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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 March 31, 2003
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 0-21389
PEGASUS SATELLITE COMMUNICATIONS, INC.
(Exact name of registrant as specified in its charter)
Delaware 51-0374669
-------- ----------
(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 __
Indicate by check mark whether the registrant is an accelerated filer
(as defined in Rule 12b-2 of the Exchange Act).
Yes__ No /X/
Number of shares of each class of the registrant's common stock
outstanding as of May 9, 2003:
Class B, Common Stock, $0.01 par value 200
PEGASUS SATELLITE COMMUNICATIONS, INC.
Form 10-Q
Table of Contents
For the Quarterly Period Ended March 31, 2003
Page
PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
Condensed Consolidated Balance Sheets
March 31, 2003 and December 31, 2002 4
Consolidated Statements of Operations and Comprehensive Loss
Three months ended March 31, 2003 and 2002 5
Condensed Consolidated Statements of Cash Flows
Three months ended March 31, 2003 and 2002 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial
Condition and Results of Operations 15
Item 3. Quantitative and Qualitative Disclosures About Market Risk 23
Item 4. Controls and Procedures 23
PART II. OTHER INFORMATION
Item 1. Legal Proceedings 24
Item 3. Defaults Upon Senior Securities 24
Item 6. Exhibits and Reports on Form 8-K 24
Signatures 25
Certifications
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
3
Pegasus Satellite Communications, Inc.
Condensed Consolidated Balance Sheets
(In thousands)
March 31, December 31,
2003 2002
----------------- ----------------
(unaudited)
Currents assets:
Cash and cash equivalents $ 15,646 $ 13,023
Accounts receivable, net
Trade 21,547 27,163
Other 10,861 9,557
Deferred subscriber acquisition costs, net 14,242 15,706
Prepaid expenses 6,285 8,087
Other current assets 7,187 7,581
----------------- ----------------
Total current assets 75,768 81,117
Property and equipment, net 69,705 69,951
Intangible assets, net 1,535,952 1,564,874
Other noncurrent assets 141,287 143,208
----------------- ----------------
Total $ 1,822,712 $ 1,859,150
================= ================
Current liabilities:
Current portion of long term debt $ 3,807 $ 5,631
Accounts payable 12,899 15,886
Accrued interest 22,148 38,383
Accrued programming fees 56,915 57,196
Accrued commissions and subsidies 40,277 40,191
Other accrued expenses 32,190 31,778
Other current liabilities 6,846 7,201
----------------- ----------------
Total current liabilities 175,082 196,266
Long term debt 1,278,364 1,274,981
Note payable to parent 66,182 55,250
Other noncurrent liabilities 45,885 46,596
----------------- ----------------
Total liabilities 1,565,513 1,573,093
----------------- ----------------
Commitments and contingent liabilities (see Note 10)
Minority interest 2,343 2,157
Redeemable preferred stock 205,412 199,022
Common stockholder's equity:
Common stock - -
Other common stockholder's equity 49,444 84,878
----------------- ----------------
Total common stockholder's equity 49,444 84,878
----------------- ----------------
Total $ 1,822,712 $ 1,859,150
================= ================
See accompanying notes to consolidated financial statements
4
Pegasus Satellite Communications, Inc.
Consolidated Statements of Operations and Comprehensive Loss
(In thousands)
Three Months Ended March 31,
2003 2002
------------- -------------
(unaudited)
Net revenues:
DBS $ 205,546 $ 214,724
Broadcast 7,284 6,495
------------- -------------
Total net revenues 212,830 221,219
Operating expenses:
DBS
Programming 93,256 96,318
Other subscriber related expenses 44,675 51,741
------------- -------------
Direct operating expenses (excluding depreciation and 137,931 148,059
amortization shown below)
Promotions and incentives 2,878 1,743
Advertising and selling 5,726 8,301
General and administrative 6,373 7,917
Depreciation and amortization 41,986 39,450
------------- -------------
Total DBS 194,894 205,470
Broadcast (including depreciation and amortization of $699 for
2003 and $864 for 2002) 7,605 7,260
Corporate expenses (including depreciation and amortization of
$395 for 2003 and $380 for 2002) 3,756 4,451
Other operating expenses, net 6,317 8,036
------------- -------------
Income (loss) from operations 258 (3,998)
Interest expense (37,902) (35,854)
Interest income 64 189
Other nonoperating income, net 1,354 1,126
------------- -------------
Loss before income taxes and discontinued operations (36,226) (38,537)
Net benefit for income taxes (2,729) (14,461)
------------- -------------
Loss before discontinued operations (33,497) (24,076)
Discontinued operations:
Income (loss) from discontinued operations (including gain on disposal
of $7,639 in 2003), net of income tax (expense)
benefit of $(2,729) and $849, respectively 4,454 (1,384)
------------- -------------
Net loss (29,043) (25,460)
Other comprehensive loss:
Unrealized loss on marketable equity securities, net of income
tax benefit of $1,315 - (2,146)
------------- -------------
Comprehensive loss $ (29,043) $ (27,606)
============= =============
See accompanying notes to consolidated financial statements
5
Pegasus Satellite Communications, Inc.
Condensed Consolidated Statements of Cash Flows
(In thousands)
Three Months Ended March 31,
2003 2002
------------------ ------------------
(unaudited)
Net cash used by operating activities $ (5,194) $ (3,439)
------------------ ------------------
Cash flows from investing activities:
DBS equipment capitalized (5,384) (6,039)
Other capital expenditures (381) (1,392)
Proceeds from sale of broadcast station 10,965 -
Purchases of parent's common stock (1,223) -
Other 98 -
------------------ ------------------
Net cash provided by (used for) investing activities 4,075 (7,431)
------------------ ------------------
Cash flows from financing activities:
Repayments of term loan facility (846) (687)
Repayment of revolving credit facility - (80,000)
Repayments of other long term debt (2,249) (5,879)
Proceeds from note payable to parent 6,891 -
Distributions to parent (1) (32,597)
Other (53) (160)
------------------ ------------------
Net cash provided by (used for) financing activities 3,742 (119,323)
------------------ ------------------
Net increase (decrease) in cash and cash equivalents 2,623 (130,193)
Cash and cash equivalents, beginning of year 13,023 144,350
------------------ ------------------
Cash and cash equivalents, end of period $ 15,646 $ 14,157
================== ==================
See accompanying notes to consolidated financial statements
6
PEGASUS SATELLITE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. General
All references to "we," "us," and "our" refer to Pegasus Satellite
Communications, Inc., together with its direct and indirect subsidiaries. "PSC"
refers to Pegasus Satellite Communications, Inc. individually as a separate
entity. "PCC" refers to Pegasus Communications Corporation, the parent company
of PSC. "PM&C" refers to Pegasus Media & Communications, Inc., a wholly owned
subsidiary of PSC. "DBS" refers to direct broadcast satellite. Other terms used
are defined as needed where they first appear.
Significant Risks and Uncertainties
We have a history of losses principally due to the substantial amounts
incurred for interest expense and noncash depreciation and amortization.
