UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

☒QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended: June 30, 2015

 

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 001-34299

 

DIGITALGLOBE, INC.

(Exact name of registrant as specified in its charter)

 

 

 

 

(303) 684-4000

(Registrant’s telephone number, including area code)

 

1601 Dry Creek Drive, Suite 260

Longmont, Colorado, 80503

(Former address of principal executive office)

 

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  ☒  No  ☐

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes  ☒  No  ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act:

 

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).  Yes  ☐  No  ☒

 

As of July 23, 2015 there were 70,975,460 shares of the registrant’s Common Stock, par value $0.001 per share, outstanding.

 

 

 

 

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DigitalGlobe, Inc.

 

INDEX

 

 

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PART I — FINANCIAL INFORMATION

 

ITEM 1.  FINANCIAL STATEMENTS

 

DigitalGlobe, Inc.

 

Unaudited Condensed Consolidated Statements of Operations

 

 

 

See accompanying notes to the Unaudited Condensed Consolidated Financial Statements.

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DigitalGlobe, Inc.

 

Unaudited Condensed Consolidated Balance Sheets

 

 

 

See accompanying notes to the Unaudited Condensed Consolidated Financial Statements.

 

 

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DigitalGlobe, Inc.

 

Unaudited Condensed Consolidated Statements of Cash Flows

 

 

See accompanying notes to the Unaudited Condensed Consolidated Financial Statements.

 

 

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NOTE 1.General Information

 

DigitalGlobe is a leading global provider of geospatial information products and services sourced from our own advanced satellite constellation and third party providers. Our products and services support users in a wide variety of fields including defense, intelligence and homeland security, mapping and analysis, environmental monitoring, oil and gas exploration and infrastructure management. Each day users depend on DigitalGlobe’s data, information, technology and expertise to better understand our changing planet in order to save lives, resources and time. 

 

Our principal customers include U.S. and foreign governments, location-based services (“LBS”) providers, and those in energy and other industry verticals. The imagery that forms the foundation of our products, services and analysis is collected daily from our constellation of high-resolution imaging satellites and maintained in our imagery archives (“ImageLibrary”).

 

NOTE 2.Summary of Significant Accounting Policies

 

Basis of Presentation

 

The accompanying Unaudited Condensed Consolidated Financial Statements include the accounts of DigitalGlobe, Inc. and its subsidiaries. Intercompany balances and transactions have been eliminated in consolidation.

 

These Unaudited Condensed Consolidated Financial Statements have been prepared in accordance with accounting principles generally accepted in the United States of America (“U.S. GAAP”). In our opinion, all adjustments of a normal recurring nature that are necessary for a fair statement of the accompanying Unaudited Condensed Consolidated Financial Statements have been included.  The results of operations for the three and six month periods ended June 30, 2015 are not necessarily indicative of the results that may be expected for the year ending December 31, 2015 or for any future period.

 

These Unaudited Condensed Consolidated Financial Statements should be read in conjunction with the Company’s annual audited consolidated financial statements and notes thereto included in the Company’s most recent Annual Report on Form 10-K filed with the U.S. Securities and Exchange Commission (“SEC”). The December 31, 2014 Condensed Consolidated Balance Sheet was derived from the Company’s annual audited financial statements, but does not include all disclosures required in the annual financial statements prepared in accordance with U.S. GAAP. Certain prior year amounts have been reclassified to conform to the current year presentation.

 

Use of Estimates

 

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in these Unaudited Condensed Consolidated Financial Statements and accompanying notes. Due to the inherent uncertainties in making estimates, actual results could differ materially from those estimates.

 

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Recent Accounting Pronouncements

 

 

 

NOTE 3.Property and Equipment

 

Property and equipment consisted of the following:

 

 

Depreciation expense for property and equipment was $65.6 million and $54.8 million for the three months ended June 30, 2015 and 2014, respectively, and $130.3 million and $109.9 million for the six months ended June 30, 2015 and 2014, respectively.

 

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Satellite Constellation

 

As of June 30, 2015, the Company operates a constellation of four in-orbit and fully commissioned satellites: GeoEye-1, WorldView-1, WorldView-2 and WorldView-3. In the first quarter of 2015, we retired QuickBird, as the satellite stopped capturing images in December 2014 and ceased operating in the first quarter of 2015. Additionally, the Company stopped making new IKONOS imagery commercially available in the first quarter of 2015 and decommissioned the satellite in the second quarter of 2015.

 

The net book value of each satellite is as follows:

 

Our WorldView-4 satellite is classified as construction in progress. During the first quarter of 2015, we removed WorldView-4 from storage to commence work on certain necessary enhancements. On commencement of the work, we also began capitalizing interest to the satellite.

 

NOTE 4.Business Acquisition

 

In February 2014, the Company acquired Spatial Energy, LLC (“Spatial Energy”) to grow its existing oil and gas industry vertical for an aggregate cash consideration, net of cash acquired, of $35.7  million. Of the total purchase price, $25.7 million was allocated to goodwill, of which $19.0 million is deductible for tax purposes, $13.9 million to acquired intangible assets, and $3.9 million to net liabilities assumed. Pro forma results have not been presented as such results would not be materially different from the Company’s actual results.

 

NOTE 5.Goodwill and Intangible Assets

 

There have been no changes in goodwill from December 31, 2014 to June 30, 2015.

 

Intangible assets consisted of the following:

 

Intangible amortization expense was $2.5 million and $2.8 million for the three months ended June 30, 2015 and 2014, respectively, and $5.1 million and $5.3 million for the six months ended June 30, 2015 and 2014, respectively.

