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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR THE FISCAL YEAR ENDED: MAY 31, 2002
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[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File No. 1-13436
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TELETOUCH COMMUNICATIONS, INC.
(Name of registrant in its charter)
Delaware 75-2556090
(State or other jurisdiction (IRS Employer
of incorporation or organization) Identification Number)
110 N. College, Suite 200, Tyler, Texas 75702 (903) 595-8800
(Address and telephone number of principal executive offices)
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Securities registered pursuant to Section 12(b) of the Exchange Act: Common
Stock, $0.001 par value, listed on the American Stock Exchange.
Securities registered pursuant to Section 12(g) of the Exchange Act: None.
Indicate by check mark whether the registrant has (1) filed all reports required
to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding twelve months (or for such shorter period that the registrant was
required to file such reports), and (2) has been subject to such filing
requirements for the past 90 days. Yes [X] No [_]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [_]
As of August 26, 2002, the aggregate market value of the voting stock held
by non-affiliates of the registrant, based on the closing price on that date,
was approximately $839,468. As of August 26, 2002, the registrant had
outstanding 4,792,650 shares of Common Stock, 15,000 shares of Series A
Preferred Stock, and 85,394 shares of Series B Preferred Stock.
The information required to be included in Part III hereof is incorporated
herein from the issuer's definitive proxy, which is expected to be filed within
one hundred twenty days of the last fiscal year end.
INDEX TO FORM 10-K
of
TELETOUCH COMMUNICATIONS, INC.
PAGE NO.
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PART I .................................................................................... 1
Item 1. Business ...................................................................... 1
Item 2. Description of Property ....................................................... 9
Item 3. Legal Proceedings ............................................................. 9
Item 4. Submission of Matters to a Vote of Security Holders ........................... 9
PART II ................................................................................... 10
Item 5. Market for Registrant's Common Equity and Related Shareholder Matters ......... 10
Item 6. Selected Consolidated Financial Data .......................................... 11
Item 7. Management's Discussion and Analysis of Results of Operations
and Financial Condition ....................................................... 12
Item 7a. Quantitative and Qualitative Disclosures about Market Risk .................... 23
Item 8. Financial Statement and Supplementary Data .................................... 23
Item 9. Changes In and Disagreements with Accountants On Accounting
and Financial Disclosure ...................................................... 23
PART III .................................................................................. 24
Item 10. Directors and Executive Officers of the Registrant ............................ 24
Item 11. Executive Compensation ........................................................ 24
Item 12. Security Ownership of Certain Beneficial Owners and Management ................ 24
Item 13. Certain Relationships and Related Transactions ................................ 24
PART IV ................................................................................... 25
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K .............. 25
Statements contained or incorporated by reference in this document that
are not based on historical fact are "forward-looking statements" within the
meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking
statements may be identified by use of forward-looking terminology such as
"may", "will", "expect", "estimate", "anticipate", "continue", or similar terms,
variations of those terms or the negative of those terms. Forward-looking
statements are based upon numerous assumptions about future conditions that
could prove not to be accurate. Actual events, transactions and results may
differ materially from the anticipated events, transactions and results
described in such statements. The Company's ability to consummate such
transactions and achieve such events or results is subject to certain risks and
uncertainties.
PART I
Item 1. Business
General
Teletouch Communications, Inc. ("Teletouch" or the "Company") was
incorporated under the laws of the State of Delaware in July 1994 and is
headquartered in Tyler, Texas. Teletouch, or one of its several predecessors,
has operated two-way mobile communications services and telemessaging services
in East Texas for over 30 years. References to Teletouch or the Company as used
throughout this document means Teletouch Communications, Inc. or Teletouch
Communications, Inc. and its subsidiaries, as the context requires.
Teletouch provides telecommunications services in non-major
metropolitan areas and communities. Currently the Company provides services in
Alabama, Arkansas, Louisiana, Mississippi, Missouri, Oklahoma, Texas, Tennessee
and Florida. The Company has 47 sales offices in those states. Through
inter-carrier arrangements, Teletouch also provides nationwide and expanded
regional coverage.
Teletouch has experienced a substantial decline in the paging business
over the last year, which is partially offset by the growth in other
communications services offered. At May 31, 2002 the Company had approximately
271,100 pagers in service as compared to approximately 354,700 and 411,700 at
May 31, 2001 and May 31, 2000, respectively. For fiscal year 2002 the Company
had total revenues of $46.6 million as compared to $56.3 million and $56.6
million in fiscal years 2001 and 2000, respectively.
Teletouch's primary focus has been on pursuing a recapitalization of
its debt and certain equity securities. The Company succeeded in recapitalizing
its debt and certain equity securities in May 2002 and continues to follow its
overall business strategy of minimizing the level of customer attrition while
adding new products within all of its distribution channels to minimize the
impact of the loss in recurring revenues from its declining paging subscriber
base. The Company's management believes that the successful recapitalization of
its debt and certain equity securities will help generate sufficient future cash
flows to meet the Company's capital needs for the next fiscal year. Teletouch
believes its current markets continue to offer significant growth potential for
other wireless services. During the next two years, the Company intends to focus
most of its efforts on developing its newly offered telemetry services and
broadening its range of products sold in all channels of distribution. By
reducing overhead costs and focusing on customer service, the Company believes
that it can minimize the impact on operating margins while it develops
additional products and services with recurring revenue streams to replace the
losses from paging service revenue. Additionally, if the opportunity to acquire
other regional paging companies arises, the Company believes it can achieve
better operating results than those achieved by the businesses separately by
consolidating administrative functions, taking advantage
1
of economies of scale, and sharing common frequencies to offer existing
customers a wider area of paging coverage.
In May 2002, the Company completed a review of the financial
performance of its retail stores. This review resulted in the completion of a
Retail Restructuring Plan that concluded the need to close 22 of the Company's
66 locations and reduce 9 of the remaining locations to "Customer Service Only"
locations. As of May 31, 2002 the Company had completed the closure of 9 of its
retail locations leaving 57 locations open as of the end of fiscal 2002.
Locations selected for closure were not contributing to the Company's operating
income on a current basis. To evaluate the financial results on a current basis,
we excluded the recurring revenues from paging subscribers that were put on
service in prior periods. Locations selected to be reduced to "Customer Service
Only" locations were also not contributing to the Company's operating income,
although were supporting a sizable paging subscriber base that would not be
easily serviced from any other location. The purpose of the restructuring is to
reduce operating expenses while minimizing the impact on the recurring revenues
from the paging subscribers that were being serviced by the effected locations.
The Retail Restructuring Plan is to be complete by September 2002.
Paging Industry Background
In 1949 the Federal Communications Commission ("FCC") allocated a group
of radio frequencies for use in providing one-way and two-way mobile
communications services, effectively creating the paging industry. Since 1949,
the paging industry has been characterized by consolidation, substantial growth,
and technological change. In the early years, the paging industry was highly
fragmented, with a large number of small, local operators. Many of the firms
that entered the paging business during the first two decades of the industry
did so as a complement to their existing telephone answering service or two-way
radio communications sales and service businesses. The industry grew slowly as
the quality and reliability of equipment gradually improved and consumers began
to perceive the benefits of mobile communications. Further improvements in
equipment reliability and cost-effective technological innovations accelerated
the use of paging services in the 1970s.
Some of the paging industry's most significant technological
developments occurred in the 1980s. The digital display (numeric) pager was
introduced and quickly replaced tone and voice pagers as the most popular paging
product. In 1982, the FCC allocated additional frequencies which expanded
coverage areas and introduced competition into the market. More significant
technological developments occurred in the 1990s, including the advent of
two-way paging capabilities that do not require the use of traditional or
cellular telephones to return a page and cellular telephones that incorporate
paging capability.
Although the one-way paging industry's growth rate is difficult to
determine precisely, sources estimate that pagers in service grew at an annual
rate of between 20% and 30% for much of the early 1990s. At the end of 1996,
approximately 42 million pagers were in service in the United States and
approximately 6 million net new subscribers were added during 1997, resulting in
a growth rate of a much lower 14%. Since 1997 growth rates have declined and are
currently flat to slightly negative. Growth rates in the one-way paging industry
are expected to decline further in the foreseeable future. Factors contributing
to the paging industry's negative growth include: (i) expanding coverage of
other mobile communications networks; (ii) an increased consumer demand for
products capable of two-way mobile communications; (iii) the rapidly declining
costs of other mobile communications services such as cellular telephone
service; and (iv) technological advances in cellular equipment and services.
2
Three types of carriers have emerged in the paging industry: (i) large,
national paging companies; (ii) regional carriers, including Teletouch, that
operate in regional markets in the U.S. that can also offer service outside of
their home regions through a network of interconnections between their own
systems, a national firm, and/or other regional providers; and (iii) small,
single market operators.
The Company's Products and Markets
Paging Operations
Teletouch's paging network provides a one-way communications link to
its subscribers within a specified coverage area. Each subscriber is assigned a
distinct telephone number or personal identification number that a caller dials
to activate the subscriber's pager. When one of the Company's paging terminals
receives a telephone call for a subscriber, a radio signal is transmitted to the
subscriber's pager that then causes the pager to emit a tone, a vibration, or a
voice signal to alert the subscriber. Depending on the type of pager used, the
subscriber may respond directly to the caller using information displayed on the
pager or by calling a designated location or voice mail system to retrieve the
message. The advantage of paging over conventional telephone service is that a
pager's reception is not restricted to a single location. The advantage over
cellular telephones is that pagers are smaller, have a longer battery life, and
are substantially less expensive to use. Pagers may also be used in areas where
cellular telephone use is prohibited, such as hospitals, due to interference
with sensitive monitoring equipment. Some cellular subscribers use a pager along
with their cellular telephone to screen incoming calls and to lower the expense
of their cellular telephone service.
Teletouch currently provides four basic types of paging services:
numeric, alphanumeric, tone-only, and tone-plus-voice. Subscribers carry a
pocket-sized radio receiver (a pager) that is preset to monitor a designated
radio frequency and is activated by radio signals emitted from a transmitter
when a call is received. Numeric pagers display a caller's message that may
consist of an area code and telephone number or up to 12 digits of other numeric
information. Alphanumeric pagers allow subscribers to receive and store messages
consisting of both numbers and letters. With tone-only service, the subscriber's
pager produces an audible "beep" or vibration when activated, and
tone-plus-voice service causes a subscriber's pager to beep and then play a
brief voice message. Subscribers may be paged using traditional or cellular
telephones, computer software, alpha entry devices, or over the Internet from
the Company's web page. Teletouch is licensed by the FCC to transmit numeric,
alphanumeric, tone, and voice messages to pagers it either sells or leases to
customers
Numeric and alphanumeric paging services have almost completely
replaced Teletouch's tone-only or tone-plus-voice services. Today over half of
the Company's pagers in service are numeric pagers. Alphanumeric pagers, which
were introduced in the mid-1980s, constitute a smaller but increasing percentage
of the Company's subscriber base.
In March 2000, Teletouch signed a five-year agreement to market two-way
paging services through WebLink Wireless, Inc.'s nationwide network. This
agreement provides the Company with a broad suite of advanced messaging
services, such as Internet-based messaging and the transmission of two-way
wireless data to market to its customers.
Teletouch also offers its paging subscribers voice mail messaging and
Smartpager(R) services. When a subscriber uses voice mail in conjunction with
paging service and a caller leaves the subscriber a recorded message, the
subscriber is automatically paged. Voice mail employs sophisticated computer
technology that allows a subscriber to retrieve digitally recorded voice
messages 24 hours a day from any location by accessing the voice mail system
using a touch-tone telephone. The Company's voice mail systems provide complete
3
message privacy, allow for personalized message greetings, and enable voice
messages to be sent to a large group of people simultaneously.
Teletouch's Smartpager(R) service allows individuals to send an
alphanumeric page to a subscriber without any special software or equipment.
Subscribers are assigned a toll free number to give to friends, family, and
associates who can then call and leave messages with a Teletouch operator.
Operators, available 24 hours a day, immediately transmit these messages to
subscribers.
Paging companies traditionally distributed their services through
direct marketing and sales activities. In recent years additional distribution
channels evolved including: (i) carrier-operated stores; (ii) resellers, who
purchase paging services on a wholesale basis from carriers and resell those
services on a retail basis to their own customers; (iii) agents who solicit
customers for carriers and are compensated on a commission basis; and (iv)
retail outlets that often sell a variety of merchandise, including pagers and
other telecommunications equipment. Historically, most paging subscribers have
been business users with a much smaller percentage of the users being retail
consumers. Use of pagers by retail consumers has significantly declined over the
past several years. Increasingly, paging subscribers choose to purchase rather
than lease their pagers as equipment costs have decline. The Company expects
such trends to continue.
Teletouch's paging customers include various-sized companies with field
sales and service operations, individuals in occupations requiring substantial
mobility and the need to receive timely information. Teletouch is not dependent
upon any single or small group of customers for a material part of its overall
business.
Teletouch's sales strategy for its paging services is to concentrate on
business accounts who value continuity, quality, and personal service.
Historically, the Company leased pagers to a large percentage of its business
accounts. As the price of pagers declined, the Company has increasingly
emphasized pager sales over rentals. Teletouch offers its subscribers a high
level of technical support and provides a full range of dependable
communications devices and services.
The Company now markets all its paging products and services under the
Teletouch name. In order to access the broadest possible market, the Company
uses multiple paging distribution channels. These channels include (i)
Company-operated sales offices ("Retail Stores"), including mall and other
shopping center locations, that sell pagers to the consumer market; (ii) a
direct sales staff that concentrates on business accounts; and (iii) resellers,
who purchase pagers and paging services in bulk and resell them to their own
subscribers. The continuing decline in retail consumer demand for paging service
has virtually eliminated the Company's emphasis on retail stores as an outlet
for its paging services. Teletouch continues to market and sell a nominal amount
of paging services through its retail stores but has focused on expanding the
product lines offered available in these stores to include both cellular
products and other consumer electronics.
Cellular Operations
The Company currently offers both postpaid and prepaid cellular service
as an agent for other cellular carriers, including AT&T Wireless, Cingular
Wireless, Verizon, Telecorp Wireless ("SunCom") and Leap Wireless ("Cricket").
At year-end, the Company was offering either postpaid cellular, prepaid cellular
or both under one or more of its agent agreements in all of its retail stores.
Additionally, these cellular products are offered through the direct sales staff
to the Company's business paging customers.
Teletouch became an agent for Cricket in April 2000 and currently
offers its service in several major metropolitan areas in Tennessee, Arkansas
and Oklahoma and plans to offer the service in other markets in
4
which Teletouch has retail locations. The Cricket product provides unlimited
local wireless service for a flat monthly fee. Teletouch's continued success
selling the Cricket product has led the Company to open several retail stores
that focus almost exclusively on this product line.
To complement its cellular products and services, Teletouch began
offering prepaid long distance cards in April 2000. The Company offers its
cellular products and services through its retail stores and through its direct
sales staff. As with pagers, Teletouch focuses on selling rather than leasing
its cellular products.
In December 1998, Teletouch launched its own brand of prepaid cellular
telephone service, utilizing the resale of telecommunication service which it
buys at wholesale prices. In May 2001, the Company decided to discontinue sales
of its own brand of prepaid cellular service. These customers were either
transitioned to alternative cellular service under one of the Company's existing
agent agreements or their existing prepaid cellular service was disconnected by
December 2001.
Two-Way Radio Operations
Since 1963, Teletouch has been an authorized Motorola two-way radio
dealer in the East Texas area. The Company has locations in Tyler, Longview,
Nacogdoches, Lufkin, Livingston, and Huntsville Texas and services a large
percentage of the law enforcement and public safety agencies as well as other
industries in a ten-county area. Teletouch is currently a member of Motorola's
Pinnacle Club, a group of 700 preferred Motorola dealers.
On March 29, 2000, Teletouch acquired Eastex Communications, Inc., a
privately-held company headquartered in Nacogdoches, Texas. The acquisition of
Eastex has allowed Teletouch to launch 450 MHz Logic Trunked Radio ("LTR")
Passport-enabled service, a "Nextel-type" radio service, in eastern Texas.
Shortly before acquiring Eastex, Teletouch launched this service in its Tyler
and Longview markets.
LTR radio service is licensed for the 450 MHz spectrum and includes
voice, data, and voice mail capabilities. The LTR Passport-enabled service
includes "follow-me-roaming" features that are similar to the automatic handoff
of radio signals characteristic of cellular radio systems. The market for LTR
radio service includes customers desiring an upgrade in features and extended
roaming compared with traditional two-way radio service. LTR radio service is
also a cost-efficient communications alternative to cellular telephones since
LTR service is based on a fixed monthly fee per-radio versus per-minute cellular
charges.
Telemetry Operations
Wireless telemetry provides machine to machine or machine to people
communications, which enable immediate notification of specific events. Sale of
telemetric products and services provides Teletouch the opportunity to generate
recurring service revenue as well as realize positive earnings and cash flow on
the sale of equipment.
