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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO
SECTIONS 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED JULY 31, 2001, OR
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
Commission File Number: 0-27898
IDT CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 22-3415036
(State or other jurisdiction (I.R.S. Employer
of incorporation or Identification Number)
organization)
520 Broad Street
Newark, New Jersey 07102
(Address of principal executive offices, including
zip code)
(973) 438-1000
(Registrant's telephone number, including area code)
Securities registered pursuant to
Section 12(b) of the Act: None
Securities registered pursuant to
Section 12(g) of the Act: Common Stock, par value $.01
per share
Class B Common Stock, par value
$.01 per share (Title of class)
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 if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The aggregate market value of the voting stock held by non-affiliates of
the Registrant, based on the closing price on October 26, 2001 of the Common
Stock of $11.50 and of the Class B Common Stock of $9.35 was approximately
$240,978,400.80 million and $264,078,996.50 million, respectively, as reported
on the New York Stock Exchange. Shares of Common Stock held by each officer and
director and by each person who owns 5% or more of the outstanding Common Stock
(assuming conversion of the Registrant's Class A Common Stock) have been
excluded from this computation, in that such persons may be deemed to be
affiliates of the Registrant. This determination of affiliate status is not
necessarily a conclusive determination for any other purpose.
As of October 26, 2001, the Registrant had outstanding 23,212,753 shares of
Common Stock, $.01 par value, 9,816,988 shares of Class A Common Stock, $.01 par
value, and 47,263,289 shares of Class B Common Stock, $.01 par value. As of
October 26, 2001, 5,390,163 shares of Common Stock and 4,019,063 shares of
Class B Common Stock were held by IDT Telecom, Inc.
DOCUMENTS INCORPORATED BY REFERENCE
Certain information in the Registrant's definitive Proxy Statement for its
2001 Annual Meeting of Stockholders, which will be filed with the Securities and
Exchange Commission pursuant to Regulation 14A, not later than 120 days after
July 31, 2001, is incorporated by reference in Part III (Items 10, 11, 12 and
13) of this Form 10-K.
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INDEX
IDT CORPORATION
ANNUAL REPORT ON FORM 10-K
Page No.
PART I
Item 1. Business.............................................................1
Item 2. Properties..........................................................29
Item 3. Legal Proceedings...................................................30
Item 4. Submission Of Matters To A Vote Of Security Holders.................31
PART II
Item 5. Market For Registrant's Common Equity And Related
Stockholder Matters.................................................32
Item 6. Selected Financial Data.............................................33
Item 7. Management's Discussion And Analysis Of Financial Condition And
Results Of Operations...............................................34
Item 7A. Quantitative And Qualitative Disclosures About Market Risks.........47
Item 8. Financial Statements And Supplementary Data.........................47
Item 9. Changes In And Disagreements With Accountants On Accounting And
Financial Disclosure................................................48
PART III
Item 10. Directors And Executive Officers Of The Registrant..................49
Item 11. Executive Compensation..............................................49
Item 12. Security Ownership Of Certain Beneficial Owners And Management......49
Item 13. Certain Relationships And Related Transactions......................49
PART IV
Item 14. Exhibits, Financial Statement Schedules, And Reports On Form 8-K....50
SIGNATURES....................................................................53
Index to Consolidated Financial Statements...................................F-1
PART I
Item 1. BUSINESS.
Summary
As used in this Annual Report, unless the context otherwise requires, the
terms "the Company," "IDT," "We," and "Our" refer to IDT Corporation, a Delaware
corporation, its predecessor, International Discount Telecommunications, Corp.,
a New York corporation ("IDT New York"), and their subsidiaries, collectively.
All information in this Annual Report gives effect to the 1995 reincorporation
of the Company in Delaware. The Company's fiscal year ends on July 31 of each
calendar year. Each reference to a Fiscal Year in this Annual Report refers to
the Fiscal Year ending in the calendar year indicated (e.g., Fiscal 2001 refers
to the Fiscal Year ended July 31, 2001).
This Annual Report on Form 10-K contains forward-looking statements within
the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934, including statements that contain the words
"believes," "anticipates," "expects," "plans," "intends" and similar words and
phrases. Such forward-looking statements include, among other things, the
Company's plans to implement its growth strategy, improve its financial
performance, expand its infrastructure, develop new products and services,
expand its sales force, expand its customer base and enter international
markets. Such forward-looking statements also include the Company's expectations
concerning factors affecting the markets for its products, such as changes in
the U.S. and the international regulatory environment and the demand for
long-distance telecommunications. Actual results could differ from those
projected in any forward-looking statements.
Forward-looking statements are based on management's current views and
assumptions and involve known and unknown risks that could cause actual results,
performance or events to differ materially from those expressed or implied in
those statements. These risks include, but are not limited to, the following
risks:
o each of our business lines is highly sensitive to declining prices;
o competition in our core businesses could substantially reduce our
revenues and our profits;
o our revenues and profits will not increase if we are unable to
continue to expand our telecommunications business;
o our expenses will fluctuate substantially if we expand our network at
a rate that is faster or slower than the growth of our
telecommunications traffic;
o our operations will be impaired if we are unable to obtain the
products and services of the telecommunications companies that we are
dependent upon, or if such products or services are impaired or
disrupted by terrorist attack or natural disaster;
o termination of our carrier agreements with foreign partners or our
inability to enter into carrier agreements in the future could
materially and adversely affect our ability to compete in foreign
countries;
o our revenues and our growth will suffer if our retailers and sales
representatives fail to effectively market and distribute our products
and services;
o rapid technological change and frequent new product introductions in
our markets could render our products and services obsolete;
o our growth may be limited if we cannot effectively manage our
international operations;
o continuing impact on the New York area or overall U.S. economy
stemming from the September 11 terror attacks could have an adverse
effect upon our business;
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o unexpected fluctuations in the relative values of foreign currencies
against the U.S. Dollar could have a materially adverse impact on our
gross margin performance;
o our profitability will be impaired if we experience difficulties in
collecting our receivables;
o we will not be profitable if we do not receive attractive rates from
other carriers for our long distance traffic;
o federal, state and local excise taxes, and international government
regulation may reduce our ability to provide services, or make our
business less profitable and we may become subject to increased costs
of operations due to uncertainty over the amount of payphone
surcharges and Federal Universal Service Fund obligations;
o we may become subject to increased price competition from other
carriers due to federal regulatory changes in determining
international settlement rates;
o European regulation of telecommunications services may not continue to
evolve towards streamlined regulation;
o telecommunications regulations of other countries may restrict our
operations;
o we may be subject to liability for information disseminated over our
Internet network;
o the infringement or duplication of our proprietary technology could
increase our competition and we could incur substantial costs in
defending or pursuing any claims relating to proprietary rights;
o network construction or upgrade delays and system disruptions or
failures could prevent us from providing our services, cause us to
lose customers and adversely affect our business;
o our quarterly operating results are subject to variation, which could
cause us not to meet the expectations of securities analysts, and
should not be relied upon as an accurate indicator of our overall
performance;
o we may infringe on third party intellectual property rights and could
become involved in costly intellectual property litigation;
o if we are unable to attract and retain qualified management and
technical personnel, future quarterly results may be impaired; and
o IDT is controlled by its principal stockholder, which limits the
ability of other stockholders to affect the management of IDT.
The forward-looking statements are made as of the date of this Annual
Report on Form 10-K, and the Company assumes no obligation to update the
forward-looking statements, or to update the reasons why actual results could
differ from those projected in the forward-looking statements. Investors should
consult all of the information set forth herein and the other information set
forth from time to time in the Company's Reports filed with the Securities and
Exchange Commission pursuant to the Securities Exchange Act of 1934, including
the Company's reports on Forms 10-Q and 8-K.
IDT Corporation is a leading facilities-based emerging multinational
carrier that provides a broad range of telecommunications services to retail and
wholesale customers worldwide. Though IDT is already an established player in
the telecommunications field, we continue to grow considerably, generating
revenues of $0.7 billion, $1.1 billion and $1.2 billion in Fiscal 1999, Fiscal
2000 and Fiscal 2001, respectively. During Fiscal 2001, we concluded a
restructuring elevating IDT Corporation to a holding company with operations
conducted through two main subsidiaries: IDT Telecom, Inc. and IDT Ventures,
Inc.
IDT's telecommunications services, conducted by our IDT Telecom, Inc.
subsidiary, consists of retail services, including prepaid and rechargeable
calling cards and domestic long distance services, as well as wholesale carrier
services. IDT delivers its telecommunications services over a high-quality
network consisting of over 150 switches in the U.S. and Europe and owned and
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leased capacity on 14 undersea fiber-optic cables, connecting our U.S.
facilities with our international facilities and with the facilities of our
foreign partners in Europe, Latin America and Asia. We monitor our network 24
hours a day, seven days a week through an automated network operations center.
In addition, we obtain transmission capacity from other carriers. We deliver our
international traffic worldwide pursuant to our agreements with U.S.-based
carriers, 19 of the top 25 global carriers, and more than 20 of the companies
that are primarily responsible for providing telecommunications services in
particular countries (commonly referred to as "Post, Telephone and Telegraphs,"
or "PTTs").
IDT offers retail long distance services to over 300,000 individual and
business customers in the U.S. and worldwide. In addition, as of October 1,
2001, we had approximately 185 wholesale customers located in the U.S. and
Europe. Minutes of use for our telecommunications business have grown from 2.8
billion minutes in Fiscal 1999 to 4.3 billion minutes in Fiscal 2000 to 7.0
billion minutes in Fiscal 2001.
We plan to further expand our global telecommunications network
infrastructure, in order to allow us to route a greater percentage of our
international long distance traffic over owned lines. Routing calls over owned
lines, rather than leased lines, will help us reduce our operating costs, ensure
the quality of our service and expand our customer base. However, we follow a
disciplined, incremental approach to expanding our network, adding new
facilities only when we determine that such investments are justified by traffic
volumes. Under this "smart build" approach, IDT enters new markets by leasing
fiber capacity. As traffic grows, we may install a switch to increase overall
capacity. As traffic increases further, we typically invest in bandwidth to
realize cost savings from routing calls over an owned network. If volume
continues to grow, we may deploy additional switching and/or fiber capacity. IDT
installed and/or upgraded company-owned switches in Newark and Piscataway, New
Jersey and in London, England in Fiscal 2001. We plan to further upgrade
facilities in Newark and Piscataway, New Jersey and in London, England by the
end of Fiscal 2002, and to continue to pursue operating agreements with foreign
carriers in order to terminate traffic directly at favorable rates.
History
The Company was founded in August 1990 and was originally incorporated in
New York as "International Discount Telecommunications Corp." Our company was
renamed IDT Corporation and reincorporated in Delaware in December 1995. Our
main offices are located at 520 Broad Street, Newark, New Jersey 07102; our
headquarters telephone number is (973) 438-1000. IDT's Internet address is
www.idt.net.
IDT entered the telecommunications business by introducing its
international call reorigination service in 1990 to capitalize on the
opportunity created by the large spread between U.S. and foreign-originated
international long distance telephone rates. Long distance calling costs in
certain highly regulated international markets are often prohibitive. Our call
reorigination service enables customers to access a U.S. dial tone from overseas
and place international calls that are reoriginated in the U.S. The customer
benefits from more favorable U.S. outbound long distance rates and superior
transmission quality. We used the calling volume and expertise derived from our
call reorigination business to enter the domestic long distance business in late
1993 by reselling long distance services of other carriers to our domestic
customers. As a value-added service for our domestic long distance customers, we
began offering Internet access in early 1994, eventually offering dial-up and
dedicated Internet access to individuals and businesses as stand-alone services.
In 1995, we began reselling to other long distance carriers access to the
favorable telephone rates and special tariffs we receive as a result of the
calling volume generated by our call reorigination customers. We began marketing
prepaid calling cards in January 1997.
IDT entered the Internet telephony market in August 1996 with its
introduction of PC2Phone, the first commercial telephone service to connect
calls between personal computers and telephones over the Internet. We expanded
our Internet telephony offerings in September 1997 with the introduction of
Net2Phone Direct, a service that enables users to make international and
domestic calls over the Internet using standard telephones. In April 1998, we
launched Click2Talk, an Internet telephony product that allows customers to make
calls to the toll-free numbers of e-commerce companies anywhere in the world
using a PC. In August 1998, we introduced Click2CallMe, which allows consumers
visiting e-commerce companies to contact customer sales representatives from the
Web sites of such companies without charge.
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On August 3, 1999, Net2Phone completed an initial public offering of
6,210,000 shares of its Common Stock, yielding $85.3 million in net proceeds. In
December 1999, we sold 2,200,000 Net2Phone shares in connection with Net2Phone's
secondary offering. In August 2000, we completed the sale of 14,900,000 shares
of Net2Phone to AT&T, receiving approximately $1.1 billion in cash proceeds.
On October 23, 2001 IDT entered into an agreement to lead a consortium that
would concentrate ownership of approximately 49% (60% of the voting power) of
Net2Phone. The consortium consists of IDT, Liberty Media, and AT&T, resulting in
significant economic stakes in Net2Phone for all three parties. As part of the
agreement, IDT and AT&T contributed their shares of Net2Phone (approximately
10.0 million and 18.9 million shares, respectively) to a newly formed LLC.
Liberty then acquired a substantial portion of the LLC's units from AT&T, while
IDT increased its stake and AT&T retained a significant interest. The LLC now
holds an aggregate of 28.9 million shares of Net2Phone's Class A Common Stock.
IDT will be the managing member of the LLC.
Corporate Reorganization
Subsequent to Fiscal 2001, we completed the corporate reorganization
announced in October 2000 by segregating our assets into separate subsidiaries
and divisions designed to reflect our various businesses and their unique
strategies. Pursuant to the restructuring, all IDT operations are now conducted
principally through two first-tier wholly owned subsidiaries:
(1) IDT Telecom, Inc. IDT Telecom, Inc. ("Telecom"), which serves as a
holding company for the principal telecommunications services of IDT.
(2) IDT Ventures, Inc. IDT Ventures, Inc. ("Ventures"), which will conduct
the new venture related activities of IDT.
On the Telecom side, IDT Domestic Telecom, Inc. ("Domestic Telecom"), a
newly formed, wholly-owned, domestic subsidiary of Telecom, holds a federal
telecommunications carrier license and will conduct the telecommunications
business of IDT as an operating corporation. Domestic Telecom is the company
that engages in the provision of international wholesale services to other
telecommunications companies through the sale of telecommunications services as
a carrier's carrier, and also provides international long-distance services and
domestic long-distance services to individuals and businesses.
As a further key element to our restructuring, we formed IDT Telecom, LLC
("Telecom LLC"), a Delaware limited liability company. Telecom LLC also holds a
federal telecommunications carrier license, and conducts the procurement
function of IDT by purchasing wholesale carrier services in the
telecommunications market. Telecom LLC now enters into contracts with
third-party carriers for the provision of telecommunications services.
Additionally, we have formed IDT International Telecom, Inc.,
("International Telecom") a wholly-owned subsidiary of Telecom, incorporated
under the laws of the State of Delaware, in order to perform a portion of our
international telecommunications services.
On the Ventures side, we expect the corporate structure to be more fluid
and flexible, as we form appropriate corporate entities to embody emerging
business lines. We will discuss the businesses of Telecom and Ventures in
further detail below.
Inherent in the strategic planning of the reorganization was our belief in
the need to: (a) preserve our key competitive advantage in the
telecommunications field by better positioning ourselves to obtain preferential
rates for telecommunications services in the competitive marketplace; and (b)
better position ourselves on the Ventures side to take advantage of new market
opportunities.
We believe that the reorganization may result in several benefits to IDT
and its shareholders. These advantages include:
o Isolating various functions within the telecommunications operations
to allow us to more readily assess operating efficiencies and
streamline our operations
o Shifting responsibilities of various teams and working groups in
isolated functions as necessary to allow each group to attain maximum
performance through a defined focus
o Giving us greater flexibility in managing and financing new and
existing business ventures
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o Giving us greater flexibility to expand in the future through
acquisitions of companies that may be strategically advantageous to
our long-term growth
o Facilitating payment structures for the purchase of services that will
allow us to benefit from leveraging our cash pool to achieve more
favorable pricing.
o Enhancing the operational efficiency and overall autonomy of our newly
formed divisions.
IDT Telecom
IDT's Telecom division provides competitively priced retail and wholesale
telecommunications services to customers around the world. Services offered
include prepaid and rechargeable calling cards, domestic long distance services,
and wholesale carrier services. Our telecom division seeks to take advantage of
numerous market opportunities -- presented by an ever-evolving worldwide
telecommunications industry -- to profitably grow its business.
The International Long Distance Market
International switched long distance services are provided through
switching and transmission facilities that automatically route calls to circuits
based upon a predetermined set of routing criteria. In the U.S., an
international long distance call typically originates on a local exchange
carrier's network and is switched to the caller's domestic long distance
carrier. The domestic long distance provider then carries the call to its own or
to another carrier's international gateway switch. From there it is carried to a
corresponding gateway switch operated in the country of destination by the
dominant carrier of that country and then is routed to the party being called
through that country's domestic telephone network.
International long distance providers can generally be categorized by the
extent of their ownership and use of switches and transmission facilities. The
largest U.S. carriers, AT&T, WorldCom, Inc. and Sprint Corporation primarily
utilize owned U.S. transmission facilities and tend to use other international
long distance providers to reach niche markets where they do not own a network,
to take advantage of lower prices, and to carry their overflow traffic. Since no
single carrier has transmission facilities that cover each of the more than 200
countries to which major long distance providers offer service, a significantly
larger group of long distance providers has emerged, which own and operate their
own switches but either rely solely on resale agreements with other long
distance carriers to terminate traffic or use a combination of resale agreements
and leased or owned facilities in order to terminate their traffic.
The long distance market today differs greatly from the market landscape of
a mere 18 months ago. Three factors have combined to reshape the international
long distance market: 1) the liquidation of many of the most aggressive,
cut-rate small and medium-sized players in the telecommunications industry; 2)
the downturn in the stock market that has sapped investor patience for
long-term, heavily financed infrastructure plans favored by some of the largest
carriers; and 3) the increasingly aggressive attempts by the Regional Bell
Operating Companies ("RBOCs" or "Baby Bells") to penetrate the long distance
market.
One: Demise of the emerging multinational carriers. For several years, a
cycle of steep rate cutting was fueled by new entrants in the telecommunications
market. Equipped with limited capitalization and customer base, these emerging
companies immediately charted a risky course: selling cut-rate
telecommunications at cost or at times even below, in the hopes that they could
build a customer base, record revenue (if little profit), and attract further
infusions of capital from the financial markets. Established, well-funded
companies, IDT among them, were forced to match these rates in order to maintain
market share, even if it meant drastically trimming profits on certain routes or
even forfeiting them altogether. Ultimately, however, these companies failed in
implementing this business model. The course from low rates to significant
revenue to financial viability proved too much for most of the companies that
braved it. Numerous cut-rate switched service arbitrageurs have folded in the
last year. In IDT's class of seven "emerging multinational carriers," only IDT
remains. This has already resulted in the end of the rate wars and even some
stabilization of domestic long distance rates. At this time, only a limited
number of carriers remain - and IDT stands out from the field as one of the
lowest-cost providers, bearing a strong record of proven stability and little
risk of short-term financial difficulties.
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Two: Ebbing investor patience with long-term, debt-financed build-outs. In
the wake of "dotcoms" with incendiary burn rates and only nebulous forecasts of
profits in the distant future, it appears that the market has grown intolerant
of nearly any plan with a number of years of heavy investment to be followed
only later by returns. This holds true even for the most well-established,
well-financed of companies, those that have already proven their long-term
viability and reliability. This change in attitude among investors caught
several large telecoms off guard - telecoms that were already in the process of
piecing together cable, internet, local and long distance "one-stop" portfolios
of telecommunications and media services. Having already spent billions of
dollars on acquiring and upgrading component pieces of this portfolio, these
telecoms find themselves suddenly faced with a market which is unwilling to
grant them the additional five years and ten billion dollars it will take to
fully complete their integration strategy. Faced with extreme pressure to cut
debt, these large telecoms have abandoned their integration plans, often
splitting the company along business lines. Consumer long distance, viewed by
many such companies as the weakest link, often ranks lowest on their scale of
priorities, allowing IDT ample opportunity to pick up additional business. The
general trend of economizing in these companies works to IDT's benefit as IDT
least-cost routing is increasingly sought by these companies in order to control
costs. Moreover, IDT has come to serve as a model for these larger companies for
mobility and low-cost infrastructure build-outs.
Three: The relentless march of the Baby Bells. While their competitors are
flooded with debt overruns and issues of integration and restructuring, the Baby
Bells have taken advantage of a relaxed regulatory scheme to make a grab at a
significant slice of the long distance market. Since 1996, the FCC has allowed
Baby Bells to provide long distance as well as local telephone service if they
can successfully establish that they have opened up their local footprint to
competition. Currently, Baby Bells in several regions are engaged in an all-out
assault against the traditional long-distance providers. This too is a positive
development for IDT, since the RBOCs, lacking the international network
possessed by most existing long distance providers, can be expected to rely more
heavily on carrier's carriers to terminate international telephone traffic. As a
premier carrier's carrier, IDT stands to benefit from incursions by the RBOCs
into the long distance market.
Telecommunications Market Opportunities
The international communications industry is undergoing a period of rapid
technological and regulatory changes that have resulted in several market
opportunities for emerging telecommunications services providers, such as IDT.
Recent years have witnessed rapid growth in the usage of international
telecommunications services, the proliferation of carriers providing such
services, a shift towards deregulation in many of the world's major
telecommunications markets and the development of new technologies.
According to industry sources, in 1999, the international long distance
telecommunications industry accounted for approximately 108 billion minutes of
use, an increase of 15% from 93 billion minutes of use in 1998. Industry sources
have estimated that by 2003 this market may approach 190 billion in revenues,
representing compound annual growth rates from 1999 of approximately 15%.
We believe that growth in international long distance services is being
driven by:
o the globalization of the world's economies and the worldwide trend
toward deregulation of the telecommunications sector
o declining prices arising from increased competition generated by
privatization and deregulation
o increased worldwide telephone density in both traditional wireline and
wireless telephones
o the emergence of new technologies, which have resulted in higher
quality and lower costs
o a wider selection of products and services
o the growth in the transmission of data traffic
We anticipate that growth of voice and data traffic originated in markets
outside the U.S. will be higher than growth in voice and data traffic originated
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within the U.S. due to recent deregulation in many foreign markets, relative
long-term economic growth rates and increasing access to telecommunications
facilities in emerging markets.
Deregulation and Competition
Consumer demand and competitive initiatives have acted as catalysts for
government deregulation, especially in developed countries. Significant
legislation and agreements have been adopted since the beginning of 1996 which
are expected to lead to increased liberalization of the majority of the world's
telecommunication markets, including:
o the U.S. Telecommunications Act, signed in February 1996, which
establishes parameters for the implementation of full competition in
the U.S. domestic local and long distance markets;
o the European Union's Services Directive, adopted in 1990, which
abolishes exclusive rights for the provision of voice telephony
services throughout the European Union and the public switched
telephone networks of every member country of the European Union by
January 1, 1998, subject to extension by certain European Union member
countries; and
o the WTO Agreement, signed in February 1997, which creates a framework
under which 69 countries have committed to liberalize their
telecommunications laws in order to permit increased competition and,
in most cases, foreign ownership in their telecommunications markets,
beginning in 1998.
We believe that these initiatives, as well as other proposed legislation
and agreements, will provide increased opportunities for emerging competitive
carriers such as IDT to provide telecommunications services in targeted markets.
Deregulation has encouraged competition, which in turn has prompted
carriers to offer a wider selection of services and reduce prices. The
industry's projections for substantially increased international minutes of use
and revenue over both the near term and long term are based in part on the
belief that reduced pricing as a result of deregulation and competition will
result in a substantial increase in the demand for telecommunications services
in most markets. In fact, this price elasticity of demand has already been
witnessed on a large scale worldwide.
The competitive opportunities have affected the deregulated, deregulating
and regulated markets in different ways. In a fully deregulated country, such as
the U.S. or the U.K., carriers can establish switching facilities, own or lease
fiber-optic cable, enter into operating agreements with foreign carriers and,
accordingly, provide direct access service. However, new carrier entrants to a
deregulated market are usually not in a position to build their own
infrastructure. They generally prefer not to purchase services from incumbent
carriers and current competitors, whose incentives are to make the entrants'
access as restrictive and expensive as possible. These circumstances create a
demand for a carrier's carrier - a firm that is capable of constructing its own
long distance network with a primary focus on serving other companies who market
their services directly to consumers. A carrier's carrier builds an
international telecommunications network to serve entrants in the retail market
and often offers rates that are much lower than the incumbent carrier offers to
entrants.
In markets that have not been deregulated, or are slow in implementing
deregulation, there are typically two or three competing carriers, including the
national monopoly. In such markets, a carrier's carrier will sell minutes to,
and buy minutes from, the competitive carriers, who seek minutes volume as well
as lower costs in order to enable them to compete. In addition, the carrier's
carrier will also continue to offer similar services to the national monopoly.
In markets that are fully regulated, such as various countries in the
Middle East, Asia and Africa, the regulated telephone monopoly or incumbent
carrier sets prices based on the accounting rate system, a framework for
originating, carrying and terminating calls that has been in place since just
after World War II. Within each country, the regulatory authority negotiates
rates with a foreign PTT. These accounting rates tend to be artificially
inflated, with no relation to the actual costs of carrying traffic. However,
even monopolists providing services in closed markets find that operating their
own network is unduly expensive, and given the low prices available relative to
those offered in their bilateral agreements, the most cost effective solution in
many situations is to employ a carrier's carrier. Unlike the monopolist, the
carrier's carrier can fill its network with calls originating in many countries
without being bound by accounting rates.
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Teledensity
A major trend in the worldwide telecommunications industry in recent years
has been increased teledensity, or the measure of telephone lines per units of
population. Teledensity rates vary widely across different regions and
countries, with a relatively strong relationship between a country's per capita
income and its teledensity, as richer countries tend to have higher teledensity
rates than do their poorer counterparts.
However, it appears as though the "teledensity gap" may be narrowing. Many
governments of developing nations have begun to view increased teledensity as a
potential driver for economic growth, and have been focusing on improving
telephone line penetration in their countries. As a result, teledensity rates
around the world have been rising, and are expected to continue to increase over
the foreseeable future. As more people around the world gain access to
telephones, international long distance minutes will increase.
Focus on Latin America and the former Soviet Union.
IDT believes that it is well positioned to benefit from the anticipated
improvements in teledensity rates in areas such as Africa and Asia as a whole,
but particularly in the former Soviet Union and in Latin America. Our prepaid
calling cards are marketed primarily to the ethnic, immigrant communities in the
U.S., Europe and Latin America; and a large portion of our customers hail from
the Hispanic community. Therefore, a significant proportion of our international
debit card minutes go to Latin America, as U.S. Latinos call their friends and
families in their native countries. Yet IDT believes that there is significant
untapped market for prepaid calling cards in Latin America itself, where certain
countries serve as a regional nexus, attracting immigrants due to stronger job
markets and opportunities, just as the United States does. Immigrants from
satellite countries share the needs of their U.S. counterparts for low-cost,
prepaid calling solutions to maintain contact with close-knit family units in
their countries of origin. In Fiscal 2002, IDT intends to establish beachheads
in prepaid calling card distribution in South America and certain areas of
Central America.
In the former Soviet Union, IDT expects to see considerable leaps in
teledensity with increased privatization and development of the
telecommunications and personal electronics industries. In Fiscal 2002, IDT will
focus on the development of its Russian operations through ventures with or
acquisitions of Russian companies, hoping to profit from the growth of Russian
telecommunications.
New Technologies
New technologies, including the development of next-generation fiber-optic
cable and improvements in digital compression, have improved quality and
increased transmission capacities and speed, with transmission costs decreasing
as a result. "Softswitches," first widely used in 2000, enable carriers to run
voice and data services over the same network at significantly reduced cost;
they increasingly facilitate new service offerings in the industry. In addition,
the growth of the Internet as a communications medium, and advances in packet
switching technology and Internet telephony, are expected to have an increasing
impact on the international telecommunications market.
Advances in technology have created a variety of ways for
telecommunications carriers to provide customer access to their networks and
services. These include customer-paid local access, international and domestic
toll-free access, direct digital access through dedicated lines, equal access
through automated routing from the public switched telephone network and
Internet telephony. The type of access offered depends on the proximity of
switching facilities to the customer, the needs of the customer and the
regulatory environment in which the carrier competes. Overall, these advances
have resulted in a trend towards bypassing traditional international long
distance agreements between national monopolies and the proliferation of voice
and data service providers.
Furthermore, technological advancements have allowed the use of "packet
switching" technology for the transmission of voice telecommunications traffic,
enabling a substantial increase in network efficiency, as well as the use of the
Internet for voice communications. Traditional international long distance calls
use a technology called "circuit switching," which carries the calls over
international voice telephone networks. Circuit switching requires a dedicated
connection between the caller and the recipient that must stay open for the
duration of the call. On the other hand, packet switching technology breaks
voice and fax calls into separate data packets, sends them over the Internet,
then reassembles them in their original form for delivery to the recipient. This
technology allows data packets representing multiple conversations to be carried
over the same line, and is therefore inherently more efficient than is circuit
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switching technology. In addition, the use of the Internet as a voice
communications medium provides significant reductions in the cost of
transmitting traffic, while bypassing the cumbersome and expensive settlement
process traditional in international voice communications. The development of
voice applications for the Internet is part of a larger trend of convergence of
standard voice and data networks. Internet telephony services are expected to be
one of the fastest growth segments in the telecommunications industry.
Increasing Importance of Data Services
As the world continues to transition to information-based economies, and
the telecommunications and Internet industries continue to converge, the
transmission of data will take on a more important role in the business of
telecommunications carriers such as IDT. Although we believe that transmission
of "voice minutes" will continue to increase, we anticipate that more of our
business in the future will involve the transmission of "data minutes."
Currently, data is the major driver behind the industry's projections of future
demand, and the basis for the enormous amount of bandwidth that is being
installed around the globe. This increased demand for data services is being
fueled by several factors, including:
o Increasing use of the Internet and corporate Intranets
o Continued personal computer penetration
o The emergence, and rapid acceptance, of e-commerce as a substitute for
more traditional transactions
o Growing demand for other Internet-related services, such as web
hosting
As with the voice minutes market, we believe that the growth in the data
services market will be greater overseas than in the U.S., owing to the
significantly lower relative levels of Internet use, PC penetration and
corporate Intranet and web hosting activities outside the U.S. This indicates
greater potential upside in these international markets.
