<PAGE> 1
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 1998
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 1-12866
GST TELECOMMUNICATIONS, INC.
(Exact name of Registrant as Specified in its Charter)
Canada Not Applicable
(State or Other Jurisdiction (IRS Employer Identification
of Incorporation or Organization) Number)
4001 Main Street, Vancouver, WA 98663
(Address of Principal Executive Offices) (Zip Code)
Registrant's Telephone Number, Including Area Code: (360) 356-7100
N/A
(Former Name, Former Address and Former Fiscal Year, if Changed Since Last
Report)
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 N
- -
Indicate the number of shares outstanding of each of the issuer's
classes of common stock, as of the latest practicable date: At November 12,
1998, there were outstanding 36,244,066 Common Shares, without par value, of the
Registrant.
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GST TELECOMMUNICATIONS, INC.
INDEX
PAGE(S)
PART I: FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS:
Consolidated Condensed Balance Sheets - September 30,
1998 (unaudited) and December 31, 1997 2
Consolidated Condensed Statements of Operations
- Three Months Ended September 30, 1998 and
1997 and Nine Months Ended September 30, 1998 and 1997
(unaudited) 3
Consolidated Condensed Statements of Cash Flows
- Nine Months Ended September 30, 1998 and 1997
(unaudited) 4
Notes to Consolidated Condensed Financial
Statements (unaudited) 5-7
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS 8-15
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Not Required
PART II: OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 16
ITEM 5. OTHER INFORMATION 16
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 16
SIGNATURES 17
<PAGE> 3
GST Telecommunications, Inc.
Consolidated Condensed Balance Sheets
September 30, 1998 (unaudited) and December 31, 1997
(In thousands)
<TABLE>
<CAPTION>
September 30, 1998 December 31, 1997 (1)
------------------ -----------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 103,560 $ 199,053
Restricted cash and investments 33,430 31,731
Accounts receivable, net 32,779 27,324
Investments 46 7,619
Prepaid expenses and other current assets 12,030 16,539
----------- ---------
Total current assets 181,845 282,266
----------- ---------
Restricted investments 332,024 112,719
Property, plant and equipment 605,542 433,680
less accumulated depreciation (45,783) (26,785)
----------- ---------
559,759 406,895
Other assets 160,229 117,908
less accumulated amortization (48,606) (21,614)
----------- ---------
111,623 96,294
$ 1,185,251 $ 898,174
=========== =========
LIABILITIES AND SHAREHOLDERS' DEFICIT
Current liabilities:
Accounts payable $ 31,773 $ 14,798
Accrued liabilities 37,837 30,869
Current portion of capital lease obligations 6,180 6,286
Current portion of long term debt 5,342 4,579
Other current liabilities 6,799 993
----------- ---------
Total current liabilities 87,931 57,525
----------- ---------
Long term interest payable 16,344 3,551
Capital lease obligations, less current portion 19,301 13,994
Long term debt, less current portion 1,083,862 763,292
Minority interest in subsidiaries - 12,732
Preference shares 58,088 54,635
Shareholders' deficit:
Common shares 238,395 221,105
Commitment to issue shares - 604
Accumulated deficit (318,670) (229,264)
--------- ---------
Total shareholders' deficit (80,275) (7,555)
----------- ---------
$ 1,185,251 $ 898,174
=========== =========
</TABLE>
(1) The information in this column was derived from the Company's audited
financial statements as of December 31, 1997.
See notes to consolidated condensed financial statements.
2
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GST Telecommunications, Inc.
Consolidated Condensed Statement of Operations
(In thousands, except share and per share amounts)
(unaudited)
<TABLE>
<CAPTION>
Three Months Nine Months
Ended September 30, Ended September 30,
1998 1997 1998 1997
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Revenue:
Telecommunication and other services $ 42,341 $ 23,855 $ 110,014 $ 64,156
Telecommunication products 1,493 7,188 3,391 18,594
------------ ------------ ------------ ------------
43,834 31,043 113,405 82,750
------------ ------------ ------------ ------------
Operating costs and expenses:
Network expenses 28,233 18,000 75,386 50,522
Facilities administration and maintenance 4,201 2,471 11,857 8,979
Cost of product revenues 810 2,433 2,207 6,169
Selling, general and administrative 24,871 30,096 69,932 64,259
Research and development -- 577 -- 1,906
Depreciation and amortization 12,420 9,326 32,164 19,470
------------ ------------ ------------ ------------
70,535 62,903 191,546 151,305
------------ ------------ ------------ ------------
Loss from operations (26,701) (31,860) (78,141) (68,555)
------------ ------------ ------------ ------------
Other expenses (income):
Interest income (7,492) (3,649) (19,220) (6,187)
Interest expense 27,830 16,344 74,355 32,231
Other 16,275 1,266 (43,870) (5,391)
------------ ------------ ------------ ------------
36,613 13,961 11,265 20,653
------------ ------------ ------------ ------------
Loss before income taxes
and minority interest (63,314) (45,821) (89,406) (89,208)
------------ ------------ ------------ ------------
Income taxes -- 16 -- (831)
Minority interest in income of subsidiaries -- (221) -- (665)
------------ ------------ ------------ ------------
-- (205) -- (1,496)
------------ ------------ ------------ ------------
Net loss $ (63,314) $ (46,026) $ (89,406) $ (90,704)
============ ============ ============ ============
Net loss per share
- basic and diluted (1) $ (1.76) $ (1.72) $ (2.60) $ (3.70)
============ ============ ============ ============
Weighted average shares outstanding
- basic and diluted 36,063,767 26,717,826 35,737,086 25,316,772
============ ============ ============ ============
</TABLE>
(1) Net loss per share is increased for preference shares' accretion
totaling $3,453 and $2,969 for the nine-month periods ended September
30, 1998 and 1997, respectively.
