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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 2001
OR
[ ] TRANSITIONAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 For the transition period from __________ to
Commission File Number 1-11484
HUNGARIAN TELEPHONE AND CABLE CORP.
(Exact Name of Registrant as specified in its charter)
Delaware 13-3652685
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
32 Center Street, Darien, CT 06820
(Address of Principal Executive Offices) (Zip Code)
Registrant's telephone number, including area code: (203) 656-3882
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class Name of Each Exchange on Which Registered
------------------- -----------------------------------------
Common Stock, par value $.001 American Stock Exchange
per share
Securities registered pursuant to Section 12(g) of the Act: None
Indicate by check mark whether the Registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports), and (2) has been subject to such
filing requirement for the past 90 days.
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 March 25, 2002, 12,103,180 shares of the Registrant's Common Stock
were outstanding, of which 12,095,467 were held by non-affiliates of the
Registrant. The aggregate market value of the Registrant's Common Stock held by
non-affiliates, computed by reference to the closing price of the Common Stock
on the American Stock Exchange as of March 25, 2002, was $61,686,881. The
exclusion of shares owned by any person from such amount shall not be deemed an
admission by the Registrant that such person is an affiliate of the Registrant.
Documents Incorporated by Reference
Part III - Portions of the Registrant's proxy statement for the Annual
Meeting of Stockholders for the fiscal year ended December 31, 2001.
CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS
Certain statements contained herein which express "belief,"
"anticipation," "expectation," or "intention" or any other projection, insofar
as they may apply prospectively and are not historical facts, are
"forward-looking" statements within the meaning of Section 27A of the
Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934.
Because such statements include risks and uncertainties, actual results may
differ materially from those expressed or implied by such forward-looking
statements. Factors that could cause actual results to differ materially from
those expressed or implied by such forward-looking statements include, but are
not limited to, the factors set forth in Item 7 "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and Item 7A
"Quantitative and Qualitative Disclosures about Market Risk."
PART I
In this Form 10-K, all references to "$" or "U.S. dollars" are to United
States dollars, all references to "EUR" or "euros" are to the euro which is the
currency of the European Monetary Union, and all references to "HUF" or
"forints" are to Hungarian forints. Certain amounts stated in euros and forints
herein also have been stated in U.S. dollars solely for the informational
purposes of the reader, and should not be construed as a representation that
such euro or forint amounts actually represent such U.S. dollar amounts or
could be, or could have been, converted into U.S. dollars at the rate indicated
or at any other rate. Unless otherwise stated or the context otherwise
requires, such amounts have been stated at December 31, 2001 exchange rates.
The forint/U.S. dollar middle exchange rate as of December 31, 2001 was
approximately 279.03 forints per U.S. dollar.
ITEM 1. BUSINESS
COMPANY OVERVIEW
Hungarian Telephone and Cable Corp. ("HTCC" or the "Registrant" and,
together with its consolidated subsidiaries, the "Company") provides basic
telephone services in three defined regions within the Republic of Hungary
("Bekes", "Nograd" and "Papa/Sarvar", each an "Operating Area" and together, the
"Operating Areas") pursuant to five separate 25-year telecommunications
concessions granted by the Hungarian government. Until December 31, 2001 HTCC
provided its services through its four majority-owned Hungarian operating
subsidiaries in its five concession areas. As of January 1, 2002 HTCC merged
its four Hungarian operating subsidiaries into one Hungarian operating
subsidiary, Hungarotel T[aacute]vk[ouml]zlesi Rt. ("Hungarotel" or the
"Operating Company") in which HTCC has a 99.9% equity ownership stake.
On January 1, 2002 HTCC also consolidated the five concession areas into three
Operating Areas to realize operational efficiencies. Hungarotel owns and
operates virtually all existing public telephone exchanges and local loop
telecommunications network facilities in its Operating Areas and is the
exclusive provider through November 1, 2002 of non-cellular local voice
telephone services in such areas.
The Company acquired its concession rights from the Hungarian Ministry of
Transportation, Telecommunications and Water Management (the "TTW Ministry")
for $11.5 million (at historical exchange rates) and purchased the existing
telecommunications infrastructure in the Operating Areas in 1995 and 1996,
including approximately 61,400 access lines, from Magyar
T[aacute]vk[ouml]zl[eacute]si Rt. ("Matav"),the
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formerly State-controlled monopoly telephone company, for $23.2 million (at
historical exchange rates). Since the acquisition of such existing networks, the
Company has incurred capital expenditures through December 31, 2001 of $197
million (at historical exchange rates) to expand and upgrade the network
facilities which has resulted in the completion of a modern telecommunications
network in each of the Operating Areas. As of December 31, 2001, the Company's
telecommunications networks had approximately 203,500 access lines in service,
an addition of approximately 142,100 access lines to the 61,400 access lines
acquired from Matav. The Company's networks have the capacity, with only normal
additional capital expenditures required, to provide basic telephone services to
virtually all of the estimated 279,600 homes and 38,500 business and other
institutional subscribers (including government institutions) within its
Operating Areas.
The Company completed its network modernization and construction program in each
of its Operating Areas primarily through turnkey construction contracts with
Siemens, Ericsson and F[aacute]zis Telecommunication System Design and
Construction Corporation. The build-out was primarily financed through a $170
million credit facility with Postabank es Takarekpenztar Rt., a Hungarian
commercial bank ("Postabank"), which was subsequently refinanced and a $47.5
million contractor financing facility. See Item 3 "Legal Proceedings," Item 7
"Management's Discussion and Analysis of Financial Condition and Results of
Operations - Liquidity and Capital Resources," and Notes 5 and 8(d) of Notes to
Consolidated Financial Statements.
The following table sets forth certain information as of December 31,
2001 with respect to each of the Operating Areas.
Bekes Nograd Papa/Sarvar Total
----- ------ ----------- -----
Population.......... 391,700 147,900 128,400 668,000
Residences.......... 166,900 62,400 50,300 279,600
Businesses /(1)/.... 23,100 8,900 6,500 38,500
Access Lines:
Residential...... 97,200 39,900 36,700 173,800
Business /(2)/... 17,000 7,100 5,600 29,700
------- ------- ------- -------
Total 114,200 47,000 42,300 203,500
Pay phones.......... 1,074 434 375 1,883
Population
Penetration /(3)/... 29.2% 31.8% 32.9% 30.5%
Residential
Penetration /(4)/.... 58.2% 63.9% 73.0% 62.2%
- ----------------------------------
/(1)/ Represents Company estimates of business and other institutional
subscribers or potential subscribers (including government institutions).
/(2)/ Represents Company estimates of subscribers which are businesses and
other institutional subscribers (including government institutions),
leased lines and pay phones. Includes ISDN equivalent lines.
/(3)/ Population Penetration rate is defined as the number of access lines
per 100 inhabitants.
/(4)/ Residential Penetration rate is defined as the number of residential
access lines per 100 residences.
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The following table sets forth the number of access lines served in each
of the Operating Areas at takeover from Matav and at the end of 1995, 1996,
1997, 1998, 1999, 2000 and 2001.
Takeover 1995 1996 1997 1998 1999 2000 2001
------- ---- ---- ---- ---- ---- ---- ----
Bekes 42,100 42,100 47,800 102,000 105,300 112,300 116,300 114,200
Nograd 13,000 14,200 20,500 35,500 40,000 46,300 47,700 47,000
Papa
/Sarvar 6,300 8,900 25,100 37,600 39,700 41,900 42,900 42,300
------ ------ ------ ------ ------- ------- ------- -------
Total 61,400 65,200 93,400 175,100 185,000 200,500 206,900 203,500
HTCC was organized under the laws of the State of Delaware on March 23,
1992. The Common Stock is traded on the American Stock Exchange under the
symbol "HTC." The Company's United States office is currently located at 32
Center Street, Darien, Connecticut 06820; telephone (203) 656-3882. The
Company's principal office in Hungary is currently located at Ter[eacute]z krt.
46, H-1066, Budapest; telephone (361) 474-7700.
THE REPUBLIC OF HUNGARY
Hungary is located in Central Europe bordering on Austria, Slovenia,
Croatia, Yugoslavia, Romania, Ukraine and Slovakia. Six West European capitals
are within a one-hour flight. Its total area is approximately 93,030 square
kilometers. It has 10 million inhabitants, approximately 1.8 million of whom
reside in Hungary's capital, Budapest.
For nearly 40 years, Hungary was under central state control with a
one-party government and a centrally planned economy. Democracy was restored
and the foundations of a market economy were built between 1988 and 1990. Free
elections were held in 1990. Today, Hungary has a parliamentary democracy with
a single-chamber National Assembly. As a result of a large scale privatization
effort, private enterprise has become the basis of the Hungarian economy.
Today, Hungary is considered one of the most developed countries in
Central and Eastern Europe. Since 1989, foreign direct investment has been
approximately $22.4 billion. Foreign direct investment was approximately $2.5
billion in 2001. Together Hungary, Poland and the Czech Republic are the
recipients of more than 50% of the total foreign direct investment into the
former Communist countries in the region.
Since 1995, the Hungarian government has embarked on an economic
stabilization effort aimed at putting the economy on a sustainable path of
low-inflationary growth. Hungary has experienced the following annual GDP
growth rates since the initiation of that effort: 1.7% in 1995; 1.3% in 1996;
3.5% in 1997; 5% in 1998; 4.9% in 1999; 5.3% in 2000; and 3.8% in 2001. The
unemployment rate has gradually decreased from 11.1% in 1995 to 5.8% in 2001.
The Hungarian inflation rate has been steadily decreasing as well as evidenced
by the following declining annual inflation rates: 28.2% in 1995; 23.6% in
1996; 18.2% in 1997; 14.5% in 1998; 10.0% in 1999; 9.8% in 2000; and 9.2% in
2001.
Hungary's application for membership in the European Union ("EU") was
accepted in 1998. Hungary is now in the process of negotiating the terms of its
accession into the EU. Hungary is not expected to become a member of the EU
until 2004 at the earliest. Hungary joined the North Atlantic
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Treaty Organization in 1999. Hungary is also a member of the World Trade
Organization.
OVERVIEW OF HUNGARIAN TELECOMMUNICATIONS INDUSTRY
The Hungarian Telecommunications Industry Prior to Privatization
In 1989, the Hungarian state-owned Post, Telegraph and Telephone ("PTT")
was divided into three separate companies: the Hungarian Broadcasting Company
("Antenna Hungaria"), the Hungarian Post Office ("Magyar Posta") and Matav. The
Hungarian PTT was historically the exclusive provider of telecommunications
services in Hungary. The Hungarian telecommunications market was significantly
underdeveloped without the necessary investment in the telecommunications
infrastructure necessary to achieve a comparable level of teledensity to that
of Western Europe. As of December 31, 1995, Hungary had a basic telephone
penetration rate of approximately 21 telephone access lines per 100 inhabitants
compared to a European Union average of approximately 48 access lines per 100
inhabitants and a United States average of approximately 60 access lines per
100 inhabitants. Of such access lines in Hungary, approximately 40% were
located in Budapest (in which approximately 18% of Hungary's population
resides). In the Company's Operating Areas, access line penetration was
approximately 9 access lines per 100 inhabitants as of December 31, 1995.
Privatization of Matav and Local Telephone Service
Beginning in 1992, the Hungarian government began the process of
privatizing Hungary's telecommunications industry by selling an initial 30%
stake in Matav (raised to 67% in 1995) to MagyarCom, a company then wholly
owned by Deutsche Telekom AG, the German public telephone operator ("Deutsche
Telekom"), and Ameritech, a United States based telecommunications company. (In
2000 Deutsche Telekom purchased the entire ownership interest of SBC
Communications Inc. (Ameritech's successor) in MagyarCom). In 1997 Matav
completed its initial public offering pursuant to which MagyarCom's stake in
Matav was reduced to approximately 60% and the Hungarian State's stake was
reduced to approximately 6%. The Hungarian State also retained certain
shareholder rights by retaining one "Golden Share." In 1999 the Hungarian State
sold its remaining 6% ownership interest in Matav but retained its "Golden
Share." As of December 31, 2001, MagyarCom owned 59.5% of Matav while 40.5% was
publicly traded.
In 1992 the TTW Ministry divided the country into 54 primary
telecommunications service areas in order to take some of such primary
telecommunications service areas out of Matav's national network with respect
to the provision of local basic telephone service. The TTW ministry allowed
Matav to continue its monopoly in the provision of domestic and international
long distance services through 2001. In 1993, the TTW Ministry solicited bids
for concessions to build, own and operate telecommunications networks in the 25
service areas which had been chosen to exit the Matav system. The TTW Ministry
awarded 23 concessions out of the 25 that the TTW Ministry solicited bids for.
Holders of those 23 concessions today (each a Local Telephone Operator, "LTO",
and together the "LTOs") include: the Company (5 concession areas); Vivendi
Telecom Hungary ("Vivendi") owned by affiliates of Vivendi Universal of France
and General Electric Capital Corp. (9 concession areas); an affiliate of United
Pan-European Communications NV ("UPC") (1 concession area); and Matav (8
concession areas). Matav also retained the rights to service the 2 concession
areas for which there were no successful bidders. Each of the LTOs (including
Matav) received 25 year licenses to provide local basic telephone service with
exclusivity rights in their respective concessions through 2002 (2001 in the
case of Matav except for 5
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areas in which Matav has exclusivity rights through 2002). In addition to the
fees paid to the government which aggregated approximately $80.0 million (at
historical exchange rates), each of the non-Matav LTOs negotiated a separate
asset purchase agreement with Matav for each concession area's existing basic
telephone plant and equipment, which led to the transfer of approximately
260,000 access lines from a total of 1.2 million access lines in the Matav
system. Today Matav's local basic telephone service covers approximately 72% of
Hungary's population and approximately 70% of its geographic area.
Domestic and International Long Distance Services
In 1998 the TTW Ministry awarded Pan-Tel Rt., a Hungarian company
("PanTel") licenses to provide such services as data transmission, voice mail
and other services which were not subject to exclusive concessions. PanTel
built its own countrywide telecommunications network. The current shareholders
of PanTel are M[Aacute]V Rt. (the Hungarian railway company) (10.1%); KFKI
Computer Systems Kft. (a Hungarian information technology firm) (14.7%); and
Royal KPN NV, the Dutch telecommunications company (75.2%).
At the end of 2001 the domestic and international long distance market
was opened up to competition when Matav's right to provide exclusive domestic
and international long distance voice transmission expired.
Cellular Service
In 1993 the TTW Ministry awarded Westel and Pannon licenses to provide
nationwide digital cellular telephone services. Westel already had a license to
provide analog cellular telephone services. Today Matav owns 100% of Westel and
Telenor AS (the Norwegian telecommunications company) owns 100% of Pannon.
In 1999, the TTW Ministry awarded a consortium comprised of Vodafone
Group Plc. (50.1%), RWE Telliance (19.9%), and Antenna Hungaria (30%)
(together, "Vodafone") a digital 1800-megahertz (or DCS frequency) mobile phone
license following a bidding process. Vodafone began operations in late 1999.
The Regulatory Framework
During 2000 the Hungarian government moved the responsibility for the
regulation of telecommunications from the TTW Ministry to the Prime Minister's
Office. The Prime Minister's Office is headed by the Chancellor (who is
effectively the Deputy Prime Minister). An Information Technology Commissioner
was appointed to assist the Chancellor. The Communications Authority, a central
administrative organization, reports to the Chancellor and the Hungarian
government. The Communications Authority is divided into three units: the
Communications Inspectorate; the Regional Communications Office; and the
Communications Arbitration Committee.
The Liberalization Act
In June 2001 the Hungarian government enacted Act XL of 2001 on
Communications (the "Communications Act") which took effect on December 23,
2001. The goal of the Communications Act is to provide for a more liberalized
telecommunications market by making market entry easier, promoting
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competition and harmonizing Hungary's telecommunications laws with those of the
European Union. The Communications Act is a framework piece of legislation with
the detailed governing regulations to be contained in a series of implementing
decrees. See "- Summary of the Liberalization Act" and "- Regulation."
The Hungarian Telecommunications Industry Today
Since 1994 the LTOs and Matav have spent approximately $1 billion (at
historical exchange rates) to build modern state-of-the-art telecommunications
networks throughout Hungary. As a result of such investment, at the end of 2001
Matav had approximately 2.9 million access lines connected to its
telecommunications networks and the other LTOs (including the Company) had over
800,000 access lines connected to their telecommunications networks. At the end
of 2001 the Company had 31 access lines per 100 inhabitants in its Operating
Areas as compared to 37 access lines per 100 inhabitants in all of Hungary.
At the end of 2001 Westel had a mobile cellular phone subscriber base of
2.5 million, while Pannon's subscriber base was 1.95 million and Vodafone's
subscriber base was 447,000. The overall penetration rate for cellular service
in Hungary was close to 50% at the end of 2001.
COMPANY STOCKHOLDERS
The Company has four large stockholders who together own 71.1% of the
Company's outstanding common stock ("Common Stock"). The remaining 28.9% of the
Common Stock is held by the public and traded on the American Stock Exchange.
Set forth below is a brief description of the four largest stockholders of the
Company.
Citizens Communications Company
Citizens Communications Company (together with its subsidiaries,
"Citizens"), a New York Stock Exchange listed company ("CZN"), currently is the
seventh largest local telephone exchange company in the United States, serving
2.5 million telephone access lines in 24 states. Citizens owns approximately
85% of Electric Lightwave, Inc. (NASDAQ: ELIX), a facilities-based, integrated
communications provider that offers a broad range of services to
telecommunications-intensive businesses in the western part of the United
States. At December 31, 2001, Citizens had $10.6 billion of total assets and
$1.9 billion in shareholders' equity. For the year ended December 31, 2001,
Citizens had $2.5 billion of revenue and $233.0 million in operating income
from continuing operations.
In 1995 Citizens purchased 300,000 shares of HTCC's common stock from a
former executive of the Company and has since acquired an additional 1,902,908
shares of Common Stock and 30,000 shares of the Company's Series A Preferred
Stock convertible into 300,000 shares of Common Stock, pursuant to certain
agreements entered into with HTCC (as amended and restated in certain cases,
the "Citizens Agreements"). Citizens also purchased 103,000 shares of Common
Stock on the open market. As of March 27, 2002, Citizens owned 19.1% of the
outstanding Common Stock. The Citizens Agreements provide Citizens with certain
preemptive rights to purchase, upon the issuance of Common Stock in certain
circumstances to third parties, shares of Common Stock in order to maintain its
percentage ownership interest on a fully diluted basis. For a more detailed
description of some of the Citizens Agreements, see Notes 9 and 12 of Notes to
Consolidated Financial Statements, and see also Item 12
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"Security Ownership of Certain Beneficial Owners and Management and Related
Stockholder Matters."
TDC
TDC A/S, formerly known as Tele Danmark A/S (together with its
affiliates, "TDC") is a Danish-based European full-service provider of
communications solutions. It is organized into seven main business lines. TDC
is the leading provider of communications services in Denmark, the second-
largest communications provider in Switzerland and holds significant interests
in a range of communications companies across Northern and Continental Europe.
TDC's stock trades on the Copenhagen Stock Exchange and the New York Stock
Exchange ("TLD"). SBC Communications, Inc. of San Antonio, Texas owns 42% of
the shares, with the remaining shares held by individual and institutional
shareowners all over the world.
At December 31, 2001, TDC had total assets of Danish Kroner 92.2 billion
(approximately $10.9 billion at current exchange rates) and shareholders'
equity of Danish Kroner 29.6 billion (approximately $3.5 billion at current
exchange rates). During 2001, TDC had net income excluding one-time items of
Danish Kroner 1.317 billion (approximately $156 million at current exchange
rates) on net revenues of Danish Kroner 51.564 billion (approximately $6.1
billion at current exchange rates.)
As a result of certain agreements between the Company and TDC (the "TDC
Agreements"), the Company has issued 2,579,588 shares of Common Stock to TDC.
As of March 27, 2002, TDC owned 21.3% of the outstanding Common Stock. The TDC
Agreements provide TDC with certain preemptive rights to purchase, upon the
issuance of Common Stock in certain circumstances to third parties, shares of
Common Stock in order to maintain its percentage ownership interest of the
outstanding Common Stock. See Notes 5, 9 and 12 of Notes to Consolidated
Financial Statements, and see also Item 12 "Security Ownership of Certain
Beneficial Owners and Management and Related Stockholder Matters."
Postabank
Postabank was established in 1988 and provides a wide range of commercial
and retail banking services to its private and corporate customers in Hungary.
As of December 31, 2001, its total assets were HUF 363 billion ($1.3 billion).
The Hungarian government owns a controlling interest in Postabank.
In October 1996, the Company entered into a $170 million 10-Year
Multi-Currency Credit Facility with Postabank (the "Original Postabank Credit
Facility"). In May 1999, as part of a revision of its capital structure, the
Company issued 2,428,572 shares of Common Stock, warrants to purchase 2,500,000
shares of Common Stock and notes in the aggregate amount of $25 million to
Postabank. The Company also entered into a $138 million Dual-Currency Bridge
Loan Agreement with Postabank (the "Postabank Bridge Loan Agreement"). As a
result of such issuances and other agreements, the Company paid off the balance
on and terminated the Original Postabank Credit Facility. In April 2000 the
Company paid off the outstanding balance on the Postabank Bridge Loan Agreement
with the proceeds of a syndicated loan agreement. See Item 7 "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Liquidity and Capital Resources," and Notes 5, 9 and 12 of Notes to
Consolidated Financial Statements.
As of March 27, 2002, Postabank owned 20.1% of the outstanding Common
Stock and 31.0% of
-8-
the outstanding Common Stock on a fully diluted basis. For a more detailed
description of some of the Postabank Agreements, see Notes 5, 9 and 12 of Notes
to Consolidated Financial Statements, and see also Item 12 "Security Ownership
of Certain Beneficial Owners and Management and Related Stockholder Matters."
The Danish Investment Fund for Central and Eastern Europe
The Investment Fund for Central and Eastern Europe (the "Danish Fund") is
a Danish government initiated and financed investment fund founded in 1989. The
purpose of the Danish Fund is to promote Danish direct investments in Central
and Eastern Europe and to enhance the possibilities for closer cooperation
between Danish and Central and Eastern European companies. The Danish Fund
engages in projects with Danish companies via equity capital and/or loans. As
of March 27, 2002, the Danish Fund owned 10.6% of the outstanding Common Stock.
See Notes 5, 9 and 12 of Notes to Consolidated Financial Statements, and see
also Item 12 "Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters."
DIRECTORS
The current directors and executive officer of the Company are Ole
Bertram, a Company director and the Company's President and Chief Executive
Officer; Daryl A. Ferguson, a Company director and the retired President and
Chief Operating Officer of Citizens; Thomas Gelting, a Company director and a
Vice-President in the Mergers and Acquisitions department at TDC; Torben V.
Holm, a Company director and the head of the Mergers and Acquisitions
department at TDC; John B. Ryan, a Company director and a financial consultant;
William E. Starkey, a Company director and a retired Senior Executive with GTE
Corporation; and Leonard Tow, a Company director and currently the Chairman and
Chief Executive Officer of Citizens.
SERVICES AND PRICING
Services
The Company currently provides non-cellular local voice telephone
services in its Operating Areas which allows subscribers to have facsimile, and
modem transmission capabilities and has made available to its subscribers,
through interconnection with Matav, domestic and international long distance
services. (As noted above, Matav's exclusivity rights to domestic and
international long distance services have expired.) In addition to these
standard services, the Company currently offers its subscribers data
transmission and other value-added services, including Internet, voice mail,
Internet Protocol-based voice services, caller ID, call waiting, call
forwarding, three-way calling, toll free calling services and audio text
services.
The Company's revenues are derived from the provision of local and
domestic and international long distance telephone services which consist of
(i) charges for measured telephone service, which vary depending on the day,
the time of day, distance and duration of the call, (ii) connection and
subscription fees, and (iii) other operating revenues consisting principally of
charges and fees from leased lines, detailed billing and other customer
services, including revenues from the sale and lease of telephone equipment.
The Company's customers are on a one-month billing cycle.
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Measured Service. The Company has two basic rates, peak and off-peak, for
each of local and domestic long distance charges and one rate for international
long distance charges. For all local calls within an Operating Area, the
Company retains all of the revenues associated with the call. For local calls,
the Company may choose to increase its rates up to the permitted amount or
charge a lower rate. Up until now and until the full implementation of the
Communications Act, for all domestic long distance calls outside of an
Operating Area and all international calls, the Company has a revenue sharing
arrangement with Matav the terms of which have been governed by a decree of the
Prime Minister's Office. Pursuant to this revenue sharing arrangement, the
Company charges for and collects from its customers the fees which are set by
Matav, but subject to regulation, for domestic and international long distance
calls. The Company then pays those fees to Matav but retains an
interconnection fee for initiating the call. For domestic and international
long distance calls to the Company's customers, the Company receives an
interconnection fee from Matav for completing the call. When the
Communications Act is fully implemented during 2002, the Hungarian
telecommunications customers will be able to choose their domestic and
international long distance carrier. If one of the Company's customers chooses
Matav or another long distance carrier, Matav or that other carrier will be
responsible for billing the Company's local customer for long distance charges
and paying the Company an interconnection fee for initiating that call.
Pursuant to the Communications Act, the Company's interconnection fees for
initiating and terminating long distance calls for its local customers will be
regulated by a government-approved interconnection rate scheme. If the
Company's local customer chooses the Company as its long distance provider, the
Company will bill its local customer for long distance calls and the Company
must pay, if the call goes outside of the Company's network, Matav or another
carrier a fee for transmitting the call outside of the Company's network and a
fee to the telecommunications provider completing the call. Up until now (and
until the full implementation of the Communications Act), the rates for calls
from a Hungarian cellular phone to a Company customer and calls from a Company
customer to a Hungarian cellular phone have been set by the cellular carriers
and the Company received a government regulated interconnection fee for
terminating or initiating the call. When the Communications Act is fully
implemented, the Company will still get a government regulated interconnection
fee for initiating and terminating cellular phone calls. However, the fees for
calls from the Company's customers to cellular telephones will now be
regulated. See "- Summary of the Liberalization Act."
