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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934 (NO FEE REQUIRED,
EFFECTIVE OCTOBER 7, 1996)
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1996
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 0-27658
PREFERRED NETWORKS, INC.
(Exact name of Registrant as specified in its charter)
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Delaware 58-1954892
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
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850 Center Way, Norcross, Georgia 30071
(Address of principal executive offices, including zip code)
(770) 582-3500
(Registrant's telephone number, including area code)
Securities Registered Pursuant to Section 12(b) of the Act: NONE
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock, $.0001 par value
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 by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to
the best of Registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
The aggregate market value of the voting stock held by non-affiliates of
the Registrant based upon the closing sales price of the Registrant's Common
Stock on the Nasdaq Stock Market on April 7, 1997 was approximately
$28.3 million.
As of April 7, 1997, 16,080,559 shares of the Registrant's Common Stock
were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
None
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TABLE OF CONTENTS
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PART I PAGE
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Item 1. Business............................................................. 3
2. Properties........................................................... 13
3. Legal Proceedings.................................................... 13
4. Submission of Matters to a Vote of Security Holders.................. 14
Executive Officers of the Registrant................................. 14
PART II
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Item 5. Market for Registrant's Common Equity and Related Stockholder
Matters............................................................. 16
6. Selected Financial Data.............................................. 18
7. Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................... 19
8. Financial Statements and Supplementary Data.......................... 28
9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure............................................ 47
PART III
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Item 10. Directors and Executive Officers of the Registrant................... 48
11. Executive Compensation............................................... 49
12. Security Ownership of Certain Beneficial Owners and Management....... 51
13. Certain Relationships and Related Transactions....................... 53
PART IV
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Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K...... 53
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PART I
ITEM 1. BUSINESS
GENERAL
Preferred Networks, Inc. (the "Company") provides outsourcing services to
the wireless industry and currently serves over 1,400 companies, including nine
of the ten largest paging companies, the two largest manufacturers of wireless
network infrastructure, one of the two largest cellular product manufacturers,
and two regional Bell operating companies. The Company commenced operations in
1991 as a carrier's carrier of one-way paging networks, whereby the Company's
customers purchase wholesale network services and resell the services to their
subscribers. The Company does not market its services directly to end users
and therefore does not compete with its customers for their subscribers.
During the second half of 1996, the Company began to broaden its service
offerings and expand its customer base through two acquisitions of businesses
which provide non-network services. In July, the Company acquired Preferred
Technical Services, Inc. ("PTS"), a provider of paging network equipment
installation, maintenance and engineering services. In December, the Company
acquired EPS Wireless, Inc. ("EPS"), a national provider of paging and cellular
product repair services, sales of new, used and refurbished paging and cellular
products and inventory management services.
The Company's outsourcing services enable companies to offer branded
wireless services directly to subscribers, while relying on the Company to
provide high-quality network, technical and product services at competitive
prices. The Company's strategy supports the growth of the wireless industry by
providing wholesale services to other network carriers and resellers, which in
turn market branded products and services to their subscribers. The Company's
services generally support its customers' low-cost, one-way consumer wireless
applications, rather than higher-cost two-way applications. The Company is
able to provide outsourcing services efficiently and at competitive prices due
to: (i) the reduced operating costs associated with its centralized network
architecture and its primary use of a low-cost, high-power paging frequency;
(ii) the cost benefits of providing product and inventory to many companies
with many subscriber bases rather than to a single subscriber base; and (iii)
its reduced overhead costs as a result of not having to support the cost of
sales, marketing and customer support organizations directed to subscribers.
INDUSTRY BACKGROUND
The commercial wireless communications industry began in 1949 when the
Federal Communications Commission (the "Commission" or the "FCC") allocated a
group of radio frequencies for use in providing one-way and two-way mobile
communications services. According to industry sources, the largest component
of the wireless market today remains one-way signaling. Historically, the
paging industry has consisted of a highly fragmented, large number of small
operators, providing one-way paging services principally to professional
business segments. The paging industry has expanded to serve an increasingly
broad customer base as business customers and consumers have become
increasingly aware of the benefits of one-way and two-way wireless services,
including cellular telephone services, personal communication services ("PCS")
and premium one-way paging services. Industry sources estimate that the U.S.
market for one-way, traditional paging services has grown from approximately
one million subscribers in 1980 to 34.5 million subscribers in 1995 and is
estimated to reach 54.8 million subscribers by 2000. Furthermore, according to
industry sources, the lowest cost one-way paging service, digital display
paging, has been the dominant component of this growth, representing 87% of all
pagers in service in 1993, 1994 and 1995. Factors contributing to this growth
include: (i) greater penetration of paging services into mainstream consumer
markets; (ii) reduced pager and service costs to subscribers driven by
technological improvements and competition; (iii) wider area coverage; (iv)
increased reliability of paging services; (v) enhanced applications of one-way
paging services, such as voice mail, facsimile and other methods of data
transmission; and (vi) the FCC auction process of new spectrum for one-way
paging services.
Historically, paging companies held a license for a radio frequency,
constructed network facilities over which to deliver their services
("carriers") and marketed paging services to subscribers through direct sales
forces. As the
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market for wireless services has expanded, additional channels of distribution
have evolved, including companies that do not build their own networks but
instead purchase network services from carriers on a wholesale basis in order
to resell paging services to subscribers ("resellers"). Many carriers also
operate as resellers in certain geographic markets where they have expanded
their effective coverage area without additional network infrastructure
investment.
Furthermore, increased consumer demand for wireless services has resulted
in increased emphasis on direct sales and marketing to non-commercial
subscribers, with retail distribution emerging as an effective sales outlet for
products. These retail channels include stores owned by carriers as well as
retailers that stock products and resell services to subscribers either
directly or through an affiliation with a third-party network carrier or
reseller. Increased consumer demand for wireless services has also created
opportunities for direct marketing and customer billing organizations to bundle
services with other offerings and outsource the network services to a carrier,
such as the Company. Such potential resellers include utility companies,
credit card companies, mail-order catalogs and televised home shopping
companies.
While the number of pagers in service has grown dramatically since the FCC
authorized additional paging channels in the 1980s, increased competition has
forced wireless carriers and resellers to lower their prices, with monthly
average revenue per unit ("ARPU") for one-way paging services steadily
declining from $16.92 in 1990 to $10.51 in 1995, according to industry sources.
The Company believes that monthly ARPU will continue to decline. At the same
time, consumers are demanding wider coverage areas, enhanced services and
greater reliability, requiring carriers to continually expand and upgrade their
networks. Additionally, service providers have increasingly provided pager and
cellular products to their customers below cost in order to add subscriber
service units, resulting in an active market for refurbished products. The
Company believes that it is well-positioned to benefit from the trends which
are driving growth in the paging industry and that these trends will lead to
increased outsourcing by carriers and resellers of the services provided by the
Company.
OUTSOURCING SERVICES FOR THE WIRELESS INDUSTRY
NETWORK SERVICES. The Company's one-way paging networks provide wide-area
coverage and flexible service options at competitive prices to companies which
in turn resell paging services to subscribers under their own brand names. The
Company's network strategy is to provide local and regional network services,
primarily on a common frequency, in the 50 largest U.S. metropolitan markets
and adjacent areas. During 1996, the Company expanded its paging networks from
the Southeast and Mid-Atlantic regions to the Northeast, Midwest and North
Central regions. The Company employs an efficient network architecture
utilizing regional Technical Control Centers ("TCCs") that enable it to
centrally control paging networks in multiple local markets within a wide
geographic region. As of December 31, 1996, the Company operated five such
TCCs, which supported the Company's paging networks in 21 markets. The Company
has completed its sixth TCC, serving the Northwest region of the United States,
and is currently constructing one additional TCC to serve the California
region of the United States. The Company had previously intended to construct
a total of ten TCCs, but now intends to construct only seven TCCs and service
the remaining markets with additional Remote Points of Presence ("R-POPs").
The Company currently utilizes R-POPs to service various other cities located
in the area each TCC services. Each R-POP, which houses local telephone
lines, power back ups and alarm systems, will be connected to a TCC via a
dedicated T-1 circuit.
The Company is licensed, or has licenses pending, to operate 157.740 MHz
frequency networks in 48 of the 50 largest U.S. metropolitan markets and
adjacent areas. The Company's TCC platform can support multiple wireless
frequencies, and the Company is augmenting its 157.740 MHz networks by
purchasing and consolidating existing networks licensed on other frequencies in
order to broaden its customer base and offer additional capacity and
flexibility to its customers.
The Company believes that it is the largest carrier's carrier of
exclusively wholesale one-way paging network services in the United States,
although the number of units on the Company's networks currently represents
only a small percentage of the total number of paging subscribers
industry-wide.
TECHNICAL SERVICES. In July 1996, the Company acquired PTS. Established
in 1991, PTS today provides technical services to three of the five largest
paging companies and to the two largest manufacturers of wireless network
infrastructure. PTS is the exclusive authorized repair facility for the first
generation wireless paging terminal manufactured by Glenayre Electronics Inc.
("Glenayre"). PTS is also an authorized provider of repair and
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maintenance of the Unipage terminal for Motorola, Inc. ("Motorola"). PTS also
provides installation and maintenance of equipment for other carriers in the
carriers' own network facilities as well as for customers that co-locate
terminal equipment in one of the Company's TCCs. PTS intends to expand
nationwide by locating engineering personnel at each of the Company's TCCs.
Randall Johnson serves as President of PTS.
PRODUCT SERVICES. In December 1996, the Company acquired EPS, which is
located in Dallas, Texas. EPS provides paging and cellular product repair
services, sales of new, used and refurbished paging and cellular products and
inventory management services. EPS provides its product services to four of
the five largest paging companies and one of the two largest cellular product
manufacturers. EPS provides the Company with improved cost economies to meet
the growing demand for alternative product and inventory solutions. EPS also
broadens the Company's customer base by supporting companies in markets where
the Company does not currently operate networks and by supporting additional
wireless services and frequencies that do not operate on the Company's
networks. David Lopez, Jr. and Steven D. Teel serve as Chief Executive Officer
and President of EPS, respectively.
STRATEGY AND CUSTOMERS
The Company's outsourcing services strategy enables any type of
organization that offers or seeks to offer paging services to focus its
resources on sales and marketing to subscribers, while purchasing high-quality
network, technical and product services from the Company at competitive prices.
The Company currently serves over 1,400 companies, including nine of the ten
largest paging companies, the two largest manufacturers of wireless network
infrastructure, one of the two largest cellular product manufacturers, and two
regional Bell operating companies. The Company believes its strategy enables
its customers to compete more effectively for subscribers. By outsourcing
these services to the Company, the Company's customers are able to market
wireless services to subscribers at competitive prices under their own brand
names.
NETWORK SERVICES. The Company's network customers and potential network
customers include any type of organization that offers or seeks to offer paging
and other wireless services directly to subscribers. These organizations
generally fall into one of four broad categories:
- independent carriers whose principal business is the provision of
paging services in multiple markets;
- small, single market paging carriers and resellers;
- large telecommunications companies such as local exchange carriers,
long distance carriers, cable companies and cellular telephone
companies, for which paging is one of many services offered and not
a principal business; and
- non-traditional wireless service providers whose principal business
is not telecommunications, such as utility companies
and distributors of mass-market consumer products and services, that
seek to bundle wireless services with other offerings.
The Company's installed base of network customers as of December 31,
1995 achieved an increase of 31% in total pagers in service on its networks
during 1996. The Company's installed base of network customers as of
December 31, 1994 achieved an increase of 43% in total pagers in service on
its networks during 1995 compared to an overall annual industry growth rate
of 31%, according to industry sources.
The Company groups its network customers into two principal categories
based on the nature of the services it provides: (i) traditional, or
non-facilities-based, resellers that purchase both airtime and switching
services from the Company and (ii) "co-location/interconnection" customers that
purchase only airtime on the Company's networks.
- Traditional Resellers. Traditional resellers do not own their own
switching terminal equipment or procure their own telephone
numbers from local exchange carriers. Traditional resellers route
their subscriber paging traffic through the Company's TCCs, utilize
local telephone numbers procured by the Company and purchase airtime
on the Company's networks from the Company. The Company charges its
traditional reseller customers a monthly fixed price per unit in
service based on a number of factors, including type of paging
service, extent of coverage area, unit volume and utilization of
switch-based, value-added services such as voice mail and custom
prompts. These customers generally consist of local and regional
resellers and paging carriers.
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- Co-location/Interconnection Customers. Co-location/interconnection
customers own their own switching terminal equipment and procure
their own telephone numbers from local exchange carriers. These
customers purchase airtime and, in the case of co-location customers,
terminal equipment maintenance services from the Company. These
customers either locate their switching terminal equipment in
the Company's TCC facilities (co-location), or remotely connect their
equipment to the Company's TCC through a direct circuit, such as a
telephone line or satellite link (interconnection). By owning their
own switching equipment and procuring their own telephone numbers,
co-location/interconnection customers are able to maintain
flexibility in the design of their service offerings, including
custom prompts, voice mail and other customized services. The
Company incurs minimal marginal cost in supplying only airtime to its
co-location/interconnection customers and therefore charges these
customers substantially less per unit in service per month than it
charges its traditional reseller customers. Because co-location
customers physically install their switching terminal equipment at
one of the Company's TCCs and obtain terminal maintenance services
from the Company, the Company believes that these customers are able
to reduce their own switch maintenance costs.
Co-location/interconnection customers generally consist of larger
resellers and paging carriers.
TECHNICAL SERVICES. The Company's technical services customers consist of
manufacturers and facilities-based carriers that contract with the Company to
install wireless terminal and transmitter equipment and provide repair and
on-going maintenance services. These customers include
co-location/interconnection customers that also purchase network services from
the Company, as well as customers that house terminals in one of the Company's
TCCs in order to offer other wireless services operating on their own networks.
PTS increases the Company's ability to serve existing network customers and
expands the Company's customer base by supporting companies that market other
one-way and two-way wireless services, including Bell operating companies and
PCS carriers. PTS provides its engineering services to Glenayre under an
annual maintenance contract and typically contracts with other customers on a
project-by-project basis.
PRODUCT SERVICES. The Company's product services customers consist of
facilities-based carriers and resellers that market paging or cellular
services. EPS also provides repair services directly to wireless equipment
manufacturers. EPS increases the Company's capacity to serve existing network
customers and expands the Company's customer base by serving companies in
markets where the Company does not currently operate networks and by supporting
additional wireless services and frequencies that do not operate on the
Company's networks. These customers are able to capitalize on the Company's
repair facilities, inventory management systems and product supply resources
and therefore are able to offer expanded product options to their subscribers
and reduce their own product costs.
IMPLEMENTATION
SELL MULTIPLE SERVICES. During the second half of 1996, the Company began
to broaden its service offerings and expand its customer base through two
acquisitions of businesses which provide non-network services. The Company is
focusing on providing multiple services to its customers and marketing
outsourcing programs to larger companies.
COMPLETE NATIONWIDE BUILD-OUT OF NETWORKS. The Company intends to expand
its network operations on a nationwide basis to provide local and regional
paging network services, primarily on one or more common frequencies. During
1996, the Company expanded its paging networks from the Southeast and
Mid-Atlantic regions to the Northeast, Midwest and North Central regions. The
Company currently operates paging networks in 21 markets and intends to expand
its 157.740 MHz networks to the 50 largest U.S. metropolitan markets and
adjacent areas by adding one additional TCC and several R-POPs. The Company
will rely in part on continued arrangements with its vendors to provide program
management services, including construction and installation of equipment. In
addition, the Company intends to continue to supplement its 157.740 MHz
networks through the addition of paging networks operating on other frequencies.
The following table outlines the present status of the Company's network
build-out:
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REGION (LOCATION OF TCC) AS OF DECEMBER 31, 1995 AS OF DECEMBER 31, 1996
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Southeast (Atlanta, Georgia) In Service In Service
Mid-Atlantic (Washington D.C.) In Service In Service
Northeast (Poughkeepsie, New York) Under Construction In Service
Midwest (Chicago, Illinois) Under Construction In Service
North Central (Detroit, Michigan) Planned In Service
Mountain Planned Under Construction
Northwest (Seattle, Washington) * Planned Under Construction*
Northern California Planned Under Construction
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Southern California Planned Planned
Southwest Planned Planned
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* In service as of March 1997.
In January 1997, the Company announced an agreement with Teletouch
Communications, Inc. ("Teletouch") to jointly share common radio frequency
("RF") transmitters in selected metropolitan markets in the Southeast and
Midwest on the commonly held FCC frequency of 157.740 MHz. Under the terms of
the agreement, the Company and Teletouch each will control the RF in specific
markets and will provide reciprocal rights for interconnect facilities through
the Telecator Network Paging Protocol ("TNPP"). The agreement is for an
initial period of 10 years and will continue for successive one-year terms.
The Company believes this agreement will more efficiently utilize the 157.740
MHz channel capacity and will reduce the Company's capital expenditure
requirements for its network infrastructure in certain markets.
FOCUS ON CO-LOCATION/INTERCONNECTION NETWORK CUSTOMERS. The Company
intends to direct its primary network services focus towards building its
co-location/interconnection customer base. Although the Company will continue
to service its reseller customers, it intends to direct its efforts toward
adding new customers that are co-location/interconnection customers and
inducing, to the extent feasible, its reseller customers to move to
co-location/interconnection services, setting up relationships between the
Company's current co-location/interconnection customers and its reseller
customers, or otherwise.
Generally co-location/interconnection accounts produce lower revenues per
unit in service, but the costs associated with servicing those accounts are
lower. In addition, the Company believes that co-location/interconnection
customers tend to be larger and more stable since they have invested in paging
terminals and related equipment themselves, and are therefore more likely to
enter into and maintain longer term relationships with the Company. The
Company believes that focusing on co-location/interconnection customers will
have further advantages in that those customers are often able to provide better
local real-time service to smaller local resellers than the Company.
EXPAND PRODUCT SALES OPPORTUNITIES. The Company has historically offered
pagers to its network customers as part of its efforts to add service units
through these customers. The Company is presently integrating all of its
product sales and inventory activity into its subsidiary, EPS. EPS will
continue to offer pager product to the Company's network customers and intends
to develop an expanded supply of refurbished product for the Company's
networks. EPS typically is able to achieve a lower cost of product for
refurbished product compared to new product purchased by the Company directly
from the manufacturers. The Company has historically purchased primarily new
product for resale to its network customers and expects that an increased
offering of refurbished product will enable it to expand its product sales
opportunities and reduce its overall product costs.
PURCHASE SELECTED NETWORKS. The Company has purchased existing paging
networks and related licenses to supplement its local and wide-area 157.740 MHz
networks. By selling their network assets to the Company and subsequently
purchasing network services from the Company as a reseller, operators can focus
their resources on subscriber sales and marketing, enabling them to compete
more effectively for subscribers. The Company has also purchased networks in
which the Company assumed the customer bases, in instances where the purchased
network served the reseller channel of distribution. The Company has not
purchased direct subscriber bases which would result in its competing with its
customers for subscribers. Once purchased, these networks are modified by the
Company, as necessary, to ensure that they meet the Company's standards, and
are integrated into the Company's TCC operating platform. As of December 31,
1996, the Company had completed 19 network purchases in 12 markets, nine of
which were on frequencies other than 157.740 MHz, including 152.60 MHz, 152.84
MHz, 158.10 MHz, 462.80 MHz, 462.825 MHz, and 931.2625 MHz. These purchases
resulted in customer relationships that added an aggregate of 66,000
subscriber units to the Company's networks. As of December 31, 1996, six
additional acquisitions were pending. The Company may continue to pursue such
purchases in the future. In addition to the purchase of network assets and
related licenses, the Company may also pursue the purchase of FCC licenses on
specific frequencies or similar relationships for local and national coverage
for which no network has yet been built.
NETWORK DESIGN AND OPERATIONS
HUB AND SPOKE ARCHITECTURE. The Company intends to control its nationwide
system of local and regional networks from TCCs located in seven cities. Each
TCC is a switching center, housing paging terminals, satellite facilities,
network monitoring systems, local and long distance telephone lines, and
emergency power backup. Each TCC has the capability, via satellite
transmission, to monitor any other TCC operation. Furthermore, the Company's
network operating expenses are reduced by centralizing engineering, telephone
access and technical and maintenance support in the TCCs.
The TCCs are linked to each other via digital satellite channels, which
provide low-cost, flexible transmission. Each TCC is connected to R-POPs,
located in other cities, which house local telephone lines, power back-ups and
alarm systems. Each R-POP is connected to a TCC via a dedicated T-1 circuit
that transports local paging traffic from the R-POP city to the TCC for central
processing. The T-1 lines enable TCCs to process telephone numbers that are
local to the R-POP city. The T-1 connections between TCCs make possible
certain network redundancies and provide fully integrated engineering, billing
and customer support capabilities. The satellite up-link station at each TCC
transmits the paging traffic to other TCCs and to satellite-controlled
transmitters and networks, allowing the Company to extend its network coverage
beyond the metropolitan areas in which the TCCs and R-POPs are located more
rapidly and economically.
HIGH-POWER 157.740 MHZ FREQUENCY. In 1990, the FCC authorized the 157.740
MHz frequency for high-power, wide-area paging transmission on a non-exclusive
basis. Historically, the 157.740 MHz frequency was used for small paging
networks to service local customers, such as hospitals and small businesses.
The Company is licensed or has licenses pending to build and operate 157.740
MHz frequency networks in 48 of the 50 largest U.S. metropolitan markets and
adjacent areas. Implementation of the Company's strategy, however, does not
depend on the exclusive use of the 157.740 MHz frequency. The Company intends
to supplement its 157.740 MHz networks with other frequencies, including
frequencies in the 900 MHz and 450 MHz bands, for additional local coverage.
In
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those areas where 157.740 MHz networks are already operating, the Company
intends either to purchase those networks or to enter into co-channel sharing
arrangements with the paging carriers in accordance with FCC regulations. One
example of a co-channel sharing arrangement is the Company's agreement with
Teletouch.
MULTIPLE FREQUENCY UTILIZATION. The Company intends to utilize the
157.740 MHz frequency as a foundation for its local and regional networks on a
nationwide basis. The Company has selectively purchased and consolidated
existing network assets with licenses in the 150 MHz, 450 MHz and 900 MHz
bands to provide greater customer flexibility in densely populated markets and
may continue to do so in the future.
The Company estimates that there are thousands of separately owned
paging networks in the United States. Many of these networks were built by
small carriers and special purpose operators (such as hospitals and
universities) that are unable to invest, or have elected not to invest, in
upgraded network facilities to meet current subscriber demand. By selling
their network assets and FCC licenses to the Company and purchasing network
services from the Company as a reseller, these operators can focus their
resources on building their subscriber bases.
SALES, MARKETING AND CUSTOMER SERVICE
NETWORK SERVICES. As a wholesaler, the Company does not market its
network services directly to end users and therefore does not compete with its
customers for their subscribers. The Company provides selling, marketing and
customer services directly to relatively few network customers (currently 870)
rather than directly to its customers' many subscribers who have units on the
Company's networks (currently over 362,400) and therefore has relatively fewer
sales, marketing and customer service personnel.
Sales personnel are geographically positioned in markets within and
adjacent to the Company's TCCs. The Company's network services marketing
department supports the sales personnel by developing services and product
programs to meet specific customer needs. For example, in February 1997 the
Company announced an agreement with Metrocall, Inc. ("Metrocall") which allows
the Company to purchase Metrocall's nationwide network services on two 900 MHz
frequencies to resell to the Company's customers to complement the local and
regional coverage the Company offers on its own networks.
The Company's network customer service group provides "home office"
support to network customers. Customer service personnel are trained to be the
bridge between the customer and the Company's engineering department and field
sales personnel. Support is provided by a 24-hour hot line, on which a
customer service department representative responds to customer requests and
notifies the Company's engineering staff of technical problems.
TECHNICAL SERVICES. PTS markets its services primarily through referrals
from other customers, and through the business development efforts of its
President and its staff engineers.
PRODUCT SERVICES. EPS markets its services primarily through the
efforts of its sales personnel and senior management and through trade
advertising and customer referrals.
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PRODUCTS AND EQUIPMENT
The Company does not manufacture any pagers, transmitters, paging
terminals or other equipment used in the Company's network service. The
Company purchases pagers for sale to its customers. The Company currently
purchases pagers from Motorola, NEC America, Inc. and Samsung Electronics
Company Ltd., among others, and achieves cost savings through volume purchases.
The Company purchases its network equipment from Motorola and Glenayre. The
Company anticipates that network equipment and pagers will continue to be
available from these suppliers in the foreseeable future. EPS purchases excess
pager and cellular inventory from both manufacturers and resellers and used
product from resellers and other retailers, then resells it to other companies
on an "as is" or refurbished basis.
COMPETITION
The wireless industry is highly competitive and has few barriers to entry.
Companies in the industry generally compete on the basis of price, coverage
area, speed and quality of transmission, system reliability and service. Many
of the Company's network services competitors currently offer significantly
broader coverage than that provided by the Company's existing networks.
Several companies, including Paging Network Inc. ("PageNet") and Mobile
Telecommunication Technologies Corp. ("Mtel"), offer national paging services
to their subscribers. By contrast, the Company intends to market network
services primarily on a local or regional level. The Company also competes
with numerous other local, regional and national paging companies. In
addition, the United States Congress and the FCC have authorized the use of
newly-allocated spectrum for mobile and portable radio communications services,
including specifically for narrowband PCS. Through its auction process, the
FCC has issued some narrowband PCS licenses, and the licensees are in the
process of constructing their facilities. Some of the primary uses envisioned
by narrowband PCS licensees are advanced voice paging and two-way
acknowledgment paging. It is expected that companies offering narrowband
advanced paging will compete with one-way paging companies. In addition, some
companies may utilize their broadband PCS licenses to offer paging services in
conjunction with other offerings. Additional competitors may enter markets
served or proposed to be served by the Company.
The Company competes with other paging carriers, including PageNet,
PageMart Wireless, Inc. and MobileMedia Corporation ("MobileMedia") for
reseller customers. By operating as a carrier's carrier of network services,
offering flexible service options and wide coverage areas, and by providing
technical services and competitive prices for pagers, the Company believes it
can compete effectively with these and other paging carriers. In addition, the
Company expects that many paging carriers will also become customers of the
Company in certain markets. This has already been demonstrated in the
Company's current markets, as four of the nation's five largest paging carriers
are network customers of the Company and all five are customers of the Company
through PTS and EPS. The Company further believes that lower cost
technologies, as well as the continued proliferation of wireless services, will
continue to drive consumer demand up and pricing down. PTS and EPS each
compete with wireless equipment manufacturers and independent providers of
their services, primarily on the basis of quality, price, and service.
REGULATION
The Company's paging operations are subject to regulation by the FCC under
the Communications Act of 1934, as amended (the "Communications Act"). The FCC
permits the provision of paging services on a significant number of frequencies
under its regulatory authority. The majority of these frequencies are
allocated in low band (30-44 MHz), high band (150-170 MHz), UHF (450-470 MHz)
or 900 MHz, each of which has different propagation characteristics. Some of
the frequencies are available for one-way paging only, while paging is
permitted on an ancillary basis to the primary service on other channels.
There also are differences in the paging transmitter power levels permitted on
different frequencies, which affect the range and penetration capability of a
paging system.
Historically, the FCC distinguished between Radio Common Carrier ("RCC")
paging, which was authorized under Part 22 of the FCC rules, and private paging
systems, including Private Carrier Paging ("PCP") systems, which were
authorized under Part 90 of the FCC rules. RCC systems were considered common
carriers under the Communications Act, and were subject to statutory and FCC
common carrier obligations, but were granted exclusive use of their authorized
frequencies within a defined geographic area. By contrast, private paging
systems, including PCPs, were not regulated as common carriers under the
Communications Act and were assigned paging frequencies
9
<PAGE> 10
on a shared, non-exclusive basis. Under the PCP regulatory approach, multiple
unrelated licensees might be required to share the use of a frequency in a
given geographic area. Efficient shared channel use typically is accomplished
by sharing airtime using a single paging terminal, by physically linking the
co-channel systems, or by sharing airtime on a party-line basis. To date,
under this type of shared frequency usage, FCC licenses can be obtained
relatively easily for minimal frequency coordination and FCC filing fees.
The Company has FCC licenses, or licenses pending, to build and operate
high power PCP 157.740 MHz frequency networks in 48 of the 50 largest U.S.
metropolitan markets and adjacent areas, and has license applications in the
FCC frequency coordination process with respect to the remaining two. The FCC
frequency coordination process is an interim step imposed by the FCC on all PCP
license applications prior to filing with the FCC. In addition, the Company
has FCC licenses to operate nonexclusive PCP 462.825 MHz and 462.800 MHz
frequency networks in the Atlanta metropolitan area, exclusive RCC 158.10 MHz,
152.60 MHz and 152.840 MHz frequency networks in certain areas in Florida, New
York and Georgia, an exclusive RCC 931.2625 MHz frequency network in Florida,
and an exclusive RCC 931.3125 MHz frequency network in New York. The FCC
licenses set forth the technical parameters, such as signal strength and tower
height, under which the Company is authorized to use those frequencies.