In November 2001, Teletouch entered the wireless telemetry market with
a product line branded "Tracker by Teletouch", which operates on the cellular
network in virtually all areas of the United States. The initial product
offering centered on fixed monitoring applications in the water/wastewater and
poultry industries. In February 2002, Teletouch increased its telemetry product
offering to include Tracker AVL, which monitors mobile assets using global
positioning satellites to help customers monitor and track their vehicles,
detached trailers and virtually any other mobile asset.
5
In July 2002, the Tracker product line was expanded to include a
satellite communications network in addition to the cellular network. This
provides more enhanced communications capability for large fleet operators and
trucking companies as well as products with more advanced fixed and mobile asset
monitoring capabilities, including the ability to operate on multiple networks.
To complement the Tracker offering, Teletouch has announced its GEOFLEET brand
software, which is customizable for mobile fleet and fixed asset management, and
gives the user the ability to monitor and track multiple vehicles on multiple
networks at the same time on the same screen.
Teletouch has other products in development to serve the aquaculture,
pipeline, oil and gas industries with an estimated introduction in the first
quarter of 2003.
To date revenues from telemetry sales and service have been
insignificant to the Company's overall revenue. However, management is
encouraged by the interest these products are generating in the market.
Financial Information about Industry Segments
Teletouch operates in the wireless telecommunications industry,
providing paging and messaging, cellular, and two-way radio services to a
diversified customer base. Teletouch's cellular and two-way radio operations
represent less than 10% individually and in the aggregate of operating income
and assets of the Company. Cellular and two-way radio operations represent
approximately 16% in the aggregate of the Company's revenue. Cellular and
two-way revenues for fiscal years 2002 and 2001, respectively, were $7.4 million
and $6.6 million. The Company had no foreign operations.
Sources of System Equipment and Inventory
Teletouch does not manufacture its paging network equipment, including
but not limited to antennas, transmitters, and paging terminals, nor does it
manufacture any of the pagers, cellular telephones, two-way radios, consumer
electronics or telemetry devices it sells or leases. This equipment is available
for purchase from multiple sources, and the Company anticipates that such
equipment will continue to be available in the foreseeable future, consistent
with normal manufacturing and delivery lead times. Because of the high degree of
compatibility among different models of transmitters, computers and other paging
and voice mail equipment manufactured by its suppliers, Teletouch's paging
network is not dependent upon any single source of such equipment. The Company
currently purchases pagers and transmitters from several competing sources.
Until fiscal 2001, the Company purchased its paging terminals from Glenayre
Technologies Inc., a leading manufacturer of mobile communications equipment.
During fiscal 2001, Glenayre announced that it would discontinue manufacturing
paging terminals but would continue to provide technical support for the
foreseeable future. Teletouch does not anticipate that the decision by Glenayre
will impact its operations as such terminal equipment is readily available in
the used market.
Teletouch continually evaluates potential products to offer in its
sales offices since those offices primarily target the consumer market, and
consumers have consistently requested other telecommunication products in
addition to paging, voice mail, and cellular services. Services such as internet
access, local telephone service, printing services, security services and other
consumer electronics are currently being investigated. Teletouch plans to
continue introducing new products and services to its customers as viable ones
are identified.
6
Competition
Competition for subscribers is based primarily on the price and quality
of services offered and the geographic area covered. Teletouch has one or more
direct competitors in all its markets, some of which have greater financial
resources than Teletouch. The Company believes, however, that the price and
quality of its services and its geographic coverage areas within its markets
compare favorably with those of its competitors.
Although some competitors are small, privately owned companies serving
only one market area, others are subsidiaries or divisions of larger companies,
such as telephone companies, which provide paging and other telecommunications
services in multiple market areas. Among the Company's competitors are Arch
Wireless Inc., Metrocall Inc., and WebLink Wireless.
Companies offering wireless two-way communications services, including
800 MHz cellular service, 1900 MHz wireless personal communications service
("PCS"), and specialized mobile radio services ("SMR"), continue to compete with
Teletouch's paging services. Cellular and PCS services are generally more
expensive than paging services. Where price is a consideration or access to
fixed wire communications (such as ordinary telephones) is available, paging can
compete successfully with or be an adjunct to cellular and PCS systems. However,
the price of cellular and PCS services continue to decline and are quickly
approaching the higher end pricing on some paging services. Therefore, the
Company has aggressively partnered with cellular and PCS providers and continues
to work to develop services that will sustain the Company in this competitive
environment. Future technological advances and associated regulatory changes in
the industry could also result in new products and services that would either
put Teletouch at a competitive advantage or disadvantage with other companies.
If the pricing on cellular and PCS services continues to decline and this trend
continues to erode the number of paging subscribers in the marketplace, the
viability of the paging industry in general and of the Company in particular
could be adversely affected.
Patents and Trademarks
In fiscal year 1999, Teletouch applied to register the trademark for
its Smartpager(R) service, a service that allows individuals to send an
alphanumeric page to a subscriber without any special software or equipment. The
Company considers this registered trademark to be beneficial and will consider
registering trademarks or service marks for future services it may provide. The
Company is also preparing to apply for state trademark registrations for use in
various jurisdictions as this new program rolls out.
Teletouch is in the process of registering the trademark for its Xtreme
Audio & Video(R) new concept retail stores. These new concept stores will focus
on providing car audio equipment and accessories as well as home theatre
products to the consumer markets. In addition to selling products, these new
concept retail stores will provide installation and servicing of the products
sold.
Regulation
The FCC regulates Teletouch's paging operations under the
Communications Act of 1934, as amended (the "Communications Act"), by granting
the Company licenses to use radio frequencies. These licenses also set forth the
technical parameters, such as location, maximum power, and antenna height, under
which the Company is permitted to use those frequencies.
In 1996, the FCC implemented rules that revised the classification of
most private-carrier paging licensees. Traditionally, the FCC has classified
licenses as either Radio Common Carrier licenses ("RCC") or
7
Private Carrier Paging ("PCP") licenses. Now all licenses are classified either
as Commercial Mobile Radio Service ("CMRS") or Private Mobile Radio Service
("PMRS"). Carriers like Teletouch and its competitors, who make service
available to the public on a for-profit basis through interconnections with the
public switched telephone network, are classified as CMRS licensees. Until
recently, Teletouch's RCC licenses were subject to rate and entry regulations in
states that chose to impose tariff and certification obligations, whereas PCP
licenses were not subject to such regulations. As a result of Congressional
legislation, the state regulatory differences between RCCs and PCPs have been
eliminated.
The FCC also adopted rules that license paging channels in the UHF and
VHF bands, as well as in the 929 and 931 MHz bands, on a geographic area basis.
These geographic area licenses are awarded through public auctions. The 929 and
931 MHz bands were auctioned in February 2000. The Company acquired 32 licenses
in the 931 MHz band in these auctions. Considering the continued decline in the
paging industry as well as the decline in the Company's paging subscriber base,
it is possible that Teletouch will not "build out" these acquired 931 MHz
licenses within the period required by the FCC. Failure to build out these
licenses will result in the licenses being forfeited to the FCC. Incumbent
licensees, such as Teletouch, will retain their exclusivity under the FCC's new
rules. The Company also operates paging systems utilizing shared, non-exclusive
frequencies below 929 MHz.
The FCC grants radio licenses for varying terms of up to 10 years, and
the FCC must approve renewal applications. In the past, FCC renewal applications
have been more or less routinely granted. Although there can be no assurance the
FCC will approve or act upon Teletouch's future applications in a timely manner,
the Company believes that such applications will continue to be approved with
minimal difficulties.
Teletouch regularly applies to the FCC for authority to use additional
frequencies and to add additional transmitter sites to expand coverage on
existing frequencies. Under current FCC guidelines, the Company can expand its
coverage and add additional sites only on frequencies formerly classified as PCP
frequencies below 929 MHz. All other paging frequencies below 929 MHz on which
Teletouch holds licenses are frozen in a status quo condition pending the final
announcement and implementation of geographic area licensing auctions. The
Communications Act also requires prior FCC approval for the Company's
acquisitions of radio licenses held by other companies, as well as transfers of
controlling interests of any entities that hold radio licenses. Although there
can be no assurance the FCC will approve or act upon Teletouch's future
applications in a timely manner, the Company knows of no reason why such
applications would not be approved or granted. The FCC has also determined that
all major modification and expansion applications will be subject to competitive
bidding (auction) procedures. Teletouch cannot predict the impact of these
procedures on its licensing practices.
The Communications Act requires the FCC to limit foreign ownership of
licenses. These foreign ownership restrictions limit the percentage of company
stock that may be owned or voted, directly or indirectly, by aliens or their
representatives, a foreign government or its representatives, or a foreign
corporation. The FCC also has the authority to restrict the operation of
licensed radio facilities or to revoke or modify such licenses. The FCC may
adopt changes to its radio licensing rules at any time, subject to following
certain administrative procedures. The FCC may also impose fines for violations
of its rules. Under certain circumstances, Teletouch's license applications may
be deemed "mutually exclusive" with those of other paging companies, in which
case the FCC would select between the mutually exclusive applicants. The FCC has
previously used lottery procedures to select between mutually exclusive paging
applications; however, in response to a Congressional mandate, the FCC adopted
rules to grant mutually exclusive CMRS paging applications through the auction
process.
8
The FCC could change its rules or policies in a manner that could have
a material adverse effect on the Company's business by limiting the scope and
manner of Teletouch's services or by increasing competition in the paging
industry. Beginning in 1994, the FCC was ordered by Congress to hold auctions to
award licenses for new personal communications services. These PCS and other new
mobile services could enable other service providers to compete directly or
indirectly with the Company. In addition, from time to time, federal and state
legislators propose and enact legislation that could affect the Company's
business either beneficially or adversely. Teletouch cannot predict the impact
of such legislative actions on its operations.
The foregoing description of certain regulatory factors does not
purport to be a complete summary of all the present and proposed legislation and
regulations pertaining to the Company's operations.
Employees
At May 31, 2002, Teletouch employed 373 people, of which 319 were
employed full-time and 54 were employed on a part-time or temporary basis. Most
of these employees performed sales, operations support, and clerical roles. The
Company considers its relationships with its employees to be satisfactory and is
not a party to any collective bargaining agreement.
Item 2. Description of Property
Teletouch owns an office building and one transmitter site, along with
the broadcast tower on that site. In addition, the Company currently leases 68
retail and office locations (including 12 previously closed retail locations
that the Company is currently seeking to sublease) in its market areas,
including its executive offices in Tyler, Texas. In May 2002, the Company
completed a review of the financial performance of its retail stores which
resulted in the decision to close 22 of the Company's locations. The remaining
lease liability at May 31, 2002 was $488,000 for the closed stores and is
expected to be paid through 2007. Teletouch also leases transmitter sites on
commercial towers, buildings, and other fixed structures in approximately 399
locations. The Company's leases are for various terms and provide for monthly
rental payments at various rates. Teletouch is obligated to make total lease
payments of approximately $2.7 million under its office facility and tower site
leases for fiscal year 2003. See Note H in the Notes to Consolidated Financial
Statements.
The Company believes that its facilities are adequate for its current
needs and that it will be able to obtain additional space as needed at
reasonable cost.
Item 3. Legal Proceedings
Teletouch is party to various legal proceedings arising in the ordinary
course of business. The Company believes there is no proceeding, either
threatened or pending, against it that will result in a material adverse effect
on its results of operations or financial condition.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of security holders during the
fourth quarter of fiscal year 2002.
9
PART II
Item 5. Market for Registrant's Common Equity and Related Shareholder Matters
Teletouch's Common Stock is traded on the American Stock Exchange
("AMEX") under the symbol TLL.
The following table lists the reported high and low transaction prices
for Teletouch Common Stock for the periods indicated. These prices reflect
inter-dealer prices, but do not include retail mark-ups, markdowns, or
commissions and may not necessarily represent actual transactions.
Common Stock
------------
High Low
---- ---
Fiscal Year 2001
----------------
1/st/ Quarter 3.94 1.63
2/nd/ Quarter 3.00 1.00
3/rd/ Quarter 1.25 0.50
4/th/ Quarter 0.98 0.31
Fiscal Year 2002
----------------
1/st/ Quarter 1.00 0.30
2/nd/ Quarter 0.45 0.16
3/rd/ Quarter 0.62 0.22
4/th/ Quarter 1.25 0.34
______________________
As of August 26, 2002, 4,792,650 shares of Common Stock, 15,000 shares
of Series A preferred stock, 85,394 shares of Series B preferred stock,
2,660,840 Common Stock Purchase Warrants, 742,322 Options and 324,173 Series B
Preferred Stock Purchase Warrants were issued and outstanding. The common stock
is the only class of stock which has voting rights or that is traded publicly.
Also as of August 26, 2002, there were 47 holders of record of the Company's
Common Stock based upon information furnished by Continental Stock Transfer &
Trust Company, New York, New York, the Company's transfer agent. The number of
holders of record does not reflect the number of beneficial holders, estimated
to be in excess of 800, of Teletouch's Common Stock for whom shares and warrants
are held by banks, brokerage firms, and other entities.
Teletouch has never paid and does not anticipate paying any cash
dividends on its Common Stock in the foreseeable future. Dividends on the Series
A Preferred Stock accrued at 14% per annum compounded quarterly through May 17,
2002 when, pursuant to the Restructuring Agreement effective as of that date,
dividend accruals ceased. Cash dividends on the Company's Common Stock or
Preferred Stock, and the redemption of the Preferred Stock, are prohibited so
long as the Amended Credit Agreement (discussed in Note B in the Notes to the
Consolidated Financial Statements) is in effect.
Teletouch is party to a number of agreements that if approved by
shareholders would result in a substantial equity recapitalization of the
Company. See "Settlement of Junior Debt; Restructuring Agreement" below.
10
Item 6. Selected Consolidated Financial Data
The following table represents certain items from the Company's
consolidated statements of operations and certain other information for the
periods indicated.
(In Thousands, except Per Share Data, Pagers in Service and ARPU)
2002 2001 2000 1999 1998
---- ---- ---- ---- ----
Service, rent, and maintenance revenue $ 34,335 $ 42,929 $ 45,164 $ 42,792 $ 38,831
Product sales revenue 12,234 13,366 11,427 8,346 6,328
-------- --------- --------- --------- --------
Total revenues .................................. 46,569 56,295 56,591 51,138 45,159
Net book value of products sold .................... (8,539) (13,405) (11,211) (8,000) (6,634)
-------- --------- --------- --------- --------
$ 38,030 $ 42,890 $ 45,380 $ 43,138 $ 38,525
Operating expenses (1) 36,601 79,337 43,650 42,678 38,329
-------- --------- --------- --------- --------
Operating income (loss) (1) 1,429 (36,447) 1,730 460 196
Interest expense, net (7,412) (8,775) (7,908) (7,823) (8,535)
Loss on investments -- (356) -- -- --
-------- --------- --------- --------- --------
Gain on extinguishment of debt (3) 69,571 -- -- -- --
-------- --------- --------- --------- --------
Gain (loss) on disposal of assets (109) (237) 155 23 4,171
-------- --------- --------- --------- --------
Income (loss) before income taxes (1)(3) 63,479 (45,815) (6,023) (7,340) (4,168)
Income tax expense/(benefit) -- -- -- -- 48
-------- --------- --------- --------- --------
Net income (loss) before preferred stock dividends
(1)(3) $ 63,479 $ (45,815) $ (6,023) $ (7,340) $ (4,216)
======== ========= ========= ========= ========
Earnings (loss) per share applicable to common stock:
- -----------------------------------------------------
Earnings (loss) per share - basic (1)(3) $ 12.14 $ (10.65) $ (2.29) $ (2.52) $ (1.66)
Earnings (loss) per share - diluted (1)(3) $ 0.64 $ (10.65) $ (2.29) $ (2.52) $ (1.66)
======== ========= ========= ========= ========
Pagers in service at end of period 271,100 354,700 411,700 394,200 349,700
======== ========= ========= ========= ========
Average revenue per unit ("ARPU") $ 8.79 $ 8.78 $ 8.98 $ 9.25 $ 9.33
======== ========= ========= ========= ========
Total assets (1) 23,638 $31,445 $ 77,693 $ 81,256 $ 87,194
======== ========= ========= ========= ========
Long-term debt, net of current portion (2)(3) $ 2,511 $ -- $ 71,927 $ 75,944 $ 74,487
======== ========= ========= ========= ========
Shareholders' equity (deficit) (1)(3) $ 9,301 $ (55,814) $ (11,438) $ (5,462) $ 1,823
======== ========= ========= ========= ========
- ---------------------------
(1) 2001 information includes impairment charges of $36.6 million related to
certain intangible assets recorded in the three month period ended May
31, 2001.
