
WHITE PLAINS, NEW YORK 10601
(Address of principal executive offices and zip code)
Registrant's telephone number, including area code: (914) 448-8000
Former name, former address, and former
year, if changed since last report: Not applicable
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days.
Yes X No
Indicate the number of shares outstanding of each of the Issuer's classes of
Common Stock, as of the latest practicable date.
Title of each class
- - -------------------
Common stock $.01 par value
Shares outstanding on April 30, 1999 60,979,524
__________
<PAGE>
PRODIGY COMMUNICATIONS CORPORATION
FORM 10-Q
QUARTER ENDED MARCH 31, 1999
INDEX
Page
PART I. FINANCIAL INFORMATION
Item 1. 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 11
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 12
Item 2. Changes in Securities and Use of Proceeds 12
Item 4. Submission of Matters to a Vote of Security Holders 13
Item 6. Exhibits 14
Signatures
________________
This Quarterly Report on Form 10-Q contains forward-looking statements
within the meaning of Section 21E of the Securities Exchange Act of 1934, as
amended, and Section 27A of the Securities Act of 1933, as amended. For this
purpose, any statements contained herein that are not statements of historical
fact may be deemed to be forward-looking statements. Without limiting the
foregoing, the words "believes," "anticipates," "plans," "expects" and similar
expressions are intended to identify forward-looking statements. The important
factors discussed below under the caption "Certain Factors That May Affect
Future Operating Results," among others, could cause actual results to differ
materially from those indicated by forward-looking statements made herein and
presented elsewhere by management from time to time. Such forward-looking
statements represent management's current expectations and are inherently
uncertain. Investors are warned that actual results may differ from management's
expectations.
Prodigy(R), Prodigy Internet(TM), and Prodigy Classic(TM) are trademarks of
the Company. All other trademarks referred to herein are the property of their
respective owners.
2
<PAGE>
PART I.
Item 1. Financial Statements
PRODIGY COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(in thousands except share and per share amounts)
<TABLE>
<CAPTION>
March 31, December 31,
1999 1998
- - --------------------------------------------------------------------------------
<S> <C> <C>
Assets
Current assets:
Cash and cash equivalents $ 127,826 $12,180
Short term investments 32,221 -
Accounts receivable net of allowance for doubtful
accounts of 266 and 367 on March 31, 1999
and December 31, 1998, respectively 684 966
Due from affiliate 761 -
Prepaid expenses 1,824 1,691
Other current assets 101 106
- - --------------------------------------------------------------------------------
Total current assets 163,417 14,943
Restricted cash 4,724 5,420
Notes receivable, net of deferred gain of - -
$16,148 at March 31, 1999 and December 31, 1998
Property and equipment, net 14,293 12,998
Tradename, net 25,689 26,579
Goodwill, net 11,199 11,587
Deferred network costs 5,345 5,939
Other assets 359 866
- - --------------------------------------------------------------------------------
Total assets $ 225,026 $78,332
======== =======
Liabilities and Stockholders' Equity
Current liabilities:
Notes payable $ - $ 2,000
Accounts payable 8,411 6,184
Accrued compensation 2,156 3,000
Other accrued expenses 23,560 22,451
Unearned revenue 11,876 10,200
Accrued purchase and restructuring costs 4,456 4,705
- - --------------------------------------------------------------------------------
Total liabilities 50,459 48,540
======== =======
- - --------------------------------------------------------------------------------
Stockholders' equity:
Preferred stock; $.01, par value; 10,000,000
shares authorized; none issued or outstanding - -
Contingent convertible notes - 30,500
Common stock; $.01 par value; 150,000,000 and
280,000,000 shares authorized; 60,902,850 and
45,034,297 shares issued and outstanding at
March 31, 1999 and December 31, 1998 609 450
Additional paid-in capital-common stock 484,416 294,296
Accumulated deficit (308,517) (292,787)
Accumulated and other comprehensive income 392 -
- - --------------------------------------------------------------------------------
176,900 32,459
Less note receivable from stockholder (2,333) (2,667)
- - --------------------------------------------------------------------------------
Total stockholders' equity 174,567 29,792
- - --------------------------------------------------------------------------------
Total liabilities and stockholders' equity $ 225,026 $78,332
======== =======
</TABLE>
The accompanying footnotes are an integral part of the condensed consolidated
financial statements.