Measured Service Price Regulation. Maximum pricing levels have historically
been set by the TTW Ministry (now by the Prime Minister's Office) and such rate
increases have generally tracked inflation, as measured by either the Hungarian
Producer Price Index ("PPI") or the Hungarian Consumer Price Index ("CPI"). In
1997, the TTW Ministry set forth a new regulatory framework for regulating
annual increases in the fees for (a) local calls, (b) domestic long distance
and international calls and (c) subscription fees, which included a rebalancing
formula, which provides for greater increases in charges for subscription fees
and local calls than in domestic long distance and international calls. In
addition to using the CPI in setting rates, the Prime Minister's Office has
used an efficiency factor in calculating the maximum allowable price increase.
For 2001, the Prime Minister's Office approved an overall price increase of
approximately 6% for measured service calls and subscription fees. For 2002,
the Prime Minister's Office has approved an overall price increase for measured
service calls and subscription fees of approximately 4%.
Since 1998 the TTW Ministry and now the Prime Minister's Office have taken
gradual steps to regulate the interconnection fees in accordance with
internationally accepted benchmarks with the goal of creating a cost-based
interconnection fee regime within the parameters of European Union standards. To
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that end, starting in 1999, the interconnection fees were revised to compensate
the LTOs more favorably for costs than in the prior years. The Company expects
government approved interconnection rates to continue to follow this cost-based
interconnection fee regime. The Communications Act provides for LTOs
(including the Company) to be compensated for interconnection initiation and
termination fees based on a Reference Interconnection Offer ("RIO"). The LTOs
are responsible for submitting a RIO to the Communications Authority for
approval. The RIO should be based on cost plus a reasonable profit. See "-
Summary of the Liberalization Act."
Subscription and Connection Fees. The Company collects a monthly
subscription fee from its customers. The basic monthly subscription fee is HUF
3,000 ($10.75). In an effort to retain low usage customers, the Company has
introduced several different subscription fee options for its residential
customer base. For a reduced monthly subscription fee, a residential customer
agrees to pay his regular monthly measured service fee plus an additional
percentage of such measured service fee which should lower the overall bill for
low volume users. The Prime Minister's Office regulates the subscription fees.
The Company charges its customers connection fees when they are added to
the Company's network. The Company may collect the full connection fee provided
that the customer is connected within 30 days; otherwise, the Company may only
collect a portion of the connection fee and must connect the subscriber within
one year. Upon connection, the Company may collect the remaining portion of
the fee. Connection fees are recognized as income over the expected customer
life (presently seven years) from the date that the connection is made.
Connection fees are regulated by the Prime Minister's Office and the maximum
fees are currently HUF 30,000 ($107.51) for residential customers and HUF
90,000 ($322.54) for business and other institutional subscribers (including
government institutions). Customers requesting additional access lines are
charged an additional connection fee per line. The Company can offer special
promotions on the connection fees if it so chooses. In the past the Company
has allowed its customers to pay connection fees on various installment plans.
Other Operating Revenue. The Company supplies private line service (point-
to-point and point-to-multi-point) primarily to businesses. As of December 31,
2001, approximately 1,672 leased lines were in service. In addition, as of
December 31, 2001, the Company had 1,883 public pay phones in the Operating
Areas. The Company generates additional revenues from the provision of
value-added services, including ISDN, voice mail, call waiting, call
forwarding, and three-way calling, as well as through the sale and rental of
telephone equipment.
NETWORK DESIGN AND PERFORMANCE
The Company has constructed a versatile modern communications network which
substantially replaced the antiquated system purchased from Matav. This system
provides many of the technologically advanced services currently available in
the United States and Western Europe. The Company's networks maintain the
North American standard, or "P01", grade of service. The P01 standard means
that one call out of 100 will be blocked in the busiest hour of the busiest
season. The Company believes that its ability to meet the telecommunications
requirements of its customers through a combination of conventional fiber optic
and wireless local loop technology affords it significant flexibility with
respect to network development and network capital expenditures. The Company
has replaced all manually operated local battery and common battery cord type
switchboards purchased from Matav while retaining certain analog switching
systems. The Company upgraded such analog switching systems allowing such
systems to mimic many of the features available in modern digital switching
systems with a minimal investment.
-11-
Conventional Network Design
In developing its networks, the Company has implemented service quality and
redundancy objectives on par with Western European and North American digital
network standards. Certain of the networks constructed are based on digital
hosts and remotes with fiber optic rings and copper feeder and distribution.
Such a distribution system is the conventional system used in the United States
and Western Europe. Telecommunications services are transmitted to the home
through twisted pair copper wire telephone cable.
The Company's conventional networks have been designed to employ an open
architecture, generally using Synchronous Digital Hierarchy ("SDH") technology
for system resilience. The Company's networks are designed to provide voice and
high speed data services. The Company believes that the flexible design of the
conventional networks it has constructed allows it to readily implement new
technologies and provide enhanced or new services. The Company's switches in
its conventional networks allow it to connect to networks operated by other
LTOs or by Matav in order to route voice and data transmissions between
subscribers.
Wireless Network Design
In certain portions of the Operating Areas, the Company is using wireless
network technology based upon the Digital Enhanced Cordless Telecommunications
("DECT") system which interfaces radio technology to fiber-optic, digital
microwave or fixed copper networks. The use of DECT technology generally
reduces the time and expense of installation and securing rights of way. In a
conventional network build, significant investment must be made in order to
offer service to a large proportion of potential customers whether or not they
become actual customers. By contrast, the use of the DECT system in a network
build-out provides for capital investment proportional to the number of
customers actually connected because the radio links and other required
equipment are installed only for those households choosing to take the service
and are installed only at the time service is requested.
In many areas in which the Company is utilizing a wireless network design,
the Company is deploying a fiber optic cable to the node in the same fashion as
in a conventional network build-out. At each newly constructed node, the
Company has constructed a radio base station ("RBS"), rather than switching to
twisted pair copper wire distribution to the home. Each RBS has the capacity to
provide service to between 200 and 600 customers. As additional customers are
brought onto the network, the Company will install a transceiver unit at the
subscriber's premises. Such transceiver's operating software is digitally
encrypted so that it will operate only with its supporting RBS. A conventional
telephone jack is then installed in the subscriber's household near an
electrical outlet which is used to power the transceiver unit. The subscriber
then uses a conventional phone to make outgoing and receive incoming calls.
The DECT-based wireless local loop system provides the same grade of
service as a conventional telephone network. In addition, a DECT-based network
is able to provide the same services as a conventional copper network such as
voice mail, call forwarding and call barring.
Network Administration
-12-
The Company actively monitors the switching centers and all critical
network operational parameters in each Operating Area. As digital features are
introduced into their respective networks, the network technicians have the
ability to monitor the networks and evaluate and respond accordingly. The
Company will also be able to analyze the performance data generated by these
systems in order to make the operating adjustments or capital expenditures
necessary to enhance individual network operations.
STRATEGY
With the recent enactment of the Communications Act and the key
implementing decrees, Hungary has taken some significant action towards
facilitating a more competitive telecommunications market as it seeks to join
the European Union. A more competitive environment will provide the Company
with many opportunities and challenges.
On November 1, 2002 the Company's right to be the exclusive provider of
non-cellular local voice telephone services in its Operating Areas will expire.
Matav's rights to be the exclusive provider of non-cellular local voice
telephone services in its concession areas (which cover approximately 70% of
the area of Hungary) expired at the end of 2001 in the majority of its
concession areas while its exclusivity rights in its remaining concession areas
will expire in November 2002. All of the other LTOs' markets will also become
open to competition in November 2002 as their exclusive rights to provide
non-cellular local voice telephone services in their markets expire.
Matav's exclusivity rights to provide domestic and international long
distance non-cellular voice services expired at the end of 2001. Therefore,
while the Company may be subject to some competition in its Operating Areas by
the end of this year, the Company is now permitted to compete in the domestic
and international long distance market and in the majority of Matav's markets
for the provision of non-cellular local voice telephone services. By the end
of the year, the Company will be permitted to compete in the other LTOs' and
the rest of Matav's markets for the provision of non-cellular local voice
telephone services. The Company, Matav and the other LTOs will still retain
their rights to provide telecommunications services in their existing markets
but, as noted above, by November 2002, not with exclusivity.
To effectively compete in a more open Hungarian telecommunications market,
the Company's primary focus is to maintain its market dominance in the
provision of non-cellular local voice telephone services in its Operating
Areas. To accomplish this goal, the Company is continuing and expanding its
efforts to increase its product and service offerings and their usage, increase
its marketing to its entire customer base, improve its customer service, and
increase its operational efficiencies. Such efforts are intended to enable the
Company to reduce operating costs and increase call revenues from its customer
base to offset any market share lost to competitors. In addition to continuing
to service its existing market, the Company also intends to selectively compete
within and outside its Operating Areas by offering newly liberalized services
either by itself or in conjunction with other telecommunications providers.
The Company has implemented the following operational strategies in order to
further its business objectives.
Products and Service Offerings
While the Company's business and other institutional subscribers account
for only 15% of the Company's access lines, these customers accounted for a
greater share of the Company's revenue in 2001. The Company believes that its
business customers have the greatest need for the variety of new
-13-
products and services that a modern telecommunications company can offer. The
Company also believes that its business customers will be the primary target
for competition in its Operating Areas once competition opens up. Therefore,
the Company intends to continue to solidify its relationship with its business
customers to maintain helping them solve their communications needs.
Since the availability of modern telecommunications services is still a
relatively new phenomena in Hungary, educating the business customer on the
availability and benefits of the Company's products and services is a
continuing goal of the Company. The Company emphasizes increasing the
installation of products and services and the usage levels of the Company's
business customers by focusing on the marketing and sales of various products
and services including managed lease lines, PBX sales and services, ISDN,
Internet and Digifon Services (e.g. call forwarding, call waiting, call
barring). The Company has an account manager assigned to each business
customer who is responsible for meeting with each business customer to find out
such customer's telecommunications needs. The account manager can then
demonstrate each of the Company's products and services and, working together
with that customer, develop a telecommunications strategy using the Company's
products and services which can best enhance that customer's business.
For residential customers, the Company is focusing its efforts on educating
the customer on the availability of such products and services as voice mail,
caller ID and call waiting, which are all new to the Company's residential
customer base. The Company is also highlighting the benefits of the Internet
and encouraging its use by offering special rate packages for Internet usage.
One of the tools that the Company is deploying to increase customer awareness
of these services is video and personal demonstrations in the customer service
centers, which are located in each of the Operating Areas.
The Company continues to offer the latest telecommunications products and
services as they become available in the telecommunications marketplace. The
Company introduced Internet Protocol-based voice services to its customers in
2000. This has enabled the Company to offer long distance and international
calling services at discounted rates. During 2001 the Company become an
Internet Service Provider in all of its Operating Areas under the brand name
"Globonet". The Company is also reviewing options with respect to such
offerings as pre-paid calling plans, loyalty programs and teleconferencing to
increase usage.
Marketing
For its residential customers and potential customers, the Company's
marketing efforts include advertising on radio and television, door-to-door
marketing surveys, newspaper advertising, participation in local trade shows,
direct mail, community meetings and billboard advertising. Since many
Hungarians still prefer face-to-face personal marketing, the Company has
leveraged the benefits of having a customer service center in each Operating
Area to give personal demonstrations. To get new customers the Company has
implemented short marketing campaigns targeting those residences without phone
service. To induce potential new customers the Company has offered special
limited time only rates on the connection fee and special rate plans for
infrequent telephone users. The Company has also used its special rate plans
in an attempt to limit the disconnection of customers. For business customers,
the Company's primary marketing tool has been direct contact with the business
customers through the Company's account managers.
Customer Service
-14-
The Company believes that providing a high level of customer service is
important in attracting additional customers, increasing the usage of its
existing products and services by its current customer base and retaining
customers in a competitive environment. Prior to completion of the Company's
telecommunications networks, some customers waited for over 20 years for
telephone service. Today, most residences and businesses can be connected to
one of the Company's networks within 7 days. The Company operates full time
operator service centers in each of the Operating Areas which are staffed by
operators capable of providing, among other things, call completion assistance,
directory assistance and trouble reporting on a 24 hour basis. The Company
also operates customer service centers in each of the Operating Areas which
offer facsimile, Internet, photocopying and telephone bill payment services.
These service centers also sell communications equipment, process telephone
service applications and handle billing inquiries. The Company reorganized its
customer service centers to make such centers more "customer friendly." The
Company is providing more choices for its customers and more product
information instruction. For its business customers, the Company has account
representatives for each customer to work with businesses to help them achieve
their objectives with innovative telecommunications solutions.
Operational Efficiency
The Company has increased its productivity and operational efficiency by
achieving certain economies of scale with respect to network management,
administration, customer service, billing, accounts receivable, payroll
processing, purchasing and network maintenance. For example, the Company has
implemented a centralized operating and accounting system to serve all of its
Operating Areas, which has given the Company a more efficient customer billing
system and greater financial accountability. To capitalize on the Company's
contiguous concession areas, the Company reorganized its operations into three
Operating Areas rather than four which the Company expects will help it achieve
certain economies of scale. Further, in an effort to reduce more overhead and
maximize efficiencies, the Company merged its four Hungarian operating
subsidiaries into one Hungarian operating subsidiary as of January 1, 2002. As
of result of such productivity measures, the newly consolidated Operating
Company now has 323 access lines per employee. During 2002 the Company will
continue its ongoing efforts to streamline its operations.
Newly Liberalized Services
With the Hungarian telecommunications market becoming open to competition,
the Company intends to take advantage of select market opportunities. For
example, the Hungarian domestic and international long distance market for
non-cellular voice services in now open for competition. Therefore, the
Company can now offer under its own brand name domestic and international long
distance services to its existing customer base in its Operating Areas.
For calls originating in one of the Company's Operating Areas and
terminating in another of the Company's Operating Areas, the Company now has
both the capability and right to carry the call from the initiating caller to
the recipient completely over its own network without passing through Matav's
network, thus saving the Company from any revenue sharing with Matav. For
calls originating in one of the Company's Operating Areas and terminating in
certain other parts of Hungary outside of the Company's Operating Areas, the
Company is capable of delivering the call to the local network of the recipient
for completion. In this case, the Company would keep more revenue by not
having to pay for
-15-
transmission services between local networks. The Company would have to pay
the recipient's local carrier a fee for completing the call. For calls
originating in one of the Company's Operating Areas and terminating in other
parts of Hungary, the Company may have to use another provider such as Matav to
carry the calls to the local network of the recipient for completion. In this
case, the Company would have to pay a transmission fee and a completion fee to
the other carriers. For international calls from the Company's Operating
Areas, the Company has the capability and right to carry the call on its
network for handoff to an international carrier for completion.
The Company is also free to enter markets outside its Operating Areas to
provide long distance voice and data services and Internet services. The
Company does not presently own the network capability to provide such services
entirely over its own network but it could enter the market as a reseller and
use another carrier's network as needed. In November 2002 the Company may
enter all of Matav's and the other LTOs' markets as a provider of local
non-cellular voice services using the local carriers network through regulated
unbundling agreements. See "- Summary of the Liberalization Act."
The Company is currently evaluating its opportunities to offer liberalized
services and will enter markets that its deems appropriate for its business
strategy and goals.
Mergers and Strategic Alliances
As the Hungarian telecommunications market continues to develop and become
more liberalized as the monopolies of Matav and the LTOs continue to expire and
new telecommunications providers enter and expand their presence in Hungary,
the Company will continue to review its options with respect to any merger or
strategic alliance possibilities that may enable the Company to offer some of
the newly liberalized services discussed above.
THE OPERATING AREAS
The following is a brief description of each of the Operating Areas:
Bekes
The Bekes Operating Area encompasses the southern portion of Bekes County,
which borders Romania. The Bekes Operating Area is comprised of 75
municipalities and has a population of approximately 391,700 with an estimated
166,900 residences and 23,100 business and other potential subscribers
(including government institutions). B[eacute]k[eacute]s is the most
intensively cultivated agrarian region in Hungary and produces a substantial
portion of Hungary's total wheat production. Industry, generally related to
food processing, glass and textile production, is also a strong employer in the
region. Foreign investors in the Operating Area include Owens Illinois of the
United States and a number of European manufacturers. The region is also a
center for natural gas exploration and production. As of December 31, 2001, the
Company had 114,200 access lines connected to its network in the Bekes
Operating Area. The Company's network in the Bekes Operating Area utilizes a
combination of a conventional build, fiber optic and wireless local loop
technology.
Nograd
The Nograd Operating Area is comprised of 74 municipalities in the eastern
portion of Nograd
-16-
County, which borders Slovakia. The Nograd Operating Area has a population of
approximately 147,900, with an estimated 62,400 residences and 8,900 business
and other potential subscribers (including government institutions). The
principal economic activities in the Nograd Operating Area include light
manufacturing, tourism, some coal mining and agriculture. Foreign investors in
the region include the dairy producer, Sole, and the Japanese company,
Paramount Glass. The Nograd Operating Area's proximity to Budapest, 1.5 hours
by car, and its many cultural attractions makes it a desirable weekend and
tourist destination. As of December 31, 2001, the Company had 47,000 access
lines connected to its network in the Nograd Operating Area. The Company's
network in the Nograd Operating Area utilizes a combination of a conventional
build, fiber optic and wireless local loop technology.
Papa/Sarvar
The Papa/Sarvar Operating Area is composed of 114 municipalities located in
the counties of Veszprem and Vas. The population of the Papa/Sarvar Operating
Area is approximately 128,400 with an estimated 50,300 residences and 6,500
business and other potential subscribers (including government institutions).
The portion of the Papa/Sarvar Operating Area in Veszprem County is relatively
underdeveloped economically with the principal economic activities centering
around light industry, appliance manufacturing, agriculture and forest
products. Significant foreign investors in Veszprem County include ATAG, the
Dutch appliance maker, and Electricit[eacute] de France. The principal economic
activities in the portion of the Papa/Sarvar Operating Area located in Vas
County include heavy manufacturing and assembling, agriculture and tourism.
Significant employers include: Linde (a German natural gas distributor):
Philips (a Dutch-owned electronics manufacturer); EcoPlast (a plastics
producer); Saga (a British-owned poultry processor); and Flextronics
International, which assembles Microsoft's video game console Xbox in the
Papa/Sarvar Operating Area. As of December 31, 2001, the Papa/Sarvar Operating
Area had 42,300 access lines connected to its network. The Company's network in
the Papa/Sarvar Operating Area utilizes a combination of a conventional build,
fiber optic and wireless local loop technology.
SUMMARY OF THE LIBERALIZATION ACT
In June 2001 the Hungarian Parliament enacted the Communications Act, which
took effect on December 23, 2001. The goal of the Communications Act is to
provide for a more liberalized telecommunications market by making market entry
easier, promoting competition and harmonizing Hungary's telecommunications laws
with those of the European Union. The Communications Act is a framework piece
of legislation with the detailed regulations to be contained in a series of
implementing decrees. Some of the key provisions of the Communications Act and
the implementing decrees that have been adopted to date are summarized by topic
below. The provisions are subject to change and legal interpretation by the
Hungarian regulatory system and could also change based upon Hungary's
accession into the European Union. While the key decrees have been passed, the
Communications Act has not been fully implemented, resulting in a delay in the
opening up of the long distance market to full competition.
Administration
The Communications Authority is the central administrative body that
reports to the Chancellor in the Prime Minister's Office and the Hungarian
government. It is divided into three units: the Regional Communications Office
which is responsible for administrative tasks such as issuing licenses,
verifying reports and market supervision; the Communications Inspectorate which
is responsible for such matters as
-17-
market surveillance and frequency management; and the Communications
Arbitration Committee which identifies providers with significant market power,
reviews reference interconnection and local loop unbundling offers for approval
and settles disputes between parties.
Market Entry
Today market entry from a legal standpoint is relatively easier than in
the past when a concession from the government was required. A potential
telecommunications service provider need only notify the Communications
Inspectorate that it intends to provide a telecommunications service; provided
that the service is no longer protected by an exclusive concession in the
specific market that the provider wants to enter.
Significant Market Power
The Communications Arbitration Committee is empowered to determine which
telecommunications service providers in the provision of fixed-line
non-cellular voice services, mobile cellular telephone services, leased line
services, and interconnection services have what is deemed Significant Market
Power ("SMP"). A telecommunications operator is deemed to have SMP when it has
at least a 25% market share in a specific geographic area in one of the four
services noted above. Under the terms of the Communications Act and because of
its exclusivity rights, the Company is deemed to be a telecommunications
provider with SMP in its Operating Areas until the Communications Arbitration
Committee meets to determine which telecommunications providers have SMP. The
Company expects that the Communications Arbitration Committee will designate
the Company as a telecommunications provider with SMP in its Operating Areas.
The Communications Arbitration Committee also has discretionary authority to
designate a telecommunications operator as a telecommunications operator with
SMP based on several factors including, among other factors, net revenue,
access to capital and the necessary asset infrastructure to reach customers.
Telecommunications operators with SMP have additional obligations which are
summarized below.
Interconnection
Upon request, all telecommunications operators are required to
interconnect their networks to another telecom operator provided that it is
financially and technically feasible. A telecommunications operator designated
as having SMP must submit a Reference Interconnection Offer ("RIO") to the
Communications Arbitration Committee. Once the Communications Arbitration
Committee approves a RIO, the telecom operator must provide interconnection on
the terms of the RIO to any telecom operator that wants interconnection. The
RIO must be based on cost plus a reasonable profit. For example, if a telecom
operator wants to connect to the Company's network in order to provide domestic
and international long distance service to the Company's customers, the Company
must provide interconnection on the terms of its RIO.
Local Loop Unbundling
The LTOs (including Matav and the Company) with SMP in the provision of
fixed-line non-cellular local voice telephone services are required to
"unbundle" their local loop networks when their exclusivity period expires.
This means that the Company, following the expiration of its exclusivity period
in November 2002, will be required to allow a telecom operator to use its
network to provide
-18-
competing non-cellular local voice telephone services in its Operating Areas.
The unbundling agreement must be on the terms of a reference unbundling offer
approved by the Communications Arbitration Committee, which offer must be based
on cost to the LTO plus a reasonable profit. All third parties who want to use
an LTO's network to provide competing non-cellular local voice telephone
service must take it on the terms approved by the Communications Arbitration
Committee. A potentially important exception to this requirement that the LTOs
with SMP unbundle their networks is that a SMP-designated LTO does not have an
obligation to unbundle its network if the party requesting the use of the LTO's
network is another SMP-designated telecommunications operator that is in a
better position than that LTO with respect to assets, finances, revenues or the
development of the international communications market. The exact meaning of
this regulatory provision is not certain at this time but the Company could
assert that it does not have to let certain other telecom service providers in
Hungary, including Matav, use the Company's network to compete against the
Company in the provision of non-cellular local voice telephone services in the
Company's Operating Areas. However, a potential competitor is not barred from
building its own network in the Company's Operating Areas. The term of this
regulatory provision is also not certain at this time and the Company does not
know with any certainty whether such provision would survive Hungary's entry
into the EU.
Carrier Selection
Customers in Hungary now have a choice on a call-by-call basis or on a
continuing basis which provider of domestic and international long distance
voice services they wish to use. That long distance provider is then
responsible for billing its customers for long distance charges and paying the
LTO an interconnection fee for the initiation of the long distance call. The
interconnection fee will be based on the LTO's RIO approved by the
Communications Arbitration Committee.
Universal Services
The Communications Act provides for a Universal Services Fund in order to
provide (i) country-wide access to fixed line telecommunications services at
reasonable prices, (ii) public pay telephones, (iii) operator assisted
services, and (iv) free emergency services. Every cellular and non-cellular
telecommunications operator in Hungary is now required to contribute to a
Universal Service Fund ("USF"). The contributions are to be based on a
percentage of net revenue from services in Hungary. The money from the USF
will be paid out to the LTOs at a fixed rate based on the number of
subscribers. In return for the funds, the LTOs will have certain universal
service obligations to connect certain customers to their networks at
discounted rates. The Company anticipates that it will receive more funds from
the USF than it pays into the USF.
Price Regulation
Although prices charged for some telecommunications services will not be
regulated, the charges for local and long distance non-cellular calls,
subscription fees and connection fees will still be regulated. The price for
Internet services will also be regulated. Calls from a fixed line to a
cellular phone which were set by cellular carriers in the past will also now be
regulated.
Internet Service
Provided that it is technically feasible, telecommunications providers
designated as having SMP
-19-
must allow Internet Service Providers access to their networks to provide
Internet access to customers. The access will be subject to the terms of an
access agreement to be entered into between the telecommunications provider and
the Internet Service Provider. The charges for Internet service in Hungary
will be regulated and the LTOs will be obligated to pass on some of the
regulated fees to the Internet Service Providers.
REGULATION
In November 1992, the Hungarian Parliament enacted the Hungarian
Telecommunications Act of 1992 (the "Telecom Act") which took effect in 1993.
The Telecom Act provided for, among other things, the establishment of the
conditions under which individuals and companies (including Matav, foreign
persons and foreign owned companies) could bid for concessions to build, own
and operate local telecommunications networks in designated service areas. The
Telecom Act also gave the TTW Ministry the authority to regulate the industry,
including the setting of local, domestic long distance and international rates,
the sharing of revenues between the LTOs and Matav, the accrediting of
equipment vendors and the setting of standards in respect of network
development and services offered. The oversight of the telecommunications
industry has been transferred to the Prime Minister's Office. See "- Overview
of Hungarian Telecommunications Industry - The Regulatory Framework."
With the passage of the Communications Act, many of the provisions of the
Telecom Act were superceded. The Prime Minister's Office has indicated to the
Company its desire to enter into discussions regarding the possible termination
or amendment of the Company's Concession Contracts. At this time the Company
is reviewing its options with respect to its Concession Contracts and cannot
predict with certainty whether the Concession Contracts will be amended or
terminated or remain unchanged. Presently the Concession Contracts are still
in force. In any event the Company will retain the necessary licenses to
continue its services in the Operating Areas. The terms and applicability of
the Concession Contracts are further complicated by the fact that four
subsidiaries of the Company entered into the Concession Contracts with the TTW
Ministry. Those four subsidiaries ("KNC", "Raba-Com", "Papatel", and
"Hungarotel") were merged into Hungarotel as of January 1, 2002. The terms of
the Company's Concession Contracts are summarized below.
