<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1998
Commission File Number: 0-23856
Transaction Network Services, Inc.
(Exact name of registrant as specified in its charter)
Delaware
(State or jurisdiction of incorporation or organization)
54-1555332
(I.R.S. Employer Identification Number)
1939 Roland Clarke Place
Reston, VA 20191
(Address of principal executive offices)
(703) 453-8300
(Registrant's telephone number, including area code)
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 requirement for the past 90 days. X Yes No
Indicate the number of shares outstanding of each of the issuer's
classes of Common Stock, as of the latest practicable date.
Shares Outstanding as of May 10, 1998
12,655,733 Shares of Common Stock, $0.01 par value
<PAGE>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
TRANSACTION NETWORK SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands)
<TABLE>
<CAPTION>
March 31, December 31,
1998 1997
---------------- ---------------
(Unaudited)
<S> <C> <C>
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 9,987 $ 18,516
Short-term investments 5,224 9,899
Accounts receivable, net of allowance for doubtful
accounts of $565 and $530, respectively 12,202 10,618
Other current assets 2,093 1,453
---------------- ---------------
Total current assets 29,506 40,486
---------------- ---------------
EQUIPMENT, at cost:
Network equipment 33,481 30,101
Office equipment 5,471 4,802
Less - Accumulated depreciation (15,635) (14,314)
---------------- ---------------
23,317 20,589
---------------- ---------------
INTANGIBLE ASSETS:
Software and intangibles 23,494 14,119
Less - Accumulated amortization (5,243) (4,742)
---------------- ---------------
18,251 9,377
---------------- ---------------
OTHER ASSETS 823 877
LONG-TERM INVESTMENTS 5,786 4,780
ASSETS HELD FOR SALE 8,250 -
---------------- ---------------
Total assets $ 85,933 $ 76,109
---------------- ---------------
---------------- ---------------
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses $ 10,044 $ 7,256
DEFERRED INCOME TAX, net of current amount 378 378
---------------- ---------------
Total liabilities 10,422 7,634
---------------- ---------------
COMMITMENTS AND CONTINGENCIES (NOTE 5)
STOCKHOLDERS' EQUITY :
Common stock, $0.01 par value, 20,000 shares authorized,
12,604 and 12,476 shares issued, respectively 126 125
Additional paid-in capital 54,375 51,292
Treasury stock, none and 211 shares, at cost - (2,491)
Unearned compensation (39) (46)
Retained earnings 21,167 19,658
Foreign currency translation (118) (63)
---------------- ---------------
Total stockholders' equity 75,511 68,475
---------------- ---------------
Total liabilities and stockholders' equity $ 85,933 $ 76,109
---------------- ---------------
---------------- ---------------
</TABLE>
<PAGE>
TRANSACTION NETWORK SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
<TABLE>
<CAPTION>
Three Months Ended
March 31,
--------------------------------------
1998 1997
---------------- ---------------
(Unaudited)
<S> <C> <C>
Revenues $ 18,077 $ 13,115
Cost of network services 10,707 7,408
---------------- ---------------
Gross profit 7,370 5,707
---------------- ---------------
Other operating expenses:
Engineering & development 1,027 786
Selling, general & administrative 2,515 2,077
Depreciation 1,394 1,103
Amortization of intangibles 451 384
---------------- ---------------
Total other operating expenses 5,387 4,350
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Income from operations 1,983 1,357
Interest income 491 409
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Income before provision for income taxes 2,474 1,766
Provision for income taxes 965 764
---------------- ---------------
Net income $ 1,509 $ 1,002
---------------- ---------------
---------------- ---------------
Diluted earnings per common share $ 0.12 $ 0.08
---------------- ---------------
---------------- ---------------
Basic earnings per common share $ 0.12 $ 0.08
---------------- ---------------
---------------- ---------------
</TABLE>
<PAGE>
TRANSACTION NETWORK SERVICES, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
<TABLE>
<CAPTION>
Three Months Ended
March 31,
1998 1997
---------------- ---------------
(Unaudited)
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES:
Net Income $ 1,509 $ 1,002
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 1,845 1,487
Unearned compensation 7 7
Loss on disposals of equipment - 49
Changes in assets and liabilities, net of effects of acquisition:
Accounts receivable (1,424) 1,648
Other current assets (608) (382)
Other assets 54 47
Accounts payable and accrued expenses 1,808 57
---------------- ---------------
Net cash provided by operating activities 3,191 3,915
---------------- ---------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchases of equipment (3,409) (2,181)
Purchases of intangible assets (7) 3
Payment for acquisition, net (12,243) -
Proceeds from disposals of equipment - 12
Maturities (purchases) of short-term investments, net 4,675 (589)
Purchases of long-term investments, net (1,006) -
Maturities of long term investments - 2,518
---------------- ---------------
Net cash used in investing activities (11,990) (237)
---------------- ---------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from options and employee stock purchase plan 325 58
---------------- ---------------
Net cash provided by financing activities 325 58
---------------- ---------------
EFFECT OF EXCHANGE RATE CHANGES ON CASH (55) (25)
NET (DECREASE) INCREASE IN CASH AND CASH
EQUIVALENTS (8,529) 3,711
CASH AND CASH EQUIVALENTS, beginning of period 18,516 14,735
---------------- ---------------
CASH AND CASH EQUIVALENTS, end of period $ 9,987 $ 18,446
---------------- ---------------
---------------- ---------------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid for income taxes $ 638 $ 470
Fair value of assets acquired $ 19,639 -
Less: cash paid (12,243) -
value of stock issued (5,250) -
---------------- ---------------
---------------- ---------------
Liabilities assumed $ 2,146 $ -
---------------- ---------------
---------------- ---------------
</TABLE>
<PAGE>
TRANSACTION NETWORK SERVICES, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
MARCH 31, 1998
(Unaudited)
1. GENERAL
Transaction Network Services, Inc. (the "Company" or "TNS") was
incorporated in August 1990 to build and operate a communications network
focused on the network services needs of the POS (Point-of-Sale/
Point-of-Service) transaction processing industry. In June 1994, the Company
acquired Fortune Telecommunications, Inc. ("FTI") of Ft. Lauderdale, Florida,
which provides customers in the telecommunications industry with telephone
call fraud control, billing validation, and other services. In June 1996, the
Company formed Transaction Network Services Limited ("TNSL"), a
majority-owned subsidiary located in Dublin, Ireland. TNSL provides POS
network services in Ireland and serves as TNS' European technology and
marketing center to support current and future European operations. In
October 1997, through TNSL, the Company acquired a majority interest in
Pronoma Systems AB. This company has been renamed Transaction Network
Services TNSAB ("TNSAB") and operates as a TNS subsidiary located in
Stockholm, Sweden.
The Company currently operates four divisions: (1) The POS Division
which includes the Company's TransXpress-Registered Trademark- network
services for the POS transaction processing industry, (2) The Telecom
Services Division ("TSD") which includes FTI's CARD*TEL-Registered Trademark-
telephone call billing validation and fraud control services and other
services targeting primarily the telecommunications industry, (3) The
Financial Services Division ("FSD") which provides TNS FastLink-Registered
Trademark- Data Services in support of the Financial Information eXchange
("FIX") messaging protocol and other transaction oriented trading
applications primarily to the financial services community, and (4) The
International Systems Division ("ISD") which markets the Company's products
and services internationally.
The condensed consolidated financial statements included herein have
been prepared by the Company, without audit, pursuant to the rules and
regulations of the Securities and Exchange Commission ("SEC") and include, in
the opinion of the Company, all adjustments, consisting of normal recurring
adjustments, necessary for a fair presentation of interim period results.
Certain information and 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. The Company believes that its disclosures are adequate to make
the information presented not misleading. These condensed financial
statements should be read in conjunction with the financial statements and
notes thereto included in the Company's Annual Report on Form 10-K. The
results of operations for the three month periods ended March 31, 1998 and
1997 are not necessarily indicative of the results to be expected for the
full year.