3
<PAGE>
PRODIGY COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED INCOME STATEMENTS (UNAUDITED)
(in thousands except share and per share amounts)
<TABLE>
<CAPTION>
For the For the
Three Months Three Months
Ended Ended
March 31, March 31,
1999 1998
- - --------------------------------------------------------------------------------
<S> <C> <C>
Revenues:
Internet and online service revenues:
Prodigy Internet $ 27,908 $ 15,045
Prodigy Classic 6,680 16,186
------------ ------------
34,588 31,231
Other (including $761 of affiliate
revenue for 1999) 1,338 2,156
- - --------------------------------------------------------------------------------
Total revenues 35,926 33,387
Operating costs and expenses:
Cost of revenue 23,527 26,554
Marketing 12,519 7,001
Product development 3,860 3,390
General and administrative 14,528 13,266
- - --------------------------------------------------------------------------------
Total operating costs and expenses 54,434 50,211
------------ ------------
Operating loss (18,508) (16,824)
Interest (income)/expense, net (1,064) 215
Gain on settlement of note payable (1,714) -
Gain on asset sale - (400)
----------------------------
Net loss $ (15,730) $ (16,639)
============================
Basic and diluted loss per share $ (0.29) $ (0.49)
============ ============
Weighted average number of shares outstanding
used in computing basic and diluted net loss
per share 53,455,241 33,804,894
============ ============
</TABLE>
The accompanying footnotes are an integral part of the condensed consolidated
financial statements.
4
<PAGE>
PRODIGY COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
(in thousands except share and per share amounts)
<TABLE>
<CAPTION>
For the For the
Three Months Three Months
Ended Ended
March 31, March 31,
1999 1998
- - --------------------------------------------------------------------------------------------------
<S> <C>
Cash flows from operating activities:
Net loss $ (15,730) $ (16,639)
Adjustments to reconcile net loss to net cash used in operating
activities:
Option grants at below fair value 321 139
Depreciation 1,880 2,232
Amortization of goodwill 388 387
Amortization of tradename 890 756
Amortization of deferred network asset 594 583
Change in operating assets and liabilities,
net of effects of acquisitions and disposals
Accounts receivable 282 596
Due from affiliate (761) -
Other receivables - 674
Prepaid expenses (133) 341
Assets held for sale - (523)
Other assets 512 1,018
Accounts payable 2,227 (3,929)
Other accrued expenses 1,109 (2,223)
Accrued compensation (844) (565)
Unearned revenue 1,676 2,290
Accrued purchase and restructuring costs (249) (593)
- - ----------------------------------------------------------------------------------------------
Net cash used in operating activities (7,838) (15,456)
- - ----------------------------------------------------------------------------------------------
Cash flows from investing activities:
Acquisition of property and equipment (3,175) (321)
Short term investments (31,829) 15
- - ---------------------------------------------------------------------------------------------
Net cash used in investing activities (35,004) (306)
- - ---------------------------------------------------------------------------------------------
Cash flows from financing activities:
Sale of common stock, net of fees 159,458 -
Borrowings/(repayments) of notes payable to related
parties (2,000) 16,400
Repayments of note receivable from stockholder 334 333
Increase (decrease) in restricted cash 696 (1)
- - ---------------------------------------------------------------------------------------------
Net cash provided by financing activities 158,488 16,732
- - ---------------------------------------------------------------------------------------------
Net increase in cash 115,646 970
------------ ----------
Cash, beginning 12,180 12,363
------------ ----------
Cash, ending $ 127,826 $ 13,333
============ ==========
Noncash financing activity:
Conversion of contingent convertible notes to common stock 30,500 -
</TABLE>
The accompanying footnotes are an integral part of the condensed consolidated
financial statements.
5
<PAGE>
PRODIGY COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' DEFICIT (UNAUDITED)
(in thousands except share and per share amounts)
For the period ended March 31, 1999
<TABLE>
<CAPTION>
Contingent Additional
Preferred Stock Convertible Common Stock Paid in
Shares Amount Securities Shares Amount Capital
--------------- ----------- ------------------ ----------
<S> <C> <C> <C> <C> <C> <C>
Balance, December 31, 1998 0 $0 $30,500 45,034,297 $ 450 $ 294,296
Sale of common stock
Exercise of options - - 413,287 4 3,286
Sale of stock - - 11,200,000 112 156,377
Conversion of notes into common stock (30,500) 4,255,266 43 30,457
Comprehensive Loss:
Net loss
Unrealized gain on marketable securities
Comprehensive loss
--------------------------------------------------------------
Balance, March 31, 1999 0 $0 $0 60,902,850 $609 $484,416
====== ====== ====== =========== ===== ==========
</TABLE>
<TABLE>
<CAPTION>
Note Accumulated
Receivable Other
Accumulated From Comprehensive
Deficit Shareholder Income Total
----------- ----------- ------------- -----
<S> <C> <C> <C> <C>
Balance, December 31, 1998 $(292,787) $(2,667) $29,792
Sale of common stock 3,290
Exercise of options 334 156,823
Sale of stock
Conversion of notes into common stock -
Comprehensive Loss:
Net loss (15,730) (15,730)
Unrealized gain on marketable securities 392 392
-----------
Comprehensive loss (15,338)
--------------------------------------- ----------- -----------
Balance, March 31, 1999 $(308,517) $(2,333) $ 392 $174,567
=========== ========== =========== ===========
</TABLE>
The accompanying footnotes are an integral part of the condensed consolidated
financial statements.