We are highly leveraged. At March 31, 2003, we had a combined carrying
amount of long term debt, including the portion that is current, and redeemable
preferred stock outstanding of $1.5 billion. Our high leverage makes us more
vulnerable to adverse economic and industry conditions and limits our
flexibility in planning for, or reacting to, changes in our business and the
industries in which we operate. Our ability to make payments on and to refinance
indebtedness and redeemable preferred stock outstanding and to fund operations,
planned capital expenditures, and other activities and to fund the preferred
stock requirements of PCC depends on our ability to generate cash in the future.
Our ability to generate cash depends on the success of our business strategy,
prevailing economic conditions, regulatory risks, competitive activities by
other parties, equipment strategies, technological developments, level of
programming costs and subscriber acquisition costs ("SAC"), 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 fund the needs previously specified. Our indebtedness and
preferred stock 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.
For the three months ended March 31, 2003 and 2002, the DBS business
had income from operations of $10.7 million and $9.3 million, respectively. We
attribute the improvement in the current year to our DBS business strategy.
Continued improvement in results from operations will in large part depend upon
our obtaining a sufficient number of quality subscribers, retention of these
subscribers for extended periods of time, and improving margins from them. While
our DBS business strategy has resulted in an increase in income from operations,
it has also resulted in decreases in the number of subscribers for the three
months ended March 31, 2003 and a decrease in DBS net revenues for the three
months ended March 31, 2003 compared to the three months ended March 31, 2002.
In the near term, our DBS business strategy may result in further decreases in
the number of our DBS subscribers and our DBS net revenues when compared to
prior periods, but we believe that our results from operations for the DBS
business will not be significantly impacted. We cannot make any assurances that
this will be the case, however. If a disproportionate number of subscribers
churn relative to the number of quality subscribers we enroll, we are not able
to enroll a sufficient number of quality subscribers, and/or we are not able to
maintain adequate margins from our subscribers, our results from operations may
not improve or improved results that do occur may not be sustained.
We have not declared or paid the semiannual dividends on our 12-3/4%
series preferred stock after January 1, 2002. See Notes 3 for further
information.
7
PEGASUS SATELLITE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
We are involved in significant litigation. See Note 10 for further
information.
2. Basis of Presentation
The unaudited financial statements herein include the accounts of PSC
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
in the United States of America 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.
3. Redeemable Preferred Stock
At the discretion of our board of directors as permitted by the
certificate of designation for the 12-3/4% cumulative exchangeable preferred
stock, our board of directors has not declared or paid any of the scheduled
semiannual dividends for this series after January 1, 2002. Dividends in arrears
at March 31, 2003 were $23.5 million, with accrued interest thereon of $1.7
million. Dividends not declared or paid accumulate in arrears and incur 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, with respect to capital
stock junior to the series: 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 the amount of dividends in arrears at March 31,
2003, $11.6 million, with interest thereon of $855 thousand, was payable to PCC
on account of the 12-3/4% preferred stock shares held by PCC.
4. Changes in Other Stockholder's Equity
The change in other stockholders' equity from December 31, 2002 to
March 31, 2003 consisted of (in thousands):
Net loss $ (29,043)
Dividends accrued and accretion associated with preferred
stock (6,390)
Net cash and noncash distributions to PCC (1)
5. Long Term Debt
All principal amounts borrowed by PM&C under its revolving credit
facility were repaid during the three months ended March 31, 2003. Letters of
credit outstanding under the revolving credit facility, which reduce the
availability thereunder, were $61.4 million at March 31, 2003. At March 31,
2003, the commitment for the revolving credit facility was permanently reduced
as scheduled by the terms of the facility by $14.1 million to $154.7 million.
The commitment is scheduled to be further reduced by $14.1 million on June 30,
2003. Availability under the revolving credit facility at March 31, 2003 was
$93.3 million.
8
PEGASUS SATELLITE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
PM&C repaid $688 thousand of principal outstanding under its term loan
facility during the three months ended March 31, 2003 as scheduled, thereby
reducing the total principal amount outstanding thereunder to $268.8 million.
The weighted average variable rate of interest including applicable margins on
principal amounts outstanding under the term loan facility was 4.8% and 5.3% at
March 31, 2003 and December 31, 2002, respectively.
PM&C repaid $158 thousand of principal outstanding under its
incremental term loan facility during the three months ended March 31, 2003 as
scheduled, thereby reducing the total principal amount outstanding thereunder to
$62.7 million. The weighted average variable rate of interest including
applicable margins on principal amounts outstanding under the incremental term
loan facility was 4.8% and 5.3% at March 31, 2003 and December 31, 2002,
respectively.
During the three months ended March 31, 2003, PSC borrowed an
additional $6.9 million of original principal under its promissory note
arrangement with PCC. Additionally, in the three months ended March 31, 2003 PSC
capitalized as principal outstanding under this promissory note arrangement
previous interest accrued of $4.0 million.
In April 2003, a newly formed subsidiary of PSC entered into an
agreement for a commitment for up to $100.0 million of original principal in
term loan financing from a group of institutional lenders. The commitment
expires on June 1, 2003, but may be extended to July 1, 2003. The commitment
period in which funds may be drawn expires the later of December 31, 2003 or 180
days from the date that funds are initially drawn. If drawn, loans will have a
six year term from the date that funds are initially drawn and an interest rate
of 12.5% per annum, with 6% payable in cash quarterly and 6.5% to be accrued and
added to principal and paid at loan maturity. Amounts borrowed that are repaid
may not be reborrowed. Outstanding principal may be repaid prior to its maturity
date, but principal repaid within three years will bear a premium as specified
in the agreement. Proceeds of the funds drawn would be available to redeem or
repurchase debt and equity securities, subject to certain conditions. Up to 1.0
million warrants to purchase 1.0 million shares of nonvoting common stock of PCC
may be issued by PCC in connection with amounts funded under this commitment.
Closing and funding of the term loans are subject to consent by lenders to
PM&C's credit agreement.
In May 2003, PSC issued $66.5 million principal amount of its 11-1/4%
senior notes due January 2010 in exchange for an aggregate equivalent principal
amount of its outstanding notes, consisting of $21.9 million principal amount of
9-5/8% senior notes due October 2005, $13.8 million principal amount of 12-3/8%
senior notes due August 2006, $1.8 million principal amount of 9-3/4% senior
notes due December 2006, and $29.0 million principal amount of 12-1/2% senior
notes due August 2007. Interest accrued to the date of the exchange of $1.8
million on the notes received in the exchange was paid in cash. The principal
effect of this exchange was to extend the maturity of $66.5 million of principal
outstanding. The difference in the aggregate amount of interest expense to be
incurred and cash interest to be paid resulting from this exchange is favorable
but nominal through the date of the earliest maturity of the notes received in
the exchange. The incremental aggregate interest expense to be incurred and cash
interest to be paid after the maturity date of the respective notes received
will be 11-1/4% of the principal amount of the notes issued. The terms and
conditions of the 11-1/4% notes issued in the exchange are the same as those
contained in the indenture for the notes of this series already outstanding.