Concession Contracts
Pursuant to the Telecom Act and in accordance with the Concession Act of
1991, in connection with the award of a concession, each of the LTOs entered
into a concession contract with the TTW Ministry governing the rights and
obligations of the LTO with respect to each concession. Topics addressed by
individual concession contracts include the royalties to be paid, guidelines
concerning LTO capital structure, build-out milestones, employment guidelines
and the level of required contributions to meet social and educational
requirements. For example, the concession contracts stipulate that an LTO may
not change its capital structure by more than 10% without the express written
consent of the TTW Ministry (now the Prime Minister's Office) and that former
Matav employees generally must be retained for the first five to eight years of
operation. The Company may, however, enter into termination agreements with
its employees.
Corporate Governance. The amended Concession Contracts for Hungarotel and
Papatel provide that two out of every five members of their Boards of Directors
and one-half of the members of their Supervisory Boards be Hungarian citizens.
Hungarotel, the surviving subsidiary of the Company's
-20-
merged Hungarian subsidiaries, is currently in compliance with this requirement.
Exclusivity. The Concession Contracts provide that each concession holder
has the exclusive right to provide non-cellular local voice telephone services
for eight years until November 2002. Thereafter the Hungarian government will
have the right to grant additional licenses for the provision of non-cellular
local voice telephone services in the Operating Areas.
Royalties. Each of the Company's former subsidiaries was required by the
terms of its individual Concession Contract to pay annual royalties equal to a
percentage of net revenue from basic telephone services. Net revenue for this
purpose is generally defined as gross revenue from basic telephone services
less the fees paid to Matav. The royalty percentage may also differ by region.
For example, the former subsidiaries were obligated to pay royalties in the
following percentage amounts: KNC 0.1%; Raba-Com 1.5%; Hungarotel (Bekescsaba)
2.3%; Hungarotel (Oroshaza) 0.3%; and Papatel 2.3%. These amounts are paid
annually, in arrears. At this time the Company does not know with certainty
whether the Company will be obligated to pay such royalties for 2002 given the
Prime Minister's Office's desire to amend or terminate the Concession
Contracts.
Social and Educational Contributions. In addition to the royalties
described above, Concession Contracts may also call for social and educational
contributions based on revenues of the Operating Company, excluding VAT. The
Concession Contracts for KNC and Raba-Com require them to contribute 1.5% and
1.0% of such revenues, respectively, to support social and educational projects
in their Operating Areas. At this time the Company does not know with
certainty whether the Company will be obligated to pay such contributions for
2002 given the Prime Minister's Office's desire to amend or terminate the
Concession Contracts.
Renewal. Each Concession Contract provides for a 25-year term with the
right to submit a proposal, within 18 months prior to the expiration of the
Concession Contract to apply for an additional 12-1/2 years. With the
enactment of the Communications Act, this renewal provision will not be
applicable. The Company will retain a license to continue service.
Termination upon Lack of Performance. If an LTO is unable to comply with
the terms of its concession contract, the Prime Minister's Office has the right
to abrogate the concession contract. In such an instance, the Prime Minister's
Office has authority to determine alternative provisions for such service,
which may include the sale of the LTO's telecommunications assets to an
alternative provider. The Company believes that it has demonstrated substantial
performance to date under its Concession Contracts and that its relations with
the Prime Minister's Office are good.
Dispute Resolution. Any disputes arising with respect to the
interpretation of a Concession Contract will be adjudicated by a Hungarian
court.
Hungarian Equity Ownership Requirements.
The TTW Ministry stipulated in the Concession Contracts for Hungarotel and
Papatel, as amended on June 3, 1996, that Hungarotel and Papatel must meet
certain Hungarian ownership requirements so that by the seventh year
anniversary of such amendments (June 3, 2003) of their Concession Contracts,
Hungarian ownership must consist of 25% plus one share of the relevant
Operating Company. For the first three months after assuming operations of an
Operating Area from Matav, no
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Hungarian ownership was required. For the seven-year period ending June 3,
2003, Hungarian ownership must be at least 10%, except that during such period,
such ownership may be reduced to as low as 1% for a period of up to two years.
During such seven-year period, while the Hungarian ownership block is required
to be at least 10%, such Hungarian owners of a 10% equity holding in Hungarotel
or Papatel must have voting power of at least 25% plus one share, thus
providing Hungarian owners the right to block certain transactions which, under
Hungarian corporate law, require a supermajority (75%) of stockholders voting
on the matter, such as mergers and consolidations, increases in share capital
and winding-up.
For these purposes, Hungarian ownership of shares means shares owned by
Hungarian citizens. Shares owned by a corporation are considered Hungarian
owned only in proportion to the Hungarian ownership of such corporation. The
25% plus one share Hungarian ownership requirement can also be met by listing
such shares on the Budapest Stock Exchange.
The equity ownership requirements and exceptions described above are
contained in the June 1996 amended Concession Contracts for Hungarotel and
Papatel. The equity ownership requirements expressly set forth in KNC's and
Raba-Com's Concession Contracts call for a strict 25% plus one share Hungarian
ownership requirement. However, the TTW Ministry stated, pursuant to a letter
dated September 18, 1996, that it intended to treat all of the Company's
subsidiaries equally (as set forth in Hungarotel's and Papatel's Concession
Contracts) with respect to such ownership requirements.
If the Hungarian ownership does not meet the required levels, the LTO is
required to give notice to the Prime Minister's Office, which may then require
the LTO to rectify the situation within three months, or a shorter period if it
is determined that there has been a delay in the required notification. With
respect to the Company, Postabank, a Hungarian commercial bank, owns
approximately 20.1% of HTCC which is the majority owner of Hungarotel, the
Operating Company. Therefore, the Company is currently deemed in compliance
with the current 10% ownership requirement. The Company believes that the
Prime Minister's Office will eliminate all Hungarian equity ownership
requirements. In the event that the Prime Minister's Office does not change
the present Hungarian ownership requirements or adopts new Hungarian equity
ownership requirements, which the Company does not expect, the Company will
formulate plans to meet any such Hungarian equity ownership requirements
although there can be no assurance that the Company will be able to increase
the Hungarian ownership in Hungarotel in a manner sufficient to comply with
such requirements in the future.
Hungarian Taxation
Corporate Income Tax. The operations of the Company's Hungarian
subsidiaries, including the Operating Company, are subject to Hungarian
corporate income tax. Generally, Hungarian corporations are subject to tax at
an annual rate of 18.0%. Companies which fulfilled certain criteria were
entitled to a 100.0% reduction in income taxes for the five year period ending
December 31, 1998 and a 60.0% reduction in income taxes for the subsequent five
year period ending December 31, 2003, provided certain criteria continue to be
met. See Note 1(j) of Notes to Consolidated Financial Statements. The
Operating Company is currently eligible for such tax treatment. However, the
corporate income tax is reviewed, and subject to change, annually. Any tax
increase or change in the tax exempt status of the Operating Company could have
a material adverse effect on the Company.
Value Added Tax ("VAT"). The Hungarian VAT system is virtually identical
to the one used in
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most European countries. VAT is a consumption tax which is fully borne by the
final consumer of a product or service. The current rates of VAT in Hungary
vary between 0.0% and 25.0%, depending on the type of product or service.
Social Insurance Contributions. The level of contributions for social
insurance in Hungary is one of the highest in Europe. In 2001 employers were
required to pay the state 33% of an employee's gross salary as a social
security contribution and 3.0% of an employee's gross salary as the employer's
contribution to the unemployment fund. In addition, the Company must pay an
additional HUF 3,900 ($13.98) per month for each employee for health insurance.
COMPETITION
The Company's concession rights provide for an eight-year period of
exclusivity in the provision of non-cellular local voice telephone services,
which ends on November 1, 2002, while the initial 25-year terms of the
concession contracts are scheduled to expire in 2019. See also "- Regulation --
Concession Contracts". As a result of the Communications Act, other
telecommunications service providers can enter the long distance voice market
anywhere in Hungary in 2002. Following November 1, 2002, other
telecommunications service providers can enter the Company's Operating Areas to
compete with the Company in the non-cellular local voice services market.
However, such competitors would have to develop their own telecommunications
network (wire or wireless) or may use, in some cases, the Company's network
pursuant to an unbundling agreement. There may be some restrictions on the
rights of certain telecommunications service providers to access the Company's
networks through unbundling. See "- Summary of the Liberalization
Act."
Today, three telecommunications service providers have built long distance
networks capable of servicing substantially all of Hungary: Matav; PanTel; and
Vivendi. These companies are capable of entering the Company's Operating Areas
following November 1, 2002 and competing for the Company's customers,
particularly the business customers. To date, Matav has been the exclusive
provider of domestic and international long distance services. PanTel has
substantially built a nationwide fiber optic backbone network along the
rights-of-way of MAV, the Hungarian railway. PanTel has been providing
business communications services such as digital data, fax and video
transmission using Internet Protocol ("IP") data transmission technology and
IP-based voice services primarily to large customers. PanTel also owns a
majority stake in one of Hungary's largest Internet Service Providers. Vivendi
provides local non-cellular voice telephone service in nine concessions areas
(covering approximately 15% of the country) and has built an extensive fiber
optic network throughout Hungary. Most existing telecommunications service
providers in Hungary have already entered the marketplace for voice-over IP
services, which did not violate Matav's now-expired exclusivity rights to long
distance voice services.
Other Hungarian telecommunications providers, and potential providers,
include the following entities which have either entered, or plan to enter, the
telecommunications marketplace, particularly the business marketplace: Novacom
Telecommunications Kft., which is owned by affiliates of RWE, the German
utility conglomerate, EnBW AG, a German electricity provider and Elmu Rt., the
Hungarian electricity distributor ("Elmu"), is expanding the fiber optic
infrastructure of Elmu; GTS Hungary Kft. ("GTS") which provides data and voice
transmission services through a nationwide microwave network and a satellite
based network (GTS also owns one of the leading Hungarian ISPs); Antenna
Hungaria, the national broadcaster which is still controlled by the state;
Global One Telecommunications Kft., which provides IP-based data and voice
transmission services; Ireland-based eTel Hungary, which is targeting
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the corporate market; BT Hungaria, an affiliate of British Telecom; Sweden's
Telia AB; Germany's Infigate GmbH; and U.S.-based UUNet, an affiliate of MCI
WORLDCOM.
The Company faces intense competition from the three Hungarian cellular
providers: Westel; Pannon; and Vodafone. The cellular market growth has been
very fast in Hungary with a penetration rate now over 50%. Unlike the United
States and Western Europe, many Hungarians have gone from having no telephone
(wireline or wireless) straight to cellular without getting a traditional
wireline telephone. Historically, the airtime and monthly fees charged by the
cellular operators are generally more than the fees for comparable services
charged by the Company. The cellular telephone providers are, however,
currently deploying various discounted pre-paid plans, which make pricing
comparisons difficult.
The Hungarian cable television market is highly fragmented with over 150
cable television providers. The Hungarian cable television industry is
undergoing consolidation. An affiliate of United Pan-European Communications
NV ("UPC") is the largest cable television operator in Hungary and owns a LTO
with one concession area. UPC's controlling shareholder is UnitedGlobalCom
Inc., the global television operator of Denver, Colorado.
Hungary's application for membership in the European Union (the "EU") was
accepted. Hungary is now in the process of negotiating the terms of its
accession into the EU. The EU has adopted numerous directives providing for an
open telecommunications market among its member nations. Hungary is not
expected to become a member of the EU until 2004 at the earliest. Some of
Hungary's laws affecting the telecommunications markets, including those
recently enacted, could be affected by Hungary's entry into the EU.
EMPLOYEES
The Company had a total of approximately 630 employees, including 5
expatriates, as of March 2002. The Company considers its relations with its
employees to be satisfactory.
ITEM 2. PROPERTIES
The Company leases its principal executive offices in Budapest, Hungary
and also has a United States office currently located at 32 Center Street,
Darien, CT. In addition, the Operating Company owns or leases properties
throughout its Operating Areas in Hungary. The Company has secured all the
necessary rights-of-way with respect to its telecommunications networks. The
Company believes that its leased and owned office space and real property is
adequate for its present needs but is currently reviewing its alternatives as
to its future needs.
ITEM 3. LEGAL PROCEEDINGS
Dialcont
Hungarotel is a defendant in a lawsuit filed by Dialcont Kft. ("Dialcont")
on March 28, 1996 alleging a breach of contract for services allegedly provided
by Dialcont during 1994 and 1995. Dialcont claimed HUF 222 million ($795,600).
The Metropolitan Court in Budapest awarded Dialcont HUF 77.7 million ($278,500)
plus interest and costs in a judgement issued in October 2000. Hungarotel has
filed an appeal to the Hungarian Supreme Court in October 2000, but no hearing
date has been set yet. As of
-24-
March 27, 2002 the lower court's judgment with accumulated interest and costs
totaled approximately HUF 154.5 million ($554,000). The Hungarian Supreme
Court has the power to decide the case anew and could award up to the full
amount of the original claim (HUF 222 million) plus interests and costs. The
Company believes that it has it has a defense to such action and is vigorously
defending itself.
Local Business Tax
A provision in Hungarotel's Concession Contracts provided for a payment by
Hungarotel of a sum equal to ten times the local municipal business tax. At
the time of the inception of the Concession Contracts, the local business tax
was 0%. When this increased in one of the regions within the Hungarotel
Operating Area in 1996, one municipality claimed that Hungarotel was liable to
pay the local business tax at ten times the prevailing rate. However, the
municipality has not been able to enforce this undertaking because it is not a
party to the Concession Contracts. The municipality has taken this matter up
with both the Communications Authority and the TTW Ministry. In May 1999, the
then Hungarian Deputy State Secretary gave a verbal confirmation that the TTW
Ministry would not enforce the undertaking against Hungarotel. Subsequently,
in November 1999, the TTW Ministry sent a letter to the municipality informing
it that the disputed business tax provision was not enforceable because the
indefinite nature of the undertaking constituted an unjustified burden on
Hungarotel and that the undertaking was not in compliance with the laws on
Local Business Tax. The most recent development in this matter is a letter
from the municipality to the Company dated January 18, 2001, demanding the sum
of HUF 648.0 million ($2.3 million). The letter states that, in the absence of
payment, the municipality will take the matter up with the Prime Minister's
Office, the Communications Authority and others. Hungarotel intends to defend
this action and believes that such provision is unenforceable.
Fazis
During 1996 and 1997, the Company entered into several construction
contracts with Fazis, a Hungarian contractor ("Fazis") which totaled $59.0
million in the aggregate, $47.5 of which was financed by a contractor financing
facility. Fazis financed the facility through Postabank. The Company and
Fazis have a disagreement with respect to several issues relating to the
quality and quantity of the work done by Fazis. The Company has rejected
invoices from Fazis in the amount of approximately HUF 700 million
(approximately $2.5 million).
In order to resolve these issues in 1999, the Company purchased from
Postabank some of Postabank's receivables owed by Fazis to Postabank
(approximately $14 million) with respect to the contractor financing facility.
The Company also purchased from Postabank some of the obligations which the
Company owed to Fazis under the contractor financing facility which were
assumed by Postabank (approximately $25 million). The Company then set off its
remaining uncontested liabilities owed to Fazis (approximately $3.2 million)
against the amounts owed to the Company by Fazis (approximately $14 million).
Fazis has challenged these actions by the Company in a lawsuit filed in 2001
with the Metropolitan Court in Budapest. The Company has filed counterclaims
in this matter. There is a court hearing scheduled for April 2002.
Fazis is now seeking payment under separate invoices in the amount of
approximately $24 million for work which the Company is disputing because of
quality and quantity issues. The Company still has contractual claims against
Fazis of approximately $31 million attributable to deficiencies in the work
performed by Fazis.
-25-
In 1999 Reorg Rt. ("Reorg"), a company responsible for collecting
Postabank's bad debts, initiated debt collection proceedings against Fazis. In
June 2000 Reorg claimed the benefit of certain invoices in the amount of HUF
455 million ($1.6 million) that Fazis had issued to the Company, asserting that
Fazis had assigned those invoices to it as security in the debt collection
proceedings. The Company rejected Reorg's claim on the grounds that Fazis had
no right to assign the invoices and that, in any event, the Company has a
substantive defense and a counterclaim on the merits to the underlying claims
on the invoices. Reorg subsequently reduced its demand of HUF 455 million but
the Metropolitan Court of Budapest dismissed Reorg's claim asserting that the
Metropolitan Court did not have jurisdiction and that the contractual claims
should be decided by arbitration proceedings. Reorg has appealed the
Metropolitan Court's decision to the Hungarian Supreme Court.
At this time the outcome of any of these legal proceedings and disputes
cannot be predicted with certainty. The Company believes that it will prevail
on the merits. There can, however, be no assurances as to the final outcome or
course of action of such dispute.
Other
The Company is involved in various other legal actions arising in the
ordinary course of business. The Company is contesting these legal actions in
addition to the suits noted above; however, the outcome of individual matters
is not predictable with assurance. Although the ultimate resolution of these
actions (including the actions discussed above) is not presently determinable,
the Company believes that any liability resulting from the current pending
legal actions involving the Company, in excess of amounts provided therefor,
will not have a material effect on the Company's consolidated financial
position, results of operations or liquidity.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of the Company's security holders
during the quarter ended December 31, 2001.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
MARKET INFORMATION
The Company's Common Stock trades on the American Stock Exchange (the
"Amex") under the symbol "HTC." Trading of the Common Stock on the Amex
commenced on December 20, 1995. From December 8, 1994 through December 19,
1995, the Common Stock was quoted on the Nasdaq National Market and from
December 28, 1992 through December 7, 1994 the Common Stock was quoted on the
Nasdaq Small-Cap Market. In 1998, NASD, parent of The Nasdaq Stock Market,
merged with the American Stock Exchange. Subsequent to the merger, The
Nasdaq--Amex Market Group was created as a holding company under which both The
Nasdaq Stock Market and the American Stock Exchange function as independent
subsidiaries, with separate listed companies.
The following table sets forth the high and low sale prices for the
Common Stock as reported by the Amex for each quarter in 2000 and 2001.
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High Low
---- ---
Quarter Ended:
- -------------
2000
- ----
March 31, 2000 . . . . . . . . . . . $10-1/2 $ 6-7/8
June 30, 2000. . . . . . . . . . . . 8-5/8 5-1/2
September 30, 2000 . . . . . . . . . 7-3/8 4-3/4
December 31, 2000. . . . . . . . . . 6-3/8 4-1/8
2001
- ----
March 31, 2001 . . . . . . . . . . . $ 9.50 $ 5.63
June 30, 2001. . . . . . . . . . . . 8.04 5.05
September 30, 2001 . . . . . . . . . 5.35 2.65
December 31, 2001. . . . . . . . . . 5.30 3.65
On March 25, 2002, the closing sale price for the Common Stock on the
Amex was $5.10.
STOCKHOLDERS
As of March 25, 2002, the Company had 12,103,180 shares of Common Stock
outstanding held by 100 holders of record. The Company believes that it has
approximately 1,200 beneficial owners who hold their shares in street names.
The Company will furnish, without charge, on the written request of any
stockholder, a copy of the Company's Annual Report on Form 10-K for the year
ended December 31, 2001, including financial statements filed therewith.
Stockholders wishing a copy may send their request to the Company at 32 Center
Street, Darien, CT 06820.
DIVIDEND POLICY
In 1999, the Company issued 30,000 shares of its Series A Cumulative
Convertible Preferred Stock with a liquidation value of $70 per share to
Citizens. Any holder of such Preferred Shares is entitled to receive cumulative
cash dividends in arrears at the annual rate of 5%, compounded annually on the
liquidation value. As of December 31, 2001, the total arrearage on the
Preferred Shares was $282,000. Under Delaware law, HTCC has been restricted
from paying dividends due to its stockholders' deficiency. Therefore, the
Company has not paid any dividend on its preferred stock. The Company intends
to reevaluate its preferred stock dividend policy. It is the present policy of
the Company to retain earnings, if any, to finance the development and growth
of its businesses. Accordingly, the Board of Directors does not anticipate that
cash dividends will be paid on its common stock until earnings of the Company
warrant such dividends, and there can be no assurance that the Company can
achieve such earnings.
At present, HTCC's only source of cash is payments from intercompany
loans, payments under its management service agreement with the Operating
Company, and dividends, if any, from the Operating Company. The Operating
Company's ability to pay dividends or make other capital distributions to the
Company is governed by Hungarian law, and is significantly restricted by
certain obligations of the
-27-
Operating Company. The Operating Company is the borrower under a Banking Credit
Facility which provides that the Operating Company can only make distributions
without consent to HTCC for limited purposes. See Item 7 "Management's
Discussion and Analysis of Financial Condition and Results of Operations" and
Note 16 of Notes to Consolidated Financial Statements.
RECENT SALES OF UNREGISTERED SECURITIES
On May 12, 1999 the Company entered into a series of transactions with
Citizens, the Danish Fund, Postabank and TDC pursuant to which the Company
revised its capital structure. As part of such transactions, the Company
issued: 1,300,000 shares of Common Stock to Citizens; 1,285,714 shares of
Common Stock to the Danish Fund; 2,428,572 shares of Common Stock to Postabank;
and 1,571,429 shares of Common Stock to TDC. The Company also issued 30,000
shares of its Series A Cumulative Convertible Preferred Stock to Citizens. The
30,000 shares of preferred stock are convertible by Citizens into 300,000
shares of Common Stock. The shares of preferred stock are redeemable by the
Company at the liquidation value of $70 per share. The Company also issued
warrants to Postabank to purchase 2,500,000 shares of Common Stock at $10 per
share. The exercise period is from January 1, 2004 through March 31, 2007. For
a more detailed description of these agreements, see Notes 9 and 12 of Notes to
Consolidated Financial Statements.
On December 21, 2000, the Company issued 72,000 shares of Common Stock to
the International Finance Corporation, a member of the World Bank Group (the
"IFC"). The Company issued the shares in exchange for the IFC's 20% equity
interest in Papatel.
On March 14, 2001, the Company issued 14,001 shares of Common Stock to
TDC for $7.00 per share pursuant to TDC's preemptive rights in connection with
the issuance to the IFC.
All of these unregistered issuances were in reliance upon an exemption
from the registration provisions of the Securities Act of 1933 (the "Securities
Act") set forth in Section 4(2) thereof relative to transactions by an issuer
not involving any public offering. Each of the purchasers was informed that the
transactions were being effected without registration under the Securities Act
and that the shares acquired could not be resold without registration under the
Securities Act unless the sale is effected pursuant to an exemption from the
registration requirements of the Securities Act.
-28-
ITEM 6. SELECTED FINANCIAL DATA
HUNGARIAN TELEPHONE AND CABLE CORP.
AND SUBSIDIARIES
Selected Financial and Operating Data
(Dollars in Thousands, Except Per Share Amounts)
2001 2000 1999 1998 1997
---- ---- ---- ---- ----
For the Year
Operating revenues, net $45,236 $42,974 $45,438 $38,707 $26,522*
Operating income (loss) $18,340 $16,469 $16,189 $(6,059) $(1,263)
Operating income (loss) per
common share (basic) $ 1.51 $ 1.37 $ 1.68 $ (1.14) $ (0.28)
Income (loss) before
extraordinary items $11,099 $(5,331) $(17,773) $(50,612) $(36,236)
Net income (loss) $11,099 $(5,331) $3,172 $(50,612) $(36,236)
Net income (loss) per common share
(basic) $ 0.91 $(0.45) $ 0.33 $ (9.53) $ (7.97)
At Year-End
Total assets $136,071 $147,318 $154,683 $177,067 $186,485
Long-term debt, excluding
current installments $104,882 $124,814 $139,661 $202,881 $194,537
Total stockholders' equity
(deficiency) $ 366 $(10,878) $(6,946) $(89,037) $(41,837)
*Revenues are adjusted to reflect the requirements of the Securities and
Exchange Commission's Staff Accounting Bulletin 101 ("SAB 101") which requires
the deferral of installation revenue and related installment costs. These
adjustments did not affect the previously reported net losses; such adjustments
resulted in a reduction of previously reported revenues and costs of
$11,369,000 in 1997.
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ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
INTRODUCTION
The Company is engaged primarily in the provision of telecommunications
services through its operating subsidiaries, KNC, Raba-Com, Papatel and
Hungarotel (which have all been merged into Hungarotel effective January 1,
2002). The Company earns substantially all of its telecommunications revenue
from measured service fees, monthly line rental fees, connection fees, public
pay telephone services and ancillary services (including charges for additional
services purchased at the customer's discretion).
During 1996 and 1997, the Company embarked on a significant network
development program which met its substantial demand backlog, increased the
number of basic telephone access lines in service and modernized existing
facilities. The development and installation of the network in each of the
Company's Operating Areas required significant capital expenditures.
Now that the Company's networks are built-out, the ability of the Company
to generate sufficient revenues to satisfy cash requirements and maintain
profitability will depend upon a number of factors, including the Company's
ability to attract additional customers both in and outside its Operating Areas
and increased revenues per customer. These factors are expected to be primarily
influenced by the success of the Company's operating and marketing strategies,
as well as market acceptance of telecommunications services both in and outside
the Company's operating areas. In addition, the Company's profitability may be
affected by changes in the Company's regulatory environment and other factors
that are beyond the Company's control.
The Company funded its construction costs and working capital needs over
several years primarily through credit facilities with Postabank and a $47.5
million contractor financing facility. On March 30, 1999, and May 12, 1999, the
Company entered into a series of transactions (see Notes 5 and 9 of Notes to
Consolidated Financial Statements) which restructured the Company's debt and
capital structure. As the final step in the Company's debt and equity
restructuring, on April 11, 2000, the Company entered into a EUR 130 million
Senior Secured Debt Facility with a European banking syndicate. See "-
Liquidity and Capital Resources."