6
<PAGE>
PRODIGY COMMUNICATIONS CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED)
(in thousands except share and per share information)
Note 1. Basis of Presentation
The accompanying unaudited condensed consolidated financial statements,
which include the accounts of Prodigy Communications Corporation (the "Company")
and its wholly owned subsidiaries, have been prepared in accordance
with generally accepted accounting principles for interim financial information
and with the instructions to Form 10-Q and Article 10 of Regulation S-X.
Accordingly, they do not include all of the information and footnotes required
by generally accepted accounting principles for complete financial statements.
In the opinion of management, all adjustments, consisting only of normal
recurring accruals, considered necessary for a fair presentation, have been
included in the accompanying unaudited financial statements. All significant
intercompany transactions and balances have been eliminated in consolidation.
Certain amounts in prior years' consolidated financial statements have been
reclassified to conform to the current year presentation. Operating results for
the three months ended March 31, 1999 are not necessarily indicative of the
results that may be expected for the full year ending December 31, 1999. For
further information, refer to the consolidated financial statements and notes
thereto, included in the Company's Annual Report on Form 10-K for the fiscal
year ended December 31, 1998.
Note 2. Common Stock Offering
On February 11, 1999, the Company completed an initial public offering
under the Securities Act of 1933. The Company sold 11,200,000 shares of Common
Stock and raised aggregate proceeds of approximately $156,500.
Upon the completion of the Company's offering under the Act both IBM and
Sears acquired an interest in the Company's outstanding common stock in
accordance with the terms of the Contingent Convertible Notes. IBM and Sears
each received approximately 2,127,500 shares for a combined total of
approximately 4,255,000.
Additionally, IBM and Sears each received warrants which allow them to
purchase additional shares constituting up to 15% of the Company as of the IPO
date at 130% of the fair market value at the date of conversion of the
Contingent Convertible Notes. Those warrants are exercisable for three years
from the conversion date. IBM and Sears each received warrants to purchase
approximately 2,409,000 shares or approximately 4,818,000 in total.
Note 3. Restructuring Reserves
During the first quarter of 1999, the Company incurred $249 of expenditures
related to the 1997 restructuring reserve. These expenditures relate to
contractual obligations and severance payments identified under the original
plans. The remaining reserve consists primarily of contractual obligations that
Management expects to be used in full by December 31, 2001.
Note 4. Settlement of Debt
In January 1999, the Company paid a network company $750 in full settlement
of its 8 1/4% convertible note in the principal amount of $2,000, and all
accrued interest.
Note 5. Net Loss Per Share
The Company computes basic and diluted earnings per share in accordance
with Statement of Financial Accounting Standards No. 128 ("SFAS 128"), "Earnings
per Share." SFAS 128 requires the Company to report both basic earnings per
share, which is based on the weighted average number of common shares
outstanding, and diluted earnings per share, which is based on the weighted
average number of common shares outstanding and all dilutive potential common
shares outstanding. Since the Company incurred losses for all periods presented,
the conversion of options to Weighted Average Common Shares would be anti-
dilutive; and therefore there is no difference between basic and diluted
earnings per share.
Note 6. Recent Pronouncements
During the first quarter of 1999 the Company adopted the American Institute
of Certified Public Accountants ("AICPA") Statement of Position ("SOP") 98-1
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use". All internal software is recorded by the Company in accordance
with the above mentioned pronouncement and is depreciated over three years
beginning on the date the software is put in use. The Company has capitalized
$1,806 of costs related to internal use of software during the three months
ended March 31, 1999.
In January 1999, the Company adopted SOP 98-5 "Reporting on the Costs of
Start-up Activities." SOP 98-5 provides guidance on the financial reporting of
start-up costs and organization costs. It requires the costs of start-up
activities and organization costs to be expensed as incurred. As the Company has
expensed these costs historically, the adoption of this standard did not have a
significant impact on the Company's results of operations, financial position or
cash flows.
Note 7. Subsequent Events
During 1997 the Company sold a subsidiary which eventually became part of
TCI Music. As a result of the sale, the Company acquired shares in TCI music
(NASDAQ NMS: TUNE). The value of such shares was approximately $392 at March 31,
1999. During April of 1999, TCI Music announced its merger with Liberty Media.
As a result, the value of the Company's investment increased and was sold for
$3,325, generating a gain of $3,319 which was realized during the second
quarter. The value of the investment at March 31, 1999 of $392 was recorded as
an unrealized gain and included as part of comprehensive income. At March 31,
1999 the stock was valued based on the quoted market value at that date.
7
<PAGE>
Item 2. Management's Discussion And Analysis of Financial Condition and Results
of Operations
The following discussion should be read in conjunction with the
Consolidated Unaudited Financial Statements and Notes thereto contained herein
under Item 1.