See notes to consolidated condensed financial statements.
3
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GST Telecommunications, Inc.
Consolidated Condensed Statement of Cash Flows
(In thousands)
(Unaudited)
<TABLE>
<CAPTION>
Nine Months
Ended September 30,
1998 1997
--------- ---------
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Net loss $ (89,406) $ (90,704)
Adjustments to reconcile net loss to net cash used
in operating activities:
Minority interest in income of subsidiary -- 665
Depreciation and amortization 36,977 21,556
Deferred income taxes -- (899)
Accretion of interest 35,112 12,493
Stock compensation 1,213 9,963
Loss on disposal of assets 56 679
Loss on equity investment 593 1,459
Gain on sale of subsidiary shares (61,292) (7,376)
Loss reserve on long term assets 15,668 --
Changes in non-cash operating working capital:
Accounts receivable (15,165) (7,631)
Prepaid expenses and other current assets 1,463 (7,373)
Accounts payable and accrued liabilities 6,304 25,851
Other liabilities 14,704 (206)
--------- ---------
Net cash used in operating activities (53,773) (41,523)
--------- ---------
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisition of subsidiaries, net of cash acquired (35,471) (946)
Proceeds from sale of investments 327 --
Purchase of investments -- (3,247)
Purchase of fixed assets (147,822) (159,447)
Purchase of other assets (2,638) (4,887)
Proceeds from sale of subsidiary shares, net 85,074 27,105
Cash disposed of in sale of subsidiary (5,252) --
Proceeds from the sale of fixed assets 3,584 5,774
Change in investments restricted for fixed asset purchases (237,685) (58,701)
--------- ----------
Net cash used in investing activities (339,883) (194,349)
--------- ---------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from long term debt 300,562 326,545
Principal payments on long term debt and capital leases (22,714) (4,527)
Issuance of common shares, net 16,578 16,503
Issuance of preferred shares -- 48,679
Deferred financing costs (12,945) (11,780)
Change in investments restricted to finance interest payments 16,682 (97,049)
--------- ----------
Net cash provided by financing activities 298,163 278,371
--------- ----------
Net increase (decrease) in cash and cash equivalents (95,493) 42,499
Cash and cash equivalents at beginning of period 199,053 13,363
--------- ----------
Cash and cash equivalents at end of period $ 103,560 $ 55,862
========== ==========
</TABLE>
See notes to consolidated condensed financial statements.
4
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GST TELECOMMUNICATIONS, INC.
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS
(IN THOUSANDS EXCEPT SHARE AMOUNTS)
(UNAUDITED)
1. BASIS OF PRESENTATION
The accompanying consolidated condensed financial statements have been
prepared by the Company, without audit, pursuant to the rules and regulations of
the Securities and Exchange Commission. Certain information or footnote
disclosures normally included in financial statements prepared in accordance
with generally accepted accounting principles have been condensed, or omitted,
pursuant to such rules and regulations. In the opinion of management, the
statements include all adjustments necessary (which are of a normal and
recurring nature) for the fair presentation of the results of the interim
periods presented. The results of operations for the periods presented are not
necessarily indicative of the results to be expected for the full fiscal year or
for subsequent periods. These financial statements should be read in conjunction
with the Company's audited consolidated financial statements for the three
months ended December 31, 1997, as included in the Company's Transition Report
on Form 10-K for the three month transition period ended December 31, 1997.
2. BASIC AND DILUTED NET LOSS PER SHARE
Basic and diluted net loss per share is computed using the weighted
average number of common shares outstanding during the period. Common
equivalent shares consisting of options and warrants to purchase common shares
and convertible securities were antidilutive for all periods presented and were
not included in determining diluted weighted average shares outstanding. If
the Company had reported net income for the periods presented, the weighted
average number of common equivalent shares used to determine diluted net loss
per share would have increased by 9,366,655 and 9,912,578 for the three and
nine month periods ended September 30, 1998, respectively, and by 8,580,432 and
8,131,064 for the three and nine month periods ended September 30, 1997,
respectively.