The growth in data transmission presents us with opportunities to both
expand our business with our existing customers, and to reach a new customer
base. We will be able to add a data element to the services we currently provide
our existing telecommunications customers, offering services such as Internet
telephony, remote Internet access, web-hosting, and co-location and data center
services. We will also be able to offer services to a broad, new customer base
for IDT, including Internet Service Providers (ISPs) and Application Service
Providers, as we carry their data minutes over our network.
A Word about Bandwidth
Currently, the telecommunications industry in its broadest sense -
professionals, analysts and journalists - is embroiled in a debate about future
demand for bandwidth capacity. One side of the debate sounds the cautionary note
that the industry has already been flooded with more bandwidth than it will ever
be able to use. The other side asserts that increasingly sophisticated
applications will generate ever-growing bandwidth demand among end users, and
that as the global community gets plugged in and wired up, the copious bandwidth
currently available will fall far short of satisfying demand.
We believe that there are elements of truth to both arguments. Innovative
new technologies provide multiples of existing bandwidth at reduced rates.
Optical wavelength services amplify existing transmission capacity by creating
multiple wavelengths on a single strand of fiber. By making use of different
light frequencies within a cable, Dense Wavelength Division Multiplexing, or
DWDM, can increase the capacity of a single strand of fiber by a multiple of
160. DWDM also alters the economics of increasing capacity along existing
routes. Rather than requiring the deployment of additional cables to augment
saturated routes, suppliers can increase system capacity using DWDM simply by
adding equipment to transmit on additional wavelengths at a fraction of the cost
of laying new cable.
Yet traffic demands continue to grow as well. While international voice
traffic has grown an average of less than 20% a year over the last five years,
data growth has been far more dramatic. The wildcard, however, remains public
Internet traffic, which probably constitutes the largest component of growth in
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bandwidth demand but may be the most difficult to accurately track. We believe,
however, that transoceanic submarine cable capacity, which grew 100% in 1998 and
a little over 175% in 1999, is well-poised to keep up with traffic demand -
growth projections for 2000 have it increasing 750%, followed by 140% growth in
2001.
Chalkboard mathematics can be misleading when divorced from the real world,
and in the real world, bandwidth growth has not blanketed the globe in an even
fashion. Communications conduits employed in a geographic locale may limit the
bandwidth available: satellite technologies lag behind fiber-optic advances, and
submarine cable is subject to certain logistical constraints that terrestrial
fiber is not bound by. Additionally, the degree of market freedom in any given
nation or region will determine the number of competitors vying to own fiber
capacity, and will thus by extension determine overall fiber volume. At present,
therefore, bandwidth capacity in the open markets of Europe and North America
continues to grow far more rapidly than in the more restrictive markets of Asia
and Latin America, where government monopolies still hold sway.
In the real world, then, some regions will experience bandwidth glut; in
others, bandwidth will continue to be in relatively short supply. We therefore
expect to see steady price reduction in some parts of the world, while bandwidth
prices in other regions will remain near their current levels. We have tailored
our own strategies to our analysis of the world bandwidth market. We are wary of
long-term, high-price leases on routes where we believe capacity overabundance
will cause prices to continue falling; and we have avoided the trap of premature
and inflated purchases of excess capacity. Finally, we have eschewed marking
bandwidth prices to bandwidth exchange quotes. While sellers have flocked to
these exchanges, appearances by buyers are rare. The prices generated by these
exchanges therefore tend to represent sellers' offers rather than actual prices
paid by buyers, and may be over-inflated.
We feel fortunate to have addressed the bulk of our own intercontinental
bandwidth needs for the foreseeable future with little capital outlay. Our IRUs
on Tycom's trans-Atlantic and trans-Pacific bandwidth promise to satisfy a
significant portion of our international capacity requirements well into the
future. We believe that as Asia and Latin America open themselves to further
free market competition, we will see build-outs of bandwidth capacity in those
regions, and we plan to avail ourselves of the attendant opportunities.
The IDT Approach
IDT's background as a leading alternative provider of retail and wholesale
international telecommunications services, combined with its experience as a
domestic Internet service provider and its leadership role in the field of
Internet telephony, position it to capitalize on the various opportunities
presented by today's telecommunications industry. Our objective is to enhance
our current position as a leading facilities-based provider of high-quality,
low-cost telecommunications services to retail and wholesale customers in both
the U.S. and abroad. The following goals represent key elements of our strategy:
Focus on International Telecommunications. We believe that the
international long distance market provides attractive opportunities due to its
higher revenue and gross profit per minute, and higher projected growth rate
compared to the domestic long distance market. We target international markets
with high volumes of traffic, relatively high per-minute rates and favorable
prospects for deregulation and privatization. We believe that the ongoing trend
toward deregulation and privatization, coupled with the increasing capture of
the long distance market by RBOCs more heavily reliant on carrier's carriers
such as IDT, will create new opportunities for us to increase our revenues and
to reduce our termination costs, while maintaining balanced growth in retail and
wholesale traffic.
Expand Switching and Transmission Facilities. We are continuing to expand
and enhance our network facilities by investing in switching and transmission
facilities where traffic volumes justify such investments. During Fiscal 2002 we
intend to invest in:
o Expansion of our debit card platform
o Long haul and local loop fiber capacity within the U.S. and Europe
o Gateway switches and facilities in the U.S., the U.K., and other
European countries
o Additional network compression equipment.
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We believe that these investments will allow us to broaden the scope of our
telecommunications activities and to reduce the cost of our services, while
maintaining our high service quality.
Expand Service Offerings and Marketing Activities. We intend to continue to
develop value-added services and to market them on a retail and wholesale basis
in order to increase margins, optimize network utilization and improve customer
loyalty. Within our retail division, we intend to significantly expand our
marketing of our consumer long distance and prepaid calling products;
additionally, we will identify and target new markets for our prepaid calling
cards. We will continue to seek profitable niches within the telecommunications
markets, adding higher-margin retail businesses, such as residential long
distance, to our existing sales mix. Additionally, our wholesale business will
attempt to offer a more complete suite of value-added carrier services to both
its existing customer base and to new customers. We intend to build out our
product offerings to our traditional customer base through vehicles which may
include joint ventures with other service providers.
Pursue Strategic Alliances and International Agreements. We intend to
capitalize on our strategic alliances and other relationships with U.S. and
foreign companies in order to expand our customer base. We have traditionally
been able to capitalize on our significant traffic volume and technological
expertise to negotiate favorable termination agreements with international
carriers. We intend to continue to seek new termination relationships with
established and emerging carriers to reduce our termination costs for
traditional international voice telephony, and we continue to use our
relationship with Net2Phone for additional low cost termination. To date, we
have entered into approximately 65 agreements with carriers that provide for the
favorably priced termination of its calls worldwide.
Telecommunications Services
IDT provides its retail and wholesale customers with integrated and
competitively priced international and domestic telecommunications services. Our
four primary telecommunications services are: prepaid calling cards, domestic
long distance services in the U.S., and wholesale carrier services. We generated
revenues from our telecommunications business of approximately $1.2 billion
during Fiscal 2001, an increase over our $1.0 billion of revenue during Fiscal
2000. Telecommunications revenues represented 97.9% of IDT's total consolidated
revenues in Fiscal 2001, as compared to 93.5% in Fiscal 2000.
Retail Telecommunications
Prepaid Calling Cards
We sell prepaid debit and rechargeable calling cards providing access to
more than 230 countries and territories. Our rates are significantly lower than
the rates for international calls that are charged by the major facilities-based
carriers. We market debit cards primarily to ethnic communities in the U.S. that
generate high levels of international traffic to specific countries where we
have favorable termination agreements, with a particular emphasis on the U.S.
Hispanic community. Recent immigrants and members of the ethnic communities tend
to be heavy users of international long distance, given their desire to keep in
touch with family members and friends back home. Our business is particularly
strong in the Northeastern U.S., aided by our extensive distribution network and
attractive rates to areas such as Colombia, Mexico and the Dominican Republic.
Approximately 50% of our U.S. debit card sales are from the New York-New
Jersey-Connecticut (Tri-State) area. We have also been rapidly expanding our
operations in California, Florida, Georgia, Texas and other parts of the U.S.
Outside the U.S., we market our calling cards in the U.K., the Netherlands,
Spain, Germany, Belgium and parts of Scandinavia, seeking to capitalize on the
opportunity presented by the recent surge in immigration from under-developed
countries around the globe to Europe's developed nations. We have also recently
begun to sell cards in Latin America, with plans to ramp-up sales of calling
cards in Argentina, Chile and Peru during Fiscal 2002. We sold over 100,000,000
prepaid calling cards during Fiscal 2001. During Fiscal 2001, sales of prepaid
calling cards accounted for 61.3% of IDT's total consolidated revenues.
Focus Point: Rise of the Hispanic Consumer. Given IDT's strong customer
base in the Hispanic community, we believe that the trends depicted in the 2000
census portend a steadily increasing revenue stream for our prepaid debit cards.
According the 2000 United States Census, the population of U.S. Hispanics rose
to 35.3 million, a 61 percent increase during the past ten years. As we value
America's Latinos as loyal customers, and since so many of our debit card
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products cater to their needs, we believe the continued growth of the Hispanic
community will further buoy sales of our prepaid calling cards.
We offer both IDT-branded and non-IDT-branded prepaid calling cards, with
favorable rates to specific areas of the world. The cards are sold in several
different dollar denominations, most commonly $5, $10 and $20. The table below
lists some of the major IDT phone cards that we sell:
Asimon Florida Exclusive New York Alliance
Blackstone America Florida Friends New York Exclusive
California Exclusive Georgia Exclusive Pennsylvania Exclusive
Carribean Friend Illinois Exclusive Pepe Colombianita
Carolina Exclusive Kababayan Pepe Megatel
Centro Americard Long Island Exclusive Puerto Rico Exclusive
China Card Mass Exclusive Rhode Island Exclusive
Colombianita Card Massachusetts Talk South Seas
Connecticut Exclusive Mega Mexico Tele Talk
Cumbia Megatel Texas Exclusive
Dominicall Megatel Vending Union Phone Card
Eastern European Metropolis Union Phone Vending
Easy Pass IDT Merengue Vending Exclusive
Easytalk LA Michigan Exclusive Virtual Internet Card
Easy Talk NJ New Jersey Alliance Washington Alliance
New Jersey Exclusive Washington Exclusive
Our rechargeable cards, distributed primarily through in-flight magazines,
permit users to place calls from over 40 countries through international
toll-free services.
Our retail customers can use our calling cards at a touch tone telephone by
dialing an access number, followed by a personal identification number (a "PIN")
assigned to each prepaid calling card and the telephone number the customer
seeks to reach. Our switch completes the call, and our debit card platform
reduces the outstanding balance of the card during the call. We offer prepaid
calling cards that can be used to access our network by dialing a toll-free
number or, in specific metropolitan markets, local area calling cards that only
require a local call. We believe that many of our customers typically use our
calling cards as their primary means of making long distance calls due to
attractive rates, reliable service, the ease of monitoring and budgeting their
long distance spending and the appealing variety of calling cards we offer to
different market segments.
In Fiscal 2001, IDT purchased PT-1 Communications, Inc. debit card
business, including all trade names and intellectual property. This key purchase
served to greatly increase IDT's revenue from its debit card business,
establishing IDT as the largest seller of prepaid calling cards in the United
States. IDT hopes to continue to expand its prepaid calling card sales and
distribution networks, identifying markets which it has yet to penetrate.
IDT also markets private label calling cards, often used as lucrative
promotional items or utilized by corporate customers to help generate brand name
awareness. In Fiscal 2002, we will increase our efforts to market private label
cards, with an intense focus on department store chains and franchises.
Competitive Advantages
We believe that we possess the following advantages over our competition in
the prepaid calling card industry:
o Our status as a carrier's carrier allows us to offer calling time over
more routes to the countries that are in demand in the retail
marketplace, at attractive prices.
o Our debit platform, which we believe to be among the most advanced in
the industry, enables us to process a large number of cards
simultaneously and to provide multi-lingual and multi-currency cards.
o Our expertise, market savvy and distribution channel, which covers
over 300,000 retail outlets worldwide.
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o Our understanding of, and commitment to, the ethnic prepaid calling
card market.
o We are able to provide low rates and at the same time maintain our
margins by taking a disciplined approach to advertising and because we
enjoy low overhead and low headcount. We believe that as our carrier
business builds out its network, our prepaid business' cost per minute
will decline, helping margins.
Domestic Long Distance Services
IDT markets certain long distance services directly to retail customers in
the U.S. Introduced in February 2000, our calling plan features a flat rate of
five cents per minute for all state-to-state calls within the continental United
States, 24 hours a day, seven days a week. We also offer a free IDT Calling
Card, with no monthly fees or per-call surcharges, featuring a domestic rate of
ten cents per minute. Our rates for international calls are also extremely
competitive, well below those charged by the major facilities-based carriers.
During Fiscal 2001, we continued aggressively marketing our domestic long
distance services by expanding the existing TV ad campaign to additional markets
and introducing new marketing channels, including print advertisements, direct
mail, online advertising and partnerships.
As of October 1, 2001, we had over 300,000 active domestic long distance
customers. Domestic long distance services accounted for 4.6% of our total
consolidated revenues in Fiscal 2001. As we continue to make significant
expenditures to market this service, resulting in customer growth, we anticipate
that domestic long distance services will begin to account for an increasing
proportion of our total revenues in future periods.
Wholesale Carrier Services
We sell our wholesale carrier services to other U.S. and international
carriers, utilizing flexible and least-cost traffic routing and based on our
expertise in navigating the complex accounting rate system. In this way, we act
as a "carrier's carrier," providing major carriers and niche players alike with
rates that are much lower than those traditionally available through the more
established carriers. We are able to offer competitive rates to our carrier
customers as a result of our extensive relationships in the long distance
telecommunications industry, our ability to generate a high volume of long
distance call traffic and the advantageous rates negotiated with foreign PTTs
and competitive carriers. As of October 1, 2001, we had approximately 185
wholesale customers located in the U.S. and Europe, with wholesale carrier sales
representing 31.5% of IDT's total consolidated revenues in Fiscal 2001.
As anticipated, although perhaps at a faster rate than foreseen, price
declines in the industry combined with the overall reduction of investment
capital in the market have combined to push less efficient operators out of the
market. This has in turn led to some measure of price stabilization, resulting
in increased revenue per minute on certain routes and reduced margin pressure.
We anticipate that IDT, among other financially sound market players, will gain
some market share as weaker companies continue to dissolve. Additionally, as the
RBOCs increase their market share in the long distance market at the expense of
traditional long distance service providers, we expect to gain revenue due to
the RBOCs' current dependence on the global infrastructure of carrier's carriers
such as IDT for the termination of their international voice traffic.
Capitalizing on Strengths
In the coming fiscal year, we intend to capitalize on some of our inherent
strengths in order to tailor an increasingly strong, global company:
o Our strong existing relationships with national monopolies and other
leading carriers will, we believe, continue to allow us to negotiate
advantageous rates.
o Our prepaid card business, which generates a high volume of original
long distance call traffic, will continue to prove attractive to PTTs,
as we "create" new streams of traffic and direct it to the PTT, as
opposed to simply transferring minutes from another carrier with whom
the PTT is already allied.
o The superior switching, routing and customer service technology
supporting our backbone network will continue to provide us with
better cost analysis, customer service, and strict quality controls.
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o We will continue to distinguish ourselves from purely wholesale
competitors through our ability to offer "value-added carrier
services," such as giving carriers remote access to our debit card
platform. This enables us to offer additional "turnkey" capabilities
to carrier customers and positions us as a "total outsourcing
provider" of carrier services.
o We hope to maintain our "mobility advantage" in rapidly reacting to
changing price environments, identifying and capitalizing on
attractive rates more quickly than have our competitors.
o Our highly specialized analysis team composed of well-trained
telecommunications professionals continually monitoring volume data
will allow us to maintain maximum system efficiency, enabling us to
run our switches and lines at a higher volume than that maintained by
other telecommunications companies.
o Our constant attention to cost control, efficiency and the maintenance
of lower general overhead expenses will continue to ensure that we
waste few corporate resources, delivering value to partners,
customers, and shareholder alike.
These factors will advance our long-term goal: emergence as a multi-faceted
service provider offering a portfolio of services to the most financially stable
market participants through long-term contractual relationships. In order to
reach this goal, we intend to employ these tactics in Fiscal 2002:
o Broadening our portfolio of products and services offered to our
carrier partners.
o Cultivating relationships with the top global carriers.
o Continual evaluation of financial stability of weaker wholesale
customers, and cautious management of our financial exposure to such
customers, in order to safeguard against nonpayment of outstanding
receivables.
o Generating significant incentives, such as volume commitments and
price incentives, for global carriers to enter into long-term
contracts with mutual commitments.
Wholesale Carrier Strategies
We have strategies tailored to different markets: regulated markets,
deregulated markets and markets that are currently deregulating.
In deregulated countries, we offer new market entrants, who are generally
not in the position to build their own infrastructure, carrier services at rates
that are typically lower than the incumbent carrier is offering. In such
countries, we also establish and expand our arbitrage operations by taking
advantage of the competitive environment to buy minutes at a lower rate and then
sell them at a higher rate. In markets that are fully regulated, our strategy is
to establish a relationship with the national monopoly and enter into agreements
to carry and terminate its minutes. We can typically offer the national
monopolies lower prices than those offered in their existing bilateral
agreements. In markets that are undergoing the deregulation process, there are
typically two or three competing carriers, including the national monopoly. In
these markets, our strategy involves selling minutes to, and buying minutes
from, the competitive carriers, who seek minutes volume as well as lower costs
in order to compete. We also continue to offer similar services to the national
monopoly.
These different strategies, for the three types of markets, are part of our
overall strategy for the deregulating world. As a country moves from regulated
to fully deregulated status, our strategy for that country shifts to take
advantage of the opportunities presented at any given time. By first entering a
market when it is regulated and establishing relationships with the national
monopoly, we obtain early entrant status, which prepares us to compete more
effectively as the market deregulates. By the time the market opens for
competition, we have acquired a thorough knowledge of the market (in terms of
potential minutes generated, most frequently called routes, culture, etc.),
which we believe is a competitive advantage for both our retail and wholesale
carrier operations.
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Sales, Marketing and Distribution
We primarily market our international telecommunications services through
our direct wholesale carrier services sales staff. The staff benefits from (i)
IDT's extensive relationships and premier international name and recognition
throughout the long distance industry for marketing its carrier services; (ii)
our substantial traffic volumes, which enable us to negotiate for lower rates;
and (iii) favorable terminating rates negotiated with PTTs and foreign carriers.
We currently market our prepaid debit cards to retail outlets throughout
the U.S. through Union Telecard Alliance, LLC ("Union"), a joint venture company
of which we own 51% of the outstanding equity interests. Union is one of the
largest distributors of prepaid calling cards in the nation, utilizing a network
of over 600 sub-distributors who sell through over 250,000 retail outlets
throughout the United States. As part of our plan to expand our territory beyond
the U.S., we have begun to establish a distribution network in the Dominican
Republic to replicate our calling card distribution network in the United States
in conjunction with Union and other distributors. In May 2000, Union began
distributing prepaid cards in Puerto Rico, and plans to begin distributing cards
in parts of Central and South America during Fiscal 2002, targeting Argentina as
a nexus for immigrant populations from Peru and Chile.
Union has entered into agreements with sub-distributors, located in
Illinois, Florida, New York, Ohio and Texas, whereby the sub-distributors have
agreed to market our prepaid calling cards in exchange for preferential pricing,
exclusive cards, extensions of credit, incentive bonuses and technical support
from us, which is intended to assist each respective sub-distributor in the
growth and development of its business. Our exclusive calling cards will be
marketed by the corresponding partnership in a given state.
In addition to selling IDT's prepaid calling cards, Union sells prepaid
calling cards of other companies. This allows Union to operate as a "one-stop
shop" for the widest possible range of prepaid phone cards, enabling Union to
enhance its sales to the retail outlets it currently serves.
IDT also sells rechargeable calling cards, which are marketed primarily
through in-flight magazines.
We increased our marketing expenditures for our domestic long distance
services in order to continue to position ourselves as the market's lowest-price
provider. The advertising campaign for these services is mostly driven by direct
television advertising in targeted markets. Our goal is to continue spending on
marketing and advertising to build our domestic long distance customer base,
with a primary focus on keeping cost-per-customer acquired at or below our
targeted levels.
Billing and Customer Support
IDT believes that reliable, sophisticated and flexible billing and
information systems are essential to its ability to remain competitive in the
global telecommunications market. Accordingly, we have invested substantial
resources to develop and implement our proprietary management information
systems.
Our billing system enables us to:
o Accurately analyze our network traffic, revenues and margins by
customer and by route on an intra-day basis;
o Validate carrier settlements; and
o Monitor least cost routing of customer traffic.
The entire process is fully automated and increases efficiencies by
reducing the need for monitoring by our employees. We believe that the accuracy
and efficiency of our management information systems provide us with a
significant strategic advantage over other emerging carriers.
We believe that our ability to provide adequate customer support services
is a crucial component of our ability to retain customers. We have successfully
focused on improving such service through a number of measures, including the
15
addition of support personnel and the monitoring of customer waiting time. The
customer support staff provides 24-hour technical assistance in addition to
general service assistance. Customer support personnel communicate with
subscribers via telephone, e-mail and fax. We answer over 30,000 calls per day,
of which roughly half are handled by our automatic Integrated Voice Response
System. The other roughly 15,000 answered calls are handled by our customer
support staff, whose approximately 150 members are required to field a minimum
number of calls and e-mails each day. We set high performance standards and
respect the value of our customers' time: 90% of our calls are answered within
the first 90 seconds, well above industry standards. We utilize sophisticated
"real time" monitoring by a quality control department, which monitors over 600
calls per day. We also employ liaisons between the customer support and
technical staffs to ensure maximum responsiveness to changing customer demands.
Network Infrastructure
We maintain an international telecommunications switching infrastructure
and U.S. domestic network, consisting of owned and leased lines that enable us
to provide an array of telecommunications, Internet access and Internet
telephony services to our customers worldwide. IDT's network is monitored 24
hours a day, seven days a week, 365 days a year by its network operations
center. The entire network is centrally managed from IDT's control center
through the use of a standardized communications protocol. In addition, we use
two proprietary monitoring systems to manage modem pools.
Telecommunications Network
Private Line Network
We operate a growing telephone network consisting of U.S. domestic
dedicated leased fiber-optic and copper lines, and IDT-owned switch equipment in
the U.S. which are interconnected to major PTTs, emerging carriers and domestic
interexchange carriers, local exchange carriers and competitive local exchange
carriers. Our major switching facilities are located in Piscataway, N.J.;
Newark, N.J.; New York, N.Y.; and London, England. These varied locations serve
to provide the network with redundancy and diversity. All of these locations are
linked with the dominant local exchange carrier as well as at least one of the
competitive local exchange carriers, allowing us to interconnect with all major
interexchange carriers to switch traffic via our leased private-line DS3
network. Furthermore, all of our locations are interconnected via leased lines
to enhance network reliability and redundancy as each location interconnects
with the various carriers.
In September 1998, we obtained from Frontier Communications (now a unit of
Global Crossing Ltd.) dedicated DS-1, DS-3, OC-3 and OC-12 circuit capacity in
the U.S. over Frontier's network, connecting more than 120 metropolitan areas
around the nation. These network facilities have enabled us to expand the range
and reliability of our data and voice transmission service, while reducing
network costs. IDT is able to offer nationwide dial-up long distance and
dial-around ("10xxx") services, reduce 800-origination costs and provide for
origination and termination of carrier traffic in all major U.S. cities.
In October 1999, we entered into an agreement with Frontier whereby we
enhanced our ability to provide presubscribed long distance (1+) and dedicated
and toll-free services throughout the United States as well as casual calling
("10xxx") in selected areas of the country.
In October 2000, in settlement of a suit filed by IDT against Tyco Group
S.A.R.L. and Tyco Submarine Systems, Ltd., IDT received certain indefeasible
rights of use ("IRUs") relating to capacity in Tycom Ltd.'s trans-Atlantic and
trans-Pacific undersea fiber-optic networks. Under the terms of the settlement,
IDT received IRUs for two 10 Gb/s wavelengths on both the trans-Atlantic and the
trans-Pacific network for fifteen years, free of charge. IDT is scheduled to
commence the use of the fiber in increments through Spring 2003.
In addition, we own and lease switched services to connect our U.S. and
U.K. facilities. These services are used to originate traffic from IDT's
customer base in the U.K. and to terminate existing carrier and call
reorigination traffic to the U.K. We have about 65 operating and terminating
agreements that provide for the termination of traffic worldwide, and we plan to
obtain leased lines to certain destinations, where it will result in reduced
termination costs.
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Switching Platforms
We utilize two major switching platforms. We use Lucent switches for all
application-based products such as direct dial, call through, prepaid calling
cards, and value-added services such as voice prompts, speed dialing, voice mail
and conferencing. The Lucent switches (such as the LNX) are flexible and
programmable, and are designed to implement network-based intelligence quickly
and efficiently. We currently own and/or lease 151 Lucent switches. The other
platform is the Nortel DMS250-300 and Nortel GSP, which serves as an
international gateway and generic carrier switch. We currently own four Nortel
switches. We plan to upgrade our switching platforms in New Jersey and London
during Fiscal 2002. All of our switches are modular, scaleable and equipped to
signal in such protocols as ISDN or C7/SS7 so as to be compatible with either
domestic or foreign networks.
Software
Our switches work in conjunction with Company-developed proprietary
software platforms to run all of the applications we require to provide
value-added services, as well as billing and traffic analysis. The software
enables the switches to route all calls via our least-cost routing matrix.
Least-cost routing is a process by which we optimize the routing of calls over
the least-cost route on our switches for over 230 countries. In the event that
traffic cannot be handled over the least-cost route due to capacity or network
limitations, the least-cost routing system is designed to transmit the traffic
over the next least-cost route. The least-cost routing system analyzes several
variables that may affect the cost of a long distance call, including different
suppliers, different time zones and multiple choices of terminating carrier in
each country. In some instances, instead of routing a call directly between two
overseas points, the least-cost routing system may backhaul a carrier's minutes
using resold switched services to another of our U.S.-based switches in order to
terminate the traffic in a third country while taking advantage of our
competitive international long distance rates. The least-cost routing system is
continually reviewed in light of rates available from different suppliers to
different countries to determine whether we should add new suppliers to its
switch to further reduce the cost of routing traffic to a specific country and
to maintain redundancy, diversity and quality within the switching network. By
utilizing a least-cost routing system, we are able to minimize our costs, and
offer lower rates to our customers. This is of significant importance when
serving a market that has become increasingly price-sensitive.
Research and Development
We employ a technical staff that is devoted to the improvement and
enhancement of our existing telecommunications and Internet products and
services, including switching technologies and the development of new
technologies and products. We believe that the ability to adjust and improve
existing technology and to develop new technologies in response to, and in
anticipation of, customers' changing demands is necessary to compete in the
rapidly changing telecommunications and Internet industries. There can be no
assurance that we will be able to successfully develop new technologies or
effectively respond to technological changes or new industry standards or
developments on a timely basis, if at all.
Competition
The markets in which we operate are extremely competitive and can be
significantly influenced by the marketing and pricing decisions of the larger
industry participants. The barriers to entry are not insurmountable in any of
the markets in which we compete. We expect competition in these markets to
intensify in the future.
In the prepaid calling card market, we compete with other providers of
prepaid calling cards and with providers of telecommunications services in
general. Many of the largest telecommunications providers, including AT&T,
WorldCom and Sprint, currently market prepaid calling cards, which in certain
cases, compete with the prepaid calling cards we sell. These companies are
substantially larger and have greater financial, technical, engineering,
personnel and marketing resources, longer operating histories, greater name
17
recognition and larger customer bases than does the Company. In marketing
prepaid calling cards to customers outside the U.S. market, we compete with the
large PTTs, such as British Telecommunications ("BT") in the U.K.
With respect to its other telecommunication services, we compete with:
o Interexchange carriers and other long distance resellers and
providers, including large carriers such as AT&T, WorldCom, Inc. and
Sprint
o Foreign PTTs
o Other providers of international long distance services
o Alliances between large multinational carriers that provide wholesale
carrier services
o New entrants to the domestic long distance market such as the regional
bell operating companies in the U.S., who have announced plans to
enter the U.S. interstate long distance market pursuant to recent
legislation conditionally authorizing such entry
o Small long distance resellers.
Moreover, some of our competitors have announced business plans similar to
ours regarding the expansion of telecommunications networks into Europe and
Latin America. Many of our competitors are significantly larger and have
substantially greater market presence, as well as greater financial, technical,
operational, marketing and other resources and experience than the Company.
We compete for customers in the telecommunications markets primarily based
on price and, to a lesser extent, the type and quality of service offered.
Increased competition could force us to reduce our prices and profit margins if
our competitors are able to procure rates or enter into service agreements that
are comparable to or better than those we obtain, or are able to offer other
incentives to existing and potential customers. Similarly, we have no control
over the prices set by our competitors in the long distance resale
carrier-to-carrier market.
IDT Ventures
IDT's Ventures division has been tasked with a treble mission. First,
Ventures is meant to guide investment strategy, selecting investments that
appropriately complement IDT internal endeavors. Second, Ventures must incubate
a small portfolio of in-house, non-telecom businesses to financial viability,
often working hand in hand with the Company's management team. Finally, Ventures
is responsible for surveying the broader marketplace to enter and build
businesses in those fields in which Ventures identifies opportunities for
significant profitable growth and which, at the same time, add qualitatively to
the range of businesses in the IDT portfolio.
The IDT Approach
By its very nature, the Ventures division represents a fusion of the
analytical and the visionary. Its approach combines the far-sightedness
necessary to evaluate and forecast the prospects of broad industries with an
exacting attention to the levels of detail that fledgling businesses require.
Our high-level executive development team draws on its substantial experience to
identify existing yet overlooked opportunities, while at the same time
anticipating and evaluating future demand for certain new technologies, products
and services. In order to ensure proper management focus on each potential new
business, we provide each venture with a dedicated management team, seeking
individuals whose skill-sets and experience most closely match those needed for
each particular venture.
Ventures has adopted a very selective stance in seeking out companies to
acquire and manage. Target companies must show potential of generating moderate
annual returns within a short to medium period of time after being acquired.
Ongoing cash requirements of these target companies must fall below a pre-set
ceiling, and the business itself must fit comfortably into IDT's overall growth
strategy. Currently, IDT Ventures (either through ownership or a management
relationship on behalf of another IDT entity) comprises three existing IDT
business areas, together with three business lines that IDT has newly acquired
or entered. These include newly acquired Talk America Radio Network and a
controlling interest in Net2Phone recently acquired in conjunction with AT&T
18
Corp. and Liberty Media Corp., an ambitious and burgeoning distribution venture
with Union, CTM Brochure Display, IDT dedicated Internet & Web hosting, and
1-800-TOWTRUCK.
