<PAGE>
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
Current Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
Date of Report (Date of earliest event reported) January 26, 2000
----------------
PSINet Inc.
- --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
New York 0-25812 16-1353600
- --------------------------------------------------------------------------------
(State or other jurisdiction (Commission (IRS Employer
of incorporation) File Number) Identification No.)
510 Huntmar Park Drive, Herndon, Virginia 20170
- --------------------------------------------------------------------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code (703) 904-4100
--------------
(Former name or former address, if changed since last report)
- --------------------------------------------------------------------------------
<PAGE>
-2-
Item 5. Other Events
------------
PSINet Inc. previously reported in our Current Report on Form 8-K dated
November 23, 1999, and filed on December 1, 1999, certain unaudited pro forma
consolidated financial information as of and for the nine months ended September
30, 1999 and for the year ended December 31, 1998.
This Form 8-K presents unaudited pro forma consolidated financial
information for PSINet as of and for the nine months ended September 30, 1999
and for the year ended December 31, 1998. The unaudited pro forma consolidated
financial information with respect to our acquisition of Transaction Network
Services, Inc. ("TNI") is derived from TNI's historical financial statements. We
are filing this information as Exhibit 99.1 to this Form 8-K. We are also
filing our Management's Discussion and Analysis of Financial Condition and
Results of Operations, description of Business and Glossary as Exhibits 99.2,
99.3 and 99.4, respectively.
Some of the information included in this Form 8-K may contain forward-
looking statements, such as information relating to the effects of acquisitions.
Such statements can be identified by the use of forward-looking terminology such
as "believes," "expects," "may," "will," "should," or "anticipates" or similar
words, or by discussions of strategy that involve risks and uncertainties.
Another form of forward-looking statement can be characterized by an assumption
(using terminology such as "as if" or "gives effect to") that an event occurs at
the beginning of a financial period presented, with a corresponding effect
throughout the period, even though the event had actually occurred after the
beginning of such period or has not yet actually occurred at all. Any such
forward-looking statements may discuss our future expectations or contain
projections of our results of operations or financial condition or expected
benefits to us resulting from acquisitions or other transactions. We cannot
assure you that the future results indicated, whether expressed or implied, will
be achieved. For a discussion of the risk factors that could cause our actual
results to differ materially from those contained in any forward-looking
statement, you should read "Risk Factors" on file with the Securities and
Exchange Commission and our other periodic reports and documents filed with the
Securities and Exchange Commission.
Item 7. Financial Statements, Pro Forma Financial Information and Exhibits
------------------------------------------------------------------
(c) Exhibits.
Exhibit 99.1 Unaudited Pro Forma Consolidated Financial Statements.
Exhibit 99.2 Management's Discussion and Analysis of Financial
Condition and Results of Operations.
Exhibit 99.3 Business
Exhibit 99.4 Glossary
<PAGE>
-3-
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 hereunto duly authorized.
Dated: February 7, 2000 PSINET INC.
By: /s/ Michael J. Malesardi
-------------------------
Michael J. Malesardi
Vice President and Controller
<PAGE>
-4-
EXHIBIT INDEX
Exhibit
Number Exhibit Name Location
- ------ ------------ --------
99.1 Unaudited Pro Forma Consolidated Filed herewith.
Financial Statements.
99.2 Management's Discussion and Analysis Filed herewith.
of Financial Condition and Results
of Operations
99.3 Business Filed herewith.
99.4 Glossary Filed herewith.
<PAGE>
Exhibit 99.1
UNAUDITED PRO FORMA CONSOLIDATED FINANCIAL INFORMATION
The following unaudited pro forma consolidated balance sheet as of September
30, 1999 and the unaudited pro forma consolidated statements of operations for
the year ended December 31, 1998 and for the nine months ended September 30,
1999, which we refer to as the Pro Forma Financial Information, present the pro
forma effects of our acquisition of TNI, other acquisitions described below,
our December 1999 offering of 10 1/2% senior notes and our February 2000
offering of 7% Series D cumulative convertible preferred stock. In January 2000,
we announced that our Board of Directors approved a two-for-one common stock
split to holders of record on January 28, 2000, which will be effected in the
form of a stock dividend. Certificates for the additional shares will be
distributed by our transfer agent on or about February 11, 2000. We have
disclosed within the pro forma financial information, where relevant, the effect
of the stock split.
The objective of Pro Forma Financial Information is to provide investors
with information about the continuing impact of particular completed or
probable transactions by indicating how the transactions might have affected
historical financial statements had they occurred at an earlier date.
On November 23, 1999, we acquired TNI. We paid shareholders of TNI aggregate
consideration of $340.8 million in cash and 7.6 million shares of our common
stock (15.2 million shares after giving effect to our common stock split) which
represented an aggregate value of approximately $346.2 million, assuming a price
per share of PSINet common stock of $45.719 ($22.859 after giving effect to our
common stock split) at the time we reached a definitive agreement with TNI. We
also assumed options to acquire approximately 463,000 shares of TNI common stock
which, at the time we entered into the definitive agreement, were exercisable
into an equal number of shares of our common stock (or twice the number of
shares of our common stock after giving effect to our common stock split) and
represented an aggregate value of approximately $13.0 million. We also repaid
outstanding principal and interest under TNI's revolving credit facility in the
amount of $52.1 million as a condition to closing. The source of the cash
consideration for the TNI merger and the repayment of the TNI
revolving credit facility obligation was from cash on hand.
In addition to our acquisition of TNI, during the two years ended December
31, 1999 and 1998, we completed a total of 60 acquisitions. As discussed below,
the impact of certain of these acquisitions, as determined in accordance with
guidelines for preparation of pro forma financial information, has been
reflected he rein.
On September 10, 1998, TNI acquired from AT&T Corp. the right to provide
services under certain customer service contracts and certain related equipment
relating to AT&T's Transaction Access Service (the "TAS Acquisition") for
approximately $64.3 million in cash, which materially changed TNI's business.
For accounting and reporting purposes, the TAS Acquisition was considered to be
an acquisition of a business.
In December 1999, we completed a $600.0 million offering of 10 1/2% senior
notes due 2006 and Euro 150.0 million of 10 1/2% senior notes due 2006. After
deducting estimated discounts and commissions of the initial purchasers and
estimated expenses payable by us, the net proceeds of the dollar and euro notes
offering were approximately $736.2 million based upon an exchange rate of Euro
0.9692 to U.S. $1.00.
In February 2000, we completed an $825.0 million offering of 16.5 million
shares of our 7% Series D cumulative convertible preferred stock, with a $50
liquidation preference. After deducting amounts paid by the purchasers into a
deposit account, estimated discounts and commissions of the initial purchasers
and estimated expenses payable by us, the net proceeds of the 7% Series D
cumulative convertible preferred stock offering were approximately $738.8
million.
The following Unaudited Pro Forma Consolidated Balance Sheet at September
30, 1999 presents, on a pro forma basis, our consolidated financial position
assuming each of the following had occurred on September 30, 1999:
. our acquisition of TNI;
. our December 1999 offering of 10 1/2% senior notes and the application
of the related estimated net proceeds; and
. our February 2000 offering of 7% Series D cumulative convertible preferred
stock and the application of the related estimated net proceeds.
The following Unaudited Pro Forma Consolidated Statement of Operations for
the year ended December 31, 1998 presents, on a pro forma basis, our
consolidated results of operations assuming each of the following had occurred
on January 1, 1998:
<PAGE>
. our acquisition of TNI;
. the TAS Acquisition, assuming that the TAS operations were conducted
under TNI's Communications Services Agreement with AT&T and assuming the
elimination of certain AT&T costs allocated to TAS;
. our acquisitions of iSTAR internet inc., Interactive Networx Gmbh, ioNET
Internetworking Services, LinkAge Online Limited, INTERLOG Internet
Services, Inc., Rimnet Corporation, iNet, Inc., Tokyo Internet Corporation,
Planete.net S.A.R.L., Satelnet S.A., Telelinx Ltd., Horizontes Internet
Ltda, Wavis Equipamentos de Informatica Ltda, Sao Paulo On-Line Ltda,
Internet de Mexico S.A. de C.V., Datanet S.A. de C.V., The Internet
Company, Caribbean Internet Service Corp., The Internet Access Company,
Intercomputer, S.A. and Intercomputer Soft, S.A., Elender Informatikai, and
TotalNet Inc. ("Other Acquisitions")
. our December 1999 offering of 10 1/2% senior notes and the application
of the related estimated net proceeds; and
. our February 2000 offering of 7% Series D cumulative convertible preferred
stock and the application of the related estimated net proceeds.
The following Unaudited Pro Forma Consolidated Statement of Operations for
the nine months ended September 30, 1999 presents, on a pro forma basis, our
consolidated results of operations assuming each of the following had occurred
on January 1, 1998:
. our acquisition of TNI;
. those of our Other Acquisitions which were consummated during 1999;
. our December 1999 offering of the 10 1/2% senior notes and the
application of the related estimated net proceeds; and
. our February 2000 offering of 7% Series D cumulative convertible preferred
stock and the application of the related estimated net proceeds.
The acquisition of TNI will be accounted for as a purchase business
combination and, accordingly, the purchase price of TNI has been allocated to
tangible assets acquired and liabilities assumed, based upon their respective
fair values, with the excess allocated to intangible assets to be amortized
over the estimated economic lives of the intangible assets. The consolidated
retained deficit reflected in the Unaudited Pro Forma Consolidated Balance
Sheet includes the non-recurring write-off of acquired in-process research and
development associated with the acquisition of TNI. We engaged an independent
third party to determine the allocation of the total purchase price of our
acquisition of TNI and those of certain of our Other Acquisitions which were
consummated during 1999. The evaluation for TNI indicates there are the
following intangible assets present: existing technology, tradenames, customer
contracts and relationships, existing workforce and goodwill, with useful lives
from three to 20 years, and approximately $84.0 million of purchased in-process
research and development.
Each of the Other Acquisitions and the TAS Acquisition was paid for in cash
and has been accounted for as a purchase business combination and, accordingly,
the purchase price has been allocated to tangible assets acquired and
liabilities assumed, based upon their respective fair values, with the excess
allocated to intangible assets to be amortized over the estimated economic
lives of the intangible assets from the respective dates of acquisition. For
the Other Acquisitions consummated during 1999, we have recorded a preliminary
purchase price allocation and management does not believe the final allocation
will be materially different.
The Pro Forma Financial Information is not intended to be indicative of the
results which would actually have been obtained had the transactions described
above occurred on the dates indicated or which may be obtained in the future.
The pro forma adjustments are based upon available information and assumptions
that we believe are reasonable in the circumstances. The Unaudited Pro Forma
Consolidated Statements of Operations do not give effect to any potential cost
savings and synergies that could result from the acquisitions included therein.
<PAGE>
PSINET INC.
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
For the Year Ended December 31, 1998
(In millions of U.S. dollars, except per share and share amounts)
<TABLE>
<CAPTION>
Transaction
Network Transaction
Services Access
PSINet Inc. Inc. Service, Inc. Other
Consolidated Consolidated Acquisition Acquisitions
------------ ------------ ------------- ------------
<S> <C> <C> <C> <C>
Revenue................... $ 259.6 $101.9 $40.3 $119.8
Operating costs and
expenses:
Data communications and
operations............. 199.4 68.3 24.8 69.8
Sales and marketing..... 57.0 4.0 -- 15.3
General and
administrative......... 45.3 8.5 -- 28.9
Depreciation and
amortization........... 63.4 10.8 3.4 10.1
Charge for acquired in-
process R&D............ 70.8 -- -- --
------- ------ ----- ------
Total operating costs
and expenses......... 435.9 91.6 28.2 124.1
------- ------ ----- ------
Income (loss) from
operations............... (176.3) 10.3 12.1 (4.3)
Interest expense.......... (63.9) (1.2) (2.6) (3.3)
Interest income........... 19.7 1.5 -- 0.3
Other income (expense),
net...................... 6.8 -- -- (0.6)
Non-recurring arbitration
charge................... (49.0) -- -- --
------- ------ ----- ------
Income (loss) before
income taxes, equity in
earnings of affiliate and
minority interest........ (262.7) 10.6 9.5 (7.9)
Income tax benefit
(expense)................ 0.9 (4.4) (3.7) (1.7)
Equity in earnings of
unconsolidated
affiliate................ -- 0.4 -- (0.1)
Minority interest in net
loss of consolidated
subsidiary............... -- 0.3 -- --
------- ------ ----- ------
Net income (loss)......... (261.8) 6.9 5.8 (9.7)
Return to preferred
shareholders............. (3.1) -- -- --
------- ------ ----- ------
Net income (loss)
available to common
shareholders............. $(264.9) $ 6.9 $ 5.8 $ (9.7)
======= ====== ===== ======
Basic and diluted loss
per share ............... $ (5.32)
=======
Shares used in computing
basic and diluted loss per
share (in thousands) .... 49,806
=======
Basic and diluted loss per
share (after stock
split) .................. $ (2.66)
=======
Shares used in computing
basic and diluted loss
per share (after stock
split, in thousands) .... 99,612
=======
</TABLE>
<PAGE>
PSINET INC.
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
For the Year Ended December 31, 1998
(In millions of U.S. dollars, except per share and share amounts)
<TABLE>
<CAPTION>
Pro
Adjustments Forma
----------- -------
<S> <C> <C>
Revenue...................... $ -- $ 521.6
Operating costs and expenses:
Data communications and
operations................ -- 362.3
Sales and marketing........ -- 76.3
General and
administrative............ -- 82.7
Depreciation and
amortization.............. 84.4 (a) 172.1
Charge for acquired in-
process R&D............... -- 70.8
------- -------
Total operating costs and
expenses................ 84.4 764.2
------- -------
Income (loss) from
operations.................. (84.4) (242.6)
Interest expense............. (81.2)(b) (152.2)
Interest income.............. -- 21.5
Other income (expense), net.. -- 6.2
Non-recurring arbitration
charge...................... -- (49.0)
------- -------
Income (loss) before income
taxes, equity in earnings of
affiliate and minority
interest.................... (165.6) (416.1)
Income tax benefit
(expense)................... 8.1 (f) (0.8)
Equity in earnings of
unconsolidated affiliate.... -- 0.3
Minority interest in net loss
of consolidated subsidiary.. -- 0.3
------- -------
Net income (loss)............ (157.5) (416.3)
Return to preferred
shareholders................ (57.8)(g) (60.9)
------- -------
Net income (loss) available
to common shareholders...... $(215.3) $(477.2)
======= =======
Basic and diluted loss
per share ................. $ (8.31)
=======
Shares used in computing
basic and diluted loss
per share (in thousands) .. 7,600 (c) 57,406
======= =======
Basic and diluted loss per
share (after stock
split) ..................... $ (4.16)
=======
Shares used in computing
basic and diluted loss per
share (after stock split,
in thousands) ............... 15,200 (c) 114,812
======= =======
</TABLE>
<PAGE>
PSINET INC.
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
For the Nine Months Ended September 30, 1999
(In millions of U.S. dollars, except per share and share amounts)
<TABLE>
<CAPTION>
Transaction
Network
Services
PSINet Inc. Inc. Other
Consolidated Consolidated Acquisitions
------------ ------------ ------------
<S> <C> <C> <C>
Revenue................................. $ 369.3 $126.9 $35.9
Operating costs and expenses:
Data communications and operations.... 261.3 80.1 20.8
Sales and marketing................... 68.1 5.1 3.4
General and administrative............ 47.3 9.5 7.0
Depreciation and amortization......... 102.8 14.0 2.7
Impairment of assets.................. -- 0.9 --
------- ------ -----
Total operating costs and expenses.. 479.5 109.6 33.9
------- ------ -----
Income (loss) from operations........... (110.2) 17.3 2.0
Interest expense........................ (120.8) (3.1) (0.6)
Interest income......................... 32.5 1.3 0.1
Other income (expense), net............. (0.8) -- (0.3)
Gain (loss) on sale of investments...... (0.6) -- --
------- ------ -----
Income (loss) before income taxes,
equity in earnings of affiliate and
minority interest...................... (199.9) 15.5 1.2
Income tax benefit (expense)............ 0.7 (5.9) (0.8)
Equity in earnings of unconsolidated
affiliate.............................. -- 0.1 --
Minority interest in net loss (income)
of consolidated subsidiary............. -- (0.1) --
------- ------ -----
Net income (loss)....................... (199.2) 9.6 0.4
Return to preferred shareholders........ (11.2) -- --
------- ------ -----
Net income (loss) available to common
shareholders........................... $(210.4) $ 9.6 $ 0.4
======= ====== =====
Basic and diluted loss per share ....... $ (3.50)
=======
Shares used in computing basic and
diluted loss per share (in thousands).. 60,105
=======
Basic and diluted loss per share
(after stock split) ................... $ (1.75)
=======
Shares used in computing basic and
diluted loss per share
(after stock split, in thousands) ..... 120,210
=======
</TABLE>
<PAGE>
PSINET INC.
UNAUDITED PRO FORMA CONSOLIDATED STATEMENT OF OPERATIONS
For the Nine Months Ended September 30, 1999
(In millions of U.S. dollars, except per share and share amounts)
<TABLE>
<CAPTION>
Pro
Adjustments Forma
----------- -------
<S> <C> <C>
Revenue...................... $ -- $ 532.1
Operating costs and expenses:
Data communications and
operations................ -- 362.2
Sales and marketing........ -- 76.6
General and
administrative............ -- 63.8
Depreciation and
amortization.............. 46.3 (d) 165.8
Impairment of assets....... -- 0.9
------ -------
Total operating costs and
expenses................ 46.3 669.3
------ -------
Income (loss) from
operations.................. (46.3) (137.2)
Interest expense............. (59.2)(e) (183.7)
Interest income.............. -- 33.9
Other income (expense), net.. -- (1.1)
Gain (loss) on sale of
investments................. -- (0.6)
------ -------
Income (loss) before income
taxes, equity in earnings of
affiliate and minority
interest.................... (105.5) (288.7)
Income tax benefit
(expense)................... 5.9 (f) (0.1)
Equity in earnings of
unconsolidated affiliate.... -- 0.1
Minority interest in net loss
(income) of consolidated
subsidiary.................. -- (0.1)
------ -------
Net income (loss)............ (99.6) (288.8)
Return to preferred
shareholders................ (43.3)(g) (54.5)
------ -------
Net income (loss) available
to common shareholders...... $(142.9) $(343.3)
====== =======
Basic and diluted loss per
share ...................... $ (5.07)
=======
Shares used in computing
basic and diluted loss per
share (in thousands)........ 7,600 (c) 67,705
====== =======
Basic and diluted loss per
share (after stock split)... $ (2.54)
=======
Shares used in computing
basic and diluted loss per
share (after stock split,
in thousands) .............. 15,200 (c) 135,410
====== =======
</TABLE>
<PAGE>
PSINET INC.
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED STATEMENTS OF OPERATIONS
For the Year Ended December 31, 1998
and the Nine Months Ended September 30, 1999
NOTE 1--PRO FORMA ADJUSTMENTS
The pro forma adjustments outlined below present separate adjustments
related to the acquisition of TNI and the adjustments related to the other
transactions reflected in the Unaudited Pro Forma Consolidated Statements of
Operations.
The purchase price of each acquisition has been allocated to tangible assets
acquired and liabilities assumed, based upon their respective fair values, with
the excess allocated to intangible assets to be amortized over the estimated
economic lives of the intangible assets of up to 20 years from the respective
dates of acquisition.
We engaged an independent third party to determine the allocation of the
total purchase price of TNI. As of the acquisition announcement date, TNI was
in the process of working on five key projects which had not yet been
determined to be technologically feasible and which have no alternative future
use, which would give rise to such a charge. The five key research and
development projects include:
. Fraud Engine Update. This is a project under development that is
designed to update the system by which a telephone company verifies the
billability of a long distance call originating from a pay phone. The
project is expected to allow TNI to continue to grow market share
through the implementation of this new product that gives customers
greater customization of features. At the same time, the enhancement is
designed to significantly increase throughput volume as compared with
existing technology. The project also includes an update of the SS7
network architecture underlying the company's technical infrastructure,
which is intended to allow it to significantly expand its existing
product portfolio. The material technology risk associated with this
project is that the product is based on an entirely new design that
provides for portability and independence from a particular hardware
platform, which is currently unproven. This project, under current
plans, is expected to be completed in the first quarter of 2000.
. Outdial/Net Generation Excel Switch. This is a project under development
in Ireland for use in the United Kingdom. This product is designed to
give TNI's network access controllers the ability to originate calls,
whereas they currently can only receive calls. This technology is
designed to allow the host (credit card processor) to call a merchant's
terminal for daily batch verification, eliminating the need for the
merchant to remember to call into the host. This would also facilitate
fault investigation, network configuration and scheduled changes. This
project is expected to allow TNI to enter new markets because the
software allows the same piece of hardware to receive both inbound and
outbound calls. The material technology risk associated with this
project is overcoming the interference that can result when both
outbound and inbound calls simultaneously attempt to use the same
channel. The project, under current plans, is expected to be completed
in the second quarter of 2000.
. Local Number Portability. This is a project that is designed to allow
TNI to house the database against which a telephone company verifies the
billability of a long distance call originating from a pay phone in
Australia. Additionally, this project is designed to enable users of
telecommunications services to retain their telephone number when
changing their service deliverer or changing location. If successful,
the company expects to introduce the same technology in Ireland in the
year following its initial introduction in Australia. The material
technology risks include resolving the format of the database, database
replication, and achieving compatibility with currently established
services such as directory assistance, operator assistance and emergency
calls. As well, configuration differences
<PAGE>
between Australia and Ireland's phone number formats will need to be
resolved and tested. This project, under current plans, is expected to
be completed in the first quarter of 2000.
. ATM Processing. This project, which is intended to assist the company's
expansion into Europe, would both enable the carrying of credit card
transactions there between a merchant and processor, in addition to
allowing TNI to assume the role of the processor. While the network
underlying the technology has previously been developed, there are
material technology risks in rebuilding the switch between the ATM and
the processors, tying the processors directly to the respective banks,
and supplying the system with several gateway alternatives. This
project, under current plans, is expected to be completed in the third
quarter of 2000.
. ATM Connectivity. This project responds to those customers requesting the
capability to download information to their ATMs. Current technology
requires four separate modem cards for each connectivity type, and
requires integration architecture to enable each connectivity type to
work properly. The goal of this project is to develop one modem card
that provides four separate types of connectivity. The material
technology risk associated with this project relates to the company's
inexperience with successfully connecting two of the technologies to the
company's network, and with one modem. This project, under current
plans, is expected to be completed in the first quarter of 2000.