Overview
The Company is a leading national ISP. In October 1996, the Company
launched Prodigy Internet, an open standards-based Internet access service.
Since the autumn of 1997, the Company has focused on expanding the Prodigy
Internet subscriber base and introducing additional value-added services. The
Company has also made strategic decisions to outsource its network, discontinue
its development of custom content and use multiple vendors for outsourced
customer service functions. As a result of these initiatives, the Company has
substantially reduced its fixed operating costs and headcount.
The results of operations of ISP's, including those of the Company, are
significantly affected by subscriber cancellations. Subscriber acquisition
expenses and the administrative expenses of enrolling and assisting new
subscribers are substantial, and in the past the Company typically offered free
service for one or two months to new subscribers. In selected distribution
channels, the Company is replacing free trial programs with money-back
guarantees in order to attract enrollees who are less likely to terminate
service. The failure to attract and retain subscribers to the Company's
services, or an increase in the rate of subscriber cancellations, would have a
material adverse effect on the Company. The Company historically has experienced
better retention for subscribers under prepaid term plans than subscribers under
month-to-month plans. Under prepaid term plans, subscribers choose to prepay for
longer terms at reduced monthly rates. The Company recognizes revenue related to
prepaid online service fees over the period services are provided on a straight-
line basis. The Company ceased offering prepaid term plans in 1995 but
reinstated such term plans in January 1997.
The Company historically has experienced seasonality in its business, with
higher expenses during the last and first fiscal quarters, corresponding to the
Christmas and post-Christmas selling season, and lower timed usage revenues
(revenues from hourly usage charges) during its second and third fiscal quarters
resulting from reduced usage of its services during the summer months. The
Company believes that the seasonal reductions in timed usage revenues
historically experienced by the Company will be mitigated by the movement from
timed usage plans to unlimited usage plans as well as growth in the Company's
subscriber base, although the company expects to continue to have higher
expenses during its first and fourth quarters. As a result of the seasonality of
its business, as well as other factors, the Company experiences quarterly
fluctuations in it its operating results.
Results of Operations
The Company's total revenues have two components: Internet and online
service revenues, consisting of subscription revenues from subscribers to
Prodigy Internet and Prodigy Classic, and other revenues, consisting of
advertising and transaction fees, as well as fees from a management contract
with Telmex under which Prodigy provides certain management and consulting
services to Telmex's Internet subsidiary Prodigy Internet de Telmex.
Subscription revenues include revenues from hourly usage charges ("timed usage
revenues"). The Company defines "billable" subscribers as subscribers who remain
enrolled beyond completion of the applicable trial period or who enroll in a
money-back guarantee program.
Internet revenues
Subscription revenues for Prodigy Internet increased $12.9 million, or 86%,
from $15.0 million for the three months ended March 31, 1998 to $27.9 million
for the three months ended March 31, 1999. The number of Prodigy Internet
billable subscribers increased 259,000, or 79%, from 327,000 at March 31, 1998
to 586,000 at March 31, 1999, representing 51% and 83% of total billable
subscribers at March 31, 1998 and March 31, 1999, respectively. Prodigy Internet
subscribers accounted for 70% and 90%, respectively, of total network usage
during the three months ended March 31, 1998 and March 31, 1999. Subscription
revenues from Prodigy Classic decreased $9.5 million, or 59%, from $16.2 million
in the three months ended March 31, 1998 to $6.7 million in the three months
ended March 31, 1999 as the number of Prodigy Classic billable subscribers
decreased from 314,000 at March 31, 1998 to 124,000 at March 31, 1999. The
Company intends to discontinue Prodigy Classic in the fourth quarter of 1999.
Total billable subscribers increased by 69,000, or 11%, from 641,000 at March
31, 1998 to 710,000 at March 31, 1999. Timed usage revenues decreased $.9
million, or 56%, from $1.6 million in the three months ended March 31, 1998 to
$.7 million in the three months ended March 31, 1999. The decrease in timed
usage revenues associated with Prodigy Classic was offset by an increase in
average revenue per billable subscriber primarily due to the higher-priced plans
for unlimited usage associated with Prodigy Internet.
Other revenues
Other revenues decreased $.8 million, or 38%, primarily as a result of the
Company's sale and divestiture of its operations in Africa and China,
respectively. This decrease was offset, in part, by the commencement in February
1999 of the management agreement with Telmex under which the Company receives
a percentage of the monthly net revenues from Telmex's Internet subscribers.
As a result of the foregoing factors, total revenues increased by $2.5
million from $33.4 million in the three months ended March 31, 1998 to $35.9
million in the three months ended March 31, 1999.