2. ACQUISITIONS AND OTHER INVESTMENTS
In April 1998, the Company, through TNSL, acquired a 50% interest in
Atos Ireland Limited ("Atos") for approximately $1.8 million. Prior to the
acquisition Atos was a wholly owned subsidiary of Sligos Payment Services PLC
("SPS"), which in turn is a majority-owned subsidiary of the Atos Group, a
computer services company based in France. Atos provides processing services,
primarily for cash withdrawls, made from a network of automated teller
machines ("ATMs") located throughout Ireland. The Company believes that Atos,
focusing initially on the Irish market, will exploit opportunities to provide
transaction processing services to banks, other financial institutions and
government agencies. Atos will deploy the TNS network technology, which the
Company believes will optimize the transport of ATM and other transactions.
SPS will provide Atos with ATM transaction processing and other services. SPS
has an option (the "Option') to sell its 50% interest in Atos to the Company
for approximately $1.0 million. The Option may be exercised between February
1, 1999 and March 31, 1999.
6
<PAGE>
On February 27, 1998, the Company acquired certain assets and
assumed certain liabilities of SunTech Processing Systems, LLC ("SunTech"), a
Texas limited liability company. The total consideration paid after
arm's-length negotiations was $17.5 million, composed of (a) $12.25 million
in cash, and (b) 287,474 shares of the Company's common stock valued at $5.25
million. Prior to the acquisition, SunTech primarily was engaged in the
business of providing transaction processing services for automated teller
machines ("ATMs") and developing additional communications technologies for
ATMs. The Company acquired the dial-up ATM transaction processing segment of
SunTech and SunTech's proprietary host-interface processing ("HIP")
technology segment which allows for leased line ATMs to be converted into
dial-up ATMs.
The SunTech acquisition is being accounted for as a purchase. The
Company is in the process of negotiations for the potential disposition of
Suntech's processing segment. As a result, the net assets of the processing
segment are segregated as "Assets Held for Sale" in the accompanying balance
sheet. The fair value allocated to the assets held for sale includes the
anticipated net operating results to be derived from these operations while
owned by the Company. Amounts allocated to intangible assets (including
customer contracts, non-compete agreements, software and goodwill) in the
purchase accounting are being amortized on a straight-line basis over periods
ranging from 2 to 10 years. The purchase price allocations have been
completed on a preliminary basis and are subject to adjustment should new or
additional facts about the business become known. The results of the HIP
technology segment are included in the consolidated financial statements
since the date of acquisition.
The unaudited pro forma information for the periods set forth below
gives effect to the transaction as if it had occurred at the beginning of
each period. The pro forma information is presented for informational
purposes only and is not necessarily indicative of the results of operations
that actually would have been achieved had the acquisition been consummated
as of that time (unaudited, 000's omitted):
<TABLE>
<CAPTION>
Three Months Ended Year Ended
March 31, 1998 December 31, 1997
--------------- -----------------
<S> <C> <C>
Revenues $17,927 $62,885
Net income 1,198 6,086
Diluted earnings per share $0.09 $0.47
Basic earnings per share $0.10 $0.49
</TABLE>
In November 1997, the Company loaned a vendor $500,000. The vendor
develops, manufactures and markets modems for electronic commerce, Internet
access, telecommuting and advanced office communications. In 1998, the
Company loaned the vendor an additional $1,025,000. Interest accrues at 13%
and the principal is due in November 1998. In connection with these loans the
Company received the exclusive European distribution rights to the vendor's
products used in connection with the provision of POS and automated teller
machine services. A limited partnership (the "Partnership"), controlled by
the Company's Chief Executive Officer, and a venture capital firm, one of
whose managing partners is also a director of the Company, are each minority
shareholders of the vendor and are holders of notes issued by the vendor.