3. SHAREHOLDERS' EQUITY
Shares issued and outstanding are as follows:
September 30, 1998 December 31, 1997
------------------ -----------------
Common shares, no par value 36,076,369 34,564,898
Unlimited number of
common shares authorized
5
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4. SUPPLEMENTAL CASH FLOW INFORMATION
<TABLE>
<CAPTION>
Nine Months
Ended September 30,
1998 1997
------ ------
<S> <C> <C>
Cash Transactions:
Cash paid for interest $ 30,681 $ 4,188
Cash paid for income taxes -- 638
Non-Cash Transactions:
Recorded in business combinations:
Assets 45,719 12,151
Liabilities 7,900 3,990
Common shares 2,348 8,161
Disposition of subsidiary:
Assets 35,480 --
Liabilities 4,218 --
Minority interest 12,732 --
Assets acquired through capital leases 9,347 21,241
Amounts in accounts payable and accrued
liabilities for the purchase of fixed assets
at period end 24,560 19,718
</TABLE>
5. DISPOSAL OF SUBSIDIARY
In February 1998, the Company completed the sale of its remaining 63%
interest in NACT Telecommunications, Inc. for net proceeds of approximately
$85.0 million and recorded a gain of approximately $61.3 million on such sale.
6. ADOPTION OF NEW ACCOUNTING STANDARD
The Company has adopted the provisions of Statement of Financial Accounting
Standards ("SFAS") No. 130, "Reporting Comprehensive Income." The objective of
SFAS No. 130 is to report all changes in equity that result from transactions
and economic events other than from transactions with owners. Comprehensive
income is the total of net income and all other non-owner changes in equity.
There was no effect on the Company's financial statements resulting from the
adoption of SFAS No. 130 as the Company has no non-owner changes in equity.
6
<PAGE> 8
7. RECENT DEVELOPMENTS
(a) On October 28, 1998, Magnacom Wireless, LLC ("Magnacom"), a company
controlled by the Company's former Chairman and Chief Executive Officer, filed a
petition for reorganization under Chapter 11 of the United States Bankruptcy
Code. As of September 30, 1998, the Company had paid Magnacom approximately
$14.6 million as prepayments for future PCS services and had recorded
approximately $1.1 million in other receivables from Magnacom. For the three
months ended September 30, 1998, the Company recorded a loss reserve of $15.7
million for the full amount of the prepayments and receivables related to
Magnacom.
(b) The Company is investigating certain matters with respect to compliance
with covenants contained in the indentures relating to certain of the Company's
and its subsidiaries' outstanding notes. See Item 5 of Part II hereof.
7
<PAGE> 9
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Certain information included in this Quarterly Report may be deemed to
include forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933, as amended, and Section 21E of the Securities Exchange
Act of 1934, as amended, that involve risk and uncertainty, such as information
relating to expected capital expenditures and expected trends in operating
losses and cash flows, as well as any statements preceded by, followed by, or
that include the words "intends," "estimates," "believes," "expects,"
"anticipates," "should," "could," or similar expressions, and other statements
contained herein regarding matters that are not historical facts. Although the
Company believes that its expectations are based on reasonable assumptions, it
can give no assurance that its expectations will be achieved. The important
factors that could cause actual results to differ materially from those in the
forward-looking statements herein (the "Cautionary Statements") include, without
limitation, risks associated with the Company's operating losses, risks relating
to the Company's development and expansion and possible inability to manage
growth, risks relating to the Company's significant capital requirements,
substantial indebtedness and possible inability to service its debt, risks
relating to competition and regulatory developments, risks relating to
implementing local and enhanced services, risks relating to its long distance
business, as well as other risks referenced from time to time in the Company's
filings with the Securities and Exchange Commission, including Amendment No. 2
to the Company's Form S-4 as filed on October 7, 1998 and the Company's Form
10-K for the transition period ended December 31, 1997. All subsequent written
and oral forward-looking statements attributable to the Company or persons
acting on its behalf are expressly qualified in their entirety by the Cautionary
Statements. The Company does not undertake any obligation to release publicly
any revisions to such forward-looking statements to reflect events or
circumstances after the date hereof or to reflect the occurrence of
unanticipated events.
OVERVIEW
GST Telecommunications, Inc. (the "Company") provides a broad range of
integrated telecommunications products and services, primarily to business
customers located in California, Hawaii and other western continental states. As
a facilities-based integrated communications provider ("ICP"), the Company
operates state-of-the-art, digital telecommunications networks that provide an
alternative to incumbent local exchange carriers. The Company's full line of
products, which offer a "one-stop" solution to customers' telecommunications
services requirements, include local dial tone, long distance, Internet, data
transmission and private line services.
The Company's digital networks currently serve 42 markets in Arizona,
California, Hawaii, Idaho, New Mexico, Oregon, Texas and Washington. The Company
also constructs, markets and manages longhaul fiber optic facilities in Arizona,
California and Hawaii, and plans to market and manage similar facilities in
Oregon. The Company's longhaul fiber optic facilities currently extend over
1,300 miles and approximately 1,800 route miles are under construction and
expected to become operational over the next 12 months.