(2) $66,935,000 of long-term debt was reclassified as a current liability as
of May 31, 2001
(3) $57,100,000 in outstanding principal on the Company's senior debt and
$25,513,000 in outstanding principal and accrued interest were retired
on May 20, 2002 as the Company concluded its efforts to recapitalize its
debt and certain equity securities. The Company recorded a gain on the
extinguishment of debt of $69,571,000. See footnote B to the
consolidated financial statements.
11
Item 7. Management's Discussion and Analysis of Results of Operations and
Financial Condition
Certain statements contained herein are not based on historical facts, but
are forward-looking statements that are based upon numerous assumptions about
future conditions that could prove not to be accurate. Actual events,
transactions and results may materially differ from the anticipated events,
transactions or results described in such statements. The Company's ability to
consummate such transactions and achieve such events or results is subject to
certain risks and uncertainties. Such risks and uncertainties include, but are
not limited to, the existence of demand for and acceptance of the Company's
products and services, regulatory approvals and developments, economic
conditions, the impact of competition and pricing, results of financing efforts
and other factors affecting the Company's business that are beyond the Company's
control. The Company undertakes no obligation and does not intend to update,
revise, or otherwise publicly release the results of any revisions to these
forward-looking statements that may be made to reflect future events or
circumstances.
The following discussion and analysis of the results of operations and
financial condition of the Company should be read in conjunction with the
consolidated financial statements and notes thereto included elsewhere in this
report.
Although we believe that our expectations are based on reasonable
assumptions, we can give no assurance that our expectations will materialize.
Many factors could cause actual results to differ materially from our forward
looking statements. Several of these factors include, without limitation:
. our ability to finance and manage expected growth;
. subscriber attrition and reduction in ARPU;
. the impact of competitive services, products and pricing;
. our ongoing relationship with our cellular carriers and vendors;
. our dependence upon key personnel;
. the adoption of new, or changes in, accounting principles;
. legal proceedings;
. our ability to maintain compliance with the American Stock Exchange
requirements for continued listing of our common stock;
. the costs inherent with complying with new statutes and regulations
applicable to public reporting companies, such as the Sarbanes-Oxley Act
of 2002;
. federal and state governmental regulation of the two-way and cellular
telecommunications industries;
. our ability to maintain, operate and upgrade our information systems
network;
. the demand for and acceptance of our products and services;
. our ability to efficiently integrate future acquisitions, if any;
. the migration of subscribers from leased communications products to
purchased products;
. the ability to successfully market cellular and other telephony
services;
. the ability to successfully market and service the telemetry business,
and other new lines of business that the Company may enter in the
future;
. the ability to maintain compliance with the covenants in our loan
facilities;
. other risks referenced from time to time elsewhere in this report and
in our filings with the SEC.
We undertake no obligation and do not intend to update, revise or
otherwise publicly release any revisions to these forward-looking statements to
reflect events or circumstances after the date hereof or to reflect the
occurrence of any unanticipated events.
12
Overview
Teletouch is a leading provider of wireless telecommunications
services, primarily paging services, in non-major metropolitan areas and
communities in the southeast United States. As of May 31, 2002, the Company had
approximately 271,100 pagers in service. The Company derives the majority of its
revenues from fixed, periodic fees, not dependent on usage, charged to
subscribers for paging services. As long as a subscriber remains on service,
operating results benefit from the recurring payments of the fixed, periodic
fees without incurring additional selling expenses or other fixed costs. Due to
growth resulting from the completion of acquisitions in certain prior years,
Teletouch's results of operations for prior periods may not be indicative of
future performance.
Critical Accounting Policies
The following discussion and analysis of financial condition and
results of operations are based upon Teletouch's consolidated financial
statements, which have been prepared in conformity with accounting principles
generally accepted in the United States. The preparation of these financial
statements requires management to make estimates and judgments that affect the
reported amounts of assets, liabilities, revenues, expenses and related
disclosures. On an on-going basis, Teletouch evaluates its estimates and
assumptions, including but not limited to those related to the impairment of
long-lived assets, reserves for doubtful accounts, revenue recognition and
certain accrued liabilities. Teletouch bases its estimates on historical
experience and various other assumptions that are believed to be reasonable
under the circumstances, the results of which form the basis for making
judgments about the carrying values of assets and liabilities that are not
readily apparent from other sources. Actual results may differ from these
estimates under different assumptions or conditions.
Impairment of Long-Lived Assets: In accordance with Statement of
Financial Accounting Standards ("SFAS") No. 121 "Accounting for the Impairment
of Long-Lived Assets and Long-Lived Assets To Be Disposed Of" Teletouch
evaluates the recoverability of the carrying value of its long-lived assets and
certain intangible assets based on estimated undiscounted cash flows to be
generated from such assets. In assessing the recoverability of these assets,
Teletouch must project estimated cash flows which are based on various operating
assumptions such as average revenue per unit in service, disconnect rates, sales
productivity ratios and expenses. Management develops these cash flow
projections on a periodic basis and reviews the projections based on actual
operating trends. The projections assume that general economic conditions will
continue unchanged throughout the projection period and that their potential
impact on capital spending and revenues will not fluctuate. Projected revenues
are based on the Company's estimate of units in service and average revenue per
unit, as well as revenue from various new product initiatives. Projected
revenues assume a continued decline in traditional messaging units in service
throughout the projection period, which is partially offset by growth of
advanced messaging units in service and revenue from the new product
initiatives. Projected operating expenses are based upon historic experience and
expected market conditions adjusted to reflect an expected decrease in expenses
resulting from cost saving initiatives. During the fourth quarter of fiscal
2001, the Company determined that the remaining net book value of its long-lived
assets was substantially impaired and the recovery of such amounts through
future operations or disposition was unlikely. Accordingly, management estimated
the future discounted cash flows and determined the goodwill and FCC licenses
were significantly impaired and therefore recorded a charge equal to the
remaining net book value of these assets of $36.6 million. Teletouch's review of
the carrying value of its long-lived assets at May 31, 2002 indicates that the
carrying value of these assets is recoverable through future estimated cash
flows. If the cash flow estimates, or the significant operating assumptions upon
which they are based, change in the future, Teletouch may be required to record
additional impairment charges related to its long-lived assets.
13
Allowance for Doubtful Accounts: Estimates are used in determining the
reserve for doubtful accounts and are based on historic collection experience,
current trends and a percentage of the accounts receivable aging categories. In
determining these percentages Teletouch reviews historical write-offs, including
comparisons of write-offs to provisions for doubtful accounts and as a
percentage of revenues; Teletouch compares the ratio of the reserve to gross
receivables to historic levels and Teletouch monitors collections amounts and
statistics. Teletouch's allowance for doubtful accounts was $0.2 million at May
31, 2002. While write-offs of customer accounts have historically been within
our expectations and the provisions established, management cannot guarantee
that Teletouch will continue to experience the same write-off rates that it has
in the past which could result in material differences in the reserve for
doubtful accounts and related provisions for write-offs.
Reserve for Inventory Obsolescence: Estimates are used in determining
the reserve for inventory obsolescence and are based on sales trends, a ratio of
inventory to revenue, and a review of specific categories of inventory. In
establishing its reserve, Teletouch reviews historic inventory obsolescence
experience including comparisons of previous write-offs to provision for
inventory obsolescence and the inventory count compared to recent sales trends.
Teletouch's reserve for inventory obsolescence was $0.3 million at May 31, 2002.
While inventory obsolescence has historically been within our expectations and
the provision established, management cannot guarantee that Teletouch will
continue to experience the same obsolescence rates that it has in the past which
could result in material differences in the reserve for inventory obsolescence
and the related inventory write-offs.
Revenue Recognition: Teletouch's revenue consists primarily of monthly
service and lease revenues charged to customers on a monthly, quarterly,
semi-annual or annual basis. Revenue also includes sales of messaging devices,
cellular telephones, and other products directly to customers and resellers.
Teletouch recognizes revenue over the period the service is performed in
accordance with SEC Staff Accounting Bulletin No. 101, "Revenue Recognition in
Financial Statements" ("SAB 101"). SAB 101 requires that four basic criteria
must be met before revenue can be recognized: (1) persuasive evidence of an
arrangement exists, (2) delivery has occurred or services rendered, (3) the fee
is fixed and determinable, and (4) collectibility is reasonably assured.
Teletouch believes, relative to sales of one-way messaging equipment, that all
of these conditions are met, and since service is deemed not to be essential to
the sale of the equipment, product revenue is recognized at the time of shipment
Revenue from sale of other products is recognized upon delivery.
New Accounting Pronouncements
In August 2001, the Financial Accounting Standards Board issued
Statement on Financial Accounting Standards No. 144 - Accounting for the
Impairment or Disposal of Long-Lived Assets (SFAS No. 144). SFAS No. 144 is
effective for years beginning after December 15, 2001 and supersedes SFAS No.
121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of. SFAS No. 144 provides a single accounting model for
disposition of long-lived assets. Although retaining many of the fundamental
recognition and measurement provisions of Statement 121, the new rules
significantly change the criteria that would have to be met to classify an asset
as held for sale. The new rules also will supersede the provisions of the
Accounting Principles Board Opinion 30 with regard to reporting the effects of a
disposal of a segment of a business and will require expected future operating
losses from discontinued operations to be displayed in discontinued operations
in the period(s) in which the losses are incurred. In addition, more
dispositions will qualify for discontinued operations treatment in the income
statement. SFAS No. 144 is
14
effective for years beginning after December 15, 2001. The Company is currently
analyzing the implementation requirements and has not yet determined whether the
adoption of SFAS No. 144 will have a material impact on the Company's
consolidated balance sheets or its statements of operations, shareholders'
equity and cash flows.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB
Statements Nos. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." SFAS No. 145 requires that gains and losses form extinguishment of
debt be classified as extraordinary items only if they meet the criteria in
Accounting Principles Board Opinion No. 30 ("Opinion No. 30"). Applying the
provision of Opinion No. 30 will distinguish transactions that are part of an
entity's recurring operations from those that are unusual and infrequent and
meet criteria for classification as an extraordinary item. As allowed under the
provision of SFAS No. 145, we have adopted SFAS No. 145 as of May 31, 2002. In
accordance with SFAS No. 145, we have included the gain on the extinguishment of
debt in income before income taxes.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs
Associated with Exit or Disposal Activities." SFAS No. 146 addresses financial
accounting and reporting for costs associated with exit or disposal activities,
such as restructurings, involuntarily terminating employees and consolidating
facilities. SFAS No. 146 excludes from its scope exit and disposal activities
conducted in connection with a business combination and those activities to
which SFAS Nos. 143 and 144 are applicable. SFAS No. 146 is effective for exit
and disposal activities that are initiated after December 31, 2002. We do not
expect the adoption of this statement to have a material effect on our
consolidated financial position or results of operations.
Results of Operations for the fiscal years ended May 31, 2002, 2001 and 2000
Total revenue: Teletouch's total revenue decreased to $46.6 million in
fiscal year 2002 from $56.3 million in fiscal year 2001 and $56.6 million in
fiscal year 2000. The fiscal year 2002 total revenue decrease from fiscal 2001
was due to a loss of approximately $1.9 million of revenues from pager sales and
a loss of $8.9 million in paging services revenue as a result of the continuing
decline in demand for one-way paging service. The decline in revenues in fiscal
year 2002 was partially offset by an increase in cellular revenues of $1.0
million due to increased marketing of our cellular products. The fiscal year
2001 total revenue decrease from fiscal 2000 was due to a loss of approximately
$4.6 million of revenues from pager sales and paging services due to a
continuing decline in demand for one-way paging service. This decrease in
revenues in fiscal year 2001 was partially offset by an increase in two-way
revenues of $1.5 million due in part to the acquisition of Eastex Communications
in April 2000 and to an increase in cellular revenues of $3.0 million due to
internal growth. Pagers in service declined to 271,100 at May 31, 2002 as
compared to 354,700 and 411,700 at May 31, 2001 and 2000 respectively.
The decline in total revenue in fiscal year 2002 was unaffected by
changes in average revenue per unit ("ARPU"), however, the decline in total
revenue in fiscal year 2001 was compounded by a decline in ARPU for that period.
ARPU for the year ended May 31, 2002 was $8.79 as compared to $8.78 and $8.98
for the years ended May 31, 2001 and May 31, 2000, respectively. ARPU has
remained flat in fiscal year 2002 as compared to fiscal year 2001 due to the
Company's ability to maintain the level of its highest ARPU business customer
base year over year while its lower ARPU reseller customer base continued to
decline. These events resulted in a decrease in the percentage of the Company's
subscriber base represented by resellers. The decrease in ARPU for fiscal year
2001 as compared to fiscal year 2000 was primarily due to increased competition
in the Company's markets and to a lesser extent to an increase in the percentage
of the Company's subscriber base represented by resellers. Resellers are
businesses that buy airtime at wholesale prices from Teletouch and sell the
service to end users. While the wholesale price to a reseller is lower than the
price the Company charges to its other customers,
15
a reseller bears the cost of acquiring, billing, collecting and servicing its
subscribers. At May 31, 2002 approximately 36% of the Company's subscriber base
was represented by resellers as opposed to 42% at May 31, 2001 and 41% at May
31, 2000. As competitors continue to pursue Teletouch's customers in the
marketplace and as the paging industry fully matures, ARPU is expected to
continue to decline. Teletouch expects that the introduction of new products and
services will only partially offset any decline in ARPU or paging subscribers
and will result in a decrease in total revenue during the next year.
Operating expenses, excluding depreciation and amortization: Operating
expenses, excluding depreciation and amortization, and excluding impairment
charges recorded in fiscal 2001, were $30.3 million, or 65% of total revenue for
fiscal year 2002 as compared to $32.5 million, or 58% of total revenue and $30.6
million, or 54% of total revenue for the fiscal years 2001 and 2000,
respectively. Costs decreased in fiscal 2002 over fiscal 2001 due to a decrease
in bad debt expense of $0.8 million resulting primarily from the decline in the
Company's retail paging subscriber base along with increased collections
efforts, a decrease in advertising expense of $0.4 million, a decrease in
telephone expense of $0.8 million due to savings on a new long distance contract
and a decrease in payroll and commissions expense of $0.6 million as a result of
the reduction in number of retail stores and lower sales volume in fiscal year
2002. Additionally, the Company reduced third party paging service charges by
$0.4 million and improved its billing costs by $0.2 million from fiscal year
2001. These decreases in expenses were partially offset by increases in tower
rents and insurance expense totaling $0.3 million combined and $0.6 million in
non-recurring retail restructuring costs related to lease commitments and
disposals of related assets during fiscal year 2002 (see discussion below).
Operating expenses increased in fiscal 2001 over fiscal 2000 primarily because
of new retail store openings, particularly in the areas of payroll, rent, and
advertising expenses and due to non-recurring charges of $0.5 million associated
with retail store closings. Operating costs as a percentage of total revenue
have increased while the Company's paging subscriber base continues to decline.
The Company has a relatively fixed cost structure related to maintaining its
paging network. As paging subscribers and the related recurring revenues
continue to decline, operating expenses as a percentage of total revenue will
continue to increase until the Company is able to generate sufficient revenue
growth in its other product and service offerings. The Company expects operating
expenses to decline during the next year as unprofitable products and/or
locations are eliminated, however, it cannot be certain that operating costs
will decline in proportion to revenue.
In May 2002, the Company completed a review of the financial
performance of its retail stores. This review resulted in the completion of a
Retail Restructuring Plan that concluded the need to close 22 of the Company's
66 locations and reduce 9 of the remaining locations to "Customer Service Only"
locations. As of May 31, 2002 the Company had completed the closure of 9 of its
retail locations leaving 57 locations open as of the end of fiscal 2002.
Locations selected for closure were not contributing to the Company's operating
income on a current basis. To evaluate the financial results on a current basis,
we excluded the recurring revenues from paging subscribers that were put on
service in prior periods. Locations selected to be reduced to "Customer Service
Only" locations were also not contributing to the Company's operating income,
although were supporting a sizable paging subscriber base that would not be
easily serviced from any other location. The purpose of the restructuring is to
reduce operating expenses while minimizing the impact on the recurring revenues
from the paging subscribers that were being serviced by the effected locations.
The Retail Restructuring Plan is to be complete by September 2002.
As a result of the Retail Restructuring Plan, the Company recorded
non-recurring charges of $488,000 related to the remaining lease commitments and
$120,000 to write off the remaining book value of the leasehold improvements
related to the stores being closed. These charges were recorded in May 2002.
16
Depreciation and amortization: Depreciation and amortization expense
decreased to $6.3 million in fiscal year 2002 from $10.2 million and $13.1
million in fiscal years 2001 and 2000, respectively. The decrease in
depreciation and amortization expense in fiscal 2002 was due primarily to the
Company writing off all of its intangible assets, primarily purchased goodwill
and FCC licenses, by recording a charge equaling the remaining book value of
these assets of $36.6 million in May 2001 (see footnote A in the Notes to the
Consolidated Financial Statements). The expiration of the amortization on these
intangible assets written off in fiscal year 2001 resulted in a $3.4 million
decrease in amortization expense. The decrease in depreciation and amortization
expense in fiscal 2001 was due primarily to the expiration of amortization on
certain acquired intangible assets late in fiscal 2000 resulting in a $3.4
million decrease in amortization expense partially offset by an increase in
deprecation expense related to fixed assets used opening new retail stores in
fiscal 2000 and 2001.