In February 1993, the FCC proposed to permit PCPs to "earn" frequency
exclusivity on 929 MHz paging frequencies by building a prescribed number of
transmitters within a defined geographic area, and to authorize such systems on
either a local, regional or nationwide basis. Rules were adopted in November
1993 reflecting these changes, and a significant number of 929 MHz PCP
licensees either have already qualified for some level of geographic
exclusivity based on already operational facilities, or have acquired licenses
for facilities which, if constructed within the requisite time period, will
entitle the PCP to claim geographic exclusivity. On February 13, 1996, the FCC
released a Memorandum Opinion and Order generally affirming its rules governing
paging licenses on the 929 MHz frequency.
In August 1993, Congress amended the Communications Act and redefined the
regulatory classifications for all land mobile services as either Commercial
Mobile Radio Services ("CMRS"), considered common carrier offerings, or Private
Mobile Radio Services ("PMRS"). Both RCC and PCP services were subsequently
classified by the FCC as CMRS. All RCC and PCP paging systems currently are
regulated as CMRS.
As a CMRS provider, the Company is subject to certain regulations as a
common carrier under the Communications Act, including the duty to offer
service on a non-discriminatory basis at just and reasonable rates. The Company
is also subject to the complaint process for violations of the Communications
Act or FCC rules. In addition, the Company must obtain FCC approval prior to
consummating any assignments of license or authorizations or any transfer of
control of the Company.
In the 1993 legislation, the Commission was given statutory authority to
award licenses by competitive bidding, or auction procedures, when there are
mutually exclusive applications from entities proposing to provide a commercial
service to subscribers. PCPs and RCCs fall within the definition of
applications subject to the FCC's auction authority. In conjunction with its
enactment of a CMRS/PMRS regulatory framework, Congress directed the FCC to
review and revise its regulations to develop comparable regulatory schemes for
CMRS services determined to be substantially similar to one another. In the
proceeding in which the FCC addressed this statutory directive, the FCC
determined that RCC and PCP services were substantially similar to one another
and to other CMRS services to the extent that they are offered on exclusive
frequencies. The FCC commenced a proceeding to align more closely the
regulatory frameworks for RCC (Part 22) services and PCP (Part 90) services.
On February 9, 1996, the FCC released the Notice of Proposed Rulemaking
("NPRM"), which addressed potential changes in the FCC's regulation and
licensing of the paging industry. Among other things, the FCC considered
converting some or all of the non-exclusive PCP frequencies, including the
157.740 MHz frequency, to exclusive use frequencies, in which event the Company
could be required to engage in competitive bidding to obtain additional paging
licenses. The NPRM also proposed several changes to the current system of
licensing in the paging industry, including potential geographic licensing and
competitive bidding for mutually exclusive applications.
10
<PAGE> 11
During the pendency of this paging rulemaking proceeding, the FCC
initially suspended acceptance of all new applications for paging licenses
except applications for minor modifications of existing RCC and 929 PCP
channels (the "Application Freeze"). Under this initial order, as of February
8, 1996, the FCC would not accept new applications for non-exclusive PCP
channels. As of February 8, 1996, the Company had submitted 34 applications
for non-exclusive 157.740 MHz licenses to a licensing coordinator pursuant to
the FCC's frequency coordination process. The Company filed these applications
to obtain new licenses for locations as to which the Company held licenses that
had expired, and as to which the Company had not yet installed and activated
radio transmitters, including locations in two of the 50 largest U. S.
metropolitan markets. On February 8, 1996, the Company also had on file at the
FCC five applications for exclusive use licenses on the 931.2625 MHz frequency
which were not considered mutually exclusive with any other application.
On April 22, 1996, the FCC adopted an order (the "Interim Licensing
Procedure") in which it eased the Application Freeze on the acceptance of
applications for licenses for paging channels, including the shared channel
primarily utilized by the Company (157.740 MHz). Under the Interim Licensing
Procedure, the FCC allowed applications to be filed for new sites on these
channels if the applicant certified that the proposed site is within 40 miles
of an operating transmission site which was licensed to the same applicant on
the same channel prior to February 8, 1996. On June 11, 1996, by its own
motion, the Commission modified the Interim Licensing Procedure to allow
incumbent licensees also to add sites within 40 miles of an operating
transmission site for which an application from the same applicant on the same
channel was pending at the FCC on or before September 30, 1995. Additionally,
the Commission stated that all non-mutually exclusive paging applications
received through July 31, 1996 would be processed under the Interim Licensing
Procedure. Applications received after July 31, 1996 and any application
considered mutually exclusive would be subject to the final rules adopted in
the paging rulemaking proceeding.
Since the effective date of the Interim Licensing Procedure, the Company
filed for 83 additional licenses within the 40 miles of its operating
transmission sites prior to July 31, 1996. The Company also submitted three
applications which did not meet the Interim Licensing Procedure requirements
and sought a waiver of such requirements.
As a result of the NPRM and the subsequent actions of the FCC noted above,
the Company has been forced to modify its prior build-out schedule to install
transmitters on an expedited basis in areas where it has needed to protect its
license position. These unscheduled installations have delayed and may
continue to delay the Company's build-out of certain markets in the Company's
planned nationwide expansion.
On February 19, 1997, the Commission adopted a Second Report and Order
(the "Paging Second Report and Order") and Further Notice of Proposed
Rulemaking (the "Further Notice") in which it declined to convert the
non-exclusive PCP frequencies, including the 157.740 MHz frequency, to
exclusive use frequencies. The Further Notice, however, seeks additional
guidance in connection with the continued licensing procedure of the
non-exclusive PCP channels. The Commission is concerned, in light of its
decision to license the exclusive paging channels on a geographic basis by
competitive bidding, that there is a potential for application fraud by
telemarketers for the non-exclusive PCP frequencies. It, therefore, seeks
comment on what methods could be used to eliminate or reduce the problem.
Primarily, the Commission proposes to modify the application form, but also
asks whether the frequency coordination process could be modified to reduce the
fraudulent or speculative applications.
The Commission also ordered that all non-mutually exclusive applications
filed with the Commission on or before July 31, 1996 will be processed. All
mutually exclusive applications which are pending regardless of when filed will
be dismissed. All applications (other than applications on nationwide and
shared channels) filed after July 31, 1996 will be dismissed. Finally, during
the pendency of the Further Notice, the Interim Licensing Procedure for the
non-exclusive PCP channels will continue for incumbent licensees only allowing
those incumbents to file for additional licenses anywhere. The Commission also
will accept applications from new applicants for private, internal-use systems
on the non-exclusive PCP channels, including the 157.740 MHz frequency. The
Company, therefore, believes that its applications currently on file with the
FCC, including its three applications with associated waiver requests, should
be processed and, upon the effective date of the rules adopted by the Paging
Second Report and Order, the Company will be able to file applications for new
sites whenever needed.
In addition, the Commission excluded PCP channels from being licensed on a
geographic basis and declined to subject the non-exclusive PCP frequencies,
including the 157.740 MHz frequency, to the competitive bidding process.
11
<PAGE> 12
The Company, therefore, will not be required to participate in a competitive
bidding process to expand its paging systems operating on the 157.740 MHz
frequency.
The Commission, however, adopted a geographic licensing scheme and
implemented a competitive bidding process for the exclusive RCC and PCP
channels. Specifically, the FCC adopted geographic licensing for all 931 MHz
and all exclusive 929 PCP paging channels based on Rand McNally's Major Trading
Areas ("MTAs"). Licenses below 929 MHz will be geographically licensed based
on the Department of Commerce's 172 Economic Areas. The FCC also excluded from
its plan those channels that already have been assigned to single licensees on
a nationwide basis under existing FCC rules.
Consequently, the Company may be unable to expand its service areas for
its exclusive 931 MHz systems or its other RCC systems unless it participates
in a competitive bidding process or it can reach an agreement with the
geographic licensee. In the Further Notice, the FCC proposed to permit a
geographic licensee to either desegregate its spectrum, i.e., assign a discrete
portion or "block" of spectrum licensed to a geographic licensee, or partition
its licensed area, or both. The Commission has adopted, or proposed, a similar
approach in other CMRS services, such as the broadband Personal Communications
Services and the Specialized Mobile Radio Services. Adoption of the
disaggregation and partitioning proposals would permit the Company to acquire
licensing rights to expand its current exclusive RCC frequencies or further
supplement its operation on 157.740 MHz through agreement with a geographic
licensee without requiring participation in a competitive bidding process.
There is no guarantee that the Commission will adopt this initiative.
The FCC further concluded that each existing paging licensee will be
allowed to either (i) continue operating under existing authorizations or (ii)
trade in its site-specific licenses for a single system-wide license.
Geographic licensees will be required to afford incumbent constructed and
operational stations protection from interference within their service areas.
In the 931 MHz and 929 MHz band, the Commission adopted the existing co-channel
interference protection standards used with respect to the 931 MHz band. The
Commission will continue to use the current co-channel interference protection
formulas for the RCC channels below 931 MHz. No incumbent licensees will be
allowed to modify or expand their systems beyond their composite interference
contour without the consent of the geographic licensee (unless the incumbent
licensee is itself the geographic licensee for the relevant channel). The
Company, therefore, may continue to operate the systems as currently authorized
and may make minor modifications to the systems, including adding new sites to
supplement coverage within the current composite contours of the particular
system.
The FCC also has other various ongoing rulemaking proceedings which may
affect the Company such as resale and interconnections obligations in a
competitive paging marketplace and universal service obligations.
On June 12, 1996, the Commission adopted a First Report and Order which
became effective August 23, 1996 in which it declined to impose a resale
obligation on either RCC or PCP licensees. The Commission found that resale is
an established practice in the paging service and competition appears to be
vigorous.
On August 1, 1996, the FCC adopted both a First Report and Order and
Second Report and Order in FCC Docket No. 96-98 (the "Orders"), in which it
adopted rules implementing the local competition provisions of the 1996
Telecommunications Act. As adopted, the Orders would modify the charges
imposed on telecommunications carriers, including commercial mobile radio
service providers such as the Company, by local exchange carriers. Among other
provisions, the Orders required local exchange carriers to provide commercial
mobile radio service providers with reciprocal compensation for transport and
termination of local traffic and a "fresh look" at existing non-reciprocal
agreements. The Orders were expected to reduce the charges currently assessed
by local exchange carriers for providing local DID numbers, as well as for the
associated trunking charges, which are a significant portion of the Company's
cost of providing service. In addition, the Company was expected to become
eligible to receive revenue for terminating local exchange carriers' traffic on
its networks.
On October 15, 1996, the U.S. Court of Appeals for the Eighth Circuit
imposed a "stay" on certain provisions of the Orders. On November 1, 1996, the
same court, acting on an emergency motion filed by AirTouch Communications,
lifted the stay with respect to the reciprocal compensation and "fresh look"
provisions as they apply to commercial mobile radio service carriers.
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<PAGE> 13
On November 7, 1996, the Commission adopted the Recommended Decision on
the mandate for universal service set forth in the Telecommunications Act of
1996 by the Federal-State Joint Board on Universal Service (the "Joint Board").
Under the Joint Board's recommendation, all carriers that provide interstate
telecommunications services for a fee to the public would be required to
contribute to support the universal service fund. It had been recommended that
paging companies be exempted from such contribution because of their low profit
margin, but the Joint Board did not concur with such recommendations. The
Joint Board recommended that contributions be based on a carrier's gross
telecommunications revenues (both interstate and intrastate) net of payments to
other carriers. The Commission sought comments on the recommendations, but has
not adopted final rules concerning the universal service requirements. Should
the Commission require paging carriers to contribute to the universal service
fund, such contribution may adversely impact the Company's financial condition
or results of operations.
In addition to regulation by the FCC, paging systems are subject to
certain Federal Aviation Administration regulations with respect to the height,
location, construction, marking and lighting of towers and antennas.
State and local regulations may require the Company to submit for prior
approval the terms and conditions under which it plans to provide network
services. However, state and local regulators are preempted by Federal law
from regulating rates and approvals required to enter the market. There can
be no assurance that future Federal, state or local legislation or regulations
would not have a material adverse effect on the Company.
Certain of the Company's operations are subject to state and Federal
environmental regulation, but the related cost to date of compliance has been
minimal.
EMPLOYEES
On December 31, 1996, the Company had 362 employees, 109 of whom were
engaged in administration, 38 in marketing and sales, 75 in engineering and
operations and 140 in product repair. The Company's employees are not
unionized, and the Company believes that its relations with its employees are
good.
ITEM 2. PROPERTIES
The Company leases approximately 38,000 square feet of office space in
Norcross, Georgia for its headquarters facility for a ten-year term expiring in
2005. The Company also leases 57,332 square feet of space in Dallas, Texas for
its EPS operations for a term expiring in 1999, and 9,495 square feet at a
vacated facility with a term expiring in 1997.
The Company has approximately 448 site and tower leases for the operation
of its network transmitters and other equipment on commercial broadcast towers
and at other fixed sites. These leases have varying terms including certain
renewal or extension options.
The Company currently leases a total of approximately 57,000 square feet
at eight different locations for its TCCs. These leases expire at various
dates from 1998 to 2007.
The Company believes that in general the terms of its leases are
competitive based on market conditions. The Company believes its facilities
are suitable and adequate for its purposes.
ITEM 3. LEGAL PROCEEDINGS
The Company may become subject to various legal proceedings arising out
of its operations in the ordinary course of business. The Company is not
currently a party to, and no property of the Company is presently the subject
of, any pending legal proceeding.
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<PAGE> 14
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to a vote of security holders during the
fourth quarter of 1996.
EXECUTIVE OFFICERS OF THE REGISTRANT
The following table sets forth certain information regarding the executive
officers of the Company at March 15, 1997:
<TABLE>
<CAPTION>
NAME TITLE AGE
- ---- ---
<S> <C> <C>
Mark H. Dunaway........ Chairman of the Board of Directors, Chief Executive
Officer and Treasurer 51
Michael J. Saner....... President and Director 55
Kim Smith Hughes....... Chief Financial Officer 41
Eugene H. Kreeft....... Executive Vice President of Engineering 47
Mary Ann Haskins....... Vice President of Corporate Relations 35
Mark B. Jones.......... Vice President of Legal Affairs and Secretary 39
Patrick T. Markey...... Vice President of Marketing 46
Gary E. Park........... Vice President of Sales 49
Christopher S. Chessler Vice President of Caller Pays Sales 36
Kathryn Loev Putnam.... Vice President of Corporate Development 32
</TABLE>
Mark H. Dunaway, a founder of the Company, has been Chairman of the Board
of Directors and Chief Executive Officer of the Company since 1991. From 1986
to 1994, he served as the Chairman and Chief Executive Officer of The Beeper
Company of America, Inc., a company he founded. The Beeper Company of
America, Inc. provided paging services to more than 60,000 subscribers before
it was sold in 1994 to Arch Communications Group, Inc. During 1987, Mr.
Dunaway founded Dunaway Enterprises, Inc., a consulting company which supplied
management consulting services to British Telecom's paging operations in the
United Kingdom and other companies, and served as its Chief Executive Officer
and Chairman from 1987 to 1994. Mr. Dunaway also served as President of
British Telecom's paging subsidiary in New York and Chairman of the Board of
Directors of Metrocast Inc. in San Diego, California, one of British Telecom's
investments in the United States. From 1982 to 1985, Mr. Dunaway served as
President of A Beeper Company Associates, a national paging and cellular
service company which he founded, which serviced more than 200,000 pagers and
had more than $60 million in annual sales in 1985. A Beeper Company Associates
served as the sales and marketing agent for paging services for 14 of the 22
domestic Bell operating companies and as the cellular service reseller for all
of the domestic Bell operating companies, until its sale to Bell Atlantic
Corporation in 1985. Mr. Dunaway has served on a number of committees for the
Personal Communications Industry Association ("PCIA"), the wireless industry
trade association. Mr. Dunaway was a minority shareholder and a director of
EPS prior to its acquisition by the Company in 1996.
Michael J. Saner, a founder of the Company, has been President and a
director of the Company since 1991. From 1991 to 1993, Mr. Saner served as
President of Paging Services, Inc. ("PSI"), a paging-related repair,
maintenance, installation and sales company he founded and served as a director
until 1996, which is a distributor for Glenayre and the exclusive repair
facility in the United States for portions of the Glenayre terminal product
line. PSI was acquired by the Company in July 1996 and is now known as
Preferred Technical Services, Inc. From 1988 to 1990, he was also President
of IAX, Ltd., a computerized automobile brokerage firm he founded. From 1984
to 1990, Mr. Saner served as President of Message World, Inc., a voice mail
and paging company he founded, with offices in Atlanta, Baltimore, Houston, and
Washington, D.C. In 1990, Mr. Saner acquired the operating assets of Message
World, Inc. and until 1997 served as President of this business, which operated
as Saner Communications Inc. ("SCI"). From 1980 to 1985, Mr. Saner was employed
by BBL Industries, Inc., a paging equipment manufacturer, as Executive Vice
President of Sales and Marketing and then as President and Chief Operating
Officer. From 1971 to 1980, he was employed by Motorola, eventually serving as
district manager for the utility market. From 1986 to 1988, Mr. Saner served
as President of the Georgia Association of Telemessaging Services, and served
from 1992 to 1993 as a member of the Board of Directors of the Association of
Telemessaging Services International.
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<PAGE> 15
Kim Smith Hughes has served as Chief Financial Officer of the Company
since September 1995 and served as Controller from November 1994 to September
1995. During 1994, Ms. Hughes served as Vice President, Financial Planning and
Captive Services of American Security Insurance Company, a property and
casualty reinsurance company. From 1993 until 1994, Ms. Hughes was Chief
Financial Officer of Nomix, Inc., a manufacturer of an herbicide delivery
system. From 1986 to 1993, Ms. Hughes was employed by Bausch & Lomb Oral Care
Division, Inc. as Chief Financial Officer. In 1985, Ms. Hughes was employed by
Bell Atlantic Corporation as Assistant Controller for its subsidiary, A Beeper
Company Associates. She is a certified public accountant who began her career
with Ernst & Young LLP in 1980.
Eugene H. Kreeft, a founder of the Company, has been Executive Vice
President of Engineering of the Company since 1992. From 1989 to 1992, Mr.
Kreeft served as Glenayre's Director of Technical Sales Support, U.S.
Operations. From 1981 to 1989, Mr. Kreeft was employed by BBL Industries,
Inc., a paging equipment manufacturer, where he served as Vice President of
Applications/New Product Development from 1987 to 1989 and as Vice President of
Engineering and Manufacturing from 1985 to 1987. Mr. Kreeft has also held
management and engineering positions with Motorola, RAM Broadcasting Corp.,
AT&T Corp. and Western Union Corporation. He has served on the Education
Committee of PCIA, and has been a contributing author to the publication "A
Comprehensive Guide to Paging."
Mary Ann Haskins has been with the Company since 1991, serving as Vice
President of Corporate Relations since March 1995. From July 1993 to March
1995, she served as Vice President of Operations, and prior to that she served
in various other capacities including Corporate Secretary, Assistant Treasurer
and Director of Operations. From 1987 to 1992, Ms. Haskins was employed by
Dunaway Enterprises, Inc., where she served as Corporate Secretary and
Assistant Corporate Treasurer and as general manager for The Beeper Company of
Georgia, Inc. She was also an officer of several companies affiliated with
Dunaway Enterprises, Inc. Ms. Haskins was employed by A Beeper Company
Associates from 1984 to 1987.
Mark B. Jones has been the Vice President of Legal Affairs and Secretary
of the Company since October 1995. From 1989 to 1995, he was engaged in the
private practice of law with the law firm of Bodker, Ramsey & Andrews in
Atlanta, Georgia, focusing on corporate and tax matters. From 1982 until 1989,
Mr. Jones, who is a certified public accountant, was employed as a Tax Manager
with Arthur Andersen LLP.
Patrick T. Markey was named Vice President of Marketing of the Company in
November 1996, and from September 1995 until November 1996, he served as Vice
President of Sales and Marketing. From 1990 to 1994, Mr. Markey served as
Director of Marketing and from 1994 to 1995 as Vice President of Sales and
Marketing of Dial Page, Inc., a company engaged in the paging, wireless
messaging and voice mail business in the Southeastern United States. From 1988
to 1990, Mr. Markey served as Director of Marketing of Ameritech Mobile
Communications, Inc. Prior to 1988, Mr. Markey served in various marketing and
sales capacities with King Communications, Inc., a paging carrier.
Gary E. Park has served as Vice President of Sales of the Company since
December 1996. Before joining the Company, he was employed by Mtel's
subsidiary SkyTel, a nationwide paging company, from 1992 to 1996. While at
SkyTel, Mr. Park held the position of Vice President - General Sales from 1995
to 1996, responsible for resellers, strategic partnerships, agents and new
business distribution within the United States and was Vice President -
Major/National Accounts from 1992 to 1995, establishing SkyTel's major/national
accounts direct sales organization. Prior to his employment with SkyTel, Mr.
Park worked for Sprint, a telecommunications company, from 1981 to 1992,
serving as a Vice President and General Manager of Business Services (1988 to
1992) and Regional Sales Director (1986 to 1988).
Christopher S. Chessler has been with the Company as Vice President of
Caller Pays Sales since December 1996. He has fourteen years of experience in
consumer electronics, having been employed by Thomson Consumer Electronics, an
electronics manufacturer and distributor, from 1987 to 1996. While at Thomson,
Mr. Chessler was General Manager of Marketing for Thomson's General Electric
("GE") brand from 1995 to 1996, with responsibility for the marketing efforts
for all of Thomson's GE consumer electronic products. Before serving as
General Manager, Mr. Chessler was Vice President of Sales and Marketing/Canada
from 1993 to 1995 and was Vice President of Marketing/Canada from 1992 to 1993.
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<PAGE> 16
Kathryn Loev Putnam has been with the Company as Vice President of
Corporate Development since April 1996. From 1994 to 1996, Ms. Putnam was
employed by Legg Mason Wood Walker, Inc., an investment banking and stock
brokerage firm, in Philadelphia, Pennsylvania, where she served as Vice
President in the Corporate Finance Department. From 1991 to 1994, Ms. Putnam
served as Assistant Vice President in the Corporate Finance Department of
Janney Montgomery Scott Inc., an investment banking and stock brokerage firm.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET AND DIVIDEND INFORMATION
Since March 1, 1996, the Company's Common Stock has traded on the Nasdaq
Stock Market's National Market under the symbol "PFNT." Prior thereto, there
was no established public trading market for the Common Stock.
The high and low sale prices on a quarterly basis since March 1, 1996
for the Company's Common Stock as reported by the Nasdaq Stock Market are as
follows:
<TABLE>
<CAPTION>
Price
Quarter Ended High Low
- ------------------------------------------------- -------- -------
<S> <C> <C>
March 31, 1996 . . . . . . . . . . . . . . . . . $10.25 $9.00
June 30, 1996 . . . . . . . . . . . . . . . . . 9.25 7.25
September 30, 1996 . . . . . . . . . . . . . . 9.25 5.75
December 31, 1996 . . . . . . . . . . . . . . . 9.00 5.75
</TABLE>
On April 7, 1997, there were approximately 1,500 stockholders of the
Company, based on the number of holders of record and an estimate of the
number of individual stockholders represented by securities position
listings.
Since organization, the Company has not paid any cash dividends on its
Common Stock and does not anticipate paying any cash dividends in the
foreseeable future. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations" for a discussion of dividends paid with
respect to previously outstanding Redeemable Convertible Preferred Stock.
The Company instead intends to retain all working capital and earnings,
if any, for use in the Company's operations and the expansion of its
business. Any future determination with respect to the payment of dividends
will be at the discretion of the Board of Directors and will depend upon,
among other things, the Company's results of operations, financial condition
and capital requirements, the terms of any then existing indebtedness,
general business conditions and such other factors as the Board of Directors
deems relevant.
The Company's credit facilities contain covenants which, among other
things, limit the payment of dividends.
RECENT SALES OF UNREGISTERED SECURITIES
On July 3, 1996, the Company acquired by merger all of the outstanding
stock of PSI for $750,000. The Company paid $250,000 in cash and issued
58,823 shares of Common Stock to two accredited investors.
On September 13, 1996, the Company acquired substantially all the assets
of Big Apple Paging Corporation for approximately $3.8 million. The Company
paid approximately $1.7 million in cash and issued 290,915 shares of Common
Stock to one accredited investor.
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<PAGE> 17
On December 3, 1996, the Company acquired by merger all of the outstanding
stock of EPS for approximately $4.8 million and possible additional
consideration of up to $5 million. The Company paid $300,000 in cash and
issued 673,524 shares of Common Stock to six accredited investors.
On January 31, 1997, the Company acquired by merger all of the outstanding
stock of Mercury Paging & Communications, Inc. for approximately $14.2 million.
The Company paid approximately $10.3 million in cash and issued 624,321 shares
of Common Stock to four accredited investors, 156,080 of which are being held
in escrow and will be released after March 1997, subject to reduction if
certain revenue targets are not met.
All of these transactions were exempt from the Securities Act of 1933 by
reason of Section 4(2) thereof and Rule 506 of Regulation D promulgated
thereunder.
17
<PAGE> 18
ITEM 6. SELECTED FINANCIAL DATA
The following selected consolidated financial and operating data as of and
for each of the five years ended December 31, 1996 are derived from the
consolidated financial statements and other records of the Company. The data
should be read in conjunction with the consolidated financial statements and
related notes and other financial information included herein.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------------------
1992 1993 1994 1995 1996
------ ------- ------- ------- --------
(IN THOUSANDS, EXCEPT PER SHARE, UNIT AND ARPU AMOUNTS)
STATEMENT OF OPERATIONS DATA:
<S> <C> <C> <C> <C> <C>
Revenues
Network services........................................ $ 204 $ 937 $ 1,959 $ 3,549 $ 6,121
Product sales........................................... 316 1,412 2,097 3,651 5,818
Other services.......................................... 2 24 26 153 1,411
------ ------- ------- ------- --------
Total revenues......................................... 522 2,373 4,082 7,353 13,350
------ ------- ------- ------- --------
Cost of revenues
Network services......................................... 88 523 977 1,768 4,621
Product sales............................................ 314 1,402 2,103 4,558 8,329
Other services........................................... - - - - 662
------ ------- ------- ------- --------
Total cost of revenues.................................. 402 1,925 3,080 6,326 13,612
------ ------- ------- ------- --------
Gross margin.............................................. 120 448 1,002 1,027 (262)
Selling, general and administrative expenses.............. 409 868 1,506 3,180 8,338
Depreciation and amortization............................. 91 267 492 764 2,479
------ ------- ------- ------- --------
Operating loss.......................................... (380) (687) (996) (2,917) (11,079)
Interest expense.......................................... 82 158 337 317 242
Interest income........................................... - - 7 364 1,122
------ ------- ------- ------- --------
Net loss................................................ $ (462) $ (845) $(1,326) $(2,870) $(10,199)
====== ======= ======= ======= ========
Net loss per share of Common Stock (1).................... $(0.06) $ (0.10) $ (0.15) $ (0.48) $ (0.79)
Weighted average number of common shares used in
calculating net loss per share of
Common Stock............................................. 7,269 8,440 9,107 9,158 13,643
OTHER OPERATING DATA:
Reseller units (at end of period)......................... 9,059 34,129 61,055 129,983 186,482
Co-location/interconnection units (at end of period)...... - - 3,393 23,918 89,236
------ ------- ------- ------- --------
Total units in service.................................. 9,059 34,129 64,448 153,901 275,718
Units under agency agreement (at end of period)........... - - - - 86,763
------ ------- ------- ------- --------
Total units............................................. 9,059 34,129 64,448 153,901 362,481
====== ======= ======= ======= ========
Average revenue per unit (ARPU)(2)........................ $ 3.08 $ 3.69 $3.38 $ 2.94 $ 2.48
EBITDA(3)................................................. $ (289) $ (420) $(504) $(2,153) $ (8,600)
Capital expenditures (including network asset purchases).. $ 951 $ 2,053 $ 1,166 $ 4,226 $ 15,870
DECEMBER 31,
-------------------------------------------------
1992 1993 1994 1995 1996
------ ------- ------- ------- --------
BALANCE SHEET DATA: (IN THOUSANDS)
Current assets............................................ $ 228 $ 522 $ 1,236 $11,757 $ 30,725
Property and equipment.................................... 913 2,699 3,375 6,885 21,559
Total assets.............................................. 1,141 3,235 4,650 20,046 66,125
Notes payable, including current portion.................. 771 2,379 2,998 5,413 17,025
Redeemable convertible preferred stock, net............... - - 1,155 21,659 -
Stockholders' equity (deficit)............................ (317) 457 (669) (7,806) 40,583
</TABLE>
18
<PAGE> 19
(1) Of the net proceeds from the Company's 1996 initial public offering (the
"IPO"), approximately $5.4 million was used to repay certain
indebtedness. Assuming the issuance and sale of a number of shares that
would generate net proceeds of approximately $5.4 million and assuming
that such indebtedness had been repaid rather than outstanding during
1996, supplemental loss per share of Common Stock would have been $(0.77)
for the year ended December 31, 1996.
(2) "ARPU" represents average revenue per unit and is calculated by dividing
network service revenues for the month by total units in service at month
end. ARPU for periods greater than one month equals the average of the
monthly ARPUs during the period. ARPU for 1992 equals the average of the
eleven months during which the Company had network service revenues.
(3) "EBITDA" represents earnings before interest expense, interest income,
taxes, depreciation and amortization. EBITDA is a financial measure
commonly used in the telecommunications industry and should not be
construed as an alternative to operating income (as determined in
accordance with generally accepted accounting principles), as an
alternative to cash flows from operating activities (as determined in
accordance with generally accepted accounting principles), or as a measure
of liquidity.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
The following discussion and analysis of the financial condition and
results of operations of the Company should be read in conjunction with the
consolidated financial statements and notes thereto.