These notes, and the vendor's other debt obligations, are subordinated to the
Company's loans. The Partnership has guaranteed the vendor's payment of the
loans. In April 1998, the Company entered into a letter of intent to acquire
substantially all of the assets of the vendor, subject to certain approvals
and conditions, for approximately $2.5 million plus the assumption of
approximately $400,000 of trade accounts payable and accrued liabilities. The
proposed terms also include a per unit royalty payment to the vendor based
upon future product sales. The royalty is subject to limitations in duration
and amount. The Company, subject to certain conditions, has agreed to advance
up to an additional $250,000 to the vendor pending the closing of such
acquisition. If the transaction is consummated, the Company's outstanding
loan balance including interest (approximately $1.6 million at April 30,
1998), will be credited towards the purchase price.
7
<PAGE>
3. EARNINGS PER SHARE
The following reconciles the shares used in the calculations of
basic and diluted earnings per share:
<TABLE>
<CAPTION>
Three Months Ended
March 31,
1998 1997
---------- ----------
<S> <C> <C>
Weighted average shares outstanding
(basic earnings per share) 12,389,232 12,343,117
Stock option equivalents 584,159 212,735
----------------------------
Weighted average shares and equivalents
(diluted earnings per share) 12,973,391 12,555,852
------------------------------
Basic earnings per share $0.12 $0.08
Diluted earnings per share $0.12 $0.08
</TABLE>
4. RECENT AUTHORITATIVE PRONOUNCEMENTS
In July, 1997, the FASB issued Statement No. 130
"Reporting Comprehensive Income" and Statement No. 131 "Disclosures About
Segments of an Enterprise and Related Information." Statement No. 131 will
require the Company to disclose segment information using a "management
approach" beginning with its December 31, 1998 financial statements.
Statement No. 130 requires the Company to present an aggregate amount of
"comprehensive income" and the components of "other comprehensive income" in
its 1998 financial statements and/or notes thereto. The total of net income
and all other nonowner changes in equity as required by Statement No. 130
consists of (unaudited, 000's omitted):
<TABLE>
<CAPTION>
Three Months Ended Three Months Ended
March 31, 1998 March 31, 1997
-------------- --------------
<S> <C> <C>
Net Income $1,509 $1,002
Other Comprehensive Income:
Currency Translation (55) (25)
--------- --------
Comprehensive Income $1,454 $977
--------- --------
</TABLE>
5. SUBSEQUENT EVENT
On March 29, 1996, the Company completed an asset purchase
from AMNEX, Inc. ("AMNEX") of AMNEX's proprietary fraud-control system and
related databases used to provide fraud control and billing validation
services. The transaction also included a ten year exclusive service
agreement, a joint-marketing agreement and a warrant agreement giving the
Company the right to purchase 100,000 shares of AMNEX Common Stock. The
Company paid approximately $1.5 million in cash for these assets. The Company
amortizes the cost of these assets over five to ten years. Under a consulting
agreement dated December 22, 1997, AMNEX agreed to make an initial consulting
payment as well as monthly payments to the Company through June 30, 2002, in
exchange for certain revisions to the exclusive service agreement.
In May 1998, the Company delivered a notice of default to AMNEX for
non-payment of fees under the exclusive service agreement and consulting
agreement. In conjunction with the delivery of this notice of default, the
Company has ceased providing validation services to AMNEX. The Company may
seek enforcement of a direction to pay provision in the exclusive service
agreement and consulting agreement whereby AMNEX has agreed to direct its
billing and collections agent to remit funds directly to the Company. AMNEX
has also represented to the Company that a pending $80 million financing may
provide funds sufficient to pay these past due amounts and to cure this
breach. As of March 31, 1998, the Company has recorded net assets of
approximately $1.8 million (including accounts receivable and intangible
assets) related to AMNEX. The Company is currently evaluating the default and
the potential impairment to the fair value of these assets but cannot
determine the impairment, if any, at this time. Any adjustment to the fair
value of these assets would result in a non-cash accounting charge.
8
<PAGE>
Item 2.
