UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED September 30, 2002, OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
COMMISSION FILE NUMBER 0-29375
SAVVIS COMMUNICATIONS CORPORATION
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 43-1809960
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER IDENTIFICATION NO.)
INCORPORATION OR ORGANIZATION)
12851 WORLDGATE DRIVE
HERNDON, VA 20170
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICE) (ZIP CODE)
(703) 234-8000
(REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE)
Indicate by check mark whether the registrant (1) has filed all
reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during
the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has
been subject to such filing
requirements for the past 90 days. Yes /X/ No /_/
Indicate by check mark whether the registrant is an
accelerated filer (as defined in Rule 12b-2 of the
Exchange Act). Yes /_/ No /X/
COMMON STOCK, $.01 PAR VALUE - 94,028,184 SHARES AS OF October 24, 2002
(INDICATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE ISSUER'S CLASSES
OF COMMON STOCK, AS OF THE LATEST PRACTICABLE DATE)
The Index of Exhibits appears on page 30.
SAVVIS COMMUNICATIONS CORPORATION
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION PAGE
----
ITEM 1. FINANCIAL STATEMENTS -UNAUDITED:
Condensed Consolidated Balance Sheets as of December 31, 2001 and September 30, 2002 3
Condensed Consolidated Statements of Operations for the three and nine-months ended September 30, 2001
and 2002 5
Condensed Consolidated Statements of Cash Flows for the nine-months ended September 30, 2001 and 2002 7
Condensed Consolidated Statements of Changes in Stockholders' Equity (Deficit) and Comprehensive Income
for the period January 1, 2002 to September 30, 2002 9
Notes to Condensed Consolidated Financial Statements 10
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS 18
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK 27
ITEM 4. CONTROLS AND PROCEDURES 28
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS 28
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS 29
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS 30
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K 30
SIGNATURES 31
CERTIFICATIONS 32
EXHIBITS
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS-UNAUDITED
SAVVIS COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in thousands, except per share amounts)
DECEMBER 31, SEPTEMBER 30,
2001 2002
---- ----
(Unaudited)
ASSETS
CURRENT ASSETS:
Cash and cash equivalents $ 14,405 $ 44,092
Trade accounts receivable (including non-Bridge
affiliates), less allowance for doubtful accounts
of $1,125 in 2001 and $ 742 in 2002 14,332 19,180
Accounts receivable from Bridge Information Systems,
Inc. ("Bridge") 12,795 390
Prepaid expenses 1,554 1,995
Other current assets 2,919 1,432
-------- --------
TOTAL CURRENT ASSETS $ 46,005 $ 67,089
Property and equipment- net 193,282 152,154
Goodwill and intangible assets-net of accumulated
amortization of $35,695 in 2001 2,772 --
Restricted cash 4,062 6,584
Other non-current assets 9,519 10,136
-------- --------
TOTAL ASSETS $255,640 $235,963
======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
CURRENT LIABILITIES:
Accounts payable 80,447 33,565
Accrued compensation payable 7,045 7,044
Due to Bridge Information Systems, Inc. 23,326 --
Deferred revenue - current 12,145 5,102
Notes payable - current 86,572 --
Convertible senior secured notes - current 60,112 --
Current portion of capital lease obligations 45,800 3,667
Other accrued liabilities 33,451 23,604
-------- --------
TOTAL CURRENT LIABILITIES $348,898 $ 72,982
======== ========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
3
SAVVIS COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS - CONTINUED
(Dollars in thousands except, per share amounts)
DECEMBER 31, SEPTEMBER 30,
2001 2002
---- ----
(Unaudited)
NON-CURRENT LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT)
Capital lease obligations, less current $ 19,975 $ 60,673
Notes payable - non-current 23,719 25,018
Deferred revenue - non-current 6,865 6,535
Other accrued liabilities 12,769 13,476
--------- ---------
TOTAL LIABILITIES 412,226 178,684
--------- ---------
COMMITMENTS AND CONTINGENCIES (NOTE 6)
STOCKHOLDERS' EQUITY (DEFICIT):
Convertible preferred stock; 210,000 shares designated, 203,070 issued
and outstanding in 2002 (Note 3) -- 210,859
Common stock; $.01 par value, 900,000,000 shares authorized, 93,957,229 and
94,059,956 shares issued in 2001 and 2002, respectively, 93,918,353 and
94,028,162 shares outstanding in 2001 and 2002, respectively 940 941
Additional paid-in capital 356,443 358,000
Accumulated deficit (492,364) (495,716)
Deferred compensation (21,122) (15,057)
Treasury stock, at cost, 38,876 and 31,794 shares in 2001 and 2002,
respectively (19) (15)
Accumulated other comprehensive loss:
Cumulative foreign currency translation adjustment (464) (1,733)
--------- ---------
TOTAL STOCKHOLDERS' (DEFICIT) EQUITY (156,586) 57,279
--------- ---------
TOTAL LIABILITIES AND STOCKHOLDERS' (DEFICIT) EQUITY $ 255,640 $ 235,963
========= =========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
4
SAVVIS COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands, except per share amounts)
(Unaudited)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------- ----------------------
2001 2002 2001 2002
--------- ---------- --------- ---------
Managed IP $ 47,562 $ 47,594 $ 142,038 $ 148,570
Managed hosting 2,601 4,521 7,459 14,503
Internet access 7,360 4,197 23,744 13,778
Other 829 344 2,599 3,197
--------- --------- --------- ---------
TOTAL REVENUES (1) 58,352 56,656 175,840 180,048
--------- --------- --------- ---------
Data communications and operations (2) 57,717 37,671 189,296 126,278
--------- --------- --------- ---------
GROSS MARGIN 635 18,985 (13,456) 53,770
Sales and marketing (3) 7,547 8,925 26,838 27,460
General and administrative (4) 12,099 7,810 29,145 22,351
Depreciation and amortization 21,723 13,204 67,873 44,624
Asset impairment & other write-downs of
assets 31,500 -- 89,633 1,000
Restructuring charges -- -- 4,821 --
Non-cash equity-based compensation 3,300 2,786 9,943 8,247
--------- --------- --------- ---------
LOSS FROM OPERATIONS (75,534) (13,740) (241,709) (49,912)
Interest income 115 115 665 327
Interest expense (5,973) (2,131) (20,086) (9,280)
--------- --------- --------- ---------
LOSS BEFORE EXTRAORDINARY GAIN AND
CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE (81,392) (15,756) (261,130) (58,865)
--------- --------- --------- ---------
Extraordinary gain -- -- -- 58,285
--------- --------- --------- ---------
LOSS BEFORE CUMULATIVE EFFECT OF CHANGE IN
ACCOUNTING PRINCIPLE (81,392) (15,756) (261,130) (580)
--------- --------- --------- ---------
Cumulative effect of change in accounting
principle (5) -- -- -- (2,772)
--------- --------- --------- ---------
NET LOSS (81,392) (15,756) (261,130) (3,352)
Accreted and deemed dividend on preferred
stock -- (7,000) -- (66,741)
--------- --------- --------- ---------
LOSS ATTRIBUTABLE TO COMMON STOCKHOLDERS $ (81,392) $ (22,756) $(261,130) $ (70,093)
========= ========= ========= =========
5
SAVVIS COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(Dollars in thousands, except per share amounts)
(Unaudited)
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------------- -----------------------------
2001 2002 2001 2002
---------- ----------- ----------- -----------
BASIC AND DILUTED LOSS PER SHARE BEFORE
EXTRAORDINARY GAIN AND CUMULATIVE
EFFECT OF CHANGE IN ACCOUNTING PRINCIPLE $ (.89) $ (0.24) $ (2.84) $ (1.34)
Extraordinary gain -- -- -- 0.62
Cumulative effect of change in accounting
principle -- -- -- (0.03)
---------- ---------- ---------- ----------
BASIC AND DILUTED LOSS PER COMMON SHARE $ (.89) $ (0.24) $ (2.84) $ (0.75)
========== ========== ========== ==========
WEIGHTED AVERAGE SHARES OUTSTANDING 91,887,152 93,616,371 91,814,769 93,513,597
(1) Including $43.0 million and $133.1 million from affiliates in the three and
nine months ended September 30, 2001, respectively and $ 23.7 million and $80.9
million from affiliates in the three and nine months ended September 30, 2002,
respectively.
(2) Excluding $0.4 million and $1.4 million of equity-based compensation in the
three months and nine months ended in September 30, 2001, respectively, and $0.4
million and $1.1 million of equity-based compensation in the three months and
nine months ended in September 30, 2002, respectively.
(3) Excluding $1.5 million and $4.4 million of equity-based compensation in the
three months and nine months ended in September 30, 2001, respectively, and $1.2
million and $3.7 million of equity-based compensation in the three months and
nine months ended in September 30, 2002, respectively.
(4) Excluding $1.4 million and $4.1 million of equity-based compensation in the
three months and nine months ended in September 30, 2001, respectively, and $
1.2 million and $3.4 million of equity-based compensation in the three months
and nine months ended in September 30, 2002, respectively.
(5) See Note 1 to the condensed consolidated financial statements.
The accompanying notes are an integral part of these condensed consolidated
financial statements.
6
SAVVIS COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in Thousands)
(Unaudited)
NINE MONTHS ENDED
SEPTEMBER 30,
-----------------------
2001 2002
----------- ---------
OPERATING ACTIVITIES:
NET LOSS $(261,130) $ (3,352)
Reconciliation of net loss to net cash used in
operating activities:
Extraordinary gain -- (58,285)
Asset impairment & other write-downs of assets 89,633 1,000
Restructuring charges 4,821 --
Deferred financing costs 3,845 --
Cumulative effect of change in accounting
principle -- 2,772
Accrued interest -- 6,853
Depreciation and amortization 67,873 44,624
Stock compensation expense 9,943 8,247
Net changes in operating assets and liabilities:
Trade accounts receivable 24,035 7,217
Other current assets (167) 1,487
Other non-current assets 116 1,906
Prepaid expenses (699) (441)
Accounts payable (4,039) (54,088)
Deferred revenue 1,530 (7,373)
Accrued compensation payable and other accrued
liabilities 6,387 (410)
--------- --------
Net cash used in operating activities (57,852) (49,843)
--------- --------
INVESTING ACTIVITIES:
Capital expenditures (22,374) (4,065)
--------- --------
Net cash used in investing activities (22,374) (4,065)
--------- --------
FINANCING ACTIVITIES:
Exercise of stock options 40 55
Proceeds from convertible senior secured notes 57,500 (7)
Issuance of PIK note on convertible senior
secured notes 1,572 --
Issuance of preferred stock, net of issue costs -- 97,161
Principal payments under capital lease
obligations (7,877) (9,336)
Repayment of vendor financed debt (201) --
Funding of letters of credit (restricted cash) 1,528 (2,522)
--------- --------
Net cash provided by financing activities 52,562 85,351
--------- --------
Effect of exchange rate changes on cash and (264) (1,756)
cash equivalents
NET (DECREASE) INCREASE IN CASH AND CASH
EQUIVALENTS (27,928) 29,687
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 32,262 14,405
--------- --------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 4,334 $ 44,092
========= ========
7
---------------------
NINE MONTHS ENDED
SEPTEMBER 30,
---------------------
2001 2002
------- ---------
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION:
NON-CASH INVESTING AND FINANCING ACTIVITIES:
Debt incurred in equipment acquisition $10,410 $ --
Issuance of preferred stock in satisfaction
of accounts payable and debt -- 156,400
Issuance of warrants -- 10,053
Capital expenditures accrued and unpaid 15,032 301
Netting of amounts due to against amounts due
from Bridge Information Systems, Inc. -- --
SUPPLEMENTAL DISCLOSURES OF CASH FLOW
INFORMATION:
Cash paid for interest $ 6,188 $ 2,463
The accompanying notes are an integral part of these condensed consolidated
financial statements.