 

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The estimated annual amortization expense for acquired intangible assets for each of the next five years and thereafter is as follows:

 

 

 

NOTE 6.Debt

 

The Company’s debt obligations consist of a $550.0 million Senior Secured Term Loan Facility (“Term Loan”) and a $150.0 million Senior Secured Revolving Credit Facility (“Revolving Credit Facility” and, together with the Term Loan, the “2013 Credit Facility”), in addition to $600.0 million in 5.25% senior notes (“Senior Notes”). As of June 30, 2015, the Company had not drawn any amounts under the Revolving Credit Facility. The 2013 Credit Facility requires that the Company comply with a maximum leverage ratio and minimum interest coverage ratio. As of June 30, 2015, we were in compliance with our debt covenants. Long-term debt consisted of the following:

 

 

The Company’s future debt payments, excluding interest payments, consisted of the following as of June 30, 2015:

 

 

Interest expense, net consisted of the following:

 

 

 

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NOTE 7.Fair Values of Financial Instruments

 

The fair value of our long-term debt, estimated using inputs that incorporate certain active market quotations based upon trading activity among lenders as well as other indirect inputs, was $1,121.3 million and $1,102.0 million at June 30, 2015 and December 31, 2014, respectively, and is classified within Level 2 of the valuation hierarchy.

 

Our cash equivalents primarily consist of U.S. Treasury and demand deposit money market accounts. The carrying values of our cash and cash equivalents, accounts receivable and accounts payable approximate fair value because of their short-term nature.  

 

NOTE 8.Deferred Revenue

 

A rollforward of deferred revenue from December 31, 2014 to June 30, 2015 is as follows:

 

 

 

NOTE 9.Restructuring Charges

 

In February 2015, the Company initiated a restructuring plan intended to improve our operational efficiency. Under the restructuring plan, the Company expects to reduce global headcount and rationalize its real estate footprint. The Company may incur up to approximately $10.0 million in restructuring charges as a result of these efforts, which we expect to complete in the first quarter of 2016. The components of the restructuring liability were as follows:

 

 

The restructuring liability above is included in the Unaudited Condensed Consolidated Balance Sheet in Other accrued liabilities. The provision for restructuring charges above is included in the Unaudited Condensed Consolidated Statement of Operations in Restructuring charges.

 

NOTE 10.Other Accrued Liabilities

 

Other accrued liabilities consisted of the following:

 

 

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NOTE 11.Income Taxes

 

The Company’s effective tax rate is estimated based upon the effective tax rate expected to be applicable for the full year. The effective tax rates for the three and six months ended June 30, 2015 were 40.3% and 27.9%, respectively, differing from the statutory federal rate of 35.0% primarily as a result of the impact of certain discrete items. The income tax benefits recognized for each of the three and six months ended June 30, 2014 were primarily due to a change in the estimated annual effective tax rate and release of tax reserves upon completion of an Internal Revenue Service (“IRS”) audit.

 

NOTE 12.Stock-Based Compensation

 

During the six months ended June 30, 2015, the Company awarded 0.8 million unvested restricted stock units at an average grant date fair value of $31.77 per share. Of this amount, 0.2 million stock units represent performance shares that were subject to service, performance and market vesting conditions with an average grant date fair value of $35.72 per share. We did not grant any stock options during the six months ended June 30, 2014 or 2015.

 

Stock-based compensation expense, net of amounts capitalized to assets under construction, was $4.9 million and $4.1 million during the three months ended June 30, 2015 and 2014, respectively, and $9.5 million and $8.0 million during the six months ended June 30, 2015 and 2014, respectively.

 

As of June 30, 2015, total unrecognized compensation expense related to unvested restricted stock awards and restricted stock units, including those subject to service, performance and market vesting conditions, is $37.7 million, net of estimated forfeitures, and will be recognized over a weighted-average remaining vesting period of 2.6 years. 

 

As of June 30, 2015, total unrecognized compensation expense related to share options is $0.7 million, net of estimated forfeitures, and will be recognized over a weighted-average remaining vesting period of 0.7 years. As of June 30, 2015, the number of options outstanding was 1.7 million at a weighted-average exercise price of $20.53 and the number of options exercisable was 1.5 million at a weighted-average exercise price of $21.51 per share.

 

NOTE 13.Stockholders’ Equity

 

Share Repurchase Program

 

In the second half of 2014, the Company’s Board of Directors authorized a program to repurchase up to $205.0 million of the Company’s outstanding common stock through December 31, 2015. During the three months ended June 30, 2015, the Company repurchased 1,075,037 shares at an average purchase price of $30.44 per share, for a total of $32.7 million. For the six months ended June 30, 2015, the Company repurchased 2,084,737 at an average purchase price of $30.61 per share shares, for a total of $63.8 million. As of June 30, 2015, we have repurchased a total of 4,811,486 shares at an average purchase price of $28.87,  for a total of $138.9 million under the program.  The average purchase price and total dollar value purchased include broker transaction fees and commissions. 

 

Series A Convertible Preferred Stock

 

In January 2013, upon the closing of the acquisition of GeoEye, Inc. (“GeoEye”), the Company issued 80,000 shares of Series A Convertible Preferred Stock (“Series A Preferred Stock”) with a par value of $0.001 per share. Cumulative dividends on the Series A Preferred Stock are payable at a rate of five percent per annum on the $1,000 liquidation preference per share. At the Company’s option, dividends may be declared and paid in cash out of funds legally available when declared by the Company’s Board of Directors or the Audit Committee of the Board of Directors. If not paid in cash, an amount equal to the cash dividends due is added to the liquidation preference. The Company declared dividends on the Series A Preferred Stock of $1.0 million during each of the three months ended June 30, 2015 and 2014 and $2.0 million during each of the six months ended June 30, 2015 and 2014.