9
PEGASUS SATELLITE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
6. Supplemental Cash Flow Information
Significant noncash investing and financing activities were as follows
(in thousands):
Three Months
Ended March 31,
2003 2002
------------- -------------
Preferred stock dividends accrued and accretion $ 6,390 $ 5,888
Capitalization of interest accrued on promissory note with PCC 4,041 -
Payment of 12-3/4% series preferred stock dividends with like kind shares - 11,026
Net change in other comprehensive loss - 2,146
7. Income Taxes
In the first quarter 2003, we recorded an increase of $11.0 million to
the valuation allowance recorded against the net deferred income tax asset
balance at March 31, 2003. The increase to the valuation allowance was a charge
to income taxes that partially offset income tax benefits provided by net
operating losses in arriving at the net income tax benefit on the loss from
continuing operations of $2.7 million. The net deferred income tax asset balance
at March 31, 2003 was $33.9 million, offset by a valuation allowance in the
same amount. A valuation allowance sufficient to bring the net deferred income
tax asset balance to zero at March 31, 2003 was necessary because, based on our
history of losses, it was more likely than not that the benefits of the net
deferred income tax asset will not be realized. The effect of the valuation
allowance lowered our overall effective income tax rate on continuing operations
for the three months ended March 31, 2003 to 7.53%, compared to the overall
effective income tax rate on continuing operations at December 31, 2002 of
22.67%.
8. Dispositions
In March 2003, we completed the sale of our Mobile, Alabama broadcast
television station to an unaffiliated party for a purchase price of $11.5
million in cash. As of March 31, 2003, proceeds of the sale, net of costs
related to the sale, were $11.0 million, and a gain on the sale of $7.6 million
was recorded. Ultimate net proceeds from and gain on the sale are subject to
later adjustment for contract termination costs and fees and other services
related to the sale that are yet to be finalized. The operations for this
station are classified as discontinued in the statement of operations and
comprehensive loss for all periods presented.
Prior to March 31, 2003, we had established our intent and ability to
sell two of our broadcast television stations that are located in Mississippi to
an unaffiliated party for an aggregate of $13.4 million in cash. The sale of the
nonlicense assets and related liabilities of the stations closed on April 30,
2003. The sale and transfer of the license assets of the stations will occur
upon approval by the Federal Communications Commission ("FCC") of this portion
of the sale, which we expect to occur in the third quarter 2003. The aggregate
proceeds received on April 30, 2003, net of costs of the sale, were $10.3
million. Gain or loss on the nonlicense assets and related liabilities portion
of the sale is pending subject to final determination of the carrying amounts of
assets and liabilities related to the sale. The operations of these stations are
classified as discontinued in the statement of operations and comprehensive loss
for all periods presented.
In a separate but concurrent transaction to the sale of the Mississippi
stations, we waived our rights under an option agreement to acquire a
construction permit held by KB Prime Media and consented to the sale of the
construction permit by KB Prime Media to an unaffiliated party. As consideration
10
PEGASUS SATELLITE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
for our consent, we will receive an aggregate of $1.4 million upon the sale of
the construction permit, of which $1.2 million was received on April 30, 2003.
An aggregate of $2.7 million of our cash that collateralizes certain debt of KB
Prime Media that is to be repaid with its proceeds from the sale of the
construction permit will become unrestricted, of which $2.1 million became
unrestricted on April 30, 2003. The receipt of the remaining portion of the
consent consideration and release of the remaining portion of the collateral
will occur when the FCC approves the sale of the construction permit, which is
expected in the third quarter 2003. PSC is party to an option agreement with
W.W. Keen Butcher, certain entities controlled by Mr. Butcher (the "KB
Companies"), and the owner of a minority interest in the KB Companies. Mr.
Butcher is the stepfather of Marshall W. Pagon, chairman of the board of
directors and chief executive officer of PSC and PCC. KB Prime Media is one of
the KB Companies.
Aggregate assets and liabilities associated with the broadcast
television stations above were not significant to our financial position to show
separately as held for sale on the balance sheet, but such have been included
therein in other current and noncurrent assets and liabilities as appropriate.
We ceased operating our Pegasus Express business in 2002. Accordingly,
the operations for this business for 2002 are classified as discontinued in the
statement of operations and comprehensive loss. There were no assets or
liabilities of this business contained in the balance sheet at December 31,
2002.
Aggregate revenues and pretax income (loss), including a net gain of
$7.6 million in 2003, for discontinued operations were as follows (in
thousands):
Three Months Ended
March 31,
2003 2002
---------- ------------
Revenues $1,153 $ 2,498
Pretax income (loss) 7,183 (2,233)
9. Industry Segments
Our only reportable segment at March 31, 2003 was our 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 $1.7
billion at March 31, 2003, which were not significantly different from those at
December 31, 2002.
10. 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.
11
PEGASUS SATELLITE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
On June 3, 1999, the NRTC filed a lawsuit in United States District
Court, Central District of California against DIRECTV, Inc. seeking a court
order to enforce the NRTC's contractual rights to obtain from DIRECTV, Inc.
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, Inc. filed a
counterclaim seeking judicial clarification of certain provisions of DIRECTV,
Inc.'s contract with the NRTC. On August 26, 1999, the NRTC filed a separate
lawsuit in United States District Court, Central District of California against
DIRECTV, Inc. claiming that DIRECTV, Inc. had failed to provide to the NRTC its
share of launch fees and other benefits that DIRECTV, Inc. and its affiliates
have received relating to programming and other services. The NRTC and DIRECTV,
Inc. have also filed indemnity claims against one another that pertain to the
alleged obligation, if any, of the NRTC to indemnify DIRECTV, Inc. 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.
DIRECTV, Inc. is seeking as part of its counterclaim a declaratory
judgment that the term of the NRTC's agreement with DIRECTV, Inc. is measured
only by the life of DBS-1, the first DIRECTV satellite launched, and not the
orbital lives of the other DIRECTV satellites at the 101o W orbital location. If
DIRECTV, Inc. were to prevail on its counterclaim, any failure of DBS-1 could
have a material adverse effect on our DIRECTV rights. While the NRTC has a right
of first refusal to receive certain services after the term of NRTC's agreement
with DIRECTV, Inc., the scope and terms of this right of first refusal are also
being disputed as part of DIRECTV, Inc.'s counterclaim. On December 29, 1999,
DIRECTV, Inc. filed a motion for partial summary judgment seeking an order that
the right of first refusal does not include programming services and is limited
to 20 program channels of transponder capacity. On January 31, 2001, the court
issued an order denying DIRECTV Inc.'s motion for partial summary judgment
relating to the right of first refusal.
On July 3, 2002, the court granted a motion for summary judgment filed
by DIRECTV, Inc., holding that the NRTC is liable to indemnify DIRECTV, Inc. for
the costs of defense and liabilities that DIRECTV, Inc. incurs in a patent case
filed by Pegasus Development Corporation ("Pegasus Development"), a subsidiary
of PCC, and Personalized Media Communications, L.L.C. ("Personalized Media") in
December 2000 in the United States District Court, District of Delaware against
DIRECTV, Inc., Hughes Electronics Corporation, Thomson Consumer Electronics, and
Philips Electronics North America Corporation. Personalized Media is a company
with which Pegasus Development has a licensing arrangement. In February 2003,
the United States District Court, District of Delaware granted Pegasus
Development's and Personalized Media's motion for leave to amend the complaint
to exclude relief for the delivery nationwide, using specified satellite
capacity, of services carried for the NRTC, plus any other services delivered
through the NRTC to subscribers in the NRTC's territories. The NRTC filed a
motion with the United States District Court, Central District of California to
reconsider its July 3, 2002 decision that the NRTC indemnify DIRECTV, Inc. for
DIRECTV, Inc.'s costs of defense and liabilities from the patent litigation.