8
SAVVIS COMMUNICATIONS CORPORATION
CONDENSED CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (DEFICIT)
AND COMPREHENSIVE INCOME
(Dollars in thousands)
(Unaudited)
NUMBER OF SHARES
----------------------
CONVERTIBLE
COMMON TREASURY PREFERRED
STOCK STOCK STOCK
----------- --------- -----
BALANCE, JANUARY 1, 2002 93,957,229 (38,876) --
Issuance of preferred stock -- -- 203,070
Issuance of preferred stock upon accretion -- -- 5,293
Issuance of common and/or treasury stock
upon exercise of stock options 102,727 7,082 --
---------- ------- -------
BALANCE, SEPTEMBER 30, 2002 94,059,956 (31,794) 208,363
========== ======= =======
AMOUNTS
----------------------------------------------------------------------------------------------------
ACCUMULATED
OTHER
COMPREHENSIVE
LOSS:
CUMULATIVE
FOREIGN
CONVERTIBLE ADDITIONAL CURRENCY
PREFERRED COMMON PAID-IN TRANSLATION DEFERRED ACCUMULATED TREASURY
STOCK STOCK CAPITAL ADJUSTMENT COMPENSATION DEFICIT STOCK TOTAL
----------------------------------------------------------------------------------------------------
BALANCE, January 1, 2002 $ -- $ 940 $356,443 $ (464) $ (21,122) $(492,364) $ (19) $(156,586)
Net Loss (3,352) (3,352)
Foreign currency translation
adjustment (1,269) (1,269)
--------
Comprehensive loss (4,621)
Issuance of preferred stock 200,131 200,131
Proceeds of preferred stock
issuance allocated to
beneficial conversion
feature (52,690) 52,690 --
Deemed dividends on preferred
stock allocated to
beneficial conversion
feature (3,323) 3,323 --
Deemed dividends on preferred
stock 66,741 (66,741) --
Issuance of common and
treasury stock upon
exercise of stock options 1 50 4 55
Issuance of warrants 10,053 10,053
Recognition of deferred
compensation cost 2,182 6,065 8,247
-------- ----- --------- -------- --------- --------- ----- --------
BALANCE, September 30, 2002 $210,859 $ 941 $358,000 $ (1,733) $ (15,057) $(495,716) $ (15) $ 57,279
======== ===== ========= ======== ========= ========= ===== ========
The accompanying notes are an integral part of these condensed consolidated
financial statements.
9
SAVVIS COMMUNICATIONS CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Tabular dollars in thousands, except per share amounts)
(Unaudited)
NOTE 1 - BASIS OF PRESENTATION
These unaudited condensed consolidated financial statements have been prepared
under the rules and regulations of the Securities and Exchange Commission on a
basis substantially consistent with the audited consolidated financial
statements of SAVVIS Communications Corporation and its subsidiaries
(collectively, "SAVVIS" or the "Company") as of and for the year ended December
31, 2001 included in the Company's Annual Report on Form 10-K (the "Annual
Report") as filed with the Securities and Exchange Commission. These financial
statements should be read in conjunction with the audited consolidated financial
statements and the related notes to the consolidated financial statements of the
Company included in the Annual Report. In the opinion of management, the
accompanying condensed consolidated financial statements contain all adjustments
(consisting of normal, recurring adjustments), which management considers
necessary to present fairly the condensed consolidated financial position of the
Company at September 30, 2002, the results of its operations for the three-month
and nine-month periods ended September 30, 2002 and cash flows for the
nine-month period ended September 30, 2002. The results of operations for the
three-month period ended September 30, 2002 may not be indicative of the results
expected for any succeeding quarter or for the entire year ending December 31,
2002.
REVENUE RECOGNITION - Service revenues consist primarily of Managed IP networks,
Managed Hosting and Internet access service fees, which are fixed monthly
amounts, and are recognized in the financial statements when earned during the
life of the contract. For all periods, any services billed and payments received
in advance of providing services are deferred until the period such services are
earned. In December 1999, the Securities and Exchange Commission issued Staff
Accounting Bulletin No. 101("SAB 101"), "Revenue Recognition in Financial
Statements", which provides guidance on the recognition, presentation and
disclosure of revenue in financial statements. Installation and equipment costs
and related revenues deferred in accordance with SAB 101 are recorded on the
balance sheet in other assets and deferred revenue, respectively. Such costs are
recognized on a straight line basis over the expected customer relationship
period of up to 24 months, the estimated period over which the related revenues
from installation and equipment sales are recognized.
USE OF ESTIMATES - The preparation of financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the amounts
reported in the consolidated financial statements and accompanying notes. Actual
results could differ from those estimates.
NEW ACCOUNTING STANDARDS - In June 2001, the Financial Accounting Standards
Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No.
142, "Goodwill and Other Intangible Assets." The provisions of this statement
are required to be applied starting with fiscal years beginning after December
15, 2001. This statement is required to be applied at the beginning of an
entity's fiscal year and to be applied to all goodwill and other intangible
assets recognized in its financial statements at that date. SFAS No. 142
addresses how intangible assets should be accounted for in financial statements
upon their acquisition. This statement also addresses how goodwill and other
intangible assets should be accounted for after they have been initially
recognized in the financial statements. The statement requires that goodwill and
certain other intangibles with an indefinite life, as defined in the standard,
no longer be amortized. However, goodwill and intangibles would have to be
assessed each year to determine whether an impairment loss has occurred. Any
impairments recognized upon adoption would be recorded as a change in accounting
principle. Future impairments would be recorded in income from continuing
operations. The statement provides specific guidance for testing goodwill for
impairment. As a result of the adoption of SFAS No. 142, on January 1, 2002 the
Company recognized a $2.8 million charge.
In August 2001, FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets", which requires that one accounting model be used
for the long-lived assets to be disposed of by sale, whether previously held and
used or newly acquired. It also broadens the presentation of discontinued
operations to include more disposal transactions. The adoption of SFAS No. 144
on January 1, 2002 did not have a material impact on our financial position or
results of operations.
10
In April 2002, FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4,
44 and 64, Amendment of FASB Statement No. 13 and Technical Corrections".
Effective January 1, 2003, SFAS No. 145 requires gains and losses from the
extinguishment or repurchase of debt to be classified as extraordinary items
only if they meet the criteria for such classification in Accounting Principles
Board 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" (APB No. 30). Until January 1,
2003, gains and losses from the extinguishment or repurchase of debt may be
classified as extraordinary items, as SAVVIS has done. After the adoption of
SFAS No. 145, any gain or loss resulting from the extinguishment or repurchase
of debt classified as an extraordinary item in a prior period that does not meet
this criteria for such classification under APB No. 30 must be reclassified. The
Company will adopt SFAS No. 145 in the fourth quarter of 2002. After adoption,
the gain on retirement of debt of $58.3 million recognized in March 2002 will no
longer be classified as an extraordinary item.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 addresses financial accounting
and reporting for costs associated with exit or disposal activities and
supercedes Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for
Certain Employee Termination Benefits and Other Costs to Exit an Activity
(including Certain Costs Incurred in a Restructuring)." SFAS No. 146 requires
the recognition of costs associated with exit or disposal activities when they
are incurred rather than at the date of a commitment to an exit or disposal plan
and also establishes fair value as the objective for initial measurement of the
costs. SFAS No. 146 will be adopted by the Company for exit or disposal
activities that are initiated after December 31, 2002.
NOTE 2 - RELATED PARTY TRANSACTIONS
At December 31, 2001, the Company had amounts payable to BIS Administration,
Inc., the successor to Bridge Information Systems, Inc., or Bridge, of
approximately $23.3 million consisting of a note payable and accrued interest on
the note. In addition, at December 31, 2001, the Company had amounts receivable
from Bridge of approximately $12.8 million, relating to network services
provided by the Company to Bridge. As described in Note 3, the Company entered
into a series of agreements that resolved substantially all of the outstanding
balances, both due to and due from Bridge (see Note 3).
In March 2002, the Company issued $40.9 million of convertible preferred stock
to Reuters Holdings Switzerland S.A. (together with its affiliates, "Reuters")
in satisfaction of all of the outstanding principal and accrued interest on the
Company's 12% convertible senior notes (see Note 3).
Revenue from affiliates was as follows:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------------------------------------------
(Dollars in millions)
---------------------------------------------------------
2001 2002 2001 2002
---- ---- ---- ----
Bridge $ 43.0 $ -- $ 133.1 $ 1.4
Reuters -- 23.7 -- 79.5
--------- --------- --------- ---------
Total $ 43.0 $ 23.7 $ 133.1 $ 80.9
========= ========= ========= =========
NOTE 3 - SIGNIFICANT TRANSACTIONS
In September 2002, the Company raised $22.6 million from the issuance of Series
A convertible preferred stock (the "Preferred") to entities and individuals
affiliated with Welsh, Carson, Anderson & Stowe ("Welsh Carson"). As of
September 30, 2002, Welsh Carson owns approximately 56% of the Company's voting
stock.
In June 2002, the Company issued Preferred totaling $20.0 million to a group of
funds ("Constellation Ventures") in exchange for cash. The Company also issued
five-year performance warrants to Constellation Ventures to acquire shares of
common stock at $0.75 per share which it will earn the right to exercise if it
meets certain performance criteria related to aiding the Company in winning new
business. As of September 30, 2002, this
11
performance criteria has not been met. In addition, the Company issued $2.4
million of Preferred in satisfaction of certain vendor obligations.