If none of these projects is successfully developed, our sales and
profitability may be adversely affected in future periods. However, the failure
of any particular individual project in-process would not have a material
impact on our financial condition or results of operations. Additionally, the
failure of any particular individual project in-process could impair the value
of other intangible assets acquired.
For purposes of this Pro Forma Financial Information, we have attributed the
excess of the purchase price over the acquired net tangible assets for TNI of
approximately $705.2 million to other intangible assets in accordance with the
preliminary valuation; these include: existing technology ($77.0 million),
tradenames ($37.7 million), customer contracts and relationships ($101.4
million), existing workforce ($3.4 million) and goodwill ($401.7 million), with
useful lives from three to 20 years, and purchased in-process research and
development ($84.0 million).
For the Year Ended December 31, 1998
(a) Reflects the increase in amortization resulting from the allocation of
the purchase price to the acquired net tangible and intangible assets
(principally tradename, customer relationships, goodwill, assembled workforce
and existing technology) relating to the acquisitions included herein. The
assigned lives of the acquired intangible assets range from three to 20 years.
<TABLE>
<CAPTION>
Amortization
--------------------------
(millions of U.S. dollars)
<S> <C>
TNI merger........................................ $49.4
Other acquisitions................................ 35.0
-----
$84.4
=====
</TABLE>
(b) Reflects the following:
<TABLE>
<CAPTION>
Interest
--------------------------
(millions of U.S. dollars)
<S> <C>
Interest expense avoided through assumed
repayment of the TNI revolving credit facility
as of January 1, 1998........................... $ 3.7
Interest expense associated with the 10 1/2%
notes offering.................................. (84.1)
Other............................................ (0.8)
------
$(81.2)
======
</TABLE>
<PAGE>
(c) Basic and diluted loss per share are computed using net loss available to
common shareholders divided by the weighted average number of shares of our
common stock that were outstanding during the periods presented and assumes that
the issuance of approximately 7,600,000 shares of our common stock (15,200,000
shares of our common stock, after giving effect to our common stock split) in
connection with the acquisition of TNI had occurred on January 1, 1998. Because
all common stock equivalents are antidilutive, basic and diluted loss per share
are the same for all periods presented.
For the Nine Months Ended September 30, 1999
(d) Reflects the increase in amortization resulting from the allocation of
the purchase price to the acquired net tangible and intangible assets
(principally tradename, customer relationships, goodwill, assembled workforce
and existing technology) relating to the acquisitions included herein. The
assigned lives of the acquired intangible assets range from three to 20 years.
<TABLE>
<CAPTION>
Amortization
--------------------------
(millions of U.S. dollars)
<S> <C>
TNI merger........................................ $37.0
Other acquisitions................................ 9.3
-----
$46.3
=====
</TABLE>
(e) Reflects the following:
<TABLE>
<CAPTION>
Interest
--------------------------
(millions of U.S. dollars)
<S> <C>
Interest expense avoided through assumed
repayment of the TNI Revolving Credit facility
as of January 1, 1998........................... $ 2.8
Interest expense associated with the 10 1/2%
notes offering.................................. (61.9)
Other............................................ (0.1)
------
$(59.2)
======
</TABLE>
Other
(f) Reversal of tax expense recorded by TNI and TAS as a result of
availability to offset TNI and TAS taxable income with our taxable losses for
the periods presented.
(g) Reflects the following:
<TABLE>
<CAPTION>
12/31/98 9/30/99
------------- -------------
(millions of U.S. dollars)
<S> <C> <C>
Return to preferred shareholders on the 7% Series D cumulative convertible preferred
stock................................................................................ $(57.8) $(43.3)
======= =======
</TABLE>
<PAGE>
PSINET INC.
UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
As of September 30, 1999
(In millions of U.S. dollars)
<TABLE>
<CAPTION>
Transaction
Network
PSINet Inc. Services Inc.
Consolidated Consolidated Adjustments Pro Forma
------------ ------------- ----------- ---------
<S> <C> <C> <C> <C>
ASSETS
Current assets:
Cash and cash $ 494.1 $ 27.2 $(340.8)(a)
equivalents...........
(62.8)(f)
736.2 (g)
738.8 (h) $1,592.7
Restricted cash and
short-term
investments........... 137.5 -- -- 137.5
Short-term investments
and marketable
securities............ 1,079.2 0.1 -- 1,079.3
Accounts receivable,
net................... 65.5 30.0 -- 95.5
Prepaid expenses....... 14.5 -- -- 14.5
Other current assets... 39.7 8.7 -- 48.4
-------- ------ ------- --------
Total current assets... 1,830.5 66.0 1,071.4 2,967.9
Property, plant and
equipment, net......... 790.4 44.2 (12.2)(b) 822.4
Goodwill and other
intangibles, net....... 544.8 86.0 (86.0)(b)
621.2 (b) 1,166.0
Other assets and
deferred charges....... 133.8 5.1 18.6 (g) 157.5
-------- ------ --------- --------
Total assets........... $3,299.5 $201.3 $ 1,613.0 $5,113.8
======== ====== ========= ========
LIABILITIES AND
SHAREHOLDERS'
EQUITY
Current liabilities:
Current portion of
long-term debt........ $ 89.5 $ 0.1 $ -- $ 89.6
Trade accounts
payable............... 87.1 4.2 -- 91.3
Accrued payroll and
related expenses...... 21.1 2.0 -- 23.1
Other accounts payable
and accrued
liabilities........... 72.1 15.1 21.0 (c) 108.2
Accrued interest
payable............... 50.0 0.8 -- 50.8
Deferred revenue....... 22.6 1.6 -- 24.2
-------- ------ ------- --------
Total current
liabilities........... 342.4 23.8 21.0 387.2
Long-term debt.......... 2,402.8 62.9 (62.8)(f)
754.8 (g) 3,157.7
Deferred income taxes... 2.9 -- -- 2.9
Other liabilities....... 64.9 0.6 -- 65.5
Minority interest....... -- -- -- --
-------- ------ ------- --------
Total liabilities....... 2,813.0 87.3 713.0 3,613.3
-------- ------ ------- --------
Shareholders' equity:
Convertible preferred
stock, Series C....... 368.8 -- -- 368.8
Convertible preferred
stock, Series D....... -- -- 738.8 (h) 738.8
Common stock........... 0.7 0.1 (0.1)(d) 0.7
Capital in excess of 825.9 78.4
par value............. (78.4)(d)
359.2 (a) 1,185.1
Accumulated earnings (638.0) 36.2
(deficit)............. (36.2)(d)
(84.0)(e) (722.0)
Treasury stock......... (2.0) -- -- (2.0)
Accumulated other
comprehensive income.. 54.0 (0.7) 0.7 (d) 54.0
Bandwidth asset/IRU
agreement............. (122.9) -- -- (122.9)
-------- ------ ------- --------
Total shareholders'
equity................ 486.5 114.0 900.0 1,500.5
-------- ------ ------- --------
Total liabilities and
shareholders' equity.. $3,299.5 $201.3 $1,613.0 $5,113.8
======== ====== ======== ========
</TABLE>
35
<PAGE>
PSINET INC.
NOTES TO UNAUDITED PRO FORMA CONSOLIDATED BALANCE SHEET
As of September 30, 1999
NOTE 1--PRO FORMA ADJUSTMENTS
Reflects the acquisition of TNI and other events, including:
(a) the assumed cash paid and the issuance of approximately 7.6 million
shares of our common stock (15.2 million shares after giving effect to our
common stock split) in connection with the acquisition assuming the
acquisition had been consummated on September 30, 1999 (the shares of PSINet
common stock assumed a value of $45.719 per share ($22.859 per share after
giving effect to our common stock split), based on the average of the closing
price of PSINet common stock on the Nasdaq National Market on August 20, 1999
and August 23, 1999), and the assumption by PSINet of options to acquire
463,000 shares of TNI common stock which were converted into options to
purchase an equal number of shares of PSINet stock (or twice the number of
shares after giving effect to our common stock split).
(b) the preliminary allocation of the purchase price of TNI which has
been allocated to tangible assets acquired and liabilities assumed, based
upon their respective fair values, with the excess allocated to intangible
assets to be amortized over the estimated economic lives of the intangible
assets, and the elimination of existing intangible assets of TNI.
We engaged an independent third party to determine the allocation of the
total purchase price of TNI. For purposes of this Pro Forma Financial
Information, PSINet has attributed the excess of the purchase price over
the acquired net tangible assets for TNI of $705.2 million to other
intangible assets in accordance with the preliminary valuation; these
include: existing technology ($77.0 million), tradename ($37.7 million),
customer contracts and relationships ($101.4 million), existing workforce
($3.4 million) and goodwill ($401.7 million) with useful lives from three
to 20 years, and purchased in-process research and development ($84.0
million).
(c) the estimated closing costs and estimated purchase liabilities
associated with the merger.
(d) the elimination of the TNI common stock, capital in excess of par
value, retained earnings and accumulated other comprehensive income.
(e) the write-off from the preliminary allocation of a portion of the
purchase price of TNI to purchased in-process research and development.
(f) the repayment of the TNI revolving credit facility including accrued
interest in accordance with the merger agreement which totaled $62.8
million as of September 30, 1999.
(g) reflects the issuance of the 10 1/2% senior notes in December 1999
and the related estimated offering expenses.
(h) reflects the issuance of the 7% Series D cumulative convertible
preferred stock in February 2000 and the related estimated offering expenses.
<PAGE>
EXHIBIT 99.2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
You should read the following discussion in conjunction with our consolidated
financial statements and notes thereto on file with the Securities and Exchange
Commission. The results shown herein are not necessarily indicative of the
results to be expected in any future periods. This discussion contains forward-
looking statements based on current expectations which involve risks and
uncertainties. Actual results and the timing of events could differ materially
from the forward-looking statements as a result of a number of factors. For a
discussion of the risk factors that could cause actual results to differ
materially from the forward-looking statements, you should read our "Risk
Factors" on file with the Securities and Exchange Commission.
General
We are a leading independent global provider of Internet and eCommerce
solutions to businesses. As an Internet Super Carrier, or ISC, we offer global
distribution of our services over our worldwide fiber optic network, which is
capable of transmission speeds in excess of three terabits. We define the
elements of an ISC to include:
. Multiple Internet and eCommerce hosting centers--We currently have, or
are building or planning to build, Internet and eCommerce hosting
centers in key financial and business centers around the world,
including the Amsterdam, Atlanta, Berlin, Geneva, Hong Kong, London, Los
Angeles, New York, Paris, Seoul, Toronto, Tokyo and Washington, D.C.
metropolitan areas;
. Extensive global distribution--We have over 1,000 sales personnel and
2,500 value-added resellers, or VARs, systems integrators and Web design
professionals in 27 countries throughout the world;
. Global brand name recognition--Our brand name is increasingly recognized
throughout the world for Internet-protocol services and applications
that meet the needs of business customers, supported by local language
sales, provisioning and service; and
. Worldwide fiber network and related optronic equipment--We operate one
of the largest global data communications networks that enables, or is
expected to enable, our customers to connect to the Internet and access
their corporate networks and systems resources from most of the world's
major business and population centers.
We offer a suite of value-added products and services that are designed to
enable our customers, through their use of the Internet, to communicate more
efficiently with their own customers, suppliers, business partners and remote
office locations. We conduct our business through operations organized into
five geographic operating segments--U.S./Canada, Latin America, Europe,
Asia/Pacific and India/Middle East/Africa. Our services and products include
access services that offer dedicated, dial-up, wireless and DSL connections,
Web hosting services, intranets, VPNs, eCommerce, voice-over-IP, email and
managed security services. We also provide wholesale and private label network
connectivity and related services to other ISPs and telecommunications carriers
to further utilize our network capacity.
We provide Internet connectivity and Web hosting services to customers in
approximately 90 of the 100 largest metropolitan statistical areas in the U.S.
and in the 20 largest global telecommunications markets and operate in 27
countries.
We typically enter a new market through the acquisition of an existing
company within the particular market, and then further expand through a
combination of organic growth supplemented by further acquisitions. Revenue
from non-U.S. operations as a percentage of consolidated results comprised 53%
of revenue in the third quarter of 1999, which is consistent with the 51% of
revenue generated by non-U.S. operations in the second quarter of 1999. By
comparison, non-U.S. operations comprised 40% of revenue for all of 1998. As a
result of our acquisition of TNI, our revenue mix may change again in 2000
because TNI's revenues are derived primarily from U.S. operations.
<PAGE>
We operate one of the largest global commercial data communications
networks. Our Internet-optimized network extends around the globe and is
connected to over 700 POPs, situated throughout our geographic operating
regions that enable our customers to connect to the Internet. Our network reach
allows our customers to access their corporate network and systems resources
through local calls in over 150 countries. We further expand the reach of our
network by connecting with other large ISPs through contractual arrangements,
called peering agreements that permit the exchange of information between our
network and the networks of our peering partners. As part of our ISC strategy,
we have opened seven global Internet and eCommerce hosting facilities. These
facilities are located in the Los Angeles, New York City, Washington, D.C.,
Amsterdam, Basel, London and Toronto metropolitan areas and contain a total of
approximately 200,000 square feet. We have two network operating centers that
monitor and manage network traffic 24-hours per day, seven-days per week.
Since the commencement of our operations, we have undertaken a program of
developing and expanding our data communications network. In connection with
this program, we have made significant investments in telecommunications
circuits and equipment to produce a geographically-dispersed, Asynchronous
Transfer Mode (ATM), Integrated Service Digital Network (ISDN) and Switched
Multimegabit Data Service (SMDS) compatible frame relay network specially
designed to optimize Internet traffic. ATM, ISDN and SMDS are among the most
widely used switching standards. These investments generally are made in
advance of obtaining customers and resulting revenue.
As part of our ongoing efforts to further expand and enhance our network, we
have acquired or agreed to acquire significant amounts of global
telecommunications bandwidth in order to build a worldwide fiber optic network
capable of speeds of over three terabits. These include long-term rights,
typically for ten years or more, called indefeasible rights of use, or IRUs, or
other rights, in dark fiber, lit fiber, and satellite transponder capacity. The
acquisition of these telecommunications bandwidth assets has increased our
network capacity by a substantial magnitude while reducing significantly our
data communications and operations costs per equivalent mile. The increased
network capacity should enable us to expand our offering of higher-speed or
more bandwidth intensive Internet and Internet-related services to a larger
customer base.
Nine Months Ended September 30, 1999 As Compared To The Nine Months Ended
September 30, 1998
Results of Operations
Revenue. We generate revenue primarily from the sale of Internet access,
eCommerce and related services to businesses. Revenue was $369.3 million for
the nine months ended September 30, 1999, an increase of $203.6 million, or
123%, from $165.7 million for the nine months ended September 30, 1998. Revenue
growth of 14% from the second quarter of 1999 consisted of organic (internally
generated) growth of 10% and growth from acquisitions of 4%. Our internally
generated revenue growth is attributable to a number of factors, including an
increase in the number of business customer and ISP accounts and an increase in
the average annual revenue realized per new business customer account, which
are offset by a decrease in hardware sales to customers. While most revenue is
recurring in nature, from time to time we generate non-recurring revenue from
consulting and other arrangements that may or may not continue in the future.
To date, such amounts have not been material to revenue.
Our business customer account base increased by 71% to 79,900 business
accounts at September 30, 1999 from 46,700 business accounts at September 30,
1998. By comparison, at June 30, 1999, we had 73,400 accounts. Of the total
business account growth from September 30, 1998, 20,085 accounts were
attributable to the existing customer base of the companies we acquired.
Accounts outside the U.S. represented 60% of our customer account base at
September 30, 1999, compared to 51% at September 30, 1998. The total number of
our Carrier and ISP customers grew to 644 at September 30, 1999, and, together
with our small office/home office (SOHO) and consumer customers, provided
service to over 1.2 million customers. This compares with 141 Carrier and ISP
customers and 665,000 SOHO and consumer customers at September 30, 1998.
Average annual new contract value for business accounts increased to $6,600 for
the nine months ended September 30, 1999 from $5,800 for the nine months ended
September 30, 1998 and $6,000 for the full year 1998, which we
<PAGE>
believe reflects an increasing demand for value-added services and higher
levels of bandwidth. The average annual new contract value of $6,700 for the
three months ended September 30, 1999 represents a decrease in comparison to
the $7,300 average annual value for the quarter ended June 30, 1999, due to the
effect of non-U.S. acquisitions in some less mature business markets. Our
business account retention rate remained strong at 80% for the three months
ended September 30, 1999 and compared with a full-year retention rate in 1998
of 79%. Many of the acquisitions that we completed over the last two years
included a consumer component which has resulted in our gaining a number of
consumer customers. We anticipate that during 2000 we may review and evaluate
our consumer business strategy.
Data Communications and Operations. Data communications and operations
expenses consist primarily of leased long distance and local circuit costs as
well as personnel and related operating expenses associated with network
operations, customer support and field service. Data communications and
operations expenses were $261.3 million (70.8% of revenue) for the nine months
ended September 30, 1999, an increase of $130.8 million, or 100.2%, from $130.5
million (78.8% of revenue) for the nine months ended September 30, 1998. The
increase in expenses related principally to increases in:
. the number of leased backbone, dedicated customer and dial-up circuits;
. expenditures for additional primary rate interface, or PRI, circuits to
support the growth of our Carrier and ISP customer business;
. personnel costs resulting from the expansion of our network operations,
customer support and field service staff, including through
acquisitions; and
. operating and maintenance charges on telecommunications bandwidth.
Our dedicated access customer account base grew to 21,400 at September 30,
1999 from 11,400 at September 30, 1998, an increase of 88%. Comparing the nine
months ended September 30, 1999 to the nine months ended September 30, 1998,
backbone circuit costs increased $37.9 million, or 123%, dedicated customer
circuit costs increased $19.5 million, or 114%, PRI expense increased $19.2
million, or 86%, personnel and related operating expenses associated with
network operations, customer support and field service increased $27.2 million,
or 90% and operating and maintenance charges on our bandwidth increased $5.6
million, or 727%. Circuit costs relating to our new and expanded POPs and PRIs
generally are incurred by us in advance of obtaining customers and resulting
revenue. Historically, the organic growth of our Carrier and ISP customer
business is highest beginning late in the fourth quarter due to seasonal
impacts from holiday sales of computers. In order to prepare for this demand,
in addition to improving service to existing customers, we have expended a
considerable amount of effort during the past six months in building an
inventory of PRIs. As a result, our monthly direct costs in the U.S. for PRIs
have increased from approximately $3.0 million in the month of March 1999 to
approximately $5.0 million in the month of September 1999. Based on current
capacity and customer usage rates, we believe that we are now able to service
approximately twice as many dial-up customers in the U.S. than we serviced with
these PRIs as of September 30, 1999.
Although we expect that data communications and operations expenses will
continue to increase as our customer base grows, we anticipate that such
expenses will continue to decrease over time as a percentage of revenue as we
acquire network bandwidth under IRU or capital lease agreements due to
decreases in unit costs as a result of continued increases in network
utilization. Network bandwidth acquired under IRU or capital lease agreements
is recorded as an asset and amortized over its useful life. This will, in turn,
result in an increase in the operations and maintenance expense component of
data communications costs, increases in costs for other leased circuits
connected to the bandwidth, as well as increases in depreciation and
amortization expense over the useful life of the bandwidth, typically 10 to 20
years.
Sales and Marketing. Sales and marketing expenses consist primarily of
personnel costs, advertising costs, distribution costs and related occupancy
costs. Sales and marketing expenses were $68.0 million (18.4% of revenue) for
the nine months ended September 30, 1999, an increase of $30.1 million, or
79.4%, from $37.9 million (22.9% of revenue) for the nine months ended
September 30, 1998. The increase is principally
<PAGE>
attributable to costs associated with the expansion of our sales force
internationally in conjunction with our growth and acquisitions, implementation
of our newly regionalized sales and marketing organization in the U.S. and to
advertising costs, including costs associated with our naming rights and
sponsorship agreements for PSINet Stadium with the Baltimore Ravens of the
National Football League and the launch of our NFL television advertising
campaign.
General and Administrative. General and administrative expenses consist
primarily of salaries and occupancy costs for executive, financial, legal and
administrative personnel and provision for uncollectible accounts receivable.
General and administrative expenses were $47.3 million (12.8% of revenue) for
the nine months ended September 30, 1999, an increase of $17.9 million, or
60.7%, from $29.4 million (17.8% of revenue) for the nine months ended
September 30, 1998. The increase resulted from an approximately $11.7 million
increase relating to general and administrative expenses of companies acquired
after September 30, 1998 and an increase of expenses relating to our organic
growth of approximately $6.9 million due to the addition of management staff
and other related operating expenses across our organization. We are finalizing
plans to consolidate most of our Virginia locations into one facility. As a
result, various costs associated with the termination of various facility
leases and the relocation of employees are likely to be incurred over the next
two quarters. We expect that this will continue to increase as we continue to
expand, compete for qualified personnel, and integrate operations of acquired
businesses.
Depreciation and Amortization. Depreciation and amortization costs were
$102.8 million (27.8% of revenue) for the nine months ended September 30, 1999,
an increase of $65.8 million, or 178%, from $37.0 million (22.3% of revenue)
for the nine months ended September 30, 1998.
Depreciation and amortization costs have increased as a result of capital
expenditures associated with network infrastructure enhancements, including
telecommunications bandwidth acquisitions, and depreciation and amortization of
tangible and intangible assets related to business acquisitions. We anticipate
that our depreciation and amortization expenses will continue to increase
significantly as we acquire network bandwidth under IRU or capital lease
agreements, and as we record depreciation and amortization on tangible and
intangible assets related to business combinations and expansion of our
operations. In connection with finalizing our plans to consolidate most of our
Virginia locations into one facility, the useful lives of certain of our assets
may be shortened.
Our rapid growth over the past year through acquisitions and through the
expansion of our global data communications network has led to a significant
increase in the carrying value of our tangible and intangible assets. In
conjunction with the process of integrating these assets into our business, we
may identify opportunities where we can streamline our operations and improve
network quality through the elimination of redundant or underperforming assets.
Our ongoing integration actions and other steps aimed at reducing our cost
structure may lead to charges or to adjustments to the depreciable lives of our
assets in the future.
Acquired In-Process Research and Development. The results for the nine
months ended September 30, 1999 include no charges for acquired in-process
research and development related to acquisitions completed during the period.
