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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the quarterly period ended June 30, 2002
-------------
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934.
For the transition period from__________ to __________
Commission File Number 0-32383
PEGASUS COMMUNICATIONS CORPORATION
----------------------------------
(Exact name of Registrant as specified in its charter)
Delaware 23-3070336
-------- ----------
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification Number)
c/o Pegasus Communications Management Company;
225 City Line Avenue, Suite 200, Bala Cynwyd, PA 19004
------------------------------------------------ -----
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (888) 438-7488
--------------
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___
Number of shares of each class of the Registrant's common stock outstanding
as of August 9, 2002:
Class A, Common Stock, $0.01 par value 51,588,777
Class B, Common Stock, $0.01 par value 9,163,800
Non-Voting, Common Stock, $0.01 par value -
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
2
PEGASUS COMMUNICATIONS CORPORATION
Form 10-Q
Table of Contents
For the Quarterly Period Ended June 30, 2002
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets
June 30, 2002 and December 31, 2001 4
Consolidated Statements of Operations and Comprehensive Loss
Three months ended June 30, 2002 and 2001 5
Consolidated Statements of Operations and Comprehensive Loss
Six months ended June 30, 2002 and 2001 6
Condensed Consolidated Statements of Cash Flows
Six months ended June 30, 2002 and 2001 7
Notes to Consolidated Financial Statements 8
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 19
Item 3. Quantitative and Qualitative Disclosures About
Market Risk 26
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 27
Item 3. Defaults Upon Senior Securities 27
Item 4. Submission of Matters to a Vote of Security Holders 27
Item 6. Exhibits and Reports on Form 8-K 28
Signature 29
3
Pegasus Communications Corporation
Condensed Consolidated Balance Sheets
(In thousands)
June 30, December 31,
2002 2001
----------- ------------
(unaudited)
Currents assets:
Cash and cash equivalents $ 117,024 $ 144,673
Accounts receivable, net:
Trade 23,656 34,744
Other 11,086 12,915
Deferred subscriber acquisition costs, net 19,002 15,194
Prepaid expenses 11,672 14,218
Other current assets 24,900 27,899
---------- ----------
Total current assets 207,340 249,643
Property and equipment, net 96,163 91,811
Intangible assets, net 1,791,889 1,868,809
Investment in others 112,309 102,397
Other noncurrent assets 59,206 63,171
---------- ----------
Total $2,266,907 $2,375,831
========== ==========
Current liabilities:
Current portion of long term debt $ 5,809 $ 8,728
Accounts payable 12,436 10,872
Accrued interest 37,557 27,979
Accrued programming fees 66,770 67,225
Accrued commissions and subsidies 41,349 45,746
Other accrued expenses 39,693 32,863
Other current liabilities 3,844 4,755
---------- ----------
Total current liabilities 207,458 198,168
Long term debt 1,318,757 1,329,923
Other noncurrent liabilities 43,045 78,375
---------- ----------
Total liabilities 1,569,260 1,606,466
---------- ----------
Commitments and contingent liabilities (see Note 14)
Minority interest 1,802 1,315
Redeemable preferred stocks 439,369 472,048
Common stockholders' equity:
Common stock 607 592
Other common stockholders' equity 255,869 295,410
---------- ----------
Total common stockholders' equity 256,476 296,002
---------- ----------
Total $2,266,907 $2,375,831
========== ==========
See accompanying notes to consolidated financial statements
4
Pegasus Communications Corporation
Consolidated Statements of Operations and Comprehensive Loss
(In thousands, except per share amounts)
Three Months
Ended June 30,
2002 2001
---------- ----------
(unaudited)
Net revenues:
DBS $ 216,447 $ 206,015
Other businesses 8,856 9,477
--------- ---------
Total net revenues 225,303 215,492
--------- ---------
Operating expenses:
DBS
Programming 96,016 87,772
Other subscriber related expenses 49,086 51,841
--------- ---------
Direct operating expenses (excluding depreciation and amortization shown below) 145,102 139,613
Promotions and incentives 2,027 12,375
Advertising and selling 7,820 32,375
General and administrative 6,865 9,092
Depreciation and amortization 41,487 63,250
--------- ---------
Total DBS 203,301 256,705
--------- ---------
Other businesses
Programming 3,283 3,477
Other direct operating expenses 2,126 1,811
--------- ---------
Direct operating expenses (excluding depreciation and amortization shown below) 5,409 5,288
Advertising and selling 2,059 2,145
General and administrative 1,111 1,250
Depreciation and amortization 1,136 1,254
--------- ---------
Total other businesses 9,715 9,937
--------- ---------
Corporate and development expenses 4,976 5,250
Corporate depreciation and amortization 7,972 384
Other operating expenses, net 6,456 5,951
--------- ---------
Loss from operations (7,117) (62,735)
Interest expense (36,310) (34,876)
Interest income 218 1,346
Loss on impairment of marketable securities (3,063) --
Other nonoperating income (expense), net 113 (35)
--------- ---------
Loss before equity in affiliates, income taxes, continued operations, and extraordinary item (46,159) (96,300)
Equity in earnings of affiliates 173 6,100
Benefit for income taxes (17,490) (31,736)
--------- ---------
Loss before discontinued operations and extraordinary item (28,496) (58,464)
Discontinued operations:
Loss on broadband operations, net of income tax benefit of $841 and $2,047, respectively (1,372) (3,340)
--------- ---------
Loss before extraordinary item (29,868) (61,804)
Extraordinary loss from extinguishment of debt, net of income tax benefit of $604 -- (986)
--------- ---------
Net loss (29,868) (62,790)
--------- ---------
Other comprehensive income (loss):
Unrealized (loss) gain on marketable securities, net of income tax benefit of $465 and $1,528,
respectively (758) 2,493
Reclassification adjustment for accumulated unrealized loss on marketable securities included in
net loss, net of income tax benefit of $1,164 1,899 --
--------- ---------
Net other comprehensive income 1,141 2,493
--------- ---------
Comprehensive loss $ (28,727) $ (60,297)
========= =========
Basic and diluted per common share amounts:
Loss from continuing operations, including $8,954 and $10,421, respectively, representing accrued
and deemed preferred stock dividends and accretion $ (0.62) $ (1.23)
Discontinued operations (0.02) (0.06)
--------- ---------
Loss before extraordinary item, including accrued and deemed preferred stock dividends and accretion (0.64) (1.29)
Extraordinary item -- (0.02)
--------- ---------
Net loss applicable to common shares $ (0.64) $ (1.31)
========= =========
Weighted average number of common shares outstanding 60,332 55,679
========= =========
See accompanying notes to consolidated financial statements
5
Pegasus Communications Corporation
Consolidated Statements of Operations and Comprehensive Loss
(In thousands, except per share amounts)
Six Months Ended
June 30,
2002 2001
---------- ----------
(unaudited)
Net revenues:
DBS $ 431,171 $ 411,853
Other businesses 17,209 17,466
--------- ---------
Total net revenues 448,380 429,319
--------- ---------
Operating expenses:
DBS
Programming 192,334 175,934
Other subscriber related expenses 100,827 100,743
--------- ---------
Direct operating expenses (excluding depreciation and amortization shown below) 293,161 276,677
Promotions and incentives 3,770 29,308
Advertising and selling 16,121 69,434
General and administrative 14,782 18,254
Depreciation and amortization 80,937 126,004
--------- ---------
Total DBS 408,771 519,677
--------- ---------
Other businesses
Programming 6,625 6,195
Other direct operating expenses 4,152 3,616
--------- ---------
Direct operating expenses (excluding depreciation and amortization shown below) 10,777 9,811
Advertising and selling 3,891 4,027
General and administrative 2,259 2,329
Depreciation and amortization 2,316 2,586
--------- ---------
Total other businesses 19,243 18,753
--------- ---------
Corporate and development expenses 10,520 9,699
Corporate depreciation and amortization 15,915 727
Other operating expenses, net 15,921 14,474
--------- ---------
Loss from operations (21,990) (134,011)
Interest expense (72,362) (69,207)
Interest income 436 4,053
Loss on impairment of marketable securities (3,063) --
Other nonoperating income (expense), net 1,239 (3,686)
--------- ---------
Loss before equity in affiliates, income taxes, discontinued operations, and extraordinary item (95,740) (202,851)
Equity in earnings of affiliates 349 14,101
Benefit for income taxes (36,107) (66,014)
--------- ---------
Loss before discontinued operations and extraordinary item (59,284) (122,736)
Discontinued operations:
Loss on broadband operations, net of income tax benefit of $1,424 and $3,264, respectively (2,324) (5,325)
--------- ---------
Loss before extraordinary item (61,608) (128,061)
Extraordinary loss from extinguishment of debt, net of income tax benefit of $604 -- (986)
--------- ---------
Net loss (61,608) (129,047)
--------- ---------
Other comprehensive loss:
Unrealized loss on marketable securities, net of income tax benefit of $1,780 and $3,137,
respectively (2,904) (5,118)
Reclassification adjustment for accumulated unrealized loss on marketable securities included in
net loss, net of income tax benefit of $1,164 1,899 --
--------- ---------
Net other comprehensive loss (1,005) (5,118)
--------- ---------
Comprehensive loss $ (62,613) $(134,165)
========= =========
Basic and diluted per common share amounts:
Loss from continuing operations, including $16,943 and $20,841, respectively, representing accrued
and deemed preferred stock dividends and accretion $ (1.27) $ (2.58)
Discontinued operations (0.04) (0.10)
--------- ---------
Loss before extraordinary item, including accrued and deemed preferred stock dividends and accretion (1.31) (2.68)
Extraordinary item -- (0.02)
--------- ---------
Net loss applicable to common shares $ (1.31) $ (2.70)
========= =========
Weighted average number of common shares outstanding 60,018 55,503
========= =========
See accompanying notes to consolidated financial statements
6
Pegasus Communications Corporation
Condensed Consolidated Statements of Cash Flows
(In thousands)
Six Months Ended
June 30,
2002 2001
---------- -----------
(unaudited)
Net cash used for operating activities $ 23,675 $ (95,747)
--------- ---------
Cash flows from investing activities:
DBS equipment capitalized (13,497) (8,056)
Other capital expenditures (2,996) (14,509)
Purchases of intangible assets (346) (7,721)
Other -- (889)
--------- ---------
Net cash used for investing activities (16,839) (31,175)
--------- ---------
Cash flows from financing activities:
Proceeds from term facility 63,156 --
Net repayments on revolving credit facilities (80,000) --
Repayments of other long term debt (7,281) (8,227)
Redemption of preferred stock (5,717) --
Repurchase of preferred stock (4,964) --
Changes in restricted cash, net of cash acquired 1,139 (15,464)
Debt financing costs (213) (1,672)
Other (605) 1,663
--------- ---------
Net cash used for financing activities (34,485) (23,700)
--------- ---------
Net decrease in cash and cash equivalents (27,649) (150,622)
Cash and cash equivalents, beginning of year 144,673 214,361
--------- ---------
Cash and cash equivalents, end of period $ 117,024 $ 63,739
========= =========
See accompanying notes to consolidated financial statements
7
PEGASUS COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. General
"We", "us", and "our" refer to Pegasus Communications Corporation together
with its subsidiaries. "PCC" refers to Pegasus Communications Corporation
individually as a separate entity. "PSC" refers to Pegasus Satellite
Communications, Inc., one of PCC's subsidiaries. "PM&C" refers to Pegasus Media
& Communications, Inc., a subsidiary of PSC. "DBS" refers to direct broadcast
satellite.
