TMCnet News
GLOBALSTAR, INC. - 10-Q - Management's Discussion and Analysis of Financial Condition and Results of Operations Forward-Looking Statements(Edgar Glimpses Via Acquire Media NewsEdge) Certain statements contained in or incorporated by reference into this Report, other than purely historical information, including, but not limited to, estimates, projections, statements relating to our business plans, objectives and expected operating results, and the assumptions upon which those statements are based, are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements generally are identified by the words "believe," "project," "expect," "anticipate," "estimate," "intend," "strategy," "plan," "may," "should," "will," "would," "will be," "will continue," "will likely result," and similar expressions, although not all forward-looking statements contain these identifying words. These forward-looking statements are based on current expectations and assumptions that are subject to risks and uncertainties which may cause actual results to differ materially from the forward-looking statements. Forward-looking statements, such as the statements regarding our ability to develop and expand our business, our anticipated capital spending, our ability to manage costs, our ability to exploit and respond to technological innovation, the effects of laws and regulations (including tax laws and regulations) and legal and regulatory changes, the opportunities for strategic business combinations and the effects of consolidation in our industry on us and our competitors, our anticipated future revenues, our anticipated financial resources, our expectations about the future operational performance of our satellites (including their projected operational lives), the expected strength of and growth prospects for our existing customers and the markets that we serve, commercial acceptance of new products, problems relating to the ground-based facilities operated by us or by independent gateway operators, worldwide economic, geopolitical and business conditions and risks associated with doing business on a global basis and other statements contained in this Report regarding matters that are not historical facts, involve predictions. Risks and uncertainties that could cause or contribute to such differences include, without limitation, those described in our Annual Report on Form 10-K for the fiscal year ended December 31, 2013. New risk factors emerge from time to time, and it is not possible for us to predict all risk factors, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. We undertake no obligation to update publicly or revise any forward-looking statements. You should not rely upon forward-looking statements as predictions of future events or performance. We cannot assure you that the events and circumstances reflected in the forward-looking statements will be achieved or occur. These cautionary statements qualify all forward-looking statements attributable to us or persons acting on our behalf. This "Management's Discussion and Analysis of Financial Condition" should be read in conjunction with the "Management's Discussion and Analysis of Financial Condition" and information included in our Annual Report on Form 10-K for the year ended December 31, 2013. Overview Globalstar, Inc. ("we," "us" or "the Company") provides Mobile Satellite Services ("MSS") including voice and data communications services globally via satellite. By providing wireless communications services in areas not served or underserved by terrestrial wireless and wireline networks and in circumstances where terrestrial networks are not operational due to natural or man-made disasters, we seek to meet our customers' increasing desire for connectivity. We offer voice and data communication services over our network of in-orbit satellites and our active ground stations (or "gateways"), which we refer to collectively as the Globalstar System. In 2006 we began a process of designing, manufacturing and deploying a second-generation constellation of Low Earth Orbit ("LEO") satellites to replace our first-generation constellation. Our second-generation constellation is designed to last twice as long in space, have greater capacity and be built at a significantly lower cost compared to our first-generation satellites. We have integrated all of the new second-generation satellites with certain of our first-generation satellites to form our second-generation constellation. The restoration of our constellation's Duplex capabilities was complete after the final second-generation satellite was placed into service in August 2013. The restoration of Duplex capabilities has resulted in a substantial increase in service levels, making our products and services more desirable to existing and potential customers. Existing subscribers continue to utilize our service more, measured by minutes of use on the Globalstar System year over year, a trend that we expect to continue. We are gaining new customers and winning back former customers, which continue to contribute to increases in Duplex revenue. We offer a range of price-competitive products to the industrial, governmental and consumer markets. Due to the unique design of the Globalstar System (and based on customer input), we believe that we offer the best voice quality among our peer group. We define a successful level of service for our customers as measured by their ability to make uninterrupted calls of average duration for a system-wide average number of minutes per month. Our goal is to provide service levels and call success rates equal to or better than our MSS competitors so our products and services are attractive to potential customers. We define voice quality as the ability to easily hear, recognize and understand callers with imperceptible delay in the transmission. Due to the unique design of the Globalstar System, by this measure our system outperforms geostationary ("GEO") satellites used by some of our 33 -------------------------------------------------------------------------------- competitors. Due to the difference in signal travel distance, GEO satellite signals must travel approximately 42,000 additional nautical miles, which introduces considerable delay and signal degradation to GEO calls. For our competitors using cross-linked satellite architectures, which require multiple inter-satellite connections to complete a call, signal degradation and delay can result in compromised call quality as compared to that experienced over the Globalstar System. We compete aggressively on price. In 2004 we were the first MSS company to offer bundled pricing plans that we adapted from the terrestrial wireless industry. We expect to continue to innovate and retain our position as the low cost, high quality leader in the MSS industry. Our satellite communications business, by providing critical mobile communications to our subscribers, serves principally the following markets: recreation and personal; government; public safety and disaster relief; oil and gas; maritime and fishing; natural resources, mining and forestry; construction; utilities; and transportation. At September 30, 2014, we served approximately 620,000 subscribers. We increased our net subscribers 9% from September 30, 2013 to September 30, 2014. In 2014 we initiated a