Interest expense: Net interest expense decreased to $7.4 million in
fiscal year 2002 from $8.8 million in fiscal 2001, which increased from $7.9
million in fiscal 2000. Interest expense decreased in fiscal 2002 over fiscal
2001 partly due to the successful completion of the Company's debt
reorganization (discussed below under "Financial Condition") as well as
decreases in the variable interest rates on the Credit Agreement. Interest
expense increased in fiscal 2001 over fiscal 2000 primarily due to increases in
the variable interest rates on the Credit Agreement as well as increased
compound interest associated with the Junior Subordinated Notes (discussed below
under "Financial Condition"). A component of the interest rate on the Credit
Agreement was determined by the Company's leverage ratio at each fiscal quarter.
During fiscal 2001, the Company operated at a leverage ratio that resulted in a
variable interest rate higher than in fiscal 2000. This increase in interest
expense was offset slightly by principal payments on the Credit Agreement
totaling $2.4 million in fiscal 2001.
Income taxes: The Company's net operating loss carryforwards were
reduced to $0 at May 31, 2002 from approximately $29.5 million at May 31, 2001.
Other deferred tax assets were reduced as well. This reduction occurred due to
the attribute reduction rules of Internal Revenue Code Section 108 related to
the Company's debt restructuring. A corresponding reduction to the valuation
allowance previously recorded against these assets has also been recorded.
Financial Condition
Teletouch's cash balance was $1.5 million at May 31, 2002 as compared
to $4.0 million at May 31, 2001. Cash provided by operating activities increased
to $9.9 million in fiscal year 2002 from $5.6 million and $9.4 million in fiscal
year 2001 and fiscal year 2000, respectively. The increase in cash provided by
operations during fiscal year 2002 was primarily due to the Company ceasing
interest payments on the Credit Agreement in June 2001 during the continued
negotiations with the lenders to reorganize this senior debt instrument. The
Company was successful in restructuring its senior debt in May 2002 by paying
its senior lenders an aggregate cash amount of approximately $9,800,000 and
delivering a new promissory note to one of the original senior lenders in the
amount of $2,750,000 (discussed below under "Senior Debt Reorganization").
Additionally, pursuant to the Restructuring Agreement dated May 17, 2002 by and
among TLL Partners, GM Holdings and Teletouch, the two holders of the Company's
Junior Subordinate Notes reached an agreement that released and discharged
Teletouch of its Junior Debt obligations without recourse. GM Holdings forgave
Teletouch's debt obligations totaling $3,062,000 including accrued interest and
TLL Partners forgave Teletouch's debt obligations totaling $22,451,000. The
Company expects that cash flow provided from operations, together with the
Company's existing credit facilities, will be sufficient to fund its
17
working capital needs in fiscal 2003 as the Company has succeeded in
reorganizing its debt obligations as discussed in greater detail below.
Teletouch's operations require capital investment to purchase pagers
for lease to customers and to acquire paging infrastructure equipment to support
the Company's existing subscribers. Net capital expenditures, including pagers,
amounted to $4.3 million, $6.5 million and $7.8 million for fiscal 2002, 2001
and 2000, respectively. The decrease in fiscal 2002 from fiscal 2001 was due to
less capital spending on opening new retail stores as well as the Company's
ability to continue to purchase lower cost pagers to lease to customers. The
decrease in fiscal 2001 from fiscal 2000 was due to less capital spending on
opening new retail stores as well as the Company's ability to continue to
purchase lower cost pagers to lease to customers. Teletouch anticipates that
capital expenditures will remain flat in fiscal 2003 as the Company plans to
only replace necessary equipment to maintain the paging infrastructure while
continuing to purchase an adequate supply of pagers to lease to customers.
Teletouch will pay for these expenditures with cash generated from operations.
Under the new or amended credit agreements entered into May 17, 2002
with First Community Financial Corporation, TLL Partners and ING Prime Rate
Trust (see discussion below "Obligations and Commitments"), the Company has
available borrowings of $7.2 million of which $5.3 million was funded as of May
31, 2002.
Obligations and Commitments
The following tables outline what we regard as our significant
contractual obligations and commercial commitments as of May 31, 2002
Payments Due By Period
(in thousands)
--------------------------------------------------------
Significant Contractual Less Than
Obligations Total 1 Year 1 to 2 Years 3 to 4 Years Over 4 Years
------- --------- ------------ ------------ ------------
Debt ............................ $ 5,302 $ 2,791 $ 2,011 $ 500 $ -
Operating leases ................ 8,497 2,654 3,347 1,548 948
------- --------- ------------ ------------ ------------
Total significant contractual
cash obligations ............... $13,799 $ 5,445 $ 5,358 $ 2,048 $ 948
======= ========= ============ ============ ============
As of May 31, 2001, the Company had been unable to amend or negotiate
new terms under its senior credit agreement, which would have enabled the
Company to remain in compliance therewith and thereunder as of May 31, 2001, and
for subsequent periods. The resulting inability to comply with the terms of the
credit agreement resulted in the occurrence of events of default under the
credit agreement which could have permitted the lender to terminate the
commitment and to declare the borrowings totaling $57.3 million to be due and
payable. Also, based on the terms of the Junior Subordinated Note agreement, if
the lender had declared the Company not in compliance with the terms of the
credit agreement, then by definition it would not have been in compliance with
the terms of the Junior Subordinated Note Agreement resulting in an additional
$22.3 million becoming due and payable as of May 31, 2001.
18
Restructure of Senior Debt
On May 20, 2002, pursuant to agreements executed on May 17, 2002,
Teletouch reorganized its debt, retiring approximately $57,100,000 in
outstanding principal and $3,600,000 in accrued interest in senior debt owed by
Teletouch under its senior credit agreement to a syndicate of commercial
lenders, by paying those lenders an aggregate cash amount of $9,800,000 and
delivering a Promissory Note in the principal amount of $2,750,000 to one of the
lenders, ING Prime Rate Trust (formerly known as Pilgrim America Prime Rate
Trust) ("Pilgrim") (the "Debt Reorganization"). The Second Amended and Restated
Credit Agreement (the "Amended Credit Agreement") dated as of May 17, 2002 by
and among Teletouch and Pilgrim, as administrative agent for the lender, which
amended and restated the prior credit agreement effected the Debt Reorganization
and resulted in the reduction of the aggregate principal debt under the debt
facility to $2,750,000 (the "Pilgrim promissory note").
The restructured debt outstanding under the Amended Credit Agreement is
collateralized by assets of Teletouch and its subsidiaries including (1) certain
real property owned by Teletouch in Tyler, Texas, (2) all of the capital stock
of Teletouch Licenses, Inc. ("TLI"), a wholly-owned subsidiary of Teletouch,
that owns the paging and other licenses utilized in Teletouch's operations, (3)
all of Teletouch's and TLI's respective rights in the License Management
Agreement between Teletouch and TLI, pursuant to which Teletouch manages and
utilizes the licenses owned by TLI, and (4) certain other collateral as set
forth in the Amended Credit Agreement, but excluding the collateral securing the
First Community Financial Corporation debt facility described below. See
"Agreements with First Community Financial Corporation."
The Amended Credit Agreement requires that the $2,750,000 in principal
due under the new loan be repaid in 36 equal monthly installments of principal
and interest in the amount of $87,449 commencing June 1, 2002 with interest
accruing at an annual rate of nine percent. In addition, Teletouch must make
certain mandatory pre-payments to Pilgrim based on certain calculations required
by the Amended Credit Agreement, for events or occurrences arising from any of
the following: excess cash flow, casualty events, or debt and equity issuances
or sale of assets, as defined by the applicable agreements. The Amended Credit
Agreement contains a number of prohibitions and limitations of Teletouch's
activities, including a prohibition of the payment of dividends by Teletouch.
Failure to comply with the terms of the Amended Credit Agreement will result in
an event of default which in turn will allow Pilgrim to terminate the commitment
and to declare the borrowings to be due and payable. The new note is
collateralized by a new deed of trust, an assignment of rents and leases, an
agreement collateralizing all of the capital stock of TLI, and a fixture filing
on certain real property in Tyler, Texas.
In order to complete the reorganization of its debt and to provide for
necessary working capital financing, Teletouch also entered into new credit
agreements with First Community Financial Corporation and TLL Partners. Proceeds
from these facilities combined with working capital from the Company were used
to fund the cash payments to lenders in the amount of $9,800,000 required to
restructure the senior debt.
Agreements with First Community Financial Corporation ("FCFC")
Concurrent with the restructuring of its debt, Teletouch executed two
promissory notes in favor of FCFC, (a) a $2,000,000 Multiple Advance Promissory
Note ("MAP Note") and (b) a Term Promissory Note in the initial principal amount
of $250,000 ("Term Note", and together with the MAP Note, the "Credit
Facility"). Both notes are collateralized by an accounts receivable security
agreement ("FCFC Security Agreement") which gives FCFC a security interest in
all accounts receivable and substantially all other assets
19
of the Company, excluding its FCC licenses and certain real property. FCFC is an
unrelated third party with no prior relationships with the Company or its
affiliates.
The MAP Note provides for a revolving line of credit of up to a maximum
amount of $2,000,000. The MAP Note bears interest at a floating rate of 5.25%
above the prime rate of Bank One Arizona. The interest rate cannot be less than
an annual rate of 10% and interest is payable on the MAP Note on the first day
of each month on which there is an outstanding indebtedness under the MAP Note.
In addition, Teletouch must make a minimum interest payment of $5,000 each
month. Borrowings under the MAP Note are limited to amounts which, together with
amounts previously borrowed, do not exceed a borrowing base. This borrowing base
is defined as 75% of the Company's eligible commercial accounts receivable and
50% of the Company's eligible reseller accounts receivable, with certain
adjustments. No advances will be made by FCFC if an event of default (as that
term is defined under the FCFC Security Agreement) occurs and Teletouch fails to
cure the event of default. The MAP Note matures upon the termination of the FCFC
Security Agreement. The FCFC Security Agreement provides for an initial term of
two years from date of execution and subsequent one-year renewal terms. In
consideration for establishing the line of credit, Teletouch paid to FCFC a
commitment and funding fee of $30,000 on the date the Company executed the MAP
Note. In the event FCFC and Teletouch agree to extend the term of the MAP Note,
Teletouch will pay an additional $10,000 on each anniversary of any MAP Note
extensions.
The Term Note requires principal payments in the amount of $5,000 be
made to FCFC in 50 consecutive weekly installments. Interest on the principal
amount then outstanding is paid monthly. The Term Note bears the same interest
rate terms as the MAP Note. The Term Note is also secured by the FCFC Security
Agreement. Teletouch paid FCFC a funding and commitment fee of $3,750 upon
execution of the Term Note.
In the event that the amount under the Credit Facility is increased,
Teletouch agreed to pay an additional fee of 1.0% of the additional commitment
amount to FCFC. Amounts outstanding under the Credit Facility rank senior to
amounts outstanding with each of TLL Partners and Pilgrim.
Agreement with TLL Partners
On May 17, 2002, the Company entered into a note agreement with TLL
Partners ("TLL Note"), an entity controlled by Robert McMurrey, Chairman of
Teletouch, which allows for borrowings in the aggregate principal amount of
$2,200,000. The outstanding principal and accrued interest becomes payable in
full May 17, 2007 and accrues interest at the rate of 10% annually. The TLL Note
is subordinated to the interests of FCFC and Pilgrim's interest and does not
require the maintenance of any financial or operating covenants. As of May 31,
2002, borrowings under the TLL Note totaled $500,000.
Settlement of Junior Debt and Restructuring Agreement
The Company reached an agreement with the two holders of the Company's
junior subordinated debt (the "Junior Debt"), GM Holdings and TLL Partners
concerning the Junior Debt held by each of GM Holdings and TLL Partners
simultaneously with the restructuring of the senior debt discussed above. The
material provisions of the agreement are discussed below.
On May 17, 2002, TLL Partners, paid $800,000 and exercised an option it
had previously purchased to acquire all of the Teletouch securities held by
Continental Illinois Venture Corporation ("CIVC") which included $22,451,000 of
the total $25,513,000 in outstanding principal and accrued interest under the
Junior
20
Debt, 295,649 shares of Teletouch common stock, 2,660,840 warrants to purchase
Teletouch common stock, 36,019 shares of Series B Preferred Stock, 324,173
warrants to purchase Series B Preferred Stock, and 13,200 shares of Series A
Preferred Stock.
Pursuant to the Restructuring Agreement dated May 17, 2002 by and among TLL
Partners, GM Holdings and Teletouch, the two holders of the Company's Junior
Debt reached an agreement that released and discharged Teletouch of its Junior
Debt obligations without recourse. GM Holdings forgave Teletouch's debt
obligations totaling $3,062,000 including accrued interest and TLL Partners
forgave Teletouch's debt obligations totaling $22,451,000.
Robert M. McMurrey is the founder and the Chairman of the Board of
Teletouch. Mr. McMurrey's investments in Teletouch are made through TLL Partners
and Rainbow Resources, Inc. ("RRI"). RRI is a Texas corporation of which Robert
M. McMurrey is the sole director and shareholder. The principal business of RRI
is the ownership and operation of oil and gas properties and the ownership of
Teletouch securities. TLL Partners is a Delaware limited liability company of
which Robert M. McMurrey is the sole officer. TLL Partners is a wholly-owned
subsidiary of Progressive Concepts Communications, Inc., a Delaware corporation
(PCCI). PCCI owns all of the outstanding equity securities of Progressive
Concepts, Inc., a Texas corporation. PCCI may be deemed to be controlled by
Robert M. McMurrey by virtue of his being the majority stockholder thereof. The
principal business of TLL Partners is to act as a holding company for Mr.
McMurrey's investment in Teletouch securities.
Pursuant to the Restructuring Agreement dated as of May 17, 2002, by and
among TLL Partners, GM Holdings and Teletouch ("Restructuring Parties"), (1) TLL
Partners agreed to extend a five-year loan, subordinated to Pilgrim's interests,
in the aggregate principal amount of $2,200,000 to Teletouch ; (2) GM Holdings
agreed to cancel and deliver its Junior Debt, in the amount of approximately
$3,062,000 including accrued and unpaid interest, to Teletouch, fully and freely
releasing and discharging Teletouch of its Junior Debt obligations without
recourse; (3) TLL Partners agreed to cancel and deliver to Teletouch the Junior
Debt it acquired from CIVC, in the amount of approximately $22,451,000 including
accrued and unpaid interest, fully and freely releasing and discharging
Teletouch of its Junior Debt obligations without recourse; (4) subject to
shareholder approval and satisfaction of applicable American Stock Exchange
Rules, Teletouch agreed to issue warrants to purchase 6,000,000 shares of
Teletouch common stock to GM Holdings, at a price of $0.01 per share,
exercisable commencing three years following the date of issue, redeemable at
the option of the holder upon the earlier of a change in control or five years
from the date of issue, and terminating eight years following the date of issue,
and (5) TLL Partners agreed to enter into and to cause each of Rainbow
Resources, Inc., Robert M. McMurrey and J. Kernan Crotty to enter into a
Principal Stockholders Agreement.
Each of the Restructuring Parties agreed that no dividends would accrue, be
declared or made on the Series A Preferred Stock or the Series B Preferred
Stock. GM Holdings also granted TLL Partners, at no cost, an option to purchase
all Series A Preferred Stock and all Series B Preferred Stock held by GM
Holdings (the "GM Securities") for $74,000 aggregate consideration. As an
inducement for entering into the Restructuring Agreement, TLL Partners paid
$59,000 to GM Holdings upon its execution. In addition, Teletouch and TLL
Partners agreed that, subject to shareholder approval and satisfaction of
applicable American Stock Exchange Rules, TLL Partners would sell Teletouch all
of the GM Securities, as well as all of the common Stock, common stock warrants,
Series A Preferred Stock, Series B Preferred Stock and Series B Preferred Stock
Warrants which TLL Partners acquired from CIVC, in exchange for 1,000,000 shares
of Teletouch's Series C Preferred Stock. The agreement contemplates that
1,000,000 shares of the Company's 5,000,000 authorized preferred shares shall be
designated as Series C Preferred Stock, par value $0.001 per share.