Significant Risks and Uncertainties
We are highly leveraged. At June 30, 2002, we had a combined carrying
amount of debt and redeemable preferred stocks outstanding of $1.7 billion. We
reduced our leveraged position by $160.1 million, excluding applicable accrued
dividends, in transactions subsequent to June 30, 2002 as indicated in notes 7
and 8. Because we are highly leveraged, we are more vulnerable to adverse
economic and industry conditions. We dedicate a substantial portion of cash to
pay amounts associated with debt. In the first six months of 2002, we paid
interest of $49.3 million. We were scheduled to begin paying cash dividends on
PSC's 12-3/4% series preferred stock in July 2002. However, we did not declare
the scheduled semiannual dividend payable July 1, 2002 for this series (see note
7). Further, we did not declare the scheduled quarterly dividends payable April
30, 2002 and July 31, 2002 for our Series C preferred stock (see note 7). In the
past, dividends payable on Series C were paid with shares of our Class A common
stock, as permitted under the certificate of designation. We redeemed $5.7
million of Series B preferred stock in cash in March 2002. We have received
notice of redemption from holders for $5.0 million of Series E preferred stock.
However, we are not permitted nor obligated to redeem the related shares while
dividends on preferred stock senior to the series are in arrears. Under these
circumstances, our inability to redeem the Series E shares is not an event of
default. We have also used cash to purchase our common stock, preferred stock,
and debt. See notes 5, 7, and 8, respectively, for a discussion of these
transactions.
Using cash for the above noted payments reduces the availability of funds
to us for working capital, capital expenditures, and other activities, and
limits our flexibility in planning for, or reacting to, changes in our business
and the industries in which we operate, although we will reduce the amount of
cash paid to unaffiliated parties in connection with the preferred stocks and
debt we repurchased. Our ability to make payments on and to refinance
indebtedness and redeemable preferred stocks outstanding and to fund planned
capital expenditures and other activities depends on our ability to generate
cash in the future. Our ability to generate cash depends upon the success of our
business strategy, prevailing economic conditions, regulatory risks, our ability
to integrate acquired assets successfully into our operations, competitive
activities by other parties, equipment strategies, technological developments,
level of programming costs, levels of interest rates, and financial, business,
and other factors that are beyond our control. We cannot assure that our
business will generate sufficient cash flow from operations or that alternative
financing will be available to us in amounts sufficient to service outstanding
debt and redeemable preferred stocks or to fund other liquidity needs. Our
indebtedness and preferred stocks contain numerous covenants that, among other
things, generally limit the ability to incur additional indebtedness and liens,
issue other securities, make certain payments and investments, pay dividends,
transfer cash, dispose of assets, and enter into other transactions, and impose
limitations on the activities of our subsidiaries. Failure to make debt payments
or comply with covenants could result in an event of default that, if not cured
or waived, could have a material adverse effect on us.
2. Basis of Presentation
The unaudited financial statements herein include the accounts of PCC and
all of its subsidiaries on a consolidated basis. All intercompany transactions
and balances have been eliminated. The balance sheets and statements of cash
flows are presented on a condensed basis. These financial statements are
prepared in accordance with the instructions to Form 10-Q and Rule 10-01 of
Regulation S-X. Accordingly, they do not include all of the information and
footnotes required by generally accepted accounting principles for complete
financial statements. The financial statements reflect all adjustments
consisting of normal recurring items that, in our opinion, are necessary for a
fair presentation, in all material respects, of our financial position and the
results of our operations and comprehensive loss and our cash flows for the
interim period. The interim results of operations contained herein may not
necessarily be indicative of the results of operations for the full fiscal year.
Prior year amounts have been reclassified where appropriate to conform to the
current year classification for comparative purposes.
8
PEGASUS COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
3. Adoption of FAS 141
On January 1, 2002, we adopted in its entirety Statement of Financial
Accounting Standards No. 141 "Business Combinations" ("FAS 141"). FAS 141, as
well as FAS 142 discussed below, makes a distinction between intangible assets
that are goodwill and intangible assets that are other than goodwill. When we
use the term "intangible asset or assets", we mean it to be an intangible asset
or assets other than goodwill, and when we use the term "goodwill", we mean it
to be separate from intangible assets. The principal impact to us of adopting
FAS 141 was the requirement to reassess at January 1, 2002 the classification on
our balance sheet of the carrying amounts of our goodwill and intangible assets
recorded in acquisitions we made before July 1, 2001. The adoption of FAS 141
did not have a significant impact on our financial position.
4. Adoption of FAS 142
In the first quarter 2002, effective on January 1, 2002, we adopted in its
entirety Statement of Financial Accounting Standards No. 142 "Goodwill and Other
Intangible Assets" ("FAS 142"). A principal provision of the standard is that
goodwill and intangible assets that have indefinite lives are not subject to
amortization, but are subject to an impairment test at least annually. The
principal impacts to us of adopting FAS 142 were: 1) reassessing on January 1,
2002 the useful lives of intangible assets existing on that date that we had
recorded in acquisitions we made before July 1, 2001 and adjusting remaining
amortization periods as appropriate; 2) ceasing amortization of goodwill and
intangible assets with indefinite lives effective January 1, 2002; 3)
establishing reporting units as needed for the purpose of testing goodwill for
impairment; 4) testing on January 1, 2002 goodwill and intangible assets with
indefinite lives existing on that date for impairment; and 5) separating
goodwill from intangible assets. The provisions of this standard were not
permitted to be retroactively applied to periods before the date we adopted FAS
142.
We believe that the estimated remaining useful life of the DBS rights
assets should be based on the estimated useful lives of the satellites at the
1010 west longitude orbital location available to provide DirecTV services under
the NRTC-DirecTV contract. The contract sets forth the terms and conditions
under which the lives of those satellites are deemed to expire, based on fuel
levels and transponder functionality. We estimate that the useful life of the
DirecTV satellite resources provided under the contract (without regard to
renewal rights) expires in November 2016. Because the cash flows for all of our
DBS rights assets emanate from the same source, we believe that it is
appropriate for all of the estimated useful lives of our DBS rights assets to
end at the same time. Prior to the adoption of FAS 142, our DBS rights assets
had estimated useful lives of 10 years from the date we obtained the rights.
Linking the lives of our DBS rights assets in such fashion extended the
amortization period for the unamortized carrying amount of the assets and the
range of the useful lives of the rights from the date of their inception. The
life of our DBS rights is subject to litigation. See note 14 for information
regarding this litigation.
We determined that our broadcast licenses had indefinite lives because
under past and existing Federal Communications Commission's regulations the
licenses can be routinely renewed indefinitely with little cost. Ceasing
amortization on goodwill and broadcast licenses had no material effect. The
adoption of FAS 142 did not have a significant effect on our other intangible
assets other than those discussed above. Our industry segments already
established equate to the reporting units required under the standard. We
determined that there were no impairments to be recorded upon the adoption of
FAS 142.
9
PEGASUS COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
At June 30, 2002 and December 31, 2001, intangible assets that were
amortized had the following balances (in thousands):
June 30, December 31,
2002 2001
---------- -----------
Cost:
DBS rights assets $2,291,422 $2,259,231
Other 226,135 286,430
---------- -----------
2,517,557 2,545,661
---------- -----------
Accumulated amortization:
DBS rights assets 697,154 624,115
Other 44,439 52,737
---------- -----------
741,593 676,852
---------- -----------
Net $1,775,964 $1,868,809
========== ===========
At June 30, 2002, intangible assets that were not amortized consisted of
broadcast licenses with a carrying amount of $15.9 million. We had no intangible
assets that were not amortized at December 31, 2001. At June 30, 2002 and
December 31, 2001, total goodwill had a carrying amount of $15.8 million and was
all associated with our broadcast segment. Because the carrying amount of
goodwill is not significant, it is included in other noncurrent assets on the
balance sheet.
Loss before extraordinary items and net loss, each as adjusted for the
effects of applying FAS 142, for the three and six months ended June 30, 2001
were as follows (in thousands, except per share amounts):
For the three months ended: Per share
---------
Loss before extraordinary items, as
adjusted $(45,004) $(0.99)
Net loss, as adjusted (45,990) (1.01)
For the six months ended:
Loss before extraordinary items, as
adjusted (94,356) (2.07)
Net loss, as adjusted (95,342) (2.09)
A reconciliation of net loss, as reported to net loss, as adjusted for the
three and six months ended June 30, 2001 is as follows (in thousands, except per
share amounts):
Per share
---------
For the three months ended:
Net loss, as reported $(62,790) $(1.31)
Add back goodwill amortization 101 -
Add back amortization on broadcast licenses 101 -
Adjust amortization for a change in the
useful life of DBS rights assets 16,598 .30
---------- --------
Net loss, adjusted $(45,990) $(1.01)
========== ========
For the six months ended:
Net loss, as reported $(129,047) $(2.70)
Add back goodwill amortization 202 -
Add back amortization on broadcast licenses 202 -
Adjust amortization for a change in the
useful life of DBS rights assets 33,301 .61
----------- --------
Net loss, as adjusted $ (95,342) $(2.09)
=========== ========
10
PEGASUS COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Aggregate amortization expense for the six months ended June 30, 2002 and
2001 was $74.3 million and $122.5 million, respectively. Aggregate amortization
expense for 2001 was $245.4 million. The estimated aggregate amount of
amortization expense for the remainder of 2002 and for each of the next five
years thereafter is $73.6 million, $129.0 million, $129.0 million, $126.8
million, $123.5 million, and $122.8 million, respectively.