To date, the Company's activities have involved the acquisition of the
concessions and telecommunications networks from Matav and the subsequent
design, development and construction of the modern telecommunications
infrastructure that the Company now has in service. The Company paid the
Ministry $11.5 million (at historical exchange rates) for its concessions,
spent approximately $23.2 million (at historical exchange rates) to acquire the
existing telecommunications assets in its Operating Areas from Matav, and spent
$197 million through December 31, 2001 (at historical exchange rates) on the
development and construction of its telecommunications infrastructure. Since
commencing the provision of telecommunications services in the first quarter of
1995, the Company's network construction and expansion program has added
142,100 access lines through December 31, 2001 to the 61,400 access lines
acquired directly from Matav. As a result, the Company had 203,500 access lines
in operation at year-end 2001. During the past year, due to the Company's
revised collection procedures, as well as economic developments within the
areas the Company operates in and competition from the mobile market, the
Company's number of disconnections has increased such that the total number of
access lines in service is lower than at the beginning of 2001 by 2%. The
Company is attempting to deal
-30-
with this decrease in access lines by developing new subscription packages, as
well as through expanding into other markets within Hungary.
CRITICAL ACCOUNTING POLICIES
The Company's discussion and analysis of its financial condition and
results of operations are based upon its consolidated financial statements that
have been prepared in accordance with generally accepted accounting principles
in the United States ("US GAAP"). This preparation requires management to make
estimates and assumptions that affect the reported amounts of assets,
liabilities, revenues and expenses, and the disclosure of contingent assets and
liabilities. US GAAP provides the framework from which to make these estimates,
assumption and disclosures. The Company chooses accounting policies within US
GAAP that management believes are appropriate to accurately and fairly report
the Company's operating results and financial position in a consistent manner.
Management regularly assesses these policies in light of current and forecasted
economic conditions. The Company's accounting policies are stated in Note 1 to
the Consolidated Financial Statements. The Company believes the following
accounting policies are critical to understanding the results of operations and
the effect of the more significant judgments and estimates used in the
preparation of the consolidated financial statements:
Revenue Recognition Policies -- The Company recognizes revenues, net of
interconnect charges, when services are rendered to the customer. The Company's
pricing is subject to oversight by the Hungarian regulators. Such regulation
also covers interconnection, competition and other public policy issues.
Regulatory interpretation of the Communications Act and related Decrees,
Hungary's planned accession into the EU and changes in the political
environment within Hungary all could result in changes in the level of the
Company's revenues. The Company monitors the decisions of the regulator and the
Hungarian market closely, and will make adjustments to revenue and associated
expenses if necessary. The Company records deferred costs and revenues related
to the costs and related installation revenue associated with connecting new
customers to the Company's networks. Based on the SEC's Staff Accounting
Bulletin 101 ("SAB 101"), the Company amortizes these amounts over an estimated
seven year average period. If a significant number of customers were to leave
the service of the Company, the amortization of those deferred costs and
revenues would accelerate.
Allowance for Doubtful Accounts -- The Company reviews the valuation of
accounts receivable on a monthly basis. The allowance for doubtful accounts is
estimated based on historical experience and future expectations of conditions
that might impact the collectibility of accounts.
Long-lived Asset Recovery -- Long-lived assets, consisting primarily of
property, plant and equipment and intangibles, comprise a significant portion
of the Company's total assets. Changes in technology or changes in the
Company's intended use of these assets may cause the estimated period of use or
the value of these assets to change. These assets are reviewed for impairment
whenever events or changes in circumstances indicate that their carrying
amounts may not be recoverable. Estimates and assumptions used in both setting
depreciable lives and reviewing recoverability require both judgement and
estimation by management. Impairment is deemed to have occurred if projected
undiscounted cash flows related to the asset are less than its carrying value.
If impairment is deemed to have occurred, the carrying values of the assets are
written down, through a charge against earnings, to their fair value.
-31-
Contingent Liabilities -- The Company establishes accruals for estimated
loss contingencies when it is management's assessment that a loss is probable
and the amount of the loss can be reasonably estimated. Revisions to contingent
liabilities are reflected in income in the period in which different facts or
information become known or circumstances change that affect the previous
assessments as to the likelihood of and estimated amount of loss. Accruals for
contingent liabilities are based upon management's assumptions and estimates,
after giving consideration to the advice of legal counsel and other information
relevant to the assessment of the probable outcome of the matter. Should the
outcome differ from the assumptions and estimates, revisions to the estimated
accruals for contingent liabilities would be required.
Income Taxes -- In assessing the realizability of deferred tax assets,
management considers whether it is more likely than not that some portion or
all of the deferred tax assets will be realized. The ultimate realization of
deferred tax assets is dependent upon the generation of future taxable income
during the periods in which those temporary differences become deductible.
Management considers projected future taxable income and tax planning in making
these assessments. Actual income taxes could vary from these estimates due to
future changes in the income tax laws or the results from reviews of the
Company's tax returns by taxing authorities.
COMPARISON OF YEAR ENDED DECEMBER 31, 2001 TO YEAR ENDED DECEMBER 31, 2000
The Company's Hungarian subsidiaries' functional currency is the
Hungarian forint. The average Hungarian forint/U.S. dollar exchange rate for
the year ended December 31, 2001 was 286.49, as compared to an average
Hungarian forint/U.S. dollar exchange rate for the year ended December 31, 2000
of 281.10. When comparing the year ended December 31, 2001 to the year ended
December 31, 2000, it should be noted that all U.S. dollar reported amounts
have been affected by this 2% devaluation in the Hungarian subsidiaries'
functional currency.
Net Revenues
Year ended
(dollars in millions) 2001 2000
Measured service revenues $ 29.2 $ 30.7
Subscription revenues 16.1 13.1
Net interconnect charges (6.5) (6.5)
------ -----
Net measured service and subscription revenues 38.8 37.3
Connection fees 2.2 2.1
Other operating revenues, net 4.2 3.6
---- ----
Telephone Service Revenues, Net $ 45.2 $ 43.0
====== =======
The Company recorded a 5% increase in net telephone service revenues to
$45.2 million for the year ended December 31, 2001 from $43.0 million for the
year ended December 31, 2000.
Net measured service and subscription revenues increased to $38.8 million
for the year ended December 31, 2001 from $37.3 million for the year ended
December 31, 2000. Measured service revenues decreased 5% to $29.2 million in
2001 from $30.7 million in 2000, while subscription revenues increased 23% to
$16.1 million in 2001 from $13.1 million in 2000. Measured service revenues
decreased in functional currency terms by approximately 3% as a result of an
average 3.6% decrease in call tariffs
-32-
between 2000 and 2001 as a result of continued tariff re-balancing which was
introduced during 2000, offset by an increase in average access lines in
service from approximately 202,400 for the year ended December 31, 2000 to
approximately 204,900 for the year ended December 31, 2001. Subscription
revenues increased in functional currency terms by approximately 25% as a
result of continued tariff re-balancing. Under tariff re-balancing, a more
cost-driven payment structure is envisaged, with the actual monthly
subscription fees increasing to cover network infrastructure expenses over
time. In Hungary, as in many other countries over the past several years,
cheaper local call charges have been subsidized by expensive international and
domestic long-distance calls. The overall effect on a gross revenue basis for
the Company and the telecom industry as a whole is expected to be neutral. The
increase in subscription revenues in functional currency terms has been offset
to an extent by the approximate 2% devaluation of the functional currency
between the periods and, therefore, subscription revenues show only a 23%
increase in U.S. dollar terms.
These revenues have been reduced by net interconnect charges, which
totaled $6.5 million for each of the years ended December 31, 2001 and 2000. As
a percentage of call and subscription revenues, net interconnect charges have
declined from 14.8% for the year ended December 31, 2000 to 14.3% for the year
ended December 31, 2001. Due to the regulatory regime not liberalizing the
market in Hungary as quickly as expected, the Company does not expect net
interconnect charges as a percentage of call and subscription revenues to
decrease considerably in 2002 as compared with 2001 levels.
Connection fees, which represent fees paid by customers to connect to the
Company's networks, increased 5% for the year ended December 31, 2001 to $2.2
million from $2.1 million for the year ended December 31, 2000. In the fourth
quarter of 2000, the Company implemented the Securities and Exchange's Staff
Accounting Bulletin No. 101 ("SAB 101"), with effect from January 1, 2000,
which requires connection fees and corresponding direct incremental costs to be
deferred and amortized over future periods. As a result of the implementation
of SAB 101, certain connection fees and costs recognized in prior periods have
been deferred and are being amortized over the estimated average subscriber
life of 7 years. There was no cumulative effect on earnings from the adoption
of SAB 101, nor has its adoption had a material impact on the Company's results
of operations. Following the adoption of SAB 101, the amortization of deferred
connection fee revenue and associated direct incremental costs is included in
telephone service revenues and operating and maintenance expenses, respectively.
Other operating revenues, which include revenues generated from the
provision of direct lines, operator services and other miscellaneous telephone
service revenues, increased 17% to $4.2 million for the year ended December 31,
2001, as compared to $3.6 million during the year ended December 31, 2000.
Operating and Maintenance Expenses
Operating and maintenance expenses increased 3% to $17.5 million for the
year ended December 31, 2001, as compared to $17.1 million for the year ended
December 31, 2000. In functional currency terms, operating and maintenance
expenses increased approximately 9% for the year ended December 31, 2001, as
compared to the year ended December 31, 2000, due to inflationary increases in
costs. In U.S. dollar terms, however, the increase in such costs in functional
currency terms has been offset by the 2% devaluation of the Hungarian forint
between the periods and a reduction in the Company's U.S. dollar denominated
operating expenses between the periods.
-33-
Depreciation and Amortization
Depreciation and amortization charges remained consistent at $9.4
million for each of the years ended December 31, 2001 and 2000. Depreciation
and amortization charges increased in functional currency terms by
approximately 2% due to additional capital expenditures during the period.
Income from Operations
Income from operations increased 11% to $18.3 million for the year
ended December 31, 2001 from $16.5 million for the year ended December 31,
2000. Contributing to such improvement were higher net telephone service
revenues, partially offset by slightly higher operating and maintenance
expenses.
Foreign Exchange Gains (Losses)
Foreign exchange gains amounted to $5.3 million for the year ended
December 31, 2001, compared to foreign exchange losses of $4.8 million for the
year ended December 31, 2000. The foreign exchange gains resulted primarily
from the appreciation of the Hungarian forint against the Company's average EUR
84.3 million denominated debt outstanding during the period. At December 31,
2001, the Hungarian forint had appreciated in value by approximately 7% against
the euro and by approximately 2% against the U.S. dollar as compared to January
1, 2001. Included in foreign exchange gains for the year ended December 31,
2001 is approximately $0.7 million of foreign exchange losses relating to the
Company's foreign currency forward contracts. When non-Hungarian forint debt is
re-measured into Hungarian forints, the Company reports foreign exchange
gains/losses in its consolidated financial statements as the Hungarian forint
appreciates/devalues against such non-forint currencies. See "- Inflation and
Foreign Currency," and Item 7A "Quantitative and Qualitative Disclosures About
Market Risk - Market Risk Exposure."
Interest Expense
Interest expense decreased 27% to $13.6 million for the year ended
December 31, 2001 from $18.5 million for the year ended December 31, 2000. This
$4.9 million decrease is attributable to lower interest rates paid on the
Company's borrowings. The decrease results from the Company's medium-term
credit facility entered into in April 2000, pursuant to which the Company's
borrowings went from being mostly Hungarian forint denominated to mostly euro
denominated, and the Company's weighted average interest rate on its debt
obligations went from 10.70% for the year ended December 31, 2000, to 8.48% for
the year ended December 31, 2001, a 21% decrease. Included in interest expense
for the year ended December 31, 2000 is approximately $1.6 million of
amortization of forward points on forward foreign currency contracts accounted
for under SFAS 52. The Company adopted the provisions of SFAS 133 and SFAS 138
on January 1, 2001 and the foreign currency forward contracts the Company has
entered into during 2001 do not qualify for hedge accounting as defined under
SFAS 133 and SFAS 138.
-34-
Interest Income
Interest income decreased to $1.3 million for the year ended December
31, 2001 from $1.5 million for the year ended December 31, 2000, primarily due
to lower interest rates on Hungarian forint deposits during the period.
Net Income (Loss)
As a result of the factors discussed above, the Company recorded net
income ascribable to common stockholders of $11.0 million, or $0.91 per share,
or $0.89 per share on a diluted basis, for the year ended December 31, 2001 as
compared to a net loss ascribable to common stockholders of $5.4 million, or
$0.45 per share on a basic and diluted basis, for the year ended December 31,
2000.
COMPARISON OF YEAR ENDED DECEMBER 31, 2000 TO YEAR ENDED DECEMBER 31, 1999
The Company's Hungarian subsidiaries' functional currency is the
Hungarian forint. The average Hungarian forint/U.S. dollar exchange rate for
the year ended December 31, 2000 was 281.10, as compared to an average
Hungarian forint/U.S. dollar exchange rate for the year ended December 31, 1999
of 238.08. This devaluation of the Hungarian forint against the U.S. dollar
reflects the strengthening of the U.S. dollar against the Hungarian forint
during the period. When comparing the year ended December 31, 2000 to the year
ended December 31, 1999, it should be noted that all U.S. dollar reported
amounts have been affected by this 18% devaluation in the Hungarian
subsidiaries' functional currency.
Net Revenues
Year ended
(dollars in millions) 2000 1999
Measured service revenues $ 30.7 $ 35.2
Subscription revenues 13.1 10.9
Net interconnect charges (6.5) (7.0)
----- -----
Net measured service and subscription revenues 37.3 39.1
Connection fees 2.1 1.8
Other operating revenues, net 3.6 4.5
----- -----
Telephone Service Revenues, Net $ 43.0 $ 45.4
====== ======
The Company recorded a 5% decrease in net telephone service revenues
to $43.0 million for the year ended December 31, 2000 from $45.4 million for
the year ended December 31, 1999.
Net measured service and subscription revenues decreased to $37.3
million for the year ended December 31, 2000 from $39.1 million for the year
ended December 31, 1999. Measured service revenues decreased 13% to $30.7
million in 2000 from $35.2 million in 1999, while subscription revenues
increased 20% to $13.1 million in 2000 from $10.9 million in 1999. Measured
service revenues increased in functional currency terms by approximately 2% as
a result of an increase in average access lines in service from approximately
190,000 lines for the year ended December 31, 1999 to approximately 202,400
lines for the year ended December 31, 2000, offset by an average 3.6% decrease
in call tariffs between 1999 and 2000 as a result of tariff re-balancing which
was introduced during 2000. Under tariff re-balancing, a more cost-driven
payment structure is envisaged, with monthly subscription fees increasing to
cover network infrastructure expenses over time. In Hungary, over the past
several years, as
-35-
in many other countries, cheaper local call charges have been subsidized by
expensive international and domestic long-distance calls. The overall effect on
a gross revenue basis for the telecom industry, as a whole, is expected to be
neutral. The increase in measured service revenues in functional currency
terms, however, has been offset by the approximate 18% devaluation of the
functional currency during the year and, therefore, measured service revenues
show a 13% decrease year-on-year in U.S. dollar terms. Subscription revenues
increased in functional currency terms by approximately 41% as a result of
tariff re-balancing effective February 1, 2000, as well as the increase in
average access lines in service. The increase in subscription revenues in
functional currency terms, however, has been offset by the approximate 18%
devaluation of the functional currency during the year and, therefore,
subscription revenues show only a 20% increase in U.S. Dollar terms
year-on-year.
These revenues have been reduced by net interconnect charges which
totaled $6.5 million for the year ended December 31, 2000 as compared to $7.0
million for the year ended December 31, 1999. As a percentage of call and
subscription revenues, net interconnect charges have declined from 15.2% for
the year ended December 31, 1999 to 14.8% for the year ended December 31, 2000.
Connection fees, which represent fees paid by customers to connect to
the Company's networks, increased 17% for the year ended December 31, 2000 to
$2.1 million from $1.8 million for the year ended December 31, 1999. In the
fourth quarter of 2000, the Company implemented the Securities and Exchange's
Staff Accounting Bulletin No. 101 ("SAB 101"), with effect from January 1,
2000, which requires connection fees and corresponding direct incremental costs
to be deferred and amortized over future periods. As a result of the
implementation of SAB 101, certain connection fees and costs recognized in
prior periods have been deferred and are being amortized over the estimated
average subscriber life of 7 years. There was no cumulative effect on earnings
from the adoption of SAB 101, nor has its adoption had a material impact on the
Company's results of operations. Following the adoption of SAB 101, the
amortization of deferred connection fee revenue and associated direct
incremental costs is included in telephone service revenues and operating and
maintenance expenses, respectively.
Other operating revenues, which include revenues generated from the
provision of direct lines and other miscellaneous telephone service revenues,
totaled $3.6 million for the year ended December 31, 2000, as compared to $4.5
million during the year ended December 31, 1999.
Operating and Maintenance Expenses
Operating and maintenance expenses decreased 2% to $17.1 million for
the year ended December 31, 2000, as compared to $17.5 million for the year
ended December 31, 1999. In functional currency terms, operating and
maintenance expenses increased 6%, excluding the effect of the change in
accounting for connection fees and corresponding direct incremental costs, for
the year ended December 31, 2000, as compared to the year ended December 31,
1999. This increase in functional currency terms is due to inflationary
increases in costs at the Company's Hungarian subsidiaries, offset by savings
related to reductions in the number of ex-patriates working for the Company.
-36-
Depreciation and Amortization
Depreciation and amortization charges decreased $2.4 million, or 20%,
to $9.4 million for the year ended December 31, 2000 from $11.8 million for the
year ended December 31, 1999. This decrease in U.S. Dollar terms is due to
depreciation and amortization charges decreasing in functional currency terms
by approximately 6% combined with the 18% devaluation of the Hungarian forint
during the period. The 6% decrease in depreciation and amortization charges in
functional currency terms is due to additional depreciation being recorded at
two of the Company's subsidiaries during 1999 ($0.7 million at historical
exchange rates) on certain network equipment. The equipment was replaced due to
the subsidiaries' relinquishment of rights to use certain broadcasting
frequencies, previously granted by TTW Ministry.
Income from Operations
Income from operations increased to $16.5 million for the year ended
December 31, 2000 from $16.2 million for the year ended December 31, 1999.
Contributing to such improvement were lower operating and maintenance expenses
and lower depreciation and amortization charges.
Foreign Exchange Losses
Foreign exchange losses increased $2.0 million, net of a gain of $0.9
million related to the Company's forward hedging contracts, to $4.8 million for
the year ended December 31, 2000 from $2.8 million for the year ended December
31, 1999. Such foreign exchange losses resulted primarily from the devaluation
of the Hungarian forint against the U.S. dollar and euro during the period.
This increase in foreign exchange losses during the period is also due to the
Company's refinancing of its debt obligations in April 2000. Prior to its
refinancing, approximately 20% of the Company's debt was denominated in
currencies other than the Hungarian forint, whereas subsequent to its
refinancing, the Company's debt is approximately 69% denominated in currencies
other than the Hungarian forint. Therefore, when such non-forint debt is
converted into Hungarian forints, the Company reports foreign exchange losses
in its consolidated financial statements as the Hungarian forint devalues
against such non-forint currencies during the reporting period. See "-
Inflation and Foreign Currency," and Item 7A "Quantitative and Qualitative
Disclosures About Market Risk - Market Risk Exposure."
Interest Expense
Interest expense decreased 43% to $18.5 million for the year ended
December 31, 2000 from $32.5 million for the year ended December 31, 1999. This
$14.0 million decrease was partially attributable to lower average debt levels
during the year ended December 31, 2000 as compared to the year ended December
31, 1999, due to the Company's restructuring of its debt obligations in May
1999 and the subsequent refinancing of those obligations in April 2000. As a
result of the refinancing in April 2000, the Company's borrowings went from
being mostly Hungarian forint denominated to mostly euro denominated. The
decrease also reflects the lower interest rates paid on borrowings in U.S.
dollars and euros, compared to Hungarian forints. As a result of the
restructuring in May 1999 and the refinancing in April 2000, the Company's
weighted average interest rate on its debt obligations went from 13.17% for the
year ended December 31, 1999, to 10.70% for the year ended December 31, 2000, a
19% decrease. Included in interest expense for the year ended December 31, 2000
is approximately $1.6 million of
-37-
amortization of the forward points on the Company's forward foreign currency
contracts. See "- Liquidity and Capital Resources."
Interest Income
Interest income decreased to $1.5 million for the year ended December
31, 2000 from $1.7 million for the year ended December 31, 1999, primarily due
to lower interest rates on Hungarian forint deposits during the period.
Loss Before Extraordinary Items
As a result of the factors discussed above, the Company recorded a
loss before extraordinary items of $5.3 million, or $0.45 per share, for the
year ended December 31, 2000 as compared to a loss before extraordinary items
of $17.8 million, or $1.85 per share, for the year ended December 31, 1999.
Extraordinary Items, net
For the year ended December 31, 1999, the Company recorded an
extraordinary item, net of $20.9 million, comprised of a $9.0 million gain on
extinguishment of the liabilities the Company had with Citizens and an $18.2
million gain on extinguishment of all amounts due under a contractor financing
facility, offset in part by a non-cash charge of $6.3 million related to the
write-off of the remaining unamortized deferred financing costs and credits
pertaining to the Original Postabank Credit Facility.
Net Income (Loss)
As a result of the factors discussed above, the Company recorded
a net loss ascribable to common stockholders of $5.4 million, or $0.45 per
share, for the year ended December 31, 2000 as compared to net income
ascribable to common stockholders of $3.1 million, or $0.33 per share for the
year ended December 31, 1999.
LIQUIDITY AND CAPITAL RESOURCES
The Company has historically funded its capital requirements primarily
through a combination of debt, equity and vendor financing. The ongoing
development and installation of the network in each of the Company's operating
areas required significant capital expenditures ($197 million at historical
exchange rates through December 31, 2001). Since the end of 1998, the Company's
networks have had the capacity, with only normal capital expenditure
requirements, to provide basic telephone services to virtually all of the
potential subscribers within its Operating Areas.
In 1996, the Company entered into a $170 million Credit Facility with
Postabank (the "Original Postabank Credit Facility") and, during 1996 and 1997,
the Company entered into several construction contracts with a contractor which
totaled $59.0 million in the aggregate, $47.5 million of which was financed by
a contractor financing facility. The contractor financed the construction
through a facility provided by Postabank.
On May 12, 1999, the Company entered into various agreements as part
of a revision of its capital structure with the following parties: Postabank;
Tele Danmark; the Danish Fund; and CU CapitalCorp
-38-
and Citizens International Management Services Company, two wholly-owned
subsidiaries of Citizens (see Notes 5, 9 and 12 of Notes to Consolidated
Financial Statements). As a result of such agreements, the Company extinguished
all of its obligations (i) to Postabank under the Original Postabank Credit
Facility; (ii) to the contractor under a contractor financing facility; and
(iii) to Citizens. The effect of these transactions caused a significant
reduction in the financial obligations of the Company. The Company
simultaneously borrowed from Postabank $138 million (at historical exchange
rates) under a one-year dual currency bridge loan agreement (the "Postabank
Bridge Loan ") in Hungarian forints and euros and $25 million pursuant to
certain unsecured notes which mature in 2007.
On April 11, 2000, the Company entered into an EUR 130 million Senior
Secured Debt Facility Agreement (the "Debt Agreement" or "Credit Facility")
with a European banking syndicate. The Company drew down EUR 129 million of the
Facility on April 20, 2000 ($121 million at April 20, 2000 exchange rates),
which funds were used, along with $7.3 million of other Company funds (at April
20, 2000 exchange rates), to pay off the entire outstanding EUR 134 million
(approximately $126 million at April 20, 2000 exchange rates) principal and
interest due on the Postabank Bridge Loan which was due to mature on May 12,
2000, and to pay fees associated with the Debt Agreement. The borrowers under
the Debt Agreement are the Operating Companies (now merged into Hungarotel) who
were the borrowers under the Postabank Bridge Loan. The Debt Agreement and some
of the related agreements are further described below.
The Debt Agreement has two facilities. Facility A is a floating rate
term loan in the amount of EUR 125 million (the "Term Facility") which
principal is repayable in installments semi-annually on each June 30 and
December 31 beginning on June 30, 2001 and ending on December 31, 2007. The
amounts of the principal repayments on the Term Facility are to be escalating
percentages of the amounts drawn down. The Company has borrowed the full EUR
125 million, of which EUR 84.1 million was funded in, an is repayable in, euros
and the equivalent of EUR 40.9 million was funded in, and is repayable in,
Hungarian forints. The portion of the Term Facility loan denominated in euros
accrues interest at the rate of the Applicable Margin (defined below) plus the
EURIBOR rate for the applicable interest period. The EURIBOR rate is the
percentage rate per annum determined by the Banking Federation of the European
Union for the applicable interest period. The portion of the Term Facility loan
denominated in Hungarian forints accrues interest at the rate of the Applicable
Margin (defined below) plus the BUBOR rate for the applicable interest period.
The BUBOR rate is the percentage rate per annum determined according to the
rules established by the Hungarian Forex Association and published by the
National Bank of Hungary for the applicable interest period. The applicable
interest period for the portion of the Term Facility loan denominated in euros
is six months. The applicable interest period for the portion of Term Facility
loan denominated in Hungarian forints is three months. Interest is payable at
the end of each interest period. The Applicable Margin is initially 1.75%. The
Applicable Margin may be adjusted downward incrementally to a minimum of 1.15%,
subject to the financial performance of the Company as measured by the ratio of
the Company's senior debt to its earnings before interest, taxes, depreciation
and amortization. Dependent on its cash flow, the Company will be required to
prepay the equivalent of $25 million on the Term Facility until such time as
$25 million has been prepaid. The amount of the prepayment in any year shall be
at least 50% of the Company's excess cash flow, if any, for the previous
financial year as defined in the Debt Agreement. The prepayment amount is due
within 15 days of the publication of each annual Form 10-K filing. As a result
of the amendment to the Debt Agreement on November 9, 2001 described below, no
such mandatory prepayment will be made by the Company in 2002.