process to deactivate subscribers in our Duplex subscriber base who were either suspended or non-paying. We deactivated approximately 26,000 subscribers during the first quarter of 2014. Excluding these deactivated subscribers from our September 30, 2013 subscriber count, total subscribers would have increased 14% from September 30, 2013 to September 30, 2014. We count "subscribers" based on the number of devices that are subject to agreements which entitle them to use our voice or data communications services rather than the number of persons or entities who own or lease those devices. We currently provide the following communications services via satellite that are available only with equipment designed to work on our network: • two-way voice communication and data transmissions, which we call "Duplex," using mobile or fixed devices; and • one-way data transmissions using a mobile or fixed device that transmits its location and other information to a central monitoring station, which includes certain SPOT and Simplex products. We designed our second-generation constellation to support our current lineup of Duplex, SPOT and Simplex products. With the improvement in both coverage and service quality for our Duplex product offerings resulting from the deployment of our second-generation constellation, we anticipate further expansion of our subscriber base and increases in our average revenue per user, or "ARPU." Our products and services are sold through a variety of independent agents, dealers and resellers, and independent gateway operators ("IGOs"). Our success in marketing these products and services is enhanced through diversification of our distribution channels, consumer and commercial markets, and product offerings. Performance Indicators Our management reviews and analyzes several key performance indicators in order to manage our business and assess the quality of and potential variability of our earnings and cash flows. These key performance indicators include: • total revenue, which is an indicator of our overall business growth; • subscriber growth and churn rate, which are both indicators of the satisfaction of our customers; • average monthly revenue per user, or ARPU, which is an indicator of our pricing and ability to obtain effectively long-term, high-value customers. We calculate ARPU separately for each type of our Duplex, Simplex, SPOT and IGO revenue; • operating income and adjusted EBITDA, which are both indicators of our financial performance; and • capital expenditures, which are an indicator of future revenue growth potential and cash requirements. Comparison of the Results of Operations for the three and nine months ended September 30, 2014 and 2013 Revenue: Three and Nine Months Total revenue increased by $0.9 million, or approximately 4%, to $23.4 million for the three months ended September 30, 2014 from $22.5 million for the three months ended September 30, 2013. This increase was due primarily to a $1.5 million increase in service revenue which was partially offset by a $0.6 million decrease in revenue from subscriber equipment sales. Total revenue increased by $6.3 million, or approximately 10%, to $68.0 million for the nine months ended September 30, 2014 from $61.7 34 -------------------------------------------------------------------------------- million for the nine months ended September 30, 2013. This increase was due primarily to a $4.8 million increase in service revenue and, to a lesser extent, a $1.5 million increase in revenue from subscriber equipment sales. The primary driver for the increase in service revenue for both the three and nine month periods was growth in Duplex service revenue as we continue to see increases in new subscriber activations corresponding to equipment sales over the past 12 months. Demand for our Duplex products and services has continued as we successfully completed the restoration of our second-generation constellation in August 2013 by placing our last second-generation satellite into commercial service. The decrease in revenue from equipment sales for the third quarter of 2014 was due primarily to declining sales of our Duplex and Simplex products. Higher volume Duplex sales during the third quarter of 2013 resulted from initial channel distribution following the release of the SPOT Global Phone in the second quarter of 2013. The decline in Simplex sales resulted from fluctuations in customer demand from the third quarter of 2013 to the third quarter of 2014. The increase in revenue from equipment sales for the first nine months of 2014 was due primarily to increased demand for our SPOT products, including the SPOT Gen3, and successful penetration of the SPOT Trace, a mass market device released in the fourth quarter of 2013. The success of our SPOT products continues to grow as evidenced in part by improving consumer velocity, which is measured by the number of subscriber activations. The following table sets forth amounts and percentages of our revenue by type of service for the three and nine months ended September 30, 2014 and 2013 (dollars in thousands): Three months ended Three months ended Nine months ended Nine months ended September 30, 2014 September 30, 2013 September 30, 2014 September 30, 2013 % of Total % of Total % of Total % of Total Revenue Revenue Revenue Revenue Revenue Revenue Revenue Revenue Service Revenue: Duplex $ 7,687 33 % $ 6,235 28 % $ 20,504 30 % $ 16,443 27 % SPOT 7,491 32 6,969 31 21,566 32 20,908 34 Simplex 1,986 8 2,147 9 6,078 9 5,596 9 IGO 214 1 251 1 789 1 739 1 Other 1,133 5 1,454 6 3,710 6 4,168 6 Total $ 18,511 79 % $ 17,056 75 % $ 52,647 78 % $ 47,854 77 % The following table sets forth amounts and percentages of our revenue for equipment sales for the three and nine months ended September 30, 2014 and 2013 (dollars in thousands): Three months ended Three months ended Nine months ended Nine months ended September 30, 2014 September 30, 2013 September 30, 2014 September 30, 2013 % of Total % of Total % of Total % of Total Revenue Revenue Revenue Revenue Revenue Revenue Revenue Revenue Equipment Revenues: Duplex $ 1,800 8 % $ 2,124 10 % $ 4,856 7 % $ 5,156 9 % SPOT 1,603 7 1,217 5 4,685 7 3,081 5 Simplex 1,557 7 1,856 8 4,838 7 4,751 8 IGO 130 - 189 1 739 1 665 1 Other (160 ) (1 ) 107 1 206 - 210 - Total $ 4,930 21 % $ 5,493 25 % $ 15,324 22 % $ 13,863 23 % 35--------------------------------------------------------------------------------The following table sets forth our average number of subscribers, ARPU, and ending number of subscribers by type of revenue for the three and nine months ended September 30, 2014 and 2013. The following numbers are subject to immaterial rounding inherent to calculating averages. Three Months Ended Nine Months Ended September 30, September 30, 2014 2013 2014 2013 Average number of subscribers for the period (three and nine months ended): Duplex (1) 63,774 84,821 74,904 84,775 SPOT (2) 232,658 218,416 228,816 230,722 Simplex 269,110 215,691 252,709 202,907 IGO 38,944 39,859 38,995 40,353 ARPU (monthly): Duplex (1) $ 40.18 $ 24.50 $ 30.42 $ 21.55 SPOT (2) 10.73 10.64 10.47 10.07 Simplex 2.46 3.32 2.67 3.06 IGO 1.83 2.10 2.25 2.03 Number of subscribers (end of period): Duplex 65,645 85,219 65,645 85,219 SPOT 235,737 220,363 235,737 220,363 Simplex 274,065 217,655 274,065 217,655 IGO 38,639 