21
The material terms of the Series C Preferred Stock would be as follows:
after payment of all amounts due under the Amended Credit Agreement, (1)
dividends may be paid on a pro rata basis; (2) assets may be distributed upon
voluntary or involuntary liquidation, dissolution or winding up of the Company;
and (3) holders may convert all, but not less than all, of their Series C
Preferred Stock into shares of Common Stock after May 20, 2005, subject to the
following terms and conditions. The Series C Preferred Stock will be convertible
into a number of shares of Common Stock computed by dividing (1) the product of
(A) the number of shares of Series C Preferred Stock to be converted and (B) 22,
by (2) the conversion price in effect at the time of conversion. The conversion
price for delivery of Common Stock shall initially be $0.50 and subject to
adjustment. The Series C Preferred Stock would be non-voting. Holders of Series
C Preferred Stock would be entitled to notice of all stockholders meetings. The
consent of at least a majority of the Series C Preferred Stock (calculated on an
"as converted" basis) is required to effect any amendment (a) to voting powers,
preferences or rights of the holders of Series C Preferred Stock or (b) to the
Certificate of Incorporation authorizing, creating or increasing the amount of
any shares of any class or series prior or equal to the Series C Preferred Stock
for payment of dividends or (c) any merger or consolidation unless the surviving
entity shall have no class or series of shares or securities authorized or
outstanding ranking prior to the Series C Preferred Stock.
Based on the estimated fair value of the Series C Preferred Stock and the
6,000,000 warrants to purchase common stock to be issued to GM Holdings of
$1,855,000 and $1,345,000, respectively, the Company has recorded a portion of
the fair value of these securities, $742,000 for the Series C Preferred Stock
and $538,000 for the warrants to purchase common stock, as a reduction to the
gain on extinguishment of debt.
In addition, Teletouch, CIVC, CIVC Partners, GM Holdings and certain
Teletouch stockholders (the "Stockholders") entered into a Termination
Agreement. The Termination Agreement requires Teletouch, CIVC, CIVC Partners, GM
Holdings and the Stockholders to release each other from liability connected
with the following investment agreements: (1) the Amended and Restated
Subordinated Note, Preferred Stock and Warrant Purchase Agreement dated as of
August 3, 1995; (2) the Stockholders Agreement dated as of August 3, 1995; (3)
the Registration Agreement dated as of August 3, 1995; (4) the Warrant Agreement
dated as of August 3, 1995 and (5) the Option and Securities Purchase Agreement
dated August 24, 2001.
22
The gain on extinguishment of debt for the year ended May 31, 2002, of
approximately $69,600,000 was calculated as follows:
-----------------------------------------------------------------------------------------------
-----------------------------------------------------------------------------------------------
Senior debt, including accrued interest, extinguished $60,700,000
-----------------------------------------------------------------------------------------------
Junior subordinated debt extinguished 25,500,000
-----------------------------------------------------------------------------------------------
Total 86,200,000
-----------------------------------------------------------------------------------------------
-----------------------------------------------------------------------------------------------
Less:
-----------------------------------------------------------------------------------------------
Cash paid 9,800,000
-----------------------------------------------------------------------------------------------
Pilgrim promissory note, including interest to be paid 3,200,000
-----------------------------------------------------------------------------------------------
Allocated portion of the fair value of the Series C Preferred Stock 700,000
-----------------------------------------------------------------------------------------------
Allocated portion of the fair value of the 6,000,000 warrants to purchase
common stock 500,000
-----------------------------------------------------------------------------------------------
Allocated portion of cash paid by significant shareholder 400,000
-----------------------------------------------------------------------------------------------
Write-off of related debt issue costs 1,100,000
-----------------------------------------------------------------------------------------------
Fees and expenses incurred 900,000
-----------------------------------------------------------------------------------------------
-----------------------------------------------------------------------------------------------
Gain on extinguishment of debt $69,600,000
-----------------------------------------------------------------------------------------------
Item 7a. Quantitative and Qualitative Disclosures about Market Risk
The risk inherent in Teletouch's market risk sensitive instruments, such as
its credit facilities is the potential loss arising from adverse changes in
interest rates. At May 31, 2002, the debt obligations with FCFC, comprised of
the MAP Note and the Term Note were subject to variable interest rates. The MAP
Note is a short term revolving line of credit that is borrowed against and
repaid as often as daily. Due to the revolving nature of the MAP Note and the
Company's ability to choose whether to obligate itself through borrowings, the
inherent risk in the MAP Note is minimal related to changes in interest rates.
Additionally, the borrowings under the Term Note as of May 31, 2002 were less
than 5% of the total debt obligations of the Company, therefore, changes in
interest rates would have an insignificant impact on the Company's earnings.
Item 8. Financial Statements and Supplementary Data
The financial statements required by this item are included in this report
beginning on page F-1.
Item 9. Changes In and Disagreements with Accountants On Accounting and
Financial Disclosure
None.
23
PART III
Item 10. Directors, Executive Officers, Promoters, and Control Persons;
Compliance with Section 16(a) of the Exchange Act.
Teletouch incorporates by reference information regarding directors and
executive officers from the Company's Proxy Statement for the Annual Meeting of
Shareholders to be held November 7, 2002.
Item 11. Executive Compensation
Teletouch incorporates by reference information regarding executive
compensation from the Company's Proxy Statement for the Annual Meeting of
Shareholders to be held November 7, 2002.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Teletouch incorporates by reference information regarding security
ownership of certain beneficial owners and management from the Company's Proxy
Statement for the Annual Meeting of Shareholders to be held November 7, 2002.
Item 13. Certain Relationships and Related Transactions
Teletouch incorporates by reference information regarding certain
relationships and related transactions from the Company's Proxy Statement for
the Annual Meeting of Shareholders to be held November 7, 2002.
24
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) (1) Financial Statements.
Consolidated Balance Sheets as of May 31, 2001 and 2002
Consolidated Statements of Operations for Each of the Three Years in
the Period Ended May 31, 2002
Consolidated Statements of Cash Flows for Each of the Three Years in
the Period Ended May 31, 2002
Consolidated Statements of Shareholders' Equity (Deficit) for Each of
the Three Years in the Period Ended May 31, 2002
Notes to Consolidated Financial Statements
Report of Independent Auditors
(a) (2) Financial Statement Schedules.
Schedule II - Valuation and Qualifying Accounts and Reserves
Schedules, other than those referred to above, have been omitted
because they are not required or are not applicable or because the information
required to be set forth therein either is not material or is included in the
financial statements or notes thereto.
(a) (3) Exhibits.
Exhibit
Number Title of Exhibit
------ ----------------
21 List of Subsidiaries
99.1 Certificate of Chief Executive Officer
99.2 Certificate of Chief Financial Officer
(b) Reports on Form 8-K.
Teletouch filed no reports on Form 8-K during the fourth quarter of
Fiscal 2002.
25
Index to Consolidated Financial Statements
Report of Independent Auditors ................................... F-2
Consolidated Balance Sheets ...................................... F-3
Consolidated Statements of Operations ............................ F-4
Consolidated Statements of Cash Flows ............................ F-5
Consolidated Statements of Shareholders' Equity (Deficit) ........ F-6
Notes to Consolidated Financial Statements ....................... F-7
F-1
Report of Ernst & Young LLP, Independent Auditors
We have audited the accompanying consolidated balance sheets of Teletouch
Communications, Inc. and subsidiaries as of May 31, 2002 and 2001, and the
related consolidated statements of operations, shareholders' equity (deficit),
and cash flows for each of the three years in the period ended May 31, 2002. Our
audits also included the financial statement schedule listed in the Index at
Item 14(a). These financial statements and schedule are the responsibility of
the Company's management. Our responsibility is to express an opinion on these
financial statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States. Those standards require that we plan and perform the audit
to obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis, evidence
supporting the amounts and disclosures in the financial statements. An audit
also includes assessing the accounting principles used and significant estimates
made by management, as well as evaluating the overall financial statement
presentation. We believe that our audits provide a reasonable basis for our
opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Teletouch
Communications, Inc. and subsidiaries at May 31, 2002 and 2001, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended May 31, 2002, in conformity with accounting
principles generally accepted in the United States. Also, in our opinion, the
related financial statement schedule, when considered in relation to the basic
financial statements taken as a whole, presents fairly in all material respects
the information set forth therein.
/s/ Ernst & Young LLP
Dallas, Texas
August 21, 2002
F-2
TELETOUCH COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(in thousands, except share data) May 31
2002 2001
---- ----
ASSETS
CURRENT ASSETS:
Cash and cash equivalents .................................................... $ 1,472 $ 3,999
Accounts receivable, net of allowance of $238 in 2002 and 2001 ............... 2,341 2,351
Inventory .................................................................... 3,630 4,552
Deferred income tax assets. .................................................. 56 56
Certificates of deposit, restricted as to use ................................ -- 101
Prepaid expenses and other current assets .................................... 434 532
-------- --------
7,933 11,591
PROPERTY, PLANT AND EQUIPMENT, net of
accumulated depreciation of $18,571 in 2002 and $16,591 in 2001 .............. 15,659 18,484
INTANGIBLES AND OTHER ASSETS:
Subscriber bases ............................................................. 57 --
Debt issue costs ............................................................. -- 4,100
Accumulated amortization ..................................................... (11) (2,730)
-------- --------
46 1,370
-------- --------
$ 23,638 $ 31,445
======== ========
LIABILITIES AND SHAREHOLDERS' EQUITY
CURRENT LIABILITIES:
Accounts payable and accrued expenses ........................................ $ 4,731 $ 3,029
Short-term debt .............................................................. 1,742 --
Current portion of long-term debt ............................................ 1,049 12,196
Long-term debt classified as current ......................................... -- 66,935
Current portion of unearned sale/leaseback profit ............................ 418 418
Deferred revenue ............................................................. 937 1,312
-------- --------
8,877 83,890
LONG-TERM LIABILITIES:
Long term debt, net of current portion ....................................... 2,511 --
Unearned sale/leaseback profit, net of current portion ....................... 1,907 2,327
-------- --------
4,418 2,327
COMMITMENTS AND CONTINGENCIES -- --
DEFERRED INCOME TAXES 1,042 1,042
SHAREHOLDERS' EQUITY (DEFICIT):
Series A cumulative convertible preferred stock, $.001 par value, 15,000
shares authorized, issued, and outstanding in 2002 and 2001 ............... -- --
Series B convertible preferred stock, $.001 par value, 411,457 shares
authorized, and 85,394 and 86,025 shares issued and outstanding in
2002 and 2001, respectively ............................................... -- --
Common stock, $.001 par value, 25,000,000 shares authorized, 4,926,210
issued in 2002 and 2001 ................................................... 5 5
Treasury Stock, 133,560 shares held in 2002 and 49,400 shares held in 2001 ... (97) (62)
Additional paid-in capital ................................................... 28,034 26,363
Accumulated deficit .......................................................... (18,641) (82,120)
-------- --------
9,301 (55,814)
-------- --------
$ 23,638 $ 31,445
======== ========
See Accompanying Notes to Financial Statements
F-3
TELETOUCH COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except shares and per share amounts)
Year ended May 31,
---------------------------------------------------
2002 2001 2000
--------------- -------------- -------------
Service, rent, and maintenance revenue ............. $ 34,335 $ 42,929 $ 45,164
Product sales revenue .............................. 12,234 13,366 11,427
--------------- -------------- -------------
Total revenues .................................. 46,569 56,295 56,591
Net book value of products sold .................... (8,539) (13,405) (11,211)
--------------- -------------- -------------
38,030 42,890 45,380
Costs and expenses:
Operating .................................... 15,086 15,881 14.636
Selling ...................................... 8,403 8,961 8,281
General and administrative ................... 6,774 7,710 7,636
Depreciation and amortization ................ 6,338 10,196 13,097
Impairment charges -- 36,589 --
--------------- -------------- -------------
Total costs and expenses ........................... 36,601 79,337 43,650
--------------- -------------- -------------
Operating income (loss) ............................ 1,429 (36,447) 1,730
Gain (loss) on disposal of assets .................. (109) (237) 155
Gain on extinguishment of debt ..................... 69,571 -- --
Loss on investments ................................ -- (356) --
Interest expense, net .............................. (7,412) (8,775) (7,908)
--------------- -------------- -------------
Net income (loss) .................................. 63,479 (45,815) (6,023)
Preferred stock dividends .......................... (4,789) (4,302) (3,718)
--------------- -------------- -------------
Income (loss) applicable to common stockholders .... $ 58,690 $ (50,117) $ (9,741)
=============== ============== =============
Earnings (loss) per share - basic $ 12.14 $ (10.65) $ (2.29)
Earnings (loss) per share - diluted $ 0.64 $ (10.65) $ (2.29)
=============== ============== =============
Weighted average shares outstanding-basic 4,834,255 4,706,393 4,256,359
Weighted average shares outstanding-diluted 98,893,353 4,706,393 4,256,359
=============== ============== =============
See Accompanying Notes to Financial Statements
F-4
TELETOUCH COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(IN THOUSANDS)
Year Ended May 31,
--------------------------------------
2002 2001 2000
-------- -------- --------
Operating Activities:
Net income (loss) ..................................... $ 63,479 $(45,815) $ (6,023)
Adjustments to reconcile net loss to net cash
provided by operating activities:
Depreciation and amortization ......................... 6,338 10,196 13,097
Impairment charges .................................... -- 36,589 --
Gain on extinguishment of debt ........................ (69,571) --
Non-cash compensation expense ......................... 31 -- --
Non cash interest expense ............................. 6,999 3,600 3,123
Provision for inventory impairment .................... -- 474 --
Provision for losses on accounts receivable ........... 843 1,647 1,443
Loss on disposal of assets ............................ 229 237 (155)
Amortization of unearned sale/leaseback profit ........ (420) (420) (418)
Loss on investments ................................... -- 356 --
Changes in operating assets and liabilities:
Accounts receivable, net .......................... (833) (1,735) (1,738)
Inventories ....................................... 1,431 1,555 735
Prepaid expenses and other assets ................. 99 1,131 (857)
Accounts payable and accrued expenses ............. 1,700 (1,766) 86
Deferred revenue .................................. (375) (397) 79
-------- -------- --------
Net cash provided by operating activities ................... 9,950 5,652 9,372
Investing Activities:
Capital expenditures, including pagers ................ (4,258) (6,479) (7,836)
Acquisitions, net of cash acquired .................... (57) (239) (547)
Deferred costs associated with acquisitions ........... -- 46 (170)
Redemption of certificates of deposit ................. 102 649 725
Purchase of certificates of deposit ................... (1) -- (750)
Net proceeds from sale of assets ...................... 25 132 254
-------- -------- --------
Net cash used for investing activities ...................... (4,189) (5,891) (8,324)
Financing Activities:
Debt incurred in connection with acquisitions ......... -- -- 208
Purchase of treasury stock ............................ (35) (62) --
Proceeds from borrowings .............................. 2,801
Payments on debt ...................................... (713) (2528) (262)
Debt extinguishment costs ............................. (10,341) -- --
Net proceeds from exercise of
common stock warrants ............................. -- -- 47
-------- -------- --------
Net cash used for financing activities ...................... (8,288) (2,590) (7)
-------- -------- --------
Net increase (decrease) in cash and cash equivalents ........ (2,527) (2,829) 1,041
Cash and cash equivalents at beginning of period ............ 3,999 6,828 5,787
-------- -------- --------
Cash and cash equivalents at end of period .................. $ 1,472 $ 3,999 $ 6,828
======== ======== ========
See Accompanying Notes to Financial Statements
F-5
TELETOUCH COMMUNICATIONS, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY (DEFICIT)
(In Thousands Except Number of Shares)
Preferred Stock
---------------
Series A Series B Common Stock Additional Treasury Stock Accumulated
-------- -------- ------------ Paid-In -------------- Earnings
Shares Amount Shares Amount Shares Amount Capital Shares Amount (Deficit)
------ ------ ------ ------ ------ ------ ------- ------ ------ ---------
Balance at May 31, 1999 .......... 15,000 $ -- 87,286 $ -- 4,235,527 $ 4 $ 24,816 -- $ -- $ (30,282)
Net loss ....................... -- -- -- -- -- -- -- -- -- (6,023)
Exercise of warrants ........... -- -- -- -- 62,665 -- 47 -- --
------ ------ ------- ------ --------- ----- -------- -----------------------------
Balance at May 31, 2000 15,000 $ -- 87,286 $ -- 4,298,192 $ 4 $ 24,863 -- $ -- $ (36,305)
Net loss ....................... -- -- -- -- -- -- -- -- -- (45,815)
Acquisition of business ........ -- -- -- 600,000 1 1,500 -- -- --
Conversion of preferred stock -- -- (1,261) 11,352 -- -- -- -- --
Exercise of warrants ........... -- -- -- -- 16,666 -- -- -- -- --
Purchase of Treasury Stock ..... -- -- -- -- -- -- -- 49,400 (62) --
------ ------ ------- ------ --------- ----- -------- -----------------------------
Balance at May 31, 2001 15,000 $ -- 86,025 $ -- 4,926,210 $ 5 $ 26,363 49,400 $ (62) $ (82,120)
Net income ..................... -- -- -- -- -- -- -- -- -- 63,479
Securities to be issued upon
concurring shareholder vote.. -- -- -- -- -- -- 1,640 -- -- --
Compensation earned under
employee stock option plan .. -- -- -- -- -- -- 31 -- -- --
Other .......................... -- -- (631) -- -- -- -- -- -- --
Purchase of Treasury Stock ..... -- -- -- -- -- -- -- 84,160 (35) --
------ ------ ------- ------ --------- ----- -------- -----------------------------
Balance at May 31, 2002 15,000 $ -- 85,394 $ -- 4,926,210 $ 5 $ 28,034 133,560 $ (97) $ (18,641)
====== ====== ======= ====== ========= ===== ======== =============================
See Accompanying Notes to Financial Statements
F-6
TELETOUCH COMMUNICATIONS, INC. AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE A - SIGNIFICANT ACCOUNTING POLICIES
Organization: Teletouch operates in the wireless telecommunications
industry, providing paging and messaging, cellular, and two-way radio services
to a diversified customer base. The Company provides services in non-major
metropolitan areas and communities including Alabama, Arkansas, Louisiana,
Mississippi, Missouri, Oklahoma, Texas, Tennessee and Florida. The Company has
57 sales offices in those states. Through inter-carrier arrangements, Teletouch
also provides nationwide and expanded regional coverage. The Company had no
foreign operations.