5. Common Stock
The number of shares of PCC's Class A common stock at June 30, 2002 was
51,493,223 issued and 51,413,503 outstanding, and at December 31, 2001 was
49,995,099 issued and 49,991,463 outstanding. Class A shares issued during the
six months ended June 30, 2002 were as follows:
Payment for dividends on preferred stocks 576,394
Conversion of Series C preferred stock (see note 7) 570,410
Employee benefit and award plans, net 275,236
In July 2002, PCC issued 95,554 shares of Class A in connection with
employee benefit plans. In July and into August 2002, PSC purchased 475,400
shares of PCC's Class A through a combination of a negotiated transaction with
an unaffiliated holder and open market purchases for $408 thousand in cash. The
shares purchased will be accounted for as treasury stock in our consolidated
financial statements prepared for the third quarter 2002. No dividends were
declared or paid for common stocks during the six months ended June 30, 2002.
At our annual stockholders' meeting held in May 2002, stockholders
authorized the board of directors to effect a reverse stock split of PCC's
issued and outstanding Class A and B common stocks at any time prior to the next
annual stockholders' meeting. The reverse split would be based upon a
determination by the board of directors that the reverse stock split and reverse
stock split ratio are in our and the stockholders' best interests. The ratio of
the reverse split would be not less than 1 for 2 and not more than 1 for 10.
Also at the annual stockholders' meeting, stockholders approved amendments to
certain of our employee benefit plans. The 1996 stock option plan was amended to
increase the number of shares of Class A that may be issued under the plan to
10.0 million from 6.0 million and to increase the maximum number of shares of
Class A that may be issued under options granted to any employee under the plan
to 2.0 million from 1.5 million. The restricted stock plan was amended to
increase the number of shares of Class A that may be issued under the plan to
2.0 million from 1.5 million.
6. Changes in Other Stockholders' Equity
The change in other stockholders' equity from December 31, 2001 to June 30,
2002 consisted of (in thousands):
Net loss $(61,608)
Repurchase of preferred stock at amounts
less than carrying value (see note 7) 28,774
Deemed dividends (see note 7), dividends
accrued, and accretion associated with
preferred stocks (16,943)
Common stock issued in conversion of
Series C preferred stock (see note 7) 7,613
Common stock issued as payment for
preferred stock dividends 5,201
Common stock issued for employee plans
and awards, net 1,083
Net change in accumulated other
comprehensive loss (1,005)
Beneficial conversion feature recovered
associated with preferred stock redeemed
(see note 7) (2,441)
Preferred stock original issue costs
written off in connection with
preferred stock converted (215)
11
PEGASUS COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
7. Redeemable Preferred Stocks
The aggregate carrying amount of redeemable preferred stocks at June 30,
2002 of $439.4 million consisted of $159.4 million in 12-3/4% series of PSC and
$280.0 million in preferred stocks of PCC. The aggregate carrying amount at June
30, 2002 decreased by $32.7 million from that at December 31, 2001. This
decrease consisted of: $(33.7) million associated with repurchases of shares of
the 12-3/4% series; a net $(6.5) million associated with the conversion of
Series C into Class A common stock; net accrued dividends and accretion of $18.5
million; dividends of $(5.2) million paid in Class A common stock; dividends
paid in cash of $(10) thousand; and the redemption of Series B junior
convertible participating in cash of $(5.7) million. After giving effect to the
purchase transactions occurring after June 30, 2002 described below, along with
associated accrued dividends and related stock issuance costs, the pro forma
aggregate carrying amount of redeemable preferred stocks at June 30, 2002 was
$304.0 million.
The number of shares of preferred stock issued and outstanding at June 30,
2002 and December 31, 2001, respectively, was: 150,240 and 172,952 of 12-3/4%
Series of PSC; 2,582,796 and 2,650,300 of Series C; 12,500 of Series D at each
date; and 10,000 of Series E at each date. The net decrease in the number of
shares for the 12-3/4% series resulted from an increase of 11,026 shares issued
for the semiannual dividend declared and paid in January 2002 aggregating $11.0
million that was paid in like kind shares and a decrease of 33,738 for shares
purchased by PSC. The decrease in Series C was due to the conversion of shares
into shares of Class A common stock. Annual dividends on Series D and E of $500
thousand and $400 thousand, respectively, were paid in January 2002 with an
aggregate of 87,138 shares of PCC's Class A common stock. In January 2002, the
regularly scheduled quarterly dividend for Series C of $4.3 million was paid
with 489,256 shares of PCC's Class A common stock.
All 5,707 outstanding shares of Series B were redeemed in March 2002 at a
redemption price of $1,000 per share, plus accrued and unpaid dividends to the
date of redemption of $10 thousand. The redemption price and accrued dividends
were paid in cash. As a result of the redemption, $2.4 million of the beneficial
conversion feature previously recognized for this series when it was issued was
recovered as a negative deemed dividend. This deemed dividend was included in
determining the net loss applicable to common shares in 2002.
In May 2002, 67,504 shares of Series C amounting to $6.8 million
liquidation preference value, excluding accrued dividends, were converted into
570,410 shares of Class A common stock. The conversion rate used exceeded the
conversion rate specified in the series' certificate of designation. As a
result, $869 thousand of the consideration paid in the conversion was determined
to be an inducement to the holder of the Series C shares to convert and was
treated as a deemed dividend. This deemed dividend was included in determining
the net loss applicable to common shares for 2002. An allocable portion of the
original issue costs for Series C associated with the shares converted included
in the net carrying amount of Series C of $216 thousand was charged to
additional paid in capital.
In July 2002, in a series of negotiated transactions with unaffiliated
holders, PCC purchased 774,682 shares of Series C with a liquidation preference
value, excluding accrued dividends, of $77.5 million for $6.1 million in cash.
The shares purchased will be accounted for as constructively retired, with the
difference between the liquidation preference value and purchase price recorded
as an adjustment to other stockholders' equity in the balance sheet, in the
third quarter 2002.
In June 2002, PCC purchased in a series of negotiated transactions with
unaffiliated holders 33,738 shares of the 12-3/4% series with a liquidation
preference value, excluding accrued dividends, of $33.7 million for $4.9 million
in cash. For our consolidated financial reporting purposes, the stock purchased
was considered as constructively retired. Accordingly, the liquidation
preference value and dividends associated with these shares have been eliminated
from PCC's financial statements. The differential of $28.8 million between the
liquidation preference value and the purchase price was recorded as an
adjustment to other stockholders' equity in the balance sheet. In July 2002, PCC
purchased in a series of negotiated transactions with unaffiliated holders an
additional 54,828 shares of the 12-3/4% series with a liquidation preference
value, excluding accrued dividends, of $54.8 million for $11.5 million. The
shares purchased will be accounted for as constructively retired in the third
quarter 2002.
12
PEGASUS COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
At the discretion of our board of directors as permitted by the certificate
of designation for Series C, we did not declare the scheduled quarterly
dividends payable April 30 and July 31, 2002 for this series. The total amount
of dividends in arrears on Series C to unaffiliated holders through the most
recent dividend payable date of July 31, 2002, after giving effect to shares
repurchased through that date as discussed above, was $5.9 million, at a rate of
6.5% per $100 liquidation preference value for each share outstanding. Dividends
not declared accumulate in arrears until later declared and paid. Dividends on
the Series C accrue without interest. Unless full cumulative dividends in
arrears have been paid or set aside for payment, PCC, but not its subsidiaries,
may not, with certain exceptions, 1) declare, pay, or set aside amounts for
payment of future cash dividends or distributions, or 2) purchase, redeem, or
otherwise acquire for value any shares of its capital stock junior or on a
parity with Series C. Series D and E preferred stock are junior securities with
respect to Series C. As permitted in the certificate of designation, PCC has the
option of paying dividends declared on Series C in cash, shares of PCC's Class A
common stock, or a combination of both. Dividends declared on Series C in the
past have been paid with shares of the Class A common stock.
At the discretion of our board of directors as permitted by the certificate
of designation for the 12-3/4% series, we did not declare the scheduled
semiannual dividend payable July 1, 2002 for this series. The amount of the
dividend scheduled to be paid on that date and in arrears to unaffiliated
holders was $9.6 million. Dividends in arrears on this series accrue interest at
a rate of 14.75% per year until later declared and paid. Unless full cumulative
dividends in arrears on the 12-3/4% series have been paid or set aside for
payment, PSC may not, with certain exceptions, 1) declare, pay, or set aside
amounts for payment of future cash dividends or distributions, or 2) purchase,
redeem, or otherwise acquire for value any shares of its capital stock junior to
the 12-3/4% series. After giving effect to shares repurchased after June 30,
2002 as discussed above, dividends in arrears to unaffiliated holders were $6.1
million.
Despite the restrictions placed on PSC regarding cash dividend payments
discussed in the preceding paragraph, permissible means are available to
transfer funds within the PCC consolidated group while dividends on PSC's
preferred stock are in arrears.
8. Long Term Debt
During the three months ended June 30, 2002, amounts borrowed and
repayments of amounts borrowed under PM&C's revolving credit facility were
equal. There was no principal amount outstanding under the revolving credit
facility at June 30, 2002, compared to $80.0 million outstanding at December 31,
2001. Letters of credit outstanding under the revolving credit facility, which
reduce the availability thereunder, were $60.9 million at June 30, 2002 and
$63.2 million at December 31, 2001. At June 30, 2002, the commitment for the
revolving credit facility was permanently reduced by approximately $8.4 million
as scheduled under the terms of the credit agreement to $185.6 million. The
commitment for the revolving credit facility will continue to be permanently
reduced by approximately $8.4 million in each of September and December 2002.
Availability under the revolving credit facility at June 30, 2002 was
approximately $124.5 million.
We repaid $688 thousand of outstanding principal under PM&C's term loan
facility during the second quarter 2002, as scheduled in the credit agreement,
which reduced the total principal amount outstanding to $270.9 million. The
weighted average variable rate of interest including applicable margins on
principal amounts outstanding under the term facility was approximately 5.4% at
June 30, 2002 and December 31, 2001.
In June 2002, PM&C borrowed $63.2 million in incremental term loans under
its credit agreement out of $200.0 million capacity specified for such purpose
thereunder. Our option to request additional funding from the unused portion of
the incremental term loan capacity of $136.8 million expired June 30, 2002.
Principal amounts outstanding under the incremental term loan facility are
payable quarterly in increasing increments over the remaining term of the
facility beginning September 30, 2002. All unpaid principal and interest
outstanding under the incremental term loans are due July 31, 2005. Quarterly
principal payments scheduled for the remainder of 2002 are $158 thousand in each
of September and December, with total payments of $632 thousand, $16.3 million,
and $45.9 million in 2003, 2004, and 2005, respectively. Amounts repaid under
the incremental term loan facility may not be reborrowed. Margins on incremental
term loans are 2.5% for base rates and 3.5% for LIBOR rates. Interest on
outstanding principal borrowed under base rates is due and payable quarterly and
interest on outstanding principal borrowed under LIBOR rates is due and payable
the earlier of the end of the contracted interest rate period or three months.