In March 2002, the Company issued $158.1 million of Preferred. Preferred
totaling $117.2 million was issued to entities and individuals affiliated with
Welsh Carson in exchange for $57.5 million in cash, satisfaction of all of the
outstanding principal and accrued interest on the Company's 10% convertible
senior notes totaling $22.2 million, and satisfaction of all of the principal
and interest owed in respect of notes issued pursuant to the Credit Agreement
with Nortel Networks, Inc., or Nortel, totaling $90.9 million. In connection
with these transactions, the Company also issued five year warrants to purchase
approximately 6.4 million shares of its common stock at $0.75 per share.
Preferred totaling $40.9 million was also issued to Reuters in satisfaction of
all of the outstanding principal and accrued interest on the Company's 12%
convertible senior notes totaling $40.9 million. The Company incurred $2.9
million in offering costs related to the issuance of 203,070 shares of the
Preferred which is recorded net of proceeds.
The Preferred accrues dividends at the rate of 11.5% per annum on the
outstanding accreted value thereof (initially $1,000 per share). Dividends may
not be paid in cash until after the eighth anniversary of the original issuance
date. Accrued but unpaid dividends will be added to the outstanding accreted
value quarterly. The Preferred is convertible into such number of our common
stock equal to the outstanding accreted value divided by the conversion price.
The Preferred is entitled to vote on all matters (other than any voluntary
repurchase of the Preferred) submitted to the common stockholders on an
as-if-converted basis and represented approximately 75% of the voting stock of
the Company as of September 30, 2002. The conversion price of $0.75 was set a
few days before the commitment date for the Preferred issued in March 2002. On
the commitment date, the closing price of the Company's common stock was $1.00.
Accordingly, the Company recorded a non-cash beneficial conversion feature of
$52.7 million, representing the $0.25 per share intrinsic value of that feature,
as a return to the Preferred shareholders in March 2002. The Company also
recorded a non-cash beneficial conversion feature of $ 3.3 million related to
accrued dividends for the nine-month period ended September 30, 2002.
In March 2002, the Company also entered into a $56.5 million amended and
restated master lease agreement with General Electric Capital Corporation, or
GECC. The amended lease carries a 12% interest rate, which accrues through
December 31, 2004, and is payable in cash thereafter. The principal amount of
the amended lease is due on March 8, 2007. The amended lease calls for excess
cash flow, as defined, to be used first for the payment of any accrued and
unpaid interest and second for the prepayment of principal on the capital
leases. The amended lease places limits on the level of capital expenditures
that can be made by the Company and restricts the payment of dividends. In
connection with this transaction, the Company also issued five year warrants to
purchase approximately 9.6 million shares of its common stock at $0.75 per
share.
In February 2002, the Company entered into an agreement with Bridge wherein the
Company agreed to pay Bridge $11.9 million in satisfaction of $27.5 million
representing all amounts due to Bridge. The Company also agreed not to pursue
the collection of $18.7 million of pre-petition receivables owed to it by Bridge
and to assign to Bridge any claims it had against other Bridge entities with the
exception of Bridge Canada where the Company retained its right to receive a pro
rata distribution of assets from the liquidation of Bridge Canada. All amounts
due under the settlement agreement were paid in March 2002.
In March 2002, the Company entered into agreements with three of its vendors to
settle certain obligations of the Company as follows: amended its Global
Purchase Agreement with Nortel releasing the Company from its obligation to
purchase optical equipment; entered into an agreement with a communications
services vendor providing for the payment of $2.5 million over 18 months, the
lease of communications capacity and the release of the Company from its
obligations under the IRU agreements entered into in August 2000 so long as the
Company is not in default under the communications capacity agreement; and
satisfied all of its outstanding obligations to a vendor for a cash payment of
$10.0 million.
As a result of these transactions the Company recorded an extraordinary net gain
of $58.3 million in the nine-month period ended September 30, 2002.
12
NOTE 4 - PROPERTY, PLANT AND EQUIPMENT
DECEMBER 31, 2001 SEPTEMBER 30, 2002
----------------- ------------------
Communications equipment $ 139,877 $ 152,558
Data centers 59,618 60,266
Construction in progress 10,365 --
Equipment under capital leases 95,872 96,453
Other 11,631 12,394
--------- ---------
Total 317,363 321,671
Less accumulated depreciation and
amortization (124,081) (169,517)
--------- ----------
Total $ 193,282 $ 152,154
========= ==========
NOTE 5 - ASSET IMPAIRMENT
The changes in the carrying amount of goodwill for the nine-month period ended
September 30, 2002:
NET
ASSETS
------
BALANCE AS OF DECEMBER 31, 2001 $ 2,772
Impairment (2,772)
-------
BALANCE AS OF SEPTEMBER 30, 2002 $ --
=======
Amortization expense related to goodwill was $2.8 million and $8.3 million for
the three and nine-month periods ended September 30, 2001.
In accordance with the provisions of SFAS 142 adopted on January 1, 2002, SAVVIS
recognized a $2.8 million charge, as the balance of goodwill was impaired. The
following adjusted information presents a reconciliation of net loss and loss
per common share reported in the Condensed Consolidated Statements of Operations
adjusted to exclude the goodwill amortization. The effective tax rate used in
this table is 0.0%.
FOR THE THREE MONTHS ENDED FOR THE NINE MONTHS
SEPTEMBER 30, ENDED SEPTEMBER 30,
-------------------------- ---------------------------
2001 2002 2001 2002
---------- ------------ ----------- -----------
Net loss, as reported $ (81,392) $ (15,756) $ (261,130) $ (3,352)
Add: Goodwill
amortization, net of
income tax 2,772 -- 8,316 --
----------- ----------- ----------- -----------
Net loss, as adjusted (78,620) $ (15,756) $ (252,814) $ (3,352)
----------- ----------- ----------- -----------
Basic and diluted loss per share:
Loss per share $ (0.89) $ (0.17) $ (2.84) $ (0.04)
Add: Goodwill
amortization, net of
income tax 0.03 -- 0.09 --
----------- ----------- ----------- -----------
Loss per share, as adjusted $ (0.86) $ (0.17) $ (2.75) $ (0.04)
=========== =========== =========== ===========
Weighted average shares
outstanding 91,887,152 93,616,371 91,814,769 93,513,597
13
On March 22, 2002, Yipes Communications, Inc. ("Yipes") filed voluntary petition
for reorganization under Chapter 11 of Title 11 of the United States Bankruptcy
Code. As a result of these proceedings, the Company has recorded a $1.0 million
impairment charge related to its investment in Yipes.
During the third quarter of 2001, SAVVIS recorded asset impairments of $31.5
million (or $0.34 per share) relating to its purchase of optical equipment for
which the Company does not expect to recover its costs either through the
operation or disposition of such equipment.
During the second quarter of 2001, SAVVIS recorded asset impairments of $58.1
million (or $0.64 per share) as a result of the termination of its wireless
initiative and Texas and Midwest fiber optic ring plan. Asset impairment charges
were determined and recorded in accordance with SFAS No. 121 "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of".
During the second quarter of 2001, SAVVIS recorded restructuring charges of $
4.8 million (or $0.05 per share). The restructuring charges were determined and
recorded in accordance with EITF No. 94-3 "Liability Recognition for Certain
Employee Termination Benefits and Other Costs to Exit an Activity (including
Certain Costs Incurred in a Restructuring)".
NOTE 6 - COMMITMENTS AND CONTINGENCIES
In May 2002, SAVVIS entered into a 15 year, office facility lease agreement with
Duke Realty Limited Partnership ("Duke") with total minimum rent payments of
approximately $39.9 million. The Company also entered into an agreement with
Duke in which SAVVIS may be required to make payments of up to $2 million plus
interest accruing at 4.88% from the date of the agreement if certain events do
not occur prior to June 2004. These payments, if required, would be made from
July 2005 to June 2007.
In March 2002, the Company entered into a lease agreement with GECC (see note
3). The amended lease calls for excess cash flow, as defined, to be used first
for the payment of any accrued and unpaid interest and second for the prepayment
of principal on the capital leases.
In August 2000, the Company entered into a 20-year agreement with Kiel Center
Partners, L.P. ("KCP") pursuant to which it acquired the naming rights to an
arena in St. Louis, MO. Upon execution of the agreement, total consideration for
these rights amounted to approximately $72 million, including 750,000 shares of
its common stock issued by the Company to KCP. The related expense will be
recognized over the term of the agreement. The parties entered into an amendment
of the agreement, dated August 21, 2001, providing for the payment of $1.25
million on each December 31, from 2002 through 2005. These payments will be
deducted from payments otherwise owed under the agreement in 2007 through 2010.
As of September 30, 2002, the Company has recorded in other non-current assets
approximately $3.8 million of deferred charges resulting from the issuance of
common stock under this agreement.
In May 2001, Bridge and SAVVIS executed a ninety-nine year land lease, effective
February 18, 2000 (subsequently acquired by Reuters in connection with its
acquisition of a portion of the assets of Bridge), with monthly rental payments
of $27,443 for the first twenty-four months, beginning in December 2000, for the
land on which the St.Louis data center resides. Thereafter, the rent for each
subsequent year is increased at a rate of 2% per annum. In the lease, SAVVIS has
the option to purchase the land from Reuters at the greater of $3 million or at
the Fair Option Value, as defined in the agreement. In addition, Reuters has a
put right option during the first ten years of the lease agreement to require
SAVVIS to purchase the land from Reuters at a price of $3 million in the first
year; reduced by $0.3 million each year thereafter. The put right option can
only be exercised should the data center be damaged, SAVVIS is unwilling to
repair the damage, and SAVVIS is in default under the lease.
We have arrangements with various suppliers of communications services that
require us to maintain minimum spending levels some of which increase over time.
Our aggregate minimum spending level is approximately $ 14.2 million, $ 64.6
million, $ 58.2 million and $ 18.3 million in years 2002 to 2005, respectively.
Should SAVVIS not meet the minimum spending level in any given year, decreasing
termination liabilities representing a
14
percentage of the remaining contracted amount may immediately become due and
payable. Furthermore, certain of these termination liabilities are subject to
reduction should SAVVIS experience the loss of a major customer or suffer a loss
of revenues from a downturn in general economic activity. SAVVIS expects to meet
its spending minimums in the current year of communications services agreements.
Before considering the effects of any reductions for the business downturn
provisions, if SAVVIS were to terminate all of these agreements as of September
30, 2002, the maximum termination liability would amount to approximately $111
million.