The results for the nine months ended September 30, 1998 include a $40.4
million charge (24.4% of revenue) for acquired in-process research and
development. The charges in 1998 were based on independent valuations and
reflect technologies acquired prior to technological feasibility and for which
there was no alternative future use. We are in the process of finalizing
valuations for 1999 acquisitions and the allocation of the purchase price for
such acquisitions is preliminary. We expect that final allocations for these
acquisitions will be completed before the 1999 results are finalized. We do not
expect any change in the current allocation, including any charge for acquired
in-process research and development, to have a material impact on our results
of operations.
We engaged an independent third party to determine the allocation of the
total purchase price of our acquisition of TNI and other 1999 completed
acquisitions. The evaluation for TNI indicates there are the following
intangible assets present: existing technology including software, patents,
unpatented technology and
<PAGE>
know-how, tradenames, customer contracts and relationships, existing workforce
and goodwill, with useful lives up to 20 years. The valuation also indicates
approximately $84.0 million of purchased in-process research and development.
Interest Expense. Interest expense was $120.9 million (32.7% of revenue) for
the nine months ended September 30, 1999, an increase of $82.7 million, or
216%, from $38.2 million (23.0% of revenue) for the nine months ended September
30, 1998. The increase was due to interest related to our 10% senior notes
issued in April 1998, 11 1/2% senior notes issued in November 1998 and 11%
senior notes issued in July 1999, as well as to increased borrowings and
capital lease obligations incurred to finance our network expansion and to fund
our working capital requirements.
Interest Income. Interest income was $32.5 million (8.8% of revenue) for the
nine months ended September 30, 1999, an increase of $21.2 million, or 186%,
from $11.4 million (6.9% of revenue) for the nine months ended September 30,
1998. The increase was due to interest received on the net proceeds of our
various financing activities during 1998 and 1999, which we invest in short-
term investment grade and government securities until such time as we use them
for other purposes.
Net Loss Available to Common Shareholders and Loss per Share. Our net loss
available to common shareholders was $210.4 million, or $3.50 basic and diluted
loss per share, for the nine months ended September 30, 1999, an increase of
$78.0 million, or 58.9%, from $132.4 million, or $2.70 basic and diluted loss
per share, for the nine months ended September 30, 1998.
The primary reasons for the increase were:
. operating losses from certain acquired businesses;
. an increase in interest expense due to the issuance of our senior notes;
. acquisitions of fiber-based and satellite telecommunications bandwidth,
leading to an increase in depreciation, personnel and other operating
costs to manage the bandwidth;
. an increase in depreciation and amortization related to acquisitions,
offset by the reduction in charges for acquired in-process research and
development; and
. an increase in expenditures for dial-up circuits (e.g., PRIs).
The return to preferred shareholders is subtracted from net loss in
determining the net loss available to common shareholders. Because inclusion of
common stock equivalents is antidilutive, basic and diluted loss per share are
the same for each period presented.
Year Ended December 31, 1998 As Compared To The Year Ended December 31, 1997
Results of Operations
Revenue. Revenue was $259.6 million in 1998, an increase of $137.7 million,
or 113%, from $121.9 million in 1997. The 113% revenue growth is broken down
into 58% from those operations that were in existence at the end of 1997 and
55% from the companies we acquired in 1998. Our organic growth is attributable
to a number of factors, including an increase in the number of business
customer and ISP accounts, an increase in the average annual revenue realized
per new business customer account, and an increase in the business account
retention rate.
Our business customer account base increased by 107% to 54,700 business
accounts at the end of 1998 from 26,400 business accounts at the end of 1997.
Of the total business account growth in 1998, 8,100 business accounts resulted
from organic growth and 20,200 business accounts were attributable to the
companies we
<PAGE>
acquired. The total number of our Carrier and ISP customers grew to 168,
serving 863,000 SOHO and consumer customers at the end of 1998, from 47 ISPs
serving 264,000 SOHO/consumer customers at the end of 1997. Average annual new
contract value for business accounts increased to $6,000 in 1998 from $5,500 in
1997, which we believe reflects an increasing demand for value-added services
and higher levels of bandwidth. Our business account retention rate improved to
79% in 1998 from 76% in 1997.
Data Communications and Operations. Data communications and operations
expenses were $199.4 million (76.8% of revenue) for 1998, an increase of $105.0
million from $94.4 million (77.4% of revenue) for 1997. The increase in
expenses related principally to increases in:
(1) the number of leased long distance, dedicated customer and dial-up
circuits,
(2) expenditures for additional PRI circuits to support the growth of our
Carrier and ISP Services business,
(3) personnel costs resulting from the expansion of our network operations,
customer support and field service staff, including through
acquisitions, and
(4) operating and maintenance charges on telecommunications bandwidth.
Our dedicated customer account base grew to 14,000 at December 31, 1998 from
7,500 at December 31, 1997, an increase of 87%. Comparing 1998 to 1997,
backbone circuit costs increased $30.2 million (or 141%), dedicated customer
circuit costs increased $18.4 million (or 77%), PRI expense increased $16.7
million (or 112%), and personnel and related operating expenses associated with
network operations, customer support and field service increased $23.8 million
(or 109%). Circuit costs relating to our new and expanded POPs and PRIs
generally are incurred by us in advance of obtaining customers and resulting
revenue.
Sales and Marketing. Sales and marketing expenses were $57.0 million (22.0%
of revenue) for 1998, an increase of $31.2 million from $25.8 million (21.2% of
revenue) for 1997. The increase is principally attributable to costs related to
a branding and advertising campaign resulting in additional advertising expense
of $10.6 million and from costs associated with the growth of our sales force
in conjunction with our growth and acquisitions.
General and Administrative. General and administrative expenses were $45.3
million (17.4% of revenue) for 1998, an increase of $22.4 million from $22.9
million (18.8% of revenue) for 1997. The increase resulted from the addition of
management staff and related operating expenses across the organization,
including increases in conjunction with our growth and acquisitions.
Depreciation and Amortization. Depreciation and amortization costs were
$63.4 million (24.4% of revenue) for 1998, an increase of $35.1 million from
$28.3 million (23.3% of revenue) for 1997.
Acquired In-Process Research and Development. The results for 1998 include
$70.8 million (27.3% of revenue) in charges for acquired in-process research
and development. The charges were based on independent valuations and reflect
technologies acquired prior to technological feasibility and for which there
was no alternative future use. The technologies exist at eight of the companies
we acquired, specifically iSTAR, INX, ioNET, LinkAge, Interlog, Rimnet, iNet,
and Tokyo Internet, comprising approximately 18% of the total fair value of
assets acquired. We have included a detailed description of the specific
technologies acquired, their value, cost to complete, expected completion date
and remaining tasks in the notes to our consolidated financial statements
which are on file with the Securities and Exchange Commission.
The value of the in-process projects was adjusted to reflect the relative
value and contribution of the acquired research and development. In doing so,
we gave consideration to the stage of completion, the complexity of the work
completed to date, the difficulty of completing the remaining development,
costs already incurred, and the projected cost to complete the projects. The
value assigned to purchased in-process technology was based on key assumptions
that included:
<PAGE>
. estimated revenue associated with the respective business enterprise
valuations assuming five-year compound annual revenue growth rates of
between 22% and 45%.
. revenue growth rates for each technology considering, among other
things, current and expected industry trends, acceptance of the
technologies and historical growth rates for similar industry products.
Estimated revenues from the purchased in-process technology projects
were generally assumed to peak in the year 2003 and decline through 2014
or earlier as other new products are expected to be introduced. These
revenue projections were based on management's estimates of market size
and growth, expected trends in technology and the expected timing of new
product introductions.
. estimated net cash flows discounted back to their present value using a
discount rate of between 17.0% and 27.5%, which represents a premium to
our cost of capital.
. estimated percentage-of-completion of the various in-process research
and development projects ranged from 50% to 85% complete.
If none of these projects is successfully developed, our sales and
profitability may be adversely affected in future periods. However, the failure
of any particular individual project in-process would not have a material
impact on our financial condition or our results of operations. The failure of
any particular individual project in-process could impair the value of other
intangible assets acquired.
There were no comparable charges in 1997.
Interest Expense. Interest expense was $63.9 million for 1998, an increase
of $58.5 million from $5.4 million for 1997. The increase was due to interest
on our issuance of $600.0 million aggregate principal amount of 10% senior
notes in April 1998 and our issuance of $350.0 million aggregate principal
amount of 11 1/2% senior notes in November 1998, as well as to increased
borrowings and capital lease obligations incurred to finance our network
expansion and to fund our working capital requirements.
Interest Income. Interest income was $19.6 million for 1998, an increase of
$16.5 million from $3.1 million for 1997. The increase was due to interest
received on the net proceeds of our offerings of the 10% senior notes and 11
1/2% senior notes, which we invest in short-term investment grade and
government securities until such time as we use them for other purposes.
Other Income, Net. Other income, net, was $6.8 million for 1998, which
primarily relates to a $5.6 million realized gain on equity securities that we
sold during the third quarter. The total of $5.8 million in 1997 primarily
related to the sale in the first quarter of 1997 of our software subsidiary.
Non-Recurring Arbitration Charge. The results for 1998 include a $49.0
million charge for an arbitration award and related costs associated with a
dispute between PSINet and The Chatterjee Management Company, which was paid in
April 1999. The charge relates to a joint venture agreement executed by the
parties in 1996 and we have no ongoing relationship with Chatterjee. There were
no similar charges in 1997.
Net Loss Available to Common Shareholders and Loss per Share. Our net loss
available to common shareholders for 1998 was $264.9 million, or $5.32 basic
and diluted loss per share, a $218.9 million, or 476%, increase from a net loss
available to common shareholders for 1997 of $46.0 million, or $1.14 basic and
diluted loss per share. The primary reasons for the increase were:
(1) operating losses of acquired companies,
(2) the increase in data communications costs,
(3) the first portions of our acquired IRUs were installed, leading to an
increase in depreciation and personnel costs to manage the IRUs,
(4) the charge for acquired in-process research and development relating to
acquisitions in 1998,
<PAGE>
(5) the increase in interest expense due to the issuance of the 10% senior
notes and 11 1/2% senior notes, and
(6) the non-recurring arbitration charge.
The return to preferred shareholders, which comprises the dividends with
respect to our Series B 8% convertible preferred stock and accretion of the
related conversion premium, is subtracted from net loss in determining the net
loss available to common shareholders. Because inclusion of common stock
equivalents is antidilutive, basic and diluted loss per share are the same for
each period presented.
Year Ended December 31, 1997 As Compared To The Year Ended December 31, 1996
Results of Operations
Revenue. Revenue was $121.9 million in 1997, an increase of $37.5 million,
or 45%, from $84.4 million in 1996. The increase was attributable to a number
of factors, including an increase in the number of business customer and ISP
accounts, an increase in the average annual revenue realized per new business
customer account and an increase in sales by our international subsidiaries.
The growth was driven by an expansion of our sales force and greater public
awareness and utilization of the Internet.
In comparison with 1996, revenue for 1997 was affected by the sale in 1996
of our individual consumer accounts and related assets and by the sale in 1997
of our software subsidiary, which together provided $15.6 million of revenue in
1996 but only $0.3 million in 1997. If such revenue was excluded from 1996
revenue, our growth in revenue from 1996 to 1997 would have been 77% instead of
45%. Revenue growth in 1997 was also impacted by a drop in our annualized
business customer retention rate from 79% in 1996 to 76% in 1997, which was
attributable in part to an initiative by us to remove certain non-performing
accounts.
Our business customer account base increased by 48% to 26,400 business
accounts at December 31, 1997, including 47 ISPs, from 17,800 business
accounts, including 22 ISPs, at December 31, 1996. Our revenue from
international operations increased by 165% to $18.0 million in 1997 from $6.8
million in 1996, principally as a result of significant growth in our
operations in the United Kingdom, Japan and Canada.
Other Income, Net. We did not have other income, net, in 1997, compared with
$5.4 million during 1996, consisting of the consideration received, net of
related asset costs and expenses, relating to the sale of our individual
consumer subscribers and certain related tangible and intangible assets during
the second and third quarters of 1996.
Data Communications and Operations. Data communications and operations
expenses were $94.4 million (77.4% of revenue) during 1997, an increase of
$24.3 million from $70.1 million (83.1% of revenue) during 1996. The increase
in expenses related principally to increases in:
. the number of leased long distance, dedicated customer and dial-up
circuits;
. expenditures for additional primary rate interfaces to support the
growth of our Carrier and ISP Services business; and
. personnel costs resulting from the expansion of our network operations,
customer support and field service staff.
Sales and Marketing. Sales and marketing expenses were $25.8 million (21.2%
of revenue) during 1997, a decrease of $1.3 million from $27.1 million (32.1%
of revenue) during 1996. The decrease resulted principally from reductions in
costs following the sale of our individual consumer subscribers and related
infrastructure in 1996 and the sale of our software operations in 1997, which
were offset in part by an increase in sales and marketing expenses relating to
the expansion of our operations.
<PAGE>
General and Administrative. General and administrative expenses were $22.9
million (18.8% of revenue) during 1997, an increase of $2.3 million from $20.6
million (24.5% of revenue) during 1996. The increase resulted from the addition
of management staff and related operating expenses across the organization,
including in conjunction with our expansion outside of the United States, and
increases in the provision for doubtful accounts receivable. These expenses
were in part offset by decreased expenses following the sale of our individual
consumer subscribers and related assets in 1996 and the sale of our software
operations in 1997.
Depreciation and Amortization. Depreciation and amortization costs were
$28.3 million (23.3% of revenue) during 1997, an increase of $0.3 million from
$28.0 million (33.2% of revenue) during 1996. Depreciation costs increased due
to additional capital expenditures associated with network infrastructure
enhancements, which were partially offset by decreases in costs resulting from
the elimination of depreciation and amortization that had been associated with
the individual consumer subscriber assets sold in 1996 and the software assets
sold in 1997.
Interest Expense. Interest expense was $5.4 million during 1997, an increase
of $0.4 million from $5.0 million in 1996. The increase was principally due to
increased borrowings and capital lease obligations incurred by us to finance
network expansion and to fund working capital requirements.
Interest Income. Interest income was $3.1 million during 1997, a decrease of
$0.7 million from $3.8 million in 1996. The decrease was principally due to a
reduction in the amount of cash and short-term, interest-bearing investments
held by us.
Other Income, Net. Other income, net, was $5.8 million for 1997, which
primarily related to the sale in the first quarter of 1997 of our software
subsidiary.
Net Loss Available to Common Shareholders and Loss Per Share. As a result of
the factors discussed above, our net loss available to common shareholders for
1997 was $46.0 million (37.7% of revenue), or $1.14 basic and diluted loss per
share, a $9.1 million improvement from a net loss available to common
shareholders in 1996 of $55.1 million (65.3% of revenue), or $1.40 basic and
diluted loss per share. The return to preferred shareholders, which comprises
the dividends with respect to our Series B 8% convertible preferred stock and
accretion of the related conversion premium, is subtracted from net loss in
determining the net loss available to common shareholders. Because inclusion of
common stock equivalents is antidilutive, basic and diluted loss per share are
the same for each year presented.
Income Taxes
In 1998, we generated a pretax U.S. book loss of approximately $134.6
million and pretax non-U.S. book loss of approximately $128.1 million. As of
December 31, 1998, we had net operating loss carryforwards of approximately
$216.7 million for U.S. income tax purposes. The use of the U.S. net operating
loss carryforwards may be subject to limitations under the rules regarding a
change in stock ownership as determined by the Internal Revenue Code. These net
operating loss carryforwards may be carried forward in varying amounts until
2018. Additionally, at December 31, 1998, we had net operating loss
carryforwards for tax purposes in various jurisdictions outside the United
States amounting to approximately $158.6 million. The majority of non-U.S. loss
carryforwards will expire in varying amounts in 2003 to 2005. Some of the non-
U.S. loss carryforwards will never expire under local country tax rules.
We have provided a valuation allowance against our deferred tax assets since
realization of these benefits cannot be reasonably assured. The change in
valuation allowance was an increase of $101.7 million and $18.8 million in 1998
and 1997, respectively.
We recognized deferred income tax benefits of $0.8 million in 1998, $0.5
million in 1997, and $0.2 million in 1996, resulting primarily from deferred
tax liabilities of companies we acquired outside of the U.S. We did not
recognize any current income tax expense or benefit for any of those three
years.
<PAGE>
Segment Information
In 1999, we organized our operations into five geographic operating
segments--U.S., Canada, Europe, Asia and India/Middle East/Africa.
We evaluate the performance of our operating segments and allocate resources
to them based on revenue and EBITDA, which we define as earnings (losses)
before interest expense and interest income, taxes, depreciation and
amortization, other non-operating income and expense, and charge for acquired
in-process research and development. Since acquisitions are such an integral
part of the growth of our business over the last year, the following table
highlights the components of our revenue growth by breaking it into organic and
acquisitive growth.
Key changes in the metrics we report in our segment disclosure footnote are
as follows:
<TABLE>
<CAPTION>
Latin India/
U.S./Canada America Europe Asia/Pacific Middle East/Africa Total
----------- ------- ------ ------------ ------------------ -----
<S> <C> <C> <C> <C> <C> <C>
Revenue growth--3Q98 to
3Q99................... 53 % * 108 % 386 % ** 108 %
Revenue growth--YTD98 to
YTD99.................. 57 % * 130 % 816 % ** 123 %
EBITDA as % of Revenue--
3Q99................... (8)% 15% -- % 14 % ** -- %
EBITDA as % of Revenue--
3Q98................... (13)% * (12)% (39)% ** (16)%
EBITDA as % of Revenue--
YTD99.................. (9)% 18% (5)% 12 % ** (2)%
EBITDA as % of Revenue--
YTD98.................. (19)% * (17)% (26)% ** (19)%
Asset growth--9/30/98 to
9/30/99................ 292 % * 491 % 95 % ** 276 %
Capital expenditure
growth--3Q98 to 3Q99... 161 % * 519 % 907 % ** 212 %
Capital expenditure
growth--YTD98 to
YTD99.................. 139 % * 631 % 1,433 % ** 191 %
</TABLE>
- ----------------
* Latin America became a new segment in 1999 as a result of acquisitions.
** India/Middle East/Africa is new subsequent to September 30, 1999.
All of our operating segments have experienced significant changes in
revenue, EBITDA, assets and capital expenditures during 1999 as compared with
1998 due to organic growth, to significant acquisitions primarily outside of
the U.S., and to investments in our network as described elsewhere in this
Management's Discussion and Analysis of Financial Condition and Results of
Operations.
Our loss from operations differs from EBITDA only by depreciation and
amortization and the charge for acquired in-process research and development;
therefore, loss from operations in each segment reflects the same underlying
trends as those impacting EBITDA as a percentage of revenue.
<PAGE>
Quarterly Results
The following tables set forth certain unaudited quarterly financial data,
and such data expressed as a percentage of revenue, for the seven quarters ended
September 30, 1999. In the opinion of management, the unaudited financial
information set forth below has been prepared on the same basis as the audited
financial information and includes all adjustments, consisting only of normal
recurring adjustments, necessary to present fairly the information set forth.
The operating results for any quarter are not necessarily indicative of results
for any future period.
<TABLE>
<CAPTION>
Quarter Ended
---------------------------------------------------------------------
1998 1999
--------------------------------------- ----------------------------
Mar 31 Jun 30 Sep 30 Dec 31 Mar 31 Jun 30 Sep 30
-------- -------- -------- --------- -------- -------- --------
(In millions of dollars, except per share and share amounts)
<S> <C> <C> <C> <C> <C> <C> <C>
Revenue................. $ 44.5 $ 53.7 $ 67.6 $ 93.9 $ 104.8 $ 123.8 $ 140.6
Operating costs and
expenses:
Data communications
and operations....... 36.7 41.9 51.9 68.9 76.0 86.7 98.5
Sales and marketing... 10.7 12.5 14.7 19.1 18.6 21.9 27.5
General and
administrative....... 7.6 10.3 11.6 15.8 17.1 15.4 14.9
Depreciation and
amortization......... 9.5 12.9 14.7 26.4 26.8 34.4 41.6
Charge for acquired
in-process research
and development...... 7.0 20.0 13.4 30.4 -- -- --
-------- -------- -------- --------- -------- -------- --------
Total operating costs
and expenses........... 71.5 97.6 106.3 160.6 138.5 158.4 182.5
-------- -------- -------- --------- -------- -------- --------
Loss from operations.... (27.0) (43.9) (38.7) (66.7) (33.7) (34.6) (41.9)
Interest expense........ (2.6) (16.9) (18.7) (25.7) (29.6) (31.9) (59.4)
Interest income......... 0.5 6.0 4.8 8.2 4.7 8.1 19.8
Other income, net....... -- 1.2 5.3 0.5 (0.1) (0.2) (1.1)
Non-recurring
arbitration charge..... -- -- -- (49.0) -- -- --
-------- -------- -------- --------- -------- -------- --------
Loss before income
taxes.................. (29.1) (53.6) (47.3) (132.7) (58.7) (58.6) (82.6)
Income tax benefit...... -- -- -- (0.9) -- (0.4) (0.3)
-------- -------- -------- --------- -------- -------- --------
Net loss................ (29.1) (53.6) (47.3) (131.8) (58.7) (58.2) (82.3)
Return to preferred
shareholders........... (0.8) (0.8) (0.8) (0.8) (0.6) (4.2) (6.4)
-------- -------- -------- --------- -------- -------- --------
Net loss available to
common shareholders.... $ (29.9) $ (54.4) $ (48.1) $ (132.6) $ (59.3) $ (62.4) $ (88.7)
======== ======== ======== ========= ======== ======== ========
Basic and diluted loss
per share (1).......... $ (0.67) $ (1.06) $ (0.93) $ (2.56) $ (1.11) $ (1.01) $ (1.37)
======== ======== ======== ========= ======== ======== ========
Shares used in computing
basic and diluted loss
per share (in
thousands)............. 44,596 51,111 51,659 51,871 53,358 61,956 64,844
======== ======== ======== ========= ======== ======== ========
Basic and diluted loss
per share (after stock
split)................. $ (0.34) $ (0.53) $ (0.47) $ (1.28) $ (0.56) $ (0.51) $ (0.69)
======== ======== ======== ========= ======== ======== ========
Shares used in computing
basic and diluted loss
per share (after stock
split, in thousands)... 89,192 102,222 103,318 103,742 106,716 123,912 129,688
======== ======== ======== ========= ======== ======== ========
</TABLE>
- ----------------
(1) Since there are changes in the weighted average number of shares
outstanding each quarter, the sum of the loss per share by quarter does not
equal the loss per share for 1998 and 1999.