The weighted average rate of interest including applicable margins on principal
amounts outstanding under the incremental loan term facility at June 30, 2002
was 7.25%.
13
PEGASUS COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
In July 2002, PSC purchased $17.1 million in maturity value of PM&C's
12-1/2% notes due July 2005 for $17.1 million in a negotiated transaction with
an unaffiliated holder. In August 2002, PSC purchased $10.7 million in maturity
value of its 13-1/2% senior subordinated discount notes due March 2007 for $2.8
million in negotiated transactions with an unaffiliated holder. The notes
purchased will be accounted for as constructively retired, with any associated
gain or loss recognized in earnings in the third quarter 2002.
9. Per Common Share Amounts
Within each respective period presented on the statements of operations and
comprehensive loss, basic and diluted per common share amounts were the same
because all potential common stock items were antidilutive and excluded from the
computation. The number of shares of potential common stock items derived from
convertible preferred stocks, warrants and stock options at June 30, 2002 and
December 31, 2001 was 13.7 million and 12.5 million, respectively. Dividends and
accretion on preferred stock and deemed dividends associated with preferred
stock issuances, conversions, and redemptions adjust, as appropriate, net income
or loss and results from continuing operations to arrive at the amount
applicable to common shares. Such amounts for the periods presented were as
follows (in thousands):
Three Months Six Months
Ended June 30, Ended June 30,
2002 2001 2002 2001
------- ------- --------- --------
Accrued dividends on preferred stock $8,061 $10,397 $18,467 $20,793
Deemed dividends associated with
preferred stock 869 - (1,572) -
Accretion on preferred stock 24 24 48 48
------- ------- --------- --------
$8,954 $10,421 $16,943 $20,841
======= ======= ========= ========
The amounts in the table exclude dividends associated with preferred stock
held by entities within the PCC consolidated group.
10. Supplemental Cash Flow Information
Significant noncash investing and financing activities were as follows (in
thousands):
Six Months
Ended June 30,
2002 2001
-------- ---------
Preferred stock dividends, accrued and deemed, and
accretion on preferred stock $16,943 $20,841
Payment of 12-3/4% series preferred stock dividends
in like kind shares 11,026 9,744
Payment of other preferred stock dividends with
common stock 5,207 11,050
Common stock issued for employee benefit and award
plans 1,691 2,971
NRTC patronage capital investment accrued 9,555 10,850
Net change in other comprehensive loss 1,005 5,118
Beneficial conversion feature recovered in additional
paid in capital in association with preferred stock
redeemed with common stock 2,441 --
Conversion of preferred stock into common stock 7,619 --
Differential between cash purchase price and
liquidation preference value, excluding accrued
dividends, for PSC preferred stock repurchased 28,774 --
14
PEGASUS COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
11. Loss on Impairment of Marketable Securities
Based on the significance and duration of the loss in fair value, at June
30, 2002, we determined that our sole investment in marketable securities held
had incurred an other than temporary decline in fair market value. Accordingly,
we wrote down the cost basis in the marketable securities to their fair market
value at June 30, 2002 and charged earnings in the amount of $3.1 million for
the impairment loss realized. The income tax benefit recorded in income taxes
for continuing operations associated with this charge was $1.2 million.
Concurrently, we made a reclassification adjustment to other comprehensive loss
for the three and six months ended June 30, 2002 and other stockholders' equity
at June 30, 2002 of $1.9 million, net of income tax benefit of $1.2 million, to
remove all of the net unrealized losses on the marketable securities accumulated
at that date that were realized and recorded in earnings as noted above.
12. Discontinued Operations
Because our Pegasus Express two way satellite internet access business no
longer fits into our near term strategic plans, we entered into an agreement
with an unaffiliated party in June 2002 to sell our Pegasus Express subscribers
and the Pegasus Express equipment inventory for cash. Transfer of the
subscribers is expected to occur in mid August 2002, and transfer of the
equipment is expected to be completed by the end of August 2002. We anticipate
that the cash proceeds from the sale of the subscribers will be about $1.6
million, subject to adjustment for the number of our subscribers that ultimately
are authorized into the buyer's internet access service. We anticipate that the
cash proceeds from the sale of the equipment will be about $2.6 million, subject
to the actual number of units transferred, and will be payable in four equal
monthly payments ending November 2002. Upon the sale of the subscribers and
equipment, we will no longer operate the Pegasus Express business. As Pegasus
Express is the only business within our broadband operation, we are reporting
the broadband operation as discontinued effective June 30, 2002 for all periods
presented. Revenues and pretax loss from operations of the broadband operation
follows (in thousands):
Three Months Six Months
Ended June 30, Ended June 30,
2002 2001 2002 2001
-------- ------- --------- --------
Revenues $ 1,177 $ - $ 2,327 $ 167
Pretax loss (2,213) (5,371) (3,748) (8,589)
Included in discontinued operations for the three and six months ended June
30, 2002 is an impairment loss recognized on the equipment inventory of $837
thousand. This impairment writes down the carrying amount of the equipment to
its fair market value based on the per unit sale price of the equipment
specified in the sale agreement. Also included in discontinued operations for
these periods is an aggregate impairment loss of $847 thousand for valuation
reserves placed against other assets that we believe have diminished utility to
the broadband operation as a result of the pending subscriber and equipment sale
and discontinuance of the operations. Pegasus Express equipment inventory
subject to sale with a carrying amount of $2.8 million at June 30, 2002 is
included in other current assets in the balance sheet.
13. Industry Segments
Our only reportable segment at June 30, 2002 was the DBS business.
Information on DBS' revenue and measure of profit/loss and how these contribute
to our consolidated loss from continuing operations before income taxes for each
period reported is as presented on the statements of operations and
comprehensive loss. DBS derived all of its revenues from external customers for
each period presented. Identifiable total assets for DBS were approximately $1.9
billion at June 30, 2002, which did not change significantly from the total DBS
assets at December 31, 2001.
15
PEGASUS COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
14. Commitments and Contingent Liabilities
Legal Matters
DIRECTV Litigation:
National Rural Telecommunications Cooperative
Our subsidiaries, Pegasus Satellite Television ("PST") and Golden Sky
Systems ("GSS"), are affiliates of the National Rural Telecommunications
Cooperative ("NRTC") that participate through agreements in the NRTC's direct
broadcast satellite program. "DIRECTV" refers to the programming services
provided by DirecTV, Inc. ("DirecTV").
On June 3, 1999, the NRTC filed a lawsuit in United States District Court,
Central District of California against DirecTV seeking a court order to enforce
the NRTC's contractual rights to obtain from DirecTV certain premium programming
formerly distributed by United States Satellite Broadcasting Company, Inc. for
exclusive distribution by the NRTC's members and affiliates in their rural
markets. On July 22, 1999, DirecTV filed a counterclaim seeking judicial
clarification of certain provisions of DirecTV's contract with the NRTC. As part
of the counterclaim, DirecTV is seeking a declaratory judgment that the term of
the NRTC's agreement with DirecTV is measured only by the orbital life of DBS-1,
the first DIRECTV satellite launched, and not by the orbital lives of the other
DIRECTV satellites at the 101(degree)W orbital location. While the NRTC has a
right of first refusal to receive certain services from any successor DIRECTV
satellite, the scope and terms of this right of first refusal are also being
disputed in the litigation, as discussed below. If DirecTV were to prevail on
its counterclaim, any failure of DBS-1 could have a material adverse effect on
our DIRECTV rights. On August 26, 1999, the NRTC filed a separate lawsuit in
federal court against DirecTV claiming that DirecTV had failed to provide to the
NRTC its share of launch fees and other benefits that DirecTV and its affiliates
have received relating to programming and other services. On November 15, 1999,
the court granted a motion by DirecTV and dismissed the portion of this lawsuit
asserting tort claims, but left in place the remaining claims asserted by the
NRTC. The NRTC and DirecTV have also filed indemnity claims against one another
that pertain to the alleged obligation, if any, of the NRTC to indemnify DirecTV
for costs incurred in various lawsuits described herein. These claims have been
severed from the other claims in the case and will be tried separately. On July
3, 2002, the court granted a motion for summary judgment filed by DirecTV,
holding that NRTC is liable to indemnify DirecTV for the costs of defense and
liabilities that DirecTV incurs in a patent case filed by Pegasus Development
Corporation and Personalized Media Communications, L.L.C., which is more fully
described below.
Pegasus Satellite Television and Golden Sky Systems
On January 10, 2000, PST and GSS filed a class action lawsuit in federal
court in Los Angeles against DirecTV as representatives of a proposed class that
would include all members and affiliates of the NRTC that are distributors of
DIRECTV. The complaint contained causes of action for various torts, common
counts and declaratory relief based on DirecTV's failure to provide the NRTC
with certain premium programming, and on DirecTV's position with respect to
launch fees and other benefits, term and right of first refusal. The complaint
sought monetary damages and a court order regarding the rights of the NRTC and
its members and affiliates. On February 10, 2000, PST and GSS filed an amended
complaint which added new tort claims against DirecTV for interference with
PST's and GSS' relationships with manufacturers, distributors and dealers of
direct broadcast satellite equipment. The class action allegations PST and GSS
previously filed were withdrawn to allow a new class action to be filed on
behalf of the members and affiliates of the NRTC. The new class action was filed
on February 29, 2000. The court certified the plaintiff's class on December 28,
2000. On March 9, 2001, DirecTV filed a counterclaim against PST and GSS, as
well as the class members. In the counterclaim, DirecTV seeks two claims for
relief: (i) a declaratory judgment that PST and GSS have no right of first
refusal in their agreements with the NRTC to have DirecTV provide any services
after the expiration of the term of these agreements, and (ii) an order that
DBS-1 is the satellite (and the only satellite) that measures the term of PST's
and GSS' agreements with the NRTC.
16
PEGASUS COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
On June 22, 2001, DirecTV brought suit against PST and GSS in Los Angeles
County Superior Court for breach of contract and common counts. The lawsuit
pertains to the seamless marketing agreement dated August 9, 2000, as amended,
between DirecTV and PST and GSS. On July 13, 2001, PST and GSS terminated the
seamless marketing agreement. On July 16, 2001, PST and GSS filed a cross
complaint against DirecTV alleging, among other things, that (i) DirecTV has
breached the seamless marketing agreement, and (ii) DirecTV has engaged in
unlawful and/or unfair business practices, as defined in Section 17200, et seq.
of California Business and Professions Code. This suit has since been moved to
the United States District Court, Central District of California.