Talk America Radio Network
On October 17, 2001, IDT completed its acquisition of Sports Final Radio
Network, Inc., a radio programming and syndication network doing business as
Talk America Radio Network. This acquisition marks IDT's point of entry into the
world of broadcast media, which Ventures has identified as a prime focus for its
endeavors. Through Talk America Radio Network, Ventures intends to develop and
market original radio programming content, as well as hire existing radio
talent. IDT believes that the economic downturn will increasingly reflect itself
in a reduction of advertising revenue, resulting in contraction in the radio
industry. As owners of station clusters selectively weed stations from their
portfolios or require additional capital, IDT believes that we will have the
opportunity to acquire radio stations at highly economic prices.
Net2Phone, Inc.
On October 23, 2001, IDT entered into an agreement to lead a consortium in
purchasing a controlling interest in Net2Phone, Inc., a Newark-based publicly
traded company that routes voice calls over the Internet. The consortium
includes AT&T Corp. and Liberty Media Corp., controls approximately 64% of the
voting power of Net2Phone, and will be managed by IDT. As part of the agreement,
IDT and AT&T contributed their shares of Net2Phone (approximately 10.0 million
and 18.9 million shares, respectively) to a newly formed limited liability
company (an "LLC"). Liberty Media then acquired a substantial portion of the
LLC's units from AT&T.
Net2Phone was originally formed by IDT in 1996, and functioned as a
wholly-owned subsidiary of IDT until August 1999, when it completed an initial
public offering. In December 1999, Net2Phone completed a secondary offering,
subsequent to which IDT maintained a 56% voting interest in the company. In
August 2000, we sold approximately 14.9 million shares of Net2Phone to AT&T
Corp. for aggregate consideration of approximately $1.1 billion. As a result of
the October 2001 transaction, IDT has, through the LLC, increased its stake in
Net2Phone, Liberty Media has acquired an interest in Net2Phone, and AT&T still
retains a significant interest.
While Net2Phone has become the world's leading provider of Internet
telephony products and services, its share price has fallen sharply since April
2000, mirroring the performance of the NASDAQ stock market over that time. IDT
Ventures will contribute to redirecting the energies of Net2Phone and
identifying avenues of business to raise profits.
Product Marketing and Distribution Network
IDT Ventures will attempt to build on the distribution network built by
Union and the expertise amassed by IDT in marketing to the urban ethnic market
in two ways. First, in partnership with Union, IDT will seek to join with other
companies in distributing new products through Union's distribution network of
an estimated 250,000 retailers. Second, IDT has assembled a select team of
individuals with expertise in marketing products to the Hispanic community, and
has begun working to directly market products and services to the Hispanic
community.
CTM Brochure Display
With over 2,000 clients in over 25 states and provinces, CTM Brochure
Display is the premier distributor of travel and entertainment brochures in the
eastern United States. Brochures are distributed through over 8,000 display
stands owned by CTM and located in hotels and public venues such as malls, bus
stations, and airports. Ventures intends to continue to grow this IDT company
and to foster its geographic expansion and the expansion of the services it
provides through internal growth and selective acquisitions.
IDT Dedicated Internet/Web Hosting
IDT has long offered broadband internet connectivity and web hosting
services to corporate customers. We believe that the current economic climate
has severely depressed the values for web hosting concerns, and Ventures will
seek to assist IDT Nevada Holdings, Inc. in acquiring several small web hosting
operations with the goal of integrating them into our own infrastructure and
operations.
19
1-800-TOWTRUCK
1-800-TOWTRUCK ("TowTruck") is both a motorist service that provides
roadside assistance to stranded motorists, and a towing referral service to
towing operators. We derive revenue from the towing operators, who pay to become
the exclusive 1-800-TOW-TRUCK operator in their area, as well as from a revenue
share of the towing fee.
TowTruck generated motorist calls come from two streams. Advertising
literature prompts individual motorists to dial 1-800-TOW-TRUCK directly; at the
same time, TowTruck has agreements with several emergency assistance services,
who are compensated for directing calls from stranded motorists to TowTruck.
Ventures will continue to work with TowTruck in developing unique technical
services and various proprietary technologies.
IDT Nevada Holdings, Inc. ("Nevada Holdings")
IDT Nevada Holdings, Inc. guides and manages IDT's equity investments in
other information technology ("IT") companies, and owns certain of the
businesses which are managed by Ventures. Nevada Holdings goal is to identify
opportunities in the telecommunications and Internet fields that can be
exploited through the use of superior technology, and taking advantage of such
opportunities through minority investments in other entities. In Fiscal 2001,
Nevada Holdings pursued a strategy of buying distressed companies in the
telecommunications sector in the hopes of capitalizing on the sale of their
assets or with the intent of acting in an advisory capacity to redirect and
strengthen the company's operations and fiscal outlook. In Fiscal 2001 Nevada
Holdings purchased, among several minor investments, a significant minority
stake in Teligent, Inc., a provider of broadband communications services. In May
2001, Teligent filed a voluntary bankruptcy petition under Chapter 11 of the
U.S. Bankruptcy Code.
Regulatory Environment
Deregulation in the U.S. and International Telecommunications Markets
Deregulation accelerated in the U.S. in 1984 with the divestiture by
American Telephone & Telegraph, Inc. ("AT&T") of the regional bell operating
companies. This gave rise to an influx of competitive telecommunications
companies. Today, there are over 500 U.S. long distance companies. Deregulation
in the U.K. began in 1981, when Mercury, a subsidiary of Cable & Wireless plc,
was granted a license to operate a facilities-based network and compete with
British Telecommunications plc ("BT"). Deregulation spread to other European
countries with the adoption of the "Directive on Competition in the Markets for
Telecommunication Services" in 1990. A series of subsequent European Union
directives, reports and actions have resulted in significant but not complete
deregulation of the telecommunications industries in most European Union member
states. Further deregulation of the European Union telecommunications market is
scheduled to occur in 2000 upon the implementation of the European Union's
"Amending Directive to the Interconnection Directive," which mandates the
introduction of equal access and carrier pre-selection by 2000. See
"Regulation--European Regulation of Telecommunications Services." A similar
movement toward deregulation has already taken place in Australia and New
Zealand, and is also taking place in Japan, Mexico, Hong Kong and other markets.
Other governments have begun to allow competition for value-added and other
selected telecommunications services and features, including data and facsimile
services and certain restricted voice services. Deregulation and privatization
have also allowed new long distance providers to emerge in other foreign
markets. In many countries, however, the rate of change and emergence of
competition remain slow, and the timing and extent of future deregulation is
uncertain.
Deregulation has encouraged competition, which in turn has prompted
carriers to offer a wider selection of products and services at lower prices. We
believe that the lower prices for telecommunications services that have resulted
from increased competition have been more than offset by decreases in the costs
of providing such services and increases in telecommunications usage. For
example, based on FCC data for the period 1989 through 1995, per-minute
settlement payments by U.S.-based carriers to foreign PTTs fell 31.4%, from
$0.70 per minute to $0.48 per minute. Over this same period, however, per-minute
international billed revenues fell only 13.7%, from $1.02 in 1989 to $0.88 in
1995. We believe that as settlement rates and capacity costs continue to
decline, international long distance will continue to provide opportunities to
generate relatively high revenues and per-minute gross profits.
20
Government Regulation of the Telecommunications Industry
Telecommunications
As a multinational telecommunications company, the Company is subject to
varying degrees of regulation in each of the jurisdictions in which it operates.
As a non-dominant carrier lacking substantial power to influence market prices
in the U.S., the Company's provision of international and domestic long distance
telecommunications services in the U.S. is generally subject to less regulation
than a carrier that has such power. Despite recent trends toward deregulation,
some of the countries in which the Company intends to provide telecommunications
services do not currently permit the Company to provide public switched voice
telecommunications services. In those countries in which the Company operates
that are not yet open to public switched voice service competition, the Company
provides services to closed user groups and a variety of value-added services,
as permitted by each country's laws.
In February 1997, the United States and 68 other countries signed the World
Trade Organization Agreement on Basic Telecommunications Services ("WTO
Agreement") to facilitate competition in basic telecommunications services.
Pursuant to the WTO Agreement, signatories committed to varying degrees and
within varying time frames to provide competitive telecommunications providers
access to their domestic and international markets, reduce or eliminate foreign
ownership restrictions, and establish regulatory regimes that foster
telecommunications competition. The WTO Agreement became effective on February
5, 1998. Although the Company believes that the WTO Agreement could provide us
with significant opportunities to compete in markets that were not previously
accessible, it could also provide opportunities for our competitors. There can
be no assurance that the pro-competitive effects of the WTO Agreement will not
have a material adverse effect on the Company's business, financial condition,
and results of operation or that members of the WTO will implement the terms of
the WTO Agreement.
Regulation of U.S. Domestic Telecommunications Services. In the U.S.,
provision of the Company's services is subject to the provisions of the
Communications Act of 1934, as amended by the Telecommunications Act of 1996
(the "Act"), regulations promulgated thereunder, as well as the applicable laws
and regulations of the various states administered by the relevant state
authorities. The recent trend in the U.S., for both federal and state regulation
of telecommunications service providers, has been in the direction of reducing
regulation. Nonetheless, the FCC and relevant state authorities continue to
regulate ownership of transmission facilities, provision of services and the
terms and conditions under which the Company's services are provided.
Non-dominant carriers, such as the Company, have generally been required by
federal and state law and regulations to file tariffs listing the rates, terms
and conditions for the services they provide.
In October 1996, the FCC adopted an order (the "Detariffing Order") which
eliminated the requirement that non-dominant interstate carriers such as the
Company maintain tariffs on file with the FCC for domestic interstate services.
After years of legal challenges, the Detariffing Order was upheld by the U.S.
Court of Appeals for the D.C. Circuit and subsequently implemented by the FCC on
July 31, 2001. In accordance with the Detariffing Order and the rules
promulgated thereunder, the Company withdrew its FCC interstate interexchange
service tariff on July 31, 2001 and placed its rates, terms and conditions for
domestic interstate services on its website. The Company concurrently notified
its subscribers of its compliance with the Detariffing Order. The detariffing of
domestic interstate services poses additional risks for the Company because it
will no longer have the benefit of the "filed rate doctrine." This doctrine
enabled the Company to bind its customers to the terms and conditions of the
tariff without having each customer sign a written contract and enabled the
Company to change rates and services on one day's notice. Since the rates and
terms of service are no longer tariffed, the Company may be subjected to
increased risk of claims from customers involving terms of service and rates
that could impact the Company's financial operations.
In 1997, the FCC issued an order to implement the provisions of the Act
relating to the preservation and advancement of universal telephone service (the
"Universal Service Order"). The Universal Service Order requires all
telecommunications carriers providing interstate telecommunications services to
contribute to universal support by contributing to (i) a fund for schools and
libraries, (ii) a fund for rural health care and (iii) a fund for the
development of regions characterized by high telecommunications costs and low
income levels (collectively, the "Universal Service Funds"). These contributions
became due beginning in 1998 for all providers of interstate telecommunications
services. Such contributions are assessed based on certain interstate and
international end user telecommunications revenues, which are calculated by the
21
Company in accordance with the legislative rules adopted by the FCC.
Contribution factors vary quarterly, and carriers, including the Company, are
billed each month. In addition, many state regulatory agencies have instituted
proceedings to revise state universal support mechanisms to make them consistent
with the requirements of the Act. As a result, the Company will be subject to
state, as well as federal, universal service fund contribution requirements,
which will vary from state to state. The amounts remitted to the Universal
Service Fund may be billed to the Company's customers. If the Company does not
bill these amounts to its customers, its profit margins may be less than if it
had elected to do so. However, if the Company elects to bill these amounts to
its customers, customers may reduce their use of the Company's services, or
elect to use the services provided by the Company's competitors, which may have
a material adverse effect upon the Company's business, financial condition, or
results of operations.
Over the past year, the FCC has increased the Universal Service Fund
contribution percentage from 5.6688% in the fourth quarter of 2000 to 6.9187%
for the fourth quarter of 2001. In addition, over the past year, the FCC has
made several rule changes that affect the Company's contribution to the
Universal Service Fund. As a result of these changes, the increases to the
contribution percentage, and an increase in the Company's revenue the Company's
Universal Service Fund payments have increased.
In May 2001, the FCC proposed several changes to its Universal Service
Fund regulations that, if adopted, would alter the basis on which the Company's
Universal Service Fund contributions are determined and the ability and means by
which such contributions may be recovered from the Company's customers. Also in
May 2001, the United States Court of Appeals for the Fifth Circuit, ruling on a
petition for review of a November 1999 FCC decision, held that the FCC cannot
allow any incumbent local telephone company to recover universal service costs
implicitly in access charges. Reconsideration petitions pending at the FCC seek
retroactive treatment for implementation of this decision. In July 2001, the
United States Court of Appeals for the Tenth Circuit remanded to the FCC an
order that provided high cost support for rural high cost areas. Depending on
the resolution of these rural issues, the Federal Universal Service Program
could grow substantially. The Commission has not yet acted on these proposals
and it is not clear whether the FCC will adopt any of these proposals. However,
if the FCC were to do so, the changes could limit the Company's ability to
recover its Universal Service Fund expenses from its customers, thereby having a
material adverse effect upon the Company.
Based on the foregoing, the application and effect of the Universal Service
Fund requirements (and comparable state contribution requirements) on the
telecommunications industry generally and on certain of the Company's business
activities cannot be definitively ascertained at this time.
The FCC has approved Verizon's Section 271 applications for authority to
provide interLATA interexchange service to customers in New York, Massachusetts,
Pennsylvania and Connecticut and SBC's Section 271 applications to provide
interLATA interexchange service to customers in Texas, Kansas and Oklahoma.
Because the FCC has approved these Section 271 applications, interexchange
carriers, such as the Company, will be subjected to increased competition from
these companies in the New York, Massachusetts, Pennsylvania, Connecticut,
Texas, Kansas and Oklahoma markets for interexchange services. As a result, the
Company may face increased pressure to reduce its rates for interexchange
services that may have an adverse impact on the Company's revenues.
SBC recently filed Section 271 applications to provide interLATA
interexchange services in Missouri and Arkansas and Bell South recently filed a
Section 271 application to provide interLATA interexchange service in Georgia
and Louisiana. Verizon, SBC, Qwest, and Bell South have announced that they
intend to file Section 271 applications in additional states, which if granted,
would further increase competition in the provision of interexchange services
and result in downward price pressures for such services in these states. In
addition, legislation has been introduced in Congress that would have the effect
of allowing Verizon, SBC, BellSouth and Qwest to offer in-region long distance
services without satisfying Section 271 of the Act. If signed into law, this
would further increase competition in the provision of data services, placing
increased pressure on the Company to reduce its rates for data services and
could potentially have an adverse impact on the Company's revenues.
The Company's costs of providing long distance services will be affected by
changes in access charge rates imposed by regional bell operating companies on
long distance carriers for origination and termination of calls over the local
facilities. The FCC has made major changes in the interstate access charge
structure. On May 31, 2000, the FCC issued an Order adopting the access charge
reform measures based on a proposal from an industry coalition referred to as
CALLS that included some major interexchange carriers, most regional bell
operating companies, and GTE. This proposal lowers collective interstate access
charges by local exchange carriers subject to price cap regulation by $3.2
billion and ends certain charges paid by interexchange carriers. As part of the
proposal, AT&T and Sprint agreed to pass through access charge savings to
customers. The Order, which was largely upheld by the U.S. Court of Appeals for
the Fifth Circuit, will reduce access charges for interexchange carriers and the
Company may face increased competition to lower its prices for long distance
services.
The Company's costs of providing long distance services are also affected
by changes in access charge rates imposed by competitive local exchange
carriers. On April 27, 2001, the FCC released an order lowering the rates CLECs
can charge long distance carriers for origination and termination of calls over
the local facilities. Under the Order, these rates will be further reduced in
the future. As a result of the Order, access charges will decrease for
interexchange carriers and the Company may face increased competition to lower
22
its prices for long distance services. Since the rates and terms of service are
no longer tariffed, the Company may be subjected to increased risk of claims
from customers involving terms of service and rates that could impact the
Company's financial operations.
In addition to regulation by the FCC, the majority of the states require
the Company to register or apply for certification prior to initiating
intrastate interexchange telecommunications services. To date, the Company,
together with its subsidiaries, is authorized through certification,
registration or on a deregulated basis to provide intrastate interexchange
telecommunications services in 50 states. The Company is subject to the
obligations that applicable state law places on all similarly certificated
carriers including the filing of tariffs, regulations of service offerings,
pricing, payment of regulatory fees and reporting requirements. State issued
certificates of authority to provide intrastate interexchange telecommunications
services can generally be conditioned, modified, canceled, terminated or revoked
by state regulatory authorities for failure to comply with state law and/or the
rules, regulations and policies of the state regulatory authorities. Fines and
other penalties also may be imposed for such violations. As a provider of
presubscribed intra- and interstate toll services, the Company is subject to
federal and state laws prohibiting "slamming," which occurs when a
telecommunications service provider switches a subscriber's presubscribed
carrier without authorization or not in conformance with applicable law.
Although the Company attempts to diligently comply with all such laws and
regulations and has procedures in place to prevent "slamming," if violations of
such laws and regulations occur, the Company could become subject to significant
fines and penalties, legal fees and costs, and its business reputation could be
harmed.
U.S. Regulation of International Telecommunications Services. In the United
States, to the extent that the Company offers services as a carrier, the Company
is required to obtain authority under Section 214 of the Act, in order to
provide telecommunications service that originates within the U.S. and
terminates outside the United States. The Company has obtained the required
Section 214 authorization from the FCC to provide U.S. international service. In
addition, as a condition of the Company's Section 214 authorization, the Company
is subject to various reporting and filing requirements. Failure to comply with
the FCC's rules could result in fines, penalties, forfeitures or revocation of
the Company's FCC authorization, each of which could have a material adverse
effect on our business, financial condition, and results of operation.
In the past, the provision of international telecommunications service
required the filing of an International Interexchange Service Tariff with the
FCC. In March 2001, the FCC adopted its International Detariffing Order,
mandating that non-dominant carriers, such as the Company, remove their
International Interexchange Service Tariffs from the FCC by no later than
January 28, 2002. Concurrent with its July 31, 2001 removal of its Domestic
Interexchange Service Tariff, the Company removed its International Exchange
Service Tariff. Since that time, the Company has made its international
interexchange rates and terms of service available to the public, as required by
the FCC's regulations. Since the rates and terms of international interexchange
service are no longer tariffed, the Company may be subjected to increased risk
of claims from customers involving terms of service and rates that could impact
the Company's financial operations.
The Company must conduct its U.S. international business in compliance with
the FCC's International Settlements Policy, the rules that establish the
parameters by which U.S.-based carriers and their foreign correspondents settle
the cost of terminating each other's traffic over their respective networks.
Under the FCC's International Settlements Policy, absent approval from the FCC,
international telecommunications service agreements with dominant foreign
carriers must be non-discriminatory, provide for settlement rates usually equal
to one-half of the accounting rate, and require proportionate share of return
traffic.
In recent rule reforms, the FCC expressly exempted from the International
Settlements Policy rules, U.S. carrier arrangements with non-dominant foreign
carriers as well as arrangements with any foreign carrier (dominant or
non-dominant) on certain competitive routes where at least 50% of U.S.-billed
traffic is terminated at settlement rates at least 25% below the FCC's
applicable benchmark settlement rates. These routes currently include: Canada,
Denmark, France, Germany, Hong Kong, Ireland, Italy, Monaco, the Netherlands,
Norway, Saudi Arabia, Sweden and the United Kingdom. For arrangements that will
continue to be subject to the International Settlements Policy, the FCC imposes
mandatory settlement rate benchmarks. These benchmarks are intended to reduce
the rates that U.S. carriers pay foreign carriers to terminate traffic in their
home countries. The FCC also prohibits a U.S. carrier affiliated with a foreign
carrier from providing facilities-based switched or private line services to the
foreign carrier's home market unless and until the foreign carrier has
implemented a settlement rate at or below the relevant benchmark. Certain
confidential filing requirements still apply to dominant carrier arrangements.
The FCC's new rules declined to expand the scope of the International
Simple Resale ("ISR") policy, which permits U.S. carriers to provide
international switched services over private lines interconnected to the public
switched telecommunications network on the current FCC-authorized routes. The
FCC will continue to maintain the distinction between routes it approves for ISR
and routes on which it removes the International Settlements Policy. Even though
the FCC dramatically scaled back the application of the International
Settlements Policy, the FCC's ISR policy still requires FCC approval to provide
ISR services in an arrangement with a foreign dominant carrier on
non-competitive routes.
23
The FCC has removed the International Settlements Policy for
telecommunications traffic sent to 56 countries, representing 46% of all U.S.
international traffic. To the extent that the International Settlements Policy
still applies, however, the FCC could find that the Company does not meet
certain International Settlements Policy requirements with respect to certain of
our foreign carrier agreements. Although the FCC generally has not issued
penalties in this area, it has issued a Notice of Apparent Liability to a U.S.
company for violations of the International Settlements Policy and it could,
among other things, issue a cease and desist order, impose fines or allow the
collection of damages if it finds that we are not in compliance with the
International Settlements Policy. Any of these events could have a material
adverse effect on the Company's business, financial condition, or results of
operation.
The Company offers its callback services pursuant to its Section 214
Authorization. The FCC has determined that callback services that use
uncompleted call signaling do not violate U.S. or international law, but that
U.S. companies providing such services must comply with the laws of the
countries in which they operate as a condition of such companies' Section 214
Authorizations. The FCC reserves the right to condition, modify or revoke any
Section 214 Authorizations and impose fines for violations of the Act or the
FCC's regulations, rules or policies promulgated thereunder, or for violations
of the clear and explicit telecommunications laws of other countries that are
unable to enforce their laws against callback services using uncompleted call
signaling. FCC policy provides that foreign governments that satisfy certain
conditions may request FCC assistance in enforcing their laws against callback
providers based in the U.S. that are violating the laws of these jurisdictions.
Thirty-six countries have formally notified the FCC that callback services
violate their laws. The FCC has held that it would consider enforcement action
against companies based in the U.S. engaged in callback services by means of
uncompleted call signaling in countries where this activity is expressly
prohibited. In fact, the FCC granted a complaint by the Philippines Long
Distance Telephone Company and required U.S. carriers to stop providing callback
services to customers in the Philippines. A petition filed by the
Telecommunications Resellers Association in 1998 requesting that the FCC cease
enforcing foreign laws against callback services is still pending. There can be
no assurance that the FCC will not take further action in the future.
Enforcement action could include an order to cease providing callback services
in such country, the imposition of one or more restrictions on the Company,
monetary fines or, in extreme circumstances, the revocation of the Company's
Section 214 Authorization, and could have a material adverse effect on the
Company's business, financial condition and results of operations.
To date, the FCC has made no pronouncement as to whether refiling
arrangements are inconsistent with the regulations of the U.S. or the
International Telecommunication Union (the "ITU"), and a 1995 petition to the
FCC for declaratory ruling regarding Sprint's Fonaccess service was withdrawn.
Although it is possible that the FCC will determine that refiling violates U.S.
and/or international law and that such a finding could have a material adverse
effect on the Company's business, operating results and financial condition, the
FCC is not currently considering such issues in any active proceeding.
Regulatory requirements pertinent to the Company's operations will continue
to evolve as a result of the WTO Agreement, federal legislation, court
decisions, and new and revised policies of the FCC. In particular, the FCC
continues to refine its international service rules to promote competition,
reflect and encourage liberalization in foreign countries and reduce
international accounting rates toward cost.
European Regulation of Telecommunications Services. In Europe, the
regulation of the telecommunications industry is governed at a supranational
level by the European Union and to a large extent by the national law of the
individual European Union Member States. The European Union's institutions, such
as the European Commission, are responsible for creating pan-European policies.
Through its legislation, the European Union has developed a regulatory framework
aimed at creating an open, competitive telecommunications market. The European
Union was established by the Treaty of Rome and subsequent conventions and the
European Commission and the Council of Ministers of the European Union are
authorized by such treaties to issue European Union "directives." European Union
Member States are required to implement these directives through national
legislation. If a Member State fails to adopt such directives, the European
Commission may take action, including referral to the European Court of Justice,
to enforce the directives. In practice, Member States have significant
discretion regarding how to implement Directives into their national law system.
For example, while the Licensing Directive provides Member States the required
overall framework, the licensing regimes adopted by Member States vary
accordingly. Only in specific cases, the European Commission, in concert with
the European Parliament and other relevant European Union institutions will
render regulations or individual decisions on specific issues that become
effective immediately without requiring Member States to adopt them on a
country-by-country basis.
24
In March 1996, the European Union adopted the Full Competition Directive
containing two provisions which required European Union Member States to allow
the creation of alternative telecommunications infrastructures by July 1, 1996,
and which reaffirmed the obligation of European Union Member States to abolish
the incumbent telecommunications operator's ("ITOs") monopolies in voice
telephony by 1998. Certain European Union countries, such as Greece (January
2002), were allowed to delay the abolition of monopolies in public voice
telephony based on exemptions established in the Full Competition Directive.
Under current European Union law, Member States may require individual licenses
for reserved public telephony services and the creation of alternative
infrastructure, but not for data, value-added or closed user group services. The
European Union presently is in the process of reviewing its telecommunications
regulatory regime and has introduced legislative proposals that would direct the
Member States to reform their laws regarding licensing, interconnection,
universal service, unbundling of local loops, data protection, and
harmonization. The European Commission presently is considering these
legislative proposals which, if adopted, could impact the Company's operations.
In addition to the foregoing regulations, the European Union has adopted
the Interconnection Directive and the Licensing Directive that attempt to
harmonize telecommunications regulations among the Member States. The
Interconnection Directive provides that ITOs are obliged to interconnect with
requesting operators, and to enter into interconnection arrangements on
transparent, objective and non-discriminatory terms. Disputes over
interconnection rates, terms and conditions have arisen in several Member
States, and there can be no guarantee that they will be resolved in a manner
that will not have a material adverse effect on the Company's operations in
Europe. In addition, the Licensing Directive provides for the establishment of a
national regulatory authority independent of the ITO in each Member State, and
provides that Member States may reject applications for licenses only upon
certain narrowly-defined grounds. The Interconnection Directive and the
Licensing Directive are currently under review. Under the pending legislative
proposals, these Directives might no longer differentiate between Voice and Data
services. Consequently, the Company could be required to apply for additional
individual licenses or general authorizations in the individual Member States.
It may also become necessary for the Company to provide certain interconnection
services to other carriers, to provide for interception by state authorities,
and to pay into universal service funds pursuant to national law.
In connection with the growth of its European operations, the Company has
obtained a number of licenses to provide telecommunications services in Europe.
Through its U.K. subsidiary, IDT Global Limited ("IDT Global"), the Company has
obtained a license to provide international simple voice resale services in the
U.K., and a license to operate domestic and international telecommunications
facilities in the U.K. IDT Global has also obtained a license to provide voice
telephony services in Frankfurt, Germany. In addition, through its Dutch holding
subsidiary, IDT Europe BV, the Company has obtained a General Telecommunications
License in Ireland. In February 1999, the Company acquired Orion Telekom BV, a
Netherlands based provider of telecommunications services. Included in the
purchase was Orion's Netherlands voice license. Orion, (now known as IDT
Netherlands BV) is a wholly-owned subsidiary of IDT Europe BV, a wholly-owned
subsidiary of the Company. In Austria, a voice license has been obtained for
Strategic Telecommunications Belgium.
Data Protection: European regulators and authorities have developed
detailed provisions on data protection and privacy in the individual Member
States. In particular, these provisions govern the collection, storage, transfer
and access to personal data that are only harmonized to some extent by European
Union directives. Compliance with national legal requirements may involve, for
instance, the appointment of data protection officers by the Company and its
subsidiaries, compliance with reporting requirements to national authorities,
and notification requirements vis-a-vis individuals -- e.g., obtaining an
individual authorization before personal data are collected, stored or
transferred. Recently, the United States and European Union agreed upon
so-called "Safe Harbor Principles" to reconcile the differences between U.S. and
European Union approaches to privacy and data protection regulation. Compliance
with these principles on a voluntary basis will likely ensure that traffic data
flowing from the European Union to the United States will not be interrupted and
help minimize the risk of sanctions under national law. However, the "Safe
Harbor Principles" will neither cover the collection and storage of data by
facilities in European Union Member States, nor regulate the data flow to and
from third countries, which remains under the jurisdiction of each member
state's national law. In addition, in such European countries where the Company
is licensed as a voice telephony provider, specific data protection rules on
issues relating to telecommunications services -- e.g., billing, directory
entrances, etc. -- may apply.
25
In addition, the European Union has adopted Directive 97/7/EC, a separate,
complementary directive pertaining to privacy and the processing of personal
data in the telecommunications sector. This directive establishes certain
requirements with respect to, among other things, the processing and retention
of subscriber traffic and billing data, subscriber rights to non-itemized bills,
and the presentation and restriction of calling and connected line
identification. In addition, a number of European countries outside the European
Union have adopted, or are in the process of adopting, data protection rules
similar to those set forth in the European Union directives. The European Union
also has enacted Directive 97/7/EC to protect consumers entering distance
contracts. Distance contracts are generally contracts for goods and services
where the contact between the supplier and the consumer takes place at a
distance by means of communications technologies. This directive requires that
the consumer be provided with certain information, such as the identity of the
supplier, the arrangements for payment, delivery or performance, the existence
of a right of withdrawal, and the cost of using the means of distance
communication prior to entering the contract. Such information must be provided
in a clear and comprehensible manner in any way appropriate to the means of
distance communication used, with due regard to the principles of good faith in
commercial transactions. While this directive has been effective since June
1997, all Member States are required to implement Directive 97/7/EC by June 4,
2000. To the extent that the Company enters into distance contracts, this
directive may have a material adverse effect on our business, financial
condition, operating results and future prospects.
The European Union has adopted the final version of Directive [2000/--/EC]
governing electronic commerce. The directive covers "Information Society
services" or "any service normally provided for remuneration, at a distance, by
electronic means and at the individual request of a recipient of services,"
between the Member States. Information Society services generally include both
business-to-business services and business-to-consumer service. The directive
establishes a general e-commerce legal framework covering service provider
authorizations, commercial communications, electronic contracts, the liability
of intermediary service providers, codes of conduct, out-of-court dispute
settlements, court actions and cooperation between Member States. Increased
regulation of the Internet or of transaction facilitation via the Internet by
the European Union could have a material adverse effect on our business,
financial condition, operating results and future prospects.