Cost of revenues
Cost of revenues includes network and content expenses. Content expenses consist
of the costs of developing, or obtaining from third parties, content for
inclusion in the Company's service offerings. Cost of revenues decreased from
$26.6 million in the three months ended March 31, 1998 to $23.5 million in the
three months ended March 31, 1999. This decrease was attributable to a $1.0
million reduction in content expense resulting from the Company's outsourcing
arrangement with Excite which commenced in April 1998 and to the elimination of
$.8 million of cost associated with the Company's African Internet operations
which were sold in October 1998. In addition, the Company benefited from its
network outsourcing arrangement with Splitrock by reaching the contractual "cap"
of its monthly network charges in April 1998 and, effective January 1999, by
securing a more favorable rate for a certain category of subscriber. As a result
of these factors, network usage, which increased 68% in the three months ended
March 31, 1999 compared to the three months ended March 31, 1998 due to the
shift of the subscriber base from timed usage to unlimited usage plans,
decreased approximately $1.3 million in the three months ended March 31, 1999.
Marketing
Marketing expense includes the costs to acquire and retain subscribers,
advertising and other general sales and marketing costs. Marketing expense
increased $5.5 million, or 79%, from $7.0 million in the three months ended
March 31, 1998 to $12.5 million in the three months ended March 31, 1999. During
the three months ended March 31, 1998, the Company temporarily suspended certain
of its sales and marketing programs in response to network performance issues
encountered during the initial roll-out of the new Splitrock network. By
contrast, during the three months ended March 31, 1999, the Company incurred
approximately $4.1 million in broadcast media and production expense in
connection with the "There Is A Choice" advertising campaign.
Product development
Product development expense includes research and development costs and
other product development costs. Product development expense increased from $3.4
million in the three months ended March 31, 1998 to $3.9 million in the three
months ended March 31, 1999. In the 1998 period, product development activities
centered on integration and stabilization of the Splitrock network and
transition to the co-branded Prodigy/Excite content platform for Prodigy
Internet. In the three months ended March 31, 1999, product development
activities centered on the development of the Prodigy Hispanic product,
implementing the billing, provisioning and customer service infrastructure to
support the Company's Business Solutions Group, and in developing future Prodigy
Internet product offerings and service enhancements.
General and administrative
General and administrative expense increased from $13.3 million in the
three months ended March 31, 1998 to $14.5 million in the three months ended
March 31, 1999. The increase was primarily attributable to increased subscriber
management and billing charges and higher incentive compensation expense,
including $.3 million of compensation expense incurred in connection with
employee stock options with exercise prices deemed to be below fair market
value.
Restructuring Reserves
During the first quarter of 1999, the Company incurred $.2 million of
expenditures related to the 1997 restructuring reserve. These expenditures
relate to contractual obligations and severance payments identified under the
original plans. The remaining reserve consists primarily of contractual
obligations that Management expects to be used in full by December 31, 2001.
Interest and other income
Interest income/expense, net improved from an expense of $.2 million in the
three months ended March 31, 1998 to income of $1.1 million in the three months
ended March 31, 1999. This improvement was due to higher cash levels following
the Company's initial public offering in February 1999. In addition, during the
three months ended March 31, 1999, the Company recognized a gain of $1.7 million
upon settlement of a note payable to a corporate lender. In the three months
ended March 31, 1998, the Company had recognized a gain of $.4 million from the
sale of proprietary content.
As a result of the foregoing factors, the Company's operating loss
increased from $16.8 million in the three months ended March 31, 1998 to $18.5
million in the three months ended March 31, 1999 and its net loss decreased from
$16.6 million in the three months ended March 31, 1998 to $15.7 million in the
three months ended March 31, 1999.
Liquidity and Capital Resources
Since formation, the Company has relied on private sales of equity
securities (totaling $294.1 million through December 31, 1998), borrowings and
an initial public offering in February 1999 (with net proceeds of $156.5
million) to fund its operations. The Company has incurred significant losses
since inception and, at December 31, 1998, had an accumulated deficit of $292.8
million, a working capital deficit of $33.6 million, current liabilities of
$48.5 million, current assets of $14.9 million and negative cash flow from
operations of $67.9 million. For the three months ended March 31, 1998 and March
31, 1999, the Company incurred negative cash flow from operations of $15.5
million and $7.8 million, respectively.
In February 1999, the Company sold 11,200,000 shares of Common Stock in its
IPO, including 2,000,000 shares of Common Stock sold to Telmex, for aggregate
net proceeds of $156.5 million.
In August 1998, Carso Global Telecom agreed to provide the Company with a
$35.6 million committed revolving line of credit entitling the Company to
borrow, repay and reborrow amounts in minimum increments of $1.0 million prior
to maturity on December 31, 1999. Advances are due 90 days after borrowing, but
the Company is permitted to roll over advances into new advances at its
election. Advances are uncollateralized and bear interest at the LIBOR rate
plus between one and five percentage points (as negotiated on a case-by-case
basis). As of March 31, 1999, no amounts were outstanding under the revolving
line of credit. Carso Global Telecom is the Company's principal stockholder.