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The Series A Preferred Stock is convertible at the option of the holders, at a conversion price of $26.17 per common share, which would convert to 3.1 million shares of common stock of the Company. If at any time after September 22, 2016 the weighted average price of the Company’s common stock exceeds $45.80 per share, in effect for 30 consecutive trading days, the Company has the option to redeem all of the Series A Preferred Stock at an amount equal to the liquidation preference plus accrued dividends as of the redemption date. 

 

Non-Controlling Interest

 

In connection with the acquisition of Spatial Energy completed in February 2014, the Company obtained a majority interest in a subsidiary, and control of the subsidiary’s board of directors. A third party investor owns approximately 25% of the outstanding shares of the subsidiary. The Unaudited Condensed Consolidated Financial Statements include the financial position of this subsidiary as of June 30, 2015 and June 30, 2014 and the results of operations of this subsidiary since the date of acquisition. The Company has recognized the carrying value of the non-controlling interest as a component of stockholders’ equity. The operating results of the subsidiary attributable to the non-controlling interest are immaterial for the periods presented and are included in Other (expense) income, net.

 

Comprehensive Income

 

For the three and six months ended June 30, 2015 and 2014, there were no material differences between net income (loss) and comprehensive income (loss).

 

NOTE 14.Earnings Per Share

 

The following table sets forth the computations of basic and diluted earnings per share:

 

The potential common shares from the conversion of Series A Preferred Stock that were excluded from the computation of diluted earnings per share, due to their anti-dilutive impact on weighted common share equivalents, were 3.1 million for each of the three and six month periods ended June 30, 2015 and 2014. The number of options and non-vested restricted stock awards that were excluded from the computation of diluted earnings per share because they were assumed to be repurchased under the treasury stock method were 2.7 million and 3.2 million for the three month periods ended June 30, 2015 and 2014, respectively, and 2.8 million and 3.1 million for the six month periods ended June 30, 2015 and 2014, respectively. 

 

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NOTE 15.Related Party Transactions

 

In the ordinary course of business, the Company is involved in related party transactions with its equity method investees.

 

In June 2012, the Company made an investment in a joint venture in China. The Company sold $4.1 million and $2.0 million for the three months ended June 30, 2015 and 2014, respectively, and $5.6 million and $3.2 million for the six months ended June 30, 2015 and 2014, respectively, in products and services to the China joint venture. Amounts owed to the Company by the China joint venture at June 30, 2015 and December 31, 2014 were $3.7 million and $4.6 million, respectively.

 

In May 2015, in exchange for an equity interest in a joint venture, Vricon, Inc., we have an ongoing commitment to provide imagery to the joint venture from our ImageLibrary for the purpose of producing photo-realistic 3D products and digital elevation models. We also contributed $5.0 million in the form of a note receivable to the joint venture, which is due May 2018.

 

NOTE 16.Commitments and Contingencies

 

The Company enters into agreements in the ordinary course of business with resellers and others. Most of these agreements require the Company to indemnify the other party against third-party claims alleging that one of its products infringes or misappropriates a patent, copyright, trademark, trade secret or other intellectual property right. Certain of these agreements require the Company to indemnify the other party against claims relating to property damage, personal injury or acts or omissions by the Company, its employees, agents or representatives. In addition, from time to time the Company has made guarantees regarding the performance of its systems to its customers. The majority of these agreements do not limit the maximum potential future payments the Company could be obligated to make. The Company evaluates and estimates potential losses from such indemnification based on the likelihood that the future event will occur. To date, the Company has not incurred any material costs as a result of such obligations and has not accrued any material liabilities related to such indemnification and guarantees in the Company’s financial statements.

 

The Company is subject to legal proceedings, claims and litigation arising in the ordinary course of business. The Company defends itself vigorously against any such claims. Although the outcome of these matters is currently not determinable, management does not expect that the amounts of losses and other costs to resolve these matters will have a material adverse effect on its consolidated financial position, results of operations or cash flows.

 

NOTE 17.Significant Customers and Geographic Information

 

The Company operates in a single segment, in which it provides imagery and imagery information products and services to customers around the world. The Company uses common infrastructure and technology to collect, process and distribute its imagery products and services to all customers. The Company measures performance based on consolidated operating results and achievement of individual performance goals.

 

We have organized our sales leadership and marketing efforts around U.S. Government and Diversified Commercial customer groups. Revenue recognized for products or services provided to U.S. Government customers consists primarily of the EnhancedView Service Level Agreement (“EnhancedView SLA”) with the United States National Geospatial-Intelligence Agency (“NGA”), amortization of pre-FOC payments related to the NextView agreement with the NGA, and other value added services. Diversified Commercial consists of revenue generated from the following types of customers: Direct Access Program (“DAP”), other international defense and intelligence, international civil government, LBS, energy, and other industry verticals.  

 

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The following table summarizes revenue for these two groups:

 

We classify revenue geographically according to the ship to address. U.S. and international revenue was as follows:

 

 

 

 

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ITEM 2.  MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

 

SPECIAL NOTE REGARDING FORWARD-LOOKING STATEMENTS

 

Certain statements contained herein and other of our reports, filings, and public announcements may contain or incorporate forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, as amended. Forward-looking statements relate to future events or our future financial performance. We generally identify forward-looking statements by terminology such as “may,” “will,” “should,” “expects,” “plans,” “anticipates,” “could,” “intends,” “target,” “projects,” “contemplates,” “believes,” “estimates,” “predicts,” “potential” or “continue” or the negative of these terms or other similar words, although not all forward-looking statements contain these words.