On August 23, 2002, Highland Capital Management, L.P., on behalf of itself and
various equity funds under its management, each a former debt holder of Bridge
Information Systems, Inc., filed suit against the Company and entities and
individuals affiliated with Welsh, Carson, Anderson & Stowe, in the District
Court of Dallas County, Texas seeking an unspecified amount of damages in
connection with certain payments made by Bridge to the Company prior to Bridge's
bankruptcy and certain other matters. The Company has filed a motion to transfer
the case to the U.S. Bankruptcy Court in St. Louis, Missouri. The Company
believes the plaintiffs' claims are without merit and intends to vigorously
defend the suit.
Including the foregoing matters, the Company is subject to various other legal
proceedings and other actions arising in the normal course of its business.
While the results of such proceedings and actions cannot be predicted,
management believes, based on facts known to management today, that the ultimate
outcome of such proceedings and actions will not have a material adverse effect
on the Company's financial position, results or operations or cash flows.
NOTE 7 - INDUSTRY SEGMENT AND GEOGRAPHIC REPORTING
The Company's operations are organized into three geographic operating segments:
Americas, Europe and Asia. The Company evaluates the performance of its segments
and allocates resources to them based on revenue and Adjusted EBITDA, which is
defined as the respective consolidated loss before interest, taxes,
depreciation, amortization, non-cash equity-based compensation, asset impairment
and other write-downs of assets, extraordinary gain, change in accounting
principle and restructuring charges. Adjusted EBITDA is not determined in
accordance with accounting principles generally accepted in the United States of
America. Additionally, our calculation of Adjusted EBITDA may not be comparable
to similarly titled measures of other companies as other companies may not
calculate it in a similar manner. Financial information for the Company's
geographic segments for the three and nine months ended September 30, 2001 and
2002 is presented below.
As a result of changes in the structure of our contracts with Reuters and
Moneyline Telerate versus the Bridge contract, the Company has experienced a
shift in revenues to our Asia and European regions from the Americas. Adjusted
EBITDA by region does not reflect the allocation of centrally incurred network
management and support, executive and other administrative costs.
AMERICAS EUROPE ASIA ELIMINATIONS TOTAL
-------- ------ ---- ------------ -----
THREE MONTHS ENDED
SEPTEMBER 30, 2001
Revenue $ 48,741 $ 5,734 $ 3,877 $ -- $ 58,352
Adjusted EBITDA (18,340) (314) (357) -- (19,011)
Assets 263,216 13,360 5,785 (25,456) 256,905
Capital Additions 4,064 -- -- -- 4,064
THREE MONTHS ENDED
SEPTEMBER 30, 2002
Revenue $ 36,183 $ 8,647 $ 11,826 $ -- $ 56,656
Adjusted EBITDA (6,097) 2,260 6,087 -- 2,250
Assets 269,302 5,112 3,714 (42,165) 235,963
Capital Additions 391 120 32 -- 543
15
AMERICAS EUROPE ASIA ELIMINATIONS TOTAL
-------- ------ ---- ------------ -----
NINE MONTHS ENDED
SEPTEMBER 30, 2001
Revenue $ 148,145 $ 15,978 $ 11,717 $ -- $ 175,840
Adjusted EBITDA (65,380) (2,782) (1,277) -- (69,439)
Assets 263,216 13,360 5,785 (25,456) 256,905
Capital Additions 33,032 -- -- -- 33,032
NINE MONTHS ENDED
SEPTEMBER 30, 2002
Revenue $ 117,217 $ 27,736 $ 35,095 $ -- $ 180,048
Adjusted EBITDA (18,593) 6,626 15,926 -- 3,959
Assets 269,302 5,112 3,714 (42,165) 235,963
Capital Additions 3,855 131 79 -- 4,065
Adjusted EBITDA for all reportable segments differs from the net loss reported
in the condensed consolidated statement of operations as follows:
THREE MONTHS ENDED NINE MONTHS ENDED
SEPTEMBER 30, SEPTEMBER 30,
---------------------- ----------------------
2001 2002 2001 2002
---------- --------- --------- ----------
Adjusted EBITDA $ (19,011) $ 2,250 $ (69,439) $ 3,959
Plus adjustments as follows:
Depreciation and amortization (21,723) (13,204) (67,873) (44,624)
Interest, net (5,858) (2,016) (19,421) (8,953)
Non-cash equity-based compensation (3,300) (2,786) (9,943) (8,247)
Asset impairment & other write-downs
of assets (31,500) -- (89,633) (1,000)
Extraordinary gain -- -- -- 58,285
Restructuring charges -- -- (4,821) --
Cumulative effect of change in
accounting principle -- -- -- (2,772)
--------- --------- --------- ---------
Net loss $ (81,392) $ (15,756) $(261,130) $ (3,352)
========= ========= ========= =========
NOTE 8 SUBSEQUENT EVENTS
On October 23, 2002, the Company entered into a settlement agreement with
Winstar under which we have agreed to pay Winstar $1.5 million in satisfaction
of all amounts owed by us to Winstar. Additionally, we have agreed to release
each other from any and all claims against the other. This settlement, which was
approved by the bankruptcy court on November 5, 2002 will result in a gain of
$39.6 million in the fourth quarter.
As a result of this transaction, the Company's financial position changed
significantly including a reduction of debt by $25.0 million, a reduction of
other accrued liabilities of $8.4 million which included $4.3 million of accrued
interest, a reduction of deferred revenue of $7.7 million and a reduction in
cash position by $1.5 million. Additionally, the Company recognized a gain of
approximately $39.6 million related to the extinguishment of debt. The following
summary financial information illustrates the balance sheet at September 30,
2002 as if all the transaction had occurred on September 30, 2002. The summary
financial information has been adjusted to reflect the impact of these
transactions. This information is for illustrative purposes only and is not
meant to be
16
indicative of actual results that might have been achieved or results that might
be attained in the future.
SEPTEMBER 30,
---------------------------------
2002 PRO FORMA 2002
--------------------------------
BALANCE SHEET DATA:
- -------------------
Cash and cash equivalents $44,092 $42,592
Total current assets 67,089 65,589
Total assets 235,963 234,463
Total current liabilities 72,982 63,333
Deferred revenue 11,637 3,969
Debt and capital lease obligations 89,358 64,340
Total liabilities 178,684 137,571
Stockholders' equity 57,279 96,892
Total liabilities and stockholders' equity 235,963 234,463
17
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
YOU SHOULD READ THE FOLLOWING DISCUSSION IN CONJUNCTION WITH (1) OUR
ACCOMPANYING UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS AND NOTES
THERETO, AND (2) OUR AUDITED CONSOLIDATED FINANCIAL STATEMENTS, NOTES THERETO
AND MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS AS OF AND FOR THE YEAR ENDED DECEMBER 31, 2001 INCLUDED IN OUR ANNUAL
REPORT on Form 10-K FOR SUCH PERIOD AS FILED WITH THE SECURITIES AND EXCHANGE
COMMISSION. THE RESULTS SHOWN HEREIN ARE NOT NECESSARILY INDICATIVE OF THE
RESULTS TO BE EXPECTED IN ANY FUTURE PERIODS. THIS DISCUSSION CONTAINS
FORWARD-LOOKING STATEMENTS (AS SUCH TERM IS DEFINED IN THE PRIVATE SECURITIES
LITIGATION REFORM ACT OF 1995) BASED ON CURRENT EXPECTATIONS WHICH INVOLVE RISKS
AND UNCERTAINTIES. ACTUAL RESULTS AND THE TIMING OF EVENTS COULD DIFFER
MATERIALLY FROM THE FORWARD-LOOKING STATEMENTS AS A RESULT OF A NUMBER OF
FACTORS. FOR A DISCUSSION OF THE MATERIAL FACTORS THAT COULD CAUSE ACTUAL
RESULTS TO DIFFER MATERIALLY FROM THE FORWARD-LOOKING STATEMENTS, YOU SHOULD
READ "RISK FACTORS" INCLUDED IN PART I, ITEM 1 OF OUR 2001 ANNUAL REPORT ON FORM
10-K.
GENERAL
SAVVIS Communications Corporation ("SAVVIS" or the "Company") is a global
managed service provider that delivers IP VPNs, both private and public, and
managed hosting services to businesses around the globe. SAVVIS targets the
financial services industry and other enterprises with demanding network and
hosting requirements such as legal, media, retail, professional services, and
healthcare. Its customer base is 30% financial services, with 80% of its revenue
derived from Managed IP VPNs.
SAVVIS began commercial operations in 1996, offering Internet access services to
local and regional Internet service providers. Our customer base has grown from
15 customers at the end of 1996 to 1,747 at September 30, 2002.
Reuters Agreements
On September 28, 2001 Reuters acquired a portion of the assets of Bridge. In
connection with the asset acquisition, Reuters entered into a network services
agreement with us, pursuant to which we agreed to provide continuing network
services to the Bridge customers acquired by Reuters as well as, internet
access, and colocation services for a period of five years. The network services
agreement calls for a minimum purchase of these services of $88 million in year
two, $82 million in year three and $48 million in each of years four and five,
less payments made by Bridge to us for services provided to customers acquired
by Reuters between May 3, 2001 and September 28, 2001. The network services
agreement also provides that our network must perform in accordance with
specific quality of service standards. In the event we do not meet the required
quality of service levels, Reuters would be entitled to credits, and, in the
event of a material breach of such quality of service levels, Reuters would be
entitled to terminate the network services agreement. As a result of the network
services agreement, Reuters is our largest customer. On September 28, 2001, we
also entered into a colocation agreement with Reuters, pursuant to which we
granted Reuters the right to use portions of our data center in Missouri. The
co-location agreement has an initial term of five years and may be renewed by
Reuters, at its option, for additional one-year periods. However, the agreement
will terminate concurrently with the network services agreement.
Moneyline Telerate Agreements
In October 2002, the Company entered into a seven year Master Services Agreement
("MSA") with Moneyline Telerate that replaces the binding letter of intent dated
October 18, 2001. Under the MSA, the Company is Moneyline's exclusive network
supplier and will provide services including network services, colocation, help
desk, warehousing and logistics, field install and repair. The contract carries
the same minimums as the October 2001 binding letter of intent, which will
provide the Company with revenues of $50 million in year two, $35 million in
year three, $25 million in year four and $20 million in year five.
18
Transactions with Welsh Carson, Reuters and Constellation Ventures
In September 2002, the Company raised $22.6 million from the issuance of Series
A convertible preferred stock (the "Preferred") to entities and individuals
affiliated with Welsh, Carson, Anderson & Stowe ("Welsh Carson"). As of
September 30, 2002, Welsh Carson owns approximately 56% of the Company voting
stock.