Other Overseas Markets. In numerous countries where the Company operates or
plans to operate, local laws and regulations may limit the ability of
telecommunications companies to provide telecommunications services in
competition with state-owned or state-sanctioned monopoly carriers. There can be
no assurance that current or future regulatory, judicial, legislative, or
political considerations will permit the Company to offer all or any of its
products and services in such countries, that regulators or third parties will
not raise material issues regarding the Company's compliance with applicable
laws or regulations, or that such regulatory, judicial, legislative, or
political decisions will not have a material adverse effect on the Company. If
the Company is unable to provide the services that we presently provide or
intend to provide or to use our existing or contemplated transmission methods,
or because the Company is subjected to adverse regulatory inquiry, investigation
or action, or for any other reason related to regulatory compliance or lack
thereof, such developments could have a material adverse effect on the Company's
business, financial condition, and results of operation.
Internet Access
Internet service providers are generally considered "enhanced service
providers" within the U.S. and are exempt from U.S. federal and state
regulations governing common carriers. Accordingly, the Company's provision of
Internet access services are currently exempt from tariffing, certification and
rate regulation. Nevertheless, regulations governing disclosure of confidential
communications, copyright, excise tax, and other requirements may apply to the
Company's provision of Internet access services. The Company cannot predict the
likelihood that state, federal or foreign governments will impose additional
regulation on the Company's Internet business, nor can it predict the impact
that future regulation will have on the Company's operations.
The Act contained provisions imposing criminal liability on: (1) persons
sending or displaying indecent material on an interactive computer service such
as the Internet in a manner available to minors and (2) entities knowingly
permitting facilities under their control to be used for such activities. These
provisions were held to be unconstitutional by the U.S. Supreme Court in 1997.
In 1998, Congress passed the Child Online Protection Act ("COPA") which imposes
criminal liability and civil liability on any person who by means of the World
Wide Web, makes any communication for commercial purposes available to minors
that includes material that is harmful to minors. COPA was enacted to prevent
minors' access to indecent material on the Internet by criminalizing certain
communications to minors and imposing a "filtering" requirement on Internet
service providers ("ISPs"). The sections of COPA that impose criminal and civil
26
liability for the dissemination of harmful material to minors have been stayed
by the U.S. District Court for the Eastern District of Pennsylvania pending a
trial on their constitutionality. On June 22, 2000, this stay was upheld on
appeal by the U.S. Court of Appeals for the Third Circuit. However, the
"filtering" requirement in COPA has not been stayed, and ISPs must notify users
of existing measures (e.g. hardware, software, and filtering devices) that may
assist the users in limiting minors' access to harmful material. Subsequent
enforcement of the liability provisions of COPA restricting minors' access to
harmful material may chill the development of Internet content or have other
adverse effects on ISPs such as the Company. In addition, in light of the
uncertainty attached to the enforcement of the law, there can be no assurances
that the Company would not have to modify its operations to comply with COPA,
including, among other things, prohibiting users from maintaining home pages on
the Web that contain material deemed harmful to minors.
In December 1996, the FCC initiated a Notice of Inquiry regarding whether
to impose regulations or surcharges upon providers of Internet access and
Information Service. The Notice of Inquiry, and several ongoing FCC proceedings,
seek public comment as to whether to impose or to continue to forebear from
regulation of Internet and other packet-switched network service providers. The
Notice of Inquiry specifically identifies Internet telephony as a subject for
FCC consideration. In addition, in April 1998, the FCC issued a Report to
Congress on its implementation of the universal service provisions of the Act.
In its report, the FCC indicated that it would reexamine its policy of not
requiring Internet service providers to contribute to the universal service
mechanisms when they provide their own transmission facilities and engage in
data transport over those facilities in order to provide an information service.
Any such contribution would be related to the Internet service provider's
provision of telecommunications services itself. The Company can not predict the
outcome of any future proceedings that may impact the Company's provision of
Internet access or that may impose additional requirements, regulations or
charges upon the Company's provision of such services.
On September 28, 2000, the FCC issued a Notice of Inquiry on the issue of
cable open access. The FCC has asked the public to comment on the proper
regulatory classification for cable modem Internet access and whether the FCC
has the authority to impose an open access requirement on cable Internet
providers. It is not clear whether the FCC will actually make any decision in
this proceeding or merely collect information from interested parties. However,
should the FCC decide that cable providers must open their systems to rival
Internet service providers, the Company along with other Internet service
providers would have access to cable providers networks to provide high-speed
Internet access.
Internet Protocol Telephony
The use of the Internet to provide telephone service is a recent
development. Although the FCC has determined that information service providers,
including Internet protocol ("IP") telephony providers, are not
telecommunications carriers, the Company cannot be certain that the FCC will
continue to maintain this position. On April 10, 1998, the FCC issued a report
to Congress discussing its implementation of universal service provisions
contained in the Act. In its report, the FCC indicated that it would examine
whether phone-to-phone IP telephony should be classified as an information
service or as a telecommunications service. The two are treated differently in
several respects, with information services being unregulated and not subject to
universal service contribution obligations. The FCC indicated that it did not
have, as of the date of the report, an adequate record upon which to make a
definitive ruling. However, the FCC noted that the record suggested that certain
forms of phone-to-phone IP telephony appear to have the same functionality as
non-IP telecommunications services and lack the characteristics that would
render them information services. If the FCC were to determine that certain IP
telephony services are subject to FCC regulations as telecommunications
services, the FCC stated that it might find it reasonable to require IP service
providers to make universal service contributions, pay access charges, or to be
subject to traditional common carrier regulation.
Incumbent telephone operators have also commenced efforts to collect access
charges from IP telephony providers. In September 1998, two regional Bell
operating companies advised IP telephony providers that they would impose access
charges on Internet telephony traffic. On April 5, 1999, Qwest (formerly US
West) filed a petition with the FCC asking the FCC to find that IP telephony
services are telecommunications services, not enhanced or information services,
and therefore should be subject to access charge and universal service
obligations. Qwest did not press the matter and, to date, the FCC has not issued
a public notice requesting comment on the petition. If the FCC does ultimately
determine that IP telephony is subject to the FCC's access charge and universal
27
service regimes, such a ruling would likely substantially increase the costs of
providing Internet telephony in the U.S.
The FCC is in the process of collecting additional information regarding IP
telephony services. On September 29, 1999, the FCC released a notice of inquiry
seeking information on whether IP telephony services should be made accessible
to the disabled under Section 255 of the Act, which applies to
"telecommunications services." Multiple parties filed comments in this
proceeding opposing the classification of IP telephony as a telecommunications
service. To date, the FCC has not issued a decision in this docket. In addition,
on October 22, 1999, the FCC released a notice of proposed rulemaking to collect
information on the status of local telephone service competition and the
deployment of advanced telecommunications capability. The FCC recognized that,
while it does not regulate IP telephony services, IP telephony may become an
important substitute for circuit-switched telephony and should be included in
evaluating local competition. Also, the FCC asked whether it should undertake a
more specific determination of the extent to which IP telephony is being used to
provide telephony services. This proceeding is also pending.
If the FCC determines that IP telephony is subject to regulation as a
telecommunications service, it may subject providers of Internet telephony
services to traditional common carrier regulation and require them to make
universal service contributions and pay access charges to terminate long
distance traffic. In addition, it is possible that IP telephony providers may
become subject to the Communications Assistance for Law Enforcement Act
("CALEA"), which requires telecommunications common carriers to modify their
networks to allow law enforcement authorities to perform electronic
surveillance. It is also possible that the FCC will adopt a regulatory framework
for IP telephony providers different than that applied to traditional common
carriers. Moreover, Congressional dissatisfaction with the FCC's conclusions
regarding IP telephony could result in legislation requiring the FCC to impose
greater or lesser regulation. Any change in the existing regulation of IP
telephony by the FCC or Congress could result in a material adverse effect on
the Company's business, financial condition, operation results and future
prospects.
In addition to the FCC and Congress, state regulatory authorities and
legislators may also assert jurisdiction and regulate the provision of
intrastate IP telephony services. Regional "bell" operating companies have made
several attempts to collect state access charges from IP telephony providers. In
particular, Qwest petitioned Colorado and Nebraska for a ruling that IP
telephony providers must pay access charges for intrastate calls. The proceeding
was dismissed in Colorado, and a decision was never reached in Nebraska. In
recent interconnection arbitration decisions, Colorado and North Carolina
declined to classify IP telephony as switched access traffic subject to
intrastate switched access charges. However, a recent Florida interconnection
arbitration decision expressly included phone-to-phone IP telephony in the
definition of switched access traffic subject to intrastate switched access
charges. Should state public utility commissions regulate IP telephony
providers, the Company, and its subsidiaries, may not be able to operate
profitably in any state that assesses access or universal service charges
against it.
The European Commission principally follows the FCC's "hands-off" approach
to the regulation of voice over IP telephony. The European Commission has
recently launched a public consultation on a review of the status of voice over
IP within the European Union. The outcome of this consultation is still
uncertain, but there are recent indications that some national European
regulators within the European Union are inclined to give up their current
"hands-off" approach and to require voice over IP providers to obtain individual
voice licenses. The Company cannot predict the likely outcome of this
consultation, but it is possible that the provision of voice over IP telephony
may require licensing in the future which could impact the Company's, and its
Net2Phone subsidiary's, business and financial operations.
To the Company's knowledge, there are currently no domestic laws or
regulations that prohibit voice over IP telephony. Several efforts have been
made to enact federal legislation that would either regulate or exempt from
regulation services provided using IP technology. State public utility
commissions may also retain jurisdiction to regulate the provision of intrastate
IP telephony services, and could initiate proceedings to do so. A number of
countries that currently prohibit competition in the provision of voice
telephony have also prohibited IP telephony. Other countries permit but regulate
IP telephony. If Congress, the FCC, state regulatory agencies, foreign
governments or supranational bodies begin to regulate IP telephony, there can be
no assurances that any such regulation will not materially adversely affect the
Company's business, financial condition, or results of operations.
28
Intellectual Property
Although IDT believes that its success ultimately is more dependent upon
its technical expertise than its proprietary rights, we regard our trademarks,
service marks, copyrights, patents, trade secrets, proprietary technology and
similar intellectual property as very important to our success. Given the rapid
pace of technological advancement, accelerating product life cycles, and an
increasingly litigious environment, our intellectual property are strategic
assets. We have aligned our intellectual property strategy with our overall
business strategy so as to maximize revenue, manage risk, minimize costs and use
intellectual property for competitive advantage.
We own numerous trademark and service mark registrations in the United
States and abroad. The Company also has applications pending for the
registration of service marks relating to its various operations. In addition,
we have filed patents in the US and internationally and plan to file other
patent applications in the future.
Our intellectual property may not provide significant competitive
advantages. Because of the rapid pace of technological change in the information
technology industry, many of our products rely on key technologies developed by
third parties, and we may not be able to obtain licenses from these third
parties. The protection of our intellectual property also may require the
expenditure of significant financial and managerial resources. Effective
trademark, service mark, copyright, patent and trade secret protection may not
be available in every country in which our products and services are made
available. Moreover, any of our intellectual proprietary rights could be
challenged, invalidated or circumvented. Third parties that license our
proprietary rights may take actions that diminish the value of our proprietary
rights or reputation. Ultimately, the steps we take to protect our proprietary
rights may not be adequate and third parties may infringe or misappropriate our
trademarks, servicemarks, trade dress, copyrights, patents and similar
proprietary rights.
From time to time the Company may be subject to claims and legal
proceedings from third parties in the ordinary course of business, including
claims of alleged infringement of trademarks, copyrights, patents and other
intellectual property rights. Even if our products and processes are ultimately
held not to infringe a third parties' intellectual property rights, the claims
can be time-consuming and costly to defend, and may divert management's
attention and resources away from our business. Such claims might also result in
a preliminary injunction against us, and, if held to be meritorious, may result
in a permanent injunction and the imposition of damages. Claims of intellectual
property infringement might also require us to enter into costly license
agreements. If we cannot or do not license the allegedly infringed rights or
substitute concededly non-infringing rights from another source, our business
could suffer. Thus, there can be no assurances that the terms of any such
claims, legal proceedings and/or license agreements would not have a material
adverse effect on the Company 's business, operating results and financial
condition.
International Sales
In Fiscal 1999, 2000, and 2001, revenue from customers located outside of
the United States accounted for approximately 13%, 17% and 16% of our total
revenues, respectively. See Note 9 of the Notes to the Company's Consolidated
Financial Statements. We anticipate that revenues from international customers
will continue to account for a significant percentage of our total revenues.
Employees
As of October 1, 2001, IDT and its subsidiaries had a total of
approximately 1,660 employees, including 475 in technical support and customer
service, 122 in sales and marketing, 290 in technical staff, 184 in general
operations and 113 in management and finance. We also had a total of 150
employees in Europe. Union Telecard Alliance, LLC, in which we have a 51%
interest, employed 61 persons.
We believe that our relations with our employees are good. None of our
employees is represented by a labor union or covered by a collective bargaining
agreement, and we have never experienced a work stoppage.
Item 2. PROPERTIES.
In a strategic move intended to expand our operations as well as maximize
our presence in the rapidly developing metropolitan area of Newark, IDT
headquarters are now located in downtown Newark, New Jersey. Prior to November
29
1999, IDT's headquarters were located in Hackensack, New Jersey. IDT entered
into a twenty year lease with 520 Broad Street Associates L.L.C. for facilities
amounting to approximately 484,000 square feet. IDT's headquarters house its
executive offices, administrative, finance and marketing functions, carrier and
customer service departments and its various developing operations.
We continue to occupy facilities in one building located in Hackensack, New
Jersey, pursuant to a lease which expires on April 30, 2002, and we also lease
additional office space in a separate building also located in Hackensack, New
Jersey.
IDT additionally occupies approximately 12,000 square feet in Newark, New
Jersey and approximately 6,000 square feet of space in Los Angeles, California,
both primarily to house telecommunications equipment. In addition, IDT leases
space (typically less than 500 square feet) in various other geographic
locations to house the telecommunications equipment for each of its POPs.
225 Old NB Road, Inc., a wholly owned subsidiary of IDT, purchased the
building located at 225 Old New Brunswick Road located in Piscataway, New
Jersey, and IDT and its wholly owned subsidiary, InterExchange presently occupy
approximately 48,295 square feet of the 65,295 square feet in the building. The
balance of the building is sublet to third parties.
Union Telecard Alliance, our 51% owned subsidiary, occupies approximately
4,000 square feet of space in Queens, New York, pursuant to a ten year sublease
agreement and approximately 19,986 square feet in West Hempstead, New York
pursuant to a five year lease.
In support of our international expansion efforts, we maintain our European
headquarters in London, England. We also maintain various international office
locations and telecommunications facilities, in Buenos Aires, Argentina; London,
England; Paris, France; Frankfurt, Germany; Rotterdam, Holland; Dublin, Ireland;
Milan, Italy; Moscow, Russia; Madrid, Spain; Lerum, Sweden; San Juan, Puerto
Rico; and Santa Fe Colony, Mexico.
Item 3. LEGAL PROCEEDINGS.
On February 15, 2000, Multi-Tech Systems, Inc. filed suit against
Net2Phone, Inc. and other companies in the United States Federal District Court
in Minneapolis, Minnesota. In its press release, Multi-Tech stated that "the
defendant companies are infringing because they are providing the end users with
the software necessary to simultaneously transmit voice and data on their
computers in the form of making a phone call over the Internet." Net2Phone has
defended the lawsuit vigorously. Net2Phone has filed an answer and discovery has
now been completed. Trial of this matter is tentatively scheduled for August 1,
2002. In the interim, it is likely that various motions will be filed to limit
the scope of the plaintiff's claims or to dismiss the action in its entirety.
Net2Phone believes that the Multi-Tech claims are without merit. However, should
a judge issue an injunction against Net2Phone requiring that they cease
distributing Multi-Tech's software or providing Multi-Tech's software-based
services, such an injunction could have a material adverse effect on Net2Phone's
business operations, financial condition, results of operations and cash flows.
IDT filed a Complaint with the United States District Court for the
District of New Jersey on January 29, 2001, against Telefonica S.A., Terra
Networks, S.A., Terra Networks, U.S.A., Inc. and Lycos, Inc. The complaint
asserts claims against the defendants for, among other things, breaches of
various contracts, breach of fiduciary duty, securities violations, fraudulent
misrepresentation, negligent misrepresentation, fraudulent concealment and
tortious interference with prospective economic advantage. The defendants have
been served with the complaint. IDT has filed an amended complaint and the
defendants have filed an answer to the amended complaint. Terra Networks, S.A.,
has filed a Counterclaim for breach of contract alleging that IDT was required
to pay to Terra Networks, S.A. $3,000,000, and that IDT has allegedly failed to
do so. The Defendants have filed a Motion to Dismiss the Complaint. On September
14, 2001, the Court issued an Order: (a) permitting IDT to take discovery
relevant to the subject of whether Telefonica is subject to personal
jurisdiction, (b) denying Telefonica's motion to dismiss for lack of personal
jurisdiction without prejudice to Telefonica's right to renew the motion upon
the completion of jurisdictional discovery, and (c) carrying on the calendar
defendants' motion to dismiss on non-jurisdictional grounds pending the
completion of jurisdictional discovery.
30
On May 25, 2001, IDT filed a Statement of Claim with the American
Arbitration Association naming Telefonica Internacional, S.A. ("Telefonica") as
the Respondent. The Statement of Claim asserts that IDT and Telefonica entered
into a Memorandum of Understanding ("MOU") that involved, among other things,
the construction and operation of a submarine cable network around South America
("SAm-I"). IDT is claiming, among other things, that Telefonica breached the MOU
by: (1) failing to negotiate SAm-I agreements; (2) refusing to comply with the
equity provisions of the MOU; (3) refusing to sell capacity and back-haul
capacity pursuant to the MOU; and (4) failing to follow through on the joint
venture. In addition to IDT's request that Telefonica comply with the terms of
the MOU, IDT is alleging that it has been damaged in amounts not less than: (1)
$1.15 billion for claim number 1 above; (2) $1.15 billion for claim number 2
above; (3) $100 million for claim number 3 above; and (4) $750 million for claim
number 4 above. Telefonica has responded to IDT's Statement of Claims and has
filed a Statement of Counterclaim which alleges, inter alia: (1) Fraud in the
Inducement; (2) Tortious Interference with Prospective Business Relations; (3)
Breach of the Obligations of Good Faith and Fair Dealing; and (4) Declaratory
and Injunctive Relief. This action is currently in the early stages of
discovery.
The Company is subject to other legal proceedings and claims, which have
arisen in the ordinary course of its business and have not been finally
adjudicated. Although there can be no assurances in this regard, in the opinion
of the Company's management, such proceedings, as well as the aforementioned
actions, will not have a material adverse effect on results of operations or the
financial condition of the Company.
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
None.
31
PART II
Item 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
PRICE RANGE OF COMMON STOCK AND DIVIDEND POLICY
Our Common Stock was quoted on the NASDAQ National Market under the symbol
"IDTC" from March 15, 1996, the date of our initial public offering, through
February 25, 2001. On February 26, 2001, the Company listed its shares of Common
Stock for trading on the New York Stock Exchange under the symbol "IDT". In May
2001, the Board of Directors declared a stock dividend of one share of Class B
Common Stock for every one share of Common Stock, Class A Common Stock and Class
B Common Stock (the "Class B Dividend"). The shares of IDT's Class B Common
Stock are entitled to one-tenth of a vote per share. IDT distributed the
dividend shares on May 31, 2001 and the Class B Common Stock commenced trading
on the New York Stock Exchange, Inc. on June 1, 2001 under the symbol "IDTB".
The table below sets forth the high and low sales prices for the Common Stock
(IDT) as reported by the NASDAQ National Market and the New York Stock Exchange
(adjusted to reflect the Class B Dividend for periods prior to May 31, 2001) for
the fiscal periods indicated.
High Low
---- ---
Fiscal Year ended July 31, 2000
First Quarter........................................... $16.25 $ 6.75
Second Quarter.......................................... 13.50 9.25
Third Quarter........................................... 22.50 10.095
Fourth Quarter.......................................... 20.50 13.53
Fiscal Year ended July 31, 2001
First Quarter........................................... $21.50 $14.315
Second Quarter.......................................... 17.75 9.25
Third Quarter........................................... 12.00 8.625
Fourth Quarter (through May 31, 2001)................... 14.125 10.825
Fourth Quarter (June 1, 2001 to July 31, 2001).......... 7.73 5.5
The table below sets forth the high and low sales prices for the Class B
Common Stock (IDTB) as reported by the New York Stock Exchange for the fiscal
periods indicated.
High Low
---- ---
Fiscal Year ended July 31, 2001
Fourth Quarter (June 1, 2001 to July 31, 2001)......... $13.62 $10.00
On October 26, 2001, the last sale price reported on the New York Stock
Exchange for the Common Stock was $11.50 per share and for the Class B Common
Stock was $9.35 per share. On the same date, there were approximately 354
holders of record of the Common Stock and approximately 353 holders of record of
the Class B Common Stock. The aggregate market value of the voting stock held by
non-affiliates of the Registrant, based on the closing price of the Common Stock
on October 26, 2001, was approximately $264,078,996.50 million and based on the
closing price of the Class B Common Stock on October 26, 2001, was approximately
$240,978,400.80 million. Shares of Common Stock and Class B Common Stock held by
each officer and director and by each person who owns 5% or more of the
outstanding Common Stock and Class B Common Stock (assuming conversion of the
Company's outstanding Class A Common Stock into Common Stock) have been excluded
from this computation in that such persons may be deemed to be affiliates of the
Company. This determination of affiliate status is not necessarily a conclusive
determination for other purposes.
Aside from the Class B Dividend, we have never declared or paid any cash
dividends on our Common Stock or Class B Common Stock and do not expect to pay
dividends for the foreseeable future. Our current policy is to retain all of our
earnings to finance future growth. Any future declaration of dividends will be
subject to the discretion of the Board of Directors of the Company.
32
Item 6. SELECTED FINANCIAL DATA.
SELECTED CONSOLIDATED FINANCIAL DATA
The selected consolidated financial data presented below for each of the
five years in the period ended July 31, 2001 has been derived from our
consolidated financial statements, which have been audited by Ernst & Young LLP,
independent auditors. The selected consolidated financial data should be read in
conjunction with the Consolidated Financial Statements and the Notes thereto and
other financial information appearing elsewhere in this Report.
Year Ended July 31
-----------------------------------------------------------------------
1997 1998 1999 2000 2001
----------- ----------- ----------- ----------- -----------
(in thousands, except per share data)
Statement of Operations Data:
Revenues:
Retail ....................................... $ 35,283 $ 137,159 $ 395,542 $ 502,512 $ 816,384
Wholesale .................................... 64,654 166,705 289,030 520,518 388,120
Internet ..................................... 32,895 20,001 16,934 13,168 9,876
Internet Telephony ........................... 2,355 11,508 30,678 56,075 --
Ventures ..................................... -- -- -- 1,639 16,570
----------- ----------- ----------- ----------- -----------
Total revenues ........................... 135,187 335,373 732,184 1,093,912 1,230,950
Costs and expenses:
Direct cost of revenues ...................... 92,214 240,860 575,050 918,257 1,066,845
Selling, general and administrative .......... 41,545 61,975 128,500 343,702 337,107
Acquired research and development ............ -- 17,900 -- -- --
Depreciation and amortization ................ 4,873 13,810 36,360 48,564 60,351
Impairment Charges ........................... -- -- -- -- 199,357
----------- ----------- ----------- ----------- -----------
Total costs and expenses ................. 138,632 334,545 739,910 1,310,523 1,663,660
Income (loss) from operations ................ (3,445) 828 (7,726) (216,611) (432,710)
Other, net(1) ................................ (392) (425) (6,533) 606,528 1,180,190
Income tax provision (benefit) ............... -- (2,524) 7,253 218,403 209,395
Minority interests ........................... -- 3,896 (3,308) (59,336) 5,726
----------- ----------- ----------- ----------- -----------
Net income (loss) ................................ (3,837) (969) (18,204) 230,850 532,359
Subsidiary redeemable preferred stock dividends .. -- -- 26,297 -- --
----------- ----------- ----------- ----------- -----------
Net income (loss) available to common stockholders $ (3,837) $ (969) $ (44,501) $ 230,850 $ 532,359
=========== =========== =========== =========== ===========
Net income (loss) per share-basic(2) ............. $ (0.09) $ (0.02) $ (0.66) $ 3.30 $ 7.79
=========== =========== =========== =========== ===========
Weighted average number of shares used in
calculation of net loss per share-basic(2) ..... 42,306 57,142 67,060 69,933 68,301
=========== =========== =========== =========== ===========
Net income (loss) per share-diluted(2) ........... $ (0.09) $ (0.02) $ (0.66) $ 3.07 $ 7.12
=========== =========== =========== =========== ===========
Weighted average number of shares used in
calculation of net loss per share-diluted(2) ... 42,306 57,142 67,060 75,239 74,786
=========== =========== =========== =========== ===========
Balance Sheet Data:
Cash and cash equivalents ...................... $ 7,674 $ 115,284 $ 52,903 $ 162,879 $ 1,091,071
Working capital ................................ 4,887 166,381 179,415 347,930 915,393
Total assets ................................... 58,537 461,240 559,871 1,219,055 1,881,338
Long-term debt ................................. 5,241 101,834 112,973 12,174 380
Total stockholders' equity ..................... 25,259 282,792 276,329 468,188 1,075,985
----------
(1) For Fiscal 1998, Fiscal 1999 and Fiscal 2000 includes extraordinary losses
on retirement of debt, net of income taxes, of $132, $3,270 and $2,976,
respectively.
(2) All references to the number of common shares and per common share amounts
have been restated to give retroactive effect to the May 4, 2001 stock
dividend for all periods presented.
33
Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
Overview
General
IDT Corporation ("IDT") is a leading facilities-based emerging
multinational carrier that provides a broad range of telecommunications services
to retail and wholesale customers worldwide. We have grown considerably in
recent years, generating revenues of $732.2 million, $1,093.9 million and
$1,230.9 million in Fiscal 1999, Fiscal 2000 and Fiscal 2001, respectively.
During Fiscal 2001, we concluded a restructuring that transformed IDT
Corporation into a holding company, with operations conducted through two main
subsidiaries: IDT Telecom, Inc. and IDT Ventures, Inc.
IDT's telecommunications services, conducted by its IDT Telecom, Inc.
subsidiary, consist of retail services, including prepaid and rechargeable
calling cards and domestic long distance services, as well as wholesale carrier
services. IDT delivers its telecommunications services over a high-quality
network consisting of over 150 switches in the U.S. and Europe and owned and
leased capacity on 14 undersea fiber-optic cables, connecting our U.S.
facilities with our international facilities and with the facilities of our
foreign partners in Europe, Latin America and Asia. We monitor our network 24
hours a day, seven days a week through an automated network operations center.
In addition, we obtain transmission capacity from other carriers. We deliver our
international traffic worldwide pursuant to our agreements with U.S.-based
carriers, 19 of the top 25 global carriers, and more than 20 of the companies
that are primarily responsible for providing telecommunications services in
particular countries (commonly referred to as "Post, Telephone and Telegraphs,"
or "PTTs").
IDT offers retail long distance services to over 300,000 individual and
business customers in the U.S. and worldwide. In addition, as of October 1,
2001, we had approximately 185 wholesale customers located in the U.S. and
Europe. Minutes of use for our telecommunications business have grown from 2.78
billion minutes in Fiscal 1999 to 4.25 billion minutes in Fiscal 2000 to 7.05
billion minutes in Fiscal 2001.
34
Revenues
We have focused our marketing efforts on developing and increasing our
retail businesses and expanding the scope of the wholesale services we offer to
other carriers. During Fiscal 2001, we continued to grow our telecommunications
businesses, with a greater emphasis on our retail calling card operations. As a
result of these developments, our revenues from telecommunications operations
increased from $1,023.0 million during Fiscal 2000 to $1,204.5 million during
Fiscal 2001. Telecommunications revenues as a percentage of total revenues were
97.9% in Fiscal 2001, up from 93.5% in Fiscal 2000. Revenues from our
telecommunications operations are derived primarily from the following
activities:
o retail telecommunications services, including:
o domestic and international prepaid calling cards
o rechargeable and private label calling cards
o domestic long distance services to individuals and businesses
o wholesale telecommunications services, provided to other long distance
carriers
We generate revenues from the sale of our prepaid calling cards to
distributors, selling them to distributors at a discount to their face values of
different denominations, and recording the sales as deferred revenues until the
card user utilizes the calling time.
In recent years, we have placed increased emphasis on our international
telecommunications operations and less emphasis on our Internet businesses. In
addition, in Fiscal 2000, we began to develop several Ventures businesses; these
development activities continued in Fiscal 2001.
Concentration of Customers
Our most significant customers consist of other long distance carriers to
whom we provide wholesale telecommunications services. While they may vary from
quarter to quarter, our five largest customers accounted for 10.9% of revenues
35
in Fiscal 1999, 18.8% of revenues in Fiscal 2000 and 12.7% of revenues in Fiscal
2001. This concentration of revenues increases the risk of nonpayment by
customers. Other carriers have experienced significant write-offs related to the
provision of wholesale telecommunications services, in situations where large
customers failed to pay their outstanding balances. This risk, in general, was
more acute for participants in the emerging telecommunications industry, as
several customers declared bankruptcy, or faced financial difficulties, posing
increased credit risks. We perform ongoing credit evaluations of our customers,
but we generally do not require collateral to support accounts receivable from
our customers. In light of the deteriorating credit quality of some of our
customers, however, we have begun to impose stricter credit restrictions on some
customers.
Costs and Expenses
Direct cost of revenues for our telecommunications services include costs
associated with the transmission and termination of international and domestic
long distance services. Historically, this expense has primarily been variable,
based upon minutes of use, and consists mainly of payments to other long
distance carriers. To a lesser extent, we incur direct costs which are fixed for
a range of minutes of use, including customer/carrier interconnect charges,
leased fiber circuit charges and switch facility costs.
We operate a growing facilities-based telecommunications network consisting
of over 150 switches in the U.S. and Europe, as well as owned and leased
transmission capacity on 14 undersea fiber optic cables connecting our U.S.
facilities with our international facilities, and with the facilities of our
foreign partners in Europe, Latin America and Asia. We also obtain transmission
capacity on a per-minute basis from other carriers. We have traditionally
followed a disciplined strategy of establishing significant traffic volumes
prior to investing in fixed-cost facilities. As we expand our network and
traffic volumes, the cost of revenues will increasingly consist of fixed costs
associated with leased and owned lines, as well as costs arising from the
ownership and maintenance of our switches. The fixed nature of these costs may
lead to larger fluctuations in gross margins, depending on the minutes of
traffic and associated revenues we generate. We also expect that these factors
will cause the direct cost of revenues to decline as a percentage of revenues
over time. However, in the short term, we anticipate that the improvements in
gross margins resulting from an expansion in our network will be somewhat offset
by pricing pressure caused by intense competition. Even after prices begin to
stabilize, we anticipate that industrywide gross margins, and those for our
businesses in particular, will remain at levels below those of recent fiscal
years.