-39-
Facility B is a floating rate revolving loan in the amount of EUR 5
million (the "Revolving Facility") which can only be drawn down in euros. The
Revolving Facility was scheduled to be reduced to EUR 2.5 million on December
31, 2005. The Revolving Facility was originally available until December 31,
2007. The Company borrowed EUR 4 million of the Revolving Facility to pay off
the balance of the Postabank Bridge Loan and fees associated with the
transaction on April 20, 2000. The principal amount borrowed under the
Revolving Facility is due at the end of each interest period at which point the
Company could, subject to certain conditions, roll over the amount of principal
borrowed. The applicable interest period for the Revolving Facility is, at the
Company's option, one, three, or six months. The Company has chosen six months
at the present time. Interest is payable at the end of each interest period
calculated similarly to that for a Term Facility loan denominated in euros. On
November 9, 2001, the Company and its bank lenders under the Debt Agreement
amended the Debt Agreement. In connection with the amendment, the Company
agreed to cancel, with immediate affect, the EUR 1 million undrawn portion of
the Revolving Facility. At the same time, the Company also agreed to cancel the
EUR 4 million revolving loan outstanding following the scheduled repayment of
such principal and accrued interest in April 2002. After May 31, 2002, the
Company may request that the banking syndicate reinstate the EUR 5 million
Revolving Facility. However, any such reinstatement would be at the discretion
of each member of the banking syndicate individually with regard to its
original commitment at April 11, 2000. The amended agreement allows for those
lenders participating in the reinstatement of the revolver to increase their
individual commitments such that, in the aggregate, all of the lenders
participating in the reinstated revolver could provide up to the original
revolver amount of EUR 5 million.
The Company paid an arrangement fee in the amount of EUR 2,665,000
(approximately $2.5 million at April 20, 2000 exchange rates), which has been
capitalized with other direct costs incurred in obtaining the Debt Agreement
and is being amortized over the term of the related debt. In addition, an
annual agency fee in the amount of $60,000 has also been paid. The Company is
obligated to pay a commitment fee equal to the lower of 0.75% or 50% of the
Applicable Margin on any available unused commitment on the Revolving Facility.
On November 9, 2001, the Company and its bank lenders amended the Debt
Agreement. The amendment eliminated a covenant requiring the Company to
maintain a minimum level of EBITDA, measured in Hungarian forints, each quarter
and waived for the fourth quarter 2001 and first quarter of 2002 a financial
covenant requiring the Company to maintain a minimum senior debt service
coverage ratio. In connection with the elimination and such waivers, the
Company agreed to (i) make a payment by November 21, 2001 in the amount of
approximately $7.9 million (at November 9, 2001 exchange rates) into escrow to
cover the interest and principal repayment under the Debt Facility due December
31, 2001; (ii) between May 1, 2002 and May 12, 2002 pay the interest and
principal due on June 30, 2002 under the Credit Facility into escrow; (iii)
make a prepayment by November 21, 2001 of 5% of the original loan
(approximately $5.6 million at November 9, 2001 exchange rates); (iv)
immediately cancel the remaining EUR 1 million undrawn portion of the EUR 5
million revolver portion of the Debt Agreement (v) cancel the remaining portion
(EUR 4 million) of the Revolving Facility following the repayment of such
principal and accrued interest by the Company in April 2002; (vi) pay an
additional 15 basis points of interest on the floating rate term loan portion
of the Debt Agreement; and (vii) pay a waiver fee of EUR 195,000 to the banking
syndicate.
The Company believes that its current cash flow would have allowed it
to meet its working capital needs and continue its network development plans,
as well as meet its obligations under the Debt Agreement prior to the Debt
Agreement being amended. The amendment has enabled the Company to
-40-
significantly reduce its debt, thus positively re-balancing the Company's
debt-to-equity ratio. The reduced interest payments as a result of the
Company's reduced debt level are expected to positively affect the Company's
net results in future periods.
The Company and Citibank Rt. (as security agent) have entered into a
series of agreements to secure all of the Company's obligations under the Debt
Agreement pursuant to which the Company has pledged all of its intangible and
tangible assets, including HTCC's ownership interests in its subsidiaries, and
its real property. The Company is subject to restrictive covenants, including
restrictions regarding the ability of the Company to pay dividends, borrow
funds, merge and dispose of its assets. The Debt Agreement contains customary
representations and warranties and customary events of default, including those
related to a change of control, which would trigger early repayment of the
balance under the Debt Agreement. If, prior to the Trigger Date (the date on
which for the prior two fiscal quarters the Company's debt to EBITDA ratio is
less than 2.5 to 1), Tele Danmark sells any of the shares of Common Stock that
it currently owns or Tele Danmark and the Danish Fund, together, no longer own
30.1% of the outstanding Common Stock, then an event of default shall have
occurred. Tele Danmark and the Danish Fund currently own a combined total of
31.9% of the outstanding common stock. Following the Trigger Date, Tele Danmark
can only transfer its shares with the prior written consent of banks holding at
least 66.7% of the Company's outstanding debt under the Debt Agreement.
The Company had 12,103,180 shares of common stock outstanding as of
December 31, 2001, which were held by the following parties in the percentages
indicated: Postabank 20.1%; Tele Danmark 21.3%; the Danish Fund 10.6%; Citizens
19.1%; and others 28.9%. On a fully-diluted basis, the Company has 15,763,088
shares outstanding, which were held by the following parties in the percentages
indicated: Postabank 31.3%; Tele Danmark 16.4%; the Danish Fund 8.2%; Citizens
16.5%; and others 27.6%.
Net cash provided by operating activities totaled $13.6 million for
the year ended December 31, 2001, compared to $8.3 million for the year ended
December 31, 2000. For the years ended December 31, 2001 and 2000, the Company
used $7.0 million and $8.8 million, respectively, in investing activities,
which was primarily used to fund additions to the Company's telecommunications
networks. Financing activities used net cash of $13.3 million for the year
ended December 31, 2001, compared with net cash provided by financing
activities of $0.5 million for the year ended December 31, 2000.
-41-
The Company has the following major contractual cash obligations as of
December 31, 2001 (at December 31, 2001 exchange rates):
Cash Payments Due by Period
(in thousands)
1 Year or After 5
--
Obligation Total Less 2-3 Years 4-5 Years Years
----- ---- --------- --------- -----
Long Term Debt $ 117,193 12,311 31,338 38,054 35,490
Operating Leases 1,951 342 773 836 -
Construction
Commitments 2,792 1,456 1,336 - -
------- ------ ------ ------ ------
Total $ 121,936 14,109 33,447 38,890 35,490
======= ====== ====== ====== ======
The Company's ability to generate sufficient cash flow from operations to
meet its contractual cash obligations is subject to many factors, including
regulatory developments, competition and customer behavior and acceptance of
additional fixed line telecommunications services. Under the Debt Agreement,
the Company must maintain certain levels of earnings before interest, foreign
exchange gains/losses, taxes, depreciation and amortization ("EBITDA") and cash
flow in order to allow it to comply with its debt covenant ratios as set out in
the Debt Agreement. The ratios are calculated based on the Company's U.S.
dollar consolidated financial statements. This fact exposes the Company to the
risk of not meeting its debt covenant ratios, as measured in U.S. dollar terms,
due to the effect of currency movements on translation of its euro and
Hungarian forint denominated assets, liabilities, revenues and expenses into
U.S. dollars. While management seeks to manage the business to be in compliance
with its Debt Agreement and related covenants, management operates in a
regulated environment which is subject to many factors outside of its control
(i.e. change in governing party and the party's political, social and public
policy agenda). The Company's liquidity may also be affected by exchange rate
fluctuations due to 73% of its debt not being denominated in Hungarian forints.
The Company attempts to reduce this exchange rate risk, however, through its
use of forward hedging contracts.
INFLATION AND FOREIGN CURRENCY
For the year ended December 31, 2001, inflation in Hungary was
approximately 9.2% on an annualized basis. It is the stated policy goal of the
Hungarian government to keep inflation from exceeding approximately 4.5% in
2002. In May 2001, the National Bank of Hungary widened the trading band the
Hungarian forint is allowed to trade within from +/- 2.25% of the mid-point of
the band to +/- 15%. This widening caused the Hungarian forint to initially
appreciate in value against the euro by approximately 4%. Subsequent to the
band widening, and without any notice, in June 2001 the National Bank of
Hungary lifted all remaining foreign exchange restrictions concerning the
Hungarian forint, thus making the Hungarian forint fully and freely
convertible. The lifting of the restrictions initially caused a large amount of
investment money to flow into the Hungarian markets and the Hungarian forint
has appreciated in value against the euro during 2001. During the second
quarter of 2001, the Company experienced large foreign exchange gains primarily
related to the re-measurement of the Company's euro denominated debt, however
due to fluctuations in the Hungarian forint exchange rate market, the Hungarian
forint/euro exchange rate gave back much of its gains of the second quarter in
the third quarter of 2001. During the fourth quarter of 2001, the Company
recouped the foreign exchange loss it had incurred during the third quarter
-42-
of 2001. With the widening of the trading band as previously mentioned, the
potential volatility of the Hungarian forint has increased as is evidenced by
the exchange rate gains and losses the Company experienced during the last
three quarters of 2001. The Hungarian forint/U.S. dollar exchange rate
decreased to 279.03 as of December 31, 2001, as compared to an exchange rate of
284.73 as of December 31, 2000, an effective year-on-year appreciation of 2%.
See Item 7A "Quantitative and Qualitative Disclosures About Market Risk -
Market Risk Exposure."
The Company's Hungarian operations generate revenues in Hungarian forints
and incur operating and other expenses, including capital expenditures,
predominately in Hungarian forints but also in U.S. dollars and euros. In
addition, certain of the Company's balance sheet accounts are denominated in
currencies other than the Hungarian forint, the Company's Hungarian
subsidiaries' functional currency. Accordingly, when such accounts are
translated into Hungarian forints, the Company is subject to foreign exchange
gains and losses which are reflected as a component of net income or loss. When
the Company and its subsidiaries' forint-denominated accounts are translated
into U.S. dollars for financial reporting purposes, the Company is subject to
translation adjustments, the effect of which is reflected as a component of
stockholders' equity.
While the Company has the ability to increase the prices it charges for
its services commensurate with increases in the Hungarian Consumer Price Index
("CPI") pursuant to its licenses from the Hungarian government, it may choose
not to implement the full amount of the increase permitted due to competitive
and other concerns. In addition, the rate of increase in the Hungarian CPI may
not be sufficient to offset potential negative exchange rate movements and as a
result, the Company may be unable to generate cash flows to the degree
necessary to meet its obligation in currencies other than the Hungarian
forint.
PROSPECTIVE ACCOUNTING PRONOUNCEMENTS
In July 2001, Statement of Financial Accounting Standards No. 141,
"Business Combinations" ("Statement 141") was issued. Statement 141 eliminates
the pooling of interests method of accounting for business combinations
initiated after June 30, 2001 and requires all business combinations initiated
after this date to be accounted for using the purchase method. Statement 141
also specifies criteria intangible assets acquired in a purchase method
business combination must meet to be recognized and reported apart from
goodwill. The Company adopted the provisions of Statement 141 from July 1,
2001.
In July 2001, Statement of Financial Accounting Standards No. 142,
"Goodwill and Other Intangible Assets" ("Statement 142") was issued. Statement
142 will require that goodwill and intangible assets with indefinite useful
lives no longer be amortized, but instead be tested for impairment at least
annually in accordance with the provision of Statement 142. Statement 142 will
also require that intangible assets with definite useful lives be amortized
over their respective estimated useful lives to their estimated residual
values, and reviewed for impairment in accordance with Statement of Financial
Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to be Disposed of."
Statement 142 sets forth certain transition provisions which include a
requirement for the Company to assess whether there is an indication that
goodwill is impaired as of the date of adoption. To
-43-
accomplish this the Company must identify its reporting units and determine the
carrying value of each reporting unit by assigning the assets and liabilities,
including the existing goodwill and intangible assets, to those reporting units
as of the date of adoption. The Company will then have up to six months from
the date of adoption to determine the fair value of each reporting unit and
compare it to the reporting unit's carrying amount. To the extent a reporting
unit's carrying amount exceeds its fair value, an indication exists that the
reporting unit's goodwill may be impaired and the Company must perform the
second step of the transitional impairment test. In the second step, the
Company must compare the implied fair value of the reporting unit's goodwill,
determined by allocating the reporting unit's fair value to all of it assets
(recognized and unrecognized) and liabilities in a manner similar to a purchase
price allocation in accordance with Statement 141, to its carrying amount, both
of which would be measured as of the date of adoption. This second step is
required to be completed as soon as possible, but no later than the end of the
year of adoption. Any transitional impairment loss will be recognized as the
cumulative effect of a change in accounting principle in the Company's
statement of earnings. The Company is required to implement Statement 142 on
January 1, 2002. The Company is evaluating the impact Statement 142 may have on
its financial position and results of operations.
In June 2001, the FASB issued SFAS 143, "Accounting for Asset Retirement
Obligations". SFAS 143 requires the Company to record the fair value of an
asset retirement obligation as a liability in the period in which it incurs a
legal obligation associated with the retirement of tangible long-lived assets
that result from the acquisition, construction, development and/or normal use
of the assets. The Company also records a corresponding asset, which is
depreciated over the life of the asset. Subsequent to the initial measurement
of the asset retirement obligation, the obligation will be adjusted at the end
of each period to reflect the passage of time and changes in the estimated
future cash flows underlying the obligation. The Company is required to adopt
SFAS 143 on January 1, 2003. The Company does not expect this pronouncement
will have a significant effect on its financial position and results of
operations.
In August 2001, the Financial Accounting Standards Board issued FASB
Statement No. 144, "Accounting for the Impairment or Disposal of Long-Lived
Assets" ("Statement 144"), which supersedes both FASB Statement No. 121,
Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to
Be Disposed Of (Statement 121) and the accounting and reporting provisions of
APB Opinion No. 30, Reporting the Results of Operations-Reporting the Effects
of Disposal of a Segment of a Business, and Extraordinary, Unusual and
Infrequently Occurring Events and Transactions (Opinion 30), for the disposal
of a segment of a business (as previously defined in that Opinion). Statement
144 retains the fundamental provisions in Statement 121 for recognizing and
measuring impairment losses on long-lived assets held for use and long-lived
assets to be disposed of by sale, while also resolving significant
implementation issues associated with Statement 121. For example, Statement 144
provides guidance on how a long-lived asset that is used as part of a group
should be evaluated for impairment, establishes criteria for when a long-lived
asset is held for sale, and prescribes the accounting for a long-lived asset
that will be disposed of other than by sale. Statement 144 retains the basic
provisions of Opinion 30 on how to present discontinued operations in the
income statement but broadens that presentation to include a component of an
entity (rather than a segment of a business). Unlike Statement 121, an
impairment assessment under Statement 144 will never result in a write-down of
goodwill. Rather, goodwill is evaluated for impairment under Statement No. 142,
Goodwill and Other Intangible Assets. The Company is required to adopt
Statement 144 no later than the year beginning after December 15, 2001, and
plans to adopt its provisions for the quarter ending March 31, 2002. Management
does not expect the adoption of Statement 144 for long-lived assets held for
use to have a material impact on the Company's financial statements because the
impairment assessment under Statement 144 is largely unchanged from Statement
-44-
121. The provisions of the Statement for assets held for sale or other disposal
generally are required to be applied prospectively after the adoption date to
newly initiated disposal activities.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company is exposed to various types of risk in the normal course of
its business, including the impact of foreign currency exchange rate
fluctuations and interest rate changes. Company operations, including all
revenues and approximately 88% of operating expenses are Hungarian forint based
and are therefore subject to exchange rate variability between the Hungarian
forint and the U.S. dollar. In the past, the "crawling peg" policy of the
Hungarian National Bank, combined with the +/- 2.25% trading band, allowed the
Hungarian forint to be somewhat predictable versus the euro (e.g. the Hungarian
forint/euro exchange rate went from 264.58 as of January 1, 2001 to 266.70 as
of March 31, 2001). However, due to the lifting of all foreign exchange
restrictions concerning the Hungarian forint and the volatility in euro/U.S.
dollar exchange rates, Hungarian forint/euro and Hungarian forint/U.S. dollar
exchange rate variability has increased. This increase in variability is
evident by the fact that the Hungarian forint/euro exchange rate went from
257.75 as of September 30, 2001 to 246.33 as of December 31, 2001, an
approximate 4% appreciation in value. At the same time, the Hungarian
forint/U.S. dollar exchange rate went from 281.29 as of September 30, 2001 to
279.03 as of December 31, 2001, an approximate 1% appreciation in value.
The debt obligations of the Company are Hungarian forint, euro and U.S.
dollar denominated. The interest rate on the Hungarian forint debt obligations
is based on the Budapest Bank Offer Rate (BUBOR). The interest rates on the
euro and U.S. dollar denominated obligations are based on EURIBOR and USD
LIBOR, respectively. Over the medium to long term, the BUBOR rate is expected
to follow inflation and devaluation trends and the Company does not currently
believe it has any material interest rate risk on any of its Hungarian forint
denominated debt obligations. If a 1% change in the BUBOR interest rate were to
occur, the Company's interest expense would increase or decrease by
approximately $0.3 million annually based upon the Company's December 31, 2001
debt level. If a 1% change in EURIBOR interest rates were to occur, the
Company's interest expense would increase or decrease by approximately $0.7
million annually based upon the Company's December 31, 2001 debt level. If a 1%
change in USD LIBOR interest rates were to occur, the Company's interest
expense would increase or decrease by approximately $0.3 million annually based
upon the Company's December 31, 2001 debt level.
The Company is also exposed to exchange rate risk insofar as the Company
has debt obligations in other than the functional currency of its majority
owned Hungarian subsidiary. Given the Company's debt obligations, which include
euro and U.S. dollar denominated debt, if a 5% change in Hungarian forint/euro
exchange rates were to occur, the Company's exchange rate risk would increase
or decrease by approximately $3.4 million annually based upon the Company's
December 31, 2001 debt level. If a 5% change in Hungarian forint/U.S. dollar
exchange rates were to occur, the Company's exchange rate risk would increase
or decrease by approximately $1.3 million annually.
The Company utilizes foreign currency forward contracts to reduce its
exposure to exchange rate risks associated with cash payments in euro maturing
within six months under the Company's long-term debt obligations. The forward
contracts establish the exchange rates at which the Company will sell the
contracted amount of Hungarian forints for euros at a future date. The Company
utilizes forward contracts which are six months in duration and at maturity
will either receive or pay the difference
-45-
between the contracted forward rate and the exchange rate at the settlement
date. The contracted amount of foreign currency forwards at December 31, 2001
is EUR 6,085,000 (approximately $5,372,000 at December 31, 2001 exchange
rates). The fair value of the Company's foreign currency forward contracts at
December 31, 2001 is approximately $6,000. The counterparties to the Company's
foreign currency forward contracts are substantial and creditworthy
multinational commercial banks which are recognized market makers. The risk of
counterparty nonperformance associated with these contracts is not considered
by the Company to be material.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Reference is made to the Consolidated Financial Statements of the Company,
beginning with the index thereto on page F-1.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
There is incorporated in this Item 10 by reference the information
appearing under the captions "Election of Directors - Current Directors and
Nominees for Director" and "- Section 16(a) Beneficial Ownership Reporting
Compliance" in the Company's definitive proxy statement for the 2002 Annual
Meeting of Stockholders, a copy of which will be filed not later than 120 days
after the close of the fiscal year.
ITEM 11. EXECUTIVE COMPENSATION
There is incorporated in this Item 11 by reference the information
appearing under the caption "Election of Directors" in the Company's definitive
proxy statement for the 2002 Annual Meeting of Stockholders, a copy of which
will be filed not later than 120 days after the close of the fiscal year.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS
There is incorporated in this Item 12 by reference the information
appearing under the captions "Introduction - Stock Ownership of Certain
Beneficial Owners," and "- Stock Ownership of Management" in the Company's
definitive proxy statement for the 2002 Annual Meeting of Stockholders, a copy
of which will be filed not later than 120 days after the close of the fiscal
year.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
There is incorporated in this Item 13 by reference the information
appearing under the caption "Election of Directors - Certain Relationships and
Related Transactions" and "- Indebtedness of Management" in the Company's
definitive proxy statement for the 2002 Annual Meeting of Stockholders, a
-46-
copy of which will be filed not later than 120 days after the close of the
fiscal year.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON
FORM 8-K
(a)(1) LIST OF FINANCIAL STATEMENTS
Reference is made to the index on page F-1 for a list of all
financial statements filed as part of this Form 10-K.
(a)(2) LIST OF FINANCIAL STATEMENT SCHEDULES
Reference is made to the index on page F-1 for a list of all
financial statement schedules filed as part of this Form 10-K.
(a)(3) LIST OF EXHIBITS
Exhibit
Number Description
- ------- ------------------------------------------------------------------
2 Plan of acquisition, reorganization, arrangement, liquidation or
succession (None)
3(i) Certificate of Incorporation of the Registrant, as amended, filed
as Exhibit 4.1 to the Registrant's Registration Statement on Form
S-8 filed on January 31, 2001 (File #333-54688) and incorporated
herein by reference
3(ii) By-laws of the Registrant, as amended, filed as Exhibit 4.2 to the
Registrant's Registration Statement on Form S-8 filed on January
31, 2001 (File #333-54688) and incorporated herein by
reference
4.1 Specimen Common Stock Certificate, filed as Exhibit 4(a) to the
Registrant's Registration Statement on From SB-2 filed on October
27, 1994 and incorporated herein by reference (File #33-80676)
4.2 Certificate of Designation of Series A - Preferred Stock of
Hungarian Telephone and Cable Corp., filed as Exhibit 4.1 to the
Registrant's Quarterly Report on Form 10-Q for the quarter ended
March 31, 1999 and incorporated herein by reference
9 Voting trust agreement (None)
10 Material contracts:
10.1 Concession Agreement dated May 10, 1994 between the Ministry of
Transportation, Telecommunications and Water Management of the
Republic of Hungary and Raba-Com Rt., filed as Exhibit 10(y)(y) to
the Registrant's Current Report on Form 8-K for February 28, 1994
(Registrant File #1-11484) and incorporated herein by reference
10.2 Concession Agreement dated May 10, 1994 between the Ministry of
Transportation, Telecommunications and Water Management of the
Republic of Hungary and Kelet-Nograd Com Rt., filed as
Exhibit 10(z)(z) to the Registrant's Current Report on Form 8-K
for February 28, 1994
-47-
(Registrant File #1-11484) and incorporated herein by reference
10.3 English translation of Amended and Restated Concession Contract
between Papa es Tersege Telefon Koncesszios Rt. and the Hungarian
Ministry for Transportation, Telecommunications and Water
Management dated as of June 3, 1996, filed as Exhibit 10.78 to the
Registrant's Quarterly Report on Form 10-Q for the quarter ended
June 30, 1996 and incorporated herein by reference
10.4 English translation of Amended and Restated Concession Contract
between Hungarotel Tavkozlesi Rt. and the Hungarian
Ministry for Transportation, Telecommunications and Water
Management dated as of June 3, 1996 (Oroshaza), filed as Exhibit
10.79 to the Registrant's Quarterly Report on Form 10-Q for the
quarter ended June 30, 1996 and incorporated herein by reference
10.5 English translation of Amended and Restated Concession Contract
between Hungarotel Tavkozlesi Rt. and the Hungarian
Ministry for Transportation, Telecommunications and Water
Management dated as of June 3, 1996 (Bekescsaba), filed as Exhibit
10.80 to the Registrant's Quarterly Report on Form 10-Q for the
quarter ended June 30, 1996 and incorporated herein by reference
10.6 Non-Employee Director Stock Option Plan, as amended as of March
23, 2001 (Compensatory Plan)
10.7 1992 Incentive Stock Option Plan of the Registrant, as amended as
of May 21, 2001 (Compensatory Plan)
10.8 Employment Agreement dated as of May 21, 2001 between the
Registrant and Ole Bertram (Management Contract)
10.9 Form of Warrant to Purchase Common Stock of Hungarian Telephone
and Cable Corp., dated as of May 12, 1999, filed as Exhibit 10.3
to the Registrant's Quarterly Report on Form 10-Q for the quarter
ended March 31, 1999 and incorporated herein by reference
10.10 Form of Unsecured Note issued by Hungarian Telephone and Cable
Corp. to Postabank es Takarekpenztar Reszvenytarsasag, dated as of
May 12, 1999, filed as Exhibit 10.4 to the Registrant's Quarterly
Report on Form 10-Q for the quarter ended March 31, 1999 and
incorporated herein by reference
10.11 EUR 130 million Senior Secured Debt Facility dated April 11, 2000
among Hungarian Telephone and Cable Corp. and its subsidiaries;
Citibank N.A. and Westdeutsche Landesbank Girozentrale, as
arrangers; Citibank International PLC as facility agent; and
Citibank Rt. as Security Agent, filed as Exhibit 10.32 to the
Registrant's Report on Form 10-K for the year ended December 31,
1999 and incorporated herein by reference
10.12 Form of Amended and Restated Unsecured Note issued by Hungarian
Telephone and Cable Corp. to Postabankes Takarekpenztar
Reszvenytarsasag, dated as of April 11, 2000, filed as Exhibit
10.33 to the Registrant's Report on Form 10-K for the year ended
December 31, 1999 and incorporated herein by reference
10.13 Security Deposit Agreement dated April 11, 2000 among Hungarian
Telephone and Cable Corp. as Depositor; Citibank Rt., as Depositee
and Security Agent; and Hungarotel Tavkozlesi Rt., Raba Com. Rt.,
Papa es Tersege Telefon Koncesszios Rt., and Kelet-Nograd Com Rt.,
as Countersignors, filed as Exhibit 10.34 to the Registrant's
Report on Form 10-K for the year ended December 31, 1999 and
incorporated herein by reference
-48-
10.14 Security Deposit Agreement dated April 11, 2000 among HTCC
Consulting Rt., as Depositor; Citibank Rt., as Depositee and
Security Agent; and Hungarotel Tavkozlesi Rt., Raba Com. Rt., Papa
es Tersege Telefon Koncesszios Rt., and Kelet-Nograd Com Rt., as
Countersignors, filed as Exhibit 10.35 to the Registrant's Report
on Form 10-K for the year ended December 31, 1999 and incorporated
herein by reference
10.15 Amendment No.1 to the Senior Secured Debt Facility Agreement
between the Registrant and its Subsidiaries and Citibank
International PLC as Facility Agent dated November 9, 2001 filed
as Exhibit 10.1 to the Registrant's Quarterly Report on Form 10-Q
for the quarter ended September 30, 2001
11 Statement re computation of per share earnings (not required)
12 Statement re computation of ratios (not required)
13 Annual report to security holders (not required)
16 Letter re change in certifying accountant (not required)
18 Letter re change in accounting principles (None)
21 Subsidiaries of the Registrant
22 Published report regarding matters submitted to vote of security
holders (not required)
23 Consent of KPMG Hungaria Kft.
24 Power of Attorney (not required)
(b) Reports on Form 8-K
None.