Both of the NRTC's lawsuits against DirecTV have been consolidated for
discovery and pretrial purposes. All five lawsuits discussed above, including
both lawsuits brought by the NRTC, the class action, and PST's and GSS' lawsuit,
are pending before the same judge. The court has set a trial date of April 1,
2003, although, as noted above, it is not clear whether all the lawsuits will be
tried together.
Patent Infringement Litigation:
On December 4, 2000, one of our subsidiaries, Pegasus Development
Corporation ("Pegasus Development"), and Personalized Media Communications,
L.L.C. ("Personalized Media"), a company in which Pegasus Development has an
investment in and licensing arrangement with, filed a patent infringement
lawsuit in the United States District Court, District of Delaware against
DirecTV, Hughes Electronics Corporation, Thomson Consumer Electronics
("Thomson") and Philips Electronics North America Corporation. Pegasus
Development and Personalized Media are seeking injunctive relief and monetary
damages for the defendants' alleged patent infringement and unauthorized
manufacture, use, sale, offer to sell and importation of products, services, and
systems that fall within the scope of Personalized Media's portfolio of patented
media and communications technologies, of which Pegasus Development is an
exclusive licensee within a field of use. The technologies covered by Pegasus
Development's exclusive license include services distributed to consumers using
certain Ku band BSS frequencies and Ka band frequencies, including frequencies
licensed to affiliates of Hughes Electronics and used by DirecTV to provide
services to its subscribers. We are unable to predict the possible effects of
this litigation on our relationship with DirecTV.
DirecTV has also filed a counterclaim against Pegasus Development alleging
unfair competition under the federal Lanham Act. In a separate counterclaim,
DirecTV has alleged that both Pegasus Development's and Personalized Media's
patent infringement lawsuit constitutes "abuse of process." Those counterclaims
have since been dismissed by the court or voluntarily by DirecTV. Separately,
Thomson has filed counterclaims against Pegasus Development, Personalized Media,
Gemstar-TV Guide, Inc. (and two Gemstar-TV Guide affiliated companies, TVG-PMC,
Inc. and Starsight Telecast, Inc.), alleging violations of the federal Sherman
Act and California unfair competition law as a result of alleged licensing
practices.
In December 2001, one of our subsidiaries (along with DirectTV, Inc.,
Hughes Electronics Corporation, Echostar Communications Corporation, and others)
was served with a complaint in patent infringement lawsuit by Broadcast
Innovations, L.L.C. The precise nature of the plaintiff's claims is not clear
from the complaint. However, the plaintiff claims in response to interrogatories
that the satellite broadcast systems and equipment of defendants, including
those used for DIRECTV programming services, infringe its patent. The defendants
named in the complaint have denied the allegation and have raised defenses of
patent invalidity and noninfringement. We still are in the process of evaluating
the matter in order to determine whether it is material to our business.
Other Legal Matters:
In addition to the matters discussed above, from time to time we are
involved with claims that arise in the normal course of our business. In our
opinion, the ultimate liability, if any, with respect to these claims will not
have a material adverse effect on our operations, cash flows, or financial
position.
17
PEGASUS COMMUNICATIONS CORPORATION
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued)
Commitments
We negotiated a new agreement with our provider of communications services
commencing in the first quarter 2002. Under this new agreement, our annual
minimum commitment was reduced to $6.0 million over the three year term of the
agreement, from $7.0 million under the prior agreement.
In July 2002, we gave notice to the party that provides call center
services to us that we intend to terminate the agreement for the services at the
end of 12 months from the date of notice. We will pay a termination fee of $4.5
million at the agreement termination date.
15. New Accounting Pronouncements
Statement of Financial Accounting Standards No. 143 "Accounting for Asset
Retirement Obligations" addresses financial accounting and reporting for
obligations associated with the retirement of tangible long lived assets and the
associated asset retirement costs. This statement is effective for financial
statements issued for fiscal years beginning after June 15, 2002. We are
studying the provisions of this statement and have not yet determined the
impacts, if any, that this statement may have on us.
Statement of Financial Accounting Standards No. 145 "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections" was issued in April 2002. A principal provision of this statement
is the reporting of gains and losses associated with extinguishments of debt. In
the past, we have extinguished debt, and may do so in the future. We are
studying the provisions of this statement and have not yet determined the
impacts, if any, that this statement may have on us.
Statement of Financial Accounting Standards No. 146 "Accounting for Costs
Associated with Exit or Disposal Activities" was issued in June 2002. This
statement requires companies to recognize costs associated with exit or disposal
activities when they are incurred rather than at the date of a commitment to an
exit or disposal plan. The statement is to be applied prospectively to exit or
disposal activities initiated after December 31, 2002. We are studying the
provisions of this statement and have not yet determined the impacts, if any,
that this statement may have on us.
18
PEGASUS COMMUNICATIONS CORPORATION
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
This report contains certain forward looking statements (as such term is
defined in the Private Securities Litigation Reform Act of 1995) and information
relating to us that are based on our beliefs, as well as assumptions made by and
information currently available to us. When used in this report, the words
"estimate," "project," "believe," "anticipate," "hope," "intend," "expect," and
similar expressions are intended to identify forward looking statements. Such
statements reflect our current views with respect to future events and are
subject to unknown risks, uncertainties, and other factors that may cause actual
results to differ materially from those contemplated in such forward looking
statements. Such factors include, among other things, the following: general
economic and business conditions, both nationally, internationally and in the
regions in which we operate; catastrophic events, including acts of terrorism;
relationships with and events affecting other parties like DirecTV, Inc. and the
National Rural Telecommunications Cooperative; litigation with DirecTV; the
proposed merger of Hughes Electronics Corporation with EchoStar Communications
Corporation; demographic changes; existing government regulations and changes
in, or the failure to comply with government regulations; competition, including
the provision of local channels by a competing direct broadcast satellite
provider in markets where DirecTV does not offer local channels; the loss of any
significant numbers of subscribers or viewers; changes in business strategy or
development plans; the cost of pursuing new business initiatives; an expansion
of land based communications systems; technological developments and
difficulties; the ability to obtain intellectual property licenses and to avoid
committing intellectual property infringement; the ability to attract and retain
qualified personnel; our significant indebtedness; the availability and terms of
capital to fund the expansion of our businesses; and other factors referenced in
this report and in reports and registration statements filed from time to time
with the Securities and Exchange Commission, including our Annual Report on Form
10-K for the fiscal year ended December 31, 2001. Readers are cautioned not to
place undue reliance on these forward looking statements, which speak only as of
the date of this report. We do not undertake any obligation to publicly release
any revisions to these forward looking statements to reflect events or
circumstances after the date hereof or to reflect the occurrence of
unanticipated events.
The following discussion of our financial condition, results of operations,
and liquidity and capital resources should be read in conjunction with the
consolidated financial statements and related notes herein.
General
"We", "us", and "our" refer to Pegasus Communications Corporation together
with its subsidiaries. "PCC" refers to Pegasus Communications Corporation
individually as a separate entity. "PSC" refers to Pegasus Satellite
Communications, Inc., one of PCC's subsidiaries. "PM&C" refers to Pegasus Media
& Communications, Inc., a subsidiary of PSC. "DBS" refers to direct broadcast
satellite.
Approximately 96% of our consolidated revenues and 87% of the expenses
within consolidated loss from operations for the six months ended June 30, 2002,
and 83% of our assets at June 30, 2002, were associated with our DBS business
that provides multichannel DIRECTV(R) audio and video services as an independent
DIRECTV provider. DIRECTV is a service of DirectTV, Inc. ("DirecTV"). We may be
adversely affected by any material adverse changes in the assets, financial
condition, programming, technological capabilities, or services of DirecTV.
Separately, we are involved in litigation with DirecTV. An outcome in this
litigation that is unfavorable to us could have a material adverse effect on our
DBS business. See Note 14 of the Notes to Consolidated Financial Statements for
information on the litigation. Additionally, Hughes Electronics Corporation,
which is the parent company of DirecTV, has agreed to merge with EchoStar
Communications Corporation, which owns the only other nationally branded DBS
programming service in the United States. At this time, we are unable to predict
the effect of our litigation with DirecTV or the merger of EchoStar and Hughes,
should it occur, on our financial position, results of operations, cash flows,
and future operations.
19
PEGASUS COMMUNICATIONS CORPORATION
Results of Operations
In this section, amounts and changes specified are for the three and six
months ended June 30, 2002 compared to the corresponding three and six months
ended June 30, 2001, unless indicated otherwise. With respect to our loss from
operations, we focus on our DBS business, as this is our only significant
business.
DBS Business
Revenues:
Revenues increased $10.4 million to $216.4 million and $19.3 million to
$431.2 million for the three and six months, respectively. The increases were
primarily due to the rate increase for our core packages that we instituted in
the fourth quarter 2001. Effective July 1, 2002, we began passing on to
subscribers, in the form of a royalty fee, a portion of the royalty costs
charged to us in providing DIRECTV service. The fee is $1.25 or $1.50 to each
subscriber based on the subscriber's core programming package.
Direct Operating Expenses:
Programming increased $8.2 million to $96.0 million and $16.4 million to
$192.3 million for the three and six months, respectively. The increases were
primarily due to an increase instituted in January 2002 in programming rates
charged to us by the National Rural Telecommunications Cooperative, through
which we receive our DIRECTV programming.
Other subscriber related expenses decreased $2.8 million to $49.1 million
and increased $84 thousand to $100.8 million for the three and six months,
respectively. The decrease for the three months was principally due to a
reduction in bad debt expense as a result of more favorable churn experience in
the second quarter 2002, offset in part by increased royalty costs incurred by
us resulting from increased associated revenues. For the six months, increased
royalty costs were mostly offset by decreased bad debt expense. Royalty costs
are charged to us based on certain subscription, demand, and certain fee revenue
we bill to subscribers.
Operating Margins:
Our operating margin is the difference between net revenues and direct
operating expenses (excluding depreciation and amortization). Operating margins
for the three and six months ended June 30, 2002 and 2001 were $71.3 million and
$138.0 million, respectively, and $66.4 million and $135.2 million,
respectively. There were no significant differences in our operating margin
ratios between the corresponding current and prior year periods within the three
and six months ended June 30, 2002 and 2001.
Other Operating Expenses:
Promotions and incentives decreased $10.3 million to $2.0 million and $25.5
million to $3.8 million for the three and six months, respectively. The
decreases were mainly due to the increased amounts of promotions and incentive
costs we deferred and/or capitalized of $6.4 million and $16.4 million in the
three and six months ended June 30, 2002, respectively. We are able to defer the
direct and incremental costs we incur related to our subscription plans that
have minimum service commitment periods, not to exceed the amount of applicable
termination fees associated with the plans. These costs are amortized over the
period of the commitment for which the early termination fees apply, which is
generally 12 months, and are charged to amortization expense. We did not defer
any costs in the three and six months ended June 30, 2001. All of our
subscription plans starting February 2002 contain minimum commitment periods and
early termination fees. In 2001, we instituted such provisions for only certain
of our plans after June 30, and subsequently increased the number of plans
having such provisions in the fourth quarter 2001. We are able to capitalize
equipment costs and subsidies as fixed assets under our subscription plans in
which we retain or take title to the equipment delivered to subscribers. The
equipment costs and subsidies related to this equipment are capitalized as fixed
assets and depreciated over their estimated useful lives of three years.