 

Any forward-looking statements are based upon our historical performance and on our current plans, estimates and expectations. The inclusion of this forward-looking information should not be regarded as a representation by us that the future plans, estimates or expectations will be achieved. Such forward-looking statements are subject to various risks and uncertainties and assumptions. A number of important factors could cause our actual results or performance to differ materially from those indicated by such forward looking statements, including: the loss, reduction or change in terms of any of our primary contracts or decisions by customers not to exercise renewal options; the availability of government funding for our products and services both domestically and internationally; changes in government and customer priorities and requirements (including cost-cutting initiatives, the potential deferral of awards, terminations or reduction of expenditures to respond to the priorities of Congress and the administration, or budgetary cuts resulting from Congressional committee recommendations or automatic sequestration under the Budget Control Act of 2011); the risk that U.S. government sanctions against specified companies and individuals in Russia may limit our ability to conduct business with potential or existing customers; the outcome of pending or threatened litigation; the loss or impairment of any of our satellites; delays in the construction and launch of any of our satellites or our ability to achieve and maintain full operational capacity of all our satellites; delays in implementation of planned ground system and infrastructure enhancements; loss or damage to the content contained in our ImageLibrary; interruption or failure of our ground system and other infrastructure; decrease in demand for our imagery products and services; increased competition, including possibly from companies with substantial financial and other resources and services, that may reduce our market share or cause us to lower our prices; our inability to fully integrate acquisitions or to achieve planned synergies; changes in satellite imaging technology; our failure to obtain or maintain required regulatory approvals and licenses; changes in U.S. or foreign law or regulation that may limit our ability to distribute our imagery products and services; the costs associated with being a public company; and other important factors, all as described more fully in our filings with the U.S. Securities and Exchange Commission, including our Annual Report on Form 10-K for the year ended December 31, 2014.

 

We undertake no obligation to update any forward-looking statement to reflect events or circumstances after the date on which the statement is made or to reflect the occurrence of unanticipated events. Readers are cautioned not to place undue reliance on any of these forward looking statements.

 

References in this filing to “DigitalGlobe,” “Company,” “we,” “us,” and “our” refer to DigitalGlobe, Inc. and its consolidated subsidiaries.

 

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Overview

 

DigitalGlobe is a leading global provider of geospatial information products and services sourced from our own advanced satellite constellation and third party providers.  Our products and services support users in a wide variety of fields including defense, intelligence and homeland security, mapping and analysis, environmental monitoring, oil and gas exploration and infrastructure management.  Each day users depend on DigitalGlobe’s data, information, technology and expertise to better understand our changing planet in order to save lives, resources and time. 

 

Our principal customers include U.S. and foreign governments, LBS providers, and those in energy and other industry verticals. The imagery that forms the foundation of our products, services and analysis is collected daily from our constellation of high-resolution imaging satellites and maintained in our ImageLibrary.

 

We believe that our ImageLibrary is the largest, most up-to-date and comprehensive archive of high-resolution earth imagery commercially available, containing more than 5.9 billion square kilometers of imagery, an area the equivalent of 39 times the landmass of the earth, accumulated since 1999. As of June 30, 2015, our collection capacity capability was approximately 1.4 billion square kilometers of imagery per year, or the equivalent of roughly 9 times the earth’s land surface area, and offers intraday revisit around the globe.

 

2015 Highlights

 

Re-engineering and Restructuring Plan

 

In February 2015, the Company initiated a re-engineering and restructuring plan intended to improve our operational efficiency, which we expect to complete in the first quarter of 2016.

 

Restructuring charges represent costs incurred to reduce global headcount and rationalize our real estate footprint. The Company may incur up to approximately $10.0 million as a result of these efforts. For the three and six months ended June 30, 2015, we have incurred $0.4 million and $2.6 million of restructuring charges, respectively.

 

Other Re-engineering charges represent costs incurred to realize efficiencies from reducing internal and contractor headcount, such as re-engineering processes and enhancing system workflows, as well as costs related to the decision to proactively decommission IKONOS. The Company may incur up to approximately $5.0 million as a result of these efforts. For each of the three and six months ended June 30, 2015, we have incurred $0.4 million of other re-engineering charges.

 

Benefits resulting from our restructuring and other re-engineering efforts are expected to be achieved by the end of the first quarter of 2016. These benefits, however, may be partially offset by higher operating costs associated with growth in our business.

 

Share Repurchase Program

 

In the second half of 2014, the Company’s Board of Directors authorized a program to repurchase up to $205.0 million of the Company’s outstanding common stock through December 31, 2015.  As of June 30, 2015, we have repurchased a total of 4,811,486 shares at an average purchase price of $28.87, for a total of $138.9 million under the program, including broker transaction fees and commissions.

 

Recent Satellite Developments

 

During the first quarter of 2015, we removed WorldView-4 from storage to commence work on certain necessary enhancements. On commencement of the work, we also began capitalizing interest to the satellite. We intend to launch WorldView-4 and place the satellite into service in mid-2016 for additional capacity as a result of anticipated incremental growth opportunities.

 

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Vricon Joint Venture

 

In May 2015, we entered into a joint venture, Vricon, Inc., to produce photo-realistic 3D products and digital elevation models globally for enterprise and government geospatial markets, accessible through a unique visualization platform and standard based data formats.

 

Results of Operations

 

We operate in a single segment in which we use a common infrastructure and technology to collect, process and distribute imagery products and services to customers around the world. The following tables summarize our results of operations:

 

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* Not meaningful

 

The following table summarizes our expenses as a percentage of total revenue:

 

During the first quarter of 2015, changes in certain reporting relationships between our Chief Operating Decision Maker (“CODM”) and other members of management took place. As a result of those changes, we are in the process of modifying our internal reporting to provide information to the CODM and certain of his direct reports consistent with a revised management structure.