Management believes that the formation of an integrated regional network
through the interconnection of the Company's individual networks with its
longhaul fiber optic facilities will provide significant competitive and
economic advantages. In addition to providing the Company
8
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with a larger addressable market, the interconnection of its networks is
expected to allow the Company to carry a portion of its intra-regional
telecommunications traffic on-net, thereby improving operational margins by
reducing payments to other carriers for use of their facilities. In addition,
increasing demand for high bandwidth capacity has created opportunities for the
Company to sell, swap, or lease capacity on its network to other communications
carriers.
The Company plans to build specific network segments or to lease capacity
as economically justified and as the demands of its customers warrant.
Management believes that pursuing the "smart-build" approach should permit the
Company to provide for ongoing capital expenditures on a "success basis" and
allow the Company to build its customer base through an increased focus on
sales, marketing and operations support systems. "Smart-builds" also provide the
Company with the ability to address attractive service areas selectively
throughout its targeted markets.
RESULTS OF OPERATIONS
Revenues. Total revenues for the three and nine month periods ended
September 30, 1998 increased $12.8 million, or 41.2%, and $30.7 million, or
37.0%, respectively, over the comparable three and nine month periods ended
September 30, 1997. Telecommunications and other services revenues for the three
and nine month periods ended September 30, 1998 increased $18.5 million, or
77.5%, and $45.9 million, or 71.5%, respectively, over the comparable periods in
the previous year. The increase in telecommunications and other services
revenues resulted primarily from strategic acquisitions, including the
acquisition of ICON Communications, Corp. ("ICON") in April 1998, and from
increased local service revenue generated by the Company's networks. To a lesser
extent, the increase in telecommunications and other services revenues resulted
from increased long distance, Internet and data services and from revenues
generated by the sale of network conduit and fiber systems. Telecommunications
products revenues for the three and nine month periods ended September 30, 1998
decreased $5.7 million, or 79.2%, and $15.2 million, or 81.8%, respectively,
over the three and nine months ended September 30, 1997. The decrease in product
revenues resulted from the sale of the Company's remaining interest in NACT
Telecommunications, Inc. ("NACT") in February 1998.
Operating Expenses. Total operating expenses for the three and nine month
periods ended September 30, 1998 increased $7.6 million, or 12.1%, and $40.2
million, or 26.6%, respectively, over the three and nine month periods ended
September 30, 1997. Network expenses, which include direct local and long
distance circuit costs, were 66.7 % and 68.5%, respectively, of
telecommunications and other services revenues for the three and nine month
periods ended September 30, 1998, compared to 75.5% and 78.7% for the comparable
periods in the previous year. The decrease in network expenses as a percentage
of revenue resulted from the inclusion of revenues from strategic acquisitions
and an increase in revenues for traffic carried on the Company's network as a
percentage of total telecommunications and other services revenues. Facilities
administration and maintenance expenses for the three and nine month periods
ended September 30, 1998 were 9.9% and 10.8%, respectively, of
telecommunications and other services revenues compared to 10.4% and 14.0% for
the comparable periods ended September 30, 1997. The primary reason for the
decrease in these expenses as a percent of telecommunications and other services
revenues is the inclusion of revenues from strategic acquisitions, substantially
all of which are not generated on the Company's networks.
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Cost of product revenues decreased $1.6 million, or 66.7%, and $4.0
million, or 64.2%, respectively, over the three and nine month periods ended
September 30, 1997. For the three and nine month periods ended September 30,
1998 cost of product revenues were 54.3% and 65.1%, respectively, of
telecommunications products revenues, compared to 33.8% and 33.2% for the
comparable periods ended September 30, 1997. The decrease in the dollar amount
of cost of product revenues and the increase in cost of product revenues as a
percent of product sales resulted from the sale of NACT. Research and
development costs reported in the three and nine month periods ended September
30, 1997 were related to activities at NACT.
Selling, general and administrative expenses decreased $5.2 million, or
17.4%, for the three month period ended September 30, 1998, and increased $5.7
million, or 8.8%, for the nine month period ended September 30, 1998 as compared
to the three and nine months ended September 30, 1997. For the three and nine
months ended September 30, 1997, the Company recorded a one-time, $7.4 million
non-cash compensation charge when 750,000 common shares were released from
escrow to certain of the Company's former executives. Excluding such charge,
selling, general and administrative expenses for the three and nine month
periods ended September 30, 1998 increased $2.2 million, or 9.8%, and $13.1
million, or 23.1%, respectively, over the three and nine months ended September
30, 1997. The increase is due to the expansion of the Company's local and
enhanced services operations, which has resulted in additional marketing,
management information and sales staff, and to selling, general and
administrative expenses of strategic acquisitions. As a percentage of total
revenue, selling, general and administrative expenses for the three and nine
month periods ended September 30, 1998 were 56.7% and 61.7%, respectively,
compared to 96.9% and 77.7% for the comparable periods ended September 30, 1997.