39,560 38,639 39,560 Other 5,806 6,631 5,806 6,631 Total 619,892 569,428 619,892 569,428 (1) In 2014 we initiated a process to deactivate certain subscribers in our Duplex subscriber base who were either suspended or non-paying. We deactivated approximately 26,000 subscribers during the first quarter of 2014. For the three and nine months ended September 30, 2013, excluding these 26,000 deactivated subscribers from prior period metrics, average subscribers would have been 58,161 and 58,115, respectively, and ARPU would have been $35.73 and $31.44, respectively. For the nine months ended September 30, 2014, excluding these 26,000 deactivated subscribers from prior period metrics, average subscribers would have been 61,574 and ARPU would have been $37.00. (2) In 2013 we initiated a process to deactivate certain suspended subscribers in our SPOT subscriber base. We deactivated approximately 36,000 subscribers during the first quarter of 2013. For the nine months ended September 30, 2013, excluding these 36,000 deactivated subscribers from prior period metrics, average subscribers would have been 212,672 and ARPU would have been $10.92. Other service revenue includes revenue generated from engineering services and third party sources, which are not subscriber driven. Accordingly, we do not present average subscribers or ARPU for other revenue in the above charts. Service Revenue Three and Nine Months Duplex service revenue increased approximately 23% and 25% for the three and nine months ended September 30, 2014, respectively, compared to the same periods in 2013. The increases in Duplex service revenue were due primarily to growth in our revenue-generating Duplex subscriber base and the continued transition of certain of our Duplex customers to higher rate plans commensurate with our improved service levels. As previously stated, we deactivated approximately 26,000 Duplex subscribers from our network in the first quarter of 2014. Total reported Duplex subscribers decreased 23% from September 30, 2013 to September 30, 2014. Excluding these deactivated subscribers from our September 30, 2013 subscriber count, Duplex subscribers would have increased approximately 12% from September 30, 2013 to September 30, 2014. Duplex equipment units sold in the past 12 months have resulted in new subscribers activating units on our network; these new subscribers contribute to increases in both service revenue and ARPU. We also continue to convert our Duplex customers to higher rate plans, which has resulted in higher churn among lower rate paying subscribers. 36 -------------------------------------------------------------------------------- SPOT service revenue increased 7% and 3% for the three and nine months ended September 30, 2014, respectively, compared to the same periods in 2013. End of period SPOT subscribers increased 7% from September 30, 2013 to September 30, 2014. The growth in our SPOT subscriber base is due to new subscriber activations resulting from equipment sales over the past 12 months. Simplex service revenue decreased 7% and increased 9% for the three and nine month periods ended September 30, 2014 compared to the same periods in 2013. Our end of period Simplex subscribers increased 26% from September 30, 2013 to September 30, 2014. Revenue growth for our Simplex customers is not necessarily commensurate with subscriber growth due to the various competitive pricing plans we offer as well as variations in customer usage. Other revenue decreased approximately 22% and 11% for the three and nine months ended September 30, 2014, respectively, compared to the same periods in 2013. The decrease in other revenue for the three months ended September 30, 2014 compared to the same period in 2013 is due primarily to a decrease in third party revenue as well as the amount of engineering service revenue recognized. While we were manufacturing and deploying our second-generation constellation, we purchased service from other satellite providers, which we re-sold to some of our subscribers. We recorded this revenue in other service revenue as third party revenue. As our coverage is now fully restored, we have begun to transition these subscribers to our network, which has contributed in part to the increase in our Duplex service revenue. As third party revenue decreases, other service revenue will also decrease and Duplex revenue will increase. Equipment Revenue Three Months Revenue from Duplex equipment sales decreased by approximately 15% for the three months ended September 30, 2014 compared to the same period in 2013. We introduced SPOT Global Phone in the second quarter of 2013. The release of this product contributed to higher than usual Duplex sales in the third quarter of 2013 due to initial channel distribution. Revenue from SPOT equipment sales increased 32% for the three months ended September 30, 2014 compared to the same period in 2013. Growth in sales of our SPOT products was due to increased demand for SPOT Gen3, which was released in the third quarter of 2013, and the launch of SPOT Trace during the fourth quarter of 2013. Revenue from Simplex equipment sales decreased approximately 16% for the three months ended September 30, 2014 compared to the same period in 2013. We experienced higher demand for certain of our commercial applications for M2M asset monitoring and tracking devices during the third quarter of 2013. Nine Months Revenue from Duplex equipment sales decreased by approximately 6% for the nine months ended September 30, 2014 compared to the same period in 2013. Driving this decrease was greater demand for the SPOT Global Phone in 2013 following the product's launch in the second quarter of 2013. Revenue from SPOT equipment sales increased 52% for the nine months ended September 30, 2014 compared to the same period in 2013. We introduced SPOT Gen3 in the third quarter of 2013 and SPOT Trace in the fourth quarter of 2013. Market demand for both of these products has contributed to the increase in SPOT equipment revenue during the first nine months of 2014. Revenue from Simplex equipment sales increased approximately 2% for the nine months ended September 30, 2014 compared to the same period in 2013. Operating Expenses: Three and Nine Months Total operating expenses decreased $3.6 million, or approximately 8%, to $41.5 million for the three months ended September 30, 2014 from $45.1 million for the same period in 2013. This decrease is due primarily to lower depreciation expense in the third quarter of 2014 compared to the third quarter of 2013. Total operating expenses increased $9.4 million, or approximately 8%, to $131.7 million for the nine months ended September 30, 2014 from $122.3 million for the same period in 2013. We attribute this increase primarily to a $7.3 million non-cash reduction in the value of inventory related to our former contract with Qualcomm, that we recorded during the second quarter of 2014. 