Additionally, we incurred reduced subsidies of $3.7 million and $8.7 million for
the three and six months ended June 30, 2002, respectively, due to reduced gross
subscriber additions during the 2002 periods compared to the corresponding 2001
periods.
20
PEGASUS COMMUNICATIONS CORPORATION
Advertising and selling decreased $24.6 million to $7.8 million and $53.3
million to $16.1 million for the three and six months, respectively. A part of
these decreases was due to the commissions we incurred in the respective
corresponding 2001 periods of $9.7 million and $20.6 million due to the seamless
marketing agreement with DirecTV that was in effect during 2001. We terminated
the seamless marketing agreement in July 2001. Commissions we pay directly to
our sales and distribution channels decreased $6.5 million and $17.5 million for
the three and six months ended June 30, 2002, respectively, principally due to
reduced gross subscriber additions during the 2002 periods compared to the
corresponding 2001 periods. Our advertising costs decreased $3.5 million and
$6.9 million for the three and six months ended June 30, 2002, respectively, as
a part of a focused cost reduction initiative. Additionally, we deferred $3.8
million and $6.4 million of commissions in the three and six months ended June
30, 2002, respectively, in accordance with our deferral practice described in
the preceding paragraph that otherwise would have been included in advertising
and selling costs in the current year periods. We did not defer advertising and
selling costs in the respective corresponding 2001 periods. All of our
subscription plans starting February 2002 contain minimum commitment periods and
early termination fees. In 2001, we instituted such provisions for only certain
of our plans after June 30, and subsequently increased the number of plans
having such provisions in the fourth quarter 2001.
Our promotion and incentives and advertising and selling costs constitute
our subscriber acquisition costs ("SAC"). Gross SAC costs, that is, before
deferring and capitalizing costs, for the three and six months ended June 30,
2002 and 2001 were $25.0 million and $50.7 million, respectively, and $49.7
million and $106.8 million, respectively.
General and administrative expenses decreased $2.2 million to $6.9 million
and $3.5 million to $14.8 million for the three and six months, respectively,
due to a broad based cost reduction effort that we are undergoing in 2002.
Depreciation and amortization decreased $21.8 million to $41.5 million and
$45.1 million to $80.9 million for the three and six months, respectively. This
principally resulted from our adoption in the first quarter 2002 of Statement of
Financial Accounting Standards No. 142 "Goodwill and Other Intangible Assets"
("FAS 142") in its entirety on January 1, 2002. In accordance with FAS 142, we
reassessed the estimated lives of our intangible assets. We believe that the
estimated remaining useful life of the DBS rights assets should be based on the
estimated useful lives of the satellites at the 101(Degree) west longitude
orbital location available to provide DirecTV services under the NRTC-DirecTV
contract. The contract sets forth the terms and conditions under which the lives
of those satellites are deemed to expire, based on fuel levels and transponder
functionality. We estimate that the useful life of the DirecTV satellite
resources provided under the contract (without regard to renewal rights) expires
in November 2016. Because the cash flows for all of our DBS rights assets
emanate from the same source, we believe that it is appropriate for all of the
estimated useful lives of our DBS rights assets to end at the same time. Prior
to the adoption of FAS 142, our DBS rights assets had estimated useful lives of
10 years from the date we obtained the rights. Linking the lives of our DBS
rights assets in such fashion extended the amortization period for the
unamortized carrying amount of the assets and the range of the useful lives of
the rights from the date of their inception. The life of our DBS rights is
subject to litigation. See "Legal Matters" under Note 14 of the Notes to
Consolidated Financial Statements for information regarding this litigation.
Included in depreciation and amortization for the six months ended June 30,
2002 and 2001 was aggregate depreciation and amortization of promotions and
incentives costs capitalized or deferred and advertising and selling costs
deferred of $19.5 million and $2.0 million, respectively.
Subscribers:
Our number of subscribers at June 30, 2002 was 1,372,000. We experienced a
net reduction in the number of subscribers of approximately six thousand and 10
thousand for the three and six months ended June 30, 2002, respectively, as the
number of our subscribers that churned was more than the number of the
subscribers we added. These decreases exclude the one time adjustment to
decrease subscriber counts that we made and reported in the first quarter 2002
of 138,000. We believe that the reasons for the decrease were due to: 1) our
focus on enrolling more creditworthy subscribers; 2) competition from digital
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PEGASUS COMMUNICATIONS CORPORATION
cable providers and a competing direct broadcast satellite provider in the
territories we serve; 3) the economic slow down that has decelerated our growth;
and 4) a reduction in the number of new subscribers we obtain from DirecTV's
national retail chains. We will continue to focus on enrolling more creditworthy
subscribers. We will also continue to face intensive competition from other
providers throughout 2002. This competition includes the provision of local
channels by a competing direct broadcast satellite provider in markets where
DirecTV does not offer local channels. We also anticipate a continued reduction
in the number of new subscribers obtained from DirecTV's national retail chains
during the rest of 2002. The reduction in the number of subscribers from
national retail chains under arrangements directly with DirecTV is the result of
efforts by DirecTV to minimize certain subscriber acquisition costs that they
have paid to national retail chains for their enrollment of subscribers who
reside in our exclusive territories.
We are most interested in adding high quality, creditworthy subscribers.
Our subscriber acquisition efforts in 2002 and beyond now include: 1) the
diversification of our sales and distribution channels; 2) the alignment of
channel economics more closely to expected quality and longevity of subscribers;
and 3) the refinement and expansion of our offers and promotions to consumers.
This focus has lead to a more recent favorable churn rate. However, improvements
in churn could be offset or churn could increase due to: 1) our service becoming
less affordable as a result of our royalty cost pass through to subscribers; 2)
competition from a competing direct broadcast satellite provider with respect to
equipment, service pricing, and service content, including the provision of
local channels by a competing direct broadcast satellite provider in market
where DirecTV doe not offer local channels; and 3) the effect of general
economic conditions on our subscribers. We believe that net reductions in our
number of subscribers for all of 2002, if any, will not have a significant
effect on our operating margins for 2002.
Other Statement of Operations and Comprehensive Loss Items
For the three and six months ended June 30, 2002 and 2001, our other
businesses primarily consisted of our broadcast operations. Our broadband
operations had been included with our other businesses until the second quarter
2002 when we first reported the broadband operations as discontinued for all
periods presented in our statements of operations and comprehensive loss. The
discontinued broadband operations are discussed below. The broadcast operations
had revenues for the three and six months ended June 30, 2002 and 2001 of $8.8
million and $16.7 million and $9.2 million and $16.8 million, respectively, and
net losses from operations for the three and six months ended June 30, 2002 and
2001 of $672 thousand and $2.1 million, respectively, and $568 thousand and $1.5
million, respectively. We have provided these amounts for our broadcast
operations to give a perspective of the amounts contained within our other
businesses. The operations of broadcast and the other businesses are not
significant to an understanding of our consolidated results of operations.
Corporate depreciation and amortization increased $7.6 million to $8.0
million and $15.2 million to $15.9 million for the three and six month,
respectively, due to amortization that commenced in 2002 associated with certain
licenses held by our subsidiary Pegasus Development Corporation.
Interest expense increased $1.4 million to $36.3 million and $3.2 million
to $72.4 million for the three and six months, respectively. The increase was
principally due to the issuance of PSC's 11-1/4% notes in December 2001,
incremental amortization on our 13-1/2% senior discount notes, and additionally
for the six months ended, increased interest incurred with respect to our swap
instruments, offset in part by repayment of all principal amounts outstanding
under Golden Sky Systems' credit facility in May 2001 with the concurrent
termination of the facility and lower average amounts outstanding at lower
average variable rates of interest under PM&C's term and revolving credit
facilities in 2002 versus 2001.
Interest income decreased $1.1 million to $218 thousand and $3.6 million to
$436 thousand for the three and six months, respectively, due to reduced cash
amounts available for earning interest income and much lower interest rates
available during 2002 compared to 2001.
Based on the significance and duration of the loss in fair value, at June
30, 2002, we determined that our sole investment in marketable securities held
had incurred an other than temporary decline in fair market value. Accordingly,
we wrote down the cost basis in the marketable securities to their fair market
value at June 30, 2002 and charged earnings in the amount of $3.1 million for
the impairment loss realized.
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PEGASUS COMMUNICATIONS CORPORATION
We had other nonoperating income, net of $1.2 million for the six months
ended June 30, 2002, compared to other nonoperating expense, net of $3.7 million
for the six months ended June 30, 2001. This difference was primarily due to the
increase in the fair value of our interest rate instruments. For the six months
2002 we recorded income of $1.3 million for the increase in the fair value of
the instruments, whereas for the six months 2001 we recorded a charge of $2.8
million for the decrease in the fair value of the instruments.
Equity in earnings of affiliates decreased $5.9 million to $173 thousand
and $13.8 million to $349 thousand for the three and six months, respectively,
because the prior year included gain on sales of licenses made by one of our
affiliates.
The income tax benefit on the loss from continuing operations decreased
$14.2 million to $17.5 million and $29.9 million to $36.1 million, respectively,
primarily due to a reduced amount of pretax losses in the current year periods
compared to the respective corresponding prior year periods. Our noncurrent
deferred income tax balance netted to a deferred income tax asset in the second
quarter 2002. The balance was $6.3 million at June 30, 2002. We believe that a
valuation allowance for the net deferred income tax asset was not necessary at
June 30, 2002 as we anticipate sufficient taxable income will be available to
apply against net operating losses before they expire.
Because our Pegasus Express two way satellite internet access business no
longer fits into our near term strategic plans, we entered into an agreement
with an unaffiliated party in June 2002 to sell our Pegasus Express subscribers
and the Pegasus Express equipment inventory for cash. Upon the sale of the
subscribers and equipment, we will no longer be operating our Pegasus Express
business. As Pegasus Express is the only business within our broadband
operation, we are reporting the broadband operation as discontinued effective
June 30, 2002 for all periods presented in the statements of operations and
comprehensive loss. Transfer of the subscribers is expected to occur in mid
August 2002, and transfer of the equipment is expected to be completed by the
end of August 2002. We anticipate that the cash proceeds from the sale of the
subscribers will be about $1.6 million, subject to adjustment for the number of
our subscribers that ultimately are authorized into the buyer's internet access
service. We anticipate that the cash proceeds from the sale of the equipment
will be about $2.6 million, subject to the actual number of units transferred,
and will be payable in four equal monthly payments ending November 2002.