<PAGE>
<TABLE>
<CAPTION>
Quarter Ended
------------------------------------------------------------
1998 1999
--------------------------------- ------------------------
Mar 31 Jun 30 Sep 30 Dec 31 Mar 31 Jun 30 Sep 30
------ ------ ------ ------ ------ ------ ------
<S> <C> <C> <C> <C> <C> <C> <C>
Revenue................. 100.0% 100.0% 100.0% 100.0% 100.0% 100% 100%
Operating costs and
expenses:
Data communications
and operations....... 82.5 78.1 76.8 73.3 72.5 70.0 70.1
Sales and marketing... 24.1 23.2 21.8 20.3 17.7 17.7 19.6
General and
administrative....... 17.1 19.2 17.1 16.9 16.3 12.4 10.6
Depreciation and
amortization......... 21.3 24.0 21.7 28.1 25.6 27.8 29.6
Charge for acquired
in-process research
and development...... 15.7 37.2 19.8 32.4 -- -- --
----- ----- ----- ------ ----- ----- -----
Total operating costs
and expenses........... 160.7 181.7 157.3 171.0 132.1 127.9 129.8
----- ----- ----- ------ ----- ----- -----
Loss from operations.... (60.7) (81.7) (57.3) (71.0) (32.1) (27.9) (29.8)
Interest expense........ (5.8) (31.4) (27.7) (27.4) (28.2) (25.8) (42.2)
Interest income......... 1.3 11.3 7.0 8.8 4.5 6.5 14.1
Other income, net....... (0.2) 2.0 7.9 0.5 (0.1) (0.2) (0.8)
Non-recurring
arbitration charge..... -- -- -- (52.2) -- -- --
----- ----- ----- ------ ----- ----- -----
Loss before income
taxes.................. (65.4) (99.8) (70.1) (141.3) (56.0) (47.3) (58.7)
Income tax benefit...... -- -- -- (0.9) -- (0.3) (0.2)
----- ----- ----- ------ ----- ----- -----
Net loss................ (65.4)% (99.8)% (70.1)% (140.4)% (56.0)% (47.0)% (58.5)%
===== ===== ===== ====== ===== ===== =====
</TABLE>
Our quarterly operating results have fluctuated and will continue to
fluctuate from period to period for the foreseeable future depending upon such
factors as:
. the timing of acquisitions,
. the success of our efforts to expand our customer base, and to sell
enhanced and value added services to existing customers,
. changes in and the timing of expenditures relating to the continued
expansion of our network,
. the delivery of bandwidth from our global network providers,
. the development of new services,
. changes in pricing policies by us or our competitors, and
. the seasonality of TNI's business, which tends to be greater in the
fourth quarter holiday season than during the rest of the year, as well
as a portion of the rest of our business.
In view of the significant historical growth of our operations, we believe
that period-to-period comparisons of our financial results should not be relied
upon as an indication of future performance and that we may experience
significant period-to-period fluctuations in operating results in the future.
We expect to focus in the near term on building and increasing our customer
base and increasing our network utilization both through internal growth and
through acquisitions which may require us from time to time to increase our
expenditures for personnel, marketing, network infrastructure and the
development of new services.
Liquidity And Capital Resources
We historically have had losses from operations, which have been funded
primarily through borrowings and capital lease financings from vendors,
financial institutions and other third parties, and through the issuance of
debt and equity securities. In 1999, we received net proceeds of approximately
$2.7 billion from debt and equity financings. In February 2000, we received net
proceeds of approximately $738.8 million from our 7% cumulative convertible
Series D preferred stock offering. At September 30, 1999, we had $1.7 billion of
cash, cash equivalents, short-term investments
<PAGE>
and marketable securities, including restricted amounts (excluding the net
proceeds of approximately $736.2 million from our 10 1/2% senior notes offering
in December 1999 and $738.8 million from our 7% Series D cumulative convertible
preferred stock offering in February 2000).
We are an operating entity which also conducts a significant portion of our
business through our subsidiaries. Our operating cash flow and consequently our
ability to service our debt, is therefore partially dependent upon our
subsidiaries' earnings and their distributions of those earnings to us. It may
also be dependent upon loans, advances or other payments of funds to us by
those subsidiaries. Our subsidiaries are separate legal entities and have no
obligation, contingent or otherwise, to pay any amount due pursuant to our
financing commitments or to make any funds available for that purpose. Our
subsidiaries' ability to make payments may be subject to the availability of
sufficient surplus funds, the terms of such subsidiaries' indebtedness,
applicable laws and other factors.
Cash Flows for the Nine Months Ended September 30, 1999 and 1998
Cash flows used in operating activities were $203.5 million and $76.9
million for the nine months ended September 30, 1999 and 1998, respectively.
Cash flows from operating activities can vary significantly from period to
period depending upon the timing of operating cash receipts and payments and
other working capital changes, especially accounts receivable, prepaid expenses
and other assets, and accounts payable and accrued liabilities. In both of
these nine-month periods, our net losses were the primary component of cash
used in operating activities, offset by significant non-cash depreciation and
amortization expenses relating to our network and intangible assets. Operating
cash flows in 1999 also included the $48.0 million arbitration award payment.
Cash flows used in investing activities were $1.2 billion and $326.0 million
for the nine months ended September 30, 1999 and 1998, respectively.
Investments in certain businesses resulted in the use of $238.5 million of cash
for the nine months ended September 30, 1999, net of cash acquired. Investments
in our network and facilities during the first nine months of 1999 resulted in
total additions to fixed assets of $380.8 million. Of this amount, $127.9
million was financed under vendor or other financing arrangements,
$35.7 million of non-cash additions related to the OC-48 bandwidth acquired
from IXC Internet Services, Inc., or IXC, and $217.2 million was expended in
cash. For the nine months ended September 30, 1998, total additions were $130.9
million, of which $54.9 million was financed under equipment financing
agreements, $27.4 million of non-cash additions related to the OC-48 bandwidth
acquired from IXC and $48.6 million was expended in cash. Purchases of short-
term investments during the first nine months of 1999 were an aggregate of
$1.07 billion, offset by proceeds from the sale and maturity of short-term
investments of $262.6 million. Purchases of short-term investments during the
nine months of 1998 were an aggregate of $247.2 million offset by proceeds from
the sale and maturity of short-term investments of $200.0 million. Investing
cash flows in the first nine months of 1999 and 1998 were increased by $25.0
million and decreased by $106.2 million, respectively, from changes in
restricted cash and short-term investments related to various financing and
acquisition activities.
Cash flows provided by financing activities were $1.88 billion and $654.2
million for the nine months ended September 30, 1999 and 1998, respectively. In
the first nine months of 1999, we received $1.28 billion from the issuance of
notes and $742.0 million from equity offerings. In the first nine months of
1998, we received net proceeds from the issuance of notes of $718.6 million. We
made repayments aggregating $152.7 million and $67.1 million for the nine
months ended September 30, 1999 and 1998, respectively, on our lines of credit,
capital lease obligations and notes payable. During the nine months ended
September 30, 1999 and 1998, we received proceeds from the exercise of stock
options of $11.2 million and $4.6 million, respectively.
Merchant credit card transactions account for a major percentage of the
transaction volume processed by TNI's customers. We expect the volume of those
transactions on TNI's network to be greater in the fourth quarter holiday
season than during the rest of the year. Consequently, revenues and earnings
from merchant credit card transactions in the first quarter generally are
expected to be lower than revenues and earnings from merchant credit card
transactions in the fourth quarter of the immediately preceding year. Although
the financial services, healthcare claims processing and electronic benefits
transfer markets, as well as other
<PAGE>
potential markets that TNI has targeted for future expansion, are anticipated
to be less seasonal, we expect that TNI's operating results in the foreseeable
future will be significantly affected by seasonal trends in the merchant credit
card transaction market. As a result, our financial results may be more
sensitive to seasonal trends.
Cash Flows For The Years Ended December 31, 1998, 1997 and 1996
Cash flows used in operating activities were $87.6 million in 1998, $15.6
million in 1997 and $32.5 million in 1996. In all three years, our net losses
were the primary component of cash used in operating activities, offset by
significant non-cash depreciation and amortization expenses relating to our
network and intangible assets and, in 1998, our charge for acquired in-process
research and development.
Cash flows used in investing activities were $783.9 million for 1998, $15.6
million for 1997 and $7.9 million for 1996. Acquisition activities resulted in
the use of $268.0 million of cash for 1998, net of cash acquired. Investments
in our network and facilities during 1998 resulted in total additions to fixed
assets of $303.6 million. Of this amount, $113.3 million was financed under
vendor or other financing arrangements, $27.4 million of non-cash additions
related to the bandwidth acquired from IXC, $44.9 million related to other
network facilities that remained in accounts payable at year end, and $118.0
million was expended in cash. For 1997, total additions were $50.1 million, of
which $37.5 million was financed under equipment financing agreements and $12.6
million was expended in cash, and for 1996, additions were $38.4 million, with
$25.6 million financed and $12.8 million expended in cash. Purchases of short-
term investments with the proceeds of our 10% senior notes and 11 1/2% senior
notes offerings during 1998 were an aggregate of $511.7 million, offset by
proceeds from the sale and maturity of short-term investments of $251.2
million. Investing cash flows in 1998 and 1997 were reduced by $141.0 million
and $19.7 million, respectively, from increases in restricted cash and short-
term investments related to various financing alternatives.
Cash flows provided by (used in) financing activities were $874.2 million
for 1998, $12.6 million for 1997, and ($10.5) million for 1996. In 1998, 1997
and 1996, we received net proceeds from the issuance of notes payable of
$1,060.6 million, $10.1 million and $8.3 million, respectively. In 1997, we
completed a private placement of 600,000 shares of our Series B convertible
preferred stock for gross proceeds of $30.0 million. In 1998, 1997 and 1996, we
made repayments aggregating $189.5 million, $27.7 million, and $20.8 million,
respectively, on our capital lease obligations and notes payable.
As of December 31, 1998, we had $485.0 million of cash, cash equivalents,
restricted cash, short-term investments and marketable securities.
Capital Structure
Our capital structure at September 30, 1999 consisted of a revolving credit
facility, other lines of credit, capital lease obligations, senior notes,
Series C preferred stock and common stock. We announced a two-for-one split of
our common stock, to be effected by means of a stock dividend, to holders of
record of our common stock as of the close of business on January 28, 2000.
Total borrowings at September 30, 1999 were $2.5 billion, which included
$0.1 billion in current obligations and $2.4 billion in long-term debt, capital
lease obligations and notes payable. At September 30, 1999, no amounts were
outstanding, $9.7 million was being utilized for letters of credit, and $100.3
million was available to draw under the credit facility. We terminated our
credit facility effective December 31, 1999.
In addition, as of September 30, 1999, $293.5 million was available for
purchases of equipment and other fixed assets under various other financing
arrangements, after designating $27.0 million of payables for various equipment
purchases that we intend to finance under these agreements.
At September 30, 1999, we had outstanding $600.0 million aggregate principal
amount of 10% senior notes due 2005, $350.0 million aggregate principal amount
of 11 1/2% senior notes due 2008 and $1.05 billion aggregate principal amount
and (Euro)150.0 million aggregate principal amount of 11% senior notes due
2009. In December 1999, we issued $600.0 million aggregate principal amount of
10 1/2% senior notes due 2006 and
<PAGE>
Euro 150.0 million aggregate principal amount of 10 1/2% senior notes due
2006. At September 30, 1999, we had on deposit in an escrow account restricted
cash and short-term investments of $66.7 million to fund, when due, the next
two semi-annual interest payments on the 10% senior notes.
The indentures governing each of the senior notes contain many covenants
with which we must comply relating to, among other things, the following
matters:
. a limitation on our payment of cash dividends, repurchase of capital
stock, payment of principal on subordinated indebtedness and making of
certain investments, unless after giving effect to each such payment,
repurchase or investment, certain operating cash flow coverage tests are
met, excluding permitted payments and investments;
. a limitation on our incurrence and our subsidiaries' incurrence of
additional indebtedness, unless at the time of such incurrence, our
ratio of debt to annualized operating cash flow would be less than or
equal to 6.0 to 1.0 prior to April 1, 2001 and less than or equal to 5.5
to 1.0 on or after April 1, 2001, excluding permitted incurrences of
debt;
. a limitation on our incurrence and our subsidiaries' incurrence of
liens, unless our senior notes are secured equally and ratably with the
obligation or liability secured by such lien, excluding permitted liens;
. a limitation on the ability of any of our subsidiaries to create or
otherwise cause to exist any encumbrance or restriction on the payment
of dividends or other distributions on their capital stock, payment of
indebtedness owed to us or to any of our other subsidiaries, making of
investments in us or in any of our other subsidiaries, or transfer of
any of their properties or assets to us or any of our other
subsidiaries, excluding certain permitted encumbrances and restrictions;
. a limitation on certain mergers, consolidations and sales of assets by
us or our subsidiaries;
. a limitation on transactions with our affiliates;
. a limitation on the ability of any of our subsidiaries to guarantee or
otherwise become liable with respect to any of our indebtedness unless
such subsidiary provides for a guarantee of our senior notes on the same
terms as the guarantee of such indebtedness;
. a limitation on sale and leaseback transactions by us or our
subsidiaries;
. a limitation on issuances and sales of capital stock of our
subsidiaries; and
. a limitation on the ability of us or our subsidiaries to engage in any
business not substantially related to a telecommunications business.
At September 30, 1999, we were in compliance with all such covenants.
In May 1999, we completed a public offering of 8,000,000 shares of our
common stock at $50.50 per share for net proceeds of approximately $383.8
million, after underwriting discounts and commissions and other offering
expenses.
In May 1999, we completed a public offering of 9,200,000 shares of our 6
3/4% Series C Cumulative Convertible Preferred Stock for net proceeds of
approximately $358.2 million after underwriting discounts and commissions and
other offering expenses. The Series C preferred stock has a liquidation
preference of $50 per share and will rank ratably with our Series D preferred
stock.
At closing, the purchasers of the Series C preferred stock deposited
approximately $85.8 million into an account established with a deposit agent.
The deposit account is not an asset of ours. Funds in the deposit account will
be paid to the holders of the Series C preferred stock each quarter in the
amount of $0.84375 per share in cash or may be used, at our option, to purchase
shares of common stock at 95% of the market price of the common stock on that
date for delivery to holders of Series C preferred stock in lieu of cash
payments.
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Holders of Series C preferred stock received quarterly payments from the
deposit account of approximately $7.8 million on each of August 15 and November
15, 1999. The funds placed in the deposit account by the purchasers of the
Series C Preferred Stock will, together with the earnings on those funds, be
sufficient to make payments, in cash or stock, through May 15, 2002. Until the
expiration of the deposit account, we will accrete a return to preferred
shareholders each quarter from the date of issuance at an annual rate of
approximately 6 3/4% of the liquidation preference per share. Such amount will
be recorded as a deduction from net income to determine net income available to
common shareholders. Upon the expiration of the deposit account, which is
expected to occur on May 15, 2002 unless earlier terminated, the Series C
Preferred Stock will begin to accrue dividends at an annual rate of 6 3/4% of
the liquidation preference payable in cash or, at our option, in shares of our
common stock at 95% of the market price of the common stock on that date. Under
certain circumstances, we can elect to terminate the deposit account prior to
May 15, 2002, at which time the remaining funds in the Deposit Account would be
distributed to us and the Series C Preferred Stock would begin to accrue
dividends.
Each share of Series C preferred stock is convertible at any time at the
option of the holders thereof into 0.8017 shares of our common stock, equal to
an initial conversion price of $62.3675 per share, subject to adjustment upon
the occurrence of specified events. The Series C preferred stock is redeemable,
at our option, at a redemption premium of 101.929% of the liquidation
preference (plus accumulated and unpaid dividends) on or after November 15,
2000 and prior to May 15, 2002 if the trading price for the Series C preferred
stock exceeds $124.74 per share for a specified trading period. Additional
payments will also be made from the Deposit Account or by us to the holders of
the Series C preferred stock if we redeem Series C preferred stock under the
foregoing circumstances. Except in the foregoing circumstances, we may not
redeem the Series C preferred stock prior to May 15, 2002. Beginning on May 15,
2002, we may redeem shares of Series C preferred stock at an initial redemption
premium of 103.857% of the liquidation preference, declining to 100.00% on May
15, 2006 and thereafter, plus in each case all accumulated and unpaid dividends
to the redemption date. We may effect any redemption, in whole or in part, at
our option, in cash by delivery of fully paid and nonassessable shares of our
common stock or a combination thereof (subject to applicable law), by
delivering notice to the holders of the Series C preferred stock.
In the event of a change of control (as defined in the charter amendment
designating the Series C preferred stock), holders of Series C preferred stock
will, if the market value of our common stock at such time is less than the
conversion price for the Series C preferred stock, have a one time option to
convert all of their outstanding shares of Series C preferred stock into shares
of our common stock at an adjusted conversion price equal to the greater of (1)
the market value of our common stock as of the date of the change in control
and (2) $38.73. In lieu of issuing shares of common stock issuable upon
conversion in the event of a change of control, we may, at our option, make a
cash payment equal to the market value of the common stock otherwise issuable.
In February 2000, we completed an offering of 16,500,000 shares of our 7%
Series D cumulative convertible preferred stock for net proceeds of
approximately $738.8 million after underwriting discounts and commissions and
other offering expenses. The Series D preferred stock has a liquidation
preference of $50 per share and will rank ratably with our Series C preferred
stock.
At closing, the purchasers of the Series D preferred stock deposited
approximately $57.9 million into an account established with a deposit agent.
The deposit account is not an asset of ours. Funds in the deposit account will
be paid to the holders of the Series D preferred stock each quarter in the
amount of $0.875 per share in cash or may be used, at our option, to purchase
shares of common stock at either 93% or 97% of the market price of the common
stock on that date (depending on whether the registration statement covering the
shares is effective) for delivery to holders of Series D preferred stock in lieu
of cash payments.
Holders of Series D preferred stock will receive quarterly payments from the
deposit account on each of February 15, May 15, August 15 and November 15 of
each year commencing May 15, 2000 and continuing until February 15, 2001. The
funds placed in the deposit account by the purchasers of the Series D Preferred
Stock will, together with the earnings on those funds, be sufficient to make
payments, in cash or stock, from the issue date through February 15, 2001. Until
the expiration of the deposit account, we will accrete a return to preferred
shareholders each quarter from the date of issuance at an annual rate of
approximately 7% of the liquidation preference per share. Such amount will be
recorded as a deduction from net income to determine net income available to
common shareholders. Upon the expiration of the deposit account, which is
expected to occur on February 15, 2001 unless earlier terminated, the Series D
preferred stock will begin to accrue dividends at an annual rate of 7% of the
liquidation preference payable in cash or, at our option, in shares of our
common stock at either 93% or 97% of the market price of the common stock on
that date (depending on whether the registration statement covering the shares
is effective). Under certain circumstances, we can elect to terminate the
deposit account prior to February 15, 2001, at which time the remaining funds in
the Deposit Account would be distributed to us and the Series D preferred stock
would begin to accrue dividends.
Each share of Series D preferred stock is convertible at any time after
February 15, 2000 at the option of the holders thereof into 0.4676 shares of our
common stock after February 15, 2000, equal to an initial conversion price of
$106.93 per share, subject to adjustment upon the occurrence of specified
events. The Series D preferred stock is redeemable, at our option, at a
redemption premium of 105.50% of the liquidation preference (plus accumulated
and unpaid dividends) on or after August 15, 2001 but prior to February 15, 2003
if the trading price for the Series D preferred stock equals or exceeds $160.40
per share for a specified trading period. We will also make additional payments
to the holders of the Series D preferred stock if we redeem Series D Preferred
stock under the foregoing circumstances. Except in the foregoing circumstances,
we may not redeem the Series D preferred stock prior to February 15, 2003.
Beginning on February 15, 2003, we may redeem shares of Series D preferred stock
at an initial redemption premium of 104.000% of the liquidation preference,
declining to 100.00% on February 15, 2007 and thereafter, plus in each case all
accumulated and unpaid dividends to the redemption date. We may effect any
redemption, in whole or in part, at our option, in cash, by delivery of fully
paid and nonassessable shares of our common stock or a combination thereof
(subject to applicable law), by delivering notice to the holders of the Series D
preferred stock.
In the event of a change of control (as defined in the charter amendment
designating the Series D preferred stock), holders of Series D preferred stock
will, if the market value of our common stock at such time is less than the
conversion price for the Series D preferred stock, have a one time option to
convert all of their outstanding shares of Series D preferred stock into shares
of our common stock at an adjusted conversion price equal to the greater of (1)
the market value of our common stock as of the date of the change in control and
(2) $57.96. In lieu of issuing shares of common stock issuable upon conversion
in the event of a change of control, we may, at our option, make a cash payment
equal to the market value of the common stock otherwise issuable.
Commitments, Capital Expenditures And Future Financing Requirements
At December 31, 1999, we had commitments to certain telecommunications
vendors under operating lease agreements totaling $142.7 million payable in
various years through 2011. Additionally, we have various agreements to lease
office space, facilities and equipment and, at December 31, 1999, were
obligated to make future minimum lease payments of $50.8 million under such
non-cancelable operating leases expiring in various years through 2009.
We paid TNI shareholders approximately $340.8 million in cash and 7.6
million shares of our common stock, which represented an aggregate value of
approximately $346.2 million based upon a price per share of our common
stock of $45.719 at the time we reached a definitive agreement with TNI. We
also assumed options to acquire approximately 463,000 shares of TNI common
stock, representing an aggregate value of approximately $13.0 million at the
time we entered into the definitive agreement, were exercisable into an equal
number of our shares. We also repaid outstanding principal and interest under
TNI's revolving credit facility in the amount of $52.1 million as a condition
to closing.
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For most of our acquisitions, we have retained a portion of the purchase
price under holdback provisions of the purchase agreements to secure
performance by certain sellers of indemnification or other contractual
obligations of the sellers. These holdback amounts are generally payable up to
24 months after the date of closing of the related acquisitions. Acquisition
holdback amounts totaled $80.9 million at December 31, 1999, the majority of
which is reported in other liabilities.
In connection with our previously announced naming rights and sponsorship
agreements with the Baltimore Ravens of the National Football League, we will
make payments over the next 19 years totaling approximately $81.7 million.
In order to maintain our competitive position, enhance our capabilities as an
Internet Super Carrier and continue to meet the increasing demands for service
quality, availability and competitive pricing, we expect to make significant
capital expenditures. At December 31, 1999, we were obligated to make future
cash payments that total $392.5 million for acquisitions of global fiber-based
and satellite telecommunications bandwidth, including IRUs or other rights. In
addition, if a supplier makes delivery of certain additional fiber-based
bandwidth, which is expected in 2001, we will be committed to make cash payments
at that time of between $120.0 million and $180.0 million, the actual price to
depend on the timing of delivery of the additional bandwidth. We also expect
that there will be additional costs, such as connectivity and equipment charges,
in connection with taking full advantage of such acquired bandwidth and IRUs.
