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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
FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D)
OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM_____ TO_____
COMMISSION FILE NUMBER 0-27658
PREFERRED NETWORKS, INC.
(Exact name of Registrant as specified in its charter)
Georgia 58-1954892
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
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, no 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 Over The Counter Bulletin Board on March 24, 2000 was approximately $25.9
million. As of March 24, 2000, 16,544,417 shares of the Registrant's Common
Stock were outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
Specifically identified portions of the Proxy Statement for the 2000 Annual
Meeting of Stockholders to be held on June 8, 2000 are incorporated by reference
in Part III.
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TABLE OF CONTENTS
<TABLE>
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PART I PAGE
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Item 1. Business............................................................... 3
2. Properties............................................................. 11
3. Legal Proceedings...................................................... 11
4. Submission of Matters to a Vote of Security Holders.................... 11
PART II
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Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters................................................. 12
6. Selected Financial Data................................................ 13
7. Management's Discussion and Analysis of Financial Condition
and Results of Operations........................................... 14
7A. Quantitative and Qualitative Disclosures About Market Risk............. 21
8. Financial Statements and Supplementary Data............................ 21
9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure............................................ 21
PART III
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Item 10. Directors and Executive Officers of the Registrant..................... 21
11. Executive Compensation................................................. 21
12. Security Ownership of Certain Beneficial Owners and Management......... 21
13. Certain Relationships and Related Transactions......................... 21
PART IV
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Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K........ 22
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PART I
ITEM 1. BUSINESS
GENERAL
Preferred Networks, Inc. (the "Company") was founded in 1991 to provide
unbranded, wholesale one-way wireless messaging network services to companies
for resale to their customers. In pursuing this strategy, the Company developed
a number of advanced networking technologies aimed at increasing its efficiency
as a network operator. During 1999, the Company completed development of its
intelligent, high-speed switching technology and began to commercialize related
products for sale to other companies. This technology creates networking
solutions that provide companies with greater processing efficiencies, cost
savings, and an open platform to bring them closer to their customers through
unified service offerings. In early 2000, the Company began to ship its first
software enhanced networking products and is developing a number of additional
hardware, software and service offerings to address each of the wireless, fixed
network and Internet marketplaces. With the introduction of its networking
products, the Company has augmented its one-way wireless network services and is
evolving into a developer and supplier of advanced communications hardware and
software products.
Beginning in 1996 and continuing for the majority of 1999, the Company
was also a provider of pager and cellular repair services and of network
engineering services. During 1999, concurrent with the completion of development
of the Company's intelligent, high-speed switching technology, the Company
divested of its wholly owned subsidiaries through which it provided these
additional services. The closing of these transactions allowed the Company to
focus exclusively on its network-related business, including the development and
marketing of its networking products. In May 1999, the Company sold its
engineering services business, Preferred Technical Services, Inc. ("PTS"), which
it had acquired in July 1996. In December 1999, the Company sold its pager and
cellular repair business, EPS Wireless, Inc. ("EPS"), which it had acquired in
December 1996.
The Company is at an early stage in the development of its networking
products business. Substantially all of the Company's revenues are currently
derived from its network services business.
INDUSTRY BACKGROUND
The wireless services and Internet services marketplaces have enjoyed
spectacular growth during the past several years. The advent of affordable
consumer products for the delivery of these services has spurred rapid increases
in subscribers and usage. The Company believes that continued stimulation of
growth will occur as wireless networks become more data capable and as
applications become integrated, and that the most dramatic growth will occur
through the convergence of fixed networks, wireless networks and the Internet,
enabling information available via the Internet to meet the needs of users in
the fast growing mobile environment.
While the application of the Company's advanced networking technologies
was initially aimed at increasing its own efficiency as a one-way wireless
network operator, these technology platforms have the potential to provide
similar advantages to a wide spectrum of participants in the wireless services,
fixed network and Internet marketplaces. Companies providing such services
operate either by constructing and operating proprietary network facilities
("carriers"), or by purchasing network services from carriers, such as the
Company, on a wholesale basis in order to resell branded services to subscribers
("resellers"). Increased consumer demand has resulted in greater competition for
subscribers, resulting in demand on service providers to offer additional
features at reduced cost. The Company believes this trend will continue and that
it will lead to increased demand for outsourced network services, such as those
offered by the Company. Further, the Company believes that its networking
technologies will appeal to a wide spectrum of industry participants seeking to
achieve cost savings and to market unified service offerings.
The utility and accessibility of network infrastructure provides the
foundation that enables companies to drive adoption of end-user applications.
This has never been more evident than in the recent explosion of Internet
services, which has occurred because the fixed telephone network is ubiquitous
and allows common user access. These factors have allowed companies to focus on
applications and content without needing to educate users on new technology.
Historically, however, these factors have not existed in the wireless
marketplace. The U.S., in particular, lacks uniform
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standards, and accordingly, wireless network infrastructure is application or
service specific. This has encumbered companies seeking to sell value-added
services that require connectivity between wireless applications and the
Internet. The Company believes the next explosion of wireless services will
occur when networks are leveraged for integrated applications and when users can
access all of their communications services through whatever device they happen
to be using, regardless of whether it is wireless or wired.
The Company's networking technologies provide solutions by leveraging
the existing public service telephone network ("PSTN") to enable open access to
multiple services (wired or wireless) regardless of the protocol used within
networks or end-user devices. Through development of software enhanced products,
the Company is positioned to deliver broad market solutions that unify discrete
wireless services and integrate these services with the Internet, in a manner
that is transparent to the end user.
BUSINESS
The Company was founded in 1991 as a wireless network carrier to
provide unbranded, wholesale one-way messaging network services to companies for
resale to their customers. Beginning in 1996 and continuing for the majority of
1999, the Company was also a provider of pager and cellular repair services and
of network engineering services. During 1999, concurrent with the completion of
development of the Company's intelligent, high-speed switching technology, the
Company divested of its wholly owned subsidiaries through which it provided
these additional services. The closing of these transactions allowed the Company
to focus exclusively on its network-related business, including the development
and marketing of its networking products.
NETWORK SERVICES
The Company's one-way wireless networks enable its customers to offer
competitive, branded messaging services to their subscribers, while incurring
costs on an as-needed basis. The Company currently owns and operates networks in
four regions of the United States, including the Southeast, Mid-Atlantic,
Northeast and Midwest. As of December 31, 1999, the Company provided network
services to more than 1,500 companies, which collectively had 525,000 units in
service on the Company's networks. The Company's network customers include four
of the five largest one-way messaging companies in the U.S. The Company's
network services business operates under the name PNI Access Services(R).
The Company employs an efficient network architecture utilizing
regional Technical Control Centers ("TCCs") that centrally control its networks
in multiple local markets within a wide geographic region. As of December 31,
1999, the Company had five TCCs in operation. In 1997, the Company installed its
first prototype network switching technology in its Midwest region, which
allowed the Company to increase its processing speed and gain cost savings. With
the completion of commercial development of the first software-enhanced products
utilizing this technology at the end of 1999, the Company intends to deploy its
networking products throughout the remainder of its own network markets in 2000.
The Company expects this deployment to result in the conversion of the majority
of its TCC-based centralized switching into distributed switching within local
markets. By distributing network switching into local points of presence
("POPs"), the Company expects to eliminate the need for many of its leased line
telephone circuits, which should result in a significant reduction of its
network operating costs. Further, this deployment is expected to enable the
Company to seamlessly integrate future software applications into its service
offering so that its network customers can sell value-added services to their
customers.
NETWORKING PRODUCTS
The Company's networking technologies increase processing efficiencies
and create open environments to enable businesses to reduce operating costs and
seamlessly expand and unify service offerings. The Company is in the early
stages of marketing and development of software enhanced networking products,
and as of the date of this filing, the Company has developed the following
initial products:
Switching
Switching is an important component of networking technology, providing
control and routing of telephony that is used for communications services. The
Company's first commercial switch product is the Platform1(TM) modular switch.
Platform1(TM) incorporates the Company's patented call algorithm, which permits
the routing of individual telephone
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numbers to multiple servers and terminals at extremely high speeds and on an as
needed basis (a "server" or "terminal" is where the service application,
customer database and billing data resides, and for purposes of this document,
the terms "server" and "terminal" are sometimes used interchangeably.)
Platform1(TM) allows individual numbers and circuits to be dynamically shared
between servers, enabling circuit capacity to be allocated among service
offerings, rather than being dedicated to discrete offerings as in traditional
network architectures. This allows companies to gain better utilization of
existing capacity and reduce costly dedicated PSTN circuits.
Platform1(TM) Products
- Base Unit. Platform1(TM) can "front-end" legacy equipment,
thereby interconnecting existing hardware to reduce circuit
requirements and integrate offerings without needing to
replace or duplicate existing network equipment. The
Platform1(TM) chassis is rack-mounted, enabling it to be
integrated within existing switching centers with minimal
additional space and power requirements. Further, this
hardware design allows companies to cost effectively
distribute Platform1(TM) in local POPs, reducing the distance
a service provider must transport its traffic over costly
leased line circuits. The Company expects to begin shipments
of the Platform1(TM) base unit in the second quarter of 2000.
- Unified Messaging. The Company's product strategy is to take
existing end-user service applications (such as messaging and
Internet access) and incorporate the related software into
server card modules that fit into slots in the
Platform1(TM)chassis. This allows companies to add current and
future service applications without the need for traditional
bulky and expensive, dedicated server equipment.
Platform1(TM)service modules are "hot swappable", allowing
upgrades and expansion in a live environment. In order to
leverage its existing network service customer base, the
Company's initial modules are for one-way data and voice
messaging and email notification. The Company expects to begin
shipments of these modules to customers in the second quarter
of 2000. Additional planned modules in development include,
but may not be limited to, Internet service; voice over IP
(Internet Protocol) applications; and bundling of value-added
services with local telephone access. Future modules may
include two-way messaging applications, conversational
wireless applications (such as personal communications
services or "PCS"), and private networking solutions (such as
Intranets.)
Features of Platform1(TM)
- IP Data Transport of Wireless Applications. By
distributing both switching and server functions into
local POPs, the subscriber service processing can
occur locally at the telephone access point.
Messaging data can then be transported back to a
company's central location via the Internet. This
effectively allows a company to eliminate its
traditional wide area network of leased line
circuits.
- Intelligent Switching. The patented call algorithm
utilizes state-of-the-art digital signal processors
(DSPs) that "remember" the assigned port for each
number, which increases the speed of processing each
time the call comes through.
- Number Translation. The patented call routing
function provides real-time "10-by-10" and "10-by-7"
number translation, meaning any 10 numbers coming in
can be replaced by any ten or seven numbers going
out. This allows companies to control the relocation
of individual telephone numbers rather than being
dependent upon the local exchange carrier for
reallocation. The Company also believes this
capability will enable operators to efficiently
migrate toward subscriber number portability, as this
becomes a required consumer option.
iTerminal(TM) Products
- The iTerminal(TM)incorporates certain features of the
Platform1(TM)into a standard desktop computer chassis. The
iTerminal(TM)is the Company's first such product that bundles
a suite of server applications into a desktop unit. This
product is targeted toward the Company's network services
customer base and incorporates paging, voice mail and email
notification into a user friendly, PC-based product. A company
can locate an iTerminal(TM)in most standard business offices
and transport subscriber traffic to a network carrier, such as
the Company, via the Internet. The Company shipped the first
beta units of its iTerminal(TM)product in late 1999 and began
shipments of commercial products to customers in the first
quarter of 2000.
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Potential Future Products
The Company has developed several other networking technologies,
including a router that enhances network control and a remote wireless
transmission network diagnostic tool. Certain of these technologies are
presently in beta deployment and the Company is exploring commercialization of
related products.
CUSTOMERS
Network Services
The Company markets its one-way wireless messaging network services to
carriers, resellers and agents. The Company does not market paging services
directly to end-users and therefore does not compete with its customers for
subscribers. The Company offers unique "Direct Access" options to its customers
that enable carriers and resellers to directly connect their own terminal
switching equipment with the Company's networks in order to purchase network
services from the Company on an as-needed basis.
The Company groups its network customers into three principal
categories:
- Traditional, or non-facilities-based, "resellers" that
purchase both airtime and switching services from the Company
on a fixed monthly per unit basis.
- "Direct Access" customers that utilize their own switching
equipment and purchase only airtime from the Company on a
fixed monthly per unit basis.
- Companies that utilize both switching and airtime services of
the Company to provide "Caller Pays" service, pursuant to
which the initiator of each page (the "caller") is charged on
their telephone bill and the local telephone exchange carrier
in turn pays the Company a percentage of the amount collected
for the actual number of billable pages per month from the
caller, rather than a fixed monthly charge.
The Company believes its Direct Access program is unique, because most
carriers have branding conflicts with their resellers and do not encourage them
to become switch-based. Direct Access customers benefit because they control
their own telephone numbers, allowing them to sell value-added services and to
bundle offerings. The Company has consistently experienced higher than the
average industry growth rates in service units from its Direct Access customer
base. Historically, however, becoming a Direct Access customer was cost
prohibitive for many resellers, due to the initial capital investment in
sophisticated equipment and the ongoing monthly expense of dedicated lease line
circuits to transport data from the customer's POP to the Company's networks.
The Company's iTerminal(TM) product reduces market entry costs by unifying
paging, voicemail and email notification in a single desktop unit and by
utilizing the Internet to transport traffic to the Company's networks. The
Company has begun to market iTerminal(TM)s to resellers and carriers and
believes this product has the potential to expand the Company's Direct Access
customer base.
Networking Products
The potential market for the Company's networking products includes any
type of company that utilizes telephony to transmit data (wired or wireless)
when speed, flexibility and cost reduction are key requirements. The Company's
initial products are targeted toward companies similar to those that purchase
network services from the Company, including companies that sell, among other
things, one-way wireless messaging services. The Company expects to launch
several Internet service modules during 2000, which will be targeted toward
Internet service providers ("ISPs"), expanding the Company's marketing to this
segment. As additional modules are introduced in the future, the Company intends
to expand its addressable market to include competitive local exchange carriers
("CLECs"), two-way wireless data and voice carriers, and private networking
companies. The Company believes its networking products will be attractive to
these additional customer segments because these companies can achieve cost
reductions and efficiently expand their service offerings and POPs.
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SALES AND MARKETING
Because the Company does not market any of its products and services
directly to end users, it provides selling, marketing and customer service to
businesses, rather than directly to its customers' many subscribers. Therefore
the Company has relatively fewer sales, marketing and customer service personnel
than a direct marketing company. The Company markets its network services
through field sales personnel located in its TCC cities and through
telemarketing activities. The Company's initial sales efforts related to its
networking products are being conducted by its network sales organization and
are targeted toward the Company's existing customer base as well as similar
companies with which the Company had not historically conducted business. The
Company may add sales people in the future who will be dedicated to selling
networking products to businesses.
OPERATIONS
NETWORK DESIGN AND OPERATIONS
The Company controls its local and regional networks from TCCs located
centrally within wide geographic regions. 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 is
connected to remote POPs, located in other cities, which house local telephone
lines, power back-ups and alarm systems. Each POP is connected to a TCC via a
dedicated leased line ("T-1") circuit that transports local paging traffic from
the POP city to the TCC for central processing. The T-1 lines enable TCCs to
process telephone numbers that are local to the POP city.