Selling expenses consist primarily of sales commissions paid to internal
salespersons and advertising costs, which are the primary costs associated with
the acquisition of customers. General and administrative expenses include
salaries, benefits, professional fees and other corporate overhead costs. These
costs have increased in recent fiscal years due to the development and expansion
of our operations and corporate infrastructure. As we continue to expand both
the scale and geographic scope of our telecommunications activities, and
continue to incur expenditures related to new business ventures that are beyond
the scope of our existing core businesses, we anticipate that selling, general
and administrative expenses will continue to increase.
Our Internet and Ventures revenues are generally associated with higher
selling, general and administrative expenses than are our telecommunications
revenues. Within our telecommunications operations, retail revenues generally
have higher selling, general and administrative expenses than have our wholesale
sales of telecommunications services. Within our group of retail
telecommunications businesses, revenues from our domestic long distance business
are generally associated with much higher selling, general and administrative
expenses than are our revenues from calling card sales. Despite the expected
de-emphasis on Internet revenues going forward, as we develop our Ventures
businesses, we expect to incur - in the short and intermediate term - selling,
general and administrative expenses that are much higher, in terms of percentage
of revenues than those incurred by our telecommunications businesses. With
domestic long distance expected to account for a larger proportion of overall
telecommunications revenues, and with Ventures businesses expected to exhibit
faster revenue growth than will our telecommunications businesses, we anticipate
that our selling, general and administrative expenses will increase as a
percentage of total revenues.
Capital Markets Activities
On May 4, 2001, we declared a stock dividend of one share of Class B Common
Stock for every one share of Common Stock, Class A Common Stock and Class B
36
Common Stock. The shares of IDT's Class B Common Stock are entitled to one-tenth
of a vote per share. IDT distributed the dividend shares on May 31, 2001 to
shareholders of record on May 14, 2001. The Class B Common Stock commenced
trading on the New York Stock Exchange, Inc. on June 1, 2001 under the ticker
symbol "IDT.B".
Subsequent Events
On October 23, 2001, IDT entered into an agreement to lead a consortium
that would concentrate ownership of approximately 50% (64% of the voting power)
of Net2Phone. The consortium consists of IDT, Liberty Media Corporation
("Liberty"), and AT&T, resulting in significant economic stakes in Net2Phone for
all three parties. As part of the agreement, IDT and AT&T contributed their
shares of Net2Phone (approximately 10.0 million and 18.9 million shares,
respectively) to a newly formed Limited Liability Company (LLC). Liberty then
acquired a substantial portion of the LLC's units from AT&T, while IDT increased
its stake and AT&T retained a significant interest. The LLC now holds an
aggregate of 28.9 million shares of Net2Phone's Class A common stock. IDT holds
the controlling membership interest in the LLC and will be the managing member
of the LLC.
Results of Operations
The following table sets forth the percentage of revenues represented by
certain items in our statement of operations (revenues and costs and expenses
are presented net of intercompany transactions):
Year Ended July 31,
1999 2000 2001
----- ----- -----
Revenues:
Retail .................................................................. 54.0 45.9 66.3
Wholesale ............................................................... 39.5 47.6 31.6
Internet ................................................................ 2.3 1.2 0.8
Net2Phone ............................................................... 4.2 5.1 0.0
Ventures ................................................................ 0.0 0.2 1.3
----- ----- -----
100.0% 100.0% 100.0%
Costs and expenses:
Direct cost of revenues ................................................. 78.5 83.9 86.7
Selling, general and administrative ..................................... 17.6 31.4 27.4
Depreciation and amortization ........................................... 5.0 4.4 4.9
Impairment Charges ...................................................... 0.0 0.0 16.2
----- ----- -----
Total costs and expenses ........................................... 101.1 119.7 135.2
----- ----- -----
Loss from operations ........................................................ (1.1) (19.8) (35.2)
Interest and Other (net) .................................................... (0.4) 55.7 95.6
----- ----- -----
Income (loss) before income taxes, minority interests and extraordinary items (1.5) 35.9 60.7
===== ===== =====
Accounting Treatment of Net2Phone
On August 11, 2000, we completed the sale of 14.9 million of our shares of
Net2Phone Class A Common Stock to AT&T for $75 per share. Upon completing this
transaction, our ownership interest in Net2Phone was reduced to approximately
10.0 million shares of Class A Common Stock, representing approximately a 16%
ownership interest and a 21% voting interest. Consequently, beginning with the
first quarter of Fiscal 2001, we are no longer consolidating Net2Phone's
results. Instead, we are using the equity method to account for our ownership
interest in Net2Phone. This change in the accounting treatment for our ownership
stake in Net2Phone will therefore have an impact upon the discussion of results
for Fiscal 2001 compared to Fiscal 2000.
37
Fiscal 2001 Compared to Fiscal 2000
Results of Operations
Revenues. Revenues increased 12.5%, from approximately $1,093.9 million in
Fiscal 2000 to approximately $1,230.9 million in Fiscal 2001. Telecommunications
revenues increased 17.7% from approximately $1,023.0 million in Fiscal 2000 to
approximately $1,204.5 million in Fiscal 2001. Internet revenues decreased 25.0%
from approximately $13.2 million in Fiscal 2000 to approximately $9.9 million in
Fiscal 2001. Revenues from Ventures businesses increased more than nine-fold,
from approximately $1.6 million in Fiscal 2000 to approximately $16.6 million in
Fiscal 2001. As a result of the change in accounting for our ownership interest
in Net2Phone from the full consolidation method to the equity method, we did not
record Internet telephony revenues in Fiscal 2001. Internet telephony revenues
amounted to approximately $56.1 million in Fiscal 2000.
Our telecommunications revenues increased primarily as a result of an
approximately 65.9% growth in minutes of use (excluding minutes related to our
domestic long distance business) from approximately 4.25 billion in Fiscal 2000
to approximately 7.05 billion in Fiscal 2001. The increase in minutes was due to
increased marketing of our calling cards and the February 2001 acquisition of
the prepaid calling card operations of PT-1, which outweighed the effects of
lower wholesale carrier minutes. The average revenue per minute decreased from
Fiscal 2000 to Fiscal 2001, despite the exit of several competitors from our
core retail and wholesale markets, due to the intensified price competition
initiated by our remaining competitors, as they attempt to defend their
remaining share of the market. The decline in wholesale carrier minutes resulted
from a reduction in the number of wholesale carrier services clients, reflecting
an ongoing transition of our wholesale customer base towards a smaller group of
larger, more financially stable customers. The decline in wholesale carrier
minutes resulted in a decrease in wholesale telecommunications revenues of
25.4%, from approximately $520.5 million in Fiscal 2000 to approximately $388.1
million in Fiscal 2001. As a percentage of telecommunications revenues,
wholesale telecommunications revenues decreased from approximately 50.9% in
Fiscal 2000 to approximately 32.2% in Fiscal 2001.
Our revenues from retail telecommunications services increased 62.5%, from
approximately $502.5 million in Fiscal 2000 to approximately $816.4 million in
Fiscal 2001, as a result of increased sales of IDT-branded prepaid calling
cards, the February 2001 acquisition of the prepaid calling card operations of
PT-1 and higher domestic long distance revenues. As a percentage of overall
telecommunications revenues, retail telecommunications revenues increased from
approximately 49.1% in Fiscal 2000 to approximately 67.8% in Fiscal 2001.
Calling card sales increased 58.1%, from approximately $477.0 million in Fiscal
2000, to approximately $754.0 million in Fiscal 2001, aided in large part by the
acquisition of the calling card operations of PT-1, and by a continued expansion
of our market share. During Fiscal 2001, we continued to take market share from
competitors who have scaled back their calling card operations or have left the
market entirely. Calling card sales as a percentage of our retail
telecommunication services revenues decreased from 94.9% in Fiscal 2000 to 92.4%
in Fiscal 2001, as revenues from domestic long distance services grew at a
faster rate than did calling card revenues. Our revenues from domestic long
distance services increased 309.5%, from approximately $13.7 million in Fiscal
2000, to approximately $56.1 million in Fiscal 2001. The domestic long distance
revenue gains are attributable to the full introduction of our flat-rate, $0.05
a minute long distance calling plan, which was accompanied by an aggressive
marketing campaign, resulting in a significant increase in the number of
domestic long distance customers. The remaining retail revenues for both Fiscal
2001 and Fiscal 2000 were primarily derived from our call reorigination
business. Revenues from our other retail businesses amounted to $6.3 million in
Fiscal 2001, versus $11.8 million in Fiscal 2000.
As a percentage of total revenues, Internet services revenues declined to
0.8% in Fiscal 2001, down from 1.2% in Fiscal 2000. The decrease in Internet
services revenues in dollar terms reflects our gradual exit from the dial-up
Internet access services business.
Internet telephony revenues as a percentage of total revenues amounted to
5.1% in Fiscal 2000. As mentioned above, no Internet telephony revenues was
recorded in Fiscal 2001, reflecting a change in the accounting treatment of our
Net2Phone stake to the equity method beginning in the first quarter of Fiscal
2001.
Direct Cost of Revenues. Our direct cost of revenues increased by 16.2%
from approximately $918.3 million in Fiscal 2000 to approximately $1,066.8
million in Fiscal 2001. As a percentage of total revenues, these costs increased
from 83.9% in Fiscal 2000 to 86.7% in Fiscal 2001. The dollar increase is due
38
primarily to increases in underlying carrier and connectivity costs, as our
telecommunications minutes of use grew significantly. As a percentage of total
revenues, the increase in direct costs reflects the gross margin pressures
experienced by both the retail and wholesale telecommunications segments,
reflecting intensified price competition in these markets. Although we witnessed
some abatement of the pricing pressure in select retail and wholesale markets
toward the end of Fiscal 2001, we anticipate that the general, industrywide
pricing pressure will continue in the short term, before the competitive
environment eases in the intermediate term, as more competitors exit the
industry. Gross margins were also adversely affected by network constraints, as
demand for usage outpaced the rate of deployment of additional network capacity.
This factor, which was particularly acute in our calling card business, where
our minutes of use increased approximately 79.5% in Fiscal 2001, caused us to
carry incremental minutes using transmission capacity obtained on a per-minute
basis from other carriers. These minutes are generally associated with lower
gross margins than are minutes carried over our own network. Partially
offsetting these factors was the shift in telecommunications revenue mix towards
higher gross margin retail revenues.
Selling, General and Administrative. Selling, general and administrative
costs decreased 1.9%, from approximately $343.7 million in Fiscal 2000 to
approximately $337.1 million in Fiscal 2001. As a percentage of total revenues,
these costs decreased from 31.4% in Fiscal 2000 to 27.4% in Fiscal 2001. The
decline in selling, general and administrative expenses, in dollar terms, is
primarily due to the exclusion in Fiscal 2001 of selling, general and
administrative expenses related to Net2Phone. Included in the $147.3 million in
Net2Phone-related expenses recorded in Fiscal 2000 was approximately $41.0
million in non-cash compensation as a result of option grants made by Net2Phone.
Partially offsetting the exclusion of Net2Phone expenses were increased selling,
general and administrative costs associated with both our core
telecommunications businesses, as well as our Ventures segment, which has
several innovative businesses in various stages of development. Selling, general
and administrative expenses from telecommunications operations increased 44.1%,
from $155.0 million in Fiscal 2000, to $223.3 million in Fiscal 2001. In recent
Fiscal years, selling, general and administrative expenses for our
telecommunications operations have increased significantly, due to several
factors, including increased international calling card distribution costs,
increased sales and marketing efforts for our retail services, such as prepaid
calling cards and domestic long distance, as well as increased salaries,
facilities costs and professional fees related to the expansion of our
infrastructure to facilitate our current and anticipated future sales growth.
During Fiscal 2001, we incurred approximately $70.2 million in selling,
general and administrative costs associated with our Ventures segment. Included
in this amount were expenses of approximately $6.0 million during the third
quarter of Fiscal 2001, related to the discontinuation of IDT Wireless, and
expenses of $12.5 million incurred during the first quarter of Fiscal 2001,
related to management incentive compensation arising from the completion of the
sale of our Net2Phone shares to AT&T. Approximately $27.5 million in selling,
general and administrative costs were recorded in our Ventures segment during
Fiscal 2000.
During Fiscal 2001, our Internet business recorded approximately $11.5
million in selling, general and administrative expenses, compared to $13.9
million in selling, general and administrative expenses related to our Internet
activities in Fiscal 2000.
In addition, during the fourth quarter of Fiscal 2001, we recorded
approximately $32.9 million in selling, general and administrative expenses in
connection with general corporate activities. This amount consists primarily of
$26.4 million in non-cash expenses incurred in relation to the establishment of
a corporate charitable foundation, which was funded with Company stock, as well
as approximately $6.5 million in severance, including amendments of option
agreements and other expenses relating to one executive, incurred in connection
with the restructuring of IDT Corporation, which took place during Fiscal 2001.
Expressed as a percentage of overall revenues, selling, general and
administrative costs declined in Fiscal 2001, reflecting the dollar decline
described above, coupled with an increase in overall revenues. We anticipate
that selling, general and administrative expenses will continue to increase in
dollar terms in the future, and will continue to be equivalent to a significant
percentage to total revenues, as we expand both our core telecommunications
businesses and our new Ventures businesses. Over the next few quarters, as we
move our different Ventures businesses through their respective development
stages, we anticipate that selling, general and administrative expenses for our
Ventures division could exceed, in dollar terms, the revenues generated from
this division.
Depreciation and Amortization. Depreciation and amortization costs
increased 24.3% from approximately $48.6 million in Fiscal 2000 to approximately
$60.4 million in Fiscal 2001. As a percentage of revenues, these costs increased
from 4.4% in Fiscal 2000 to 4.9% in Fiscal 2001. This increase is due primarily
to our higher fixed asset base during Fiscal 2001 as compared with Fiscal 2000,
reflecting our efforts to expand our telecommunications network infrastructure
and our facilities. The increase in depreciation and amortization costs was
partially offset by the deconsolidation of Net2Phone. We anticipate that
39
depreciation expense to increase as we continue to add to our asset base,
particularly in our telecommunications businesses, allowing us to implement our
growth strategy.
In June 2001, the FASB issued SFAS No.142, Goodwill and Other Intangible
Assets, effective for fiscal years beginning after December 15, 2001, with early
adoption permitted for companies with fiscal years beginning after March 15,
2001. Under the new rules, goodwill and intangible assets deemed to have
indefinite lives will no longer be amortized but will be subject to annual
impairment tests in accordance with the Statements. Other intangible assets will
continue to be amortized over their useful lives. We have chosen to early adopt
the new rules on accounting for goodwill and other intangible assets and apply
them beginning in the first quarter of fiscal 2002. We are currently performing
the required impairment tests of goodwill and indefinite lived intangible assets
as of August 1, 2001. Although the tests have not yet been finalized,
preliminary indications are that we will record a significant impairment charge
on our goodwill in the first quarter of fiscal 2002. The impairment charge will
be recorded as a cumulative effect adjustment of a change in accounting
principle.
Impairment Charges. In the fourth quarter of Fiscal 2001, we impaired and
wrote down the value of our TyCom fiber asset by $193.4 million, reflecting the
significant erosion of market prices for undersea fiber. In addition, as a
result of the sale of the majority of our dial-up Internet access customers and
our gradual exit from the dial-up Internet access business, we recorded a total
charge of $6.0 million during the third and fourth quarter of Fiscal 2001, to
write down certain equipment previously used to provide such services.
Loss from Operations. Our loss from operations was $432.7 million in Fiscal
2001 compared to a loss from operations of $216.6 million in Fiscal 2000. Our
telecommunications businesses recorded a loss from operations of $127.2 million
in Fiscal 2001, compared to a loss of approximately $45.3 million in Fiscal
2000, reflecting weaker margins for both our calling card and wholesale carrier
businesses, and substantially higher selling, general and administrative
expenses, as described above.
Loss from operations for our Internet business increased to approximately
$19.9 million in Fiscal 2001 from approximately $18.1 million in Fiscal 2000, as
we recorded an impairment charge of $6.0 million to write down certain equipment
previously used to provide dial-up Internet access services.
Loss from operations for our Ventures segment increased to approximately
$253.5 million from approximately $27.3 million in Fiscal 2000. The increased
loss reflects the TyCom fiber asset impairment detailed above, increased
development costs for various Ventures businesses, as well as approximately $6.0
million in costs associated with the discontinuation of the IDT Wireless
business in the third quarter of Fiscal 2001.
Loss from operations for Net2Phone amounted to approximately $125.9 million
for Fiscal 2000, with no corresponding loss from operations recorded during
Fiscal 2001, reflecting the change in accounting for Net2Phone.
In addition, the loss from operations included the $32.9 million in general
corporate expenses mentioned above.
Interest and Other Income. Net Interest and Other Income amounted to
approximately $1,180.2 million in Fiscal 2001, compared to $609.5 million in
Fiscal 2000.
Included in other income for Fiscal 2001 is a realized gain of $999.6
million on our sale of 14.9 million shares of Net2Phone Class A Common Stock to
AT&T, $38.1 million in gains we recognized in conjunction with Net2Phone's sale
of newly issued shares to AT&T and approximately $313.5 million in gains related
to the settlement of our lawsuit with TyCom Ltd. Partially offsetting this
income was a recognized loss of approximately $129.2 million related primarily
to the sale of some of our Terra Networks shares, as well as other investment
losses including losses of approximately $58.8 million and $14.6 million
associated with recording our pro-rata share of Net2Phone's and Teligent's
losses, respectively, through the equity method. Also included were net interest
income and other investment gains totaling $31.6 million.
Included in other income for Fiscal 2000 is $142.3 million in gains
recognized by us in conjunction with Net2Phone's sale of shares in its initial
public offering and concurrent conversion of Net2Phone's series A stock to Class
A Common Stock in August 1999 and secondary offering in December 1999, a
realized gain of $105.8 million on our sale of 2.2 million Net2Phone shares as
part of Net2Phone's Secondary Offering and approximately $123.0 million on
Net2Phone's sale of approximately 2.8 million shares for approximately 806,000
shares of Yahoo, Inc. (NASDAQ: YHOO) and other equity transactions. Also
included in other income was a gain of approximately $231.3 million related to
the sale of our interests in two Internet joint ventures with Terra Networks in
exchange for Terra Networks stock, and a gain of approximately $24.9 million on
the sale of some of our Terra Networks shares in the fourth quarter of Fiscal
2000. The above were partially offset by approximately $17.8 million in net
interest expense and other investment losses.
Income Taxes. We recorded income tax expense of approximately $209.4
million in Fiscal 2001, compared to income tax expense of approximately $218.4
million in Fiscal 2000. An income tax benefit of $2.7 million upon the exercise
of stock options was recorded directly into additional paid-in capital in Fiscal
2001.
40
Fiscal 2000 Compared to Fiscal 1999
Results of Operations
Revenues. Revenues increased 49.4%, from approximately $732.2 million in
Fiscal 1999 to approximately $1,093.9 million in Fiscal 2000. Telecommunications
revenues increased 49.4% from approximately $684.6 million in Fiscal 1999 to
approximately $1,023.0 million in Fiscal 2000. Internet revenues decreased 21.9%
from approximately $16.9 million in Fiscal 1999 to approximately $13.2 million
in Fiscal 2000. Internet telephony revenues increased 82.7% from approximately
$30.7 million in Fiscal 1999 to approximately $56.1 million in Fiscal 2000.
Revenues from Ventures businesses amounted to approximately $1.6 million in
Fiscal 2000. No revenues were recorded from these businesses during Fiscal 1999.
Telecommunications revenues increased 49.4%, primarily as a result of a
53.1% increase in minutes of use, from approximately 2.8 billion to
approximately 4.3 billion. Telecommunications minutes increased primarily due to
the addition of wholesale carrier service clients, increased usage by existing
clients, and increased marketing and sales of our prepaid calling cards. The
addition of wholesale carrier services clients and increased use by existing
clients resulted in an increase in wholesale carrier services revenues of 80.1%,
from approximately $289.0 million in Fiscal 1999 to approximately $520.5 million
in Fiscal 2000. As a percentage of telecommunications revenues, wholesale
carrier services revenues increased from approximately 42.2% in Fiscal 1999 to
50.9% in Fiscal 2000, as wholesale revenues grew at a faster rate than did
revenues from prepaid calling cards and other retail telecommunications
businesses. Revenues from sales of prepaid calling cards increased 31.0% from
approximately $364.0 million in Fiscal 1999 to approximately $477.0 million in
Fiscal 2000. As a percentage of telecommunications revenues, prepaid calling
card revenues decreased from approximately 53.2% in Fiscal 1999 to approximately
46.6% in Fiscal 2000. As a percentage of telecommunications revenues,
international retail services revenues decreased from 3.0% in Fiscal 1999 to
1.0% in Fiscal 2000, while domestic long distance revenues decreased from 1.5%
in Fiscal 1999 to 1.3% in Fiscal 2000.
As a percentage of total revenues, Internet revenues decreased from
approximately 2.3% in Fiscal 1999 to approximately 1.2% in Fiscal 2000. This
decrease was due to a dollar decrease in Internet access revenues due to a
decrease in total dial-up subscribers, as well as the substantial increase in
telecommunications revenues as a percentage of total revenues. Internet
telephony revenues as a percentage of total revenues increased from 4.2% in
Fiscal 1999 to 5.1% in Fiscal 2000. The increase in Internet telephony revenues
was primarily due to an increase in billed-minute usage resulting from increased
marketing of Net2Phone's Internet telephony products and services.
Direct Cost of Revenues. Our direct cost of revenues increased by 59.7%
from approximately $575.0 million in Fiscal 1999 to approximately $918.3 million
in Fiscal 2000. As a percentage of total revenues, these costs increased from
78.5% in Fiscal 1999 to 83.9% in Fiscal 2000. The dollar increase is due
primarily to increases in underlying carrier and connectivity costs, as our
telecommunications minutes of use, and associated revenues, grew substantially.
As a percentage of total revenues, the increase in direct costs reflects a
change in the revenue mix, in which we experienced lower gross margins
associated with wholesale carrier services as compared with retail
telecommunications services and Internet services. In addition, within the
retail telecommunications division, the increase in direct costs reflects lower
gross margins associated with prepaid calling card services as compared with
international retail and domestic long distance services. Within our major
telecommunications business lines, gross margins were lower for both wholesale
carrier services and prepaid calling cards, reflecting an increasingly
competitive operating environment, which has resulted in price and gross margin
erosion throughout the industry. We anticipate that this pricing pressure will
continue in the short term, before the competitive environment eases in the
intermediate term, as several competitors exit the industry. Gross margins were
also adversely affected by network constraints as demand for usage outpaced the
rate of deployment of additional network capacity. This caused us to carry
incremental minutes using transmission capacity obtained on a per-minute basis
from other carriers. These minutes are generally associated with lower gross
margins than are minutes carried over our own network. Slightly offsetting these
factors was the increase in Internet telephony revenues as a percentage of total
revenues. These revenues are generally associated with higher gross margins than
are telecommunications revenues.
Selling, General and Administrative. Selling, general and administrative
costs increased 167.5%, from approximately $128.5 million in Fiscal 1999 to
approximately $343.7 million in Fiscal 2000. As a percentage of total revenues,
these costs increased from 17.5% in Fiscal 1999 to 31.4% in Fiscal 2000. The
increase in these costs in dollar terms is due primarily to increased sales and
marketing efforts for retail services, particularly for prepaid calling cards,
41
the aggressive expansion of the domestic long distance business, and for
Net2Phone. Increased salaries, facilities costs and professional fees related to
the expansion of our domestic and European telecommunications businesses also
contributed to the rise in overall selling, general and administrative costs. In
addition, we incurred approximately $27.5 million in selling, general and
administrative expenses related to the formation and development of our various
Ventures businesses, including IDT Wireless, FreeAtLast.com, TV.TV and Brix
Communications. To a lesser extent, the increase in selling, general and
administrative expenses was also attributable to an increase in bad debt
expense, due to financial difficulties encountered by some of our customers.
Included in salaries is non-cash compensation as a result of option grants
made by Net2Phone. This amounted to $16.0 million and $41.0 million,
respectively, in Fiscal Years 1999 and 2000.
Depreciation and Amortization. Depreciation and amortization costs
increased 33.5% from approximately $36.4 million in Fiscal 1999 to approximately
$48.6 million in Fiscal 2000. As a percentage of revenues, these costs decreased
from 5.0% in Fiscal 1999 to 4.4% in Fiscal 2000. These costs increased in
absolute terms due primarily to our higher fixed asset base during Fiscal 2000
as compared with Fiscal 1999, reflecting the expansion of our telecommunications
network infrastructure and our facilities.
Loss from Operations. Our loss from operations was $216.6 million in Fiscal
2000, compared to a loss from operations of $7.7 million in Fiscal 1999. Our
telecommunications businesses recorded a loss from operations of $45.3 million
in Fiscal 2000, compared to income from operations of approximately $24.9
million in Fiscal 1999, reflecting weaker margins for both our wholesale carrier
and prepaid calling card businesses, and substantially higher selling, general
and administrative expenses, as described above.
Loss from operations for our Internet business increased to approximately
$18.1 million in Fiscal 2000 from approximately $8.2 million in Fiscal 1999. The
increased loss is due to lower revenues resulting from a decrease in total
dial-up subscribers, significantly lower gross margins and a 22% increase in
operating expenses. The rise in operating expenses is due in large part to
expenses incurred in connection with the formation of an Internet access joint
venture with Terra Networks. This joint venture has since been discontinued.
Loss from operations for our Ventures division, which is developing several
new telecom and Internet-related businesses, was approximately $27.3 million in
Fiscal 2000, reflecting start-up, marketing and development costs.
Loss from operations for Net2Phone increased to approximately $125.9
million for Fiscal 2000, compared to a loss of approximately $24.4 million for
Fiscal 1999. This increase is due primarily to a substantial increase in both
sales and marketing expenses as well as general and administrative expenses
incurred as Net2Phone expanded distribution relationships, corporate
infrastructure and human resources.
Interest and Other Income. Interest and Other Income amounted to
approximately $609.5 million in Fiscal 2000, compared to net interest and other
investment losses of approximately $3.3 million in Fiscal 1999. Included in
other income for Fiscal 2000 is $142.3 million in gains recognized by us in
conjunction with Net2Phone's sale of shares in its initial public offering and
concurrent conversion of Net2Phone's series A stock to Class A Common Stock in
August 1999 and secondary offering in December 1999, a realized gain of $105.8
million on our sale of 2.2 million Net2Phone shares as part of Net2Phone's
Secondary Offering and approximately $123.0 million on Net2Phone's sale of
approximately 2.8 million shares for approximately 806,000 shares of Yahoo, Inc.
(NASDAQ: YHOO) and other equity transactions. Also included in other income was
a gain of approximately $231.3 million related to the sale of our interests in
two Internet joint ventures with Terra Networks in exchange for Terra Networks
stock, and a gain of approximately $24.9 million on the sale of some of our
Terra Networks shares in the fourth quarter of Fiscal 2000. The above were
partially offset by approximately $17.8 million in net interest expense and
other investment losses.
42
Income Taxes. We recorded income tax expense of approximately $218.4
million attributable to continuing operations in Fiscal 2000, versus income tax
expense of approximately $7.3 million in Fiscal 1999. An income tax benefit of
$10.3 million upon the exercise of stock options was recorded directly into
additional paid-in capital in Fiscal 2000.
Subsidiary Redeemable Preferred Stock Dividends. On May 13, 1999, Net2Phone
designated 3.15 million shares of its preferred stock as Series A ("Series A
Stock") and sold 3.14 million of such shares to unrelated third parties in a
private placement transaction for aggregate gross proceeds of $31.4 million.
The Series A Stock contained beneficial conversion features. The total
value of the beneficial conversion features approximated $75 million. For
accounting purposes, the value of the beneficial conversion features was limited
to the amount of proceeds allocated to the Series A Stock. We recorded an
increase in net loss available to common stockholders on the date of issuance of
the Series A Stock in the amount of approximately $26.3 million representing
their allocable share of the amount attributable to the beneficial conversion
feature. Each share of Series A Stock was converted into three shares of
Net2Phone Class A Common Stock at the time of Net2Phone's initial public
offering. Upon completion of Net2Phone's initial public offering and concurrent
conversion of Series A Preferred Stock into Class A Common stock, we recorded a
pretax gain of approximately $65.6 million in the first quarter of Fiscal 2000.
Deferred taxes of approximately $26.2 million have been provided on the gain.
43
Quarterly Results of Operations
The following table sets forth certain quarterly financial data for the
eight quarters ended July 31, 2001. This quarterly information is unaudited, has
been prepared on the same basis as the annual financial statements and, in the
opinion of our management, reflects all adjustments (consisting only of normal
recurring adjustments) necessary for a fair presentation of the information for
the periods presented. Operating results for any quarter are not necessarily
indicative of results for any future period.