Certain of this fiber-based and satellite telecommunications bandwidth may
require the acquisition and installation of equipment necessary to access and
activate the bandwidth in order to make it operational. At December 31, 1999, we
expected to make capital expenditures for such equipment of $245.8 million. In
addition, we anticipate making significant investments to acquire and build-out
new Internet and eCommerce hosting centers in key financial and business centers
throughout the world and to purchase other facilities. We currently anticipate
that these expenditures could exceed $1.0 billion, of which $183.0 million was
subject to firm commitments at December 31, 1999. Additionally, in connection
with our awards of external and local wireless licenses in Hong Kong, we have
commited to invest approximately $387 million to build a next generation IP
network in Hong Kong. As a result of the foregoing, we currently believe that
our capital expenditures in 2000 will be substantially greater than those in
1999 and that, with the additional cash resources derived from our recent debt
and equity offerings, we will accelerate our capital expenditure program. This
may occur as we continue to execute our expansion strategy.
We presently believe, based on the flexibility we expect to have in the
timing of orders of bandwidth, in outfitting our POPs with appropriate
telecommunications and computer equipment, and in controlling the pace and
scope of our anticipated buildout of our international data communications
network and eCommerce Web hosting centers, that we will have a reasonable
degree of flexibility to adjust the amount and timing of such capital
expenditures in response to our then existing financing capabilities, market
conditions, competition and other factors. Accordingly, we believe that working
capital generated from the use of acquired bandwidth, together with other
working capital, working capital from capital lease financings, from this
offering and our other debt and equity offerings and from future equity or debt
financings will be sufficient to meet the currently anticipated working capital
and capital expenditure requirements of our operations. We cannot assure you,
however, that we will have access to sufficient additional capital and/or
financing on satisfactory terms to enable us to meet our capital expenditure
and working capital requirements. We regularly review our capital commitments
and needs and the availability of financing through institutional sources and
the capital markets. We expect to pursue opportunities to raise additional
capital from time to time as we determine to be advisable based upon our
capital needs, financing capabilities and market conditions.
Other Possible Strategic Relationships And Acquisitions
We anticipate that we will continue to seek to develop relationships with
strategic partners, both domestically and internationally, and to acquire
assets, including, without limitation, additional telecommunications bandwidth,
and businesses, and make investments (including venture capital investments)
principally relating to or complimentary to our existing business. In this
regard, we have entered into several non-binding letters of intent pursuant to
which we and the other parties thereto have agreed to negotiate the terms and
conditions of definitive agreements relating to our acquisition of additional
U.S. and non-U.S. ISPs. We are also currently evaluating additional
acquisitions and investments. However, we cannot assure you that
<PAGE>
we will successfully complete all or any of such acquisitions currently subject
to letters of intent or acquisitions or investments otherwise being
contemplated, or what the consequences thereof could be. We have been
successful to date identifying acquisition candidates at prices we consider to
be reasonable. We cannot assure you that this will continue. We expect to
compete for the forseeable future for such acquisitions with other
telecommunications companies that have similar acquisition strategies. Some of
our competitors are larger and have greater financial and other resources than
we have. Certain of these strategic relationships may involve other
telecommunications companies that desire to enter into joint marketing and
services arrangements with us pursuant to which we would provide Internet and
Internet-related services to such companies. Such transactions, if deemed
appropriate by us, may also be effected in conjunction with an equity or debt
investment by such companies in us. Such relationships and acquisitions may
require additional financing and may be subject to the consent of our lenders
and other third parties.
Foreign Currency and Exchange Considerations
During the nine months ended September 30, 1999, 52% of our revenue was
derived from operations outside of the United States and 27% of our assets was
outside of the United States. We anticipate that a comparable percentage of our
future revenue and operating expenses will continue to be generated from
operations outside the United States, including investment in foreign
companies. Accordingly, a comparable portion of our revenue, operating
expenses, assets and liabilities will be subject to significant foreign
currency and exchange risks. Obligations which we and some of our customers
have in foreign currencies will be subject to unpredictable and indeterminate
fluctuations in the event that such currencies change in value relative to U.S.
dollars. Furthermore, we and our customers may be subject to exchange control
regulations which might restrict or prohibit the conversion of such currencies
into U.S. dollars. Although we historically have not entered into material
hedging transactions to limit our foreign currency risks, as a result of the
increase in our foreign operations and our issuance of euro-denominated senior
notes, we may implement such practices in the future. We cannot assure you that
the occurrence of any of these factors will not have a material adverse.
Derivatives and Foreign Currency Exposure
We have not entered into any material financial instruments to hedge against
certain financial and currency risks or for trading. However, as a result of
the increase in our foreign operations and the issuance of our euro-denominated
senior notes, we may begin to use various financial instruments, including
derivative financial instruments, in the ordinary course of business, for
purposes other than trading. These instruments could include letters of credit,
guarantees of debt, interest rate swap agreements and foreign currency exchange
contracts relating to intercompany payables of foreign subsidiaries. We do not
intend to use derivative financial instruments for speculative purposes.
Foreign currency exchange contracts would be used to mitigate foreign currency
exposure and with the intent of protecting the U.S. dollar value of certain
currency positions and future foreign currency transactions. Interest rate swap
agreements would be used to reduce our exposure to risks associated with
interest rate fluctuations. By their nature, all such instruments would involve
risk, including the risk of nonperformance by counterparties. We would attempt
to control our exposure to counterparty credit risk through monitoring
procedures and by entering into multiple contracts.
Year 2000
Prior to entering the year 2000, we developed detailed plans for
implementing, testing and completing any necessary modifications to our key
computer systems and equipment with embedded chips to ensure that they were Y2K
compliant. We also developed a test bed of our U.S. internal systems to
implement and complete testing of the requisite minor changes and completed an
inventory of our internal systems that we use outside of the United States to
determine the status of their Y2K compliance. Now that we have entered the year
2000, we have tested our key computer systems and to date, we have not
encountered any material Y2K related disruptions or failures of our systems or
services, nor have we been notified of any disruptions or failures in the
systems of any of our third parties. There is an ongoing risk that Y2K related
problems could still occur and we will continue to evaluate these risks,
however, we believe that the Y2K issue will not pose any significant
<PAGE>
operational problems for us. Costs to address the Y2K problem were not
material, amounting to $2.0 million, or less than 5% of our 1999 information
technology and network operations budgets. This amount could increase if we
encounter any future Y2K problems.
Quantitative and Qualitative Disclosures about Market Risk
At September 30, 1999, we had financial instruments consisting of cash,
fixed and variable rate debt and short-term investments, which were held for
purposes other than trading. The substantial majority of our debt obligations
have fixed interest rates and are denominated in U.S. dollars, which is our
reporting currency. However, as described elsewhere in this offering
memorandum, in December 1999, we issued fixed rate Euro 150.0 million aggregate
principal amount of 10 1/2% senior notes and had outstanding at September 30,
1999 Euro 150.0 million aggregate principal amount of 11% senior notes, which
are subject to foreign currency exchange risk. The proceeds from the euro-
denominated senior notes are currently invested in euro-denominated cash and
cash equivalents. A 10% change in the exchange rate for the euro would impact
quarterly interest expense by approximately $0.9 million and the carrying value
of the euro-denominated notes and cash and cash equivalents would each change
by approximately $31.5 million. We had no amounts outstanding under our credit
facility at September 30, 1999 and we terminated this facility on December 31,
1999. Annual maturities of our debt obligations at September 30, 1999,
excluding capital lease obligations and our credit facility, were as follows:
$1.7 million in 1999, $6.9 million in 2000, $4.1 million in 2001, $2.8 million
in 2002, $1.2 million in 2003 and $2,166.6 million thereafter. At September 30,
1999, the carrying value of our debt obligations, excluding capital lease
obligations, was $2,183.3 million and the fair value was $2,159.6 million. The
weighted-average interest rate of our debt obligations, excluding capital lease
obligations, at September 30, 1999 was 10.8%. Our investments are generally
fixed rate short-term investment grade and government securities denominated in
U.S. dollars. At September 30, 1999, all of our investments in debt securities
are due to mature within twelve months and the carrying value of all of our
investments approximates fair value. At September 30, 1999, $137.5 million of
our cash and short-term investments were restricted in accordance with the
terms of our financing arrangements and certain acquisition holdback
agreements. We actively monitor the capital and investing markets in analyzing
our capital raising and investing decisions.
Recent Accounting Pronouncement
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities," which is effective for all fiscal quarters
of fiscal years beginning after June 15, 2000. This Statement establishes
accounting and reporting standards for derivative instruments, including some
derivative instruments embedded in other contracts, and for hedging securities.
To the extent we begin to enter into such transactions in the future, we will
adopt the Statement's disclosure requirements in the quarterly and annual
financial statements for the year ending December 31, 2001.
<PAGE>
EXHIBIT 99.3
BUSINESS
We are a leading independent global provider of Internet and eCommerce
solutions to businesses. As an ISC, we offer global distribution of our
services over our worldwide fiber optic network, which is capable of
transmission speeds in excess of three terabits. We define the elements of an
ISC to include:
. Multiple Internet and eCommerce Web hosting centers--We currently have
or are building or planning to build Internet and eCommerce Web hosting
centers in key financial and business centers around the world,
including the Amsterdam, Atlanta, Berlin, Geneva, Hong Kong, London, Los
Angeles, New York, Paris, Seoul, Tokyo, Toronto and Washington, D.C.
metropolitan areas.
. Extensive global distribution--We have over 1,000 sales personnel and
2,500 VARs, systems integrators and Web design professionals in 27
countries throughout the world.
. Global brand name recognition--Our brand name is increasingly recognized
throughout the world for IP services and applications that meet the
needs of business customers, supported by local language sales,
provisioning and service.
. Worldwide fiber network and related optronic equipment--We operate one
of the largest global data communications networks that enables, or is
expected to enable, our customers to connect to the Internet and access
their corporate networks and systems resources from most of the world's
major business and population centers.
We provide Internet connectivity and Web hosting services to customers in
approximately 90 of the 100 largest metropolitan statistical areas in the U.S.
and in the 20 largest global telecommunications markets and we operate in 27
countries. In addition to these services, we offer a suite of value-added
products and services that are designed to enable our customers, through their
use of the Internet, to more efficiently communicate with their customers,
suppliers, business partners and remote office locations. We conduct our
business through operations organized into five geographic operating segments--
U.S./Canada, Latin America, Europe, Asia/Pacific and India/Middle East/Africa.
Our services and products include access services that offer dedicated, dial-
up, wireless and DSL connections, Web hosting services, intranets, VPNs,
eCommerce, voice-over-IP, e-mail and managed security services. We also provide
wholesale and private label network connectivity and related services to other
ISPs and telecommunications carriers to further utilize our network capacity.
We operate one of the largest global commercial data communications
networks. Our Internet-optimized extends around the globe and is connected to
more than 700 POPs that enable our customers to connect to the Internet. Our
network reach allows our customers to access their corporate network and
systems resources through local calls in over 150 countries. We further expand
the reach of our network by connecting with other large ISPs through
contractual arrangements, called peering agreements, that permit the exchange
of information between our network and the networks of our peering partners. As
part of our ISC strategy, we have opened seven global Internet and eCommerce
hosting facilities. These facilities are located in the Washington, D.C., Los
Angeles, New York City, Amsterdam, Basel, London and Toronto metropolitan areas
and contain a total of approximately 200,000 square feet. We have two network
operating centers that monitor and manage network traffic 24 hours per day,
seven days per week.
Our mission is to build a premier IP-based communications company. We have
grown by using multiple sales channels, including direct sales and resellers,
and by acquiring other ISPs and related businesses in key markets. We have
increased revenues by providing services and products that enhance our
customers' business processes by helping them to effectively use the Internet
and related tools. We served, as of September 30, 1999, approximately 79,900
business accounts, including approximately 640 ISPs.
Industry Overview
Overview. Internet access services is one of the fastest growing segments of
the global telecommunication services market place. Internet access services
represent the means by which ISPs
<PAGE>
interconnect either businesses or individual consumers to the Internet's
resources or to corporate intranets and extranets. Access services include
dial-up access for individuals and small businesses, and high-speed dedicated
access used primarily by mid-sized and larger organizations. In addition to
Internet access services, business-focused ISPs are increasingly providing a
range of value-added services, including managed access (i.e., intranets),
shared and dedicated Web hosting, security services, and advanced applications
such as IP-based voice, fax and video services. These services are being used
by business customers to enhance productivity, ensure reliability and reduce
costs.
The ISP market is segmented into large national or multinational ISPs ("Tier
1 ISPs"), which are typically full-service providers that offer a broad range
of Internet access and value-added services to businesses, and regional and
local ISPs ("Tier 2" and "Tier 3 ISPs"), which typically offer a smaller range
of products and services to both individuals and business customers and may
specialize in the provision of one IP-based product or service. We are a Tier 1
ISP. Tier 1 ISPs also provide wholesale services by reselling capacity on their
networks to smaller regional and local ISPs, thereby enabling these smaller
ISPs to provide Internet services on a private label basis without building
their own facilities. Tier 1 ISPs exchange Internet traffic at multiple public
peering points known as network access points and through private peering
arrangements. As the number of ISPs has grown, Tier 1 ISPs have increased their
requirements for peering arrangements thereby increasing the barriers to entry
into the top-tier. Tier 2 and Tier 3 ISPs generally rely on Tier 1 ISPs for
Internet access and interconnection. The ISP market is highly fragmented with,
according to industry sources, over 6,700 providers estimated to be doing
business in the U.S. and Canada alone. Because of the low barriers to entry,
there are many local and regional ISPs entering the market, which has caused
the level of competition to intensify. In addition, there recently have been
several acquisitions of large ISPs by multinational telecommunications
companies seeking to offer a more complete package of telecommunications
products to their customers.
Market Size and Growth. The Internet services market is forecast to continue
its rapid growth for the foreseeable future. According to its 1999 survey,
Gartner Group forecasts that worldwide revenues for Internet services will grow
from $13.7 billion in 1998 to $42.5 billion in 2003. According to Gartner
Group, in 1998, access services represented 87% or $14.8 billion of this total
market.
Growth in demand for business connectivity is being driven by a number of
factors, including an increase in online market penetration, particularly in
the small- and medium-sized business segments, and increased use of the
Internet by businesses. Specifically, Gartner Group estimates that business
access services represented 41% or $6.9 billion of the total access services
market in 1998, but will increase their percentage to 46% of the $49.4 billion
total Internet access services market in 2003. In addition, as more businesses
evolve from establishing an Internet presence to utilizing secure connectivity
between geographically-dispersed locations, remote access to corporate networks
and business-to-business commerce solutions, the demand for high quality
Internet connectivity and value-added services should grow. Gartner Group
forecasts that worldwide web hosting services revenue will grow from $896
million in 1998 to $5.9 billion in 2003.
Reflecting the globalization of the Internet, Gartner Group estimates that
47% or $20.1 billion of the $42.5 billion access services opportunity in 2003
is expected to come from North America. It is estimated that Japan will
represent 13% or $5.3 billion, the rest of Asia will represent 10% or $4.3
billion, Europe will represent 27% or $11.3 billion, and the rest of the world
will comprise the remaining 4% or $1.2 billion. Gartner Group forecasts that,
in North America, businesses will represent 36% of the total Internet access
services market of $20.1 billion; in Japan, businesses will represent 54% of
the total Internet access services market of $5.3 billion; in the rest of Asia,
businesses will represent 53% of the total Internet access services market of
$4.3 billion; in Europe, businesses will represent 80% of the total Internet
access services market of $11.3 billion; and in the rest of the world,
businesses will represent 80% of the total Internet access services market of
$1.5 billion.
Growth in Business Use of the Internet. Since the commercialization of the
Internet in the early 1990s, businesses have rapidly established corporate
Internet sites and connectivity as a means to expand customer
<PAGE>
reach and improve communications efficiency. Currently, many businesses are
utilizing the Internet as a lower-cost alternative to certain traditional
telecommunications services. For example, many corporations are connecting
their remote locations using intranets and VPNs to enable efficient
communications with employees, customers and suppliers worldwide, providing
remote access for a mobile workforce, reducing telecommunications costs by
using value-added services such as IP-based fax and videoconferencing, and
migrating legacy database applications to run over IP-based networks.
Businesses of all sizes are demanding advanced, highly reliable solutions
designed specifically to enhance productivity and improve efficiency. Moreover,
businesses are seeking national and global ISPs that can securely and
efficiently connect multiple, geographically-dispersed locations, provide
global remote access capabilities and offer a full range of value-added
services that meet their particular networking needs.
The PSINet Solution
We provide high quality global IP-based services and products that are
tailored to meet the needs of businesses. We believe that the business market
is particularly attractive due to its low customer churn characteristics, high
revenue per user, relatively low penetration and, in international markets,
early stage of development. In addition, we believe that within the business
access marketplace there is a significant opportunity to upsell to higher
service levels and provide additional value-added services as businesses grow
from establishing basic Internet connectivity and corporate Web sites to
utilizing the Internet, corporate intranets and VPNs for more advanced,
mission-critical applications. Further, we believe that small- and medium-sized
businesses will continue to seek to outsource certain information technology
functions to Tier 1 ISPs to reduce costs and improve service levels. Moreover,
we believe that regional and local ISPs will continue to seek business
relationships with large, Tier 1 ISPs that enable them to sell Internet
connectivity services without making significant investments in facilities.
The PSINet Strategy
Our objective is to be one of the top three providers of Internet access
services and related communications services and products in each of the 20
largest global telecommunications markets. The principal elements of our
business strategy are summarized below:
. Leverage Multiple Sales Channels. We are pursuing growth opportunities
through multiple channels consisting of our direct sales force, a
reseller and referral program and strategic alliances with selected
telecommunications services and equipment suppliers, networking service
companies, systems integrators and computer retailers. We have built a
direct sales force, which, as of September 30, 1999, consisted of over
1,000 individuals worldwide, more than half of whom were employed
outside of the U.S. As of September 30, 1999, our reseller and referral
program consisted of over 2,500 resellers and referral sources. This
program enables us to leverage the sales and marketing resources of our
resellers and referral sources to offer our Internet access services and
products to a broader and more diverse prospect base. We also seek to
establish strategic alliances with selected telecommunications carriers,
such as we have with American Communications Network, Inc., ATX
Telecommunications Services, e.Spire Communications, Inc. and NEXTLINK
Communications Inc., to offer our IP-based services and products to the
carriers' customer base on a private label or co-branded basis. In
addition, we are pursuing agreements with computer retailers as a means
for offering our services and products through retail sales channels.
. Increase Sales of Value-Added Services and New Products. We intend to
capitalize on the trend of companies seeking to increasingly outsource
their critical business applications and integrate Web-based services
and products by aggressively marketing value-added services and products
to our existing account base and prospective business customers. We
currently offer a number of value-added services, such as Web hosting
and collocation, intranets, VNPs, multi-currency e-commerce, voice-over
IP services, e-mail outsourcing, streaming media, security and remote
user access. We are aggressively expanding our Web hosting and managed
services operations. As part of our ISC
<PAGE>
strategy, we have opened seven new global Internet and eCommerce hosting
centers. These facilities are located in the Washington, D.C.; Los
Angeles; New York City; Amsterdam; Basel; London; and Toronto
metropolitan areas, and contain a total of approximately 200,000 square
feet. We anticipate opening additional Internet and eCommerce hosting
facilities in other key financial and business centers around the world.
Additionally, we continue to evaluate and implement new alternative
broadband local loop services, including wireless, DSL and cable modem
solutions.
. Accelerate Growth Through Targeted Acquisitions. We intend to continue
to accelerate our growth in the U.S. and expand our presence in key
markets internationally by acquiring primarily business-focused ISPs and
related businesses and assets. We intend to make strategic investments
in or acquire:
. local or regional ISPs in markets where we have an established POP
and can benefit from the increased network utilization and local
sales force;
. ISPs in the 20 largest global telecommunications markets where we
currently do not have a presence or in those global
telecommunications markets where our current presence would be
significantly enhanced;
. related or complementary businesses, such as our acquisition of TNI,
to broaden our market presence and expand our strengths in key
product areas, such as Web hosting or data center companies, or data-
processing companies with legacy networks which would benefit by
migrating to IP-based technologies; and
. telecommunication or information technology companies which have
strong relationships with chief technology officers and other
management information service executives at major corporations
worldwide.
. Continue to Invest in our Network. We remain focused on reducing costs
as a percentage of revenue by maintaining a scaleable network and
increasing utilization of and controlling strategic assets, such as
telecommunications bandwidth through IRUs and the acquisition of dark
fiber. Our flexible network architecture utilizes advanced ATM, ISDN and
SMDS compatible frame relay equipment, which allows our network to cost-
effectively scale the number of POPs and the number of users accessing a
POP in response to customer demand. We have enhanced our network
significantly through several strategic acquisitions of fiber-based
telecommunications bandwidth, including acquisitions of or agreements to
acquire IRUs and other rights within and connecting the U.S., Canada,
Latin America, Europe, Asia and the Middle East.
. Enhance Brand Name Recognition. We were the first commercial ISP and
have established significant brand recognition among information
technology professionals in the U.S. In 1998, we launched a major
program to develop and enhance the PSINet brand name as a leading global
facilities-based ISP. Our branding program includes the rebranding of
acquired ISP operations and services under the PSINet name, the select
use of television commercials, print ads and direct mailings which
target key decision makers in the United States and abroad, and the
acquisition of corporate sponsorship rights, such as our acquisition of
the naming rights to the NFL Stadium of the Baltimore Ravens and related
marketing rights. By combining this branding program with our multiple
sales channel distribution strategy, superior customer service and
technical support available 24-hours per day, seven-days per week, we
seek to expand market share, increase customer loyalty and develop brand
recognition in the global Internet market.
PSINet Services
We offer a broad range of high-speed Internet access options and related
services in the U.S., Canada, Latin America, Europe, Asia and the Middle East
at a variety of prices designed to meet the requirements of commercial,
educational, governmental and other organizations that link their computers,
networks and
<PAGE>
information servers to, or otherwise seek to benefit from the use of, the
Internet. We provide Internet solutions to help business and other
organizations reduce costs, increase productivity and access new markets.