Revenues and pretax loss from operations of the broadband operation follows (in
thousands):
Three Months Six Months
Ended June 30, Ended June 30,
2002 2001 2002 2001
-------- ------- --------- -------
Revenues $ 1,177 $ - $ 2,327 $ 167
Pretax loss (2,213) (5,371) (3,748) (8,589)
Included in discontinued operations for the three and six months ended June
30, 2002 is an impairment loss recognized on the equipment inventory of $837
thousand. This impairment writes down the carrying amount of the equipment to
its fair market value based on the per unit sale price of the equipment
specified in the sale agreement. Also included in discontinued operations for
these periods is an aggregate impairment loss of $847 thousand for valuation
reserves placed against other assets that we believe have diminished utility to
the broadband operation as a result of the pending subscriber and equipment sale
and discontinuance of the operations.
New Accounting Pronouncements
Statement of Financial Accounting Standards No. 143 "Accounting for Asset
Retirement Obligations" addresses financial accounting and reporting for
obligations associated with the retirement of tangible long lived assets and the
associated asset retirement costs. This statement is effective for financial
statements issued for fiscal years beginning after June 15, 2002. We are
studying the provisions of this statement and have not yet determined the
impacts, if any, that this statement may have on us.
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PEGASUS COMMUNICATIONS CORPORATION
Statement of Financial Accounting Standards No. 145 "Rescission of FASB
Statements No. 4, 44, and 64, Amendment of FASB Statement No. 13, and Technical
Corrections" was issued April 30, 2002. A principal provision of this statement
is the reporting of gains and losses associated with extinguishments of debt. In
the past, we have extinguished debt, and may do so in the future. We are
studying the provisions of this statement and have not yet determined the
impacts, if any, that this statement may have on us.
Statement of Financial Accounting Standards No. 146 "Accounting for Costs
Associated with Exit or Disposal Activities" was issued in June 2002. This
statement requires companies to recognize costs associated with exit or disposal
activities when they are incurred rather than at the date of a commitment to an
exit or disposal plan. The statement is to be applied prospectively to exit or
disposal activities initiated after December 31, 2002. We are studying the
provisions of this statement and have not yet determined the impacts, if any,
that this statement may have on us.
Liquidity and Capital Resources
We are highly leveraged. At June 30, 2002, we had a combined carrying
amount of debt and redeemable preferred stocks outstanding of $1.7 billion.
Because we are highly leveraged, we are more vulnerable to adverse economic and
industry conditions. We dedicate a substantial portion of cash to pay amounts
associated with debt. In the first six months of 2002, we paid interest of $49.3
million. We were scheduled to begin paying cash dividends on PSC's 12-3/4%
series preferred stock in July 2002. However, we did not declare the scheduled
semiannual dividend payable July 1, 2002 on this series. See the discussion
below concerning the nondeclaration of dividends on this series and Series C
preferred stock. We have received notice of redemption from holders for $5.0
million of Series E preferred stock. However, we are not permitted nor obligated
to redeem the related shares while dividends on preferred stock senior to the
series are in arrears. Under these circumstances, our inability to redeem the
Series E shares is not an event of default.
We were involved in a series of transactions with respect to our securities
into August 2002 that reduced our leveraged position by $206.3 million, offset
in part by $63.7 million borrowed by us during the year to date as discussed
below. All outstanding shares of Series B junior convertible participating
preferred stock were redeemed in March 2002 for $5.7 million cash plus accrued
and unpaid dividends on the series to the date of redemption of $10 thousand. In
May 2002, 67,504 shares of 6-1/2% Series C convertible preferred stock amounting
to $6.8 million liquidation preference value, excluding accrued dividends, were
converted into 570,410 shares of our Class A common stock. In June 2002, PCC
purchased in a series of negotiated transactions with unaffiliated holders
33,738 shares of the 12-3/4% series with a liquidation preference value,
excluding accrued dividends, of $33.7 million for $4.9 million in cash. In July
2002, PCC purchased in a series of negotiated transactions with unaffiliated
holders 54,828 shares of 12-3/4% preferred stock with a liquidation preference
value of $54.8 million for $11.5 million and 774,682 shares of Series C
preferred stock with a liquidation preference value, excluding accrued
dividends, of $77.5 million for $6.1 million in cash. PSC purchased in separate
negotiated transactions with unaffiliated holders $17.1 million in maturity
value of PM&C's 12-1/2% notes due July 2005 for $17.1 million in July 2002 and
$10.7 million in maturity value of its 13-1/2% senior subordinated discount
notes due March 2007 for $2.8 million in August 2002.
From time to time, we may engage in further transactions in which we
acquire through purchases and/or exchanges our securities and the securities of
our subsidiaries. Such transactions may be made in the open market or in
privately negotiated transactions and may involve cash or the issuance of
securities, including shares of our Class A common stock. The amount and timing
of such transactions, if any, will depend on market conditions and other
considerations.
Using cash for the above noted payments reduces the availability of funds
for working capital, capital expenditures, and other activities, and limits our
flexibility in planning for, or reacting to, changes in our business and the
industries in which we operate, although we will reduce the amount of cash paid
to unaffiliated parties in connection with some of our preferred stocks and debt
we repurchased. Our ability to make payments on and to refinance indebtedness
and redeemable preferred stocks outstanding and to fund planned capital
expenditures and other activities depends on our ability to generate cash in the
future. Our ability to generate cash depends upon the success of our business
strategy, prevailing economic conditions, regulatory risks, our ability to
integrate acquired assets successfully into our operations, competitive
activities by other parties, equipment strategies, technological developments,
level of programming costs, levels of interest rates, and financial, business,
and other factors that are beyond our control. We cannot assure that our
business will generate sufficient cash flow from operations or that alternative
24
PEGASUS COMMUNICATIONS CORPORATION
financing will be available to us in amounts sufficient to service outstanding
debt and redeemable preferred stocks or to fund other liquidity needs. Our
indebtedness and preferred stocks contain numerous covenants that, among other
things, generally limit the ability to incur additional indebtedness and liens,
issue other securities, make certain payments and investments, pay dividends,
transfer cash, dispose of assets, and enter into other transactions, and impose
limitations on the activities of our subsidiaries. Failure to make debt payments
or comply with covenants could result in an event of default that, if not cured
or waived, could have a material adverse effect on us.
At the discretion of our board of directors as permitted by the certificate
of designation for the 12-3/4% series, we did not declare the scheduled
semiannual dividend payable July 1, 2002 for this series. The amount of the
dividend scheduled to be paid on that date and in arrears to unaffiliated
holders was $9.6 million in cash. After giving effect to shares of this series
repurchased after June 30, 2002 as discussed above, dividends in arrears to
unaffiliated holders were $6.1 million. Further, at the discretion of our board
of directors as permitted by the certificate of designation for the Series C
preferred stock, we did not declare the scheduled quarterly dividends payable
April 30, 2002 and July 31, 2002 on this series. The total amount of dividends
in arrears on Series C to unaffiliated holders through the most recent dividend
payable date of July 31, 2002, after giving effect to shares repurchased through
that date as discussed above, was $5.9 million. In the past, dividends payable
on Series C were paid with shares of our Class A common stock, as permitted
under the certificate of designation. Unpaid dividends on the 12-3/4% series and
Series C accumulate in arrears, with interest accruing on dividends in arrears
for the 12-3/4% series at a rate of 14.75%. Unless full cumulative dividends in
arrears on Series C have been paid or set aside for payment, PCC, but not its
subsidiaries, may not, with certain exceptions, 1) declare, pay, or set aside
amounts for payment of future cash dividends or distributions, or 2) purchase,
redeem, or otherwise acquire for value any shares of its capital stock junior or
on a parity with Series C. Series D and E preferred stock are junior securities
with respect to Series C. Unless full cumulative dividends in arrears on the
12-3/4% series have been paid or set aside for payment, PSC may not, with
certain exceptions, 1) declare, pay, or set aside amounts for payment of future
cash dividends or distributions, or 2) purchase, redeem, or otherwise acquire
for value any shares of its capital stock junior to the 12-3/4% series.
Foregoing paying dividends on the 12-3/4% series increases the availability
of funds for working capital, capital expenditures, and other activities.
Because of the very low market price for our common stock in 2002, paying
dividends on Series C would have a much greater dilution effect on holdings in
our common stock than was experienced in the past when the market price of the
common stock was higher. Despite the restrictions placed on PSC regarding cash
dividend payments discussed in the preceding paragraph, permissible means are
available to transfer funds within the PCC consolidated group while dividends on
PSC's preferred stock are in arrears. We do not believe that we will experience
any adverse effects on liquidity while dividends are in arrears.
We had cash and cash equivalents on hand at June 30, 2002 of $117.0 million
compared to $144.7 million at December 31, 2001. The change in cash is discussed
below in terms of the amounts shown in our cash flow statement. At June 30,
2002, the commitment for PM&C's revolving credit facility was permanently
reduced by approximately $8.4 million to $185.6 million as scheduled under the
terms of the credit agreement. The commitment for the revolving credit facility
will continue to be permanently reduced by approximately $8.4 million in each of
September and December 2002 as scheduled. Availability under PM&C's revolving
credit facility at June 30, 2002 was $124.5 million.
In June 2002, PM&C borrowed $63.2 million in incremental term loans under
its credit agreement out of $200.0 million capacity specified for such purpose
thereunder. Our option to request additional funding from the unused portion of
the incremental term loan capacity of $136.8 million expired June 30, 2002.
Principal amounts outstanding under the incremental term loan facility are
payable quarterly in increasing increments over the remaining term of the
facility beginning September 30, 2002. All unpaid principal and interest
outstanding under the incremental term loans are due July 31, 2005. Quarterly
principal payments scheduled for the remainder of 2002 are $158 thousand in each
of September and December, with total payments of $632 thousand, $16.3 million,
and $45.9 million in 2003, 2004, and 2005, respectively. Amounts repaid under
the incremental term loan facility may not be reborrowed. Margins on incremental
term loans are 2.5% for base rates and 3.5% for LIBOR rates. Interest on
outstanding principal borrowed under base rates is due and payable quarterly and
interest on outstanding principal borrowed under LIBOR rates is due and payable
the earlier of the end of the contracted interest rate period or three months.