-49-
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this Report to be signed
on its behalf by the undersigned, thereunto duly authorized, as of March 26,
2002.
HUNGARIAN TELEPHONE AND CABLE CORP.
(Registrant)
By /s/ Ole Bertram
-----------------------
Ole Bertram
President and Chief Executive
Officer,
Director
Pursuant to the requirements of the Securities Exchange of 1934, this
Report has been signed below by the following persons and on behalf of the
Registrant and in the capacities indicated as of March 26,
2002.
SIGNATURE/NAME TITLE
/s/William T. McGann Treasurer and Controller
- ----------------------------------- (Principal Accounting Officer;
William T.McGann Principal Financial Officer)
/s/Daryl A. Ferguson Director, Co-Chairman of the Board
- -----------------------------------
Daryl A. Ferguson
/s/Thomas Gelting Director
- -----------------------------------
Thomas Gelting
/s/Torben V. Holm Director, Co-Chairman of the Board
- -----------------------------------
Torben V. Holm
/s/John B. Ryan Director
- -----------------------------------
John B. Ryan
/s/William E. Starkey Director
- -----------------------------------
William E. Starkey
/s/Leonard Tow Director
- -----------------------------------
Leonard Tow
-50-
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Index to Consolidated Financial Statements and Financial Statements Schedules
The following information is included on the pages indicated:
Consolidated Financial Statements: Page
Independent Auditors' Report...................................... F-2
Consolidated Balance Sheets....................................... F-3
Consolidated Statements of Operations and Comprehensive
Income (Loss)................................................ F-4
Consolidated Statements of Stockholders' Equity (Deficiency)...... F-5
Consolidated Statements of Cash Flows........................... F-6
Notes to Consolidated Financial Statements...................... F-7 - F-29
Financial Statements Schedules:
Schedule of Quarterly Financial Data (unaudited)................... S-1
Schedule I - Condensed Financial Information....................... S-2
Schedule II - Valuation Accounts................................... S-6
F-1
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
Hungarian Telephone and Cable Corp.
We have audited the accompanying consolidated balance sheets of Hungarian
Telephone and Cable Corp. and subsidiaries as of December 31, 2001 and 2000,
and the related consolidated statements of operations and comprehensive income
(loss), stockholders' equity (deficiency) and cash flows for each of the years
in the three-year period ended December 31, 2001. In connection with our audits
of the consolidated financial statements, we also have audited the financial
statements Schedules I and II as listed in the accompanying index. These
consolidated financial statements and financial statements schedules are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements and financial statements
schedules based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States of America. 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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Hungarian Telephone
and Cable Corp. and subsidiaries as of December 31, 2001 and 2000, and the
results of their operations and their cash flows for each of the years in the
three-year period ended December 31, 2001, in conformity with accounting
principles generally accepted in the United States of America. Also, in our
opinion, the related financial statements Schedules I and II, when considered
in relation to the basic consolidated financial statements taken as a whole,
present fairly, in all material respects, the information set forth therein.
KPMG HUNGARIA KFT.
Budapest, Hungary
March 8, 2002
F-2
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Consolidated Balance Sheets
December 31, 2001 and 2000
(In thousands, except share data)
Assets 2001 2000
------ ---- ----
Current assets:
Cash and cash equivalents $ 9,262 15,596
Restricted cash 210 107
Accounts receivable, net of allowance
of $1,645 in 2001 and $1,140 in 2000 4,797 5,511
Other current assets 1,677 2,917
-------- -------
Total current assets 15,946 24,131
Property, plant and equipment, net 100,971 101,670
Goodwill, net of accumulated amortization
of $2,363 in 2001 and $1,883 in 2000 6,050 6,331
Other intangibles, net of accumulated amortization
of $1,469 in 2001 and $1,232 in 2000 3,672 3,806
Deferred costs 6,652 8,212
Other assets 2,780 3,168
-------- -------
Total assets $ 136,071 147,318
======== =======
Liabilities and Stockholders' Equity (Deficiency)
-------------------------------------------------
Current liabilities:
Current installments of long-term debt $ 12,311 8,063
Short-term loans 3,531 3,722
Accounts payable 1,015 2,577
Accruals 2,974 5,307
Other current liabilities 1,551 1,725
Due to related parties 957 1,226
-------- -------
Total current liabilities 22,339 22,620
Long-term debt, excluding current installments 104,882 124,814
Due to related parties - 676
Deferred credits and other liabilities 8,484 10,086
-------- -------
Total liabilities 135,705 158,196
-------- -------
Commitments and Contingencies
Stockholders' equity (deficiency):
Cumulative Convertible Preferred stock, $.01 par value;
$70.00 liquidation value. Authorized 200,000 shares;
issued and outstanding 30,000 shares in 2001 and 2000 - -
Common stock, $.001 par value. Authorized
25,000,000 shares; issued and outstanding
12,103,180 shares in 2001 and 12,087,179 in 2000 12 12
Additional paid-in capital 144,706 144,601
Accumulated deficit (159,151) (170,143)
Accumulated other comprehensive income 14,799 14,652
-------- -------
Total stockholders' equity (deficiency) 366 (10,878)
-------- -------
Total liabilities and stockholders' equity (deficiency) $ 136,071 147,318
======== =======
See accompanying notes to consolidated financial statements.
F-3
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Consolidated Statements of Operations and Comprehensive Income (Loss)
Years ended December 31, 2001, 2000 and 1999
(In thousands, except share and per share data)
2001 2000 1999
---- ---- ----
Telephone services revenues, net $ 45,236 42,974 45,438
---------- ----------- ----------
Operating expenses:
Operating and maintenance expenses 17,506 17,077 17,467
Depreciation and amortization 9,390 9,428 11,782
---------- ----------- ----------
Total operating expenses 26,896 26,505 29,249
---------- ----------- ----------
Income from operations 18,340 16,469 16,189
Other income (expenses):
Foreign exchange gains (losses), net 5,308 (4,842) (2,786)
Interest expense (13,557) (18,500) (32,450)
Interest income 1,337 1,482 1,708
Other, net (329) 60 (434)
---------- ----------- ----------
Income (loss) before extraordinary items 11,099 (5,331) (17,773)
Extraordinary items, net - - 20,945
---------- ----------- ----------
Net income (loss) $ 11,099 (5,331) 3,172
Cumulative convertible preferred stock
dividends (in arrears) (107) 107) (68)
---------- ----------- ----------
Net income (loss) ascribable to
common stockholders 10,992 (5,438) 3,104
Comprehensive income adjustments 147 956 6,396
---------- ----------- ----------
Total comprehensive income (loss) $ 11,139 (4,482) 9,500
========== =========== ==========
Earnings (loss) per common share - basic:
Before extraordinary items $ 0.91 (0.45) (1.85)
Extraordinary items $ - - 2.18
---------- ----------- ----------
Net earnings (loss) $ 0.91 (0.45) 0.33
========== =========== ==========
Earnings (loss) per common share - diluted:
Before extraordinary items $ 0.89 (0.45) (1.85)
Extraordinary items $ - - 2.18
---------- ----------- ----------
Net earnings (loss) $ 0.89 (0.45) 0.33
========== =========== ==========
Weighted average number of
common shares outstanding:
Basic 12,099,996 12,010,660 9,617,939
========== =========== ==========
Diluted 12,523,158 12,010,660 9,617,939
========== =========== ==========
See accompanying notes to consolidated financial statements.
F-4
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Consolidated Statements of Stockholders' Equity (Deficiency)
Years ended December 31, 2001, 2000 and 1999
(In thousands, except share data)
Accumulated Total
Additional Other Stockholders'
Common Preferred Paid-in Accumulated Comprehensive Equity
Shares Stock Stock Capital Deficit Income (Deficiency)
- ------------------------------------------------------------------------------------------------------------------------------
Balances at December 31, 1998 5,395,864 $ 5 - 71,467 (167,809) 7,300 $ (89,037)
Shares issued to Tele Danmark A/S 1,571,429 2 - 10,998 - - 11,000
Shares issued to Postabank 2,428,572 2 - 33,998 - - 34,000
Shares issued to Citizens 1,300,000 1 - 11,199 - - 11,200
Shares issued to Danish Fund 1,285,714 1 - 8,999 - - 9,000
Stock issuance cost - - - (1,488) - - (1,488)
Warrant issued in connection with
long-term notes - - - 8,825 - - 8,825
Modification of option terms - - - 54 - - 54
Cumulative convertible preferred stock
dividends (in arrears) - - - - (68) - (68)
Net income - - - - 3,172 - 3,172
Foreign currency translation adjustment - - - - - 6,396 6,396
- ------------------------------------------------------------------------------------------------------------------------------
Balances at December 31, 1999 11,981,579 $ 11 - 144,052 (164,705) 13,696 $ (6,946)
Exercise of options and warrants 33,600 - - 262 - - 262
Modification of option terms - - - (45) - - (45)
Shares issued to International Finance
Corporation 72,000 1 - 332 - - 333
Cumulative convertible preferred stock
dividends (in arrears) - - - - (107) - (107)
Net loss - - - - (5,331) - (5,331)
Foreign currency translation adjustment - - - - - 956 956
- ------------------------------------------------------------------------------------------------------------------------------
Balances at December 31, 2000 12,087,179 $12 - 144,601 (170,143) 14,652 $ (10,878)
Exercise of options and preemptive
rights 16,001 - - 114 - - 114
Modification of option terms - - - (9) - - (9)
Cumulative convertible preferred stock
dividends (in arrears) - - - - (107) - (107)
Net income - - - - 11,099 - 11,099
Foreign currency translation adjustment - - - - - 147 147
- ------------------------------------------------------------------------------------------------------------------------------
Balances at December 31, 2001 12,103,180 $12 - 144,706 (159,151) 14,799 $ 366
- ------------------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
F-5
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
Years ended December 31, 2001, 2000 and 1999
(In thousands)
2001 2000 1999
---- ---- ----
Net cash provided by operating activities $ 13,577 8,291 18,522
------- -------- --------
Cash flows from investing activities:
Construction of telecommunications
networks (7,046) (8,786) (9,998)
Decrease (increase) in construction deposits (36) 26 (17)
Acquisition of interests in subsidiaries -- (343) --
Other 37 288 86
------- -------- --------
Net cash used in investing activities (7,045) (8,815) (9,929
------- -------- --------
Cash flows from financing activities:
Borrowings under long-term debt agreements -- 117,170 41,391
Borrowings under short -term debt agreements -- 3,754 124,753
Proceeds from exercise of options and warrants 114 262 --
Deferred financing costs paid under long -term
debt agreements -- (3,104) --
Repayments and settlement of long-term debt (13,441) (117,534) (217,697)
Proceeds from issuance of common stock, net -- -- 52,511
------- -------- --------
Net cash (used in) provided by financing activities (13,327) 548 958
------- -------- --------
Effect of foreign exchange rate changes on cash 461 (1,625) (843)
------- -------- --------
Net increase (decrease) in cash (6,334) (1,601) 8,708
Cash at beginning of year 15,596 17,197 8,489
------- -------- --------
Cash at end of year $ 9,262 15,596 17,197
======= ======== ========
See accompanying notes to consolidated financial statements.
F-6
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
(1) Summary of Significant Accounting Policies
-----------------------------------------------------------------
(a) Description of Business and Other Related Matters
Hungarian Telephone and Cable Corp. ("HTCC" and together with its
consolidated subsidiaries, the "Company") was organized on March 23,
1992 to own and manage telecommunications companies in Hungary. Four
subsidiaries of the Company ("the Operating Companies") are
presently engaged in the ownership and operation of public switched
telephone service. Two of the operating companies commenced
operations in two concession regions in 1995 and the other two
commenced operations in three additional concession areas effective
January 1, 1996.
By the end of 1998, the Company's networks had the capacity, with only
normal capital expenditure requirements in the future, to provide
basic telephone services to virtually all of the potential subscribers
within its operating areas. The Company funded its network
construction and working capital needs primarily through various
credit facilities with Postabank es Takarekpenztar ("Postabank") and
a contractor financing facility. On March 30, 1999, and May 12, 1999,
the Company entered into a series of transactions (see Notes 4, 5, 9
and 12) which restructured the Company's debt and capital structure.
As the final step in the Company's debt and capital restructuring, on
April 11, 2000, the Company entered into a EUR 130 million Senior
Secured Debt Facility with a European banking syndicate (see Note 5).
On January 1, 2002, the Company legally merged the Operating
Companies, along with its Hungarian holding company, into one of the
existing Operating Companies, Hungarotel Tavkozlesi Rt.("Hungarotel").
(b) Principles of Consolidation and the Use of Estimates
The consolidated financial statements include the financial statements
of Hungarian Telephone and Cable Corp. and its subsidiaries;
Kelet-Nograd Com Rt., ("KNC"), Raba-Com Rt., ("Raba-Com"), Hungarotel,
Papa es Tersege Telefon Koncesszios Rt.("Papatel") and HTCC Consulting
Rt. ("HTCC Consulting"). All materialintercompany balances and
transactions have been eliminated.
The consolidated financial statements are prepared in accordance
with U.S. generally accepted accounting principles ("U.S. GAAP"). In
preparing the financial statements, management is required to make
estimates and assumptions that affect reported amounts of assets and
liabilities and the disclosure of contingent assets and liabilities
at the date of the financial statements, and revenue and expenses
during the reporting period. Actual results could differ from those
estimates.
(c) Revenue Recognition
Telephone service revenues are recognized as services are provided
and are primarily derived from usage of the Company's local exchange
networks and facilities or under revenue sharing agreements with
Matav, the international and national long distance interconnect
service provider. Revenues are stated net of interconnect charges.
In the fourth quarter of 2000, the Company implemented the SEC's
Staff Accounting Bulletin No. 101 ("SAB 101"), with effect from
January 1, 2000, which requires connection fees and corresponding
direct incremental costs to be deferred and amortized over future
periods. As a result of the implementation of SAB 101, connection
fees and costs recognized in prior periods were deferred and are
being amortized over the estimated average subscriber life of 7
years. There was
F-7
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
no cumulative effect on earnings from the adoption of SAB 101 in
2000, nor has its adoption had a material impact on the Company's
results of operations for any period presented. Following the
adoption of SAB 101, the amortization of deferred connection fee
revenue and associated direct incremental costs is included in
telephone service revenues and operating and maintenance expenses.
(d) Foreign Currency Translation
The statutory accounts of the Company's consolidated subsidiaries
and affiliates are maintained in accordance with local accounting
regulations and are stated in local currency. Local statements are
adjusted to U.S. GAAP, and then translated into U.S. dollars in
accordance with Statement of Financial Accounting Standards No. 52,
"Foreign Currency Translation" ("SFAS 52").
Since commencement of revenue generating activities, the Company has
used the Hungarian forint ("HUF") as the functional currency for its
Hungarian subsidiaries. Accordingly, the subsidiaries' assets and
liabilities are translated into U.S. dollars using the exchange
rates in effect at the balance sheet date. Results of operations are
generally translated using the average exchange rates prevailing
throughout the year. The effects of exchange rate fluctuations on
translating foreign currency assets and liabilities into U.S.
dollars are accumulated as part of other comprehensive income in
stockholders' equity. Foreign exchange fluctuations related to
intercompany balances are included in equity if such balances are
intended to be long-term in nature. At the time the Company settles
such balances, the resulting gain or loss is reflected in the
consolidated statement of operations. Gains and losses from foreign
currency transactions and the marking to market of assets or
liabilities not denominated in Hungarian forints are included in
operations in the period in which they occur.
(e) Cash Equivalents
For the purposes of the consolidated statements of cash flows, the
Company considers all highly liquid debt instruments purchased with
a maturity of three months or less to be cash equivalents.
(f) Inventories
Inventories, which are included in other current assets, consist
primarily of telephones for resale and spare parts, are stated at
the lower of cost or market, and are valued using the FIFO method.
(g) Property, Plant and Equipment
Property, plant and equipment are stated at cost. Depreciation is
computed using the straight-line method over the estimated useful
lives of the respective assets.
(h) Goodwill and Other Intangible Assets
The excess of cost over the fair value of net assets acquired,
goodwill, is amortized over the 25-year concession period using the
straight-line method. Other intangible assets represent the cost of
concession fees paid, and are being amortized over the 25-year
concession period using the straight-line method.
(i) Stock Based Compensation
F-8
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
The Company has adopted the provisions of Statement of Financial
Accounting Standards ("SFAS") No. 123 "Accounting for Stock-Based
Compensation", which allows entities to continue to apply the
provisions of Accounting Principles Board ("APB") Opinion No. 25
"Accounting for Stock Issued to Employees" in measuring compensation
cost for stock based compensation awards, and to provide pro forma
net income (loss) and pro forma earnings (loss) per share
disclosures for employee stock option grants made in 1995 and
thereafter as if the fair-value-based method, as defined in SFAS No.
123, had been applied.
(j) Income Taxes
Deferred tax assets and liabilities, net of valuation allowances,
are recognized for the future tax consequences attributable to
operating loss and tax credit carry-forwards, and differences
between the financial statement carrying amounts of existing assets
and liabilities and their respective tax bases. Deferred tax assets
and liabilities, if any, are measured using enacted tax rates
expected to apply to taxable income in the years in which these
temporary differences are expected to be recovered or settled. The
effect on deferred tax assets and liabilities of a change in tax
rates is recognized in operations in the period that includes the
enactment date.
The Company's Hungarian operating subsidiaries were 100% exempt from
Hungarian income tax for a period of five years beginning from
January 1, 1994, and are 60% exempt for the subsequent five years,
as long as (1) capitalization stays above 50,000,000 HUF
(approximately $179,000 at December 31, 2001 exchange rates), (2)
foreign ownership exceeds 30% of the registered capital, and (3)
more than 50% of the revenue earned arises from telecommunication
services.
(k) Earnings (Loss) Per Share
Earnings (loss) per share ("EPS") is computed by dividing income or
loss ascribable to common stockholders by the weighted average
number of common shares outstanding for the period. Diluted EPS is
computed similar to basic earnings per share, except that the
weighted average shares outstanding are increased to include
additional shares from the assumed exercise of stock options and the
conversion of the convertible preferred stock, where dilutive. The
number of additional shares is calculated by assuming that
outstanding stock options were exercised, or preferred securities
were converted, and that the proceeds from such exercises or
conversions were used to acquire shares of common stock at the
average market price during the reporting period.
F-9
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
The following is a reconciliation from basic earnings per share to
diluted earnings per share for each of the years ended December 31:
2001 2000 1999
---- ---- ----
($ in thousands,
except share data)
Net income (loss) ascribable to
common stockholders $10,992 $(5,438) $3,104
plus: preferred stock dividends 107 107 68
------ ------ -----
Net income (loss) $11,099 $(5,331) $3,172
====== ====== =====
Determination of shares:
Weighted average common
shares outstanding -
basic 12,099,996 12,010,660 9,617,939
Assumed conversion of
dilutive stock options and
cumulative convertible
preferred stock 423,162 -- --
---------- ---------- ----------
Weighted average common
shares outstanding -
diluted 12,523,158 12,010,660 9,617,939
Earnings (loss) per
common share:
Basic $0.91 $(0.45) $0.33
Diluted $0.89 $(0.45) $0.33
For the year ended December 31, 2001, 2,874,400 stock options and
warrants were excluded from the computation of diluted earnings per
share since such options and warrants have an exercise price in
excess of the average market value of the Company's common stock
during the year. For the years ended December 31, 2000 and 1999,
common stock equivalents and convertible preferred stock of
3,734,637 and 8,237,059, respectively, were excluded from the
computation of diluted net loss per common share because the effect
of their inclusion would be antidilutive. The basis for determining
whether common stock equivalents were potentially dilutive was loss
before extraordinary items.
(l) Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed
of
The Company evaluates the carrying value of long-lived assets to be
held and used, including goodwill, whenever events or changes in
circumstances indicate that the carrying amount may not be
recoverable. The carrying value of a long-lived asset is considered
impaired when the projected undiscounted future cash flows related to
the asset are less than its carrying value. The Company measures
impairment based on the amount by which the carrying value of the
respective asset exceeds its fair market value. Fair market value is
determined primarily using the projected future cash flows discounted
at a rate commensurate with the risk involved. Losses on long-lived
assets to
F-10
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
be disposed of are determined in a similar manner, except that fair
market values are reduced for the cost to dispose.
(m) Fair Value of Financial Instruments and Foreign Exchange Financial
Instruments
The Company's financial instruments include cash, receivables,
other current assets, accounts payable, accruals and other current
liabilities, short- and long-term debt, and foreign currency forward
contracts. The carrying amounts of cash, receivables, other current
assets, accounts payable, accruals and other current liabilities and
short-term debt approximate fair value due to the short-term nature
of these instruments. The fair value of long-term debt approximates
its carrying value due to the debt being floating rate debt.
Foreign exchange financial instrument contracts are utilized by the
Company to manage certain foreign exchange rate risks. Company
policy prohibits holding or issuing derivative financial instruments
for trading purposes.
On January 1, 2001, the Company adopted Statement of Financial
Accounting Standards No. 133 ("SFAS 133"), "Accounting for
Derivative Instruments and Hedging Activities", as subsequently
amended by Statement of Financial Accounting Standards No. 138
("SFAS 138"). Accordingly, the Company carries its foreign currency
forward contracts at fair value in its consolidated balance sheet.
The fair value is based on forward rates provided by the
counterparty bank with which the Company has entered into the
forward contract. The foreign currency forward contracts the Company
has entered into do not qualify for hedge accounting, as defined
under SFAS 133 and 138 and, accordingly, changes in the fair value
of the forward contracts are reported in the consolidated statement
of operations and comprehensive income as a part of net foreign
exchange gains/(losses).
Prior to the adoption of SFAS 133 and 138, the Company accounted for
its foreign currency forward contracts under SFAS 52. The transition
adjustment on adoption of SFAS 133 and 138 was not material and has
not been separately presented as the effect of a change in
accounting principle. The fair value of the Company's foreign
currency forward contracts at December 31, 2001 and 2000 are
approximately $6,000 and $13,000, respectively.
(2) Cash and Restricted Cash
------------------------
(a) Cash
At December 31, 2001, cash of $9,262,000 is comprised of the
following: $88,000 on deposit in the United States and $9,174,000
consisting of $464,000 denominated in U.S. dollars and the
equivalent of $8,710,000 denominated in Hungarian forints on deposit
with banks in Hungary.
(b) Restricted Cash
At December 31, 2001, approximately $98,000 of cash denominated in
U.S. dollars was deposited in escrow accounts under terms of
construction contracts. In addition, approximately $112,000 of cash
denominated in Hungarian forints was restricted pursuant to certain
arrangements with other parties.
(3) Property, Plant and Equipment
-----------------------------
F-11
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
The components of property, plant and equipment at December 31, 2001
and 2000 are as follows:
Estimated
2001 2000 Useful Lives
---- ---- ------------------
(in thousands)
Land and Buildings $ 6,602 5,763 25 to 50 years
Telecommunications equipment 128,920 121,457 7 to 25 years
Other equipment 6,362 5,613 5 years
Construction in progress 655 952
------- -------
142,539 133,785
Less: accumulated depreciation (41,568) (32,115)
------- -------
$100,971 101,670
======= =======
(4) Short-Term Loans
----------------
Short-term loans at December 31, 2001 and 2000 consist of the
following:
2001 2000
---- ----
(in thousands)
Revolving loan:
Euro - EUR 4,000,000 outstanding $ 3,531 3,722
===== ====
The principal amount borrowed under the Revolving Loan Facility, a
EUR 5 million facility, which was scheduled to reduce to a EUR 2.5
million facility on December 31, 2005, and which forms part of the
EUR 130 million Senior Secured Debt Facility Agreement (see Note 5),
is due at the end of each interest period at which point the Company
could, subject to certain conditions, roll over the amount of
principal borrowed until the expiration of the facility in December
2007. The applicable interest period for this Facility is, at the
Company's option, one, three, or six months. The Company has chosen
six months at the present time. Interest is payable at the end of
each interest period, calculated similar to that for the Term
Facility loan denominated in euros. On November 9, 2001, the Company
and its bank lenders under the Company's Senior Secured Debt
Facility Agreement amended the Company's debt agreement. In
connection with the amendment, the Company agreed to cancel, with
immediate effect, the EUR 1 million undrawn portion of the revolving
loan facility. At the same time, the Company also agreed to cancel
the EUR 4 million revolving loan outstanding following the scheduled
repayment of such principal and accrued interest in April 2002.
After May 31, 2002, the Company may request that the banking
syndicate reinstate the EUR 5 million revolver portion of the Debt
Agreement. However, any such reinstatement would be at the
discretion of each member of the banking syndicate individually. The
amended agreement allows for those lenders participating in the
reinstatement of the revolver to increase their individual
commitments such that, in the aggregate, all of the lenders
participating in the reinstated revolver could provide up to the
original revolver amount of EUR 5 million.
(5) Long-term Debt
--------------
Long-term debt at December 31, 2001 and 2000 consists of the
following:
2001 2000
------ ------
(in thousands)
Loan payable, interest at EURIBOR + applicable margin
F-12
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
(5.01% at December 31, 2001), payable in 14
semi-annual installments beginning June 30, 2001
with final payment due December 31, 2007; EUR 74,039,000
outstanding at December 31, 2001.
$ 65,362 78,288
Loan payable, interest at BUBOR + applicable margin
(11.40% at December 31, 2001), payable in 14
semi-annual installments beginning June 30, 2001 with
final payment due December 31, 2007; HUF 9,244,273,000
outstanding at December 31, 2001
33,129 36,893
Notes payable, interest at USD LIBOR + 3.5% (5.49% at
December 31, 2001), due March 31, 2007 (less unamortized
discount based on imputed interest rate of 5% -
$6,298,000 in 2001; $7,304,000 in 2000) 18,702 17,696
---------- -------
Total long-term debt $ 117,193 132,877
Less current installments 12,311 8,063
---------- -------
Long-term debt, excluding current installments $ 104,882 124,814
========== =======
The aggregate amounts of maturities of long-term debt for each of
the next five years, and in aggregate thereafter, at December 31,
2001 exchange rates, are as follows: 2002, $12,311,000; 2003,
$15,669,000; 2004, $15,669,000; 2005, $17,908,000; 2006, $20,146,000
and $35,490,000 thereafter.