In 1997, the Company installed its first prototype network switching
technology in its Midwest region, which allowed the Company to reduce the number
of T-1s required for switching in that facility. The Company intends to deploy
Platform1(TM)s and iTerminal(TM)s throughout the remainder of its own network
markets during 2000, which will allow the Company to transport its messaging
traffic from its POP cities over the Internet. The Company expects this
deployment will allow the elimination of the majority of its T-1 wide area
network and will reduce its facilities maintenance and engineering requirements.
By distributing network switching into POPs, the Company expects to
significantly reduce its network operating costs.
NETWORKING PRODUCTS
The Company outsources all manufacturing and component assembly for its
networking products to a variety of third party manufacturers. Components and
parts used in the Company's networking products are standard and include, among
other things, digital signal processors, single board computers, and
programmable logic devices. Functions performed in-house by the Company occur in
the Company's Atlanta, Georgia headquarters TCC and include design, the
installation of software, and quality control and quality assurance testing. The
Company's present facilities combined with its relationships with third-party
manufacturers are believed to be adequate for its current needs.
RESEARCH AND DEVELOPMENT
The Company is engaged in ongoing research and development efforts to
remain at the forefront of advanced networking technology. The Company
recognizes that there are many companies with more substantial resources than
the Company that are engaged in similar research and development activities in
order to provide networking solutions. The Company believes that its extensive
expertise as a network operator has allowed it to anticipate market needs and be
first to market with the solutions embodied in its initial products. The Company
is committed to continuing to enhance its existing technologies and to
developing additional applications to expand its customer marketplace. Further,
the Company believes that its size has allowed a close relationship between its
research and development professionals, its product development personnel and
its field sales organization, thereby enabling the Company to react quickly to
market needs.
The majority of the Company's research and development staff consists
of engineers or computer science professionals.
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DEPENDENCE ON NEW PRODUCT DEVELOPMENT
The market for the Company's networking products are characterized by
rapidly changing technology, evolving industry standards, frequent new product
introductions and evolving methods of building and operating communications
systems. The Company's operating results will depend to a significant extent on
its ability to continue to introduce and market new systems, products, and
software successfully on a timely basis and to reduce costs of existing systems,
products, software and services. The success of these and other new offerings is
dependent on several factors, including cost, timely completion and
introduction, identification of customer needs, differentiation from offerings
of the Company's competitors and market acceptance. In addition, new
technological innovations generally require a substantial investment before any
assurance is available as to their commercial viability, including, in certain
cases, certification by non-U.S. and U.S. standard-setting bodies.
The Company was issued a U.S. patent for the "Intelligent, High Speed
Switching Matrix" on September 14, 1999 which will provide certain protection
for the routing algorithm utilized in the Company's Platform1(TM) and
iTerminal(TM) networking products. This patented technology may be utilized in
additional networking products. The issue date for this patent was September 14,
1999 and the invention will be protected for a period of twenty (20) years from
the date that the earliest application was filed, or through August 26, 2017. In
addition, the Company intends to pursue the patentability of other technologies
relating to its development of networking products and applications.
COMPETITION
The wireless industry is highly competitive and has few barriers to
entry. In the case of network services, companies generally compete on the basis
of price, and quality, and in the case of network services, on the basis of
coverage area, speed of transmission, system reliability and service. Increased
competition has forced wireless carriers and resellers to lower their prices,
with monthly average revenue per unit ("ARPU") for one-way paging services
declining, while at the same time, competition has caused high subscriber
turnover. The Company believes that ARPU will remain low while competition will
continue to increase, requiring distribution channels to focus on cost reduction
and increased marketing of value-added products and services in order to achieve
increased cash flow per subscriber. Several companies offer national messaging
services to their subscribers. By contrast, the Company markets network services
primarily on a local or regional level in the Eastern United States. In
addition, the United States Congress and the Federal Communications Commission
(the "FCC") have authorized the use of newly allocated spectrum for mobile and
portable radio communications services, including specifically for narrowband
PCS. Some of the primary uses envisioned by narrowband PCS licensees are
advanced voice messaging and two-way acknowledgment paging. It is expected that
companies offering narrowband advanced messaging will compete with one-way
messaging companies.
The Company's competitors in the networking products industry range
from large telecommunications equipment companies to small companies focused on
certain niche markets. Many of these competitors have significantly greater
resources than the Company, and there can be no assurances that the Company will
be able to compete successfully in the networking products marketplace. In
addition, certain telecommunications equipment manufacturers with significantly
greater resources than the Company could attempt to enter the markets served by
the Company's initial products and compete with the Company for its current
markets.
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. 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.
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I. LICENSING
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 on a shared,
non-exclusive basis. Under the PCP regulatory approach several 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. Traditionally,
under this type of shared frequency usage, FCC licenses were obtained relatively
easily for minimal frequency coordination and FCC filing fees.
The Company has more than 200 licenses to build and operate high power
PCP 157.740 MHz frequency networks, in 28 markets in the Northeast,
Mid-Atlantic, Southeast, North Central, and Midwest regions. In addition, the
Company has 5 FCC licenses to operate the following PCP paging systems: 1) a
462.825 MHz network in the Atlanta metropolitan area, and 2) a 462.75 MHz
network in the Augusta, Georgia metropolitan area. Finally, the Company has 15
FCC licenses to operate the following exclusive RCC paging systems: 1) a 158.10
MHz network in and around Jacksonville, Florida; 2) a 152.60 MHz network in the
New York metropolitan area; 3) a 152.84 MHz network in the Atlanta metropolitan
area; 4) a 454.475 MHz network in and around Albany, New York; and 5) a 931.2625
MHz network in the Orlando, Florida metropolitan area; and 6) a 931.3125 MHz
network in the New York metropolitan area. 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. The Company's FCC licenses are
issued to its wholly owned subsidiary, PNI Spectrum, LLC.
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"). The FCC subsequently classified both RCC and PCP
services as CMRS. All of the Company's 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 files
the required CMRS Licensee Qualification Report and Employment Report with the
Commission annually and pays the annually assessed CMRS and Satellite regulatory
fees. 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.
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
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"Application Freeze"). Under this initial order, as of February 8, 1996, the FCC
would not accept new applications for non-exclusive PCP channels.
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. As a result of
the NPRM and the subsequent actions of the FCC noted above, the Company
determined to concentrate on filling out its facilities in markets in which it
was currently established and to selectively expand into new market areas as
customers may require and as capital becomes available.
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.
In a Third Report and Order (the "Paging Third Report and Order") released May
24, 1999, the Commission determined to continue the existing licensing procedure
for the non-exclusive PCP channels.
In the Paging Second Report and Order, the Commission also determined
to process all non-mutually exclusive applications filed on or before July 31,
1996. All pending mutually exclusive applications, however, regardless of when
filed were to be dismissed. On December 14, 1998, the Commission notified the
Company that 13 of its pending applications for expansion of its paging systems
were dismissed due to mutual exclusivity. This included eight 931.2625 MHz
applications for 11 sites in its Orlando, Florida paging system, four 931.3125
MHz applications for its New York paging system, and one application for its
158.10 MHz Jacksonville, Florida paging system. The Paging Second Report and
Order also provided that the Commission would accept applications from new
applicants for private, internal-use systems on the non-exclusive PCP channels,
including the 157.74 MHz frequency. The Company is now able to file applications
for new sites on its 157 MHz and 462 MHz PCP paging systems 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. The
Company, therefore, is not required to participate in a competitive bidding
process to expand its 157 MHz and 462 MHz paging systems.
The Commission, however, adopted a geographic licensing scheme and
implemented a competitive bidding process for the exclusive RCC and PCP
channels, including the Company's 931 MHz paging 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"). The Paging Third
Report and Order, modified the licensing areas, and based them on Department of
Commerce Major Economic Areas. 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 the service areas for
its exclusive 931 MHz systems or its 152 MHz and 454 MHz RCC systems unless it
participates in a competitive bidding process or it can reach an agreement with
the applicable geographic licensee. In the Paging Third Report and Order, the
FCC determined to permit a geographic licensee to either disaggregate 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 permits the Company to
acquire licensing rights to expand its current exclusive RCC frequencies through
agreement with a geographic licensee without requiring participation in a
competitive bidding process.
10
<PAGE> 11
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.
II. RESALE AND INTERCONNECTION
The FCC also has other various ongoing rulemaking proceedings that may
affect the Company. These include proceedings involving resale and
interconnections obligations in a competitive paging marketplace and universal
service obligations.
On July 15, 1993, the Commission adopted rules that require all
providers of interstate telecommunications services to contribute to the
provision of Telecommunications Relay Service (TRS) based on their proportionate
share of gross interstate revenues. The Company files the required TRS Worksheet
and pays the calculated fees annually.
On June 12, 1996, the Commission adopted a First Report and Order that
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.
EMPLOYEES
On December 31, 1999, the Company had 52 employees; 15 in
administration, 10 in marketing and sales, 20 in network services engineering
operations and 7 in networking products research and development. The Company's
employees are not unionized, and the Company believes that its relations with
its employees are good.
FORWARD LOOKING STATEMENTS
This report contains statements which, to the extent they are not
recitations of historical fact, may constitute "forward-looking statements."
These statements are subject to risks and uncertainties which could cause actual
results to differ materially from those anticipated. See the fuller discussion
of these statements under the heading "Forward-Looking Statements", which is
included in Item 7 of this report.
ITEM 2. PROPERTIES
The Company leases a total of approximately 33,000 square feet of office
space in two different locations, including Norcross, Georgia, and Syosset, New
York. The Company also currently leases a total of approximately 29,000 square
feet at five different locations for its TCCs. The Company has approximately 470
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
expire at various dates from 1999 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 a party
to any material legal proceedings.
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 1999.
11
<PAGE> 12
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
MARKET AND DIVIDEND INFORMATION
Beginning March 1, 1996, and continuing through March 22, 1999, the
Company's Common Stock traded on the Nasdaq Stock Market's National Market under
the symbol "PFNT." The Company's Common Stock was delisted from the Nasdaq Stock
Market's National Market effective as of the close of business on March 22,
1999. Since March 23, 1999, the Company's Common Stock has been traded on the
Over The Counter Bulletin Board under the symbol "PFNT." Prior to March 1, 1996,
there was no established public trading market for the Common Stock.
Set forth below are the high and low sales prices for the shares of the
Company's Common Stock for each quarterly period in 1998 and 1999.
<TABLE>
<CAPTION>
1998 1999
---- ----
QUARTER ENDED HIGH LOW HIGH LOW
- ------------- ----- ----- ----- -----
<S> <C> <C> <C> <C>
March 31.................................................. $2.25 $1.38 $1.69 $0.09
June 30................................................... 1.88 1.00 0.56 0.06
September 30.............................................. 1.50 0.69 0.28 0.13
December 31............................................... 0.88 0.25 0.38 0.09
</TABLE>
On March 24, 2000 there were approximately 1,332 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 intends to retain all working capital and earnings, if any,
to 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, prohibit the payment of dividends.
RECENT SALES OF UNREGISTERED SECURITIES
The were no sales of unregistered securities in 1999.
12
<PAGE> 13
ITEM 6. SELECTED FINANCIAL DATA
The following selected financial and operating data as of and for each
of the five years in the period ended December 31, 1999 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,
---------------------------------------------------------------
1995 1996 1997 1998 1999
---------------------------------------------------------------
(IN THOUSANDS, EXCEPT PER SHARE AND UNIT DATA)
<S> <C> <C> <C> <C> <C>
STATEMENT OF OPERATIONS DATA:
Revenues
Network services ........................................... $ 3,549 $ 6,121 $ 12,456 $ 13,204 $ 12,841
Pager sales ................................................ 3,651 5,279 5,458 6,172 3,999
Other services ............................................. 153 334 -- 191 193
---------------------------------------------------------------
Total revenues ......................................... 7,353 11,734 17,914 19,567 17,033
---------------------------------------------------------------
Cost of revenues
Network services ........................................... 1,768 4,621 8,379 8,612 8,284
Pager sales ................................................ 4,558 7,830 8,603 6,246 3,777
Other services ............................................. -- 12 -- -- 10
---------------------------------------------------------------
Total cost of revenues ................................. 6,326 12,463 16,982 14,858 12,071
---------------------------------------------------------------
Gross margin .................................................. 1,027 (729) 932 4,709 4,962
Selling, general and administrative expenses .................. 3,180 7,959 12,001 9,818 8,429
Other ......................................................... -- -- 278 -- 14
Depreciation and amortization ................................. 764 2,428 6,214 6,095 5,204
Impairment loss(1) ............................................ -- -- -- -- 1,340
---------------------------------------------------------------
Operating loss ......................................... (2,917) (11,116) (17,559) (11,204) (10,025)
Interest expense .............................................. (317) (235) (1,241) (2,010) (1,811)
Interest income ............................................... 364 1,121 455 351 173
Gain/(loss) on asset disposal ................................. -- -- -- -- (5)
---------------------------------------------------------------
Loss from continuing operations before income taxes and
cumulative effect of change in accounting principle ......... (2,870) (10,231) (18,345) (12,863) (11,668)
Income tax benefit ............................................ -- -- -- -- 4,000
---------------------------------------------------------------
Net loss from continuing operations before cumulative effect of
change in accounting principle .............................. (2,870) (10,231) (18,345) (12,863) (7,668)
Discontinued operations:
Net income/(loss) from discontinued operations, net of
income tax .............................................. -- 31 (806) (2,328) (153)
Gain on sales of subsidiaries, net of income tax .......... -- -- -- -- 4,013
---------------------------------------------------------------
Net income from discontinued operations ................... -- -- (806) (2,328) 3,860
Cumulative effect of change in accounting principle ........... -- -- -- -- (1,209)
---------------------------------------------------------------
Net loss .............................................. (2,870) (10,199) (19,152) (15,192) (5,017)
===============================================================
Net loss attributable to Common Stock ................. $(7,228) $(11,674) $(20,206) $(18,220) $ (8,479)
===============================================================
Net income/(loss) per share of Common Stock from(2):
Continuing operations before cumulative effect
of change in accounting principle ................... $ (1.75) $ (0.91) $ (1.21) $ (0.98) $ (0.68)
Discontinued operations, net of income tax ............ -- $ 0.0 $ (0.05) $ (0.14) $ 0.23
Cumulative effect of change in accounting principle ... -- -- -- -- $ (0.07)
Net loss per share of Common Stock ............................ $ (1.75) $ (0.91) $ (1.26) $ (1.12) $ (0.52)
Weighted average number of common shares used in
calculating net loss per share of Common Stock .............. 4,138 12,815 16,060 16,258 16,362
Pro forma net loss assuming accounting principle is
applied retroactively ....................................... $(3,133) $(12,197) $(19,674) $(14,984) $ (3,184)
Pro forma net loss attributable to Common Stock assuming
change in accounting principle is applied retroactively ..... $(7,492) $(13,671) $(20,729) $(18,012) $ (6,647)
Pro forma net loss per share .................................. $ (1.81) $ (1.07) $ (1.29) $ (1.11) $ (0.41)
EBITDA(3) ..................................................... $(2,153) $ (8,688) $(11,346) $ (5,109) $ (3,481)
Capital expenditures (including network asset purchases) ...... $ 4,226 $ 16,495 $ 19,214 $ 1,431 $ 467
</TABLE>
13
<PAGE> 14
<TABLE>
<CAPTION>
DECEMBER 31,
----------------------------------------------------------
1995 1996 1997 1998 1999
-------- -------- -------- -------- --------
(IN THOUSANDS)
<S> <C> <C> <C> <C> <C>
BALANCE SHEET DATA:
Current assets ............................. $ 11,757 $ 30,725 $ 14,748 $ 14,659 $ 9,034
Property and equipment, net ................ 6,885 21,559 25,569 21,556 14,926
Total assets ............................... 20,046 66,125 66,233 60,032 39,143
Notes payable, including current portion ... 5,413 17,025 19,782 19,033 6,069
Redeemable preferred stock ................. 21,659 -- 13,956 23,968 27,431
Stockholders' equity (deficit) ............. (7,806) 40,583 27,773 10,556 2,101
</TABLE>
(1) At December 31, 1999, an impairment loss of $1.3 million was charged to
operations as a write down of the assets recorded by the Company for its
previously planned network expansion.