As a result of the Company's outsourcing arrangements, the Company has
significantly reduced the level of capital expenditures needed in its
operations. The Company's July 1997 network agreement with Splitrock eliminated
the need for the Company to maintain and upgrade its own network. The Company's
portal content agreement with Excite eliminated the need, beginning in April
1998, for internal development of content and Prodigy Internet customization and
other programming projects. The Company's capital expenditures for the year
ended December 31, 1998 were $2.6 million, primarily for the purchase of data
processing equipment. For the three months ended March 31, 1999, the Company's
capital expenditures were $3.2 million, principally for the purchase and
implementation of a new subscriber management system with enhanced customer
care, data mining and marketing program management capabilities, the purchase
and implementation of a new accounting and financial reporting system and the
purchase of new equipment for Prodigy Internet.
At March 31, 1999, the Company had available cash and cash equivalents of
$127.8 million. In addition, the Company invested $32.2 million in short term
financial instruments. The Company is currently experiencing substantial
negative cash flow each month and expects to continue to experience negative
cash flow through at least the end of 1999. The Company's future financing
requirements will depend on a number of factors, including the Company's
operating performance and increases in operating expenses associated with growth
in the Company's business. Based upon its current operating plan, the Company
believes that the net proceeds from the IPO and available financing under its
revolving credit facility with Carso Global Telecom, will be sufficient to meet
its anticipated cash requirements for at least the next twelve months.
Year 2000 Readiness
The Year 2000 issue is the result of computer programs being written using
two digits (rather than four) to define the applicable year. Computer programs
that have time-sensitive software may recognize a date using ''00'' as the year
1900 rather than the year 2000. This could result in a system failure or
miscalculations causing disruptions of operations, including among other things,
a temporary inability to process transactions, send invoices or engage in other
normal business activities. The Company maintains various internal computer
systems and equipment and contracts with third-party vendors for the provision
of computerized customer billing, network operation, Prodigy Internet service
content and certain other information technology and other services.
The Company is currently incurring costs to resolve the potential impact of
the year 2000 on the processing of date-sensitive information by the Company's
internal computer systems and equipment and the computer systems and equipment
of the third-party vendors on which the Company's business relies. The Company
has established a Year 2000 project office staffed by Company personnel and
assisted by a consulting firm.
The Company has completed an inventory of substantially all of its internal
systems and programs related to both the delivery of the Prodigy Internet
service and the daily operations of the business. Based on its preliminary
analysis, the Company estimates that it will spend approximately $9.5 million
through the end of 1999 to remediate potential Year 2000 problems with its
internal systems and to purchase and implement a new member management system
with enhanced customer care, data mining and marketing program management
capabilities that will replace a system that is not Year 2000 compliant. Prodigy
Classic is not Year 2000 compliant and the Company intends to discontinue
Prodigy Classic in the fourth quarter of 1999. See ''--Certain Factors That May
Affect Future Operating Results."
The Company is developing contingency plans in the event that any critical
service component or business process fails due to a Year 2000 problem. The
Company expects to complete contingency planning by mid-1999. With respect to
critical third-party vendor systems, (i) Splitrock has publicly reported that
substantially all of its information and non-information technology systems are
Year 2000 compliant (and that upgrades are available for those software systems
that are not Year 2000 compliant that will enable Splitrock to be Year 2000
compliant by mid-1999), (ii) Excite has publicly reported that it has not yet
fully evaluated the Year 2000 compliance status of its proprietary systems or
services, or the third-party equipment and software it utilizes or of its
vendors, joint venture partners and content partners, and (iii) Prodigy's
billing provider has committed to making its billing system Year 2000 compliant.
There can be no assurance that the Company will be able to address, in a timely
fashion, all potential Year
8
<PAGE>
2000 problems, or that the systems of the third-party vendors upon which the
Company's business relies (and the maintenance and operation of which are not
within the control of the Company) will be Year 2000 compliant or will become
Year 2000 compliant in a timely manner. Any Year 2000 problems could impact the
provision of products or services to the Company's customers and could subject
the Company to the risk of litigation, lost revenues and loss of current or
future customers.
Recent Pronouncements
During the first quarter of 1999 the company adopted the American Institute
of Certified Public Accountants ("AICPA") Statement of Position ("SOP") 98-1
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use". All internal software is recorded by the Company in accordance
with the above mentioned pronouncement and is depreciated over three years
beginning on the date the software is put in use.
In January 1999, the Company adopted SOP 98-5 "Reporting on the Costs of
Start-up Activities." SOP 98-5 provides guidance on the financial reporting of
start-up costs and organization costs. It requires the costs of start-up
activities and organization costs to be expensed as incurred. As the Company
has expensed these costs historically, the adoption of this standard did not
have a significant impact on the Company's results of operations, financial
position or cash flows.