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Accordingly, during 2015 we expect to reevaluate the definition of our operating segments, reportable segments, and reporting units. This reevaluation could result in changes to our reportable segments. It also could result in the reallocation of goodwill to reporting units. If we reallocate goodwill during an interim reporting period we will perform an interim goodwill impairment test at that time, as required by U.S. GAAP. 

 

Revenue

 

Our principal source of revenue is the licensing of earth imagery products and provision of other services to end users, resellers and partners.  We have organized our sales leadership and marketing efforts around U.S. Government and Diversified Commercial customer groups. Revenue recognized for services provided to U.S. Government customers consists primarily of the EnhancedView SLA, amortization of pre-FOC payments related to the NextView agreement and other value added services. Diversified Commercial consists of revenue generated from the following types of customers: DAP, other international defense and intelligence, international civil government, LBS, energy, and other industry verticals. 

 

U.S. Government

 

The NGA purchases our imagery products and services on behalf of various U.S. Government entities, including the military and other agencies. We also sell to other U.S. defense and intelligence customers, including defense and intelligence contractors, providing value-added services with our imagery to deliver a final end product to a customer. We sell to the U.S. Government primarily through direct sales, with sales arising from contractor relationships to a lesser extent, and we expect this trend to continue.

 

Our U.S. Government customers focus on image quality, including resolution, accuracy, spectral diversity, frequency of area revisit and coverage, as well as ensuring availability of a certain amount of our capacity as they integrate our products and services into their operational planning. Our customers typically operate under contracts with purchase commitments through which we receive monthly or quarterly payments in exchange for delivering specific orders to the customer. Revenue from customers in the U.S. Government has historically been largely from service level agreements and tasking orders, with a smaller portion from sales of imagery from our ImageLibrary.

 

U.S. Government revenue increased $17.6 million, or 18.4%, and $34.8 million, or 18.0%, for the three and six months ended June 30, 2015, respectively, compared to the three and six months ended June 30, 2014, respectively. EnhancedView SLA revenue increased as a result of WorldView-3 becoming fully operational on October 1, 2014, which increased constellation capacity made available to the NGA. Other revenue and value added services decreased primarily due to a decrease in non-cash amortization of Global Enhanced GEOINT Delivery deferred revenue.  Additionally, there was a decrease in the non-cash amortization of pre-FOC payments related to NextView, as the period over which these payments are amortized was extended to reflect the new useful life of WorldView-1. 

 

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Diversified Commercial

 

 

 

Our Diversified Commercial customers are located throughout the world, a majority of which purchase our products and services through contracts that span one or more years, which may include one-time data deliveries, depending on the solution that best suits their application. We sell to these customers through a combination of direct sales and through resellers.

 

We have DAP agreements in 10 countries, earning revenue from sales of the DAP facility hardware and software, as well as from service fees to access our satellite constellation. Other diversified commercial revenue is generated from customers in international defense and intelligence, international civil government, LBS, energy, and other industry verticals, who use our content for mapping, monitoring, analysis and planning activities.

 

Diversified Commercial revenue increased $2.6 million, or 4.2%, for the three months ended June 30, 2015 compared to the three months ended June 30, 2014. The increase in DAP revenue resulted primarily from additional image deliveries and access minutes to meet customer demands. Other diversified commercial increased primarily from international civil government revenue and growth within our energy and other industry verticals, partially offset by lower revenue from LBS customers.

 

Diversified Commercial revenue decreased $1.7 million, or 1.4%, for the six months ended June 30, 2015 compared to the six months ended June 30, 2014. DAP revenue decreased primarily due to the timing of contract renewals, partially offset by additional image deliveries and access minutes to meet customer demands. Other diversified commercial decreased primarily due to lower revenue from LBS and Russia customers, partially offset by growth within our energy and other industry verticals.

 

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Expenses

 

Cost of Revenue

 

The following table summarizes our cost of revenue, excluding depreciation and amortization:

 

 

There is not a significant direct relationship between our cost of revenue and changes in our revenue. Our cost of revenue consists primarily of the cost of personnel, as well as the costs of operating our satellites, retrieving information from the satellites and processing the data retrieved. 

 

Cost of revenue decreased $3.9 million, or 9.5%, for the three months ended June 30, 2015 compared to the three months ended June 30, 2014. Labor and labor related costs and consulting and professional fees decreased primarily as a result of our restructuring efforts.  Facilities, subcontracting and equipment costs decreased approximately $2.7 million in connection with our restructuring efforts, partially offset by $0.8 million in remote ground terminal service fees following the launch and commissioning of WorldView-3. Aerial imagery is amortized on an accelerated basis and consists of costs associated with previously purchased aerial imagery.

 

Cost of revenue decreased $4.1 million, or 5.1%, for the six months ended June 30, 2015 compared to the six months ended June 30, 2014. Labor and labor related costs and consulting and professional fees decreased primarily as a result of our restructuring efforts.  Facilities, subcontracting and equipment costs decreased approximately $4.5 million in connection with our restructuring efforts, partially offset by $2.2 million in remote ground terminal service fees following the launch and commissioning of WorldView-3 and $1.6 million in WorldView-4 storage costs.  Aerial imagery is amortized on an accelerated basis and consists of costs associated with previously purchased aerial imagery.