Principles of Consolidation: The consolidated financial statements
include the accounts of Teletouch Communications, Inc. and its wholly-owned
subsidiaries (together, "Teletouch" or "the Company"). All significant
intercompany accounts and transactions have been eliminated in consolidation.
Use of Estimates: Preparing financial statements in conformity with
generally accepted accounting principles ("GAAP") requires management to make
estimates and assumptions. Those assumptions affect the reported amounts of
assets and liabilities, disclosure of contingent assets and liabilities at the
date of the financial statements, and the reported amounts of revenues and
expenses during the reporting period. Actual results could differ from those
estimates.
Cash Equivalents: Cash equivalents are recorded at cost, which
approximates market, and include investments in financial instruments with
maturities of three months or less at the time of purchase.
Allowance for Doubtful Accounts: Estimates are used in determining the
allowance for doubtful accounts and are based on historic collection experience,
current trends and a percentage of the accounts receivable aging categories. In
determining these percentages Teletouch reviews historical write-offs, including
comparisons of write-offs to provisions for doubtful accounts and as a
percentage of revenues; Teletouch compares the ratio of the reserve to gross
receivables to historic levels and Teletouch monitors collections amounts and
statistics. Teletouch's allowance for doubtful accounts was $0.2 million at May
31, 2002 and 2001.
Inventories: The Company's inventories consist of pagers, cellular
telephones, prepaid cellular and long distance phone cards, two-way radios,
accessories, and spare parts held for sale. Inventories are carried at the lower
of cost or market using the weighted-average first-in, first-out method.
Reserves for inventory obsolescence are computed using estimates that are based
on sales trends, a ratio of inventory to sales, and a review of specific
categories of inventory. In establishing its reserve, Teletouch reviews historic
inventory obsolescence experience including comparisons of previous write-offs
to provision for inventory obsolescence and the inventory count compared to
recent sales trends. The reserve for inventory obsolescence was $0.3 million at
May 31, 2002.
Property, Plant and Equipment: Property, plant and equipment is
recorded at cost. Depreciation is computed using the straight-line method based
on the following estimated useful lives.
F-7
Pagers ............................ 3 years
Paging infrastructure ............. 5-15 years
Building and improvements ......... 10-20 years
Other equipment ................... 5-10 years
Leasehold improvements ............ Shorter of estimated useful
life or term of lease
Intangible Assets: Except for debt issue costs, Teletouch's intangible
assets are recorded at cost and are amortized, using the straight-line method,
over the following periods:
2002 2001
---- ----
Goodwill - 25 years
Subscriber bases 5 years 5 years
FCC licenses - 25 years
Non-compete agreements - 2-5 years
The Company defers costs incurred in obtaining debt and amortizes these
costs as additional interest expense over the term of the related debt using the
effective interest method. In conjunction with the Company's debt restructuring
(see Note B), all debt issue costs have been written off and considered in the
determination of the gain on extinguishment of debt. The carrying value of
intangible assets is reviewed if the facts and circumstances suggest that they
may be permanently impaired. If the review indicates that the intangible assets
will not be recoverable, as determined by the undiscounted cash flow method, the
asset will be reduced to its estimated recoverable value.
Impairment of Long-lived Assets: In accordance with Statement of
Financial Accounting Standards ("SFAS") No. 121 "Accounting for the Impairment
of Long-Lived Assets and Long-Lived Assets To Be Disposed Of" Teletouch
evaluates the recoverability of the carrying value of its long-lived assets and
certain intangible assets based on estimated undiscounted cash flows to be
generated from such assets. In assessing the recoverability of these assets,
Teletouch must project estimated cash flows which are based on various operating
assumptions such as average revenue per unit in service, disconnect rates, sales
productivity ratios and expenses. The Company develops these cash flow
projections on a periodic basis and reviews the projections based on actual
operating trends. The projections assume that general economic conditions will
continue unchanged throughout the projection period and that their potential
impact on capital spending and revenues will not fluctuate. Projected revenues
are based on the Company's estimate of units in service and average revenue per
unit, as well as revenue from various new product initiatives. Projected
revenues assume a continued decline in traditional messaging units in service
throughout the projection period, which is partially offset by growth of
advanced messaging units in service and revenue from the new product
initiatives. Projected operating expenses are based upon historic experience and
expected market conditions adjusted to reflect an expected decrease in expenses
resulting from cost saving initiatives.
During the fourth quarter of fiscal 2001, the Company determined that
the remaining net book value of certain of its long-lived assets was
substantially impaired and the recovery of such amounts through future
operations or disposition was unlikely. Accordingly, management estimated the
future discounted cash flows and determined the goodwill and FCC licenses were
significantly impaired and therefore recorded a charge equal to the remaining
net book value of these assets of $36.6 million.
F-8
Revenue Recognition: Teletouch's revenue consists primarily of monthly
service and lease revenues charged to customers on a monthly, quarterly,
semi-annual or annual basis. Revenue also includes sales of messaging devices,
cellular telephones, and other products directly to customers and resellers.
Teletouch recognizes revenue over the period the service is performed in
accordance with SEC Staff Accounting Bulletin No. 101, "Revenue Recognition in
Financial Statements" ("SAB 101"). SAB 101 requires that four basic criteria
must be met before revenue can be recognized: (1) persuasive evidence of an
arrangement exists, (2) delivery has occurred or services rendered, (3) the fee
is fixed and determinable, and (4) collectibility is reasonably assured.
Teletouch believes, relative to sales of one-way messaging equipment, that all
of these conditions are met. Revenue from sale of other products is recognized
upon delivery.
Advertising Costs: All costs related to advertising activities begun
during the fiscal year are expensed when incurred. Advertising costs were $1.6
million, $2.0 million, and $1.8 million in fiscal 2002, 2001, and 2000,
respectively.
Stock-based Compensation: The Company grants stock options for a fixed
number of shares to employees with stock option exercise prices equal to the
fair market value of the shares on the date of grant. The Company accounts for
stock option grants in accordance with Accounting Principles Board ("APB")
Opinion No. 25, "Accounting for Stock Issued to Employees".
Earnings (Loss) Per Share: Basic earnings (loss) per share was
determined by dividing net income (loss) applicable to common stockholders by
the weighted average number of common shares outstanding for the period. Diluted
earnings (loss) per share amounts were similarly computed, but included the
effect, when dilutive, of the Company's weighted average number of stock options
outstanding and the average number of common shares that would be issuable upon
conversion of the Company's convertible preferred securities and the exercise of
the Company's common stock purchase warrants. To determine diluted earnings per
share, dividends on the Company's Series A Preferred Stock have been added back
to net income in fiscal 2002 to reflect assumed conversions. Potentially
dilutive securities have not been considered in the computation of loss per
share in fiscal 2001 and 2000 because the effect would be antidilutive.
F-9
Earnings (loss) per share amounts are calculated as follows (in thousands except
per share amounts):
2002 2001 2000
---- ---- ----
Net income (loss) applicable to common
stockholders $58,690 $(50,117) $(9,741)
Plus dividends on the assumed conversion of
the Series A Preferred Stock ............. 4,789 -- --
-----------------------------
Diluted net income (loss) .................. $63,479 $(50,117) $(9,741)
-----------------------------
Average shares outstanding:
Basic ...................................... 4,834 4,706 4,256
Effect of dilutive securities:
Stock options ......................... 151 -- --
Common stock purchase warrants ........ 2,597 -- --
Series B Preferred Stock .............. 2,461 -- --
Series A Preferred Stock .............. 88,850 -- --
-----------------------------
Diluted shares outstanding 98,893 4,706 4,256
-----------------------------
Earnings (loss) per Share:
Basic ...................................... $ 12.14 $ (10.65) $ (2.29)
-----------------------------
Diluted .................................... $ 0.64 $ (10.65) $ (2.29)
-----------------------------
Sources of System Equipment and Inventory: Teletouch does not
manufacture its paging network equipment, including but not limited to antennas,
transmitters, and paging terminals, nor does it manufacture any of the pagers,
cellular telephones, two-way radios, consumer electronics or telemetry devices
it sells or leases. This equipment is available for purchase from multiple
sources, and the Company anticipates that such equipment will continue to be
available in the foreseeable future, consistent with normal manufacturing and
delivery lead times. Because of the high degree of compatibility among different
models of transmitters, computers and other paging and voice mail equipment
manufactured by its suppliers, Teletouch's paging network is not dependent upon
any single source of such equipment. The Company currently purchases pagers and
transmitters from several competing sources. Until fiscal 2001, the Company
purchased its paging terminals from Glenayre Technologies Inc., a leading
manufacturer of mobile communications equipment. During fiscal 2001, Glenayre
announced that it would discontinue manufacturing paging terminals but would
continue to provide technical support for the foreseeable future. Teletouch does
not anticipate that the decision by Glenayre will impact its operations as such
terminal equipment is readily available in the used market.
Concentration of Credit Risk: Teletouch provides paging and other
wireless telecommunications services to a diversified customer base of
businesses and individual consumers, primarily in non-metropolitan areas and
communities in the southeast United States. As a result, no significant
concentration of credit risk exists. The Company performs periodic credit
evaluations of its customers to determine individual customer
F-10
credit risks and promptly terminates services for nonpayment. Credit losses have
been within management's expectations.
Financial Instruments: Management believes that the carrying value of
its financial instruments approximates fair value. It was not practicable in the
prior years to estimate the fair value of the Junior Subordinated Notes given
their unique characteristics and the complexity involved in estimating their
fair value. In May 2002, the Junior Subordinated Notes were cancelled and
delivered to the Company without recourse (see Note B for Debt Restructuring
discussion).
Reclassification: Certain reclassifications have been made in the
fiscal 2001 and 2000 financial statements to conform to the fiscal year 2002
presentation.
New Accounting Pronouncements: In August 2001, the Financial Accounting
Standards Board issued Statement on Financial Accounting Standards No. 144 -
Accounting for the Impairment or Disposal of Long-Lived Assets (SFAS No. 144).
SFAS No. 144 is effective for years beginning after December 15, 2001 and
supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and
for Long-Lived Assets to be Disposed Of. SFAS No. 144 provides a single
accounting model for disposition of long-lived assets. Although retaining many
of the fundamental recognition and measurement provisions of Statement 121, the
new rules significantly change the criteria that would have to be met to
classify an asset as held for sale. The new rules also will supersede the
provisions of the Accounting Principles Board Opinion 30 with regard to
reporting the effects of a disposal of a segment of a business and will require
expected future operating losses from discontinued operations to be displayed in
discontinued operations in the period(s) in which the losses are incurred. In
addition, more dispositions will qualify for discontinued operations treatment
in the income statement. SFAS No. 144 is effective for years beginning after
December 15, 2001. The Company is currently analyzing the implementation
requirements and has not yet determined whether the adoption of SFAS No. 144
will have a material impact on the Company's consolidated balance sheets or its
statements of operations, shareholders' equity and cash flows.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB
Statements Nos. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." SFAS No. 145 requires that gains and losses form extinguishment of
debt be classified as extraordinary items only if they meet the criteria in
Accounting Principles Board Opinion No. 30 ("Opinion No. 30"). Applying the
provision of Opinion No. 30 will distinguish transactions that are part of an
entity's recurring operations from those that are unusual and infrequent and
meet criteria for classification as an extraordinary item. As allowed under the
provision of SFAS No. 145, we have adopted SFAS No. 145 as of May 31, 2002. In
accordance with SFAS No. 145, we have included the gain on the extinguishment of
debt in income before income taxes.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 addresses financial accounting
and reporting for costs associated with exit or disposal activities, such as
restructurings, involuntarily terminating employees and consolidating
facilities. SFAS No. 146 excludes from its scope exit and disposal activities
conducted in connection with a business combination and those activities to
which SFAS Nos. 143 and 144 are applicable. SFAS No. 146 is effective for exit
and disposal activities that are initiated after December 31, 2002. We do not
expect the adoption of this statement to have a material effect on our
consolidated financial position or results of operations.
Risks and Uncertainties: The Company's future results of operations and
financial condition could be impacted by the following factors, among others:
F-11
[X] the ability to finance and manage expected growth;
[X] subscriber attrition and reduction in ARPU;
[X] the impact of competitive services, products and pricing;
[X] the ongoing relationship with the cellular carriers and vendors;
[X] dependence upon key personnel;
[X] legal proceedings;
[X] the Company's ability to maintain compliance with the American Stock
Exchange requirements for continued listing of its common stock;
[X] federal and state governmental regulation of the two-way and cellular
telecommunications industries;
[X] the ability to maintain, operate and upgrade the Company's information
systems network;
[X] the demand for and acceptance of products and services offered;
[X] the migration of subscribers from leased communications products to
purchased products;
[X] the ability to successfully market cellular and other telephony services;
[X] the ability to successfully market and service the telemetry business, and
other new lines of business that the Company may enter in the future;
[X] the ability to maintain compliance with the covenants in the Company's
loan facilities (see Note B);
F-12
NOTE B - DEBT AND EQUITY RESTRUCTURING
Debt consisted of the following at May 31 (in thousands):
2002 2001
---- ----
Pilgrim promissory note ............................ $ 3,060 $ --
TLL note - affiliate ............................... 500 --
FCFC MAP note ...................................... 1,502 --
FCFC term note ..................................... 240 --
Senior debt ........................................ -- 57,322
Junior debt ........................................ -- 21,713
Other .............................................. -- 96
-------- --------
5,302 79,131
Less short-term debt ............................... 1,742 --
Less current portion of long-term debt ............. 1,049 12,196
Less long-term debt classified as current .......... -- 66,935
-------- --------
$ 2,511 $ --
======== ========
As of May 31, 2001, the Company had been unable to amend or negotiate
new terms under the Credit Agreement, which would have enabled the Company to
remain in compliance therewith and thereunder as of May 31, 2001, and for
subsequent periods. The resulting inability to comply with the terms of the
Credit Agreement resulted in the occurrence of Events of Default under the
Credit Agreement which could have permitted the lender to terminate the
commitment and to declare the borrowings totaling $57.3 million to be due and
payable. Also, based on the terms of the Junior Subordinated Note agreement, if
the lender had declared the Company not in compliance with the terms of the
Credit Agreement, then by definition it would not have been in compliance with
the terms of the Junior Subordinated Note Agreement resulting in an additional
$22.3 million becoming due and payable.
Restructure of Senior Debt
On May 20, 2002, pursuant to agreements executed on May 17, 2002,
Teletouch reorganized its debt, retiring approximately $57,100,000 in
outstanding principal and $3,600,000 in accrued interest in senior debt owed by
Teletouch under its senior credit agreement to a syndicate of commercial
lenders, by paying those lenders an aggregate cash amount of $9,800,000 and
delivering a Promissory Note in the principal amount of $2,750,000 to one of the
lenders, ING Prime Rate Trust (formerly known as Pilgrim America Prime Rate
Trust) ("Pilgrim") (the "Debt Reorganization"). The Second Amended and Restated
Credit Agreement (the "Amended Credit Agreement") dated as of May 17, 2002 by
and among Teletouch and Pilgrim, as administrative agent for the lender, which
amended and restated the prior credit agreement. effected the Debt
Reorganization and resulted in the reduction of the aggregate principal debt
under the debt facility to $2,750,000.
The restructured debt outstanding under the Amended Credit Agreement is
collateralized by assets of Teletouch and its subsidiaries including (1) certain
real property owned by Teletouch in Tyler, Texas, (2) all of the capital stock
of Teletouch Licenses, Inc. ("TLI"), a wholly-owned subsidiary of Teletouch,
that owns the paging and other licenses utilized in Teletouch's operations, (3)
all of Teletouch's and TLI's respective rights in the License Management
Agreement between Teletouch and TLI, pursuant to which Teletouch manages and
utilizes the licenses owned by TLL, and (4) certain other collateral as set
forth in the Amended Credit
F-13
Agreement, but excluding the collateral securing the First Community Financial
Corporation debt facility described below. See "Agreements with First Community
Financial Corporation".