(2) All net loss per share amounts were computed using the requirements of
Statement of Financial Accounting Standards No. 128, Earnings per Share,
and SEC Staff Accounting Bulletin No. 98. Basic and diluted amounts are
identical. See note 1 to the consolidated financial statements included in
Item 8, "Financial Statements and Supplementary Data".
(3) "EBITDA" represents earnings from continuing operations before impairment
loss, 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 was founded in 1991 to provide unbranded, wholesale one-way
wireless messaging network services to companies for resale to their customers.
In pursuing this strategy, the Company developed a number of advanced networking
technologies aimed at increasing its efficiency as a network operator. During
1999, the Company completed development of its intelligent, high-speed switching
technology and began to commercialize related products for sale to other
companies. This technology creates networking solutions that provide companies
with greater processing efficiencies, cost savings, and an open platform to
bring them closer to their customers through unified service offerings. In early
2000, the Company began to ship its first software enhanced networking products
and is developing a number of additional hardware, software and service
offerings to address each of the wireless, fixed network and Internet
marketplaces. With the introduction of its networking products, the Company is
augmenting its one-way wireless network services and is evolving into a
developer and supplier of advanced communications hardware and software
products.
Beginning in 1996 and continuing for the majority of 1999, the Company
was also a provider of pager and cellular repair services and of network
engineering services. During 1999, concurrent with the completion of development
of the Company's intelligent, high-speed switching technology, the Company
divested of its wholly owned subsidiaries through which it provided these
additional services. The closing of these transactions allowed the Company to
focus exclusively on its network-related business, including the development and
marketing of its networking products. In May 1999, the Company sold its
engineering services business, Preferred Technical Services, Inc. ("PTS"), which
it had acquired in July 1996. In December 1999, the Company sold its pager and
cellular repair business, EPS Wireless, Inc. ("EPS"), which it had acquired in
December 1996.
During the past several years, the Company has undertaken certain
initiatives to gain greater operating efficiencies and to reduce its overall
operating costs. The Company intends to continue to pursue strategies to
rationalize its network services business, which will include both marketing
initiatives to increase related revenues, as well as further cost reduction
efforts. These cost reduction efforts will include, among other things, the
internal deployment of the Company's networking technologies in order to achieve
operating cost reductions, and may also include the sales of certain network
assets that do not contribute to profitability. The Company is at an early stage
of development of its networking products business.
14
<PAGE> 15
Substantially all of its revenues are currently derived from its network
services business. Results of operations from EPS and PTS are presented as
discontinued operations and all prior periods have been restated accordingly.
Other than with respect to those results reported as discontinued operations,
management's discussion and analysis of financial condition and results from
operations reflects only continuing operations.
During the years ended December 31, 1997, 1998 and 1999, no customer of
the Company provided greater than 10% of its revenues.
RESULTS OF OPERATIONS
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, 1997, 1998 and 1999, as a percentage of total revenues.
<TABLE>
<CAPTION>
YEAR ENDED DECEMBER 31,
------------------------------------------
1997 1998 1999
<S> <C> <C> <C>
Revenues
Network services ....................................... 69.5% 67.5% 75.4%
Pager sales ............................................ 30.5 31.5 23.5
Other services ......................................... -- 1.0 1.1
------------------------------------------
Total revenues ..................................... 100.0 100.0 100.0
------------------------------------------
Cost of revenues
Network services ....................................... 46.8 44.0 48.6
Pager sales ............................................ 48.0 31.9 22.2
Other services ......................................... -- -- 0.1
------------------------------------------
Total cost of revenues ............................. 94.8 75.9 70.9
------------------------------------------
Gross margin .............................................. 5.2 24.1 29.1
Selling, general and administrative expenses .............. 67.0 50.2 49.5
Other expenses ............................................ 1.6 -- 0.1
Depreciation and amortization ............................. 34.6 31.1 30.6
Impairment loss ........................................... -- -- 7.8
------------------------------------------
Operating loss ..................................... (98.0) (57.3) (58.9)
Interest expense .......................................... (6.9) (10.3) (10.6)
Interest income ........................................... 2.5 1.8 1.0
Gain/(loss) on asset disposal ............................. -- -- --
Loss from continuing operations before income taxes and
cumulative effect of change in accounting principle ..... (102.4) (65.7) (68.5)
Income tax benefit ........................................ -- -- 23.5
------------------------------------------
Net loss from continuing operations before income taxes and
cumulative effect of change in accounting principle ..... (102.4) (65.7) (45.0)
Discontinued operations
Income/(loss) from operations, net of income tax ..... (4.5) (11.9) (0.9)
Gain on sales of subsidiaries, net of income tax ..... -- -- 23.6
------------------------------------------
Net income/(loss) from discontinued operations ....... (4.5) (11.9) 22.7
Cumulative effect of change in accounting principle ....... -- -- (7.1)
Net loss ........................................... (106.9)% (77.6)% (29.5)%
==========================================
EBITDA .................................................... (63.3)% (26.1)% (20.4)%
</TABLE>
YEAR ENDED DECEMBER 31, 1999 COMPARED TO YEAR ENDED DECEMBER 31, 1998
Revenues
Total revenues decreased by $2.5 million, or 13.0%, to $17.0 million
for the year ended December 31, 1999 from $19.6 million for the year ended
December 31, 1998, due primarily to decreased pager sales resulting from a
limited amount of working capital available to the Company to purchase pagers in
1999 for resale to its customers, as further discussed in "Liquidity and Capital
Resources".
Revenues from network services decreased by $363,000, or 2.7%, to $12.8
million for the year ended December 31, 1999 from $13.2 million for the year
ended December 31, 1998. The Company's airtime revenues were affected by its
reduced pager purchases in 1999, particularly with respect to the Company's
reseller customers, which typically rely on the Company for pager supply in
order to add service units to the Company's networks. Conversely, the Company's
Direct
15
<PAGE> 16
Access customers typically are larger companies and have alternative sources of
pager supply. Accordingly, while total units in service remained relatively
constant at December 31, 1999 (525,622) compared to the prior year (525,274),
this reflected an increase of 22.5% in Direct Access units in service and a
13.6% decrease in reseller units in service. Because Direct Access customers
supply their own switching, the Company incurs less marginal cost in supplying
only airtime, and therefore charges these customers less per unit in service per
month than it charges its reseller customers. Accordingly, the increase in
Direct Access customers as a percentage of total units in service resulted in a
10.8 % decline in total average revenue per unit ("ARPU") to $1.99 at December
31, 1999.
Revenues from pager sales decreased by $2.2 million, or 35.2%, to $4.0
million for the year ended December 31, 1999 from $6.2 million for the year
ended December 31, 1998. The decrease in revenues from pager sales resulted from
a limited amount of working capital available to the Company to purchase pagers
in 1999 as discussed above.
Following completion of the sales of PTS and EPS, management believes
the Company currently has sufficient working capital to increase its purchases
of pagers, which management further believes will have a positive effect on
re-establishing total net unit growth and associated revenues. Further,
management does not expect the sales of PTS and EPS to have a material affect on
the future revenues of its continuing operations.
Cost of Revenues
Cost of network services decreased by $328,000, or 3.8%, to $8.3
million for the year ended December 31, 1999 from $8.6 million for the year
ended December 31, 1998 and decreased as a percentage of network services
revenue to 64.5% for the year ended December 31, 1999 from 65.2% for the year
ended December 31, 1998. The decrease in cost of network services is due to
continued initiatives to reduce operating costs. In particular, the Company
intends to deploy its networking products throughout its own network markets in
2000, which should result in the elimination of leased line telephone circuits
and a significant reduction of network operating costs.
Cost of pager sales decreased by $2.5 million, or 39.5%, to $3.8
million for the year ended December 31, 1999 from $6.2 million for the year
ended December 31, 1998, due primarily to the decrease in pager revenue. Cost of
pager sales as a percentage of pager sales decreased to 94.4% for the year ended
December 31, 1999 from 101% for the year ended December 31, 1998, due primarily
to the decreasing cost to the Company of purchasing pagers for resale to its
network 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 1997. However,
beginning in mid-1997, the Company undertook initiatives to eliminate its pager
discounting programs, resulting in a profit from such sales in 1999.
Overhead
S,G&A decreased by $1.4 million, or 14.1%, to $8.4 million for the year
ended December 31, 1999 from $9.8 million for the year ended December 31, 1998,
and decreased as a percentage of total revenues to 49.5% for the year ended
December 31, 1999 from 50.2% for the year ended December 31, 1998. The decreases
in S,G&A were due to certain cost reduction measures during the third quarter of
1999 through employee terminations and due to the increased efficiencies the
Company has experienced in supporting a greater service unit mix among Direct
Access customers, which tend to add a greater number of service units to the
Company's networks, and accordingly, require less customer support. Further,
management does not expect the sales of PTS and EPS to have a material affect on
the future overhead expenses of its continuing operations.
Depreciation and amortization decreased by $891,000, or 14.6%, to $5.2
million for the year ended December 31, 1999 from $6.1 million for the year
ended December 31, 1998. Depreciation and amortization decreased as a percentage
of total revenues to 30.6% for the year ended December 31, 1999 from 31.1% for
the year ended December 31, 1998. The decrease is due to the lesser amount of
equipment purchased or placed in service during 1998 compared to prior years
combined with certain equipment becoming fully depreciated and certain market
start-up costs no longer being amortized in 1999.
Interest expense decreased by $199,000, or 9.9%, to $1.8 million for
the year ended December 31, 1999 from $2.0 million for the year ended December
31, 1998. The decrease in 1999 is the result of reductions in total debt
outstanding during 1999.
Net loss from continuing operations before impairment loss and
cumulative effect of change in accounting principle
16
<PAGE> 17
for the year ended December 31, 1999 decreased to $10.3 million compared to
$12.9 million for the year ended December 31, 1998. The decreased losses are due
to increases in gross profit and decreases in SG&A, as described above. At
December 31, 1999, an impairment loss of $1.3 million was charged to operations
as a write down of the assets recorded by the Company for its previously planned
network expansion. There was no impairment loss for the year ended December 31,
1998. The cumulative effect of change in accounting principle for the year ended
December 31, 1999 resulting from the write-off of market start-up costs as
required by SOP 98-5 was $1.2 million, net of a tax benefit of $623,000, and $0
for the year ended December 31, 1998. The Company also recorded a $4.0 million
income tax benefit from the sale of PTS and EPS.
The net operating loss from discontinued operations, net of tax, for
the year ended December 31, 1999 was $153,000 compared to net loss of $2.3
million for the year ended December 31, 1998. The gain on the sales of PTS and
EPS, net of income taxes of $5.1 million, for the year ended December 31, 1999
was $4.0 million.
The net loss attributable to Common Stock for the year ended December
31, 1999 decreased to $8.5 million from $18.2 million for the year ended
December 31, 1998. The net loss attributable to Common Stock for 1999 decreased
due to decreased operating losses and the gain on the sales of PTS and EPS. This
decrease was partially offset for the year by the impairment loss and cumulative
effect of adopting the new accounting principle for market entry costs.
YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997
Revenues
Total revenues increased by $1.7 million, or 9.2%, to $19.6 million for
the year ended December 31, 1998 from $17.9 million for the year ended December
31, 1997.
Revenues from network services increased by $748,000, or 6.0%, to $13.2
million for the year ended December 31, 1998 from $12.5 million for the year
ended December 31, 1997. Total units in service increased by 70,479, or 15.5%,
to 525,274 from 454,795 over the prior year. ARPU decreased by 10.5% to $2.23 at
December 31, 1998, due primarily to increases in units in service from Direct
Access customers as a percentage of total units in service. In mid-1997, the
Company instituted certain initiatives that included an emphasis on marketing to
Direct Access customers rather than traditional resellers and efforts to
eliminate the product discounting programs that many companies in the industry
employed to attract reseller units to their networks. Because Direct Access
customers supply their own switching, the Company incurs less marginal cost in
supplying only airtime, and therefore charges these customers less per unit in
service per month than it charges its reseller customers.
Revenues from pager sales increased by $714,000, or 13.1%, to $6.2
million for the year ended December 31, 1998 from $5.5 million for the year
ended December 31, 1997. The increase in revenues from pager sales resulted from
growth in sales of new pagers sold to network 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 1997. However, in mid-1997, the Company undertook
initiatives to eliminate its pager discounting programs, resulting in decreased
losses in 1998.
Cost of Revenues
Cost of network services increased by $233,000, or 2.8%, to $8.6
million for the year ended December 31, 1998 from $8.4 million for the year
ended December 31, 1997, but decreased as a percentage of network services
revenue to 65.2% for the year ended December 31, 1998 from 67.3% for the year
ended December 31, 1997. As markets generated increased revenue, the decrease in
costs as a percentage of revenue resulted from the fixed nature of many of these
expenses.
Cost of pager sales decreased by $2.4 million, or 27.4%, to $6.2
million for the year ended December 31, 1998 from $8.6 million for the year
ended December 31, 1997. Cost of pager sales as a percentage of pager sales
decreased to 101% for the year ended December 31, 1998 from 158% for the year
ended December 31, 1997 due primarily to the decreasing cost to the Company of
purchasing pagers for resale to its network customers.
Overhead
S,G&A decreased by $2.2 million, or 18.2%, to $9.8 million for the year
ended December 31, 1998 from $12.0 million for the year ended December 31, 1997,
and decreased as a percentage of total revenues to 50.2% for the year ended
December 31, 1998 from 67.0% for the year ended December 31, 1997. The decreases
in S,G&A were due to certain cost
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<PAGE> 18
reduction measures during the second quarter of 1997 through employee
terminations and due to the increased efficiencies the Company has experienced
in supporting large customers.
Depreciation and amortization decreased by $119,000, or 1.9%, to $6.1
million for the year ended December 31, 1998 from $6.2 million for the year
ended December 31, 1997. Depreciation and amortization decreased as a percentage
of total revenues to 31.1% for the year ended December 31, 1998 from 34.6% for
the year ended December 31, 1997. The decrease is due to the lesser amount of
equipment purchased or placed in service during 1998 compared to prior years
combined with certain equipment becoming fully depreciated and certain market
start-up costs becoming fully amortized during the year.