 

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Selling, General and Administrative

 

The following table summarizes our selling, general and administrative expenses:

 

 

 

Selling, general, and administrative expenses decreased $5.5 million, or 9.4%, for the three months ended June 30, 2015 compared to the three months ended June 30, 2014. Labor and labor related costs and consulting and professional fees decreased primarily as a result of our restructuring efforts. The increase in rent and facilities represents costs associated with our new headquarters, as we are in the process of consolidating our real estate footprint.  Satellite insurance increased $1.1 million as a result of WorldView-3 insurance, partially offset by a decrease in current year rates to insure our other in-orbit satellites.   

 

Selling, general, and administrative expenses decreased $1.5 million, or 1.3%, for the six months ended June 30, 2015 compared to the six months ended June 30, 2014. Labor and labor related costs increased primarily as a result of annual compensation increases, partially offset by the impact of our restructuring efforts. Consulting and professional fees decreased as a result of our restructuring efforts and a reduced need for services to support the acquisition of GeoEye. The increase in rent and facilities represents costs associated with our new headquarters, as we are in the process of consolidating our real estate footprint.  Satellite insurance increased $2.3 million as a result of WorldView-3 insurance, partially offset by a decrease in current year rates to insure our other in-orbit satellites.

 

Depreciation and Amortization

 

 

Depreciation and amortization increased $10.5 million, or 18.2%, for the three months ended June 30, 2015 compared to the three months ended June 30, 2014 due to $14.1 million in depreciation expense incurred following the launch and commissioning of WorldView-3 and a $4.2 million increase in hardware and software expense, primarily from assets placed into service since the third quarter of 2014, partially offset by a $7.1 million decrease in depreciation expense as a result of the extension of the useful lives of our WorldView-1 and WorldView-2 satellites.

 

Depreciation and amortization expense increased $20.2 million, or 17.5%, for the six months ended June 30, 2015 compared to the six months ended June 30, 2014 due to $28.2 million in depreciation expense incurred following the launch and commissioning of WorldView-3 and a $7.1 million increase in hardware and software expense, primarily from assets placed into service since the third quarter of 2014, partially offset by a $14.2 million decrease in depreciation expense as a result of the extension of the useful lives of our WorldView-1 and WorldView-2 satellites.

 

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Restructuring Charges

 

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* Not meaningful

 

In February 2015, the Company initiated a restructuring plan intended to improve our operational efficiency. Under the restructuring plan, the Company expects to reduce global headcount and rationalize its real estate footprint.  Restructuring charges incurred in 2015 relate to this plan.

 

Restructuring charges in 2014 were incurred in conjunction with our acquisition of GeoEye to optimize our operational efficiency by realigning our infrastructure with customer demand. We believe that the restructuring enhanced our ability to provide cost-effective customer service offerings, which enabled us to retain and expand our existing relationships with customers and attract new business. These restructuring activities primarily consisted of reducing redundant workforce, consolidating office and production facilities, consolidating certain ground terminals and systems and other exit costs.

 

Interest Expense, net

 

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* Not meaningful

 

Our interest charges consist primarily of expense on borrowings used to finance satellite construction, which are capitalized as a cost of our satellite construction. 

 

Interest expense, net of capitalized interest and interest income, increased $5.4 million for the three months ended June 30, 2015 primarily as a result of 63.1% of our interest being capitalized to capital projects during the three months ended June 30, 2015 compared to 100.0% during the three months ended June 30, 2014.

 

Interest expense, net of capitalized interest and interest income, increased $18.1 million for the six months ended June 30, 2015 primarily as a result of 38.7% of our interest being capitalized to capital projects during the six months ended June 30, 2015 compared to 99.7% during the six months ended June 30, 2014.

 

Following the launch and commissioning of our WorldView-3 satellite on October 1, 2014, we are no longer capitalizing interest on the cost basis of the satellite. Additionally, we did not capitalize interest on the cost basis of WorldView-4 while the satellite was in storage until mid-March 2015.

 

Income Tax (Expense) Benefit

 

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* Not meaningful

 

The effective tax rates for the three and six months ended June 30, 2015 were 40.3% and 27.9%, respectively, differing from the statutory federal rate of 35.0% primarily as a result of the impact of certain discrete items. The income tax benefits recognized for each of the three and six months ended June 30, 2014 were primarily due to a change in the estimated annual effective tax rate and release of tax reserves upon completion of an IRS audit. 

 

 

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Backlog

 

The following table represents our backlog as of June 30, 2015.  “Next 12 Months” backlog refers to the backlog expected to be recognized as revenue during the period between July 1, 2015 and June 30, 2016.

 

 

 

Backlog consists of all contractual commitments, including those under the anticipated ten-year term of the EnhancedView Contract with the NGA, amounts committed under DAP agreements, firm orders, minimum commitments under signed customer contracts, remaining pre-paid subscriptions, firm fixed price reimbursement,  and funded and unfunded task orders from our customers. Our backlog also includes amounts of obligated funding on indefinite delivery/indefinite quantity (“IDIQ”) contracts for products and services that we believe we are qualified to provide.

 

The EnhancedView Contract is structured as a ten-year term, inclusive of nine annual renewal options that may be exercised by the NGA. Although the NGA may terminate the contract at any time and is not obligated to exercise any of the remaining five renewal options, we include the full remaining term in backlog.  We believe it is the NGA’s intention to exercise the remaining options, subject only to annual Congressional appropriation of funding and the federal budget process.  Such funding contains an inherent level of uncertainty in the current budget environment. 

 

The amortization of pre-FOC payments related to our NextView agreement with the NGA is recognized over the expected useful life of WorldView-1.  The recognition of this revenue has no effect on our ability to generate additional revenue from the usage of the satellite, and we do not consider it a reduction in our capacity to generate additional sales.