IDT CORPORATION
CONSOLIDATED QUARTERLY INCOME STATEMENTS
(in thousands, except per share data)
Oct. 31, Jan. 31, April 30, July 31, Oct. 31, Jan. 31, April 30, July 31,
1999 2000 2000 2000 2000 2001 2001 2001
--------- --------- --------- --------- --------- --------- --------- ---------
Revenues:
Retail .................... $ 130,737 $ 132,890 $ 124,138 $ 114,746 $ 157,042 $ 177,574 $ 237,588 $ 244,180
Wholesale ................. 137,755 127,661 121,781 133,322 110,768 103,295 93,802 80,255
Internet .................. 3,547 3,048 3,298 3,275 3,635 3,075 1,536 1,630
Internet Telephony ........ 11,382 11,919 13,887 18,887 -- -- -- --
Ventures .................. -- -- 6 1,632 5,152 3,653 2,796 4,969
--------- --------- --------- --------- --------- --------- --------- ---------
Total revenues ........... 283,421 275,518 263,110 271,862 276,597 287,597 335,722 331,034
Costs and expenses:
Direct cost of revenues ... 230,199 220,785 210,634 256,639 238,619 252,153 298,286 277,787
Selling, general and
Administrative ............ 48,617 56,720 71,345 167,019 83,382 69,288 74,238 110,199
Depreciation and
Amortization .............. 9,926 10,449 11,624 16,565 14,666 14,611 13,613 17,461
Impairment Charges ........ -- -- -- -- -- -- 5,156 194,201
--------- --------- --------- --------- --------- --------- --------- ---------
Total costs and expenses . 288,742 287,954 293,603 440,223 336,667 336,052 391,293 599,648
--------- --------- --------- --------- --------- --------- --------- ---------
Loss from Operations......... (5,321) (12,435) (30,493) (168,361) (60,070) (48,455) (55,571) (268,614)
Interest and Other (net) .... 65,161 183,116 236,946 124,280 1,327,019 (106,401) (29,998) (10,430)
--------- --------- --------- --------- --------- --------- --------- ---------
Income (loss) before taxes,
minority interests and
extraordinary item ........ 59,840 170,681 206,453 (44,081) 1,266,949 (154,856) (85,569) (279,044)
Income tax provision
(benefit) ................. 26,706 74,877 88,350 28,471 396,458 (40,411) (39,953) (106,699)
Minority interests .......... (2,597) (5,516) (7,879) (43,344) 923 2,659 2,661 (517)
--------- --------- --------- --------- --------- --------- --------- ---------
Income (loss) before
extraordinary item ........ 35,731 101,320 125,982 (29,208) 869,568 (117,104) (48,277) (171,828)
Extraordinary item, net of
income taxes .............. -- (2,976) -- -- -- -- -- --
--------- --------- --------- --------- --------- --------- --------- ---------
Net income (loss) ........... 35,731 98,344 125,982 (29,208) 869,568 (117,104) (48,277) (171,828)
========= ========= ========= ========= ========= ========= ========= =========
Net income (loss) per
share-basic(1) ............ $ 0.52 $ 1.44 $ 1.82 $ (0.41) $ 12.43 $ (1.77) $ (0.73) $ (2.44)
========= ========= ========= ========= ========= ========= ========= =========
Weighted average shares
outstanding-basic(1) ...... 68,131 68,264 69,080 70,524 69,931 66,190 66,471 70,448
========= ========= ========= ========= ========= ========= ========= =========
Net income (loss) per
share-diluted(1) .......... $ 0.49 $ 1.35 $ 1.66 $ (0.41) $ 11.27 $ (1.77) $ (0.73) $ (2.44)
========= ========= ========= ========= ========= ========= ========= =========
Weighted average shares
outstanding-diluted(1) .... 73,205 72,877 75,992 70,524 77,185 66,190 66,471 70,448
========= ========= ========= ========= ========= ========= ========= =========
---------------
(1) All references to the number of common shares and per common share amounts
have been restated to give retroactive effect to the May 4, 2001 stock
dividend for all periods presented.
44
Liquidity and Capital Resources
General
Historically, we have satisfied our cash requirements through a combination
of cash flow from operating activities, sales of equity and debt securities and
borrowings from third parties. Additionally, we received approximately $1.1
billion from the sale of Net2Phone Class A Common Stock to AT&T in August 2000.
As of July 31, 2001, we had cash, cash equivalents and marketable
securities of approximately $1.1 billion and working capital of approximately
$915.4 million. We generated positive cash flow from operating activities of
approximately $26.2 million during Fiscal 2001, compared with negative cash flow
from operating activities of approximately $77.1 million during Fiscal 2000. Our
cash flow from operations varies significantly from quarter to quarter and from
year to year, depending on the timing of operating cash receipts and payments,
especially accounts receivable and accounts payable. Accounts receivable,
accounts payable and accrued expenses have generally increased from period to
period as our businesses have grown.
Our capital expenditures were approximately $106.5 million in Fiscal 2001,
compared to approximately $101.2 million in Fiscal 2000, as we have continued to
expand our international and domestic telecommunications network infrastructure.
We anticipate making significant capital expenditures in Fiscal 2002 and beyond,
as we expand our telecommunications infrastructure, primarily to accommodate the
anticipated continued increase in calling card-related telecommunications
minutes of use. From time to time, we will finance a portion of our capital
expenditures through capital leases, with the cost of such financing the primary
consideration in determining our financing activity.
We experience intense price competition in our telecommunications
businesses. The long distance telecommunications industry has been characterized
by significant declines in both per-minute revenues and per-minute costs. In the
past, these factors have tended to generally offset each other. However, since
the mid-point of Fiscal 2000, as per-minute pricing continued to erode, and
began to outpace the drop in per-minute costs, gross margins have come under
increasing pressure. Our long term strategy involves terminating a larger
proportion of minutes on our own network, thereby lowering costs and preserving
margins even in a weaker price environment. In addition, as our minutes of use
have steadily grown, we have attempted to leverage our burgeoning buying power -
as well as our financial stability - to negotiate more favorable rates with our
suppliers. However, in the short term, the incremental demand for usage has
outpaced the rate of deployment of additional network capacity, particularly in
light of the significant increase in minutes of use we have experienced as a
result of the recent acquisition of the calling card operations of PT-1 and the
growth of IDT's existing calling card business. In fact, it has become
commonplace within the industry for companies to experience delays in network
build-out programs. As such, there can be no assurance that we will be able to
maintain our gross margins at the current level, in the face of lower per-minute
revenues.
We continued to fund our Ventures segment throughout Fiscal 2001, incurring
significant start-up, development, marketing and promotional costs. In some
cases, we incurred expenses related to the discontinuation of Ventures
businesses. As we move our Ventures businesses through their respective
development stages, we anticipate that selling, general and administrative
expenses for our Ventures segment will exceed, by a significant amount, the
revenues generated by this segment for the foreseeable future. Due to the
start-up nature of many of our Ventures businesses, the exact timing and
magnitude of future revenues remains difficult to predict.
Changes in Other Current Assets, Accounts Receivable, Allowance for Doubtful
Accounts and Deferred Revenues
Other current assets decreased from $87.9 million at July 31, 2000 to $32.4
million at July 31, 2001, due to decreases in contract deposits and prepaid
expenses due to the deconsolidation of Net2Phone. The average age of our
accounts receivable, as measured by number of days sales outstanding, declined
during Fiscal 2001. This was due to both a decrease in receivables in absolute
dollar terms, as well as the recent growth in revenues, which has served to
reduce the number of days sales outstanding.
45
Due to the wide range of collection terms, future trends with respect to
days sales outstanding generally depends on the proportion of total sales made
to carriers, who are often offered extended payment terms of up to 90 days, and
prepaid calling card distributors, who generally receive terms of up to 30 days.
As such, the trends in days sales outstanding will depend, in large part, on the
mix of wholesale (carrier) versus retail (prepaid calling card distributor)
customers. Therefore, the reduction in days sales outstanding we experienced
during Fiscal 2001, was due, in large part, to the significant shift in revenue
mix from wholesale to retail revenues. As we anticipate that in the near term
retail revenues will continue to account for an increasing proportion of overall
revenues, we could experience further declines in the average age of our
accounts receivable in Fiscal 2002. Conversely, as we are willing to extend
longer payment terms to more credit-worthy customers, an increase in customers
belonging to the highest credit classes, as a percentage of total customers,
could lead to an increase in days sales outstanding. Therefore, due to the
conflicting nature of the above factors, future trends in days sales outstanding
remain difficult to predict, and it is not possible at this time to determine
whether recent trends in days sales outstanding will continue.
The allowance for doubtful accounts as a percentage of accounts receivable
increased from 14.3% at July 31, 2000, to 16.2% at July 31, 2001. The increase
reflects the deteriorating credit quality of a portion of our existing wholesale
customer base, as well as the increase in the number of domestic long distance
customers, who have traditionally required a larger reserve than do wholesale
and retail calling card customers. Although we anticipate that our customer base
- across all business lines - will continue its transition towards a more
credit-worthy group, some of our existing accounts receivable are still related
to sales made to less credit-worthy customers. In addition, during the first
quarter of Fiscal 2001, we collected large amounts of previously unsettled
outstanding wholesale receivables against which there were offsetting payables.
Therefore, these receivables did not have allowances for doubtful accounts
associated with them. Collections of these receivables had the effect of
reducing gross receivables, while not having an impact on the allowance for
doubtful accounts, resulting in a higher allowance for doubtful accounts when
measured as a percentage of accounts receivable.
Deferred revenues as a percentage of total revenues vary from period to
period, depending on the mix and the timing of revenues. During Fiscal 2001, we
experienced a steady increase in the sale of our prepaid calling cards due to
increased marketing efforts for existing IDT prepaid calling cards and the
acquisition of the prepaid calling card operations of PT-1. This resulted in a
continued increase in actual deferred revenues.
Significant Transactions
In August 2000, we sold 14.9 million shares of our Net2Phone Class A Common
Stock to AT&T, at a purchase price of $75 per share, for total cash
consideration of approximately $1.1 billion. In addition, AT&T purchased an
additional 4 million newly-issued shares of Net2Phone Class A Common Stock, also
at a price of $75 per share, paying approximately $300.0 million to Net2Phone.
We hold currently approximately 16% of Net2Phone's outstanding stock, and
approximately 21% of the voting interest.
In addition, in March 2000 we were granted the option to sell to AT&T
approximately 2.04 million shares of our Class B Common Stock for approximately
$75.0 million. In March 2001, we exercised this option.
In February 2001, we purchased PT-1, a wholly-owned subsidiary of STAR
Telecommunications, Inc., relating to its prepaid calling card business, with a
payment of cash and assumption of certain specified liabilities, including the
obligation to honor the outstanding phone cards of PT-1. The cash payment and
assumption of net liabilities incurred have been estimated to be $26.3 million,
with substantially all of the purchase price being recorded as goodwill and
amortized over 20 years.
In April 2001, through our IDT Investments subsidiary, we acquired from
Liberty Media approximately 21.4 million shares of Teligent, as well as an
interest in ICG, represented by 50,000 shares of ICG's A-3 Preferred Stock and
warrants to purchase approximately 6.7 million ICG common shares. In exchange,
IDT Investments issued Liberty Media a total of 10,000 shares of its Class B
Common Stock and 40,000 shares of its Preferred Class A stock.
In May 2001, through our IDT Investments subsidiary, we entered into an
agreement with various affiliates of HMTF to increase our strategic investments
in Teligent and ICG. Under the terms of the agreement, the HMTF affiliates will
receive shares of IDT Investments' Series B Convertible Preferred Stock in
exchange for the HMTF affiliates' stakes in Teligent and ICG. The HMTF
46
affiliates currently own 219,998 shares of Teligent's Series A Convertible
Preferred Stock, 23,000 shares of ICG's 8% Series A-2 Convertible Preferred
Stock and warrants to purchase approximately 3.1 million shares of ICG's common
stock.
Stock Buyback Program
In May 2000, our Board of Directors authorized the repurchase of up to ten
million shares of our common stock. In July 2000, our Board of Directors
authorized an increase in the share repurchase program to 20 million shares. In
October 2000, our Board of Directors authorized a further increase in the share
repurchase program to 25 million shares. During the fiscal year ended July 31,
2001, we repurchased approximately 8.0 million shares, for an aggregate purchase
price of approximately $135.8 million. Combined with the approximately 6.3
million shares purchased during the fiscal year ended July 31, 2000, we have
repurchased a total of approximately 14.3 million shares under the share
repurchase program through the end of Fiscal 2001. In addition, we repurchased
1.4 million common shares during the first quarter of Fiscal 2002.
Other Sources and Uses of Resources
We intend to, where appropriate, make strategic acquisitions to expand our
telecommunications businesses. These acquisitions could include, but are not
limited to, acquisitions of telecommunications equipment, telecommunications
network capacity, customer bases or other assets. We may also make strategic
acquisitions related to any of our new Ventures businesses. From time to time,
we evaluate potential acquisitions of companies, technologies, products and
customer accounts that complement our businesses, particularly in light of the
financial distress currently being encountered by many telecommunications firms.
These conditions have resulted in the availability for sale of numerous
strategic assets and businesses. Consequently, during Fiscal 2001, we purchased
approximately $60 million of assets and stock of several telecommunications and
related businesses, including the prepaid calling card business of PT-1.
We believe that, based upon our present business plan, and as a result of
the cash proceeds generated by the sale of the majority of our Net2Phone sales
to AT&T, our existing cash resources will be sufficient to meet our currently
anticipated working capital and capital expenditure requirements and to fund any
potential operating cash flow deficits for at least the next twelve months. If
our growth exceeds current expectations or if we acquire the business or assets
of another company, or if our operating cash flow deficit exceeds our
expectations to the point that we cannot meet our working capital and capital
expenditure requirements, we will need to raise additional capital from equity
or debt sources. There can be no assurance that we will be able to raise such
capital on favorable terms or at all. If we are unable to obtain such additional
capital, we may be required to reduce the scope of our anticipated expansion,
which could have a material adverse effect on our business, financial condition
or results of operations.
European Currency Conversion
In January 1999, a new currency called the "euro" was introduced in certain
Economic and Monetary Union ("EMU") countries. The EMU countries adopted the
euro as their common legal currency, and through January 1, 2002, both the
existing national currency of the respective EMU country and the euro will be
accepted as legal currency. Beginning in 2002, all EMU countries are expected to
operate with the euro as their single currency. Uncertainty exists as to the
effect the euro currency will have on the market for international
telecommunications services. Additionally, all of the final rules and
regulations have not yet been defined and finalized by the European Commission
with regard to the euro currency. IDT's management does not anticipate, based on
currently available information, that the euro will have a material adverse
impact on our operations and sales.
Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS.
The Securities and Exchange Commission's rule related to market risk
disclosure requires that we describe and quantify our potential losses from
market risk sensitive instruments attributable to reasonably possible market
changes. Market risk sensitive instruments include all financial or commodity
instruments and other financial instruments (such as investments and debt) that
are sensitive to future changes in interest rates, currency exchange rates,
commodity prices or other market factors. We are not exposed to market risks
from changes in commodity prices, and we do not consider the market risk
exposure relating to foreign currency exchange to be material. We do not hold
derivative financial instruments nor do we hold securities for trading or
speculative purposes. We are exposed to changes in interest rates primarily from
our investments in cash equivalents. Under our current policies, we do not use
interest rate derivative instruments to manage our exposure to interest rate
changes.
Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The consolidated financial statements and supplementary data of the Company
and the report of independent auditors thereon set forth on pages F-1 through
F-__ herein are incorporated herein by reference.
47
Quarterly financial information set forth herein at page 44 is incorporated
herein by reference.
Item 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
48
PART III
Item 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The information required by this Item will be contained in the Company's
Proxy Statement for its Annual Stockholders Meeting, which will be filed with
the Securities and Exchange Commission within 120 days after July 31, 2001, and
which is incorporated by reference herein.
Item 11. EXECUTIVE COMPENSATION.
The information required by this Item will be contained in the Company's
Proxy Statement for its Annual Stockholders Meeting, which will be filed with
the Securities and Exchange Commission within 120 days after July 31, 2001, and
which, with the exception of the sections entitled "Report of the Compensation
Committee of the Board of Directors" and "Performance Graph of Common Stock," is
incorporated by reference herein.
Item 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The information required by this Item will be contained in the Company's
Proxy Statement for its Annual Stockholders Meeting, which will be filed with
the Securities and Exchange Commission within 120 days after July 31, 2001, and
which is incorporated by reference herein.
Item 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The information required by this Item will be contained in the Company's
Proxy Statement for its Annual Stockholders Meeting, which will be filed with
the Securities and Exchange Commission within 120 days after July 31, 2001, and
which is incorporated by reference herein.
49
PART IV
Item 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
(a) The following documents are filed as part of this Report:
1. Financial Statements.
2. Financial Statement Schedules.
Schedule No. Description
I. Valuation and Qualifying Accounts
3. Exhibits
Exhibit
Number Description of Exhibit
------ ----------------------
3.01(1) Restated Certificate of Incorporation of the Registrant.
3.02(1) By-laws of the Registrant.
3.03(16) Certificate of Amendment to the Restated Certificate of
Incorporation of the Registrant.
10.01(2) Employment Agreement between the Registrant and Howard S.
Jonas.
10.02(18) 1996 Stock Option and Incentive Plan, as amended and
restated, of the Registrant.
10.03(3) Form of Stock Option Agreement under the 1996 Stock Option
and Incentive Plan.
10.04(4) Form of Registration Rights Agreement between certain
stockholders and the Registrant.
10.05(1) Lease of 294 State Street.
10.06(5) Lease of 190 Main Street.
10.7(6) Form of Registration Rights Agreement between Howard S.
Jonas and the Registrant.
10.8(10) Employment Agreement between the Registrant and James
Courter.
10.9(7) Agreement between Cliff Sobel and the Registrant.
10.10(10) Employment Agreement between the Registrant and Hal Brecher.
10.11(10) Employment Agreement between the Registrant and Howard S.
Jonas.
10.12(8) Agreement and Plan of Merger, dated April 7, 1998, by and
among the Registrant, ADM Corp., InterExchange, Inc., David
Turock, Eric Hecht, Richard Robbins, Bradley Turock, Wai Nam
Tam, Mary Jo Altom and Lisa Mikulynec.
10.13(9) Securities Purchase Agreement between the Registrant, Carlos
Gomez and Union Telecard Alliance, LLC.
10.14(10) Credit Agreement, dated as of May 10, 1999, by and among the
Registrant, various lenders party thereto, Lehman Commercial
Paper Inc., CIBC World Markets Corp. and Bankers Trust
Company.
10.15(10) Pledge Agreement, dated as of May 10, 1999, by and among the
Registrant, certain subsidiaries of the Registrant and
Bankers Trust Company, as Collateral Agent.
10.16(10) Security Agreement, dated as of May 10, 1999, by and among
the Registrant, certain subsidiaries of the Registrant and
Bankers Trust Company, as Collateral Agent.
10.17(10) Subsidiaries Guaranty, dated as of May 10, 1999, by and
among the Registrant, certain subsidiaries of the Registrant
and Bankers Trust Company, as Collateral Agent.
10.18(10) Loan Agreement between the Registrant and Stephen Brown.
10.19(11) Internet/Telecommunications Agreement, dated as of May 7,
1999, by and between Registrant and Net2Phone, Inc.
10.20(11) Joint Marketing Agreement, dated as of May 7, 1999, by and
between Registrant and Net2Phone, Inc.
10.21(11) IDT Services Agreement, dated as of May 7, 1999, by and
between Registrant and Net2Phone, Inc.
10.22(11) Net2Phone Services Agreement, dated as of May 7, 1999, by
and between Registrant and Net2Phone, Inc.
10.23(11) Assignment Agreement, dated as of May 7, 1999, by and
between Registrant and Net2Phone, Inc.
50
Exhibit
Number Description of Exhibit
------ ----------------------
10.24(11) Tax Sharing and Indemnification Agreement, dated as of May
7, 1999, by and between Registrant and Net2Phone, Inc.
10.25(11) Separation Agreement, dated as of May 7, 1999, by and
between Registrant and Net2Phone, Inc.
10.26(11) Co-location and Facilities Management Services Agreement,
dated as of May 20, 1999, by and between Registrant and
Net2Phone, Inc.
10.27(12) Lease of 520 Broad Street, Newark, New Jersey.
10.28(12) Amendment to Lease of 520 Broad Street, Newark, New Jersey.
10.29(13) Option Agreement, dated as of March 3, 2000, between IDT
Corporation and AT&T Corp.
10.30(14) Amendment to Option Agreement, dated as of April 5, 2000
between IDT Corporation and AT&T Corp.
10.31(13) Subscription Agreement, dated as of March 24, 2000, between
IDT Corporation and Liberty Media Corporation.
10.32(14) Amendment to Subscription Agreement, dated as of May 26,
2000, between IDT Corporation and Liberty Media Corporation.
10.33(13) Letter Agreement, dated as of March 28, 2000, between IDT
Corporation, AT&T Corp. and Net2Phone, Inc.
10.34(13) Letter Agreement, dated as of March 30, 2000, between IDT
Corporation, AT&T Corp. and Net2Phone, Inc.
10.35(15) Conversion, Termination and Release Agreement, dated as of
April 30, 2000, between IDT Corporation, Terra Networks,
S.A., Terra Networks USA, Inc., Terra Networks Access
Services USA LLC and Terra Networks Interactive Services USA
LLC.
10.36(19) Stock Exchange Agreement, dated as of April 18, 2001, by and
among IDT Investments Inc., IDT Corporation, IDT America,
Corp., 225 Old NB Road, Inc., 226 Old NB Road, Inc., 60 Park
Place Holding Company, Inc., Liberty Media Corporation,
Microwave Holdings, L.L.C. and Liberty TP Management, Inc.
10.37(19) Stockholders Agreement, dated as of November 26, 1997, by
and among Teligent, Inc., Microwave Services, Inc.,
Telcom-DTS Investors, L.L.C. and NTTA&T Investment Inc.
(Incorporated by reference to Exhibit 2 to Schedule 13D,
filed by The Associated Group, Inc. and Microwave Services,
Inc. on December 8, 1997 with respect to securities of
Teligent, Inc.)
10.38(19) Registration Rights Agreement, dated as of March 6, 1998, by
and between Teligent, Inc. and Microwave Services, Inc.
(Incorporated by reference to Exhibit 6 to Amendment No. 1
to Schedule 13D, filed by The Associated Group, Inc. and
Microwave Services, Inc. on March 9, 1998 with respect to
securities of Teligent, Inc.)
10.39(19) Stockholders Agreement, dated as of January 13, 2000, by and
among Alex J. Mandl, Liberty Media Corporation, Telcom-DTS
Investors, L.L.C. and Microwave Services, Inc. (Incorporated
by reference to Exhibit 7(i) to Schedule 13D, filed by
Liberty AGI, Inc. on January 24, 2000 with respect to
securities of Teligent, Inc.)
21.01* Subsidiaries of the Registrant.
23.01* Consent of Ernst & Young LLP.
----------
* filed herewith
(1) Incorporated by reference to Form S-1 filed February 21, 1996 file no.
333-00204.
(2) Incorporated by reference to Form S-1 filed January 9, 1996 file no.
333-00204.
(3) Incorporated by reference to Form S-8 filed January 14, 1996 file no.
333-19727.
(4) Incorporated by reference to Form S-1 filed March 8, 1996 file no.
333-00204.
(5) Incorporated by reference to Form 10-K for the fiscal year ended July 31,
1997, filed October 29, 1997.
(6) Incorporated by reference to Form S-1 filed March 14, 1996 file no.
333-00204.
(7) Incorporated by reference to Form 10-K/A for the fiscal year ended July 31,
1997, filed February 2, 1998.
(8) Incorporated by reference to Form 8-K filed April 22, 1998.
51
(9) Incorporated by reference to Form 10-K/A for the fiscal year ended July 31,
1998, filed December 4, 1998.
(10) Incorporated by reference to Form 10-Q for the fiscal quarter ended January
31, 1999, filed March 17, 1999.
(11) Incorporated by reference to Form 10-Q for the fiscal quarter ended April
30, 1999, filed June 14, 1999.
(12) Incorporated by reference to Form 10-K for the fiscal year ended July 31,
1999, filed November 4, 1999.
(13) Incorporated by reference to Form 10-Q for the fiscal quarter ended April
30, 2001, filed March 12, 2000.
(14) Incorporated by reference to Form 8-K filed March 31, 2000.
(15) Incorporated by reference to Schedule 14C filed June 12, 2000.
(16) Incorporated by reference to Form 10-Q for the fiscal quarter ended April
30, 2000, filed June 14, 2000.
(17) Incorporated by reference to Form 10-Q for the fiscal quarter ended October
31, 2000, filed December 15, 2000.
(18) Incorporated by reference to Form 10-Q for the fiscal quarter ended January
31, 2001, filed March 19, 2001.
(19) Incorporated by reference to Schedule 13D filed on April 30, 2001.
(b) Reports on Form 8-K.
None.
52
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this Annual Report on Form
10-K to be signed on its behalf by the undersigned, thereunto duly authorized.
IDT Corporation
By: /s/ Howard S. Jonas
-----------------------------------
Howard S. Jonas
Chairman of the Board and Treasurer
Date: October 29, 2001
Pursuant to the requirements of the Securities Act of 1933, this Annual
Report on Form 10-K has been signed by the following persons on this 29th day of
October, 2001 in the capacities and on the dates indicated.
Signature Titles
--------- ------
/s/ Howard S. Jonas
------------------------- Chairman
Howard S. Jonas (Principal Executive Officer)
/s/ James A. Courter
------------------------- Vice Chairman and Chief Executive Officer
James A. Courter (Principal Executive Officer)
/s/ Michael Fischberger
-------------------------
Michael Fischberger Chief Operating Officer and Director
/s/ Stephen R. Brown Chief Financial Officer and Director
------------------------- (Principal Financial and Accounting Officer)
Stephen R. Brown
/s/ Joyce J. Mason
-------------------------
Joyce J. Mason Director
/s/ Marc E. Knoller
-------------------------
Marc E. Knoller Director
/s/ Moshe Kaganoff
-------------------------
Moshe Kaganoff Director
/s/ Geoffrey Rochwarger
-------------------------
Geoffrey Rochwarger Director
/s/ Meyer A. Berman
-------------------------
Meyer A. Berman Director
53
Signature Titles
--------- ------
/s/ J. Warren Blaker
-------------------------
J. Warren Blaker Director
/s/ Denis A. Bovin
-------------------------
Denis A. Bovin Director
/s/ Saul K. Fenster
-------------------------
Saul K. Fenster Director
/s/ Michael J. Levitt
-------------------------
Michael J. Levitt Director
/s/ William Arthur Owens
-------------------------
William Arthur Owens Director
/s/ Paul Reichmann
-------------------------
Paul Reichmann Director
/s/ William F. Weld
-------------------------
William F. Weld Director
54
IDT CORPORATION
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Report of Independent Auditors......................................................................... F-2
Consolidated Balance Sheets as of July 31, 2000 and 2001............................................... F-3
Consolidated Statements of Operations for the Years Ended July 31, 1999, 2000 and 2001................. F-4
Consolidated Statements of Stockholders' Equity for the Years Ended July 31, 1999, 2000 and 2001....... F-5
Consolidated Statements of Cash Flows for the Years Ended July 31, 1999, 2000 and 2001................. F-6
Notes to Consolidated Financial Statements............................................................. F-7
Financial Statement Schedule--Valuation and Qualifying Accounts......................................... F-25
F-1
REPORT OF INDEPENDENT AUDITORS
The Board of Directors and Stockholders
IDT Corporation
We have audited the accompanying consolidated balance sheets of IDT
Corporation (the "Company") as of July 31, 2000 and 2001, and the related
consolidated statements of operations, stockholders' equity and cash flows for
each of the three years in the period ended July 31, 2001. Our audits also
included the financial statement schedule listed in the Index at Item 14(a).
These financial statements and schedule are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements and schedule based on our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and perform
the audit to obtain reasonable assurance about whether the financial statements
are free of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements. An
audit also includes assessing the accounting principles used and significant
estimates made by management, as well as evaluating the overall financial
statement presentation. We believe that our audits provide a reasonable basis
for our opinion.
In our opinion, the financial statements referred to above present fairly,
in all material respects, the consolidated financial position of the Company at
July 31, 2000 and 2001 and the consolidated results of its operations and its
cash flows for each of the three years in the period ended July 31, 2001, in
conformity with accounting principles generally accepted in the United States.
Also, in our opinion, the related financial statement schedule, when considered
in relation to the basic financial statements taken as a whole, presents fairly
in all material respects the information set forth therein.
New York, New York
October 23, 2001
F-2
IDT CORPORATION
CONSOLIDATED BALANCE SHEETS
July 31
2000 2001
----------- -----------
(In thousands, except share data)
Assets
Current assets:
Cash and cash equivalents ................................................ $ 162,879 $ 1,091,071
Marketable securities .................................................... 230,160 3,489
Trade accounts receivable, net of allowance for doubtful accounts of
approximately $26,771 at July 31, 2000 and $22,508 at July 31, 2001 ... 160,995 116,759
Other current assets ..................................................... 87,859 32,413
----------- -----------
Total current assets ..................................................... 641,893 1,243,732
Property, plant and equipment, net ....................................... 225,638 224,042
Goodwill and other intangibles, net ...................................... 162,233 197,804
Marketable securities .................................................... 132,278 --
Investments .............................................................. 29,318 60,732
Other assets ............................................................. 27,695 155,028
----------- -----------
Total assets ............................................................. $ 1,219,055 $ 1,881,338
=========== ===========
Liabilities and stockholders' equity
Current liabilities:
Trade accounts payable ................................................... $ 161,888 $ 163,313
Accrued expenses ......................................................... 36,436 54,893
Deferred revenue ......................................................... 48,572 71,387
Notes payable--current portion ........................................... 22,604 2,657
Capital lease obligations--current portion ............................... 13,540 18,270
Other current liabilities ................................................ 10,923 17,819
----------- -----------
Total current liabilities ................................................ 293,963 328,339
Deferred tax liabilities ................................................. 168,772 390,914
Notes payable--long-term portion ......................................... 12,174 380
Capital lease obligations--long-term portion ............................. 43,940 49,799
Other liabilities ........................................................ 709 14,502
----------- -----------
Total liabilities ........................................................ 519,558 783,934
Minority interests ....................................................... 231,309 21,419
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value; authorized shares--10,000,000; no shares
issued ................................................................ -- --
Common stock, $.01 par value; authorized shares--100,000,000; 25,959,256
and 22,791,789 shares issued and outstanding in 2000 and 2001,
respectively .......................................................... 260 228
Class A common stock, $.01 par value; authorized shares--35,000,000;
9,970,233 and 9,816,988 shares issued and outstanding in 2000 and 2001,
respectively .......................................................... 100 98
Class B common stock, $.01 par value; authorized shares--100,000,000;
35,929,489 and 39,291,411 shares issued and outstanding in 2000 and
2001, respectively .................................................... 359 393
Loans to stockholders .................................................... (251) (251)
Additional paid-in capital ............................................... 370,646 494,093
Treasury stock, at cost .................................................. -- (138,087)
Accumulated other comprehensive income ................................... (92,653) (2,575)
Retained earnings ........................................................ 189,727 722,086
----------- -----------
Total stockholders' equity ............................................... 468,188 1,075,985
----------- -----------
Total liabilities and stockholders' equity ............................... $ 1,219,055 $ 1,881,338
=========== ===========
See accompanying notes.