TRANSACTION NETWORK SERVICES, INC. AND SUBSIDIARY
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS
FORWARD LOOKING STATEMENTS
Certain information included or incorporated by reference in this
document may be deemed to be "forward looking statements" within the meaning
of Section 27A of the Securities Act and Section 21E of the Securities
Exchange Act. All statements, other than statements of historical facts, that
address activities, events or developments that the Company intends, expects,
projects, believes or anticipates will or may occur in the future are forward
looking statements. Such statements are characterized by terminology such as
"believe," "anticipate," "should," "intend," "plan," "will," "expects,"
"estimates," "projects," "positioned," "strategy," and similar expressions.
These statements are based on assumptions and assessments made by the
Company's management in light of its experience and its perception of
historical trends, current conditions, expected future developments and other
factors it believes to be appropriate. These forward looking statements are
subject to a number of risks and uncertainties, including but not limited to
continuation of the Company's long standing relationship with major customers
and vendors, customer and vendor performance under contractual obligations,
the Company's ability to integrate acquired businesses and purchased assets
into its operations and realize planned synergies, the extent to which
acquired businesses and assets are able to meet the Company's expectations
and operate profitably, the impact of future revisions to the cost of the
Company's network services under the Telecommunications Act of 1996,
competition, technological change, the ability to develop new services,
dependence on proprietary rights, dependence on key employees, changes in
government regulation, seasonality and fluctuations in quarterly results. In
addition, the Company is subject to risks and uncertainties that affect the
technology sector generally including, but not limited to, economic,
competitive, governmental and technological factors affecting the Company's
operations, markets, products, services and prices. Any such forward looking
statements are not guarantees of future performances and actual results,
developments and business decisions may differ from those envisaged by such
forward looking statements. The Company disclaims any duty to update any
forward looking statements, all of which are expressly qualified by the
foregoing.
RESULTS OF OPERATIONS
Revenues
Total revenues increased by 38% to $18,077,000 for the three month
period ended March 31, 1998 from $13,115,000 for the same period in 1997.
POS services revenue increased by 17% to $10,981,000 from $9,353,000
for the three months ended March 31, 1998 versus the comparable period in
1997. The growth in POS services revenue resulted primarily from an increase
in transaction volume and associated revenue from the Company's existing POS
customers. POS transaction volume increased by 15% to 599 million
transactions for the first quarter of 1998 from 519 million transactions in
the first quarter of 1997. POS revenue per transaction was $0.016 for both the
three months ended March 31, 1998 and for the comparable period in 1997.
Future average revenue per POS transaction will depend on the relative
contribution to total transaction volume from each of the Company's sources
of POS transactions and increasing competition.
Telecommunications services revenue increased by 83% to $6,541,000
from $3,566,000 for the three months ended March 31, 1998 versus the
comparable period in 1997. The growth in revenue was primarily due to growth
in queries processed for the Company's telecommunications customers and from
an increase in other telecommunications services revenues.
9
<PAGE>
In March 1997, the Company announced the building of a new network
- -the Financial Services Network and a new product line - TNS FastLink-Registered
Trademark- Data Services - offered by its Financial
Services Division. TNS FastLink-Registered Trademark- Data Services revenues
consist of a one-time installation fee and fixed monthly recurring revenues
thereafter based on the number of network connections. The Financial Services
Division contributed $233,000 to revenues in the first quarter of 1998
compared to $11,000 in the first quarter of 1997 when the division was formed.
International revenue increased by 74% to $322,000 in the first
quarter of 1998 from $185,000 for the same period in 1997. International
revenue consists primarily of royalties, equipment sales and software license
revenues. In April 1998, the Company, through TNSL, acquired a 50% interest
in Atos Ireland Limited ("Atos") for approximately $1.8 million. Atos
provides processing services, primarily for cash withdrawls, made from a
network of automated teller machines ("ATM's") located throughout Ireland.
Management believes that Atos, focusing initially on the Irish market, will
exploit opportunities to provide transaction processing services to banks,
other financial institutions and government agencies.