Interest expense, net of capitalized amounts, increased by $769,000, or
61.9%, to $2.0 million for the year ended December 31, 1998 from $1.2 million
for the year ended December 31, 1997. The increase in 1998 is the result of the
absence of interest capitalization due to the lack of construction related
activities in 1998.
Net loss from continuing operations for the year ended December 31,
1998 decreased $5.4 million to $12.9 million compared to $18.3 million for the
year ended December 31, 1997, due to the factors stated above.
The net loss from discontinued operations for the year ended December
31, 1998 was $2.3 million, compared to net loss of $806,000 for the year ended
December 31, 1997.
The net loss attributable to Common Stock for the year ended December
31, 1998 decreased to $18.2 million from $20.2 million for the year ended
December 31, 1997, The net loss attributable to common stock decreased due to
the decreased net loss, offset in part by higher accretion and higher dividends
on the Class A and Class B Preferred Stock due to both classes being outstanding
for most of 1998, whereas 1997 includes only nine months of Class A related
charges.
LIQUIDITY AND CAPITAL RESOURCES
Summary of 1999 Events
The Company began 1999 with a limited amount of working capital and a
significant current portion of long-term debt, due primarily to non-compliance
with certain of the financial covenants under its senior credit facility. During
1999, the Company corrected this default and repaid the majority of its senior
debt. The Company completed a number of transactions in 1999, which led to a
substantial strengthening of its financial condition. These events are
summarized as follows:
- On May 28, 1999, the Company completed the sale of PTS and
received approximately $4.5 million, consisting of $3.5
million in cash (less holdbacks) and a $1 million credit for
maintenance services to be provided by PTS for the Company on
its paging networks.
- On December 10, 1999, the Company completed the sale of EPS
and received $14.9 million in cash (less holdbacks.) The
Company used approximately $10.9 million of the cash proceeds
from the sales of PTS and EPS to reduce its outstanding notes
payable, which in combination with other payments during the
year, resulted in a total net reduction of $12.5 million in
total debt outstanding at December 31, 1999.
- In December 1999, the Company renewed its senior revolving
credit facility, which provides up to $2.0 million of working
capital financing and which matures at March 31, 2001.
Management believes that cash and cash equivalents on hand, together
with its senior revolving credit facility described above, will be sufficient to
meet the Company's working capital, capital expenditure and debt covenant
requirements for the foreseeable future without requiring additional financing.
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<PAGE> 19
Background
From 1995 to 1997, the Company's operating expenses and capital
expenditures increased as it pursued its initial strategy of a nationwide
expansion of one-way wireless messaging networks, which required upfront capital
investment for the installation of transmission equipment and network
facilities. In mid-1997, the public market for paging companies fell under
tremendous pressure and capital became unavailable for many companies that were
similarly pursuing network expansion strategies. In response, the Company halted
its nationwide expansion of networks and instituted initiatives aimed at
increasing profitability in its existing network markets and reducing its
overhead expenses. These initiatives included an emphasis on marketing to Direct
Access customers rather than to traditional resellers and efforts to eliminate
the product discounting programs that many companies in the industry employed to
attract reseller units to their networks. The Company also took deliberate steps
to discontinue serving customers that were not profitable relationships for the
Company. As a result of these initiatives, during 1998 and 1999, the Company
significantly reduced its operating expenses, resulting in reduced net losses,
improving cash flows from operations and reduced capital expenditures.
In pursuing its cost reduction initiatives, the Company developed its
advanced networking technologies in order to increase its efficiency as a
network operator. The Company's planned deployment of its networking products
throughout its network POPs during 2000 is expected to enable a further
reduction in monthly operating cash requirements. In addition, because the
Company's network engineering personnel internally developed these technology
solutions, the Company has not historically made significant incremental
investments in research and development.
Capital Resources
The Company's net cash used in operations reduced to $4.8 million for
the year ended December 31, 1999, compared to $6.9 million and $12.0 million for
the years ended December 31, 1998, and 1997, respectively. The Company has
historically funded its expansion through equity issuances and debt financings.
In the second quarter of 1997, the Company received a bridge loan of
$10.0 million from certain of its stockholders that accrued an interest rate of
10.0% per annum. The Company sold $15 million of Class A Redeemable Preferred
Stock (the "Class A Preferred") with warrants to certain stockholders, into
which the bridge loan plus accrued interest was converted in full. The Class A
Preferred accrues cumulative dividends at a rate of 10.0% of its original
principal value per annum. The holders of the Class A Preferred were issued
warrants to purchase 11.5 million shares of Common Stock at an exercise price of
$1.50 per share. No dividends on the Class A Preferred have been paid as of
December 31, 1999, although $3,808,333 has been accrued and is payable in 2002
or after the redemption of the Class B Preferred described below.
In March 1998, the Company sold $8.0 million of Class B Senior
Redeemable Preferred Stock (the "Class B Preferred") with warrants to one
institutional investor and certain of its existing stockholders. The Class B
Preferred accrues cumulative dividends at a rate of 15.0% of its liquidation
value, compounded annually. The holders of the Class B Preferred were issued
warrants to purchase 5.4 million shares of Common Stock at an exercise price of
$1.50 per share. No dividends on the Class B Preferred have been paid as of
December 31, 1999, although $2,285,180 has been accrued and is payable in 2003.
The Company has purchased certain of its paging network equipment under
a vendor financing facility bearing interest at the rate of 12.57%. This credit
facility was established in 1996 and this lender has since amended certain terms
and conditions. In connection with the sale of EPS in December 1999, this lender
amended this facility with respect to the outstanding balance to suspend
principal payments until March 31, 2001 (although interest will still be paid).
A principal payment of $1 million is due in March 2001, following which monthly
principal payments of approximately $124,000 commence in May 2001 and continue
until December 2001. This credit facility contains various conditions, financial
covenants and restrictions and is secured by paging equipment. As of December
31, 1999, there was $2.0 million outstanding under this facility with no
additional availability.
The Company has purchased certain of its paging network equipment under
a secured credit facility from a finance company bearing interest at a rate of
10.0%. This credit facility was established in 1996 and this lender has since
amended certain terms and conditions. In connection with the sale of PTS in May
1999, this lender amended this facility with respect to the outstanding balance
to suspend principal payments until May 2000 (although interest will still be
paid). A principal payment of $613,000 is due in May 2001, following
which monthly principal payments of approximately $56,000 continue until
February 2003. This credit facility contains various conditions, financial
covenants and restrictions and is secured by paging equipment. As of December
31, 1999, there was $2.5 million outstanding under this facility with no
additional availability.
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<PAGE> 20
During 1999, the Company repaid in full its senior credit facility that
was used to finance paging network acquisitions. As of December 31, 1999, the
Company had established a $2.0 million revolving credit facility with this
financial institution to be used for working capital purposes. The outstanding
balance under this facility bears interest at 2% plus the prime rate. Pursuant
to an amendment to the credit facility executed in December 1999, interest only
is payable monthly in arrears with the principal balance due on March 31, 2001.
Borrowings under this facility are secured by substantially all the assets of
the Company. This credit facility contains various conditions, financial
covenants and restrictions related to a variety of issues, including but not
limited to a requirement to maintain a minimum balance of cash on hand plus
available borrowing capacity. The amount outstanding under this facility as of
December 31, 1999 was $1.5 million and there was no additional availability.
At December 31, 1999, the Company was in compliance with the financial
covenants under its credit facilities. The Company may need additional funds in
the form of equity, bank debt or other debt financing in the future to execute
its business plan and no assurances can be given that if additional funds are
required, such funds will be available on terms acceptable to the Company, if at
all, and the failure to obtain such funds could have a material adverse effect
on the Company. At December 31, 1999, the Company had $5.2 million invested in
short-term investment grade securities at various interest rates.
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 and lower cost of pagers to the Company as a
percentage of its pager sales. 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' subscribers during the holiday
season.
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 expansion 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 affect 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 wireless industries generally;
risks relating to the Company's expansion and other business development
activities; risks related to the deployment and feasibility of the Company's new
networking technologies and products; risks relating to technological change in
the wireless industries; risks associated with the Company's efforts to
commercialize and market successfully its networking products, such as the
Platform1(TM) and iTerminal(TM) products; the relatively unproven nature of the
Company's networking products, which represent a new product line for the
Company; challenges to the Company's technologies (such as challenges to the
validity of patents on the Company's switching technology); risks relating to
the ability of the Company to obtain additional funds in the form of debt or
equity (including availability of financing terms acceptable to the Company);
fluctuations in interest rates; and the existence of and changes to federal and
state laws and regulations. In particular, statements relating to the
competitive position and performance of the Company's current and future
networking products and their expected performance in the marketplace are
forward-looking statements that are subject to risks and uncertainties. The
Company operates in a highly competitive marketplace and new product
developments by competitors can occur at any time, thereby diminishing the
attractiveness of the Company's products. Also, there can be no assurance that
the marketplace will find the price and functionality of the Company's products
attractive, which also can adversely affect networking product sales.
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YEAR 2000 DISCLOSURE
The "Year 2000" issue was the result of some computer programs being
written using two digits instead of four digits to define an applicable year.
Time-sensitive software may recognize a date using "00" as the year 1900 rather
than the year 2000 which could result in miscalculations or system failure. The
Year 2000 issue was believed to affect all companies and organizations,
including the Company. The Company believes its transition to the Year 2000 has
been successful. To date, there have been no internal operational, testing or
accounting software problems and no interruptions of service with third parties.
The total costs incurred by the Company in capital expenditures, personnel time
and other expenses related to the Year 2000 issue was approximately $385,000.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company conducts most of its business in the U.S. and, therefore,
the Company believes that its exposure to foreign currency exchange rate risk at
December 31, 1999 was not material.
The Company does not engage in trading market risk sensitive
instruments. The Company also does not purchase for investment, hedging or for
purposes "other than trading", instruments that are likely to expose it to
market risk, whether interest rate, foreign currency exchange, commodity price
or equity price risk.
The Company's interest income and expense are most sensitive to changes
in the general level of U.S. interest rates. In this regard, changes in the U.S.
interest rates affect the interest earned on the Company's cash equivalents and
short-term investments and interest paid on its debt. Due to the short term
nature of its debt, the Company does not believe that changes to interest rates
would have a material impact.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Reference is made to the Financial Statements of the Company filed as
part of this report, which begin on page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH AUDITORS
On October 25, 1999, Ernst & Young LLP resigned as the Company's
independent auditors. On January 21, 2000, the Company engaged Grant Thornton
LLP as its new independent auditors. Reference is made to the Company's Current
Report on Form 8-K filed with the Securities and Exchange Commission on October
29, 1999 (with respect to the resignation of Ernst & Young LLP), and the
Company's Current Report on Form 8-K filed with the Securities and Exchange
Commission on January 27, 2000 (with respect to the engagement of Grant Thornton
LLP), which are incorporated herein by reference. The foregoing reports indicate
that there were no disagreements with these accountants.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information relating to the directors of the Company will be set forth
under the caption "Election of Directors" in the Company's Proxy Statement for
the 2000 Annual Meeting of Stockholders (the "2000 Proxy Statement"). Such
information is incorporated herein by reference. Information relating to the
executive officers of the Company will be set forth under the caption "Executive
Officers of the Company" in the 2000 Proxy Statement. Such information is
incorporated herein by reference. Information regarding compliance with Section
16(a) of the Securities Exchange Act of 1934, as amended, by directors and
executive officers of the Company and beneficial owners of more than 10% of the
Company's Common Stock will be set forth under the caption "Section 16(a)
Beneficial Ownership Reporting Compliance" in the 2000 Proxy Statement. Such
information is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
Information relating to executive compensation will be set forth under
the caption "Executive Compensation" in the 2000 Proxy Statement. Such
information is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information relating to ownership of the Company's securities will be
set forth under the caption "Stock Ownership" in the 2000 Proxy Statement. Such
information is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information relating to transactions and relationships with related
parties will be set forth under the captions "Compensation Committee Interlocks
and Insider Participation" and "Certain Transactions" in the 2000 Proxy
Statement. Such information is incorporated herein by reference.
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PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) 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.
Reports of Independent Auditors
Consolidated Balance Sheets as of December 31, 1998 and 1999
Consolidated Statements of Operations for the years ended December 31,
1997, 1998 and 1999
Consolidated Statements of Changes in Stockholders' Equity for the
years ended December 31, 1997, 1998 and 1999
Consolidated Statements of Cash Flows for the years ended December 31,
1997, 1998 and 1999
Notes to Consolidated Financial Statements
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 Reports of 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. Index to Exhibits.
<TABLE>
<CAPTION>
EXHIBIT NO. Description
<S> <C>
3.1 Articles of Incorporation of the Company, (incorporated by
reference to Exhibit 3.1 to the Current Report on Form 8-K,
no. 0-27658, filed on June 30, 1997)
3.2 Articles of Amendment to Articles of Incorporation of the
Company (creating Class B Senior Redeemable Preferred Stock)
(incorporated by reference to Exhibit C of Exhibit 10.35
below)
3.3 Bylaws of the Company, as amended (incorporated by reference
to Exhibit 3.2 to the Current Report on Form 8-K, No. 0-27658,
filed on June 30, 1997)
4.1 Reference is hereby made to Exhibits 3.1 and 3.2 and 3.3
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(1)* Preferred Networks, Inc. 1995 Stock Option Plan, as
amended (incorporated by reference to Exhibit B to the
Company's definitive Proxy Statement on Form 14A filed on
April 22, 1997)
10.3(2)* Preferred Networks, Inc. 1995 Stock Option Plan, as amended
(incorporated by reference to Exhibit A to the Company's
definitive Proxy Statement on Form 14A filed on April 29,
1998)
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)
</TABLE>
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<TABLE>
<S> <C>
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 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)
10.16* Management Employment Agreement, dated August 16, 1995,
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)
</TABLE>
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<TABLE>
<S> <C>
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 the
exhibit to the Current Report filed on Form 8-K, No. 0-27658,
dated September 27, 1996)
10.27 Stock Purchase Agreement by and among Preferred Networks,
Inc., Mercury Paging & Communications, Inc., HTB
Communication, Inc., Custom Page, Inc., and M.P.C.
Distributors Inc. (collectively, "Sellers") and the
Shareholders of Sellers dated 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 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) (incorporated by reference to
Exhibit 10.29 to the Annual Report on Form 10-K, No. 0-276548,
filed on April 15, 1997)
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) (incorporated by reference to
Exhibit 10.30 to the Annual Report on Form 10-K, No. 0-276548,
filed on April 15, 1997)
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
(incorporated by reference to Exhibit 10.31 to the Annual
Report on Form 10-K, No. 0-276548, filed on April 15, 1997)
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) (incorporated by reference to
Exhibit 10.31 to the Annual Report on Form 10-K, No. 0-276548,
filed on April 15, 1997)
10.33 Class A Redeemable Preferred Stock Purchase Agreement dated as
of May 21, 1997, by and among the Company and Centennial Fund
IV, L.P., Saugatuck Capital Company Limited Partnership III,
PNC Capital Corp., Fleet Venture Resources, Inc., Fleet Equity
Partners VI, L.P., Chisholm Partners II, L.P. and Primus
Capital Fund III Limited Partnership (incorporated by
reference to Exhibit A to the Company's definitive Proxy
Statement on Schedule 14A, filed May 22, 1997)
10.34 Agreement and Plan of Merger, dated May 21, 1997, by and
between Preferred Networks, Inc. and PNI Merger Corp.