Depreciation and amortization for the three and nine month periods ended
September 30, 1998 increased $3.1 million and $12.7 million, respectively, over
the comparable periods in the previous year. The increase is attributable to
newly-constructed networks becoming operational and to the amortization of
intangible assets related to the Company's acquisitions. The Company expects
that depreciation will continue to increase as it expands its networks and
longhaul fiber optic facilities and installs additional switches. Depreciation
and amortization expense was 28.3% and 28.4% of total revenue for the three and
nine month periods ended September 30, 1998 compared to 30.0% and 23.5% for the
comparable periods ended September 30, 1997.
Other Expenses/Income. For the three and nine months ended September 30,
1998, the Company recorded net other expense of $36.7 million and $11.3 million,
respectively, compared to net other expense of $14.2 million and $22.1 million
for the comparable periods ended September 30, 1997. For the nine month period
ended September 30, 1998, net other income includes a $61.3 million gain
resulting from the sale of NACT. Excluding such gain, net other expense would
have increased $50.5 million for the nine months ended September 30, 1998 as
compared to the same period in the previous year. The increases in net other
expenses primarily relate to increased interest expense resulting from the
issuance in November and December 1997 of $144.0 million of 12.75% senior
subordinated accrual notes (the "Accrual Notes"), the issuance in May 1998 of
$500.0 million principal amount at maturity of 10.5% senior secured discount
notes (the "1998 Notes"), and from a $15.7 million loss reserve recorded in
September 1998 for amounts paid to Magnacom Wireless, LLC ("Magnacom"), a
company controlled by the Company's former Chairman and Chief Executive Officer.
As of September 30, 1998, the Company had paid Magnacom approximately $14.6
million as prepayments for future PCS services and had recorded approximately
$1.1 million in other receivables from Magnacom.
10
<PAGE> 12
Magnacom filed a petition for reorganization under Chapter 11 of the
United States Bankruptcy Code in October 1998.
Net Loss. Net loss for the three months ended September 30, 1998 increased
$17.3 million, or 37.6%, to $63.3 million from $46.0 million for the three
months ended September 30, 1997. Net loss for the nine months ended September
30, 1998 decreased $1.3 million, or 1.4%, to $89.4 million from $90.7 million
for the nine months ended September 30, 1997. Excluding the $61.3 million gain
on the sale of NACT and the $15.7 million loss reserve for amounts paid to
Magnacom, net loss would have been $135.0 million for the nine months ended
September 30, 1998, an increase of $44.3 million as compared to the nine months
ended September 30, 1997.
LIQUIDITY AND CAPITAL RESOURCES
The Company has incurred significant operating and net losses as a result
of the development and operation of its networks. The Company expects that such
losses will continue as the Company emphasizes the development, construction and
expansion of its networks and builds its customer base. Cash provided by the
Company's operations will not be sufficient to fund the expansion of its
networks, longhaul fiber optic facilities and services.
At September 30, 1998, the Company had approximately $1,114.7 million of
indebtedness outstanding and $58.1 million of 11.875% mandatorily redeemable
preference shares. In addition, as of September 30, 1998, the Company had $30.5
million of availability under a credit facility with Tomen America Inc. (the
"Tomen Facility") and $106.8 million of availability under a loan agreement with
Siemens Telecom Networks (the "Siemens Loan Agreement"). Although the Company's
liquidity was substantially improved as a result of proceeds received from the
sale of $312.4 million principal amount at maturity of 13.875% senior discount
notes and $39.1 million principal amount at maturity of 13.875% convertible
senior subordinated discount notes in December 1995 (collectively the "1995
Notes"), the sale of $265.0 million of 13.25% senior secured notes in May 1997
(the "Secured Notes"), the Accrual Notes and the 1998 Notes, the Company will
have significant debt service obligations. The Company will be required to make
principal and interest payments of approximately $22.1 million (of which $17.6
million will be made from funds securing the Secured Notes), $63.6 million (of
which $35.1 million will be made from funds securing the Secured Notes), $65.7
million (of which $17.6 million will be made from funds securing the Secured
Notes), $114.9 million and $111.5 million in the remainder of 1998 and in 1999,
2000, 2001 and 2002, respectively. In addition, the Company anticipates that
cash flow from operations will be insufficient to pay interest in cash on the
1995 Notes when such interest becomes payable in September 2001 and on the
Secured Notes starting in November 2000 once the amount pledged to fund the
first six interest payments on the Secured Notes is paid and to repay the 1995
Notes, the Secured Notes and the Accrual Notes in full and that such notes will
need to be refinanced. The ability of the Company to effect such refinancings
will be dependent upon the future performance of the Company, which will be
subject to prevailing economic conditions and to financial, business and other
factors beyond the control of the Company. There can be no assurance that the
Company will be able to improve its operating results or that the Company will
be able to meet its debt service obligations.