TNSL provides POS network services in Ireland and will serve as
TNSL's European technology and marketing center. Currently, TNSL's
consolidated losses are being absorbed and consolidated with the Company's
operating results. TNSL's consolidated losses were approximately $247,000 for
the first quarter of 1998 and $216,000 for the first quarter of 1997.
Cost of Network Services
Cost of network services increased by 45% to $10,707,000 from
$7,408,000 for the three months ended March 31, 1998 versus the comparable
period in 1997. This growth resulted primarily from increases in usage
charges and charges for billing validation information resulting from
increased transaction and query volumes.
In May 1997, pursuant to the Telecommunications Act of 1996 (the
"1996 Act"), the FCC implemented rules and regulations referred to as Access
Charge Reform ("Access Reform") that seek to reform the system of interstate
access charges and make it compatible with the competitive paradigm
established by the 1996 Act. The initial phase of Access Reform was
implemented in July 1997. The initial phase of Access Reform resulted in a
decrease in certain components of the Company's variable cost per transaction
and as a result, lowered the Company's network costs. The second phase of
Access Reform took place in January 1998. The second phase of Access Reform
resulted in an additional decrease in certain components of the Company's
variable cost per transaction; however, the second phase increased certain of
the Company's fixed monthly recurring charges and instituted certain new
fixed charges. As a result, the Company believes that it may experience an
increase in its network costs at least until the next phase of Access Reform is
instituted in July 1998. The Company believes that future revisions may reduce
its network costs because the Company believes that it is not subject to certain
of the new charges instituted by Access Reform and that in any event the
increased charges are not in accordance with the spirit of Access Reform which
is intended to reduce overall access charges. However, there can be no assurance
that the future phases of Access Reform will result in reductions to the
Company's network costs and, in fact, they may increase. The ultimate impact
of Access Reform on the Company's cost of network services is dependent upon,
among other things 1) the ability to increase transaction volumes, which
benefits the Company when lower variable costs are instituted, 2) the nature
and amount of fixed charges based upon the number of connections in the
Company's network, which increases network costs, 3) any other future actions
by the FCC, 4) the ability of the Company to modify its network design to react
to pricing revisions, and 5) the ability of the Company to successfully defend
and receive credits for improperly billed charges. Accordingly, the impact of
Access Reform on the Company's future network access costs is unknown, and the
Company cannot predict the timing, outcome or effects of the FCC's regulations
or of any future tariff matters.
10
<PAGE>
Gross Profit
Gross profit represented approximately 41% of total revenues for the
first quarter of 1998 compared to 44% for the first quarter of 1997. The
approximate 3% decrease in gross profit as a percentage of total revenues
reflects the impact of certain fixed monthly recurring charges increased and
instituted by Access Reform, costs associated with the Company's development
of its own on-network "800" access service, costs incurred in connection with
the TNS Financial Services Network and increases in employees in the
Companies' network control center to support increasing transaction volumes
and to support new service offerings. The future level of the Company's gross
profit margin depends on a number of factors including total transaction and
query volume growth, the relative growth and contribution to total transaction
volume of each of the Company's customers, the timing and extent of the
Company's network expansion and the timing and extent of any network cost
reductions. In addition, any significant loss or significant reduction in the
growth of transaction volume could lead to a decline in gross margin because
a significant portion of network costs are fixed costs. As a result,
maintaining historical gross margin levels depends in part on growth in
transaction volume generating economies of scale. The Company believes that
the gross margin percentage on certain of the Company's new service offerings
may be greater than those on traditional Telecommunications and POS services.
The impact on 1998 and future gross margins will be largely dependent upon the
Company's ability to successfully market these additional services.
Engineering and Development
Engineering and development expense increased by 31% to $1,027,000
for the three months ended March 31, 1998 versus $786,000 for the comparable
period in 1997. Engineering and development expenses increased as a result of
the growth of the Company. Engineering and development expenses were 6% of
revenues for the three months ended March 31, 1998 and 6% for the same period
in 1997.