37 -------------------------------------------------------------------------------- Cost of Services Three and Nine Months Cost of services decreased $0.3 million, or approximately 4%, to $7.9 million for the three months ended September 30, 2014 from $8.2 million for the same period in 2013 and decreased $1.0 million, or approximately 4%, to $21.9 million for the nine months ended September 30, 2014 from $22.9 million for the same period in 2013. Cost of services comprises primarily network operating costs, which are generally fixed in nature. As stated above, while we were manufacturing and deploying our second-generation constellation, we purchased service from other satellite providers, which we re-sold to some of our subscribers. We recorded the expense related to this service in cost of services. As we continue to transition these subscribers to our network, this cost will decrease. The decrease in cost of services for the nine months ended September 30, 2014 was due in large part to a reduction in this expense. Over the past 12 months, we have experienced cost savings as a result of our increased focus on monitoring telecommunication service expenses. These decreases were offset partially by increases in multiple expense categories as we expand and update our gateway infrastructure. Cost of Subscriber Equipment Sales Three and Nine Months Cost of subscriber equipment sales decreased $0.3 million, or approximately 8%, to $3.8 million for the three months ended September 30, 2014 from $4.1 million for the same period in 2013 and increased $0.5 million, or approximately 5%, to $11.2 million for the nine months ended September 30, 2014 from $10.7 million for the same period in 2013. The fluctuations in cost of subscriber equipment sales are due primarily to the mix of products sold during the respective periods. Cost of Subscriber Equipment Sales - Reduction in the Value of Inventory Three and Nine Months Cost of subscriber equipment sales - reduction in the value of inventory was $7.3 million during the nine months ended September 30, 2014 due to an impairment charge recorded during the second quarter of 2014 following cancellation of our contract with Qualcomm related to finished goods and raw materials previously accounted for as advances for inventory on our condensed consolidated balance sheet. These charges did not occur during the nine months ended September 30, 2013 or during the three months ended September 30, 2014. As previously disclosed, we had various commercial agreements with Qualcomm since 2004 for the purchase of phone equipment and accessories. This contract was canceled in March 2013, and we entered into an agreement with Qualcomm in July 2014 whereby we paid $0.1 million to Qualcomm for all remaining finished goods and raw materials held at Qualcomm. Our future business plans contemplate using Hughes-based technology in future product development; therefore, many of the raw materials held by Qualcomm are not likely to be used in the future production of additional inventory. As a result, we recorded a reduction in the value of inventory of $7.3 million during the second quarter of 2014. Marketing, General and Administrative Three and Nine Months Marketing, general and administrative expenses decreased $0.3 million, or approximately 3%, to $8.8 million for the three months ended September 30, 2014 from $9.1 million for the same period in 2013 and increased $2.2 million, or approximately 10%, to $24.8 million for the nine months ended September 30, 2014 from $22.6 million for the same period in 2013. The increase was due primarily to strategic investments in our business, including sales and marketing initiatives. Other items that contributed to the increase in expense included an increase in the fair value of stock compensation recognized for new stock options and stock awards granted in the previous 12 months. Depreciation, Amortization and Accretion Three and Nine Months Depreciation, amortization, and accretion expense decreased $2.7 million, or approximately 11%, to $21.0 million for the three months ended September 30, 2014 from $23.7 million for the same period in 2013 and increased $0.3 million, less than 1%, 38 -------------------------------------------------------------------------------- to $66.4 million for the nine months ended September 30, 2014 from $66.1 million for the same period in 2013. The decrease in depreciation expense from the third quarter of 2013 to the third quarter of 2014 relates primarily to our satellites launched during 2007 as these satellites are reaching the end of their estimated useful lives. The increase in depreciation expense during the nine months ended September 30, 2014 compared to the same period in 2013 relates primarily to additional depreciation expense for the second-generation satellites placed into service during the first eight months of 2013, with our last second-generation satellite placed into service in August 2013. This increase was offset partially by a decrease in depreciation expense related to our 2007 satellites as previously discussed. Other Income (Expense): Loss on Extinguishment of Debt Three and Nine Months For the three months and nine months ended September 30, 2014, we had loss on extinguishment of debt of $12.9 million and $39.6 million, respectively. For the three months and nine months ended September 30, 2013, we had loss on extinguishment of debt of $63.6 million and $110.8 million, respectively. Loss on extinguishment of debt during the third quarter of 2014 of $12.9 million was due to the conversion of 8.00% Notes Issued in 2013. Holders of approximately $6.8 million principal amount of our 8.00% Notes Issued in 2013 converted these notes into 11.4 million shares of common stock during the third quarter of 2014, resulting in a non-cash loss on extinguishment of debt of $12.9 million. The fair value of the shares issued to the holders exceeded the derivative liability and principal amount written off due to the conversions resulting in a loss on extinguishment of debt. Loss on extinguishment of debt during the second quarter of 2014 of $16.5 million was due to the conversion of our 8.00% Notes Issued in 2009 and a portion of our 8.00% Notes Issued in 2013. On April 15, 2014 we met the condition for automatic conversion of our 8.00% Notes Issued in 2009. As a result of this automatic conversion and other conversions prior to April 15, 2014, the remaining principal amount of 8.00% Notes Issued in 2009 converted into shares of common stock resulting in a non-cash gain on extinguishment of debt of $3.9 million during the second quarter of 2014. The derivative liability and principal amount written off exceeded the fair value of shares issued to the holders upon conversion resulting in a gain on extinguishment of debt. Additionally, holders of approximately $10.5 million principal amount of our 8.00% Notes Issued in 2013 converted them into 18.6 million shares of common stock during the second quarter of 2014, resulting in a non-cash loss on extinguishment of debt of $20.4 million. The fair value of the shares issued to the holders exceeded the derivative liability and principal amount written off due to the conversions resulting in a loss on extinguishment of debt. Loss on extinguishment of debt recorded during the first quarter of 2014 of $10.2 million was due to the conversion during that quarter of certain of 8.00% Notes Issued in 2009 and 8.00% Notes Issued in 2013. Approximately $8.8 million principal amount of our 8.00% Notes Issued in 2009 were converted in the first quarter of 2013, resulting in a non-cash gain on extinguishment of debt of $0.4 million. The derivative liability and principal amount written off exceeded