That motion is scheduled for hearing June 2, 2003. 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, Inc. to
provide services to its subscribers.
12
PEGASUS SATELLITE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
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, Inc. 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, Inc.'s
failure to provide the NRTC with certain premium programming, and on DIRECTV,
Inc.'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, and withdrew the class action
allegations to allow a new class action to be filed on behalf of the members and
affiliates of the NRTC. The amended complaint also added claims regarding
DIRECTV Inc.'s failure to allow distribution through the NRTC of various
advanced services, including Tivo. 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, Inc. filed a counterclaim against PST and GSS, as well
as the class members, seeking two claims for relief: 1) a declaratory judgment
whether DIRECTV, Inc. is under a contractual obligation to provide PST and GSS
with services after the expiration of the term of their agreements with the NRTC
and 2) 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. On October 29,
2001, the Court denied DIRECTV's motion for partial summary judgment on its term
counterclaim. On June 20, 2001, PST and GSS filed a second amended complaint,
updating the claims asserted in the earlier complaints.
On June 22, 2001, DIRECTV, Inc. 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, Inc. and PST and GSS. On July 13, 2001, PST and GSS
terminated the seamless marketing agreement. The seamless marketing agreement
provided seamless marketing and sales for DIRECTV retailers and distributors. On
July 16, 2001, PST and GSS filed a cross complaint against DIRECTV, Inc.
alleging, among other things, that 1) DIRECTV, Inc. breached the seamless
marketing agreement and 2) DIRECTV, Inc. engaged in unlawful and/or unfair
business practices, as defined in Section 17200, et seq. of the California
Business and Professions Code. This suit has since been removed to the United
States District Court, Central District of California. On September 16, 2002,
PST and GSS filed first amended counterclaims against DIRECTV, Inc. Among other
things, the first amended counterclaims added claims for 1) rescission of the
seamless marketing agreement on the ground of fraudulent inducement, 2) specific
performance of audit rights, and 3) punitive damages on the breach of the
implied covenant of good faith claim. In addition, the first amended
counterclaims deleted the business and professions code claim and the claims for
tortious interference that were alleged in the initial cross complaint. On
November 5, 2002 the court granted DIRECTV, Inc.'s motion to dismiss 1) the
specific performance claim and 2) the punitive damages allegations on the breach
of the implied covenant of good faith claim. The court denied DIRECTV, Inc.'s
motion to dismiss the implied covenant of good faith claim in its entirety.
DIRECTV, Inc. filed four summary judgment motions on September 11, 2002
against the NRTC, the class members, and PST and GSS on a variety of issues in
the case. The motions cover a broad range of claims in the case, including 1)
the term of the agreement between the NRTC and DIRECTV, Inc., 2) the right of
first refusal as it relates to PST and GSS, 3) the right to distribute the
premiums, and 4) damages relating to the premiums, launch fees, and advanced
services claims. These motions were argued on May 5, 2003 and have been taken
under submission by the United States District Court, Central District of
California.
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PEGASUS SATELLITE COMMUNICATIONS, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Continued)
Pursuant to the court's order of December 17, 2002, the parties
stipulated on December 20, 2002 to participate in mediation proceedings presided
over by a mutually agreeable mediator. The mediation is ongoing.
Both of the NRTC's lawsuits against DIRECTV, Inc. 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 (but excluding the indemnity lawsuits), are pending before the
same judge. The court has set a trial date of June 3, 2003, although it is not
clear which of the lawsuits will be tried together.
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. We believe
that the ultimate liability, if any, with respect to these claims will not have
a material effect on our consolidated operations, cash flows, or financial
position.
11. Related Party Transactions
During the three months ended March 31, 2003, PSC purchased 96,960
shares of PCC's Class A common stock for an aggregate amount of $1.2 million.
PSC purchased an additional 42,700 shares for an aggregate of $805 thousand
since March 31, 2003.
12. New Accounting Pronouncements
On April 30, 2003, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards ("FAS") No. 149 "Amendment of
Statement 133 on Derivative Instruments and Hedging Activities." This FAS amends
and clarifies various items and issues related to derivative instruments. We are
still studying the content of this FAS for any potential impacts to us.
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PEGASUS SATELLITE COMMUNICATIONS, INC.
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, although not all forward looking statements contain these
identifying words. 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 the risks described
elsewhere in this report and, among others, 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 third parties like DIRECTV, Inc. and the
National Rural Telecommunications Cooperative; litigation with DIRECTV, Inc.;
the potential sale of DIRECTV, Inc.; demographic changes; existing government
regulations, and changes in, or the failure to comply with, government
regulations; competition, including our ability to offer local programming in
our direct broadcast satellite markets; 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 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 other reports 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, 2002. Readers are cautioned not
to place undue reliance on these forward looking statements, which speak only as
of the date hereof. 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 results of operations should be read in
conjunction with the consolidated financial statements and related notes herein.
General
All references to "we," "us," and "our" refer to Pegasus Satellite
Communications, Inc., together with its direct and indirect subsidiaries. "PSC"
refers to Pegasus Satellite Communications, Inc. individually as a separate
entity. "PCC" refers to Pegasus Communications Corporation, the parent company
of PSC. "PM&C" refers to Pegasus Media & Communications, Inc., a wholly owned
subsidiary of PSC. "DBS" refers to direct broadcast satellite. Other terms used
are defined as needed where they first appear.
Our principal business is the DBS business. The following sections
focus on our DBS business, as this is our only significant business segment.
Significant Risks and Uncertainties
We are highly leveraged. At March 31, 2003, we had a combined carrying
amount of long term debt, including the portion that is current, and redeemable
preferred stock outstanding of $1.5 billion. Our high leverage makes us more
vulnerable to adverse economic and industry conditions and limits our
flexibility in planning for, or reacting to, changes in our business and the
industries in which we operate. Our ability to make payments on and to refinance
indebtedness and redeemable preferred stock outstanding and to fund operations,
planned capital expenditures, and other activities and to fund the preferred
15
PEGASUS SATELLITE COMMUNICATIONS, INC.
stock requirements of PCC depends on our ability to generate cash in the future.
Our ability to generate cash depends on the success of our business strategy,
prevailing economic conditions, regulatory risks, competitive activities by
other parties, equipment strategies, technological developments, level of
programming costs and subscriber acquisition costs ("SAC"), 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 fund the needs previously specified. Our indebtedness and
preferred stock 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.
We are in litigation against DIRECTV, Inc. An outcome in this
litigation that is unfavorable to us could have a material adverse effect on our
DBS business. Our litigation with DIRECTV, Inc. may have a bearing on our
estimation of the useful lives of our DBS rights assets. See Note 10 of the
Notes to Consolidated Financial Statements for information regarding this
litigation.