OVERVIEW
The Company provides outsourcing services to the wireless industry and
currently provides services to nine of the ten largest paging companies, the
two largest manufacturers of wireless network infrastructure, one of the
largest cellular product manufacturers and two regional Bell operating
companies. The Company commenced operations in 1991 as a carrier's carrier of
one-way paging networks, whereby the Company's customers purchase airtime on
the Company's networks and resell it to their subscribers. During the second
half of 1996, the Company began to broaden its service offerings and expand its
customer base through two acquisitions of businesses which provide non-network
based services.
In July, the Company acquired Preferred Technical Services, Inc. ("PTS"),
a provider of paging network equipment installation, maintenance and
engineering services, supporting one-way and two-way paging platforms,
including PCS services. Established in 1991, PTS provides technical services
to three of the five largest paging companies and to the two largest
manufacturers of wireless network infrastructure. PTS is the exclusive
authorized repair facility for the first generation paging terminal made by
Glenayre Electronics, Inc. ("Glenayre") and is also an authorized provider of
repair and maintenance service for the Unipage terminal for Motorola, Inc.
("Motorola"). PTS also provides installation and maintenance of equipment for
other carriers in the carriers' own network facilities as well as for customers
that co-locate terminal equipment in one of the Company's Technical Control
Centers ("TCCs"). PTS intends to expand nationwide by locating engineering
personnel in each of the Company's TCCs.
In December, the Company acquired EPS Wireless, Inc. ("EPS"), a national
provider of paging and cellular product repair services, sales of new, used
and refurbished paging and cellular products and inventory management services.
EPS provides product services to four of the five largest paging companies and
one of the two largest cellular product manufacturers. EPS provides the
Company with improved cost economies to meet the growing demand for total
product and inventory solutions. EPS also broadens the Company's customer
base by supporting companies in markets where the Company does not currently
operate networks and by supporting additional wireless services and frequencies
that do not operate on the Company's networks.
NETWORK SERVICES. As of December 31, 1996, the Company provided network
services to four of the five largest paging companies. Due to the Company's
carrier's carrier strategy, the revenues and expenses that the Company
generates from its operations are significantly different from those of a
full-service vertically integrated paging carrier. The Company has lower
revenues per unit in service than full-service vertically integrated paging
carriers, but also has lower expenses per unit in service because the Company
provides selling, marketing and customer support services
19
<PAGE> 20
directly to relatively few network services customers (currently 870) rather
than directly to its customers' many subscribers who have units on the
Company's networks (currently over 362,400). As the Company shifts its focus
to co-location/interconnection customers, it expects that ARPU will continue to
decline as well as the associated expenses per unit. See "Business".
The Company derived its network services revenue in 1996 and prior years
principally from two sources -- fixed periodic (usually monthly) fees charged
to its customers for network services that its customers purchase in order to
resell paging services to their subscribers, and from the sale of pagers to its
customers. As long as a customer maintains units in service on the Company's
networks, the Company's future operating results should benefit from the
recurring fees charged to the customer for those units in service with minimal
additional selling expenses to the Company. Although the Company is aware that
its customers experience turnover in their subscriber bases ("churn"), the
Company cannot accurately measure the churn rate among its customers'
subscribers because the Company's services are provided on a wholesale basis to
its customers. While the Company is often not able to determine the reason for
the loss of a particular customer, the Company believes that it has not had a
significant loss of customers as a result of customers seeking lower rates from
other paging carriers.
The markets in which the Company and its network services customers
operate and plan to operate have numerous paging and other wireless service
providers that compete primarily on the basis of price and, to a lesser extent,
geographic coverage and quality of service. As a result, while the number of
traditional one-way pagers in service has increased industry-wide since the
Company commenced operations, monthly ARPU with respect to such services has
declined for the Company as well as the industry. The Company expects these
trends to continue and plans to mitigate the effects of declining monthly ARPU
by continuing to increase the number of units in service on its networks and
achieving further operating efficiencies through, among other things, its
network design and economies of scale. The Company believes that as long as it
is able to increase the number of customers it serves and the capacity of its
networks, it will continue to benefit from economies of scale. The sale of
airtime and switching services are classified as network services in the
Company's financial statements.
The Company sells pagers primarily as a benefit to its customers to
facilitate their growth in subscribers, and not as a profit center. The
Company has not and does not intend to lease pagers to its customers. As part
of the Company's marketing programs to attract customers to resell on its
networks and due to the competitive pricing of pagers by the industry, the
Company sold pagers below its cost in 1995 and 1996. Pager sales and the
associated cost of sales have been classified as product sales in the Company's
financial statements.
The Company's internal growth and expansion into new markets requires
capital investment for the installation of paging equipment and network
facilities. The Company anticipates that operating expenses and capital
expenditures will increase as it pursues its nationwide expansion and that such
investments and related operating expenses will result in net losses, negative
cash flows from operations and negative EBITDA for at least the next two years,
although the Company has experienced positive cash flow from operations and
positive EBITDA in many of the local markets in which it operates. The ability
to generate net income, positive cash flows from operations and positive EBITDA
will depend upon, among other things, the Company's ability to operate
efficiently and attract customers to its networks and its customers' ability to
add subscriber units to the Company's networks.
During 1994, 1995 and 1996, the Company derived a portion of its revenues
from customers who individually represented over 10% of the respective year's
consolidated revenues as follows: Dial Page, Inc. (11% in 1994), Bailey's
Communications, Inc. (16% in 1994 and 13% in 1995), and Arch Communications
Group (10% in 1996).
TECHNICAL SERVICES. PTS generates revenues by providing paging network
equipment installation, maintenance and engineering services, supporting
one-way and two-way paging platforms, including Bell operating companies and
carriers. PTS provides installation and maintenance of equipment for other
carriers in the customers' own network facilities as well as for customers that
co-locate terminal equipment in one of the Company's TCCs. Technical service
revenues and the associated cost of revenues are classified as other services
in the Company's financial statements.
PRODUCT SERVICES. EPS generates revenues by providing repair and
refurbishment services, sales of new, used and refurbished paging and cellular
products and inventory management services. Revenues from the sale of pager
and cellular products and the related cost of revenues are classified as
product sales in the Company's financial statements.
20
<PAGE> 21
Pager and cellular repair, refurbishment and inventory management services
revenues and cost of revenues are classified as other services in the Company's
financial statements.
The following definitions are relevant to the discussion of the Company's
operating results.
- Customers on its networks: The Company groups its network
customers into two principal categories based on the nature of the
services it provides:
(i) traditional, or non-facilities-based, resellers of paging
services ("resellers") and
(ii) paging carriers and resellers of paging services that own
their own switching terminals and connect with the Company's TCC
switching centers to resell paging services to their subscribers
("co-location/interconnection" customers).
Paging carriers from which the Company purchases network assets may
subsequently become either reseller customers or
co-location/interconnection customers on the Company's networks.
- Reseller units: Pagers in service on the Company's networks which
were added by its customers that purchase airtime and switching
services from the Company.
- Co-location/Interconnection units: Pagers in service on the
Company's networks which were added by its customers that own their
own switching terminals and purchase airtime from the Company.
- Units in service: Pagers in service on the Company's networks.
- Units under agency agreement: Pagers in service on a network which
the Company later acquired. During the time between the signing of a
definitive agreement and the completion of certain acquisitions, the
Company provided certain services to the prospective seller under an
agency agreement related to pagers in service on the networks being
acquired.
- Subscribers: The end users who own or rent pagers and receive
paging services from the Company's customers. The Company does not
sell pagers or paging services directly to end-user subscribers.
- Revenues:
(i) Network services: fixed periodic (usually monthly) fees
charged to customers for network services (airtime and switching
services) which they purchase in order to resell paging services
to their subscribers, based on units in service at the beginning
of each month;
(ii) Product sales: revenues from the sale of paging and cellular
products to customers; and
(iii) Other services: repair and refurbishment services, inventory
management fees, product fulfillment fees, technical services,
maintenance fees charged to co-location customers for terminal
maintenance services, installation fees, and agency fees.
- ARPU: The Company calculates average revenue per unit by dividing
pager airtime revenues for the month by total units in service at
month end. ARPU for periods greater than one month equals the
average of the monthly ARPUs during the period.
- Cost of revenues:
(i) Cost of network services: the cost of operating technical
facilities, site rental, engineering personnel and
telecommunications charges, and the cost of providing terminal
maintenance services to co-location customers; the incremental
costs of entering a new geographic market are capitalized until
the Company begins to generate revenue from the sale of network
services to its customers;
(ii) Cost of product sales: the cost of paging and cellular
products; and
21
<PAGE> 22
(iii) Cost of other services: the cost of repair and refurbishment
of paging and cellular products, inventory management services,
product fulfillment , technical services and other.
- SG&A: Selling, general and administrative expenses include
salaries, commissions and administrative costs incurred by the Company
relating to sales personnel and related marketing expenses, executive
management, accounting, office telephone, rents, maintenance,
information services and employee benefits.
- EBITDA: Earnings before interest expense, interest income, taxes,
depreciation and amortization is a financial measure commonly used in
the telecommunications industry and should not be construed as an
alternative to operating income (as determined in accordance with
generally accepted accounting principles ("GAAP")), as an alternative
to cash flows from operating activities (as determined in accordance
with GAAP), or as a measure of liquidity.
- Depreciation and amortization: The Company's network equipment,
computer equipment, other equipment, furniture, fixtures, vehicles and
leasehold improvements are depreciated over their estimated useful
lives ranging from five to seven years. FCC license application fees,
goodwill, market entry costs, and other intangible assets are
amortized over 15 months to 15 years. Since the Company does not
lease pagers to its customers, there is no depreciation expense on
pagers.
The table below provides the components of the Company's consolidated
statements of operations and EBITDA for each of the three years ended
December 31, 1994, 1995 and 1996, as a percentage of total revenues.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
-------------------------------------------
1994 1995 1996
----- -------- -------
<S> <C> <C> <C> <C> <C> <C>
Revenues
Network services............ 48.0 % 48.3 % 45.9 %
Product sales............... 51.4 49.6 43.6
Other services.............. 0.6 2.1 10.5
------ ------- ------
Total revenues............. 100.0 100.0 100.0
------ ------- ------
Cost of revenues
Network services............ 24.0 24.0 34.6
Products sales.............. 51.5 62.0 62.4
Other services.............. - - 5.0
------ ------- ------
Total cost of revenues..... 75.5 86.0 102.0
------ ------- ------
Gross margin................. 24.5 14.0 (2.0)
S G & A .................... 36.9 43.2 62.4
Depreciation and amortization 12.0 10.4 18.6
------ ------- ------
Operating loss............. (24.4) (39.6) (83.0)
Interest expense............. (8.3) (4.3) (1.8)
Interest income.............. 0.2 4.9 8.4
------ ------- ------
Net loss................... (32.5) % (39.0) % (76.4) %
====== ======= ======
EBITDA....................... (12.4) % (29.3) % (64.4) %
</TABLE>
The table below provides information about the Company's units in
service on the Company's networks by customer type.
<TABLE>
<CAPTION>
DECEMBER 31, PERCENTAGE INCREASE IN
------------------------ ----------------------------
1994 1995 1996 1994 1995 1996
------ ------- ------- -------- -------- --------
<S> <C> <C> <C> <C> <C> <C>
Units in service
Reseller units................... 61,055 129,983 186,482 78.9 % 112.9 % 43.5 %
Co-location/interconnection units 3,393 23,918 89,236 - 604.9 % 273.1 %
------ ------- -------
Total units in service........... 64,448 153,901 275,718 88.8 % 138.8 % 79.2 %
Units under agency agreement...... - - 86,763 - - -
------ ------- -------
Total units...................... 64,448 153,901 362,481 88.8 % 138.8 % 135.5 %
====== ======= =======
</TABLE>
22
<PAGE> 23
RESULTS OF OPERATIONS
YEAR ENDED DECEMBER 31, 1996 COMPARED TO YEAR ENDED DECEMBER 31, 1995
Total revenues increased by $6.0 million, or 81.6%, to $13.4 million for
the year ended December 31, 1996 from $7.4 million for the year ended December
31, 1995. Units in service increased by 121,817, or 79.2%, to 275,718 from
153,901 over the same period. Total units, including units under agency
agreement, increased by 208,580, or 135.5%, to 362,481 from 153,901 over the
same period.
Revenues from network services increased by $2.6 million, or 72.5%, to
$6.1 million for the year ended December 31, 1996 from $3.5 million for the
year ended December 31,1995. The increase was attributable to the growth in
units in service and the associated recurring revenue stream, which resulted
from expansion into eight new markets (New York, Chicago, Detroit, Knoxville,
Columbia, Savannah, Raleigh/Durham, and Richmond), continued growth in existing
markets and from the acquisition of substantially all of the paging assets of
Big Apple Paging Corporation ("Big Apple") which resulted in approximately
27,000 units from reseller relationships. The growth in units in service was
offset in part by declining ARPU due to competitive pricing pressures in the
industry, a continued shift to co-location/interconnection customers which were
32% of total units in service as of December 31, 1996 up from 16% as of
December 31, 1995, and to a lesser extent, unit volume and airtime usage
discounts. Co-location and interconnection customers generate lower ARPU to
the Company because certain operating expenses customarily incurred by the
Company are borne by the customer.
Revenues from product sales increased by $2.2 million, or 59.4%, to $5.8
million for the year ended December 31, 1996 from $3.7 million for the year
ended December 31, 1995. The increase in the number of pagers sold was
attributable to continued expansion in existing markets and expansion into new
markets. In addition, the average selling price per pager declined as a result
of competitive pricing in the industry and the Company's marketing programs to
attract resellers to its networks. Revenues from product sales in 1996 also
included the sourcing and sales of new and refurbished pager and cellular
products by EPS for the month of December.
Other services revenues increased by $1.3 million, or 822.2%, to $1.4
million for the year ended December 31, 1996 from $153,000 for the year ended
December 31, 1995. The increase was primarily due to revenues associated with
paging network equipment installation services, maintenance and engineering
services resulting from the purchase of PTS in July 1996 and revenues
associated with repair and refurbishment of pager and cellular products,
inventory management and product fulfillment resulting from the purchase by EPS
in December 1996.
Cost of network services increased by $2.9 million, or 161.4%, to $4.6
million for the year ended December 31, 1996 from $1.8 million for the year
ended December 31, 1995. The increase was primarily attributable to the
expansion into eight new markets and the increased number of units in service.
Cost of network services as a percentage of network services revenue was 75.5%
for the year ended December 31, 1996 compared to 49.8% for the year ended
December 31, 1995, reflecting the increased number of units in service on
existing networks and expansion into new markets where there are currently
fewer units in service producing revenue, although the market bears
fully-loaded network cost.
Cost of product sales increased by $3.8 million, or 82.7%, to $8.3 million
for the year ended December 31, 1996 from $4.6 million for the year ended
December 31, 1995 due to the increased number of pagers sold, offset in part by
the decreasing cost to the Company of purchasing pagers. Cost of product sales
as a percentage of product sales was 143.2% for the year ended December 31,
1996 compared to 124.8% for the year ended December 31, 1995 reflecting the
Company's marketing programs to attract customers to its networks and the
competitive nature of pricing in the industry. The Company also reduced the
carrying cost of its inventory by $787,000 as of December 31, 1996 to the lower
of cost or market compared to a $129,000 reduction as of December 31, 1995.
The cost of product sales also includes the cost of sourcing and sales of new
and refurbished pager and cellular products by EPS for the month of December.
Cost of other services increased to $662,000 for the year ended December
31, 1996 from $0 for the year ended December 31, 1995. The increase was due to
the costs associated with network equipment installation, maintenance
23
<PAGE> 24
and engineering services resulting from the purchase of PTS and costs
associated with repair of pager and cellular products, inventory management and
product fulfillment resulting from the purchase of EPS.
SG&A increased by $5.2 million, or 162.2%, to $8.3 million for the year
ended December 31, 1996 from $3.2 million for the year ended December 31, 1995,
and increased as a percentage of total revenues to 62.4% for the year ended
December 31, 1996 from 43.2% for the year ended December 31, 1995. The
increase reflects additional sales and administrative costs to support the
increasing number of customers and expansion into new markets associated with
the Company's network services, and the additional personnel associated with
PTS and EPS.
Depreciation and amortization increased by $1.7 million, or 224.6%, to
$2.5 million for the year ended December 31, 1996 from $764,000 for the year
ended December 31, 1995 primarily due to additional assets purchased or
constructed for expansion into new markets and increased amortization of market
entry costs as new markets begin to generate revenues. Depreciation and
amortization increased as a percentage of total revenues to 18.6% for the year
ended December 31, 1996 from 10.4% for the year ended December 31, 1995.
Interest expense decreased by $75,000, or 23.6%, to $242,000 for the year
ended December 31, 1996 from $317,000 for the year ended December 31, 1995.
The decrease was due to increased capitalization of interest in the amount of
$196,000 on paging assets under construction in 1996. Capital expenditures
were $15.9 million for the year ended December 31, 1996 compared to $4.2
million for the year ended December 31, 1995.
Interest income increased by $758,000 or 208.3% to $1.1 million for the
year ended December 31, 1996 from $364,000 for the year ended December 31,
1995. The increase represents interest income from the investment of the funds
received from the IPO in March 1996.
Net loss for the year ended December 31, 1996 as compared to the year
ended December 31, 1995 increased to $10.2 million from $2.9 million primarily
due to losses incurred on sales of pager products below cost and substantial
increases in SG&A, as described above.
The net loss per share of Common Stock for the year ended December 31,
1996 increased to $0.79 from $0.48 for the year ended December 31, 1995 due to
the increased net loss attributable to common stockholders. Weighted average
shares outstanding includes cheap stock until the IPO date, as more fully
described in Note 1 to the Consolidated Financial Statements.
YEAR ENDED DECEMBER 31, 1995 COMPARED TO YEAR ENDED DECEMBER 31, 1994
Total revenues increased by $3.3 million, or 80.1%, to $7.4 million for
the year ended December 31, 1995 from $4.1 million for the year ended December
31, 1994. Units in service increased by 89,453, or 138.8%, to 153,901 from
64,448 over the same period.
Revenues from network services increased by $1.6 million, or 81.1%, to
$3.5 million for the year ended December 31, 1995 from $2.0 million for the
year ended December 31,1994. The increase was attributable to the growth in
units in service and the associated recurring revenue stream, which resulted
from approximately 30,000 units from new reseller agreements negotiated after
the purchase of certain network assets from BellSouth Telecommunications, Inc.,
expansion into eight new markets (Philadelphia, Pittsburgh, Orlando,
Jacksonville, Miami, Columbia, Savannah and Knoxville) and the continued growth
in existing markets. The growth in units in service was offset in part by
declining ARPU due to a change in the mix of customer type and, to a lesser
extent, unit volume and airtime usage discounts. Co-location and
interconnection customers generate lower ARPU to the Company because certain
operating expenses customarily incurred by the Company are borne by the
customer. The ARPU was also lower on the units in service on certain purchased
network assets due to generally fewer paging service features available on
those networks.
Revenues from product sales increased by $1.6 million, or 74.1%, to $3.7
million for the year ended December 31, 1995 from $2.1 million for the year
ended December 31, 1994. The increase in the number of pagers sold was
attributable to continued expansion in existing markets and expansion into new
markets. In addition, the average
24
<PAGE> 25
selling price per pager declined as a result of competitive pricing in the
industry and the Company's marketing programs to attract resellers to its
networks.
Cost of network services increased by $791,000, or 80.9%, to $1.8 million
for the year ended December 31, 1995 from $977,000 for the year ended December
31, 1994. The increase was primarily attributable to the expansion into new
markets and the increased number of units in service. Cost as a percentage of
network services revenue was 49.8% for the year ended December 31,1995 compared
to 49.9% for the year ended December 31, 1994, reflecting the increased number
of units in service on existing networks and market entry costs capitalized in
1995.
Cost of product sales increased by $2.5 million, or 116.7%, to $4.6
million for the year ended December 31, 1995 from $2.1 million for the year
ended December 31, 1994 due to the increased number of pagers sold, offset in
part by the decreasing cost to the Company of purchasing pagers. Cost as a
percentage of product sales was 124.8% for the year ended December 31, 1995
compared to 100.3% for the year ended December 31, 1994 reflecting the
Company's marketing programs to attract customers to its networks and the
competitive nature of pricing in the industry. The Company also reduced the
carrying cost of its pager inventory by $129,000 for the year ended December
31, 1995 to the lower of cost or market.
SG&A increased by $1.7 million or 111.2%, to $3.2 million for the year
ended December 31, 1995 from $1.5 million for the year ended December 31, 1994,
but increased as a percentage of total revenues to 43.2% for the year ended
December 31, 1995 from 36.9% for the year ended December 31, 1994. The
additional costs reflect additional sales and administrative costs to support
the increasing number of customers and expansion into new markets.
Depreciation and amortization increased by $272,000, or 55.2%, to $764,000
for the year ended December 31, 1995 from $492,000 for the year ended December
31, 1994 due to additional assets purchased or constructed for expansion into
new markets. Depreciation and amortization decreased as a percentage of total
revenues to 10.4% for the year ended December 31, 1995 from 12.1% for the year
ended December 31, 1994.
Interest expense decreased by $20,000, or 5.9%, to $317,000 for the year
ended December 31, 1995 from $337,000 for the year ended December 31, 1994.
The decrease was due to increased capitalization of interest in the amount of
$48,000 on paging assets under construction in 1995. Capital expenditures were
$4.2 million for the year ended December 31, 1995 compared to $1.2 million for
the year ended December 31, 1994.
Interest income increased by $357,000 to $364,000 for the year ended
December 31, 1995 from $7,000 for the year ended December 31, 1994. The
increase represents interest income from the investment of the funds received
from the sale of the Company's Series B Redeemable Convertible Preferred Stock
("Series B"), which was consummated in June 1995.
Net loss for the year ended December 31, 1995 as compared to the year
ended December 31, 1994 increased to $2.9 million from $1.3 million primarily
due to losses incurred due to sales of pagers below cost and substantial
increases in SG&A, as described above.
The net loss per share of Common Stock for the year ended December 31,
1995 increased to $0.48 from $0.15 for the year ended December 31, 1994 due to
the increased net loss and the increase in net loss attributable to holders of
Common Stock resulting from the accretion of the Company's Series A Redeemable
Convertible Preferred Stock ("Series A") sold in 1994 and 1995 and the Series B
sold in 1995 and the accrued dividends on the Series B. Weighted average
shares outstanding includes cheap stock in both periods as more fully described
in Note 1 to the Consolidated Financial Statements.
LIQUIDITY AND CAPITAL RESOURCES
The Company's expansion strategy will continue to require substantial
funds to finance the expansion of existing operations, the expansion into new
markets as part of the nationwide build-out of its networks, the purchase of
network assets and related FCC licenses, capital expenditures, debt service and
general corporate purposes.
25
<PAGE> 26
The Company's net cash used in operations was $222,000, $3.9 million and
$6.3 million for the years ended December 31, 1994, 1995 and 1996,
respectively. The primary reason for the increase in 1996 in net cash used in
operations has been the rapid expansion of the Company's networks and the
associated increase in accounts receivable, inventory and operating expenses to
support a rapidly growing business.
Capital expenditures were $1.2 million, $4.2 million and $15.9 million for
the years ended December 31, 1994, 1995 and 1996, respectively, reflecting
expansions of the Company's networks. The Company has funded its expansion in
the past by equity infusions, bank and finance company debt, loans from
stockholders, and vendor and seller financing. The Company anticipates capital
expenditure requirements of at least $10.0 million during 1997 related to the
nationwide expansion of its networks, including purchases of network assets and
related equipment.
The Company has augmented its wide-area 157.740 MHz networks by
purchasing and consolidating existing local network assets licensed on the 150
MHz, 450 MHz and 900 MHz frequency bands to offer additional capacity and
flexibility to its customers. As of December 31, 1996, the Company was
constructing networks in 28 markets, including Boston, Denver, Seattle, San
Francisco, Los Angeles, Cleveland, Cincinnati, Indianapolis, and Minneapolis.
As of December 31, 1996, the Company had completed 19 network asset purchases
(network equipment and related licenses), resulting in the expansion of the
Company's 157.740 MHz networks into markets served by its Southeast and
Northeast TCCs, and the addition of network assets in the 450 MHz and 900 MHz
bands in certain markets in the Southeast and Northeast United States. Two of
the most significant of these were the purchase of network assets in Georgia
and Florida from BellSouth Telecommunications, Inc. in the third quarter of
1995 and the purchase of network assets in New York, New Jersey, and
Connecticut from Big Apple in the third quarter of 1996. As a result, the
Company added additional spectrum on a local basis on radio common carrier
("RCC") 152.84 MHz, 152.60 MHz, 158.10 MHz, and 931.2625 MHz frequencies.
After the 1995 and 1996 purchases, the Company was successful in negotiating
contracts with the resellers of paging services, resulting in the addition of
over 30,000 and 27,000 units in service, respectively, on these networks.
The Company received $18.2 million in equity financing through the
issuance of the Series A and Series B during 1994 and 1995. Dividends accrued
on the Series B at the rate of 12.0% of its liquidation value per annum,
compounded quarterly, payable in Common Stock or cash at the Company's option.
A mandatory conversion of all outstanding shares of Series A and Series B into
Common Stock occurred upon the consummation of the IPO. The Company paid
accrued dividends on the Series B through January 31, 1996 in shares of Common
Stock at the time of conversion, at the initial public offering price. The
Company paid dividends on the Series B after January 31, 1996 in cash.
The Company has a secured credit facility for $12.0 million of vendor
financing bearing interest at the five-year U.S. Treasury rate plus 6.5%
payable in various monthly installments of principal and interest over 60
months. This credit facility contains various conditions, financial covenants
and restrictions and is secured by paging equipment. As of December 31, 1996,
there was $3.6 million outstanding under this facility with $8.4 million still
available.
The Company also has a $5.0 million credit facility to finance paging
system equipment from a finance company bearing interest at 10% payable in
various monthly installments of principal and interest over 60 months. This
credit facility contains various conditions, financial covenants and
restrictions and is secured by paging equipment. As of December 31, 1996,
there was $3.0 million outstanding under this facility with $2.0 million still
available.
In August 1996, the Company entered into a $20.0 million revolving credit
facility with a financial institution, the majority of which is to be used to
finance paging network acquisitions and capital expenditures. The outstanding
balance under this facility bears interest at a rate of prime plus 1% or at a
rate of LIBOR plus 3.75%, at the Company's option. Interest only is payable
monthly in arrears with the entire principal due in full in August 1998.
Borrowings under this facility and the other two credit facilities are secured
by substantially all the assets of the Company. This credit facility contains
various conditions, financial covenants and restrictions related to debt
service, minimum net worth, acquisitions and future requirements for raising
$15.0 million in debt or equity capital by July 1997 plus an additional $5.0
million by the end of January 1998, among other things. The amount outstanding
under this facility as of December 31, 1996 was $10.0 million. Availability
under the facility is based on a multiple of the positive EBITDA in certain
markets. As of December 31,
26
<PAGE> 27
1996, there was no additional availability under this facility. In March 1997,
the Company repaid approximately $750,000 of the principal and the commitment
under the facility was reduced to the current outstanding balance of $9.25
million.
At December 31, 1996, the Company had $20.9 million invested in short-term
investment grade securities at various interest rates.
Management believes that cash and cash equivalents on hand, together
with availability under the secured credit facilities described above, will be
sufficient to meet the Company's working capital, capital expenditure and debt
covenant requirements until May 1997 without obtaining additional financing.
The Company has a commitment for an additional $15.0 million in redeemable
preferred stock and warrants from certain of its stockholders and a commitment
for a bridge loan of up to $10.0 million to be utilized prior to the closing of
the sale of this equity capital. The Company has given the investors the option
to increase their commitment by up to an additional $5.0 million at
substantially the same terms until June 30, 1997. The issuance of the
preferred stock and warrants is subject to shareholder approval and execution
of definitive documents and is expected to close in June 1997. This issuance
may constitute a change in control of the Company.
The Company believes this $15.0 million in equity capital will be
sufficient to meet its working capital, capital expenditure and debt covenant
requirements for the balance of 1997. In addition to this $15.0 million, the
Company is required to raise an additional $5.0 million in equity or
subordinated debt by the end of January 1998 to meet the debt covenant
requirements under its revolving credit facility. The Company has no
commitment for additional funds in excess of $15.0 million. If additional funds
of $5.0 million are not obtained by the end of January 1998, the Company would
be required to seek an amendment to its debt covenants or refinance its
revolving credit facility and the failure to obtain such additional funds,
absent an amendment or refinancing, would have a material adverse effect on the
Company.
In addition to this $20.0 million, the Company may need additional funds
in the form of equity, bank debt, or other debt financing. The Company has no
commitment for funds in excess of $15.0 million, and no assurances can be given
that such additional funds will be available on terms acceptable to the Company,
if at all; the failure to obtain such funds could have material adverse effect
on the Company. In addition, future acquisitions of paging network assets and
licenses or other assets or businesses or other events may change the Company's
capital requirements.
ACQUISITIONS
In July 1996, the Company acquired the stock of Paging Services, Inc.