the fair value of shares issued to the holders upon conversion resulting in a gain on extinguishment of debt. Additionally, pursuant to the terms of the indenture for the 8.00% Notes Issued in 2013, approximately 15%, or $7.0 million, of the principal amount of 8.00% Notes Issued in 2013 converted on March 20, 2014, resulting in a non-cash loss on extinguishment of debt of $10.5 million. The fair value of the shares issued to the holders exceeded the derivative liability and principal amount written off due to the conversions resulting in a loss on extinguishment of debt. Loss on extinguishment of debt during the third quarter of 2013 was due to the Amended and Restated Loan Agreement with Thermo executed in July 2013. As a result of the amendment and restatement, we recorded a loss on extinguishment of debt of $66.1 million in the third quarter of 2013. The fair value of the shares issued to the holders exceeded the derivative liability and principal amount written off due to the conversions resulting in a loss on extinguishment of debt. Additionally, approximately 12.9% of the outstanding principal amount of 8.00% Notes Issued in 2013 was converted on July 19, 2013. As a result of this conversion, we recorded a gain on extinguishment of debt of approximately $2.5 million in the third quarter of 2013. The derivative liability and principal amount written off exceeded the fair value of shares issued to the holders upon conversion resulting in a gain on extinguishment of debt. Loss on extinguishment of debt during the second quarter of 2013 was due to the Exchange Agreement that we entered into in May 2013 with the holders of approximately 91.5% of our 5.75% Notes. The Exchanging Note Holders received a combination of cash, shares of our common stock and 8.00% Notes Issued in 2013. We redeemed the remaining 5.75% Notes for cash in an amount equal to their outstanding principal amount. As a result of the exchange and redemption, we recorded a loss on extinguishment of debt of approximately $47.2 million in the second quarter of 2013, representing the difference between the net 39 -------------------------------------------------------------------------------- carrying amount of the old 5.75% Notes and the fair value of consideration given in the exchange (including the new 8.00% Notes Issued in 2013, cash payments to both Exchanging and non-Exchanging Note Holders, equity issued to the Exchanging Note Holders and other fees incurred for the exchange). Loss on Equity Issuance Three and Nine Months For the three months and nine months ended September 30, 2013, we had loss on equity issuances of $2.7 million and $16.7 million, respectively. Similar charges did not occur in 2014. In May and October 2013, we entered into Common Stock Purchase Agreements with Thermo. As a result of issuing stock under these agreements during the three and nine months ended September 30, 2013, we recognized $2.4 million and $16.4 million, respectively, of non-cash losses on the sale of shares representing the difference between the sale price of our common stock sold to Thermo and its fair value on the date of each sale (measured as the closing stock price on the date of each sale). In July 2013, a holder of our 5.0% Warrants exercised warrants in a net share exercise. The fair value of the common stock issued with respect to this exercise was recorded as a loss on shares issued of $0.3 million, representing the fair value of the stock issued on the date the warrant was exercised. Interest Income and Expense Three and Nine Months Interest income and expense, net, fluctuated by $7.8 million to an expense of $9.1 million for the three months ended September 30, 2014 from an expense of $16.9 million for the same period in 2013 and fluctuated by $6.0 million to an expense of $33.9 million for the nine months ended September 30, 2014 from an expense of $39.9 million for the same period in 2013. During the three and nine months ended September 30, 2013, certain holders of our 5% Notes converted approximately $7.9 million and $16.5 million principal amount of Notes, respectively. These conversions resulted in the recognition of approximately $6.0 million and $12.5 million, respectively, in interest expense for the period. Similar charges did not occur in 2014. Due to a decrease in the outstanding debt balance during the three and nine months ended September 30, 2014 compared to the same periods in 2013, which was driven primarily by conversions of our various convertible notes, interest expense has generally decreased related to certain debt instruments. As discussed in Note 3, this conversion activity has included the remaining 5% Notes in November 2013, the remaining 8.00% Notes Issued in 2009 in April 2014, and a portion of the 8.00% Notes Issued in 2013 at various dates throughout 2013 and 2014. During the second quarter of 2014, holders of a portion of our 8.00% Notes Issued in 2013 converted them into common stock. Beginning on May 20, 2014, the first anniversary of the issuance of the 8.00% Notes Issued in 2013, the holders have a right to receive make-whole interest payments upon conversion. As a result of conversions in the second quarter of 2014, we recorded approximately $3.0 million of additional interest expense due to make-whole interest payments made upon conversion. Excluding these isolated items, a reduction in our capitalized interest due to the decline in our construction in progress balance has increased interest expense. As we placed satellites into service, our construction in progress balance related to our second-generation satellites decreased, which reduced the amount of interest we can capitalize under GAAP. Derivative Gain (Loss) Three and Nine Months Derivative gain (loss) fluctuated by $264.5 million to a gain of $167.0 million for the three months ended September 30, 2014 compared to a loss of $97.5 million for the same period in 2013 and by $291.8 million to a loss of $418.7 million for the nine months ended September 30, 2014 compared to a loss of $126.9 million for the same period in 2013. We recognize gains or losses due to the change in the value of certain embedded features within our debt instruments that require standalone derivative accounting. During 2014, these gains and losses were due primarily to significant movements in our stock price as well as other inputs used in our valuation models. A fluctuation in our stock price is the most significant driver for 40 -------------------------------------------------------------------------------- the change in value of these derivative instruments. See Note 5 to our condensed consolidated financial statements for further discussion of the impact of stock price on the fair value of derivatives. Other Three and Nine Months Other income (expense) fluctuated by $4.1 million to income of $2.6 million for the three months ended September 30, 2014 from an expense of $1.5 million for the same period in 2013 and fluctuated by $3.3 million to income of $2.2 million for the nine months ended September 30, 2014 from an expense of $1.1 million for the same period in 2013. Changes in other income (expense) are due primarily to foreign currency gains and losses recognized during the respective periods. Furthermore, as previously discussed, in May 2014 Hughes exercised its right to receive