Because we are a distributor of DIRECTV, we may be adversely affected
by any material adverse changes in the assets, financial condition, programming,
technological capabilities, or services of DIRECTV, Inc.
For the three months ended March 31, 2003 and 2002, the DBS business
had income from operations of $10.7 million and $9.3 million, respectively. We
attribute the improvement in the current year to our DBS business strategy.
Continued improvement in results from operations will in large part depend upon
our obtaining a sufficient number of quality subscribers, retention of these
subscribers for extended periods of time, and improving margins from them. While
our DBS business strategy has resulted in an increase in income from operations,
it has also resulted in decreases in the number of subscribers for the three
months ended March 31, 2003 and a decrease in DBS net revenues for the three
months ended March 31, 2003 compared to the three months ended March 31, 2002.
In the near term, our DBS business strategy may result in further decreases in
the number of our DBS subscribers and our DBS net revenues when compared to
prior periods, but we believe that our results from operations for the DBS
business will not be significantly impacted. We cannot make any assurances that
this will be the case, however. If a disproportionate number of subscribers
churn relative to the number of quality subscribers we enroll, we are not able
to enroll a sufficient number of quality subscribers, and/or we are not able to
maintain adequate margins from our subscribers, our results from operations may
not improve or improved results that do occur may not be sustained.
DBS Business Strategy
Our DBS business strategy focuses on: increasing the quality of new
subscribers and the composition of our existing subscriber base; enhancing the
returns on investment in our subscribers; generating free cash flow; and
preserving liquidity. The primary focus of our "Quality First" strategy is on
improving the quality and creditworthiness of our subscriber base. Our goal is
to acquire and retain high quality subscribers, to cause average subscribers to
become high quality subscribers, and to reduce acquisition and retention
investments in low quality subscribers. To achieve these goals, our subscriber
acquisition, development, and retention efforts focus on subscribers who are
less likely to churn and who are more likely to subscribe to more programming
services, including local and network programming, and to use multiple
receivers. Our strategy includes a significant emphasis on credit scoring of
potential subscribers, adding and upgrading subscribers in markets where DIRECTV
16
PEGASUS SATELLITE COMMUNICATIONS, INC.
offers local channels, and who subscribe to multiple receivers. It is our
experience that these attributes are closely correlated with lower churn,
increased cash flow, and higher returns on investment. Our strategy also
includes the use of behavioral and predictive scores to group subscribers and to
design retention campaigns, upgrade offers, and consumer offers consistent with
our emphasis on acquiring and retaining high quality subscribers and reducing
our investment in lower quality subscribers.
Results of Operations
In this section, amounts and changes specified are for the three months
ended March 31, 2003 compared to the three months ended March 31, 2002, unless
indicated otherwise. With respect to our results from operations, we focus on
our DBS business, as this is our only significant business.
DBS
Subscribers:
We had 1,275,828 subscribers at March 31, 2003, a net decrease of
32,642 from the number of subscribers at December 31, 2002. The average number
of subscribers outstanding during the three months ended March 31, 2003 and 2002
was 1,293,416 and 1,378,877, respectively. Gross subscriber additions for the
three months ended March 31, 2003 and 2002 were 38,990 and 64,549, respectively.
We believe that the primary reasons for the net decrease in the number of
subscribers during the three months ended March 31, 2003 were: our continued
focus in 2003 on enrolling more creditworthy subscribers; our unwillingness to
aggressively invest retention amounts in low margin subscribers; competition
from digital cable providers and a competing direct broadcast satellite provider
in the territories we serve, including the provision of local channels by this
competing direct broadcast satellite provider in several markets where DIRECTV,
Inc. does not offer local channels; the effect of general economic conditions on
our subscribers and potential subscribers; and a reduction in the number of new
subscribers we obtain from national retail chains with which we do not have
compensation arrangements.
Revenues:
Revenues decreased $9.2 million to $205.5 million primarily due to: a
decrease in our recurring subscription revenue from our core, a la carte, and
premium package offerings of $11.9 million; and a decrease in pay per view
revenues of $3.8 million. Revenue decreases were partially offset by $5.3
million in revenues from a royalty fee introduced in July 2002 that passes on to
subscribers a portion of the royalty costs charged to us in providing DIRECTV
service. The $11.9 million decrease from our core, a la carte, and premium
package offerings is primarily due to the net reduction in total subscribers
described above.
Direct Operating Expenses:
Programming expense decreased $3.1 million to $93.3 million primarily
due to: a decrease in the cost of our core, a la carte, and premium package
offerings of $3.5 million; and a decrease in the cost of our pay per view
programming of $1.5 million. The decrease in the cost of our core, a la carte,
and premium package offerings was primarily due to the net reduction in total
subscribers, offset by a 7% increase, effective January 2003, in certain per
subscriber programming costs charged to us by the National Rural
Telecommunications Cooperative ("NRTC"). We also experienced a 10% increase,
effective January 2003, in certain pay per view programming costs charged to us
by the NRTC. These net decreases to programming expense were also partially
offset by our estimate of patronage to be received from the NRTC being $3.3
million less in the first quarter 2003, as compared to the first quarter 2002.
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PEGASUS SATELLITE COMMUNICATIONS, INC.
Other subscriber related expenses decreased $7.1 million to $44.7
million primarily due to a decrease in bad debt expense of $6.6 million. The
decrease in bad debt expense was mainly due to our continued focus on improving
the quality of our subscriber base that we obtain and retain and improved
account collection efforts.
Other Operating Expenses:
Promotion and incentives and advertising and selling expenses on our
statement of operations and comprehensive loss constitute our expensed SAC. Our
expensed SAC is the gross amount of SAC we incur less amounts of SAC deferred
and/or capitalized. Commissions, subsidies, and promotional programming are
costs included in SAC that are incurred only when new subscribers are enrolled.
Commissions and subsidies are the substantial cost elements within our SAC.
Amounts associated with SAC are contained in the following table:
Three Months Ended
SAC (in thousands): March 31,
2003 2002
----------- -----------
Expensed:
Promotions and incentives $ 2,878 $ 1,743
Advertising and selling 5,726 8,301
----------- -----------
Total expensed 8,604 10,044
Deferred 6,201 9,607
Capitalized 5,430 6,039
----------- -----------
Gross SAC incurred $20,235 $25,690
=========== ===========
Gross SAC decreased $5.5 million primarily due to a lesser amount of
gross subscriber additions in the 2003 period compared to the 2002 period.