("PSI") for $750,000, paid by the issuance of 58,823 shares of Common Stock and
$250,000 in cash. The Company used working capital to fund the cash portion of
the acquisition. The name of PSI was changed to Preferred Technical Services,
Inc., and PTS operates as a wholly-owned subsidiary of the Company. The
transaction was accounted for as a purchase as of July 1, 1996. The
acquisition of PTS allowed the Company to further differentiate itself from
other paging companies because the Company is now able to provide a range of
outsourcing services to the wireless industry; i.e., paging network equipment
installation, maintenance and engineering services. PTS is expanding to Texas,
Colorado, Washington and further expanding in Georgia and has contracts with a
paging equipment manufacturer to install paging systems for several major
paging carriers. PTS plans to continue expanding and add engineering personnel
as the Company expands nationwide.
In September 1996, the Company completed the acquisition of substantially
all the assets of Big Apple for approximately $3.8 million. Of this amount,
$1.4 million was paid in cash in 1996, $1.0 million was paid by the issuance of
125,598 shares of Common Stock in 1996, $1.1 million was paid in January 1997
by the issuance of 165,317 shares of Common Stock, an additional $130,000 was
paid in cash in 1997 and $250,000 remains to be paid in cash. The transaction
was accounted for as a purchase as of September 13, 1996. Big Apple is a
reseller-based paging carrier in the states of New York, New Jersey, and
Connecticut. Prior to closing, the Company earned revenues from Big Apple
under an agency agreement. The purchase of Big Apple provided the Company with
a base of customers upon opening its Northeast TCC.
In December 1996, the Company acquired the stock of EPS for approximately
$4.8 million and possible additional consideration of up to an additional $5.0
million based on EPS's achievement of targeted operating performance during the
two year period ending December 31, 1998. The Company issued 673,524 shares of
Common Stock in 1996 and paid $300,000 in cash in February 1997. The
transaction was accounted for as a purchase as of December 1, 1996. Additional
consideration, if any, will be recorded as goodwill. EPS repairs or sells more
than 70,000 product units per month. The acquisition of EPS expands the
Company's revenue sources to paging companies that do not buy network services
from the Company due to geography or frequency and also expands the Company's
customer base to include cellular companies. EPS will provide the Company with
a source of lower-cost pager products.
In September 1996, the Company signed a definitive agreement to acquire
the stock of Mercury Paging & Communications, Inc. and its affiliated companies
("Mercury"). The acquisition of Mercury closed on January 31, 1997 for a total
purchase price of $14.2 million. The Company paid $10.3 million in cash and
issued 624,321 shares of Common Stock, 156,080 of which are being held in
escrow and will be released to the former Mercury shareholders after March 1997
subject to reduction if certain revenue targets are not met. The $10.0 million
drawn on
27
<PAGE> 28
the Company's revolving credit facility in December 1996 was used to fund the
majority of the cash portion of the purchase price, with working capital being
used to fund the remainder. Mercury is a reseller-based paging carrier in the
states of New York, New Jersey and Connecticut. Prior to closing, the Company
earned revenues from Mercury under an agency agreement.
EFFECT OF INFLATION AND SEASONALITY
Inflation is not a material factor affecting the Company's business. The
cost to the Company of purchasing pagers has declined significantly in recent
years, and this reduction in cost has been reflected in lower prices charged to
the Company's customers. General operating expenses such as salaries, employee
benefits, and occupancy costs are subject to normal inflationary pressures.
Seasonality is not a material factor affecting the Company's business
although pager sales are generally higher in the fourth quarter of the year due
to higher demand from the Company's customers during the holiday season. Also
in certain regions, weather delays may be a factor in the construction of the
Company's networks.
FORWARD-LOOKING STATEMENTS
The Private Securities Litigation Reform Act of 1995 provides a "safe
harbor" for forward-looking statements. Certain information included in this
Annual Report on Form 10-K and other materials filed or to be filed by the
Company with the Securities and Exchange Commission (as well as information
included in oral statements or other written statements made or to be made by
the Company) contains statements that are or will be forward-looking, such as
statements relating to acquisitions, construction and other business
development activities, future capital expenditures, financing sources and
availability and the effects of laws and regulations (including FCC
regulations) and competition. Such forward-looking information involves
important risks and uncertainties that could significantly effect anticipated
results in the future and, accordingly, such results may differ from those
expressed in any forward-looking statements made by or on behalf of the
Company. These risks and uncertainties include, but are not limited to,
uncertainties affecting the paging and wireless industries generally, risks
relating to the Company's acquisition, construction and other business
development activities, risks relating to technological change in the paging
and wireless industries, risks relating to the ability of the Company to obtain
additional funds in the form of debt or equity, risks relating to the
availability of transmitters, terminals, network project management services
and network engineering support, fluctuations in interest rates, and the
existence of and changes to federal and state laws and regulations.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
28
<PAGE> 29
REPORT OF INDEPENDENT ACCOUNTANTS
TO THE BOARD OF DIRECTORS AND
STOCKHOLDERS OF PREFERRED NETWORKS, INC.
In our opinion, the accompanying consolidated statements of operations, of
changes in stockholders' equity (deficit) and of cash flows present fairly, in
all material respects, the results of Preferred Networks, Inc.'s operations and
its cash flows for the year ended December 31, 1994, in conformity with
generally accepted accounting principles. These financial statements are the
responsibility of the Company's management. Our responsibility is to express
an opinion on these financial statements based on our audit. We conducted our
audit of these statements in accordance with generally accepted auditing
standards which require that we plan and perform the audit to obtain reasonable
assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements, assessing
the accounting principles used and significant estimates made by management,
and evaluating the overall financial statement presentation. We believe that
our audit provides a reasonable basis for the opinion expressed above.
PRICE WATERHOUSE LLP
Atlanta, Georgia
February 10, 1995
except as to the first paragraph
of Note 5 which is as
of January 24, 1996
29
<PAGE> 30
REPORT OF INDEPENDENT AUDITORS
THE BOARD OF DIRECTORS AND STOCKHOLDERS
PREFERRED NETWORKS, INC.
We have audited the consolidated balance sheets of Preferred Networks,
Inc. as of December 31, 1995 and 1996, and the related consolidated statements
of operations, changes in stockholders' equity (deficit), and cash flows for
the years then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free of
material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of Preferred
Networks, Inc. as of December 31, 1995 and 1996, and the consolidated results
of its operations and its cash flows for the years then ended in conformity
with generally accepted accounting principles.
ERNST & YOUNG LLP
Atlanta, Georgia
April 14, 1997
30
<PAGE> 31
PREFERRED NETWORKS, INC.
CONSOLIDATED BALANCE SHEETS
<TABLE>
<CAPTION>
DECEMBER 31, DECEMBER 31,
1995 1996
----------- ------------
ASSETS
Current assets
<S> <C> <C>
Cash and cash equivalents.............................................. $ 9,311,379 $ 21,645,354
Accounts receivable, less allowance for doubtful accounts of
$86,426, and $254,990 in 1995 and 1996, respectively................. 923,890 2,815,982
Receivables from related parties....................................... 66,425 93,397
Inventory.............................................................. 1,068,970 5,630,478
Prepaid expenses and other current assets.............................. 386,648 540,190
----------- ------------
Total current assets.............................................. 11,757,312 30,725,401
Property and equipment, net.............................................. 6,885,022 21,559,407
Goodwill, net............................................................ 5,779,321
FCC licenses, net........................................................ 985,029 4,601,792
Other assets, net........................................................ 418,356 3,459,416
----------- ------------
$20,045,719 $ 66,125,337
=========== ============
LIABILITIES, REDEEMABLE CONVERTIBLE PREFERRED STOCK,
AND STOCKHOLDERS' EQUITY (DEFICIT)
Current liabilities
Accounts payable....................................................... $ 292,073 $ 5,011,150
Accrued liabilities.................................................... 341,604 2,878,573
Payables to related parties............................................ 500 6,317
Accrued salaries....................................................... 145,924 621,493
Current portion of notes payable and capital lease obligations......... 2,605,627 995,164
----------- ------------
Total current liabilities......................................... 3,385,728 9,512,697
Notes payable and capital lease obligations, less current portion........ 2,807,398 16,029,652
Series A Redeemable Convertible Preferred Stock, $.01 par value, $11
per share minimum redemption price, 159,377 shares authorized, issued
and outstanding in 1995, none in 1996.................................. 2,437,890 -
Series B Redeemable convertible Preferred Stock, $.01 par value, $1,000
per share minimum redemption price; 21,000 shares authorized
in 1995; 16,565 shares issued and outstanding in 1995, none in 1996.... 19,220,921 -
----------- ------------
Total liabilities and redeemable convertible preferred stock...... 27,851,937 25,542,349
Stockholders' equity (deficit)
Preferred stock, $.01 par value, 319,623 and 5,000,000 shares
authorized in 1995 and 1996, respectively; none issued
or outstanding....................................................... - -
Common stock, $.0001 par value, 70,000,000 shares authorized,
4,138,496 and 15,290,921 shares issued and outstanding
in 1995 and 1996, respectively....................................... 414 1,529
Additional paid-in capital............................................... 1,013,981 56,312,399
Accretion on Series A and Series B Redeemable
Convertible Preferred Stock............................................ (3,289,003)
Accumulated deficit...................................................... (5,531,610) (15,730,940)
----------- ------------
(7,806,218) 40,582,988
----------- ------------
$20,045,719 $ 66,125,337
=========== ============
</TABLE>
See accompanying notes.
31
<PAGE> 32
PREFERRED NETWORKS, INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------
1994 1995 1996
---------------- --------------- -----------------
<S> <C> <C> <C>
Revenues
Network services........................................ $ 1,959,429 $ 3,549,088 $ 6,121,127
Product sales........................................... 2,096,895 3,651,018 5,818,074
Other services.......................................... 25,831 153,128 1,411,471
------------- ----------- --------------
4,082,155 7,353,234 13,350,672
Costs of revenues
Network services........................................ 977,245 1,768,171 4,621,126
Product sales........................................... 2,103,246 4,557,813 8,328,771
Other services.......................................... - - 662,310
------------- ----------- --------------
1,001,664 1,027,250 (261,535)
Selling, general and administrative expenses............. 1,505,644 3,179,944 8,337,963
Depreciation and amortization............................ 492,100 763,743 2,479,080
------------- ----------- --------------
Operating loss........................................ (996,080) (2,916,437) (11,078,578)
Interest expense......................................... (337,209) (317,160) (242,337)
Interest income.......................................... 6,860 363,837 1,121,585
------------- ----------- --------------
Net loss.............................................. (1,326,429) (2,869,760) (10,199,330)
Accretion of Series A and Series B Redeemable Convertible
Preferred Stock......................................... - (3,289,003) (1,121,316)
Series B Redeemable Convertible Preferred Stock dividend
requirements............................................ - (1,069,548) (353,651)
--------------- -------------- ----------------
Net loss attributable to Common Stock................. $(1,326,429) $(7,228,311) $(11,674,297)
=============== ============== ================
Net loss per share of Common Stock....................... $ (0.15) $ (0.48) $ (0.79)
=============== ============== ================
Weighted average number of common shares
used in calculating net loss per share of
Common Stock............................................ 9,107,558 9,158,406 13,643,474
=============== ============== ================
</TABLE>
See accompanying notes.
32
<PAGE> 33
PREFERRED NETWORKS, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
<TABLE>
<CAPTION>
ACCRETION OF
REDEEMABLE
ADDITIONAL CONVERTIBLE
COMMON PAID-IN PREFERRED ACCUMULATED
STOCK CAPITAL STOCK DEFICIT TOTAL
------ ----------- ------------ ------------ -----------
<S> <C> <C> <C> <C> <C>
Balance at December 31, 1993........... $ 393 $ 1,792,466 $ - $ (1,335,421) $ 457,438
Issuance of common Stock............... 21 199,979 - - 200,000
Net loss............................... - - - (1,326,429) (1,326,429)
------ ----------- ------------ ------------ -----------
Balance at December 31, 1994 414 1,992,445 - (2,661,850) (668,991)
Accretion of Series A and Series B
Redeemable Convertible
Preferred Stock....................... - - (3,289,003) - (3,289,003)
Undeclared dividends on Series B
Redeemable Convertible
Preferred Stock ($64.57 per
share)................................ - (1,069,548) - - (1,069,548)
Issuance of Common Stock
warrants.............................. - 83,750 - - 83,750
Non-cash stock option
compensation.......................... - 7,334 - - 7,334
Net loss .............................. - - - (2,869,760) (2,869,760)
------ ----------- ------------ ------------ -----------
Balance at December 31, 1995............ 414 1,013,981 (3,289,003) (5,531,610) (7,806,218)
Accretion of Series A and
Series B Redeemable
Convertible Preferred Stock........... - - (1,121,316) - (1,121,316)
Dividends on Series B
Redeemable Convertible
Preferred Stock ($21.35 per
share)................................ - (353,651) - - (353,651)
Issuance of Common Stock upon
Initial Public Offering............... 345 31,152,052 - - 31,152,397
Conversion of Series A and
Series B Redeemable
Convertible Preferred Stock........... 683 18,546,627 4,410,319 - 22,957,629
Issuance of Common Stock
upon exercise of stock options........ 1 14,142 - - 14,143
Issuance of Common Stock
pursuant to acquisitions.............. 86 5,909,914 - - 5,910,000
Non-cash stock option
compensation.......................... - 29,334 - - 29,334
Net loss............................... - (10,199,330) (10,199,330)
------ ----------- ------------ ------------ -----------
Balance at December 31, 1996............ $1,529 $56,312,399 $ - $(15,730,940) $40,582,988
====== =========== ============ ============ ===========
</TABLE>
See accompanying notes.
33
<PAGE> 34
PREFERRED NETWORKS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
----------------------------------------------------
1994 1995 1996
--------------- ---------------- -----------------
<S> <C> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss................................................... $(1,326,429) $(2,869,760) $(10,199,330)
Adjustments to reconcile net loss to net cash used in
operating activities:
Depreciation and amortization............................. 492,100 763,743 2,479,080
Loss on disposal of property and equipment................ - 7,380 -
Bad debt expense.......................................... 96,745 120,042 248,362
Stock option compensation expense......................... - 7,334 29,334
Changes in operating assets and liabilities:
Accounts receivable...................................... (395,234) (507,547) (1,415,629)
Receivables from related parties......................... (37,000) (1,425) (26,972)
Inventory................................................ (256,182) (706,137) (3,759,481)
Prepaid expenses and other current assets................ (16,596) (335,893) (109,048)
Accounts payable......................................... 725,304 (560,012) 3,778,873
Accrued liabilities...................................... 575,252 213,016 2,518,175
Payables to related parties.............................. 58,516 (184,016) 5,817
Accrued salaries......................................... (138,440) 145,924 160,910
----------- ----------- -----------
Net cash used in operating activities...................... (221,964) (3,907,351) (6,289,909)
CASH FLOWS FROM INVESTING ACTIVITIES
Purchases of equipment..................................... (419,766) (3,104,513) (8,174,943)
Purchase of other assets and FCC licenses.................. (26,690) (1,421,158) (6,568,426)
Payment for acquisitions, net of cash acquired............. - - (379,947)
----------- ----------- ------------
Net cash used in investing activities...................... (446,456) (4,525,671) (15,123,316)
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from borrowings................................... 90,028 3,463,681 10,000,000
Payments of borrowings..................................... (217,220) (1,869,650) (7,243,191)
Issuance of Redeemable Convertible Preferred Stock......... 702,141 15,845,365 -
Payment of Redeemable Convertible Preferred Stock dividends - - (176,149)
Issuance of Common Stock upon exercise of stock options.... - - 14,143
Issuance of Common Stock................................... 200,000 - 31,152,397
Issuance of Common Stock warrants.......................... - 83,750 -
----------- ----------- ------------
Net cash provided by financing activities.................. 774,949 17,523,146 33,747,200
----------- ----------- ------------
Net increase in cash and cash equivalents.................. 106,529 9,090,124 12,333,975
Cash and cash equivalents, beginning of year............... 114,726 221,255 9,311,379
----------- ----------- ------------
Cash and cash equivalents, end of year..................... $ 221,255 $ 9,311,379 $ 21,645,354
=========== =========== ============
</TABLE>
See accompanying notes.
34
<PAGE> 35
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 1996
1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS
Preferred Networks, Inc. (the "Company") provides outsourcing services to
the wireless industry. The Company commenced operations in 1991 as a carrier's
carrier of one-way paging networks, whereby the Company's customers purchase
the Company's network services and resell them to their subscribers. During
the second half of 1996, the Company began to broaden its service offerings and
expand its customer base through two acquisitions of businesses which provide
non-network services. In July, the Company acquired Preferred Technical
Services, Inc. ("PTS"), a provider of paging network equipment installation,
maintenance and engineering services. In December, the Company acquired EPS
Wireless, Inc. ("EPS"), a national provider of paging and cellular product
repair services, sales of new, used and refurbished paging and cellular
products and inventory management services.
In 1995 and 1996, the Company formed wholly-owned subsidiaries and limited
liability companies to execute certain business transactions. All significant
intercompany activity has been eliminated.
INITIAL PUBLIC OFFERING
On March 1, 1996, the Company issued 3,300,000 shares of Common Stock in
an initial public offering ("IPO"). The Company received net proceeds of
$30.7 million. In addition, on March 28, 1996, the underwriters exercised
their over-allotment option to purchase an additional 148,000 shares of
Common Stock and the Company received additional net proceeds of $1.4
million.
Pursuant to their terms, upon consummation of the IPO all outstanding
shares of Series A and Series B Redeemable Convertible Preferred Stock
("Series A" and "Series B", respectively) automatically converted into
Common Stock. The Company elected to pay accrued dividends on the Series B
through January 31, 1996, in shares of Common Stock and the remainder of the
accrued dividends from February 1 to March 1, 1996, in the amount of $176,000
in cash. The total number of shares of Common Stock issued upon such
conversion and such dividend payment was 6,830,280 shares. All accretion
previously accrued was eliminated upon conversion to shares of Common Stock.
SIGNIFICANT ACCOUNTING POLICIES
The Company's significant accounting policies are summarized as follows:
USE OF ESTIMATES
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
REVENUE RECOGNITION
The Company recognizes revenue on network services when the service is
provided. Revenue from the sale of pagers and cellular products is recognized
when the product is shipped. Other service revenue consists of revenues
generated from repair, maintenance and installation services. The Company
recognizes revenue from such services when the services are provided. Sales to
two, three and one customers approximated a total of 27%, 31% and 10% of total
sales during 1994, 1995 and 1996, respectively.
35
<PAGE> 36
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -
(CONTINUED)
CASH AND CASH EQUIVALENTS
The Company considers short-term investments with original maturity dates
of 90 days or less at date of purchase to be cash equivalents. Short-term
investments are carried at cost plus accrued interest, which approximates fair
market value.
CONCENTRATION OF CREDIT RISK
Financial instruments that potentially subject the Company to
concentration of credit risk consist principally of cash equivalents and
accounts receivable. Cash equivalents are held with two financial
institutions. Accounts receivable represent trade receivables and are
unsecured. The Company performs periodic credit evaluations of its customers'
financial condition and generally does not require collateral. The Company
provides an allowance for doubtful accounts equal to the estimated losses
expected to be incurred in the collection of accounts receivable.
INVENTORY
Inventory includes new and refurbished pagers and cellular phones and
related repair parts. The amounts are stated at the lower of cost or market,
with cost of new product and repair parts being determined under the first-in,
first-out (FIFO) method and the cost of refurbished products being determined
under the specific identification method. The carrying amount of certain
inventory has been reduced to market value at both December 31, 1995 and 1996.
PROPERTY AND EQUIPMENT
Property and equipment is stated at cost including capitalized interest on
eligible assets. Interest capitalized in 1994, 1995 and 1996 totaled $35,778,
$84,288 and $280,749, respectively. The Company depreciates its property and
equipment over the estimated useful life of the asset using the straight-line
method. Estimated useful lives range from five to seven years.
FCC LICENSES
Federal Communications Commission ("FCC") licenses consist of costs
associated with the purchase of licenses and license application fees. These
amounts are being amortized over a 15 year period, using the straight-line
method. Accumulated amortization at December 31, 1995 and 1996 totaled $35,628
and $235,967, respectively.
OTHER ASSETS
Other assets include deposits with creditors, organization costs, and
market entry costs. Organization costs are amortized using the straight-line
method over periods of five to 15 years.
The Company capitalizes the incremental costs of entering a new
geographical market until the Company begins to generate revenues from the sale
of network services to its customers in that market. These costs include
salaries, rent and the cost of telecommunications services. Such capitalized
amounts are amortized over a 15 month period, which approximates the Company's
estimated market stabilization period. The Company capitalized $0 in 1994,
$280,212 in 1995 and $2,407,346 in 1996.
Accumulated amortization for other assets at December 31, 1995 and 1996
totaled $25,655 and $415,735, respectively.
36
<PAGE> 37
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -
(CONTINUED)
GOODWILL
Goodwill represents the excess purchase price over the fair value of the
assets acquired in various acquisitions. Goodwill is amortized using the
straight-line method over 15 years. Accumulated amortization was $25,334 at
December 31, 1996.
IMPAIRMENT OF LONG-LIVED ASSETS
In 1996, the Company adopted Financial Accounting Standards Board
Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to be Disposed Of, which requires impairment losses to be
recognized for long-lived assets used in operations when indicators of
impairment are present and the undiscounted cash flows are not sufficient to
recover the assets' carrying amount. The impairment loss is measured by
comparing the fair value of the asset to its carrying amount. There was no
effect of the adoption of the new statement in 1996.
INCOME TAXES
The Company uses the liability method of accounting for income taxes.
STOCK-BASED COMPENSATION
The Company uses the intrinsic value method of measuring and recording
compensation expense, if any, related to stock-based compensation. See Note
6 related to pro forma disclosures using the fair value method, as required
by Financial Accounting Standards Board Statement No. 123, Accounting for
Stock-Based Compensation ("FAS 123").
NET LOSS PER SHARE
Net loss per share was computed using the requirements of Accounting
Principles Board Opinion No. 15 and SEC Staff Accounting Bulletin No. 83 and
as such equals the net loss increased by the portion of accretion of the
Series A which relates to shares which are not considered as cheap stock, as
defined below, and the dividends on Series B divided by the weighted average
number of shares of Common Stock outstanding, plus cheap stock as defined
below up until the March 1, 1996 closing date of the IPO. The calculation
excludes any antidilutive shares during the period, other than cheap stock.
Loss per share is computed independently for each for the quarters presented.
Therefore, the sum of the quarterly loss per share may not equal the
year-to-date loss per share.
Pursuant to SEC Staff Accounting Bulletin No. 83, common stock and
common stock equivalents (including preferred stock) issued at prices equal
to or below the IPO price per share ("cheap stock") during the twelve-month
period immediately preceding the initial filing date of the Company's
registration statement for the IPO have been included as if outstanding for
all periods presented, up until the March 1, 1996 closing date of the IPO
(using the treasury stock method at the IPO price) even though the effect is
to reduce the loss per share. A portion of the Series A, all of the Series
B and certain of the stock options and warrants have been treated as cheap
stock.
Supplemental loss per common share is calculated using the weighted
average number of common and common equivalent shares outstanding during the
respective periods assuming the same number of shares outstanding as described
above, and also considering the reduction in interest expense from the
repayment of long term debt of $5.6
37
<PAGE> 38
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. NATURE OF OPERATIONS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES -
(CONTINUED)
million with proceeds of the IPO, as if such shares had been issued and
repayment had occurred at the beginning of the period or later if the debt
was not outstanding the entire period. Supplemental net loss per share for
the year ended December 31, 1996 was ($0.77).
Retroactive restatement has been made to all share, weighted average
shares and loss per share calculations for the stock splits effected in
January 1996 and February 1994.
The computation of fully diluted historical net loss per share of Common
Stock was antidilutive in each of the periods presented; therefore the
amounts reported for primary and fully diluted are the same.
STATEMENTS OF CASH FLOWS
The Company paid interest of approximately $310,000, $402,000 and
$569,000, during the years ended December 31, 1994, 1995 and 1996,
respectively.
During 1994, 1995 and 1996, the Company purchased property and equipment
of approximately $746,000, $1,121,000 and $7,695,000, respectively, through
the issuance of notes payable and under capital leases.
During 1994 and 1995, the Company issued 41,195 shares of Series A and
300 shares of Series B, respectively, in satisfaction of $453,145 and
$300,000, respectively, owed to officers of the Company for compensation and
repayment of advances to the Company from the officers.
RECLASSIFICATIONS
Certain amounts in the 1994 and 1995 financial statements have been
reclassified to conform to the 1996 presentation.
2. ACQUISITIONS
In July 1996, the Company acquired the stock of Paging Services, Inc. for
$750,000, paid by the issuance of 58,823 shares of the Company's Common Stock
and $250,000 in cash. Its name was changed to Preferred Technical Services,
Inc. ("PTS"), and PTS now operates as a wholly-owned subsidiary of the
Company. The transaction was accounted for as a purchase as of July 1, 1996,
and the excess purchase price over the fair value of the assets acquired has
been recorded as goodwill. The President and another officer of the Company
were majority stockholders of PTS prior to the acquisition.
In September 1996, the Company acquired substantially all the assets of
Big Apple Paging Corporation ("Big Apple") for approximately $3.8 million. Of
this amount, $1.4 million was paid in cash and $1.0 million was paid by the
issuance of 125,598 shares of the Company's Common Stock in September 1996. In
February 1997, $1.1 million was paid by the issuance of 165,317 shares of
Common Stock, an additional $130,000 was paid in cash and $250,000 remains to
be paid in cash. The transaction was accounted for as a purchase as of
September 13, 1996. Big Apple is a reseller-based paging carrier operating in
the states of New York, New Jersey, and Connecticut.
38
<PAGE> 39
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
2. ACQUISITIONS - (CONTINUED)
In December 1996, the Company acquired the stock of EPS Wireless, Inc.
("EPS") for approximately $4.8 million, and possible additional consideration
of up to an additional $5.0 million based on EPS's achievement of targeted
operating performance during the two year period ending December 31, 1998. Of
the purchase price, $4.5 million was paid by the issuance of 673,524 shares of
the Company's Common Stock with the remainder of $300,000 paid in cash. The
transaction was accounted for as a purchase as of December 1, 1996 and the
excess purchase price over the fair value of the assets acquired has been
recorded as goodwill. Additional consideration, if any, will be recorded as
goodwill. The Chairman of the Company was a minority stockholder and member of
the Board of Directors of EPS prior to the acquisition.
The following unaudited pro forma summary presents the consolidated
results of operations as if all of the 1996 acquisitions described above had
occurred on January 1, 1995, and does not purport to be indicative of what
would have occurred had the acquisitions been made as of that date or of
results which may occur in the future:
<TABLE>
<CAPTION>
YEAR-ENDED
DECEMBER 31,
1995 1996
--------------------------
<S> <C> <C>
Net revenues..................................... $15,676,032 $ 24,547,935
=========== ============
Net loss......................................... $(3,714,506) $(11,943,740)
=========== ============
Net loss per common share........................ $ (0.86) $ (0.52)
=========== ============
</TABLE>
In September 1996, the Company signed a definitive agreement to acquire
the stock of Mercury Paging & Communications, Inc. and its affiliated companies
("Mercury") for approximately $14.2 million subject to certain adjustments and
possible additional consideration based on Mercury's achievement of targeted
operating performance. Mercury serves paging subscribers in the New Jersey, New
York and Southern Connecticut markets primarily through reseller distribution.
The acquisition was consummated on January 31, 1997 with the payment of $10.3
million in cash and the issuance of 624,321 shares of the Company's Common
Stock. Of the 624,321 shares, 156,080 are being held in escrow and will be
released after March 31, 1997 to the former Mercury shareholders subject to
reduction if certain revenue targets are not met.
3. PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
<TABLE>
<CAPTION>
DECEMBER 31,
1995 1996
-------------- --------------
<C> <C> <C>
Network services equipment... $ 5,867,722 $14,654,212
Computer equipment........... 876,615 2,461,159
Other equipment.............. 318,107
Vehicles..................... 153,759 484,220
Furniture and fixtures....... 124,930 470,249
Construction in progress..... 1,381,198 5,991,977
Leasehold improvements....... 34,608 553,826
------------- -------------
8,438,832 24,933,750
Less accumulated depreciation (1,553,810) (3,374,343)
------------- -------------
$ 6,885,022 $21,559,407
=========== =============
</TABLE>
39
<PAGE> 40
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
3. PROPERTY AND EQUIPMENT - (CONTINUED)
At December 31, 1995 and 1996 substantially all property and equipment is
pledged as collateral under various notes payable. Depreciation expense was
approximately $489,000, $708,000 and $1,820,000 for the years ended December
31, 1994, 1995 and 1996, respectively.
4. NOTES PAYABLE AND CAPITAL LEASE OBLIGATIONS
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------------
1995 1996
-------------- ---------------
<S> <C> <C>
Revolving credit facility with a financial institution; maximum borrowings
of $20,000,000, bearing interest either at prime plus 1% or at LIBOR plus
3.75%, at the Company's option. No additional amounts were available at
December 31, 1996. Payable in monthly interest installments, due
August 8, 1998; secured by substantially all the assets of the Company..... $ - $10,000,000
Line of credit with equipment manufacturers, maximum borrowings of
$12,000,000 at December 31, 1996, bearing interest at the five-year
U.S. Treasury rate plus 6.5% in 1996 and various floating rates in 1995.