Access options range from dial-up services to high-speed continuous access
provided by dedicated circuits. We believe that our broad range of
competitively priced Internet services and products allows us to compete
effectively in the Internet access market for corporate and other institutional
customers. We have organized our core operations into three customer-focused
business units--Corporate Network Services, which focuses on sales of Internet
access services, Applications and Web Services, which focuses on sales of Web
and value-added services, and Carrier and ISP Services, which focuses on sales
of Internet access and related services to telecommunications carriers and
consumer-based ISPs--in order to more closely align our operations with the
needs of the emerging Internet marketplace.
Internet Access Services. We offer in the U.S./Canada, Latin America, Europe
and Asia/Pacific global connectivity services, including a variety of dial-up
and dedicated access solutions in bundled and unbundled packages, which provide
high-speed continuous access to the Internet for businesses' local area
networks or LANs. We provide turnkey configuration solutions encompassing such
services as domain name registration, line ordering and installation, IP
address assignment, router configuration, installation and management, security
planning and management and technical consultation services. All of our
connectivity customers receive 24-hours per day, seven-days per week technical
support. We also offer a full range of customer premise equipment required to
connect to the Internet, including routers, channel service units/data service
units, software and other products, as needed. Due to our business
relationships with a variety of vendors, we are able to offer competitive
hardware pricing and bundled services to our customers.
. Dedicated Access. We offer a broad line of high-speed dedicated
connectivity services which provide business customers with direct
access to a full range of Internet applications. Our flagship access
service, InterFrame, provides companies with robust, full-time,
dedicated Internet connectivity in a range of access speeds, from 56
Kbps to 45 Mbps. InterFrame is designed to offer comprehensive network
security and to help ensure bandwidth availability for priority business
applications. We believe that the traffic-management advantages of the
frame relay technology deployed in our network provide our customers
with fully integrated Internet access and improved performance. For
higher bandwidth needs, we provide our InterMAN(R) access service in
major U.S. cities in connection speeds ranging from 1.5 Mbps to 45 Mbps.
InterMAN is a turnkey solution in which we provide, install and maintain
equipment at the customers' premises. InterMAN affords cost advantages
over competitive dedicated access services by utilizing high-speed SMDS
and ATM data transmission technologies.
. DSL Access. We offer high-speed Internet access services using digital
subscriber line or DSL technology. DSL is a new technology being
deployed by telephone companies and competitive local exchange carriers,
or CLECs, that permits high speed digital transmission over the existing
copper wiring of regular telephone lines. We have entered into
agreements with two leading providers of DSL services to ISPs, to
deliver DSL access services to our customers. We recently announced our
offering of DSL services in 21 major metropolitan areas throughout the
U.S. with expansion to other major metropolitan areas expected to occur
later in 2000. Our DSL services are available in a wide range of
dedicated access speeds, from 144 Kbps to 1.5 Mbps. Our DSL services are
designed to appeal to the small-to-medium sized business market by
providing high quality Internet access at speeds faster than ISDN and at
flat-rate prices that are low relative to traditional dedicated access
charges.
. Wireless Access. Our Wireless Internet Solutions service offers
dedicated high-speed "fixed wireless" Internet access utilizing digital
microwave technology. Speeds of up to 128 Kbps are currently available
with faster capabilities of up to 512 Kbps anticipated to be made
available in the second quarter of 2000. Our Wireless Internet Solutions
service is currently operational in certain cities in Alabama, Florida,
North Carolina and Tennessee, with expansion to additional areas in the
<PAGE>
southeastern U.S. expected to occur in the second quarter of 2000. Wireless
Internet Solutions provides an affordable, high-speed alternative to
traditional land-based Internet services, commonly referred to as "local
loop connections," offered by telecommunications carriers.
. Dial-up Access. Our LAN-Dial(R) dial-up services offer a cost-effective,
entry-level Internet solution that provides access to PSINet's advanced
network backbone via ordinary telephone lines at speeds of up to 56
Kbps. Our LAN-ISDN service provides dial-up access through digital ISDN
lines at speeds of up to 128 Kbps.
. Web and Value-Added Services. We believe that business customers on a
worldwide basis will continue to increase their use of the Internet as a
business tool and will increasingly rely upon an expanding range of
value-added services to enhance productivity, reduce costs and improve
service reliability. We offer in the U.S., Canada, Latin America, Europe
and Asia a variety of value-added services, including Web hosting and
collocation, intranets, VPNs, multi-currency e-commerce, voice-over-IP,
e-mail outsourcing, streaming media, security and remote user access
services designed to meet the diverse networking needs of businesses. In
addition, in order to capitalize on our technologically advanced, high-
capacity network, we intend to continue to develop new IP-based services
and products that increase customer use of the Internet, including
bandwidth-intensive multimedia services such as video conferencing over
the Internet.
. Web Hosting. We provide a line of Web hosting and multimedia streaming
services that permit companies to market themselves and their products
on the Internet without having to invest significantly in technology
infrastructure and operations staff. The PSIWeb(R) services are backed
by our 100% uptime guarantee, the industry's first, and by our advanced
network backbone, which provides highly reliable Internet connectivity.
PSIWeb offers options such as complete electronic eCommerce solutions as
well as "TV on the WEB LIVE," a joint service offering from us and Gardy
McGrath International, which is an end-to-end solution for video
broadcasting of live events over the Internet. We have recently
introduced a line of management application services to enable our
customers to outsource their Web management requirements to our highly
trained systems administrators and support staff.
. Collocation. Our PSIWeb Co-Locate SM service enables companies to house
business-critical servers in secure off-site facilities with improved
bandwidth management and reliable connections. Collocation facilities
are situated on the highest bandwidth portions of our infrastructure in
order to facilitate optimal performance and high-speed capabilities.
. VPNs/Intranets. Our IP-optimized network allows us to create private IP
networks, known as "intranets" or "virtual private networks," that are
designed to securely isolate internal network traffic from public
Internet traffic and provide each site on the intranet access to other
sites on the intranet as well as to the Internet. Our PSI IntraNet(R)
service integrates an organization's multiple sites in different
countries throughout the world by providing IP connectivity with access
speeds ranging from 56 Kbps to 2 Mbps. By combining the security and
control of a private network with cost-effective Internet-compatible
connectivity, PSI IntraNet provides a turnkey solution for equipment
management support and offers significant savings over traditional wide
area network or WAN solutions.
. Multi-Currency E-Commerce. Our PSIWeb eCommerce SM service provides a
turnkey solution to create and manage "virtual storefronts" and is
designed to give shoppers the ability to make secure purchases in their
local currency using the Web. PSIWeb eCommerce integrates payment
systems engineered for security with virtual store technology, through
alliances with CyberCash, Inc. and Mercantec, Inc., to facilitate a
seamless shopping experience. In addition, PSIWeb Worldpay SM provides a
cost-effective eCommerce solution for selling goods and services to an
international audience. Developed in association with Worldpay Ltd., an
eCommerce transaction clearing house,
<PAGE>
and National Westminster Bank PLC, PSIWeb Worldpay enables customers
around the world to make real-time purchases using the Web in over 100
currencies.
. Voice-Over-IP. PSIVoice SM enables companies with multiple business
locations to communicate by voice among these sites and with select
third parties, such as business partners, customers and suppliers,
outside their corporate intranets or VPNs via low-cost IP telephony
links. PSIVoice is a turnkey service allowing for such enhanced features
as desktop faxing, conference calling and unified messaging services and
includes all the hardware and network management services required for
high quality, private-line voice connections among geographically
dispersed offices. By providing voice and Internet traffic on the same
circuit, customers are able to use existing bandwidth more efficiently,
resulting in savings of 20%-50% over traditional long-distance telephone
calling.
. E-Mail. PSIMail SM enables customers to outsource their e-mail service
and its management to our highly trained systems administrators and
support staff. For a monthly fee, we establish accounts, manage the
servers and provide full accessibility to e-mail for our customers while
saving them the investment in additional servers and staff.
. Security Solutions. The proprietary nature of business Internet traffic
demands protection from unauthorized access. We deliver a range of
managed security services that were developed in conjunction with
certain strategic partners and are backed by the expertise of our
Security Planning and Response Team. Our RouteWaller(R) service provides
cost-effective perimeter defense with sophisticated remote user
authentication that helps to ensure that no strategic applications or
data can be accessed until the user has proven his or her access
clearance. SecureEnterprise(R) is our management service designed to
protect enterprises with a full-featured, application-layer firewall.
. Faxing. Since a significant portion of telecommunications traffic
consists of fax transmissions, companies are looking for ways to better
manage fax costs. Our InternetPaper SM service supports hard-copy
distribution of electronic documents from desktop PCs to any fax machine
in the world. This service offers centralized management of document
distribution, thereby significantly reducing transmission costs.
. Remote Access. Today's work force increasingly operates outside the
traditional office setting. Our InterRamp(R) Remote Access service
enables mobile personnel to access their corporate network and systems
resources using the Internet from over 2,400 POPs in over 150 countries
through our strategic relationship with iPass, an international data
communications network. In most locations where business is conducted,
InterRamp Remote Access offers full Internet access through a local
telephone call. As part of InterRamp Remote Access service, we provide
our customers with a special account management system that enables
customers' MIS administrators to control user access and monitor usage
statistics.
eCommerce Business Solutions. In November 1999, we acquired TNI. TNI is a
leading worldwide provider of eCommerce data communications and transports
more than 19 million POS transactions daily. We anticipate that our
acquisition of TNI will strengthen our position as a leading provider of
global Internet and eCommerce solutions to businesses.
Through TNI, we operate four divisions that provide eCommerce solutions to
businesses:
. the POS Division which includes TNI's TransXpress(R) network services
for the POS transaction processing industry;
. the Telecom Services Division which includes TNI's CARD*TEL(R) telephone
call billing validation and fraud control services and other services
targeting primarily the telecommunications industry;
. the Financial Services Division which provides integrated data and voice
services including the TNI FastLink(R) Data Service in support of the
Financial Information eXchange messaging protocol and other transaction
oriented trading applications primarily to the financial services
industry; and
<PAGE>
. the International Systems Division which markets TNI's products and
services internationally.
The majority of TNI's revenues are derived from the transmission of POS
transactions (predominantly credit and debit card transactions) which are
processed electronically by a small number of third party transaction
processors. TNI's TransXpress network services utilize proprietary technology
that provides a fast communications link between the merchant site and the
transaction processor at a cost generally lower than current alternatives. TNI
markets its TransXpress network services directly to third party POS
transaction processors, who in turn resell TNI's network services as a part of
the processors' own services. Several leading third party POS transaction
processors in the nation, including First Data Corporation, Electronic Payment
Services, Inc., Alliance Data Systems, First USA/Paymentech, Global Payments,
National Data Corporation, American Express, NOVUS Services, Inc. and Vital
Processing Services, purchase TNI's network services.
Carrier and ISP Services. To maximize utilization of our network, we formed
our Carrier and ISP Services business unit to provide dial-up Internet access
to telecommunications carriers and consumer-based ISPs in the U.S. and Canada,
such as Earthlink Network, Inc. and Microsoft's WebTV, whose customers
typically access the network during evening hours when business use tends to be
minimal. We have expanded this business unit to offer peering and transit
services to telecommunications carriers and other ISPs and to offer our
connectivity and value-added services for resale, on a private label basis, to
larger telecommunications carriers and other ISPs that require high quality
business services and products to enhance their product portfolio. Through such
services, we have the opportunity to significantly increase our distribution
channel.
. ISP and Consumer Dial-up Access. We provide dial-up access to consumer-
oriented ISPs enabling them to expand their geographic reach and network
capacity by purchasing from us access to our IP-optimized network
through over 375 POPs in the United States and Canada as of September
30, 1999. We offer programs that provide smaller ISPs the opportunity to
increase their user base over time and provide larger ISPs the
opportunity to cost-effectively manage their rapid growth. In addition,
in certain domestic and international markets, we provide dial-up access
services directly to individual customers.
. Commercial Private Label/Virtual ISP Services. We provide our market-
tested services on a private label or "virtual ISP" basis to companies
with which we have strategic alliances and other companies that desire
to offer consumer Internet access services but do not have the resources
or network facilities to provide these services. This allows these
companies to market and resell PSINet services under their own brand
while leveraging our nationwide network and expertise in service
delivery. We assist in training the sales and support staffs of these
companies and provide technical support to facilitate their resale
efforts.
. Peering and Transit. In order to support the exchange of information
between ISPs, which is critical to the effective operation of the
Internet, we offer free private peering for all U.S.-based ISPs. Private
peering allows other ISPs' traffic to directly reach our customers,
which improves network performance and, we believe, thereby promotes
customer satisfaction. Furthermore, we offer, for a fee, transit
service, which allows an ISP to transfer traffic through the PSINet
network to another ISP. Transit service enables ISPs to reduce their
data communications expense by leasing network utilization from us in
lieu of leasing point-to-point circuits from other telecommunications
providers.
. Web Filtering. PSIChoice SM enables our carrier and ISP customers to
offer their consumers the option to protect themselves from content they
find objectionable on the World Wide Web by restricting access to sites
that contain undesirable information. PSIChoice is hosted on our
technologically advanced network and utilizes content proxy services to
screen Web content accessed by end-users. PSIChoice requires no software
implementation on the consumer's computer and is presently available in
the United States.
Services and Product Development. As part of our ongoing efforts to develop
IP-based services and products that enable businesses to take maximum advantage
of their corporate networks and the Internet, we have continually invested in
service and product development programs. Since our inception, we have
<PAGE>
introduced to the Internet marketplace several major new services, including
the first LAN-based dial-up TCP/IP access service, the first managed Internet
security service, the first Tier 1 ISP to offer eCommerce services and the
first ISP intranet service. Major services and products currently under
development include multimedia services, such as next-generation video
conferencing over the Internet, and higher speed connectivity services.
PSINet's Network
Overview. We operate a global high capacity, IP-optimized network which, as
of September 30, 1999, was comprised of more than 700 POPs, of which 340 were
within the United States with the remainder located in Canada, Latin America,
Europe and Asia/Pacific. Our network employs architecture designed to deliver
superior dedicated or dial-up Internet connections, reliable packet control and
intelligent data traffic routing. We have strengthened our position as a
leading facilities-based ISP through several recent acquisitions of high
capacity, fiber optic telecommunications bandwidth and other strategic network
assets that have significantly reduced our incremental data communications
costs. The combination of our technologically advanced network architecture and
global network infrastructure has positioned us to deliver the high level of
IP-based services, such as Web hosting and a broad array of multimedia Internet
services, increasingly demanded by businesses.
Network Architecture. We have engineered an IP-optimized network by
integrating advanced Internet routers with high-speed frame relay switching
equipment that is compatible with ATM, ISDN and SMDS transmission technologies.
We have planned for growth by ensuring that the network is scaleable, flexible,
fault tolerant, open standards-based and remotely manageable.
. Scaleable. Our flexible, multi-layer network architecture utilizes a
high-speed switching fabric which enables us to grow the number of POPs
and the number of users served in an incremental manner that matches
investment with demand. The network's scalability extends beyond the
currently installed base of over 700 POPs to allow for growth to 2,000
POPs without fundamental design changes.
. Flexible. Our network architecture consists of an Internet routing
infrastructure overlaid upon a fast packet switching fabric that enables
us to provide reliable, high-speed connections and provide our customers
the ability to manage bandwidth by type of application and to
accommodate applications that are delay-sensitive. We are able to use
our flexible network architecture in concert with our remote monitoring
capability to accommodate changing customer usage patterns and patterns
of traffic that, if left unmanaged, could otherwise degrade network
performance.
. Fault Tolerant. Redundancy and adaptive technology in our network
reduces the impact of isolated failures on the customer's experience.
Adaptive technology incorporated into our Internet router infrastructure
compensates automatically for circuit failures that might otherwise
interrupt the flow of customer traffic. Key switching and router
elements are redundantly configured to further reduce the impact of
individual component failures. In addition, typically we have an
uninterruptible power supply at each POP, limiting the impact of local
power outages on our network.
. Open. The PSINet network is based on the open internetworking protocol
standard TCP/IP and on relevant international standards relating to
transmission and modulation technologies. We are able to install a
variety of equipment types and capacities without impacting network
interoperability. As a result, our network can be upgraded incrementally
and benefit from multi-vendor supply strategies.
. Manageable. From our NOCs, we are able to monitor the network remotely,
perform network diagnostics and equipment surveillance, and initialize
customers. As a result of our network architecture and our experience in
Internet network management, these tasks can be performed remotely
regardless of POP location or network status. This capability allows us
to respond quickly to network problems and to control costs associated
with on-site network configuration and repair.
<PAGE>
Global Network Infrastructure. As part of our ongoing efforts to control
strategic assets and further expand and enhance our network, we have recently
acquired or agreed to acquire IRUs and other rights in significant amounts of
fiber-based telecommunications bandwidth located throughout the world. The
following table summarizes our material bandwidth facilities as of December 31,
1999:
<TABLE>
<CAPTION>
Location Capacity Connection Points Ownership
-------- ----------------------------- ------------------------ -----------------
<C> <C> <S> <C>
North America 15,840 route miles of OC-12 New York--Chicago-- IRU
Dallas--Phoenix--Las
Vegas
--Los Angeles--
Philadelphia--
Washington, DC
--Atlanta--Houston
(operational)
Seattle--San Francisco
(partially operational)
18 high capacity dark fibers New York--Washington, DC Capital lease
(operational)
4 high capacity dark fibers San Francisco Bay Area Capital lease
(beginning in Q2 2000)
20 high capacity dark fibers Vancouver, B.C.-- IRU
Seattle, WA (beginning
in Q1 2000)
16 high capacity dark fibers 53 cities throughout IRU
continental U.S.
(beginning in Q1 2001)
T-3 Intercontinental Leased
(operational)
2300 miles of OC-48 Vancouver-Calgary- IRU
Winnipeg-Chicago (Q1
2000)
4 high capacity dark fibers Atlanta, Georgia (Q1 IRU
2000)
Transatlantic and Europe 14,000 km of 5 STM-1s (OC-3) New York--U.K.-- IRU
Amsterdam (1 STM-1
operational; 4 STM-1s in
Q1 2000)
12,600 km of STM-1 New York--U.K. IRU
(operational)
21,000 km of STM-1 30 European cities IRU
(initial portions
operational)
6,000 km of STM-1 New York--London (prior IRU
to 2000) (operational)
2 high capacity dark fibers New York--London--Paris IRU
(beginning in Q2 2001)
E-1 Intercontinental Leased
(operational)
Transpacific and Asia 6,000 miles of 6 DS-3s US--Korea--Japan (5 DS- IRU/Capital lease
3s operational;
1 DS-3 prior to Q2 2000)
22 STM-1s (increasing to 30) Japan-Hawaii-US (Q3 2000) IRU
27,300 km of STM-1 Japan-China-Southeast IRU
Asia-India-Middle East-
Europe (initial portions
operational)
7,643 miles of DS-3 US--Korea (operational) IRU
21,000 km of 2 STM-1s Los Angeles--Tokyo (Q1 IRU
2000)
Transpacific and Latin America 3,200 km of STM-1 Los Angeles--Mexico City IRU
(Q1 2000)
6,300 km of STM-1 Los Angeles--Panama City IRU
(Q1 2000)
Two 54 MHz transponders United States--Latin Capital lease
of Ku band satellite capacity America (interim
connectivity
operational; one
transponder in Q1 2000,
the second transponder
in Q3 2000)
</TABLE>
. Acquired bandwidth facilities in North America:
. In February 1998, we acquired from IXC IRUs in up to 10,000
equivalent route miles of OC-48 network bandwidth across the United
States, including such major metropolitan areas as Atlanta, Chicago,
Cleveland, Dallas, Houston, Los Angeles, Las Vegas, New York,
Philadelphia, Phoenix, Seattle, San Francisco and Washington, D.C.,
in exchange for approximately 20% of our common stock. As of
December 31, 1999, approximately 15,840 route miles of OC-12
(equivalent to approximately 3,960 route miles of OC-48) bandwidth,
connecting New York, Washington, D.C., Atlanta, Chicago, Dallas,
Houston, Phoenix, San Francisco and Los Angeles and certain major
cities in between, have been placed into operation on our network.
We currently anticipate delivery of the remaining OC-48 bandwidth
from IXC over the next 12 to 18 months.
. In May 1998, we acquired from Metromedia Fiber Network Services,
Inc. ("MFN") long-term rights in 18 dark fiber optic strands
connecting the New York City and Washington, D.C. metropolitan areas
and major metropolitan areas in between. Using currently available
<PAGE>
technology, this fiber will be capable of carrying 96 Gbps of data
in the New York City to Washington, D.C. corridor, which currently
handles approximately 35% of the telecommunications traffic in the
United States and is a vital route connecting Internet traffic
between Europe and the United States. As of December 31, 1999, dark
fiber had been placed into our network.
. In December 1998, we acquired from MFN long-term rights in four dark
fiber optic strands connecting multiple cities in the San Francisco
Bay area along a circular route extending south to the Silicon
Valley, including San Jose and Santa Clara, and east to Hayward.
This market is an important financial and technology corridor and is
expected to generate high demand for Internet services well into the
future. We expect to place into operation portions of this fiber
prior to the end of the second quarter of 2000, with full delivery
anticipated prior to the end of 2000.
. In January 1999, we entered into an agreement to acquire from
Starcom Service Corporation IRUs in 20 dark fiber optic strands
connecting the Vancouver, British Columbia and Seattle, Washington
metropolitan areas, a high-demand international telecommunications
corridor. We expect to place into operation portions of this fiber
prior to the end of the first quarter of 2000.
. In September 1999, we entered into an agreement to acquire from IXC
Communications IRUs in 16 dark fiber optic strands connecting 53
cities over 13,000 route miles across the continental United States.
We expect to place into operation the first four strands of this
fiber starting in the first and second quarters of 2001.
. As of November 1999, we entered into an agreement to acquire from
ACSI Network Technologies, Inc. IRUs in four strands of dark fiber
optic cable connecting locations within Atlanta, Georgia. We expect
to place this fiber into operation during the first quarter of 2000.
. In December 1999, we entered into an agreement to acquire from
Worldwide Fiber Network Services Ltd. IRUs in OC-48 network
bandwidth configured along an approximately 2,300 mile route
connecting Vancouver, Calgary, Winnipeg and Chicago. We expect to
place into operation portions of this fiber prior to the end of the
second quarter of 2000.
. Acquired Transatlantic and European bandwidth facilities:
. In March 1998, we acquired from Global Crossing Ltd. IRUs in STM-1
(equivalent to OC-3) network bandwidth configured along an
approximately 14,000 kilometer route on the Atlantic Crossing
undersea fiber optic system connecting the United States, the United
Kingdom and continental Europe. As of December 31, 1999, the portion
of this bandwidth linking New York City, the United Kingdom and
Amsterdam is operational and integrated with the OC-12 bandwidth
previously acquired from IXC.