Promotions and incentives expense increased in the 2003 period as compared to
2002, because in 2002 a greater percentage of the related costs were eligible
for either deferral or capitalization. In accordance with our policy whereby we
expense SAC in excess of amounts eligible to be deferred, we incurred more of
these excess promotions and incentive costs that were expensed than those
incurred in the 2002 period. Based on gross subscriber additions for the three
months ended March 31, 2003 and 2002 of 38,990 and 64,549, respectively, total
SAC per gross subscriber added was $519 and $398 for the three months ended
March 31, 2003 and 2002, respectively. The increase in the 2003 amount is
primarily due to: the disproportionate impact our sales administration costs and
other indirect SAC expenses have on the SAC per gross subscriber addition metric
when divided by a substantially lesser number of gross subscriber additions; a
greater percentage of our gross subscriber additions taking more than one
receiver that adds incrementally to the per subscriber cost; a lesser percentage
in 2003 compared to 2002 of our gross subscriber additions coming from national
retailers with which we do not have compensation arrangements; and the higher
per subscriber costs associated with enrolling more creditworthy subscribers and
the proportionately greater number of such subscribers enrolled in 2003 than in
2002.
General and administrative expenses decreased $1.5 million to $6.4
million primarily due to reduced expenditures for communication services
resulting from a renegotiation at the end of March 2002 of the related contract
for such services and the continuing effects of broad based cost reduction
efforts initiated in 2002 that were not fully in place in the first quarter
2002.
Depreciation and amortization increased $2.5 million to $42.0 million
primarily due to additional depreciation of capitalized SAC and amortization of
deferred SAC in 2003 compared to 2002. Depreciation and amortization included
depreciation of promotions and incentives capitalized of $4.4 million and $2.7
18
PEGASUS SATELLITE COMMUNICATIONS, INC.
million for 2003 and 2002, respectively, and aggregate amortization of
promotions and incentives and advertising and selling costs deferred of $7.7
million and $5.8 million for 2003 and 2002, respectively.
Other Statement of Operations and Comprehensive Loss Items
Other operating expenses, net decreased $1.7 million to $6.3 million
primarily due to write off of asset costs in 2002 of $1.7 million due to
impairment.
Interest expense increased $2.1 million to $37.9 million primarily due
to interest of $1.1 million incurred on PSC's promissory note with PCC and $865
thousand of interest accrued on dividends in arrears.
The income tax benefit on the loss from continuing operations decreased
$11.7 million to $2.7 million due to a reduced amount of pretax losses in the
current year and the effect of an increase of $11.0 million to the valuation
allowance recorded against the net deferred income tax asset balance at March
31, 2003. The increase to the valuation allowance was a charge to income taxes
that partially offset income tax benefits provided by net operating losses in
arriving at the net income tax benefit on the loss from continuing operations.
The net deferred income tax asset balance at March 31, 2003 was $33.9 million,
offset by a valuation allowance in the same amount. A valuation allowance
sufficient to bring the net deferred income tax asset balance to zero at March
31, 2003 was necessary because, based on our history of losses, it was more
likely than not that the benefits of the net deferred income tax asset will not
be realized. The effect of the valuation allowance lowered our overall effective
income tax rate on continuing operations for the three months ended March 31,
2003 to 7.53%, compared to the overall effective income tax rate on continuing
operations for 2002 of 22.67% and 37.52% for the three months ended March 31,
2002.
Discontinued operations for 2003 and 2002 consisted of a broadcast
television station located in Mobile, Alabama and two stations located in
Mississippi, and for 2002, our Pegasus Express business that we ceased in 2002.
In March 2003, we completed the sale of our Mobile, Alabama broadcast television
station to an unaffiliated party for a purchase price of $11.5 million in cash
and recorded as of March 31, 2003 a gain on the sale of $7.6 million. The
ultimate gain on the sale is subject to later adjustment for contract
termination costs and fees and other services related to the sale that are yet
to be finalized. The operations for this station are classified as discontinued
in the statement of operations and comprehensive loss for all periods presented.
Prior to March 31, 2003, we had established our intent and ability to sell two
of our broadcast television stations that are located in Mississippi to an
unaffiliated party for an aggregate of $13.4 million in cash. The sale of the
nonlicense assets and related liabilities of the stations closed on April 30,
2003. The sale and transfer of the license assets of the stations will occur
upon approval by the Federal Communications Commission of this portion of the
sale, which we expect to occur in the third quarter 2003. Gain or loss on the
nonlicense assets and related liabilities portion of the sale is pending subject
to final determination of the carrying amounts of assets and liabilities related
to the sale. Aggregate revenues and pretax income (loss), including a net gain
of $7.6 million in 2003, for discontinued operations were as follows (in
thousands):
Three Months Ended
March 31,
2003 2002
---------- ------------
Revenues $1,153 $ 2,498
Pretax income (loss) 7,183 (2,233)
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PEGASUS SATELLITE COMMUNICATIONS, INC.
In May 2003, PSC issued $66.5 million principal amount of its 11-1/4%
senior notes due January 2010 in exchange for an aggregate equivalent principal
amount of its outstanding notes, consisting of $21.9 million principal amount of
9-5/8% senior notes due October 2005, $13.8 million principal amount of 12-3/8%
senior notes due August 2006, $1.8 million principal amount of 9-3/4% senior
notes due December 2006, and $29.0 million principal amount of 12-1/2% senior
notes due August 2007. The difference in the aggregate amount of interest
expense to be incurred resulting from this exchange is favorable but nominal
through the date of the earliest maturity of the notes received in the exchange.
The incremental aggregate interest expense to be incurred after the maturity
dates of the respective notes received will be 11-1/4% of the principal amount
of the notes issued.
EBITDA
DBS EBITDA was $52.6 and $48.7 million for three months ended March 31,
2003 and 2002, respectively. We present DBS EBITDA because the DBS business is
our only significant business and this business forms the principal portion of
our results of operations. The calculation of DBS EBITDA and a reconciliation of
DBS EBITDA to our most comparable GAAP financial measure of loss from operations
follows (in thousands). All amounts are as contained on our consolidated
statement of operations and comprehensive loss.
For the Three Months
Ended Mach 31,
2003 2002
--------------- -------------
DBS revenues $ 205,546 $ 214,724
DBS operating expenses, excluding depreciation and
amortization (152,908) (166,020)
--------------- -------------
DBS EBITDA 52,638 48,704
DBS depreciation and amortization (41,986) (39,450)
Broadcast, net (321) (765)
Corporate expenses (3,756) (4,451)
Other operating expenses, net (6,317) (8,036)
--------------- -------------
Income (loss) from operations $ 258 $ (3,998)
=============== =============
We use DBS EBITDA to evaluate the operating performance of our DBS
segment. We believe that DBS EBITDA is a measure of performance used by some
investors, equity analysts, lenders, and others who follow our industry to make
informed decisions. Multiples of current or projected DBS EBITDA are used by
some to estimate current or prospective enterprise value. We also believe that
DBS EBITDA is a common measure used to compare our operating performance and
enterprise value to other communications, entertainment, and media service
providers. DBS EBITDA is not, and should not be considered, an alternative to
income from operations, net income, or any other measure for determining our
operating performance, as determined under generally accepted accounting
principles. Although EBITDA is a common measure used by other companies, our
calculation of DBS EBITDA may not be comparable with that of others.
New Accounting Pronouncements
On April 30, 2003, the Financial Accounting Standards Board issued
Statement of Financial Accounting Standards ("FAS") No. 149 "Amendment of
Statement 133 on Derivative Instruments and Hedging Activities." This FAS amends
and clarifies various items and issues related to derivative instruments. We are
still studying the content of this FAS for any potential impacts to us.