At December 31, 1996, borrowings are payable in various monthly
installments of principal and interest, with maturity dates through
2001; secured by paging equipment.......................................... 1,192,222 3,595,810
Notes payable to finance company bearing interest at 10% payable in
various monthly installments of principal and interest with maturity dates
through 2002; secured by paging equipment.................................. 2,150,456 3,011,512
Notes payable to banks bearing interest at fixed rates ranging from 7.25% to
9.81%, and variable rates at prime plus 1% or 1.25%, payable in various
monthly installments of principal and interest, with maturity dates through
2000; secured by vehicles and paging equipment............................. 209,429 -
Note payable to bank, bearing interest at the 30 day LIBOR plus 4%,
payable in monthly interest installments, due May 1996; secured by stock of
subsidiary................................................................. 1,800,000 -
Amounts due under capital leases, due in various monthly installments
until 2001; secured by the related equipment .............................. - 417,494
Other....................................................................... 60,918 -
----------- -----------
5,413,025 17,024,816
Less current portion........................................................ (2,605,627) (995,164)
----------- -----------
$ 2,807,398 $16,029,652
=========== ===========
</TABLE>
Approximate future principal maturities of notes payable and capital lease
obligations are as follows:
<TABLE>
<CAPTION>
YEAR ENDING DECEMBER 31,
- ------------------------
<S> <C>
1997......................................................................................... $ 995,164
1998......................................................................................... 11,452,034
1999......................................................................................... 1,631,562
2000......................................................................................... 1,828,900
2001......................................................................................... 1,107,201
Thereafter 9,955
-----------
$17,024,816
===========
</TABLE>
40
<PAGE> 41
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
4. NOTES PAYABLE AND CAPITAL LEASE OBLIGATIONS - (CONTINUED)
The Company's notes payable agreements contain various covenants which,
among other things, relate to debt service, reserves, minimum net worth,
acquisitions and future requirements for raising $15.0 million in debt or
equity capital by July 1, 1997, and an additional $5.0 million by the end of
January 1998. In April 1997, the Company's maximum borrowings under the
revolving credit facility were reduced to $9.25 million, the amount then
outstanding.
5. STOCKHOLDERS' EQUITY
COMMON STOCK SPLITS
Effective January 24, 1996, the Company amended its certificate of
incorporation to increase the authorized Common Stock to 70,000,000 shares,
to reduce Common Stock par value to $.0001, and to provide a 7.35-for-1
Common Stock split. The Board of Directors and stockholders also approved an
amendment to increase the number of authorized shares of Preferred Stock to
5,000,000 which was effective upon consummation of the IPO. All common share
and per common share amounts have been adjusted for all periods presented to
reflect the stock split.
Effective February 1994, the Board of Directors approved a ten-for-one
stock split of the Company's Common Stock. All per share information and
outstanding Common Stock information has been adjusted for all periods
presented to reflect the stock split.
SERIES A REDEEMABLE CONVERTIBLE PREFERRED STOCK
In 1994 the Company authorized the issuance of 500,000 shares of
Preferred Stock, $.01 par value per share. A total of 159,377 of these
shares of Preferred Stock were previously designated as Series A and a total
of 159,377 shares were issued in 1995. All of the outstanding shares of
Series A converted to Common Stock upon the IPO.
The Series A was redeemable, if no Series B was outstanding, any time on
or after June 20, 2001, at the option of the holders of 51% of the
outstanding shares, at the greater of $11.00 per share or fair market value.
Each share of Series A was also convertible into 7.35 shares of Common Stock
(subject to adjustment) at any time at the option of the holders and
automatically converted in the event of certain transactions, including a
qualified public offering, as defined. The Company's IPO triggered the
automatic conversion. The number of shares of Common Stock to which the
holders of Series A were entitled was determined by dividing $11.00 by the
"Conversion Price" (originally $11.00, with subsequent adjustments as
provided) applicable to such shares at the date of conversion. Each holder
of Series A was entitled to the number of votes equal to the number of shares
of Common Stock into which such shares of Series A could be converted. The
holders of Series A were entitled to receive, as, when, and if declared by
the Board of Directors, cumulative preferred dividends at the rate of $0.88
per share as adjusted for any stock dividends, combinations or splits with
respect to such shares) per annum, payable out of funds legally available.
Such preferred dividends were to begin to accrue on October 1, 1996. The
Series A had liquidation preference over the Common Stock (at the greater of
(i) $11.00 plus accrued or declared and unpaid dividends or (ii) such amount
per share as would be available to the holders of Common Stock assuming
conversion of all then-outstanding Series A to Common Stock), but ranked in
parity with all other Preferred Stock.
The Series A was being accreted to their estimated redemption value (the
greater of $11.00 per share or fair value) over the period until the holders
could demand redemption. At December 31, 1995 the Series A was stated at
issuance price plus accretion of $684,923. Total estimated redemption value
of the Series A at December 31, 1995 was $13,120,000.
41
<PAGE> 42
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5. STOCKHOLDERS' EQUITY - (CONTINUED)
SERIES B REDEEMABLE CONVERTIBLE PREFERRED STOCK
In June 1995, the Company designated 21,000 of its then authorized
shares of Preferred Stock as Series B and issued 16,565 shares of Series B.
All of the outstanding shares of Series B converted to Common Stock upon the
IPO. Dividends on the Series B accrued at the rate of 12% of the liquidation
value per annum, compounded quarterly. The Series B had a liquidation value
of $1,000 per share, had priority over all other capital stock of the Company
with respect to dividends and liquidation and voted together with the Common
Stock on an as-converted basis (i.e., each share of Series B converted into
334.09 shares of Common Stock). The Series B could be converted into shares
of Common Stock at any time at the option of the holder and was subject to
mandatory conversion upon a qualified public offering, as defined. The
Company had the option of paying any unpaid dividends upon conversion in cash
or shares of Common Stock. The Company paid all Series B dividends through
January 31, 1996 in shares of Common Stock, and from that date to the IPO in
cash.
Upon certain triggering dates or events including the sale of the
Company, each Series B holder had the right to require the Company to redeem
the Series B and underlying Common Stock resulting from any conversion, at a
price equal to (i) for the Series B, the greater of the liquidation value per
share (plus accrued and unpaid dividends) or its fair market value per share
and (ii) for the underlying Common Stock, the greater of $2.99 per share or
its fair market value per share. At December 31, 1995 no such conditions
existed. In January 1996, the shareholders approved the deletion of the
redemption feature on the underlying Common Stock upon the completion of the
IPO.
The Company had the right to call all of the Series B at any time, at a
price equal to its liquidation value per share, plus accrued and unpaid
dividends.
In conjunction with the issuance of the Series B, the holders of the
Series A agreed to subordinate certain of their rights to those of the Series
B. As a result, the number of authorized shares of Series A was reduced to
equal the number of shares of Series A then outstanding and the Series A
could not be redeemed until the redemption or conversion of the Series B.
At December 31, 1995 the Series B was recorded net of offering costs of
$937,495, plus accrued undeclared dividends of $1,069,548 and accretion of
$2,604,080. The difference between redemption value (the greater of $1,000
per share or fair value) and carrying value (excluding accrued dividends) was
being accreted over five years, the period until the holders could demand
redemption. Total estimated redemption value of the Series B at December 31,
1995 was $61,983,000.
COMMON STOCK WARRANTS
In 1994, the Company issued and had outstanding at December 31, 1996
warrants to purchase up to 183,750 shares of Common Stock at $1.50 per share,
exercisable until November 15, 2009.
In 1995, in conjunction with the offering of the Series B, the Company
issued and had outstanding at December 31, 1996 warrants to purchase 238,603
shares of Common Stock at $4.24 per share, exercisable until June 2005.
At the same time, the purchasers of Series B purchased warrants which
become exercisable only upon the Company's exercise of the call of the Series
B (as described above) and gave the purchasers of the Series B the right to
acquire, in whole or in part, the number of shares of Common Stock into which
the Series B is convertible at the time of the call, at an exercise price
equal to the then current conversion price for the Series B. These warrants
expired upon the consummation of the IPO.
42
<PAGE> 43
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
5. STOCKHOLDERS' EQUITY - (CONTINUED)
PENDING STOCK ISSUANCES
The Company has a commitment from certain of its current stockholders for
the purchase of $15 million in redeemable preferred stock issuable at a price of
$1.50 per share, which will accrue dividends at a rate of 10% per annum. The
preferred stock will be redeemable at any time at the option of the Company at
a price equal to $1.50 per share plus accrued dividends and if the holder so
demands, the preferred stock must be redeemed by the Company at a price equal to
$1.50 per share plus accrued dividends beginning five years from the date of
issuance. In addition, each investor will be issued 1.15 warrants for each
share of preferred stock. Each warrant will be exercisable for 5 years
following the issuance of the preferred stock and will entitle the holder to
purchase one share of Common Stock for $1.50 per share subject to adjustments
based on any private placement of the Company's preferred or common stock. The
warrants will include mandatory exercise and cancellation provisions in the
event of redemption of the preferred stock. The Company has granted the
investors the option to increase their commitment by up to an additional $5
million at substantially the same terms until June 30, 1997. The issuance of
the preferred stock and warrants is subject to shareholder approval and
execution of definitive documents and is expected to close in June 1997.
In addition, the Company has a commitment for a bridge loan from these
same stockholders of up to $10 million bearing interest at 10% per annum to be
utilized prior to the closing of the sale of the preferred stock.
6. STOCK PLANS
As of December 31, 1996, the Company has five stock plans (the 1992,
1994, and 1995 Stock Option Plans, the 1995 Employee Stock Purchase Plan, and
the 1995 Non-Employee Directors' Restricted Stock Award Plan). In 1994, the
Board of Directors voted to discontinue the granting of any additional
options under the 1992 Stock Option Plan.
The Company has both incentive stock options and nonqualified stock
options outstanding, with varying vesting schedules. As of December 31,
1996, 2,513,405 shares of Common Stock were reserved for issuance under the
five plans, of which 1,360,041 were available for future option grants and
restricted stock awards. A total of 74,000 shares of restricted common stock
were issued in April 1997 under the Non-Employee Directors' Restricted Stock
Award Plan; restrictions on such shares lapse incrementally through 2001. A
summary of the Company's stock option activity and related information is as
follows:
<TABLE>
<CAPTION>
WEIGHTED-
RANGE OF AVERAGE
NUMBER OF SHARES EXERCISE PRICES EXERCISE PRICE
UNDERLYING OPTIONS PER SHARE PER SHARE
------------------ ---------- ---------
<S> <C> <C> <C>
Outstanding at December 31, 1993.................. 165,592 $ 0.97 $0.97
Granted...................................... 505,075 $ 1.50 $1.50
-------
Outstanding at December 31, 1994.................. 670,667 $0.97 - $ 1.50 $1.37
Granted...................................... 162,784 $1.50 - $10.61 $5.71
Forfeited.................................... (52,728) $0.97 - $ 1.50 $1.34
-------
Outstanding at December 31, 1995.................. 780,723 $0.97 - $10.61 $2.27
Granted...................................... 412,549 $5.75 - $ 8.62 $7.38
Exercised.................................... (14,589) $0.97 $0.97
Forfeited.................................... (26,930) $0.97 - $10.61 $5.56
-------
Outstanding at December 31, 1996.................. 1,151,753 $0.97 - $10.61 $3.99
=========
Exercisable at December 31, 1996.................. 152,896 $0.97 - $ 1.50 $1.05
=========
</TABLE>
As presented in the table above, the Company had a total of 1,151,753
options outstanding at December 31, 1996. A portion of these options (675,994)
have exercise prices ranging from $0.97 to $1.50, a weighted average exercise
price of $1.39 and an average remaining contractual life of 7.8 years. Of this
outstanding amount, 152,896 were exercisable at December 31, 1996. At December
31, 1996, the Company also had 475,759 options outstanding with exercise prices
ranging from $5.75 to $10.61, a weighted average exercise price of $7.81 and an
average remaining contractual life of 9.63 years. None of these options were
exercisable.
43
<PAGE> 44
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
6. STOCK PLANS - (CONTINUED)
PRO FORMA INFORMATION
Pro forma information regarding net income and earnings per share is
required by FAS 123, which also requires that the information be determined as
if the Company has accounted for its stock options granted subsequent to
December 31, 1994 under the fair value method of that Statement. The fair
value for these options and warrants was estimated at the date of grant using
a minimum value method for grants prior to the IPO and a Black-Scholes option
valuation model for grants after the IPO with the following weighted-average
assumptions for 1995 and 1996, respectively: a risk-free interest rate of
5.77% and 6.15%; a dividend yield of 0%; volatility factor of the expected
market price of the Company's common stock of 0 and 0.57; and a
weighted-average expected life of the option of 4 years.
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options and warrants which have no vesting
restrictions and are fully transferable. In addition, option valuation models
require the input of highly subjective assumptions including the expected stock
price volatility. Because the Company's stock options and warrants have
characteristics significantly different from those of traded securities, and
because changes in the subjective input assumptions can materially affect the
fair value estimate, in management's opinion, the existing models do not
necessarily provide a reliable single measure of the fair value of its stock
options and warrants.
The weighted average fair value of options granted in 1995 and 1996 is
$1.73 and $3.68 per share, respectively. The weighted average fair value of
warrants issued in 1995 is $0.
For purposes of pro forma disclosures, the estimated fair value of the
options and warrants is amortized to expense over the options' vesting
period. The Company's pro forma information follows:
<TABLE>
<CAPTION>
1995 1996
<S> <C> <C>
Pro forma net loss.......................... $(2,891,281) $(10,451,264)
Pro forma net loss per share of common stock $ (0.49) $ (0.81)
</TABLE>
Because FAS 123 is applicable only to options and warrants granted
subsequent to December 31, 1994, its pro forma effect will not be fully
reflected until 1997.
7. INCOME TAXES
The Company has incurred operating losses since inception; accordingly,
no provision for income taxes has been recorded. As of December 31, 1996,
the Company has net operating loss carryforwards of approximately $16,357,000
for income tax purposes. Such carryforwards, which expire at various dates
through 2010, are available to reduce future federal taxable income. If
certain substantial changes in ownership should occur, there would be annual
limitations on the amount of net operating loss carryforwards which could be
utilized. The 1995 issuance of Series B and the 1996 IPO resulted in such
limitations.
The significant components of the Company's deferred tax assets and
liabilities are:
44
<PAGE> 45
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
7. INCOME TAXES - (CONTINUED)
<TABLE>
<CAPTION>
DECEMBER 31,
-------------------------------
1995 1996
----------- ----------
<S> <C> <C>
Deferred tax assets
Net operating loss carryforwards... $ 2,415,000 $ 6,216,889
Accounts receivable allowance...... 34,706 96,794
Inventory reserves................. 49,145 307,046
Vacation accrual................... 89,920
Other.............................. 5,537 21,519
----------- ------------
2,504,388 6,732,168
Valuation allowance................. (2,027,792) (5,949,032)
Deferred tax liabilities
Accumulated depreciation........... (376,215) (783,136)
Market entry costs................. (100,381) -
----------- ------------
Net deferred assets............... $ - $ -
=========== ============
</TABLE>
The net change in the valuation allowance for deferred tax assets was an
increase of $413,834, $1,260,604 and $3,921,240 during 1994, 1995 and 1996,
respectively, due mostly to the increase in net operating loss carryforwards.
The reconciliation of income tax attributable to operations computed at
the U.S. Federal statutory rates to income tax expense is:
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
--------------------------------------
1994 1995 1996
---- ---- ----
<S> <C> <C> <C>
Tax at federal statutory rate............. (34.0)% (34.0)% (34.0)%
State taxes, net of federal tax benefit... - (4.0) (4.0)
Nondeductible expenses.................... 4.0 1.0 -
Effect of valuation allowance............. 30.0 37.0 38.0
----- ----- -----
- % - % - %
===== ===== =====
</TABLE>
8. COMMITMENTS
The Company leases sites and other facilities for its transmitters,
terminals and other equipment and also leases office space under
noncancelable operating leases which expire at various dates through 2003.
Approximate minimum annual rental payments required by these operating leases
are as follows:
<TABLE>
<CAPTION>
YEAR ENDING DECEMBER 31, TOTAL
- ------------------------ ----------
<S> <C>
1997................. $ 3,178,023
1998................. 2,868,114
1999................. 2,578,777
2000................. 1,992,746
2001................. 1,498,817
Thereafter........... 2,656,800
------------
$14,774,277
============
</TABLE>
Rental expense for the years ended December 31, 1994, 1995 and 1996, was
approximately $286,000, $674,000 and $2.0 million, respectively.
As of December 31, 1996, the Company had two letters of credit
outstanding for $188,000 in connection with certain lease agreements. The
letters of credit expire in 1998.
45
<PAGE> 46
PREFERRED NETWORKS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
9. RELATED PARTY TRANSACTIONS
During 1994, 1995 and 1996, the Company recognized revenues of
approximately $496,000, $484,000 and $560,000, respectively, from network
services and product sales, from entities owned by its stockholders. The
Company also leased its corporate headquarters from a stockholder during part
of 1994 and has other leasing arrangements with related parties. During
1994, 1995 and 1996, the Company expensed $372,000, $924,000 and $850,000,
respectively, for services purchased (including purchase, installation and
maintenance costs and site lease expense) from entities owned by related
parties.
10. FAIR VALUE OF FINANCIAL INSTRUMENTS
The carrying amounts reported in the accompanying consolidated balance
sheets for cash and cash equivalents, accounts receivable, receivables from
related parties, accounts payable, accrued expenses, payables to related
parties and notes payable and capital lease obligations approximate their
fair value. The fair values of the Company's notes payable and capital lease
obligations were estimated using discounted cash flow analyses, based on the
Company's current incremental borrowing rates for similar types of borrowing
arrangements.
11. EMPLOYEE BENEFIT PLANS
Effective in 1996, the Company and one of its subsidiaries adopted
401(k) plans that cover substantially all employees 21 years of age with at
least one year of continuous service. The Company may make contributions at
the discretion of the Board of Directors. The Company made contributions of
$0.10 per $1.00 of employee contributions up to 10% of the employee's
compensation during 1996. The expense was not material in 1996.
12. QUARTERLY FINANCIAL RESULTS (UNAUDITED)
Quarterly financial information for each of the two years ended December
31, 1996 and 1995 is summarized below.
<TABLE>
<CAPTION>
FIRST SECOND THIRD FOURTH
QUARTER QUARTER QUARTER QUARTER
----------------- ------------------ ----------------- ------------------
1996
- ----
<S> <C> <C> <C> <C>
Revenues
Network services. $1,299,196 $ 1,444,850 $1,553,602 $ 1,823,479
Product sales.... 1,036,380 1,049,797 1,239,083 2,492,814
Other services... 32,957 - 343,264 1,035,250
----------- ----------- ---------- -----------
Total revenues.... 2,368,533 2,494,647 3,135,949 5,351,543
Net loss.......... (1,500,760) (1,477,928) (2,507,798) (4,712,844)
Net loss per share (.19) (.10) (.17) (.32)
1995
- ----
Revenues
Network services. $ 648,232 $ 744,483 $ 983,773 $ 1,172,600
Product sales.... 661,246 861,189 1,005,461 1,123,122
Other services... 22,517 45,896 24,167 60,548
----------- ----------- ---------- -----------
Total revenues.... 1,331,995 1,651,568 2,013,401 2,356,270
Net loss.......... (506,790) (521,707) (676,365) (1,164,898)
Net loss per share (.06) (.06) (.13) (.23)
</TABLE>
46
<PAGE> 47
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
On October 26, 1995, the Company dismissed Price Waterhouse LLP as its
independent accountants. The reports of Price Waterhouse LLP on the
Company's financial statement for the three fiscal years ended December 31,
1992, 1993, and 1994 contained no adverse opinion or disclaimer of opinion,
and were not qualified or modified as to uncertainty, audit scope or
accounting principle. In connection with its audits for the fiscal years
ended December 31, 1993 and 1994 and through October 26, 1995, there were no
disagreements with Price Waterhouse LLP on any matter of accounting
principles or practices, financial statement disclosure, or auditing scope or
procedure, which disagreements if not resolved to the satisfaction of Price
Waterhouse LLP would have caused them to make reference thereto in their
report on the financial statements for such years. The decision to change
firms was approved by the Company's Audit Committee and Board of Directors.
The Company requested that Price Waterhouse LLP furnish it with a letter
addressed to the Securities and Exchange Commission stating whether or not it
agreed with the above statements. A copy of such letter, dated December 15,
1995, was filed as an exhibit to the Registration Statement for the IPO.
The Company engaged Ernst & Young LLP as its new independent accountants
as of October 26, 1995.
During the two fiscal years ended December 31, 1993 and 1994 and through
October 26, 1995, the Company had not consulted with Ernst & Young LLP on
items which (i) were or should have been subject to Statement on Auditing
Standards No. 50 or (ii) concerned the subject matter of a disagreement or
reportable event with Price Waterhouse LLP.
47
<PAGE> 48
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
Set forth below is certain information as of April 14, 1997 regarding each
of the three nominees and the directors of the Company who will continue to
serve after the Meeting:
NOMINEES FOR THREE-YEAR TERM:
<TABLE>
<CAPTION>
TERM
NAME TITLE ENDS AGE
---- -------- ---- ----
<S> <C> <C> <C>
William H. Bang............................................. Director 1997 67
John J. Hurley.............................................. Director 1997 61
Ronald W. White............................................. Director 1997 56
</TABLE>
WILLIAM H. BANG has been a director of the Company since August 1995. In
April 1994, Mr. Bang retired from the position of Corporate Vice President at
Motorola, Inc., a leading manufacturer of equipment for the wireless industry.
Mr. Bang was employed by Motorola from 1964 to 1994 and held a variety of
positions with respect to the marketing of Motorola's radio and paging products.
Mr. Bang is currently a consultant for Motorola and serves as a member of the
Board of Directors of the Personal Communications Industry Association ("PCIA")
Service and Education Foundation.
JOHN J. HURLEY has been a director of the Company since July 1996. Since
1994, Mr. Hurley has been Vice Chairman and a member of the Board of Directors
of Glenayre Technologies, Inc., a leading manufacturer of network equipment for
the wireless industry. From November 1992 to December 1994, he served as
President, Chief Operating Officer and Chief Executive Officer of Glenayre
Technologies, Inc. Mr. Hurley received the Management Award for Innovation and
Excellence from PCIA convention in 1995.
RONALD W. WHITE has been a director of the Company since October 1994.
Since 1983, Mr. White has been a General Partner of certain entities affiliated
with Advanced Technology Development Funds, a family of high technology
investment funds. Mr. White also serves as a director of Natural MicroSystems
Corporation and several privately-held companies.
CONTINUING DIRECTORS:
<TABLE>
<CAPTION>
TERM
NAME TITLE ENDS AGE
---- ----- ---- ---
<S> <C> <C> <C>
Mark H. Dunaway........................... Chairman of the Board of 1999 52
Directors, Chief Executive Officer
Michael J. Saner.......................... President and Director 1999 55
Jeffrey H. Schutz......................... Director 1998 45
Robert Van Degna.......................... Director 1998 52
</TABLE>
MARK H. DUNAWAY, a founder of the Company, has been Chairman of the Board
of Directors and Chief Executive Officer of the Company since 1991. From 1986 to
1994, he served as the Chairman and Chief Executive Officer of The Beeper
Company of America, Inc., a company he founded. The Beeper Company of America,
Inc. provided paging services to more than 60,000 subscribers before it was sold
in 1994 to Arch Communications Group, Inc. In 1987, Mr. Dunaway founded Dunaway
Enterprises, Inc., a consulting company which supplied management consulting
services to British Telecom's paging operations in the United Kingdom and other
companies, and served as its Chief Executive Officer and Chairman from 1987 to
1994. Mr. Dunaway has served on a number of committees for PCIA.
MICHAEL J. SANER, a founder of the Company, has been President and a
director of the Company since 1991. From 1991 to 1993, Mr. Saner served as
President of Paging Services, Inc., a paging-related repair, maintenance,
installation and sales company he founded and which the Company acquired in
1996. From 1984 to 1990, Mr. Saner served as President of Message World, Inc., a
voice mail and paging company he founded, with offices in Atlanta, Baltimore,
Houston, and Washington, D.C. In 1990, Mr. Saner acquired the operating assets
of Message World, Inc. and until 1997 served as President of this business,
which operated as Saner Communications Inc. From 1992 to 1993, Mr. Saner served
as a member of the Board of Directors of the Association of Telemessaging
Services International.
JEFFREY H. SCHUTZ has been a director of the Company since June 1995. Since
1987 Mr. Schutz has been a General Partner of various entities affiliated with
The Centennial Funds, a group of venture capital funds based in Denver,
Colorado. The Centennial Funds specialize in investments in telecommunications
networks and service businesses and other communications technology companies.
Mr. Schutz currently serves as a director of Castle Tower Holdings Corp., a
Centennial portfolio company, and several other privately-held companies.
48
<PAGE> 49
ROBERT VAN DEGNA has been a director of the Company since June 1995. Since
1982, Mr. Van Degna has been the Managing General Partner and an executive
officer with various partnerships affiliated with Fleet Equity Partners, an
investment firm affiliated with Fleet Financial Group, based in Providence,
Rhode Island. Mr. Van Degna currently serves on the Board of Directors of ACC
Corporation and Orion Network Systems, Inc., as well as several privately-held
companies.
All of the Company's directors other than Mr. Hurley were elected pursuant
to the terms of a Stockholders Agreement among the Company and its stockholders,
dated as of June 21, 1995, as amended (the "Stockholders Agreement"). The
Stockholders Agreement stipulated that the Board of Directors would consist of
six directors selected by certain significant shareholder groups and management.
The provisions of the Stockholders Agreement requiring a particular composition
of the Board of Directors terminated upon completion of the Company's initial
public offering in March 1996 (the "IPO").
SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the Exchange Act requires the Company's executive
officers and directors, and persons who own more than ten percent of a
registered class of the Company's equity securities, to file reports (Forms 3,
4 and 5) of stock ownership and changes in ownership with the SEC. Executive
officers, directors and beneficial owners of more than ten percent of the
Company's stock are required to furnish the Company with copies of all forms
that they file.
Based solely on the Company's review of copies of Forms 3, 4 and 5 and the
amendments thereto received by the Company, or written representations from
reporting persons that no Forms 5 were required to be filed by those persons,
the Company believes that during the year ended December 31, 1996, all filing
requirements were complied with by its executive officers, directors and
beneficial owners of more than ten percent of the Company's stock.
Information concerning the executive officers of the Company is
contained in a separate section captioned "Executive Officers of the
Registrant" in Part I of this Report and is incorporated herein by reference
in response to this Item 10.
ITEM 11. EXECUTIVE COMPENSATION.
COMPENSATION SUMMARY
The following table shows annual compensation paid by the Company in each
of the past three fiscal years to Mark H. Dunaway, the Chief Executive Officer,
and to the four other most highly compensated executive officers of the Company
(collectively, the "Named Executive Officers").
SUMMARY COMPENSATION TABLE
<TABLE>
<CAPTION>
LONG-TERM
ANNUAL COMPENSATION COMPENSATION
----------------------------------------- ------------
AWARDS
------------
SECURITIES
UNDERLYING ALL OTHER
NAME AND OTHER ANNUAL OPTIONS COMPENSATION
PRINCIPAL POSITION YEAR SALARY($) BONUS($) COMPENSATION($)(1) (#)(2) ($)
------------------ ---- --------- -------- ------------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Mark H. Dunaway....... 1996 225,000 -- 4,800 -- 950(3)
Chairman of the 1995 190,745 -- 4,800 7,350 --
Board 1994 251,357(4) -- 800 68,707 --
and Chief
Executive
Officer
Michael J. Saner...... 1996 180,000 -- 4,800 -- 950(3)
President and 1995 153,550 -- 4,800 7,350 --
Director 1994 20,000 -- 800 55,713 131,800(5)
Kim Smith Hughes...... 1996 103,125 20,000 4,800 -- 938(3)
Chief Financial 1995 81,908 -- 4,200 3,675 --
Officer 1994 7,875(6) -- 700 66,150 --
Eugene H. Kreeft...... 1996 150,000 20,000 -- -- --
Executive Vice 1995 135,000 -- -- 7,350 --
President of 1994 112,500 -- -- 55,713 --
Engineering
Patrick T. Markey..... 1996 125,000 36,500(7) 4,800 -- 9,177(8)
Vice President 1995 39,981(9) -- 1,600 40,425 --
of Marketing 1994 -- -- -- -- --
</TABLE>
- ---------------
(1) Reflects car allowances paid to these employees.
49
<PAGE> 50
(2) Includes options granted pursuant to the Company's 1992 Stock Option Plan,
1994 Stock Option Plan and 1995 Stock Option Plan.
(3) Reflects the Company's matching contributions to the 401(k) plan as follows:
Mr. Dunaway ($950) and Mr. Saner ($950) which are 100% vested; Ms. Hughes
($938) which is 66-2/3% vested.
(4) $99,440 of salary in 1994 was paid in 9,040 shares of Series A Redeemable
Convertible Preferred Stock valued at $11.00 per share which automatically
converted into Common Stock upon completion of the IPO.
(5) Reflects a consulting fee in the amount of $131,800 paid to Saner
Communications Inc., which is wholly-owned by Mr. Saner. Of this $131,800,
$67,604 was paid in cash and $64,196 was paid in 5,836 shares of Series A
Redeemable Convertible Preferred Stock valued at $11.00 per share which
automatically converted into Common Stock upon completion of the IPO.
(6) Ms. Hughes became an employee of the Company in November 1994.