On October 15, 1996, the Company and its subsidiaries entered into a
$170 million 10-year Multi-Currency Credit Facility (the "Original
Postabank Credit Facility") with Postabank. As a result of
agreements entered into on May 12, 1999, with Postabank; TDC A/S
("Tele Danmark" or "TD"); and the Danish Investment Fund for Central
and Eastern Europe (the "Danish Fund") (see Notes 9 and 12), the
Company extinguished all of its obligations to Postabank under the
Original Postabank Credit Facility in the amount of approximately
$193 million and the $16.4 million borrowed in settlement of the
amount due under the contractor financing facility described below.
As part of these transactions, the Company borrowed from Postabank
$138 million ($128 million at December 31, 1999 exchange rates)
under a one-year dual currency bridge loan agreement (the "Postabank
Bridge Loan") in Hungarian forints and euros, and $25 million
pursuant to certain unsecured notes payable (the "Notes") (see
below). Proceeds from the Senior Secured Debt Facility Agreement in
April 2000, as described below, were subsequently used to pay off
the outstanding balance and terminate the Postabank Bridge Loan.
As a result of the extinguishment of the Original Postabank Credit
Facility, the Company recorded an extraordinary loss of HUF 1.5
billion (approximately $6.3 million at historical exchange rates)
during the second quarter of 1999, which represented the write-off
of the remaining unamortized deferred financing costs pertaining to
the Original Postabank Credit Facility.
During 1996 and 1997, Hungarotel entered into several construction
contracts with a Hungarian contractor which totaled $59.0 million in
the aggregate (at historical exchange rates), $47.5 million of which
was financed by a contractor financing facility. The contractor
financed the construction through a facility provided by Postabank.
As of December 31, 1998, the balance owed under the contractor
financing facility was $36.6 million. On March 30, 1999, Postabank
assumed HUF 7 billion plus accrued interest of HUF 348 million
(approximately $30.9 million at historical exchange rates) of the
Company's liability under the contractor financing facility from the
contractor, due to the contractor's financial difficulties, and sold
this debt back to the Company for HUF 3 billion (approximately $12.6
million at historical
F-13
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
exchange rates). The purchase of the debt was financed by Postabank. On
the same day, the Company purchased HUF 4 billion (approximately $16.8
million at historical exchange rates) of loans the contractor had with
Postabank for HUF 900 million (approximately $3.8 million at historical
exchange rates) and subsequently offset the booked value of the loans
purchased of HUF 900 million (approximately $3.8 million at historical
exchange rates) against the outstanding amounts owed to the contractor.
The purchase of these loans was also financed by Postabank. As a result of
the above transactions, the Company recorded an extraordinary gain of HUF
4.3 billion (approximately $18.2 million at historical exchange rates)
during the second quarter of 1999, which reflected the extinguishment of
all amounts due under the contractor financing facility.
On April 11, 2000, the Company entered into an EUR 130 million Senior
Secured Debt Facility Agreement (the "Debt Agreement" or "Credit
Facility") with a European banking syndicate. The Company drew down EUR
129 million of the Credit Facility on April 20, 2000 ($121 million at
April 20, 2000 exchange rates), the funds of which were used, along with
$7.3 million of other Company funds (at April 20, 2000 exchange rates) to
pay off the outstanding EUR 134 million (approximately $126 million at
April 20, 2000 exchange rates) principal and interest due on the Postabank
Bridge Loan which was due to mature on May 12, 2000, and to pay fees
associated with the Debt Agreement. The borrowers under the Debt
Agreement are the Operating Companies who were the borrowers under the
Postabank Bridge Loan. The Debt Agreement has two facilities, which are
comprised of the Revolving Facility described in Note 4 and the Term
Facility described below.
The Term Facility is a floating rate term loan in the amount of EUR 125
million, for which principal is repayable semi-annually on each June 30
and December 31 beginning on June 30, 2001 and ending on December 31,
2007. The amounts of the principal repayments on the Term Facility are to
be escalating percentages of the amounts drawn down. The Company borrowed
the full EUR 125 million, of which EUR 84,135,000 was funded, and is
repayable, in euros, and the equivalent of EUR 40,865,000 was funded, and
is repayable, in Hungarian forints. The Term Facility loans denominated
in euros accrue interest at the rate of the Applicable Margin (defined
below) plus the EURIBOR rate for the applicable interest period. The
EURIBOR rate is the percentage rate per annum determined by the Banking
Federation of the European Union for the applicable interest period. The
Term Facility loans denominated in Hungarian forints accrue interest at
the rate of the Applicable Margin (defined below) plus the BUBOR rate for
the applicable interest period. The BUBOR rate is the percentage rate per
annum determined according to the rules established by the Hungarian Forex
Association and published by the National Bank of Hungary for the
applicable interest period. The applicable interest period for Term
Facility Loans denominated in euros is six months. The applicable interest
period for Term Facility Loans denominated in Hungarian forints is three
months. Interest is payable at the end of each interest period. The
Applicable Margin is initially 1.75%. The Applicable Margin may be
adjusted downward incrementally to a minimum of 1.30% subject to the
financial performance of the Company as measured by the ratio of the
Company's senior debt to its earnings before interest, taxes, depreciation
and amortization. Dependent on its cash flow, the Company will be required
to prepay the equivalent of $25 million on the Term Facility until such
time as $25 million has been prepaid. The amount of the prepayment in any
year shall be at least 50% of the Company's excess cash flow, if any, for
the previous financial year as defined in the Debt Agreement. The
prepayment amount is due within 15 days of the publication of each annual
Form 10-K filing. As a result of the amendment to the Debt Agreement
described below, no such mandatory prepayment will be made by the Company
in 2002.
The Company paid an arrangement fee in the amount of EUR 2,665,000
(approximately $2,508,000 at April 20, 2000 exchange rates), which is
included in other assets along with other direct costs incurred in
obtaining the Debt Agreement, and is being amortized over the term of the
related debt. In addition, an annual agency fee in the amount of $60,000
is to be paid. The Company is obligated to pay an annual
F-14
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
commitment fee equal to the lower of 0.75% or 50% of the Applicable Margin
on any available unused commitment on the Revolving Loan Facility.
On November 9, 2001, the Company and its bank lenders under the Debt
Agreement amended the Debt Agreement. The amendment eliminated a covenant
requiring the Company to maintain a minimum level of EBITDA, measured in
Hungarian forints, each quarter and waived for the fourth quarter 2001 and
first quarter of 2002 a financial covenant requiring the Company to
maintain a minimum senior debt service coverage ratio. In connection with
the elimination and such waivers, the Company agreed to (i) make a payment
by November 21, 2001 in the amount of approximately $7.9 million (at
November 9, 2001 exchange rates) into escrow to cover the interest and
principal repayment under the Debt Facility due December 31, 2001; (ii)
between May 1, 2002 and May 12, 2002 pay the interest and principal due on
June 30, 2002 under the Credit Facility into escrow; (iii) make a
prepayment by November 21, 2001 of 5% of the original loan (approximately
$5.5 million at November 9, 2001 exchange rates); (iv) immediately cancel
the remaining EUR 1 million undrawn portion of the EUR 5 million revolver
portion of the Debt Agreement (v) cancel the remaining portion (EUR 4
million) of the revolver portion of the Debt Agreement following the
repayment of such principal and accrued interest by the Company in April
2002; (vi) pay an additional 15 basis points of interest on the floating
rate term loan portion of the Debt Agreement; and (vii) pay a waiver fee
of EUR 195,000 to the banking syndicate. The amendment also provides that
after May 31, 2002, the Company may request that the banking syndicate
reinstate the revolver portion (EUR 5 million) of the Debt Agreement (see
Note 4).
The Company utilizes foreign currency forward contracts to reduce exposure
to certain exchange rate risks associated with cash requirements under the
Company's long-term debt obligations that mature within six months. The
forward contracts establish the exchange rates at which the Company will
sell the contracted amount of Hungarian forints for euros at a future
date. The Company utilizes forward contracts which are up to six months in
duration and at maturity will either receive or pay the difference between
the contracted forward rate and the exchange rate at the settlement date.
The contracted amount of foreign currency forwards at December 31, 2001 is
EUR 6,085,000 (approximately $5,372,000).
The Company and Citibank Rt. (as security agent) have entered into a
series of agreements to secure all of the Company's obligations under the
Debt Agreement pursuant to which the Company has pledged all of its
intangible and tangible assets, including HTCC's ownership interests in
its subsidiaries, and its real property. The Company is subject to
restrictive covenants, including restrictions regarding the ability of the
Company to pay dividends, borrow funds, merge and dispose of its assets.
The Debt Agreement contains customary representations and warranties and
customary events of default, including those related to a change of
control, which would trigger early repayment of the balance under the Debt
Agreement. If, prior to the Trigger Date (the date on which for the prior
two fiscal quarters the Company's debt to EBITDA ratio is less than 2.5 to
1), Tele Danmark sells any of the shares of Common Stock that it currently
owns or Tele Danmark and the Danish Fund, together, no longer own 30.1% of
the outstanding Common Stock, then an event of default shall have
occurred. Tele Danmark and the Danish Fund currently own a combined total
of 31.9% of the outstanding common stock. Following the Trigger Date,
Tele Danmark can only transfer its shares with the prior written consent
of banks holding at least 66.7% of the Company's outstanding debt under
the Debt Agreement.
In connection with the restructuring of its capital structure in May 1999,
as described above, the Company issued notes to Postabank in an aggregate
amount of $25 million with detachable warrants (the "Warrants"). The
Notes accrue interest, which is payable semi-annually, at the USD LIBOR
rate applicable for the six month interest period plus 3.5% (5.49% at
December 31, 2001). The Notes which mature in 2007, are transferable.
The Warrants enable Postabank to purchase 2,500,000 shares of the
Company's common stock at an exercise price of $10 per share. The
exercise period commences on January 1, 2004 and terminates on March 31,
2007. The fair value of the warrants amounted to $8.8
F-15
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
million and was credited to additional paid-in capital, with the
offsetting charge being accounted for as a discount on the Notes. The
fair value of the warrants was determined using the Black-Scholes Option
valuation model. The unamortized discount on the notes at December 31,
2001 was approximately $6.3 million, and is reflected as a reduction of
the carrying amount of the Notes. The Company has the right to terminate
the Warrants in full or proportionately prior to January 1, 2004 provided
that the Company (i) repays a proportionate amount of the outstanding
principal on the Notes to the holders of such Notes and (ii) pays an
additional 7.5% of the aggregate principal amount of the Notes repaid
concurrently with the termination of the Warrants to the holders of the
Warrants.
(6) Deferred Credits and Other Liabilities
--------------------------------------
During 1999, two of the Company's operating subsidiaries entered into
agreements with the Hungarian Ministry of Transportation,
Telecommunications and Water Management (the "Ministry") for the
relinquishment of rights to use broadcasting frequencies previously
granted by the Ministry. The frequencies were used to provide telephone
services to certain customers. Under the first agreement, the Ministry
paid HUF 557 million ($2,205,000 at historical exchange rates), which was
equal to the net book value of the equipment which was required to be
taken out of service. Under the second agreement, the Ministry paid HUF
308 million ($1,278,000 at historical exchange rates) as a contribution
towards the cost of new fixed network equipment. The amounts received
under these agreements were credited to deferred credits and other
liabilities, and under the first agreement are offset against the cost of
the related equipment and, under the second agreement, are offset against
the cost of the new equipment.
Included in deferred credits and other liabilities at December 31, 2001
and 2000, is $6,652,000 and $8,212,000, respectively, of connection fee
revenues, from current and prior years, which have been deferred following
the Company's implementation of SAB 101 during the fourth quarter of 2000.
Similar amounts, representing the associated deferred costs, are included
in deferred costs at December 31, 2001 and 2000.
(7) Income Taxes
------------
The statutory U.S. Federal tax rate for the years ended December 31, 2001,
2000 and 1999 was 35% and the Hungarian corporate income tax rate for the
years ended December 31, 2001, 2000 and 1999 was 18%. For Hungarian
corporate income tax purposes, the Operating Companies were entitled to a
100% reduction in income taxes for the five year period ending December
31, 1998 and are now entitled to a 60% reduction in income taxes for the
subsequent five year period ending December 31, 2003. The effective tax
rate was zero for the years ended December 31, 2001, 2000 and 1999 due to
the Company incurring or utilizing net operating losses for which no tax
benefit was recorded.
For U.S. Federal income tax purposes, the Company has unused net operating
loss carryforwards at December 31, 2001 of approximately $27,722,000 which
expire as follows: 2010, $5,270,000; 2011, $6,328,000; 2012, $2,256,000;
2018, $1,925,000; and 2019, $11,943,000. As a result of various equity
transactions, management believes the Company experienced an "ownership
change" in 1999, as defined by Section 382 of the Internal Revenue Code,
which limits the annual utilization of net operating loss carryforwards
incurred prior to the ownership change.
For Hungarian corporate income tax purposes, the Hungarian subsidiaries
have unused net operating loss carryforwards at December 31, 2001, at
current exchange rates, of approximately $54,282,000. Of this amount,
$11,255,000 may be carried forward indefinitely while $9,827,000 may be
carried forward until 2002, $13,205,000 until 2003, $9,622,000 until 2004,
$10,365,000 until 2005 and $8,000 until 2006.
F-16
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
The tax effect of temporary differences that give rise to significant
portions of deferred tax assets are as follows:
December 31
------------------
2001 2000
---- ----
(in thousands)
Net operating loss carryforwards $ 19,374 21,709
Write down of assets 167 167
Stock compensation 1,467 1,467
Termination benefits - 323
Interest expense 2,106 1,699
Other 232 231
-------- --------
Total gross deferred tax assets 23,346 25,596
Less valuation allowance (23,346) (25,596)
-------- --------
Net deferred tax assets $ 0 0
======== ========
In assessing the realizability of deferred tax assets, management
considers whether it is more likely than not that some portion or all of
the deferred tax assets will not be realized. The ultimate realization of
deferred tax assets is dependent upon the generation of future taxable
income during the periods in which those temporary differences become
deductible. Management considers projected future taxable income and tax
planning in making these assessments. During 2001 and 2000, the valuation
allowance decreased by $2,250,000 and $2,613,000, respectively.
(8) Commitments and Contingencies
-----------------------------
(a) Concession Agreements
---------------------
The Operating Companies have concession agreements with the Prime
Minister's Office, the government department that took over
responsibility for telecommunications from the Ministry of
Transportation, Telecommunications and Water Management in 2000 (in
both cases, "the Ministry"), to own and operate local public
telephone networks in five regions of Hungary. Each of the
concession agreements are for a term of 25 years and provide for an
eight-year exclusivity period up to November 2002.
The concession agreements with Hungarotel (two regions) and to
Papatel (one region) were renegotiated on the Company's acquisition
of Hungarotel and Papatel. The renegotiated concession agreements
provided for an initial payment to the Ministry of HUF 938,250,000
(approximately $6.7 million at December 31, 1995 exchange rates)
which was paid in November 1995, and for annual concession fees based
upon 2.3% and 0.3% of net telephone service revenues for the regions
operated by Hungarotel and 2.3% of net telephone service revenues for
the region operated by Papatel.
In 1994, the Ministry awarded similar concession rights to KNC and
Raba-Com, under agreements which provide for annual concession fees
based upon 0.1% and 1.5% of net telephone service revenues for the
regions operated by KNC and Raba-Com, respectively.
The concession agreements provide for, among other things, the
subsidiaries to provide telephone service to specific numbers of
customers by specified dates or be subject to possible monetary
penalties and possibly reduction in the period of exclusivity. As of
December 31, 2001, the
F-17
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
Company believes it has fulfilled these service requirements in its
concession areas in all material respects.
The activities of the Operating Companies are regulated by the
Ministry and by the terms of their respective concession agreements.
The Ministry has the authority to regulate the industry. This
authority includes approving local, long distance and international
rates, the sharing of revenues between concession companies and Magyar
Tevk ouml zlesi Rt. ("Matav"), the construction, operation and sale
of local telephone exchanges and requiring local telephone companies
to meet specified standards as to growth and services.
In the concession agreements with Hungarotel and Papatel, as amended
on June 3, 1996, the Ministry stipulated that each meet certain
Hungarian ownership requirements so that by June 3, 2003, Hungarian
ownership must consist of at least 25% plus one share. For the period
between June 3, 1996 and June 3, 2003, Hungarian ownership must be at
least 10%, except that during such period, Hungarian ownership may be
reduced to as low as 1% for a period of up to two years. During the
seven-year period, while the Hungarian ownership block is required to
be at least 10%, that 10% equity holding must have voting power of at
least 25% plus one share, thus providing Hungarian owners the right
to block certain transactions which, under Hungarian corporate law,
require a supermajority (75%) of stockholders voting on the matter,
such as mergers and consolidations, increases in share capital and
winding-up.
For these purposes, "Hungarian ownership" means shares owned by
Hungarian citizens. Shares owned by a corporation are considered
Hungarian owned only in proportion to the Hungarian ownership of such
corporation. The Operating Companies can also fulfill the 25% plus
one share Hungarian ownership requirement by listing their shares on
the Budapest Stock Exchange.
The Hungarian ownership requirements in KNC's and Raba-Com's
concession agreements call for a strict 25% plus one share Hungarian
ownership. However, the Ministry has stated, pursuant to a letter
dated September 18, 1996, that it intends that all of the Operating
Companies be treated equally with respect to such ownership
requirements.
Following a capital transaction with Postabank in May 1999 (see Note
9) each of the Operating Companies is deemed in compliance with the
10% ownership requirement, however none of the Companies are
currently in compliance with the 25% voting requirement. Failure to
comply with the 25% Hungarian ownership requirement at the end of the
seven-year period, which expires in 2003, might be considered a
serious breach of a concession agreement, giving the Ministry the
right, among other things, to terminate the concession agreements.
Amended concession agreement terms following the introduction of the
legislation liberalizing the Hungarian telecommunications market (Act
XL of 2001 on Communications, in force since December 23, 2001) may
remove the Hungarian ownership requirements, but the content, effect
or timing of any amended terms are unknown at the present time.
However, the Company believes that it will be able to negotiate new
ownership terms satisfactory to both it and the Ministry.
(b) Construction Commitments
The Company has a contract with Siemens to provide it with a
telephone switch operating system upgrade, as well as the
construction of some optical fiber networks. The contract totalled
approximately $0.8 million, at December 31, 2001 exchange rates, of
which approximately $0.7 million remains to be spent in 2002.
F-18
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
Raba-Com has a contract with Ericcson to replace some existing
switching equipment with Ericcson equipment. The existing switching
equipment will be utilized by the Company in other parts of its
network. The contract totalled approximately $0.7 million, at
December 31, 2001 exchange rates, of which approximately $0.2 million
remains to be spent in 2002.
KNC has a long-term frame contract with Siemens which provides for
the continued construction of a local telephone network and the
addition of new subscribers in its service area. $1.8 million of
this contract remains to be spent.
(c) Leases
The Company and its subsidiaries lease office and other facilities in
the United States and Hungary, which require minimum annual rentals.
Rent expense under operating lease agreements for the years ended
December 31, 2001, 2000 and 1999, was $296,000, $301,000 and
$395,000, respectively, and is included in operating and maintenance
expenses. Lease obligations for each of the next five years are as
follows (at December 31, 2001 exchange rates): 2002, $342,000; 2003,
$383,000; 2004, $390,000; 2005, $409,000; and 2006, $427,000.
(d) Legal Proceedings
Hungarotel is a defendant in a lawsuit brought in Hungary that
alleges breach of contract. The plaintiff was seeking payment of
approximately HUF 222 million (approximately $796,000 at December 31,
2001 exchange rates) plus interest. By a judgement in October 2000,
a Hungarian court made an award in favor of the plaintiff in the
amount of HUF 77.7 million (approximately $278,000 at December 31,
2001 exchange rates) plus interest. As of December 31, 2001,
interest and costs stood at approximately HUF 152.5 million
(approximately $547,000 at December 31, 2001 exchange rates). The
Company continues to believe that it has satisfactory defenses
against the claims and has filed an appeal with the Hungarian Supreme
Court against this judgement. The Company has accrued in its
financial statements an amount which it believes will be sufficient
to satisfy the ultimate cost of resolving this litigation.
During 1996 and 1997, Hungarotel entered into several construction
contracts with a Hungarian contractor, which totaled $59.0 million in
the aggregate, $47.5 million of which was financed by a contractor
financing facility. By January 1998, it became clear to Hungarotel
that there were problems with the work undertaken by the contractor
and Hungarotel rejected invoices in the amount of approximately HUF
700 million (approximately $2.5 million at December 31, 2001 exchange
rates) for, among other reasons, the contractor's failure to meet the
contractual capacity requirements and breaches of warranties
regarding the quality of work. During 1998, the Company and the
contractor engaged in settlement discussions in order to resolve
these issues but were unable to reach a settlement. Following a
series of transactions in March 1999 with the contractor's major
creditor, Hungarotel acquired a HUF 3.1 billion (approximately $11.1
million at December 31, 2001 exchange rates) net claim against the
contractor at the same time settling, through legal offset, the
contractor's claims arising from accepted but unpaid invoices in the
amount of HUF 900 million (approximately $3.2 million at December 31,
2001 exchange rates). These transactions were undertaken to
strengthen Hungarotel's position in any potential procedures
initiated by the contractor. The contractor is seeking payment under
separate invoices in the amount of approximately $24 million for work
which the Company is disputing because of quality and quantity
issues. The Company still has claims against the contractor of
approximately $31 million which is more than the contractor's claim.
F-19
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
In July 2001, the contractor filed an additional lawsuit challenging
certain transactions regarding litigated matters between the
contractor's creditor and the Company. The first hearing regarding
this action is expected to be held sometime during 2002. The Company
believes that this additional lawsuit is without merit and that the
Company will prevail.
In December 1999, a debt collection company initiated debt collection
proceedings against the Hungarian contractor for non-payment of
various debts. In June 2000, the debt collection company claimed the
benefit of certain invoices that the contractor had issued to
Hungarotel in the amount of HUF 455 million (approximately $1.6
million at December 31, 2001 exchange rates), stating that the
contractor had assigned those invoices to it "as security" in the
debt collection proceedings. Hungarotel rejected the debt collection
company's claim for, among other reasons, the absence of a right by
the contractor to assign the invoices and that, in any event,
Hungarotel has a substantive defense and counterclaim on the merits
to the underlying claim on the invoices. After a court hearing in
November 2001, the debt collection company reduced its claim against
Hungarotel to HUF 250 million (approximately $0.9 million at
December 31, 2001 exchange rates) (and proportionally reduced the
amount of interest claimed) because it could not substantiate the HUF
455 million claim on the basis of the contractor's assignment
agreement. At a further hearing in December 2001, the court
terminated the proceedings, on the grounds that it had no
jurisdiction to deal with the matter because the terms of the
contract between Hungarotel and the contractor states that disputes
surrounding the contract are to be resolved through arbitration
proceedings. The debt collection company has appealed to the
Hungarian Supreme Court against this decision and Hungarotel has
counter-appealed, seeking to uphold the decision of the lower court.
No hearing date for the appeal to the Supreme Court has been set.
The Company believes that it will prevail.
Papatel is involved in a dispute with the Hungarian taxing
authorities (the "APEH") pursuant to which the APEH alleges Papatel
owes HUF 107 million (approximately $380,000 at December 31, 2001
exchange rates). This amount includes late payment penalties and
default interest, on value added tax ("VAT") which the APEH alleges
should have been charged in 1999 to the Ministry by Papatel when
Papatel relinquished its rights to use broadcasting frequencies
previously granted by the Ministry. A court hearing was held in
March 2002, at which, the matter was suspended for at least six
months. The Company believes the APEH claim is without merit and is
vigorously defending itself.
The Company and its subsidiaries are involved in various other claims
and legal actions arising in the ordinary course of business. In the
opinion of management, the ultimate disposition of these matters and
those described above will not have a material effect on the
Company's consolidated financial position, results of operations or
liquidity.
(9) Common Stock and Cumulative Convertible Preferred Stock
-------------------------------------------------------
On May 12, 1999, the Company and Tele Danmark entered into a Stock
Purchase Agreement (the "TD Stock Purchase Agreement") pursuant to which
the Company issued 1,571,429 shares of the Company's common stock in
exchange for $11 million. The Company applied the proceeds from the TD
Stock Purchase Agreement to the repayment of the Original Postabank Credit
Facility (see Note 5).
On May 12, 1999, the Company and the Danish Fund for Central and Eastern
Europe (the "Danish Fund") entered into a Stock Purchase Agreement (the
"Danish Fund Stock Purchase Agreement") pursuant to which the Company
issued 1,285,714 shares of the Company's common stock in exchange for $9
million. The Company applied the proceeds from the Danish Fund Stock
Purchase Agreement to the repayment of the Original Postabank Credit
Facility (see Note 5).
F-20
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
On May 12, 1999, the Company and Postabank entered into a Securities
Purchase Agreement (the "Postabank Securities Purchase Agreement")
pursuant to which Postabank purchased 2,428,572 shares of the Company's
common stock for an aggregate purchase price of $34 million. The
Postabank Securities Purchase Agreement provides for one person designated
by Postabank to be nominated for election to the Company's Board of
Directors. Postabank can only transfer such shares incrementally through
2003 subject to the Company's right of first refusal. The Company's right
of first refusal expires in January 2003 and is assignable by the Company
to any beneficial holder of more than 10% of the Company's outstanding
common stock. The Company applied the proceeds from the stock issuance to
the repayment of the Original Postabank Credit Facility (see Note 5).
Pursuant to the Postabank Securities Purchase Agreement, the Company
issued notes to Postabank in an aggregate amount of $25 million with
detachable warrants (see Note 5).