 

Although backlog reflects business that is considered to be firm, terminations, amendments or cancellations may occur, which could result in a reduction in our total backlog. In addition, failure to receive task orders under IDIQ contracts could also result in a reduction in our total backlog. Any such terminations, amendments or cancellations of contractual commitments, or failure to receive task orders under IDIQ contracts may also negatively impact the timing of our realization of backlog.

 

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Balance Sheet Measures

 

Total assets decreased $79.5 million, or 2.6%, primarily due to a decrease in property, plant and equipment, net as a result of current quarter depreciation, partially offset by costs incurred related to WorldView-4, our new headquarters and various other infrastructure projects. 

 

Total liabilities decreased $29.1 million, or 1.7%, due to a $40.2 million decrease in deferred revenue primarily related to current year recognition of U.S. government revenue, partially offset by a $12.9 million increase in other liabilities primarily associated with our new headquarters.

 

Liquidity and Capital Resources

 

As of June 30, 2015, we had $135.0 million in cash and cash equivalents and $150.0 million available for borrowing under our Revolving Credit Facility.  We believe that the combination of funds currently available to us and funds expected to be generated from operations will be adequate to finance our operations and development activities for the next twelve months.

 

If the U.S. Government, our largest customer, was not to renew or extend the EnhancedView SLA at similar levels or similar terms, we believe we would be able to maintain operations at a reduced level with existing cash and cash equivalents and borrowings under our Revolving Credit Facility for at least the next twelve months. We believe we are adequately reserved for all credit risks, including risks related to receivables denominated in U.S. dollars from foreign customers experiencing fluctuations in the value of their local currencies. Further fluctuations in the value of our customers’ local currencies may impact future results. 

 

In summary, our cash flows were:

 

 

Operating Activities

 

Cash provided by operating activities increased $50.7 million, or 50.1%, primarily due to a $29.5 million net increase in cash from changes in working capital primarily driven by $27.5 million in accounts receivable and $18.1 million in accrued liabilities, partially offset by a $15.7 million decrease in deferred revenue, as well as a $20.2 million increase in net income adjusted for depreciation and amortization expense.

 

Investing Activities

 

Cash used in investing activities decreased $77.8 million, or 51.9%, primarily due to the acquisition of Spatial Energy, net of cash acquired, in the first quarter of 2014 totaling $35.7 million, and a decrease in capital expenditures primarily resulting from placing our WorldView-3 satellite into service in August 2014. During the first quarter of 2015, we removed WorldView-4 from storage to commence work on certain enhancements. We expect to make capital expenditures on our WorldView-4 satellite until its completion and launch, which we anticipate to be in mid-2016.

 

Financing Activities

 

Cash used in financing activities increased $60.0 million primarily due to $63.8 million in spend as part of our share repurchase program.  

 

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Non-U.S. GAAP Financial Measures

 

Reconciliation of Net Cash Flows Provided by Operating Activities to Free Cash Flow

 

 

Free cash flow is defined as net cash flows provided by operating activities less net cash flows used in investing activities (excluding acquisition of businesses, net of cash acquired).  Free cash flow is not a recognized term under U.S. GAAP and may not be defined similarly by other companies.  Free cash flow should not be considered an alternative to “operating income (loss),” “net income (loss),” “net cash flows provided by (used in) operating activities” or any other measure determined in accordance with U.S. GAAP.  Since free cash flow includes investments in operating assets, we believe this non-GAAP liquidity measure is useful in addition to the most comparable U.S. GAAP measure — “net cash flows provided by (used in) operating activities” because it provides information about the amount of cash generated before acquisitions of businesses that is then available to repay debt obligations, make investments, fund acquisitions, and for certain other activities.  There are limitations to using non-U.S. GAAP financial measures, including the difficulty associated with comparing companies in different industries that use similar performance measures whose calculations may differ from ours.

 

Reconciliation of Net Income to EBITDA and Adjusted EBITDA

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EBITDA and Adjusted EBITDA are not recognized terms under U.S. GAAP and may not be defined similarly by other companies. EBITDA and Adjusted EBITDA should not be considered alternatives to net income as indications of financial performance or as alternatives to cash flow from operations as measures of liquidity. There are limitations to using non-U.S. GAAP financial measures, including the difficulty associated with comparing companies in different industries that use similar performance measures whose calculations may differ from ours.

 

EBITDA and Adjusted EBITDA are key measures used in our internal operating reports by management and our Board of Directors to evaluate the performance of our operations and are also used by analysts, investment banks and lenders for the same purpose. EBITDA, excluding certain restructuring and other re-engineering costs, is a measure being used as a key element of the company-wide bonus incentive plan.

 

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We believe that the presentation of EBITDA and Adjusted EBITDA enables a more consistent measurement of period to period performance of our operations, and EBITDA facilitates comparison of our operating performance to companies in our industry. We believe that EBITDA and Adjusted EBITDA measures are particularly important in a capital intensive industry such as ours, in which our current period depreciation is not a good indication of our current or future period capital expenditures. The cost to construct and launch a satellite and to build the related ground infrastructure may vary greatly from one satellite to another, depending on the satellite’s size, type and capabilities. Current depreciation expense is not indicative of the revenue generating potential of the satellites.

 

EBITDA excludes interest income, interest expense and income taxes because these items are associated with our capitalization and tax structures. EBITDA also excludes depreciation and amortization expense because these non-cash expenses reflect the impact of prior capital expenditure decisions which are not indicative of future capital expenditure requirements.