(7) Includes $35,000 signing bonus and $1,500 annual performance bonus.
(8) Reflects moving expense of $8,385 paid to Mr. Markey, and $792 in 401(k)
plan matching contributions by the Company which are 33-1/3% vested.
(9) Mr. Markey became an employee of the Company in September 1995.
GRANTS OF STOCK OPTIONS
No grants of stock options were made to the Named Executive Officers during
1996.
EXERCISES OF OPTIONS IN 1996 AND AGGREGATE YEAR-END OPTION VALUES
The following table sets forth information with respect to the year-end
values of all options held by the Named Executive Officers. No Named Executive
Officer exercised any options in 1996.
<TABLE>
<CAPTION>
NUMBER OF
SECURITIES VALUE OF
UNDERLYING UNEXERCISED
UNEXERCISED IN-THE-MONEY
OPTIONS/SARS OPTIONS/SARS
AT FISCAL AT FISCAL
SHARES YEAR-END (#) YEAR-END ($) (1)
ACQUIRED VALUE EXERCISABLE/ EXERCISABLE/
NAME ON EXERCISE (#) REALIZED ($) UNEXERCISABLE UNEXERCISABLE
- ---- --------------- ------------ ------------- ---------------------
<S> <C> <C> <C> <C>
Mark H. Dunaway.................. N/A N/A 16,647/78,902 92,057.91/343,535.00
Michael J. Saner................. N/A N/A 32,487/63,036 179,653.11/278,565.00
Kim Smith Hughes................. N/A N/A 0/69,825 0.00/330,750.00
Eugene H. Kreeft................. N/A N/A 32,487/63,036 179,653.11/278,565.00
Patrick T. Markey................ N/A N/A 0/40,425 0.00/202,125.00
</TABLE>
- ---------------
(1) Assumes, for all unexercised in-the-money options, the difference between
fair market value and the exercise price.
EMPLOYMENT AGREEMENTS
The Company currently has an employment agreement with Mr. Dunaway, which
provides for his employment as Chief Executive Officer of the Company for a
period of three years, ending in June 1998, and on a month-to-month basis
thereafter. Mr. Dunaway's employment agreement provided initially for an annual
base salary of $18,750 per month but this was increased in 1996 to $20,168 per
month. The employment agreement prohibits Mr. Dunaway from competing against the
Company during its term and for a period of one year thereafter in certain
specified geographical areas. In addition, Mr. Dunaway is prohibited from
providing paging services to customers of the Company for a six-month period
after the termination of his employment. The employment agreement may be
terminated by mutual agreement, voluntarily by Mr. Dunaway upon 365 days' prior
written notice, for cause or upon the death or disability of Mr. Dunaway.
Depending upon the manner in which the employment agreement is terminated, Mr.
Dunaway or his heirs are entitled to different levels of compensation upon
termination, subject to a maximum amount equal to 18 months' compensation.
50
<PAGE> 51
The Company has an employment agreement with Mr. Saner which provides for
his employment as President of the Company for a period of three years, ending
in July 1998. Mr. Saner's employment agreement provided initially for an annual
base salary of $15,000 per month but this was increased to $16,125 per month in
1996. The other provisions of Mr. Saner's employment agreement are similar to
those of Mr. Dunaway's employment agreement.
The Company also has an employment agreement with Mr. Kreeft which provides
for his employment as Executive Vice President of Engineering of the Company for
a period of five years, ending in August 1997, and on a month-to-month basis
thereafter. Mr. Kreeft's employment agreement initially provided for an annual
base salary of $7,500 per month but this was increased to $12,500 per month in
1995. The employment agreement also prohibits Mr. Kreeft from competing with the
Company for a period of six months after termination of his employment. The
employment agreement may be terminated by mutual agreement, voluntarily by Mr.
Kreeft upon 90 days' prior written notice, for cause or upon death or disability
of Mr. Kreeft. Depending on the manner in which the employment agreement is
terminated, Mr. Kreeft or his heirs are entitled to different levels of
compensation upon termination, subject to a maximum amount equal to two years'
compensation.
DIRECTORS' COMPENSATION
The Company pays Mr. Bang and Mr. Hurley a director's fee of $500 for each
Board meeting and $250 for each committee meeting attended. Otherwise, the
Company pays no cash remuneration to its directors except reimbursement for
reasonable expenses.
In 1995 the Company implemented, effective March 1, 1996, the 1995
Non-Employee Directors Restricted Stock Award Plan (the "Restricted Stock
Plan"), pursuant to which non-employee directors are granted restricted stock
awards. Under the Restricted Stock Plan, every five years each non-employee
director will receive a restricted stock award covering 15,000 shares of Common
Stock, twenty percent of which vests each year the non-employee director serves
on the Board of Directors. Awards are pro-rated for non-employee directors
selected between annual meetings of the stockholders. A total of 240,000 shares
of Common Stock have been reserved for issuance under the Restricted Stock Plan
and 74,000 shares have been granted as of April 24, 1997.
COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION
Effective July 1995, the Board of Directors established the Compensation
Committee, now composed of Mr. Van Degna and Mr. Bang. Prior to that time, the
Board of Directors as a whole, including Mr. Dunaway, the Chief Executive
Officer, and Mr. Saner, the President, participated in determining executive
officer compensation.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The following table sets forth, as of March 31, 1997, certain information
with respect to the beneficial ownership of shares of Common Stock of (i) all
stockholders known by the Company to be the beneficial owners of more than 5% of
its outstanding Common Stock, as determined pursuant to Rule 13d-3 ("Rule
13d-3") promulgated by the Securities and Exchange Commission (the "SEC"), (ii)
each director of the Company and the Chief Executive Officer and each of the
four most highly compensated named executive officers of the Company, and (iii)
all directors and executive officers as a group. The following table is based
in part on information provided in Schedule 13Ds and Schedule 13Gs furnished to
the Company. Except as otherwise indicated, the holders listed below have sole
voting and investment power with respect to all shares beneficially owned by
them.
51
<PAGE> 52
<TABLE>
<CAPTION>
AMOUNT AND NATURE OF
BENEFICIAL OWNERSHIP
----------------------------------------
PERCENTAGE
ACQUIRABLE OF
NAME OF BENEFICIAL OWNER OR GROUP CURRENTLY WITHIN 60 OUTSTANDING
(AND ADDRESS OF 5% STOCKHOLDER) OWNED DAYS STOCK
--------------------------------- --------- ---------- -----------
<S> <C> <C> <C>
Mark H. Dunaway......................................... 2,307,825(1) 17,866(2) 14.4%
Chairman of the Board and Chief
Executive Officer
944 Gatewood Court, N.W.
Atlanta, GA 30327
Michael J. Saner........................................ 502,830(3) 32,487(2) 3.3
Director and President
Kim Smith Hughes........................................ 3,000 *
Chief Financial Officer
Eugene H. Kreeft........................................ 449,104 32,487(2) 3.0
Executive Vice President of Engineering
Patrick T. Markey....................................... 100 *
Vice President of Marketing
William H. Bang......................................... 15,500(4) *
Director
John J. Hurley.......................................... 14,000(4) *
Director
Robert Van Degna........................................ 1,057,500(4)(5) 6.6
Director
Jeffrey H. Schutz....................................... 1,057,502(4)(6) 6.6
Director
Ronald W. White......................................... 465,663(4)(7) 2.9
Director
Richard H. Stewart...................................... 1,005,964(8) 6.2
77 East Crossville Road, Suite 310
Roswell, Georgia 30075
Centennial Fund IV, L.P................................. 1,057,502(6) 6.6
1999 Broadway, Suite 2100
Denver, CO 80202
Saugatuck Capital Company, L.P. III..................... 1,042,502(9) 6.5
One Canterbury Green
Stamford, Connecticut 06901
Transit Communications U.S.A., L.P...................... 834,208(8) 5.2
470 Ebenezer Road
Roswell, Georgia 30075
Putnam Investments, Inc................................. 1,415,400 8.8
One Post Office Box Square
Boston, Massachusetts 02109
State of Wisconsin Investment Board..................... 900,000 5.6
121 East Wilson Street
Madison, Wisconsin 53707
All executive officers and directors as a group (17
persons).............................................. 5,879,635 115,327(2) 37.0%
</TABLE>
- ---------------
* Less than one percent
(1) All shares are jointly held with Marcia M. Dunaway, Mr. Dunaway's spouse.
(2) Consists of shares subject to stock options granted pursuant to the
Company's stock option plans.
(3) Includes 53,726 shares of Common Stock held in the name of Saner
Communications, Inc., a corporation wholly-owned by Mr. Saner.
(4) Includes shares awarded pursuant to the Company's 1995 Non-Employee
Restricted Stock Award Plan, which are subject to restrictions on transfer
that lapse over five years.
(5) Includes 271,049 shares of Common Stock held by Fleet Equity Partners VI,
L.P. ("FEP"), 632,450 shares of Common Stock held by Fleet Venture
Resources, Inc. ("FVR"), and 139,001 shares of Common Stock held by Chisholm
Partners II L.P. ("CPII"). Mr. Van Degna is Chairman and CEO of Fleet Growth
Resources II, Inc. and President of Silverado IV Corp., the general partners
of FEP and he is a limited partner of FEP. Mr. Van Degna is Chairman and CEO
of FVR, and he is President of Silverado II Corp., the general partner of
Silverado II, L.P. which is the general partner of CPII. Mr. Van Degna is
also a limited partner of Silverado II, L.P. As Chairman and CEO of Fleet
Growth Resources II, Inc. and President of Silverado II Corp., Mr. Van Degna
may be deemed to share voting and investment power with respect to such
shares. Mr. Van Degna disclaims beneficial ownership of all shares of Common
Stock which are directly owned by FVR, and those shares of Common Stock
which are directly held by FEP and CPII, except for his pecuniary interest
therein. Does not include shares and warrants to be issued pursuant to the
April 9, 1997 agreement between the Company and certain existing
shareholders concerning the issuance of preferred stock and warrants (the
"Preferred Stock Agreement").
52
<PAGE> 53
(6) 1,042,502 of the shares are owned by Centennial Fund IV, L.P. ("CIV").
15,000 shares (which were granted pursuant to the Company's 1995
Non-Employee Restricted Stock Award Plan) are held by Mr. Schutz on behalf
of CIV. Mr. Schutz is a General Partner of Centennial Holdings IV, L.P.
("Holdings"). Holdings is the sole General Partner of CIV and in such
capacity has authority to make decisions regarding the voting and
disposition of shares of Common Stock owned by CIV (such decisions are made
by a six person investment committee of Holdings, of which Mr. Schutz is a
member); Holdings may, therefore, be deemed to be the indirect beneficial
owner of the shares reported by CIV above, although it does not directly
own any shares of the Common Stock itself. Mr. Schutz (and each of the
other members of Holdings' Investment Committee) disclaims beneficial
ownership of all shares of Common Stock directly or indirectly owned by CIV.
Does not include shares and warrants to be issued pursuant to the Preferred
Stock Agreement.
(7) Includes 465,663 shares held by Advanced Technology Development Fund II,
L.P. ("ATDF"), an entity for which Mr. White serves as general partner. Does
not include 834,208 shares held by Transit Communications U.S.A., L.P., a
limited partnership in which ATDF owns an approximate 70% limited
partnership interest.
(8) Includes 834,208 shares of Common Stock held by Transit Communications
U.S.A., L.P., a limited partnership. Mr. Stewart controls the voting stock
of the general partner of Transit Communications U.S.A., L.P.
(9) Does not include shares and warrants to be issued pursuant to the Preferred
Stock Agreement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
On July 3, 1996, the Company acquired Paging Services, Inc. ("PSI")
pursuant to an Agreement and Plan of Merger of the same date. The acquisition
was accomplished through the merger of PSI with and into Preferred Technical
Services, Inc., a wholly-owned subsidiary of the Company. In the merger, PSI
shareholders received an aggregate of $500,000 of Common Stock (58,823 shares)
and $250,000 in cash. The purchase price was determined based upon arms-length
negotiations between the Company and PSI and a valuation of PSI obtained by the
Company from a third party.
Michael J. Saner, President and a director of the Company, and Eugene H.
Kreeft, Executive Vice President of Engineering of the Company, each owned
approximately 45% of the capital stock of PSI prior to the merger. The Company's
purpose for the acquisition was to increase the services provided to its
customers and to reduce the cost of services and assets provided by PSI to the
Company. Pursuant to the merger, Messrs. Saner and Kreeft each received
$112,500 in cash and 26,470 shares of Common Stock.
On December 3, 1996, the Company acquired by merger all of the outstanding
common stock of EPS Wireless, Inc., a Texas corporation ("EPS") by merger of EPS
with and into a wholly-owned subsidiary of the Company ("Sub Corp"). Mark H.
Dunaway, Chairman of the Board and Chief Executive Officer of the Company,
controlled approximately 11.4% of the outstanding shares of EPS common stock
prior to the merger, and served as a director of EPS prior to the merger.
Pursuant to the merger, Mr. Dunaway received $9,427.81 in cash and 76,658
shares of Common Stock. Immediately following the merger, Sub Corp changed its
name to "EPS Wireless, Inc."
To acquire EPS, the Company paid $300,000 in cash and 673,524 shares of
Common Stock, and agreed to pay possible additional consideration in early 1999
of up to $5,000,000 in cash based on the financial performance of EPS during
calendar years 1997 and 1998, or earlier if certain events occur prior to 1999.
The total consideration to be paid for EPS was determined based on arms-length
negotiations between representatives of the Company and representatives of EPS
and a valuation of EPS obtained by the Company from a third party.
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K.
(a) Documents:
1. Financial Statements.
The following financial statements of the Company and Reports of
Independent Auditors are filed as part of this Report pursuant to
Item 8:
Consolidated Balance Sheets as of December 31, 1995 and 1996
Consolidated Statements of Operations for the years ended December 31,
1994, 1995 and 1996
Consolidated Statements of Changes in Stockholders' Equity (Deficit)
for the years ended December 31, 1994, 1995 and 1996
Consolidated Statements of Cash Flows for the years ended December 31,
1994, 1995 and 1996
Notes to Consolidated Financial Statements
Report of Price Waterhouse LLP, Independent Accountants
Report of Ernst & Young LLP, Independent Auditors
53
<PAGE> 54
2. Financial Statement Schedules.
The following financial statement schedule of the Company and Reports
of Independent Auditors is filed as a part of this Report pursuant to
Item 8:
Schedule II - Valuation and Qualifying Accounts
Report of Price Waterhouse LLP, Independent Accountants
Report of Ernst & Young LLP, Independent Auditors
All other schedules have been omitted since the required information is
not present or is not present in amounts sufficient to require
submission of the schedules, or because the information required is
included in the consolidated financial statements, including the notes
thereto.
3. Exhibits.
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- -----------
<S> <C>
3.1 Amended and Restated Certificate of Incorporation of the Company, as amended (incorporated by
reference to Exhibit 3.3 to the Registration Statement filed on Form S-1, No. 33-80507)
3.2 Bylaws of the Company, as amended (incorporated by reference to Exhibit 3.4 to the Quarterly
Report filed on Form 10-Q, No. 0-27658, for the quarter ended March 31, 1996)
4.1 Reference is hereby made to Exhibits 3.1 and 3.2
10.1* Preferred Networks, Inc. 1994 Stock Option Plan (incorporated by reference to Exhibit 10.1 to the
Registration Statement filed on Form S-1, No. 33-80507)
10.2* Preferred Networks, Inc. 1992 Stock Option Plan (incorporated by reference to Exhibit 10.2 to the
Registration Statement filed on Form S-1, No. 33-80507)
10.3* Preferred Networks, Inc. 1995 Stock Option Plan, as amended (incorporated by reference to
Exhibit 10.3 to the Registration Statement filed on Form S-1, No. 33-80507)
10.4* Preferred Networks, Inc. 1995 Employee Stock Purchase Plan (incorporated by reference to
Exhibit 10.4 to the Registration Statement filed on Form S-1, No. 33-80507)
10.5* Preferred Networks, Inc. 1995 Non-Employee Directors' Restricted Stock Award Plan (incorporated
by reference to Exhibit 10.5 to the Registration Statement filed on Form S-1, No. 33-80507)
10.6 Purchase Agreement dated June 21, 1995, among the Company, Fleet Equity Partners VI, L.P.,
Fleet Venture Resources, Inc., Chisholm Partners II, L.P., Centennial Fund IV, L.P., Saugatuck
Capital Company Limited Partnership III, Primus Capital Fund III Limited Partnership, PNC
Capital Corp. and certain of the Company's stockholders (incorporated by reference to Exhibit
10.6 to the Registration Statement filed on Form S-1, No. 33-80507)
10.7 Stockholders Agreement dated June 21, 1995 among the Company, Fleet Equity Partners VI, L.P.,
Fleet Venture Resources, Inc., Chisholm Partners II, L.P., Centennial Fund IV, L.P., Saugatuck
Capital Company Limited Partnership III, Primus Capital Fund III Limited Partnership, PNC
Capital Corp. and certain of the Company's stockholders (incorporated by reference to
Exhibit 10.7 to the Registration Statement filed on Form S-1, No. 33-80507)
10.8 Registration Rights Agreement dated June 21, 1995 among the Company, Fleet Equity Partners VI,
L.P., Fleet Venture Resources, Inc., Chisholm Partners II, L.P., Centennial Fund IV, L.P.,
Saugatuck Capital Company Limited Partnership III, Primus Capital Fund III Limited
Partnership, PNC Capital Corp. and certain of the Company's stockholders (incorporated by
reference to Exhibit 10.8 to the Registration Statement filed on Form S-1, No. 33-80507)
10.9 Warrant to Purchase Common Stock dated June 22, 1995 issued to Legg Mason Wood Walker,
Incorporated (incorporated by reference to Exhibit 10.9 to the Registration Statement filed on
Form S-1, No. 33-80507)
10.10 Promissory Note and Credit Agreement dated as of April 1, 1995, between the Company and
Glenayre Electronics, Inc. as amended (incorporated by reference to Exhibit 10.10 to the
Registration Statement filed on Form S-1, No. 33-80507)
10.11 Credit Agreement and Promissory Note, each dated June 16, 1995, between the Company and
Motorola, Inc. (incorporated by reference to Exhibit 10.11 to the Registration Statement filed on
Form S-1, No. 33-80507)
</TABLE>
54
<PAGE> 55
<TABLE>
<CAPTION>
<S> <C>
10.12 Sublease Agreement, dated May 8, 1995, between the Company and The Carter Group for office
space in Oakbrook Research Center, Norcross, Georgia (incorporated by reference to
Exhibit 10.12 to the Registration Statement filed on Form S-1, No. 33-80507)
10.13 Lease Agreement and Addendum, dated October 14, 1992, between the Company and Connecticut
Mutual Life Insurance Company for office space at Goshen Springs Road, Norcross, Georgia, as
amended (incorporated by reference to Exhibit 10.13 to the Registration Statement filed on Form
S-1, No. 33-80507)
10.14* Management Employment Agreement, dated July 8, 1995, between the Company and Mark H. Dunaway
(incorporated by reference to Exhibit 10.14 to the Registration Statement filed on Form S-1, No.
33-80507)
10.15* Management Employment Agreement, dated July 7, 1995, between the Company and Michael J. Saner
(incorporated by reference to Exhibit 10.15 to the Registration Statement filed on Form S-1, No.
33-80507)
10.16* Management Employment Agreement, dated August 16, 1992, between the Company and Eugene H.
Kreeft (incorporated by reference to Exhibit 10.16 to the Registration Statement filed on Form S-1,
No. 33-80507)
10.17 Amendment No. 1, dated as of December 12, 1995, to Purchase Agreement dated June 21, 1995 among
the Company, Fleet Equity Partners VI, L.P., Fleet Venture Resources, Inc., Chisholm Partners II,
L.P., Centennial Fund IV, L.P., Saugatuck Capital Company Limited Partnership III, Primus Capital
Fund III Limited Partnership, PNC Capital Corp. and certain of the Company's stockholders
(incorporated by reference to Exhibit 10.17 to the Registration Statement filed on Form S-1, No.
33-80507)
10.18 Amendment No. 1, dated as of December 12, 1995, to Stockholders Agreement dated June 21, 1995
among the Company, Fleet Equity Partners VI, L.P., Fleet Venture Resources, Inc., Chisholm
Partners II, L.P., Centennial Fund IV, L.P., Saugatuck Capital Company Limited Partnership III,
Primus Capital Fund III Limited Partnership, PNC Capital Corp. and certain of the Company's
stockholders (incorporated by reference to Exhibit 10.18 to the Registration Statement filed on
Form S-1, No. 33-80507)
10.19 Lease Agreement, dated August 4, 1993, between Alamac Limited Partnership and the Company, as
amended (incorporated by reference to Exhibit 10.19 to the Registration Statement filed on Form
S-1, No. 33-80507)
10.20 Sub-Lease Agreement, dated as of December 18, 1995 between PSB Building Corp. and the Company
(incorporated by reference to Exhibit 10.20 to the Registration Statement filed on Form S-1, No.
33-80507)
10.21 Commercial Lease Contract, dated December 6, 1995, between Lantrac Investments, LLC and the
Company (incorporated by reference to Exhibit 10.21 to the Registration Statement filed on Form S-1
No. 33-80507)
10.22 Promissory Note and Credit Agreement, dated January 26, 1996, between the Company and Glenayre
Electronics, Inc. (incorporated by reference to Exhibit 10.22 to the Registration Statement filed on
Form S-1, No. 33-80507)
10.23 Letter Confirming Line of Credit with Associates Capital Services Corporation (incorporated by
reference to Exhibit 10 to the Quarterly Report filed on Form 10-Q, No. 0-27658, for the quarter
ended March 31, 1996)
10.24 Agreement and Plan of Merger, dated July 3, 1996, by and among Paging Services, Inc., Preferred
Networks, Inc., and the shareholders of Paging Services, Inc. (incorporated by reference to Exhibit
10.1 to the Quarterly Report filed on Form 10-Q, No. 0-27658, for the quarter ended June 30, 1996)
10.25 Credit Agreement dated August 8, 1996, by and among Preferred Networks, Inc., PNI Systems, LLC, and
NationsBank, N. A. (South) (incorporated by reference to Exhibit 10.2 to the Quarterly Report filed
on Form 10-Q, No. 0-27658, for the quarter ended June 30, 1996)
10.26 Asset Purchase Agreement, dated as of June 19, 1996 and amended as of September 5, 1996 and as of
September 13, 1996, by and among Big Apple Paging Corporation, Preferred Networks, Inc. and
Gary Hencken (incorporated by reference to Exhibit 2.1 to the Current Report filed on Form 8-K,
No. 0-27658, filed September 27, 1996)
10.27 Stock Purchase Agreement by and among Preferred Networks, Inc., Mercury Paging & Communications,
Inc., HTB Communications Inc., Custom Page, Inc., and M.P.C. Distributors Inc. (collectively,
"Sellers") and the Shareholders of Sellers dated as of September 30, 1996 (incorporated by reference
to Exhibit 10.3 to the Quarterly Report filed on Form 10-Q, No. 0-27658, for the quarter ended
September 30, 1996)
</TABLE>
55
<PAGE> 56
<TABLE>
<CAPTION>
<S> <C>
10.28 Agreement and Plan of Merger by and among Preferred Networks, Inc., EPS Acquisition Corp., EPS
Wireless, Inc. and the Shareholders of EPS Wireless, Inc. (incorporated by reference to Exhibit 2.1 to
the Current Report filed on Form 8-K, No. 0-27658, filed December 17, 1996)
10.29 First Amendment to Credit Agreement dated as of December 20, 1996, by and among Preferred Networks,
Inc., PNI Systems, LLC, and NationsBank, N.A. (South)
10.30 Second Amendment to Credit Agreement dated as of March 12, 1997, by and among Preferred Networks,
Inc., PNI Systems, LLC, and NationsBank, N.A. (South)
10.31 Commitment Letter dated April 9, 1997 between the Company, Centennial Fund IV, L.P., Saugatuck Capital III,
PNC Capital Corp., Fleet Equity Partners, and Primus Venture Fund III
10.32 Third Amendment to Credit Agreement dated as of April 11, 1997, by and among Preferred Networks, Inc., PNI
Systems, LLC and NationsBank, N.A. (South)
11.1 Computation of Net Loss Per Share
11.2 Computation of Supplemental Net Loss Per Share
21 Subsidiaries of the Company
23.1 Consent of Price Waterhouse LLP
23.2 Consent of Ernst & Young LLP
27 Financial Data Schedule (for SEC use only)
</TABLE>
* Indicates management contract or compensation plan or arrangement
(b) Reports on Form 8-K.
On November 27, 1996, the Company filed a Current Report on Form 8-K/A
that included the following audited financial statements and unaudited pro
forma financial information relating to Big Apple: audited financial
statements of Big Apple as of and for the year ended December 31, 1995 and
unaudited financial statements as of June 30, 1996 and for the six months
ended June 30, 1996 and 1995, and unaudited pro forma condensed consolidated
balance sheet of the Company as of June 30, 1996 and unaudited pro forma
condensed consolidated statements of operations of the Company for the year
ended December 31, 1995 and for the six months ended June 30, 1996.
On December 17, 1996, the Company filed a Current Report on Form 8-K
relating to the Company's acquisition by merger on December 3, 1996 of EPS.
56
<PAGE> 57
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed
on its behalf by the undersigned, thereunto duly authorized.
<TABLE>
<S> <C>
PREFERRED NETWORKS, INC.
Date: April 14, 1997 /s/ Mark H. Dunaway
-------------------
Mark H. Dunaway
Chief Executive Officer (Principal
Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by
the following per persons on behalf of the registrant and in the capacities and on the dates indicated.
Date: April 14, 1997 /s/ Mark H. Dunaway
-------------------
Mark H. Dunaway
Chairman of the Board of Directors,
Chief Executive Officer and Director
Date: April 14, 1997 /s/ Michael J. Saner
--------------------
Michael J. Saner
President and Director
Date: April 14, 1997 /s/ Kim Smith Hughes
--------------------
Kim Smith Hughes
Chief Financial Officer (Principal Financial
and Principal Accounting Officer)
Date: April 14, 1997 /s/ William H. Bang
-------------------
William H. Bang
Director
Date: April 14, 1997 /s/ John J. Hurley
------------------
John J. Hurley
Director
Date: April 14, 1997 /s/ Jeffrey H. Schutz
---------------------
Jeffrey H. Schutz
Director
Date: April 14, 1997 /s/ Robert Van Degna
--------------------
Robert Van Degna
Director
Date: April 14, 1997 /s/ Ronald. W. White
--------------------
Ronald W. White
Director
</TABLE>
57
<PAGE> 58
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
YEARS ENDED DECEMBER 1994, 1995 AND 1996
<TABLE>
<CAPTION>
ADDITIONS
BALANCE AT CHARGED TO
BEGINNING COSTS AND BALANCE AT
DESCRIPTION OF PERIOD EXPENSES DEDUCTIONS (1) END OF PERIOD
------------- ----------- -------------- -------------
<S> <C> <C> <C> <C>
YEAR ENDED DECEMBER 31, 1996:
Reserve and allowance deducted from
asset accounts
Allowance for doubtful accounts $ 86,426 $ 393,063 $(224,499) $ 254,990
Valuation allowance for deferred taxes 2,027,792 3,921,240 ---- 5,949,032
YEAR ENDED DECEMBER 31, 1995:
Reserve and allowance deducted from
asset accounts
Allowance for doubtful accounts 35,000 193,664 (142,238) 86,426
Valuation allowance for deferred taxes 767,188 1,260,604 ---- 2,027,792
YEAR ENDED DECEMBER 31, 1994:
Reserve and allowance deducted from
asset accounts
Allowance for doubtful accounts 20,611 96,745 (82,356) 35,000
Valuation allowance for deferred taxes 353,354 413,834 ---- 767,188
</TABLE>
(1) Uncollectible accounts written off, net of recoveries
58
<PAGE> 59
REPORT OF INDEPENDENT ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULES
To the Board of Directors and Stockholders
of Preferred Networks, Inc.
Our audit of the consolidated statements of operations, of changes in
stockholders' equity (deficit) and of cash flows for the year ended December 31,
1994 referred to in our report dated February 10, 1995 except as to the first
paragraph of Note 5 which is as of January 24, 1996 appearing on page 29 of
this Form 10-K also included an audit of the Financial Statement Schedules
listed in Item 14(a) of this Form 10-K. In our opinion, these Financial
Statement Schedules present fairly, in all material respects, the information
set forth therein when read in conjunction with the related consolidated
financial statements.
Price Waterhouse LLP
Atlanta, Georgia
February 10, 1995 except as to the first paragraph
of Note 5 which is as of January 24, 1996
59
<PAGE> 60
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Stockholders
Preferred Networks, Inc.
We have audited the consolidated financial statements of Preferred Networks,
Inc. as of December 31, 1995 and 1996, and for the years then ended, and have
issued our report thereon dated April 14, 1997. Our audits also included the
financial statement schedule for the years ended December 31, 1995 and 1996
listed in Item 14 (a)(2) of this Annual Report on Form 10-K. This schedule is
the responsibility of the Company's management. Our responsibility is to
express an opinion based on our audits.
In our opinion, the financial statement schedule for the year ended December
31, 1995 and 1996 referred to above, when considered in relation to the basic
financial statements taken as a whole, presents fairly in all material respects
the information set forth therein.