In June 2002, the Company issued Preferred totaling $20.0 million to
Constellation Ventures in exchange for cash. The Company also issued five-year
performance warrants to Constellation Ventures to acquire shares of common stock
at $0.75 per share which it will earn the right to exercise if it meets certain
criteria related to aiding the Company in winning new business. In addition, the
Company issued $2.4 million of Preferred in satisfaction of certain vendor
obligations.
On March 18, 2002 we issued approximately $158.1 million of Preferred to Welsh
Carson and Reuters in exchange for $57.5 million in cash and all of the
outstanding principal of and accrued interest on our 10% and 12% convertible
senior notes and the notes payable originally issued pursuant to our credit
agreement with Nortel. The Preferred accrues dividends at the rate of 11.5% per
annum on the outstanding accreted value thereof (initially $1,000 per share)
through March 18, 2010. Thereafter, dividends will be payable in cash or in kind
at the option of the Company. Accrued but unpaid dividends will be added to the
outstanding accreted value quarterly. The Preferred is convertible into such
number of our common stock equal to the outstanding accreted value divided by
the conversion price, $0.75 per share. In connection with this transaction we
granted the holders registration rights with respect to the shares of our common
stock issuable upon conversion of the Preferred, including demand registration
rights and piggy back registration rights.
On February 16, 2001, Welsh Carson purchased $20.0 million aggregate principal
amount of our 10% convertible senior secured notes due 2006. All of the
outstanding principal and accrued interest on these notes were exchanged for the
Preferred on March 18, 2002.
On May 16, 2001, Reuters purchased $37.5 million aggregate principal amount of
our 12% convertible senior secured notes due 2005. All of the outstanding
principal and accrued interest on these notes were exchanged for the Preferred
on March 18, 2002.
On May 16, 2001, we also granted Reuters and its successors, assigns and
affiliates the right, for so long as they hold any of our notes or preferred
stock or common stock comprising or convertible into at least 5% of our
outstanding voting stock, among other things, to (1) designate an observer to
attend all meetings of our board of directors or any board committees, and (2)
to nominate and elect such number of directors, but not fewer than one, equal to
the product of the percentage of the voting power held by Reuters on a
fully-diluted, as-converted basis, multiplied by the number of seats on the
registrant's board of directors (rounded down to the nearest whole number). In
accordance with the terms of this letter, Reuters has appointed an observer to
attend all meetings of our board of directors and audit committee meetings.
Transactions with Bridge
In connection with Bridge's acquisition of the Company in April 1999, Bridge
funded the Company's operations during 1999 and up through February 18, 2000,
the date of SAVVIS' initial public offering. In February 2000, we entered into
several agreements with Bridge, related to the acquisition of its IP network
assets, the provision of network services to Bridge and the provision of
technical and administrative support services to SAVVIS. As a result, Bridge was
our largest customer, accounting for approximately 81% and 55% of revenues, in
2000 and 2001, respectively.
In February 2002, the Company entered into an agreement with Bridge wherein the
Company agreed to pay Bridge $11.9 million in satisfaction of $27.5 million
representing all amounts due to Bridge. The Company also agreed not to pursue
the collection of $18.7 million of pre-petition receivables owed to it by Bridge
and to assign to Bridge any claims it had against other Bridge entities with the
exception of Bridge Canada where the Company retained its right to receive a pro
rata distribution of assets from the liquidation of Bridge Canada. All amounts
due under the settlement agreement were paid in March 2002.
RESULTS OF OPERATIONS
The historical financial information included in this Form 10-Q does not reflect
our future results of operations, financial position and cash flows.
19
THREE MONTHS ENDED SEPTEMBER 30, 2002 AS COMPARED TO THE THREE MONTHS ENDED
SEPTEMBER 30, 2001
Summary
The Company's revenues decreased 3% in the quarter as strong growth in our
managed services products was offset by reductions in internet access and
services provided to Reuters and Moneyline Telerate from the level of service
provided to Bridge in the prior year period. Gross margin increased by
approximately $18.4 million as the $1.7 million decrease in our revenues was
offset by $20.0 million of reductions in data communications costs due to
reductions in capacity, unit costs and refunds of sales taxes related to such
costs. This gross margin improvement led to a $21.3 million improvement in
Adjusted EBITDA. Net loss improved by $65.6 million due to the improvement in
Adjusted EBITDA, an $8.5 million reduction in depreciation and amortization, a
$3.9 million reduction in interest expense and $31.5 million of asset impairment
charges recorded in 2001.
Revenues
THREE MONTHS ENDED SEPTEMBER 30,
(IN MILLIONS)
-------------------------------
2001 2002
------- -------
Bridge $ 41.8 $ --
Reuters -- 21.6
Moneyline Telerate -- 16.4
Managed IP 5.8 9.6
------ ------
Total Managed IP 47.6 47.6
Managed Hosting 2.6 4.5
Internet Access 7.4 4.2
Other 0.8 0.4
------ ------
Total Other 10.8 9.1
------ ------
Total Revenue $ 58.4 $ 56.7
====== ======
Revenue was $56.7 million for the three-months ended September 30, 2002, a
decrease of $1.7 million or 3%, from $58.4 million for the three-months ended
September 30, 2001. Managed IP revenues were flat at $47.6 million. Managed IP
revenues provided to Reuters and Moneyline declined 9% to $38.0 million, versus
$41.8 million of services provided to Bridge in the third quarter of 2001. The
decline resulted from the elimination of excess circuits by Bridge prior to the
sale of its assets, the termination of service locations by Reuters and
Moneyline in connection with their integration of the Bridge acquisition,
workforce reductions implemented by some of their customers and reduced pricing
for some services. Revenues in the quarter included approximately $1.4 million
of adjustments related to services provided to Moneyline Telerate in prior
periods. The effect of these factors is expected to result in a decline in
Moneyline and Reuters revenues for the fourth quarter. Managed IP services
provided to other customers increased 66% to $9.6 million in the quarter as we
added 101 new managed IP customers. Managed Hosting revenue was $4.5 million, a
$1.9 million or 73% increase over the third quarter of 2001. The increase in
Managed Hosting revenue is attributable to an increase in colocation charges for
Reuters and Moneyline over previous billings to Bridge. Other gains in our
managed hosting services were offset by turnover of over half our 2001 customer
base as a result of bad debts. Internet access revenues decreased 43% to $4.2
million in the third quarter of 2002, compared to $7.4 million for the
comparable period in 2001. The decrease in Internet access revenue was due to
the economic downturn affecting the Internet sector which resulted in the loss
of customers, pricing pressure in the Internet access business and the Company's
continued initiatives designed to encourage customers to purchase access
services as part of their managed network service. Other revenues, consisting of
installation and equipment sales, decreased from $0.8 million in 2001 to $0.4
million for the comparable period of 2002.
Data Communications and Operations
Data communications and operations expenses consist primarily of leased long
distance and local circuit costs, internet connectivity costs, leased hosting
and colocation space, as well as related operating expenses such as repairs and
maintenance associated with network operations, operating leases for network
equipment, customer support, field service, and
20
engineering personnel costs. Data communications and operations expenses were
$37.7 million for the quarter ended September 30, 2002, a decrease of $20.0
million from $57.7 million for the quarter ended September 30, 2001. The 35%
decline in data communications costs is a result of significant unit price
reductions for long-haul capacity, reductions in internet connectivity capacity
and unit prices and reductions in local circuit costs resulting from the
elimination of excess circuits in the Bridge network, reductions in connections
with Reuters and Moneyline and unit price reductions from vendors. These costs
were also reduced by $2.6 million as a result of sales tax refunds received in
the quarter. Cost reductions in data communications costs were partially offset
by additional employees needed in operations to assume services previously
provided by Reuters and Moneyline and transitional costs associated with taking
over certain services from Reuters. Total operational employees increased by 43%
to 348 at September 30, 2002 versus 243 at September 30, 2001. Data
communications costs are not expected to decline further in the fourth quarter.
Sales and Marketing
Sales and marketing expenses consist of personnel and related sales commission
costs, advertising and direct marketing, and travel. Sales and marketing
expenses were $8.9 million for the three-months ended September 30, 2002, up 19%
or $1.4 million as compared to the third quarter of 2001. This change is
principally attributed to an increase in sales and marketing employee costs in
the third quarter of 2002. Sales and marketing employees increased 13% to 235 at
September 30, 2002 compared to 209 at September 30, 2001. The Company expects
personnel, advertising and marketing expenses to increase through the end of
2002 to accelerate the growth of our revenues.
General and Administrative
General and administrative expenses consist primarily of compensation and
occupancy costs for executive, financial, legal, tax and support personnel,
travel, and bad debt costs. General and administrative expenses amounted to $7.8
million for the three-months ended September 30, 2002 and $12.1 million for the
three-months ended September 30, 2001, a decrease of $4.3 million or 36%. This
decrease resulted primarily from reductions in bad debt expense of $5.0 million,
$4.7 million of which was associated with receivables from Bridge Canada, in
addition to savings in outside services and property taxes of $0.9 million.
These expense decreases were partially offset by increases in rent and related
office expenses of $1.5 million. General and administrative headcount has
remained flat year over year.
Non-cash Equity-based Compensation
Non-cash equity-based compensation expense was $2.8 million for the three-months
ended September 30, 2002, a decrease of $0.5 million from the three-months ended
September 30, 2001. These expenses represent the amortization charge to earnings
for the difference between the imputed fair market value of our common stock and
the exercise price for options granted to employees and non-employee members of
our Board of Directors on various dates in early 2000 and late 1999, as well as
options granted to employees on March 6, 2002.
Depreciation and Amortization
Depreciation and amortization expense was $13.2 million for the three-months
ended September 30, 2002, a decrease of $8.5 million from the three-months ended
September 30, 2001. This change is a result of a decrease in amortization
expense of $2.8 related to goodwill fully amortized and certain network assets
being fully depreciated in 2002.
Interest
Interest income amounted to $0.1 million in the quarter ended September 30,
2002, which is comparable to interest earned in the three-months ended September
30, 2001. The average monthly cash balance for the three months ended September
30, 2002 was $32.2 million compared to $4.3 million for the same period of 2001.
The increase in cash balances was offset by a sharp decline in interest rates in
2002. Interest expense for the quarter-ended September 30, 2002 amounted to $2.1
million, a decrease of $3.9 million from the comparable period in 2001. The
decrease in interest expense is largely due to financing and debt restructuring
that occurred in March 2002 which eliminated approximately $171.7 million in
debt from the financial statements.