(incorporated by reference to Exhibit B to the Company's
definitive Proxy Statement on Schedule 14A, filed on May 22,
1997)
10.35 Class B Senior Redeemable Stock Purchase Agreement dated as of
March 17, 1998, by and among the Company, Alta Communications
VI, L.P., Alta Comm S By S, LLC, Centennial Fund IV, L.P., PNC
Capital Corp., Saugatuck Capital Company Limited Partnership
III, Primus Capital Fund III Limited Partnership, Fleet Equity
Partners VI, L.P., Fleet Venture Resources, Inc., T/W Alfred
W. Putnam GST Exempt, Anne L. Putnam, Edward B. Putnam,
Custodian for Fitzgerald B. Putnam Under the Uniform Transfers
to Minor Act, Pennsylvania, Webbmont Holdings L.P., Spotted
Dog Farm, L.P., RTM, Inc., Mark H. and Marcia M. Dunaway, and
John J. and Sylvia Hurley (incorporated by reference to the
Company's Annual Report on Form 10-K for the 1997 fiscal year,
filed on March 30, 1998)
10.36 Fourth Amendment to Credit Agreement dated as of March 19,
1998, by and among Preferred Networks, Inc., PNI Systems, LLC,
and NationsBank, N.A. (South) (incorporated by reference the
Company's Annual Report on Form 10-K for the 1997 fiscal year,
filed on March 30, 1998)
10.37 Amendment to Registration Rights Agreement dated as of June
16, 1997 (incorporated by reference to Exhibit E of Exhibit A
to the Company's definitive Proxy Statement on Schedule 14A,
filed on May 22, 1997)
10.38 Second Amendment to Registration Rights Agreement dated as of
March 17, 1998 (incorporated by reference the Company's Annual
Report on Form 10-K for the 1997 fiscal year, filed on March
30, 1998)
10.39 Fifth Amendment to Credit Agreement and waiver dated as of
November 12, 1998, by and among the Company, PNI Systems, LLC,
and NATIONSBANK, N.A., as successor to NationsBank, N.A.
(South) (incorporated by reference to the Quarterly Report
filed on Form 10-Q, No. 0-27658, for the quarter ended
September 30, 1998)
10.40 Asset Purchase Agreement, dated as of April 19, 1999, by and
among Wireless Services Operating Corporation, Preferred
Technical Services, Inc., and the Company (incorporated by
reference to Exhibit
</TABLE>
24
<PAGE> 25
<TABLE>
<S> <C>
27 to the Quarterly Report filed on Form 10-Q, No. 0-27658,
for the quarter ended March 31,1999)
10.41 Amendment to Asset Purchase Agreement, dated as of May 20,
1999, by and among Wireless Services Operating Corporation ,
Preferred Technical Services, Inc., and the Company
(incorporated by reference to Exhibit 2.2 to the Current
Report on Form 8-K, No. 0-27658, filed on June 14, 1999)
10.42 Agreement Concerning Amendment to Credit Agreement dated as of
May 27, 1999, by and among the Company, PNI Systems, LLC,
NationsBank, N.A., and the guarantors party thereto
(incorporated by reference to Exhibit 2.3 to the Current
Report on Form 8-K, No. 0-27658, filed on June 14, 1999)
10.43 Modification Agreement by and between the Company and
Associates Capital Services Corporation dated May 28, 1999
(incorporated by reference to Exhibit 2.4 to the Current
Report on Form 8-K, No. 0-27658, filed on June 14, 1999)
10.44 Share Purchase Agreement between the Registrant and Celestica
Corporation dated December 10, 1999 (incorporated by reference
to Exhibit 2 to the Current Report on Form 8-K, No. 0-27658,
filed on December 22, 1999)
10.45 Second Agreement Concerning Amendment to Credit Agreement
dated as of December 9, 1999 by and among PNI Systems, LLC,
the Registrant and Bank of America, N.A. (incorporated by
reference to Exhibit 10.1 to the Current Report on Form 8-K,
No. 0-27658, filed on December 22, 1999)
10.46 Agreement Concerning Amendment to Credit Agreement dated as of
December 9, 1999 by and between the Registrant and Glenayre
Electronics, Inc. (incorporated by reference to Exhibit 10.2
to the Current Report on Form 8-K, No. 0-27658, filed on
December 22, 1999)
21 Subsidiaries of the Company
23.1 Consent of Grant Thornton LLP
23.2 Consent of Ernst & Young LLP
27.1 Financial Data Schedule (for SEC use only)
27.2 Restated Financial Data Schedule (for SEC use only)
</TABLE>
* Indicates management contract or compensation plan or arrangement.
(b) Reports on Form 8-K.
On October 29, 1999, the Company filed a Current Report on Form 8-K
concerning the resignation of Ernst & Young LLP as the independent accountants
for the Company.
On December 22, 1999, the Company filed a Current Report on Form 8-K
relating to the Company's disposition on December 10, 1999 of EPS.
25
<PAGE> 26
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.
Date: March 30, 2000 By: /s/ Mark H. Dunaway
------------------------------------
Mark H. Dunaway
Chief Executive Officer and Director
(Principal Executive Officer)
Date: March 30, 2000 By: /s/ Kathryn Loev Putnam
------------------------------------
Kathryn Loev Putnam
Senior Vice President and Chief
Financial Officer (Principal
Accounting Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
<TABLE>
<S> <C>
Date: March 30, 2000 By: /s/ Mark H. Dunaway
------------------------------------
Mark H. Dunaway
Chairman of the Board of Directors,
Chief Executive Officer and Director
Date: March 30, 2000 By: /s/ William H. Bang
------------------------------------
William H. Bang
Director
Date: March 30, 2000 By: /s/ Richard P. Campbell
------------------------------------
Richard P. Campbell
Director
Date: March 30, 2000 By: /s/ John J. Hurley
------------------------------------
John J. Hurley
Director
Date: March 30, 2000 By: /s/ Robert M. Van Denga
------------------------------------
Robert M. Van Denga
Director
Date: March 30, 2000 By: /s/ Robert F. Benbow
------------------------------------
Robert F. Benbow
Director
</TABLE>
26
<PAGE> 27
FINANCIAL STATEMENTS AND REPORT OF
INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
PREFERRED NETWORKS, INC.
December 31, 1998 and 1999
F-1
<PAGE> 28
Report of Independent Certified Public Accountants
The Board of Directors and Stockholders
Preferred Networks, Inc.
We have audited the accompanying consolidated balance sheets of Preferred
Networks, Inc. and subsidiaries as of December 31, 1999, and the related
consolidated statements of operations, changes in stockholders equity, and cash
flows for the year ended December 31, 1999. 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 in accordance with auditing standards generally accepted
in the United States. 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 audit provides 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. and subsidiaries as of December 31, 1999, and the consolidated
results of its operations and its cash flows for the year ended December 31,
1999, in conformity with accounting principles generally accepted in the United
States.
/s/ GRANT THORNTON LLP
Atlanta, Georgia
March 6, 2000
F-2
<PAGE> 29
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Stockholders
Preferred Networks, Inc.
We have audited the consolidated balance sheet of Preferred Networks, Inc. as
of December 31, 1998, and the related consolidated statements of
operations, changes in stockholders' equity, and cash flows for each of the
two years in the period ended December 31, 1998. 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 auditing standards generally accepted
in the United States. 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.
Since the date of completion of our audit of the accompanying 1998 and 1997
financial statements and initial issuance of our report thereon dated April 15,
1999, which report contained an explanatory paragraph regarding the Company's
ability to continue as a going concern, the Company, as discussed in Note D and
Note H, has sold substantially all of the assets of two wholly-owned
subsidiaries and paid off its credit facility. Therefore, the conditions that
raised substantial doubt about whether the Company will continue as a going
concern no longer exist.
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, 1998 and the consolidated results of its
operations and its cash flows for each of the two years in the period ended
December 31, 1998 in conformity with accounting principles generally accepted in
the United States.
/s/ ERNST & YOUNG LLP
Atlanta, Georgia
April 15, 1999, except
for Note D and H as to
which the date is
March 28, 2000.
F-3
<PAGE> 30
Preferred Networks, Inc.
CONSOLIDATED BALANCE SHEETS
December 31,
ASSETS
<TABLE>
<CAPTION>
1998 1999
----------- -----------
<S> <C> <C>
CURRENT ASSETS
Cash and cash equivalents $ 6,017,159 $ 5,489,898
Accounts receivable, less allowance for doubtful accounts
of $241,844 and $392,731 in 1998 and 1999, respectively 1,519,072 1,532,593
Inventory 1,728,841 723,888
Prepaid expenses 136,116 473,968
Other current assets 146,671 813,440
Current assets of discontinued operations 5,110,909 --
----------- -----------
Total current assets 14,658,768 9,033,787
PROPERTY AND EQUIPMENT, net
Continuing operations 19,609,065 14,926,475
Discontinued operations 1,946,552 --
OTHER ASSETS
Goodwill, net 7,424,390 6,855,669
FCC licenses, net 8,838,444 8,146,517
Other long-term assets, net 2,518,586 180,306
Other assets of discontinued operations, net 5,036,738 --
----------- -----------
23,818,158 15,182,492
----------- -----------
$60,032,543 $39,142,754
=========== ===========
</TABLE>
The accompanying notes are an integral part of these statements.
F-4
<PAGE> 31
LIABILITIES, REDEEMABLE PREFERRED STOCK, AND STOCKHOLDERS' EQUITY
<TABLE>
<CAPTION>
1998 1999
------------- ------------
<S> <C> <C>
CURRENT LIABILITIES
Accounts payable $ 2,610,349 $ 1,721,707
Accrued liabilities 1,025,998 1,050,355
Accrued salaries 176,976 270,585
State taxes payable -- 500,000
Current portion of notes payable and capital lease obligations 18,312,703 1,126,374
Current liabilities of discontinued operations 3,036,800 --
----------- -----------
Total current liabilities 25,162,826 4,669,021
NOTES PAYABLE AND CAPITAL LEASE OBLIGATIONS,
less current portion
Continuing operations 30,936 4,942,213
Discontinued operations 315,010 --
CLASS A PREFERRED STOCK, no par value, $1.50 par shares liquidation preference
and redemption price; 13,500,000 shares authorized, 10,000,000 shares issued
and outstanding in 1998 and 1999 (including $2,308,333
and $3,808,333 of undeclared dividends in 1998 and 1999, respectively) 15,879,309 17,802,495
CLASS B SENIOR REDEEMABLE PREFERRED STOCK, no par value, $1 50 per share
liquidation preference and redemption price; 5,500,000 shares authorized
5,333,336 shares issued and outstanding in 1998 and 1999 (including $945,161
and $2,285,180 of undeclared dividends in 1998 and 1999, respectively) 8,088,693 9,628,081
----------- -----------
Total liabilities and redeemable preferred stock 49,476,774 37,041,810
STOCKHOLDERS' EQUITY
Preferred stock, no par value, 16,500,000 shares authorized;
none issued and outstanding -- --
Common stock, no par value, 100,000,000 shares authorized;
16,334,377 and 16,369,302 shares issued and outstanding in
1998 and 1999, respectively 61,458,690 58,643,698
Accretion of Class A and Class B Redeemable Preferred Stock (828,788) (1,451,345)
Accumulated deficit (50,074,133) (55,091,409)
----------- -----------
10,555,769 2,100,944
----------- -----------
$60,032,543 $39,142,754
=========== ===========
</TABLE>
F-5
<PAGE> 32
Preferred Networks, Inc.
CONSOLIDATED STATEMENTS OF OPERATIONS
Years ended December 31,
<TABLE>
<CAPTION>
1997 1998 1999
------------ ------------ ------------
<S> <C> <C> <C>
Revenues
Network services $ 12,456,481 $ 13,204,172 $ 12,841,117
Pager sales 5,458,241 6,171,898 3,999,189
Other services -- 190,777 193,199
------------ ------------ ------------
Total revenues 17,914,722 19,566,847 17,033,505
Costs of revenues
Network services 8,378,751 8,612,145 8,284,191
Pager sales 8,603,231 6,245,636 3,777,252
Other services -- -- 10,107
------------ ------------ ------------
Total costs of revenues 16,981,982 14,857,781 12,071,550
------------ ------------ ------------
Gross margin 932,740 4,709,066 4,961,955
Selling, general and administrative expenses 12,000,551 9,818,215 8,429,605
Other expenses 277,708 -- 18,523
Impairment loss -- -- 1,339,830
Depreciation and amortization 6,213,395 6,094,758 5,204,309
------------ ------------ ------------
Operating loss (17,558,912) (11,203,907) (10,030,312)
Interest expense (1,241,298) (2,010,178) (1,811,241)
Interest income 454,605 351,384 172,910
------------ ------------ ------------
Net loss from continuing operations before income
tax benefit and discontinued operations (18,345,605) (12,862,701) (11,668,643)
Income tax benefit -- -- 4,000,000
------------ ------------ ------------
Net loss from continuing operations (18,345,605) (12,862,701) (7,668,643)
Discontinued operations
Operating loss from discontinued operations (806,153) (2,328,734) (152,696)
Gain on disposal of subsidiaries, net of taxes
of $5,123,000 -- -- 4,013,460
------------ ------------ ------------
Income (loss) from discontinued operations (806,153) (2,328,734) 3,860,764
Cumulative effect of change in accounting principle,
net of tax benefit of $623,000 -- -- (1,209,397)
------------ ------------ ------------
Net Loss (19,151,758) (15,191,435) (5,017,276)
Accretion of redeemable preferred stock (245,726) (583,062) (622,557)
Redeemable preferred stock dividend requirements (808,333) (2,445,161) (2,840,019)
------------ ------------ ------------
Net loss attributable to common stock $(20,205,817) $(18,219,658) $ (8,479,852)
============ ============ ============
</TABLE>
F-6
<PAGE> 33
Preferred Networks, Inc.
CONSOLIDATED STATEMENTS OF OPERATIONS
Years ended December 31,
<TABLE>
<CAPTION>
1997 1998 1999
------------ ------------ ------------
<S> <C> <C> <C>
Net loss per share of common stock
Loss from continuing operations before cumulative
effect of change in accounting principle $ (1.21) $ (0.98) $ (0.68)
Income (loss) from discontinued operations (0.05) (0.14) 0.23
Cumulative effect of change in accounting principle -- -- (0.07)
------------ ------------ ------------
$ (1.26) $ (1.12) $ (0.52)
============ ============ ============
Weighted average number of common shares used
in calculating net loss per share of common stock 16,059,637 16,257,586 16,362,126
============ ============ ============
Pro forma net loss assuming accounting principle
is applied retroactively $(19,674,646) $(14,984,144) $ (3,184,879)
Pro forma net loss attributable to Common Stock
assuming change in accounting principle is
applied retroactively $(20,728,705) $(18,012,367) $ (6,647,455)
Pro forma net loss per share $ (1.29) $ (1.11) $ (0.41)
</TABLE>
The accompanying notes are an integral part of these statements.