ERNST & YOUNG LLP
Atlanta, Georgia
April 14, 1997
60
<PAGE> 61
INDEX TO EXHIBITS
<TABLE>
<CAPTION>
EXHIBIT NO. DESCRIPTION
- ----------- -----------
<S> <C>
3.1 Amended and Restated Certificate of Incorporation of the Company, as amended (incorporated by
reference to Exhibit 3.3 to the Registration Statement filed on Form S-1, No. 33-80507)
3.2 Bylaws of the Company, as amended (incorporated by reference to Exhibit 3.4 to the Quarterly
Report filed on Form 10-Q, No. 0-27658, for the quarter ended March 31, 1996)
4.1 Reference is hereby made to Exhibits 3.1 and 3.2
10.1* Preferred Networks, Inc. 1994 Stock Option Plan (incorporated by reference to Exhibit 10.1 to the
Registration Statement filed on Form S-1, No. 33-80507)
10.2* Preferred Networks, Inc. 1992 Stock Option Plan (incorporated by reference to Exhibit 10.2 to the
Registration Statement filed on Form S-1, No. 33-80507)
10.3* Preferred Networks, Inc. 1995 Stock Option Plan, as amended (incorporated by reference to
Exhibit 10.3 to the Registration Statement filed on Form S-1, No. 33-80507)
10.4* Preferred Networks, Inc. 1995 Employee Stock Purchase Plan (incorporated by reference to
Exhibit 10.4 to the Registration Statement filed on Form S-1, No. 33-80507)
10.5* Preferred Networks, Inc. 1995 Non-Employee Directors' Restricted Stock Award Plan (incorporated
by reference to Exhibit 10.5 to the Registration Statement filed on Form S-1, No. 33-80507)
10.6 Purchase Agreement dated June 21, 1995, among the Company, Fleet Equity Partners VI, L.P.,
Fleet Venture Resources, Inc., Chisholm Partners II, L.P., Centennial Fund IV, L.P., Saugatuck
Capital Company Limited Partnership III, Primus Capital Fund III Limited Partnership, PNC
Capital Corp. and certain of the Company's stockholders (incorporated by reference to Exhibit
10.6 to the Registration Statement filed on Form S-1, No. 33-80507)
10.7 Stockholders Agreement dated June 21, 1995 among the Company, Fleet Equity Partners VI, L.P.,
Fleet Venture Resources, Inc., Chisholm Partners II, L.P., Centennial Fund IV, L.P., Saugatuck
Capital Company Limited Partnership III, Primus Capital Fund III Limited Partnership, PNC
Capital Corp. and certain of the Company's stockholders (incorporated by reference to
Exhibit 10.7 to the Registration Statement filed on Form S-1, No. 33-80507)
10.8 Registration Rights Agreement dated June 21, 1995 among the Company, Fleet Equity Partners VI,
L.P., Fleet Venture Resources, Inc., Chisholm Partners II, L.P., Centennial Fund IV, L.P.,
Saugatuck Capital Company Limited Partnership III, Primus Capital Fund III Limited
Partnership, PNC Capital Corp. and certain of the Company's stockholders (incorporated by
reference to Exhibit 10.8 to the Registration Statement filed on Form S-1, No. 33-80507)
10.9 Warrant to Purchase Common Stock dated June 22, 1995 issued to Legg Mason Wood Walker,
Incorporated (incorporated by reference to Exhibit 10.9 to the Registration Statement filed on
Form S-1, No. 33-80507)
10.10 Promissory Note and Credit Agreement dated as of April 1, 1995, between the Company and
Glenayre Electronics, Inc. as amended (incorporated by reference to Exhibit 10.10 to the
Registration Statement filed on Form S-1, No. 33-80507)
10.11 Credit Agreement and Promissory Note, each dated June 16, 1995, between the Company and
Motorola, Inc. (incorporated by reference to Exhibit 10.11 to the Registration Statement filed on
Form S-1, No. 33-80507)
10.12 Sublease Agreement, dated May 8, 1995, between the Company and The Carter Group for office
space in Oakbrook Research Center, Norcross, Georgia (incorporated by reference to
Exhibit 10.12 to the Registration Statement filed on Form S-1, No. 33-80507)
10.13 Lease Agreement and Addendum, dated October 14, 1992, between the Company and Connecticut
Mutual Life Insurance Company for office space at Goshen Springs Road, Norcross, Georgia, as
amended (incorporated by reference to Exhibit 10.13 to the Registration Statement filed on Form
S-1, No. 33-80507)
10.14* Management Employment Agreement, dated July 8, 1995, between the Company and Mark H. Dunaway
(incorporated by reference to Exhibit 10.14 to the Registration Statement filed on Form S-1, No.
33-80507)
10.15* Management Employment Agreement, dated July 7, 1995, between the Company and Michael J. Saner
(incorporated by reference to Exhibit 10.15 to the Registration Statement filed on Form S-1, No.
33-80507)
</TABLE>
61
<PAGE> 62
<TABLE>
<CAPTION>
<S> <C>
10.17 Amendment No. 1, dated as of December 12, 1995, to Purchase Agreement dated June 21, 1995 among
the Company, Fleet Equity Partners VI, L.P., Fleet Venture Resources, Inc., Chisholm Partners II,
L.P., Centennial Fund IV, L.P., Saugatuck Capital Company Limited Partnership III, Primus Capital
Fund III Limited Partnership, PNC Capital Corp. and certain of the Company's stockholders
(incorporated by reference to Exhibit 10.17 to the Registration Statement filed on Form S-1, No.
33-80507)
10.18 Amendment No. 1, dated as of December 12, 1995, to Stockholders Agreement dated June 21, 1995
among the Company, Fleet Equity Partners VI, L.P., Fleet Venture Resources, Inc., Chisholm
Partners II, L.P., Centennial Fund IV, L.P., Saugatuck Capital Company Limited Partnership III,
Primus Capital Fund III Limited Partnership, PNC Capital Corp. and certain of the Company's
stockholders (incorporated by reference to Exhibit 10.18 to the Registration Statement filed on
Form S-1, No. 33-80507)
10.19 Lease Agreement, dated August 4, 1993, between Alamac Limited Partnership and the Company, as
amended (incorporated by reference to Exhibit 10.19 to the Registration Statement filed on Form
S-1, No. 33-80507)
10.20 Sub-Lease Agreement, dated as of December 18, 1995 between PSB Building Corp. and the Company
(incorporated by reference to Exhibit 10.20 to the Registration Statement filed on Form S-1, No.
33-80507)
10.21 Commercial Lease Contract, dated December 6, 1995, between Lantrac Investments, LLC and the
Company (incorporated by reference to Exhibit 10.21 to the Registration Statement filed on Form S-1
No. 33-80507)
10.22 Promissory Note and Credit Agreement, dated January 26, 1996, between the Company and Glenayre
Electronics, Inc. (incorporated by reference to Exhibit 10.22 to the Registration Statement filed on
Form S-1, No. 33-80507)
10.23 Letter Confirming Line of Credit with Associates Capital Services Corporation (incorporated by
reference to Exhibit 10 to the Quarterly Report filed on Form 10-Q, No. 0-27658, for the quarter
ended March 31, 1996)
10.24 Agreement and Plan of Merger, dated July 3, 1996, by and among Paging Services, Inc., Preferred
Networks, Inc., and the shareholders of Paging Services, Inc. (incorporated by reference to Exhibit
10.1 to the Quarterly Report filed on Form 10-Q, No. 0-27658, for the quarter ended June 30, 1996)
10.25 Credit Agreement dated August 8, 1996, by and among Preferred Networks, Inc., PNI Systems, LLC, and
NationsBank, N. A. (South) (incorporated by reference to Exhibit 10.2 to the Quarterly Report filed
on Form 10-Q, No. 0-27658, for the quarter ended June 30, 1996)
10.26 Asset Purchase Agreement, dated as of June 19, 1996 and amended as of September 5, 1996 and as of
September 13, 1996, by and among Big Apple Paging Corporation, Preferred Networks, Inc. and
Gary Hencken (incorporated by reference to Exhibit 2.1 to the Current Report filed on Form 8-K,
No. 0-27658, filed September 27, 1996)
10.27 Stock Purchase Agreement by and among Preferred Networks, Inc., Mercury Paging & Communications,
Inc., HTB Communications Inc., Custom Page, Inc., and M.P.C. Distributors Inc. (collectively,
"Sellers") and the Shareholders of Sellers dated as of September 30, 1996 (incorporated by reference
to Exhibit 10.3 to the Quarterly Report filed on Form 10-Q, No. 0-27658, for the quarter ended
September 30, 1996)
10.28 Agreement and Plan of Merger by and among Preferred Networks, Inc., EPS Acquisition Corp., EPS
Wireless, Inc. and the Shareholders of EPS Wireless, Inc. (incorporated by reference to Exhibit 2.1 to
the Current Report filed on Form 8-K, No. 0-27658, filed December 17, 1996)
10.29 First Amendment to Credit Agreement dated as of December 20, 1996, by and among Preferred Networks,
Inc., PNI Systems, LLC, and NationsBank N.A. (South)
10.30 Second Amendment to Credit Agreement dated as of March 12, 1997, by and among Preferred Networks,
Inc., PNI Systems, LLC, and NationsBank, N.A. (South)
10.31 Commitment Letter dated April 9, 1997 between the Company, Centennial Fund IV, L.P., Saugatuck Capital III,
PNC Capital Corp., Fleet Equity Partners, and Primus Venture Fund III
10.32 Third Amendment to Credit Agreement dated as of April 11, 1997, by and among Preferred Networks, Inc., PNI
Systems, LLC and NationsBank, N.A. (South)
11.1 Computation of Net Loss Per Share
11.2 Computation of Supplemental Net Loss Per Share
21 Subsidiaries of the Company
23.1 Consent of Price Waterhouse LLP
23.2 Consent of Ernst & Young LLP
27 Financial Data Schedule (for SEC use only)
- --------
* Indicates management contract or compensation plan or arrangement
</TABLE>
62
<PAGE> 1
EXHIBIT 10.29
Execution Copy
FIRST AMENDMENT TO CREDIT AGREEMENT
THIS FIRST AMENDMENT TO CREDIT AGREEMENT (this "Amendment") dated as
of December 20, 1996 by and among PNI SYSTEMS, LLC, a Georgia limited liability
company (the "Company"), PREFERRED NETWORKS, INC., a Delaware corporation (the
"Parent", the Parent, together with the Company, the "Borrowers"), and
NATIONSBANK, N.A. (SOUTH) (the "Lender").
WHEREAS, the Borrowers and the Lender have entered into that certain
Credit Agreement dated as of August 8, 1996 (the "Credit Agreement); and
WHEREAS, the Borrowers and the Lender desire to amend certain
provisions of the Credit Agreement on the terms and conditions contained
herein.
NOW, THEREFORE, for good and valuable consideration, the receipt and
sufficiency of which are hereby acknowledged by the parties hereto, the parties
hereto hereby agree as follows:
Section 1. Specific Amendments to Credit Agreement. The parties hereto
agree that the Credit Agreement is amended as follows:
(a) The Credit Agreement is amended by deleting Schedules 5.1, 5.4,
5.9, 5.10, 5.11, 5.13, 5.14, 5.16, 5.17, and 5.18 in their entirety and
substituting in their place the Schedules with identical designations attached
hereto.
(b) The Credit Agreement is amended by deleting Section 2.12(a) in its
entirety and substituting in its place the following:
(a) The Company may only use the proceeds of Company Loans to
finance (i) the cash portion of the consideration paid by the Company
to finance paging or other communications related Acquisitions,
including without limitation, paging network Acquisitions, tower and
site Acquisitions and page repair Acquisitions; (ii) capital
expenditures of the Company and (iii) intercompany loans to the Parent
and any other Guarantor which (x) the Parent will use to finance the
cash portion of the consideration paid by the Parent to finance paging
network Acquisitions or (y) such other Guarantor will use for working
capital purposes (the "Intercompany Loans"). All Intercompany Loans
must be evidenced by a promissory note executed by the Parent or any
Guarantor receiving the proceeds of each Intercompany Loan in favor of
the Company and substantially in the form of Exhibit J hereto (each an
"Intercompany Note" and collectively the "Intercompany Notes"). All
Intercompany Notes shall be pledged by the Company to the Lender as
further security for the Obligations of the Company.
(c) The Credit Agreement is amended by deleting Section 4.1(h)
in its entirety and substituting in its place the following:
<PAGE> 2
(h) Pledge Agreements. The Lender shall have received each of
the Pledge Agreements duly executed by the Parent, PNI Georgia, Inc.
and the Company. In addition, the Lender shall have received each of
the following: (i) all certificates, if any, representing all of the
issued and outstanding capital stock, membership interest and other
equity interest of each of the Company, the License Subsidiary and any
other Subsidiary of the Parent, (ii) stock powers duly endorsed in
blank relating to all such certificates, (iii) if such Pledge
Agreement covers membership interest in a limited liability company,
the consent of such Person and each of its members substantially in
the form attached to the Pledge Agreement and (iv) all the
Intercompany Notes pledged pursuant to the Company's Pledge Agreement
and duly endorsed by the Company to the Lender.
(d) The Credit Agreement is amended by deleting the last paragraph of
Section 6.12 in its entirety and substituting in its place the following:
With respect to a Significant Acquisition, the items referred to in
the preceding subsections (a) through (d) and subsections (f) and (h)
must be delivered to the Lender at least 20 days prior to the
execution and delivery of the definitive Acquisition Documents for
such Acquisition while the balance of the items referred to in all of
the other subsections must be delivered to the Lender not later than
the date of the consummation of such Acquisition. With respect to any
other Acquisition, the items referred to in subsections (a), (b) and
(h) must be delivered to the Lender prior to the execution and
delivery of the definitive Acquisition Documents for such Acquisition
while the balance of the items referred to in all of the other
subsections (other than the certificate referred to in the preceding
subsection (c) and the Assignment of Acquisition Documents, neither of
which shall be required) must be delivered to the Lender not later
than 30 days following the date of the consummation of such
Acquisition. If the Lender shall have received only drafts of the
Acquisition Documents for an Acquisition on the date of the
consummation thereof, the Borrowers shall deliver to the Lender
complete fully executed copies of such Acquisition Documents
(including all exhibits and schedules thereto) not later than 5 days
after such date. The Borrowers agree not to amend, supplement, restate
or otherwise modify the terms of any Acquisition Document prior to
the consummation of the applicable Acquisition, or waive any condition
to the effectiveness of such Acquisition contained in such Acquisition
Documents, without the Lender's prior written consent, such consent
not to be unreasonably withheld.
(e) The Credit Agreement is amended by deleting Section 7.3 in its
entirety and substituting in its place the following:
7.3 INDEBTEDNESS
Create, incur or suffer to exist any Indebtedness except (a)
Indebtedness to the Lender under any of the Loan Documents; (b)
Indebtedness existing on the Effective Date and described on Schedule
5.13. which is acceptable to the Lender; (c) Indebtedness under the
Intercompany Notes in an aggregate principal amount not to exceed
$18,000,000 at any time outstanding; (d) Indebtedness in an aggregate
amount not to exceed $250,000 during any fiscal year of the Borrowers;
(e) Indebtedness otherwise permitted by Section 7.4 and (f) loans and
advances to employees of the Borrowers for moving, entertainment,
travel and other similar expenses in the ordinary course of business
consistent with past practices.
<PAGE> 3
(f) The Credit Agreement is amended by deleting the address for the
Borrowers from Section 10.2 and substituting in its place the following:
To a Borrower:
850 Center Way
Norcross, Georgia 30071
Attention: Chief Financial Officer
Telephone No: (770) 582-3500
Telescope No: (770) 582-3501
(g) The Credit Agreement is amended by deleting Section 1 of Exhibit C
in its entirety and substituting in its place the following:
Section 1. Pledge. The Pledgor hereby pledges, hypothecates,
assigns, transfers, sets over and delivers unto the Pledgee, and
grants to the Pledgee a security interest in, all of the Pledgor's
right, title and interest in, to and under the following, whether now
owned or hereafter acquired or arising (collectively, the "Pledged
Collateral"): (a) all of the common stock, shares, membership
interests, equity interests and other securities (collectively,
"Securities") of each Person (each an "Issuer") described in Schedule
I attached hereto; (b) any additional Securities of any of such
Issuers as may from time to time be issued to the Pledgor or otherwise
acquired by the Pledgor; (c) any additional Securities of any Issuer
as may hereafter at any time be delivered to the Pledgee by or on
behalf of the Pledgor; [Include the following if Debtor is PNI
Systems, LLC - (d) the Intercompany Notes, together with (i) all books
and accounts, papers and documents in any way evidencing or relating
to such Intercompany Notes, (ii) the Pledgor's right (A) to give all
consents, waivers and releases thereunder, (B) to take all action upon
the happening of any breach or default giving rise to any right
(including rights to payment of money, rights of indemnification and
setoff, and rights to defer payment of amounts or to compel specific
performance) in the Pledgor's favor under such Intercompany Notes, and
(C) to do any and all other things whatsoever which the Pledgor is or
may become entitled to do under such Intercompany Notes;] (e) all of
the rights of the Pledgor as a member of any Issuer that is a limited
liability company to: (i) capital of, profits of (in each case whether
or not distributed) and distributions of or from such Issuer, whether
cash or noncash, and whether prior to or in connection with the
liquidation of such Issuer; (ii) operate the business of such Issuer
and deal with and receive the benefit from such Issuer's assets; (iii)
receive proceeds of any indemnity, warranty or guaranty under any
agreement between the Pledgor, the other members of such Issuer and
such Issuer, or any of them; (iv) have access to such Issuer's books
and records and to other information concerning or affecting such
Issuer; (f) any cash or additional Securities or other property at any
time and from time to time receivable or otherwise distributable in
respect of, in exchange for, or in substitution of, any of the
property referred to in any of the immediately preceding clauses (a)
through (e); and (g) any and all products and proceeds of the
foregoing, together with all other rights, titles, interests, powers,
privileges and preferences pertaining to said property.
(h) The Credit Agreement is amended by deleting Exhibit J in its
entirety and substituting in its place Exhibit J attached hereto.
<PAGE> 4
Section 2. Conditions Precedent. The effectiveness of this Amendment
is subject to receipt by the Lender of each of the following, each in form and
substance satisfactory to the Lender:
(a) A counterpart of this Amendment duly executed by the Company, the
Parent and the Lender, and
(b) Such other documents, instruments and agreements as the Lender
may reasonably request.
Section 3. Representations. Each of the Borrowers represents and
warrants to the Lender that:
(a) Authorization; No Conflict. The execution and delivery by the
Borrowers of this Amendment and the performance by the Borrowers of this
Amendment and the Credit Agreement, as amended by this Amendment in accordance
with their respective terms (a) have been duly authorized by all requisite
corporate and, to the extent required, stockholder action (or membership action
in the case of a limited liability company) on the part of each Borrower and
(b) will not (i) violate any provision of Applicable Law, or any order of any
Governmental Authority or any provision of the certificate in incorporation,
articles of organization or other comparable organizational instrument or
by-laws or operating agreement of either Borrower, (ii) violate, conflict with,
result in a breach of or constitute (alone or with notice or lapse of time or
both) a default or an event of default under any Material Contract to which
either Borrower is a party or which each Borrower or any of its property is or
may be bound, or (iii) result in the creation or imposition of any Lien upon
any property or assets of the Borrowers.
(b) Enforceability. This Amendment has been duly executed and
delivered by a duly authorized officer of each Borrower and each of this
Amendment and the Credit Agreement, as amended by this Amendment, is a legal,
valid and binding obligation of the Borrowers enforceable against the Borrowers
in accordance with its respective terms except as the same may be limited by
bankruptcy, insolvency, reorganization, moratorium, fraudulent conveyance or
other laws affecting generally the enforcement of creditors' rights and by
general principles of equity (regardless of whether considered in a proceeding
in equity or at law).
Section 4. Reaffirmation. Each Borrower hereby repeats and reaffirms
all representations and warranties made by such Borrower to the Lender in the
Credit Agreement and the other Loan Documents to which it is a party on and as
of the date hereof with the same force and effect as if such representations
and warranties were set forth in this Amendment in full.
Section 5. Certain References. Each reference to the Credit Agreement
in any of the Loan Documents shall be deemed to be a reference to the Credit
Agreement as amended by this Amendment.
Section 6. Expenses. The Company shall reimburse the Lender upon
demand for all costs and expenses (including attorneys' fees) incurred by the
Lender in connection with the preparation, negotiation and execution of this
Amendment and the other agreements and documents executed and delivered in
connection herewith.
Section 7. Benefits. This Amendment shall be binding upon and shall
inure to the benefit of the parties hereto and their respect successors and
assigns.
<PAGE> 5
Section 8. GOVERNING LAW. THIS AMENDMENT SHALL BE GOVERNED BY, AND
CONSTRUED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF GEORGIA.
Section 9. Effect. Except as expressly herein amended, the terms and
conditions of the Credit Agreement and the other Loan Documents remain in full
force and effect. The amendments contained herein shall be deemed to have
prospective application only, unless otherwise specifically stated herein.
Section 10. Counterparts. This Agreement may be executed in any number
of counterparts, each of which need not contain the signature of more than one
party and all of which taken together shall constitute one and the same
original instrument.
Section 11. Definitions. All capitalized terms not otherwise defined
herein are used herein with the respective definitions given them in the Credit
Agreement.
IN WITNESS WHEREOF, the parties hereto have caused this Firm Amendment to
Credit Agreement to be executed as of the date first above written.
THE PARENT:
PREFERRED NETWORKS, INC.
By: /s/ Kim Smith Hughes
---------------------------------
Name: Kim Smith Hughes
-------------------------
Title: Chief Financial Officer
-------------------------
THE COMPANY:
PNI SYSTEMS, LLC
By: Preferred Networks, Inc., its Manager
By: /s/ Kim Smith Hughes
---------------------------------
Name: Kim Smith Hughes
-------------------------
Title: Chief Finanical Officer
-------------------------
THE LENDER:
NATIONSBANK, N.A. (SOUTH)
By: /s/ Michael S. Paulson
---------------------------------
Name: Michael S. Paulson
-------------------------
Title: Assistant Vice President
-------------------------
<PAGE> 1
EXHIBIT 10.30
Execution Copy
SECOND AMENDMENT TO CREDIT AGREEMENT
THIS SECOND AMENDMENT TO CREDIT AGREEMENT (this "Amendment") dated as
of March 12, 1997, but effective as of January 1, 1997, by and among PNI
SYSTEMS, LLC, a Georgia limited liability company (the "Company"), PREFERRED
NETWORKS, INC., a Delaware corporation (the "Parent", the Parent, together with
the Company, the "Borrowers"), and NATIONSBANK, N.A. (SOUTH) (the "Lender").
WHEREAS, the Borrowers and the Lender entered into that certain Credit
Agreement dated as of August 8, 1996 (the "Credit Agreement"); and
WHEREAS, the Borrowers and the Lender desire to amend certain
provisions of the Credit Agreement on the terms and conditions contained
herein.
NOW, THEREFORE, for good and valuable consideration, the receipt and
sufficiency of which are hereby acknowledged by the parties hereto, the parties
hereto hereby agree as follows:
Section 1. Specific Amendments to Credit Agreement. The parties
hereto agree that the Credit Agreement is amended as follows:
(a) The Credit Agreement is amended by deleting subsection (I) of
Section 6.12 in its entirety and substituting in its place the following:
(1) Opinions of Counsel. (i) An opinion of counsel to the
Loan Parties regarding (A) the due organization of each such New
Subsidiary; (B) the corporate authority of any New Subsidiary or other
Loan Party delivering a Loan Document pursuant to this Section; (C)
the execution, delivery and enforceability of such Loan Documents; (D)
noncontravention of Applicable Law by such Acquisition or by the
execution, delivery and performance by such New Subsidiary and such
Loan Parties of such Loan Documents; (E) validity and perfection of
any security interests granted under any Security Document delivered
under this Section and (F) such other matters as the Lender or its
counsel may reasonably request and (ii) a letter from legal counsel to
the selling parties in such Acquisition allowing the Lender to rely on
the legal opinion of such counsel delivered in connection with such
Acquisition.
(b) The Credit Agreement is amended by deleting Section 8.1 in its
entirety and substituting in its place the following:
The Parent and its Subsidiaries must at all times hold on a
consolidated basis cash and Cash Equivalents in an aggregate amount
greater than or equal to (a) $600,000 for the period commencing
January 1, 1997 through and including May 28, 1997 and (b) at all
times after May 28, 1997, the projected consolidated Debt Service of
the Parent and its Subsidiaries for the period commencing on the date
of determination through the Termination Date.
<PAGE> 2
Section 2. Conditions Precedent. The effectiveness of this Amendment
is subject to receipt by the Lender of each of the following, each in form
and substance satisfactory to the Lender:
(a) A counterpart of this Amendment duly executed by the Company, the
Parent and each Guarantor; and
(b) Such other documents, instruments and agreements as the
Lender may reasonably request.
Section 3. Representations. Each of the Borrowers represents and
warrants to the Lender that:
(a) Authorization; No Conflict The execution and delivery by the
Borrowers of this Amendment and the performance by the Borrowers of this
Amendment and the Credit Agreement, as amended by this Amendment, in accordance
with their respective terms (a) have been duly authorized by all requisite
corporate and, to the extent required, stockholder action (or membership action
in the case of a limited liability company) on the part of each Borrower and
(b) will not (i) violate any provision of Applicable Law, or any order of any
Governmental Authority or any provision of the certificate in incorporation,
articles of organization or other comparable organizational instrument or
by-laws or operating agreement of either Borrower, (ii) violate, conflict with,
result in a breach of or constitute (alone or with notice or lapse of time or
both) a default or an event of default under any Material Contract to which
either Borrower is a party or by which each Borrower or any of its property is
or may be bound, or (iii) result in the creation or imposition of any Lien upon
any property or assets of the Borrowers.
(b) Enforceability. This Amendment has been duly executed and
delivered by a duly authorized officer of each Borrower and each of this
Amendment and the Credit Agreement, as amended by this Amendment, is a legal,
valid and binding obligation of the Borrowers enforceable against the Borrowers
in accordance with its respective terms except as the same may be limited by
bankruptcy, insolvency, reorganization, moratorium, fraudulent conveyance or
other laws affecting generally the enforcement of creditors' rights and by
general principles of equity (regardless of whether considered in a proceeding
in equity or at law).
Section 4. Reaffirmation by Borrowers. Each Borrower hereby repeats
and reaffirms all representations and warranties made by such Borrower to the
Lender in the Credit Agreement and the other Loan Documents to which it is a
party on and as of the date hereof with the same force and effect as if such
representations and warranties were set forth in this Amendment in full.
Section 5. Certain References. Each reference to the Credit Agreement
in any of the Loan Documents shall be deemed to be a reference to the Credit
Agreement as amended by this Amendment.
Section 6. Expenses. The Company shall reimburse the Lender upon
demand for all costs and expenses (including attorneys' fees) incurred by the
Lender in connection with the preparation, negotiation and execution of this
Amendment and the other agreements and documents executed and delivered in
connection herewith.
Section 7. Benefits. This Amendment shall be binding upon and shall
inure to the benefit of the parties hereto and their respective successors and
assigns.
<PAGE> 3
Section 8. GOVERNING LAW. THIS AMENDMENT SHALL BE GOVERNED BY, AND
CONSTRUED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF GEORGIA.
Section 9. Effect. Except as expressly herein amended, the terms and
conditions of the Credit Agreement and the other Loan Documents remain in full
force and effect. The amendments contained herein shall be deemed to have
prospective application only, unless otherwise specifically stated herein.
Section 10. Counterparts. This Agreement may be executed in any number
of counterparts, each of which need not contain the signature of more than one
party and all of which taken together shall constitute one and the same
original instrument.
Section 11. Definitions. All capitalized terms not otherwise defined
herein are used herein with the respective definitions given them in the Credit
Agreement.
IN WITNESS WHEREOF, the parties hereto have caused this Second
Amendment to Credit Agreement to be executed as of the date first above
written.
THE PARENT:
PREFERRED NETWORKS, INC.
By: /s/ Michael J. Saner
--------------------------------
Name: Michael J. Saner
--------------------------
Title: President
--------------------------
THE COMPANY:
PNI SYSTEMS, LLC
By: Preferred Networks, Inc., its Manager
By: /s/ Mark H. Dunaway
-------------------------------
Name: Mark H. Dunaway
--------------------------
Title: CEO of Preferred Networks, Inc.
--------------------------
THE LENDER:
NATIONSBANK, N.A. (SOUTH)
By: /s/ Michael S. Paulson
--------------------------------
Name: Michael S. Paulson
--------------------------
Title: Assistant Vice President
--------------------------
<PAGE> 1
EXHIBIT 10.31
TERMS FOR INVESTMENT IN
PREFERRED NETWORKS, INC.
APRIL 9, 1997
<TABLE>
<S> <C>
Amount of Investment: $20.0 million
Type of Security: Class A Redeemable Preferred Stock
Investors: Investors (See Schedule 1) $15M
Additional Investors $ 5M
Total $20M
Price Per Share: $1.50 per share.
Dividends: Dividends will accrue at the rate of 10% per annum per share, but
will be declared and paid upon liquidation or redemption or earlier
at the election of the Company.
Warrants: (1) In connection with the $15,000,000 investment to be made at
the first closing, the Company will issue warrants for the purchase
of up to 11,500,000 shares of common stock at an exercise price of
$1.50 per share. The number of warrants to be issued to each
investor will be proportionate to its participation (e.g., an investor
committing $1,500,000 will be entitled to one-tenth, or 1,150,000
of the warrants issued).