The Amended Credit Agreement requires that the $2,750,000 in principal due
under the new loan be repaid in 36 equal monthly installments of principal and
interest in the amount of $87,449 commencing June 1, 2002 with interest accruing
at an annual rate of nine percent. In addition, Teletouch must make certain
mandatory pre-payments to Pilgrim based on certain calculations for events or
occurrences arising from any of the following: excess cash flow, casualty
events, or debt and equity issuances or sale of assets, as defined by the
applicable agreements. The Amended Credit Agreement contains a number of
prohibitions and limitations of Teletouch's activities, including a prohibition
of the payment of dividends by Teletouch. Failure to comply with the terms of
the Amended Credit Agreement will result in an event of default which in turn
will allow Pilgrim to terminate the commitment and to declare the borrowings to
be due and payable. The new note is collateralized by a new deed of trust, an
assignment of rents and leases, an agreement collateralizing all of the capital
stock of TLI, and a fixture filing on certain real property in Tyler, Texas.
In order to complete the transaction, Teletouch entered into new credit
agreements with First Community Financial Corporation and TLL Partners. Proceeds
from these facilities combined with working capital from the Company were used
to fund the settlement.
Agreements with First Community Financial Corporation ("FCFC")
Concurrent with the restructure of the senior debt, Teletouch executed two
promissory notes in favor of FCFC, (a) a $2,000,000 Multiple Advance Promissory
Note ("MAP Note") and (b) a Term Promissory Note in the initial principal amount
of $250,000 ("Term Note", and together with the MAP Note, the "Credit
Facility"). Both notes are collateralized by an accounts receivable security
agreement ("FCFC Security Agreement") which gives FCFC a superior priority
security interest in all accounts receivable and substantially all other assets
of the Company, excluding its FCC licenses and certain real property. FCFC is an
unrelated third party with no prior relationships with the Company or its
affiliates.
The MAP Note provides for a revolving line of credit of up to a maximum
amount of $2,000,000. The MAP Note bears interest at a floating rate of 5.25%
above the prime rate of Bank One Arizona, Phoenix, Arizona. The interest rate
cannot be less than an annual rate of 10% and interest is payable on the MAP
Note on the first day of each month on which there is an outstanding
indebtedness under the MAP Note. In addition, Teletouch must make a minimum
interest payment of $5,000 each month. Borrowings under the MAP Note are limited
to amounts which, together with amounts previously borrowed, do not exceed a
borrowing base. This borrowing base is defined as 75% of the Company's eligible
commercial accounts receivable and 50% of the Company's eligible reseller
accounts receivable, with certain adjustments. Repayments under the MAP Note
have been arranged by assigning the proceeds of the Company's lockbox to FCFC.
Deposits into the lockbox are transferred automatically each day to FCFC. No
advances will be made by FCFC if an event of default (as that term is defined
under the FCFC Security Agreement) occurs and Teletouch fails to cure the event
of default. The MAP Note matures upon the termination of the FCFC Security
Agreement. The FCFC Security Agreement provides for an initial term of two years
from date of execution and subsequent one-year renewal terms. In consideration
for establishing the line of credit, Teletouch paid to FCFC a commitment and
funding fee of 1.5% of the line of credit amount, or $30,000, on the date the
Company executed the MAP Note. In the event FCFC and Teletouch agree to extend
the term of the MAP Note, Teletouch will pay an additional 0.5%,or $10,000, of
the line of credit amount on each anniversary of any MAP Note extensions.
F-14
The Term Note requires principal payments in the amount of $5,000 be made
to FCFC in 50 consecutive weekly installments. Interest on the principal amount
then outstanding is paid monthly. The Term Note bears the same interest rate
terms as the MAP Note. The Term Note is also secured by the FCFC Security
Agreement. Teletouch paid FCFC a funding and commitment fee of $3,750 upon
execution of the Term Note.
In the event that the amount under the Credit Facility is increased,
Teletouch agreed to pay an additional fee of 1.0% of the additional commitment
amount to FCFC. Amounts outstanding under the Credit Facility rank senior to
amounts outstanding with each of TLL Partners and Pilgrim.
Agreement with TLL Partners
On May 17, 2002, the Company entered into a note agreement with TLL
Partners ("TLL Note"), an entity controlled by Robert McMurrey, Chairman of
Teletouch, which allows for borrowings in the aggregate principal amount of
$2,200,000. The outstanding principal and accrued interest becomes payable in
full May 17, 2007 and accrues interest at the rate of 10% annually. The TLL Note
is subordinated to the interests of FCFC and Pilgrim's interest and does not
require the maintenance of any financial or operating covenants. As of May 31,
2002, borrowings under the TLL Note totaled $500,000.
Settlement of Junior Debt and Restructuring Agreement
The two holders of the Company's junior subordinated debt (the "Junior
Debt"), GM Holdings and TLL Partners, and the Company reached agreement
concerning the Junior Debt held by each of GM Holdings and TLL Partners
simultaneously with the restructuring of the senior debt discussed above. The
material provisions of the agreement are discussed below.
On May 17, 2002, TLL Partners, paid $800,000 and exercised an option it had
previously purchased to acquire all of the securities held by Continental
Illinois Venture Corporation ("CIVC") which included $22,451,000 of the total
$25,513,000 in outstanding principal and accrued interest under the Junior Debt,
295,649 shares of Teletouch common stock, 2,660,840 warrants to purchase
Teletouch common stock, 36,019 shares of Series B Preferred Stock, 324,173
warrants to purchase Series B Preferred Stock, and 13,200 shares of Series A
Preferred Stock.
Pursuant to the Restructuring Agreement dated May 17, 2002 by and among TLL
Partners, GM Holdings and Teletouch, the two holders of the Company's Junior
Debt reached an agreement that released and discharged Teletouch of its Junior
Debt obligations without recourse. GM Holdings forgave Teletouch's debt
obligations totaling $3,062,000 including accrued interest and TLL Partners
forgave Teletouch's debt obligations totaling $22,451,000.
Robert M. McMurrey is the founder and the Chairman of the Board of
Teletouch. Mr. McMurrey's investments in Teletouch are made through TLL Partners
and RRI. RRI is a Texas corporation of which Robert M. McMurrey is the sole
director and shareholder. The principal business of RRI is the ownership and
operation of oil and gas properties and the ownership of Teletouch securities.
TLL Partners is a Delaware limited liability company of which Robert M. McMurrey
is the sole officer and a wholly-owned subsidiary of Progressive Concepts
Communications, Inc., a Delaware corporation (PCCI). PCCI was formed as the
holding company for Progressive Concepts, Inc., a Texas corporation (PCI), which
is its wholly-owned
F-15
subsidiary. PCCI is controlled by Robert M. McMurrey by virtue of his being the
majority stockholder thereof. The principal business of TLL Partners is to act
as a holding company for Mr. McMurrey's investment in Teletouch securities.
Pursuant to the Restructuring Agreement dated as of May 17, 2002, by and
among TLL Partners, GM Holdings and Teletouch ("Restructuring Parties"), (1) TLL
Partners agreed to extend a five-year loan, subordinated to Pilgrim's interests,
in the aggregate principal amount of $2,200,000 to Teletouch; (2) GM Holdings
agreed to cancel and deliver its Junior Debt, in the amount of approximately
$3,062,000 including accrued and unpaid interest, to Teletouch, fully and freely
releasing and discharging Teletouch of its Junior Debt obligations without
recourse; (3) TLL Partners agreed to cancel and deliver to Teletouch the Junior
Debt it acquired from CIVC, in the amount of approximately $22,451,000 including
accrued and unpaid interest, fully and freely releasing and discharging
Teletouch of its Junior Debt obligations without recourse; (4) subject to
shareholder approval and satisfaction of applicable American Stock Exchange
Rules, Teletouch agreed to issue warrants to purchase 6,000,000 shares of
Teletouch common stock to GM Holdings, at a price of $0.01 per share,
exercisable commencing three years following the date of issue, redeemable at
the option of the holder upon the earlier of a change in control or five years
from the date of issue, and terminating eight years following the date of issue,
and (5) TLL Partners agreed to enter into and to cause each of Rainbow
Resources, Inc., Robert M. McMurrey and J. Kernan Crotty to enter into a
Principal Stockholders Agreement.
Each of the Restructuring Parties agreed that no dividends would accrue, be
declared or made on the Series A Preferred Stock or the Series B Preferred
Stock. GM Holdings also granted TLL Partners, at no cost, an option to purchase
all Series A Preferred Stock and all Series B Preferred Stock held by GM
Holdings (the "GM Securities") for $74,000 aggregate consideration. As an
inducement for entering into the Restructuring Agreement, TLL Partners paid
$59,000 to GM Holdings upon its execution. In addition, Teletouch and TLL
Partners agreed that, subject to shareholder approval and satisfaction of
applicable American Stock Exchange Rules, TLL Partners would sell Teletouch all
of the GM Securities, as well as all of the common Stock, common stock warrants,
Series A Preferred Stock, Series B Preferred Stock and Series B Preferred Stock
Warrants which TLL Partners acquired from CIVC, in exchange for 1,000,000 shares
of Teletouch's Series C Preferred Stock. The agreement contemplates that
1,000,000 shares of the Company's 5,000,000 authorized preferred shares shall be
designated as Series C Preferred Stock, par value $0.001 per share.
The material terms of the Series C Preferred Stock would be as follows:
after payment of all amounts due under the Amended Credit Agreement, (1)
dividends may be paid on a pro rata basis; (2) assets may be distributed upon
voluntary or involuntary liquidation, dissolution or winding up of the Company;
and (3) holders may convert all, but not less than all, of their Series C
Preferred Stock into shares of Common Stock after May 20, 2005, subject to the
following terms and conditions. The Series C Preferred Stock will be convertible
into a number of shares of Common Stock computed by dividing (1) the product of
(A) the number of shares of Series C Preferred Stock to be converted and (B) 22,
by (2) the conversion price in effect at the time of conversion. The conversion
price for delivery of Common Stock shall initially be $0.50 and subject to
adjustment. The Series C Preferred Stock would be non-voting. Holders of Series
C Preferred Stock would be entitled to notice of all stockholders meetings. The
consent of at least a majority of the Series C Preferred Stock (calculated on an
"as converted" basis) is required to effect any amendment (a) to voting powers,
preferences or rights of the holders of Series C Preferred Stock or (b) to the
Certificate of Incorporation authorizing, creating or increasing the amount of
any shares of any class or series prior or equal to the Series C Preferred Stock
for payment of dividends or (c) any merger or consolidation unless the surviving
entity shall have no class or series of shares or securities authorized or
outstanding ranking prior to the Series C Preferred Stock.
F-16
Based on the estimated fair value of the Series C Preferred Stock and the
6,000,000 warrants to purchase common stock to be issued to GM Holdings of
$1,855,000 and $1,345,000, respectively, the Company has recorded a portion of
the fair value of these securities, $742,000 for the Series C Preferred Stock
and $538,000 for the warrants to purchase common stock, as a reduction to the
gain on extinguishment of debt.
In addition, Teletouch, CIVC, CIVC Partners, GM Holdings and certain
Teletouch stockholders (the "Stockholders") entered into a Termination
Agreement. The Termination Agreement requires Teletouch, CIVC, CIVC Partners, GM
Holdings and the Stockholders to release each other from liability connected
with the following investment agreements: (1) the Amended and Restated
Subordinated Note, Preferred Stock and Warrant Purchase Agreement dated as of
August 3, 1995; (2) the Stockholders Agreement dated as of August 3, 1995; (3)
the Registration Agreement dated as of August 3, 1995; (4) the Warrant Agreement
dated as of August 3, 1995 and (5) the Option and Securities Purchase Agreement
dated August 24, 2001.
The gain on extinguishment of debt for the year ended May 31, 2002, of
approximately $69,600,000 was calculated as follows:
-----------------------------------------------------------------------------------------------
-----------------------------------------------------------------------------------------------
Senior debt, including accrued interest, extinguished $60,700,000
-----------------------------------------------------------------------------------------------
Junior subordinated debt extinguished 25,500,000
-----------------------------------------------------------------------------------------------
Total 86,200,000
-----------------------------------------------------------------------------------------------
-----------------------------------------------------------------------------------------------
Less:
-----------------------------------------------------------------------------------------------
Cash paid 9,800,000
-----------------------------------------------------------------------------------------------
Pilgrim promissory note, including interest to be paid 3,200,000
-----------------------------------------------------------------------------------------------
Allocated portion of the fair value of the Series C Preferred Stock 700,000
-----------------------------------------------------------------------------------------------
Allocated portion of the fair value of the 6,000,000 warrants to purchase common
stock 500,000
-----------------------------------------------------------------------------------------------
Allocated portion of cash paid by significant shareholder 400,000
-----------------------------------------------------------------------------------------------
Write-off of related debt issue costs 1,100,000
-----------------------------------------------------------------------------------------------
Fees and expenses incurred 900,000
-----------------------------------------------------------------------------------------------
-----------------------------------------------------------------------------------------------
Gain on extinguishment of debt $69,600,000
-----------------------------------------------------------------------------------------------
Maturities: Scheduled maturities of debt outstanding at May 31, 2002
are as follows: 2003 - $2.8 million; 2004 - $1.0 million; 2005 - $1.0 million;
2006 - $0 million; 2007 - $0.5 million.
Interest: Cash paid for interest during 2002, 2001, and 2000 was
approximately $0.3 million, $5.4 million, and $4.7 million, respectively.
NOTE C - ACQUISITIONS
On September 1, 2000, Teletouch acquired substantially all of the
assets of Snider Communications Corporation ("Snider"), a corporation
headquartered in Little Rock, Arkansas, which provides statewide wireless
messaging coverage in Arkansas. As part of the purchase, Teletouch acquired
approximately 13,000
F-17
additional paging subscribers. The total purchase price for Snider was
approximately $1.7 million which consisted of 600,000 shares of Teletouch's
common stock valued at $1.5 million and approximately $0.2 million in other cash
expenditures related to closing. The acquisition was accounted for using the
purchase method of accounting and the total purchase price was allocated as
follows: $1,000,000 to property, plant and equipment, $650,000 to subscriber
bases, $150,000 to FCC licenses, $10,000 to a non-compete agreement, $7,000 to
inventory, and $115,000 to certain liabilities. The results of operations of the
acquisition, which are not material to the consolidated operations, are included
with that of the Company from the date of closing.
On March 31, 2000, Teletouch acquired substantially all the assets of
EASTEX Communications, Inc. for consideration of approximately $485,000. An
initial payment of approximately $277,000 was paid in cash, and the remaining
consideration will be paid in equal monthly installments over the next two
years. The acquisition was accounted for using the purchase method of
accounting, and the total purchase price was allocated as follows: $40,000 to
property, plant, and equipment; $20,000 to inventory; $181,000 to FCC licenses;
$151,000 to subscriber bases; $5,000 to a non-compete agreement; and the
remaining amount to goodwill. The results of operations of the acquisition,
which are not material to consolidated operations, are included with that of the
Company from the date of closing.
NOTE D - CERTIFICATES OF DEPOSIT
As of May 31, 2002 and 2001, Teletouch had deposited $0 and $101,000
into one-year certificates of deposits with banks to support letters of credit
issued to cellular service and paging equipment providers.
F-18
NOTE E - PROPERTY, PLANT AND EQUIPMENT
Property, plant and equipment consisted of the following (in thousands):
................................ 2002 2001
-------- --------
Leased pagers ................ 5,431 5,900
Paging infrastructure ........ 19,825 19,757
Buildings and improvements ... 1,367 2,185
Other equipment .............. 7,607 7,233
-------- --------
34,230 35,075
Accumulated depreciation ..... (18,571) (16,591)
-------- --------
$ 15,659 $ 18,484
======== ========
Depreciation expense was $6.3 million, $6.8 million and $6.4 million in
fiscal 2002, 2001, and 2000, respectively.
NOTE F - PROVISION FOR LEASE ABANDONMENT AND OTHER COSTS
In May 2002, the Company completed a review of the financial
performance of its retail stores. This review resulted in the decision to close
22 of the Company's 66 locations. As of May 31, 2002 the Company had completed
the closure of 9 of its retail locations. Provisions for estimated losses on the
abandonment of certain leased retail space were $488,000 and the loss recorded
on the abandonment of related leasehold improvement costs was $120,000 during
fiscal 2002. The remaining liability at May 31, 2002 was $488,000 and is
expected to be paid through 2007. Although the Company does not anticipate
significant changes, the actual costs may differ from these estimates.