21
Net Loss
The net loss for the three months ended September 30, 2002 was $15.8 million, or
$0.17 basic and diluted loss per share, a decrease of $65.6 million from the net
loss for the three-months ended September 30, 2001 of $81.4 million, or $ 0.89
per share. The primary reasons for the decrease in net loss are:
o Decrease in asset impairment charges of $31.5 million
o Decrease in data communications costs of $20.0 million.
o Decrease in depreciation and amortization expenses of $8.5 million.
o Decrease in general and administrative expense of $4.3 million
o Decrease in interest expense of $3.9 million
o Offset by a decrease in revenues of $1.7 million
NINE MONTHS ENDED SEPTEMBER 30, 2002 AS COMPARED TO THE NINE MONTHS ENDED
SEPTEMBER 30, 2001
Summary
The Company's revenues increased 2% year to date as a doubling of revenues from
our managed service products was partially offset by reductions in internet
access and services provided to Reuters and Moneyline Telerate from the level of
service provided to Bridge in the prior year period. Gross margin increased by
approximately $67.3 million as the $4.2 million increase in our revenues was
combined with a $63.0 million reduction in data communications costs due to
reductions in capacity, unit costs and accruals for such costs.
This gross margin improvement, combined with a $6.6 million decrease in bad debt
expense, led to a $73.4 million improvement in Adjusted EBITDA. Net loss
improved by $257.7 million, resulting in net loss of $3.4 million, due to the
improvement in Adjusted EBITDA, an extraordinary gain of $58.3 million resulting
from the recapitalization in March 2002, a $23.3 million reduction in
depreciation and amortization, a $10.4 million reduction in net interest expense
and a $93.4 million decrease in asset impairment and restructuring charges in
2002.
Revenues
NINE MONTHS ENDED
SEPTEMBER 30,
(IN MILLIONS)
--------------------------
2001 2002
-------- ---------
Bridge $ 129.5 $ --
Reuters -- 73.3
Moneyline Telerate -- 49.5
Managed IP 12.5 25.8
-------- --------
Total Managed IP 142.0 148.6
Managed Hosting 7.5 14.5
Internet Access 23.7 13.8
Other 2.6 3.1
-------- --------
Total Other 33.8 31.4
-------- --------
Total Revenue $ 175.8 $ 180.0
======== ========
Revenue was $180.0 million for the nine-months ended September 30, 2002, an
increase of $4.2 million or 2%, from $175.8 million for the nine-months ended
September 30, 2001. Managed IP revenues increased 5% to $148.6 million compared
to $142.0 million in the same period in 2001. Managed IP revenues provided to
Reuters and Moneyline decreased 5% to $122.8 million, versus $129.5 million of
services provided to Bridge in the same period of 2001. The decline resulted
from the elimination of excess circuits by Bridge prior to the sale of its
assets, the termination of service locations by Reuters and Moneyline in
22
connection with their integration of the Bridge acquisition, workforce
reductions implemented by some of their customers and reduced pricing for some
services. The effect of these factors is expected to result in a decline in
Reuters and Moneyline revenues for the fourth quarter. Managed IP services
provided to other customers increased 106% to $25.8 million in the nine months
ended September 30, 2002 as we added 623 new managed IP customers. Managed
Hosting revenue was $14.5 million, a $7.0 million or 93% increase over the nine
months ended September 30, 2001. The increase in Managed Hosting revenue is
attributable to an increase in colocation charges billed to Reuters and
Moneyline over previous billings to Bridge. Other gains in our managed hosting
services were offset by turnover of over half our 2001 customer base as a result
of bad debts. Internet access revenues decreased 42% to $13.8 million in the
nine months ended September 30, 2002, compared to $23.7 million for the
comparable period in 2001. The decrease in Internet access revenue was due to
the economic downturn affecting the Internet sector which resulted in the loss
of customers, pricing pressure in the Internet access business and the Company's
continued initiatives designed to encourage customers to purchase access
services as part of their managed network service. Other revenues, consisting of
installation and equipment sales, increased from $2.6 million in 2001 to $3.1
million for the comparable period in 2002 as a result of the acceleration of
$1.4 million of installation fees, previously deferred under SAB 101, associated
with the now terminated Bridge contract.
Data Communications and Operations
Data communications and operations expenses consist primarily of leased long
distance and local circuit costs, internet connectivity costs, leased hosting
and colocation space, as well as related operating expenses such as repairs and
maintenance associated with network operations, operating leases for network
equipment, customer support and field service, and engineering personnel costs.
Data communications and operations expenses were $126.3 million for the nine
months ended September 30, 2002, a decrease of $63.0 million from $189.3 million
for the nine months ended September 30, 2001. The 33% decline in data
communications costs is a result of significant unit price reductions for
long-haul capacity, reductions in internet connectivity capacity and unit
prices, reductions in local circuit costs resulting from the elimination of
excess circuits in the Bridge network, reductions in connections with Reuters
and Moneyline and unit price reductions from vendors. These costs were also
reduced by $4.7 million as a result of reductions in estimated accruals for such
costs which we believe are no longer required and $2.6 million as a result of
sales tax refunds received in the third quarter. Cost reductions in data
communications costs were partially offset by additional employees needed in
operations to assume services previously provided by Reuters and Moneyline,
transitional costs associated with taking over certain services from Reuters and
$1.4 million in costs related to the non-recurring service charge to Reuters and
$1.4 million in costs associated with the accelerated installation revenues
discussed above. Data communications costs are not expected to decline further
in the fourth quarter.
Sales and Marketing
Sales and marketing expenses consist of personnel and related sales commission
costs, advertising and direct marketing, and travel. Sales and marketing
expenses increased $0.7 million to $27.5 million for the nine-months ended
September 30, 2002, as compared to the nine months ended September 30, 2001.
This change is principally attributed to an increase in sales and marketing
employee costs in the third quarter of 2002. Sales and marketing employees
increased 13% to 235 at September 30, 2002 compared to 209 at September 30,
2001. The Company expects personnel, advertising and marketing expenses to
increase through the end of 2002 to accelerate the growth of our revenues.
General and Administrative
General and administrative expenses consist primarily of compensation and
occupancy costs for executive, financial, legal, tax and support personnel,
travel, and bad debt costs. General and administrative expenses amounted to
$22.4 million for the nine-months ended September 30, 2002 and $29.1 million for
the nine-months ended September 30, 2001, a decrease of $6.7 million or 23%.
This decrease resulted primarily from reductions in bad debt expense of $6.6
million, $4.7 million of which was associated with receivables from Bridge
Canada, in addition to savings in outside services and property taxes of $3.1
million. These expense decreases were partially offset by increases in rent and
related office expenses of $2.7 million. General and administrative headcount
has remained flat year over year.
23
Non-cash Equity-based Compensation
Non-cash equity-based compensation expense was $ 8.2 million for the nine-months
ended September 30, 2002, a decrease of $ 1.7 million from the nine-months ended
September 30, 2001. These expenses represent the amortization charge to earnings
for the difference between the imputed fair market value of our common stock and
the exercise price for options granted to employees and non-employee members of
our Board of Directors on various dates in early 2000 and late 1999, as well as
options granted to employees on March 6, 2002.
Depreciation and Amortization
Depreciation and amortization expense was $44.6 million for the nine-months
ended September 30, 2002, a decrease of $23.3 million from the nine-months ended
September 30, 2001. This change is a result of a decrease in amortization
expense of $8.3 million related to goodwill fully amortized and certain network
assets being fully depreciated in 2002.
Interest
Interest income amounted to $0.3 million in the nine months ended September 30,
2002, a decrease of $ 0.4 million from the comparable period in 2001. The
average monthly cash balance for the nine months ended September 30, 2002 was
$24.1 million compared to $10.8 million for the same period of 2001. The
increase in cash balances was offset by a sharp decline in interest rates in
2002. Interest expense for the nine months-ended September 30, 2002 amounted to
$ 9.3 million, a decrease of $ 10.8 million from the comparable period in 2001.
The decrease in interest expense is largely due to financing and debt
restructuring that occurred in March 2002 which eliminated approximately $171.7
million in debt. Interest paid during the period ended September 30, 2002 was
$2.5 million a reduction of approximately $3.7 million from the same period of
2001.
Net Loss
The net loss for the nine months ended September 30, 2002 was $3.4 million, or
$0.04 basic and diluted loss per share, an improvement of $257.7 million from
the net loss for the nine-months ended September 30, 2001 of $261.1 million, or
$2.84 per share. The primary reasons for the improvement in net loss are:
o Decrease in asset impairment and restructuring charges of $93.4 million
o Increase in gross margin of $67.3 million.
o Increase in extraordinary gain of $58.3 million related to the
extinguishment of debt.
o Decrease in depreciation and amortization expenses of $23.3 million.
o Decrease in net interest expense of $10.4 million
LIQUIDITY AND CAPITAL RESOURCES
At September 30, 2002, our cash balances were $44.1 million. Based upon our
current plans, these cash balances are sufficient to fund our operating losses,
working capital needs and capital expenditure requirements until the Company
reaches operating cash flow positive, which is expected to occur in 2003.
Cash used in operating activities decreased to $49.8 million for the nine months
ended September 30, 2002 from $57.9 million in 2001. This improvement is due to
an $87 million improvement in cash required by operations offset, in part, by
the payment of accounts payable, which had been delayed in 2001 pending the
issuance of the Preferred shares in 2002, as well as the deferral of $10.5
million of receivables by Moneyline. In October 2002, Moneyline paid the $10.5
million deferred balance.
24
Net cash used in investing activities for the nine months ended September 30,
2002 was approximately $4.1 million, a decrease from the $22.4 million used in
the nine months ended September 30, 2001. This decrease results from a reduction
in capital expenditures related to the completion of the Company's network and
data center builds in the prior year.
Net cash provided by financing activities increased to $85.4 million from $52.6
million in the prior year period as the Company completed its recapitalization
efforts in 2002. As more fully described below, the Company issued approximately
$203.1 million of Preferred in exchange for a combination of cash, accounts
payable and debt. The proceeds from the preferred were used to settle all
outstanding obligations to Bridge, to make scheduled payments on capital lease
obligations and to support the Company's working capital requirements, including
payments of past due balances with certain of our vendors.
In September 2002, the Company raised $22.6 million from the issuance of
Preferred to Welsh Carson. As of September 30, 2002, Welsh Carson owns
approximately 56% of the Company's voting stock.
In June 2002, Preferred totaling $20.0 million was issued to Constellation
Ventures in exchange for cash. The Company also issued five-year performance
warrants to Constellation Ventures to acquire shares of common stock at $0.75
per share which it will earn the right to exercise if it meets certain
performance criteria related to aiding the Company in winning new business. As
of September 30, 2002, this performance criteria has not been met. In addition,
the Company issued $2.4 million of Preferred in satisfaction of certain vendor
obligations.