the pre-payment of certain payment milestones in the form of our common stock at a 7% discount to market value in lieu of cash. In valuing the shares, we recorded a non-cash loss of approximately $0.7 million in other expense in our condensed consolidated statement of operations during the second quarter of 2014. Liquidity and Capital Resources Our principal liquidity requirements include paying remaining amounts outstanding related to the deployment of our second-generation constellation, making improvements to our ground infrastructure, repaying our debt and funding our operating costs. Our principal sources of liquidity include cash on hand, cash flows from operations and funds available under the equity line agreement with Terrapin. See below for further discussion. Additionally, we have approximately $37.9 million in restricted cash which must be maintained through the term of the Facility Agreement and may be used to pay the final principal and interest payments under the Facility Agreement. Comparison of Cash Flows for the nine months ended September 30, 2014 and 2013 The following table shows our cash flows from operating, investing and financing activities for the nine months ended September 30, 2014 and 2013 (in thousands): Nine Months Ended September 30, September 30, 2014 2013 Net cash provided by operating activities $ 6,875 $ 2,334 Net cash used in investing activities (6,065 ) (30,615 ) Net cash provided by financing activities 9,139 23,042 Effect of exchange rate changes on cash (136 ) 90 Net increase (decrease) in cash and cash equivalents $ 9,813 $ (5,149 ) Cash Flows Provided by Operating Activities Net cash provided by operating activities during the nine months ended September 30, 2014 was $6.9 million compared to $2.3 million during the same period in 2013. We experienced favorable changes in operating assets and liabilities during the nine months ended September 30, 2014, which resulted in more cash provided by operating activities for the first nine months of 2014 than in the same period of 2013. Cash Flows Used in Investing Activities Cash used in investing activities was $6.1 million for the nine months ended September 30, 2014 compared to $30.6 million for the same period in 2013. The decrease in cash used in investing activities was due primarily to the decrease in payments related to our second-generation constellation. The decrease in cash used in the construction of our second-generation constellation was due to the satellites being deployed fully by August 2013. We expect to continue to incur capital expenditures throughout 2014 and in future years relating to capital expenditures to upgrade our gateways and other ground facilities. We also experienced a reduction in our restricted cash balance. During 2013, we drew $8.8 million in total of excess funds held in our debt service reserve account to pay launch related expenses. Cash Flows Provided by Financing Activities Net cash provided by financing activities for the nine months ended September 30, 2014 was primarily due to cash received as a result of warrant and stock option exercises. We continue to see increased stock option and warrant exercises as our stock 41 -------------------------------------------------------------------------------- price appreciates and these instruments are more valuable to the holders. The net cash provided by financing activities during the nine months ended September 30, 2013 was due primarily to transactions related to our debt instruments and equity commitments. In May 2013, we exchanged our 5.75% Notes for new 8.00% Notes Issued in 2013. In connection with this exchange, we paid $20.0 million in cash as a reduction of principal outstanding and we received $51.5 million from Thermo pursuant to the Consent Agreement (See Note 3 for further discussion). We also made payments in the third quarter of 2013 for financing costs related to the exchange of the 5.75% Notes and the amendment of our Facility Agreement, which occurred in August 2013. Cash Position and Indebtedness As of September 30, 2014, we held cash and cash equivalents of $27.2 million, and $24.0 million was available under the equity line agreement with Terrapin. Additionally, we have approximately $37.9 million in restricted cash which must be maintained through the term of the Facility Agreement and may be used to pay the final principal and interest payments under the Facility Agreement. As of December 31, 2013, we held cash and cash equivalents of $17.4 million and $24.0 million was available under the equity line agreement with Terrapin. The carrying amount of the current portion of our long-term debt outstanding was $7.3 million and $4.0 million at September 30, 2014 and December 31, 2013, respectively. The current portion of our long-term debt outstanding at each of these periods represents scheduled principal payments under our Facility Agreement to occur in the next twelve months. See Note 3 to the condensed consolidated financial statements for further discussion. Facility Agreement We have a $586.3 million senior secured credit facility agreement (the "Facility Agreement") that, as described below, was amended and restated effective in August 2013 and is scheduled to mature in December 2022. Semi-annual principal repayments are scheduled to begin in December 2014. The facility bears interest at a floating LIBOR rate plus 2.75% through June 2017, increasing by an additional 0.5% each year to a maximum rate of LIBOR plus 5.75%. Ninety-five percent of our obligations under the Facility Agreement are guaranteed by COFACE, the French export credit agency. Our obligations under the Facility Agreement are guaranteed on a senior secured basis by all of our domestic subsidiaries and are secured by a first priority lien on substantially all of the assets of us and our domestic subsidiaries (other than their FCC licenses), including patents and trademarks, 100% of the equity of our domestic subsidiaries and 65% of the equity of certain foreign subsidiaries. The Facility Agreement contains customary events of default and requires that we satisfy various financial and nonfinancial covenants. We were in compliance with all covenants as of September 30, 2014. The Facility Agreement requires the Company to maintain a total of $37.9 million in a debt service reserve account. The use of the funds in this account is restricted to making principal and interest payments under the Facility Agreement. As of September 30, 2014, the balance in the debt service reserve account was $37.9 million and classified as restricted cash. On July 31, 2013, we entered into the GARA with Thermo, our domestic subsidiaries (the "Subsidiary Guarantors"), the Lenders and BNP Paribas as the security agent and COFACE Agent, providing for the amendment and restatement of our Facility Agreement and certain related credit documents. The GARA became effective on August 22, 2013 and, among other things, waived all of our existing defaults under the Facility Agreement and restructured the financial covenants. The Facility Agreement requires that: • We not exceed maximum capital expenditures of $42.3 million for the full year 2014, $18.8 million for the full year 2015, $13.2 million for the full year 2016 and $15.0 million for each year thereafter. Pursuant to the terms of the Facility