NOTE G - INCOME TAXES
Teletouch uses the liability method to account for income taxes. Under
this method, deferred income tax assets and liabilities are determined based on
differences between the financial reporting and tax bases of assets and
liabilities and are measured using the enacted tax rates that are expected to be
in effect when the differences reverse.
The Company made no cash payments for federal income taxes in fiscal
2002, 2001 and 2000.
The Company's net operating loss carryforwards were reduced to $0 at
May 31, 2002 from approximately $29.5 million at May 31, 2001. Other deferred
tax assets were reduced as well. This reduction occurred due to the attribute
reduction rules of Internal Revenue Code Section 108 related to the Company's
debt restructuring. A corresponding reduction to the valuation allowance
previously recorded against these assets has also been recorded.
F-19
Significant components of Teletouch's deferred income tax liabilities
and assets as of May 31, 2002 and 2001 follow (in thousands):
2002 2001
---- ----
Deferred income tax liabilities:
Depreciation Methods ............................. $ 2,362 $ 2,192
Other ............................................ 100 100
------- ---------
Total deferred income tax liabilities ............ $ 2,462 $ 2,292
Deferred income tax assets:
Intangible assets ............................. 598 11,396
Allowance for doubtful accounts ............... 88 88
Unrecognized gain ............................. 790 933
Alternative minimum tax credit carry forward .. -- 85
Net operating loss carry forward .............. -- 10,030
Valuation allowance ........................... -- (21,226)
---- -- ---------
Total deferred income tax assets ................. 1,476 1,306
------- ---------
Net deferred income tax liability ................ $ 986 $ 986
======= =========
A reconciliation from the federal statutory income tax rate to the
effective income tax rate for the fiscal years 2002, 2001, and 2000 follows:
2002 2001 2000
---- ---- ----
Statutory income tax rate (benefit) ................ 34.0% (34.0)% (34.0)%
Change in valuation allowance ...................... (34.0)% 26.9% 30.7%
Expenses not deductible for tax purposes, primarily
amortization of intangible assets ............... -- 7.2% 3.3%
Other .............................................. -- (0.1%) --
------ ------ ------
Effective income tax rate .......................... -- -- --
====== ====== ======
NOTE H - COMMITMENTS AND CONTINGENCIES
Teletouch leases buildings, transmission towers, and equipment under
non-cancelable operating leases. These leases contain various renewal terms and
restrictions as to use of the property, and some leases have built-in escalation
clauses. Rent expense (in thousands) was $3,960, $3,855, and $3,234 in fiscal
2002, 2001, and 2000, respectively. Future minimum rental commitments under
non-cancelable leases are as follows (in thousands):
2003 .......................................... $ 2,654
2004 .......................................... 2,022
2005 .......................................... 1,325
2006. ......................................... 827
2007. ......................................... 721
2008 and thereafter. .......................... 948
-------
$ 8,497
=======
F-20
Teletouch is party to various legal proceedings arising in the ordinary
course of business. The Company believes there is no proceeding, either
threatened or pending, against it that will result in a material adverse effect
on its results of operations or financial condition.
NOTE I - SHAREHOLDERS' EQUITY
Capital Structure: Teletouch's authorized capital structure allows for
the issuance of 25,000,000 shares of common stock with a $0.001 par value and
5,000,000 shares of preferred stock with a $0.001 par value.
In connection with its initial public offering, Teletouch issued to
certain consultants the Consultant Warrants to purchase 266,666 shares of common
stock at an exercise price of $0.75 per share. The Consultant Warrants, unless
exercised, expire in January 2004.
In connection with the acquisition of Dial-A-Page, Inc., Teletouch
designated 15,000 shares of authorized preferred stock as "Series A 14%
Cumulative Preferred Stock" (the "Series A Preferred Stock") and 411,457 shares
as "Series B Preferred Stock". The Series A Preferred Stock carries an initial
liquidation value of $1,000 per share while the Series B Preferred Stock is
convertible into 6 shares of Common Stock. The Series A Preferred Stock and the
Series B Preferred Stock are non-voting except as to the merger or consolidation
with another entity or entities, or the sale of substantially all of the assets
of the Company. The holder of the Series A Preferred Stock and the Series B
Preferred Stock has the right to require that its securities be registered for
public sale two years after the conversion into common stock.
On May 17, 2002, TLL Partners, exercised an option it had previously
purchased to acquire all of the securities held by Continental Illinois Venture
Corporation ("CIVC") which included 295,649 shares of common stock, 36,019
shares of Series B Preferred Stock, 2,660,840 warrants to purchase common stock,
324,173 warrants to purchase Series B Preferred Stock and 13,200 shares of
Series A Preferred Stock from CIVC (see Note B for further discussion).
There were 15,000 shares of the Series A Preferred Stock originally
sold by the Company to the CIVC Investors, with an initial liquidation value of
$15 million ($38.2 million including accrued dividends at May 31, 2002). TLL
Partners purchased these shares of Series A Preferred Stock on May 17, 2002.
Dividends on the Series A Preferred Stock accrue at the rate of 14% per annum
and compound on a quarterly basis. Each share of Series A Preferred Stock, as
well as dividends in arrears, are convertible after August 3, 2003 into common
stock, at the option of the Series A Preferred Shareholder, based on a stated
formula. As of May 31, 2002, the conversion of Series A Preferred Stock would
result in an estimated issuance of 2.9 million shares of common stock (7.3
million shares of common stock if dividends in arrears are paid "in kind") using
the conversion price stated in the agreement. However, the agreement states that
the conversion price will in no event be more than the market price of the
Company's common stock. Based on the closing market price of the Company's stock
on May 31, 2002, the conversion of Series A Preferred Stock would result in an
estimated issuance of 33.3 million shares of common stock (85.0 million shares
of common stock if dividends in arrears are paid "in kind").
The CIVC Investors also originally received warrants, exercisable at a
nominal price, to purchase 3,377,301 shares of Teletouch common stock (the
"Common Stock Purchase Warrants") and 411,457 shares of Series B Preferred Stock
(the "Series B Preferred Stock Purchase Warrants"). As of May 31, 2002, holders
have exercised an aggregate of 716,461 Common Stock Purchase Warrants and 87,284
Series B
F-21
Preferred Stock Purchase Warrants. The remaining 324,173 Series B Preferred
Stock Purchase Warrants and the remaining 2,660,840 Common Stock Purchase
Warrants were purchased by TLL Partners on May 17, 2002 (see Note B)
As discussed in Note B, the Amended Credit Agreement prohibits the
payment of dividends on the Series A Preferred Stock. At May 31, 2002,
approximately $23.3 million of dividends ($1,550.00 per share) were in arrears
(or 4.4 million shares of common stock if paid "in kind" using the conversion
price stated in the agreement and 51.7 million shares of common stock if paid
"in kind" using the closing market price of the Company's common stock on May
31, 2002, as previously discussed). Dividends earned per share in fiscal years
2002, 2001, and 2000 were $319.28, $286.81 and $247.92, respectively.
Common stock reserved: The following represents the shares of common
stock to be issued on an "if-converted" basis at May 31, 2002. As discussed in
Note B, subsequent to May 31, 2002 and subject to shareholder approval, the
Company will issue 1,000,000 shares of Series C Preferred Stock initially
convertible into 44,000,000 shares of common stock to TLL Partners and warrants
to purchase 6,000,000 shares of common stock to GM Holdings. These securities
will be issued in exchange for the Series A Preferred Stock, Common Stock
Purchase Warrants, and Series B Preferred Stock identified below. (in
thousands):
Conversion of Series A Preferred Stock 85,009
Common Stock Purchase Warrants 2,661
Conversion of Series B Preferred Stock 2,457
Consultant Warrants 266
1994 Stock Option and Stock Appreciation Rights Plan 742
------
91,135
======
*using the conversion price as of May 31, 2002 and including dividends payable
in common stock
NOTE J - STOCK OPTIONS
Teletouch's 1994 Stock Option and Stock Appreciation Rights Plan (the
"1994 Plan") was adopted in July 1994 and provides for the granting of incentive
and non-incentive stock options and stock appreciation rights to officers,
directors, employees and consultants to purchase not more than an aggregate of
1,000,000 shares of Common Stock. The Compensation Committee of the Board of
Directors administers the Plan and has authority to determine the optionees to
whom awards will be made, the terms of vesting and forfeiture, the amount of the
awards, and other terms. Under the terms of the Plan, the option price approved
by the Board of Directors shall not be less than the fair market value of the
common stock at date of grant. Exercise prices in the following table have been
adjusted to give effect to the repricing that took effect in December 1999 and
November 2001 (discussed below).
F-22
Weighted
Stock option activity has been as follows: Average
Number of Exercise Price Exercise Price
Shares Per Share Per Share
---------- -------------- --------------
Options outstanding at May 31, 1999 ................. 663,988 $0.24 - $6.00 $1.79
Options granted to officers and management ...... 105,000 $0.24 - $0.81 $0.98
Options granted to directors .................... 2,664 $0.24 - $0.81 $0.53
Options forfeited ............................... (156,664) $3.56 - $6.00 $4.42
--------- ------------- --------
Options outstanding at May 31, 2000 ................. 614,988 $0.24 - $3.38 $1.12
--------- ------------- --------
Options granted to directors .................... 270,331 $0.24 - $2.26 $1.50
Options forfeited ............................... (65,000) $0.69 - $1.88 $1.43
--------- ------------- --------
Options outstanding at May 31, 2001 ................. 820,319 $0.24 - $3.38 $1.36
--------- ------------- --------
Options granted to officers and management ...... 95,000 $0.24 $0.24
Options granted to directors .................... 358,664 $0.18 - $0.61 $0.28
Options forfeited ............................... (531,661) $0.81 - $2.26 $1.31
--------- ------------- --------
Options outstanding at May 31,2002 .................. 742,322 $0.24 - $3.38 $0.45
--------- ------------- --------
Exercisable at May 31, 2002 ......................... 266,559 $0.79
--------- --------
Exercisable at May 31, 2001 ......................... 443,392 $1.37
--------- --------
Exercisable at May 31, 2000 ......................... 277,677 $1.30
--------- --------
Weighted-average fair value of options
granted during 2002 .......................... $0.20
-----
Weighted-average fair value of options
granted during 2001 .......................... $1.51
-----
Weighted-average fair value of options
granted during 2000 .......................... $0.62
-----
Weighted-average remaining
contractual life ............................. 7.0 years
Pro forma information regarding net loss and loss per share is required
by SFAS 123, and has been determined as if Teletouch had accounted for its stock
options under the fair value method of that statement. The fair value for these
options was estimated at the date of grant using a binomial option pricing model
with the following weighted-average assumptions for 2002, 2001, and 2000,
respectively: risk-free interest rates of 3.70%, 5.50%, and 6.50%; dividend
yields of 0% for all years; volatility factors of the expected market price of
the Company's common stock of 1.31 in 2002, 1.33 in 2001, and .70 in 2000, and a
weighted-average expected life of the option of 2 to 5 years.
Binomial option valuation models are used in estimating the fair value
of traded options that have no vesting restrictions and are fully transferable.
In addition, option valuation models require the input of highly subjective
assumptions, including the expected stock price volatility. Because Teletouch's
stock options have
F-23
characteristics significantly different from those of traded options, and
because changes in the subjective input assumptions can materially affect the
fair value estimate, in management's opinion, the existing models do not
necessarily provide a reliable single measure of the fair value of its stock
options.
For purposes of pro forma disclosures, the estimated fair value of the
options is amortized to expense on a straight-line basis over the options'
vesting period. The Company's pro forma information follows (in thousands,
except per share information):
2002 2001 2000
---- ---- ----
Pro forma net income (loss) applicable to common stockholders $58,816 $(50,293) $(9,895)
Pro forma earnings (loss) per share:
Basic $ 12.17 $ (10.69) $ (2.32)
Diluted $ 0.64 $ (10.69) $ (2.32)
In November 2001, the Company reduced the exercise price of all
outstanding employee and director owned stock options to $0.24, which was equal
to the average of the closing price of the Company's common stock for the
20-trading days prior to November 21, 2001. Compensation expense associated with
these repriced options will be measured and recognized in accordance with the
recently issued Financial Accounting Standards Board Interpretation No. 44,
"Accounting for Certain Transactions Involving Stock Compensation". Compensation
expense of $31,000 was recorded in fiscal 2002 related to these options. No
compensation expense was recorded for these options during fiscal years 2001 and
2000.
NOTE K - RETIREMENT PLAN
Effective October 1995, Teletouch began sponsoring a defined
contribution retirement plan covering substantially all of its employees.
Employees who are at least 21 years of age are eligible to participate. Eligible
employees may contribute up to a maximum of 16% of their earnings. The Company
pays the administrative fees of the plan and began matching 75% of the first 6%
of employees' contributions in October 1998. Contributions of approximately
$251,000, $265,000 and $220,000 were made in fiscal years 2002, 2001, and 2000,
respectively.
NOTE L - RELATED PARTY TRANSACTIONS
The Company had certain related party sales during fiscal year 2002 to
a company controlled by Robert McMurrey, Teletouch's Chairman. Teletouch sold
both paging and cellular inventory to this related party and recognized
approximately $156,000 in revenue and $28,000 of gross margin on these
transactions during fiscal year 2002.
F-24
NOTE M - SELECTED QUARTERLY FINANCIAL DATA
Summarized quarterly financial data for the years ended May 31, 2002
and 2001 are set forth below (in thousands except per share amounts):
Three Months Ended
------------------------------------------------------------------------
Fiscal 2002 August 31, November 30, February 28, May 31,
----------- 2001 2001 2002 2002
------------- ------------------ ------------------ ------------
Service, rent, and maintenance revenue $ 9,410 $ 8,709 $ 8,291 $ 7,925
Product sales revenue 2,931 2,958 3,372 2,973
------------- ------------------ ------------------ ------------
Total Revenues 12,341 11,667 11,663 10,898
Net book value of products sold (2,230) (2,065) (2,312) (1,932)
------------- ------------------ ------------------ ------------
10,111 9,602 9,351 8,966
Operating income (loss) 872 697 570 (710)
Net income (loss) (2) (1,182) (1,207) (1,308) 67,176
Earnings (loss) per share - basic (2) (0.48) (0.50) (0.53) 13.78
Earnings (loss) per share - diluted (2) (0.48) (0.50) (0.53) 0.68
Three Months Ended
------------------------------------------------------------------------
Fiscal 2001 August 31, November 30, February 29, May 31,
----------- 2000 2000 2001 2001
------------- ------------------ ------------------ ------------
Service, rent, and maintenance revenue $ 11,223 $ 11,205 $ 10,636 $ 9,865
Product sales revenue 2,994 3,070 4,037 3,265
------------- ------------------ ------------------ ------------
Total Revenues 14,217 14,275 14,673 13,130
Net book value of products sold (2,877) (3,509) (3,707) (3,313)
------------- ------------------ ------------------ ------------
11,340 10,766 10,966 9,817
Operating income (loss) (1) 186 625 (318) (36,940)
Net loss (1) (2,031) (1,604) (2,568) (39,612)
Loss per share - basic and diluted (1) (0.71) (0.56) (0.74) (8.11)
(1) Includes the impairment charges recorded in the three month period ended
May 31, 2001. See Note A.
(2) Includes the gain on extinguishment of debt recorded in the three month
period ended May 31, 2002. See Note B.
F-25
SCHEDULE II
TELETOUCH COMMUNICATIONS, INC.
Valuation and Qualifying Accounts and Reserves
(in thousands)
Year Ended May 31
Allowance for Doubtful Accounts
2002 2001 2000
Balance at beginning of year $ 238 $ 213 $ 167
Additions charged to income 843 1,647 1,393
Balances written off, net of recoveries (843) (1,622) (1,347)
============ ============= ============
Balance at end of year $ 238 $ 238 $ 213
============ ============= ============
=============================================================================================================
F-26
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its behalf by
the undersigned, thereunto duly authorized, on August 28, 2002.
TELETOUCH COMMUNICATIONS, INC.
By: /s/ Robert M. McMurrey
--------------------------
Robert M. McMurrey, Chairman
In accordance with the Securities Exchange Act of 1934, this report has
been signed by the following persons on behalf of the Registrant, in the
capacities and on the dates indicated.
Signature Title Date
- --------- ----- ----
/s/ Robert M. McMurrey Chairman of the Board August 28, 2002
- -----------------------------
Robert M. McMurrey
/s/ J. Kernan Crotty President, August 28, 2002
- ----------------------------- Chief Financial Officer,
J. Kernan Crotty principal executive officer and
principal financial officer, Director
/s/ Clifford E. McFarland Director August 27, 2002
- -----------------------------
Clifford E. McFarland
Director August , 2002
- -----------------------------
Henry Y.L. Toh
Director August , 2002
- -----------------------------
Marshall G. Webb
/s/ Susan Stranahan Ciallella Director August 28, 2002
- -----------------------------
Susan Stranahan Ciallella
26