On May 12, 1999, the Company and Citizens Communications Company
("Citizens") entered into a Stock Purchase Agreement (the "Citizens Stock
Purchase Agreement") pursuant to which the Company issued to Citizens
1,300,000 shares of the Company's common stock and 30,000 shares of the
Company's Series A Cumulative Convertible Preferred Stock, par value $0.01
(the "Preferred Stock") in consideration for the extinguishment of
liabilities the Company had with Citizens (see Note 12). The value of the
common stock on the date of issue totaled $9,100,000, which was recorded
as an increase to Common Stock and additional paid-in capital. The value
of the preferred shares on the date of issue totaled $2,100,000, which was
recorded as an increase to Cumulative Convertible Preferred Stock and
additional paid-in capital. Citizens, as the holder of the Cumulative
Convertible Preferred Stock, is entitled to receive cumulative cash
dividends at an annual rate of 5%, compounded annually on the liquidation
value of $70 per share. The Company may, at its option, redeem the
Preferred Stock at any time. The Cumulative Convertible Preferred Stock
is convertible into shares of the Company's common stock on a one for ten
basis.
During the fourth quarter of 2000, the Company entered into an agreement
with the International Finance Corporation ("IFC"), pursuant to which the
IFC agreed to exchange its 20% ownership interest in Papatel for a total
of 72,000 shares of the Company's common stock. The value of the shares
on the date of issue totaled $333,000, which was recorded as an increase
in Common Stock and additional paid-in capital.
During the first quarter of 2001, Tele Danmark exercised its preemptive
rights to maintain its ownership percentage in the Company. As a result
of this exercise, the Company issued 14,001 shares of the Company's common
stock in exchange for $98,000.
As of December 31, 2001 and 2000, the Company had 30,000 shares of its
cumulative convertible preferred stock, with a $70 liquidation value,
outstanding. Any holder of the cumulative convertible preferred stock is
entitled to receive cumulative cash dividends payable in arrears, at an
annual rate of 5%, compounded annually on the liquidation value of $70 per
share. As of December 31, 2001 and 2000, the total arrearage on the
cumulative convertible preferred stock was $282,000 and $175,000,
respectively, and is included in due to related parties.
The Company has reserved 3,659,908 shares as of December 31, 2001 for
issuance under stock option plans, compensation agreements, warrants and
under the conversion terms applicable to its outstanding cumulative
convertible preferred stock.
(10) Stock Based Compensation
------------------------
F-21
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
Stock Option Plans
The Company adopted a stock option plan (the "Plan") in April 1992 which
provided for the issuance of an aggregate of 90,000 stock options, which
has since been increased following stockholder approval, to 1,250,000 as of
December 31, 2001. Under the Plan, incentive and non-qualified options may
be granted to officers, directors and consultants to the Company. The plan
is administered by the Board of Directors, which may designate a committee
to fulfill its responsibilities. Options granted under the Plan are
exercisable for up to 10 years from the date of grant. As of December 31,
2001, 763,490 options provided for by the Plan had been issued, of which
198,100 were exercised and 565,390 remained outstanding.
During 2000, a former officer exercised options to purchase 28,600 shares
of Common Stock at $8.00 per share. Proceeds from the exercise of these
options totaled $228,800. During 2001, a former officer exercised options
to purchase 2,000 shares of Common Stock at $8.00 per share. Proceeds from
the exercise of these options totaled $16,000. The options exercised were
issued from the Company's stock option plan.
In 1997, the Company adopted a director stock option plan (the "Directors'
Plan") which provides for the issuance of an aggregate of 250,000 stock
options. Options granted under the Directors' Plan are exercisable for up
to 10 years from the date of grant. As of December 31, 2001, 107,271
options provided for by the Directors' Plan had been issued, of which
10,000 were exercised and 97,271 remained outstanding.
During 2000, a former director exercised options, granted from the
Directors' Plan, to purchase 5,000 shares of Common Stock at $6.78 per
share. Proceeds from the exercise of these options totaled $33,900.
The Company applies APB Opinion No. 25 and related interpretations in
measuring compensation cost under its stock based compensation plans,
including the Directors' Plan. As a result, no compensation expense has
been recognized by the Company with regard to its stock option plans, as
the exercise price of all options has equaled or exceeded the fair market
value of the Company's common stock price at the respective grant dates.
Had the Company determined compensation cost for options issued under the
plans based on the fair value at the grant date in conformity with SFAS No.
123, the Company's net pro forma earnings (loss) and earnings (loss) per
share would have been as follows:
2001 2000 1999
---- ---- ----
(in thousands)
Earnings (loss) As reported $11,099 ($5,331) $3,172
Pro forma $10,551 ($5,850) $2,526
Earnings (loss) per share - Basic:
As reported $0.91 ($0.45) $0.33
Pro forma $0.86 ($0.50) $0.27
Earnings (loss) per share - Diluted:
As reported $0.89 ($0.45) $0.33
Pro forma $0.84 ($0.50) $0.27
For purposes of the pro forma calculation under SFAS 123, the fair value of
each option grant has been estimated on the date of grant using the
Black-Scholes option-pricing model with the following assumptions: (1) a
risk free rate of 5.09% in 2001, 6.69% in 2000 and 5.03% in 1999, (2) an
expected life.
F-22
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
of 6 years for 2001, 6 years for 2000 and 5 years for 1999, and (3)
volatility of approximately 76% for 2001, 72% for 2000 and 81% for 1999.
F-23
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
The following is a summary of stock options, including those issued under
the Plan and Directors' Plan referred to above, and other compensation
agreements which were granted, and exercised and that have expired for the
three years ended December 31, 2001:
----------------------------------------------------------------
Outstanding Weighted Average
Options Exercise Price
----------------------------------------------------------------
December 31, 1998 852,697 $9.86
Granted 189,990 $4.62
Exercised - -
Expired (116,950) $13.75
----------------------------------------------------------------
December 31, 1999 925,737 $8.29
Granted 140,000 $5.98
Exercised (33,600) $7.82
Expired (97,500) $11.82
----------------------------------------------------------------
December 31, 2000 934,637 $7.60
Granted 167,271 $5.21
Exercised (2,000) $8.00
Expired (240,000) $12.77
----------------------------------------------------------------
December 31, 2001 859,908 $5.68
----------------------------------------------------------------
The following table summarizes information about shares subject to
outstanding options as of December 31, 2001 which were issued to current
or former employees, or directors pursuant to the Plan, Directors' Plan,
employment or other agreements.
Options Outstanding Options Exercisable
------------------- -------------------
Weighted-
Weighted- Average Weighted-
Number Range of Average Remaining Number Average
Outstanding Exercise Prices Exercise Price Life in Years Exercisable Exercise Price
----------- --------------- -------------- ------------- ----------- --------------
454,508 $3.25-$5.00 $4.28 2.88 454,508 $4.28
226,000 $5.46-$6.78 $6.01 4.56 196,000 $5.94
164,400 $8.00-$9.44 $8.54 1.31 164,400 $8.54
15,000 $11.69 $11.69 0.83 15,000 $11.69
------- -------
859,908 $3.25-$11.69 $5.68 2.98 829,908 $5.65
======= =======
Stock Grants
In November 1999, the Company cancelled 30,000 fully vested employee stock
options with an original exercise price of $8.00 per share and an
expiration date of March 31, 2003, and issued 30,000 options with like
terms, except that the newly issued options have been granted with an
exercise price of $5.46 per share, the fair value of such options at the
date of modification. The Company has recognized approximately $9,000 and
$45,000 of compensation income in 2001 and 2000, respectively, and $54,000
of compensation expense in 1999 as a result of the modification.
F-24
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
(11) Reconciliation of Net Income (Loss) to Net Cash Provided by Operating
---------------------------------------------------------------------
Activities
----------
The reconciliation of net income (loss) to net cash provided by operating
activities for the years ended December 31, 2001, 2000 and 1999 follows:
2001 2000 1999
---- ---- ----
(in thousands)
Net income (loss) $ 11,099 (5,331) 3,172
Adjustments to reconcile net income to
net cash provided by operating activities:
Depreciation of property, plant and
equipment 8,750 8,772 11,008
Amortization of intangibles 640 656 774
Asset write-downs 225 183 237
Non-cash compensation (9) (45) 54
Unrealized foreign currency (gain) loss (6,123) 5,050 2,580
Extraordinary items, net - - (20,193
Other (income)/expense - 38 (1,177)
Unpaid/non-cash interest 1,467 1,478 16,345
Changes in operating assets and liabilities:
Accounts receivable 805 654 (1,277)
Restricted cash (98) (9) 60
Other assets 1,258 (1,218) (1,538)
Accounts payable and accruals (3,177) (1,473) 4,929
Other liabilities (209) 464 4,046
Due to related parties (1,051) (928) (498)
------- ------- -------
Net cash provided by operating activities $ 13,577 8,291 18,522
======= ======= =======
Cash paid during the year for:
Interest $ 13,443 12,526 10,521
======= ======= =======
Summary of non-cash transactions
During 2000 the Company:
. Issued 72,000 shares of Common Stock valued at $333,000 to the IFC
in exchange for its interest in one operating subsidiary.
During 1999 the Company:
. Issued 1,300,000 shares of Common Stock valued at $9,100,000 and
30,000 shares of Cumulative Convertible Preferred Stock valued at
$2,100,000 in settlement of an $8.4 million promissory note and
Citizens' renouncement and forgiveness of any rights whatsoever in
respect of the $21 million aggregate amount payable to Citizens
beginning in 2004 (see Notes 9 and 12).
. Modified the exercise price on 30,000 stock options issued to an
executive pursuant to a termination agreement.
F-25
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
(12) Related Parties
---------------
Transactions entered into with certain related parties are as follows:
(a) Transactions with former officers and directors
On July 26, 1996, the Company entered into Termination and Release
Agreements, Consulting Agreements and Non-competition Agreements
with its former (x) Chairman and Chief Executive Officer, (y)
former Vice Chairman and (z) former Chief Financial Officer,
Treasurer, Secretary and Director. Pursuant to these agreements,
the Company agreed to make payments for severance, consulting fees
and non-compete agreements amounting to $7.25 million, in equal
monthly instalments over a 72 month period commencing August 31,
1996 and ending on July 31, 2002, and also issued options to
purchase 200,000 shares of Common Stock at an exercise price of
$14.00 per share which expired unexercised in 2001. These
commitments are supported by letters of credit. The Company
recorded a charge of approximately $6.3 million in 1996 and has
made payments aggregating approximately $1.2 million in each of
2001, 2000 and 1999 related to these agreements.
(b) Transactions with TDC A/S
After the transactions with Tele Danmark, as discussed in Note 9,
TD's share ownership in the Company is 21.3% of the Company's
outstanding common stock as of December 31, 2001. TD has been
granted preemptive rights to maintain its ownership percentage.
(c) Transactions with the Danish Fund
As a result of the transaction with the Danish Fund, as discussed in
Note 9, the Danish Fund's share ownership in the Company is 10.6% of
the Company's outstanding common stock as of December 31, 2001.
(d) Transactions with Postabank
As a result of the transactions with Postabank discussed
in Notes 5 and 9, Postabank's share ownership in the Company is
20.1% of the Company's outstanding common stock as of December 31,
2001.
(e) Transactions with Citizens
On September 30, 1998, the Company entered into certain agreements
with Citizens pursuant to which the Company settled disagreements
with Citizens regarding certain issues with respect to (i) 2.1
million shares of the Company's common stock subject to Citizens'
accrued preemptive rights and (ii) the Company's management services
agreement with Citizens dated as of May 31, 1995, as amended (the
"Management Services Agreement").
Such agreements provided for, among other things, (i) the
termination of a Master Agreement dated as of May 31, 1995 between
the Company and Citizens; (ii) the issuance by the Company to
Citizens of 100,000 shares of the Company's common stock and a
promissory note in the principal amount of $8,374,000 in settlement
of $9.6 million accrued fees and expenses due and payable to
Citizens under the Management Services Agreement; (iii) the
termination of the Management Services Agreement; (iv) payments by
the Company to Citizens in the aggregate amount of $21 million
payable in 28 quarterly installments from 2004 through and including
2010 in part as consideration for Citizens' agreement to terminate
the Management Services Agreement and in part
F-26
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
as consideration for certain consulting services to be provided by
Citizens to the Company from 2004 through and including 2010; (v)
the grant by the Company to Citizens of certain preemptive rights in
connection with any public or private issuances by the Company of
shares of its common stock to purchase within 30 days for cash such
number of shares of the Company's common stock sufficient to
maintain Citizens' then existing percentage ownership interest of
the Company's common stock on a fully diluted basis; and (vi) the
right of one Citizens designee to the Company's Board of Directors
to be renominated for reelection to the Company's Board of Directors
for so long as Citizens owns at least 300,000 shares of the
Company's common stock.
The agreements included an Amended, Restated and Consolidated Stock
Option Agreement (the "Restated Stock Option Agreement") pursuant to
which the Company granted Citizens an option to purchase 2,110,896
shares of the Company's common stock at a price of $13.00 per share,
with an expiration date of July 1, 1999, in settlement of Citizens'
accrued preemptive rights. The Restated Stock Option agreement also
acknowledged Citizens existing options to date to purchase an
aggregate of 4,511,322 shares of the Company's common stock at
exercise prices ranging from $12.75 to $18.00 per share with an
expiration date of September 12, 2000. All of the Citizens options
have expired unexercised.
On May 12, 1999, the Company and Citizens entered into a Stock
Purchase Agreement (the "Citizens Stock Purchase Agreement'),
pursuant to which the Company issued to Citizens 1,300,000 shares of
the Company's common stock and 30,000 shares of the Company's Series
A Cumulative Convertible Preferred Stock, par value $0.01 (the
"Preferred Stock"). In consideration for such shares, Citizens (i)
transferred to the Company for cancellation the $8,374,000
promissory note issued by the Company to Citizens which was to
mature in 2004, (ii) forgave half of the accrued interest due on the
promissory note through May 15, 1999 and (iii) agreed to renounce
and forego any rights whatsoever to any payment of the $21 million
which was payable by the Company to Citizens in quarterly
installments of $750,000 each from 2004 through and including 2010.
The Citizens Stock Purchase Agreement provided that if the average
closing price of the Company's common stock for the twenty (20)
trading days ending March 31, 2000 was less than $7.00 per share,
then HTCC would issue additional Preferred Stock to Citizens. The
average closing price of the Company's common stock for the above
mentioned period was more than $7.00 per share and as a result, no
additional shares of HTCC Preferred Stock have been issued to
Citizens. Citizens also waived any and all preemptive and
anti-dilution rights in connection with the transactions described
in Notes 5 and 9. As a result of the Stock Purchase Agreement with
Citizens, the Company recorded extraordinary income of $9.0 million
during the second quarter of 1999, which represented the gain on the
extinguishment of the liabilities the Company had with Citizens.
After the above transactions, on December 31, 2001 Citizens held
19.1% of the Company's outstanding common stock.
F-27
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
Amounts payable to related parties as of December 31, 2001 and 2000,
were as follows:
2001 2000
---- ----
Payable to former officers and directors $ 675,000 $ 1,727,000
Due to Citizens 282,000 175,000
------- ---------
$ 957,000 $ 1,902,000
======= =========
(13) Extraordinary Items
-------------------
The extraordinary item in 1999 resulted from a series of
transactions as follows:
Gain on extinguishment of amounts due under a
contractor financing facility (see Note 5) $18,161,000
Gain on extinguishment of liabilities to
Citizens (see Note 12(e)) 9,039,000
Less: write-off of unamortized deferred
financing costs and credits pertaining to the
Original Postabank Credit Facility (see Note 5) (6,255,000)
-----------
$20,945,000
===========
(14) Employee Benefit Plan
---------------------
Effective December 1996, the Company established a 401(k) salary
deferral plan (the "401(k) Plan") on behalf of its U.S. employees.
The 401(k) Plan is a qualified defined contribution plan, and allows
participating employees to defer up to 15% of their compensation,
subject to certain limitations. Under the 401(k) Plan, the Company
has the discretion to match contributions made by the employee. No
matching contributions were made by the Company in 2001, 2000 or
1999.
(15) Segment Disclosures
-------------------
The Company operates in a single industry segment,
telecommunications services. The Company's operations involve
developing and constructing a modern telecommunications
infrastructure in order to provide a full range of the Company's
products and services in its five concession areas in Hungary.
While the Company's chief operating decision maker monitors the
revenue streams of the various products and services, operations are
managed and financial performance is evaluated based on the delivery
of multiple services to customers over an integrated network.
Substantially all of the Company's assets are located in Hungary and
all of its operating revenues are generated in Hungary.
Products and Services
The Company groups its products and services into the following
categories:
Telephone Services - local dial tone and switched products and
services that provide incoming and outgoing calls over the public
switched network. This category includes reciprocal compensation
revenues and expenses (i.e. interconnect).
Network Services - point-to-point dedicated services that provide a
private transmission channel for the Company's customers' exclusive
use between two or more locations, both in local and long distance
applications.
F-28
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Notes to Consolidated Financial Statements
December 31, 2001, 2000 and 1999
Other Service and Product Revenues - PBX hardware sales and service
revenues, as well as miscellaneous other telephony service revenues.
The revenues generated by these products and services for the years
ended December 31 were as follows:
(in thousands) 2001 2000 1999
---- ---- ----
Telephone services $41,514 $39,867 $42,088
Network services 2,704 2,398 2,193
Other service and product
revenues
1,018 709 1,157
------- ------- -------
$45,236 $42,974 $45,438
======= ======= =======
Major Customers
For the years ended December 31, 2001, 2000 and 1999, none of the
Company's customers accounted for more than 10% of the Company's
total revenue.
(16) Restricted Net Assets of Consolidated Subsidiaries
--------------------------------------------------
The Company's Hungarian subsidiaries are restricted from paying
dividends to HTCC under the Company's Senior Secured Debt Facility
Agreement. As of December 31, 2001, net assets of the Hungarian
subsidiaries amounted to approximately $10.6 million (at December
31, 2001 exchange rates), all of which is restricted.
F-29
Schedule of Quarterly Financial Data (unaudited)
------------------------------------------------
(in thousands, except per share data)
December 31 September 30 June 30 March 31
----------- --------- ---------- --------
Fiscal 2001 quarters ended:
Net revenues $ 11,553 $ 11,452 $ 10,999 $ 11,232
Operating income 4,163 4,869 4,679 4,629
Net income (loss) ascribable to
Common stockholders 4,300 (1,611) 9,059 (756)
Earnings (loss) per share:
Basic $ 0.36 $ (0.13) $ 0.75 $ (0.06)
======== ======== ======== =========
Diluted $ 0.35 $ (0.13) $ 0.72 $ (0.06)
======== ======== ======== =========
Fiscal 2000 quarters ended:
Net revenues $ 10,288 $ 10,662 $ 10,887 $ 11,137
Operating income 3,623 4,368 4,466 4,012
Net income (loss) ascribable to
common stockholders 927 (2,700) (209) (3,456)
Earnings (loss) per share:
Basic $ 0.08 $ (0.22) $ (0.02) $ (0.29)
======== ======== ======== =========
Diluted $ 0.08 $ (0.22) $ (0.02) $ (0.29)
======== ======== ======== =========
S-1
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Schedule I - Condensed Financial Statements of Registrant
Hungarian Telephone and Cable Corp.
Condensed Balance Sheets
(In thousands, except share data)
Assets December 31, 2001 December31, 2000
------ ----------------- ----------------
Current assets:
Cash and cash equivalents $ 172 $ 1,177
Amounts due from subsidiaries 2,186 348
Other current assets 576 976
---------- --------
Total current assets 2,934 2,501
Property, plant and equipment, net 7 14
Investments in subsidiaries 92,020 92,020
Long-term loans to subsidiaries 25,000 25,000
Other assets 268 296
---------- --------
Total assets $ 120,229 $ 119,831
========== ========
Liabilities and Stockholders' Deficiency
----------------------------------------
Current liabilities:
Accounts payable and accruals $ 806 $ 799
Amounts owed to subsidiaries - 466
Due to related parties 957 1,226
---------- --------
Total current liabilities 1,763 2,491
Due to related parties - 676
Long-term debt 18,702 17,696
---------- --------
Total liabilities 20,465 20,863
---------- --------
Commitments and Contingencies
Stockholders' equity:
Cumulative Convertible Preferred stock, $.01 par value;
$70.00 liquidation value. Authorized 200,000 shares;
issued and outstanding 30,000 shares in 2001 and 2000 - -
Common stock, $.001 par value. Authorized
25,000,000 shares; issued and outstanding
12,103,180 shares in 2001 and 12,087,179 in 2000 12 12
Additional paid-in capital 144,706 144,601
Accumulated deficit (44,217) (44,908)
Accumulated other comprehensive income (737) (737)
---------- --------
Total stockholders' equity 99,764 98,968
---------- --------
Total liabilities and stockholders' equity $ 120,229 $ 119,831
========== ========
See accompanying notes to condensed financial statements.
S-2
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Schedule I - Condensed Financial Statements of Registrant
Hungarian Telephone and Cable Corp.
Condensed Statements of Operations
Years Ended December 31, 2001, 2000 and 1999
(In thousands, except share and per share data)
2001 2000 1999
---- ---- ----
Management services revenues $ 4,034 4,134 5,878
------- ------- -------
Operating expenses:
Operating and maintenance expenses 2,064 2,504 3,479
Depreciation and amortization 7 8 15
------- ------- -------
Total operating expenses 2,071 2,512 3,494
------- ------- -------
Income from operations 1,963 1,622 2,384
Other income (expenses):
Foreign exchange losses, net - (93) (203)
Interest expense (3,279) (3,796) (3,233)
Interest income 2,114 4,753 5,351
Other, net - - (27)
------- ------- -------
Income before extraordinary items 798 2,486 4,272
Extraordinary items, net - - 3,924
------- ------- -------
Net income $ 798 2,486 8,196
Cumulative convertible preferred stock
dividends (in arrears) (107) (107) (68)
------- ------- -------
Net income ascribable to
common stockholders 691 2,379 8,128
======= ======= =======
See accompanying notes to condensed financial statements.
S-3
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Schedule I - Condensed Financial Statements of Registrant
Hungarian Telephone and Cable Corp.
Condensed Statements of Cash Flows
Years Ended December 31, 2001, 2000 and 1999
(In thousands)
2001 2000 1999
---- ---- ----
Net cash provided by (used in) operating activities $ (1,119) 61,766 (77,240)
------ ------ -------
Cash flows from investing activities:
Acquisition of fixed assets - (4) -
Acquisition of interests in subsidiaries - (61,655) -
------ ------ -------
Net cash used in investing activities - (61,659) -
------ ------ -------
Cash flows from financing activities:
Borrowings under long-term debt agreements - - 25,000
Deferred financing costs paid under long-term
debts agreements - (74) -
Proceeds from issuance of common stock, net - - 52,511
Proceeds from exercise of stock options
and pre-emptive rights 114 262 -
------ ------ -------
Net cash provided by financing activities 114 188 77,511
------ ------ -------
Net increase (decrease) in cash and cash equivalents (1,005) 295 271
Cash and cash equivalents at beginning of period 1,177 882 611
------ ------ -------
Cash and cash equivalents at end of period $ 172 1,177 882
====== ====== =======
See accompanying notes to condensed financial statements.
S-4
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Schedule I - Condensed Financial Statements of Registrant
Hungarian Telephone and Cable Corp.
Notes to Condensed Financial Statements
Years Ended December 31, 2001, 2000 and 1999
(1) Description of Business and Other Related Matters
-------------------------------------------------
The accompanying condensed financial statements of Hungarian
Telephone and Cable Corp. ("HTCC" or the "Registrant") have been
prepared in accordance with U.S. generally accepted accounting
principles ("U.S. GAAP"). In preparing the financial statements,
management is required to make estimates and assumptions that
affect reported amounts of assets and liabilities and the
disclosure of contingent assets and liabilities at the date of the
financial statements, and revenue and expenses during the reporting
period. Actual results could differ from those estimates.
HTCC's only source of cash is payments from inter-company loans and
payments under its management service agreements and dividends, if
any, from its Hungarian subsidiaries (the "subsidiaries"). The
subsidiaries ability to pay dividends or make other capital
distributions to HTCC is governed by Hungarian law, and is
significantly restricted by certain obligations of the
subsidiaries. The subsidiaries are the borrowers under a Banking
Credit Facility which provides that the subsidiaries can only make
distributions to HTCC for limited purposes (i.e. management
services), which does not include dividends.
The condensed financial statements should be read in conjunction
with the audited consolidated financial statements of Hungarian
Telephone and Cable Corp. and its subsidiaries as of December 31,
2001 and 2000, and for the years ended December 31, 2001, 2000 and
1999, including the notes thereto, set forth in the Company's
consolidated financial statements appearing on pages F-3 through
F-29 of the accompanying Form 10-K.
Cash used in operating activities in 1999 of $77.2 million includes
approximately $79.0 million of loans advanced to HTCC's
subsidiaries. In 2000, approximately $61.7 million of the $79.0
million advanced during 1999 was converted into equity in the
subsidiaries.
S-5
SCHEDULE II - VALUATION ACCOUNTS
--------------------------------
Balance at the
DESCRIPTION Beginning of Provision for Translation Balance at the
Year Bad Debt Expense Adjustment End of Year
--------------- ---------------- ----------- --------------
Allowance for doubtful
accounts receivable
Year ended December $ 962,000 $227,000 ($159,000) $1,030,000
31, 1999 ========== ======== ========== ==========
Year ended December $1,030,000 $230,000 ($120,000) $1,140,000
31, 2000 ========== ======== ========== ==========
Year ended December $1,140,000 $469,000 $ 36,000 $1,645,000
31, 2001 ========== ======== ========== ==========
S-6
HUNGARIAN TELEPHONE AND CABLE CORP. AND SUBSIDIARIES
Index to Exhibits
-----------------
Exhibit No. Description
10.6 Non-Employee Director Stock Option Plan, as amended as of
March 23, 2001
10.7 1992 Incentive Stock Option Plan, as amended as of May 21, 2001
10.8 Employment Agreement between the Registrant and Ole Bertram
dated as of May 21, 2001
21 Hungarian Telephone and Cable Corp. Subsidiaries.
23 Consent of KPMG Hungaria Kft.