. In January 1999, we acquired from Hermes Europe Railtel (Ireland)
Limited IRUs in STM-1 network bandwidth configured as multiple rings
along an approximately 21,000 kilometer route, which when completed,
is expected to link 30 European cities. As of December 31, 1999, we
have connected a portion of this bandwidth to our existing
operations in England, the Netherlands, France, Germany, Sweden and
Switzerland. We expect to expand our bandwidth on the Hermes network
to additional cities in Austria, Spain and Hungary prior to the end
of 2000.
. In March 1999, we acquired from Cable & Wireless, Inc. an IRU in
STM-1 network bandwidth configured along an approximately 12,600
kilometer route on the Gemini Submarine cable system connecting the
United States and the United Kingdom. As of December 31, 1999, fiber
has been placed into our network.
<PAGE>
. As of July 1999, we acquired an IRU in STM-1 network bandwidth
configured along an approximately 6,000 kilometer route connecting
New York and London. As of December 31, 1999, fiber had been placed
into our network.
. In November 1999, we entered into an agreement to acquire from FLAG
Limited (Fiberoptic Link Around the Globe) IRUs in two diversely
routed dark fiber pairs along an approximately 14,500 kilometer
route on the FA-1 transatlantic cable system connecting New York,
Paris and London. We expect to place this fiber into operation
beginning the second quarter of 2001.
. In December 1999, we entered into agreements to acquire from Global
Crossing USA Inc. ("Global Crossing") IRUs in various fiber optic
cable systems throughout the world. Under the initial commitment, we
have acquired IRUs in four STM-1s of network bandwidth configured
along an approximately 14,000 kilometer route on an undersea fiber
optic system connecting New York, the United Kingdom and Amsterdam.
We expect to place fiber into our network prior to the end of the
first quarter of 2000. We also acquired additional network bandwidth
along routes connecting the U.S. and Tokyo and the U.S. and Latin
America, as further described below.
. Acquired Transpacific and Asian bandwidth facilities:
. In September 1998, we acquired from International Digital
Communications Inc. in the United States and from International
Digital Communications, Inc. and Cable & Wireless Plc in Japan
bandwidth capacity equivalent to six DS-3s in the North Pacific
Cable undersea fiber optic system connecting the United States and
Japan through a combination of IRUs and long-term capital leases. As
of December 31, 1999, three DS-3s connecting Portland, Oregon and
Tokyo, Japan and two DS-3s connecting the United States and the
Republic of Korea are operational. We expect the remaining DS-3
capacity to become operational in the first half of 2000 and, when
integrated with the bandwidth from FLAG Limited (described below) we
recently placed in operation, will extend the reach of the PSINet
network into the Republic of Korea and Hong Kong.
. In July 1998, we entered into an agreement with a group of leading
telecommunications companies to build the Japan-U.S. Cable Network,
an undersea cable system connecting the United States (through
California and Hawaii) and Japan, on which we will own IRUs in 22
STM-1s, increasing to 30 STM-1s as the network is upgraded, of
bandwidth. Upon completion, the Japan-U.S. Cable Network will
initially operate at 80 Gbps, increasing to 155 Gbps as the network
is upgraded, and is currently anticipated to become operational in
the third quarter of 2000. Completion of the undersea cable system
is subject to a number of risks associated with construction
projects.
. In December 1998, we acquired from FLAG Limited (Fiberoptic Link
Around the Globe) IRUs in STM-1 network bandwidth configured along
an approximately 27,300 kilometer route having the capability of
connecting Japan, China, Southeast Asia, India, the Middle East,
Europe and the United Kingdom. With this acquisition, the PSINet
network became the first independent Internet network to fully
circle the globe, serving customers on three continents. Our
agreement with FLAG also enables us to purchase additional capacity
and insert new connections along the FLAG cable route to accommodate
future demand. We have placed into operation portions of this
bandwidth, which when integrated with our capacity on the North
Pacific Cable system, will extend the reach of the PSINet network
into other countries along the FLAG route.
. In July 1999, we acquired an IRU in DS-3 network bandwidth capacity
along a 7,643 mile route connecting the United States and the
Republic of Korea. As of December 31, 1999, all of this bandwidth
had been placed into operation.
<PAGE>
. In December 1999, under an agreement with Global Crossing, we
acquired IRUs in two STM-1s of network bandwidth configured along an
approximately 21,000 kilometer route on an undersea fiber optic
system connecting Los Angeles and Tokyo. We expect to place this
bandwidth into operation prior to the end of the first quarter of
2000.
. Acquired Transpacific and Latin American bandwidth facilities:
. In December 1999, under an agreement with Global Crossing, we
acquired two IRUs in STM-1 network bandwidth configured along routes
on two undersea fiber optic systems. One STM-1 of approximately
3,200 kilometers connects Los Angeles and Mexico City, and the other
STM-1 of approximately 6,300 kilometers connects Los Angeles and
Panama City. We expect to place this bandwidth into operation prior
to the end of the second quarter of 2000.
. In September 1999, we acquired from Loral Orion Services, Inc. a 13
year (which is expected to be the life of the satellite) right to
use two 54 MHz transponders of Ku band capacity on the Orion 2
satellite. As of December 31, 1999, we had established interim
satellite connectivity under this agreement. Permanent satellite
capacity on the first transponder is expected to begin in the first
quarter of 2000, with the deployment of capacity on the second
transponder scheduled to be completed by the end of the third
quarter of 2000. The satellite capacity will initially be provided
between the U.S. and Brazil. The agreement provides us with a
portability option to transfer the capacity to other Loral Orion
satellites. The portability option, subject to certain restrictions,
provides us with the opportunity to re-deploy this capacity to other
regions of the world which have coverage by Loral Orion satellites.
We expect to further expand our network in the U.S./Canada, Europe,
Asia/Pacific, Latin America and India/Middle East/Africa markets, as well as in
other select international markets, and to acquire fiber-based IRUs and other
rights in telecommunications bandwidth in these regions to support demand
growth and reduce costs. We are targeting cities with a high concentration of
businesses for global expansion with the objective, over the long-term, of
providing local access to our services and products to 80% of the businesses in
those cities. In furtherance of this plan, we have entered into agreements in
Germany and Switzerland that enable us to offer local telephone call access to
our services and products throughout each of these countries. We already offer
local call access to 80% of the business markets in the United States, Canada,
France, Hong Kong, Japan and the Netherlands.
Internet and eCommerce Hosting Centers. We have technologically advanced
global Internet and eCommerce hosting facilities in the following locations:
. 10,000 square feet in Herndon, Virginia
. 42,000 square feet in Los Angeles
. 13,000 square feet in New York City
. 17,000 square feet in Amsterdam
. 10,000 square feet in La Chaux-de-Fonds
. 100,000 square feet in London
. 5,000 square feet in Toronto
In addition, we anticipate opening an 88,000 square foot Internet and
eCommerce hosting facility in Atlanta in early 2000, and have plans for
construction of additional global Internet and eCommerce hosting facilities in
other key financial and business centers around the world, including in the
United States and in
<PAGE>
Berlin, Hong Kong, Paris, Seoul and Tokyo. The additional facilities are
expected to range from approximately 10,000-150,000 square feet, will be
specifically designed for dedicated Web hosting, application hosting,
collocation services and high capacity access to our network, and will be
equipped with uninterruptible power supply and backup generators, fire
suppression, raised floors, HVAC, 24-hours per day, seven-days per week
operations and physical security. Our partnership with Hewlett-Packard Company
further supports our ability to provide high-end Web services consisting of
shared hosting, dedicated hosting and collocation hosting.
PRI Circuits. In key geographically-dispersed cities located along the
configuration of our network, we are also investing in PRI circuits, which
provide dial-up access to our POPs, in order to increase the capacity available
for our consumer-oriented ISP customers. Through agreements with select CLECs
we have lowered our average cost per PRI by approximately 15-20% over the last
twelve months. As of December 31, 1999, we had more than doubled our dial-up
capacity from May 31, 1998 as a result of our investment in PRIs. As of
December 31, 1999, substantially all of our dial-up capacity was accessible at
56 Kbps modem speeds. We anticipate that all newly deployed modems will support
this technology.
Peering Arrangements. We maintain peering relationships with national,
regional and local ISPs by either private peering with the ISPs or by
participation in various public peering locations, known as network access
points. As of December 31, 1999, we maintained more than 5,412 Mbps (5.4 Gbps)
of peering connectivity with 146 private agreements and seventeen public
connections strategically placed throughout the United States, the United
Kingdom, Canada, Japan and Europe. Recently, some companies that have
previously offered peering have cut back or eliminated peering relations and
are establishing new, more restrictive criteria for peering. We expect that,
due to our offering of peering with any of the estimated 4,000 ISPs in the
United States without settlement charges, we will substantially increase the
number of ISPs with which we peer. We believe that by entering into direct
peering relationships with a large number of ISPs, our business customers will
receive better service and the highest quality network performance.
Global Network Management. We believe that we offer superior network
management capabilities which enhance customer satisfaction. We have
established a 24 hours per day, seven days per week NOC in the United States
that allows for continuous monitoring of our international network, managing of
traffic, and customer problem resolution. Back-up operating facilities manned
by trained personnel are available at our offices in Herndon, Virginia and
Cambridge, England in the event the U.S. NOC experiences service interruptions
or other difficulties. We have recently opened our European Technical Center in
Switzerland as a second NOC with global capabilities equivalent to those in the
U.S. NOC. Furthermore, we have commenced construction of a third NOC in Seoul,
Republic of Korea.
Sales and Marketing
We have built a multi-channel sales and marketing infrastructure throughout
the U.S., Canada, Europe, Asia and Latin America in an effort to respond
effectively to the growing opportunities in the business Internet market. We
seek to attract and retain customers by offering our services and products
through our direct sales force and our authorized reseller and referral program
and by seeking to forge strategic relationships with selected
telecommunications carriers. We believe that this multi-channel approach will
enable us to utilize the technical skills and experience of our direct sales
force to penetrate our targeted customer base while utilizing the potentially
greater sales and marketing resources of the resellers, referral sources and
companies with which we have strategic alliances to offer our services and
products to a broader and more diverse potential customer base.
Direct Sales. We have built a direct sales force, which, as of September 30,
1999, consisted of approximately 1,000 individuals (more than half of whom were
employed outside of the U.S.) who typically have a strong Internet technical
background and knowledge of potential applications of the Internet to meet the
critical needs of targeted business customers. Direct sales tactics include
direct contacts with targeted ISPs and
<PAGE>
potential significant corporate accounts by our sales representatives and
systems engineers, inbound and outbound telemarketing, direct mail efforts,
seminars and trade show participation. We have developed programs to attract
and train high quality, motivated sales representatives who, in addition to
having strong Internet technical skills and knowledge of potential applications
of the Internet, have consultative sales experience. These programs include
technical sales training, consultative selling technique training, sales
compensation plan development and sales representative recruiting profile
identification. Sales representatives from our U.S. and international
operations jointly attend training programs in order to ensure an integrated
sales approach domestically and internationally.
Reseller and Referral Program. We have forged an authorized reseller and
referral program with selected telecommunications service companies, equipment
suppliers, networking service companies, systems integrators and computer
retailers. This program, through which we have established as of September 30,
1999 approximately 2,500 arrangements, affords us an indirect distribution
mechanism in our targeted markets and is designed to enable us to utilize the
potentially greater sales and marketing resources of the resellers and referral
sources to offer our services and products to a broader and more diverse
potential customer base. Participants in our reseller and referral program
include Hewlett-Packard Company, a provider of computer hardware and networking
products. We provide training and ongoing support to the sales representatives
of companies with which we have reseller and referral relationships in order to
strengthen the sales representatives' knowledge of our services and products
and brand loyalty to us. We believe that the reseller and referral program has
enabled us to achieve greater market reach with reduced overhead costs and to
use the reseller and referral sources to assist in the delivery of complete
solutions to meet customer needs.
Strategic Alliances. We seek to establish strategic alliances with selected
telecommunications carriers which may afford us access to recurring revenue
from the carriers' customer base, while enabling the carriers to offer their
customers an integrated package of telecommunications and Internet services and
products. We also formed an alliance with the Baltimore Ravens of the National
Football League pursuant to which, among other things, we have the right to
develop a Web site and provide related Internet subscriber services for the
Baltimore Ravens. We believe that these strategic alliances may facilitate the
cost-effective acquisition of customers and increase utilization of our
network. It is anticipated that, in most cases, the companies with which we
have strategic alliances will offer our services and products on an unbranded
or co-branded basis or under only their own trademark. As with the reseller and
referral program, we provide training and ongoing support to the sales
representatives of companies with which we have strategic alliances in order to
strengthen the sales representatives' knowledge of our services and products
and brand loyalty to us.
Marketing. Our marketing program is intended to build national and local
strength and awareness of the PSINet brand. We use radio and print advertising
in targeted markets and publications to enhance awareness and acquire leads for
our direct sales team and companies with which we have resale, referral or
strategic alliance relationships. Our print advertisements are placed in trade
journals and special-interest publications. We employ public relations
personnel in-house and work with an outside public relations agency to provide
broad coverage in the Internet and computer networking fields. We also attempt
to create brand awareness by securing corporate sponsorship rights, such as our
acquisition of the naming rights to the NFL stadium of the Baltimore Ravens and
related sponsorship, promotion, advertising and marketing rights, and by
participating in industry trade shows such as Networld, Interop, InterNet World
and ISPCon, based on the size and vertical makeup of the trade show audience,
and relationships with industry groups and the media. We also use direct
mailings, telemarketing programs, Web marketing, co-marketing agreements and
joint promotional efforts to reach new corporate customers. We attempt to
retain our customers through active and responsive customer support as well as
by continually offering new value-added services.
Customers
We had, as of September 30, 1999, approximately 79,900 business customers,
including approximately 640 ISP customers. Our customers include businesses in
the aerospace, finance, communications, computer data processing and related
industries, governmental agencies and educational and research institutions, as
well as other ISPs.
<PAGE>
Customer Support
High quality customer service and support is critical to our objective of
retaining and developing our customers. We have made significant investments in
customer service personnel and systems that enhance customer care and service
throughout the complete customer life cycle from order entry and billing to
selling of value-added services. To ensure consistency in the quality and
approach to customer care, both domestic and international associates attend an
intensive technical training and certification program at our U.S. NOC. Our
U.S. NOC monitors and responds to customer needs by providing 24 hours per day,
seven days per week technical support and service. Our customer support group
utilizes a leading customer support trouble ticketing and workflow management
system from Remedy Corporation to track, route and report on customer service
issues. Network operations can remotely service customer connections to the
PSINet network. In addition, field service personnel are dispatched in the
event of an equipment failure that cannot be serviced remotely. As part of our
international expansion strategy, we have opened a fully redundant NOC in
Switzerland and have commenced construction of a third in Seoul, Republic of
Korea. In connection with our customer care initiatives, we seek to
continuously improve systems that increase productivity and enhance customer
satisfaction. We have recently reengineered our customer care program to
address the complex needs of our business customers and are scaling our
customer care resources to keep pace with projected increases in customer
requirements. By maintaining centralized support services, we seek to increase
operational efficiencies and enhance the quality, consistency and scalability
of customer care. We are currently in the process of implementing a new high
quality, cost-effective and scaleable billing system to replace our existing
system in order to provide customers on a global basis with uniform and easy-
to-understand invoicing.
We have designed our network to minimize the risk of system failure (fires,
storms, earthquakes, etc.), for instance, with redundant circuits among POPs to
allow traffic rerouting. In addition, we perform lab and field testing before
integrating new and emerging technology into the network, and we engage in
capacity planning. Nonetheless, we cannot assure you that we will not
experience failures or shutdowns relating to individual POPs or even
catastrophic failure of the entire network. Significant or prolonged system
failures or shutdowns could damage our reputation and result in the loss of
customers.
Acquisitions and Strategic Investments
As a key component of our growth strategy, in addition to our acquisition of
TNI we acquired 60 ISPs and related businesses from January 1, 1998 through
December 31, 1999, which gives us a presence in each of the 20 largest global
telecommunications markets. The aggregate amount of the purchase prices and
related payments for these acquisitions was approximately $1.4 billion,
exclusive of indebtedness assumed in connection with such acquisitions. Of such
amount, we have retained $80.9 million as of December 31, 1999 to secure
performance by certain sellers of indemnification or other contractual
obligations. In connection with these acquisitions, we acquired, among other
things, valuable technologies including some under development which we plan to
complete. In addition, we have entered into several non-binding letters of
intent for immaterial acquisitions pursuant to which we and the other parties
thereto have agreed to negotiate the terms and conditions of definitive
agreements relating to our acquisition of additional U.S. and non-U.S. ISPs. We
are also currently evaluating additional acquisitions as well. However, we
cannot assure you that we will successfully complete all or any of such
acquisitions currently subject to letters of intent or otherwise being
contemplated, or what the consequences thereof would be.
In general, we seek acquisition targets that, once integrated into our
existing operations, generally will be accretive to EBITDA. After we have
acquired an ISP, we typically act to generate economies of scale and cost
savings by eliminating redundant operations and network architecture and
migrating the acquired ISP's customers on to the PSINet network. Connecting an
acquired ISP's customers to our network typically entails minimal incremental
data communication costs and enables us to significantly reduce our transit
costs. We seek to generate cost savings by centralizing back office operations,
such as network monitoring, customer billing, human resources and accounting.
We also endeavor to realize efficiencies by consolidating an acquired ISP's
purchasing, product development and marketing and sales operations into our
established programs. We believe
<PAGE>
this integration of operations improves the quality, breadth, consistency and
scaleability of the services and products offered to customers of acquired
ISPs. We believe that our entrepreneurial environment is attractive to and
helps us retain key employees of acquired ISPs.
As part of our long-term growth strategy, we enter into strategic
relationships with and invest in companies in the Internet and
telecommunications industries. The companies that we invest in can range from
the "seed capital" or early stages of their development to the early stage
public companies. Our investments typically range from approximately $200,000
to $5 million. We seek to establish relationships with companies that may
provide us access to services and technologies that we believe are promising
and consistent with our business plan. This allows us to benefit from these
relationships without incurring the time and expense of developing these
services and technologies ourselves. Through these arrangements we seek to
establish mutually supportive and beneficial relationships with these
companies. The terms of these transactions are comparable to other venture
capital transactions of similar size and involve the same risks and
uncertainties.
Competition
The market for Internet connectivity and related services is extremely
competitive. We anticipate that competition will continue to intensify as the
use of the Internet grows. The tremendous growth and potential market size of
the Internet access market has attracted many new start-ups as well as existing
businesses from different industries.
We believe that a reliable international network, knowledgeable salespeople
and the quality of technical support currently are the primary competitive
factors in our targeted market and that price is usually secondary to these
factors.
Our current and prospective competitors include, in addition to other
national, regional and local ISPs, long distance and local exchange
telecommunications companies, cable television, direct broadcast satellite,
wireless communications providers and on-line service providers. While we
believe that our network, products and customer service distinguish us from
these competitors, some of these competitors have significantly greater market
presence, brand recognition, and financial, technical and personnel resources
than we do.
ISPs. According to industry sources, there were over 6,700 ISPs in the
United States and Canada in 1998, consisting of national, regional and local
providers. Our current primary competitors include other ISPs with a
significant national presence which focus on business customers, such as UUNet
Technologies, Inc., GTE Internetworking (formerly BBN), Concentric Network and
DIGEX. While we believe that our level of customer service and support and
target market focus distinguish us from these competitors, many of these
competitors have greater market presence, brand recognition, and financial,
technical and personnel resources than us. We also compete with unaffiliated
regional and local ISPs in our targeted geographic regions.
Telecommunications Carriers. We compete with all of the major long distance
companies, also known as interexchange carriers, including AT&T, MCIWorldCom,
Sprint and Cable & Wireless/IMCI, which also offer Internet access services.
The recent sweeping reforms in the federal regulation of the
telecommunications industry have created greater opportunities for local
exchange carriers, including the regional Bell operating companies, to enter
the Internet connectivity market. We believe that there is a move toward
horizontal integration through acquisitions of, joint ventures with, and the
wholesale purchase of connectivity from ISPs to address the Internet
connectivity requirements of the current business customers of long distance
and local carriers. We expect to experience increased competition from the
traditional telecommunications carriers. Many of these telecommunications
carriers may have the ability to bundle Internet access with basic local and
long distance
<PAGE>
telecommunications services. This bundling of services may have an adverse
effect on our ability to compete effectively with the telecommunications
providers and may result in pricing pressure on us that could have a material
adverse effect on our business, financial condition and results of operations.
Cable Companies, Direct Broadcast Satellite and Wireless Communications
Companies. Many of the major cable companies have announced that they are
exploring the possibility of offering Internet connectivity, relying on the
viability of cable modems and economical upgrades to their networks.
Continental Cablevision, Inc., Tele-Communications, Inc. (TCI) and At Home
Corporation (@Home) have announced trials to provide Internet cable service to
their residential customers in select areas. Cable companies, however, are
faced with large-scale upgrades of their existing plant equipment and
infrastructure in order to support connections to the Internet backbone via
high-speed cable access devices. Additionally, their current subscriber base
and market focus is residential which requires that they partner with business-
focused providers or undergo massive sales and marketing and network
development efforts in order to target the business sector. Several
announcements also recently have been made by other alternative service
companies approaching the Internet connectivity market with various wireless
terrestrial and satellite-based service technologies. These include Hughes
Network Systems' DirecPC product that provides high-speed data through direct
broadcast satellite technology; CAI Wireless Systems Inc.'s announcement of a
multichannel multipoint distribution service, or MMDS, wireless cable operator
launching data services via 2.5 to 2.7 GHz and high-speed wireless modem
technology; Cellularvision's announcement that it is offering Internet access
via high-speed wireless local multipoint distribution service, or LMDS,
technology; and WinStar Communications, a 38 GHz radio company that wholesales
its network capacity to other carriers and now offers high-speed Internet
access to business customers. We believe that there is a trend toward
horizontal integration involving cable companies through acquisitions or joint
ventures between cable companies and telecommunications carriers. The
acquisition of TCI by AT&T and AT&T's proposed acquisition of MediaOne are
indicative of this trend.