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PEGASUS SATELLITE COMMUNICATIONS, INC.
Liquidity and Capital Resources
We had cash and cash equivalents on hand at March 31, 2003 of $15.6
million compared to $13.0 million at December 31, 2002. The change in cash is
discussed below in terms of the amounts shown in our statement of cash flows.
Net cash used by operating activities was $5.2 million and $3.4 million
for the three months ended March 31, 2003 and 2002, respectively. The principal
reason for the increased usage in the 2003 period was due to the timing of
interest payments associated with our 11.25% notes resulting in $9.8 million in
increased cash interest paid in 2003. This increase in cash usage was offset in
part by a lesser amount of cash used for other working capital of $7.5 million
in the 2003 period compared to the 2002 period. Within other working capital,
the most significant changes were: we experienced an increase from accounts
receivable of $7.1 million, as the quality of our subscriber base and collection
efforts continued to improve in the 2003 period relative to the 2002 period; we
incurred less deferred SAC in the 2003 period by $3.4 million, reflecting a
lesser amount of subscribers added in the 2003 than in the 2002 period; and we
realized less positive cash associated with inventory movement in the 2003
period of $3.7 million, as we now carry nominal amounts of inventory, whereas
the 2002 period reflected a substantial disposal of inventory leading to the
nominal amounts currently on hand.
For the three months ended March 31, 2003 and 2002, net cash of $4.1
million was provided by investing activities in the 2003 period, compared to net
cash used by investing activities of $7.4 million in the 2002 period. The 2003
period primarily consisted of net proceeds of $11.0 million from the sale of our
broadcast television station located in Mobile, Alabama, offset in part by
purchases of DBS equipment capitalized of $5.4 million and purchases of PCC's
Class A common stock of $1.2 million. The 2002 period primarily consisted of
purchases of DBS equipment capitalized of $6.0 million.
In March 2003, we completed the sale of our Mobile, Alabama broadcast
television station to an unaffiliated party and as of March 31, 2003 received
proceeds from the sale, net of costs of the sale, of $11.0 million. The ultimate
net proceeds from the sale are subject to later adjustment for contract
termination costs and fees and other services related to the sale that are yet
to be finalized. On April 30, 2003, we completed the sale of the nonlicense
assets and related liabilities for two of our broadcast television stations that
are located in Mississippi to an unaffiliated party and received proceeds from
the sale, net of costs of the sale, of $10.3 million.
In a separate but concurrent transaction to the sale of the Mississippi
stations, we waived our rights under an option agreement to acquire a
construction permit held by KB Prime Media and consented to the sale of the
construction permit by KB Prime Media to an unaffiliated party. As consideration
for our consent, we will receive an aggregate of $1.4 million upon the sale of
the construction permit, of which $1.2 million was received on April 30, 2003.
An aggregate of $2.7 million of our cash that collateralizes certain debt of KB
Prime Media that is to be repaid with its proceeds from the sale of the
construction permit will become unrestricted, of which $2.1 million became
unrestricted on April 30, 2003. The receipt of the remaining portion of the
consent consideration and release of the remaining portion of the collateral
will occur when the Federal Communications Commission approves the sale of the
construction permit, which is expected in the third quarter 2003. PSC is party
to an option agreement with W.W. Keen Butcher, certain entities controlled by
Mr. Butcher (the "KB Companies"), and the owner of a minority interest in the KB
Companies. Mr. Butcher is the stepfather of Marshall W. Pagon, chairman of the
board of directors and chief executive officer of PSC and PCC. KB Prime Media is
one of the KB Companies.
For the three months ended March 31, 2003, net cash was provided by
financing activities of $3.7 million, whereas net cash of $119.3 million was
21
PEGASUS SATELLITE COMMUNICATIONS, INC.
used for financing activities for the three months ended March 31, 2002. The
primary financing activities in the 2003 period were proceeds of $6.9 million
from a promissory note arrangement with PCC, offset in part by repayments of
long term debt of $3.1 million. The primary financing activities in the 2002
period were repayment of amounts outstanding under our revolving credit facility
of $80.0 million, repayments of long term debt of $6.6 million, and
distributions to PCC of $32.6 million.
At March 31, 2003, the commitment for PM&C's revolving credit facility
was permanently reduced as scheduled under the terms of the facility to $154.7
million. The commitment is scheduled to be further reduced by $14.1 million on
June 30, 2003. Availability under the revolving credit facility at March 31,
2003 was $93.3 million.
In April 2003, a newly formed subsidiary of PSC entered into an
agreement for a commitment for up to $100.0 million of original principal in
term loan financing from a group of institutional lenders. The commitment
expires on June 1, 2003, but may be extended to July 1, 2003. The commitment
period in which funds may be drawn expires the later of December 31, 2003 or 180
days from the date that funds are initially drawn. If drawn, loans will have a
six year term from the date that funds are initially drawn and an interest rate
of 12.5% per annum, with 6% payable in cash quarterly and 6.5% to be accrued and
added to principal and paid at loan maturity. Amounts borrowed that are repaid
may not be reborrowed. Outstanding principal may be repaid prior to its maturity
date, but principal repaid within three years will bear a premium as specified
in the agreement. Proceeds of the funds drawn would be available to redeem or
repurchase debt and equity securities, subject to certain conditions. Closing
and funding of the term loans are subject to consent by lenders to PM&C's credit
agreement.
In May 2003, PSC issued $66.5 million principal amount of its 11-1/4%
senior notes due January 2010 in exchange for an aggregate equivalent principal
amount of its outstanding notes, consisting of $21.9 million principal amount of
9-5/8% senior notes due October 2005, $13.8 million principal amount of 12-3/8%
senior notes due August 2006, $1.8 million principal amount of 9-3/4% senior
notes due December 2006, and $29.0 million principal amount of 12-1/2% senior
notes due August 2007. Interest accrued to the date of the exchange of $1.8
million on the notes received in the exchange was paid in cash. The difference
in the aggregate amount of cash interest to be paid resulting from this exchange
is favorable but nominal through the date of the earliest maturity of the notes
received in the exchange. The incremental aggregate cash interest to be paid
after the maturity date of the respective notes received will be 11-1/4% of the
principal amount of the notes issued.
We have engaged in transactions from time to time that involve the
purchase, sale, and/or exchange of our securities and those of PCC, and may
further do so in the future. Such transactions may be made in the open market or
in privately negotiated transactions and may involve cash or the issuance of new
securities or securities that we received upon purchase or exchange. The amount
and timing of such transactions, if any, will depend on market conditions and
other considerations.
At the discretion of our board of directors as permitted by the
certificate of designation for the 12-3/4% cumulative exchangeable preferred
stock, our board of directors has not declared or paid any of the scheduled
semiannual dividends for this series after January 1, 2002. Dividends in arrears
at March 31, 2003 were $23.5 million, with accrued interest thereon of $1.7
million. Dividends not declared or paid accumulate in arrears and incur 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, with respect to capital
stock junior to the series: 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 the amount of dividends in arrears at March 31,
22
PEGASUS SATELLITE COMMUNICATIONS, INC.