 

Adjusted EBITDA further adjusts EBITDA to exclude the loss on abandonment of asset because this is not related to our primary operations. Additionally, it excludes restructuring, other re-engineering and integration costs, as these are non-core items. Restructuring charges incurred in 2014 are costs incurred to realize efficiencies from the acquisition of GeoEye, such as reducing excess workforce, consolidating facilities and systems, and relocating ground terminals. Restructuring charges incurred in 2015 relate to our re-engineering and restructuring plan announced in February 2015, pursuant to which the Company expects to reduce global headcount and rationalize our real estate footprint.  Other Re-engineering charges are associated with the restructuring plan announced in February 2015 and represent costs incurred to realize efficiencies from reducing internal and contractor headcount, such as re-engineering processes and enhancing system workflows, as well as costs related to the decision to proactively decommission IKONOS. Integration costs consist primarily of professional fees incurred to assist us with system and process improvements associated with integrating operations as part of the GeoEye acquisition.

 

We use EBITDA and Adjusted EBITDA in conjunction with traditional U.S. GAAP operating performance measures as part of our overall assessment of our performance and we do not place undue reliance on these non-GAAP measures as our only measures of operating performance. EBITDA and Adjusted EBITDA should not be considered as substitutes for other measures of financial performance reported in accordance with U.S. GAAP.

 

Off-Balance Sheet Arrangements, Contractual Obligations, Guaranty and Indemnification Obligations

 

Off-Balance Sheet Arrangements

 

We had no off-balance sheet arrangements as of June 30, 2015.

 

Contractual Obligations

 

As of June 30, 2015, there were no significant changes to the contractual obligations table presented in our Annual Report on Form 10-K for the year ended December 31, 2014.

 

Guaranty and Indemnification Obligations

 

We enter into agreements in the ordinary course of business with resellers and others. Most of these agreements require us to indemnify the other party against third-party claims alleging that one of our products infringes or misappropriates a patent, copyright, trademark, trade secret or other intellectual property right. Certain of these agreements require us to indemnify the other party against claims relating to property damage, personal injury or acts or omissions by us, our employees, agents or representatives. In addition, from time to time we have made guarantees regarding the performance of our systems to our customers.

 

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Critical Accounting Policies and Estimates

 

The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the amounts reported in these Unaudited Condensed Consolidated Financial Statements. Due to the inherent uncertainties in making estimates, actual results could differ materially from those estimates.

 

Refer to the critical accounting policies under Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the year ended December 31, 2014, where we discuss our significant judgments and estimates. We have made no significant changes to our critical accounting policies and estimates from those described in our Annual Report on Form 10-K for the year ended December 31, 2014.

 

Recent Accounting Pronouncements

 

See Note 2 “Summary of Significant Accounting Policies” to the Unaudited Condensed Consolidated Financial Statements for a full description of recent accounting pronouncements and our expectation of their impact on our Consolidated Financial Statements.

 

ITEM 3.  QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

 

There have been no significant changes in our exposure to market risk since December 31, 2014. Refer to Item 7A “Quantitative and Qualitative Disclosures about Market Risk” in our Annual Report on Form 10-K for the year ended December 31, 2014 for further detail.

 

ITEM 4.  CONTROLS AND PROCEDURES

 

Conclusion Regarding the Effectiveness of Disclosure Controls and Procedures

 

Under the supervision and with the participation of our management, including our chief executive officer and chief financial officer (our principal executive officer and our principal financial officer, respectively), we have evaluated the effectiveness of our disclosure controls and procedures (as defined in Securities Exchange Act Rule 13a-15(e)) as of June 30, 2015. Based upon that evaluation, the chief executive officer and chief financial officer have concluded that our disclosure controls and procedures were effective as of June 30, 2015.

 

Changes in Internal Control over Financial Reporting

 

There have been no changes in the Company’s internal control over financial reporting during the period covered by this report that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.

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PART II OTHER INFORMATION

 

ITEM 1.  LEGAL PROCEEDINGS

 

From time to time, we are a party to various litigation matters incidental to the conduct of our business. We are not presently party to any legal proceedings the resolution of which, we believe, would have a material adverse effect on our business, operating results, financial condition or cash flows.

 

ITEM 1A.  RISK FACTORS

 

Investment in our securities involves risk. In addition to the information set forth in this Form 10-Q, you should carefully consider the risk factors described under the caption “Risk Factors” in our Annual Report on Form 10-K filed with the SEC on February 26, 2015. There have been no material changes to our Risk Factors from those included in our Annual Report on Form 10-K.

 

ITEM 2.  UNREGISTERED SALES OF EQUITY SECURITIES AND USE OF PROCEEDS

 

In the second half of 2014, the Company’s Board of Directors authorized a program to repurchase up to $205.0 million of the Company’s outstanding common stock through December 31, 2015.  As of June 30, 2015, we have repurchased 4,811,486 shares at an average purchase price of $28.87, for a total of $138.9 million under the program,  including broker transaction fees and commissions. The Company may repurchase shares through open market purchases, privately negotiated transactions, structured or derivative transactions such as puts, calls, options, forwards, collars, accelerated share repurchase transactions (with or without collars), other equity contracts or other methods of acquiring shares and pursuant to Rule 10b5-1, in each case on such terms and at such times as shall be permitted by applicable securities laws and determined by management.  The stock repurchase program does not obligate the Company to acquire any stock, and it may be limited or terminated at any time without notice. Share repurchase activity during the quarter ended June 30, 2015 was as follows:

 

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ITEM 3.  DEFAULTS UPON SENIOR SECURITIES

 

None.

 

ITEM 4.  MINE SAFETY DISCLOSURES

 

Not applicable.

 

ITEM 5.  OTHER INFORMATION

 

None.

 

ITEM 6.  EXHIBIT INDEX

 

The exhibits listed in the Exhibit Index (following the signatures page of this Form 10-Q) are filed with, or incorporated by reference in, this Form 10-Q.

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SIGNATURE

 

DIGITALGLOBE, INC.

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.