Agreement, if, in any relevant period, the capital expenditures are less than the permitted amount for that relevant period, a permitted excess amount may be added to the maximum amount of capital expenditures in the next period; • We maintain at all times a minimum liquidity balance of $4.0 million; • We achieve for each period the following minimum adjusted consolidated EBITDA (as defined in the Facility Agreement): 42-------------------------------------------------------------------------------- Period Minimum Amount 7/1/14-12/31/14 $ 14.1 million 1/1/15-6/30/15 $ 17.0 million 7/1/15-12/31/15 $ 23.5 million • Beginning in July 2013, we maintain a minimum debt service coverage ratio of 1.00:1; and • We maintain a maximum net debt to adjusted consolidated EBITDA ratio of 62.00:1, gradually decreasing to 2.50:1 through 2022. Pursuant to the terms of the Facility Agreement, we have the ability to cure noncompliance with financial covenants with equity contributions through June 2017. See Note 3 to our condensed consolidated financial statements for further discussion of the Facility Agreement. The Consent Agreement and the Common Stock Purchase (and Option) Agreement The Consent Agreement On May 20, 2013, we entered into the Consent Agreement with Thermo. Pursuant to the Consent Agreement, Thermo agreed that it would make, or arrange for third parties to make, cash contributions to us in exchange for equity, subordinated convertible debt or other equity-linked securities. In accordance with the terms of the Common Stock Purchase Agreement and the Common Stock Purchase and Option Agreement discussed below, as of December 31, 2013, Thermo contributed a total of $65.0 million to us in exchange for 171.9 million shares of our nonvoting common stock. As of September 30, 2014, Thermo had fulfilled its obligations under the agreements. The Common Stock Purchase Agreement On May 20, 2013, we entered into a Common Stock Purchase Agreement with Thermo to price certain equity purchases made by Thermo pursuant to the Consent Agreement. Pursuant to the Consent Agreement, Thermo purchased 78,125,000 shares of our common stock for $25.0 million ($0.32 per share). Thermo also agreed to purchase additional shares of our common stock at $0.32 per share as and when required to fulfill its equity commitment described above to maintain our consolidated unrestricted cash balance at not less than $4.0 million until the earlier of July 31, 2013 and the closing of a restructuring of the Facility Agreement. In furtherance thereof, in May 2013, Thermo purchased an additional 15,625,000 shares of our common stock for an aggregate purchase price of $5.0 million. In June 2013, Thermo purchased an additional 28,125,000 shares of our common stock for an aggregate purchase price of $9.0 million. Pursuant to their commitment, Thermo invested $6.0 million in July 2013 and $6.5 million in August 2013 on terms determined by a special committee of our board of directors consisting solely of unaffiliated directors as described below. Pursuant to the Common Stock Purchase Agreement, the shares of common stock are intended to be shares of non-voting common stock. As of May 20, 2013, our certificate of incorporation did not provide for any authorized but unissued shares of non-voting common stock. On July 8, 2013, we filed an amendment to our certificate of incorporation increasing the number of authorized shares of non-voting common stock, and we subsequently delivered Thermo shares of our non-voting common stock. The terms of the Common Stock Purchase Agreement were approved by a special committee of our board of directors consisting solely of our unaffiliated directors. The committee, which was represented by independent legal counsel, determined that the terms of the Common Stock Purchase Agreement were fair to and in the best interests of us and our shareholders. The Common Stock Purchase and Option Agreement On October 14, 2013, we entered into a Common Stock Purchase and Option Agreement with Thermo to price certain previously made and anticipated equity purchases made by Thermo pursuant to the Consent Agreement. Pursuant to the terms of the Common Stock Purchase and Option Agreement, Thermo agreed to purchase 11,538,461 shares of our non-voting common stock at a purchase price of $0.52 per share in exchange for $6.0 million invested in July 2013 and an additional 12,500,000 shares of our common stock in exchange for $6.5 million funded in August 2013. During the third quarter of 2013, Thermo purchased 43 -------------------------------------------------------------------------------- approximately 24.0 million shares of our common stock pursuant to the terms of the Common Stock Purchase and Option Agreement for an aggregate purchase price of $12.5 million. The Common Stock Purchase and Option Agreement also granted us a First Option and a Second Option, as defined in the agreement, whereby we could require Thermo to purchase an additional $13.5 million of our common stock at a fixed price regardless of the underlying stock price when such stock was purchased and an additional $11.5 million of nonvoting common stock, as and when requested to do so by the special committee through November 28, 2013 and December 31, 2013, respectively. The First Option provided we could sell up to $13.5 million in shares to Thermo at a purchase price of $0.52 per share. The Second Option provided we could sell up to $11.5 million in shares to Thermo at a price equal to 85% of the average closing price of our voting common stock during the ten trading days immediately preceding the date of the special committee's notice of exercise of the option. In November 2013, the special committee and Thermo amended the Common Stock Purchase and Option Agreement to defer the expiration date of the Second Option to March 31, 2014. The Second Option under the Common Stock Purchase and Option Agreement was not exercised and therefore has expired. In November 2013, we exercised the First Option, pursuant to which on December 27, 2013 we sold Thermo 26.0 million shares of our common stock for a total purchase price of $13.5 million. The terms of the Common Stock Purchase and Option Agreement were approved by a special committee of our board of directors consisting solely of our unaffiliated directors. The Committee, which was represented by independent legal counsel, determined that the terms of the Common Stock Purchase and Option Agreement were fair to and in the best interests of us and our shareholders. See Note 3 to our condensed consolidated financial statements for further discussion of the Consent Agreement and the Common Stock Purchase and Option Agreement. Terrapin Common Stock Purchase Agreement On December 28, 2012 we entered into a Common Stock Purchase Agreement with Terrapin pursuant to which we may, subject to certain conditions, require Terrapin to purchase up to $30.0 million of shares of our voting common stock over the 24-month term following the effective date of a resale registration statement, which became effective on August 2, 2013. This type of arrangement is sometimes referred to as a committed equity line financing facility. From time to time over the 24-month term following the effectiveness of the registration statement, and in our sole discretion, we may present Terrapin