F-7
<PAGE> 34
Preferred Networks, Inc.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Years ended December 31,
<TABLE>
<CAPTION>
Common Accretion of
Stock Additional Common Redeemable
($.0001 Paid-in Stock Preferred Accumulated
Par) Capital (No par) Stock Deficit Total
------- ------------ ----------- ------------ ------------ ------------
<S> <C> <C> <C> <C> <C> <C>
Balance at December 31, 1996 $ 1,529 $ 56,312,399 $ -- $ -- $(15,730,940) $ 40,582,988
Corporation reincorporation (1,529) (56,312,399) 56,313,928 -- -- --
Issuance of 828,613 shares of common
stock pursuant to acquisitions -- -- 5,179,989 -- -- 5,179,989
Issuance of 74,000 shares of common
stock pursuant to Directors'
Restricted Stock Award Plan -- -- 95,703 -- -- 95,703
Issuance of common stock warrants -- -- 1,930,963 -- -- 1,930,963
Non-cash stock option compensation -- -- 181,915 -- -- 181,915
Accretion of Class A Redeemable
Preferred Stock -- -- -- (245,726) -- (245,726)
Undeclared dividends on Class A
Redeemable Preferred Stock
($.08 per share) -- -- (808,333) -- -- (808,333)
Exercise of options -- -- 6,808 -- -- 6,808
Net loss -- -- -- -- (19,151,758) (19,151,758)
------- ------------ ----------- ----------- ------------ ------------
Balance at December 31, 1997 -- -- 62,900,973 (245,726) (34,882,698) 27,772,549
Accretion of Class A Redeemable
Preferred Stock -- -- -- (423,188) -- (423,188)
Undeclared dividends on Class A
Redeemable Preferred Stock
($0.15 per share) -- -- (1,500,000) -- -- (1,500,000)
Accretion of Class B Redeemable
Preferred Stock -- -- -- (159,874) -- (159,874)
Undeclared dividends on Class B
Redeemable Preferred Stock
($0.18 per share) -- -- (945,161) -- -- (945,161)
Issuance of common stock warrants -- -- 810,000 -- -- 810,000
Exercise of options -- -- 192,878 -- -- 192,878
Net loss -- -- -- -- (15,191,435) (15,191,435)
------- ------------ ----------- ----------- ------------ ------------
Balance at December 31, 1998 -- -- 61,458,690 (828,788) (50,074,133) 10,555,769
Accretion of Class A Redeemable
Preferred Stock -- -- -- (423,187) -- (423,187)
Undeclared dividends on Class A
Redeemable Preferred Stock
($0.15 per share) -- -- (1,500,000) -- -- (1,500,000)
Accretion of Class B Redeemable
Preferred Stock -- -- -- (199,370) -- (199,370)
Undeclared dividends on Class B
redeemable Preferred Stock
(0.18 per share) -- -- (1,340,019) -- -- (1,340,019)
Issuance of 34,925 shares of common
stock pursuant to employee stock
purchase plan -- -- 9,277 -- -- 9,277
Vesting of 21,000 shares to Directors -- -- 15,750 -- --
15,750
Net loss -- -- -- -- (5,017,276) (5,017,276)
------- ------------ ----------- ----------- ------------ ------------
Balance at December 31, 1999 $ -- $ -- $58,643,698 $(1,451,345) $(55,091,409) $ 2,100,944
======= ============ =========== =========== ============ ============
</TABLE>
The accompanying notes are an integral part of this statement.
F-8
<PAGE> 35
Preferred Networks, Inc.
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years ended December 31,
<TABLE>
<CAPTION>
1997 1998 1999
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from operating activities:
Net loss $(19,151,758) $(15,191,435) $ (5,017,276)
Adjustments to reconcile net loss to net cash
used in operating activities:
Operating loss from discontinued operations 806,153 2,328,734 152,696
Depreciation and amortization 6,213,394 6,094,758 5,204,309
Loss on disposal of property and equipment 33,193 (38,951) 4,552
Impairment loss -- -- 1,339,830
Maintenance services from sale of PTS -- -- 583,331
Gain on disposal of subsidiaries -- -- (8,636,460)
Cumulative effect of change in accounting principle -- -- 1,832,397
Bad debt expense 614,778 413,756 395,938
Stock option compensation expense 277,618 66,323 25,016
Changes in operating assets and liabilities:
Accounts receivable (1,013,034) 326,903 (409,459)
Inventory 3,181,295 (351,628) 1,004,953
Prepaid expenses and other current assets 294,462 (45,837) (1,005,816)
Accounts payable (2,112,444) 699,599 (888,642)
Accrued liabilities (2,034,049) 218,450 524,357
Accrued salaries 84,433 (280,859) 93,609
------------ ------------ ------------
Net cash used in continuing operating activities (12,805,959) (5,760,187) (4,796,665)
Net cash provided by (used in) discontinued
operations 778,569 (1,150,298) 883
------------ ------------ ------------
Net cash used in operating activities (12,027,390) (6,910,485) (4,795,782)
Cash flows from investing activities:
Purchases of equipment (2,890,621) (263,584) (159,939)
Purchases of equipment for discontinued operations (965,474) (506,125) (151,752)
Purchase of other assets and FCC licenses (1,599,876) (432,398) (156,514)
Payment for acquisitions, net of cash acquired (10,509,544) -- --
Net proceeds from sale of subsidiary -- -- 17,238,625
------------ ------------ ------------
Net cash provided by (used) in investing activities (15,965,515) (1,202,107) 16,770,420
</TABLE>
F-9
<PAGE> 36
Preferred Networks, Inc.
CONSOLIDATED STATEMENTS OF CASH FLOWS - CONTINUED
Years ended December 31,
<TABLE>
<CAPTION>
1997 1998 1999
------------ ------------ ------------
<S> <C> <C> <C>
Cash flows from financing activities:
Proceeds from borrowings 10,000,000 1,450,000 1,447,136
Payments of borrowings (1,861,875) (1,847,906) (13,722,222)
Issuance of Redeemable Preferred Stock 2,902,064 6,983,656 --
Issuance of common stock upon exercise of stock options 6,808 126,555 --
Issuance of common stock warrants 1,930,963 810,000 --
------------ ------------ ------------
Net cash used by financing activities of
continuing operations 12,977,960 7,522,305 (12,275,086)
Net cash used by financing activities
of discontinued operations -- -- (226,813)
------------ ------------ ------------
Net cash provided by financing activities 12,977,960 7,522,305 (12,501,899)
Net decrease in cash and cash equivalents (15,014,945) (590,287) (527,261)
Cash and cash equivalents, beginning of year 21,622,391 6,607,446 6,017,159
------------ ------------ ------------
Cash and cash equivalents, end of year $ 6,607,446 $ 6,017,159 $ 5,489,898
============ ============ ============
</TABLE>
The accompanying notes are an integral part of these statements.
F-10
<PAGE> 37
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
December 31, 1999 and 1998
NOTE A - NATURE OF OPERATIONS
1. Nature of Operations
Preferred Networks, Inc. (the "Company") provides outsourcing services to
the wireless industry primarily in the United States. The Company commenced
operations in 1991 as a carrier's carrier of one-way paging networks,
whereby the Company's customers purchase and resell the Company's network
services to their subscribers. In July 1996, the Company acquired Preferred
Technical Services, Inc. ("PTS"), a provider of wireless network equipment
installation, maintenance and engineering services. This subsidiary was
sold during 1999. In December 1996, 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. This subsidiary was sold during 1999.
During 1999, the Company completed development of its intelligent,
high-speed switching technology. The Company shipped its first beta units
in 1999 and has begun shipments of commercial products in the first quarter
of 2000. With the introduction of its networking products, the Company is
evolving into a developer and supplier of advanced communications hardware
and software products. However, the Company is at an early stage of
development of its networking products business and substantially all of
its revenues and costs are currently derived from its network services
business.
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
The Company's significant accounting policies are summarized as follows:
1. Accounting Estimates
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the reported amount of assets and liabilities and
disclosures of contingent assets and liabilities at the date of the
financial statements and the reported amounts of revenues and expenses
during the reporting period. Actual results could differ from those
estimates.
2. Principles of Consolidation
The Company has formed wholly-owned subsidiaries and limited liability
companies to execute certain business transactions. All significant
intercompany activity has been eliminated.
F-11
<PAGE> 38
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1999 and 1998
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Continued
3. 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
primarily of miscellaneous fees charged to Direct Access Customers related
to maintenance of customer equipment at Company TCC's. Revenue on equipment
sales is recorded upon shipment. No one customer provided more than 10% of
revenue during 1997, 1998 and 1999.
4. 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.
5. 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 to support customer
receivables. The Company is at risk to the extent such amounts become
uncollectible. The Company provides an allowance for doubtful accounts
based on factors surrounding the credit risk of specific customers,
historical trends, and other information. At December 31, 1999,
approximately 16% of accounts receivable was with one customer.
6. Inventory
Inventory consists primarily of new pagers and to a lesser extent at
December 31, 1999, parts for networking products. 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 principally by use of the specific
identification method. Inventory has been reduced to market value at both
December 31, 1998 and 1999.
7. Property and Equipment
Property and equipment, including items financed through notes payable and
capital leases, is stated at cost including capitalized interest on
eligible assets. Interest capitalized in 1997, 1998 and 1999 totaled
$781,381, $0, and $0, respectively. The Company depreciates its property
and equipment over their estimated useful lives using the straight-line
method for financial reporting purposes and accelerated methods for tax
reporting purposes. Estimated useful lives range from five to seven years.
F-12
<PAGE> 39
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1999 and 1998
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Continued
8. FCC Licenses
Federal Communications Commission ("FCC") licenses consist of costs
associated with the purchases 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, 1998 and
1999 totaled $1,558,327 and $2,251,448, respectively.
9. 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. At December 31, 1998 and 1999,
accumulated amortization was $1,105,291, and $1,674,011, respectively.
10. Other Assets
At December 31, 1998, other assets included deposits with creditors and
market entry costs. In 1999, market entry costs in the amount of $1,832,397
were expensed and included in the caption "cumulative effect of change in
accounting principle" in accordance with the Accounting Standards Executive
Committee's Statement of Position 98-5, Reporting on the costs of Start-Up
Activities ("SOP 98-5"). At December 31, 1999, other assets consists of
deposits with creditors. Accumulated amortization for other assets at
December 31, 1998 and 1999 totaled $2,680,135, and $0, respectively.
11. Impairment of Long-Lived Assets
Statement of Financial Accounting Standards ("SFAS") No. 121, Accounting
For The Impairment Of Long-Lived Assets and For Long-Lived Assets To Be
Disposed Of, 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. No impairment charge was recorded in 1997 and
1998. In 1999, the Company recorded an impairment charge of $1,339,909
related to the write down of certain assets located in geographical markets
where the Company no longer intends to operate. In accordance with SFAS No.
121, the impairment charge was taken at the time the Company made the
decision not to pursue its expansion plans to these markets, which was
December 31, 1999.
12. Advertising Expenses
The Company expenses all advertising expenses as incurred. Advertising
expense for the years ended December 31, 1997, 1998 and 1999 was $51,580,
$17,105 and $7,861, respectively.
F-13
<PAGE> 40
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1999 and 1998
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Continued
13. Income Taxes
The Company accounts for income taxes using the asset and liability method.
Under this method, deferred tax assets and liabilities are recognized for
the future tax consequences attributable to differences between the
financial statement carrying amounts of existing assets and liabilities and
their respective tax bases. Deferred tax assets and liabilities are
measured using enacted tax rates applied to taxable income. The effect on
deferred tax assets and liabilities of a change in tax rates is recognized
in income in the period that includes the enactment date. A valuation
allowance is provided for deferred tax assets when it is more likely than
not that the asset will not be realized.
14. Stock-Based Compensation
The Company accounts for its stock-based compensation plans under
Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees. Effective in 1995, the Company adopted the disclosure option of
Statement of Financial Accounting Standards ("SFAS") No. 123, Accounting
for Stock-Based Compensation. SFAS No. 123 required that companies that do
not choose to account for stock-based compensation as prescribed by the
statement, shall disclose the pro forma effects on earnings and earnings
per share as if SFAS No. 123 had been adopted. Additionally, certain other
disclosures are required with respect to stock compensation and the
assumptions used to determine the pro forma effects of SFAS No. 123 (see
Note K).
15. Net Loss Per Share
Net loss per share was computed using the requirements of Statement of
Financial Accounting Standards No. 128, Earnings Per Share, and Staff
Accounting Bulletin No. 98. Net loss per share-basic was computed by
dividing net loss attributable to common stock by the weighted average
number of shares of common stock outstanding during the period excluding
unvested shares of restricted stock. The denominator for net loss per
share-diluted also considers the dilutive effect of outstanding stock
options, warrants, and convertible preferred stock. Due to the Company's
net loss, the amounts reported for basic and diluted are the same. The
following securities could potentially dilute basic earnings per share in
the future and were not included in the computation of diluted net loss per
share because they would have been antidilutive for the period presented:
<TABLE>
<CAPTION>
1997 1998 1999
------------ ------------ ------------
<S> <C> <C> <C>
Common stock options 1,705,989 2,467,168 1,303,788
Common stock warrants 11,922,353 17,322,353 17,322,353
Unvested restricted stock 60,000 69,000 42,000
------------ ------------ ------------
Total securities 13,688,342 19,858,521 18,668,141
============ ============ ============
</TABLE>
F-14
<PAGE> 41
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1999 and 1998
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES - Continued
15. Statements of Cash Flows
The Company paid interest, net of amounts capitalized, of approximately
$1,162,816, $2,010,773 and $1,811,241 during the years ended December 31,
1997, 1998 and 1999, respectively.
During 1997, 1998 and 1999, the Company purchased property and equipment of
approximately $3,248,000, $229,000 and $0, respectively, through the
issuance of notes payable and under capital leases. During 1998, the
Company sold approximately $350,000 in property and equipment in exchange
for the assumption of approximately $350,000 in debt.
16. Fair Value of Financial Instruments
The Company's financial instruments include cash and cash equivalents and
notes payable. Estimates of fair value of these instruments are as follows:
Cash and cash equivalents - The carrying amount of cash and cash
equivalents approximates fair value due to the relatively short maturity of
these instruments.
Notes payable - The carrying amount of the Company's notes payable
approximate fair value based on borrowing rates currently available to the
Company for borrowings with comparable terms and conditions.
17. Reclassifications
Certain amounts in the 1997 and 1998 financial statements have been
reclassified to conform to the 1999 presentation.
NOTE C - ADOPTION OF NEW ACCOUNTING STANDARD
In April 1998, the Accounting Standards Executive Committee issued
Statement of Position 98-5, Reporting on the costs of Start-Up Activities
("SOP 98-5"). SOP 98-5 requires entities to charge to expense start-up
costs, including organization costs, as incurred. In addition, SOP 98-5
requires a write-off of any previously capitalized start-up or
organizational costs, to be reported as a cumulative effect of a change in
accounting principle. The Company adopted SOP 98-5 effective January 1,
1999 and wrote off the unamortized amount of its market entry costs at
January 1, 1999 in the amount of $1,832,397.