(2) Anti-dilution. Adjustments to the exercise price under the Warrants
will be subject to adjustment to prevent dilution on a "full ratchet"
basis (that is, adjusted to reflect the new issuance price) in the event
that the Company issues additional shares of capital stock through a
subsequent private placement at a price per share less than the exercise
price. For example, upon a subsequent issuance at $1.00 per share, the
exercise price under the Warrants would be decreased to $1.00 per share.
The Warrants will also provide anti-dilution protection in the event of
stock dividends, stock splits, combinations or reclassifications, etc.
(3) Registration Rights. The shares of common stock issuable to
the Investors upon exercise of the Warrants will be entitled to two
demand registration rights and unlimited piggyback registration
</TABLE>
<PAGE> 2
<TABLE>
<S> <C>
rights. Registration of shares of common stock in order to comply
with the provisions set forth under "Mandatory Exercise of Warrants"
below shall not be deemed to be an exercise of the demand registration
rights provided hereunder. All registration expenses (exclusive of
underwriting discounts of a selling shareholder) will be borne by the
Company. The Company shall indemnify the Investors in connection with
any registration.
(4) Method of Exercise. These warrants may be exercised on a "net issuance"
basis (which includes surrender of existing shares of common stock (at
market value) or existing shares of Class A Preferred Stock (at liquidation
value) in lieu of cash consideration) so as to establish the closing date of
this financing as the beginning of the Rule 144 holding period on the exercised
shares.
(5) Term. These Warrants will be exercisable for five years from
the date of the financing.
(6) Mandatory Exercise of Warrants. All but not less than all of the Warrants
must be exercised by the holders thereof at the request of the Company at the
then applicable conversion price if and only if (i) the average closing bid
price for shares of common stock during the 90 calendar days prior to the
date of such exercise exceeds $10 per share, (ii) the Company will cause
all shares of common stock issued upon such exercise to be registered,
whether through registration on a Form S-3 or otherwise, so as to be freely
tradable immediately upon their issuance and (iii) the Company redeems
all outstanding Class A Preferred Stock.
(7) Cancellation of Warrants. Warrants in the aggregate amount of 500,000
(distributed on a pro-rata basis among the Investors) may be canceled by
the Company at its election for the following consideration in connection
with the redemption in a single transaction of all but not less than all of
the Class A Preferred Stock during the following time periods following the
Closing of this financing:
Redemption Within: Aggregate Consideration:
First year $0.00
Second year $750,000
Third year $1,500,000
</TABLE>
2
<PAGE> 3
<TABLE>
<S> <C>
Use of Proceeds: The net proceeds to the Company from this financing will be used for
capital expenditures related to its network buildout and general corporate
purposes.
Rights, Preferences,
Privileges and
Restrictions of
Security being
Purchased: (1) Liquidation Preference: In the event of any liquidation or
winding up of the Company, the holders of the Class A Preferred
Stock will be entitled to receive in preference to the holders of
common stock an aggregate amount ("Liquidation Amount") equal
to $20,000,000 plus accrued dividends. A consolidation or merger
of the Company, in which the Company does not survive (other
than the Company's contemplated Georgia reincorporation), or a
sale of all or substantially all of its assets (each a "Triggering
Event") shall be deemed to be a liquidation or winding up for
purposes of the liquidation preference.
(2) Protective Provisions: Consent of the holders of at least two-thirds
of the Class A Preferred Stock will be required for any action which (i)
alters or changes the rights, preferences or privileges of the Class A
Preferred Stock, (ii) involves any repurchases of common stock by the
Company (except for specified buy-backs under existing employee and
related plans), (iii) increases the authorized number of shares of Class
A Preferred Stock, (iv) creates any new class of shares having preference
over or being on a parity with the Class A Preferred Stock, (v) approves a
material change in the line of business of the Company, (vi) involves any
sale by the Company of all or a substantial portion of its assets, any merger
of the Company with another entity, or any amendment of the Company's
certificate or articles of incorporation, (vii) involves any significant
acquisition by the Company (i.e., have a transaction value of $5,000,000
or more), (vii) involves any significant increase in indebtedness of the
Company (either public or private) (i.e., any incremental increase of $5,000,000
or more).
Voting Rights: Except as set forth in "Protective Provisions" above, each share of Class A
Preferred Stock shall have one vote on matters to come before the stockholders
of the Company.
</TABLE>
3
<PAGE> 4
<TABLE>
<S> <C>
Preemptive Rights: So long as the Class A Preferred Stock is outstanding,
if the Company offers equity securities for sale through a
subsequent private placement the Investors will be entitled to
purchase their fully-diluted percentage of such offering.
Redemption: All but not less than all of the Class A Preferred Stock is
redeemable at any time at the option of the Company at a price
equal to the original purchase price plus accumulated but unpaid
dividends. On the fifth anniversary of the first closing, each holder
of the Class A Preferred Stock shall be entitled to demand that the
Class A Preferred Stock originally purchased by such holder be
redeemed by the Company at a price equal to the original purchase
price plus accumulated but unpaid dividends.
To the extent that the Company may not at any particular date legally
effectuate a redemption of Class A Preferred Stock, such redemption will
take place as soon as legally permitted.
Board Representation: The holders of the Class A Preferred Stock shall have the right to
elect one director (which right shall not be deemed to be satisfied
by the presence on the Board of current Board members Schutz
and Van Degna). The Board will meet at least quarterly. Each
Investor investing an amount equal to or greater than $1,500,000
shall be entitled, at the election of such Investor, to board
observation rights and to receive all materials distributed to the
Board of Directors.
Bridge Note At the election of the Company, on or before April 25, 1997, the
Investors shall provide a term loan to the Company in the
aggregate principal amount of up to $10,000,000 with interest at
10% per annum (the "Term Loan"). Principal and interest under
the Term Loan shall be due on the earlier of June 30, 1997 or
Closing under this financing and if not paid on or before Closing,
shall be exchangeable at Closing for shares of Class A Preferred
Stock on the terms set forth herein. Principal under the Term Loan
exchanged for shares of Class A Preferred Stock and shall be
included in the $15,000,000 aggregate investment to be made in
the first closing hereunder and shall not be in addition to such sum.
Interest under the Term Loan may be paid in cash at Closing or
may be exchanged for additional shares of Class A Preferred Stock
on the terms set forth in this term sheet.
The Purchase
</TABLE>
4
<PAGE> 5
<TABLE>
<S> <C>
Agreement: The purchase of the Class A Preferred Stock will be made pursuant
to a Class A Preferred Stock purchase agreement drafted by counsel
to the Investors, which Agreement shall contain, among other things,
appropriate representations and warranties, indemnification provisions,
covenants and conditions to closing.
Amendment of
Documents: Any governing documents of the Company inconsistent with terms
of this term sheet will be amended appropriately.
Expenses: The Company shall pay the reasonable fees and expenses of legal counsel
selected by the Investors to represent the Investors' interest in the
negotiation of the Preferred Stock agreement, subject to an agreed upon
limit.
First Closing: The first closing shall occur not later than June 20, 1997,
upon the Company's receipt of shareholder approval for this transaction.
Closing will be subject to execution of definitive transaction documents
in customary form reasonably satisfactory to the Investors.
Second Closing: A second closing of the Class A Preferred financing will be
permitted up to June 30, 1997. The Company will agree to accept
amounts sufficient to bring the total financing up to $20,000,000.
The terms and conditions will be identical to those of the first
closing, with the exception that the Company shall issue warrants
for the purchase of up to an aggregate of 3,000,000 shares of
common stock in connection with the second closing. If at the
second closing, investors are willing to invest in an amount greater
than $5,000,000, the first $1,350,000 of such excess shall be used
to redeem the Class A Preferred Stock held by Fleet Venture
Resources, Inc. to reduce Fleet's investment to an aggregate of
$3,750,000 (at which time the number of warrants held by Fleet
would be reduced by the number of warrants issued in accordance
with the third sentence of this paragraph to the investor(s)
investing such $1,350,000).
Applicable Laws and
NASD Rules: The parties will comply with all applicable laws and NASD rules.
Shares Outstanding: The number of fully-diluted shares outstanding immediately prior
to this financing is understood to be 17,490,837 including all
unexercised or unvested options or warrants.
</TABLE>
5
<PAGE> 6
By signing this commitment, both the Company and the Investors agree to
consummate the transaction described herein.
Preferred Networks, Inc. PNC Capital Corp.
By: /s/ Mark H. Dunaway By: /s/ David Hillman
--------------------------------- -------------------------------
Name: Mark H. Dunaway Name: David Hillman
--------------------------------- -------------------------------
Centennial Fund IV, L.P. Fleet Equity Partners
By: Centennial Holdings, V, L.P.
its General Partner
By: /s/ G. Jackson Tankersly, Jr. By: /s/ Robert M. Van Degna
--------------------------------- -------------------------------
Name: G. Jackson Tankersly, Jr. Name: Robert M. Van Degna
--------------------------------- -------------------------------
General Partner Chairman & CEO
Saugatuck Capital III Primus Venture Fund III
By: /s/ Richard P. Campbell By: /s/ Kevin J. McGinty
--------------------------------- -------------------------------
Name: Richard P. Campbell Name: Kevin J. McGinty
--------------------------------- -------------------------------
6
<PAGE> 7
Schedule I
<TABLE>
<CAPTION>
Investors $ Investment
<S> <C>
Centennial Fund IV 4,700,000
Fleet Equity Partners 5,100,000
PNC Capital Corp 1,700,000
Saugatuck Capital III 1,800,000
Primus Venture Fund III 1,700,000
Total 15,000,000
</TABLE>
7
<PAGE> 1
EXHIBIT 10.32
EXECUTION COPY
THIRD AMENDMENT TO CREDIT AGREEMENT
THIS THIRD AMENDMENT TO CREDIT AGREEMENT (this "Amendment") dated as of
April 11, 1997, by and among PNI SYSTEMS, LLC, a Georgia limited liability
company (the "Company"), PREFERRED NETWORKS, INC., a Delaware corporation (the
"Parent", the Parent, together with the Company, the "Borrowers"), and
NATIONSBANK, N.A. (SOUTH) (the "Lender").
WHEREAS, the Borrowers and the Lender have entered into that certain
Credit Agreement dated as of August 8, 1996, as amended as of December 20, 1996
and as of March 12, 1997 (the "Credit Agreement");
WHEREAS, the Parent advised the Lender that the Parent has entered into
a letter agreement dated April 9, 1997 (the "Letter Agreement"), by and among
the Parent and PNC Capital Corp., Centennial Fund IV, L.P., Fleet Equity
Partners, Inc., Saugatuck Capital III and Primus Venture Fund III (the
"Investors"), outlining the basic terms on which (a) the Investors have agreed
to purchase from the Parent, and the Parent has agreed to issue to the
Investors, shares of the Parent's Class A Redeemable Preferred Stock (the
"Preferred Stock") and (b) the Parent has agreed to issue to the Investors
warrants (the "Warrants") to purchase up to 11,500,000 shares of Common Stock
of the Parent, in each case, subject to the terms and conditions to be
contained in definitive documentation evidencing such transactions (which
conditions will include approval of certain aspects of such transactions by the
shareholders of the Parent);
WHEREAS, the Parent has advised the Lender that the Investors are
willing to make a $10,000,000 bridge loan to the Parent (the "Investor Loan")
which will be due and payable in full on the earlier of the date of issuance of
the Preferred Stock or June 30, 1997;
WHEREAS, in connection with the foregoing transactions, the Borrowers
have requested that the Lender consent to such transactions and agree to amend
certain provisions of the Credit Agreement, all on, and subject to, the terms
and conditions contained herein.
NOW, THEREFORE, for good and valuable consideration, the receipt and
sufficiency of which are hereby acknowledged by the parties hereto, the parties
hereto hereby agree as follows:
Section 1. General Amendments to Credit Agreement. The parties hereto
agree that the Credit Agreement is amended as follows:
<PAGE> 2
(a) The Credit Agreement is amended by deleting from Section 1.1
thereof the definition of the term "Company Commitment" in its entirety and
substituting in its place the following:
"Company Commitment" shall mean the obligation of the Lender to
make Company Loans to the Company in an aggregate principal amount at
any one time outstanding up to but not exceeding $9,250,000.
(b) The Credit Agreement is amended by deleting Section 9.12 in its
entirety and substituting in its place the following:
"The Parent shall fail to raise an aggregate amount of Net
Proceeds of Equity Issuances and Subordinated Debt greater than or
equal to (a) $15,000,000 during the period commencing on the date hereof
and ending on July 1, 1997 and (b) $20,000,000 (including amounts raised
during the period referred to in the preceding clause (a)) during the
period commencing on date hereof and ending on January 31, 1998."
Section 2. Conditions Precedent to Effectiveness of this Amendment. The
effectiveness of this Amendment is subject to receipt by the Lender of each of
following, each in form and substance satisfactory to the Lender:
(a) A counterpart of this Amendment duly executed by the Company,
the Parent and each Guarantor; and
(b) Such other documents, instruments and agreements as the Lender
may reasonably request.
Section 3. Amendments to Credit Agreement Regarding the Purchase
Agreement.
(a) Subject to the immediately following subsection (b), the Credit
Agreement is amended by deleting from Section 1.1 thereof the definition of the
term "Change of Control" in its entirety and substituting in its place the
following:
"Change in Control" shall mean any of the following: (i) if any
Person or two or more Persons (other than Mark Dunaway) acting in
concert, shall acquire "beneficial ownership" within the meaning of Rule
13d-3 of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"), directly or indirectly, of capital stock or securities of the
Parent representing 20% or more of the aggregate voting power of all
classes of capital stock and securities of the Parent on a fully diluted
basis; or (ii) if, (x) in any twelve-month period, any member of the
Management Group shall terminate his employment with the Parent or
otherwise cease to be employed by the Parent in a senior management
position and (y) within 120 days after such member shall terminate his
employment or shall
- 2 -
<PAGE> 3
otherwise cease to be so employed, the Parent shall fail to replace
such member with an individual having comparable industry experience.
(b) The effectiveness of the amendment provided for in the
immediately preceding subsection (a), is subject to satisfaction of the
following conditions:
(i) The Lender being reasonably satisfied with the terms and
conditions of the Purchase Agreement (as defined below) and the
Warrants, which satisfaction the Lender agrees to evidence by way of a
letter to such effect from the Lender to the Parent; and
(ii) Receipt by the Lender of each of the following in form
and substance reasonably satisfactory to the Lender:
(A) A copy of the fully executed Letter Agreement;
(B) A fully executed copy of the definitive
purchase agreement (the "Purchase Agreement") entered into by
the Parent and the Investors relating to the acquisition by the
Investors of the Preferred Stock and the Warrants, together with
all exhibits, schedules and other attachments thereto, the terms
and conditions of which Purchase Agreement must be substantially
responsive to the terms of the Letter Agreement;
(C) A copy of the Certificate of Designations
regarding the Preferred Stock certified as of a recent date by
the Secretary of State of the jurisdiction of incorporation of
the Parent;
(D) A fully executed copy of each warrant agreement
and warrant certificate relating to the Warrants issued to each
Investor; and
(E) Such other documents, instruments and agreements
relating to the transactions contemplated by the Purchase
Agreement as the Lender may reasonably request:
Section 4. Lender's Consent to Investor Loan.
(a) Subject to the immediately following subsection (b), the Lender
agrees that notwithstanding Section 7.3 of the Credit Agreement, the Parent may
incur Indebtedness owing to the Investors in any aggregate principal amount not
to exceed $10,000,000 at any one time outstanding.
(b) The effectiveness of the immediately preceding subsection (a),
is subject to satisfaction of the following conditions:
- 3 -
<PAGE> 4
(i) The Lender being reasonably satisfied with the terms of
the Investor Loan, which satisfaction the Lender agrees to evidence by
way of a letter to such effect from the Lender to the Parent; and
(ii) Receipt by the Lender of each of the following in form
and substance reasonably satisfactory to the Lender:
(A) A copy of the fully executed loan agreement,
promissory note (or notes), and all other documents or
instruments evidencing or relating to the Investor Loan;
(B) A Subordination Agreement executed by the
Investors subordinating the Investor Loan on term and conditions
satisfactory to the Lender in its sole and absolute discretion;
and
(C) Such other documents, instruments and agreements
relating to the Investor Loan as the Lender may reasonably
request.
Section 5. Representations. Each of the Borrowers represents and
warrants to the Lender that:
(a) Authorization, No Conflict. The execution and delivery by the
Borrowers of this Amendment and the performance by the Borrowers of this
Amendment and the Credit Agreement, as amended by this Amendment, in accordance
with their respective terms (a) have been duly authorized by all requisite
corporate and, to the extent required, stockholder action (or membership action
in the case of a limited liability company) on the part of each Borrower and
(b) will not (i) violate any provision of Applicable Law, or any order of any
Governmental Authority or any provision of the certificate in incorporation,
articles of organization or other comparable organizational instrument or
by-laws or operating agreement of either Borrower, (ii) violate, conflict with,
result in a breach of or constitute (alone or with notice or lapse of time or
both) a default or an event of default under any Material Contract to which
either Borrower is a party or by which each Borrower or any of its property is
or may be bound, or (iii) result in the creation or imposition of any Lien upon
any property or assets of the Borrowers.
(b) Enforceability. This Amendment has been fully executed and
delivered by a duly authorized officer of each Borrower and each of this
Amendment and the Credit Agreement, as amended by this Amendment, is a legal,
valid and binding obligation of the Borrowers enforceable against the Borrowers
in accordance with its respective terms except as the same may be limited by
bankruptcy, insolvency, reorganization, moratorium, fraudulent conveyance or
other laws affecting generally the enforcement of creditors' rights and by
general principles of equity (regardless of whether considered in a proceeding
in equity or at law).
- 4 -
<PAGE> 5
Section 6. Reaffirmation by Borrowers. Each Borrower hereby repeats and
reaffirms all representations and warranties made by such Borrower to the Lender
in the Credit Agreement and the other Loan Documents to which it is a party on
and as of the date hereof with the same force and effect as if such
representations and warranties were set forth in this Amendment in full.
Section 7. Reaffirmation by Guarantors. Each of the Guarantor reaffirms
its continuing obligations to the Lender under its Guaranty, and agrees that
this Amendment shall not in any way effect the validity and enforceability of
such Guaranty, or reduce, impair or discharge the obligations of such Guarantor
thereunder.
Section 8. Certain References. Each reference to the Credit Agreement in
any of the Loan Documents shall be deemed to be a reference to the Credit
Agreement as amended by this Amendment.
Section 9. Expenses. The Company shall reimburse the Lender upon demand
for all costs and expenses (including attorneys' fees) incurred by the Lender in
connection with the preparation, negotiation and execution of this Amendment
and the other agreements and documents executed and delivered in connection
herewith.
Section 10. Benefits. This Amendment shall be binding upon and shall
inure to the benefit of the parties hereto and their respective successors and
assigns.
Section 11. GOVERNING LAW. THIS AMENDMENT SHALL BE GOVERNED BY, AND
CONSTRUED IN ACCORDANCE WITH, THE LAWS OF THE STATE OF GEORGIA.
Section 12. Effect. Except as expressly herein amended, the terms and
conditions of the Credit Agreement and the other Loan Documents remain in full
force and effect. The amendments contained herein shall be deemed to have
prospective application only, unless otherwise specifically stated herein.
Section 13. Counterparts. This Agreement may be executed in any number
of counterparts, each of which need not contain the signature of more than one
party and all of which taken together shall constitute one and the same
original instrument.
Section 14. Definitions. All capitalized terms not otherwise defined
herein are used herein with the respective definitions given them in the Credit
Agreement.
[Signatures on Next Page]
5
<PAGE> 6
IN WITNESS WHEREOF, the parties hereto have caused this Third Amendment
to Credit Agreement to be executed as of the date first above written.
THE LENDER:
NATIONSBANK, N.A. (SOUTH)
By: /s/ Michael S. Paulson
---------------------------------------
Name: Michael S. Paulson
----------------------------------
Title: Assistant Vice President
----------------------------------
THE PARENT:
PREFERRED NETWORKS, INC.
By: /s/ Kim Smith Hughes
---------------------------------------
Name: Kim Smith Hughes
----------------------------------
Title: Chief Financial Officer
---------------------------------
THE COMPANY:
PNI SYSTEMS, LLC
By: Preferred Networks, Inc., its Manager
By: /s/ Kim Smith Hughes
----------------------------------
Name: Kim Smith Hughes
-----------------------------
Title: Chief Financial Officer
----------------------------
[Signatures Continued on Next Page]
-6-
<PAGE> 7
[SIGNATURE PAGE TO THIRD AMENDMENT TO CREDIT AGREEMENT DATED
AS OF APRIL 11, 1997 FOR PREFERRED NETWORKS, INC.]
THE GUARANTORS
PNI SPECTRUM, LLC PREFERRED TECHNICAL
SERVICES, INC.
By: Preferred Networks, Inc., its Manager
By: /s/ Kim Smith Hughes
------------------------------
By: /s/ Kim Smith Hughes Name: Kim Smith Hughes
------------------------------ -------------------------
Name: Kim Smith Hughes Title: Chief Financial Officer
------------------------- ------------------------
Title: Chief Financial Officer
------------------------
PNI GEORGIA, INC. EPS WIRELESS, INC.
By: /s/ Kim Smith Hughes By: /s/ Kim Smith Hughes
------------------------------ ------------------------------
Name: Kim Smith Hughes Name: Kim Smith Hughes
------------------------- -------------------------
Title: Vice President Title: Vice President
------------------------ ------------------------
MERCURY PAGING & HTB COMMUNICATIONS, INC.
COMMUNICATIONS, INC.
By: /s/ Kim Smith Hughes By: /s/ Kim Smith Hughes
------------------------------ ------------------------------
Name: Kim Smith Hughes Name: Kim Smith Hughes
------------------------- -------------------------
Title: Chief Financial Officer Title: Chief Financial Officer
------------------------ ------------------------
CUSTOM PAGE, INC. M.P.C. DISTRIBUTORS, INC.
By: /s/ Kim Smith Hughes By: /s/ Kim Smith Hughes
------------------------------ ------------------------------
Name: Kim Smith Hughes Name: Kim Smith Hughes
------------------------- -------------------------
Title: Chief Financial Officer Title: Chief Financial Officer
------------------------ ------------------------
-7-
<PAGE> 1
EXHIBIT 11.1
COMPUTATION OF NET LOSS PER SHARE
<TABLE>
<CAPTION>
YEAR ENDED YEAR ENDED YEAR ENDED
DECEMBER 31, DECEMBER 31, DECEMBER 31,
1994 1995 1996
<S> <C> <C> <C>
Primary and fully diluted:
Weighted average common stock outstanding during the
period........................................... 4,087,657 4,138,496 12,809,112
Effect of Common Stock equivalents issued subsequent to
December 18, 1994 computed in accordance with the
treasury stock method as required by the SEC (1). 5,019,901 5,019,913 834,362
----------- ----------- ------------
Total....................................... 9,107,558 9,158,409 13,643,474
=========== =========== ============
Net loss................................................... $(1,326,429) $(2,869,760) $(10,199,330)
Less: Accretion of Series A and Series B Redeemable
Convertible Preferred Stock (2)....................... (486,664) (202,235)
Less: Series B Redeemable Convertible Preferred Stock
dividend requirement.................................. (1,069,548) (353,651)
----------- ----------- ------------
Net loss attributable to Common Stock and Common Stock
equivalents........................................... $(1,326,429) $(4,425,972) $(10,755,216)
=========== =========== ============
Net loss per share of Common Stock......................... $ (0.15) $ (0.48) $ (0.79)
=========== =========== ============
</TABLE>
(1) Pursuant to Securities and Exchange Commission Staff Accounting bulletin
No. 83, Common Stock equivalents (including a portion of Series A
Redeemable Convertible Preferred Stock and all of Series B Redeemable
Convertible Preferred Stock) issued at prices equal to or below the
initial public offering price per share ("cheap stock") during the
twelve-month period immediately preceding the initial filing date of the
Company's Registration Statement for its public offering have been
included as outstanding for all periods presented prior to the initial
public offering.
(2) Amount represents the portion of the accretion related to Series A
Redeemable Convertible Preferred Stock not treated as cheap stock.
<PAGE> 1
EXHIBIT 11.2
COMPUTATION OF SUPPLEMENTAL NET LOSS PER SHARE
<TABLE>
<CAPTION>
YEAR ENDED
DECEMBER 31,
1996
-------------
<S> <C>
Primary and fully diluted:
Weighted average common stock outstanding during the
period..................................................... 12,902,445
Effect of Common Stock equivalents issued subsequent to
December 18, 1994 computed in accordance with the
treasury stock method as required by the SEC (1)........... 834,362
------------
Total.................................................... 13,736,807
============
Net loss....................................................... $(10,199,330)
Less: Accretion of Series A and Series B Redeemable
Convertible Preferred Stock (2).............................. (202,235)
Less: Series B Redeemable Convertible Preferred Stock
dividend requirement......................................... (353,651)
Plus: Reduction in interest expense from repayment of
current and long-term notes payable (3)...................... 112,000
------------
Net loss attributable to Common Stock and Common Stock
equivalents.................................................. $(10,643,216)
============
Supplemental net loss per share of Common Stock................ $ (0.77)
============
</TABLE>
(1) Pursuant to Securities and Exchange Commission Staff Accounting bulletin
No. 83, Common Stock equivalents (including a portion of Series A
Redeemable Convertible Preferred Stock and all of Series B Redeemable
Convertible Preferred Stock) issued at prices equal to or below the
initial public offering price per share ("cheap stock") during the
twelve-month period immediately preceding the initial filing date of the
Company's Registration Statement for its public offering have been
included as outstanding for all periods presented prior to the initial
public offering.
(2) Represents the portion of the accretion related to Series A Convertible
Preferred Stock not treated as cheap stock.
(3) Supplemental loss per share reflects the number of shares of Common Stock
issued upon consummation of the initial public offering used to repay $5.6
million in current and long-term notes payable as if such issuance had
occurred at the beginning of 1996.
<PAGE> 1
EXHIBIT 21
SUBSIDIARIES OF PREFERRED NETWORKS, INC.
Preferred Networks Southeast, Inc., a Georgia corporation (1)
PNI Systems, LLC, a Georgia limited liability company
PNI Spectrum, LLC, a Georgia limited liability company
EPS Wireless, Inc., a Georgia corporation
Preferred Technical Services, Inc., a Georgia corporation
PNI Georgia, Inc., a Georgia corporation
Mercury Paging & Communications, Inc., a Delaware corporation
HTB Communications Inc., a New York corporation
M.P.C. Distributors Inc., a New York corporation
Custom Page, Inc., a Delaware corporation
(1) Merged into PNI on December 19, 1996
<PAGE> 1
EXHIBIT 23.1
CONSENT OF INDEPENDENT AUDITORS
We hereby consent to the incorporation by reference in the Registration
Statements (Form S-8 No. 333-3962, Form S-8 No. 333-3824 and Form S-8 No.
333-3826) of Preferred Networks, Inc. of our reports dated February 10, 1995,
except as to the first paragraph of Note 5 which is as of January 24, 1996,
appearing on page 29 of this Form 10-K.
/s/ PRICE WATERHOUSE LLP
April 14, 1997
<PAGE> 1
EXHIBIT 23.2
CONSENT OF INDEPENDENT AUDITORS
We consent to the incorporation by reference in the Registration Statements
(Form S-8 No. 333-3962, Form S-8 No. 333-3824 and Form S-8 No. 333-3826) of
Preferred Networks, Inc. and in the related Prospectuses of our reports dated
April 14, 1997 with respect to the consolidated financial statements and
schedule of Preferred Networks, Inc. in the Annual Report (Form 10-K) for the
year ended December 31, 1996.
/s/ ERNST & YOUNG LLP
April 14, 1997
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM AUDITED
CONSOLIDATED BALANCE SHEET AND STATEMENT OF OPERATIONS AND IS QUALIFIED IN ITS
ENTIRETY BY REFERENCE TO SUCH FORM 10-K FOR THE TWELVE MONTH PERIOD ENDED
DECEMBER 31, 1996.
</LEGEND>
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1996
<PERIOD-START> JAN-01-1996
<PERIOD-END> DEC-31-1996
<CASH> 21,645,354
<SECURITIES> 0
<RECEIVABLES> 3,070,972
<ALLOWANCES> 254,990
<INVENTORY> 5,630,478
<CURRENT-ASSETS> 30,725,401
<PP&E> 24,933,750
<DEPRECIATION> 3,374,343
<TOTAL-ASSETS> 66,125,337
<CURRENT-LIABILITIES> 9,512,697
<BONDS> 16,029,652
0
0
<COMMON> 1,529
<OTHER-SE> 40,581,459
<TOTAL-LIABILITY-AND-EQUITY> 66,125,337
<SALES> 5,818,074
<TOTAL-REVENUES> 13,350,672
<CGS> 8,328,771
<TOTAL-COSTS> 13,612,207
<OTHER-EXPENSES> 0
<LOSS-PROVISION> 248,362
<INTEREST-EXPENSE> 242,337
<INCOME-PRETAX> (10,199,330)
<INCOME-TAX> 0
<INCOME-CONTINUING> (10,199,330)
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (10,199,330)
<EPS-PRIMARY> (.79)
<EPS-DILUTED> (.79)
</TABLE>