In May 2002, SAVVIS entered into a 15 year, office facility lease agreement with
Duke Realty Limited Partnership ("Duke") with total minimum rent payments of
approximately $39.9 million. The Company also entered into an agreement with
Duke in which SAVVIS may be required to make payments of up to $2 million plus
interest accruing at 4.88% from the date of the agreement if certain events do
not occur prior to June 2004. These payments, if required, would be made from
July 2005 to June 2007.
On March 18, 2002, the Company issued approximately $158.1 million of Preferred
to (i) Welsh Carson in exchange for approximately $57.5 million in cash,
approximately $22.2 million in principal and accrued interest in respect to our
10% convertible senior secured notes and approximately $90.9 million in notes,
and accrued interest, issued pursuant to the credit agreement with Nortel and
(ii) Reuters upon conversion of approximately $40.9 million in principal and
accrued interest in respect to the 12% convertible senior secured notes. The
terms of the Preferred are more fully described in Note 3 of the condensed
consolidated financial statements.
In addition, the Company reached agreements with GECC, Nortel, Bridge and
certain other vendors as follows:
Approximately $56.5 million of capital lease obligations were amended
with GECC. The amended lease provides for repayment at the end of the
fifth year, 12% interest payable in kind, for the first three years and
an excess cash sweep provision.
Release by Nortel from all obligations to purchase optical equipment
under the Global Purchase Agreement.
The Company entered into an agreement with Bridge wherein the Company
agreed to pay Bridge $11.9 million in satisfaction of $27.5 million
representing all amounts due to Bridge. The Company also agreed not to
pursue the collection of $18.7 million of pre-petition receivables owed
to it by Bridge and to assign to Bridge any claims it had against other
Bridge entities with the exception of Bridge Canada where the Company
retained its right to receive a pro rata distribution of assets from
the liquidation of Bridge Canada.
A release by a certain vendor from all obligations under the agreements
in exchange for $2.5 million paid in installments over 18 months and
other commercial arrangements.
In connection with these transactions, the Company also issued
five-year warrants to purchase 16.0 million shares of its common stock
at $0.75 per share.
25
The balance of the proceeds of $100.1 million from the issuance of the Preferred
will be used for working capital and general corporate purposes.
In August 2000, the Company entered into a 20-year agreement with Kiel Center
Partners, L.P. ("KCP") pursuant to which it acquired the naming rights to an
arena in St. Louis, MO. Upon execution of the agreement, total consideration for
these rights amounted to approximately $72 million, including 750,000 shares of
its common stock issued by the Company to KCP. The related expense will be
recognized over the term of the agreement. The parties entered into an amendment
of the agreement, dated August 21, 2001, providing for the payment of $1.25
million on each December 31, from 2002 through 2005. These payments will be
deducted from payments otherwise owed under the agreement in 2007 through 2010.
As of September 30, 2002, the Company has approximately $3.8 million of deferred
charges resulting from the issuance of common stock under this agreement.
We have arrangements with various suppliers of communications services that
require us to maintain minimum spending levels some of which increase over time.
Our aggregate minimum spending level is approximately $14.2 million, $64.6
million, $58.2 million and $18.3 million in years 2002 to 2005, respectively.
Should SAVVIS not meet the minimum spending level in any given year, decreasing
termination liabilities representing a percentage of the remaining contracted
amount may immediately become due and payable. Furthermore, certain of these
termination liabilities are subject to reduction should SAVVIS experience the
loss of a major customer or suffer a loss of revenues from a downturn in general
economic activity. SAVVIS expects to meet its spending minimums in the current
year of communications services agreements. Before considering the effects of
any reductions for the business downturn provisions, if SAVVIS were to terminate
all of these agreements as of September 30, 2002, the maximum termination
liability would amount to approximately $111 million.
PAYMENTS DUE BY
LESS THAN 2 - 3 4 - 5 AFTER 5
TOTAL 1 YEAR YEARS YEARS YEARS
----- ------ ----- ----- -----
Capital lease obligations (2) $102,932 $ 3,667 $ 6,468 $ 92,797 $ --
Operating leases 91,963 9,777 18,287 15,471 48,428
Unconditional purchase obligations 146,990 13,998 117,992 15,000 --
Notes payable (1) 25,018 -- -- 25,018 --
-------- -------- -------- -------- --------
Total contractual cash obligations $366,903 $ 27,442 $142,747 $148,286 $ 48,428
======== ======== ======== ======== ========
(1) As disclosed in Note 8 of the condensed consolidated financial statements,
subsequent to September 30, 2002, the Company entered into a settlement
agreement with Winstar to settle all outstanding debt and payables for $1.5
million, eliminating the notes payable payments disclosed above.
(2) Includes interest payments of $38.6 million over the life of the capital
lease obligations.
We may meet any additional funding needs through a combination of equity
investments, debt financings, renegotiation of repayment terms on existing debt
and sales of assets and services. If these additional financings were required,
there can be no assurance that we would be successful in completing any of these
financings or that if we were, the terms of such financings would be favorable
to us.
RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board (("FASB") issued
Statement of Financial Accounting Stands ("SFAS") No. 142, "Goodwill and Other
Intangible Assets." The provisions of this statement are required to be applied
starting with fiscal years beginning after December 15, 2001. This statement is
required to be applied at the
26
beginning of an entity's fiscal year and to be applied to all goodwill and other
intangible assets recognized in its financial statements at that date. SFAS No.
142 addresses how intangible assets should be accounted for in financial
statements upon their acquisition. This statement also addresses how goodwill
and other intangible assets should be accounted for after they have been
initially recognized in the financial statements. The statement requires that
goodwill and certain other intangibles with an indefinite life, as defined in
the standard, no longer be amortized. However, goodwill and intangibles would
have to be assessed each year to determine whether an impairment loss has
occurred. Any impairments recognized upon adoption would be recorded as a change
in accounting principle. Future impairments would be recorded in income from
continuing operations. The statement provides specific guidance for testing
goodwill for impairment. As a result of the adoption of SFAS No. 142, on January
1, 2002 the Company recognized a $2.8 million charge.
In August 2001, FASB issued SFAS No. 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets", which requires that one accounting model be used
for the long-lived assets to be disposed of by sale, whether previously held and
used or newly acquired. It also broadens the presentation of discontinued
operations to include more disposal transactions. The adoption of SFAS No. 144
on January 1, 2002 did not have a material impact on our financial position or
results of operations.
In April 2002, FASB issued SFAS No. 145, "Rescission of FASB Statements No. 4,
44 and 64, Amendment of FASB Statement No. 13 and Technical Corrections".
Effective January 1, 2003, SFAS No. 145 requires gains and losses from the
extinguishment or repurchase of debt to be classified as extraordinary items
only if they meet the criteria for such classification in Accounting Principles
Board 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" (APB No. 30). Until January 1,
2003, gains and losses from the extinguishment or repurchase of debt may be
classified as extraordinary items, as SAVVIS has done. After the adoption of
SFAS No. 145, any gain or loss resulting from the extinguishment or repurchase
of debt classified as an extraordinary item in a prior period that does not meet
this criteria for such classification under APB No. 30 must be reclassified. The
Company will adopt SFAS No. 145 in the fourth quarter of 2002. After adoption,
the gain on retirement of debt of $58.3 million recognized in March 2002 will no
longer be classified as an extraordinary item.
In July 2002, the FASB issued SFAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." SFAS No. 146 addresses financial accounting
and reporting for costs associated with exit or disposal activities and
supercedes Emerging Issues Task Force Issue No. 94-3, "Liability Recognition for
Certain Employee Termination Benefits and Other Costs to Exit an Activity
(including Certain Costs Incurred in a Restructuring)." SFAS No. 146 requires
the recognition of costs associated with exit or disposal activities when they
are incurred rather than at the date of a commitment to an exit or disposal plan
and also establishes fair value as the objective for initial measurement of the
costs. SFAS No. 146 will be adopted by the Company for exit or disposal
activities that are initiated after December 31, 2002.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our primary market risk exposures relate to changes in interest rates. As the
Company continues to expand our business internationally, we are also exposed to
changes in foreign currency exchange rates.
We have financial instruments that are sensitive to changes in interest rates
and a number of network equipment financing arrangements. These instruments were
entered into for other than trading purposes, are denominated in U.S. Dollars
and bear interest at a fixed rate. Because the interest rate on these
instruments is fixed, changes in interest rates will not directly impact our
cash flows. As discussed in Note 3, in March 2002 a portion of the Company's
borrowings were extinguished for less than their carrying value.
Changes in foreign exchange rates did not materially impact our results of
operations. For the three months ended September 30, 2002, 36% of our service
revenue was derived from operations outside the United States, 1% of total
revenue was denominated in currencies other than U.S. Dollars. Approximately 30%
of our total data communications and operations costs were incurred outside the
United States, 21% of total data communications and operations costs were
incurred in a currency other than U.S. Dollars. Approximately 6% of our total
sales, marketing, general and administrative costs were incurred outside the
27
United States, 6% of total sales, marketing, general and administrative costs
were incurred in a currency other than U.S. Dollars. We expect these percentages
to remain relatively constant in the periods ahead. In the future, we may engage
in hedging transactions to mitigate foreign exchange risk.
ITEM 4. CONTROLS AND PROCEDURES
Within the 90 days prior to the date of this report, the Company carried out an
evaluation, under the supervision and with the participation of the Company's
management, including the Company's Chief Executive Officer and Chief Financial
Officer, of the effectiveness of the design and operation of the Company's
"disclosure controls and procedures" (as defined in Rule 13a-14 of the
Securities Exchange Act of 1934, as amended). Based upon that evaluation, the
Chief Executive Officer and Chief Financial Officer concluded that the Company's
disclosure controls and procedures are effective in timely alerting them to
material information relating to the company (including its consolidated
subsidiaries) required to be included in the Company's periodic SEC filings.
There have been no significant changes in the Company's internal controls or in
other factors that could significantly affect the internal controls subsequent
to the date the Company completed its evaluation.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Winstar
In June 2000, SAVVIS entered into a series of agreements to acquire
approximately $30 million of telecommunications equipment and related services
with Winstar Wireless, Inc. ("Winstar"), the purchase of which was financed by
Winstar. In addition, Winstar agreed to purchase from SAVVIS certain Internet
services. On September 25, 2001, Winstar filed suit in the US Bankruptcy Court
for Delaware seeking a total of approximately $38 million from the Company for
the repayment of a note payable, professional services liabilities and prepaid
Internet services. On October 23, 2002, the Company entered into a settlement
agreement with Winstar under which the Company agreed to pay Winstar $1.5
million in satisfaction of all amounts owed by us to Winstar. Additionally,
SAVVIS and Winstar have agreed to release each other from any and all claims
against the other. This settlement, which was approved by the US Bankruptcy
Court on November 5, 2002 will result in a gain of $39.6 million in the fourth
quarter.