F-15
<PAGE> 42
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1999 and 1998
NOTE D - DISCONTINUED OPERATIONS
On May 28, 1999, the Company sold substantially all of the assets of its
wholly-owned subsidiary, Preferred Technical Services ("PTS"), a provider
of wireless network equipment installation, maintenance and engineering
services. Under the terms of the purchase agreement, the Company received
$3,088,625 in proceeds from the sale and a $1 million credit for
maintenance services to be provided by PTS to the Company on its paging
networks. At December 31, 1999, approximately $417,000 of this credit
remains unused and is included as prepaid expenses in the accompanying
consolidated balance sheet. The Company recognized a gain on the sale of
PTS in the amount of $1,187,928. As the operations of this subsidiary
represented a separate segment, operating results for this subsidiary for
all periods presented have been reclassified and reported as discontinued
operations in accordance with Accounting Principles Board Opinion No. 30.
On December 10, 1999, the Company sold its wholly-owned subsidiary EPS
Wireless, Inc. ("EPS"), a provider of paging and cellular product repair
services, sales of new used, and refurbished paging and cellular products
and inventory management services. The Company received $14.9 million in
proceeds from this sale subject to a holdback of $750,000 to be paid on or
about June 10, 2000. The holdback amount is included as other receivables
on the consolidated balance sheet. The Company recognized a gain on the
sale of EPS in the amount of $7,448,532. As the operations of this
subsidiary represented a separate segment, operating results for this
subsidiary for all periods presented have been reclassified and reported as
discontinued operations in accordance with Accounting Principles Board
Opinion No. 30.
Summary operating results of the discontinued network engineering and
maintenance services segment and the pager and cellular product repair
services, sales and inventory management segment are as follows:
<TABLE>
<CAPTION>
1997 1998 1999
------------ ------------ ------------
<S> <C> <C> <C>
Revenue:
Network engineering and maintenance $ 2,361,351 $ 3,992,277 $ 3,016,552
Product repair and sales 15,705,483 15,567,218 14,904,923
------------ ------------ ------------
18,066,834 19,559,495 17,921,475
------------ ------------ ------------
Costs and expenses:
Network engineering and maintenance 2,310,968 3,893,380 3,078,871
Product repair and sales 16,562,019 17,994,849 14,995,300
------------ ------------ ------------
18,872,987 21,888,229 18,074,171
------------ ------------ ------------
Operating loss from discontinued operations $ (806,153) $ (2,328,734) $ (152,696)
============ ============ ============
</TABLE>
F-16
<PAGE> 43
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1999 and 1998
NOTE D - DISCONTINUED OPERATIONS - Continued
Assets and liabilities of the discontinued network engineering and
maintenance services segment and the pager and cellular product repair
services, sales and inventory management segment are included in the
consolidated balance sheets as assets and liabilities of discontinued
operations and are made up as follows:
<TABLE>
<CAPTION>
1998 1999
----------- ----------
<S> <C> <C>
Current assets of network engineering and maintenance $ 1,809,249 $ --
Current assets of product repair and sales 3,301,660 --
----------- ----------
Net current assets of discontinued operations 5,110,909 --
Property and equipment, net of network engineering and maintenance 1,111,053 --
Property and equipment, net of product repair and sales 835,499 --
Other assets of network engineering and maintenance 639,025 --
Other assets of product repair and sales 4,397,713 --
----------- ----------
Total assets of discontinued operations $12,094,199 $ --
=========== ==========
Current liabilities of network engineering and maintenance $ 949,836 $ --
Current liabilities of product repair and sales 2,086,964 --
----------- ----------
Total current liabilities of discontinued operations 3,036,800 --
Notes payable and capital leases of product repairs and sales 315,010 --
----------- ----------
Total liabilities of discontinued operations $ 3,351,810 $ --
=========== ==========
</TABLE>
NOTE E - LIQUIDITY AND OPERATIONS
The Company operates in the wireless communications industry, which has
experienced and continues to experience significant challenges including
competing technologies, shifts in customers' strategies, changes in the FCC
regulatory environment, and limited sources of capital. As a result, the
Company is continually required to address these and other matters in its
business strategy and operations.
Since its March 1996 initial public offering, the Company has invested
approximately $62 million in building its network infrastructure, acquiring
FCC licenses and other paging networks, and acquiring related companies. As
a result of this expansion and the development of the Company's business and
the overall wireless industry, the Company has experienced net losses and
negative cash flows, and future cash flows have been difficult to project.
F-17
<PAGE> 44
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1999 and 1998
NOTE E - LIQUIDITY AND OPERATIONS - Continued
The Company's projections include significant growth in revenues, from
existing products and services and also from new switching technologies
which it has recently developed, and improved profitability due to greater
utilization of the existing base of assets. The Company's business plan may
change, or unforeseen events may occur, requiring the Company to raise
additional funds. Additionally, the Company may consider selling certain
assets. The amounts of funds required by the Company will depend on many
factors, including successful sales of the Company's new networking products
and the expected cost savings to the Company in its own networks resulting
from the deployment of its networking products. The outcome of the
uncertainties surrounding the Company and the industry are difficult to
predict. These uncertainties could effect the Company's ability to recover
the carrying value of its long-lived assets from its future cash flows and
operations, although management's current projections indicate that such
values will be recovered. Currently, generally accepted accounting
principles require companies to assess future cash flows and record
impairment losses on long-lived assets based on estimates of future cash
flows if insufficient to recover the carrying values. Should the Company's
future projections not materialize, the Company could experience an
impairment of its long-lived assets requiring a charge to its income
statement. As of December 31, 1999, the Company had $30 million in net book
value of long-lived assets, including property and equipment, FCC licenses,
and goodwill.
NOTE F - ACQUISITIONS
In January 1997, the Company acquired the stock of Mercury Paging &
Communication, Inc. ("Mercury") and its affiliated companies for
approximately $14.2 million of which approximately $10.0 million was paid in
cash and the remainder by the issuance of 624,321 shares of common stock.
The transaction was accounted for as a purchase as of January 31, 1997.
Mercury is a reseller-based paging carrier in the states of New York, New
Jersey, and Connecticut.
The following unaudited pro forma summary presents the consolidated results
of operations as if the 1997 acquisition described above had occurred on
January 1, 1997, and does not purport to be indicative of what would have
occurred had the acquisition been made as of that date or of results which
may occur in the future. Pro forma results are not presented for 1998, as
all acquisitions occurred prior to 1998.
<TABLE>
<CAPTION>
1997
-------------
<S> <C>
Net revenue (from continuing operations) $ 18,360,594
============
Net loss $ (19,174,424)
============
Net loss per common share $ (1.26)
============
</TABLE>
F-18
<PAGE> 45
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1998 and 1999
NOTE G - PROPERTY AND EQUIPMENT
Property and equipment consists of the following:
<TABLE>
<CAPTION>
1998 1999
---------- ----------
<S> <C> <C>
Network services equipment $21,477,731 $22,202,480
Computer equipment 2,111,866 1,212,483
Other equipment 328,774 1,326,156
Vehicles -- --
Furniture and fixtures 553,567 548,186
Construction in progress 3,781,871 1,813,642
Leasehold improvements 951,799 817,023
---------- ----------
29,205,608 27,919,970
(9,596,543) 12,993,495)
$19,609,065 $14,926,475
=========== ===========
</TABLE>
At December 31, 1998 and 1999 substantially all property and equipment is
pledged as collateral under various notes payable and capital lease
obligations. Depreciation expense was approximately $3,498,719, $3,951,932
and $3,822,466 for the years ended December 31, 1997, 1998 and 1999,
respectively.
Construction in progress represents equipment acquired, but not yet placed
in service. The Company expects to utilize such equipment in its future
operations, as the market condition and capital availability permit.
These amounts are not being depreciated.
NOTE H - NOTES PAYABLE AND CAPITAL LEASE OBLIGATIONS
<TABLE>
<CAPTION>
1998 1999
------------ ------------
<S> <C> <C>
Revolving credit facility with a financial institution; maximum borrowings
of $2,000,000 at December 31, 1999 bearing interest at prime plus 2%
(10.25% at December 31, 1999). Due and payable on March 31, 2001; secured
by certain assets of the Company $ 10,504,879 $ 1,537,513
Line of credit with equipment manufacturer, maximum borrowings are
outstanding at December 31, 1999, bearing interest at the rate of 12.57%
at December 31, 1999 4,930,501 1,972,784
</TABLE>
F-19
<PAGE> 46
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1998 and 1999
NOTE H - NOTES PAYABLE AND CAPITAL LEASE OBLIGATIONS - Continued
<TABLE>
<CAPTION>
1998 1999
---------- ----------
<S> <C> <C>
Notes payable to finance company bearing interest at the rate of 10%
payable in various monthly installments of principal and interest with
maturity dates through 2003; secured by
paging equipment 3,055,651 2,452,727
Amounts due under capital leases for equipment due in various
monthly installments until 2001, secured by the related equipment 542,407 105,563
---------- ----------
19,033,438 6,068,587
Less portion included in current liabilities of discontinued operations (374,789) --
Less current portion (18,312,703) (1,126,374)
---------- ----------
Long-term debt $ 345,946 $4,942,213
========== ==========
</TABLE>
In March 1998, the Company amended its revolving credit facility to increase
its availability for working capital purposes for a total facility of $11.0
million and to extend the maturity, with monthly installments of principal
of approximately $120,800 beginning in February 1999, with the remaining
principal balance due in July 2000. Due to the non-compliance with certain
financial covenants at December 31, 1998, all of the debt except capital
lease obligations was classified as current as of December 31, 1998. In
December 1999, in conjunction with its sale of a subsidiary, the Company
paid off this credit facility and replaced it with a new revolving facility,
which allows for maximum borrowings of $2,000,000. The amount available
under this facility at December 31, 1999 was $462,487. The Company also
amended its loan covenant requirements and as a result, the Company was in
compliance with its single remaining loan covenant requiring a minimum cash
balance of $3.1 million at December 31, 1999. This minimum cash requirement
decreases to $1.1 million at December 31, 2000.
As of December 31, 1999, approximate future principal maturities of notes
payable and capital lease obligations for each of the next five years are as
followings:
<TABLE>
<CAPTION>
Year ended December 31,
<S> <C>
2000 $ 1,126,374
2001 4,252,445
2002 608,156
2003 81,612
------------
$ 6,068,587
=============
</TABLE>
F-20
<PAGE> 47
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1998 and 1999
NOTE I - STOCKHOLDERS' EQUITY
Preferred Stock
In June 1997, the Company issued 10.0 million shares of Class A Redeemable
Preferred Stock (the "Class A Preferred") and warrants to purchase up to
11.5 million shares of common stock for a total purchase price of $15.0
million. Dividends accrue at the rate of 10% per annum and are cumulative.
The Class A Preferred may be redeemed at any time at the option of the
Company at a price equal to $1.50 per share plus accrued dividends. If the
holder so demands and after redemption of the Class B Senior Redeemable
Preferred Stock described below, five years from the date of issuance, the
Class A Preferred must be redeemed by the Company at a price equal to $1.50
per share plus accrued dividends. Each warrant is exercisable for five years
following the issuance of the Class A Preferred and entitles the holder to
purchase one share of common stock for $1.50 per share subject to possible
downward adjustment based on any private placement of the Company's
preferred or common stock for less than $1.50 per share. A portion of the
warrants may be canceled by the Company in the event of an early redemption
of all of the Class A preferred. The Class A preferred is recorded at cost,
net of expenses, plus $4,900,434 in undeclared dividends and accretion.
Class B Senior Redeemable Preferred Stock
In March 1998, the Company issued 5,333,336 shares of Class B Senior
Redeemable Preferred Stock (the "Class B Preferred") and warrants to
purchase up to 5.4 million shares of common stock for a total purchase price
of $8 million. Dividends accrue at the rate of 15% per annum, are cumulative
and compound annually. The Class B preferred may be redeemed 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, five years from the date of
issuance, the Class B Preferred must be redeemed by the Company at a price
equal to $1.50 per share plus accrued dividends. In the event of redemption
of the Class A Preferred, the Company must simultaneously redeem the Class B
Preferred. Each warrant is exercisable for five years following the issuance
of the Class B Preferred and entitles the holder to purchase one share of
common stock for $1.50 per share subject to possible downward adjustment
based on any private placement of the Company's preferred or common stock
for less than $1.50 per share. A portion of the warrants may be canceled by
the Company in the event of an early redemption of all of the Class B
Preferred. The Class B Preferred is recorded at cost, net of expenses, plus
$2,644,424 in undeclared dividends and accretion.
Common Stock Warrants
In addition to the warrants issued in conjunction with the Class A Preferred
and Class B Preferred described above, the Company has other warrants
outstanding. At December 31, 1999, the Company had outstanding warrants to
purchase up to 183,750 shares of common stock at $1.50 per share,
exercisable until November 15, 2009, and warrants to purchase 238,603 shares
of common stock at $4.24 per share, exercisable until June 2005.
F-21
<PAGE> 48
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1998 and 1999
NOTE J - STOCKHOLDERS' EQUITY - Continued
Restricted Stock
The Company has a Non-Employee Directors' Restricted Stock Award Plan which
provides for awards of common stock to the non-employee directors upon
election to the board or every five years. In 1998 and 1999, the directors
were issued 25,000 and 0 shares, respectively. The Company is recognizing
the expense related to this issuance over the vesting period, which ends in
2001 through 2003. The related expense recognized was immaterial in both
years. At December 31, 1998 and 1999, 69,000 and 42,000, shares were
unvested, respectively.
NOTE K - STOCK PLANS
As of December 31, 1999, 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, 1999,
4,410,613 shares of common stock were reserved for issuance under the five
plans, of which 3,106,825 were available for future option grants and
restricted stock awards. A summary of the Company's stock option activity
and related information is as follows:
<TABLE>
<CAPTION>
Range of Weighted average
Number of shares exercise prices exercise prices
underlying options per share per share
------------------ --------------- ----------------
<S> <C> <C> <C>
Outstanding at December 31, 1996 1,151,753 $0.97 - $10.61 $ 3.99
Granted 1,366,626 $2.25 - $ 6.50 $ 2.83
Exercised (7,018) $0.97 $ 0.97
Forfeited (304,886) $0.97 - $10.61 $ 4.71
Canceled (500,486) $6.00 - $10.61 $ 7.31
---------
Outstanding at December 31, 1997 1,705,989 $0.97 - $10.61 $ 1.97
Granted 1,256,601 $0.69 - $ 2.13 $ 1.55
Exercised (95,774) $0.97 - $ 1.50 $ 1.30
Forfeited (307,982) $0.97 - $ 6.50 $ 2.74
Canceled (91,666) $2.13 - $ 2.50 $ 2.40
---------
</TABLE>
F-22
<PAGE> 49
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1998 and 1999
NOTE K - STOCK PLANS - Continued
<TABLE>
<CAPTION>
Range of Weighted average
Number of shares exercise prices exercise prices
underlying options per share per share
------------------ --------------- --------------
<S> <C> <C> <C>
Outstanding at December 31, 1998 2,467,168 $0.69 - $10.61 $ 2.57
Granted -- -- --
Exercised -- -- --
Forfeited (1,047,900) $0.69 - $10.61 $ 2.98
Canceled (115,480) $2.13 - $ 2.50 $ 2.30
--------------
Outstanding at December 31, 1999 1,303,788 $0.69 - $ 2.50 $ 1.83
============== ============== ==============
Exercisable at December 31, 1997 369,833 $0.97 - $10.61 $ 1.36
============== ============== ==============
Exercisable at December 31, 1998 550,360 $0.97 - $10.61 $ 2.36
============== ============== ==============
Exercisable at December 31, 1999 1,065,358 $0.69 - $ 2.50 $ 1.89
============== ============== ==============
</TABLE>
Additional information regarding stock options by range of exercise prices
as of December 31, 1999 is as follows:
<TABLE>
<CAPTION>
Options Outstanding Options Exercisable
--------------------------------------------------------
Number of Weighted Average Weighted Average Number of
Exercise Price Options Exercise Price Contract Life Options Exercise Price
-------------- --------- ---------------- --------------- --------- --------------
<S> <C> <C> <C> <C> <C>
$0.68 - $0.97 211,479 $0.75 7.48 105,479 $0.82
$1.50 - $2.50 1,092,309 2.04 7.13 959,879 2.00
--------- ---- ---- --------- ----
Total or average 1,303,788 $1.83 7.18 1,065,358 $1.89
========= ==== ==== ========= ====
</TABLE>
As a part of certain employee terminations in 1997, the Company modified the
terms of the terminated employees' stock options to purchase 187,143 shares
of common stock, to immediately fully vest these options and to extend the
exercise period that the terminated employees have to exercise the options.