On-line Service Providers. The dominant on-line service providers, including
Microsoft Network and America Online, Incorporated, have entered the Internet
access business by engineering their current proprietary networks to include
Internet access capabilities. American Online's plans to acquire Time Warner,
MCIWorldCom's recently announced plans to merge with Sprint, and Nextlink
Communications, recently announced plans to acquire Concentric Network
Corporation are indicative of this trend. Accordingly, we expect that we will
experience increased competition from the traditional telecommunications
carriers. We compete to a lesser extent with these service providers, which
currently are primarily focused on the consumer marketplace and offer their own
content, including chat rooms, news updates, searchable reference databases,
special interest groups and shopping. However, America Online's acquisition of
Netscape Communications Corporation and related strategic alliance with Sun
Microsystems will enable it to offer a broader array of IP-based services and
products that could significantly enhance its ability to appeal to the business
marketplace and, as a result, compete more directly with us. While CompuServe
has announced it also will target Internet connectivity for the small to
medium-sized business market, this will require a significant transition from a
consumer market focus to a business market focus.
We believe that our ability to attract business customers and to market
value-added services is a key to our future success. However, we cannot assure
you that our competitors will not introduce comparable services or products at
similar or more attractive prices in the future or that we will not be required
to reduce our prices to match competition. Recently, many competitive ISPs have
shifted their focus from individual customers to business customers. Moreover,
we cannot assure you that more of our competitors will not shift their focus to
attracting business customers, resulting in even more competition for us. We
cannot assure you that we will be able to offset the effects of any such
competition or resulting price reductions. Increased competition could result
in erosion of our market share and could have a material adverse effect on our
business, financial condition and results of operations.
Suppliers
Like other companies in our business, most of our contracts with suppliers
are short-term. Third parties provide our leased-line connections or bandwidth.
Some of these suppliers are or may become competitors of
<PAGE>
ours, and such suppliers are not subject to any contractual restrictions upon
their ability to compete with us. Changes in their pricing structures, or
failure to or delay in delivering bandwidth to us, or to provide operations,
maintenance and other services with respect to such bandwidth in a timely or
adequate fashion could adversely affect us.
We are also dependent on third party suppliers of hardware components.
Although we attempt to maintain a minimum of two vendors for each required
product, some components are currently available from only one source. We have
from time to time experienced delays in the receipt of hardware components and
telecommunications facilities, including delays in delivery of Primary Rate
Interface, or PRI, telecommunications facilities, which connect dial-up
customers to our network. A failure by a supplier to deliver quality products
on a timely basis, or the inability to develop alternative sources if and as
required, could result in delays and have an adverse effect on us.
As a result of the increase in the number of competitors and the vertical
and horizontal integration in the industry, we currently encounter and expect
to continue to encounter significant pricing pressure and other competition.
Advances in technology as well as changes in the marketplace and the regulatory
environment are constantly occurring, and we cannot predict the effect that
ongoing or future developments may have on us or on the pricing of our products
and services. Increased price or other competition could result in erosion of
our market share and could have a material adverse effect on our business,
financial condition and results of operations. We cannot assure you that we
will have the financial resources, technical expertise or marketing and support
capabilities to continue to compete successfully.
Proprietary Rights
Our success and ability to compete is dependent in part upon our technology
and proprietary rights, although we believe that our success is more dependent
upon our technical expertise than our proprietary rights. We rely on a
combination of copyright, trademark and trade secret laws and contractual
restrictions to establish and protect our technology. We cannot assure you that
the steps taken by us will be adequate to prevent misappropriation of our
technology or that our competitors will not independently develop technologies
that are substantially equivalent or superior to our technology. We are also
subject to the risk of adverse claims and litigation alleging infringement of
the intellectual property rights of others.
Regulatory Matters
The following summary of regulatory developments and legislation is not
complete. It does not describe all present and proposed federal, state, local
and foreign regulation and legislation affecting the ISP and telecommunications
industries. Existing and proposed laws and regulations are currently subject to
judicial proceedings, legislative hearings, and administrative proposals that
could change, in varying degrees, the manner in which our industries operate.
We cannot predict the outcome of these proceedings or their impact upon the ISP
and telecommunications industries or upon us.
In recent years there have been a number of U.S. and foreign legislative and
other initiatives seeking to control or affect the content of information
provided over the Internet. Some of these initiatives would impose criminal
liability upon persons sending or displaying, in a manner available to minors,
obscene or indecent material or material harmful to minors. Liability would
also be imposed on an entity knowingly permitting facilities under its control
to be used for such activities. These initiatives may decrease demand for
Internet access, chill the development of Internet content, or have other
adverse effects on Internet access providers, including us.
Both the provision of Internet access service and the provision of
underlying telecommunications services are affected by federal, state, local
and foreign regulation. The FCC exercises jurisdiction over all facilities of,
and services offered by, telecommunications carriers in the U.S. to the extent
that they involve the provision, origination or termination of jurisdictionally
interstate or international communications. The state regulatory
<PAGE>
commissions retain jurisdiction over the same facilities and services to the
extent they involve origination or termination of jurisdictionally intrastate
communications. In addition, as a result of the passage of the
Telecommunications Act of 1996, which we refer to as the 1996 Act, state and
federal regulators share responsibility for implementing and enforcing the
domestic pro-competitive policies of the 1996 Act. In particular, state
regulatory commissions have substantial oversight over the provision of
interconnection and non-discriminatory network access by ILECs. Municipal
authorities generally have some jurisdiction over access to rights of way,
franchises, zoning and other matters of local concern.
Our Internet operations are not currently subject to direct regulation by
the FCC or any other U.S. governmental agency, other than regulations
applicable to businesses generally. However, the FCC continues to review its
regulatory position on the usage of the basic network and communications
facilities by ISPs. Although in an April 1998 Report, the FCC determined that
ISPs should not be treated as telecommunications carriers and therefore should
not be regulated, it is expected that future ISP regulatory status will
continue to be uncertain. Indeed, in that report, the FCC concluded that
certain services offered over the Internet, such as phone-to-phone IP
telephony, may be functionally indistinguishable from traditional
telecommunications service offerings, and their non-regulated status may have
to be re-examined. Our Internet operations outside the U.S. are subject to
direct regulation through licensing from foreign governmental agencies.
Changes in the regulatory structure and environment affecting the Internet
access market, including regulatory changes that directly or indirectly affect
telecommunications costs or increase the likelihood of competition from RBOCs
or other telecommunications companies, could have an adverse effect on our
business. Although the FCC has decided not to allow local telephone companies
to impose per-minute access charges on ISPs, and that decision has been upheld
by the reviewing court, further regulatory and legislative consideration of
this issue is likely. In addition, some telephone companies are seeking relief
through state regulatory agencies. We believe that such rules, if adopted, are
likely to have a greater impact on consumer-oriented Internet access providers
than on business-oriented ISPs, such as us. Nonetheless, the imposition of
access charges would affect our costs of serving dial-up customers and could
have a material adverse effect on our business, financial condition and results
of operations.
In a recent development, the FCC adopted rules that direct ILECs to share
their telephone lines with providers of high speed Internet access and other
data services. This ruling will enable competitive carriers to provide DSL-
based services over the same telephone lines simultaneously used by ILECs to
provide basic telephone service. The new rules are expected to place
competitive carriers on a more equal footing with ILECs in the offering of
advanced telecommunications services, including DSL services.
In addition to our Internet activities, we have recently focused attention
on acquiring telecommunications assets and facilities, involving regulated
activities. Our wholly-owned subsidiary, PSINetworks Company, has received an
international Section 214 authorization from the FCC to provide global
facilities-based and global resale telecommunications services, subjecting it
to regulations as a non-dominant international carrier including the filing of
reports with the FCC. PSINetworks Company also received a Type I facilities
license from the Japanese telecommunications regulatory authority. In addition,
our wholly-owned subsidiary, PSINet Telecom UK Limited, has received an
international facilities license from DTI and OFTEL, the responsible
telecommunications regulatory bodies in the United Kingdom. Generally, the FCC
and OFTEL have chosen not to closely regulate the charges or practices of non-
dominant carriers, such as our subsidiaries. Nevertheless, these regulatory
agencies act upon complaints against such carriers for failure to comply with
statutory obligations or with the rules, regulations and policies of such
regulatory agencies. These regulatory agencies also have the power to impose
more stringent regulatory requirements on us and to change our regulatory
classification. We believe that, in the current regulatory environment, such
regulatory agencies are unlikely to do so. As we enter new markets, or acquire
regulated companies, we anticipate obtaining similar licenses as required by
applicable telecommunications rules and regulations in order to acquire and
maintain telecommunications assets and facilities in such countries.
<PAGE>
The laws relating to the provision of telecommunications services in
countries other than the U.S., and in multinational organizations such as the
International Telecommunications Union, are also undergoing a process of
development. As we continue our program of acquisition and expansion into
international markets, these laws will have an increasing impact on our
operations. There can be no assurance that new or existing laws or regulations
will not have a material adverse effect on us.
Our subsidiaries have also received competitive local exchange carrier, or
CLEC, certification in New York, Virginia, Colorado, California, Texas and
Maryland. We are considering the financial, regulatory and operational
implications of also becoming a CLEC in certain other states. The 1996 Act
requires CLECs not to prohibit or unduly restrict resale of their services; to
provide dialing parity, number portability, and nondiscriminatory access to
telephone numbers, operator services, directory assistance, and directory
listings; to afford access to poles, ducts, conduits, and rights-of-way; and to
establish reciprocal compensation arrangements for the transport and
termination of telecommunications traffic. In addition to federal regulation of
CLECs, the states also impose regulatory obligations upon CLECs. While these
obligations vary from state to state, most states require CLECs to file a
tariff for their services and charges; require CLECs to charge just and
reasonable rates for their services, and not to discriminate among similarly-
situated customers; to file periodic reports and pay certain fees; and to
comply with certain services standards and consumer protection laws. As a
provider of domestic basic telecommunications services, particularly
competitive local exchange services, we could become subject to further
regulation by the FCC and/or another regulatory agency, including state and
local entities.
The 1996 Act has caused fundamental changes in the markets for local
exchange services. In particular, the 1996 Act and the FCC rules issued
pursuant to it mandate competition in local markets and require that ILECs
interconnect with CLECs. Under the provisions of the 1996 Act, the FCC and
state public utility commissions share jurisdiction over the implementation of
local competition: the FCC was required to promulgate general rules and the
state commissions were required to arbitrate and approve individual
interconnection agreements. The courts have generally upheld the FCC in its
promulgation of rules, including a January 25, 1999 U.S. Supreme Court ruling
which determined that the FCC has jurisdiction to promulgate national rules in
pricing for interconnection.
An important issue for CLECs is the right to receive reciprocal compensation
for the transport and termination of Internet traffic. We believe that, under
the 1996 Act, CLECs are entitled to receive reciprocal compensation from ILECs.
However, some ILECs have disputed payment of reciprocal compensation for
Internet traffic, arguing that ISP traffic is not local traffic. Most states
have required ILECs to pay CLECs reciprocal compensation. However, in October
1998, the FCC determined that dedicated Digital Subscriber Line service is an
interstate service and properly tariffed at the interstate level. In February
1999, the FCC concluded that at least a substantial portion of dial-up ISP
traffic is jurisdictionally interstate. The FCC also concluded that its
jurisdictional decision does not alter the exemption from access charges
currently enjoyed by ISPs. The FCC established a proceeding to consider an
appropriate compensation mechanism for interstate Internet traffic. Pending the
adoption of that mechanism, the FCC saw no reason to interfere with existing
interconnection agreements and reciprocal compensation arrangements. The FCC
order has been appealed, and oral arguments are expected to be heard in early
2000. In light of the FCC's order, state commissions that previously addressed
this issue and required reciprocal compensation to be paid for ISP traffic may
reconsider and may modify their prior rulings. Several incumbent LECs are
seeking to overturn prior orders that they claim are inconsistent with the
FCCs' February 1999 order. Relief sought could include repayment of reciprocal
compensation amounts previously paid by incumbent LECs. Recently, the
Massachusetts regulatory authority vacated its earlier decision requiring such
payments, although that decision may be subject to appeals or reconsideration.
In addition, at least one incumbent LEC has filed suit seeking a refund from
another carrier of reciprocal compensation which the incumbent LEC has paid to
that carrier. That suit was dismissed by the United States District Court for
lack of subject matter jurisdiction. Another incumbent LEC has sought to escrow
reciprocal compensation payments to carriers. In response to these and other
challenges, some state commissions have opened inquiries as to the appropriate
compensation mechanisms in the context of ISP
<PAGE>
traffic. Of the state commissions that have considered the issue since the
FCC's February 1999 order, most, but not all, of these states have upheld the
requirement to pay reciprocal compensation of ISP traffic. We cannot assure you
that any future court, state regulatory or FCC decision on this matter will
favor our position. An unfavorable result may have an adverse impact on our
potential future revenues as a CLEC, as well as increasing our costs for PRIs
generally.
As we become a competitor in local exchange markets, we will become subject
to state requirements regarding provision of intrastate services. This may
include the filing of tariffs containing rates and conditions, and regulation
of rates charged for our services. As a new entrant, without market power, we
expect to face a relatively flexible regulatory environment. Nevertheless, it
is possible that some states could require us to obtain the approval of the
public utilities commission for the issuance of debt or equity or other
transactions which would result in a lien on our property used to provide
intrastate services.
Employees
We had approximately 4,053 full-time employees as of December 31, 1999.
Properties
Our principal executive offices are in Herndon, Virginia in 46,000 square
feet of leased office space. We occupy this space under four leases, at market
rates, which expire in September 2003 and include five-year renewal options. We
also lease office space and/or hosting capacity in Reston, Virginia, Troy, New
York, New York City, Atlanta, Los Angeles, Toronto, and Tokyo and a number of
other cities. in which we operate. We expect to purchase 205,000 square feet of
office space in Loudoun, Virginia which will comprise our new corporate
headquarters and will replace most of our existing leased facilities in
Virginia. We also own facilities in Amsterdam and Switzerland. In addition, we
have purchased sites in certain metropolitan areas where we plan to construct
Internet and eCommerce hosting centers. We believe that these facilities are
adequate for our current needs.
Legal Proceedings
We are not a party to any legal proceedings which we believe would, if
adversely determined, have a material adverse effect on us.
From time to time, we receive claims that we have infringed other parties'
proprietary rights. While we do not believe that we have infringed rights of
others, we cannot assure you that third parties will not assert infringement
claims in the future. Such claims may require that we enter into license
arrangements or may result in protracted and costly litigation, regardless of
the merits of such claims. We cannot assure you that any necessary licenses
will be available or that, if available, such licenses can be obtained on
reasonable terms.
<PAGE>
EXHIBIT 99.4
GLOSSARY
Set forth below are definitions of some of the technical terms used in this
offering memorandum.
ATM.......................... Asynchronous Transfer Mode. A communications
standard that provides for information transfer
in the form of fixed-length cells of 53 bytes
each. The ATM format can be used to deliver
voice, video and data traffic at varying rates.
Backbone..................... A centralized high-speed network that
interconnects smaller, independent networks.
Bandwidth.................... The number of bits of information which can
move over a communications medium in a given
amount of time; the capacity of a
telecommunications circuit/network to carry
voice, data and video information. Typically
measured in Kbps and Mbps. Bandwidth from
public networks is typically available to
business and residential end-users in
increments from 56 Kbps to T-3.
CLEC......................... Competitive local exchange carrier. A category
of telephone service provider that offers
services similar to the former monopoly local
telephone company. A CLEC may also provide
other types of telecommunications.
CSU/DSU...................... Channel Service Unit/Data Service Unit. A
device used in digital transmission for
connecting data terminal equipment, such as a
router, to a digital transmission circuit or
service.
Collocation.................. The ability of an entity which is not the local
phone company (i.e., another local or long
distance telecommunications company or an end-
user) to put their equipment in the local phone
company's offices and join their equipment to
the local phone company's equipment.
Dark fiber................... Fiber which does not have connected to it the
electronics required to transmit data on such
fiber.
Dedicated circuits........... Telecommunications lines dedicated or reserved
for use by particular customers along
predetermined routes.
Dial-up line................. Communications circuit that is established by a
switched-circuit connection using the telephone
network.
DNS.......................... Domain Name System. Distributed name system
used in the Internet.
DSL.......................... Digital Subscriber Line. A generic name for a
family of evolving digital services to be
provided by local telephone companies to their
local subscribers. The DSL can carry both voice
and data signals at the same time, in both
directions, as well as the signaling date used
for call information and customer data.
E-1.......................... The European equivalent of the North American
1.544 Mbps T-1, except that E-1 carries
information at the rate of 2.048 megabits per
second.
G-1
<PAGE>
eCommerce.................... Electronic commerce using electronic
information technologies to conduct business
between trading partners, using or not using
the Internet.
Electronic mail or e-mail.... An application that allows a user to send or
receive text messages to or from any other user
with an Internet address, commonly termed an e-
mail address.
56 Kbps...................... Equivalent to a single high-speed telephone
service line; capable of transmitting one voice
call or 56 Kbps of data. Currently in
widespread use by medium and large businesses
primarily for entry level high-speed data and
very low-speed video applications.
Frame relay.................. A communications standard that is optimized for
efficient switching of variable-length data
packets.
Gbps......................... Gigabits per second. A measure of digital
transmission rates. One gigabit equals 1,000
megabits.
Host......................... A computer with direct access to the Internet.
HTML......................... Hypertext Markup Language used to produce Web
pages. It is a method of presenting information
where selected words can be "expanded" to
provide other information about the word.
ILEC......................... Incumbent local exchange carrier. The local
exchange carrier that was the monopoly carrier,
prior to the opening of local exchange services
to competition.
Internet..................... An open global network of interconnected
commercial, educational and governmental
computer networks which utilize TCP/IP, a
common communications protocol.
Internetworking.............. The process of communicating between and among
networks.
Intranet..................... A TCP/IP based network and Web site which is
securely isolated from the Internet and serves
the internal needs of a company or institution.
IP........................... Internet protocol.
IRUs......................... Indefeasible rights of use in network bandwidth
capacity.
ISDN......................... Integrated services digital network. A network
that provides digital voice and data services
through a single medium.
ISP.......................... Internet service provider.
Kbps......................... Kilobits per second. A measure of digital
information transmission rates. One kilobit
equals 1,000 bits of digital information.
Normally, 10 bits are used for each alpha-
numeric character.
LAN.......................... Local area network. A data communications
network designed to interconnect personal
computers, workstations, minicomputers, file
servers and other communications and computing
devices within a localized environment.
G-2
<PAGE>
LEC.......................... Local exchange carrier. A telecommunications
company that provides telecommunications
services in a geographic area in which calls
generally are transmitted without toll charges.
Mbps......................... Megabits per second. A measure of digital
information transmission rates. One megabit
equals 1,000 kilobits.
Modem........................ A device for transmitting information over an
analog communications channel such as a POTS
telephone circuit.
Network...................... A collection of distributed computers which
share data and information through inter-
connected lines of communication.
NOC.......................... Network operation center.
OC-3......................... OC-3 SONET high capacity optical
telecommunications line capable of transmitting
data at 155.52 Mbps.
OC-12........................ OC-12 SONET high capacity optical
telecommunications line capable of transmitting
data at 622.08 Mbps.
OC-48........................ OC-48 SONET high capacity optical
telecommunications line capable of transmitting
data at 2488.32 Mbps.
OC-48 Equivalent............. One OC-48, four OC-12s, 16 OC-3s or 48 DS-3s.
OC-48 Equivalent Mile........ One Route Mile of OC-48 capacity, four Route
Miles of OC-12 capacity, 16 Route Miles of OC-3
capacity or 48 Route Miles of DS-3 capacity.
On-line services............. Commercial information services that offer a
computer user access through a modem to a
specified slate of information, entertainment
and communications menus. These services are
generally closed systems, although many are now
offering full Internet access.
Open systems................. A networking system which is based upon non-
proprietary protocols (i.e., protocols which
are in the public domain).
Peering...................... The commercial practice under which nationwide
ISPs exchange each other's traffic, in most
cases, without the payment of settlement
charges.
POPs......................... Points-of-presence. An interlinked group of
modems, routers and other computer equipment,
located in a particular city or metropolitan
area, that allows a nearby subscriber to access
the Internet through a local telephone call or
using a short-distance permanent data circuit.
POS.......................... Point of sale or point of service. The location
at which retail sales are made or services are
provided.
POTS......................... Plain old telephone service. Standard analog
telephone service used by many telephone
companies throughout the United States.
PRI.......................... Primary rate interface. ISDN interface to
primary rate access.
G-3
<PAGE>
Protocol..................... A formal description of message formats and the
rules two or more machines must follow in order
to communicate.
RBOC......................... Regional bell operating company. One of the
LECs created by the divestiture of the local
exchange business by AT&T. These include
BellSouth, Bell Atlantic, US West and SBC.
Router....................... A device that receives and transmits data
packets between segments in a network or
different networks.
Route Mile................... One mile of the actual geographic length of the
high capacity telecommunications fiber route.
Server....................... Software that allows a computer to offer a
service to another computer. Other computers
contact the server program by means of matching
client software. The term also refers to the
computer on which server software runs.
SMDS......................... Switched multimegabit data service. A public
packet-switching service offered by telephone
companies in many major metropolitan areas.
Packet-switching is a method of delivering
voice and data traffic.
SONET........................ Synchronous optical network.
STM-1........................ A digital transmission link with a capacity of
155 Mbps.
TCP/IP....................... Transmission control protocol/Internet
protocol. A compilation of network and
transport-level protocols that allow computers
with different architectures and operating
system software to communicate with other
computers on the Internet.
T-3 or DS-3.................. A data communications line capable of
transmitting data at 45 Mbps.
Terabit...................... One terabit is equal to a million million bits.
UNIX......................... A computer operating system for workstations
and personal computers and noted for its
portability and communications functionality.
Virtual Private Network...... A public circuit-switched data service offered
by IXCs and making use of the public switched
telephone network. Circuit switching refers to
the process of setting up and keeping a circuit
open between two or more users, such that the
users have exclusive and full use of the
circuit until the connection is released. The
public switched telephone network refers to the
worldwide voice telephone network accessible to
all those with telephone and access privileges.
VOIP......................... Voice over internet protocol.
WAN.......................... Wide area network. A network spanning a wide
geographic area.
G-4
<PAGE>
Web or World Wide Web........ A network of computer servers that uses a
special communications protocol to link
different servers throughout the Internet and
permits communication of graphics, video and
sound.
Web server................... The computer system that runs Web software,
used to create custom Web sites, Web pages, and
home pages.
Web sites or Web pages....... A site located on the Web, written in the HTML
or SGML language.
xDSL......................... A term referring to a variety of new digital
subscriber line technologies. Some of these
varieties are asymmetric with different data
rates in the downstream and upstream
directions. Others are symmetric. Downstream
speeds range from 384 kilobits (or "SDSL") to
1.5-8 Mbps (or "ADSL").
G-5