F-3
IDT CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS
Year ended July 31
1999 2000 2001
----------- ----------- -----------
(In thousands, except per share data)
Revenues ............................................. $ 732,184 $ 1,093,912 $ 1,230,950
Costs and expenses:
Direct cost of revenues .............................. 575,050 918,257 1,066,845
Selling, general and administrative .................. 128,500 343,702 337,107
Depreciation and amortization ........................ 36,360 48,564 60,351
Impairment charges ................................... -- -- 199,357
----------- ----------- -----------
Total costs and expenses ............................. 739,910 1,310,523 1,663,660
----------- ----------- -----------
Loss from operations ................................. (7,726) (216,611) (432,710)
Interest income (expense), net ....................... (1,228) 7,231 52,768
Equity loss .......................................... -- (6,289) (75,066)
Gain on sales of subsidiary stock .................... -- 350,344 1,037,726
Other income (expense) ............................... (2,035) 258,218 164,762
----------- ----------- -----------
Income (loss) before income taxes, minority
interests and extraordinary item ..................... (10,989) 392,893 747,480
Provision for income taxes ........................... 7,253 218,403 209,395
Minority interests ................................... (3,308) (59,336) 5,726
----------- ----------- -----------
Income (loss) before extraordinary item .............. (14,934) 233,826 532,359
Extraordinary loss on retirement of debt, net of
income taxes ......................................... (3,270) (2,976) --
----------- ----------- -----------
Net income (loss) .................................... (18,204) 230,850 532,359
Subsidiary redeemable preferred stock dividends ...... 26,297 -- --
----------- ----------- -----------
Net income (loss) attributable to common
stockholders ......................................... $ (44,501) $ 230,850 $ 532,359
=========== =========== ===========
Net income (loss) per share:
Net income (loss) attributable to common stockholders
before extraordinary item:
Basic ................................................ $ (0.61) $ 3.34 $ 7.79
Diluted .............................................. $ (0.61) $ 3.11 $ 7.12
Extraordinary loss on retirement of debt,
net of income taxes:
Basic ................................................ $ (0.05) $ (0.04) $ --
Diluted .............................................. $ (0.05) $ (0.04) $ --
Net income (loss) attributable to common stockholders:
Basic ................................................ $ (0.66) $ 3.30 $ 7.79
Diluted .............................................. $ (0.66) $ 3.07 $ 7.12
Weighted-average number of shares used in
calculation of net income (loss) per share:
Basic ................................................ 67,060 69,933 68,301
Diluted .............................................. 67,060 75,239 74,786
See accompanying notes.
F-4
IDT CORPORATION
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(In thousands, except share data)
Common Stock Class A Stock Class B Stock
------------------------- ------------------------- -------------------------
Shares Amount Shares Amount Shares Amount
----------- ----------- ----------- ----------- ----------- -----------
Balance at July 31, 1998 ................... 22,848,866 $ 229 10,255,668 $ 102 33,104,534 $ 330
Exercise of stock options ............... 696,840 7 -- -- 696,840 7
Income tax benefit from stock options
exercised ............................... -- -- -- -- -- --
Conversion of Class A stock to common
stock ................................... 225,910 2 (225,910) (2) -- --
Issuance of common stock in connection
with business acquisitions .............. 100,000 1 -- -- 100,000 1
Exercise of warrants .................... 111,238 1 -- -- 111,238 1
Costs associated with stock registration -- -- -- -- -- --
Net loss for the year ended July 31, 1999 -- -- -- -- -- --
----------- ----------- ----------- ----------- ----------- -----------
Balance at July 31, 1999 ................... 23,982,854 240 10,029,758 100 34,012,612 339
Exercise of stock options ............... 1,310,700 13 -- -- 1,310,700 13
Income tax benefit from stock options
exercised ............................... -- -- -- -- -- --
Conversion of Class A stock to common
stock ................................... 59,525 -- (59,525) -- -- --
Exercise of warrants .................... 19,963 -- -- -- 19,963 --
Issuance of common stock ................ 3,728,949 37 -- -- 3,728,949 37
Change in unrealized gain (loss) in
available for sale securities ........... -- -- -- -- -- --
Foreign currency translation adjustment . -- -- -- -- -- --
Repurchase of common stock .............. (3,142,735) (30) -- -- (3,142,735) (30)
Modification of stock options ........... -- -- -- -- -- --
Stock options given to partnership ...... -- -- -- -- -- --
Net income for the year ended July 31,
2000 .................................... -- -- -- -- -- --
Comprehensive income ....................
----------- ----------- ----------- ----------- ----------- -----------
Balance at July 31, 2000 ................... 25,959,256 260 9,970,233 100 35,929,489 359
Exercise of stock options ............... 698,451 7 -- -- 343,000 4
Income tax benefit from stock options
exercised ............................... -- -- -- -- -- --
Conversion of Class A stock to common
stock ................................... 153,245 2 (153,245) (2) -- --
Issuance of stock options ............... -- -- -- -- -- --
Modification of stock options ........... -- -- -- -- -- --
Issuance of Class B common stock ........ -- -- -- -- 7,038,085 71
Change in unrealized gain (loss) in
available for sale securities ......... -- -- -- -- -- --
Foreign currency translation adjustment . -- -- -- -- -- --
Repurchase of common stock .............. (4,019,163) (41) -- -- (4,019,163) (41)
Net income for the year ended July 31,
2001 .................................... -- -- -- -- -- --
Comprehensive income ....................
----------- ----------- ----------- ----------- ----------- -----------
Balance at July 31, 2001 ................... 22,791,789 $ 228 9,816,988 $ 98 39,291,411 $ 393
=========== =========== =========== =========== =========== ===========
Accumulated
Additional Other Retained Total
Loans to Paid-In Treasury Comprehensive Earnings Stockholders'
Stockholders Capital Stock Income (Deficit) Equity
----------- ----------- --------- ----------- ----------- -----------
Balance at July 31, 1998 ................... $ -- $ 305,049 $-- $ -- $ (22,919) $ 282,791
Exercise of stock options ............... (251) 4,068 -- -- -- 3,831
Income tax benefit from stock options
exercised ............................... -- 4,258 -- -- -- 4,258
Conversion of Class A stock to common
stock ................................... -- -- -- -- -- --
Issuance of common stock in connection
with business acquisitions .............. -- 2,848 -- -- -- 2,850
Exercise of warrants .................... -- 922 -- -- -- 924
Costs associated with stock registration -- (123) -- -- -- (123)
Net loss for the year ended July 31, 1999 -- -- -- -- (18,204) (18,204)
----------- ----------- --------- ----------- ----------- -----------
Balance at July 31, 1999 ................... (251) 317,022 -- -- (41,123) 276,327
Exercise of stock options ............... -- 14,508 -- -- -- 14,534
Income tax benefit from stock options
exercised ............................... -- 10,346 -- -- -- 10,346
Conversion of Class A stock to common
stock ................................... -- -- -- -- -- (1)
Exercise of warrants .................... -- 117 -- -- -- 117
Issuance of common stock ................ -- 128,574 -- -- -- 128,648
Change in unrealized gain (loss) in
available for sale securities ........... -- -- -- (94,044) -- (94,044)
Foreign currency translation adjustment . -- -- -- 1,391 -- 1,391
Repurchase of common stock .............. -- (101,822) -- -- -- (101,882)
Modification of stock options ........... -- 985 -- -- -- 985
Stock option given to partnership ....... -- 916 -- -- -- 916
Net income for the year ended July 31,
2000 .................................... -- -- -- 230,850 230,850 230,850
-----------
Comprehensive income .................... 138,197
----------- ----------- --------- ----------- ----------- -----------
Balance at July 31, 2000 ................... (251) 370,646 -- (92,653) 189,727 468,188
Exercise of stock options ............... -- 6,872 -- -- -- 6,883
Income tax benefit from stock options
exercised ............................... -- 2,676 -- -- -- 2,676
Conversion of Class A stock to common
stock ................................... -- -- -- -- -- --
Issuance of stock options ............... -- 2,000 -- -- -- 2,000
Modification of stock options ........... -- 3,082 -- -- -- 3,082
Issuance of Class B common stock ........ -- 106,497 -- -- -- 106,568
Change in unrealized gain (loss) in
available for sale securities ........... -- -- -- 89,148 -- 89,148
Foreign currency translation adjustment . -- -- -- 930 -- 930
Repurchase of common stock .............. -- 2,320 (138,087) -- -- (135,849)
Net income for the year ended July 31,
2001 .................................... -- -- -- 532,359 532,359 532,359
-----------
Comprehensive income .................... 622,437
----------- ----------- --------- ----------- ----------- -----------
Balance at July 31, 2001 ................... $ (251) $ 494,093 $(138,087) $ (2,575) $ 722,086 $ 1,075,985
=========== =========== ========= =========== =========== ===========
See accompanying notes.
F-5
IDT CORPORATION
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year ended July 31
1999 2000 2001
----------- ----------- -----------
(In thousands)
Operating activities
Net income (loss) ..................................................... $ (18,204) $ 230,850 $ 532,359
Adjustments to reconcile net income (loss) to net cash provided by (used
in) operating activities:
Depreciation and amortization ....................................... 36,360 48,564 60,351
Impairment charges .................................................. -- -- 199,357
Extraordinary loss on retirement of debt before taxes ............... 5,360 4,870 --
Minority interests .................................................. (3,309) (59,336) 5,726
Deferred tax liabilities ............................................ (1,156) 216,903 204,188
Issuance of common stock to charitable foundation ................... -- -- 26,378
Net realized (gains)/losses from sales of marketable securities
and investments ................................................... -- (261,025) 148,724
Equity loss ......................................................... -- 6,289 75,066
Non-cash compensation ............................................... 15,734 42,917 3,082
Gain on TyCom settlement ............................................ -- -- (313,486)
Gain on sales of subsidiary stock ................................... -- (350,344) (1,037,726)
Changes in assets and liabilities:
Trade accounts receivable ......................................... (68,108) (52,643) 36,029
Other current assets .............................................. (24,214) (40,718) 26,941
Other assets ...................................................... (6,771) 12,524 (12,707)
Deferred revenue .................................................. 4,035 34,026 7,271
Trade accounts payable and other .................................. 41,976 90,053 64,675
----------- ----------- -----------
Net cash provided by (used in) operating activities .................... (18,297) (77,070) 26,228
Investing activities
Purchases of property, plant and equipment ............................. (48,098) (101,192) (106,513)
Purchase of trademark .................................................. (5,000) -- --
Issuance of notes receivable ........................................... (13,423) -- (12,089)
Investments and acquisitions, net of cash acquired ..................... (10,735) (38,803) (73,722)
Collection of notes receivable ......................................... 14,040 9,524 --
Sales of marketable securities ......................................... -- -- 164,052
Net purchases of marketable securities ................................. (17,561) (7,059) --
Net proceeds from sales of subsidiary stock ............................ -- 115,434 1,042,113
----------- ----------- -----------
Net cash provided by (used in) investing activities .................... (80,777) (22,096) 1,013,841
Financing activities
Proceeds from issuance of Series A preferred stock and warrants by
Net2Phone ........................................................... 29,900 -- --
Proceeds from exercise of stock options for Net2Phone .................. 1,334 8,172 --
Proceeds from exercise of warrants for Net2Phone ....................... 438 -- --
Payment of debt issuance costs ......................................... (4,475) -- --
Distributions to minority shareholder .................................. (6,079) (3,179) (18,908)
Proceeds from borrowings ............................................... 115,945 13,898 --
Proceeds from exercise of warrants ..................................... 924 118 --
Proceeds from exercise of stock options ................................ 7,967 14,534 6,883
Repayments of capital lease obligations ................................ (5,349) (9,833) (14,736)
Repayments of borrowings ............................................... (103,912) (108,146) (26,054)
Proceeds from sale of common stock ..................................... -- 128,648 74,787
Proceeds from offerings of common stock by Net2Phone ................... -- 261,189 --
Collection of loans to stockholders by Net2Phone ....................... -- 623 --
Proceeds from minority investment in subsidiary ........................ -- 5,000 --
Proceeds from issuance of stock options ................................ -- -- 2,000
Payments to repurchase common stock .................................... -- (101,882) (135,849)
----------- ----------- -----------
Net cash (used in) provided by financing activities .................... 36,693 209,142 (111,877)
----------- ----------- -----------
Net increase (decrease) in cash ........................................ (62,381) 109,976 928,192
Cash and cash equivalents at beginning of year ......................... 115,284 52,903 162,879
----------- ----------- -----------
Cash and cash equivalents at end of year ............................... $ 52,903 $ 162,879 $ 1,091,071
=========== =========== ===========
Supplemental disclosure of cash flow information
Cash payments made for interest ........................................ $ 13,483 $ 10,074 $ 7,997
=========== =========== ===========
Cash payments made for income taxes .................................... $ 235 $ 1,050 $ 5,963
=========== =========== ===========
Supplemental schedule of noncash activities
Purchase of fixed assets by capital lease .............................. $ 11,899 $ 45,541 $ 759
=========== =========== ===========
See accompanying notes
F-6
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
July 31, 2001
1. Summary of Significant Accounting Policies
Description of Business
IDT Corporation ("IDT" or the "Company") is a multinational
telecommunications carrier that provides a broad range of services to its retail
and wholesale customers worldwide. The Company mainly provides its customers
with integrated international and domestic long distance, and prepaid calling
cards.
Until August 2000, the Company also provided Internet telephony services
through its majority owned subsidiary Net2Phone, Inc. ("Net2Phone"). On August
11, 2000, the Company completed the sale of 14.9 million shares of its holdings
of Net2Phone's Class A Common Stock, at a price of $75 per share to ITelTech,
LLC ("ITelTech"), a Delaware limited liability company controlled by AT&T
Corporation ("AT&T"). In addition, ITelTech purchased four million newly-issued
shares of Class A Common Stock from Net2Phone at a price of $75 per share. These
transactions reduced the voting stake of IDT in Net2Phone from approximately 56%
to 21% and its economic stake in Net2Phone from approximately 45% to 16%. In
recognition of these transactions, the Company recorded a gain on sales of
subsidiary stock of $1.038 billion during the year ended July 31, 2001, and has
deconsolidated Net2Phone effective August 11, 2000. Accordingly, the Company
accounts for its investment in Net2Phone using the equity method.
As discussed in footnote 15, "Subsequent Events", on October 23, 2001, IDT,
Liberty Media Group ("Liberty Media") and AT&T formed a limited liability
company ("LLC"), which through a series of transactions among IDT, Liberty Media
and AT&T now holds an aggregate of 28.9 million shares of Net2Phone's Class A
common stock, representing approximately 50% of Net2Phone's outstanding capital
stock. Because the LLC holds Class A common stock with two votes per share, the
LLC has approximately 64% of the shareholder voting power in Net2Phone. IDT
holds the controlling membership interest in the LLC.
On May 4, 2001, the Company declared a stock dividend of one share of Class
B common stock for every one share of common stock, Class A common stock and
Class B common stock. IDT distributed the dividend shares on May 31, 2001 to
shareholders of record on May 14, 2001. The stock dividend has been accounted
for as a stock split and all references to the number of common shares, per
common share amounts and stock options have been restated to give retroactive
effect to the stock dividend for all periods presented. The Class B common stock
commenced trading on the New York Stock Exchange on June 1, 2001 under the
ticker symbol "IDT B".
Basis of Consolidation and Accounting for Investments
The consolidated financial statements include the accounts of IDT and all
companies in which IDT has a controlling voting interest ("subsidiaries"), as if
IDT and its subsidiaries were a single company. Significant intercompany
accounts and transactions between the consolidated companies have been
eliminated.
Investments in companies in which IDT has significant influence, but less
than a controlling voting interest, are accounted for using the equity method.
Investments in companies in which IDT does not have a controlling interest or an
ownership and voting interest so large as to exert significant influence are
accounted for at market value if the investments are publicly traded and there
are no resale restrictions, or at cost, if the sale of a publicly-traded
investment is restricted or if the investment is not publicly traded.
The effect of any changes in IDT's ownership interests resulting from the
issuance of equity capital by consolidated subsidiaries or equity investees to
unaffiliated parties is included in gain on sales of subsidiary stock.
Reclassifications
Certain prior year amounts have been reclassified to conform to current
year's presentation.
Use of Estimates
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. Actual results may differ from those
estimates.
Revenue Recognition
Telecommunication services, Internet telephony services, Internet
subscription services, and prepaid calling card revenues are recognized as
services are provided. Equipment sales are recognized when installation is
completed. Prepayments for services are deferred and recognized as revenue as
the services are provided.
Sales of equipment with software necessary to provide the Company's
services are accounted for in accordance with the American Institute of
Certified Public Accountants' Statement of Position 97-2, Software Revenue
F-7
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Recognition. Revenue on such sales is recognized when such products are
delivered, collection of payments are assured and there are no significant
future obligations.
Direct Cost of Revenue
Direct cost of revenue consists primarily of telecommunication costs,
connectivity costs and the cost of equipment sold to customers. Direct cost of
revenue excludes depreciation and amortization.
Property, Plant and Equipment
Equipment, buildings, furniture and fixtures are depreciated using the
straight-line method over the estimated useful lives of the assets, which range
from three to thirty years. Leasehold improvements are depreciated using the
straight line method over the term of their lease or their estimated useful
lives, whichever is shorter. Computer software is amortized over a period not
exceeding five years.
Subscriber Acquisition Costs and Advertising
Subscriber acquisition costs including sales commissions, license fees and
production and shipment of starter packages are expensed as incurred.
The Company expenses the costs of advertising as incurred. Typically,
Net2Phone purchases banner advertising on other companies' web sites pursuant to
contracts that have one to three year terms and may include the guarantee of (i)
a minimum number of impressions, (ii) the number of times that an advertisement
appears in pages displayed to users of the web site, or (iii) a minimum amount
of revenue that will be recognized by Net2Phone from customers directed to
Net2Phone's web site as a direct result of the advertisement. Net2Phone
recognizes banner advertising expense with respect to such advertising ratably
over the period in which the advertisement is displayed. In addition, some
agreements require additional payments as additional impressions are delivered.
Thus, additional payments are expensed when the impressions are delivered.
In one case, Net2Phone entered into an agreement with no specified term of
years. In this case, the Company amortizes as expense the lesser of (i) the
number of impressions to date/minimum guaranteed impressions, or (ii) revenue to
date/minimum guaranteed revenue as a percentage of the total payments.
For the years ended July 31, 1999, 2000 and 2001, advertising expense
totaled approximately $10,454,000, $46,722,000 and $17,071,000, respectively.
During the year ended July 31, 2000, the Company incurred approximately
$28,000,000 of costs to terminate advertising arrangements. These termination
costs are included in selling, general and administrative expenses in the
accompanying consolidated statements of operations.
Software Development Costs
Costs for the internal development of new software products and substantial
enhancements to existing software products are expensed as incurred until
technological feasibility has been established, at which time any additional
costs are capitalized. For the years ended July 31, 1999, 2000 and 2001,
research and development costs totaled approximately $757,000, $4,692,000 and
$2,484,000, respectively.
Capitalized Internal Use Software Costs
The Company capitalizes certain costs incurred in connection with
developing or obtaining internal use software. These costs consist of payments
made to third parties and the salaries of employees working on such software
development. For the years ended July 31, 1999, 2000 and 2001, the Company has
capitalized $4,065,000, $8,593,000 and $2,463,000, respectively, of internal use
software costs as computer software.
F-8
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Long-Lived Assets
In accordance with Statement of Financial Accounting Standards ("SFAS") No.
121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived
Assets to be Disposed Of, the Company reviews its long-lived assets and certain
identifiable intangibles for impairment whenever events or changes in
circumstances indicate that the carrying amount of an asset may not be
recoverable. The analysis of the recoverability utilizes undiscounted cash
flows. The measurement of the loss, if any, will be calculated as the amount by
which the carrying amount of the asset exceeds the fair value.
Cash and Cash Equivalents
The Company considers all highly liquid investments with a maturity of
three months or less when purchased to be cash equivalents. Cash and cash
equivalents are carried at cost which approximates market value. At July 31,
2000 and 2001, the Company had 66% and 89%, respectively, of its cash and cash
equivalents in three financial institutions.
Marketable Securities
Marketable securities consist of equity securities, U.S. Government Agency
Obligations and commercial paper. Certain debt securities held by Net2Phone,
with original maturities of greater than three months at the time of purchase
are classified as held to maturity and are carried at amortized cost. Interest
on these securities is included in interest income as earned.
During fiscal 2000, IDT sold approximately $55,000,000 of held-to-maturity
securities prior to their maturity dates and recorded a loss of approximately
$1,200,000. The securities were sold to fund certain transactions. In connection
with these sales, marketable securities with a cost basis of approximately
$22,000,000 were reclassified as available-for-sale and through July 31, 2000,
unrealized losses of approximately $850,000 were included in accumulated other
comprehensive income.
Goodwill and Other Intangibles
Goodwill is amortized over 5 to 20 years using the straight-line method.
Costs associated with obtaining the right to use trademarks and patents owned by
third parties are capitalized and amortized on a straight-line basis over the
term of the trademark licenses and patents. Other intangible assets consist of
core programming technology and assembled workforce which are amortized over 32
to 35 months, and 48 to 54 months, respectively. The Company systematically
reviews the recoverability of its acquired intangible assets for each acquired
entity to determine whether an impairment has occurred. Upon determination that
the carrying value of acquired intangible assets will not be recovered based on
the undiscounted future cash flows of the acquired business, the carrying value
of such acquired intangible assets would be considered impaired and would be
reduced by a charge to operations in the amount that the carrying value exceeds
the fair value.
Income Taxes
The Company accounts for income taxes under the liability method in
accordance with SFAS No. 109, Accounting for Income Taxes. Under this method,
deferred tax assets and liabilities are determined based on differences between
the financial reporting and tax bases of assets and liabilities.
Earnings (Loss) Per Share
Basic earnings (loss) per share is computed by dividing the net income
(loss) attributable to common stockholders by the weighted-average number of
common shares outstanding during the period. Diluted earnings (loss) per share
adjusts basic earnings (loss) per share for the effects of convertible
securities, stock options, warrants and other potentially dilutive financial
instruments, only in the periods in which such effect is dilutive.
F-9
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Vulnerability Due to Certain Concentrations
Financial instruments that potentially subject the Company to concentration
of credit risk consist principally of cash, cash equivalents, marketable
securities and trade accounts receivables. Concentration of credit risk with
respect to trade accounts receivable is limited due to the large number of
customers comprising the Company's customer base.
The Company is subject to risks associated with its international
operations, including changes in exchange rates, difficulty in trade accounts
receivable collection and longer payment cycles.
Management regularly monitors the creditworthiness of its domestic and
international customers and believes that it has adequately provided for any
exposure to potential credit losses.
Fair Value of Financial Instruments
The estimated fair value of financial instruments has been determined using
available market information or other appropriate valuation methodologies.
However, considerable judgment is required in interpreting market data to
develop estimates of fair value. Consequently, the estimates are not necessarily
indicative of the amounts that could be realized or would be paid in a current
market exchange. At July 31, 2001, the book carrying value of the Company's
notes receivable and notes payable approximates fair value.
Stock Based Compensation
The Company accounts for stock options issued to employees using the
intrinsic value method prescribed in Accounting Principles Board Opinion No. 25,
Accounting for Stock Issued to Employees, and related interpretations.
Compensation expense for stock options issued to employees is measured as the
excess of the quoted market price of the Company's stock at the date of grant
over the amount employees must pay to acquire the stock.
The Company applies the disclosure-only provisions of SFAS No. 123,
Accounting for Stock-Based Compensation, with respect to stock options issued to
the Company's employees.
Recently Issued Accounting Standards
In June 2001, the FASB issued SFAS No.142, Goodwill and Other Intangible
Assets, effective for fiscal years beginning after December 15, 2001, with early
adoption permitted for companies with fiscal years beginning after March 15,
2001. Under the new rules, goodwill and intangible assets deemed to have
indefinite lives will no longer be amortized but will be subject to annual
impairment tests in accordance with the Statements. Other intangible assets will
continue to be amortized over their useful lives.
The Company has chosen to early adopt the new rules on accounting for
goodwill and other intangible assets and apply them beginning in the first
quarter of fiscal 2002. The Company is currently performing the required
impairment tests of goodwill and indefinite lived intangible assets as of August
1, 2001. Although the tests have not yet been finalized, preliminary indications
are that the Company will record a significant impairment charge on its goodwill
in the first quarter of fiscal 2002. The impairment charge will be recorded as a
cumulative effect adjustment of a change in accounting principle.
F-10
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
2. Marketable Securities
The following is a summary of marketable securities as of July 31, 2001:
Gross Gross
Unrealized Unrealized
Cost Gains Losses Fair Value
------- ------- ------- -------
(In thousands)
Short-term
Available-for-sale securities:
U.S. Government Agency Obligations $ 1,150 $ -- $ (33) $ 1,117
Equity securities ................ 6,318 -- (3,946) 2,372
------- ------- ------- -------
$ 7,468 $ -- ($3,979) $ 3,489
======= ======= ======= =======
The following is a summary of marketable securities as of July 31, 2000:
Gross Gross
Unrealized Unrealized
Cost Gains Losses Fair Value
--------- --------- --------- ---------
(In thousands)
Short-term
Held-to-maturity securities:
U.S. Government Agency Obligations $ 9,500 $ 2 $ (13) $ 9,489
Commercial paper ................. 49,642 -- (45) 49,597
--------- --------- --------- ---------
59,142 2 (58) 59,086
========= ========= ========= =========
Available-for-sale securities:
U.S. Government Agency Obligations 23,097 -- -- 23,097
Terra common stock ............... 147,921 -- -- 147,921
--------- --------- --------- ---------
171,018 -- -- 171,018
========= ========= ========= =========
Long-term
Held-to-maturity securities:
U.S. Government Agency Obligations 5,000 -- (21) 4,979
Commercial paper ................. 17,943 -- (38) 17,905
--------- --------- --------- ---------
22,943 (59) 22,884
========= ========= ========= =========
Available-for-sale securities:
WebEx common stock ............... 5,332 -- -- 5,332
Yahoo! Inc. common stock ......... 104,003 -- -- 104,003
--------- --------- --------- ---------
$ 109,335 $ -- $ -- $ 109,335
========= ========= ========= =========
Proceeds and realized losses from the sale of available-for-sale securities
for the year ended July 31, 2001 amounted to approximately $164,052,000 and
$138,019,000, respectively
Terra Networks Transaction
In October 1999, IDT entered into a joint venture agreement with Terra
Networks, S.A. ("Terra") pursuant to which the two parties formed two limited
liability companies to provide Internet services and products to customers in
the United States. One company was formed to provide Internet access to
customers and the other company was formed to develop and manage an Internet
portal that would provide content-based Internet services. IDT's 49% interest in
the Internet access company was accounted for using the equity method of
accounting. The equity method was used since IDT had significant influence, but
less than a controlling voting interest. IDT's 10% interest in the Internet
portal company was accounted for at cost. The cost method was used since IDT did
not have a controlling voting interest, or an ownership or voting interest so
large as to exert significant influence, and the venture was not publicly
traded. On April 30, 2000, the Company sold its interests in the two joint
ventures for the right to receive 3,750,000 shares of Terra common stock. In
connection with this transaction, the Company recognized a pre-tax gain of
approximately $231,032,000 for the year ended July 31, 2000. During the year
ended July 31, 2001, the Company sold 3,745,000 of its Terra shares and
recognized a loss of approximately $129,200,000, which has been included as a
component of "Other income."
3. Property, Plant and Equipment
Property, plant and equipment consists of the following:
July 31
2000 2001
------------ ------------
(In thousands)
Equipment......................................... $ 238,767 $ 264,422
Computer software................................. 32,215 10,192
Leasehold improvements............................ 11,918 16,930
Furniture and fixtures............................ 10,625 15,793
Land and building................................. 6,327 8,937
------------ ------------
299,852 316,274
Less accumulated depreciation and
amortization................................... (74,214) (92,232)
------------ ------------
Property, plant and equipment, net................ $ 225,638 $ 224,042
============ ============
Fixed assets under capital leases aggregate approximately $71,835,000 and
$104,215,000 at July 31, 2000 and 2001, respectively. The accumulated
amortization related to these assets under capital leases is approximately
$17,756,000 and $35,361,000 at July 31, 2000 and 2001, respectively.
F-11
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
4. Goodwill and Other Intangibles
Goodwill and other intangibles consist of the following:
July 31
2000 2001
---------- ----------
(In thousands)
Goodwill................................. $ 156,639 $ 197,863
Assembled workforce...................... 3,317 2,817
Core technology and patents.............. 35,100 42,523
---------- ----------
195,056 243,203
Less accumulated amortization............ (32,823) (45,399)
---------- ----------
Goodwill and other intangibles, net...... $ 162,233 $ 197,804
========== ==========
Effective Fiscal 2002, the Company intends to adopt SFAS No. 142. As a
result, the Company will no longer amortize goodwill and other intangibles
deemed to have indefinite lives, but will be subject to annual impairment tests.
Assembled workforce will be subsumed into goodwill.
5. Notes Payable
Notes payable consists of the following:
July 31
2000 2001
----------- -----------
(In thousands)
Promissory note (A) .......................... $ 4,768 $ 2,332
Promissory note (B) .......................... 16,942 --
Promissory note (C) .......................... 4,800 --
Promissory note (C) .......................... 6,537 --
Other ........................................ 1,731 705
----------- -----------
34,778 3,037
----------- -----------
Less notes payable--current portion .......... (22,604) (2,657)
----------- -----------
Notes payable--long-term portion ............. $ 12,174 $ 380
=========== ===========
(A) On May 6, 1999, the Company entered into a $7,800,000 promissory note with
a financing company. The note is payable in 36 monthly installments
commencing on June 1, 1999, and bears an adjustable interest rate indexed
to the one month LIBOR rate. The promissory note is collateralized by
certain equipment of the Company.
(B) On June 30, 2000, the Company completed the acquisition of a 100% interest
in CTM Brochure Display, Inc. ("CTM"), a brochure distribution company. In
connection with the acquisition, the Company issued promissory notes to the
former shareholders in the aggregate amount of $16,942,000. The notes bear
interest at the rate of 9.50% per annum. The principal balance on the
notes, together with accrued interest, were repaid in full during the year
ended July 31, 2001.
(C) The promissory notes were issued in connection with Net2Phone's Aplio
acquisition and bore interest at an annual rate of 6.53%. The Company was
required to pay $1,961,235 of the notes on March 31, 2001 and the remaining
principal balance of $4,576,215 plus all accrued and unpaid interest on
January 31, 2002. In addition Net2Phone was required to pay the former
Aplio shareholders $4,800,000 over 18 months from the date of sale.
On May 10, 1999, the Company obtained a Senior Secured Credit Facility
("Credit Facility") from a consortium of financial institutions. During the
F-12
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
second quarter ended January 31, 2000, the Company repaid all of the
outstanding principal balance together with accrued interest. The Company
recorded a pre-tax extraordinary loss in connection with the repayment of
$4,870,000 during the year ended July 31, 2000.
Annual future principal repayments of long-term debt for the five years
subsequent to July 31, 2001 consist of $2,657,000 due in fiscal 2002, and
$380,000 due in fiscal 2006.