The Company has conducted a review of the impact of the Year 2000 on
its products and services, as well as reviewing its impact on relationships
with key customers and vendors. Based on this review, a plan to ensure
minimal disruption to Company operations has been developed and is being
implemented. The Company does not anticipate incurring material costs
associated with its products and services to accommodate the Year 2000 issue.
Selling, General and Administrative
Selling, general and administrative expenses increased by 21% to
$2,515,000 for the three months ended March 31, 1998 from $2,077,000 for the
same period of 1997. The increase in these expenses is attributable to growth
of the Company. Selling, general and administrative expenses were 14% of
revenues for the three months ended March 31, 1998 and 16% for the same
period of 1997. This decrease is attributed to certain economies of scale
attributed to revenue growth.
Depreciation
Depreciation expense increased by 26% to $1,394,000 for the three
months ended March 31, 1998 from $1,103,000 for the same period of 1997.
Depreciation expense increased primarily as a result of the acquisition of
capital equipment for network expansion to support growth in the Company's
business.
11
<PAGE>
Amortization of Intangibles
The amortization of intangible assets increased by 17% to $451,000
for the three months ended March 31, 1998 from $384,000 for the same period
in 1997. The increase is attributable to the amortization of intangible
assets associated with the SunTech acquisition on February 27, 1998. The
Company acquired the dial-up ATM transaction processing segment of SunTech
and SunTech's proprietary host-interface processing ("HIP") technology
segment which allows for leased line ATM's to be converted into dial-up
ATM's. The Company is in the process of negotiations for the potential
disposition of SunTech's processing segment. As a result, the net assets of
the processing segment are segregated as "Assets Held for Sale" in the
accompanying balance sheet. The fair value allocated to the assets held for
sale includes the anticipated net operating results to be derived from the
processing operation while owned by the Company. Amounts allocated to
intangible assets (including customer contracts, non-compete agreements,
software and goodwill) in the purchase accounting are being amortized on a
straight-line basis over periods ranging from 2 to 10 years. The purchase
price allocations have been completed on a preliminary basis and are subject
to adjustment should new or additional facts about the business become known.
The results of the HIP technology segment are included in the consolidated
financial statements since the date of acquisition. The ultimate amount of
quarterly amortization expense associated with the SunTech acquisition will
depend upon the final allocation of the purchase price, the sales price of
the processing segment and the assets purchased and liabilities assumed by
the acquirer.
See Note 5 to Item 1.-Financial Statements for discussion of a
subsequent event.
Income Taxes
The quarterly effective tax rate decreased from 43% for the three
months ended March 31, 1997 to 39.0% for the three months ended March 31,
1998 primarily as a result of the relative reduction in TNSL's losses
relative to the Company's anticipated annual results. The Company has not
recorded a tax asset for these losses due to TNSL's brief operating history.
Net Income and Earnings Per Share
Net income increased by 51% to $1,509,000 for the three months ended
March 31, 1998 from $1,002,000 for the same period in 1997. Earnings per
share grew 50% to $0.12 during the quarter from $0.08 in the comparable 1997
quarter. The weighted average number of shares outstanding used to calculate
diluted earnings per share increased to 12,973,000 during the first quarter
of 1998 from 12,556,000 in the same period in 1997. Diluted shares outstanding
increased primarily because of the approximately 287,000 shares issued on
February 27, 1998 in connection with the SunTech acquisition.
LIQUIDITY AND CAPITAL RESOURCES
At March 31, 1998, principal sources of liquidity were cash and cash
equivalents of $9,987,000, short term investments of $5,224,000 (some of
which are non-marketable securities) and a bank line of credit of up to
$5,000,000 which expires in July 1998. The line of credit bears interest at
the prime rate and has not been used. Management anticipates that the amount
of cash and cash equivalents would increase upon the disposition of the
processing segment of SunTech.
Net cash provided by operating activities was $3,191,000 for the
three month period ended March 31, 1998, a decrease from $3,915,000 for the
comparable period in 1997. The decrease is primarily from increases in net
income and depreciation and accounts payable being more than offset by a
relative increase in accounts receivable.