At September 30, 1998, the Company had cash, cash equivalents, and
investments, including restricted cash and investments, of approximately $469.1
million. The Company believes that the amounts on hand and borrowings expected
to be available under the Tomen
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<PAGE> 13
Facility and the Siemens Loan Agreement will provide sufficient funds
for the Company to expand its business as presently planned and to fund its
operating expenses through the end of fiscal 1999. Thereafter, the Company
expects to require additional financing. The extent of additional financing
needed will depend on, among other things, the rate of the Company's expansion
and the success of the Company's businesses. In the event that the Company's
plans or assumptions change or prove to be inaccurate, or its cash resources,
together with borrowings under the current financing arrangements, prove to be
insufficient to fund the Company's growth and operations, or if the Company
consummates additional acquisitions, the Company may be required to seek
additional sources of capital (or seek additional capital sooner than currently
anticipated). The Company may also seek to raise additional capital to take
advantage of favorable conditions in the capital markets. There can be no
assurance that additional financing will be available to the Company or, if
available, that it can be concluded on terms acceptable to the Company or
within the limitations contained within the Company's financing arrangements.
Failure to obtain such financing could result in the delay or abandonment of
some or all of the Company's development or expansion plans and could have a
material adverse effect on the Company's business. Such failure could also
limit the ability of the Company to make principal and interest payments on its
outstanding indebtedness. The Company has no material working capital or other
credit facility under which it may borrow for working capital and other general
corporate purposes. There can be no assurance that such a facility will be
available to the Company in the future or that if such a facility were
available, that it would be available on terms and conditions acceptable to the
Company.
The Company's net cash used in operating and investing activities was
$393.7 million and $235.9 million for the nine months ended September 30, 1998
and 1997, respectively. Net cash provided by financing activities from
borrowings and equity issuances to fund capital expenditures, acquisitions and
operating losses was $298.2 million and $278.4 million for the nine months ended
September 30, 1998 and 1997, respectively.
Capital expenditures for the nine months ended September 30, 1998 and 1997
were $170.1 million and $167.7 million, respectively. The Company estimates
approximately $250 million of capital expenditures in each of fiscal 1998 and
fiscal 1999. The majority of these expenditures is expected to be made for the
construction of network and longhaul fiber optic facilities and the purchase of
switches and related equipment to facilitate the offering of the Company's
services. Continued significant capital expenditures are expected to be made
thereafter. In addition, the Company expects to continue to incur operating
losses while it expands its business and builds its customer base. Actual
capital expenditures and operating losses will depend on numerous factors,
including the extent of future expansion, acquisition opportunities and other
factors beyond the Company's control, including economic conditions,
competition, regulatory developments and the availability of capital.
In addition to capital expenditures, the Company has also used capital for
strategic acquisitions. In March 1998, the Company acquired KLP, Inc. (d/b/a
Call America), a Phoenix-based reseller of long distance, for approximately $3.8
million in cash and the business of Whole Earth Networks, LLC, a San
Francisco-based Internet service provider, for approximately $9.0 million in
cash and the assumption of $1.3 million of liabilities. In April 1998, the
Company acquired ICON, a switch-based reseller of long distance and local
services located in Seattle, for approximately $23.8 million in cash.
12
<PAGE> 14
In May 1998, the Company completed a private placement of $500.0 million
principal amount at maturity of 1998 Notes. The 1998 Notes will fully accrete
to face value on May 1, 2003. From and after May 1, 2003, the 1998 Notes will
bear interest, which will be payable in cash, at a rate of 10.5% per annum on
each May 1 and November 1, commencing November 1, 2003. The net proceeds from
the sale of the 1998 Notes of approximately $288.9 million are restricted for
the purchase of telecommunications equipment and network infrastructure. The
indenture related to the 1998 Notes, and the indentures associated with
previously issued notes, include restrictive covenants which, among other
items, limit or restrict additional indebtedness incurred by the Company,
investment in certain subsidiaries, the sale of assets and the payment of
dividends. The Company is a party to a registration rights agreement relating
to the 1998 Notes whereby it has agreed to consummate an exchange offer for the
1998 Notes pursuant to an effective registration statement or cause the 1998
Notes to be registered under the Securities Act of 1933, as amended, pursuant
to a shelf registration statement by November 4, 1998. Although the Company has
filed a registration statement on Form S-4 with respect to an exchange offer
for the 1998 Notes, it has not yet been declared effective. Therefore, in
accordance with the terms of the registration rights agreement, interest (in
addition to the accrual of original issue discount and interest otherwise due
on the 1998 Notes after such date) on the 1998 Notes will accrue, at an annual
rate of 0.5%, from November 4, 1998 and be payable in cash semiannually in
arrears, on each May 1 and November 1, commencing May 1, 1999 until such
exchange offer is consummated or a shelf registration statement is declared
effective.