F-23
<PAGE> 50
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1998 and 1999
NOTE K - 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 was estimated at the date of grant using a minimum
value option valuation method for options granted prior to the IPO and a
Black-Scholes option valuation model for options granted after the IPO with
the following weighted-average assumptions for 1997 and 1998, respectively:
a risk-free interest rate of 6.20% and 5.64%; a dividend yield of 0%;
volatility factor of the expected market price of the Company's common stock
of 78% and 99%; and a weighted-average expected life of the option of 4
years. No options were granted in 1999.
The Black-Scholes option valuation model was developed for use in estimating
the fair value of traded options which have no vesting restrictions and are
fully transferable. In addition, option valuation models requires the input
of highly subjective assumptions including the expected stock price
volatility. Because the Company's stock options have characteristics
significantly different from those of traded options, and because changes in
the subjective input assumptions can materially affect the fair value
estimates, in management's opinion, the existing models do not necessarily
provide a reliable single measure of the fair value of its stock options.
The weighted average fair value of options granted in 1997, and
1998 is $1.75 and $1.53 per share, respectively. No options were granted in
1999.
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense over the options' vesting period. The
Company's pro forma information follows:
<TABLE>
<CAPTION>
1997 1998 1999
--------------- ------------- -------------
<S> <C> <C> <C>
Pro forma net loss $ (19,297,820) $ (16,028,422) $ (5,631,250)
Pro forma net loss per share of common stock $ (1.27) $ (1.17) $ (0.56)
</TABLE>
F-24
<PAGE> 51
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1998 and 1999
NOTE L - INCOME TAXES
The components of income tax expense (benefit) from continuing operations
are:
<TABLE>
<CAPTION>
Year ended December 31, 1997 1998 1999
-------- -------- -----------
<S> <C> <C> <C>
Current -- Federal $ -- $ -- $(4,000,000)
Deferred -- -- --
-------- -------- -----------
$ -- $ -- $(4,000,000)
======== ======== ===========
</TABLE>
Income taxes have been allocated between continuing operations and other
items in accordance with SFAS No. 109, Accounting for Income Taxes. The net
loss from continuing operations includes the related tax benefit; remaining
income taxes have been allocated to the cumulative effect of change in
accounting principle and the gain on disposal of subsidiaries, including
taxes related to approximately $5,000,000 of non-deductible goodwill and
$500,000 of state taxes currently payable.
For the year ended December 31, 1999, net operating loss carryforwards of
approximately $1,700,000 will be utilized to offset currently taxable
income. Deferred tax assets arising from the net operating loss
carryforwards had been fully offset by a valuation allowance as of December
31, 1998. As of December 31, 1999, the Company has net operating loss
carryforwards of approximately $56,000,000 for federal income tax purposes.
Such carryforwards, which expire at various dates through 2018, could be
available to reduce future federal taxable income subject to limitations
resulting from substantial changes in the Company's ownership.
The significant components of the Company's deferred tax assets and
liabilities are:
<TABLE>
<CAPTION>
1998 1999
----------- -----------
<S> <C> <C>
Deferred tax assets
Net operating loss carryforwards $21,861,730 $21,234,978
Accounts receivable allowance 288,098 149,081
Inventory reserves 202,837 67,476
Vacation accrual 102,686 36,161
Other 12,480 9,500
----------- -----------
22,467,831 21,497,196
Valuation allowance (20,017,710) (19,569,543)
Deferred tax liabilities
Accumulated depreciation (1,754,542) (1,927,653)
Market entry costs (695,579) --
----------- -----------
Net deferred assets $ -- $ --
=========== ===========
</TABLE>
The net change in the valuation allowance for deferred tax assets was an
increase (decrease) of $8,078,609, $5,990,069 and ($448,167) in 1997, 1998
and 1999, respectively.
The reconciliation of income tax attributable to operations computed at
the U.S. Federal statutory rates to income tax expense is:
<TABLE>
<CAPTION>
1997 1998 1999
------- -------- --------
<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) (4.0)
Nondeductible expenses 1.0 1.1 --
Effect of valuation allowance 37.0 36.9 4.0
----- ----- -----
--% --% (34.0)%
===== ===== =====
</TABLE>
F-25
<PAGE> 52
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1998 and 1999
NOTE M - COMMITMENTS
The Company leases sites and other facilities for its transmitters,
terminals and other equipment and also leases office space under
noncancellable operating leases which expire at various dates. As of
December 31, 1999, approximate minimum annual rental payments required by
these operating leases are as follows:
Year ending December 31,
<TABLE>
<CAPTION>
<S> <C>
2000 $ 3,133,440
2001 1,555,700
2002 875,730
2003 504,072
2004 392,807
Thereafter 458,011
------------
$ 6,919,760
=============
</TABLE>
Rental expense for the years ended December 31, 1997, 1998 and 1999 was
approximately $4.1 million, $3.6 million and $3.6 million, respectively.
As of December 31, 1999, the Company had three letters of credit outstanding
for $290,000. These letters of credit expire in 2000, and are collateralized
by certificates of deposit of $302,000.
NOTE N - RELATED PARTY TRANSACTIONS
During 1997, 1998 and 1999, the Company recognized revenues of approximately
$5,553, $0 and $0, respectively, from network services and product sales,
from entities owned by its stockholders. During 1997, 1998 and 1999, the
Company expensed $104,000, $0, and $0, respectively, for services purchased
(including purchase, installation and maintenance costs and site lease
expense) from entities owned by related parties.
NOTE O - EMPLOYEE BENEFIT PLAN
The Company provides a 401(k) plan that provides retirement benefits to
substantially all employees at least 21 years of age with at least 90 days
of continuous service. The Company is required to match 10% of each
participant's contributions up to 1% of their salary or may make
contributions at the discretion of the Board of Directors, subject to
statutory limitations. The Company's contributions were not material in
1997, 1998 or 1999.
F-26
<PAGE> 53
Preferred Networks, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - CONTINUED
December 31, 1998 and 1999
NOTE P - SEGMENT INFORMATION
In 1998, the Company's three reportable industry segments were: (i) one-way
wireless networks, whereby companies purchase non-branded, wholesale network
services from the Company for resale to their customers (through its PNI
Access Services Division); (ii) network engineering and maintenance
services, supporting one-way and two-way wireless technologies (through
Preferred Technical Services, Inc.) and (iii) pager and cellular product
repair services, product sales and inventory management and fulfillment
through EPS Wireless, Inc.) These industry segments were all operating in
separate, one hundred percent owned, subsidiaries. During 1999, the Company
sold two of its subsidiaries and as a result, at December 31, 1999, the
Company is operating only through its PNI Access Services Division with the
other previous year industry segments included as discontinued operations.
F-27
<PAGE> 54
Report of Independent Certified Public Accountants
on Schedule II
Board of Directors
Preferred Networks, Inc.
In connection with our audit of the consolidated financial statements of
Preferred Networks, Inc. and Subsidiaries referred to in our report dated March
6, 2000, which is included in the annual report to security holders and
incorporated by reference in Part II of this form, we have also audited
Schedule II for the year ended December 31, 1999. In our opinion, the schedule
presents fairly, in all material respects, the information required to be set
forth therein as of and for the year ending December 31, 1999.
/s/ GRANT THORNTON LLP
Atlanta, Georgia
March 6, 2000
F-28
<PAGE> 55
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, 1998, and for each of the two years in the period ended
December 31, 1998, and have issued our report thereon dated April 15, 1999,
except for Note D and Note H as to which the date is March 28, 2000. Our audits
also included the financial statement schedule listed in Item 14 (a) 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 1998 and 1997 financial statement schedule 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.
/s/ ERNST & YOUNG LLP
Atlanta, Georgia
April 15, 1999, except for Note D and Note H
as to which the date is March 28, 2000.
F-29
<PAGE> 56
Preferred Networks, Inc.
SCHEDULE II - VALUATION AND QUALIFYING ACCOUNTS
<TABLE>
<CAPTION>
Column A Column B Column C Column D Column E
-------------- -------------- -------------- --------------- --------------
Additions
Balance at Charged to Balance at
Beginning Costs and Deductions End of
Description of Period Expenses Describe (1)(2) Period
----------- -------------- -------------- --------------- --------------
<S> <C> <C> <C> <C>
Year ended December 31, 1999
Reserve and allowance deducted from
Asset accounts
Allowance for doubtful accounts $ 241,844 $ 395,938 $ 245,051 $ 392,731
Valuation allowance of deferred taxes $ 20,017,710 $ -- $ 448,167 $ 19,569,543
Year ended December 31, 1998
Reserve and allowance deducted from
Asset accounts
Allowance for doubtful accounts $ 553,080 $ 413,756 $ 724,992 $ 241,844
Valuation allowance of deferred taxes 14,027,641 5,990,069 -- 20,017,710
Year ended December 31, 1997
Reserve and allowance deducted from
Asset accounts
Allowance for doubtful accounts $ 227,476 $ 614,778 $ 289,174 $ 553,080
Valuation allowance of deferred taxes 5,949,032 8,078,609 -- 14,027,641
</TABLE>
(1) - Bad Debt write offs.
(2) - Column C-2 "Charged to other accounts" has been omitted as the response
is "none".
F-30
<PAGE> 1
PREFERRED NETWORKS, INC. EXHIBIT 21
SUBSIDIARIES
PNI Systems, LLC
PNI Spectrum, LLC
PNI Georgia, Inc.
ECC Acquisition Corporation
Mercury Paging & Communications, Inc.
HTB Communications Inc.
M.P.C. Distributors Inc.
Custom Page, Inc.
<PAGE> 1
EXHIBIT 23.1
CONSENT OF INDEPENDENT PUBLIC ACCOUNTANTS
We hereby consent to the incorporation by reference in the Registration
Statement No. 333-3962 on Form S-8, Registration Statement No. 333-3824 on Form
S-8, Registration Statement No. 333-3826 on Form S-8 and Registration No.
333-33879 on Form S-8 of our reports dated March 6, 2000 relating to the
consolidated financial statements and schedule of Preferred Networks, Inc. and
subsidiaries appearing in the Company's annual report on Form 10-K for the year
ended December 31, 1999.
/s/ Grant Thornton LLP
Atlanta, Georgia
March 28, 2000
<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, Form S-8 No. 333-3826 and Form
S-8 No. 333-33879) of Preferred Networks, Inc. and in the related Prospectuses
of our reports dated April 15, 1999, except for Note D and Note H as to which
the date is March 28, 2000, with respect to the 1998 and 1997 consolidated
financial statements and schedule of Preferred Networks, Inc. included in the
Annual Report (Form 10-K) for the year ended December 31, 1999.
/s/ ERNST & YOUNG LLP
Atlanta, Georgia
March 28, 2000
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS OF PREFERRED NETWORK, INC. FOR THE TWELVE MONTH PERIOD
ENDED DECEMBER 31, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1999
<EXCHANGE-RATE> 1
<CASH> 5,489,898
<SECURITIES> 0
<RECEIVABLES> 1,925,324
<ALLOWANCES> (392,731)
<INVENTORY> 723,888
<CURRENT-ASSETS> 9,033,787
<PP&E> 27,919,970
<DEPRECIATION> (12,993,495)
<TOTAL-ASSETS> 39,142,754
<CURRENT-LIABILITIES> 4,667,021
<BONDS> 4,942,213
27,430,576
0
<COMMON> 58,643,698
<OTHER-SE> (56,542,754)
<TOTAL-LIABILITY-AND-EQUITY> 39,142,754
<SALES> 3,999,189
<TOTAL-REVENUES> 17,033,505
<CGS> 3,777,252
<TOTAL-COSTS> 12,071,550
<OTHER-EXPENSES> 14,992,267<F1>
<LOSS-PROVISION> 395,938
<INTEREST-EXPENSE> 1,638,331
<INCOME-PRETAX> (11,668,643)
<INCOME-TAX> 4,000,000<F2>
<INCOME-CONTINUING> (7,668,643)
<DISCONTINUED> 3,860,764
<EXTRAORDINARY> 0
<CHANGES> (1,209,397)
<NET-INCOME> (5,017,276)
<EPS-BASIC> (0.52)
<EPS-DILUTED> (0.52)
<FN>
<F1>INCLUDES IMPAIRMENT CHARGE OF 1,339,830
<F2>INCOME TAX BENEFIT
</FN>
</TABLE>
<TABLE> <S> <C>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
FINANCIAL STATEMENTS OF PREFERRED NETWORKS, INC. FOR THE YEAR ENDED DECEMBER 31,
1998 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
<RESTATED>
<MULTIPLIER> 1
<CURRENCY> U.S. DOLLARS
<S> <C>
<PERIOD-TYPE> YEAR
<FISCAL-YEAR-END> DEC-31-1998
<PERIOD-START> JAN-01-1998
<PERIOD-END> DEC-31-1998
<EXCHANGE-RATE> 1
<CASH> 6,702,178
<SECURITIES> 0
<RECEIVABLES> 5,365,414
<ALLOWANCES> (758,952)
<INVENTORY> 2,928,217
<CURRENT-ASSETS> 14,658,768
<PP&E> 32,372,263
<DEPRECIATION> (10,816,646)
<TOTAL-ASSETS> 60,032,543
<CURRENT-LIABILITIES> 25,162,826
<BONDS> 345,946
23,968,002
0
<COMMON> 61,458,690
<OTHER-SE> (50,902,921)
<TOTAL-LIABILITY-AND-EQUITY> 60,032,543
<SALES> 6,171,898
<TOTAL-REVENUES> 19,566,847
<CGS> 6,245,636
<TOTAL-COSTS> 14,857,781
<OTHER-EXPENSES> 15,912,973 <F1>
<LOSS-PROVISION> 413,756
<INTEREST-EXPENSE> 1,658,794
<INCOME-PRETAX> (12,862,701)
<INCOME-TAX> 0 <F2>
<INCOME-CONTINUING> (12,862,701)
<DISCONTINUED> (2,328,734)
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> (15,191,435)
<EPS-BASIC> (1.12)
<EPS-DILUTED> (1.12)
<FN>
<F1>INCLUDES IMPAIRMENT CHARGE OF 1,339,830
<F2>INCOME TAX BENEFIT
</FN>
</TABLE>