Investing activities used $11,990,000 for the three month period
ended March 31, 1998 as compared to a use of $237,000 for the same period in
1997. The significant increase in cash used in investing activities primarily
relates to approximately $12,243,000 paid for the acquisition of SunTech. The
Company purchased $3,409,000 of equipment for the three month period ended,
March 31, 1998 up from $2,181,000 for the comparable period in
12
<PAGE>
1997. The increase was primarily due to the requirements of new service
offerings including the build-out of the TNS FASTLink-Registered Trademark-
Data Services backbone network and the Company's own on network "800"
service. Investing activities in 1998 included approximately $1,000,000 of a
loan made to a vendor. The remaining net difference between the first three
months of 1998 versus 1997 results from significant maturities ($4,675,000)
of short-term investments in the first three months of 1998 compared to
purchases of short-term investments of $589,000 in the same period in 1997.
Financing activities provided $325,000 for the three month period
ended March 31, 1998 as compared to $58,000 of cash provided for the same
period in 1997. The increase relates to an increase in proceeds from the
exercise of stock options and the Company's employee stock purchase plan.
The Company believes that its existing cash, investment
balances, availability under its line of credit and cash flows generated by
operations will be sufficient to meet the capital needs of its current
business activities for the foreseeable future.
NEW ACCOUNTING STANDARDS
In July, 1997, the FASB issued Statement No. 131 "Disclosures About
Segments of an Enterprise and Related Information." Statement No. 131 will
require the Company to disclose segment information using a "management
approach" beginning with its December 31, 1998 financial statements.
INFLATION
Inflation is not a material factor affecting the Company's business
and has not had a significant effect on the Company's operations to date.
13
<PAGE>
PART II - OTHER INFORMATION
Item 1. Legal Proceedings. -
On October 28, 1997, the Company filed a formal complaint
with the Federal Communications Commission (the "FCC")
against AT&T Corp. ("AT&T"). The complaint alleges that
AT&T, through the provision of common carrier services to
its Transaction Access Services Group ("TAS Group") on
terms and conditions more favorable than those listed in
AT&T's tariffs, violates several provisions of the
Communications Act of 1934 and the FCC's rules. TAS Group
competes with the Company's TransXpress-Registered
Trademark- network services. The complaint seeks an order
requiring AT&T to cease and desist from engaging in the
contested conduct and seeks monetary damages for lost
business opportunities. The parties are in the process of
taking discovery and the ultimate outcome of this action is
uncertain.
Item 2. Changes in Securities -
On February 27, 1998, the Company acquired certain assets and
assumed certain liabilities from SunTech Processing Systems,
LLC ("SunTech"). The total consideration paid to SunTech was
$17.5 million, composed of $12.25 million in cash and 287,474
shares of the Company's common stock. The issuance of the
common stock to SunTech was exempt from registration under the
Securities of 1933, As amended (the "Securities Act"), as a
transaction not involving a public offering. In connection
with the transaction, the Company granted SunTech certain
rights to registration of the common stock under the
Securities Act.
Item 3. Default Upon Senior Securities. - Not Applicable
Item 4. Submission of Matters to a Vote of Security Holders.- Not
Applicable
Item 6. Exhibits and Reports on Form 8-K .
(a.) Exhibits.
Financial Data Schedule.
(b.) Reports on Form 8-K.
The Company filed a Current Report on Form 8-K on March 9,
1998 reporting pursuant to Item 2 the acquisition of certain
assets and the assumption of certain liabilities of SunTech
Processing Systems, LLC as amended by Amendment No. 1 filed
on May 13, 1998.
14
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
Transaction Network Services, Inc.
(Registrant)
Date: May 14, 1998 By: /s/ John J. McDonnell, Jr.
----------------------------
John J. McDonnell, Jr.
President and Chief
Executive Officer
Date: May 14, 1998 By: /s/ Thaddeus G. Weed
-----------------------
Thaddeus G. Weed
Chief Financial Officer and Treasurer
15
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