The Company is investigating certain matters with respect to compliance
with covenants contained in the indentures relating to certain of the Company's
and its subsidiaries' outstanding notes. See Item 5 of Part II hereof.
YEAR 2000 PROGRAM
The Company's State of Readiness. The Company's core internal systems that
have been recently implemented are year 2000 compliant. The remaining core
internal systems are scheduled to be replaced by the third quarter of 1999 and
are expected to be year 2000 compliant when installed. In general, the Company's
year 2000 project is divided into three phases: (1) inventory and assessment
("Phase One"), (2) strategy and contingency planning ("Phase Two"), and (3)
conversion and remediation ("Phase Three"). The Company completed Phase One in
October 1998. The Company is continuing to contact all of its significant
suppliers and large customers to determine the extent to which the Company's
interface systems are vulnerable to those third parties' failure to remediate
their own year 2000 issues. The Company has moved to Phase Two, wherein remedial
actions will be planned and a contingency plan will be formulated, and
anticipates completing Phase Two in December 1998. Phase Two will include
consideration of worst case year 2000 scenarios. The Company expects to complete
Phase Three, wherein remedial actions will be implemented and tested, by third
quarter 1999. The Company's efforts have thus far been focused on assessing and
remediating potential year 2000 problems with its applications, hardware, system
software and interfaces (collectively "IT Systems"). The Company intends to
employ a similar phased strategy to address its non-IT systems.
Costs. Based on its initial evaluation, the Company does not believe
that the cost of remedial actions will have a material adverse effect on the
Company's results of operations and financial condition. There can be no
assurance, however, that there will not be a delay in, or increased costs
associated with, the implementation of changes as the program progresses, and
failure to implement such changes could have an adverse effect on future
results of operations.
13
<PAGE> 15
The total amount expended on the project through September 30, 1998 was
approximately $.3 million relating to Phase One costs of inventorying and
assessing the Company's IT Systems.
Risks. The failure to correct a material year 2000 problem could result in
an interruption in, or a failure of, certain normal business activities or
operations. Such failures could materially and adversely affect the Company's
results of operations, liquidity and financial condition. Due to the general
uncertainty inherent in the year 2000 problem, resulting in part from the
uncertainty of the year 2000 readiness of third-party suppliers and customers,
the Company is unable to determine at this time whether the consequences of year
2000 failures will have a material impact on the Company's results of
operations, liquidity or financial condition. The year 2000 project is expected
to significantly reduce the Company's level of uncertainty about the year 2000
problem. The Company believes that, with the implementation of new business
systems and completion of the project as scheduled, the possibility of
significant interruptions of normal operations should be reduced.
Readers are cautioned that forward-looking statements contained in the
year 2000 update should be read in conjunction with the Company's cautionary
statements contained in this Item 2, as supplemented by the following statements
regarding the year 2000 project in particular. The dates on which the Company
believes the year 2000 project will be completed are based on management's best
estimates, which were derived utilizing numerous assumptions of future events,
including the continued availability of certain resources, third party
modification plans and other factors. However, there can be no guarantee that
these estimates will be achieved, or that there will not be a delay in, or
increased costs associated with, the implementation of the year 2000 project.
Specific factors that might cause differences between the estimates and actual
results include, but are not limited to, the availability and cost of personnel
trained in these areas, the ability to locate and correct all relevant computer
code, timely responses to and corrections by third-parties and suppliers, the
ability to implement interfaces between the new systems and the systems not
being replaced, and similar uncertainties. Due to the general uncertainty
inherent in the year 2000 problem resulting in part from the uncertainty of the
year 2000 readiness of third parties, the Company cannot ensure its ability to
timely and cost-effectively resolve problems associated with the year 2000 issue
that may affect its operations and business, or expose it to third-party
liability.
NEW ACCOUNTING PRONOUNCEMENTS
In June 1997, the FASB issued SFAS No. 131 "Disclosure about Segments of
an Enterprise and Related Information", which changes the way public companies
report information about operating segments. SFAS No. 131, which is based on the
management approach to segment reporting, establishes requirements to report
selected segment information quarterly and to report entity-wide disclosures
about products and services, major customers, and the material countries in
which the entity holds assets and reports revenue. The Company is required to
adopt the provisions of SFAS No. 131 in 1998. The Company has not yet completed
its analysis of the impact on the financial statements that will be caused by
the adoption of this accounting standard.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 standardizes the accounting
for derivative instruments, including certain derivative instruments embedded in
other contracts. Under SFAS No. 133,
14
<PAGE> 16
entities are now required to carry all derivative instruments in the balance
sheet at fair value. The accounting for changes in fair value (i.e. gains and
losses) of a derivative instrument depends on whether it has been designated and
qualifies as part of a hedging relationship and, if so, on the reason for
holding it. The Company must adopt SFAS No. 133 by January 1, 2000. The Company
has not determined the impact that SFAS No. 133 will have on its financial
statements and believes that such determination will not be meaningful until
closer to the date of initial adoption.