Certain Factors That May Affect Future Operating Results
The cautionary statements set forth below and elsewhere in this Report, as
well as in the Company's latest Annual Report on Form 10-K, identify important
risks and uncertainties that could materially adversely affect our business,
financial condition, results of operations or prospects.
Since our inception, we have incurred significant losses. There can be no
assurance that we will achieve or sustain profitability.
Our industry is intensely competitive and includes many significant
participants, including: ISPs, proprietary online service providers, major
international telecommunications companies, Internet-search services and various
other telecommunications companies. We also face competition from companies
that provide broadband connections to households, including: local and long-
distance telephone companies, cable television companies, and electric utility
companies. Many of our current and future competitors have substantially greater
financial, marketing and technical resources than us. There can be no assurance
we will compete effectively. The Telecommunications Act and strategic alliances
or consolidation among ISPs may result in additional competitive pressures.
Subscriber cancellations may materially adversely affect the results of
operations of ISPs, including Prodigy. Customer acquisition expenses and the
administrative expenses of enrolling and assisting new subscribers are
substantial. The failure to attract and retain subscribers to our services, or
an increase in, or a failure to slow, the rate of subscriber cancellations,
would have a material adverse effect on us.
The Internet services industry is highly fragmented, consisting of more
than 5,000 ISPs in the United States, and is expected to undergo substantial
consolidation over the next few years. Any failure to expand our business
through acquisitions may materially adversely affect our competitive position.
Any acquisitions that we make may involve risks, including the successful
integration and management of acquired operations and personnel. The integration
of acquired businesses may also divert management's attention from other
business matters. This could materially adversely affect our business.
Our subscriber traffic is carried on a network owned and operated by
Splitrock. The failure by Splitrock for any reason to provide network services
as required, or any significant
9
<PAGE>
disruption in such services, whether for technical, operational, financial or
other reasons, would have a material adverse effect on us.
The security measures employed by Splitrock and us cannot assure complete
protection from security problems. The occurrence of these problems may result
in claims against us and could adversely affect us or our ability to attract and
retain customers. In addition, the occurrence of a natural disaster or other
unanticipated technical or other problems in Splitrock's network or our data
hosting center, or the failure of telecommunications providers to provide
required data communications capacity for any reason, could cause interruptions
in our services.
In addition to our network arrangements with Splitrock, we have outsourced
our content to Excite and aspects of our customer service and billing functions
to several providers. We also rely on local telephone and other companies to
provide data communications capacity via local telecommunications lines and
leased long-distance lines. The failure of these providers to provide services
as required, or any significant disruption of or deterioration in services,
would have a material adverse effect on us.
A majority of our Prodigy Internet enrollments arise from bundling
arrangements with PC manufacturers and our relationship with Microsoft. The loss
of relationships with Packard Bell/NEC or Microsoft or any significant reduction
in enrollments from these sales channels would have a material adverse effect on
us.
We intend to discontinue Prodigy Classic in the fourth quarter of 1999.
Prodigy Classic has been a significant source of revenue and subscribers to
Prodigy Internet. The termination of Prodigy Classic could adversely affect our
results of operations.
Our industry is characterized by rapid technological change resulting in
dynamic customer demands and frequent new product and service introductions. As
a result, markets can change rapidly. Our future results will depend in part on
our ability to make timely and cost-effective enhancements and additions to our
services that achieve market acceptance.
Our ability to compete successfully is dependent upon the continued
compatibility of our services with the technologies of others. Although we
intend to support emerging standards in the market for Internet access, we can
give no assurance that our products will conform to new standards in a timely
fashion.
Our business strategy includes the introduction of new services and entry
into new markets. We can give no assurance that we will be successful in
offering new services and entering new markets as planned or that any new
services will achieve market acceptance.
Our future financing requirements will depend on many factors, including
our operating performance and increases in operating expenses associated with
growth in our business. Adequate additional financing may not be available on
acceptable terms when needed.
We experience quarterly fluctuations in our operating results due to many
factors, including: the seasonality of our business, changes in the level of
consumer spending during
10
<PAGE>
business cycles, the timing of introduction of new and enhanced services by us,
pricing changes, competitive factors and other factors discussed herein. We
historically have experienced seasonality in our business. Accordingly, we
believe that quarter-to-quarter comparisons of operating results may not be
meaningful or indicative of future results.
Our ability to exploit the market for our products and services and increase
our subscriber base requires an effective planning and management process. Our
ability to plan and manage effectively will require us to continue to implement
and improve our operational, financial and management information systems. We
will also be required to attract and retain skilled personnel. Competition for
key personnel is intense, and there can be no assurance that we will be
successful in attracting and retaining necessary personnel.
Changes in the regulatory environment relating to the telecommunications
and media industry could adversely affect us.