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PEGASUS COMMUNICATIONS CORPORATION
Net cash was provided by operating activities for the six months ended June
30, 2002 of $23.7 million, compared to net cash used by operating activities of
$95.7 million for the six months ended June 30, 2001. The principal reasons for
the change were: 1) much less subscriber acquisition costs paid in the current
year period compared to the prior year period primarily as a result of reduced
gross subscriber additions in the current year period than in the prior year
period; 2) taxes paid in 2001 for the sale of our cable operations in 2000; 3)
reduced cash interest paid in the six months ended 2002 primarily due to the
timing of when payments were due in 2002 versus 2001 and reduced amounts of
borrowings outstanding under our revolving credit and term loan facilities and
at lower variable rates of interest in 2002 versus 2001; and 4) increased
operating margins in the current year period compared to the prior year period
that provided greater net cash inflows.
For the six months ended June 30, 2002 and 2001, net cash used for
investing activities was $16.8 million and $31.2 million, respectively. The
primary investing activity for 2002 was for costs incurred with DBS equipment
capitalized of $13.5 million. In 2001, the primary investing activities were for
DBS equipment capitalized of $8.1 million, other capital expenditures of $14.5
million, of which $3.7 million was associated with a new call center, and
acquisition of intangible assets of $7.7 million, of which $3.7 million was for
additional guardband licenses.
For the six months ended June 30, 2002 and 2001, net cash used for
financing activities was $34.5 million and $23.7 million, respectively. The
primary financing activities for 2002 were: 1) $63.2 million borrowed under the
incremental term loan facility; 2) $80.0 million repayments of amounts
outstanding under our revolving credit facility; 3) $7.3 million repayments of
other long term debt; and 4) $10.7 million for redemption and repurchases of our
preferred stock. The primary financing activities for 2001 were repayments of
long term debt of $8.2 million and $14.0 million in restricted cash that was
used as collateral for a letter of credit.
Premarketing cash flow of our DBS business was $123.2 million and $116.9
million for the six months ended June 30, 2002 and 2001, respectively. EBITDA
for our DBS business was $103.3 million and $18.2 million for the six months
ended June 30, 2002 and 2001, respectively. DBS premarketing cash flow is
calculated by subtracting DBS' direct operating expenses and general and
administrative expenses from their revenues. DBS EBITDA is DBS premarketing cash
flow less DBS' promotions and incentives and advertising and selling expenses.
We present DBS premarketing cash flow and DBS EBITDA because the DBS business is
our only significant segment and this business forms the principal portion of
our results of operations and cash flows.
DBS premarketing cash flow and DBS EBITDA are not, and should not be
considered, alternatives to income from operations, net income, net cash
provided by operating activities, or any other measure for determining our
operating performance or liquidity, as determined under generally accepted
accounting principles. DBS premarketing cash flow and DBS EBITDA also do not
necessarily indicate whether our cash flow will be sufficient to fund working
capital, capital expenditures, or to react to changes in our industry or the
economy generally. We believe that DBS premarketing cash flow and DBS EBITDA are
important because people who follow our industry frequently use them as measures
of financial performance and ability to pay debt service, and they are measures
that we, our lenders, and investors use to monitor our financial performance and
debt leverage. Although EBITDA is a common measure used by other companies, our
calculation of EBITDA may not be comparable with that of others.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our principal market risk exposure continues to be interest rate risk. Our
primary exposure is variable rates of interest associated with borrowings under
our credit facilities. The amount of interest we incur also depends upon the
amount of borrowings outstanding. The way we manage these risks did not change
during the six months ended June 30, 2002, and we have not experienced any
material changes in interest rates or effects of our interest rate instruments
during this period.
We have interest rate swaps that effectively fix the interest rate on $72.1
million of notional amount at a weighted average rate of 7.19%. For the six
months ended June 30, 2002, we incurred additional cash interest expense of $1.7
million on the swaps due to the low variable market rates of interest during the
period that were unfavorable relative to our swap position. The effect of the
swaps added 122 basis points into our aggregate weighted average variable
interest rate for the six months ended June 30, 2002 of 6.67%.
26
PEGASUS COMMUNICATIONS CORPORATION
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
For information relating to litigation with DirecTV, Inc. and others, we
incorporate by reference herein the disclosure reported under Note 14 to the
Notes to Consolidated Financial Statements. The Notes to Consolidated Financial
Statements can be found under Part I, Item 1 of this Quarterly Report on Form
10-Q. We have previously filed reports during the fiscal year disclosing some or
all of the legal proceedings referenced above. In particular, we have reported
on such proceedings in our Annual Report on Form 10-K for the year ended
December 31, 2001 and in our Quarterly Report on Form 10-Q for the quarterly
period ended March 31, 2002.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
At the discretion of our board of directors as permitted by the certificate
of designation for the 6-1/2% Series C convertible preferred stock of Pegasus
Communications Corporation, we did not declare the scheduled quarterly dividends
payable April 30, 2002 and July 31, 2002 on this series. The cumulative
dividends in arrears on this series to unaffiliated holders, after giving effect
to shares of this series repurchased to date (refer to Note 7 of the Notes to
Consolidated Financial Statements), was $5.9 million.
At the discretion of our board of directors as permitted by the certificate
of designation for the 12-3/4% cumulative exchangeable preferred stock of
Pegasus Satellite Communications, Inc., we did not declare the scheduled
semiannual dividend payable July 1, 2002 for this series. The amount of the
dividend in arrears on this series to unaffiliated holders, after giving effect
to shares of this series repurchased to date (refer to Note 7 of the Notes to
Consolidated Financial Statements), was $6.1 million. Dividends in arrears on
this series accrue interest at a rate of 14.75%.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On May 31, 2002, Pegasus held its annual meeting of stockholders. At this
meeting, Marshall W. Pagon, Ted S. Lodge, Robert F. Benbow, Harry F. Hopper III,
James J. McEntee, III, Mary C. Metzger, William P. Phoenix, and Robert N.
Verdecchio were re-elected to Pegasus' Board of Directors. In such election, the
following votes were cast for each director:
For Withheld Authority Abstain
Pagon 123,502,523 6,570,308 0
Lodge 124,996,250 5,076,581 0
Benbow 122,265,311 7,807,520 0
Hopper 124,993,150 5,079,681 0
McEntee 125,011,450 5,061,381 0
Metzger 124,995,750 5,077,081 0
Phoenix 124,993,110 5,079,721 0
Verdecchio 124,996,160 5,076,671 0
Approval to Authorize the Board of Directors to Amend the Existing Amended
and Restated Certificate of Incorporation of Pegasus Communications Corporation
to Effect a Reverse Stock Split of Pegasus' Issued and Outstanding Shares of
Class A Common Stock And Class B Common Stock. Stockholders approved authorizing
the Board of Directors to amend the certificate of incorporation at any time
prior to the next annual stockholders' meeting to effect a reverse split based
upon a determination by the Board that the reverse stock split and reverse stock
split ratio are in the company's and the stockholders' best interests. The ratio
of the reverse split would be not less than 1 for 2 and not more than 1 for 10.
120,901,814 votes were cast in favor of the proposal, 9,119,270 votes were case
against and 51,747 votes abstained.
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PEGASUS COMMUNICATIONS CORPORATION
Approval to Amend the Pegasus Communications 1996 Stock Option Plan to
Increase the Number of Shares of Class A Common Stock that May be Issued Under
the Plan. Stockholders approved an amendment to increase the number of shares of
Class A common stock that may be issued under the plan to 10,000,000 from
6,000,000 and to increase the maximum number of shares of Class A common stock
that may be issued under options granted to any employee under the plan to
2,000,000 from 1,500,000. 102,956,275 votes were cast in favor, 19,712,515 votes
were cast against, and 6,689 votes abstained.
Approval to Amend the Pegasus Communications Restricted Stock Plan to
Increase the Number of Shares of Class A Common Stock that May be Issued Under
the Plan. Stockholders approved an amendment to increase the number of shares of
Class A common stock that may be issued under the plan to 2,000,000 from
1,500,000. 106,214,818 votes were cast in favor, 16,452,838 votes were cast
against, and 7,823 votes abstained.
Ratification of Appointment of Accountants. Stockholders also voted at the
meeting to ratify the appointment of PricewaterhouseCoopers, LLP as independent
accountants for Pegasus for the current fiscal year. With respect to this
proposal, 129,241,570 votes were cast in favor, 829,381 votes were cast against,
and 1,880 votes were held in abstention.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits
10.1 Executive Employment Agreement effective June 1, 2002 for Ted S. Lodge
10.2 Pegasus Communications Corporation Short Term Incentive Plan
(Corporate, Satellite and Business Development) for calendar year 2002
10.3 Supplemental Description of Pegasus Communications Corporation Short
Term Incentive Plan (Corporate, Satellite and Business Development)
for calendar year 2002
10.4 Description of Long Term Incentive Compensation Program applicable to
Executive Officers
10.5 Pegasus Communications 1996 Stock Option Plan, as amended and restated
effective as of February 13, 2002 (which is incorporated herein by
reference to Appendix B to the definitive proxy statement of Pegasus
Communications Corporation as filed with the Securities and Exchange
Commission on May 9, 2002)
10.6 Pegasus Communications Restricted Stock Plan, as amended and restated
effective as of February 13, 2002 (which is incorporated herein by
reference to Appendix C to the definitive proxy statement of Pegasus
Communications Corporation as filed with the Securities and Exchange
Commission on May 9, 2002)
28
SIGNATURE
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, Pegasus Communications Corporation has duly caused this Report to
be signed on its behalf by the undersigned thereunto duly authorized.
Pegasus Communications Corporation
August 14, 2002 By: /s/ Joseph W. Pooler, Jr.
- ------------------------------ -----------------------------------
Date Joseph W. Pooler, Jr.
Vice President - Finance and Controller
(Principal Financial and Accounting Officer)
29
Exhibit Index
Exhibit
Number
10.1 Executive Employment Agreement effective June 1, 2002 for Ted S. Lodge
10.2 Pegasus Communications Corporation Short Term Incentive Plan
(Corporate, Satellite and Business Development) for calendar year 2002
10.3 Supplemental Description of Pegasus Communications Corporation Short
Term Incentive Plan (Corporate, Satellite and Business Development)
for calendar year 2002
10.4 Description of Long Term Incentive Compensation Program applicable to
Executive Officers
10.5 Pegasus Communications 1996 Stock Option Plan, as amended and restated
effective as of February 13, 2002 (which is incorporated herein by
reference to Appendix B to the definitive proxy statement of Pegasus
Communications Corporation as filed with the Securities and Exchange
Commission on May 9, 2002)
10.6 Pegasus Communications Restricted Stock Plan, as amended and restated
effective as of February 13, 2002 (which is incorporated herein by
reference to Appendix C to the definitive proxy statement of Pegasus
Communications Corporation as filed with the Securities and Exchange
Commission on May 9, 2002)