In April 1998, the American Institute of Certified Public Accountants
issued Statement of Position 98-5, Reporting on the Costs of Start-Up Activities
(SOP 98-5). SOP 98-5 requires that costs incurred during start-up activities,
including organization costs, be expensed as incurred and that previously
capitalized costs related to such activities be expensed as a cumulative effect
of a change in accounting principle upon adoption. The Company will adopt the
provisions of SOP 98-5 at the beginning of 1999 and has not yet determined the
effect that such adoption will have on its future results of operations.
15
<PAGE> 17
PART II: OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
(a) Reference is made to Item 3. "Legal Proceedings" of the Registrant's
Transition Report on Form 10-K for the three months ended December
31, 1997, and to the Registrant's Form 8-K dated July 9, 1998, and
to the descriptions therein of an action for alleged patent
infringement (the "Aerotel Action") commenced by Aerotel, Ltd. and
Aerotel U.S.A. Inc. (collectively "Aerotel") against NACT
Telecommunications, Inc. ("NACT"), a former subsidiary of the
Registrant and GST USA, Inc. ("GST USA"). On October 26, 1998, the
Registrant, GST USA, World Access, Inc. and Aerotel entered into a
settlement agreement relating to the Aerotel Action. The Registrant
and GST USA's portion of the settlement is approximately $2.9
million.
(b) On October 20, 1998, the Company filed a complaint in the Superior
Court of California, Santa Clara County, against GST Global
Telecommunications, Inc. (subsequently renamed Global Light
Telecommunications, Inc.), current directors Stephen Irwin and Peter
E. Legault, and former directors W. Gordon Blankstein, Robert H.
Hanson, John Warta and Ian Watson. The complaint seeks the
restitution of all legal and equitable interests in Bestel S.A. de
C.V., a Mexican telecommunications opportunity. No trial date has
been set and the Company cannot predict the outcome of the
litigation.
ITEM 5. OTHER INFORMATION
The following matters are related to the indentures respectively governing the
13-7/8% Senior Discount Notes due 2005, the 13-7/8% Convertible Senior
Subordinated Discount Notes due 2005, the 12-3/4% Senior Subordinated Accrual
Notes due 2007, the 13-1/4% Senior Secured Notes due 2007 and the 10-1/2%
Senior Secured Discount Notes due 2008, in respect of each of which the Company
or a subsidiary is an obligor.
In connection with the Company's preparation of the California Superior Court
litigation:
The Company has reviewed the transfer of its interest in a
telecommunications project to be developed in Mexico, to Global Light
Telecommunications, Inc. ("GLT") (formerly known as GST Global
Telecommunications, Inc.) which transfer forms the basis for certain claims in
that litigation. As a result of the transfer GLT was engaged in business outside
the continental United States, and because it did not meet certain other
technical requirements specified in the indentures, the Company has been advised
that this transfer may constitute a violation of indenture covenants limiting
investments in entities that conduct business outside the continental United
States and Hawaii. Furthermore, this transfer was one for which the Company has
not yet received any consideration, which may also constitute a violation of
indenture covenants respecting consideration to be received from sales to
affiliated entities. The litigation has been instituted to recover this asset or
its fair market value.
The Company has become aware of certain transactions occurring in 1997
which may have comprised an investment of approximately $.4 million in a
business entity that conducted business operations in Guam and the Northern
Mariana Islands. The Company has been advised that these transactions may have
constituted violations of indenture covenants limiting investments in entities
that conduct business outside of the continental United States and Hawaii.
The Company has reviewed its acquisition in 1998 of certain operating
assets located in Guam, purchased for $2.0 million of cash and $.5 million of
liabilities for future services to be provided to the seller in that
transaction. Because this activity is conducted outside the continental United
States it should have been placed in an "unrestricted subsidiary." In the
absence of such a subsidiary, the Company has been advised that this transaction
may constitute a violation of indenture covenants respecting its activities
outside the continental United States and Hawaii. The Company intends to
transfer this activity to an unrestricted subsidiary.
The Company has provided notice to the indenture trustee respecting
these matters and correcting earlier annual reports required by the indenture
in these respects.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit 27 Financial Data Schedule
(b) Reports on Form 8-K
On July 9, 1998, the Registrant reported on Form 8-K under "Item 5.
Other Events," that it had entered into a Memorandum of Understanding
to settle the Aerotel Action.
16
<PAGE> 18
S I G N A T U R E S
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf of the
undersigned thereunto duly authorized.
Date: NOVEMBER 13, 1998 GST TELECOMMUNICATIONS, INC.
(Registrant)
/s/ Daniel L. Trampush
---------------------------------------------------
Daniel L. Trampush,
(Senior Vice President and Chief Financial Officer)
17
<TABLE> <S> <C>
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<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
COMPANY'S FORM 10-Q FOR THE QUARTER ENDED SEPTEMBER 30, 1998 AND IS QUALIFIED IN
ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS.
</LEGEND>
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