Cable & Wireless
On May 2, 2002, Cable & Wireless, USA, Inc. filed suit against the Company in
the Circuit Court for Fairfax County, Virginia, for $5.7 million, alleging that
SAVVIS breached a series of agreements with Cable & Wireless for the provision
of Internet connections at locations throughout the United States. In August
2002, the Company paid Cable & Wireless $3 million in satisfaction and dismissal
of all claims under this suit.
On August 23, 2002, Highland Capital Management, L.P., on behalf of itself and
various equity funds under its management, each a former debt holder of Bridge
Information Systems, Inc., filed suit against the Company and entities and
individuals affiliated with Welsh, Carson, Anderson & Stowe, in the District
Court of Dallas County, Texas seeking an unspecified amount of damages in
connection with certain payments made by Bridge to the Company prior to Bridge's
bankruptcy and certain other matters. The Company has filed a motion to transfer
the case to the U.S. Bankruptcy Court in St. Louis, Missouri. The Company
believes the plaintiffs' claims are without merit and intends to vigorously
defend the suit.
Including the foregoing matters, the Company is subject to various legal
proceedings and actions arising in the normal course of its business. While the
results of such proceedings and actions cannot be predicted, management
believes, based on facts known to management today, that the ultimate outcome of
such proceedings and actions will not have a material adverse effect on the
Company's financial position or results of operations.
28
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
In September 2002, the Company raised $22.6 million from the issuance of
Preferred to Welsh Carson. As of September 30, 2002, Welsh Carson owns
approximately 56% of the Company's voting stock. In connection with these
issuances, the Company relied on the exemption from registration under the
Securities Act of 1933 provided in Section 4(2) of the Securities Act and
Regulation D thereunder.
In June 2002, the Company issued Preferred totaling $20.0 million to
Constellation Ventures in exchange for cash. The Company also agreed to issue
five-year warrants to Constellation Ventures to acquire shares of common stock
at $0.75 per share which it will earn the right to exercise if it aids the
Company in winning new business. In addition, the Company issued $2.4 million of
preferred stock in satisfaction of certain vendor obligations.
In March 2002, the Company issued $158.1 million of Preferred. Preferred
totaling $117.2 million was issued to entities and individuals affiliated with
Welsh Carson in exchange for $57.5 million in cash, satisfaction of all of the
outstanding principal and accrued interest on the Company's 10% convertible
senior notes totaling $22.2 million, and satisfaction of all of the principal
and interest owed in respect of notes issued pursuant to the Credit Agreement
with Nortel totaling $90.9 million. Preferred totaling $40.9 million was also
issued to Reuters Holdings Switzerland S.A. upon conversion of all of the
outstanding principal and accrued interest on the Company's 12% convertible
senior notes totaling $40.9 million. The Company incurred $2.9 million in
offering costs related to the issuance of the Preferred which is recorded net of
proceeds. The proceeds from the issuance of the Preferred will be used for
working capital and general corporate purposes.
The Preferred accrues dividends at the rate of 11.5% per annum on the
outstanding accreted value thereof (initially $1,000 per share). Dividends may
not be paid in cash until after the eighth anniversary of the original issuance
date. Accrued but unpaid dividends will be added to the outstanding accreted
value quarterly. The Preferred is convertible into such number of our common
stock equal to the outstanding accreted value divided by the conversion price.
The Preferred is entitled to vote on all matters (other than any voluntary
repurchase of the Preferred) submitted to the common stockholders on an
as-if-converted basis, and represented approximately 75% of the voting stock of
the Company as of September 30, 2002. The conversion price is $0.75.
Between January 1, 2002 and September 30, 2002, we granted options to purchase
33,465,571 shares of our common stock at exercises prices from $0.31 to $0.75.
All of these options were granted pursuant to our 1999 Stock Option Plan as
amended. Of this total, 195,000 shares of stock options were granted to three
independent members of our Board of Directors. These issuances were effected in
transactions not subject to, or exempt from, the registration requirements of
the Securities Act of 1933, and these transactions were effected without the use
of an underwriter.
During the quarter ended September 30, 2002, proceeds of approximately $1,000
were generated from the exercise of options for 1,522 shares of our common
stock. There were no significant expenses, underwriting discounts or commissions
attributable to these proceeds. We used the proceeds for general working capital
expenses incurred in the ordinary course of business. These options had been
granted under our 1999 Stock Option Plan. We issued the shares in reliance on
the exemption from registration provided by Rule 701 under the Securities Act of
1933.
29
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits. The following exhibits are either provided with this Form 10-Q or
are incorporated herein by reference.
EXHIBIT INDEX
Number Exhibit Description
- ------ -------------------
3.1 Amended and Restated Certificate of Incorporation of the Registrant
(incorporated by reference to the same numbered exhibit to SAVVIS'
Registration Statement on Form S-1, as amended (File No. 333-90881))
3.2 Certificate of Amendment to Amended and Restated Certificate of
Incorporation of the Registrant (incorporated by reference to the
same numbered exhibit to SAVVIS' Registration Statement on Form S-1,
as amended (File No. 333-90881))
3.3 Certificate of Amendment to Amended and Restated Certificate of
Incorporation of the Registrant (incorporated by reference to the
same numbered exhibit to SAVVIS' Quarterly Report on Form 10-Q, dated
August 16, 2002)
3.4 Amended and Restated Bylaws of the Registrant (incorporated by
reference to Exhibit 3.3 to SAVVIS' Registration Statement on Form
S-1, as amended (File No. 333-90881))
4.1 Form of Common Stock Certificate (incorporated by reference to the
same numbered exhibit to SAVVIS' Registration Statement on Form S-1,
as amended (File No. 333-90881))
4.2 Certificate of Designations relating to the Registrant's Series A
Convertible Preferred Stock (incorporated by reference to the same
numbered exhibit to SAVVIS' Current Report on Form 8-K dated March
27, 2002)
4.3 Warrant Agreement, dated as of March 7, 2002, between the Registrant
and General Electric Capital Corporation (incorporated by reference
to the same numbered exhibit to SAVVIS' Quarterly Report on Form
10-Q, dated May 15, 2002)
4.4 Warrant Agreement, dated as of March 15, 2002, between the Registrant
and Nortel Networks Inc. (incorporated by reference to the same
numbered exhibit to SAVVIS' Quarterly Report on Form 10-Q, dated May
15, 2002)
4.5 Warrant, dated March 18, 2002, to purchase the Registrant's common
stock issued to General Electric Capital Corporation (incorporated by
reference to the same numbered exhibit to SAVVIS' Quarterly Report on
Form 10-Q, dated May 15, 2002)
4.6 Warrant, dated March 18, 2002, to purchase the Registrant's common
stock issued to Nortel Networks Inc. (incorporated by reference to
the same numbered exhibit to SAVVIS' Quarterly Report on Form 10-Q,
dated May 15, 2002)
4.7+ Warrant, dated June 28, 2002, to purchase the Registrant's common
stock issued to Constellation Venture Capital II, L.P. (incorporated
by reference to the same numbered exhibit to SAVVIS' Current Report
on Form 8-K, dated July 8, 2002)
4.8+ Warrant, dated June 28, 2002, to purchase the Registrant's common
stock issued to Constellation Venture Capital Offshore II, L.P.
(incorporated by reference to the same numbered exhibit to SAVVIS'
Current Report on Form 8-K, dated July 8, 2002)
4.9+ Warrant, dated June 28, 2002, to purchase the Registrant's common
stock issued to The BSC Employee Fund IV, L.P. (incorporated by
reference to the same numbered exhibit to SAVVIS' Current Report on
Form 8-K, dated July 8, 2002)
4.10+ Warrant, dated, June 28, 2002, to purchase the Registrant's common
stock issued to CVC II Partners, L.L.C. (incorporated by reference to
the same numbered exhibit to SAVVIS' Current Report on Form 8-K,
dated July 8, 2002)
10.1++ Master Services Agreement, dated October 1, 2002, by and between
Moneyline Telerate and Moneyline Telerate International and SAVVIS
Communications Corporation, a Missouri corporation.
11.1 Calculation of Basic and Diluted per share and weighted average
shares used in EPS calculation
99.1 Certification of Chief Executive Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
30
99.2 Certification of Chief Financial Officer pursuant to 18 U.S.C.
Section 1350, as adopted pursuant to Section 906 of the
Sarbanes-Oxley Act of 2002.
- ----------------
+ Confidential treatment has been granted for this exhibit. The copy filed as an
exhibit omits the information subject to the request for confidential treatment.
++ A request for confidential treatment has been submitted with respect to this
exhibit. The copy filed as an exhibit omits the information subject to the
request for confidential treatment.
(b) Reports on Form 8-K. On August 14, 2002 and August 16, 2002, we filed
Current Reports on Form 8-K with respect to Item 9, Regulation FD Disclosure,
and on September 19, 2002, we filed a Current Report on Form 8-K with respect to
Item 5, Other Events.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SAVVIS Communications Corporation
Date November 11, 2002 By: /s/ Robert McCormick
--------------------------------
Robert McCormick
Chief Executive Officer
Date November 11, 2002 By: /s/ David J. Frear
--------------------------------
David J. Frear
EVP & Chief Financial Officer
31
CERTIFICATIONS
I, Robert A. McCormick, certify that:
1. I have reviewed this quarterly report on Form 10-Q of SAVVIS
Communications Corporation;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the registrant's auditors and
the audit committee of registrant's board of directors (or persons
performing the equivalent function):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes
in internal controls or in other factors that could significantly
affect internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
Date: November 11, 2002
By: /s/ Robert McCormick
--------------------
Robert A. McCormick
Chairman and Chief Executive Officer
32
I, David J. Frear, certify that:
1. I have reviewed this quarterly report on Form 10-Q of SAVVIS
Communications Corporation;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant
and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed,
based on our most recent evaluation, to the registrant's auditors and
the audit committee of registrant's board of directors (or persons
performing the equivalent function):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officers and I have indicated in
this quarterly report whether or not there were significant changes
in internal controls or in other factors that could significantly
affect internal controls subsequent to the date of our most recent
evaluation, including any corrective actions with regard to
significant deficiencies and material weaknesses.
Date: November 11, 2002
By: /s/ David J. Frear
-----------------------
David J. Frear
Executive Vice President and
Chief Financial Officer
33