with up to 36 draw down notices requiring Terrapin to purchase a specified dollar amount of shares of our voting common stock. We will not sell Terrapin a number of shares of voting common stock which, when aggregated with all other shares of voting common stock then beneficially owned by Terrapin and its affiliates, would result in the beneficial ownership by Terrapin or any of its affiliates of more than 9.9% of our then issued and outstanding shares of voting common stock. Since entering into this agreement, Terrapin has purchased a total of 6.1 million shares of voting common stock at a purchase price of $6.0 million. See Note 3 to our condensed consolidated financial statements for further discussion of the Terrapin agreement. Capital Expenditures We have entered into various contractual agreements related to the procurement and deployment of our second-generation network, as summarized below. The discussion below is based on our current contractual obligations to these contractors. Second-Generation Satellites We have a contract with Thales for the construction of the second-generation low-earth orbit satellites and related services. We successfully completed the launches of our second-generation satellites. We have also incurred additional costs for certain related services, a portion of which is still owed to Thales. Discussions between us and Thales are ongoing regarding the remaining amounts owed by both parties under the contracts. We included these amounts in "Other Capital Expenditures and Capitalized Labor" in the table below. We have a contract with Arianespace for the launch of these second-generation satellites and certain pre and post-launch services. We have also incurred additional obligations to Arianespace for launch delays. We included these amounts in "Other Capital Expenditures and Capitalized Labor" in the table below. 44 -------------------------------------------------------------------------------- The amount of capital expenditures as of September 30, 2014 and estimated future capital expenditures (excluding capitalized interest) related to the construction and deployment of the satellites for our second-generation constellation and the launch services contract is presented in the table below (in thousands): Payments through Estimated Future Payments September 30, Remaining Capital Expenditures 2014 2014 2015 2016 Thereafter Total Thales Second-Generation Satellites $ 622,690 - $ - $ - $ - $ 622,690 Arianespace Launch Services 216,000 - - - - 216,000 Launch Insurance 39,903 - - - - 39,903 Other Capital Expenditures and Capitalized Labor 54,631 5,851 - - - 60,482 Total $ 933,224 $ 5,851 $ - $ - $ - $ 939,075 As of September 30, 2014, we had recorded $5.9 million of these capital expenditures in accounts payable and accrued expenses. Next-Generation Gateways and Other Ground Facilities In May 2008, we entered into an agreement with Hughes to design, supply and implement (a) RAN ground network equipment and software upgrades for installation at a number of our satellite gateway ground stations and (b) satellite interface chips to be used in various next-generation Globalstar devices. In May 2014, we entered into an agreement with Hughes to incorporate changes to the scope of work for the RAN and UTS being supplied to us. The additional work increases the total contract value by $3.8 million. We also entered into a letter agreement with Hughes whereby Hughes was granted the option to accept the pre-payment of certain payment milestones in the form of our common stock at a 7% discount in lieu of cash. We issued the stock to Hughes on July 1, 2014. The payment milestones totaled $9.9 million. In valuing the shares, we recorded a loss of approximately $0.7 million in our condensed consolidated statement of operations during the second quarter of 2014. In October 2014, the Company and Hughes formally amended the contract to include the revised scope of work agreed to in the May letter agreement. The amendment also adjusted the schedule of the program and the remaining payment milestones and program milestones to incorporate the agreed upon changes. The additional $3.8 million in work agreed to in May is now reflected in the contract through this amendment. In October 2008, we signed an agreement with Ericsson, a leading global provider of technology and services to telecom operators. Ericsson will work with us to develop, implement and maintain a ground interface, or core network, system that will be installed at a number of our satellite gateway ground stations. In July 2014, we entered into an amended and restated agreement with Ericsson for our core network system specifying the remaining contract value of $25.4 million for the work and a new milestone schedule to reflect the new program timeline. The following table presents the amount of actual and contractual capital expenditures (excluding capitalized interest) related to the construction of the ground component and related costs (in thousands) and includes both payments made in cash and stock: Payments through Estimated Future Payments September 30, Remaining Capital Expenditures 2014 2014 2015 2016 Thereafter Total Hughes second-generation ground component (including research and development expense) $ 93,090 $ 1,569 $ 9,744 $ 1,610 $ - $ 106,013 Ericsson ground network 6,049 6,774 13,676 5,643 - 32,142 Other Capital Expenditures 1,583 - - - - 1,583 Total $ 100,722 $ 8,343 $ 23,420 $ 7,253 $ - $ 139,738 As of September 30, 2014, we recorded $2.6 million of these capital expenditures in accounts payable. 45 -------------------------------------------------------------------------------- Liquidity We have a plan to continue to improve operations, maintain our second-generation constellation, and upgrade our next-generation ground infrastructure. We must execute our business plan, which assumes the funding of the financial arrangements with Terrapin. Uncertainties remain related to the timing of this funding. Completion of the foregoing actions is not solely within our control and we may be unable to successfully complete one or all of these actions. Satisfying our principal long-term liquidity needs depends upon maintaining service coverage levels and continuing to make improvements to our ground infrastructure, funding our working capital and cash operating needs, including any growth in our business, and funding repayment of our indebtedness, both principal and interest, when due. We expect sources of long-term liquidity to include debt and equity financings which have not yet been arranged. We cannot assure you that we can obtain sufficient additional financing on acceptable terms, if at all. We also expect cash flows from operations to be a source of long-term liquidity now that we have fully deployed our second-generation satellite constellation. Additionally, we have approximately $37.9 million in restricted cash which must be maintained through the term of the Facility Agreement and can be used to pay the final principal and interest payments under the Facility Agreement. Contractual Obligations and Commitments There have been no other significant changes to our contractual obligations and commitments since December 31, 2013 except those discussed above. Off-Balance Sheet Transactions We have no material off-balance sheet transactions. |