2003, $11.6 million, with interest thereon of $855 thousand, was payable to PCC
on account of the 12-3/4% preferred stock shares held by PCC.
At this time, we cannot determine with any certainty what capital
resources, other than those discussed above, will be available to us or the
sources and sufficiency of liquidity to meet our contractual obligations beyond
2003. We may seek to amend existing credit facilities to increase cash
availability thereunder, enter into new credit arrangements, seek to issue new
debt and/or equity securities, refinance existing debt and/or preferred stock
outstanding, extend maturities of existing debt by issuing debt with later
maturities in exchange for debt with nearer maturities such as the exchange of
$66.5 million of our senior notes described above and in Note 5 of the Notes to
Consolidated Financial Statements or by other means, or secure some other form
of financing in meeting our longer term needs. Our financing options and
opportunities will be impacted by general and industry specific economic and
capital market conditions over which we have no control, as well as the outcome
of our litigation with DIRECTV, Inc.
In the first quarter 2003, a major rating agency reduced the corporate
credit rating for us and our subsidiaries from "B" to "CCC+." We believe that
this downgrading will not have much of an impact on our liquidity and capital
resources because our rating before the downgrade was generally considered
speculative. Availability of external sources of liquidity and capital resources
to us is more impacted by the tightening of capital markets: 1) in general due
to general economic conditions, and 2) in particular to the cable and satellite
sector, in which we are included, as a result of uncertainties and developments
within the sector. Also, it is likely that the outcome of our ongoing litigation
with DIRECTV, Inc. will influence our credit ratings and access to capital.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Our principal market risk continues to be exposure to variable market
rates of interest associated with borrowings under our credit facilities.
Borrowings under our credit facilities are generally subject to short term LIBOR
rates that vary with market conditions. The amount of interest we incur also
depends upon the amount of borrowings outstanding under these facilities. The
interest rates we have incurred in 2003 on these borrowings have decreased
slightly relative to the rates in 2002, as market LIBOR rates available to us
have remained fairly consistent within a small range of movement over the last
15 months. The way we manage our interest rate risks did not change during the
three months ended March 31, 2003 from the way such risks were managed at
December 31, 2002.
ITEM 4. CONTROLS AND PROCEDURES
Within the 90 days prior to the filing date of this report on Form
10-Q, we carried out an evaluation under the supervision and with the
participation of our management, including our Chief Executive Officer and
Senior Vice President of Finance (the principal financial officer), to determine
the effectiveness of our disclosure controls and procedures. Based on this
evaluation, the Chief Executive Officer and the Senior Vice President of Finance
concluded that these controls and procedures are effective in their design to
ensure that information required to be disclosed by the registrant in reports
that it files or submits under the Securities Exchange Act of 1934 is recorded,
processed, summarized, and reported within the time periods specified in the
Securities and Exchange Commission's rules and forms, and that such information
has been accumulated and communicated to the management of the registrant,
including the above indicated officers, as appropriate to allow timely decisions
regarding the required disclosures. There have not been any significant changes
in the registrant's internal controls or in other factors that could
significantly affect these controls subsequent to the date of this evaluation,
including any corrective actions with regard to significant deficiencies and
material weaknesses.
23
PEGASUS SATELLITE COMMUNICATIONS, INC.
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 10 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 our Annual Report on form 10-K during the fiscal
year disclosing some or all of the legal proceedings referenced above.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
At the discretion of our board of directors as permitted by the
certificate of designation for the 12-3/4% cumulative exchangeable preferred
stock, our board of directors has not declared or paid any of the scheduled
semiannual dividends for this series after January 1, 2002. Dividends in arrears
at March 31, 2003 were $23.5 million, with accrued interest thereon of $1.7
million. Dividends not declared or paid accumulate in arrears and incur 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, with respect to capital
stock junior to the series: 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 the amount of dividends in arrears at March 31,
2003, $11.6 million, with interest thereon of $855 thousand, was payable to PCC
on account of the 12-3/4% preferred stock shares held by PCC.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
a) Exhibits
Exhibit
Number
99.1* Certification Pursuant to Section 906 of the Sarbanes-Oxley Act.
99.2* Certification Pursuant to Section 906 of the Sarbanes-Oxley Act.
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* Filed herewith.
b) Reports on Form 8-K
On January 27, 2003, we filed a Current Report on Form 8-K
dated January 16, 2003 reporting under Item 5 that in connection with
our litigation with DIRECTV, Inc. that our subsidiaries Pegasus
Satellite Television, Inc. and Golden Sky Systems, Inc. had entered
into a stipulation with DIRECTV, Inc. and other parties to the
litigation. The stipulation, which was filed as an exhibit to the Form
8-K, provided for the extension of certain pre-trial and trial
deadlines while the parties were participating in mediation with a
court approved mediator.
24
PEGASUS SATELLITE COMMUNICATIONS, INC.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, Pegasus Satellite Communications, Inc. has duly caused this Report
to be signed on its behalf by the undersigned thereunto duly authorized.
Pegasus Satellite Communications, Inc.
May 14, 2003 By: /s/ Joseph W. Pooler, Jr.
- ------------------------------------ ------------------------------
Date Joseph W. Pooler, Jr.
Senior Vice President of Finance
(Chief financial and accounting officer)
25
CERTIFICATION
I, Marshall W. Pagon, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Pegasus Satellite
Communications, Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date");
and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of the registrant's board of directors:
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officer and I have indicated in this
quarterly report whether there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
May 14, 2003
/s/ Marshall W. Pagon
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Marshall W. Pagon
Chief Executive Officer
CERTIFICATION
I, Joseph W. Pooler, Jr., certify that:
1. I have reviewed this quarterly report on Form 10-K of Pegasus Satellite
Communications, Inc.;
2. Based on my knowledge, this quarterly report does not contain any
untrue statement of a material fact or omit to state a material fact
necessary to make the statements made, in light of the circumstances
under which such statements were made, not misleading with respect to
the period covered by this quarterly report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all
material respects the financial condition, results of operations and
cash flows of the registrant as of, and for, the periods presented in
this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as
defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and
have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its
consolidated subsidiaries, is made known to us by others within
those entities, particularly during the period in which this
quarterly report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to the
filing date of this quarterly report (the "Evaluation Date");
and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on
our evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed, based
on our most recent evaluation, to the registrant's auditors and the
audit committee of the registrant's board of directors:
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the registrant's
ability to record, process, summarize and report financial data
and have identified for the registrant's auditors any material
weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal controls; and
6. The registrant's other certifying officer and I have indicated in this
quarterly report whether there were significant changes in internal
controls or in other factors that could significantly affect internal
controls subsequent to the date of our most recent evaluation,
including any corrective actions with regard to significant
deficiencies and material weaknesses.
May 14, 2003
/s/ Joseph W. Pooler, Jr.
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Joseph W. Pooler, Jr.
Senior Vice President of Finance
Exhibit Index
Exhibit Number
99.1* Certification Pursuant to Section 906 of the Sarbanes-Oxley Act.
99.2* Certification Pursuant to Section 906 of the Sarbanes-Oxley Act.
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* Filed herewith.