See also "-- Year 2000 Readiness."
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Not Applicable.
11
<PAGE>
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
Not Applicable
Item 2. Changes in Securities and Use of Proceeds
SALES OF UNREGISTERED SECURITIES
The following is a description of the unregistered securities sold by the
Company during the period from January 1, 1999 through March 31, 1999:
From January 1, 1999 through February 11, 1999 (the date of effectiveness
of certain Registration Statements on Form S-8 filed by the Company), the
Company granted stock options to employees, directors, officers and consultants
to purchase an aggregate of 281,176 shares of Common Stock with exercise prices
ranging from $9.00 to $12.00 per share. During this same period, the Company
issued an aggregate of 833 shares of Common Stock, for aggregate cash proceeds
of $3,332, pursuant to the exercise of stock options.
The securities issued in the foregoing transactions were offered and sold
in reliance upon exemptions from registration set forth in Sections 3(b) and
4(2) of the Securities Act, or regulations promulgated thereunder, relating to
sales by an issuer not involving any public offering, or an exemption from
registration under Rule 701 of the Securities Act. No underwriters or placement
agents were involved in the foregoing issuances and sales.
USE OF PROCEEDS
The effective date of the Company's first registration statement, filed on
Form S-1 under the Securities Act of 1933 (No. 333-64233), relating to the
Company's initial public offering of its Common Stock and simultaneous sale
shares to a stockholder of the Company and registering 11,200,000 shares, was
February 10, 1999.
The following table sets forth the underwriting discounts and commissions
and other expenses incurred by the Company from February 10, 1999 through March
31, 1999 in connection with the issuance and distribution of such securities.
All amounts shown are estimates.
<TABLE>
<S> <C>
Underwriting discounts and commissions $ 9,315,000
Nasdaq National Market listing fee 142,000
Blue Sky fees and expenses 64,000
</TABLE>
12
<PAGE>
<TABLE>
<S> <C>
Transfer Agent and Registrar fees 12,000
Accounting fees and expenses 609,000
Legal fees and expenses 542,000
Printing and mailing expenses 379,000
Miscellaneous 448,000
------------
Total $ 11,511,000 ($2,196,000,
excluding
underwriting
discounts
and commissions)
================
Net Proceeds $156,489,000
============
</TABLE>
None of such expenses involved direct or indirect payments to directors or
officers of the Company or their associates, 10% stockholders of the Company, or
affiliates of the Company.
From February 10, 1999 to March 31, 1999, the Company invested all of
the proceeds from the initial public offering in a money market fund and other,
short term financial instruments.
Item 4. Submission of Matters to a Vote of Security Holders
None.
13
<PAGE>
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits.
The exhibits listed on the Exhibit Index are filed herewith.
(b) Reports on Form 8-K
None.
14
<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.
PRODIGY COMMUNICATIONS
CORPORATION
Date: May 17, 1999 /s/ David R. Henkel
-------------------------------
David R. Henkel
Executive Vice President, Finance,
and Chief Financial Officer
(Principal Financial and Accounting
Officer)
15
<PAGE>
Exhibit Index
Exhibit Number Title
- - -------------- -----
27 Financial Data Schedule
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<S> <C> <C>
<PERIOD-TYPE> 12-MOS 3-MOS
<FISCAL-YEAR-END> DEC-31-1998 DEC-31-1999
<PERIOD-END> DEC-31-1998 MAR-31-1999
<CASH> 12,180 127,826
<SECURITIES> 0 32,221
<RECEIVABLES> 1,333 1,445
<ALLOWANCES> 367 266
<INVENTORY> 0 0
<CURRENT-ASSETS> 14,943 163,417
<PP&E> 33,205 36,380
<DEPRECIATION> 20,207 22,087
<TOTAL-ASSETS> 78,332 225,026
<CURRENT-LIABILITIES> 48,540 50,459
<BONDS> 0 0
0 0
0 0
<COMMON> 450 609
<OTHER-SE> 29,342 173,958
<TOTAL-LIABILITY-AND-EQUITY> 78,332 225,026
<SALES> 128,908 34,588
<TOTAL-REVENUES> 136,140 35,926
<CGS> 99,213 23,527
<TOTAL-COSTS> 206,625 54,434
<OTHER-EXPENSES> (6,717) (2,778)
<LOSS-PROVISION> 0 0
<INTEREST-EXPENSE> 1,315 0
<INCOME-PRETAX> (65,083) (15,730)
<INCOME-TAX> 0 0
<INCOME-CONTINUING> (65,083) (15,730)
<DISCONTINUED> 0 0
<EXTRAORDINARY> 0 0
<CHANGES> 0 0
<NET-INCOME> (65,083) (15,730)
<EPS-PRIMARY> ($1.60) (0.29)
<EPS-DILUTED> ($1.60) (0.29)
</TABLE>