F-13
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
6. Income Taxes
Significant components of the Company's deferred tax assets and liabilities
consists of the following:
July 31
2000 2001
--------- ---------
(in thousands)
Deferred tax assets:
Unrealized losses on securities ............. $ 34,484 $ 857
Bad debt reserve ............................ 5,331 3,980
Exercise of stock options ................... 3,277 9,857
Reserves .................................... 4,500 4,500
Charitable contributions .................... -- 10,765
Other ....................................... 289 8,992
--------- ---------
Deferred tax assets ............................ 47,881 38,951
Deferred tax liabilities:
Deferred Revenue............................. -- (196,000)
Unrecognized gain on securities.............. -- (100,313)
Gain on sales of subsidiary stock ........... (97,830) (105,466)
Partnership ................................. (92,413) --
Depreciation ................................ (14,466) (16,074)
Identifiable intangibles .................... (1,728) (3,583)
Other ....................................... (10,216) (8,429)
--------- ---------
Deferred tax liabilities ....................... (216,653) (429,865)
--------- ---------
Net deferred tax liabilities ................... $(168,772) $(390,914)
========= =========
No valuation allowance on the net deferred tax assets has been established
as the realization of such net deferred tax assets is considered to be more
likely than not.
The provision (benefit) for income taxes consists of the following for the
years ended July 31:
1999 2000 2001
--------- --------- ---------
Current: (in thousands)
Federal ........................... $ 400 $ -- $ 6,600
State and local and foreign ....... -- (395) 14,249
--------- --------- ---------
400 (395) 20,849
--------- --------- ---------
Deferred:
Federal ........................... 3,768 175,191 150,997
State and local and foreign ....... 995 41,712 37,549
--------- --------- ---------
4,763 216,903 188,546
--------- --------- ---------
$ 5,163 $ 216,508 $ 209,395
========= ========= =========
F-14
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The income statement classification of the provision (benefit) for income
taxes consists of the following at July 31:
1999 2000 2001
(in thousands)
Income tax provision attributable
to continuing operations ................ $ 7,253 $ 218,403 $ 209,395
--------- --------- ---------
Income tax benefit attributable to
extraordinary loss ...................... (2,090) (1,895) --
--------- --------- ---------
$ 5,163 $ 216,508 $ 209,395
========= ========= =========
The differences between income taxes expected at the U.S. federal statutory
income tax rate and income taxes provided are as follows:
1999 2000 2001
--------- --------- ---------
(in thousands)
Federal income tax at statutory rate ...... $ (3,842) $ 137,513 $ 261,618
Foreign tax rate differential .............. -- -- (99,563)
Losses for which no benefit provided ...... 6,110 32,703 19,141
Nondeductible expenses .................... 2,226 17,625 2,162
State and local and foreign income tax .... 647 28,612 26,037
Other ..................................... 22 55 --
--------- --------- ---------
$ 5,163 $ 216,508 $ 209,395
========= ========= =========
7. Stockholders' Equity
Common Stock, Class A Common Stock, and Class B Common Stock
The rights of holders of common stock, Class A common stock and Class B
common stock are identical except for certain voting and conversion rights and
restrictions on transferability. The holders of Class A common stock are
entitled to three votes per share. The holders of Class B common stock are
entitled to one-tenth of a vote per share, and the holders of common stock are
entitled to one vote per share. Class A common stock is subject to certain
limitations on transferability that do not apply to the common stock and Class B
common stock. Each share of Class A common stock may be converted into one share
of common stock, at any time at the option of the holder.
Stock Options
Prior to March 15, 1996, the Company had an informal stock option program
whereby employees were granted options to purchase shares of common stock. Under
this informal program, options to purchase 4,317,540 shares of common stock were
granted.
F-15
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The Company adopted a stock option plan as amended (the "Option Plan") for
officers, employees and non-employee directors to purchase up to 6,300,000
shares of the Company's common stock. In September 2000, the Board of Directors
of the Company approved an amendment to the Option Plan to reserve for issuance
of 6,000,000 shares of Class B common stock. Generally, options become
exercisable over vesting periods up to six years and expire ten years from the
date of grant.
A summary of stock option activity under the Company's stock option plan is
as follows:
Weighted-Average
Shares Exercise Price
---------- ----------------
Outstanding at July 31, 1998............. 6,429,270 $ 3.95
Granted.................................. 2,272,482 7.61
Exercised................................ (1,393,680) 2.93
Canceled................................. (116,000) 7.43
Forfeited................................ (16,140) 4.14
----------
Outstanding at July 31, 1999............. 7,175,932 5.25
Granted.................................. 8,851,086 9.98
Exercised................................ (2,621,400) 5.54
Canceled................................. (95,000) 8.86
Forfeited................................ (31,500) 10.93
----------
Outstanding at July 31, 2000............. 13,279,118 8.31
Granted.................................. 5,112,004 9.15
Exercised................................ (1,041,451) 6.61
Canceled................................. (299,247) 5.71
Forfeited................................ (55,200) 12.63
----------
Outstanding at July 31, 2001............. 16,995,224 $ 8.70
==========
The following table summarizes the status of stock options outstanding and
exercisable at July 31, 2001:
Stock Options Outstanding
-------------------------------------------------------
Weighted-Average
Remaining Number of Stock
Contractual Life Options
Range of Exercise Prices Number of Options (in years) Exercisable
------------------------ ----------------- ---------- -----------
$0.10 - $0.10.............................. 470,500 3.0 470,500
$0.21 - $0.21.............................. 17,632 3.7 17,632
$0.41 - $0.41.............................. 81,000 3.0 81,000
$0.83 - $0.83.............................. 30,000 3.7 30,000
$2.19 - $2.63............................ 705,400 5.6 705,400
$3.44 - $4.13............................ 985,250 5.7 835,250
$5.63 - $8.00............................ 2,581,400 6.5 1,823,091
$8.72 - $12.13........................... 10,960,542 8.9 3,065,020
$13.13 - $18.51.......................... 1,163,500 8.2 732,350
---------- --- ---------
16,995,224 7.9 7,760,243
========== === =========
The weighted-average fair value of options granted was $4.63, $7.42 and
$7.05 for the years ended July 31, 1999, 2000, and 2001, respectively.
Pro forma information regarding net income (loss) and income (loss) per
share is required by SFAS No. 123, and has been determined as if the Company had
accounted for employees' stock options under the fair value method provided by
F-16
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
that statement. The fair value of the stock options was estimated at the date of
grant using the Black-Scholes option pricing model with the following
assumptions for vested and non-vested options.
1999 2000 2001
------- ------- -------
Assumptions
Average risk-free interest rate.......... 4.67% 6.49% 4.77%
Dividend yield........................... -- -- --
Volatility factor of the expected market
price of the Company's common stock...... 84% 81% 90%
Average life............................ 5 years 5 years 5 years
The Black-Scholes option valuation model was developed for use in
estimating the fair value of traded options which have no vesting restrictions
and are fully transferable. In addition, option valuation models require the
input of highly subjective assumptions including the expected stock price
volatility. Because the Company's employee stock options have characteristics
significantly different from those of traded options, and because changes in the
subjective input assumptions can materially affect the fair value estimate, in
management's opinion, the existing models do not necessarily provide a reliable
single measure of the fair value of its employees' stock options.
For purposes of pro forma disclosures, the estimated fair value of the
options under SFAS No. 123 is amortized to expense over the options' vesting
period. For the years ended July 31, 1999, 2000 and 2001, pro forma net income
(loss) and pro forma net income (loss) per share under SFAS No.123 amounted to
the following:
Year ended July 31,
-------------------------------------------
1999 2000 2001
----------- ----------- ------------
Pro forma net income (loss) (53,295,000) 214,286,000 514,716,000
Pro forma net income (loss)
per share:
Basic (0.80) 3.06 7.54
Diluted (0.80) 2.84 6.88
The Company has modified stock options granted for certain employees of the
Company to accelerate or extend their terms. Accordingly, the Company recorded
additional compensation expense of approximately $3,082,000 and $985,000, for
the years ended July 31, 2001 and 2000, respectively.
Net2Phone Stock Options
In the fourth quarter of fiscal 1999, Net2Phone granted options to purchase
8,811,500 shares of its common stock at exercise prices ranging from $3.33 to
$15.00 per share to its employees and employees of IDT. In connection with the
exercise of these options, Net2Phone extended $3,149,900 of recourse loans to
its employees. In order to obtain the loans, optionees agreed to the
cancellation of 23,382 outstanding options.
During the quarter ended July 31, 2000, stock options issued to certain
officers and employees of Net2Phone were accelerated in accordance with the
original stock option awards and as a result Net2Phone recorded approximately
$12,500,000 in compensation charges as a result of the acceleration. During the
quarter ended July 31, 2000, stock options issued to certain officers and
employees of IDT were modified and as a result, Net2Phone recorded $18,300,000
in compensation charges.
Net2Phone Series A Stock
On May 13, 1999, Net2Phone designated 3,150,000 shares of its preferred
stock as Series A ("Series A Stock") and sold 3,140,000 of such shares to
unrelated third parties in a private placement transaction for aggregate gross
proceeds of $31,400,000.
Stock Buyback Program
During the year ended July 31, 2000, the Board of Directors of the Company
authorized the repurchase of up to twenty million shares of the Company's common
stock. In October 2000, the Board of Directors authorized a further increase in
the share repurchase program to 25 million shares. During fiscal 2001, the
Company repurchased 8.0 million shares, for an aggregate purchase price of
$135,849,000. Combined with 6.3 million shares purchased during Fiscal 2000, the
F-17
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Company has repurchased a total of approximately 14.3 million shares of common
stock through the end of Fiscal 2001. In addition, the Company has repurchased
1.4 million common shares during the first quarter of Fiscal 2002.
Liberty Media Transaction
On March 27, 2000, Liberty Media agreed to purchase approximately 9.9% of
the equity of IDT, equal to approximately 7,550,000 shares of IDT's common stock
and exchangeable for shares of Class B common stock. On June 6, 2000, Liberty
Media completed the purchase of 7,457,898 shares of IDT's common stock at $17.25
per share, resulting in aggregate cash consideration of approximately
$128,648,000. Liberty Media also has the right to nominate a director for
election to the IDT Board of Directors.
AT&T Transaction
In March 2000, the Company was granted the option to sell AT&T 4,081,632
shares of its Class B common stock for approximately $74,787,000. In March 2001,
the Company exercised this option.
Hicks Muse Tate & First Transaction
In June 2001, the Company issued stock options to Hicks, Muse, Tate &
Furst Incorporated ("HMTF") to purchase up to 2,200,000 shares of the Company's
Class B common stock at exercise prices ranging from $11.25 to $15.00 per share,
as defined. The stock options are exercisable on the first anniversary of the
agreement, and expire on the fifth anniversary date. In consideration for the
stock options issued to HMTF, the Company received $2,000,000 in cash.
IDT Charitable Foundation
In May 2001, the Company established the IDT Charitable Foundation
("Foundation") with the purpose of obtaining money or property to be contributed
from time to time to eligible charitable organizations. The Foundation also
administers a matching gifts program available to our directors, officers,
employees and retirees.
In July 2001, the Company funded the Foundation with 2.2 million shares of Class
B common stock worth approximately $26,378,000 million at that time.
Net2Phone Summary Financial Information
Summary financial information for Net2Phone as of July 31, 2000 is as
follows:
($'s in thousands):
Current assets $ 156,023
Total assets $ 411,728
Working capital $ 106,372
Revenue $ 72,401
Operating loss $ (128,513)
F-18
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
8. Commitments and Contingencies
Legal Proceedings
On February 15, 2000, Multi-Tech Systems, Inc. filed suit against
Net2Phone, Inc. and other companies in the United States Federal District Court
in Minneapolis, Minnesota. In its press release, Multi-Tech stated that "the
defendant companies are infringing because they are providing the end users with
the software necessary to simultaneously transmit voice and data on their
computers in the form of making a phone call over the Internet." Net2Phone has
defended the lawsuit vigorously. Net2Phone has filed an answer and discovery has
now been completed. Trial of this matter is tentatively scheduled for August 1,
2002. In the interim, it is likely that various motions will be filed to limit
the scope of the plaintiff's claims or to dismiss the action in its entirety.
Net2Phone believes that the Multi-Tech claims are without merit. However, should
a judge issue an injunction against Net2Phone requiring that they cease
distributing Multi-Tech's software or providing Multi-Tech's software-based
services, such an injunction could have a material adverse effect on Net2Phone's
business operations, financial condition, results of operations and cash flows.
IDT filed a Complaint with the United States District Court for the
District of New Jersey on January 29, 2001, against Telefonica S.A., Terra
Networks, S.A., Terra Networks, U.S.A., Inc. and Lycos, Inc. The complaint
asserts claims against the defendants for, among other things, breaches of
various contracts, breach of fiduciary duty, securities violations, fraudulent
misrepresentation, negligent misrepresentation, fraudulent concealment and
tortious interference with prospective economic advantage. The defendants have
been served with the complaint. IDT has filed an amended complaint and the
defendants have filed an answer to the amended complaint. Terra Networks, S.A.,
has filed a Counterclaim for breach of contract alleging that IDT was required
to pay to Terra Networks, S.A. $3,000,000, and that IDT has allegedly failed to
do so. The Defendants have filed a Motion to Dismiss the Complaint. On September
14, 2001, the Court issued an Order: (a) permitting IDT to take discovery
relevant to the subject of whether Telefonica is subject to personal
jurisdiction, (b) denying Telefonica's motion to dismiss for lack of personal
jurisdiction without prejudice to Telefonica's right to renew the motion upon
the completion of jurisdictional discovery, and (c) carrying on the calendar
defendants' motion to dismiss on non-jurisdictional grounds pending the
completion of jurisdictional discovery.
On May 25, 2001, IDT filed a Statement of Claim with the American
Arbitration Association naming Telefonica Internacional, S.A. ("Telefonica") as
the Respondent. The Statement of Claim asserts that IDT and Telefonica entered
into a Memorandum of Understanding ("MOU") that involved, among other things,
the construction and operation of a submarine cable network around South America
("SAm-I"). IDT is claiming, among other things, that Telefonica breached the MOU
by: (1) failing to negotiate SAm-I agreements; (2) refusing to comply with the
equity provisions of the MOU; (3) refusing to sell capacity and back-haul
capacity pursuant to the MOU; and (4) failing to follow through on the joint
venture. In addition to IDT's request that Telefonica comply with the terms of
the MOU, IDT is alleging that it has been damaged in amounts not less than: (1)
$1.15 billion for claim number 1 above; (2) $1.15 billion for claim number 2
above; (3) $100 million for claim number 3 above; and (4) $750 million for claim
number 4 above. Telefonica has responded to IDT's Statement of Claims and has
filed a Statement of Counterclaim which alleges, inter alia: (1) Fraud in the
Inducement; (2) Tortious Interference with Prospective Business Relations; (3)
Breach of the Obligations of Good Faith and Fair Dealing; and (4) Declaratory
and Injunctive Relief. This action is currently in the early stages of
discovery.
The Company is subject to other legal proceedings and claims, which have
arisen in the ordinary course of its business and have not been finally
adjudicated. Although there can be no assurances in this regard, in the opinion
of the Company's management, such proceedings, as well as the aforementioned
actions, will not have a material adverse effect on results of operations or the
financial condition of the Company.
Lease Obligations
The future minimum payments for all capital and operating leases as of July
31, 2001 are approximately as follows:
F-19
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Operating Capital
Leases Leases
-------------- --------------
(In thousands)
Year ending July 31:
2002........................................... $ 9,595 $ 21,386
2003........................................... 8,527 21,710
2004........................................... 8,042 15,557
2005........................................... 7,780 10,212
2006........................................... 6,920 8,179
Thereafter..................................... 93,331 --
-------------- --------------
Total payments.................................... $ 134,195 77,044
==============
Less amount representing interest................. (8,975)
Less current portion.............................. (18,270)
--------------
Capital lease obligations--long-term portion....... $ 49,799
==============
Rental expense under operating leases was approximately $2,821,000,
$6,857,000 and $4,857,000 for the years ended July 31, 1999, 2000 and 2001,
respectively.
Commitments
The Company has entered into purchase commitments of approximately
$31,000,000, primarily related to connectivity agreements.
9. Business Segment Information
Based principally on products and services provided, the Company has
identified five reportable business segments: Wholesale Telecommunications
Services, Retail Telecommunications Services, Internet Services, Internet
Telephony, and Ventures The operating results of these business segments are
distinguishable, are regularly reviewed by Company management and are integral
to their decision making process.
The Wholesale Telecommunications Services business segment is comprised of
wholesale carrier services sold to other U.S. and international carriers. The
Retail Telecommunications Services business segment includes prepaid and
rechargeable calling cards, international retail services and domestic long
distance services. The Internet Services business segment includes dial-up
access services and direct connect dedicated service. The Internet Telephony
business segment reflects the results of the Company's formerly majority-owned
subsidiary, Net2Phone, prior to the elimination of minority interests. The
Ventures business segment, new for the fiscal year ended July 31, 2000, includes
new industries explored by the Company, such as CTM Brochure Display, Inc.
The Company evaluates the performance of its business segments based
primarily on operating income after depreciation and amortization but prior to
interest expense and income taxes. All corporate overhead is allocated to the
business segments based on time and usage studies, except for certain specific
corporate transactions that are not associated with the operations of the
business segments. Operating results and other financial data presented for the
principal business segments of the Company for the years ended July 31, 1999,
2000 and 2001 are as follows (in thousands):
F-20
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Wholesale Retail
Telecommunications Telecommunications Internet Internet
Services Services Services Telephony Ventures Corporate Total
------------------ ------------------ ----------- ----------- ---------- --------- -----------
Year ended July 31, 1999
Total segment revenue ........ $ 301,413 $ 395,542 $ 17,882 $ 33,256 $ -- $ -- $ 748,093
Less revenue between segments (12,383) -- (948) (2,578) -- -- (15,909)
----------- ----------- ----------- ----------- ---------- --------- -----------
Total unaffiliated revenue ... 289,030 395,542 16,934 30,678 -- -- 732,184
Income (loss) from operations 12,596 12,283 (8,197) (24,408) -- -- (7,726)
Depreciation and amortization 14,120 15,275 4,699 2,266 -- -- 36,360
Year ended July 31, 2000
Total segment revenue ........ 549,213 504,594 13,768 72,401 1,639 -- 1,141,615
Less revenues between segments (28,695) (2,082) (600) (16,326) -- -- (47,703)
----------- ----------- ----------- ----------- ---------- --------- -----------
Total unaffiliated revenue ... 520,518 502,512 13,168 56,075 1,639 -- 1,093,912
Income (loss) from operations (11,458) (33,877) (18,112) (125,865) (27,299) -- (216,611)
Depreciation and amortization 18,407 17,771 5,285 6,804 297 -- 48,564
Total assets ................. 431,659 358,656 13,145 403,202 12,393 -- 1,219,055
Year ended July 31, 2001
Total segment revenue ........ 388,120 816,384 9,876 -- 16,570 -- 1,230,950
Less revenues between segments -- -- -- -- -- -- --
----------- ----------- ----------- ----------- ---------- --------- -----------
Total unaffiliated revenue ... 388,120 816,384 9,876 -- 16,570 -- 1,230,950
Income (loss) from operations (68,289) (58,082) (19,949) -- (253,502) (32,888) (432,710)
Depreciation and amortization 24,542 27,937 4,396 -- 3,476 -- 60,351
Total assets ................. $ 535,776 $ 1,066,402 $ 14,587 $ -- $ 264,573 $ -- $ 1,881,338
Revenue from customers located outside of the United States represented
approximately 13%, 17% and 16% of total revenue for the years ended July 31,
1999, 2000 and 2001, respectively, with no single foreign geographic area
representing more than 10% of total revenues for the years ended July 31, 1999
and 2000 and Western Europe representing approximately 15% of total revenues for
the year ended July 31, 2001. Revenues are attributed to countries based on the
location of the customer. Long-lived assets held outside of the United States
totaled approximately $24,400,000 and $88,800,000 as of July 31, 2000 and 2001,
respectively.
As a result of the Company's gradual exit from the dial-up Internet access
service business, including the sale of the majority of its dial-up Internet
access customers, the Company recorded an impairment charge of approximately
$5,957,000 during the year ended July 31, 2001 for the write-down of certain
Internet Services segment fixed assets, primarily relating to equipment
previously used to provide dial-up Internet access services.
10. Additional Financial Information
Trade accounts payable includes approximately $96,215,000 and $112,918,000
due to telecommunication carriers at July 31, 2000 and 2001, respectively.
11. Acquisitions
CTM Brochure Display, Inc.
On June 30, 2000, the Company acquired a 100% interest in CTM Brochure
Display, Inc. ("CTM"), a brochure distribution company, for an aggregate
purchase price of approximately $23,800,000. The purchase price consisted
primarily of $5,100,000 in cash, $16,942,000 in notes payable to the former
owners and the liquidation of $1,400,000 of CTM's bank debt. In connection with
the transaction, the Company recorded goodwill of $23,000,000 which is being
amortized over 20 years and tax liabilities of $3,000,000. The acquisition was
accounted for as a purchase, and accordingly, the net assets and results of
operations of the acquired business have been included in the consolidated
financial statements from the date of acquisition. During the year ended July
31, 2001, the Company repaid the entire principal balance on the notes payable,
together with accrued interest.
Aplio, S.A.
On July 7, 2000, Net2Phone acquired all of the outstanding capital stock of
Aplio, S.A ("Aplio"), a company located in France with technology that enables
VoIP devices. Consideration consisted of $2,900,000 in cash at closing, 582,749
shares of Net2Phone's common stock which were valued at $35.50 per share,
issuance of promissory notes aggregating $6,500,000, $1,100,000 in acquisition
related costs and $4,800,000 in cash to be paid within eighteen months of the
closing of the transaction.
As collateral for the $4,800,000 payment, Net2Phone has acquired 152,390
shares of its common stock in escrow. The aggregate purchase price of
$36,000,000 plus the fair value of net liabilities assumed of $2,700,000 totaled
approximately $38,700,000 which was allocated as follows: approximately
$17,500,000 to goodwill, $20,700,000 to core technology and patents and $500,000
to assembled workforce.
F-21
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The acquisition was accounted for as a purchase by Net2phone, and accordingly,
the net assets and results of operations of the acquired business was included
in the consolidated financial statements through August 2000.
PT-1 Communications
In February 2001, the Company purchased certain assets of PT-1
Communications, Inc. ("PT-1"), a wholly-owned subsidiary of STAR
Telecommunications, Inc., relating to its prepaid card business with a payment
of cash and assumption of certain liabilities, including the obligation to honor
the outstanding phone cards of PT-1. The cash payment and assumption of net
liabilities incurred were approximately $26,300,000 with substantially all of
the purchase price recorded as goodwill and being amortized over a period of 20
years.
Equity Interests in Teligent, Inc. and ICG Communications, Inc.
In April 2001, through its IDT Investments Inc. subsidiary ("IDT
Investments") the Company acquired from Liberty Media 21,436,689 shares of
Teligent, Inc. ("Teligent"), as well as an interest in ICG Communications, Inc.
("ICG"), represented by 50,000 shares of ICG's A-3 Preferred Stock and warrants
to purchase 6,666,667 ICG common shares. In exchange, IDT Investments issued
Liberty Media a total of 10,000 shares of its Class B Common Stock and 40,000
shares of its Preferred Class A stock. Upon completing the transaction, IDT
effectively owned approximately 29% of the equity of Teligent, and approximately
40% of the equity of ICG.
In May 2001, through its IDT Investments subsidiary, the Company entered
into an agreement with various affiliates of HMTF to increase IDT's strategic
investments in Teligent and ICG. Under the terms of the agreement, the HMTF
affiliates received 18,195 shares of IDT Investments' Series B Convertible
Preferred Stock in exchange for the HMTF affiliates' stakes in Teligent and ICG.
The HMTF affiliates owned 219,998 shares of Teligent's Series A Convertible
Preferred Stock, 23,000 shares of ICG's 8% Series A-2 Convertible Preferred
Stock and warrants to purchase 3,066,667 shares of ICG's common stock. The share
of the equity losses recorded by IDT subsequent to all of the above Teligent and
ICG transactions have eliminated the carrying value of the investments in these
companies.
In May 2001, Teligent filed a voluntary bankruptcy petition under Chapter
11 of the U.S. Bankruptcy Code. ICG had previously filed for bankruptcy
protection in November 2000.
12. Earnings Per Share
The following table sets forth the computation of basic and diluted
earnings per share:
Year ended July 31
1999 2000 2001
-------- -------- --------
(In thousands)
Numerator:
Net income (loss) ............................ $(18,204) $230,850 $532,359
Subsidiary redeemable preferred stock
dividends ................................... (26,297) -- --
-------- -------- --------
Net income (loss) attributable to common
stockholders ................................ $(44,501) $230,850 $532,359
======== ======== ========
Denominator:
Weighted-average number of shares
outstanding--Basic .......................... 67,060 69,933 68,301
Effect of stock options ....................... -- 5,306 6,485
-------- -------- --------
Weighted-average number of shares
outstanding--Diluted ........................ 67,060 75,239 74,786
======== ======== ========
Basic earnings (loss) per share ................. $ (0.66) $ 3.30 $ 7.79
Diluted earnings (loss) per share ............... (0.66) 3.07 7.12
F-22
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The following securities have been excluded from the dilutive per share
computation as they are antidilutive
Year ended July 31
1999 2000 2001
--------- --------- ---------
Stock options:........................... 3,587,966 449,500 1,163,500
13. Net2Phone Subsidiary Stock Sales
During the year ended July 31, 2000, the Company recognized approximately
$350,344,000 in gains, including gain on sales of subsidiary stock related to
Net2Phone stock sales as follows:
On August 3, 1999, Net2Phone completed an initial public offering of
6,210,000 shares of common stock at an initial public offering price of $15.00
per share, resulting in net proceeds of approximately $85,300,000. Upon
completion of the initial public offering, 3,140,000 shares of Net2Phone Series
A Preferred Stock were converted into 9,420,000 shares of Net2Phone Class A
Stock. As a result of the initial public offering and concurrent conversion of
Series A Stock to Class A stock, the Company's ownership percentage in Net2Phone
decreased from approximately 90.0% to approximately 56.2%. In connection with
such offering, the Company recorded a gain on sale of stock by a subsidiary of
approximately $65,464,000. Such gain is included in gain on sales of subsidiary
stock for the year ended July 31, 2000. Deferred taxes of $26,200,000 have been
provided on the gain.
In December 1999, Net2Phone completed a secondary offering of 6,300,000
shares of common stock at a price of $55.00 per share. In connection with this
offering, IDT also sold 2,200,000 shares of Net2Phone common stock at $55.00 per
share. Proceeds to the Company, after deducting underwriting discounts and
commissions and offering expenses were approximately $292,800,000. The Company's
ownership interest in Net2Phone before and after these transactions decreased
from 56.2% to 47.97%. The Company recorded gains on sales of stock of
approximately $182,594,000 in connection with these offerings. Such gains are
included in gain on sales of subsidiary stock for the year ended July 31, 2000.
Deferred taxes of approximately $30,700,000 have been provided for these gains.
In March 2000, the Company acquired 806,452 shares of Yahoo! Inc. in
exchange for 2,777,778 shares of Net2Phone common stock at a then equivalent
market value of approximately $150,000,000. In connection with this transaction,
the Company recorded a gain on sale of subsidiary stock of $102,286,000.
14. TyCom Settlement
On October 10, 2000, IDT reached a full and final settlement with TyCom
Ltd. ("TyCom") of all pending claims brought against one another and their
respective affiliates. The settlement agreement is subject to a confidentiality
agreement among the parties and only the following disclosure by IDT is
permitted under the terms of that agreement.
Under the terms of the settlement, TyCom granted to IDT Europe B.V.B.A.
("IDT Europe"), free of charge, certain exclusive rights to use capacity on the
transatlantic and transpacific segments of TyCom's global undersea fiber optic
network (the "TyCom Global Network"), which TyCom is currently deploying. The
settlement agreement provides for IDT Europe to obtain exclusive indefeasible
rights to use two 10 Gb/s wavelengths on the transatlantic segment and two 10
Gb/s wavelengths on the transpacific segment for fifteen years from the
applicable Handover Dates ("IRU") (as described below). TyCom previously
announced that it expects the TyCom transatlantic network to be ready for
service in September 2001, and the TyCom transpacific network to be ready for
service in the second quarter of 2002, the respective "Ready for Service Dates."
Under the terms of the settlement agreement, the Handover Dates for the
wavelengths on the transatlantic segment are nine months (for the first
wavelength) and 18 months (for the second wavelength), respectively, after the
Ready for Service Date of the TyCom transatlantic network; and the Handover Date
F-23
IDT CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
for the wavelengths on the transpacific segment are nine months (for the first
wavelength) and 18 months (for the second wavelength), respectively, after the
Ready for Service Date of the TyCom transpacific network.
Operation, administration and maintenance for the wavelengths used by the
Company will be provided by TyCom for a fifteen year period after the relevant
Handover Date, free of charge. TyCom has also granted the Company certain rights
to resell any unused capacity on the wavelengths through TyCom as its sole and
exclusive agent. In addition, the Company will also have the option, exercisable
at least annually, to convert the available capacity on its wavelengths to
available equivalent capacity on another portion of the TyCom Global Network. In
recognition of the settlement, a gain of $313,486,000 was included as a
component of "Other income" in the second quarter of Fiscal 2001. Due to a
significant decline in IRU pricing and on demand for bandwidth capacity, the
Company subsequently re-evaluated the recoverability of the carrying value of
its IRU in accordance with SFAS No. 121 and as a result, the Company has
recorded an impairment loss of $193,400,000 in the fourth quarter of Fiscal 2001
to reflect the asset's fair value.
16. Subsequent Events
On October 23, 2001 IDT entered into an agreement to lead a consortium
that would concentrate ownership of approximately 50% (64% of the voting power)
of Net2Phone. The consortium consists of IDT, Liberty Media, and AT&T, resulting
in significant economic stakes in Net2Phone for all three parties. As part of
the agreement, IDT and AT&T contributed their shares of Net2Phone (approximately
10.0 million and 18.9 million shares, respectively) to a newly formed Limited
Liability Company (LLC). Liberty then acquired a susbtantial portion of the
LLC's units from AT&T, while IDT increased its stake and AT&T retained a
significant interest. IDT will be the managing member of th LLC.
F-24
IDT CORPORATION
FINANCIAL STATEMENT SCHEDULE--VALUATION AND QUALIFYING ACCOUNTS
Additions
Balance at Charged to
Beginning of Costs and Balance at
Period Expenses Deductions (1) End of Period
----------- ------------- ------------- -------------
1999
Reserves deducted from accounts receivable:
Allowance for doubtful accounts.... $ 6,255,000 $ 5,558,000 $ (4,170,000) $ 7,643,000
2000
Reserves deducted from accounts receivable:
Allowance for doubtful accounts.... 7,643,000 20,154,000 (1,026,000) 26,771,000
2001
Reserves deducted from accounts receivable:
Allowance for doubtful accounts.... 26,771,000 32,873,000 (37,136,000) 22,508,000
(1) Uncollectible accounts written off, net of recoveries.
F-25